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AEMD > SEC Filings for AEMD > Form 10-K on 15-Jul-2013All Recent SEC Filings

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Form 10-K for AETHLON MEDICAL INC


15-Jul-2013

Annual Report


ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis should be read in conjunction with the consolidated Financial Statements and Notes thereto appearing elsewhere in this report.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

In this document we make a number of statements, referred to as "FORWARD-LOOKING STATEMENTS" within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), that are intended to convey our expectations or predictions regarding the occurrence of possible future events or the existence of trends and factors that may impact our future plans and operating results. The safe harbor for forward-looking statements provided by the Private Securities Litigation Reform Act of 1995 does not apply to us. We note, however, that these forward-looking statements are derived, in part, from various assumptions and analyses we have made in the context of our current business plan and information currently available to us and in light of our experience and perceptions of historical trends, current conditions and expected future developments and other factors we believe to be appropriate in the circumstances. You can generally identify forward-looking statements through words and phrases such as "SEEK", "ANTICIPATE", "BELIEVE", "ESTIMATE", "EXPECT", "INTEND", "PLAN", "BUDGET", "PROJECT", "MAY BE", "MAY CONTINUE", "MAY LIKELY RESULT", and similar expressions. When reading any forward looking-statement you should remain mindful that all forward-looking statements are inherently uncertain as they are based on current expectations and assumptions concerning future events or future performance of our company, and that actual results or developments may vary substantially from those expected as expressed in or implied by that statement for a number of reasons or factors, including those relating to:

· whether or not the U.S. Government exercises the options for years three through five of our DARPA contract;

· whether or not markets for our products develop and, if they do develop, the pace at which they develop;

· our ability to attract and retain the qualified personnel to implement our growth strategies;

· our ability to obtain approval from the Food and Drug Administration for our products;

· our ability to protect the patents on our proprietary technology;

· our ability to fund our short-term and long-term operating needs;

· changes in our business plan and corporate strategies; and

· other risks and uncertainties discussed in greater detail in the sections of this document, including those captioned "RISK FACTORS" and "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Each forward-looking statement should be read in context with, and with an understanding of, the various other disclosures concerning our company and our business made elsewhere in this document as well as other public reports filed with the United States Securities and Exchange Commission (the "SEC"). You should not place undue reliance on any forward-looking statement as a prediction of actual results or developments. We are not obligated to update or revise any forward-looking statement contained in this document to reflect new events or circumstances unless and to the extent required by applicable law.

Overview

Aethlon Medical, Inc. ("Aethlon", the "Company", "we" or "us") is a medical device company focused on creating innovative devices that address unmet medical needs in cancer, infectious disease and other life-threatening conditions. At the core of our developments is the Aethlon ADAPT™ (Adaptive Dialysis-Like Affinity Platform Technology) system, a medical device platform that converges single or multiple affinity drug agents with advanced plasma membrane technology to create therapeutic filtration devices that selectively remove harmful particles from the entire circulatory system without loss of essential blood components.

In June 2013, the U.S. Food and Drug Administration ("FDA") approved our Investigational Device Exemption ("IDE") application to initiate a ten patient human clinical trial in one location in the United States. Successful outcomes of that human trial as well as at least one follow-on human trial will be required by the FDA in order to commercialize our products in the US. The regulatory agencies of certain foreign countries where we intend to sell this device will also require one or more human clinical trials.

Some of our patents may expire before we receive FDA approval to market our products in the United States or we receive approval to market our products in a foreign country. However, we believe that certain patent applications and/or other patents issued more recently will help protect the proprietary nature of the Hemopurifier(R) treatment technology.

In prior periods, Aethlon was classified as a development stage enterprise under accounting principles generally accepted in the United States of America ("GAAP") as it had not generated revenues from its planned principal operations. In the fiscal year ended March 31, 2012, we began to generate revenues from a government contract and have emerged from the development stage.

Results of Operations

Revenues

We recorded government contract revenue in the fiscal years ended March 31, 2013 and 2012. This revenue arose from work performed under our government contract. On September 30, 2011, we entered into a contract with the United States of America, issued by SPAWAR Systems Center Pacific, pursuant to a contract award from the Defense Advanced Research Projects Agency ("DARPA"). Under the DARPA award, we have been engaged to develop a therapeutic device to reduce the incidence of sepsis, a fatal bloodstream infection that often results in the death of combat-injured soldiers.

The award from DARPA is a fixed-price contract with potential total payments to us of $6,794,389 over the course of five years, including payments of up to $1,975,047 in the first year. Fixed price contracts require the achievement of multiple, incremental milestones to receive the full award during each year of the contract. Under the terms of the contract, we will perform certain incremental work towards the achievement of specific milestones against which we will invoice the government for fixed payment amounts. Originally, only the base year (year one contract covering October 1, 2011 through September 30, 2012) was effective for the parties, however, effective August 16, 2012, DARPA exercised the option on the second year of the contract. Years three through five are subject to DARPA exercising their option to enter into contracts for those years.

The milestones are comprised of planning, engineering and clinical targets, the achievement of which in some cases will require the participation and contribution of third party participants under the contract. There can be no assurance that we alone, or with third party participants, will meet such milestones to the satisfaction of the government and in compliance with the terms of the contract or that we will be paid the full amount of the contract revenues during any year of the contract term.

As a result of achieving five contract milestones between October 1, 2011 and March 31, 2012, we reported $1,358,189 in contract revenue at our March 31, 2012 fiscal year end. As a result of achieving six milestones in the fiscal year ended March 31, 2013, we reported $1,230,004 in contract revenue for that fiscal year.

We also recorded our first commercial sale in the fiscal year ended March 31, 2012. We shipped a diagnostic product that isolated exosomes from blood serum to a life sciences company and invoiced them for $1,432, which was subsequently collected. There were no commercial sales in the fiscal year ended March 31, 2013

Operating Expenses

Consolidated operating expenses were $4,805,358 for the fiscal year ended March 31, 2013 compared to $4,473,956 in the fiscal year ended March 31, 2012, an increase of $331,402 or 7.4%. The net increase of $331,402 was due to an increase in professional fees of $325,443 and an increase in payroll expense of $112,439, which were partially offset by a decrease in general and administrative expense of $106,480.

The $325,443 increase in our professional fees primarily arose from an increase in DARPA-related professional fees of $611,813due to increased use of consultants on subtask 1 of the project. That was partially offset by a decrease of $286,370 in non-DARPA-related professional fees. The decrease in non-DARPA-related professional fees was primarily due to decreased activity in our hepatitis C trial in India.

The $112,439 increase in payroll and related expenses was principally driven by an increase in cash compensation of $106,129 and an increase in stock compensation expense of $6,310. The increase in cash compensation was the result of hiring three new scientists in the December 2011 quarter to work on subtask 2 of the DARPA project. Therefore, there was a partial year of payroll for those three employees in the fiscal year ended March 31, 2012 compared to a full year in the fiscal year ended March 31, 2013. The increase in stock compensation expense was primarily related to expense recognized for stock option grants to our outside Board members in the fiscal year ended March 31, 2013.

The $106,480 decrease in general and administrative expenses primarily arose from a $112,677 reduction in expenses related to the DARPA contract, which was partially offset by an increase in non-DARPA related general and administrative expenses of $6,197.

Other Expenses

In the fiscal year ended March 31, 2013, we recognized other expenses of $1,316,686 compared to $4,997,005 of other expense in the fiscal year ended March 31, 2012. The following table breaks out the various components of our other expense over the fiscal years ended March 31, 2013 and 2012:

                                                   Components of Other Expense
                                                       in Fiscal Year Ended
                                           March 31,        March 31,
                                              2013             2012            Change

LOSS ON EXTINGUISHMENT OF DEBT AND ON
SETTLEMENT OF ACCRUED INTEREST AND
DAMAGES                                   $    139,839     $     77,265     $     62,574

CHANGE IN FAIR VALUE OF DERIVATIVE
LIABILITY                                       44,705          766,903         (722,198 )

INTEREST AND OTHER DEBT EXPENSES             1,132,314        3,793,758       (2,661,444 )

INTEREST INCOME AND OTHER                         (172 )        359,079         (359,251 )

TOTAL OTHER EXPENSE                       $  1,316,686     $  4,997,005     $ (3,680,319 )

We recorded a loss on extinguishment of debt and on settlement of accrued interest and damages of $139,839 and $77,265 in the fiscal years ended March 31, 2013 and 2012, respectively. In the fiscal year ended March 31, 2013, that loss arose from the conversion to equity of principal and accrued interest on certain notes payable. In the fiscal year ended March 31, 2012, the debt extinguishment related to a two year extension to the term of two convertible notes and the similar two year extension and an adjustment to the exercise price of certain warrants held by the note holder.

Both periods include changes in the fair value of derivative liability. For the fiscal year ended March 31, 2013, the change in the estimated fair value of derivative liability was a loss of $44,705 and for the fiscal year ended March 31, 2012, the change in the estimated fair value of derivative liability was a loss of $766,903.

We recorded a $359,251 decrease in interest income and other expense primarily due to the $360,185 charge that we recorded in the fiscal year ended March 31, 2012 related to the issuance of a note in that amount as part of our termination agreement under the Tonaquint note and warrant. There was no comparable event in the prior fiscal year.

Our interest and other debt expense decreased by $2,661,444 from the fiscal year ended March 31, 2012 to the fiscal year ended March 31, 2013. The following table breaks out the various components of our interest expense over the fiscal years ended March 31, 2013 and 2012:

                                               Components of Interest Expense and Other Debt
                                                       Expenses in Fiscal Year Ended
                                              March 31,             March 31,
                                                2013                  2012              Change

INTEREST EXPENSE                           $       526,110       $       500,060     $     26,050

AMORTIZATION OF DEFERRED FINANCING COSTS           127,200               404,614         (277,414 )

AMORTIZATION OF NOTE DISCOUNTS                     467,158             2,194,248       (1,727,090 )

NON CASH INTEREST EXPENSE                           11,846               694,836         (682,990 )

TOTAL INTEREST EXPENSE                     $     1,132,314       $     3,793,758     $ (2,661,444 )

As a result of the above factors, our net loss decreased from $(8,111,340) for the fiscal year ended March 31, 2012 to $(4,892,040) for the fiscal year ended March 31, 2013.

Liquidity and Capital Resources

At March 31, 2013, we had a cash balance of $125,274 and a working capital deficit of $9,276,618. This compares to a cash balance of $143,907 and a working capital deficit of $9,438,279 at March 31, 2012. Between April 1, 2013 and July 11, 2013, we raised aggregate proceeds of $128,000 through private equity transactions, $400,000 in loans from two of our directors and collected $404,362 under our DARPA contract. Our cash at March 31, 2013 plus additional funds raised to date subsequent to March 31, 2013 are not sufficient to meet our funding requirements during the next twelve months. Significant additional financing must be obtained in order to provide a sufficient source of operating capital and to allow the Company to continue to operate as a going concern. In addition, we will need to raise capital to complete the recently approved human clinical trial in the U.S.

We do not expect revenue from operations will be sufficient to satisfy our funding requirements in the near term, and accordingly, our ability to continue operations and meet our cash obligations as they become due and payable is expected to depend for at least the next several years on our ability to sell securities, borrow funds or a combination thereof. Future capital requirements will depend upon many factors, including progress with pre-clinical testing and clinical trials, the number and breadth of our clinical programs, the time and costs involved in preparing, filing, prosecuting, maintaining and enforcing patent claims and other proprietary rights, the time and costs involved in obtaining regulatory approvals, competing technological and market developments, as well as our ability to establish collaborative arrangements, effective commercialization, marketing activities and other arrangements. We expect to continue to incur increasing negative cash flows and net losses for the foreseeable future.

Should the U.S. Government elect not to exercise the options for years three through five of our DARPA contract, the effects may be material to us. The loss of revenues from the DARPA contract would have a material impact on our revenues, operating cash flows and liquidity.

DARPA recently awarded a related contract to Battelle Memorial Institute ("Battelle") to be the systems integrator for the various components being developed under the original contract, including our two components of the project. We agreed to become a subcontractor to Battelle under that systems integrator contract. That subcontract will be under a cost plus basis and we expect to begin generating revenues under the subcontract during the fiscal year ending March 31, 2014. Any revenues we derive under the subcontract will be at the direction of Battelle.

Beyond the immediate future, we currently believe that the following four areas may generate revenue for us:

(1) Developing future products using the Aethlon ADAPTTM system with drug industry collaborators. Revenues in this area could come from product development fees, fees from research, regulatory and manufacturing support or from downstream royalties;
(2) Applying for and winning additional U.S. Government grant or contract income;
(3) Licensing or selling our ELLSA research diagnostic tools that identify and quantify exosomes; and
(4) Deriving revenues from a test market evaluation for the Hemopurifier® in India following the successful results to date in our Hepatitis-C-oriented clinical trial currently being conducted in that country. We will need to establish one or more distributors to supply Hemopurifiers® to the Indian market.

Cash Flows



Cash flows from operating, investing and financing activities, as reflected in
the accompanying Consolidated Statements of Cash Flows, are summarized as
follows (in thousands):



                                        (In thousands)
                                      For the year ended
                                  March 31,       March 31,
                                     2013           2012
Cash (used in) provided by:
Operating activities              $   (2,099 )   $    (1,841 )
Investing activities                       -              (2 )
Financing activities                   2,080           1,971
Net (decrease) increase in cash   $      (19 )   $       128

NET CASH FROM OPERATING ACTIVITIES. We used cash in our operating activities due to our losses from operations. Net cash used in operating activities was approximately $2,099,000 in fiscal 2013 compared to net cash used in operating activities of approximately $1,841,000 in fiscal 2012, an increase of $258,000. The $258,000 increase was primarily due to approximately $128,000 less in receipts under our DARPA contract due to the timing of milestones achieved in each fiscal year and increased expenses under that contract.

NET CASH FROM INVESTING ACTIVITIES. During the fiscal year ended March 31, 2013, we did not purchase any equipment or have any other investing activities. During the fiscal year ended March 31, 2012, we used approximately $2,000 in cash for purchases of equipment.

NET CASH FROM FINANCING ACTIVITIES. Net cash generated from financing activities increased from approximately $1,971,000 in the fiscal year ended March 31, 2012 to approximately $2,080,000 in the fiscal year ended March 31, 2013. Included in net cash provided by financing activities in fiscal 2012 were approximately $2,110,000 from the issuance of common stock, which was partially offset by approximately $30,000 in a note repayment. In fiscal 2012, we received approximately $1,694,000 in proceeds from the issuance of convertible notes payable, $300,000 from the issuance of common stock, $200,000 from the collection of notes receivable associated with certain convertible note transactions, all of which were partially offset by approximately $223,000 in repayments of notes payable and related accrued interest in cash.

CONVERTIBLE NOTES PAYABLE AND WARRANTS

AMENDED AND RESTATED SERIES A 12% CONVERTIBLE NOTES

In June 2010, we entered into Amended and Restated 12% Series A Convertible Promissory Notes (the "Amended and Restated Notes") with the holders of certain promissory notes previously issued by the Company ("Amended Series A 10% Convertible Notes" or the "Prior Notes"), and all amendments to the Prior Notes.

The Amended and Restated Notes, in the principal amount of $900,000 matured on December 31, 2010. In connection with the restructuring we paid $54,001 of accrued and default interest through the date of the restructuring, liquidated damages of $205,000 and $54,003 of prepaid interest through the expiration date in the aggregate amount of $313,004 through the issuance of units ("Units") at a fixed rate of $0.20 per Unit, each Unit consisting of one share of our common stock and one common stock purchase warrant to purchase one share of our common stock at a fixed exercise price of $0.20 per share as prescribed in the Amended and Restated Note Agreement. The noteholders have antidilution price protection on the Amended and Restated Notes.

In addition to the extension of the expiration date of the Amended and Restated Notes to December 31, 2010, we agreed to increase the annual interest rate from 10% to 12%. We also agreed to change the exercise prices on all of the warrants held by the noteholders to $0.20 per share, to change certain formerly contingent warrants to non-contingent warrants and to extend the expiration date of their warrants to February 2016.

As of December 31, 2010, the Amended and Restated Notes matured and as of March 31, 2013 remain in default. We are accruing interest at the revised default rate of 20% following the expiration date of December 31, 2010.

During the fiscal year ended March 31, 2013, the holders of $15,000 of the Amended and Restated Notes converted their principal and related accrued interest into common stock per the conversion formula.

We have begun discussions with the noteholders regarding an extension to the notes but there can be no assurance that we will be able to do so on terms that we deem acceptable or at all. At March 31, 2013, the balance of the Amended and Restated Notes was $885,000 and interest payable on the Amended and Restated Notes totaled $398,250.

DECEMBER 2006 10% CONVERTIBLE NOTES

At March 31, 2013, one note representing $17,000 of the December 2006 10% Notes remained outstanding and in default. This note is convertible into our common stock at $0.17 per share. At March 31, 2013, the $17,000 balance of the note was in default and interest payable on this note totaled $15,888 and we are recording interest at the default rate of 15%.

2008 10% CONVERTIBLE NOTES

One 2008 10% Convertible Note in the amount of $25,000 which matured in January 2010 remained outstanding at September 30, 2012. This note is convertible into our common stock at $0.50 per share. At March 31, 2013, the $25,000 principal balance was in default and interest payable on the remaining note totaled $15,417 and we are recording interest at the default rate of 15%.

OCTOBER & NOVEMBER 2009 10% CONVERTIBLE NOTES

In October and November 2009, we raised $430,000 from the sale to accredited investors of 10% convertible notes ("October & November 2009 10% Convertible Notes"). The October & November 2009 10% Convertible Notes matured at various dates between April 2011 and May 2011 and are convertible into our common stock at a fixed conversion price of $0.25 per share prior to maturity. The investors also received matching three year warrants to purchase unregistered shares of our common stock at a price of $0.25 per share. We measured the fair value of the warrants and the beneficial conversion feature of the notes and recorded a 100% discount against the principal of the notes. We are amortizing this discount using the effective interest method over the term of the notes.

Deferred financing costs of $20,250 incurred in connection with this financing were issued in the form of a convertible note with warrants on the same terms as those received by the investors. We capitalized the $20,250 of deferred financing costs and amortized them over the term of the notes using the effective interest method.

Prior to March 31, 2012, $355,000 of the October and November 2009 financing had been converted to common stock. On March 31, 2012, we agreed to extend the expiration date and to change the exercise price of certain warrants of one of the note holders by two years in exchange for the extension of $50,000 of the October & November 2009 10% Convertible Notes and the $75,000 April 2010 10% Convertible Note (see below) by that same two year period. We recorded a charge of $77,265 relating to this modification.

In July 2012, we issued 461,409 shares of common stock to the holder of the $25,000 note in exchange for the value of the principal and related accrued interest of $8,000 under the same terms that we used to sell units consisting of one share of common stock and one-half of a stock purchase warrant on June 29, 2012 (see Note 6). As part of that structure, the noteholder also received seven year warrants to purchase 230,705 share of common stock at a price of $0.107 per share. We recorded a loss on conversion of $45,796 on the conversions.

At March 31, 2013, there was one note remaining for $50,000 and interest payable on that note was $20,000.

APRIL 2010 10% CONVERTIBLE NOTE

In April 2010, we raised $75,000 from the sale to an accredited investor of a 10% convertible note. The convertible note matured in October 2011 and is convertible into our common stock at a fixed conversion price of $0.25 per share prior to maturity. The investor also received three year warrants to purchase 300,000 unregistered shares of our common stock at a price of $0.25 per share.

We measured the fair value of the warrants and the beneficial conversion feature of the notes and recorded a 100% discount against the principal of the notes. We amortized this discount using the effective interest method over the term of the note.

On March 31, 2012, we agreed to extend the expiration date and to change the exercise price of certain warrants of the note holder by two years in exchange for his extension of $50,000 of the October & November 2009 10% Convertible Notes and the $75,000 April 2010 10% Convertible Note by that same two year period. We recorded a charge of $77,265 relating to this modification.

At March 31, 2013, the remaining outstanding principal balance is $75,000 and interest payable on this note totaled $23,938.

JULY 2010 6% CONVERTIBLE NOTES

In July 2010, we entered into a Note and Warrant Purchase Agreement (the "Purchase Agreement") with Tonaquint, Inc., a Utah corporation (the "Investor"), whereby we issued and sold, and the Investor purchased: (i) a Convertible Promissory Note of the Company in the principal amount of $890,000 (the "Tonaquint Convertible Note") and (ii) a Warrant to purchase common stock of the Company (the "Warrant"). As consideration for the issuance and sale of the Tonaquint Convertible Note and Warrant, the Investor paid cash in the amount of $400,000 and issued two Secured Trust Deed Notes to us (the "Trust Notes") each in the principal amount of $200,000. The variance of $90,000 represents fees and expenses paid by us and an original issue discount which was recorded as deferred offering costs.

Over the term of the Tonaquint Convertible Note, all of the principal and accrued interest was converted to common stock per the terms of the Convertible Note. On June 28, 2011, we entered into a Termination Agreement with Tonaquint under which both parties agreed to terminate the warrant to prevent continuing dilution of our common stock and to eliminate confusion or disagreement as to the number of shares of common stock available for issuance under the warrant in the future. Accordingly, under the Termination Agreement we issued 3,599,913 shares of common stock upon the final exercise of the warrant, whereupon the warrant was terminated and is of no further force or effect. The Termination Agreement also provides for a "Common Stock Sale Limitation" on all of our common stock held by Tonaquint, Inc. Under the "Common Stock Sale Limitation", the daily limitation on the number of shares of common stock which Tonaquint, Inc. may sell into the market on any trading day is limited to the greater of
(i) $5,000 of sales amount, or (ii) 10% of the Average Daily Volume of our common stock sold on the Over The Counter Bulletin Board, where the Average . . .

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