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VENAXIS, INC. - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations

May 12, 2014

Management's plans and basis of presentation:

The Company has experienced recurring losses and negative cash flows from operations. At March 31, 2014, the Company had approximate balances of cash and liquid investments of $12,858,000, working capital of $11,587,000, stockholders' equity of $11,985,000 and an accumulated deficit of $89,329,000. To date, the Company has in large part relied on equity financing to fund its operations. The Company expects to continue to incur losses from operations for the near-term and these losses could be significant as product development, clinical and regulatory activities, consulting expenses and other product development related expenses are incurred. The Company believes that its current working capital position, including the proceeds of the April 2014 public offering, will be sufficient to meet its estimated cash needs into 2015. If the Company does not obtain FDA clearance of its products, the Company would potentially be required to change the scope of its product development activities, change its strategic focus or cease operations. The Company continues to explore obtaining additional financing. The Company is closely monitoring its cash balances, cash needs and expense levels.

In January 2014, the Company completed its pivotal clinical trial for its APPY1 product candidate and, following evaluation and analysis of the clinical trial data results and preparation of the application and related materials, submitted a 501(k) clearance application to the FDA for its APPY1 product candidate in March 2014.

Management's strategic plans include the following:

- continuing commercialization of the Company's principal product, APPY1; - monitoring additional capital raising opportunities; - continuing to explore prospective partnering or licensing opportunities with complementary opportunities and technologies; and - continuing to monitor and implement cost control initiatives to conserve cash.



Results of Operations

Comparative Results for the Three Months Ended March 31, 2014 and 2013

Sales of $52,000 were recorded for the three months ended March 31, 2014, as compared to no sales in the 2013 period. The 2014 sales resulted from APPY1 product sales in the European Union ("EU"). In early 2014, two long-term distribution agreements were executed covering Spain and the Benelux Territories (Belgium, Luxembourg and the Netherlands)

In July 2012, the Company entered into an Exclusive License Agreement (" Ceva License Agreement") with Ceva SantÉ Animale S.A. ("Licensee") under which the Company granted the Licensee an exclusive royalty-bearing license to the Company's intellectual property and other assets, including patent rights and know-how, relating to recombinant single chain reproductive hormone technology for use in non-human mammals ("Company's Animal Health Assets"). The net total payments received under this agreement were recorded as deferred revenue and are being recognized as revenue over future periods. During the three month periods ended March 31, 2014 and 2013, $23,175 and $18,655, respectively, of such license payments was recognized as revenue.

Selling, general and administrative expenses in the three months ended March 31, 2014 totaled $1,894,000, which is a $466,000 or 33% increase, as compared to the 2013 period. Commercialization and marketing expenses increased by approximately $285,000 in the 2014 period as the Company advanced on its product commercialization strategy. An increase of approximately $237,000 for the three months ended March 31, 2014, was due to an incentive bonus accrual. These increases were offset by a decrease of approximately $56,000 in various other selling and administrative expenses.

Research and development expenses in the three months ended March 31, 2014 totaled $1,052,000, which is approximately a $360,000 or 25% decrease, as compared to the 2013 period. The decrease was due primarily to completing the clinical trial activities. Expenses incurred for product enhancement were approximately $81,000 in the 2014 period.

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Interest expense for the three months ended March 31, 2014, decreased to $37,000, compared to $44,000 in the 2013 period as a result of the mortgage refinance that occurred in May 2013. For the three months ended March 31, the Company recorded an investment loss of approximately $7,000 and an investment income of $13,000 in 2014 and 2013, respectively. The decrease is due primarily to higher realized losses in the 2014 period. During the three-month period ended March 31, 2013, the Company received other income of approximately $50,000 in connection with a redemption of its current insurance company.

No income tax benefit was recorded on the net loss for the three months ended March 31, 2014 and 2013, as management was unable to determine that it was more likely than not that such benefit would be realized.

Liquidity and Capital Resources

At March 31, 2014, we had working capital of $11,587,000, which included cash, cash equivalents and short term investments of $12,858,000. We reported a net loss of $2,948,000 during the three months ended March 31, 2014, which included $462,000 in net non-cash expenses consisting of stock-based compensation totaling $403,000, depreciation and amortization totaling $83,000 and amortization of license fee totaling $23,000.

Subsequent to March 31, 2014, the Company completed a public offering of securities consisting of 8,335,000 shares of common stock at an offering price of $2.40 per share, generating approximately $20 million in total proceeds. Fees and other expenses totaled approximately $1,640,000, including a placement fee of 6.5%.

Currently, the Company's primary focus is to continue advancement of the steps required for FDA clearance for its acute appendicitis diagnostic test, as well as advancing on commercialization and marketing activities following the 2013 attainment of CE marking in the EU.

We expect to continue to incur losses from operations for the near-term and these losses could be significant as we incur product development, clinical and regulatory activities, contract consulting and other product development and commercialization related expenses. We believe that our current working capital position, including the proceeds of the April 2014 public offering, will be sufficient to meet our estimated cash needs into 2015. The Company monitors additional financing opportunities; however, there can be no assurance that the Company will be able to obtain sufficient additional financing on terms acceptable to the Company, if at all. We are closely monitoring our cash balances, cash needs and expense levels. The accompanying financial statements to this Form 10-Q do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classification of liabilities that might result in the possible inability of the Company to continue as a going concern.

Based upon our experience, clinical trial expenses can be significant costs. During the three month periods ended March 31, 2014 and 2013, we expended approximately $543,000 and $871,000, respectively, in direct costs for development of the acute appendicitis test, APPY1, and related clinical and regulatory efforts. As of March 31, 2014, the FDA clinical trial had been completed and the 510(k) application was submitted to the FDA. Steps to achieve commercialization of the APPY1 will be an ongoing and evolving process with expected improvements and possible subsequent generations being evaluated for the test. Should we be unable to achieve FDA clearance of the APPY1 appendicitis test or generate sufficient revenues from the product, we would need to rely on other business or product opportunities to generate revenues and costs that we have incurred for the acute appendicitis patent may be deemed impaired.

In July 2012, the Company entered into the Ceva License Agreement, under which the Company granted the Licensee an exclusive royalty-bearing license, until December 31, 2028, to the Company's Animal Health Assets. The Ceva License Agreement is subject to termination by the Licensee (a) for convenience on 180 days prior written notice, (b) in the Licensee's discretion in the event of a sale or other disposal of the Company's animal health assets, (c) in the Licensee's discretion upon a change in control of the Company, (d) for a material breach of the Ceva License Agreement by the Company, or (e) in the Licensee's discretion, if the Company becomes insolvent. The Ceva License Agreement is also terminable by the Company if there is a material breach of the Ceva License Agreement by the Licensee, or if the Licensee challenges the Company's ownership of designated intellectual property. The Ceva License Agreement includes a sublicense of the technology licensed to the Company by WU. Under the terms of the WU License Agreement, a portion of license fees and royalties the Company receives from sublicensing agreements will be paid to WU. The obligation for such license fees due to WU is included in accrued expenses at March 31, 2014.

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Under the Ceva License Agreement as of March 31, 2014, the following future milestone payments are provided, assuming future milestones are successfully achieved:

? Milestone payments, totaling up to a potential of $1.1

million in the aggregate, based on the satisfactory

conclusion of milestones as defined in the Ceva License

Agreement;

? Potential for milestone payments of up to an additional

$2 million for development and receipt of regulatory

approval for additional licensed products; and ? Royalties, at low double digit rates, based on sales of

licensed products.

We have entered and expect to continue to enter into additional agreements with contract manufacturers for the development and manufacture of certain of our products for which we are seeking FDA approval. The goal of this development process is to establish current good manufacturing practices ("cGMP") required for those products for which we are seeking FDA approval. These development and manufacturing agreements generally contain transfer fees and possible penalty and /or royalty provisions should we transfer our products to another contract manufacturer. We expect to continue to evaluate, negotiate and execute additional and expanded development and manufacturing agreements, some of which may be significant commitments. We may also consider acquisitions of development technologies or products should opportunities arise that we believe fit our business strategy and would be appropriate from a capital standpoint.

The Company periodically enters into generally short-term consulting and development agreements primarily for product development, testing services and in connection with clinical trials conducted as part of the Company's FDA clearance process. Such commitments at any point in time may be significant but the agreements typically contain cancellation provisions.

We have a permanent mortgage on our land and building that was refinanced in May 2013. The mortgage is held by a commercial bank and includes a portion guaranteed by the SBA. The loan is collateralized by the real property and the SBA portion is also personally guaranteed by a former officer of the Company. The commercial bank loan terms include a payment schedule based on a fifteen year amortization, with a balloon maturity at five years. The commercial bank portion has an interest rate fixed at 3.95%, and the SBA portion bears interest at the rate of 5.86%. The commercial bank portion of the loan requires total monthly payments of approximately $11,700, which includes approximately $5,200 per month in interest. The SBA portion of the loan requires total monthly payments of approximately $9,200 through July 2023, which currently includes approximately $3,500 per month in interest and fees.

Due to recent market events that have adversely affected all industries and the economy as a whole, management has placed increased emphasis on monitoring the risks associated with the current environment, particularly the investment parameters of the short term investments, the recoverability of current assets, the fair value of assets, and the Company's liquidity. At this point in time, there has not been a material impact on the Company's assets and liquidity. Management will continue to monitor the risks associated with the current environment and their impact on the Company's results.

Operating Activities

Net cash consumed by operating activities was $2,837,000 during the three months ended March 31, 2014. Cash was consumed by the loss of $2,948,000, less non-cash expenses of $403,000 for stock-based compensation and $83,000 for depreciation and amortization, offset by the amortization of license fee totaling $23,000. For the three months ended March 31, 2014, net decrease in accounts receivable, prepaid and other current assets of $36,000 provided cash, primarily related to routine changes in operating activities. A net decrease of $456,000 in accounts payable and accrued expenses consumed cash from operating activities, primarily related a decrease in costs related to clinical trials that were completed in the quarter ended March 31, 2014, and a payment of approximately $148,000 in 2013 incentive plan awards that were paid in 2014. Cash provided by operations included an increase of approximately $69,000 in deferred revenue, under the Ceva License Agreement for the Company's Animal Health Assets.

Net cash consumed by operating activities was $2,472,000 during the three months ended March 31, 2013. Cash was consumed by the loss of $2,802,000, less non-cash expenses of $484,000 for stock-based compensation and $87,000 for depreciation and amortization. For the three months ended March 31, 2013, decreases in accounts receivable and prepaid and other current assets of $101,000 provided cash, primarily related to routine changes in operating activities. A net decrease of $98,000 in accounts payable and accrued expenses consumed cash from operating activities, primarily related to the payment of 2012 incentive plan awards that were paid in 2013, offset by increased costs accrued on the APPY1 trial in 2013. Cash provided by operations included an increase of approximately $197,000 in deferred revenue, following the execution of the Ceva License Agreement for the Company's Animal Health Assets.

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Investing Activities

Net cash outflows from investing activities consumed $276,000 during the three months ended March 31, 2014. Purchases of short-term investments totaled approximately $4,872,000 and sales of short term investments of $4,641,000. A $43,000 use of cash was attributable to additional costs incurred from patent filings and approximately $2,000 was incurred from purchases of equipment.

Net cash outflows from investing activities consumed $5,653,000 during the three months ended March 31, 2013. Purchases of short-term investments totaled approximately $5,613,000. A $29,000 use of cash was attributable to additional costs incurred from patent filings and approximately $11,000 was incurred from purchases of property and equipment.

Financing Activities

Net cash outflows from financing activities provided $1,440,000 during the three month period ended March 31, 2014, consisting of $1,580,000 of cash received from the exercise of warrants less expended $140,000 for repayments under existing debt agreements.

Net cash outflows from financing activities consumed $361,000 during the three month period ended March 31, 2013 for repayments under existing debt agreements.

Critical Accounting Policies

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America ("GAAP") requires management to make estimates and assumptions about future events that affect the amounts reported in the financial statements and accompanying notes. Future events and their effects cannot be determined with absolute certainty. Therefore, the determination of estimates requires the exercise of judgment. Actual results inevitably will differ from those estimates, and such differences may be material to the financial statements. The most significant accounting estimates inherent in the preparation of our financial statements include estimates associated with revenue recognition, impairment analysis of intangibles and stock-based compensation.

The Company's financial position, results of operations and cash flows are impacted by the accounting policies the Company has adopted. In order to get a full understanding of the Company's financial statements, one must have a clear understanding of the accounting policies employed. A summary of the Company's critical accounting policies follows:

Investments: The Company invests excess cash from time to time in highly liquid debt and equity securities of highly rated entities which are classified as trading securities. Such amounts are recorded at market and are classified as current, as the Company does not intend to hold the investments beyond twelve months. Such excess funds are invested under the Company's investment policy but an unexpected decline or loss could have an adverse and material effect on the carrying value, recoverability or investment returns of such investments. Our Board of Directors has approved an investment policy covering the investment parameters to be followed with the primary goals being the safety of principal amounts and maintaining liquidity of the fund. The policy provides for minimum investment rating requirements as well as limitations on investment duration and concentrations.

Intangible Assets: Intangible assets primarily represent legal costs and filings associated with obtaining patents on the Company's new discoveries. The Company amortizes these costs over the shorter of the legal life of the patent or its estimated economic life using the straight-line method. The Company tests intangible assets with finite lives upon significant changes in the Company's business environment. The testing resulted in no patent impairment charges during the three months ended March 31, 2014 and 2013.

Long-Lived Assets: The Company records property and equipment at cost. Depreciation of the assets is recorded on the straight-line basis over the estimated useful lives of the assets. Dispositions of property and equipment are recorded in the period of disposition and any resulting gains or losses are charged to income or expense when the disposal occurs. The Company reviews for impairment whenever there is an indication of impairment. The required annual testing resulted in no impairment charges being recorded to date.

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Revenue Recognition: The Company's revenues are recognized when products are shipped or delivered to unaffiliated customers. SAB No. 104, provides guidance on the application of GAAP to select revenue recognition issues. The Company has concluded that its revenue recognition policy is appropriate and in accordance with SAB No. 104. Revenue is recognized under sales, license and distribution agreements only after the following criteria are met: (i) there exists adequate evidence of the transactions; (ii) delivery of goods has occurred or services have been rendered; and (iii) the price is not contingent on future activity and (iv) collectability is reasonably assured.

Stock-based Compensation: ASC 718, Share-Based Payment, defines the fair-value-based method of accounting for stock-based employee compensation plans and transactions used by the Company to account for its issuances of equity instruments to record compensation cost for stock-based employee compensation plans at fair value as well as to acquire goods or services from non-employees. Transactions in which the Company issues stock-based compensation to employees, directors and consultants and for goods or services received from non-employees are accounted for based on the fair value of the equity instruments issued. The Company utilizes pricing models in determining the fair values of options and warrants issued as stock-based compensation. These pricing models utilize the market price of the Company's common stock and the exercise price of the option or warrant, as well as time value and volatility factors underlying the positions.

Recently issued and adopted accounting pronouncements: The Company has evaluated all recently issued accounting pronouncements and believes such pronouncements do not have a material effect on the Company's financial statements.


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Source: Edgar Glimpses


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