ITEM 7 — MANAGEMENT’S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion and analysis of our
financial condition and results of operations should be read together with our audited financial statements and the related notes and
other financial information included in Part II: ITEM 8 —
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA of this Annual Report. Some of the information contained in this discussion
and analysis or set forth elsewhere in this Annual Report, including information with respect to our plans and strategy for our business,
includes forward-looking statements that involve risks and uncertainties. One should review Part I: ITEM 1A — RISK FACTORS
of this Annual Report for a discussion of some of the important factors that could cause actual results to differ materially from
the results, objectives or expectations described in or implied by the forward-looking statements contained in the following discussion
and analysis.
OUTLINE TO ITEM 7 – MANAGEMENT’S DISCUSSION AND
ANALYSIS OF FINANCIAL CONDITION AND RESULTES OF OPERATIONS
- Liquidity and Capital Resources
- Results of Operations
- Critical Accounting Policies
Liquidity and Capital Resources
Net cash used for operating activities was $4.7
million during the year ended December 31, 2023 in comparison to net cash used for operating activities of $1.5 million during the year
ended December 31, 2022. The $3.1 million increase in cash used for operating activities during the year ended December 31, 2023 compared
to the year ended December 31, 2022 was largely caused by the $3.3 million increase in the net loss which was, in turn, largely the result
of $3.8 million less gross margin being earned during 2023, due to the production contamination events discussed below. Approximately
$1.4 million less cash was received from the collection of accounts receivable, which was largely offset by $1.2 million less cash being
invested in inventory during the year ended December 31, 2023 compared to the prior year. Our inventory balance increased by $1.8 million
to $7.8 million as of December 31, 2023 from $6 million as of December 31, 2022. Our total depreciation and amortization expense was approximately
$2.7 million and $2.5 million during the years December 31, 2023 and 2022, respectively. We anticipate that depreciation expense, while
not affecting our cash flows from operations, will be a significant factor in creating annual net operating losses until and unless product
sales increase sufficiently to offset these non-cash expenses. Net cash used for investing activities was $1.9 million during the year
ended December 31, 2023 in comparison to net cash used for investing activities of $4 million during the year ended December 31, 2022
consisting primarily of cash spent to fund the purchase of property, plant and equipment.
Net cash provided by financing activities increased
to $1.8 million during the year ended December 31, 2023 in comparison to net cash provided by financing activities of $1.1 million during
the year ended December 31, 2022. We received gross debt proceeds of $3 million and $2 million during the years ended December 31, 2023
and 2022, respectively. We had aggregate debt outstanding (net of debt issuance and debt discount costs) of approximately $12 million
and $10.2 million as of December 31, 2023 and 2022, respectively. This debt bears interest at fixed rates. The blended interest rate on
the debt outstanding as of December 31, 2023 and 2022 is 4.51% and 3.65% per annum, respectively. Debt principal repayments aggregated
$1.2 million and $897,000 during the years ended December 31, 2023 and 2022, respectively. We anticipate that debt principal repayments
will aggregate approximately $1.5 million during both of the years ending December 31, 2024 and 2025. Interest expense (including amortization
of debt issuance and debt discount costs) was $476,000 and $349,000 during the years ended December 31, 2023 and 2022, respectively. We
anticipate that interest expense (including amortization of debt issuance and debt discount costs) will be $563,000 and $492,000 during
the years ending December 31, 2024 and 2025, respectively. During the first quarter of 2024, the availability of our $1.0 million line
of credit, which bears interest at the National Prime Rate per annum, was extended until September 11, 2025. There was no outstanding
balance under this line of credit as of December 31, 2023 or 2022. See Note 10 to the accompanying audited financial statements for more
information about our bank debt.
23
ImmuCell Corporation
From the first quarter of 2016 through the second
quarter of 2021, we raised gross proceeds of $26.7 million (net proceeds were $24.8 million) from six different common equity transactions
priced between $5.25 and $8.25 per share with a weighted average price of $5.87 per share. No warrants were issued in connection with
any of these transactions, and no convertible or preferred securities were issued. This capital, together with our bank debt and gross
margin from product sales, has allowed us to transform the Company. Based on our best estimates and projections, we believe that our cash
and cash equivalents, together with gross margin anticipated to be earned from ongoing product sales will be sufficient to meet our currently
planned working capital and capital expenditure requirements and to finance our ongoing business operations for at least 12 months (which
is the period of time required to be addressed for such purposes by accounting disclosure standards) from the date of this filing. The
table below summarizes the changes in selected, key accounts (in thousands, except for percentages):
As of December 31, As of December 31, (Decrease) Increase
We have invested and continue to invest in several different capital
expenditure projects to increase our estimated annual full production capacity for the First Defense® product line
from approximately $16.5 million to approximately $40 million and to complete the development of Re-Tain®. When
we describe the production capacity for the First Defense® product line in this Annual Report, it should be noted
that the actual value of this capacity varies based on biological and process yields, product format mix, selling price and other factors.
During the three-year period ended December 31,
2016, we invested the aggregate of $4.2 million to construct a 7,100 square foot facility addition at 56 Evergreen Drive and related equipment
(primarily Freeze-Dryer #2) and cold storage capacity increasing our freeze-drying capacity by 100% and making other improvements to our
liquid processing capacity, which increased our annual production capacity (in terms of annual sales dollars) to approximately $16.5 million.
During the first quarter of 2016, we completed this investment, which also included the construction and equipping of a pilot plant for
small-scale DS production for Re-Tain® within our First Defense® production facility at 56
Evergreen Drive. After construction of the DS production facility for Re-Tain® at 33 Caddie Lane (described in the
next paragraph) was completed, this space was converted for use in the production of the gel tube formats of the First Defense®
product line. After construction of Building 175A (described below) was completed, this space was converted to double our liquid
processing capacity.
During the four-year period ended December 31,
2018, we invested the aggregate of $21.6 million to construct a DS production facility for Re-Tain® at 33 Caddie
Lane. During the fourth quarter of 2017, we completed construction of the DS production facility. We began equipment installation during
the third quarter of 2017, and we completed this installation during the third quarter of 2018. The total cost of this investment for
the DS production facility and related processing equipment was $20.8 million plus $331,000 for the land and $472,000 for the acquisition
of an adjacent 4,080 square foot warehouse facility at 14 Wedge Way, which will be used for packing, shipping and cold storage of Re-Tain®
and other warehousing needs.
During 2019, we initiated several additional
capital expenditure investments in First Defense® and Re-Tain® as detailed in the following
table (in thousands):
Paid During First Defense® Re-Tain® Other Total
24
ImmuCell Corporation
The primary purpose of the additional investment
in First Defense® is to fulfill the current backlog and materially reduce the risk of another order backlog. Operating
at very close to 100% of available capacity is not efficient or sustainable. Our objective is to be in position to operate without significant
contaminations at the capacity level we choose to cover sales with adequate buffer stock, which would allow more time for necessary preventative
maintenance, and to have redundancy in place for when equipment failures occur. In addition to running without significant product contaminations
or equipment failures, we need to meet or exceed our production yield assumptions to succeed.
The first phase of the additional investments
in First Defense® included significant renovations to a 14,300 square foot leased facility at 175 Industrial Way
(Building 175A), some facility modifications at 56 Evergreen Drive and the necessary production equipment (including Freeze-Dryer
#3) to increase our freeze-drying capacity by 50% and our liquid processing capacity by 100%. This resulted in increasing the annual production
capacity of the First Defense® product line (in terms of annual sales dollars) from approximately $16.5 million
to approximately $23 million. Renovations of Building 175A to enable this expansion were completed during the second quarter of
2020. By moving our powder and gel filling and assembly services from 56 Evergreen Drive into this new space, we created space at 56 Evergreen
Drive for the installation of the expanded freeze-drying capacity. The new facilities are built to contemporary current Good Manufacturing
Practices (cGMP) standards with efficient material and people flows. A site license approval for this new facility was issued by the USDA
during the third quarter of 2020. During the second quarter of 2021, we completed the relocation of our gel formulation equipment from
56 Evergreen Drive to Building 175A, which created the space necessary to double our liquid processing capacity at 56 Evergreen
Drive. We obtained site license approval of the expanded freeze-drying capacity (Freeze-Dryer #3) at 56 Evergreen Drive from the USDA
during the third quarter of 2021, and we obtained site license approval of the expanded liquid processing capacity at 56 Evergreen Drive
from the USDA during the third quarter of 2022. This investment also included equipment and vehicle investments necessary to expand and
improve our colostrum collection capabilities and logistics.
The
second phase of the additional investments in First Defense® included the installation of Freeze-Dryer #4 to further
increase the estimated annual production capacity of the First Defense® product line (in terms of annual sales dollars)
by an additional 33% from approximately $23 million to approximately $30 million. Due to supply disruptions affecting key components and
equipment, this investment was not completed until the end of 2022. This investment also includes equipment and facility modifications
to scale-up and upgrade our vaccine manufacturing capacity, improve our quality laboratories and install new equipment for our gel filling
operations for First Defense®
at 56 Evergreen Drive and Building 175A. This phase included the automation of our gel filling operations.
The third phase of the additional investments
in First Defense® involves the initiation of a new
investment in building modifications and equipment to further increase our estimated annual First Defense® production
capacity from approximately $30 million to approximately $40 million with options for further expansion. Given the long lead time required
for investments like this, we initiated this project by entering into a lease amendment during the third quarter of 2022 covering a to-be-constructed
15,400 square foot building shell connected to Building 175A for approximately $250,000 per year. Construction of the building
shell by our landlord was substantially complete as of April 1, 2023, and rent payments commenced as of August 1, 2023. We made this lease
commitment because of the unique proximity of the land adjacent to our currently leased space and the high level of demand for properties
of this type in the Portland market. We did not want to risk losing this opportunity to others. The anticipated benefits to us from this
new lease include: i) space for the potential to install Freeze-Dryers #5, #6, #7 and #8 if justified by market demand in the future,
ii) improved space and quality for our powder milling operations by separating our upstream processes (liquid processing) at 56 Evergreen
Drive from our clean downstream processes (milling, formulation, filling and packaging) and iii) much needed additional warehouse space.
Freeze-Dryer #5 is the key piece of equipment required to allow us to increase our estimated annual production capacity to above $30 million.
Based on past experience, we are planning for approximately 18 to 24 months of lead time for fabrication, installation, qualification
and implementation of Freeze-Dryer #5. We have been running our equipment and staff close to 100% of capacity in order to fill the backlog
of orders. One of our objectives is to create a more sustainable production schedule. However, due to the loss in gross margin during
2023 caused by the slowdown in production output necessary to remediate the product contamination events discussed below, we have decided
to defer most of this investment, for the time being. During the third quarter of 2023, we initiated the initial steps of this project
with a budget of approximately $700,000. We completed this work during the first quarter of 2024, which will provide additional warehousing
space and allow us to move all shipping and receiving functions out of 56 Evergreen Drive to create more space for liquid processing.
In consideration for our landlord agreeing to pay for the cost of those certain tenant improvements, we are obligated to make additional
rent payments of $20,000 per month from November 2023 through June 2024 and a one-time additional rent payment of $488,743 in July 2024.
25
ImmuCell Corporation
The purpose of the additional investments in
Re-Tain® is to bring the formulation and aseptic filling capabilities for Re-Tain® DP into
available space in our DS facility to end our reliance on third-party DP manufacturing services as well as to build out warehouse space
at 14 Wedge Way for packing and shipping facilities for Re-Tain®. We began initial installation of the filling equipment
during the first quarter of 2022. Then we paused this installation work pending concurrence with the FDA pertaining to our third submission
of the Chemistry, Manufacturing and Controls (CMC) Technical Section, which is discussed in greater detail below. Due to the loss in gross
margin during 2023 caused by the slowdown in production output necessary to remediate the product contamination events discussed below,
we have decided to defer the spending of approximately $2 million of these funds, for the time being. At the same time, we are investigating
other potential relationships with contract manufacturers that might do this work for us so that we can avoid this use of funds. If we
decide to resume the in-house strategy, we would anticipate FDA approval of this facility (which is a requirement for commercial manufacturing)
at least two years after we resume spending on this project.
During the third quarter of 2016, the City of
Portland approved a Tax Increment Financing (TIF) credit enhancement package that reduces the real estate taxes on our DS production facility
for Re-Tain® by 65% over the eleven-year period beginning on July 1, 2017 and ending June 30, 2028 and by 30% during
the year ending June 30, 2029, at which time the rebate expires. During the second quarter of 2017, the TIF was approved by the Maine
Department of Economic and Community Development. The value of the tax savings will increase (decrease) in proportion to any increases
(decreases) in the assessment of the building for city real estate tax purposes or the City’s tax rate. The following table discloses
how much of the new taxes we have generated is being relieved by the TIF and how much we are paying:
Results of Operations
Business Segments
As detailed
in Note 17, “Segment Information”, to the accompanying audited financial statements, we operate in two business segments.
The Scours segment is dedicated to manufacturing and selling First Defense®, a
product used to prevent scours in newborn calves, which is regulated by the United States Department of Agriculture (USDA). The Mastitis
segment is focused on developing and commercializing Re-Tain®, a product to treat
subclinical mastitis in lactating dairy cows, which is regulated by the United States Food and Drug Administration (FDA).
Production Capacity Increase, Product Contamination and Related
Events
During 2018, it became clear that demand for
Tri-Shield First Defense® was outpacing production. In response to this increasing demand, we began a series of
investments during 2019 to increase our production capacity for the First Defense® product line to an estimate of
approximately $30 million per year. Over recent years, we have invested more than $12.4 million to increase our production capacity to
meet the still-growing demand. This investment in equipment and facilities represents approximately 50% of our stockholders’ equity
as of December 31, 2023. Although we have not yet been able to achieve our production output goals, we remain deeply committed to continuing
to supply First Defense® to the market over the long term, despite the current short supply. Our production process
is a very complicated one, which makes it difficult to scale-up quickly. We can’t just flip a switch and pump out more widgets.
26
ImmuCell Corporation
The past year or so has been considerably challenging
for us. As of July 2022, we had completed almost all of the facility expansion work and new equipment installations needed to significantly
increase our production capacity. However, the most critical piece of new equipment (being Freeze-Dryer #4) was delivered six months late
by the fabricator. As this increased production capacity was coming online, a product contamination event was detected by standard in-process
quality control testing around the end of the third quarter of 2022. Scrapped product from contamination events and other production process
losses during 2022 (largely due to the contamination event around the end of the third quarter) resulted in a total charge to costs of
goods sold of $589,000 during 2022. We took immediate steps to address the contamination, and production ran without issue during the
balance of the fourth quarter of 2022. By the end of 2022, we had Freeze-Dryer #4 approved for use by the USDA. Just as we began to operate
at this higher level of capacity at the beginning of 2023, we were forced to slow down production to remediate a second contamination
event related to our incoming raw material. In response to this contamination event, we slowed down our production output as we took the
necessary steps to assess and remediate the issues to ensure that any product that is released to market continues to meet all quality
standards. At the same time, Freeze-Dryer #2 stopped operating requiring a six-month repair, netting us back to three operating freeze
dryers. As of early July 2023, we were back to four operating freeze dryers, and we believed that the contamination events were largely
behind us. We subsequently experienced a third contamination event in September 2023 impacting two lots of work-in-progress inventory.
Although all of the incoming material utilized in this production phase had passed quality control testing, the product failed the quality
control tests later in the production process. The production pause necessary to remediate the problem reduced our production output during
September and October of 2023. Scrapped product from contamination events and other production process losses during 2023 resulted in
a total charge to costs of goods sold of $527,000 during 2023.
The production slowdown during the first ten
months of 2023, has, in part, caused an increase in the amount of our order backlog from approximately $2.5 million as of December 31,
2022 to approximately $9.4 million as of December 31, 2023. This backlog increased further to $10.3 million as of March 8, 2024. We cannot
be certain that this backlog will be converted to sales because it includes orders that were placed months ago, redundancy in demand and
orders that may be cancelled. We believe that the ongoing implementation of our capacity expansion plans and the corrective actions being
taken in response to these contamination events should allow us to operate without further significant contaminations going forward with
estimated annual production capacity of approximately $30 million during the latter part of the fourth quarter of 2023 and into 2024.
While we produced far less than we needed during 2023, we believe that our remediation efforts are allowing us to steadily ramp back up
to full production capacity. With the positive trend in our quality control test results described above, we are building back production.
As we resume full production, our goal is to be able to produce at least $6 million or more worth of product per quarter, which would
annualize to about 80% or more of our estimated $30 million annual production capacity. Finished goods produced increased steadily from
approximately $3.3 million to $4 million and further to $5.3 million during the first, second and third quarters of 2023, respectively,
before dropping modestly to $5.1 million during the fourth quarter of 2023. The output levels achieved during the months of November and
December of 2023 annualize to approximately $26.8 million, which equates to an average quarterly production of approximately $6.7 million.
Since February of 2023, we have been pursuing
an insurance claim under our business interruption policy to offset a small portion of the losses that we have incurred related to at
least three different product contamination events. While our financial losses are far larger, we are seeking a $750,000 insurance benefit.
To date, we have received $250,000. The balance of this claim is under review by our underwriter. We cannot estimate the likelihood of
our success with this claim.
The increase in sales demand for First Defense®
is both exciting and challenging for us. The learnings from the remediation of the contamination events have improved our production processes
going forward. We have implemented several important improvements at the source farm level including more product and environmental testing,
more training of farm staff and better enforcement of our protocols. While we never release product to the market that does not pass our
final quality control release tests, we had allowed product to advance in the production process at risk, while the in-process quality
control tests were being performed. We no longer advance product to the next stage before the complete quality control test results are
known. While this does add time to the production cycle, we believe that it has helped us reduce further contaminations. Notwithstanding
the challenges that contamination events have posed for us, we are excited to be approaching both our estimated full capacity of approximately
$30 million per year for First Defense® (with a flex option to increase our estimated full capacity to approximately
$40 million per year in the future) while, at the same time, advancing to the final stages of a very significant FDA product development
initiative with Re-Tain®.
27
ImmuCell Corporation
Product Sales
Our near-term goal is to increase and stabilize
supply, regain lost business and re-establish our growth curve. However, the 2023 production shortage caused largely by certain contamination
events may prove to be more detrimental to our growth curve than any prior production shortage because it impacted more customers for
a longer period of time. Through continued growth in sales of the First Defense® product line, and the dedication
of additional resources to production, sales, marketing and technical services, it is our objective to exceed our total product sales
of approximately $17.5 million and $18.6 million achieved during the years ended December 31, 2023 and 2022, respectively, as soon as
possible. Our longer-term goal is to exceed $35 million of annual total product sales as soon as possible during the four-year period
after the market launch of Re-Tain®. We
do not solely benchmark our sales expectations off trailing twelve-month sales results. Instead, we look at the sales of competitive products
to assess the size of the addressable market and plan for growth when projecting our future production capacity needs.
The production slowdown necessary to remediate the
contamination events described above resulted in significantly reduced sales during the first ten months of 2023. During this period of
short supply when we have been selling product as soon as it is produced, our sales are less impacted by the historically high seasonality
during the first quarter of each year. Sales during the three-month period ended March 31, 2023 were $3.45 million, representing a 12%,
or $464,000, decrease from sales of $3.9 million during the fourth quarter of 2022. Sales during the three-month period ended June 30,
2023 were $3.53 million, representing a 2%, or $86,000, increase over sales during the first quarter of 2023. Sales during the three-month
period ended September 30, 2023 were $5.4 million, representing a 53%, or $1.9 million, increase over sales during the second quarter
of 2023. Sales during the three-month period ended December 31, 2023 were $5.1 million, representing a 6%, or $301,000, decrease from
sales during the third quarter of 2023. Sales during the second half of the year were stronger as we were able to increase production.
Sales during the six-month period ended December 31, 2023 were $10.5 million, representing a 50%, or $3.5 million, increase over sales
of $7 million during the six-month period ended June 30, 2023. Quarter to quarter sales over the past two years are displayed in the following
table:
28
ImmuCell Corporation
Sales increased by 30%, or $1.2 million, to $5.1
million during the three-month period ended December 31, 2023, in comparison to $3.9 million during the three-month period ended December
31, 2022. Domestic sales during the three-month period ended December 31, 2023 increased by 29%, and international sales increased by
46%, in comparison to the three-month period ended December 31, 2022. International sales aggregated 6% of total sales during both of
the three-month periods ended December 31, 2023 and 2022. The quarterly sales results are summarized in the following table (in thousands,
except for percentages):
During the Three-Month Periods Ended December 31, Increase
Our lack of product supply drove a sales decrease
of 6%, or $1.1 million, to $17.5 million during the year ended December 31, 2023, in comparison to $18.6 million during the year ended
December 31, 2022. Domestic sales during the year ended December 31, 2023 decreased by 6%, and international sales decreased by 2%, in
comparison to the year ended December 31, 2022. International sales aggregated 9% and 8% of total sales during the years ended December
31, 2023 and 2022, respectively. The sales results for the annual periods are summarized in the following table (in thousands, except
for percentages):
During the Years Ended December 31, (Decrease)
Sales of the First Defense®
product line aggregated 99% of our total sales during both of the years ended December 31, 2023 and 2022. Our sales are generally seasonal
with highest demand expected during the first quarter of each year. However, as we fulfill our large backlog of orders, we do not expect
to see as much of this seasonal demand swing in our product sales. Most of our growth (when not limited by backlog) is being realized
through increased demand and a deliberate strategy to prioritize production capacity towards Tri-Shield First Defense®
(the trivalent format of our product delivered via a gel tube), which provides broader protection to calves. The compound annual growth
rate (CAGR) of our total product sales was 10.8%, 9.7% and 6.2% during the twelve-year, five-year, and four-year periods ended December
31, 2023, respectively.
We likely lost some business during 2022 and
2023 as a result of the backlog. During the first half of 2023, the impact of tight supplies hit even harder leaving our customers without
product during their busiest calving season. Our inability to timely meet the needs of our customers could result in the loss of some
customers who seek alternative scours management products during this period of short supply and some of these customers may not resume
purchasing our product when we have eliminated the backlog. While we worked to
allocate product directly to certain large customers during this period of short supply, we likely lost some customers that could not
access product. While backlog is a better problem to have than seeing product expiring on our shelves, it is nonetheless a significant
challenge when we do not get our customers everything that they want. Our sales team is preparing to resume more normal sales growth initiatives
as we expect inventory to become available. We will work to regain end-user customers that we may have lost while we were short on product
and will aggressively compete for new business. As we emerge from an extended period of time on backlog, we anticipate higher than normal
sales fluctuations quarter to quarter. What is most important to us at this time is that we achieve sales growth over the longer periods
of time, even if we experience some quarter-to-quarter fluctuations.
Valuation of the backlog is a non-GAAP estimate
that is based on purchase orders on hand at the time that could not be met because of a lack of available inventory. Quantification of
the backlog during the current periods has become far less comparable to prior periods. At times, customers have placed orders for more
than a month’s worth of their demand, perhaps in reaction to our ongoing backlog situation, whereas in the past they ordered more
closely in line with their current demand. We are reporting this figure because it reflects the orders on our books presently that we
cannot ship. We are concerned that this backlog amount may not be highly relevant at this time as it includes very old orders, redundancy
in demand and orders that may be cancelled given the time that has passed since they were originally placed. However, when we required
all distributors to replace their orders around November 15, 2023 to reflect an 8% price increase, the amount of the backlog, in fact,
increased rather than decreased. We believe this reflects strong demand for our product.
29
ImmuCell Corporation
The backlog was reduced from approximately $2.4
million as of December 31, 2021 to approximately $205,000 as of September 30, 2022. In part because of a first contamination event experienced
around the end of the third quarter of 2022, our backlog increased to approximately $2.5 million as of December 31, 2022. In part because
of a second contamination event experienced during the first quarter of 2023, the backlog increased further to approximately $7.5 million
as of March 31, 2023 and increased to approximately $8 million as of June 30, 2023 and increased to approximately $8.9 million as of September
30, 2023 and increased to approximately $9.4 million as of December 31, 2023 (as demonstrated in the table below). As of March 8, 2024,
the backlog of orders was approximately $10.3 million. As sales demand increased
while our production output was reduced, the value of our order backlog has fluctuated as demonstrated in the following table:
We believe that we are on the right track to
increase production output, but we still have more work to do to catch up to product demand. We anticipate that we are in good position
to move past the contamination events that materially affected our output during late 2022 and through the first ten months of 2023 and
are positioned to execute on our plan to resume sales growth in 2024. Finished goods produced increased steadily from approximately $3.3
million to $4 million and further to $5.3 million during the first, second and third quarters of 2023, respectively, but then dropped
off slightly to $5.1 million during the fourth quarter of 2023. Our objective is to produce finished goods with an approximate sales value
of $6 million or more per quarter, as we implement and optimize recent investments to increase its production capacity. Fourth quarter
2023 production was limited by lower output during the month of October, which was caused by a contamination event in September 2023.
After remediating this event, we achieved full production during the balance of the quarter. The output levels achieved during the months
of November and December 2023 annualize to approximately $26.8 million, which equates to an average quarterly production of approximately
$6.7 million.
We implemented an average price increase of approximately
8% on the First Defense® product line effective November 15, 2023. The backlog of orders was worth approximately
$9 million just before this price change. We had some concern that the value of the backlog might decrease materially if customers chose
not to replace all orders at the new price given that many of those orders were dated. However, we did not see a decrease in the backlog
after the price increase which validated the strength of the order demand.
We acquired a private label product in connection
with our January 2016 acquisition of certain gel formulation technology. This product was discontinued during the first quarter of 2022
because it was not a significant contributor to our total sales and it competed for valuable time and space in our production schedule.
We sell our own CMT, which is used to detect somatic cell counts in milk. Sales of these products (other than the First Defense®
product line) increased by 53%, or $19,000, to $56,000 during the three-month period ended December 31, 2023, in comparison
to the three-month period ended December 31, 2022. Sales of these other products aggregated 1% of our total product sales during both
of the three-month periods ended December 31, 2023 and 2022. Sales of these products increased by 14%, or $22,000, to $178,000 during
the year ended December 31, 2023, in comparison to the year ended December 31, 2022. Sales of these other products aggregated 1% of our
total product sales during both of the years ended December 31, 2023 and 2022.
Effective January 1, 2022, we increased our selling
price of the First Defense® product line by approximately
5% and CMT by approximately 7%. Effective January 1, 2023, we increased our selling price of the First Defense®
product line by approximately 4% (range of 2% to 8%) and CMT by approximately 5%. Effective November 15, 2023,
we increased our selling price for the First Defense®
product line by an average of 8% and for CMT by approximately 12%.
30
ImmuCell
Corporation
Gross Margin
The change in our gross margin (product sales
less costs of goods sold) and our gross margin as a percentage of product sales during the three-month periods and years ended December
31, 2023 and 2022 are summarized in the following tables (in thousands, except for percentages):
During the Three-Month Periods Ended December 31, Increase (Decrease)
Percent of product sales 25 % 25 % (1 )% (3 )%
During the Years Ended December 31, (Decrease)
Percent of product sales 22 % 41 % (19 )% (46 )%
The very significantly reduced gross margin (on
both a dollar and percentage of sales basis) during the year ended December 31, 2023 was largely the result of the significant decrease
in sales during the first ten months of 2023, which was caused by a reduction in production output, not by a reduction in demand. The
reduction in production output was, in turn, the result of our decision to slow down our production rate while remediating the production
contamination events, while not yet operating at our anticipated increased production output level. During 2023, we did not benefit from
spreading our fixed costs over higher volumes as we normally do. Further, we did not furlough any labor during this production slowdown.
The gross margin as a percentage of product sales was 41%, 45%, 45%, 49%, 47% and 50% during the years ended December 31, 2022, 2021,
2020, 2019, 2018 and 2017, respectively. The gross margin during the year ended December 31, 2023 was significantly less than what we
have experienced historically and significantly less than what we anticipate going forward. The product contamination events and other
production process losses experienced during 2023 and 2022 resulted in scrapped inventory valued at approximately $527,000 and $589,000,
respectively. Absent these write-offs, our gross margin as a percentage of product sales would have been approximately 25% and 44% during
the years ended December 31, 2023 and 2022, respectively. Although these types of losses are expected to happen from time to time in the
production of a biological product such as ours, we believe we have mitigated the risk of reoccurrence of such losses through the implementation
of certain new quality control steps and manufacturing processes and facility improvements.
The
significant global supply-chain disruptions that almost all industries are experiencing presently are a challenge to us. The costs
of our supplies, components, raw materials, and services increased significantly during 2021 and that trend continued during 2022 and
2023. Prices for raw materials and critical supplies are increasing significantly,
and it is becoming increasingly more difficult to obtain timely delivery of the orders that we place. Therefore, we have little choice
but to pay the higher prices and try to take on more months of supply than we would have held previously if we could get our orders fulfilled
timely.
While our biological and process yields can be
variable, we have seen a favorable improvement to our finished goods yield recently, but these yields continue to be variable. The Tri-Shield®
product format is more complex (i.e., three antibodies versus two antibodies for Dual-Force®)
making it more costly to produce, and both the bivalent and trivalent gel product formats are more expensive to produce than the bolus
format. These new formats are creating sales growth for us, and we are focused on increasing total gross margin dollars, even if that
is accomplished with a lower gross margin as a percentage of sales. A number of other factors contribute to the variability in our costs,
resulting in some fluctuations in gross margin percentages from quarter to quarter and from year to year. We also invest to sustain compliance
with current Good Manufacturing Practices (cGMP) in our production processes. Increasing production can be more expensive in the initial
stages. To achieve our inventory production growth objectives, we continue to acquire more raw material (colostrum) from many more cows
at several new farms. During this expansion phase, colostrum quality can be more variable. Additionally, the biological yields from our
raw material are always variable, which impacts our costs of goods sold in a similar way. Just as our customers’ cows respond differently
to commercial dam-level vaccines, depending on the time of year and immune competency, our source cows have similar biological variances
in response to our proprietary vaccines. As is the case with any vaccine program, animals respond less effectively to their first exposure
to a new vaccine, and thereafter the effectiveness of their immune response improves in response to subsequent immunizations. While this
variability impacts our costs of producing inventory, the commercial value of our First Defense® product line is
that we compensate for the variability in a cow’s immune response by standardizing each dose of finished product. This ensures that
every calf is equally protected, which is something that dam-level commercial scours vaccines cannot offer. We continue to work on processing
and yield improvements and other opportunities to reduce costs, while enhancing process knowledge and robustness. Over time, we have been
able to reduce the impact of cost increases by implementing yield improvements. We believe that gross margin results going forward should
be viewed over longer periods of time than just one quarter. As we fully integrate and utilize our increased capacity and evaluate our
product costs and selling price, one of our goals is to achieve a gross margin (before related depreciation and amortization expenses)
as a percentage of total sales approaching 48%.
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ImmuCell Corporation
Product Development Expenses
and Strategy
Overview: The
majority of our product development expenses pertain to the development of Re-Tain®. During the year ended December
31, 2023, product development expenses decreased by 2%, or $99,000, to $4.4 million in comparison to $4.5 million during the year ended
December 31, 2022. Product development expenses aggregated 25% and 24% of product sales during the years ended December 31, 2023 and 2022,
respectively. Product development expenses included non-cash depreciation and stock-based compensation expenses of $1.5 million and $1.4
million during the years ended December 31, 2023 and 2022, respectively. Approximately $1.3 million of these non-cash expenses were comprised
of depreciation expenses pertaining to our DS facility for Re-Tain® during both of the years ended December 31,
2023 and 2022. We began depreciating this asset when the Certificate of Occupancy for the new construction was issued during the fourth
quarter of 2017, but sales of our new product cannot be realized until we achieve FDA approval. We expect our product development expenses
to decrease modestly during 2024 as we produce less product for commercial launch and somewhat further after Re-Tain®
is commercialized and some of the costs incurred to maintain and run our DS production facility become part of our costs of goods sold.
Development objective: As
we work to change the way that mastitis is managed in the dairy industry, we aim to demonstrate that our bacteriocin, Nisin A, which is
designed specifically for subclinical mastitis, can provide producers the freedom to change when and how mastitis is treated. Re-Tain®
is not a broad-spectrum antibiotic used in human health. Rather, it consists of a highly targeted active ingredient without
an FDA-required milk discard or meat withhold. While milk prices vary, the cost of the milk discard associated with traditional antibiotics
ranges from approximately $36.00 (for 3.5 days of milk at 60 pounds per day at the Class III milk price average of $17.02 per hundredweight
during 2023) to approximately $150.00 (for 11 days of milk at 80 pounds per day at the Class III milk price average of $17.02 per hundredweight
during 2023) per treated animal. These high milk discard costs associated with traditional antibiotic treatments lead producers to only
treat mastitis after clinical signs develop. We expect that Re-Tain® will be a first-of-its-kind product that can
be used to economically treat at the earliest stage of infection, giving producers the ability to get ahead of mastitis before clinical
signs develop so the best cows stay at their best performance level and in the herd longer. The final and most critical development objective
for Re-Tain® is to achieve regulatory approval of our manufacturing operations.
Development status:
Approval by the Center for Veterinary Medicine, U.S. Food and Drug Administration (FDA) of the New Animal Drug Application (NADA) for
Re-Tain® is required before any sales of the product can be initiated. The NADA is comprised of five principal Technical
Sections plus a sixty-day administrative review at the end. Each Technical Section can be reviewed and approved separately. By statute,
each Technical Section submission is generally subject to one or more six-month review cycles by the FDA. Upon review and assessment by
the FDA that all requirements for a Technical Section have been met, the FDA may issue a Technical Section Complete Letter. The current
status of our work on these submissions to the FDA is as follows:
1) Environmental
Impact: During the third quarter of 2008, we received the Environmental Impact Technical Section Complete Letter from the FDA. During
the second quarter of 2021, we received further clarification through a new Environmental Impact Technical Section Complete Letter covering
the current dosage regimen and labeling.
2) Target
Animal Safety: During the second quarter of 2012, we received the Target Animal Safety Technical Section Complete Letter from the FDA.
3) Effectiveness:
During the third quarter of 2012, we received the Effectiveness Technical Section Complete Letter from the FDA. The anticipated product
label (which remains subject to FDA approval) carries claims for the treatment of subclinical mastitis associated with Streptococcus
agalactiae, Streptococcus dysgalactiae, Streptococcus
uberis, and coagulase-negative staphylococci in lactating dairy cattle.
Subclinical
mastitis, and the study required to achieve an effectiveness claim for it, is defined under the FDA/Center for Veterinary Medicine Guidance
#49: Target Animal Safety and Drug Effectiveness Studies for Anti-Microbial Bovine Mastitis Products (Lactating and Non-Lactating Cow
Products). Trial eligibility requires both pretreatment samples to be positive for the mastitis pathogen (except for Staphylococcus
aureus and Streptococcus agalactiae, where a single pretreatment
sample qualifies a cow for enrollment). For all pathogens, both samples taken between 14 and 28 days post treatment (and at least
5 days apart) must be negative to be judged a cure. These conservative criteria generally result in enrolling cows with chronic subclinical
disease, which rarely self-resolves.
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ImmuCell Corporation
4) Human
Food Safety: During the third quarter of 2018, we received the Human Food Safety Technical Section Complete Letter from the FDA confirming,
among other things, a zero milk discard period and a zero meat withhold period during and after treatment with our product. Achieving
this critical differentiating feature for our product encouraged us to continue the significant product development investment necessary
to bring Re-Tain®to market. It would have been hard to justify an
ongoing investment of this nature in a product without this significant competitive advantage. During the second quarter of 2021, we updated
this Technical Section Complete Letter with FDA approval of the official analytical method to measure Nisin in milk.
5) Chemistry,
Manufacturing and Controls (CMC): The CMC Technical Section is very complex and comprehensive. Having previously achieved the four different
Technical Section Complete Letters from the FDA discussed above, approval of the CMC Technical Section is the fifth and final significant
step required before Re-Tain®product sales can be initiated in the
United States. Implementing Nisin DS (the active pharmaceutical ingredient) production, which is a required component of the CMC Technical
Section, has been the most lengthy part of this project. We previously entered into an agreement with a multi-national pharmaceutical
ingredient manufacturer for our commercial-scale supplies of DS. However, we determined during 2014 that the agreement did not offer us
the most advantageous supply arrangement in terms of either cost or long-term dependability. As a result, we presented this product development
opportunity to a variety of large and small animal health companies. While such a corporate partnership could have provided access to
a much larger sales and marketing team and allowed us to avoid the large investment in a commercial-scale production facility, we concluded
that a partner would have taken an unduly large share of the gross margin from all future product sales of Re-Tain®.
However, the regulatory and marketing feedback that we received from prospective partners, following their due diligence, was positive.
During the third quarter of 2014, we completed an investment in facility modifications and processing equipment necessary to produce our
DS at small-scale at our 56 Evergreen Drive facility. This small-scale facility was used to: i) expand our process knowledge and controls,
ii) establish operating ranges for critical process parameters, iii) conduct product stability studies, iv) optimize process yields and
v) determine the cost of production. We believe these efforts have reduced the risks associated with our investment in the commercial-scale
DS production facility. Having raised equity during 2016 and 2017, we were able to move away from these earlier partnering strategies
and assume control over the commercial-scale manufacturing process in our own facility. During the fourth quarter of 2015, we acquired
land near our existing Portland facility for the construction of a new commercial-scale DS production facility. We commenced construction
of this facility during the third quarter of 2016 and completed construction during the fourth quarter of 2017. Equipment installation
and qualification was initiated during the third quarter of 2017 and completed during the third quarter of 2018. Total construction and
equipment costs aggregated approximately $20.8 million. With construction of the facility complete, we continue to work with outside parties
to investigate improvements to our DS production yields as well as potential efficacy enhancements.
Under
the FDA’s phased submission process, we made a first-phased submission covering just the DS during the first quarter of 2019. The
first-phased DS submission included data from the DS Registration Batches produced at commercial scale in our new DS manufacturing facility.
This first-phased submission was followed by a second-phased submission covering both DS and DP, during the first quarter of 2021. The
second-phased DS and DP submission responded to comments raised by the FDA regarding the first-phased DS submission and included detailed
information about the manufacturing process and controls for DP. One of the key components of the second-phased DS and DP submission was
also demonstrating stability of the product through expiry. During the third quarter of 2021, the FDA issued a Technical Section Incomplete
Letter with regard to this second-phased DS and DP submission. This response was not unexpected as it is common for the FDA to issue queries
and comments, especially related to an aseptic DP submission. We made a second submission of the DS and DP Technical Section during the
first quarter of 2022. During the third quarter of 2022, we received a Technical Section Incomplete Letter from the FDA with regards to
this second DS and DP submission of the CMC Technical Section. The submission required that internal and external laboratories re-develop
and qualify several analytical tests and associated controls. We made this third DS and DP submission of the CMC Technical Section during
the third quarter of 2023. In late October of 2023, the FDA notified us that it was refusing to review our submission because Norbrook
was identified as the DP manufacturer in our submission, but the FDA was expecting that we would identify our own in-house services as
the DP manufacturer (instead of Norbrook). This miscommunication was due to a statement in our April 2022 response to an FDA 483 inspectional
observation in which we noted that Norbrook was expected to exit the DP manufacturing agreement with us at the end of 2022, which would
have required us to procure and install some long lead time equipment (filler and labeler) in our DS suite in late 2022. Instead, we were
able to extend the agreement with Norbrook to complete the manufacture of DP inventory for the initial commercial sales under our Controlled
Launch strategy. As a result, we continued to identify Norbrook as our DP manufacturer. In fact, Norbrook has recently initiated production
of the launch goods, and this work has been extended into 2024 with labeling and final packaging occurring post-approval. As a result
of this miscommunication, we were required to re-submit the CMC Technical Section. If the FDA issues a Technical Section Complete Letter
in response to this re-submission, we believe that we could commence commercial sales approximately ten months from the November of 2023
re-submission date, allowing for the re-setting of the six-month CMC review period by the FDA followed by a two-month administrative review
period and approximately two additional months for labeling, packaging and shipping.
33
ImmuCell Corporation
While
being prudent with how much cash we invest into inventory that would have short expiry dating if market launch is delayed, we have built
and are building more DS inventory during 2022 and 2023 to support the initial commercial sales of Re-Tain®.
As discussed above, our contract manufacturer has agreed to convert this DS to DP during the fourth quarter of 2023 and into 2024 with
associated product expirations of 18 to 24 months from the date of manufacture. We anticipate a pause in the supply of product to market
after the initial launch goods are sold and before the product is re-launched with DP produced by our in-house aseptic filling operations
(if that investment is re-funded) or by an alternative contractor that we have not identified to date.
Our DS
manufacturing facility and that of our DP contract manufacturer (and our potential future DP manufacturing facility) are subject to ongoing
FDA inspections. During the third quarter of 2019, the FDA conducted a pre-approval inspection of our DS facility. This resulted in the
issuance of certain deficiencies as identified on the FDA’s Form 483. We submitted responses and data summaries in a phased manner
over the fourth quarter of 2019 and first quarter of 2020. During the first quarter of 2022, the FDA conducted another pre-approval inspection
of our DS facility. This also resulted in the issuance of certain deficiencies as identified on the FDA’s Form 483. We have responded
to all of the queries. Early during the first quarter of 2024, the FDA conducted another pre-approval inspection of our DS facility. This
resulted in the issuance of one deficiency as identified on the FDA’s Form 483. Since then, we have fully responded to this inspectional
observation. The facility of our DP contract manufacturer is subject to similar inspectional compliance obligations.
We have
always believed that the fastest route to FDA approval and market launch is with the services of Norbrook (an FDA-approved DP manufacturer),
reducing our risk by benefiting from their demonstrated expertise in aseptic filling. From 2010 to the present, we have worked with Norbrook
under several amended contract manufacturing agreements covering the DP formulation, aseptic filling and final packaging services. Under
our current agreement, Norbrook will provide DP for the Controlled Launch with production in the fourth quarter of 2023 and into 2024.
We believe this will enable us to commence sales of Re-Tain®without
delay upon receipt of the anticipated FDA approval.
Our potential
alternative third-party options for the formulation and aseptic filling services that are presently being performed by Norbrook are narrowed
considerably because our product cannot be formulated or filled in a facility that also processes traditional antibiotics (i.e., beta
lactams). During the first quarter of 2022, we initiated an investment in the installation of equipment to produce DP at our own facility
at 33 Caddie Lane. Given the loss in gross margin during the first ten months of 2023 caused by the slowdown in production output that
was necessary to remediate the production contamination events, we have decided to defer the completion of this investment for the time
being. Subject to the timing of our installation and validation work, we anticipate FDA approval of this facility (which is a requirement
for commercial manufacturing) at least two years from when this project is restarted allowing for two six-month review cycles. This will
be a post-approval submission. If we decide to complete our potential future DP manufacturing facility, such facility will, upon completion,
be subject to FDA inspection and approval. We anticipate it would have enough formulation and aseptic filling capacity to exceed the expected
production capacity of our DS facility, which is approximately $7 million to $10 million in annual sales. This production capacity estimate
is based on our assumptions as to product pricing and does not yet reflect inventory build strategies in advance of product approval or
ongoing yield improvement initiatives. Establishing our own DP formulation and aseptic filling capability provides us with the longer-term
advantage of controlling the manufacturing process for Re-Tain®in
one facility, thereby potentially reducing our manufacturing costs and eliminating international cold chain shipping logistics and costs.
The DP formulation and aseptic filling operation, if completed, will be located in existing facility space that we had intended to utilize
to double our DS production capacity if warranted by sales volumes following market launch. As a result, if we decide to complete this
DP facility (rather than utilizing a third party for these services), we would need to explore alternative strategies (in parallel with
ongoing DS yield improvement initiatives) to expand our DS production capacity. This integrated manufacturing capability for Re-Tain®would substantially reduce our dependence on third parties. Upon completion of our formulation and aseptic
filling facility, the only significant third-party input for Re-Tain®would
be the DP syringes. It is anticipated that Hubert De Backer of Belgium (HDB) will supply these syringes in accordance with purchase orders
that we submit. HDB is a syringe supplier for many of the largest participants in the human and veterinary medical industries, and with
whom Norbrook presently works. Based on HDB’s performance history and reputation in the industry, we are confident that HDB will
be a dependable supplier of syringes in the quantity and of the quality needed for Re-Tain®.
Other product development initiatives: Our second
most important product development initiative has been focused on other improvements, line extensions or additions to our First Defense®
product line. We are currently working to establish USDA claims for our bivalent bulk powder formulation of First Defense Technology®.
Subject to the availability of resources, we intend to begin new development projects that are aligned with our core competencies and
market focus. We also remain interested in acquiring, on suitable terms, other new products and technologies that fit with our sales focus
on the dairy and beef industries, subject to the availability of the needed funding.
34
ImmuCell
Corporation
Sales and Marketing Expenses
and Selling Strategy
We
see ourselves as the “non-pharma” pharma company. Rather than offering variations of “copy-cat” technology like
vaccines and antibiotics, we have taken the path less traveled by developing first-of-their kind products fueled by novel active ingredients
such as polyclonal antibodies (for First Defense®) and bacteriocins (for Re-Tain®).
While we expect that Re-Tain®
could be a significant market disrupter, we project the First Defense® market could be larger, especially during
the first years of the commercial launch of Re-Tain®.
We anticipate that these category developing innovations will drive greater value for the livestock industry and, in turn, for our stockholders.
During the year ended December 31, 2023, sales
and marketing expenses decreased by 3%, or $102,000, to $3.1 million in comparison to $3.2 million during the year ended December 31,
2022, amounting to 18% and 17% of product sales during the years ended December 31, 2023 and 2022, respectively. Sales and marketing expenses
included non-cash depreciation and stock-based compensation expenses of $182,000 and $158,000 during the years ended December 31, 2023
and 2022, respectively. Our budgetary guideline for 2023 and after is to keep these expenses under 20% of total sales. By decreasing sales
and marketing expenses by $321,000 during the fourth quarter of 2023 in comparison to the fourth quarter of 2022, we were able to reduce
sales and marketing expenses by $102,000 for the year ended December 31, 2023. We continue to leverage the efforts of our small sales
force by using animal health distributors.
The First Defense® product
line serves dairy and beef producers by protecting their calf crop from scours, the leading cause of pre-weaning mortality and morbidity.
When calves are healthy during this crucial development period, they mature into more productive milking cows and more efficient beef
generators. Our primary competition in this category is vaccines that are also regulated for effectiveness and safety by the USDA. However,
vaccine results are inherently variable. COVID breakthrough infections in humans have reminded us that a vaccine does not guarantee immunity.
That is true for our competitors as well. In the most controlled research settings, only 80% of animals respond to a vaccine. This leaves
20% of the calf crop unprotected when the scour prevention program relies on scour vaccines. Those unprotected calves can be disease carriers.
Not only are they more susceptible to death or likely to require life-saving treatment (sometimes with antibiotics), but they also shed
pathogens into the environment creating a greater disease pressure for their herd mates. The First Defense® product
line removes the inconsistency inherent with vaccine protection. We sell the only USDA-licensed products in the scour prevention category
that are therapeutic multi-valent polyclonal antibodies. This technology eliminates a producer’s reliance on a variable vaccine
response to generate antibodies and, instead, can protect every calf equally with a measured dose of antibody-driven immunity against
both bacterial and viral scour pathogens.
During the twelve-month period ended December
31, 2023, we treated more calves than our next largest calf-level competitive product, which is a vaccine administered to the newborn
at birth. Compared to the dam-level competitive products (which are vaccines given to the cow pre-calving), we are second in sales dollars
to the market leader. Despite these successes, there remains significant opportunity to displace more competition within North America.
There is also opportunity to grow our sales by expanding into international markets. We are being strategic in how we invest in international
market development in order not to divert our limited resources away from achieving domestic growth, which is often more efficient to
obtain.
We believe that Re-Tain® could
revolutionize the way that mastitis is managed by making earlier treatment of subclinical infections (while these cows are still producing
saleable milk) economically feasible by not requiring a milk discard or a meat withhold during, or for a period of time after, treatment.
No other FDA-approved mastitis treatment product on the market can offer this value proposition. We believe we can demonstrate a return
on investment to the dairy producer and the milk processor that will justify a premium over other mastitis treatments on the market today,
which are all sold subject to milk discard and meat withhold requirements. By creating this value for our customers, we believe we can,
in turn, create value for our stockholders.