Item 1. Condensed Financial Statements
American Bio Medica Corporation
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ASSETS
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Current
assets
|
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|
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Cash and cash
equivalents
|
$
76,000
|
$
36,000
|
|
Accounts
receivable, net of allowance for doubtful accounts of $56,000 at
June 30, 2018 and $52,000 at December 31, 2017
|
512,000
|
348,000
|
|
Inventory, net of
allowance of $541,000 at June 30, 2018 and $500,000 at December 31,
2017
|
1,261,000
|
1,473,000
|
|
Prepaid expenses
and other current assets
|
33,000
|
97,000
|
|
Total current
assets
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1,882,000
|
1,954,000
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|
|
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Property, plant and
equipment, net
|
754,000
|
792,000
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Patents,
net
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119,000
|
109,000
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Other
assets
|
21,000
|
21,000
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Deferred finance
costs – line of credit, net
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0
|
15,000
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Total
assets
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$
2,776,000
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$
2,891,000
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LIABILITIES
AND STOCKHOLDERS’ EQUITY
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Current
liabilities
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Accounts
payable
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$
349,000
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$
374,000
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Accrued expenses
and other current liabilities
|
358,000
|
311,000
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Wages
payable
|
252,000
|
259,000
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Line of
credit
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596,000
|
446,000
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Current portion of
long-term debt
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237,000
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87,000
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Total current
liabilities
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1,792,000
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1,477,000
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Other
liabilities/debt
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13,000
|
19,000
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Long-term debt, net
of current portion and deferred finance costs
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733,000
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772,000
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Total
liabilities
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2,538,000
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2,268,000
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COMMITMENTS AND
CONTINGENCIES
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Stockholders'
equity:
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Preferred stock;
par value $.01 per share; 5,000,000 shares authorized, none issued
and outstanding at June 30, 2018 and December 31, 2017
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0
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0
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Common stock; par
value $.01 per share; 50,000,000 shares authorized; 29,966,554
issued and outstanding at June 30, 2018 and 29,782,770 issued and
outstanding as of December 31, 2017
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300,000
|
298,000
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Additional paid-in
capital
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21,196,000
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21,170,000
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Accumulated
deficit
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(21,258,000
)
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(20,845,000
)
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Total
stockholders’ equity
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238,000
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623,000
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Total liabilities
and stockholders’ equity
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$
2,776,000
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$
2,891,000
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The accompanying notes are an integral part of the condensed
financial statements
American Bio Medica Corporation
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Condensed Statements of Operations
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Net
sales
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$
2,110,000
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$
2,621,000
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Cost of goods
sold
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1,301,000
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1,491,000
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Gross
profit
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809,000
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1,130,000
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Operating
expenses:
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Research and
development
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44,000
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68,000
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Selling and
marketing
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310,000
|
372,000
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General and
administrative
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736,000
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778,000
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1,090,000
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1,218,000
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Operating
loss
|
(281,000
)
|
(88,000
)
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Other income /
(expense):
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Interest
expense
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(146,000
)
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(134,000
)
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Other income,
net
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15,000
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20,000
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Interest
income
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1,000
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0
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(130,000
)
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(114,000
)
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Net
loss before tax
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(411,000
)
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(202,000
)
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Income tax
expense
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(2,000
)
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(1,000
)
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Net
loss
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$
(413,000
)
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$
(203,000
)
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Basic
and diluted loss per common share
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$
(0.01
)
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$
(0.01
)
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Weighted average
number of shares outstanding – basic &
diluted
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29,879,754
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29,043,692
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The accompanying notes are an integral part of the condensed
financial statements
American Bio Medica Corporation
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Condensed Statements of Operations
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For The Three Months Ended
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Net
sales
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$
1,069,000
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$
1,306,000
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Cost of goods
sold
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632,000
|
741,000
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Gross
profit
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437,000
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565,000
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Operating
expenses:
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Research and
development
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19,000
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22,000
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Selling and
marketing
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148,000
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176,000
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General and
administrative
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344,000
|
388,000
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|
511,000
|
586,000
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Operating
loss
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(74,000
)
|
(21,000
)
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Other income /
(expense):
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Interest
expense
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(76,000
)
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(69,000
)
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Other income,
net
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4,000
|
20,000
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Interest
income
|
1,000
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0
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(71,000
)
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(49,000
)
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Net
loss before tax
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(145,000
)
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(70,000
)
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Income tax
expense
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(2,000
)
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(1,000
)
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Net
loss
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$
(147,000
)
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$
(71,000
)
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Basic
and diluted loss per common share
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$
(0.00
)
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$
(0.00
)
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Weighted average
number of shares outstanding – basic
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29,936,111
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29,242,388
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The accompanying notes are an integral part of the condensed
financial statements
American Bio Medica Corporation
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Condensed Statements of Cash Flows
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Cash flows from operating activities:
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Net
loss
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$
(413,000
)
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$
(203,000
)
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Adjustments
to reconcile net loss to net cash provided by operating
activities:
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Depreciation
and amortization
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42,000
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43,000
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Amortization
of debt issuance costs
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70,000
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63,000
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Allowance
for doubtful accounts
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4,000
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0
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Provision
for slow moving and obsolete inventory
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41,000
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19,000
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Share-based
payment expense
|
7,000
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23,000
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Changes
in:
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Accounts
receivable
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(168,000
)
|
74,000
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Inventory
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171,000
|
113,000
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Prepaid
expenses and other current assets
|
64,000
|
54,000
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Accounts
payable
|
(25,000
)
|
(26,000
)
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Accrued
expenses and other current liabilities
|
48,000
|
(13,000
)
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Wages
payable
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(7,000
)
|
(31,000
)
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Net
cash (used in) / provided by operating activities
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(166,000
)
|
116,000
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Cash flows from investing activities:
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Patent
application costs
|
(13,000
)
|
(13,000
)
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Purchase
of property, plant and equipment
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0
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(38,000
)
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Net
cash used in investing activities
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(13,000
)
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(51,000
)
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Cash flows from financing activities:
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Proceeds
from / (payments on) debt financing
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69,000
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(38,000
)
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Proceeds
from lines of credit
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2,235,000
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2,835,000
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Payments
on lines of credit
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(2,085,000
)
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(2,880,000
)
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Net
cash provided by / (used in) financing activities
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219,000
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(83,000
)
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Net change in cash and cash equivalents
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40,000
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(18,000
)
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Cash
and cash equivalents - beginning of period
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36,000
|
156,000
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Cash and cash equivalents - end of period
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$
76,000
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$
138,000
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Supplemental disclosures of cash flow information
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Non-cash
transactions:
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|
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Consulting expense prepaid with
restricted stock
|
$
42,000
|
$
50,000
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Debt issuance cost paid with
restricted stock
|
$
18,000
|
$
0
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Director Fee
paid with restricted stock
|
$
3,000
|
$
0
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Cash paid
during period for interest
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$
76,000
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$
71,000
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Cash
paid during period for taxes
|
$
2,000
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$
1,000
|
The accompanying notes are an integral part of the condensed
financial statements
Notes to condensed financial statements (unaudited)
June 30, 2018
Note A - Basis of Reporting
The
accompanying unaudited interim condensed financial statements of
American Bio Medica Corporation (the “Company”) have
been prepared in accordance with generally accepted accounting
principles in the United States of America (“U.S.
GAAP”) for interim financial information and in accordance
with the instructions to Form 10-Q and Regulation S-X. Accordingly,
these unaudited interim condensed financial statements do not
include all information and footnotes required by U.S. GAAP for
complete financial statement presentation. These unaudited interim
condensed financial statements should be read in conjunction with
audited financial statements and related notes contained in the
Company’s Annual Report on Form 10-K for the year ended
December 31, 2017. In the opinion of management, the interim
condensed financial statements include all normal, recurring
adjustments which are considered necessary for a fair presentation
of the financial position of the Company at June 30, 2018, and the
results of operations and cash flows for the three and six month
periods ended June 30, 2018 and June 30, 2017.
Operating results
for the six months ended June 30, 2018 are not necessarily
indicative of results that may be expected for the year ending
December 31, 2018. Amounts at December 31, 2017 are derived from
audited financial statements included in the Company’s Annual
Report on Form 10-K for the year ended December 31,
2017.
During
the six months ended June 30, 2018, there were no significant
changes to the Company’s critical accounting policies, which
are included in the Company’s Annual Report on Form 10-K for
the year ended December 31, 2017.
The
preparation of these interim condensed financial statements
requires the Company to make estimates and judgments that affect
the reported amounts of assets, liabilities, revenues and expenses,
and related disclosure of contingent assets and liabilities. On an
on-going basis, the Company evaluates estimates, including those
related to product returns, bad debts, inventories, income taxes,
warranty obligations, contingencies and litigation. The Company
bases estimates on historical experience and on various other
assumptions that are believed to be reasonable under the
circumstances, the results of which form the basis for making
judgments about the carrying values of assets and liabilities that
are not readily apparent from other sources. Actual results may
differ from these estimates under different assumptions or
conditions.
These
unaudited interim condensed financial statements have been prepared
assuming that the Company will continue as a going concern and,
accordingly, do not include any adjustments that might result from
the outcome of this uncertainty. The independent registered public
accounting firm’s report on the financial statements included
in the Company’s Annual Report on Form 10-K for the year
ended December 31, 2017, contained an explanatory paragraph
regarding the Company’s ability to continue as a going
concern. As of the date of this report, the Company’s current
cash balances, together with cash generated from future operations
and amounts available under the Company’s credit facilities
may not be sufficient to fund operations through August 2019. The
Company’s current line of credit matures on June 29, 2020.
The maximum availability on the Company’s line of credit
remains to be $1,500,000. However, the amount available under the
Company’s line of credit is based upon the Company’s
accounts receivable and inventory. As of June 30, 2018, based on
the Company’s availability calculation, there were no
additional amounts available under the Company’s line of
credit because the Company draws any balance available on a daily
basis.
As
discussed in more detail in “Cash Flow, Outlook/Risk”,
if sales levels decline further, the Company will have reduced
availability on its line of credit due to decreased accounts
receivable balances. In addition, the Company would expect its
inventory levels to decrease if sales levels decline further, and
this would also result in reduced availability on the
Company’s line of credit. In addition to this reduced
availability, in June 2018, the Company’s line of credit was
amended to reduce the maximum availability under the inventory
component of its line of credit over the next 25 months. While this
will not result in a dramatic impact to our availability today, it
will ultimately remove availability related to our inventory under
the line of credit. If availability under the Company’s line
of credit is not sufficient to satisfy its working capital and
capital expenditure requirements, the Company will be required to
obtain additional credit facilities or sell additional equity
securities, or delay capital expenditures. There is no assurance
that such financing will be available or that the Company will be
able to complete financing on satisfactory terms, if at
all.
Recently
Adopted Accounting Standards
The
Company adopted the following accounting standards set forth by the
Financial Accounting Standards Board
(“FASB”):
ASU 2014-09, “Revenue from
Contracts with Customers”,
issued in May 2014,
provides guidance for revenue recognition. The core principle of
ASU 2014-09 is that a company will recognize revenue when it
transfers promised goods or services to customers in an amount that
reflects the consideration to which the company expects to be
entitled in exchange for those goods or services. In doing so,
companies will need to use more judgment and make more estimates
than under current guidance. Examples of the use of judgments and
estimates may include identifying performance obligations in the
contract, estimating the amount of variable consideration to
include in the transaction price and allocating the transaction
price to each separate performance obligation. The update also
requires more detailed disclosures to enable users of financial
statements to understand the nature, amount, timing, and
uncertainty of revenue and cash flows arising from contracts with
customers. ASU 2014-09 provides for two transition methods to the
new guidance: a retrospective approach and a modified retrospective
approach. In August 2015, ASU 2015-14, “Revenue from
Contracts with Customers: Deferral of the Effective Date” was
issued as a revision to ASU 2014-09. ASU 2015-14 revised the
effective date to fiscal years, and interim periods within those
years, beginning after December 15, 2017. Subsequently, additional
updates were issued related to this topic, ASU 2016-08, ASU
2016-10, ASU 2016-12 and ASU 2016-20. Early adoption of ASU 2014-09
was permitted but not prior to periods beginning after December 15,
2016 (i.e. the original adoption date per ASU No.
2014-09).
The
Company's revenues result from the sale of goods and reflect the
consideration to which the Company expects to be entitled. The
Company records revenues based on a five-step model in accordance
with ASU 2014-09. The Company has defined purchase orders as
contracts in accordance with ASU 2014-09. For its customer
contracts, the Company’s performance obligations are
identified; which is delivering goods at a determined transaction
price, allocation of the contract transaction price with
performance obligations (when applicable), and recognition of
revenue when (or as) the performance obligation is transferred to
the customer. Goods are transferred when the customer obtains
control of the goods (which is upon shipment to the customer). The
Company's revenues are recorded at a point in time from the sale of
tangible products. Revenues are recognized when products are
shipped.
The
Company has elected the Modified Retrospective Method (the
"Cumulate Effect Method") to comply with ASU 2014-09. The
Cumulative Effect Method does not affect the amounts for the prior
periods, but requires that the current period be reported in
accordance with ASU 2014-09. ASU 2014-09 was adopted on January 1,
2018 which was the first day of the Company's 2018 fiscal year.
There was no material impact on the Company’s financial
position or results of operations.
Product
returns, discounts and allowances are variable consideration and
are recorded as a reduction of revenue in the same period that the
related sale is recorded. The Company has reviewed the overall
sales transactions for variable consideration and has determined
that these costs are not significant. The Company has not
experienced any impairment losses, has no future performance
obligations and does not capitalize costs to obtain or fulfill
contracts.
Accounting
Standards Issued; Not Yet Adopted
ASU 2016-02,
“Leases”,
issued in February 2016, requires a
lessee to recognize a lease liability and a right-of-use asset on
its balance sheet for all leases, including operating leases, with
a term greater than 12 months. Lease classification will determine
whether a lease is reported as a financing transaction in the
income statement and statement of cash flows. ASU 2016-02 does not
substantially change lessor accounting, but it does make certain
changes related to leases for which collectability of the lease
payments is uncertain or there are significant variable payments.
Additionally, ASU 2016-02 makes several other targeted amendments
including a) revising the definition of lease payments to include
fixed payments by the lessee to cover lessor costs related to
ownership of the underlying asset such as for property taxes or
insurance; b) narrowing the definition of initial direct costs
which an entity is permitted to capitalize to include only those
incremental costs of a lease that would not have been incurred if
the lease had not been obtained; c) requiring seller-lessees in a
sale-leaseback transaction to recognize the entire gain from the
sale of the underlying asset at the time of sale rather than over
the leaseback term; and d) expanding disclosures to provide
quantitative and qualitative information about lease transactions.
ASU 2016-02 is effective for all annual and interim periods
beginning January 1, 2019, and is required to be applied
retrospectively to the earliest period presented at the date of
initial application, with early adoption permitted. The Company is
evaluating the impact of ASU 2016-02.
ASU 2017-11, “Earnings Per
Share, Distinguishing Liabilities from Equity, Derivatives and
Hedging”,
issued in July 2017, changes the
classification analysis of certain equity-linked financial
instruments (or embedded features) with down round features. When
determining whether certain financial instruments should be
classified as liabilities or equity instruments, a down round
feature will no longer preclude equity classification when
assessing whether the instrument is indexed to an entity’s
own stock. The amendments also clarify existing disclosure
requirements for equity-classified instruments. As a result, a
freestanding equity-linked financial instrument (or embedded
conversion option) would not be accounted for as a derivative
liability at fair value as a result of the existence of a down
round feature. For freestanding equity classified financial
instruments, the amendments require entities that present earnings
per share (EPS) in accordance with Topic 260 to recognize the
effect of the down round feature when it is triggered. That effect
is treated as a dividend and as a reduction of income available to
common shareholders in basic EPS. Convertible instruments with
embedded conversion options that have down round features are now
subject to the specialized guidance for contingent beneficial
conversion features (in Subtopic 470-20, Debt—Debt with
Conversion and Other Options), including related EPS guidance (in
Topic 260). ASU 2017-11 is effective for fiscal years, and interim
periods within those fiscal years, beginning after December 15,
2018. Early adoption is permitted. The Company is evaluating the
impact of ASU 2017-11.
ASU 2018-07, “Compensation -
Stock Compensation/Improvements to Nonemployee Share-Based Payment
Accounting”,
issued in June 2018, expands the scope of
Topic 718 to include share-based payment transactions for acquiring
goods and services from nonemployees. The requirements of Topic 718
must be applied to nonemployee awards except for certain exemptions
specified in the amendment. ASU 2018-07 is effective for fiscal
years beginning after December 15, 2018, including interim
reporting periods within that fiscal year. Early adoption is
permitted, but no earlier than an entity’s adoption date of
Topic 606. The Company is evaluating the impact of ASU
2018-07.
There
are no other accounting pronouncements issues during the six months
ended June 30, 2018 that are expected to have or that could have a
significant impact on our financial position or results of
operations.
Reclassifications
Certain
items have been reclassified from the prior year to conform to the
current year presentation.
Note B – Inventory
Inventory is
comprised of the following:
|
|
|
|
|
|
|
|
|
Raw
Materials
|
$
1,031,000
|
$
1,023,000
|
|
Work In
Process
|
429,000
|
403,000
|
|
Finished
Goods
|
342,000
|
547,000
|
Allowance for slow
moving and obsolete inventory
|
(541,000
)
|
(500,000
)
|
|
|
$
1,261,000
|
$
1,473,000
|
Note C – Net Loss Per Common Share
Basic net loss per
common share is calculated by dividing the net loss by the weighted
average number of outstanding common shares during the period.
Diluted net loss per common share includes the weighted average
dilutive effect of stock options and warrants. Potential common
shares outstanding as of June 30, 2018 and 2017:
|
|
|
|
|
|
|
|
|
Warrants
|
2,000,000
|
2,060,000
|
|
Options
|
2,227,000
|
2,147,000
|
|
|
4,227,000
|
4,207,000
|
The
number of securities not included in the diluted net loss per share
for the three and six months ended June 30, 2018 was 4,227,000 as
their effect would have been anti-dilutive due to the net loss in
the three and six months ended June 30, 2018. The number of
securities not included in the diluted net loss per share for the
three and six months ended June 30, 2017 was 4,207,000 as their
effect would have been anti-dilutive due to the net loss in the
three and six months ended June 30, 2017.
Note D – Litigation/Legal Matters
ABMC v. Premier Biotech, Inc., Todd Bailey, et al.
In
February 2017, the Company filed a complaint in the Supreme Court
of the State of New York in Columbia County against Premier Biotech
Inc., Premier Biotech Labs, LLC and its principals, including its
President Todd Bailey (“Bailey”), and Peckham
Vocational Industries, Inc. (together the
“Defendants”). Bailey formerly served as the
Company’s Vice President of Sales and Marketing and as a
sales consultant until December 23, 2016. The complaint seeks
preliminary and permanent injunctions and a temporary restraining
order against Bailey (for his benefit or the benefit of another
party or entity) related to the solicitation of Company customers
as well as damages related to any profits and revenues that would
result from actions taken by the Defendants related to Company
customers.
In
March 2017, the complaint was moved to the federal court in the
Northern District of New York. In April 2017, the Defendants filed
a motion to dismiss on the basis of jurisdiction, to which the
Company responded on April 21, 2017.
In July
2017, the Company was notified that it was not awarded a contract
with a state agency for which it has held a contract in excess of
10 years. The contract in question is included in the February 2017
complaint. The Company believes that the Defendants actions related
to this customer and a RFP that was issued by the state agency
resulted in the loss of the contract award to the Company and the
award of the contract to Peckham and Premier Biotech. This contract
historically accounted for 10-15% of the Company’s annual
revenue. The Company continued to hold a contract with the agency
through September 30, 2017. The Company did protest the award of
the contract to Peckham and Premier Biotech, and the state agency
advised the Company on July 26, 2017 that they denied the
Company’s protest of the award.
The
Company amended its complaint against the Defendants to show actual
damages caused by the Defendants and to show proprietary and
confidential information (belonging to the Company) used by the
Defendants in their response to the RFP. This confidential
information belonging to the Company enabled the Defendants to
comply with specifications of the RFP. The Defendants filed a
response to the court opposing the Company’s supplemental
motion and the Company filed reply papers to the Defendants
response on November 2, 2017.
In
January 2018, the court ruled on the motion to dismiss (that was
filed by the Defendants in April 2017). The court found that there
was jurisdiction over Bailey only. In the Company’s opinion,
this ruling does not diminish its standing in the case against
Bailey, who again in the Company’s opinion, has always been
the primary defendant. The court did not rule on the other motions
before them. In February 2018, the Company filed a motion for
reconsideration and for leave to serve a supplemental/amended
complaint. The new filing asks for reconsideration in the
jurisdiction ruling regarding Premier Biotech Inc. and addresses
the Company’s intent to further supplement its complaint
based on additional (subsequent) damage alleged by ABMC on the part
of Bailey and Premier Biotech, Inc. The Company is still awaiting
the court’s decision on the most recent filings. Given the
stage of the litigation, management is not yet able to opine on the
outcome of the case.
Todd Bailey v. ABMC
On
October 20, 2017, the Company received notice that Bailey, its
former Vice President of Sales & Marketing and sales consultant
(and the same “Bailey” discussed above) filed a
complaint against the Company in the State of Minnesota seeking
deferred commissions of $164,000 that Bailey alleges is owed to him
by the Company. On November 2, 2017, the Company filed a Notice of
Removal in this action to move the matter from state to federal
court. On November 9, 2017, the Company filed a motion to dismiss
or, in the alternative to transfer venue and consolidate, the
Bailey complaint with our litigation filed previously against
Bailey and others.
In
January 2018, the judge in the Minnesota case requested additional
briefing on the impact of ruling in the New York case that
determined there was personal jurisdiction over Bailey. The Company
filed the requested briefing as requested by the court. Given the
stage of the litigation, management is not yet able to opine on the
outcome of the case. As of the date of this report, the action in
Minnesota has been stayed while the New York motions are
decided.
Note E – Line of Credit and Debt
|
|
|
|
|
Loan and Security Agreement with Cherokee
Financial, LLC:
5 year note at an annual interest rate of 8%
plus a 1% annual oversight fee, interest only and oversight fee
paid quarterly with first payment being made on May 15, 2015,
annual principal reduction payment of $75,000 due each year
beginning on February 15, 2016, with a final balloon payment being
due on February 15, 2020. Loan is collateralized by a first
security interest in building, land and property.
|
$
975,000
|
$
1,050,000
|
|
Crestmark Line of Credit:
3 year line of
credit maturing on June 22, 2020 with interest payable at a
variable rate based on WSJ Prime plus 3% with a floor or 5.25%;
loan fee of 0.5% annually & monthly maintenance fee of 0.3% on
actual loan balance from prior month. Early termination fee of 2%
if terminated prior to natural expiration. Loan is collateralized
by first security interest in receivables and inventory and the
all-in interest rate as of the date of this report is
13.1%.
|
596,000
|
446,000
|
|
Crestmark Equipment Loan:
38 month
equipment loan related to the purchase of manufacturing equipment,
at an interest rate of WSJ Prime Rate plus 3%; or 8.00% as of the
date of this report.
|
25,000
|
31,000
|
Term Loan with Cherokee Financial LLC:
1
year note at an annual interest rate of 12% paid quarterly in
arrears with first interest payment being made on May 15, 2018 and
a balloon payment being due on February 15, 2019.
|
150,000
|
0
|
|
|
1,746,000
|
1,527,000
|
Less debt discount
& issuance costs (Cherokee Financial LLC loans)
|
(167,000
)
|
(203,000
)
|
|
Total debt,
net
|
1,579,000
|
1,324,000
|
|
|
|
|
|
|
833,000
|
533,000
|
Long-term portion,
net of current portion
|
$
746,000
|
$
791,000
|
LOAN AND SECURITY AGREEMENT WITH CHEROKEE FINANCIAL, LLC
(“CHEROKEE”)
On
March 26, 2015, the Company entered into a LSA with Cherokee
Financial, LLC (the “Cherokee LSA”). The debt with
Cherokee is collateralized by a first security interest in real
estate and machinery and equipment. Under the Cherokee LSA, the
Company was provided the sum of $1,200,000 in the form of a 5-year
Note at an annual interest rate of 8%. The Company is making
interest only payments quarterly on the Cherokee LSA, with the
first interest payment paid on May 15, 2015. The Company is also
required to make an annual principal reduction payment of $75,000
on each anniversary of the date of the closing; with the first
principal reduction payment being made on February 15, 2016 and the
most recent principal reduction payment being made on February 15,
2018 with the proceeds received from a new term loan with Cherokee
Financial, LLC (See “Term Loan with Cherokee” within
this Note). A final balloon payment is due on March 26, 2020. In
addition to the 8% interest, the Company pays Cherokee a 1% annual
fee for oversight and administration of the loan. This oversight
fee is paid in cash and is paid contemporaneously with the
quarterly interest payments. The Company can pay off the Cherokee
loan at any time with no penalty; except that a 1% administration
fee would be required to be paid to Cherokee to close out all
participations.
The
Company received net proceeds of $80,000 after $1,015,000 of debt
payments, and $105,000 in other expenses and fees. With the
adoption of ASU No. 2015-03 in the First Quarter of Fiscal 2016,
these transaction costs (with the exception of the interest
expense) are being deducted from the balance on the Cherokee LSA
and are being amortized over the term of the debt.
The
Company recognized $87,000 in interest expense related to the
Cherokee LSA in the six months ended June 30, 2018 (of which
$47,000 is debt issuance cost amortization recorded as interest
expense) and, $84,000 in interest expense related to the Cherokee
LSA in the six months ended June 30, 2017 (of which $47,000 is debt
issuance cost amortization recorded as interest expense). The
Company had $13,000 in accrued interest expense at June 30,
2018.
The
Company recognized $43,000 in interest expense related to the
Cherokee LSA in the three months ended June 30, 2018 (of which
$23,000 is debt issuance cost amortization recorded as interest
expense), and $44,000 in interest expense related to the Cherokee
LSA in the three months ended June 30, 2017 (of which $23,000 is
debt issuance cost amortization recorded as interest
expense.
As of
June 30, 2018, the balance on the Cherokee LSA was $975,000;
however the discounted balance was $819,000. As of December 31,
2017, the balance on the Cherokee LSA was $1,050,000; however the
discounted balance was $847,000.
LINE OF CREDIT WITH CRESTMARK BANK
(“CRESTMARK”)
On June
29, 2015 (the “Closing Date”), the Company entered into
a Loan and Security Agreement (“LSA”) with Crestmark
related to a revolving line of credit (the “Crestmark
LOC”). The Crestmark LOC is used for working capital and
general corporate purposes and expires on June 22,
2020.
The
Crestmark LOC provides the Company with a revolving line of credit
up to $1,500,000 (“Maximum Amount”) with a minimum loan
balance requirement of $500,000. The Crestmark LOC is secured by a
first security interest in the Company’s inventory, and
receivables and security interest in all other assets of the
Company (in accordance with permitted prior
encumbrances).
The
Maximum Amount is subject to an Advance Formula comprised of: 1)
90% of Eligible Accounts Receivables (excluding, receivables
remaining unpaid for more than 90 days from the date of invoice and
sales made to entities outside of the United States), and 2) up to
40% of eligible inventory plus up to 10% of Eligible Generic
Packaging Components not to exceed the lesser of $350,000, or 100%
of Eligible Accounts Receivable. However, as a result of an
amendment executed on June 25, 2018, the amount available under the
inventory component of the line of credit was changed to 40% of
eligible inventory plus up to 10% of Eligible Generic Packaging
Components not to exceed the lesser of $250,000 (“Inventory
Sub-Cap Limit”) or 100% of Eligible Accounts Receivable. In
addition, the Inventory Sub-Cap Limit will be permanently reduced
by $10,000 per month commencing on July 1, 2018 and on the first
day of the month thereafter until the Inventory Sub-Cap Limit is
reduced to $0.
So long
as any obligations are due to Crestmark, the Company must comply
with a minimum Tangible Net Worth (“TNW”) Covenant. As
a result of an amendment executed on June 25, 2018, the TNW
covenant was reduced from $650,000 to $150,000 as of June 30, 2018.
Additionally, if a quarterly net income is reported, the TNW
covenant will increase by 50% of the reported net income. If a
quarterly net loss is reported, the TNW covenant will remain the
same as the prior quarter’s covenant amount. TNW is still
defined as: Total Assets less Total Liabilities less the sum of (i)
the aggregate amount of non-trade accounts receivables, including
accounts receivables from affiliated or related persons, (ii)
prepaid expenses, (iii) deposits, (iv) net lease hold improvements,
(v) goodwill and (vi) any other asset that would be treated as an
intangible asset under GAAP; plus Subordinated Debt. Subordinated
Debt means any and all indebtedness presently or in the future
incurred by the Company to any creditor of the Company entering
into a written subordination agreement with Crestmark. The Company
did not comply with the previous TNW covenant (of $650,000) for
March 31, 2018, however, on June 25, 2018; the Company received a
waiver from Crestmark with no further changes to the terms of the
Crestmark LOC. The Company was also not in compliance with the new
TNW covenant as of June 30, 2018. The Company received a waiver
from Crestmark for the June 30, 2018 non-compliance with no further
changes to the terms of the Crestmark LOC.
If the
Company terminates the LSA prior to June 22, 2020, an early exit
fee of 2% of the Maximum Amount (plus any additional amounts owed
to Crestmark at the time of termination) would be due.
In the
event of a default of the LSA, which includes but is not limited
to, failure of the Company to make any payment when due and
non-compliance with the TNW covenant (that is not waived by
Crestmark), Crestmark is permitted to charge an Extra Rate. The
Extra Rate is the Company’s then current interest rate plus
12.75% per annum. As of the date of this report, Crestmark has not
elected to charge the Extra Rate even though the Company is not in
compliance with the TNW covenant as of June 30, 2018.
Interest on the
Crestmark LOC is at a variable rate based on the Prime Rate plus 3%
with a floor of 5.25%. As of June 30, 2018, the interest only rate
on the Crestmark LOC was 8%. As of June 30, 2018, with all fees
considered (the interest rate + an Annual Loan Fee of $7,500 + a
monthly maintenance fee of 0.30% of the actual average monthly
balance from the prior month), the interest rate on the Crestmark
LOC was 13.1%.
The
Company recognized $44,000 in interest expense related to the
Crestmark LOC in the six months ended June 30, 2018 (of which
$15,000 is debt issuance cost amortization recorded as interest
expense) and $50,000 of interest expense in the six months ended
June 30, 2017 (of which $16,000 is debt issuance cost amortization
recorded as interest expense).
The
Company recognized $23,000 in interest expense related to the
Crestmark LOC in the three months ended June 30, 2018 (of which
$7,000 is debt issuance cost amortization recorded as interest
expense) and $24,000 in interest expense in the three months ended
June 30, 2017 (of which $8,000 is debt issuance cost amortization
recorded as interest expense).
Given
the nature of the administration of the Crestmark LOC, at June 30,
2018, the Company had $0 in accrued interest expense related to the
Crestmark LOC, and there is $0 in additional availability under the
Crestmark LOC.
As of
June 30, 2018, the balance on the Crestmark LOC was $596,000, and
as of December 31, 2017, the balance on the Crestmark LOC was
$446,000.
EQUIPMENT LOAN WITH CRESTMARK
On May
1, 2017, the Company entered into term loan with Crestmark in the
amount of $38,000 related to the purchase of manufacturing
equipment. The equipment loan is collateralized by a first security
interest in a specific piece of manufacturing equipment. The
Company executed an amendment to its LSA and Promissory Note with
Crestmark. The amendments addressed the inclusion of the term loan
into the LSA and an extension of the Crestmark LOC. No terms of the
Crestmark LOC were changed in the amendment. The interest rate on
the term loan is the WSJ Prime Rate plus 3%; or 8% as of the date
of this report. The balance on the equipment loan was $25,000 as of
June 30, 2018, and $31,000 as of December 31, 2017.
The
Company incurred $1,000 in interest expense in the six months ended
June 30, 2018 related to the Equipment Loan and less than $1,000 in
interest expense in the six months ended June 30, 2017. The Company
incurred less than $1,000 in interest expense in the three months
ended June 30, 2018 related to the Equipment Loan and less than
$1,000 in interest expense in the three months ended June 30,
2017.
TERM LOAN WITH CHEROKEE
On
March 2, 2018, the Company entered into a one-year Loan Agreement
made as of February 15, 2018 (the “Closing Date”) with
Cherokee under which Cherokee provided the Company with $150,000
(the “Cherokee Term Loan”). The proceeds from the
Cherokee Term Loan were used by the Company to pay a $75,000
principal reduction payment to Cherokee and $1,000 in legal fees
incurred by Cherokee. Net proceeds (to be used for working capital
and general business purposes) were $74,000.
The
annual interest rate for the Cherokee Term Loan is 12% to be paid
quarterly in arrears with the first interest payment being made on
May 15, 2018. The Cherokee Term Loan is required to be paid in full
on February 15, 2019 unless paid off earlier (with no penalty) at
the Company’s sole discretion. In connection with the
Cherokee Term Loan, the Company issued 150,000 restricted shares of
common stock to Cherokee on March 8, 2018.
In the
event of default, this includes, but is not limited to, the
Company’s inability to make any payments due under the
Cherokee Term Loan, Cherokee has the right to increase the interest
rate on the Cherokee Term Loan to 18% and the Company would be
required to issue and additional 150,000 restricted shares of
common stock to Cherokee
.
The
Company recognized $14,000 in interest expense related to the
Cherokee Term Loan in the six months ended June 30, 2018 (of which
$8,000 was debt issuance costs recorded as interest expense) and $0
in interest expense in the six months ended June 30, 2017 (as the
facility was not yet in place). The Company recognized $9,000 in
interest expense related to the Cherokee Term Loan in the three
months ended June 30, 2018 (of which $5,000 was debt issuance costs
recorded as interest expense) and $0 in interest expense in the
three months ended June 30, 2017 (as the facility was not yet in
place).
As of
June 30, 2018, the balance on the Cherokee Term Loan is $150,000
however the discounted balance is $142,000. As of December 31,
2017, the balance on the Cherokee Term loan was $0 (as the facility
was not in place at December 31, 2017).
NOTE F – Stock Options and Warrants
The
Company currently has two non-statutory stock option plans, the
Fiscal 2001 Non-statutory Stock Option Plan (the “2001
Plan”) and the 2013 Equity Compensation Plan (the “2013
Plan”). Both plans have been adopted by our Board of
Directors and approved by our shareholders. Both the 2001 Plan and
the 2013 Plan have options available for future issuance. Any
common shares issued as a result of the exercise of stock options
would be new common shares issued from our authorized issued
shares.
During
the three months ended June 30, 2018, the Company issued options to
purchase 20,000 shares of stock to each of its non-employee board
members as an annual stock option grant (for a total of 80,000
options) under the 2001 Plan. During the three months ended June
30, 2017, the Company issued options to purchase 20,000 shares of
stock to each of its two non-employee board members as an annual
stock option grant (for a total of 40,000 options) under the 2001
Plan.
Stock
option activity for the six months ended June 30, 2018 and June 30,
2017 is summarized as follows (the figures contained within the
tables below have been rounded to the nearest
thousand):
|
|
Six months ended
June 30, 2018
|
Six months ended
June 30, 2017
|
|
|
|
Weighted Average
Exercise Price
|
Aggregate
Intrinsic Value
as of
June 30,
2018
|
|
Weighted Average
Exercise Price
|
Aggregate
Intrinsic Value as of
June 30,
2017
|
|
Options outstanding
at beginning of period
|
2,147,000
|
$
0.13
|
|
2,107,000
|
$
0.13
|
|
|
Granted
|
80,000
|
$
0.10
|
|
40,000
|
$
0.13
|
|
|
Exercised
|
0
|
|
|
0
|
|
|
|
Cancelled/expired
|
0
|
|
|
0
|
|
|
Options outstanding
at end of period
|
2,227,000
|
$
0.13
|
$
5,000
|
2,147,000
|
$
0.13
|
$
15,000
|
Options exercisable
at end of period
|
2,147,000
|
$
0.13
|
|
1,647,000
|
$
0.13
|
|
The
Company recognized $7,000 in share based payment expense in the six
months ended June 30, 2018 and $23,000 in share based payment
expense in the six months ended June 30, 2017. The Company
recognized $3,000 in share based payment expense in the three
months ended June 30, 2018 and $11,000 in share based payment
expense in the three months ended June 30, 2017. At June 30, 2018
there was approximately $6,000 of total unrecognized share based
payment expense related to stock options. This cost is expected to
be recognized over 11 months.
The
following table summarizes weighted-average assumptions using the
Black-Scholes option-pricing model used on the date of the grants
issued during the six months ended June 30, 2018 and June 30,
2017:
|
|
|
Six months
ended
|
|
|
|
2018
|
|
2017
|
|
Volatility
|
|
79%
|
|
81%
|
|
Expected
term (years)
|
|
10
years
|
|
10
years
|
|
Risk-free
interest rate
|
|
2.90%
|
|
2.16%
|
|
Dividend
yield
|
|
0%
|
|
0%
|
Warrants
Warrant
activity for the six months ended June 30, 2018 and the six months
ended June 30, 2017 is summarized as follows:
|
|
Six months ended
June 30, 2018
|
Six months ended
June 30, 2017
|
|
|
|
Weighted Average
Exercise Price
|
Aggregate
Intrinsic Value
as of
June 30,
2018
|
|
Weighted Average
Exercise Price
|
Aggregate
Intrinsic Value as of
June 30,
2017
|
|
Warrants
outstanding at beginning of period
|
2,060,000
|
$
0.18
|
|
2,060,000
|
$
0.18
|
|
|
Granted
|
0
|
|
|
0
|
|
|
|
Exercised
|
0
|
|
|
0
|
|
|
|
Cancelled/expired
|
60,000
|
$
0.18
|
|
0
|
|
|
Warrants
outstanding at end of period
|
2,000,000
|
$
0.18
|
|
2,060,000
|
$
0.18
|
|
Warrants
exercisable at end of period
|
2,000,000
|
$
0.18
|
|
2,060,000
|
$
0.18
|
|
In the
six months ended June 30, 2018 and June 30, 2017, the Company
recognized $0 in debt issuance and deferred finance costs related
to the issuance of the above warrants outstanding. In the three
months ended June 30, 2018 and June 30, 2017, the Company
recognized $0 in debt issuance and deferred finance costs related
to the issuance of the above warrants. As of June 30, 2018, there
was $0 of total unrecognized expense.
NOTE G - SUBSEQUENT EVENT
The
Company entered into an addendum to its Financial Advisory
Agreement with Landmark Pegasus, Inc. (‘Landmark”) on
August 1, 2018. Under the Financial Advisory Agreement, Landmark
provides certain financial advisory services to the Company from
July 1, 2018 through December 31, 2018. As consideration for these
services, the Company will pay Landmark a retainer fee consisting
of 277,778 restricted shares of common stock and the Company will
pay Landmark a “success fee” for the consummation of
each and any transaction closing during the term of the Financial
Advisory Agreement and for 24 months thereafter, inclusive of a
sale or merger, between the Company and any party first introduced
to the Company by Landmark, or for any other transaction not
originated by Landmark but for which Landmark provides substantial
support in completing during the term of the Agreement. For certain
transactions, the success fee will be paid part upon consummation
of a transaction and part paid over a term of not more than five
years; all other transactions would be paid upon consummation of
the transaction.
As a
result of the retainer fees being paid in restricted shares and the
resulting percentage of common share ownership, Landmark filed a
Schedule 13G in October 2016 related to its ownership of the
Company’s common stock and its principal John Moroney has
continued to file required Section 16(a) forms. Apart from their
status as a shareholder and with respect to the Agreement, there is
no material relationship between the Company and
Landmark.
Item 2. Management’s Discussion and Analysis of Financial
Condition and Results of Operations
General
The following discussion and analysis provides information, which
we believe is relevant to an assessment and understanding of our
financial condition and results of operations. The discussion
should be read in conjunction with the Interim Condensed Financial
Statements contained herein and the notes thereto appearing
elsewhere in this Quarterly Report on Form 10-Q. Certain statements
contained in this Quarterly Report on Form 10-Q, including, without
limitation, statements containing the words “believes”,
“anticipates”, “estimates”,
“expects”, “intends”,
“projects”, and words of similar import, are
forward-looking as that term is defined by the Private Securities
Litigation Reform Act of 1995 (“1995 Act”), and in
releases issued by the United State Securities and Exchange
Commission (the “Commission”). These statements are
being made pursuant to the provisions of the 1995 Act and with the
intention of obtaining the benefits of the “Safe
Harbor” provisions of the 1995 Act. We caution that any
forward-looking statements made herein are not guarantees of future
performance and that actual results may differ materially from
those in such forward-looking statements as a result of various
factors, including, but not limited to, any risks detailed herein,
in our “Risk Factors” section of our Form 10-K for the
year ended December 31, 2017, in our most recent reports on Form
10-Q and Form 8-K and from time to time in our other filings with
the Commission, and any amendments thereto. Any forward-looking
statement speaks only as of the date on which such statement is
made, and we are not undertaking any obligation to publicly update
any forward-looking statements. Readers should not place undue
reliance on these forward-looking statements.
Overview/Plan
of Operations
Sales
in the six months ended June 30, 2018 were negatively impacted by
the loss of an account in the fourth quarter of the year ended
December 31, 2017 and the expiration of another government account
in the three months ended June 30, 2018. The account lost in 2017
is a subject of the litigation we initiated against a former Vice
President, Sales & Marketing/Sales Consultant (See Note D
– Litigation/Legal Matters). Along with these losses,
products manufactured outside of the United States continue to
dominate our markets; especially those markets where cost is the
driving factor.
We have
brought on new products and service offerings to diversify our
revenue stream through third party relationships. These new
products and services include products for the detection of
alcohol, alternative sample options for drug testing (such as lab
based oral fluid testing and hair testing) as well as toxicology
management services. We are also now offering customers lower-cost
alternatives for onsite drug testing. While we are not yet seeing
significant revenue from these additions; we have continued to see
a trend of increasing sales of the lower cost product
alternative.
We are
focusing our efforts on 1) further penetration of the clinical
markets with new products, 2) drug testing with oral fluid in the
workplace and 3) contract manufacturing. To further penetrate the
clinical markets we retained a Director of Clinical Sales in
January 2018 to spearhead our efforts in the rehabilitation/drug
treatment, pain management and other clinical markets. We are
hopeful that our OTC marketing clearance for our Rapid TOX
Cup® II product line, lower cost product alternatives and the
renewed focus on clinical markets will enable us to increase sales
in this area. In addition, we are currently working with our
laboratory alliance in efforts to increase sales under our current
contract. A change in the regulatory environment (due to certain
exemptions set forth by the U.S. Food and Drug Administration
related to workplace and insurance drug testing) has resulted in
new efforts to re-enter the workplace market with oral fluid drug
testing options. And finally, we are currently discussing a number
of contract manufacturing opportunities with other entities; one of
which is expected to generate sales starting in the 3rd or 4th
quarter of 2018.
Operating expenses
continued to decline when comparing the six and three months ended
June 30, 2018 with the six and three months ended June 30, 2017.
This is a result of our continued efforts to ensure that expenses
are in line with revenue. In the six months ended June 30, 2018, we
consolidated job responsibilities in certain areas of the Company
as a result of employee retirement and other departures; this
consolidation enabled us to implement personnel reductions. We also
continued to maintain a salary deferral program for our sole
executive officer and another member of senior management
throughout the six months ended June 30, 2018. The salary deferral
program consists of a 20% salary deferral for our Chief Executive
Officer/Principal Financial Officer Melissa Waterhouse and our
non-executive VP Operations. As of June 30, 2018, we had total
deferred compensation owed of $296,000. As cash flow from
operations allows, we intend to repay portions of the deferred
compensation, however we did not make any payments on deferred
compensation in the six months ended June 30, 2018. We did make
$16,000 in payments in the six months ended June 30, 2017. We
expect the salary deferral program will continue for up to another
12 months.
Our
continued existence is dependent upon several factors, including
our ability to: 1) raise revenue levels even though we have lost
significant accounts and the market continues to be infiltrated by
product manufactured outside of the United States, 2) control
operational costs to generate positive cash flows, 3) maintain our
current credit facilities or refinance our current credit
facilities if necessary, and 4) if needed, our ability to obtain
working capital by selling additional shares of our common
stock.
Results
of operations for the six months ended June 30, 2018,
compared
to the six months ended June 30, 2017
NET SALES:
Net sales for the six months
ended June 30, 2018 decreased $511,000, or 19.5%, when compared to
the six months ended June 30, 2017. The majority of the sales
decline is due to $456,000 in product sales to a government account
lost in the latter part of the year ended December 31, 2017. The
loss of this account is due to actions we have alleged were taken
by a former Vice President Sales & Marketing/Sales Consultant
(Todd Bailey) and, are the subject of ongoing litigation. There was
an additional $51,000 in lost government product sales due to the
expiration of a contract with another government entity. Contract
manufacturing sales also contributed $18,000 to the sales loss with
the anticipated expiration of one of our contract manufacturing
agreements in early 2018). In the six months ended June 30, 2018,
we did see some improvement in other areas of government and
international sales, and we also saw increased sales of our lower
cost product alternative. These improvements minimally offset the
declines.
GROSS PROFIT:
Gross profit decreased to
38.3% of net sales in the six months ended June 30, 2018, from
43.1% of net sales in the six months ended June 30, 2017. This
decrease in gross profit stems primarily from the fact that
decreased sales resulted in a decrease in the number of testing
strips made in the six months ended June 30, 2018, when compared to
the six months ended June 30, 2017. The majority of our labor and
overhead costs are fixed. When revenues decline, fewer testing
strips are produced; this results in a manufacturing inefficiency
(i.e. less fixed overhead cost absorption and a higher amount being
expensed through cost of goods). In addition, the low product
prices from foreign manufacturers have required us to decrease
pricing of our own products to be more competitive. We have taken
actions to adjust our production schedules to mitigate future
inefficiencies
Operating expenses
decreased $145,000, or 11.9%, in the six months ended June 30, 2018
compared to the six months ended June 30, 2017. Expenses in all
operational areas of the Company decreased. More
specifically:
Research and development (“R&D”)
R&D
expense decreased $24,000, or 35.3%, when comparing the six months
ended June 30, 2018 with the six months ended June 30, 2017.
Decreased FDA compliance costs (associated with the timing of
actions taken related to our FDA marketing clearance application)
were the primary reason for the decline in expenses. All other
expense remained relatively consistent. In the six months ended
June 30, 2018 our R&D department primarily focused their
efforts on the evaluation and development of potential contract
manufacturing opportunities.
Selling and marketing
Selling
and marketing expense in the six months ended June 30, 2018
decreased $62,000, or 16.7% when compared to the six months ended
June 30, 2017. Marketing salaries and benefits decreased due to
transitioning from an employee based approach to internet marketing
to the use of a consulting firm; this expense savings was only
nominally offset by an increase in marketing consulting expense.
There were also reductions in postage and freight expenses, as well
as reduced telephone expense (due to changing telephone vendors).
These reductions were partially offset by increased consulting fees
(as discussed previously) and increased costs associated with
promotional expense and trade show attendance. In the six months
ended June 30, 2018, we promoted additional products (through
relationships with third parties) for the detection of alcohol,
alternative sample options for drug testing (such as lab based oral
fluid testing and hair testing) as well as toxicology management
services and lower-cost alternatives for onsite drug testing. The
addition of these offerings did not result in increased selling and
marketing expenses. In the six months ended June 30, 2018, we
refocused our efforts on further penetration of the clinical
markets, took efforts to re-enter the workplace market with oral
fluid drug testing options and increase our contract manufacturing
business.
General and administrative (“G&A”)
G&A
expense decreased $42,000, or 5.4%, in the six months ended June
30, 2018 when compared to G&A expense in the six months ended
June 30, 2017. Decreases in SEC report fees (due to a change in
vendor), Quality Assurance (“QA”) salaries (due to
retirement of an employee), QA supplies, purchasing salaries,
broker fees (due to timing of financing activities), legal fees
(due to timing of actions in the ABMC vs. Bailey et al litigation),
patents and licenses (due to less patent activity) and share based
a payment expense (due to less stock option amortization in 2018)
were offset by certain increases. Those increases were in directors
fees (due to a full board of directors in 2018 versus vacancies in
2017), accounting fees (due to an increase in our fee schedule with
our current auditor), bank service fees (as a result of the receipt
of a waiver related to our non-compliance with the TNW covenant for
our line of credit) and outside service fees (due to 2018 being a
re-certification year for ISO).
Other income and expense:
Other
expense in the six months ended June 30, 2018 consisted of interest
expense associated with our credit facilities (our line of credit
and equipment loan with Crestmark Bank and our two loans with
Cherokee Financial, LLC), offset by other income related to gains
on certain liabilities and a small amount of interest income. Other
expense in the six months ended June 30, 2017 consisted of interest
expense (related to our line of credit and equipment loan with
Crestmark Bank and our loan and security agreement with Cherokee
Financial, LLC) offset by other income related to gains on certain
liabilities.
Results
of operations for the three months ended June 30,
2018,
compared
to the three months ended June 30, 2017
NET SALES:
Net sales for the three
months ended June 30, 2018 decreased $237,000, or 18.1%, when
compared to the three months ended June 30, 2017. The majority of
the sales decline is due to $236,000 in product sales to a
government account lost in the latter part of the year ended
December 31, 2017. The loss of this account is due to actions we
have alleged were taken by a former Vice President Sales &
Marketing/Sales Consultant (Todd Bailey) and, are the subject of
ongoing litigation. There was an additional $19,000 in lost
government product sales due to the expiration of a contract with
another government entity. Contract manufacturing sales also
contributed $14,000 to the sales loss with the anticipated
expiration of one of our contract manufacturing agreements in early
2018). In the six months ended June 30, 2018, we did see some
improvement in clinical markets and international sales, and we
also saw increased sales of our lower cost product alternative.
These improvements did minimally offset the declines.
GROSS PROFIT:
Gross profit decreased to
40.9% of net sales in the three months ended June 30, 2018, from
43.3% of net sales in the three months ended June 30, 2017. This
decrease in gross profit stems primarily from the fact that
decreased sales resulted in a decrease in the number of testing
strips made in the three months ended June 30, 2018 when compared
to the three months ended June 30, 2017. The majority of our labor
and overhead costs are fixed. When revenues decline, fewer testing
strips are produced; this results in a manufacturing inefficiency
(i.e. less fixed overhead cost absorption and a higher amount being
expensed through cost of goods). In addition, the low product
prices from foreign manufacturers have required us to decrease
pricing of our own products to be more competitive. We have taken
actions to adjust our production schedule to mitigate future
inefficiencies.
Operating expenses
decreased $92,000, or 15.7%, in the three months ended June 30,
2018 compared to the three months ended June 30, 2017. Expenses in
all operational areas of the Company decreased. More
specifically:
Research and development (“R&D”)
R&D
expense decreased $3,000, or 13.6%, when comparing the three months
ended June 30, 2018 with the three months ended June 30, 2017.
Decreased FDA compliance costs (associated with the timing of
actions taken related to our FDA marketing clearance application)
were the primary reason for the decline in expenses along with
decreased supplies expense. These declines in expense were
partially offset by an increase in R&D salaries (due to the
timing of a temporary leave by a R&D employee). In the six
months ended June 30, 2018 our R&D department primarily focused
their efforts on the evaluation and development of potential
contract manufacturing opportunities as well as maintenance of our
current product lines.
Selling and marketing
Selling
and marketing expense in the three months ended June 30, 2018
decreased $28,000, or 15.9% when compared to the three months ended
June 30, 2017. Postage expense decreased along with marketing
salaries and benefits (due to transitioning from an employee based
approach to internet marketing to the use of a consulting firm;
this expense savings was only nominally offset by an increase in
marketing consulting expense). These reductions were partially
offset by freight expense. In the three months ended June 30, 2018,
we promoted additional products (through relationships with third
parties) for the detection of alcohol, alternative sample options
for drug testing (such as lab based oral fluid testing and hair
testing) as well as toxicology management services and lower-cost
alternatives for onsite drug testing. The addition of these
offerings did not result in increased selling and marketing
expenses. In the three months ended June 30, 2018, we refocused our
efforts on further penetration of the clinical markets, took
efforts to re-enter the workplace market with oral fluid drug
testing options and increase our contract manufacturing
business.
General and administrative (“G&A”)
G&A
expense decreased $44,000, or 11.3%, in the three months ended June
30, 2018 when compared to G&A expense in the three months ended
June 30, 2017. Decreases in SEC report fees (due to a change in
vendor), QA salaries (due to retirement of an employee), QA
supplies, broker fees (due to timing of financing activities),
legal fees (due to timing of actions in the ABMC vs. Bailey et al
litigation), patents and licenses (due to less patent activity) and
share based a payment expense (due to less stock option
amortization in 2018) were offset by certain increases. Those
increases were in directors’ fees (due to a full board of
directors in 2018 versus vacancies in 2017), accounting fees (due
to an increase in our fee schedule with our current auditor), bank
service fees (as a result of the receipt of a waiver related to our
non-compliance with the TNW covenant for our line of credit) and
transfer agent fees.
Other income and expense:
Other
expense in the three months ended June 30, 2018 consisted of
interest expense associated with our credit facilities (our line of
credit and equipment loan with Crestmark Bank and our two loans
with Cherokee Financial, LLC), offset by other income related to
gains on certain liabilities and a small amount of interest income.
Other expense in the three months ended June 30, 2017 consisted of
interest expense (related to our line of credit and equipment loan
with Crestmark Bank and our loan and security agreement with
Cherokee Financial, LLC) offset by other income related to gains on
certain liabilities.
Liquidity and Capital Resources as of June 30, 2018
Our
cash requirements depend on numerous factors, including but not
limited to manufacturing costs (such as raw materials, equipment,
etc.), selling and marketing initiatives, product development
activities, regulatory costs, legal costs associated with current
litigation, and effective management of inventory levels and
production levels in response to sales history and forecasts. We
expect to devote capital resources related to selling and marketing
initiatives and we expect that we will incur increased legal costs
due to ongoing litigation in the year ending December 31, 2018. We
are examining other growth opportunities including strategic
alliances. Given our current and historical cash position, such
activities would need to be funded from the issuance of additional
equity or additional credit borrowings, subject to market and other
conditions. Our financial statements for the year ended December
31, 2017 were prepared assuming we will continue as a going
concern.
Our
current cash balances, together with cash generated from future
operations and amounts available under our credit facilities may
not be sufficient to fund operations through August 2019. Our
current line of credit expires on June 22, 2020 and has a maximum
availability of $1,500,000. However, the amount available under our
line of credit is based upon the balance of our accounts receivable
and inventory so, we do not have the maximum available to borrow.
As of June 30, 2018, based on our availability calculation, there
were no additional amounts available under our line of credit
because we draw any balance available on a daily basis. If sales
levels continue to decline, we will have reduced availability on
our line of credit due to decreased accounts receivable balances.
In addition, we would expect our inventory levels to continue to
decrease if sales levels decline further, which would result in
further reduced availability on our line of credit. In addition to
decreased inventory value, as a result of an amendment executed on
June 25, 2018, the amount available under the inventory component
of the line of credit was changed to 40% of eligible inventory plus
up to 10% of Eligible Generic Packaging Components not to exceed
the lesser of $250,000 (“Inventory Sub-Cap Limit”) or
100% of Eligible Accounts Receivable. In addition, the Inventory
Sub-Cap Limit will be permanently reduced by $10,000 per month
commencing on July 1, 2018 and on the first day of the month
thereafter until the Inventory Sub-Cap Limit is reduced to $0.
Although this “staggered” reduction will not have a
material immediate impact on our availability under the line of
credit, it will eventually result in no availability under the line
of credit related to inventory and it will be an accounts
receivable based line only.
If
availability under our line of credit is not sufficient to satisfy
our working capital and capital expenditure requirements, we will
be required to obtain additional credit facilities or sell
additional equity securities, or delay capital expenditures which
could have a material adverse effect on our business. There is no
assurance that such financing will be available or that we will be
able to complete financing on satisfactory terms, if at
all.
As of
June 30, 2018, we had the following debt/credit
facilities:
|
Facility
|
|
Debtor
|
Balance as of
June 30, 2018
|
|
Loan and Security
Agreement
|
|
Cherokee Financial,
LLC
|
$
975,000
|
|
Revolving Line of
Credit
|
|
Crestmark
Bank
|
$
596,000
|
|
Equipment
Loan
|
|
Crestmark
Bank
|
$
25,000
|
|
Term
Loan
|
|
Cherokee Financial,
LLC
|
$
150,000
|
|
Total
Debt
|
|
|
$
1,746,000
|
Working Capital
Our
working capital decreased $387,000 to $90,000 at June 30, 2018 from
$477,000 at December 31, 2017. This decrease in working capital is
primarily the result of decreased sales. We have historically
satisfied working capital requirements through cash from operations
and bank debt.
Dividends
We have
never paid any dividends on our common shares and anticipate that
all future earnings, if any, will be retained for use in our
business, and therefore, we do not anticipate paying any cash
dividends.
Cash Flow, Outlook/Risk
We have
taken steps (and will continue to take steps) to ensure that
operating expenses and manufacturing costs remain in line with
sales levels, however, we are incurring increased costs related to
litigation and other administrative requirements. In early 2018, we
also took steps (and will incur additional sales and marketing
expense) to further penetrate the rehabilitation/drug treatment,
pain management and other clinical markets. To offset these
investments, we consolidated job responsibilities in other areas of
the Company and this enabled us to implement personnel
reductions.
The
decline in sales has resulted in lower than average cash balances
and lower availability on our line of credit. Two large government
accounts (one of which was in the year ended December 31, 2017 and
the other in the year ended December 31, 2016) were lost due to
alleged actions on the part of a former Vice President Sales and
Marketing/Sales Consultant (Todd Bailey) and are the subject of
ongoing litigation. These two accounts represented approximately
$1,000,000 in annual sales to the Company (of which approximately
$800,000 will impact sales revenues in the year ending December 31,
2018 (when compared to the year ended December 31, 2017). Also, in
the early part of 2018, we had another government contract expire
and this is also contributing to the sales decline in the six
months ended June 30, 2018 (when compared to the six months ended
June 30, 2017). To address the declines, we are promoting new
products and service offerings to diversify our revenue stream.
These new products and services (through relationships with third
parties) include products for the detection of alcohol, alternative
sample options for drug testing (such as lab based oral fluid
testing and hair testing) as well as toxicology management services
and lower-cost alternatives for onsite drug testing. Also, a change
in the regulatory environment (due to certain exemptions set forth
by the U.S. Food and Drug Administration related to workplace and
insurance drug testing) has resulted in new efforts to re-enter the
workplace market with oral fluid drug testing options. And finally,
we are currently discussing a number of contract manufacturing
opportunities with other entities; one of which is expected to
generate sales starting in the 3rd or 4th quarter of
2018.
Our
ability to remain compliant with our obligations under our current
credit facilities will depend on our ability to replace lost sales
and further increase sales. Our ability to repay our current debt
may also be affected by general economic, financial, competitive,
regulatory, legal, business and other factors beyond our control,
including those discussed herein. If we are unable to meet our
credit facility obligations, we would be required to raise money
through new equity and/or debt financing(s) and, there is no
assurance that we would be able to find new financing, or that any
new financing would be at favorable terms.
We were
not in compliance with the TNW covenant under our Crestmark LOC as
of June 30, 2018; however, we received a waiver from Crestmark for
the quarter ended June 30, 2018. A failure to comply with the TNW
covenant under our Crestmark LOC (a failure that is not waived by
Crestmark) could result in an event of default, which, if not
cured, could result in the Company being required to pay much
higher costs associated with the indebtedness.
This
results in the Equipment Loan being due and payable if called by
Crestmark, however, Crestmark has not taken this action as of the
date of this report. If we are forced to refinance our debt on less
favorable terms, our results of operations and financial condition
could be adversely affected by increased costs and rates. We may
also be forced to pursue one or more alternative strategies, such
as restructuring, selling assets, reducing or delaying capital
expenditures or seeking additional equity capital. There can be no
assurances that any of these strategies could be implemented on
satisfactory terms, if at all.
If
events and circumstances occur such that 1) we do not meet our
current operating plans to increase sales, 2) we are unable to
raise sufficient additional equity or debt financing, or 3) our
credit facilities are insufficient or not available, we may be
required to further reduce expenses or take other steps which could
have a material adverse effect on our future
performance.