UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-K
(Mark
One)
Commission
File number 001-34839
Electromed, Inc.
(Exact Name of Registrant as Specified in its Charter)
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
500
Sixth Avenue NW, New Prague, MN56071
(Address
of principal executive offices, including zip code)
(Registrant’s telephone number, including area code)
Securities
registered pursuant to Section 12(b) of the Act:
Title of each class Trading Symbol(s) Name of each exchange on which registered
Common Stock, par value $0.01 per share ELMD NYSE American
Securities
registered pursuant to Section 12(g) of the Act: None
Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ☐
No ☑
Indicate
by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes ☐ No ☑
Indicate
by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such
reports), and (2) has been subject to such filing requirements for the past 90 days.Yes ☑ No ☐
Indicate
by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant
to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that
the registrant was required to submit such files).Yes ☑ No ☐
Indicate
by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting
company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”,
“smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ☐ Accelerated filer ☐
Non-accelerated filer ☐ Smaller reporting company ☑ Emerging growth company ☐
If
an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for
complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate
by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness
of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Ac t (15 U.S.C. 7262(b)) by the registered
public accounting firm that prepared or issued its audit report. ☐
Indicate by check mark whether
the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes ☐ No ☑
The
aggregate market value of the common stock held by non-affiliates of the registrant as of December 31, 2021 was approximately
$91,856,000 based upon the closing price of the registrant’s common stock, as reported on the NYSE American, on such date.
There
were 8,475,438 shares of the registrant’s common stock outstanding as of August
23, 2022.
DOCUMENTS
INCORPORATED BY REFERENCE
Portions
of the Definitive Proxy Statement for the registrant’s Fiscal 2023 Annual Meeting of Shareholders, to be filed within 120
days of June 30, 2022, are incorporated by reference into Part III of this Annual Report on Form 10-K.
Electromed,
Inc.
Index
to Annual Report on Form 10-K
PART I 1
Item 1. Business 1
Item 1A. Risk Factors 13
Item 1B. Unresolved Staff Comments 13
Item 2. Properties 13
Item 3. Legal Proceedings 13
Item 4. Mine Safety Disclosures 13
Item 6. [Reserved] 14
Item 7A. Quantitative and Qualitative Disclosures About Market Risk 22
Item 8. Financial Statements and Supplementary Data F-1
Item 9A. Controls and Procedures 23
Item 9B. Other Information 23
Item 9C. Disclosure Regarding Foreign Jurisdictions that Prevent Inspections 24
PART III 24
Item 10. Directors, Executive Officers and Corporate Governance 24
Item 11. Executive Compensation 25
Item 14. Principal Accountant Fees and Services 25
Item 15. Exhibits and Financial Statement Schedules 25
INFORMATION
REGARDING FORWARD-LOOKING STATEMENTS
Statements
contained in this Annual Report on Form 10-K that are not statements of historical fact should be considered forward-looking statements
within the meaning of the safe harbor provisions 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 include, but are
not limited to, statements regarding: the expected impact of the COVID-19 pandemic on our business; our business strategy, including
our intended level of investment in research and development and marketing activities; our expectations with respect to earnings,
gross margins and sales growth, industry relationships, marketing strategies and international sales; estimated sizes of markets
into which our products are or may be sold; our business strengths and competitive advantages; our ability to grow additional
sales distribution channels; our intent to retain any earnings for use in operations rather than paying dividends; our expectation
that our products will continue to qualify for reimbursement and payment under government and private insurance programs; our
intellectual property plans and practices; the expected impact of applicable regulations on our business; our beliefs about our
manufacturing processes; our expectations and beliefs with respect to our employees and our relationships with them; our belief
that our current facilities are adequate to support our growth plans; our expectations with respect to ongoing compliance with
the terms of our credit facility; our expectations regarding the ongoing availability of credit and our ability to renew our line
of credit; enhancements to our products and services; expected excise tax exemption for the SmartVest System; and our anticipated
revenues, expenses, capital requirements and liquidity. Words such as “anticipate,” “believe,” “continue,”
“could,” “estimate,” “expect,” “intend,” “may,” “ongoing,”
“plan,” “potential,” “project,” “goal,” “target,” “should,”
“will,” “would,” and similar expressions, including the negative of these terms, are intended to identify
forward-looking statements but are not the exclusive means of identifying such statements. Although we believe these forward-looking
statements are reasonable, they involve risks and uncertainties that may cause actual results to differ materially from those
projected by such statements. Such statements involve known and unknown risks, uncertainties and other factors that may cause
our actual results or our industry’s actual results, levels of activity, performance, or achievements to be materially different
from the information expressed or implied by the forward-looking statements.
Factors
that could cause actual results to differ from those discussed in the forward-looking statements include, but are not limited
to, the following:
● adverse changes to state and federal health care regulations;
● entry of new competitors including new drug or pharmaceutical discoveries;
● adverse economic and business conditions or intense competition;
● wage and component price inflation;
● technical problems with our research and products;
● changes affecting the medical device industry;
● our ability to protect and expand our intellectual property portfolio;
● the risks associated with our planned sales force expansion.
This
list of factors is not exhaustive, however, and these or other factors, many of which are outside of our control, could have a
material adverse effect on us and our results of operations. Therefore, you should consider these risk factors with caution and
form your own critical and independent conclusions about the likely effect of these risk factors on our future performance. Forward-looking
statements speak only as of the date on which the statements are made, and we undertake no obligation, and expressly disclaim
any such obligation, to update any forward-looking statement for any reason other than as required by law, even if new information
becomes available or other events occur in the future. You should carefully review the disclosures and the risk factors described
in this and other documents we file from time to time with the Securities and Exchange Commission (the “SEC”). All
forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the
cautionary statements set forth herein.
PART
I
Item
1. Business.
Overview
Electromed,
Inc. (“we,” “our,” “us,” “Electromed” or the “Company”) develops,
manufactures, markets and sells innovative products that provide airway clearance therapy, including the SmartVest®
Airway Clearance System (“SmartVest System”) and related products, to patients with compromised pulmonary function
with a commitment to excellence and compassionate service. Our goal is to make High Frequency Chest Wall Oscillation (“HFCWO”)
treatments as effective, convenient, and comfortable as possible, so our patients can breathe easier and live better with improved
respiratory function and fewer exacerbations.
We
employ a direct-to-patient and provider model, through which we obtain patient referrals from clinicians, manage insurance claims
on behalf of our patients, and deliver the SmartVest System to patients, training them on proper use in their homes. This model
allows us to directly approach patients and clinicians, whereby we disintermediate the traditional durable medical equipment (“DME”)
channel and capture both the manufacturer and distributor margins. We also sell our products in the acute care setting for patients
in a post-surgical or intensive care unit, or who were admitted for a lung infection brought on by compromised airway clearance.
Electromed was incorporated in Minnesota in 1992. Our common stock is listed on the NYSE American under the ticker symbol “ELMD.”
The
SmartVest System features a programmable air pulse generator, a therapy garment worn over the upper body and a connecting hose,
which together provide safe, comfortable, and effective airway clearance therapy. The SmartVest System generates HFCWO, an airway
clearance therapy. One factor of respiratory health is the ability to clear secretions from airways. Impaired airway clearance,
when mucus cannot be expectorated, may result in labored breathing and/or inflammatory and immune systems boosting mucus production
that invites bacteria trapped in stagnant secretions to cause infections. Studies show that HFCWO therapy is as effective an airway
clearance method for patients who have compromised pulmonary function as traditional chest physical therapy (“CPT”)
administered by a respiratory therapist.1 However, HFCWO can be self-administered, relieving a caregiver of participation
in the therapy, and eliminating the attendant cost of an in-home care provider. We believe that HFCWO treatments are cost-effective
primarily because they reduce a patient’s risk of respiratory infections and other secondary complications that are associated
with impaired airway clearance and often result in costly hospital visits and repeated antibiotic use.
The
SmartVest System is designed for patient comfort and ease of use which promotes adherence to prescribed treatment schedules, leading
to improved airway clearance, patient outcomes and quality of life, and a reduction in healthcare utilization. We offer a broad
range of garments, referred to as vests and wraps, in sizes for children and adults that allow for tailored fit. User-friendly
controls allow patients to administer their daily therapy with minimal or no assistance. Our direct product support services provide
patient and clinician education, training, and follow-up to ensure that the product is integrated into each patient’s daily
treatment regimen. Additionally, our reimbursement department assures we are working on behalf of the patient by processing their
physician paperwork, providing clinical support and billing the applicable insurance provider. We believe that the advantages
of the SmartVest System and the Company’s customer services to the patient include:
● improved quality of life;
● reduction in healthcare utilization;
● independence from a dedicated caregiver;
● consistent treatments at home;
● improved comfort during therapy; and
1Nicolini
A, et al. Effectiveness of treatment with high-frequency chest wall oscillation in patients with bronchiectasis. BMC Pulmonary
Medicine. 2013;13(21).
1
Our
Products
Since
2000, we have marketed the SmartVest System and its predecessor products to patients suffering from bronchiectasis, cystic fibrosis,
and neuromuscular conditions such as cerebral palsy and amyotrophic lateral sclerosis (“ALS”). Our products are sold
into the home health care market and the acute care setting for patients in a post-surgical or intensive care unit, or who were
admitted for a lung infection brought on by compromised airway clearance. Accordingly, our sales points of contact include adult
pulmonology clinics, cystic fibrosis centers, neuromuscular clinics and hospitals.
We
have received clearance from the U.S. Food and Drug Administration (“FDA”) to market the SmartVest System to promote
airway clearance and improve bronchial drainage. In addition, Electromed is certified to apply the Conformité Européenne
(“European Conformity” or “CE”) marking for HFCWO device sales in all European Union member countries
and approved for HFCWO device sales in other, select international countries. The SmartVest System is available only with a physician’s
prescription.
The
SmartVest System is currently available in one model – SQL® – which is sold into home care and hospital
markets. We will continue to support and service earlier SmartVest models pursuant to the applicable product warranty.
As
part of our growth strategies, we periodically evaluate opportunities involving products and services, especially those that may
provide value to the respiratory homecare and institutional market. To that end, we made meaningful progress in the development
of our next generation SmartVest System during our fiscal year ended June 30, 2022 (“fiscal 2022”) and estimate launching
such device and completing the corresponding FDA 510(k) clearance process in the first half of our fiscal year ending June 30,
2023 (“fiscal 2023”).
The
SmartVest SQL System
The
SmartVest SQL System consists of an inflatable therapy garment, a programmable air pulse generator and a patented single-hose
that delivers air pulses from the generator to the garment. The SmartVest SQL is designed for maximum comfort and lifestyle convenience,
so patients can readily fit therapy into their daily routines. The SmartVest SQL was designed to be significantly smaller, quieter,
and lighter than its predecessor, and offers features that make it easier to use and enable greater patient freedom.
2
SmartVest
Connect
In
June 2017, we launched the SmartVest SQL with SmartVest Connect® wireless technology, a personalized HFCWO therapy
management portal for patients with compromised pulmonary function. In March 2020, we launched the SmartVest Connect app for both
the iOS and Android operating systems. The SmartVest Connect app securely connects to the SmartVest SQL System through
BluetoothTM technology. This interface allows patients and healthcare teams to track therapy in real-time and collaborate
on care decisions to improve therapy adherence and patient outcomes. SmartVest Connect is available to pediatric and cystic fibrosis
patients, and targeted adult pulmonary clinics using a Bluetooth-enabled SmartVest SQL System.
Other
Products
We
market the Single Patient Use (“SPU”) SmartVest and SmartVest Wrap® to health care providers in the
acute care setting. Hospitals issue the SPU SmartVest or SmartVest Wrap to an individual patient for managing airway clearance.
Both SPU products provide full coverage oscillation and facilitate continuity of care because they introduce the patient to our
product and may encourage use of the SmartVest System for home care, which can be provided to patients with a chronic condition
upon discharge.
Our
Market
We estimate the total served U.S. market for HFCWO has returned to pre-pandemic levels and is estimated at approximately $220 million to $240 million, with growth in HFCWO adoption at approximately 5% based on independent third-party market research. We believe the market for HFCWO is continuing to expand due to an aging population, higher incidence of chronic lung disease, growing awareness by physicians of diseases and conditions for which patients can benefit from using HFCWO therapy, and treatments moving to lower cost home care settings. Indications for when HFCWO may be prescribed are not specific to any one disease. A physician may elect to prescribe HFCWO when such individual believes the patient will benefit from improved airway clearance and external chest manipulation is the treatment of choice to enhance mucus transport and improve bronchial drainage.
The
SmartVest System is primarily prescribed for patients with bronchiectasis, cystic fibrosis, and neuromuscular conditions such
as cerebral palsy and ALS. We believe that bronchiectasis represents the fastest growing diagnostic category and greatest potential
for HFCWO growth in the United States exhibiting an 8.7% increase in patients diagnosed between 2000 and 20079. Bronchiectasis
is an irreversible, chronic lung condition characterized by enlarged and permanently damaged bronchi. The condition is associated
with recurrent lower respiratory infections, inflammation, reduction in pulmonary function, impaired respiratory secretion clearance,
increased hospitalizations and medication use, and increased morbidity and mortality.
We
are driven to make life's important moments possible, one breath at a time, by leading the HFCWO therapy market in clinical evidence
that supports the therapeutic imperative of clearing excess mucus from the lungs. Electromed continues to add to the body of evidence
in support of HFCWO with multiple published clinical outcome studies demonstrating a significant improvement in quality of life and reduction
in exacerbation rates, hospitalizations, emergency department visits, and antibiotic prescriptions in bronchiectasis patients using the
SmartVest System. This includes the most recent clinical study, a 2022 publication in the American Journal of Respiratory and Critical
Care Medicine reviewing outcomes among non-cystic fibrosis bronchiectasis patients with HFCWO Therapy.2-6 Generating additional
clinical evidence to further support the SmartVest System as a preferred treatment for bronchiectasis patients will remain a focus for
us in fiscal 2023, with two clinical studies in progress. The first such clinical study is a prospective, multi-center bronchiectasis
outcomes study utilizing SmartVest therapy, and the second is a post surveillance study with chronic obstructive pulmonary disease ("COPD")
and bronchiectasis patients prescribed SmartVest utilizing quality of life questionnaires to measure outcomes prior to therapy and at
two intervals following initiation of the therapy.
We
believe that bronchiectasis is under recognized and underdiagnosed but is experiencing a surge in clinical interest and awareness,
including the relationship to COPD, commonly referred to as bronchiectasis COPD overlap syndrome. The overlap of bronchiectasis
and COPD increases exacerbations and hospitalizations, reduces pulmonary function, and increases mortality. Several recent studies
have estimated prevalence of bronchiectasis, which we believe are helpful for estimating a range of the overall market size.
3
These
studies indicate a wide range of potential prevalence of bronchiectasis patients in the United States. We also believe that it is difficult
to estimate from these studies which patients will need or benefit from HFCWO. Internal company estimates derived from 2020 analysis
of the IQVIA PharMetrics Plus database, one of the largest US health plan databases of adjudicated integrated medical and pharmacy claims,
indicate a 15% to 20% penetration of HFCWO within the diagnosed Bronchiectasis population15. By conservatively assessing the
market size in relation to the clinical studies cited above, we calculate that current HFCWO adoption may account for only 90,000 patients
of the 500 to 600 thousand currently diagnosed and treatable patients (see Figure 1 below). We believe that bronchiectasis is underdiagnosed
in the U.S. based on clinical study and epidemiology evidence with an even greater number of patients that could potentially benefit
from diagnosis and treatment. We believe that HFCWO is under prescribed for bronchiectasis patients resulting in a large, underpenetrated
US market opportunity and growth potential for HFCWO therapy.
2Sievert
C, et al. Using High Frequency Chest Wall Oscillation in a Bronchiectasis Patient Population: An Outcomes-Based Case Review. Respiratory
Therapy Journal. 2016;11(4): 34–38.
3Sievert
C, et al. Cost-Effective Analysis of Using High Frequency Chest Wall Oscillation (HFCWO) in Patients with Non-Cystic Fibrosis
Bronchiectasis. Respiratory Therapy Journal. 2017;12(1): 45–49.
4Sievert
C, et al. Incidence of Bronchiectasis-Related Exacerbation Rates After High Frequency Chest Wall Oscillation (HFCWO) Treatment
— A Longitudinal Outcome-Based Study. Respiratory Therapy Journal. 2018;13(2): 38–41.
5Powner
J, et al. Employment of an algorithm of care including chest physiotherapy results in reduced hospitalizations and stability
of lung function in bronchiectasis. BMC Pulmonary Medicine. 2019;19(82).
6
DeKoven M, Mandia K, DeFabis N, Chen J, Ruscio A. Patient Characteristics, Healthcare Resource Utilization And Outcomes
Among Non-Cystic Fibrosis Bronchiectasis Patients With High Frequency Chest Wall Oscillation (HFCWO) Therapy. American Journal
of Respiratory and Critical Care Medicine. 2022. Vol 205:A3090
7Weycker
D, Hansen G, Seifer F. Prevalence and incidence of noncystic fibrosis bronchiectasis among US adults in 2013. Chronic Respiratory
Disease. 2017; 14(4):377-384.
8Henkle
E, et al. Characteristics and Health-care Utilization History of Patients with Bronchiectasis in US Medicare Enrollees With Prescription
Drug Plans, 2006 to 2014. Chest. 2018;154(6), 1311–1320.
9Seitz
A, et al. Trends in Bronchiectasis Among Medicare Beneficiaries in the United States, 2000 to 2007. Chest. 2012;142(2),
432–439.
10Aksamit
T, et al. Bronchiectasis Research Registry C. Adult Patients With Bronchiectasis: A First Look at the US Bronchiectasis Research
Registry. Chest. 2017;151:982-92.
11Patel
I.S., et al. Bronchiectasis, exacerbation indices, and inflammation in chronic obstructive pulmonary disease. Am J Respir Crit
Care Med. 2004;170:400-7.
12O’Brien
C, et al. Physiological and radiological characterization of patients diagnosed with chronic obstructive pulmonary disease in
primary care. Thorax. 2000;55:635-42.
13Bafadhel
M, et al. The role of CT scanning in multidimensional phenotyping of COPD. Chest. 2011;140:634-42.
14Chalmers
J. and Sethi S. Raising awareness of bronchiectasis in primary care: overview of diagnosis and management strategies in adults.
NPJ Prim Care Respir Med. 2017;27:18.
15
Internal company estimates derived from IQVIA 2018 PharMetrics Plus Database
4
Estimated
HFCWO Market Opportunity - Bronchiectasis Patients (U.S.) – Figure 1
The
heightened awareness of bronchiectasis speaks to the growing body of clinical evidence supporting treatments to improve symptoms
and manage disease progression.
Marketing,
Sales and Distribution
Our sales and marketing efforts are focused on driving adoption of our products and services with physicians, clinicians, patients, and third-party payers and building market awareness to the benefits of HFCWO for treatment of bronchiectasis. Because the sale of the SmartVest System requires a physician's prescription, we market to physicians and health care providers as well as directly to patients. The majority of our revenue comes from domestic home care sales through a physician referral model. We have established our own domestic sales force and support network, which we believe is able to provide superior education, support and training to our customers.
5
Our
direct U.S. sales force works with physicians and clinicians, primarily pulmonologists, in defined territories to help them understand
our products and services and the value they provide to their respective patients. As of June 30, 2022, we had 52 field sales
employees, including six regional sales managers, 43 clinical area managers (“CAMs”) and three clinical educators.
We also have developed a network of approximately 250 respiratory therapists and health care professionals across the U.S. to
assist with in-home SmartVest System patient training on a non-exclusive, independent contractor basis. These independent contractors
are credentialed by the National Board for Respiratory Care as either Certified Respiratory Therapists or Registered Respiratory
Therapists and provide national coverage to an internal team of Registered Respiratory Therapists dedicated to supporting SmartVest
patients. Additionally, Electromed employs a team of reimbursement specialists dedicated to managing insurance and payer relations
and supporting prescribers and patients in navigating financial considerations. The availability of reimbursement is an important
consideration for health care professionals and patients. Because our product has an assigned Healthcare Common Procedure Coding
System (“HCPCS”) code, a claim can be billed for reimbursement using that code. We must demonstrate the effectiveness
of our products to public and private insurance providers. The availability of reimbursement exists primarily due to an established
HCPCS code for HFCWO. A HCPCS code is assigned to services and products by the Centers for Medicare and Medicaid Services (“CMS”).
We
generate sales interest through multiple channels that include visits to pulmonology clinics and medical centers, participation
in medical conferences, maintenance of industry contacts to increase the visibility and acceptance of our products by physicians
and health care professionals, participation with patient organizations such as the Cystic Fibrosis Foundation, as well as through
a focus on increasing patients by word of mouth and traffic to our website and social media channels. We continue to evaluate
opportunities to offer the SmartVest System through selected Home Medical Equipment (“HME”) distributors. We maintain
agreements with three HME distributors, one national and two regional, to distribute and sell the SmartVest System in the United
States home care market. We expect to continue our direct sales channel as our primary homecare revenue source.
International
Marketing
Approximately
1.3% and 1.8% of our net revenues were from sales outside of the U.S. in our fiscal 2022 and our fiscal year ended June 30, 2021
(“fiscal 2021”), respectively. We sell our products outside of the U.S. primarily through independent distributors
specializing in respiratory products. Through June 30, 2022, the majority of our distributors operated in exclusive territories.
Our principal distributors are located in Europe, the Arab states of the Persian Gulf, Southeast Asia, South America and Central
America. Units are sold at a fixed contract price with payments made directly from the distributor, rather than being tied to
reimbursement rates of a patient’s insurance provider as is the case for domestic sales. Our sales strategy outside of the
U.S. is to maintain our current distributors with less emphasis on contracting with new distributors.
Third-Party
Reimbursement
In
the U.S., individuals who use the SmartVest System generally rely on third-party payers, including private payers and governmental
payers such as Medicare and Medicaid, to cover and reimburse all or part of the cost of using the SmartVest System. Our home care
revenue comes from reimbursement from commercial payers, Medicare, Medicaid, Veterans Affairs and direct patient payments. Reimbursement
for HFCWO therapy and the SmartVest System varies among public and private insurance providers.
A
key strategy to grow sales is achieving world class customer service and support for our patients and clinicians and increasing
the number of covered lives across a broad payer market. We do this with an established and effective reimbursement department
working on behalf of the patient by processing physician paperwork, seeking insurance authorization and processing claims. The
skill and knowledge gained and offered by our reimbursement department is an important factor in building our revenue and serving
patients’ financial interests. Our payment terms generally allow patients to acquire the SmartVest System over a period
of one to 15 months, which is consistent with reimbursement procedures followed by Medicare and other third parties. The payment
amount we receive for any single referral may vary based on a number of factors, including Medicare and third-party reimbursement
processes and policies. The patient retains the risk of reimbursement to the Company in the event of non-payment by third-party
payers. The reimbursement department includes the payer relations function working directly with all payer types to increase the
covered lives for the SmartVest System with national and regional private insurers and applicable state and federal government
entities as well as to maintain all of the current licenses with state and federal government and payer contracts.
6
Our
SmartVest System is reimbursed under HCPCS code E0483. Currently, the Medicare total allowable amount of reimbursement for this
billing code is approximately $13,000. The allowed amount for state Medicaid programs ranges from approximately $8,000 to $13,000,
which is similar to commercial payers. Actual reimbursement from third-party payers can vary and can be significantly less than
the full allowable amount. Deductions from the allowable amount, such as co-payments, deductibles and/or maximums on durable medical
equipment, decrease the reimbursement received from the third-party payer. Collecting a full allowable amount depends on our ability
to obtain reimbursement from the patient’s secondary and/or supplemental insurance if the patient has additional coverage,
or our ability to collect amounts from individual patients.
Most
patients are able to qualify for reimbursement and payment from Medicare, Medicaid, private insurance or combinations of the foregoing.
We expect that subsequent generations of HFCWO products also will qualify for reimbursement under Medicare and most major
health plans. However, some third-party payers must also approve coverage for new or innovative devices or therapies before they
will reimburse health care providers who use the medical devices or therapies. In addition, we face the risk that new or modified
products could have a lower reimbursement rate, or that the levels of reimbursement currently available for our existing products
could decrease, which would hamper our ability to market and sell that product. Consequently, our sales will continue to depend
in part on the availability of coverage and reimbursement from third-party payers, even though our devices may have been cleared
for marketing by the FDA. The manner in which reimbursement is sought and obtained varies based upon the type of payer involved
and the setting in which the procedure is furnished.
In
response to the COVID-19 pandemic and the U.S. federal government’s declaration of a public health emergency in March 2020,
CMS implemented a number of temporary rule changes and waivers to allow prescribers to best treat patients during the period of
the public health emergency. These waivers are retroactively effective to March 1, 2020. Clinical indications and documentation
typically required will not be enforced for respiratory related products including the SmartVest System (solely with respect to
Medicare patients). The minimum documentation now requires a valid order and documentation of a respiratory-related diagnosis.
Face-to-face and in-person requirements for respiratory devices are being waived while the
waiver is in place. The CMS waiver was recently extended in conjunction with the extension of the federal public health emergency
for an additional 90-day period beginning July 15, 2022.
Research
and Development
Our
research and development (“R&D”) capabilities consist of full-time engineering staff and several consultants.
We periodically engage consultants and contract engineering employees to supplement our development initiatives. Our team has
a demonstrated record of developing new products that receive the appropriate product approvals and regulatory clearances around
the world.
During
fiscal 2022 and 2021, we incurred R&D expenses of approximately $1,356,000 and $1,722,000, or 3.3% and 4.8% of our net revenues,
respectively. As a percentage of sales, we expect spending on R&D expenses to decrease significantly during fiscal 2023 as
compared with fiscal 2022, as we conclude the design and testing of our next generation device in preparation for an anticipated
product launch during the first half of fiscal 2023. Product enhancements were driven by voice of customer survey and in-person
information focused on patient useability and device portability. We also estimate that the next generation product will be a lower
cost of goods compared to the SmartVest SQL.
Intellectual
Property
As
of June 30, 2022, we held 13 United States and 43 foreign-issued patents covering the SmartVest System and its underlying technology
and had 13 pending United States and foreign patent applications. These patents and patent applications offer coverage in the
field of air pressure pulse delivery to a human in support of airway clearance.
We
generally pursue patent protection for patentable subject matter in our proprietary devices in foreign countries that we have
identified as key markets for our products. These markets include the European Union, Japan, and other countries.
7
We
also have received 10 U.S. and 100 foreign trademark and service mark registrations.
Manufacturing
Our
headquarters in New Prague, Minnesota includes a dedicated manufacturing and engineering facility of more than 14,000 square feet,
and we are certified on an annual basis to be compliant with International Organization for Standardization (“ISO”)
13485 quality system standards. Our site has been audited regularly by the FDA and ISO, in accordance with their practices, and
we maintain our operations in a manner consistent with their requirements for a medical device manufacturer. While components
are outsourced to meet our detailed specifications, each SmartVest System is assembled, tested, and approved for final shipment
at our manufacturing site in New Prague, consistent with FDA, Underwriters Laboratory, and ISO standards. Many of our strategic
suppliers are located within 100 miles of our headquarters, which enables us to closely monitor our component supply chain. We
maintain established inventory levels for critical components and finished goods to assure continuity of supply. During fiscal
2022 we experienced longer lead times for critical electronic components related to worldwide supply shortages due to COVID-19
and the related U.S. and global economic recovery. We did not experience any material disruptions to customer shipments in fiscal
2022.
Product
Warranties
We
provide a warranty on the SmartVest System that covers the cost of replacement parts and labor, or a new SmartVest System in the
event we determine a full replacement is necessary. For each home care SmartVest System initially purchased and currently located
in the U.S. and Canada, we provide a lifetime warranty to the individual patient for whom the SmartVest System is prescribed.
For sales to institutions and HME distributors within the U.S., and for all international sales, except Canadian home care, we
provide a three-year warranty.
Competition
The
original HFCWO technology was licensed to American Biosystems, Inc. (now part of Hill-Rom Holdings, Inc.) (“Hillrom”),
which, until the introduction of our original MedPulse Respiratory Vest System® in 2000, was the only manufacturer
of a product with HFCWO technology cleared for market by the FDA (Hillrom’s The Vest® Airway Clearance System).
Respiratory Technologies, Inc. (now RespirTech, part of Koninklijke Phillips N.V.) received FDA clearance to market their HFCWO
product, the inCourage® Airway Clearance Therapy in 2005. Both Hillrom and RespirTech employ a direct-to-patient
model, with RespirTech additionally offering its HFCWO device through selected DME distributors.
The
AffloVest® from Tactile Systems Technology Inc. (“Tactile Medical”) also participates in the same market
as our SmartVest System. Tactile Medical primarily sells its device through DME companies who distribute home care medical devices
and supplies. Based on annual revenue, we estimate that Hillrom maintains the highest market share in HFCWO followed by RespirTech
with Electromed in the third position.
Alternative products
for administering pulmonary therapy include: Positive Expiratory Pressure, Intrapulmonary Percussive Ventilation, CPT and breathing
techniques. Physicians may prescribe some or all of these devices and techniques, depending upon each patient's health status,
severity of disease, compliance, or personal preference.
Key
drivers of HFCWO product sales continue to be clinical and cost-effective evidence, technology innovations including wireless
connectivity, and HFCWO patient experience benefits such as size, weight of the generator, and product reputation. We believe
we distinguish ourselves in these areas with competitive advantages over alternative treatments ultimately improving the patient
comfort, ease of use, and the effectiveness of HFCWO treatment. Because HFCWO is not “technique dependent,” as compared
to most other alternative pulmonary therapy products, therapy remains consistent and controlled for the duration of treatment.
Governmental
Regulation
Medicare
and Medicaid
Recent government and
private sector initiatives in the U.S. and foreign countries aim at limiting the growth of health care costs including: price regulation, competitive pricing,
coverage and payment policies, comparative effectiveness of therapies, technology assessments, and managed-care arrangements. These
initiatives are causing the marketplace to put increased emphasis on the delivery of more cost-effective medical devices that result in
better clinical outcomes. Government programs, including Medicare and Medicaid, have attempted to control costs by limiting the amount of
reimbursement the program will pay for particular procedures or treatments, restricting coverage for certain products or services, and
implementing other mechanisms designed to constrain utilization and contain costs. Many private insurance programs look to Medicare as a
guide in setting coverage policies and payment amounts. These initiatives have created an increasing level of price sensitivity among our customers.
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Home
Medical Equipment Licensing
Although
we do not fall under competitive bidding for Medicare, we often must satisfy the same licensing requirements as other DME providers
that qualify for competitive bidding. In response to out-of-state businesses winning the competitive bidding process, which had
a significant impact on small local DME businesses, many states have enacted regulations that require a DME provider to have an
in-state business presence, specifically through state HME licensing boards or through state Medicaid programs. In order to do
business with any patients in the state or to be a provider for the state Medicaid program, a DME provider must have an in-state
presence. In addition to Minnesota, the location of our corporate headquarters, we have a licensed in-state presence in three
other states. We also maintain an in-state presence in California in order to meet their state Medicaid requirements. In-state
presence requirements vary from state to state, but generally require a physical location that is staffed and open during regular
business hours. We are licensed to do business in all states except for Alaska and Hawaii.
Product
Regulations
Our
medical devices are subject to regulation by numerous government agencies, including the FDA and comparable foreign regulatory
agencies. To varying degrees, each of these agencies requires us to comply with laws and regulations governing the development,
testing, manufacturing, labeling, marketing, and distribution of our medical devices, and compliance with these laws and regulations
entails significant costs for us. Our regulatory and quality assurance departments provide detailed oversight in their areas of
responsibility to support required clearances and approvals to market our products.
In
addition to the clearances and approvals discussed below, we obtained ISO 13485 certification in January 2005 and receive annual
certification of our compliance to the current ISO quality standards.
FDA
Requirements
We
have received clearance from the FDA to market our products, including the SmartVest System. We may be required to obtain additional
FDA clearance before marketing a new or modified product in the U.S., either through the 510(k) clearance process or the more
complex premarket approval process. The process may be time consuming and expensive, particularly if human clinical trials are
required. Failure to obtain such clearances or approvals could adversely affect our ability to grow our business.
Continuing
Product Regulation
In
addition to its approval processes for new products, the FDA may require testing and post-market surveillance programs to monitor
the safety and effectiveness of previously cleared products that have been commercialized and may prevent or limit further marketing
of products based on the results of post-mark surveillance results. At any time after marketing clearance of a product, the FDA
may conduct periodic inspections to determine compliance with both the FDA’s Quality System Regulation (“QSR”)
requirements and current medical device reporting regulations. Product approvals by the FDA can be withdrawn due to failure to
comply with regulatory standards or the occurrence of unforeseen problems following initial market clearance. The failure to comply
with regulatory standards or the discovery of previously unknown problems with a product or manufacturer could result in fines,
delays or suspensions of regulatory clearances, seizures or recalls of products (with the attendant expenses), the banning of
a particular device, an order to replace or refund the cost of any device previously manufactured or distributed, operating restrictions
and criminal prosecution, as well as decreased sales as a result of negative publicity and product liability claims.
We
must register annually with the FDA as a device manufacturer and, as a result, are subject to periodic FDA inspection for compliance
with the FDA’s QSR requirements that require us to adhere to certain extensive regulations. In addition, the federal Medical
Device Reporting regulations require us to provide information to the FDA whenever there is evidence that reasonably suggests
that a device may have caused or contributed to a death or serious injury or, if a malfunction were to occur, could cause or contribute
to a death or serious injury. We also must maintain certain certifications to sell products internationally, and we undergo periodic
inspections by notified bodies to obtain and maintain these certifications.
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Advertising
and marketing of medical devices, in addition to being regulated by the FDA, are also regulated by the Federal Trade Commission
and by state regulatory and enforcement authorities. Recently, promotional activities for FDA-regulated products of other companies
have been the subject of enforcement action brought under health care reimbursement laws and consumer protection statutes. Competitors
and others also can initiate litigation relating to advertising and/or marketing claims. If the FDA were to determine our promotional
or training materials constitute promotion of an unapproved or uncleared claim of use, it is possible we would need to modify
our training or promotional materials or be subject to regulatory or enforcement actions that could result in civil fines or criminal
penalties. Other federal, state or foreign enforcement authorities could also take similar action if they were to determine that
our promotional or training materials constitute promotion of an unapproved use, which could result in significant fines or penalties.
European
Union and Other Regions
European
Union rules require that medical products receive the right to affix the CE mark, demonstrating adherence to quality standards
and compliance with relevant European Union Medical Device Directives (“MDD”). Products that bear CE mark can be imported
to, sold or distributed within the European Union. We obtained clearance to use the CE mark on our products in April 2005. Renewal
of CE marking is required every five years, and our notified body performs an annual audit to ensure that we are in compliance
with all applicable regulations. We have maintained our CE marking in good standing since originally receiving it and most recently
renewed it in January 2020. The renewal of our MDD certificate will allow us to continue to CE mark and sell our SmartVest SQL
device, with no substantial changes, in the European Union until the certificate expires in May 2024. We are currently working
on finalizing updates to the quality system to achieve full compliance with Regulation (EU) 2017/745 (EU MDR) which came into
effect in May 2021. We also require all of our distributors in the European Union and other regions to comply with their home
country regulations in our distributor agreements.
Federal
Physician Payments Sunshine Act
The
Federal Physician Payments Sunshine Act (Section 6002 of the PPACA) (the “Sunshine Act”) was adopted on February 1,
2013, to create transparency for the financial relationship between medical device companies and physicians and/or teaching hospitals
(covered recipients). In January 2021, the Sunshine Act was expanded to cover payments made to these additional covered recipients,
physician assistants, nurse practitioners, clinical nurse specialists, certified nurse anesthetists, and certified nurse midwives. The
Sunshine Act requires all manufacturers of drugs and medical devices to annually report to CMS any payments or any other “transfers
of value” made to any covered recipients, including but not limited to consulting fees, grants, clinical research support,
royalties, honoraria, meals, and value of long-term use (over 90 days) of evaluation equipment. This information is then posted
on a public website so that consumers can learn how much was paid to their physician by drug and medical device companies. The
Sunshine Act requires ongoing data collection and annual management and reporting by us and imposes civil penalties for manufacturers
that fail to report timely, accurately, or completely to CMS.
Fraud
and Abuse Laws
Federal
health care laws apply to the marketing of our products and when we or our customers submit claims for items or services that
are reimbursed under Medicare, Medicaid or other federally funded health care programs. The principal applicable federal laws
include:
10
There
are often similar state false claims, anti-kickback, and anti-self-referral and insurance laws that apply to state-funded Medicaid
and other health care programs and private third-party payers. In addition, the U.S. Foreign Corrupt Practices Act can be used
to prosecute companies in the U.S. for arrangements with physicians, or other parties outside the U.S. if the physician or party
is a government official of another country and the arrangement violates the law of that country. Enforcement of all of these
regulations has become increasingly stringent, particularly due to more prevalent use of the whistleblower provisions under the
False Claims Act, which allow a private individual to bring actions on behalf of the federal government alleging that the defendant
has submitted a false claim to the federal government and to share in any monetary recovery. If a governmental authority were
to conclude that we are not in compliance with applicable laws and regulations, we and our officers and employees could be subject
to severe criminal and civil penalties and disbarment from participation as a supplier of product to beneficiaries covered by
Medicare or Medicaid.
HIPAA,
HITECH and Other Privacy Regulations
Federal
and state laws protect the confidentiality of certain patient health information, including patient records, and restrict the
use and disclosure of such information. The Health Insurance Portability and Accountability Act of 1996 and its implementing regulations
(“HIPAA”) and the Health Information Technology for Economic and Clinical Health Act (“HITECH”) set forth
privacy and security standards that govern the use and disclosure of protected electronic health information by “covered
entities,” which include healthcare providers, health plans and healthcare clearinghouses. Because we provide our products
directly to patients and bill third-party payers such as Medicare, Medicaid, and insurance companies, we are a “covered
entity” and must comply with these standards. Failure to comply with HIPAA and HITECH or any state or foreign laws regarding
personal data protection may result in significant fines or penalties and/or negative publicity. In addition to federal regulations
issued under HIPAA and HITECH, some states have enacted privacy and security statutes or regulations that, in some cases, are
more stringent than those issued under HIPAA and HITECH. In those cases, it may be necessary to modify our planned operations