BIOMERICA INC 10-K

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS You should read the following discussion and analysis in conjunction with our consolidated financial statements and the accompanying notes thereto included in Part II, Item 8 of this Report. This discussion and analysis contains forward-looking statements that are based on our management’s current beliefs and assumptions, which statements are subject to substantial risks and uncertainties. Our actual results may differ materially from those expressed or implied by these forward-looking statements as a result of many factors, including those discussed in “Risk Factors” included in Part I, Item 1A of this Report. OVERVIEW Biomerica, Inc. and its subsidiaries (which includes wholly-owned subsidiaries, Biomerica de Mexico and BioEurope GmbH), is a biomedical technology company that develops, patents, manufactures and markets advanced diagnostic and therapeutic products used at the point-of-care (physicians’ offices and over-the-counter through drugstores and online) and in hospital/clinical laboratories for detection and/or treatment of medical conditions and diseases. Our diagnostic test kits are used to analyze blood, urine, nasal, or fecal material from patients in the diagnosis of various diseases, food intolerances and other medical complications, or to measure the level of specific hormones, antibodies, antigens, or other substances, which may exist in the human body in extremely small concentrations. The Company’s products are designed to enhance the health and well-being of people, while reducing total healthcare costs. Our primary focus is the research, development, commercialization and in certain cases regulatory approval, of patented, diagnostic-guided therapy (“DGT”) products to treat gastrointestinal diseases, such as irritable bowel syndrome (“IBS”), and other inflammatory diseases. These products are directed at chronic inflammatory illnesses that are widespread and common, and as such address very large markets. Our InFoods® IBS product uses a simple blood sample and is designed to identify patient-specific foods that, when removed from the diet, may alleviate IBS symptoms such as pain, bloating, diarrhea, and constipation. Instead of broad and difficult to manage dietary restrictions, the InFoods® IBS product works by identifying a patient’s above normal immunoreactivity to specific foods. A food identified as positive, and causing an abnormal immune response in the patient is simply removed from the diet to help alleviate IBS symptoms. During fiscal 2022, we completed an endpoint determination clinical trial on our InFoods® IBS product. This trial was conducted at Mayo Clinics in Florida and Arizona, Beth Israel Deaconess Medical Center Inc., a Harvard Medical School Teaching Hospital, University of Texas Health Science Center at Houston, Houston Methodist, the University of Michigan, and other institutions. This trial monitored IBS patients over an 8-week treatment period to determine the efficacy of our InFoods® IBS product to improve the patients’ IBS symptoms or endpoints. The top-line trial results were reported in February 2022. Multiple endpoints demonstrated statistically significant improvements, indicating that the elimination of specific foods may meaningfully reduce the symptoms of IBS in each patient subtype (including patients with IBS-Constipation, IBS-Diarrhea & IBS-Mixed). The greatest clinical improvements, including but not limited to abdominal pain and bloating, were seen in patients diagnosed with IBS-Mixed and IBS-Constipation, in the top line data. The purpose of the endpoint study was to validate the efficacy of the product, and to determine the primary symptom endpoint, or endpoints to be used in a final pivotal trial that will be conducted to attain the validation data needed to apply for U.S. Food and Drug Administration (“FDA”) clearance for the product. We are continuing to review and refine the complete dataset and have selected the final endpoint that we would intend to use in a final pivotal trial. We are starting to develop the protocol for submission to the FDA, and once approved the trial will be run thereafter. The trial is expected to include the large medical institution participants that conducted the endpoint clinical trial, in addition to other new institutions and a Clinical Research Organization. 24 Following the successful completion and positive statistical results from the Company’s InFoods® IBS clinical trial (run at several prominent centers including Mayo Clinic, Beth Israel Deaconess Medical Center Inc. – a Harvard Medical School Teaching Hospital, Houston Methodist Hospital, and the University of Michigan) which was completed in early calendar 2022, Biomerica received interest from Gastroenterology (“GI”) physicians who would like to order the InFoods® IBS test for their patients. As such, we are currently working with key GI physician groups who are interested in offering this product to their patients. In fiscal 2023, we worked to set up the InFoods® IBS test to be performed in a CLIA certified, and College of American Pathologists (“CAP”) accredited high-complexity laboratory facility and offered as a laboratory developed test (“LDT”). During the quarter ended February 28, 2023, the CLIA lab completed all validation testing necessary for the InFoods® IBS product to be offered as an LDT and, as of quarter end, is now accepting patient samples. We also worked to optimize the process for GI physicians to order the InFoods® IBS test, send patient blood samples to the CLIA lab, and receive the test results for their patients. We believe ease of order and workflow for physicians, with easy to understand and actionable results for patients, is critical to our success. During the fiscal third quarter, we also set up customer service and payment systems, along with a dedicated website for patients to receive answers to questions they may have about the test and attain information about how to eliminate a specific food from their diet. This is especially important for foods that are ingredients in common processed foods like milk, eggs, and wheat. As of the end of the fiscal third quarter, the product is now available to physicians and their patients. We are also beginning the work of selecting and validating one new disease (such as ulcerative colitis or migraines), where there is evidence that certain foods can trigger or contribute to the symptoms found in these indications. We expect any new disease we target will follow a similar development pathway as InFoods® IBS in simultaneously seeking FDA clearance of the product while also launching the product as an LDT. We will also continue to evaluate partnership/licensing opportunities, as they arise, with U.S and multinational companies that could help us commercialize, or accelerate revenue growth of, the InFoods® products in the United States and overseas. Our existing medical diagnostic products are sold worldwide primarily in two markets: 1) clinical laboratories and 2) point-of-care (physicians’ offices and OTC at Walmart, CVS Pharmacy, Amazon, etc.). The diagnostic test kits are used to analyze blood, urine, nasal, or fecal specimens from patients in the diagnosis of various diseases, food intolerances and other medical complications, by measuring or detecting the existence and/or level of specific bacteria, hormones, antibodies, antigens, or other substances, which may exist in a patient’s body, stools, or blood, often in extremely small concentrations. Due to the global COVID-19 pandemic, in March 2020, we began developing COVID-19 products to indicate if a person has been infected by COVID-19 or is currently infected. In fiscal 2022, we generated revenues from the international sale of our COVID-19 antigen tests. However, in fiscal 2023, due to the decline in severity of COVID-19 and the corresponding lower sales volumes we no longer sell these products. During fiscal 2022, we finalized development of our H. Pylori diagnostic test that indicates if a patient is infected with the H. Pylori bacteria. H. Pylori infection is extremely common, and if left untreated, can lead to ulcers and possibly stomach cancers. During our fourth quarter of fiscal 2022, we applied for FDA clearance of this product though a 510(k) premarket submission. We have been in communication with the FDA answering certain follow-up questions and providing additional data as requested. We are working with the FDA to perform one additional set of in-lab tests that the FDA has requested prior to making their final determination on clearance of the product. Once cleared, we will begin marketing the product in the U.S. market. We have already begun discussions with international distributors for this product and expect to see revenues through these international channels during 2024. The majority of our research and development efforts are focused on development and commercialization of non-COVID related products such as our H. Pylori product, and our InFoods® IBS product. 25 Our existing products that contributed to our fiscal 2023 revenues are primarily focused on gastrointestinal diseases, food intolerances, and certain esoteric tests. These diagnostic test products utilize immunoassay technology. Most of our products are CE marked and/or sold for diagnostic use where they are registered by each country’s regulatory agency. In addition, some products are cleared for sale in the United States by the FDA. RESULTS OF OPERATIONS Net Sales and Cost of Sales The following is a breakdown of revenues according to markets to which the products are sold: For the Year Ended May 31, Increase (Decrease) 2023 2022 $ % Clinical lab $ 3,310,000 $ 3,064,000 $ 246,000 8% Over-the-counter 1,169,000 1,089,000 $ 80,000 7% Contract manufacturing $ 610,000 $ 459,000 $ 151,000 33% Physician’s office 250,000 14,259,000 $ (14,009,000 ) -98% Total $ 5,339,000 $ 18,871,000 $ (13,532,000 ) -72% Our net sales were approximately $5,339,000 for fiscal 2023 compared to $18,871,000 for fiscal 2022, a decrease of $13,532,000, or 72%. This decrease in annual sales is primarily attributable to the decrease of $13,950,000 in sales of COVID-19 tests. Our cost of sales were approximately $4,893,000 for fiscal 2023 compared to $15,894,000 for fiscal 2022, a decrease of $11,001,000, or 69%. This decrease was driven by the significant decrease in the demand for our COVID-19 tests. The percentage of cost of sales compared to revenue in fiscal 2023 was 92%, versus 84% in fiscal 2022. Operating Expenses The following is a summary of operating expenses: Year Ended May 31, 2023 2022 Increase (Decrease) Operating Expense As a % of Total Revenues Operating Expense As a % of Total Revenues $ % Selling, General and Administrative Expenses $ 6,085,000 114% $ 5,699,000 30% $ 386,000 7% Research and Development $ 1,584,000 30% $ 1,812,000 10% $ (228,000 ) -13% Selling, General and Administrative Expenses Our selling, general and administrative expenses were approximately $6,085,000 for fiscal 2023 compared to $5,699,000 for fiscal 2022, an increase of $386,000, or 7%. The increase was primarily due to $350,000 in legal expenses and a $290,000 non-recurring write-off of bad debt expense related to COVID-19 sales. This was partially offset by a decrease of $75,000 in share-based compensation expense. Research and Development Our research and development expenses were approximately $1,584,000 for fiscal 2023 compared to $1,812,000 for fiscal 2022, a decrease of $228,000, or 13%, primarily as a result of decreases in costs related to the research, development and validation of COVID-19. See “Research and Development” for a more extensive description of the research being conducted. Interest and Dividend Income Interest and dividend income for fiscal 2023 and 2022 was approximately $133,000 and $27,000, respectively. The $106,000 increase was due to higher market interest rates on our higher cash balance due to the current fiscal year financings. 26 LIQUIDITY AND CAPITAL RESOURCES The following are the principal sources of liquidity: May 31, 2023 2022 Cash and cash equivalents $ 9,719,000 $ 5,917,000 Working capital including cash and cash equivalents $ 10,852,000 $ 7,416,000 As of May 31, 2023 and 2022, the Company had cash and cash equivalents of approximately $9,719,000 and $5,917,000, respectively. As of May 31, 2023 and 2022, the Company had working capital of approximately $10,852,000 and $7,416,000, respectively. Based on management’s analysis of the Company’s cash flow requirements through August 2024 and beyond, we believe that the aggregate of our existing cash and cash equivalents is sufficient to meet our operating cash requirements and strategic objectives for growth for at least the next year. To satisfy our capital requirements, including ongoing future operations, beyond next year, we may seek to raise additional financing through debt and equity financings. Operating Activities During fiscal 2023, cash used in operating activities was approximately $5,474,000, as compared to $479,000 for fiscal 2022. The primary factors that contributed to this were a loss of approximately $7,140,000, an increase in accounts receivable of $291,000, a decrease in inventory reserves of $174,000, and a decrease in accounts payable and accrued expenses of $79,000. These were partially offset by an increase in the allowance on accounts receivable of $342,000, a decrease in inventories of $534,000, and non-cash expenses of approximately $1,237,000. During fiscal 2022, the Company had a net loss of approximately $4,531,000, a decrease in inventory reserves of $772,000, and a decrease in the allowance on accounts receivable of $684,000. These were partially offset by a decrease in accounts receivable of $1,365,000, a decrease in inventories of $1,562,000, an increase in accounts payable and accrued expenses of $389,000, and non-cash expenses of approximately $1,855,000. Investing Activities During fiscal 2023, cash used in investing activities was approximately $78,000, as compared to $170,000 for fiscal 2022. During fiscal 2023, the Company purchased approximately $64,000 of property and equipment and had $14,000 in expenditures related to patents. During fiscal 2022, the Company purchased approximately $57,000 of property and equipment and $113,000 in expenditures related to patents. Financing Activities Cash provided by financing activities for fiscal 2023 was approximately $9,390,000 as compared to $2,394,000 for fiscal 2022. In fiscal 2023 and 2022, the Company had proceeds from the exercise of stock options of approximately $81,000 and $77,000, respectively. During fiscal 2023 and 2022, the Company received approximately $9,309,000 and $2,317,000, respectively, in net proceeds from the sale of common stock. The common stock sold and issued in fiscal 2022 and 2023 was issued under the Company’s shelf registration statement filed with the SEC on July 21, 2020 (the “2020 Shelf Registration Statement”) and declared effective by the SEC on September 30, 2020, and under the prospectus supplement filed with the SEC on January 22, 2021 (“2021 Prospectus Supplement”), and the prospectus supplement filed in conjunction with the Company’s underwritten public offering of common shares on March 7, 2023 (the “2023 Prospectus Supplement”) (See Shareholders’ Equity in the notes to the consolidated financial statements for further details about SEC registration statements). The 2020 Shelf Registration Statement registers common shares that may be issued by the Company in a maximum aggregate amount of up to $90,000,000. On January 22, 2021, we filed the 2021 Prospectus Supplement for the sale of up to $15,000,000 of shares of our common stock in an at-the-market offering under the 2020 Shelf Registration Statement, of which $5,290,000 was issued through March 7, 2023. In March 2023, we terminated the at-the-market offering and sold 3,333,333 shares of our common stock in a firm commitment public offering under the 2020 Shelf Registration Statement at a price to the public of $2.40 per share, for total gross proceeds of $8,00 0 ,000, before deducting underwriting discounts and commissions and other offering-related expenses payable by the Company. 27 As of August 25, 2023, the date on which this Annual Report on Form 10-K for the fiscal year ended May 31, 2023, is filed with the SEC, our 2020 Registration Statement remains subject to the offering limits set forth in General Instruction I.B.6 of Form S-3 because our public float is less than $75 million. For so long as the Company’s public float is less than $75 million, the aggregate market value of securities sold by the Company under the 2020 Shelf Registration Statement pursuant to Instruction I.B.6 to Form S-3 during any 12 consecutive months may not exceed one-third of the Company’s public float. We have sold $7,631,000 of our common stock pursuant to General Instruction I.B.6 of Form S-3 in the 12 calendar months preceding the date of filing this Annual Report on Form 10-K. For purposes of this limitation, the aggregate market value of our outstanding common stock held by non-affiliates, or public float, was $25,638,909, based on 15,538733 non-restricted shares of our outstanding common stock held by non-affiliates and a price of $1.65 per share, which was the price at which our common stock was last sold on the Nasdaq Capital Market on August 3, 2023 (a date within 60 days of the date hereof), calculated in accordance with General Instruction I.B.6 of Form S-3. After giving effect to the $8,546,303 offering limit imposed by General Instruction I.B.6 of Form S-3, and after deducting the shares we sold within the preceding 12 months, as of the date of filing this Annual Report, we may sell $915,3030 shares of our common stock at this time under the 2020 Shelf Registration Statement. SUBSEQUENT EVENTS On August 3, 2023, the Company announced it had entered into a sales agreement with CVS Pharmacy wherein the Company’s EZ Detect™ colorectal disease screening test will be offered at approximately 7,000 CVS Pharmacy retail stores. Biomerica has shipped the EZ Detect product to CVS Health distribution centers in the United States, and the product is projected to be on store shelves in September. OFF BALANCE SHEET ITEMS There were no off-balance sheet arrangements as of May 31, 2023. CRITICAL ACCOUNTING ESTIMATES The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires us to make a number of estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements. Such estimates and assumptions affect the reported amounts of revenues and expenses during the reporting period. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances. Actual results may differ materially from these estimates under different assumptions or conditions. We continue to monitor significant estimates made during the preparation of our financial statements. On an ongoing basis, we evaluate estimates and assumptions based upon historical experience and various other factors and circumstances. We believe our estimates and assumptions are reasonable under the current conditions; however, actual results may differ from these estimates under different future conditions. We believe that the estimates and assumptions that are most important to the portrayal of our financial condition and results of operations, in that they require subjective or complex judgments, form the basis for the accounting policies deemed to be most critical to us. These relate to revenue recognition, bad debts, inventory overhead application, inventory reserve, lease liabilities, and right-of-use assets. We believe estimates and assumptions related to these critical accounting policies are appropriate under the circumstances; however, should future events or occurrences result in unanticipated consequences, there could be a material impact on our future financial conditions or results of operations. We suggest that our significant accounting policies be read in conjunction with this Management’s Discussion and Analysis of Financial Condition and Results of Operations. Please refer to Note 2 of the Company’s consolidated financial statements for information on Significant Accounting Policies. 28 REVENUE RECOGNITION The Company has various contracts with customers. All the contracts specify that revenues from product sales are recognized at the time the product is shipped, customarily FOB shipping point, which is when the transfer of control of goods has occurred, and at which point title passes. The Company does not allow for returns except in the event of defective merchandise and therefore does not establish an allowance for returns. In addition, the Company has contracts with customers wherein they receive purchase discounts for achieving specified sales volumes. The Company regularly evaluates the status of these contracts and does not believe that any discounts will be given through the end of the contract periods. Services for some contract work are invoiced and recognized for work that has been performed as the project progresses. The Company sells clinical lab products to domestic and international distributors, including hospitals and clinical laboratories, medical research institutions, medical schools, and pharmaceutical companies. OTC products are sold directly to drug stores and e-commerce customers as well as to distributors. Physicians’ office products are sold to physicians and distributors, all of whom are categorized below according to the type of products sold to them. We also manufacture certain components on a contract basis for domestic and international manufacturers. SHARE-BASED COMPENSATION The Company follows the guidance of ASC 718, Share-based Compensation (“ASC 718”), which requires the use of the fair-value based method to determine compensation for all arrangements under which employees and others receive shares of stock or equity instruments (options). The fair value of each option award is estimated on the date of grant using the Black-Scholes option-pricing model that uses assumptions for expected volatility, expected dividends, expected forfeiture rate, expected term, and the risk-free interest rate. The Company has not paid dividends historically and does not expect to pay them in the foreseeable future. Expected volatilities are based on weighted averages of the historical volatility of the Company’s common stock estimated over the expected term of the options. The expected forfeiture rate is based on historical forfeitures experienced. The expected term of options granted is derived using the “simplified method” which computes expected term as the average of the sum of the vesting term plus the contract term as historically the Company had limited exercise activity surrounding its options. The risk-free rate is based on the U.S. Treasury yield curve in effect at the time of grant for the period of the expected term. The grant date fair value of the award is recognized under the straight-line attribution method. VALUATION OF INVENTORIES, NET Our inventories are made up of raw materials, work in progress, and finished goods and are valued at the lower of cost (determined using a combination of specific lot identification and the first-in, first-out methods) or net realizable value. We record valuation reserves for inventory items with excess quantities and obsolescence exposure. These reserves are estimates of a reduction in value to reflect inventory valuation at the lower of cost or net realizable value. Management evaluates quantities on hand, physical condition, and technical functionality as these characteristics may be impacted by anticipated customer demand for current products and new product introductions. Our inventory valuation reserves totaled $672,000 and $846,000 as of May 31, 2023 and 2022, representing approximately 25% and 26% of our inventory, respectively. RECENT ACCOUNTING PRONOUNCEMENTS See Note 2 to our consolidated financial statements for a listing of adopted and soon to be adopted accounting pronouncements. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not required. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA Exhibit 99.3, “Biomerica, Inc. and Subsidiaries Consolidated Financial Statements” is incorporated herein by this reference.