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AEMD > SEC Filings for AEMD > Form 10-Q on 11-Feb-2014All Recent SEC Filings

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Form 10-Q for AETHLON MEDICAL INC


11-Feb-2014

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following discussion of our financial condition and results of operations should be read in conjunction with, and is qualified in its entirety by, the condensed consolidated financial statements and notes thereto included in Item 1 in this Quarterly Report on Form 10-Q. This item contains forward-looking statements that involve risks and uncertainties. Actual results may differ materially from those indicated in such forward-looking statements.

FORWARD LOOKING STATEMENTS

All statements, other than statements of historical fact, included in this Form 10-Q are, or may be deemed to be, "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 Exchange Act. Such forward-looking statements involve assumptions, known and unknown risks, uncertainties and other factors which may cause the actual results, performance, or achievements of Aethlon Medical, Inc. ("we", "us" or "the Company") to be materially different from any future results, performance, or achievements expressed or implied by such forward-looking statements contained in this Form 10-Q. Such potential risks and uncertainties include, without limitation, completion of our capital-raising activities, FDA approval of our products, other regulations, patent protection of our proprietary technology, product liability exposure, uncertainty of market acceptance, competition, technological change, and other risk factors detailed herein and in other of our filings with the Securities and Exchange Commission. The forward-looking statements are made as of the date of this Form 10-Q, and we assume no obligation to update the forward-looking statements, or to update the reasons actual results could differ from those projected in such forward-looking statements.

THE COMPANY

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.

In October 2013, our subsidiary, Exosome Sciences, Inc. (ESI), commenced operations with a focus on advancing exosome-based strategies to diagnose and monitor the progression of cancer, infectious disease and other life-threatening conditions.

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 emerged from the development stage.

WHERE YOU CAN FIND MORE INFORMATION

We are subject to the informational requirements of the Securities Exchange Act and must file reports, proxy statements and other information with the SEC. The reports, information statements and other information we file with the Commission can be inspected and copied at the Commission Public Reference Room, 100 F Street, N.E., Washington, D.C. 20549. You may obtain information on the operation of the Public Reference Room by calling the SEC at (800) SEC-0330. The Commission also maintains a Web site (http://www.sec.gov) that contains reports, proxy and information statements and other information regarding registrants, like us, which file electronically with the Commission. Our headquarters are located at 8910 University Center Lane, Suite 660, San Diego, CA 92122. Our phone number at that address is (858) 459-7800. Our Web site is http://www.aethlonmedical.com.

RESULTS OF OPERATIONS

THREE MONTHS ENDED DECEMBER 31, 2013 COMPARED TO THE THREE MONTHS ENDED DECEMBER
31, 2012

Revenues

We recorded government contract revenue of $76,313 and $208,781 in the three months ended December 31, 2013 and 2012, respectively. This revenue arose from work performed under our government contract with DARPA and our subcontract with Battelle as follows:

                                           Three Months        Three Months         Change in
                                          Ended 12/31/13      Ended 12/31/12         Dollars
DARPA Contract                            $             -     $       208,781     $    (208,781 )
Battelle Subcontract                               76,313                   -            76,313
Total Government Contract Revenue         $        76,313     $       208,781     $    (132,468 )

DARPA - 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) was effective for the parties, however, DARPA subsequently exercised the option on the second and third years of the contract. DARPA has the option to enter into the contract for years four and five. 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. We commenced work under the contract in October 2011.

DARPA recently informed us that due to budget restrictions within the Department of Defense, that they planned to reduce the scope of our contract in years three through five of the contract. The reduction in scope will focus our research on exosomes, viruses and blood processing instrumentation. This scope reduction will reduce the possible payments under the contract by $858,491 over years three through five. While this contract change is not yet in place, we expect it to occur in the near future. We recently completed a rebudgeting of the expected costs on the remaining years of the DARPA contract based on the reduced milestones and have concluded that the reductions in our costs due to the scaled back level of work will almost entirely offset the anticipated revenue levels based on current assumptions. On February 10, 2014, DARPA finalized this contract modification.

As of December 31, 2013, we have invoiced for fifteen milestone payments under the DARPA contract totaling $3,396,912.

Battelle -- We entered into a subcontract agreement with Battelle Memorial Institute ("Battelle") in March 2013. Battelle was chosen by DARPA to be the prime contractor on the systems integration portion of the original DARPA contract and we are one of several subcontractors on that systems integration project. The Battelle subcontract is under a time and materials basis and we began generating revenues under the subcontract in the three months ended September 30, 2013. Our expected revenue from the subcontract will be at the discretion of Battelle. The Battelle subcontract is our first cost-reimbursable contract.

Our revenue under this contract will be a function of cost reimbursement plus an overhead mark-up for hours devoted to the project by specific employees (with specific hourly rates for those employees), for travel expenses related to the project, for any equipment purchased for the project and for the cost of any consultants hired by us to perform work on the project. Each payment will require approval by the program manager at Battelle.

Operating Expenses

Consolidated operating expenses for the three months ended December 31, 2013 were $1,308,655 in comparison with $1,145,620 for the comparable quarter a year ago. This increase of $163,035, or 14.2%, was due to an increase in general and administrative expenses of $133,853 and in professional fees of $111,266, which were partially offset by a decrease in payroll and related expense of $82,084.

The $133,853 increase in general and administrative expenses was due to an increase in our non-DARPA related general and administrative expenses of $142,240, which was partially offset by a reduction of DARPA and Battelle related general and administrative expenses of $8,387. The non-DARPA-related general and administrative expenses included $82,499 from ESI, which was not present in the 2012 period.

The $111,266 increase in our professional fees was due to an increase in our non-DARPA related professional fees of $154,018, which included $13,170 from ESI, which was partially offset by a reduction of DARPA and Battelle related professional fees of $42,752. The primary factors in the increase in our non-DARPA-related professional fees were $118,095 of costs relating to a production run of cartridges by our contract manufacturer for our upcoming US clinical trial and a $35,252 increase in our investor relations expenses over the 2012 period.

The $82,084 decrease in payroll and related expenses was primarily due to a decrease in stock based compensation of $142,295, which in turn was due to the completion of the vesting of our CEO's restricted stock grant and of the vesting of a number of existing stock option grants. Payroll and related expenses in the 2013 period included $85,083 from ESI.

Other Expense (Income)

Other expense (income) consists primarily of the change in the fair value of our derivative liability, other expense and interest expense. Other expense (income) for the three months ended December 31, 2013 were other expense of $1,035,269 in comparison with other income of $1,250,783 for the comparable quarter a year ago.

Change in Fair Value of Derivative Liability

Both periods include changes in the fair value of derivative liability. For the three months ended December 31, 2013, the change in the estimated fair value of derivative liability was a gain of $78,175 and for the three months ended December 31, 2012, the change in estimated fair value was a gain of $1,384,256. These swings in the estimated fair value of our derivative liabilities in both periods were driven to a large extent by changes in our stock price.

Interest Expense



Interest expense was $113,445 for the three months ended December 31, 2013
compared to $106,795 in the corresponding prior period, an increase of $6,650.
The various components of our interest expense are shown in the following table:



                                            Quarter Ended       Quarter Ended
                                              12/31/13            12/31/12            Change
Interest Expense                           $       112,876     $       103,421     $      9,455
Amortization of Deferred Financing Costs                 -                 680             (680 )
Amortization of Note Discounts                         569               2,694           (2,125 )
Total Interest Expense                     $       113,445     $       106,795     $      6,650

As noted in the above table, the most significant factor in the $6,650 increase in interest expense was the increase in our contractual interest and finance charges. We had minor decreases in the amortization of deferred financing costs and note discounts as the amortization was completed on those costs.

Other

The three months ended December 31, 2013 included a $1,000,000 provision related to our Gemini litigation. There were no comparable charges in the three months ended December 31, 2012.

The three months ended December 31, 2012 contained $26,716 in losses on debt conversion. There were no comparable charges in the three months ended December 31, 2013.

Loss Attributable to Noncontrolling Interests

Since ESI recorded a loss of $185,305 for the three months ended December 31, 2013 and since outside shareholders purchased a 20% ownership interest in ESI in exchange for a $1.5 million investment, 20% of ESI's loss, or $37,061, was recorded as a loss attributable to noncontrolling interests

Net Loss/Profit Attributable to Common Stockholders

As a result of the increased expenses noted above, we recorded a net loss attributable to common stockholders of approximately $2,231,000 and a net profit of $313,000 for the quarters ended December 31, 2013 and 2012, respectively.

Basic and diluted loss profit per common share were ($0.01) for the three month period ended December 31, 2013 compared to $0.00 for the three month period ended December 31, 2012.

NINE MONTHS ENDED DECEMBER 31, 2013 COMPARED TO THE NINE MONTHS ENDED DECEMBER
31, 2012

Revenues

We recorded government contract revenue of $916,796 and $825,642 in the nine months ended December 31, 2013 and 2012, respectively. This revenue arose from work performed under our government contract with DARPA and our subcontract with Battelle as follows:

                                            Nine Months         Nine Months
                                          Ended 12/31/13      Ended 12/31/12       Change in Dollars
DARPA Contract                            $       808,739     $       825,642     $           (16,903 )
Battelle Subcontract                              108,057                   -                 108,057
Total Government Contract Revenue         $       916,796     $       825,642     $            91,154

DARPA - 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) was effective for the parties, however, DARPA subsequently exercised the option on the second and third years of the contract. DARPA has the option to enter into the contract for years four and five. 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. We commenced work under the contract in October 2011.

DARPA recently informed us that due to budget restrictions within the Department of Defense, that they planned to reduce the scope of our contract in years three through five of the contract. The reduction in scope will focus our research on exosomes, viruses and blood processing instrumentation. This scope reduction will reduce the possible payments under the contract by $858,491 over years three through five. While this contract change is not yet in place, we expect it to occur in the near future. We recently completed a rebudgeting of the expected costs on the remaining years of the DARPA contract based on the reduced milestones and have concluded that the reductions in our costs due to the scaled back level of work will almost entirely offset the anticipated revenue levels based on current assumptions. On February 10, 2014, DARPA finalized this contract modification.

As of December 31, 2013, we have invoiced for fifteen milestone payments under the DARPA contract totaling $3,396,912.

Battelle -- We entered into a subcontract agreement with Battelle Memorial Institute ("Battelle") in March 2013. Battelle was chosen by DARPA to be the prime contractor on the systems integration portion of the original DARPA contract and we are one of several subcontractors on that systems integration project. The Battelle subcontract is under a time and materials basis and we began generating revenues under the subcontract in the three months ended September 30, 2013. Our expected revenue from the subcontract will be at the discretion of Battelle. The Battelle subcontract is our first cost-reimbursable contract.

Our revenue under this contract will be a function of cost reimbursement plus an overhead mark-up for hours devoted to the project by specific employees (with specific hourly rates for those employees), for travel expenses related to the project, for any equipment purchased for the project and for the cost of any consultants hired by us to perform work on the project. Each payment will require approval by the program manager at Battelle.

Operating Expenses

Consolidated operating expenses for the nine months ended December 31, 2013 were $3,162,730 in comparison with $3,554,064 for the comparable period a year ago. This decrease of $391,334, or 11.0%, was due to decreases in payroll and related expenses of $332,170 and in professional fees of $165,273, which was partially offset by an increase in general and administrative expenses of $106,109.

The $332,170 decrease in payroll and related expenses was primarily due to a decrease in stock based compensation of $347,189, which in turn was due to the completion of the vesting of our CEO's restricted stock grant and of the vesting of a number of existing stock option grants. Payroll and related expenses in the 2013 period included $85,083 from ESI.

The $165,273 decrease in our professional fees was primarily due to a reduction of non-DARPA related professional fees of $107,631 and a reduction in DARPA and Battelle related professional fees of $70,812. The primary drivers in the decrease in non-DARPA related professional fees were the lack of legal fees related to the Gemini litigation and to the DTC suspension as our insurance carrier has covered the litigation costs in the 2013 period and we successfully resolved the DTC suspension in the fiscal year ended March 31, 2013. As a result, our legal fees decreased by $232,971 from the 20112 period. That decrease in legal fees was partially offset by $158,587 of costs relating to a production run of cartridges by our contract manufacturer for our upcoming US clinical trial. Other significant factors were decreases in our scientific consulting fees of $48,520 and in our business development fees of $45,806. Our non-DARPA-related professional fees in the 2013 period also included $13,170 from ESI

The $106,109 increase in our general and administrative expenses was driven by a $103,042 increase in our non-DARPA related general and administrative expenses and a $3,067 increase in our DARPA and Battelle related general and administrative expenses. The non-DARPA-related general and administrative expenses included $82,499 from ESI, which was not present in the 2012 period.

Other Expense (Income)

Other expense (income) consists primarily of the change in the fair value of our derivative liability, other expense and interest expense. Other expense (income) for the nine months ended December 31, 2013 were other expense of $3,674,845 in comparison with other income of $603,231 for the comparable period a year ago.

Change in Fair Value of Derivative Liability

Both periods include changes in the fair value of derivative liability. For the nine months ended December 31, 2013, the change in the estimated fair value of derivative liability was a charge of $2,304,702 and for the nine months ended December 31, 2012, the change in estimated fair value was a gain of $1,745,718. These swings in the estimated fair value of our derivative liabilities in both periods were driven to a large extent by changes in our stock price.

Interest Expense

Interest expense was $329,947 for the nine months ended December 31, 2013 compared to $1,019,857 in the corresponding prior period, a decrease of $689,910. The various components of our interest expense are shown in the following table:

                                            9 Months Ended       9 Months Ended
                                               12/31/13             12/31/12            Change
Interest Expense                           $        324,800     $        422,140     $    (97,340 )
Amortization of Deferred Financing Costs                863              121,470         (120,607 )
Non-Cash Interest Expense                                 -               11,846          (11,846 )
Amortization of Note Discounts                        4,284              464,401         (460,117 )
Total Interest Expense                     $        329,947     $      1,019,857     $   (689,910 )

As noted in the above table, the three most significant factors in the $689,910 decrease in interest expense were (a) the $460,117 reduction in the amortization of debt discounts that was largely the result of the completion of the discount amortization on the majority of our convertible notes prior, (b) a $120,607 reduction in the amortization of deferred offering costs that also was largely the result of the completion of the amortization on those costs and (c) the $97,340 reduction in interest expense due to ongoing conversions of our convertible notes into equity.

Other

The nine months ended December 31, 2013 included a $1,000,000 provision related to our Gemini litigation. There were no comparable charges in the nine months ended December 31, 2012. The nine months ended December 31, 2013 also contained $40,256 in losses on debt conversion compared to $122,775 in losses on debt conversion in the nine months ended December 31, 2012

Loss Attributable to Noncontrolling Interests

Since ESI recorded a loss of $185,305 for the nine months ended December 31, 2013 and since outside shareholders purchased a 20% ownership interest in ESI in exchange for a $1.5 million investment, 20% of ESI's loss, or $37,061, was recorded as a loss attributable to noncontrolling interests

Net Loss/Profit Attributable to Common Stockholders

As a result of the increased expenses noted above, we recorded a net loss attributable to common stockholders of approximately $5,884,000 and $2,125,000 for the nine month periods ended December 31, 2013 and 2012, respectively.

Basic and diluted loss per common share were ($0.03) for the nine month period ended December 31, 2013 compared to ($0.01) for the nine month period ended December 31, 2012.

LIQUIDITY AND CAPITAL RESOURCES

At December 31, 2013, we had a cash balance of $1,854,941 and a working capital deficit of $10,731,262. This compares to a cash balance of $125,274 and a working capital deficit of $9,276,618 at March 31, 2013. Between January 1, 2014 and February 7, 2014, we billed for $403,498 under our government contracts and received a total of $195,796 under our DARPA and Battelle contracts. Our cash at December 31, 2013 plus additional funds raised to date subsequent to December 31, 2013 may not be 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 us to continue to operate as a going concern.

In August 2013, we signed an agreement with a broker-dealer to raise operating capital. As a result of fund raising activities by that broker-dealer, we received $1,795,900 in gross proceeds ($1,447,032 in net proceeds) from the sales of our common stock with warrants in the December 2013 quarter, to cover near term operating requirements and the expected costs of our US safety trial. The agreement also calls for the broker-dealer to then raise a larger financing (see note 2) to meet future growth initiatives. Any securities offered will not be registered under the Securities Act and may not be offered or sold in the United States absent registration or an applicable exemption from registration requirements. The engagement agreement is on a best efforts basis and there can be no assurance that the broker-dealer can raise additional working capital for us on acceptable terms or at all.

During the December 2013 quarter, our subsidiary, Exosome Sciences, Inc. (ESI), commenced operations with a focus on advancing exosome-based strategies to diagnose and monitor the progression of cancer, infectious disease and other life-threatening conditions. We raised $1.5 million in cash by selling ESI common stock and we believe that capital will fund the operations of ESI for the next 12 months.

At the parent company level, 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.

Also, should the U.S. Government elect not to exercise the options for years four and five of our DARPA contract, the effects would be material to us. The loss of revenues from the DARPA contract would have a material impact on our . . .

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