RETRACTABLE TECHNOLOGIES INC Management's Discussion and Analysis of Financial Condition and Results of Operations. (form 10-Q) | MarketScreener

2022-08-20 22:56:45 By : Mr. curry zhang

Certain statements included by reference in this filing containing the words "could," "may," "believes," "anticipates," "intends," "expects," and similar such words constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act. Any forward-looking statements involve known and unknown risks, uncertainties, and other factors that may cause our actual results, performance, or achievements to be materially different from any future results, performance, or achievements expressed or implied by such forward-looking statements. Such factors include, among others: the impact of COVID-19 on all facets of logistics and operations as well as costs; our ability to scale up production volumes in response to an increase in demand; potential tariffs; our ability to maintain liquidity; our maintenance of patent protection; our ability to maintain favorable third party manufacturing and supplier arrangements and relationships; foreign trade risk; our ability to access the market; production costs; the impact of larger market players, specifically Becton, Dickinson and Company, in providing devices to the safety market; and any other factors referenced in Item 1A. Risk Factors in Part II. Given these uncertainties, undue reliance should not be placed on forward-looking statements.

MATERIAL CHANGES IN FINANCIAL CONDITION AND RESULTS OF OPERATIONS

We have been manufacturing and marketing our products since 1997. VanishPoint® syringes comprised 91.6% of our sales in the first six months of 2022. EasyPoint® products accounted for 4.9% of sales in the first six months of 2022. We also manufacture and market an IV safety catheter and blood collection products, including the blood collection tube holder and VanishPoint® Blood Collection Set, which were 3.1% of our total product sales for the first six months of 2022.

Our products have been and continue to be distributed nationally and internationally through numerous distributors. Some of our popular syringe products provide low dead-space. Low dead-space syringes reduce residual medication remaining in the syringe after the dose has been administered. In some instances, the low dead-space allows for additional doses of medication to be obtained from the vials. We plan to highlight the advantages of our low dead-space products, including the potential to reduce the costs associated with wasted medication, as part of our overall marketing message.

On May 1, 2020, we were awarded a delivery order under an existing contract by the Department of Health and Human Services of the United States to supply automated retraction safety syringes for COVID-19 vaccination efforts, which order was in the amount of $83.8 million plus $10 million in expedited freight costs. The period of performance for this order ended in March 2022.

The Department of Health and Human Services awarded us another contract on February 12, 2021 to supply low dead-space safety syringes for COVID-19 vaccination efforts. The base price for the contract and purchase order was $54.2 million for the five-month base period of performance (February 15, 2021 to July 14, 2021). We received non-binding notice that the contract would be extended for seven additional months beyond the base period of performance with a total contract price during such period of approximately $92.8 million plus an additional $6 million in air freight costs. However, to date, we have received a commitment to exercise only the first four option periods which extended through the end of December 2021. For each period, the freight reimbursement cost was included in total overall contract value and was approximately 25% of the overall price.

Our sales under both of the foregoing orders from the U.S. government were $15.7 million during the first three months of 2022, representing 26.6% of our total sales for the six-months ended June 30, 2022, but no sales were made to

the U.S. government in the second quarter of 2022. Both of the above-mentioned orders as well as the TIA (as defined below) from the U.S. government are material events particular to the COVID-19 pandemic and may not be indicative of future operations. While we continue to work with the Department of Health and Human Services, additional orders are uncertain. Our second quarter 2022 revenues materially declined as compared with recent periods due to the absence of U.S. government orders. Recent additions of manufacturing equipment and facilities have increased our production capacity. However, in the absence of significant demand, such capacity may be underutilized. For instance, in the second quarter of 2022, with lower demand and high volumes of finished goods on hand, production levels declined despite the increase in production capacity.

Effective July 1, 2020, we entered into a Technology Investment Agreement ("TIA") with the United States Government Department of Defense, U.S. Army Contracting Command-Aberdeen Proving Ground, Natick Contracting Division & Edgewood Contracting Division (ACC-APG, NCD & ECD) on behalf of the Biomedical Advanced Research and Development Authority (BARDA) for $53.7 million in government funding for expanding our domestic production of needles and syringes to meet ongoing and future U.S. COVID-19 medical countermeasures demands.

Effective May 12, 2021, we entered into an amendment to the TIA providing an additional $27.4 million in funding to add 12,500 square feet of controlled environment and two additional assembly lines to increase our existing domestic manufacturing capabilities. The current amended completion date is August 29, 2022. As of June 30, 2022, we have negotiated contracts for the purchase of automated assembly equipment, molds, and molding equipment, as well as portions of auxiliary equipment, for approximately $64.9 million. We have also received a temporary certificate of occupancy for the $6.7 million 27,800 square foot controlled environment which was funded by the U.S. government under the original agreement. In addition, we have completed the additional controlled environment space required under the May 12, 2021 amendment and have obtained a temporary certificate of occupancy. Finally, we have received the certificate of occupancy for the new $5.9 million 55,000 square foot warehouse, which is our financial responsibility.

As a result of the COVID-19 pandemic, we have faced and continue to deal with the logistical challenges of sourcing raw materials and finished goods, particularly finished goods from China. The closure of the Shanghai ports due to recent COVID-19 measures significantly reduced the volume of products shipped to us and our international customers from our Chinese manufactures. As of June 30, 2022, we have international orders which were accepted but have been delayed as a result of Shanghai port closures. We cannot predict when we may recognize any associated revenue from the pending orders. We utilize multiple transportation providers to ensure we can meet our delivery schedules, but we are subject to the global supply chain and its complexities. To date, the freight challenges have neither caused a loss of customers nor a cessation of production. However, freight costs have materially increased. The increase in freight costs has significantly impacted our cost of manufactured product, and we expect this trend to continue as long as the global supply chain challenges persist. These cost increases are not unique to our business, but the fact that a substantial percent of our prior period sales were related to orders from the U.S. government with reimbursed freight costs will affect comparability of 2022 costs and margins to prior periods. In addition to increased costs associated with the global supply chain, we have had challenges sourcing transportation.

There is also possible risk from the political environment in Europe and Asia.

We believe that with our current levels of products on-hand and our ability to produce domestically, we are positioned to continue to operate and meet the needs of our customers currently. Other factors that could affect our unit costs include increases in tariffs, costs by third party manufacturers, and changing production volumes. Increases in costs may not be recoverable through price increases of our products.

Other factors which could have a material impact on our business include COVID-19 booster shot recommendations, flu shot campaigns, and inefficient domestic distribution networks. We believe that other viruses aside from COVID-19 have the potential to impact future sales, including, but not limited to, a potentially strong flu virus this year. COVID-19 booster shots have been recommended to the public, but we believe that many facilities still have excess inventory of vaccination materials on hand, including syringes.

We have entered into an agreement to expand our existing administrative offices by 14,000 square feet. We currently expect that the cost of expansion will be approximately $5.8 million. The expected substantial completion date for the new office space is October 2022. To date, we have spent approximately $4.2 million.

As detailed in Note 4 to the financial statements, we held $26.9 million in equity securities as of June 30, 2022, which represented 30.6% of our current assets. Such amount includes unrealized losses on investments, as well as an

additional $2.0 million cash investment during the first quarter of 2022 and $12 million during the second quarter of 2022. We continually monitor our invested balances.

In response to, among other factors, the global COVID-19 pandemic, our delivery orders from the U.S. government, and the TIA, employee headcount and related salary and benefits costs increased significantly during 2020 and 2021. In June 2022, we reduced our workforce by approximately 16% as a result of the substantial completion of our facility expansion efforts and the completion of U.S. government orders to provide products for COVID-19 vaccination efforts. As of June 30, 2022, the Company employed approximately 213 full-time, part-time, and temporary employees. This represents approximately a 10.9% decrease in our workforce since June 2021 and compensation costs decreased 9.6%. As a result of our completion of the original U.S. government delivery orders and the progression of the TIA, we continue to monitor our current level of operating expenses, including the overall impact of our staffing structure.

Effective June 4, 2021, we entered into a repurchase plan (the "Plan") for the purchase of up to $10 million of our Common Stock. Under the Plan, open market purchases of our Common Stock commenced June 18, 2021 and 1,087,145 shares were purchased through the Plan's termination on April 14, 2022 for an aggregate purchase price of approximately $8.1 million. We terminated the plan because our stock price appeared not to be correlated with our economic performance.

Historically, unit sales have increased during the flu season. Seasonal trends in 2020 and 2021 were less pronounced due to demand related to the COVID-19 vaccine. With the completion of our delivery orders from the U.S. government, flu season orders may have a more pronounced effect on 2022 revenues.

Product purchases from our Chinese manufacturers have enabled us to increase manufacturing capacity with little capital outlay and have provided a competitive manufacturing cost. In the second quarter of 2022, our Chinese manufacturers produced approximately 83.5% of our products. The recent decrease in the percentage of finished goods acquired from China is a result of the closure of Shanghai ports in response to recent COVID-19 outbreaks. In the event that we become unable to purchase products from our Chinese manufacturers, we may need to find an alternate manufacturer for the blood collection set, IV catheter, Patient Safe® syringe, 0.5mL insulin syringe, 0.5mL autodisable syringe, and 2mL, 5mL, and 10mL syringes and we would increase domestic production for the 1mL and 3mL syringes and EasyPoint® needles.

In 1995, we entered into a license agreement with Thomas J. Shaw for the exclusive right to manufacture, market, and distribute products utilizing his patented automated retraction technology and other patented technology. This technology is the subject of various patents and patent applications owned by Mr. Shaw. The license agreement generally provides for quarterly payments of a 5% royalty fee on gross sales of products subject to the license and he receives fifty percent (50%) of the royalties paid to us by certain sublicensees of the technology subject to the license.

The following discussion may contain trend information and other forward-looking statements that involve a number of risks and uncertainties. Our actual future results could differ materially from our historical results of operations and those discussed in any forward-looking statements. All period references are to periods ended June 30, 2022 or 2021, as applicable. Dollar amounts have been rounded for ease of reading.

Comparison of Three Months Ended June 30, 2022 and June 30, 2021

Domestic sales accounted for 66.7% and 94.3% of the revenues for the three months ended June 30, 2022 and 2021, respectively. Domestic revenues decreased 76.1% principally due to the lack of second quarter sales to the U.S. government. Domestic unit sales decreased 79.8%. Domestic unit sales were 51.4% of total unit sales for the three months ended June 30, 2022.

International revenues increased approximately 97.5% predominantly due to international vaccination campaigns. Overall unit sales decreased 64.1%. There is uncertainty as to the timing of future international orders. The revenues on a per-unit basis in the international market are significantly lower than in the U.S. market. As a result, increases in international orders and unit sales have the potential to lower our overall revenues on a per-unit basis, as well as our profit margins.

Cost of manufactured product decreased 51.7% principally due to lower volumes.

Royalty expense decreased 65.1% due to decreased gross sales.

Operating expenses decreased 18.1% from the prior year. This is substantially due to lower consulting costs.

The loss from operations was $2.1 million compared to income from operations of $12.7 million for the same period last year. The decrease was due to an overall decrease in revenues and because per-unit costs have risen with lower production levels.

The unrealized loss on equity securities was $3.9 million due to the decreased market values of those securities. Interest expense for the second quarter of 2022 decreased by approximately 29.8% from the same period in the prior year due to less imputed interest associated with the stock exchanges discussed in Note 12 of the financial statements.

The benefit for income taxes was $1.6 million for the second quarter of 2022 in comparison to the provision for income taxes of $3.5 million in the second quarter of 2021.

Comparison of Six Months Ended June 30, 2022 and June 30, 2021

Domestic sales, including sales to the U.S. government, accounted for 60.1% and 96.0% of the revenues for the six months ended June 30, 2022 and 2021, respectively. Domestic revenues decreased 60.0% principally due to lower sales to the U.S. government. Domestic unit sales decreased 63.0%. Domestic unit sales were 46.5% of total unit sales for the six months ended June 30, 2022.

Domestic unit sales excluding the U.S. government sales decreased approximately 32.3%. International revenues increased approximately 529.1% predominantly due to first-quarter purchases from a non-governmental humanitarian organization for international vaccination campaigns. Overall unit sales decreased 25.5%. There is uncertainty as to the timing of future international orders. The revenues on a per-unit basis in the international market are significantly lower than in the U.S. market. As a result, increases in international orders and unit sales have the potential to lower our overall revenues on a per-unit basis, as well as our profit margins.

Cost of manufactured product decreased 7.7% principally due to lower volumes.

Royalty expense decreased 37.1% due to decreased gross sales.

Operating expenses were largely unchanged from the prior year.

Income from operations was $7.7 million compared to income from operations of $36.1 million for the same period last year. The decrease was due to an overall decrease in revenues and because per-unit costs have risen with lower production levels.

The unrealized loss on equity securities was $572 thousand due to the decreased market values of those securities. Interest expense for the first six months of 2022 decreased by approximately 28.6% from the same period in the prior year due to less imputed interest associated with the stock exchanges discussed in Note 12 of the financial statements.

The provision for income taxes decreased to $4.2 million for the first six months of 2022 from $10.1 million in the first six months of 2021. For a detailed description of the determination and components of calculating the provision, please refer to Note 5 of the financial statements.

Cash comprises 10.5% of total assets. Cash flow from operations was $12.9 million for the six months ended June 30, 2022 principally due to the collection of accounts receivable. Additionally, we have recorded deferred taxes of $4.2 million which is material to the adjustments to total cash flow from operations. The deferred tax asset represents amounts available to reduce income taxes payable on taxable income in future years.

Cash used by investing activities was $24.8 million for the six months ended June 30, 2022 due primarily to the purchase of property, plant and equipment, building improvements, and the purchase of equity securities. The impact to

cash from the purchase of fixed assets primarily reflects down payments on orders for certain assets as discussed in Note 15 to the financial statements.

Cash provided by financing activities was $3.1 million for the six months ended June 30, 2022. This was primarily due to proceeds from the government under the TIA for down payments on our orders for fixed assets, but was offset by our repurchase of common stock in the first six months of 2022 in the amount of $2.8 million as well as our payment of $1.1 million in connection with the stock exchange discussed in Note 12.

We have historically funded operations primarily from the proceeds from revenues, private placements, litigation settlements, and loans. We expect to fund operations going forward from revenues, cash reserves, and investments available for sale if the need to access those funds arises. We do not, and historically have not, utilized lines of credit to fund operations.

The mix of domestic and international sales affects the average sales price of our products. Generally, the higher the ratio of domestic sales to international sales, the higher the average sales price will be. Some international sales of our products are shipped directly from China to the customer. The number of units produced by us versus manufactured in China can have a significant effect on the carrying costs of Inventory as well as Cost of sales. Generally, an overall increase in units sold can positively affect our margins. The cost of raw materials used in manufacturing and transportation costs can also significantly affect our margins. We will continue to evaluate the appropriate mix of products manufactured domestically and those manufactured in China to achieve economic benefits as well as to maintain our domestic manufacturing capability.

We believe we will have adequate means to meet our short-term needs to fund operations for at least 12 months. Besides cash reserves and expected income from operations, we also have access to our investments which may be liquidated in the event that we need to access the funds for operations. Expected short-term uses of cash include payroll and benefits, royalty expense, inventory purchases, contractual obligations, capital expenditures, payment of income taxes, quarterly preferred stock dividends, and other operational priorities. Our long-term plans involving material cash requirements for capital expenditures are detailed in this section below under "Capital Resources" and our liabilities are our bank debt as set forth as out Long-term debt on our Condensed Balance Sheets and other liabilities detailed herein in Note 7 to the financial statements. We believe we will have adequate means to meet our currently foreseeable long-term liquidity needs.

Contracts with the U.S. Government

As discussed above, we were awarded a material delivery order by the Department of Health and Human Services of the United States in the total amount of approximately $83.8 million, plus certain expedited freight expenses. In February 2021, we received another material contract from the Department of Health and Human Services for additional safety syringes representing expected revenues and reimbursable freight costs of $54.2 million for a five-month period ending July 14, 2021 and approximately $92.8 million (plus an additional $6 million in air freight costs) for seven monthly option periods. To date, we have received a commitment to exercise only the first four option periods which extended through the end of December 2021. We have not received additional orders beyond the first four option periods. While we continue to work with the Department of Health and Human Services, significant future orders are uncertain.

As discussed above, we entered into a TIA with the U.S. government for a total value of approximately $81.0 million in government funding for expanding our domestic production of needles and syringes. As of August 1, 2022, we have received approximately $73.3 million for down payments on the purchase of certain fixed assets. In 2021, we

contributed approximately $5.9 million towards the completion of the new 55,000 square foot warehouse as a portion of the cost sharing agreement. The Company will continue to fund the expansion efforts primarily through providing the necessary workforce to implement the addition of new assets, as well as provide the ongoing necessary support.

We received a PPP Loan in the principal amount of $1.4 million. On May 13, 2021, we were informed that the entire original principal amount of $1.4 million would be forgiven.

We consider our investment portfolio a source of liquidity as well. As of June 30, 2022, $26.9 million was invested in third party securities.

Since the execution of the TIA on July 1, 2020, we have significantly expanded our facilities. As of August 1, 2022, we had received a temporary certificate of occupancy for both of the additional controlled environment spaces as mentioned in the original TIA and the modification. We have also received a certificate of occupancy for the 55,000 square feet of new warehouse space. As of August 1, 2022, we have negotiated contracts for the purchase of automated assembly equipment, molds, and molding equipment, as well as portions of auxiliary equipment, under the original TIA and the modification for approximately $65.0 million. To fund the purchase of the automated assembly equipment, auxiliary equipment, and construction of the controlled environment, we are reimbursed by the U.S. government according to the terms in the TIA. The TIA also allows us to request an advance of funds for larger purchases when necessary. The expenditures which are not reimbursable from the U.S. government under the TIA are funded with cash from operations. The capital assets funded by us under the TIA include the construction of the new warehouse as well as certain accessory equipment.

We have entered into an agreement to expand our existing administrative offices by 14,000 square feet. We currently expect that the cost of expansion will be approximately $5.8 million which we will fund from cash from operations. The expected substantial completion date for the new office space is October 2022. To date, we have spent approximately $4.2 million.

As mentioned above in the section "Cash Requirements", we have cash reserves, investments which could be liquidated in the event of our requirements therefor, as well as the ability to generate cash flow from operations. In the event that our long-term cash requirements exceed our current reserves and our ability to generate cash from operations, management would necessarily undertake to reduce our operational cash requirements.

We are responsible for developing estimates for amounts reported as assets and liabilities, and revenues and expenses in conformity with U.S. generally accepted accounting principles ("GAAP"). Those estimates require that we develop assumptions of future events based on past experience and expectations of economic factors. Among the more critical estimates management makes is the estimate for customer rebates. The amount reported as a contractual allowance for rebates involves examination of past historical trends related to our sales to customers and the related credits issued once contractual obligations of the customers have been met. The establishment of a liability for future claims of rebates against sales in the current period requires that we have an understanding of the relevant sales with respect to product categories, sales distribution channels, and the likelihood of contractual obligations being satisfied. We examine the results of estimates against actual results historically and use the determination to further develop our basis for assumptions in future periods, as well as the accuracy of past estimates. While we believe that we have sufficient historical data, and a firm basis for establishing reserves for contractual obligations, there is an inherent risk that our estimates and the underlying assumptions may not reflect actual future results. In the event that these estimates and/or assumptions are incorrect, adjustments to our reserves may have a material impact on future results.

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