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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
|X| Quarterly report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended September 30, 1998 or
|_| Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
Commission file number 0-19707
INNERDYNE, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 87-0431168
(State or other (I.R.S. Employer
jurisdiction of Identification No.)
incorporation
or organization)
1244 REAMWOOD AVENUE, SUNNYVALE, CA 94089
(Address, including zip code, of principal executive offices)
Registrant's telephone number, including area code: (408) 745-6010
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 |_|
The number of shares of Registrant's Common Stock issued and outstanding as
of October 30, 1998 was 21,840,155.
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TABLE OF CONTENTS
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PAGE
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Balance Sheets ....................................................... 3
Condensed Statements of Operations ............................................. 4
Condensed Statements of Cash Flows ............................................. 5
Notes to Condensed Financial Statements ........................................ 6
Item 2. Management's Discussion and Analysis of Financial Condition and Results of
Operations..................................................................... 8
Item 3. Quantitative and Qualitative Disclosures About Market Risk .................... 23
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.............................................................. 24
Item 2. Changes in Securities and Use of Proceeds...................................... 24
Item 3. Defaults upon Senior Securities........................................ ....... 24
Item 4. Submission of Matters to a Vote of Security Holders............................ 24
Item 5. Other Information.............................................................. 24
Item 6. Exhibits and Reports on Form 8-K............................................... 24
Signature Page................................................................. 25
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PART I -- FINANCIAL INFORMATION
Item 1.-- Financial Statements
INNERDYNE, INC.
CONDENSED BALANCE SHEETS
ASSETS
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September 30, December 31,
1998 1997
(Unaudited) (*See Note)
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Current assets:
Cash and cash equivalents....................................... $6,124,895 $6,091,497
Accounts receivable............................................. 2,484,546 1,920,966
Interest and other receivables.................................. 329,112 702,606
Inventory....................................................... 1,294,665 1,454,266
Prepaid expenses and other...................................... 131,856 116,821
---------- ----------
Total current assets.......................................... 10,365,074 10,286,156
Equipment and leasehold improvements, net....................... 816,026 987,241
Other assets.................................................... 45,695 45,695
---------- ----------
Total assets $11,226,795 $11,319,092
=========== ===========
LIABILITIES AND
STOCKHOLDERS' EQUITY
Current liabilities:
Line of credit.................................................. $300,000 $300,000
Current installments of long-term debt.......................... 340,543 340,543
Accounts payable................................................ 63,707 489,602
Accrued liabilities............................................. 1,716,026 1,504,336
---------- ----------
Total current liabilities..................................... 2,420,276 2,634,481
Long-term debt, excluding current installments.................... 486,280 649,061
Stockholders' equity:
Common stock.................................................... 218,402 217,549
Additional paid in capital 60,143,155 60,000,046
Accumulated deficit............................................. (52,041,318) (52,182,045)
---------- ----------
Net stockholders' equity.................................... 8,320,239 $8,035,550
---------- ----------
Total liabilities and stockholders' equity $11,226,795 $11,319,092
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</TABLE>
* Condensed from audited financial statements.
See accompanying notes to condensed financial statements.
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INNERDYNE, INC.
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
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Three Months Ended Nine Months Ended
September 30, September 30, September 30, September 30,
1998 1997 1998 1997
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Product, licensing and contract revenue $ 4,483,730 $ 4,960,477 $13,062,138 $11,606,459
Cost of sales 1,301,893 1,299,201 4,030,218 3,744,314
Research, development regulatory and
clinical 748,006 988,175 2,275,209 2,545,460
Sales and marketing 1,719,070 1,648,224 5,203,930 4,411,262
General and administrative 472,275 579,876 1,521,613 1,653,673
---------- ---------- ---------- ----------
Total costs and expenses 4,241,244 4,515,476 13,030,970 12,354,709
---------- ---------- ---------- ----------
Operating income/loss 242,486 445,001 31,168 (748,250)
Interest/other income, net 23,762 56,200 109,559 159,993
---------- ---------- ---------- ----------
Net income (loss) $ 266,248 $ 501,201 $ 140,727 $ (588,257)
Diluted and basic net income (loss) per
share $ 0.01 $ 0.02 $ 0.01 $ (0.03)
========== ========== ========== ==========
Weighted average diluted and basic
shares outstanding:
Basic 21,840,155 21,678,986 21,803,651 21,651,386
========== ========== ========== ==========
Diluted 22,038,548 22,284,617 22,210,017 21,651,386
========== ========== ========== ==========
</TABLE>
See accompanying notes to condensed financial statements.
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INNERDYNE, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
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Nine Months Ended
September 30, September 30,
1998 1997
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Cash flows from operating activities:
Net income (loss)...................................................... $ 140,727 $(588,257)
Adjustments to reconcile net income (loss) to net cash used in operating
activities:
Depreciation and amortization of equipment and leasehold 404,807 455,331
improvements.......
Increase in receivables............................................. (190,086) (546,787)
Decrease (increase) in inventories.................................. 159,601 (106,231)
(Increase) decrease in prepaid expenses, and other assets........... (15,035) 2,454
Increase (decrease) in accounts payable............................. (425,895) 149,127
Increase in accrued expenses........................................ 211,691 311,907
Gain on sale of fixed assets........................................ (1,185) --
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Net cash (used in) provided by (used in) operating activities.......... 284,625 (322,456)
Cash flows from investing activities:
Capital expenditures................................................ (233,907) (249,912)
Proceeds from sale of fixed assets.................................. 1,500 --
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Net cash used in investing activities.................................. (232,407) (249,912)
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Cash flows from financing activities:
Proceeds from issuance of common stock, net......................... 143,962 69,998
Proceeds from long-term debt........................................ 58,467 103,115
Principal payments on long-term debt................................ (221,249) (82,228)
---------- ---------
Net cash (used in) provided by financing activities.................... (18,820) 90,885
---------- ---------
Net increase (decrease) in cash and cash equivalents.................. 33,398 (481,483)
Cash and cash equivalents at beginning of period....................... 6,091,497 7,270,285
---------- ---------
Cash and cash equivalents at end of period............................. $6,124,895 $6,788,802
========== ==========
</TABLE>
See accompanying notes to condensed financial statements.
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INNERDYNE, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying interim condensed financial statements and notes are
unaudited, but in the opinion of management reflect all adjustments (consisting
of normal recurring adjustments) necessary for a fair presentation of the
results of such periods. The results of operations for any interim period are
not necessarily indicative of results for the respective full year. These
condensed financial statements and Management's Discussion and Analysis of
Financial Condition and Results of Operations (MD&A) for the three and nine
month periods ended September 30, 1998 should be read in conjunction with the
audited financial statements and notes thereto and MD&A included in the
Company's Annual Report on Form 10K for the year ended December 31, 1997.
(2) INVENTORIES
Inventories consist of the following:
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September 30, December 31,
1998 1997
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Raw materials and supplies........................ $ 778,552 $1,110,989
Finished goods.................................... 516,113 583,639
---------- ----------
Net inventory..................................... $1,294,665 $1,454,266
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(3) COMPREHENSIVE INCOME (LOSS)
The Company adopted Statement of Financial Accounting Standard No. 130
("SFAS 130"), "Reporting Comprehensive Income," effective January 1, 1998. SFAS
130 establishes standards for reporting and display of comprehensive income and
its components in financial statements. For the periods ended September 30, 1998
and 1997, comprehensive income (loss) was equal to the net income (loss) as
presented in the accompanying statements of operations.
(4) EARNINGS PER COMMON SHARE
The Company adopted Statement of Financial Accounting Standard No. 128
("SFAS 128"), "Earnings Per Share," effective January 1, 1998. SFAS 128
establishes a different method of computing the net income (loss) per share than
was previously required under the provisions of Accounting Principles Board
Opinion No. 15. Earnings (loss) per common share is computed based on the
weighted-average number of common shares and, as appropriate, dilutive common
stock equivalents outstanding during the period. Stock options are considered to
be common stock equivalents.
Basic earnings (loss) per common share is the amount of earnings (loss) for
the period available to each share of common stock outstanding during the
reporting period. Diluted earnings (loss) per common share is the amount of
earnings for the period available to each share of common stock outstanding
during the reporting period and to each share that would have been outstanding
assuming the issuance of common shares for all dilutive potential common shares
outstanding during the period.
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In calculating net income (loss) per common share, the net income (loss)
was the same for both the basic and diluted calculation. A reconciliation
between the basic and diluted weighted-average number of common shares for the
three months and nine months ended September 30, 1998 and 1997 is summarized as
follows:
<TABLE>
<CAPTION>
(Unaudited) (Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
1998 1997 1998 1997
---------- ---------- --------- ----------
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Basic weighted average number of 21,840,115 21,678,986 21,803,651 21,651,386
common shares outstanding during
the period
Weighted-average number of 198,393 605,631 406,366 --
dilutive common stock options ---------- ---------- ---------- ----------
outstanding during the period
Diluted weighted average number 22,038,548 22,284,617 22,210,017 21,651,386
of common and common equivalent ========== ========== ========== ==========
shares outstanding during the
period
</TABLE>
Common stock equivalents of 3,438,991 and 2,694,135, and 3,231,081 and
3,299,766 outstanding during the three and nine month periods ended September
30, 1998 and 1997, respectively, that could potentially dilute basic earnings
per share in the future were not included in the computation of diluted earnings
per share because to do so would have been anti-dilutive for the period.
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
Except for the historical information contained in this Quarterly Report on
Form 10-Q, the matters discussed throughout this Quarterly Report on Form 10-Q
are forward-looking statements that are subject to certain risks and
uncertainties that could cause actual results to differ materially from those
projected. Factors that could cause actual results to differ materially include,
but are not limited to, the impact of intense competition in the Company's
market, the extent of market acceptance of the Company's Step(TM) family of
products, the timely development and market acceptance of new products, the
compliance of the Company's product development and manufacturing systems with
current U.S. and International quality systems regulations ("QSR"), the
continued acceptance of minimally invasive surgical procedures, the Company's
ability to further expand into international markets, public policy relating to
healthcare reform in the United States and other countries, approval of the
Company's products by government agencies such as the United States Food and
Drug Administration (the "FDA") and the risks set forth in greater detail below
under the heading "Additional Factors that May Affect Future Results," as well
as those set forth in the Company's Annual Report on Form 10-K for the year
ended December 31, 1997 and included from time to time in the Company's other
Securities and Exchange Commission ("SEC") reports and press releases, copies of
which are available from the Company upon request. The Company undertakes no
obligation to publicly release the result of any revisions to these
forward-looking statements that may be made to reflect events or circumstances
after the date hereof or to reflect the occurrence of unanticipated events.
INTRODUCTION
InnerDyne, Inc. (the "Company" or "InnerDyne") is primarily focused upon
the development and commercialization of access products based on its
proprietary radial dilation technology used to perform minimally invasive
surgical ("M.I.S.") procedures. The Company possesses biocompatible coating
technologies which have utility in enhancing the compatibility and performance
of devices placed in contact with human body fluids and tissues, and in
delivering selected pharmaceuticals and radioactive isotopes to areas within a
human body. The Company intends to continue developing its radial dilation and
biocompatible coating technologies, internally or through strategic alliances.
Radial Dilation Technology
The primary focus of the Company is the development and commercial
application of its proprietary radial dilation technology. The key feature of
this proprietary technology is the capability to enter the body of a patient by
creating a small puncture wound which can subsequently be dilated, or increased
in size, to create a larger working channel. Employment of radial dilation
within an expandable sheath permits the dilation to be accomplished in a manner
that tends to minimize tissue trauma. Upon completion of a procedure, the
dilation sequence is reversed, and the result is a smaller residual wound than
would be experienced through the employment of similarly sized conventional
access devices. Potential benefits of radial dilation technology include reduced
risk, less patient trauma and reduced procedure time.
Step(TM) Product Line. The Company has developed a family of products
utilizing InnerDyne's proprietary radial dilation technology. The initial Step
products were introduced commercially in late 1994 and are designed to provide
access to the abdominal cavity in order to facilitate the visualization and
treatment of target areas within the cavity while minimizing the tissue trauma
associated with such access.
Step. The Step device incorporates the Company's proprietary radial
dilation technology and was InnerDyne's first product to be launched on a
commercial basis. The Company has received 510(k) clearances from the FDA to
market this device for laparoscopic and thorascopic M.I.S. procedures. The
Company's Step access device replaces trocars, eliminating the risk of internal
organ damage from contact with the sharp surfaces of a bladed trocar. In
contrast to conventional trocars, the Step device utilizes a standard
insufflation needle for penetration through the abdominal wall at each site
where it is utilized, creating only a small puncture wound. Following removal of
the needle, a sheath that surrounds the needle is
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then dilated up to a larger working channel through the insertion of a tapered
dilator and cannula. Following dilation, the dilator is removed, leaving a rigid
sheath that serves as a working channel, with an integral insufflation valve at
the proximal end. The radial dilation of tissue to an appropriately sized
working channel holds the cannula in place and obviates the need for an
anchoring system, which may cause a larger residual wound. After completion of a
procedure, the rigid cannula is removed, and the sheath retracts, permitting the
opening in each of the muscular layers of the abdominal wall to recover. The
residual wound is approximately half the size of that made using a conventional
trocar of similar size. The Step is currently utilized primarily in minimally
invasive general, gynecological and pediatric surgical procedures.
Management believes that positive attributes of the Step product could
significantly affect health care system costs and patient satisfaction with
M.I.S. procedures in which trocars have traditionally been used. The results of
a Company-sponsored retrospective comparative outcome study examining this issue
were released during late 1995. The study included 98 patients, and compared an
almost equal number of procedures performed using Step devices and conventional
trocars for access. Statistically significant results of that study indicated
that Step reduced device-related complications during surgery by over 90% and
resulted in an approximate 22% savings in surgery time. Based upon published
operating room costs, this time savings would equate to dollar savings of $345
to $515 per procedure, a substantial outcome for a product that is believed to
be competitively priced with conventional trocars. Management also believes that
post-procedure complications, such as infection and incisional hernias at access
sites, may be reduced with the use of the Step device as compared to
conventional trocars. Two randomized prospective studies involving 331 patients
intended to replicate the findings of the initial outcome study were completed
during 1997. Results of both studies indicate that Step virtually eliminates
many of the complications associated with the use of conventional trocars. These
results have been presented at major international conferences and have been
submitted for publication. In addition, these results and additional studies
have been submitted to the FDA in an effort to expand the approved labeling for
the Step family of products.
Short Step. The Short Step is a conventional Step device that has been
reduced in length to be particularly suitable for M.I.S. procedures involving
smaller individuals, especially children and thin females. The Short Step was
commercially introduced in 1995. In January 1996, the Company announced that its
Short Step device had been awarded the Seal of Acceptance by the Alliance of
Children's Hospitals, Inc. ("Alliance"). The Alliance is a wholly owned
subsidiary of Child Health Corporation of America, which is comprised of 35
free-standing children's hospitals across the United States. The Alliance
selected the Step system, after extensive research and review, based upon its
ability to reduce both the trauma and operative complications associated with
pediatric laparoscopic surgical procedures. In exchange for an ongoing royalty
payment, the Company is entitled to use this seal in connection with the
marketing and sale of its Step line of products. The Company hopes that the Seal
of Acceptance will continue to help the Company expand awareness and sales of
its Step product line for use in the pediatric environment.
Reposable-Step. Launched in 1996, the Reposable-Step incorporates the
radial dilation features of disposable Step devices in a partially reusable
access device. A substantial market for reusable trocars exists, and management
expects a trend toward a somewhat more frequent usage of reusable devices. The
Reposable-Step includes a number of reusable components, consisting of a
combination of metal and plastic parts that may be cleaned and sterilized by
most conventional methods. The dilator, cannula and needle are reusable, while
the sheath and valve are single-use components, designed to be disposed of
following surgery.
Mini Step. The Mini Step is a small-diameter radially dilating access
device designed for use in micro-laparoscopic surgery utilizing small
instruments, and in tubal ligation and pediatric procedures. The working
diameter of the Mini Step ranges from a nominal 2mm to 8mm. Like the Step
device, the Mini Step is expected to offer clinicians the potential to reduce
device-related surgical complications and surgery time. The Mini Step device was
commercially introduced in 1997.
Open-Step. The Open-Step is a device designed to establish access into the
abdominal cavity using a technique known as open laparoscopy. The Open-Step
device was commercially introduced in the second quarter of 1998.
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One-Step. The One-Step is a device with a universally adjustable valve and
seal system designed to eliminate the need for a reducer. The device is intended
to maintain insufflation while accommodating most conventional surgical
instruments. The One-Step device is expected to be commercially introduced in
the fourth quarter of 1998.
Management believes that the positive attributes of the Step product line
may also enable minimally invasive access to organs within the abdominal cavity.
The current alternative for this type of access involves the insertion of a long
flexible channel and scope through a natural body orifice such as the mouth or
the rectum, and only limited procedures are possible due to the restricted size
of the channel and the tortuous path that must be navigated by the scope. The
Step product line has been shown to enable laparoscopic access through the
abdominal wall and across the peritoneal space into the stomach for the
treatment of benign tumors. InnerDyne believes that the use of Step products
could substantially reduce recovery times for these types of procedures. The
Company expects that the enhanced capabilities of radially expanding dilation
may enable additional surgical procedures to be performed through minimally
invasive techniques. The Company filed a 510(k) application with the FDA for
intra-organ indications of its Step products, and recently received approval of
this application.
Distribution of Step Products. The Step family of products is distributed
to health care professionals in both domestic and international markets. In the
United States, the Company's M.I.S. access product line is generally sold
directly to health care professionals by a network of sales representatives, a
limited number of whom are employees of the Company. These sales representatives
are managed on a regional basis by InnerDyne management employees. In order to
attempt to enhance the effectiveness of these domestic sales activities,
agreements with buying groups that represent multiple provider institutions have
been pursued. InnerDyne signed two buying group agreements in 1997. These
agreements cover approximately 1,350 hospitals across the United States and may
allow the Company to more effectively compete for a portion of the minimally
invasive surgical access business in these hospitals.
In selected foreign countries, local distributors purchase products from
the Company for subsequent resale to their respective countries' health care
systems. Distributors in selected foreign markets can and have been changed when
the Company has deemed the performance of individual distributor organizations
to be unsatisfactory.
Other Applications. InnerDyne announced an agreement covering the
development and potential use of its proprietary radial dilation technology for
specialized vascular access with EndoTex Interventional Systems in 1996. The
agreement covers the development of access products expected to be used in
conjunction with EndoTex's technologies to treat carotid disease and aortic
aneurysms.
The Company entered into an agreement covering the development of a less
traumatic means of placing enteral feeding tubes with Sherwood-Davis & Geck
("SDG") in 1997. The Company announced that it had received the single
regulatory milestone payment associated with the SDG agreement during the second
quarter of 1997. In the first quarter of 1998, InnerDyne and SDG terminated the
development agreement coincident with the sale of SDG to another corporation.
During the second quarter of 1997, InnerDyne established a business unit
to better define the value that radial dilation technology can bring to
interventional cardiology and radiology procedures, and to develop access
products based on this assessment. The Company proceeded with animal studies and
device refinements in the third and fourth quarters of 1997 and continued
testing the product concept in conjunction with cardiology advisors in the first
quarter of 1998. The study results were positive, and human use trials to
demonstrate the clinical benefits were initiated in Europe during the second
quarter of 1998. Initial distribution of the REVAS vascular access product began
in Europe in the second quarter of 1998. In September 1998, InnerDyne announced
that it has received clearance from the FDA of a 510(k) application for its
radially dilatable access device for use in gaining percutaneous access for the
performance of vascular procedures. If clinical benefits are confirmed in
continuing usage, the Company will explore alternative methods of effective
distribution in the interventional vascular marketplace and may launch a radial
dilation vascular access device in the United States in late 1998 or 1999.
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InnerDyne also committed resources to an investigation of the potential
market opportunity in arthroscopic procedures during 1997 and early 1998.
Limited clinical usage of the initial design accompanied by substantial exposure
and feedback from arthroscopic surgeons was completed during the last half of
1997. InnerDyne completed the arthroscopic market opportunity assessment in the
second quarter of 1998. The Company is exploring the potential this product may
have, if any, and alternative distribution methods in the arthroscopic
marketplace. It is unlikely that an arthroscopic access product will be brought
to market unless a suitable distribution partner can be found.
Additionally, the Company is exploring the potential use of its proprietary
radial dilation technology in other applications, such as access for urologic,
thoracic and tracheal procedures, and is likely to increase resources associated
with the pursuit of one or more of these opportunities in the ensuing quarters.
Developmental expenditures for new applications for the Company's proprietary
radial dilation technology may impact the timing and achievement of sustained
profitability. There can be no assurance that these new applications will
demonstrate clinical benefits or that the Company can develop a product that
will be commercially accepted.
Thermal Ablation Technology
The Company has developed proprietary technology that is intended to
thermally ablate the lining of a body organ. The Company's EnAbl(TM) Thermal
Ablation System (the "EnAbl System") is based on this proprietary technology and
is designed to treat menorrhagia, or excessive uterine bleeding, by thermally
ablating the endometrial lining of the uterus through the controlled
introduction and heating of a normal saline solution "in situ." The EnAbl
System, which includes a control console, a reusable handpiece, and a disposable
probe, enables the clinician to fill the uterus with normal saline solution,
which is then heated. The heated solution ablates -- or destroys -- the uterine
lining, the source of the abnormal bleeding. The EnAbl System is designed to
help physicians treat women suffering from this common and often debilitating
condition in a minimally invasive and less costly manner, with potentially fewer
complications. The system is expected to be easy for the physician to use, and
to offer the possibility to conduct the procedure under local anesthesia. As a
result, the procedure may take less time than currently available therapies and
can potentially be performed in an outpatient surgery center or a physician's
office. Although this procedure is expected to result in the infertility of the
patient, the Company believes that the EnAbl System has the potential to result
in fewer complications and adverse side effects and reduced recovery times
compared to many alternative therapies. For these reasons the Company also
believes that the EnAbl System has the potential to be more cost-effective than
many alternative therapies. The Company has completed initial safety and
preliminary efficacy trials with this system. The results of these limited
trials indicate that the EnAbl System may represent a safe means of ablating
uterine tissue. However, there can be no assurance that the feasibility of this
technology will be satisfactorily demonstrated in expanded efficacy trials or
that the system will be successfully commercialized.
In December 1996, InnerDyne announced that it had signed an agreement which
granted U.S. Surgical Corporation ("U.S. Surgical") exclusive worldwide sales
and marketing rights for the EnAbl System. Under the terms of the agreement, in
exchange for initial license fees, milestone payments, and royalties based upon
future sales, U.S. Surgical gained the rights to complete development of the
EnAbl system and to manufacture and market the technology on a worldwide basis.
The agreement also provides U.S. Surgical with an option to purchase rights to
the technology for defined applications. In July 1997, the Company announced
that U.S. Surgical had made the first milestone payment due under the terms of
the agreement. In August 1998, InnerDyne announced it had received notification
from U. S. Surgical indicating they would not pursue development or
commercialization of the Company's EnAbl System. The Company will be determining
in the near future whether to exercise its option to re-purchase the EnAbl
System technology rights, and is actively investigating alternative partnership
opportunities.
Biocompatible Coating Technologies
The Company possesses certain proprietary technologies in the area of
biocompatible coatings. The technologies that comprise the Company's
thromboresistant coating ("TRC") capability are believed to have application
when foreign objects remain in contact with various areas of the body,
particularly within the blood stream, for sustained periods of time.
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These technologies include the ability to deposit an extremely thin layer
(approximately one micron) of siloxane on a surface and the ability to graft a
bioactive substance, such as the drug heparin, to that siloxane layer. The
Company's TRC utilizes a "tether" molecule to attach heparin, other bioactive
molecules or radioisotopes to the previously applied siloxane subsurface. One
end of the tether molecule is covalently bonded to the siloxane coating, and the
other end of the tether molecule is covalently bonded to the bioactive molecule
or radioisotope. Because both points of attachment utilize covalent bonds, the
Company believes that its coating process may result in a stronger bond to the
surface of a device than many other methods presently in use, which it believes
generally use a weaker ionic bond in at least one of the attachment points. TRC
coatings, employed with the siloxane layer alone or in combination with
bioactive substances, can extend the life of blood-gas exchange devices or
provide the capability to extend the duration of contact of a coated device with
blood or other body fluids while minimizing the physiological impacts of such
contact. The Company developed a less complex method of coating devices with a
TRC coating which was commercially introduced in the first quarter of 1998.
InnerDyne is developing a proprietary coating technology to which rhenium-188 or
other radioisotopes can be attached just prior to a therapeutic intervention to
possibly reduce restenosis in patients who have had interventional vascular
procedures. The isotope coating chemistry may also have applications in the
fields of oncology and the treatment of arthritis.
In 1994, the Company signed a license agreement with SENKO Medical
Manufacturing Co., Ltd. ("SENKO"), a Japan based manufacturer and marketer of
membrane oxygenators used in open heart surgery, pursuant to which the Company
licensed one of its TRC technologies to SENKO. In connection with this
agreement, the Company transferred its siloxane coating technology to SENKO for
the coating of microporous hollow fibers used in production of oxygenators. The
initial technology transfer was completed during the first quarter of 1995, at
which time the Company received the balance of an initial payment from SENKO,
and the royalty payment period commenced. In 1996, InnerDyne received an order
from SENKO to build a second fiber coating system, which was delivered during
the first half of 1997. In April 1998, SENKO licensed InnerDyne's less complex
method for coating devices with heparin on a non-exclusive basis. The addition
of this new means of attaching the drug heparin to prevent the formation of
blood clots on a surface is expected to further enhance SENKO's oxygenator
product offering.
In April 1996, the Company announced the signing of an agreement with
Boston Scientific Corporation ("Boston Scientific") covering the potential
application and use of InnerDyne's proprietary biocompatible coating
technologies with Boston Scientific's stents, grafts, vena cava filters and
other implantable medical devices. The agreement involved an equity investment
by Boston Scientific in InnerDyne, initial research support and future license
fees and royalty payments. Boston Scientific Corporation notified InnerDyne in
August 1998 that it had decided to proceed with the transfer of technology for
the application and use of InnerDyne's proprietary biocompatible coating
technology with Boston Scientific's stents, grafts, vena cava filters, and other
implantable medical devices.
In December 1997, InnerDyne and Oak Ridge National Laboratory ("ORNL")
announced that the U.S. Department of Energy had awarded ORNL and Brookhaven
National Laboratories ("BNL") a cooperative research and development agreement
for the development of InnerDyne's proprietary method of labeling or attaching
radioactivity to implantable devices. The ORNL researchers will help to optimize
chemical methods required to efficiently attach a radioactive source to stents.
Generators from ORNL and this new technology will be provided to investigators
at BNL who will, in conjunction with the Interventional Cardiology Group at the
State University of New York at Stonybrook, prepare the radioactive stents and
implant them into the arteries of swine or rabbits to evaluate the effectiveness
of this new approach to inhibit restenosis. Management believes that the
combination of InnerDyne and ORNL technologies may positively impact the overall
costs associated with stenting procedures, if successful, by providing a method
of attaching a radioisotope just prior to implantation.
In June 1998, InnerDyne announced the signing of an agreement with U.S.
Surgical covering the licensing of its proprietary siloxane coating technology
for potential use by U. S. Surgical to enhance the performance of selected
products used in minimally invasive surgical procedures. Under the terms of the
agreement, in exchange for the payment of initial license fees and capital
equipment costs, InnerDyne will construct a custom coating system and provide
coated product samples for testing by U. S. Surgical. Assuming the testing
confirms that coated samples meet U. S. Surgical's
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requirements, InnerDyne will receive a final license fee payment, and will
assist in the transfer of the system to a location designated by U. S. Surgical.
Coincident with transfer and system startup, a royalty payment period will
begin.
Because of the strength of the covalent bonds used in the Company's TRC
technology, and other properties noted above, the Company believes that its
technology may have advantages over presently available bioactive coating
technologies in several potential applications, including the coating of
vascular stents, grafts, vena cava filters and other implantable devices. The
Company has undertaken a number of discussions with potential licensees of the
Company's coating technologies, in addition to those mentioned above, and
samples of coated products have been provided to several companies. These
discussions have been with parties interested in the use of the technologies to
enhance gas exchange, as well as third parties interested in the possible
coating of in-dwelling devices for various applications. There can be no
assurances that such discussions and trials will result in additional revenue,
or that the potential revenue from current agreements or research efforts will
ever be realized.
RESULTS OF OPERATIONS
Total revenue for the three and nine month periods ended September 30, 1998
was $4,483,730 and $13,062,138 respectively, compared to $4,960,477 and
$11,606,459 for the corresponding periods in 1997. Total revenue is comprised of
revenue from product sales and licensing and contract revenue. Revenue from
product sales increased to $4,129,633 and $11,879,606 for the three and nine
month periods ended September 30, 1998, respectively, from $3,138,728 and
$8,500,492 for the corresponding periods in 1997, reflecting increased sales of
the Company's Step devices. Licensing and contract revenue for the three and
nine month periods ended September 30, 1998 were $354,097 and $1,182,532
respectively, compared to $1,821,749 and $3,105,967 for the corresponding
periods in 1997. Licensing and contract revenue for the 1998 periods related to
agreements with third parties covering the development and the licensing of the
Company's proprietary biocompatible coating technology. Licensing and contract
revenue for the 1997 periods related to the development of non-competing
applications for the Company's radial dilation technology, milestone and
development payments related to the Company's thermal ablation system and
payments related to the Company's proprietary biocompatible coating technology.
Licensing and contract revenue fluctuates from quarter to quarter, based upon
the number of agreements in effect and the amount and timing of the payments to
be made to InnerDyne pursuant to such agreements.
Cost of sales was $1,301,893 and $4,030,218, respectively, for the three
and nine month periods ended September 30, 1998, compared to $1,299,201 and
$3,744,314 for the same periods in 1997. The increase in cost of sales for the
three and nine month periods ended September 30, 1998 is mainly attributable to
the increase in production and sales volumes compared to the same periods in
1997.
Research, development, regulatory and clinical expenses ("R&D") for the
three and nine month periods ended September 30, 1998 were $748,006 and
$2,275,209 respectively, compared to $988,175 and $2,545,460 for the
corresponding periods in 1997. In the 1997 and 1998 periods, a significant part
of the R&D expenses were reimbursed by development partners, thereby generating
off-setting licensing and contract revenue. The reduction in R&D expenditures is
primarily the result of a transfer of the EnAbl thermal ablation program to U.S.
Surgical in the first quarter of 1998. The Company expects that research,
development, regulatory and clinical expenditures will increase in absolute
dollars in future periods, though it is possible that expenses associated with
one or more research programs could be funded from outside the Company, or that
research in a particular business area could be cut back or terminated, thereby
possibly reducing expected costs.
Sales and marketing expenses were $1,719,070 and $5,203,930, respectively,
for the three and nine month periods ended September 30, 1998, compared to
$1,648,224 and $4,411,262 for the corresponding periods in 1997, reflecting the
growth of the Company's sales and marketing functions to support
commercialization of its M.I.S. products. InnerDyne expects that sales and
marketing expenses will generally continue to increase in absolute dollars in
future periods, coincident with anticipated increases in product revenue.
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General and administrative expenses were $472,275 and $1,521,613
respectively for the three and nine month periods ended September 30, 1998,
compared to $579,876 and $1,653,673 for the corresponding periods in 1997. The
decline in general and administrative expenses was the result of a reduction in
insurance premiums and strict application of cost controls. The Company
anticipates that general and administrative expenses will generally increase in
absolute dollars in future periods to support expanding operations.
Interest/other income net decreased to $23,762 and $109,559, respectively
for the three and nine month periods ended September 30, 1998, compared to
$56,200 and $159,993 for the same periods in 1997, primarily as a result of
decreased interest income earned on average cash and cash equivalents balances
and increased interest paid on higher levels of borrowed funds.
The Company reported net income of $266,248 or $.01 per diluted share, and
$140,727 or $.01 per diluted share for the three and nine month periods ended
September 30, 1998, compared to net income of, $501,201, or $.02 per share and a
net loss of ($588,257) or ($.03) per share, respectively for the same periods in
1997. The third quarter 1997 numbers reflected a substantial one time milestone
payment from U.S. Surgical related to the EnAbl thermal ablation system.
LIQUIDITY AND CAPITAL RESOURCES
From its inception to September 30, 1998, the Company has incurred a
cumulative net loss of approximately $52 million. Prior to 1992, the Company was
funded primarily through private placements of equity securities. In 1992, the
Company completed an initial public offering of 2,875,000 shares of its Common
Stock at $11.00 per share, which raised approximately $28.8 million (net of
underwriter's commissions and offering expenses). The 1994 acquisition of
InnerDyne Medical, Inc. was accomplished through the issuance of additional
Common Stock of the Company. In June 1995, the Company closed a private
placement of 1,435,599 shares of the Company's Common Stock and warrants to
purchase 287,200 additional shares of Common Stock, with gross proceeds to the
Company of approximately $3.2 million. In March and April of 1996, holders of
warrants to purchase an aggregate of 242,952 shares of Common Stock exercised
such warrants, resulting in gross proceeds to the Company of $704,561. The
Company concluded a public offering on May 20, 1996, with the sale of 2,650,000
shares of Common Stock at $3.50 per share, which raised $8,015,268 (net of
underwriter's commissions and offering expenses).
At September 30, 1998, cash and cash equivalents totaled $6,124,895
compared to a total cash and cash equivalents balance of $6,007,147 at June 30,
1998. The Company had $233,907 in capital expenditures in the nine months ended
September 30, 1998. Working capital totaled $7,944,798 at September 30, 1998,
and the Company had long-term debt, excluding current installments, totaling
$486,280 relating to financing of equipment.
In June 1998, the Company renewed its credit facility with Silicon Valley
Bank. Subject to certain covenants and conditions, the Company may borrow up to
$2,000,000 through June 18, 1999 on a revolving credit basis at prime plus .75%
based on eligible receivables. The Company also has an equipment advance line of
credit, which allows the Company to borrow up to $750,000 per year based on
eligible equipment purchases. Amounts outstanding on this equipment advance line
of credit are periodically converted to 48 month term loans bearing interest at
prime plus .75%.
As of September 30, 1998, the Company had drawn $300,000 for financing of
working capital needs on the revolving line of credit, secured by certain
accounts receivable, and had borrowed $275,210 under the 1997 agreement with
Silicon Valley Bank for the financing of capital expenditures. Debt balances as
of September 30, 1998 on the Company's balance sheet also include amounts loaned
to the Company under previous equipment lines of credit agreements with Silicon
Valley Bank.
In the future, the Company may incur additional operating losses and have
cash outflow requirements as a result of expenditures related to expansion of
sales and marketing capability, expansion of manufacturing capacity, research
and development activities, compliance with regulatory requirements, and
possible investment in or acquisition of additional complementary products,
technologies or businesses. The timing and amounts of these expenditures will
depend upon many
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factors, such as the progress of the Company's research and development, and
will include factors that may be beyond the Company's control, such as the
results of product trials, the requirements for and the time required to obtain
regulatory approval for existing products and any other products that may be
developed or acquired, and the market acceptance of the Company's products.
The Company's capital requirements will depend on numerous factors,
including market acceptance and demand for its products; the resources the
Company devotes to the development, manufacture and marketing of its products;
the progress of the Company's clinical research and product development
programs; the receipt of, and the time required to obtain, regulatory clearances
and approvals; the resources required to protect the Company's intellectual
property; and other factors. The timing and amount of such capital requirements
cannot be accurately predicted. Funds may also be used for the acquisition of
businesses, products and technologies that are complementary to those of the
Company. Consequently, although the Company believes that the proceeds of the
public offering of shares of its Common Stock completed in May 1996, together
with revenues, credit facilities and other sources of liquidity, will provide
adequate funding for its capital requirements through at least mid 1999, the
Company may be required to raise additional funds through public or private
financings, collaborative relationships or other arrangements. There can be no
assurance that the Company will not require additional funding or that such
additional funding, if needed, will be available on terms attractive to the
Company, or at all. Any additional equity financings may be dilutive to
stockholders, and debt financing, if available, may involve restrictive
covenants.
ADDITIONAL FACTORS THAT MAY AFFECT FUTURE RESULTS
History of Losses; Profitability Uncertain. Prior to the third quarter of
1998, InnerDyne had generally experienced operating losses since its inception
in December 1985. InnerDyne reported net income of $0.140 million on revenues of
$13.1 million, and net losses of $0.9 million on revenues of $15.7 million, $4.6
million on revenues of $9.1 million and $5.6 million on revenues of $5.3 million
for the nine months ended September 30, 1998 and the fiscal years ended December
31, 1997, 1996 and 1995, respectively. As of September 30, 1998, InnerDyne had
an accumulated deficit of approximately $52 million.
In the future, the Company may incur substantial additional operating
losses and have cash outflow requirements as a result of expenditures related to
expansion of sales and marketing capability, expansion of manufacturing
capacity, research and development activities, compliance with regulatory
requirements, and possible investment in or acquisition of additional
complementary products, technologies or businesses. The timing and amounts of
these expenditures will depend upon many factors, such as the availability of
capital, progress of the Company's research and development, and factors that
may be beyond the Company's control, such as the results of product trials, the
requirements for and the time required to obtain regulatory approval for
existing products and any other products that may be developed or acquired, and
the market acceptance of the Company's products. The cash needs of the Company
have changed significantly as a result of the merger completed during 1994 and
the support requirements of the added business focus areas. There can be no
assurance that the Company will not continue to incur losses, that the Company
will be able to raise cash as necessary to fund operations or that the Company
will be able to maintain profitability.
Intense Competition. The primary industry in which the Company competes,
minimally invasive surgery, is dominated by two large, well-positioned entities
that are intensely competitive and frequently offer substantial discounts as a
competitive tactic. U.S. Surgical, which is being acquired by Tyco International
Ltd., is primarily engaged in developing, manufacturing and marketing surgical
wound management products, and has historically been the firm most responsible
for providing products that led to the growth of the industry. U.S. Surgical
supplies a broad line of products to the M.I.S. industry, including products
which facilitate access, assessment and treatment. The merger with Tyco is
expected to significantly expand the combined product offering to the M.I.S.
industry. The Ethicon Endosurgery Division of Johnson & Johnson has made a major
investment in the M.I.S. field in recent years and the parent company is one of
the leading suppliers of hospital products in the world. Furthermore, U.S.
Surgical and Ethicon each utilize purchasing contracts that link discounts on
the purchase of one product to purchases of other products in their broad
product lines. Substantially all of the hospitals in the United States have
purchasing contracts with one or both of these entities. Accordingly, customers
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may be dissuaded from purchasing access products from the Company rather than
U.S. Surgical or Ethicon to the extent it would cause them to lose discounts on
products that they regularly purchase from U.S. Surgical or Ethicon.
The Company faces a formidable task in successfully gaining significant
revenues within the M.I.S. access market. In order to succeed, management
believes that the Company will need to objectively demonstrate substantial
product benefits, and its sales effort must be able to effectively present such
benefits to both clinicians and health care administrators. The M.I.S. access
market is dominated by U.S. Surgical and Ethicon. Both entities have introduced
new access devices since InnerDyne entered the M.I.S. access market. A number of
other entities participate in various segments of the M.I.S. market, including
access.
There can be no assurance that the Company will be able to successfully
compete in the M.I.S. access market, and failure to do so would have a material
adverse effect on the Company's business, financial condition and results of
operations.
In the thermal ablation market, the primary competition for the EnAbl
System is current therapies for the treatment of excessive menstrual bleeding,
including drug therapy, dilatation and curettage, surgical endometrial ablation
and hysterectomy. The EnAbl System will also compete against other techniques
under development and initial introduction for the treatment of excessive
menstrual bleeding, including endometrial ablation techniques that employ RF
energy or freezing techniques ("cryoablation") and the uterine balloon therapy
system being commercialized by GyneCare, Inc., a unit of Johnson & Johnson.
Additionally, there are other companies developing alternative methods of
uterine tissue ablation that compete with the EnAbl System. There can be no
assurance that these companies will not succeed in developing technologies and
products that are more effective than any which have been or are being developed
or that would render the Company's technologies or products obsolete or not
competitive. Such competition could have a material adverse effect on the
Company's business, financial condition and results of operations. As a result
of the entry of large and small companies into the market, the Company expects
competition for devices and systems used to treat excessive menstrual bleeding
to increase.
Continued Dependence on Products. To date, substantially all of the
Company's revenues from product sales are attributable to Step products, and
InnerDyne currently anticipates that sales of Step products will represent the
majority of the Company's revenues for the immediate future. Accordingly, the
success of the Company is largely dependent upon increased market acceptance of
its Step product line by the medical community as a reliable, safe and
cost-effective access product for minimally invasive surgery. InnerDyne
commenced commercial sales of its Step product in the fourth quarter of 1994,
and to date sales have been made to a relatively limited number of physicians
and hospitals. Recommendations and endorsements by influential members of the
medical community are important for the increased market acceptance of the
Company's Step products, and there can be no assurance that existing
recommendations or endorsements will be maintained or that new ones will be
obtained. Failure to increase market acceptance of the Company's Step products
would have a material adverse effect upon the Company's business, financial
condition and results of operations.
Reliance on Future Products and New Applications; Uncertainty of Technology
Changes. The medical device industry is characterized by innovation and
technological change. The Company has made significant investments in
researching and developing its proprietary technologies, including radial
dilation, thermal ablation and biocompatible coatings. During 1998, the Company
introduced the Open-Step and One-Step, which are further enhancements of its
Step product line. InnerDyne also launched the radially expanding vascular
access system ("REVAS") product line in 1998. The REVAS product line allows a
physician to gain vascular access through the femoral, or brachial arteries. The
future success of the Company will depend in part on the timely commercial
introduction and market acceptance of these products. There can be no assurance
that these products will be timely introduced in commercial quantities, if at
all, or that such products will achieve market acceptance. A failure by the
Company to timely introduce such products or a failure of such products to
achieve market acceptance could have a material adverse effect on the Company's
business, financial condition
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and results of operations. The future success of the Company will also depend
upon, among other factors, the ability to develop and gain regulatory clearance
for new and enhanced versions of products in a timely fashion. There can be no
assurance that the Company will be able to successfully develop new products or
technologies, manufacture new products in commercial volumes, obtain regulatory
approvals on a timely basis or gain market acceptance of such products. Delays
in development, manufacturing, regulatory approval or market acceptance of new
or enhanced products could have a material adverse impact on the Company's
business, financial condition and results of operations.
Limited Manufacturing Experience; Compliance with Good Manufacturing
Practices. The Company initiated manufacture of commercial quantities of its
Step access device in its Salt Lake City, Utah facility during late 1994.
Accordingly, the Company has limited experience in manufacturing M.I.S. access
products or other products in commercial quantities at acceptable costs. The
Company's success will depend in part on its ability to manufacture its products
in compliance with FDA and QSR regulations and other regulatory requirements in
sufficient quantities and on a timely basis, while maintaining product quality
and acceptable manufacturing costs. Manufacturers often encounter difficulties
in scaling up production of new products, including problems involving
production yields, quality control and assurance, component supply and shortages
of qualified personnel. In connection with its ISO 9001 certification, InnerDyne
now undergoes periodic audits by a regulatory body. The Company believes that
regulatory changes recently introduced by the FDA will result in a system of
United States regulatory requirements for manufacturers of medical devices which
more closely resembles the ISO 9000 series of quality systems standards adopted
by most European countries. Failure to maintain satisfactory regulatory system
compliance could have a significant impact on the Company's ability to continue
to manufacture and distribute its products and, in the most serious cases,
result in the seizure or recall of products. Failure to maintain production
volumes or increase production volumes in a timely or cost-effective manner
would have a material adverse effect on the Company's business, financial
condition
Potential Fluctuations in Operating Results. The Company's quarterly
operating results have in the past fluctuated and will continue to fluctuate
significantly in the future depending on the timing and shipment of product
orders, new product introductions and changes in pricing policies by the Company
or its competitors, the timing and market acceptance of the Company's new
products and product enhancements, the continued market acceptance of
InnerDyne's Step product line by the medical community, the Company's product
mix, the mix of distribution channels through which the Company's products are
sold, the extent to which the Company recognizes non-product revenues during a
quarter, and the Company's ability to obtain sufficient supplies of sole or
limited source components for its products. In particular, fluctuations in
production volumes affect gross margins from quarter to quarter. Furthermore,
gross margins and net income or loss can fluctuate from quarter to quarter to
the extent the Company recognizes non-product revenue during a quarter because
the Company typically derives higher margins from non-product revenue than from
product sales. In response to competitive pressures or new product
introductions, the Company may take certain pricing or other actions that could
materially and adversely affect the Company's operating results. In addition,
new product introductions by the Company could contribute to quarterly
fluctuations in operating results as orders for new products commence and orders
for existing products decline.
The Company's expense levels are based, in part, on its expectations of
future revenues. Because a substantial portion of the Company's revenue in each
quarter normally results from orders booked and shipped in the final weeks of
that quarter, revenue levels are extremely difficult to predict. If revenue
levels are below expectations, net income will be disproportionately affected
because only a small portion of the Company's expenses varies with its revenue
during any particular quarter. In addition, the Company typically does not
operate with any material backlog as of any particular date.
As a result of the foregoing factors and potential fluctuations in
operating results, results of operations in any particular quarter should not be
relied upon as an indicator of future performance. In addition, in some future
quarter the Company's operating results may be below the expectations of public
market analysts and investors. In such event, the price of the Company's Common
Stock would likely be materially and adversely affected.
Reliance on Collaborative Relationships; Restrictions on Activities. The
Company has entered into, and intends to continue to pursue, collaborative
arrangements with corporations and research institutions with respect to the
research,
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development, regulatory approval and marketing of certain of its potential
products. InnerDyne's future success may depend, in part, on its relationship
with such third parties, their strategic interest in the potential products
under development and, eventually, their success in marketing or willingness to
purchase any such products. The Company's existing and anticipated contracts
with such third parties may restrict the rights of InnerDyne to engage in
certain areas of product development, manufacturing and marketing. In addition,
these third parties may have the unilateral right to terminate any such
arrangement without significant penalty. There can be no assurance that
InnerDyne will be successful in establishing or maintaining any such
collaborative arrangements or that any such arrangements will be successful.
Limited Sales, Marketing and Distribution Experience. InnerDyne began
commercial sales of its first M.I.S. access product in the fourth quarter of
1994 and, therefore, has limited sales, marketing and distribution experience.
The Company is marketing its M.I.S. access products mainly to general surgeons,
gynecologists and pediatric laparoscopists. In the United States, InnerDyne
markets its products primarily through direct representatives who are employed
by the Company within selected geographical areas and a network of independent
sales representatives who typically sell other complementary M.I.S. products to
the same customer base. If the need arises, the Company may expand its sales
force, which will require recruiting and training additional personnel. There
can be no assurance that the Company will be able to recruit and train such
additional personnel in a timely fashion. Loss of a significant number of
InnerDyne's current sales personnel or independent sales representatives, or
failure to attract additional personnel, could have a material adverse effect on
the Company's business, financial condition and results of operations.
The Company expects to market its products outside of the United States
through international distributors in selected foreign countries after
regulatory approvals, if necessary, are obtained. Although InnerDyne currently
has relationships with a limited number of international distributors, there can
be no assurance that the Company will be able to build a network of
international distributors capable of effectively marketing its M.I.S. access
products or that such distributors will generate significant sales of such
products. The Company has limited experience in marketing its products and faces
substantial competition from well entrenched and formidable competitors. As a
result, there can be no assurance that the Company will successfully achieve
acceptable levels of product sales at prices which provide an adequate return.
Failure to do so would have a material adverse effect on the Company's business,
financial condition and results of operations.
Patents and Proprietary Rights. The Company's success will depend in large
part on its ability to obtain patent protection for products and processes, to
preserve its trade secrets and to operate without infringing the proprietary
rights of third parties. Although InnerDyne has obtained certain patents and
applied for additional United States and foreign patents covering certain
aspects of its technology, no assurance can be given that any additional patents
will be issued or that the scope of any patent protection will exclude
competitors or provide a competitive advantage, or that any of the Company's
patents will be held valid if subsequently challenged. The validity and breadth
of claims covered in medical technology patents involves complex legal and
factual questions and therefore may be highly uncertain. InnerDyne also relies
upon unpatented trade secrets, and no assurance can be given that others will
not independently develop or otherwise acquire substantially equivalent trade
secrets. In addition, whether or not the Company's patents are issued, others
may hold or receive patents that contain claims having a scope that covers
products developed by InnerDyne.
There has been substantial litigation regarding patent and other
intellectual property rights in the medical device industry, and companies in
the medical device industry have used litigation to gain competitive advantage.
Litigation involving the Company would result in substantial cost to and
diversion of management attention from the day-to-day operation of the business,
but could be necessary to enforce patents issued to the Company, to protect
trade secrets and other specialized knowledge unknown to outside parties, to
defend the Company against claimed infringement of the rights of others or to
determine the scope and validity of the proprietary rights of others. An adverse
determination in litigation could subject the Company to significant liabilities
to third parties, could require the Company to seek licenses from third parties
under less favorable terms than might otherwise be possible and could prevent
the Company from manufacturing, selling or using its products, any of which
could have a material adverse effect on the Company's business, financial
condition and results of operations.
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The Company has in the past, and may in the future, receive correspondence
from third parties claiming that the Company's products or technology infringe
intellectual property rights of such third parties. The Company and its patent
counsel thoroughly review such claims, and no such outstanding claims currently
exist. However, there can be no assurance that InnerDyne will not receive
additional claims that its products or technology infringe third party rights or
that third parties will not litigate such claims. Any such occurrence could have
a material adverse effect on the Company's business, financial condition and
results of operations.
Government Regulation. Clinical testing, manufacture and sale of the
Company's products, including the Step product line, the EnAbl System and the
Company's biocompatible coating technology, are subject to regulation by the FDA
and corresponding state and foreign regulatory agencies. Pursuant to the Federal
Food, Drug, and Cosmetic Act, and the regulations promulgated thereunder, the
FDA regulates the preclinical and clinical testing, manufacture, labeling,
distribution and promotion of medical devices. Noncompliance with applicable
requirements can result in, 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 approvals and criminal
prosecution. The FDA also has the authority to mandate recall, repair,
replacement or refund of the cost of any device manufactured or distributed by
the Company.
Before a new device can be introduced in the market, the manufacturer must
generally obtain FDA clearance of 510(k) notification or approval of a
Pre-market Approval ("PMA"). A PMA application must be filed if a proposed
device is not substantially equivalent to a legally marketed Class I or Class II
device, or if it is a Class III device for which the FDA has called for PMAs.
The PMA process can be expensive, uncertain and lengthy, and a number of devices
for which FDA approval has been sought by other companies have never been
approved for marketing. The EnAbl System is subject to the PMA approval process
prior to marketing within the United States. There can be no assurance that the
necessary regulatory approval can be obtained on a timely basis, or at all, and
a delay in receipt of or failure to receive such approval could have a material
adverse effect on the Company's business, financial condition and results of
operations.
A 510(k) clearance will be granted if the submitted information establishes
that the proposed device is "substantially equivalent" to a legally marketed
Class I or Class II medical device or a Class III medical device for which the
FDA has not called for PMAs. For any of the Company's devices cleared through
the 510(k) process, modifications or enhancements that could significantly
affect the safety or effectiveness of the device or that constitute a major
change to the intended use of the device will require a new 510(k) submission.
There can be no assurance that the Company will obtain 510(k) premarket
clearance within a reasonable time frame, or at all, for any of the devices or
modifications for which it may file a 510(k).
The Company has received clearance from the FDA for the marketing of its
Step device for use in accessing the abdominal and thoracic cavities for the
performance of minimally invasive surgical procedures. The Company has also
received FDA clearance for the marketing of its R.E.D. product for use in the
areas of gastrostomy, cystostomy, cholecystotomy, the dilation of biliary and
urethral strictures, laparoscopy and enterostomy. The Company has also received
market clearance for alternative versions of its Step and R.E.D. products,
including products designed to employ its radial dilation technology in vascular
and arthroscopic applications and for biliary indications. Although the Company
has been successful in preparing requests for 510(k) clearance, there can be no
assurance that 510(k) clearances for future products or product modifications
can be obtained in a timely manner or at all, or that any existing clearance can
be successfully maintained. A delay in receipt of, or failure to receive or
maintain, such clearances would have a material adverse effect on the Company's
business, financial condition and results of operations. Although the Company is
strictly limited to marketing its products for the indications for which they
were cleared, physicians are not prohibited by the FDA from using the products
for indications other than those cleared by the FDA. There can be no assurance
that the Company will not become subject to FDA action resulting from physician
use of its products outside of their approved indications.
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The Company has made modifications to its cleared devices that the Company
believes do not require the submission of new 510(k) notices. There can be no
assurance, however, that the FDA would agree with any of the Company's
determinations not to submit a new 510(k) notice for any of these changes or
would not require the Company to submit a new 510(k) notice for any of the
changes made to the device. If the FDA requires the Company to submit a new
510(k) notice for any device modification, the Company may be prohibited from
marketing the modified device until the 510(k) notice is cleared by the FDA.
Any devices manufactured or distributed by the Company pursuant to FDA
clearance or approval are subject to pervasive and continuing regulation by the
FDA and certain state agencies and various foreign governments. Manufacturers of
medical devices for marketing in the United States are required to adhere to
applicable regulations setting forth detailed GMP and QSR requirements, which
include testing, control and documentation requirements. Manufacturers must also
comply with Medical Device Reporting ("MDR") requirements that a firm 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 be likely to cause or contribute to a death
or serious injury.
The Company is registered as a manufacturer of medical devices with the
FDA. The Company is subject to routine inspection by the FDA and certain state
agencies for compliance with GMP requirements, MDR requirements and other
applicable regulations. Failure of the Company to maintain satisfactory GMP
compliance could have a significant adverse effect on the Company's ability to
continue to manufacture and distribute its products and, in the most serious
cases, could result in the seizure or recall of products, injunctions and/or
civil fines.
Dependence on Sole Sources. The materials utilized in the Company's
products consist of both standard and custom components that are purchased from
a variety of independent sources. The parts used in the Step product are
injection molded or produced to the Company's specifications by outside vendors.
The majority of these parts are produced utilizing molds that have been
specially machined for and are owned by the Company. Although the Company
maintains significant inventories of molded parts, any inability to utilize
these molds for any reason might have a material adverse effect on the Company's
ability to meet its customers' demand for product. In addition to plastic parts
produced from injection molds owned by the Company, a number of other materials
are available only from a limited number of sources at the present time,
including the sheath component of the Company's Step products. Efforts to
identify and qualify additional sources of this sheath component and other key
materials and components are underway. Although InnerDyne believes that
alternative sources of these components can be obtained, internal testing and
qualification of substitute vendors could require significant lead times and
additional regulatory submissions. There can be no assurance that such internal
testing and qualification or additional regulatory approvals will be obtained in
a timely fashion, if at all. Any interruption of supply of raw materials could
have a material adverse effect on the Company's ability to manufacture its
products and, therefore, on its business, financial condition and results of
operations.
Uncertainty Relating to Third Party Reimbursement. In the United States,
health care providers that purchase medical devices, such as the Company's
products, generally rely on third-party payors, principally federal Medicare,
state Medicaid and private health insurance plans, to reimburse all or part of
the cost of the procedure in which the medical device is being used. In
addition, certain health care providers are moving toward a managed care system
in which such providers contract to provide comprehensive health care for a
fixed cost per person. Managed care providers are attempting to control the cost
of health care by authorizing fewer elective surgical procedures. The Company is
unable to predict what changes will be made in the reimbursement methods
utilized by third-party health care payors. Furthermore, the Company could be
adversely affected by changes in reimbursement policies of governmental or
private health care payors, particularly to the extent any such changes affect
reimbursement for procedures in which the Company's products are used. Failure
by physicians, hospitals and other users of the Company's products to obtain
sufficient reimbursement from health care payors for procedures in which the
Company's products are used or adverse changes in governmental and private
third-party payors' policies toward reimbursement for such procedures would have
a material adverse effect on the Company's business, financial condition and
results of operations.
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<PAGE> 21
If the Company obtains the necessary foreign regulatory approvals, market
acceptance of the Company's products in international markets would be
dependent, in part, upon the availability of reimbursement within prevailing
health care payment systems. Reimbursement and health care payment systems in
international markets vary significantly by country, and include both
government-sponsored health care and private insurance. The Company intends to
seek international reimbursement approvals, although there can be no assurance
that any such approvals will be obtained in a timely manner, if at all, and
failure to receive international reimbursement approvals could have an adverse
effect on market acceptance of the Company's products in the international
markets in which such approvals are sought.
Dependence on International Sales. In the future, the Company expects to
derive a substantial portion of its revenue from international sales. As a
result, a significant portion of the Company's revenues could be subject to the
risks associated with international sales, including economic or political
instability, shipping delays, changes in applicable regulatory policies,
fluctuations in foreign currency exchange rates and various trade restrictions,
all of which could have a significant impact on the Company's ability to deliver
products on a competitive and timely basis. Future imposition of, or significant
increases in the level of, customs duties, import quotas or other trade
restrictions could have an adverse effect on the Company's business, financial
condition and results of operations. The regulation of medical devices,
particularly in the European Economic Community and Japan, continues to expand,
and there can be no assurance that new laws or regulations will not have an
adverse effect on the Company.
Dependence on Key Personnel. InnerDyne is dependent upon a limited number
of key management and technical personnel. The Company's future success will
depend in part upon its ability to attract and retain highly qualified
personnel. The Company will compete for such personnel with other companies,
academic institutions, government entities and other organizations. There can be
no assurance that the Company will be successful in hiring or retaining
qualified personnel. The loss of key personnel or the inability to hire or
retain qualified personnel could have a material adverse effect on the Company's
business, financial condition and results of operations.
Product Liability; Claims in Excess of Insurance Coverage. The development,
manufacture and sale of the Company's products entail the risk of product
liability claims, involving both potential financial exposure and associated
adverse publicity. The Company's current product liability insurance coverage
limits are $2,000,000 per occurrence and $2,000,000 in the aggregate, and there
can be no assurance that such coverage limits are adequate to protect the
Company from any liabilities it might incur in connection with the development,
manufacture and sale of its current and potential products. In addition, the
Company may require increased product liability insurance. Product liability
insurance is expensive and may not be available in the future on acceptable
terms, or at all. In addition, if such insurance is available, there can be no
assurance that the limits of coverage of such policies will be adequate. A
successful product liability claim in excess of the Company's insurance coverage
could have a material adverse effect on the Company's business, financial
condition and results of operations.
Stock Price Volatility. The stock market in general and stocks of medical
device companies in particular, have from time to time experienced significant
price and volume fluctuations that are unrelated to the operating performance of
particular companies. These broad market fluctuations may adversely affect the
market price of the Company's Common Stock. In addition, the market price of the
Company's Common Stock has been and is likely to continue to be highly volatile.
Factors such as fluctuations in the Company's operating results, announcements
of technological innovations or new products by the Company or its competitors,
FDA and international regulatory actions, actions with respect to reimbursement
matters, developments with respect to patents or proprietary rights, public
concern as to the safety of products developed by the Company or others, changes
in health care policy in the United States and internationally, changes in stock
market analyst recommendations regarding the Company, other medical device
companies or the medical device industry generally or general market conditions
may have a significant effect on the market price of the Company's Common Stock.
Environmental Regulations. The Company is subject to a variety of local,
state and federal governmental regulations relating to the use, storage,
handling, manufacture and disposal of toxic and other hazardous substances used
to
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<PAGE> 22
manufacture the Company's products. The Company believes that it is currently in
compliance in all material respects with applicable governmental environmental
regulations. Nevertheless, the failure by the Company to comply with current or
future environmental regulations could result in the imposition of substantial
fines on the Company, suspension of production, alteration of its manufacturing
processes or cessation of operations. Compliance with such regulations could
require the Company to acquire expensive remediation equipment or to incur
substantial expenses. Any failure by the Company to control the use, disposal,
removal or storage of, or to adequately restrict the discharge of, or assist in
the cleanup of, hazardous or toxic substances, could subject the Company to
significant liabilities, including joint and several liability, under certain
statutes. The imposition of such liabilities could have a material adverse
effect on the Company's business, financial condition, and results of
operations.
Control by Directors and Principal Stockholders. As of September 30, 1998,
directors and principal stockholders of the Company, and certain of their
affiliates, beneficially owned approximately 25% of the Company's outstanding
Common Stock. Accordingly, these persons, as a group, may be able to control the
Company and significantly affect the direction of the Company's affairs and
business, including any determination with respect to the acquisition or
disposition of assets by the Company, future issuances of Common Stock or other
securities by the Company and the election of directors. Such concentration of
ownership may also have the effect of delaying, deferring or preventing a change
in control of the Company.
Anti-Takeover Effect of Certain Charter Provisions of Common Stock.
Provisions of the Company's Certificate of Incorporation that allow the Company
to issue Preferred Stock without any vote or further action by the stockholders,
the fact that the Company's Certificate of Incorporation does not permit
stockholders to cumulate votes in the election of directors, as well as the
Company's adoption of a poison pill Preferred Share Purchase Rights plan in
September 1997 may have the effect of making it more difficult for a third party
to acquire, or of discouraging a third party from attempting to acquire, control
of the Company. Certain provisions of Delaware law applicable to the Company
could also delay or make more difficult a merger, tender offer or proxy contest
involving the Company, including Section 203, which prohibits a Delaware
corporation from engaging in any business combination with any interested
stockholder for a period of three years unless certain conditions are met. The
possible issuance of Preferred Stock, the inability of stockholders to cumulate
votes in the election of directors, the poison pill and provisions of Delaware
law could have the effect of delaying, deferring or preventing a change in
control of the Company, including without limitation, discouraging a proxy
contest or making more difficult the acquisition of a substantial block of the
Company's Common Stock. The possible issuance of Preferred Stock, the poison
pill and these provisions could also limit the price that investors might be
willing to pay in the future for shares of the Company's Common Stock.
Risks Associated With Software and Hardware and the Year 2000. InnerDyne
relies on a variety of internal computer systems and programs in the operation
of its business. The Company is currently in the process of testing and
upgrading, where necessary, the software and hardware products used in its
operations with respect to the year 2000 issue. The Company expects that it will
complete its assessment of the impact of the year 2000 problem upon such systems
by February 1999. However, InnerDyne believes that any of such systems which are
mission-critical to the Company's business operations will be able to recognize
a date using "00" as the year 2000. The Company's internal systems run on
personal computers and microprocessor-based computer servers set up in a
workstation environment and should not be susceptible to universal failures.
Were system failures to occur as a result of the year 2000 issue, the Company
believes that its on-site engineers and technical personnel would be able to
address and resolve such issues prior to the occurrence of any material adverse
effect on the Company's business operations.
The failure of certain of the systems upon which the Company relies, such
as payroll and banking services, could be disruptive to the Company's business
operations if such systems were unavailable for an extended period of time. The
Company is in the process of making inquiries with the providers of such types
of services to determine their year 2000 readiness. However, the Company
believes that its business operations would not be materially adversely effected
by short
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<PAGE> 23
disruptions in such services and that the providers of such services (who also
typically service many other business customers) will take steps to rectify any
failures as soon as possible. More generally, the Company does not believe that
its risks with regard to failures in the power grid or general communications,
building security and similar systems place the Company in a unique position
relative to year 2000 issues as compared to other businesses.
With respect to the Company's products, the Company believes that a
significant risk it faces from the year 2000 is risk that is outside of its
control. Notwithstanding written assurances from the Company's vendors regarding
year 2000 compliance, there is no guarantee that the year 2000 will not cause a
disruption in the supply of critical components. Given the Company's reliance on
suppliers of critical, sole-sourced components, the Company is relying on these
suppliers to address the year 2000 issues in their own products and operations,
and the failure of such suppliers to adequately address these issues could have
a material adverse effect on the Company's business, financial condition and
results of operations. As a contingency plan in the event that any of such
suppliers do not or are unable to address material year 2000 issues, the Company
intends to stockpile an inventory of raw materials and molded parts in order to
maintain a one month backlog of such components.
The Company has not incurred substantial costs to date to address the year
2000 issue and is estimating that the additional cost, if any, that may arise
from actions taken by the Company to address year 2000 problems would not be
deemed material.
Despite the Company's efforts to address the year 2000 impact on its
internal systems and business operations, the year 2000 issue may result in a
material disruption of its business or have a material adverse effect on the
Company's business, financial condition or results of operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not Applicable.
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<PAGE> 24
Part II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not Applicable.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
Not Applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not Applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable
ITEM 5. OTHER INFORMATION
Not Applicable
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27.01: Financial Data Schedule
(b) Reports on Form 8-K: None
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<PAGE> 25
SIGNATURES
Pursuant to the requirements 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.
INNERDYNE, INC.
/s/ Robert A. Stern
Robert A. Stern
Vice President and Chief
Financial Officer
(Duly Authorized Signatory,
Principal Financial and Accounting Officer)
Date: November 12, 1998
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<PAGE> 26
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
Exhibit
Number Description
- ------ -----------
<S> <S>
27.01 Financial Data Schedule
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 6,124,895
<SECURITIES> 0
<RECEIVABLES> 2,590,958
<ALLOWANCES> 106,412
<INVENTORY> 1,294,665
<CURRENT-ASSETS> 10,365,074
<PP&E> 3,761,037
<DEPRECIATION> 2,945,011
<TOTAL-ASSETS> 11,226,795
<CURRENT-LIABILITIES> 2,420,276
<BONDS> 0
0
0
<COMMON> 218,402
<OTHER-SE> 8,101,836
<TOTAL-LIABILITY-AND-EQUITY> 11,226,795
<SALES> 11,879,606
<TOTAL-REVENUES> 13,062,138
<CGS> 4,030,218
<TOTAL-COSTS> 13,030,970
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 92,676
<INCOME-PRETAX> 140,727
<INCOME-TAX> 0
<INCOME-CONTINUING> 0
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 140,727
<EPS-PRIMARY> .01
<EPS-DILUTED> .01
</TABLE>
