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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY report pursuant to Section 13 OR 15(d) of the Securities
Exchange Act of 1934
For the quarter ended SEPTEMBER 30, 1999,
OR
[ ] Transition report pursuant to Section 13 OR 15(d) of the Securities
Exchange Act of 1934 For the transition period from_____________
to _______________
Commission file number: 000-24103
COHESION TECHNOLOGIES, INC.
(Exact Name of Registrant as Specified in Its Charter)
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<CAPTION>
DELAWARE 94-3274368
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(State or Other (I.R.S. Employer
Jurisdiction Identification No.)
of Incorporation or
Organization)
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2500 FABER PLACE, PALO ALTO, CA 94303
(Address of Principal Executive Offices, including Zip Code)
Registrant's telephone number, including area code: (650) 354-4300
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $.001 PAR VALUE
Indicate by check mark whether the Registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 month (or such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. YES [X] NO [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
As of October 31, 1999, Registrant had 8,500,538 shares of Common Stock
outstanding, exclusive of 515,100 shares held by the Registrant as treasury
stock.
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COHESION TECHNOLOGIES, INC.
FORM 10-Q
INDEX
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<CAPTION>
PART I. Financial Information Page No.
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Item 1. Financial Statements:
Condensed Consolidated Balance Sheets --
September 30, 1999 and June 30, 1998 3
Condensed Consolidated Statements of Operations --
Three months ended September 30, 1999 and 1998 4
Condensed Consolidated Statements of Cash Flows --
Three months ended September 30, 1999 and 1998 5
Notes to Condensed Consolidated Financial Statements 6-8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 9-15
Item 3. Quantitative and Qualitative Disclosures about Market Risk 16
PART II. Other Information
Item 4. Submission of Matters to a Vote of Security Holders 17
Item 6. Exhibits and Reports on Form 8-K 17
Signatures 18
</TABLE>
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PART I. FINANCIAL INFORMATION
ITEM 2. FINANCIAL STATEMENTS
COHESION TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(UNAUDITED)
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SEPTEMBER 30, JUNE 30,
1999 1999*
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ASSETS
Current assets:
Cash and cash equivalents .............................................. $10,516 $ 4,239
Accounts receivable, net ............................................... 282 895
Inventories ............................................................ 1,148 976
Other current assets ................................................... 2,946 2,142
------- -------
Total current assets ............................................ 14,892 8,252
Property and equipment, net .............................................. 6,833 6,705
Investment in Boston Scientific Corporation .............................. 23,372 41,632
Other investments and assets ............................................. 23,083 14,930
------- -------
$68,180 $71,519
======= =======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable ....................................................... $ 702 $ 1,035
Accrued compensation ................................................... 1,144 1,172
Accrued liabilities .................................................... 3,079 4,133
Income taxes payable ................................................... 3,219 953
Obligation under capital lease ......................................... 705 --
------- -------
Total current liabilities ....................................... 8,849 7,293
Long-term liabilities:
Obligation under capital lease ......................................... 3,460 --
Deferred income taxes .................................................. 13,801 18,985
------- -------
Total long-term liabilities ..................................... 17,261 18,985
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.001 par value, authorized: 5,000,000 shares,
issued and outstanding: no shares at
September 30, 1999 and June 30, 1999 ................................. -- --
Common stock, $.001 par value, authorized: 15,000,000 shares;
issued, September 30, 1999 -- 8,990,715 shares; June 30, 1999 --
8,953,167 shares; outstanding, September 30, 1999 -- 8,475,615 shares;
June 30, 1999 -- 8,438,067 shares .................................... 9 9
Additional paid-in capital ............................................. 15,385 15,193
Retained earnings (since August 19, 1998) .............................. 9,898 5,705
Accumulated other comprehensive income ................................. 18,752 26,308
Treasury stock, at cost, 515,100 shares at September 30, 1999 and
June 30, 1999 ...................................................... (1,974) (1,974)
------- -------
Total stockholders' equity ...................................... 42,070 45,241
------- -------
$68,180 $71,519
======= =======
</TABLE>
The accompanying Notes to Condensed Consolidated Financial Statements are an
integral part of these statements.
* Amounts derived from audited financial statements at the date indicated.
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COHESION TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
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THREE MONTHS ENDED
SEPTEMBER 30,
------------------------
1999 1998
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Revenue -- product sales .............................. $ 444 $ 396
Costs and expenses:
Cost of sales, including manufacturing
start-up costs ................................... 669 183
Research and development ............................ 3,245 3,988
Selling, general and administrative ................. 1,885 1,689
Compensation expense related to
cancelled stock options .......................... 449 1,813
------- -------
Total costs and expenses .................... 6,248 7,673
------- -------
Loss from operations .................................. (5,804) (7,277)
Other income:
Gain on investments, principally
Boston Scientific Corporation ................... 12,699 9,618
Interest income ..................................... 93 57
------- -------
Income before provision for income taxes .............. 6,988 2,398
Provision for income taxes ............................ 2,795 1,007
------- -------
Net income ............................................ $ 4,193 $ 1,391
======= =======
Earnings per common share -- basic .................... $ .50 $ .16
======= =======
Earnings per common share assuming dilution ........... $ .49 $ .16
======= =======
Weighted average shares outstanding -- basic .......... 8,445 8,838
======= =======
Weighted average shares outstanding assuming
dilution ............................................ 8,616 8,838
======= =======
</TABLE>
The accompanying Notes to Condensed Consolidated Financial Statements are an
integral part of these statements.
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COHESION TECHNOLOGIES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
(IN THOUSANDS)
(UNAUDITED)
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THREE MONTHS ENDED
SEPTEMBER 30,
------------------------
1999 1998
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Cash flows from operating activities:
Net income ........................................... $ 4,193 $ 1,391
Adjustments to reconcile net income
to net cash used in operating activities:
Depreciation and amortization ..................... 372 277
Gain on investments ............................... (12,699) (9,618)
Decrease (increase) in assets:
Accounts receivable ............................. 613 87
Inventories ..................................... (173) (6)
Other ........................................... (98) (793)
Increase (decrease) in liabilities:
Accounts payable, accrued liabilities
and other ..................................... (1,414) 472
Income taxes payable ............................ 2,265 1,007
-------- -------
Net cash used in operating activities ............. (6,941) (7,183)
-------- -------
Cash flows from investing activities:
Proceeds from sales of Boston Scientific
Corporation stock ................................. 12,614 9,626
Proceeds from sale-leaseback of manufacturing
facility ........................................... 4,165 --
Proceeds from sale of other investments .............. 1,191 533
Purchase of investments .............................. (4,205) --
Payment on maturity of equity collar ................. (353) --
Proceeds from maturities of short-term investments ... -- (22)
Expenditures for property and equipment .............. (386) (591)
-------- -------
Net cash provided by investing activities ......... 13,026 9,546
-------- -------
Cash flows from financing activities:
Proceeds from exercise of stock options .............. 192 --
Treasury stock purchases ............................. -- (187)
-------- -------
Net cash provided by (used in) financing
activities ...................................... 192 (187)
-------- -------
Net increase in cash and cash equivalents .............. 6,277 2,176
Cash and cash equivalents at beginning of period ....... 4,239 591
-------- -------
Cash and cash equivalents at end of period ............. $ 10,516 $ 2,767
======== =======
</TABLE>
The accompanying Notes to Condensed Consolidated Financial Statements are an
integral part of these statements.
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COHESION TECHNOLOGIES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The condensed consolidated balance sheet as of September 30, 1999, the
condensed consolidated statements of operations for the three months ended
September 30, 1999 and 1998, and the condensed consolidated statements of cash
flows for the three months ended September 30, 1999 and 1998, have been prepared
by the Company and are unaudited. In the opinion of management, all necessary
adjustments (which include only normal recurring adjustments) have been made to
present fairly the financial position, results of operations, and cash flows at
September 30, 1999 and for all periods presented. Interim results are not
necessarily indicative of results for a full fiscal year. The consolidated
balance sheet as of June 30, 1999 has been derived from the audited consolidated
financial statements at that date.
The financial statements for the prior fiscal period have been reclassified
to conform with the current year presentation. Certain information and footnote
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed or omitted.
These condensed consolidated financial statements should be read in conjunction
with the audited consolidated financial statements and notes included in the
Company's Annual Report on Form 10-K for the year ended June 30, 1999.
2. INVENTORIES
Inventories are valued at the lower of cost, determined on a standard cost
basis which approximates average cost, or market.
Inventories comprise the following:
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SEPTEMBER 30, JUNE 30,
1999 1999
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(IN THOUSANDS)
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Raw materials................................. $ 164 $158
Work-in-process............................... 720 737
Finished goods................................ 264 81
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$1,148 $976
====== ====
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3. EQUITY INVESTMENTS
The following is a summary of the aggregate estimated fair value, gross
unrealized gains and cost of the Company's investments in common stock:
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SEPTEMBER 30, JUNE 30,
1999 1999
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(IN THOUSANDS)
<S> <C> <C>
BOSTON SCIENTIFIC CORPORATION
Cost............................................... $ 1,569 $ 2,229
Gross unrealized gains............................. 16,392 43,056
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17,961 45,285
Fair value of equity collar........................ 5,411 (3,653)
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Estimated fair value............................... $23,372 $41,632
======= =======
OTHER INVESTMENTS
Cost............................................... $ 8,731 $10,253
Gross unrealized gains............................. 9,806 3,516
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Estimated fair value............................... $18,537 $13,769
======= =======
Total estimated fair value......................... $41,909 $55,401
======= =======
</TABLE>
Cohesion determines the appropriate classification of marketable securities
at the time of purchase and re-evaluates such designation as of each balance
sheet date. All of Cohesion's equity securities are classified as
available-for-sale.
To hedge against fluctuations in the market value of a portion of the
Boston Scientific common stock, Cohesion entered into costless collar
instruments that expire quarterly through May 2001 and will require settlement
in cash. At September 30, 1999, 725,000 shares were hedged under these collars.
The put and call options are collateralized by shares of Boston Scientific
common stock held by Cohesion.
4. CAPITAL LEASE OBLIGATION
The Company entered into a lease agreement that covers manufacturing
equipment and leasehold improvements. The lease covers expenditures up to $5.0
million. The term of the lease is 48 months with a one-year extension option.
Rental payments are based on a monthly equivalent rental payment factor of the
lease line utilized. The amount borrowed against the lease line at September 30,
1999 was $4.2 million. Equipment and certain investments collateralize the
lease.
5. STOCKHOLDERS' EQUITY
Cohesion Corporation Stock Options
In September 1998, the Company's Board of Directors approved a program to
cancel options to purchase shares of the common stock of Cohesion Corporation.
In connection with such program, the Company offered to pay each holder of these
canceled options a per share amount equal to the excess of $16.70 over the
exercise price of the canceled option. The Company will make this option payment
ratably over the original vesting period of the canceled option so long as the
former holder
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thereof remains an employee or consultant of the Company. The Company recorded
$449,000 of compensation expense related to these canceled options during the
three months ended September 30, 1999 and expects to records an additional $1.9
million through 2001.
6. COMPREHENSIVE INCOME
The components of comprehensive income (loss), net of related tax, for the
three months ended September 30, 1999 and 1998 are as follows:
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THREE MONTHS ENDED
SEPTEMBER 30,
-----------------------------
1999 1998
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Net income......................................... $ 4,193 $ 1,391
Change in unrealized gains
on securities.................................... (7,556) (9,762)
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Comprehensive income (loss)........................ $(3,363) $(8,371)
======= =======
</TABLE>
7. SEGMENT INFORMATION
The Company develops proprietary surgical products, including bioresorbable
hemostatic devices and biosealants for tissue repair and regeneration. The
Company operates in two segments: 1) the surgical business and 2) an orthopedic
business. In February 1999, the Company formed a new subsidiary, NeuColl, Inc.,
to commercialize its products in the orthopedics field, which includes
Collagraft and NeuVisc. Both segments report to the Chief Executive Officer
("CEO") of Cohesion who allocates resources to each business. The CEO has been
identified as the Chief Operating Decision Maker as defined by SFAS 131.
Information on reportable segments for the three months ended September 30,
1999 is as follows: Information for the three months ended September 30, 1998 is
not available.
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(IN THOUSANDS)
SURGICAL ORTHOPEDIC TOTAL
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Revenue -- product sales.......... $ 115 $ 329 $ 444
Loss from operations.............. $(5,225) $ (579) $(5,804)
Total assets...................... $66,817 $1,363 $68,180
</TABLE>
8. STATEMENTS OF CASH FLOWS
Supplemental disclosure of cash flow information (in thousands):
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THREE MONTHS ENDED
SEPTEMBER 30,
-----------------------------
1999 1998
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Cash paid during the period for:
Income taxes $50,000 $ --
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The following discussion should be read in conjunction with the Condensed
Consolidated Financial Statements and notes thereto. Certain statements in this
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" are forward-looking. The forward-looking statements contained herein
are based on current expectations and entail various risks and uncertainties
that could cause actual results to differ materially from those expressed in
such forward-looking statements. These risks include, but are not limited to,
(i) significant unforeseen delays in the regulatory approval process, (ii)
determination by the FDA or foreign regulatory bodies that our clinical data
does not support the safety and efficacy of our products and (iii) competitive
products and technology. For a more detailed discussion on other business risks
see "Additional Factors That Might Affect Future Results of Operations."
Cohesion is focused on developing and commercializing proprietary surgical
products, including bioresorbable hemostatic devices and biosealants for tissue
repair and regeneration, to increase the effectiveness of minimally invasive
surgeries. CoStasis Surgical Hemostat, our lead hemostatic product, is designed
for use in cardiovascular, orthopedic and general surgery indications. We
received a CE Mark in September 1998 and began to launch the product in Europe
in February 1999. We completed a pivotal clinical trial in the U.S. during
fiscal 1999, and filed a PMA application with the FDA in June 1999. We also
initiated an expanded clinical study in Europe in fiscal 1999 for CoSeal(TM)
Surgical Sealant, our lead biosealant product designed for sealing organs and
other tissues resulting from surgical wounds and incisions. We believe that our
surgical products will provide several distinct advantages over currently
available technologies, including ease of preparation and use, novel delivery
systems, improved safety profiles and clinical effectiveness. Cohesion also
sells Collagraft implant, an orthopedic product, through its subsidiary,
NeuColl, Inc., and has research and development programs in other orthopedic
areas and in recombinant human collagen and thrombin. Our products and programs
are based on a platform of proprietary technologies centered around collagen and
hydrophilic polymers that quickly polymerize in-vivo and bind to tissue.
Cohesion was organized as a Delaware corporation and wholly owned
subsidiary of Collagen Aesthetics, Inc., formerly known as Collagen Corporation
in June 1997. During fiscal 1998, Collagen proceeded to separate its Aesthetic
Technologies Group and its Collagen Technologies Group into two independent,
publicly-traded companies. Effective January 1, 1998, Collagen contributed its
research and development programs for hemostatic devices, biosealants,
orthopedics products and programs, adhesion barriers and recombinant human
collagen and thrombin and other related businesses of CTG to Cohesion. Collagen
also contributed various equity investments to Cohesion, including all of its
holdings in Boston Scientific Corporation. On August 18, 1998, Collagen
distributed as a dividend to its stockholders, one share of Cohesion's Common
Stock for each share of Collagen common stock outstanding. Cohesion and Collagen
entered into various agreements to provide for an orderly transition of matters
and to govern certain ongoing matters between the two entities and provide a
mechanism for transitioning license, supply, distribution, research and
development, tax, service and other agreements in connection with the
distribution of Cohesion's common stock.
RESULTS OF OPERATIONS
Three Months Ended September 30, 1999 and 1998
Revenues were $444,000 and $396,000 for three months ended September 30,
1999 and 1998, respectively. Sales of Collagraft for the three months ended
September 30, 1999 were $329,000, an increase of approximately $52,000 for the
same prior-year period sales of $277,000, primarily due to timing of shipments
to Zimmer, NeuColl's distribution partner in the U.S. and Asia. We expect
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revenues to be higher in fiscal 2000 due to a full-year of CoStasis sales in
Europe and slightly higher sales of Collagraft from the anticipated product
launch by Zimmer in Japan and sales by NeuColl in certain European countries. A
number of uncertainties exist surrounding the marketing and distribution of our
products where the primary means of distribution is through a third party firm,
such as Zimmer. Our business and financial results could be adversely affected
in the event that a third party firm is unable to market the product
effectively, anticipate customer demand accurately, or effectively manage
industry-wide pricing and cost containment pressures in health care.
Cost of sales as a percentage of sales was 151% and 46% for the three
months ended September 30, 1999 and 1998, respectively. The increase in cost of
sales as a percentage of sales was primarily due to manufacturing startup costs
for the CoStasis product. Cost of sales as a percentage of sales for fiscal 2000
is projected to be higher than fiscal 1999 as cost of sales is expected to
continue to reflect manufacturing startup costs for CoStasis.
Research and development expenses were $3.2 million and $4.0 million for
the three months ended September 30, 1999 and 1998, respectively. The decrease
in R&D spending was due primarily to lower spending in the tissue adhesive,
biosealant and recombinant programs. R&D expense for the three months ended
September 30, 1999 and 1998 reflect reimbursement from Collagen for the
recombinant human collagen program in accordance with the intercompany
agreements entered into between Cohesion and Collagen. We expect R&D spending in
fiscal 2000 to be at slightly lower levels than fiscal 1999.
Selling, general and administrative expenses were $1.9 million and $1.7
million during the three months ended September 30, 1999 and 1998, respectively.
The increase in SG&A expenses is due primarily to increased marketing costs
associated with the launch of CoStasis in Europe. SG&A expenses during the three
months ended September 30, 1998, include a cash payment of $87,500 made to
Collagen's former Chief Executive Officer, Howard Palefsky. SG&A expenses are
expected to increase in fiscal 2000 due to increased spending in sales and
marketing. Future levels of SG&A spending will depend on various factors,
including the level of product sales and how CoStasis is distributed throughout
the world.
During the three months ended September 30, 1999 and 1998, Cohesion
recorded $449,000 and $1.8 million, respectively of compensation expense in
connection with the cancellation of the remaining stock options of Cohesion
Corporation. In September 1998, our board of directors approved a program to
cancel options to purchase shares of the common stock of Cohesion Corporation.
In connection with this cancellation, Cohesion offered to pay each holder of
canceled options a per share amount equal to the excess of $16.70 over the
exercise price of the canceled option. Cohesion will make this option payment
ratably over the original vesting period of the canceled option so long as the
former holder thereof remains an employee or consultant of Cohesion. We expect
to record an additional $1.9 million of compensation expense with respect to the
cash-out of canceled options, which will be recognized during fiscal 2000
through 2001.
Gains on sales of investments were $12.7 million and $9.6 million for the
three months ended September 30, 1999 and 1998, respectively. The gains were
primarily from the sale of common stock of Boston Scientific Corporation. The
timing and number of additional shares of Boston Scientific common stock sold
will depend on market conditions and our anticipated cash needs.
Interest income was $93,000 and $57,000 for the three months ended
September 30 1999 and 1998, respectively. The increase is due to higher average
cash and cash equivalents balances.
Cohesion's effective tax rate for three months ended September 30, 1999 and
1998 was 40% and 42%. The decrease is primarily from the utilization of credit
for research and development expenditures.
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SEGMENT INFORMATION
Cohesion operates in two segments: 1) our surgical business and 2) our
orthopedics business. Our surgical segment develops proprietary surgical
products, including bioresorbable hemostatic devices and biosealants, such as
CoStasis and CoSeal, for tissue repair and regeneration. During fiscal 1999,
Cohesion formed a new company, NeuColl, Inc., a wholly owned subsidiary, in
order to commercialize products in the orthopedics field, which include
Collagraft(R) and NeuVisc(TM), a collagen-based intra-articular implant for the
treatment of osteoarthritis. For a discussion of product sales, see revenue
discussion in "-- Results of Operations."
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 1999, cash and investments were $52.4 million. Net cash
used in operating activities was $6.9 million for three months ended September
30 1999.
For the three months ended September 30, 1999, cash provided by investing
activities of $13.0 million was primarily related to proceeds of approximately
$12.6 million from the sale of Boston Scientific common stock, proceeds of
approximately $1.2 million from the sale of other investments and proceeds of
$4.2 million from the sale-leaseback of our manufacturing facility. The
investment proceeds were offset by $4.2 million for the purchase of investments
and payments totaling $739,000 for the maturity of an equity collar and for
capital expenditures. We anticipate capital expenditures to be approximately
$2.0 million in fiscal 2000.
Our principal sources of liquidity include Boston Scientific common stock
and cash, cash equivalents and other investments. During the three months ended
September 30, 1999, we sold 305,000 shares of Boston Scientific common stock for
an pre-tax gain of approximately $12.0 million ($12.6 million proceeds less cost
basis of $600,000). Cohesion anticipates that stock sales will be made from time
to time, with the objective of generating cash for, among other things, further
investments in both current and new affiliate companies. We may defer sales of
Boston Scientific common stock for tax planning purposes, although decisions
concerning prospective Boston Scientific common stock sales will also be
affected by the then-current market price of Boston Scientific common stock. As
another source of financing, we may in the near term establish a credit
facility, although there can be no assurance that a line of credit will be
available to us on acceptable terms, if at all.
In September 1998, our Board of Directors approved a stock repurchase
program to buy back up to 1.0 million shares of common stock at a price of up to
$4.25 per share. As of September 30, 1999, we had repurchased 515,100 shares of
common stock under this program.
In September 1998, our Board of Directors approved a program to cancel
options to purchase shares of the common stock of Cohesion Corporation. In
connection with such program, Cohesion offered to pay each holder of canceled
options a per share amount equal to the excess of $16.70 over the exercise price
of the canceled option. Cohesion will make this option payment ratably over the
original vesting period of the canceled option so long as the holder thereof
remains an employee or consultant of Cohesion. The Company recorded $449,000 of
compensation expense related to these canceled options during the three months
ended September 30, 1999 and expects to records an additional $1.9 million
through 2001.
We believe that our current sources of liquidity should be adequate to fund
our anticipated capital requirements through at least the next two years.
However, during this period and thereafter, we may require additional financing.
Our capital requirements will depend on numerous factors, including the progress
of our clinical research and product development programs, the extent to which
we enter into collaborative relationships with third parties and the scope of
our obligations in such relationships, the
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receipt of, and the time required to obtain, regulatory clearances and
approvals, the resources required to protect our intellectual property and other
factors. We cannot accurately predict the timing and amount of such capital
requirements. Additional financing may not be available to us on acceptable
terms, if at all.
During fiscal 1999, we formed a new company, NeuColl, Inc., a wholly owned
subsidiary, in order to commercialize products in the orthopedics field, which
include Collagraft and NeuVisc(TM), a collagen-based intra-articular implant. In
connection with the formation, Cohesion granted NeuColl an exclusive license to
certain patents relating to collagen and polymer technology for orthopedic
applications. Cohesion provided the initial funding for NeuColl; however,
Neucoll is currently seeking third-party funding.
YEAR 2000
The Year 2000 issue refers to problems that computer programs may have in
determining the correct century; for example, time-sensitive software may
recognize a date using "00" as the year 1900 rather than the year 2000. This
could cause a system failure or miscalculations causing disruptions of
operations, including, among other things, a temporary inability to process
transactions, send invoices, or engage in similar business activity. Cohesion
has developed a plan to address potential exposures related to the Year 2000
issue and is taking reasonable steps to ensure that its systems, software and
equipment involving date-related information will continue to function properly
after December 31, 1999. Our plan to address the Year 2000 issue involves the
following phases: 1) inventory and risk assessment, 2) remediation, 3) testing,
and 4) full compliance and/or creation of contingency plans. Our plan also
encompasses compliance with regulatory guidelines on the Year 2000 issue.
We have significantly completed our assessment of information technology
business systems, product, operating equipment, and third-party interfaces,
including suppliers. To date, we have not identified any significant problems.
During fiscal 1999, we implemented a new financial information system, which we
believe is Year 2000 compliant. With respect to third-party interfaces, Cohesion
has and will continue to evaluate the Year 2000 readiness of those third parties
through January 1, 2000. In the event that third-party software, hardware or
services is not Year 2000 ready, we may need to replace or revise it. This could
be time-consuming and expensive, resulting in lost revenues and increased costs
for us.
ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATIONS
For a more complete discussion of other risks and uncertainties involving
the Company's business, see "Business -- Government Regulations" and "Business -
Competition" in the Company's Annual Report on Form 10-K for the fiscal year
ended June 30, 1999.
Cohesion has a history of operating losses and anticipates continued operating
losses
Prior to July 1, 1998, our historical results of operations reflect the
historical operations of the transferred businesses contributed by Collagen to
Cohesion. The financial statements, prior to July 1, 1998, may not necessarily
reflect the results of operations, financial position and cash flows of the
transferred businesses had Cohesion been operated as an independent entity
during the periods presented. The transferred businesses incurred operating
losses in each of the past five years, including operating losses of $24.9
million, $31.5 million and $16.4 million in fiscal 1999, 1998 and 1997,
respectively. Cohesion's operating losses have resulted primarily from expenses
incurred in connection with research and development activities, including
preclinical and clinical trials, development of manufacturing processes and
general and administrative expenses, and we expect that such expenses will
continue to increase for the foreseeable future. While we had sales of
12
<PAGE> 13
Collagraft bone products of $1.9 million, $1.5 million and $1.9 million for the
years ended June 30, 1999, 1998 and 1997, respectively, we do not expect such
sales to increase substantially in the future. Such sales at their present
levels do not contribute, in a material way, to our operating profitability.
Cohesion's ability to achieve and sustain operating profitability is highly
dependent upon obtaining in a timely and efficient fashion, regulatory approval
for and successfully commercializing its products in development, particularly
CoStasis Surgical Hemostat and CoSeal Surgical Sealant and developing sales and
marketing capabilities for its products, both in Europe, the United States and
other markets. There can be no assurance that we will obtain required regulatory
approvals in a timely fashion, if at all, or successfully develop, manufacture,
commercialize and market products or that we will ever record significant
product revenues or achieve operating profitability.
We must develop and commercialize our products to generate revenues
Except for Collagraft, our line of collagen-based research material
products, and CoStasis in Europe, all of our products are in research or
preclinical or clinical development. We have not received marketing approval for
any of our products from the FDA. The development and commercialization of new
products are highly uncertain, as is the timing associated with these
activities. Among other things, potential products that may appear to be
promising may not reach the market for a number of reasons, including the
possibilities that the potential products will be found to be ineffective or to
cause harmful side effects during preclinical testing or clinical trials, will
fail to receive necessary regulatory approvals, will be difficult to manufacture
on a commercial scale, will be uneconomical, will fail to achieve market
acceptance or will be precluded from commercialization by the proprietary rights
of third parties. We cannot assure you that any of our development programs will
be successfully completed, that clinical trials will generate anticipated
results or will commence or be completed as planned. Additionally, we cannot
assure you that we will be able to obtain CE Mark in Europe, on a timely basis,
if at all, or that any PMA application will be accepted or ultimately approved
by the FDA on a timely basis, if at all, or that any products for which approval
is obtained will be commercially successful. If any of our development programs
are not successfully completed in a timely fashion, required regulatory
approvals are not obtained in a timely fashion, or products for which approvals
are obtained are not commercially successful, our business, financial condition
and results of operations will be materially and adversely affected.
Cohesion operates in an intense competitive environment
Cohesion competes with many domestic and foreign medical device,
pharmaceutical and biopharmaceutical companies and organizations across each of
its product categories and areas in which it is conducting research and
development activities. In the hemostatic and biosealant areas, we believe in
the United States that we will face strong competition from existing
methodologies for controlling bleeding and sealing wounds resulting from
surgery, such as hemostatic powders and sponges, collagen-based hemostats and
traditional sutures and staples marketed by companies such as Johnson & Johnson,
United States Surgical Corporation, American Home Products Corporation and
Haemacure Corporation. In addition, a fibrin sealant product is currently being
marketed by Baxter Healthcare Corporation. Cohesion faces competition from more
recent products and technologies, such as those developed by Focal, Inc. and
Fusion Medical Technologies, Inc. Outside of the United States, other
competitive products currently being marketed include fibrin sealants and
another class of sealants, cyanoacrylates, which sold in Europe and the Pacific
Rim countries by Immuno AG, Centeon L.L.C. and Cryolife. In the United States,
there are several fibrin sealants under development including those by the
American Red Cross, Convatec, a subsidiary of the Bristol-Myers Squibb Company,
Haemacure Corporation and V.I. Technologies, Inc. (Vitex). In addition to
conventional fibrin sealants, there are a number of other products in late-stage
development using either collagen or polymer technologies, made by Focal and
Fusion, as well as cyanoacrylates. In the orthopedics area, NeuColl's Collagraft
bone graft products face competition from synthetic bone graft substitutes from
Interpore International, Inc., Osteotech, Inc and GenSci Regeneration
Laboratories, Inc. Additionally, several companies and institutions are engaged
in the development of collagen-based materials,
13
<PAGE> 14
techniques, procedures and products for use in medical applications Cohesion
anticipates addressing with its current and proposed products and research
programs.
Many of these companies and organizations have or will have substantially
greater financial, technological, research and development, regulatory and
clinical, marketing and sales and personnel resources than Cohesion. They may
also have greater experience in developing products, conducting clinical trials,
obtaining regulatory approvals, and manufacturing and marketing such products.
They may also develop alternative technologies and products that are more
effective, easier to use or more economical than those which have been or are
being developed by Cohesion or that render our technology and products obsolete
and non-competitive. Recently developed technologies or procedures are, or may
in the future be, the basis of competitive products. There can be no assurance
that our current competitors or other parties will not succeed in developing
alternative technologies and products that are more effective, easier to use or
more economical than those which have been or are being developed by Cohesion or
that would render our technology and products obsolete and uncompetitive. In
such an event, Cohesion's business, financial condition and results of
operations would be materially and adversely affected. Competitors may also
obtain approval or clearance by the FDA or foreign regulatory approval
organizations, achieve product commercialization or obtain patent protection
earlier than Cohesion. Additionally, there can be no assurance that any
marketing or other strategic partners that Cohesion may engage will not pursue
parallel development of technologies or products relating to or competitive with
our planned product portfolio. Also, to the extent Cohesion commences
manufacturing activities, we will also face competition with respect to
manufacturing efficiency and marketing capabilities, areas in which we currently
have limited experience. Failure to successfully address the foregoing factors
and circumstances could have a material adverse impact on Cohesion, its
financial condition and results of operations.
The market may not accept our products
CoStasis Surgical Hemostat is a device designed to control diffuse
capillary and small vein bleeding, and CoSeal Surgical Sealant is a device
designed to seal anastomoses and sites of incision, in connection with surgery.
There can be no assurance that either of these products will gain commercial
acceptance among physicians, patients and health care payors, even if necessary
international and U.S. marketing approvals are obtained. We believe that
recommendations and endorsements by physicians will be essential for market
acceptance of its surgical products, and there can be no assurance that any such
recommendations or endorsements will be obtained. We believe that surgeons will
not use our products unless they determine, based on clinical data and other
factors, that the products are an effective means of controlling bleeding and
sealing anastomoses and sites of incision, and that the clinical benefits to the
patient and cost savings achieved through use of these systems outweigh their
cost. Acceptance among physicians may also depend upon our ability to train
surgeons and other potential users of our products in the application of
sprayable surgical products, which they typically have not used, and the
willingness of such users to learn these new techniques. Additional factors in
achieving market acceptance may include our ability to address competition from
U.S. and international medical device, pharmaceutical and biopharmaceutical
companies, to develop a marketing and sales force, to form strategic
partnerships and to manufacture price- and cost-effective products. Failure of
our products to achieve significant market acceptance will have a material
adverse effect on our business, financial condition and results of operations.
We have limited marketing and sales capabilities
Cohesion currently has limited experience in marketing and selling its
products under development and does not have a significant marketing and sales
staff. In order to achieve commercial success for any product approved by the
FDA, if any, we must either develop a marketing and sales force or enter into
arrangements with third parties to market and sell our products. If we develop
our own marketing and sales capabilities, we will be competing with other
companies that currently have experienced and well-funded marketing and sales
operations. To the extent that Cohesion enters into co-promotion or
14
<PAGE> 15
other marketing and sales arrangements with other companies, any revenues we
receive will be dependent on the efforts of others, and there can be no
assurance that such efforts will be successful. Failure to develop a sales and
marketing force or enter into arrangements with other companies will reduce our
ability to generate revenues.
We depend on the sale of Boston Scientific stock to fund operations
In connection with our spin-off from Collagen, Collagen transferred to
Cohesion, effective January 1, 1998, all of its equity interest in Boston
Scientific. Cohesion has implemented a "protect" strategy based on purchases of
put options and sales of call options in combination, commonly known as an
"equity collar," covering the substantial majority of its Boston Scientific
holdings. While the strategy is designed to minimize downside risk of loss
should the stock price decline below approximately $31.00 and allow for limited
upside participation should the stock price rise above approximately $49.00,
there can be no assurance that we will be able to sell any of the remaining
unhedged shares of Boston Scientific common stock at attractive prices if, when
and as needed. The market price of Boston Scientific common stock is highly
volatile and, as a medical device manufacturer, we believe that Boston
Scientific is subject to a number of the same factors affecting its operations
as Cohesion, as well as additional factors not applicable to Cohesion.
15
<PAGE> 16
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Cohesion is exposed to financial market risks, including changes to
interest rates and equity security prices. To mitigate these risks, Cohesion
utilizes derivative financial instruments. Cohesion does not utilize derivative
financial instruments for speculative or trading purposes.
INTEREST RATE RISK
The primary objective of Cohesion's debt investment portfolio is to
preserve principal. Cohesion invests in debt instruments that meet high credit
quality standards and limits the amount of credit exposure to any one issue,
issuer, or type of instrument. Cohesion also limits the maturity of debt
investments to 400 days or less. As of September 30, 1999, Cohesion held
approximately $11,256,000 of interest rate sensitive investments in debt
securities, respectively. A hypothetical 1% increase in interest rates would
result in a decrease in the fair value of investments in debt securities of less
than $20,000 as of September 30, 1999. This estimate is based on sensitivity
analyses performed on Cohesion's financial positions at September 30, 1999.
Actual results may differ materially.
EQUITY SECURITY PRICE RISK
Cohesion is exposed to equity security price risks on investments in Boston
Scientific common stock and equity instruments of other biotechnology or
biomedical device companies. To hedge against fluctuations in the market value
of the Boston Scientific common stock, Cohesion entered into costless collar
instruments that expire quarterly through May 2001 and will require settlement
in cash. At September 30, 1999, all shares held by Cohesion were hedged using
these collars. The costless collar instruments are collateralized by shares of
Boston Scientific common stock held by Cohesion. Certain investments that are
restricted are carried at cost until the restrictions have lapsed.
<TABLE>
<CAPTION>
FAIR VALUE AT
EQUITY INVESTMENTS SEPTEMBER 30, 1999
- ------------------ ------------------
(IN THOUSANDS)
<S> <C>
Boston Scientific $17,961
Equity collar 5,411
Innovasive 6,646
Medarex 4,720
Pharming 7,171
-------
Total Portfolio $41,909
=======
</TABLE>
16
<PAGE> 17
PART II. OTHER INFORMATION
COHESION TECHNOLOGIES, INC.
Item 4. Submission of Matters to a Vote of Security Holders
On October 27, 1999, the Annual Meeting of Stockholders of Cohesion
Technologies, Inc. was held in Palo Alto, California.
The matters voted upon and approved at the meeting, and the number of
affirmative and negative votes cast with respect to each matter were as
follows:
1. To elect seven directors. (votes in thousands):
<TABLE>
<CAPTION>
NO. OF VOTES NO. OF VOTES
NAME OF NOMINEE FOR WITHHELD
--------------- ------------ ------------
<S> <C> <C>
John R. Daniels, M.D. 8,067 34
Craig T. Davenport 8,050 51
Frank A. DeLustro, Ph.D. 8,067 34
Reid W. Dennis 8,000 100
David J. Foster 8,067 34
Craig W. Johnson 8,041 59
Mark A. Philip, Ph.D. 8,058 43
</TABLE>
2. To confirm the appointment of Ernst & Young LLP as independent
auditors of the Company for the fiscal year ending June 30, 2000.
(8,069,034 votes in favor, 24,886 opposed, 6,589 abstained)
Item 6. Exhibits and Reports on Form 8-K
A. Exhibits
Exhibit 27.1 Financial Data Schedule
B. Reports on Form 8-K
None
17
<PAGE> 18
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Registrant has duly caused this Report to be signed on its
behalf by the undersigned, thereunto duly authorized.
COHESION TECHNOLOGIES, INC.
Dated: November 15, 1999 /s/ Sharon Kokubun
----------------------------------------
Sharon Kokubun
Vice President, Financial Operations
(Principal Accounting Officer)
18
<PAGE> 19
COHESION TECHNOLOGIES, INC.
FORM 10-Q QUARTERLY REPORT FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1999
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
Sequentially
Exhibit Numbered
Number Exhibit Page
- ---------------------------------------------------------------------------------------
<S> <C> <C>
27.1 Financial Data Schedule (EDGAR version only)
</TABLE>
19
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-2000
<PERIOD-START> JUL-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 10,516
<SECURITIES> 0
<RECEIVABLES> 320
<ALLOWANCES> 38
<INVENTORY> 1,148
<CURRENT-ASSETS> 14,892
<PP&E> 10,499
<DEPRECIATION> 3,666
<TOTAL-ASSETS> 68,180
<CURRENT-LIABILITIES> 8,849
<BONDS> 0
0
0
<COMMON> 9
<OTHER-SE> 42,061
<TOTAL-LIABILITY-AND-EQUITY> 68,180
<SALES> 444
<TOTAL-REVENUES> 444
<CGS> 669
<TOTAL-COSTS> 669
<OTHER-EXPENSES> 5,579
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 6,988
<INCOME-TAX> 2,795
<INCOME-CONTINUING> 4,193
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 4,193
<EPS-BASIC> 0.50
<EPS-DILUTED> 0.49
</TABLE>
