Results
of Operations
Revenues
Revenue
for the three and nine month periods ended March 31, 2018 and 2017 are summarized in the table below (dollar amounts
in thousands).
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Three
Months Ended March 31,
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Nine
Months Ended March 31,
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2018
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2017
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Change
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2018
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2017
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Change
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Total
Revenue
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$
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7,091
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$
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6,670
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$
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421
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|
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6.3
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%
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$
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20,457
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$
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18,587
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|
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$
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1,870
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|
|
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10.1
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%
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Home
Care Revenue
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6,465
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|
|
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6,078
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387
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|
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6.4
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%
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|
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18,951
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|
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16,712
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2,239
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13.4
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%
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Institutional
Revenue
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|
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506
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|
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437
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|
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69
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|
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15.8
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%
|
|
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1,120
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|
|
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1,388
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|
|
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(268
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)
|
|
|
(19.3
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%
)
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International
Revenue
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120
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|
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155
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(35
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)
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(22.6
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%
)
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386
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|
|
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487
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|
|
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(101
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)
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|
|
(20.7
|
%
)
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Home
Care Revenue.
Home care revenue for the three
months ended March 31, 2018 was approximately $6,465,000, an increase of approximately $387,000 compared to the same
period in fiscal 2017, or 6.4%. The increase in home care revenue for the three months ended March 31, 2018 was primarily
driven by a higher average selling price per device, which was partially offset by a lower level of referrals and approvals as
compared to the prior year period.
For
the nine months ended March 31, 2018, home care revenue was approximately $18,951,000, an increase of approximately
$2,239,000, or 13.4%, compared to the same period in fiscal 2017. During the nine months ended March 31, 2017, home
care revenue was negatively impacted by the retroactive repayment of previously collected and recognized revenue to a state Medicaid
program totaling approximately $212,000. The repayment resulted from the state Medicaid program’s reinterpretation of its
reimbursement process and a reduction in its allowable payments. We believe that the repayment was a one-time event and is not
reflective of other state Medicaid reimbursement processes.
After
taking into consideration the negative impact of the retroactive repayment during the prior year, the increase in home care revenue
for the nine months ended March 31, 2018 was primarily driven by greater number of approvals, and a higher average selling
price per device as compared to the prior year.
Institutional
Revenue.
Institutional revenue for the three
months ended March 31, 2018 was approximately $506,000, representing an increase of approximately $69,000, or 15.8%,
compared to the same period in fiscal 2017. Institutional revenue for the nine months ended March 31, 2018 was approximately
$1,120,000, representing a decrease of approximately $268,000, or 19.3%, compared to the same period in fiscal 2017. The increase
in institutional revenue for the three months ended March 31, 2018 was due to an increase in the number of units sold
partially offset by a lower selling price and decrease in the number of single patient use garments sold compared to the same
period in the prior fiscal year. The decrease in revenue for the nine months ended March 31, 2018 was due to a decrease
in the number of units and single patient use garments sold compared to the same period in the prior year. Institutional revenue
includes sales to distributors, group purchasing organization (GPO) members and other institutions.
International
Revenue.
International revenue for the three
months ended March 31, 2018 was approximately $120,000, representing a decrease of approximately $35,000, or 22.6%,
compared to the same period in fiscal 2017. For the nine months ended March 31, 2018, international revenue was approximately
$386,000, a decrease of approximately $101,000, or 20.7%, from the same period in fiscal 2017. International sales are affected
by the timing of distributor purchases that can cause significant fluctuations in reported revenue on a quarterly basis.
Gross
profit
Gross
profit increased to approximately $5,599,000, or 79.0% of net revenues, for the three months ended March 31, 2018, from
approximately $5,313,000, or 79.7% of net revenues, in the same period in fiscal 2017. Gross profit increased to approximately
$16,123,000, or 78.8% of net revenues, for the nine months ended March 31, 2018, from approximately $14,567,000, or
78.4% of net revenues, in the same period in fiscal 2017. The increase in gross profit for the three and nine months ended March 31, 2018
was primarily related to increases in domestic home care revenue. The increase in gross profit as a percentage of net revenue
was driven by a higher level of net revenue recognized per new device placement as compared to the same period in the prior year,
which was partially offset by the additional costs to manufacture the SmartVest SQL with SmartVest Connect ™ wireless technology.
Additionally, gross profit for the nine months ended March 31, 2017 was negatively impacted by the retroactive repayment
of previously collected and recognized revenue to a state Medicaid program totaling approximately $212,000.
Operating
expenses
Selling,
general and administrative expenses.
Selling,
general and administrative (SG&A) expenses were approximately $5,072,000 and $14,535,000 for the three and
nine months ended March 31, 2018, respectively, representing an increase of approximately $877,000 and $2,556,000, or
20.9% and 21.3%, respectively, compared to the same periods in the prior year.
Payroll
and compensation-related expenses were approximately $2,942,000 and $8,340,000 for the three and nine months ended March 31, 2018,
respectively, representing an increase of approximately $434,000 and $1,445,000, or 17.3% and 21.0%, respectively, compared to
the same periods in the prior year. The increases in the current year periods were due to additional employees in sales, annual
salary increases, higher share-based equity compensation expense, and additional sales incentives on higher revenue accruals.
Professional
fees for the three and nine months ended
March 31, 2018 were approximately
$511,000 and $1,527,000, respectively, an increase of approximately $147,000 and $491,000, or 40.4% and 47.4%, respectively, compared
to the same periods in the prior year. These fees are primarily for services related to legal costs, shareowner services and reporting
requirements, general and administrative temporary labor, information technology (“IT”) security and backup, and consulting
fees for sales training. The increase in professional fees was primarily due to increases in general and administrative temporary
labor, IT, consulting fees and legal costs.
Recruiting
fees for the three and nine months ended March 31, 2018 were approximately $117,000 and $414,000, respectively, an increase
of approximately $75,000 and $214,000, or 178.6% and 107.0%, respectively, compared to the same period in the prior year. The
increase in recruiting fees was due primarily to adding more employees in sales and administrative roles as compared to the prior
year.
Travel,
meals and entertainment expenses were approximately $567,000 and $1,581,000 for the three and nine months ended March 31, 2018,
respectively, representing an increase of approximately $104,000 and $263,000, or 22.5% and 20.0%, respectively, compared to the
same periods in the prior year. The increase was due primarily to additional sales personnel.
SG&A
expenses included a loss on the abandonment of certain domestic and foreign patents with net values of approximately $111,000
during the nine months ended March 31, 2017. No losses on the abandonment of patents were recognized during the three
months ended March 31, 2018, the nine months ended March 31, 2018, or the three months ended March 31, 2017.
Research
and development expenses.
Research and development
(R&D) expenses were approximately $43,000 and $170,000 for the three and nine months ended March 31, 2018,
respectively, representing a decrease of approximately $38,000 and $362,000, respectively, compared to the same periods in the
prior year. R&D expenses for the three and nine months ended March 31, 2018 were 0.6% and 0.8% of revenue, respectively,
compared to 1.2% and 2.9% of revenue for the same periods in the prior year. During the fiscal year ended June 30, 2016,
we began developing SmartVest Connect, a new wireless connectivity feature for our HFCWO device which allows data connection between
physicians and patients. We believe SmartVest Connect will strengthen our patient and clinician partnerships, leading to greater
therapy adherence and improved quality of life for individuals with compromised pulmonary function. We launched SmartVest Connect
in June 2017. As a percentage of net revenues, we expect spending on R&D expenses to remain consistent through the remainder
of our fiscal 2018. Certain expenses related to our innovation investments are not always captured in R&D expenses. These
expenses may be included in cost of sales as in the case of depreciation of tooling, or for SG&A, in the case of professional
fees or higher labor expenses, as we improve our internal processes or enhance our customer service.
Interest
income (expense), net
Net
interest income was approximately $1,000 for the three months ended March 31, 2018 while net interest expense was $8,000
for the nine months ended March 31, 2018, compared to $9,000 and $41,000 of net interest expense in the comparable prior
year periods. An increase in interest income, a lower effective interest rate on outstanding borrowings, lower deferred financing
costs and a lower level of debt as compared to the prior year are the key factors driving the year-over-year comparability in
net interest.
Income
tax expense
Income
tax expense was estimated at approximately $173,000 and $626,000 and the effective tax rates were 35.6% and 44.4%, respectively,
for the three and nine months ended March 31, 2018. Estimated income tax expense for the nine months ended March 31, 2018
includes a discrete deferred tax expense of approximately $160,000 as a result of re-measuring certain deferred tax assets and
liabilities based on the rates at which they are expected to reverse in future periods under the Tax Cuts and Jobs Act (the Tax
Act) that was enacted by the U.S. federal government on December 22, 2017. Additionally, a discrete tax
benefit of approximately $27,000 was recognized during the nine months ended March 31, 2018 as a result of greater federal
and state R&D tax credits than what was originally estimated in our tax provision for fiscal 2017. The net impact of these
discrete events increased the effective tax rate by 9.4% during the nine months ended March 31, 2018.
Income
tax expense was estimated at approximately $380,000 and $731,000 and the effective tax rates were 37.0% and 36.3%, respectively,
for the three and nine months ended March 31, 2017. Estimated income tax expense for the three and nine months ended
March 31, 2017 includes recognized tax benefits of approximately $10,000 and $32,000, respectively, as a result of the
lapse of the statute of limitations on uncertain tax positions, which reduced the effective tax rate by 1.0% and 1.6% for those
respective periods.
Net
income
Net
income for the three and nine months ended March 31, 2018 was approximately $313,000 and $783,000, respectively, compared
to net income of approximately $648,000 and $1,283,000 for the same periods in the prior year. The year-over-year decrease in
net income was driven primarily by higher SG&A expenses related to hiring additional new employees, which was partially offset
by an increase in gross profit driven by higher revenue and lower R&D expenses as compared to the prior year. Additionally,
net income for the nine months ended March 31, 2018 was affected by discrete tax events, including the $160,000 re-measurement
of certain deferred tax assets and liabilities.
Liquidity
and Capital Resources
Cash
Flows and Sources of Liquidity
Cash
Flows from Operating Activities
For
the nine months ended March 31, 2018, net cash provided by operating activities was approximately $1,872,000. Cash flows
provided by operating activities consisted of net income of approximately $783,000, non-cash expenses of $1,233,000 and a decrease
in inventory of $373,000. These cash flows from operating activities were partially offset by a decrease in taxes payable of $157,000,
an increase in accounts receivable of $125,000, an increase in taxes receivable of $91,000, an increase in prepaid expenses of
$90,000 and a decrease in accounts payable and accrued liabilities of $54,000.
For
the nine months ended March 31, 2017, net cash provided by operating activities was approximately $806,000. Cash flows
provided by operating activities consisted of approximately $1,283,000 of net income, non-cash expenses of $1,073,000, a decrease
in income taxes receivable of $193,000 and an increase in income taxes payable of $17,000. These cash flows from operating activities
were offset by an increase in accounts receivable of $1,322,000, a decrease of approximately $323,000 in accounts payable and
accrued liabilities and an increase in inventory of $66,000.
Cash
Flows from Investing Activities
For
the nine months ended March 31, 2018, cash used in investing activities was approximately $407,000. Cash used in investing
activities consisted of approximately $379,000 in expenditures for property and equipment and $28,000 in payments for patent costs.
For
the nine months ended March 31, 2017, cash used in investing activities was approximately $486,000. Cash used in investing
activities consisted of approximately $426,000 in expenditures for property and equipment and $60,000 in payments for patent costs.
The expenditures for property and equipment consisted primarily of costs associated with the development of software associated
with SmartVest Connect.
Cash
Flows from Financing Activities
For
the nine months ended March 31, 2018, cash provided by financing activities was approximately $24,000, which consisted
of $62,000 received from the exercise of options offset by principal payments on long-term debt of $38,000.
For
the nine months ended March 31, 2017, cash used in financing activities was approximately $41,000, which consisted of
principal payments on long-term debt of $36,000, and payments of deferred financing fees of $5,000.
Adequacy
of Capital Resources
Our
primary working capital requirements relate to adding employees to our sales force and support functions, continuing R&D efforts,
and supporting general corporate needs, including financing equipment purchases and other capital expenditures incurred in the
ordinary course of business. Based on our recent operational performance, we believe our working capital of approximately $16,174,000
as of March 31, 2018 and available borrowings under our existing credit facility will provide adequate liquidity for
the next year.
Effective
December 18, 2017, we renewed our credit facility, which provides us with a revolving line of credit and a term loan.
Interest on borrowings on the line of credit accrues at the prime rate less 0.25% and is payable monthly. The amount eligible
for borrowing on the line of credit is limited to the lesser of $2,500,000 or 57.00% of eligible accounts receivable, and the
line of credit expires on December 18, 2018, if not renewed. At March 31, 2018, the maximum $2,500,000 was
available under the line of credit and the applicable interest rate (the prime rate) was 4.75%. Payment obligations under the
line of credit are secured by a security interest in substantially all of our tangible and intangible assets.
In
connection with the credit facility, we also have a term loan, which had an outstanding principal balance of approximately $1,116,000
at March 31, 2018 and $1,154,000 as of June 30, 2017. The term loan was refinanced effective December 18, 2016,
reducing the interest rate from 5.00% to 3.88%. The unamortized debt issuance cost associated with this debt was approximately
$3,000 and $6,000 as of March 31, 2018 and June 30, 2017, respectively. The term loan bears interest at 3.88%,
with monthly payments of principal and interest of approximately $7,900 and a final payment of principal and interest of approximately
$1,085,000 due on the maturity date of December 18, 2018. Payment obligations under the term loan are secured by a mortgage
on our real property.
The
documents governing our line of credit and term loan contain certain financial and nonfinancial covenants that include a minimum
tangible net worth of not less than $10,125,000 and restrictions on our ability to incur certain additional indebtedness or pay
dividends. We were in compliance with these covenants as of March 31, 2018.
Any
failure to comply with these covenants in the future may result in an event of default, which if not cured or waived, could result
in the lender accelerating the maturity of our indebtedness, preventing access to additional funds under the line of credit and/or
term loan, requiring prepayment of outstanding indebtedness under either arrangement, or refusing to renew the line of credit.
If the maturity of the indebtedness is accelerated or the line of credit is not renewed, sufficient cash resources to satisfy
the debt obligations may not be available and we may not be able to continue operations as planned. The indebtedness under the
line of credit and term loan are secured by a security interest in substantially all of our tangible and intangible assets and
a mortgage on our real property, respectively. If we are unable to repay such indebtedness, the lender could foreclose on these
assets.
For
the nine months ended March 31, 2018 and 2017, we spent approximately $379,000 and $426,000, respectively, on property
and equipment. We currently expect to finance planned equipment purchases with cash flows from operations or borrowings under
our credit facility. We may need to incur additional debt if we have an unforeseen need for additional capital equipment or if
our operating performance does not generate adequate cash flows.
Off-Balance
Sheet Arrangements
As
of March 31, 2018, we had no off-balance sheet arrangements.
Cautionary
Note Regarding Forward-Looking Statements
Statements
contained in this Quarterly Report on Form 10-Q that are not statements of historical fact should be considered forward-looking
statements within the meaning of the safe harbor provisions of Section 27A of the Securities Act of 1933, as amended (the Securities
Act), and Section 21E of the Securities Exchange Act of 1934, as amended (the Exchange Act). Forward-looking
statements include, but are not limited to, statements regarding the following: our business strategy, including our intended
level of investment in R&D and marketing activities; our expectations with respect to earnings, gross margins and sales growth,
industry relationships, marketing strategies, distribution agreements with third parties and international sales; our business
strengths and competitive advantages; our plans and expectations with respect to international sales growth; our intent to retain
any earnings for use in operations rather than paying dividends; our expectation that our products will continue to qualify for
reimbursement and payment under government and private insurance programs; our intellectual property plans and practices; the
expected impact of applicable regulations on our business, including, but not limited to, the Tax Act; our beliefs about our manufacturing
processes; our expectations and beliefs with respect to our employees and our relationships with them; our belief that our current
facilities are adequate to support our growth plans; our expectations with respect to ongoing compliance with the terms of our
credit facility; our expectations regarding the ongoing availability of credit and our ability to renew our line of credit; the
expansion and availability of our SmartVest Connect technology; and our anticipated revenues, expenses, capital requirements and
liquidity. Words such as anticipate, believe, continue, could,
estimate, expect, goal, intend, may, ongoing,
plan, potential, project, should, target, will,
would, and similar expressions, including the negative of these terms, are intended to identify forward-looking
statements but are not the exclusive means of identifying such statements. Although we believe these forward-looking statements
are reasonable, they involve risks and uncertainties that may cause actual results to differ materially from those projected by
such statements. Such statements involve known and unknown risks, uncertainties and other factors that may cause our actual results
or our industry’s actual results, levels of activity, performance or achievements to be materially different from the information
expressed or implied by the forward-looking statements.
Factors
that could cause actual results to differ from those discussed in the forward-looking statements include, but are not limited
to:
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the
competitive nature of our market;
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changes
to Medicare, Medicaid, or private insurance reimbursement policies;
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changes
to health care laws;
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changes
affecting the medical device industry;
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our
need to maintain regulatory compliance and to gain future regulatory approvals and clearances;
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new
drug or pharmaceutical discoveries;
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general
economic and business conditions;
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our
ability to renew our line of credit or obtain additional credit as necessary;
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our
ability to protect and expand our intellectual property portfolio; and
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●
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the
risks associated with expansion into international markets.
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This
list of factors is not exhaustive, however, and these or other factors, many of which are outside of our control, could have a
material adverse effect on us and our results of operations. Therefore, you should consider these risk factors with caution and
form your own critical and independent conclusions about the likely effect of these risk factors on our future performance. Forward-looking
statements speak only as of the date on which the statements are made, and we undertake no obligation to update any forward-looking
statement for any reason, even if new information becomes available or other events occur in the future. You should carefully
review the disclosures and the risk factors described in this and other documents we file from time to time with the Securities
and Exchange Commission (the SEC), including our Annual Report on Form 10-K and subsequent reports we file with
the SEC. All forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety
by the cautionary statements set forth herein.