NATURAL ALTERNATIVES INTERNATIONAL INC

Previous wording

The following discussion and analysis is intended to help you understand our financial condition and results of operations for the three and nine months ended March 31, 2024. You should read the following discussion and analysis together with our unaudited condensed consolidated financial statements and the notes to the condensed consolidated financial statements included under Item 1 in this Report, as well as the risk factors and other information included in our 2023 Annual Report and other reports and documents we file with the SEC. Our future financial condition and results of operations will vary from our historical financial condition and results of operations described below based on a variety of factors.

Current wording

The following discussion and analysis are intended to help you understand our financial condition and results of operations for the three months ended September 30, 2024. You should read the following discussion and analysis together with our unaudited condensed consolidated financial statements and the notes to the condensed consolidated financial statements included under Item 1 in this Report, as well as the risk factors and other information included in our 2024 Annual Report and other reports and documents we file with the SEC. Our future financial condition and results of operations will vary from our historical financial condition and results of operations described below based on a variety of factors.

Previous wording

A cornerstone of our business strategy is to achieve long-term growth and profitability and to diversify our sales base. We have sought and expect to continue to seek to diversify our sales by developing relationships with additional, quality-oriented, private-label contract manufacturing customers, and commercializing our patent estate through sales of beta-alanine under our CarnoSyn® and SR CarnoSyn® trade names, royalties from license agreements, and potentially additional contract manufacturing opportunities with licensees.

Current wording

A cornerstone of our business strategy is to achieve long-term growth and profitability and to diversify our sales base. We have sought and expect to continue to seek to diversify our sales by developing relationships with additional, quality-oriented, private-label contract manufacturing customers, and commercializing our patent estate through sales of beta-alanine under our CarnoSyn®, SR CarnoSyn® trademarks, and TriBsyn™ trade name, royalties from license agreements, and potentially additional contract manufacturing opportunities with licensees.

Previous wording

During the nine months ended March 31, 2024, our net sales were 29% lower than in the nine months ended March 31, 2023. Private-label contract manufacturing sales decreased 31% primarily due to reduced orders from several of our larger customers associated with their efforts to reduce excess on-hand inventories, partially offset by increased shipments from other existing customers and shipments to new customers. Revenue concentration for our largest private-label contract manufacturing customer as a percentage of total net sales for the nine months ended March 31, 2024, was 42%, and revenue concentration for our largest private-label contract manufacturing customer as a percentage of total net sales for the nine months ended March 31, 2023, was 40%. We expect our annualized fiscal 2024 revenue concentration for our largest customer to be flat to slightly higher as compared to our revenue concentration for our largest customer in fiscal 2023.

Current wording

During the three months ended September 30, 2024, our net sales were 2% lower than in the three months ended September 30, 2023. Private-label contract manufacturing sales decreased 5% primarily due to reduced orders from one of our larger customers, partially offset by increased shipments to a majority of our other existing customers and shipments to new customers. Revenue concentration for our largest private-label contract manufacturing customer as a percentage of total net sales for the three months ended September 30, 2024 was 37%, and revenue concentration for our largest private-label contract manufacturing customer as a percentage of total net sales for the three months ended September 30, 2023 was 36%. We expect our annualized fiscal 2025 revenue concentration for our largest customer to be slightly lower as compared to our revenue concentration for our largest customer in fiscal 2024.

Previous wording

During the nine months ended March 31, 2024, patent and trademark licensing revenue increased 28% to $6.6 million, compared to revenue of $5.2 million for the nine months ended March 31, 2023. The increase in patent and trademark licensing revenue during the nine months ended March 31, 2024, was primarily due to an increase in orders from existing customers and increased royalty income.

Current wording

During the three months ended September 30, 2024, patent and trademark licensing revenue increased 42% to $2.5 million compared to revenue of $1.8 million for the three months ended September 30, 2023. The increase in patent and trademark licensing revenue during the three months ended September 30, 2024, was primarily due to decreased volume rebates and an increase in orders from existing customers.

Previous wording

We continue to invest in research and development for our SR CarnoSyn® sustained release delivery system.** **We believe SR CarnoSyn® may provide a unique opportunity within the growing Wellness and Healthy Aging markets. We believe our recent efforts to refine our formulations and product offerings will be positively received and result in significant opportunity for increased SR CarnoSyn® sales.

Current wording

We continue to invest in research and development for the expansion of our CarnoSyn® product offerings. We believe SR CarnoSyn® may provide a unique opportunity within the growing Wellness and Healthy Aging markets but acceptance of this product offering has been limited as we only offer this product in tablet form. In August 2024, we announced our new product called TriBsyn™. We believe TriBsyn™ may allow us to better penetrate the Wellness and Healthy Aging channel. This groundbreaking new product is a carnosine booster that utilizes CarnoSyn® beta-alanine and other patent-pending technology to increase beta-alanine bioavailability and absorption while effectively eliminating beta-alanine related paresthesia. This product is available as a raw material powder, which allows formulation flexibility for our customers. The elimination of paresthesia while maintaining efficacy of dosage creates a new opportunity to reach segments of the market that to date have been untapped, including older adults, vegetarians, and vegans. We believe our efforts to refine our formulations and product offerings will be positively received and result in significant opportunity for increased sales of our patented products. We are also working on several additional innovations that could lead to new patentable products for CarnoSyn® Brands in the future.

Previous wording

To protect our CarnoSyn® business and our patents, trademarks and other intellectual property, we incurred legal expenses of approximately $0.2 million during the first nine months of both fiscal 2024 and fiscal 2023. Our legal expense associated with our CarnoSyn® business has remained relatively low as we have not had any active litigation in recent periods, and our current run-rate of expenses is primarily related to maintenance of our patent and trademark estate. Our ability to maintain or further increase our beta-alanine royalty and licensing revenue will depend in large part on our ability to develop a market for our sustained release form of beta-alanine marketed under our SR CarnoSyn® trademark, maintain or expand our patent rights, obtain the raw material beta-alanine when and in the amounts needed, expand distribution of beta-alanine to new and existing customers, and continued compliance by third parties with our license agreements and our patent, trademark and other intellectual property rights. During the remainder of fiscal 2024, we will continue our sales and marketing activities to consumers, customers, potential customers, and brand owners on multiple platforms to promote and reinforce the features and benefits of utilizing CarnoSyn® and SR CarnoSyn® beta-alanine.

Current wording

To protect and grow our CarnoSyn® product offerings, we incurred litigation and patent compliance expenses of approximately $0.2 million during the three months ended September 30, 2024 and $0.1 million during the three months ended September 30, 2023. Our legal expense associated with our CarnoSyn® business has remained relatively low as we have no active litigation, and our current run-rate of expenses is primarily related to maintenance of our patent and trademark estate. Our ability to maintain or further increase our beta-alanine royalty and licensing revenue will depend in large part on our ability to develop a market for our sustained release form of beta-alanine marketed under our SR CarnoSyn® trademark and our new TriBsyn™ product, maintain our patent rights, the availability and the cost of the raw material when and in the amounts needed, the ability to expand distribution of beta-alanine to new and existing customers, and continued compliance by third parties with our license agreements and our patent, trademark and other intellectual property rights. During the remainder of fiscal 2025, we will continue our sales and marketing activities to consumers, customers, potential customers, and brand owners on multiple platforms to promote and reinforce the features and benefits of utilizing CarnoSyn®, SR CarnoSyn®, and TriBsyn™, beta-alanine products.

Previous wording

Based on our current overall sales forecast, we anticipate we will experience a net loss in the fourth quarter of fiscal 2024 and an overall net loss for fiscal 2024.

Current wording

We experienced a loss from operations during the three months ended September 30, 2024 primarily due to reduced sales and a change in sales mix from our private-label contract manufacturing segment and increased manufacturing costs. Manufacturing costs were negatively impacted by increased labor, supplies, rent, and freight costs. Although our overall sales forecast for fiscal 2025 includes a significant increase in sales as compared to fiscal 2024, we now anticipate we will experience a net loss in the first half of fiscal 2025, net income in the second half of fiscal 2025, and an overall net loss for the fiscal 2025 year.

Previous wording

We have identified the following as our most critical accounting estimates, which are those that are most important to the portrayal of the Company’s financial condition and results, and that require management’s most subjective and complex judgments. Information regarding our other significant accounting estimates and policies is disclosed in Note 1 of Item 1 of this report and as disclosed in the 2023 Annual Report.

Current wording

We have identified the following as our most critical accounting estimates, which are those that are most important to the portrayal of our financial condition and results, and that require management’s most subjective and complex judgments. Information regarding our other significant accounting estimates and policies is disclosed in Note A of Item 1 in Part I of this report and as disclosed in our 2024 Annual Report.

Previous wording

Revenue Recognition — Revenue is measured as the net amount of consideration expected to be received in exchange for fulfilling one or more performance obligations. For certain contracts with volume rebates and discounts, our estimates of future sales used to assess the volume rebate and discount estimates are subject to a high degree of judgement and may differ from actual sales due to, among other things, changes in customer orders and raw material availability.

Current wording

Revenue Recognition — Revenue is measured as the net amount of consideration expected to be received in exchange for fulfilling one or more performance obligations. For certain contracts with volume rebates, our estimates of future sales used to assess the volume rebate estimates are subject to a high degree of judgement and may differ from actual sales due to, among other things, changes in customer orders and raw material availability.

Previous wording

The results of our operations for the three and nine months ended March 31 were as follows (dollars in thousands):

Current wording

The results of our operations for the three months ended September 30 were as follows (dollars in thousands):

Previous wording

Private-label contract manufacturing net sales decreased 26% during the three months ended March 31, 2024, and 31% for the nine months ended March 31, 2024, when compared to the same periods in the prior year. The decrease in net sales during the three and nine months ended March 31, 2024, was primarily due to reduced orders from several of our larger customers associated with their efforts to reduce excess on-hand inventories, partially offset by increased shipments from other existing customers and shipments to new customers.

Current wording

Private-label contract manufacturing net sales decreased 5% during the three months ended September 30, 2024 when compared to the same periods in the prior year. The decrease in net sales during the three months ended September 30, 2024 was primarily due to reduced orders from one of our larger customers, partially offset by increased shipments to a majority of other existing customers and shipments to new customers.

Previous wording

Net sales from our patent and trademark licensing segment increased 13% during the three months ended March 31, 2024, and 28% during the nine months ended March 31, 2024, when compared to the same periods in the prior year. The increase in patent and trademark licensing revenue during the three months ended March 31, 2024, was primarily due to increased royalty income and favorable volume rebate activity. The increase during the nine months ended March 31, 2024, was primarily due to an increase in orders from existing customers and increased royalty income.

Current wording

Net sales from our patent and trademark licensing segment increased 42% during the three months ended September 30, 2024 when compared to the same period in the prior year. The increase in patent and trademark licensing revenue during the three months ended September 30, 2024 was primarily due to decreased volume rebates, and an increase in orders from existing customers.

Previous wording

The change in gross profit margin for the three and nine months ended March 31, 2024, was as follows:

Current wording

The change in gross profit margin for the three months ended September 30, 2024, was as follows:

Previous wording

Our primary sources of liquidity and capital resources are cash flows provided by operating activities and the availability of borrowings under our credit facilities. Net cash provided by operating activities was $1.2 million for the nine months ended March 31, 2024, compared to net cash used by operating activities of $0.5 million in the comparable period during the prior fiscal year.

Current wording

Our primary sources of liquidity and capital resources are cash flows provided by operating activities and the availability of borrowings under our credit facilities. Net cash used in operating activities was $3.4 million for the three months ended September 30, 2024, compared to net cash provided by operating activities of $4.5 million in the comparable period during the prior fiscal year.

Previous wording

At March 31, 2024, changes in accounts receivable, consisting of amounts due from our private-label contract manufacturing customers and our patent and trademark licensing activities, used $4.2 million in cash compared to providing $9.8 million of cash during the comparable nine month period in the prior year. The increase in cash used in accounts receivable during the nine months ended March 31, 2024, primarily resulted from the timing of sales and related collections. Days sales outstanding was 30 days during the nine months ended March 31, 2024, as compared to 29 days for the prior year period.

Current wording

At September 30, 2024, changes in accounts receivable, consisting of amounts due from our private-label contract manufacturing customers and our patent and trademark licensing activities, used $0.7 million in cash compared to using $2.7 million of cash during the comparable three-month period in the prior year. The decrease in cash used in accounts receivable during the three months ended September 30, 2024, primarily resulted from the timing of sales and related collections. Days sales outstanding was 48 days during the three months ended September 30, 2024, as compared to 23 days for the prior year period.

Previous wording

Changes in inventory provided $8.6 million in cash during the nine months ended March 31, 2024, compared to using $6.8 million in the comparable prior year period. The change in cash related to inventory during the nine months ended March 31, 2024, was primarily related to the difference in the amount and timing of orders and anticipated sales as compared to same period in the prior year. Changes in accounts payable and accrued liabilities used $0.7 million in cash during the nine months ended March 31, 2024, compared to using $6.2 million during the nine months ended March 31, 2023. The change in cash flow activity related to accounts payable and accrued liabilities was primarily due to the timing of inventory receipts and payments.

Current wording

Changes in inventory used $1.7 million in cash during the three months ended September 30, 2024, compared to providing $6.4 million in the comparable prior year period. The change in cash related to inventory during the three months ended September 30, 2024, was primarily related to the difference in the amount and timing of orders and anticipated sales as compared to same period in the prior year. Changes in accounts payable and accrued liabilities used $2.3 million in cash during the three months ended September 30, 2024, compared to providing $0.2 million during the three months ended September 30, 2023. The change in cash flow activity related to accounts payable and accrued liabilities was primarily due to the timing of inventory receipts and payments.

Previous wording

Cash used by financing activities for the nine months ended March 31, 2024, was $0.4 million compared to providing $7.4 million in the comparable prior year period. The change in financing activities is primarily due to reduced stock repurchase activity and no outstanding balance on our credit facility during the first nine months of fiscal 2024 compared to $9.1 million in borrowings against our credit facility during the first nine months of fiscal 2023.

Current wording

Cash provided by financing activities for the three months ended September 30, 2024, was $1.9 million compared to using $0.1 million in the comparable prior year period. The change in financing activities is primarily due to increased usage of our credit facility during the three-month period ended September 30, 2024 compared to the three-month period ended September 30, 2023.

Previous wording

As of March 31, 2024, we had $12.4 million in cash and cash equivalents. Of these amounts, $12.1 million of cash and cash equivalents were held by NAIE. Overall, we believe our available cash, cash equivalents, potential cash flows from operations, and our credit facility will be sufficient to fund our current working capital needs and capital expenditures through at least the next 12 months.

Current wording

On September 30, 2024, we had $10.2 million in cash and cash equivalents of which, $9.9 million was held by NAIE. Overall, we believe our available cash, cash equivalents, potential cash flows from operations, and our line of credit will be sufficient to fund our current working capital needs and capital expenditures through at least the next 12 months. On September 30, 2024, we were not in compliance with the financial covenants related to net income requirements associated with the fourth amendment to our credit facility. In the next two quarters of fiscal 2025, we anticipate we will not be in compliance with the financial covenants associated with the fourth amendment to our credit facility related to net income requirements and the fixed charge coverage ratio. We have advised the lender and are currently negotiating a potential revised credit facility or waiver. Wells Fargo has advised us that while they consider our request for a waiver or modification, they will not be exercising any of their options pursuant to the Credit Agreement, but they are reserving all of their rights. There can be no assurance we will be able to successfully negotiate a revised credit facility, or what the differences in amount, cost and other factors may be. Please see Note F, Item 1 of Part I of this report for terms of our current modified line of credit.

Previous wording

Recent accounting pronouncements are discussed in the notes to our consolidated financial statements included under Item 1, Note A. of this Report. Other than those pronouncements, we are not aware of any other pronouncements that materially affect our financial position or results of operations.

Current wording

Recent accounting pronouncements are discussed in the notes to our consolidated financial statements included under Item 1, Note A of Part I of this Report. Other than those pronouncements, we are not aware of any other pronouncements that materially affect our financial position or results of operations.