TANDEM DIABETES CARE INC

The Company has prepared the accompanying unaudited condensed consolidated financial statements in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP) for interim financial information and pursuant to the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and disclosures required by U.S. GAAP for complete financial statements. In the opinion of management, all adjustments which are of a normal and recurring nature, considered necessary for a fair presentation of the financial information contained herein, have been included.

Our leases consist primarily of operating leases for general office space, laboratory, manufacturing, and warehouse facilities, and equipment. Leases with an initial term of 12 months or less are not recorded on the balance sheet. We recognize lease expense for these leases on a straight-line basis over the lease term. Because our leases do not provide an implicit interest rate, we use our incremental borrowing rate based on the information available at the lease commencement date in determining the present value of future lease payments. We used the incremental borrowing rate on January 1, 2019, for operating leases that commenced prior to that date. For lease agreements entered into or reassessed after the adoption of ASC 842, we combine lease and non-lease components.

Certain leases include an option to renew, with renewal terms that can extend the lease term for additional periods. The exercise of lease renewal options is at our sole discretion. The depreciable life of assets and leasehold improvements are limited by the expected lease term, unless there is a transfer of title or purchase option that is reasonably certain to be exercised.

In the three months ended March 31, 2019, the Company granted stock options to purchase 1,318,180 shares of common stock, which are expressly subject to and conditioned upon the approval by our stockholders of an increase in the number of shares of common stock reserved for issuance under our 2013 Plan prior to December 31, 2019. If our stockholders do not approve this increase prior to December 31, 2019, then such option awards will automatically terminate. No stock-based compensation expense has been recognized for these contingent stock option grants.

The increase in our gross profit for the three months ended March 31, 2019 was primarily the result of the 232% increase in pump shipments. Gross profit and gross margin also increased as a result of per unit manufacturing cost improvements from higher production volumes and overall manufacturing efficiencies gained from our new manufacturing facility which became fully operational at the beginning of 2018, partially offset by an increase in costs associated with excess and obsolete inventories. Additionally, we recognized a notable increase in non-cash stock-based compensation expense allocated to cost of sales of $1.1 million in the three months ended March 31, 2019 compared to $0.1 million in same period of 2018, due to the valuation of certain 2018 and 2019 employee stock option grants and the significant increase in our stock price. As a whole, other non-manufacturing costs, which primarily consist of warranty, freight and training costs, also reflected improvement on a per unit basis.

Operating activities. Net cash used in operating activities was $4.1 million for the three months ended March 31, 2019, compared to $12.3 million for the same period in 2018. The decrease in net cash used in operating activities was primarily associated with a reduction in net loss when adjusted for non-cash expenses, particularly the change in the fair value of Series A and Series B warrants and increased stock-based compensation expense, offset by net changes in working capital. Our operating loss for the three months ended March 31, 2018 included $2.4 million in cash paid for interest. Working capital changes primarily consisted of a reduction in employee related liabilities for annual incentive-compensation payments and an increase in inventories, offset by an increase in accounts payable mainly related to the purchase of inventories. Accounts receivable decreased to $33.0 million at March 31, 2019 from $35.2 million at December 31, 2018, as a result of slightly lower sales in the first quarter of 2019 as compared to the fourth quarter of 2018. Inventories increased to $22.8 million at March 31, 2019 from $19.9 million at December 31, 2018, due to our strategic plan to rebuild inventory levels following the strong sales demand in the fourth quarter of 2018.