AVID BIOSERVICES, INC. The following discussion and analysis of the financial condition and results of our operations should be read together with the financial statements and related notes ofAvid Bioservices, Inc. included in Part I Item 1 of this Quarterly Report on Form 10-Q and with our audited consolidated financial statements and the related notes included in our Annual Report on Form 10-K for the fiscal
year endedApril 30, 2019 .
Cautionary Statement Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements that involve risks and uncertainties, as well as assumptions that, if they never materialize or prove incorrect, could cause our results of operations to differ materially from those expressed or implied by such forward-looking statements. The statements contained in this Quarterly Report on Form 10-Q that are not purely historical are "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). Forward-looking statements are often identified by the use of words such as, but not limited to, "anticipate," "believe," "can," "continue," "could," "estimate," "expect," "intend," "may," "plan," "project," "seek," "should," "target," "will," "would" and similar expressions or variations intended to identify forward-looking statements. These statements are based on the beliefs and assumptions of our management based on information currently available to management. These forward-looking statements are subject to numerous risks and uncertainties, including the risks and uncertainties described under the section titled "Risk Factors" in our Annual Report on Form 10-K for the fiscal year endedApril 30, 2019 , those identified in this "Management's Discussion and Analysis of Financial Condition and Results of Operations" and elsewhere in this Quarterly Report on Form 10-Q, and in other filings we may make with theSecurities and Exchange Commission from time to time. Moreover, we operate in an evolving environment. New risk factors and uncertainties emerge from time to time and it is not possible for our management to predict all risk factors and uncertainties, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statement. We qualify all of our forward-looking statements by these cautionary statements and, except as required by law, assume no obligation and do not intend to update these forward-looking statements. Overview We are a dedicated CDMO that provides a comprehensive range of services from process development to CGMP commercial manufacturing focused on biopharmaceutical products derived from mammalian cell culture. With over 25 years of experience producing monoclonal antibodies and recombinant proteins in batch, fed-batch and perfusion modes, our services include CGMP clinical and commercial product manufacturing, purification, bulk packaging, stability testing and regulatory submissions and support. We also provide a variety of process development services, including cell line development and optimization, cell culture and feed optimization, analytical methods development and product characterization. Strategic Objectives
We have established and are currently executing on the following strategic objectives:
· Expand existing customer relationships and diversify our customer base by
securing additional customers to support our future potential revenue growth;
· Continue to invest in manufacturing facilities and infrastructure to maximize
our facility utilization and support our customers' development and clinical
and commercial manufacturing requirements; and
· Broaden our sales force by hiring sales representatives to execute our business
development initiatives in key markets. 19 Third Quarter Highlights
The following summarizes select highlights from our third quarter ended
· Appointed
accomplished professional with more than 20 years of commercial operations and
sales team management experience. In this role,
driving the continued growth of our CDMO business, including the ongoing
expansion of our commercial and clinical client base;
· Added one new customer and expanded the scope of work with multiple existing
customers to increase the number of manufacturing batches; and
· Advanced the planning and design stages to both enhance our Myford facility,
and support its future expansion. These near-term facility improvements
include, installing a pharmaceutical grade water system, and upgrading key IT
systems and general infrastructure. We expect the installation and validation
of the pharmaceutical grade water system to take place in late calendar year
2020 and certain IT system enhancements and general infrastructure upgrades to
complete by the end of fiscal 2021.
Performance and Financial Measures
In assessing the performance of our business, we consider a variety of performance and financial measures. The key indicators of the financial condition and operating performance of our business are revenues, gross profit, selling, general and administrative expenses and operating income.
We intend for this discussion to provide the reader with information that will assist in understanding our financial statements, the changes in certain key items in those financial statements from period to period and the primary factors that accounted for those changes. Revenues Revenues are derived from services provided under our customer contracts and are disaggregated into manufacturing and process development revenue streams. The manufacturing revenue stream generally represents revenue from the manufacturing of customer products derived from mammalian cell culture covering clinical through commercial manufacturing runs. The process development revenue stream generally represents revenue from services associated with the custom development of a manufacturing process and analytical methods for a customer's product. Gross Profit Gross profit is equal to revenues less cost of revenues. Cost of revenues reflects the direct cost of labor, overhead and material costs. Direct labor costs include personnel costs within the manufacturing, process development, quality assurance, quality control, validation, supply chain and facilities functions. Overhead costs include the rent, common area maintenance, utilities, property taxes, security, materials and supplies, software, small equipment and deprecation costs of all manufacturing and laboratory locations. 20
Selling, General and Administrative Expenses
Selling, general and administrative ("SG&A") expenses are composed of
corporate-level expenses including personnel and support costs of corporate
functions such as executive management, accounting, business development, legal,
human resources, information technology, project management, and other
centralized services. SG&A expenses include corporate legal fees, audit and
accounting fees, investor relation expenses, non-employee director fees,
facility related expenses, and other expenses relating to our general
management, administration, project management, and business development
activities. SG&A expenses are generally not directly proportional to revenues,
but we expect such expenses to increase over time to support the needs of our
growing company.
Results of Operations
The following table compares the unaudited condensed consolidated statements of
operations from our continuing operations for the three and nine months ended
January 31, 2020 and 2019 (in thousands):
Three Months Ended Nine Months Ended
January 31, January 31,
2020 2019 $ Change 2020 2019 $ Change
Revenues $ 13,585 $ 13,781 $ (196 ) $ 47,152 $ 36,548 $ 10,604
Cost of revenues 12,800 11,731 1,069 41,921 32,972 8,949
Gross profit 785 2,050 (1,265 ) 5,231 3,576 1,655
Operating expenses:
Selling, general and
administrative 2,996 3,242 (246 ) 10,989 9,273 1,716
Loss on lease
termination - - - 355 - 355
Total operating
expenses 2,996 3,242 (246 ) 11,344 9,273 2,071
Operating loss (2,211 ) (1,192 ) (1,019 ) (6,113 ) (5,697 ) (416 )
Interest and other
income, net 107 9 98 415 190 225
Loss from continuing
operations before
income taxes (2,104 ) (1,183 ) (921 ) (5,698 ) (5,507 ) (191 )
Income tax benefit - 44 (44 ) - 217 (217 )
Loss from continuing
operations, net of
tax $ (2,104 ) $ (1,139 ) $ (965 ) $ (5,698 ) $ (5,290 ) $ (408 )
21
Three Months Ended
Revenues Revenues for the three months endedJanuary 31, 2020 were$13.6 million compared to$13.8 million for the same period in the prior year, a decrease of$0.2 million , or 1%. The decrease in revenues can primarily be attributed to a decrease in process development revenue, which was largely offset by an increase in the number of in-process and completed manufacturing runs in the current-year period. The following table provides the net change in revenues by our revenue streams: $ millions
Net increase in manufacturing revenue
$ (0.2 ) Additionally, growth in manufacturing revenue during the current-year period was impacted by a production interruption related to a problem with a specific piece of equipment, which resulted in the termination of certain in-process manufacturing runs and the postponement of other manufacturing runs scheduled to commence during the current-year period. We are currently in the process of implementing what we believe to be the necessary corrections for the specific piece of equipment that resulted in the production interruption, however, we expect that this interruption will continue to have a negative impact on our revenues and gross profit for the remainder of fiscal 2020. Gross Profit Gross profit for the three months endedJanuary 31, 2020 was$0.8 million compared to$2.1 million for the same period in the prior year, a decrease of approximately$1.3 million , where gross margins for such periods were 6% and 15%, respectively. The$1.3 million decrease in gross profit for the current-year period was primarily attributed to the costs associated with the production interruption described above, increased depreciation expense from the acquisition of new equipment, and a net decrease in revenues.
Selling, General and Administrative Expenses
SG&A expenses were$3.0 million for the three months endedJanuary 31, 2020 compared to$3.2 million for the same period in the prior year, a decrease of approximately$0.2 million , or 8%. As a percentage of revenue, SG&A expenses for the three months endedJanuary 31, 2020 and 2019 were 22% and 24%, respectively. The decrease in SG&A expenses was attributed to the following components: $ millions
Decrease in accrued bonus expenses
0.2
Net increase in all other SG&A expenses 0.3
Total decrease in SG&A expenses $ (0.2 )
22
Operating Loss
Operating loss was $2.2 million , or a negative 16% of revenue, for the three
months ended January 31, 2020 compared to an operating loss of $1.2 million , or
a negative 9% of revenue, for the same period in the prior year. Of this $1.0
million change in year-over-year operating loss, approximately $1.3 million was
attributable to a gross profit decrease, which was partially offset by a
decrease in SG&A expenses of approximately $0.2 million .
Nine Months Ended
Revenues Revenues for the nine months endedJanuary 31, 2020 were$47.2 million compared to$36.5 million for the same period in the prior year, an increase of approximately$10.6 million , or 29%. The increase in revenues can primarily be attributed to an increase in the number of manufacturing runs in-process and/or completed in the current-year period compared to the prior-year period as a result of growing manufacturing demand from a more diversified customer base, which increase was offset by a decrease in process development revenue. The increase in revenues was attributed to the following components of our revenue streams: $ millions
Net increase in manufacturing revenue
$ 10.6 Additionally, growth in manufacturing revenue during the current-year period was impacted by a production interruption related to a problem with a specific piece of equipment, which resulted in the termination of certain in-process manufacturing runs and the postponement of other manufacturing runs scheduled to commence during the current-year period. We are currently in the process of implementing what we believe to be the necessary corrections for the specific piece of equipment that resulted in the production interruption, however, we expect that this interruption will continue to have a negative impact on our revenues and gross profit for the remainder of fiscal 2020. Gross Profit Gross profit for the nine months endedJanuary 31, 2020 was$5.2 million compared to$3.6 million for the same period in the prior year, an increase of approximately$1.7 million , where gross margins for such periods were 11% and 10%, respectively. The$1.7 million increase in gross profit for the current-year period was primarily attributed to increased revenues, which was partially offset by costs associated with payroll and related costs, higher facility and equipment related costs primarily associated with the production interruption described above, increased depreciation expense from the acquisition of new equipment, and general equipment repairs and maintenance
costs. 23
Selling, General and Administrative Expenses
SG&A expenses were$11.0 million for the nine months endedJanuary 31, 2020 compared to$9.3 million for the same period in the prior year, an increase of approximately$1.7 million , or 19%. As a percentage of revenue, SG&A expenses for the nine months endedJanuary 31, 2020 and 2019 were 23% and 25%, respectively. The increase in SG&A expenses was attributed to the following
components:
$ millions
Increase in separation related expenses
0.5
Increase in stock-based compensation expense 0.4
Decrease in accrued bonus expenses (0.3 )
Net increase in all other SG&A expenses 0.3
Total increase in SG&A expenses $ 1.7
Loss on Lease Termination
In September 2019 , we entered into a lease amendment to terminate an operating
lease for one of our non-manufacturing facilities that was primarily utilized
for warehouse space. The lease termination was primarily driven by our efforts
to reduce costs by leveraging available warehouse space in our other facilities,
which in aggregate will save us approximately $1.3 million over a period of four
years. In connection with the termination of this lease, we removed the
corresponding operating lease right-of-use asset and liability balances from our
balance sheet and recognized a loss of $0.4 million . Additionally, the lease
termination released $0.3 million of restricted cash that was pledged as
collateral under a letter of credit required by the terminated lease.
Operating Loss
Operating loss was$6.1 million , or a negative 13% of revenue, for the nine months endedJanuary 31, 2020 compared to an operating loss of$5.7 million , or a negative 16% of revenue, for the same period in the prior year. Of this$0.4 million change in year-over-year operating loss, approximately$1.7 million was attributable to an increase in SG&A expenses and$0.4 million was attributable to a loss recognized in connection with the termination of an operating lease, which were partially offset by an increase in gross profit of approximately
$1.7 million . Income Tax Benefit InSeptember 2018 , we recognized a$1.0 million gain in discontinued operations, before taxes, for the sale of our r84 technology (as described in Note 7 to the accompanying unaudited condensed consolidated financial statements). In accordance with the "Intraperiod Tax Allocation" rules under ASC 740: Income Taxes, which requires the allocation of an entity's total annual income tax provision among continuing operations and, in our case, discontinued operations for the nine months endedJanuary 31, 2019 , we recorded a tax benefit in continuing operations of$0.2 million with an offsetting tax expense of$0.3 million in discontinued operations. The remaining deferred tax benefit of$0.1 million was allocated proportionally to continuing operations throughout the remainder of fiscal year 2019. 24 Discontinued Operations As a result of the sale of our PS-targeting and r84 technologies inFebruary 2018 andSeptember 2018 , respectively (as described in Note 10 to the Notes to the Consolidated Financial Statements included in our Annual Report on Form 10-K for the fiscal year endedApril 30, 2019 ), the abandonment of our remaining research and development assets, and the strategic shift in our corporate direction to focus solely on our CDMO business, the operating results of our former research and development segment have been excluded from continuing operations and reported as income from discontinued operations, net of tax, in the accompanying unaudited condensed consolidated financial statements for all periods presented. The gain of$1.0 million that was recorded in connection with the sale of our r84 technology inSeptember 2018 is included in income from discontinued operations, net of tax, in the accompanying unaudited condensed consolidated statements of operations and comprehensive loss for the nine months endedJanuary 31, 2019 . There were no operating results from discontinued operations during the three and nine months endedJanuary 31, 2020 .
Liquidity and Capital Resources
AtJanuary 31, 2020 , we had$30.7 million in cash and cash equivalents. Our ability to fund our operations is dependent on the amount of cash on hand and our ability to generate positive cash flow to sustain our current operations. If we are unable to generate sufficient revenue to generate positive cash flow from operations, we will experience negative cash flows from operations. We plan to fund our operations using our existing cash and cash equivalents and cash generated from services provided under our customer contracts. As ofJanuary 31, 2020 , we performed an analysis and concluded that our cash and cash equivalents as ofJanuary 31, 2020 together with cash expected to be generated from services provided under our customer contracts will be sufficient to support our operations for at least one year from the issuance date of this Quarterly Report. In the event we are unable to secure sufficient additional manufacturing services projects to support our current operations, we may need to raise additional capital through a combination of equity offerings and debt financings in order to fund our future operations. There can be no assurance that, in the event we require additional financing, such financing will be available on acceptable terms or at all. Our ability to raise additional capital in the equity markets is dependent on a number of factors, including, but not limited to, the market demand for our common stock. The market demand or liquidity of our common stock is subject to a number of risks and uncertainties, including but not limited to, our financial results and economic and market conditions. If we raise additional capital through debt financing, we may be subject to covenants limiting or restricting our ability to take specific actions, such as making capital expenditures or incurring additional debt. If we are unable to fund our continuing operations through these sources, we may need to further restructure, or cease, our operations. Cash Flow Analysis Significant components of the changes in cash flows from operating, investing and financing activities for the nine months endedJanuary 31, 2020 and 2019 are as follows (in thousands): Nine Months EndedJanuary 31, 2020 2019
Net cash provided by (used in) operating activities
(3,025 ) 4,752
Net cash used in financing activities (2,219 )
(2,016 )
25
Net Cash Provided By (Used In) Operating Activities
Net cash provided by (used in) operating activities represents our net loss, as adjusted to reconcile our net loss to net cash provided by (used in) operating activities and net changes in the timing of cash flows as reflected by the changes in operating assets and liabilities. Net cash provided by operating activities for the nine months endedJanuary 31, 2020 was primarily attributable to a net loss of$5.7 million , offset by adjustments to exclude noncash charges for depreciation and amortization, stock-based compensation and loss on lease termination in an aggregate amount of$4.5 million , and include cash flows from the net change in operating assets and liabilities of$4.0 million . The net change in operating assets and liabilities was primarily due to the timing of cash receipts and expenditures associated with working capital.
Net cash used in operating activities for the nine months endedJanuary 31, 2019 was primarily attributable to a net loss of$4.6 million , as negatively adjusted to exclude a$1.0 million gain on the sale of certain research and development assets and$4.4 million related to the change in assets and liabilities of discontinued operations, and partially offset by positive adjustments to exclude noncash charges for depreciation and amortization and stock-based compensation of$3.1 million , in aggregate, and net cash outflows from the net change in certain other operating assets and liabilities of$10.5 million . The net change in operating assets and liabilities was primarily due to the timing of cash receipts and expenditures associated with working capital.
Our investing activities consist of capital expenditures for our manufacturing and development operations and with respect to the prior year period, proceeds from the sale of certain research and development assets associated with our discontinued research and development segment (as described in Note 10 of the Notes to the Consolidated Financial Statements included in our Annual Report on Form 10-K for the fiscal year endedApril 30, 2019 ). Net cash used in investing activities during the nine months endedJanuary 31, 2020 consisted of property and equipment acquisitions of$3.0 million primarily related to our manufacturing and development operations. Net cash provided by investing activities for the nine months endedJanuary 31, 2019 consisted of proceeds of$6.0 million related to the sale of certain research and development assets associated with our discontinued research and development segment, offset by property and equipment acquisitions of$1.2 million .
Our financing activities primarily consist of cash dividends paid on our preferred stock and proceeds from the exercise of stock options and the issuance of common stock under our ESPP.
Net cash used in financing activities for the nine months endedJanuary 31, 2020 was$2.2 million . This included$3.2 million in dividends paid on our preferred stock and$0.1 million of principal finance lease payments, offset by$0.9 million of proceeds from the exercise of stock options and$0.2 million of proceeds from the issuance of common stock under our ESPP. Net cash used in financing activities for the nine months endedJanuary 31, 2019 was$2.0 million . This included$3.2 million in dividends paid on our preferred stock and$0.1 million of principal lease payments, offset by$1.2 million of proceeds from the exercise of stock options and$0.1 million of proceeds from the issuance of common stock under our ESPP. 26 Contractual Obligations Except as set forth below, during the nine months endedJanuary 31, 2020 , there were no material changes in our contractual obligations and commitments, as described in Part II, Item 7 of our Annual Report on Form 10-K for the fiscal year endedApril 30, 2019 . InSeptember 2019 , we entered into an amendment of one of our facility operating lease agreements (as described in Note 3 to the accompanying unaudited condensed consolidated financial statements), pursuant to which the term of the lease was shortened fromAugust 2023 toSeptember 2019 , which effectively terminated the lease and thereby reduced our future minimum lease payments under all non-cancelable operating leases by approximately$1.0 million .
Critical Accounting Policies and Estimates
Our discussion and analysis of our consolidated financial position and results of operations are based on our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted inthe United States ("U.S. GAAP"). The preparation of our consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses, and related disclosures. We review our estimates and assumptions on an ongoing basis. We base our estimates on historical experience and on assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for our judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may vary from what we anticipate and different assumptions or estimates about the future could change our reported results. During the nine months endedJanuary 31, 2020 , there were no significant changes in our critical accounting policies as previously disclosed by us in Part II, Item 7 of our Annual Report on Form 10-K for the fiscal year endedApril 30, 2019 .
Recent Accounting Pronouncements
Refer to Note 2, Summary of Significant Accounting Policies, in the accompanying
notes to our unaudited condensed consolidated financial statements for a
discussion of recent accounting pronouncements, including ASC 842, the new
standard related to accounting for leases, which we adopted on
Backlog
Our backlog represents, as of a point in time, future revenue from work not yet completed under signed contracts. As ofJanuary 31, 2020 , our backlog was approximately$58 million , as compared to approximately$46 million as ofApril 30, 2019 . While we anticipate the majority of our backlog will be recognized as revenue over the next twelve (12) months, our backlog is subject to a number of risks and uncertainties, including the risk that a customer timely cancels its commitments prior to our initiation of manufacturing services, in which case we may be required to refund some or all of the amounts paid to us in advance under those canceled commitments; the risk that a customer may experience delays in its program(s) or otherwise, which could result in the postponement of anticipated manufacturing services; and, the risk that we may not successfully execute on all customer projects, any of which could have a negative impact on our liquidity, reported backlog and future revenue.
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