<PAGE>
- ------------------------------------------------------------------------------
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1998
Commission file number 0-28288
____________________
ECLIPSE SURGICAL TECHNOLOGIES, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
______________________
CALIFORNIA 77-0223740
---------- ----------
(STATE OF INCORPORATION) (I.R.S. EMPLOYER
IDENTIFICATION NUMBER)
559 WEDDELL DRIVE
SUNNYVALE, CALIFORNIA 94089
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(408) 747-0120
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes __X__ No _____
Indicate the number of shares outstanding of each of the issuer's classes
of common stock outstanding as of the latest practicable date.
17,293,158 shares
As of July 31, 1998
- ------------------------------------------------------------------------------
<PAGE>
ECLIPSE SURGICAL TECHNOLOGIES, INC.
TABLE OF CONTENTS
PART 1
FINANCIAL INFORMATION
<TABLE>
<CAPTION>
Page
----
<S> <C> <C>
Item 1. Financial Statements:
a. Consolidated Balance Sheets
as of June 30, 1998 and December 31, 1997 . . . . . . . . . 3
b. Consolidated Statements of Operations
for the three and six months ended June 30, 1998 and 1997 . 4
c. Consolidated Statements of Cash Flows
for the six months ended June 30, 1998 and 1997 . . . . . . 5
d. Notes to 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 . . 18
PART II
OTHER INFORMATION
Item 1. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . 19
Item 2(d). Changes in Securities and Use of Proceeds . . . . . . . . . . . 19
Item 4. Submission of Matters to a Vote of Security Holders . . . . . . 19
Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . . . . 20
Signatures . . . . . . . . . . . . . . . . . . . . . . . . . . 21
</TABLE>
2
<PAGE>
ECLIPSE SURGICAL TECHNOLOGIES, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
ASSETS
<TABLE>
<CAPTION>
JUNE 30, 1998 DECEMBER 31,
(UNAUDITED) 1997
-------------- -------------
<S> <C> <C>
Current assets:
Cash and cash equivalents. . . . . . . . . . . . . . . . . . . . . . . $ 5,527 $ 16,997
Marketable securities. . . . . . . . . . . . . . . . . . . . . . . . . 7,869 18,197
Accounts receivable, net of allowance for doubtful accounts of $945 at
June 30, 1998 and $757 at December 31, 1997, respectively. . . . . . 3,464 2,054
Inventories. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4,399 3,866
Prepaids and other current assets. . . . . . . . . . . . . . . . . . . 449 556
-------- ---------
Total current assets . . . . . . . . . . . . . . . . . . . . . . . . 21,708 41,670
Property and equipment, net. . . . . . . . . . . . . . . . . . . . . . . . 1,130 1,420
Marketable securities. . . . . . . . . . . . . . . . . . . . . . . . . . . 10,702 -
Other assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 471 384
-------- ---------
Total assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 34,011 $ 43,474
-------- ---------
-------- ---------
LIABILITIES
Current liabilities:
Accounts payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,623 $ 3,190
Accrued liabilities . . . . . . . . . . . . . . . . . . . . . . . . . . 1,133 965
Customer deposits . . . . . . . . . . . . . . . . . . . . . . . . . . . 226 71
Note payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,000 1,000
Current portion of long-term debt . . . . . . . . . . . . . . . . . . . 8 10
-------- --------
Total current liabilities. . . . . . . . . . . . . . . . . . . . . . 5,990 5,236
Long-term debt, less current portion . . . . . . . . . . . . . . . . . . . 8 10
-------- --------
Total liabilities. . . . . . . . . . . . . . . . . . . . . . . . . . 5,998 5,246
-------- --------
SHAREHOLDERS' EQUITY
Common stock, no par value:
Authorized: 50,000 shares;
Issued and outstanding: 17,288 shares at June 30, 1998 and 16,858
shares at December 31, 1997 . . . . . . . . . . . . . . . . . . . . . 67,824 66,596
Unrealized gain (loss) on marketable securities. . . . . . . . . . . . . . (26) 50
Accumulated deficit. . . . . . . . . . . . . . . . . . . . . . . . . . . . (39,785) (28,418)
--------- --------
Total shareholders' equity . . . . . . . . . . . . . . . . . . . . . 28,013 38,228
--------- --------
Total liabilities and shareholders' equity . . . . . . . . . . . . . $ 34,011 $ 43,474
--------- --------
--------- --------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements
3
<PAGE>
ECLIPSE SURGICAL TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
1998 1997 1998 1997
--------- --------- --------- --------
<S> <C> <C> <C> <C>
Net revenues . . . . . . . . . . . . . . . . . . . . $ 3,070 $ 1,254 $ 4,645 $ 2,462
Cost of revenues . . . . . . . . . . . . . . . . . . 1,445 634 2,280 1,264
-------- -------- -------- --------
Gross profit. . . . . . . . . . . . . . . . . . . 1,625 620 2,365 1,198
-------- -------- -------- --------
Operating expenses:
Research and development. . . . . . . . . . . . . 4,186 2,917 7,313 5,644
Sales and marketing . . . . . . . . . . . . . . . 2,747 1,466 5,504 2,877
General and administrative. . . . . . . . . . . . 793 1,462 1,681 2,257
-------- -------- -------- --------
Total operating expenses . . . . . . . . . . . 7,726 5,845 14,498 10,778
-------- -------- -------- --------
Operating loss. . . . . . . . . . . . . . . (6,101) (5,225) (12,133) (9,580)
Interest expense . . . . . . . . . . . . . . . . . . (21) - (54) (6)
Interest and other income. . . . . . . . . . . . . . 381 583 820 1,087
-------- -------- -------- --------
Net loss. . . . . . . . . . . . . . . . . . $ (5,741) $ (4,642) $(11,367) $ (8,499)
Unrealized gain (loss) on marketable
securities . . . . . . . . . . . . . . . $ (51) $ 90 $ (26) $ 312
-------- -------- -------- --------
Comprehensive loss . . . . . . . . . . . $ (5,792) $ (4,552) $(11,393) $ (8,187)
-------- -------- -------- --------
-------- -------- -------- --------
Net loss per share: basic and diluted . . . . . . . $ (0.34) $ (0.28) $ (0.67) $ (0.52)
-------- -------- -------- --------
-------- -------- -------- --------
Weighted average shares outstanding: basic and
diluted . . . . . . . . . . . . . . . . . . . . 17,115 16,284 16,998 16,233
-------- -------- -------- --------
-------- -------- -------- --------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements
4
<PAGE>
ECLIPSE SURGICAL TECHNOLOGIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
1998 1997
------------ ------------
<S> <C> <C>
Cash flows from operating activities:
Net loss . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ (11,367) $ (8,499)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization. . . . . . . . . . . . . . . . . . . . . . . . 673 212
Provision for doubtful accounts. . . . . . . . . . . . . . . . . . . . . . . 224 776
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable. . . . . . . . . . . . . . . . (1,634) 141
Increase in inventories . . . . . . . . . . . . . . . . . . . . . . . . . (533) (835)
(Increase) decrease in prepaids and other current assets. . . . . . . . . 107 (448)
Increase (decrease) in accounts payable . . . . . . . . . . . . . . . . . 433 (101)
Increase in customer deposits . . . . . . . . . . . . . . . . . . . . . . 155 -
Increase in accrued liabilities . . . . . . . . . . . . . . . . . . . . . 168 716
--------- ---------
Net cash used in operating activities. . . . . . . . . . . . . . . (11,774) (8,038)
--------- ---------
Cash flows from investing activities:
Purchase of marketable securities. . . . . . . . . . . . . . . . . . . . . . (10,702) -
Sale of marketable securites . . . . . . . . . . . . . . . . . . . . . . . . 10,252 6,836
Acquisition of property and equipment. . . . . . . . . . . . . . . . . . . . (383) (622)
Increase in other assets . . . . . . . . . . . . . . . . . . . . . . . . . . (87) (647)
--------- ---------
Net cash provided by (used in) investing activities. . . . . . . . (920) 5,567
--------- ---------
Cash flows from financing activities:
Net proceeds from issuance of common stock and warrants. . . . . . . . . . . 1,228 588
Payments on short-term borrowings. . . . . . . . . . . . . . . . . . . . . . (2) -
Payments on long-term debt . . . . . . . . . . . . . . . . . . . . . . . . . (2) (37)
--------- ---------
Net cash provided by financing activities. . . . . . . . . . . . . 1,224 551
--------- ---------
Net decrease in cash and cash equivalents. . . . . . . . . . . . (11,470) (1,920)
Cash and cash equivalents at beginning of period . . . . . . . . . . . . . . . . . 16,997 24,106
--------- ---------
Cash and cash equivalents at end of period . . . . . . . . . . . . . . . . . . . . $ 5,527 $ 22,186
--------- ---------
--------- ---------
Supplemental schedule of noncash investing and financing activities:
Unrealized gain (loss) on marketable securities. . . . . . . . . . . . . . . $ (26) $ 312
--------- ---------
--------- ---------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements
5
<PAGE>
ECLIPSE SURGICAL TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies:
INTERIM FINANCIAL INFORMATION (UNAUDITED):
The interim financial statements in this report reflect all adjustments,
consisting of normal recurring adjustments, that are, in the opinion of
management, necessary for a fair presentation of the results of operations and
cash flows for the interim periods covered and of the financial condition of the
Company at the interim balance sheet dates. Results for interim periods are not
necessarily indicative of results to be expected for the full fiscal year. The
year-end balance sheet information was derived from audited financial statements
but does not include all disclosures required by generally accepted accounting
principles. These financial statements should be read in conjunction with the
Company's audited financial statements and notes thereto for the year ended
December 31, 1997, contained in the Company's Annual Report on Form 10-K as
filed with the U.S. Securities and Exchange Commission (SEC).
NET LOSS PER SHARE:
Earnings per share are calculated in accordance with the provisions of
Statement of Accounting Standards No. 128, "Earnings per Share," (SFAS 128).
SFAS 128 requires the Company to report both basic earnings per share, which
is the weighted-average number of common shares outstanding, and diluted
earnings per share, which includes the weighted-average common shares
outstanding and all dilutive potential common shares outstanding. All periods
presented herein have been restated to reflect the adoption of SFAS 128. For
the three and six months ended June 30, 1998 and 1997 dilutive potential
common shares outstanding reflects shares issuable under the Company's stock
option plans.
Basic EPS is computed by dividing loss available to common shareholders
by the weighted average number of common shares outstanding for the period.
Diluted EPS is computed giving effect to all dilutive potential common shares
that were outstanding during the period. Dilutive potential common shares
consist of incremental shares issuable upon the conversion of convertible
preferred stock (using the "if converted" method) and exercise of stock
options and warrants.
In accordance with the disclosure requirements of SFAS 128, a
reconciliation of the numerator and denominator of basic and diluted EPS is
provided as follows (in thousands, except per share amounts):
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
--------------------- ----------------------
1998 1997 1998 1997
---------- --------- ----------- ---------
<S> <C> <C> <C> <C>
Numerator - Basic and Diluted EPS
Loss available to common stockholders . . $ (5,741) $ (4,642) $ (11,367) $ (8,499)
Denominator - Basic and Diluted EPS
Weighted average shares outstanding . . . 17,115 16,284 16,998 16,233
--------- --------- ---------- ---------
Basic and diluted net loss per share . . . . $ (0.34) $ (0.28) $ (0.67) $ (0.52)
--------- --------- ---------- ---------
--------- --------- ---------- ---------
</TABLE>
6
<PAGE>
ECLIPSE SURGICAL TECHNOLOGIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies -- (CONTINUED):
COMPREHENSIVE INCOME:
Comprehensive income is presented in accordance with Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income," and
comprises net income plus revenues, expenses, gains and losses that, under
generally accepted accounting principles, are excluded from net income.
RECENT PRONOUNCEMENTS:
In June 1997, FASB issued Statement of Financial Accounting Standards
No. 131, "Disclosures About Segments of an Enterprise and Related
Information" ("SFAS 131"), which supersedes SFAS 14, "Financial Reporting for
Segments of a Business Enterprise." SFAS 131 changes current practice under
SFAS 14 by establishing a new framework on which to base segment reporting
and also requires interim reporting of segment information. The Company is
evaluating the impact of SFAS 131 which is effective for the Company's fiscal
year ended December 31, 1998 with interim reporting disclosures required the
first quarter of 1999.
In June 1998, FASB issued Statement of Financial Accounting Standards
No. 133, "Accounting for Derivative instruments and Hedging Activities"
("SFAS 133") which is effective for all fiscal quarters of fiscal years
beginning after June 15, 1999. SFAS 133 establishes accounting and reporting
standards for derivative instruments, including certain derivative
instruments embedded in other contracts, and for hedging activities. The
Company does not use derivative instruments and is not involved in hedging
activities and has no plans to do so given the Company's current business
operations.
2. Inventories:
Inventories are stated at lower of cost (first-in, first-out) or market
and consist of the following (in thousands):
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1998 1997
---------- ------------
(UNAUDITED)
<S> <C> <C>
Raw materials. . . . . . . . . . . . . . . . $ 1,716 $ 1,446
Work in process. . . . . . . . . . . . . . . 338 -
Finished goods . . . . . . . . . . . . . . . 2,345 2,420
-------- --------
$ 4,399 $ 3,866
-------- --------
-------- --------
</TABLE>
7
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
THIS MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS CONTAINS DESCRIPTIONS OF THE COMPANY'S EXPECTATIONS
REGARDING FUTURE TRENDS AFFECTING ITS BUSINESS. THESE FORWARD-LOOKING
STATEMENTS AND OTHER FORWARD-LOOKING STATEMENTS MADE ELSEWHERE IN THIS
DOCUMENT ARE MADE IN RELIANCE UPON THE SAFE HARBOR PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995. PLEASE READ THE SECTION BELOW
TITLED "FACTORS THAT MAY AFFECT FUTURE RESULTS" TO REVIEW CONDITIONS WHICH
THE COMPANY BELIEVES COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM
THOSE CONTEMPLATED BY THE FORWARD-LOOKING STATEMENTS. FORWARD-LOOKING
STATEMENTS INCLUDE, BUT ARE NOT LIMITED TO, THOSE ITEMS IDENTIFIED WITH A
FOOTNOTE (1) SYMBOL. THE COMPANY UNDERTAKES NO OBLIGATION TO UPDATE THE
INFORMATION CONTAINED HEREIN.
THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH FINANCIAL
STATEMENTS AND NOTES THERETO INCLUDED IN ITEM 1 OF THIS QUARTERLY REPORT AND
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS CONTAINED IN THE COMPANY'S 1997 ANNUAL REPORT ON FORM 10-K AS
FILED WITH THE SECURITIES AND EXCHANGE COMMISSION (SEC).
OVERVIEW
The Company was founded in 1989 to use laser technology to treat
cardiovascular disease. From 1989 through September 1995, the Company
engaged in research, development and sale of surgical laser products
principally for procedures such as atherectomy and arthroscopy. In 1995, the
Company determined that there was a significant opportunity in the
Transmyocardial Revascularization ("TMR") market, and that the Company was
well-positioned to enter this market because of the Company's expertise with
laser-based surgical techniques and the treatment of cardiovascular disease.
Accordingly, in late 1995, the Company changed its strategic direction to
enter the TMR market.
Prior to 1996, the Company had focused almost exclusively on research
and development activities relating to surgical laser products, substantially
contributing to operating losses since inception. Since 1996, the Company has
focused on TMR and Percutaneous Transmyocardial Revascularization ("PTMR")
activities, particularly research and development activities and clinical
trials. At June 30,1998, the Company had an accumulated deficit of
$39,785,000. Three clinical trials have been concluded and a number of
clinical trials are in progress in either TMR or PTMR. The Company has
submitted an application to the U.S. Food and Drug Administration ("FDA") for
marketing clearance ("PMA" or Pre-Market Approval) of its TMR products in the
United States. The Company received notification from the FDA, dated March
16, 1998, that its PMA application has been accepted for filing, which should
lead to a Circulatory Devices Panel Review. There is no way to predict when
the panel review will be held, nor is there any assurance that the panel will
recommend approval of the Company's products. The Company has received the
European Conforming Marks ("CE Mark") allowing the commercial sale of its TMR
and PTMR products to the European Community.
The Company expects to continue to incur operating losses related to the
expansion of sales and marketing resources, research and development
activities, including clinical studies, and the continued development of
corporate infrastructure(1). The timing and amounts of the Company's
expenditures will depend upon a number of factors, including the progress of
the Company's clinical trials, the status and timing of regulatory approvals,
the timing of market acceptance, if any, of the Company's products, and the
efforts required to develop the Company's sales and marketing organization.
_______________________
(1) Forward-Looking Statement
8
<PAGE>
RESULTS OF OPERATIONS
NET REVENUES
Net revenues increased 145% to $3,070,000 for the three months ended
June 30, 1998 from $1,254,000 for the three months ended June 30, 1997. Net
revenues increased 89% to $4,645,000 for the six months ended June 30, 1998
from $2,462,000 for the six months ended June 30, 1997. These increases
resulted primarily from sales of laser and delivery systems.
The Company's net revenues have continued to be adversely affected by a
Health Care Financing Administration ("HCFA") policy effective May 19, 1997
which restricts Medicare reimbursement for TMR equipment and procedures. The
Company's products had received third party reimbursement under the preceding
HCFA policy. Reimbursement is a significant factor considered by hospitals in
determining whether to acquire new equipment.
Future revenues could continue to be adversely affected by restrictions
on third party reimbursement and the timing and manner of sale of TMR and
PTMR laser systems. The Company intends to continue selling the systems to
the hospital outright (list price is $295,000) or placing the system with the
hospital for a placement fee (currently $25,000) plus an additional fee for
each procedure performed. The Company has also made contingency placements
which the Company has not yet been able to include as revenue because the
sale is contingent upon FDA approval or HCFA reimbursement. As a result of
the HCFA policy restricting Medicare reimbursement for TMR equipment and
procedures, the Company anticipates that these sales will continue to be more
difficult to make in the future than prior to the effective date of the
policy.
GROSS PROFIT
Gross profit increased to $1,625,000 or 53% of net revenues and
$2,365,000 or 51% of net revenues for the three and six months ended June 30,
1998, respectively, as compared to $620,000 or 49% of net revenues and
$1,198,000 or 49% of net revenues in the corresponding periods in 1997.
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenditures increased to $4,186,000 or 136% of
net revenues and $7,313,000 or 157% of net revenues in the three and six
months ended June 30, 1998, respectively, as compared to $2,917,000 or 233%
of net revenues and $5,644,000 or 229% of net revenues in the corresponding
periods in 1997. The increase in these expenses reflected the higher costs
of supporting clinical trials and an increase in research and development
activities.
The Company's products are currently in clinical trials and therefore
subject to limitations by the FDA. The Company believes that continued
investment in the development of new and improved products and procedures and
continued investment in the Company's clinical trials is critical to its
future success(1). As a result of the HCFA policy restricting Medicare
reimbursement for TMR and PTMR equipment and procedures, the Company
reimbursed clinical sites for expenses incurred in conjunction with
performing clinical trials. The Company anticipates a continued increase in
expenditures related to hospital support of the Company's clinical trials as
the number of its clinical trials increases(1). Accordingly, the Company
believes that research and development expenses will continue to increase as
long as HCFA policy restricts reimbursement for the Company's equipment and
procedures(1). There can be no assurance that the Company's future revenues, if
any, will be sufficient to offset the research and development expenses
required in connection with ongoing efforts including current and future
clinical trials.
_______________________
(1) Forward-Looking Statement
9
<PAGE>
SALES AND MARKETING
Sales and marketing expenses increased to $2,747,000 or 89% of revenues
and $5,504,000 or 118% of net revenues for the three and six months ended
June 30, 1998, respectively, compared to $1,466,000 or 117% of net revenues
and $2,877,000 or 117% of net revenues for the three and six months ended
June 30, 1997, respectively. The increases reflected the Company's
application of additional resources to both TMR and PTMR markets, including
the expansion of the international sales staff and related travel expenses.
Additionally, the Company incurred depreciation expense associated with
lasers placed as demonstration units. The Company expects that sales and
marketing expenses will continue to increase as the Company continues to
focus resources on the development of the TMR and PTMR market(1).
GENERAL AND ADMINISTRATIVE
General and administrative expenses decreased to $793,000 or 26% of net
revenues and $1,681,000 or 36% of net revenues for the three and six months
ended June 30, 1998, respectively, as compared to $1,462,000 or 117% of net
revenues and $2,257,000 or 92% of net revenues for the corresponding periods
in 1997, respectively. The decreases were due to reduced outside expenses
related to legal, investor and public relations services.
INTEREST INCOME AND EXPENSE, NET
Interest income decreased 35% to $381,000 and 25% to $820,000 for the
three and six months ended June 30, 1998, respectively, as compared to
$583,000 and $1,087,000 for the corresponding periods of 1997. These
decreases were due to lower cash balances in 1998. Interest expense of
$21,000 and $54,000 for the three and six months ended June 30, 1998,
respectively, increased as a result of a note payable related to the
Company's subsidiary, MicroHeart.
LIQUIDITY AND CAPITAL RESOURCES
Since its inception, the Company has satisfied its capital requirements
primarily through sales of its equity securities and, to a lesser extent,
loans from shareholders. In addition, the Company's operations have been
funded in part through sales of the Company's products. At June 30, 1998, the
Company had aggregate cash and marketable securities of $24,098,000 as
compared to $35,194,000 at December 31, 1997. The Company used $11,774,000
and $8,038,000 for operating activities for the six months ended June 30,
1998 and June 30, 1997, respectively. At June 30, 1998, the Company had an
accumulated deficit of $39,785,000.
The Company anticipates that its current cash and marketable securities,
together with sales of products for investigational use, will be sufficient
to meet the Company's capital requirements through the next 12 months(1).
There can be no assurance, however, that the Company will not require
additional sources of cash at an earlier date in the future, depending upon
the progress of expansion of the Company's clinical trials, any need for
additional clinical trials or other testing of the Company's products, and
the timing of other required expenditures as indicated above. If the Company
is required to obtain additional financing in the future, there can be no
assurance that capital will be available on terms acceptable to the Company,
if at all.
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1997, FASB issued Statement of Financial Accounting Standards
No. 131, "Disclosures About Segments of an Enterprise and Related
Information" ("SFAS 131"), which supersedes SFAS 14, "Financial Reporting for
Segments of a Business Enterprise." SFAS 131 changes current practice under
SFAS 14 by establishing a new framework on which to base segment reporting
and also requires interim reporting of segment information. SFAS 131
- ------------------------
(1) Forward-Looking Statement
10
<PAGE>
is effective for the Company's fiscal year ended December 31, 1998 with
interim reporting disclosures required the first quarter of 1999.
FACTORS THAT MAY AFFECT FUTURE RESULTS
THE COMPANY HAS IDENTIFIED CERTAIN FORWARD-LOOKING STATEMENTS IN THE
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS WITH A FOOTNOTE (1) SYMBOL. THE COMPANY MAY ALSO MAKE ORAL
FORWARD-LOOKING STATEMENTS FROM TIME TO TIME. ACTUAL RESULTS MAY DIFFER
MATERIALLY FROM THOSE PROJECTED IN ANY SUCH FORWARD- LOOKING STATEMENTS DUE
TO A NUMBER OF FACTORS, INCLUDING THOSE SET FORTH BELOW AND ELSEWHERE IN THIS
FORM 10-Q.
THE COMPANY OPERATES IN A DYNAMIC AND RAPIDLY CHANGING ENVIRONMENT THAT
INVOLVES NUMEROUS RISKS AND UNCERTAINTIES. THE FOLLOWING SECTION LISTS SOME,
BUT NOT ALL, OF THOSE RISKS AND UNCERTAINTIES WHICH MAY HAVE A MATERIAL
ADVERSE EFFECT ON THE COMPANY'S BUSINESS, FINANCIAL CONDITION OR RESULTS OF
OPERATIONS. THIS SECTION SHOULD BE READ IN CONJUNCTION WITH THE UNAUDITED
CONSOLIDATED FINANCIAL STATEMENTS AND NOTES THERETO INCLUDED IN PART I --ITEM
1 OF THIS QUARTERLY REPORT ON FORM 10-Q AND THE UNAUDITED FINANCIAL
STATEMENTS THERETO AND MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 1997,
CONTAINED IN THE COMPANY'S 1997 ANNUAL REPORT TO STOCKHOLDERS ON FORM 10-K.
NO ASSURANCE OF FDA OR OTHER REQUIRED GOVERNMENTAL APPROVALS
The Company's TMR and PTMR products are regulated in the U.S. as medical
devices by the FDA under the Federal Food, Drug, and Cosmetic Act ("FD&C
Act") and, as such, require FDA approval of a PMA application prior to
commercial sale in the U.S. The FDA approves PMA applications for specific
indications only and FDA regulation prohibits commercial marketing in the
U.S. of devices for indications that have not been approved by the FDA. The
process of obtaining required regulatory approvals from the FDA and other
regulatory authorities is lengthy, expensive and inherently uncertain,
generally takes several years or longer to complete, if approval is obtained
at all, and requires the submission of extensive clinical data and supporting
information to the FDA.
A necessary prerequisite for submitting a PMA application is completion
of clinical testing to demonstrate the safety and effectiveness of the
Company's TMR and PTMR products. On July 1, 1997, the Company initially
submitted a PMA application to the FDA for use of the Eclipse laser system to
treat patients with Class IV angina (chest pain) caused by coronary artery
disease using the TMR procedure. Thereafter, the Company amended this
application and on March 16, 1998 the FDA accepted the amended application
for filing. The Company is awaiting notification of an appearance date before
the FDA review panel, which is the next step in the process to obtain a PMA.
On May 16, 1996 the Company received an Investigational Device Exemption
("IDE") from the FDA to begin another clinical trial studying TMR in
conjunction with bypass surgery, compared to bypass surgery alone. This
trial was halted due to positive safety results in March, 1998. Follow-up
data from this trial is being collected.
On May 30, 1997, the Company received an IDE from the FDA to begin its
first PTMR clinical trial, comparing patients treated with PTMR to patients
receiving only drug therapy. In November 1997, the FDA gave the Company
authorization to begin Phase II of this trial. On October 17, 1997, the
Company received an IDE from the FDA, authorizing commencement of Phase I of
another PTMR clinical trial, studying PTMR in conjunction with balloon
angioplasty also known as percutaneous transluminal coronary angioplasty
("PTCA") or various other interventional procedures, compared to patients
receiving only PTCA or other interventions. On April 24, 1998, the FDA gave
the Company authorization to begin Phase II of this trial. The FDA review
process can be lengthy and its results are uncertain. There can be no
assurance as to whether or when the FDA will approve any of these
applications, which would have a material adverse impact on the Company's
business, financial condition and operating results.
Completion of the Company's clinical studies on a timely basis will
depend, among other things, on the Company's ability to successfully
establish TMR and PTMR sites and continue to identify and enroll
participating patients in a timely fashion. In addition, the clinical studies
will require substantial financial and management resources. There can be no
assurance that the Company will have the resources necessary to complete such
clinical
11
<PAGE>
studies. Furthermore, there can be no assurance that the Company's clinical
studies will be completed within the currently anticipated time frame or
otherwise in a timely manner, nor that such clinical studies will demonstrate
the safety and effectiveness of the Company's products to the extent
necessary to obtain FDA and other regulatory approvals and establish a
commercial market for the Company's products. Moreover, results of initial
clinical testing are not necessarily predictive of results to be achieved in
later clinical studies, if undertaken, or commercially, if a PMA is obtained.
Failure to complete the Company's clinical studies in a timely manner or to
demonstrate the safety and effectiveness of the Company's TMR or PTMR
products could delay or prevent regulatory approval and would materially and
adversely affect the Company's business, financial condition and operating
results.
The Company will also be required to follow applicable Good
Manufacturing Practices ("GMP") regulations of the FDA, which include
testing, control and documentation requirements, as well as similar
requirements in other countries, including International Standards
Organization ("ISO") 9001 standards. Although the Company became 9001
certified in May 1997, failure to meet or to continue to satisfy these
requirements in the future would preclude the Company from marketing its
products on a commercial basis, and therefore would materially and adversely
affect the Company's business, financial condition and operating results.
Sales of medical devices outside of the U.S. are subject to foreign
regulatory requirements that vary widely by country. In addition, the FDA
must approve the export of devices that require a PMA but are not yet
approved domestically. Foreign and domestic regulatory approvals, if
granted, may include significant limitations on the indicated uses for which
the product may be marketed. In addition, to obtain such approvals, medical
device manufacturers must comply with numerous other requirements of the FDA
and certain foreign regulatory authorities. For example, the European
Conforming Mark (the "CE Mark") is required to sell products in European
Union countries. The Company received CE Markings for its TMR laser in
December 1996 and for its PTMR laser in July 1998. However, product
approvals can be withdrawn due to various factors, including failure to
comply with regulatory standards or unforeseen problems following initial
marketing.
RISKS ASSOCIATED WITH NEW SURGICAL PROCEDURES; NO ASSURANCE OF MARKET ACCEPTANCE
The Company's ability to successfully commercialize its TMR and PTMR
products will depend upon its ability to achieve acceptance of its products
and procedures among cardiologists, cardiac surgeons and other members of the
medical community as well as prospective patients. The Company believes that
it will not achieve such acceptance until such time, if any, as the Company's
TMR or PTMR products can be demonstrated to be safe, efficacious and
cost-effective. Even if the clinical safety and effectiveness of the
Company's TMR products is established, cardiologists, cardiac surgeons and
other members of the medical community may elect not to recommend TMR or PTMR
for any number of other reasons. Broad use of the Company's products will
require training of numerous physicians, and the time required to complete
such training could adversely affect market acceptance. Moreover, even if TMR
and PTMR become generally accepted by the medical community, physicians
trained in competitive products may elect not to consider the Company's
products, or may elect instead to recommend a competitor's products. Failure
of the Company's products to achieve significant market acceptance would
materially and adversely affect the Company's business, financial condition
and operating results.
DEPENDENCE ON SINGLE PRODUCT LINE
The Company has elected to focus its resources on the continued
development and refinement of its TMR and PTMR products. If the Company is
unable to obtain requisite regulatory approvals or to achieve commercial
acceptance of these products, the Company's business, financial condition
and operating results would be materially and adversely affected, which could
result in cessation of the Company's business.
UNCERTAINTY REGARDING PATENTS AND PROTECTION OF PROPRIETARY TECHNOLOGY; RISKS OF
FUTURE LITIGATION
The Company's success will depend, in part, on its ability to obtain
patent protection for its products, preserve its trade secrets, and operate
without infringing the proprietary rights of others. The Company's policy is
to seek to
12
<PAGE>
protect its proprietary position by, among other methods, filing U.S. and
foreign patent applications related to its technology, inventions and
improvements that are important to the development of its business. Although
the Company has a number of patents and patent applications pending relating
to various aspects of TMR, PTMR and other cardiovascular therapies, there can
be no assurance that any of the Company's patents or patent applications will
not be challenged, invalidated or circumvented in the future or that the
rights granted thereunder will provide a competitive advantage. The Company
intends to vigorously protect and defend its intellectual property. It is
uncertain whether patent protection will continue to be available for
surgical methods in the future. Costly and time-consuming litigation brought
by the Company may be necessary to enforce patents issued to the Company, to
protect trade secrets or know- how owned by the Company, or to determine the
enforceability, scope and validity of the proprietary rights of others.
The Company also relies upon trade secrets, technical know-how and
continuing technological innovation to develop and maintain its competitive
position. The Company typically requires its employees, consultants and
advisors to execute confidentiality and assignment of inventions agreements
in connection with their employment, consulting or advisory relationships
with the Company. There can be no assurance, however, that these agreements
will not be breached or that the Company will have adequate remedies for any
breach. Furthermore, no assurance can be given that competitors will not
independently develop substantially equivalent proprietary information and
techniques or otherwise gain access to the Company's proprietary technology,
or that the Company can meaningfully protect its rights in unpatented
proprietary technology.
The medical device industry in general, and the industry segment that
includes products for the treatment of cardiovascular disease in particular,
have been characterized by substantial competition and litigation regarding
patent and other intellectual property rights. In this regard, competitors of
the Company have been issued a number of patents related to TMR. In September
1995, the Company received from a competitor a notice of potential
infringement of the competitor's patent regarding a method for TMR utilizing
synchronization of laser pulses to the electrical signals from the heart. In
January 1996, the Company received from a second competitor a notice of
potential infringement of the competitor's patent regarding a method to
perform TMR using fiber optics. The Company has concluded in each case,
following discussion with its patent counsel, that it does not utilize the
process and/or apparatus which is the subject of the patent at issue, and has
responded to the respective competitor to such effect. The Company has
received no further correspondence on either matter. There can be no
assurance, however, that further claims or proceedings will not be initiated
by either competitor, or that claims by other parties will not arise in the
future. Any such claims in the future, with or without merit, could be
time-consuming and expensive to respond to and could divert the attention of
the Company's technical and management personnel. The Company may be involved
in litigation to defend against claims of infringement by the Company, to
enforce patents issued to the Company, or to protect trade secrets of the
Company. If any relevant claims of third party patents are upheld as valid
and enforceable in any litigation or administrative proceeding, the Company
could be prevented from practicing the subject matter claimed in such
patents, or would be required to obtain licenses from the patent owners of
each such patent or to redesign its products or processes to avoid
infringement.
Patent applications in the U.S. are maintained in secrecy until patents
issue, and patent applications in foreign countries are maintained in secrecy
for a period after filing. Publication of discoveries in the scientific or
patent literature tends to lag behind actual discoveries and the filing of
related patent applications. Accordingly, there can be no assurance that
current and potential competitors and other third parties have not filed or
in the future will not file applications for, or have not received or in the
future will not receive, patents or obtain additional proprietary rights that
will prevent, limit or interfere with the Company's ability to make, use or
sell its products either in the U.S. or internationally. In the event the
Company were to require licenses to patents issued to third parties, there
can be no assurance that such licenses would be available or, if available,
would be available on terms acceptable to the Company, or that the Company
would be successful in any attempt to redesign its products or processes to
avoid infringement. Accordingly, an adverse determination in a judicial or
administrative proceeding or failure to obtain necessary licenses could
prevent the Company from manufacturing and selling its products, which would
materially and adversely affect the Company's business, financial condition
and results of operations.
13
<PAGE>
EXPECTATION OF INTENSE MARKET COMPETITION
The Company expects that the markets for TMR and PTMR, which are
currently in the early stages of development, will be intensely competitive.
Competitors are likely to include at least four companies: PLC Systems, Inc.
("PLC"), CardioGenesis Corporation ("CardioGenesis"), U.S. Surgical
Corporation ("U.S. Surgical"), and Johnson & Johnson ("J & J") all four of
which are currently selling TMR and/or PTMR products for investigational use
in the U.S. and abroad. Other competitors may include additional companies
that elect to enter the market, including large companies in the laser,
cardiac devices and cardiac surgery markets. The Company believes that a
number of significant companies including Boston Scientific Corp., Baxter
International, Inc., and Arterial Vascular Engineering, Inc. have
distribution rights to current or future products in TMR or PTMR. Many of
these companies have significantly greater financial, development, marketing
and other resources than the Company. In the event a competitor is able to
obtain a PMA for its products prior to the Company, the Company's ability to
compete successfully could be materially and adversely affected.
TMR and PTMR also compete with other more conventional or established
methods for the treatment of cardiovascular disease, including drug therapy,
PTCA and coronary artery bypass graft ("CABG"). Although the Company is
seeking to demonstrate the safety and effectiveness of the Company's TMR and
PTMR procedures in patients for whom other cardiovascular treatments are not
likely to provide relief, and in the future intends to pursue the safety and
effectiveness of TMR or PTMR when used in conjunction with other treatments,
there can be no assurance that the Company's products will be accepted in
these markets, nor can there be any assurance that physicians will use the
Company's procedures to replace or supplement established treatments, or that
the Company's procedures will be competitive with current or future
technologies. In such event, the Company's business, financial condition and
operating results could be materially and adversely affected.
Any product developed by the Company that gains regulatory approval will
face competition for market acceptance and market share. An important factor
in such competition may be the timing of market introduction of competitive
products. Accordingly, the relative pace at which the Company is able to
develop products, complete clinical testing and regulatory approval
processes, gain third party reimbursement acceptance and supply commercial
quantities of the product to the market are expected to be important
competitive factors. There can be no assurance that the Company will be able
to compete successfully against current and future competitors. Failure to do
so would materially and adversely affect the Company's business, financial
condition and operating results.
HISTORY OF OPERATING LOSSES
From inception to June 30, 1998, the Company incurred cumulative net
losses of approximately $40 million. The Company's revenues and operating
income will continue to be constrained until such time, if ever, as FDA and
other regulatory approval is obtained for the Company's products, and for an
indefinite period of time after any such approval is obtained. Furthermore,
the Company expects its expenses in all categories to increase as its
clinical trial and other business activities expand as well as continued
clinical research support required due to the absence of HCFA reimbursement
in all categories. Hence, there can be no assurance that the Company will
achieve or sustain profitability in the future. Failure to achieve
significant commercial revenues or profitability would materially and
adversely affect the Company's business, financial condition and results of
operations.
RISKS OF TECHNOLOGICAL CHANGE
Significant resources are continually being expended to develop new and
improved treatment methodologies for coronary disease. Accordingly, the
market acceptance and commercial success of the Company's TMR and PTMR
products and procedures will depend not only on the safety and effectiveness
of the Company's TMR and PTMR products and procedures, but also the relative
safety and effectiveness of alternative treatment measures. Any such
alternatives could potentially include new treatments or improvements to
treatments which would materially and adversely affect the Company's
business, financial condition and results of operations.
14
<PAGE>
POTENTIAL DIFFICULTIES IN MANAGING A BUSINESS UNDERGOING RAPID CHANGE
The Company's future success will depend to a significant extent on the
ability of its current and future management personnel to operate
effectively, both independently and as a group. In this regard, a number of
members of the Company's senior management team have only recently joined the
Company. Moreover, certain members of such management team have limited
experience as a senior executive of a public corporation. There can be no
assurance that the management team will operate together effectively. To
compete successfully against current and future competitors, complete
clinical trials in progress, prepare additional products for clinical trials
and develop future products, the Company believes that it must continue to
expand its operations, particularly in the areas of research and development,
sales and marketing, training, and manufacturing. If the Company were to
experience significant growth in the future, such growth would likely result
in new and increased responsibilities for management personnel and place
significant strain upon the Company's management, operating and financial
systems and resources. To accommodate such growth and compete effectively,
the Company must continue to implement and improve information systems,
procedures and controls, and to expand, train, motivate and manage its work
force. There can be no assurance that the Company's personnel, systems,
procedures and controls will be adequate to support the Company's future
operations. Any failure to implement and improve the Company's operational,
financial and management systems or to expand, train, motivate or manage
employees could materially and adversely affect the Company's business,
financial condition and results of operations.
The approach of Year 2000 presents significant issues for many computer
systems, since much of the software in use today may not accurately process
data beyond 1999. The Company is in the process of implementing new
information systems and accordingly does not anticipate any Year 2000 issues
from its own information systems, databases or programs.(1) However, the
Company could be adversely impacted by Year 2000 issues faced by major
distributors, suppliers, customers, vendors and financial service
organizations with which the Company interacts. The Company is currently
taking steps to address the impact, if any, of the Year 2000 issue on the
operations of the Company. There can be no assurances that the Company will
be able to detect all potential failures of the Company's and/or third
parties' computer systems. A significant failure of the Company's or a third
party's computer system could have a material adverse effect on the Company's
business, financial condition and result of operations.
POTENTIAL FLUCTUATIONS IN OPERATING RESULTS
Results of operations are expected to fluctuate significantly from
quarter to quarter depending upon numerous factors, including the timing and
results of clinical trials; delays associated with the FDA and other
regulatory approval processes; health care reform and reimbursement policies;
demand for the Company's products; changes in pricing policies by the Company
or its competitors; the number, timing and significance of product
enhancements and new product announcements by the Company and its
competitors; the ability of the Company to develop, introduce and market new
and enhanced versions of the Company's products on a timely basis; customer
order deferrals in anticipation of new or enhanced products offered by the
Company or its competitors; product quality problems; personnel changes;
changes in Company strategy; and the level of international sales. Quarter to
quarter operating results could also be affected by the timing of the receipt
of individual customer orders, order fulfillment and revenue recognition with
respect to small numbers of individual laser base units, since each such
product carries a high price per unit.
UNCERTAINTY REGARDING THIRD PARTY REIMBURSEMENT
The Company expects that its ability to successfully commercialize its
products will depend significantly on the availability of reimbursement for
surgical procedures using the Company's products from third party payors such
as governmental programs, private insurance and private health plans.
Reimbursement is a significant factor considered by hospitals in determining
whether to acquire new equipment. Notwithstanding FDA approval, if granted,
third party payors may deny reimbursement if the payor determines that a
therapeutic medical device is unnecessary, inappropriate, not cost-effective
or experimental or is used for a non-approved indication.
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<PAGE>
Medicare reimburses hospitals on a prospectively determined fixed amount
for the costs associated with an in- patient hospitalization based on the
patient's discharge diagnosis, and reimburses physicians on a prospectively
determined fixed amount based on the procedure performed, regardless of the
actual costs incurred by the hospital or physician in furnishing the care and
unrelated to the specific devices used in that procedure. Medicare and other
third party payors are increasingly scrutinizing whether to cover new
products and the level of reimbursement for covered products. In addition,
Medicare traditionally has considered items or services involving devices
that have not been approved or cleared for marketing by the FDA to be
precluded from Medicare coverage. Under a HCFA policy effective November 1,
1995, Medicare coverage will not be precluded for items and related services
involving devices that have been classified by the FDA as "non-experimental/
investigational" ("Category B") devices and that are furnished in accordance
with FDA- approved protocols governing clinical trials. Even with items or
services involving Category B devices, however, Medicare coverage may be
denied if other coverage requirements are not met, for example if the
treatment is not medically needed for the specific patient. In November
1995, the Company received Category B designation for its TMR procedure from
the HCFA. Accordingly, the Company's TMR procedures had received third party
reimbursement in many cases under HCFA's policy. In May 1997, HCFA determined
that there will not be coverage for any manufacturer's TMR procedures at that
time and HCFA is currently reviewing whether it will reinstate such coverage.
There can be no assurance that this coverage will be given in the future or
that Medicare will adequately reimburse the costs of the Company's TMR and
PTMR procedures when and if a PMA is granted. While the Company is unable to
determine the ultimate effect of this policy change on the business and
operating results, the Company anticipates that research and development
expenses will increase significantly due to increased expenses in support of
clinical trials, and revenues from sale of investigational products are
likely to decrease, at least over the short term and possibly thereafter.
There can be no assurance as to whether third party payors will cover
TMR or PTMR procedures or as to the levels of reimbursement. There also can
be no assurance that levels of reimbursement, if any, will not be decreased
in the future, or that future legislation, regulation, or reimbursement
policies of third party payors will not otherwise adversely affect the demand
for the Company's products or its ability to sell its products on a
profitable basis. Fundamental reforms in the healthcare industry in the U.S.
and Europe that could affect the availability of third party reimbursement
continue to be proposed, and the Company cannot predict the timing or effect
of any such proposal. If third party payor coverage or reimbursement is
unavailable or inadequate, the Company's business, financial condition and
results of operations could be materially and adversely affected.
LIMITED SALES, MARKETING AND DISTRIBUTION SYSTEMS
The Company has made limited sales of its TMR and PTMR products to date,
primarily for investigational use only. Accordingly, the Company has
maintained a limited sales and marketing organization in the U.S. and abroad.
The Company plans to market its TMR and PTMR products, if approved, through a
direct sales force and through relationships with distributors or agents.
Establishment of a sales force capable of effectively commercializing the
Company's TMR and PTMR products will require substantial efforts and require
significant management and financial resources. There can be no assurance
that the Company will be able to establish such a sales capability on a
timely basis, if at all. Moreover, there can be no assurance that the
Company's distributors will devote sufficient resources to development of the
markets for the Company's products or that they will be successful in such
commercialization efforts.
POTENTIAL NEED FOR ADDITIONAL CAPITAL
Although the Company anticipates that its current cash balances,
together with sales of products for investigational use, will be sufficient
to meet the Company's capital requirements for the next twelve months, there
can be no assurance that the Company will not require additional sources of
cash at an earlier date. This will depend upon the progress of expansion of
the Company's clinical trials and any need for additional trials or other
testing of the Company's products, and the timing of required expenditures.
If the Company is required to obtain additional financing in the future,
there can be no assurance that capital will be available on terms acceptable
to the Company, if at all.
RISK OF PRODUCT LIABILITY
The Company faces an inherent and significant business risk of exposure
to product liability claims in the event
16
<PAGE>
that the use of its products results in personal injury or death, and there
can be no assurance that material product liability claims will not be
assessed against the Company in the future. The Company maintains insurance
against product liability claims in the amount of $10 million per occurrence
and $10 million in the aggregate. However, there can be no assurance that
such coverage will continue to be available in the amount desired or on terms
acceptable to the Company, or that such coverage will be adequate for
liabilities actually incurred. Also, in the event that any of the Company's
products prove to be defective, the Company may be required to recall or
redesign such products. Any uninsured or underinsured claim brought against
the Company or any claim or product recall that results in significant cost
to or adverse publicity against the Company could materially and adversely
affect the Company's business, financial condition and results of operations.
LIMITED MANUFACTURING EXPERIENCE; DEPENDENCE ON KEY SUPPLIERS
The Company's success will depend in part on its ability to manufacture
its products in a timely, cost-effective manner and in compliance with GMP,
ISO 9001 and other regulatory requirements. The manufacture of the Company's
products is a labor-intensive, complex operation involving a number of
separate processes and components. The Company's manufacturing activities to
date have consisted primarily of manufacturing limited quantities of systems
for use in clinical trials. The Company does not have experience in
manufacturing its products in the commercial quantities that might be
required if the Company receives regulatory approval for its TMR and PTMR
products. Furthermore, as a condition to receipt of PMA approval, the
Company's facilities, procedures and practices have been subject to pre-
approval and will be subject to ongoing GMP inspections by FDA.
Manufacturers often encounter difficulties in scaling up manufacturing
of new products, including problems involving product yields, quality control
and assurance, component and service availability, adequacy of control
policies and procedures, lack of qualified personnel, compliance with FDA
regulations, and the need for further FDA approval of new manufacturing
processes and facilities. There can be no assurance that manufacturing
yields, costs or quality will not be adversely affected as the Company seeks
to increase production, and any such adverse effect could materially and
adversely affect the Company's business, financial condition and results of
operations.
The Company currently purchases certain laser and fiber-optic components
from single sources. Although the Company has identified alternative vendors,
the qualification of additional or replacement vendors for certain components
or services is a lengthy process. There can be no assurance that materials
obtained from outside suppliers will continue to be available in adequate
quantities or at the times required by the Company or that the Company will
be able to locate alternative suppliers on a timely basis. Any significant
supply interruption would have a material adverse effect on the Company's
ability to manufacture its products and, therefore, would materially and
adversely affect the Company's business, financial condition and results of
operations. The Company expects to manufacture its products based on
forecasted product orders, and intends to purchase subassemblies and
components prior to receipt of purchase orders from customers. Lead times for
materials and components ordered by the Company vary significantly, and
depend on factors such as the business practices of the specific supplier,
contract terms and general demand for a component at a given time. As a
result, there is a risk of excess or inadequate inventory if orders do not
match forecasts.
DEPENDENCE ON KEY PERSONNEL
The Company's future business and operating results depend in
significant part, in aggregate or for each, upon the continued contributions
of its key technical and senior management personnel, including Douglas
Murphy-Chutorian, M.D., the Company's Chief Executive Officer, and Richard L.
Mueller, Jr., the Company's President and Chief Operating Officer. The
Company maintains key person life insurance policies on both of these
individuals in the amount of $2 million. The Company's future business and
operating results also depend in significant part upon its ability to attract
and retain qualified additional management, manufacturing, technical,
marketing and sales and support personnel for its operations. Competition for
such personnel is intense, and there can be no assurance that the Company
will be successful in attracting or retaining such personnel. The loss of any
key employee, the failure of any key employee to perform in his or her
current position, or the Company's inability to attract and retain skilled
employees, as needed, could materially and adversely affect the Company's
business, financial condition and results of operations.
17
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company has an investment portfolio of fixed income securities that
are classified as "available for sale securities". These securities are
subject to interest rate risk and will fall in value if market interest rates
increase. The Company attempts to limit this exposure by investing in
short-term securities.
18
<PAGE>
ECLIPSE SURGICAL TECHNOLOGIES, INC.
Part II Other Information
ITEM 1. LEGAL PROCEEDINGS
The Company is not involved in any material litigation outside of the
ordinary course of business.
ITEM 2(D) CHANGES IN SECURITIES AND USE OF PROCEEDS
In connection with its initial public offering in 1996 the Company filed
a Registration Statement on Form S-1, SEC File No. 333-03770 (the
"Registration Statement"), which was declared effective by the Commission
on May 31, 1996. The Company registered 4,600,000 shares of its Common
Stock, no par value per share. The offering commenced on May 31, 1996
and 4,000,000 shares were sold. The aggregate offering price of the
registered shares was $64,000,000. The managing underwriters of the
offering were PaineWebber Incorporated, Deutsche Morgan Grenfell, and
Jefferies & Company, Inc. The Company incurred the following expenses
expenses in connection with the offering:
<TABLE>
<CAPTION>
<S> <C>
Underwriting discounts and commissions: $ 4,480,000
Other expenses: $ 1,565,000
------------
Total expenses: $ 6,045,000
------------
------------
All of such expenses were payments to others.
</TABLE>
The net offering proceeds to the Company after deducting the total
expenses above were approximately $57,955,000. From May 31, 1996 to
June 30, 1998, the Company used such net offering proceeds, in direct or
indirect payments to others, as follows:
<TABLE>
<CAPTION>
<S> <C>
Purchase and installment of machinery and equipment: $ 2,670,000
Working capital: $29,410,000
Investment in short-term, interest- bearing obligations: $10,702,000
Repayment of indebtedness: $ 1,777,000
-----------
Total $44,559,000
-----------
</TABLE>
Each of such amounts is a reasonable estimate of the application of
the net offering proceeds. This use of proceeds does not represent a
material change in the use of proceeds described in the prospectus of
the Registration Statement.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
At the Company's Annual Meeting of Shareholders on April 29, 1998, the
following proposals were approved:
1. Election of Directors:
<TABLE>
<CAPTION>
For Against
----- -------
<S> <C> <C>
Douglas Murphy-Chutorian 12,431,566 19,152
Richard L. Mueller 12,431,566 19,152
Robert L. Mortensen 12,431,566 19,152
Iain M. Watson 12,431,566 19,152
Alan L. Kaganov 12,431,566 19,152
</TABLE>
2. Ratify appointment of PricewaterhouseCoopers LLP as independent
accountants of the fiscal year ending December 31, 1998:
<TABLE>
<CAPTION>
For Against Abstain
----- ------- -------
<S> <C> <C>
12,431,700 9,768 9,250
</TABLE>
19
<PAGE>
ECLIPSE SURGICAL TECHNOLOGIES, INC.
Part II Other Information
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibit 27
b) Reports on Form 8-K
----------------------------
No reports on Form 8-K were filed by the Company during the three
month period ended June 30, 1998.
20
<PAGE>
ECLIPSE SURGICAL TECHNOLOGIES, INC.
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.
ECLIPSE SURGICAL TECHNOLOGIES, INC.
Registrant
Date: July 31, 1998 /s/ Douglas Murphy-Chutorian, M.D.
--------------------------------------
Douglas Murphy-Chutorian, M.D.
Chief Executive Officer
Date: July 31, 1998 /s/ Kenneth E. Bennert
--------------------------------------
Kenneth E. Bennert
Chief Financial Officer
(Principal Financial and Accounting Officer)
21
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM ECLIPSE
SURGICAL TECHNOLOGIES, INC. FORM 10-Q DATED JUNE 30, 1998 AND IS QUALIFIED IN
ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> APR-01-1998
<PERIOD-END> JUN-30-1998
<CASH> 5,527
<SECURITIES> 7,869
<RECEIVABLES> 4,409
<ALLOWANCES> (945)
<INVENTORY> 4,399
<CURRENT-ASSETS> 21,708
<PP&E> 2,995
<DEPRECIATION> (1,865)
<TOTAL-ASSETS> 34,011
<CURRENT-LIABILITIES> 5,982
<BONDS> 0
0
0
<COMMON> 28,013
<OTHER-SE> 0
<TOTAL-LIABILITY-AND-EQUITY> 34,011
<SALES> 3,070
<TOTAL-REVENUES> 3,070
<CGS> 1,445
<TOTAL-COSTS> 1,445
<OTHER-EXPENSES> 7,726
<LOSS-PROVISION> 945
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (5,741)
<INCOME-TAX> 0
<INCOME-CONTINUING> (5,741)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (5,741)
<EPS-PRIMARY> (0.34)
<EPS-DILUTED> (0.34)
</TABLE>
