Electromed, Inc. 10-Q

10-Q 1 elmd200790_10q.htm FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) ☑ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2020 ☐ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from ________ to ________. Commission File No.: 001-34839 Electromed, Inc. (Exact Name of Registrant as Specified in its Charter) Minnesota 41-1732920 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.) 500 Sixth Avenue NW New Prague, Minnesota 56071 (Address of principal executive offices) (Zip Code) (952) 758-9299 (Registrant’s telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: Common Stock, $0.01 par value ELMD NYSE American LLC (Title of each class) (Trading Symbol(s)) (Name of each exchange on which registered) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☑ No ☐ Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☑ No ☐ Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act. Large accelerated filer ☐ Accelerated filer ☐ Non-accelerated filer ☐ Smaller reporting company ☑ Emerging growth company ☐ If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐ Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☑ There were 8,483,785 shares of Electromed, Inc. common stock, par value $0.01 per share, outstanding as of the close of business on May 8, 2020. Electromed, Inc. Index to Quarterly Report on Form 10-Q Page PART I – FINANCIAL INFORMATION Item 1. Financial Statements 1 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 15 Item 3. Quantitative and Qualitative Disclosures About Market Risk 21 Item 4. Controls and Procedures 21 PART II – OTHER INFORMATION Item 1. Legal Proceedings 21 Item 1A. Risk Factors 21 Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 21 Item 3. Defaults Upon Senior Securities 22 Item 4. Mine Safety Disclosures 22 Item 5. Other Information 22 Item 6. Exhibits 22 i PART I – FINANCIAL INFORMATION Item 1. Financial Statements. Electromed, Inc. Condensed Balance Sheets March 31, 2020 June 30, 2019 (Unaudited) Assets Current Assets Cash $ 9,933,309 $ 7,807,928 Accounts receivable (net of allowances for doubtful accounts of $45,000) 13,290,402 12,760,042 Contract assets 1,146,842 995,847 Inventories, net 2,646,971 2,622,000 Prepaid expenses and other current assets 360,956 353,214 Income tax receivable 409,064 - Total current assets 27,787,544 24,539,031 Property and equipment, net 3,878,347 3,604,744 Finite-life intangible assets, net 604,905 581,413 Other assets 100,421 45,044 Deferred income taxes 602,000 629,000 Total assets $ 32,973,217 $ 29,399,232 Liabilities and Shareholders’ Equity Current Liabilities Current maturities of other long-term liabilities $ 76,866 $ 30,320 Accounts payable 874,133 586,575 Accrued compensation 1,444,480 1,404,662 Income tax payable - 288,511 Warranty reserve 780,000 810,000 Other accrued liabilities 446,573 530,453 Total current liabilities 3,622,052 3,650,521 Other long-term liabilities 24,324 14,737 Total liabilities 3,646,376 3,665,258 Commitments and Contingencies Shareholders’ Equity Common stock, $0.01 par value; authorized: 13,000,000 shares; 8,483,785 and 8,408,351 issued and outstanding at March 31, 2020 and June 30, 2019, respectively 84,838 84,084 Additional paid-in capital 16,867,053 16,127,826 Retained earnings 12,374,950 9,522,064 Total shareholders’ equity 29,326,841 25,733,974 Total liabilities and shareholders’ equity $ 32,973,217 $ 29,399,232 See Notes to Condensed Financial Statements (Unaudited). 1 Electromed, Inc. Condensed Statements of Operations (Unaudited) Three Months Ended March 31, Nine Months Ended March 31, 2020 2019 2020 2019 Net revenues $ 8,743,897 $ 7,407,779 $ 25,593,337 $ 22,696,149 Cost of revenues 2,150,347 1,833,478 5,981,931 5,516,517 Gross profit 6,593,550 5,574,301 19,611,406 17,179,632 Operating expenses Selling, general and administrative 5,288,485 4,938,992 15,148,344 15,361,590 Research and development 391,962 170,757 634,376 476,785 Total operating expenses 5,680,447 5,109,749 15,782,720 15,838,375 Operating income 913,103 464,552 3,828,686 1,341,257 Interest income, net 34,171 27,374 111,200 57,348 Net income before income taxes 947,274 491,926 3,939,886 1,398,605 Income tax expense 294,000 139,000 1,087,000 508,000 Net income $ 653,274 $ 352,926 $ 2,852,886 $ 890,605 Income per share: Basic $ 0.08 $ 0.04 $ 0.34 $ 0.11 Diluted $ 0.07 $ 0.04 $ 0.33 $ 0.10 Weighted-average common shares outstanding: Basic 8,403,154 8,325,346 8,390,916 8,294,568 Diluted 8,880,794 8,612,448 8,759,493 8,637,414 See Notes to Condensed Financial Statements (Unaudited). 2 Electromed, Inc. Condensed Statements of Cash Flows (Unaudited) Nine Months Ended March 31, 2020 2019 Cash Flows From Operating Activities Net income $ 2,852,886 $ 890,605 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation 469,784 527,472 Amortization of finite-life intangible assets 90,863 89,728 Amortization of debt issuance costs - 1,958 Share-based compensation expense 676,558 729,470 Deferred income taxes Changes in operating assets and liabilities: 27,000 27,000 Loss on disposal of property and equipment Changes in operating assets and liabilities: 1,294 1,710 Changes in operating assets and liabilities: Accounts receivable (530,360 ) (464,400 ) Contract assets (150,995 ) (67,463 ) Inventories (13,852 ) (205,524 ) Prepaid expenses and other assets 50,329 490,147 Income tax receivable (409,064 ) (239,989 ) Income tax payable (288,511 ) (397,390 ) Accounts payable and accrued liabilities 136,361 (211,371 ) Net cash provided by operating activities 2,912,293 1,171,953 Cash Flows From Investing Activities Expenditures for property and equipment (752,875 ) (197,445 ) Expenditures for finite-life intangible assets (97,460 ) (43,309 ) Net cash used in investing activities (850,335 ) (240,754 ) Cash Flows From Financing Activities Principal payments on long-term debt including capital lease obligations - (1,103,001 ) Issuance of common stock upon exercise of options 63,423 251,849 Net cash provided by (used in) financing activities 63,423 (851,152 ) Net increase in cash 2,125,381 80,047 Cash Beginning of period 7,807,928 7,455,844 End of period $ 9,933,309 $ 7,535,891 See Notes to Condensed Financial Statements (Unaudited). 3 Electromed, Inc. Condensed Statements of Shareholders’ Equity (Unaudited) Common Stock Additional Paid-in Retained Total Shareholders’ Shares Amount Capital Earnings Equity Balance at June 30, 2018 8,288,659 $ 82,887 $ 14,953,103 $ 7,541,734 $ 22,577,724 Net income – – – 157,161 157,161 Issuance of restricted stock 30,000 300 (300 ) – – Issuance of common stock upon exercise of options 11,167 112 33,198 – 33,310 Share-based compensation expense – – 257,493 – 257,493 Balance at September 30, 2018 8,329,826 83,299 15,243,494 7,698,895 23,025,688 Net income – – – 380,517 380,517 Issuance of restricted stock 10,000 100 (100 ) – – Issuance of common stock upon exercise of options 44,358 443 155,068 – 155,511 Share-based compensation expense – – 243,252 – 243,252 Balance at December 31, 2018 8,384,184 83,842 15,641,714 8,079,412 23,804,968 Net income – – – 352,926 352,926 Issuance of common stock upon exercise of options 24,167 242 62,786 – 63,028 Share-based compensation expense – – 228,725 – 228,725 Balance at March 31, 2019 8,408,351 $ 84,084 $ 15,933,225 $ 8,432,338 $ 24,449,647 Common Stock Additional Paid-in Retained Total Shareholders’ Shares Amount Capital Earnings Equity Balance at June 30, 2019 8,408,351 $ 84,084 $ 16,127,826 $ 9,522,064 $ 25,733,974 Net income – – – 1,014,556 1,014,556 Issuance of restricted stock 32,500 325 (325 ) – – Issuance of common stock upon exercise of options 5,000 50 12,990 – 13,040 Share-based compensation expense – – 209,954 – 209,954 Balance at September 30, 2019 8,445,851 84,459 16,350,445 10,536,620 26,971,524 Net income – – – 1,185,056 1,185,056 Issuance of restricted stock 15,000 150 (150 ) – – Issuance of common stock upon exercise of options 17,597 175 62,721 – 62,896 Share-based compensation expense – – 234,304 – 234,304 Balance at December 31, 2019 8,478,448 $ 84,784 $ 16,647,320 $ 11,721,676 $ 28,453,780 Net income – – – 653,274 653,274 Issuance of common stock upon exercise of options 5,337 54 (12,567 ) – (12,513 ) Share-based compensation expense – – 232,300 – 232,300 Balance at March 31, 2020 8,483,785 $ 84,838 $ 16,867,053 $ 12,374,950 $ 29,326,841 See Notes to Condensed Financial Statements (Unaudited). 4 Electromed, Inc. Notes to Condensed Financial Statements (Unaudited) Note 1. Interim Financial Reporting Basis of presentation: Electromed, Inc. (the “Company”) develops, manufactures and markets innovative airway clearance products that apply High Frequency Chest Wall Oscillation (“HFCWO”) therapy in pulmonary care for patients of all ages. The Company markets its products in the U.S. to the home health care and institutional markets for use by patients in personal residences, hospitals and clinics. The Company also sells internationally both directly and through distributors. International sales were approximately $455,000 and $556,000 for the nine months ended March 31, 2020 and 2019, respectively. Since its inception, the Company has operated in a single industry segment: developing, manufacturing and marketing medical equipment. The accompanying unaudited condensed financial statements of the Company have been prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”) for interim financial statements and pursuant to the rules and regulations of the U.S. Securities and Exchange Commission. In the opinion of management, the accompanying unaudited condensed financial statements reflect all adjustments consisting of normal recurring adjustments necessary for a fair presentation of the Company’s financial position and results of operations as required by Regulation S-X. Interim results of operations are not necessarily indicative of the results that may be achieved for the full year. The financial statements and related notes do not include all information and footnotes required by U.S. GAAP for annual reports. This interim report should be read in conjunction with the financial statements included in the Company’s Annual Report on Form 10-K for the fiscal year ended June 30, 2019 (“fiscal 2019”). Potential impacts of COVID-19 on the Company’s business: The impact of the COVID-19 pandemic on the Company’s business remains uncertain and its effects on its operational and financial performance will depend in large part on future developments, which cannot be reasonably estimated at this time. Such future developments include, but are not limited to, the duration, scope and severity of the COVID-19 pandemic in geographic areas the Company operates or in which its patients live, actions taken to contain or mitigate its impact, the impact on governmental healthcare programs and budgets, the development of treatments or vaccines, and the resumption of widespread economic activity. Due to the inherent uncertainty of the unprecedented and rapidly evolving situation, the Company is unable to predict with confidence the likely impact of the COVID-19 pandemic on its future operations. For a more detailed discussion see “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Part I, Item 2 of this Quarterly Report on Form 10-Q. A summary of the Company’s significant accounting policies follows: Use of estimates: Management uses estimates and assumptions in preparing the condensed financial statements in accordance with U.S. GAAP. Those estimates and assumptions affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the reported revenues and expenses. Actual results could vary from the estimates that were used. The Company believes the critical accounting policies that require the most significant assumptions and judgments in the preparation of its condensed financial statements include revenue recognition and the related estimation of variable consideration, allowance for doubtful accounts, inventory obsolescence, share-based compensation and its warranty liability. Net income per common share: Net income is presented on a per share basis for both basic and diluted common shares. Basic net income per common share is computed using the weighted average number of common shares outstanding during the period, excluding any restricted stock awards which have not vested. The diluted net income per common share calculation includes outstanding restricted stock grants and assumes that all stock options were exercised and converted into common stock at the beginning of the period, unless their effect would be anti-dilutive. Common stock equivalents excluded from the calculation of diluted earnings per share because their impact was anti-dilutive was zero and 134,100 for the three and nine months ended March 31, 2020, respectively, and were 323,750 for both the three and nine months ended March 31, 2019. New accounting pronouncements: In February 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-02, “Leases (Topic 842)” (“ASU 2016-02”). This standard requires the recognition of all lease transactions on the balance sheet as a lease liability and a right-of-use asset (as defined in ASU 2016-02). ASU 2016-02 to Topic 842 – Leases (“ASC 842”) became effective for the Company on July 1, 2019 and was applied retrospectively to all periods presented. The Company applied the practical expedient to calculate the present value of the fixed payments without having to perform an allocation to lease and non-lease components. Additional information and required disclosures are included in Note 9. 5 Impact on Previously Reported Results: The following table presents a recast of selected unaudited statement of operations line items after giving effect to the adoption of ASC 842: For the three months ended March 31, 2019 As Previously Effect Reported of Adoption As Adjusted Net revenues $ 7,407,779 $ - $ 7,407,779 Cost of revenues 1,833,478 - 1,833,478 Gross profit 5,574,301 - 5,574,301 Operating expenses Selling, general and administrative 4,941,773 (2,781 ) 4,938,992 Research and development 170,757 - 170,757 Total operating expenses 5,112,530 (2,781 ) 5,109,749 Operating income 461,771 2,781 464,552 Interest income, net 27,374 - 27,374 Net income before income taxes 489,145 2,781 491,926 Income tax expense 139,000 - 139,000 Net income $ 350,145 $ 2,781 $ 352,926 Income per share: Basic $ 0.05 $ 0.00 $ 0.05 Diluted $ 0.04 $ 0.00 $ 0.04 For the nine months ended March 31, 2019 As Previously Effect Reported of Adoption As Adjusted Net revenues $ 22,696,149 $ - $ 22,696,149 Cost of revenues 5,516,517 - 5,516,517 Gross profit 17,179,632 - 17,179,632 Operating expenses Selling, general and administrative 15,369,921 (8,331 ) 15,361,590 Research and development 476,785 - 476,785 Total operating expenses 15,846,706 (8,331 ) 15,838,375 Operating income 1,332,926 8,331 1,341,257 Interest income, net 57,348 - 57,348 Net income before income taxes 1,390,274 8,331 1,398,605 Income tax expense 508,000 - 508,000 Net income $ 882,274 $ 8,331 $ 890,605 Income per share: Basic $ 0.11 $ 0.00 $ 0.11 Diluted $ 0.10 $ 0.00 $ 0.10 6 The following table presents a recast of selected unaudited balance sheet line items after giving effect to the adoption of ASC 842: June 30, 2019 As Previously Effect Reported of Adoption As Adjusted Assets Other assets $ - $ 45,044 $ 45,044 Liabilities and Shareholder's Equity Current maturities of other long-term liabilities - 30,320 30,320 Other long-term liabilities - 14,737 14,737 Retained earnings 9,522,076 (12 ) 9,522,064 The following table presents a recast of selected unaudited statement of cash flow line items after giving effect to the adoption of ASC 842: For the nine months ended March 31, 2019 As Previously Effect Reported of Adoption As Adjusted Cash Flow from Operating Activities Net income $ 882,274 $ 8,331 $ 890,605 Changes in operating assets and liabilities: Prepaid expenses and other assets 350,881 139,266 490,147 Accounts payable and accrued liabilities (63,774 ) (147,597 ) (211,371 ) Note 2. Revenues Revenue is measured based on consideration specified in the contract with a customer, adjusted for any applicable estimates of variable consideration and other factors affecting the transaction price, including non-cash consideration, consideration paid or payable to customers and significant financing components. Revenue from all customers is recognized when a performance obligation is satisfied by transferring control of a distinct good or service to a customer, as further described below under Performance obligations and transaction price . Individual promised goods and services in a contract are considered a performance obligation and accounted for separately if the individual good or service is distinct (i.e., the customer can benefit from the good or service on its own or with other resources that are readily available to the customer and the good or service is separately identifiable from other promises in the arrangement). If an arrangement includes multiple performance obligations, the consideration is allocated between the performance obligations in proportion to their estimated standalone selling price, unless discounts or variable consideration is attributable to one or more but not all the performance obligations. Costs related to products delivered are recognized in the period incurred, unless criteria for capitalization of costs under FASB Accounting Standards Codification (“ASC”) 340-40, “Other Assets and Deferred Costs” (“ASC 340”), or other applicable guidance are met. The Company includes shipping and handling fees in net revenues. Shipping and handling costs associated with the shipment of the Company’s SmartVest® Airway Clearance System (“SmartVest System”) after control has transferred to a customer are accounted for as a fulfillment cost and are included in cost of revenues. The timing of revenue recognition, billings and cash collections results in accounts receivable on the condensed balance sheets as further described below under Accounts receivable and Contract assets . 7 Disaggregation of revenues. In the following table, revenue is disaggregated by market: For the three months ended March 31, For the nine months ended March 31, 2020 2019 2020 2019 Home Care $ 7,834,094 $ 6,851,910 $ 22,994,856 $ 20,905,230 Institutional 608,519 414,369 1,726,868 1,235,176 Home Care Distributor 164,564 - 415,933 - International 136,720 141,500 455,680 555,743 Total $ 8,743,897 $ 7,407,779 $ 25,593,337 $ 22,696,149 In the following table, home care revenue is disaggregated by payer type: For the three months ended March 31, For the nine months ended March 31, 2020 2019 2020 2019 Commercial $ 3,486,387 $ 2,807,493 $ 9,474,517 $ 9,641,929 Medicare 3,818,185 3,702,807 11,281,858 9,853,450 Medicaid 300,664 147,731 1,432,074 864,846 Other 228,858 193,879 806,407 545,005 Total $ 7,834,094 $ 6,851,910 $ 22,994,856 $ 20,905,230 Revenues in the Company’s home care, home care distributor and international markets are recognized at a point in time when control passes to the customer upon product shipment or delivery. Revenues in the Company’s institutional market include sales recognized at a point in time upon shipment or delivery as well as revenues recognized over time under operating leases. Performance obligations and transaction price. A performance obligation is a promise in a contract to transfer a distinct good or service to the customer and is the unit of account under ASC 606, “Revenue From Contracts With Customers” (“ASC 606”). A contract’s transaction price is allocated to each distinct performance obligation in proportion to the standalone selling price for each and recognized as revenue when, or as, the performance obligation is satisfied. The Company’s performance obligations and the timing or method of revenue recognition in each of the Company’s markets are discussed below: Home care market . In the Company’s home care market, its customers are patients who use the SmartVest System. The various models of the SmartVest System are comprised of three main components - a generator, a vest and a connecting hose - that are sold together as an integrated unit. Accordingly, in contracts within the home care market, the Company regards the SmartVest System to be a single performance obligation. The Company makes available to its home care patients limited post-sale services that are not material in the context of the contracts, either individually or taken together, and therefore does not consider them to be performance obligations. The costs associated with the services are accrued and expensed when the related revenues are recognized. As such, transactions in the home care market consist of a single performance obligation, the SmartVest System. Home care patients generally will rely on third-party payers, including commercial payers and governmental payers such as Medicare, Medicaid and the U.S. Department of Veterans Affairs to cover and reimburse all or part of the cost of the SmartVest System. The third-party payers’ reimbursement programs fall into three types, distinguished by the differences in the timing of payments from the payer, consisting of either (i) outright sale, in which payment is received from the payer based on standard terms, (ii) capped installment sale, under which the SmartVest System is sold for a series of payments that are capped not to exceed a prescribed or negotiated amount over a period of time or (iii) installment sale, under which the SmartVest System is paid for over a period of several months as long as the patient continues to use the SmartVest System. Regardless of type of transaction, provided criteria for an enforceable contract are met, it is the Company’s long-standing business practice to regard all home care agreements as transferring control to the patient upon shipment or delivery, in spite of possible payment cancellation under government or commercial programs where the payer is controlling the payment over specified time periods. For home care sales that feature installment payments, the ultimate amount of consideration received from Medicare, Medicaid or commercial payers can be significantly less than expected if the contract is terminated due to changes in the patient’s status, including insurance coverage, hospitalization, death or otherwise becoming unable to use the SmartVest System. However, once delivered to a patient who needs the SmartVest System, the patient is under no obligation to return the SmartVest System should payments be terminated as a result of the described contingencies. As a result, the Company’s product sales qualify for point in time revenue recognition. Control transfers to the patient, and revenue is recognized, upon shipment of the SmartVest System. At this point, physical possession and the significant risks and rewards of ownership are transferred to the patient and either a current or future right to payment is triggered, as further discussed under Accounts receivable and Contract assets below. 8 The Company’s contractually stated transaction prices in the home care market are generally set by the terms of the contracts negotiated with insurance companies or by government programs. The transaction price for the Company’s products may be further impacted by variable consideration. ASC 606 requires the Company to adjust the transaction price at contract inception and throughout the contract duration for the estimated value of payments to be received from insurance payers based on historical experience and other available information, subject to the constraint on estimates of variable consideration. Transactions requiring estimates of variable consideration primarily include (i) capped installment payments, which are subject to the third-party payer’s termination due to changes in insurance coverage, death or the patient’s discontinued use of the SmartVest System, (ii) contracts under appeal and (iii) patient responsibility amounts for deductibles, coinsurance, copays and other similar payments. Although estimates may be made on a contract-by-contract basis, whenever possible, the Company uses all available information including historical collection patterns to estimate variable consideration for portfolios of contracts. The Company’s estimates of variable consideration consist of amounts it may receive from insurance providers in excess of its initial revenue estimate due to patients meeting deductibles or coinsurance during the payment duration, changes to a patient’s insurance status, changes in an insurance allowable, claims in appeals with Medicare and amounts received directly from patients for their allowable or coinsurance. The Company believes it has representative historical information to estimate the amount of variable consideration in relevant portfolios considering the significant experience it has with each portfolio and the similarity of patient accounts within a portfolio. The analysis includes steps to ensure that revenue recognized on a portfolio basis does not result in a material difference when compared with an individual contract approach. The Company also leverages its historical experience and all available relevant information for each portfolio of contracts to minimize the risk its estimates used to arrive at the transaction price will result in a significant reversal in the amount of cumulative revenue recognized when the uncertainty associated with the variable consideration is subsequently resolved. Variable consideration is included in the transaction price if, in the Company’s judgment, it is probable that a significant future reversal of cumulative revenue under the contract will not occur. For example, for contracts in which the Company believes the criteria for reimbursement under government or commercial payer contracts have been met but for which coverage is unconfirmed or payments are under appeal, the Company has significant observable evidence of relatively consistent claims recovery experience over the prior three to five years. The Company believes the low volatility in historical claims approval rates for populations of patients whose demographics are similar to those of current patients provides reliable predictive value in arriving at estimates of variable consideration in such contracts. Similarly, historical payment trends for recovery of claims subject to payer installments and payments from patients have remained relatively consistent over the past five years. No significant changes in patient demographics or other relevant factors have occurred that would limit the predictive value of such payment trends in estimating variable consideration for current contracts. As a result, the Company believes its estimates of variable consideration are generally not subject to the risk of significant revenue reversal. For each type of variable consideration discussed above, there are a large number of contracts with similar characteristics with a wide range of possible transaction prices. For that reason, the Company uses the probability-weighted expected value method provided under ASC 606 to estimate variable consideration. The Company often receives payment from third-party payers for the SmartVest System sales over a period of time that may exceed one year. Despite these extended payment terms, no significant financing component is deemed to exist because the purpose of such terms is not to provide financing to the patient, the payer or the Company. Rather, the extended payment terms are mandated by the government or commercial insurance programs; the fundamental purpose of which is to avoid paying the full purchase price of equipment that may potentially be used by the patient for only a short period of time. Home Care Distributors. Sales to distributors, who sell direct to patients, are made at fixed contract prices and may include tiered pricing structures or volume-based rebates which offer more favorable pricing once certain volumes are achieved per the negotiated contract. The distributor’s purchases accumulate to give the distributor a right to a higher discount on purchases in excess of the specified level within the contract period. As a result, to the extent the Company expects the distributor to exceed the specified volume of purchases in the annual period, it recognizes revenue at a blended rate based on estimated total annual volume and sales revenue. This effectively defers a portion of the transaction price on initial purchases below the specified volumes for recognition when the higher discount is earned on purchases in excess of specified volumes. Transfer of control of the products occurs upon shipment or delivery to the distributor as applicable. 9 Institutional market. The Company’s institutional sales are made to hospitals and home health care centers, pulmonary rehabilitation centers and other clinics. Sales to these institutions are negotiated with the individual institution or with group purchasing organizations, with payments received directly from the institution. No insurance reimbursement is involved. Generators are either sold or leased to the institutions and associated hoses and wraps (used in institutional settings rather than vests) are sold separately. Accordingly, each product is distinct and considered a separate performance obligation in sales to institutional customers. The agreements with institutions fall into two main types, distinguished by differences in the timing of transfer of control and timing of payments: ● Outright sale – Under these transactions, the Company sells its products for a prescribed or negotiated price. Transfer of control of the product, and associated revenue recognition, occurs at the time of shipment and payment is made within normal credit terms, usually within 30 days. ● Rentals – Under these transactions, the customer obtains a right to use the product for a period of time in exchange for consideration as usage occurs. These transactions are treated as operating leases and revenue is recognized ratably over the applicable rental period. Lease revenue recognized during the nine months ended March 31, 2020 and 2019 was approximately $6,000 and $34,000, respectively. International market. Sales to international markets are made directly to a number of independent distributors at fixed contract prices that are not subject to further adjustments for variable consideration. Transfer of control of the products occurs upon shipment or delivery to the distributor as applicable. Product Warranty. The Company offers warranties on its products. These warranties are assurance type warranties not sold on a standalone basis or are otherwise considered immaterial in the context of the contract, and therefore are not considered distinct performance obligations under ASC 606. The Company estimates the costs that may be incurred under its warranties and records a liability in the amount of such costs at the time the product is sold. Accounts receivable. Accounts receivable include amounts billed to customers and third-party payers, for which only the passage of time is required before payment of consideration is due. Amounts due are stated at their net estimated realizable value. Contract assets. Contract assets include amounts recognized as revenue that are estimates of variable consideration for Medicare appeals where the final determination of the insurance coverage amount is dependent on future approval of an appeal, or when the consideration due to the Company is dependent on a future event such as the patient meeting a deductible prior to the Company’s claim being processed by the payer. Contract assets are classified as current as amounts will turn into accounts receivable and be collected during the Company’s normal business operating cycle. Contract assets are reclassified to accounts receivable when the right to receive payment is unconditional. Incremental costs to obtain a contract. Sales incentives paid to sales representatives are eligible for capitalization as they are incremental costs that would not have been incurred without entering into a specific sales arrangement and are recoverable through the expected margin on the transaction . However, the recovery period is less than one year as the performance obligation is satisfied upon shipment or delivery. Consequently, the Company applies the practical expedient provided by ASC 340 and expense sales incentives as incurred. These costs are included in selling, general and administrative expenses in the Company’s condensed statements of operations. Contract balances. The following table provides information about accounts receivable and contracts assets from contracts with customers: March 31, 2020 June 30, 2019 Receivables, included in “Accounts receivable, net of allowance for $ 13,290,402 $ 12,760,042 doubtful accounts" Contract assets $ 1,146,842 $ 995,847 10 Significant changes in contract assets during the period are as follows: Nine Months Ended March 31, 2020 Fiscal Year Ended June 30, 2019 Increase (decrease) Increase (decrease) Contract assets, beginning $ 995,847 $ 776,338 Reclassification of contract assets to accounts receivable (1,413,671 ) (2,012,619 ) Contract assets recognized 1,557,371 2,169,835 Increase as a result of changes in the estimate of amounts to be realized from payers, excluding amounts transferred to receivables during the period 7,295 62,293 Contract assets, ending $ 1,146,842 $ 995,847 Note 3. Inventories The components of inventory were approximately as follows: March 31, 2020 June 30, 2019 Parts inventory $ 2,042,000 $ 1,783,000 Work in process 239,000 444,000 Finished goods 459,000 521,000 Estimated inventory to be returned 187,000 184,000 Less: Reserve for obsolescence (280,000 ) (310,000 ) Total $ 2,647,000 $ 2,622,000 Note 4. Finite-life Intangible Assets The carrying value of patents and trademarks includes the original cost of obtaining the patents, periodic renewal fees and other costs associated with maintaining and defending patent and trademark rights. Patents and trademarks are amortized over their estimated useful lives, generally 15 and 12 years, respectively. Accumulated amortization was $1,101,000 and $1,010,000 at March 31, 2020 and June 30, 2019, respectively. The activity and balances of finite-life intangible assets were approximately as follows: Nine Months Ended March 31, 2020 Fiscal Year Ended June 30, 2019 Balance, beginning $ 581,000 $ 649,000 Additions 115,000 58,000 Abandonments - (5,000 ) Amortization expense (91,000 ) (121,000 ) Balance, ending $ 605,000 $ 581,000 Note 5. Warranty Liability The Company provides a lifetime warranty on its products to the prescribed patient for sales within the U.S. and a three-year warranty for all institutional sales and sales to individuals outside the U.S. The Company estimates the costs that may be incurred under its warranty and records a liability in the amount of such costs at the time the product is shipped. Factors that affect the Company’s warranty liability include the number of units shipped, historical and anticipated rates of warranty claims, the product’s useful life and cost per claim. The Company periodically assesses the adequacy of its recorded warranty liability and adjusts the amounts as necessary. 11 Changes in the Company’s warranty liability were approximately as follows: Nine Months Ended March 31, 2020 Fiscal Year Ended June 30, 2019 Beginning warranty reserve $ 810,000 $ 760,000 Accrual for products sold 82,000 201,000 Expenditures and costs incurred for warranty claims (112,000 ) (151,000 ) Ending warranty reserve $ 780,000 $ 810,000 Note 6. Income Taxes On a quarterly basis, the Company estimates its effective tax rate for the full fiscal year and records a quarterly income tax provision based on the anticipated rate. As the year progresses, the Company refines its estimate based on the facts and circumstances by each tax jurisdiction. Income tax expense was estimated at approximately $294,000 and $1,087,000, and the effective tax rate was 31.0% and 27.6%, for the three and nine months ended March 31, 2020, respectively. Estimated income tax expense for the three months ended March 31, 2020 included a $30,000 discrete tax expense as a result of higher federal and state taxes than what was originally estimated in the Company’s fiscal 2019 tax provision. The net impact of this discrete event increased the estimated effective tax rates by 3.2% during the three months ended March 31, 2020. Estimated income tax expense for the nine months ended March 31, 2020 included a $30,000 discrete tax expense as a result of higher federal and state taxes than what was originally estimated in the Company’s fiscal 2019 tax provision and a $13,000 discrete tax benefit related to the exercise of stock options. The net impact of these discrete events increased the estimated effective tax rates by 0.4% during the nine months ended March 31, 2020. Income tax expense was estimated at approximately $139,000 and $508,000, and the effective tax rate was 28.3% and 36.3%, for the three and nine months ended March 31, 2019, respectively. Estimated income tax expense for the nine months ended March 31, 2019 includes a discrete deferred tax expense of approximately $134,000 related to unexercised fully-vested stock options that expired and a discrete current tax benefit of approximately $16,000 related to the excess tax benefit of non-qualified stock options exercised during the period. The net impact of these discrete events increased the estimated effective tax rates by 8.5% during the nine months ended March 31, 2019. Note 7. Financing Arrangements The Company has a credit facility that provides for a revolving line of credit and a term loan. Effective December 18, 2019, the Company renewed its $2,500,000 revolving line of credit. There was no outstanding principal balance on the line of credit as of March 31, 2020 or June 30, 2019. Interest on borrowings under the line of credit, if any, accrues at the prime rate (3.25% at March 31, 2020) less 1.00% and is payable monthly. The amount eligible for borrowing on the line of credit is limited to the lesser of $2,500,000 or 57.00% of eligible accounts receivable and the line of credit expires on December 18, 2020, if not renewed. At March 31, 2020, the maximum $2,500,000 was eligible for borrowing. The line of credit is secured by a security interest in substantially all the tangible and intangible assets of the Company. The documents governing the line of credit contain certain financial and nonfinancial covenants that include a minimum tangible net worth covenant of not less than $10,125,000 and restrictions on the Company’s ability to incur certain additional indebtedness or pay dividends. Note 8. Stock-Based Compensation In November 2017, the Company’s shareholders approved the 2017 Omnibus Incentive Plan (the “2017 Plan”), which superseded the 2014 Equity Incentive Plan (the “2014 Plan”) . The 2017 Plan allows the Company’s Board of Directors (the “Board of Directors”) to grant stock options, stock appreciation rights, restricted stock, restricted stock units and other stock-based awards, as well as cash incentive awards to all employees, non-employee directors, and advisors or consultants of the Company. The vesting schedule and term for each award are determined by the Board of Directors upon each grant. The maximum number of shares of common stock available for issuance under the 2017 Plan is 900,000. There were 469,500 stock options granted under the 2014 Plan and prior plans outstanding as of March 31, 2020. There were 287,932 stock options and 77,498 shares of restricted stock issued under the 2017 Plan outstanding and 504,900 shares available for grant under the 2017 Plan as of March 31, 2020. The Company recorded approximately $677,000 and $729,000 of compensation expense related to current and past grants of stock options and restricted stock for the nine months ended March 31, 2020 and 2019, respectively. This expense is included in selling, general and administrative expense. As of March 31, 2020, approximately $730,000 of total unrecognized compensation expense related to non-vested equity awards was expected to be recognized over a weighted-average period of approximately 0.7 years. 12 The Company recognizes compensation expense related to share-based payment transactions in the financial statements based on the estimated fair value of the award issued. The fair value of each option is estimated using the Black-Scholes pricing model at the time of award grant. The Company estimates the expected life of options based on the expected holding period by the option holder. The risk-free interest rate is based upon observed U.S. Treasury interest rates for the expected term of the options. The Company makes assumptions with respect to expected stock price volatility based upon the historical volatility of its stock price. Forfeitures are estimated at the time of grant and revised in subsequent periods if actual forfeitures differ from initial estimates. Forfeitures are estimated based on the percentage of awards expected to vest, taking into consideration the seniority level of the award recipient. The following assumptions were used to estimate the fair value of stock options granted: Nine Months Ended March 31, 2020 Fiscal Year Ended June 30, 2019 Risk-free interest rate 1.85 % 2.36% - 2.77 % Expected term (years) 6 6 Expected volatility 190.1 % 182.4% - 192.0 % Stock Options The Company issued 149,300 stock options pursuant to the 2017 Plan during the nine months ended March 31, 2020. Stock option transactions during the nine months ended March 31, 2020 are summarized as follows: Number of Shares Weighted Average Exercise Price per Share Outstanding at June 30, 2019 683,000 $ 3.84 Granted 149,300 $ 5.29 Exercised (34,418 ) $ 3.87 Cancelled or Forfeited (40,450 ) $ 5.33 Outstanding at March 31, 2020 757,432 $ 4.05 The intrinsic value of an option is the amount by which the fair value of the underlying stock exceeds its exercise price. At March 31, 2020, the weighted average remaining contractual term for all outstanding stock options was 6.66 years and their aggregate intrinsic value was approximately $6,062,000. Outstanding at March 31, 2020 were 757,432 stock options issued to employees, of which 477,756 were exercisable and had an aggregate intrinsic value of approximately $4,202,000. Restricted Stock The 2017 Plan also permits the grant of other stock-based awards, including shares of restricted stock. Historically, the Company makes restricted stock grants to key employees and non-employee directors that vest over six months to three years. During the nine months ended March 31, 2020, the Company issued restricted stock awards to employees totaling 32,500 shares of common stock, with a vesting term of one to three years and a fair value of $5.29 per share, and to directors totaling 18,000 shares of common stock, with a vesting term of six months and a fair value of $9.74 per share. The restricted stock’s fair value per share represents the closing price of its common stock on the NYSE American on the date of the grant. Restricted stock transactions during the nine months ended March 31, 2020 are summarized as follows: Number of Shares Weighted Average Grant Date Fair Value per Share Outstanding Shares of Restricted Stock Unvested at June 30, 2019 29,998 $ 5.46 Granted 50,500 6.88 Vested – – Forfeited (3,000 ) 9.74 Outstanding Shares of Restricted Stock Unvested at March 31, 2020 77,498 $ 6.22 13 Note 9. Leases The Company has four leases for office and warehouse space that require monthly payments. These leases have escalating payments ranging from approximately $450 to $4,400 per month which expire through July 2022 and are recognized on a straight-line basis over the life of the lease. The Company has a lease for office equipment that requires payments of approximately $1,500 per month through December 2022. All leases are classified as operating leases which do not include renewal options. The Company currently does not have any short-term or variable lease costs. The Company applied the practical expedient to calculate the present value of the fixed payments without having to perform an allocation to lease and non-lease components. The Company has recognized right of use assets associated with its operating leases of approximately $100,000 and $45,000 as of March 31, 2020 and June 30, 2019, respectively, which is included in other assets on the Company’s condensed balance sheet. Operating lease liabilities were $101,000 and $45,000 as of March 31, 2020 and June 30, 2019, respectively, which are included in current maturities of long-term liabilities and other long-term liabilities on the Company’s condensed balance sheet. As of March 31, 2020, the Company has a weighted-average lease term of 0.8 years for its operating leases, which have a weighted-average discount rate of 4.0%. Operating lease payments of $55,000 are included in operating cash flows for the nine months ended March 31, 2020. Maturities of lease liabilities, which are included in current maturities of long-term liabilities and other long-term liabilities on the Company’s condensed balance sheet, are as follows: Fiscal years ending June 30: 2020 * $ 23,000 2021 73,000 2022 9,000 2023 1,000 Total lease payments 106,000 Less: Interest (5,000 ) Present value of lease liabilities $ 101,000 * Three months ending June 30, 2020 Note 10. Commitments and Contingencies The Company is occasionally involved in claims and disputes arising in the ordinary course of business. The Company insures its business risks where possible to mitigate the financial impact of individual claims and establishes reserves for an estimate of any probable cost of settlement or other disposition. Note 11. Subsequent Events On April 10, 2020, the Company received a stimulus payment in the amount of $913,000 related to the Coronavirus Aid Relief, and Economic Security Act (“CARES Act”) Provider Relief Fund which may partially offset losses in revenue due to the impact of the COVID-19 pandemic. The Company’s ability to utilize the full amount received will depend on the guidelines and rules of the CARES Act such as the cost incurred to support healthcare-related expenses or lost revenue attributable to the COVID-19 pandemic in accordance with the guidelines and rules of the CARES Act. 14 Item 2. Manag ement’s Discussion and Analysis of Financial Condition and Results of Operations. The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our unaudited condensed financial statements and related notes thereto included in Part I, Item 1 of this Quarterly Report on Form 10-Q, our audited financial statements, related notes thereto and Part II, Item 7 of our Annual Report on Form 10-K for the fiscal year ended June 30, 2019 (“fiscal 2019”). Overview Electromed, Inc. (“we,” “our,” “us,” “Electromed” or the “Company”) develops and provides innovative airway clearance products applying High Frequency Chest Wall Oscillation (“HFCWO”) technologies in pulmonary care for patients of all ages. We manufacture, market and sell products that provide HFCWO, including the SmartVest ® Airway Clearance System (“SmartVest System”) that includes our newest generation SmartVest SQL ® and previous generation SV2100, and related products, to patients with compromised pulmonary function. The SmartVest SQL is smaller, quieter and lighter than our previous product, with enhanced programmability and ease of use. Our products are sold in both the home health care market and the institutional market for use by patients in hospitals, which we refer to as “institutional sales.” The SmartVest SQL has been sold in the domestic home care market since our fiscal quarter ended March 31, 2014. In the fourth quarter of our fiscal year ended June 30, 2015, we launched the SmartVest SQL into institutional and certain international markets. In June 2017, we announced the launch of the SmartVest SQL with SmartVest Connect™ wireless technology, which allows data connection between physicians and patients to track therapy performance and collaborate in treatment decisions. SmartVest Connect is currently available to pediatric and cystic fibrosis patients and was made available to certain targeted adult pulmonary clinics starting in November 2017. Since 2000, we have marketed the SmartVest System and its predecessor products to patients suffering from cystic fibrosis, bronchiectasis and repeated episodes of pneumonia. Additionally, we offer our products to a patient population that includes neuromuscular disorders such as cerebral palsy, muscular dystrophies, amyotrophic lateral sclerosis (“ALS”), the combination of emphysema and chronic bronchitis commonly known as chronic obstructive pulmonary disease (“COPD”), and patients with post-surgical complications or who are ventilator dependent or have other conditions involving excess secretion and impaired mucus transport. During February 2017, we entered into an agreement with Monaghan Medical Corporation to distribute and sell the Aerobika ® Oscillating Positive Expiratory Pressure (“OPEP”) device in the U.S. home care market. After over a year of offering the Aerobika OPEP device, we determined that continuing to offer the product direct to patients was unlikely to serve a broader patient population as originally planned. As a result, we discontinued our distribution of the Aerobika OPEP device in November 2018. The SmartVest System is often eligible for reimbursement from major private insurance providers, health maintenance organizations (“HMOs”), state Medicaid systems, and the federal Medicare system, which we believe is an important consideration for patients considering an HFCWO course of therapy. For domestic sales, the SmartVest System may be reimbursed under the Medicare-assigned billing code (E0483) for HFCWO devices if the patient has cystic fibrosis, bronchiectasis (including chronic bronchitis or COPD that has resulted in a diagnosis of bronchiectasis), or any one of certain enumerated neuromuscular diseases, and can demonstrate that another less expensive physical or mechanical treatment did not adequately mobilize retained secretions. Private payers consider a variety of sources, including Medicare, as guidelines in setting their coverage policies and payment amounts. Critical Accounting Policies and Estimates For a description of our critical accounting policies, estimates and assumptions used in the preparation of our financial statements, including the unaudited condensed financial statements in this Quarterly Report on Form 10-Q, see Note 1 to our unaudited condensed financial statements included in Part I, Item 1 of this Quarterly Report on Form 10-Q and Part II, Item 7, and Note 1 to our audited financial statements included in Part II, Item 8, of our Annual Report on Form 10-K for fiscal 2019. Some of our accounting policies require us to exercise significant judgment in selecting the appropriate assumptions for calculating financial statements. Such judgments are subject to an inherent degree of uncertainty. Among other factors, these judgments are based upon our historical experience, known trends in our industry, terms of existing contracts and other information from outside sources, as appropriate. We believe the critical accounting policies that require the most significant assumptions and judgments in the preparation of our financial statements, including the unaudited condensed financial statements contained in this Quarterly Report on Form 10-Q, include: revenue recognition and the estimation of variable consideration, allowance for doubtful accounts, inventory obsolescence, share-based compensation and warranty liability. 15 COVID-19 Considerations The impact of the COVID-19 pandemic on our business remains uncertain and its effects on our operational and financial performance will depend in large part on future developments, which cannot be reasonably estimated at this time. Such future developments include, but are not limited to, the duration, scope and severity of the COVID-19 pandemic in geographic areas we operate or in which our patients live, actions taken to contain or mitigate its impact, the impact on governmental healthcare programs and budgets, the development of treatments or vaccines, and the resumption of widespread economic activity. Due to the inherent uncertainty of the unprecedented and rapidly evolving situation, we are unable to predict with confidence the likely impact of the COVID-19 pandemic on our future operations. The COVID-19 pandemic has created significant volatility, uncertainty and economic disruption and started negatively impacting business in our industry during the third quarter of fiscal 2020 In particular, healthcare facilities and clinics have restricted access to their clinicians, reducing patient consultations and treatments, or closed temporarily due to the COVID-19 pandemic, which has significantly reduced homecare referrals and resulted in institutional orders being postponed. These and other responses by healthcare systems have had, and we believe will continue to have, a negative impact on our operating results and cash flows. While the effects of the COVID-19 pandemic began in the second half of March of 2020, we expect the effect on our financial results in the fourth quarter of fiscal 2020 to be significant. We believe the impact on our business will begin to lessen after our fourth quarter and continue to do so in subsequent periods; however, the impacts on these periods could be significant. We believe that the COVID-19 pandemic’s adverse impact on our operating results, cash flows and financial condition will be primarily driven by: the severity and duration of the pandemic; its impact on the U.S. healthcare system and economy; and the timing, scope and effectiveness of U.S. governmental responses to the COVID-19 pandemic. While we have not experienced adverse impacts on our supply chain, the COVID-19 pandemic could have an adverse impact on our supply chain, including the impacts associated with preventive and precautionary measures that other businesses and the governments are taking. A reduction or interruption in any of our manufacturing processes could have a material adverse effect on our business. In response to the negative impact of the COVID-19 pandemic on our business, in April 2020 we initiated cost-containment measures, which included reducing discretionary and variable spend, such as travel, and the use of contractors, consultants, temporary help and employee furloughs in our manufacturing and general and administrative functions in response to lower near-term demand for our products. We expect these costs reductions will lead to approximately $450,000 of savings per quarter which we expect to partially realize in the quarter ending June 30, 2020. We have also taken measures to ensure the safety of our employees and to comply with governmental orders. We consider our business to be essential under applicable orders due primarily to our role in manufacturing and supplying needed medical devices to patients with respiratory related issues. In response to the COVID-19 pandemic and the U.S. federal government’s declaration of a public health emergency, the Centers for Medicare and Medicaid Services implemented a number of temporary rule changes and waivers to allow prescribers to best treat patients during the period of the public health emergency. These waivers are retroactively effective to March 1, 2020 and will be in place for an unknown period of time. Clinical indications and documentation typically required will not be enforced for respiratory related products including the SmartVest System (solely with respect to Medicare patients). The minimum documentation now requires a valid order and documentation of a respiratory related diagnosis. Face-to-face and in-person requirements for respiratory devices are being waived during such period. 1 1 Policy and Regulatory Revisions in Response to the COVID-19 Public Health Emergency , 66 Fed. Reg. 19230, 19266 (April 6, 2020). 16 On April 10, 2020, the Company received a stimulus payment in the amount of $913,000 related to the Coronavirus Aid Relief, and Economic Security Act (“CARES Act”) Provider Relief Fund which may partially offset losses in revenue due to the impact of the COVID-19 pandemic. The Company’s ability to utilize the full amount received will depend on cost incurred to support healthcare-related expenses or lost revenue attributable to the COVID-19 pandemic in accordance with the guidelines and rules of the CARES Act. Results of Operations Revenues Revenue for the three and nine months ended March 31, 2020 and 2019 are summarized in the table below (dollar amounts in thousands). Three Months Ended March 31, Nine Months Ended March 31, 2020 2019 Change 2020 2019 Change Total Revenue $ 8,744 $ 7,408 $ 1,336 18.0 % $ 25,593 $ 22,696 $ 2,897 12.8 % Home Care Revenue 7,834 6,852 982 14.3 % 22,995 20,905 2,090 10.0 % Institutional Revenue 609 414 195 46.9 % 1,727 1,235 492 39.8 % Home Care Distributor Revenue 164 - 164 - 416 - 416 - International Revenue 137 142 (5 ) (3.4 %) 455 556 (101 ) (18.0 %) Home Care Revenue. Home care revenue for the three months ended March 31, 2020 was approximately $7,834,000, an increase of approximately $982,000, or 14.3%, compared to the same period in fiscal 2019. The increase was primarily due to a higher average allowable based on payer mix and a greater percentage of approved referrals as compared to the prior year period . Referrals increased slightly despite having approximately five fewer direct field sales employees compared to the prior year period. For the nine months ended March 31, 2020, home care revenue was approximately $22,995,000, an increase of approximately $2,090,000, or 10.0%, compared to the same period in fiscal 2019. The increase was predominantly due to a higher average allowable due to payer mix and a greater percentage of approved referrals as compared to the prior year period. Referrals increased slightly despite having approximately seven fewer direct field sales employees compared to the prior year period. Institutional Revenue. Institutional revenue for the three and nine months ended March 31, 2020 was approximately $609,000 and $1,727,000, respectively, representing an increase of approximately $195,000 and $492,000, or 46.9% and 39.8%, respectively, compared to the same periods in fiscal 2019. The increases in institutional revenue for the three and nine months ended March 31, 2020 were primarily due to a higher selling price per device compared to the same periods in the prior year and an increase in the number of devices and single-use patient garments sold. Institutional revenue includes sales to group purchasing organization (“GPO”) members, medical equipment rental companies that rent to long-term care facilities and other institutions. Home Care Distributor Revenue. Home care distributor revenue for the three and nine months ended March 31, 2020 was approximately $164,000 and $416,000, respectively. We began selling to home medical equipment distributors during the nine months ended March 31, 2020, who in turn sell our SmartVest System in the U.S. home care market. International Revenue. International revenue for the three and nine months ended March 31, 2020 was approximately $137,000 and $455,000, respectively, representing a decrease of approximately $5,000 and $101,000, or 3.4% and 18.0%, respectively, compared to the same periods in fiscal 2019. International sales are affected by the timing of distributor purchases that can cause significant fluctuations in reported revenue on a quarterly basis. Gross profit Gross profit increased to approximately $6,594,000, or 75.4% of net revenues, for the three months ended March 31, 2020 from approximately $5,574,000, or 75.2% of net revenues, in the same period in fiscal 2019. Gross profit increased to approximately $19,611,000, or 76.6% of net revenues, for the nine months ended March 31, 2020, from approximately $17,180,000, or 75.7% of net revenues, in the same period in fiscal 2019. The increase in gross profit for the three and nine months ended March 31, 2020 was primarily related to increases in domestic home care revenue. The increase in gross profit as a percentage of net revenue was driven by a higher average allowable due to payer mix compared to the same periods in the prior year. 17 Operating expenses Selling, general and administrative expenses. Selling, general and administrative (“SG&A”) expenses were approximately $5,288,000 and $15,148,000 for the three and nine months ended March 31, 2020, respectively, representing an increase of approximately $349,000, or 7.1%, and a decrease of approximately $214,000, or 1.4%, respectively, compared to the same periods in the prior year. Payroll and compensation-related expenses were approximately $3,277,000 and $9,451,000 for the three and nine months ended March 31, 2020, respectively, representing an increase of approximately $97,000, or 3.1%, and a decrease of approximately $484,000, or 4.9%, respectively, compared to the same periods in the prior year. The decrease in the current year period was due to a lower number of employees in sales and administrative roles and lower share-based compensation expense. These decreases in payroll and compensation-related expenses were partially offset by annual salary increases as compared to the prior year period. Travel, meals and entertainment expenses were approximately $525,000 and $1,667,000 for the three and nine months ended March 31, 2020, respectively, representing a decrease of approximately $17,000 and $91,000, or 3.1% and 5.2%, respectively, compared to the same periods in the prior year. The decrease was due primarily to fewer sales personnel. Professional fees for the three and nine months ended March 31, 2020 were approximately $567,000 and $1,465,000, respectively, an increase of approximately $245,000 and $311,000, or 76.1% and 26.9%, respectively, compared to the same periods in the prior year. These fees are primarily for services related to legal costs, shareowner services and reporting requirements, information technology (“IT”) technical support and consulting fees for enhancing our market development strategy. The increase in professional fees were primarily in legal, consulting and shareowner services. Recruiting fees for the three and nine months ended March 31, 2020 were approximately $65,000 and $219,000, respectively, a decrease of approximately $60,000, or 48.0%, and an increase of approximately $1,000, or 0.5%, respectively, compared to the same periods in the prior year. The decrease in recruiting fees during the three months ended March 31, 2020 was due primarily to a lower number of new employees hired in sales roles compared to the same period in the prior year. Research and development expenses. Research and development (“R&D”) expenses were approximately $392,000 and $634,000 for the three and nine months ended March 31, 2020, respectively, representing increases of approximately $221,000 and $157,000 compared to the same periods in the prior year. R&D expenses for the three and nine months ended March 31, 2020 were 4.5% and 2.5% of revenue, respectively, compared to 2.3% and 2.1% of revenue for the same periods in the prior year. We expect spending on R&D expenses to increase in the fourth quarter of fiscal 2020 based on the timing of certain projects in the development of a next generation device. Interest income, net Net interest income for the three and nine months ended March 31, 2020 was $34,000 and $111,000, respectively, compared to net interest income of $27,000 and $57,000 in the comparable prior year periods. The increase in interest income was primarily driven by higher rates earned on our cash deposits and a higher average balance as compared to the prior year. Income tax expense Income tax expense was estimated at approximately $294,000 and $1,087,000, and the effective tax rate was 31.0% and 27.6%, for the three and nine months ended March 31, 2020, respectively. Estimated income tax expense for the three months ended March 31, 2020 included a $30,000 discrete tax expense as a result of higher federal and state taxes than what was originally estimated in our fiscal 2019 tax provision. The net impact of this discrete event increased the estimated effective tax rates by 3.2% during the three months ended March 31, 2020. Estimated income tax expense for the nine months ended March 31, 2020 included a $30,000 discrete tax expense as a result of higher federal and state taxes than what was originally estimated in our fiscal 2019 tax provision and a $13,000 discrete tax benefit related to the exercise of stock options. The net impact of these discrete events increased the estimated effective tax rates by 0.4% during the nine months ended March 31, 2020. Income tax expense was estimated at approximately $139,000 and $508,000, and the effective tax rate was 28.3% and 36.3%, for the three and nine months ended March 31, 2019, respectively. Estimated income tax expense for the nine months ended March 31, 2019 included a discrete deferred tax expense of approximately $134,000 related to unexercised fully-vested stock options that expired and a discrete current tax benefit of approximately $16,000 related to the excess tax benefit of non-qualified stock options exercised during the period. The net impact of these discrete events increased the estimated effective tax rates by 8.5% during the nine months ended March 31, 2019. 18 Net income Net income for the three and nine months ended March 31, 2020 was approximately $653,000 and $2,853,000, respectively, compared to $353,000 and $891,000 for the same periods in the prior year. The year-over-year increase in net income was driven primarily by higher revenue and lower payroll and compensation-related expenses. Liquidity and Capital Resources Cash Flows and Sources of Liquidity Cash Flows from Operating Activities For the nine months ended March 31, 2020 , net cash provided by operating activities was approximately $2,912,000. Cash flows provided by operating activities consisted of net income of approximately $2,853,000, non-cash expenses of $1,265,000, an increase in accounts payable and accrued liabilities of $137,000 and a decrease in prepaid expenses and other assets of $50,000. These cash flows from operating activities were partially offset by an increase in accounts receivable of $530,000, an increase in income taxes receivable of $409,000, a decrease in income taxes payable of $289,000, an increase in contract assets of $151,000 and an increase in inventory of $14,000. Cash Flows from Investing Activities For the nine months ended March 31, 2020 , cash used in investing activities was approximately $850,000. Cash used in investing activities consisted of approximately $753,000 in expenditures for property and equipment and $97,000 in payments for patent costs. Cash Flows from Financing Activities For the nine months ended March 31, 2020 , cash provided by financing activities was approximately $63,000, which consisted of cash received from the exercise of stock options. Adequacy of Capital Resources Our primary working capital requirements relate to adding employees to our sales force and support functions, continuing R&D efforts, and supporting general corporate needs, including financing equipment purchases and other capital expenditures incurred in the ordinary course of business. While the Company expects the effects of the COVID-19 pandemic to be significant in the fourth quarter of fiscal 2020 and, to a lesser extent, in subsequent periods, we believe our working capital of approximately $24,165,000 as of March 31, 2020 and available borrowings under our existing credit facility will provide adequate liquidity for the foreseeable future. Effective December 18, 2019, we renewed our credit facility, which provides us with a revolving line of credit. Interest on borrowings on the line of credit accrues at the prime rate (3.25% at March 31, 2020) less 1.00% and is payable monthly. There was no outstanding principal balance on the line of credit as of March 31, 2020 or June 30, 2019. The amount eligible for borrowing on the line of credit is limited to the lesser of $2,500,000 or 57.00% of eligible accounts receivable, and the line of credit expires on December 18, 2020, if not renewed. At March 31, 2020, the maximum $2,500,000 was available under the line of credit. Payment obligations under the line of credit are secured by a security interest in substantially all of our tangible and intangible assets. The documents governing our line of credit contain certain financial and nonfinancial covenants that include a minimum tangible net worth of not less than $10,125,000 and restrictions on our ability to incur certain additional indebtedness or pay dividends. We were in compliance with these covenants as of March 31, 2020 . Any failure to comply with these covenants in the future may result in an event of default, which if not cured or waived, could result in the lender accelerating the maturity of any indebtedness, preventing access to additional funds under the line of credit, requiring prepayment of outstanding indebtedness or refusing to renew the line of credit. If we are unable to repay such indebtedness, the lender could foreclose on these assets. 19 For the nine months ended March 31, 2020 and 2019, we spent approximately $753,000 and $197,000, respectively, on property and equipment. We currently expect to finance planned equipment purchases with cash flows from operations or borrowings under our credit facility. We may need to incur additional debt if we have an unforeseen need for additional capital equipment or if our operating performance does not generate adequate cash flows. In September 2019, we completed a building expansion project at our New Prague, Minnesota facility. This building expansion commenced in April 2019 and the total cost of the project was approximately $1,500,000 and will save us approximately $130,000 in annual lease expense and provide us with sufficient infrastructure to support our long-term growth. Off-Balance Sheet Arrangements As of March 31, 2020 , we had no off-balance sheet arrangements. Cautionary Note Regarding Forward-Looking Statements Statements contained in this Quarterly Report on Form 10-Q that are not statements of historical fact should be considered forward-looking statements within the meaning of the safe harbor provisions of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Forward-looking statements include, but are not limited to, statements regarding: our business strategy, including our intended level of investment in R&D and marketing activities; our expectations with respect to earnings, gross margins and sales growth, industry relationships, marketing strategies and international sales; estimated sizes of markets into which our products are or may be sold; our business strengths and competitive advantages; our ability to grow additional sales distribution channels; our intent to retain any earnings for use in operations rather than paying dividends; our expectation that our products will continue to qualify for reimbursement and payment under government and private insurance programs; our intellectual property plans and practices; the expected impact of applicable regulations on our business; our beliefs about our manufacturing processes; our expectations and beliefs with respect to our employees and our relationships with them; our belief that our current facilities are adequate to support our growth plans; our expectations with respect to ongoing compliance with the terms of our credit facility; our expectations regarding the ongoing availability of credit and our ability to renew our line of credit; enhancements to our products and services; expected excise tax exemption for the SmartVest System; the expected impact of the COVID-19 pandemic on our business; and our anticipated revenues, expenses, capital requirements and liquidity. Words such as “anticipate,” “believe,” “continue,” “could,” “estimate,” “expect,” “goal,” “intend,” “may,” “ongoing,” “plan,” “potential,” “project,” “should,” “target,” “will,” “would,” and similar expressions, including the negative of these terms, are intended to identify forward-looking statements but are not the exclusive means of identifying such statements. Although we believe these forward-looking statements are reasonable, they involve risks and uncertainties that may cause actual results to differ materially from those projected by such statements. Such statements involve known and unknown risks, uncertainties and other factors that may cause our actual results or our industry’s actual results, levels of activity, performance or achievements to be materially different from the information expressed or implied by the forward-looking statements. Factors that could cause actual results to differ from those discussed in the forward-looking statements include, but are not limited to, the following: ● the duration, extent and severity of the COVID-19 pandemic, including its effects on our business, operations and employees as well as its impact on our customers and distribution channels and on economies and markets more generally; ● the competitive nature of our market; ● changes to Medicare, Medicaid, or private insurance reimbursement policies; ● changes to state and federal health care laws; ● changes affecting the medical device industry; ● our ability to develop new sales channels for our products such as the home care distributor channel; ● our need to maintain regulatory compliance and to gain future regulatory approvals and clearances; 20 ● new drug or pharmaceutical discoveries; ● general economic and business conditions; ● our ability to renew our line of credit or obtain additional credit as necessary; ● our ability to protect and expand our intellectual property portfolio; and ● the risks associated with expansion into international markets. This list of factors is not exhaustive, however, and these or other factors, many of which are outside of our control, could have a material adverse effect on us and our results of operations. Therefore, you should consider these risk factors with caution and form your own critical and independent conclusions about the likely effect of these risk factors on our future performance. Forward-looking statements speak only as of the date on which the statements are made, and we undertake no obligation to update any forward-looking statement for any reason, even if new information becomes available or other events occur in the future. You should carefully review the disclosures and the risk factors described in this and other documents we file from time to time with the Securities and Exchange Commission (the “SEC”), including our Annual Report on Form 10-K and subsequent reports we file with the SEC. All forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the cautionary statements set forth herein. Item 3. Quantit ative and Qualitative Disclosures About Market Risk. As a smaller reporting company, we are not required to provide disclosure pursuant to this Item. Item 4. Con trols and Procedures. Evaluation of Disclosure Controls and Procedures Our principal executive officer and principal financial officer evaluated the effectiveness of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) promulgated under the Exchange Act, as of the end of the period subject to this Quarterly Report on Form 10-Q. Based on this evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective as of the date of such evaluation to provide reasonable assurance that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified by the SEC’s rules and forms. Changes to Internal Control Over Financial Reporting There were no changes in our internal control over financial reporting that occurred during the quarter ended March 31, 2020 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. PART II – OT HER INFORMATION Item 1. Legal P roceedings. Occasionally, we may be party to legal actions, proceedings, or claims in the ordinary course of business, including claims based on assertions of patent and trademark infringement. Corresponding costs are accrued when it is probable that loss will be incurred and the amount can be precisely or reasonably estimated. We are not aware of any undisclosed actual or threatened litigation that would have a material adverse effect on our financial condition or results of operations. Item 1A. R isk Factors. As a smaller reporting company, we are not required to provide disclosure pursuant to this Item. Item 2. Unr egistered Sales of Equity Securities and Use of Proceeds. None. 21 Item 3. D efaults Upon Senior Securities. None. Item 4. M ine Safety Disclosures. None. Item 5. Ot her Information. None. Item 6. Ex hibits. Unless otherwise indicated, all documents incorporated into this Quarterly Report on Form 10-Q by reference to a document filed with the SEC pursuant to the Exchange Act are located under SEC file number 001-34839. Exhibit Number Description Method of Filing 3.1 Composite Articles of Incorporation, as amended through November 8, 2010 (incorporated by reference to Exhibit 3.1 to Annual Report on Form 10-K for the fiscal year ended June 30, 2015) Incorporated by Reference 3.2 Composite Bylaws, as amended through March 28, 2013 (incorporated by reference to Exhibit 3.2 to Annual Report on Form 10-K for the fiscal year ended June 30, 2015) Incorporated by Reference 31.1 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 Filed Electronically 31.2 Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 Filed Electronically 32.1 Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 Filed Electronically 32.2 Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 Filed Electronically 101 Financial statements from the Quarterly Report on Form 10-Q for the period ended March 31, 2020, formatted in XBRL: (i) Condensed Balance Sheets, (ii) Condensed Statements of Operations, (iii) Condensed Statements of Cash Flows, (iv) Condensed Statements of Shareholders’ Equity, and (v) Notes to Condensed Financial Statements Filed Electronically 22 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. ELECTROMED, INC. Date: May 12, 2020 /s/ Kathleen S. Skarvan Kathleen S. Skarvan, President and Chief Executive Officer (duly authorized officer) Date: May 12, 2020 /s/ Jeremy T. Brock Jeremy T. Brock, Chief Financial Officer (principal financial officer and principal accounting officer)