Advertising and marketing expenses, including tradeshows and event sponsorships, were approximately $363,000 in the nine months ended March 31, 2014, representing a decrease of approximately $95,000, or 20.7%, compared to approximately $458,000 in the same period in the prior year. This decrease was primarily due to the elimination of industry training that was sponsored by Electromed as well as targeting more cost-effective advertising.
Professional fees for the nine months ended March 31, 2014 were approximately $571,000, a decrease of approximately $376,000 compared to approximately $947,000 in the same period in the prior year. These fees are for services related to legal costs, reporting requirements, expenses related to information technology security and backup, one-time consulting expenses, and expenses for printing and other shareowner services. The decrease in fees over the same period last year was primarily due to one-time consulting fees related to upgrading our information technology infrastructure that occurred in the prior year, as well as a shareholder’s proposal at our 2013 Annual Meeting of Shareholders and the resulting litigation, which was concluded by settlement of the parties during the first quarter of fiscal year 2014. We have insurance for professional fees and expenses incurred in connection with the litigation and are working with our insurance carrier on coverage matters. During April 2014 we received approximately $100,000 of reimbursement from insurance and we believe there is a possibility of receiving additional reimbursement, however, there can be no guarantee of any specific additional coverage amount.
Interest expense was approximately $70,000 for the nine months ended March 31, 2014, representing a decrease of approximately $38,000, or 35.2%, compared to approximately $108,000 for the same period the prior year. The decrease resulted from a decrease in average debt outstanding and a lower interest rate on the debt refinanced on December 18, 2013.
Income tax expense was estimated at approximately $418,000 for the nine months ended March 31, 2014, compared to income tax benefit of $564,000 in the same period in the prior year. The income tax expense for the nine months ended March 31, 2014 includes a current tax benefit of $36,000 and a discrete tax expense of $454,000 due primarily to our decision to record a full valuation allowance against all of our net US federal and state deferred tax assets at March 31, 2014. The effective tax rates excluding the adjustment for the valuation allowance for the nine months ended March 31, 2014 and 2013 were 36.0% and 38.2%, respectively.
Net loss for the nine months ended March 31, 2014 was approximately $1,579,000 compared to net loss of approximately $913,000 for the same period the prior year. The net loss was primarily the result of our decision to record a full valuation allowance against all of our net US federal and state deferred tax assets at March 31, 2014. Excluding the adjustments for the valuation allowance included in tax expense our adjusted net loss for the nine months ended March 31, 2014, was approximately $736,000, a decrease of approximately $177,000 from the same period the prior fiscal year. The smaller adjusted net loss was due to a decrease in certain selling, general and administrative expenses offset by lower revenues and a higher cost of revenues. We believe this non-GAAP measure of net loss is useful because it excludes the significant one-time expense related to the recording of the valuation allowance that is considered to be non-operational and of a non-cash nature. This non-GAAP measure thereby allows us to evaluate our current performance and make comparisons to past performance on a consistent basis.
Our focus remains on controlling costs in an environment of downward reimbursement pressure while implementing key growth strategies. These include marketing and selling our recently FDA-cleared SQL to the domestic homecare market, and strengthening our focus on the institutional market which includes the recent addition of a senior sales position better leverage our current contracts and adding new contracts.
Liquidity and Capital Resources
Cash Flows and Sources of Liquidity
Cash Flows from Operating Activities
For the nine months ended March 31, 2014, net cash provided by operating activities was approximately $1,020,000. Cash flows provided by operations consisted of approximately $1,579,000 in net loss, adjusted for non-cash expenses of approximately $1,080,000, offset by a decrease in accounts receivable and an increase in accounts payable and accrued liabilities of $2,544,000 and $184,000, respectively. In addition, inventories and prepaid expenses and other assets increased approximately $1,171,000 and 38,000, respectively.
For the nine months ended March 31, 2013, net cash provided by operating activities was approximately $990,000. Cash flows provided by operations consisted of approximately $913,000 in net loss, adjusted for non-cash expenses of approximately $627,000, offset by decreases in accounts receivable, inventories, and trade payables and accrued liabilities of $1,653,000, $251,000, and $5,000, respectively. In addition, prepaid expenses and other assets increased by approximately $632,000.
Cash Flows from Investing Activities
For the nine months ended March 31, 2014, cash used in investing activities was approximately $634,000. During this period we paid approximately $626,000 for purchases of property and equipment. We also paid approximately $8,000 for patent related costs.
For the nine months ended March 31, 2013, cash used in investing activities was approximately $743,000. During this period we paid approximately $707,000 for purchases of property and equipment. We also paid approximately $36,000 for patent and trademark related costs.
Cash Flows from Financing Activities
For the nine months ended March 31, 2014, cash used in financing activities was approximately $117,000, which consisted of principal payments on long-term debt of $81,000, and payments of deferred financing fees of $35,000.
For the nine months ended March 31, 2013, net cash used in financing activities was approximately $1,445,000, which consisted of principal payments on long-term debt of $237,000, and payments on our revolving line of credit of $1,208,000.
Adequacy of Capital Resources
Based on our current operational performance, we believe our working capital of approximately $8 million and available borrowings under the existing credit facility will provide adequate liquidity for the next year. Our current line of credit expires on December 18, 2014. Based on our ability to service our debt we believe that we will be able to renew our line of credit prior to December 18, 2014 or obtain alternative financing. However, we cannot guarantee that we will be able to procure additional financing upon favorable terms, if at all. Our credit facility contains certain financial and nonfinancial covenants and restricts us from incurring certain additional indebtedness and the payment of dividends. The credit facility also contains financial covenants which require maintaining a minimum tangible net worth. We were in violation of the tangible net worth covenant during the quarter ended March 31, 2014, and the bank has waived the event of default. As discussed below, we entered into an amendment to the credit facility to reduce the minimum tangible net worth requirement going forward.
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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 our indebtedness or preventing access to additional funds under the credit facility, or requiring prepayment of outstanding indebtedness under the credit facility, or the inability to renew the line of credit. If the maturity of the indebtedness is accelerated or the line of credit is not renewed, sufficient cash resources to satisfy the debt obligations may not be available and we may not be able to continue operations as planned. The indebtedness under the credit agreement is secured by a security interest in substantially all of our tangible and intangible assets. If we are unable to repay such indebtedness, the bank could foreclose on these assets.
On December 18, 2013, we entered into a new credit facility with Venture Bank, which replaced our facility with U.S. Bank. The new credit facility provides for a $2,500,000 revolving line of credit. There was no outstanding principal balance on the line of credit as of December 31, 2013. Interest on the line of credit accrues at the prime rate plus 1.50%, with a floor of 4.50% (4.75% at March 31, 2014) and is payable monthly. The amount eligible for borrowing on the line of credit is limited to the lesser of $2,500,000 or 57.75% of eligible accounts receivable and the line of credit expires on December 18, 2014, if not renewed. The line of credit is secured by a security interest in substantially all of the tangible and intangible assets of the Company.
As a part of the new credit facility, we also refinanced our outstanding U.S. Bank term loan which had an outstanding principal balance of approximately $1,341,000 and bore interest at 5.79%. It was repaid in full and replaced by a $1,300,000 term loan from Venture Bank that bears interest at 5.00%, with monthly payments of principal and interest of approximately $8,600 and a final payment of principal and interest of approximately $1,095,000 due on the maturity date of December 18, 2018. The term loan is secured by a mortgage on our real property.
Our new credit facility contains certain financial and nonfinancial covenants which include a minimum tangible net worth covenant of not less than $12,000,000 and restrictions on our ability to incur certain additional indebtedness or pay dividends. On May 6, 2014, we entered into an amendment to our credit facility to reduce the requirement to maintain a minimum tangible net worth from $12,000,000 to $10,125,000. As a result of paying off our outstanding loan and terminating the credit facility with U.S. Bank, we incurred approximately $3,000 in prepayment penalties. As of March 31, 2014, we had net unused availability of $2,500,000 under the line of credit.
For the first nine months of fiscal years 2014 and 2013, we spent approximately $626,000 and $707,000 on property and equipment, respectively. We currently expect to finance 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.
Certain Information Concerning Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements.
Item 3. Quantitative and Qualitative Disclosure About Market Risk
As a smaller reporting company, we are not required to provide disclosure pursuant to this item.
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Item 4. Controls 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 Securities Exchange Act of 1934 (the “Exchange Act”), as of the end of the period subject to this Report. Based on this evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures were effective.
Changes to Internal Control Over Financial Reporting
There were no changes in our internal control over financial reporting that occurred during the three months ended March 31, 2014 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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PART II. OTHER INFORMATION
Item 1. Legal Proceedings
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. Risk Factors
As a smaller reporting company, we are not required to provide disclosure pursuant to this item.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item 3. Defaults Upon Senior Securities
None.
Item 4. Mine Safety Disclosures
None.
Item 5. Other Information
On May 6, 2014, the Company entered into an amendment to its credit facility with Venture Bank, which reduced the requirement to maintain a minimum tangible net worth from $12,000,000 to $10,125,000. All other material terms of the credit facility remain unchanged.
The foregoing description of the amendment is qualified in its entirety by reference to the complete text of Business Loan Agreement, dated May 6, 2014; the Rider to Business Loan Agreement and Related Documents, dated May 6, 2014; the Change in Terms Agreement, dated May 6, 2014; the Business Loan Agreement, dated May 6, 2014; the Rider to Business Loan Agreement (Asset Based), dated May 6, 2014; and the Change in Terms Agreement, dated May 6, 2014, copies of which are filed herewith as Exhibits 10.1, 10.2, 10.3, 10.4, 10.5, and 10.6, respectively, and incorporated herein by reference.
Item 6. Exhibits
See attached exhibit index.
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SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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 14, 2014 | /s/ Kathleen S. Skarvan |
| Kathleen S. Skarvan, Chief Executive Officer |
| (Principal Executive Officer) |
| |
| /s/ Jeremy T. Brock |
| Jeremy T. Brock, Chief Financial Officer |
| (Principal Financial Officer and Principal Accounting Officer) |
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EXHIBIT INDEX
ELECTROMED, INC.
FORM 10-Q
| | |
Exhibit
Number | | Description |
| | |
10.1 | | Business Loan Agreement between the Company and Venture Bank, dated May 6, 2014. |
| | |
10.2 | | Rider to Business Loan Agreement and Related Documents between the Company and Venture Bank, dated May 6, 2014. |
| | |
10.3 | | Change in Terms Agreement between the Company and Venture Bank, dated May 6, 2014. |
| | |
10.4 | | Business Loan Agreement (Asset Based) between the Company and Venture Bank, dated May 6, 2014. |
| | |
10.5 | | Rider to Business Loan Agreement (Asset Based) and Related Documents between the Company and Venture Bank, dated May 6, 2014. |
| | |
10.6 | | Change in Terms Agreement between the Company and Venture Bank, dated May 6, 2014. |
| | |
31.1 | | Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | |
31.2 | | Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
| | |
32.1 | | Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| | |
32.2 | | Certification Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
| | |
101 | | Financial statements from the quarterly report on Form 10-Q of the Company for the quarter ended March 31, 2014, formatted in XBRL: (i) the Condensed Consolidated Balance Sheets, (ii) the Condensed Consolidated Statements of Income, (iii) the Condensed Consolidated Statements of Cash Flows, and (iv) the Notes to Condensed Consolidated Financial Statements. |
