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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
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COMMISSION FILE NUMBER: 0-27330
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HEARTSTREAM, INC.
(exact name of registrant as specified in its charter)
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DELAWARE 91-1577477
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
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2401 4TH AVENUE, SUITE 300
SEATTLE, WA 98121
(Address of principal executive offices)
(206) 443-7630
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $0.001 PAR VALUE
PREFERRED SHARE PURCHASE RIGHTS
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Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes /X/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendments to
this Form 10-K. / /
Aggregate market value of voting stock held by non-affiliates of the
Registrant as of March 7, 1997 was $105.6 million, based upon the closing price
on the Nasdaq National Market reported for such date. For purposes of this
disclosure, shares of common stock held by officers, directors and shareholders
whose ownership exceeds five percent of the shares outstanding have been
excluded in that such persons may be deemed to be affiliates. This determination
of affiliate status may not be a conclusive determination for other purposes.
As of March 7, 1997, the registrant had outstanding 11,675,972 shares of
common stock.
DOCUMENTS INCORPORATED BY REFERENCE
(1) Portions of the 1996 Annual Report to Stockholders are incorporated by
reference herein to Parts I and II.
(2) Portions of the Company's definitive Proxy Statement, filed on March 19,
1997 with the Securities and Exchange Commission, are incorporated by
reference herein to Part III.
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PART I
ITEM 1. BUSINESS
GENERAL
Heartstream, Inc. ("Heartstream" or the "Company") manufactures and markets
an automatic external defibrillator ("AED") designed to improve survival rates
from sudden cardiac arrest ("SCA"), the leading cause of death in the United
States. The Company's AED, the ForeRunner-TM-, is designed to provide advanced
technology to a greater number of trained responders, thereby expanding the
market for AEDs and making early defibrillation widely available. The ForeRunner
incorporates proprietary technologies, such as the Company's biphasic waveform
technology and self-test features, which allow it to be easy to use, essentially
maintenance-free, small, lightweight and inexpensive.
During 1996, the Company completed development of the ForeRunner AED and
received the required approvals to market the ForeRunner AED and its accessories
in numerous countries, including the United States, Canada, Switzerland, and 18
countries in the European Union. The Company initiated commercial shipments of
the ForeRunner and its accessories to the Company's direct customers and
international distribution partners in November 1996.
In February 1996, the Company completed its initial public offering, selling
4,140,000 shares of common stock at $13.00 per share, raising net proceeds of
$49.0 million.
The Company is located in Seattle, Washington and was incorporated in 1992
in the state of Delaware.
BACKGROUND
SUDDEN CARDIAC ARREST The heart is divided into four chambers, two upper
chambers called atria and two lower chambers called ventricles. A healthy heart
at rest typically beats between 60 to 100 times per minute and pumps over 1,800
gallons of blood per day. Each normal heartbeat is the result of electrical
signals generated in the right atrium. These electrical signals cause a physical
contraction of the atria, which pump blood into the ventricles. The electrical
impulses then continue to the ventricles, causing them to contract and
distribute blood throughout the body.
Abnormal rhythms of the heart muscle, known as arrhythmias, arise from
numerous causes, including tissue damage due to heart attacks, congenital
defects and certain diseases. The most serious type of arrhythmia is ventricular
fibrillation. In ventricular fibrillation, the heart's normal electrical
impulses suddenly become disorganized and erratic. The heart ceases to pump
blood and the victim immediately loses consciousness. Unless ventricular
fibrillation is terminated within minutes through prompt medical intervention,
the individual will die. This event is known as a sudden cardiac arrest.
DEFIBRILLATION THERAPY. The only effective emergency treatment for
ventricular fibrillation is defibrillation, which involves the application of an
electric shock to the heart using a device called a defibrillator.
Defibrillation is administered through hand-held paddles pressed against the
patient's chest or through self-adhesive electrode pads which are applied
directly to the patient's chest. Successful defibrillation terminates
ventricular fibrillation and enables the heart to resume a coordinated, normal
rhythm. Although cardiopulmonary resuscitation ("CPR") can be performed in the
event of SCA, it does not terminate ventricular fibrillation and is only useful
to sustain life for a few additional minutes until defibrillation can be
administered.
Timely defibrillation is the single most critical factor in rescuing a
victim of SCA. The sooner defibrillation therapy can be performed, the higher
the likelihood of survival. Survival rates from ventricular fibrillation can be
greater than 70% if defibrillation therapy is administered within the first few
minutes of SCA. However, response times for paramedics or emergency medical
technicians ("EMTs"), currently the primary responders to SCA, to arrive on site
with a defibrillator are often more than ten minutes, resulting in average SCA
survival rates in the United States of approximately 5%.
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PRODUCT
The following are the key features of the ForeRunner AED:
EASE OF USE. Deployment of the device, attachment to the patient and
control of operation is simple and intuitive, with icons, voice prompts and text
prompts guiding the operator through each step. When the device is turned on and
the electrode pads are applied to the patient, the device automatically analyzes
the patient's electrocardiogram ("ECG") with a proprietary algorithm. If the
device determines that defibrillation therapy is appropriate, the device advises
the operator through voice and text prompts, charges its capacitor and then
instructs the operator to deliver therapy by depressing the illuminated shock
button.
REDUCED MAINTENANCE. The ForeRunner AED utilizes long-life,
maintenance-free disposable battery packs that can keep the ForeRunner in a
ready state for approximately one year, depending on usage. The ForeRunner
automatically tests and calibrates itself on a daily basis to assure device
readiness. A visual status indicator indicates at all times whether the
ForeRunner has passed its last test and emits an audible alert, similar to a
smoke detector, if the battery pack needs replacing or service is required.
These self-test features eliminate the need for the daily maintenance that most
manufacturers and the United States Food and Drug Administration ("FDA")
currently recommend be performed on other available AEDs.
PATIENT AND OPERATOR SAFETY. When attached to a patient, the ForeRunner AED
analyzes a patient's ECG using a proprietary signal processing algorithm and
advises the operator to deliver a shock only when specific life-threatening
heart rhythms are detected. The ForeRunner sounds a tone when the device is
charging, warns the operator to avoid patient contact during the shock and
illuminates the shock button. To deliver therapy, the operator is required to
depress the shock button, assuring that a shock is only delivered under the
control of the operator. Additionally, unlike most other currently available
AEDs, the ForeRunner continues to automatically monitor and analyze the
patient's heart rhythm after defibrillation therapy has been delivered and will
audibly and visually alert the responder to any changes in the patient's
condition.
DURABILITY. The Company believes that EMTs and other first responders
require AEDs that can withstand the rigorous demands of field handling during
emergency situations. To meet this need, the ForeRunner AED is constructed with
an impact-resistant plastic shell, rubberized outer coating, solid state
components and internal supports designed to resist crushing. The ForeRunner is
designed to meet rigorous standards relating to temperature, humidity, shock,
drop, vibration, moisture, operation at altitude and electromagnetic
interference.
PORTABILITY. The ForeRunner AED weighs approximately four pounds and is
about the size of a hardcover book. The ForeRunner can be easily carried along
with life support, first aid and other equipment, and can be deployed in a
variety of readily accessible locations.
EVENT RECORDING AND REPORTING. The ForeRunner device meets a wide variety
of event recording needs, including the ability to record both voice and ECG
data. This data can be readily accessed after the event by a physician or
paramedic. The information is stored in a solid state format for archiving and
convenient data analysis.
TRAINING. The ForeRunner AED uses a proprietary PC training card to
facilitate convenient operator training, and does not require expensive and
bulky training equipment. The Company believes that the training card, together
with other ForeRunner features, can reduce training and retraining time and
resources.
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PRODUCT TECHNOLOGY
The Company's ForeRunner AED incorporates a number of key technologies
including:
BIPHASIC DEFIBRILLATION WAVEFORM. Except for the Company's ForeRunner, all
commercially available AEDs use a monophasic waveform to deliver 200 to 360
Joules of energy to the heart. In a monophasic waveform, the current throughout
the pulse flows through the body in one direction from one electrode pad to the
other. In a biphasic waveform, the direction of the current is reversed part way
through the pulse. The ForeRunner AED is designed to deliver 150 Joules of
energy in a biphasic waveform. Based on data obtained from its clinical trials
and pilot programs, the Company believes that its lower-energy biphasic waveform
is comparable in efficacy to higher-energy monophasic waveforms used in existing
AEDs. This lower-energy biphasic technology facilitates the fabrication of a
defibrillator that is smaller, lighter, and less expensive.
IMPEDANCE-CONTROLLED WAVEFORM DELIVERY. For an external defibrillation
pulse to be effective, sufficient energy must pass through the chest wall and
across the heart. However, the electrical resistance (or impedance) of the chest
wall varies widely depending on the individual. Chest impedance is influenced by
a number of anatomical and physiological factors and cannot be estimated by
observing an individual's physical characteristics. AEDs utilizing a monophasic
waveform currently are designed to deliver a high level of energy in an attempt
to treat patients with high chest impedance. On the other hand, patients with
low impedance may receive substantially higher current than necessary, causing
what may be unnecessary damage to the heart. In contrast, the ForeRunner AED
incorporates a proprietary method of measuring a factor correlated to a
patient's chest impedance during the first millisecond of shock delivery and
automatically adjusts the waveform for that specific patient's impedance.
PATIENT ANALYSIS SYSTEM. A crucial factor in the safety and performance of
any AED is the ability of the device to accurately assess the cardiac state of
the patient and make an appropriate therapy decision. This evaluation is
performed by sensing electrical signals (ECG) from the patient's heart through
electrode pads and using a computerized algorithm to interpret the ECG and make
a therapy decision. Algorithm performance is evaluated on two criteria: the
ability of the algorithm to detect life-threatening ventricular arrhythmias
(sensitivity), and the ability of the algorithm to discriminate rhythms or
arrhythmias that should not be shocked (specificity). The ForeRunner AED
incorporates a proprietary patient analysis system which is designed to exceed
the sensitivity and specificity performance standards set for patient analysis
algorithms incorporated into currently available AEDs. The ability of the
algorithm to sense when ECG data from the patient has been distorted or
corrupted by background noise, such as patient motion, and appropriately filter
or ignore this distorted data is a critical feature required for accurate
algorithm performance.
SELF-TEST TECHNOLOGY. The ForeRunner AED incorporates proprietary
self-testing, self-calibration and status indicator technologies. Together,
these technologies are designed to provide the operator with a high degree of
assurance of device readiness and eliminate the need for daily battery
maintenance and manual readiness testing.
BATTERY TECHNOLOGY. The Company utilizes a proprietary long-life disposable
battery pack that is designed to maintain the ForeRunner AED in a ready state
for approximately one year, depending upon utilization. The batteries are
maintenance-free and are much smaller and lighter than the batteries of existing
AEDs. The battery pack incorporates a patented method of monitoring battery
capacity, which is a key element in achieving predictable battery performance.
SOLID STATE ENERGY SWITCHING. The Company's proprietary biphasic waveform
technology and impedance-controlled waveform delivery technology reduce the
ForeRunner's energy and voltage requirements. Lower voltage requirements enable
the ForeRunner AED to incorporate solid state switching technology. Many
competing AEDs utilize less durable and less reliable electromechanical switches
because of their higher energy and voltage requirements.
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DATA STORAGE AND COMMUNICATIONS. Many community emergency response systems
require that their defibrillators contain a data storage system for the
recording of patient ECG and other pertinent event data. Most existing AEDs
utilize tape recorders to record and store event data. These systems are
frequently damaged because of their unsuitability for a rugged field
environment. The ForeRunner AED utilizes a small, durable, solid state data
storage card (PC card) for data collection. Data from this PC card can be easily
accessed utilizing a personal computer and the Company's proprietary data
analysis software package.
MARKETS
UNITED STATES
The United States market for automatic external defibrillators can be
broadly divided into the out-of-hospital market and the hospital market.
OUT-OF-HOSPITAL MARKET. Most SCA events occur outside of the hospital. Due
to the awareness of improved clinical outcomes achieved with immediate
intervention, public health organizations and regulatory authorities emphasize
training and equipping various segments of out-of-hospital emergency responders
to deliver defibrillation therapy. The amount of training required and the types
of emergency personnel and first responders authorized to use AEDs generally is
subject to regulation that varies from jurisdiction to jurisdiction. The
out-of-hospital market can be segmented based on the skill levels of these
various groups of responders as follows:
Advanced Life Support/Paramedic. The advanced life support ("ALS") paramedic
segment is comprised of highly skilled individuals who receive approximately 800
to 2,000 hours of training in advanced life support procedures. These
professionals generally utilize portable manual defibrillators that may
incorporate many of the same advanced features found in hospital-based
defibrillators. The Company estimates that there are approximately 70,000
paramedics and 30,000 ALS ambulances in the United States.
Basic Life Support/Professional Emergency Medical Technician. There are
approximately 600,000 emergency medical technicians trained in basic life
support ("BLS") in the United States. Professional emergency medical technicians
("EMT") initially receive approximately 120 hours of training, frequently
respond to out-of-hospital medical emergencies and typically work for the fire
service or for private ambulance service providers. The Company estimates that
there are approximately 15,000 BLS ambulances and approximately 75,000 fire
department-based vehicles, many of which are staffed with EMTs. The Company
estimates that less than 25% of these vehicles are presently equipped with an
AED.
First Responder. The first responder segment consists of individuals who
typically have basic first aid training and who often have a duty to respond to
medical emergencies until a higher level of medical care arrives on the scene,
generally a paramedic or EMT. This includes police officers, security guards,
flight attendants, other emergency response personnel, and medical professionals
in clinics or other allied health locations. Individuals in this segment differ
from professional EMTs in that they are only infrequently called upon to respond
to cardiac emergencies and have varying degrees of defibrillator training.
Police and other public safety vehicles represent a significant AED
deployment opportunity for many communities because they are more numerous than
other emergency vehicles, are connected with the 911 network, and are often
first on the scene of a medical emergency. Pilot studies have demonstrated
improved survival from SCA by equipping police vehicles with AEDs. The Company
estimates that there are approximately 260,000 police vehicles in the United
States. However, the Company believes that fewer than one percent are equipped
with AEDs. The Company believes that the limited adoption by police personnel
has been due in part to the high training and maintenance requirements, costs of
ownership and size of commercially available AEDs, as well as, in certain
jurisdictions, regulatory and labor restrictions on police response to medical
emergencies.
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Allied medical sites include clinics, office-based surgical facilities,
extended care facilities, nursing homes, assisted living centers, military sites
and other locations where professional medical services are provided out of the
hospital. These locations have a greater chance of being the site of cardiac
arrest for a variety of reasons including the use of anesthesia and the
demographics of those under care. For example, the Company estimates that there
are more than 190,000 physician offices in the United States.
Another portion of the first responder market segment includes other sites
where large numbers of people gather or are isolated from emergency medical
services and where personnel are trained and responsible for responding to
medical emergencies, including corporate medical stations, stadium/arena medical
stations, cruise ships, high rise office buildings, athletic facilities, and
amusement parks.
HOSPITAL MARKET. The hospital market in the United States consists of
approximately 5,600 acute care hospitals and 1,000 other hospitals. To date,
defibrillation equipment for this market has consisted primarily of manual
defibrillators that require the operator to read and interpret the patient's
ECG. These products often include advanced features for treating heart
conditions other than ventricular fibrillation, such as temporary external
pacing, used to increase the heart rate of a patient with bradycardia, or
cardioversion, used to reduce the heart rate of a patient with tachycardia.
These products are designed to be used by highly trained professionals,
generally physicians. Because of the time-critical nature of delivering
defibrillation to victims in cardiac arrest and the relatively high cost of
these manual defibrillators, this type of equipment is generally located in
high-risk areas in the hospital such as emergency rooms, cardiac care units,
critical care units and operating rooms. However, in general wards, during
patient transport and in other areas of the hospital where SCA occurs less
frequently, defibrillation equipment is often not as readily accessible, and
response to victims in SCA can be significantly delayed by the need to locate
equipment and appropriately trained personnel. As a result, the Company believes
that a market opportunity exists for low-cost, easy-to-use AEDs in the hospital.
INTERNATIONAL
EUROPE. European countries with advanced resuscitation standards and AED
programs for minimally trained personnel include the United Kingdom, the
Scandinavian and Benelux countries, and Germany. The European Resuscitation
Council ("ERC") has endorsed many of the same concepts as the AHA. Most notably,
the ERC supports the concept of equipping all first responders and general
practitioners with AEDs as well as placing AEDs in public areas. While the EMS
structure differs country by country, the ERC has recommended that EMTs,
firefighters, police and other service personnel be trained and equipped to
respond to a cardiac emergency with an AED.
ASIA/PACIFIC. Japan is presently in the process of adopting an early
response model for pre-hospital cardiac arrest victims. Until recently, Japan
had virtually no paramedics in the field utilizing defibrillators. The Company
believes that the Japanese market for AEDs will develop in a similar fashion to
the United States and European markets, but at a significantly slower rate.
Australia is also a thought-leader in the field of early defibrillation and has
implemented advanced resuscitation standards for first responders throughout the
country. Other Asian countries are implementing or evaluating early
defibrillation programs as well.
LATIN AMERICA AND OTHER DEVELOPING COUNTRIES. The Company believes that
AEDs could be appropriate for use in hospitals in countries where personnel are
less trained, proper maintenance of complicated equipment is a concern and cost
is a significant issue.
SALES, MARKETING AND DISTRIBUTION
DOMESTIC. At December 31, 1996 the Company's sales and marketing
organization consisted of 26 individuals, located at the Company's facility in
Seattle, Washington and geographically disbursed throughout the country. The
Company expects to continue to devote considerable attention and resources to
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increasing public awareness regarding SCA and the benefits of early
defibrillation. The Company also plans to work with the AHA and other public
health interest organizations, physicians, insurance companies and governmental
bodies to promote the need for all communities to implement an early
defibrillation program. The Company's sales and marketing organization has had
limited experience selling and marketing the ForeRunner AED. In addition,
customer decision-making processes or budget constraints may affect the
Company's ability to successfully penetrate markets. Accordingly, there can be
no assurance that the sales and marketing organization will be cost-effective,
or that the Company's sales and marketing efforts will be successful.
Most fire departments, ambulance services and police departments are part of
municipal EMS systems. The key decision makers in these accounts typically
include the city and/or county EMS director and the system's medical director.
The Company plans to utilize its direct sales force to sell directly to these
decision makers in the larger municipalities and EMS systems throughout the
United States and to utilize a network of local and regional distributors,
supported by territory managers, to sell to the smaller and rural municipalities
and EMS organizations. Selling into other first responder markets, including the
transportation and industrial industries where the decision making is highly
centralized, is performed by the Company's corporate accounts sales personnel.
The Company believes that it may be necessary to enter into alliances with
one or more partners with significant distribution capabilities to successfully
penetrate the hospital market of the first responder market. Although the
Company has had discussions with potential domestic distributors and potential
partners, the Company has not yet entered into any domestic distribution
agreements.
INTERNATIONAL. The Company utilizes distributors for sales into
international markets and intends to continue to do so. In 1996, sales to
international distributors represented approximately 80% of net sales. The
Company has entered into international distributor agreements with Schiller AG
(covering Germany, Switzerland, Austria and other East European countries) and
Nellcor Puritan-Bennett Europe B.V. (covering France, Italy, The United Kingdom,
The Netherlands, Belgium and Luxembourg), and is in the process of negotiating
agreements with distributors in other geographic areas. The Company's
distributors typically purchase the Company's product at a discount from list
price and resell the products to end users at prices determined by the
distributor. There can be no assurance that the Company will be able to enter
into agreements with desired distributors on a timely basis or at all, or that
such distributors, which may offer a variety of other products, will devote
adequate resources to selling the Company's products.
COMPETITION
The domestic and international markets for external defibrillators are
highly competitive, and many of the Company's competitors have substantial
installed bases of products and significantly greater financial, technical,
research and development, or sales and marketing resources than the Company.
Accordingly, the Company's competitors may be able to bring new product
offerings to market quickly and may be able to increase sales of their products
by leveraging their installed bases and established distribution channels. The
Company believes that its primary competitors are companies that currently
market AEDs into the professional EMT segment of the market. This market segment
is dominated by Laerdal Medical, Inc. ("Laerdal") and Physio-Control
International Corporation ("Physio- Control"). Other competitors that sell
products into this market segment include SurVivaLink Corporation
("SurVivaLink"), Marquette Electronics, Inc. and Zoll Medical, Inc. Laerdal,
Physio-Control and SurVivaLink have either recently introduced or announced
plans to introduce new AEDs that appear to be targeted at markets similar to
those targeted by the ForeRunner defibrillator. The introduction of these or
other similar products may cause downward pricing pressure on the Company's
existing products in order for the Company to remain competitive in the market.
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The Company believes that the principal competitive factors for AEDs in the
professional EMT and first responder market segments are ease of use, low
maintenance and training requirements, cost-effectiveness, size, safety and
reliability. The ForeRunner AED is designed to address all these factors.
However, there can be no assurance that the Company's products will compete
favorably with the products offered by its competitors, or that superior
defibrillation technologies will not be developed by these competitors or others
which may render the Company's technology or products obsolete or
noncompetitive. In addition, a number of companies may be engaged in the
development of approaches for the treatment of sudden cardiac arrest other than
those utilized by the Company. There can be no assurance that superior
defibrillation technologies will not be developed by these competitors or
others, or that alternative therapies or approaches, including pharmaceutical or
other alternatives, will not render the Company's technology or products under
development obsolete or noncompetitive.
MANUFACTURING
The Company performs final assembly, testing, and inspection at its facility
in Seattle, Washington. Due to limited experience in manufacturing its products
in commercial quantities, the Company may encounter difficulties in scaling up
production of the ForeRunner device, including problems involving material
requirements planning, production yields, quality control and assurance and
shortages of qualified personnel.
The Company manufactures its products based on forecasted product orders and
purchases subassemblies and components prior to receipt of purchase orders from
customers. Lead times for materials and components ordered by the Company vary
significantly, and depend upon factors such as the specific supplier, contract
terms and demand for a component at a given time. In addition, certain
components used in the Company's products, such as flash memory chips and other
electronic components, have long lead times and have been in short supply. The
Company has acquired an inventory of flash memory chips and certain other
components in anticipation of possible shortages, and may continue this practice
for these or other components in the future. If orders do not match forecasts,
the Company may have excess or inadequate inventory of certain materials and
components. The Company purchases some key components, such as the main energy
storage capacitor and the LCD display screen used in the ForeRunner, from sole
source suppliers. For certain components, including the ForeRunner's batteries
and microprocessors, there are relatively few sources of supply. In addition,
several of the subassemblies in ForeRunner require the supplier to perform
extensive testing before the Company accepts the subassembly into its final
manufacturing process. These tests are specific to the design of ForeRunner and
if a supplier is unable to meet the Company's requirements, an alternate
supplier may be required. There can be no assurance that establishment of
additional or replacement suppliers for these components can be accomplished
quickly, or at all. Any significant component supply delay or interruption could
require the Company to qualify new sources of supply, if available.
GOVERNMENT REGULATION
The design, manufacturing, labeling, distribution and marketing of the
Company's products are subject to extensive and rigorous government regulation
in the United States and certain other countries where the process of obtaining
and maintaining required regulatory approvals is lengthy, expensive and
uncertain.
The Company successfully completed a GMP audit of its facility and
subsequently received FDA clearance to market ForeRunner and its accessories in
the United States in September 1996. In May 1996, the Company applied for and
received ISO 9001 certification. In addition, the Company received its CE mark
under the European Medical Device Directives Annex II process in May 1996,
allowing Heartstream to market ForeRunner and its accessories in the 18
countries of the European Economic Area. Finally, the Company received a
certificate of compliance from the Canadian Standards Association in October
1996, permitting the Company to market the ForeRunner AED in Canada. In order
for the Company to market
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the ForeRunner and its related accessories in certain other foreign
jurisdictions, the Company and its distributors and agents must obtain the
required regulatory approvals and clearances. These regulations vary from
country to country. There can be no assurance that the Company will obtain
regulatory approvals in such countries or that it will not be required to incur
significant costs in obtaining or maintaining its foreign regulatory approvals.
Regulatory approvals may include significant limitations on the indicated
uses for which the product may be marketed. In addition, the Company and its
distributors must comply with various regulations regarding product safety and
quality in order to maintain approvals. The Company's manufacturing processes
will be required to comply with the GMP regulations of the FDA. These
regulations include design, testing, production, control, documentation and
other requirements. Enforcement of GMP regulations has increased significantly
in the last several years, and the FDA has publicly stated that compliance will
be more strictly scrutinized. The Company's facilities and manufacturing
processes, as well as those of certain of the Company's third party suppliers,
are subject to periodic inspection by the FDA and other agencies. Failure to
comply with these and other applicable regulatory requirements could result in,
among other things, warning letters, fines, injunctions, civil penalties, recall
or seizure of products, total or partial suspension of production, refusal of
the government to grant premarket clearance or premarket approval for devices,
withdrawal of approvals and criminal prosecution.
RESEARCH AND DEVELOPMENT
Research and development activities at the Company have historically been
focused on development of the ForeRunner AED and its accessories. Recent
activities of the staff of 26 individuals have focused on evaluating new
products and improving the manufacturing process of the ForeRunner. Management
believes the success of the Company is dependent, among other things, upon the
ability to produce its products in a cost-effective manner and has devoted
resources help improve its manufacturing process. In addition, management
believes the long-term success of the Company is dependent upon the ability to
exploit its core technologies or develop other cardiac care products which
complement the Company's existing products. There can be no assurance that the
Company's research and development efforts will be able to utilize existing
technologies for other purposes, will result in additional commercially
available products, or will not incur substantial difficulties or delays.
For the years ended December 31, 1996, 1995, and 1994, the Company's
research and development expenditures were approximately $6.4 million, $5.2
million, and $2.5 million, respectively.
PATENTS AND PROPRIETARY TECHNOLOGY; RELATED LITIGATION
At December 31, 1996, the Company had filed a total of 35 patent
applications with the United States Patent and Trademark Office, 16 of which had
either been issued or allowed. The Company's success will depend in part on its
ability to obtain additional patent protection for its products and processes,
to preserve its trade secrets and to operate without infringing the proprietary
rights of third parties. The Company's strategy is to actively pursue patent
protection in the United States and foreign jurisdictions for technology that it
believes to be proprietary and that offers a potential competitive advantage for
its products. However, no assurance can be given that any patents from pending
patent applications or from any future patent application will be issued, that
the scope of any patent protection will exclude competitors or provide
competitive advantages to the Company, that any of the Company's patents will be
held valid if subsequently challenged or that others will not claim rights in or
ownership of the patents and other proprietary rights held by the Company. In
addition, the laws of certain foreign countries do not protect the Company's
intellectual property rights to the same extent as do the laws of the United
States. Litigation or regulatory proceedings, which could result in substantial
cost and uncertainty to the Company, may also be necessary to enforce patent or
other intellectual property rights of the Company or to determine the scope and
validity of other parties' proprietary rights. There can be no assurance that
third parties will not assert infringement claims in the future with respect to
the Company's current or
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future products or that any such claims will not require the Company to enter
into license arrangements or result in litigation, regardless of the merits of
such claims. No assurance can be given that any necessary licenses can be
obtained on commercially reasonable terms, or at all. Should litigation with
respect to any such claims commence, such litigation could be extremely
expensive and time consuming regardless of the outcome of such litigation.
Litigation or regulatory proceedings may also be necessary to enforce patent or
other intellectual property rights of the Company or to determine the scope and
validity of other parties' proprietary rights. There can be no assurance that
third parties will not assert infringement claims in the future with respect to
the Company's products or that any such claims will not require the Company to
enter into license arrangements or result in litigation, regardless of the
merits of such claims.
The medical device market has been characterized by extensive litigation
regarding patents, trade secret and other intellectual property rights. On
November 13, 1995, Physio-Control Corporation ("Physio-Control"), a competitor
of the Company, filed a lawsuit in Washington state court alleging trade secret
misappropriation and tortious interference with business relations against the
Company and five of its employees and their spouses in connection with
development of ForeRunner. These employees were founders of Heartstream and
former employees of Physio-Control. The complaint includes related allegations
that the five employees breached proprietary information agreements with
Physio-Control. The complaint seeks injunctive relief, unspecified monetary
damages and an order declaring Physio-Control the owner of certain patent
applications filed by the Company and any patents that may issue from those
applications. Heartstream has filed counterclaims against Physio-Control. The
pending litigation has resulted and will continue to result in substantial
expense to the Company and significant diversion of effort by the Company's
technical and management personnel. If the court finds against the Company, the
Company could be enjoined from manufacturing or commercializing its ForeRunner
product, the Company could be required to seek licenses from Physio-Control, and
the Company could also be held liable for damages. The litigation is currently
in the discovery phase with a trial date set for September 1997. The Company has
conducted a review of its technology in light of the Physio-Control claims and,
after consultation with its intellectual property and litigation counsels,
believes that the Company should prevail in the litigation based on several
defenses including, among other things, the Company's conclusion that it has
independently developed the technology at issue. However, litigation is subject
to inherent uncertainties, especially in cases such as this where complex
technical issues may be decided by a lay jury. Accordingly, no assurance can be
given that the lawsuit will not be decided against the Company. Adverse
determinations in the litigation with Physio-Control could have a material
adverse effect on the Company's business, financial condition and results of
operations.
On January 7, 1997, the Company was awarded a patent relating to the
Company's defibrillator self-test technology. On January 10, 1997, the Company
filed a lawsuit against Physio-Control for infringement of this patent.
Physio-Control has filed a counterclaim against the Company claiming
infringement of one of Physio-Control's patents. The litigation is at a very
early stage and a trial date has not yet been determined.
While the Company generally enters into confidentiality agreements with its
employees and consultants, there can be no assurance that the Company's trade
secrets or proprietary technology will not become known or be independently
developed by competitors in such a manner that the Company has no practical
recourse.
EMPLOYEES
As of December 31, 1996, the Company had 95 full-time employees, 26 of whom
were engaged in research and development, 17 in finance and administration, 26
in marketing and sales, 16 in manufacturing and 10 in regulatory and quality
assurance. None of the Company's employees are covered by collective bargaining
agreements, and the Company believes its relations with its employees are good.
The Company's ability to operate successfully depends in significant part
upon the continued service of certain key scientific, technical and managerial
personnel, and its continuing ability to attract and retain
10
<PAGE>
additional highly qualified scientific, technical and managerial personnel.
Competition for such personnel is intense, and there can be no assurance that
the Company can retain such personnel or that it can attract or retain other
highly qualified scientific, technical and managerial personnel in the future.
In addition, many employees of the Company, including a number of its key
scientific, technical and managerial personnel, are subject to the terms of
confidentiality agreements with respect to proprietary information of their
former employers. The failure of these employees to comply with the terms of
their agreements with, or other obligations to, such former employers could
result in assertion of claims against the Company and such employees, which, if
successful, could restrict their role with the Company.
OTHER FACTORS AFFECTING OPERATING RESULTS
This Form 10-K contains forward-looking statements which involve risks and
uncertainties. The Company's actual results could differ materially from those
anticipated by such forward-looking statements as a result of many factors.
These factors include those discussed above as well as the following:
LIMITED OPERATING HISTORY; HISTORY OF LOSSES AND EXPECTATION OF FUTURE
LOSSES. The Company was founded in December 1992 and to date has engaged
primarily in organizational, research and development, market development and
clinical trial activities. The Company has generated limited revenues and, as of
December 31, 1996, had an accumulated deficit of approximately $24.8 million.
The Company expects to continue to incur operating losses at least through mid
1998 as it increases market development and penetration activities, initiates
new research and development projects, seeks regulatory clearance for its
products in additional jurisdictions and increases administrative activities to
support growth of the Company. The Company has limited experience in
manufacturing, marketing or selling its products in commercial quantities and
there can be no assurance that the ForeRunner AED will ever gain commercial
acceptance or that the Company will ever achieve profitability.
DEPENDENCE UPON FORERUNNER. The ForeRunner AED and its related accessories
are currently the Company's only products. There can be no assurance ForeRunner
and its accessories or any other product developed by the Company will be safe
or effective, approved by regulatory authorities or successfully marketed. The
Company expects that ForeRunner and its accessories will account for
substantially all of the Company's revenues for the foreseeable future.
UNCERTAINTY OF MARKET ACCEPTANCE AND DEPENDENCE ON MARKET DEVELOPMENT. The
Company's success is substantially dependent upon market acceptance of the
ForeRunner AED. Currently, all commercially available AEDs utilize a monophasic
waveform and utilize 200 to 360 Joules of energy in delivering their
defibrillation therapy. Many of these AEDs have been marketed for several years,
comply with the AHA recommended guideline for external defibrillation therapy
and have been extensively used in the field. The Company's ForeRunner AED
utilizes a biphasic waveform delivered at lower energy levels. There can be no
assurance that the market will widely accept the Company's lower energy biphasic
waveform protocol. The failure of ForeRunner's defibrillation protocol to be
accepted by the market in a timely fashion, or at all, could have a material
adverse effect on the Company's business, financial condition and results of
operations. In addition, there can be no assurance that ForeRunner will
demonstrate benefits in ease of use, maintenance and safety or will achieve
acceptance in its target markets.
The Company's success is also substantially dependent upon market
development and expansion. AEDs are currently marketed by a number of companies
into the existing EMT market, the Company's initial target market. The Company's
future success depends upon substantially increasing the number of AEDs sold
into the professional EMT market segment, as well as the emerging first
responder market. Development of the first responder market will depend in a
large part on the Company's ability to demonstrate to physicians and potential
customers the benefits, safety, efficacy and cost-effectiveness of widespread
use of its AED by responders who are less trained than EMTs. There can be no
assurance that ForeRunner will gain market acceptance or that market demand for
ForeRunner will be sufficient to allow profitable operations.
11
<PAGE>
Several states have enacted laws and regulations which govern the delivery
of emergency medical services, including the use of external defibrillators.
These laws and regulations in many cases restrict use of these devices to
specified categories of trained personnel, mandate levels of operator training,
and, in some cases, require that certain features be incorporated into external
defibrillators, including features such as an ECG strip chart printer which are
not currently incorporated into the ForeRunner AED. Accordingly, market
acceptance of the ForeRunner will be significantly dependent upon the Company's
ability to convince state and local government bodies and medical directors of
the safety and efficacy of the ForeRunner and its potential for widespread
deployment. There can be no assurance that such restrictions on the use of AEDs
will be eased or removed.
UNCERTAIN CUSTOMER DECISION PROCESSES. Most fire and police departments are
part of municipal EMS systems. The key decision makers in these accounts
typically include the city and/or county EMS director and the system's medical
director. The decision process of these customers may be affected by budgetary
constraints, and other government bureaucracy. In addition, customers in other
market segments may reflect decision processes which are highly centralized.
Accordingly, the Company believes the purchasing decision of many of its
customers may be characterized by long decision processes, which may result in
long sales cycles for the Company's product.
FLUCTUATIONS IN OPERATING RESULTS. The Company's results of operations may
fluctuate significantly from quarter to quarter and will depend upon numerous
factors, including actions relating to regulatory matters, the extent to which
the Company's products gain market acceptance, and competition. Results of
operations will also be affected by the timing of orders received and the
ability of its sales force and distributors to effectively commercialize the
Company's products.
PRODUCT LIABILITY AND RECALL RISK; LIMITED INSURANCE COVERAGE. The
manufacture and sale of medical products entail significant risk of product
liability claims or product recalls. There can be no assurance that the
Company's existing insurance coverage limits are adequate to protect the Company
from any liabilities it might incur in connection with the sale of its product.
In addition, the Company may require increased product liability coverage as its
products are further commercialized. Such insurance is expensive and in the
future may not be available on acceptable terms, if at all. A successful product
liability claim or series of claims brought against the Company in excess of its
insurance coverage, or a recall of the Company's products, could have a material
adverse effect on the Company's business, financial condition and results of
operations.
POSSIBLE VOLATILITY OF STOCK PRICE. The stock market has from time to time
experienced significant price and volume fluctuations that are unrelated to the
operating performance of particular companies. These broad market fluctuations
may adversely affect the market price of the Company's common stock. In
addition, the market price of the Company's common stock is likely to be highly
volatile due to the Company's relatively recent introduction of its product.
Factors such as fluctuations in the Company's operating results, announcements
of technological innovations or new products by the Company or its competitors,
FDA and international regulatory actions, developments with respect to patents
or proprietary rights, public concern as to the safety of products developed by
the Company or others, changes in health care policy in the United States and
internationally, changes in stock market analyst recommendations regarding the
Company, other medical device companies or the medical device industry generally
and general market conditions may have a significant effect on the market price
of the common stock.
ITEM 2. PROPERTIES
The Company leases approximately 31,300 square feet of manufacturing and
office space in Seattle, Washington. The Company's lease expires in July 2001,
although the Company may terminate the lease in December 1999, or may extend the
lease for two additional terms of three or five years following expiration of
the initial lease term. The Company believes that its current facility will meet
its requirements through 1997 and is in the process of evaluating additional
production and office alternatives which would allow for growth of the Company.
12
<PAGE>
ITEM 3. LEGAL PROCEEDINGS
The medical device market has been characterized by extensive litigation
regarding patents, trade secret and other intellectual property rights. On
November 13, 1995, Physio-Control Corporation ("Physio-Control"), a competitor
of the Company, filed a lawsuit in Washington state court alleging trade secret
misappropriation and tortious interference with business relations against the
Company and five of its employees and their spouses in connection with
development of ForeRunner. These employees were founders of Heartstream and
former employees of Physio-Control. The complaint includes related allegations
that the five employees breached proprietary information agreements with
Physio-Control. The complaint seeks injunctive relief, unspecified monetary
damages and an order declaring Physio-Control the owner of certain patent
applications filed by the Company and any patents that may issue from those
applications. Heartstream has filed counterclaims against Physio-Control. The
pending litigation has resulted and will continue to result in substantial
expense to the Company and significant diversion of effort by the Company's
technical and management personnel. If the court finds against the Company, the
Company could be enjoined from manufacturing or commercializing its ForeRunner
product, the Company could be required to seek licenses from Physio-Control, and
the Company could also be held liable for damages. The litigation is currently
in the discovery phase with a trial date set for September 1997. The Company has
conducted a review of its technology in light of the Physio-Control claims and,
after consultation with its intellectual property and litigation counsels,
believes that the Company should prevail in the litigation based on several
defenses including, among other things, the Company's conclusion that it has
independently developed the technology at issue. However, litigation is subject
to inherent uncertainties, especially in cases such as this where complex
technical issues may be decided by a lay jury. Accordingly, no assurance can be
given that the lawsuit will not be decided against the Company. Adverse
determinations in the litigation with Physio-Control could have a material
adverse effect on the Company's business, financial condition and results of
operations.
On January 7, 1997, the Company was awarded a patent relating to the
Company's defibrillator self-test technology. On January 10, 1997, the Company
filed a lawsuit against Physio-Control for infringement of this patent. Physio-
Control has filed a counterclaim against the Company claiming infringement of
one of Physio-Control's patents. The litigation is at a very early stage and a
trial date has not yet been determined.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF STOCKHOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
The information required by Item 5 of Form 10-K is incorporated herein by
reference to page 52 of the 1996 Annual Report to Stockholders, attached as
Exhibit 13.1 herewith, under the caption "Corporate Directory and Information."
The closing price of the Company's Common Stock on March 7, 1997 as reported
by the Nasdaq National Market was $11.63 per share.
ITEM 6. SELECTED FINANCIAL DATA
The information required by Item 6 of Form 10-K is incorporated herein by
reference to page 25 of the 1996 Annual Report to Stockholders, attached as
Exhibit 13.1 herewith, under the caption "Selected Financial Data."
13
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The information required by Item 7 of Form 10-K is incorporated herein by
reference to pages 26-30 of the 1996 Annual Report to Stockholders, attached as
Exhibit 13.1 herewith, under the caption "Management's Discussion and Analysis
of Financial Condition and Results of Operations."
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The information required by Item 8 of Form 10-K is incorporated herein by
reference to pages 31-51 of the 1996 Annual Report to Stockholders, attached as
Exhibit 13.1 herewith.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
The information required by Item 9 of Form 10-K is incorporated herein by
reference to page 17 of the Company's definitive Proxy Statement under the
caption "Change in Accountants." Such Proxy Statement was filed on March 19,
1997 with the Securities and Exchange Commission.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by Item 10 of Form 10-K is incorporated herein by
reference to pages 4-6, 11-14, and 17 of the Company's definitive Proxy
Statement under the captions "Election of Directors," "Management," and
"Compliance with Section 16(a) of the Exchange Act." Such Proxy Statement was
filed on March 19, 1997 with the Securities and Exchange Commission.
ITEM 11. EXECUTIVE COMPENSATION
The information required by Item 11 of Form 10-K is incorporated herein by
reference to pages 11-14 of the Company's definitive Proxy Statement under the
caption "Management." Such Proxy Statement was filed on March 19, 1997 with the
Securities and Exchange Commission.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by Item 12 of Form 10-K is incorporated herein by
reference to pages 2-3 of the Company's definitive Proxy Statement under the
caption "Security Ownership of Certain Beneficial Owners and Management." Such
Proxy Statement was filed on March 19, 1997 with the Securities and Exchange
Commission.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by Item 13 of Form 10-K is incorporated herein by
reference to page 17 of the Company's definitive Proxy Statement under the
caption "Certain Transactions." Such Proxy Statement was filed on March 19, 1997
with the Securities and Exchange Commission.
14
<PAGE>
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) List of Documents Filed as a Part of This Report
(1) FINANCIAL STATEMENTS
The following financial statements of the Company and report of Ernst
& Young LLP, Independent Auditors, are incorporated by reference to pages
31-51 the 1996 Annual Report to Stockholders, attached as Exhibit 13.1
herewith:
Balance Sheets at December 31, 1996 and 1995
Statements of Operations for the years ended December 31, 1996, 1995,
and 1994
Statements of Stockholders' Equity for the years ended December 31,
1996, 1995, and 1994
Statements of Cash Flows for the years ended December 31, 1996, 1995,
and 1994
Notes to Financial Statements
Report of Ernst and Young LLP, Independent Auditors
(2) FINANCIAL STATEMENT SCHEDULES
All schedules have been omitted because the required information is
included in the financial statements or notes thereto, is not applicable,
or is not required.
(3) EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ------------ ------------------------------------------------------------------------------------------
<S> <C>
3.1(1) Restated Certificate of Incorporation, as in effect prior to the initial public offering
3.2(1) Restated Certificate of Incorporation, as currently in effect
3.3(1) Bylaws
3.4 Certificate of Designations of Rights, Preferences and Privileges of Series A
Participating Preferred Stock
4.1(1) Specimen Common Stock Certificate
4.2(2) Preferred Share Rights Agreement, dated as of December 6, 1996, between the Registrant and
ChaseMellon Shareholder Services, L.L.C.
10.1(1) Form of Indemnification Agreement between the Company and each of its directors and
officers
10.2 1993 Employee and Consultant Stock Plan, as amended, and form of Stock Option Agreement
thereunder
10.3(1) 1995 Director Option Plan and form of Stock Option Agreement thereunder
10.4(1) 1995 Employee Stock Purchase Plan and forms of agreements thereunder
10.5(1) Lease dated May 25, 1994 between the Registrant and Martin Selig
10.6(1) Restated Investors Rights Agreement dated March 16, 1995 between the Registrant and
certain holders of the Registrant's securities
10.7(1) Agreement dated August 3, 1995 between the Registrant and Oki Semiconductor
10.8(1)(3) International Distributor Agreement (undated) between the Registrant and Schiller AG
</TABLE>
15
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ------------ ------------------------------------------------------------------------------------------
<S> <C>
10.9(1) Employee Agreement dated November 8, 1993 between the Registrant and Alan J. Levy
10.10(1)(3) International Distributor Agreement dated January 1996 between the Registrant and Nellcor
Puritan-Bennett Europe B.V.
11.1 Calculation of Earnings per share
13.1 Portions of the 1996 Annual Report to Stockholders incorporated by reference
23.1 Consent of Ernst & Young LLP, Independent Auditors
24.1 Power of Attorney (see page 17)
27 Financial Data Schedule
- ------------------------
(1) Incorporated by reference to the same numbered exhibit previously filed with the Company's
registration statement on Form S-1 (No. 33-99908)
(2) Incorporated by reference to Exhibit 1 filed with the Registrant's registration statement on Form
8-A filed with the Commission on December 10, 1996
(3) Confidential treatment granted as to certain portions of this exhibit
</TABLE>
(b) Reports on Form 8-K
None.
16
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
HEARTSTREAM, INC.
By: /s/ ALAN J. LEVY
-----------------------------------------
Alan J. Levy,
PRESIDENT AND CHIEF EXECUTIVE OFFICER
POWER OF ATTORNEY:
Each person whose signature appears below hereby appoints Alan J. Levy and
Gary Onn, and each of them severally, acting alone and without the other, his or
her true and lawful attorney-in-fact with authority to execute in the name of
each such person, and to file with the Securities and Exchange Commission,
together with any exhibits thereto and other documents therewith, any and all
amendments to this Report on Form 10-K and to file the same, with exhibits
thereto and other documents in connection therewith, with the Securities and
Exchange Commission, hereby ratifying and confirming all that each of said
attorneys-in-fact, or his substitute or substitutes, may do or cause to be done
by virtue thereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on March 26, 1997, on
behalf of the registrant and in the capacities indicated:
<TABLE>
<CAPTION>
SIGNATURE TITLE
- ---------------------------------------- ----------------------------------------
<C> <S> <C>
/s/ ALAN J. LEVY
--------------------------------- President, Chief Executive Officer and
(Alan J. Levy) Director (Principal Executive Officer)
/s/ GARY ONN Director of Finance and Administration
--------------------------------- (Principal Financial and Accounting
(Gary Onn) Officer)
/s/ ELLEN M. FEENEY
--------------------------------- Director
(Ellen M. Feeney)
/s/ FRANK M. FISCHER
--------------------------------- Director
(Frank M. Fischer)
/s/ WENDE S. HUTTON
--------------------------------- Director
(Wende S. Hutton)
</TABLE>
17
<PAGE>
<TABLE>
<CAPTION>
SIGNATURE TITLE
- ---------------------------------------- ----------------------------------------
<C> <S> <C>
/s/ MARK B. KNUDSON
--------------------------------- Director
(Mark B. Knudson)
/s/ MICHAEL J. LEVINTHAL
--------------------------------- Director
(Michael J. Levinthal)
/s/ KURT C. WHEELER
--------------------------------- Director
(Kurt C. Wheeler)
</TABLE>
18
<PAGE>
CERTIFICATE OF DESIGNATIONS OF RIGHTS, PREFERENCES
AND PRIVILEGES OF
SERIES A PARTICIPATING PREFERRED STOCK
OF HEARTSTREAM, INC.
The undersigned, Alan Levy and James Shay do hereby certify:
1. That they are the duly elected and acting President and Secretary,
respectively, of Heartstream, Inc., a Delaware corporation (the "CORPORATION").
2. That pursuant to the authority conferred upon the Board of Directors
by the Certificate of Incorporation of the said Corporation, the said Board of
Directors on December 6, 1996 adopted the following resolution creating a series
of 30,000 shares of Preferred Stock designated as Series A Participating
Preferred Stock:
"RESOLVED, that pursuant to the authority vested in the Board of Directors
of the corporation by the Restated Certificate of Incorporation, the Board of
Directors does hereby provide for the issue of a series of Preferred Stock of
the Corporation and does hereby fix and herein state and express the
designations, powers, preferences and relative and other special rights and the
qualifications, limitations and restrictions of such series of Preferred Stock
as follows:
Section 1. DESIGNATION AND AMOUNT. The shares of such series shall be
designated as "SERIES A PARTICIPATING PREFERRED STOCK." The Series A
Participating Preferred Stock shall have a par value of $0.001 per share, and
the number of shares constituting such series shall be 30,000.
Section 2. PROPORTIONAL ADJUSTMENT. In the event the Corporation shall
at any time after the issuance of any share or shares of Series A Participating
Preferred Stock (i) declare any dividend on Common Stock of the Corporation
("COMMON STOCK") payable in shares of Common Stock, (ii) subdivide the
outstanding Common Stock or (iii) combine the outstanding Common Stock into a
smaller number of shares, then in each such case the Corporation shall
simultaneously effect a proportional adjustment to the number of outstanding
shares of Series A Participating Preferred Stock.
Section 3. DIVIDENDS AND DISTRIBUTIONS.
(a) Subject to the prior and superior right of the holders of
any shares of any series of Preferred Stock ranking prior and superior to the
shares of Series A Participating Preferred Stock with respect to dividends, the
holders of shares of Series A Participating Preferred Stock shall be entitled to
receive when, as and if declared by the Board of Directors out of funds legally
available for the purpose, quarterly dividends payable in cash on the last day
of January, April, July and October in each year (each such date being referred
to herein as a "QUARTERLY DIVIDEND PAYMENT DATE"), commencing on the first
Quarterly Dividend Payment Date after the first issuance of a share or fraction
of a share of Series A Participating Preferred
<PAGE>
Stock, in an amount per share (rounded to the nearest cent) equal to 1,000 times
the aggregate per share amount of all cash dividends, and 1,000 times the
aggregate per share amount (payable in kind) of all non-cash dividends or other
distributions other than a dividend payable in shares of Common Stock or a
subdivision of the outstanding shares of Common Stock (by reclassification or
otherwise), declared on the Common Stock since the immediately preceding
Quarterly Dividend Payment Date, or, with respect to the first Quarterly
Dividend Payment Date, since the first issuance of any share or fraction of a
share of Series A Participating Preferred Stock.
(b) The Corporation shall declare a dividend or distribution on
the Series A Participating Preferred Stock as provided in paragraph (a) above
immediately after it declares a dividend or distribution on the Common Stock
(other than a dividend payable in shares of Common Stock).
(c) Dividends shall begin to accrue on outstanding shares of
Series A Participating Preferred Stock from the Quarterly Dividend Payment Date
next preceding the date of issue of such shares of Series A Participating
Preferred Stock, unless the date of issue of such shares is prior to the record
date for the first Quarterly Dividend Payment Date, in which case dividends on
such shares shall begin to accrue from the date of issue of such shares, or
unless the date of issue is a Quarterly Dividend Payment Date or is a date after
the record date for the determination of holders of shares of Series A
Participating Preferred Stock entitled to receive a quarterly dividend and
before such Quarterly Dividend Payment Date, in either of which events such
dividends shall begin to accrue from such Quarterly Dividend Payment Date.
Accrued but unpaid dividends shall not bear interest. Dividends paid on the
shares of Series A Participating Preferred Stock in an amount less than the
total amount of such dividends at the time accrued and payable on such shares
shall be allocated pro rata on a share-by-share basis among all such shares at
the time outstanding. The Board of Directors may fix a record date for the
determination of holders of shares of Series A Participating Preferred Stock
entitled to receive payment of a dividend or distribution declared thereon,
which record date shall be no more than 30 days prior to the date fixed for the
payment thereof.
Section 4. VOTING RIGHTS. The holders of shares of Series A
Participating Preferred Stock shall have the following voting rights:
(a) Each share of Series A Participating Preferred Stock shall
entitle the holder thereof to 1,000 votes on all matters submitted to a vote of
the stockholders of the Corporation.
(b) Except as otherwise provided herein or by law, the holders
of shares of Series A Participating Preferred Stock and the holders of shares of
Common Stock shall vote together as one class on all matters submitted to a vote
of stockholders of the Corporation.
(c) Except as required by law, holders of Series A Participating
Preferred Stock shall have no special voting rights and their consent shall not
be required (except to the extent they are entitled to vote with holders of
Common Stock as set forth herein) for taking any corporate action.
<PAGE>
Section 5. CERTAIN RESTRICTIONS.
(a) The Corporation shall not declare any dividend on, make any
distribution on, or redeem or purchase or otherwise acquire for consideration
any shares of Common Stock after the first issuance of a share or fraction of a
share of Series A Participating Preferred Stock unless concurrently therewith it
shall declare a dividend on the Series A Participating Preferred Stock as
required by Section 3 hereof.
(b) Whenever quarterly dividends or other dividends or
distributions payable on the Series A Participating Preferred Stock as provided
in Section 3 are in arrears, thereafter and until all accrued and unpaid
dividends and distributions, whether or not declared, on shares of Series A
Participating Preferred Stock outstanding shall have been paid in full, the
Corporation shall not
(i) declare or pay dividends on, make any other
distributions on, or redeem or purchase or otherwise acquire for consideration
any shares of stock ranking junior (either as to dividends or upon liquidation,
dissolution or winding up) to the Series A Participating Preferred Stock;
(ii) declare or pay dividends on, make any other
distributions on any shares of stock ranking on a parity (either as to dividends
or upon liquidation, dissolution or winding up) with Series A Participating
Preferred Stock, except dividends paid ratably on the Series A Participating
Preferred Stock and all such parity stock on which dividends are payable or in
arrears in proportion to the total amounts to which the holders of all such
shares are then entitled;
(iii) redeem or purchase or otherwise acquire for
consideration shares of any stock ranking on a parity (either as to dividends or
upon liquidation, dissolution or winding up) with the Series A Participating
Preferred Stock, provided that the Corporation may at any time redeem, purchase
or otherwise acquire shares of any such parity stock in exchange for shares of
any stock of the Corporation ranking junior (either as to dividends or upon
dissolution, liquidation or winding up) to the Series A Participating Preferred
Stock;
(iv) purchase or otherwise acquire for consideration any
shares of Series A Participating Preferred Stock, or any shares of stock ranking
on a parity with the Series A Participating Preferred Stock, except in
accordance with a purchase offer made in writing or by publication (as
determined by the Board of Directors) to all holders of such shares upon such
terms as the Board of Directors, after consideration of the respective annual
dividend rates and other relative rights and preferences of the respective
series and classes, shall determine in good faith will result in fair and
equitable treatment among the respective series or classes.
(c) The Corporation shall not permit any subsidiary of the
Corporation to purchase or otherwise acquire for consideration any shares of
stock of the Corporation unless the
<PAGE>
Corporation could, under paragraph (a) of this Section 5, purchase or otherwise
acquire such shares at such time and in such manner.
Section 6. REACQUIRED SHARES. Any shares of Series A Participating
Preferred Stock purchased or otherwise acquired by the Corporation in any manner
whatsoever shall be retired and canceled promptly after the acquisition thereof.
All such shares shall upon their cancellation become authorized but unissued
shares of Preferred Stock and may be reissued as part of a new series of
Preferred Stock to be created by resolution or resolutions of the Board of
Directors, subject to the conditions and restrictions on issuance set forth
herein and, in the Restated Certificate of Incorporation, as then amended.
Section 7. LIQUIDATION, DISSOLUTION OR WINDING UP. Upon any
liquidation, dissolution or winding up of the Corporation, the holders of shares
of Series A Participating Preferred Stock shall be entitled to receive an
aggregate amount per share equal to 1000 times the aggregate amount to be
distributed per share to holders of shares of Common Stock plus an amount equal
to any accrued and unpaid dividends on such shares of Series A Participating
Preferred Stock.
Section 8. CONSOLIDATION, MERGER, ETC. In case the Corporation shall
enter into any consolidation, merger, combination or other transaction in which
the shares of Common Stock are exchanged for or changed into other stock or
securities, cash and/or any other property, then in any such case the shares of
Series A Participating Preferred Stock shall at the same time be similarly
exchanged or changed in an amount per share equal to 1,000 times the aggregate
amount of stock, securities, cash and/or any other property (payable in kind),
as the case may be, into which or for which each share of Common Stock is
changed or exchanged.
Section 9. NO REDEMPTION. The shares of Series A Participating
Preferred Stock shall not be redeemable.
Section 10. RANKING. The Series A Participating Preferred Stock shall
rank junior to all other series of the Corporation's Preferred Stock as to the
payment of dividends and the distribution of assets, unless the terms of any
such series shall provide otherwise.
Section 11. AMENDMENT. The Restated Certificate of Incorporation of the
Corporation shall not be further amended in any manner which would materially
alter or change the powers, preference or special rights of the Series A
Participating Preferred Stock so as to affect them adversely without the
affirmative vote of the holders of a majority of the outstanding shares of
Series A Participating Preferred Stock, voting separately as a class.
Section 12. FRACTIONAL SHARES. Series A Participating Preferred Stock
may be issued in fractions of a share which shall entitle the holder, in
proportion to such holder's fractional shares, to exercise voting rights,
receive dividends, participate in distributions and to have the benefit of all
other rights of holders of Series A Participating Preferred Stock.
<PAGE>
RESOLVED FURTHER, that the President or any Vice President and the
Secretary or any Assistant Secretary of this corporation be, and they hereby
are, authorized and directed to prepare and file a Certificate of Designation of
Rights, Preferences and Privileges in accordance with the foregoing resolution
and the provisions of Delaware law and to take such actions as they may deem
necessary or appropriate to carry out the intent of the foregoing resolution."
We further declare under penalty of perjury that the matters set forth in
the foregoing Certificate of Designation are true and correct of our own
knowledge.
Executed at Seattle, Washington on December 6, 1996.
/s/ ALAN LEVY
----------------------------------------
Alan Levy, President
/s/ JAMES SHAY
----------------------------------------
James Shay, Secretary
<PAGE>
HEARTSTREAM, INC.
1993 EMPLOYEE AND CONSULTANT STOCK PLAN
(AS AMENDED EFFECTIVE MARCH 1997)
1. PURPOSES OF THE PLAN. The purposes of this Plan are to attract and
retain the best available personnel for positions of substantial responsibility,
to provide additional incentive to Employees, Directors and Consultants of the
Company and its Subsidiaries and to promote the success of the Company's
business. Options granted under the Plan may be Incentive Stock Options or
Nonstatutory Stock Options, as determined by the Administrator at the time of
grant. Stock Purchase Rights may also be granted under the Plan.
2. DEFINITIONS. As used herein, the following definitions shall apply:
(a) "ADMINISTRATOR" means the Board or any of its Committees
appointed pursuant to Section 4 of the Plan.
(b) "BOARD" means the Board of Directors of the Company.
(c) "CODE" means the Internal Revenue Code of 1986, as amended.
(d) "COMMITTEE" means the Committee appointed by the Board of
Directors in accordance with Section 4(a) of the Plan.
(e) "COMMON STOCK" means the Common Stock of the Company.
(f) "COMPANY" means Heartstream, Inc., a Delaware corporation.
(g) "CONSULTANT" means any person, including an advisor, engaged by
the Company or a Parent or Subsidiary to render services and who is compensated
for such services.
(h) "CONTINUOUS STATUS AS AN EMPLOYEE" means the absence of any
interruption or termination of the employment relationship, directorship, or
consulting relationship by the Company or a Parent or Subsidiary. Continuous
Status as an Employee shall not be considered interrupted in the case of
(i) sick leave; (ii) military leave; (iii) any other leave of absence approved
by the Administrator, provided that such leave is for a period of not more than
ninety (90) days, unless reemployment upon the expiration of such leave is
guaranteed by contract or statute, or unless provided otherwise pursuant to
Company policy adopted from time to time; or (iv) transfers between locations of
the Company or between the Company, a Parent or Subsidiary, or its successor.
If reemployment upon expiration of a leave of absence approved by the Company is
not so guaranteed, on the 181st day of such leave any Incentive Stock Option
held by the Optionee shall cease to be treated as an Incentive Stock Option and
shall be treated for tax purposes as a Nonstatutory Stock Option.
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(i) "DIRECTOR" means a member of the Board.
(j) "EMPLOYEE" means any person, including officers and Directors,
employed by the Company or any Parent or Subsidiary of the Company. The payment
of a Director's fee by the Company shall not be sufficient to constitute
"employment" by the Company.
(k) "EXCHANGE ACT" means the Securities Exchange Act of 1934, as
amended.
(l) "FAIR MARKET VALUE" means, as of any date, the value of Common
Stock determined as follows:
(i) If the Common Stock is listed on any established stock
exchange or a national market system, including without limitation the Nasdaq
National Market or The Nasdaq Small Cap Market of The Nasdaq Stock Market, its
Fair Market Value shall be the closing sales price for such stock (or the
closing bid, if no sales were reported, as quoted on such system or exchange for
the last market trading day prior to the time of determination) as reported in
the Wall Street Journal or such other source as the Administrator deems
reliable;
(ii) If the Common Stock is regularly quoted by a recognized
securities dealer but selling prices are not reported, its Fair Market Value
shall be the mean between the high and low asked prices for the Common Stock on
the last market trading day prior to the day of determination, as reported in
the Wall Street Journal or such other source as the Administrator deems
reliable; or
(iii) In the absence of an established market for the Common
Stock, the Fair Market Value thereof shall be determined in good faith by the
Administrator.
(m) "INCENTIVE STOCK OPTION" means an Option intended to qualify as
an incentive stock option within the meaning of Section 422 of the Code.
(n) "NONSTATUTORY STOCK OPTION" means an Option not intended to
qualify as an Incentive Stock Option.
(o) "OPTION" means a stock option granted pursuant to the Plan.
(p) "OPTIONED STOCK" means the Common Stock subject to an Option.
(q) "OPTIONEE" means an Employee, Director or Consultant who receives
an Option.
(r) "PARENT" means a "parent corporation", whether now or hereafter
existing, as defined in Section 424(e) of the Code.
(s) "PLAN" means this 1993 Employee and Consultant Stock Plan.
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(t) "RESTRICTED STOCK" means shares of Common Stock acquired pursuant
to a grant of Stock Purchase Rights under Section 11 below.
(u) "RESTRICTED STOCK PURCHASE AGREEMENT" means a written agreement
between the Company and the Optionee evidencing the terms and restrictions
applying to stock purchased under a Stock Purchase Right. The Restricted Stock
Purchase Agreement is subject to the terms and conditions of the Plan and the
Notice of Grant.
(v) "SHARE" means a share of the Common Stock, as adjusted in
accordance with Section 13 of the Plan.
(w) "STOCK PURCHASE RIGHT" means the right to purchase Common Stock
pursuant to Section 11 of the Plan, as evidenced by a Notice of Grant.
(x) "SUBSIDIARY" means a "subsidiary corporation", whether now or
hereafter existing, as defined in Section 424(f) of the Code.
3. STOCK SUBJECT TO THE PLAN. Subject to the provisions of Section 13 of
the Plan, the maximum aggregate number of shares which may be optioned and sold
under the Plan is 2,500,000 shares of Common Stock. The shares may be
authorized, but unissued, or reacquired Common Stock.
If an Option or Stock Purchase Right expires or becomes unexercisable
without having been exercised in full, or is surrendered pursuant to an Option
Exchange Program, the unpurchased Shares which were subject thereto shall become
available for future grant or sale under the Plan (unless the Plan has
terminated); PROVIDED, however, that Shares that have actually been issued under
the Plan, whether upon exercise of an Option or Right, shall not be returned to
the Plan and shall not become available for future distribution under the Plan,
except that if Shares of Restricted Stock are repurchased by the Company at
their original purchase price, such Shares shall become available for future
grant under the Plan. For purposes of the preceding sentence, voting rights
shall not be considered a benefit of Share ownership.
4. ADMINISTRATION OF THE PLAN.
(a) PROCEDURE.
(i) MULTIPLE ADMINISTRATIVE BODIES. The Plan may be
administered by different Committees with respect to different groups of
Employees, Directors and Consultants.
(ii) SECTION 162(m). To the extent that the Administrator
determines it to be desirable to qualify Options granted hereunder as
"performance-based compensation" within the meaning of Section 162(m) of the
Code, the Plan shall be administered by a Committee of two or more "outside
directors" within the meaning of Section 162(m) of the Code.
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(iii) RULE 16b-3. To the extent desirable to qualify
transactions hereunder as exempt under Rule 16b-3 promulgated under the Exchange
Act or any successor rule thereto ("Rule 16b-3"), the transactions contemplated
hereunder shall be structured to satisfy the requirements for exemption under
Rule 16b-3.
(iv) OTHER ADMINISTRATION. Other than as provided above, the
Plan shall be administered by (A) the Board or (B) a Committee, which committee
shall be constituted to satisfy applicable laws.
(b) POWERS OF THE ADMINISTRATOR. Subject to the provisions of the
Plan and in the case of a Committee, the specific duties delegated by the Board
to such Committee, the Administrator shall have the authority, in its
discretion:
(i) to determine the Fair Market Value of the Common Stock, in
accordance with Section 2(l) of the Plan;
(ii) to select the Employees, Directors and Consultants to whom
Options and Stock Purchase Rights may from time to time be granted hereunder;
(iii) to determine whether and to what extent Options and Stock
Purchase Rights are granted hereunder;
(iv) to determine the number of shares of Common Stock to be
covered by each Option and Stock Purchase Right granted hereunder;
(v) to approve forms of agreement for use under the Plan;
(vi) to determine the terms and conditions, not inconsistent
with the terms of the Plan, of any award granted hereunder (including, but not
limited to, the share price and any restriction or limitation, or any vesting
acceleration or waiver of forfeiture restrictions regarding any Option or Stock
Purchase Right and/or the shares of Common Stock relating thereto, based in each
case on such factors as the Administrator shall determine, in its sole
discretion);
(vii) to determine whether and under what circumstances an
Option may be settled in cash under Section 9(e) instead of Common Stock;
(viii) to determine whether, to what extent and under what
circumstances Common Stock and other amounts payable with respect to an award
under this Plan shall be deferred either automatically or at the election of the
participant (including providing for and determining the amount, if any, of any
deemed earnings on any deferred amount during any deferral period);
(ix) to reduce the exercise price of any Option or Stock
Purchase Right to the then current Fair Market Value if the Fair Market Value of
the Common Stock covered by
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such Option or Stock Purchase Right shall have declined since the date the
Option or Stock Purchase Right was granted;
(x) To prescribe, amend and rescind rules and regulations
relating to the Plan; and
(xi) To make all other determinations deemed necessary or
advisable for administering the Plan.
(c) EFFECT OF ADMINISTRATOR'S DECISION. All decisions,
determinations and interpretations of the Administrator shall be final and
binding on all Optionees and any other holders of any Options or Stock Purchase
Rights.
5. ELIGIBILITY.
(a) GENERAL. Nonstatutory Stock Options and Stock Purchase Rights
may be granted to Employees, Directors and Consultants. Incentive Stock Options
may be granted only to Employees. An Employee, Director or Consultant who has
been granted an Option or Stock Purchase Right may, if he or she is otherwise
eligible, be granted additional Options or Stock Purchase Rights.
(b) DESIGNATION. Each Option shall be designated in the written
option agreement as either an Incentive Stock Option or a Nonstatutory Stock
Option. However, notwithstanding such designations, to the extent that the
aggregate Fair Market Value of the Shares with respect to which Options
designated as Incentive Stock Options are exercisable for the first time by any
Optionee during any calendar year (under all plans of the Company or any Parent
or Subsidiary) exceeds $100,000, such excess Options shall be treated as
Nonstatutory Stock Options.
(c) ORDER. For purposes of Section 5(b), Incentive Stock Options
shall be taken into account in the order in which they were granted, and the
Fair Market Value of the Shares shall be determined as of the time the Option
with respect to such Shares is granted.
(d) AT-WILL EMPLOYMENT. Neither the Plan nor any Option or Stock
Purchase Right shall confer upon any Optionee any right with respect to
continuation of the Optionee's employment relationship, directorship or
consulting relationship with the Company, nor shall it interfere in any way with
his or her right or the Company's right to terminate his or her employment
relationship, directorship or consulting relationship at any time, with or
without cause.
(e) The following limitations shall apply to grants of Options and
Stock Purchase Rights to Employees:
(i) No Employee shall be granted, in any fiscal year of the
Company, Options and Stock Purchase Rights to purchase more than 500,000 Shares.
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<PAGE>
(ii) In connection with his or her initial employment, an
Employee may be granted Options and Stock Purchase Rights to purchase up to an
additional 500,000 Shares which shall not count against the limit set forth in
subsection (i) above.
(iii) The foregoing limitations shall be adjusted
proportionately in connection with any change in the Company's capitalization as
described in Section 13.
(iv) If an Option or Stock Purchase Right is canceled in the
same fiscal year of the Company in which it was granted (other than in
connection with a transaction described in Section 13), the canceled Option or
Stock Purchase Right will be counted against the limits set forth in subsections
(i) and (ii) above. For this purpose, if the exercise price of an Option or
Stock Purchase Right is reduced, the transaction will be treated as a
cancellation of the Option or Stock Purchase Right and the grant of a new Option
or Stock Purchase Right.
6. TERM OF PLAN. The Plan shall become effective upon the earlier to
occur of its adoption by the Board of Directors or its approval by the
stockholders of the Company as described in Section 19 of the Plan. It shall
continue in effect for a term of ten (10) years unless sooner terminated under
Section 15 of the Plan.
7. TERM OF OPTION. The term of each Option shall be the term stated in
the Option agreement; provided, however, that in the case of an Incentive Stock
Option, the term shall be no more than ten (10) years from the date of grant
thereof or such shorter term as may be provided in the Option agreement; and, in
the case of an Option granted to an Optionee who, at the time the Option is
granted, owns stock representing more than ten percent (10%) of the voting power
of all classes of stock of the Company or any Parent or Subsidiary, the term of
the Option shall be five (5) years from the date of grant thereof or such
shorter term as may be provided in the Option agreement.
8. OPTION EXERCISE PRICE AND CONSIDERATION.
(a) EXERCISE PRICE. The per share exercise price for the Shares to
be issued pursuant to exercise of an Option shall be such price as is determined
by the Administrator, but shall be subject to the following:
(i) In the case of an Incentive Stock Option
(A) granted to an Employee who, at the time of the
grant of such Incentive Stock Option, owns stock representing more than ten
percent (10%) of the voting power of all classes of stock of the Company or any
Parent or Subsidiary, the per Share exercise price shall be no less than 110% of
the Fair Market Value per Share on the date of grant.
(B) granted to any Employee other than an Employee
described in paragraph (A) immediately above, the per Share exercise price shall
be no less than 100% of the Fair Market Value per Share on the date of grant.
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(ii) In the case of a Nonstatutory Stock Option, the per Share
exercise price shall be determined by the Administrator. In the case of a
Nonstatutory Stock Option intended to qualify as "performance-based
compensation" within the meaning of Section 162(m) of the Code, the per Share
exercise price shall be no less than 100% of the Fair Market Value per Share on
the date of grant.
(iii) Notwithstanding the foregoing, Options may be granted with
a per Share exercise price of less than 100% of the Fair Market Value per Share
on the date of grant pursuant to a merger or other corporate transaction.
(b) WAITING PERIOD AND EXERCISE DATES. At the time an Option is
granted, the Administrator shall fix the period within which the Option may be
exercised and shall determine any conditions which must be satisfied before the
Option may be exercised. In so doing, the Administrator may specify that an
Option may not be exercised until the completion of a service period.
(c) FORM OF CONSIDERATION. The consideration to be paid for the
Shares to be issued upon exercise of an Option, including the method of payment,
shall be determined by the Administrator (and, in the case of an Incentive Stock
Option, shall be determined at the time of grant) and may consist entirely of
(1) cash, (2) check, (3) promissory note, (4) other Shares which (A) in the case
of Shares acquired upon exercise of an Option either have been owned by the
Optionee for more than six months on the date of surrender or were not acquired,
directly or indirectly, from the Company, and (B) have a Fair Market Value on
the date of surrender equal to the aggregate exercise price of the Shares as to
which said Option shall be exercised, (5) delivery of a properly executed
exercise notice together with irrevocable instructions to a broker to promptly
deliver to the Company the amount of sale or loan proceeds required to pay the
exercise price, (6) any combination of the foregoing methods of payment, or (7)
such other consideration and method of payment for the issuance of Shares to the
extent permitted under applicable laws.
9. EXERCISE OF OPTION.
(a) PROCEDURE FOR EXERCISE; RIGHTS AS A STOCKHOLDER. Any Option
granted hereunder shall be exercisable according to the terms of the Plan and at
such times and under such conditions as determined by the Administrator and set
forth in the option agreement.
An Option may not be exercised for a fraction of a Share.
An Option shall be deemed to be exercised when written notice of
such exercise has been given to the Company in accordance with the terms of the
Option by the person entitled to exercise the Option and full payment for the
Shares with respect to which the Option is exercised has been received by the
Company. Full payment may, as authorized by the Administrator, consist of any
consideration and method of payment allowable under Section 8(c) of the Plan.
Until the issuance (as evidenced by the appropriate entry on the books of the
Company or of a duly authorized transfer agent of the Company) of the stock
certificate
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<PAGE>
evidencing such Shares, no right to vote or receive dividends or any other
rights as a stockholder shall exist with respect to the Optioned Stock,
notwithstanding the exercise of the Option. The Company shall issue (or cause
to be issued) such stock certificate promptly upon exercise of the Option. No
adjustment will be made for a dividend or other right for which the record date
is prior to the date the stock certificate is issued, except as provided in
Section 13 of the Plan.
Exercise of an Option in any manner shall result in a decrease in
the number of Shares which thereafter may be available, both for purposes of the
Plan and for sale under the Option, by the number of Shares as to which the
Option is exercised.
(b) TERMINATION OF EMPLOYMENT RELATIONSHIP, DIRECTORSHIP OR
CONSULTING RELATIONSHIP. Upon termination of an Optionee's Continuous Status as
an Employee, Director or Consultant, other than upon the Optionee's death or
disability, the Optionee may exercise his or her Option, but only within such
period of time as is specified in the Option agreement, and only to the extent
that the Optionee was entitled to exercise it at the date of termination (but in
no event later than the expiration of the term of such Option as set forth in
the Option agreement). In the absence of a specified time in the Option
agreement, the Option shall remain exercisable for three (3) months following
the Optionee's termination. In the case of an Incentive Stock Option, such
period of time for exercise shall not exceed three (3) months from the date of
termination. If, on the date of termination, the Optionee is not entitled to
exercise the Optionee's entire Option, the Shares covered by the unexercisable
portion of the Option shall revert to the Plan. If, after termination, the
Optionee does not exercise his or her Option within the time specified by the
Administrator, the Option shall terminate, and the Shares covered by such Option
shall revert to the Plan.
Notwithstanding the above, in the event of an Optionee's change
in status from Consultant to Employee or Employee to Consultant, an Optionee's
Continuous Status as an Employee or Consultant shall not automatically terminate
solely as a result of such change in status. However, in such event, an
Incentive Stock Option held by the Optionee shall cease to be treated as an
Incentive Stock Option and shall be treated for tax purposes as a Nonstatutory
Stock Option three months and one day following such change of status.
(c) DISABILITY OF OPTIONEE. In the event of termination of an
Optionee's Continuous Status as an Employee, Director or Consultant as a result
of his or her total and permanent disability (as defined in Section 22(e)(3) of
the Code), Optionee may, but only within twelve (12) months from the date of
such termination (but in no event later than the expiration date of the term of
such Option as set forth in the Option agreement), exercise the Option to the
extent otherwise entitled to exercise it at the date of such termination. To
the extent that Optionee was not entitled to exercise the Option at the date of
termination, or if Optionee does not exercise such Option to the extent so
entitled within the time specified herein, the Option shall terminate.
(d) DEATH OF OPTIONEE. In the event of the death of an Optionee, the
Option may be exercised, at any time within twelve (12) months following the
date of death (but in no event later than the expiration date of the term of
such Option as set forth in the Option
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<PAGE>
agreement), by the Optionee's estate or by a person who acquired the right to
exercise the Option by bequest or inheritance, but only to the extent the
Optionee was entitled to exercise the Option at the date of death. To the
extent that Optionee was not entitled to exercise the Option at the date of
termination, or if the Optionee's estate or a person who acquired the right to
exercise the Option by bequest or inheritance does not exercise such Option to
the extent so entitled within the time specified herein, the Option shall
terminate.
(e) BUYOUT PROVISIONS. The Administrator may at any time offer to
buy out for a payment in cash or Shares, an Option previously granted, based on
such terms and conditions as the Administrator shall establish and communicate
to the Optionee at the time that such offer is made.
10. STOCK WITHHOLDING TO SATISFY WITHHOLDING TAX OBLIGATIONS. At the
discretion of the Administrator, Optionees may satisfy withholding obligations
as provided in this section. When an Optionee incurs tax liability in
connection with an Option, which tax liability is subject to tax withholding
under applicable tax laws, and the Optionee is obligated to pay the Company an
amount required to be withheld under applicable tax laws, the Optionee may
satisfy the withholding tax obligation by electing to have the Company withhold
from the Shares to be issued upon exercise of the Option that number of Shares
having a Fair Market Value equal to the amount required to be withheld. The
Fair Market Value of the Shares to be withheld shall be determined on the date
that the amount of tax to be withheld is to be determined (the "Tax Date").
All elections by an Optionee to have Shares withheld for this purpose
shall be made in writing in a form acceptable to the Administrator and shall be
subject to the following restrictions:
(a) the election must be made on or prior to the applicable Tax Date;
(b) once made, the election shall be irrevocable as to the particular
Shares of the Option as to which the election is made;
(c) all elections shall be subject to the consent or disapproval of
the Administrator;
In the event the election to have Shares withheld is made by an
Optionee and the Tax Date is deferred under Section 83 of the Code because no
election is filed under Section 83(b) of the Code, the Optionee shall receive
the full number of Shares with respect to which the Option is exercised but such
Optionee shall be unconditionally obligated to tender back to the Company the
proper number of Shares on the Tax Date.
11. STOCK PURCHASE RIGHTS.
(a) RIGHTS TO PURCHASE. Stock Purchase Rights may be issued either
alone, in addition to, or in tandem with other awards granted under the Plan
and/or cash awards made
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outside of the Plan. After the Administrator determines that it will offer
Stock Purchase Rights under the Plan, it shall advise the offeree in writing, by
means of a Notice of Grant, of the terms, conditions and restrictions related to
the offer, including the number of Shares that the offeree shall be entitled to
purchase, the price to be paid, and the time within which the offeree must
accept such offer, which shall in no event exceed six (6) months from the date
upon which the Administrator made the determination to grant the Stock Purchase
Right. The offer shall be accepted by execution of a Restricted Stock Purchase
Agreement in the form determined by the Administrator.
(b) REPURCHASE OPTION. Unless the Administrator determines
otherwise, the Restricted Stock Purchase Agreement shall grant the Company a
repurchase option exercisable upon the voluntary or involuntary termination of
the purchaser's employment with the Company for any reason (including death or
disability). The purchase price for Shares repurchased pursuant to the
Restricted Stock purchase agreement shall be the original price paid by the
purchaser and may be paid by cancellation of any indebtedness of the purchaser
to the Company. The repurchase option shall lapse at a rate determined by the
Administrator.
(c) OTHER PROVISIONS. The Restricted Stock Purchase Agreement shall
contain such other terms, provisions and conditions not inconsistent with the
Plan as may be determined by the Administrator in its sole discretion. In
addition, the provisions of Restricted Stock Purchase Agreements need not be the
same with respect to each purchaser.
(d) RIGHTS AS A STOCKHOLDER. Once the Stock Purchase Right is
exercised, the purchaser shall have the rights equivalent to those of a
stockholder, and shall be a stockholder when his or her purchase is entered upon
the records of the duly authorized transfer agent of the Company. No adjustment
will be made for a dividend or other right for which the record date is prior to
the date the Stock Purchase Right is exercised, except as provided in Section 13
of the Plan.
12. NON-TRANSFERABILITY OF OPTIONS AND STOCK PURCHASE RIGHTS. Unless
determined otherwise by the Administrator, an Option or Stock Purchase Right may
not be sold, pledged, assigned, hypothecated, transferred, or disposed of in any
manner other than by will or by the laws of descent or distribution and may be
exercised, during the lifetime of the Optionee, only by the Optionee. If the
Administrator makes an Option or Stock Purchase Right transferable, such Option
or Stock Purchase Right shall contain such additional terms and conditions as
the Administrator deems appropriate.
13. ADJUSTMENTS.
(a) CHANGES IN CAPITALIZATION. Subject to any required action by the
stockholders of the Company, the number of shares of Common Stock covered by
each outstanding Option and Stock Purchase Right, and the number of shares of
Common Stock which have been authorized for issuance under the Plan but as to
which no Options or Stock Purchase Rights have yet been granted or which have
been returned to the Plan upon cancellation or expiration of an Option or Stock
Purchase Right, as well as the price per share of Common
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Stock covered by each such outstanding Option or Stock Purchase Right, shall be
proportionately adjusted for any increase or decrease in the number of issued
shares of Common Stock resulting from a stock split, reverse stock split, stock
dividend, combination or reclassification of the Common Stock, or any other
increase or decrease in the number of issued shares of Common Stock effected
without receipt of consideration by the Company; provided, however, that
conversion of any convertible securities of the Company shall not be deemed to
have been "effected without receipt of consideration." Such adjustment shall be
made by the Administrator, whose determination in that respect shall be final,
binding and conclusive. Except as expressly provided herein, no issuance by the
Company of shares of stock of any class, or securities convertible into shares
of stock of any class, shall affect, and no adjustment by reason thereof shall
be made with respect to, the number or price of shares of Common Stock subject
to an Option or Stock Purchase Right.
(b) DISSOLUTION OR LIQUIDATION. In the event of the proposed
dissolution or liquidation of the Company, to the extent that an Option or Stock
Purchase Right has not been previously exercised, the Option or Stock Purchase
Right will terminate immediately prior to the consummation of such proposed
action. The Board may, in the exercise of its sole discretion in such
instances, declare that any Option or Stock Purchase Right shall terminate as of
a date fixed by the Board and give each Optionee the right to exercise his or
her Option or Stock Purchase Right as to all or any part of the Optioned Stock,
including Shares as to which the Option or Stock Purchase Right would not
otherwise be exercisable.
(c) MERGER OR ASSET SALE. In the event of a merger of the Company
with or into another corporation, or the sale of substantially all of the assets
of the Company, in which the stockholders of the Company immediately prior to
the transaction own less than 50% of the voting securities of the surviving,
continuing or purchasing entity (or parent, if any) immediately following the
transaction, each outstanding Option or Stock Purchase Right shall become fully
vested and exercisable immediately prior to the consummation of such
transaction. In such case, the Company shall notify the Optionee as soon as
practicable that the Option or Stock Purchase Right shall become fully vested
and exercisable immediately prior to the consummation of the transaction and the
procedure for exercising the Option or Stock Purchase Right. Any Option or
Stock Purchase Right not exercised immediately prior to the consummation of the
transaction shall terminate.
(d) DATE OF GRANT. The date of grant of an Option or Stock Purchase
Right shall, for all purposes, be the date on which the Administrator makes the
determination granting such Option or Stock Purchase Right, or such other date
as is determined by the Administrator. Notice of the determination shall be
given to each Employee or Outside Director to whom an Option or Stock Purchase
Right is so granted within a reasonable time after the date of such grant.
15. AMENDMENT AND TERMINATION OF THE PLAN.
(a) AMENDMENT AND TERMINATION. The Board may at any time amend,
alter, suspend or discontinue the Plan.
-11-
<PAGE>
(b) STOCKHOLDER APPROVAL. The Company shall obtain stockholder
approval of any Plan amendment to the extent necessary and desirable to comply
with Section 422 of the Code (or any other applicable law or regulation,
including the requirements of any exchange or quotation system on which the
Common Stock is listed or quoted). Such stockholder approval, if required,
shall be obtained in such a manner and to such degree as is required by the
applicable law, rule or regulation.
(c) EFFECT OF AMENDMENT OR TERMINATION. No amendment, suspension or
termination of the Plan shall impair the rights of any Optionee, unless mutually
agreed between the Optionee and the Administrator, which agreement must be in
writing and signed by the Optionee and the Company.
16. CONDITIONS UPON ISSUANCE OF SHARES.
(a) LEGAL COMPLIANCE. Shares shall not be issued pursuant to the
exercise of an Option or Stock Purchase Right unless the exercise of such Option
or Stock Purchase Right and the issuance and delivery of such Shares pursuant
thereto shall comply with all relevant provisions of law, including, without
limitation, the Securities Act of 1933, as amended, the Exchange Act, the rules
and regulations promulgated thereunder, and the requirements of any stock
exchange upon which the Shares may then be listed, and shall be further subject
to the approval of counsel for the Company with respect to such compliance.
(b) INVESTMENT REPRESENTATIONS. As a condition to the exercise of an
Option or Stock Purchase Right, the Company may require the person exercising
such Option or Stock Purchase Right to represent and warrant at the time of any
such exercise that the Shares are being purchased only for investment and
without any present intention to sell or distribute such Shares if, in the
opinion of counsel for the Company, such a representation is required.
17. LIABILITY OF COMPANY.
(a) INABILITY TO OBTAIN AUTHORITY. The inability of the Company to
obtain authority from any regulatory body having jurisdiction, which authority
is deemed by the Company's counsel to be necessary to the lawful issuance and
sale of any Shares hereunder, shall relieve the Company of any liability in
respect of the failure to issue or sell such Shares as to which such requisite
authority shall not have been obtained.
(b) GRANTS EXCEEDING ALLOTTED SHARES. If the Optioned Stock covered
by an Option or Stock Purchase Right exceeds, as of the date of grant, the
number of Shares which may be issued under the Plan without additional
stockholder approval, such Option or Stock Purchase Right shall be void with
respect to such excess Option Stock, unless stockholder approval of an amendment
sufficiently increasing the number of Shares subject to the Plan is timely
obtained in accordance with Section 15(b) of the Plan.
-12-
<PAGE>
18. RESERVATION OF SHARES. The Company, during the term of this Plan,
will at all times reserve and keep available such number of Shares as shall be
sufficient to satisfy the requirements of the Plan.
19. STOCKHOLDER APPROVAL. Continuance of the Plan shall be subject to
approval by the stockholders of the Company within twelve (12) months before or
after the date the Plan is adopted. Such stockholder approval shall be obtained
in the degree and manner required under applicable state and federal law.
-13-
<PAGE>
HEARTSTREAM, INC.
1993 STOCK PLAN
STOCK OPTION AGREEMENT
Heartstream, Inc., a Delaware corporation (the "Company"), hereby grants to
_____________________ (the "Optionee") an Option to purchase a total of
___________________ shares of Common Stock (the "Shares"), at the price
determined as provided herein, and in all respects subject to the terms,
definitions and provisions of the 1993 Employee Stock Plan (the "Plan") adopted
by the Company, which is incorporated herein by reference. Unless otherwise
defined herein, the terms defined in the Plan shall have the same defined
meanings herein.
1. NATURE OF THE OPTION. If Optionee is an Employee of the Company, this
Option is intended to qualify as an Incentive Stock Option. If Optionee is a
Consultant of the Company, this Option is a Nonstatutory Stock Option and is not
intended to qualify for any special tax benefits to the Optionee.
2. EXERCISE PRICE. The exercise price is $___________ for each share of
Common Stock, which price is not less than the Fair Market Value per share of
Common Stock on the date of grant, as determined by the Administrator; provided,
however, in the event Optionee is an Employee and owns stock representing more
than ten percent (10%) of the total combined voting power of all classes of
stock of the Company or of its Parent or Subsidiary corporations immediately
before this Option is granted, said exercise price is not less than one hundred
ten percent (110%) of the Fair Market Value per share of Common Stock on the
date of grant as determined by the Board.
3. EXERCISE OF OPTION. This Option shall be exercisable during its term
in accordance with the provisions of Section 8 of the Plan as follows:
(a) RIGHT TO EXERCISE
(i) Subject to subsections 3(a)(ii), (iii), (iv) and (v)
below, twenty-five percent (25%) of the total number of shares subject to this
option shall become exercisable one year after the date of grant, and an
additional one forty-eighth (1/48) of the total number of shares subject to this
Option shall become exercisable on the last day of each full calendar month
thereafter, until all of such shares are exercisable; provided, however, that
all shares subject to this option shall become fully vested and exercisable
immediately prior to the closing of a merger of the Company with or into another
corporation or the sale of all or substantially all of the assets of the Company
in accordance with Section 13(c) of the Plan.
-1-
<PAGE>
(ii) This Option may not be exercised for a fraction of a
Share.
(iii) In the event of Optionee's death, disability or other
termination of employment, the exercisability of the Option is governed by
Sections 6, 7 and 8 below, subject to the limitations contained in
subsections 3(a)(iv) and (v).
(iv) In no event may this Option be exercised after the date of
expiration of the term of this Option as set forth in Section 10 below.
(v) If this Option is intended to qualify as an Incentive
Stock Option, in no event may this Option become exercisable at a time or times
which, when this Option is aggregated with all other incentive stock options
granted to Optionee by the Company or any Parent or Subsidiary, would result in
Shares having an aggregate Fair Market Value (determined for each Share as of
the date of grant of the option covering such share) in excess of $100,000
becoming first available for purchase upon exercise of one or more incentive
stock options during any calendar year.
(b) METHOD OF EXERCISE. This Option shall be exercisable by written
notice in the form attached as Exhibit A, which shall state the election to
exercise the Option, the number of Shares in respect of which the Option is
being exercised, and such other representations and agreements as to the
holder's investment intent with respect to such shares of Common Stock as may be
required by the Company pursuant to the provisions of the Plan. Such written
notice shall be signed by Optionee and shall be delivered in person or by
certified mail to the President, Secretary or Chief Financial Officer of the
Company. The written notice shall be accompanied by payment of the exercise
price. This Option shall be deemed to be exercised upon receipt by the Company
of such written notice accompanied by the exercise price.
No shares will be issued pursuant to the exercise of an Option
unless such issuance and such exercise shall comply with all relevant provisions
of law and the requirements of any stock exchange upon which the Shares may then
be listed. Assuming such compliance, for income tax purposes the Shares shall
be considered transferred to the Optionee on the date on which the Option is
exercised with respect to such Shares.
4. METHOD OF PAYMENT. Payment of the purchase price shall be made by
cash or check.
5. RESTRICTIONS ON EXERCISE. This Option may not be exercised if the
issuance of such Shares upon such exercise or the method of payment of
consideration for such shares would constitute a violation of any applicable
federal or state securities or other law or regulation, including any rule under
Part 207 of Title 12 of the Code of Federal Regulations (Regulation G) as
promulgated by the Federal Reserve Board. As a condition to the exercise of
this Option, the Company may require Optionee to make any representation and
warranty to the Company as may be required by any applicable law or regulation.
-2-
<PAGE>
6. TERMINATION OF STATUS AS AN EMPLOYEE OR CONSULTANT. In the event of
termination of Optionee's Continuous Status as an Employee or Consultant,
Optionee may, but only within ninety (90) days after the date of such
termination (but in no event later than the date of expiration of the term of
this Option as set forth in Section 10 below), exercise this Option to the
extent that Optionee was entitled to exercise it at the date of such
termination. To the extent that Optionee was not entitled to exercise this
Option at the date of such termination, or if Optionee does not exercise this
Option within the time specified herein, this Option shall terminate.
7. DISABILITY OF OPTIONEE. Notwithstanding the provisions of Section 5
above, in the event of termination of Optionee's Continuous Status as an
Employee or Consultant as a result of Optionee's permanent and total disability
(as defined in Section 22(e)(3) of the Code), Optionee may, but only within
twelve (12) months from the date of termination of employment or outside
director relationship (but in no event later than the date of expiration of the
term of this Option as set forth in Section 10 below), exercise this Option to
the extent Optionee was entitled to exercise it at the date of such termination.
To the extent that Optionee was not entitled to exercise this Option at the date
of termination, or if Optionee does not exercise such Option (which Optionee was
entitled to exercise) within the time specified herein, this Option shall
terminate.
8. DEATH OF OPTIONEE. In the event of the death of Optionee:
(a) during the term of this Option while an Employee or Consultant of
the Company and having been in Continuous Status as an Employee or Consultant
since the date of grant of this Option, this Option may be exercised, at any
time within twelve (12) months following the date of death (but in no event
later than the date of expiration of the term of this Option as set forth in
Section 10 below), by Optionee's estate or by a person who acquired the right to
exercise the Option by bequest or inheritance, but only to the extent of the
right to exercise that would have accrued had Optionee continued living and
remained in Continuous Status as an Employee or Consultant twelve (12) months
after the date of death, subject to the limitations contained in Section 3(a)(v)
above; or
(b) within thirty (30) days after the termination of Optionee's
Continuous Status as an Employee or Consultant, this Option may be exercised, at
any time within twelve (12) months following the date of death (but in no event
later than the date of expiration of the term of this Option as set forth in
Section 10 below), by Optionee's estate or by a person who acquired the right to
exercise this Option by bequest or inheritance, but only to the extent of the
right to exercise that had accrued at the date of termination.
9. NON-TRANSFERABILITY OF OPTION. This Option may not be transferred in
any manner otherwise than by will or by the laws of descent or distribution and
may be exercised during the lifetime of Optionee only by Optionee. The terms of
this Option shall be binding upon the executors, administrators, heirs,
successors and assigns of Optionee.
-3-
<PAGE>
10. TERM OF OPTION. This Option may not be exercised more than ten years
from the date of grant of this Option, and may be exercised during such term
only in accordance with the Plan and the terms of this Option.
11. EARLY DISPOSITION OF STOCK. If this is an Incentive Stock Option,
Optionee understands that, if Optionee disposes of any Shares received under
this Option within two (2) years after the date of this Agreement or within one
(1) year after such Shares are transferred to Optionee, Optionee will be treated
for federal income tax purposes as having received ordinary income at the time
of such disposition in an amount generally measured as the difference between
the price paid for the Shares and the lower of the Fair Market Value of the
Shares at the date of exercise or the Fair Market Value of the Shares at the
date of disposition. The amount of such ordinary income may be measured
differently if Optionee is an officer, director or 10% shareholder of the
Company, or if the Shares are subject to a substantial risk of forfeiture at the
time they are transferred. Any gain recognized on such a premature sale of the
Shares in excess of the amount treated as ordinary income will be characterized
as capital gain. OPTIONEE HEREBY AGREES TO NOTIFY THE COMPANY IN WRITING WITHIN
THIRTY (30) DAYS AFTER THE DATE OF ANY SUCH DISPOSITION. Optionee understands
that if Optionee disposes of such Shares at any time after the expiration of
such two-year and one-year holding periods, any gain on such sale will be
treated as long-term capital gain.
12. TAXATION UPON EXERCISE OF OPTION. If this is a Nonstatutory Stock
Option, Optionee understands that, upon exercise of this Option, Optionee will
recognize income for tax purposes in an amount equal to the excess of the then
Fair Market Value of the Shares over the exercise price. Upon a resale of such
shares by the Optionee, any difference between the sale price and the Fair
Market Value of the shares on the date of exercise of the Option will be treated
as capital gain or loss.
13. TAX CONSEQUENCES. The Optionee understands that any of the foregoing
references to taxation are based on federal income tax laws and regulations now
in effect. The Optionee has reviewed with the Optionee's own tax advisors the
federal, state, local and foreign tax consequences of the transactions
contemplated by this Agreement. The Optionee is relying solely on such advisors
and not on any statements or representations of the Company or any of its
agents. The Optionee understands that the Optionee (and not the Company) shall
be responsible for the Optionee's own tax liability that may arise as a result
of the transactions contemplated by this Agreement.
DATE OF GRANT:
----------------------
HEARTSTREAM, INC.
By:
-------------------------------
Title:
----------------------------
-4-
<PAGE>
OPTIONEE ACKNOWLEDGES AND AGREES THAT THE VESTING OF SHARES PURSUANT TO
SECTION 3 HEREOF IS EARNED ONLY BY CONTINUING SERVICE (A) AS AN EMPLOYEE AT THE
WILL OF THE COMPANY (NOT THROUGH THE ACT OF BEING HIRED, BEING GRANTED THIS
OPTION OR ACQUIRING SHARES HEREUNDER) OR (B) AS A CONSULTANT, AS THE CASE MAY
BE. OPTIONEE FURTHER ACKNOWLEDGES AND AGREES THAT THIS OPTION, THE PLAN WHICH
IS INCORPORATED HEREIN BY REFERENCE, THE TRANSACTIONS CONTEMPLATED HEREUNDER AND
THE VESTING SCHEDULE SET FORTH HEREIN DO NOT CONSTITUTE AN EXPRESS OR IMPLIED
PROMISE OF CONTINUED ENGAGEMENT AS AN EMPLOYEE FOR THE VESTING PERIOD, FOR ANY
PERIOD, OR AT ALL, AND SHALL NOT INTERFERE WITH OPTIONEE'S RIGHT OR THE
COMPANY'S RIGHT TO TERMINATE OPTIONEE'S EMPLOYMENT OR CONSULTING RELATIONSHIP AT
ANY TIME, WITH OR WITHOUT CAUSE.
Optionee acknowledges receipt of a copy of the Plan, represents that
Optionee is familiar with the terms and provisions thereof, and hereby accepts
this Option subject to all of the terms and provisions thereof. Optionee has
reviewed the Plan and this Option in their entirety, has had an opportunity to
obtain the advice of counsel prior to executing this Option and fully
understands all provisions of the Option. Optionee hereby agrees to accept as
binding, conclusive and final all decisions or interpretations of the
Administrator upon any questions arising under the Plan. Optionee further
agrees to notify the Company upon any change in the residence address indicated
below.
Dated:
------------------- --------------------------------
Residence Address:
--------------------------------
--------------------------------
Social Security No.
----------------
-5-
<PAGE>
EXHIBIT A
NOTICE OF EXERCISE OF
STOCK OPTION
TO:
FROM:
DATE:
RE: Exercise of Stock Option
I hereby exercise my option to purchase __________ shares of Common Stock
at $________ per share (total exercise price of $_______), effective today's
date. This notice is given in accordance with the terms of my Stock Option
Agreement dated ___________, 19____. The option price and vested amount is in
accordance with Sections 2 and 3 of the Stock Option Agreement.
Attached is a check payable to Heartstream, Inc. for the total exercise
price of the shares being purchased. The undersigned confirms the
representations made in Section 4 of the Stock Option Agreement.
Please prepare the stock certificate in the following name(s):
The Stock Option Agreement requires the Company's approval for registration
in a name other than your name and requires certain agreements from any joint
owner.
Sincerely,
(Signature)
(Print or Type Name)
Letter and consideration
received on , 19 .
-------------------- -------
By:
-6-
<PAGE>
EXHIBIT 11.1
HEARTSTREAM, INC.
COMPUTATION OF NET LOSS PER SHARE
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
--------------------------------------------
1996 1995 1994
-------------- ------------- -------------
<S> <C> <C> <C>
Net loss............................................................ $ (12,006,888) $ (7,473,562) $ (3,850,639)
-------------- ------------- -------------
-------------- ------------- -------------
Shares used in calculating historical net loss per share:
Weighted average shares outstanding............................... 10,628,447 790,449 750,601
Net effect of preferred stock issued, after giving effect to the
conversion into common stock, at less than the offering price
during the 12 months prior to the Company's filing of its
initial public offering, calculated using the treasury stock
method at an offering price of $13 per share, and treated as
outstanding for all periods prior to the closing date of the
Company's initial public offering............................... 101,805 1,235,234 1,235,234
Net effect of stock options granted or exercised at less than the
offering price during the 12 months prior to the Company's
filing of its initial public offering, calculated using the
treasury stock method at an offering price of $13 per share, and
treated as outstanding for all periods prior to the closing date
of the Company's initial public offering........................ 37,547 673,841 646,666
-------------- ------------- -------------
Shares used in computation of historical net loss per share......... 10,767,799 2,699,524 2,632,501
-------------- ------------- -------------
-------------- ------------- -------------
Historical net loss per share....................................... $ (1.12) $ (2.77) $ (1.46)
-------------- ------------- -------------
-------------- ------------- -------------
Net loss............................................................ $ (12,006,888) $ (7,473,562) $ (3,850,639)
-------------- ------------- -------------
-------------- ------------- -------------
Shares used in calculating pro forma net loss per share:
Weighted average shares outstanding............................... 10,628,447 790,449 750,601
Weighted average common shares giving effect to the conversion of
preferred stock into common for all periods subsequent to
issuance........................................................ 510,193 5,639,586 3,214,565
Net effect of preferred stock issued, after giving effect to the
conversion into common stock, at less than the offering price
during the 12 months prior to the Company's filing of its initial
public offering, calculated using the treasury stock method at an
offering price of $13 per share, and treated as outstanding for
all periods prior to issuance..................................... -- 274,749 1,235,234
Net effect of stock options granted or exercised at less than the
offering price during the 12 months prior to the Company's filing
of its initial public offering, calculated using the treasury
stock method at an offering price of $13 per share, and treated as
outstanding for all periods prior to the closing date of the
Company's initial public offering................................. 37,547 673,841 646,666
-------------- ------------- -------------
Shares used in computation of pro forma net loss per share.......... 11,176,187 7,378,625 5,847,066
-------------- ------------- -------------
-------------- ------------- -------------
Pro forma net loss per share...................................... $ (1.07) $ (1.01) $ (0.66)
-------------- ------------- -------------
-------------- ------------- -------------
</TABLE>
19
<PAGE>
SELECTED FINANCIAL DATA
STATEMENTS OF OPERATIONS DATA
In thousands except per share data
Year Ended December 31, 1996 1995 1994 1993
- --------------------------------------------------------------------------------
Net sales $ 957 $ -- $ -- $ --
Gross margin 362 -- -- --
Operating expenses:
Research and development 6,397 5,167 2,549 956
General and administrative 5,009 2,218 1,020 370
Sales and marketing 3,559 763 347 94
Loss from operations (14,603) (8,148) (3,916) (1,420)
Net loss (12,007) (7,474) (3,851) (1,438)
Net loss per share $ (1.12) $ (2.77) $ (1.46) $ (0.55)
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Shares used to calculate
net loss per share 10,768 2,700 2,633 2,601
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Pro forma (unaudited):
Net loss per share $ (1.07) $ (1.01) $ (0.66) $ (0.40)
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
Shares used to calculate
pro forma net loss per share 11,176 7,379 5,847 3,639
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
BALANCE SHEET DATA
Cash, cash equivalents
and securities
available-for-sale $ 50,080 $ 13,839 $ 3,540 $ 321
Working capital 50,077 13,355 3,310 122
Total assets 55,290 16,864 4,928 556
Accumulated deficit (24,779) (12,757) (5,289) (1,438)
Total stockholders' equity 52,465 15,054 3,830 201
<PAGE>
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Heartstream, Inc. ("Heartstream" or "Company") was founded in December 1992 and
has conducted organizational, research and development, market development and
clinical trial activities during the past four years with the intention to
commercially produce and market its automatic external defibrillator ("AED"),
ForeRunner-TM-. The Company had an accumulated deficit of $24.8 million at
December 31, 1996, and expects to continue to incur operating losses at least
through mid 1998 as it builds its sales force, increases market development
activities, seeks regulatory clearance for its products in additional
jurisdictions, develops new products and increases administrative activities to
support the growth of the Company. The Company does not have significant
experience manufacturing, marketing or selling its products in commercial
quantities and there can be no assurance that the ForeRunner defibrillator will
ever gain commercial acceptance or that the Company will ever achieve
profitability.
During 1996, the Company received the required approvals to market the
ForeRunner AED and its accessories in several countries. In May 1996, the
Company received its CE mark under the European Medical Device Directives Annex
II process, allowing it to market the ForeRunner device and its accessories in
the 18 countries of the European Economic Area. In September 1996, the United
States Food and Drug Administration ("FDA") granted the Company clearance to
market its products in the United States. In October 1996, Heartstream received
a certificate of compliance from the Canadian Standards Association, permitting
the Company to market the ForeRunner and its accessories in Canada. Finally, in
November 1996, the FDA announced the Company's products were cleared for use on
aircraft. The Company and its distributors are required to comply with various
regulations regarding product quality and safety in order to maintain these
approvals. Failure to comply with these requirements could result in warning
letters, fines, injunctions, civil penalties, recall or seizure of products,
suspension of production, or delays in the approval of additional products, any
of which could have a material adverse effect on the Company's business,
financial condition and results of operations.
With completion of ForeRunner's development and required regulatory approvals,
the Company initiated commercial shipments of the ForeRunner and its accessories
to Heartstream's direct customers and international distribution partners in
November 1996. As a result, the Company recorded first-time revenues of
approximately $1.0 million in the fourth quarter of 1996.
<PAGE>
LITIGATION
In 1995, Physio-Control Corporation ("Physio-Control"), a competitor of the
Company, filed a lawsuit in Washington state court alleging trade secret
misappropriation and tortious interference with business relations against the
Company and five of its employees and their spouses in connection with
development of ForeRunner. These employees were founders of Heartstream and
former employees of Physio-Control. The complaint includes related allegations
that the five employees breached proprietary information agreements with
Physio-Control. The complaint seeks injunctive relief, unspecified monetary
damages and an order declaring Physio-Control the owner of certain patent
applications filed by the Company and any patents that may issue from those
applications. Heartstream has filed counterclaims against Physio-Control. The
pending litigation has resulted and will continue to result in substantial
expense to the Company and significant diversion of effort by the Company's
technical and management personnel. If the court finds against the Company, the
Company could be enjoined from manufacturing or commercializing its ForeRunner
product, the Company could be required to seek licenses from Physio-Control, and
the Company could also be held liable for damages. The litigation is currently
in the discovery phase with a trial date set for September 1997. The Company
has conducted a review of its technology in light of the Physio-Control claims
and, after consultation with its intellectual property and litigation counsels,
believes that the Company should prevail in the litigation based on several
defenses including, among other things, the Company's conclusion that it has
independently developed the technology at issue. However, litigation is subject
to inherent uncertainties, especially in cases such as this where complex
technical issues may be decided by a lay jury. Accordingly, no assurance can be
given that the lawsuit will not be decided against the Company. Adverse
determinations in the litigation with Physio-Control could have a material
adverse effect on the Company's business, financial condition and results of
operations.
As of December 31, 1996, the Company had filed a total of 35 patent applications
with the U.S. Patent and Trademark Office, 16 of which had either been issued or
allowed. On January 7, 1997, the Company was awarded a patent relating to the
Company's defibrillator self-test technology. On January 10, 1997, the Company
filed a lawsuit against Physio-Control for infringement of this patent. Physio-
Control has filed a counterclaim charging infringement of one of its patents by
the Company. The litigation is at a very early stage and a trial date has not
yet been determined.
<PAGE>
RESULTS OF OPERATIONS
YEARS ENDED DECEMBER 31, 1996 AND 1995
Net sales totaled $1.0 million for the year ended December 31, 1996. The
Company had no sales in 1995 or prior years. Net sales in 1996 reflect initial
sales of ForeRunner and its accessories to both direct customers and
distribution partners. Sales to the Company's distribution partners accounted
for approximately 80% of net sales during 1996, and accessories represented
approximately 20% of total domestic and international sales. The Company
anticipates domestic sales to represent approximately two-thirds of total sales
in 1997.
Gross margin was $0.4 million, or 38% of net sales, in 1996. The Company
expects gross margins to improve in 1997 as product throughput increases and
manufacturing efficiencies are implemented. Changes in the Company's geographic
market mix are also expected to favorably impact average sales prices due to a
relative reduction in the mix of sales to distribution partners at distributor
prices compared to products sold through the Company's direct sales force.
Sales to distribution partners are typically made at a discount to the Company's
standard list prices. Margins in future periods may be affected by volume
discounts on sales to significant customers.
Research and development expenses, which include clinical trial, regulatory
submission and patent legal expenses, totaled $6.4 million in 1996. This
represents an increase of $1.2 million, or 24%, over the prior year. The
increase was due primarily to the increased size of the development team, the
related personnel costs and increased patent legal expenses. The Company
expects research and development expenses in 1997 to continue near current
levels as the development team evaluates production results, seeks to improve
the ForeRunner production process, and undertakes development of new products
and product enhancements.
General and administrative expenses for the year ended December 31, 1996 were
$5.0 million, compared to $2.2 million for the year ended December 31, 1995.
This represents an increase of $2.8 million, or 126%, over the prior year. The
increase was a result of increased costs to operate as a public company,
additional administrative functions to support growth of the Company and
additional legal costs in connection with the Physio-Control litigation.
General and administrative expenses are expected to continue to increase during
1997 to support the increasing scope of business activities and continuing
litigation with Physio-Control.
Sales and marketing expense totaled $3.6 million for the year ended December 31,
1996, compared to $0.8 million for the year ended December 31, 1995. The
increase of $2.8 million, or 366%, resulted from the Company hiring its first
domestic sales representatives, developing international distributor relations,
creating promotional and advertising campaigns to support the launch of
ForeRunner and its accessories and creating customer
<PAGE>
support services. Sales and marketing expenses are expected to increase
significantly with the hiring of additional direct sales personnel,
establishment of additional distribution channels, increased advertising and
promotional campaigns, and other efforts directed toward the world-wide
commercialization of ForeRunner.
Interest income totaled $2.7 million for the year ended December 31, 1996,
compared to $0.8 million for the year ended December 31, 1995. The increase of
$1.9 million, or 234%, was due to increased cash, cash equivalents and
securities available-for-sale resulting from the completion of the Company's
initial public offering in February 1996.
YEARS ENDED DECEMBER 31, 1995 AND 1994
For the year ended December 31, 1995, research and development expenses were
$5.2 million, compared with $2.5 million for the same period in 1994. The
increase of $2.6 million, or 103%, was due primarily to increased development
staff and related personnel costs and the costs of multicenter clinical trials
which began in late 1994 and concluded in late 1995. Research and development
expenses represent 63% of the loss from operations in 1995 and 65% of the loss
from operations in 1994.
General and administrative expenses for the year ended December 31, 1995 were
$2.2 million, an increase of $1.2 million over 1994. The increase of 117% was
due to increased personnel and facilities costs and legal costs to support the
Physio-Control litigation.
Marketing expenses totaled $0.8 million for the year ended December 31, 1995
compared with $0.3 million for 1994. The 120% increase was primarily due to
increased headcount and related personnel costs as the Company began to develop
promotional strategies and identify target markets.
Interest income increased $0.6 million for the year ended December 31, 1995 to
$0.8 million, compared to $0.2 million for the same period in 1994. The
increase in 1995 was primarily due to increased cash and investments resulting
from a private equity financing consummated in March 1995.
Deferred compensation of $0.8 million was recorded in the fourth quarter of
1995, representing the difference between the exercise prices of 113,472 shares
of common stock subject to options granted in the fourth quarter of 1995 and the
deemed fair value of the Company's common stock on the grant dates.
Compensation expense of $0.6 million attributed to the shares was amortized in
the year ended December 31, 1995. The remaining deferred compensation is being
amortized to operating expense over the vesting periods of the shares.
<PAGE>
INCOME TAXES
The Company has not generated any net income to date and therefore has not
paid any federal income taxes since inception. At December 31, 1996, the
Company had net operating loss carryforwards of approximately $24.0 million
and research and development credit carryforwards of approximately $0.2
million, net of carryforwards expected to expire before their complete
utilization. The operating loss carryforwards and research and development
carryforwards begin to expire in the year 2008. Utilization of federal
income tax carryforwards is subject to certain limitations under Section 382,
of the Internal Revenue Code of 1986, as amended. The Company's past sales
of preferred and common stock have resulted in "ownership changes" as defined
under Section 382, resulting in limitations on the future use of
carryforwards. These limitations are expected to result in the expiration of
approximately $1.0 million of net operating loss carryforwards and
approximately $0.1 million research and development credit carryforwards
before their complete utilization.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations primarily through the sale of equity
securities and through equipmentfinancing arrangements. In February 1996, the
Company raised $49.0 million, net of offering costs, in an initial public
offering of 4,140,000 shares of common stock at $13 per share. Through
December 31, 1996 the Company has raised approximately $77.4 million from
equity securities, net of offering costs, and equipment financing
arrangements. Cash used to fund operating activities was $11.5 million for
the year ended December 31, 1996, compared with $6.4 million for the same
period in 1995, reflecting increasing net losses principally related to
increased marketing and general and administrative expenditures. Cash, cash
equivalents and securities available-for-sale were $50.1 million at
December 31, 1996.
The Company expects to continue to incur operating losses as it supports the
growth of its sales and marketing organization, begins development of new
products and builds general and administrative infrastructure to support
continued growth of the Company. Although the Company believes that existing
cash, cash equivalents and securities available-for-sale and cash flows from
sales will be sufficient to fund its operations for at least the next 24 months,
there can be no assurance that the Company will not require additional financing
in the near future or that additional financing will be available on
satisfactory terms, if at all.
<PAGE>
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Year Ended December 31, 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net sales $ 956,803 $ -- $ --
Cost of sales (594,319) -- --
- -----------------------------------------------------------------------------------------------------------------------------
Gross margin 362,484 -- --
Operating expenses:
Research and development 6,397,226 5,166,832 2,548,570
General and administrative 5,008,966 2,217,530 1,020,552
Sales and marketing 3,558,892 762,754 346,773
- -----------------------------------------------------------------------------------------------------------------------------
14,965,084 8,147,116 3,915,895
Loss from operations (14,602,600) (8,147,116) (3,915,895)
Other income (expense):
Interest income 2,718,322 812,715 169,759
Interest expense (122,610) (139,161) (104,503)
- -----------------------------------------------------------------------------------------------------------------------------
Net loss $(12,006,888) $ (7,473,562) $ (3,850,639)
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
Net loss per share $ (1.12) $ (2.77) $ (1.46)
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
Shares used to calculate net loss per share 10,767,799 2,699,524 2,632,501
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
Pro forma (unaudited):
Net loss per share $ (1.07) $ (1.01) $ (0.66)
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
Shares used to calculate pro forma
net loss per share 11,176,187 7,378,625 5,847,066
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes.
<PAGE>
BALANCE SHEETS
ASSETS
December 31, 1996 1995
- --------------------------------------------------------------------------------
Current assets:
Cash and cash equivalents $24,726,216 $ 5,970,768
Securities available-for-sale 25,353,693 7,867,929
Accounts receivable, net 944,579 --
Inventories 1,548,441 602,462
Prepaid expenses 114,091 104,445
- --------------------------------------------------------------------------------
Total current assets 52,687,020 14,545,604
Property and equipment, net 2,492,351 1,965,984
Deferred offering costs -- 301,806
Other assets 111,084 50,486
- --------------------------------------------------------------------------------
$55,290,455 $16,863,880
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
LIABILITIES AND STOCKHOLDERS' EQUITY
December 31, 1996 1995
- --------------------------------------------------------------------------------
Current liabilities:
Accounts payable $ 1,779,871 $ 523,649
Accrued compensation and benefits 293,312 108,531
Other accrued expenses 127,246 245,636
Current portion of long-term obligations 409,207 313,249
- --------------------------------------------------------------------------------
Total current liabilities 2,609,636 1,191,065
Long-term obligations, less current portion 215,753 618,741
Commitments and contingencies
Stockholders' equity:
Convertible preferred stock, $0.001 par value:
Authorized shares - 5,000,000
Issued and outstanding shares -
none at December 31, 1996,
and 6,190,341 at December 31, 1995 -- 6,190
Common stock, $0.001 par value:
Authorized shares - 30,000,000
Issued and outstanding shares -
11,635,404 at December 31, 1996,
and 967,307 at December 31, 1995 11,635 967
Additional paid-in capital 77,271,965 28,010,289
Accumulated deficit (24,779,410) (12,757,351)
Deferred compensation (39,124) (206,021)
- --------------------------------------------------------------------------------
Total stockholders' equity 52,465,066 15,054,074
- --------------------------------------------------------------------------------
$ 55,290,455 $ 16,863,880
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
See accompanying notes.
<PAGE>
STATEMENTS OF STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
Convertible Preferred Stock Common Stock
------------------------------- --------------------------------
Shares Par Value Shares Par Value
------ --------- ------ ---------
<S> <C> <C> <C> <C>
Balance at December 31, 1993 1,639,000 $ 1,639 750,000 $ 750
Issuance of Series B preferred stock
in exchange for note payable 125,000 125 -- --
Issuance of Series B preferred stock,
net of offering costs of $20,600 1,750,000 1,750 -- --
Exercise of stock options -- -- 2,225 2
Net loss -- -- -- --
- -----------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1994 3,514,000 3,514 752,225 752
Issuance of Series C preferred stock,
net of offering costs of $703,927 2,676,341 2,676 -- --
Exercise of stock options -- -- 215,082 215
Deferred compensation related to
grant of certain stock options -- -- -- --
Amortization of deferred compensation -- -- -- --
Unrealized gains on securities
available-for-sale -- -- -- --
Net loss -- -- -- --
- -----------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1995 6,190,341 6,190 967,307 967
Issuance of common stock,
net of offering costs of $4,834,880 -- -- 4,140,000 4,140
Conversion of preferred stock to
common stock (6,190,341) (6,190) 6,190,341 6,190
Exercise of stock warrants -- -- 41,380 41
Exercise of stock options -- -- 274,475 275
Issuance of common stock under
employee stock purchase plan -- -- 21,901 222
Amortization of deferred compensation -- -- -- --
Unrealized losses on securities
available-for-sale -- -- -- --
Net loss -- -- -- --
- -----------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1996 -- $ -- 11,635,404 $11,635
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
<CAPTION>
Additional Total
Paid-In Accumulated Deferred Stockholders'
Capital Deficit Compensation Equity
------------- ----------- ------------ -------------
<S> <C> <C> <C> <C>
Balance at December 31, 1993 $ 1,636,653 $ (1,438,168) $ -- $ 200,874
Issuance of Series B preferred stock
in exchange for note payable 499,875 -- -- 500,000
Issuance of Series B preferred stock,
net of offering costs of $20,600 6,977,650 -- -- 6,979,400
Exercise of stock options 221 -- -- 223
Net loss -- (3,850,639) -- (3,850,639)
- -----------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1994 9,114,399 (5,288,807) -- 3,829,858
Issuance of Series C preferred stock,
net of offering costs of $703,927 18,027,784 -- -- 18,030,460
Exercise of stock options 34,072 -- -- 34,287
Deferred compensation related to
grant of certain stock options 834,034 -- (834,034) --
Amortization of deferred compensation -- -- 628,013 628,013
Unrealized gains on securities
available-for-sale -- 5,018 -- 5,018
Net loss -- (7,473,562) -- (7,473,562)
- -----------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1995 28,010,289 (12,757,351) (206,021) 15,054,074
Issuance of common stock,
net of offering costs of $4,834,880 48,980,980 -- -- 48,985,120
Conversion of preferred stock to
common stock -- -- -- --
Exercise of stock warrants (41) -- -- --
Exercise of stock options 66,677 -- -- 66,952
Issuance of common stock under
employee stock purchase plan 214,060 -- -- 214,082
Amortization of deferred compensation -- -- 166,897 166,897
Unrealized losses on securities
available-for-sale -- (15,171) -- (15,171)
Net loss -- (12,006,888) -- (12,006,888)
- -----------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1996 $77,271,965 $(24,779,410) $ (39,124) $ 52,465,066
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes.
<PAGE>
STATEMENTS OF CASH FLOWS
OPERATING ACTIVITIES
<TABLE>
<CAPTION>
Year Ended December 31, 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Net loss $(12,006,888) $(7,473,562) $(3,850,639)
Adjustments to reconcile net loss to
net cash used in operating activities:
Depreciation and amortization 749,374 501,259 179,520
Amortization of deferred compensation 166,897 628,013 --
Amortization of premiums and (accretion)
of discounts on securities 197,263 5,103 (112,063)
Increases in:
Accounts receivable (944,579) -- --
Inventories (945,979) (602,462) --
Prepaid expenses (9,646) (1,691) (89,718)
Other assets (60,598) (5,217) (28,781)
Accounts payable and accrued expenses 1,322,613 579,500 120,627
- -----------------------------------------------------------------------------------------------------------------------------
Net cash used in operating activities (11,531,543) (6,369,057) (3,781,054)
INVESTING ACTIVITIES
Purchases of property and equipment (1,275,741) (1,472,624) (415,121)
Purchases of securities (57,364,843) (9,369,070) (6,786,881)
Sales of securities 8,500,000 1,500,000 --
Maturities of securities 31,166,645 1,500,000 5,400,000
- -----------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (18,973,939) (7,841,694) (1,802,002)
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FINANCING ACTIVITIES
Year Ended December 31, 1996 1995 1994
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C>
Issuance of common stock,
net of issuance costs 49,266,154 34,287 223
Issuance of preferred stock,
net of issuance costs -- 18,030,460 6,979,400
Proceeds from investor notes -- -- 500,000
Proceeds from financing agreements -- 533,052 --
Principal payments on
capitalized lease obligations (307,030) (241,314) (90,889)
Decrease (increase) in
deferred offering costs 301,806 (216,462) (85,344)
- -----------------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 49,260,930 18,140,023 7,303,390
Net increase in cash and cash equivalents 18,755,448 3,929,272 1,720,334
Cash and cash equivalents,
beginning of period 5,970,768 2,041,496 321,162
- -----------------------------------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of period $ 24,726,216 $ 5,970,768 $ 2,041,496
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
NONCASH TRANSACTIONS AND SUPPLEMENTAL DISCLOSURES
Cash paid for interest $ 122,610 $ 139,161 $ 104,503
- -----------------------------------------------------------------------------------------------------------------------------
Property and equipment acquired through
capital lease agreements $ -- $ -- $ 553,464
- -----------------------------------------------------------------------------------------------------------------------------
Conversion of note payable to preferred stock $ -- $ -- $ 500,000
- -----------------------------------------------------------------------------------------------------------------------------
Deferred compensation on stock option grants $ -- $ 834,034 $ --
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
See accompanying notes.
<PAGE>
NOTES TO FINANCIAL STATEMENTS
NOTE 1. BUSINESS
Heartstream, Inc. ("Company") developed and manufactures an automatic external
defibrillator ("AED"), designed to improve survival rates from sudden cardiac
arrest ("SCA"), the leading cause of death in the United States. The Company
sells its product, ForeRunner-TM-, and its accessories into domestic and
international markets. All of the Company's manufacturing operations are
located in Seattle, Washington. In prior years the Company was classified as a
development stage Company, but is no longer considered to be in the development
stage as its planned principal operations began in November 1996.
NOTE 2. SIGNIFICANT ACCOUNTING POLICIES
CASH AND CASH EQUIVALENTS
Cash and cash equivalents represent short-term investments consisting of
commercial paper and money market funds carried at cost, which approximates
market. The Company considers all short-term investments purchased with
maturities of three months or less to be cash equivalents.
SECURITIES AVAILABLE-FOR-SALE
The Company's investment portfolio is classified as available-for-sale, and such
securities are stated at fair value based on quoted market prices, with the
unrealized gains and losses adjusted through the accumulated deficit. Interest
earned on securities available-for-sale is included in interest income. The
cost of investments in this category is adjusted for amortization of premiums
and accretion of discounts to maturity. Such amortization and accretion are
included in interest income. Realized gains and losses and declines in value
judged to be other than temporary on securities available-for-sale are also
included in interest income. The cost of securities sold is determined using
the specific identification method.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out) or market.
PROPERTY AND EQUIPMENT
Property and equipment, including assets pledged as security in financing
agreements, are carried at cost less accumulated depreciation and amortization.
Property and equipment are depreciated using the straight-line method over the
following estimated useful lives:
Manufacturing and engineering equipment 3 to 7 years
Computers and software 3 to 5 years
Office equipment and furniture 3 to 7 years
Tooling used in the manufacturing process is carried at cost less accumulated
amortization. Amortization of tooling costs is charged to cost of sales based
on the estimated unit production of the specific tool.
<PAGE>
REVENUE RECOGNITION
Revenue from product sales is recognized upon shipment of the product and
recorded net of estimated returns.
DEFERRED COMPENSATION
The Company records deferred compensation for the difference between the
exercise price and the deemed fair value for financial reporting purposes of
stock options granted. The compensation expense related to such grants is
amortized over the vesting period.
DEFERRED OFFERING COSTS
The Company defers legal, accounting, professional and other issuance costs
incurred in connection with its equity offerings. Such costs were offset
against the offering proceeds upon closing.
NET LOSS PER SHARE
Net loss per share is computed based on the weighted average number of common
shares outstanding and gives effect to the following adjustments: common
equivalent shares are not included in the per-share calculation where the effect
of their inclusion would be antidilutive, except that, in accordance with
Securities and Exchange Commission requirements, common and common equivalent
shares issued during the 12-month period prior to the filing of an initial
public offering have been included in the calculation as if they were
outstanding for all periods using the treasury stock method and the initial
public offering price of $13 per share even though their inclusion would be
antidilutive.
The pro forma net loss per share is computed based on the historical net loss
per share adjusted for the assumed conversion of all outstanding shares of
convertible preferred stock into common stock at the time of issuance.
CONCENTRATION OF CREDIT AND OTHER RISKS
The Company is subject to concentrations of credit risk from its cash, cash
equivalents, investments, and accounts receivable. The Company's credit risk is
managed through the purchase of investment-grade securities and diversification
of the investment portfolio among issuers, industries, and maturities.
During 1996, approximately 80% of net sales was generated from sales to the
Company's two distributors. The Company performs credit evaluations on these
and all other customers whenever deemed necessary and generally does not require
collateral. At December 31, 1996, the Company recorded an allowance for
doubtful accounts
of $20,046.
All of the Company's significant suppliers are subject to the Company's on-going
qualification and acceptance procedures. Certain key components are purchased
from single source suppliers. Any significant component supply delay or
interruption could require the Company to qualify new sources of supply.
<PAGE>
STOCK-BASED COMPENSATION
In October 1995, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("Statement 123"), The Company has adopted the disclosure-only
provisions of Statement 123, and applies Accounting Principles Board Opinion No.
25 ("APB 25") and related Interpretations in accounting for its stock option
plans. Accordingly, the Company's stock-based compensation expense is
recognized based on the intrinsic value of the option on the date of grant.
Recognition of stock-based compensation expense under Statement 123 requires the
use of a fair value method to value stock options using option valuation models
which were developed for purposes other than valuing employee stock options.
Pro forma disclosure of net loss and earnings per share under Statement 123 is
provided in Note 10 to the financial statements.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the amounts reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
NOTE 3. SECURITIES AVAILABLE-FOR-SALE
Securities available-for-sale consist of the following:
<TABLE>
<CAPTION>
Gross Gross
Unrealized Unrealized Fair
Cost Gains Losses Value
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
December 31, 1996
Government-backed securities $ 9,614,320 $ 6,616 $ (3,593) $ 9,617,343
Corporate debt obligations 15,749,526 5,892 (19,068) 15,736,350
- -----------------------------------------------------------------------------------------------------------------------------
$25,363,846 $12,508 $(22,661) $25,353,693
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
December 31, 1995
Government-backed securities $ 1,005,559 $ 892 $ -- $ 1,006,451
Corporate debt obligations 6,857,352 4,126 -- 6,861,478
- -----------------------------------------------------------------------------------------------------------------------------
$ 7,862,911 $ 5,018 $ -- $ 7,867,929
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
There were no realized gains or losses on sales of securities available-for-sale
for the periods ended December 31, 1996, 1995 or 1994. Maturities of securities
available-for-sale were as follows:
<TABLE>
<CAPTION>
December 31, 1996 December 31, 1995
Cost Fair Value Cost Fair Value
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Due within one year $11,755,088 $11,759,843 $7,152,505 $7,157,523
Due after ten years 13,608,758 13,593,850 710,406 710,406
- -----------------------------------------------------------------------------------------------------------------------------
$25,363,846 $25,353,693 $7,862,911 $7,867,929
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
NOTE 4. INVENTORIES
Inventories consist of the following:
December 31, 1996 1995
- --------------------------------------------------------------------------------
Raw materials $1,023,182 $602,462
Work-in process 462,919 --
Finished goods 62,340 --
- --------------------------------------------------------------------------------
$1,548,441 $602,462
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
NOTE 5. PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
December 31, 1996 1995
- --------------------------------------------------------------------------------
Manufacturing and engineering equipment $ 1,919,416 $1,436,684
Computers and software 1,387,866 979,397
Office equipment and furniture 637,114 252,574
- --------------------------------------------------------------------------------
3,944,396 2,668,655
Less: accumulated depreciation and amortization (1,452,045) (702,671)
- --------------------------------------------------------------------------------
$ 2,492,351 $1,965,984
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
Property and equipment includes assets under financing agreements with an
original cost of $1,341,893 at December 31, 1996 and 1995, and net book value of
$347,704 and $784,099 at December 31, 1996 and 1995, respectively. Depreciation
expense related to these assets is included in total depreciation expense.
NOTE 6. LONG-TERM OBLIGATIONS
The Company has entered into several financing agreements whereby it borrows
funds in exchange for title to or a security interest in certain property and
equipment. The agreements include purchase options and provide for monthly
payments throughout the terms, which range from 36 to 48 months.
Minimum future payments under financing agreements at December 31, 1996 are
summarized as follows:
For the years ending December 31:
1997 $485,289
1998 221,505
1999 8,618
- --------------------------------------------------------------------------------
Total minimum payments 715,412
Less amount representing executory costs (10,411)
Less amount representing interest (80,041)
- --------------------------------------------------------------------------------
Present value of minimum payments 624,960
Current portion 409,207
- --------------------------------------------------------------------------------
Noncurrent portion $215,753
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
NOTE 7. COMMITMENTS
The Company leases various office and operating facilities under an operating
lease. The lease expires in 2001 and provides the Company with a cancellation
option at the end of 1999 and a renewal option for two additional terms of three
or five years each. Rental expense totaled $369,786, $329,009, and $128,581 for
the years ended December 31, 1996, 1995 and 1994, respectively.
Minimum future payments under operating leases at December 31, 1996 are
summarized as follows:
For the years ending December 31:
1997 $ 490,865
1998 490,865
1999 490,865
- --------------------------------------------------------------------------------
Total minimum payments $1,472,595
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
NOTE 8. INCOME TAXES
At December 31, 1996, the Company had net operating loss carryforwards of
approximately $24,000,000 and research and development credit carryforwards of
approximately $217,000, net of carryforwards expected to expire before their
complete utilization. The operating loss and research and development credit
carryforwards begin to expire in the year 2008. Utilization of federal income
tax carryforwards is subject to certain limitations under Section 382 of the
Internal Revenue Code of 1986, as amended. The Company's past sales of
preferred and common stock have resulted in "ownership changes" as defined under
Section 382, resulting in limitations on the future use of carryforwards. These
limitations are expected to result in the expiration of approximately $1,000,000
of net operating loss carryforwards and approximately $100,000 research and
development credit carryforwards before their complete utilization.
Deferred income taxes reflect the tax effects of temporary differences between
the carrying amounts of assets and liabilities for financial reporting purposes
and the amounts used for income tax purposes. The Company has recognized a
valuation allowance equal to the excess deferred tax assets over deferred tax
liabilities due to the uncertainty of realizing the benefits of the net deferred
tax assets. The Company's valuation allowance for deferred tax assets increased
$4,689,000 and $2,783,000 during 1996 and 1995, respectively, primarily due to
additional net operating loss carryforwards. Significant components of the
Company's deferred tax assets and liabilities as of December 31, 1996 and 1995
were as follows:
<TABLE>
<CAPTION>
1996 1995
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards $ 8,505,000 $ 3,910,000
Research and development tax credit carryforward 328,000 350,000
Financial statement accruals in excess of tax returns 223,000 38,000
Deferred compensation 76,000 214,000
Depreciation on financial statements in
excess of tax returns 12,000 --
- -----------------------------------------------------------------------------------------------------------------------------
9,144,000 4,512,000
Deferred tax liabilities:
Depreciation on tax returns in excess of financial statements -- (57,000)
- -----------------------------------------------------------------------------------------------------------------------------
Net deferred tax assets $ 9,144,000 $ 4,455,000
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
Valuation allowance $(9,144,000) $(4,455,000)
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
NOTE 9. CAPITAL STOCK
CONVERTIBLE PREFERRED STOCK
Each share of convertible preferred stock carries certain information rights,
registration rights, and protective provisions, and has voting rights in
proportion to the number of common shares issuable upon conversion of the
preferred stock. In conjunction with the completion of the Company's initial
public offering, each share of preferred stock outstanding as of December 31,
1995 was converted into one share of common stock. No shares of preferred stock
were outstanding at December 31, 1996.
COMMON STOCK
In 1996, the Company completed its initial public offering, selling 4,140,000
shares of common stock at $13 per share. In conjunction with the closing of
this offering, the Company's Board of Directors approved an increase in the
total number of authorized shares to 35,000,000, of which 30,000,000 are for
common stock and 5,000,000 are for preferred stock.
Pursuant to Restricted Stock Purchase Agreements ("Agreements") dated on or
about January 11, 1993, the Company sold 750,000 shares of common stock for
$0.01 per share. Under the Agreements, 600,000 shares held by the founders are
subject to repurchase by the Company under certain circumstances. The remaining
150,000 shares are unrestricted. At December 31, 1996, all restricted shares
were released under the terms of the Agreement.
STOCK WARRANTS
During 1993 and 1994, the Company issued stock warrants to purchase 30,923
shares of the Company's series A preferred stock at $1.6169 per share, and
warrants to purchase 21,250 shares of the Company's common stock at $4.25 per
share, respectively, in connection with two of its lease financing agreements.
On January 30, 1996, all warrants outstanding were exercised in a cashless
transaction and 41,380 shares of common stock were issued based on the Company's
initial public offering price of $13.00 per share.
<PAGE>
EMPLOYEE STOCK PURCHASE PLAN
A total of 250,000 shares of common stock was reserved for issuance under the
1995 Employee Stock Purchase Plan ("Purchase Plan"). The Purchase Plan permits
eligible employees to purchase common stock through payroll deductions at a
price equal to 85% of the fair market value of the Company's common stock on the
first day or the last day of the applicable 6-month offering period, whichever
is lower. The Purchase Plan began on January 31, 1996, the effective date of
the Company's initial public offering, and will terminate November 2005 unless
terminated earlier in accordance with the provisions of the Purchase Plan.
STOCKHOLDER RIGHTS AGREEMENT On December 6, 1996 the Company adopted a
Stockholder Rights Plan and declared a dividend distribution of one preferred
share purchase right ("Right") for each outstanding share of the Company's
common stock. Each Right entitles the stockholder to purchase one
one-thousandth of a share of the Company's preferred stock at an exercise
price of $75. The Rights become exercisable under certain limited
circumstances involving acquisition of 15% or more of the Company's common
stock and entitle the holder to purchase, at a price of $75, shares of common
stock of the Company having a market value equal to twice the exercise price
of the Right. The Rights are redeemable by the Company at $0.001 per Right
at any time on or before the tenth day after a person or group announces an
acquisition of 15% or more of the Company's common stock at $0.001 per Right.
The Rights expire in December 2006.
COMMON STOCK RESERVED
The following shares of common stock were reserved at December 31:
1996 1995
- --------------------------------------------------------------------------------
Stock option plans 2,162,593 2,432,693
Employee stock purchase plan 228,099 250,000
Conversion of preferred stock -- 6,190,341
Common stock warrants -- 21,250
Series A preferred stock warrants -- 30,923
- --------------------------------------------------------------------------------
2,390,692 8,925,207
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
NOTE 10. STOCK OPTION PLANS
A total of 2,500,000 shares of common stock has been reserved for issuance under
the Company's 1993 Stock Plan ("Plan"). Stock options have been granted and are
available for grant to officers, employees, and consultants of the Company.
Options under the Plan are either incentive stock options, granted at prices
equal to the fair market value of common shares at the date of grant, or
nonqualified options granted at exercise prices determined by the Board.
Options generally carry 10-year terms and vest 25% after the first year and
ratably each month for the next three years. Certain bonus incentive options
granted to employees, however, are subject to accelerated vesting upon
completion of certain milestones. The Plan also provides for the issuance of
stock purchase rights. No stock purchase rights were outstanding at December
31, 1996. The Plan will terminate in November 2005 unless terminated earlier in
accordance with the provisions of the Plan.
During 1995, the Company's Board of Directors granted options to purchase
113,472 shares of common stock at exercise prices below the fair market value of
common shares at the date of grant. Compensation expense related to these
grants is being amortized over the vesting period. The Company recognized
$166,897 and $628,013 of compensation expense related to these grants under
APB 25, during 1996 and 1995, respectively.
Under the Company's 1995 Director Option Plan ("Director Plan"), a total of
150,000 shares of common stock was reserved for issuance. Under the terms of
the Director Plan, nonemployee directors are granted options to purchase shares
of common stock on the date such person first becomes a director and annually
thereafter. These options are granted at prices equal to the fair market value
of common stock at the date of grant and vest over a period not to exceed three
years. The Director Plan will terminate November 2005 unless terminated earlier
in accordance with the provisions of the Director Plan. Because the terms of
the Director Plan are substantially equivalent to the 1993 Stock Plan, no
separate disclosure of information under Statement 123 is provided.
<PAGE>
The fair value of stock options used to calculate pro forma net loss and net
loss per share disclosures was determined using the Black-Scholes option-pricing
model with the following assumptions in effect on the option grant date: risk-
free interest rate of 5.2% to 7.0%; expected volatility of 40% to 70%; expected
holding period of 1.4 to 2.7 years from the vest date; and a dividend yield of
0.0%. The Company's pro forma net loss and net loss per share under Statement
123 are as follows:
<TABLE>
<CAPTION>
1996 1995
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C>
Net loss, as reported $(12,006,888) $(7,473,562)
Compensation expense recognized under APB 25 166,897 628,013
Pro forma compensation expense under Statement 123 (2,491,790) (693,977)
- -----------------------------------------------------------------------------------------------------------------------------
Pro forma net loss under Statement 123 $(14,331,781) $(7,539,526)
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
Pro forma net loss per share:
Using actual weighted average shares outstanding $ (1.33) $ (2.79)
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
Using pro forma weighted average shares outstanding $ (1.28) $ (1.02)
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
Under Statement 123, compensation expense representing the fair value of the
option grant is recognized over the vesting period. The initial impact on pro
forma net loss may not be representative of compensation expense in future
years, when the effect of the amortization of multiple awards would be reflected
in earnings.
<PAGE>
A summary of the Company's stock option activity, and related information for
the years ended December 31, 1996 and 1995 is as follows:
<TABLE>
<CAPTION>
1996 1995 1994
------------------------- ------------------------- -----------------------
Weighted- Weighted- Weighted-
Average Average Average
Exercise Exercise Exercise
Options Price Options Price Options Price
- -----------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance, beginning of year 1,361,146 $ 3.09 804,525 $0.17 537,000 $0.10
Granted:
At market prices 640,643 13.68 658,762 6.17 309,750 0.27
Below market prices -- -- 113,472 0.44 -- --
Exercised (274,475) 0.24 (215,082) 0.16 (2,225) 0.10
Forfeited (18,247) 10.47 (531) 0.40 (40,000) 0.10
- -----------------------------------------------------------------------------------------------------------------------------
Balance, end of year 1,709,067 $ 7.44 1,361,146 $3.09 804,525 $0.17
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
Exercisable at end of year 467,950 $ 3.03 310,158 $0.50 169,206 $0.10
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
Weighted-average fair value
of option grants:
At market prices $6.96 $3.00
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
Below market prices -- $7.41
- -----------------------------------------------------------------------------------------------------------------------------
- -----------------------------------------------------------------------------------------------------------------------------
</TABLE>
The following information is provided for options outstanding and exercisable at
December 31, 1996:
<TABLE>
<CAPTION>
Outstanding Exercisable
---------------------------------------------- ----------------------------
Weighted-Average
Exercise Weighted- Remaining Weighted-
Price Number of Average Contractual Number of Average
Range Options Exercise Price Life (Years) Options Exercise Price
- ----------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
$ 0.10 - 0.70 674,806 $ 0.30 7.5 336,812 $ 0.29
9.00 - 10.00 409,678 9.60 8.9 112,489 9.60
11.00 - 15.75 624,583 13.74 9.5 18,649 12.97
- ----------------------------------------------------------------------------------------------------
$ 0.10 - 15.75 1,709,067 $ 7.44 8.6 467,950 $ 3.03
- ----------------------------------------------------------------------------------------------------
</TABLE>
<PAGE>
NOTE 11. LITIGATION
In 1995, Physio-Control Corporation ("Physio-Control"), a competitor of the
Company, filed a lawsuit in Washington state court alleging trade secret
misappropriation and tortious interference with business relations against the
Company and five of its employees and their spouses in connection with
development of ForeRunner. These employees were founders of Heartstream and
former employees of Physio-Control. The complaint includes related allegations
that the five employees breached proprietary information agreements with
Physio-Control. The complaint seeks injunctive relief, unspecified monetary
damages and an order declaring Physio-Control the owner of certain patent
applications filed by the Company and any patents that may issue from those
applications. Heartstream has filed counterclaims against Physio-Control. The
pending litigation has resulted and will continue to result in substantial
expense to the Company and significant diversion of effort by the Company's
technical and management personnel. If the court finds against the Company, the
Company could be enjoined from manufacturing or commercializing its ForeRunner
product, the Company could be required to seek licenses from Physio-Control, and
the Company could also be held liable for damages. The litigation is currently
in the discovery phase with a trial date set for September 1997. The Company
has conducted a review of its technology in light of the Physio-Control claims
and, after consultation with its intellectual property and litigation counsels,
believes that the Company should prevail in the litigation based on several
defenses including, among other things, the Company's conclusion that it has
independently developed the technology at issue. However, litigation is subject
to inherent uncertainties, especially in cases such as this where complex
technical issues may be decided by a lay jury. Accordingly, no assurance can be
given that the lawsuit will not be decided against the Company. Adverse
determinations in the litigation with Physio-Control could have a material
adverse effect on the Company's business, financial condition and results of
operations.
On January 7, 1997, the Company was awarded a patent relating to the Company's
defibrillator self-test technology. On January 10, 1997, the Company filed a
lawsuit against Physio-Control for infringement of this patent. Physio-Control
has filed a counterclaim charging infringement of one of its patents by the
Company. The litigation is at a very early stage and a trial date has not yet
been determined.
<PAGE>
REPORT OF MANAGEMENT
The management of Heartstream, Inc. ("Company") is responsible for the
preparation and integrity of the Company's financial statements and other
financial information presented in this annual report. The financial statements
were prepared in accordance with generally accepted accounting principles, and
include amounts based on management's estimates and judgment. Management
maintains accounting systems and other internal controls to ensure reliability
of the financial statements and to provide reasonable assurance that
transactions are properly authorized and recorded, and assets are safeguarded.
The Company engaged Ernst & Young LLP, independent auditors, to audit the
Company's financial statements. Their accompanying report is based on an audit
performed in accordance with generally accepted auditing standards and considers
the Company's internal control structure.
The Audit Committee of the Board of Directors is composed entirely of outside
directors. The Audit Committee will meet periodically with management and the
independent auditors to discuss financial results, development and operation of
internal controls, and results of independent audits. The Audit Committee will
also meet with the independent auditors in the absence of management on a
periodic basis.
/s/ Alan J. Levy /s/ Gary Onn
Alan J. Levy, Ph.D. Gary Onn
President and Director of Finance
Chief Executive Officer and Administration
Principal Accounting Officer
<PAGE>
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
To the Board of Directors and Stockholders of Heartstream, Inc.
We have audited the accompanying balance sheets of Heartstream, Inc. as of
December 31, 1996 and 1995, and the related statements of operations,
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 1996. These financial statements are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Heartstream, Inc. at December
31, 1996 and 1995, and the results of its operations and its cash flows for each
of the three years in the period ended December 31, 1996, in conformity with
generally accepted accounting principles.
/s/ Ernst & Young LLP
Seattle, Washington
January 22, 1997
<PAGE>
CORPORATE DIRECTORY AND INFORMATION
<TABLE>
<S> <C> <C>
OFFICERS Michael J. Levinthal+ INQUIRIES
Alan J. Levy, Ph.D. General Partner, Communications regarding
President and MAYFIELD FUND stock transfer matters,
Chief Executive Officer stock certificates, address
Alan J. Levy, Ph.D. changes, etc., should be
Lori J. Glastetter President and directed to the Transfer Agent
Vice President, Chief Executive Officer at the address listed on this
Regulatory Affairs and page.
Quality Assurance Kurt C. Wheeler+
President, Chief Executive Inquiries regarding Company
Curtis R. Hafner Officer and Director, financial information should
Vice President, INCONTROL, INC. be directed to Investor
Engineering Relations at the Company
HEADQUARTERS address listed on this page.
Kenneth M. Jenkins, Ph.D. 2401 Fourth Avenue,
Vice President, Suite 300 Form 10-K can be obtained
Manufacturing Seattle, WA 98121 without charge by contacting
(206) 443-7630 Investor Relations at the
Carlton B. Morgan Company address listed on
Vice President, LEGAL COUNSEL this page.
Research Wilson Sonsini
Goodrich and Rosati STOCK MARKET INFORMATION
Keith M. Serzen 650 Page Mill Road As of March 7, 1997, there
Vice President, Palo Alto, CA 94304-1050 were approximately 2,000
Sales and Marketing beneficial owners of the
INDEPENDENT AUDITORS Company's common stock. The
James R. Shay Ernst & Young LLP Company has not paid
Chief Legal Counsel 999 Third Avenue, dividends on its common
and Secretary Suite 3500 stock.
Seattle, WA 98104
DIRECTORS The following table sets
Ellen M. Feeney* TRANSFER AGENT forth, for the periods since
General Partner, ChaseMellon the Company's initial public
Weiss, Peck & Greer Shareholder Services offering on January 31, 1996,
VENTURE PARTNERS, LLC 520 Pike Street, Suite 1220 the high and low sales prices
Seattle, WA 98101 for the Company's common stock
Frank M. Fischer+ as reported by the Nasdaq
President, ANNUAL MEETING National Market under the symbol
Chief Executive The annual meeting will be "HTST."
Officer and Director, held on Tuesday, April 29,
VENTRITEX, INC. 1997, at 10:00 a.m., at Quarter ended: High Low
The Edgewater March 31, 1996 $17 1/2 $13
Wende S. Hutton* 2411 Alaskan Way June 30, 1996 15 3/4 12 5/8
General Partner, Seattle, WA 98121 September 30, 1996 17 1/2 7 3/4
MAYFIELD FUND December 31, 1996 17 10 1/2
Mark B. Knudson, Ph.D.* * Denotes member of the Audit
Managing Partner, Committee
MEDICAL INNOVATION PARTNERS + Denotes member of the
Compensation Committee
</TABLE>
<PAGE>
EXHIBIT 23.1
CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
We consent to the incorporation by reference in this Annual Report (Form
10-K) of Heartstream, Inc. of our report dated January 22, 1997, included in the
1996 Annual Report to Stockholders of Heartstream, Inc.
We also consent to the incorporation by reference in the Registration
Statement (Form S-8) pertaining to the 1993 Employee and Consultant Stock Plan,
1995 Employee Stock Purchase Plan, and 1995 Director Option Plan of Heartstream,
Inc. of our report dated January 22, 1997, with respect to the financial
statements incorporated herein by reference in the Annual Report (Form 10-K) of
Heartstream, Inc. for the year ended December 31, 1996.
/s/ Ernst & Young LLP
Seattle, Washington
March 25, 1997
20
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE BALANCE
SHEETS AT DECEMBER 31, 1996 AND 1995, AND THE RELATED STATEMENTS OF OPERATIONS,
STOCKHOLDERS' EQUITY AND CASH FLOWS FOR EACH OF THE THREE YEARS IN THE PERIOD
ENDED DECEMBER 31, 1996, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<CASH> 24,726,216
<SECURITIES> 25,353,693
<RECEIVABLES> 964,625
<ALLOWANCES> 20,046
<INVENTORY> 1,548,441
<CURRENT-ASSETS> 52,687,020
<PP&E> 3,944,396
<DEPRECIATION> 1,452,045
<TOTAL-ASSETS> 55,290,455
<CURRENT-LIABILITIES> 2,609,636
<BONDS> 215,753
0
0
<COMMON> 11,635
<OTHER-SE> 52,453,431
<TOTAL-LIABILITY-AND-EQUITY> 55,290,455
<SALES> 956,803
<TOTAL-REVENUES> 956,803
<CGS> 594,319
<TOTAL-COSTS> 594,319
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 122,610
<INCOME-PRETAX> (12,006,888)
<INCOME-TAX> 0
<INCOME-CONTINUING> (12,006,888)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (12,006,888)
<EPS-PRIMARY> (1.07)
<EPS-DILUTED> 0
</TABLE>
