iSpecimen Inc.: Form 10-Q for the period ended Sep 30, 2023

References in this report (the “Quarterly Report”) to “we,” “us” or the “Company” refer to iSpecimen Inc. The following discussion and analysis of the Company’s financial condition and results of operations should be read in conjunction with the unaudited condensed financial statements and the notes thereto contained elsewhere in this Quarterly Report. Certain information contained in the discussion and analysis set forth below includes forward-looking statements that involve risks and uncertainties.

Special Note Regarding Forward-Looking Statements

This Quarterly Report includes “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended (the “Securities Act”), and Section 21E of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), that are not historical facts and involve risks and uncertainties that could cause actual results to differ materially from those expected and projected. All statements, other than statements of historical fact included in this Quarterly Report including, without limitation, statements in this “Management’s Discussion and Analysis of Financial Condition and Results of Operations” regarding the Company’s financial position, business strategy and the plans and objectives of management for future operations, are forward-looking statements. Words such as “expect,” “believe,” “anticipate,” “intend,” “estimate,” “seek” and variations and similar words and expressions are intended to identify such forward-looking statements. Such forward-looking statements relate to future events or future performance, but reflect management’s current beliefs, based on information currently available. A number of factors could cause actual events, performance, or results to differ materially from the events, performance and results discussed in the forward-looking statements. For information identifying important factors that could cause actual results to differ materially from those anticipated in the forward-looking statements, please refer to the “Risk Factors” section of Amendment No. 1 to the Company’s Annual Report on Form 10-K/A filed with the U.S. Securities and Exchange Commission (the “SEC”) on March 30, 2023. The Company’s securities filings can be accessed on the EDGAR section of the SEC’s website at www.sec.gov (http://www.sec.gov). Except as expressly required by applicable securities law, the Company disclaims any intention or obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise.

Overview

We were incorporated in 2009 under the laws of the state of Delaware. Our mission is to accelerate life science research and development via a single global marketplace platform, the iSpecimen Marketplace, which connects researchers to subjects, specimens, and associated data. We are headquartered in Lexington, Massachusetts. We operate as one operating and reporting segment.

The iSpecimen Marketplace is an automated search and request platform for researchers seeking human biospecimens, and a full suite of fulfillment and management tools for biospecimen providers. The platform taps into information management systems found in biobanks and laboratories for specimen data, and electronic Medical Records to gain insights into the patient populations to support specimen collections directly from research subjects.

Researchers can search this data using our intuitive web-based user interface to obtain specimens more efficiently. They can instantly find the specific specimens they need for their studies, request quotes for these specimens or for custom collections directly from research subjects, place orders, and track and manage their specimens and associated data across projects.

Biospecimen providers also gain efficiencies using the iSpecimen Marketplace, not only because the platform provides instant access to a large researcher base, but because the technology orchestrates the bioprocurement workflow from specimen request to fulfillment. Specimen providers can access intuitive dashboards to view requests, create proposals, and track and manage their orders. Finally, the platform helps with administrative and reporting functions for researchers, suppliers, and our internal personnel, including user and compliance management.

The iSpecimen Marketplace is composed of four major functional areas: search, fulfillment, data, and administrative reporting. We continue to invest in the evolution of these areas to improve engagement with the platform and liquidity across it. Our core business objective is to retain and grow both researcher and supplier usage of our platform to support biospecimen procurement, as well as to position the Company to explore other adjacent business opportunities that can benefit from the use of the iSpecimen Marketplace.

The iSpecimen Marketplace currently supports the supply chain management and bioprocurement process for specimens and associated data. We generate revenue by procuring various specimens from hospitals, laboratories, and other supply sites, which comprise our global network, and delivering them to our medical research customers using our proprietary software. Costs paid to acquire specimens from hospitals and laboratories generally vary depending upon the sample type, collection requirements, and data provided. We generally operate in a “just in time” fashion, meaning we procure specimens from our suppliers and distribute specimens to our customers after we obtain an order for specimens from a research client. Generally, we do not speculatively purchase and bank samples in anticipation of future, unspecified needs. We believe our approach offers many advantages over a more traditional inventory-based supplier business model. In a fast-paced industry where personalized and precision medicine are growing at extraordinary rates, having access to hundreds of biorepositories to source supplies of biospecimens, rather than being limited to sourcing such biospecimens from a limited number of biorepositories under our management, substantially reduces the risks associated with a limited source of supply and provides us with the ability to avoid many of the operational constraints inherent in an industry where inventory turnover and cash conversion cycles can be lengthy.

Impact of the Current Economy

The Company’s financial performance is subject to global economic conditions and their impact on levels of spending by our customer research organizations, particularly discretionary spending for procurement of specimens used for research. Economic recessions may have adverse consequences across industries, including the health and biospecimen industries, which may adversely affect our business and financial condition. We increased our allowance for doubtful accounts in accounts receivables by $243,053 during the nine months ended September 30, 2023 due to certain boutique life sciences customers either lacking liquidity or having filed for bankruptcy. We have enhanced procedures related to our credit check process for new and existing customers in fiscal year 2023 to mitigate the risk to future collectability of receivables.

Changes in general market, economic and political conditions in domestic and foreign economies or financial markets, including fluctuation in stock markets resulting from, among other things, trends in the economy and inflation, as are being currently experienced, may result in a reduction in researchers’ demand for specimens due to the research organization’s inability to obtain funding.

To further address the current market conditions, the Company has taken steps, which include but are not limited to, reevaluating its pricing in order to be more competitive, creating campaigns to highlight and fast-track high demand items, enhancing internal team communications to accelerate the sales cycle, moving to a new line of business structure to increase efficiency in operations, implementation of next day quotes to increase conversion ratios of quotes to purchase orders, and initiation of efforts to decrease expenditures through a reduction in workforce.

We believe that our business will continue to be resilient through a continued industry-wide economic slowdown in life science research, and that we will continue to work on improving our liquidity to address our financial obligations and alleviate possible adverse effects on our business, financial condition, results of operations or prospects.

Impact of the Russian-Ukrainian War on Our Operations

Our business was negatively impacted during the first half of 2022 by the ongoing war between Russia and Ukraine. At the start of the war, we had approximately $1 million of purchase orders that were slated to be fulfilled by our supply network in Ukraine and Russia. This supply network was shut down at the start of the war. Ukrainian suppliers were disabled due to war conditions and evacuations and some of our Russian suppliers were disabled by sanctions. While we mobilized to shift these purchase orders to other suppliers in the network, the process of getting specimen collections from other supply sites took time, which caused a delay in the fulfillment of such purchase orders. Alternate suppliers do not have the same favorable unit economics or specimen collection rates, and this impacted our margins. Additionally, key resources were diverted from operations to resolving the re-fulfillment issues caused by the conflict.

As of September 30, 2023, our supply sites in Russia that had not been under sanctions were accessible and our supply sites in Ukraine were mostly reopened. However, logistics and transportation of specimens out of the country of Ukraine remains challenging and not as economically feasible as they were prior to the beginning of the war. Due to the uncertainty caused by the ongoing war, Ukrainian and Russian suppliers may again become inaccessible to us. Therefore, as long as the uncertainty continues, our policy is to ensure at a purchase order level that an order is not solely sourced from the two countries. The short and long-term implications of the war are difficult to predict as of the filing date of this Quarterly Report. The imposition of more sanctions and counter sanctions may have an adverse effect on the economic markets generally and could impact our business and the businesses of our supply partners, especially those in Ukraine and Russia. Because of the highly uncertain and dynamic nature of these events, it is not currently possible to estimate the impact of the war on our business and the companies from which we obtain supplies and distribute specimens.

Known Trends, Demands, Commitments, Events or Uncertainties Impacting Our Business

Chief Executive Officer Initiatives

Under the direction of Ms. Curley, our Chief Executive Officer, the Company’s mission to accelerate life sciences research and development, pursuant to a single global marketplace platform, remains unchanged from that of prior management. Ms. Curley continues to review the Company’s structure, processes, and resources to evaluate and identify areas for improvement, and has been focused on creating and ensuring a runway for growth and scale for our business. The focus of our activities has been directed at cost containment and increasing our revenue in the second half of 2023, with the goal of becoming cash flow positive in 2024.

We have initiated efforts to decrease our capital and operational expenditures by cutting costs and right sizing the Company through a reduction in workforce. Throughout the year and primarily on September 6, 2023, we executed a reduction in workforce, resulting in an estimated reduction in monthly compensation costs of 29% and additional expenditure reductions estimated to be over 50% of monthly expenditures for the remainder of the year, after streamlining operations and rationalizing resources to focus on key market opportunities. As a result, we have experienced a significant decrease in expenditures during the third quarter of 2023 compared to the first two quarters of 2023.

One of our key new revenue enhancement initiatives is to identify, through sequencing, high value cancer patients which possess specific mutations in donor Formalin-Fixed Paraffin-Embedded (“FFPE”) blocks. We have invested in active repetitive screening to create a virtual inventory of availability for our research customers in areas of high value. This initiative is extremely valuable, not only to our business, but we believe, for the entire industry. We have entered into contracts with qualified suppliers to provide specific high value FFPE blocks which, we believe, could result in significant revenue share options. The power of our supplier network makes this initiative possible and when paired with the search functionality of our proprietary iSpecimen Marketplace, it provides an easier solution than what currently exists in our industry. We formally launched this initiative towards the end of the third quarter of 2023 and have recognized a modest level of revenue for this quarter. We now have opportunities and purchase orders, most of which are expected to be fulfilled in the fourth quarter of 2023. We own the data generated from sequencing of the FFPE blocks, and we are now creating a database of research content of our specific high value sequenced data that, we believe, will generate additional reiterative revenue by selling to researchers access to the database.

Our iSpecimen Marketplace Onsite Program, which offers additional support to our biospecimen supplier partners, is underway and we have begun to appoint iSpecimen Marketplace Onsite coordinators, whose responsibility is to field all requests made by the supplier partner and submit proposals on behalf of the supplier partner, resulting in the acceleration of fulfillment with streamlined sample-related management and reduced strain on existing supplier staff and product pipelines.

During 2023, we have had ongoing operational process improvement activities to increase collaboration within and between other departments. In the second quarter of 2023, we moved to a line of business structure which has increased efficiency in our operations and throughout the Company. Previously, it took an extended number of days to complete a feasibility study in order to provide a customer quote, which negatively impacted the time to convert a quote to a purchase order. We completed the implementation of a next day quote system this quarter and we have already started to see positive results, as evidenced by increased conversion ratios of quotes to purchase orders which has contributed to the increased revenue results for the third quarter of 2023.

Ms. Curley has also reviewed our technology roadmap and during the first half of 2023 greenlighted projects to accelerate development timelines. We are committed to investing in and developing our technology. During the nine months ended September 30, 2023, we capitalized approximately $3,501,000 of internally developed software costs with plans to invest at significantly lower levels for the remainder of the year. These investments have already resulted in meaningful progress which includes an updated search functionality, improved user interface, increased automation, and an enhanced matchmaking function of the iSpecimen Marketplace platform. We anticipate that these investments will increase revenue opportunities and result in operational efficiencies, positively impacting our liquidity, capital resources and results of operations in the future.

In 2023, while still onboarding new suppliers, we have shifted to the quality of our network. We have established business criteria that focus on supplier capabilities and revenue growth strategies as well as technology criteria for integrating onto our iSpecimen Marketplace platform and participating with us. We have been reengaging our suppliers in a more meaningful manner which assisted us in the implementation of our next day quote system. We now have a key supplier program whereby we proactively engage with the suppliers to promote our business through marketing campaigns and supplier organizations’ offerings.

Market Conditions

In order to address a downturn in the industry that impacted our financial results during the three months ended June 30, 2023, we revised our sales approach as detailed below, which we believe, has put us in a better position, to obtain favorable results faster for the remainder of 2023 and also recognize revenue more in line with historical levels. The majority of our customers are economically impacted by the availability of funding. We believe that the reduction in revenue in the second quarter was a result of the potential of a global economic slowdown at the end of the first quarter and that uncertainty negatively impacted on the equity markets for our industry. These economic challenges negatively impacted spending by our customers, having a direct effect on our revenue results for the second quarter of 2023. Specifically, in the second quarter of 2023, we experienced a substantial decline in the receipt of purchase orders from our customers. Due to this decline in purchase orders from customers, we also experienced a lower backlog of purchase orders compared to prior quarters. This adversely impacted on our ability to fulfill orders and generated lower levels of revenue in the second quarter of 2023 and the first half of the third quarter of 2023. However, revenue in the third quarter of 2023 increased $1.2 million, or 71% sequentially, from $1.6 million in the second quarter of 2023 due to our efforts to address this issue.

During the second quarter of 2023, we focused on launching several new initiatives with the express purpose of increasing our success rates for converting quotes to secured purchase orders, with the goal of reinstating our fulfillment of orders to the levels achieved in quarters prior to the second quarter of 2023. By the third quarter of 2023, we began to see the results of those efforts as evidenced by an increase in the level of our backlog compared to the beginning of the second quarter of 2023, as well as a significant increase in revenue in the third quarter of 2023 compared to the second quarter of 2023. Based on the results in the third quarter of 2023, we believe that this downturn in revenue for the second quarter of 2023 represented a temporary downturn and that we have taken the required actions to address these issues which, we believe, will allow us to achieve better results for the remainder of 2023 and beyond.

Components of Our Results of Operations

Revenue

We generate revenue by procuring various specimens from hospitals, laboratories, and other supply sites for our medical research customers using our proprietary software, the iSpecimen Marketplace, to identify, locate, and ultimately validate the required specimens to our customers’ requested specifications. The Company’s performance obligation is to procure a specimen meeting the customer specification(s) from a supplier, on a “best efforts” basis, for our customer at the agreed price per specimen as indicated in the customer contract with the Company. We do not currently charge suppliers or customers for the use of our proprietary software. Each customer will execute a material and data use agreement with the Company or agree to online purchase terms, each of which includes terms such as specimen and data use, shipment terms, payment, and cancellation terms. These are then supplemented by purchase orders that specify specimen requirements including detailed inclusion/exclusion criteria, quantities to be collected, and pricing. Collectively, these customer agreements represent the Company’s contracts with its customer. Generally, contracts have fixed unit pricing. For certain specimen orders, a refundable customer deposit may be required prior to order fulfillment depending on project set-up requirements, presented as deferred revenue. The Company expects to recognize the deferred revenue within the next twelve months.

We recognize revenue over time, as we have created an asset with no alternative use and we have an enforceable right to payment for performance completed to date. At contract inception, we review a contract and related order upon receipt to determine if the specimen ordered has an alternative use to us. Generally, specimens ordered do not have an alternative future use to us and our performance obligation is satisfied when the related specimens are accessioned. We use an output method to recognize revenue for specimens with no alternative future use. The output is measured based on the number of specimens accessioned.

Customers are typically invoiced upon shipment. Depending on the quantity of specimens ordered, it may take several accounting periods to completely fulfill a purchase order. In other words, there can be multiple invoices issued for a single purchase order, reflecting the specimens being accessioned over time. However, specimens are generally shipped as soon as possible after they have been accessioned.

Cost of Revenue

Cost of revenue primarily consists of the purchase price to acquire specimens from hospitals and laboratories, inbound and outbound shipping costs, supply costs related to samples, payment processing and related transaction costs, and costs paid to the supply sites to support sample collections. Shipping costs upon receipt of products from suppliers are recognized in cost of revenue.

Technology

Technology costs include consulting fees and payroll and related expenses for employees involved in the development and implementation of our technology, software license and system maintenance fees, outsourced data center costs, data management costs, depreciation and amortization, and other expenses necessary to support technology initiatives. Collectively, these costs reflect the efforts we make to offer a wide variety of products and services to our customers. Technology and data costs are generally expensed as incurred.

A portion of technology costs are related to research and development. Costs incurred for research and development are expensed as incurred, except for software development costs that are eligible for capitalization. Research and development costs primarily include salaries and related expenses, in addition to the cost of external service providers.

Sales and Marketing

Sales and marketing costs primarily consist of payroll and related expenses for personnel engaged in marketing and selling activities, including salaries and sales commissions, travel expenses, public relations, and social media costs, ispecimen.com website development and maintenance costs, search engine optimization fees, advertising costs, direct marketing costs, trade shows and events fees, marketing and customer relationship management software, and other marketing-related costs.

Supply Development

We have agreements with supply partners that allow us to procure specimens from them and distribute these samples to customers. Supply development costs primarily include payroll and related expenses for personnel engaged in the development and management of this supply network, related travel expenses, regulatory compliance costs to support the network, and other supply development and management costs.

Fulfillment

Fulfillment costs primarily consist of those costs incurred in operating and staffing operations and customer service teams, including costs attributable to assess the feasibility of specimen requests, creating and managing orders, picking, packaging, and preparing customer orders for shipment, responding to inquiries from customers, and laboratory equipment and supplies.

General and Administrative

General and administrative expenses primarily consist of costs for corporate functions, including payroll and related expenses for human resources, legal, finance, and executive teams, associated software licenses, facilities, and equipment expenses, such as depreciation and amortization expense and rent, outside legal expenses, insurance costs, and other general and administrative costs.

Financial Operations Overview and Analysis for the Three and Nine Months Ended September 30, 2023 and 2022 (Unaudited)

Comparison of the Three Months Ended September 30, 2023 and 2022

Revenue

Revenue increased by approximately $194,000, or 8%, from approximately $2,584,000 for the three months ended September 30, 2022 to approximately $2,778,000 for the three months ended September 30, 2023. This was primarily due to an increase of 527, or 11%, in specimen count from 4,840 specimens in the three months ended September 30, 2022 to 5,367 specimens in the three months ended September 30, 2023. The effect of the increase in specimen count was partially offset by a change in the specimen mix which caused the average selling price per specimen to decrease by $16, or 3%, from approximately $534 in the three months ended September 30, 2022 to $518 in the three months ended September 30, 2023.

Cost of Revenue

Cost of revenue increased by approximately $211,000, or 18%, from approximately $1,182,000 for the three months ended September 30, 2022 to approximately $1,393,000 for the three months ended September 30, 2023, which was attributable to a $15, or 6%, increase in the average cost per specimen and an 11% increase in the number of specimens accessioned for the current period compared to the same period in the prior year.

Technology

Technology expenses increased by approximately $169,000, or 22%, from approximately $753,000 for the three months ended September 30, 2022 to approximately $922,000 for the three months ended September 30, 2023. The increase was related to increases in amortization of internally developed software of approximately $202,000 and professional fees unrelated to internally developed software of approximately $94,000, which were partially offset by decreases in headcount and payroll and related expenses of approximately $126,000 and in general and administrative expenses of approximately $1,000.

Sales and Marketing Expenses

Sales and marketing expenses increased by approximately $65,000, or 8%, from approximately $833,000 for the three months ended September 30, 2022 to approximately $898,000 for the three months ended September 30, 2023. The increase was attributable to increases in professional fees of approximately $123,000 and payroll and related expenses of approximately $112,000 due to hiring more sales personnel, which were partially offset by decreases in external marketing expenses of approximately $169,000 and travel expenses of approximately $2,000.

Supply Development

Supply development expenses increased by approximately $20,000, or 12%, from approximately $166,000 for the three months ended September 30, 2022 to approximately $186,000 for the three months ended September 30, 2023. The increase was primarily attributable to increases in professional fees of approximately $16,000, and payroll and related expenses of approximately $6,000, which were partially offset by a decrease in travel expenses of approximately $2,000.

Fulfillment

Fulfillment costs decreased by approximately $45,000, or 9%, from approximately $517,000 for the three months ended September 30, 2022 to approximately $472,000 for the three months ended September 30, 2023. The decrease was primarily attributable to a decrease in payroll and related expenses of approximately $158,000 for personnel engaged in pre-sales feasibility assessments and post-sales fulfillment activities, which was partially offset by increases in professional fees of approximately $106,000 and travel expenses of $7,000.

General and Administrative Expenses

General and administrative expenses decreased by approximately $1,133,000, or 51%, from approximately $2,235,000 for the three months ended September 30, 2022 to approximately $1,102,000 for the three months ended September 30, 2023. The decrease was attributable to decreases in payroll and related expenses of approximately $606,000, taxes and insurance of approximately $300,000, professional fees of approximately $126,000, bad debt expense of approximately $90,000, and utilities and facilities of approximately $36,000, which were partially offset by increases in depreciation and amortization expenses of approximately $19,000 and other general operating expenses of approximately $6,000.

Other Income (Expense), Net

Other income (expense), net, increased by approximately $78,000, or 1,446%, from approximately $5,000 of other income, net for the three months ended September 30, 2022 to approximately $83,000 of other income, net, for the three months ended September 30, 2023. The increase in other income (expense), net, was attributable to increases in interest income of approximately $7,000, a decrease in interest expense of approximately $54,000, and an increase in other income of approximately $17,000.

Comparison of the Nine Months Ended September 30, 2023 and 2022

Revenue

Revenue decreased by approximately $88,000, or 1%, from approximately $7,441,000 for the nine months ended September 30, 2022 to approximately $7,353,000 for the nine months ended September 30, 2023. This was primarily due to a decrease in average selling price per specimen of $50, or 11%, from approximately $444 in the nine months ended September 30, 2022 to $394 in the nine months ended September 30, 2023. The decrease in average selling price per specimen was offset by an increase of 1,910, or 11%, in specimen count from 16,768 specimens in the nine months ended September 30, 2022 to 18,678 specimens in the nine months ended September 30, 2023.

Cost of Revenue

Cost of revenue increased by approximately $46,000, or 1%, from approximately $3,347,000 for the nine months ended September 30, 2022 to approximately $3,393,000 for the nine months ended September 30, 2023, which was attributable to an 11% increase in the number of specimens accessioned during the nine months ended September 30, 2023 over the same period in the prior year, which was offset by an $18, or 9%, decrease in the average cost per specimen impacted by the specimen mix during the nine month period ended September 30, 2023 over the same period in 2022.

Technology

Technology expenses increased by approximately $683,000, or 36%, from approximately $1,916,000 for the nine months ended September 30, 2022 to approximately $2,599,000 for the nine months ended September 30, 2023. The period over period increase was related to increases in amortization of approximately $603,000, payroll and related expenses of approximately $52,000, and professional fees of approximately $33,000, which were partially offset by a decrease in general operating expense of approximately $5,000.

Sales and Marketing Expenses

Sales and marketing expenses increased approximately $442,000, or 17%, from approximately $2,531,000 for the nine months ended September 30, 2022 to approximately $2,973,000 for the nine months ended September 30, 2023. The period over period increase was primarily attributable to increases in payroll and related expenses of approximately $535,000, external marketing expense of approximately $271,000, and general operating expenses related to sales and marketing of approximately $17,000, which were partially offset by a decrease in advertising and promotions expense of approximately $381,000.

Supply Development

Supply development expenses increased approximately $211,000, or 36%, from approximately $590,000 for the nine months ended September 30, 2022 to approximately $801,000 for the nine months ended September 30, 2023. The period over period increase was primarily attributable to increases in professional fees of approximately $278,000 and general supply development expenses of approximately $3,000, which were partially offset by a decrease in payroll and related expenses of approximately $71,000.

Fulfillment

Fulfillment costs decreased approximately $117,000, or 8%, from approximately $1,480,000 for the nine months ended September 30, 2022 to approximately $1,363,000 for the nine months ended September 30, 2023. The decrease was primarily attributable to a decrease in payroll and related expenses of approximately $243,000 for personnel engaged in pre-sales feasibility assessments and order fulfillment, which was partially offset by increases in professional fees of approximately $102,000 and general operating expenses related to fulfillment of approximately $24,000.

General and Administrative Expenses

General and administrative expenses decreased approximately $1,098,000, or 20%, from approximately $5,620,000 for the nine months ended September 30, 2022 to approximately $4,522,000 for the nine months ended September 30, 2023. The period over period decrease was attributable to decreases in compensation costs of approximately $791,000, taxes and insurance of approximately $227,000, bad debt expense of approximately $98,000, utilities and facilities of approximately $40,000, and general operating expenses of approximately $28,000, which were partially offset by an increase in depreciation and amortization of approximately $86,000.

Other Income (Expense), net

Other income (expense), net, increased by approximately $314,000, or 750%, from approximately $42,000 of other expense, net for the nine months ended September 30, 2022 to approximately $272,000 of other income, net, for the nine months ended September 30, 2023. The increase in other income (expense), net, was attributable to increases in interest income of approximately $205,000, and a decrease in interest expense of approximately $127,000, offset by an increase in other expense of approximately $19,000.

Liquidity and Capital Resources

Since inception, we have relied upon raising capital to finance our operations. In the nine months ended September 30, 2023, we invested approximately $3.5 million of cash in further developing our iSpecimen Marketplace technology with plans to invest at a lower level for the remainder of the year. We intend to continue to use our existing cash to grow our supply network, increase our marketing and sales presence, scale our operations, and for working capital and general corporate purposes.

We have had recurring losses since inception. As of September 30, 2023, we had working capital of approximately $5,600,000, an accumulated deficit of $56,291,851, cash and cash equivalents and short-term investments of $5,662,535 and accounts payable and accrued expenses of $3,308,124. Our continued viability is dependent on the ability to successfully obtain additional working capital and/or ultimately attain profitable operations. Throughout the year and primarily on September 6, 2023, we executed a reduction in workforce, resulting in an estimated reduction in monthly compensation costs of 29% and additional expenditures reductions estimated to be over 50% of monthly expenditures for the remainder of the year, after streamlining operations and rationalizing resources to focus on key market opportunities. We plan to add additional customers and suppliers to increase and add additional revenues through our new revenue enhancement projects as well as to reduce and manage expenditures to improve our financial position and ensure continued funding of operations. However, as certain elements of our operating plan are not within our control, we are unable to assess their probability. We may also seek to fund our operations through public equity or debt financing, as well as other sources, but we have not currently identified any specific source of financing. However, we may be unsuccessful in increasing our revenues from our new enhancement project or contain our operating expenses, or we may be unable to raise additional capital on commercially favorable terms. Our failure to generate additional revenues or contain operating costs would have a negative impact on our business, results of operations and financial condition and our ability to continue as a going concern. If we do not generate enough revenue to provide an adequate level of working capital, our business plan will be scaled down further.

These conditions raise substantial doubt regarding our ability to continue as a going concern for a period of one year after the date of this Quarterly Report. Management’s plan to mitigate the conditions that raise substantial doubt includes generating additional revenues through its revenue enhancement projects, deferring certain projects and capital expenditures and eliminating certain future operating expenses for us to continue as a going concern. However, there can be no assurance that we will be successful in completing any of these options. As a result, management’s plans cannot be considered probable and thus do not alleviate substantial doubt about our ability to continue as a going concern.

Cash Flows

Operating Activities

For the nine months ended September 30, 2023, net cash used in operating activities was approximately $6,153,000, which consisted of a net loss of approximately $8,027,000 offset by non-cash charges of approximately $1,982,000, which included $1,435,565 related to amortization of internally developed software and other non-current assets, $351,547 in stock-based compensation, $243,053 in bad debt expense, $99,125 related to depreciation and amortization of property and equipment, which were offset by $147,170 of accretion of discount on available-for-sale securities. Total changes in assets and liabilities of approximately $108,000 were attributable to a $503,278 decrease in accrued expenses, a $350,781 increase in accounts receivable, a $178,899 decrease in accounts payable, a $85,425 decrease in deferred revenue, a $49,113 increase in right-of-use asset, and a $20,179 increase in prepaid expenses and other current assets, offset by a $902,355 decrease in accounts receivables-unbilled, a $128,541 decrease in tax credit receivable, and a $48,495 increase in operating lease liability.

For the nine months ended September 30, 2022, net cash used in operating activities was approximately $5,610,000, which consisted of a net loss of approximately $8,086,000 offset by non-cash charges of approximately $1,829,000, which included $825,804 related to amortization of internally developed software, $633,475 in stock-based compensation, $340,858 in bad debt expense, $13,587 related to depreciation and amortization of property and equipment, $9,207 of amortization of debt issuance costs on the Term Loan, and $6,250 of proceeds from issuance of common stock in exchange for services. Total changes in assets and liabilities of approximately $647,000 were attributable to a $876,779 decrease in accounts receivable-unbilled, a $427,798 decrease in accounts receivable, and a $135,057 increase in accounts payable, offset by a $654,745 decrease in deferred revenue, a $124,240 decrease in accrued expenses, and a $14,520 increase in prepaid expenses and other current assets.

Investing Activities

Net cash used in investing activities was approximately $6,505,000 and $1,549,000 for the nine months ended September 30, 2023 and 2022, respectively. Net cash used in investing activities for the nine months ended September 30, 2023 consisted of $10,143,156 of purchases of available-for-sale securities, $3,692,706 of capitalization of internally developed software and other non-current assets, and $19,478 of purchases of property and equipment, which were offset by $7,350,000 of proceeds from sale and maturities of available-for-sale securities. Net cash used in investing activities for the nine months ended September 30, 2022 consisted of $1,549,281 of capitalization of internally developed software.

Financing Activities

Net cash provided by financing activities was approximately $71,000 and $78,000 for the nine months ended September 30, 2023 and 2022, respectively. Net cash provided by financing activities for the nine months ended September 30, 2023 consisted of $70,889 received from the exercise of stock options. Net cash provided by financing activities for the nine months ended September 30, 2022 consisted of $78,387 received from the exercise of stock options.

Effects of Inflation and Supply Chain Shortages

Our operations are heavily reliant on specimen availability, and as a result, we often receive more requests than we can fulfill. While the Company is subject to these types of supply chain constraints that are specific to the specimen industry, we have not been materially affected by the more common supply chain issues currently affecting the economy, specifically surrounding transportation, except for an increase in our shipping costs. Shipping costs increased approximately $126,000, or 36%, from approximately $352,000 to $478,000 period over period during the nine months ended September 30, 2023. Due to the small size of the packages that we ship, our carriers were able to continue making timely deliveries during the nine months ended September 30, 2023.

We have experienced negative effects of inflation in certain areas of our business due to the high rates of inflation in the world’s current economy. This inflation is affecting employee salaries, which account for a significant portion of our operating costs. Additionally, the costs of supplies have been affected by inflation; however, these costs are not significant to the Company’s results.

Inflation has not had a significant impact on the cost of specimens due to our long-term contracts maintained with vendors, which include revenue sharing plans.

Non-GAAP Financial Measure

To supplement our unaudited condensed financial statements, which are prepared and presented in accordance with U.S. Generally Accepted Accounting Principles (“GAAP”), we use adjusted earnings before interest, taxes, depreciation, and amortization (“Adjusted EBITDA”), a non-GAAP financial measure, to understand and evaluate our core operating performance. This non-GAAP financial measure, which may be different than similarly titled measures used by other companies, is presented to enhance investors’ overall understanding of our financial performance and should not be considered a substitute for, or superior to, the financial information prepared and presented in accordance with GAAP.

We define our non-GAAP financial measure of Adjusted EBITDA as net loss, excluding income tax benefit, depreciation and amortization, non-cash impact of severance accruals, stock-based compensation expense and interest expense.

We believe that Adjusted EBITDA provides useful information about our financial performance, enhances the overall understanding of our past performance and future prospects, and allows for greater transparency with respect to a key metric used by our management for financial and operational decision-making. We believe that Adjusted EBITDA helps identify underlying trends in our business that otherwise could be masked by the effect of the expenses that we exclude in Adjusted EBITDA.

We are presenting the non-GAAP measure of Adjusted EBITDA to assist investors in seeing our financial performance through the eyes of management, and because we believe this measure provides an additional tool for investors to use in comparing our core financial performance over multiple periods with other companies in our industry.

Adjusted EBITDA should not be considered in isolation from, or as a substitute for, financial information prepared in accordance with GAAP. There are a number of limitations related to the use of Adjusted EBITDA compared to net loss, the closest comparable GAAP measure. Some of these limitations are that:

• Adjusted EBITDA excludes certain recurring, non-cash charges such as accrued severance, depreciation of leasehold improvements, property and equipment, amortization of amortization of internally developed software and, although these are non-cash charges, the assets being depreciated and amortized may have to be replaced in the future;
• Adjusted EBITDA excludes stock-based compensation expense which has been, and will continue to be for the foreseeable future, significant recurring expenses in our business and an important part of our compensation strategy; and

The following table presents a reconciliation of Adjusted EBITDA to net loss, the most comparable GAAP financial measure, for each of the periods presented:

Critical Accounting Policies

We have chosen accounting policies that we believe are appropriate to accurately and fairly report our operating results and financial condition in conformity with GAAP. We apply these accounting policies in a consistent manner. Our significant accounting policies are discussed in Note 2, “Summary of Significant Accounting Policies,” in our financial statements included in Amendment No. 1 to our Annual Report on Form 10-K/A for the year ended December 31, 2022.

The application of critical accounting policies requires that we make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures. These estimates and assumptions are based on historical experience and other market-specific or other relevant assumptions that we believe to be reasonable under the circumstances. We evaluate these estimates and assumptions on an ongoing basis. If actual results ultimately differ from previous estimates, the revisions are included in results of operations in the period in which the actual amounts become known. The critical accounting policies that involve the most significant management judgments and estimates used in preparation of our unaudited condensed financial statements or are the most sensitive to change from outside factors, are discussed in “Part II. Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in Amendment No. 1 to the Company’s Annual Report on the Form 10-K/A for the year ended December 31, 2022. There have been no material changes in our critical accounting policies and procedures during the nine months ended September 30, 2023.

JOBS Act Transition Period

On April 5, 2012, the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”) was enacted. Section 107 of the JOBS Act provides that an “emerging growth company” can take advantage of the extended transition period provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accounting standards. In other words, an “emerging growth company” can delay the adoption of certain accounting standards until those standards would otherwise apply to private companies.

We have elected not to “opt out” of such extended transition period, which means that when a standard is issued or revised and it has different application dates for public or private companies, we will adopt the new or revised standard at the time private companies adopt the new or revised standard and will do so until such time that we either (i) irrevocably elect to “opt out” of such extended transition period or (ii) no longer qualify as an emerging growth company.

We are in the process of evaluating the benefits of relying on other exemptions and reduced reporting requirements provided by the JOBS Act. Subject to certain conditions set forth in the JOBS Act, as an “emerging growth company,” we intend to rely on certain of these exemptions, including without limitation, (i) providing an auditor’s attestation report on our system of internal controls over financial reporting pursuant to Section 404(b) of the Sarbanes-Oxley Act of 2002 and (ii) complying with any requirement that may be adopted by the PCAOB regarding mandatory audit firm rotation or a supplement to the auditor’s report providing additional information about the audit and the financial statements, known as the auditor discussion and analysis. We will remain an “emerging growth company” until the earliest of (i) the last day of the fiscal year in which we have total annual gross revenues of $1.235 billion or more; (ii) December 31, 2026; (iii) the date on which we have issued more than $1 billion in nonconvertible debt during the previous three years; or (iv) the date on which we are deemed to be a large accelerated filer under the rules of the SEC.

Evaluation of Disclosure Controls and Procedures

Disclosure controls and procedures are designed to ensure that information required to be disclosed by us in our Exchange Act reports is recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure.

Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our disclosure controls and procedures as of the end of the fiscal quarter ended September 30, 2023, as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act. These controls and procedures are designed to provide reasonable assurance that the information required to be disclosed in the reports that we file or submit under the Exchange Act is recorded, processed, summarized, and reported within the time periods specified in the SEC’s rules and forms and that such information is accumulated and communicated to our management, including our principal executive officer and principal financial and accounting officer, in a manner to allow timely decisions regarding required disclosures. Based on this evaluation, management has concluded that our disclosure controls and procedures were not effective as of September 30, 2023 due to the following material weakness in internal control over financial reporting:

• The Company did not design and maintain adequate controls to maintain appropriate documentation for the tax exempt status of its customers, calculate and collect sales tax at point of sale, and subsequently report and remit in a timely manner to the relevant tax jurisdictions sales tax obligations.

Notwithstanding the existence of the material weakness described above, management believes that the unaudited condensed financial statements included in this Form 10-Q fairly present, in all material respects, our financial position, results of operations and cash flows as of and for the periods presented, in conformity with GAAP.

Management’s Plan for Remediation

The material weakness described above was identified as a result of an entity-wide risk assessment process that commenced in the quarter ended June 30, 2023. The Company is in the process of implementing a remediation plan to improve our internal control over financial reporting and to remediate the related control deficiencies that led to the material weakness. In response to these deficiencies, management, with the oversight of the Audit Committee of the Board of Directors, has identified and implemented steps to remediate the material weakness.

The Company began implementing the remediation plan during the second quarter of fiscal year 2023 and this remediation is ongoing as of the filing date of this Quarterly Report. The following remedial measures are designed to address the material weakness and to continue to improve our internal control over financial reporting.

• We have engaged external tax advisors to complement internal resources and efforts and provide support in assessing the appropriate sales tax treatment associated with the Company’s products for all prior years in which the Company had generated revenue.
• We have begun obtaining sales tax exemption letters, representation letters or proof of payments of compensating use tax from our customers and we have started a collection effort of these sales taxes from certain customers who have notified the Company that they do not have a sales tax exemption letter.
• We have begun implementing a sales tax software platform solution for the calculation, communication, collection, and remittance of sales tax for all non-exempt future sales, and assisting with the collection and tracking of Voluntary Disclosure Agreements received from states where a potential sales tax liability may exist.
• We have begun designing and implementing enhanced policies, procedures and controls related to the calculation, communication, collection, and remittance of sales tax to relevant jurisdictions.
• We have begun training appropriate personnel in the effective design and execution of our enhanced policies, procedures, and controls, including the importance of the ongoing, consistent effective execution of such procedures and controls.

We are committed to the remediation of the material weakness and expect to successfully implement enhanced control processes. However, as we continue to evaluate, and work to improve our internal control over financial reporting, management may determine that additional measures to address control deficiencies or modifications to the remediation plan are necessary. Therefore, we cannot assure you when we will be able to fully remediate such weakness, nor can we be certain that additional actions will not be required or what the costs may be of any such additional actions. Moreover, we cannot assure you that additional material weaknesses will not arise in the future.

Changes in Internal Control Over Financial Reporting

We are in the process of implementing certain changes to our internal controls to remediate the material weakness described above. Except as noted above, there were no changes in the Company’s internal control over financial reporting during the three months ended September 30, 2023 that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

Other than as described below, there have been no material changes with respect to risk factors previously disclosed in Amendment No. 1 to the Company’s Annual Report on Form 10-K/A for the year ended December 31, 2022, filed with the SEC on March 30, 2023.

We have identified a material weakness in our internal controls over financial reporting that may cause us to fail to meet our reporting obligations or result in material misstatements of our financial statements. If we fail to remediate a material weakness or if we otherwise fail to establish and maintain effective control over financial reporting, our ability to accurately and timely report our financial results could be adversely affected.

We are required to comply with the SEC’s rules implementing Sections 302 and 404 of the Sarbanes-Oxley Act, which requires management to certify financial and other information in our quarterly and annual reports and provide an annual management report on the effectiveness of our controls over financial reporting. Although we are required to disclose changes made in our internal controls and procedures on a quarterly basis, we are not required to make our first annual assessment of our internal controls over financial reporting pursuant to Section 404 until the later of (i) the year following our first annual report required to be filed with the SEC or (ii) the date we are no longer an emerging growth company. This assessment needs to include disclosure of any material weaknesses identified by our management in our internal control over financial reporting, as well as a statement that our independent registered public accounting firm has issued an opinion on the effectiveness of our internal control over financial reporting, provided that our independent registered public accounting firm is not required to attest to the effectiveness of our internal control over financial reporting until our first annual report required to be filed with the SEC, following the later of the date we are deemed to be an “accelerated filer” or a “large accelerated filer,” each as defined in the Exchange Act, or the date we are no longer an emerging growth company, as defined in the JOBS Act. We could be an emerging growth company for up to five years after the date of our initial public offering.

A material weakness is a deficiency, or a combination of deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our financial statements will not be prevented or detected on a timely basis. In the second quarter of 2023, the Company engaged external tax consultant advisors to complement internal resources and efforts to provide support in assessing the Company’s tax liability associated with products for all prior years in which the Company had generated revenue, to assist with the collection and tracking of Voluntary Disclosure Agreements (“VDAs”) where a potential sales tax liability may exist and to assist with the implementation of a sales tax software platform solution for the calculation, communication, collection, and remittance of sales tax for all non-exempt future sales. From the Company’s inception through present, the Company now believes it is probable that a sales tax liability existed for certain of its sales of products to certain of its customers; however, due to the complexity and uncertainty around the application of these rules by taxing authorities, results may vary materially from the Company’s expectations. Currently, the Company does not have sufficient information to reasonably estimate the minimum or maximum amount of the sales tax liability as of the date of this Quarterly Report. However, the Company has collected approximately $246,000 from certain customers related to sales taxes due. This known sales tax liability represents its current best estimate as to a minimum, and an offsetting recovery as these funds have been collected from customers. The Company will record additional liability when the total amount of the liability becomes reasonably estimable. The Company is also in the process of identifying where there may be a need to file VDAs with relevant taxing jurisdictions regarding its failure to collect and remit sales tax obligations.

We also may identify future material weaknesses in our internal controls over financial reporting or fail to meet the demands that will be placed upon us as a public company, including the requirements of the Sarbanes-Oxley Act, and we may be unable to accurately report our financial results, or report them within the timeframes required by law or stock exchange regulations. We cannot assure you that additional material weaknesses will not exist or otherwise be discovered, any of which could adversely affect our reputation, financial condition and results of operations.