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CRYO CELL INTERNATIONAL INC - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations.(Edgar Glimpses Via Acquire Media NewsEdge) Overview The Company is engaged in cellular processing and cryogenic storage, with a current focus on the collection and preservation of umbilical cord (U-Cord®) blood stem cells for family use. The Company's principal sources of revenues are service fees for cord blood processing and preservation for new customers and recurring annual storage fees. The Company currently charges fees to new clients for the collection kit, processing and testing and return medical courier service, with discounts in the case of multiple children from the same family and in other circumstances. The Company currently charges an annual storage fee for new clients; storage fees for existing customers depend on the contracts with such customers. The Company also offers a one-time payment plan. The one-time plan includes the collection kit, processing and testing, return medical courier service and 21 years of pre-paid storage fees. The Company also receives other income from licensing fees and royalties from global affiliates domiciled outside of the United States of America. In recent years, the Company has expanded its research and development activities to develop technologies related to stem cells harvested from sources beyond umbilical cord blood stem cells. During 2007, much of the Company's research and development activities focused on the development of proprietary technology related to maternal placental stem cells (MPSCs). Also in 2006, the Company discovered novel technology related to menstrual stem cells. In November 2007, the Company announced the commercial launch of CélleSM service related to this patent-pending technology. The Company continues to focus independently-funded research and development activities through a vast network of research collaboration partners. During the six months ended May 31, 2011, total revenue increased 5% as compared to the same period in 2010. The Company reported net income of approximately $411,000, or $.03 per basic common share for the six months ended May 31, 2011 compared to net income of approximately $758,000 or $.06 per basic common share for the same period in 2010. The decrease in net income for the six months ended May 31, 2011 principally resulted from a 13% increase in marketing, general and administrative expenses, due mainly to the increase in sales and marketing initiatives, and a 1% increase in cost of sales due primarily to an 11% increase in specimens processed. In addition, research and development expenses were approximately $116,000 for the six months ended May 31, 2011, an increase of approximately $54,000 in comparison to the same period in 2010. As of May 31, 2011, the Company had cash and cash equivalents of $8,211,021. The Company's cash decreased by approximately $159,000 during the first six months of fiscal 2011, which was primarily attributable to the purchase of property and equipment, software and the investment in patents and trademarks. This was partially offset by operating cash flow which was primarily attributable to the Company's net income during the first six months of fiscal 2011. As of July 15, 2011, the Company maintains no long-term indebtedness. The Company retained the investment banking firm Morgan Joseph LLC in August 2010 to assist it in exploring potential strategic acquisitions that would fit within the Company's strategic growth plans. In the event the Company completes any acquisitions in the future it could impact its financial position and future results of operations. 21 -------------------------------------------------------------------------------- Table of Contents Results of Operations - Six Month Period Ended May 31, 2011 Compared to the Six Month Period Ended May 31, 2010 Revenues. Revenues for the six months ended May 31, 2011 were $9,073,831 as compared to $8,625,568 for the same period in 2010. The increase in revenue was primarily attributable to an 8% increase in processing and storage fees, which was partially offset by a 19% decrease in licensee income which was largely due to timing of the execution of licensee agreements and payment terms of up-front fees. Processing and Storage Fees. The increase in processing and storage fee revenue is primarily attributable to an increase in specimens processed of 11% and a 6% increase in recurring annual storage fee revenue, partially offset by an increase in sales discounts of 6% for fiscal 2011 compared to the 2010 period. Sales discounts represent discounts to returning clients and promotions offered to newly enrolled clients from time to time. Licensee Income. Licensee income for the six months ended May 31, 2011, was $627,390 as compared to $773,900 for the 2010 period. Licensee income for the six months ended May 31, 2011 primarily consisted of $607,621 in royalty income earned on the processing and storage of cord blood stem cell specimens in geographic areas where the Company has license agreements. The remaining licensee income of $19,769 related to installment payments of non-refundable up-front license fees from the licensees of the Company's U-Cord program in Nicaragua and Germany. Licensee income for the six months ended May 31, 2010 primarily consisted of $618,900 in royalty income earned on the processing and storage of cord blood stem cell specimens in geographic areas where the Company has license agreements. The remaining licensee income of $155,000 related to installment payments of non-refundable up-front license fees from the licensees of the Company's U-Cord program in Chile, Colombia, Peru, Nicaragua and Pakistan. Cost of Sales. Cost of sales for the six months ended May 31, 2011 was $2,265,278 as compared to $2,240,580 for the same period in 2010, representing a 1% increase. Cost of sales was 25% of revenues for the six months ended May 31, 2011 and 26% for the six months ended May 31, 2010. Cost of sales as a percentage of revenue has decreased for the six months ended May 31, 2011 as compared to the six months ended May 31, 2010. However, the Company cannot ensure that this trend will continue. Cost of sales includes wages and supplies associated with process enhancements to the existing production procedures and quality systems in the processing of cord blood specimens at the Company's facility in Oldsmar, Florida and depreciation expense of approximately $109,000 and $144,000 for the six months ended May 31, 2011 and 2010, respectively. The increase in cost of sales is primarily attributable to the 11% increase in specimens processed during the six months ended May 31, 2011 compared to the 2010 period and corresponding increase in lab supplies and testing fees. Marketing, General and Administrative Expenses. Marketing, general and administrative expenses for the six months ended May 31, 2011 were $5,216,294 as compared to $4,603,961 for the 2010 period representing a 13% increase. These expenses are primarily comprised of expenses for consumer advertising, salaries and wages for personnel and professional fees. The increase was due to increased fees for legal, consulting and outside services as well as increased selling expenses related to consumer advertising and customer service. We expect to incur significant additional costs in the remainder of 2011 associated with the proxy contest initiated by one of our stockholders. Research, Development and Related Engineering Expenses. Research, development and related engineering expenses for the six months ended May 31, 2011 were $116,279 as compared to $62,563 for the 2010 period representing an 86% increase. The expenses for the six months ended May 31, 2011 and 2010 are primarily comprised of expenses related to the continued commercialization of the Company's new stem cell technology, C'elle, which was launched in November 2007. The increase is due primarily to validations relating to the new cord tissue services and validations performed to optimize the C'elle process. 22 -------------------------------------------------------------------------------- Table of Contents Depreciation and Amortization. Depreciation and amortization (not included in Cost of Sales) for the six months ended May 31, 2011 was $160,016 compared to $146,798 for the 2010 period. The increase is due to the Company's purchases of property and equipment and the implementation of software during Q2 2011. Interest Expense. Interest expense during the six months ended May 31, 2011, was $791,430 compared to $719,825 during the comparable period in 2010. Interest expense is mainly comprised of amounts due to the parties to the Company's revenue sharing agreements ("RSAs") based on the Company's storage revenue. Also included in interest expense is the amortization of the present value of a deferred consulting agreement in the amount of $5,533 and $9,210 for the six months ended May 31, 2011 and 2010, respectively, as well as interest paid of $3,276 related to the installment payments made to Safti-Cell, Inc. for the Asset Purchase Agreement for the six months ended May 31, 2010. Equity in Losses of Affiliate. Equity in losses of affiliate was $56,212 for the six months ended May 31, 2011, compared to $33,773 for the 2010 period. Equity in losses of affiliate for the six months ended May 31, 2011 and 2010, solely consists of amounts related to compensation expense for stock option awards that were granted by Saneron to certain consultants and employees. Income Taxes. Deferred tax assets and liabilities are measured using enacted tax rates expected to be recovered or settled. The ultimate realization of our deferred tax assets depends upon generating sufficient future taxable income prior to the expiration of the tax attributes. In assessing the need for a valuation allowance, we must project future levels of taxable income. This assessment requires significant judgment. We examine the evidence related to the recent history of tax losses, the economic conditions which we operate and our forecasts and projections to make that determination. The Company records foreign income taxes withheld from installment payments of non-refundable up-front license fees and royalty income earned on the processing and storage of cord blood stem cell specimens in geographic areas where the Company has license agreements. The Company recorded $69,880 and $71,545 for the six months ended May 31, 2011 and 2010, respectively, of foreign income tax expense which is included in income tax expense in the accompanying consolidated statements of income. There was no U.S. income tax expense for the six months ended May 31, 2011 and for the same period in 2010. The Company did not record U.S. income tax expense during the six months ended May 31, 2011 or 2010 due to the utilization of net operating losses and foreign tax credit carryforwards, which were previously reserved through valuation allowances in the Company's financial statements. Results of Operations - Three Month Period Ended May 31, 2011 Compared to the Three Month Period Ended May 31, 2010 Revenues. Revenues for the three months ended May 31, 2011 were $4,601,026 as compared to $4,337,337 for the same period in 2010. The increase in revenue was primarily attributable to a 7% increase in processing and storage fees offset by a 7% decrease in licensee income which is due to non-recurring installment payments of non-refundable up-front license fees from the licensees of the Company's U-Cord program in Chile, Colombia, Peru, Nicaragua and Pakistan that were paid during the second quarter of fiscal 2010, but pursuant to the agreements with the licensees, were not required or payable during the 2011 period. 23 -------------------------------------------------------------------------------- Table of Contents Processing and Storage Fees. The increase in processing and storage fee revenue is primarily attributable to an increase in specimens processed of 11%, partially offset by a 7% increase in sales discounts as well a 4% increase in recurring annual storage fee revenue for the three months ended May 31, 2011 compared to the 2010 period. Sales discounts represent discounts to returning clients and promotions offered to newly enrolled clients. Licensee Income. Licensee income for the three months ended May 31, 2011, was $304,370 as compared to $326,758 for the 2010 period. Licensee income for the three months ended May 31, 2011 primarily consisted of $289,601 in royalty income earned on the processing and storage of cord blood stem cell specimens in geographic areas where the Company has license agreements. The remaining licensee income of $14,769 related to installment payments of non-refundable up-front license fees from the licensees of the Company's U-Cord program in Nicaragua and Germany. Licensee income for the three months ended May 31, 2010 consisted of $326,758 in royalty income earned on the processing and storage of cord blood stem cell specimens in geographic areas where the Company has license agreements. Cost of Sales. Cost of sales for the three months ended May 31, 2011 was $1,103,758 as compared to $1,147,912 for the same period in 2010, representing a 4% decrease. Cost of sales was 24% of revenues for the three months ended May 31, 2011 and 26% for the three months ended May 31, 2010. Cost of sales as a percentage of revenue has decreased for the three months ended May 31, 2011 as compared to the three months ended May 31, 2010. However, the Company cannot ensure that this trend will continue. Cost of sales includes wages and supplies associated with process enhancements to the existing production procedures and quality systems in the processing of cord blood specimens at the Company's facility in Oldsmar, Florida and depreciation expense of approximately $54,000 and $72,000 for the three months ended May 31, 2011 and 2010, respectively. The decrease in cost of sales is primarily attributable to the decrease in operational expenses during the three months ended May 31, 2011 compared to the 2010 period. Marketing, General and Administrative Expenses. Marketing, general and administrative expenses for the three months ended May 31, 2011 were $2,698,209 as compared to $2,283,017 for the 2010 period representing an 18% increase. These expenses are primarily comprised of expenses for consumer advertising, salaries and wages for personnel and professional fees. The increase was due to increased legal expenses associated with litigation and the upcoming annual meeting and expenses for consulting and outside services as well as increased selling expenses related to consumer advertising and customer service. We expect to incur significant additional costs in the remainder of 2011 associated with the proxy contest initiated by one of our stockholders and legal expenses associated with litigation matters. Research, Development and Related Engineering Expenses. Research, development and related engineering expenses for the three months ended May 31, 2011 were $80,657 as compared to $10,480 for the 2010 period. The expenses for the three months ended May 31, 2011 and 2010 are primarily comprised of expenses related to the continued commercialization of the Company's new stem cell technology, CélleSM, which was launched in November 2007. Depreciation and Amortization. Depreciation and amortization (not included in Cost of Sales) for the three months ended May 31, 2011 was $88,190 compared to $73,059 for the 2010 period. The increase is due to the Company's implementation of new software during Q2 2011. Interest Expense. Interest expense during the three months ended May 31, 2011, was $399,416 compared to $385,704 during the comparable period in 2010. Interest expense is mainly comprised of payments made to the other parties to the Company's RSAs based on the Company's storage revenue. Also included in interest expense is the amortization of the present value of a deferred consulting agreement in the amount of $2,743 and $4,739 for the three months ended May 31, 2011 and 2010, respectively, as well as interest paid of $1,638 related to the installment payments made to Safti-Cell, Inc. for the Asset Purchase Agreement for the three months ended May 31, 2010. 24 -------------------------------------------------------------------------------- Table of Contents Equity in Losses of Affiliate. Equity in losses of affiliate was $28,122 for the three months ended May 31, 2011, compared to $16,832 for the 2010 period. Equity in losses of affiliate for the three months ended May 31, 2011 and 2010, solely consists of amounts related to compensation expense for stock option awards that were granted by Saneron to certain consultants and employees. Income Taxes. Deferred tax assets and liabilities are measured using enacted tax rates expected to be recovered or settled. The ultimate realization of our deferred tax assets depends upon generating sufficient future taxable income prior to the expiration of the tax attributes. In assessing the need for a valuation allowance, we must project future levels of taxable income. This assessment requires significant judgment. We examine the evidence related to the recent history of tax losses, the economic conditions which we operate and our forecasts and projections to make that determination. The Company records foreign income taxes withheld from installment payments of non-refundable up-front license fees and royalty income earned on the processing and storage of cord blood stem cell specimens in geographic areas where the Company has license agreements. The Company recorded $31,019 and $38,323 for the three months ended May 31, 2011 and 2010, respectively, of foreign income tax expense, which is included in income tax expense in the accompanying consolidated statements of income. The decrease in foreign tax expense is attributable to the decrease in royalties recognized during the period ended May 31, 2011 compared to May 31, 2010. There was no U.S. income tax expense for the three months ended May 31, 2011 and for the same period in 2010. The Company did not record U.S. income tax expense during the second quarter of 2011 or 2010 due to the utilization of net operating losses and foreign tax credit carryforwards, which were previously reserved through valuation allowances in the Company's financial statements. Liquidity and Capital Resources Through May 31, 2011, the Company's principal source of cash has been from sales of its U-Cord® program to customers, the sale of license agreements and proceeds from licensees. Currently, the Company's cash flow is derived primarily from sales relating to its storage services, including the initial fee and ongoing storage fees. The Company does not expect a change in its principal source of cash flow. At May 31, 2011, the Company had cash and cash equivalents of $8,211,021 as compared to $8,369,537 at November 30, 2010. The decrease in cash and cash equivalents during the six months ended May 31, 2010 was primarily attributable to the following: Net cash provided by operating activities for the six months ended May 31, 2011 was $238,538, which was primarily attributable to the Company's net income and non-cash expenses, partially offset by increases in working capital components. Net cash provided by operating activities for the six months ended May 31, 2010 was $526,102, which was primarily attributable to the Company's operating activities, including the receipt of $155,000 in up-front license fees from the licensees of the Company's U-Cord program in Chile, Colombia, Peru, Nicaragua and Pakistan. 25 -------------------------------------------------------------------------------- Table of Contents Net cash used in investing activities for the six months ended May 31, 2010 was $402,525, which was primarily attributable to the costs associated with the application and development of patents and the purchase of property and equipment. Net cash used in investing activities for the six months ended May 31, 2010 was $447,183, which was primarily attributable to the costs associated with the application and development of patents, the purchase of property and equipment and investments in marketable securities. Net cash provided by financing activities for the six months ended May 31, 2011 was $5,471 due to the exercise of stock options. There was no cash provided by or used in financing activities during the first six months of fiscal 2010. The Company does not have a line of credit. The Company anticipates making non-discretionary capital expenditures of approximately $750,000 over the next twelve months for software enhancements and purchases of property and equipment. The Company anticipates funding future property and equipment purchases with cash-on-hand and cash flows from future operations. The Company anticipates that its cash and cash equivalents, marketable securities and cash flows from future operations will be sufficient to fund its known cash needs for at least the next 12 months. Cash flows from operations will depend primarily upon increasing revenues from sales of its umbilical cord blood cellular storage services and the Célle service, and managing discretionary expenses. If expected increases in revenues are not realized, or if expenses are higher than anticipated, the Company may be required to reduce or defer cash expenditures or otherwise manage its cash resources during the next 12 months so that they are sufficient to meet the Company's cash needs for that period. In addition, the Company may consider seeking equity or debt financing if deemed appropriate for its plan of operations, and if such financing can be obtained on acceptable terms. There is no assurance that any reductions in expenditures, if necessary, will not have an adverse effect on the Company's business operations, including sales activities and the development of new services and technology. Critical Accounting Policies The preparation of consolidated financial statements and related disclosures in conformity with accounting principles generally accepted in the United States requires estimates and assumptions that affect the reported amounts of assets and liabilities, revenues and expenses and related disclosures of contingent assets and liabilities in the consolidated financial statements and accompanying notes. The SEC has defined a company's critical accounting policies as the ones that are most important to the portrayal of the company's financial condition and results of operations, and which require the company to make its most difficult and subjective judgments, often as a result of the need to make estimates of matters that are inherently uncertain. The Company believes that its estimates and assumptions are reasonable under the circumstances; however, actual results may vary from these estimates and assumptions. We have identified the following critical accounting policies that affect the more significant judgments and estimates used in the preparation of the consolidated financial statements. Retrospective Adoption of New Accounting Principle In October 2009, the Financial Accounting Standards Board ("FASB") issued an Accounting Standard Update ("ASU"), which addresses the accounting for multiple deliverable arrangements to enable vendors to account for products or services separately rather than as a combined unit and modified the manner in which the transaction consideration is allocated across the separately identified deliverables. The new accounting standard permits prospective or retrospective adoption, and the Company elected retrospective adoption during the first quarter of 2011. 26 -------------------------------------------------------------------------------- Table of Contents Under the historical accounting principle, the Company would have used the residual method to allocate revenue between processing and storage since (a) each of the products has value to the customer on a standalone basis and (b) vendor-specific objective evidence of fair value ("VSOE") existed for the undelivered service, storage, and (c) there is no general right of return to consider. As a result, the Company was permitted to allocate the initial sales discounts given to clients upon processing a specimen entirely to the processing fee. The new accounting principle requires the Company to establish a hierarchy to determine the selling price to be used for allocating revenue to deliverables as follows: (i) VSOE, (ii) third-party evidence of selling price ("TPE"), and (iii) best estimate of the selling price ("ESP"). VSOE generally exists only when the Company sells the deliverable separately and is the price actually charged by the Company for that deliverable. The new accounting principle also requires that any discounts given to the customer, be recognized by applying the relative selling price method whereby after the Company determines the selling price to be allocated to each deliverable (processing and storage), the sum of the prices of the deliverables is then compared to the arrangement consideration, and any difference is applied to the separate deliverables ratably. The Company had the option of adopting the new accounting principle on a prospective or retrospective basis. Prospective adoption would have required the Company to apply the new accounting principle to sales beginning in fiscal year 2011 without reflecting the impact of the new accounting principle on sales made prior to December 1, 2010. The Company believes prospective adoption would have resulted in financial information that was not comparable between financial periods because of the significant amount of past discounts given; therefore, the Company elected retrospective adoption. Retrospective adoption required the Company to revise its previously issued financial statements as if the new accounting principle had always been applied. The Company believes retrospective adoption provides the most comparable and useful financial information for financial statement users, is more consistent with the information the Company's management uses to evaluate its business, and better reflects the underlying economic performance of the Company. Note 1, "Basis of Presentation" under the subheadings "Retrospective Adoption of New Accounting Principle" and "Revenue Recognition for Arrangements with Multiple Deliverables" as well as Note 7, "Retrospective Adoption of New Accounting Principle" of this Form 10-Q provides additional information on the Company's change in accounting resulting from the adoption of the new accounting principle and the Company's revenue recognition accounting policy. Revenue Recognition Revenue Recognition for Arrangements with Multiple Deliverables For multi-element arrangements, the Company allocates revenue to all deliverables based on their relative selling prices. In such circumstances, the new accounting principle establish a hierarchy to determine the selling price to be used for allocating revenue to deliverables as follows: (i) vendor-specific objective evidence of fair value ("VSOE"), (ii) third-party evidence of selling price ("TPE"), and (iii) best estimate of the selling price ("ESP"). VSOE generally exists only when the Company sells the deliverable separately and is the price actually charged by the Company for that deliverable. 27 -------------------------------------------------------------------------------- Table of Contents The Company has identified two deliverables generally contained in the arrangements involving the sale of its U-Cord® product. The first deliverable is the processing of a specimen. The second deliverable is either the annual storage of a specimen or the 21 year storage fee charged for a specimen. The Company has allocated revenue between these deliverables using the relative selling price method. The Company has VSOE for its annual storage fees as the Company renews storage fees annually with its customers on a standalone basis. Because the Company has neither VSOE nor TPE for the processing and 21 year storage deliverables, the allocation of revenue has been based on the Company's ESPs. Amounts allocated to processing a specimen are recognized at the time of sale. Amounts allocated to the storage of a specimen are recognized ratably over the contractual storage period. Any discounts given to the customer are recognized by applying the relative selling price method whereby after the Company determines the selling price to be allocated to each deliverable (processing and storage), the sum of the prices of the deliverables is then compared to the arrangement consideration, and any difference is applied to the separate deliverables ratably. The Company's process for determining its ESP for deliverables without VSOE or TPE considers multiple factors that may vary depending upon the unique facts and circumstances related to each deliverable. Key factors considered by the Company in developing the ESPs for its processing and 21 year storage fee include the Company's historical pricing practices as well as expected profit margins. The Company records revenue from processing and storage of specimens and pursuant to agreements with licensees. The Company recognizes revenue from processing fees upon completion of processing and recognizes storage fees ratably over the contractual storage period (1 or 21 years), as well as, licensee income from royalties paid by licensees related to storage contracts which the Company has under license agreements. Contracted storage periods can range from one to twenty-one years. Deferred revenue on the accompanying consolidated balance sheets includes the portion of the annual storage fee and the twenty-one year storage fee that is being recognized over the contractual storage period as well as royalties received from foreign licensees related to long-term storage contracts in which the Company has future obligations under the license agreement. The Company classifies deferred revenue as current if the Company expects to recognize the related revenue over the next 12 months. License and Royalty Agreements The Company has entered into licensing agreements with certain investors in various international markets in an attempt to capitalize on the Company's technology. The investors typically pay a licensing fee to receive Company marketing programs, technology and know-how in a selected area. The investor may be given a right to sell sub-license agreements as well. As part of the accounting for the up-front license revenue, revenue from the up-front license fee is recognized based on such factors as when the payment is due, collectability and when all material services or conditions relating to the sale have been substantially performed based on the terms of the agreement. The Company has twenty four active licensing agreements. The following areas each have one license agreement: Mexico, El Salvador, Guatemala, Ecuador, Panama, Honduras, China, Pakistan, Chile, Colombia, Peru, Bonaire, St. Maarten, Aruba and Suriname. The following areas each have two license agreements: Venezuela, India, Nicaragua, Curacao and Costa Rica. In addition to the license fee, the Company earns royalties on subsequent processing and storage revenues received by the licensee in the selected area and a fee on any sub-license agreements that are sold by the licensee where applicable. The Company also processes and stores specimens sent directly from customers of sub-licensees in Mexico, Central America, Ecuador, Nicaragua, Pakistan and Venezuela. These fees are included in processing and storage fees revenue on the consolidated statements of income. As part of the accounting for royalty revenue, the Company uses estimates and judgments based on historical processing and storage volume in determining the timing and amount of royalty revenue to recognize. The Company periodically reviews license and royalty receivables for collectability and, if necessary, will record an expense for an allowance for uncollectible accounts. If the financial condition of the Company's sub-licensees were to deteriorate beyond the estimates, the Company may have to increase the allowance for doubtful accounts which could have a negative impact on earnings. If the licensee's customer base were to decrease, it would negatively impact the Company's ongoing license income. 28 -------------------------------------------------------------------------------- Table of Contents Accounts Receivable Accounts receivable consist of the amounts due from clients that have enrolled and processed in the U-Cord® processing and storage program and amounts due from licensee affiliates and do not require collateral. Accounts receivable due from clients and license affiliates that store specimens at the Company's facility in Oldsmar, Florida are due within 30 days and are stated at amounts due from clients net of an allowance for doubtful accounts. Accounts outstanding longer than the contractual payment terms are considered past due. The Company determines its allowance by considering the length of time accounts receivable are past due, the Company's previous loss history, and the customer's and licensees' current ability to pay its obligations. Therefore, if the financial condition of the Company's clients were to deteriorate beyond the estimates, the Company may have to increase the allowance for doubtful accounts which could have a negative impact on earnings. The Company writes-off accounts receivable when they become uncollectible, and payments subsequently received on such receivables are credited to the allowance for doubtful accounts. Income Taxes Deferred income tax assets and liabilities are recognized for the estimated future tax consequences attributable to differences between financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred income tax assets and liabilities are measured using enacted tax rates expected to be recovered or settled. The Company has recorded a valuation allowance of $6,866,000 and $7,136,000 as of May 31, 2011 and November 30, 2010, respectively, as the Company does not believe it is "more likely than not" that the future income tax benefits will be realized. When the Company changes its determination as to the amount of deferred tax assets that can be realized, the valuation allowance is adjusted with a corresponding impact to income tax expense in the period in which such determination is made. The ultimate realization of the Company's deferred tax assets depends upon generating sufficient taxable income prior to the expiration of the tax attributes. In assessing the need for a valuation allowance, the Company projects future levels of taxable income. This assessment requires significant judgment. We examine the evidence related to the recent history of losses, the economic conditions in which we operate and our forecasts and projections to make that determination. The Company records foreign income taxes withheld from installment payments of non-refundable up-front license fees and royalty income earned on the processing and storage of cord blood stem cell specimens in geographic areas where the Company has license agreements. Investment in Saneron The Company made a significant investment in an entity that is involved in the area of stem cell research. The Company accounts for this investment under the equity method, and reviews annually to determine if an other than temporary impairment exists. The Company previously recorded equity in losses of affiliate until the investment balance was zero and only goodwill remained. The investment is reviewed annually to determine if an other than temporary impairment exists. The Company does not believe that an impairment exists as of May 31, 2011 and November 30, 2010. If actual future results are not consistent with the Company's assumptions and estimates, the Company may be required to record impairment charges in the future which could have a negative impact on earnings. 29 -------------------------------------------------------------------------------- Table of Contents Patents The Company incurs certain legal and related costs in connection with patent and trademark applications. If a future economic benefit is anticipated from the resulting patent or trademark or an alternate future use is available to the Company, such costs are capitalized and amortized over the expected life of the patent or trademark. The Company's assessment of future economic benefit involves considerable management judgment. A different conclusion could result in the reduction of the carrying value of these assets. Revenue Sharing Agreements The Company has entered into Revenue Sharing Agreements ("RSAs") with various parties whereby these parties contracted with the Company for a percentage of future storage revenues the Company generates and collects from clients in specific geographical areas. The RSAs have no definitive term or termination provisions. The sharing applies to the storage fees for all specified specimens in the area up to the number covered in the contract. When the number of specimens is filled, any additional specimens stored in that area are not subject to revenue sharing. As there are empty spaces resulting from attrition, the Company agrees to fill them as soon as possible. The parties typically pay the Company a non-refundable up-front fee for the rights to these future payments. The Company recognized these non-refundable fees as a long-term liability. Given the criteria under which these RSAs are established, cash flows related to these contracts can fluctuate from period to period. All payments made to the other parties to the RSAs are recognized as interest expense. At such time as the total payments can be determined, the Company will commence amortizing these liabilities under the effective interest method. The Company does not intend to enter into additional RSAs. Off-Balance Sheet Arrangements The Company has no off-balance sheet arrangements that have or are reasonable likely to have a current or future effect on its financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors. Forward-Looking Statements This Form 10-Q, press releases and certain information provided periodically in writing or orally by the Company's officers or its agents may contain statements which constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended and Section 21E of the Securities Exchange Act of 1934, as amended. The terms "Cryo-Cell International, Inc.," "Cryo-Cell," "Company," "we," "our" and "us" refer to Cryo-Cell International, Inc. The words "expect," "anticipate", "believe," "goal," "strategy", "plan," "intend," "estimate" and similar expressions and variations thereof, if used, are intended to specifically identify forward-looking statements. Those statements appear in a number of places in this Form 10-Q and in other places, and include statements regarding the intent, belief or current expectations of the Company, its directors or its officers with respect to, among other things: (i) our future performance and operating results; 30 -------------------------------------------------------------------------------- Table of Contents (ii) our future operating plans; (iii) our liquidity and capital resources; and (iv) our financial condition, accounting policies and management judgments. Investors and prospective investors are cautioned that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those projected in the forward-looking statements as a result of various factors. The factors that might cause such differences include, among others, the risk factors set forth in Part I, "Item 1A. Risk Factors" of our most recent Annual Report on Form 10-K and the following: (i) any adverse effect or limitations caused by recent increases in government regulation of stem cell storage facilities; (ii) any increased competition in our business including increasing competition from public cord blood banks particularly in overseas markets but also in the U.S.; (iii) any decrease or slowdown in the number of people seeking to store umbilical cord blood stem cells or decrease in the number of people paying annual storage fees; (iv) market acceptance of our CélleSM service will require publication of scientific studies, consumer awareness, and the development of new therapies from the CélleSM technology, none of which are certain; (v) any new services relating to other types of stem cells that have not yet been offered commercially, and there is no assurance that other stem cell services will be launched or will gain market acceptance; (vi) any adverse impacts on revenue or operating margins due to the costs associated with increased growth in our business, including the possibility of unanticipated costs relating to the operation of our facility and costs relating to the commercial launch of the placental stem cell service offering or any other new types of stem cells; (vii) any unique risks posed by our international activities, including but not limited to local business laws or practices that diminish our affiliates' ability to effectively compete in their local markets; (viii) any technological or medical breakthroughs that would render our business of stem cell preservation obsolete; (ix) any material failure or malfunction in our storage facilities; or any natural disaster or act of terrorism that adversely affects stored specimens; (x) any adverse results to our prospects, financial condition or reputation arising from any material failure or compromise of our information systems; 31 -------------------------------------------------------------------------------- Table of Contents (xi) the costs associated with defending or prosecuting litigation matters, particularly including litigation related to intellectual property, and any material adverse result from such matters; (xii) any negative consequences resulting from deriving, shipping and storing specimens at a second location; (xiii) current market, business and economic conditions in general and in our industry in particular; (xiv) the success of our licensing agreements and their ability to provide us with royalty fees; (xv) any difficulties and increased expense in enforcing our international licensing agreements; (xvi) any adverse performance by or relations with any of our licensees; (xvii) any inability to enter into new licensing arrangements including arrangements with non-refundable upfront fees; (xviii) any inability to realize cost savings as a result of recent acquisitions; (xix) any inability to realize a return on an investment; (xx) any increased U.S. income tax expense as a result of inability to utilize or exhaustion of net operating losses; (xxi) any adverse impact on our revenues as a result of greater emphasis in the future on the promotion of our CélleSM service and any shifting of our marketing dollars towards our CélleSM service; (xxii) any adverse impact on our revenues and operating margins as a result of discounting of our services in order to generate new business in tough economic times where consumers are selective with discretionary spending; (xxiii) the success of our global expansion initiatives; (xxiv) our actual future ownership stake in future therapies emerging from our collaborative research partnerships; (xxv) the ability of our Cryology Reproductive Tissue Storage SM services to generate new revenues; (xxvi) our ability to minimize our future costs related to R&D initiatives and collaborations and the success of such initiatives and collaborations; (xxvii) any inability to successfully identify and consummate strategic acquisitions; (xxviii) any inability to realize benefits from any strategic acquisitions; 32 -------------------------------------------------------------------------------- Table of Contents (xxix) the costs associated with proxy contests and its impact on our business and (xxx) other factors many of which are beyond our control. We undertake no obligation to publicly update or revise the forward-looking statements made in this Form 10-Q to reflect events or circumstances after the date of this Form 10-Q or to reflect the occurrence of unanticipated events. Readers are cautioned not to place undue reliance on these forward-looking statements, which reflect management's analysis only as of the date hereof. Cryo-Cell International, Inc. undertakes no obligation to publicly revise these forward-looking statements to reflect events or circumstances that arise after the date hereof. Readers should carefully review the risk factors described in other documents the Company files from time to time with the Securities and Exchange Commission, including the Annual Report on Form 10-K filed by the Company and any Current Reports on Form 8-K filed by the Company |