Eton Pharmaceuticals, Inc. (ETON) FY 2023 MD&A

Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

You should read the following discussion and analysis together with our financial statements and the related notes thereto included in “Item 8. Financial Statements and Supplementary Data” in this Annual Report on Form 10-K. The following discussion contains forward-looking statements that involve risks and uncertainties. For a complete discussion of forward-looking statements, see the section above entitled “Forward Looking Statements.” Our actual results could differ materially from those expressed or implied in any forward-looking statements as a result of various factors, including those set forth under the caption “Item 1A. Risk Factors.”

Overview

We are an innovative pharmaceutical company focused on developing and commercializing treatments for rare diseases. Since the formation of our company in 2017, we have used our expertise in business development, regulatory, and product development to assemble a diversified portfolio of rare disease products.

45

Table of Contents

Results of Operations

To date, we have realized revenues from the sale of our neurology products portfolio in 2021, a licensing arrangement on our EM-100 product that was sold to Bausch Health, and the launch of our Biorphen®, ALKINDI SPRINKLE®, and Carglumic Acid products in December 2019, December 2020, and December 2021, respectively. We also realized revenue from the sale of our hospital products portfolio to Dr. Reddy’s Laboratories S.A. (“Dr. Reddy's”) in 2022, the launch of our Betaine Anhydrous and product in May 2023, the sale of our neurology product royalty streams to Azurity in June 2023, and the launch of our Nitisinone product in February 2024. We anticipate successfully growing sales of our commercialized products and commercializing additional product candidates in 2024 and beyond.

Year Ended December 31, 2023 Compared to Year Ended December 31, 2022

Net revenues of $31.6 million in 2023 included $5.5 million of licensing revenue from the sale of our neurology product royalty streams to Azurity in June 2023. Net revenue of $21.3 million in 2022 included $10.0 million of licensing revenue, consisting of $5.0 million from Azurity on the launch of Zonisamide and $5.0 million from the hospital products sale to Dr. Reddy’s. Net product revenue of $26.1 million in 2023 increased by $14.9 million from $11.3 million in 2022 primarily as a result of growth in ALKINDI SPRINKLE® and Carglumic Acid.

Our 2023 gross profit of $21.1 million was up from $14.3 million in 2022 primarily as a result of growth in ALKINDI SPRINKLE® and Carglumic Acid, as well as the sale of our neurology product royalty streams to Azurity.

For the years ended December 31, 2023 and 2022, we incurred $3.3 million and $4.0 million of R&D expenses, respectively, and $18.9 million and $18.6 million of general and administrative (“G&A”) expenses, respectively. The $0.7 million decrease in R&D was driven by hospital products development in 2022 that were sold and therefore did not recur in 2023. The $0.3 million increase in G&A expenses was primarily due to personnel additions to support our growing business. We incurred a net loss of $0.9 million and $9.0 million for the years ended December 31, 2023 and 2022, respectively.

General and Administrative Expenses

G&A expenses consist primarily of employee compensation expenses, selling and adverting/promotional expenses, legal and professional fees, business insurance and FDA fees associated with approved products. We anticipate that our G&A expenses will increase to support our business growth, particularly with respect to sales and marketing activities and additional personnel.

Research and Development Expenses

We currently have nine employees that support our overall product development function. The majority of our spend in R&D is to third parties we contract with to develop and test our products and development of partner milestone payments.

Year Ended December 31, 2022 Compared to Year Ended December 31, 2021

Net revenues of $21.3 million in 2022 included $10.0 million of licensing revenue, consisting of $5.0 million from Azurity on the launch of Zonisamide and $5.0 million from the sale of our hospital products to Dr. Reddy’s. Net revenues of $21.8 million in 2021 included $19.0 million of licensing revenue, including $17.0 million from our neurology products sold to Azurity.

Our 2022 gross profit of $14.3 million was down from $19.0 million in 2021, primarily as a result of decreased licensing revenue.

For the years ended December 31, 2022 and 2021, we incurred $4.0 million and $6.2 million of R&D expenses, respectively, and $18.6 million and $14.3 million of G&A expenses, respectively. The $2.2 million decrease in R&D was driven by milestone payments on a number of our products in development in 2021 that did not recur in 2022. The $4.3 million increase in G&A expenses was primarily due to personnel additions and increased sales and marketing initiatives to support our growing business. We incurred a net loss of $9.0 million and $2.0 million for the years ended December 31, 2022 and 2021, respectively.

46

Table of Contents

General and Administrative Expenses

G&A expenses consisted primarily of employee compensation expenses, selling and adverting/promotional expenses, legal and professional fees, business insurance and FDA fees. We anticipate that our G&A expenses will increase to support our business growth.

Research and Development Expenses

We had eight employees that supported our overall product development function. The majority of our spend in R&D was to third parties we contracted with to develop and test our products in addition to development partner milestone payments. We closed our internal R&D facility in May 2021.

Liquidity and Capital Resources

As of December 31, 2023, we had total assets of $31.7 million, cash and cash equivalents of $21.4 million and working capital of $10.6 million. We believe that our existing funding and revenues from our approved products will be sufficient for at least the next twelve months of our operations. However, our projected estimates for our product development spending, administrative expenses and our working capital requirements could be inaccurate, or we may experience growth more quickly or on a larger scale than we expect, any of which could result in the depletion of capital resources more rapidly than anticipated and could require us to seek additional financing earlier than we expect to support our operations.

Cash Flows

The following table sets forth a summary of our cash flows for the years ended December 31, 2023, 2022 and 2021 (in thousands):

The increase in cash provided by operating activities is primarily a result of increased revenue. Investing activities in 2023 consist of licensing fees for Nitisinone, while investing activities in 2022 and 2021 consist primarily of licensing fees for Betaine and Carglumic Acid, respectively. The increase in cash used in financing activities is primarily the result of scheduled payments on our outstanding loan to SWK Holdings. See Note 5 — Debt for additional notes to Financial Statement.

Critical Accounting Policies

Our financial statements are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The preparation of our financial statements and related disclosures requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, costs and expenses in our financial statements. We base our estimates on historical experience, known trends and events and various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. We evaluate our estimates and assumptions on an ongoing basis. Our actual results may differ from these estimates under different assumptions or conditions.

While our significant accounting policies are described in more detail in Note 3 to our financial statements included herein, we believe that the following accounting policies are those most critical to the judgments and estimates used in the preparation of our financial statements.

47

Table of Contents

Revenue Recognition for Contracts with Customers

We account for contracts with our customers in accordance with Accounting Standards Codification (“ASC”) 606 — Revenue from Contracts with Customers. ASC 606 applies to all contracts with customers, except for contracts that are within the scope of other standards. Under ASC 606, an entity recognizes revenue when its customer obtains control of promised goods or services, in an amount that reflects the consideration which the entity expects to receive in exchange for those goods or services. To determine revenue recognition for arrangements that an entity determines are within the scope of ASC 606, the entity performs the following five steps: (i) identify the contract(s) with a customer; (ii) identify the performance obligations in the contract; (iii) determine the transaction price; (iv) allocate the transaction price to the performance obligations in the contract; and (v) recognize revenue when (or as) the entity satisfies a performance obligation.

At contract inception, once we determine the contract falls within the scope of ASC 606, we assess the goods or services promised within each contract and determines those that are performance obligations and assesses whether each promised good or service is distinct. We then recognize as revenue the amount of the transaction price that is allocated to the respective performance obligation when (or as) the performance obligation is satisfied. Arrangements that include rights to additional goods or services that are exercisable at a customer’s discretion are generally considered options. We assess whether these options provide a material right to the customer and, if so, they are considered performance obligations. The exercise of a material right is accounted for as a contract modification for accounting purposes.

We recognize as revenue the amount of the transaction price that is allocated to the respective performance obligation when (or as) each performance obligation is satisfied at a point in time or over time, and if over time this is based on the use of an output or input method. Any amounts received prior to revenue recognition will be recorded as deferred revenue. Amounts expected to be recognized as revenue within the twelve months following the balance sheet date will be classified as current portion of deferred revenue in our balance sheets. Amounts not expected to be recognized as revenue within the twelve months following the balance sheet date are classified as long-term deferred revenue, net of current portion.

Milestone Payments – If a commercial contract arrangement includes development and regulatory milestone payments, we will evaluate whether the milestone conditions have been achieved and if it is probable that a significant revenue reversal would not occur before recognizing the associated revenue. Milestone payments that are not within our control or the licensee’s control, such as regulatory approvals, are generally not considered probable of being achieved until those approvals are received.

Royalties – For arrangements that include sales-based royalties, including milestone payments based on a level of sales, which are the result of a customer-vendor relationship and for which the license is deemed to be the predominant item to which the royalties relate, we will recognize revenue at the later of (i) when the related sales occur, or (ii) when the performance obligation to which some or all of the royalty has been allocated has been satisfied or partially satisfied.

Significant Financing Component – In determining the transaction price, we will adjust consideration for the effects of the time value of money if the expected period between payment by the licensees and the transfer of the promised goods or services to the licensees will be more than one year.

The Company sells its ALKINDI SPRINKLE®, Carglumic Acid, Betaine Anhydrous, and Nitisinone products to pharmacy distributor customers which provide order fulfilment and inventory storage/distribution services. The Company may sell products in the U.S. to wholesale pharmaceutical distributors, who then sell the product to hospitals and other end-user customers. Sales to wholesalers are made pursuant to purchase orders subject to the terms of a master agreement, and delivery of individual shipments represent performance obligations under each purchase order. The Company uses a third-party logistics (“3PL”) vendor to process and fulfill orders and has concluded it is the principal in the sales to wholesalers because it controls access to the 3PL vendor services rendered and directs the 3PL vendor activities. The Company has no significant obligations to wholesalers to generate pull-through sales.

48

Table of Contents

For its ALKINDI SPRINKLE®, Carglumic Acid, Betaine Anhydrous, and Nitisinone products, the Company bills at the initial product list price which are subject to offsets for patient co-pay assistance and potential state Medicaid reimbursements which are recorded as a reduction of net revenues at the date of sale/shipment. Selling prices initially billed to wholesalers are subject to discounts for prompt payment and subsequent chargebacks when the wholesalers sell products at negotiated discounted prices to members of certain group purchasing organizations (“GPOs”) and government programs. Because of the shelf life of the product and the Company’s lengthy return period, there may be a significant period of time between when the product is shipped and when it issues credits on returned product.

The Company estimates the transaction price when it receives each purchase order taking into account the expected reductions of the selling price initially billed to the wholesaler/distributor arising from all of the above factors. The Company has developed estimates for future returns and chargebacks and the impact of other discounts and fees it pays, although ALKINDI SPRINKLE®, Carglumic Acid, Betaine Anhydrous, and Nitisinone sales are not subject to returns. When estimating these adjustments to the transaction price, the Company reduces it sufficiently to be able to assert that it is probable that there will be no significant reversal of revenue when the ultimate adjustment amounts are known.

The Company stores its ALKINDI SPRINKLE®, Carglumic Acid, Betaine Anhydrous, and Nitisinone inventory at its pharmacy distributor customer locations, and sales are recorded when stock is pulled and shipped to fulfill specific patient orders. The Company recognizes revenue and cost of sales from products sold to wholesalers upon delivery to the wholesaler location. At that time, the wholesalers take control of the product as they take title, bear the risk of loss of ownership and have an enforceable obligation to pay the Company. They also have the ability to direct sales of product to their customers on terms and at prices they negotiate. Although wholesalers have product return rights, the Company does not believe they have a significant incentive to return the product.

Upon recognition of revenue from product sales, the estimated amounts of credit for product returns, chargebacks, distribution fees, prompt payment discounts, state Medicaid and GPO fees are included in sales reserves, accrued liabilities and net accounts receivable. The Company monitors actual product returns, chargebacks, discounts and fees subsequent to the sale. If these amounts end up differing from its estimates, it will make adjustments to these allowances, which are applied to increase or reduce product sales revenue and earnings in the period of adjustment.

Stock-Based Compensation

The Company accounts for stock-based compensation under the provisions of ASC 718 Compensation – Stock Compensation. The guidance under ASC 718 requires companies to estimate the fair value of the stock-based compensation awards on the date of grant and record expense over the related service periods, which are generally the vesting period of the equity awards. Compensation expense is recognized over the period during which services are rendered by consultants and non-employees until completed. At the end of each financial reporting period prior to completion of the service, the fair value of these awards is remeasured using the then-current fair value of our common stock and updated assumption inputs in the Black-Scholes option-pricing model (“BSM”).

The Company estimates the fair value of stock-based option awards using the BSM. The BSM requires the input of subjective assumptions, including the expected stock price volatility, the calculation of expected term, forfeitures and the fair value of the underlying common stock on the date of grant, among other inputs. The risk-free interest rate was determined from the implied yields for zero-coupon U.S. government issues with a remaining term approximating the expected life of the options or warrants. Dividends on common stock are assumed to be zero for the BSM valuation of the stock options. The expected term of stock options granted is based on vesting periods and the contractual life of the options. Expected volatilities are based on the Company's historical volatility subsequent to our IPO, which we believe represents the most accurate basis for estimating expected future volatility under the current conditions. We account for forfeitures as they occur.

49

Table of Contents

Research and Development Expenses

R&D expenses include both internal R&D activities and external contracted services. Internal R&D activity expenses include salaries, benefits and stock-based compensation and other costs to support our R&D operations. External contracted services include product development efforts including certain product licensor milestone payments, clinical trial activities, manufacturing and control-related activities and regulatory costs. R&D expenses are charged to operations as incurred. We review and accrue R&D expenses based on services performed and rely upon estimates of those costs applicable to the stage of completion of each project. Significant judgments and estimates are made in determining the accrued balances at the end of any reporting period. Actual results could differ from our estimates.

Upfront payments and milestone payments made for the licensing of technology for products that are not yet approved by the FDA are expensed as R&D in the period in which they are incurred. Nonrefundable advance payments for goods or services to be received in the future for use in R&D activities are recorded as prepaid expenses and are expensed as the related goods are delivered or the services are performed.

Off-Balance Sheet Transactions

We do not have any off-balance sheet transactions.