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Edited Transcript of OCLS earnings conference call or presentation 7-Feb-18 9:30pm GMT

Thomson Reuters StreetEvents

Q3 2018 Sonoma Pharmaceuticals Inc Earnings Call

PETALUMA Feb 8, 2018 (Thomson StreetEvents) -- Edited Transcript of Sonoma Pharmaceuticals Inc earnings conference call or presentation Wednesday, February 7, 2018 at 9:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* James Schutz

Sonoma Pharmaceuticals, Inc. - President, CEO & Director

* Marc Umscheid

Sonoma Pharmaceuticals, Inc. - Chief Strategy & Marketing Officer

* Robert E. Miller

Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO

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Conference Call Participants

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* Jason Howard Kolbert

Maxim Group LLC, Research Division - Executive MD, Head of Healthcare Research & Senior Biotechnology Analyst

* Laura Shelmire Engel

Stonegate Capital Markets, Inc., Research Division - Senior Research Analyst

* Raymond Alexander Myers

The Benchmark Company, LLC, Research Division - Research Analyst

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Presentation

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Operator [1]

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Good afternoon, and welcome to the Sonoma Fiscal Third Quarter 2018 Conference Call. My name is Amanda, and I'll be your coordinator for today's call. (Operator Instructions) As a reminder, this call is being recorded for replay purposes.

I will now turn the call over to Mr. Jim Schutz. Please proceed, sir.

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James Schutz, Sonoma Pharmaceuticals, Inc. - President, CEO & Director [2]

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Thank you, Amanda, and good afternoon, everyone. With me on the call today are Bob Miller, Sonoma's Chief Financial Officer; and Marc Umscheid, our Chief Strategy and Growth Officer; Dan McFadden, our Vice President of Animal Health and Investor Relations, who is normally with us on these calls, is traveling. And apologies for the scratchy throat. I've been fighting a bug for the last several days.

For today's call, I will review the key financials from our quarter ending 31 December, 2017, spend a few minutes on our fastest selling product this last quarter, Ceramax, and then finally, look ahead to several upcoming milestones. Bob will follow with a thorough discussion of our financial results for the quarter and our 3-year track record in the prescription dermatology market. We'll then open the call up for Q&A.

Before we start, let me remind you that today's discussion contains forward-looking statements within the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 that involve risks and uncertainties that could cause our actual results to differ materially from those discussed in today's call, including risks inherent in the development and commercialization of potential products; our ability to become profitable; the progress and timing of our development programs and the regulatory approvals for our products; the benefits and effectiveness of our products; the ability of our products to meet existing or future regulatory standards; our expectations related to the use of our cash reserves; our future capital needs and our ability to obtain additional funding and other risks detailed from time-to-time in our filings with the Securities and Exchange Commission, including our annual and quarterly reports.

These forward-looking statements are identified by the use of such words such as expect, to expand, would and anticipate, among others. Identified product applications and/or uses are intended to highlight potential applications for the investment community and do not infer that the company is marketing for these indications. These forward-looking statements speak only as of the date of this conference call and should not be relied upon as predictions of future events and Sonoma disclaims any obligation to update these statements, except as required by law.

Switching gears, we filed our press release and supplemental PowerPoint earlier today, and we had a heck of a quarter. For those of you in front of a computer, on Slide 4 of the PowerPoint, you can see that our total revenue was $4.834 million, our highest revenue number in our company history. Product revenue was up 46% versus the same period last year. U.S. product revenue was up 27%, just versus the quarter ending September 30. U.S. dermatology revenue was up 78% versus the same period last year and up 35% just in September. EBITDA loss for the period was $2.383 million and cash was healthy at $8.625 million. It is really, really gratifying and a huge credit to the Sonoma team that the plan that Bob and I drew up in 2014 is actually working. We started in March of 2014 scribbling on our thoughts on a single sheet of computer paper and then moved to whiteboards, many, many whiteboards and then eventually PowerPoints. We then took our very detailed and well thought out plan to our Board of Directors and they said, no, go back and really flesh out the details, which by the way they were right, and that was an amazingly helpful process. Once the board finally gave the green light, we started hiring all the key people to actually do all the hard work to hit our goals and objectives in the plan. In any event, we're especially pleased to see the plan working 3 years into it and a big thank you to the team for a perfect quarter. And we think we're just getting started.

For those of you in front of your computer, Slide 5 of our supplemental PowerPoint outlines very active 2017 calendar year milestones, during which we were building our foundation for current and future growth.

Looking forward to upcoming milestones, stay tuned for news on our Brazil partnering efforts. You may remember, we've received 7 interesting Anvisa, or Brazilian regulatory, approvals in November of 2017, and we hope to share good news soon on our selection process for our sales partner in Brazil. On the FDA side, we hope to announce our next FDA product approval this spring. This summer, stay tuned for news on a new Ceramax product that our sales team is very excited about. And finally, as promised, we're back in the FDA queue on our Loyon product and seeking an expanded indication to include psoriasis. A fair warning, the FDA could be fickle, but we can tell you that the data that we submitted was very compelling.

Speaking of Ceramax, in Slide 6 of the supplemental PowerPoint, our sales team turned Ceramax into our fastest-growing product in the quarter ending December 31. Prescriptions filled at the pharmacy counter for the quarter almost doubled when compared to the September quarter. You may remember that we in-licensed Ceramax from a Swedish formulator and Ceramax is FDA approved and indicated as a skin barrier repair product for eczema and atopic dermatitis. If you haven't tried it yet, ask your doctor about Ceramax. It's a great product and we get glowing reviews from our patients. Ceramax was our fastest seller in December due to several factors. First, Ceramax has the highest concentration of ceramides, fatty acids and cholesterol that our skin craves, on the market today. Second, everyday dermatologists see patients with inflammatory skin diseases and every inflammatory skin disease patient has disrupted skin barrier in some way, shape or form. We think the sky is the limit with this product. Third, we have a great rebate program for Ceramax, meaning, we go out of our way to make it affordable to every patient. And then finally, the winter months in North America bring on winter itch and Ceramax has great clinicals in addressing itch.

And with that, Bob, I will hand the microphone to you.

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [3]

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Okay. Thank you, Jim. Over the next 10-plus minutes, I will discuss the financial results of the quarter ended December 31, 2017, compared to the same period last year and last quarter and our 3-year financial track record in dermatology updated for the recent December quarter.

Looking at the financial results, I will cover the high-level results for the key financial metrics for the quarter ended December 31, which includes the revenue, the cash operating expenses, EBITDA and cash position. More details of these results are discussed in the press release and the upcoming 10-Q. Even though we will mention the results for the overall company, we will focus on the results and the growth of the dermatology prescription business since this is a business which will be driving us to profitability. As Jim mentioned earlier, we have distributed a PowerPoint presentation in PDF form as a supplement to the earnings call

Looking on Slide 7, there is a table showing the results of the key metrics of the December quarter 2017 compared not only to the December quarter last year, but also the September 30, 2017 quarter. Some of these metrics -- key metrics are the following, some of which Jim already discussed. Total product net revenue for the December quarter was $4.6 million, up $1.5 million or 47% (sic) [46%] from the same period last year and up 12% compared to the September quarter. This growth was driven mostly by strong increases in revenue in Latin America and the United States, partially offset by a decline in Asia and the Middle East. However, this is our highest product revenue in the history of Sonoma and Oculus. U.S. product net revenue was $2.9 million, up $1.2 million or 73% from the same period last year, representing 62% of our total product revenue and up 27% over the September quarter, with strong growth in dermatology, acute care and animal health. The dermatology net revenue was $2.2 million, representing 47% of our total product revenue, up $970,000 or 78% from the same period last year and up $586,000 or 36% over the September quarter. These results produced our best quarter in the dermatology business ever and continues to extend our strong quarter-over-quarter growth in the dermatology prescription market. The important factors in calculating the net revenue for the dermatology business are the units sold at their price, i.e., the gross revenue, minus the cost of rebates, returns, the wholesaler fee and the reserve for the wholesaler inventory. In total, these costs as a percentage of gross revenue were lower than those in the September quarter, with improvement in the cost of rebates and returns. The sales in Latin America of $772,000 to Invekra, our former partner with gross margins of only 6%, will stop when Invekra starts to manufacture product at their facility, which we expect to occur sometime during fiscal year 2019. The cash operating expense for the quarter ended December 31 were $4.9 million, up $555,000 or 13% from the same period last year and up $625,000 from the quarter ended September. The increase in cash operating expenses were due to higher onetime marketing and compensation expenses. Over the next year, we expect that the cash operating expenses should remain in the range from $4.3 million to $4.6 million, excluding the June quarter. The loss from operations minus noncash expenses, EBITDA for the December quarter, as Jim mentioned earlier, was $2.4 million, down $109,000 or 4% from the same period last year and up $120,000 or 5% from the quarter ending September, primarily due to the onetime increase in cash operating expense -- expenses, which I just mentioned. The cash position on December 31 was $8.6 million, down $1.4 million from $10 million on September 30. The decrease in cash of $1.4 million was due to the cash operating loss for the December quarter of $2.4 million, partially offset by an investment from our best buy and hold institutional shareholder of $1 million. We plan to maintain a strong cash position by considering funding with good buy and hold investors at attractive terms.

Moving now to our discussion -- a discussion of the Sonoma's 3-year track record in dermatology. As Jim mentioned earlier, 3 years ago, our board and management adopted a new strategy to focus on growing revenue in the prescription dermatology market with a direct sales force. This is still our strategy and our focus, which drives our action plans. To execute this strategy, we have completed some of the following actions. One, while starting with 10 derm sales reps 3 years ago, we now have 30 sales reps and 5 managers comprising an experienced best-in-class national dermatology sales force. Number two, while starting with 0 direct sales, we have launched and grown 6 products. These products are unique, effective, nonsteroidal and mostly nonantibiotic for the treatment of atopic and seborrheic dermatitis, surgical procedures, skin repair, skin infections, severe acne, scar appearance and descaling. In the past, we have shown the shareholders the number of prescriptions filled and the demand dollars as estimated by Symphony. However, we feel that providing you with our real prescription units shipped to the distributors and the prescription dollars is more consistent with our GAAP accounting treatment. We have not included the direct-to-physician sales since these amounts are relatively small at this time. Our 3-year track record is displayed on the 2 graphs on Slides 8 and 9 in the investors supplemental PowerPoint presentation.

Slide #8 shows the number of prescription units shipped to the pharmacy distributor by quarter over the last 2 years for each of our 6 products in the total. It shows that the total prescription units shipped to the pharmacy distributors have grown 14% quarter-over-quarter on average for the last 8 months or 8 quarters. It also shows that the December and March quarters tend to be seasonally weaker than the stronger June and September quarters.

Slide 9 shows the quarterly prescription dollar sales, which is calculated by multiplying the number of prescription units shipped to the pharmacy distributors times the price we sell the products to the distributors for. The quarterly prescription dollar sales have grown on average 19% quarter-over-quarter for the last 4 quarters. This slide also highlights the importance of launching new products. As you can see, we added another layer to the growth as we launch each new product. In addition the current -- in addition to the current 6 products, we believe that we have room to add another 4 products or product line extensions to our portfolio. These results demonstrate a 3-year pattern and consistent high long-term growth of prescriptions shipped. As mentioned earlier, the December quarter 2017 is a record quarter and extends our 3-year track record to new highs of prescription units shipped and prescription dollars. What are the reasons for this consistent high growth? Number one, number, quality and leadership of the dermatology sales team and a very responsive and effective R&D, trade, manufacturing and regulatory departments. For example, we hired most of the new 13 salespeople in the March quarter and early June 2017 time frame. And as you can see from the graph on Slide #9, these sales reps had a impact on the growth of the derm revenue in the June and September quarters. Number two, the launch and growth of products. And number three, price increases. We are very proud of our 3-year track record and it is a testimony to the efforts of the Sonoma team, including sales, marketing, R&D, manufacturing, trade, regulatory, finance and other staff departments. We will continue to grow based on the efforts of this team and for the reasons mentioned before. In addition, this 3-year track record has been accomplished with minimal dilution. We have used predominantly nondilutive funding to grow this valuable prescription dermatology business, including funding from the sale of Ruthigen stock and the sale of Latin America assets. More importantly, the 3-year track record demonstrates our ability to execute a strong and consistent quarter-over-quarter growth in the prescription dermatology market in the future, which is our primary driver and conduit leading us to profitability. As a result of this strong growth in dermatology and the sale of our Latin America business, over the last 3 years Sonoma has transitioned from a company with predominantly international revenue and low gross margins to a company with higher U.S. revenue in a very lucrative and attractive prescription dermatology market. More specifically, the U.S. product revenue, as a percentage of the total product revenue, has grown from 27% in the December quarter 2014 to 62% in the current December quarter, with 47% in the prescription dermatology business. As we get closer to profitability, the percentage of U.S. revenue should be about in the 75% range of the total, closer to that of a pure play dermatology company.

As we mentioned in the past, our primary financial goal is to achieve EBITDA profitability as quickly as possible. Early in the fiscal year, we decided the quickest way to achieve this was to hire the 30 new sales dermatology reps after we received the cash from the sale of Latin America. There are some general comments about fiscal year '19 -- fiscal year 2019 and profitability before I hand it over for Q&A or open it up to Q&A. One, the current nonderm U.S. business, Europe and rest of world representing 53% of our product revenue will grow at a relatively slow, 5% to 10% year-over-year growth rate. The current derm U.S. business representing 47% of our product revenue will grow at a rapid quarter-over-quarter growth rate as shown on the prescription graphs. The growth from these businesses will offset the loss of Latin America revenue as Invekra takes over manufacturing. Number four, we estimate that our annualized revenue run rate would be in the $26 million range when we achieve profitability. As reported, our current annualized revenue run rate is about $19 million. As mentioned before, we expect that the cash operating expenses should remain relatively flat and the growth of the dermatology revenue should drive Sonoma to profitability. The timing of reaching profitability will depend on the quarter-over-quarter growth of the derm prescription units sold.

I will now turn the call back to the operator to open it up for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And our first question is from the line of Jason Kolbert of Maxim.

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Jason Howard Kolbert, Maxim Group LLC, Research Division - Executive MD, Head of Healthcare Research & Senior Biotechnology Analyst [2]

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Really, I can see the intrinsic growth. What I really like is the sequential comparison to revenues that you reported in 2Q '18 of $4.3 million versus current quarter at $4.8 million. The one area that I would like to focus on and you almost answered the question in your remarks, you talked about margin. And I really want to understand how margins are going to change going forward? It seems to me that margin is going to be one of the keys towards breakeven. And very specifically, listen, I agree with the idea of adding sales reps as long as they are accretive, but you also had a pretty high SG&A number this quarter at $5.2 million. How should we be thinking about SG&A going forward? How should we be thinking about margins going forward? And then help us understand kind of the margins as we look at the product profiles from Alevicyn, Celacyn, Mondoxyne, Ceramax, SebuDerm, Loyon, how should we be looking at that product mix in order to kind of figure out how the margins may shift in the quarters ahead?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [3]

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Okay. That's quite a few number of questions. Let me see -- let me handle the operating expense number first. We should -- as I mentioned, we should be in the range, and I'm talking about cash operating expenses, which is operating expenses mostly deducting the cash compensation expense. And we should be ranging in the $4.3 million to $4.6 million other than the June quarter which we -- where we have our accounting charge, which is another $200,000 or $300,000. And that's -- we were a little above that this quarter. We had some onetime expenses that actually got moved from one quarter to the other that increased the size of this quarter and we don't think that -- we think it should be dropping back into that $4.3 million, $4.6 million level range. So that's the operating expenses. In terms of gross margin, we have an interesting mix of businesses that have with very wide range of gross margins. We have our Mexico business where we only have a 6% profitability number because it's a business we sold to them and we agreed just to make product to them until they can make it through themselves for a very tiny margin. We also have other international businesses, which tend to be in the 30% to 50% gross margin range, and then we have the U.S. businesses. Most of them are in the 80-plus percent. Some of them are a little bit less, but 80% mostly in the acute care and the prescription business. So what's going to happen over time is that 6% margin is going to disappear sometime next year, as we mentioned. We think probably later in the fiscal year. And that will pop up the overall margins, and we think that the clear growth that we've seen from this business, as I mentioned, the 80% gross margins are without a doubt going to be -- represent the highest growth. So we expect and I think we've communicated this in the past that when we get to the breakeven level, we should be in the low 70s-percent margins. Regarding the third question relating to the businesses, the product lines themselves, and let me -- it's fair to say that there we've got between Alevicyn and Celacyn are reasonably the same in size, reasonable similar margins, Mondoxyne, quite frankly, is a little bit larger margin, but most of them are relatively similar in terms of margins. We would expect to see them grow to be somewhat similar sizes, maybe SebuDerm would be a little bit smaller than the other markets. Does that -- did I miss one of your questions, Jason?

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Jason Howard Kolbert, Maxim Group LLC, Research Division - Executive MD, Head of Healthcare Research & Senior Biotechnology Analyst [4]

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No, you really did answer my question. So let me -- that's very helpful. At what point are you going to consolidate with the current sales force versus continuing to add sales reps going forward? So help me understand with just under $10 million on the balance sheet and cash and burning between, we'll call it, $2.5 million and $3 million a quarter. It's very clear that adding sales reps translates into top line revenues. How do you continue to build the sales force as you push towards kind of that magic positive cash flow?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [5]

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We expect that we can get to our profitability level, which is our target right now with something in the 30 to 34. Currently, we have 30 full-time equivalents, but something in the range of 30 to 34. So we don't need a lot of additional salespeople. That's why that cash operating expense should probably still be following close to that range that I gave you before, to get to that point. We loaded a fair number in as -- when we sold the Latin America business. We increased our sales force by about 70% then.

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Jason Howard Kolbert, Maxim Group LLC, Research Division - Executive MD, Head of Healthcare Research & Senior Biotechnology Analyst [6]

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Okay. It makes perfect sense. So my one last question would be, with this kind of sales force, you become very attractive to pick up additional products for them to put in their bag. So are you currently opportunistically looking for product acquisitions that would be complementary to the existing franchise?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [7]

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We are actively looking for product acquisitions and Jim, do you want to say something about that, because I know you would?

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James Schutz, Sonoma Pharmaceuticals, Inc. - President, CEO & Director [8]

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Yes, Jason, good to hear your voice. Bob has a funny saying. He's from Cincinnati. He's never been with a pretty at the dance before and all of the sudden with this growing sales force, we are. So we're starting to see more and more European and Asian companies asking with our FDA expertise and growing sales force if we can evaluate their products. So exciting stuff and the sales force is hungry to sell more products.

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Jason Howard Kolbert, Maxim Group LLC, Research Division - Executive MD, Head of Healthcare Research & Senior Biotechnology Analyst [9]

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All right. Congratulations on the great quarter. And by the way, I really appreciate the very tight very meaningful slide deck you have provided. It's very clear, very concise, concise call, very well done.

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Operator [10]

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Our next question is from the line of Laura Engel of Stonegate Capital.

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Laura Shelmire Engel, Stonegate Capital Markets, Inc., Research Division - Senior Research Analyst [11]

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Congratulations on the quarter. Just to follow-up. So related to the Invekra deal and how that's affecting margins, is there a contractual limit on that as far as you said, well into 2019, but is there an end date set?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [12]

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There is an end date and the end date is October of this year. And -- but it's not...

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Laura Shelmire Engel, Stonegate Capital Markets, Inc., Research Division - Senior Research Analyst [13]

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The 2-year anniversary.

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [14]

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Yes, exactly. And what it means is though is we still may -- they may still ask us to manufacture, but at that point and time we are no longer obliged to manufacture with the 6% margin. So I will be the first in line, but I think that's good motivation for them to switch over, too.

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Laura Shelmire Engel, Stonegate Capital Markets, Inc., Research Division - Senior Research Analyst [15]

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Right. Okay, great. And then touching again on cash current levels versus burn, what do you see for that coming year as far as any funding needs versus reaching positive cash flow and profitability?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [16]

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We'll, obviously, as we get closer to that breakeven point, we would expect that obviously our burn is going to go down to 0. We're hoping over the next couple of quarters to hopefully reduce that burn pretty significantly. But no forecast, no guarantees. And especially when you look at the June quarters and the September quarters are probably our best quarters. So we would hope to see some continued growth in that arena and reduction of our burn. Does that answer your question?

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Laura Shelmire Engel, Stonegate Capital Markets, Inc., Research Division - Senior Research Analyst [17]

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Yes, yes. Okay. And then, just one last one with the -- related to the recent approvals in the UAE, it looks like those I think are all Microcyn-based products that -- will those at any point be -- will you be looking for U.S. approval? Some of them are in different areas and are more -- look like kind of over-the-counter type products. Is it just cost prohibitive or what are your thoughts on that?

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James Schutz, Sonoma Pharmaceuticals, Inc. - President, CEO & Director [18]

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Bob, you want me to take that one?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [19]

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Yes, it will be great.

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James Schutz, Sonoma Pharmaceuticals, Inc. - President, CEO & Director [20]

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And thanks for paying so close attention on that, that you obviously spent some time looking at those products. We would love to get FDA approval for similar indications here in the States, but none of us are holding our breath. We have the benefit of a really strong safety profile in the UAE with that notified body and they've come to understand and give us relatively broad approval. So we would love to get the same in the U.S., Laura, but U.S. is probably not going to happen.

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Operator [21]

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Our next question is from the line of Raymond Myers of Benchmark.

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Raymond Alexander Myers, The Benchmark Company, LLC, Research Division - Research Analyst [22]

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Congratulations on the quarter. Let me ask you about the sales force and the ramping productivity of it. As you look at the productivity of the new sales reps you hired last year, as they gain tenure, what visibility does that give you to how much additional productivity you would expect after they get through say 12 months, 18 months when they reach full productivity?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [23]

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So I would -- if you look at the -- just on a percentage basis, and you start with the 10 sales people that we had, and let's say, we added 20, that's a 200% increase. And taking from that same time point when we had 10 salespeople and went then to 17 to then 13 more, if you go back and look at the prescription growth, it's been about 150%. So we still have flexibility to grow and -- but they probably had another -- they're still and they're faster and [their] faster growth pattern at this point, the 13 that we hired. But probably in the 6 months or so, they will probably start to level out a little bit at that point. And as we mentioned, we may add 2 or 3 or 4 more but -- and the other thing that we're looking at is filling in with support telephone people and the white spaces, in particular, where we don't have salespeople. We think that's a really great way to grow our revenue by using the telephone salespeople that we actually have that we're using for in part on our acute care here, yes, so that we think is a good way to continue our growth.

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Raymond Alexander Myers, The Benchmark Company, LLC, Research Division - Research Analyst [24]

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It sounds good. The U.S. dermatology revenue per prescription was very strong in the September quarter. How did you achieve that? And what does that tell us about trends for the future?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [25]

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The dermatology revenue per...

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Raymond Alexander Myers, The Benchmark Company, LLC, Research Division - Research Analyst [26]

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Prescription.

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [27]

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Okay. So you mean in terms of the dollars amount?

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Raymond Alexander Myers, The Benchmark Company, LLC, Research Division - Research Analyst [28]

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Yes, the prescription dollar -- the dollars recognized per prescription were quite high?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [29]

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Yes, yes. So the -- our pricing is not -- is below -- on a per gram basis below most of our competitors, but we are able to increase prices and we have been able to increase prices just because we're in a lower -- we've been in lower base, especially a per -- a lower per gram in our pricing and that's probably one of the reasons that you see that.

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Raymond Alexander Myers, The Benchmark Company, LLC, Research Division - Research Analyst [30]

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Okay. That's great. Do you expect that type of trend to continue where you would be able to hold this rate of dollars per prescription in the future?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [31]

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I have to go back and look at that to answer that question to see what the exact rate is and what it looks like. I'm not sure I could do it right at the top of my head.

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Raymond Alexander Myers, The Benchmark Company, LLC, Research Division - Research Analyst [32]

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Sure. Okay. I didn't mean to put you on the spot.

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [33]

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That's an interesting question though, and I'll remember it for the next time.

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Raymond Alexander Myers, The Benchmark Company, LLC, Research Division - Research Analyst [34]

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Well, it's a nice metric you're doing well on it. On the SG&A expense, it was a bit high in the quarter. Could you give a bit more detail around why it was high in the quarter? And then, the guidance that it goes to $4.3 million to $4.6 million -- no, do I have that right? Yes, quarterly expense forecast. Does that include R&D expense? Or is that total OpEx?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [35]

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That's total OpEx, but that's a cash operating expense taking out the -- is the noncash items, especially the stock op chart. And we were about $300,000 higher than our high, if you will, and that came from onetime -- some onetime marketing expenses and some onetime compensation expenses that would not continue, that would not -- we would not see our -- hopefully see our expenses go above that, the cash operating expenses go above $4.6 million, other than the June quarter.

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Raymond Alexander Myers, The Benchmark Company, LLC, Research Division - Research Analyst [36]

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Excellent. Okay, good. And you teased us a little bit at the beginning about potential new products. Can you tell us anything more about, for example, this Brazil partnership and what that might look like? And what might contribute? And what this new product might be in the spring?

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James Schutz, Sonoma Pharmaceuticals, Inc. - President, CEO & Director [37]

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Marc, you want to take the Brazil question?

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Marc Umscheid, Sonoma Pharmaceuticals, Inc. - Chief Strategy & Marketing Officer [38]

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Yes. And we've been saying this now and I said at the last quarter, we're pretty advanced negotiations and discussions with a very strong partner down there. We're not at liberty to fully disclose yet, but it's looking great. It would be in dermatological spaces similar to those in the U.S., so we hope to have news shortly on that.

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James Schutz, Sonoma Pharmaceuticals, Inc. - President, CEO & Director [39]

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And the next step for the approval, Ray. I think our regulatory guru was telling us March, April, we just broadened it out to the spring, sometimes any surprises are earlier, sometimes later. But stay tuned for that, and we'll share as soon as we get it.

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Raymond Alexander Myers, The Benchmark Company, LLC, Research Division - Research Analyst [40]

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Very good. And then the last question was about the expansion to psoriasis label. Can you talk about what impact that would have?

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James Schutz, Sonoma Pharmaceuticals, Inc. - President, CEO & Director [41]

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Yes, at the risk of repetition we in-licensed the terrific product from a German pharma company. Their brand and now ours in the U.S. is Loyon, L-O-Y-O-N. In Europe, it's currently being sold in Germany and the U.K. for broader indications than we got in the U.S. to start. They have a psoriasis indication in Germany and the U.K. We took their clinical data, got back into the FDA queue and it is very, very compelling clinical data. So we have our fingers crossed that we'll get that. Bob, are we saying within the next 12 months? What's our official line on timing?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [42]

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I think -- yes, that's what we've been saying, subject to obvious to the FDA [approval].

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James Schutz, Sonoma Pharmaceuticals, Inc. - President, CEO & Director [43]

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Yes, exactly. But it's on the market currently being sold with terrific clinicals for that indication in Europe. We hope to follow those big footsteps in the U.S. within the next 12 months.

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Operator [44]

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Our next question is from the line of Jason Kolbert of Maxim.

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Jason Howard Kolbert, Maxim Group LLC, Research Division - Executive MD, Head of Healthcare Research & Senior Biotechnology Analyst [45]

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I just wanted to follow-up a little bit on guidance. And just to kind of go through with you what I heard. Do you expect kind of lower mid-single digits on the ex-U.S. business and a more robust growth rate on the U.S. derm business? Help me understand what you were saying when you were talking about the annualized run rate approaching $26 million. And the reason why I'm asking you to qualify that is because, ultimately, we see a run rate not stopping at $26 million going much larger. And when were you kind of thinking that you're going to be at an annualized run rate of $26 million? If you could provide a little bit more clarity on kind of the timing of that? And did I get what you were saying about the U.S. versus rest of world, correct?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [46]

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Yes, you did about the U.S. versus the rest of world, that is correct. In terms of our $26 million -- first of all, our $19 million is taking $4.8 million, and multiplying at times 4, which I know, you know. The $26 million is a general guidance that we provided, let's say, that is about the range plus or minus some dollars. That's about the range that we would be at breakeven. That's not our limit in terms of where we could end up in x years. Yes, that's about where we would, and you could divide that by 4 to get sort of a quarterly run rate.

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Jason Howard Kolbert, Maxim Group LLC, Research Division - Executive MD, Head of Healthcare Research & Senior Biotechnology Analyst [47]

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Sure. Now I can give you that out. So let me just change the question to, given kind of where the growth rate is now and putting a higher percentage on the U.S., I can do my calculations in terms of what kind of growth I might see for this year and for next year as you work towards breakeven, which is now kind of in sight. Is that fair?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [48]

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Yes, so it's well, still -- you really have to go through and look and you can do the math that you're doing, take our international...

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Jason Howard Kolbert, Maxim Group LLC, Research Division - Executive MD, Head of Healthcare Research & Senior Biotechnology Analyst [49]

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I'm a former pilot, I've really good vision, right?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [50]

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I know you're a former marine pilot, which even makes it better. So -- but anyway the -- going back to the win, I think, it really comes down, if you take -- let's just say that, we've got 50% of the business, just to make it simple, it's growing at 5% to 10% or single-digit year-over-year, and then you got another 50% of business that's growing at say quarter-over-quarter growth rates, which are shown in, let's just pick out the graph that we showed on Page 8 and you can see we're looking then at a range of quarter-over-quarter growth rates. December was 5%, but that tends to be a lower quarter as is March and September and June. So it's something probably in the range of quarter-over-quarter in the range of 5% to even 10%, if you want to do it. But these are numbers that you could probably are better guessing than me over time given...

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Jason Howard Kolbert, Maxim Group LLC, Research Division - Executive MD, Head of Healthcare Research & Senior Biotechnology Analyst [51]

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Yes, but what I can see is as long as the fundamentals that are driving growth in sequential growth that we saw from last quarter to this quarter, as long as those fundamentals are intact, it's just a matter of time and effort. And the thing that I wonder about is that you start to get more brand recognition among physician prescribers. Do we reach a tipping point of critical mass where the numbers could really move higher. And you're not forecasting that, you're not saying that, but at some point, awareness is going to -- should translate into momentum, and that's how you really win in terms of -- as a company and as a shareholder.

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [52]

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We agree. We would love to see the expansion of the brands. We think there are a whole number of additional applications with our current Levicyn brand. Celacyn brand has a big market already, the scar treatment market. And even into nonderm areas, we're seeing it being prescribed because there are only 2 on the market, 2 prescription scar products in the market. So, yes, we expect to see the brands expand. But coming back to a key reason for this growth, historically, is the additional salespeople. And so there are 2 things that will be a little bit -- basically, indicated maybe the growth would be a little bit slower than what we've had at this point, and that is we're going to not increase the number of salespeople very much. And 2, as the numbers get larger, the growth rates are more difficult to achieve.

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Jason Howard Kolbert, Maxim Group LLC, Research Division - Executive MD, Head of Healthcare Research & Senior Biotechnology Analyst [53]

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So one thought though is that I understand being nervous about adding more sales people. But it's pretty clear this is a huge market. And as long as they're accretive, why not keep adding them?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [54]

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Yes, we actually think the bigger return for the money is we will add some more salespeople, but the bigger return for the money is some of the telephonic sales and covering the white spaces and also working with the current feet on the street and supporting them in dermatology. We think that can -- because you can have somebody that's not nearly as costly as the salesperson or -- and the expenses are nearly as high -- that can give us a really high return and help grow these markets.

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Operator [55]

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Our next question is from the line of [Eric Pansick], a private investor.

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Unidentified Participant, [56]

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Two general questions and one technical question. So the most important thing to me is investor interest, supply and demand. When I got into the name, I guess, it may have been 18 months ago, maybe 2 years ago, then you announced a deal, you announced a deal where you were getting cash more than the stock was trading at, the capitalization. And I said, well there's something wrong there. So we got a whole lot of cash and then you targeted use and you certainly have been successful in garnering sales. And quarter-after-quarter the vision seems to be materializing. I saw that you went to one and perhaps, 2. I guess, it was 2 investor conferences, but the daily trading volume and I call that cost dollar volume, was only a couple of hundred thousand dollars a couple of years ago or whatever 18 months ago and that's already kind of anemic, but at least it has some liquidity. Recently, it is in the tens of thousands, if that, on a daily basis, which shows a lack of interest, and honestly, a loss of interest. And since we rolled out the story and all the execution on the story, people have lost interest instead of gaining interest. So how are we going to both get the word out and attract people to the name?

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James Schutz, Sonoma Pharmaceuticals, Inc. - President, CEO & Director [57]

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Do you want me to ...

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [58]

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Sure, you can go ahead.

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James Schutz, Sonoma Pharmaceuticals, Inc. - President, CEO & Director [59]

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[Eric], we have a terrific investor in Denver, who gave us some stage advices about 12 months ago that said, keep your head down and execute and Wall Street will find you. We're certainly trying to do that. We do attend the conferences that you just referenced, the investor conferences. We do have a terrific IR firm, we are somewhat active with on the Investor Relations side. But I will tell you the most pleasing is to hit these numbers and then to talk to guys like you about that.

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [60]

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Let me just -- let me add, that we do hit most of the key. We were just at Nobel. We were at Dawson James. We go to Rodman. We were at Sidoti. We've done the MicroCaps, even went when fire was down in LA. We hit most of the key MicroCap conferences, if you will, or the small company conferences, and we're pretty active in that arena. We like telling our story and our liquidity is not terrible. But yes, it's something that we would want to increase and have more people interested. So we're open to ideas on how you do that.

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Unidentified Participant, [61]

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Yes, I think that attending those roadshows, issuing press releases when you can when they're material and materiality, of course, is subjective. And sometimes companies choose to release press on their sales before they get to an earnings call. So there is yet another press release out there that people can feel good about or at least notice. So there are things, I guess, as a -- a couple of days trading volume couldn't support the number of shares if I wanted to sell. So at this point, I'm in. There is no way I can get out. But the -- I think we are all educated enough to understand that if the stock is -- I don't want to call it undervalued, but it isn't reflecting the potential, and cash runs out and you have to go to the market and raise money, it's going to be raised at a lower price, I mean, dilution at a greater rate for folks like me. So yes, I'm concerned about it and I think that other folks will be concerned about it. And I would just end that topic by saying that there were certain people who want to invest in our company just because of the number of shares that trade on a daily basis. So it's a shame, it's a shame, so [anything you can do it], would be helpful. On that note, I noticed and maybe you can just give some color on that. So you mentioned something about an institutional investor, $1 million, and I noticed a number of shares quarter-over-quarter go up 2%, 3%, 4% and what's going on there, I'm sorry?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [62]

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Well, we do have restricted stock programs. We do have stock option programs that type of thing that may be going up. But we -- is that your question, why is it go up 2% or 3%?

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Unidentified Participant, [63]

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Well, I certainly see the 8-Ks regarding or I'm sorry, the 4 whatever they are, 4-something, regarding the insider transactions, but I thought you'd mentioned on the call that there was a particular investor -- an institutional investor that there was $1 million transaction in this quarter. (inaudible) shares.

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [64]

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Yes, yes. Okay. that was a -- one of our better shareholders came to us and indicated that they like to put money in -- they'd like to put some additional money into us, and they did it through the ATM at the market. And they do that because they're using their tax ruling 1202 so they hold it for 5 years. They don't have to pay -- there is a -- they get an improved tax benefit from that. And we are somebody that we thought that was a good deal for us.

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Unidentified Participant, [65]

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Okay, okay. So that explains and I appreciate that. Lastly, and you'll have to excuse the -- I'm a finance guy, so the technical nature...

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [66]

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That's okay. I'm a finance...

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Unidentified Participant, [67]

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I know, but Bob, you're going to kill me here. So new revenues, we're talking FY, the current FY, revenues Q1, up 45% on year-over-year; Q2, up 55% year-over-year; Q3, up 44% year-over-year. Those are yippee numbers in all cases. Margins as a percentage of revenues Q1, 80%. As a percentage of revenues in Q2 is 78%. As a percentage of revenues in Q3, 39%. So it went from 80% to 78% to 39%. I heard your dialogue on the 6% Mexico deal. But if I draw my Excel spreadsheet, the difference in margins from Q2 to Q3 in dollar terms, that's $520,000 in margin. If I divide that by 0.94 to the revenue portion of what a Mexico impact might be if a 100% of the margin increase was Mexico, then I come out to a number $553,000, that's actually bigger than your revenue increase?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [68]

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A lot of the prior comparisons and I can't respond to each of the quarters. I'd have to go back and double check. I'm trying to -- when you change -- when we sold Latin America, we had to undertake discontinued accounting for that particular asset and the revenue in that and we had to make a number of assumptions relating to how we divided that up and what expenses we take out and what we include in the COGS in Mexico and take out, it's a complex, but pretty regimented rules that you need to follow. And that did have -- produced some changes that may not be -- may not seem rational to the normal analyst. But I have to go back and double check each one of those to really respond to your question. I'd be happy to do that (inaudible).

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Unidentified Participant, [69]

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Okay. I won't put you on the spot. I apologize, Bob. I guess, my question would be generally and I look at all your presentations, but generally the revenue from Q2 to Q3 actually did increase is the question outside of the Mexico deal or win?

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [70]

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Yes, from Q2 to Q3 is all the Mexico accountings took place. Most of the discrepancies occur in the comparison to the prior year and especially when you're talking about our prior year, when we were looking at '17 compared to fiscal year '16, for instance, where we had to go back and modify the ineffective P&L, excluding all the revenue and expenses in Mexico then that's where the -- it makes a difficult comparison in discontinuing planning. Now to change from Q2 to Q3, and I believe the margins were not that much different in Q2 to Q3 in terms of our COGS, but maybe at this point, it's probably worth taking this off-line and confirming your numbers and I will take a look at it. And I'd be happy to talk to you out without taking everybody else's time.

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Operator [71]

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Thank you. And I'm showing no further questions at this time. I'd like to turn the conference back over to Bob Miller for closing remarks.

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Robert E. Miller, Sonoma Pharmaceuticals, Inc. - Corporate Secretary, CFO & COO [72]

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Yes. First of all, thank you, everybody for joining our call. We are particularly proud of the results of the Sonoma team for this quarter. And we thank you for your continued support. We feel that Sonoma is in the best shape that we've ever been in for several reasons. One, is Sonoma has effectively executed the turnaround strategy in a very attractive dermatology market, with a strong, experienced and effective sales team, a robust unique nonsteroidal, nonantibiotic product portfolio and growing product pipeline over the last 3 years, as we spend a lot of time line. We have demonstrated a strong track record of quarter-over-quarter growth in the prescription dermatology market. Our commercial EBITDA's profitability plan, which is very simple, is an extension of a 3-year track record, which includes revenue growth with the efforts of our 30 sales reps. We're launching the new products and the continued growth of current products and 3 price increases consistent with comparable products. We believe we have a foundation and all the building blocks in place to achieve our EBITDA profitability. With that, we thank you for the call. And at this point, we look forward to sharing with you our progress on our next quarter. Thank you.

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Operator [73]

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Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the program. You may now disconnect. Everyone, have a great day.