UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-QSB
(Mark One)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended: June 30, 1998
OR
( ) TRANSITION REPORT UNDER SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________ to _________
Commission File Number: 0-28260
EP MEDSYSTEMS, INC.
-----------------------------------------------------
(Exact name of registrant as specified in its charter)
New Jersey 22-3212190
- ------------------------------- ------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
100 Stierli Court, Mount Arlington, New Jersey 07856
- ---------------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (973) 398-2800
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. X Yes No
--- ---
Indicate the number of shares outstanding of each of the
issuer's classes of common stock, as of the latest
practicable date: Common Stock, no par value, 9,872,417
shares outstanding at August 7, 1998.
PART I. -- FINANCIAL INFORMATION
Item 1. Financial Statements
EP MEDSYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
June 30, December 31,
1998 1997
(unaudited)
ASSETS ----------- ------------
Current assets:
Cash and cash equivalents $ 3,988,661 $ 752,068
Short-term investments 1,258,073 2,120,084
Accounts receivable, net 1,863,860 1,229,921
Inventories 1,301,884 1,512,528
Prepaid expenses and other assets 184,866 217,526
--------- ---------
Total current assets 8,597,344 5,832,127
--------- ---------
Investment in EchoCath, Inc. 1,400,000 1,400,000
Property and equipment, net 840,301 757,295
Intangible assets, net 574,056 569,705
Other assets 30,314 58,439
----------- ---------
Total assets $ 11,442,015 $ 8,617,566
========== =========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 517,316 $ 670,206
Payables due to related parties 75,708 127,859
Accrued expenses 642,323 850,507
Deferred revenue 103,438 34,313
Customer deposits 72,752 108,012
--------- ---------
Total liabilities $ 1,411,537 $ 1,790,897
--------- ---------
Commitments and contingencies
Shareholders' equity:
Preferred Stock, no par value,
5,000,000 shares authorized,
no shares issued and outstanding -- --
Common stock, $.001 stated value,
25,000,000 shares authorized,
9,872,417 and 7,599,917 shares
issued and outstanding respectively 9,872 7,600
Additional paid-in capital 21,432,375 16,743,014
Accumulated deficit (11,411,769) (9,923,945)
------------ -----------
Total shareholders' equity 10,030,478 6,826,669
------------ -----------
Total liabilities and shareholders'equity $ 11,442,015 $ 8,617,566
============ ============
The accompanying notes are an integral part of these statements.
EP MEDSYSTEMS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
For the Three Months Ended
June 30, June 30,
1998 1997
---------- ----------
Product sales $ 1,731,672 $ 409,914
Cost of products sold 902,663 368,584
---------- ----------
Gross profit 829,009 41,330
Operating costs and expenses:
Sales and marketing expenses 842,786 784,670
General and administrative expenses 416,726 434,932
Research and development expenses 328,191 594,187
--------- -----------
Loss from operations (758,694) (1,772,459)
Interest income, net 66,254 76,582
--------- -----------
Net loss $ (692,440) $ (1,695,877)
========= ===========
Basic loss per share $ (.07) $ (.22)
========= ===========
Diluted loss per share $ (.07) $ (.22)
========= ===========
Weighted average shares outstanding used
to compute basic and diluted loss per share 9,634,807 7,599,917
========= =========
The accompanying notes are an integral part of these statements.
EP MEDSYSTEMS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
For the Six Months Ended
June 30, June 30,
1998 1997
--------- ----------
Product sales $ 3,186,281 $ 1,285,637
Cost of products sold 1,789,469 891,408
--------- ---------
Gross Profit 1,396,812 394,229
--------- ---------
Operating costs and expenses:
Sales and marketing expenses 1,542,572 1,476,026
General and administrative expenses 764,992 793,962
Research and development expenses 677,541 937,640
----------- -----------
Loss from operations (1,588,293) (2,813,399)
Interest income, net 100,469 222,346
----------- -----------
Net loss $ (1,487,824) $ (2,591,053)
=========== ===========
Basic loss per share $ (.17) $ (.34)
===== =====
Diluted loss per share $ (.17) $ (.34)
===== =====
Weighted average shares outstanding used
to compute basic and diluted loss per share 8,622,983 7,599,917
========= =========
The accompanying notes are an integral part of these statements.
EP MEDSYSTEMS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
For the Six Months Ended
June 30, June 30,
1998 1997
----------- -----------
Cash flows from operating activities:
Net loss $ (1,487,824) $ (2,591,053)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization 140,543 121,931
Changes in assets and liabilities:
(Increase) decrease in accounts receivable (633,939) 80,730
Decrease (increase) in inventories 210,644 (863,790)
(Decrease) increase in prepaid and other assets 32,660 (153,191)
Decrease (increase) in other assets 28,125 (56,695)
(Decrease) increase in payables due to
related parties (52,151) 40,286
(Decrease) Increase in accounts payable (152,890) 453,795
Decrease in accrued expenses, deferred
revenue and customer deposits (174,319) (143,233)
----------- -----------
Net cash used in operating activities $ (2,089,151) $ (3,111,220)
----------- -----------
Cash flows from investing activities:
Investment in EchoCath, Inc. -- (1,400,000)
Maturities of held to maturity investments -- 487,096
Sale or maturity of available for sale securities 862,011 79,866
Patent costs (36,852) --
Capital expenditures, net of disposals (191,048) (508,618)
---------- ----------
Net cash provided by (used in) investing activities $ 634,111 $ (1,341,656)
Cash flows from financing activities:
Net proceeds from equity offering 4,661,708 --
Proceeds from exercise of stock options 29,925 --
----------- -------
Net cash provided by financing activities $ 4,691,633 $ --
----------- -------
Net (decrease) in cash and cash equivalents 3,236,593 (4,452,876)
Cash and cash equivalents, beginning of period 752,068 5,491,857
--------- ---------
Cash and cash equivalents, end of period $ 3,988,661 $ 1,038,981
========= =========
The accompanying notes are an integral part of these statements.
EP MEDSYSTEMS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Note 1. Basis of Presentation
The accompanying unaudited consolidated financial statements
have been prepared in accordance with generally accepted
accounting principles for interim financial information and
in accordance with the instructions to Form 10-QSB.
Accordingly, they do not include all of the financial
information and footnotes required by generally accepted
accounting principles for complete financial statements. In
the opinion of management, all adjustments (including normal
recurring adjustments) considered necessary for a fair
presentation have been included.
The preparation of financial statements in conformity with
generally accepted accounting principles requires management
to make estimates and assumptions that affect the amounts
reported in the financial statements and accompanying notes.
Actual results could differ from those estimates.
The results of operations for the respective interim periods
are not necessarily indicative of the results to be expected
for the full year. The accompanying unaudited consolidated
financial statements should be read in conjunction with the
audited consolidated financial statements and the notes
thereto included in the Company's Form 10-KSB for the year
ended December 31, 1997 filed with the Securities and
Exchange Commission.
2. Net Loss Per Common Share
Effective for the year ended December 31, 1997, the Company
adopted Statement of Financial Accounting Standards No. 128,
"Earnings Per Share" ("SFAS 128"). The adoption of SFAS 128
requires the presentation of Basic earnings per share and
Diluted earnings per share. Basic earnings per share is
computed based on the weighted average number of common
shares outstanding during the year. Diluted earnings per
share is based on the weighted average number of common
shares outstanding during the year plus the common stock
equivalents related to outstanding stock options and
warrants. Diluted earnings per share exclude the impact of
common stock equivalents as their inclusion would be anti-
dilutive. As required by SFAS 128, the net loss per share
for the three and six months ended June 30, 1997 has been
restated to comply with this standard.
3. Inventories
Inventories consist of the following:
June 30, December 31,
1998 1997
----------- -------------
Raw materials $ 262,449 $ 249,018
Work in process 16,500 12,925
Finished goods 1,022,935 1,250,585
----------- ------------
$ 1,301,884 $ 1,512,528
=========== ============
4. Investment Securities
The Company accounts for its investment securities in
accordance with Statement of Financial Accounting Standards
No. 115, "Accounting for Certain Investments in Debt and
Equity Securities" ("SFAS 115"). This Statement requires
the classification of debt and equity securities based on
whether the securities will be held to maturity, are
considered trading securities, or are available for sale.
Classification within these categories may require the
securities to be reported at their fair market value with
unrealized gains and losses included in current earnings or
reported as a separate component of stockholders' equity.
All investment securities have been classified as available
for sale. At June 30, 1998, the Company holds a portfolio
made up of corporate bonds with maturities ranging from
October, 1998 to June, 1999. These investments are stated
at market, which approximates their amortized cost.
5. EchoCath License
During February, 1997, the Company licensed the rights to
several ultrasound technologies from EchoCath, Inc.
("EchoCath") for use in the field of electrophysiology. The
agreement calls for the Company to make payments totaling
$700,000, in four installments, as certain development
milestones and initial sales are achieved on the EchoMark
and EchoEye technologies. Terms of the license call for a
two percent (2%) royalty on net sales, including minimum
royalties beginning in 1999 and continuing for the life of
the applicable patents and continuations thereof. The
Company may elect to not make minimum royalty payments and
in such case, EchoCath may render the license non-exclusive
or cancel the license and return the $700,000 milestone
payments. As of June 30, 1998, no milestones had been
achieved and no milestone payments were accrued or payable
to EchoCath.
The minimum annual royalties under the license are as
follows:
1999 $120,000
2000 160,000
2001 200,000
2002 280,000
2003 320,000
2004 360,000
2005 and thereafter 400,000
In conjunction with the licensing agreement, the Company
purchased 280,000 shares of 5.4% cumulative convertible
preferred stock of EchoCath for $1,400,000 in cash. The
preferred stock is convertible, at the option of the
Company, into shares of EchoCath common stock at a
conversion price of $6.00 per share through 1999 and $6.50
per share thereafter. The market price for the common stock
on June 30, 1998 was $2.25 per share. The Company does not
anticipate converting its shares into common stock in the
near future.
During September, 1997, the Company became aware that
EchoCath was having been having cash flow difficulties. On
October 7, 1997, the Company filed a lawsuit against
EchoCath in the United States District Court for the
District of New Jersey alleging, among other things, that
EchoCath made fraudulent misrepresentations and omissions in
connection with the sale of $1.4 million of its preferred
stock to the Company. (See Part II -- Item 1. Legal
Proceedings).
On October 30, 1997, EchoCath announced that it had entered
into a license and development agreement which included a
$1,000,000 investment by the licensee in Class A common
stock of EchoCath and an $800,000 prepayment of license
fees. The agreement provided EchoCath with $1,800,000 of
new working capital and may provide an opportunity to earn
additional royalty or licensing income. During 1998,
EchoCath may have earned an additional $250,000 of licensing
income under the agreement.
EchoCath has limited cash reserves and is attempting to
raise additional funds through the issuance of stock,
through licensing agreements or through other strategic
alliances. Additionally, EchoCath could face delisting of
its common stock from the NASDAQ Small Cap Stock Market if
it does not meet the requirements for continued listing.
The Company cannot determine whether EchoCath will be
successful in raising additional funds or executing
additional licensing agreements in order to meet its long
term cash needs, whether EchoCath will recognize additional
revenue or attain profitability or whether EchoCath will be
able to maintain its NASDAQ listing.
The EchoCath preferred stock is not a registered security
traded on a public exchange and therefore its fair value is
not readily determinable. Accordingly, the shares are
stated at historical cost. As of June 30, 1998, management
has evaluated the investment in order to determine whether
there has been an other than temporary impairment and as a
result of this review, management believes that there is no
such impairment at this time. However, management will
continue to evaluate the investment and may determine in the
future that it is probable that the Company will be unable
to realize all amounts due according to the contractual
terms of the security. In the event that management
determines that an other than temporary impairment has
occurred, the cost basis of the preferred stock will be
written down to fair value.
6. Common Stock
On April 9, 1998, the Company sold and issued 2,250,000
shares of its common stock to six institutional investors
(the "Investors") at a price of $2.25 per share. The gross
proceeds of the offering were $5,062,500, before deducting
offering expenses of approximately $403,000. The Company
intends to use the net proceeds from the sale of the Shares
for working capital purposes.
The Company granted the Investors certain registration
rights with respect to the Shares pursuant to a Registration
Rights Agreement. The Company filed a shelf registration
statement on Form S-3 on April 29, 1998 covering all of the
Shares. On July 6, 1998, the registration statement was
declared effective by the Securities and Exchange
Commission.
On June 1, 1998, four non-employee holders of non-plan stock
options to purchase 22,500 common stock of the Company
exercised their options at $1.33 per share.
7. Supplemental Statement of Cash Flow Information:
Supplemental Noncash Investing and Financing Activities:
Cash paid for interest was $1,011, $1,549, $624 and $1,248
for the three and six months ended June 30, 1998 and 1997,
respectively.
ITEM 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations
The following Management's Discussion and Analysis of
Financial Condition and Results of Operations contains
forward-looking statements based upon current expectations
that involve risks and uncertainties. The Company's actual
results could differ materially from those anticipated in
these forward-looking statements as a result of certain
factors, that include, but are not limited to, the risks
discussed in the following section as well as those
discussed in the section entitled "Factors That May Impact
Future Operations." These forward-looking statements
include, but are not limited to, the statement in the second
paragraph of "Overview" relating to clinical trials,
anticipated filing and approval time periods for FDA market
clearance and approval for sale of the ALERT System; the
statements in the third paragraph of "Overview" relating to
approval of the Company's ultrasound products and their role
in the diagnosis and treatment of cardiac arrhythmias; the
statements in the fourth paragraph of "Overview" related to
the Company's anticipated results of operations, capital
requirements, development efforts of new products and the
filing of additional patents; the statements in the fifth
paragraph of "Overview" related to milestones for 1998; the
forward looking statements contained in the second, third,
fifth, sixth, seventh, eighth and ninth paragraphs under the
discussion of the Results of Operations for the three months
ended June 30, 1998 as compared to 1997; the forward looking
statements contained in the fifth and sixth paragraphs under
the discussion of the Results of Operations for the six
months ended June 30, 1998 as compared to 1997; and the
forward looking statements in the last paragraph of
"Liquidity and Capital Resources."
The Company cautions investors and others to review the
cautionary statements set forth in this report and in the
Company's other reports filed with the Securities and
Exchange Commission and cautions that other factors may
prove to be important in affecting the Company's business
and results of operations. Readers are cautioned not to
place undue reliance on these forward-looking statements,
which speak only as of the date of this report. The Company
undertakes no obligation to publicly release the results of
any revisions to these forward-looking statements that may
be made to reflect events or circumstances after the date of
this report or to reflect the occurrence of anticipated
events.
OVERVIEW
The Company was formed in January, 1993 to develop,
manufacture, market and sell a line of products for the
cardiac electrophysiology market used to diagnose, monitor
and treat irregular heartbeats known as arrhythmias. Since
inception, the Company has acquired technology and marketing
rights, has developed new products and has begun marketing
various electrophysiology products, including the EP
WorkMate electrophysiology workstation, the EP-3
computerized electrophysiology stimulator, diagnostic
electrophysiology catheters, internal cardioversion
catheters and related disposable supplies. To date, these
products have generated nearly all of the Company's revenue.
The Company has developed a new product for internal
cardioversion of atrial fibrillation known as the ALERT
System, which uses a proprietary electrode catheter to
deliver measured, variable, low energy electrical impulses
directly to the inside of the heart in order to convert
atrial fibrillation to a normal heart rhythm. The ALERT
System is not approved for sale in the United States, but is
currently undergoing clinical trials. At the earliest, the
Company does not anticipate completing the clinical trial
and filing for approval for the ALERT System by the U.S.
Food and Drug Administration ("FDA") for at least six
months. Approval to sell the ALERT System in the United
States may take several years, if approved at all. The
Company has received approval from its notified body to
label the ALERT System with a CE Mark. This designation has
allowed the Company to initiate sales of the ALERT System in
the European Community.
During July, 1998, the Company filed for 510(k) approval
with the FDA for marketing clearance for its ViewMate
ultrasound imaging console and U-View deflectable
intracardiac imaging catheter. These products are designed
to improve a physician's ability to visualize inside the
chambers of the heart, including the internal anatomy of the
heart. The Company believes that the ViewMate and U-View
may play an important role as new and effective treatments
options are developed for the treatment of complex cardiac
arrhythmias, including ventricular tachyarrhythmia and
atrial fibrillation. The Company's ultrasound products are
not approved for sale and the Company does not anticipate
receiving approval to sell the ViewMate or U-View for at
least six months, if approved at all.
The Company expects to continue to incur operating losses in
the near future as it will continue to expend substantial
funds for research and development, clinical trials in
support of regulatory approvals, increased manufacturing
activity and expansion of sales and marketing activities.
The amount and timing of future losses will be dependent
upon, among other things, increased sales of the Company's
existing products, the results of clinical trials,
regulatory approval and market acceptance of the ALERT
System and developmental, regulatory and market success of
new products under development as well as the Company's
ability to establish, preserve and enforce intellectual
property rights to its products. To date, the Company's
products have generated limited revenue and the Company has
an accumulated deficit of approximately $11.4 million at
June 30, 1998.
The Company has set a number of goals for 1998, including
continued expansion of its sales and marketing efforts aimed
at achieving increased sales of existing products,
substantial completion of the ALERT clinical trial, initial
market acceptance of the ALERT System in Europe, increased
manufacturing efficiency and lower production costs,
introduction of several new products, improvements to
existing products and ongoing research and development
activities. The Company believes that attainment of these
goals is important to achieving the Company's long term
objectives.
RESULTS OF OPERATIONS
Three months ended June 30, 1998 compared to three months
ended June 30, 1997
Revenue from product sales increased $1,321,758 (or 322%)
from $409,914 to $1,731,672 in the three months ended June
30, 1998 as compared to the comparable period in 1997. The
increase in revenue in the second quarter of 1998 resulted
primarily from increased sales of the EP WorkMate, which
represented a substantial percentage of product revenues
during the three month period in 1998, and initial sales of
the ALERT System in Europe. Sales during the second quarter
of 1997 were lower than expected due, in part, to a delay in
the release of several product upgrades to the EP WorkMate.
The level of sales for fiscal 1998 and fiscal 1999 will
depend materially on sales of the EP WorkMate and diagnostic
catheters and the ability of the Company's direct sales
force and network of international independent distributors
to effectively market and sell the Company's existing
products. The ALERT System is currently undergoing clinical
trials and is not approved for sale in the United States.
However, the ALERT System has been introduced for sale in
Europe. The Company cannot accurately determine the sales
level of the ALERT System for the second half of 1998 or
1999 at this time nor when it will be available in the
United States. However, the Company expects the ALERT
System to contribute a greater proportion of revenues in the
second half of 1998 and beyond.
Cost of products sold increased $534,079 (or 145%) from
$368,584 to $902,663 due to increased sales in the three
months ended June 30, 1998 as compared to the comparable
period in 1997. Gross profit on product sales for the three
months ended June 30, 1998 was $829,009 (or 48% as a
percentage of product sales), as compared with $41,330 (or
10% as a percentage of product sales) for the comparable
period in 1997. The Company realized an increase in gross
profit on sales of existing products during 1998 primarily
due to increased sales of the EP WorkMate, which currently
yields a higher gross margin than certain of the Company's
other products. For the three months ended June 30, 1998,
the increase in gross profit was partially offset by
increased labor and manufacturing overhead expenses at the
Company's catheter manufacturing operation as the Company
increased its manufacturing activities in order to supply
ALERT Catheters for sale in Europe and for use in the
clinical trials. The Company expects to improve its overall
gross profit percentage as sales of the ALERT System and
other catheters increase which may offset the increased
fixed costs associated with the catheter manufacturing
operation. The gross profit on product sales for the three
months ended June 30, 1997 was adversely impacted by low
level of sales during the period.
Sales and marketing expenses increased $58,116 (or 7%) from
$784,670 to $842,786 and decreased as a percentage of
revenue from product sales from 191% to 49% in the three
months ended June 30, 1998 as compared to the comparable
period in 1997. The year to year variance is partly due to
the low level of sales in the three months ended June 30,
1997. The Company sells its products through a domestic
direct sales force, which currently includes ten domestic
sales and marketing professionals, five domestic field
clinical engineers and administrative support personnel. The
Company has expended substantial funds in an effort to
improve its network of international independent
distributors. The international distribution network is
currently supported by three international sales and
marketing professionals, two international field clinical
engineers and administrative support personnel. The Company
also incurs significant expenses for travel, trade show
related expenses and product promotion and physician
educational materials in support of its sales efforts.
The Company expects to incur substantial additional sales
and marketing expenses as a result of the introduction of
the ALERT System for sale outside of the United States and,
if the clinical trials progress according to expectations,
for the eventual introduction of the ALERT System for sale
in the United States. Examples of the types of expenditures
would be costs associated with attending trade shows,
physician training and education, promotional material,
sample products and expansion of the sales force.
While sales and marketing expenses for the second half of
1998 and for fiscal 1999 are expected to increase, it is
anticipated that these expenses may continue to decline as a
percentage of revenues in the event that incremental sales
are generated. It is likely that the Company will incur
additional losses as a result of the increased fixed costs
associated with its sales efforts until incremental sales
are generated. The Company cannot determine when or if that
level of sales will be achieved.
General and administrative expenses decreased $18,206 (or
4%) from $434,932 to $416,726 and decreased as a percentage
of sales revenue from 106% to 24% in the three months ended
June 30, 1998 as compared to the comparable period in 1997.
The year to year variance is partly due to the low level of
sales during the three months ended June 30, 1997. The
Company expects general and administrative expenses to
increase in future periods due to anticipated future growth.
It is anticipated, however, that these expenses may continue
to decline as a percentage of revenues as incremental sales
are generated. The Company cannot determine when or if such
incremental sales will be achieved.
Research and development expenses decreased $265,996 (or
45%) from $594,187 to $328,191 in the three months ended
June 30, 1998 as compared to the comparable period in 1997.
During the three months ended June 30, 1998, the Company
incurred research and development expenses in connection
with ongoing development efforts on existing products,
including the EP WorkMate, costs associated with the
clinical trials for the ALERT System, development costs and
costs of preparing regulatory submissions for the new
ultrasound imaging product line and costs associated with
several new products under development. The Company expects
that research and development expenses are likely to
increase in future periods, in part due to ongoing expenses
related to the ALERT System clinical trials, new product
development activities and regulatory applications aimed at
gaining approval to sell other new products. Research and
development expenses for the three months ended June 30,
1997 included significant expenses related to the
development of the ALERT System, preparation of regulatory
submissions for the ALERT System and expenses of obtaining
CE Mark approval at ProCath. These particular expenses were
not recurring in the comparable period of 1998, which
contributed to the decline in research and development
expenses.
Interest expense was $1,011 during the three months ended
June 30, 1998. The Company does not expect to incur
material interest expense during 1998.
Interest income decreased from $77,206 to $67,264 during the
three months ended June 30, 1998 as compared to the
comparable period in 1997. The decrease was due to the
utilization of the proceeds of the Company's initial public
offering.
The net loss for three months ended June 30, 1998 was
$692,440 as compared to a net loss of $1,695,877 during the
comparable period in 1997. The basic and diluted loss per
share for the three months ended June 30, 1998 was $.07 per
share as compared to a basic and diluted loss per share (as
restated to comply with the provisions of SFAS 128 -
Earnings Per Share) of $.22 in 1997. The decrease in net
loss was caused by the factors discussed above.
RESULTS OF OPERATIONS
Six months ended June 30, 1998 compared to six months ended
June 30, 1997
Revenue from product sales increased $1,900,644 (or 148%)
from $1,285,637 to $3,186,281 in the six months ended June
30, 1998 as compared to the comparable period in 1997. The
increase in revenue in the second quarter of 1998 resulted
primarily from increased sales of the EP WorkMate, which
represented a substantial percentage of product revenues
during the six month period in 1998, and initial sales of
the ALERT System in Europe. Sales during the second quarter
of 1997 were lower than expected due, in part, to a delay in
the release of several product upgrades to the EP WorkMate.
Cost of products sold increased $898,061 (or 101%) from
$891,408 to $1,789,469 due to increased sales in the six
months ended June 30, 1998 as compared to the comparable
period in 1997. Gross profit on product sales for the six
months ended June 30, 1998 was $1,396,812 (or 44% as a
percentage of product sales), as compared with $394,229 (or
31% as a percentage of product sales) for the comparable
period in 1997. The Company realized an increase in gross
profit on sales of existing products during 1998 primarily
due to higher sales of the EP WorkMate.
Sales and marketing expenses increased $66,546 (or 5%) from
$1,476,026 to $1,542,572 and decreased as a percentage of
revenue from product sales from 115% to 48% in the six
months ended June 30, 1998 as compared to the comparable
period in 1997. The year to year variance in the ratio of
sales and marketing expense to product sales is partly due
to the low level of sales during 1997.
General and administrative expenses decreased $28,970 (or
4%) from $793,962 to $764,992 and decreased as a percentage
of revenue from product sales from 62% to 24% in the three
months ended June 30, 1998 as compared to the comparable
period in 1997. The year to year variance in the ratio of
general and administrative expense to product sales is
partly due to low level of sales during 1997.
Research and development expenses decreased $260,099 (or
28%) from $937,640 to $677,541 in the six months ended June
30, 1998 as compared to the comparable period in 1997. The
Company expects that research and development expenses are
likely to increase in future periods, in part due to ongoing
expenses related to the ALERT System clinical trials, new
product development activities and regulatory applications
aimed at gaining approval to sell other new products.
Interest expense was $1,549 during the six months ended June
30, 1998. The Company does not expect to incur material
interest expense during 1998.
Interest income decreased from $222,346 to $100,469 during
the six months ended June 30, 1998 as compared to the
comparable period in 1997. The decrease was due to the
utilization of the proceeds of the Company's public
offering.
The net loss for six months ended June 30, 1998 was
$1,487,824 as compared to a net loss of $2,591,053 during
the comparable period in 1997. The basic and diluted loss
per share for the six months ended June 30, 1998 was $.17
per share as compared to a basic and diluted loss per share
(as restated to comply with the provisions of SFAS 128 -
Earnings Per Share) of $.34 in 1997. The decrease in net
loss was caused by the factors discussed above.
Liquidity and Capital Resources
Since inception, the Company's expenses have exceeded its
revenues, resulting in an accumulated deficit of
approximately $11.4 million at June 30, 1998. On June 21,
1996, the Company completed its initial public offering of
2,500,000 shares of Common Stock at a purchase price of
$5.50 per share, for aggregate net proceeds of approximately
$11,786,000 after deducting offering expenses. On April 9,
1998, the Company sold and issued 2,250,000 shares of its
common stock to six institutional investors at a price of
$2.25 per share. The gross proceeds of the offering were
$5,062,500, before deducting offering expenses of
approximately $403,000. The Company intends to use the net
proceeds from the sale of the shares for working capital
purposes.
Net cash used in operating activities for the six months
ended June 30, 1998 was $2,089,151 as compared to $3,111,220
for the six months ended June 30, 1997. The net use of cash
in operations during the six months ended June 30, 1998 was
due primarily to the Company's $1,487,824 net loss from
operations. Accounts receivable, net, increased by $633,939
in 1998 from $1,229,921 to $1,863,860 due to higher second
quarter 1998 sales. Inventories decreased by $210,644 from
$1,512,528 to $1,301,884 due to increased 1998 sales and the
initial sale of components of the ALERT System which had
been in inventory at December 31, 1997. Prepaid expenses
and other current assets includes product brochures, prepaid
trade show fees and prepaid insurance. Accounts payable
decreased by $152,890 from $670,276 to $517,316, accrued
expenses payable decreased by $208,184 from $850,507 to
$642,323 and amounts payable to related parties decreased by
$52,151 from $127,859 to $75,708. These reductions were due
to the timing of purchases and payments for goods and
services.
During February, 1997, the Company licensed the rights to
several ultrasound technologies from EchoCath, Inc.
("EchoCath") for use in the field of electrophysiology. The
agreement with EchoCath calls for the Company to make
payments totaling $700,000, in four installments, as certain
development milestones and initial sales are achieved on the
EchoMark and EchoEye technologies. As of June 30, 1998, no
development milestones had been met and no payments were
due. The EchoCath license provides for a royalty on net
sales, including minimum royalties of $120,000 beginning in
1999 and increasing to $400,000 in 2005 and thereafter for
the life of the applicable patents and continuations. The
Company may elect not to make minimum royalty payments and,
in such case, EchoCath has the option to render the license
non-exclusive or cancel the license and return any milestone
payments to the Company.
In conjunction with the license agreement, the Company
purchased 280,000 shares of newly-issued EchoCath Series B
Cumulative Convertible Preferred Stock for $1,400,000 in
cash. The Company's $1,400,000 investment was intended to
fund continuing development of EchoCath products, including
the EchoMark and EchoEye technology. Upon successful
completion of its development projects, the Company may
introduce ultrasound technology into its electrophysiology
catheter line although there can be no assurance that the
Company will be successful in this effort. (See Part II --
Item 1. Legal Proceedings)
Capital expenditures, net of disposals, were $191,048 during
the six months ended June 30, 1998 as compared to $508,618
in the six month period ended June 30, 1997. Capital
equipment purchases during 1998 included demonstration
equipment, computer equipment for use by the sales force,
expansion of the trade show booths and manufacturing
equipment.
During February, 1997, the Company purchased 7,500 square
feet of manufacturing, administrative and warehouse space,
including 2,500 square feet of space that was under lease,
for a purchase price of approximately $417,000, including
transaction costs and improvements. The purchase allowed for
the expansion of catheter manufacturing operations, provide
for additional warehousing, shipping and quality assurance
activities and relocation of administrative offices at the
facility. The Company is negotiating for a lease with an
option to purchase 2,500 square feet of additional space at
the catheter facility. The Company does not have any
material capital commitments at this time.
On June 1, 1998, four non-employee holders of non-plan stock
options exercised their options to purchase 22,500 shares
common stock of the Company at a price of $1.33 per share.
The Company had no financing activities during the period
ended June 30, 1997.
The Company expects its operating losses to continue in the
near future as it will continue to expend substantial funds
for research and development, clinical trials in support of
regulatory approvals, increased manufacturing capacity and
expansion of sales and marketing activities. The amount and
timing of future losses will be dependent upon, among other
things, increased sales of the Company's existing products,
clinical approval and market acceptance of the ALERT System
and developmental, regulatory and market success of new
products under development. There can be no assurance that
any of the Company's development projects will be successful
or that if development is successful, that the products will
generate any sales. Based upon its current plans and
projections, the Company believes that its existing capital
resources will be sufficient to meet its anticipated capital
needs for at least the next twelve months.
Factors That May Impact Future Operations
History of Losses; Future of Profitability Uncertain;
The Company commenced operations in 1993 and has incurred
substantial operating losses in each year since inception.
As of June 30, 1998, the Company's accumulated deficit was
approximately $11.4 million. While the Company is
generating revenues from product sales, the Company
anticipates that losses could continue. The Company's
ability to generate significant revenues or achieve
profitable operations is dependent on, in large part, the
results of the ALERT clinical trials; market acceptance of
existing products, including the EP WorkMate and the ALERT
System; the ability of the Company to increase its catheter
manufacturing capabilities, improve efficiency, control
manufacturing costs and ensure the timely delivery of its
products; the successful development of new products; the
ability to obtain regulatory approvals and reimbursement of
new products on a timely basis; the ability to compete
successfully in the future with companies which have greater
resources than the Company; the ability to establish,
preserve and enforce intellectual property rights; and its
ability to raise sufficient funds to meet its future cash
requirements. There can be no assurance that the Company
will generate significant revenues or attain profitability.
Dependence on the ALERT System.
Although the Company currently markets a broad range of
products, it believes its greatest potential for substantial
long-term growth will depend on the success of the ALERT
System, a new product the Company has developed to treat
atrial fibrillation. The ALERT System has not been approved
by the FDA and is not currently available for commercial
sale in the United States. Before the Company may begin
marketing the ALERT System in the U.S., it must obtain FDA
approval based on, among other things, the results of
clinical trials that demonstrate the safety and
effectiveness of the device. There can be no assurance that
the clinical trials will demonstrate the safety and
effectiveness of the ALERT System, or that the Company will
obtain FDA approval on a timely basis or at all. Further,
if granted, FDA approval may include significant limitations
on the indicated uses for which the product may be labeled
or marketed. Assuming the ALERT System receives FDA
approval, commercial success will depend on acceptance by
physicians as a desirable treatment for atrial fibrillation.
Such acceptance will depend on, among other things,
substantial, favorable clinical experience, advantages over
alternative treatments, including cost-effectiveness, and
favorable reimbursement policies of third party payors such
as insurance companies, Medicare and other governmental
programs. There can be no assurance that the ALERT System
will achieve such market acceptance. The Company's ability
to sell the ALERT System at prices necessary to achieve
profits and the profitability of the system will depend in
part on the Company's ability to manufacture the system
efficiently in commercial quantities. At this time, the
Company has only manufactured the components of the ALERT
System in limited quantities. There can be no assurance
that the Company will be able to develop the manufacturing
processes and capabilities necessary to attain efficient
manufacturing. The Company will also be dependent on sub-
contractors for certain key components of the ALERT
Companion. Failure to obtain FDA approval for, market
acceptance of, efficient manufacturing processes and/or
reliable sub-contractors for the ALERT System would have a
material adverse effect on the Company's business, results
of operations and financial condition.
ALERT Clinical Trials
The Company has commenced human clinical trials of the ALERT
System at five hospitals in the United States and intends
to expand the trials to include additional leading atrial
fibrillation research centers. Clinical data is needed in
order to demonstrate the safety and efficacy of the ALERT
System under applicable FDA regulatory guidelines. The
Company anticipates that the ALERT System clinical trials
will be completed during calendar year 1998. At the
conclusion of the clinical trials, the Company plans to file
for FDA approval to market the ALERT System in the United
States. Receipt of FDA approval to sell the ALERT System in
the United States may take several years, if it is received
at all.
There can be no assurance that the ALERT System will prove
to be safe and effective in clinical trials under applicable
United States or international regulatory guidelines or that
additional modifications to the Company's products will not
be necessary. In addition, the clinical trials may identify
significant technical or other obstacles to be overcome
prior to obtaining necessary regulatory or reimbursement
approvals. If the ALERT System does not prove to be safe
and effective in clinical trials or if the Company is
otherwise unable to commercialize the product successfully,
the Company's business, financial condition and results of
operations could be materially adversely affected.
Dependence on EP WorkMate.
In late 1995, the Company began commercial sales of the EP
WorkMate, a computerized monitoring and analysis
electrophysiology workstation. Although the Company sells a
broad range of products, it believes its ability to increase
revenues over the next several years will depend
significantly on acceptance of the EP WorkMate by
electrophysiologists. The EP WorkMate accounted for more
than 50% of the Company's revenues from product sales during
the six months ended June 30, 1998 and the year ended
December 31, 1997 and is expected to account for a
significant portion of fiscal year 1998 and 1999 revenue.
The EP WorkMate has a list price of approximately $129,000
with an integrated EP-3 Clinical Stimulator and, as a
result, each sale of an EP WorkMate can represent a
relatively large percentage of the Company's net sales in a
particular quarter. There can be no assurance that the EP
WorkMate will continue to be accepted by the
electrophysiology market or that sales will be substantial.
Each sale of an EP WorkMate may take a relatively long time
to complete due in part to the high selling price relative
to other types of equipment and to the budgetary processes
of hospitals to which the Company markets the EP WorkMate.
Government Regulation.
United States
In the United States, the development, testing, manufacture,
labeling, marketing, promotion and sale of medical devices
are regulated by the FDA under the Federal Food, Drug, and
Cosmetic Act ("FFDCA"). The FDA has broad discretion in
enforcing the FFDCA, and noncompliance with applicable
requirements can result in fines, injunctions, civil
penalties, recall or seizure of products, total or partial
suspension of production, failure 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 necessary
to reasonably ensure their safety and effectiveness. Class
I devices require general controls such as proper labeling,
premarket notification and adherence to GMP. Class II
devices require the use of special controls such as
performance standards, post-market surveillance by
regulatory bodies, patient registries and FDA guidelines.
Class III devices must generally receive a pre-market
approval ("PMA") from the FDA prior to being marketed in the
U.S. in order to ensure their safety and effectiveness.
Before a new device can be introduced into the market in the
U.S., the manufacturer generally must obtain either FDA
clearance of a premarket notification filing under Section
510(k) of the FFDCA (a "510(k) submission") or FDA approval
of a PMA application. A 510(k) submission will be granted
clearance by the FDA if the submitted data and other
information establishes that the proposed device is
"substantially equivalent" to a predicate device legally
marketed in the U.S. A predicate device is a device that
was legally marketed in the U.S. prior to May 28, 1976 or a
device marketed since that date that has been determined by
the FDA to be substantially equivalent pursuant to a 510(k)
application and for which a PMA is not required.
Substantial equivalence means that the device has the same
intended use and is as safe and effective as a legally
marketed device and does not raise questions of safety and
effectiveness that are different than those associated with
the legally marketed device. The FDA has recently been
requiring more data and information to demonstrate
substantial equivalence than in the past. It generally
takes between 3 to 12 months from the date of submission to
obtain 510(k) premarket clearance, but may take longer
depending upon the circumstances. The FDA may determine
that the proposed device is not substantially equivalent, or
that additional data is needed before a substantial
equivalence determination can be made. A "not substantially
equivalent" determination, or a request for additional data,
could delay the market introduction of new products that
fall into this category and could have a materially adverse
effect on the Company's business, financial condition and
results of operations. There can be no assurance that the
Company will obtain 510(k) premarket clearance within the
above time frames, if at all, for any of the devices for
which it may file a 510(k) submission in the future.
A 510(k) submission is also required when the manufacturer
makes a change or modification to a legally marketed device
that could significantly affect the safety or effectiveness
of the device, or where there is a change or modification in
the intended use of the device. When any change or
modification is made in a device or its intended use, the
manufacturer is expected to make the initial determination
as to whether the change or modification is of a kind that
would necessitate a filing of a new 510(k) submission. The
FDA's regulations provide only limited guidance for making
this determination.
A PMA application must be filed as to a proposed device if
the device is not substantially equivalent to a legally
marketed device or if it is a Class III device for which the
FDA has called for PMAs. The PMA procedure involves a more
rigorous, complex and lengthy review process by the FDA than
the 510(k) premarket clearance procedure. A PMA application
must be supported by extensive data, including pre-clinical
and clinical trial data to demonstrate the safety and
efficacy of the device. If human clinical trials of a
device are undertaken, and the device presents a
"significant risk," the manufacturer or the distributor of
the device must obtain FDA approval of an IDE application
prior to commencing human clinical trials in the U.S.
The IDE application must be supported by data, typically
including the results of animal and laboratory testing. If
the IDE application is approved, human clinical trials may
begin at a specific number of investigational sites with a
maximum specific number of patients, as approved by the FDA.
Sponsors of clinical trials are permitted to charge for
those devices distributed in the course of the study
provided such compensation does not exceed recovery of the
costs of manufacture, research, development and handling.
Upon receipt of a PMA application, the FDA makes a threshold
determination as to whether the application is sufficiently
complete to permit a substantive review. If the FDA
determines that the PMA application is sufficiently
complete, it will "file" the application. Otherwise, the
FDA will request that the sponsor submit additional
information within 180 days. Depending on the nature and
amount of information requested by the FDA, the PMA review
process may be substantially delayed by such a request.
Once the submission is filed, the FDA begins a review of the
PMA application. An FDA review of a PMA application
generally takes between one and three years from the date
the PMA application is filed, but may take significantly
longer. The review time is often significantly extended if
the FDA requests more information or clarification of
information already provided in the submission. During the
review period, an FDA advisory committee, typically a panel
of clinicians, will likely be convened to review and
evaluate the application and provide recommendations to the
FDA as to whether the PMA should be approved. In addition,
the FDA will inspect the manufacturing facility where the
unapproved product is to be made to ensure compliance with
the FDA's GMP requirements prior to issuance of a PMA.
The PMA process can be expensive and a number of devices for
which PMAs have been sought by other companies have never
been approved for marketing. There can be no assurance that
the Company will be able to obtain necessary regulatory
approvals or clearances on a timely basis or at all. Delays
in receipt of or failure to receive such approvals, the loss
of previously received approvals, or failure to comply with
existing or future regulatory requirements would have a
material adverse effect on the Company's business, financial
condition and results of operations.
The Company believes the ALERT System may be a Class III
medical device which will require FDA approval prior to
marketing in the United States. The Company received FDA
approval to begin clinical trials under its IDE filing and
has commenced human clinical trials of the ALERT System at
five hospitals in the United States. The Company intends to
expand the trials to include additional leading atrial
fibrillation research centers during 1998 to obtain data
needed to support its application. There can be no
assurance that the clinical trials will demonstrate the
safety and effectiveness of the ALERT System, or that a
subsequently filed application will be accepted by the FDA
for filing or approved.
Following FDA clearance or approval of a device for
commercial distribution, the primary form of government
regulation of medical devices is the FDA's GMP regulations
for medical devices. These regulations, administered by the
FDA, set forth requirements to be observed in the design,
manufacture, packaging, labeling and storage of medical
products for human use, including implementation of a
quality assurance program. These regulations require, among
other things, that manufacturing be controlled by the use of
written procedures and the ability to produce devices that
meet specifications be validated by extensive testing. They
also require inspection and testing of the products produced
and investigation when devices fail to meet specifications.
Failure to adhere to GMP requirements would cause the
products produced to be considered in violation of the FFDCA
and subject to enforcement action. The FDA monitors
compliance with these requirements by requiring
manufacturers to register their manufacturing facilities and
list their products with the FDA, and subjecting the
facilities to periodic FDA inspections. If an FDA inspector
observes conditions that might be violative of GMP
procedures, the manufacturer must correct those conditions
or explain them satisfactorily, or face potential regulatory
action that might include physical removal of the product
from the market. The FDA's Medical Device Reporting
regulations also require that the Company provide
information to the FDA on the occurrence of any deaths or
serious injuries alleged to have been associated with the
use of the Company's products, as well as on any product
malfunction that would likely cause or contribute to a death
or serious injury if the malfunction were to recur. FDA law
and regulations also prohibit a device from being labeled or
promoted for unapproved or uncleared indications. If the
FDA believes that a company is not in compliance with any of
these regulations, it can institute proceedings to detain or
seize products, issue a recall, seek injunctive relief or
assess civil and criminal penalties against such a company.
Failure on the part of the Company or by its suppliers of
critical components to comply with GMP could have a material
adverse effect on the Company's business, financial
condition and results of operations.
International
Sales of medical devices outside of the U.S. are subject to
foreign regulatory requirements that vary widely from
country to country. The time required to obtain approval by
a foreign country may be longer or shorter than that
required for FDA approval, and the requirements may differ.
Many foreign countries generally permit studies involving
humans for medical devices earlier in the product
development cycle than is permitted by regulation in the
U.S. Other countries, such as Japan, have standards similar
to those of the FDA. There can be no assurance that the
Company will obtain regulatory approvals in such countries
or that it will not be required to incur significant costs
in obtaining or maintaining its foreign regulatory
approvals. Delays in the receipt of approvals to market the
Company's products or failure to maintain these approvals
could have a material adverse impact on the Company's
business, financial condition or results of operations.
Foreign countries also often have extensive regulations
regarding safety, manufacturing processes and quality which
differ from those in the United States and must be met in
order to continue sale of a product within the country. The
European Economic Community has instituted the requirement
that all medical products sold into the European Union
comply with the Medical Device Directive (the "MDD"). The
MDD requires that all such products be labeled with the CE
Mark, an international symbol of adherence to quality
assurance standards. The Company has received approval from
its notified body to label its products, including the ALERT
System, with the CE Mark. This designation allowed the
Company to initiate sales of the ALERT System in countries
that are members of the European Union and the European Free
Trade Association. There can be no assurance that the
Company will be successful in maintaining its CE Mark
certification.
In addition to the import requirements of foreign countries,
a company must also comply with U.S. laws governing the
export of FDA regulated products. Devices with a 510(k)
clearance or a PMA generally may be exported without further
FDA authorization, provided certain conditions are met. A
Class III device without a PMA may be exported to a foreign
country for commercial marketing if the exporting firm
obtains an FDA export permit and the following requirements
are satisfied: (i) the device meets the specifications of
the foreign purchaser; (ii) the device is not in conflict
with the laws of the country to which it is intended for
export; (iii) the device is labeled that it is intended for
export; (iv) the device is not sold or offered for sale in
domestic commerce; and (v) the FDA determines that the
exportation of the device is not contrary to the public
health and has the approval of the country to which it is
intended for export.
The FDA Export Reform and Enhancement Act of 1996 has
relaxed the exportation requirements governing devices under
certain circumstances. Pursuant to this law, a device that
has not obtained FDA clearance or approval may be exported
to any country in the world without FDA authorization if the
product complies with the laws of that country and has valid
marketing authorization in one of the following countries:
Australia, Canada, Israel, Japan, New Zealand, Switzerland,
South Africa, the European Union or a country in the
European economic area. The FDA is authorized to add
countries to this list in the future. Among other
restrictions, a device may only be exported under the new
law if it is not adulterated, meets the specifications of
the foreign manufacturer, complies with the laws of the
importing country, is labeled for export, is manufactured in
substantial compliance with GMP regulations or recognized
international standards and is not sold in the U.S.
Other
The Company is also subject to numerous federal, state and
local laws relating to such matters as safe working
conditions, manufacturing practices, environmental
protection, fire hazard control and disposal of hazardous or
potentially hazardous substances. There can be no assurance
that it will not be required to incur significant costs to
comply with such laws and regulations in the future or that
such laws and regulations will not have a materially adverse
effect upon the Company's ability to do business.
Necessity of Product Development and Improvement.
The markets for medical devices in general and
electrophysiology products in particular are characterized
by rapid technological change. The Company's ability to
compete in these markets will depend in part on its ability
to develop new products, improvements to existing products
and processes for cost-effective manufacturing of such
products on a timely basis. Many of the Company's
development efforts will be based on new technologies or new
applications of existing technologies. As a result,
research and development for any potential new product or
product refinement may take longer and require greater
expenditures than expected, and may ultimately prove
unsuccessful. In the event that the Company is successful
in its development efforts, the commercial acceptance of any
new product will depend on the medical community's
acceptance of such product. There can be no assurance that
the Company will be able to develop new products or to
refine existing products that will be commercially accepted.
The Company's inability to successfully develop new
products, to introduce improvements to existing products, to
prove the safety and efficacy of new products or to gain
market acceptance of such products could have a material
adverse impact on the business, financial condition or
results of operations of the Company.
Potential Fluctuations in Operating Results.
Several factors may have a significant impact upon the
Company's revenues, expenses and results of operations from
quarter to quarter and year to year, including but not
limited to a long sales cycle for the EP WorkMate, hospital
budgetary processes with respect to capital equipment
purchases, the success of the ALERT clinical trials, the
success of new product development efforts, the timing of
new product introductions by the Company or its competitors,
development of other treatments for atrial fibrillation and
other heart rhythm disorders, changes in government or third-
party reimbursement policies, foreign currency fluctuations
to the extent the Company has developed significant
international sales, the ability to obtain products to meet
customer demand and increases or fluctuations in sales and
marketing, administrative, manufacturing and research and
development costs. Consequently, quarterly results of
operations should be expected to fluctuate significantly.
Potential Lack of Proprietary Protection.
The Company's success and ability to compete will depend in
part upon its ability to protect its proprietary technology
and other intellectual property. The Company seeks patents
on its important inventions, has acquired patents and has
entered into license agreements to obtain rights under
selected patents of third parties as to technology it
considers important to its business.
There can be no assurance that any of the Company's patent
applications or applications as to which it has acquired
licenses will issue as patents, or that if patents are
issued on the Company's applications or on applications as
to which the Company has acquired licenses, they will be of
sufficient scope and strength to provide meaningful
protection of the Company's technology or any commercial
advantage to the Company, or that such patents will not be
challenged, invalidated or circumvented in the future.
Moreover, there can be no assurance that the Company's
competitors, many of which have substantial resources and
have made substantial investments in competing technologies,
do not presently have or will not seek patents that will
prevent, limit or interfere with the Company's ability to
make, use or sell its products either in the U.S. or in
other countries.
The Company intends to rely on a combination of patents,
trade secrets, copyrights and trademarks to protect its
intellectual property rights. No assurance can be given,
however, that competitors will not independently develop
substantially equivalent proprietary technology, or that the
Company can meaningfully protect its rights in unpatented
proprietary technology.
The Company has not received any notices alleging, and is
not aware of, any infringement by the Company of any patents
or intellectual property of others. However, there can be
no assurance that current and potential competitors and
other third parties have not filed or in the future will not
file applications for patents, or have not received or in
the future will not receive, patents or other proprietary
rights relating to devices, apparatus, materials or
processes used or proposed to be used by the Company.
The Company's software (which is an integrated component in
its EP WorkMate and EP-3 Clinical Stimulator) is not
patented and existing copyright laws offer only limited
practical protection. There can be no assurance that any
legal protection which may be sought and precautions which
may be taken by the Company will be adequate to prevent
misappropriation of the Company's software and trade
secrets.
The medical device industry is characterized by frequent
litigation regarding patent and other intellectual property
rights. While the Company does not believe it is infringing
any patents or other intellectual property rights of others
and has received no notice of infringement, it is possible
that claims in the future may adversely affect the Company's
ability to market certain products. Any such claims, with
or without merit, could be time-consuming, result in costly
litigation and diversion of technical and management
personnel, cause shipment delays or require the Company to
develop alternative technology or to enter into royalty or
licensing agreements. 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. There can be no assurance
that, if required, necessary licenses would be available to
the Company on satisfactory terms or at all, or that the
Company could redesign its products or processes to avoid
alleged infringement. Accordingly, an adverse determination
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, results
of operations and financial condition. Conversely, costly
and time-consuming litigation may be necessary to enforce
the Company's rights under patents, 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.
Royalty Payment Obligations
The Company has entered into several license agreements
which provide for the Company to pay royalties based upon
net sales of products covered by the licensed technology,
including, in some cases, minimum annual royalties. In the
event that the Company does not pay such royalties, the
Company may lose its rights under the license agreements.
The loss of certain of the Company's technology licenses
could have a material adverse impact on the business,
financial condition and results of operations of the
Company.
Significant Competition.
The medical device market, particularly in the area of
electrophysiology products, is highly competitive. The
Company competes with many companies, many of which have
access to significantly greater financial, marketing and
other resources than the Company. Further, the medical
device market is characterized by rapid product development
and technological change. The present or future products of
the Company could be rendered obsolete or uneconomic by
technological advances by one or more of the Company's
present or future competitors or by other therapies. In
particular, the ALERT System is a new technology that must
compete with established treatments for atrial fibrillation
as well as with new treatments currently under development
by other companies. The Company's future success will
depend upon its ability to remain competitive with other
developers of such medical devices and therapies.
Limitations on Third Party Reimbursement.
The Company's products are generally purchased by physicians
or hospitals. In the U.S., third-party payors are then
billed for the healthcare services provided to patients
using those products. These payors include Medicare,
Medicaid and private insurers. Similar reimbursement
arrangements exist in several European countries. Third-
party payors may deny or limit reimbursement for the
Company's existing products and future products such as the
ALERT System. Third-party payors are increasingly
challenging the prices charged for medical products and
services and are putting pressure on medical equipment
suppliers to reduce prices. Furthermore, substantial
uncertainty exists as to third-party reimbursement for
investigational and newly approved products. The U.S.
Health Care Financing Authority has entered into an
interagency agreement with the FDA pursuant to which the FDA
places all IDEs it approves into one of two categories,
"Category A" or "Category B." Category A devices are
innovative devices that are believed to be in Class III (the
class of medical devices subject to the most stringent FDA
review) and are of a type as to which initial questions of
safety and effectiveness have not been resolved and the FDA
is unsure whether the device type can be safe and effective.
They will not be eligible for Medicare reimbursement.
Category B devices include Class III devices of a type as to
which underlying questions of safety and effectiveness have
been resolved or that is known to be capable of being safe
and effective because other devices of that type have been
approved. Category B devices will be eligible for Medicare
reimbursement if the devices are furnished in accordance
with the FDA-approved protocols governing clinical trials
and all other Medicare coverage requirements are met. The
Company believes the ALERT System may be a Class III device.
There can be no assurance that the ALERT System will be
categorized as a Category B device and thus eligible for
Medicare reimbursement during clinical trials. There can be
no assurance that reimbursement will be or remain available
for the Company's products, or for the ALERT System if it is
approved for marketing in the U.S., or even if reimbursement
is available, that payors' reimbursement policies will not
adversely affect the Company's ability to sell its products
on a profitable basis. Mounting concerns about rising
healthcare costs may cause more restrictive coverage and
reimbursement policies to be implemented in the future.
Changes in government and private third-party payors'
policies toward reimbursement for procedures employing the
Company's products in the U.S. or other countries could
have a material adverse effect on the Company's ability to
market its products.
Ability to Manage Sales Growth.
During 1996, the Company began to assemble a domestic direct
sales and marketing force to sell and promote the Company's
products in the U.S. market. Previously, the Company relied
on third-party distributors for all sales efforts. There
can be no assurance that the Company will be able to
continue to attract and retain qualified and capable
individuals who can successfully promote the Company's
products.
The Company is in the process of expanding its marketing
internationally and will continue to rely on third-party
distributors in foreign markets. The Company operates
pursuant to written or oral agreements with third party
distributors which are often terminable by distributors.
There can be no assurance that distributors will actively
and effectively market the Company's products or that the
Company will be able to replace any existing distributors on
advantageous terms if any of its present relationships are
terminated. Further, there can be no assurance that the
Company will be able to make arrangements with new
distributors to access new international markets.
Healthcare Reform.
The healthcare industry is subject to changing political,
economic and regulatory influences that may affect the
procurement practices and the operation of healthcare
facilities. During the past several years, the healthcare
industry has been subject to an increase in governmental
regulation of, among other things, reimbursement rates and
certain capital expenditures. Certain legislators have
introduced legislation or have announced proposals to reform
certain aspects of the U.S. healthcare system, including
proposals that may increase governmental involvement in
healthcare, lower reimbursement rates for both treatment and
capital costs incurred by hospitals, or otherwise change the
operating environment for the Company's customers.
Significant changes in healthcare systems may have a
substantial impact on the manner in which the Company
conducts its business and could have a material adverse
effect on the Company's business, financial condition and
ability to market the Company's products. Changes resulting
from healthcare reform proposals or the enactment thereof
may influence customer purchases and the amount of
reimbursement available from governmental agencies and
private third-party payors for diagnostic and therapeutic
procedures conducted with the Company's products, or could
impose limitations on prices that customers will be able to
pay, or the Company may charge, for its products.
Dependence on Key Personnel; Need to Recruit Additional Key
Management Personnel.
The Company is dependent upon a limited number of key
management and technical personnel, particularly David
Jenkins, Bryan Byrd, Randall Rolston and Joseph Griffin.
The Company's continued growth and long term success will
depend, in part, on its ability to attract and retain highly-
qualified personnel. There can be no assurance that the
Company will be able to attract and retain such personnel.
The Company competes for such personnel with other medical
device companies, academic institutions and other
organizations. The loss of any key personnel, the inability
to hire or retain qualified personnel or the failure of such
personnel to function effectively as a management group
could have a material adverse effect on the Company's
business, results of operations and financial condition.
Product Liability and Insurance.
The manufacture and sale of the Company's products involves
the risk of product liability claims. The Company's
products are highly complex and some are, or will be, used
in relatively new medical procedures and in situations where
there is a potential risk of serious injury, adverse side
effects or death. Misuse or reuse of catheters may increase
the risk of product liability claims. The Company currently
maintains product liability insurance with coverage limits
of $5,000,000 per occurrence and $5,000,000 in the aggregate
per year; however, there can be no assurance that this
coverage will be adequate. Such insurance is expensive and
may not be available in the future on acceptable terms if at
all. A successful claim against or settlement by the
Company in excess of its insurance coverage or the Company's
inability to maintain insurance in the future could have a
material adverse effect on the Company's business, results
of operations and financial condition.
Limited Manufacturing Experience; Dependence on Suppliers
To date, the Company's manufacturing activities have been
limited. The Company must manufacture, or contract for the
manufacturing of, products in commercial quantities in
compliance with regulatory requirements and at acceptable
costs. The Company currently manufactures substantially all
of its catheter products, including the ALERT Catheter.
There can be no assurance that the Company will be able to
manufacture catheters or other products with sufficient
processes and in quantities necessary to achieve and sustain
profitability. In addition, the Company has expanded its
catheter manufacturing facilities and hired and trained
additional personnel. The Company has no experience in
large-scale manufacturing and there can be no assurance that
the Company will be successful in manufacturing catheter
products in significant volume.
The Company relies on outside sources for the manufacture of
critical components of the ALERT Companion, EP WorkMate, EP-
3 Clinical Stimulator and the TeleTrace III Receiver. All
components are manufactured in conformance with the
Company's specifications. Any interruption in the supply
from its suppliers would have a material adverse effect on
the Company's ability to deliver its products until
acceptable arrangements can be made with a qualified
alternative source of supply. There can be no assurance
that the Company would be able to reach an acceptable
arrangement with an alternative source of supply at
acceptable prices and adequate quality levels on a timely
basis. If the Company were unable to do so, such an
interruption would have a material adverse effect on the
Company's business, results of operations and financial
condition.
Risks Associated With International Operations.
Approximately 35% of the Company's revenues from product
sales for 1997 were derived from sales of its products
outside the U.S. Since international revenues are expected
to continue to represent a significant percentage of total
revenues, the Company expects to continue to increase its
operations outside of the United States. As such, the
Company will continue to be subject to fluctuations in
currency exchange rates and other risks of foreign
operations, including tariff regulations and export license
requirements, unexpected changes in regulatory requirements,
longer periods to collect accounts receivable, potentially
inadequate protection of intellectual property rights, local
taxes, restrictions on repatriation of earnings and economic
and political instability. There can be no assurance that
such factors will not have a material adverse effect on the
Company's ability to maintain and expand profitable foreign
sales and, consequently, on the Company's business, results
of operations and financial condition.
Possible Volatility of Stock Price.
The market price of shares of the Company's Common Stock,
like that of the common stock of many medical products high
technology companies, has, in the past, been, and is likely
in the future to continue to be, highly volatile. The
Company believes that factors such as quarterly fluctuations
in financial results, announcements of new developments
relating to cardiac care diagnosis and treatment therapies
and developments in third-party reimbursement policy and in
the medical device industry could contribute to the
volatility of the price of its Common Stock, causing it to
fluctuate significantly. These factors, as well as general
economic conditions, such as recessions or high interest
rates, or other events unrelated to the Company or its
products, may adversely affect the market price of the
Common Stock.
Transactions With Affiliates and Potential Conflicts.
Anthony Varrichio, a director and shareholder of the
Company, is an officer, director and shareholder of
HiTronics Designs, Inc. ("HDI"). HDI has sold rights to
various products to the Company, performs research and
development services for the Company and currently
manufactures the EP-3 Stimulator. While the Company
believes its arrangements with HDI have been, and will
continue to be, on terms no less favorable to the Company
than it could obtain from third parties, there can be no
assurance that all arrangements between the Company and HDI
will be as favorable to the Company as they would be in the
absence of its relationships with affiliates of HDI.
The Company purchases certain components for its products
from Mortara Instrument, Inc. ("Mortara Instrument"). Dr.
David W. Mortara, a director and shareholder of the Company,
is also a Director and shareholder of Mortara Instrument.
While the Company believes its arrangements with Mortara
Instrument have been, and will continue to be, on terms no
less favorable to the Company than it could obtain from
third parties, there can be no assurance that all
arrangements between the Company and Mortara Instrument will
be as favorable to the Company as they would be in the
absence of its relationships with affiliates of Mortara
Instrument.
Concentration of Ownership.
As of August 7, 1998, the Company's seven directors and
executive officers and their affiliates beneficially owned
an aggregate of approximately 17.8% of the Company's
outstanding Common Stock, including unexercised vested stock
options. Additionally, six institutional investors who
purchased shares in the Company's private placement on April
9, 1998 own an aggregate of approximately 23% of the
Company's outstanding Common Stock as of August 7, 1998. As
a result, these shareholders, acting together, could have
significant influence over all matters requiring approval by
the shareholders of the Company. This level of ownership
could have an affect on a change in control of the Company
and may adversely affect the voting and other rights of
other holders of Common Stock.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
EchoCath
On October 7, 1997, the Company filed a lawsuit against
EchoCath in the United States District Court for the
District of New Jersey alleging, among other things, that
EchoCath made fraudulent misrepresentations and omissions in
connection with the prior sale of $1,400,000 of its
preferred stock to the Company.
EchoCath has filed an answer to the complaint, denying the
allegations and asserting a counterclaim against the Company
seeking its costs and expenses in the action. EchoCath also
filed a motion to dismiss the complaint. In December, 1997,
EP MedSystems filed an amended complaint and EchoCath filed
an answer thereto again denying the allegations and
asserting a counterclaim seeking reimbursement of its costs
and expenses in the action. EchoCath also filed a motion to
dismiss the amended complaint. As of August 7, 1998, the
Court has not issued a ruling on any of the motions. The
Company believes that EchoCath's counterclaim and request
for reimbursement of its costs and expenses is without
merit. As a result, the Company has not accrued for such
costs and expenses at June 30, 1998. In the opinion of
management, the ultimate resolution of the counterclaim will
not have a material adverse impact of the Company's
financial condition or results of operations. The Company
cannot determine the outcome of the EchoCath litigation at
this time.
Item 2. Changes in Securities
On April 9, 1998, the Company sold and issued 2,250,000
shares of its common stock to six institutional investors
(the "Investors") at a price of $2.25 per share. The gross
proceeds of the offering were $5,062,500, before deducting
offering expenses of approximately $403,000. The Company
intends to use the net proceeds from the sale of the shares
for working capital purposes. The Company granted the
Investors certain registration rights with respect to the
shares pursuant to a Registration Rights Agreement. The
Company filed a shelf registration statement on Form S-3 on
April 29, 1998 covering all of the Shares. On July 6, 1998,
the Registration Statement was declared effective by the
Securities and Exchange Commission.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
The following exhibits will be filed as part
of this Form 10-QSB:
Exhibit 3.1 Amended and Restated Certificate
of Incorporation (1)
Exhibit 3.2 Bylaws, as amended (1)
Exhibit 27 Financial Data Schedule (SEC filing only)
(1) Previously filed and incorporated by reference to the
exhibit of the same number filed with the Company's
Form SB-2 Registration Statement (Registration No. 333-3642).
(b) Reports on Form 8-K
The Company filed a Report on Form 8-K on April 14, 1998
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act,
the Registrant has duly caused this report to be signed on
its behalf by the undersigned thereunto duly authorized.
EP MEDSYSTEMS, INC.
(Registrant)
August 7, 1998 By: /s/ David A. Jenkins
---------------------
David A. Jenkins
President and Chief Executive Officer
August 7, 1998 By: /s/ James J. Caruso
--------------------
James J. Caruso
Vice President and Chief Financial Officer
(Principal Financial and Accounting Officer)
EXHIBIT INDEX
Exhibit Method of
Number Description of Exhibit Filing
- ----------- ---------------------- ---------
Exhibit 3.1 Amended and Restated Certificate
of Incorporation (1)
Exhibit 3.2 Bylaws, as amended (1)
Exhibit 27 Financial Data Schedule EDGAR
(SEC filing only)
(1) Previously filed and incorporated by reference
to the exhibit of the same number filed with the
Company's Form SB-2 Registration Statement
(Registration No. 333-3642).
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THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION
EXTRACTED FROM THE UNAUDITED CONSOLIDATED STATEMENT OF
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PERIOD ENDED JUNE 30, 1998 FILED WITH THE SECURITIES AND
EXCHANGE COMMISSION ON FORM 10-QSB AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. IN
ACCORDANCE WITH STATEMENT OF FINANCIAL ACCOUNTING STANDARDS
NO. 128, "EARNINGS PER SHARE," BASIC EARNINGS PER SHARE AND
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