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ERB > SEC Filings for ERB > Form 10-Q on 19-Aug-2013All Recent SEC Filings

Show all filings for ERBA DIAGNOSTICS, INC.

Form 10-Q for ERBA DIAGNOSTICS, INC.


19-Aug-2013

Quarterly Report


Item 2 - 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 the related notes to consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2012 and the unaudited interim condensed consolidated financial statements and the related notes to unaudited interim condensed consolidated financial statements included in Item 1 of this Quarterly Report on Form 10-Q.

We have made forward-looking statements, which are subject to risks and uncertainties, in this Quarterly Report on Form 10-Q. Forward-looking statements may be preceded by, followed by or otherwise include the words "may," "will," "believes," "expects," "anticipates," "intends," "plans," "estimates," "projects," "could," "would," "should," or similar expressions or statements that certain events or conditions may occur. Actual results, performance or achievements could differ materially from those contemplated, expressed or implied by these forward-looking statements. These forward-looking statements are based largely on our expectations and the beliefs and assumptions of our management and on the information currently available to it and are subject to a number of risks and uncertainties, including, but not limited to, the risks and uncertainties associated with:

ˇ our ability to continue as a going concern;

ˇ our ability to generate positive cash flow or otherwise improve our liquidity, whether from existing operations, strategic initiatives or possible future sources of liquidity, including, without limitation, from the line of credit or the investment contemplated by the stock purchase agreement, issuing debt or equity securities, incurring indebtedness or curtailing or reducing our operations;

ˇ the remaining transactions contemplated by the investment under the stock purchase agreement may not be consummated on the contemplated terms, in the time frame anticipated, or at all;

ˇ the net proceeds of the investment contemplated by the stock purchase agreement may not provide adequate cash resources to fund our operations or liquidity needs for the reasonably foreseeable future;

ˇ our ability to achieve or sustain profitability from our operations or otherwise secure funds to provide the basis for our long-term liquidity;

ˇ our broad discretion in our use of the net proceeds from the investment contemplated by the stock purchase agreement;

ˇ the warrants may not be exercised, in whole or in part;

ˇ the decision to exercise the warrants will be made by ERBA Mannheim based upon considerations it deems appropriate, which may include, among other things, the future market price of our common stock, which is subject to volatility and a number of other factors, many of which are beyond our control, and, when making any such decision to exercise the warrants, ERBA Mannheim's interests may conflict with our interests;

ˇ our ability to pay when due the principal and interest on our outstanding indebtedness under the line of credit;

ˇ our ability to operate our business under the restrictions imposed by the positive and negative covenants to which we are subject under the loan agreement in connection with the line of credit;

ˇ our ability to remediate our material weakness relating to our internal controls over financial reporting;

ˇ our ability to timely cure our non-compliance with the continued listing standards of the NYSE MKT within the anticipated timeframe or at all, which, if not timely cured, could result in our common stock being delisted from the NYSE MKT;

ˇ if we timely cure our non-compliance with the continued listing standards of the NYSE MKT, our ability to maintain compliance with the continued listing standards of the NYSE MKT, the failure of which could result in our common stock being delisted from the NYSE MKT;

ˇ economic, competitive, political, governmental and other factors affecting us and our operations, markets and products;

ˇ the success of technological, strategic and business initiatives, including our automation strategy;

ˇ the ability of the MagoŽ 4S to perform as expected;

ˇ the impact of the commercial release of the MagoŽ 4S on the judgments and estimates we have made with respect to our financial condition, operating results and cash flows;

ˇ the impact on our financial condition and operating results of making or changing judgments and estimates as a result of future design changes to, or the development of improved instrument versions of, the MagoŽ 4 or MagoŽ 4S or as a result of future demand for the MagoŽ 4 or MagoŽ 4S;

ˇ the ability of the MagoŽ 4 or MagoŽ 4S to be a source of revenue growth for us;

ˇ our ability to receive financial benefits or achieve improved operating results as a result of the commercial release of the MagoŽ 4 or the MagoŽ 4S;

ˇ the ability of the MagoŽ 4 or MagoŽ 4S to be a factor in our growth;

ˇ the ability of the MagoŽ 4 or MagoŽ 4S to expand the menu of test kits we offer;

ˇ making derivations of and upgrades to the MagoŽ our primary platforms for marketing our kits;

ˇ our ability to successfully market the MagoŽ 4 or MagoŽ 4S;

ˇ our customers' integration of the MagoŽ 4 or MagoŽ 4S into their operations;

ˇ our ability to successfully market the DSX™ and DS2™ instrument systems from Dynex Technologies in conjunction with our test kits on a worldwide basis;

ˇ the success of our comprehensive review of our business plans and operations and the initiatives that we have implemented or may implement based on the results of such review;

ˇ our ability to successfully market the Ds5 instrument system for diabetes testing;

ˇ our ability to successfully market the Ds360 instrument system for diabetes testing;

ˇ our ability to successfully market the D3 instrument system for hematology testing;

ˇ our ability to successfully market the 2280 instrument system for hematology testing;

ˇ our ability to successfully market generic clinical chemistry reagents;

ˇ our ability to improve our competitive position to the extent anticipated, or at all, as a result of our comprehensive review of our business plans and operations and the initiatives that we have implemented or may implement based on the results of such review;

ˇ our ability to expand the menu of test kits that we offer to include other complementary infectious disease or autoimmune testing sectors or otherwise;

ˇ the response of our current customer base to an expansion of our menu of test kits;

ˇ our ability to achieve organic growth;

ˇ our ability to identify or consummate acquisitions of businesses or products;

ˇ our ability to integrate acquired businesses or products, including, without limitation, our ability to integrate the businesses commonly known as Drew Scientific and JAS Diagnostics;

ˇ acquisitions of business and products, and the integration of acquired businesses and products, may disrupt our business, distract our management and may not proceed as planned, including, without limitation, our acquisition of and our ability to integrate the businesses commonly known as Drew Scientific and JAS Diagnostics;

ˇ our ability to achieve economies of scale or to maximize the utilization of our assets and facilities, after any integration of the businesses commonly known as Drew Scientific and JAS Diagnostics into our legacy operations;

ˇ our ability to enter into and exploit the diabetes market;

ˇ our ability to leverage the marketing and distribution infrastructure that ERBA Mannheim and its affiliates have established around the world;

ˇ the timing of the closing of our Drew Scientific facility in Dallas, Texas;

ˇ our ability to enhance our position in laboratory automation;

ˇ our ability to expand our product offerings and/or market reach, including, without limitation, our ability to increase our presence in key countries in Europe, South America, Asia as well as other international markets, or become a leader in the diagnostics industry;

ˇ the impact the existing global economic conditions may have on our financial condition, operating results and cash flows;

ˇ the impact of healthcare regulatory reform;

ˇ constantly changing, and our compliance with, governmental regulation;

ˇ the impact of our adoption or implementation of new accounting statements and pronouncements on our financial condition and operating results;

ˇ our limited operating revenues and history of primarily operational losses;

ˇ our ability to collect our accounts receivable, particularly in Italy, and the impact of making or changing judgments and estimates regarding our allowances for doubtful accounts on our financial condition and operating results;

ˇ our ability to utilize our net operating losses, whether subject to limitations or not, and its impact on our financial condition and operating results;

ˇ the impact of any future limitations on our ability to utilize our net operating losses in the event of any future change in control or similar transaction;

ˇ the impact of making or changing judgments and estimates regarding our deferred tax liabilities and our valuation allowances and reserves against our deferred tax assets on our financial condition and operating results;

ˇ the impact of making or changing judgments and estimates regarding our goodwill, including the remaining goodwill recorded at ImmunoVision, and other intangible assets, such as our hepatitis technology product license, on our financial condition and operating results;

ˇ our ability to achieve cost advantages from our own manufacture of instrument systems, reagents and test kits;

ˇ our ability to grow beyond the autoimmune and infectious disease markets and to expand into additional diagnostic test sectors;

ˇ our ability to obtain product technology from the Italian diagnostics company that would enable us to manufacture our own hepatitis products;

ˇ our ability to introduce and market our own hepatitis products in the European Union when expected, or at all, including the potential that any further delays may require us to record an additional impairment charge with respect to the value of our hepatitis technology product license or pay all or a portion of our accrued payables relating to the product license;

ˇ our ability to internally manufacture our own hepatitis products and raw materials for these products and to become competitive in markets outside of the United States;

ˇ our ability to derive revenue from our manufacture and sale of our own hepatitis products;

ˇ the impact of the anticipated timing of the commercial launch of our own hepatitis products on the judgments and estimates we have made with respect to our financial condition, operating results and cash flows;

ˇ our production capacity at our facility in Miami, Florida;

ˇ the success of the move of our headquarters from our Miami, Florida facility to our Miami Lakes, Florida facility;

ˇ our ability to successfully improve our facilities and upgrade or replace our equipment and information systems in the timeframe and utilizing the amount of funds anticipated or at all;

ˇ our dependence on agreements with ERBA Mannheim, third party distributors and key personnel;

ˇ consolidation of our customers affecting our operations, markets and products;

ˇ reimbursement policies of governmental and private third parties affecting our operations, markets and products;

ˇ price constraints imposed by our customers and governmental and private third parties;

ˇ our ability to increase the volume of our reagent production to meet increased demand;

ˇ protecting our intellectual property;

ˇ political and economic instability and foreign currency fluctuation affecting our foreign operations;

ˇ the effects of utilizing cash to assist Delta in maintaining its compliance with capital requirements established by Italian law;

ˇ the holding of a significant portion our cash and cash equivalents at a single brokerage firm, including risks relating to the bankruptcy or insolvency of such brokerage firm;

ˇ litigation regarding products, distribution rights, intellectual property rights, product liability and labor and employment matters;

ˇ voting control of our common stock by ERBA Mannheim;

ˇ conflicts of interest with ERBA Mannheim and its affiliates, including Suresh Vazirani, Sanjiv Suri and/or Kishore "Kris" Dudani, and with our officers, employees and other directors; and

ˇ other factors discussed elsewhere in this Quarterly Report on Form 10-Q.

See the section entitled "Risk Factors" in our Annual Report on Form 10-K for the year ended December 31, 2012 for further discussion of certain risks and uncertainties that could materially and adversely affect our business, operating results or financial condition. Many of these factors are beyond our control.

MAJORITY STOCKHOLDER

On September 1, 2010, ERBA Mannheim purchased all of the approximately 72.4% of the then outstanding shares of our common stock then owned by the Debregeas-Kennedy Group for an aggregate purchase price of approximately $15,000,000, or $0.75 per share. As a result of this share acquisition, the consummation of the various transactions contemplated by the investment made by ERBA Mannheim pursuant to that certain Stock Purchase Agreement, as further described throughout this Quarterly Report on Form 10-Q, including ERBA Mannheim's purchase from us, and our issuance to ERBA Mannheim, of an aggregate of 15,333,334 shares of our common stock, and ERBA Mannheim's exercise, in part, of the Warrant, as further described throughout this Quarterly Report on Form 10-Q, for 600,000 shares of our common stock, ERBA Mannheim now beneficially owns, directly or indirectly, approximately 82.4% of the outstanding shares of our common stock.

ACQUISITION OF DREW SCIENTIFIC, INC.

On October 3, 2012, we acquired all of the issued and outstanding shares of capital stock of Drew Scientific from a subsidiary of Escalon Medical Corp. pursuant to a Stock Purchase Agreement between, among others, us and Escalon. Included in the acquired businesses were Drew Scientific's wholly-owned subsidiaries - JAS Diagnostics, Inc. and Drew Scientific Limited Co.

The acquired businesses, collectively referred to as Drew Scientific, were acquired with the purpose of integrating Drew Scientific's manufacturing and distribution capabilities with our legacy operations in an effort to achieve economies of scale and maximize the utilization of our assets and facilities. We paid $6,500,000 for all of the issued and outstanding shares of capital stock of Drew Scientific, which purchase price was funded through the purchase by ERBA Mannheim from us of 8,666,667 shares of our common stock at a purchase price of $0.75 per share, for an aggregate purchase price of $6,500,000.

Prior to the October 3, 2012 acquisition date, our management decided to cease the operations of the Dallas, Texas, and the United Kingdom facilities of Drew Scientific and its subsidiaries. As a result, we have accrued on the opening balance sheet as of October 3, 2012 estimated plant closing costs, including lease buy-out and severance costs, of $160,000 and $118,000, respectively. Regarding the Dallas, Texas facility, in May 2013, our management announced that the closing would be effective in late September 2013. With respect to the United Kingdom facility, the closing was effective in late March 2013.

RESULTS OF OPERATIONS

SIX MONTHS ENDED JUNE 30, 2013 COMPARED TO SIX MONTHS ENDED JUNE 30, 2012

OVERVIEW

Net loss totaled approximately $160,000 for the six months ended June 30, 2013 compared to a net loss of approximately $437,000 for the six months ended June 30, 2012. Operating income was approximately $151,000 for 2013 compared to an operating loss of $255,000 for 2012. The operating income in 2013 compared to the operating loss in 2012 resulted primarily from the operating income of $791,000 for Drew Scientific for 2013, offset by a decrease from operating income in 2012 to a loss in 2013 in our European operations of $351,000. The decrease in net loss in 2013 compared to 2012 resulted primarily from improved operating results, mentioned above, offset by acquisition and integration expenses of $211,000 in 2013.

Net revenues increased by approximately $5,013,000 to $13,597,000 in 2013 from $8,584,000 in 2012. This net increase was attributed to the net revenues of $6,518,000 for Drew Scientific for 2013 offset by other factors from recurring operations resulting in a decrease of $1,505,000. This decrease of $1,505,000 consisted of a decrease in net revenues from legacy domestic operations of $894,000, to $4,820,000 in 2013 from $5,714,000 in 2012, and a decrease in net revenues from European operations of $610,000, including the effect of exchange rate fluctuations of the United States dollar relative to the Euro, to $2,260,000 in 2013 from $2,870,000 in 2012.

Gross profit increased by $2,163,000 to $6,490,000 in 2013 from $4,327,000 in 2012. This net increase was attributed to the gross profit of $2,706,000 for Drew Scientific for 2013 offset by other factors from recurring operations resulting in a decrease of $543,000. This decrease of $543,000 from recurring operations was primarily the result of lower domestic and European revenues.

Total operating expenses increased by $1,755,000 to $6,338,000 in 2013 from $4,583,000 in 2012. This increase was primarily attributed to the expenses of $1,913,000 for Drew Scientific for 2013. This increase of $1,755,000 was a result of increases in all three expense categories. Comparing 2013 to 2012, selling expenses increased by $704,000 general and administrative expenses increased by $763,000 and research and development expenses increased by $290,000.

NET REVENUES AND GROSS PROFIT

The following table presents comparative net revenues and gross profit for our operations, including the operations of Drew Scientific (net revenues of $6,518,000, cost of sales of $3,812,000 and gross profit of $2,706,000 for the six months ended June 30, 2013), for the six-month periods ended June 30, 2013 and 2012.

                                                                 Increase
                                   2013            2012         (Decrease)
               Net Revenues:
               Domestic        $ 11,338,000     $ 5,714,000     $ 5,624,000
               European           2,260,000       2,870,000        (610,000 )
               Total             13,598,000       8,584,000       5,014,000

               Cost of Sales      7,108,000       4,257,000       2,851,000

               Gross Profit    $  6,490,000     $ 4,327,000     $ 2,163,000
               % of Total          47.7%            50.4%

The net increase in revenues for 2013 compared to 2012 was attributed to the post-acquisition net revenues of $6,518,000 for Drew Scientific, a decrease of $894,000 in net revenues from our legacy domestic operations and a decrease of $610,000 in net revenues from European operations. Exchange rate differences resulting from the strength or weakness of the United States dollar against the Euro resulted in an increase of approximately $198,000 in net revenues in 2013 as compared to 2012, as further discussed in "Currency Fluctuations" below. As measured in Euros, net revenues from European operations in 2013 decreased by Euro 549,000, or 24.0%, as compared to 2012. The decrease in net revenues from European operations (as measured by the Euro) was mainly due to contract research and development revenue partially offset by the declines in reagent sales in Italy and other international markets. The decrease in net revenues from legacy domestic operations of $894,000, or 15.6%, was principally due to a decline in sales to international customers of approximately $100,000, principally in Latin America and Japan, a decrease in reagent sales of approximately $564,000, and a decrease in equipment sales of $172,000.

The net increase in gross profit of approximately $2,163,000 for 2013 compared to 2012 was attributed to the gross profit of $2,706,000 for Drew Scientific for 2013 offset by a decrease in gross profit of $543,000 for our legacy operations. Gross profit as a percentage of net revenues decreased from 50.4% in 2012 to 47.7% in 2013, resulting principally from the lower gross profit percentage of 41.5% for the operations of Drew Scientific.

OPERATING EXPENSES

The following table presents comparative operating expenses for us, including the amounts for Drew Scientific of $1,913,000 (selling expenses of $1,123,000, general and administrative expenses of $751,000 and research and development expenses of $39,000 for the six months ended June 30, 2013), for the six-month periods ended June 30, 2013 and 2012. The percentages in the table below are based on the total net revenues in the above table.

                                                 % of                            % of
                                 2013           Revenue          2012           Revenue        Increase

Selling                       $ 2,682,000            19.7 %   $ 1,980,000            23.1 %   $   702,000

General and Administrative      2,928,000            21.5 %     2,165,000            25.2 %       763,000

Research and Development          728,000             5.4 %       438,000             5.1 %       290,000

Total Operating Expenses      $ 6,338,000            46.6 %   $ 4,583,000            53.4 %   $ 1.755,000

The increase in total operating expenses from $4,583,000 in 2012 to $6,338,000 in 2013 was primarily attributed to the expenses of $1,913,000 for Drew Scientific for 2013, due to the factors noted below.

The net increase of $702,000 in selling expenses in 2013 compared to 2012 was due to the amounts for Drew Scientific for 2013 of $1,123,000 and a decrease of $421,000 in our recurring operations. This decrease was due principally to open sales positions in the United States and, in Italy, reduction in workforce and lower commissions from lower sales in various commissionable categories.

The net increase of $763,000 in general and administrative expenses for 2013 compared to 2012 was primarily due to the amounts for Drew Scientific for 2013 of $751,000.

The net increase of $290,000 in research and development expenses for 2013 compared to 2012 was due the increase of $243,000 in our recurring operations. This increase was due principally to the research and development agreement of our European operations as further discussed in Note 12 - "Related Party Transactions."

Income from operations totaled $151,000 in 2013 as compared to an operating loss of $255,000 in 2012. Income from operations in 2013 was composed of operating income of $793,000 for Drew Scientific, an operating loss of $291,000 from the legacy domestic operations and an operating loss of $351,000 from our European operations. Loss from operations in 2012 was composed of a $297,000 loss from domestic operations and income of $41,000 from European operations. Our domestic operations include corporate expenditures, including costs required to maintain our status as a public company.

OTHER INCOME (EXPENSE), NET

Other income (expense) totaled an other expense, net of $258,000 in 2013 as compared to an other income, net of $127,000 in 2012. The decrease in other income to loss from 2012 to 2013 was primarily the result of acquisition and integration costs of $211,000 incurred in 2013.

INCOME TAX PROVISION

We recorded recurring income tax provisions of $53,000 for 2013 and $55,000 for 2012. The current portion of our tax benefit and provisions, respectively, in both years relates to Italian local income taxes based upon applicable statutory rates effective in Italy. The deferred tax provisions in these years relate to domestic tax deductible goodwill. No current tax benefit was recorded during the two years on our losses because we had a full valuation allowance against the net deferred income tax assets.

See also Note 8, Income Taxes, to the condensed consolidated financial statements regarding other tax matters.

NET LOSS

We generated a consolidated net loss of $160,000 in 2013 (including the net income of $713,000 for Drew Scientific) as compared to a net loss of $437,000 in 2012. Basic and diluted net loss per common share was $0.01 in 2013 as compared to $0.01 in 2012. The net loss for both years resulted from the various factors discussed above.

THREE MONTHS ENDED JUNE 30, 2013 COMPARED TO THREE MONTHS ENDED JUNE 30, 2012

OVERVIEW

Net income totaled $87,000 for the three months ended June 30, 2013 compared to a net loss of $359,000 for the three months ended June 30, 2012. Operating income was $88,000 for 2013 compared to an operating loss of $136,000 for 2012. The decrease in operating loss in 2013 compared to 2012 resulted primarily from the operating income of $300,000 for Drew Scientific for 2013, offset by a decrease from operating income to loss in our European operations of $48,000. The change to net income in 2013 compared to net loss in 2012 resulted primarily from the net income of Drew Scientific of $265,000 for 2013, offset by a decrease from net income to net loss in our European operations of $63,000.

Net revenues increased by $2,574,000 to $6,889,000 in 2013 from $4,315,000 in 2012. This net increase was attributed to the net revenues of $3,046,000 for Drew Scientific for 2013 offset by other factors from recurring operations resulting in a decrease of $472,000. This decrease of $472,000 consisted of a decrease in net revenues from legacy domestic operations of $297,000, to $2,559,000 in 2013 from $2,856,000 in 2012, and a decrease in net revenues from European operations of $175,000, including the effect of exchange rate fluctuations of the United States dollar relative to the Euro, to $1,284,000 in 2013 from $1,459,000 in 2012.

Gross profit increased by $1,238,000 to $3,443,000 in 2013 from $2,205,000 in 2012. This net increase was attributed to the gross profit of $1,354,000 for Drew Scientific for 2013 offset by other factors from recurring operations resulting in a decrease of $116,000. This decrease of $116,000 from recurring operations was primarily the result of lower domestic and European revenues.

Total operating expenses increased by $1,015,000 to $3,355,000 in 2013 from $2,340,000 in 2012. This increase was primarily attributed to the expenses of $1,053,000 for Drew Scientific for 2013. This increase of $1,015,000 was a result of increases in all three expense categories. Comparing 2013 to 2012, selling expenses increased by $386,000, general and administrative expenses increased by $490,000 and research and development expenses increased by $139,000.

NET REVENUES AND GROSS PROFIT

The following table presents comparative net revenues and gross profit for our operations, including the operations of Drew Scientific (net revenues of $3,046,000, cost of sales of $1,691,000 and gross profit of $1,354,000 for the threee months ended June 30, 2013), for the three-month periods ended June 30, 2013 and 2012.

                                                 Increase
                   2013            2012         (Decrease)
Net Revenues:
Domestic        $ 5,605,000     $ 2,856,000     $ 2,749,000
European          1,284,000       1,459,000        (175,000 )
Total             6,889,000       4,315,000       2,574,000

Cost of Sales     3,447,000       2,110,000       1,337,000

Gross Profit    $ 3,442,000     $ 2,205,000     $ 1,237,000
% of Total          50.0%           51.1%

The net increase in revenues for 2013 compared to 2012 was attributed to the post-acquisition net revenues of $3,046,000 for Drew Scientific, a decrease of $297,000 in net revenues from our legacy domestic operations and a decrease of $175,000 in net revenues from European operations. Exchange rate differences resulting from the strength or weakness of the United States dollar against the . . .

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