UNITED GUARDIAN INC 10-K/A

Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations. Impact of the Coronavirus Pandemic In March 2020, the spread of the coronavirus (COVID-19) began to cause disruptions among businesses and markets worldwide. On March 20, 2020, the Governor of New York issued an executive order which closed non-essential businesses. The Company, as a manufacturer of pharmaceutical and medical products, was considered an essential business, and continued to operate throughout the pandemic. When the spread of the coronavirus was at its worst in New York, the Company modified its staffing schedule in order to decrease employee density as much as possible, with employees working 7 days a week on altered hours, and later on an every-other-week work schedule with limited hours. Despite the reduced schedule the Company was able to maintain adequate production and shipping schedules and was able to fill all orders on a timely basis. As things improved, the Company gradually increased its working hours and employee density until it resumed its regular working schedule in June 2020. Throughout the pandemic the Company was able to maintain its full payroll, all employees received their full pay, and no employees were furloughed or dismissed. While sales of the Company’s pharmaceutical products have not been impacted by the coronavirus pandemic, sales of the Company’s cosmetic ingredients and medical products were significantly impacted, particularly in the second half of 2020. Sales of the Company’s cosmetic ingredients in 2020 decreased by 33% compared with 2019. The decrease was primarily the result of lower sales to ASI, the Company’s marketing partner in China, and was caused primarily by factors related to the coronavirus, including (a) lower consumer demand in China for many of the products in which the Company’s products are used; (b) manufacturing disruptions in China resulting from the impact of the coronavirus on manufacturing facilities; and (c) excess inventory levels due to overstocking on the part of both the Company’s marketing partner for China as well its sub-distributors in China. The overstocking was due to the uncertainty on the part of the marketing partner about being able to continue to get product from the Company during the pandemic. Since the Company’s cosmetic ingredients are marketed in many different countries, it is difficult to project the future impact of the coronavirus pandemic on the Company’s global cosmetic ingredient sales, since the virus continues to impact different countries at different times and to very different extents. The Company is hopeful that as vaccinations increase, the global economic situation will gradually improve. However, based on the current situation, as well as future projections by different analysts, the Company anticipates that the pandemic will continue to negatively impact sales of the Company’s cosmetic ingredients throughout most or all of 2021. 15 UNITED-GUARDIAN, INC. The Company also believes that the coronavirus impacted sales to two of the Company’s four major medical product customers whose orders decreased in 2020, and may have been a factor in the loss of a third (although the Company has not yet been able to confirm that as the reason for that lost business). Overall sales of the Company’s medical products decreased by 31% compared with the corresponding periods in 2019. With the continuing uncertainty as to what the duration and future impact of the pandemic will be, the Company is unable to provide an accurate estimate or projection as to what the continuing impact of the coronavirus will be on the Company’s operations or its financial results in the future. However, as of the date of this report, the Company does not anticipate that the coronavirus pandemic will affect the ability of the Company to obtain raw materials and maintain production. The Company has price protection on some but not all of its most important raw materials, has multiple sources for many of its raw materials, and has been able to maintain sufficient inventory and production levels to enable it to fulfill sales orders on a timely basis. Critical Accounting Policies The Company’s financial statements have been prepared in accordance with Generally Accepted Accounting Principles in the United States of America (“US GAAP”). Preparation of financial statements requires the Company to make estimates and assumptions affecting the reported amounts of assets, liabilities, revenues, and expenses and the disclosure of contingent assets and liabilities. The Company uses its historical experience and other relevant factors when developing its estimates and assumptions, which are continually evaluated. Note A, Nature of Business and Summary of Significant Accounting Policies, of the Notes to Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report includes a discussion of the Company’s significant accounting policies. The following accounting policies are those that the Company considers critical to an understanding of the financial statements because their application places the most significant demands on the Company’s judgment. The Company’s financial results might have been different if other assumptions had been used or other conditions had prevailed. Marketable Securities The Company’s marketable securities include investments in equity and fixed income mutual funds, and U.S. Government securities. The Company’s marketable equity securities are reported at fair value with the related unrealized and realized gains and losses included in net income. U.S Treasury Bills are considered debt securities and realized gains or losses, if any, are reported in other comprehensive income. Realized gains or losses on mutual funds are determined on a specific identification basis. The Company evaluates its investments periodically for possible other-than-temporary impairment by reviewing factors such as the length of time and extent to which fair value had been below cost basis, the financial condition of the issuer and the Company’s ability and intent to hold the investment for a period of time which may be sufficient for anticipated recovery of market value. The Company records an impairment charge to the extent that the cost of the available-for-sale securities exceeds the estimated fair value of the securities and the decline in value is determined to be other-than-temporary. During 2020 and 2019, the Company did not record an impairment charge regarding its investment in marketable securities because management believes, based on its evaluation of the circumstances, that the decline in fair value below the cost of certain of the Company’s marketable securities is temporary. 16 UNITED-GUARDIAN, INC. Revenue Recognition The Company records revenue in accordance with ASC Topic 606 “Revenue from Contracts with Customers.” Under this guidance, revenue is recognized when a customer obtains control of promised goods or services, in an amount that reflects the consideration expected to be received in exchange for those goods or services. The Company’s principal source of revenue is product sales. The Company’s sales, as reported, are subject to a variety of deductions, which generally are estimated and recorded in the same period that the revenues are recognized. Such variable consideration, primarily related to the sale of the Company’s pharmaceutical products, includes chargebacks from the United States Department of Veterans Affairs (“VA”), rebates in connection with participation in Medicare and Medicaid programs, distribution fees, discounts, and outdated product returns. These deductions represent estimates of the related obligations and, as such, knowledge and judgment are required when estimating the impact of these revenue deductions on sales for a reporting period. During 2020 and 2019, the Company participated in various government drug rebate programs related to the sale of Renacidin, its most important pharmaceutical product. These programs include the Medicaid Drug Rebate Program (MDRP), Section 340B Drug Pricing Program (340B), Veterans Affairs Federal Supply Schedule (FSS), and the Medicare Part D Coverage Gap Discount Program (CGDP). These programs required the Company to either sell its product at a discounted price, or, in the case of Medicaid, to pay a significant rebate to the various states where Renacidin is provided to Medicaid patients. The Company’s sales, as reported, are net of these rebates, some of which are estimated and are recorded in the same period that the revenue is recognized. As a result of the overly burdensome nature of the Medicaid rebates it became clear to the Company in October 2020 that it was no longer profitable for the Company to continue participating in the Medicaid or the 340B programs. As a result, on October 30, 2020, the Company informed the Centers for Medicare & Medicaid Services (CMS) and the Health Resources and Services Administration (HRSA) of its intention to terminate its Medicaid Drug Rebate Agreement and its 340B Drug Pricing Agreement, effective December 31, 2020. The Company will, however, continue to participate in the other government discount and rebate programs, specifically the Veterans Affairs FSS Program and the Medicare Part D Coverage Gap Program (CGDP). As long as a valid purchase order has been received and future collection of the sale amount is reasonably assured, the Company recognizes revenue from sales of its products when those products are shipped, which is when the Company’s performance obligation is satisfied. The Company’s products are shipped “Ex-Works” from the Company’s facility in Hauppauge, NY, and the risk of loss and responsibility for the shipment passes to the customer upon shipment. Sales of the Company’s non-pharmaceutical medical products are deemed final upon shipment, and there is no obligation on the part of the Company to repurchase or allow the return of these goods unless they are defective. Sales of the Company’s pharmaceutical products are final upon shipment unless (a) they are found to be defective; (b) the product is damaged in shipping; or (c) the product is outdated (but not more than one year after their expiration date, which is a return policy which conforms to standard pharmaceutical industry practice). The Company estimates an allowance for outdated material returns based on previous years’ historical returns of its pharmaceutical products. The Company does not make sales on consignment, and the collection of the proceeds of the sale of any of the Company’s products is not contingent upon the customer being able to sell the goods to a third party. Any allowances for returns are taken as a reduction of sales within the same period the revenue is recognized. Such allowances are determined based on historical experience under ASC Topic 606-10-32-8. The Company has not experienced significant fluctuations between estimated allowances and actual activity. 17 UNITED-GUARDIAN, INC. The timing between recognition of revenue for product sales and the receipt of payment is not significant. Due to COVID-19, the Company experienced minor delays in receiving payments from certain customers that were impacted by the pandemic; however, the negative impact of those delayed payments was not significant. The Company’s standard credit terms, which vary depending on the customer, range between 30 and 60 days. The Company uses its judgment on a case-by-case basis to determine its ability to collect outstanding receivables and provides allowances for any receivables for which collection has become doubtful. As of December 31, 2020 and December 31, 2019, the allowance for doubtful accounts receivable was $14,017 and $21,178, respectively. Prompt-pay discounts are offered to some customers; however, due to the uncertainty of the customers taking the discounts, the discounts are recorded when they are taken. The Company has distribution agreements with certain distributors of its pharmaceutical products that entitle those distributors to distribution and services-related fees. The Company records distribution fees, and estimates of distribution fees, as offsets to revenue. Accounts Receivable Allowance The Company performs ongoing credit evaluations of the Company’s customers and adjusts credit limits, as determined by a review of current credit information. The Company continuously monitors collection and payments from customers and maintains an allowance for doubtful accounts based upon historical experience, the Company’s anticipation of uncollectible accounts receivable and any specific customer collection issues that have been identified. While the Company’s credit losses have historically been low and within expectations, the Company may not continue to experience the same credit loss rates that have historically been attained. The receivables are highly concentrated in a relatively small number of customers. Therefore, a significant change in the liquidity, financial position, or willingness to pay timely, or at all, of any one of the Company’s significant customers would have a significant impact on the Company’s results of operations and cash flows. As mentioned above, the Company has not experienced significant issues with the collection of its accounts receivable balances due to the COVID-19 pandemic. Inventory Valuation Allowance In conjunction with the Company’s ongoing analysis of inventory valuation, management constantly monitors projected demand on a product-by-product basis. Based on these projections, management evaluates the levels of write-downs required for inventory on hand and inventory on order from contract manufacturers. Although the Company believes that it has been reasonably successful in identifying write-downs in a timely manner, sudden changes in buying patterns from customers, either due to a shift in product interest and/or a complete pull back from their expected order levels, may result in the recognition of larger-than-anticipated write-downs. The Company has performed an evaluation of its inventory on hand as of the date of this report and believes the reserve is adequate to cover any slow-moving or obsolete inventory. The Company does not believe the value of its finished products, work in process or raw material inventories have been adversely affected by the coronavirus pandemic. Results of Operations Year ended December 31, 2020 compared with the year ended December 31, 2019: Sales Sales decreased 19% from $13,599,084 in 2019 to $10,986,081 in 2020. The decrease was due primarily to decreases in sales of the Company’s cosmetic products and non-pharmaceutical medical products. Those decreases were partially offset by an increase in sales of the Company’s pharmaceutical products, primarily Renacidin. 18 UNITED-GUARDIAN, INC. The decrease in sales was the result of the following specific changes in sales in the different product categories: (a) Cosmetic Ingredients : Sales of the Company's cosmetic ingredients decreased from $6,377,323 in 2019 to $4,274,586 in 2020. The decrease was attributable primarily to a decrease in sales of the Company’s Lubrajel line of products to ASI, the Company’s largest marketing partner, whose purchases decreased by 40% in 2020. Aggregate sales to the Company’s four other marketing partners increased from $914,690 in 2019 to $992,951 in 2020. That increase was primarily attributable to Company’s marketing partner in the UK, whose sales increased from $361,156 in 2019 to $445,402 in 2020. There was also a small increase in sales of the Company’s cosmetic ingredients to three other direct customers of the Company. In addition to the above changes in marketing partner sales, as a result of the termination in December 2019 of the Company’s marketing agreement with its former marketing partner in Korea, there were no sales to that former marketing partner in 2020, compared with sales of $88,447 in 2019. Since December 2019 the Company’s marketing efforts in Korea are being handled by ASI. The decrease in sales to ASI was due to a number of factors, the principal one being the impact of the coronavirus pandemic, which significantly impacted ASI’s sales of the Company’s products in China. The decrease in ASI sales in China was the result of a number of factors, including (a) lower consumer demand in China for many of the products in which the Company’s products are used; (b) manufacturing disruptions in China resulting from the impact of the coronavirus on manufacturing facilities; and (c) excess inventory levels of the Company’s products resulting from overstocking on the part of both the Company’s marketing partner for China as well as its sub-distributors in China, due to the uncertainty of being able to restock product during the pandemic. Since the Company’s cosmetic ingredients are marketed globally by its marketing partners in many different countries, and since the virus continues to impact countries at different times and to very different extents, it is difficult to project the future impact of the coronavirus pandemic on the Company’s global cosmetic ingredient sales. Until the global crisis passes it is likely that there will continue to be a negative impact on the Company’s sales of its cosmetic ingredients, as well as, to a lesser extent, its non-pharmaceutical medical products. Although a significant percentage of ASI’s purchases from the Company are sold to foreign customers, all sales to ASI are considered U.S. sales for financial reporting purposes, since all shipments to ASI are shipped to ASI’s warehouses in the U.S. A certain percentage of those products are subsequently shipped by ASI to its foreign customers. Based on sales information provided to the Company by ASI, 68% of ASI’s sales in 2020 were to customers in foreign countries, compared to 75% in 2019. ASI’s largest foreign market in both 2020 and 2019 was China, which accounted for approximately 33% of ASI’s sales in 2020 and 49% of sales in 2019. There continues to be global competition from Asian and European competitors selling products that are competitive with those sold by the Company and which are marketed at lower prices than those produced by the Company. The weakening of the U.S. dollar relative to the Euro in 2020 made the Company’s products a little more competitive in 2020 than they had been in the past few years when the dollar had continued to strengthen against the Euro. The Company continues to work closely with its marketing partners to price its products as competitively as possible and, when appropriate, to offer additional volume discounts and more aggressive pricing in order to maintain and increase sales and bring in new customers. However, the Company expects the European market to remain very competitive based on the continuing competition from lower-cost competitors, and for that reason it is concentrating its R&D efforts on developing new and unique products that these other companies do not have. The Company expects to introduce several such products during 2021. 19 UNITED-GUARDIAN, INC. (b) Pharmaceuticals : Because there are fees, rebates, and allowances associated with sales of the Company’s two pharmaceutical products, Renacidin and Clorpactin, discussion of the Company’s pharmaceutical sales includes references to both gross sales (before fees, rebates and allowances) and net sales (after fees, rebates and allowances). Net sales of the Company’s two pharmaceutical products, Renacidin and Clorpactin, together increased from $4,091,817 in 2019 to $4,519,052 in 2020, with Renacidin accounting for most of the increase. Gross sales of Renacidin increased from $4,635,019 in 2019 to $5,347,827 in 2020, while gross sales of Clorpactin increased from $603,209 in 2019 to $611,878 in 2020. The Company believes that much of the increase in Renacidin sales was due to increased awareness of the product by both patients, caregivers, and physicians, which the Company believes was the result of the Company’s internet advertising campaign, along with its dedicated Renacidin.com website. The Company intends to continue these internet marketing efforts during 2021. As a result of the increase in sales of the Company’s pharmaceutical products, there was a commensurate increase in the allowances related to the sales of those products, including distribution fees, chargebacks on VA sales, Medicaid and Medicare rebates, and outdated material returns. Those fees, rebates, chargebacks, and other allowances increase proportionally as sales of the Company’s pharmaceutical products increase, and in 2020 the allowances related to pharmaceutical sales increased by $294,244 (26%) compared with 2019, primarily due to the increase in Renacidin sales. (c) Medical (non-pharmaceutical) products : Sales of the Company’s medical products decreased from $2,968,806 in 2019 to $2,052,961 in 2020. Approximately 37% of that decrease was due to the loss of one of the Company’s four major medical product customers. One of the other customers is located in China, and the Company believes that the decrease in orders from that customer, as well as from one of its other major medical product customers not in China, was related to the impact of the coronavirus pandemic. The Company is hopeful that as the global markets begin to recover from the pandemic, orders from those affected customers will gradually increase. (d) Industrial and other products: Sales of the Company's industrial products, as well as other miscellaneous products, decreased from $161,138 in 2019 to $139,482 in 2020. The decrease was primarily due to a decrease in sales to two of the Company’s industrial product customers, which operate in areas whose operations were negatively impacted by the Coronavirus pandemic. Gross Profit on Sales Gross profit on sales was 56% in 2020 compared with 58% in 2019. The decrease was due to the increased sales of Renacidin in 2020 compared with 2019, combined with the decrease in sales of the Company’s Lubrajel line of products, which carry a higher profit margin. Renacidin carries a lower gross profit margin than the Company’s other products due to the contract manufacturing costs connected with the manufacture of the product, as well as the rebates, discounts and allowances associated with it. In 2020, Renacidin represented 36% of the Company’s gross sales compared with 26% in 2019. 20 UNITED-GUARDIAN, INC. Operating Expenses Operating expenses decreased from $2,148,375 in 2019 to $2,026,368 in 2020. The decrease was mainly attributable to decreases in payroll, payroll related expenses, and employee fringe benefits. The Company was able to reduce these expenses during 2020 due to a lower employee head count. The Company anticipates that operating expenses will remain relatively consistent for 2021. Research and Development Expenses Research and development expenses increased from $397,391 in 2019 to $451,208 in 2020. The increase was primarily related to an increase in payroll and payroll related expenses and an increase in depreciation expense of R&D equipment. Investment Income Investment income increased from $203,329 in 2019 to $226,245 in 2020. The increase was due to an increase in dividend income from both stock and bond mutual funds. In early 2020, the Company began to shift its investment strategy from lower-yielding U.S. Treasury Bills towards short and intermediate-term bond funds that were yielding higher returns. During 2019, the Company’s investment portfolio was more heavily weighted in U.S. Treasury Bills, which yielded interest income that was less than the dividend income recognized in 2020 from the Company’s stock and bond mutual funds. Net Gain on Marketable Securities The net gain on marketable securities decreased from $431,076 in 2019 to $298,585 in 2020. The decrease was primarily due to the Company recognizing lower unrealized gains on its stock and bond mutual funds compared with the same period in 2019. Provision for Income Taxes The provision for income taxes decreased from $1,268,659 in 2019 to $856,022 in 2020. This decrease was due to a decrease in income before taxes. The Company’s effective income tax rate was 20.6% in 2020 and 21.1% in 2019. The Company’s effective income tax rate in 2020 was slightly lower than in 2019 due to higher research and development tax credits in 2020 compared with 2019. Liquidity and Capital Resources Working capital decreased from $10,224,222 at December 31, 2019 to $9,832,326 at December 31, 2020. The current ratio decreased from 8.6 to 1 at December 31, 2019 to 8.0 to 1 at December 31, 2020. The decrease in working capital was mainly due to decreases in cash and accounts receivable and an increase in accrued expenses. Accounts receivable (net of allowance for doubtful accounts) as of December 31, 2020 decreased from $2,098,411 in 2019 to $1,387,698 in 2020. The decrease in accounts receivable was due to the decrease in sales the Company experienced during 2020 due the coronavirus pandemic. The receivables turnover, or “Days Sales Outstanding”, for 2020 was 58 days, compared with 51 days in 2019. The increase was mainly the result of the Company experiencing minor delays in receiving payments from some customers during 2020 due to the pandemic. The Company’s allowance for doubtful accounts receivable decreased from $21,178 in 2019 to $14,017 in 2020, and the Company believes that the net balance of its accounts receivable as of December 31, 2020 was, and continues to be, fully collectible. 21 UNITED-GUARDIAN, INC. The Company generated cash from operations of $3,594,240 in 2020 compared with $4,476,111 in 2019. The decrease in 2020 was primarily due to a decrease in net income in 2020 compared with 2019. Net cash provided by investing activities was $1,071,987 for the year ended December 31, 2019 compared with net cash used in investing activities of $468,676 for the year ended December 31, 2020. This decrease in net cash provided by investing activities was mainly due to the execution of the Company’s strategy to purchase additional short and intermediate-term bond mutual funds in 2020. Net cash used in financing activities was $3,582,431 and $5,049,922 during the years ended December 31, 2020 and 2019, respectively. The decrease was due to the payment of lower dividends in 2020 compared with 2019. The Company believes that its working capital is sufficient to support its operating requirements for the next fiscal year. The Company's long-term liquidity position will be dependent upon its ability to generate sufficient cash flow from profitable operations. The Company has no material commitments for future capital expenditures and no material cash requirements of immediate concern. The Company has no off balance-sheet transactions that have, or are reasonably likely to have, a current or future effect on the Company’s financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources. On March 27, 2020, the coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”) was signed into law. The CARES Act contains a provision known as the Employee Retention Credit (“ERC”), a refundable payroll tax credit for qualified wages paid to retained full-time employees between March 13, 2020 and December 31, 2020. The Consolidations Appropriations Act (CAA), signed into law on December 27, 2020, significantly modified and expanded the provisions of the ERC to include wages paid in the first half of 2021. The Company has determined that it has qualified for this credit in the first quarter of 2021 and anticipates utilizing benefits under this act to aid its liquidity position. For 2021, the ERC provides employers a refundable federal tax credit equal to 70% of the first $10,000 of qualified wages and benefits paid to retained employees between January 1, 2021 and June 30, 2021. Credits may be claimed immediately by reducing payroll taxes sent to the Internal Revenue Service. To the extent that the credit exceeds employment withholdings, the employer may request a refund of prior taxes paid. New Accounting Pronouncements See Note "A" to the financial statements regarding new accounting pronouncements, which note is incorporated herein by reference. Item 7A. Quantitative and Qualitative Disclosures about Market Risk. The information to be reported under this item is not required of smaller reporting companies. Item 8. Financial Statements and Supplementary Data. Annexed hereto starting on page F-1. 22 UNITED-GUARDIAN, INC. Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. None.