<PAGE> 1
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, 2000 or
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from ______________ to _______________
Commission File Number 0-19806
CYBERONICS, INC.
(Exact name of registrant as specified in its charter)
Delaware 76-0236465
-------------------------------------------------- --------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
16511 Space Center Boulevard, Ste. 600
Houston, Texas 77058
-------------------------------------------------- ------------------------
(address of principal executive offices) (zip code)
Registrant's telephone number, including area code: (281) 228-7200
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, as of the latest practicable date.
CLASS OUTSTANDING AT NOVEMBER 6, 2000
Common Stock - $0.01 par value 18,772,899
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CYBERONICS, INC.
INDEX
<TABLE>
<CAPTION>
PAGE NO.
--------
<S> <C> <C> <C>
PART I. FINANCIAL INFORMATION
Item 1 Financial Statements:
Consolidated Balance Sheets
September 30, 2000 (unaudited) and June 30, 2000......................... 3
Consolidated Statements of Operations (unaudited)
Three months ended September 30, 2000 and 1999........................... 4
Consolidated Statements of Cash Flows (unaudited)
Three months ended September 30, 2000 and 1999........................... 5
Notes to Consolidated Financial Statements (unaudited)....................... 6
Item 2 Management's Discussion and Analysis of Financial
Condition and Results of Operations.......................................... 9
Item 3 Quantitative and Qualitative Disclosures About Market Risk........................... 19
PART II. OTHER INFORMATION
Item 2 Changes in Securities and Use of Proceeds............................................ 20
Item 6 Exhibits and Reports on Form 8-K..................................................... 20
</TABLE>
2
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PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CYBERONICS, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
SEPTEMBER 30, JUNE 30,
2000 2000
------------- -------------
(Unaudited)
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents ...................................... $ 14,978,848 $ 14,969,479
Securities held to maturity .................................... 6,250,123 5,168,777
Accounts receivable, net ....................................... 7,936,339 8,284,948
Inventories .................................................... 5,214,912 6,639,784
Other current assets ........................................... 1,759,585 1,414,719
------------- -------------
Total Current Assets ...................................... 36,139,807 36,477,707
Securities held to maturity ........................................ 399,326 399,194
Property and equipment, net ........................................ 7,901,988 7,466,556
Other assets, net .................................................. 147,171 154,978
------------- -------------
$ 44,588,292 $ 44,498,435
============= =============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable ............................................... $ 1,737,571 $ 1,797,904
Accrued liabilities ............................................ 12,812,186 3,688,687
Current portion of long-term debt .............................. 111,587 109,776
------------- -------------
Total Current Liabilities ................................. 14,661,344 5,596,367
Long-term debt ................................................. 465,508 494,093
------------- -------------
Total Liabilities ......................................... 15,126,852 6,090,460
Commitments and Contingencies
Stockholders' Equity:
Preferred stock, $.01 par value, 2,500,000 shares authorized; no
shares issued or outstanding .............................. -- --
Common stock, $.01 par value, 50,000,000 shares authorized;
18,744,809 and 18,642,753 shares issued and outstanding at
September 30, 2000 and June 30, 2000, respectively ........ 187,448 186,428
Additional paid-in capital ..................................... 118,217,069 117,322,388
Accumulated other comprehensive income ......................... (64,215) (168,331)
Accumulated deficit ............................................ (88,878,862) (78,932,510)
------------- -------------
Total Stockholders' Equity ................................ 29,461,440 38,407,975
------------- -------------
$ 44,588,292 $ 44,498,435
============= =============
</TABLE>
See accompanying Notes to Consolidated Financial Statements (Unaudited).
3
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CYBERONICS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME (LOSS)
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE THREE
MONTHS ENDED
SEPTEMBER 30,
------------------------------
2000 1999
------------ ------------
<S> <C> <C>
Net sales ............................................. $ 13,353,357 $ 8,663,236
Cost of sales ......................................... 3,444,592 2,286,901
------------ ------------
Gross Profit ..................................... 9,908,765 6,376,335
Operating expenses:
Selling, general and administrative ................ 9,238,200 6,640,079
Research & development ............................. 4,106,370 1,675,800
Non-recurring charges .............................. 6,681,420 --
------------ ------------
Total Operating Expenses ......................... 20,025,990 8,315,879
------------ ------------
Loss From Operations ............................. (10,117,225) (1,939,544)
Interest income ....................................... 366,564 275,298
Interest expense ...................................... 15,424 --
Other income (expense) ................................ (180,267) 6,336
------------ ------------
Net loss before cumulative effect of a change in
accounting principle ................................ (9,946,352) (1,657,910)
Cumulative effect on prior years (to June 30, 1999)
of changing to a different method of depreciation ... -- 881,150
------------ ------------
Net Loss ......................................... $ (9,946,352) $ (776,760)
============ ============
Net loss per share, basic and diluted:
Net loss before accounting change ..................... $ (0.53) $ (0.09)
Cumulative effect of accounting change ................ -- 0.05
------------ ------------
Basic and diluted net loss per share .................. $ (0.53) $ (0.04)
============ ============
Shares used in computing basic and diluted net loss
per share ........................................... 18,660,371 17,590,407
============ ============
Comprehensive income (loss):
Net loss .............................................. $ (9,946,352) $ (776,760)
Foreign currency translation adjustment ............... 104,116 21,220
------------ ------------
Comprehensive loss .................................... $ (9,842,236) $ (755,540)
============ ============
</TABLE>
See accompanying Notes to Consolidated Financial Statements (Unaudited).
4
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CYBERONICS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
FOR THE THREE MONTHS ENDED
SEPTEMBER 30
------------------------------
2000 1999
------------ ------------
<S> <C> <C>
CASH FLOW FROM OPERATING ACTIVITIES:
Net loss ............................................................. $ (9,946,352) $ (776,760)
Non-cash items included in net loss:
Depreciation ....................................................... 596,546 296,860
Change in accounting principle ..................................... -- (881,150)
Expense from stock options ......................................... 15,000 --
Changes in operating assets and liabilities:
Accounts receivable, net ........................................... 348,609 1,186,618
Inventories ........................................................ 1,424,872 310,192
Other current assets ............................................... (344,866) 92,228
Accounts payable and accrued liabilities ........................... 9,063,166 (1,615,307)
Other assets, net .................................................. 7,807 (119,561)
------------ ------------
Net Cash Provided By (Used In) Operating Activities .............. 1,164,782 (1,506,880)
CASH FLOW FROM INVESTING ACTIVITIES:
Purchases of property and equipment .................................. (1,031,978) (268,797)
Purchases of marketable securities ................................... (7,845,792) (15,405,631)
Maturities of marketable securities .................................. 6,764,314 15,477,291
------------ ------------
Net Cash Used In Investing Activities ............................ (2,113,456) (197,137)
CASH FLOW FROM FINANCING ACTIVITIES:
Proceeds from issuance of Common Stock ............................... 880,701 727,709
Payment on debt ...................................................... (26,774) --
------------ ------------
Net Cash Provided By Financing Activities ........................ 853,927 727,709
Effect of exchange rate changes on cash and cash equivalents ............ 104,116 21,220
------------ ------------
Net increase (decrease) in cash and cash equivalents ............. 9,369 (955,088)
Cash and cash equivalents at beginning of period ........................ 14,969,479 16,763,071
------------ ------------
Cash and cash equivalents at end of period .............................. $ 14,978,848 $ 15,807,983
============ ============
Supplemental Disclosure of Cash Flow Information:
Cash paid for interest ........................................... $ 15,424 $ --
</TABLE>
See accompanying Notes to Consolidated Financial Statements (Unaudited).
5
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CYBERONICS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
SEPTEMBER 30, 2000
NOTE 1 -- BASIS OF PRESENTATION:
The accompanying unaudited consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information, and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the three months ended September 30, 2000
are not necessarily indicative of the results that may be expected for the full
year ending June 30, 2001. The financial information presented herein should be
read in conjunction with the audited consolidated financial statements and notes
thereto included in our Annual Report on Form 10-K for the year ended June 30,
2000.
NOTE 2 -- INVESTMENT SECURITIES:
At September 30, 2000 and June 30, 2000, our entire investment
portfolio consisted of securities held to maturity that are reported at
amortized cost. Securities held to maturity are primarily corporate bonds,
commercial paper and United States (US) treasury obligations with various
maturity dates and have a fair market value of approximately $12,789,634 and a
gross unrealized holding loss of approximately $328,177 at September 30, 2000.
NOTE 3 -- INVENTORIES:
Inventories consist of the following:
<TABLE>
<CAPTION>
SEPTEMBER 30, 2000 JUNE 30, 2000
------------------ -------------
(Unaudited)
<S> <C> <C>
Raw materials and components ........... $ 1,894,071 $ 2,378,933
Work-in-process ........................ 985,294 1,089,891
Finished goods ......................... 2,335,547 3,170,960
----------- -----------
$ 5,214,912 $ 6,639,784
=========== ===========
</TABLE>
6
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NOTE 4 -- OTHER CURRENT ASSETS:
Other current assets consist of the following:
<TABLE>
<CAPTION>
SEPTEMBER 30, 2000 JUNE 30, 2000
------------------ -------------
(Unaudited)
<S> <C> <C>
Prepaid assets ............................................. $ 1,734,787 $ 1,389,492
Interest receivable ........................................ 24,798 25,227
----------- -----------
$ 1,759,585 $ 1,414,719
=========== ===========
</TABLE>
NOTE 5 -- ACCRUED LIABILITIES:
Accrued liabilities are as follows:
<TABLE>
<CAPTION>
SEPTEMBER 30, 2000 JUNE 30, 2000
------------------ -------------
(Unaudited)
<S> <C> <C>
Professional services ...................................... $ 6,758,667 $ 108,953
Clinical costs ............................................. 2,331,556 1,059,665
Payroll and other compensation ............................. 2,193,842 1,391,158
Royalties .................................................. 524,057 557,077
Business insurance ......................................... 392,685 --
Warranties ................................................. 315,000 375,000
Other ...................................................... 296,379 196,834
------------ -----------
$ 12,812,186 $ 3,688,687
============ ===========
</TABLE>
NOTE 6 -- CHANGE IN ACCOUNTING PRINCIPLE:
Effective July 1, 1999, we changed our method of computing depreciation
on domestic fixed assets from the double declining method to the straight-line
method. This change was implemented to better match revenues and expenses taking
into account the nature of these assets and our business. The new depreciation
method was applied retroactively to all domestic assets acquired in prior years.
The cumulative prior years' effect of the changes was $881,150 (net of income
tax of $0) and is included in income for the three months ended September 30,
1999.
NOTE 7 -- RECLASSIFICATION:
Certain amounts in the balance sheet as of June 30, 2000 have been
reclassified to conform with those at September 30, 2000.
7
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NOTE 8 -- EARNINGS PER SHARE:
SFAS No.128, "Earnings Per Share" requires dual presentation of
earnings per share (EPS); basic EPS and diluted EPS. Basic EPS excludes dilution
and is computed by dividing net income or loss applicable to common shareholders
by the weighted average number of common shares outstanding for the period.
Diluted earnings per share reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock and would then share in net income of the company. For the
purpose of computing diluted net loss per share, no exercise of options was
assumed since the result would have been antidilutive.
NOTE 9 -- NEW ACCOUNTING PRONOUNCEMENT:
In December 1999, the Securities and Exchange Commission (SEC) issued Staff
Accounting Bulletin 101, "Revenue Recognition in Financial Statements" (SAB 101)
which provides guidance related to revenue recognition based on interpretations
and practices followed by the SEC. SAB 101 is effective by the second fiscal
quarter of fiscal years beginning after December 15, 1999 and requires companies
to report any changes in revenue recognition as a cumulative change in
accounting principle at the time of implementation. Cyberonics' management
believes that its revenue recognition policy is in accordance with SAB 101 and
does not believe that adoption of this SAB will have a material impact on
Cyberonics' financial position or results of operations.
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133, as
amended by SFAS No. 137, is required to be adopted by the Company on July 1,
2000. The statement establishes accounting and reporting standards requiring
that every derivative instrument (including certain derivative instruments
embedded in other contracts) be recorded in the balance sheet as either an asset
or liability measured at its fair value. The statement requires that changes in
the derivative's fair value be recognized currently in earnings unless specific
hedge accounting criteria are met. Special accounting for qualifying hedges
allows the derivative's gains and losses to offset related results on the hedged
item in the income statement, and requires that a company formally document,
designate and assess the effectiveness of transactions that receive hedge
accounting treatment. The Company adopted this statement on July 1, 2000. The
adoption of SFAS No. 133 did not have a material impact on the Company's
financial position or results of operations.
NOTE 10 -- NON-RECURRING CHARGES:
Non-recurring charges were $6,681,000 for the three months ended September
30, 2000. On September 11, 2000, Medtronic, Inc. ("Medtronic") publicly
announced a proposal to acquire the Company for $26.00 per share in value of
Medtronic common stock. The Company's Board of Directors, with the assistance of
Morgan Stanley Dean Witter, the Company's financial advisor, elected to remain
independent to pursue our patent protected opportunities for vagus nerve
stimulation in epilepsy, depression, Alzheimer's Disease, obesity, and in other
indications covered by the Company's United States method patents. On September
28, 2000, Medtronic announced that it had withdrawn its offer. The Company
incurred non-recurring charges of $6,681,000 which
8
<PAGE> 9
includes investment banking fees to Morgan Stanley Dean Witter of $6,250,000 of
which $2,250,000 is due and payable immediately and $4,000,000 is due on or
before May 15, 2001. The Company also incurred legal and accounting fees of
approximately $229,000, professional and consulting fees of $115,000 and other
costs of $87,000.
NOTE 11 -- SEGMENT INFORMATION:
The Company operates its business in three Indication Business Units
(IBU's) which are aggregated into one reportable segment, that of designing,
developing, manufacturing and marketing the NCP System using VNS for the
treatment of epilepsy and other debilitating neurological, psychiatric diseases
and other disorders. Each of the IBU's has similar economic characteristics,
technology, manufacturing processes, customers, distribution and marketing
strategies, a similar regulatory environment and shared infrastructures.
The following table presents certain financial information about the
Company's Indication Business Units. For the three months ended September 30,
1999, the Depression Business Unit and the Obesity and Other Indications
Business Unit expenses consisted primarily of pre-clinical, clinical and payroll
expense. For the three months ended September 30, 2000, the Depression Business
Unit and the Obesity and Other Indications Business Unit expenses consists of
pre-clinical, clinical, payroll and certain general and administrative costs
allocated to each business unit based upon estimated resource utilization.
Depreciation, selling and other income/expense has been entirely allocated to
Epilepsy.
<TABLE>
<CAPTION>
Epilepsy Depression Obesity and Other
Indication Indication Indications Non-recurring
Business Unit Business Unit Business Unit Charges Total
------------- ------------- ----------------- ------------- ------------
<S> <C> <C> <C> <C> <C>
For the three months ended
September 30, 2000
External net sales ..................... $ 13,353,357 $ -- $ -- $ -- $ 13,353,357
Net income (loss) ...................... $ 42,220 $ (2,795,614) $ (511,538) $ (6,681,420) $ (9,946,352)
For the three months ended
September 30, 1999
External net sales ..................... $ 8,663,236 $ -- $ -- $ -- $ 8,663,236
Net income (loss) ...................... $ (576,119) $ (125,755) $ (74,886) $ -- $ (776,760)
</TABLE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
This Quarterly Report on Form 10-Q contains forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933 and Section 21E
of the Securities Exchange Act of 1934. Actual results could differ materially
from those projected in the forward-looking statements as a result of a number
of important factors. For a discussion of important factors that could affect
our results, please refer to the financial statement line item discussions set
forth in
9
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Management's Discussion and Analysis of Financial Condition and Results of
Operations and to the section entitled "Factors That May Affect Future Operating
Results." Readers are also encouraged to refer to our Annual Report on Form 10-K
for the year ended June 30, 2000 for a further discussion of our business and
the risks and opportunities attendant thereto.
SUMMARY
We were founded in 1987 to design, develop and bring to market medical
devices which provide a unique therapy, vagus nerve stimulation, for the
treatment of epilepsy and other debilitating neurological, psychiatric diseases
and other disorders. Clinical trials of the NeuroCybernetic Prosthesis, or NCP
System, began with the first patient implant in November 1988 under an
investigational device exemption, or IDE, from the FDA. We received FDA approval
to market the NCP System in the United States in July 1997 for use as an
adjunctive therapy in reducing the frequency of seizures in adults and
adolescents over 12 years of age with partial onset seizures that are refractory
or resistant to antiepileptic drugs. We were granted regulatory approval in 1994
to market and sell the NCP System in the member countries of the European Union
and we also have permission to sell in certain other international markets with
the broader indication of refractory epilepsy and without discrimination to
patient age.
For the period from inception through September 30, 2000, we incurred a
cumulative net deficit of approximately $88.9 million. We have incurred
substantial expenses, primarily for research and development activities that
include product and process development and clinical trials and related
regulatory activities, sales and marketing activities and manufacturing
start-up. Although we reported a profitable quarter in the third quarter of
fiscal year 2000, we expect to devote considerable financial resources in our
Depression and Other Indications Business Units for clinical studies in the
development of new indications for the NCP System. The clinical studies for
depression are for investigational therapies that are not expected to generate
significant sales prior to FDA approval, which is not anticipated before
calendar 2003, if at all. As a result, we will continue to experience
substantial operating losses at levels exceeding the levels experienced in
recent periods. Furthermore, the timing and nature of these expenditures are
contingent upon several factors outside of our control and may exceed the
current expectations of securities analysts and investors. We do not expect to
be profitable before fiscal 2003, if at all.
During fiscal 2000, we began operating our business in three business
units. The three separate business units include the Epilepsy Business Unit, the
Depression Business Unit and the Obesity and Other New Indications Business
Unit. All three of these units are reported for accounting purposes as one
segment and involve designing, developing, manufacturing and marketing our
proprietary NCP System using Vagus Nerve Stimulation (VNS(TM)) for the treatment
of epilepsy and other debilitating neurological, psychiatric diseases and other
disorders. The identification and separation
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<PAGE> 11
of the Indications Business Units reflects the different phases of clinical
development and product life cycle as well as the different disorders amenable
to treatment by VNS using our proprietary NCP System. However, each Indication
Business Unit has similar economic characteristics, technology, manufacturing
processes, customers, distribution and marketing strategies, a similar
regulatory environment and shared infrastructures.
RESULTS OF OPERATIONS
Net Sales. Net sales for the three months ended September 30, 2000
totaled $13,353,000 compared to $8,663,000 for the three months ended September
30, 1999, representing an overall increase of $4.7 million, or 54%. Net sales
for the three months ended September 30, 2000 consisted of $12,270,000 from the
United States and $1,083,000 from international markets. Net sales for the
quarter ended September 30, 1999 consisted of $7,936,000 from the United States
and $727,000 from international markets. The 55% increase in US sales is the
result of volume growth of 28% and an increase in average system price which
generated additional revenue growth of 27%. The 49% increase in international
sales is the result of volume growth of 53% and a decrease in average system
price of 3%. Substantially all sales for the quarters ended September 30, 2000
and September 30, 1999 were for epilepsy product sales. Future increases in net
sales will depend upon development of increased market acceptance for the NCP
System, increases in average systems prices and upon obtaining or expanding
reimbursement approval in key markets.
Gross Profit. Gross margin, as a percent of net sales, was 74.2% for
the quarter ended September 30, 2000 compared to 73.6% in the same prior year
period. The increase over the prior year is attributable to volume efficiencies
and manufacturing process improvements. Cost of sales consist primarily of
direct labor, direct materials and components, allocated manufacturing overhead,
third-party contractor costs and certain manufacturing period expenses. In
addition, we are required to pay royalties at a rate of approximately 4% of net
sales. Gross margin percentages can be expected to fluctuate in future periods
based upon the mix between domestic and international sales, direct and
distributor sales, the NCP Systems product mix and selling prices, manufacturing
yields, period expenses and levels of production volume.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses totaled $9,238,000, or 69.2% of net sales, for the three
months ended September 30, 2000 compared to $6,640,000, or 76.7% of net sales,
for the three months ended September 30, 1999. The increase in absolute dollars
for the three months ended September 30, 2000, as compared to the same period
last year, was primarily related to additional costs associated with the hiring
and employment of additional personnel to support sales growth and overall
business infrastructure. The decrease of selling, general and administrative
expenses as a percentage of net sales is the result of the increase in net sales
in the quarter ended September 30, 2000 as compared to the same prior year
period.
In fiscal 2001, we incurred certain direct administrative expenses in
each Indication Business Unit and we began allocating certain administrative
expenses to the indication business units based upon estimated resource
utilization. Selling, general and administrative expenses in the Epilepsy
Business Unit, the Depression Business Unit and the Obesity and Other
Indications Business Unit
11
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were $8,519,000, $607,000 and $112,000, respectively, for the quarter ended
September 30, 2000. Substantially all selling, general and administrative
expenses were associated with the Epilepsy Business Unit for the quarter ended
September 30, 1999.
Research and Development Expenses. Research and development expenses
are comprised of both expenses related to our product and process development
efforts and expenses associated with conducting clinical trials and certain
related regulatory activities. Research and development expenses totaled
$4,106,000, or 30.7% of net sales, for the three months ended September 30, 2000
compared to $1,676,000, or 19.3% of net sales, in the prior year period. The
increase in research and development expenses is the result of expanded clinical
programs in support of clinical studies of the NCP System in new indications
development.
The Epilepsy Business Unit research and development expenses were
$1,518,000 for the quarter ended September 30, 2000, compared with $1,475,000
for the quarter ended September 30, 1999. The increase in expenses over the same
period last year is due to higher study costs and additional personnel employed
in clinical and regulatory areas to support the growth in the Epilepsy Business
Unit.
The Depression Business Unit research and development expenses were
$2,188,000 for the quarter ended September 30, 2000, compared with $126,000 for
the quarter ended September 30, 1999. The increase in expenses over the same
period last year is the result of the expanded pivotal study of the NCP System
for the treatment of major depression in patients with unipolar and bipolar
depressive disorder. In fiscal 2000, we completed a two-phase pilot clinical
study that included 60 implanted patients. In late fiscal 2000, FDA granted
unconditional approval for a pivotal clinical study of vagus nerve simulation
for the treatment of depression to include up to 15 institutions and 94
patients. We subsequently received unconditional FDA approval for a revised
final protocol to include up to 20 institutions and 210 implanted patients. We
expect to expend considerable financial resources in the clinical studies of the
NCP System in patients with depression during fiscal 2001 and beyond.
The Obesity and Other Indications Business Unit research and
development expenses were $400,000 for the quarter ended September 30, 2000
compared with $75,000 for the quarter ended September 30, 1999. The increase in
expenses over the same period last year is the result of expanded clinical
program costs associated with investigational clinical studies of the NCP System
for the treatment of various neurological disorders, including obesity and
Alzheimer's Disease. In June 2000, the FDA approved an investigational device
exemption for a clinical study utilizing a new type of VNS to treat obesity.
Shortly thereafter, we launched a two-phase pilot safety and efficacy study
using the NCP System to treat obesity. In the first phase, six patients will be
implanted and treated. If the results of the Phase I study justify continued
research, up to 24 additional patients will be treated in Phase II. In June
2000, the Swedish government approved a pilot clinical study of VNS for the
treatment of Alzheimer's Disease. Shortly thereafter, we launched a pilot study
with long-term follow up. We expect to expend considerable financial resources
completing the pilot studies for obesity and Alzheimer's Disease and other
indications development research throughout fiscal 2001 and beyond.
12
<PAGE> 13
Non-recurring charges. Non-recurring charges were $6,681,000 for the
three months ended September 30, 2000. On September 11, 2000, Medtronic, Inc.
("Medtronic") publicly announced a proposal to acquire us for $26.00 per share
in value of Medtronic common stock. Our Board of Directors, with the assistance
of Morgan Stanley Dean Witter, our financial advisor, elected to remain
independent to pursue our patent protected opportunities for vagus nerve
stimulation in epilepsy, depression, Alzheimer's Disease, obesity, and in other
indications covered by our United States method patents. On September 28, 2000,
Medtronic announced that it had withdrawn its offer. We incurred non-recurring
charges of $6,681,000 which includes investment banking fees to Morgan Stanley
Dean Witter of $6,250,000 of which $2,250,000 is due and payable immediately and
$4,000,000 is due on or before May 15, 2001. We also incurred legal and
accounting fees of approximately $229,000, professional and consulting fees of
$115,000 and other costs of $87,000.
Interest Income. Interest income totaled $367,000 and $275,000 for the
three months ended September 30, 2000 and September 30, 1999, respectively. The
increase over the same period a year ago is the result of higher effective
interest rates and expanded cash management programs to improve cash
utilization.
Interest Expense. Interest expense was $15,000 during the three months
ended September 30, 2000, with no interest expense reported in prior year.
Interest expense is associated with capital leases on manufacturing equipment
which bear interest at 6.56% over a term of five years.
Other Income (Expense), Net. Other income (expense), net totaled
($180,000) and $6,336 during the three months ended September 30, 2000 and 1999,
respectively. For each of these periods, other income consisted primarily of net
gains and losses resulting from foreign currency fluctuations. We expect other
income to fluctuate in future periods depending upon the mix between
international and domestic business activities, business exposures to foreign
currencies and upon fluctuations in currency exchange rates.
Income Taxes. Due to our net operating loss history, to date we have
established a valuation allowance to fully offset deferred tax assets, including
those related to tax carryforwards, resulting in no income tax expense or
benefit for financial reporting purposes. Current federal income tax regulations
with respect to changes in ownership could limit the utilization of the
operating loss carryforwards.
LIQUIDITY AND CAPITAL RESOURCES
Since our inception, we have financed our operations primarily through
public and private placements of our securities. On June 30, 2000, we entered
into capital leases for the acquisition of manufacturing equipment valued at
roughly $650,000 and used in the production of the NCP System. The capital
leases bear interest of 6.56% and extend through April 2005.
During the three months ended September 30, 2000, net cash provided by
operating activities was approximately $1,165,000. Accounts receivable decreased
to $7,936,000 at September 30,
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2000, from $8,285,000 at June 30, 2000. Inventories decreased to $5,215,000 at
September 30, 2000 from $6,640,000 at June 30, 2000. Current liabilities
increased to $14,661,000 at September 30, 2000 from $5,596,000 at June 30, 2000.
During the quarter ended September 30, 2000, we used approximately
$1,032,000 to purchase capital equipment and received roughly $881,000 in
proceeds from the exercise of stock options held by our employees.
Our liquidity will continue to be reduced as amounts are expended to
support continued growth in sales and marketing, continuing clinical trials and
related regulatory affairs, product and process development and infrastructure
development. Although we have no firm commitments, we expect to make capital
expenditures of approximately $3.9 million during the remainder of fiscal 2001,
primarily to support manufacturing operations and to enhance general
infrastructure and facilities.
We believe that our current resources will be sufficient to fund our
operations through June 30, 2002, although there can be no assurance of this as
this estimate is based on a number of assumptions, which may not hold true. The
availability of financing either before or after that time will depend upon a
number of important factors, including the strength of the United States capital
markets and economy in general and the health care and medical device segments
in particular, the status of our sales activities and the status of our clinical
and regulatory activities. We may not be able to raise additional capital when
needed on terms favorable to us.
IMPACT OF NEW ACCOUNTING PRONOUNCEMENTS
See Notes 1 and 9 of Notes to Consolidated Financial Statements for a
discussion of the impact of new accounting pronouncements.
FACTORS AFFECTING FUTURE OPERATING RESULTS
In addition to the factors described above in this section the
following additional factors could affect our future results.
We rely on only one product for our revenues and if sales of this
product are not achieved, our operating results will be severely harmed. We have
only one product, the NCP System, which has been approved by the FDA for a
single indication: as an adjunctive therapy in reducing the frequency of
seizures in adults and adolescents over 12 years of age with partial onset
seizures that are refractory to antiepileptic drugs. We do not expect to have
any other product or approved indication for the NCP System in the United States
for at least the next two years. Although sales of our NCP System have been
increasing, we cannot assure you that sales will continue to increase at the
same rate or at all. We are currently requesting approval for the use of the NCP
System for the treatment of major depression in patients with unipolar and
bipolar depressive disorder. We do not yet have approvals necessary to
commercialize the NCP System for the treatment of depression. We cannot assure
you that any approvals for the treatment of depression with the NCP System will
be granted,
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nor can we assure you that even if the approval is granted, we will be
successful in commercializing the NCP System for the treatment of depression.
The same uncertainty surrounds our efforts in obesity and Alzheimer's Disease
applications. Our inability to commercialize successfully the NCP System for
depression, obesity and other indications will severely harm our business.
We may not be able to continue to expand market acceptance of the use
of our NCP System to treat epilepsy, which could cause our sales to decrease.
Continued market acceptance of our NCP System will depend on our ability to
convince the medical community of the clinical efficacy and safety of vagus
nerve stimulation and the NCP System. While the NCP System has been used in
approximately 9,000 patients through June 30, 2000, many physicians are still
unfamiliar with this form of therapy. We believe that existing antiepileptic
drugs and surgery are the only other approved and currently available therapies
competitive with the NCP System in the treatment of epileptic seizures. These
therapies may be more attractive to patients or their physicians than the NCP
System in terms of efficacy, cost or reimbursement availability. We cannot
assure you that the NCP System will achieve market acceptance for the treatment
of epilepsy or for any other indication. Failure of the NCP System to gain
market acceptance would severely harm our business, financial condition and
results of operations.
We may not be successful in our efforts to develop VNS for the
treatment of depression, obesity, Alzheimer's Disease or any other indications.
We are in the process of conducting studies to help us evaluate, and ultimately
obtain FDA approval for, the use of VNS as a treatment for depression, obesity,
Alzheimer's Disease and other indications. While we are encouraged by test
results to date, we cannot assure you that our test results will continue to be
as positive as we currently anticipate or that we will receive FDA approval for
the use of our product for the treatment of any other indication. Even if we
receive FDA approval for another indication, we can provide no assurances with
respect to market acceptance. If our test results are not as we anticipate, if
we receive no additional FDA approvals or if alternative indications do not
prove to be commercially viable, our revenues will not experience the growth
that we currently anticipate.
Our quarterly operating results may fluctuate in the future, which may
cause our stock price to decline. Our results of operations may fluctuate
significantly from quarter to quarter and may be below the expectations of
security analysts. If so, the market price of our shares may decline. Our
quarterly revenues, expenses and operating results may vary significantly from
quarter to quarter for several reasons including the extent to which our NCP
System gains market acceptance, the timing of obtaining marketing approvals for
our NCP System for other indications, the timing of any approvals for
reimbursement by third-party payors, the rate and size of expenditures incurred
as we expand our clinical, manufacturing, sales and marketing efforts, our
ability to retain qualified sales personnel and the availability of key
components, materials and contract services, which may depend on our ability to
forecast sales.
Our current and future expense estimates are based, in large part, on
estimates of future sales, which are difficult to predict. We may be unable to,
or may elect not to, adjust spending quickly enough to offset any unexpected
sales shortfall. If our expenses were not accompanied by increased sales, our
results of operations and financial condition for any particular quarter would
be harmed.
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We may be unable to obtain adequate third-party reimbursement on our
product. Our ability to commercialize the NCP System successfully depends in
part on whether third-party payors, including private health care insurers,
managed care plans, the United States government's Medicare and Medicaid
programs and others, agree both to cover the NCP System and associated
procedures and services and to reimburse at adequate levels for the costs of the
NCP System and the related services we have in the United States or
internationally. If we fail to achieve or expand favorable coverage decisions
for the NCP System in a timely manner, patients and their physicians could be
deterred from using the NCP System which could reduce our sales and severely
harm our business.
We may not be successful in our marketing and sales efforts, which
could severely harm our business. We cannot assure you that our marketing and
sales efforts will succeed in promoting the NCP System to patients, health care
providers or third-party payors on a broad basis. In addition, due to limited
market awareness of the NCP System, we believe that the sales process could be
lengthy, requiring us to continue to educate patients, health care providers and
third-party payors regarding the clinical benefits and cost-effectiveness of the
NCP System. In certain international territories, we rely, and intend to
continue to rely, upon independent distributors. We may not be able to recruit
and retain skilled marketing and sales personnel or foreign distributors to
support our marketing and sales efforts. Our failure to successfully market and
sell our NCP System or to retain our sales force would severely impair our sales
and our business.
If our suppliers and manufacturers are unable to meet our demand for
materials, components and contract services, we may be forced to qualify new
vendors or change our product design which would impair our ability to deliver
products to our customers on a timely basis. We rely upon sole source suppliers
for certain of the key components, materials and contract services used in
manufacturing the NCP System. We periodically experience discontinuation or
unavailability of components, materials and contract services which may require
us to qualify alternative sources or, if no such alternative sources are
identified, change our product design. We believe that pursuing and qualifying
alternative sources and/or redesigning specific components of the NCP System,
when necessary, could consume significant resources. In addition, such changes
generally require regulatory submissions and approvals. Any extended delays in
or an inability to secure alternative sources for these or other components,
materials and contract services could result in product supply and manufacturing
interruptions, which could significantly harm our business.
Our products may be found to have significant defects that could harm
the human body and result in product recalls. The NCP System includes a complex
electronic device and lead designed to be implanted in the human body. Component
failures, manufacturing or shipping errors or design defects could result in an
unsafe condition in patients. The occurrence of such problems or other adverse
reactions could result in a recall of our products, possibly requiring removal
and potential reimplantation of the NCP System or a component of the NCP System.
For example, in 1991, a failure of an NCP System caused permanent paralysis of
one patient's left vocal cord. In addition, several patients experienced bipolar
lead failures which, although not harmful to the patient, reduced the efficacy
of the treatment and required lead replacement. Since the occurrence of these
failures, changes have been made to our product designs and no similar failures
have been reported. However
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in the future, we may experience similar or other product problems or may be
required to recall products. Any product recall could severely harm our
business, financial condition and results of operations.
We may not be able to protect our technology from unauthorized use,
which could diminish the value of our products and impair our ability to
compete. Our success depends upon our ability to obtain and maintain patent and
other intellectual property protection for the NCP System and its improvements,
and for vagus nerve stimulation therapy. To that end, we have acquired licenses
under certain patents and have patented and intend to continue to seek patents
on our own inventions used in our products and treatment methods. The process of
seeking patent protection can be expensive and time consuming and we cannot
assure you that patents will issue from our currently pending or future
applications or that, if patents are issued, they will be of sufficient scope or
strength to provide meaningful protection of our technology, or any commercial
advantage to us. Further, the protection offered by the licensed international
patents is not as strong as that offered by the licensed United States patents
due to differences in patent laws. In particular, the European Patent Convention
prohibits patents covering methods for treatment of the human body by surgery or
therapy.
We may have to engage in litigation to protect our proprietary rights,
or defend against infringement claims by third parties, causing us to suffer
significant expenses or prevent us from selling our products. There has been
substantial litigation regarding patent and other intellectual property rights
in the medical device industry. Litigation, which could result in substantial
cost to and diversion of effort by us, may be necessary to enforce patents
issued or licensed to us, to protect trade secrets or know-how owned by us or to
defend ourselves against claimed infringement of the rights of others and to
determine the scope and validity of the proprietary rights of others. Adverse
determinations in litigation could subject us to significant liabilities to
third parties, could require us to seek licenses from third parties and could
prevent us from manufacturing, selling or using the NCP System, any of which
could severely harm our business.
Intense competition and rapid technological changes could reduce our
ability to market our products and achieve sales. We believe that existing and
future antiepileptic drugs will continue to be the primary competition for our
NCP System. We may also face competition from other medical device companies
that have the technology, experience and capital resources to develop
alternative devices for the treatment of epilepsy. Medtronic, Inc., for example,
continues to clinically assess an implantable signal generator used with an
invasive deep brain probe, or thalamic stimulator, for the treatment of
neurological disorders and has received FDA approval for the device for the
treatment of essential tremor, including that associated with Parkinson's
Disease. Many of our competitors have substantially greater financial,
manufacturing, marketing and technical resources than we do and have obtained
third-party reimbursement approvals for their therapies. In addition, the health
care industry is characterized by extensive research efforts and rapid
technological progress. Our competitors may develop technologies and obtain
regulatory approval for products that are more effective in treating epilepsy
than our current or future products. In addition, advancements in surgical
techniques may make surgery a more attractive therapy for epilepsy. The
development by others of new treatment methods with novel antiepileptic drugs,
medical devices or surgical
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techniques for epilepsy could render the NCP System non-competitive or obsolete.
We may not be able to compete successfully against current and future
competitors, including new products and technology, which could severely harm
our business, financial condition or results of operations.
If we fail to effectively manage our growth, our ability to maintain
our costs or capture new business could suffer. In connection with the
commercialization of the NCP System in the United States, we have begun and
intend to continue to significantly expand the scope of our operations, in
particular in manufacturing and in marketing and sales. Such activities have
placed, and may continue to place, a significant strain on our resources and
operations. Our ability to effectively manage such growth will depend upon our
ability to attract, hire and retain highly qualified employees and management
personnel. We compete for such personnel with other companies, academic
institutions, government entities and other organizations and we may not be
successful in hiring or retaining qualified personnel. Our success will also
depend upon the ability of our officers and key employees to continue to
implement and improve our operational, management information and financial
control systems. If we fail to manage our growth effectively, our business would
suffer.
We are subject to claims of product liability and we may not have the
resources or insurance to cover the cost for losses under these claims. As an
implantable medical device, the manufacture and sale of the NCP System entails
the risk of product liability claims. Our product liability coverage may not be
adequate to cover any of these claims. Product liability insurance is expensive
and in the future may not be available on acceptable terms, if at all. A
successful claim brought against us in excess of our insurance coverage could
significantly harm our business and financial condition.
If we do not continue to comply with changing government regulations,
we could lose our ability to market and sell our product. The preclinical and
clinical testing, manufacturing, labeling, sale, distribution and promotion of
the NCP System are subject to extensive and rigorous regulation in the United
States by federal agencies, primarily the FDA, and by comparable state agencies.
In the future, it will be necessary for us to obtain additional government
approvals for other applications of the NCP System and for modified or
future-generation products. Commercial distribution in certain foreign countries
is also subject to obtaining regulatory approvals from the appropriate
authorities in such countries. The process of obtaining FDA and other required
regulatory approvals is lengthy, expensive and uncertain. Moreover, regulatory
approvals may include regulatory restrictions on the indicated uses for which a
product may be marketed. Failure to comply with applicable regulatory
requirements can result in, among other things, fines, suspension or withdrawal
of approvals, confiscations or recalls of products, operating restrictions and
criminal prosecution. Furthermore, changes in existing regulations or adoption
of new regulations could prevent us from obtaining, or affect the timing of,
future regulatory approvals. We may not be able to obtain additional future
regulatory approvals on a timely basis or at all. Delays in receipt of or
failure to receive such future approvals, suspension or withdrawal of previously
received approvals, or recalls of the NCP System could severely harm our ability
to market and sell our current and future products and improvements.
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Our international operations are subject to risks not generally
associated with commercialization efforts in the United States. We may not be
successful in increasing our international market sales or in obtaining
reimbursement or any regulatory approvals required in foreign countries. The
anticipated international nature of our business is also expected to subject us
and our representatives, agents and distributors to laws and regulations of the
foreign jurisdictions in which we operate or where the NCP System is sold. The
regulation of medical devices in a number of such jurisdictions, particularly in
the European Union, continues to develop and new laws or regulations may impair
our ability to market and sell our products in those jurisdictions.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
We are exposed to financial and operational risks inherent in our
international operations. We are subject to exposures that arise from foreign
exchange rate fluctuations which are associated with transactions denominated in
foreign currencies, primarily from translation of results of operations from
outside the United States, intercompany loans and intercompany purchases of
inventory.
We are also exposed to interest rate risk. We adhere to a conservative
investment policy, whereby its principle concern is the preservation of liquid
funds while maximizing its yield on such assets. Cash, cash equivalents and
marketable securities are invested in different types of investment-grade
securities with the intent of holding these securities to maturity. Although the
portfolio is subject to fluctuations in interest rates and market conditions, no
gain or loss on any security would actually be recognized in earnings unless the
instrument was sold.
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PART II - OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
On August 21, 2000, the Company amended its Bylaws (the "Bylaws") and
amended and restated its Preferred Shares Rights Agreement (the "Rights
Agreement"), dated March 4, 1997, as amended and restated effective February 16,
2000. The Bylaws were amended to: (i) address the conduct of business at
stockholder meetings and the procedures for submitting stockholder proposals;
(ii) require approval of two-thirds of the stockholders for amendments to bylaws
adopted by stockholders, and (iii) require action by the board of directors to
fill vacancies on the board of directors. In addition, the indemnification
provisions have been amended.
The Rights Agreement was amended to provide that rights would not be
distributed and become exercisable until earlier of (i) 10 days following a
public announcement that a person has become the beneficial owner of 15% or more
of the Company's Common Stock then outstanding (an "Acquiring Person"), or (ii)
10 business days (or such later date as may be determined by action of Company's
Board of Directors) following the date on which a tender offer or an exchange
offer by any person is first published or sent or given to the Company if,
assuming the successful consummation of such transaction, such person would be
an Acquiring Person. Prior to this amendment, a person became an "Acquiring
Person" upon becoming the beneficial owner of 20% or more of the Company's
common stock then outstanding.
The Company has not attempted to describe all of the changes made in
the referenced amendments. Please see the full text of the Bylaws and Rights
Plan filed as an exhibit to the Company's current report on Form 8-K as filed
with the Commission on September 12, 2000.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.1 Amendment to 1988 Incentive Stock Plan effective as of
October 2, 2000
10.2 Amendment to 1996 Stock Option Plan effective as of
October 2, 2000
10.3 Amendment to 1997 Stock Plan effective as of October 2, 2000
27.1 Financial Data Schedule
(b) Reports on Form 8-K
The Company filed reports on Form 8-K on September 12, 2000 and
September 26, 2000 in connection with amendments to its Bylaws and
Shareholders Rights Plan as well to place on record a presentation to
investors.
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SIGNATURE
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.
CYBERONICS, INC.
Registrant
BY: /s/ PAMELA B. WESTBROOK
-------------------------------------------
Pamela B. Westbrook
Vice President, Finance and Administration
and Chief Financial Officer (principal
financial and accounting officer)
Dated: November 14, 2000
<PAGE> 22
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
<S> <C>
10.1 Amendment to 1988 Incentive Stock Plan effective as of October 2, 2000
10.2 Amendment to 1996 Stock Option Plan effective as of October 2, 2000
10.3 Amendment to 1997 Stock Plan effective as of October 2, 2000
27.1 Financial Data Schedule
</TABLE>
