UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 27, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ________ to _______
Commission File Number: 0-27422
ARTHROCARE CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 94-3180312
(State of incorporation) (I.R.S. Employer Identification No.)
595 North Pastoria Avenue
Sunnyvale, California 94086
(Address of principal executive offices)
(408) 736-0224
(Registrant's telephone number, including area code)
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
----- -----
The number of shares outstanding of the registrant's common stock as of
November 5, 1997 was 8,832,130.
<PAGE>
Part 1. Financial Information
Item 1. Financial Statements
ARTHROCARE CORPORATION
CONDENSED BALANCE SHEETS
(In thousands)
<TABLE>
<CAPTION>
September 27, December 28,
1997 1996
------------- -------------
(unaudited)
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $11,591 $11,359
Available-for-sale securities 9,554 12,281
Accounts receivable, net 1,492 1,251
Inventory 1,678 759
Prepaid expenses and other current assets 289 155
------------- -------------
Total current assets 24,604 25,805
Property and equipment, net 1,421 1,484
Related party receivables 744 298
Available-for-sale securities 1,551 5,641
Other assets 63 69
------------- -------------
Total assets $28,383 $33,297
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $1,341 $1,001
Related party payables 26 54
Accrued liabilities 1,820 1,245
Capital lease obligation, current 24 37
------------- -------------
Total current liabilities 3,211 2,337
Capital lease obligation, net of current portion 4 21
Deferred rent 159 157
------------- -------------
Total liabilities 3,374 2,515
------------- -------------
Stockholders' equity:
Common stock 9 9
Additional paid in capital 48,971 48,862
Notes receivable from stockholders (92) (92)
Deferred compensation (268) (388)
Accumulated deficit (23,674) (17,618)
Unrealized gain on available-for-sale securities 63 9
------------- -------------
Total stockholders' equity 25,009 30,782
------------- -------------
Total liabilities and stockholders' equity $28,383 $33,297
============= =============
</TABLE>
The accompanying notes are an integral part of the
condensed financial statements
<PAGE>
ARTHROCARE CORPORATION
CONDENSED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
--------------------------- ---------------------------
September 27, September 28, September 27, September 28,
1997 1996 1997 1996
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net sales $3,366 $1,574 $8,459 $4,139
Cost of sales 2,201 1,365 5,874 3,666
------------- ------------- ------------- -------------
Gross margin 1,165 209 2,585 473
------------- ------------- ------------- -------------
Operating expenses:
Research and development 1,076 830 2,829 2,644
Sales and marketing 1,607 1,056 4,358 2,586
General and administrative 713 648 2,531 1,751
------------- ------------- ------------- -------------
Total operating expenses 3,396 2,534 9,718 6,981
------------- ------------- ------------- -------------
Loss from operations (2,231) (2,325) (7,133) (6,508)
Interest and other income, net 331 393 1,077 1,100
------------- ------------- ------------- -------------
Loss before income tax provision (1,900) (1,932) (6,056) (5,408)
Income tax provision -- -- -- 2
------------- ------------- ------------- -------------
Net loss ($1,900) ($1,932) ($6,056) ($5,410)
============= ============= ============= =============
Net loss per share ($0.22) ($0.22) ($0.69) ($0.67)
============= ============= ============= =============
Shares used in per share calculation 8,812 8,714 8,801 8,057
============= ============= ============= =============
</TABLE>
The accompanying notes are an integral part of the
condensed financial statements
<PAGE>
ARTHROCARE CORPORATION
CONDENSED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
----------------------------
September 27, September 28,
1997 1996
------------- -------------
<S> <C> <C>
Cash flows from operating activities:
Net loss ($6,056) ($5,410)
Adjustments to reconcile net loss to net cash
used in operating activities:
Depreciation and amortization 457 278
Write-off of property and equipment -- 237
Amortization of deferred compensation 120 121
Provision for doubtful accounts 74 87
Provision for excess and obsolete inventory 277 64
Deferred rent 2 14
Changes in operating assets and liabilities:
Accounts receivable (315) (1,019)
Related party receivables -- (56)
Inventory (1,196) (570)
Prepaid expenses and other current assets (80) 635
Accounts payable 312 (239)
Accrued liabilities 575 561
Other assets 6 (20)
------------- -------------
Net cash used in operating activities (5,824) (5,317)
------------- -------------
Cash flows from investing activities:
Purchases of property and equipment (394) (842)
Net maturities (purchases) of
available-for-sale securities 6,871 (18,465)
------------- -------------
Net cash provided by (used in) investing
activities 6,477 (19,307)
------------- -------------
Cash flows from financing activities:
Repayment of capital leases (30) (20)
Issuance of notes receivable (500) --
Proceeds from issuance of Common Stock 109 31,937
------------- -------------
Net cash provided by (used in) financing
activities (421) 31,917
------------- -------------
Net increase in cash and cash equivalents 232 7,293
Cash and cash equivalents, beginning of period 11,359 4,774
------------- -------------
Cash and cash equivalents, end of period $11,591 $12,067
============= =============
Supplemental schedule of non-cash investing and
financing activities:
Issuance of common stock on conversion of
preferred stock $ -- $15,704
Net unrealized gain on
available-for-sale securities $54 $19
</TABLE>
The accompanying notes are an integral part of the
condensed financial statements
<PAGE>
ARTHROCARE CORPORATION
NOTES TO CONDENSED FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation
In the opinion of management, the accompanying unaudited
condensed financial statements contain all adjustments (all of
which are normal and recurring in nature) necessary to present
fairly the financial position, results of operations and cash
flows of ArthroCare Corporation (the "Company"). Interim results
of operations are not necessarily indicative of the results to be
expected for the full year. The notes to the financial statements
contained in the Form 10-K for the year ended December 28, 1996
should be read in conjunction with these condensed financial
statements. The balance sheet at December 28, 1996 was derived
from audited financial statements; however, the financial
statements in this report do not include all disclosures required
by generally accepted accounting principles.
2. Computation of Per Share Data
The per share data is based upon the weighted average number
of common and common equivalent shares outstanding. Common
equivalent shares from stock options, warrants and preferred stock
are excluded from the computation as their effect is anti-
dilutive, except that, pursuant to the Securities and Exchange
Commission Staff Accounting Bulletin No. 83, common and common
equivalent shares issued by the Company during the twelve months
preceding the initial public offering at prices substantially
below the initial public offering price have been included in the
calculations as if they were outstanding for all of the periods
prior to February, 1996 (using the treasury stock method and the
public offering price per share).
3. Components of Inventory (in thousands):
September 27, December 28,
1997 1996
------------ ------------
(Unaudited)
Inventory:
Raw materials $534 $345
Work-in-progress 295 32
Finished goods 849 382
------------ ------------
Total $1,678 $759
============ ============
4. Recent Accounting Pronouncements
In February 1997, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No. 128 (SFAS
128), Earnings Per Share, which specifies the computation,
presentation and disclosure requirements for earnings per share.
SFAS 128 supersedes Accounting Principles Board Opinion No. 15 and
will be effective for the Company's fiscal year 1997. SFAS 128
requires restatement of all prior-period earnings per share data
presented after the effective date. SFAS 128 will not have a
material impact on the Company's earnings per share.
In June 1997, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No. 130 (SFAS
130), Reporting Comprehensive Income. This statement establishes
requirements for disclosure of comprehensive income and becomes
effective for the Company's fiscal year 1998, with
reclassification of earlier financial statements for comparative
purposes. Comprehensive income generally represents all changes in
stockholders' equity except those resulting from investments or
contributions by stockholders. The Company is evaluating
alternative formats for presenting this information, but does not
expect this pronouncement to materially impact the Company's
reporting of results of operations.
In June 1997, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No. 131 (SFAS
131), Disclosure about Segments of an Enterprise and Related
Information. This statement establishes standards for disclosure
about operating segments in annual financial statements and
selected information in interim financial reports. It also
establishes standards for related disclosures about products and
services, geographic areas and major customers. This statement
supersedes Statement of Financial Accounting Standards No. 14,
Financial Reporting for Segments of a Business Enterprise. The
new standard becomes effective for the Company's fiscal year 1998,
and requires that comparative information from earlier years to be
restated to conform to requirements of this standard. The Company
is evaluating the requirements of SFAS 131 and the effects, if
any, on the Company's current reporting and disclosures.
<PAGE>
PART 1. FINANCIAL INFORMATION
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
Since commencing operations in April 1993, ArthroCare
Corporation (the "Company" or "ArthroCare") has primarily engaged
in the design, development, clinical testing, manufacturing, and
sale of its Arthroscopic System. The Arthroscopic System consists
of a disposable, bipolar ArthroWand, a radio frequency controller
that powers the ArthroWand and a cable that connects the
ArthroWand to the controller. The ArthroWand, using its Coblation
(trademark) technology, removes soft tissue with minimal damage to
surrounding healthy tissue, and simultaneously achieves hemostasis
(sealing of small bleeding vessels).
The Company has a limited history of operations. The Company
received clearance of its 510(k) premarket notification from the
United States Food & Drug Administration (FDA) in March 1995 to
market its Arthroscopic System in the United States for use in
arthroscopic surgery of the knee, shoulder, elbow and ankle. The
Company has since received clearance for use in the wrist and hip.
In December 1995, the Company commercially introduced its
Arthroscopic System through a network of distributors in the
United States. The Company's arthroscopic strategy includes
placing controllers that are intended to generate future wand
revenues. The Company's long-term strategy includes applying its
proprietary platform technology to a range of other soft tissue
surgical procedures including the fields of urology, dermatology
and dentistry. In that regard, the Company has received 510(k)
clearance for use of its technology in the fields of urology,
dental surgery, general dermatology and general surgery. The
Company has received approval of an investigational device
exemption (IDE) to conduct a clinical study on a specific
dermatological indication. Following the completion of the study,
the Company plans to submit a 510(k) application to the FDA.
There can be no assurance that the Company's applications for
other systems under development will be cleared by the FDA on a
timely basis, if at all, or that these products or any of the
Company's products, if cleared for marketing, will ever achieve
commercial acceptance. See "Additional Factors that Might Affect
Future Results -- Uncertainty of New Product Development",
"-- Limited Domestic and International Marketing and Sales Experience"
and " -- Uncertainty of Approvals; Extensive Governmental
Regulation."
Statements in this Quarterly Report on Form 10-Q which
express that the Company "believes", "anticipates" or "plans to..."
as well as other statements which are not historical fact, are
forward looking statements within the meaning of the Private
Securities Litigation Reform Act of 1995. Actual events or
results may differ materially as a result of the risks and
uncertainties described herein including, in particular, those
factors described under "Additional factors that might affect
future results" and other risks and uncertainties in the documents
incorporated herein by reference.
Results of Operations
ARTHROCARE CORPORATION
CONDENSED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
-------------------------------------- -------------------------------------
September 27, September 28, % September 27, September 28, %
1997 % 1996 % Chg 1997 % 1996 % Chg
-------- ------ -------- ------ ------ -------- ----- -------- ------ ------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Net sales $3,400 100% $1,574 100% 116% $8,493 100% $4,139 100% 105%
Cost of sales 2,300 68% 1,365 87% 68% 5,973 70% 3,666 89% 63%
-------- -------- -------- --------
Gross margin 1,100 32% 209 13% 426% 2,520 30% 473 11% 433%
-------- -------- -------- --------
Operating expenses:
Research and development 850 25% 830 53% 2% 2,603 31% 2,644 64% -2%
Sales and marketing 1,500 44% 1,056 67% 42% 4,251 50% 2,586 62% 64%
General and administrative 950 28% 648 41% 47% 2,768 33% 1,751 42% 58%
-------- -------- -------- --------
Total operating expenses 3,300 97% 2,534 161% 30% 9,622 114% 6,981 168% 38%
-------- -------- -------- --------
Loss from operations (2,200) -65% (2,325) -148% -5% (7,102) -84% (6,508) -157% 9%
Interest and other income, net 325 10% 393 25% -17% 1,071 13% 1,100 26% -3%
-------- -------- -------- --------
Loss before income tax provision (1,875) -55% (1,932) -123% -3% (6,031) -71% (5,408) -131% 12%
Income tax provision -- 0% -- 0% n/m -- 0% 2 0% n/m
-------- -------- -------- --------
Net loss ($1,875) -55% ($1,932) -123% -3% ($6,031) -71% ($5,410) -131% 11%
======== ======== ======== ========
</TABLE>
Revenues
For the three month period ended September 27, 1997,
revenues were $3.4 million as compared to $1.6 million for the
three month period ended September 28, 1996. The $1.8 million
increase was primarily due to higher unit volume wand sales
resulting from a larger installed base of controllers. Higher
unit volume controller sales also contributed to the increase.
The increase wand sales were partially offset by lower controller
average selling price (ASP) as compared to the year ago quarter.
Revenues for the nine month period ended September 27, 1997
were $8.5 million as compared to $4.1 million for the nine month
period ended September 28, 1996. The $4.3 million increase was
due primarily to higher unit volume wand sales resulting from a
larger installed base of controllers. Higher controller unit
volume sales and slightly higher wand ASP also contributed to the
increase. The increased revenues in the 1997 period were
partially offset by decreased controller revenues resulting from
initial dealer stocking orders in the first two quarters of 1996
that did not recur in the 1997 period.
The Company's strategy in arthroscopy is to increase the
installed base of controllers by offering aggressive promotional
programs which bundle a discounted controller with a minimum wand
purchase and first year wand purchase commitment. This strategy
has had an adverse impact on controller revenue, controller ASP
and gross margins, partially offsetting the positive impact of
increased wand sales.
During the third quarter of 1997, the installed base of
controllers increased by over 300 units to a total installed base
of more than 1,250 units. This installed base of controllers
generated sales of more than 25,000 wands during the third quarter
of 1997.
Overall, wands were sold at or near list price during the
third quarter and for the first nine months of 1997. The wand ASP
was higher in the three month period ended September 27, 1997 than
in the three month period ended September 28, 1996 due to the
large number of wands sold to dealers at discounts in the prior
year quarter as dealers stocked initial inventory. The same was
true for the nine month period ended September 27, 1997 as
compared to the nine month period ended September 28, 1996. The
Company expects international sales of wands at discounted prices
to reduce wand ASP in the future.
During the three and nine month periods ended September 27,
1997, controller ASP was adversely impacted by promotional
programs which offer discounted controller prices when packaged
with volume wand purchases or purchase commitments. In the three
and nine month periods ended September 28, 1996, the controller
ASP was higher as dealers were purchasing their demonstration
controllers and the current controller promotional programs were
not being offered. The Company expects to continue these
promotional programs as a strategy to increase controller
placements which could result in increased wand sales.
Wands and controllers as percentage of total revenues:
Three Months Ended Nine Months Ended
--------------------------- ---------------------------
September 27, September 28, September 27, September 28,
1997 1996 1997 1996
------------- ------------- ------------- -------------
Wands 89% 84% 91% 73%
Controllers 11% 16% 9% 27%
The revenue mix between wands and controllers in the three
month period ended September 27, 1997 was approximately 89% wands
and 11% controllers. During the three month period ended
September 28, 1996 the approximate mix of wands and controllers
was 84% wands and 16% controllers. During the nine month period
ended September 27, 1997 the revenue mix was approximately 91%
wands and 9% controllers. During the nine month period ended
September 28, 1996, the revenue mix was approximately 73% wands
and 27% controllers. The increasing wand percentages in both
periods compared with the year ago periods were due to increased
wand sales and continued promotional pricing of controllers. This
trend was slightly offset in the nine month period ended September
27, 1997 by initial stocking orders shipped to international
dealers during the second quarter of 1997. The Company expects
wand sales to remain the primary component of revenues in the
future.
During the three and nine month periods ended September 27,
1997, revenues were heavily weighted towards sales to doctors and
hospitals. The three and nine month periods ended September 28,
1996 were the Company's first full periods of shipments, and
revenues were heavily weighted towards sales to dealers as they
bought initial stocking inventory. The Company expects sales to
doctors and hospitals to remain high as a percentage of overall
sales in the future.
The Company believes that, in its first seven quarters of
product shipments, it has penetrated over 3% of the arthroscopic
surgical tools market in the United States and that
approximately 60% of the Company's wand revenue is being generated
by wands purchased for use in shoulder procedures. The Company
believes that shoulder procedures are the fastest growing segment
of the arthroscopic market, and knee procedures represent the
largest segment of arthroscopic surgery in terms of the absolute
number of procedures. In the quarter ended September 27, 1997, the
Company estimates that approximately $1.2 million in wand revenues
were generated by knee procedures. In order to achieve increasing
wand sales over time, the Company must further penetrate the
market for knee procedures. The Company has introduced additional
wand styles including its new dome wands designed to be used in
both knee and shoulder arthroscopic procedures. These are intended
to increase wand sales in both markets. There can be no assurance
that those wand styles will be adopted by doctors.
The Company has limited sales and marketing experience and
can make no assurance that current trends in sales and product
acceptance will continue. See "Additional Factors that Might
Affect Future Results -- Uncertainty of Market Acceptance" and
"-- Limited Domestic and International Marketing and Sales
Experience."
Cost of Sales
Cost of sales was $2.2 million, or 65% of sales for the
three months ended September 27, 1997. During the three month
period ended September 28, 1996, cost of sales was $1.4 million or
87% of sales. Cost of sales for the nine month period ended
September 27, 1997 was $5.9 million or 69% of sales. During the
nine month period ended September 28, 1996, cost of sales was $3.7
million or 89% of sales. As a percentage of sales, cost of sales
decreased as the fixed and semi-fixed costs were spread over
higher wand manufacturing volume resulting in improved
manufacturing efficiency. Improvements to the manufacturing
process also reduced costs by improving efficiency. The $0.8
million and $2.2 million year over year cost of sales increases
for the three and nine month periods, respectively, were due to
higher volume wand and controller shipments.
The improved gross margin includes the effect of the
controller promotional programs during the quarter. The Company
believes that if its promotional programs maintain the same or
higher number of wands bundled with a discounted controller, and
if the demand for the disposable wands increases over a growing
installed base of controllers, then the cost of sales will
continue to decrease as a percentage of revenue and gross margins
will continue to increase. However, there can be no assurance the
Company will be successful in maintaining the mix of wands to
discounted controllers in its promotional programs or increasing
demand for its disposable wands. See "Additional Factors that
Might Affect Future Results -- History of Losses; Fluctuations in
Operating Results; Substantial Losses Expected to Continue."
Operating Expenses
Research and development expense, which includes
expenditures for regulatory compliance and quality assurance, was
$1.1 million in the three months ended September 27, 1997, higher
than the $0.8 million for the three month period ended September
28, 1996 due to an increase in staffing and related increased
spending on parts and supplies in the current period. The increase
was partially offset by lower spending on outside services as more
research and development, regulatory affairs and clinical studies
were performed by in-house staff. The $0.2 million increase to
$2.8 million for the nine month period ended September 27, 1997
from $2.6 million for the nine month period ended September 28,
1996 was also due to an increase in staffing partially offset by a
decrease in spending on outside services.
The Company believes that continued investment in its
platform technology is essential if it is to maintain its
competitive position. On July 9, 1997 the Company announced the
appointment of Dr. Hira V. Thapliyal, the Company's co-founder, as
its Chief Technology Officer. As Dr. Thapliyal focuses his
attention in this area, the Company expects to continue to make
substantial expenditures on new product development, regulatory
affairs, clinical studies, and to increase research and
development spending and headcount. See "Additional Factors that
Might Affect Future Results -- Competition."
Sales and marketing expense increased substantially to $1.6
million in the three month period ended September 27, 1997 from
$1.1 million in the three month period ended September 28, 1996.
During the nine month period ended September 27, 1997 sales and
marketing expense was $4.4 million as compared to $2.6 million for
the nine month period ended September 28, 1996. The increases were
primarily due to higher dealer commissions resulting from
increased sales and higher promotional, staffing and trade show
expenses due to a higher level of sales and marketing activity.
The Company currently anticipates that sales and marketing
spending will continue to increase due to dealer commissions,
promotional, demonstration and sample expenses, and additional
investment in sales, marketing and support staff necessary to
market its products.
General and administrative expense increased to $0.7
million for the three month period ended September 27, 1997 from
$0.6 million for the three month period ended September 28, 1996
due to increased staffing. Higher expenditures also include the
cost of business development activities, insurance and expense
necessary to expand the corporate infrastructure. General and
administrative expense increased for the nine month period ended
September 27, 1997 to $2.5 million from $1.8 million for the nine
month period ended September 28, 1996 for similar reasons. The
Company expects that general and administrative expense will
continue to increase as the Company further expands its staffing,
business development activities and other support operations.
Interest and Other Income
Net interest and other income decreased to $0.3 million for
the three month period ended September 27, 1997 from $0.4 million
in the three month period ended September 28, 1996 due to
investments being converted to cash for use in the business over
time. During the nine month period ended September 27, 1997 and
the nine month period ended September 28, 1996, interest and other
income was $1.1 million. The Company expects that interest income
will decrease as investments are reduced to meet the cash needs of
the business.
Net Loss
Net loss was $1.9 million for the three month period ended
September 27, 1997 compared to $1.9 million in the three month
period ended September 28, 1996. The higher operating expenses
and, lower interest income which resulted from increased business
activities associated with supporting a higher revenue, were
offset by an improved gross margin.
Net loss for the nine months ended September 27, 1997 were
$6.1 million as compared to $5.4 million for the nine month period
ended September 28, 1996. The increased loss is due to
substantially the same reasons as for the three month period
except that the higher operating expense was only partially offset
by an improved gross margin.
Liquidity and Capital Resources
At September 27, 1997, the Company had $21.4 million in
working capital and its principal sources of liquidity consisted
of $22.7 million in cash, cash equivalents, and available-for-sale
securities which include long-term available-for-sale securities.
The cash and cash equivalents are highly liquid with original
maturities of ninety days or less. The available-for-sale
securities consist mainly of preferred stock, corporate notes,
commercial paper, corporate bonds and U.S. government securities.
The Company's cash used in operating activities increased to
$5.8 million for the nine month period ended September 27, 1997
from $5.3 million for the nine month period ended September 28,
1996 due to increased inventory and accounts receivable levels in
the 1997 period. This was offset by increased trade accounts
payable levels.
Accounts receivable of $1.5 million as of September 27, 1997
were slightly higher than the December 28, 1996 balance of $1.3
million due to higher sales at an improved rate of collections
from customers. The Company expects accounts receivable to
increase in the future in line with growing sales and longer terms
on international sales.
Inventories increased to $1.7 million as of September 27,
1997 compared to $759,000 as of December 28, 1996 due to the
higher level of manufacturing activity in support of higher sales
and new product introductions. The Company expects future
inventory levels to grow in absolute value.
As of September 27, 1997, net property and equipment of $1.4
million was relatively unchanged from $1.5 million at December 28,
1996. In the remainder of 1997, the Company has planned but has
not committed to approximately $88,000 in capital expenditures
consisting primarily of computers, computer networking equipment
and molds.
The Company plans to finance its capital needs principally
from cash, cash equivalents, and available-for-sale securities
which include long-term available-for-sale securities and related
interest, existing capital resources and to the extent available,
lines of credit. The Company currently has no commitments for any
credit facilities such as revolving credit agreements or lines of
credit that could provide additional working capital. The Company
believes that its current cash, cash equivalents and available-
for-sale securities, together with interest thereon and the
Company's existing capital resources, will be sufficient to fund
its operations at least through fiscal 1998. The Company's future
liquidity and capital requirements will depend on numerous factors
including the Company's success of commercializing the
Arthroscopic System, the ability of the Company's suppliers to
continue to meet the demands of the Company by providing
sufficient quantities at current prices, obtaining and enforcing
patents important to the Company's business, the status of
regulatory approvals, and competition. There can be no assurance
that the Company will not be required to raise additional capital
or that such capital will be available on acceptable terms, if at
all.
In February 1997, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No. 128 (SFAS
128), "Earnings Per Share," which specifies the computation,
presentation and disclosure requirements for earnings per share.
SFAS 128 supersedes Accounting Principles Board Opinion No. 15 and
will be effective for the Company's fiscal year 1997. SFAS 128
requires restatement of all prior-period earnings per share data
presented after the effective date. SFAS 128 will not have a
material impact on the Company's earnings per share.
In June 1997, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No. 130 (SFAS
130), Reporting Comprehensive Income. This statement establishes
requirements for disclosure of comprehensive income and becomes
effective for the Company's fiscal year 1998, with
reclassification of earlier financial statements for comparative
purposes. Comprehensive income generally represents all changes in
stockholders' equity except those resulting from investments or
contributions by stockholders. The Company is evaluating
alternative formats for presenting this information, but does not
expect this pronouncement to materially impact the Company's
reporting of results of operations.
In June 1997, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No. 131 (SFAS
131), Disclosure about Segments of an Enterprise and Related
Information. This statement establishes standards for disclosure
about operating segments in annual financial statements and
selected information in interim financial reports. It also
establishes standards for related disclosures about products and
services, geographic areas and major customers. This statement
supersedes Statement of Financial Accounting Standards No. 14,
Financial Reporting for Segments of a Business Enterprise. The
new standard becomes effective for the Company's fiscal year 1998,
and requires that comparative information from earlier years to be
restated to conform to requirements of this standard. The Company
is evaluating the requirements of SFAS 131 and the effects, if
any, on the Company's current reporting and disclosures.
ADDITIONAL FACTORS THAT MIGHT AFFECT FUTURE RESULTS
ArthroCare became a public company in February 1996.
Included here are risk factors as updated from the Company's
Annual Report on Form 10-K filed March 28, 1997. The following
factors represent current challenges to the Company that create
risk and uncertainty. Failure to adequately overcome any of the
following challenges, either singularly or in combination, could
have a materially adverse effect on the Company's results of
operations, business, or financial position.
Dependence Upon Arthroscopic System
The Company commercially introduced the Arthroscopic System
in December 1995 and by the quarter ended September 27, 1997, had
reported 22 months of sales. The Arthroscopic System is the
Company's only commercial product and will account for
substantially all of the Company's revenue for the foreseeable
future. As such, the Company is highly dependent on its
Arthroscopic System. Currently, the majority of the Company's
sales come from the United States. The Company has established
distribution capability in Europe, Australia, Korea, Japan, Canada
and parts of South and Central America. Before the Arthroscopic
System can be sold outside these regions, the Company will have to
obtain additional foreign regulatory approvals and establish
additional distribution capability in other geographic regions.
If such regulatory approval is obtained, there can be no assurance
that the Company will be able to establish a successful
distribution capability.
Uncertainty of Market Acceptance
Physicians will not use the Company's products unless they
determine, based on experience, clinical data and other factors,
that these systems are an attractive alternative to conventional
means of tissue ablation. The Arthroscopic System was introduced
in December 1995 and no independent published clinical reports
exist to support the Company's marketing efforts, which may have
an adverse effect on its ability to obtain physician acceptance.
The Company believes that continued recommendations and
endorsements by influential physicians are essential for market
acceptance of its products. If the Arthroscopic System does not
continue to receive broad-based physician acceptance and
endorsement by influential physicians, the Company's business,
financial condition and results of operations would be materially
adversely affected.
Limited Operating History
The Company has a limited history of operations that, to
date, has consisted primarily of research and development, product
engineering, obtaining FDA clearance of its Arthroscopic System,
developing a network of distributors in the United States to
market the Arthroscopic System and 22 months of product sales.
The Company has started to realize revenues from the sale of its
products, but continues to generate operating losses and
anticipates generating losses in the future. Whether the Company
can successfully manage the transition to a larger-scale
commercial enterprise will depend upon increasing sales of
disposable ArthroWands from its distribution network, obtaining
additional foreign regulatory approvals for the Arthroscopic
System, obtaining domestic and foreign regulatory approvals for
potential new products and maintaining its financial and
management systems, procedures and controls.
Limited Domestic and International Marketing and Sales Experience
The Company has shipped over 1,200 Arthroscopic System
controller units and more than 111,000 ArthroWands through the end
of the third quarter of 1997. The Company is marketing and
selling its Arthroscopic System in the United States through a
network of independent orthopedic distributors. These
distributors sell orthopedic arthroscopy devices for a number of
other manufacturers, and there can be no assurance that they will
commit the necessary resources to effectively market and sell the
Company's Arthroscopic System, or that they will be successful in
closing sales with doctors and hospitals. The Company has offered
its controller to these independent distributors at substantial
discounts and may be required to continue to offer such discounts
on its controller to generate demand for its ArthroWands. The
inability to sell sufficient quantities of ArthroWands would have
a material adverse effect on the Company's business, financial
condition and results of operations.
The Company has signed distribution agreements with
independent distributors to sell and market the Arthroscopic
Systems in Europe, Australia, Mexico, Brazil, Argentina, Canada,
Japan and Korea. In other international markets, the Company
intends to collaborate with one or more marketing partners to
establish marketing and distribution channels for the Arthroscopic
System and to assist with regulatory requirements in such
distributors' jurisdictions. However, regulatory requirements
vary by region, and compliance with such regulations may be costly
and time-consuming. Accordingly, the distribution, pricing and
marketing structure to be established by the Company may vary from
country to country.
No assurance can be given that the Company will successfully
sell its product through its distributors in Europe, Australia,
Mexico, Brazil, Argentina, Canada, Japan or Korea, that the
Company will secure marketing partners for other international
markets, successfully sell its Arthroscopic System in foreign
markets or that any of its foreign distributors and marketing
partners will commit the necessary resources to obtain additional
necessary foreign regulatory approvals on behalf of the Company
and successfully sell the Arthroscopic System in foreign markets.
Limited Manufacturing Experience
The Company's manufacturing operations consist of an in-
house assembly operation for the manufacturing of ArthroWands.
The Company has manufactured and sold over 111,000 ArthroWands
through the end of the third quarter of 1997. As a result, the
Company has limited experience manufacturing the ArthroWands in
the volumes necessary for the Company to achieve additional
commercial sales, and there can be no assurance that reliable,
high-volume manufacturing can be achieved at commercially
reasonable cost. In April 1995, the Company filed an application
with the State of California for a license to manufacture medical
devices. In September 1995, the State of California required the
Company to cease shipping products until a manufacturing license
was obtained, and the FDA, following a Good Manufacturing
Practices ("GMP") audit, instructed the Company to correct certain
record-keeping practices and enter into a written contract with
the third party that sterilizes the ArthroWand. There can be no
assurance that the Company will not encounter any further
manufacturing difficulties, or that any of its contract
manufacturers will not experience similar difficulties, including
problems involving production yields, quality control and
assurance, supplies of components or shortages of qualified
personnel.
In October 1995, the Company discovered that the ArthroWand
packaging was subject to cracking due to a flawed design of the
packaging tray and undertook a voluntary product recall of the 61
ArthroWands affected. The Company completed execution of its
corrective action and received written confirmation from the FDA
that the recall has been closed. There can be no assurances that
there will be no further product recalls or required redesign of
the Company's packaging or products.
History of Losses; Fluctuations in Operating Results; Losses
Expected to Continue
The Company has experienced significant operating losses
since inception and, as of September 27, 1997, had an accumulated
deficit of $23.7 million. The Company expects to generate
additional losses due to increased operating expenditures
primarily attributable to the expansion of marketing and sales
activities, increased research and development, and activities to
support regulatory applications. Results of operations may
fluctuate significantly from quarter to quarter due to the timing
of such expenditures, absence of a backlog of orders, timing of
the receipt of orders, promotional discounts of the Company's
products, re-use of the Company's disposable products, in addition
to those detailed above. The Company's revenues and profitability
will be critically dependent on whether it can successfully
continue to market its Arthroscopic System. In addition, the
Company's gross margins may be adversely affected due to the
necessity to promote and sell its product at significantly reduced
prices. There can be no assurance that significant profitability
will ever be achieved.
Patents and Proprietary Rights
The Company's ability to compete effectively will depend in
part on its ability to develop and maintain proprietary aspects of
its platform technology. The Company owns six issued United
States patents, over 20 pending United States patent applications
and international patent applications in Europe (covering 16
separate countries), Japan, Canada, Australia and New Zealand
corresponding to four of the United States filings relating to its
multi-electrode and Coblation (trademark) technology. The initial
patent is currently set to expire in 2008, three issued patents
are currently expected to expire between 2008 and 2012 and the
other two patents are expected to expire between 2014 and 2016.
The Company believes that the issued patents cover the core
technology used in the Company's Arthroscopic System. There can
be no assurance that the patents that have been issued to the
Company or any patents which may be issued as a result of the
Company's United States or international patent applications will
provide any competitive advantages for the Company's products or
that they will not be successfully challenged, invalidated or
circumvented in the future. In addition, there can be no
assurance that competitors, many of which have substantial
resources and have made substantial investments in competing
technologies, will not seek to apply for and obtain patents that
will prevent, limit or interfere with the Company's ability to
make, use and sell its products either in the United States or in
international markets.
A number of medical device and other companies, universities
and research institutions have filed patent applications or have
issued patents relating to monopolar and/or bipolar
electrosurgical methods and apparatus. If third-party patents or
patent applications contain claims infringed by the Company's
technology and such claims are ultimately determined to be valid,
there can be no assurance that the Company would be able to obtain
licenses to those patents at a reasonable cost, if at all, or be
able to develop or obtain alternative technology, either of which
would have a material adverse effect on the Company's business,
financial condition and results of operations. There can be no
assurance that the Company will not be obligated to defend itself
in court against allegations of infringement of third-party
patents.
In addition to patents, the Company relies on trade secrets
and proprietary know-how, which it seeks to protect, in part,
through confidentiality and proprietary information agreements.
The Company requires its key employees and consultants to execute
confidentiality agreements upon the commencement of an employment
or consulting relationship with the Company. These agreements
generally provide that all confidential information, developed or
made known to the individual by the Company during the course of
the individual's relationship with the Company, is to be kept
confidential and not disclosed to third parties. These agreements
also generally provide that inventions conceived by the individual
in the course of rendering services to the Company shall be the
exclusive property of the Company. There can be no assurance that
such agreements will not be breached, that the Company would have
adequate remedies for any breach or that the Company's trade
secrets will not otherwise become known to or be independently
developed by competitors.
Patent Litigation
The medical device industry has been characterized by
extensive litigation regarding patents and other intellectual
property rights, and companies in the medical device industry have
employed intellectual property litigation to gain a competitive
advantage. There can be no assurance that the Company will not
become subject to patent infringement claims or litigation or
interference proceedings declared by the United States Patent and
Trademark Office ("USPTO") to determine the priority of
inventions. The defense and prosecution of intellectual property
suits, USPTO interference proceedings and related legal and
administrative proceeds are both costly and time-consuming.
Litigation may be necessary to enforce patents issued to the
Company, to protect trade secrets or know-how owned by the Company
or to determine the enforceability, scope and validity of the
proprietary rights of others. Any litigation or interference
proceedings will result in substantial expense to the Company and
significant diversion of effort by the Company's technical and
management personnel. An adverse determination in litigation or
interference proceedings to which the Company may become a party
could subject the Company to significant liabilities to third
parties, require disputed rights to be licensed from third parties
or require the Company to cease using such technology. Although
patent and intellectual property disputes in the medical device
area have often been settled through licensing or similar
arrangements, costs associated with such arrangements may be
substantial and could include ongoing royalties. Furthermore,
there can be no assurance that necessary licenses would be
available to the Company on satisfactory terms, if at all.
Adverse determinations in a judicial or administrative proceeding
or failure to obtain necessary licenses could prevent the Company
from manufacturing and selling its products, which would have a
material adverse effect on the Company's business, financial
condition and results of operations.
Competition
The arthroscopic medical device industry is intensely
competitive. The Company competes with providers of laser
systems, electrosurgical systems, manual instruments and power
shavers. Many of these competitors have significantly greater
financial, manufacturing, marketing, distribution and technical
resources than the Company. There can be no assurance that the
Company can effectively compete against such competitors. In
addition, there can be no assurance that these or other companies
will not succeed in developing technologies and products that are
more effective than the Company's or that would render the
Company's technology or products obsolete or noncompetitive.
Smith & Nephew Endoscopy, Inc. (which owns Acufex
Microsurgical, Inc. and Dyonics, Inc.), Bristol-Meyers Squibb
Company (including its Linvatec division) and Stryker Corp. each
have large shares of the market for manual instruments, power
shavers and arthroscopes. These companies offer broad product
lines, which they may offer as a single package; have
substantially greater resources and name recognition than the
Company; and frequently offer significant discounts as a
competitive tactic. In addition, Pfizer Inc. (including its
Valley Labs division) and Bristol-Meyers Squibb Company each have
large shares of the market for electrosurgical systems, and
Trimedyne, Inc. and Stryker Corp. each have large shares of the
market for laser systems. The Company expects that competition
from these and other well-established competitors will increase as
will competition from start-up and development stage medical
device companies such as Gyrus Medical Ltd., a company based in
the United Kingdom, Electroscope Inc., a company based in Boulder,
Colorado and Oratec Interventions, Inc., a company based in Menlo
Park, California. The Company is aware that Mitek (a division of
Johnson & Johnson) is marketing a bipolar electrosurgical tool
developed by Gyrus Medical Ltd. Such competition could have a
material adverse effect on the Company's business, financial
conditions and results of operations.
Uncertainty of Approvals; Extensive Governmental Regulation
United States
The Company's products are regulated in the United States as
medical devices by the FDA under the Federal Food, Drug, and
Cosmetic Act ("FDC Act") and require premarket clearance or
approval by the FDA prior to commercialization. In addition,
certain material changes or modifications to medical devices also
are subject to FDA review and clearance or approval. Pursuant to
the FDC Act, the FDA regulates the research, testing, manufacture,
safety, labeling, storage, recordkeeping, advertising,
distribution and production of medical devices in the United
States. Noncompliance with applicable requirements can result in
warning letters, fines, injunctions, civil penalties, recall or
seizure of products, total or partial suspension of production,
failure of the government to grant premarket clearance or
premarket approval for devices, and criminal prosecution. Medical
devices are classified into one of three classes, Class I, II or
III, on the basis of the controls deemed by the FDA to be
necessary to reasonably ensure their safety and effectiveness.
Class I devices are subject to general controls (e.g., labeling,
premarket notification for non-exempt devices and adherence to
GMPs or QS Regulations for most devices). Class II devices are
subject to general controls and to special controls (e.g.,
performance standards, postmarket surveillance, patient
registries, and FDA guidelines). Generally, Class III devices are
those that must receive premarket approval by the FDA to ensure
their safety and effectiveness (e.g., life-sustaining,
life-supporting and implantable devices, or new devices that have
not been found substantially equivalent to legally marketed
devices), and generally require clinical testing to ensure safety
and effectiveness and FDA approval prior to marketing and
distribution. The FDA also has the authority to require clinical
testing of Class I and Class II devices. A PMA application must
be filed if the proposed device is not substantially equivalent to
a legally marketed Class I or Class II predicate device or if it
is a Class III device for which the FDA has called for such
applications.
If human clinical trials of a device are required and if the
device presents a "significant risk," the manufacturer or the
distributor of the device is required to file an investigational
device exemption ("IDE") application prior to commencing human
clinical trials. The IDE application must be supported by data,
typically including the results of animal and, possibly,
mechanical testing. If the FDA does not object to the IDE
application within 30 days from filing of the application, human
clinical trials may begin as defined in the IDE. Sponsors of
clinical trials are permitted to sell investigational devices
distributed in the course of the study, provided such costs do not
exceed recovery of the costs of manufacture, research, development
and handling. The clinical trials must be conducted under the
auspices of an independent Institutional Review Board ("IRB")
established pursuant to FDA regulations, and with appropriate
informed consent.
Generally, before a new device can be introduced into the
market in the United States, the manufacturer or distributor must
obtain FDA clearance of a 510(k) notification or approval of a PMA
application. If a medical device manufacturer or distributor can
establish that a device is "substantially equivalent" to a legally
marketed Class I or Class II device, or to a Class III device for
which the FDA has not called for PMAs, the manufacturer or
distributor may seek clearance from the FDA to market the device
by filing a 510(k) notification. The 510(k) notification will
need to be supported by appropriate data establishing the claim of
substantial equivalence to the satisfaction of the FDA. The FDA
recently has been requiring a more rigorous demonstration of
substantial equivalence.
Following submission of the 510(k) notification, the
manufacturer or distributor may not place the device into
commercial distribution until an order is issued by the FDA. No
law or regulation specifies the time limit by which the FDA must
respond to a 510(k) notification. At this time, the FDA typically
responds to the submission of a 510(k) notification within 150 to
200 days, but it may take longer. An FDA order may declare that
the device is substantially equivalent to another legally marketed
device and allow the proposed device to be marketed in the United
States. The FDA, however, may determine that the proposed device
is not substantially equivalent or require further information,
including clinical data, to make a determination regarding
substantial equivalence. Such determination or request for
additional information could delay market introduction of the
products that are the subject of the 510(k) notification.
The Company has received clearance of 510(k) premarket
notifications to market its Arthroscopic System for surgery of the
knee, shoulder, elbow, wrist, hip and ankle joints. In addition,
the Company received clearance of 510(k) premarket notifications
to market products based upon its proprietary core technology to
treat certain urological, dermatological, and periodontal
conditions and for general surgery. There can be no assurance
that the Company will be able to obtain necessary clearances or
approvals to market any other products on a timely basis, if at
all, and delays in receipt or failure to receive such clearances
or approvals, the loss of previously received clearances or
approvals, or failure to comply with existing or future regulatory
requirements could have a material adverse effect on the Company's
business, financial condition and results of operations.
If a manufacturer or distributor of medical devices cannot
establish that a proposed device is substantially equivalent to a
legally marketed device, the manufacturer or distributor must seek
premarket approval of the proposed device through submission of a
PMA application. A PMA application must be supported by extensive
data, including, in many instances, preclinical and clinical trial
data, as well as extensive literature to prove the safety and
effectiveness of the device. Following receipt of a PMA
application, if the FDA determines that the application is
sufficiently complete to permit a substantive review, the FDA will
"file" the application. Under the FDC Act, the FDA has 180 days
to review a PMA application, although the review of such an
application more often occurs over a protracted time period, and
generally takes approximately one year or more from the date of
filing to complete.
The PMA application approval process can be expensive,
uncertain and lengthy. A number of devices for which premarket
approval has been sought have never been approved for marketing.
The review time is often significantly extended by the FDA, which
may require more information or clarification of information
already provided in the submission. During the review period, an
advisory committee likely will be convened to review and evaluate
the application and provide recommendations to the FDA as to
whether the device should be approved. In addition, the FDA will
inspect the manufacturing facility to ensure compliance with the
FDA's GMP or QS Regulations requirements prior to approval of an
application. If granted, the approval of the PMA application may
include significant limitations on the indicated uses for which a
product may be marketed.
If necessary, the Company will file a PMA application with
the FDA for approval to sell its potential products commercially
in the United States when it has developed such products. There
can be no assurance that the Company will be able to obtain
necessary PMA application approvals to market such products on a
timely basis, if at all, and delays in receipt or failure to
receive such approvals, the loss of previously received approvals,
or failure to comply with existing or future regulatory
requirements could have a material adverse effect on the Company's
business, financial condition and results of operations.
The Company is also required to register as a medical device
manufacturer with the FDA and state agencies, such as the
California Department of Health Services ("CDHS") and to list its
products with the FDA. As such, the Company is subject to
inspections by both the FDA and the CDHS for compliance with the
FDA's GMP or QS Regulations and other applicable regulations.
These regulations require that the Company maintain its documents
in a prescribed manner with respect to manufacturing, testing and
control activities. Further, the Company and the third party
manufacturers of its products are required to comply with various
FDA requirements for design, safety, advertising and labeling. In
April 1995, the Company filed an application with the State of
California for a license to manufacture medical devices. In
September 1995, the State of California required the Company to
cease shipping products until a manufacturing license was
obtained, and the FDA, following a GMP audit, instructed the
Company to correct certain record-keeping practices and enter into
a written contract with the third party that sterilizes the
ArthroWand. There can be no assurance that the Company will not
encounter any further manufacturing difficulties, or that any of
its contract manufacturers will not experience similar
difficulties, including problems involving production yields,
quality control and assurance, supplies of components or shortages
of qualified personnel.
The Company is required to provide information to the FDA on
death or serious injuries alleged to have been associated with the
use of its medical devices, as well as product malfunctions that
would likely cause or contribute to death or serious injury if the
malfunction were to recur. In addition, the FDA prohibits a
cleared or approved device from being marketed for uncleared or
unapproved applications. If the FDA believes that a company is
not in compliance with the law, it can institute proceedings to
detain or seize products, issue a recall, enjoin future violations
and assess civil and criminal penalties against the Company, its
officers and its employees. Failure to comply with the regulatory
requirements could have a material adverse effect on the Company's
business, financial condition and results of operations.
The advertising of most FDA-regulated products is subject to
both FDA and Federal Trade Commission jurisdiction. The Company
also is subject to regulation by the Occupational Safety and
Health Administration and by other governmental entities.
Regulations regarding the manufacture and sale of the
Company's products are subject to change. The Company cannot
predict the effect, if any, that such changes might have on its
business, financial condition or results of operations.
International
International sales of the Company's products are subject to
the regulatory agency product registration requirements of each
country. The regulatory review process varies from country to
country. The Company has obtained regulatory clearance to market
the Arthroscopic System in Australia, Mexico, Canada and Europe
but has not obtained any other international regulatory approvals
permitting sales of its products outside of the United States.
The Company intends to seek regulatory approvals in certain other
international markets. There can be no assurance, however, that
such approvals will be obtained on a timely basis or at all.
In Europe, the Company and its third party manufacturers
have received ISO 9001 certification and the CE mark for its
Arthroscopic System. ISO 9001 certification standards for quality
operations have been developed to ensure that companies know, on a
worldwide basis, the standards of quality to which they will be
held. The European Union has promulgated rules that require that
medical products receive by mid-1998 the CE mark, an international
symbol of quality and compliance with applicable European medical
device directives. Failure to maintain the CE mark will prohibit
the Company from selling its products in Europe. ISO 9001
certification is one of the CE mark requirements. There can be no
assurance that the Company will be successful in maintaining
certification requirements.
Uncertainty Relating to Third-Party Reimbursement
In the United States, health care providers, such as
hospitals and physicians, that purchase medical devices, such as
the Company's Arthroscopic System and potential products,
generally rely on third-party payers, principally federal
Medicare, state Medicaid and private health insurance plans, to
reimburse all or part of the cost of the procedure in which the
medical device is being used. In addition, certain health care
providers are moving toward a managed care system in which such
providers contract to provide comprehensive health care for a
fixed cost per person. Managed care providers are attempting to
control the cost of health care by authorizing fewer elective
surgical procedures, such as certain knee, shoulder, ankle, wrist,
elbow and hip arthroscopic procedures.
The Company is unable to predict what changes will be made
in the reimbursement methods used by third-party health care
payers. Furthermore, the Company could be adversely affected by
changes in reimbursement policies of governmental or private
health care payers, particularly to the extent any such changes
affect reimbursement for procedures in which the Company's
products are used. Failure by physicians, hospitals and other
users of the Company's products to obtain sufficient reimbursement
from health care payers for procedures in which the Company's
products are used or adverse changes in governmental and private
third-party payers, policies toward reimbursement for such
procedures would have a material adverse effect on the Company's
business, financial condition and results of operations.
If the Company obtains the necessary foreign regulatory
approvals, market acceptance of the Company's products in
international markets would be dependent, in part, upon the
availability of reimbursement within prevailing health care
payment systems. Reimbursement and health care payment systems in
international markets vary significantly by country, and include
both government-sponsored health care and private insurance. The
Company intends to seek international reimbursement approvals,
although there can be no assurance that any such approvals will be
obtained in a timely manner, if at all.
Dependence on Single Contract Manufacturers and Sole Source
Suppliers
The Company subcontracts the manufacturing of its Model 970
controllers to a single contract manufacturer. The agreement
between the Company and the contract manufacturer requires the
Company to purchase all of its controllers from the contract
manufacturer through July 1998. The Company and its contract
manufacturer are required to operate in conformance with QS
Regulation requirements, in order to produce products for sale in
the United States, and ISO 9001 standards, in order to produce
products for sale in Europe. There can be no assurance that the
contract manufacturer will remain in compliance with QS
Regulations or ISO 9001 standards. Any failure by the Company or
its contract manufacturer to remain in compliance with QS
Regulation or ISO 9001 standards could have a material adverse
effect on the Company's business, financial condition and results
of operations. The Company is investigating alternative
manufacturing for future controllers. In addition, the ArthroWand
is sterilized by a single subcontractor, and the connector
housings at each end of the cable are available only from a single
source. There can be no assurance that an alternate contract
manufacturer, sterilizer or connector housing supplier could be
established if necessary or that available inventories would be
adequate to meet the Company's product needs during any prolonged
interruption of supply. A reduction or stoppage in supply of the
sole-source component, or the Company's inability to secure an
alternative contract manufacturer or sterilizer, if required,
would limit its ability to manufacture the Arthroscopic System and
would have a material adverse effect on the Company's business,
financial condition and results of operations.
Although the Company believes that its contract
manufacturer, subcontractors and suppliers are in compliance with
applicable regulations, there can be no assurance that the FDA, or
a state, local or foreign regulator, will not take action against
a contract manufacturer, subcontractor or supplier found to be
violating such regulations.
Uncertainty of New Product Development
The Company has undertaken preliminary animal studies and
development for the use of its ablation technology with its
controller in urology, dermatology and periodontics. The Company
has received 510(k) clearance for use of its technology in the
fields of urology, dental surgery, general dermatology and
general surgery. The Company has received approval of an IDE to
conduct a clinical study on a specific dermatological indication.
Following the completion of the study, the Company plans to submit
a 510(k) application to the FDA.
Each of these products are at an early stage of development,
and the Company will be required to undertake time-consuming and
costly development activities and seek regulatory approval of
these devices. There can be no assurance that product development
will ever be successfully completed, that PMAs or 510(k)s, if
applied for, will be granted by the FDA on a timely basis, if at
all, or that the products will ever achieve commercial acceptance.
Failure by the Company to develop, obtain necessary regulatory
approval for or to successfully market new products could have a
material adverse effect on the Company's business, financial
condition and results of operations.
Product Liability Risk; Limited Insurance Coverage
The development, manufacture and sale of medical products
entail significant risk of product liability claims. The
Company's current product liability insurance coverage limits are
$5,000,000 per occurrence and $5,000,000 in the aggregate. There
can be no assurance that such coverage limits are adequate to
protect the Company from any liabilities it might incur in
connection with the development, manufacture and sale of its
Arthroscopic System and potential products. In addition, the
Company may require increased product liability coverage if any
potential products are successfully commercialized. Product
liability insurance is expensive and in the future may not be
available to the Company on acceptable terms, if at all. The
Company has been selling its product since December 1995 and has
not experienced any product liability claims to date. However, a
successful product liability claim or series of claims brought
against the Company in excess of its insurance coverage could have
a material adverse effect on the Company's business, financial
condition and results of operations.
Dependence on Key Personnel and Key Consultants
The Company is dependent upon a number of key management and
technical personnel. The loss of the services of one or more key
employees or consultants could have a material adverse effect on
the Company. The Company's success will also depend on its
ability to attract and retain additional highly qualified
management and technical personnel. The Company faces intense
competition for qualified personnel, many of whom are often
subject to competing employment offers, and there can be no
assurance that the Company will be able to attract and retain such
personnel. Furthermore, the Company's scientific advisory board
members all are otherwise employed on a full-time basis. As a
result, the scientific advisory board members are not available to
devote their full time or attention to the Company's affairs.
A significant portion of the Company's research and
development is performed by Philip E. Eggers, a director of the
Company, pursuant to a consulting agreement between the Company
and Eggers & Associates Inc. ("E&A"), a corporation wholly owned
by Mr. Eggers. Mr. Eggers is not employed by the Company on a
full-time basis and, as a result, may not be available to devote
his full time or attention to the Company's affairs.
Control by Directors, Executive Officers and Affiliated Entities
The Company's directors, executive officers and entities
affiliated with them, in the aggregate, beneficially own
approximately 45% of the Company's outstanding common stock.
These stockholders, if acting together, will have significant
influence over all matters requiring approval by the stockholders
of the Company, including the election of directors and the
approval of mergers or other business combination transactions.
Potential Volatility of Stock Price
The stock markets have experienced price and volume
fluctuations that have particularly affected medical technology
companies, resulting in changes in the market prices of the stocks
of many companies that may not have been directly related to the
operating performance of those companies. Such 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 may be highly volatile. Factors such as
variations in the Company's financial results, comments by
security analysts, announcements of technological innovations or
new products by the Company or its competitors, changing
government regulations and developments with respect to FDA
submissions, patents, proprietary rights or litigation may have a
significant adverse effect on the market price of the common
stock.
Anti-Takeover Effect of Stockholder Rights Plan and Certain
Charter and Bylaw Provisions
In November 1996, the Company's Board of Directors adopted a
Stockholder Rights Plan. The Stockholder Rights Plan provides for
a dividend distribution of one Preferred Shares Purchase Right (a
"Right") on each outstanding share of the Company's common stock.
Each Right entitles shareholders to buy 1/1000th of a share of the
Company's Series A participating preferred stock at an exercise
price of $50.00. The Rights will become exercisable following the
tenth day after a person or group announces acquisition of 15
percent or more of the Company's common stock, or announces
commencement of a tender offer, the consummation of which would
result in ownership by the person or group of 15 percent or more
of the Company's common stock. The Company will be entitled to
redeem the Rights at $0.01 per Right at any time on or before the
tenth day following acquisition by a person or group of 15 percent
or more of the Company's common stock.
The Stockholder Rights Plan and certain provisions of the
Company's Certificate of Incorporation and Bylaws may have the
effect of making it more difficult for a third party to acquire,
or of discouraging a third party from attempting to acquire
control of the Company. This could limit the price that certain
investors might be willing to pay in the future for shares of the
Company's common stock. Certain provisions of the Company's
Certificate of Incorporation and Bylaws allow the Company to issue
preferred stock without any vote or further action by the
stockholders, eliminate the right of stockholders to act by
written consent without a meeting, specify procedures for director
nominations by stockholders and submission of other proposals for
consideration at stockholder meetings, and eliminate cumulative
voting in the election of directors. Certain provisions of
Delaware law applicable to the Company could also delay or make
more difficult a merger, tender offer or proxy contest involving
the Company, including Section 203, which prohibits a Delaware
corporation from engaging in any business combination with any
interested stockholder for a period of three years unless certain
conditions are met. The Stockholder Rights Plan, the possible
issuance of preferred stock, the procedures required for director
nominations and stockholder proposals and Delaware law could have
the effect of delaying, deferring or preventing a change in
control of the Company, including without limitation, discouraging
a proxy contest or making more difficult the acquisition of a
substantial block of the Company's common stock. These provisions
could also limit the price that investors might be willing to pay
in the future for shares of the Company's common stock.
Lack of Dividends
The Company has not paid any dividends and does not
anticipate paying any dividends in the foreseeable future.
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None
ITEM 2. CHANGES IN SECURITIES
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8 - K
a) Exhibits
(1) 3.2 Certificate of Incorporation of the Registrant.
(1) 3.3 Bylaws of the Registrant.
(1) 4.1 Specimen Common Stock Certificate.
(1)10.1 Form of Indemnification Agreement between the Registrant
and each of its directors and officers.
(1)10.2 Incentive Stock Plan and form of Stock Option Agreement
thereunder.
(1)10.3 Director Option Plan and form of Director Stock Option
Agreement thereunder.
(1)10.4 Employee Stock Purchase Plan and forms of agreements
thereunder.
(1)10.5 Form of Exclusive Distribution Agreement.
(1)10.6 Form of Exclusive Sales Representative Agreement.
(1)10.7 Consulting Agreement, dated May 10, 1993, between the
Registrant and Philip E. Eggers, and amendment thereto.
(1)10.8 Consulting Agreement, dated May 20, 1993, between the
Registrant and Eggers & Associates, Inc., and amendment
thereto.
(1)10.9+ Development and Supply Agreement, dated March 1, 1994,
between the Registrant and SeaMed Corporation.
(1)10.10 Lease Agreement, dated September 15, 1994, between
Registrant and The Arrillaga Foundation and the Perry
Foundation for the Registrant's facility located at 595
North Pastoria Avenue, Sunnyvale, California 94086.
(1)10.11 Employment Letter Agreement, dated October 21, 1994,
between the Registrant and Allan Weinstein and amendment
thereto.
(1)10.12 Purchase Assistance Promissory Note, dated January 19, 1995,
between Registrant and Allan Weinstein.
(1)10.13 Sublease Agreement, dated February 1, 1995, between
Registrant and Guided Medical Systems, Inc. for the
Registrant's former facility at 453 Ravendale Drive,
Mountain View, California 94043.
(1)10.14 Mortgage Assistance Promissory Note Agreement, dated
February 5, 1995, between the Registrant and Allan Weinstein.
(1)10.15 Restricted Stock Purchase and Security Agreement, dated
February 5, 1995, between the Registrant and Allan Weinstein.
(1)10.16 Employment Letter Agreement, dated July 18, 1995, between
the Registrant and Robert T. Hagan.
(1)10.17 Restricted Stock Purchase and Security Agreement, dated
August 1, 1995, between the Registrant and Robert T. Hagan.
(1)10.18 Employment Letter Agreement, dated September 3, 1995,
between the Registrant and A. Larry Tannenbaum.
(1)10.19+ Radiation Services Agreement, dated September 13, 1995,
between the Registrant and SteriGenics International.
(1)10.20 Amended and Restated Stockholder Rights Agreement, dated
October 16, 1995, between the Registrant and certain
holders of the Registrant's securities.
(1)10.21 Contribution Agreement, dated March 31, 1995, by and among
Philip E. Eggers, Robert S. Garvie, Anthony J. Manlove,
Hira V. Thapliyal and the Registrant.
(2)10.22 Preferred Stock Rights Agreement, dated November 14, 1996,
between the Registrant and Norwest Bank Minnesota, N.A.
(3)10.23+ Exclusive Distributor Agreement, dated April 15, 1997,
between the Registrant and Arthrex, Gmbh.
(4)10.24++ Employment Letter Agreement, dated June 20, 1997, between
the Registrant and Michael A. Baker.
10.25++ Exclusive Distributor Agreement, dated August 21, 1997,
between the Registrant and Kobayashi Pharmaceutical Company,
Ltd.
11.1 Computation of Net Loss per Share.
27.1 Financial Data Schedule.
- -------------------------
(1) Incorporated herein by reference to the same-numbered exhibit previously
filed with the Registrant's Registration Statement on Form S-1
(Registration No. 33-80453).
(2) Incorporated here in by reference to exhibit 5 previously filed with the
Registrant's Registration Statement on Form 8-A (Registration No.
000-27422).
(3) Incorporated herein by reference to the same-numbered exhibit previously
filed with the Registrant's Quarterly Report on form 10-Q for the period
ended March 29, 1997.
(4) Incorporated herein by reference to the same-numbered exhibit previously
filed with the Registrant's Quarterly Report on form 10-Q for the period
ended June 28, 1997.
+ Confidential treatment granted.
++ Confidential treatment requested.
b) Reports on Form 8-K
None
<PAGE>
SIGNATURE
Pursuant to the requirements 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.
ARTHROCARE CORPORATION
a Delaware corporation
Date: November 10, 1997
/s/ MICHAEL A. BAKER
-------------------------------------------------
Michael A. Baker
President, Chief Executive Officer, Director
and Chief Financial Officer
(Principal Financial Officer and Duly Authorized
Officer)
<PAGE>
EXHIBIT INDEX
Exhibit
Number Exhibit Description
- -------- -------------------
10.25++ Exclusive Distributor Agreement, dated August 21, 1997,
between the Registrant and Kobayashi Pharmaceutical Company,
Ltd.
11.1 Computation of Net Loss per Share.
27.1 Financial Data Schedule.
- -------------------------
++ Confidential treatment requested.
EXCLUSIVE DISTRIBUTOR AGREEMENT
This EXCLUSIVE DISTRIBUTOR AGREEMENT, including the attached
Exhibits (the "Agreement"), is made and entered into as of August
21, 1997 (the "Effective Date"), by and between ArthroCare
Corporation, a Delaware corporation with offices at 595 North
Pastoria Avenue, Sunnyvale, California 94086 ("ArthroCare"), and
Kobayashi Pharmaceutical Co., Ltd., a corporation organized under
the laws of Japan with offices at 3-6, 4-Chome, Doshomachi, Chuo-
Ku, Osaka, 541 Japan ("Kobayashi").
A. ArthroCare is engaged in the business of
manufacturing, distributing, and selling Products (as defined
below) and desires to engage a marketing and distribution partner
in Japan;
B. Kobayashi desires to solicit orders for Products from
customers in Japan, and desires to be ArthroCare's sole marketing
and distribution partner in Japan for Products solely for use
within the Field (as defined below);
C. Kobayashi desires to purchase, and ArthroCare desires
to sell to Kobayashi, such Products for the purpose of resale to
customers in Japan; and
D. The relationship between Kobayashi and ArthroCare is
that of buyer and seller.
NOW, THEREFORE, in consideration of the mutual promises
contained herein, the parties agree as follows:
1. DEFINITIONS
1.1 "Affiliate" shall mean any entity which controls, is
controlled by or is under common control with Kobayashi or
ArthroCare. An entity shall be regarded as in control of another
entity for purposes of this definition if it owns or controls more
than fifty percent (50%) of the shares of the subject entity
entitled to vote in the election of directors (or, in the case of
an entity that is not a corporation, for the election of the
corresponding managing authority).
1.2 "Field" shall mean arthroscopic applications.
1.3 "Marketing Approval Application" shall mean any
application with a governmental regulatory agency for authority to
market a Product within Japan, including without limitation an
import approval application ("yunyu shonin shinsei"), import
license application ("yunyu kyoka shinsei"), or other similar
application or filing.
1.4 "Product(s)" shall mean, collectively and
individually, ArthroCare's (i) disposable, bipolar arthroscopic
wand, (ii) connecting cable and, (iii) radio frequency power
controller; in each case as defined in ArthroCare's 510K filed
with the U.S. Food and Drug Administration prior to the Effective
Date and supplements thereto, to the extent such products are
specifically intended for use within the Field and with respect to
modifications or improvements thereto, to the extent that
ArthroCare has the right to include the same hereunder. It is
understood that Products, and/or any component thereof, may be
changed, substituted or added to by ArthroCare to the extent such
changes do not require modifications or changes to a Market
Approval Application for a Product approved by the Ministry of
Health & Welfare in Japan to market and distribute such Product in
Japan, upon ninety (90) days prior written notice to Kobayashi.
If a change to a Product requires modifications or changes to a
Market Approval Application for such Product approved by the
Ministry of Health & Welfare in Japan, the parties shall consult
in good faith to determine a reasonable transition period with
respect to implementation of such Product change in Japan. The
parties contemplate the addition of other products to the
Agreement on terms substantially similar to those herein, which
addition shall only be made upon the mutual agreement of the
parties. ArthroCare shall be under no obligation to continue the
production of any Product, except as provided herein.
2. GRANT OF DISTRIBUTION RIGHTS
2.1 Appointment. Subject to the terms and conditions of
this Agreement, ArthroCare hereby grants to Kobayashi the
exclusive right to market, sell and distribute Products in Japan
solely for use in the Field. Kobayashi agrees not to market,
promote or distribute any Product for use outside the Field or
outside Japan. Notwithstanding anything herein to the contrary,
Kobayashi shall market, promote, sell, and otherwise distribute
Products in accordance with all applicable law and regulations.
ArthroCare reserves all rights not expressly granted herein.
2.2 Exclusivity of Efforts. During the term of this
Agreement, neither Kobayashi nor their Affiliates shall directly
or indirectly market, sell or otherwise distribute in Japan any
product lines or products which, in ArthroCare's or Kobayashi's
reasonable judgment, compete with any Products.
2.3 No Rights Beyond Products. Nothing in this Agreement
shall be deemed to grant to Kobayashi rights in products or
technology other than the Products; nor shall any provision of
this Agreement be deemed to restrict ArthroCare's right to exploit
Products, or patents or any other intellectual property rights,
outside the Field, outside Japan or in products other than
Products.
2.4 Sale Conveys No Right to Manufacture or Copy. The
Products are offered for sale and are sold by ArthroCare subject
in every case to the condition that such sale does not convey any
license, expressly or by implication, to manufacture, duplicate or
otherwise copy or reproduce any of the Products.
3. PRICE AND PAYMENT
3.1 Prices. The transfer price paid by Kobayashi for each
Product shall be as set forth in Exhibit A, and shall remain fixed
from the Effective Date until the [*****] of such Effective Date.
Thereafter, ArthroCare may increase the transfer prices in
Exhibit A [*****] upon at least [*****] prior written notice to
Kobayashi, provided that any such price increases [*****]. Price
decreases on Products hereunder will be effective when declared.
3.2 Payment Terms. Kobayashi shall make payments to
ArthroCare under this Agreement by wire transfer in United States
dollars in immediately available funds to a bank account
designated by ArthroCare. Payment for Products supplied hereunder
shall be made net [*****] after the date of invoice. Any payments
due hereunder which are not paid on the date such payments are due
shall bear interest at the lesser of [*****] or the maximum rate
permitted by California law, calculated on the numbered days such
payment is delinquent. This Section 3.2 shall in no way limit any
other remedies available to ArthroCare.
3.3 Taxes. Any and all amounts payable hereunder do not
include any government taxes (including without limitation,
withholding, sales, use, excise, and value added taxes) or duties
imposed by any Japanese governmental agency that are applicable to
the export, import, or purchase of the Products (other than taxes
on the net income of ArthroCare), and [*****].
4. TERMS OF PURCHASE AND SALE
4.1 Terms and Conditions. All Product purchases hereunder
shall be subject to the terms and conditions of this Agreement.
Nothing contained in any purchase order submitted pursuant to this
Agreement shall in any way modify or add any terms or conditions
to said purchases, unless otherwise agreed in writing by the
parties.
4.2 Initial Stocking Order. An initial stocking order
placed by Kobayashi on the Effective Date is attached hereto as
Exhibit B and will be processed upon notification by Kobayashi no
later than ninety (90) days from receipt of regulatory approval
for Products by the Ministry of Health and Welfare in Japan. Such
initial stocking order will be Kobayashi's minimum performance
requirement for the first calendar year following regulatory
approval of Products in Japan.
4.3 Forecasts. At least [*****] prior to the first
commercial sale of a Product in Japan, and thereafter, on a
calendar monthly basis, by the [*****] day of each calendar month,
Kobayashi shall provide to ArthroCare a good faith rolling [*****]
forecast showing Kobayashi's prospective purchases of Products on
a monthly basis for the next [*****], which forecasts shall
commence on the first day of the calendar month following
submission of the forecast to ArthroCare (the "Forecasts"). Such
Forecasts are for ArthroCare's planning purposes only and shall
not constitute a binding obligation upon ArthroCare or Kobayashi.
In the event that Kobayashi believes, in good faith, that the
information provided in any Forecast is no longer accurate,
Kobayashi will promptly notify ArthroCare and provide ArthroCare
with revised Forecast.
4.4 Order and Acceptance. Kobayashi shall use its
commercially reasonable efforts to place its firm orders with
ArthroCare for Products [*****] in advance of the requested
delivery date, and ArthroCare will use its commercially reasonable
efforts to fulfill purchase orders in accordance with its normal
practices and lead times then in effect. Kobayashi will use its
commercially reasonable efforts to submit purchase orders in a
regular fashion, i.e., monthly, so as to allow for efficient
scheduling of ArthroCare production and warehousing. All orders
for Products submitted by Kobayashi shall be initiated by the
office at Kobayashi's address for notice hereunder. All orders
shall be by means of signed written purchase orders by Kobayashi
to ArthroCare, sent to ArthroCare at ArthroCare's address for
notice hereunder and requesting a delivery date during the term of
this Agreement. Orders may initially be placed by telephone,
provided that a signed confirming purchase order is received in
writing (which may include telecopy transmission) by ArthroCare
within five (5) business days after, a telephone order is placed.
ArthroCare will notify Kobayashi within five (5) business days
from receipt of a purchase order of the proposed delivery date to
Kobayashi. ArthroCare agrees to accept purchase orders that do
not exceed the quantities projected in the Forecasts by more than
[*****]. ArthroCare will have no liability to Kobayashi with
respect to purchase orders that are not accepted. No partial
shipment of an order shall constitute the acceptance of the entire
order, absent the written acceptance of such entire order.
Kobayashi may cancel or reschedule purchase orders for Products
only with ArthroCare's prior written approval.
4.5 Shipping. All Products delivered pursuant to the
terms of this Agreement shall be suitably packed for shipment in
ArthroCare's standard shipping cartons marked for shipment to the
destination point indicated in Kobayashi's purchase order and
delivered to Kobayashi at such destination points. ArthroCare
shall ship Products F.C.A. ArthroCare's facility using the carrier
specified in Kobayashi's purchase order provided that if Kobayashi
does not provide instructions with respect to the carrier to be
used, ArthroCare shall select the carrier. All freight,
insurance, and other shipping expenses, as well as any special
packing expenses, shall be paid by Kobayashi. Kobayashi shall
also bear all applicable taxes, duties and similar charges that
may be assessed against the Products after delivery to the carrier
F.C.A. ArthroCare's facility location. All shipments and freight
charges shall be deemed correct unless ArthroCare receives from
Kobayashi, no later than [*****] after the shipping date of a
given shipment, a written notice specifying the shipment, the
purchase order number, and the exact nature of the discrepancy
between the order and shipment or discrepancy in the freight cost,
as applicable.
4.6 Product Returns. Except as set forth in Article 6
below, Kobayashi may return sterile wands and undamaged Products
in saleable condition only with ArthroCare's prior written
approval and only within [*****] of receipt by Kobayashi.
Products returned to ArthroCare other than under Article 6 shall
be returned F.O.B. the destination point designated by ArthroCare
and Products returned more than [*****] after receipt by Kobayashi
of such Products shall be subject to a restocking fee in an amount
equal to [*****] of the transfer price paid by Kobayashi to
ArthroCare for such Products.
5. ACCEPTANCE
Kobayashi shall inspect all Products promptly upon receipt
thereof and may reject any Product that fails to conform to the
warranties set forth in Article 6 below at the time of delivery to
Kobayashi, provided that Kobayashi complies with the provisions of
Section 6.2 below. Except as set forth in this Article 5 and
Article 6 below, Kobayashi shall return Products to ArthroCare
only with ArthroCare's prior written approval.
6. WARRANTY
6.1 Product Warranty. ArthroCare warrants to Kobayashi
that at the time of delivery to Kobayashi the Products purchased
by Kobayashi shall (i) conform to packaging and labeling
specifications agreed upon by the parties, (ii) meet the
specifications for the Products set forth in the Marketing
Approval Application for such Product approved by the Ministry of
Health and Welfare, (iii) be free from defects in design,
materials or workmanship, (iv) be of merchantable quality and fit
for the purpose for which they are intended; and (v) the
manufacture of such Products will comply with all applicable laws
in the place of manufacture. This warranty is contingent upon
proper use of Products in the application for which they were
intended as indicated in the Product label claims, and ArthroCare
makes no warranty (express, implied, or statutory) for Products
that are modified (except as expressly contemplated herein), or
subjected to accident, misuse, neglect, unauthorized repair, or
improper testing or storage.
6.2 Exclusive Remedy. In the event that any Product
purchased by Kobayashi from ArthroCare fails to conform to the
warranty set forth in Section 6.1 above or is recalled pursuant to
Section 7.8.2, ArthroCare shall, at ArthroCare's sole election,
repair or replace the Product, or component thereof, or credit
Kobayashi's account for the amount actually paid for any such
Product, or component thereof or direct costs of promotion
actually incurred by Kobayashi as a result of such failure to
conform or recall within [*****] of receipt by ArthroCare thereof,
provided that (i) Kobayashi promptly notifies ArthroCare in
writing that such Product failed to conform and furnishes an
explanation of any reported nonconformity and requests a return
material authorization number; (ii) such Product is returned to
ArthroCare by Kobayashi F.O.B. the address designated by
ArthroCare during the warranty period with the return material
authorization number affixed prominently to the outside packaging;
and (iii) the reported nonconformities actually exist and were not
caused by accident, misuse, neglect, alteration, repair or
improper testing or storage. If such Product fails to so conform,
ArthroCare will reimburse Kobayashi for shipment charges for
return of the nonconforming Product.
6.3 Exclusion of Other Warranties. EXCEPT FOR THE LIMITED
WARRANTIES PROVIDED IN SECTION 6.1 ABOVE, ARTHROCARE GRANTS NO
OTHER WARRANTIES OR CONDITIONS, EXPRESS OR IMPLIED, BY STATUTE, IN
ANY COMMUNICATION WITH KOBAYASHI OR ITS CUSTOMERS, OR OTHERWISE,
REGARDING THE PRODUCTS OR VALIDITY OF ARTHROCARE TECHNOLOGY, AND
ARTHROCARE SPECIFICALLY DISCLAIMS THE IMPLIED WARRANTY OF
NONINFRINGEMENT OF THIRD PARTY INTELLECTUAL PROPERTY RIGHTS.
ARTHROCARE NEITHER ASSUMES NOR AUTHORIZES ANY OTHER PERSON TO
ASSUME ANY OTHER LIABILITIES ARISING OUT OF OR IN CONNECTION WITH
THE SALE OR USE OF ANY ARTHROCARE PRODUCT.
7. ADDITIONAL OBLIGATIONS OF KOBAYASHI
7.1 Marketing Approval. Kobayashi shall prepare and file
all regulatory documents in ArthroCare's name with respect to
Products. In addition, Kobayashi agrees to file this Agreement,
if required, with the Japan Fair Trade Commission (the "JFTC").
ArthroCare shall own all regulatory filings and shall have the
right to obtain copies directly from Kobayashi of, and to
reference, for any purpose, any and all regulatory filings made by
Kobayashi with respect to Products. If any Product clinical
trials are required under the laws of Japan at any time during the
term of the Agreement, then Kobayashi, at Kobayashi's expense
(exclusive of Products provided by ArthroCare pursuant to
Section 8.1), shall organize, conduct and support any and all
preclinical and clinical trials required to obtain registrations,
licenses and permits required to comply with the laws of
regulations of Japan for sale and distribution of Products.
7.2 Minimum Performance Requirements. For the [*****]
following regulatory approval for the Products in Japan,
ArthroCare and Kobayashi will agree to minimum performance
requirements and during each calendar year, Kobayashi shall
purchase from ArthroCare the quantity of Products required to meet
the minimum performance requirements. The minimum performance
requirements shall be determined in good faith by mutual agreement
of ArthroCare and Kobayashi. The parties intend that such
minimums will be realistic, taking into account the numbers
actually attained in the immediately preceding year, market
conditions then prevailing and other relevant factors. Should the
parties fail to mutually agree to the minimum performance
requirements within [*****] before the beginning of each of the
[*****], then they shall submit their differences to mediation to
discuss and attempt to resolve the differences amicable without
resort to arbitration. Any differences which have not been
resolved within [*****] shall be resolved by arbitration in
accordance with Article 16 of this Agreement. The minimum
performance requirements shall be provided for all Products as a
total, not for a specific Product. In case of failure to attain
the minimum performance requirements, both parties shall in good
faith consult regarding the reasons for such shortfall. Failure
to meet such minimum performance requirements will constitute a
breach of this Agreement. Beginning in the [*****] following
regulatory approval for the Products in Japan, upon any failure of
Kobayashi to meet the minimum performance requirements for [*****]
Kobayashi will be on a probationary period for a period of [*****]
and upon Kobayashi's subsequent failure to meet minimum
performance requirements for such [*****] probationary period,
ArthroCare shall have the right to terminate this Agreement, such
termination to be at ArthroCare's discretion either (i) effective
immediately, or (ii) effective [*****] from notice to Kobayashi of
ArthroCare's intent to terminate, and in either case there will be
a wind up period of [*****].
7.3 Advertising and Promotions.
Kobayashi shall:
i. list the Products in its catalogs and make such
Products available to its customers;
ii. employ adequate and experienced sales personnel;
iii. dedicate sufficient product and project
management, marketing and financial resources to pursue the market
opportunities for the Product in Japan;
iv. advertise the Product in trade and other
relevant publications;
v. participate in appropriate trade shows; and
vi. make sales calls on physicians.
7.4 Materials. ArthroCare shall provide to Kobayashi
samples of ArthroCare's promotional, educational and training
materials for the Products in English. Kobayashi shall translate
into Japanese, at its own expense, any promotional materials, user
and technical manuals, or advertising and marketing information
which Kobayashi determines may be useful in the marketing of
Products. Kobayashi shall have an exclusive right to use all such
materials in Japan during the term of this Agreement in connection
with its activities pursuant to this Agreement. ArthroCare will
pay Kobayashi's reasonable costs for the translation of user and
technical manuals from English into Japanese, in the event
ArthroCare elects to own them. Kobayashi shall provide to
ArthroCare samples of all promotional, advertising, exhibition,
training and educational materials prepared by or on behalf of
Kobayashi and relating to the Products, for informational purposes
only.
7.5 Product Packaging and Labeling. Kobayashi shall not
repackage or relabel Products supplied to Kobayashi by ArthroCare
hereunder without the prior written consent of ArthroCare, except
as may be required by regulatory authorities in Japan.
7.6 Inventory. Kobayashi will use its commercially
reasonable efforts, at its own expense, to maintain a sufficient
inventory of the Products and of replacement parts to fulfill
Kobayashi's forecasted demand for the Products in Japan.
7.7 Market Research. Kobayashi shall assist ArthroCare in
assessing customer requirements for the Products, including
modifications and improvements thereto, in terms of quality,
design, functional capability, and other features. Kobayashi
shall advise ArthroCare on market conditions as reasonably
requested by ArthroCare.
7.8 Other Reporting.
7.8.1 Kobayashi shall provide, at Kobayashi's expense,
within thirty (30) days after publication, copies of any and all
articles, manuscripts, abstracts or other literature relating to
the Products generated by investigators or others in Japan in each
case to the extent reasonably available to Kobayashi.
7.8.2 Pursuant to the FDA's Medical Device Reporting
(MDR) Regulations, ArthroCare may be required to report to the FDA
information that reasonably suggests that a Product may have
caused or contributed to the death or serious injury or has
malfunctioned and that the device would be likely to cause or
contribute to a death or serious injury if the malfunction were to
recur. Each of ArthroCare and Kobayashi agree to supply to the
other any such information promptly after becoming aware of it so
that each of ArthroCare and Kobayashi can comply with governmental
reporting requirements. It is understood and agreed that
reporting to ArthroCare shall be within twenty-four (24) hours
after notification to Kobayashi to enable ArthroCare to comply
with FDA reporting requirements. In the event that ArthroCare is
required by any regulatory agency to recall the Products or if
ArthroCare voluntarily initiates a recall of the Products,
Kobayashi shall cooperate with and assist ArthroCare in locating
and retrieving if necessary, the recalled Products from
Kobayashi's customers. Kobayashi shall maintain records of sales
of Products to customer by lot number, and/or Kobayashi shall make
such records available to ArthroCare in the event of a Product
recall or other quality related issue, upon reasonable request
from ArthroCare. Kobayashi shall be responsible for obtaining all
records of Kobayashi sales to end users in the event of a Product
recall or other quality related issue. During the time that the
Products are commercially marketed, distributed, or sold by
Kobayashi, Kobayashi also shall, within five (5) business days,
forward all Product complaints which it receives to ArthroCare.
Kobayashi shall make available to ArthroCare for inspection
Kobayashi's process and records for adverse event and other
regulatory reporting purposes at mutually agreed upon times and
further shall ensure that Kobayashi's processes comply with all
applicable laws and regulations in the United States and Japan.
7.9 Business Obligations. Any and all obligations
associated with Kobayashi's business shall remain the sole
responsibility of Kobayashi. Any and all sales and other
agreements between Kobayashi and its customers are and shall
remain Kobayashi's exclusive responsibility and shall have no
affect on Kobayashi's obligations pursuant to this Agreement.
7.10 Annual Operating and Marketing Plans. Kobayashi shall
develop annual operating and marketing plans for the Products
(collectively, the "Business Plan") which shall include without
limitation (i) promotion strategy and tactics, (ii) historic
sales, sales and other marketing plans, and (iii) education
programs, training programs and plans for support of Kobayashi
personnel and customers. For each year during the term of this
Agreement, the Business Plan shall be provided to ArthroCare for
review by ArthroCare not later than [*****] of such year.
Kobayashi shall comply with the Business Plan, and shall appoint a
product manager who shall be responsible for management of the
Business Plan.
7.11 Customer Support. Kobayashi shall maintain
knowledgeable support personnel to provide instructions to
customers in the use of the Products. Kobayashi agrees that such
support personnel will, at Kobayashi's expense attend a hands-on
sales training session relating to the Products in a location to
be mutually agreed upon, and observe the use of the Products in
applicable surgical applications to improve the clinical knowledge
of such personnel relating to the Products. Kobayashi shall be
fully responsible for any and all technical support of Kobayashi's
customers.
7.12 Sales and Inventory Reports. Kobayashi shall provide
to ArthroCare a sales report, in English and expressed in units on
[*****] interval and in a format to be agreed by ArthroCare and
Kobayashi. This information will at a minimum include: item and
unit reported by month.
8. ADDITIONAL OBLIGATIONS OF ARTHROCARE
8.1 Samples. ArthroCare at its expense shall provide to
Kobayashi samples of three (3) demonstration controllers and a
reasonable number of accessories for Kobayashi's use in obtaining
marketing approval. If additional clinical applications are
mutually agreed to by the parties and are required for regulatory
approved, additional samples will be provided by ArthroCare at
[*****] of ArthroCare's then fully burdened cost of goods as
calculated in accordance with generally accepted accounting
principles.
8.2 Promotional Materials. ArthroCare, at ArthroCare's
expense, shall provide to Kobayashi English language samples of
promotional support materials for the Products. Such materials
shall include, without limitation, brochures and advertising
literature.
8.3 Training. ArthroCare will provide training for
Kobayashi's personnel in connection with the marketing, sale,
installation, maintenance and support of Products; provided,
however, that such training shall be reasonably available and
necessary to assist Kobayashi to market and distribute Products
and to perform its obligations under this Agreement. All expenses
incurred by Kobayashi's personnel in connection with all training
including, without limitation, travel and lodging expenses,
[*****]. Training shall be conducted at mutually agreed
facilities.
8.4 Technical Support. ArthroCare will provide Kobayashi
access to ArthroCare maintenance and support personnel to assist
Kobayashi's support personnel in providing maintenance and support
centers; provided, however, that such training shall be reasonably
available and necessary to assist Kobayashi to market and
distribute Products and to perform its obligations under this
Agreement.
8.5 Scientific and Technical Information. ArthroCare
shall provide to Kobayashi scientific and technical information
required to obtain and maintain registrations, licenses and
permits required for sale and distribution of the Products in
Japan, or to respond to inquiries from customers, or governmental
or regulatory authorities.
8.6 Support. ArthroCare, at ArthroCare's expense and as
deemed reasonable by ArthroCare, shall provide consultation to
Kobayashi concerning technical aspects and use of the Products.
In addition, if ArthroCare introduces a modified version of a
Product which is then added to this Agreement, ArthroCare will
provide to Kobayashi any information and additional marketing and
sales support materials necessary to permit Kobayashi to promote
Products in Japan or obtain registration for such Products.
9. TERM AND TERMINATION
9.1 Term. This Agreement shall become effective as of the
Effective Date and shall continue in full force and effect for a
period of [*****] after approval of the first Marketing Approval
Application by the Japanese Ministry of Health and Welfare for the
first Product ("Initial Term"), unless earlier terminated in
accordance with this Article 9. At least [*****] prior to the
expiration of the Initial Term or any subsequent term, this
Agreement may be renewed for additional [*****] periods by mutual
written agreement of the parties. Unless the parties so agree to
extend this Agreement, this Agreement shall expire at the end of
the Initial Term, or subsequent term, as the case may be.
9.2 Termination for Cause. Either ArthroCare or Kobayashi
may terminate this Agreement by written notice stating each
party's intent to terminate in the event the other shall have
breached or defaulted in the performance of any of its material
obligations hereunder, and such default shall have continued for
[*****] after written notice thereof was provided to the breaching
party by the non-breaching party.
9.3 Termination for Serious Adverse Events. In the event
a Product causes death or serious injury resulting in a
requirement by the Ministry of Health and Welfare to cease
marketing of the Products ("Serious Event"), Kobayashi shall
notify ArthroCare promptly and thereafter Kobayashi and ArthroCare
shall consult with one another to determine the cause of the
Serious Event and the appropriate course of action. If the
parties do not agree upon an acceptable course of action during
the [*****] following a Serious Event, either party may terminate
this Agreement during the [*****] thereafter upon [*****] prior
written notice.
9.4 Termination for Bankruptcy. Either party may
terminate this Agreement effective upon written notice to the
other party in the event the other party declares bankruptcy or
becomes the subject of any voluntary or involuntary proceeding
under the U.S. Bankruptcy Code, foreign equivalent or state
insolvency proceeding and such proceeding is not terminated within
[*****] of its commencement.
9.5 Effect of Termination.
9.5.1 In the event of termination by either party in
accordance with any of the provisions of this Agreement, neither
party shall be liable to the other, because of such termination,
for compensation, reimbursement or damages on account of the loss
of prospective profits or anticipated sales or on account of
expenditures, inventory, investments, leases or commitments in
connection with the business or goodwill of ArthroCare or
Kobayashi. Expiration or termination of this Agreement for any
reason shall not release any party hereto from any liability
which, at the time of such termination, has already accrued to the
other party or which is attributable to a period prior to such
termination nor preclude either party from pursuing any rights and
remedies it may have hereunder or at law or in equity with respect
to any breach of this Agreement. It is understood and agreed that
monetary damages may not be a sufficient remedy for any breach of
this Agreement and that the non-breaching party may be entitled to
injunctive relief as a remedy for any such breach. Such remedy
shall not be deemed to be the exclusive remedy for any such breach
of this Agreement, but shall be in addition to all other remedies
available at law or in equity.
9.5.2 Within thirty (30) days after the effective date
of termination of this Agreement, Kobayashi shall use its
reasonable efforts to provide ArthroCare with a complete inventory
of unsold, resalable Products in Japan, and in transit to
Kobayashi from ArthroCare.
9.5.3 Upon expiration or any termination of this
Agreement, ArthroCare or its designee may repurchase and Kobayashi
shall sell to ArthroCare or its designee, all of Kobayashi's
inventory of Products existing on the effective date of
termination. The price of inventory repurchased upon Kobayashi's
termination of this Agreement pursuant to Section 9.2 shall be
[*****]. If ArthroCare terminates this Agreement pursuant to
Section 7.2 or 9.2, then a restocking charge of [*****] of the
repurchase price shall be deducted from the transfer price for
Products repurchased upon termination. Products repurchased from
Kobayashi by ArthroCare pursuant to this Section 9.5.3 shall be
shipped promptly by Kobayashi, at ArthroCare's expense, to a
location specified by ArthroCare.
9.5.4 Upon expiration or any termination of this
Agreement, Kobayashi shall transfer any ownership not then
residing in ArthroCare of any and all Product authorizations,
registrations, permits, and approvals of any kind with respect to
Products and applications therefor, including without limitation
marketing approval applications, and any other governmental
approvals, registrations and the like to ArthroCare, at
ArthroCare's cost and expense and shall execute such documents and
perform such acts as may be necessary, useful, or convenient to
perfect such transfer. It is understood that ArthroCare may use
and disclose the foregoing for any purpose.
9.5.5 Upon termination of this Agreement, ArthroCare
will fill orders received by Kobayashi prior to the date of notice
of such termination.
9.6 Return of Materials. All trademarks, marks, trade
names, patents, copyrights, designs, drawings, formulas or other
data, photographs, samples, literature, and sales and promotional
aids of every kind relating to the Products shall remain the
property of ArthroCare except those items Kobayashi has solely
developed or translated. Effective upon the termination of this
Agreement, Kobayashi shall cease to use all trademarks and trade
names of ArthroCare.
9.7 No Renewal, Extension or Waiver. Acceptance of any
order from, or sale of, any Product to Kobayashi after the date of
termination of this Agreement shall not be construed as a renewal
or extension hereof, or as a waiver of termination by ArthroCare.
9.8 Survival of Certain Terms. The provisions of Articles
6, 10, 12, 13 and 15, 16, and 17; Sections 2.3, 2.4, and 9.5;
shall survive the expiration or termination of this Agreement for
any reason.
10. CONFIDENTIALITY
10.1 Confidential Information. Except as expressly
provided herein, the parties agree that, for the term of this
Agreement and for [*****] thereafter, the receiving party shall
not publish or otherwise disclose and shall not use for any
purpose, except as expressly permitted herein any information
furnished to it by the other party hereto pursuant to this
Agreement which if disclosed in tangible form is marked
"Confidential" or with other similar designation to indicate its
confidential or proprietary nature, or if disclosed orally is
confirmed as confidential or proprietary by the party disclosing
such information at the time of such disclosure or within [*****]
thereafter ("Confidential Information"). Notwithstanding the
foregoing, it is understood and agreed that Confidential
Information shall not include information that, in each case as
demonstrated by written documentation:
i. was already known to the receiving party, other
than under an obligation of confidentiality, at the time of
disclosure;
ii. was generally available to the public or
otherwise part of the public domain at the time of its disclosure
to the receiving party;
iii. became generally available to the public or
otherwise part of the public domain after its disclosure and other
than through any act or omission of the receiving party in breach
of this Agreement; or
iv. was subsequently lawfully disclosed to the
receiving party by a person other than a party hereto or developed
by the receiving party without reference to any information or
materials disclosed by the disclosing party.
10.2 Permitted Disclosures. Notwithstanding the provisions
of Section 10.1 above, each party hereto may disclose the other's
Confidential Information to the extent such disclosure is
reasonably necessary in prosecuting or defending litigation,
complying with applicable governmental regulations, or submitting
information to tax or other governmental authorities provided that
if a party is required to make any such disclosure of another
party hereto's Confidential Information, to the extent it may
legally do so, it will give reasonable advance written notice to
the latter party of such disclosure and will use its reasonable
efforts to secure confidential treatment of such Confidential
Information prior to its disclosure (whether through protective
orders or otherwise). If the party whose Confidential Information
is to be disclosed has not filed a patent application with respect
to such Confidential Information, it may require the other party
to delay the proposed disclosure (to the extent the disclosing
party may legally do so), for up to [*****] after receipt of
written notice from the disclosing party of its intent to
disclose, to allow for the filing of such an application. In
addition, ArthroCare may disclose the existence of this Agreement
and the terms and conditions hereof to advisors, prospective
investors, and others under circumstances that reasonably ensure
the confidentiality thereof.
11. TRADEMARKS AND TRADE NAMES
11.1 Marks. During the term of this Agreement, Kobayashi
shall have the right and agrees to, advertise and promote the
Products in Japan under ArthroCare's trademarks and trade names
identified on Exhibit B as modified by ArthroCare pursuant to this
Section 11.1 ("Marks"). ArthroCare reserves the right to modify
Marks or substitute alternative marks for any or all of the Marks
at any time upon ninety (90) days prior written notice, provided
that ArthroCare shall not modify the Marks unreasonably after the
filing of the Marketing Approval Application. The rights granted
under this Section 11.1 shall automatically terminate on
termination or expiration of this Agreement. ArthroCare shall
endeavor to register the Marks with the Japanese Patent Office as
trademarks in the appropriate classes and maintain the
registrations of such Marks, and Kobayashi shall cooperate and
upon ArthroCare's reasonable request, provide full information and
reasonable assistance to ArthroCare in registering and maintaining
the Marks, including without limitation providing evidence of use
of the Marks as reasonably required to renew registrations or
defend actions for cancellations.
11.2 Use. Kobayashi shall not remove, modify, or obscure
Marks affixed to Products without the prior written consent of
ArthroCare, unless required by law. Except as set forth in this
Section 11.2, nothing contained in this Agreement shall grant to
Kobayashi any right, title or interest in or to Marks whether or
not specifically recognized or perfected under applicable laws of
Japan, and Kobayashi irrevocably assigns to ArthroCare all such
right, title and interest, if any, in any Marks. At no time
during or after the term of this Agreement shall Kobayashi
challenge or assist others to challenge Marks or the registration
thereof or attempt to register any trademarks, marks or trade
names confusingly similar to Marks. All representations of Marks
that Kobayashi intends to use shall first be submitted to
ArthroCare for review of design, color, and other details or shall
be exact copies of those used by ArthroCare. In addition,
Kobayashi shall fully comply with all reasonable guidelines, if
any, communicated by ArthroCare concerning the use of Marks.
12. INTELLECTUAL PROPERTY
12.1 Maintenance. ArthroCare will be responsible for
maintaining all patents, trademarks, and trade names and
diligently prosecuting all patent applications covering the
Products in Japan.
12.2 ArthroCare Defense. Kobayashi agrees that ArthroCare
has the right to defend, or at its option to settle, and
ArthroCare agrees, at its own expense, to defend or at its option
to settle, any claim, suit or proceeding brought against Kobayashi
by any third party for infringement of any patent by the Products.
ArthroCare shall have sole control of any such action or
settlement negotiations, and ArthroCare agrees to pay, subject to
the limitations hereinafter set forth, any final judgment entered
against Kobayashi on such issue in any such claim, suit or
proceeding defended by ArthroCare. Kobayashi agrees that
ArthroCare shall be relieved of the foregoing obligations unless
Kobayashi (i) notifies ArthroCare promptly in writing of such
claim, suit or proceeding; (ii) gives ArthroCare authority to
proceed as contemplated herein; and (iii) at ArthroCare's expense,
gives ArthroCare proper and complete information to the best of
Kobayashi's knowledge and assistance to settle or defend any such
claim, suit or proceeding for infringement of any patent.
Notwithstanding the foregoing, ArthroCare's obligation to defend
Kobayashi under this Section 12.2 shall not apply to any claims,
suits, or proceedings to the extent they allege infringement of
third party components. Notwithstanding the provisions of this
Article 12, ArthroCare assumes no infringement liability for
(x) combination of Products with other products not approved by
ArthroCare, which infringement would not arise from such Products
standing alone, or (y) the modification of such Products not
approved by ArthroCare, where such infringement would not have
occurred but for such modifications.
12.3 Kobayashi Remedy. Notwithstanding the foregoing, if
it is adjudicatively determined that any Product infringes, or in
ArthroCare's sole opinion, may be found to infringe a third
party's patent, or if the sale or use of the Products is, as a
result, enjoined, then ArthroCare may, at its option and expense,
either: (i) procure for Kobayashi the right under such patent to
sell or use, as appropriate, the Products; or (ii) replace the
Products with other non-infringing functionally equivalent
products; or (iii) modify the Products to make the Products
functionally equivalent and non-infringing; or (iv) if the use of
the Products is prevented by injunction, discontinue Product sales
under the Agreement and remove any Products in Kobayashi's
inventory and refund the aggregate payments paid therefor by
Kobayashi.
12.4 DISCLAIMER. THE FOREGOING PROVISIONS OF THIS ARTICLE
12 STATE THE ENTIRE LIABILITY OF ARTHROCARE AND THE EXCLUSIVE
REMEDY OF KOBAYASHI AND ITS CUSTOMERS, WITH RESPECT TO ANY ALLEGED
INFRINGEMENT OF PATENTS, COPYRIGHTS, TRADEMARKS OR OTHER
INTELLECTUAL PROPERTY RIGHTS BY THE PRODUCTS OR ANY PART THEREOF.
13. INDEMNIFICATION
13.1 Indemnification of Kobayashi. ArthroCare shall
indemnify, defend, and hold harmless Kobayashi, and its directors,
officers, employees, and agents, and the successors and assigns of
any of the foregoing (the "Kobayashi Indemnitees") from and
against all claims, losses, costs, and liabilities (including,
without limitation, payment of reasonable attorneys' fees and
other expenses of litigation), and shall pay any damages
(including settlement amounts) finally awarded with respect to
claims, suits, or proceedings (any of the foregoing, a "Claim")
brought by third parties against a Kobayashi Indemnitee, alleging
bodily injury, death or property damage caused by (a) a breach by
ArthroCare of warranties and representations, or (b) the
negligence or willful misconduct of ArthroCare, its employees or
agents, except to the extent such Claim is covered under
Section 13.2 below or is caused by the negligence or willful
misconduct of a Kobayashi Indemnitee.
13.2 Indemnification of ArthroCare. Kobayashi shall
indemnify, defend, and hold harmless ArthroCare, and its
directors, officers, employees and agents, and the successors, and
assigns of any of the foregoing (the "ArthroCare Indemnitees")
from and against all claims, losses, costs, and liabilities
(including, without limitation, payment of reasonable attorneys'
fees and other expenses of litigation), and shall pay any damages
(including settlement amounts) finally awarded with respect to a
Claim brought by third parties against a ArthroCare Indemnitee,
arising out of or relating to (a) Products sold, or otherwise
distributed by Kobayashi, except to the extent such claim is
covered under Section 13.1 above; (b) breach of any of the
representations or warranties made by Kobayashi hereunder, or
(c) the negligence or willful misconduct of Kobayashi or its
employees.
13.3 Indemnification Procedures. A party (the
"Indemnitee") that intends to claim indemnification under this
Article 13 shall promptly notify the other party (the
"Indemnitor") in writing of any claim in respect of which the
Indemnitee or any of its directors, officers, employees, agents,
licensors, successors, or assigns intends to claim such
indemnification, and the Indemnitor shall have sole control of the
defense and/or settlement thereof, provided that the indemnified
party may participate in any such proceeding with counsel of its
choice at its own expense. The indemnity agreement in this
Article 13 shall not apply to amounts paid in settlement of any
Claim if such settlement is effected without the consent of the
Indemnitor, which consent shall not be withheld unreasonably. The
failure to deliver written notice to the Indemnitor within a
reasonable time after the commencement of any such action, if
prejudicial to its ability to defend such action, shall relieve
such Indemnitor of any liability to the Indemnitee under this
Article 13, but the omission to so deliver written notice to the
Indemnitor shall not relieve the Indemnitor of any liability that
it may otherwise have to any Indemnitee than under this
Article 13. The Indemnitee under this Article 13, its employees
and agents, shall cooperate fully with the Indemnitor and its
legal representatives and provide reasonable information in the
investigation of any Claim covered by this indemnification.
Notwithstanding anything to the contrary contained in this Article
13, neither party shall be liable for any costs or expenses
incurred without its prior written authorization.
14. COMPLIANCE WITH LAWS AND FOREIGN LAW WARRANTIES AND
OBLIGATIONS
14.1 Compliance with Laws. Kobayashi shall at all times
conduct its efforts hereunder with the highest commercial
standards and in strict accordance with all applicable laws,
rules, directives and regulations ("Laws"). The Kobayashi shall
be responsible for current and ongoing familiarity and compliance
with all Laws applicable to the importation, distribution,
marketing, sale, operation, use or support of the Products in
Japan.
14.2 Currency Control. Kobayashi represents and warrants
that, on the Effective Date of this Agreement, no currency control
laws applicable in Japan prevent the payment to ArthroCare of any
sums due under this Agreement.
14.3 Foreign Corrupt Practices Act. In conformity with the
United States Foreign Corrupt Practices Act and with ArthroCare's
established corporate policies regarding foreign business
practices, Kobayashi and its employees and agents shall not
directly or indirectly make any offer, payment, promise to pay, or
authorize payment, or offer a gift, promise to give, or authorize
the giving of anything of value for the purpose of influencing an
act or decision of an official of any government within Japan or
the United States Government (including a decision not to act) or
inducing such a person to use his influence to affect any such
governmental act or decision in order to assist ArthroCare in
obtaining, retaining or directing any such business in violation
of the Foreign Corrupt Practices Act.
15. LIMITATION OF LIABILITY
EXCEPT FOR LIABILITY ARISING UNDER SECTION 13.1 AND
ARTICLE 12, ARTHROCARE'S LIABILITY ARISING OUT OF THIS AGREEMENT,
THE TERMINATION THEREOF, AND/OR SALE OF THE PRODUCTS SHALL BE
LIMITED TO THE AMOUNT PAID BY KOBAYASHI FOR THE PRODUCT. IN NO
EVENT SHALL ARTHROCARE BE LIABLE TO KOBAYASHI FOR COSTS OF
PROCUREMENT OF SUBSTITUTE GOODS, LOST PROFITS, OR ANY OTHER
SPECIAL, CONSEQUENTIAL, OR INCIDENTAL DAMAGES, HOWEVER CAUSED AND
UNDER ANY THEORY OF LIABILITY ARISING OUT OF THIS AGREEMENT
WHETHER BASED IN CONTRACT, TORT (INCLUDING NEGLIGENCE), OR
OTHERWISE. THESE LIMITATIONS SHALL APPLY WHETHER OR NOT
ARTHROCARE HAS BEEN ADVISED OF THE POSSIBILITY OF SUCH DAMAGES AND
NOTWITHSTANDING ANY FAILURE OF ESSENTIAL PURPOSE OF ANY LIMITED
REMEDY PROVIDED HEREIN.
16. DISPUTE RESOLUTION
16.1 Disputes. If ArthroCare and Kobayashi are unable to
resolve any dispute between them, either ArthroCare or Kobayashi
may, by written notice to the other, have such dispute referred to
the chief executive officers (or equivalent) of ArthroCare and
Kobayashi, for attempted resolution by good faith negotiations
within thirty (30) days after such notice is received. Unless
otherwise mutually agreed, the negotiations between the designated
officers shall be conducted by telephone, within three (3) days,
and at times within the period stated above as offered by the
designated officers of Kobayashi to the designated officer of
ArthroCare for consideration.
16.2 Arbitration. Any dispute, controversy or claim
arising out of or relating to the validity, construction,
enforceability or performance of this Agreement, including
disputes relating to alleged breach or to termination of this
Agreement, shall be settled by final, binding arbitration in the
manner described in this Section 16.2. The arbitration shall be
conducted pursuant to the Commercial Arbitration Rules of the
American Arbitration Association then in effect ("Rules").
Notwithstanding those Rules, the following provisions shall apply
to the arbitration hereunder:
1. Arbitrators. The arbitration shall be conducted
by a panel of three (3) arbitrators ("the Panel"). Each party
shall have the right to appoint one (1) member of the Panel, with
the third member to be mutually agreed by the two (2) Panel
members appointed by the parties or appointed in accordance with
the rules of the American Arbitration Association. The
arbitrators shall be persons in the medical device industry with
experience in the matters in dispute.
2. Proceedings. The parties and the arbitrators
shall use their best efforts to complete the arbitration within
one (1) year after the appointment of the Panel under Section
16.2.1 above, unless a party can demonstrate to the Panel that the
complexity of the issues or other reasons warrant the extension of
the time table. In such case, the Panel may extend such time
table as reasonably required. Notwithstanding the foregoing, any
arbitration of whether a payment is due under Article 3 above
shall be completed and a decision reached within sixty (60) days
after the appointment of the Panel. The Panel shall, in rendering
its decision, apply the substantive law of the State of
California, without regard to its conflict of laws provisions,
except that the interpretation of and enforcement of this
Article 16 shall be governed by the U.S. Federal Arbitration Act.
The proceeding shall take place in the city of Honolulu and
county of Oahu. The fees of the Panel shall be paid by the losing
party which party shall be designated by the Panel. If the Panel
is unable to designate a losing party, it shall so state and the
fees shall be shared equally between the parties.
17. MISCELLANEOUS PROVISIONS
17.1 Independent Contractors. The relationship of
ArthroCare and Kobayashi established by this Agreement is that of
independent contractors, and nothing contained in this Agreement
shall be construed to (i) give either party the power to direct or
control the day-to-day activities of the other, (ii) constitute
the parties as partners, joint venturers, co-owners or otherwise
as participates in a joint or common undertaking, or (iii) allow a
party to create or assume any obligation on behalf of the other
party for any purpose whatsoever.
17.2 Notices. Any notice required or permitted by this
Agreement shall be in writing and shall be sent by prepaid
registered or certified mail, return receipt requested,
internationally-recognized courier or personal delivery, addressed
to the other party at the address shown at the beginning of this
Agreement or at such other address for which such party gives
notice hereunder. Such notice shall be deemed to have been given
when delivered:
If to Kobayashi: Kobayashi Pharmaceutical Co., Ltd.
3-6, 4-Chome, Doshomachi
Chuo-Ku, Osaka, 541 Japan
Attention: Takafumi Sakaguchi
If to ArthroCare: ArthroCare Corporation
595 North Pastoria Avenue
Sunnyvale, CA 94086
Attention: Allan Weinstein
Vice President, Sales & Marketing
17.3 Force Majeure. Nonperformance of any party hereto
(except for payment obligations) shall be excused to the extent
that performance is rendered impossible by strike, fire,
earthquake, flood, governmental acts or orders or restrictions,
delay or failure of suppliers, or any other reason where failure
to perform is beyond the reasonable control and not caused by the
gross negligence or willful misconduct of the nonperforming party.
17.4 Assignment. This Agreement shall not be assignable by
either party to any third party hereto without the written consent
of the other party hereto, except that either party will assign
this Agreement without the other party's consent to an entity that
acquires all or substantially all of the business or assets of the
assigning party pertaining to the subject matter hereof, in each
case whether by merger, acquisition, or otherwise.
17.5 No Implied Waivers; Rights Cumulative. No failure on
the part of ArthroCare or Kobayashi to exercise and no delay in
exercising any right under this Agreement, or provided by statute
or at law or in equity or otherwise, shall impair, prejudice or
constitute a waiver of any such right, nor shall any partial
exercise of any such right preclude any other or further exercise
thereof or the exercise of any other right.
17.6 Partial Invalidity. If any provision of this
Agreement is held to be invalid by a court of competent
jurisdiction, then the remaining provisions shall remain,
nevertheless, in full force and effect. The parties agree to
renegotiate in good faith any term held invalid and to be bound by
the mutually agreed substitute provision in order to give the most
approximate effect intended by the parties.
17.7 No Implied Licenses. Except as expressly provided
herein, no party hereto grants to any other party hereto any
rights or licenses under such party's patent rights, trade secrets
or other intellectual property rights.
17.8 Language. This Agreement is in the English language,
which language shall be controlling in all respects, and all
versions hereof in any other language shall be for accommodation
only and shall not be binding upon the parties hereto. All
communications and notices to be made or given pursuant to this
Agreement shall be in the English language.
17.9 Counterparts. This Agreement may be executed in two
or more counterparts, each of which shall be deemed an original
and all of which together shall constitute one instrument.
17.10 Entire Agreement. This Agreement, including the
Exhibits attached hereto, constitutes the entire agreement of the
parties with respect to the subject matter hereof, and supersedes
all prior or contemporaneous understandings or agreements, whether
written or oral, between ArthroCare and Kobayashi with respect to
such subject matter. No amendment or modification hereof shall be
valid or binding upon the parties unless made in writing and
signed by the duly authorized representatives of both parties.
<PAGE>
IN WITNESS WHEREOF, the undersigned are duly authorized to
execute this Agreement on behalf of ArthroCare and Kobayashi as
applicable effective as of the Effective Date.
ARTHROCARE CORPORATION KOBAYASHI PHARMACEUTICAL CO.,LTD.
("ArthroCare") ("Kobayashi")
By: /s/ Michael A. Baker By: /s/ Kazumasa Kobayashi
- ----------------------------- -----------------------------
Print Name: Michael A. Baker Print Name: Kazumasa Kobayashi
- ----------------------------- -----------------------------
Title: President and CEO Title: Chairman
- ----------------------------- -----------------------------
Date: August 21, 1997 Date: August 21, 1997
- ----------------------------- -----------------------------
<PAGE>
Exhibit A
TRANSFER PRICES
Demonstration Controllers [*****] each
Resale Controllers [*****] each
Wands [*****]
Additional Cables [*****] each
<PAGE>
Exhibit B
INITIAL STOCKING ORDER
"Initial Stocking Order":
Controllers:
Sales and Inventory Units [*****] x [*****] = [*****]
Demonstration Units [*****] x [*****] = [*****]
Wands: [*****] x [*****] = [*****]
======== -------
[*****]
========
- ------------------
*Certain information on this page has been omitted and filed separately
with the Commission. Confidential treatment has been requested with
respect to the omitted portions.
[ARTICLE] 5
[MULTIPLIER] 1,000
Part II. Other information, Item 6a.
Arthrocare CORPORATION
EXHIBIT 11.1
COMPUTATION OF NET LOSS PER SHARE
(In thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
--------------------------- ---------------------------
September 27, September 28, September 27, September 28,
1997 1996 1997 1996
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Weighted average common shares
outstanding for the period 8,812 8,714 8,801 4,940
Common equivalent shares pursuant to
Staff Accounting Bulletin No. 83 -- -- -- 3,117
------------- ------------- ------------- -------------
Shares used in per share calculation 8,812 8,714 8,801 8,057
============= ============= ============= =============
Net loss ($1,900) ($1,932) ($6,056) ($5,410)
============= ============= ============= =============
Net loss per share ($0.22) ($0.22) ($0.69) ($0.67)
============= ============= ============= =============
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND> THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED
FROM THE ACCOMPANYING FINANCIAL STATEMENTS AND IS QUALIFIED IN
ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> JAN-3-1998
<PERIOD-START> DEC-29-1996
<PERIOD-END> SEP-27-1997
<CASH> 11,591
<SECURITIES> 11,105
<RECEIVABLES> 1,492
<ALLOWANCES> 0
<INVENTORY> 1,678
<CURRENT-ASSETS> 24,604
<PP&E> 1,421
<DEPRECIATION> 0
<TOTAL-ASSETS> 28,383
<CURRENT-LIABILITIES> 3,211
<BONDS> 0
0
0
<COMMON> 9
<OTHER-SE> 25,000
<TOTAL-LIABILITY-AND-EQUITY> 28,383
<SALES> 8,459
<TOTAL-REVENUES> 8,459
<CGS> 5,874
<TOTAL-COSTS> 5,874
<OTHER-EXPENSES> 9,718
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (6,056)
<INCOME-TAX> 0
<INCOME-CONTINUING> (6,056)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (6,056)
<EPS-PRIMARY> ($0.69)
<EPS-DILUTED> ($0.69)
</TABLE>
