<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the fiscal year ended December 31, 1998.
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: 000-28460
Fusion Medical Technologies, Inc.
(Exact name of registrant as specified in its charter)
Delaware 96662349
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
1615 Plymouth Street, Mountain View, California 94043
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (650) 903-4000
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock,
$.001 par value
Indicate by check mark whether the Registrant: (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter
period that the Registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days. Yes [X]
No [ ]
Indicate by check mark if disclosures of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be
contained, to the best of Registrant's knowledge, in definitive proxy or
information statements incorporated by reference in part III of this Form
10-K or any amendment to this Form 10-K. [X]
The aggregate market value of voting stock held by non-affiliates of
the Registrant, based upon the closing sales price of the Common Stock on
March 24, 1999 as reported on the Nasdaq National Market, was approximately
$13,222,000. Shares of Common Stock held by each executive officer and
director and by each person who owns 5% or more of the outstanding Common
Stock have been excluded in that such persons may be deemed to be
affiliates. The determination of affiliate status is not necessarily a
conclusive determination for other purposes.
As of March 24, 1999, the Registrant had 7,217,886 shares of Common
Stock outstanding.
____________________________
DOCUMENTS INCORPORATED BY REFERENCE
The information called for in Part III is incorporated by reference from the
Proxy Statement relating to the Annual Meeting of Stockholders of the
Registrant to be held on May 20, 1999.
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Fusion Medical Technologies, Inc.
INDEX
Page
Number
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PART
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Item 1. Business.................................................. 3
Item 2. Properties................................................ 12
Item 3. Legal Proceedings......................................... 13
Item 4. Submission of Matters to a Vote of Security Holders....... 13
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters....................................... 15
Item 6. Selected Financial Data................................... 16
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations....................... 17
Item 7A. Quantitative and Qualitative Disclosures about Market Risk 20
Item 8. Financial Statements and Supplementary Data............... 21
Item 9. Changes In and Disagreements with Accountants on
Accounting and Financial Disclosure....................... 21
PART III
Item 10. Directors and Executive Officers of the Registrants....... 22
Item 11. Executive Compensation.................................... 22
Item 12. Security Ownership of Certain Beneficial Owners
and Management............................................ 22
Item 13. Certain Relationships and Related Transactions............ 22
PART IV
Item 14. Exhibits, Financial Statement Schedules................... 23
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PART I
Item 1. Business
The Business section and other parts of this Report on Form 10-K
contain forward-looking statements that involve risks and uncertainties.
The Company's actual results may differ significantly from the results
discussed in the forward-looking statements. Factors that might cause such
a difference include, but are not limited, those discussed in the section
entitled "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Factors Affecting Future Operating Results and
Market Price of Common Stock" commencing on page 17.
The Company
We are developing and commercializing proprietary surgical hemostatic
products. Hemostatic products are devices, such as sutures, and topical
agents, such as sponges, used to stop bleeding. Our lead product, FloSeal
Matrix Hemostatic Sealant, combines a gel derived from collagen with thrombin,
a potent clotting agent, to control surgical bleeding. We believe that the
innovative physical structure of FloSeal provides certain performance
advantages over existing surgical hemostatic products, such as fast and
effective bleeding control even in challenging applications, quick and easy
onsite preparation, excellent handling and total absorption by the body within
six to eight weeks.
In November 1998, we completed enrollment in a 309-patient U.S. pivotal
clinical trial for FloSeal in patients undergoing cardiac, vascular and
spinal surgery. The primary endpoint of the pivotal trial was to show that
FloSeal stopped bleeding within 10 minutes of application at least as
frequently as the Gelfoam plus thrombin control. The trial showed that
FloSeal stopped patients' bleeding within 10 minutes in 96 % of all patients
treated with FloSeal, whereas Gelfoam plus thrombin stopped patients'
bleeding within 10 minutes in 77 % of all patients in the control group.
The trial also showed that FloSeal stopped patients' bleeding at least two
times more quickly than Gelfoam plus thrombin. We completed submission of
our full pre-market approval application for FloSeal in February 1999.
Assuming timely acceptance of the application and approval by the FDA, which
cannot be assured, we expect to commercialize the product in the United
States in early 2000. We have filed for European regulatory clearance and
expect to receive required certification by mid-1999 and to commercialize
FloSeal in Europe shortly thereafter.
We are also developing additional products designed to stop bleeding
based upon our core proprietary technology. Such products include SinuSeal,
for use by ear, nose and throat surgeons, and vascular access site closure
device, which we call VASC, for use in the closure of femoral artery
punctures following vascular interventional procedures. We expect to file a
premarket approval application supplement for SinuSeal shortly after
obtaining FloSeal approval. We expect to begin clinical trials for VASC in
late 1999.
Background
Surgical wounds must be effectively closed and bleeding controlled to
ensure the success of surgical procedures. Failure to close surgical wounds
completely can result in serious or possibly life-threatening complications,
including blood loss, tissue damage, infection and excessive scarring. A
variety of hemostats have been developed to help surgeons control
intraoperative bleeding, including devices such as sutures and staples, as
well as topical hemostatic products, such as sponges, like Gelfoam, and
commercial fibrin glues. Topical hemostatic products are a popular means of
supplementing sutures and staples in applications where sutures and staples
are not entirely effective in controlling bleeding.
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Sutures and Staples
Historically, sutures have been the most common type of product used
for closing surgical wounds. Sutures mechanically bring together the tissue
on either side of a wound to facilitate healing. In the 1960s, surgical
stapling was introduced to reduce the time-consuming and cumbersome aspects
of suturing. Surgical stapling involves drawing together tissue through the
application of staples along the line of incision using a manually operated
device. Industry sources estimate that the annual worldwide market for
sutures and staples is approximately $2.3 billion.
Sutures and staples have a number of limitations. In particular, they
do not have inherent sealing capabilities and thus sometime do not eliminate
bleeding along suture lines, especially when connecting blood vessels. The
physcial structure of sutures and staples makes them often ineffective in
stopping bleeding associated with fragile tissue and organ wounds because
such sites often lack the structural integrity required to hold such devices
in place. Similarly, sutures and staples, because of their size limitations
and the mechanics of applying them to the site of a wound, are difficult or
impossible to use in certain types of surgeries where access to the surgical
site is limited, such as minimally invasive procedures.
Topical Hemostats
Topical hemostats provide the surgeon with additional means for
controlling bleeding in procedures in which sutures and staples are not
entirely effective. Numerous materials have been used to achieve hemostasis
in surgical procedures, including sponges, like Gelfoam, thrombin, fibrin
glues and other types of surgical sealants and adhesives. While existing
topical hemostats are a popular complement to sutures and staples, they too
have several limitations, including the following:
* Limited Effectiveness. Topical hemostats do not always conform to a
bleeding site and can take a long time or fail to stop bleeding. For
example, fibrin glues do not adhere strongly to wet tissue and have little
impact on actively bleeding lesions. Gelfoam plus thrombin can take several
minutes to stop even moderate bleeding.
* Lengthy and Complex Preparation. Preparation of some topical
hemostats can take a long time, require complicated steps or necessitate
special equipment. For example, fibrin glues may take up to 40 minutes to
prepare, and thus must often be mixed prior to surgery, whether or not they
are actually used in the procedure. Certain fibrin glues and adhesives also
require special equipment for preparation, such as heaters or centrifuges.
* Difficult to Use. Many topical hemostats products can be awkward to
use or difficult to place precisely. Sponges, such as Gelfoam, often
require sustained manual pressure to be effective. In addition, topical
hemostats can impede a surgeon's vision of and access to the surgical site.
Both these factors can significantly delay the completion of the surgical
procedure, especially where continued visualization is important, such as in
spinal and sinus surgeries, and in certain minimally invasive surgeries.
* Rebleeding May Occur After Application. Topical hemostats are often
removed prior to closing the wound. Similar to when a gauze bandage is
pulled away from a scab, rebleeding can occur upon removal because these
materials become incorporated into the clot itself.
The limitations of current products have been particularly pronounced
in procedures involving suture lines in blood vessels, such as coronary
artery bypass grafts, and in patients with compromised coagulation. Despite
these limitations, topical hemostats have achieved significant sales to
date.
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We estimate that annual sales of topical hemostats, including Gelfoam
plus thrombin, exceeded $100 million in 1997. The sales were almost
entirely within the United States and did not include the sale of fibrin
glue because the FDA did not approve fibrin glue until May 1998. In 1997,
international sales of fibrin glue, however, were approximately $270
million, of which we believe that over 60% were attributable to bleeding
control.
The Benefits of FloSeal
Our lead product, FloSeal, a proprietary gel derived from collagen
combined with thrombin, is designed to complement sutures and staples and to
overcome limitations of other existing products used to control bleeding,
including topical hemostats, fibrin glues and other types of surgical
sealants and adhesives. Our U.S. pivotal clinical trial demonstrated the
effectiveness of FloSeal in stopping bleeding in cardiac, vascular and
spinal surgeries. We believe that FloSeal offers the following key
performance advantages:
* Stops Bleeding Rapidly and Effectively. FloSeal's proprietary
physical structure rapidly induces stable clot formation and seals the wound
site, even in challenging surgical situations, including very wet tissue and
heavily bleeding sites. For example, in cases of heavy bleeding experienced
by some cardiac patients in our pivotal trial, FloSeal stopped bleeding
within three minutes in 77% of patients treated.
* Stops Various Types of Bleeding. A subanalysis in our clinical
trial demonstrated that FloSeal stopped all degrees of bleeding encountered,
ranging from lighter "oozing" to heavier "flowing" and "spurting". We
believe that FloSeal will be the first product to effectively control
substantially all of these types of bleeding. For example, a secondary
endpoint analysis in our pivotal clinical trial showed that in cases of
heavy bleeding experienced by some cardiac patients FloSeal stopped bleeding
within three minutes in 77% of patients treated with FloSeal, as compared to
0% for those treated with Gelfoam plus thrombin. In addition, we believe
that FloSeal will address bleeding associated with fragile tissues, diffuse
organ bleeding and high pressure arterial bleeding, including bleeding in
patients being treated with anti-coagulant drugs. Data from the clinical
trial is included below under the subsection entitled "Fusion's Products."
* Easy to Prepare. FloSeal can be prepared within two minutes and can
be used for up to two hours after preparation. No special equipment is
required during preparation, and all materials are contained in one simple
package.
* Easy to Use. FloSeal is easy to apply using a standard disposable
syringe and has a gel-like consistency which rapidly conforms to the
application site. The surgeon can either remove any excess material without
difficulty by gentle irrigation of the treated area or leave it to be
absorbed by the body. Since only minimal training is necessary, we believe
that surgeons will quickly learn how to use the product.
* Broad Applicability. Under our current premarket approval
application, we are pursuing regulatory approval of FloSeal for a broad
range of surgical specialties. Our U.S. pivotal clinical trial demonstrated
the effectiveness of FloSeal in patients undergoing cardiac, vascular and
spinal surgeries. In addition, FloSeal has been used outside the United
States in several other surgical specialties, including nasal and sinus,
gynecologic and general surgery.
* Biocompatible and Safe. FloSeal is biocompatible and fully absorbed
by the body within approximately six to eight weeks, consistent with the
body's normal healing process. Since FloSeal does not have to be removed
after application, rebleeding is unlikely to occur. The materials used in
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FloSeal, collagen and thrombin, are naturally occurring materials
that have a safe history of use in humans.
Fusion's Products
The technology underlying FloSeal and our other products currently
under development consists of a mixture of a proprietary gel derived
collagen and thrombin, a blood clotting agent. When mixed, the thrombin
coats the gel, and they act synergistically to stop bleeding. The granular
nature of the gel allows it to conform to irregular wound geometries. We
have engineered the collagen granules to swell upon contact with the blood.
By swelling, the granules restrict blood flow. Blood percolates through the
spaces between the granules and is exposed to high concentrations of
thrombin, thereby accelerating formation of a mechanically stable clot.
FloSeal
FloSeal, our lead product, is designed to control bleeding in various
types of surgery and has been tested for safety and effectiveness in a
pivotal U.S. clinical trial involving patients undergoing cardiac, vascular
and spinal surgery. In February 1999, we completed submission of our full
premarket approval application for FloSeal.
Clinical Development. In November 1998, we completed enrollment in a
ten-center, randomized pivotal clinical trial of FloSeal involving 309
patients who underwent cardiac, vascular or spinal surgery. One hundred
fifty-six patients were treated with FloSeal while 153 patients were treated
with Gelfoam plus thrombin. The degree of intraoperative bleeding ranged
from lighter "oozing" to heavier "flowing" and "spurting," with nearly one-
third (32%) of the patients experiencing bleeding in the heavier, more
difficult to control ranges.
The primary endpoint of the pivotal trial was to show that FloSeal, in
the combined surgical procedures, stopped bleeding within 10 minutes of
application at least as frequently as the Gelfoam plus thrombin control.
FloSeal stopped bleeding within 10 minutes in 96% of the 156 patients
treated with FloSeal, whereas Gelofoam plus thrombin stopped bleeding within
ten minutes in 77% of the 153 patients in the control group. In addition,
FloSeal a subset analysis demonstrated that FloSeal stopped bleeding at
least two times faster than Gelfoam plus thrombin. These results were
consistent across all tested surgical specialties and bleeding classes, from
simple oozing to active arterial spurting.
Ninety-three patients underwent cardiac surgery, the most difficult
group to treat due to the use of cardiopulmonary bypass and high levels of
anti-coagulant drugs. FloSeal stopped bleeding within ten minutes in 94% of
the 48 patients treated with FloSeal, whereas Gelfoam plus thrombin stopped
bleeding within ten minutes in 60% of the 45 patients in the control group.
In cases of heavy cardiac bleeding, FloSeal stopped bleeding within three
minutes in 77% of patients, as compared to 0% for those treated with Gelfoam
plus thrombin.
In the trial, 89 patients underwent vascular surgery. FloSeal stopped
bleeding within ten minutes in 93% of the 43 patients treated with FloSeal,
versus 76% for the 46 control group patients. One hundred twenty-seven
patients underwent spinal surgery. FloSeal stopped bleeding within ten
minutes in 98% of the 65 patients treated with FloSeal, versus 90% for the
62 control group patients. Detailed results for the vascular and spinal
arms of the pivotal trial have not yet been published, but we anticipate
publication in a peer-reviewed medical journal in the future.
The following chart summarizes certain data with respect to the trial
results:
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Summary Clinical Trial Results
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Hemostasis Hemostasis within
Patient Category within 10 minutes 3 minutes
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Gelfoam Gelfoam
FloSeal +Thrombin FloSeal +Thrombin
------- --------- --------- ---------
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All patients (1) 96% 77% 84% 47%
All vascular(3) 93% 76% * *
All spinal(4) 98% 90% * *
All cardiac patients(5) 94% 60% 69% 22%
Cardiac: "Oozing" 94% 66% 66% 29%
Cardiac: "Flowing" or "Spurting" 92% 40% 77% 0%
</TABLE>
* Data not yet released and subject to publication in a peer reviewed
medical journal.
The primary endpoint of the trial was achieved. In addition, subset
analysis of secondary endpoints showed statistically significant and
clinically meaningful benefit of FloSeal relative to Gelfoam plus thrombin.
We completed submission of our full premarket approval application for
FloSeal in February 1999. Assuming timely acceptance of the application and
approval by the FDA, which cannot be assured, we expect to commercialize the
product in the United States in early 2000. We will seek the labeling
indication, "for surgical procedures (other than in neurosurgical,
ophthalmic and urological) as an adjunct to hemostasis when control of
bleeding by ligature or conventional procedures is ineffective or
impractical."
We have filed for European regulatory approval and expect to receive
such approval by mid-1999. We intend to commercialize FloSeal in EU member
countries shortly thereafter with a labeling indication, "for surgical
procedures as an adjunct to homeostasis when control of bleeding by ligature
or conventional procedures is ineffective or impractical."
Target Market. We expect our domestic and international
commercialization efforts to focus initially on those surgeons who perform
cardiac, vascular and spinal procedures, the specialties studied in the
clinical trial. There are approximately 500,000 cardiac surgeries, 380,000
vascular surgeries and 400,000 spinal surgeries performed annually in the
United States. We believe that FloSeal could be used in approximately 15%
of cardiac surgeries, 50% of vascular surgeries and 50% of spinal surgeries.
We believe that the potential market for FloSeal outside of the United
States with respect to each of those surgical specialties is roughly equal
to the corresponding market within the United States. We also believe that
FloSeal will be a useful hemostat for other types of surgery, including
orthopedic, trauma, gynecologic, plastic and other general surgery.
SinuSeal
We are developing SinuSeal, an additional application for FloSeal for
use by ear, nose and throat surgeons to control bleeding. SinuSeal is
delivered through a standard disposable syringe with a sinus applicator tip,
and consists of the same FloSeal gel tested in the clinical trial described
above. At the close sinus surgeries, conventional packing materials, such
as gauze strips or plugs are often inserted into the nose and left in place
for several days. Removal of these packing materials requires a return
visit to the surgeon's office, is generally painful and often results in re-
bleeding. SinuSeal, however, is absorbed by the body and consequently does
not require removal. We believe that SinuSeal will eliminate much of the
discomfort, pain and cost associated with nasal
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packing.
In 1998, we completed a three-center evaluation of 18 patients in
Canada in which SinuSeal controlled intra-operative bleeding during sinus
surgery in 100% of 29 application sites. We intend to file a premarket
approval application supplement for SinuSeal after receiving FDA approval
for FloSeal. We may be required to perform a clinical trial prior to
submitting such a supplement for SinuSeal.
We expect our domestic and international commercialization efforts to
focus on ear, nose and throat surgeons. Industry sources estimate that
approximately 400,000 sinus surgeries are performed annually in the United
States. In addition, we have performed technical and clinical studies which
suggest that SinuSeal can be used to control bleeding associated with
tonsillectomies and adenoidectomies. Industry sources estimate there are
approximately 530,000 of these procedures performed annually in the United
States. We estimate that approximately one-third of these nose and throat
procedures could benefit from the use of SinuSeal.
VASC
We are also developing VASC, a vascular access site closure device, as
an additional application of our FloSeal technology. VASC is designed to be
used by interventionalists to seal arterial punctures following vascular
interventional procedures, such as balloon angioplasty or angiography. VASC
incorporates a proprietary catheter-based applicator to easily and safely
deliver to the site of the arterial puncture the same FloSeal gel tested in
the pivotal clinical trial described above. Currently available suturing
devices and collagen plugs can be costly, difficult to use and may require
extensive surgeon training prior to use. We are designing VASC to address
these limitations.
We have conducted preliminary pre-clinical studies examining the safety
and effectiveness of VASC. We plan to begin a pilot clinical trial in late
1999 and a pivotal clinical trial in 2000. Industry sources estimate that
approximately 3.3 million arterial puncture closure procedures will be
performed in the United States in 1999.
The statements we have made above regarding the anticipated
commercialization of our products are forward looking. We are not permitted
to commercialize any of the above products unless and until we receive
necessary regulatory approvals.
Research and Development
Our research and development activities are focused on enhancing and
expanding the applications of the FloSeal technology platform. We have
established an active dialogue with surgeons to ascertain the most desirable
additional applications and enhancements for the FloSeal technology.
Current products at the research stage include a sponge form of FloSeal for
field dressing and other emergency applications and an absorbable spinal
anti-adhesion agent.
Sales and Marketing
We are engaged in preliminary discussions with prospective distribution
partners to provide sales, marketing and distribution functions in both the
United States and international markets once regulatory approvals are
received. We initially intend to focus our domestic and international sales
and marketing efforts on developing surgeon acceptance of FloSeal for
application in procedures including cardiac, vascular and spinal surgeries.
We are in discussions with multinational surgical companies with
capabilities in various surgical specialties. We are also in discussions
with independent distributors, particularly in international markets in
order to capitalize on their strong capabilities in local markets. Fusion
intends to select distribution partners based on demonstrated sales and
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marketing expertise, focused positioning of FloSeal within a portfolio of
other surgical products and favorable economic terms.
Manufacturing
Our manufacturing operations are located in our 13,200 square foot
headquarters in Mountain View, California. We are currently expanding our
manufacturing capacity within this facility, and we believe that such
additional capacity will be sufficient through 2000. We expect to complete
the expansion of our expansion of our manufacturing facility by the end of
the second quarter of 1999. In conjunction with this expansion, we
anticipate spending a total of approximately $250,000 for the purchase of
production equipment and $275,000 for the facilities' upgrade.
Our manufacturing facilities are subject to Quality System Regulations,
international quality standards and other regulatory requirements.
Difficulties we encounter in manufacturing scale-up or our failure to
implement and maintain our facilities in accordance with quality standards
or other regulatory requirements could entail a delay or termination of
production, which would materially and adversely affect our business. We
have received a manufacturing license from the California Department of
Health Services. However, we have no experience manufacturing our products
in the volumes necessary to achieve significant commercial sales, and there
can be no assurance that such manufacturing can be achieved at a
commercially reasonable cost. If we encounter any manufacturing
difficulties involving capacity constraints, production yields, quality
control and assurance, supplies of components or shortages of qualified
personnel our business could be materially and adversely affected. There
can be no assurance that we will be able to manufacture sufficient
quantities of products to meet supply requirements for commercialization and
continued clinical trials in the United States and abroad.
Fusion acquires raw materials and product components from suppliers,
processes the raw materials internally to the appropriate form and
composition, packages kits, arranges for sterilization by a third party and
then packages the products for shipment. We acquire some raw materials and
components, such as bovine hides, thrombin and sterilization services, all
of which are essential components of FloSeal, from single suppliers.
Generally, we believes that there are additional and alternative suppliers
of equivalent materials available and that we could supplement and
substitute suppliers with minimal business and regulatory consequences.
However, there can be no assurance that such supplies will be available or
that such substitutions could be made in a timely manner, on commercially
reasonable terms, if at all. In the event that any of our current single
source suppliers become unable to meet our needs or we lose them as a supply
source for some other reason, our business could be disrupted and materially
and adversely affected.
Competition
The market for topical hemostats is highly competitive. A wide variety
of existing products and products under development may compete directly
with FloSeal and our other products under development. Many existing and
potential competitors have greater name recognition, broader product lines,
greater distribution capabilities, substantially greater capital resources
and larger marketing research and development staffs and facilities. Broad
product lines may give competitors the ability to negotiate exclusive, long-
term supply contracts and, as a result, the ability to offer comprehensive
pricing for their products. With a broader product line, competitors may
also have a significant advantage in marketing competing products to group
purchasing organizations and other managed care organizations that
increasingly seek to reduce costs through centralized purchasing. There can
be no assurance that we will be able to successfully compete against
competitors or potential competitors. In addition, we cannot be certain
that current competitors or other companies will not succeed in developing
technologies and products that are more effective or that would render our
technology or products obsolete or unable to compete.
Patents and Proprietary Rights
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Our ability to compete effectively depends in part on our ability to
develop and maintain the proprietary aspects of its technology. We have
five pending U.S. patent applications relating to FloSeal and other products
under development, but no issued patents. We also have filed two
corresponding patent applications with the European Patent and Trademark
Commission and may file additional patent applications outside the United
States at a later date. In addition, we have in-licensed technology that we
believe strengthens our patent portfolio.
Our patent applications may not result in issued patents. We have
conducted searches to determine whether our patent applications interfere
with existing patents. Based upon these searches, we believe that our
patent applications and products do not interfere with existing patents.
However, we cannot be sure that relevant patents have not been issued that
could block our ability to obtain patents or commercialize our products.
Moreover, since U.S. patent applications are not a matter of public record,
a patent application could currently be on file that would stand in the way
of us obtaining an issued patent. A number of medical device and other
companies, universities and research institutions have filed patent
applications or have issued patents relating to compositions and methods for
surgical sealing, which could materially impact our operations. Obtaining
foreign patents may be more difficult than obtaining domestic patents
because of differences in patent laws. Protection provided by foreign
patents, if obtained, and any other foreign intellectual property protection
may be weaker than that provided domestically.
The medical device industry is characterized by extensive litigation
regarding patents and other intellectual property rights. Many medical
device companies have employed intellectual property litigation as a way to
gain a competitive advantage. There is no assurance that we will not be
sued in the future challenging our patent rights or claiming infringement on
patents held by third parties. An adverse determination in litigation or
interference proceedings to which we may become a party could subject us to
significant liabilities to third parties, require us to license disputed
rights from third parties or require us to cease using the disputed
technology. Although patent and intellectual property disputes in the
medical device area are often settled through licensing or similar
arrangements, costs associated with these arrangements may be substantial
and could include ongoing royalties. Furthermore, we cannot be certain that
the necessary licenses would be available to us on satisfactory terms, if at
all.
Government Regulation
United States
Our proposed products and research and development activities are
subject to regulation by the FDA and other regulatory bodies. FDA
regulations, govern, among other things, the following activities:
* Product development,
* Product testing,
* Product labeling,
* Product storage,
* Premarket clearance or approval,
* Advertising and promotion, and
* Product sales and distribution.
Product development and approval can take a number of years and can be
expensive and uncertain.
In the United States, medical devices are classified on the basis of
controls deemed necessary to reasonably
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ensure the safety and effectiveness of the device. Class I devices are
subject to general controls. These controls include labeling, premarket
notification and adherence to the FDA's Quality System regulations. Class
II devices are subject to general and special controls. Special controls
include performance standards, postmarket surveillance, patient registries,
and FDA guidelines. Class III devices are those which must receive premarket
approval by the FDA to ensure their safety and effectiveness.
Premarket notification clearance must be obtained for class I and II
devices and class III devices when the FDA has not called for premarket
approval. A premarket approval application is required for most class III
devices. A premarket approval application must be supported by valid
scientific evidence to demonstrate the safety and effectiveness of the
device. The application typically includes:
* Results of bench and laboratory tests, animal studies, and clinical
studies
* A complete description of the device and its components,
* A detailed description of the methods, facilities and controls used
to manufacture the device, and
* Proposed labeling, advertising literature.
The approval process can be expensive, uncertain and lengthy. A number
of devices for which FDA approval has been sought by other companies have
never been approved for marketing.
FDA Review Process. When the FDA receives a premarket approval
application, it will determine whether the application is complete enough
for review. If the application is complete, the application is filed and
the FDA begins an in-depth review. Currently, FDA review time is
approximately 12 months, but timing is uncertain and the process may take
significantly longer. The review time is often extended by the FDA asking
for more information or clarification of information already provided in the
submission. An advisory committee may be convened to review and evaluate
the application and provide a recommendation to the FDA as to whether the
device should be approved. The FDA gives substantial weight to the
recommendation but is not bound by it. Before the approval, FDA generally
will conduct an inspection of the manufacturer's facilities to ensure
compliance with applicable Quality System requirements. We have not yet
undergone an FDA Quality System inspection.
The FDA may issue either an approval letter or an approvable letter. An
approvable letter will contain a number of conditions that must be met in
order to secure final approval. When and if those conditions are met, an
approval letter will be issued. The FDA can also deny approval or issue a
"complete action" letter that will detail the deficiencies.
The FDA may determine that additional clinical trials are necessary.
This may delay approval for one or more years while additional clinical
trials are conducted and submitted. Any additional information must be
submitted in an amendment to the application. Certain modifications to the
device, labeling or manufacturing process may require premarket approval or
approval of a supplement to a premarket approval. Premarket approval
supplements often require the submission of information only needed to
support the proposed change.
Clinical Studies. If clinical trials involve a "significant risk,"
the must file an Investigational Device Exemption application prior to
commencing the study. The FDA must approve the clinical trial before the
study may commence. If the device presents a "non-significant risk" to the
patient, the clinical trial may commence without FDA approval. Institutional
Review Board approval must be obtained for all studies. Submission of an
Investigational Device Exemption application does not give assurance that
the FDA will approve the application. If the application is approved,
there can be no assurance that FDA will determine that data derived from the
studies will support the safety and efficacy of the device. An
Investigational Device Exemption supplement must be approved by the FDA
before a sponsor or investigator may make a significant change to the
investigational plan.
The FDA has determined that FloSeal will be regulated as a class III
medical device. Premarket approval
11
<PAGE> 11
must be obtained before FloSeal can be marketed in the United States. Fusion
has received approval of an Investigational Device Exemption to study
FloSeal in cardiac, vascular and spinal surgery in the United States.
Enrollment for the FloSeal pivotal U.S. clinical trial was completed in
November 1998. The final analysis of the study is currently ongoing. There
can be no assurance that the study will adequately support approval for
FloSeal. Additional Investigonial Device Exemptions will be required for
other applications of FloSeal. There can be no assurance that a supplemental
premarket approval application will be accepted for SinuSeal. In the event
we are unable to file a premarket approval supplement for SinuSeal, we will
be required to file a premarket approval application.
Manufacturing. Manufacture and distribution of FloSeal will be subject
to continuing regulation by the FDA. We will also be subject to routine
inspections by the FDA to determine compliance with the following:
* Quality System requirements,
* Medical Device Reporting regulations, and
* FDA's restrictions on promoting products for unapproved or "off-
label" uses.
International
To market products in Europe and other foreign countries, we must
obtain similar regulatory approvals. Regulations vary significantly from
country to country. The time required to obtain approval to market products
may be longer or shorter than that required in the United States. Fusion
must obtain CE mark certification to market FloSeal in member countries of
the European Union. CE mark certification is an international symbol of
adherence to quality assurance standards and compliance with the applicable
European Medical Devices Directives. In February 1997, we received ISO 9001
and EN 46001 qualification of our processes, which is one of the principal
steps in the CE mark approval process. There can be no assurance that we
will be successful in completing the remainder of the CE mark certification
process or obtaining CE mark certification in a timely manner.
Employees
As of March 1, 1999, we had 31 employees, 13 of whom were engaged in
research and development, two in regulatory affairs and quality assurance,
ten in operations, two in marketing and four in finance and administration.
No employees are covered by collective bargaining agreements, and we believe
we maintain good relations with our employees.
Item 2. Properties
Our headquarters are located in a 13,200 square foot facility in
Mountain View, California. The lease for this facility extends through
December 31, 2001. We believe that these existing facilities will be
sufficient for our manufacturing and office requirements through 2000. We
believe that suitable additional or alternative space will be available in
the future on commercially reasonable terms as needed.
Item 3. Legal Proceedings
We are currently not a party to any material legal proceedings.
Item 4. Submission of Matters to a Vote of Security Holders
Not applicable.
12
<PAGE> 12
Executive Officers of the Company
The following table sets forth certain information with respect to our
executive officers and directors as of December 31, 1998:
<TABLE>
<CAPTION>
Name Age Position
---- --- --------
<S> <C> <C>
Philip M. Sawyer 34 President, Chief Executive Officer, acting
Chief Financial Officer and Director
Debera M. Brown 46 Vice President, Regulatory Affairs and
Quality Assurance
Cary J. Reich, Ph.D. 50 Vice President, Research
Scott Huie 40 Vice President, Operations
Joseph F. Rondinone, Ph.D. 51 Vice President, Development
</TABLE>
Mr. Sawyer, a founder of the Company, has served as President and Chief
Executive Officer and as a Director since April 1993. From 1991 to 1993,
Mr. Sawyer worked in various positions in sales and marketing at the Stryker
Corporation. From 1987 to 1989, Mr. Sawyer worked at Patricof & Co.
Ventures Inc. From 1986 to 1987, Mr. Sawyer worked in the health care
corporate finance group at E.F. Hutton and Co. Mr. Sawyer holds a B.A. from
Haverford College and an M.B.A. from the Harvard Business School.
Ms. Brown joined the Company in May 1995 as Vice President, Regulatory
and Clinical Affairs, which position she held until July 1997. Since July
1997, Ms. Brown has been Vice President, Regulatory Affairs and Quality
Assurance. From September 1990 to March 1995, Ms. Brown was Vice President,
Medical and Regulatory Affairs, at Celtrix Pharmaceuticals, Inc., a
manufacturer of biopharmaceutical products from recombinant proteins. At
Celtrix, Mrs. Brown was responsible for overseeing the actions of staff for
the Regulatory Affairs Department, the Quality Assurance Department and
clinical trials. Ms. Brown holds a B.A. in Human Biology from Stanford
University and completed the Executive Program at Stanford University School
of Business.
Dr. Reich joined the Company in May 1995 as Vice President, Research
and Development. Dr. Reich's current position is Vice President, Research.
From June 1987 to May 1995, Dr. Reich held various positions at Chiron
Vision, a manufacturer of devices and pharmaceuticals to correct, improve and
restore vision. His most recent position at Chiron Vision, which he held
from April 1993 to May 1995, was Vice President, Research and Development.
As Vice President, Research and Development, Dr. Reich was responsible for
global research and development efforts in the field of ophthalmic medical
devices. Dr. Reich holds a B.S. in Chemistry from Harvey Mudd College and a
Ph.D. in Physical Organic Chemistry from Stanford University.
Mr. Huie joined the Company in August 1997 as Vice President,
Operations. From May 1995 to August 1997, Mr. Huie was Director of
Pharmaceutical Engineering at Aradigm Corporation, a pharmaceutical and
medical device company specializing in non-invasive aerosol drug delivery.
He directed process development, scale up, clinical supplies and facilities.
From February 1993 to May 1995, Mr. Huie was Director of Engineering at
Cygnus, Inc., ("Cygnus") a manufacturer of transdermal drug delivery systems
and developer of a non-invasive glucose monitoring medical device. As
Director of Engineering Mr. Huie was responsible for all engineering
functions in the company including process engineering, clinical
manufacturing, manufacturing engineering, maintenance and validation. Mr.
Huie holds a B.S. in Chemical Engineering from Rensselaer Polytechnic
Institute.
Dr. Rondinone joined the Company in January 1996 as Director of
Clinical Affairs. In July 1997, Dr. Rondinone was promoted to Vice
President, Development. From July 1992 to January 1996, Dr. Rondinone was
Vice President, Research and Development, for LaserScope Surgical Systems,
Inc., a manufacturer and world-wide distributor of surgical lasers and
instruments. At LaserScope, Dr. Rondinone was responsible for new product
development and management of the research and development department. Dr.
Rondinone holds a B.S. in Biology from Tufts University, an M.S. from
University of California at Los Angeles and a Ph.D. in physics from the
University of California at Los Angeles.
14
<PAGE> 14
Part II
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters.
Our common stock is quoted on the Nasdaq National Market under the symbol
"FSON." The following table sets forth, for the periods indicated, the high
and low closing sales prices per share of our common stock, as reported on
the Nasdaq National Market since our initial public offering in June 6, 1996
<TABLE>
<CAPTION>
High Low
---- ---
<S> <C> <C>
1996
Second Quarter from June 6, 1996 $13.250 $7.063
Third Quarter 10.000 5.875
Fourth Quarter 9.375 4.125
1997
First Quarter 4.875 3.313
Second Quarter 4.500 2.750
Third Quarter 5.625 3.625
Fourth Quarter 6.000 2.813
1998
First Quarter 5.063 3.000
Second Quarter 5.000 3.375
Third Quarter 4.125 2.250
Fourth Quarter 8.938 2.000
1999 (First Quarter through March 8, 1999) 7.063 5.563
</TABLE>
As of March 8, 1999, the last reported sale price of our common stock
on the Nasdaq National Market was $6.00 per share and, on January 25, 1999,
there were 89 stockholders of record.
15
<PAGE> 15
Item 6. SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction
with "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and the Consolidated Financial Statements and Notes
thereto included elsewhere in this Prospectus. The statements of operations
data for the years ended December 31, 1998, 1997, and 1996 and the balance
sheet data as of December 31, 1998 and 1997 have been derived from audited
consolidated financial statements included elsewhere in this report. The
consolidated statement of operations data for the years ended December 31,
1995 and 1994 and the balance sheet data as of December 31, 1996, 1995 and
1994 have been derived from audited consolidated financial statements that
are not included in this report. The historical results are not necessarily
indicative of the results of operations to be expected in the future.
<TABLE>
<CAPTION>
Year ended December 31,
----------------------------------------------
<S> <C> <C> <C> <C> <C>
Statements of
Operations Data: 1998 1997 1996 1995 1994
-------- -------- --------- -------- ---------
(in thousands, except per share amounts)
Net Sales $ 153 $ 31
Cost of sales and
manufacturing start-up cost 968 196
-------- ---------
Gross Loss (815) (165)
-------- ---------
Operating Expenses:
Research and development $ 6,145 $ 5,647 $ 4,693 $ 2,650 $ 756
Sales and marketing 614 2,421 1,582 142 67
General and administrative 1,474 2,004 1,426 841 349
------- -------- --------- ------- --------
Total operating expenses 8,233 10,072 7,701 3,633 1,172
Loss from operations (8,233) (10,887) (7,866) (3,633) (1,172)
Interest income, net 542 984 910 351 17
Other income <expense>, net 4 (49) 1 2
------ -------- --------- ------- --------
Net loss $(7,687)$ (9,952)$ (6,956) $(3,281)$ (1,153)
Basic and diluted net loss
per share $ (1.08)$ (1.41) $ (1.52) $ (2.31)$ (0.81)
Shares used in computing
basic and diluted net
loss per share 7,145 7,070 4,563 1,423 1,431
======= ======== ======== ======= ========
Balance Sheet Data:
Cash, cash equivalents and
available for sale
securities $ 7,164 $ 14,459 $ 23,485 $ 5,918 $ 222
Working capital 6,242 11,850 21,072 5,314 (80)
Total assets 8,088 15,540 25,063 6,629 436
Long term debt, including
current portion 321 43 189 322 200
Accumulated Deficit (29,232) (21,545) (11,593) (4,637) (1,357)
Total stockholders' equity $ 6,827 $ 14,224 $ 23,742 $ 5,768 $ 126
</TABLE>
15
<PAGE>
Item 7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
This section and other parts of this report contain forward-looking
statements that involve risks and uncertainties. Our actual results may
differ materially from those anticipated in the forward-looking statements.
Factors that might cause such a difference include, but are not limited to,
those discussed in the section entitled "Risk Factors" commencing on page
and elsewhere in this prospectus.
Overview
Since inception in October 1992, we have been primarily engaged in the
research and development of surgical sealants and topical hemostats. As of
December 31, 1998, we had an accumulated deficit of approximately
$29,232,000. Operating losses are expected to continue at least through
2001.
We commenced selling our first product, the RapiSeal patch, in late
1996. After careful consideration, we reallocated our capital resources to
the development of FloSeal and in late 1997 discontinued sales of the
RapiSeal patch and disbanded our test sales force. We recorded a one time
expense of $559,000 associated with our exit from the RapiSeal business. Of
such expense, $325,000 was charged to cost of sales, $209,000 to operating
expenses and $25,000 as a charge against sales.
In 1998, we conducted a ten center, 309-patient pivotal clinical trial
to demonstrate the safety and effectiveness of FloSeal. We have filed for
European regulatory clearance and have completed submission of our premarket
approval application for FloSeal with the FDA. In addition, we have been
expanding our manufacturing capacity in order to be able to meet the
anticipated product supply requirements for commercial sale of FloSeal. We
expect to complete the expansion of our manufacturing facility by the end of
the second quarter of 1999. In conjunction with this expansion, we
anticipate spending a total of approximately $250,000 for the purchase of
production equipment and $275,000 for the facilities' upgrade.
Future revenues, if any, and the results of operations may fluctuate
significantly from quarter to quarter and will depend upon, our ability to
obtain regulatory clearances for FloSeal and to successfully commercialize
the product.
Results of Operations
Years Ended December 31, 1998, 1997 and 1996
Revenues. We recorded revenues of none, $153,000 and $31,000 for the
years ended December 31, 1998, 1997 and 1996, respectively. We commenced
selling the RapiSeal patch in 1996 and stopped selling RapiSeal in 1997. We
cannot begin selling FloSeal until we receive necessary regulatory
approvals.
Gross Loss. We had a gross loss of none, $815,000, and $165,000 for
the years ended December 31, 1998, 1997 and 1996, respectively. In 1997,
the increase in gross loss of $650,000 resulted from increased manufacturing
start-up expenses and the inclusion of $325,000 of expenses related to our
exit from the RapiSeal business, including the write-down of dedicated
equipment and inventories and the estimated expenses to settle supply
contracts.
16
<PAGE>
Item 7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Research and Development. Research and development expenses were
$6,145,000, $5,647,000, and $4,693,000 for the years ended December 31,
1998, 1997 and 1996, respectively. The increase of $498,000 in 1998 was
due to the increased clinical and development expenses related to FloSeal.
The increase of $954,000 in 1997 was attributable to outside development
services, increased staff and related expenses, increased patent and
regulatory expenses. We believe significant investment in research and
development is essential to our future success and we expect that research
and development expenses will increase in future periods.
Sales and Marketing. Sales and marketing expenses were $614,000,
$2,421,000, and $1,582,000 for the years ended December 31, 1998, 1997 and
1996, respectively. The decrease of $1,807,000 in 1998 resulted from the
cessation of our sales and marketing efforts related to RapiSeal. The
increase of $839,000 in 1997 resulted from nearly a full year of sales
expense for RapiSeal and costs associated with our exit from the RapiSeal
business late in that year. We anticipate that sales and marketing
expenditures will increase in future periods in connection with the
introduction of FloSeal.
General and Administrative. General and administrative expenses were
$1,474,000, $2,004,000, and $1,426,000 for the years ended December 31,
1998, 1997 and 1996, respectively. The decrease of $530,000 in 1998 resulted
from reduction of staff and consolidation of facilities following
discontinuation of the RapiSeal business. The increase of $578,000 in 1997
resulted from costs associated with the commercialization of RapiSeal.
Interest and other income and expense, net. Net interest and other
income and expense was $546,000, $935,000, and $910,000 for the years ended
December 31, 1998, 1997 and 1996, respectively. The decrease of $389,000 in
1998 resulted from decreased cash, cash equivalents and available-for-sale
securities. The net increase of $25,000 in 1997 resulted from increased
cash, cash equivalents and available-for-sale securities following our
initial public offering in June 1996.
Exit charges. During the fourth quarter of 1997, we made a decision to
discontinue sales of our RapiSeal Patch. We incurred exit charges of
$559,000, which consisted of the following components:
<TABLE>
<CAPTION>
Description Amount Classification on Statement
of Operations
- --------------------------------- ---------- -----------------------------
<S> <C> <C>
Equipment ........................ $ 115,000 Cost of Sales
Personnel severance .............. 125,000 Sales and marketing,
general and administrative
and research and development
Inventory and purchase commitments 210,000 Cost of sales
Accounts receivable and potential
returns......................... 25,000 Sales
Patents .......................... 84,000 Research and development
---------
Total ............................ $ 559,000
=========
</TABLE>
During 1998, we negotiated a lower exit charge from one of our supply
agreements, which resulted in a change to our reserve estimate by $50,000.
Our anticipated timing until the reserve is completely depleted is the
fourth quarter of 2000.
17
<PAGE>
Item 7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
Liquidity and Capital Resources
From inception to December 31, 1998, we incurred net losses resulting
in an accumulated deficit of $29,232,000. We have financed our operations
primarily through private sales of equity securities and an initial public
offering of common stock in June 1996, together aggregating net proceeds of
$24,419,000.
Cash, cash equivalents and available-for-sale securities totaled
$7,164,000, $14,459,000, and $23,485,000 as of December 31, 1998, 1997 and
1996, respectively. The decreases from 1996 to 1998 were primarily due to
net losses.
Cash flows used in operating activities were $7,468,000, $8,644,000,
and $6,083,000 for the years ended December 31, 1998, 1997 and 1996,
respectively. These cash outflows resulted primarily from funding our net
losses. In addition, capital expenditures for property and equipment of
$245,000, $415,000, and $769,000 for the years ended December 31, 1998,
1997 and 1996, respectively, contributed to the cash outflows. In December
1997, we signed an agreement for a bank loan facility to finance existing
equipment up to a total of $1,000,000, and future equipment purchases for up
to a total facility limit of $2,500,000. The facility is secured by the
equipment financed. The loan balance is subject to a floating interest rate
equal to the bank's prime rate plus 1.5%. The unused portion of the total
loan facility commitments are subject to a 0.5% quarterly commitment fee.
As of December 31, 1998, we had drawn down $321,000 on the existing
equipment loan facility and had no draw down on the new equipment loan
facility. In connection with this loan facility, we issued a warrant to
purchase 4,500 shares of common stock at an exercise price of $4.00 per
share. This warrant expires in December 2002.
Our future capital requirements will depend on numerous factors,
including the timing of regulatory actions on FloSeal, our ability to enter
into strategic marketing arrangements and to scale up manufacturing
activities, the extent and timing of any future FloSeal sales and the
nature, timing and success of other products under development. We expect
to commit substantial capital resources to the development of commercial-
scale manufacturing for FloSeal. The associated working capital
requirements for manufacturing and commercial launch of a new product are
also expected to be substantial. If we are unable to secure corporate
partners to distribute our products, we will incur substantial expenditures
to develop a suitable direct sales and marketing force. The timing and
amount of capital requirements cannot be accurately predicted.
We are in the process of a follow-on offering on a best efforts basis.
We expect to receive net proceeds of approximately $9.2 million from the
offering. In addition to our current cash and cash equivalents, at a
minimum we need to raise approximately $3.5 million from this offering in
order to run our planned operations through the next 12 months, which is
prior to the time that we expect to achieve profitability. As a result we
must raise additional funds after this offering in order to be successful.
Alternative financing strategies may include, but are not limited to:
* Partnering relationships with larger medical device companies,
* Bank facilities, or
* Debt or additional equity offerings.
In addition, if we do not raise the full amount contemplated in this
offering, we will need to raise additional funds sooner than anticipated.
If we are unable to raise additional funds when needed, we may not be able
to market FloSeal as planned, or continue development of our other products,
which would materially and adversely affect our business.
When we need to raise additional money to fund our operations, we
cannot be certain that funding from any source will be available to us on
acceptable terms, or at all. The amount and the timing of raising
additional funds will depend primarily upon our ability to obtain needed
regulatory clearances and generate revenues from the sale of FloSeal. Our
inability any additional funding on reasonable terms will materially and
adversely affect our business.
18
<PAGE>
Item 7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
At December 31, 1998, we had approximately $19,586,000 in federal and
$19,903,000 in state net operating loss carry forwards which expire in the
years 2001 through 2018, respectively. Utilization of federal income tax
net operating loss carry forwards is subject to certain limitations under
Section 382 of the Internal Revenue Code of 1986, as amended. These annual
limitations may result in expirations of net operating losses and research
and development credits before they can be fully utilized.
Recent Accounting Pronouncements
In June 1998, the FASB issued Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities," which establishes accounting and reporting standards for
derivative instruments and hedging activities. It requires that an entity
recognize all derivatives as either assets or liabilities in the statement
of financial position and measure those instruments at fair value. To date,
we have not engaged in derivative and hedging activities. We will adopt
SFAS No. 133 as required for our first quarterly filing of 2000.
Year 2000 Compliance.
Beginning on January 1, 2000, computer systems and software will
produce erroneous results or fail unless they have been modified or upgraded
to process date information correctly. Our primary exposure with respect to
this problem involves third party software we have purchased or licensed for
our financial systems, network and telecommunications equipment. Our
financial systems software is Year 2000 compliant. We have obtained the
software needed to make our network Year 2000 compliant. We have analyzed
the Year 2000 risk with regard to our telecommunications equipment and have
concluded that there is no material Year 2000 risk.
To date, we have not encountered any material Year 2000 problems with
software and information systems provided to us by third parties. We have
contacted our suppliers of bovine hides and thrombin, the two essential
supplies we require for FloSeal, and have confirmed that there is no Year
2000 associated risk of a delay in supply from these sources. We could be
materially adversely affected if third parties, upon whom we depend in order
to run our day-to-day business, experience Year 2000 problems. For example,
if our supplier of electricity has not made appropriate Year 2000
corrections, we could experience a power outage and, consequently a stoppage
of our manufacturing operation. Other than problems that would be
experienced by businesses generally, we do not anticipate any Year 2000
problems unique to our company.
Item 7A. Quantitative and Qualitative Disclosures about Market Risk.
Our exposure to market risk for changes in interest rates relates
primarily to our investment portfolio and bank borrowings. We do not use
derivative financial instruments in our investment portfolio, and our
investment portfolio only includes highly liquid instruments with an
original maturity to us of generally less than one year. We have primarily
entered into debt obligations for capital expenditures.
We are subject to fluctuating interest rates that may impact, adversely
or otherwise, our results of
19
<PAGE>
Item 7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS (CONTINUED)
operations or cash flows for our variable rate bank borrowings, available-
for-sale securities and cash and cash equivalents.
The table below presents principal amounts and related weighted average
interest rates by year of maturity for our investment portfolio and debt
obligations:
<TABLE>
<CAPTION>
Fiscal Year
-------------------------------------
1998 1999 2000 Total
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Assets
Cash and cash equivalents $4,151 - - $4,151
Average interest rate 4.90% - - 4.90%
Available-for-sale securities $3,013 - - $3,013
Average interest rate 7.72% - - 7.72%
Liabilities
Bank borrowings (including
current portion) $ 117 $ 117 $ 87 $ 321
Average interest rate 9.25% 9.25% 9.25% 9.25%
</TABLE>
The estimated fair value of our cash and cash equivalents approximates
the principal amounts reflected above based on the short maturities of these
financial instruments. The estimated fair value of our debt obligations
approximates the principal amounts reflected above based on rates currently
available to us for debt with similar terms and remaining maturities.
Although payments under the operating lease for our facility are tied to
market indices, we are not exposed to material interest rate risk associated
with the operating lease.
Item 8. Financial Statements and Supplementary Data.
This information is incorporated hereby reference to the financial
statements listed in Item 14 of Part IV of this Report.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
None
20
<PAGE>
PART III
Certain information required by Part III is omitted from this Report
because the registrant will file a definitive proxy statement within 120
days after the end of its fiscal year pursuant to Regulation 14A (the "Proxy
Statement") for its annual meeting of stockholders to be held on May 20,
1999 and the information therein is incorporated herein by reference.
Item 10. Directors and Executive Officers of the Registrant.
The information concerning the Company's directors required by this
item is incorporated by reference to the Company's Proxy Statement.
Information regarding executive officers is included in Part I hereof under
the caption "Executive Officers of the Company" and is hereby incorporated
by reference into this Item 10.
Item 11. Executive Compensation.
The information required by this Item is incorporated by reference to
the Company's Proxy Statement.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
The information required by this Item is incorporated by reference to
the Company's Proxy Statement.
Item 13. Certain Relationships and Related Transactions.
The information required by this Item is incorporated by reference to
the Company's Proxy Statement.
21
<PAGE>
PART IV
<TABLE>
<CAPTION>
Item 14. Exhibits, Financial Statement Schedules
<S> <C> <C> <C>
(a) 1. Financial Statements Page(s)
------
Report of Independent Accountants. F-2
Balance Sheets, December 31, 1998 and 1997. F-3
Statements of Operations and Comprehensive Loss,
Years Ended December 31, 1998, 1997 and 1996. F-4
Statements of Stockholders' Equity, Period from
January 1, 1996 to December 31, 1998 F-5
Statements of Cash Flows, Years Ended December 31,
1998, 1997 and 1996 F-6
Notes to Financial Statements F-7 to F-18
</TABLE>
2. Financial Statement Schedule2.
All schedules are omitted because they are not applicable or
the required information is shown in the Financial Statements
or the notes thereto.
3. Exhibits
The Exhibits listed on the accompanying index immediately
following the signature page are filed as part of this Report.
(b) Reports on Form 8-K
Not applicable.
(c) Exhibits
See Item 14 (a) 3. above.
22
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15 (d) the Securities Exchange
Act of 1934, the Registrant has duly caused this Report on Form 10-K to be
signed on its behalf by the undersigned, thereunto duly authorized.
FUSION MEDICAL TECHNOLOGIES, INC. Date: March 31, 1999
By:/s/ PHILIP M. SAWYER
---------------------------------
Philip M. Sawyer
President and Chief Executive Officer
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Philip M. Sawyer his attorneys-in-fact, and
each with the power of substitution, for him in any and all capacities, to
sign any amendments to this Report on Form 10-K, and to file the same, with
exhibits thereto and other documents in connection therewith, with the
Securities and Exchange Commission, hereby ratifying and confirming all that
each of said attorneys-in-fact, or his substitute or substitutes, may do or
cause to be done by virtue thereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report on Form 10-K has been signed by the following persons on behalf of
the Registrant and in the capacities and on the dates indicated.
Signature Title Date
--------- ----- ----
/s/ PHILIP M. SAWYER President, Chief Executive Officer, March 31, 1999
- -------------------------
Philip M. Sawyer, acting Chief Financial Officer
and Director
(Principal Executive Officer)
/s/ GORDON W. RUSSELL Chairman of the Board of March 31, 1999
- ------------------------- Directors
Gordon W. Russell
/s/ OLAV B. BERGHEIM Director March 31, 1999
- -------------------------
Olav B. Bergheim
/s/ VAUGHN D. BRYSON Director March 31, 1999
- -------------------------
Vaughn D. Bryson
/s/ DOUGLAS E. KELLY, M.D. Director March 31, 1999
- -------------------------
Douglas E. Kelly, M.D.
/s/ LAWRENCE G. MOHR, JR. Director March 31, 1999
Lawrence G. Mohr, Jr.
23
<PAGE>
Index to Exhibits
<TABLE>
<CAPTION>
Exhibit
<S> <C>
3.1(1) Certificate of Incorporation of Registrant.
3.4(1) Amended and Restated By-laws of the Registrant.
10.1(1) Restated Shareholder Rights Agreement dated as of January 17, 1995.
10.2(1) 1993 Stock Option Plan, as amended, and form of stock option
agreement.
10.3(1) 1996 Employee Stock Purchase Plan.
10.4(1) 1996 Director Stock Option Plan, and form of stock option
agreement.
10.5(1) Form of Director and Officer Indemnification Agreements.
10.6(1) Lease Agreement dated June 15, 1994 between the Registrant and
James R. Benson.
10.7(2) Loan and Security Agreements dated December 21, 1997 between the
Registrant and Imperial Bank
10.8(2) First Amendment dated December 21, 1997 to Warrant to Purchase
Stock dated May 31, 1995
10.9(2) Warrant to Purchase Stock dated December 21, 1997
23.1 Consent of PricewaterhouseCoopers LLP, Independent Accountants.
27.1 Financial Data Schedule.
(1) Previously filed as exhibits to the Company's Registration Statement on
Form S-1 SEC file number 000-28460.
(2) Previously filed as exhibits to the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 1997
</TABLE>
Fusion(tm), Fusion Medical Technologies, Inc. (tm), FloSeal Matrix(tm),
FloSeal(tm), RapiSeal Patch(tm) and SilverBullet(tm) are trademarks of
Fusion Medical Technologies, Inc. Any use is strictly prohibited without
the prior written consent of Fusion Medical Technologies, Inc.
24
<PAGE>
<TABLE>
<CAPTION>
FUSION MEDICAL TECHNOLOGIES, INC.
INDEX TO FINANCIAL STATEMENTS
Page
----
<S> <C>
Report of Independent Accountants................................... F-2
Consolidated Balance Sheets......................................... F-3
Consolidated Statements of Operations and Comprehensive Loss........ F-4
Consolidated Statements of Stockholders' Equity..................... F-5
Consolidated Statements of Cash Flows............................... F-6
Notes to Consolidated Financial Statements.......................... F-7
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders
Fusion Medical Technologies, Inc.:
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations and comprehensive loss,
consolidated stockholders' equity and of consolidated cash flows present
fairly, in all material respects, the financial position of Fusion Medical
Technologies, Inc. and subsidiary at December 31, 1998 and 1997, and the
results of their operations and their cash flows for each of the three years
in the period ended December 31, 1998, in conformity with generally accepted
accounting principles. These financial statements are the responsibility of
the Company's management; our responsibility is to express an opinion on
these financial statements based on our audits. We conducted our audits of
these statements in accordance with generally accepted auditing standards,
which require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements,
assessing the accounting principles used and significant estimates made by
management, and evaluating the overall financial statement presentation. We
believe that our audits provide a reasonable basis for the opinion expressed
above.
PricewaterhouseCoopers LLP
San Jose, California
January 28, 1999
F-2
<PAGE>
<TABLE>
<CAPTION>
FUSION MEDICAL TECHNOLOGIES, INC.
CONSOLIDATED BALANCE SHEETS
(in thousands, except per share data)
DECEMBER 31,
------------------------
1998 1997
---------- ----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 4,151 $ 7,473
Available-for-sale-securities 3,013 5,465
Accounts receivable, net of allowance
for doubtful accounts of $10,000 in 1997 - 21
Prepaids and other current assets 135 207
--------- ---------
Total current assets 7,299 13,166
Noncurrent available-for-sale securities - 1,521
Property and equipment, net 735 809
Other assets 54 44
--------- ---------
Total assets $ 8,088 $ 15,540
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 157 $ 598
Accrued expenses 783 675
Current portion of bank borrowings 117 43
--------- ---------
Total current liabilities 1,057 1,316
Bank borrowings, net of current portion 204 -
--------- ---------
Total liabilities 1,261 1,316
Commitments (Note 7)
Stockholders' equity:
Convertible preferred stock, par
value $0.001: Authorized: 5,000
shares; issued and outstanding: none - -
Common stock, par value $0.001: Authorized:
50,000 shares; issued and outstanding:
7,211 shares in 1998 and 7,118 shares in 1997 7 7
Additional paid-in capital 36,137 36,096
Notes receivable from stockholder - (54)
Deferred compensation (87) (282)
Accumulated other comprehensive income 2 2
Accumulated deficit (29,232) (21,545)
--------- ---------
Total stockholders' equity 6,827 14,224
--------- ---------
Total liabilities and stockholders' equity $ 8,088 $ 15,540
========= =========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
<PAGE>
<TABLE>
<CAPTION>
FUSION MEDICAL TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(in thousands, except per share data)
Year Ended December 31,
--------------------------------------
1998 1997 1996
------------ ----------- -----------
<S> <C> <C> <C>
Net sales $ 153 $ 31
Cost of sales and start-up
manufacturing costs 968 196
--------- ---------
Gross loss (815) (165)
--------- ---------
Operating Expenses:
Research and development $ 6,145 5,647 4,693
Sales and marketing 614 2,421 1,582
General and administrative 1,474 2,004 1,426
--------- --------- ---------
Total operating expenses 8,233 10,072 7,701
--------- --------- ---------
Loss from operations (8,233) (10,887) (7,866)
--------- --------- ---------
Interest income 581 1,008 926
Interest expense (39) (24) (16)
Other income (expense), net 4 (49) -
--------- --------- ---------
Net loss (7,687) (9,952) (6,956)
Other comprehensive income (loss):
Change in unrealized gain or loss
on available for sale securities - 13 (11)
--------- --------- ---------
Comprehensive loss $ (7,687) $ (9,939) $ (6,967)
========= ========= =========
Basic and diluted net loss per share $ (1.08) $ (1.41) $ (1.52)
========= ========= =========
Shares used in computing basic and
diluted net loss per share 7,145 7,070 4,563
========= ========= =========
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
<PAGE>
<TABLE>
<CAPTION>
FUSION MEDICAL TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
For the three years ended December 31, 1998
(in thousands)
Accumulated
Notes Other
Series A Convertible Series B Convertible Additional Receivable Compre-
Preferred Stock Preferred Stock Common Stock From Deferred hensive
------------------- ------------------- ------------ Paid-In Share- Compen- Income Deficit
Shares Amount Shares Amount Shares Amount Capital holder sation (Loss) Accumulated Total
------ ------ ------ ------ ------ ------ ------- -------- -------- ------ ----------- --------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C> <C>
Balances, January
1, 1996 2,269 $ 2 5,390 $ 5 1,520 $ 2 $ 10,416 $ (19) $(4,637) $ 5,769
Issuance of common
stock:
Upon exercise of
Stock Options 123 33 33
In exchange for
Notes receivable 40 48 $ (48)
From initial public
offering net of
issuance costs of
$2,881 2,100 2 24,417 24,419
Upon exercise of
Warrants 26 41 41
Under employee
stock purchase
plan 17 70 70
Conversion of
preferred stock
in connection
with initial
public offering (2,269) (2) (5,390) (5) 3,173 3 4
Unrealized losses
on available-for-sale
securities $ (11) (11)
Deferred compensation
related to issuance
of common stock
and grants of
stock options 1,550 (1,550)
Amortization of
deferred compensation 378 378
Net loss (6,956) (6,956)
------- ------ ------ ------- ------ ----- -------- ------- ------- ------ ------- -------
Balances, December
31, 1996 6,999 7 36,579 (48) (1,191) (11) (11,593) 23,743
Issuance of common
stock:
Upon exercise of
stock options 84 60 60
Under employee
stock purchase plan 35 124 124
Interest on notes
Receivable (6) (6)
Change in unrealized
loss on available
-for-sale
Securities 13 13
Adjustment for
cancellation of
stock options (667) 667
Amortization of
deferred compensation 242 242
Net loss (9,952) (9,952)
------- ------ ------ ------- ------ ----- -------- ------- ------- ------ ------- -------
Balances, December
31, 1997 7,118 7 36,096 (54) (282) 2 (21,545) 14,224
Issuance of common stock:
Upon exercise of
stock options 65 29 29
Under employee
stock purchase plan 28 73 73
Payment of notes
Receivable 54 54
Adjustment for
cancellation of
stock options (61) 61
Amortization of
deferred compensation 134 134
Net loss (7,687) (7,687)
------- ------ ------ ------- ------ ----- -------- ------- ------- ------ ------- -------
Balances, December
31, 1998 - $ - - $ - 7,211 $ 7 $36,137 $ - $ (87) $ 2 $(29,232) $ 6,827
====== ====== ====== ======= ====== ===== ======== ======= ======= ====== ======== =======
The accompanying notes are an integral part of these consolidated financial statements.
F-5
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
FUSION MEDICAL TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
YEAR ENDED DECEMBER 31,
-------------------------------
1998 1997 1996
--------- --------- ---------
<S> <C> <C> <C>
Cash flows used for operating activities:
Net loss $ (7,687) $ (9,952) $ (6,956)
Adjustments to reconcile
net loss to net cash used in
operating activities:
Depreciation and amortization 319 464 259
Loss on disposition of property
and equipment - 264 -
Accretion of available-for-sale
Securities 16 17 -
Amortization of deferred compensation 134 242 378
Interest on notes receivable from
Stockholder - (6) -
Provision for doubtful accounts - 10 -
Changes in assets and liabilities:
Accounts receivable 21 (8) (23)
Inventories 83 (83)
Prepaids and other current assets 72 100 (239)
Other assets (10) (11)
Accounts payable (441) (281) 403
Accrued expenses 108 423 189
--------- -------- ---------
Net cash used in operating activities (7,468) (8,644) (6,083)
--------- -------- ---------
Cash flows from investing activities:
Acquisition of property and equipment (245) (415) (769)
Purchases of available-for-sale-securities (1,996) (10,515) (11,182)
Sales of available-for-sale securities 5,953 16,231 -
--------- -------- ---------
Net cash provided by (used) in
investing activities 3,712 5,301 (11,951)
--------- -------- ---------
Cash flows from financing activities:
Proceeds from issuance of common stock,
net of issuance costs 102 184 24,563
Proceeds from bank borrowings 278 - -
Repayment of notes payable (146) (133)
Payment received on note receivable from
stockholder 54 - -
--------- -------- ---------
Net cash provided by financing
activities 434 38 24,430
--------- -------- ---------
Net increase (decrease) in cash and cash
Equivalents (3,322) (3,305) 6,396
Cash and cash equivalents, beginning of year 7,473 10,778 4,382
--------- -------- ---------
Cash and cash equivalents, end of year $ 4,151 $ 7,473 $ 10,778
========= ======== =========
Supplemental disclosure of cash flow
information:
Cash paid for interest $ 80 $ 64 $ 16
========= ======== =========
Cash paid for taxes $ 1 $ 1 $ 1
========= ======== =========
Supplemental disclosure of noncash
investing and financing activities:
Issuance of common stock in exchange for
notes receivable - - $ 48
========= ======== =========
Adjustment for cancellation of
stock options $ 61 $ 667
========= ========
The accompanying notes are an integral part of these consolidated financial
statements.
</TABLE>
F-6
<PAGE>
FUSION MEDICAL TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Formation and Business of the Company
Fusion Medical Technologies, Inc. (the "Company") was incorporated in
the State of Delaware in 1992. The Company is developing, and
commercializing proprietary collagen gel-based products used to control
bleeding in a variety of surgeries. Since its inception, the Company has
devoted substantially all of its efforts to developing products, raising
capital and recruiting personnel.
The Company sold 2,100,000 shares of common stock at $13.00 per share
through an initial public offering in June 1996. Net proceeds (after
underwriter's commissions and fees along with other costs associated with
the offering) totaled $24,419,000. Upon completion of the offering, all
outstanding shares of preferred stock (a total of 7,659,000 shares) were
converted into shares of common stock.
These financial statements contemplate the realization of assets and
the satisfaction of liabilities in the normal course of business. In the
course of its development, the Company has sustained operating losses and
expects such losses to continue through at least 2001. Management believes
that its existing cash balances and other potential financing alternatives
will be sufficient to meet the Company's capital and operating requirements
for the next 12 months. There can be no assurance that the Company will not
require additional funding and should this prove necessary, the Company may
sell additional shares of its Common Stock or preferred stock through
private placement or further public offerings. There can be no assurance
that the Company would be able to obtain additional debt or equity
financing, if and when needed, on terms that the Company finds acceptable.
Any additional equity or debt financing may involve substantial dilution to
the Company's stockholders, restrictive covenants or high interest costs.
The failure to raise needed funds on sufficiently favorable terms could have
a material adverse effect on the Company's business, operating results and
financial condition.
2. Summary of Significant Accounting Policies
Basis of Consolidation
The consolidated Financial Statements include the accounts of the
Company and its wholly-owned subsidiary. All significant intercompany
accounts and transactions have been eliminated.
Stock Split
In May 1996, the Company effected a 1-for-2.414 reverse split of the
Company's common stock and a corresponding change in the preferred stock
conversion rates. All common shares and per share amounts in these
financial statements have been adjusted retroactively to give effect to the
split.
Use of Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of expenses during the reporting period.
Actual results could differ from those estimates.
F-7
<PAGE>
2. Summary of Significant Accounting Policies, continued
Long-Lived Assets
The Company reviews long-lived assets and certain identifiable
intangible assets to be held and used, or disposed of, for impairment
whenever events or changes in circumstances indicate that the carrying
amount of an asset may not be recoverable. The Company assesses the
impairment of long-lived assets, based upon the estimated future cash flows
from these assets.
Cash and Cash Equivalents and Available-for-Sale Securities
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents. Cash and
cash equivalents include money market funds and various deposit accounts.
The Company has classified its investments as "available-for-sale." Such
investments are recorded at fair value and unrealized gains and losses, if
material, are recorded as a separate component of equity until realized.
Interest income is recorded using an effective interest rate, with
associated premium or discount amortized to "investment income." The cost
of securities sold is based upon the specific identification method. All
available-for-sale securities with maturity dates greater than 365 days are
classified as non-current.
Depreciation and Amortization
Property and equipment are recorded at cost and are depreciated on a
straight-line basis over their estimated lives of three to five years.
Maintenance and repairs are charged to operations as incurred. Leasehold
improvements are amortized over their estimated useful lives, or the lease
term, if shorter.
Revenue Recognition
The Company recognizes revenue upon shipment of product to the
customer, upon fulfillment of acceptance terms, if any, and when no
significant contractual obligations remain outstanding.
Research and Development Expenditures
Research and development expenditures are expensed as incurred.
Income Taxes
Income taxes are accounted for under the liability method. Deferred
tax assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts
of existing assets and liabilities and their respective tax basis. Deferred
tax assets and liabilities are measured using enacted tax rates expected to
apply to taxable income in the years in which those temporary differences
are expected to be recovered or settled. Valuation allowances are
established when necessary to reduce deferred tax assets to the amounts
expected to be realized.
F-8
<PAGE>
2. Summary of Significant Accounting Policies, continued
Concentration of Credit Risk
The Company's cash, cash equivalents and available-for-sale securities
are maintained at two financial institutions. Deposits in these
institutions may exceed the amount of insurance provided on such deposits.
Risks and Uncertainties
The Company's products require approvals from the Food and Drug
Administration ("FDA") and international regulatory agencies prior to the
commencement of commercialized sales. There can be no assurance that the
Company's products will receive the required approvals. If the Company was
denied such approvals, or such approvals were delayed, it would have a
materially adverse impact on the Company.
The Company is dependant upon the success of its lead product under
development. The Company's future success depends upon its ability to
develop, introduce and market new products, its ability to obtain components
from key suppliers, and to obtain sufficient manufacturing capacity.
Fair Value of Financial Instruments
Carrying amounts of certain of the Company's financial instruments
including cash and cash equivalents, accounts receivable, accounts payable,
accrued expenses and other liabilities approximate fair value due to their
short maturities. Based upon borrowing rates currently available to the
Company for loans with similar terms, the carrying value of the Company's
bank borrowings approximate fair value. Estimated fair values for
available-for-sale securities, which are separately disclosed elsewhere, are
based on quoted market prices for the same or similar instruments.
Computation of Basic and Diluted Net Loss Per Share
The Company adopted SFAS No. 128 "Earnings Per Share" and the
Securities and Exchange Commission Staff Accounting Bulletin No. 98 ("SAB
No. 98") effective December 31, 1997; accordingly, all prior periods have
been restated. Basic and diluted net loss per share are computed using the
weighted average number of shares of common stock outstanding. Common
equivalent shares from stock options are excluded from the computation of
diluted net loss per share, as their effect is anti-dilutive. No additional
shares are considered to be outstanding for either computation under the
provisions of SAB No. 98.
Stock options to purchase 1,113,000, 992,000, and 618,000 shares of
common stock at prices ranging from $.16 to $11.50 per share were
outstanding at December 31, 1998, 1997, and 1996, respectively, but were not
included in the computation of diluted net loss per share because they were
anti-dilutive. Warrants to purchase 13,000, 8,000, and 8,000 shares of
common stock at $4.00, $4.00, and $4.80 per share were outstanding at 1998,
1997, and 1996, respectively, but were not included in the computation of
diluted net loss per share because they were anti-dilutive. The
aforementioned stock options and warrants could potentially dilute earnings
per share in the future.
F-9
<PAGE>
2. Summary of Significant Accounting Policies, continued
Recent Accounting Pronouncements
In June 1998, the FASB issued Statement of Financial Accounting
Standards (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging
Activities", which establishes accounting and reporting standards for
derivative instruments and hedging activities. It requires that an entity
recognize all derivatives as either assets or liabilities in the statement
of financial position and measure those instruments at fair value. The
Company, to date, has not engaged in derivative and hedging activities. The
Company will adopt SFAS No. 133 as required for its first quarterly filing
of calendar year 2000.
3. Available-for-Sale Securities
The following summarizes the Company's available-for-sale securities:
<TABLE>
<CAPTION>
Unrealized
Cost Gain Fair Value Maturity Dates
--------- ---------- ------------ --------------
<S> <C> <C> <C> <C>
December 31, 1998
- -----------------
Corporate Bonds $ 3,011 $ 2 $ 3,013 1/99 - 6/99
December 31, 1997
- -----------------
Corporate Bonds $ 6,984 $ 2 $ 6,986
</TABLE>
During 1998, 1997 and 1996, there were no realized gains or losses on the
disposal of available-for-sale securities.
4. Property and Equipment
Property and equipment comprise: (in thousands)
F-10
<PAGE>
<TABLE>
<CAPTION>
December 31,
----------------------------
1998 1997
------------ ------------
<S> <C> <C>
Computer equipment $ 295 $ 256
Office furniture and equipment 147 60
Machinery and equipment 1,086 971
Leasehold improvements 217 213
--------- ---------
Total 1,745 1,500
Less accumulated depreciation and
Amortization (1,010) (691)
--------- ---------
Net $ 735 $ 809
========= =========
</TABLE>
5. Accrued expenses
Accrued expenses comprise: (in thousands)
<TABLE>
<CAPTION>
December 31,
----------------------------
1998 1997
------------ ------------
<S> <C> <C>
Accrued compensation $ 157 $ 175
Restructuring (Note 12) 43 326
Clinical trial 383 -
Accrued general and administrative 200 174
--------- ---------
$ 783 $ 675
========= =========
</TABLE>
F-11
<PAGE>
6. Bank Borrowings
In December 1997, the Company signed a loan agreement with a bank to
finance existing equipment and future equipment purchases up to $2,500,000.
Subject to certain terms and conditions, the facility finances a percentage
of the invoice cost of existing equipment and all of the invoice cost of
future equipment purchases. The equipment purchased serves as collateral.
As of December 31, 1998, the Company had a balance of $321,000 outstanding.
The loan is payable in monthly installments bearing interest at the rate of
prime plus 1.5% per annum (9.25% at December 31, 1998).
Future payments under this loan agreement are as follows:
<TABLE>
<CAPTION>
Year Amount
---- ------
<S> <C>
Current................................................ $ 117
2000 .................................................. 117
2001 .................................................. 87
-----
$ 321
=====
</TABLE>
7. Commitments
The Company leases office, laboratory and manufacturing space under an
operating lease expiring in December 2001. The lease requires the Company
to pay property taxes, insurance and ordinary maintenance and repairs. The
lease contains an option to extend the lease terms for one year. Rent
expense for the years ended December 31, 1998, 1997, and 1996, was
approximately $304,000, $363,000 and $244,000, respectively.
Minimum future lease payments under the lease agreements at December
31, 1998 are as follows: (in thousands)
<TABLE>
<CAPTION>
Year Amount
---- --------
<S> <C>
1999 $ 317
2000 341
2001 356
-------
$ 1,014
=======
</TABLE>
F-12
<PAGE>
8. Stockholders' Equity
Preferred Stock
Under the Company's Restated Articles of Incorporation, the Company's
preferred stock is issuable in series. As of December 31, 1998, 5,000,000
shares of preferred stock were authorized and no preferred stock was issued
or outstanding. The previously outstanding preferred stock was converted
into common stock in connection with the Company's initial public offering
in June 1996.
Warrants
During September 1994, in connection with the issuance of a note
payable, the Company issued a warrant to purchase 20,000 shares of Series B
preferred stock at an exercise price of $1.66. Upon the close of the
Company's initial public offering and conversion of the Company's previously
outstanding preferred stock into common stock, the warrant became
exercisable for 8,285 shares of common stock at an exercise price of $4.80
per share. In 1997, this warrant was modified to $4.00 per share and the
expiration date was extended to September 2000.
In December 1997, in connection with bank borrowings, the Company
issued a warrant to purchase 4,500 common shares at an exercise price of
$4.00 per share. This warrant expires in five years. The value of these
warrants was calculated using the Black Scholes Model. The calculated value
was deemed to be insignificant.
Stock Option Plan
In November 1993, the Company established the 1993 Stock Option Plan
(the Plan), which provides for both incentive stock options (ISOs) and non-
qualified stock options (NSOs) to be granted to employees and consultants.
All NSOs allow for the purchase of common stock at prices not less than 85%
of the fair market value as determined by the Board of Directors at the date
of grant. ISOs allow for the purchase of common stock at prices not less
than 100% of the fair market value as determined by the Board of Directors
at the date of grant. If at the time the Company grants an option the
optionee owns more than 10% of the total combined voting power of all the
classes of stock of the Company, the option price shall be at least 110% of
the fair value and the term of the options shall be five years from the date
of grant. All options must be exercised within ten years from the date of
grant. Options vest as determined by the Board of Directors, generally over
four years.
In the event that options are exercised prior to vesting, upon
termination of service, the Company has the right to repurchase the issued
common stock at the original issuance price. Shares are released from the
Company's repurchase option over periods consistent with the original
options' vesting period. As of December 31, 1998, 14,000 shares are subject
to repurchase. The Company has reserved 1,890,000 shares of common stock
for issuances to employees, and officers under the Plan.
F-13
<PAGE>
8. Stockholders' Equity (continued)
Activity under the Plan is as follows: (in thousands, except per share data)
<TABLE>
<CAPTION>
Shares Weighted
Available Number of Average
for Grant Shares Exercise Price Total
--------- --------- -------------- -------
<S> <C> <C> <C> <C>
Balances, January 1, 1996 292 412 $0.36 $ 148
Additional Shares authorized
Under the Plan 437 - - -
Options granted (438) 438 2.16 946
Options canceled 109 (109) 3.30 (360)
Options exercised - (123) 0.27 (33)
-------- -------- -------
Balances, December 31, 1996 400 618 1.13 701
Additional Shares authorized
Under the Plan 300 - - -
Options granted (557) 557 4.33 2,410
Options canceled 99 (99) 2.17 (215)
Options exercised - (84) 0.71 (60)
-------- -------- -------
Balances, December 31, 1997 242 992 2.86 2,836
Additional Shares authorized
Under the Plan 400 - - -
Options granted (354) 354 4.73 1,676
Options canceled 240 (240) 4.31 (1,034)
Options exercised (65) - 0.45 (29)
-------- -------- -------
Balances, December 31, 1998 528 1,041 $ 3.31 $ 3,449
======== ======== =======
</TABLE>
For the years ended December 31, 1998, 1997, and 1996, the weighted
average fair value of options granted was $1.67, $2.42, and $0.87 per share,
respectively.
In February 1997, the Company offered employees the right to cancel
certain outstanding stock options and receive new options with an exercise
price of $4.38 per share, the closing price of the common stock on the date
individual employees agreed to cancel their original outstanding stock
options. Options to purchase a total of 49,000 shares at original exercise
prices ranging from $6.00 to $11.50 per share were cancelled and new options
were issued in February 1997. The option term and vesting under the new
options are identical to the terms of the canceled options.
F-14
<PAGE>
8. Stockholders' Equity (continued)
Director Option Plan
In May 1996, the Company approved the Director Option Plan and reserved
120,000 shares of common stock for issuance. Options to purchase 19,200
shares were granted in 1997 and 1998 for a total of 38,400 shares. No
options to purchase shares of the Company's common stock were granted during
fiscal 1996. Shares are granted under the plan at 100% of the fair value of
the Company's common stock on the date of the grant. The options vest at
the rate of 25% after the first year of service and the remaining amount
equally over 36 months until fully vested after four years. These options
expire ten years from the date of grant and are only exercisable upon
vesting.
Employee Stock Purchase Plan
In May 1996, the Company approved the Employee Stock Purchase Plan and
reserved 280,000 shares of common stock for issuance. In 1998, 28,000 shares
of common stock were purchased under the plan at $3.31 per share. In 1997
and 1996, 35,000 and 17,000 shares of common stock were purchased under the
plan at $3.54 and $4.02 per share, respectively. Shares are purchased
through employee's payroll deductions at purchase prices equal to 85% of
the lesser of the fair value of the Company's common stock at either the
beginning or the end of the six-month purchase period.
Stock-Based Compensation
The Company has adopted the disclosure only provisions of Statement of
Financial Accounting Standard No. 123 (SFAS No. 123) "Accounting for Stock-
Based Compensation." Had compensation cost for the Plan, the Director
Option Plan and the Employee Stock Purchase Plan been determined based on
the fair value at the grant date for awards in 1996, 1997 and 1998
consistent with the provisions of SFAS No. 123, the Company's net loss and
basic and diluted net loss per share for the years ended December 31, 1996,
1997 and 1998 would have been increased to the pro forma amounts indicated
below:
<TABLE>
<CAPTION>
1998 1997 1996
---------- ----------- -----------
<S> <C> <C> <C>
Net loss - as reported $ (7,687) $ (9,952) $ (6,956)
========== ========== ==========
Net loss - pro forma $ (8,051) $ (10,313) $ (6,990)
========== ========== ==========
Basic and diluted net loss
per share-as reported $ (1.08) $ (1.41) $ (1.52)
Basic and diluted net loss per ========== ========== ==========
share-pro forma $ (1.13) $ (1.45) $ (1.53)
========== ========== ==========
</TABLE>
The above pro forma disclosures are not necessarily representative of
the effects on reported net income or loss for future years.
F-15
<PAGE>
8. Stockholders' Equity (continued)
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes model with the following weighted average assumptions:
<TABLE>
<CAPTION>
1998 1997 1996
---------- ----------- -----------
<S> <C> <C> <C>
Risk-free interest rate 5.39%-5.77% 5.79%-6.6% 5.49%-6.5%
Expected life 4 years 4 years 4 years
Expected dividends - - -
Expected volatility 82.86% 82.15% 0.0%-79.52%
</TABLE>
The options outstanding and currently exercisable by exercise price at
December 31, 1998 are as follows:
<TABLE>
<CAPTION>
Options Currently
Options Outstanding Exercisable
---------------------------------------------------- -------------------
Weighted
Average Weighted Weighted
Remaining Average Average
Number Contractual Exercise Number Exercise
Exercise Price Outstanding Life (Yrs) Price Exercisable Price
-------------- ------------ ----------- -------- ----------- -------
<S> <C> <C> <C> <C> <C>
$0.16 - 0.41 232,000 6.27 $ 0.37 217,000 $ 0.36
$1.00 - 2.41 75,000 7.12 $ 1.65 43,000 $ 1.74
$3.62 - 4.38 436,000 8.26 $ 4.30 187,000 $ 4.32
$4.50 - 7.25 298,000 8.33 $ 4.78 78,000 $ 4.82
--------- ---------
1,041,000 $ 3.31 525,000 $ 2.55
========= =========
</TABLE>
As of December 31, 1998 and 1997 , options to purchase 525,000 and
230,000 shares of common stock were exercisable at weighted average exercise
prices of $2.55 and $0.99, respectively.
F-16
<PAGE>
8. Stockholders' Equity (continued)
For the options granted in the 12 month period before the initial
public offering, the difference between the stock option exercise price and
the imputed fair market value of the Company's common stock at the date of
issue of the stock options, totaling $1,578,000 has been recorded as
deferred compensation as a component of stockholders' equity. Of this
amount $763,000 of compensation expense has been recognized as an expense
through December 31, 1998 and $728,000 of the amount was adjusted for
cancellation of stock options, due to the termination of employment of
certain employees. The remaining $87,000 will be recognized as an expense as
the shares and options vest over fiscal 1999.
9. Employee Benefit Plan
During 1995, the Company established a Retirement Savings and
Investment Plan (the 401(k) Plan) under which employees may defer a portion
of their salary up to the maximum allowed under IRS rules. The Company has
the discretion to make contributions to the 401(k) Plan. To date, the
Company has not made any contributions to the 401(k) Plan.
10. Related Parties
The Company has a consulting contract with a retired surgeon and
medical device designer. The contract pays a maximum of $1,500 per month
for consulting services and reimburses him for related expenses. The
retired surgeon is a shareholder of an affiliate of the Company and related
to an executive officer. The Company held a note receivable, for $54,000,
from an executive of the Company to purchase stock options. In 1998 the
executive terminated his relationship with the Company and satisfied the
note.
11. Income Taxes
The tax effects of the significant temporary differences, which
comprise deferred tax assets (liabilities) at December 31, are as follows:
(in thousands)
<TABLE>
<CAPTION>
1998 1997
---------- ----------
<S> <C> <C>
Capitalized start-up and research and
development costs $ 3,032 $ 978
Research and development credit 811 641
Depreciation 159 78
Net operating loss carryforwards 7,472 7,063
Other accrued expenses 240 190
---------- ----------
Net deferred tax asset 11,714 8,950
Less valuation allowance (11,714) (8,950)
---------- ----------
Net deferred income taxes $ - $ -
========== ==========
</TABLE>
F-17
<PAGE>
11. Income Taxes (continued)
The Company has established a valuation allowance to the extent of its
deferred tax assets since it is more likely than not that a benefit can not
be realized in the future due to the Company's recurring operating losses.
The Company had federal and state net operating loss carryforwards of
approximately $19,586,000, and 19,903,000, respectively, at December 31,
1998, available to offset future regular and alternative minimum taxable
income. The Company's net operating loss carryforwards expire in 2001
through 2018, if not utilized. The Company has federal and state research
and development credit carryforwards of $553,000 and $390,000, respectively,
expiring in the years 2009 through 2018, respectively, if not utilized.
For federal and state tax purposes, a portion of the Company's net operating
loss carryforwards are subject to certain limitations on annual utilization
in case of changes in ownership, as defined by federal and state tax law.
12. RapiSeal Business Exit
During the fourth quarter of 1997, the Company made a decision to
discontinue sales of its RapiSeal patch. These restructuring actions were
taken to align the Company's costs in light of the discontinuation of the
RapiSeal business. At year-end 1997, the Company incurred RapiSeal exit
charges of $559,000 for personnel severance, patent charges, and inventory
and dedicated equipment write-offs associated with exit of its RapiSeal
business. A majority of terminated employees were located in California and
worked in sales, marketing, research and development and administrative
support functions. A total of nine employees were terminated. Of such
charges ($325,000) was charged to cost of sales, ($209,000) to operating
expenses and ($25,000) as a charge against sales. In 1998 there was a
change in reserve estimates of $50,000, due to the favorable settlement of a
contract with a third party. The majority of the remaining cash outlays of
$43,000 is expected to occur in fiscal 2000.
The following table summarizes the amounts that were charged and where
they are reflected in the accompanying statement of operations:
<TABLE>
<CAPTION>
Classification on
Description Amount Statement of Operations
- ----------------------------------- -------- ----------------------------
<S> <C> <C>
Equipment .......................... $115,000 Cost of Sales
Personnel severance ................ 125,000 Sales and marketing,
general and administrative
and research and development
Inventory and purchase commitments 210,000 Cost of sales
Accounts receivable and potential
Returns .......................... 25,000 Sales
Patents ............................ 84,000 Research and development
--------
Total .............................. $559,000
========
</TABLE>
F-18
<PAGE>
The following table summarizes the Company's restructuring reserve
balances through December 31, 1998: (in thousands)
<TABLE>
<CAPTION>
Sales Cost of Goods Expenses Total
--------- ---------------- ----------- -------
<C> <C> <C> <C> <C>
Restructuring reserve $ 25 $ 325 $ 209 $ 559
Non-cash charges (10) (225) 2 (233)
Restructuring reserve
balances at December 31,
1997 15 100 211 326
Change in reserve estimate (50) (50) - -
Cash charges (15) (50) (168) (233)
--------- -------- -------- -------
Restructuring reserve
Balances at December 31,
1998 $ - $ - $ 43 $ 43
========= ======== ======== =======
</TABLE>
F-19
<PAGE>
<TABLE> <S> <C>
<S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM FORM
10-K FOR THE PERIOD ENDED DECEMBER 31, 1998 AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1000
<S> <C> <C> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1998
<CASH> 4,151
<SECURITIES> 3,013
<RECEIVABLES> 0
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 7,299
<PP&E> 735 <F1>
<DEPRECIATION> 0
<TOTAL-ASSETS> 8,088
<CURRENT-LIABILITIES> 1,057
<BONDS> 0
0
0
<COMMON> 7
<OTHER-SE> 6,820
<TOTAL-LIABILITY-AND-EQUITY> 8,088
<SALES> 0
<TOTAL-REVENUES> 0
<CGS> 0
<TOTAL-COSTS> 0
<OTHER-EXPENSES> 6,145 <F2>
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 39
<INCOME-PRETAX> (7,687)
<INCOME-TAX> 0
<INCOME-CONTINUING> (7,687)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (7,687)
<EPS-PRIMARY> (1.08) <F3>
<EPS-DILUTED> (1.08)
<FN>
<F1> Item show net of depreciation, net of depreciation, consistent with
the balance sheet presentation.
<F2> Item consists of research and development.
<F3> Item consists of basic earnings per share.
</FN>
</TABLE>
