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ADVANSOURCE BIOMATERIALS CORP - 10-K -(Edgar Glimpses Via Acquire Media NewsEdge) Management's Discussion and Analysis or Plan of Operation Forward-Looking Statements This Report on Form 10-K contains certain statements that are "forward-looking" within the meaning of the Private Securities Litigation Reform Act of 1995 (the "Litigation Reform Act"). These forward looking statements and other information are based on our beliefs as well as assumptions made by us using information currently available. The words "anticipate," "believe," "estimate," "expect," "intend," "will," "should" and similar expressions, as they relate to us, are intended to identify forward-looking statements. Such statements reflect our current views with respect to future events and are subject to certain risks, uncertainties and assumptions. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those described herein as anticipated, believed, estimated, expected, intended or using other similar expressions. In accordance with the provisions of the Litigation Reform Act, we are making investors aware that such forward-looking statements, because they relate to future events, are by their very nature subject to many important factors that could cause actual results to differ materially from those contemplated by the forward-looking statements contained in this Report on Form 10-K. For example, we may encounter competitive, technological, financial and business challenges making it more difficult than expected to continue to develop and market our products; the market may not accept our existing and future products; we may not be able to retain our customers; we may be unable to retain existing key management personnel; and there may be other material adverse changes in our operations or business. Certain important factors affecting the forward-looking statements made herein also include, but are not limited to (i) continued downward pricing pressures in our targeted markets, (ii) the continued acquisition of our customers by certain of our competitors, and (iii) continued periods of net losses, which could require us to find additional sources of financing to fund operations, implement our financial and business strategies, meet anticipated capital expenditures and fund research and development costs. In addition, assumptions relating to budgeting, marketing, product development and other management decisions are subjective in many respects and thus susceptible to interpretations and periodic revisions based on actual experience and business developments, the impact of which may cause us to alter our marketing, capital expenditure or other budgets, which may in turn affect our financial position and results of operations. For all of these reasons, the reader is cautioned not to place undue reliance on forward-looking statements contained herein, which speak only as of the date hereof. In addition, you should read and carefully consider the Risk Factors discussed in Part I, Item 1A of this Form 10-K. We assume no responsibility to update any forward-looking statements as a result of new information, future events, or otherwise except as required by law. Overview We develop advanced polymer biomaterials which provide critical characteristics in the design and development of medical devices. Our biomaterials are used in devices that are designed for treating a broad range of anatomical sites and disease states. Our business model leverages our proprietary materials science technology and manufacturing expertise in order to expand our product sales and royalty and license fee income. Fiscal Year Our fiscal year ends on March 31. Reference in this annual report on Form 10-K to a fiscal year is reference to the fiscal year ended March 31. For example, references to "fiscal 2014" or our "2014 fiscal year" refer to the fiscal year ended March 31, 2014. - 21 - --------------------------------------------------------------------------------Critical Accounting Policies Our significant accounting policies are summarized in Note B to our consolidated financial statements. However, certain of our accounting policies require the application of significant judgment by our management, and such judgments are reflected in the amounts reported in our consolidated financial statements. In applying these policies, our management uses its judgment to determine the appropriate assumptions to be used in the determination of estimates. Those estimates are based on our historical experience, terms of existing contracts, our observance of market trends, information provided by our strategic partners and information available from other outside sources, as appropriate. Actual results may differ significantly from the estimates contained in our consolidated financial statements. Our critical accounting policies are as follows: · Revenue Recognition. We recognize revenue from product sales upon shipment, provided that a purchase order has been received or a contract has been executed, there are no uncertainties regarding customer acceptance, the sales price is fixed or determinable and collection is deemed reasonably assured. If uncertainties regarding customer acceptance exist, we recognize revenue when those uncertainties are resolved and title has been transferred to the customer. Amounts collected or billed prior to satisfying the above revenue recognition criteria are recorded as deferred revenue. We also receive license, royalty and development fees, pursuant to agreements with our customers, for the use of our proprietary polymer biomaterials. The terms of the various license, royalty and development agreements may contain multiple deliverables which may include (i) licenses to use our polymer biomaterials in the customer's end-product medical device, (ii) research and development activities, (iii) services and/or (iv) the manufacturing of polymer biomaterials. Payments to us under these agreements may include non-refundable license fees, payments for research and development activities, payments for the manufacture of polymer materials, payments based upon the achievement of certain milestones, payments for the use of our polymer biomaterials in the customer's end-product, and/or royalties earned on the sale of the customer's end-product. · Accounts Receivable Valuation. We perform various analyses to evaluate accounts receivable balances and record an allowance for bad debts based on the estimated collectability of the accounts such that the amounts reflect estimated net realizable value. Account balances are charged off against the allowance after significant collection efforts have been made and potential for recovery is not considered probable. · Inventory Valuation. We value our inventory at the lower of our actual cost or the current estimated market value. We regularly review inventory quantities on hand and inventory commitments with suppliers and record a provision for excess and obsolete inventory based primarily on our historical usage for the prior twelve-month period. Although we make every effort to ensure the accuracy of our forecasts of future product demand, any significant unanticipated change in demand or technological developments could have a significant impact on the value of our inventory and our reported operating results. · Long-Lived Assets. We evaluate our long-lived assets, which includes property and equipment, for impairment as events and circumstances indicate that the carrying amount may not be recoverable. We evaluated the realizability of our long-lived assets based primarily on reviews of results of sales of similar assets and independent appraisals. As a result of the indicators of impairment described above, we evaluated the recoverability of our property and equipment as of March 31, 2014 and 2013 and determined that there existed no impairment of our long-lived assets. - 22 - -------------------------------------------------------------------------------- · Stock-Based Compensation. We make certain assumptions in order to value our stock-based compensation. The valuation of employee stock options is an inherently subjective process, since market values are generally not available for long-term, non-transferable employee stock options. Accordingly, an option pricing model is utilized to derive an estimated fair value. In calculating the estimated fair value of our stock options we use the Black-Scholes pricing model, which requires the consideration of the following six variables for purposes of estimating fair value: · the stock option exercise price; · the expected term of the option; · the grant date price of our common stock, which is issuable upon exercise of the option; · the expected volatility of our common stock; · the expected dividends on our common stock (we do not anticipate paying dividends in the foreseeable future); and · the risk free interest rate for the expected option term. We are also required to estimate the level of pre-vesting award forfeitures expected to occur and record compensation expense only for those awards that are ultimately expected to vest. This requirement applies to all awards that are not yet vested. Due to the limited number of unvested options outstanding, the majority of which are held by executives and members of our Board of Directors, we have estimated a zero forfeiture rate. We will revisit this assumption periodically and as changes in the composition of our option pool dictate. Changes in the inputs and assumptions, as described above, can materially affect the estimated fair value of our share-based awards. We anticipate the amount of stock-based compensation to increase in the future as additional options are granted. As of March 31, 2014, there was approximately $29,000 of unrecognized compensation cost related to stock option awards that is expected to be recognized as expense over a weighted-average period of 2.42 years. Results of Operations Fiscal Year Ended March 31, 2014 vs. March 31, 2013 Revenues Total revenues for the fiscal year ended March 31, 20143 were $2,626,000 as compared with $2,195,000 for the comparable prior year period, an increase of $431,000, or 19.6%. Product sales of our biomaterials for the fiscal year ended March 31, 2014 were $1,771,000 as compared with $1,420,000 for the comparable prior year period, an increase of $351,000, or 24.7%. The increase is due to the growth in product sales from existing and new customers. License, royalty and development fees for the fiscal year ended March 31, 2014 were $855,000 as compared with $775,000 for the comparable prior year period, an increase of $80,000 or 10.3%. We have agreements to license our proprietary biomaterial technology to medical device manufacturers and develop biomaterials for incorporation into medical devices under development by our customers. Royalties are earned when these manufacturers sell medical devices which use our biomaterials. The increase in license, royalty and development fees is due primarily to $380,000 in fees received from a major international developer and manufacturer of medical devices pursuant to i) the achievement of certain milestones pursuant to the original non-exclusive license and consulting services agreements and ii) fees pursuant to the amendment of the non-exclusive license and consulting services agreements. This increase was offset by an approximate $293,000 decrease in fees from one domestic customer as a result of the i) termination of exclusivity fees and ii) reduction in royalty and product minimums pursuant to an amendment to a continuing royalty and product supply agreement. For the year ended March 31, 2014, three customers represented 34%, 20% and 10% of our total revenues, respectively. For the year ended March 31, 2013, three customer represented 30%, 17% and 13%, respectively, of our total revenues. We expect that this concentration of our customer base will continue for the foreseeable future. - 23 - --------------------------------------------------------------------------------Gross Profit Gross profit on total revenues for the fiscal year ended March 31, 2014 was $1,620,000, or 61.7% of total revenues, compared with $1,382,000, or 63.0% of total revenues, for the comparable prior year period. The increase in gross profit dollars is primarily due to the effect of the increase in product sales and licensing fees. The slight decrease in gross profit as a percentage of total revenues is due to increased product sales, which has a lower margin than license, royalty and development fees. Gross profit on product sales for the fiscal year ended March 31, 2014 was $765,000, or 43.2% of product sales, compared with $607,000, or 42.8% of product sales, for the comparable prior year period. The increase in gross profit dollars and gross profit as a percentage of product sales is primarily due to the improved absorption of fixed overhead costs resulting from the increase in product sales volume. Research, Development and Regulatory Expenses Research and development expenses for the fiscal year ended March 31, 2014 were $394,000 as compared with $444,000 for the comparable prior year period, a decrease of $50,000 or 11.3%. Our research and development efforts are focused on developing new applications for our biomaterials. Research and development expenditures consisted primarily of the salaries of full time employees and related expenses, and are expensed as incurred. The decrease in research and development expenses is primarily a result of the elimination of non-essential departmental resources. Management believes its current research and development resources meet the needs of our customers and internal development needs. Selling, General and Administrative Expenses Selling, general and administrative expenses for the fiscal year ended March 31, 2014 were $1,433,000 as compared with $1,609,000 for the comparable prior year period, a decrease of $176,000 or 10.9%. The decrease is primarily due to reductions in administrative consulting costs, trade show related costs, and board of director fees. Interest Expense and Other Income, Net Interest expense and other income, net for the fiscal year ended March 31, 2014 were $314,000 as compared to $340,000 for the comparable prior year period. During the fiscal year ended March 31, 2014, interest expense is composed of i) $280,000 of cash paid in connection with the financing obligation, ii) $48,000 of interest accrued in connection with the financing obligation and iii) $7,000 of amortized deferred financing costs. Additionally, the increase in interest expense is attributable to approximately $10,000 of stock-based compensation ascribed to the warrants issued in connection with the August 22, 2013 Note and Warrant financing transaction. Other income is primarily a result of i) a gain on sale of equipment of approximately $36,000 and ii) other income of approximately $8,000 realized from the favorable settlement of an obligation to one vendor. During the fiscal year ended March 31, 2013, interest expense is primarily composed of i) $280,000 of cash paid in connection with the financing obligation, ii) $53,000 of interest accrued in connection with the financing obligation and iii) $7,000 of amortized deferred financing costs. Income Taxes We did not record a tax provision in either of the years ended March 31, 2014 and 2013. As of March 31, 2014, we had federal and state net operating loss carry forwards available to offset future taxable income of approximately $26,325,000, expiring between 2020 and 2034, and $8,700,000, expiring between 2015 and 2028, respectively. As of March 31, 2014, we had a capital loss carry forward available to offset future taxable income of approximately $316,000, expiring 2015. As of March 31, 2014, we had federal and state investment and research tax credit carry forwards available to offset future taxable income of approximately $126,000, expiring between 2020 and 2034, and $232,000, expiring between 2015 and 2028, respectively. We evaluate the realizability of our deferred tax assets and establish a valuation allowance when it is more likely than not that all or a portion of deferred tax assets will not be realized. We account for uncertain tax positions using a "more-likely-than-not" threshold for recognizing and resolving uncertain tax positions. The evaluation of uncertain tax positions is based on factors including, but not limited to, changes in tax law, the measurement of tax positions taken or expected to be taken in tax returns, the effective settlement of matters subject to audit, new audit activity and changes in facts or circumstances related to a tax position. We evaluate this tax position on a quarterly basis. We also accrue for potential interest and penalties, if applicable, related to unrecognized tax benefits in income tax expense. - 24 - --------------------------------------------------------------------------------Liquidity and Capital Resources As of March 31, 2014, we had cash of $268,000, an increase of $165,000 when compared with a balance of $103,000 as of March 31, 2013. During the fiscal year ended March 31, 2014, we had net cash inflows of $119,000 from operating activities as compared with net cash outflows of $484,000 for the comparable prior year period. Our uses of cash for operating activities have primarily consisted of salaries and wages for our employees; facility and facility-related costs, material and overhead costs used in production, laboratory supplies and materials, and professional fees. The sources of our cash flows from operating activities have consisted primarily of payments received from customers on the sale of polymer products and fees earned on license, royalty and development agreements. Net cash flows provided by operating activities improved by approximately $603,000, as compared to the comparable prior year period, primarily due to (i) increased product sales and gross margins on product sales; ii) timely collection of receivables; iii) extended payment terms with certain vendors; iv) elimination of administrative consultants and reduction of board of director fees; and v) receipt of cash in connection with the amendment of certain license and consulting agreements with a major international developer and manufacturer of medical devices. These cash inflows were offset by our net loss for the period. During the fiscal year ended March 31, 2014, we had net cash inflows from investing activities of $8,000 related to the sale of equipment, which were offset by the payment of deposits on the building lease. Net cash outflows of $10,000 during the fiscal year ended March 31, 2013 were due to the payment of deposits on the building lease. During the fiscal year ended March 31, 2014, we had net cash inflows of $38,000 from financing activities as compared to $113,000 for the comparable prior year period. The net cash flows from financing activities of $38,000 during the fiscal year ended March 31, 2014 were provided by approximately $48,000 of accrued interest on financing obligations and the proceeds of $100,000 from the issuance of the promissory notes. These cash inflows were offset by the repayment of i) $60,000 of the related party payable and ii) $50,000 of the promissory notes. The net cash flows from financing activities of $113,000 during the fiscal year ended March 31, 2013 were provided by approximately $48,000 of accrued interest on financing obligations and $60,000 of related party payable. There were no options or warrants exercised during the fiscal years ended March 31, 2014 and 2013. On December 22, 2011, we entered into an agreement with an independent third-party under which we sold and leased back our land and building generating gross proceeds of $2,000,000. The initial minimum lease term is 15 years. At the end of the initial minimum lease term, we have the option to renew the lease for three periods of five years each. Under the terms of the lease, we have provided, as collateral, a security interest in all furnishings, fixtures and equipment owned and used by us, having a net book value of approximately $38,000 as of March 31, 2014. For accounting purposes, the provision of such collateral constitutes continuing involvement with the associated property. Due to this continuing involvement, this sale-leaseback transaction is accounted for under the financing method, rather than as a completed sale. Under the financing method, we include the sales proceeds received as a financing obligation. The building, building improvements and land remain on the consolidated balance sheet and the building and building improvements will continue to be depreciated over their remaining useful lives. Payments made under the lease are applied as payments of imputed interest and deemed principal on the underlying financing obligation. The ability to attract additional capital investments in the future will depend on many factors, including the availability of credit, rate of revenue growth, the expansion of selling and marketing and research and development activities, and the timing of new product introductions and enhancements to existing products. We believe that as of March 31, 2014 our cash position and cash flows from our fiscal 2015 operations will be sufficient to fund our working capital and research and development activities for at least the next twelve months. Any potential future sale of equity or debt securities may result in dilution to our stockholders, and we cannot be certain that additional public or private financing will be available in amounts or on terms acceptable to us, or at all. If we are required to raise additional financing, but are unable to obtain such financing, we may be required to delay, reduce the scope of, or eliminate one or more aspects of our operations or business development activities. - 25 - --------------------------------------------------------------------------------Off-Balance Sheet Arrangements As of March 31, 2014, we did not have any off-balance sheet arrangements that have, or are reasonably likely to have, a current or future material effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources. Item 7A. |