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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(Mark One)
[x] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended NOVEMBER 30, 2000 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 No. 0-19095
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SOMANETICS CORPORATION
(Exact name of Registrant as specified in its charter)
MICHIGAN 38-2394784
(State or other jurisdiction of incorporation or (I.R.S. Employer
organization) Identification No.)
48083-4208
1653 EAST MAPLE ROAD, TROY, MICHIGAN (ZIP CODE)
(Address of principal executive offices)
Registrant's telephone number, including area code: (248) 689-3050
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act:
COMMON SHARES, PAR VALUE $.01 PER SHARE
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(Title of Class)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
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Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of the common shares held by non-affiliates of the
Registrant as of January 11, 2001, computed by reference to the closing sale
price as reported by Nasdaq on such date, was approximately $10,147,000.
The number of the Registrant's common shares outstanding as of
January 11, 2001 was 6,750,081
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the 2001 Annual Meeting of Shareholders,
scheduled to be held February 22, 2001, are incorporated by reference in Part
III, if the Proxy Statement is filed no later than March 30, 2001.
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SOMANETICS CORPORATION
ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED NOVEMBER 30, 2000
TABLE OF CONTENTS
PART I
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PAGE
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Item 1. Business .................................................................................... 2
Item 2. Properties.................................................................................... 20
Item 3. Legal Proceedings............................................................................. 20
Item 4. Submission of Matters to a Vote of Security Holders........................................... 20
Supplemental Item. Executive Officers of the Registrant................................................ 21
PART II
Item 5. Market for Registrant's Common Equity and Related Shareholder Matters......................... 23
Item 6. Selected Financial Data....................................................................... 24
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations......... 25
Item 7A Quantitative and Qualitative Disclosures About Market Risk.................................... 34
Item 8. Financial Statements and Supplementary Data................................................... 35
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.......... 50
PART III
Item 10. Directors and Executive Officers of Registrant................................................ 51
Item 11. Executive Compensation........................................................................ 51
Item 12. Security Ownership of Certain Beneficial Owners and Management................................ 51
Item 13. Certain Relationships and Related Transactions................................................ 51
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K............................... 52
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PART I
ITEM 1. BUSINESS
THE COMPANY
We were incorporated in 1982, and we develop, manufacture and market
the INVOS(R) Cerebral Oximeter, the only non-invasive patient monitoring system
commercially available in the United States that continuously measures changes
in the blood oxygen level in the brain. We are also developing the
CorRestore(TM) patch, which is being developed for use in heart surgeries called
surgical anterior ventricular restoration, or SAVR. We developed the Cerebral
Oximeter to meet the need for information about oxygen in the brain, the organ
least tolerant of oxygen deprivation. Without sufficient oxygen, brain damage
may occur within a few minutes, which can result in paralysis, severe and
complex disabilities or death. Brain oxygen information, therefore, is
important, especially in surgical procedures requiring general anesthesia and in
other critical care situations with a high risk of the brain getting less oxygen
than it needs. We target surgical procedures with a high risk of brain oxygen
imbalances, such as heart surgeries, heart blood vessel surgeries, other blood
vessel surgeries and surgeries involving elderly patients. Surgeons,
anesthesiologists and other medical professionals use the Cerebral Oximeter to
identify brain oxygen imbalances and take corrective action, potentially
improving patient outcome and reducing the cost of care.
The Cerebral Oximeter is a relatively inexpensive, portable and
easy-to-use monitoring system placed at a patient's bedside in hospital critical
care areas, especially operating rooms, recovery rooms, intensive care units and
emergency rooms. It is comprised of
- a portable unit including a computer and a display monitor,
- dual single-use, disposable sensors, called SomaSensors,
- proprietary software and
- a preamplifier cable.
SomaSensors can be placed on both sides of a patient's forehead to offer
bi-lateral monitoring and are connected to the computer through the preamplifier
cable. The computer uses our proprietary software to analyze information
received from the SomaSensors and provides a continuous digital and trend
display on the monitor of an index of the oxygen saturation in the area of the
brain under the SomaSensors. Users of the Cerebral Oximeter will be required to
purchase disposable SomaSensors on a regular basis because of their single-use
nature. We began shipping the model 4100 Cerebral Oximeter in the first quarter
of fiscal 1998. During the third quarter of fiscal 1999, we introduced our new
model 5100 Cerebral Oximeter at an international trade show, and began
international shipments of the model 5100 in August 1999. The model 5100
Cerebral Oximeter has the added capability of being able to monitor pediatric
patients. In September 2000, we received clearance from the FDA to market the
model 5100 Cerebral Oximeter in the United States.
Our objective is to establish the Cerebral Oximeter as a standard of
care in surgical procedures requiring general anesthesia and in other critical
care situations.
We are developing the CorRestore(TM) patch, a new cardiac implant
designed by CorRestore LLC, for use in heart surgeries called surgical anterior
ventricular restoration, or SAVR. During SAVR, the surgeon restores, or
remodels, an enlarged, poor functioning left ventricle to more normal size and
function by inserting an implant, in most instances, or closing the defect
directly. We entered into a License Agreement as of June 2, 2000 giving us
exclusive, worldwide, royalty-bearing licenses to specified rights relating to
the CorRestore(TM) patch, subject to the terms and conditions of the license
agreement. Our objective is to obtain regulatory clearance or approval to sell
the CorRestore(TM) patch and other regulatory approvals necessary to market
outside the United States and to have the patch used in SAVR surgeries. Our
initial target market is SAVR surgeries on patients with dilated ischemic
cardiomyopathy due to a previous myocardial infarction involving the anterior
wall of the ventricle. Ischemic cardiomyopathy is a damaged heart muscle caused
by the obstruction of the inflow of blood from the arteries,
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resulting in an enlarged ventricle. Myocardial infarction is the death of an
area of the middle muscle layer in the heart wall.
MARKET OVERVIEW
INDUSTRY BACKGROUND
The brain is the human organ least tolerant of oxygen deprivation.
Without sufficient oxygen, brain damage may occur within a few minutes, which
can result in paralysis, severe and complex disabilities, or death. Undetected
brain hypoxia, which is the insufficiency of oxygen delivery, and ischemia,
which is tissue oxygen starvation due to the obstruction of the inflow of
arterial blood, are common causes of brain damage and death during and after
many surgical procedures and in other critical care situations. A December 1996
article in The New England Journal of Medicine and a March 1998 article in The
Lancet reported separately on the results of multi-center studies involving
surgeries. The New England Journal of Medicine article concluded that adverse
cerebral outcomes after coronary artery bypass graft surgery are relatively
common and serious and are associated with substantial increases in death,
length of hospitalization and use of intermediate- or long-term care facilities.
Adverse cerebral outcomes occurred in 6.1% of the patients included in the
study. The Lancet article reported that approximately 26% of patients over age
60 who had major abdominal or orthopedic surgery under general anesthesia
experienced a neurological injury. Additional studies have estimated that a
higher percentage of patients experience some neurological decline after heart
surgery and that insufficient oxygen delivery to the brain is a frequent cause
of this problem. The Lancet article reported that injured patients require more
assistance with everyday actions, and The New England Journal of Medicine
article further concluded that new diagnostic and therapeutic strategies must be
developed to lessen these injuries.
Oxygen is carried to the brain by hemoglobin in the blood. Hemoglobin
passes through the lungs, bonds with oxygen and is pumped by the heart through
arteries and capillaries to the brain. Brain cells extract the oxygen and the
blood carries away carbon dioxide through the capillaries and veins back to the
lungs. Brain oxygen imbalances can be caused by several factors, including
changes in oxygen saturation, which is the percentage of hemoglobin contained in
a given amount of blood which carries oxygen, in the arteries, blood flow to the
brain, hemoglobin concentration and oxygen consumption by the brain.
Brain oxygen information is important in surgical procedures requiring
general anesthesia, in other critical care situations with a high risk of brain
oxygen imbalances, as well as in the treatment of patients with head injuries or
strokes. These procedures include
- heart surgeries,
- heart blood vessel surgeries,
- other blood vessel surgeries,
- surgeries involving elderly patients,
- any neurosurgery,
- major surgeries involving the neck,
- transplant surgeries,
- treatment of patients with diseases resulting from high blood
pressure,
- lung problems,
- head, organ or heart injuries, and
- treatment of patients suffering from strokes.
These patients are most commonly found in operating rooms as well as in the
other critical care areas of hospitals, especially recovery rooms, intensive
care units and emergency rooms. We believe that medical professionals need
immediate and continuous information about changes in the oxygen levels in the
blood in the brain to identify brain oxygen imbalances. After they are alerted
to these imbalances, medical professionals have the information to take
corrective action through the introduction of medications, anesthetic agents or
mechanical intervention, potentially improving patient outcome and reducing the
costs of care. Immediate and continuous information about changes in brain
oxygen levels also provides immediate feedback regarding the adequacy of the
selected therapy. Equally important, without information about brain oxygen
levels, therapy that may not be necessary might be initiated to
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assure adequate brain oxygen levels. Unnecessary therapy can have an adverse
impact on patient safety and increase hospital costs.
A 1999 independent industry report estimates that there are
approximately 60,000 operating rooms worldwide performing approximately 50
million surgeries involving general anesthesia every year. Industry sources
estimate that, in 1993, there were more than 4.4 million surgeries involving the
heart or the blood vessels around the heart in the United States. Such surgeries
include more than 600,000 open heart surgeries and 89,000 carotid
endarterectomies, which is the removal of blockage in the artery.
Currently, several different methods are used to detect one or more of
the factors affecting brain oxygen levels or the effects of brain oxygen
imbalances. These methods include
- invasive jugular bulb catheter monitoring,
- transcranial Doppler,
- electroencephalograms, or EEGs,
- intracranial pressure monitoring, and
- neurological examination.
These methods have not been widely adopted to monitor brain oxygen levels in
critical care situations for a variety of reasons. The use of any of these
methods is limited because it is either
- expensive,
- difficult or impractical to use as a brain monitor,
- invasive,
- not available under some circumstances, such as when the patient
is unconscious or has suppressed neural activity,
- not able to measure all of the factors that may affect brain
oxygen imbalances,
- not organ specific,
- not able to provide continuous information, or
- able to measure only the effects of brain oxygen imbalances.
Arterial oxygen saturation is only one of the factors that can affect
oxygen imbalances in the brain. Pulse oximetry measures oxygen saturation in the
arteries. It is non-invasive, uses optical spectroscopy and has become a
standard of care for measuring arterial oxygen saturation in critical care
situations. However, pulse oximeters require a strong pulse, making them
unavailable during bypass surgeries, surgeries involving induced hypothermia or
any other time the patient does not have a strong peripheral pulse. Pulse
oximeters provide information about the oxygen saturation of the arteries in a
finger or earlobe, not oxygen imbalances in the brain. Changes in the oxygen
balance in the brain may not have any affect on the oxygen levels in a finger or
earlobe. For example, a blocked artery to the brain would affect oxygen in the
brain, but would not affect the amount of oxygen in the arteries in the finger.
The Cerebral Oximeter is the only non-invasive monitoring system
commercially available in the United States that provides continuous information
about changes in the blood oxygen level in the brain. It is easy to use and
relatively inexpensive and provides medical professionals with new information
to help them identify brain oxygen imbalances. This information may help medical
professionals intervene in a timely manner to correct brain oxygen imbalances,
provide feedback regarding the adequacy of the selected therapy and provide
medical professionals with additional assurance when they make decisions
regarding the need for therapy, thereby potentially improving patient outcome
and reducing the cost of care.
MARKET TRENDS
We believe the market for our products is driven by the following
market trends:
Less Invasive Medical Procedures. We believe there is a trend toward
less invasive medical procedures. Notable examples include laparoscopic
procedures in general surgery and arthroscopic procedures in orthopedic
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surgery. Such procedures are designed to reduce trauma, thereby decreasing
complications, reducing pain and suffering, speeding recovery and decreasing
costs associated with patient care. We also believe that there is a trend to
minimize invasive procedures relating to the brain to increase the safety of
patients and medical professionals, reduce recovery time and minimize costs.
Demand to Reduce Health Care Costs. Hospitals in the United States are
increasingly faced with direct economic incentives to control health care costs
through improved labor productivity, shortened hospital stays and more selective
performance of medical procedures and use of facilities and equipment. Hospitals
often receive a fixed fee from Medicare, managed care organizations and private
insurers based on the disease diagnosed, rather than based on the services
actually performed. Therefore, hospitals are increasingly focused on avoiding
unexpected costs, such as those associated with increased hospital stays
resulting from patients with brain damage or other adverse outcomes following
surgery. This focus on avoiding unexpected costs is especially pronounced in the
operating room and other hospital critical care areas due to their high
operating costs. The economic and human costs of brain damage can be tremendous.
Even short extensions of hospital stays resulting from brain damage can be
expensive. In addition, over-treating a patient as a result of lack of knowledge
about brain oxygen levels can result in unnecessary costs.
Organ-Specific Monitoring; Current Emphasis on the Brain. We believe
that physicians and hospitals are increasingly interested in monitoring the
status of specific organs in the body, especially the brain. We also believe
there is an increased interest in understanding how the brain functions and in
finding ways to prevent injury to the brain and finding cures to diseases
affecting the brain. We believe that this interest has led to a greater focus on
monitoring the brain, both to determine how it functions and to monitor the
effects of various actions on the brain.
Aging Population. According to the Administration on Aging, United
States Department of Health and Human Services, approximately 33.5 million
persons in the United States were age 65 or older in 1995, representing 13% of
the population. The number of Americans age 65 or older increased by
approximately 2.3 million, or 7%, between 1990 and 1995, compared to an increase
of 5% for the under-65 population. The Administration on Aging predicts that the
number of Americans age 65 or older will increase to approximately 39.4 million
by the year 2010 and to approximately 69.4 million by the year 2030. We believe
that older patients require a higher level of medical care using more procedures
in which the patient or the procedure involves a risk of brain oxygen
imbalances.
BUSINESS STRATEGY
Our objective is to establish the Cerebral Oximeter as a standard of
care in surgical procedures requiring general anesthesia and in other critical
care situations. Key elements of our strategy are as follows:
Target Surgical Procedures With a High Risk of Brain Oxygen Imbalances.
We target surgical procedures with a high risk of brain oxygen imbalances, such
as heart surgeries, heart blood vessel surgeries, other blood vessel surgeries
and surgeries involving elderly patients. We believe that the medical
professionals involved in these surgeries are the most aware of the risks of
brain damage resulting from brain oxygen imbalances. Therefore, we believe that
it will be easier to demonstrate the clinical benefits of the Cerebral Oximeter
and potentially gain market acceptance for our products in connection with these
surgeries.
Demonstrate Clinical Benefits and Promote Acceptance of the Cerebral
Oximeter. We sponsor clinical studies using the Cerebral Oximeter to provide
additional evidence of its benefits. We use the resulting publication of any
favorable peer-reviewed papers to help convince the medical community of the
clinical benefits of the Cerebral Oximeter. We also promote acceptance of the
Cerebral Oximeter in the medical community by encouraging surgeons,
anesthesiologists and nurses in leading hospitals, whose opinions and practices
we believe are valued by other hospitals and physicians, to use the Cerebral
Oximeter on a trial basis. We believe that successful evaluations of the
Cerebral Oximeter by these medical professionals will accelerate the acceptance
of the Cerebral Oximeter by other medical professionals. We are sponsoring
discussions among physicians who have used the Cerebral Oximeter about its
clinical benefits.
Invest in Marketing and Sales Activities. We have established a
distribution network consisting of our direct sales employees and distributors.
We invest in our marketing and sales efforts to increase the medical community's
exposure to our INVOS technology and the Cerebral Oximeter, including continued
participation in
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trade shows and medical conferences, and ongoing product evaluations. We are
marketing our products through our existing sales force and we leverage our
sales resources through the use of our distributors, including Nellcor Puritan
Bennett Export, Inc. in Europe and Baxter Limited in Japan.
Develop Additional Applications of the Cerebral Oximeter. In September
2000, we received clearance from the FDA to market the model 5100 Cerebral
Oximeter in the United States. The model 5100 Cerebral Oximeter has the added
capability of being able to monitor pediatric patients. We are also in the
process of developing product-line extensions of the Cerebral Oximeter for use
on newborns and in other non-brain tissue applications. We believe that these
natural extensions of our existing products will increase the market for the
Cerebral Oximeter without the more significant development efforts required for
entirely new products. Research conducted on children has resulted in a
SomaSensor that can fit smaller heads. We believe that non-invasive monitoring
is especially important in this patient population, as they generally have lower
oxygen reserves than adults, have less blood volume from which to make invasive
blood gas measurements and are less tolerant of painful skin punctures and
infections.
License Our Technology to Medical Device Manufacturers. We plan to
license our Cerebral Oximeter technology to other medical device manufacturers
to expand the installed base of Cerebral Oximeters and increase the demand for
SomaSensors. Such a license might be made to a company interested in
incorporating the Cerebral Oximeter into a multi-function monitor. We believe
that such an arrangement could provide another distribution channel for our
Cerebral Oximeter. We, however, have no current commitments for any such
licenses.
PRODUCTS AND TECHNOLOGY
THE CEREBRAL OXIMETER
Our Cerebral Oximeter is the only non-invasive patient monitoring
system commercially available in the United States that provides continuous
information about changes in the blood oxygen level in the brain. It is a
portable and easy-to-use monitoring system that is placed at a patient's bedside
in hospital critical care areas, especially operating rooms, recovery rooms,
ICUs and emergency rooms. Surgeons, anesthesiologists and other medical
professionals use the information provided by the Cerebral Oximeter to identify
brain oxygen imbalances and take corrective action, potentially improving
patient outcome and reducing the cost of care. Once the cause of a cerebral
oxygen imbalance is identified and therapy is initiated, the Cerebral Oximeter
provides immediate feedback regarding the adequacy of the selected therapy. It
can also provide medical professionals with an additional level of assurance
when they make decisions regarding the need for therapy.
Unlike some existing monitoring methods, the Cerebral Oximeter
functions even when the patient is unconscious, lacks a strong peripheral pulse
or has suppressed neural activity. The measurement made by the Cerebral Oximeter
is dominated by the blood in the veins. Therefore, it responds to the changes in
factors that affect the balance between cerebral oxygen supply and demand,
including changes in arterial oxygen saturation, cerebral blood flow, hemoglobin
concentration and cerebral oxygen consumption. The Cerebral Oximeter responds to
global changes in brain oxygen levels and to events that affect the brain oxygen
levels in the region beneath the SomaSensor.
The Cerebral Oximeter monitoring system is comprised of
- a portable unit including a computer and a display monitor,
- dual single-use, disposable sensors, called SomaSensors,
- proprietary software and
- a preamplifier cable.
SomaSensors can be placed on both sides of a patient's forehead to offer
bi-lateral monitoring and are connected to the computer through the preamplifier
cable. The SomaSensors continuously transmit and receive predetermined
wavelengths of light sent through the scalp, muscle and skull into the brain
tissue. The computer receives the information about the intensity of the light
scattered by the blood and tissue in the area being monitored. The computer uses
our proprietary software to analyze this information and provide a continuous
digital and trend display on the monitor of an index of the oxygen saturation in
the area of the brain under the SomaSensors.
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The portable unit includes menus that make it easy for users to set
high and low audible alarms, customize the display and retrieve data.
Single-function keys provide a convenient means to turn on the Cerebral
Oximeter, silence alarms, mark important events and print results that can be
stored for up to 24 hours and retrieved by a variety of standard,
commercially-available printers. The model 4100 Cerebral Oximeter measures
approximately 9 inches wide, 8 inches high, and 8 inches deep and weighs
approximately 15 pounds; the model 5100 has the same dimensions.
The suggested list price in the United States for the model 4100
Cerebral Oximeter is $15,995, for the model 5100 Cerebral Oximeter is $23,000,
for the model 4100 SomaSensor is $50.00, and for the model 5100 SomaSensor is
$75.00. Users of the Cerebral Oximeter will be required to purchase disposable
SomaSensors on a regular basis. The SomaSensor may only be used once because
after one use it may become contaminated and we do not warrant its effectiveness
after one use. We provide a one-year warranty on the Cerebral Oximeter, which we
will satisfy by repairing or exchanging those units in need of repair. We also
offer maintenance agreements and service for the Cerebral Oximeter for a fee
after the warranty expires.
The following table summarizes the principal features and related
benefits of the Cerebral Oximeter:
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FEATURES BENEFITS
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FDA-cleared - Access to United States and certain foreign markets
Non-invasive - Consistent with market trend toward less invasive medical
procedures
- No risk to patients and medical professionals
- No added patient recovery costs
Continuous Information - Immediate information regarding brain oxygen imbalances
- Real-time guide to therapeutic interventions
New Organ-Specific Information - Provides information about oxygen imbalances in both sides
of the brain
Relatively Inexpensive - Low cost relative to other brain monitors and medical devices
- Small portion of the cost of the procedures in which it is used
- New information can potentially improve patient outcome and
reduce the cost of care
Easy-to-Use - Does not require a trained technician to operate or interpret
- Automatic SomaSensor calibration
- Simple user interface and controls
- Audible alarm limits
Effective in Difficult Circumstances - Provides information when the patient is unconscious, lacks a
strong peripheral pulse or has suppressed neural activity,
specifically during cardiac arrest, hypothermia,
hypertension, hypotension and hypovolemia
- Indicates oxygen imbalances in the brain, not just blood flow,
oxygenation of the arteries or the effects of imbalances
Portable - Placed at patient's bedside
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OPTICAL SPECTROSCOPY TECHNOLOGY
Our proprietary In Vivo Optical Spectroscopy, or INVOS, technology is
based primarily on the physics of optical spectroscopy. Optical spectroscopy is
the interpretation of the interaction between matter and light. Spectrometers
and spectrophotometers function primarily by shining light through matter and
measuring the extent to which the light is transmitted through, or scattered or
absorbed by, the matter. Physicians and scientists can use spectrophotometers to
examine human blood and tissue. Although most human tissue is opaque to ordinary
light, some wavelengths penetrate tissue more easily than others. Therefore, by
shining appropriate wavelengths of light into the body and measuring its
transmission, scattering and absorption, or a combination, physicians can obtain
information about the matter under analysis. Optical spectroscopy generates no
ionizing radiation and produces no known hazardous effects.
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Optical spectroscopy was first used clinically in the 1940s at the
Sloan-Kettering Institute for cancer research. The pulse oximeter uses optical
spectroscopy to determine the oxygen saturation of the blood in the arteries in
peripheral tissue, such as in a finger or an earlobe. By identifying the
hemoglobin and the oxygenated hemoglobin and measuring the relative amounts of
each, oxygen saturation of hemoglobin can be measured. However, optical
spectroscopy was generally not useful when the substances to be measured were
surrounded by, were behind, or were near bone, muscle or other tissue, because
they produce extraneous data that interferes with analysis of the data from the
area being examined.
INVOS TECHNOLOGY
The Cerebral Oximeter is based on our INVOS technology. In 1982, we
began developing a spectroscopic instrument to measure breast tissue
abnormalities. Our first product, the Somanetics INVOS 2100 System, used the
same INVOS technology as the Cerebral Oximeter. Later, we began analyzing the
use of INVOS technology to measure changes in cellular metabolism in the brain.
Early studies conducted with the Henry Ford Neurosurgical Institute demonstrated
the ability of our INVOS technology to make measurements that were highly
correlated to controlled changes in animal brain cell metabolism. In 1988, we
began clinical studies of the Cerebral Oximeter on human patients in operating
rooms, emergency rooms and intensive care units at Henry Ford Hospital and later
at Bowman Gray School of Medicine and Mount Sinai Medical Center.
Like other applications of optical spectroscopy, INVOS analyzes various
characteristics of human blood and tissue by measuring and analyzing
low-intensity visible and near-infrared light transmitted into portions of the
body. It measures the composition of substances by detecting the effect they
have on light. The INVOS technology measurement is made by transmitting
low-intensity visible and near-infrared light through a portion of the body and
detecting the manner in which the molecules of the exposed substance interact
with light at specific wavelengths. INVOS technology detects this interaction by
measuring the intensity of the various wavelengths of light received by light
sensors. By measuring the effect on specific wavelengths of light caused by
oxygenated hemoglobin contained in blood in the region of the brain being
monitored, the Cerebral Oximeter can monitor changes in the approximate oxygen
saturation of the hemoglobin in that region of the brain.
We have developed a method of reducing extraneous spectroscopic data
caused by surrounding bone, muscle and other tissue. This method allows us to
gather information about portions of the body that previously could not be
analyzed using traditional optical spectroscopy. The dual detector design of the
SomaSensor enables us to measure scattered light intensities from the
intermediate tissues of skin, muscle and skull in a separate process. Each
SomaSensor contains two light detectors and a light source. While both detectors
receive similar information about the tissue outside the brain, the detector
further from the light source detects light that has penetrated deeper into the
brain, and, therefore, receives more information specific to the brain than does
the detector closer to the light source. By subtracting the two measurements,
INVOS technology is able to suppress the influence of the tissues outside the
brain to provide a measurement of changes in brain oxygen saturation.
RESEARCH AND DEVELOPMENT
We are currently focusing our research and development efforts on
product-line extensions of the Cerebral Oximeter for use on newborns, other
non-brain tissue applications, and enhancements to the Cerebral Oximeter and
SomaSensor. In September 2000, we received clearance from the FDA to market the
model 5100 Cerebral Oximeter in the United States. The model 5100 Cerebral
Oximeter has the added capability of being able to monitor pediatric patients.
We have redesigned the SomaSensor for use on smaller heads. We believe that
non-invasive monitoring is especially important in this patient population, as
they generally have lower oxygen reserves than adults, have less blood volume
from which to make invasive blood gas measurements, and are less tolerant of
painful skin punctures and infections.
We spent $513,816 during fiscal 2000 on research, development and
engineering, $598,348 during fiscal 1999, and $664,874 during fiscal 1998.
Effective April 28, 1999, we terminated our consulting order with NeuroPhysics
Corporation, except for general consulting which terminated in February 2000. We
terminated the consulting order and general consulting because of our cost to
pursue their new products.
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MARKETING, SALES AND DISTRIBUTION
MARKETING
The Cerebral Oximeter is for use on patients at risk of brain oxygen
imbalances. These patients are most commonly found in operating rooms undergoing
general anesthesia for various surgical procedures as well as in the other
critical care areas of hospitals, especially recovery rooms, intensive care
units and emergency rooms. After the Cerebral Oximeter is accepted in hospitals,
future markets might include free-standing operating rooms, clinics, ambulances
and nursing homes.
We market the Cerebral Oximeter primarily to cardiac, cardiovascular
and vascular surgeons, neurosurgeons and anesthesiologists. We believe that
these specialists are the medical professionals most aware of the risks of brain
damage resulting from brain oxygen imbalances. We and our distributors have
concentrated our sales efforts on the major teaching hospitals in the United
States and selected foreign markets in which we have commenced commercial sales
and on other large United States hospitals, especially those we consider opinion
leaders. In addition, we sponsor discussions among physicians who have used the
Cerebral Oximeter about its clinical benefits.
We believe that favorable peer review is a key element to a product's
success in the medical equipment industry. Accordingly, we support clinical
research programs with third-party clinicians and researchers intended to
demonstrate the need for the Cerebral Oximeter and its clinical benefits with
the specific objective of publishing the results in peer-reviewed journals. The
research consists primarily of comparing the measurements obtained from the
Cerebral Oximeter to the data obtained from existing diagnostic methods,
including EEG, transcranial Doppler and invasive jugular bulb catheter
monitoring, or reports of the results of the use of the Cerebral Oximeter in
various procedures. We attend trade shows and medical conferences to introduce
and promote the Cerebral Oximeter and to meet medical professionals with an
interest in submitting peer-reviewed papers to appropriate medical journals and
to major national meetings. In fiscal year 2000, a total of 60 presentations
concerning the Cerebral Oximeter were made at 22 meetings, 22 articles
mentioning the Cerebral Oximeter were published in peer-reviewed journals, and
13 abstracts mentioning the Cerebral Oximeter were published. Some of these
presentations contained the same subject matter as other presentations, articles
or abstracts. Also, in May 1999, at the University of Chicago Charles Huggins
Annual Research Conference, a researcher received the first place award for
research related to cerebral oximetry.
SALES AND DISTRIBUTION
We sell the Cerebral Oximeter through our direct sales force and
independent distributors. In the United States, we sell the Cerebral Oximeter
through our 12 direct salespersons and four clinical specialists. Our sales
compensation and incentive plans are designed to motivate our direct sales force
by making half of their targeted compensation dependent on meeting targeted
sales levels. We believe that the minimum selling cycle for new medical devices
is approximately six to nine months.
Internationally, we have distribution agreements with seven independent
distributors covering 45 countries for the model 4100 Cerebral Oximeter, and our
distribution agreements with three of those distributors cover 41 countries for
the model 5100 Cerebral Oximeter. Our distributors include Nellcor Puritan
Bennett Export, Inc., part of Tyco International Ltd., in Europe, and Baxter
Limited in Japan. Our agreement with Nellcor Puritan Bennett Export, Inc. covers
39 countries for the model 4100 and model 5100 Cerebral Oximeters. In March
1995, we engaged Baxter Limited as our exclusive distributor in Japan. In
January 1999, the Japanese Ministry of Health and Welfare licensed Baxter
Limited to market the INVOS 4100 Cerebral Oximeter in Japan.
During fiscal 1998, we began a no-cap sales program whereby we ship the
model 4100 Cerebral Oximeter to the customer at no charge, and the customer
agrees to purchase a minimum quantity of SomaSensors, on a monthly basis, at a
premium, for a stated period of time.
We did not have any backlog of firm orders as of January 2, 2001 or as
of January 20, 2000.
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For a description of sales to major customers, see Note 10 of Notes to
Financial Statements included in Item 8 of this Report. Nellcor Puritan Bennett
Export, Inc. was our largest customer in fiscal 2000, and Baxter Limited in
Japan was our largest customer in fiscal 1999. We are dependent on our sales to
Nellcor Puritan Bennett Export, Inc. in Europe and Baxter Limited in Japan, and
the loss of either of them as a customer would have an adverse effect on our
business, financial condition and results of operations.
Our export sales were approximately $2,265,000 for the fiscal year
ended November 30, 2000, $1,632,000 for the fiscal year ended November 30, 1999,
and $959,000 for the fiscal year ended November 30, 1998. See Note 10 of Notes
to Financial Statements. For a description of the breakdown of sales between
model 5100 Cerebral Oximeters, model 4100 Cerebral Oximeters, model 3100A
Cerebral Oximeters, model 4100 exchanges and refurbished model 3100 Cerebral
Oximeters, and SomaSensors, see "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Results of Operations."
MANUFACTURING
We assemble the Cerebral Oximeter in our facilities in Troy, Michigan,
from components purchased from outside suppliers. We assemble the Cerebral
Oximeter to control its quality and costs and to permit us to make changes to
the Cerebral Oximeter faster than we could if third-parties assembled it. We
believe that each component is generally available from several potential
suppliers. The SomaSensor, the printed circuit boards, other mechanical
components and the unit enclosure are the primary components that must be
manufactured according to specifications provided by us. Although we are
currently dependent on one manufacturer of the SomaSensor, we believe that
several potential suppliers are available to assemble the components of the
Cerebral Oximeter. We would, however, require approximately three to four months
to change SomaSensor suppliers. We do not currently intend to manufacture on a
commercial scale the disposable SomaSensor or the components of the Cerebral
Oximeter.
On June 11, 1998, we received ISO 9001 certification and met the
requirements under the European Medical Device Directive to use the CE Mark,
thereby allowing us to continue to market our products in the European Economic
Community.
COMPETITION
We do not believe there is currently any direct commercial competition
for the Cerebral Oximeter. We believe, however, that the market for cerebral
oximetry products is in the early stages of its development and, if it develops,
might become highly competitive. We are aware of foreign companies that have
sold products relating to cerebral metabolism monitoring for research or
evaluation.
The medical products industry is characterized by intense competition
and extensive research and development. Other companies and individuals are
engaged in research and development of non-invasive cerebral oximeters, and we
believe there are many other potential entrants into the market. Some of these
potential competitors have well established reputations, customer relationships
and marketing, distribution and service networks, and have substantially longer
histories in the medical products industry, larger product lines and greater
financial, technical, manufacturing, research and development and management
resources than ours. Many of these potential competitors have long-term product
supply relationships with our potential customers. These potential competitors
might develop products that are at least as reliable and effective as our
products, that make additional measurements, or that are less costly than our
products. These potential competitors might be more successful than we are in
manufacturing and marketing their products and might be able to take advantage
of the significant time and effort we have invested to gain medical acceptance
of cerebral oximetry. In addition, two patents issued to an unaffiliated third
party and relating to cerebral oximetry expired in 2000, one patent issued to an
unaffiliated third party and relating to cerebral oximetry expired in 1999, and
two patents issued to an unaffiliated third party and relating to cerebral
oximetry expired in 1998. These expiring patents will make that technology
generally available and potentially help the development of competing products.
See "Market Overview."
We also compete indirectly with the numerous companies that sell
various types of medical equipment to hospitals for the limited amount of
funding allocated to capital equipment in hospital budgets. The market for
medical products is subject to rapid change due to an increasingly competitive,
cost-conscious environment and to
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government programs intended to reduce the cost of medical care. Many of these
manufacturers of medical equipment are large, well-established companies whose
resources, reputations and ability to leverage existing customer relationships
might give them a competitive advantage over us. Our products and technology
also compete indirectly with many other methods currently used to measure blood
oxygen levels or the effects of low blood oxygen levels.
We believe that a manufacturer's reputation for producing accurate,
reliable and technically advanced products, references from users, features
(speed, safety, ease of use, patient convenience and range of applicability),
product effectiveness and price are the principal competitive factors in the
medical products industry.
PROPRIETARY RIGHTS INFORMATION
We have fifteen United States patents and fifteen patents in various
foreign countries. Our patents basically cover methods and apparatus for
introducing light into a body part and receiving, measuring and analyzing the
resulting light and its interaction with tissue. These methods also involve
receiving, measuring and analyzing the light transmissivity of various body
parts of a single subject, as well as of body parts of different subjects, which
provides a standard against which a single subject can be compared. Although we
believe that one or more of our issued patents cover some of the underlying
technology used in the Cerebral Oximeter, only ten of the issued patents
expressly refer to examination of the brain or developments involving the
Cerebral Oximeter.
Our initial United States patent, covering the in vivo tissue
examination technology developed in conjunction with the INVOS 2100 and its
predecessor, the SOMA 100, was allowed and issued in 1986 and will expire on
October 14, 2003. The corresponding Canadian patent was issued in 1987, the
corresponding European Community patent was issued in 1990, with related patents
issued in the ten Western European countries that were then member states, and
the corresponding Japanese patent was issued in 1991. Our fourteen additional
United States patents expire on various dates from February 2005 to December
2014. We also have one patent application pending in the United States and a
number of patent applications in various foreign countries with respect to other
aspects of our technology relating to the interaction of light with tissue.
Many other patents have previously been issued to third parties
involving optical spectroscopy and the interaction of light with tissue, some of
which relate to the use of optical spectroscopy in the area of brain metabolism
monitoring, the primary use of the Cerebral Oximeter. No patent infringement
claims have been asserted against us.
In addition to our patent rights, we have obtained United States
Trademark registrations for our trademarks "SOMANETICS," "SOMAGRAM," "INVOS,"
"SOMASENSOR" and "WINDOW TO THE BRAIN." We have also obtained registrations of
our basic mark, "SOMANETICS," in eleven foreign countries.
We also rely on trade secret, copyright and other laws and on
confidentiality agreements to protect our technology, but we believe that
neither our patents nor other legal rights will necessarily prevent third
parties from developing or using similar or related technology to compete
against our products. Moreover, our technology primarily represents improvements
or adaptations of known optical spectroscopy technology, which might be
duplicated or discovered through our patents, reverse engineering or both.
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GOVERNMENT REGULATION
The testing, manufacture and sale of our products are subject to
regulation by numerous governmental authorities, principally the FDA and
corresponding state and foreign agencies. Pursuant to the Federal Food, Drug,
and Cosmetic Act, and the related regulations, the FDA regulates the preclinical
and clinical testing, manufacture, labeling, distribution and promotion of
medical devices. If we do not comply with applicable requirements, we can be
subject to, among other things,
- fines,
- injunctions,
- civil penalties,
- recall or seizure of products,
- total or partial suspension of production,
- failure of the government to grant premarket clearance or
premarket approval for devices,
- withdrawal of marketing clearances or approvals and
- criminal prosecution.
A medical device may be marketed in the United States only if the FDA
gives prior authorization, unless it is subject to a specific exemption. Devices
classified by the FDA as posing less risk than class III devices are categorized
as class I or II and are eligible to seek "510(k) clearance." Such clearance
generally is granted when submitted information establishes that a proposed
device is "substantially equivalent" in intended use to a class I or II device
already legally on the market or to a "preamendment" class III device, which is
one that has been in commercial distribution since before May 28, 1976, for
which the FDA has not called for PMA applications, which are defined below. In
recent years, the FDA has been requiring a more rigorous demonstration of
substantial equivalence than in the past, including requiring clinical trial
data in many cases. For any devices that are cleared through the 510(k) process,
modifications or enhancements that could significantly affect safety or
effectiveness, or constitute a major change in the intended use of the device,
will require new 510(k) submissions. We believe that it now usually takes from
three to six months from the date of submission to obtain 510(k) clearance, but
it can take substantially longer. We cannot assure you that any of our devices
or device modifications will receive 510(k) clearance in a timely fashion, or at
all. The Cerebral Oximeter has been categorized as a class II device.
A device requiring prior marketing authorization that does not qualify
for 510(k) clearance is categorized as class III, which is reserved for devices
classified by FDA as posing the greatest risk, such as life-sustaining,
life-supporting or implantable devices, or devices that are not substantially
equivalent to a legally marketed class I or class II device. A class III device
generally must receive approval of a premarket approval, or PMA, application,
which requires proving the safety and effectiveness of the device to the FDA.
The process of obtaining PMA approval is expensive and uncertain. We believe
that is usually takes from one to three years after filing, but it can take
longer.
If human clinical trials of a device are required, whether for a 510(k)
or a PMA application, and the device presents a "significant risk," the sponsor
of the trial, which is usually the manufacturer or the distributor of the
device, will have to file an investigational device exemption, or IDE,
application before beginning human clinical trials. The IDE application must be
supported by data, typically including the results of animal and laboratory
testing. If the IDE application is approved by the FDA and one or more
appropriate Institutional Review Boards, or IRBs, human clinical trials may
begin at a specific number of investigational sites with a specific number of
patients, as approved by the FDA. If the device presents a "nonsignificant risk"
to the patient, a sponsor may begin the clinical trial after obtaining approval
for the study by the IRB at each clinical site without the need for FDA
approval.
In June 1992, we received 510(k) clearance from the FDA to market the
Cerebral Oximeter in the United States for use on adults. We began commercial
shipments of Cerebral Oximeters and SomaSensors in May 1993. In November 1993,
we received notification that the FDA had rescinded our 510(k) clearance to
market the Cerebral Oximeter. As a result, all commercial sales of our product
were suspended. In February 1994, we resumed marketing our product in several
foreign countries. In June 1996, we received 510(k) clearance from the FDA to
market the Cerebral Oximeter, including the SomaSensor, in the United States. In
October 1997, we obtained FDA
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clearance for new advances in our INVOS technology that are incorporated in our
model 4100 Cerebral Oximeter. We introduced the model 4100 Cerebral Oximeter in
October 1997 and began shipments in the first quarter of fiscal 1998. In
September 2000, we received 510(k) clearance from the FDA to market the model
5100 Cerebral Oximeter in the United States. The model 5100 Cerebral Oximeter
has the added capability of being able to monitor pediatric patients.
In October 1997, we obtained FDA clearance for advances in our INVOS
technology that are incorporated in our model 4100 Cerebral Oximeter. We made
additional changes to the model 3100A Cerebral Oximeter that resulted in the
model 4100 Cerebral Oximeter and we have made additional changes to the
SomaSensor. We do not believe that these changes affect the safety or efficacy
of the Cerebral Oximeter or the SomaSensor and, therefore, we believe that these
changes do not require the submission of a new 510(k) notice. The FDA, however,
could disagree with our determination not to submit a new 510(k) notice for the
model 4100 Cerebral Oximeter or SomaSensor and could require us to submit a new
510(k) notice for any changes made to the device. If the FDA requires us to
submit a new 510(k) notice for our model 4100 Cerebral Oximeter or SomaSensor or
for any device modification, we might be prohibited from marketing the modified
device until the 510(k) notice is cleared by the FDA.
Any devices we manufacture or distribute pursuant to FDA clearances or
approvals are subject to pervasive and continuing regulation by the FDA and some
state agencies. Manufacturers of medical devices marketed in the United States
must comply with detailed Quality System Regulation, or QSR, requirements, which
include testing, control, documentation and other quality assurance procedures.
Manufacturers must also comply with Medical Device Reporting requirements. These
requirements require a manufacturer to report to the FDA any incident in which
its product may have caused or contributed to a death or serious injury, or in
which its product malfunctioned and, if the malfunction were to recur, it would
likely cause or contribute to a death or serious injury. Labeling and
promotional activities are subject to scrutiny by the FDA and, in some
circumstances, by the Federal Trade Commission. Current FDA enforcement policy
prohibits marketing approved medical devices for unapproved uses.
We are subject to routine inspection by the FDA and some state agencies
for compliance with QSR requirements and other applicable regulations. Our most
recent FDA QSR inspection occurred in May 1997. We are also subject to numerous
federal, state and local laws relating to such matters as safe working
conditions, manufacturing practices, environmental protection, fire hazard
control and disposal of hazardous or potentially hazardous substances.
If any of our current or future FDA clearances or approvals are
rescinded or denied, sales of our applicable products in the United States would
be prohibited during the period we do not have such clearances or approvals. In
such cases we would consider shipping the product internationally and/or
assembling it overseas if permissible and if we determine such product to be
ready for commercial shipment. The FDA's current policy is that a medical device
that is not in commercial distribution in the United States, but which needs
510(k) clearance to be commercially distributed in the United States, can be
exported without submitting an export request and prior FDA clearance provided
that
- the company believes the device can be found to be substantially
equivalent through a 510(k) submission,
- the device is labeled and intended for export only,
- the device meets the specifications of the foreign purchaser, and
- other conditions of the export provisions of the Federal Food,
Drug, and Cosmetic Act and the Export Reform Act have been met.
Congress enacted the FDA Modernization Act of 1997. This law, which is
intended to make the regulatory process more consistent and efficient, makes
changes to the device provisions of the Food, Drug, and Cosmetic Act and other
provisions in this act affecting the regulation of devices. Among other things,
the changes will affect the IDE, 510(k) and PMA processes, and also will affect
device standards and data requirements, procedures relating to humanitarian and
breakthrough devices, tracking and postmarket surveillance, accredited third
party review, and the dissemination of off label information. We cannot predict
how or when these changes will be implemented or what effect the changes will
have on the regulation of our products.
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SEASONALITY
Our business is seasonal. Our third quarter sales have typically been
lower, compared to other fiscal quarters, principally because the fiscal quarter
coincides with the summer vacation season, especially in Europe, the United
States and Japan.
THE CORRESTORE(TM) PATCH
MARKET OVERVIEW
Congestive heart failure is when the heart is unable to pump enough
blood to meet the circulation needs of the body. It is the number one cause of
death for persons over age 65. Approximately 5,000,000 persons in the United
States have been diagnosed with congestive heart failure, and each year an
estimated 550,000 additional persons in the United States are diagnosed with
this condition. An estimated 30% of those with congestive heart failure are in
Class III or IV, based on the New York Heart Association classifications. These
classifications divide patients into four classes based on how debilitating
their condition is. Of these patients in Classes III and IV, only approximately
61% survive one year after they are diagnosed with congestive heart failure,
and, for all classes, there is a 40% annualized rate of admission to the
hospital for congestive heart failure.
One of the many causes of congestive heart failure is dilated
cardiomyopathy, which is generally a disease that damages the heart muscle,
resulting in an enlarged ventricle. The left ventricle is the chamber of the
heart that pumps the blood through the body. Most cases of congestive heart
failure result from the failure of the left ventricle and the resulting backup
of fluid in the lungs. As a result of dilated cardiomyopathy, the muscles in the
ventricle become thinner and weaker, the ventricle becomes enlarged, and it is
not able to pump blood through the body with enough force. Often the body reacts
with short-term solutions that further damage the muscle. Drug therapies can be
used to treat congestive heart failure, but they often only relieve symptoms or
reduce the body's reactions to the problem with the pump.
Ventricular remodeling is a surgical technique that can be used to
treat some patients suffering from congestive heart failure. It involves
reducing the size of the ventricle to restore more normal function. During SAVR,
the surgeon restores, or remodels, an enlarged, poor functioning left ventricle
to more normal size and function by inserting an implant, in most instances, or
closing the defect directly. Two heart surgeons and their company, CorRestore
LLC, have designed and patented a patch for use in SAVR that they believe is
easier to implant and provides a better seal against leaks at the perimeter than
existing patches, which are formed by the surgeon during the surgery out of
dacron or bovine pericardium tissue. These existing patches take time for the
surgeon to form, can be difficult to insert, and can leak around the edges. One
study of SAVR surgeries using existing dacron patches indicates a higher
12-month and 18-month survival rate and a lower hospital re-admission rate for
patients undergoing SAVR.
We believe that the trends in aging of the population and the demand to
reduce health care costs, and the increased survival rate after initial heart
problems, will increase the number of persons diagnosed with congestive heart
failure and will increase the demand for procedures that can increase the
survival rate and decrease the hospital re-admission rate for these patients.
BUSINESS STRATEGY
Our objective is to obtain regulatory clearance or approval to sell the
CorRestore(TM) patch and to have the patch used in SAVR surgeries. Key elements
of our strategy are as follows:
Obtain Regulatory Clearance or Approval for the CorRestore(TM) Patch.
We are currently working with the inventors to design and execute the
preliminary and definitive clinical tests necessary to obtain regulatory
approvals for the CorRestore(TM) patch, including FDA clearance and CE
certification. We currently believe that the CorRestore(TM) patch is eligible to
seek 510(k) clearance to market the product in the United States. If human
clinical trials are required by the FDA, we will have to file IDE applications
with the FDA before beginning the human clinical trials. However, the FDA could
require a PMA application, which would require significantly more time and
expense. Assuming the FDA requires 510(k) clearance and not PMA approval, and
human clinical trials are not
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required, we expect the process of development, testing, application, clearance
and preparing to manufacture the product to take approximately one year and to
cost us approximately $1,000,000. If the 510(k) process requires human clinical
trials, we expect the process of development, testing, application, clearance
and preparing to manufacture the product to take approximately two years and to
cost us approximately $2,000,000 to $3,000,000. If PMA approval is required, the
time and cost of development, testing, application, clearance and preparing to
manufacture the product could be significantly greater. These expenditures will
require us to raise additional capital.
Target Surgical Procedures Where Benefits Have Been Demonstrated. Our
initial target market is SAVR surgeries on Class III and IV congestive heart
failure patients with dilated ischemic cardiomyopathy due to a previous
myocardial infarction in the anterior wall of the left ventricle. Dilated
ischemic cardiomyopathy is a damaged heart muscle caused by the obstruction of
the inflow of blood from the arteries and resulting in an enlarged ventricle.
Myocardial infarction is death of an area of the middle muscle layer in the
heart wall. One study of SAVR surgeries on these patients, using patches that
were formed by the surgeon during the surgery out of dacron, indicates a higher
12-month and 18-month survival rate and a lower hospital re-admission rate for
patients undergoing SAVR. These existing patches take time for the surgeon to
form, can be difficult to insert, and can leak around the edges. Therefore, we
believe it will be possible to demonstrate the clinical benefits of the
CorRestore(TM) patch and to gain market acceptance for this product in
connection with these surgeries.
Demonstrate the Clinical Benefits and Promote Acceptance of the
CorRestore(TM) Patch. We intend to sponsor clinical studies using the
CorRestore(TM) patch to provide additional evidence of its benefits. The
resulting publication of any favorable papers can be used to help convince the
medical community of the clinical benefits of the CorRestore(TM) patch. We also
expect to promote the acceptance of the CorRestore(TM) patch in the medical
community by encouraging cardiac surgeons in leading hospitals, whose opinions
and practices we believe are valued by other hospitals and physicians, to use
the CorRestore(TM) patch. We believe that the successful evaluations of the
CorRestore(TM) patch by these medical professionals will accelerate the
acceptance of the CorRestore(TM) patch by other medical professionals.
Invest in Marketing and Sales Activities. Once the CorRestore(TM) patch
may be marketed and sold in the United States, we expect to use our existing
distribution network of direct sales employees to distribute the product in the
United States. We expect to be dependent on international distributors for
international sales of the CorRestore(TM) patch products. We also expect to
invest in marketing and sales efforts to increase the medical community's
exposure to the CorRestore(TM) patch, including participation in trade shows,
conducting seminars and direct advertising. We expect to realize some synergies
with our Cerebral Oximeter selling efforts because our sales personnel will be
calling on some of the same customers to sell both products.
Establish an Insurance Reimbursement Code for SAVR. We desire to obtain
a reimbursement code for SAVR from private and government insurers. These codes
permit medical insurance reimbursement for this procedure. We believe
reimbursement would increase use of the procedure and the CorRestore(TM) patch.
We might not be able to get a reimbursement code for SAVR, and sales of
CorRestore(TM) patches could be harmed if we fail to obtain these codes.
PRODUCT
We are developing the CorRestore(TM) patch for use in SAVR surgeries.
During SAVR, the surgeon restores, or remodels, an enlarged, poor functioning
left ventricle to more normal size and function by inserting an implant, in most
instances, or closing the defect directly. SAVR is currently generally performed
using a patch that is formed by the surgeon during the surgery out of dacron or
bovine pericardium tissue. These existing patches take time for the surgeon to
form, can be difficult to insert, and can leak around the edges.
As a result of these problems, the inventors developed a non-circular
bovine pericardium, or cow heart-sac, tissue patch with an integrated soft
dacron suture ring. It is being developed to make SAVR easier for the surgeon
and to provide a better seal on the edges of the patch to minimize leaking. The
inventors and their company, CorRestore LLC, filed for a patent with respect to
their patch, which was issued in part in February 2000 and expires in May 2018.
Other claims under the patent application are still pending. The claims allowed
relate primarily to the product design of a soft suture ring integrated with a
patch.
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We plan to offer kits containing the patches, needles, strips of
pericardium, sizers, holders and sutures to hospitals performing SAVR. We
currently expect the retail price of these kits to be $3,500 to $5,000, although
we have done only preliminary market research regarding our proposed pricing.
See "Competition." Prices to distributors will be significantly discounted from
the retail price. Because of the requirements for sterility and pursuant to our
license agreement, the patches and kits will be manufactured for us by PM
Devices, Inc. We will be dependent on PM Devices, Inc. to develop and conduct
the in vitro and animal testing required for FDA clearance or approval of the
CorRestore(TM) patch and to manufacture our entire requirements for the patches.
We have already entered into a Contract Development and Manufacturing Agreement
with PM Devices, Inc.
LICENSE AGREEMENT
We entered into a license agreement as of June 2, 2000 with the
inventors and their company, CorRestore LLC. The license grants us exclusive,
worldwide, royalty-bearing licenses to specified rights relating to the
CorRestore(TM) patch and related products and accessories for SAVR, subject to
the terms and conditions of the license agreement. The license also grants us
the right to use the names of the inventors and CorRestore(TM) on patch
products, as trademarks and in advertising, as long as they do not object to
such use within 20 days after the proposed use is submitted to them. We also
have specified rights to future developments relating to the patch products if
we incorporate the developments in the patch products, begin testing them,
receive clearances to market them and actually begin marketing them within
specified time periods. Transfer and sublicensing of our licenses are restricted
by the license agreement.
Pursuant to the license agreement, CorRestore LLC has agreed to provide
us with various consulting services for up to 10 days during each of our fiscal
years during the term of the licenses. These services include the following
relating to the CorRestore(TM) patch:
- assisting us in designing and executing the clinical tests
necessary to demonstrate the safety and efficacy of the
CorRestore(TM) patch or to obtain regulatory approvals;
- assisting us in preparing and defending applications for
regulatory approvals and patent and other intellectual property
applications;
- training our personnel and customers in the use of the
CorRestore(TM) patch;
- providing ongoing technical and general consulting and advice;
- assisting with product designs; and
- consulting with us in connection with regulatory applications,
marketing efforts and efforts to obtain insurance reimbursement
codes.
We have agreed to pay all of the expenses of such consultation, of clinical
testing of the CorRestore(TM) patch and of the existing patent and future patent
applications or registrations after the date of the license. We are dependent on
the inventors for further development of the CorRestore(TM) patch, training
doctors in SAVR and training our personnel and customers in the use of the
CorRestore(TM) patch.
In exchange for the licenses and consulting services, we agreed to the
following compensation for CorRestore LLC and its agent, Wolfe & Company:
- A royalty of 10% of our net sales of products subject to the
licenses, for the term of the patent relating to the
CorRestore(TM) patch, or for 10 years from the date of the first
commercial sale if the patent is determined to be invalid.
- Five-year warrants to purchase up to 400,000 common shares at
$3.00 a share. The warrants became exercisable to purchase
300,000 shares immediately and become exercisable to purchase an
additional 50,000 shares when we receive clearance or approval
from the FDA to market the CorRestore(TM) patch in the United
States and another 50,000 shares when we receive CE certification
for the CorRestore(TM) patch. The warrant expires when the
license terminates, except that the vested portion of the warrant
remains exercisable for an additional 90 days or, if the licenses
terminate because of specified breaches by us, for the remaining
term of the warrant.
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- Subject to shareholder approval, five-year warrants to purchase
2,100,000 common shares at $3.00 a share, to be granted when we
receive clearance or approval from the FDA to market the
CorRestore(TM) patch in the United States. The warrants will
become exercisable based on our cumulative net sales of the
CorRestore(TM) patch products as follows:
<TABLE>
<CAPTION>
Additional Portion
Net Sales of Shares
--------- ---------
<S> <C> <C>
$5,000,000 233,330
$10,000,000 233,330
$20,000,000 233,340
$35,000,000 350,000
$55,000,000 466,000
$80,000,000 584,000
</TABLE>
The warrant expires when the license terminates, except that the
vested portion of the warrant remains exercisable for an
additional 90 days or, if the licenses terminate because of
specified breaches by us, for the remaining term of the warrant.
CorRestore LLC may terminate our licenses if we do not obtain
shareholder approval for the issuance of this warrant. We are
seeking this approval at our 2001 Annual Meeting of Shareholders.
- A consulting fee of $25,000 a year to each of the inventors until
we sell 1,000 CorRestore(TM) patches.
We have also agreed to increase the size of our Board of Directors and
add CorRestore LLC's designee as a director, if CorRestore LLC designates a
person by June 2, 2001. We have also agreed to cooperate with CorRestore LLC to
establish a mutually acceptable medical advisory board to provide us with
information and advice regarding the CorRestore(TM) patch. The inventors and
CorRestore LLC also agreed to specified confidentiality, non-competition and
non-solicitation provisions in the license agreement and we agreed to specified
confidentiality provisions in the license agreement.
CorRestore LLC and the inventors may terminate the licenses as follows:
- In their sole discretion, within 120 days after we consummate
specified types of business combination transactions with another
entity and the holders of our Common Shares immediately before
the transaction hold less than 50% of the surviving entity's or
its ultimate parent's outstanding voting securities immediately
after the transaction, but only if (1) the transaction is
consummated before June 2, 2002, and (2) the consideration
received by our shareholders in the transaction has a fair market
value of less than $10.00 a share.
- In their sole discretion, if Bruce J. Barrett ceases to be our
chief executive officer or ceases to be responsible for our
activities relating to the licenses, but only if (1) one of these
events happens before June 2, 2005, and (2) CorRestore LLC or
either of the inventors exercises the right to terminate within
120 days after the event occurs.
- In their sole discretion, if we materially breach specified
covenants in the license agreement and fail to cure the breach
within 90 days (30 days for payment obligations) after CorRestore
LLC notifies us of the breach, but only if CorRestore LLC
exercises its right to terminate within 120 days after the 90-day
cure period expires.
- In their sole discretion, if we do not obtain shareholder
approval of the issuance of the warrants to purchase 2,100,000
Common Shares on or before the date we must issue the warrants.
- In their sole discretion, if our Common Shares are delisted from
The Nasdaq Stock Market and are not re-listed within 90 days, but
only if CorRestore LLC exercises its right to terminate within
120 days after the 90-day period expires.
- In their sole discretion, if we make an assignment for the
benefit of our creditors or voluntarily commence any bankruptcy,
receivership, insolvency or liquidation proceedings and the
action is not reversed or terminated within 90 days, but only if
CorRestore LLC exercises its right to terminate within 120 days
after the 90-day period expires.
- CorRestore LLC may exclude specified countries from the
geographic scope of the license if we have not begun marketing
the CorRestore(TM) patch products or begun the process of
obtaining necessary
17
<PAGE> 19
regulatory approval to sell CorRestore(TM) patch products in that
country within one year after the date we file a 510(k) clearance
application or PMA approval application with the FDA with respect
to the CorRestore(TM) patch products. The countries may be
excluded from the license only if we fail to cure the breach of
this provision within 90 days after CorRestore LLC notifies us of
the breach.
- CorRestore LLC may change our licenses to be non-exclusive for
developments that we do not incorporate in the patch products,
begin marketing or testing, receive clearances to market or IDE
approvals and actually begin marketing within specified time
periods.
- Our licenses become non-exclusive for products that we do not
begin marketing and selling in the United States within 30 days
after we receive 510(k) clearance or approval of a PMA
application from the FDA to market the applicable product in the
United States.
We may terminate the licenses as follows:
- In our sole discretion, within 120 days after we sign a
definitive agreement for specified types of business combination
transactions with another entity and the holders of our Common
Shares immediately before the transaction hold less than 50% of
the surviving entity's or its ultimate parent's outstanding
voting securities immediately after the transaction. If we use
this provision to terminate the licenses, we must pay $1,000,000
to CorRestore LLC and the inventors.
- In our sole discretion, if CorRestore LLC or either of the
inventors materially breaches specified covenants in the license
agreement and fails to cure such breach within 90 days after we
notify the applicable party of the breach, but only if we
exercise our right to terminate within 120 days after the 90-day
cure period expires.
COMPETITION
The CorRestore(TM) patch will compete against existing patches, which
are formed by the surgeon during SAVR surgeries out of dacron or bovine
pericardium tissue. These existing patches take time for the surgeon to form,
can be difficult to insert, and can leak around the edges. Although we believe
the CorRestore(TM) patch has important advantages over patches that are
currently used, including its ease of use and better seal against leaks at the
edge, existing patches are significantly less expensive. In addition to
promoting SAVR in general as a treatment for congestive heart failure, we will
have to convince users that the advantages of the CorRestore(TM) patch outweigh
its additional cost. At least one study using dacron patches indicates that they
are effective. SAVR is in the early stages of its development and, if it
develops, the market for patches used in SAVR might become highly competitive.
There are many larger companies in this industry that have significantly larger
research and development budgets than ours. Competitors may be able to develop
additional or better treatments for congestive heart failure.
We believe that a manufacturer's reputation for producing effective,
sterile, reliable and technically advanced and patented products, clinical
literature, association with leaders in the field, references from users,
surgeon convenience and price are the principal competitive factors in the
medical supply industry.
INSURANCE
Because the Cerebral Oximeter and the CorRestore(TM) patch are intended
to be used in hospital critical care units with patients who may be seriously
ill or may be undergoing dangerous procedures, we might be exposed to serious
potential products liability claims. We have obtained products liability
insurance with a liability limit of $2,000,000. We expect to increase this
coverage when we begin human clinical trials, if they are required, or when we
begin selling the CorRestore(TM) patches because of the higher risk associated
with this product. We also maintain coverage for property damage or loss,
general liability, business interruption, travel-accident, directors' and
officers' liability and workers' compensation. We do not maintain key-man life
insurance.
EMPLOYEES
As of January 2, 2001, we employed 35 full-time individuals, including
17 in sales and marketing, five in research and development, seven in general
and administration and six in manufacturing, quality and service, and one
part-time employee. We also use two consultants. We believe that our future
success is dependent, in large
18
<PAGE> 20
part, on our ability to attract and retain highly qualified managerial,
marketing and technical personnel. Our employees are not represented by a union
or subject to a collective bargaining agreement. We believe that our relations
with our current employees are good.
FINANCIAL INFORMATION ABOUT FOREIGN AND DOMESTIC OPERATIONS AND EXPORT SALES
We are located in Troy, Michigan and have no other locations. Our
export sales were approximately $2,265,000 for the fiscal year ended November
30, 2000, $1,632,000 for the fiscal year ended November 30, 1999, and $959,000
for the fiscal year ended November 30, 1998, including $582,000 in fiscal 2000,
$923,000 in fiscal 1999, and $103,000 in fiscal 1998 to Baxter Limited, our
distributor in Japan and $1,190,000 in fiscal 2000 to Nellcor Puritan Bennett
Export, Inc., our distributor in Europe. See Note 10 of Notes to Financial
Statements included in Item 8 of this Report.
19
<PAGE> 21
ITEM 2. PROPERTIES
We lease 23,392 square feet of office, manufacturing and warehouse
space in Troy, Michigan. Approximately 12,000 square feet is office space for
sales and marketing, engineering, accounting and other administrative
activities. The lease agreement was extended in fiscal 2000, with the extension
commencing January 1, 2001 and expiring December 31, 2003. The minimum monthly
lease payment is approximately $14,700 for fiscal 2000, $16,200 for fiscal 2001,
$16,500 for fiscal 2002, and $16,800 for fiscal 2003, excluding other occupancy
costs. We believe that, depending on sales of the Cerebral Oximeter, our current
facility is more than suitable and adequate for our current needs, including our
assembly of the Cerebral Oximeter, storing inventories of CorRestore(TM) patch
products and conducting our operations in compliance with prescribed FDA QSR
guidelines, and will allow for substantial expansion of our business and number
of employees.
ITEM 3. LEGAL PROCEEDINGS
We are not a party to any pending legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matter was submitted to a vote of security holders during the fourth
quarter of the fiscal year ended November 30, 2000.
20
<PAGE> 22
SUPPLEMENTAL ITEM. EXECUTIVE OFFICERS OF THE REGISTRANT
Our current executive officers and the positions held by them are as
follows:
<TABLE>
<CAPTION>
Executive
Name Officer Since Age Position
---- ------------- --- --------
<S> <C> <C> <C>
Bruce J. Barrett 6/94 41 President and Chief Executive Officer
William M. Iacona 12/00 30 Vice President, Finance, Controller, and Treasurer
Richard S. Scheuing 1/98 45 Vice President, Research and Development
Mary Ann Victor 1/98 43 Vice President, Communications and Administration, and Secretary
Ronald A. Widman 1/98 50 Vice President, Medical Affairs
Pamela A. Winters 1/98 42 Vice President, Operations
</TABLE>
Our officers serve at the discretion of the Board of Directors.
BIOGRAPHICAL INFORMATION
Mr. Bruce J. Barrett has served as our President and Chief Executive
Officer and as one of our directors since June 1994. Mr. Barrett previously
served, from June 1993 until May 1994, as the Director, Hospital Products
Division for Abbott Laboratories, Ltd., a health care equipment manufacturer and
distributor, and from September 1989 until May 1993, as the Director, Sales and
Marketing for Abbott Critical Care Systems, a division of Abbott Laboratories,
Inc., a health care equipment manufacturer and distributor. While at Abbott
Critical Care Systems, Mr. Barrett managed Abbott's invasive oximetry products
for approximately four years. From September 1981 until June 1987, he served as
the group product manager of hemodynamic monitoring products of Baxter Edwards
Critical Care, an affiliate of Baxter International, Inc., another health care
equipment manufacturer and distributor. Mr. Barrett received a B.S. degree in
marketing from Indiana State University and an M.B.A. degree from Arizona State
University. Mr. Barrett is a party to an employment agreement with us that
requires us to elect him to the offices he currently holds.
Mr. William M. Iacona has served as our Vice President, Finance since
December 2000, as our Treasurer since February 2000 and as our Controller since
April 1997. Before joining us, he was in the Finance Department of Ameritech
Advertising Services, a telephone directory company and a division of Ameritech
Corporation (now SBC Communications), from November 1994 until April 1997, and
was on the audit staff of Deloitte & Touche LLP, independent auditors, from
September 1992 until October 1994. He is a certified public accountant and
received a B.S. degree in accounting from the University of Detroit.
Mr. Richard S. Scheuing has served as our Vice President, Research and
Development since January 1998. From March 1993 to January 1998, he served as
our Director of Research and Development. He joined us in 1991 as our Director
of Mechanical Engineering. He is an inventor on four of our issued patents, and
one patent that is pending. Before joining us, he was Director of Mechanical
Engineering for Irwin Magnetic Systems, Inc. from 1987 until 1991 and was a
Development Engineer with the Sarns division of Minnesota Mining and
Manufacturing Company, or 3M, from 1982 to 1987. He received a B.S. degree in
mechanical engineering from the University of Michigan.
Ms. Mary Ann Victor has served as our Vice President, Communications
and Administration and Secretary since January 1998. From July 1997 until
January 1998, she served as our Director, Communications and Administration and
was our consultant from September 1996 until July 1997. She also served as our
Director of Corporate Communications from July 1991 until February 1994. Prior
experience includes serving as Director of Investor Relations with the Taubman
Company from February to May 1994, legal assistant from June 1994 to November
1994 and then attorney from November 1994 to September 1995 with Varnum
Riddering Schmidt & Howlett, and Human Resources Consultant in the Actuarial
Benefits and Compensation Consulting Group of Deloitte & Touche LLP from
September 1995 to September 1996. Ms. Victor received a B.S. in political
science from the University of Michigan and a J.D. from the University of
Detroit.
21
<PAGE> 23
Mr. Ronald A. Widman has served as our Vice President, Medical Affairs
since January 1998. From August 1994 to January 1998, he served as our Director
of Medical Affairs. Before joining us as Marketing Manager in 1991, he was
employed by Mennen Medical, Inc., a manufacturer and marketer of medical
monitoring and diagnostic devices, for 12 years, where he held various positions
in domestic and international medical product marketing, including Senior
Product Manager from 1982 until 1991. He is the author of several papers and
articles related to medical care and monitoring devices.
Ms. Pamela A. Winters has served as our Vice President, Operations
since January 1998. From February 1996 to January 1998, she served as our
Director of Operations. From May 1992 to February 1996, she served as our
Manager of Quality Assurance. From October 1991 to May 1992, Ms. Winters served
as our Quality Assurance Supervisor. Ms. Winters received a B.S. degree in
management from the University of Phoenix.
22
<PAGE> 24
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
The Common Shares trade on The Nasdaq SmallCap Market under the trading
symbol "SMTS." The following table sets forth, for the periods indicated, the
range of high and low closing sales prices as reported by Nasdaq.
<TABLE>
<CAPTION>
HIGH LOW
---- ---
<S> <C> <C>
Fiscal Year Ended November 30, 1999
First Quarter.................................. $ 3.50 $ 1.25
Second Quarter................................. 4.69 1.63
Third Quarter.................................. 4.69 2.00
Fourth Quarter................................. 2.69 1.38
Fiscal Year Ended November 30, 2000
First Quarter.................................. $ 4.13 $ 1.19
Second Quarter ................................ 6.88 2.50
Third Quarter ................................. 4.38 2.63
Fourth Quarter ................................ 3.75 1.81
</TABLE>
As of January 2, 2001, we had 641 shareholders of record.
We have never paid cash dividends on our common shares and do not
expect to pay such dividends in the foreseeable future. We currently intend to
retain any future earnings for use in our business. The payment of any future
dividends will be determined by the Board in light of the conditions then
existing, including our financial condition and requirements, future prospects,
restrictions in financing agreements, business conditions and other factors
deemed relevant by the Board.
Pursuant to the Private Equity Line Agreement, on November 3, 2000, we
issued and sold 108,696 common shares, par value $0.01 a share, to Kingsbridge
Capital Limited for $1.84 a share. The purchase price paid by Kingsbridge was
86% of an average market price of the common shares. We paid $7,000 in
commissions to Brean Murray & Co., Inc. in connection with this sale. The common
shares were sold to Kingsbridge in reliance on the exemptions from registration
contained in Sections 4(2) and 4(6) of the Securities Act. We have filed a
registration statement under the Securities Act of 1933 to permit Kingsbridge to
resell these shares to the public.
Pursuant to the Private Equity Line Agreement, on December 4, 2000, we
issued and sold 112,994 common shares, par value $0.01 a share, to Kingsbridge
Capital Limited for $1.77 a share. The purchase price paid by Kingsbridge was
86% of an average market price of the common shares. We paid $7,000 in
commissions to Brean Murray & Co., Inc. in connection with this sale. The common
shares were sold to Kingsbridge in reliance on the exemptions from registration
contained in Sections 4(2) and 4(6) of the Securities Act. We have filed a
registration statement under the Securities Act of 1933 to permit Kingsbridge to
resell these shares to the public.
23
<PAGE> 25
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial data as of November 30, 2000, 1999, 1998,
1997 and 1996, and for each of the years in the five-year period ended November
30, 2000 have been derived from our audited financial statements, some of which
appear in Item 8 of this Report together with the report of Deloitte & Touche
LLP, independent auditors, whose report includes an explanatory paragraph
relating to an uncertainty concerning our ability to continue as a going
concern. You should read the selected financial data together with the financial
statements and notes to financial statements included in Item 8 of this Report
and with "Management's Discussion and Analysis of Financial Condition and
Results of Operations" included in Item 7 of this Report. In June 2000, we
entered into the CorRestore(TM) license. See Item 1. "Business -- The
CorRestore(TM) Patch." Thus, this selected financial data might not be a good
indicator of our expected results for fiscal 2001.
<TABLE>
<CAPTION>
FISCAL YEAR ENDED NOVEMBER 30,
--------------------------------------------------------------
2000 1999 1998 1997 1996
----------- ---- ---- ---- ----
(in thousands, except per share data)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Net revenues (1)............................ $ 5,103 $ 4,001 $ 2,491 $ 1,212 $ 778
Cost of sales............................... 2,370 1,906 1,326 631 385
Gross margin................................ 2,733 2,095 1,165 580 393
Research, development and engineering
expenses............................... 514 598 665 736 235
Selling, general, and administrative expenses 5,934 6,436 6,347 6,238 3,550
Net loss.................................... (3,622) (4,665) (5,470) (6,155) (3,304)
Net loss per common share - basic and
diluted (2)............................ (.57) (.77) (1.01) (1.88) (1.77)
Weighted average number of common shares
outstanding (2)........................ 6,310 6,036 5,422 3,272 1,867
<CAPTION>
NOVEMBER 30,
--------------------------------------------------------------
2000 1999 1998 1997 1996
---- ---- ---- ---- ----
(in thousands)
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and marketable securities............. $ 122 $ 2,257 $ 6,894 $ 4,603 $ 3,292
Working capital............................ 1,393 2,960 7,633 4,511 3,862
Total assets............................... 3,659 4,444 9,047 5,677 4,672
Total liabilities.......................... 776 762 629 788 618
Accumulated deficit (4).................... (50,124) (46,502) (41,836) (36,367) (30,211)
Shareholders' equity (3) (4)............... 2,883 3,682 8,418 4,889 4,054
</TABLE>
(1) Net revenues recorded in fiscal years 2000, 1999, 1998, 1997 and 1996
relate primarily to the sale of Cerebral Oximeters and SomaSensors for
commercial use. For a description of our loss of, and regaining, FDA
clearance to market the Cerebral Oximeter in the United States, see
"Business -- Government Regulation."
(2) See Note 4 of Notes to Financial Statements included in Item 8 of this
Report for information with respect to the calculation of per share data.
The net loss per common share data and weighted average number of common
shares outstanding data have been adjusted to give retroactive effect to
the 1-for-10 reverse stock split effected April 10, 1997.
(3) See Statements of Shareholders' Equity of the Financial Statements included
in Item 8 of this Report for an analysis of common share transactions for
the period from December 1, 1997 through November 30, 2000.
(4) We believe our accumulated deficit has increased and shareholders' equity
has decreased since November 30, 2000.
24
<PAGE> 26
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Some of the statements in this report are forward-looking statements.
These forward-looking statements include statements relating to our performance
in this Management's Discussion and Analysis of Financial Condition and Results
of Operations. In addition, we may make forward-looking statements in future
filings with the Securities and Exchange Commission and in written material,
press releases and oral statements issued by us or on our behalf.
Forward-looking statements include statements regarding the intent, belief or
current expectations of us or our officers, including statements preceded by,
followed by or including forward-looking terminology such as "may," "will,"
"should," "believe," "expect," "anticipate," "estimate," "continue," "predict"
or similar expressions, with respect to various matters.
It is important to note that our actual results could differ materially
from those anticipated from the forward-looking statements depending on various
important factors. These important factors include our history of losses and
ability to continue as a going concern, our current dependence on the Cerebral
Oximeter and SomaSensor, the challenges associated with developing new products,
the uncertainty of acceptance of our products by the medical community, the
lengthy sales cycle for our products, competition in our markets, our need for
additional financing, our dependence on our distributors, and the other factors
discussed under the caption "Risk Factors" and elsewhere in our Registration
Statement on Form S-1 (file no. 333-33262) effective March 31, 2000 and
elsewhere in this report.
All forward-looking statements in this report are based on information
available to us on the date of this report. We do not undertake to update any
forward-looking statements that may be made by us or on our behalf in this
report or otherwise. In addition, please note that matters set forth under the
caption "Risk Factors" in our registration statement constitute cautionary
statements identifying important factors with respect to the forward-looking
statements, including certain risks and uncertainties, that could cause actual
results to differ materially from those in such forward-looking statements.
RESULTS OF OPERATIONS
OVERVIEW
We develop, manufacture and market the INVOS Cerebral Oximeter, the
only non-invasive patient monitoring system commercially available in the United
States that continuously measures changes in the blood oxygen level in the
brain. We are also developing the CorRestore(TM) patch, which is being developed
for use in heart surgeries called surgical anterior ventricular restoration, or
SAVR. In October 1997, we obtained FDA clearance for new advances in our INVOS
technology that are incorporated in our model 4100 Cerebral Oximeter. The model
4100 Cerebral Oximeter was introduced in October 1997 and we began shipping the
model 4100 in the first quarter of fiscal 1998. During the third quarter of
fiscal 1999, we introduced our new model 5100 Cerebral Oximeter at an
international trade show, and began international shipments of the model 5100 in
August 1999. The model 5100 has the added capability of being able to monitor
pediatric patients. In September 2000, we received clearance from the FDA to
market the model 5100 Cerebral Oximeter in the United States. In June 2000, we
entered into a license agreement for the CorRestore(TM) patch, which requires
testing and FDA clearance or approval before we can sell it in the United
States.
During fiscal 1998, 1999, and 2000, our primary activities consisted of
sales and marketing of the Cerebral Oximeter and related disposable SomaSensor.
We had an accumulated deficit of $50,123,746 through November 30, 2000. We
believe that our accumulated deficit will continue to increase for the
foreseeable future.
We derive our revenues from sales of Cerebral Oximeters and SomaSensors
to our distributors and to hospitals in the United States through our direct
sales employees. We recognize revenues when we ship our products to distributors
or to hospitals. Payment terms are generally net 30 days for United States sales
and net 60 days or longer for international sales. Our primary expenses,
excluding the cost of our products, are selling, general and administrative and
research, development and engineering, which we generally expense as incurred.
From May 1994 through the first quarter of fiscal 1998, we exchanged model 3100A
Cerebral Oximeters for our model 3100
25
<PAGE> 27
Cerebral Oximeters. Until shipments of the model 4100 Cerebral Oximeter began in
the first quarter of fiscal 1998, we refurbished the model 3100 Cerebral
Oximeters we received and sold them approximately at cost in countries that do
not require compliance with the standards met by the model 3100A. During fiscal
1998, we offered to exchange model 4100 Cerebral Oximeters for model 3100A
Cerebral Oximeters (which we then scrapped) and cash equal to the difference in
sales prices of the two models. Beginning in the third quarter of fiscal 1999,
we offered the same exchange of model 4100 Cerebral Oximeters for model 3100A
Cerebral Oximeters to Baxter Limited in Japan, as a result of the Japanese
Ministry of Health and Welfare approval in the first quarter of fiscal 1999 to
market the model 4100 in Japan. Such sales reduce our average unit sales price
and overall gross margin. Also, during fiscal 1998, we began a no-cap sales
program whereby we ship the model 4100 Cerebral Oximeter to the customer at no
charge, in exchange for the customer agreeing to purchase at a premium a minimum
monthly quantity of SomaSensors.
FISCAL YEAR ENDED NOVEMBER 30, 2000 COMPARED TO FISCAL YEAR ENDED NOVEMBER 30,
1999
Our net revenues increased approximately $1,102,000, or 28%, from
$4,000,972 in the fiscal year ended November 30, 1999 to $5,103,098 in the
fiscal year ended November 30, 2000. The increase in net revenues is primarily
attributable to
- an increase in international sales of approximately $633,000, from
approximately $1,632,000 in fiscal 1999 to approximately
$2,265,000 in fiscal 2000, primarily due to the stocking orders
for model 4100 and model 5100 Cerebral Oximeters and SomaSensors
by Nellcor Puritan Bennett Export, Inc., and
- an increase in United States sales of approximately $469,000, from
approximately $2,369,000 in fiscal 1999 to approximately
$2,838,000 in fiscal 2000, primarily due to increased purchases of
the disposable SomaSensor.
The increase in net revenues was achieved despite
- decreased purchases of the model 4100 by Baxter Limited in Japan
attributable to the initial stocking purchases and exchange
purchases made in fiscal 1999 as a result of Japanese Ministry of
Health and Welfare approval in fiscal 1999 to market the model
4100 in Japan,
- an 15% decrease in the average selling price of Cerebral Oximeters
primarily as a result of the stocking orders from Nellcor Puritan
Bennett Export, Inc., at lower per unit prices, for use as
demonstration equipment by its sales personnel, and a change in
the sales mix in the United States between direct purchases of the
model 4100 and no-cap placements of the model 4100, and
- a 7% decrease in the average selling price of SomaSensors
primarily as a result of the initial stocking orders from Nellcor
Puritan Bennett Export, Inc., at lower per unit prices, for use as
demonstration equipment by its sales personnel.
Approximately 44% of our net revenues in fiscal 2000 were export sales,
compared to approximately 41% of our net revenues in fiscal 1999. Sales of
SomaSensors, model 4100 Cerebral Oximeters, model 5100 Cerebral Oximeters, and
model 4100 exchanges as a percentage of net revenues were as follows:
<TABLE>
<CAPTION>
PERCENT OF NET REVENUE
FISCAL YEAR ENDED NOVEMBER 30,
PRODUCT 2000 1999
------- ----------------- -----------------
<S> <C> <C>
SomaSensors........................ 49% 42%
Model 4100 Cerebral Oximeters...... 30% 52%
Model 5100 Cerebral Oximeters...... 20% 3%
Model 4100 Exchanges............... 1% 3%
----------------- -----------------
Total.......................... 100% 100%
================= =================
</TABLE>
Two international distributors accounted for approximately 23% and 11%,
respectively, of net revenues for the fiscal year ended November 30, 2000, and
one international distributor accounted for approximately 23% of net revenues
for the fiscal year ended November 30, 1999. Effective January 1, 2001, we
increased the price of the model 4100 SomaSensor by 25%. This price increase
does not apply to any existing sales quotations which were issued before
26
<PAGE> 28
January 1, 2001. In addition, the suggested retail price of the model 5100
Cerebral Oximeter is approximately 44% higher than the model 4100.
Gross margin as a percentage of net revenues was approximately 54% for
the fiscal year ended November 30, 2000 and approximately 52% for the fiscal
year ended November 30, 1999. Although we realized a lower average selling price
for Cerebral Oximeters and SomaSensors in fiscal 2000, gross margin as a
percentage of net revenues increased primarily due to shipments of our new model
SomaSensor in fiscal 2000, which is less costly to manufacture than the old
model SomaSensors. The new model SomaSensor was sold for the entire year in
fiscal 2000, as compared to fiscal 1999 when it was launched and was sold
primarily in the second half of the year.
Our research, development and engineering expenses decreased
approximately $85,000, or 14%, from $598,348 in fiscal 1999 to $513,816 in
fiscal 2000. The decrease is primarily attributable to:
- a $123,000 decrease in consulting fees associated with the
termination of our consulting order with NeuroPhysics Corporation,
and
- a $72,000 decrease in costs associated with enhancements to the
design of the disposable SomaSensor.
These decreases were achieved despite:
- a $71,000 increase in costs associated with the development of the
CorRestore(TM)patch, and
- a $37,000 increase in engineering salaries.
We expect our research, development and engineering expenses to increase
significantly in connection with development and clinical testing of the
CorRestore(TM) patch in fiscal 2001.
Selling, general and administrative expenses decreased approximately
$502,000, or 8%, from $6,435,628 for the fiscal year ended November 30, 1999 to
$5,933,969 for the fiscal year ended November 30, 2000. The decrease in selling,
general and administrative expense is primarily attributable to
- a $700,000 decrease in salaries, wages, commissions and related
expenses, primarily as a result of a reduction in the number of
employees, principally sales and marketing, (from an average of 47
employees for the fiscal year ended November 30, 1999 to an
average of 40 employees for the fiscal year ended November 30,
2000) and reduced sales commissions,
- a $157,000 decrease in trade show expenditures during fiscal 2000,
- a $107,000 decrease in professional service fees primarily as a
result of decreased business consulting fees during fiscal 2000,
and
- a $40,000 decrease in employee severance during fiscal 2000.
These decreases were incurred despite
- a $212,000 realized loss on the sale of marketable securities in
fiscal 2000,
- a $116,000 increase in selling-related expenses, primarily related
to marketing and promotional materials, travel, and training
related to our new distribution agreement with Nellcor Puritan
Bennett Export, Inc., and other employee travel expenses,
- a $110,000 increase in intangible amortization expense related to
the amortization of license acquisition costs, and
- a $47,000 increase in clinical research expenses, primarily
related to the model 5100 Cerebral Oximeter.
FISCAL YEAR ENDED NOVEMBER 30, 1999 COMPARED TO FISCAL YEAR ENDED NOVEMBER 30,
1998
Our net revenues increased approximately $1,510,000, or 61%, from
$2,490,851 in the fiscal year ended November 30, 1998 to $4,000,972 in the
fiscal year ended November 30, 1999. The increase in net revenues is primarily
due to
27
<PAGE> 29
- an approximately $837,000 (55%) increase in United States sales,
from approximately $1,532,000 in fiscal 1998 to approximately
$2,369,000 in fiscal 1999, and
- an approximately $673,000 (70%) increase in international sales,
from approximately $959,000 in fiscal 1998 to approximately
$1,632,000 in fiscal 1999.
These increases are primarily due to
- increased purchases of the disposable SomaSensor,
- purchases of the model 4100 Cerebral Oximeter by Baxter Limited as
a result of Japanese Ministry of Health and Welfare approval in
the first quarter of fiscal 1999 to market the model 4100 in
Japan,
- a 17% increase in the average selling price of Cerebral Oximeters,
primarily due to the March 1, 1999 increase in the price of the
Cerebral Oximeter and fewer no-cap and exchange unit sales in
fiscal 1999, and
- an 8% increase in the average selling price of the disposable
SomaSensor, due to the effects of no-cap sales and the March 1,
1999 increase in SomaSensor prices.
Approximately 41% of our net revenues in fiscal 1999 were export sales,
compared to approximately 39% in fiscal 1998. Sales of model 4100 Cerebral
Oximeters, SomaSensors, model 4100 exchanges, model 5100 Cerebral Oximeters, and
model 3100A Cerebral Oximeters as a percent of net revenues were as follows:
<TABLE>
<CAPTION>
PERCENT OF NET REVENUES
PRODUCT 1999 1998
------- ----------------- -----------------
<S> <C> <C>
Model 4100 Cerebral Oximeters...... 52% 61%
SomaSensors........................ 42% 28%
Model 4100 Exchanges............... 3% 8%
Model 5100 Cerebral Oximeters...... 3% 0%
Model 3100A Cerebral Oximeters..... 0% 3%
----------------- -----------------
Total.......................... 100% 100%
================= =================
</TABLE>
One international distributor accounted for approximately 23% of net revenues in
fiscal 1999, and one United States distributor accounted for approximately 10%
of net revenues for fiscal year 1998.
Gross margin as a percentage of net revenues was approximately 52% for
the fiscal year ended November 30, 1999 and approximately 47% for the fiscal
year ended November 30, 1998. Gross margin as a percentage of net revenues
increased in fiscal 1999 from fiscal 1998 primarily due to
- the higher average selling prices we realized for the model 4100
Cerebral Oximeter and the SomaSensor,
- increased shipments of our new model SomaSensor, which is less
costly to manufacture than old model SomaSensors, and
- a smaller percentage of model 4100 exchanges in fiscal 1999.
These increases were partially offset by a higher percentage of our net revenues
derived from the sale of SomaSensors in fiscal 1999, which still have lower
margins than Cerebral Oximeters.
Our research, development and engineering expenses decreased
approximately $67,000, or 10%, from $664,874 for the fiscal year ended November
30, 1998 to $598,348 for the fiscal year ended November 30, 1999. The decrease
is primarily due to
- approximately $84,000 in decreased costs associated with
enhancements to the model 4100, and
- $35,000 in decreased consulting fees.
These decreases were partially offset by a $45,000 increase in costs associated
with enhancements to the design of the disposable SomaSensor.
28
<PAGE> 30
Selling, general and administrative expenses increased approximately
$89,000, or 1%, from $6,346,595 for the fiscal year ended November 30, 1998 to
$6,435,628 for the fiscal year ended November 30, 1999. The increase in selling,
general and administrative expenses for fiscal 1999 is primarily due to
- a $144,000 increase in salaries, wages, commissions and related
expenses, primarily as a result of increased sales commissions we
paid to our sales force during fiscal 1999, and
- a $69,000 increase in professional service and investor relations
fees.
These increases were partially offset by
- a $73,000 decrease in selling-related expenses, primarily
attributable to employee travel, industry trade shows, marketing
and advertising, and
- a $49,000 decrease in bad debts expense for fiscal 1999.
EFFECTS OF INFLATION
We do not believe that inflation has had a significant impact on our
financial position or results of operations in the past three years.
LIQUIDITY AND CAPITAL RESOURCES
Net cash used in operations during fiscal 2000 was approximately
$3,790,000. Cash was used primarily to
- fund our net loss, including selling, general and administrative
expenses and research, development and engineering expenses,
totaling approximately $3,175,000, before depreciation and
amortization expense,
- increase accounts receivable by approximately $586,000, primarily
due to higher sales in the fourth quarter of fiscal 2000 than in
the fourth quarter of fiscal 1999, and
- increase other assets by approximately $47,000 as a result of
professional service fees capitalized as part of our license
acquisition costs.
We expect our working capital requirements to increase if sales
increase. We capitalized approximately $114,000 of costs for model 4100 and
model 5100 Cerebral Oximeters being used as demonstration units and no-cap units
during fiscal 2000, compared to approximately $179,000 in fiscal 1999. We expect
to depreciate these costs over three years.
Capital expenditures in fiscal 2000 were approximately $118,000. These
expenditures were primarily for the costs for model 4100 and model 5100
demonstration and no-cap Cerebral Oximeters described above. We expect our
capital requirements to increase as a result of the costs of developing and
testing the CorRestore(TM) patch.
Our principal sources of operating funds have been the proceeds of
equity investments from sales of our common shares. See Statements of
Shareholders' Equity of our Financial Statements included in Item 8 of this
Report. On April 8, 1998, we completed the public offering of 1,750,000
newly-issued common shares, at a price of $5.75 per share, for gross proceeds of
$10,062,500, through an offering underwritten by Brean Murray & Co., Inc. Our
net proceeds, after deducting the underwriting discount and the expenses of the
offering, were approximately $9,100,000.
On March 6, 2000, we entered into the Private Equity Line Agreement
with Kingsbridge Capital Limited, a private institutional investor. Pursuant to
the Private Equity Line Agreement we may issue and sell, from time to time,
common shares for cash consideration up to an aggregate of $15 million. As
required by the Private Equity Line Agreement, we have filed a registration
statement to permit Kingsbridge to resell to the public 1,000,000 of the shares
that we sell to it pursuant to the Private Equity Line Agreement. Until March
31, 2002, we may sell, or "put," common shares to Kingsbridge from time to time
in amounts and at times we select at our discretion, subject to specific
restrictions set forth in the Private Equity Line Agreement. The price for these
sales is between 86% and
29
<PAGE> 31
90% of the then current average market price of our common shares. The actual
percentage will depend on an average market price of our common shares. In
addition, we must pay Brean Murray & Co., Inc. a 3.5% commission in connection
with these sales. We must also pay additional expenses in connection with these
sales. We are not permitted to sell more than 19.9% of our outstanding common
shares pursuant to this arrangement unless we first obtain shareholder approval
under The Nasdaq SmallCap Market rules. We are seeking shareholder approval at
the 2001 Annual Meeting of Shareholders to issue up to 3,000,000 common shares
pursuant to the arrangement, including the common shares already issued.
Puts can be made every 15 trading days in amounts ranging from a
minimum of $10,000 to a maximum of $1,000,000. The amounts depend on the then
current trading volume and average market price of our common shares at the time
of each put. We are required to put at least $7,500,000 of our common shares to
Kingsbridge over the life of the Private Equity Line Agreement or pay
Kingsbridge the discount on the unsold shares. As of November 30, 2000, we had
issued 601,490 common shares under the Private Equity Line Agreement. Under the
Private Equity Line Agreement, the average market price of our common shares for
purposes of calculating the purchase price to be paid by Kingsbridge is the
average of the lowest trade prices of the common shares as reported by Bloomberg
L.P. on each of five days on which The Nasdaq SmallCap Market is open for
trading. The five days are the two trading days before the day on which we
deliver notice to Kingsbridge that we are exercising a put, the trading day on
which we deliver the put notice, and the two trading days after the trading day
on which we deliver the put notice.
The Private Equity Line Agreement provides that we may not put our
common shares to Kingsbridge unless the following conditions are satisfied or
waived (none of which is within Kingsbridge's control):
- the registration statement must have been declared effective by
the SEC and must remain effective;
- the representations and warranties made by us in the Private
Equity Line Agreement must be accurate in all material respects as
of the date of each put and as of the date of the closing of the
sale. One of our representations is that since November 30, 1999
there has been no material adverse change in our business,
operations, properties, prospects or financial condition, except
as disclosed in the registration statement or specified periodic
reports filed with the SEC pursuant to the Securities Exchange Act
of 1934;
- we must have performed and complied with in all material respects
all obligations under the Private Equity Line Agreement, the
warrant and the Registration Rights Agreement entered into between
us and Kingsbridge in connection with the Private Equity Line
Agreement that are required to be performed as of the date of each
put and as of the date of the closing of the sale;
- no statute, rule, regulation, executive order, decree, ruling or
injunction may be in effect that prohibits or directly and
adversely affects any of the transactions contemplated by the
Private Equity Line Agreement;
- our common shares must not have been delisted from The Nasdaq
SmallCap Market nor suspended from trading;
- the issuance of the common shares must not violate the shareholder
approval requirements of The Nasdaq SmallCap Market;
- the number of shares to be put to Kingsbridge, together with any
shares then held by Kingsbridge, must not exceed 9.9% of our
common shares that would be outstanding upon completion of the
put; and
- the average trading volume of our common shares for 26 of the 30
consecutive trading days immediately preceding a put must be at
least 30,000 shares a day. The two highest and the two lowest
trading volume days are excluded.
In consideration for Kingsbridge's commitment under the Private Equity
Line Agreement, we issued a warrant to Kingsbridge on March 6, 2000. The warrant
entitles the holder to purchase 200,000 common shares at a purchase price of
$4.36 per share. The warrant is exercisable at any time until September 3, 2005.
The warrant contains standard provisions that protect the holder against
dilution by adjustment of the exercise price and the number of shares issuable
pursuant to the warrant if any of the following occurs:
- stock split
30
<PAGE> 32
- reverse stock split,
- stock dividend,
- reclassification,
- merger,
- statutory share exchange,
- similar transactions affecting our common shares, or
- specified issuances of common shares, convertible or exchangeable
securities, options and warrants at less than the market price of
the common shares, as defined in the Private Equity Line
Agreement.
The warrant also provides for adjustments if we pay liquidating dividends. No
adjustments are required for instruments or benefits issued under any of our
stock option plans or in consideration of our acquisition of all or any part of
the assets of another person. The exercise price of the warrant is payable
either in cash or by a cashless exercise in which the number of common shares
underlying the warrant having an aggregate fair market value at the time of
exercise equal to the aggregate exercise price are cancelled as payment of the
exercise price.
We have completed the following sales of common shares under the
Private Equity Line Agreement:
- On April 13, 2000, we completed the sale of 167,131 common shares
to Kingsbridge, at a price of $3.59 per share, for gross proceeds
of $600,000.
- On May 11, 2000, we completed the sale of 148,148 common shares to
Kingsbridge, at a price of $2.70 per share, for gross proceeds of
$400,000.
- On June 22, 2000, we completed the sale of 177,515 common shares
to Kingsbridge, at a price of $3.38 per share, for gross proceeds
of $600,000.
- On November 3, 2000, we completed the sale of 108,696 common
shares to Kingsbridge, at a price of $1.84 per share, for gross
proceeds of $200,000.
Our net proceeds, after deducting the commissions and the estimated expenses of
the offerings, were approximately $1,606,000.
As of November 30, 2000, we had working capital of $1,393,224, cash and
cash equivalents of $122,299, total current liabilities of $775,831 and
shareholders' equity of $2,883,165.
We expect that our primary needs for liquidity in fiscal 2001 will be
- to fund our losses and sustain our operations, including funding
- marketing costs for the Cerebral Oximeter; and
- research and development efforts related to development
and testing of the CorRestore(TM) patch, product-line
extensions of the Cerebral Oximeter for use on newborns,
other non-brain tissue applications, and enhancements to
the Cerebral Oximeter and SomaSensor; and
- for working capital, including increased accounts receivable and
inventories of components and sales units to satisfy expected
sales orders.
In addition, we have budgeted approximately $200,000 for capital expenditures
during fiscal 2001, primarily for new demonstration and no-cap equipment and
manufacturing tooling for the Cerebral Oximeter and SomaSensor.
We are currently working with the inventors to design and execute the
preliminary and definitive clinical test necessary to obtain regulatory
approvals for the CorRestore(TM) patch, including FDA clearance and CE
certification. We currently believe that the CorRestore(TM) patch is eligible to
seek 510(k) clearance to market the product in the United States. If human
clinical trials are required by the FDA, we will have to file IDE applications
with the FDA before beginning the human clinical trials. However, the FDA could
require a PMA application, which would require significantly more time and
expense. Assuming the FDA requires 510(k) clearance and not PMA approval, and
human clinical trials are not required, we expect the process of development,
testing, application, clearance and preparing to manufacture the product to take
approximately one year and to cost us approximately $1,000,000. If the 510(k)
process requires human clinical trials, we expect the process of development,
testing, application, clearance and preparing to manufacture the product to take
approximately two
31
<PAGE> 33
years and to cost us approximately $2,000,000 to $3,000,000. If PMA approval is
required, the time and cost of development, testing, application, clearance and
preparing to manufacture the product could be significantly greater. These
expenditures will require us to raise additional capital.
We believe that the cash and cash equivalents on hand at November 30,
2000, together with the estimated net proceeds from the sales of the then
remaining 398,510 common shares over time to Kingsbridge Capital Limited
pursuant to the Private Equity Line Agreement based on current market prices,
will be adequate to satisfy our operating and capital requirements through
February 2001. By that time we will be required to raise additional cash either
through additional sales of our products, through sales of securities, by
incurring indebtedness or by some combination of these alternatives. If we are
unable to raise additional cash by that time, we will be required to reduce or
discontinue our operations.
The estimated length of time current cash and cash equivalents will
sustain our operations is based on estimates and assumptions we have made. These
estimates and assumptions are subject to change as a result of actual
experience. Changes in the market price or trading volume of our common shares
could reduce the proceeds we receive for selling those common shares under the
Private Equity Line Agreement, decrease the number of shares we can sell in a
particular period or both. Actual capital requirements necessary to market the
Cerebral Oximeter and SomaSensor, to develop and test the CorRestore(TM) patch,
to undertake other product development activities, and for working capital might
be substantially greater than current estimates.
We do not believe that product sales will be sufficient to fund our
operations in fiscal 2001.
As of November 30, 2000, we had 55,120 redeemable warrants outstanding
exercisable at $17.50 per share until April 1, 2001. These warrants were issued
in our April 1996 Regulation S securities offering. The conditions permitting us
to redeem these warrants have not been met as of January 2, 2001. In addition,
the placement agents in that offering and their transferees hold warrants to
purchase 11,424 common shares exercisable at $12.50 per share until April 1,
2001. Also, the underwriter of the June 1997 public offering and its transferees
received warrants to purchase 200,000 common shares exercisable at $4.80 per
share until May 29, 2002. In addition, Kingsbridge Capital Limited received
warrants to purchase 200,000 common shares exercisable at $4.36 per share until
September 3, 2005 pursuant to the Private Equity Line Agreement described above.
Also, CorRestore, LLC and its agent, Wolfe & Company, received warrants to
purchase 400,000 common shares exercisable at $3.00 per share until June 2, 2005
pursuant to the CorRestore(TM) license agreement, and, subject to shareholder
approval, when specified events occur we agreed to issue them five-year warrants
to purchase an additional 2,100,000 common shares exercisable at $3.00 per share
pursuant to the CorRestore(TM) license agreement; we are seeking shareholder
approval for the issuance of these warrants and shares at our 2001 Annual
Meeting of Shareholders. It is unlikely that these warrants will be exercised if
the exercise price exceeds the market price of the common shares.
We are also party to the Private Equity Line Agreement described above.
On December 4, 2000, we completed the sale of 112,994 common shares to
Kingsbridge, at a price of $1.77 per share, for gross proceeds of $200,000 under
the Private Equity Line Agreement. We may sell up to an aggregate of $13,000,000
more of our common shares under the Private Equity Line Agreement. However, we
must obtain shareholder approval and register under the Securities Act of 1933
any common shares we sell pursuant to the Private Equity Line Agreement beyond
the remaining 285,516 already registered common shares. We are seeking
shareholder approval at the 2001 Annual Meeting of Shareholders to issue up to
3,000,000 common shares pursuant to this arrangement, including the common
shares already issued.
We are considering various capital-raising alternatives, including a
private placement or public offering of newly-issued debt or equity securities.
Final terms and conditions of any offering may be subject to, among other
things, the satisfactory completion by an underwriter or placement agent of such
inquiry and investigation of the transaction and of us as they may deem
appropriate, and a determination that there has been no material adverse change
in the conditions in the markets for the offering or the financial markets
generally. In addition, the type and amount of securities, if any, that might
ultimately be issued in any such offering have not yet been determined and will
be dependent on negotiations with the underwriter, any private placement
investor, market conditions and our then current estimate of the proceeds
necessary or desired to sustain our operations. There can be no assurance that
such offering will occur or that we will be able to raise any capital or capital
in amounts we desire, or on terms and conditions acceptable to us.
32
<PAGE> 34
We have no loan commitments.
Even if we receive additional capital, we might not be able to achieve
the level of sales necessary to sustain our operations, and we will incur the
costs of developing and testing the CorRestore(TM) patch before we realize any
revenues from the patch. We might not be able to obtain any funds on terms
acceptable to us and at times required by us through sales of our products,
sales of securities or loans in sufficient quantities. Our Independent Auditors'
Report contains an explanatory paragraph relating to the uncertainty concerning
our ability to continue as a going concern. See "Independent Auditors Report"
accompanying the Financial Statements in Item 8 of this Report.
Our ability to use our accumulated net operating loss carryforwards to
offset future income, if any, for income tax purposes, is limited due to the
initial public offering of our securities in March 1991. See Note 6 of Notes to
Financial Statements included in Item 8 of this Report.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities." This statement, as amended, is effective
for fiscal years beginning after June 15, 2000. This statement establishes
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts, and for hedging activities.
This statement is effective for our financial statements for the year ending
November 30, 2001. We have evaluated all contractual agreements and purchase
order commitments and determined that the adoption of this statement will have
no material impact on our financial statements.
33
<PAGE> 35
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The tables below provide information about our financial instruments
that are sensitive to changes in interest rates, consisting of investments in
corporate bonds and other fixed income securities. For these financial
instruments, the tables present principal cash flows and related weighted
average interest rates by expected maturity dates. Weighted average variable
rates are based on current rates for the applicable period. Weighted average
fixed rates are based on the contract rates. The actual cash flows of all
instruments are denominated in U.S. dollars. We invest our cash on hand not
needed in current operations in fixed income securities generally maturing
within one year from the date of acquisition.
<TABLE>
<CAPTION>
NOVEMBER 30, 2000
EXPECTED MATURITY DATES
2001 2002 2003 2004 2005 THEREAFTER TOTAL FAIR VALUE
---- ---- ---- ---- ---- ---------- ----- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
MARKETABLE SECURITIES:
----------------------
Short-term Debt:
Variable Rate ($)....... -- -- -- -- -- -- -- --
Average interest rate... N/A N/A N/A N/A N/A N/A N/A
</TABLE>
<TABLE>
<CAPTION>
NOVEMBER 30, 1999
EXPECTED MATURITY DATES
2000 2001 2002 2003 2004 THEREAFTER TOTAL FAIR VALUE
---- ---- ---- ---- ---- ---------- ----- ----------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
MARKETABLE SECURITIES:
----------------------
Short-term Debt:
Variable Rate ($)....... $1,000,006 -- -- -- -- -- $1,000,006 $833,736
Average interest rate... 9.09% N/A N/A N/A N/A N/A 9.09%
</TABLE>
During fiscal 2000, we liquidated our investments in corporate bonds
and other fixed income securities to provide cash to finance our operations.
34
<PAGE> 36
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Independent Auditors' Report
To the Board of Directors and Shareholders of
Somanetics Corporation
Troy, Michigan
We have audited the accompanying balance sheets of Somanetics Corporation (the
"Company") as of November 30, 2000 and 1999, and the related statements of
operations, shareholders' equity, and cash flows for each of the three years in
the period ended November 30, 2000. Our audits also included the financial
statement schedule listed in the index at Item 14. These financial statements
and the financial statement schedule are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and the financial statement schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. 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 amounts 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, such financial statements present fairly, in all material
respects, the financial position of the Company at November 30, 2000 and 1999,
and the results of its operations and its cash flows for each of the three years
in the period ended November 30, 2000 in conformity with accounting principles
generally accepted in the United States of America. Also, in our opinion, such
financial statement schedule, when considered in relation to the basic financial
statements taken as a whole, presents fairly in all material respects the
information set forth therein.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed in Note 2 to the
financial statements, conditions exist which raise substantial doubt about the
Company's ability to continue as a going concern. Management's plans concerning
these matters are also described in Note 2. The financial statements do not
include any adjustments that might result from the outcome of these
uncertainties.
/s/ DELOITTE & TOUCHE LLP
-------------------------
DELOITTE & TOUCHE LLP
Detroit, Michigan
January 4, 2001
35
<PAGE> 37
SOMANETICS CORPORATION
BALANCE SHEETS
<TABLE>
<CAPTION>
November 30,
-----------------------------------
2000 1999
------------- -------------
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents (Note 4).......................................... $ 122,299 $ 1,423,423
Marketable Securities (Note 4).............................................. -- 833,736
Accounts receivable, net of allowance for doubtful accounts of
$0 and $0 at November 30, 2000 and November 30, 1999,
respectively............................................................ 1,349,726 764,153
Inventory (Note 4).......................................................... 613,930 611,332
Prepaid expenses............................................................ 83,100 89,702
------------- -------------
Total current assets.................................................... 2,169,055 3,722,346
------------- -------------
PROPERTY AND EQUIPMENT: (Note 4)
Machinery and equipment..................................................... 1,471,114 1,397,214
Furniture and fixtures...................................................... 183,497 183,497
Leasehold improvements...................................................... 165,642 165,642
------------- -------------
Total................................................................... 1,820,253 1,746,353
Less accumulated depreciation and amortization.............................. (1,384,000) (1,097,695)
------------- -------------
Net property and equipment.............................................. 436,253 648,658
------------- -------------
OTHER ASSETS:
Intangible assets, net (Note 4)............................................. 1,038,688 58,393
Other....................................................................... 15,000 15,000
------------- -------------
Total other assets...................................................... 1,053,688 73,393
------------- -------------
TOTAL ASSETS.................................................................... $ 3,658,996 $ 4,444,397
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable............................................................ $ 508,647 $ 498,008
Accrued liabilities (Notes 5 and 7)......................................... 267,184 263,895
------------- -------------
Total current liabilities............................................... 775,831 761,903
------------- -------------
COMMITMENTS AND CONTINGENCIES (Note 7).......................................... -- --
SHAREHOLDERS' EQUITY: (Notes 3 and 11)
Preferred shares; authorized, 1,000,000 shares of $.01 par
value; no shares issued or outstanding.................................. -- --
Common shares; authorized, 20,000,000 shares of $.01 par
value; issued and outstanding, 6,637,087 shares at November 30, 2000,
and 6,035,597 shares at November 30, 1999............................... 66,371 60,356
Additional paid-in capital.................................................. 52,940,540 50,290,067
Accumulated unrealized losses on investments................................ -- (166,270)
Accumulated deficit......................................................... (50,123,746) (46,501,659)
------------- -------------
Total shareholders' equity.............................................. 2,883,165 3,682,494
------------- -------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY...................................... $ 3,658,996 $ 4,444,397
============= =============
</TABLE>
See notes to financial statements
36
<PAGE> 38
SOMANETICS CORPORATION
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
For the Years Ended November 30,
----------------------------------------------------------------
2000 1999 1998
------------------ ------------------ ------------------
<S> <C> <C> <C>
NET REVENUES (Notes 4 and 10)................. $ 5,103,098 $ 4,000,972 $ 2,490,851
COST OF SALES................................. 2,370,205 1,905,541 1,326,160
-------------- -------------- --------------
Gross margin.............................. 2,732,893 2,095,431 1,164,691
-------------- -------------- --------------
OPERATING EXPENSES:
Research, development and engineering
(Note 4).............................. 513,816 598,348 664,874
Selling, general and administrative
(Note 9).............................. 5,933,969 6,435,628 6,346,595
-------------- -------------- --------------
Total operating expenses.............. 6,447,785 7,033,976 7,011,469
-------------- -------------- --------------
OPERATING LOSS................................ (3,714,892) (4,938,545) (5,846,778)
-------------- -------------- --------------
OTHER INCOME:
Interest income........................... 92,805 273,254 368,846
Other..................................... -- -- 8,100
-------------- -------------- --------------
Total other income.................... 92,805 273,254 376,946
-------------- -------------- --------------
NET LOSS...................................... $ (3,622,087) $ (4,665,291) $ (5,469,832)
============== ============== ==============
NET LOSS PER COMMON SHARE --
BASIC AND DILUTED (Note 4)................ $ (.57) $ (.77) $ (1.01)
============== ============== ==============
WEIGHTED AVERAGE NUMBER OF
COMMON SHARES OUTSTANDING
(Note 4).................................. 6,310,109 6,035,597 5,421,795
============== ============== ==============
</TABLE>
See notes to financial statements
37
<PAGE> 39
SOMANETICS CORPORATION
STATEMENTS OF SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
ACCUMULATED
ADDITIONAL UNREALIZED
SHARE PAID-IN ACCUMULATED LOSSES ON
VALUE CAPITAL DEFICIT INVESTMENTS
------------- -------------- -------------- --------------
<S> <C> <C> <C> <C>
Balance at December 1, 1997................. 42,853 41,212,639 (36,366,536)
Exercise of stock options for cash.......... 3 1,345
For cash, less issuance costs of $968,917... 17,500 9,076,083
Net loss.................................... (5,469,832)
Unrealized losses on investments............ (96,262)
Comprehensive income....................
------------- -------------- -------------- --------------
Balance at November 30, 1998................ 60,356 50,290,067 (41,836,368) (96,262)
Net loss.................................... (4,665,291)
Unrealized losses on investments............ (70,008)
Comprehensive income....................
------------- -------------- -------------- --------------
Balance at November 30, 1999................ $ 60,356 $ 50,290,067 $(46,501,659) $ (166,270)
For cash, less issuance costs of $193,619... 6,015 1,600,366
Warrants issued to acquire license, less....
acquisition costs of $46,791............ 1,050,107
Net loss.................................... (3,622,087)
Unrealized losses on investments............ (45,290)
Reclassification of unrealized losses....... 211,560
Comprehensive income....................
------------- -------------- -------------- --------------
Balance at November 30, 2000................ $ 66,371 $ 52,940,540 $(50,123,746) $ --
============= ============== ============== ==============
</TABLE>
<TABLE>
<CAPTION>
TOTAL
SHAREHOLDERS' COMPREHENSIVE
EQUITY INCOME
-------------- --------------
<S> <C> <C>
Balance at December 1, 1997................. 4,888,956
Exercise of stock options for cash.......... 1,348
For cash, less issuance costs of $968,917... 9,093,583
Net loss.................................... (5,469,832) (5,469,832)
Unrealized losses on investments............ (96,262) (96,262)
--------------
Comprehensive income.................... $ (5,566,094)
-------------- ==============
Balance at November 30, 1998................ 8,417,793
Net loss.................................... (4,665,291) (4,665,291)
Unrealized losses on investments............ (70,008) (70,008)
--------------
Comprehensive income.................... $ (4,735,299)
-------------- ==============
Balance at November 30, 1999................ $ 3,682,494
For cash, less issuance costs of $193,619... 1,606,381
Warrants issued to acquire license, less....
acquisition costs of $46,791............ 1,050,107
Net loss.................................... (3,622,087) (3,622,087)
Unrealized losses on investments............ (45,290) (45,290)
Reclassification of unrealized losses....... 211,560 211,560
--------------
Comprehensive income.................... $ (3,455,817)
-------------- ==============
Balance at November 30, 2000................ $ 2,883,165
==============
</TABLE>
See notes to financial statements
38
<PAGE> 40
SOMANETICS CORPORATION
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
For the Years Ended November 30,
------------------------------------------------------------
2000 1999 1998
------------------ ------------------ ------------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.................................................. $ (3,622,087) $ (4,665,291) $ (5,469,832)
Adjustments to reconcile net loss to net
cash used in operations:
Depreciation and amortization......................... 446,962 295,598 176,986
Realized losses on sales of marketable securities..... 210,724 -- --
Changes in assets and liabilities:
Accounts receivable (increase)..................... (585,573) (148,471) (423,984)
Inventory (increase) decrease...................... (2,598) 49,632 (227,950)
Prepaid expenses (increase) decrease............... 6,602 2,348 (20,469)
Other assets (increase) decrease................... (46,789) -- 8,512
Accounts payable increase (decrease)............... 10,639 235,076 (78,568)
Accrued liabilities increase (decrease)............ 3,289 (102,327) (80,754)
--------------- ---------------- ----------------
Net cash (used in) operations......................... (3,578,831) (4,333,435) (6,116,059)
---------------- ---------------- ----------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of marketable securities........................ -- -- (5,013,204)
Proceeds from sale of marketable securities............... 789,282 4,013,198 2,470,780
Acquisition of property and equipment (net)............... (117,956) (233,169) (591,995)
---------------- ---------------- ----------------
Net cash provided by (used in) investing activities... 671,326 3,780,029 (3,134,419)
---------------- ---------------- ----------------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of Common Shares................... 1,606,381 -- 9,094,931
---------------- ---------------- ----------------
Net cash provided by financing activities............. 1,606,381 -- 9,094,931
---------------- ---------------- ----------------
NET (DECREASE) IN CASH AND CASH EQUIVALENTS.................. (1,301,124) (553,406) (155,547)
CASH AND CASH EQUIVALENTS,
BEGINNING OF PERIOD....................................... 1,423,423 1,976,829 2,132,376
---------------- ---------------- ----------------
CASH AND CASH EQUIVALENTS,
END OF PERIOD............................................. $ 122,299 $ 1,423,423 $ 1,976,829
================ ================ ================
Supplemental Disclosure of Non cash investing activities:
Issuance of warrants and stock options in connection
with license acquisition (Note 4)..................... $ 1,050,107
</TABLE>
See notes to financial statements
39
<PAGE> 41
SOMANETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS
1. ORGANIZATION AND OPERATIONS
We are a Michigan corporation that was formed in January 1982. We
develop, manufacture and market the INVOS(R) Cerebral Oximeter, the only
non-invasive patient monitoring system commercially available in the United
States that continuously measures changes in the blood oxygen level in the
brain. The Cerebral Oximeter is based on our proprietary In Vivo Optical
Spectroscopy, or INVOS, technology. INVOS analyzes various characteristics of
human blood and tissue by measuring and analyzing low-intensity visible and
near-infrared light transmitted into portions of the body.
We are also developing the CorRestore(TM) patch, which is being
developed for use in heart surgeries called surgical anterior ventricular
restoration, or SAVR. We entered into a License Agreement as of June 2, 2000
with the inventors and their company, CorRestore LLC. The license grants us
exclusive, worldwide, royalty-bearing licenses to specified rights relating to
the CorRestore(TM) patch and related products and accessories for SAVR, subject
to the terms and conditions of the license agreement (Note 4).
We have incurred expenses in designing, developing, marketing and
selling our products, and in raising capital for our business.
2. FINANCIAL STATEMENT PRESENTATION
We have incurred an accumulated deficit of $50,123,746 through November
30, 2000. We had working capital of $1,393,224, cash and cash equivalents of
$122,299, total current liabilities of $775,831 and shareholders' equity of
$2,883,165, as of November 30, 2000.
On June 6, 1996, we received clearance from the FDA to market our model
3100A Cerebral Oximeter in the United States, and on October 13, 1997, we
received clearance from the FDA to market enhancements to our Cerebral Oximeter
in the United States. On September 15, 2000, we received FDA clearance to market
our model 5100 Cerebral Oximeter in the United States. The model 5100 has the
added capability of being able to monitor pediatric patients. Our current
financial condition and results of operations and the status of our product
marketing efforts and sales have been affected by the process of obtaining such
clearances.
As of January 2, 2001, we had seven international distributors for the
model 4100 Cerebral Oximeter, three international distributors for the model
5100 Cerebral Oximeter, 12 direct sales personnel, four clinical specialists,
and one international sales consultant. During fiscal 2000, we sold our product
to 19 of our international distributors and devoted most of our marketing to
continuing to introduce cerebral oximetry patient monitoring into the operating
rooms of hospitals. There can be no assurance that we will be successful or
profitable in marketing the Cerebral Oximeter and the related SomaSensor.
We believe that markets exist for the products we have developed and
are developing; however, whether our products will be successful is uncertain.
You should consider the following factors in evaluating the likelihood of our
success: our limited resources and current financial condition, the problems and
expenses frequently encountered by companies forming a new business, our ability
to develop, apply and market new technology, and our industry and competitive
environment.
The net proceeds from our public offering of common shares in April
1998 (Note 3) and the net proceeds from the sales of common shares to
Kingsbridge Capital Limited during fiscal 2000 (Note 3) were sufficient to fund
our working capital requirements for the fiscal year ended November 30, 2000.
We believe that the cash and cash equivalents on hand at November 30,
2000, together with the estimated net proceeds from the sales of the then
remaining 398,510 common shares over time to Kingsbridge Capital Limited
pursuant to the Private Equity Line Agreement (Note 3) based on current market
prices, will be adequate to satisfy our operating and capital requirements
through February 2001. By that time we will be required to raise additional cash
either through additional sales of our products, through sales of securities, by
incurring indebtedness or by some combination of these alternatives. If we are
unable to raise additional cash by that time, we will be required to reduce or
discontinue our operations.
40
<PAGE> 42
SOMANETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
The estimated length of time current cash and cash equivalents will
sustain our operations is based on estimates and assumptions we have made. These
estimates and assumptions are subject to change as a result of actual
experience. Changes in the market price or trading volume of our common shares
could reduce the proceeds we receive for selling those common shares under the
Private Equity Line Agreement, decrease the number of shares we can sell in a
particular period or both. Actual capital requirements necessary to market the
Cerebral Oximeter and SomaSensor, to develop and test the CorRestore(TM) patch,
to undertake other product development activities, and for working capital might
be substantially greater than current estimates.
We do not believe that product sales will be sufficient to fund our
operations in fiscal 2001.
We are a party to the Private Equity Line Agreement described in Note
3. As of November 30, 2000, we may sell up to an aggregate of $13,200,000 more
of our common shares under the Private Equity Line Agreement. However, we must
obtain shareholder approval and register under the Securities Act of 1933 any
common shares we sell pursuant to the Private Equity Line Agreement beyond the
then remaining 398,510 already registered common shares. We are seeking
shareholder approval at the 2001 Annual Meeting of Shareholders to issue up to
3,000,000 common shares pursuant to this arrangement, including the common
shares already issued.
We are considering various capital-raising alternatives, including a
private placement or public offering of newly-issued debt or equity securities.
Final terms and conditions of any offering may be subject to, among other
things, the satisfactory completion by an underwriter or placement agent of such
inquiry and investigation of the transaction and of us as they may deem
appropriate, and a determination that there has been no material adverse change
in the conditions in the markets for the offering or the financial markets
generally. In addition, the type and amount of securities, if any, that might
ultimately be issued in any such offering have not yet been determined and will
be dependent on negotiations with the underwriter, any private placement
investor, market conditions and our then current estimate of the proceeds
necessary or desired to sustain our operations. There can be no assurance that
such offering will occur or that we will be able to raise any capital or capital
in amounts we desire, or on terms and conditions acceptable to us.
We have no loan commitments.
Even if we receive additional capital, we might not be able to achieve
the level of sales necessary to sustain our operations, and we will incur the
costs of developing and testing the CorRestore(TM) patch before we realize any
revenues from the patch. We might not be able to obtain any funds on terms
acceptable to us and at times required by us through sales of our products,
sales of securities or loans in sufficient quantities.
These factors, among others, raise substantial doubt about our ability
to continue as a going concern. The financial statements do not include any
adjustments relating to the recoverability and classification of asset carrying
amounts or the amount and classification of liabilities that might be necessary
should we be unable to continue as a going concern.
3. STOCK OFFERINGS AND COMMON SHARES
As of November 30, 2000, we had 55,120 redeemable warrants outstanding
exercisable at $17.50 per share until April 1, 2001. These warrants were issued
in our April 1996 Regulation S securities offering. The conditions permitting us
to redeem these warrants have not been met as of January 2, 2001. In addition,
the placement agents in that offering and their transferees hold warrants to
purchase 11,424 common shares exercisable at $12.50 per share until April 1,
2001. Also, the underwriter of the June 1997 public offering and its transferees
received warrants to purchase 200,000 common shares exercisable at $4.80 per
share until May 29, 2002. In addition, Kingsbridge Capital Limited received
warrants to purchase 200,000 common shares exercisable at $4.36 per share until
September 3, 2005 pursuant to the Private Equity Line Agreement described below.
Also, CorRestore, LLC and its agent, Wolfe & Company, received warrants to
purchase 400,000 common shares exercisable at $3.00 per share until June 2, 2005
pursuant to the CorRestore(TM) license agreement, and, subject to shareholder
approval, when specified events occur we agreed to issue them five-year warrants
to purchase an additional 2,100,000 common shares
41
<PAGE> 43
SOMANETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
exercisable at $3.00 per share pursuant to the CorRestore(TM) license agreement.
It is unlikely that these warrants will be exercised if the exercise price
exceeds the market price of the common shares.
On April 8, 1998, we completed the public offering of 1,750,000
newly-issued common shares at a price of $5.75 per share, for gross proceeds of
$10,062,500, through an offering underwritten by Brean Murray & Co., Inc. Our
net proceeds, after deducting the underwriting discount and the estimated
expenses of the offering, were approximately $9,100,000.
On March 6, 2000, we entered into the Private Equity Line Agreement
with Kingsbridge Capital Limited, a private institutional investor. Pursuant to
the Private Equity Line Agreement we may issue and sell, from time to time,
common shares for cash consideration up to an aggregate of $15 million. As
required by the Private Equity Line Agreement, we have filed a registration
statement to permit Kingsbridge to resell to the public 1,000,000 of the shares
that we sell to it pursuant to the Private Equity Line Agreement. Until March
31, 2002, we may sell, or "put," common shares to Kingsbridge from time to time
in amounts and at times we select at our discretion, subject to specific
restrictions set forth in the Private Equity Line Agreement. The price for these
sales is between 86% and 90% of the then current average market price of our
common shares. The actual percentage will depend on an average market price of
our common shares. In addition, we must pay Brean Murray & Co., Inc. a 3.5%
commission in connection with these sales. We must also pay additional expenses
in connection with these sales. We are not permitted to sell more than 19.9% of
our outstanding common shares pursuant to this arrangement unless we first
obtain shareholder approval under The Nasdaq SmallCap Market rules.
As of November 30, 2000, we may sell up to an aggregate of $13,200,000
more of our common shares under the Private Equity Line Agreement. However, we
must obtain shareholder approval and register under the Securities Act of 1933
any common shares we sell pursuant to the Private Equity Line Agreement beyond
the then remaining 398,510 already registered common shares.
We have completed the following sales of common shares under the
Private Equity Line Agreement:
- On April 13, 2000, we completed the sale of 167,131 common shares
to Kingsbridge, at a price of $3.59 per share, for gross proceeds
of $600,000.
- On May 11, 2000, we completed the sale of 148,148 common shares to
Kingsbridge, at a price of $2.70 per share, for gross proceeds of
$400,000.
- On June 22, 2000, we completed the sale of 177,515 common shares
to Kingsbridge, at a price of $3.38 per share, for gross proceeds
of $600,000.
- On November 3, 2000, we completed the sale of 108,696 common
shares to Kingsbridge, at a price of $1.84 per share, for gross
proceeds of $200,000.
Our net proceeds, after deducting the commissions and the estimated expenses of
the offerings, were approximately $1,606,000.
Common shares reserved for future issuance upon exercise of stock
options and warrants as discussed above at November 30, 2000, are as follows:
<TABLE>
<S> <C>
1983 Stock Option Plan........................................ 9,317
1991 Incentive Stock Option Plan.............................. 110,289
1993 Director Stock Option Plan............................... 2,498
1997 Stock Option Plan........................................ 1,334,800
Options Granted Independent of Option Plans................... 163,578
Placement Agent Warrants...................................... 11,424
Regulation S Warrants......................................... 55,120
Underwriter Warrants.......................................... 200,000
Kingsbridge Capital Limited Warrants.......................... 200,000
License Acquisition Warrants.................................. 400,000
-----------
Total reserved for future issuance................... 2,487,026
===========
</TABLE>
42
<PAGE> 44
SOMANETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
4. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Cash Equivalents consist of short-term, interest-bearing investments
maturing within three months of our acquisition of them.
Marketable Securities consist of lower rated, fixed income securities,
classified as available for sale, maturing approximately six months to one year
from the date of acquisition and are stated at fair market value.
Inventory is stated at the lower of cost or market on a first-in,
first-out (FIFO) basis. Inventory consists of:
<TABLE>
<CAPTION>
NOVEMBER 30,
-------------------------------------
2000 1999
-------------- --------------
<S> <C> <C>
Finished goods..................................... $ 36,374 $ 107,820
Work in process.................................... 124,127 38,682
Purchased components............................... 453,429 464,830
----------- -----------
Total....................................... $ 613,930 $ 611,332
=========== ===========
</TABLE>
Property and Equipment are stated at cost. Depreciation and
amortization are computed using the straight-line method over the estimated
useful lives of the assets, which range from two to five years.
Intangible Assets consist of patents and trademarks, and license
acquisition costs. Patents and trademarks are recorded at cost and are being
amortized on the straight-line method over 17 years. License acquisition costs
are related to our acquisition of exclusive, worldwide, royalty-bearing licenses
to specified rights relating to the CorRestore(TM) patch and related products
and accessories and consulting services.
We entered into a License Agreement as of June 2, 2000 with the
inventors and their company, CorRestore LLC. The license grants us exclusive,
worldwide, royalty-bearing licenses to specified rights relating to the
CorRestore(TM) patch and related products and accessories for SAVR, subject to
the terms and conditions of the license agreement. Pursuant to the license
agreement, CorRestore LLC has agreed to provide various consulting services to
us. We have agreed to pay all of the expenses of such consultation, of clinical
testing of the CorRestore(TM) patch, training doctors in SAVR and training our
personnel and customers in the use of the CorRestore(TM) patch.
In exchange for the licenses and consulting services, we agreed to the
following compensation for CorRestore LLC and its agent, Wolfe & Company: (1) a
royalty of 10% of our "net sales" of products subject to the licenses, (2)
five-year warrants to purchase up to 400,000 Common Shares at $3.00 a share,
exercisable to purchase 300,000 shares immediately and to purchase an additional
50,000 shares upon our receipt of clearance or approval from the FDA to market
the CorRestore(TM) patch in the United States and another 50,000 shares upon our
receipt of CE certification for the CorRestore(TM) patch, (3) additional
five-year warrants to purchase up to 2,100,000 common shares at $3.00 a share,
to be granted, subject to shareholder approval, when we receive clearance or
approval from the FDA to market the CorRestore(TM) patch in the United States,
exercisable based on our cumulative net sales of the CorRestore(TM) patch
products, and (4) a consulting fee of $25,000 a year to each of the inventors
until we sell 1,000 CorRestore(TM) patches.
43
<PAGE> 45
SOMANETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
License acquisition costs consist of professional service fees recorded
at cost, our estimate of the fair value of the ten-year vested stock options to
purchase 50,000 common shares at $3.00 a share granted to one of our directors
in connection with the transaction, and our estimate of the fair value of the
300,000 common share vested portion of the five-year warrants to purchase up to
400,000 common shares at $3.00 a share issued in the transaction. These costs
are being amortized on the straight-line method over 5 years. Intangible assets
consist of:
<TABLE>
<CAPTION>
NOVEMBER 30,
-------------------------------------
2000 1999
-------------- --------------
<S> <C> <C>
License acquisition costs.......................... $ 1,096,898 $ --
Patents and trademarks............................. 111,733 111,733
----------- -----------
Sub-total..................................... 1,208,631 111,733
Less accumulated amortization...................... (169,943) (53,340)
----------- -----------
Total......................................... $ 1,038,688 $ 58,393
=========== ===========
</TABLE>
Amortization expense was $116,602 for the fiscal year ended November 30, 2000,
$6,912 for the fiscal year ended November 30, 1999, and $6,912 for the fiscal
year ended November 30, 1998.
Revenue Recognition occurs upon shipment to customers.
Research, Development and Engineering costs are expensed as incurred.
Loss Per Common Share - basic and diluted is computed using the
weighted average number of common shares outstanding during each period. Common
shares issuable under stock options and warrants have not been included in the
computation of net loss per common share - diluted, because such inclusion would
be antidilutive. As of November 30, 2000, we had outstanding 2,261,081 warrants
and options to purchase common shares, and as of November 30, 1999, we had
outstanding 1,568,481 warrants and options to purchase common shares.
Accounting Pronouncements In June 1998, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards No. 133,
"Accounting for Derivative Instruments and Hedging Activities." This statement,
as amended, is effective for fiscal years beginning after June 15, 2000. This
statement establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. This statement is effective for our
financial statements for the year ending November 30, 2001. We have evaluated
all contractual agreements and purchase order commitments and determined that
the adoption of this statement will have no material impact on our financial
statements.
Use Of Estimates The preparation of financial statements in conformity
with generally accepted accounting principles requires us to make estimates and
assumptions that affect the reported amounts of assets and liabilities, the
disclosure of contingent assets and liabilities, and the reported amounts of
revenues and expenses for each fiscal period. Actual results could differ from
those estimated.
Reclassifications - Certain reclassifications have been made to the
financial statements for 1999 and 1998 to conform to the 2000 presentation.
44
<PAGE> 46
SOMANETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
5. ACCRUED LIABILITIES
Accrued liabilities consist of the following:
<TABLE>
<CAPTION>
NOVEMBER 30,
-------------------------------------
2000 1999
-------------- --------------
<S> <C> <C>
Accrued Sales Commissions.......................... $ 117,045 $ 133,863
Professional Fees.................................. 94,000 88,250
Accrued Insurance.................................. 24,361 20,082
Accrued Warranty................................... 7,000 11,700
Accrued Incentive.................................. 17,500 --
Other.............................................. 7,278 10,000
----------- -----------
Total......................................... $ 267,184 $ 263,895
=========== ===========
</TABLE>
6. INCOME TAX
Deferred income taxes reflect the estimated future tax effect of (1)
temporary differences between the amount of assets and liabilities for financial
reporting purposes and such amounts as measured by tax laws and regulations and
(2) net operating loss and tax credit carryforwards. Our deferred tax assets
primarily represent the tax benefit of net operating loss carryforwards and
research and general business tax credit carryforwards. We had deferred tax
assets of approximately $16,734,000 and $15,646,000 for the years ended November
30, 2000 and 1999, respectively, which were entirely offset by valuation
allowances, due to the uncertainty of utilizing such assets against future
earnings, prior to their expiration. The components of deferred income tax
assets as of November 30, 2000 and 1999 were as follows:
<TABLE>
<CAPTION>
NOVEMBER 30,
-------------------------------------
2000 1999
-------------- --------------
(IN THOUSANDS)
<S> <C> <C>
Net operating loss carryforwards................... $ 16,401 $ 15,289
Accrued liabilities................................ 36 37
Basis difference of fixed assets................... (90) (30)
Research and general business tax credit
carryforwards...................................... 387 350
----------- -----------
Subtotal..................................... 16,734 15,646
Valuation allowance................................ (16,734) (15,646)
----------- -----------
Deferred tax asset........................... $ -- $ --
=========== ===========
</TABLE>
As of November 30, 2000, net operating loss carryforwards of
approximately $48.0 million were available for Federal income tax purposes. Our
ability to use the net operating loss carryforwards incurred on or before March
27, 1991 (the date we completed our initial public offering) is limited to
approximately $296,000 per year. Research and business general tax credits of
$387,000 are also available to offset future taxes. These losses and credits
expire, if unused, at various dates from 2000 through 2020.
Use of our net operating loss carryforwards, tax credit carryforwards
and certain future deductions could be restricted, in the event of future
changes in our equity structure, by provisions contained in the Tax Reform Act
of 1986.
7. COMMITMENTS AND CONTINGENCIES
On September 10, 1991 we entered into a lease agreement for a 23,392
square foot, stand-alone office, assembly and warehouse facility. The current
lease, as amended, expires December 31, 2003.
45
<PAGE> 47
SOMANETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
Operating and building lease expense for the years ended November 30,
2000, 1999 and 1998 was approximately $182,000, $184,000, and $184,600,
respectively. Approximate future minimum lease commitments are as follows:
<TABLE>
<CAPTION>
YEAR ENDED NOVEMBER 30,
-----------------------
<S> <C>
2001.................................... $ 192,700
2002.................................... $ 197,700
2003.................................... $ 201,700
2004.................................... 16,800
------------
Total................................... $ 608,900
============
</TABLE>
In December 1991, we amended and restated our profit sharing plan to
include a 401(k) plan covering substantially all employees. Under provisions of
the plan, participants may contribute, annually, between 1% and 15% of their
compensation. At the discretion of our Board of Directors, we may contribute
matching contributions or make other annual discretionary contributions to the
plan, all of which, together with the participants' contributions, cannot exceed
15% of the total compensation we pay to eligible employees. We did not make any
matching or discretionary contributions to the plan for the years ended November
30, 2000, 1999 or 1998.
As of November 30, 2000, we had an employment agreement with Bruce J.
Barrett, our President and Chief Executive Officer. Mr. Barrett's employment
agreement, as amended, expires April 30, 2003 unless earlier terminated as
provided in the agreement. Mr. Barrett is entitled to receive an annual base
salary, plus potential discretionary bonuses. Mr. Barrett has agreed not to
compete with us during specified periods.
We may become subject to products liability claims by patients or
physicians, and may become a defendant in products liability or malpractice
litigation. We have obtained products liability insurance and an umbrella
policy; however, we might not be able to maintain such insurance or such
insurance might not be sufficient to protect us against products liability.
8. STOCK OPTION PLANS
In January 1983, February 1991, and January 1997, we adopted stock
option plans for our key management employees, directors, consultants and
advisors. The plans provide for our issuance of options to purchase a maximum of
15,668 common shares under the 1983 plan, 115,000 common shares under the 1991
plan, and 1,335,000 common shares under the 1997 plan. In addition, we granted
options to employees independent of the plans. Awards and expirations under the
1983 plan, 1991 plan, 1997 plan, and independent of the plans during the years
ended November 30, 2000, 1999 and 1998 are listed below.
At November 30, 2000, no additional options may be granted under the
1983 plan, 14,667 common shares were available for options to be granted under
the 1991 plan, and 211,278 common shares were available under the 1997 plan.
In January 1993, we adopted the Somanetics Corporation 1993 Director
Stock Option Plan. The directors plan provided up to 24,000 common shares for
the grant of options to each director who was not one of our officers or
employees. In January 1998, our Board of Directors terminated the directors
plan, except as to options previously granted under the directors plan.
Therefore, no additional options may be granted under the directors plan.
In October 1995, SFAS No. 123, "Accounting for Stock-Based
Compensation," was issued. We have chosen to continue to account for stock-based
compensation using the intrinsic value method prescribed in Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and
related interpretations. Accordingly, compensation costs for stock options are
measured as the excess, if any, of the market price of our stock at the date of
the grant over the amount an employee must pay to acquire the stock. No
compensation expense has been charged against income for stock option grants.
Had compensation expense for our stock options been determined based on
the fair value of the options on the grant date pursuant to the methodology of
SFAS No. 123, our net loss on a pro forma basis would have increased
46
<PAGE> 48
SOMANETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
by approximately $495,000 to $(4,117,000),or $(.65) per common share, for fiscal
2000, increased by approximately $571,000 to $(5,236,000), or $(.87) per common
share, for fiscal 1999, and increased by approximately $1,589,000 to
$(7,059,000), or $(1.30) per common share, for fiscal 1998. The fair value of
each option grant is estimated on the date of grant using the Black-Scholes
option-pricing model with the following weighted-average assumptions used for
2000, 1999 and 1998: expected volatility (the measure by which the stock price
has fluctuated or is expected to fluctuate during the period) 109.94% for 2000
(95.05% for 1999 and 72.34% for 1998), risk-free interest rate of 6.0% for 2000
(6.5% for 1999 and 5% for 1998), expected lives of 4 years and dividend yield of
0%.
A summary of our stock option activity and related information for
years ended November 30, 2000, 1999 and 1998 follows:
<TABLE>
<CAPTION>
2000 1999 1998
-------------------------- --------------------------- ---------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
COMMON EXERCISE COMMON EXERCISE COMMON EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
---------- ----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C> <C>
Options outstanding
December 1,............ 1,226,537 $ 6.16 998,737 $ 6.81 554,917 $ 8.23
Options granted........ 236,000 3.24 242,900 3.38 476,122 5.82
Options exercised...... -- -- -- -- (263) 4.75
Options canceled....... (68,000) 4.65 (15,100) 4.62 (32,039) 16.68
---------- --------- ----------- --------- ----------- --------
Options outstanding
November 30, (1) (2)... 1,394,537 5.74 1,226,537 6.16 998,737 6.81
========== ========= =========== ========= =========== ========
Options exercisable
November 30,........... 958,152 $ 6.66 585,952 $ 8.03 356,589 $ 9.70
========== ========= =========== ========= =========== ========
</TABLE>
---------------------------
(1) Exercise dates range from February 21, 1991 to May 31, 2010.
(2) As of November 30, 2000, options outstanding have exercise prices
between $1.44 and $42.50, and a weighted average remaining contractual
life of 7.05 years.
Also, see Note 11 for approval of an amendment to the 1997 plan.
9. RELATED PARTY TRANSACTIONS
We received legal services from certain shareholders. Services from
such parties amounted to approximately $211,600 during the year ended November
30, 2000, $160,400 during the year ended November 30, 1999, and $195,500 during
the year ended November 30, 1998.
Brean Murray & Co., Inc. was the underwriter of our public offering of
common shares in April 1998.
We paid a non-refundable fee of $50,000 to Brean Murray & Co., Inc.
during fiscal 1999 for financial advisory services.
Pursuant to an engagement letter between us and Brean Murray & Co.,
Inc., dated March 1, 2000, we agreed to pay Brean Murray & Co., Inc. a
commission of 3.5% on proceeds of specified securities sales, including sales
pursuant to the Kingsbridge Capital Limited Private Equity Line Agreement.
During fiscal 2000, we paid Brean Murray & Co., Inc. $63,000 in commissions
pursuant to this engagement letter.
Also, during fiscal 2000, we granted A. Brean Murray (1) a 10-year
option to purchase 50,000 common shares on May 31, 2000, exercisable at $3.00 a
share, which was more than the fair market value of the common shares on the
date of grant, in connection with our CorRestore(TM) licenses, and (2) a 10-year
option to purchase 50,000 common shares on May 31, 2000, exercisable at $4.36 a
share, which was more than the fair market value of
47
<PAGE> 49
SOMANETICS CORPORATION
NOTES TO FINANCIAL STATEMENTS - (CONTINUED)
the common shares on the date of grant, in connection with the Kingsbridge
Capital Limited Private Equity Line Agreement.
10. MAJOR CUSTOMERS AND FOREIGN SALES
Two international distributors accounted for approximately 23% (Europe)
and 11% (Japan), respectively, of net revenues for the fiscal year ended
November 30, 2000, one international distributor accounted for approximately 23%
(Japan) of net revenues for the fiscal year ended November 30, 1999, and one
United States distributor accounted for approximately 10% of net revenues for
the fiscal year ended November 30, 1998 (this relationship was terminated in the
third quarter of fiscal 1998 as part of our planned expansion of the direct
sales force within the United States).
Additionally, net revenues from foreign customers for the fiscal year
ended November 30, 2000 was approximately $2,265,000, for the fiscal year ended
November 30,1999 was approximately $1,632,000, and for the fiscal year ended
November 30, 1998 was approximately $959,000.
11. SUBSEQUENT EVENTS
Effective December 4, 2000, we granted 10-year options under the 1997
Stock Option Plan to purchase 195,000 common shares to 27 of our key employees
(including officers) and one of our consultants at an exercise price of $1.97
per share (the closing sale price of the common shares as of the date of grant).
On December 4, 2000, our Board of Directors approved an amendment to
the Somanetics Corporation 1997 Stock Option Plan to increase the number of
common shares reserved for issuance pursuant to the exercise of options granted
under the 1997 plan by 325,000 shares, from 1,335,000 to 1,660,000 shares,
subject to shareholder approval at the 2001 Annual Meeting of Shareholders.
Also on December 4, 2000, our Board of Directors authorized us to seek
shareholder approval at the 2001 Annual Meeting of Shareholders to issue up to
3,000,000 common shares pursuant to the Private Equity Line Agreement, including
the common shares already issued. Our Board of Directors also authorized us to
seek shareholder approval at our 2001 Annual Meeting of Shareholders for the
issuance of warrants to purchase 2,100,000 common shares to CorRestore LLC under
specified circumstances pursuant to our CorRestore(TM) license agreement and to
issue the underlying shares upon exercise of those warrants.
On December 4, 2000, we completed the sale of 112,994 common shares to
Kingsbridge, at a price of $1.77 per share, for gross proceeds of $200,000.
48
<PAGE> 50
QUARTERLY INFORMATION (UNAUDITED)
The following is a summary of our quarterly operating results for the
fiscal years ended November 30, 2000 and 1999:
<TABLE>
<CAPTION>
QUARTER
-------------------------------------------------------------------------------
FIRST SECOND THIRD FOURTH
-------------- -------------- -------------- --------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
YEAR ENDED NOVEMBER 30, 2000
----------------------------
Net revenues............... $1,037,615 $1,430,066 $1,006,408 $1,629,009
Gross margin............... 544,256 711,597 584,929 892,111
Net loss................... (885,928) (922,885) (995,187) (818,087)
Net loss per common
share -basic and
diluted................ $(0.15) $(0.15) $(0.15) $(0.12)
YEAR ENDED NOVEMBER 30, 1999
----------------------------
Net revenues............... $910,739 $1,041,479 $877,346 $1,171,408
Gross margin............... 463,650 522,620 419,251 689,910
Net loss................... (1,184,328) (1,265,587) (1,035,091) (1,180,285)
Net loss per common
share -basic and
diluted................ $(0.20) $(0.21) $(0.17) $(0.20)
</TABLE>
49
<PAGE> 51
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
NONE
50
<PAGE> 52
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item 10 regarding our executive officers
is included in the Supplemental Item in Part I of this Report, and is
incorporated in this Item 10 by reference. The information required by this Item
10 regarding our directors will be set forth under the caption "Election of
Directors" in our Proxy Statement in connection with the 2001 Annual Meeting of
Shareholders scheduled to be held February 22, 2001, and is incorporated in this
Item 10 by reference. The information required by this Item 10 concerning
compliance with Section 16(a) of the Securities Exchange Act of 1934 will be set
forth under the caption "Section 16(a) Beneficial Ownership Reporting
Compliance" in our Proxy Statement in connection with the 2001 Annual Meeting of
Shareholders scheduled to be held February 22, 2001, and is incorporated in this
Item 10 by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this Item 11 concerning executive compensation
will be set forth under the caption "Executive Compensation" in our Proxy
Statement in connection with the 2001 Annual Meeting of Shareholders scheduled
to be held February 22, 2001, and is incorporated in this Item 11 by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item 12 concerning security ownership of
certain beneficial owners and management will be set forth under the captions
"Voting Securities and Principal Holders" and "Election of Directors" in our
Proxy Statement in connection with the 2001 Annual Meeting of Shareholders
scheduled to be held February 22, 2001, and is incorporated in this Item 12 by
reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item 13 concerning certain relationships
and related transactions, if any, will be set forth under the caption "Certain
Transactions" or "Compensation Committee Interlocks and Insider Participation"
in our Proxy Statement in connection with the 2001 Annual Meeting of
Shareholders scheduled to be held February 22, 2001, and is incorporated in this
Item 13 by reference.
51
<PAGE> 53
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) (1) Financial Statements
Our financial statements for the following years are included in
response to Item 8 of this Report:
Independent Auditors' Report
Balance Sheets - November 30, 2000 and 1999
Statements of Operations - For Each of the Three Years in the
Period Ended November 30, 2000
Statements of Shareholders' Equity - For Each of the Three
Years in the Period Ended November 30, 2000
Statements of Cash Flows - For Each of the Three Years in the
Period Ended November 30, 2000
Notes to Financial Statements
(2) Financial Statement Schedule
The following financial statement schedule is included in
response to Item 8 of this Report:
Schedule II - Valuation and Qualifying Accounts and Reserves for the
Years Ended November 30, 2000, 1999 and 1998.
(3) Exhibits
The Exhibits to this Report are as set forth in the "Index to
Exhibits" on pages 55 to 58 of this Report. Each management
contract or compensatory plan or arrangement filed as an
exhibit to this Report is identified in the "Index to
Exhibits" with an asterisk before the exhibit number.
(b) Reports on Form 8-K
No reports on Form 8-K were filed by us during the fourth quarter of
the fiscal year ended November 30, 2000.
52
<PAGE> 54
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
FOR THE YEARS ENDED NOVEMBER 30, 2000, 1999 AND 1998
<TABLE>
<CAPTION>
COLUMN B COLUMN C COLUMN D COLUMN E
-------- -------------------------- -------- --------
ADDITIONS
--------------------------
(2) CHARGED TO
BALANCE AT CHARGED TO OTHER (1)(3) BALANCE AT
BEGINNING COSTS AND ACCOUNTS, DEDUCTIONS, END OF
OF PERIOD EXPENSES DESCRIBE DESCRIBE PERIOD
--------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Allowance for doubtful accounts:
Year ended November 30, 2000 $ -- $ -- -- $ -- $--
Year ended November 30, 1999 152,602 -- -- 152,602 --
Year ended November 30, 1998 165,990 4,319 -- 17,707 152,602
Note: (1) Write-off uncollectible accounts, net of recoveries
Note: (2) Reserve of additional uncollectible accounts, net of recoveries
Inventory reserve for obsolescence:
Year ended November 30, 2000 $ -- $ -- -- $ -- $--
Year ended November 30, 1999 138,224 1,199 -- 139,423 --
Year ended November 30, 1998 356,298 40,817 -- 258,891 138,224
Note: (3) Write-off obsolete, excess inventory, net of recoveries
</TABLE>
53
<PAGE> 55
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.
Somanetics Corporation
Date: January 12, 2001 By: /s/ Bruce J. Barrett
---------------------
Bruce J. Barrett
President & Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
--------- ----- ----
<S> <C> <C>
/s/ Bruce J. Barrett President and Chief Executive Officer January 12, 2001
---------------------- and a Director (Principal Executive
Bruce J. Barrett Officer)
/s/ H. Raymond Wallace Chairman of the Board of Directors January 12, 2001
------------------------
H. Raymond Wallace
/s/ William M. Iacona Vice President, Finance, Controller, January 12, 2001
----------------------- and Treasurer (Principal Financial
William M. Iacona Officer and Principal Accounting
Officer)
/s/ Daniel S. Follis Director January 12, 2001
----------------------
Daniel S. Follis
/s/ James I. Ausman Director January 12, 2001
---------------------
James I. Ausman, M.D., Ph.D.
/s/ Robert R. Henry Director January 12, 2001
---------------------
Robert R. Henry
/s/ A. Brean Murray Director January 12, 2001
---------------------
A. Brean Murray
</TABLE>
54
<PAGE> 56
EXHIBIT INDEX
EXHIBIT DESCRIPTION
3(i) Restated Articles of Incorporation of Somanetics
Corporation, incorporated by reference to Exhibit 3(i) to
the Company's Quarterly Report on Form 10-Q for the
quarter ended February 28, 1998.
3(ii) Amended and Restated Bylaws of Somanetics Corporation,
incorporated by reference to Exhibit 4.1 to the Company's
Registration Statement on Form S-8 filed with the
Securities and Exchange Commission on June 16, 1995.
10.1 Lease Agreement, dated September 10, 1991, between
Somanetics Corporation and WS Development Company,
incorporated by reference to Exhibit 10.3 to the
Company's Quarterly Report on Form 10-Q for the quarter
ended August 31, 1991.
10.2 Extension of Lease, between Somanetics Corporation and WS
Development Company, dated July 22, 1994, incorporated by
reference to Exhibit 10.11 to the Company's Quarterly
Report on Form 10-Q for the quarter ended August 31,
1994.
10.3 Change in ownership of Lease Agreement for 1653 E. Maple
Road, Troy, MI 48083, dated September 12, 1994, between
Somanetics Corporation and First Industrial, L.P.,
incorporated by reference to Exhibit 10.12 to the
Company's Quarterly Report on Form 10-Q for the quarter
ended August 31, 1994.
10.4 Second Addendum, between Somanetics Corporation and First
Industrial Mortgage Partnership, L.P., dated April 14,
1997, incorporated by reference to Exhibit 10.1 to the
Company's Quarterly Report on Form 10-Q for the quarter
ended May 31, 1997.
10.5 Third Amendment, between Somanetics Corporation and First
Industrial Mortgage Partnership, L.P., dated April 23,
1999, incorporated by reference to Exhibit 10.2 to the
Company's Quarterly Report on Form 10-Q for the quarter
ended May 31, 1999.
10.6 Fourth Amendment, between Somanetics Corporation and
First Industrial Mortgage Partnership, L.P., dated
April 13, 2000, incorporated by reference to Exhibit 10.1
to the Company's Quarterly Report on Form 10-Q for the
quarter ended May 31, 2000.
*10.7 Somanetics Corporation Amended and Restated 1983 Stock
Option Plan, incorporated by reference to Exhibit 10.4 to
the Company's Annual Report on Form 10-K for the fiscal
year ended November 30, 1991.
*10.8 Somanetics Corporation Amended and Restated 1991
Incentive Stock Option Plan, incorporated by reference to
Exhibit 10.5 to the Company's Annual Report on Form 10-K
for the fiscal year ended November 30, 1991.
*10.9 Fourth Amendment to Somanetics Corporation 1991 Incentive
Stock Option Plan, incorporated by reference to Exhibit
10.7 to the Company's Annual Report on Form 10-K for the
fiscal year ended November 30, 1992.
*10.10 Amended and Restated Fifth Amendment to Somanetics
Corporation 1991 Incentive Stock Option Plan,
incorporated by reference to Exhibit 10.10 to the
Company's Annual Report on Form 10-K for the fiscal year
ended November 30, 1995.
*10.11 Somanetics Corporation 1993 Director Stock Option Plan,
incorporated by reference to Exhibit 10.8 to the
Company's Annual Report on Form 10-K for the fiscal year
ended November 30, 1992.
*10.12 Somanetics Corporation 1997 Stock Option Plan,
incorporated by reference to Exhibit 10.9 to the
Company's Annual Report on Form 10-K for the fiscal year
ended November 30, 1996.
*10.13 First Amendment to Somanetics Corporation 1997 Stock
Option Plan, incorporated by reference to Exhibit 10.11
to the Company's Annual Report on Form 10-K for the
fiscal year ended November 30, 1997.
*10.14 Second Amendment to Somanetics Corporation 1997 Stock
Option Plan, incorporated by reference to Exhibit 10.12
to the Company's Annual Report on Form 10-K for the
fiscal year ended November 30, 1998.
*10.15 Third Amendment to Somanetics Corporation 1997 Stock
Option Plan, incorporated by reference to Exhibit 10.14
to the Company's Annual Report on Form 10-K for the
fiscal year ended November 30, 1999.
*10.16 Fourth Amendment to Somanetics Corporation 1997 Stock
Option Plan.
55
<PAGE> 57
EXHIBIT INDEX
EXHIBIT DESCRIPTION
*10.17 Somanetics Corporation 2000 Employee Incentive
Compensation Plan, incorporated by reference to Exhibit
10.16 to the Company's Annual Report on Form 10-K for the
fiscal year ended November 30, 1999.
*10.18 Somanetics Corporation 2001 Employee Incentive
Compensation Plan.
*10.19 Employment Agreement, dated as of December 1, 1992,
between Somanetics Corporation and Raymond W. Gunn,
incorporated by reference to Exhibit 10.14 to the
Company's Annual Report on Form 10-K for the fiscal year
ended November 30, 1992.
*10.20 Employment Agreement, dated May 13, 1994, between
Somanetics Corporation and Bruce J. Barrett, incorporated
by reference to Exhibit 10.1 to the Company's Quarterly
Report on Form 10-Q for the quarter ended May 31, 1994.
*10.21 Amendment to Employment Agreement, dated as of February
23, 1994, between Somanetics Corporation and Raymond W.
Gunn, incorporated by reference to Exhibit 10.19 to the
Company's Annual Report on Form 10-K for the fiscal year
ended November 30, 1993.
*10.22 Amendment to Employment Agreement, dated as of July 21,
1994, between Somanetics Corporation and Bruce J.
Barrett, incorporated by reference to Exhibit 10.1 to the
Company's Quarterly Report on Form 10-Q for the quarter
ended August 31, 1994.
*10.23 Amendment to Employment Agreement, dated as of July 21,
1994, between Somanetics Corporation and Raymond W. Gunn,
incorporated by reference to Exhibit 10.3 to the
Company's Quarterly report on Form 10-Q for the quarter
ended August 31, 1994.
*10.24 Amendment to Employment Agreement, dated as of
December 1, 1995, between Somanetics Corporation and
Raymond W. Gunn, incorporated by reference to Exhibit
10.20 to the Company's Annual Report on Form 10-K for the
fiscal year ended November 30, 1995.
*10.25 Amendment to Employment Agreement, dated as of
November 18, 1996, between Somanetics Corporation and
Raymond W. Gunn, incorporated by reference to Exhibit
10.20 to the Company's Annual Report on Form 10-K for the
fiscal year ended November 30, 1996.
*10.26 Amendment to Employment Agreement, dated as of April 24,
1997, between Somanetics Corporation and Bruce J.
Barrett, incorporated by reference to Exhibit 10.21 to
Amendment No. 1 to the Registration Statement on Form S-1
(file no. 333-25275), filed with the Securities and
Exchange Commission on May 30, 1997.
*10.27 Amendment to Employment Agreement, dated as of April 24,
1997, between Somanetics Corporation and Raymond W. Gunn,
incorporated by reference to Exhibit 10.22 to Amendment
No. 1 to the Registration Statement on Form S-1 (file no.
333-25275), filed with the Securities and Exchange
Commission on May 30, 1997.
*10.28 Amendment to Employment Agreement, dated as of April 18,
2000, between Somanetics Corporation and Bruce J.
Barrett, incorporated by reference to Exhibit 10.3 to the
Company's Quarterly report on Form 10-Q for the quarter
ended May 31, 2000.
*10.29 Stock Option Agreement, dated May 16, 1994, between
Somanetics Corporation and Bruce J. Barrett, incorporated
by reference to Exhibit 10.7 to the Company's Quarterly
Report on Form 10-Q for the quarter ended August 31,
1994.
*10.30 Stock Option Agreement, dated July 21, 1994, between
Somanetics Corporation and Bruce J. Barrett, incorporated
by reference to Exhibit 10.4 to the Company's Quarterly
Report on Form 10-Q for the quarter ended August 31,
1994.
*10.31 Stock Option Agreement, dated July 21, 1994, between
Somanetics Corporation and Gary D. Lewis, incorporated by
reference to Exhibit 10.5 to the Company's Quarterly
Report on Form 10-Q for the quarter ended August 31,
1994.
*10.32 Stock Option Agreement, dated July 21, 1994, between
Somanetics Corporation and Raymond W. Gunn, incorporated
by reference to Exhibit 10.6 to the Company's Quarterly
Report on Form 10-Q for the quarter ended August 31,
1994.
*10.33 Stock Option Agreements, dated July 20, 1995, between
Somanetics Corporation and Richard Farkas, incorporated
by reference to Exhibit 10.28 to the Company's Annual
Report on Form 10-K for the fiscal year ended
November 30, 1995.
*10.34 Form of Stock Option Agreement, dated December 22, 1995,
between Somanetics Corporation and various employees,
incorporated by reference to Exhibit 10.29 to the
Company's Annual Report on Form 10-K for the fiscal year
ended November 30, 1995.
56
<PAGE> 58
EXHIBIT INDEX
EXHIBIT DESCRIPTION
*10.35 Form of Stock Option Agreement, dated December 22, 1995,
between Somanetics Corporation and various officers,
incorporated by reference to Exhibit 10.30 to the
Company's Annual Report on Form 10-K for the fiscal year
ended November 30, 1995.
*10.36 Form of new Stock Option agreement, dated December 22,
1995, between Somanetics Corporation and various
employees, incorporated by reference to Exhibit 10.31 to
the Company's Annual Report on Form 10-K for the fiscal
year ended November 30, 1995.
*10.37 Form of Stock Option Agreement, dated January 5, 1996,
between Somanetics Corporation and two officers,
incorporated by reference to Exhibit 10.32 to the
Company's Annual Report on Form 10-K for the fiscal year
ended November 30, 1995.
*10.38 Form of Stock Option Agreement, dated as of April 24,
1997, between Somanetics Corporation and twenty-three
employees, incorporated by reference to Exhibit 10.32 to
Amendment No. 1 to the Registration Statement on Form S-1
(file no. 333-25275), filed with the Securities and
Exchange Commission on May 30, 1997.
*10.39 Amendment to Stock Option Agreement, dated as of February
1, 1995, between Somanetics Corporation and Gary D.
Lewis, amending July 21, 1994 Stock Option Agreement,
incorporated by reference to Exhibit 10.31 to
Post-Effective Amendment No. 5 to the Company's
Registration Statement on Form S-1 (file no. 33-38438)
filed with the Securities and Exchange Commission on
March 30, 1995.
*10.40 Consulting Agreement, dated February 28, 1983, as
amended, between Somanetics Corporation and Hugh F.
Stoddart, incorporated by reference to Exhibit 10.13 to
the Company's Annual Report on Form 10-K for the fiscal
year ended November 30, 1991.
10.41 Current Form of Somanetics Corporation Confidentiality
Agreement used for testing hospitals and clinics,
incorporated by reference to Exhibit 10.22 to the
Company's Annual Report on Form 10-K for the fiscal year
ended November 30, 1992.
10.42 Current Form of Somanetics Corporation Confidentiality
Agreement used for the Company's employees and agents,
incorporated by reference to Exhibit 10.3 to the
Company's Quarterly Report on Form 10-Q for the quarter
ended August 31, 1992.
10.43 Assignments, dated October 6, 1983, January 23, 1986,
February 11, 1986 and February 11, 1986, from Gary D.
Lewis to Somanetics Corporation in connection with the
Company's INVOS technology, incorporated by reference to
Exhibit 10.17 to the Company's Registration Statement on
Form S-1 (file no. 33-38438).
10.44 Assignments, dated October 5, 1983, August 28, 1985,
February 11, 1986, February 12, 1986, and September 24,
1986, from Hugh F. Stoddart to Somanetics Corporation in
connection with the Company's INVOS technology,
incorporated by reference to Exhibit 10.18 to the
Company's Registration Statement on Form S-1 (file no.
33-38438).
10.45 Private Equity Line Agreement, dated as of March 6, 2000,
between Somanetics Corporation and Kingsbridge Capital
Limited, incorporated by reference to Exhibit 10.42 to
the Company's Registration Statement on Form S-1 (file
no. 333-33262) filed on March 24, 2000 and effective
March 31, 2000.
10.46 Warrant, dated as of March 6, 2000, from Somanetics
Corporation to Kingsbridge Capital Limited, incorporated
by reference to Exhibit 10.43 to the Company's
Registration Statement on Form S-1 (file no. 333-33262)
filed on March 24, 2000 and effective March 31, 2000.
10.47 Registration Rights Agreement, dated as of March 6, 2000,
between Somanetics Corporation and Kingsbridge Capital
Limited, incorporated by reference to Exhibit 10.44 to
the Company's Registration Statement on Form S-1 (file
no. 333-33262) filed on March 24, 2000 and effective
March 31, 2000.
10.48 Form of Warrant between Somanetics Corporation and
purchasers of Units in the April 1996 Regulation S
Offering, incorporated by reference to Exhibit 10.3 to
the Company's Quarterly Report on Form 10-Q for the
quarter ended February 29, 1996.
10.49 Warrant Agreement, dated as of April 2, 1996, between
Somanetics Corporation and Rauscher Pierce & Clark
Limited, incorporated by reference to Exhibit 10.4 to the
Company's Quarterly Report on Form 10-Q for the quarter
ended February 29, 1996.
10.50 Warrant to Purchase Common Stock of Somanetics
Corporation, dated as of April 2, 1996, between
Somanetics Corporation and Rauscher Pierce & Clark
Limited, incorporated by reference to Exhibit 10.5 to the
Company's Quarterly Report on Form 10-Q for the quarter
ended February 29, 1996.
57
<PAGE> 59
EXHIBIT INDEX
EXHIBIT DESCRIPTION
10.51 Form of Warrant Agreement and Warrant, dated June 4,
1997, between Somanetics Corporation and Brean Murray &
Co., Inc., incorporated by reference to Exhibit 10.60 to
Amendment No. 1 to the Registration Statement on Form S-1
(file no. 333-25275), filed with the Securities and
Exchange Commission on May 30, 1997.
10.52 Revolving Note from Somanetics Corporation to Fifth Third
Bank of Northwestern Ohio, N.A., dated April 1, 1999,
incorporated by reference to Exhibit 10.1 to the
Company's Quarterly Report on Form 10-Q for the quarter
ended May 31, 1999.
10.53 License Agreement, dated as of June 2, 2000, among
Somanetics Corporation, CorRestore LLC, Constantine L.
Athanasuleas, M.D. and Gerald D. Buckberg, M.D.,
including forms of warrants from Somanetics Corporation
to CorRestore LLC and Wolfe & Company, incorporated by
reference to Exhibit 10.2 to the Company's Quarterly
Report on Form 10-Q for the quarter ended May 31, 2000.
23.1 Consent of Deloitte & Touche LLP.
58
