CHAMPIONS ONCOLOGY, 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 together with our consolidated financial statements and the related notes included elsewhere in this Annual Report. This discussion contains forward-looking statements that are based on our current expectations, estimates, and projections about our business and operations. Our actual results may differ materially from those currently anticipated and expressed in such forward-looking statements as a result of a number of factors, including those we discuss under Item 1A – “Risk Factors” and elsewhere in this Annual Report. Overview and Recent Developments 15 We are engaged in the development and sale of advanced technology solutions and products to personalize the development and use of oncology drugs. Utilizing our TumorGraft Technology Platform, we provide select services to pharmaceutical and biotechnology companies seeking personalized approaches to drug development. By performing studies to predict the efficacy of oncology drugs, our Platform facilitates drug discovery with lower costs and increased speed of drug development as well as increased adoption of existing drugs. Our Platform provides a novel approach to simulating the results of human clinical trials used in developing oncology drugs. We believe it costs more than $100,000 per patient in oncology clinical trials and the typical cost for each phase of development per year increases from approximately $3 million in the pre-clinical setting to approximately $150 million in phase III clinical trials. Simulating trials before executing them provides benefits to both pharmaceutical companies and patients. Pharmaceutical companies can lower the risk of spending resources on drugs that do not show significant anti-cancer activities and increase the chance that the clinical development path they pursue will be focused on an appropriate patient population and a successful combination with other drugs. We plan to continue our efforts to expand our TumorGraft Technology Platform in order to expand our TOS program. We have previously disclosed that our POS program would not be the focus of our growth moving forward and this plan remains unchanged. 16 Results of Operations The following table summarizes our operating results for the periods presented below (dollars in thousands): For the Years Ended April 30, 2020 % of Revenue 2019 % of Revenue % Change Oncology services revenue $ 32,123 100.0 % $ 27,067 100.0 % 18.7 % Costs and operating expenses: Cost of oncology services 16,882 52.6 14,265 52.7 18.3 Research and development 5,853 18.2 4,798 17.7 22.0 Sales and marketing 4,242 13.2 3,056 11.3 38.8 General and administrative 6,614 20.6 4,678 17.3 41.4 Goodwill Impairment 335 1.0 — — 100.0 Total costs and operating expenses 33,926 105.6 26,797 99.0 26.6 Income (loss) from operations $ (1,803 ) (5.6 )% $ 270 1.0 % (767.8 )% Oncology Services Revenue Oncology services revenue for the years ended April 30, 2020 and 2019 were $32.1 million and $27.1 million , respectively, an increase of $5.1 million , or 18.7% . The increase in revenue is due to increased sales, both in number and size of studies, an increase in demand for our services, the growth of the platform, and expansion of our product line. Additionally, customers are seeking more complex study designs and end point analysis testing, leading to larger contracts, which contributed to revenue growth. Cost of Oncology Services Cost of oncology services were $16.9 million and $14.3 million for the years ended April 30, 2020 and 2019 , respectively, an increase of $2.6 million or 18.3% . For the years ended April 30, 2020 and 2019 , gross margins were 47.4% and 47.3% , respectively. The increase in cost of oncology services was mainly due to an increase in compensation, supply, and outsourced lab service expenses. With the exception of outsourced lab services, the overall expense increase is generally in line with the expected contribution based on the growth in revenue, study volume, and expansion into new services. Gross margin varies based on timing differences between expense and revenue recognition and was impacted by the increase in costs ahead of revenue related to the increase in number of studies performed. Additionally, the cost of outsourced lab services magnifies this effect. Research and Development Research and development expense was $5.9 million and $4.8 million for the years ended April 30, 2020 and 2019 , respectively, an increase of $1.1 million or 22.0% . The increase is due to increased compensation and mice and lab supply expenses as we replenished the models in our Bank and continued to develop new service capabilities and endpoint analysis testing. Sales and Marketing Sales and marketing expense was $4.2 million and $3.1 million for the years ended April 30, 2020 and 2019 , respectively, an increase of $1.2 million or 38.8% . The increase is mainly due to compensation expense driven by the continued expansion of our sales force and commissions earned on increased sales. General and Administrative General and administrative expense was $6.6 million and $4.7 million for the years ended April 30, 2020 and 2019 , respectively, an increase of $1.9 million , or 41.4% . The increase was mainly due to an increase in compensation expense which included a bonus awarded to the CEO. 17 Goodwill Impairment We recognized an impairment on goodwill of approximately $335,000 for the year ended April 30, 2020. This charge was attributable to the Company's POS business operations. As disclosed in prior fiscal years, the POS business ceased to be the focus of our growth strategy moving forward. As a result of our annual evaluation of goodwill impairment, the Company determined that the recording of the impairment charge was warranted. Other Expense Other Expense was $42,000 and $39,000 for the years ended April 30, 2020 and 2019 , respectively. The current year expense is mainly due to foreign currency transaction losses and foreign fees offset by a gain on disposal of equipment. Inflation Inflation does not have a meaningful impact on the results of our operations. Liquidity and Capital Resources Our liquidity needs have typically arisen from the funding of our research and development programs and the launch of new products, working capital requirements, and other strategic initiatives. In the past, we have met these cash requirements through our cash on hand, working capital management, proceeds from certain private placements and public offerings of our securities and sales of products and services. For the years ended April 30, 2020 and 2019 , the Company had a net loss of approximately $2.0 million and net income of $128,000 , respectively. As of April 30, 2020 , the Company had an accumulated deficit of approximately $72.7 million , working capital of $1.4 million and cash of $8.3 million . We believe that our cash on hand, together with continued improved cash flows from operations, are adequate to fund operations through at least August 2021. Should the Company be required to raise additional capital, there can be no assurance that management would be successful in raising such capital on terms acceptable to us, if at all. Cash Flows The following discussion relates to the major components of our cash flows: Cash Flows from Operating Activities Net cash provided by operating activities was $2.9 million and $1.9 million for the years ended April 30, 2020 and 2019 , respectively. The increase in cash provided of $1.0 million relates to our revenue growth and increase in bookings, along with the timing of ordinary business operating activities. Cash Flows from Investing Activities Net cash used in investing activities was $2.2 million and $834,000 for the years ended April 30, 2020 and 2019 , respectively. These cash flows were used for the purchase and finance leasing of lab equipment. Cash Flows from Financing Activities Net cash provided by financing activities was $4.4 million and $1.2 million for the years ended April 30, 2020 and 2019 , respectively. The increase in cash flows provided in fiscal year 2020 was due to exercises of stock options and warrants. 18 Critical Accounting Policies The following discussion of critical accounting policies identifies the accounting policies that require application of management’s most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain and may change in subsequent periods. It is not intended to be a comprehensive list of all of our significant accounting policies, which are more fully described in Note 2 of the notes to the consolidated financial statements included in this document. In many cases, the accounting treatment of a particular transaction is specifically dictated by generally accepted accounting principles, with no need for management’s judgment in their application. There are also areas in which the selection of an available alternative policy would not produce a materially different result. General Our discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States or GAAP. The preparation of the consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue, expenses, and related disclosure of contingent assets and liabilities. Significant estimates of the Company include, among other things, accounts receivable realization, revenue recognition (replacement of licensed tumors), valuation allowance for deferred tax assets, valuation of goodwill, and stock-based compensation and warrant assumptions. We base our estimates on historical experience, our observance of trends in particular areas and information or valuations and various other assumptions that we believe to be reasonable under the circumstances and which form the basis for making judgments about the carrying value of assets and liabilities that may not be readily apparent from other sources. Actual amounts could differ significantly from amounts previously estimated. Revenue Recognition In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2014-19, Revenue from Contracts with Customers (Topic 606) which was added to the FASB's Accounting Standards Codification (ASC) as ASC 606. The Company adopted ASC 606 on May 1, 2018 using the modified retrospective method for all contracts not completed as of the date of adoption. The reported results for the twelve months ended April 30, 2020 and April 30, 2019 reflect the application of ASC 606. In accordance with ASC 606, revenue is now recognized when, or as, a customer obtains control of promised services. The amount of revenue recognized reflects the consideration to which the Company expects to be entitled to receive in exchange for these services. A performance obligation is a promise (or a combination of promises) in a contract to transfer distinct goods or services to a customer and is the unit of accounting under ASC 606 for the purposes of revenue recognition. A contract's transaction price is allocated to each separate performance obligation based upon the standalone selling price and is recognized as revenue, when, or as, the performance obligation is satisfied. The majority of the Company's contracts have a single performance obligation because the promise to transfer individual services is not separately identifiable from other promises in the contracts, and therefore, is not distinct. The majority of the Company's revenue arrangements are service contracts that are completed within a year or less. There are a few contracts that range in duration between 1 and 3 years. Substantially all of the Company's performance obligations, and associated revenue, are transferred to the customer over time. Most of the Company's contracts can be terminated by the customer without cause. In the event of termination, the Company's contracts provide that the customer pay the Company for services rendered through the termination date. The Company generally receives compensation based on a predetermined invoicing schedule relating to specific milestones for that contract. In addition, in certain instances a customer contract may include forms of variable consideration such as performance increases or other provisions that can increase or decrease the transaction price. This variable consideration is generally awarded upon achievement of certain performance metrics. For the purposes of revenue recognition, variable consideration is assessed on a contract-by-contract basis and the amount to be recorded is estimated based on the assessment of the Company's anticipated performance and consideration of all information that is reasonably available. Variable consideration is recognized as revenue if and when it is deemed probable that a significant reversal in the amount of cumulative revenue recognized will not occur when the uncertainty associated with the variable consideration is resolved in the future. Amendments to contracts are common. The Company evaluates each amendment which meets the criteria of a contract modification under ASC 606. Each modification is further evaluated to determine whether the contract modification should be accounted for as a separate contract or as a continuation of the original agreement. The Company accounts for amendments as a separate contract when they meet the criteria under ASC 606-10-25-12. 19 Stock-Based Payments We typically recognize expense for stock-based payments based on the fair value of awards on the date of grant. We use the Black-Scholes option pricing model to estimate fair value. The option pricing model requires us to estimate certain key assumptions such as expected life, volatility, risk free interest rates, and dividend yield to determine the fair value of stock-based awards. These assumptions are based on historical information and management judgment. We expense stock-based payments over the period that the awards are expected to vest. In the event of forfeitures, compensation expense is adjusted. We report cash flows resulting from tax deductions in excess of the compensation cost recognized from those options (excess tax benefits) as financing cash flows when the cash tax benefit is received. Goodwill Goodwill represents the excess of the purchase price over the fair value of the net tangible and identifiable intangible assets acquired in a business combination. The Company evaluates the carrying value of goodwill annually in connection with the annual budgeting and forecast process and also between annual evaluations if events occur or circumstances change that would more likely than not reduce the fair value of the reporting unit to which goodwill was allocated to below its carrying amount. Such circumstances could include, but are not limited to: (1) a significant adverse change in legal factors, market conditions, or in business climate, (2) unanticipated competition, or (3) an adverse action or assessment by a regulator. When evaluating goodwill for impairment, we may first perform an assessment qualitatively whether it is more likely than not that a reporting unit’s carrying amount exceeds its fair value, referred to as a “step zero” approach. Subsequently (if necessary after step zero), an entity should perform its goodwill impairment test by comparing the fair value of a reporting unit with its carrying value. Under FASB's ASU 2014-02, Topic 350, "Intangibles—Goodwill and Other" goodwill impairment is measured as the excess of the carrying amount of the reporting unit over its fair value. The impairment evaluation test involves comparing the current fair value of each business unit to its carrying value, including goodwill. Fair value is typically estimated using a discounted cash flow analysis, which requires the Company to estimate the future cash flows anticipated to be generated by the business unit being tested for impairment as well as to select a risk-adjusted discount rate to measure the present value of the anticipated cash flows. When determining future cash flow estimates, the Company considers historical results adjusted to reflect current and anticipated operating conditions. The Company estimates cash flows for the business unit over a discrete period (typically four or five years) and the terminal period (considering expected long term growth rates and trends). Estimating future cash flows requires significant judgment by management in such areas as future economic conditions, industry-specific conditions, product pricing, and necessary capital expenditures. The use of different assumptions or estimates for future cash flows or significant changes in risk-adjusted discount rates due to changes in market conditions could produce substantially different estimates of the fair value of the business unit. We have one reportable segment. The Company evaluated its TOS and POS business operations (or business units) and determined that the POS operations no longer qualified as a separate reportable segment primarily due to its revenue representing approximately 2.5% of total revenue. The Company assesses goodwill by business unit, which are also reporting units. Judgments regarding the existence of impairment indicators are based on legal factors, market conditions and operational performance of the acquired businesses. Future events, including but not limited to continued declines in economic activity, loss of contracts or a significant number of customers, or a rapid increase in costs or capital expenditures, could cause us to conclude that impairment indicators exist and that goodwill is impaired. As a result of its annual assessment, which included an estimation of the future cash flows of the POS operations as described above, the Company determined that, under a discounted cash flow model, the fair value of the POS business/reporting unit was below its carrying amount as of April 30, 2020. The Company recognized goodwill impairment for the quarter and year ended April 30, 2020 of $335,000 . As of April 30, 2020 and 2019, goodwill was $335,000 and $670,000, respectively. Accounting for Income Taxes We use the asset and liability method to account for income taxes. Significant management judgment is required in determining the provision for income taxes, deferred tax assets and liabilities and any valuation allowance recorded against net deferred tax assets. In preparing the consolidated financial statements, we are required to estimate income taxes in each of the jurisdictions in which we operate. This process involves estimating the actual current tax liability together with assessing temporary differences resulting from differing treatment of items, such as deferred revenue, depreciation on property, plant and equipment, goodwill and losses for tax and accounting purposes. These differences result in deferred tax assets, which include tax loss carry-forwards, and liabilities, which are included within the consolidated balance sheet. We then assess the likelihood that deferred tax assets will be recovered from future taxable income, and to the extent that recovery is not likely or there is insufficient operating history, a 20 valuation allowance is established. To the extent a valuation allowance is established or increased in a period, we include an expense within the tax provision of the consolidated statements of operations. As of April 30, 2020 and 2019, we have established a full valuation allowance for all deferred tax assets. As of April 30, 2020 and 2019, we recognized a liability for uncertain tax positions on the balance sheet relative to foreign operations in the amount of $178,000 and $151,000, respectively. We do not anticipate any significant unrecognized tax benefits will be recorded during the next 12 months. Any interest or penalties related to unrecognized tax benefits is recognized in income tax expense. The Company has accrued $27,000 for penalties and interest during the year ended April 30, 2020. Accounting Pronouncements Being Evaluated In June 2016, the FASB issued ASU No. 2016-13, "Financial Instruments - Credit Losses". This update requires immediate recognition of management’s estimates of current expected credit losses ("CECL"). Under the prior model, losses were recognized only as they were incurred. The new model is applicable to all financial instruments that are not accounted for at fair value through net income. The standard is effective for fiscal years beginning after December 15, 2022 for public entities qualifying as smaller reporting companies. Early adoption is permitted. We are currently assessing the impact of this update on our consolidated financial statements and do not expect a material impact on our consolidated financial statements. In August 2018, the FASB issued ASU 2018-15, which amends ASC 350-40, Intangibles—Goodwill and Other—Internal-Use Software, to address a customer’s accounting for implementation costs incurred in a cloud computing arrangement ("CCA") that is a service contract. This update aligns the accounting for costs incurred to implement a CCA that is a service arrangement with the guidance on capitalizing costs associated with developing or obtaining internal-use software. The update is effective for public business entities for fiscal years beginning after December 15, 2019, and interim periods within those fiscal years. Early adoption of the amendments in this update is permitted, including adoption in any interim period. We are currently assessing the impact of this update on our consolidated financial statements and do not expect a material impact on our consolidated financial statements. In August 2018, the FASB issued ASU 2018-13, Fair Value Measurement (ASC 820) — Disclosure Framework-Changes to the Disclosure Requirements for Fair Value Measurement. ASU 2018-13 removes certain disclosures, modifies certain disclosures and adds additional disclosures. ASU 2018-13 is effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2019. Early adoption is permitted. We are currently assessing the potential impact of the amendments in this ASU on our consolidated financial statements and do not expect a material impact on our consolidated financial statements. In December 2019, the FASB issued ASU 2019-12, Income Taxes (ASC 740) — Simplifying the Accounting for Income Taxes. ASU 2019-12 which modifies ASC 740 to simplify the accounting for income taxes. The ASU removes certain exceptions for recognizing deferred taxes for investments, performing intra-period allocation and calculating income taxes in interim periods. The ASU also adds guidance to reduce complexity in certain areas, including recognizing deferred taxes for tax goodwill and allocating taxes to members of a consolidated group. ASU 2019-12 is effective for annual periods, including interim periods within those annual periods, beginning after December 15, 2020. We are currently assessing the potential impact of this ASU on our consolidated financial statements and do not expect a material impact on our consolidated financial statements. Recently Adopted Accounting Pronouncements In February 2016, the FASB issued ASU No. 2016-02, "Leases", (Topic 842), which required the Company to recognize lease assets and lease liabilities (related to leases previously classified as operating under previous U.S. GAAP) on its consolidated balance sheet for all leases in excess of one year in duration. The ASU was effective for the Company on May 1, 2019. The Company elected to adopt ASU 2016-02 using the modified retrospective method and, therefore, have not recast comparative periods presented in its unaudited consolidated financial statements. As permitted under ASU 2016-02, the Company elected to account for the non-lease components together with the lease components as a single lease component. The Company recorded an operating lease right-of-use ("ROU") asset of $3.2 million , net of deferred rent of $900,000 and an operating lease liability of $4.1 million as of May 1, 2019. Refer to "Note 13. Leases" for additional information. In August 2016, the FASB issued ASU No. 2016-15, “Statement of Cash Flows: Classification of Certain Cash Receipts and Cash Payments”. The new standard attempts to reduce diversity in practice in how cash receipts and cash payments are presented and classified in the statement of cash flows. ASU No. 2016-15 provides guidance on eight specific cash flow issues. The new guidance was effective for fiscal years beginning after December 15, 2017 and interim periods within those fiscal years. The Company adopted ASU 2016-15 on May 1, 2018 and it did not have a material impact on its consolidated financial statements. 21 In November 2016, the FASB issued ASU No. 2016-18, "Restricted Cash (a consensus of the FASB Emerging Issues Task Force)" ("ASU 2016-18"), which addresses classification and presentation of changes in restricted cash on the statement of cash flows. ASU 2016-18 requires an entity's reconciliation of the beginning-of-period and end-of-period total amounts shown on the statement of cash flows to include in cash and cash equivalents amounts generally described as restricted cash and restricted cash equivalents. ASU 2016-18 is effective for public business entities for annual and interim periods in fiscal years beginning after December 15, 2017. The Company adopted ASU 2016-18 on May 1, 2018 and did not have a material impact on its consolidated financial statements. In January 2017, the FASB issued ASU No. 2017-04, “Intangibles - Goodwill and Other” (Topic 350): Simplifying the Test for Goodwill Impairment (ASU 2017-04). This new standard simplifies how an entity is required to test goodwill for impairment by eliminating a step from the goodwill impairment test. ASU 2017-04 allows for prospective application and is effective for fiscal years beginning after December 15, 2019, and interim periods therein with early adoption permitted for interim or annual goodwill impairment tests performed on testing dates after January 1, 2017. The Company adopted this guidance on May 1, 2019 and it did not have an impact on its consolidated financial statements. In June 2018, the FASB issued ASU 2018-07, "Compensation-Stock Compensation (Topic 718): Improvements to Nonemployee Share-Based Payment Accounting". This ASU expands the scope of Topic 718, Compensation—Stock Compensation (which currently only includes share-based payments to employees) to include share-based payments issued to nonemployees for goods or services. Under the new guidance, the existing employee guidance will apply to nonemployee share-based transactions (as long as the transaction is not effectively a form of financing), with the exception of specific guidance related to the attribution of compensation cost. The cost of nonemployee awards will continue to be recorded as if the grantor had paid cash for the goods or services. The new accounting guidance was effective for the Company on May 1, 2019. The Company early adopted ASU 2018-07 beginning with its financial reporting for the quarter ended January 31, 2019. The adoption did not have a material impact on the Company's consolidated financial statements. Off-Balance Sheet Financing We have no off-balance sheet debt or similar obligations. We have no transactions or obligations with related parties that are not disclosed, consolidated into or reflected in our reported results of operations or financial position. We do not guarantee any third-party debt. Item 7A. Quantitative and Qualitative Disclosures About Market Risk Not applicable. Item 8. Financial Statements and Supplementary Data The consolidated financial statements required pursuant to this item are included in Item 15 of this annual report and are presented beginning on page F-1 Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure None.