NATURAL ALTERNATIVES INTERNATIONAL INC

Previous 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.

Current wording

The following discussion and analysis are intended to help you understand our financial condition and results of operations for the three and six months ended December 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 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

Our primary business activity is providing private-label contract manufacturing services to companies that market and distribute vitamins, minerals, herbal and other nutritional supplements, as well as other health care products, to consumers both within and outside the U.S. Historically, our revenue has been largely dependent on sales to two or three private-label contract manufacturing customers and subject to variations in the timing of such customers’ orders, which in turn is impacted by such customers’ internal marketing programs, supply chain management, entry into new markets, new product introductions, the demand for such customers’ products, and general industry and economic conditions. Our revenue also includes raw material sales, and royalty and licensing revenue generated from license and supply agreements with third parties, granting them the right to use our patents, trademarks and other intellectual property in connection with the distribution and use of the ingredient known as beta-alanine sold under our CarnoSyn® and SR CarnoSyn® trademarks.

Current wording

Our primary business activity is providing private-label contract manufacturing services to companies that market and distribute vitamins, minerals, herbal and other nutritional supplements, as well as other health care products, to consumers both within and outside the U.S. Historically, our revenue has been largely dependent on sales to two or three private-label contract manufacturing customers and subject to variations in the timing of such customers’ orders, which in turn is impacted by such customers’ internal marketing programs, supply chain management, entry into new markets, new product introductions, the demand for such customers’ products, and general industry and economic conditions. Our revenue also includes raw material sales, and royalty and licensing revenue generated from license and supply agreements with third parties, granting them the right to use our patents, trademarks and other intellectual property in connection with the distribution and use of the ingredient known as beta-alanine sold under our CarnoSyn®, SR CarnoSyn® trademarks, and TriBsyn™ trade name.

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®, SR CarnoSyn® trademarks, and TriBsyn™ trade name, 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® and SR CarnoSyn® trademarks, and our TriBsyn™ trade name, royalties from license agreements, and potentially additional contract manufacturing opportunities with licensees.

Previous 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.

Current wording

During the six months ended December 31, 2024, our net sales were 14% higher than in the six months ended December 31, 2023. Private-label contract manufacturing sales increased 14% primarily due to increased orders from one of our larger customers and shipments to new customers, which was partially offset by decreased shipments to other existing customers. Revenue concentration for our largest private-label contract manufacturing customer as a percentage of total net sales for the six months ended December 31, 2024 was 34%, and revenue concentration for our largest private-label contract manufacturing customer as a percentage of total net sales for the six months ended December 31, 2023 was 41%. We expect our annualized fiscal 2025 revenue concentration for our largest customer to be lower as compared to our revenue concentration for our largest customer in fiscal 2024.

Previous 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.

Current wording

During the six months ended December 31, 2024, patent and trademark licensing revenue increased 9% to $4.3 million compared to revenue of $3.9 million for the six months ended December 31, 2023. The increase in patent and trademark licensing revenue during the six months ended December 31, 2024, was primarily due to decreased volume rebates partially offset by lower material sales.

Previous 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.

Current wording

To protect and grow our CarnoSyn® product offerings, we incurred litigation and patent compliance expenses of approximately $0.3 million during the six months ended December 31, 2024 and $0.1 million during the six months ended December 31, 2023. Our legal expense associated with our CarnoSyn® business has remained relatively low as we have no active related 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

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.

Current wording

While we grew our net sales during the three and six months ended December 31, 2024, we experienced a loss from operations during the same periods primarily due to a change in sales mix from our private-label contract manufacturing segment, increased legal costs associated with expanding beta-alanine patent estate, and increased manufacturing and selling, general and administrative costs, primarily related to salaries and wages. Manufacturing costs were negatively impacted by increased labor, foreign currency exchange rates, supplies, rent, and freight costs. Although our overall sales forecast for fiscal 2025 includes an increase in sales as compared to fiscal 2024, we anticipate we will experience a net loss in the second half of fiscal 2025 and an overall net loss for the fiscal 2025 year.

Previous wording

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

Current wording

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

Previous 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.

Current wording

Private-label contract manufacturing net sales increased 40% during the three months ended December 31, 2024, and increased 14% during the six months ended December 31, 2024, when compared to the same periods in the prior year. The increase in net sales during the three months ended December 31, 2024 was primarily due to increased orders from two of our larger customers and shipments to new customers, partially offset by decreased shipments to other existing customers. The increase in net sales during the six months ended December 31, 2024 was primarily due to increased orders from one of our larger customers and shipments to new customers, which was partially offset by decreased shipments to other existing customers.

Previous 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.

Current wording

Net sales from our patent and trademark licensing segment decreased 18% during the three months ended December 31, 2024, and increased 9% during the six months ended December 31, 2024, when compared to the same period in the prior year. The decrease in patent and trademark licensing revenue during the three months ended December 31, 2024 was primarily due to decreased orders from existing customers. The increase in patent and trademark licensing revenue during the six months ended December 31, 2024 was primarily due to decreased volume rebates, partially offset by a decrease in orders from existing customers.

Previous wording

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

Current wording

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

Previous wording

Selling, general and administrative expenses increased approximately $0.4 million, or 11%, during the three months ended September 30, 2024. The increase compared to the same period in the prior year is primarily related to an increase in compensation and benefits expenses, and legal and professional fees.

Current wording

Selling, general and administrative expenses increased approximately $0.5 million, or 14%, during the three months ended December 31, 2024 and $1.0 million or 13% during the six months ended December 31, 2024. Both increases compared to the same period in the prior year is primarily related to an increase in compensation and benefits expenses, legal expenses associated with new patent and tradename registrations, and a valuation reserve recorded on an amount due from a customer.

Previous wording

Other expense, net increased $0.2 million during the three months ended September 30, 2024 when compared to the comparable period during the prior year. The increase is primarily due to unfavorable foreign currency volatility, and increased interest expense due to usage of our credit facility, partially offset by an increase in interest income.

Current wording

Other expense, net decreased $0.2 million during the three months ended December 31, 2024 when compared to the comparable period during the prior year. The decrease is primarily due to favorable foreign currency volatility partially offset by increased interest expense due to usage of our credit facility. Other expense, net during the six months ended December 31, 2024 was consistent with the six months ended December 31, 2023 at 0.7 million.

Previous wording

Our income tax benefit increased during the three-month period ended September 30, 2024 to approximately $0.4 million when compared to our tax benefit of $0.2 million during the three-month period ended September 30, 2023. The increase in our tax benefit during the comparable periods is primarily due to an increase in our loss before income taxes, partially offset by a decrease in the effective tax rate.

Current wording

Our income tax benefit during the three-month period ended December 31, 2024 decreased to approximately $0.7 million when compared to our tax benefit of approximately $0.8 million during the three months ended December 31, 2023. The decrease in our tax benefit is primarily due to a decrease in our loss before income taxes. Our income tax benefit during the six-month period ended December 31, 2024 increased to $1.1 million compared to a tax benefit of $1.0 million in the comparable period during the prior fiscal year. The increase in our tax benefit during the comparable six-month period is primarily due to an increase in our loss before income taxes.

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 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.

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 six months ended December 31, 2024, compared to net cash provided by operating activities of $4.8 million in the comparable period during the prior fiscal year.

Previous 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.

Current wording

At December 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 $0.1 million in cash compared to using $3.4 million of cash during the comparable six-month period in the prior year. The decrease in cash used in accounts receivable during the six months ended December 31, 2024, primarily resulted from the timing of sales and related collections. Days sales outstanding was 46 days during the six months ended December 31, 2024, as compared to 27 days for the prior year period.

Previous 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.

Current wording

Changes in inventory provided $1.2 million in cash during the six months ended December 31, 2024, compared to providing $10.1 million in the comparable prior year period. The change in cash related to inventory during the six months ended December 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 $3.5 million in cash during the six months ended December 31, 2024, compared to using $0.3 million during the six months ended December 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.

Previous wording

Cash used in investing activities in the three months ended September 30, 2024, was $0.3 million compared to $1.3 million in the comparable prior year period. The decrease during the three-months ended September 30, 2024 was related to reduced capital expenditures during the first quarter of fiscal 2025 as compared to the first quarter of fiscal 2024.

Current wording

Cash used in investing activities in the six months ended December 31, 2024, was $1.4 million compared to $1.7 million in the comparable prior year period. The decrease during the six-months ended December 31, 2024 was related to reduced capital expenditures during the six months ended December 31, 2024 as compared to the six months ended December 31, 2023.

Previous 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.

Current wording

Cash provided by financing activities for the six months ended December 31, 2024, was $1.4 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 six-month period ended December 31, 2024 compared to the six-month period ended December 31, 2023.

Previous wording

As of September 30, 2024, we had $12.5 million of borrowing capacity on our credit facility of which we had outstanding borrowings of $5.4 million. We also owed $9.2 million on a term loan secured by our Carlsbad, California powder processing and storage facility. As of June 30, 2024, we had outstanding borrowings of $3.4 million on our line of credit, and we also owed $9.2 million on our term loan.

Current wording

As of December 31, 2024, we had $10.8 million of borrowing capacity available on our credit facility of which we had outstanding borrowings of $5.0 million. We also owed $9.1 million on a term loan secured by our Carlsbad, California powder processing and storage facility. As of June 30, 2024, we had outstanding borrowings of $3.4 million on our line of credit, and we also owed $9.2 million on our term loan.

Previous 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.

Current wording

On December 31, 2024, we had $8.7 million in cash and cash equivalents of which, $8.2 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 December 31, 2024, we were not in compliance with the financial covenants related to net income requirements associated with the Fourth Amendment to our credit facility and a rolling four-quarter fixed charge ratio. 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 exercise 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.