<PAGE>
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
------------------------
FORM 10-KSB
/X/ ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED JUNE 30, 1998
/ / TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 0-24635
------------------------
HYPERTENSION DIAGNOSTICS, INC.
(Name of Small Business Issuer in Its Charter)
MINNESOTA 41-1618036
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
2915 Waters Road, Suite 108, Eagan, Minnesota 55121
(Address of Principal Executive Offices, including Zip Code)
(651) 687-9999
(Issuer's Telephone Number, including Area Code)
Securities registered pursuant to Section 12(b) of the Exchange Act: None
Securities registered pursuant to Section 12(g) of the Exchange Act:
Common Stock ($.01 par value)
(Title of Class)
Redeemable Class A Warrant
(Title of Class)
Units, consisting of one share of Common Stock and one Redeemable Class A
Warrant
(Title of Class)
------------------------------
Check whether the issuer: (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 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
/ /
Check if there is no disclosure of delinquent filers in response to Item 405
of Regulation S-B contained in this form, and no disclosure will 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-KSB or any
amendment to this Form 10-KSB. /X/
The issuer's revenues for its most recent fiscal year were $0.
The aggregate market value of the voting stock held by nonaffiliates of the
issuer as of August 31, 1998 was approximately $16,760,373, based upon the
closing sale price for the Common Stock on that date as reported by the Nasdaq
Stock Market.
DOCUMENTS INCORPORATED BY REFERENCE
None.
- --------------------------------------------------------------------------------
- --------------------------------------------------------------------------------
<PAGE>
PART I
ITEM 1. BUSINESS
FORWARD-LOOKING STATEMENTS
The information presented in this Annual Report on Form 10-KSB under
"Business", "Properties" and "Management's Discussion and Analysis of Financial
Condition and Results of Operations" contains forward-looking statements within
the meaning of Section 21E of the Securities Exchange Act of 1934. When used in
this report, the words "believe", "expect", "will", "can", "estimate",
"anticipate" and similar expressions are intended to identify such
forward-looking statements.
Forward-looking statements involve risks and uncertainties, including those
discussed under "Risk Factors", that could cause actual results to differ
materially from those anticipated. Because actual results may differ, readers
are cautioned not to place undue reliance on these forward-looking statements.
INTRODUCTION
The Company is engaged in the design, development, assembly and marketing of
a proprietary medical device that it believes will non-invasively detect subtle
changes in the elasticity of large and small arteries. Vascular compliance or
elasticity has been researched for many years and clinical studies suggest that
a lack of arterial elasticity is an early indicator of vascular disease. The
Company has developed two models of its HDI/PULSEWAVE-TM-CardioVascular
Profiling Instrument (the "Product"). The Model CR-2000 is for research purposes
only (that is, not for screening, diagnosing, monitoring or determining
treatment of patients), and is currently being marketed. The Model DO-2020 is
for primary care physicians and other health care professionals, and will
require FDA clearance to market. The Model DO-2020 provides quantitative
measurements of 14 cardiovascular parameters, which the Company believes will
provide clinically valuable information to physicians in screening and
diagnosing individuals who may be at risk for future cardiovascular disease and
in monitoring the effectiveness of treatment of individuals with previously
diagnosed cardiovascular disease. The Company has submitted an application to
the FDA to market the Model DO-2020. The Company expects that the Model DO-2020
will eventually generate the majority of its revenues.
BACKGROUND
VASCULAR DISEASE
Disease of the blood vessels (vascular disease) is the leading cause of
death and a primary cause of heart attacks and strokes in the United States.
Vascular disease can manifest itself in many ways: hypertension, coronary artery
disease, peripheral artery disease, atherosclerosis, aneurysm, stroke, kidney
failure and retinopathy. According to a Fall 1997 memo by the National Heart,
Lung and Blood Institute, 58 million Americans have some form of cardiovascular
disease and hypertension is the leading cardiovascular disease. Coronary artery
disease affects 13.9 million Americans and is the nation's number one killer.
Stroke is ranked number three. According to a 1997 release by the National
Heart, Lung and Blood Institute, approximately 50 million Americans
(approximately 28% of the adult population in the United States) have been
diagnosed as suffering from hypertension, typically defined as a blood pressure
greater than 140 millimeters of mercury ("mmHg") systolic pressure and/or
greater than 90 mmHg diastolic pressure, with nearly 75% of those (37.5 million)
not properly treated for the condition and thus facing significantly increased
risk for heart and kidney disease and strokes. According to the Johns Hopkins
White Papers on Hypertension (1998), an additional 30 million Americans are
estimated to have "high-normal hypertension" (sometimes referred to as
"borderline hypertension"), defined as a blood pressure reading at or slightly
above 130/85 mmHg. These individuals are twice as likely to develop hypertension
and they have a greater risk of cardiovascular events than people with lower
blood pressure. In fact, high-normal blood pressure is so common in the United
States that the majority of cardiovascular events attributable to high blood
pressure occur in people who demonstrate this condition.
2
<PAGE>
Hypertension can easily go undetected and has been called the "silent
killer" because it usually produces no symptoms until after it seriously damages
the heart, kidneys, brain or some other organ. Elevated blood pressure indicates
that the heart is working harder than normal, putting both the heart and the
arteries under greater strain. Over time, these arteries become scarred,
hardened and less elastic, accelerating the process of atherosclerosis and
leaving one susceptible to heart attacks, strokes, kidney failure and eye
damage. According to the Archives of Internal Medicine (March 24, 1997), high
blood pressure is of particular concern to older adults, as levels increase with
age, and is present in more than half of Americans age 60 or older. The
seriousness of this problem increases as the population grows older because
individuals with sustained high blood pressure have an increased overall death
rate from stroke, heart attack and kidney disease.
Hypertension is a deadly disease that damages both large and small arteries,
leading to pathological changes in the tissues or organs supplied by these
damaged arteries, and accelerating the development of atherosclerosis (the
formation of plaque and the accumulation of fatty deposits lining the walls of
the artery which affect blood flow) in large blood vessels, and the arteries
supplying blood to the brain, heart, kidneys and legs. Atherosclerotic plaques
can cause mini-strokes (transient ischemic attacks) due to diminished blood flow
(ischemia) to parts of the brain; angina from partly obstructed coronary
arteries; or pain in the leg muscles when walking, a result of poor blood supply
to the legs (peripheral arterial disease). Blood clots, which tend to occur at
the sites of atherosclerotic narrowing, can totally block a vessel and cause a
stroke or heart attack.
Atherosclerosis begins in the wall of the artery with an early abnormality
in the lining of the arterial wall called the endothelium. The endothelium helps
to maintain the flexibility or elasticity of the artery and normally inhibits
the accumulation of lipid and cellular deposits into the arterial wall of the
artery. Abnormal function of the endothelium and the associated structural
changes in the wall result in a loss of elasticity of the small arteries.
Detection of this loss in elasticity can identify individuals with abnormal
arterial structure and function long before plaque formation can cause morbid
cardiovascular events. Furthermore, demonstration of normal arterial structure
and function might suggest that the individual does not have early
atherosclerosis and may not need aggressive risk factor management.
A number of risk factors for atherosclerosis have been identified, including
elevated blood pressure, elevated cholesterol level, smoking, diabetes and
family history of atherosclerosis. Clinical events associated with
atherosclerosis, including heart attacks (myocardial infarction), strokes,
angina (myocardial ischemia), peripheral vascular ischemia (claudication) and
renal failure are late manifestations of the disease as a result of plaque
formation that impinges on blood flow. The absence of a clinically applicable
method to detect the presence of atherosclerosis prior to plaque obstruction of
the lumen (the inner space in the blood vessel through which blood passes) has
led to widespread efforts to identify the risk factors in the entire population
and to intervene on those who harbor such risk factors. The problem with this
approach is two-fold: (a) patients without these risk factors will not be
identified even though up to half of the atherosclerotic clinical events occur
in individuals without any of the traditional risk factors; and (b) patients who
have one or more risk factors may be subjected to therapy even though they do
not have the atherosclerotic process the therapy is designed to inhibit.
THE CLINICAL PROBLEM
Cardiovascular specialists spend considerable effort on evaluating heart
function, including electrocardiograms (ECGs), echocardiograms and stress tests,
but have been unable to assess the functional and structural abnormality of the
arteries prior to the late phase of arterial obstruction. Blood pressure
measurement is a very insensitive and nonspecific means of assessing the
condition of the arteries. Traditionally, a patient's arterial blood pressure is
obtained clinically by using a sphygmomanometer which involves a cuff placed on
the patient's upper arm that is pressurized to occlude blood flow. As the cuff
pressure is gradually reduced, sounds are generated in the artery below the cuff
and these are identified by using a stethoscope placed over that artery. The
initial occurrence of sound as the cuff is deflated reflects
3
<PAGE>
the "systolic blood pressure" or the highest pressure generated during the
heart's contraction, and the pressure at which the sounds finally disappear is
taken as the "diastolic blood pressure," or the lowest pressure reached before
the next cardiac cycle.
Although an elevated blood pressure is associated with a higher risk for
cardiovascular events, the elevated blood pressure is not the disease but merely
a crude marker for the likelihood of disease. Furthermore, blood pressure itself
is highly variable from moment to moment and day to day. Measurement of
ambulatory blood pressure throughout the day provides a more accurate assessment
of the actual pressure but it is a cumbersome and expensive technique and still
does not demonstrate the disease in the blood vessels it is attempting to
identify. Elevated cholesterol, especially an increase in the low-density
lipoproteins/high-density lipoproteins ("LDL/HDL") ratio, also is associated
with a higher risk for morbid cardiovascular events, but this measurement does
not identify blood vessel disease but rather identifies a factor that might
accelerate blood vessel disease if it is present. Thus, the only methods in
routine use by physicians today to identify individuals who need treatment are
methods that are neither sensitive nor specific in detecting the blood vessel
disease that leads to morbid cardiovascular events.
THE COMPANY'S SOLUTION
The traditional systolic-diastolic method for measuring blood pressure
provides the physician with very limited clinical information about the
patient's vascular health. In contrast, the Company's Model DO-2020 measures a
blood pressure waveform produced by the beating heart that the Company believes
can be analyzed to provide an assessment of arterial elasticity. When the aortic
valve closes after the heart has ejected its stroke volume of blood (the blood
ejected during each heart beat), the decay or decrease of blood pressure within
the arteries prior to the next heart beat forms a pressure curve or waveform
which is indicative of arterial elasticity. Subtle changes in arterial
elasticity introduce changes in the arterial system that are reflected in the
arterial blood pressure waveform and research suggests that these changes in the
function and structure of the arterial wall precede the development of coronary
artery disease, or the premature stiffening of the small arteries which appears
to be an early marker for cardiovascular disease.
Incorporating the physiological phenomena associated with blood pressure
waveforms, Drs. Jay N. Cohn and Stanley M. Finkelstein, Professors at the
University of Minnesota in Minneapolis and two of the founders of the Company,
developed in the early 1980's a method for determining a measure of elasticity
in both large and small arteries. The technique involved an invasive procedure
that placed a catheter connected to a pressure transducer into the patient's
artery in order to obtain a blood pressure waveform that could be analyzed using
a modified Windkessel model, a well-established electrical analog model which
describes the pressure changes during the diastolic phase of the cardiac cycle
in the circulatory system.
This "blood pressure waveform" or "pulse contour" analysis method provided
an independent assessment of the elasticity or flexibility of the large arteries
which expand to briefly store blood ejected by the heart, and of the small and
very small arteries (arterioles) which produce oscillations or reflections in
response to the blood pressure waveform generated during each heart beat.
By assessing the elasticity of the arterial system, clinical investigators
have been able to identify a reduction in arterial elasticity in patients
without evidence of traditional risk factors, suggesting the early presence of
vascular disease. Furthermore, clinical research data has demonstrated that
individuals with heart failure, coronary artery disease, hypertension and
diabetes, typically exhibit a loss of arterial elasticity. These abnormal blood
vessel changes often appear to precede overt signs of cardiovascular disease and
the occurrence of a heart attack or stroke by many years. Clinical investigators
have also demonstrated an age-related loss of elasticity of both the large and
small arteries suggesting that premature stiffening of an individual's arteries
is an apparent marker for the early onset of cardiovascular disease.
4
<PAGE>
THE PRODUCT
Although the aorta and large arteries can be visualized by various
non-invasive techniques, such as radiology, magnetic resonance imaging ("MRI"),
computerized tomography ("CT") scans and ultrasonography, the Company believes
there is currently no clinical way to evaluate the elasticity of the small and
very small arteries which appear to be the first to become altered in
hypertension and other vascular diseases. For this reason, the Company sought an
easy to use, non-invasive solution that could assess the status of these small
blood vessels.
The Product incorporates a patented and proprietary instrument and
procedures which painlessly and non-invasively collects 30 seconds of blood
pressure waveform data, automatically analyzes this data by means of an embedded
computer and generates a CardioVascular Profile Report. Both models of the
Product consist of four primary components: (a) a non-invasive arterial pulse
pressure sensor placed over the radial artery at the wrist; (b) an upper-arm
blood pressure cuff connected to an oscillometric pressure module; (c) an
enclosure which contains a computer, other electronics and software programs;
and (d) an external printer.
PRODUCT MODELS
<TABLE>
<CAPTION>
USE BASIC FEATURES SPECIAL FEATURES
---------------------------- ---------------------------- ----------------------------
<S> <C> <C> <C>
MODEL DO-2020 . - Cardiovascular Specialists - Non-invasively collects - A brief medical history of
(Doctor's Office) - Cardiologists blood pressure waveform the patient is recorded by
- General Family Practice data. the nurse or technician.
Physicians - Performs a pulse contour - An internal modem
- Internists analysis on the digitized transmits data via a
- Nephrologists data. toll-free telephone line
- Generates a CardioVascular to CDMF.
Profile Report. - Upon FDA clearance of this
- Some Report parameters are model, the CardioVascular
displayed on the screen, Report may assist
and the entire Report is physicians in screening,
generated by an external diagnosing and monitoring
printer. the treatment of patients.
Model CR-2000 ......... - Pharmaceutical Companies - Non-invasively collects - A standard output port is
(Clinical Research) - Academic Research Centers blood pressure waveform included to allow Research
- Government Research data. Investigators to send
Centers - Performs a pulse contour blood pressure waveform
analysis on the digitized data and analyzed
data CardioVascular Profile
- Generates a research Report results to computer
version of a systems within their
CardioVascular Profile research facilities.
Report
- Some Report parameters are
displayed on the screen,
and the entire Report is
generated by an external
printer.
</TABLE>
5
<PAGE>
Following FDA clearance, the Model DO-2020 will initially be marketed to
cardiovascular specialists, cardiologists, general and family practitioners,
internists, nephrologists and other physicians in medical practices throughout
the United States. Because the Model DO-2020 provides an index of a patient's
arterial elasticity, the Company believes it could permit physicians to screen,
diagnose and monitor the treatment of patients with cardiovascular disease with
more reliability than other methods currently available. With the Model DO-2020,
physicians could have a simple, painless and non-invasive method to obtain vital
information on the vascular status of patients in support of their efforts to
identify individuals at risk for developing cardiovascular disease and to more
effectively monitor the treatment of patients receiving cardiovascular therapy.
The Company expects that the Model DO-2020 will eventually generate the majority
of its revenues.
The Model CR-2000 is being marketed to medical directors and research
investigators at pharmaceutical firms and academic research centers on a
worldwide basis. These organizations are in the business of conducting research
on a variety of therapies and have a strong interest in a non-invasive means of
gathering information from human research subjects.
CARDIOVASCULAR PROFILE REPORT
The CardioVascular Profile Report provides the following 14 cardiovascular
values:
- - A 1.5 Second Blood Pressure Waveform Graph
- - Systolic Blood Pressure (mmHg)
- - Diastolic Blood Pressure (mmHg)
- - Mean Arterial Pressure (mmHg)
- - Pulse Rate (beats/min)
- - Cardiac Ejection Time (msec)
- - Stroke Volume (ml/beat)
- - Stroke Index Volume (ml/beat/m2)
- - Estimated Cardiac Output (L/min)
- - Estimated Cardiac Index (L/min/m2)
- - Large Artery Elasticity Index (ml/mmHg X 10)
- - Small Artery Elasticity Index (ml/mmHg X 100)
- - Systemic Vascular Resistance (dynes-sec-cm-5)
- - Total Vascular Impedance (dynes-sec-cm-5)
Clinical research suggests that the arterial elasticity indices can be used
to determine the clinical age of the body's arteries and that these values, when
viewed in combination with a medical history, physical examination and/or other
tests, may provide a meaningful picture of vascular health for patients 15 years
of age and older. The large artery elasticity index and the small artery
elasticity index are of particular clinical importance in this assessment. These
indices indicate the elasticity or flexibility of the patient's large and small
arteries, which may be beneficial in distinguishing between individuals with
high-normal blood pressure and those with more severe vascular disease. These
indices also are expected to provide valuable information to physicians in
monitoring the effectiveness of treatment provided to patients with confirmed
cardiovascular disease as well as screening patients who may be at risk for
future vascular disease and/or life-threatening cardiovascular events.
The Model DO-2020 is designed to transmit patient information to a Central
Data Management Facility ("CDMF") installed on the Company's premises. A CDMF
capable of handling multiple simultaneous physician transmissions integrated
with the Company's tracking, billing and production systems, and capable of
storing cardiovascular profile information on several hundred thousand patients
from different age groups and with different disease states is currently being
designed and developed. The Company expects to compare the information
transmitted to data from age and gender-matched patients free of disease in
order to establish a range of clinical information useful to both the Company
and physicians.
6
<PAGE>
The Company believes the database may also prove useful to physicians in terms
of archiving patient profiles and trending patient data over time, enhancing the
accuracy of ranges for report parameters, and providing continuity of
CardioVascular Profile Reports for patients who may have been seen over a period
of time by several physicians in different parts of the United States.
Following completion of the CDMF, the Company may explore the possibility of
offering an Internet link to physicians (with security protection) via a Company
web site, allowing physicians to make direct inquiries into the database
regarding their patient records. The Company intends to provide primary care
physicians and other health care professionals with toll-free telephone access
to Company personnel to obtain technical Product support.
ANTICIPATED CLINICAL BENEFIT OF CARDIOVASCULAR PROFILES
The Company believes that non-invasively obtained arterial elasticity
measurements may be utilized to supplement traditional blood pressure
measurements and risk factor assessments, and thereby identify much more
precisely the early stages of vascular disease in patients. While current
methods focus on major health and genetic risk factors associated with the
development of cardiovascular disease, risk factors such as smoking, elevated
cholesterol levels, diabetes, obesity, lack of exercise, high blood pressure and
a family history of cardiovascular disease are merely statistical approximations
of the likelihood for development of the disease and do little to provide an
accurate indication of blood vessel abnormalities. A patient possessing such
risk factors has a greater probability of experiencing a life-threatening event
than a patient without them. According to the Johns Hopkins White Papers on
Coronary Heart Disease (1998), for approximately 20% to 40% of patients, a heart
attack is their first sign of cardiovascular disease.
In contrast, conducting a cardiovascular profile could provide physicians
with specific information on the status of an individual patient's vascular
system. The Company anticipates that patients identified with abnormal
cardiovascular profiles could be provided aggressive and immediate treatment
versus those who may only have a risk factor(s) but a relatively normal
cardiovascular profile. When vascular disease is diagnosed in its early stages,
the physician has an opportunity to intervene with lifestyle alterations or
certain drugs, such as lipid lowering therapy, calcium channel blockers,
angiotensin-converting-enzyme ("ACE") inhibitors or nitrate compounds, which may
slow or reverse the abnormal arterial function. Early detection, therefore, may
provide the opportunity for aggressive intervention that may prevent heart
attacks, strokes and other cardiovascular events.
THE ADVANTAGES: POTENTIAL BENEFICIAL MEDICAL OUTCOMES FOR PATIENTS AND PAYERS
During the last several years, research investigators have evaluated
hundreds of "normal" subjects as well as more than 250 patients with
cardiovascular disease. They have summarized their clinical research data in
order to establish the approximate "normal range" for arterial elasticity and
other cardiovascular parameters. Patients with normal blood pressure have been
identified who have "premature stiffening" of their small and very small
arteries. Without the benefit of a CardioVascular Profile Report, it is possible
that such patients would be considered "clinically normal and asymptomatic." It
is believed that the Model DO-2020 may help physicians identify these patients
and to intervene therapeutically.
Further, the Company believes there may be an advantage to using the Model
DO-2020 to clinically evaluate high-normal hypertensive patients in order to
decide who requires immediate and aggressive treatment versus those who might
merely need to be monitored on a periodic basis. This would be an important
clinical distinction which cannot be easily determined in medical practice
today. Some patients, therefore, are being treated needlessly despite cost
containment concerns and despite the potential for drug side effects (such as
liver dysfunction, sexual impotence, etc.). Further, it is possible that many
other patients with normal blood pressure readings who should perhaps be treated
for a latent hypertensive condition of their arteries, are being misdiagnosed,
thereby leaving them at risk for progressive and severe cardiovascular disease.
7
<PAGE>
The Company believes that arterial compliance is becoming an increasingly
important clinical parameter in the treatment of cardiovascular disease.
According to an article by Stephen P. Glasser et al, in the Journal of Clinical
Pharmacology (1998), a drug's effect on arterial compliance (distinct from the
drug's effect on blood pressure and/or vessel size, both important interrelated
parameters in regard to compliance) is potentially an important consideration in
selecting optimal drug therapy because many cardiovascular drugs exert their
primary and secondary effects on cardiovascular hemodynamics and/or vascular
wall integrity. These considerations are important because a reduction in
arterial compliance has long been regarded as a potentially useful indicator of
the presence of arterial disease. Further, changes in the arterial wall leading
to reductions in arterial compliance may precede the onset of clinically
apparent disease, and may identify individuals at risk before disease onset
(symptoms due to disease are in general late manifestations of alterations in
organ function). Thus, drugs that favorably impact arterial compliance may play
a significant role in reducing morbidity and mortality.
CLINICAL RESEARCH STUDIES
To date, the core blood pressure waveform analysis method (which has been
incorporated into the Company's Product) has been used to clinically evaluate
more than 2,500 patients and research subjects, many of whom had a confirmed
diagnosis of cardiovascular disease. The clinical research studies involving
these patients and subjects were conducted at one of several clinics or medical
facilities at the University of Minnesota Hospital & Clinic, the Minneapolis
Veterans Administration Medical Center and other Clinical Investigator sites.
Some of the sites which have collaborated with the Company include:
- - The University of California Irvine, California
- - Veterans Administration Medical Center, Irvine, California
- - Tulane University Medical Center, New Orleans, Louisiana
- - Louisiana State University, New Orleans, Louisiana
- - Duke University Medical Center, Raleigh-Durham, North Carolina
- - Wayne State University Medical Center, Detroit, Michigan
- - Indiana University Medical Center, Indianapolis, Indiana
- - Queen's University Hospital, Belfast, Northern Ireland
- - Ghent University Hospital in Belgium
- - The Hypertension Center at the Wolfson Medical Center in Holon, Israel
- - Berman Research Center, Minneapolis, Minnesota
Some of these sites initially acquired blood pressure waveform data
utilizing invasive means, and, more recently, by using a non-invasive approach.
Clinical research studies continue to be conducted in conjunction with
nationwide governmental investigations, experiments by independent researchers
and as part of clinical trials for pharmaceutical firms. Some of these
investigations are being undertaken by members of the Company's Scientific and
Clinical Advisory Board.
The cardiovascular profile data obtained during these clinical research
studies have been summarized and presented formally at numerous scientific and
medical meetings during the last decade. The data have also been presented in
approximately 30 peer-reviewed articles published in medical journals.
MARKETS
Within the United States health care industry, which is estimated at
approximately $1 trillion by the United States Department of Health and Human
Services (December 15, 1997), cardiovascular disease is expected to account for
$274 billion (27%) in 1998, with approximately $26 billion of that spent on
physician and other professional services, according to American Heart
Association estimates. Although significant advances have been made in the
prevention and treatment of heart attacks and strokes during the past few
decades, these diseases remain among the leading causes of death in the United
States and many other countries.
8
<PAGE>
- - According to the American Heart Association, cardiovascular disease is the
leading cause of death in the United States accounting for more than
one-half of all deaths (over one million) every year.
- - More than one million Americans suffer heart attacks annually the first sign
of cardiovascular disease in 20% to 40% of patients. (Sources: 1997 Heart
and Stroke Statistical Update, American Heart Association (1996); Johns
Hopkins Coronary Heart Disease)
- - According to a 1997 release by the National Heart, Lung and Blood Institute,
approximately 50 million adults (approximately 28% of the adult American
population) are currently diagnosed with high blood pressure, with nearly
75% of those (37.5 million) not properly treated for the condition.
- - According to the Johns Hopkins White Papers on Hypertension (1998), an
additional 30 million American adults are estimated to have "high-normal
hypertension."
- - Hypertension is present in more than 50% of Americans age 60 or older.
(Source: Archives of Internal Medicine, Volume 157, Number 6, March 24,
1997.)
- - Stroke accounts for about one in every 15 deaths in the United States.
(Sources: 1997 Health Care Almanac & Yearbook; 1997 Heart and Stroke
Statistical Update, American Heart Association)
- - According to a March 1997 survey by the Pharmaceutical Research and
Manufacturers of America, research expenditures within the United States by
all research-based pharmaceutical companies is estimated at $15 billion in
1997.
- - Cardiovascular research and development is estimated to account for
approximately $3.1 billion to $3.97 billion (or 16% to 21% of all United
States research and development spending in 1997). (Source: Parexel's
Pharmaceutical R&D Statistical Sourcebook (1997))
Because of the magnitude of the impact which cardiovascular disease has on
the United States population, the Company believes it has a significant
opportunity for providing a more accurate and effective means with which to
screen, diagnose and monitor the treatment of patients with cardiovascular
disease. Furthermore, cardiovascular disease is a major cause of death in many
other developed countries throughout the world.
THE PRACTICING PHYSICIAN MARKET
The Model DO-2020 is intended to be used by physicians or trained medical
personnel. The Company's focus will be on the practice of cardiovascular
medicine within these facilities and, in particular, those health care
professionals who are directly involved in the screening, diagnosis, treatment
and monitoring of patients with cardiovascular disease. Current AMA estimates
indicate there are approximately 650,000 active physicians in the United States,
approximately 250,000 of which fall into the target market as potential users of
the Model DO-2020:
- - Approximately 120,000 internal medicine physicians
- - Approximately 80,000 general and family practice physicians
- - Approximately 30,000 medical sub-specialty physicians
- - Approximately 20,000 cardiovascular disease specialists
THE RESEARCH MARKET
The Model CR-2000 is being marketed to medical directors and research
investigators at pharmaceutical firms and academic centers on a worldwide basis.
The Company believes that these research centers, especially those in the United
States, have a strong interest in a non-invasive means of gathering information
from human research subjects.
According to the Tufts Center for the Study of Drug Development and a
February 1993 report by the U.S. Congressional Office of Technology Assessment,
it costs a company, on average, $359 million and
9
<PAGE>
about fifteen years to get one new drug from the laboratory to the pharmacist's
shelf. According to the Pharmaceutical Research and Manufacturers of America,
only five in 5,000 chemical compounds that enter preclinical testing are
ultimately subjected to human testing and only one in five of those is
ultimately approved. The Company believes the Model CR-2000 provides a new means
for gathering information on additional variables during research.
The clinical research market is diverse, with pharmaceutical companies, the
federal government and medical device manufacturers funding the vast majority of
research. According to annual surveys by the Pharmaceutical Research and
Manufacturers of America, pharmaceutical companies spent an estimated $13.6
billion and $15 billion on all R&D within the United States in 1996 and 1997,
respectively. Of this amount, spending on clinical development in Phases I to IV
of research was approximately $4.8 billion in 1996. In most cases, the direct
costs of physician payments and the costs of additional medical care due to the
trial are paid directly to the provider organization by the pharmaceutical study
sponsor.
The Company has identified three markets for the Model CR-2000:
PHARMACEUTICAL COMPANIES. There are approximately 1,950 firms conducting
clinical research trials in the United States. Nonetheless, according to
Parexel's Pharmaceutical R&D Statistical Sourcebook 1997, a small number of
pharmaceutical firms in the United States accounted for the majority of all
research and development spending. These pharmaceutical firms often seek new
ways to gather additional information non-invasively on human subjects during
research trials.
ACADEMIC CENTERS. Hundreds of universities throughout the world conduct
research under grants supplied by government agencies, disease management
foundations and private sponsors. Universities with research centers conducting
clinical trials in the areas of preventative cardiology, nephrology and
epidemiology are a particular target market for the Model CR-2000.
THE U.S. GOVERNMENT. The National Institutes of Health and Veterans'
Affairs Medical Centers, the Agency for Health Care Policy and Research and the
Centers for Disease Control and Prevention conduct large-scale research
projects. These organizations represent a market opportunity for the Model
CR-2000.
The Company anticipates that use of the Model CR-2000 in research settings
will not only provide information contributing to the advancement of significant
cardiovascular research, but also will likely lead to the publication of
favorable articles in respected medical journals that will promote a greater
awareness of arterial elasticity and its correlation with cardiovascular
disease.
MARKETING STRATEGY
The Company's primary objective is to establish the Product as the standard
of non-invasive patient cardiovascular screening and the predominant methodology
used for the diagnosis and monitoring of patients with cardiovascular diseases.
MODEL DO-2020
Once the Model DO-2020 obtains FDA clearance to market in the United States,
the Company intends to direct its sales and marketing efforts at physicians who
screen, diagnose and monitor the treatment of patients with cardiovascular
disease. The Company will seek to gain Product acceptance by implementing a
strategy that promotes the Product's benefits directly to people who have, or
are at risk for developing, cardiovascular disease, and to educate healthcare
professionals, managed care decision makers and insurers as to the potential
advantages involved in early detection of cardiovascular disease. The Company's
education and awareness strategy will also focus on the publication of
additional research covering performance and utility of the Product and
attendance at major cardiovascular conventions.
The introduction of the Model DO-2020 will occur in three stages. The first
will consist of a controlled introduction to key physicians in the United States
in order to allow the Company sufficient time to
10
<PAGE>
develop a strong referral base among opinion leaders and to allow for an orderly
and efficient scaling-up of the Company's production capabilities. Following a
successful introduction of the Product, the Company plans to implement a
nationwide marketing campaign directed towards primary care physicians and other
health care professionals. The third stage will target international
cardiovascular markets.
Following FDA clearance, the Company will focus early marketing and
education efforts on United States physicians who evaluate individuals at risk
for developing cardiovascular disease and monitor patient response to
cardiovascular therapy. In an effort to encourage rapid acceptance of the
Product, the Company anticipates offering the Model DO-2020 to physicians on a
"per-patient" or "per-report" billing basis. Because reimbursement is a key
component of physician acceptance, the Company has retained a reimbursement
consulting firm to assist in payer education and claims approval. Invoices for
physician use of the Product will be generated based on the number of
CardioVascular Profile Reports that are transmitted to the Company's CDMF each
month.
The Company anticipates using a core direct sales force to call on key
cardiovascular opinion leaders and to establish distribution arrangements with
independent and/or contract sales representatives and medical companies with
complementary distribution networks. Long term, the Company intends to promote
the Product to people at risk for developing cardiovascular disease through
public relations materials, advertising and a Company Internet web site.
MODEL CR-2000
The Company is currently using various direct and indirect methods to market
the Model CR-2000 including direct mail, attendance at major medical conventions
and the use of a limited direct sales force to market the Product to
pharmaceutical companies, academic centers and major cardiovascular research
centers for gathering information from human subjects. The Company anticipates
using a core direct sales force to sell the Model CR-2000 and to identify and
manage independent and/or contract sales representatives for marketing the Model
DO-2020 following FDA clearance. The Company has established a sale price of
$18,750 for the Model CR-2000. Higher than expected manufacturing, marketing or
distribution costs or competitive pressures may, however, force the Company to
raise or lower the price of the Product.
PRODUCTION
The design, development and integration of all of the components necessary
to fabricate and manufacture the Product was undertaken on behalf of the Company
by a contract design engineering firm. The Company has completed a pilot
production run to evaluate the design and functionality of hardware components
from a manufacturing and user standpoint and to test and modify as necessary the
operation of various software components. According to testing performed at TUV
Product Services, Inc., the Product has been found to be in compliance with the
electromagnetic compatibility immunity requirements and the requirements for
displaying the CE Mark. The Model DO-2020 was also investigated by Underwriters
Laboratories, Inc., is UL listed and will display the UL label.
In the interest of flexibility and efficiency, the Company anticipates using
a contract manufacturing firm to produce the components and to manufacture the
Product on a contractual basis. Final Product assembly, testing, packaging and
shipping will be conducted by the Company at its facility in compliance in all
material respects with the FDA's Quality System Regulations ("QSR").
An integral component of the Company's Product is the Sensor. While Sensors
utilized in prototypes of the Product have performed reliably, the Company is
uncertain as to whether Sensors will be available on a commercial basis, and if
available, whether such Sensors will be reliable and accurate in their
performance during clinical use. Should the Company be unable to obtain an
adequate supply of Sensors meeting its standards of reliability, accuracy and
performance, the Company would be materially adversely affected. The Company
currently obtains the Sensor from a single source. The Company has a
manufacturing services agreement with the sole supplier of the Sensor.
Disruption or termination of this relationship would have a material adverse
effect on the Company's operations.
11
<PAGE>
COMPETITION
Competition in the medical device industry is intense and many of the
Company's competitors have substantially greater financial, manufacturing,
marketing, distribution and technical resources than the Company. The Company
directly competes with manufacturers of sphygmomanometers, as well as drug,
medical instrument and health care companies. In addition, the Company is aware
of other companies that are developing products that measure arterial
elasticity. To the best of the Company's knowledge, no products which measure
both large and small artery elasticity have yet obtained FDA clearance to market
within the United States and no other products developed appear capable of
providing both large artery and small artery elasticity values. The Company is
aware of five other firms that are developing products that attempt to measure
vascular elasticity and which may be viewed as competitive alternatives. The
five firms are International Medical Device Partners (Las Vegas, Nevada), ASULAB
Research Labs of the SMH Group (Neuchatel, Switzerland), Pulse Metric, Inc. (San
Diego, California), PWV Medical Ltd. (Sydney, Australia) and Specaway Pty Ltd.
(St. Pauls New South Wales, Sydney, Australia). One such firm has received FDA
clearance to market a device which claims to evaluate a patient's general
cardiovascular condition.
GOVERNMENT REGULATION
Medical devices including the Company's Model DO-2020 are subject to strict
regulation by state and federal authorities, including the FDA and comparable
authorities in certain states. Under the 1976 amendments to the Federal Food,
Drug and Cosmetic Act (the "FDCA") and the regulations promulgated thereunder,
manufacturers of medical devices are required to comply with very specific rules
and regulations concerning the testing, manufacturing, packaging, labeling and
marketing of medical devices. Failure to comply with the FDCA and any applicable
regulatory requirements could result in, among other things, civil and criminal
fines, product recalls, detentions, seizures, injunctions and criminal
prosecutions.
Before a new medical device may be introduced into the U.S. market, the
manufacturer generally must obtain prior authorization from the FDA. Such
authorization is based on a review by the FDA of the medical device's safety and
effectiveness for its intended uses. Medical devices may be authorized by the
FDA for marketing in the United States either pursuant to a 510(k) Pre-Market
Notification ("510(k)") application or a Pre-Market Approval ("PMA") submission.
The process of obtaining clearances or approvals from the FDA and other
applicable regulatory authorities can be expensive, uncertain and time
consuming, frequently requiring several years from the commencement of clinical
trials or submission of data to regulatory acceptance.
A PMA submission consists of information provided to the FDA sufficient to
establish independently that a device is safe and effective for its intended
use. By statute, the FDA is required to respond to a PMA submission within 180
days from the date of its submission; however, the approval process usually
takes substantially longer, often as long as several years. On the other hand, a
510(k) application requires an applicant to show that a medical device is
"substantially equivalent" in terms of safety and effectiveness to a predicate
product marketed prior to 1976 or to an instrument already cleared by the FDA
for marketing in the United States. In practice, clearance of products often
takes substantially longer than the statutory 510(k) application review period
of 90 days.
FDA clearances and approvals, if granted, may include significant
limitations on the intended uses for which a product may be marketed. FDA
enforcement policy strictly prohibits the promotion of cleared or approved
medical devices for nonapproved or "off-label" uses. In addition, product
clearances or approvals may be withdrawn for failure to comply with regulatory
standards or the occurrence of unforeseen problems following initial marketing.
Marketing of the Model DO-2020 Product in the United States will require
clearance or approval by the FDA. The Company has submitted a 510(k) application
to the FDA. However, the FDA may decide that one or more of the proposed claims
or indications for use of the Model DO-2020 cannot be cleared by
12
<PAGE>
means of the 510(k) process. In that case, the FDA might require that the
Company seek approval for the device or particular claims or indications by
means of a PMA submission which could substantially delay using such claims or
indications or marketing the Model DO-2020. There is no assurance that the FDA
will clear or approve the Model DO-2020 Product.
The Model CR-2000 is intended for use in research markets and therefore the
Company believes it does not require FDA clearance. The FDA could disagree with
the Company's interpretation of the regulations and require a 510(k) application
or PMA submission which, if pursued, may not be cleared or approved or, if
approved, may contain certain significant limitations on the intended uses for
which the product is marketed.
Sales of medical devices outside of the United States are subject to foreign
regulatory requirements that vary from country to country. The time required to
obtain clearance by a foreign country may be longer or shorter than that
required for FDA clearance, and the requirements may differ. Export sales of
certain devices that have not received FDA marketing clearance generally are
subject to both FDA export permit requirements and, in some cases, general U.S.
export regulations. In order to obtain a FDA export permit, the Company may be
required to provide the FDA with documentation from the medical device
regulatory authority of the country in which the purchaser is located. No
assurance can be given that foreign regulatory clearances or approvals will be
granted on a timely basis, if ever, or that the Company will not be required to
incur significant costs in obtaining or maintaining its foreign regulatory
clearance or approvals.
The Company's contract design and manufacturing organizations, as well as
the Company itself, are subject to regulation by the FDA in connection with the
design and manufacture of the Model DO-2020, including, but not limited to,
required compliance with the FDA's Quality System Regulation ("QSR") and
equivalent state and foreign regulations. Failure of any of these organizations
to comply with those regulations may subject one or more of those organizations,
or the medical device designed and produced for and by the Company, to
regulatory action. Such a regulatory action could threaten or cut off the
Company's source of supply or cause the FDA to order the removal of the Product
from the market. While the Company believes it could locate and qualify other
sources to design or manufacture medical device products, supply interruptions
in the meantime would have a materially adverse effect on the Company's
business, financial condition and results of operations.
Federal, state and foreign regulations regarding the manufacture and sale of
healthcare products and diagnostic devices are subject to future change. The
Company cannot predict what material impact, if any, such changes might have on
its business. Future changes in regulations or enforcement policies could impose
more stringent requirements on the Company, compliance with which could
adversely affect the Company's business. Such changes may relax certain
requirements, which could prove beneficial to the Company's competitors and thus
adversely affect the Company's business. In addition, regulations of the FDA and
state and foreign laws and regulations depend heavily on administrative
interpretations, and there can be no assurance that future interpretations made
by the FDA, or other regulatory authorities, with possible retroactive effect,
will not adversely affect the Company.
In addition to the regulations directly pertaining to the Company and its
products, many of the Company's potential customers are subject to extensive
regulation and governmental oversight. Regulatory changes in the healthcare
industry that adversely affect the business of the Company's customers could
have a material adverse effect on the Company's business, financial condition
and results of operation.
There can be no assurance that the Company will be able to obtain necessary
regulatory clearances or approvals in the United States or internationally on a
timely basis, if ever. Delays in the receipt of, or failure to receive, such
clearances or approvals, or failure to comply with existing or future regulatory
requirements would have a material adverse effect on the Company's business,
financial condition and results of operations.
13
<PAGE>
REIMBURSEMENT
The Company anticipates that most revenue affiliated with physician use of
the Model DO-2020 Product will be derived from insurance coverage and third
party payers. The patient payer marketplace includes commercial insurers, Blue
Cross/Blue Shield plans and Health Maintenance Organizations ("HMOs"), with
Medicare, other federally funded and "self-pay" plans accounting for a smaller
percentage of the payers. Each payer group establishes its own coverage and
procedure payment schedule resulting in a range of allowable payments. Physician
reimbursement is an important aspect in the Model DO-2020's success. Without
adequate levels of reimbursement, physicians will be reluctant to try the Model
DO-2020, if at all. There is no assurance that adequate third-party
reimbursement for the Model DO-2020 Product will be available.
The Health Care Financing Administration ("HCFA") a division of the
Department of Health and Human Services ("HHS"), has established three levels of
coding for health care products and services: Level I, Current Procedural
Terminology ("CPT") codes for physicians' services; Level II, National Codes for
supplies and certain services; and Level III, local codes. The coding system
applicable to the Model DO-2020 is Level I. Insurers require physicians to
report their services with the CPT coding system.
Following FDA clearance for the Product, the Company will work with the
American Medical Association ("AMA") to determine whether the Product falls
within any existing CPT codes or whether the Product requires a new code
application or code revision. In the event the AMA determines that none of the
existing CPT codes are appropriate for the Company's Model DO-2020, the Company
believes that it will take 12 to 24 months to obtain a Model DO-2020
technology-specific CPT code. During this time, physicians may use a
"miscellaneous code" for patient billing purposes, although the level of
reimbursement they receive, if any, will depend on each individual payer's
assessment of the procedure.
PATENTS AND PROPRIETARY TECHNOLOGY
The Company's success depends, in part, on its ability to maintain patent
protection for its products and processes, and to preserve its trade secrets and
to operate without infringing the property rights of third parties. The Company
is the exclusive assignee for one issued United States patent and has obtained
the exclusive rights to commercialize inventions (on a worldwide basis)
described by three other United States patents issued to the University. These
four patents relate to the Company's blood pressure waveform analysis
procedures, its cardiovascular profiling technology, the non-invasive
determination of cardiac output, and the overall technology and operation of the
Products. The license from the University expires with the term of these patents
(currently expected to be in 2012). Patent applications regarding one or more of
these United States issued patents are currently pending in Japan as well as in
Germany, France and the United Kingdom. In addition, one United States patent,
which broadens the claims of an earlier issued United States patent, has been
allowed and while not assured, the Company believes it may be issued soon. The
Company has three other patent applications that were submitted regarding
certain other aspects and components of the Product. No assurance can be given
that the Company's current patent and licenses will provide a competitive
advantage, that the pending applications will result in patents being issued, or
that competitors of the Company will not design around any patents or licenses
issued to the Company.
Besides seeking additional patents, the Company intends to rely to the
fullest extent possible on certain trade secrets, on proprietary "know-how", and
on its ongoing endeavors involving product improvement and enhancement. No
assurance can be given that nondisclosure agreements and invention assignment
agreements will protect the Company's proprietary information and know-how or
provide adequate remedies in the event of unauthorized use or disclosure of such
information, or that others will not be able to develop independently such
information.
14
<PAGE>
UNIVERSITY OF MINNESOTA RESEARCH AND LICENSE AGREEMENT
On September 23, 1988, the Company entered into a Research and License
Agreement (the "University License Agreement") with the University, pursuant to
which the University granted to the Company an exclusive, worldwide license to
use the Product for diagnostic, therapeutic, monitoring and related uses. The
University License Agreement expires with the last to expire of the patents
related to the licensed technology (currently expected to be in 2012). The
Company also has the right to grant sub-licenses to produce products and provide
services based on the technology.
In consideration of the University License Agreement, the Company conducted
expanded clinical trials of arterial compliance technology and is continuing to
use its best efforts to develop commercial medical devices. The Company must pay
a royalty on revenue from commercialization of the Products (or future products,
which incorporate the licensed arterial compliance technology), in the amount of
3% of gross revenue (less certain reductions, such as returned goods).
EMPLOYEES AND CONSULTANTS
The Company currently employs five full-time employees. The Company
anticipates hiring approximately 10 additional personnel during the next 12
months for marketing and sales activities, for plant operations and assembly
tasks, for computer software and data base endeavors and for clinical and
customer support needs including accounting and administrative staff. The
Company believes that its relations with its employees are good.
In addition to vendors under contract to the Company regarding specific
product-related tasks, the Company has consultant relationships with several
experts including: (a) several experts in regulatory affairs and FDA matters;
(b) Jay N. Cohn, M.D. as its Chief Clinical Consultant; (c) Stanley M.
Finkelstein, Ph.D. as its Chief Technical Consultant; (d) a consulting firm for
computer software engineering design and programming; (e) a consulting firm for
medical electronic manufacturing and production engineering tasks; (f) a
consulting firm for third-party reimbursement; and (g) several experts in sales
and marketing. Additional consultants may be retained as necessary to
accommodate the Company's need for experts in selected areas of product-related
activities.
RISK FACTORS
The following are important factors that could cause actual results to
differ materially from those anticipated in any forward-looking statements made
by or on behalf of the Company.
DEVELOPMENT STAGE COMPANY; SUBSTANTIAL ANTICIPATED FUTURE LOSSES
The Company is a development stage company that until April 1998 has been
engaged primarily in research, design, development and commercialization of the
Company's Product. While the Company has developed a commercial version of the
Model CR-2000 and a version of the Model DO-2020, the Company has only since
April 1998 commenced marketing efforts for the Model CR-2000 and has not yet
generated any revenues. As of June 30, 1998, the Company had a deficit
accumulated during the development stage of $(3,276,249). The Company expects to
continue to incur substantial net operating losses as clinical testing, research
and development, sales and marketing activities and operations continue.
The likelihood of the success of the Company must be considered in light of
the expenses, difficulties and delays frequently encountered in connection with
development stage businesses and the competitive environment in which the
Company will operate. The Company's ability to achieve profitability is
dependent in large part on obtaining timely FDA clearance for its Model DO-2020,
the availability of third party reimbursement, gaining market acceptance of its
Product, establishing distribution channels and developing the capacity to
manufacture and sell its Product successfully. There can be no assurance that
the Company will successfully market either model of its Product or operate
profitably.
15
<PAGE>
LIMITED FINANCIAL RESOURCES; NEED FOR ADDITIONAL FINANCING
The Company's ability to execute its business strategy depends to a
significant degree on its ability to obtain substantial equity capital and other
financing. The Company's business strategy requires a large capital outlay for
equipment which is to be placed in a physician's office without charge.
Consequently, the Company will necessarily build up and maintain an inventory of
equipment before the Company will know whether its business strategy will be
successful. The proceeds of the Company's recently completed initial public
offering are expected to be sufficient to fund the Company's operations through
the next 18 to 24 months. Although the Company estimates that the proceeds from
such offering will be sufficient to allow initial marketing of both models of
the Company's Product, no assurance of such can be given. Any unforeseen
contingencies, including, but not limited to, delays in FDA clearance of the
Model DO-2020, unanticipated expenses or delays in CDMF development,
unavailability of third party reimbursement, delays or limited market
acceptance, delays in establishment of distribution channels, shortage of
components or delays in manufacturing may impede the Company's initial marketing
efforts. If the proceeds of the initial public offering are not sufficient to
achieve initial marketing of both models of the Company's Product, the Company
will be required to seek additional funds through another offering of the
Company's equity securities or by incurring indebtedness. If additional funds
are required, there can be no assurance that any additional funds will be
available on terms acceptable to the Company or its security holders, or at all,
or that any future capital that is available will be raised on terms that are
not dilutive to investors. The Company's business plan and financing needs are
subject to change depending on, among other things, market conditions, business
opportunities and cash flow from operations, if any.
LACK OF FDA CLEARANCE FOR PRODUCT
The Company believes that the Model CR-2000 does not need either FDA
clearance or approval prior to marketing to research institutions for research
use only. However, the FDA could disagree with the Company's position and
require a 510(k) application or PMA submission for the Model CR-2000, which, if
pursued, may not be cleared or approved, or if cleared or approved, may contain
significant limitations on the intended uses for which the Product is marketed.
In contrast, the Company's Model DO-2020 will be regulated by the FDA as a
medical device and will need FDA clearance or approval prior to being marketed
in the United States. Clearance for marketing of the Company's Model DO-2020 has
not been received from the FDA. The Company has recently submitted a 510(k)
application to the FDA. However, the FDA may decide that one or more of the
proposed claims or indications for use of the Model DO-2020 cannot be cleared by
means of the 510(k) process. In that case, the FDA might require that the
Company seek approval for the device or particular claims or indications by
means of a PMA submission which could substantially delay marketing the device
or using such claims or indications for marketing purposes by several months or
even years.
The process of obtaining FDA clearance or approval can be lengthy and could
require additional clinical testing and expenditure of financial and other
substantial resources. The timing of the FDA clearance or approval process is
unpredictable and there can be no assurance that the Company's 510(k)
application for marketing the Model DO-2020 will ultimately receive FDA
clearance. FDA clearance and/or approval, if granted, may include significant
limitations on the intended uses for which a product may be marketed. FDA
enforcement policy strictly prohibits the promotion of cleared or approved
medical devices for nonapproved or "off-label" uses. In addition, product
clearances may be withdrawn for failure to comply with regulatory standards or
the occurrence of unforeseen problems following initial marketing. Failure to
receive necessary regulatory clearances or approvals or a lengthy approval
process would have a material adverse effect on the Company's business,
financial condition and results of operations.
16
<PAGE>
UNCERTAINTY OF THIRD-PARTY REIMBURSEMENT
The Company's financial performance will depend in large part on the extent
to which reimbursement for the cost of medical products and services will be
available from government health administration authorities, private health
coverage insurers and other payer organizations, if at all. No third-party payer
has yet approved reimbursement for use of the Company's Model DO-2020.
Significant uncertainty exists as to the pricing, availability of distribution
channels and reimbursement status of new medical products, and there can be no
assurance that adequate third-party reimbursement will be available for the
Model DO-2020. In certain foreign markets, pricing or profitability of health
care products is subject to government control. Inability of the Company to
obtain third-party reimbursement for the Product would have a material adverse
effect on the Company.
NEW PRODUCT; UNCERTAINTY OF MARKET ACCEPTANCE OF PRODUCT OR MEDICAL
APPLICATION OF TECHNOLOGY
The Company's financial performance will depend in large part upon FDA
clearance of the Model DO-2020 and the extent to which the respective models of
the Product are accepted by researchers (Model CR-2000) as useful, and by
physicians (Model DO-2020) as effective, reliable and safe for use in screening,
diagnosing and monitoring the treatment of patients with vascular disease. If
the Model DO-2020 does not achieve market acceptance due to lack of appropriate
third-party reimbursement, FDA clearance, acceptance of test data as reliable
and beneficial, operational problems with the CDMF or any other factors which
prohibit acceptance by physicians, the Company will likely be required to cease
operations. The Company is unable to predict how quickly or how broadly either
model of its Product will be accepted by the market, if at all, or if accepted,
what the demand for them could be. Achieving market acceptance will require the
Company to educate the marketplace about the anticipated benefits associated
with the use of the Company's Product and may also require the Company to obtain
and disseminate additional data acceptable to the medical community as evidence
of such benefits. Because the Company's Product represents a new approach for
evaluating vascular disease, there may be a greater reluctance to accept the
Company's Product than would occur with products utilizing more traditional
technologies or methods of diagnosis, resulting in longer sales cycles and
slower revenue growth than currently anticipated. There can be no assurance that
the Company will be successful in educating the marketplace about its Product or
that available data concerning these benefits will create a demand by the
medical community for the Company's Product. Furthermore, the Company's Product
will be substantially more expensive to operate than the traditional blood
pressure testing instrument, the sphygmomanometer. There can be no assurance
that physicians will utilize the Model DO-2020 once installed, or that the
Company's services will be profitable to or become generally accepted by such
physicians. In addition, the Company's Product is premised on the medical
assumption that a loss of arterial elasticity is an indicator for the early
onset of cardiovascular disease. While the Company believes, based on its
clinical studies, that the loss of arterial elasticity is an indicator for the
early onset of cardiovascular disease, there can be no assurance that the
Company's claims will be accepted by the medical community.
LACK OF DEVELOPMENT OF CENTRAL DATA MANAGEMENT FACILITY
An integral component of the Model DO-2020 is a fully operational CDMF. Each
Model DO-2020 will be equipped with an internal modem designed to transmit
patient profiles to the CDMF via a dedicated, toll-free telephone number. The
Company's current working version of the CDMF has only limited communication and
storage capability, and is sufficient only for conducting clinical trials. The
Company estimates that the design and development of a CDMF capable of handling
multiple simultaneous physician transmissions integrated with the Company's
tracking, billing and production systems, and capable of storing several hundred
thousand patient records will require approximately $750,000 to complete. There
can be no assurance that the actual cost of developing a full scale CDMF will
not exceed such estimated amount. In addition, once a full scale CDMF is
developed, the Company will be required to hire additional personnel to operate
the CDMF. The Company is currently developing a full scale CDMF;
17
<PAGE>
however, if CDMF completion should be delayed, the Company's efforts to market
the DO-2020 will also be delayed, which would materially adversely affect the
Company.
LACK OF MANUFACTURING EXPERIENCE; DEPENDENCE ON THIRD-PARTY MANUFACTURERS
To date, the Company has relied on independent contractors and consultants
for manufacturing of both models of the Product. For the Company to be
financially successful, its products must be manufactured in accordance with
strict regulatory requirements, in commercial quantities, at appropriate quality
levels and at acceptable costs. To date, the Company's Product has been
manufactured in limited quantities and not on a commercial scale. As a result,
there can be no assurance that the Company will not encounter difficulties in
obtaining reliable and affordable contract manufacturing assistance and/or in
scaling up manufacturing capabilities, including problems involving production
yields, per-unit manufacturing costs, quality control, component supply and
shortages of qualified manufacturing personnel. In addition, there can be no
assurance that the Company will not encounter problems relating to integration
of components if changes are made in the present models' configuration. Any such
difficulties could result in the inability of the Company to satisfy any
customer demand for its Product in a cost-effective manner and would likely have
a material adverse effect on the Company.
SINGLE SOURCE OF SUPPLY OF SENSOR AND OTHER COMPONENTS
The Company currently obtains its proprietary arterial pulse pressure sensor
(the "Sensor"), an integral component of the Company's Product, from a single
source. The Company has a manufacturing services agreement with Apollo Research
Corp., the sole supplier of the Sensor. Disruption or termination of this
relationship could have a material adverse effect on the Company's operations.
While the Company has no reason to believe that this relationship will be
disrupted or terminated, the inability to obtain sufficient quantities of the
Sensor meeting its standards of reliability, accuracy and performance or the
need to develop alternative sources in a timely and cost effective manner, if
and as required in the future, would adversely affect the Company's operations
until new sources of the Sensor become available, if at all. In addition, while
the Sensor utilized in prototypes of the Product has performed reliably, there
is no assurance that reliable Sensors will be available on a large-scale
commercial basis. Should the Company be unable to obtain an adequate supply of
Sensors or other components meeting its standards of reliability, accuracy and
performance, the Company would be materially adversely affected, including
delays due to the unavailability of Products to sell, delays in obtaining FDA
clearance of the Model DO-2020 and new patent applications.
INTENSE COMPETITION
Competition from medical devices which are used to screen, diagnose and
monitor the treatment of patients with cardiovascular disease is intense and
likely to increase. The Company competes with manufacturers of, for example,
non-invasive blood pressure monitoring equipment and instruments, and may
compete with manufacturers of other non-invasive devices. In addition, the Model
DO-2020 will also compete with traditional blood pressure testing by means of a
standard sphygmomanometer which is substantially less expensive than the
Company's Product. Many of the Company's competitors and potential competitors
have substantially greater capital resources, name recognition, research and
development experience and extensive regulatory, manufacturing and marketing
capabilities. Many of these competitors offer well established, broad product
lines and ancillary services not offered by the Company. Some of the Company's
competitors have long-term or preferential supply arrangements with physicians
and hospitals which may act as a barrier to market entry for the Company's
Product. In addition, other large health care companies or medical instrument
firms may enter the non-invasive vascular product market in the future.
Competing companies may succeed in developing products that are more efficacious
or less costly than any that may be produced by the Company, and such companies
also may be more successful than the Company in producing and marketing such
products or their existing products.
18
<PAGE>
Competing companies may also introduce competitive pricing pressures that may
adversely affect the Company's sales levels and margins. As a result, there can
be no assurance that the Company will be able to compete successfully with
existing or new competitors.
DEPENDENCE ON SINGLE PRODUCT; MODEL DO-2020 PRICING STRUCTURE NOT YET
DETERMINED
The Company's success is dependent upon the marketing of the Model CR-2000
and the Model DO-2020 versions of the Product. The Company expects that the
Model DO-2020 will eventually generate the majority of its revenues. No
assurance can be given that the Company will be able to successfully develop any
additional products. In addition, the Company has not yet finalized the pricing
structure for the Model DO-2020. While the Company intends to offer the Model
DO-2020 at terms that it believes will be competitive in the market, higher than
expected manufacturing, marketing and distribution costs or competitive forces
may force the Company to raise or lower its price or alter its terms in a manner
which has a material and adverse effect on the Company.
GOVERNMENT REGULATION
The research, manufacturing, marketing and distribution of the Company's
Product in the United States and other countries are subject to extensive
regulation by numerous governmental authorities including, but not limited to,
the FDA. Under the FDCA, medical devices generally must receive FDA clearance
through the Section 510(k) application process or through the more lengthy PMA
process before they can be marketed in the United States. The process of
obtaining FDA and other required regulatory clearances or approvals can be
lengthy and has required, and will continue to require, the expenditure of
substantial resources of the Company. Manufacturing of the Company's medical
device products is subject to extensive regulatory requirements administered by
the FDA and other regulatory bodies. The Company and its contract design and
manufacturing firms must comply with FDA QSR requirements. FDA inspections can
be conducted at any time. Failure to comply with QSR and other regulatory
requirements could, among other things, result in fines, suspensions or
withdrawals of regulatory clearances or approvals, product recalls, product
seizures, suspension of manufacturing, operating restrictions and criminal
prosecution. Furthermore, changes in existing regulations or adoption of new
regulations or policies could prevent the Company from obtaining, or affect the
timing of, future regulatory clearances or approvals. There can be no assurance
that the Company will be able to obtain necessary regulatory clearances or
approvals on a timely basis or at all. Delays in receipt of or failure to
receive such clearances or approvals, or failure to comply with existing or
future regulatory requirements, would have a material adverse effect on the
Company's business, financial condition and results of operations.
COMPLIANCE WITH FOREIGN REGULATORY REQUIREMENTS
As a part of its marketing strategy, the Company intends to pursue
commercialization of its Product in international markets. The Company's Product
will be subject to regulations that vary from country to country. The process of
obtaining foreign regulatory approvals in certain countries can be lengthy and
require the expenditure of substantial resources. Until FDA clearance or
approval is obtained for the Model DO-2020, it also must comply with the export
requirements of the FDCA before they can be exported. There can be no assurance
that the Company will be able to meet FDCA requirements or obtain necessary
foreign regulatory clearances or approvals for the Product on a timely basis or
at all. Delays in receipt of or failure to receive such clearances or approvals,
or failure to comply with existing or future regulatory requirements, would have
a material adverse effect on the Company's business, financial condition and
results of operations.
LACK OF ESTABLISHED SALES/DISTRIBUTION CHANNELS
The Company commenced marketing of the Model CR-2000 in April 1998, and
currently has a limited sales force. The Company has not yet developed a
distribution system for either of its models. There can be
19
<PAGE>
no assurance that the Company will be able to develop an effective sales force
with the requisite knowledge and skill to fully exploit the sales potential of
the Company's Product or be able to establish distribution channels to promote
market acceptance of, and create demand for, the Company's Product. Even if the
Company enters into an agreement with distributors, there can be no assurance
that such distributors will devote the resources necessary to provide effective
sales and promotion support to the Company's Product. The Company's ability to
expand Product sales will depend in large part on its ability to develop
relationships with distributors who are willing to devote the resources
necessary to provide such effective sales and promotional support and to educate
and train a sales force and the medical community. There can be no assurance
that the Company will be able to accomplish these objectives. There is also no
assurance that the Company's financial condition will allow it to withstand long
sales cycles for its Model DO-2020.
RAPID TECHNOLOGICAL CHANGE
The medical device market is characterized by intensive development efforts
and rapidly advancing technology. Success of the Company will depend, in large
part, upon its ability to anticipate and keep pace with advancing technology and
competitive innovations. There can be no assurance that the Company and its
personnel will be successful in identifying, developing and marketing new
products or enhancing its existing Product. In addition, there can be no
assurance that new products or alternative diagnostic techniques will not be
developed that will render the Company's current or planned products obsolete or
inferior. Rapid technological development by competitors may result in the
Company's Product becoming obsolete before the Company recovers a significant
portion of the research, development and commercialization expenses incurred
with respect to such Product.
PRODUCT LIABILITY EXPOSURE; LIMITED INSURANCE COVERAGE
The Company faces an inherent business risk of exposure to product liability
claims in the event that the use of its Product is alleged to have resulted in
adverse effects. The Company has obtained a general liability insurance policy
that covers potential product liability claims. There can be no assurance that
liability claims will not be excluded from such policies, will not exceed the
coverage limits of such policies, or that such insurance will continue to be
available on commercially reasonable terms or at all. Consequently, a product
liability claim or other claim with respect to uninsured liabilities or in
excess of insured liabilities would have a material adverse effect on the
Company's business, financial condition and results of operations.
UNCERTAINTY OF HEALTH CARE REFORM
The levels of revenue and profitability of medical device companies may be
affected by the efforts of government and third party payers to contain or
reduce the costs of health care through various means. In the United States
there have been, and the Company expects that there will continue to be, a
number of federal, state and private proposals to control health care costs.
These proposals may contain measures intended to control public and private
spending on health care as well as to provide universal public access to the
health care system. If enacted, these proposals may result in a substantial
restructuring of the health care delivery system. Significant changes in the
nation's health care system are likely to have a substantial impact over time on
the manner in which the Company conducts its business and could have a material
adverse effect on the Company's business, financial condition and results of
operations.
MANAGEMENT OF GROWTH
The execution of its business plan will likely place increasing demands on
the Company's existing management and operations. The Company's future growth
and profitability will depend on its ability to successfully attract, train,
motivate, manage and retain new employees and to continue to improve its
operational, financial and management information systems. There can be no
assurance that the Company
20
<PAGE>
will be able to effectively manage any expansion of its business. Management's
inability to manage its growth effectively could have a material adverse effect
on the Company's business, financial condition and results of operations.
DEPENDENCE ON KEY PERSONNEL; NEED FOR ADDITIONAL PERSONNEL
The Company is highly dependent on a limited number of key management and
technical personnel, particularly its President, Greg H. Guettler, and its
Executive Vice President and Chief Technology Officer, Charles F. Chesney,
D.V.M., Ph.D., R.A.C. The Company does not have key-person life insurance on Mr.
Guettler or Dr. Chesney. The Company has entered into a one year employment
agreement with Mr. Guettler that automatically extends for an additional year
unless either party gives written notice of the nonextension by a specified
date. The employment agreement contains certain confidentiality obligations and
a one-year covenant not to compete. There can be no assurance that Minnesota or
other state courts will enforce such provision, either partially or in its
entirety. In October 1995, the Company entered into a five-year employment
agreement with Dr. Chesney which contains certain confidentiality obligations.
The Company's future success will depend on its ability to attract and retain
highly qualified personnel. The Company competes for such personnel with other
companies, academic institutions, government entities and other organizations.
There can be no assurance that the Company will be successful in hiring or
retaining such qualified personnel. The loss of key personnel or an inability to
hire or retain qualified personnel could have an adverse effect on the Company's
business, financial condition and results of operations.
UNCERTAIN ABILITY TO PROTECT PROPRIETARY TECHNOLOGY
The Company's success depends, in part, on its ability to maintain patent
protection for its products and processes, preserve its trade secrets and
operate without infringing the property rights of third parties. The Company is
the exclusive assignee for one issued United States patent and has obtained the
exclusive rights to commercialize inventions (on a worldwide basis) described by
three other United States patents issued to the Regents of the University of
Minnesota (the "University"). The above four patents relate to the Company's
blood pressure waveform analysis procedures, its cardiovascular profiling
technology, the non-invasive determination of cardiac output and overall
technology and operation of the Product. The license from the University expires
with the term of these patents (currently expected to be in 2012). Patent
applications regarding one or more of these United States issued patents are
currently pending in Japan as well as in Germany, France and the United Kingdom.
The Company has three other patent applications that were submitted regarding
certain other aspects and components of the Product. Besides seeking patents,
the Company intends to rely to the fullest extent possible on certain trade
secrets, on proprietary "know-how," and on its ongoing endeavors involving
product improvement and enhancement.
The validity and breadth of claims coverage in medical technology patents
involve complex legal and factual questions and, therefore, may be highly
uncertain. No assurance can be given that the Company's current patent and
licenses will provide a competitive advantage, that the pending applications
will result in patents being issued, or that competitors of the Company will not
design around any patents or licenses issued to the Company. Furthermore, there
can be no assurance that the Company's nondisclosure agreements and invention
assignment agreements will protect its proprietary information and know-how or
provide adequate remedies in the event of unauthorized use or disclosure of such
information, or that others will not be able to develop such information
independently. There can be no assurance that allegations of infringement of the
proprietary rights of third parties will not be made, or that if made such
allegations would not be sustained if litigated. There has been substantial
litigation regarding patent and other intellectual property rights in the
medical device industry. Litigation may be necessary to enforce patents issued
to the Company, to protect trade secrets or know-how owned by the Company, to
defend the Company against claimed infringement of the rights of others or to
determine the ownership, scope or validity of the proprietary rights of the
Company and others. Any such claims may require the Company to
21
<PAGE>
incur substantial litigation expenses and to divert substantial time and effort
of management personnel. An adverse determination in litigation involving the
proprietary rights of others could subject the Company to significant
liabilities to third parties, could require the Company to seek licenses from
third parties, and could prevent the Company from manufacturing, selling or
using its Product. The occurrence of such litigation or the effect of an adverse
determination in any such litigation could have a material adverse effect on the
Company's business, financial condition and results of operations.
CONTROL BY MANAGEMENT
As of August 31, 1998, the officers and directors of the Company as a group
beneficially own 16.7% of the Company's outstanding shares and they are in a
position to influence the outcome of shareholder votes, including the election
of directors. In addition, the Company's Articles of Incorporation provide that
the Board of Directors will be divided into three classes, with each class
elected in a different year for a term of three years. This and other provisions
in the Company's Articles of Incorporation could have the effect of delaying or
preventing changes of control or in management.
SHARES ELIGIBLE FOR FUTURE SALE
As of August 31, 1998, there were 5,105,235 shares of Common Stock issued
and outstanding and 4,544,675 outstanding options and warrants, exercisable at
per share exercise prices from $1.70 to $5.50. Of the 5,105,235 shares presently
issued and outstanding, 2,013,178 shares are subject to agreements providing
that the shareholders may not sell, grant any option for the sale of, or
otherwise dispose of any equity securities of the Company until January 1999;
and an additional 306,557 shares are subject to similar restrictions until April
1999. Sales of significant amounts of shares in the public market or the
perception that such sales may occur could adversely affect the market price of
the Company's securities or the future ability of the Company to raise capital
through an offering of its equity securities.
POSSIBLE ILLIQUIDITY FOR SECURITIES
The Company's Common Stock, Class A warrants and units are quoted on the
Nasdaq SmallCap Market. If the Company fails to satisfy the Nasdaq requirements
to maintain listing on Nasdaq in the future, the Company's securities will
likely be quoted in the over-the-counter market in the so-called "pink sheets"
or the OTC Bulletin Board. In addition, the securities would be subject to the
rules promulgated under the Securities Exchange Act of 1934 relating to "penny
stocks." These rules require brokers who sell securities subject to such rules
to persons other than established customers and institutional accredited
investors to complete certain documentation, make suitability inquiries of
investors and provide investors with certain information concerning the risks of
trading in the security. Consequently, an investor would find it more difficult
to buy or sell the Company's securities in the open market.
FLUCTUATIONS IN FINANCIAL RESULTS; VOLATILITY OF MARKET PRICE
The Company's quarterly results and the market price of its securities may
be subject to significant fluctuations due to numerous factors, such as
variations in the Company's revenues, earnings and cash flow, ability to meet
market expectations, status of the FDA clearance process, availability of
Product components, market acceptance, changes in price, terms or product mix,
changes in manufacturing costs or the introduction of new products by the
Company or competitors. Until the Company receives FDA clearance, the Company's
inability to market the Model DO-2020 will adversely affect the Company's
financial results which may have an adverse effect on the market price of its
securities. There can be no assurance that the Company will ever generate
significant revenues or that the Company's revenues or income will ever improve
on a quarterly basis or that any improvements from quarter to quarter will be
indicative of future performance. In addition, the Company's expenses are based
in part on expectations of future revenues. As a result, expenses may not match
revenues on a quarterly basis, and a delay in future revenues would adversely
affect the Company's operating results. In addition, the stock markets have
22
<PAGE>
experienced price and volume fluctuations, resulting in change in the market
prices of the stocks of many companies which may not have been directly related
to the operating performance of these companies. Such broad market fluctuations
may adversely affect the market price of the Company's securities.
NO CASH DIVIDENDS
The Company has never paid cash dividends and does not anticipate paying
cash dividends on its Common Stock in the foreseeable future. It is anticipated
that profits, if any, received from operations will be devoted to the Company's
future operations.
CURRENT PROSPECTUS AND STATE REGISTRATION REQUIRED TO EXERCISE WARRANTS;
POSSIBLE REDEMPTION OF WARRANTS
Warrantholders will be able to exercise their Class A Warrants only if a
current prospectus relating to the shares underlying the Class A Warrants is
then in effect and only if such securities are qualified for sale or exempt from
qualification under the applicable securities laws of the states in which the
various holders of Class A Warrants reside. Although the Company will use its
best efforts to (i) maintain the effectiveness of a current prospectus covering
the shares underlying the Class A Warrants and (ii) maintain the registration of
such shares under the securities laws of the states in which the Company
initially qualified the units for sale, there can be no assurance that the
Company will be able to do so.
The Class A Warrants are subject to redemption at any time by the Company at
$.01 per Warrant commencing October 21, 1998, on 30 days prior written notice,
if the closing bid price of the shares exceeds $6.50 (subject to adjustment) for
14 consecutive trading days. If the Class A Warrants are redeemed,
Warrantholders will lose their right to exercise the Warrants except during such
30 day redemption period. Redemption of the Class A Warrants could force the
holders to exercise the Class A Warrants at a time when it may be
disadvantageous for the holders to do so or to sell the Class A Warrants at the
then market price or accept the redemption price, which likely would be
substantially less than the market value of the Class A Warrants at the time of
redemption.
ITEM 2. PROPERTIES
Under the terms and conditions of a 36-month lease effective November 1997,
the Company occupies approximately 6,900 square feet of commercial office and
light assembly space at The Waters in Eagan, Minnesota, a location in close
proximity to the Minneapolis/St. Paul International Airport. The monthly gross
rent, including basic operating expenses, is approximately $7,000. The Company
believes that this facility should be adequate for its currently anticipated
requirements for the term of the lease.
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to any litigation and is not aware of any
threatened litigation.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
A Special Meeting of Shareholders was held on May 22, 1998. The results of
the shareholder votes were as follows:
<TABLE>
<CAPTION>
BROKER
FOR AGAINST ABSTAIN NON-VOTES
---------- --------- --------- ---------------
<S> <C> <C> <C> <C> <C>
1. Approval of 1998 Stock Option Plan.............. 1,530,568 31,250 8,000 0
2. Approval of amendments to Articles and Bylaws 1,522,235 11,250 36,333 0
that provide for a classified Board and
related matters...............................
</TABLE>
23
<PAGE>
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET INFORMATION
The Company's Common Stock began trading on the Nasdaq SmallCap Market on
August 7, 1998 under the symbol "HDII." Prior to that date, there was no
established trading market for the Common Stock. As of August 31, 1998, the
Company estimates that there were approximately 700 holders of the Company's
Common Stock.
The following table sets forth, for the periods indicated, the high and low
closing prices for the Common Stock as reported by the Nasdaq SmallCap Market.
Such quotations reflect inter-dealer prices, without retail markup, mark-down or
commission and may not represent actual transactions.
<TABLE>
<CAPTION>
CLOSING CLOSING ASKED
BID PRICE PRICE
----------------- ----------------
PERIOD HIGH LOW HIGH LOW
- ------------------------------------------------------------------------------------ -------- ------- ------- -------
<S> <C> <C> <C> <C>
August 7, 1998--August 31, 1998..................................................... $ 4 3/16 $ 3 1/2 $ 4 3/8 $ 3 3/4
</TABLE>
The Company has not declared any dividends to date and does not plan to
declare any dividends in the foreseeable future.
RECENT SALES OF UNREGISTERED SECURITIES
Between December 1997 and March 1998, the Company sold an aggregate of
500,000 shares of Common Stock at a price of $3.00 per share to 51 accredited
investors in a private placement. The net proceeds to the Company were
$1,220,720. R.J. Steichen & Company acted as the selling agent. As compensation
for its services, R.J. Steichen & Company received sales commissions and an
expense allowance equal to $195,000 and warrants to purchase 50,000 shares at
$4.95 per share. These securities were issued in reliance upon the exemptions
set forth in Section 4(2) and Rule 506 of Regulation D of the Securities Act of
1933. The placement was made without any public advertisement or general
solicitation. Each purchaser executed a subscription agreement representing that
such purchaser either alone or through a representative had the knowledge and
experience sufficient to evaluate the merits and risks of the investment. Each
purchaser was given full access to financial and information regarding the
Company.
USE OF PROCEEDS FROM INITIAL PUBLIC OFFERING
On July 23, 1998, the SEC declared effective the Company's Registration
Statement on Form SB-2 (File No. 333-53025) relating to its initial public
offering. On July 28, 1998, the Company consummated the sale of 2,250,000 units,
each unit consisting of one share of Common Stock and one redeemable Class A
warrant. On August 31, 1998, the underwriter exercised in full an overallotment
option to purchase an additional 337,500 units. R.J. Steichen & Company served
as the underwriter of the offering.
The Company registered an offering amount of 2,587,500 units and 2,587,500
shares of Common Stock underlying the Class A warrants. Based on an offering
price of $4.125 per unit and an exercise price of $5.50 per Class A Warrant, the
aggregate offering amount was $24,904,688. The Company has sold 2,587,500 units,
resulting in gross proceeds of $10,673,438.
Total offering expenses were $1,487,677. These expenses consisted of: (i)
$907,031 in underwriting discounts; (ii) $266,836 of expenses paid to the
underwriter; (iii) $164,936 of legal and accounting fees; and (iv) $148,874 of
printing and other expenses. The net offering proceeds to the Company were
$9,185,761 after deducting total expenses of the offering.
24
<PAGE>
From July 28, 1998 through August 31, 1998, the Company has used the net
offering proceeds of $9,185,761 for temporary investments, including a Federal
Home Loan Bank Discount Note--$7,399,331 and a U.S. Government Money Market
Account--$1,786,430.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
FORWARD-LOOKING STATEMENTS
The following discussion contains forward-looking statements. Such
statements are subject to risks and uncertainties, including those discussed
under "Risk Factors" in this report, that could cause actual results to differ
materially from those anticipated. The Company cautions readers not to place
undue reliance on such forward-looking statements.
OVERVIEW
The Company was founded in July 1988 to develop its blood pressure waveform
analysis technology into a clinically acceptable, non-invasive method for
conducting cardiovascular profiling. From inception, the majority of the
Company's efforts have been focused on incorporating this technology into an
instrument that is intended to allow physicians to reliably and effectively
screen, diagnose and monitor the treatment of patients with cardiovascular
disease. While the Company has developed and tested commercial models of the
Product and in April 1998 commenced marketing the Model CR-2000 for research use
only, it has not sold any of its Product and expects to incur substantial net
operating losses until it achieves a significant level of revenue following FDA
clearance to market the Model DO-2020.
The Company plans to market two models: the Model CR-2000 and the Model
DO-2020. Management believes that the Model CR-2000, intended for research use
only (that is, not for screening, diagnosing, monitoring or determining
treatment of patients), does not require FDA clearance to market, and marketing
activities have commenced. The Model DO-2020, intended for use by physicians to
screen, diagnose and monitor the treatment of patients with vascular disease, is
an FDA regulated medical device. Although a 510(k) Application has been
submitted to the FDA, the Company is unable to market the Model DO-2020 in the
United States until FDA clearance to market is obtained. At a later date, the
Company intends to pursue foreign registrations and approvals that will allow
marketing of a similar product in foreign markets.
The Company is the sole assignee of one issued United States patent and has
obtained the exclusive rights to commercialize inventions, on a worldwide basis,
described by three other United States patents issued to the University of
Minnesota. These four patents relate to the Company's blood pressure waveform
analysis procedures, its cardiovascular profiling technology, the non-invasive
determination of cardiac output and the overall technology and operation of the
Company's Products. The Company has the right to grant sub-licenses to produce
products and provide services based on the technology. The Company has three
other patent applications that were submitted regarding certain other aspects
and components of the Product. There is no assurance that these patents will be
issued.
DEVELOPMENT STAGE RESULTS OF OPERATIONS
The Company is a development stage company and is not presently generating
any revenues. There can be no assurance that the Company will ever be able to
generate revenues, attain or maintain profitable operations or successfully
implement its business plan or its current development opportunities. As of June
30, 1998, the Company had a deficit accumulated during the development stage of
$(3,276,249), attributable primarily to research and development and general and
administrative expenses. Until it is able to generate significant revenues from
its activities, the Company expects to continue to incur operating losses.
25
<PAGE>
FISCAL YEAR ENDED JUNE 30, 1997 COMPARED TO FISCAL YEAR ENDED JUNE 30, 1998
Operating expenses for the fiscal year ended June 30, 1997 were $953,170
compared to $1,206,255 the fiscal year ended June 30, 1998. Approximately 55% of
the $953,170 and 22% of the $1,206,255 total operating expenses were related to
research and development expenses. A further breakdown of research and
development expenses is as follows:
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
----------------------------
JUNE 30, 1997 JUNE 30, 1998
------------- -------------
<S> <C> <C>
Design and development of prototype devices and other enhancements and
improvements...................................................................... $ 425,988 $ 189,949
Design and development of Central Data Management Facility (CDMF)................... -- 41,650
Recognized compensation cost for value of stock options granted in lieu of cash
compensation...................................................................... 100,364 33,115
------------- -------------
Total research and development expenses......................................... $ 526,352 $ 264,714
------------- -------------
------------- -------------
</TABLE>
For the fiscal year ended June 30, 1997 and June 30, 1998, respectively,
approximately 81% of $425,988 and 76% of $189,949 were paid to the Company's
contract design engineering firm.
The following is a summary of the major categories included in general and
administrative expenses:
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
----------------------------
JUNE 30, 1997 JUNE 30, 1998
------------- -------------
<S> <C> <C>
Wages and related expenses.......................................................... $ 176,045 $ 385,307
Patent expenses..................................................................... 21,019 32,818
Outside consultants................................................................. 133,663 203,712
Rent building and utilities......................................................... -- 53,259
Insurance--general and health....................................................... 26,008 34,197
Travel.............................................................................. 4,689 22,829
Legal and accounting................................................................ 6,930 85,682
Marketing and promotion............................................................. 2,489 40,408
Other--miscellaneous................................................................ 55,975 83,329
------------- -------------
Total general and administrative expenses....................................... $ 426,818 $ 941,541
------------- -------------
------------- -------------
</TABLE>
The Company's number of employees increased from three in the fiscal year
ended June 30, 1997 to six in the fiscal year ended June 30, 1998. In September
1997, the Company hired its President, Greg H. Guettler. Effective November
1997, the Company leased approximately 6,900 square feet of commercial office
and light assembly space in Eagan, Minnesota.
Interest income was $81,198 and $64,092 for the fiscal years ended June 30,
1997 and June 30, 1998, respectively. A private placement of the Company's
shares of Common Stock yielded net proceeds of $1,220,720 in the fiscal year
ended June 30, 1998.
Net loss was $(871,972) and $(1,142,163) for the fiscal years ended June 30,
1997 and June 30, 1998, respectively. For the fiscal year ended June 30, 1997,
basic and dilutive net loss per share was $(.44), based on weighted average
shares outstanding of 1,962,011. For fiscal year ended June 30, 1998, basic and
dilutive net loss per share was $(.51), based on weighted average shares
outstanding of 2,221,914.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents had a net increase of $41,026 from June 30, 1997
to June 30, 1998. The significant elements of this change were as follows: CASH
USED IN OPERATING ACTIVITIES--net loss, as adjusted
26
<PAGE>
for noncash items, of $(1,092,890); increase in accounts payable of $183,549;
increase in prepaid expenses--$158,235; CASH USED IN INVESTING
ACTIVITIES--purchase of property and equipment--$129,814; cash provided by
financing activities issuance of Common Stock--$1,317,301.
In July 1998, the Company completed its initial public offering (IPO) in
which it sold 2,250,000 units at $4.125 per unit, each unit consisting of one
share of Common Stock and one redeemable Class A Warrant. In August 1998, the
underwriter exercised in full an overallotment option to purchase an additional
337,500 units. Total net proceeds from the IPO were $9,185,761. The Company
estimates that the net proceeds of the offering should satisfy its cash
requirements for 18 to 24 months. The Company's business plan and financing
needs are subject to change depending on, among other things, market conditions,
timing of the receipt of clearance from the FDA to market the Model DO-2020,
business opportunities and cash flow from operations. Pending application of the
net proceeds, such proceeds will be invested in short-term, high quality,
interest-bearing instruments.
In addition to the net proceeds from the IPO, the Company may derive over a
period of time up to $14,231, 250 from the exercise of the Class A Warrants
included in the units. Each Class A Warrant entitles the holder to purchase one
share at an exercise price of $5.50 per Warrant, subject to adjustment. The
Class A Warrants are subject to redemption by the Company for $.01 per Warrant
at any time commencing October 21, 1998, provided that the closing bid price of
the shares exceeds $6.50 (subject to adjustment) for 14 consecutive trading
days. Any amounts, if any, that the Company derives from the exercise of such
Class A Warrants will be used in connection with the Company's development
opportunities, business plan activities and/or working capital requirements.
YEAR 2000 COMPLIANCE
The Company has considered the potential impact of the year 2000 for its
internal information systems, external integration problems and its current
Product. The Company believes that its internal information systems and current
Product are year 2000 compliant and that its CDMF will be so prior to the year
2000. The Company's Product has been, and the CDMF is being, designed and
developed to be year 2000 compliant. In addition, the Product has been tested to
ensure that its performance and functionality are not affected by year 2000
compliance issues. There can be no assurance, however, that the Company will not
experience unexpected costs and delays in achieving year 2000 compliance, which
could result in a material adverse effect on the Company's future results of
operations.
27
<PAGE>
ITEM 7. FINANCIAL STATEMENTS
FINANCIAL STATEMENTS
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
YEARS ENDED JUNE 30, 1997 AND 1998 AND
PERIOD FROM JULY 19, 1988 (INCEPTION)
TO JUNE 30, 1998
28
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
FINANCIAL STATEMENTS
YEARS ENDED JUNE 30, 1997 AND 1998 AND PERIOD FROM
JULY 19, 1988 (INCEPTION) TO JUNE 30, 1998
CONTENTS
<TABLE>
<S> <C>
Report of Independent Auditors......................................................... 30
Audited Financial Statements
Balance Sheets......................................................................... 31
Statements of Operations............................................................... 32
Statement of Shareholders' Equity...................................................... 33
Statements of Cash Flows............................................................... 35
Notes to Financial Statements.......................................................... 36
</TABLE>
29
<PAGE>
REPORT OF INDEPENDENT AUDITORS
Board of Directors and Shareholders
Hypertension Diagnostics, Inc.
We have audited the balance sheets of Hypertension Diagnostics, Inc. (a
development stage company) as of June 30, 1997 and 1998, and the related
statements of operations, shareholders' equity and cash flows for each of the
years then ended and the period from July 19, 1988 (inception) to June 30, 1998.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amount and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Hypertension Diagnostics,
Inc. at June 30, 1997 and 1998, and the results of its operations and its cash
flows for each of the years then ended and the period from July 19, 1988
(inception) to June 30, 1998, in conformity with generally accepted accounting
principles.
Ernst & Young LLP
Minneapolis, Minnesota
September 17, 1998
30
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
BALANCE SHEETS
<TABLE>
<CAPTION>
JUNE 30
----------------------------
1997 1998
------------- -------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents......................................................... $ 1,198,778 $ 1,239,804
Interest receivable............................................................... 5,375 4,676
Prepaid expenses.................................................................. -- 11,254
Inventory......................................................................... -- 39,054
------------- -------------
Total current assets................................................................ 1,204,153 1,294,788
Property and equipment:
Leasehold improvements............................................................ -- 13,377
Furniture and equipment........................................................... 20,300 136,737
Less accumulated depreciation..................................................... (15,730) (25,997)
------------- -------------
4,570 124,117
Patents, net of accumulated amortization of $6,843 and
$12,524 at June 30, 1997 and 1998, respectively................................... 4,562 32,881
Prepaid offering expenses........................................................... -- 146,981
Other assets........................................................................ 420 6,740
------------- -------------
Total assets........................................................................ $ 1,213,705 $ 1,605,507
------------- -------------
------------- -------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Accounts payable.................................................................... $ 4,551 $ 188,100
------------- -------------
Total current liabilities........................................................... 4,551 188,100
Shareholders' equity:
Preferred Stock, $.01 par value:
Authorized shares--5,000,000
Issued and outstanding shares--none............................................. -- --
Common Stock, $.01 par value:
Authorized shares--25,000,000
Issued and outstanding shares--1,962,011 and 2,517,735 at June 30,
1997 and 1998, respectively................................................... 19,620 25,177
Additional paid-in capital........................................................ 3,323,620 4,668,479
Deficit accumulated during the development stage.................................. (2,134,086) (3,276,249)
------------- -------------
Total shareholders' equity.......................................................... 1,209,154 1,417,407
------------- -------------
Total liabilities and shareholders' equity.......................................... $ 1,213,705 $ 1,605,507
------------- -------------
------------- -------------
</TABLE>
See accompanying notes.
31
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
PERIOD FROM
JULY 19, 1988
YEAR ENDED JUNE 30 (INCEPTION)
--------------------------- TO JUNE 30,
1997 1998 1998
------------ ------------- -------------
<S> <C> <C> <C>
Operating expenses:
Research and development............................................ $ 526,352 $ 264,714 $ 1,559,299
General and administrative.......................................... 426,818 941,541 1,872,443
------------ ------------- -------------
Operating loss........................................................ 953,170 1,206,255 3,431,742
Other income (expense):
Interest income..................................................... 81,198 64,092 202,524
Interest expense.................................................... -- -- (47,031)
------------ ------------- -------------
Net loss and deficit accumulated during the development stage......... $ (871,972) $ (1,142,163) $ (3,276,249)
------------ ------------- -------------
------------ ------------- -------------
Basic and dilutive net loss per share................................. $ (.44) $ (.51) $ (3.81)
Weighted average shares outstanding................................... 1,962,011 2,221,914 859,418
</TABLE>
See accompanying notes.
32
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENT OF SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
DEFICIT
ACCUMULATED
COMMON STOCK ADDITIONAL DURING THE
--------------------- PAID-IN DEVELOPMENT
SHARES AMOUNT CAPITAL STAGE TOTAL
---------- --------- ------------ ------------- -------------
<S> <C> <C> <C> <C> <C>
Balance at July 19, 1988 (inception).......... -- $ -- $ -- $ -- $ --
Conversion of notes payable to Common Stock
at $3.00 (August 1988 through June
1989)..................................... 75,167 752 224,748 -- 225,500
Sale of Common Stock at $.04 (September 1988
through June 1989)........................ 342,853 3,428 10,286 -- 13,714
Net loss.................................... -- -- -- (188,496) (188,496)
---------- --------- ------------ ------------- -------------
Balance at June 30, 1989...................... 418,020 4,180 235,034 (188,496) 50,718
Sale of Common Stock at $.04 (July 1989).... 1,900 19 57 -- 76
Private placement of Common Stock at $3.00
(October 1989 through January 1990)....... 58,750 587 175,663 -- 176,250
Conversion of notes payable to Common Stock
at $3.00 (July 1989 through April 1990)... 13,000 130 38,870 -- 39,000
Redemption of Common Stock (August 1989).... (7,500) (75) (225) -- (300)
Net loss.................................... -- -- -- (195,716) (195,716)
---------- --------- ------------ ------------- -------------
Balance at June 30, 1990...................... 484,170 4,841 449,399 (384,212) 70,028
Private placement of Common Stock at $3.00
(July 1990)............................... 1,667 17 4,984 -- 5,001
Net loss.................................... -- -- -- (134,857) (134,857)
---------- --------- ------------ ------------- -------------
Balance at June 30, 1991...................... 485,837 4,858 454,383 (519,069) (59,828)
Net loss.................................... -- -- -- (3,076) (3,076)
---------- --------- ------------ ------------- -------------
Balance at June 30, 1992...................... 485,837 4,858 454,383 (522,145) (62,904)
Net income.................................. -- -- -- 45,061 45,061
---------- --------- ------------ ------------- -------------
Balance at June 30, 1993...................... 485,837 4,858 454,383 (477,084) (17,843)
Net loss.................................... -- -- -- (17,743) (17,743)
---------- --------- ------------ ------------- -------------
Balance at June 30, 1994 (carried forward).... 485,837 4,858 454,383 (494,827) (35,586)
</TABLE>
33
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENT OF SHAREHOLDERS' EQUITY (CONTINUED)
<TABLE>
<CAPTION>
DEFICIT
ACCUMULATED
COMMON STOCK ADDITIONAL DURING THE
--------------------- PAID-IN DEVELOPMENT
SHARES AMOUNT CAPITAL STAGE TOTAL
---------- --------- ------------ ------------- -------------
<S> <C> <C> <C> <C> <C>
Balance at June 30, 1994 (brought forward).... 485,837 $ 4,858 $ 454,383 $ (494,827) $ (35,586)
Net loss.................................... -- -- -- (53,202) (53,202)
---------- --------- ------------ ------------- -------------
Balance at June 30, 1995...................... 485,837 4,858 454,383 (548,029) (88,788)
Common Stock issued in connection with
bridge financing at $1.00 (August 1995),
net of expenses of $6,250................. 125,000 1,250 117,500 -- 118,750
Conversion of notes payable to Common Stock
at $1.00.................................. 2,174 22 2,152 -- 2,174
Private placement of Common Stock at $2.00
(October 1995 through May 1996), net of
expenses of $385,313...................... 1,349,000 13,490 2,299,197 -- 2,312,687
Purchase of warrants........................ -- -- 50 -- 50
Value of stock options granted in lieu of
cash compensation......................... -- -- 349,974 -- 349,974
Net loss.................................... -- -- -- (714,085) (714,085)
---------- --------- ------------ ------------- -------------
Balance at June 30, 1996...................... 1,962,011 19,620 3,223,256 (1,262,114) 1,980,762
Value of stock options granted in lieu of
cash compensation......................... -- -- 100,364 -- 100,364
Net loss.................................... -- -- -- (871,972) (871,972)
---------- --------- ------------ ------------- -------------
Balance at June 30, 1997...................... 1,962,011 19,620 3,323,620 (2,134,086) 1,209,154
Private placement of Common Stock at $3.00
(December 1997 through March 1998), net of
expenses of $279,280...................... 500,000 5,000 1,215,720 -- 1,220,720
Purchase of warrants........................ -- -- 50 -- 50
Value of stock options granted in lieu of
cash compensation......................... -- -- 33,115 -- 33,115
Stock options exercised..................... 55,724 557 95,974 -- 96,531
Net loss.................................... -- -- -- (1,142,163) (1,142,163)
---------- --------- ------------ ------------- -------------
Balance at June 30, 1998...................... 2,517,735 $ 25,177 $ 4,668,479 $ (3,276,249) $ 1,417,407
---------- --------- ------------ ------------- -------------
---------- --------- ------------ ------------- -------------
</TABLE>
See accompanying notes.
34
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
PERIOD FROM
JULY 19, 1988
(INCEPTION)
YEAR ENDED JUNE 30 TO
--------------------------- JUNE 30,
1997 1998 1998
------------ ------------- -------------
<S> <C> <C> <C>
OPERATING ACTIVITIES
Net loss.............................................................. $ (871,972) $ (1,142,163) $ (3,276,249)
Adjustments to reconcile net loss to net cash used in operating
activities:
Value of stock options granted in lieu of cash compensation......... 100,364 33,115 483,453
Depreciation........................................................ 7,134 10,267 62,466
Amortization........................................................ 2,491 5,891 13,364
Write-off of property and equipment................................. -- -- 42,702
Change in operating assets and liabilities:
Interest receivable............................................... 1,231 699 (4,676)
Prepaid expenses.................................................. -- (158,235) (158,235)
Inventory......................................................... -- (39,054) (39,054)
Other assets...................................................... -- (6,530) (6,530)
Accounts payable.................................................. (18,989) 183,549 188,100
Accrued liabilities............................................... -- -- 174
------------ ------------- -------------
Net cash used in operating activities................................. (779,741) (1,112,461) (2,694,485)
INVESTING ACTIVITIES
Purchase of property and equipment.................................... (1,773) (129,814) (229,285)
Payment of patent costs............................................... -- (34,000) (46,455)
------------ ------------- -------------
Net cash used in investing activities................................. (1,773) (163,814) (275,740)
FINANCING ACTIVITIES
Proceeds from notes payable........................................... -- -- 315,500
Payments of notes payable............................................. -- -- (49,000)
Issuance of common stock.............................................. -- 1,317,301 3,943,829
Redemption of common stock............................................ -- -- (300)
------------ ------------- -------------
Net cash provided by financing activities............................. -- 1,317,301 4,210,029
------------ ------------- -------------
Net (decrease) increase in cash and cash equivalents.................. (781,514) 41,026 1,239,804
Cash and cash equivalents at beginning of period...................... 1,980,292 1,198,778 --
------------ ------------- -------------
Cash and cash equivalents at end of period............................ $ 1,198,778 $ 1,239,804 $ 1,239,804
------------ ------------- -------------
------------ ------------- -------------
SUPPLEMENTAL SCHEDULE OF NONCASH FINANCING ACTIVITIES
Conversion of note payable and accrued interest into common stock..... $ -- $ -- $ 266,674
Cash paid for interest................................................ -- -- 12,526
</TABLE>
See accompanying notes.
35
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS
JUNE 30, 1998
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES
DESCRIPTION OF BUSINESS
Hypertension Diagnostics, Inc. (the "Company") is a development stage
company formed on July 19, 1988 to develop, design and market a cardiovascular
profiling system.
CASH EQUIVALENTS
The Company considers all highly liquid investments with a maturity of three
months or less at the time of purchase to be cash equivalents.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Improvements are capitalized,
while repair and maintenance costs are charged to operations when incurred.
Depreciation is computed principally using the straight-line method. Estimated
useful lives for property and equipment are the term of the lease for leasehold
improvements and 5-7 years for furniture and equipment.
PATENTS
Costs incurred in obtaining patents and trademarks are capitalized as
incurred and amortized on a straight-line basis over 60 months. The Company
periodically reviews its patents and trademarks for impairment in value. Any
adjustment from the analysis is charged to operations.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
IMPAIRMENT OF LONG-LIVED ASSETS
The Company will record impairment losses on long-lived assets used in
operations when indicators of impairment are present and the undiscounted cash
flows estimated to be generated by those assets are less than the assets'
carrying amount.
RESEARCH AND DEVELOPMENT COSTS
All research and development costs are charged to expense as incurred.
INCOME TAXES
Income taxes are accounted for under the liability method. Deferred income
taxes are provided for temporary differences between the financial reporting and
tax bases of assets and liabilities.
36
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
NET LOSS PER SHARE
In February 1997, the Financial Accounting Standards Board issued Statement
No. 128, "Earnings per Share," requiring dual presentation of basic and diluted
earnings per share. Basic and diluted net loss per share are equal because the
effect of outstanding stock options and warrants is antidilutive. Statement No.
128 was adopted by the Company on December 31, 1997. All earnings per share
amounts have been presented and, where necessary, restated to conform to
Statement No. 128 requirements.
STOCK-BASED COMPENSATION
The Company has adopted the disclosure-only provisions of Statement of
Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation," but applies Accounting Principles Board Opinion No. 25 (APB 25)
and related interpretations in accounting for its plans. Under APB 25, when the
exercise price of employee stock options equals the market price of the
underlying stock on the date of grant, no compensation expense is recognized.
2. INCOME TAXES
At June 30, 1998, the Company had a net operating loss carryforward for tax
purposes of approximately $2,800,000. This carryforward is available to offset
future taxable income through 2013.
Components of deferred tax assets are as follows:
<TABLE>
<CAPTION>
JUNE 30
--------------------------
1997 1998
----------- -------------
<S> <C> <C>
Loss carryforwards................................................ $ 674,000 $ 1,117,000
Less valuation allowance.......................................... (674,000) (1,117,000)
----------- -------------
Net deferred tax assets........................................... $ -- $ --
----------- -------------
----------- -------------
</TABLE>
3. SHAREHOLDERS' EQUITY
From December 1997 to March 1998, the Company sold 500,000 shares of Common
Stock at $3.00 per share resulting in net proceeds to the Company of $1,220,720.
In connection with the sale of Common Stock, the Company granted warrants, to
the placement agent, to purchase a total of 50,000 shares of Common Stock at an
exercise price of $4.95 per share. The warrants are exercisable in February and
March 1999 and expire in February and March 2004.
In May 1998, 6,000 incentive stock options were exercised at $2.00 per share
and 49,724 nonqualified stock options were exercised at $1.70 per share
resulting in net proceeds to the Company of $96,531.
4. STOCK OPTIONS AND WARRANTS
During 1995, the Company adopted the Hypertension Diagnostics, Inc. 1995
Long-Term Incentive and Stock Option Plan ("the Plan") that includes both
incentive stock options and nonqualified stock options to be granted to
employees, directors, officers, consultants and advisors of the Company. The
maximum
37
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
4. STOCK OPTIONS AND WARRANTS (CONTINUED)
number of shares reserved under the Plan is 400,000 shares. The Board of
Directors establishes the terms and conditions of all stock option grants,
subject to the Plan and applicable provisions of the Internal Revenue Code.
Incentive stock options must be granted at an exercise price not less than the
fair market value of the Common Stock on the grant date. The options granted to
participants owning more than 10% of the Company's outstanding voting stock must
be granted at an exercise price not less than 110% of fair market value of the
Common Stock on the grant date. The options expire on the date determined by the
Board of Directors but may not extend more than ten years from the grant date
while incentive stock options granted to participants owning more than 10% of
the Company's outstanding voting stock expire five years from the grant date.
A summary of outstanding options under the Plan is as follows:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE
SHARES EXERCISE
AVAILABLE OPTIONS PRICE
FOR GRANT OUTSTANDING PER SHARE
---------- ----------- -----------
<S> <C> <C> <C>
Balance at June 30, 1995................................. -- -- $ --
Shares reserved........................................ 400,000 -- --
Granted................................................ (15,000) 15,000 2.00
---------- -----------
Balance at June 30, 1996................................. 385,000 15,000 2.00
Granted................................................ (11,900) 11,900 2.00
---------- -----------
Balance at June 30, 1997................................. 373,100 26,900 2.00
Granted................................................ (290,600) 290,600 2.04
Exercised.............................................. -- (6,000) 2.00
---------- -----------
Balance at June 30, 1998................................. 82,500 311,500 2.04
---------- -----------
---------- -----------
</TABLE>
At June 30, 1998, there were 299,000 options outstanding with an exercise
price of $2.00 and 12,500 options outstanding with an exercise price of $3.00
that had been granted under the Plan. The outstanding options had a weighted
average remaining contractual life of nine years. The number of options
exercisable as of June 30, 1997 and 1998 were 23,900 and 61,675, respectively,
at weighted average exercise prices of $2.00 and $2.06, respectively. The
weighted average fair value of options granted under the Plan during the years
ended June 30, 1997 and 1998 was $.52 and $.50 per share, respectively.
At June 30, 1998, the Company has also granted a total of 1,070,275 options
outside the Plan. These options all have exercise prices between $1.70 and $2.00
and a weighted average remaining contractual life of seven years. The number of
non-Plan options exercisable at June 30, 1997 and 1998 were 895,761 and
1,050,275, respectively, at weighted average exercise prices of $1.72 and $1.73,
respectively. The weighted average fair value of non-Plan options granted during
the years ended June 30, 1997 and 1998 was $.52 and $.50 per share,
respectively.
For the years ended June 30, 1997 and 1998, the Company recognized $100,364
and $33,115, respectively, of expense related to the granting of options for
consulting services provided to the Company.
38
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
4. STOCK OPTIONS AND WARRANTS (CONTINUED)
On May 1, 1998, the Board of Directors approved the 1998 Stock Option Plan
(the "1998 Option Plan"), under which stock options may be granted to employees,
consultants and independent directors of the Company. Stock options may be
either qualified or nonqualified for income tax purposes. Up to a maximum of
750,000 shares may be issued under the 1998 Option Plan. The 1998 Plan is
administered in a similar manner to the 1995 Plan.
No options have been granted under the 1998 Option Plan as of June 30, 1998.
Pro forma information regarding net loss is required by Statement No. 123,
and has been determined as if the Company had accounted for its stock options
under the fair value method of that Statement. The fair value of these options
was estimated at the date of grant using the minimum value option pricing model
with the following weighted average assumptions for 1997 and 1998: risk-free
interest rate of 5.9% and a weighted average expected life of the option of five
years.
The effect of applying Statement No. 123's fair value method of the
Company's stock-based awards results in a net loss that is not materially
different than the amounts reported for the years ended June 30, 1997 and 1998,
respectively.
During the initial phase-in period, the effects of applying Statement No.
123 for recognizing compensation cost may not be representative of the effects
on reported net income or loss for future years because the options vest over
several years and additional awards will be made in the future.
WARRANTS
In connection with private equity offerings, the Company has issued
warrants, to placement agents, to purchase shares of Common Stock as follows:
<TABLE>
<CAPTION>
WARRANTS EXERCISE PRICE EXPIRATION DATE
- --------- --------------- -----------------------------
<S> <C> <C>
132,900 $ 2.00 October 2000
50,000 4.95 February and March 2004
- ---------
182,900
- ---------
- ---------
</TABLE>
5. LICENSE AGREEMENT
In September 1988, the Company entered into a license agreement with the
Regents of the University of Minnesota ("the Regents"), whereby the Company was
granted a license to utilize certain technology developed by the Regents. Under
the license agreement, the Company is required to pay royalties on net product
sales containing the technology licensed from the Regents. In the first two
years after execution of the agreement, royalties were 1% of net sales, and for
the third and fourth years were 1.5% of net sales. Beginning in the fifth year,
and continuing through the termination of the agreement, royalties were 2% of
net sales, and 3% if the Regents obtain a United States patent on any of the
technology covered under the agreement (which, in fact, occurred). Termination
occurs with the expiration of the last patent, or ten years after the date of
the first commercial product sale, if no patent exists.
39
<PAGE>
HYPERTENSION DIAGNOSTICS, INC.
(A DEVELOPMENT STAGE COMPANY)
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
JUNE 30, 1998
6. COMMITMENTS
Subsequent to June 30, 1997, the Company entered into a noncancelable
operating lease agreement for office/warehouse space. The term of the lease is
from November 1997 to October 2000. Prior to entering into this lease agreement,
the Company had utilized office space of its founders and officers for which it
paid no rent.
The following is a schedule of future minimum lease payments due as of June
30, 1998:
<TABLE>
<S> <C>
Year ending June 30:
1999............................................................ $ 79,026
2000............................................................ 79,026
2001............................................................ 26,342
---------
$ 184,394
---------
---------
</TABLE>
7. EMPLOYMENT AGREEMENTS AND CONSULTING AGREEMENTS
The Company has entered into employment agreements or consulting agreements
with its officers and some members of the Board of Directors. The agreements
call for salaries or consulting fees to be paid in cash and/or stock options.
The employment agreements terminate at various times through 1999.
8. SUBSEQUENT EVENT--SHAREHOLDERS' EQUITY
In July and August 1998, the Company raised approximately $9,186,000 (net of
underwriting discounts and offering expenses), through an initial public
offering of 2,587,500 units (which includes 337,500 additional units to cover
over-allotments) at $4.125 per unit (the Initial Public Offering). Each unit
consists of one share of Common Stock and one redeemable Class A Warrant which
entitles the holder to purchase one share at an exercise price of $5.50 per
warrant, subject to adjustment. The Class A Warrants are subject to redemption
by the Company for $.01 per Warrant at any time commencing 90 days after the
Effective Date (July 23, 1998), provided that the closing bid price of the
Common Stock exceeds $6.50 (subject to adjustment) for 14 consecutive trading
days.
40
<PAGE>
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
The following table provides information about the Company's directors,
executive officers and key consultant:
<TABLE>
<CAPTION>
DIRECTOR
NAME AGE POSITION SINCE
- ----------------------------------- --- -------------------------------------------------- --------
<S> <C> <C> <C>
Melville R. Bois(1)(2)............. 51 Chairman of the Board of Directors 1995
Greg H. Guettler................... 44 President and Director 1997
Charles F. Chesney, D.V.M., Ph.D.,
R.A.C............................ 55 Executive Vice President, Chief Technology Officer 1988
and Director
James S. Murphy.................... 54 Vice President of Finance and Chief Financial --
Officer
Jay N. Cohn, M.D.(1)............... 67 Chief Clinical Consultant, Chairman of the 1988
Scientific and Clinical Advisory Board and
Director
Kenneth W. Brimmer(1)(2)........... 42 Director 1995
Stanley M. Finkelstein, Ph.D....... 57 Chief Technical Consultant --
</TABLE>
- ------------------------
(1) Member of the Compensation Committee
(2) Member of the Audit Committee
MELVILLE R. BOIS Mr. Bois was elected to the Board of Directors in November
1995 and was elected its Chairman in 1997. From January 1996 until September
1997, he was the Company's President and Chief Executive Officer. For more than
30 years, Mr. Bois has been employed by title insurance and financial companies.
In 1979, he founded and was the owner of Universal Title Insurance Company. This
company became Universal Title and Financial Corporation in 1984 and Mr. Bois
continues as its President. Universal Title and Financial Corporation is a
private holding company which is engaged in commercial real estate and related
records and data management. Mr. Bois has been and is presently a member of the
board of directors of several companies, including Hilex Corporation and Grand
Forks Abstract Company and since 1988 he has been the owner and President of the
Bois Family Foundation, a charitable organization.
GREG H. GUETTLER, M.B.A. Mr. Guettler has been the President and a Director
of the Company since September 1997. Mr. Guettler has more than 19 years of
experience in sales, marketing and management positions within the medical
industry. Prior to joining the Company, Mr. Guettler was a senior manager at
Universal Hospital Services, Inc. ("UHS"), a nationwide provider of medical
devices and device management services to the health care industry. During his
14 years at UHS, Mr. Guettler held positions as Director of National and
Strategic Accounts where he led a national accounts sales team, as Director of
Alternate Care and Specialty Product Promotions where he was responsible for the
development of UHS's alternate care business unit and the nationwide
distribution of new medical products, and as Marketing Manager where he was
responsible for company-wide marketing and planning. Additionally, Mr. Guettler
41
<PAGE>
has held sales, sales management, product management and marketing positions for
the St. Paul Regional Blood Services. Mr. Guettler has a Bachelor's degree from
the University of St. Thomas in St. Paul, Minnesota (1977) and a Masters degree
in Business Administration (M.B.A.) from the University of St. Thomas Graduate
School of Management in St. Paul, Minnesota (1983).
CHARLES F. CHESNEY, D.V.M., PH.D., R.A.C. Dr. Chesney was the President and
Chief Executive Officer of the Company from its inception in 1988 until January
1, 1996 when he became the Company's Executive Vice President and Chief
Technology Officer. He has been a member of the Board of Directors since its
inception in July 1988 and has been the Secretary of the Company since December
1988. Since 1978, Dr. Chesney has been a consultant to P-T Consulting
Associates, Inc., a biomedical research, product development and consulting
firm, which he owns. From 1984 to 1987, Dr. Chesney was employed by the 3M
Company as Research and Development Manager for 3M/Riker Laboratories in its
Pharmaceutical and Health Care Division. Dr. Chesney is the founder of a small
computer firm which offers data base management systems to large drug companies
and he is the author of more than 25 scientific publications in the field of
medical pathology and toxicology. Dr. Chesney is a member of more than 30
professional societies and has been engaged in new product research and
development in the pharmaceutical, medical device and bio-technology industries
since 1974. In 1991, Dr. Chesney became "Board Certified" in regulatory affairs
by the Certification Board of the Regulatory Affairs Professional Society. Dr.
Chesney holds the degree of Doctor of Veterinary Medicine from the University of
Minnesota (1970) and a Ph.D. in Medical Pathology with a minor in Cardiovascular
Physiology from the University of Wisconsin Madison (1973).
JAMES S. MURPHY, C.P.A., M.B.A. Mr. Murphy joined the Company as Vice
President of Finance and Chief Financial Officer in May 1996. Mr. Murphy was
Controller of Gaming Corporation of America from December 1992 through November
1995. From 1978 to 1988, Mr. Murphy was the tax partner with Fox, McCue and
Murphy, a certified public accounting firm located in Eden Prairie, Minnesota.
From 1970 to 1978, Mr. Murphy was employed by Ernst & Ernst (currently Ernst &
Young LLP) with both audit (six years) and tax (two years) experience. Mr.
Murphy is a member of the American Institute of Certified Public Accountants and
the Minnesota Society of CPAs. Mr. Murphy holds a Bachelor of Science degree
from Saint John's University in Collegeville, Minnesota (1966) and a Masters
degree in Business Administration (M.B.A.) from the University of Minnesota
(1968).
JAY N. COHN, M.D. Dr. Cohn has served as a member of the Board of Directors
of the Company since its inception in July 1988. Since 1974, Dr. Cohn has been
employed by the University of Minnesota Medical School as a Professor of
Medicine and was Head of the Cardiovascular Division from 1974 through 1997. Dr.
Cohn is the co-inventor of the technology used in the Company's Product. Dr.
Cohn is the Company's Chief Clinical Consultant and has been a consultant to
several pharmaceutical firms. He became the Chairman of the Company's Scientific
and Clinical Advisory Board in 1996. Dr. Cohn is currently President of the
International Society of Hypertension and is also a member of the editorial
boards of 12 professional journals and of approximately 17 professional
societies. Since 1959, Dr. Cohn has published more than 500 scientific articles
and a new textbook of cardiovascular medicine. Dr. Cohn received his M.D. degree
from Cornell University (1956). Dr. Cohn currently serves on the board of
directors of Medco Research, Inc.
KENNETH W. BRIMMER Mr. Brimmer was elected to the Board of Directors during
November 1995. Mr. Brimmer was employed by Grand Casinos, Inc. and its
predecessor, since October 1990 as Special Assistant to the Chairman and Chief
Executive Officer. Mr. Brimmer presently serves on the board of directors of
Rainforest Cafe, Inc., and has served as its Treasurer since May 1995 and its
acting President from April 1997 to May 1998 when he was named its President.
Mr. Brimmer also currently serves on the board of directors of New Horizons Kids
Quest, Inc. and Oxboro Medical International, Inc.
STANLEY M. FINKELSTEIN, PH.D. Dr. Finkelstein is the Company's Chief
Technical Consultant. Dr. Finkelstein has been employed by the University of
Minnesota since 1977, and is a Professor of
42
<PAGE>
Laboratory Medicine and Pathology in the Medical School. He has also been
Associate Director of the Division of Health Computer Sciences within the
Department of Laboratory Medicine and Pathology since 1982 and is currently the
Director of Graduate Studies for Biomedical Engineering. Dr. Finkelstein is the
author of over 100 scientific articles in professional journals and technical
conference proceedings on subjects relating to arterial vascular compliance,
pulmonary disease, medical informatics and data management. He has also
presented related material at more than 100 conferences and technical meetings.
Dr. Finkelstein is the co-inventor of the technology used in the Company's
Product. Dr. Finkelstein earned his Ph.D. in Electrical Engineering/Systems
Science Bioengineering from the Polytechnic Institute of Brooklyn, Brooklyn, New
York (1969).
At the Company's special meeting of shareholders held on May 22, 1998, the
Company's shareholders approved a proposal to (a) classify the Board of
Directors into three classes, each of which member would serve (after a
transitional period) for a staggered three year term; (b) provide that directors
may be removed for cause with the vote of the holders of a majority of the then
outstanding shares entitled to vote or other than for cause with the vote of the
holders of at least 80% of the combined voting power of the then outstanding
shares of stock entitled to vote generally in the election of directors, voting
together as a single class; (c) provide that any new director elected to fill a
vacancy on the Board shall serve for the remainder of the full term of the class
in which the vacancy occurred rather than until the next meeting of
shareholders; and (d) require an 80% shareholder vote requirement to alter,
amend or repeal the foregoing provisions of the Articles or Bylaws. Such
classification will make it more difficult to change the members of the Board of
Directors or to effect a takeover of the Company.
Scientific and Clinical Advisory Board. In order to provide the Company with
a wide range of scientific and clinical advice, the Company's Board of Directors
appointed Dr. Jay N. Cohn to become the Chairman for an Advisory Board of
cardiovascular experts. The following physicians are members of the Advisory
Board:
- - Hans R. Brunner, M.D.--Division of Hypertension, Department of Medicine,
CHUV, University of Lausanne, Switzerland.
- - Jay N. Cohn, M.D.--Professor of Medicine, Cardiovascular Division, University
of Minnesota Medical School, Minneapolis, Minnesota.
- - Daniel Duprez, M.D., Ph.D.--Department of Cardiovascular Diseases, University
Hospital, University of Gent, Belgium.
- - Thomas D. Giles, M.D.--Director of Program in Hypertension and Heart Failure,
Director of Cardiovascular Research, Professor of Medicine, Department of
Medicine, Louisiana State University Medical Center, New Orleans, Louisiana.
- - Stevo Julius, M.D., Sc.D.--Professor of Medicine and Physiology, Frederick
G.L. Huetwell Professor of Hypertension, University of Michigan Medical
Center, Ann Arbor, Michigan.
- - Giuseppe Mancia, M.D.--Centro di Fisiologia Clinica e Ipertensione, Ospedale
Maggiore, Universita di Milano, Milan, Italy.
- - Karl-Heinz Rahn, M.D.--Professor and Chairman, Department of Medicine,
University of Munster, Munster, Germany.
- - Lawrence M. Resnick, M.D.--Professor of Medicine, Director of Hypertension,
Wayne State University School of Medicine, Detroit, Michigan.
- - Michel E. Safar, M.D.--Centre de Diagnostics, Hopital Broussais, Paris,
France.
- - Marc A. Silver, M.D.--Director of Heart Failure Institute, Director of
Cardiovascular Disease Fellowship, Christ Hospital and Medical Center, Oak
Lawn, Illinois.
- - Michael A. Weber, M.D.--Chairman, Department of Medicine, Brookdale Hospital
Medical Center, Professor of Medicine, Brooklyn, New York; President of the
American Society of Hypertension.
The Scientific and Clinical Advisory Board meets once or twice yearly and
serves to provide the Company with advice regarding advances in the field of
arterial elasticity and to review results and new
43
<PAGE>
developments associated with the Company's technology. Under some circumstances,
members of the Board may be asked to test products in their own laboratories.
Section 16(a) of the Securities Exchange Act requires the Company's
officers, directors and shareholders who beneficially own more than 10% of a
class of the Company's equity securities to file reports of ownership and
changes of ownership with the SEC. Since the Company became a public reporting
company after its fiscal year end June 30, 1998, such persons were not subject
to the Section 16(a) filing requirements during fiscal year 1998.
ITEM 10. EXECUTIVE COMPENSATION
The following table sets forth the aggregate compensation for the years
indicated for the Company's executive officers who received salary and bonus in
excess of $100,000.
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
ANNUAL COMPENSATION COMPENSATION AWARDS
--------------------
FISCAL YEAR ----------------------- SECURITIES
NAME AND PRINCIPAL POSITION ENDED JUNE 30 SALARY BONUS UNDERLYING OPTIONS
- --------------------------------- ------------- ---------- ----------- --------------------
<S> <C> <C> <C> <C>
Greg H. Guettler(1).............. 1998 $ 105,000 -- 150,000
President 1997 -- -- --
1996 -- -- --
</TABLE>
- ------------------------
(1) Mr. Guettler became President in September 1997.
The following table provides information about each stock option grant made
during the fiscal year ended June 30, 1998 to the named executive officer.
OPTION GRANTS IN FISCAL YEAR 1998
<TABLE>
<CAPTION>
NUMBER OF PERCENT OF TOTAL
SECURITIES OPTIONS GRANTED EXERCISE OR
UNDERLYING TO EMPLOYEES IN BASE PRICE EXPIRATION
NAME OPTIONS GRANTED FISCAL YEAR ($/SHARE) DATE
- --------------------------- --------------- ----------------- ------------- -----------
<S> <C> <C> <C> <C>
Greg H. Guettler........... 150,000 51.6% $ 2.00/share 9/7/2007
</TABLE>
The following table summarizes stock option exercises during the fiscal year
ended June 30, 1998 and the total number of options held at the end of fiscal
year 1998 by the named executive officer.
AGGREGATED OPTION EXERCISES IN FISCAL YEAR 1998 AND
FISCAL YEAR END OPTION VALUES
<TABLE>
<CAPTION>
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE- MONEY OPTIONS AT
SHARES OPTIONS AT JUNE 30, 1998 JUNE 30, 1998(2)
ACQUIRED ON VALUE -------------------------- --------------------------
NAME EXERCISE REALIZED(1) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- --------------------------- ------------- ----------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Greg H. Guettler........... 6,000 $ 12,750 12,000 132,000 $ 25,500 $ 280,500
</TABLE>
- ------------------------
(1) Difference between the initial public offering price of $4.125 per unit and
option exercise price (before payment of applicable income taxes).
(2) There was no public trading market for the Common Stock as of June 30, 1998.
The values have been calculated based on the initial public offering price
of $4.125 per unit less the option exercise price (before payment of
applicable income taxes).
44
<PAGE>
EMPLOYMENT AGREEMENTS
As of September 8, 1997, the Company entered into an employment agreement
with Greg H. Guettler to serve as its President. The employment agreement has a
term of one year, but provides for automatic extension for an additional year
unless either party gives written notice of the nonextension by a specified
date. Pursuant to the employment agreement, Mr. Guettler is paid a minimum
annual salary (exclusive of benefits, bonuses or incentive payments) of
$126,000, subject to adjustment annually by the Board of Directors, and a
discretionary one-time cash bonus and incentive compensation, equal to not less
than 10% and not more than 25% of Mr. Guettler's annual salary, as determined by
the Board of Directors. Payment of the bonus and incentive compensation is
contingent upon the successful completion of Mr. Guettler's first year of
employment with the Company and will be payable at the time Mr. Guettler
commences his second year of employment. In addition, the employment agreement
provides for the one-time grant of options to purchase 150,000 shares at an
exercise price of $2.00 per share. If Mr. Guettler is terminated without cause
(as defined), he will be entitled to one year's severance payment based on his
base salary. The employment agreement is terminable by the Company with 60 days
written notice. Under the terms of the employment agreement, Mr. Guettler will
be entitled to accelerated vesting of his stock options and one year's
compensation in the event that there is a "change in control," as defined. The
employment agreement contains certain confidentiality obligations and a one-year
covenant not to compete.
On October 30, 1995, the Company entered into a five-year employment
agreement with Charles F. Chesney to serve as its President and Chief Executive
Officer until the Company appointed another President and Chief Executive
Officer, at which time Dr. Chesney became the Executive Vice President and Chief
Technology Officer (which occurred on January 1, 1996). Pursuant to the
employment agreement, Dr. Chesney is paid a minimum annual salary (exclusive of
benefits, bonuses or incentive payments) of $100,800, subject to annual
adjustments to reflect increases in the cost of living. Dr. Chesney's base
annual salary, plus benefits, bonuses and incentive payments, must be equal to,
or greater than, 80% of that paid to the Company's President and/or Chief
Executive Officer. Dr. Chesney also was granted a stock option to purchase
288,046 shares at an exercise price of $1.70 per share and is entitled to
certain registration rights with respect to the Shares underlying such options.
In addition, on August 18, 1997, the Company granted Dr. Chesney a stock option
under the 1995 Option Plan to purchase 75,000 shares at an exercise price of
$2.00 per share. The employment agreement is terminable by Dr. Chesney for any
reason, upon sixty (60) days written notice. Dr. Chesney may be terminated by
the Company only for "reasonable cause," as defined. The employment agreement
contains certain confidentiality obligations.
On July 1, 1997, the Company entered into a two-year employment agreement
with James S. Murphy to serve as Vice President of Finance and Chief Financial
Officer. The employment agreement provides for an annual base salary of $76,800,
subject to adjustments, if any, to increase the annual base salary by the Board
of Directors following an annual review in June 1998. In addition, the
employment agreement provides for a one-time grant of options to purchase 53,100
shares, vesting monthly over a four-year period commencing July 1, 1997, at an
exercise price of $2.00 per share. The employment agreement is terminable by the
Company if it determines, in good faith, that Mr. Murphy is not meeting
performance expectations, standards or objectives, either (a) upon 30 days
written notice, or (b) immediately by delivering one month's pay with the
termination notice. The employment agreement is terminable by Mr. Murphy upon 30
days written notice. The employment agreement contains certain nondisclosure and
confidentiality obligations.
OUTSIDE DIRECTOR COMPENSATION
Members of the Board of Directors receive no cash compensation for such
service. However, the Company has granted to each of the Company's outside
directors an option to purchase 25,000 shares at an exercise price of $2.00 per
share.
45
<PAGE>
On October 30, 1995, the Company entered into a four-year consulting
agreement with Jay N. Cohn, M.D., a member of the Board of Directors. Dr. Cohn
is also one of the founders of the Company and serves as the Company's Chief
Clinical Consultant and Chairman of the Scientific and Clinical Advisory Board.
The agreement is cancellable for any reason by either the Company or Dr. Cohn
upon 60 days prior notice. Under the terms of the agreement, the Company agreed
to grant Dr. Cohn nonqualified stock options to purchase 449,265 shares, which
are exercisable for a period of ten years at an exercise price of $1.70 per
share, to serve as clinical liaison and spokesman for the Company's arterial
compliance technology and to use his best efforts to forward the research,
clinical penetration and marketing of the Company's Products. All of the shares
underlying these options have been fully vested. Dr. Cohn is entitled to certain
registration rights with respect to the shares underlying these options.
On August 28, 1998 the Board of Directors agreed to amend Dr. Cohn's
consulting agreement. Under the amended consulting agreement, Dr. Cohn will
perform marketing, sales and public relations activities. As consideration for
such additional services, the Company has agreed to grant to Dr. Cohn an option
to purchase 100,000 shares of Common Stock under the Company's 1998 Stock Option
Plan, with an exercise price equal to $3.656 per share (which was the fair
market value of the Common Stock on the date of grant). The option vests in
three equal annual installments commencing on the date of grant. The consulting
agreement has been extended through August 2001.
On January 1, 1996, the Company entered into a consulting agreement with
Melville R. Bois, currently the Chairman of the Board of Directors, to serve as
the Company's President and Chief Executive Officer on a part-time basis until
such time as the Company appointed another President and/or Chief Executive
Officer. Under the terms of the agreement, the Company agreed to pay Mr. Bois a
monthly consulting fee of $4,000 and grant Mr. Bois nonqualified stock options
to purchase 12,500 shares, which are exercisable for a period of ten years at an
exercise price of $2.00 per share. All of the shares underlying such options
have been fully vested. The agreement was terminated by the Company in
accordance with its terms, upon the hiring of Greg H. Guettler as President in
September 1997. On July 1, 1997, the Company granted Mr. Bois a stock option to
purchase 12,500 shares at an exercise price of $2.00 per share. All of the
shares underlying such options have been fully vested. Mr. Bois is entitled to
certain registration rights with respect to the shares underlying his options.
46
<PAGE>
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT
The following table presents, as of August 31, 1998, certain information
regarding beneficial ownership of the Company's Common Stock by (i) each person
known by the Company to beneficially own more than 5% of the outstanding shares
of Common Stock; (ii) each director and executive officer of the Company; and
(iii) all directors and executive officers of the Company as a group. Unless
otherwise indicated, the persons listed below have sole voting and investment
power with respect to the shares and may be reached at 2915 Waters Road, Suite
108, Eagan, MN 55121.
<TABLE>
<CAPTION>
SHARES PERCENTAGE
NAME OF BENEFICIAL OWNER BENEFICIALLY OWNED(1) BENEFICIALLY OWNED
- ---------------------------------------- --------------------- ------------------
<S> <C> <C>
Greg H. Guettler(2)..................... 50,000 *
Charles F. Chesney, D.V.M., Ph.D.,
R.A.C.(3)............................. 296,046 4.8%
James S. Murphy(4)...................... 89,600 1.5
Jay N. Cohn, M.D.(5).................... 459,718 7.5
Melville R. Bois(6)..................... 65,000 1.1
Kenneth W. Brimmer(7)................... 62,000 1.0
Stanley M. Finkelstein, Ph.D.(8)
Health Informatics Division Box 609
UMHC, 420 Delaware St. S.E.,
Minneapolis, Minnesota 55455.......... 312,071 5.1
All Officers and Directors as a Group (6
persons).............................. 1,022,364 16.7
</TABLE>
- ------------------------
* Less than 1%.
(1) Shares of Common Stock subject to options and warrants that are currently
exercisable or exercisable within 60 days are deemed to be beneficially
owned by the person holding the options or warrants for computing such
person's percentage, but are not treated as outstanding for computing the
percentage of any other person.
(2) Includes options and warrants to purchase 34,000 shares.
(3) Includes options to purchase 240,046 shares.
(4) Includes options to purchase 39,600 shares.
(5) Includes options to purchase 385,544 shares.
(6) Includes options to purchase 40,000 shares.
(7) Includes options and warrants to purchase 21,000 shares.
(8) Includes options to purchase 257,688 shares.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
On October 30, 1995, the Company entered into a four-year consulting
agreement with Stanley M. Finkelstein, Ph.D., one of the founders of the Company
and currently the Company's Chief Technical Consultant. The agreement is
cancellable for any reason by either the Company or Dr. Finkelstein upon 60 days
prior notice. Under the terms of the agreement, the Company agreed to grant Dr.
Finkelstein nonqualified stock options to purchase 297,688 shares of Common
Stock, which are exercisable for a period of ten years at an exercise price of
$1.70 per share, to serve as technical liaison and spokesman for the Company's
arterial compliance technology and to use his best efforts to forward the
research, clinical penetration and marketing of the Company's Products. All of
the shares underlying these options have
47
<PAGE>
been fully vested. Dr. Finkelstein is entitled to certain registration rights
with respect to the shares underlying these options.
The Company's management believes that the terms of this transaction are no
less favorable to the Company than would have been obtained from a nonaffiliated
third party for similar services. Any future transactions between the Company
and any of its officers, directors or affiliates will be on terms no less
favorable to the Company than could be obtained from unaffiliated third parties.
All future material affiliated transactions must be approved by a majority of
the independent outside members of the Company's Board of Directors who do not
have an interest in the transactions.
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
<TABLE>
<C> <S>
3.1 Articles of Incorporation*
3.2 Bylaws*
3.3 Articles of Amendment to Articles of Incorporation, dated June 2, 1998*
4.1 Specimen of Common Stock Certificate*
4.2 Form of Warrant Agreement*
4.3 Specimen of Warrant Certificate*
4.4 Specimen of Unit Certificate*
10.1 1995 Long-Term Incentive and Stock Option Plan*#
10.2 1998 Stock Option Plan*#
10.3 Form of Stock Option Agreement for 1998 Stock Option Plan*#
10.4 Research and License Agreement between the Company and the Regents of the University
of Minnesota, dated September 23, 1988*
10.5 Employment Agreement between Charles F. Chesney, D.V.M., Ph.D., R.A.C. and the
Company, dated October 30, 1995*#
10.6 Employment Agreement between James S. Murphy and the Company, dated July 1, 1997*#
10.7 Employment Agreement between Greg H. Guettler and the Company, dated September 8,
1997*#
10.8 Consulting Agreement between Jay N. Cohn, M.D. and the Company, dated October 30,
1995*#
10.9 Consulting Agreement between Stanley M. Finkelstein, Ph.D. and the Company, dated
October 30, 1995*
10.10 Consulting Agreement between Melville R. Bois and the Company, dated January 1,
1996*#
10.11 Office Lease Agreement, dated as of October 24, 1997*
10.12 Manufacturing Services Agreement between Altron, Inc. and the Company, dated July 15,
1997.*
</TABLE>
48
<PAGE>
<TABLE>
<C> <S>
10.13 Manufacturing Services Agreement between Apollo Research Corporation and the Company,
dated May 14, 1998.*
27 Financial Data Schedule
</TABLE>
- ------------------------
* Incorporated herein by reference to the Company's Registration Statement on
Form SB-2, File No. 333-53025.
# Executive compensation plans and arrangements.
(b) REPORTS ON FORM 8-K
None.
49
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant
has duly caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
<TABLE>
<S> <C>
HYPERTENSION DIAGNOSTICS, INC.
/S/ GREG H. GUETTLER
------------------------------------------
Greg H. Guettler
PRESIDENT
</TABLE>
Dated: September 28, 1998
In accordance with the requirements of the Exchange Act, this report has
been signed below on behalf of the registrant and in the capacities indicated on
September 28, 1998.
<TABLE>
<CAPTION>
SIGNATURE TITLE
- ------------------------------ --------------------------
<C> <S>
/s/ MELVILLE R. BOIS
- ------------------------------ Chairman of the Board of
Melville R. Bois Directors
/s/ GREG H. GUETTLER President and Director
- ------------------------------ (Principal Executive
Greg H. Guettler Officer)
/s/ CHARLES F. CHESNEY Executive Vice President,
- ------------------------------ Chief Technology Officer
Charles F. Chesney and Director
Vice President of Finance
/s/ JAMES S. MURPHY and Chief Financial
- ------------------------------ Officer (Principal
James S. Murphy Financial and Accounting
Officer)
/s/ JAY N. COHN, M.D.
- ------------------------------ Director
Jay N. Cohn, M.D.
/s/ KENNETH W. BRIMMER
- ------------------------------ Director
Kenneth W. Brimmer
</TABLE>
50
<PAGE>
INDEX TO EXHIBITS
<TABLE>
<C> <S>
3.1 Articles of Incorporation*
3.2 Bylaws*
3.3 Articles of Amendment to Articles of Incorporation, dated June 2, 1998.*
4.1 Specimen of Common Stock Certificate*
4.2 Form of Warrant Agreement*
4.3 Specimen of Warrant Certificate*
4.4 Specimen of Unit Certificate*
10.1 1995 Long-Term Incentive and Stock Option Plan*
10.2 1998 Stock Option Plan*
10.3 Form of Stock Option Agreement for 1998 Stock Option Plan*
10.4 Research and License Agreement between the Company and the Regents of the University
of Minnesota, dated September 23, 1988*
10.5 Employment Agreement between Charles F. Chesney, D.V.M., Ph.D., R.A.C. and the
Company, dated October 30, 1995*
10.6 Employment Agreement between James S. Murphy and the Company, dated July 1, 1997*
10.7 Employment Agreement between Greg H. Guettler and the Company, dated September 8,
1997*
10.8 Consulting Agreement between Jay N. Cohn, M.D. and the Company, dated October 30,
1995*
10.9 Consulting Agreement between Stanley M. Finkelstein, Ph.D. and the Company, dated
October 30, 1995*
10.10 Consulting Agreement between Melville R. Bois and the Company, dated January 1, 1996*
10.11 Office Lease Agreement, dated as of October 24, 1997*
10.12 Manufacturing Services Agreement between Altron, Inc. and the Company, dated July 15,
1997.*
10.13 Manufacturing Services Agreement between Apollo Research Corporation and the Company,
dated May 14, 1998.*
27 Financial Data Schedule
</TABLE>
- ------------------------
* Incorporated herein by reference to the Company's Registration Statement on
Form SB-2, File No. 333-53025.
51
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE FISCAL
YEARS ENDED JUNE 30, 1997 AND JUNE 30, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY
REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C> <C>
<PERIOD-TYPE> YEAR YEAR
<FISCAL-YEAR-END> JUN-30-1997 JUN-30-1998
<PERIOD-START> JUL-01-1996 JUL-01-1997
<PERIOD-END> JUN-30-1997 JUN-30-1998
<CASH> 1,198,778 1,239,804
<SECURITIES> 0 0
<RECEIVABLES> 5,375 4,676
<ALLOWANCES> 0 0
<INVENTORY> 0 39,054
<CURRENT-ASSETS> 1,204,153 1,294,788
<PP&E> 20,300 446,160
<DEPRECIATION> 15,730 25,997
<TOTAL-ASSETS> 1,213,705 1,605,507
<CURRENT-LIABILITIES> 4,551 188,100
<BONDS> 0 0
0 0
0 0
<COMMON> 19,620 25,177
<OTHER-SE> 1,189,534 1,392,230
<TOTAL-LIABILITY-AND-EQUITY> 1,213,705 1,605,507
<SALES> 0 0
<TOTAL-REVENUES> 81,198 64,092
<CGS> 0 0
<TOTAL-COSTS> 0 0
<OTHER-EXPENSES> 953,170 1,206,255
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 0 0
<INCOME-PRETAX> 0 0
<INCOME-TAX> 0 0
<INCOME-CONTINUING> (871,972) (1,142,163)
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> (871,972) (1,142,163)
<EPS-PRIMARY> (.44) (.51)
<EPS-DILUTED> (.44) (.51)
</TABLE>
