FORM 10-KSB/A-3
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
(Mark one)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For fiscal year ended December 31, 1996
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: 0-22340
PALOMAR MEDICAL TECHNOLOGIES, INC.
----------------------------------
(Exact name of small business issuer as specified in its charter)
<TABLE>
<C> <C>
Delaware 04-3128178
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
</TABLE>
66 Cherry Hill Drive, Beverly, MA 01915
---------------------------------------
(Address of principal executive offices)
(508) 921-9300
--------------
(Issuer's telephone number, including area code)
Securities registered pursuant to Section 12 (b) of the Act:
- ------------------------------------------------------------
Name of each exchange on
Title of each class which registered
------------------- ------------------------
Not Applicable Not Applicable
SECURITIES REGISTERED PURSUANT TO SECTION 12 (G) OF THE ACT:
------------------------------------------------------------
Common Stock , $.01 par value
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such report(s), and (2) has been subject to such
filing requirements for the past 90 days). Yes X No
----
Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [X]
The issuer's revenues for its fiscal year ended December 31, 1996 were
$70,098,443.
As of March 20, 1997, 30,945,824 shares of Common Stock, $.01 par value per
share, and 16,000 shares of Preferred Stock $.01 par value per share were
outstanding. The aggregate market value, held by non-affiliates, of shares of
the Common Stock, based upon the average of the bid and ask prices for such
stock on that date was approximately $195,345,514.
Transitional Small Business Disclosure Format: Yes No X
---- -------
<PAGE>
1
PART I
ITEM 1. DESCRIPTION OF BUSINESS
GENERAL
Palomar Medical Technologies, Inc., a Delaware corporation, (the "Company"
or "Palomar") was organized in 1987 to design, manufacture and market lasers,
delivery systems and related disposable products for use in cosmetic and medical
procedures. The Company currently operates in two business segments: medical
products and services and electronic products. In the medical products segment,
the Company manufactures and markets U.S. Food and Drug Administration ("FDA")
approved ruby and CO2 lasers for hair removal, skin resurfacing and wrinkle
treatment, among other things. The Company has and continues to develop ruby,
pulse dye and diode medical lasers for use in clinical trials and is engaged in
the research and development of additional laser products. The Company has
expanded its efforts in the cosmetic laser area through a series of product
development activities, acquisitions and strategic alliances that target patient
self-pay procedures performed in doctors' offices and clinics. Principal among
these are the development of the EpiLaserTM, a ruby laser system for removing
unwanted hair. The laser hair removal, skin resurfacing and wrinkle treatment
products are significant to the Company's strategic plan and are discussed in
further detail below. The Company has entered into a number of research
agreements with recognized research hospitals and clinical laboratories. The
Company provides research funding, laser technology and optics expertise in
return for licensing agreements to specific medical applications and patents as
more fully described below. See "Patents and Licenses." Management believes that
this method of conducting research and development provides a higher level of
technical and clinical expertise than it could provide on its own, and in a more
cost-efficient manner.
In February 1997, Palomar Medical Products, Inc. ("Palomar Medical
Products") was formed as a wholly-owned subsidiary of the Company with the
purpose of consolidating the management and operations of the medical products
companies. In January 1997, the Company named an outside party as the President
and CEO of Palomar Medical Products to oversee and manage the operations.
Included in the medical products group are the following companies: Spectrum
Medical Technologies, Inc., Tissue Technologies, Inc., Star Medical
Technologies, Inc., Dermascan, Inc. and Palomar Technologies, Ltd., all of which
remain wholly-owned subsidiaries of the Company (see "Formation of Palomar
Technologies, Ltd."). Included as part of the medical business segment but
excluded from the medical products group is a newly formed, wholly owned
subsidiary of the Company, Cosmetic Technology International, Inc., which
intends to establish a worldwide network of cosmetic and dermatological laser
sites with medical service partners (see "Formation of Cosmetic Technology
International, Inc.").
In September 1995, the Company established Palomar Electronics Corporation
as a wholly-owned subsidiary of Palomar Medical Technologies, Inc. as part of a
plan to separate the electronics and computer segments of the business from the
medical laser segments of the business.
In the electronic products segment, the Company's Nexar Technologies, Inc.
subsidiary manufactures, markets and sells personal computers with a unique
circuit board design that enables end users to easily upgrade and replace the
microprocessor, memory and hard drive components, which management believes will
decrease the level of technical obsolescence associated with most desktop
personal computers in the market. Dynaco Corp. manufactures high density,
flexible electronic circuitry for use in industrial, military and medical
devices and is also introducing a number of proprietary products targeted to
service the personal computer industry, including high density memory modules.
These new proprietary computer memory modules double the memory capacity of
traditional memory modules using the same interface. Comtel Electronics is a
contract manufacturer which provides turnkey manufacturing and test services of
electronic assemblies.
THE COMPANY'S STRATEGIC PLAN
The Company's near-term strategy is to increase its focus on the
medical segment portion of the business. The company believes that it can spin
out companies in the non-core electronics segment in the form of publicly traded
<PAGE>
2
companies. The Company believes that with the attainment of FDA clearance for
marketing and sales of its lasers for the treatment of hair removal, skin
resurfacing, and wrinkle treatment, the medical segment of its business is
positioned for success. The Company will continue to develop, acquire or license
technologies that can be integrated into its current and proposed products in
the medical business segment. Through its Cosmetic Technology International Inc.
subsidiary, the Company will also focus on the services segment of the business.
The Company intends to address very large markets incorporating its core
technology with proprietary products and services and structure its operations
to strive to be the low-cost producer and provider of these products and
services. The Company intends to seek agreements or arrangements with other
medical products and high technology companies in order to acquire technical and
financial assistance in the research and development of such products and in the
extensive experimentation and testing required to obtain regulatory approvals in
the United States and elsewhere. The Company will continue to seek marketing and
distribution agreements with established companies to enable it to market some
of its products quickly and more efficiently and will also utilize and enhance a
direct sales force.
The Company has already begun to spin out Companies in its electronics
segment. On April 30, 1997, the Company entered into an agreement to sell its CD
Titles subsidiary to the management of CD Titles for a promissory note of
$600,000 due April 30, 1999. In addition, the Company also received a warrant to
purchase 750,000 shares of CD Titles common stock at various exercise prices
ranging from $6.00 to $10.00 Management is currently evaluating various
alternatives and methods for Dynaco Corp. and its subsidiaries. Although the
Company cannot guarantee successful completion of these publicly traded
spinouts, the intention is to complete these transactions during 1997. In
addition, the Company's subsidiary Nexar Technologies, Inc. (See "Formation of
Nexar Technologies, Inc.") is in the process of completing its proposed initial
public offering. Management anticipates that this initial public offering will
be completed by mid-April 1997. However, the Company can in no way guarantee nor
ensure successful completion of the initial public offering.
The Company believes that the expansion and success of its business is
significantly influenced by key employees at its operating subsidiaries. The
Company has and intends to continue to create incentive programs that allow
management as well as key members of senior management of the Company at these
operating subsidiaries to participate in the success of these operating
subsidiaries by participating in the equity of each subsidiary or profit sharing
plans.
The Company also makes early stage investments in core technologies and
companies that management feels are strategic to the Company's business or will
yield a higher than average financial return to support the Company's core
business. Some of these investments are with companies that are related to some
of the directors and officers of the Company. (See "Item 6. Management's
Discussion and Analysis of Financial Condition and Results of Operations --
Liquidity and Capital Resources." and "Item 12. Certain Relationships and
Related Transactions.")
RECENT FINANCING OF OPERATIONS AND INVESTMENTS
The Company has financed current operations and expansion of its core
business with short-term financial borrowings and investments through the
private sale of debt and equity securities of the Company. The Company raised a
total of $56,112,391 and $31,083,892 in such financings during the years ended
December 31, 1996, and December 31, 1995, respectively. The Company anticipates
that it will require substantial additional financing during the next
twelve-month period. The Company may from time to time be required to raise
additional funds through additional private sales of the Company's debt or
equity securities. Sales of securities to private investors are sold at a
discount to the current or future public market for similar securities. It has
been the Company's experience that private investors require that the Company
make its best effort to register their securities for resale to the public at
some future time. The Company increased its authorized shares on July 19, 1996
from 40,000,000 shares of common stock to 100,000,000 shares of common stock.
There can be no assurance that the Company will be successful in raising
additional capital on favorable terms. (See Notes 5 and 15 in the "Notes to
Consolidated Financial Statements," and "Item 5. Market for Common Equity and
Related Stockholder Matters.")
INCREASE IN OUTSTANDING SHARES
As a result of financing activities, business developments, mergers and
acquisitions, issuance of incentive stock options and warrants to purchase
common stock to attract and retain key employees, the Company's issued and
outstanding
<PAGE>
3
shares of common stock have increased to 30,596,812 at December 31, 1996. The
Company also had additional reserved but unissued shares of common stock of
20,467,819 shares at December 31, 1996. The Company's issued and outstanding
shares of common stock increased subsequent to December 31, 1996 to 30,996,283
shares with additional reserved but unissued shares of common stock of
20,061,274 shares as of February 21, 1997. A substantial number of the Company's
reserved shares are registered and could be resold into the public market.
RELATED PARTY INVESTMENTS AND TRANSACTIONS
The Company has entered into a number of transactions with related parties.
To date, the Company has an aggregate of $5,076,751 of notes receivable and
investments with related parties. Included in the aggregate amount are loans to
certain officers, directors and key employees of $995,331; notes receivable to
related parties of $464,153; a loan of $1,100,000 to a public company of which a
former director is the director and chief financial officer; an unsecured note
of $604,653 to the Company's underwriter; and trading securities of $1,912,614
in a publicly traded company in which the chief executive officer is an
approximately 13% owner. See Note 11 in the "Notes to Consolidated Financial
Statements."
MEDICAL PRODUCTS SEGMENT
BUSINESS DEVELOPMENTS
ACQUISITION OF STAR MEDICAL TECHNOLOGIES, INC.
On July 1, 1993, the Company acquired 80% of the common stock of Star
Medical Technologies, Inc. ("Star"), a development stage company formed on April
1, 1993. Star develops medical and commercial products using high power laser
diodes. To date, Star has developed a number of medical diode laser prototypes
under clinical investigation. The acquisition price was $600,000 in cash and
five-year nonqualified stock options granted to certain officers of Star to
purchase up to an aggregate of 100,000 shares of the Company's common stock at
an exercise price of $1.78 (50% of the fair market value of the Company's common
stock on July 1, 1993). In addition, during 1994, the Company acquired an
additional 5% of the common stock of Star for cash payments of $970,000.
In April 1996, the Company purchased the remaining 15% of the outstanding
common stock of Star from its founders, bringing its ownership to 100%, in
exchange for 217,943 shares of Palomar's common stock valued at $7.85 per share.
This agreement restricts for a period of two years the sale of the Company's
common stock issued in connection with this agreement. The purchase price has
been recorded as additional goodwill and is being amortized over a period of
five years. In connection with this agreement the original founders of Star have
agreed to rescind all royalties due to them under a Rights Agreement dated July
1, 1993. To date, revenue from the Star subsidiary has not been significant.
ACQUISITION OF SPECTRUM MEDICAL TECHNOLOGIES, INC.
On April 5, 1995, the Company acquired all of the outstanding common stock
of Spectrum Medical Technologies, Inc. ("Spectrum"). The purchase price
consisted of $300,000 in cash, a $700,000 two-year promissory note, 364,178
shares of the Company's common stock with an aggregate fair market value of
$1,000,000, acquisition costs of $161,138 and assumed liabilities totaling
$1,128,139. In addition, the purchase price consists of a 20% contingency
payment, payable in the Company's common stock, based upon the future earnings
performance of Spectrum over a three to five-year period. Spectrum develops,
manufactures, sells and services ruby lasers throughout the world for
dermatological applications.
FORMATION OF SPECTRUM FINANCIAL SERVICES LLC
On June 30, 1995, Spectrum Financial Services LLC ("SFS"), a financial
services leasing company and a minority-owned subsidiary of the Company, was
formed. As of December 31, 1996 and 1995, the Company had funded the minority
subsidiary with cash in the amount of $1,680,919 and $856,300 respectively. SFS
arranges for financing of medical products sold by the Company. In addition,
during 1996 as part of its business strategy, the Company aligned itself with
Copelco Capital, one of the world's largest and most established leasing
companies, to become the exclusive label leasing company for the Company's
complete line of cosmetic lasers.
<PAGE>
4
LICENSE AND RESEARCH AGREEMENT WITH MASSACHUSETTS GENERAL HOSPITAL FOR
LASER HAIR REMOVAL
In August 1995, the Company entered into an exclusive, worldwide, perpetual
license for certain technology that applies to a patented method of delivering
laser energy to treat unwanted hair. The Company also entered into a four-year
agreement with the Massachusetts General Hospital ("MGH"), whereby MGH agreed to
conduct clinical trials on a laser treatment for hair removal/reduction invented
by Dr. R. Rox Anderson, Wellman Laboratories of Photomedicine, MGH. As part of
the agreement, MGH provided the Company with prior data already generated by Dr.
Anderson with respect to the ruby laser device at MGH. This information was the
basis for an application filed on December 8, 1995 with the FDA for approval of
the Company's EpiLaser(TM) for treating unwanted hair. The Company is obligated
to fund the clinical research in the aggregate amount of approximately $917,000
over the term of the contract. On August 18, 1995, the Company also entered into
a worldwide exclusive license agreement with MGH. Upon completion of a valid
product or service, or new uses (not related solely to hair removal) based on
the findings of the clinical studies, the Company shall be given the first right
of refusal to negotiate an exclusive or non-exclusive license agreement. As
consideration for this license, the Company is obligated to pay MGH royalties of
5.5% of net revenue from product/services covered by valid patents licensed to
the Company exclusively; 2.5% of net revenues of products/services covered by
valid patents licensed to the Company non-exclusively; 1.5% of net revenues of
products developed and exploited, not covered above and no less than 3% on the
sale of any other laser using other technology as defined for the use of hair
removal.
ACQUISITION OF TISSUE TECHNOLOGIES, INC.
On May 3, 1996 the Company acquired 100% of Tissue Technologies, Inc.
("Tissue Technologies"), an Albuquerque, New Mexico based manufacturer of
dermatology laser products, in exchange for 3,200,000 shares of the Company's
common stock. The Company has accounted for this acquisition as a
pooling-of-interest in accordance with Accounting Principles Board Opinion
No.16. Tissue Technologies is engaged in the manufacture, marketing and sales of
C02 laser systems used in skin resurfacing and treatment of wrinkles.
ACQUISITION OF DERMASCAN, INC.
On July 18, 1996 the Company purchased 80 shares of common stock (80% of
total issued and outstanding capital stock) of Dermascan, Inc. ("Dermascan")
from a Dermascan stockholder in exchange for 35,000 shares of common stock of
the Company. The Company included these 35,000 shares in a registration
statement that became effective February 28, 1997. In addition, the Company has
agreed to pay the Dermascan stockholder an amount equal to the difference
between $14.00 and $7.8125, the closing bid price on February 28, 1997. The
agreement also includes a put right by the remaining 20% stockholder of
Dermascan, which provides that, at any time after three years from the date of
the agreement, the Company will be required to purchase the stockholders' 20%
interest for $130,000 in cash. In connection with the agreement, the Company
entered into a five year employment agreement with the President of Dermascan
which guarantees annual payments of up to $125,000. Dermascan's operations prior
to acquisition were not material. The Company has recorded the acquisition at
the guaranteed stock price of $490,000 in total. Dermascan markets and sells
electrology equipment and supplies to the electrology market. To date, the
operations of Dermascan have not been significant.
FORMATION OF PALOMAR TECHNOLOGIES, LTD.
On November 13, 1996, the Company formed Palomar Technologies, Ltd. located
in Hull, England. This company was formed to establish a European resource to
manufacture, sell and service laser products throughout Europe and provide a
low-cost sourcing alternative for specialty components. Operations have not yet
begun and will not begin until mid-1997. Through February 28, 1997, the Company
has funded this subsidiary with $1,592,180 for the purchase and lease of its
manufacturing facilities and the hiring of certain key employees.
FORMATION OF PALOMAR MEDICAL PRODUCTS, INC.
On February 18, 1997, the Company formed Palomar Medical Products, Inc., a
wholly-owned subsidiary, for the purpose of consolidating the management and
operations of the medical products companies. Included in the medical
<PAGE>
5
products group are the following companies, all of which remain wholly-owned
subsidiaries of the Company: Spectrum, Tissue, Star Medical, Dermascan and
Palomar Technologies, Ltd.
MEDICAL SERVICES SEGMENT
FORMATION OF COSMETIC TECHNOLOGY INTERNATIONAL, INC.
On December 20, 1996, Cosmetic Technology International, Inc. ("CTI") was
formed as a 100%-owned subsidiary of the Company. As of December 31, 1996 the
Company had funded CTI with cash of approximately $650,000. CTI is a services
company which intends to establish a worldwide network of cosmetic
dermatological laser and medical device sites with medical services partners
(both fixed and mobile) in key geographic locations. Each site will be provided
a turnkey package of laser and medical device technology, equipment, training
and service, operations personnel, strategic advertising and marketing programs,
patient financial credit programs and management assistance. In early 1997, a
binding letter of intent was completed with Columbia/HCA, a $20 billion company
and one of the world's largest owners and operators of medical facilities, to
establish revenue sharing sites throughout the country in existing Columbia/HCA
facilities. CTI and Columbia/HCA are working together to determine the location
and opening dates of such sites; to date, none have been established. To date,
CTI has opened and is operating two sites that are wholly-owned by CTI, one in
Los Angeles and one in Phoenix. CTI has also established a revenue-sharing site
in Australia. During 1996 the operations of CTI were not significant.
Medical Products and Lasers in Medicine
EpiLaser Product for Laser Hair Removal
In recent years, scientists and clinicians have developed a concept called
tissue optics to describe how the unique properties of the laser can be used to
treat human tissue selectively and more precisely. By careful selection of laser
parameters, such as wavelength (color), energy and pulse width (exposure time),
and with a detailed understanding of the physical and optical properties of the
target tissue, the clinician can selectively treat the target tissue while
minimizing or eliminating damage to surrounding tissue. The concept of color
selectivity has been useful in developing a number of successful dermatologic
applications. With the appropriate selection of energy and pulse width to allow
for the preferential absorption by the melanin present in the target area or by
the hemoglobin in blood there is negligible absorption by the surrounding
tissue. This concept of tissue optics applies to all of the medical laser
products under development by the Company.
Spectrum has developed a long pulse ruby laser, using its core ruby laser
technology developed for tattoo removal and pigmented lesions, that is
specifically configured to allow the appropriate wavelength, energy level and
pulse duration to effectively be absorbed by the hair follicle without being
absorbed by the surrounding tissue. In March 1997 Spectrum received FDA
clearance to sell and market the EpiLaser in the U.S. for hair removal. In July
1996 the Company received clearance from the FDA to sell and market the EpiLaser
for a wide range of dermatological applications, not including hair removal.
During April of 1996, clearance was given to market the laser-based hair removal
system in Canada. This method of hair removal allows for selective destruction
of the target follicle without harming the surrounding skin. The laser operates
in the 20-25 J energy range, delivering fluences in the range of 10-50J/cm2 in a
3-ms pulse. The beam delivering system produces a round beam with a nearly
flat-top energy distribution, thereby avoiding local hot spots. The hair-removal
technology utilized by Palomar targets the pigment in a hair follicle and was
developed by Dr. Rox Anderson at MGH. The laser incorporates a proprietary
handpiece delivery system that enables the laser light to penetrate to the
correct depth while at the same time limiting the amount of discomfort
associated with the procedure. The laser light is pulsed at a rapid rate
covering approximately one half square inch at each pulse. This treatment method
allows for a large area of treatment over a short period of time.
In an effort to find a way to allow the laser light to pass through top
skin layers and be deeply absorbed in the hair follicle below, a contact
handpiece applicator was developed by MGH and licensed to Spectrum on an
exclusive world-wide perpetual basis. This unique delivery device is the key to
the success and selectivity of the ruby based laser hair removal system. The
Company believes this unique delivery system enables the user to address a
potentially larger
<PAGE>
6
market than electrolysis currently does by offering to treat large areas of the
body such as back, chest, abdomen, legs, arms and other areas. See "License and
Research Agreement with Massachusetts General Hospital for Laser Hair Removal".
THE HAIR-REMOVAL MARKET
The market for laser-based hair removal is in its early stages and, as
such, market segment information is only now being formulated. However,
management believes that the current electrolysis market is a good model. Last
year, more than one million women in the United States underwent treatment using
electrolysis, spending on average more than $1,000 each, representing a market
of approximately $1 billion annually. In addition, surveys indicate as many as
15% of men would also like to remove unwanted hair especially from back and
chest areas. Electrolysis is the only proven commercially available method for
the long-term removal of body hair. Other methods of hair removal include
waxing, depilators, tweezing, depilatory creams and shaving, all resulting in
only short-term hair removal.
Electrolysis is a process in which an electrologist inserts a needle
directly into a hair follicle and activates an electric current in the needle,
which disables the hair follicle. The tiny blood vessels in each hair follicle
are heated and coagulated, presumably cutting off the blood supply to the hair
matrix or are destroyed by chemical action depending upon modality used. The
success rate for electrolysis is variable depending upon the skill of the
electrologist and always requires a series of treatments. Electrolysis is
time-consuming, expensive and sometimes painful. There is also some risk of skin
blemishes and a rising concern relating to needle infection. Since electrolysis
only treats one hair follicle at a time and can only treat visible hair
follicles, the treatment of an area as small as an upper lip may require
numerous visits at an aggregate cost of up to $1,000. Although 70% of all
electrolysis treatments are for facial hair, the neck, breasts and bikini line
are also treated. Because hair follicles are disabled one at a time,
electrolysis is rarely used to remove hair from large areas such as the back,
chest, abdomen and legs.
Market surveys report that more than 70% of women in the United States
employ one or more techniques for temporary hair removal from various parts of
the body. Pulling hair from the follicle produces the longest term temporary
results, but is painful and may cause skin irritation. A number of techniques
are used to pull hair from the follicle including waxing, depilators and
tweezing. In the waxing process, a lotion, generally beeswax-based, is spread on
the area to be treated and allowed to harden, thereby trapping the hairs. The
hardened film is then rapidly peeled off, pulling out the entrapped hairs.
Depilators employ rotating spring coils or slotted rubber rolls to trap and pull
out the hairs. Tweezing involves removing individual hairs with a pair of
tweezers. Depilatory creams, which contain chemicals to separate hair from the
follicle, frequently leave a temporary, unpleasant odor and may also cause skin
irritation. Shaving is the most widely used method of hair removal, especially
for legs and underarms, but produces the shortest term results. Hair bleaches do
not remove hair, but instead lighten the color of hair so that it is less
visible. A principle drawback of all of these methods is that they require
frequent treatment.
Preliminary studies using Spectrum's laser hair removal process
demonstrated significant prolonged hair growth delay ranging from six to nine
months to in excess of two years in some cases. In some cases, the hair is
permanently removed following treatment with the EpiLaser. Potential benefits of
laser hair removal include: treatment of larger areas in each treatment session,
relatively painless procedure, reduced risk of scarring, non-invasive procedure,
carries no risk of cross-contamination, and higher success rates than with
previous methods.
Competition
Currently, there are three other companies (ThermoLase (Division of
Thermo Electron Corp.), Laser Industries, Ltd. and MEHL/Biophile International)
that have FDA clearance for a laser-based hair removal system in the United
States. ThermoLase, a publicly traded company, received clearance from the FDA
in April 1995 to commercially market services using its laser-based hair removal
system. The ThermoLase system uses a low-energy, dermatology laser in
combination with a carbon based lotion that absorbs the laser's energy to
disable hair follicles. ThermoLase opened up spas in California, Texas, Florida
and Colorado. ThermoLase is also opening or plans to open additional spas,
including in suburban Detroit, Michigan; Greenwich, Connecticut; Manhasset, New
York; Minneapolis, Minnesota; and Palm Beach, Florida. As part of its
commercialization strategy, ThermoLase plans to establish a network of
ThermoLase-owned centers in major metropolitan areas in the U.S., third-party
<PAGE>
7
licensees in selected smaller U.S. markets and joint ventures in foreign
markets. Laser Industries, Ltd., received FDA clearance in March 1997 to market
its EpiTouchTM ruby laser for hair removal. The EpiTouchTM will be sold in the
U.S. through Sharplan 2000, Inc., a joint venture of Laser Industries, Ltd. and
MEHL/Biophile International Corp. MEHL/Biophile's wholly owned subsidiary,
Selvec Acquisitions Corp., received FDA clearance in March 1997 to market its
SLS CHROMOS 694 (R) long pulse ruby laser hair removal system.
Several other companies have also indicated interest in developing and/or
introducing hair removal devices in 1997, making laser hair removal the most
competitive application within the cosmetic laser marketplace.
As more companies complete development of cosmetic/medical laser products
and/or receive FDA clearance it is expected that there will be a consolidation
of companies within the industry via acquisitions, partnering arrangements or
joint ventures. In February 1997, ESC Medical Systems announced a definitive
stock swap agreement under which it would acquire Luxar Corporation, a privately
held manufacturer of surgical lasers.
Marketing, Distribution and Service for the EpiLaser
Spectrum sells and markets the EpiLaser through an established network of
distributors in the U.S. and worldwide and will also enhance and develop a
direct sales force during 1997. Management feels that this combination allows
for a level of coverage that is more than adequate to service all its major
market segments. As part of Spectrum's marketing efforts, the sales force
provides the doctors a level of local market support including in-office
marketing brochures, advertising copy and clinical data in a marketing kit that
the doctor uses to educate the doctors' patient base. Using this marketing
approach, Spectrum is able to establish long term relationships with its
customers providing Spectrum with an installed base of customers. This base of
customers is an important factor in introducing new products to the market.
Spectrum provides for service in the U.S. through its own service
organization with regional representation. Spectrum's international sales are
serviced by its distributor network. All service technicians are trained by
Spectrum. Spectrum's recommended preventive maintenance schedule provided by
these trained technical representatives provides for a high level of product
reliability.
Manufacturing and Suppliers for the EpiLaser
Spectrum's manufacturing operations consist of the assembly and testing of
components purchased from outside suppliers and contract manufacturers. Spectrum
maintains control and manufactures key components in-house. The entire fully
assembled system is subjected to a rigorous set of tests prior to shipment to
the customer or distributors.
Spectrum depends and will depend upon a number of outside suppliers for
components used in its manufacturing process. Most of Spectrum's components and
raw materials are available from a number of qualified suppliers. One critical
component that is available through only one supplier is ruby rods. To date, the
Company has not experienced, nor does it expect to experience, any significant
delays in obtaining component parts or raw materials. Spectrum has expanded its
manufacturing capabilities in the United States to satisfy projected demand and
allow for manufacturing capacity for additional products. Spectrum is pursuing
both CE mark and ISO 9001 Registrations to meet international standards needed
to pursue European markets.
Tru-Pulse(R) C02 Laser for Skin Resurfacing and Treatment of Wrinkles
Tissue Technologies manufactures and sells the Tru-Pulse Laser. In late
1995, Tissue Technologies received FDA clearance to sell and market its
Tru-Pulse laser in the U.S. for skin resurfacing. To date, Tissue Technologies
has shipped approximately 250 laser systems to dermatologists and other medical
specialists worldwide. In October of 1996 Tissue Technologies received both CE
Mark and ISO 9001 registrations, meeting the international standards that allow
products to be sold and shipped primarily to European countries. On February 18,
1997, Tissue Technologies received additional clearance from the FDA to sell and
market its Tru-Pulse Laser for the treatment of wrinkles, scar revision and burn
debridement.
The Tru-Pulse laser offers skin ablation as a means of reducing wrinkles.
The laser uses certain patented C02 technology designed especially for skin
ablation. The Tru-Pulse operates at 10,000 watts of peak power delivering 500
<PAGE>
8
millijoules per pulse in a 65 microsecond pulse. The Tru-Pulse has the ability
to deliver the required amount of energy in a relatively short pulse as compared
to competitors' systems. The Tru-Pulse also has a unique beam profile. Most C02
lasers have a gaussion beam with a central hot spot. In contrast, the Tru-Pulse
has a non-gaussion beam with power evenly distributed throughout its cross
section. Clinical data suggests that the combination of these unique C02 laser
properties may account for the shorter healing time and reduced erythema
reported by doctors who use the Tru-Pulse.
The Tru-Pulse is currently being sold through distributors in the United
States as well as internationally. Tissue Technologies utilizes the same
distributors as Spectrum Medical and is in the process of enhancing/utilizing a
joint direct sales force within the Palomar Medical Products Group. The system
is also sold to dermatologists, plastic surgeons and other medical specialists
directly.
Manufacturing and Suppliers for Tru-Pulse Laser
Tissue Technologies' manufacturing operations consist of the assembly and
testing of components purchased from outside suppliers and contract
manufacturers. Tissue Technologies depends upon a number of outside suppliers
for components used in its assembly process. To date Tissue Technologies has not
experienced any significant delays or other difficulties in obtaining parts or
components. The Tissue Technology CO2 technology is based on recent technology
advances and as such is yet to be optimized. Currently, the most critical
component is manufactured by one supplier that has experienced problems in tube
reliability. The Company is currently seeking other alternative tube suppliers
as well as considering manufacturing and producing the CO2 tubes themselves, and
believes that this reliability issue will be rectified during 1997.
<PAGE>
9
COMPETITION FOR TISSUE'S TRU-PULSE LASER
Currently, there are three main competitors to the Tru-Pulse Laser: Laser
Industries (Sharplan), Coherent, Inc. and Luxar (recently acquired by ESC
Medical Systems.) Laser Industries and Coherent, combined, account for
approximately 50% of the world market. The estimated U.S. patient services
market for skin resurfacing and treatment of wrinkles is $500-plus million. The
annual worlwide cosmetic skin resurfacing product laser market is estimated to
be approximately $115 million. These numbers are expected to increase as "baby
boomers" age into their 50's. Coherent had been pricing its UltraPulse System at
the high end of the market with a high power laser that lists for $120,000, but
recently introduced new models which are priced from $75,000 to $90,000. Tissue
Technologies, Sharplan and Luxar average list price is $40,000 - $70,000.
Ruby Laser for Tattoo Removal
In April 1995, the Company acquired all of the outstanding common stock of
Spectrum. This acquisition provided the Company with an operating subsidiary
concentrating on sales and marketing to the cosmetic laser market including
dermatologists and plastic surgeons. The majority of Spectrum's sales in the
past have been Q-Switched Ruby Lasers for tattoo removal and treating pigmented
lesions, but in 1996 more than half of Spectrum's sales were from the newly
developed EpiLaser. The EpiLaser will clearly be the focus in 1997, but the
RD-1200 ruby laser for tattoo removal will continue to be marketed and sold as
it is already approved for sale in the U.S., Japan and in certain other parts of
the world. The basic ruby laser technology includes core laser technology that
the Company believes is applicable to other lasers for additional applications.
Spectrum sells and markets the RD-1200 through an established network of
distributors and direct sales force in the U.S. and through distributors
worldwide. Spectrum provides for service in the U.S. through its own service
organization with regional representation. Spectrum's international sales are
serviced by its distributor network.
COMPETITION FOR SPECTRUM'S RUBY LASER FOR TATTOO REMOVAL
Competition in the medical device industry is intense and technology
developments are expected to continue at the rapid pace experienced over the
past few decades. Spectrum relies on proprietary technology, performance,
product features, price, reputation in the marketplace and its installed base as
leverage to keep its competitive edge in the marketplace. Spectrum competes with
other manufacturers, some with similar technology and others with competing
technology. Some of these competitive companies have greater financial,
marketing and technical resources than that of Spectrum. The Company anticipates
competition for its tattoo removal laser will continue.
Future Products
Relationship with Wellman Laboratories
Wellman Laboratories ("Wellman Labs"), the world's largest biomedical laser
research facility and part of the MGH Laser Center located in Boston,
Massachusetts, was created to oversee and speed the flow of biomedical laser
research from the laboratory to patient care. Funded in part by a grant from the
Department of Energy, the Laser Center brings together two strengths of MGH: its
clinical departments and Wellman Labs. The MGH Laser Center works together with
industry, academia, and the Department of Energy Laboratories to access
information and technology across a broad spectrum of laser and medical
capabilities.
The principals at Wellman Labs study the fundamental photophysical and
photochemical properties and processes of biomolecules excited by ultraviolet,
visible, and near infrared radiation. The labs are staffed by engineers, laser
physicists and physicians familiar with all aspects of biomolecules, cells, and
tissue IN VITRO. The scientists work side by side with the clinicians to
understand the basic principles involved in the complex interactions of light
and tissue.
In 1994, the Company began a number of studies for the treatment of certain
dermatologic conditions using its diode laser at Wellman Labs. In 1995, these
studies were expanded to include the Company's ruby lasers for cosmetic
procedures. The data associated with these treatments is currently being
evaluated by Wellman Labs and the Company. The Company works closely with Dr. R.
Rox Anderson, a recognized expert in laser tissue interaction and the inventor
of
<PAGE>
10
a number of laser procedures in use today. The Company feels that these types
of relationships are critical in developing effective products for widespread
use in the market on a timely basis.
Diode Laser Product Development
Burn Diagnosis System - U.S. Air Force Contract
In March 1994, the Company's Star subsidiary was notified that their
proposal entitled "High Energy Diode Laser for Burn Diagnosis," submitted to the
Phillips Laboratory Kirkland Air Force Base, New Mexico under DOD Solicitation
94.1 Topic AF94-110, had been selected for funding. The initial contract, a
phase I Small Business Innovation Research Grant ("SBIR") for approximately
$60,000, was completed.
On June 21, 1994, Star was granted an exclusive worldwide license for the
measurement of the Burn Depth in Skin from the Office of Technology Affairs at
MGH.
In March 1995, Star was granted a follow-on phase II SBIR contract with the
U.S. Air Force, Phillips Laboratory, for the research and development of the
burn diagnosis system. The aggregate contract value is approximately $743,000
over a two-year performance period. During the fiscal years ended December 31,
1996 and 1995, the Company recognized $281,991 and $307,000 of government
contract revenue, respectively.
In January 1996, Star Began initial clinical testing of the burn diagnosis
system at the Shriner Burn Center in Boston, Massachusetts and at the Augusta
Medical Center in Augusta, Georgia in November 1996. The system is designed to
illuminate the burn site with near infrared light from a diode laser and to
image the blood flow using fluorescence from an FDA cleared dye as an aid to the
doctor in determining the burn depth. The treatment of the burn differs greatly
depending on the degree of burn. This technique has been licensed by MGH
exclusively to Star. To date the system has been tested on five burn victims and
has demonstrated the ability to detect the absence or presence of blood flow
deep in the dermis. The Company expects that it may take several years before a
commercial product for the measurement of burn depth is available.
Laser Tonsillectomy Research Agreement with the New England Medical Center
("NEMC")
In June 1994, the Company signed an agreement (the "NEMC Agreement") with
the Otolaryngology Research Center for Advanced Endoscopic Applications at New
England Medical Center, Boston, Massachusetts, to provide a research grant and
to sponsor investigations and development of laser applications, advanced
delivery systems and disposable products in the area of dye and diode laser
applications in otolaryngology and related specialties. As defined under the
NEMC Agreement, the Company will provide a total of $150,000 over a one-year
period, of which $50,000 has been paid in the form of laser hardware and an
additional $100,000 has been incurred through December 31, 1995. The parties
have reached an understanding that the Company will obtain ownership rights or
the right of first refusal to exclusive worldwide licenses to sell and market
any inventions developed with the grant funding. In August 1994, the NEMC
Agreement was amended to support animal testing with one of the Company's diode
lasers in connection with performing tonsillectomies. The Company has provided
funding of $54,813 and $36,534 for the years ended December 31, 1995 and 1996
respectively. The Company intends to fund human clinical studies in this area
over the next twelve-month period. The Company expects that it may take several
years before a commercial product for tonsillectomy is available.
Dye Laser Products
U.S. Army Contract
During 1995, the Company entered into a two-year cost plus fixed fee
contract with the U.S. Army. The contract provides for the Company to
investigate Compact, Wavelength Diverse, High Efficiency Solid-State Dye Lasers
and is valued at $3,555,223. Revenue on the contract is recognized as costs are
incurred. During the fiscal years ended December 31, 1995, and December 31, 1996
the Company recognized $1,305,542 and $190,694, respectively, of government
contract revenue. The Company does not anticipate this research will result in a
<PAGE>
11
commercial product within the next few years. In April 1997, the Company novated
this contract to Physical Sciences, Inc. ("PSI"). If the contract is novated to
PSI, upon completion of the contract, PSI has agreed to offer the Company a
right of first refusal for a commercial license to sell, manufacture or
otherwise dispose of solid-state dye laser technology as developed by PSI under
the contract for use in medical products.
THROMBOLYSIS AGREEMENT
On September 10, 1993, the Company entered into the Baxter Agreement with
the Edwards LIS Division of Baxter. Under the Baxter Agreement, the two
companies intend to develop, market, and sell an integrated system utilizing
lasers and catheters for the removal of blood clots. Baxter is responsible for
sales and marketing of the product after FDA clearance and the Company is
responsible for the development and manufacture of the product. Following FDA
clearance the Company will receive 80% of the net sales for laser equipment and
50% of the net sales for catheter and disposable components. Prior to FDA
clearance, the Company will receive 100% of the revenue received from the laser
and the catheter. Under the Baxter Agreement, Baxter licensed its proprietary
technology to the Company, and the Company cross-licensed its technology to
Baxter. The Company also granted to Baxter a license to sell and market products
incorporating such technology. Baxter agreed to transfer its interest in the
agreement to ACS, a division of Eli Lilly, as part of a purchase by Eli Lilly of
the Baxter LIS division. Eli Lilly subsequently sold ACS to Guidant Corp.
In January 1997, Palomar became an equity partner in the formation of a new
company, LaTIS, Inc., created to use Palomar's Laser Thrombolysis technology to
develop a pulsed-dye laser system for treating stroke. With the formation of
this new venture, Laser Thrombolysis is no longer part of Palomar's strategic
agenda, although the Company can still derive the benefits from its research by
potentially being the laser supplier for this large market.
Patents and Licenses
On February 24, 1993, the principals of the Company's Star subsidiary
applied for a patent. This application was subsequently transferred to Star in
connection with the technology underlying the use of a high powered diode laser
for the treatment of psoriasis and other derma vascular malformation. The patent
was issued on June 18, 1996. On June 22, 1995, the NEMC filed a patent for
Coagulation Laser Tonsillectomy. The patent was issued on May 28, 1996. Star has
applied for additional patents regarding the design and use of high powered
diode lasers. The Company has exclusive rights to the NEMC patent. MGH has filed
a number of patents surrounding technology involving laser hair removal. The
first patent was issued on January 21, 1997. The Company has licensed this laser
hair removal technology from MGH in accordance with a certain license and
research agreement as previously discussed.
The Company intends to pursue certain applications of laser technologies,
and is aware of patents relating to laser technologies used in those
applications. If those patents are valid and enforceable, they may be infringed
by the Company. If the Company's current or proposed products are, in the
opinion of patent counsel, infringing on any of these patents, the Company
intends to seek non-exclusive, royalty-bearing licenses to such patents.
The Company has obtained opinions of counsel that the Company is not
infringing on patents held by others; however, these opinions have not been
challenged in court.
In March 1997, Selvac Acquisitions Corp. ("Selvac") filed a complaint in
the United States District Court for the District of New Jersey alleging, among
other things, that the EpiLaser infringes a patent held by Selvac. The Company
filed an action against Selvac's parent MEHL/Biophile in the United States
District Court for the District of Massachusetts in October 1996 seeking, among
other things, a declaration that the Company does not infringe Selvac's patent
and that Selvac's patent is invalid, void and unenforceable. See "Item 3. Legal
Proceedings." Other than the Selvac action, the Company has not been notified
that it is currently infringing on any patents nor has it been the subject of
any patent infringement action. Defense of a claim of infringement is costly and
could have a material adverse effect on the Company's business, even if the
Company were to prevail.
The United States Patent and Trademark Office has granted certain patents
covering basic laser technology to Dr. Gordon Gould, an individual not
affiliated with the Company. In October 1988, Dymed, the Company's predecessor,
entered into a License Agreement with Patlex Corporation ("Patlex") whereby
Dymed was granted a worldwide
<PAGE>
12
non-exclusive license to several laser related patents developed by Dr. Gould
and assigned to Patlex ("Dymed Agreement"). In exchange for payment of
royalties, Patlex granted to Dymed the right to manufacture lasers using its
patented technologies until the expiration of its patents and agreed not to sue
the Company or any of its customers for infringement of the licensed patents. In
January 1992, the Company entered into a new Patent License Agreement with
Patlex (the "Patlex Agreement") that superseded the Dymed Agreement. Under the
terms of the Patlex Agreement, the Company is required to pay, during the term
of the applicable licenses (which are for the life of the patents covered),
royalties of 5% of the "net selling price" (as defined therein) of lasers which
are manufactured, used or sold by the Company, and incorporate Patlex's patent
rights. These patents expire on various dates through May 4, 2005. During the
years ended December 31, 1996 and 1995, the Company recorded $167,000 and
$620,000, respectively, of royalty expense relating to this agreement.
GOVERNMENT REGULATION
All medical device are subject to FDA regulation under the Medical
Device Amendments of the United States Food, Drug and Cosmetics Act (the "FDA
Act"). The Company's business, financial condition and operations are critically
dependent upon timely receipt of FDA regulatory clearances.
FDA Clearance Status for Cosmetic Laser Products
The FDA clearance process in dermatology may be accomplished through a
pre-market approval ("PMA") or under Section 510(k) of the FDA Act. Based upon
discussions with several experts familiar with the FDA clearance process,
management believes that the appropriate FDA clearance process for most
dermatology laser systems is via the 510(k) process which historically has
required less clearance time than the PMA clearance process. The Company is
subject to FDA regulation governing the use and marketing of medical devices.
In December 1995, the Company filed an application for clearance with the
FDA to commercially market the EpiLaser system pursuant to the FDA's 510(k)
process. The data submitted in the filing was based on clinical information
obtained at Wellman Laboratories under the direction of Dr. R. Rox Anderson. The
purpose of the data was to illustrate the safety and effectiveness of using a
ruby laser for removing unwanted hair. In March 1997 the Company received FDA
clearance to sell and market the EpiLaser in the U.S. for hair removal. In July
1996 the Company received clearance from the FDA to sell and market the EpiLaser
for a wide range of dermatological applications, not including hair removal. The
Company's other FDA cleared lasers include the Tru-Pulse for skin resurfacing
and treatment of wrinkles and the RD-1200(TM) Q-switched ruby laser for
treatment of age spots and tattoos. In the event the Company changes laser
specifications of its lasers, it may be required to obtain FDA clearance
pursuant to a new 510(k) application.
OTHER GOVERNMENT APPROVALS FOR MEDICAL PRODUCTS
In order to be sold outside the United States, the Company's products are
subject to FDA permit requirements that are conditioned upon clearance by the
importing country's appropriate regulatory authorities. Many countries also
require that imported products comply with their own or international electrical
and safety standards. In November 1992, the Company obtained approval certifying
compliance with certain international electrical and safety regulations
applicable to its pulsed dye laser. Additional approvals may be required in
other countries. The Company has yet to apply for international approval for its
diode laser for use in cosmetics and dermatology. In October 1996, Tissue
Technologies received both CE Mark and ISO 9001 registrations, meeting
international standards that allow the Tru-Pulse laser to be sold and marketed
in certain European countries. Another significant certification the Company
will pursue will be Shonin, which allows sales and marketing of the Company's
lasers in Japan.
The Company is subject to the laser radiation safety regulations of the FDA
Act administered by the National Center for Devices and Radiological Health
("CDRH") of the FDA. These regulations require a laser manufacturer to file new
product and annual reports, to maintain quality control, product testing and
sales records, to distribute appropriate operation manuals, to incorporate
certain design and operating features in lasers sold to end-users and to certify
and label each laser sold to end-users as one of four classes of lasers (based
on the level of radiation from the laser). In addition, various warning labels
must be affixed to the product and certain protective devices must be installed,
depending upon the class of product. Under the FDA Act, the Company is also
required to register with the FDA as a medical device manufacturer and is
subject to inspection on a routine basis by the FDA for compliance with Good
<PAGE>
13
Manufacturing Practice ("GMP") regulations. The GMP regulations impose certain
procedural and documentation requirements upon the Company relevant to its
manufacturing, testing and quality control activities. The CDRH is empowered to
seek fines and other remedies for violations of these regulatory requirements.
The Company believes that it is currently in compliance with these regulations.
ELECTRONIC PRODUCTS SEGMENT
Business Developments
Acquisition of Dynaco Corporation
On February 9, 1994, the Company acquired substantially all of the assets
and business of Dynaco Corp. ("Dynaco"), Tempe, AZ, for $1,300,000 in cash and
the assumption of approximately $6 million in liabilities. At the time of the
acquisition, Dynaco had been operating under Chapter 11 of the U.S. Bankruptcy
Code. Dynaco now operates as a wholly-owned subsidiary of the Company and is a
manufacturer of high density flexible electronic circuitry with commercial and
government applications. The flexible circuit technology utilized by Dynaco
offers advantages over traditional circuit board technology in applications
where space constraints and performance specifications demand compact packaging
and a high level of reliability. Dynaco has developed a number of unique
products using the flexcircuit core technology that it plans to market over the
next twelve months.
Formation of Nexar Technologies, Inc.
On March 7, 1995, the Company formed Nexar Technologies, Inc. ("Nexar), a
wholly-owned subsidiary. Nexar is an early stage company which manufactures,
markets, and sells personal computers with a unique circuit board design that
enables end users to upgrade and replace the microprocessor, memory and hard
drive components. Nexar markets its products using various proprietary brand
names through multiple channels of distribution, including the wholesale, retail
and direct response channels. Revenue recognized during 1996 was $18,695,364.
In December 1996 the Company sold 400,000 shares of Nexar common stock for
$4,000,000, of which $2,000,000 was collected prior to year end and $2,000,000
is in other current assets in the consolidated balance sheet. One of the
purchasers of 200,000 shares is a shareholder of the Company. The Company
recognized a gain on this sale of $3,830,000 in the consolidated statement of
operations. Subsequent to year end, the Company sold an additional 200,000
shares of Nexar common stock for $2,000,000 to another Company shareholder. The
subsequent to year end sale of Nexar common stock includes an option
arrangement, whereby the purchaser has the option to exchange the shares of
Nexar common stock, as defined, for $2,000,000 of the Company's common stock
based on a discounted value as defined, if an option exercise event occurs,
based on the value of the Company's stock on the exchange date. The option
exercise terminates upon the completion of Nexar's initial public offering.
On April 14, 1997 Nexar completed its initial public offering of 2,500,000
shares of its common stock for its own account, as well as shares held by Nexar
shareholders. The price per share was $9.00 and Nexar raised net proceeds of
approximately $20.3 million. Following this offering, Palomar will beneficially
own approximately 67% of Nexar's common stock. Included in this percentage is
(i) 1,200,000 shares of Nexar's common stock owned by Palomar that are subject
to a contingent repurchase right by Nexar for an aggregate price of $12,000 in
the event that Nexar does not achieve certain performance milestones set forth
in an agreement between Nexar and Palomar, and (ii) 408,000 shares of Nexar
common stock which Palomar may acquire upon the conversion of 45,684 shares of
Nexar Convertible Preferred Stock that is also owns. The 1,200,000 shares of
common stock subject to the contingent repurchase right of Nexar will be held in
escrow and released to Palomar upon Nexar attaining certain revenue levels
ranging from $100 million to $400 million and net income levels ranging from $7
million to $28 million over a four year period ending December 31, 2000, as
defined in the agreement between Nexar and the Company. These shares may also be
released from escrow upon Nexar attaining a specified minimum stock price
ranging from $15.75 per share to $29.25 per share over this four year period
ending December 31, 2000, and if the Company achieves cumulative net income
totaling $70,000,000 through December 31, 2000. These shares will also be
released if Nexar is party to any merger or sale of substantially all of its
assets.
<PAGE>
14
Upon completion of the offering, Nexar will repay the Company
approximately $8,200,000 from the net proceeds received from this offering.
FORMATION OF DYNAMEM, INC.
On September 29, 1995, Dynaco formed a new company called Dynamem, Inc.
("Dynamem") with an outside party who is a joint owner of the patent underlying
certain FRAMM technology (a technology utilized to package two rigid-flex
printed circuit boards in the same slot arrangement that customarily houses a
single board). The joint owner became an employee of the new subsidiary,
Dynamem. Dynamem issued 80% of its authorized and outstanding capital stock to
Dynaco and the remaining 20% to the joint owner. The joint owner granted Dynamem
a non-exclusive license to manufacture, use, sell and sublicense the patented
FRAMM technology in exchange for certain royalty payments. The royalties are
guaranteed by Dynaco. Dynaco and the joint owner also entered into a
stockholders' agreement which grants the joint owner the right, upon the earlier
of December 29, 2000 or the termination of his employment with Dynamem, to
require Dynaco to purchase a total of 75% of the securities owned by the joint
owner in Dynamem. In addition, if the Company purchases the joint owner's
shares, the joint owner may elect to receive between 35% and 100% of the
purchase price in the form of common stock of the Company.
License Agreement with Technovation Computer Lab, Inc.
Nexar's current PCs are shipped with motherboards based on technology
licensed from Technovation Computer Lab, Inc. ("Technovation"), a Nevada
corporation which, to the best of the Company's knowledge, is owned by Babar I.
Hamirani, a former executive officer of Nexar whose employment was terminated on
November 29, 1996. The Company has agreed to acquire all such technology and a
patent application related thereto, and settle all claims between Mr. Hamirani
and Nexar, no later than the closing of Nexar's initial public offering pursuant
to the Asset Purchase and Settlement Agreement by and among Mr. Hamirani,
Technovation, Nexar and the Company dated as of February 28, 1997 (the "Asset
Purchase and Settlement Agreement"). Pursuant to the Asset Purchase and
Settlement Agreement and a separate asset purchase agreement between the Company
and Nexar, the Company will first acquire the subject technology and then convey
such technology to Nexar.
Formation of Palomar Electronics Corporation
On September 15, 1995, the Company formed Palomar Electronics Corporation
("PEC"), a wholly-owned subsidiary, as part of a reorganization to separate the
electronics and computer operations of the Company's business from the laser
segments of its business. On SEPTEMBER 29, 1995, as part of this reorganization,
the Company contributed all of its outstanding capital stock of Dynaco and Nexar
to PEC in exchange for all of the outstanding common stock of PEC.
Acquisition of CD Titles, Inc.
On July 13, 1995, CD Titles, Inc. ("CD Titles") was incorporated with the
Company owning substantially all of CD Titles' common stock. Certain minority
stockholders of CD Titles loaned CD Titles a total of $600,000. On July 31,
1995, CD Titles purchased certain assets and assumed certain liabilities of
CDRP, Inc. The purchase price consisted of $625,000 in cash and a $600,000 note
due September 30, 1995, which was guaranteed by the Company. The notes to
minority stockholders and CDRP, Inc. were repaid in December 1995 with 386,144
shares of the Company's common stock. CD Titles is a CD ROM publishing company
which distributes various materials on CD ROM through personal computer
wholesale channels in the United States.
Acquisition of Comtel Electronics, Inc.
During 1996, Dynaco acquired 80.32% of Comtel Electronics, Inc. ("Comtel")
by converting a $100,000 note receivable into equity of Comtel and paying
$27,500 in cash. Effective December 31, 1996, as part of a recapitalization of
Comtel, Dynaco exchanged $2,200,000 in intercompany receivables from Comtel
issued by Comtel to fund its operations for an additional 16.98% ownership in
Comtel, resulting in Dynaco owning 97.3% of Comtel. The remaining 2.7% ownership
is held by two individuals. This acquisition has been accounted for as a
purchase in accordance with Accounting Principles Board (APB) Opinion No. 16.
Accordingly, the Company has allocated the purchase price based on
<PAGE>
15
the fair market value of assets acquired and liabilities assumed. The results of
Comtel have been included with those of the Company since March 20, 1996.
Comtel has entered into a five-year agreement with New Media, Inc. ("New
Media") whereby New Media subcontracted to Comtel all of its manufacturing and
assembly business over the contract term. On April 5, 1996, Palomar invested
$2,690,000 in New Media Series E Preferred Stock and common stock and loaned New
Media an additional $1,000,000. Palomar also received a warrant to purchase
200,000 shares of common stock in New Media at $1.20 per share. Palomar has
accounted for this investment under the cost method.
On February 14, 1997 Palomar invested an additional $1,200,000 and
converted its $1,000,000 note plus accrued interest totaling $76,931 into New
Media Series F Preferred Stock. In addition, Palomar also entered into a
settlement agreement together with Lucent Technologies and New Media whereby
Palomar agreed to purchase 33,000 LapTalk(TM) speaker/microphone products from
Lucent Technologies and New Media for $1,200,000, which was paid March 1997.
During the twelve months ended December 31, 1996 Comtel had sales to New
Media of $15,664,967. At December 31, 1996, $4,896,632 of accounts receivable
was due from New Media, of which $2,475,929 was collected through March 20,
1997.
General
Through its wholly-owned subsidiary Nexar, PEC is marketing and
manufacturing a new family of personal computers that incorporates user-oriented
printed circuit boards and computer chassis designs that allow an end-user to
conveniently alter or upgrade the computer's processor, memory and hard drive
capacity, thereby reducing the rate of obsolescence in the rapidly changing and
technology-driven arena of personal computers. Nexar offers PCs to its resellers
without the CPU, RAM, cache and hard drive pre-installed, allowing them to
configure the PC with their customers' choice of components. Unlike other
upgradeable or modular computers, Nexar PCs are not based on a proprietary
architecture. Industry standard components can be used. The customer, not the
manufacturer's technicians, is in control of enhancements to the system. The
removable hard drive is a feature that is particularly desirable where security
is an issue or when a user wants portable data to go. It also makes possible the
use of multiple operating systems on a single PC. See "Formation of Nexar
Corporation".
PEC, through its wholly-owned subsidiary Dynaco, designs, develops and
manufactures interconnect products, principally flexible circuits, for
electronic systems. Dynaco currently designs flexible interconnect solutions for
complex military and commercial applications where high reliability, precision
tolerances and multilayer packaging are important. Dynaco's traditional
customers serve diverse markets, including the defense, aerospace, electronics
and telecommunications industries. Dynaco has recently developed two new,
lower-cost flexible circuit products which it believes will enable it to develop
more cost-effective interconnect solutions for commercial applications. Comtel,
which is a majority owned subsidiary of Dynaco, is a contract manufacturer that
specializes in thin core and high density surface mount assemblies for the
computer and telecommunication industries. Dynaco, through its majority-owned
subsidiary Dynamem, has developed, and plans to manufacture and market to the
personal computer industry, foldable rigid assembly memory modules which it
believes will have between 50% and 100% more memory capacity than currently
available memory modules.
PERSONAL COMPUTER INDUSTRY BACKGROUND
In 1991, there were over 100 vendors competing in the personal computer
marketplace with intense competition in both price and product specification.
Nexar believes that, over the past five years, the personal computer industry
has become oversaturated with manufacturers of varying degrees of financial
stability and marketing expertise. Since 1995, many personal computer
manufacturers have exited the industry for a variety of reasons, and many more
have reported significant losses.
Nexar believes that aggressive channel expansion played an important role
in the demise of many second and third tier personal computer manufacturers.
Since 1995, many first tier manufacturers have expanded their channels of
distribution to include national distributors, mass merchants, computer
superstores, office superstores, end-user direct
<PAGE>
16
sellers and wholesale buying clubs. Prior to 1992, these channels were almost
exclusively the domain of the second and third tier manufacturers. The channel
expansion of the top tier manufacturers reduced the available retail shelf space
for second and third tier manufactures through these once alternative channels.
Consequently, second and third tier suppliers, which compete primarily on the
basis of price and availability, are facing ever-increasing competition.
Nexar Strategy
The Nexar strategy is to provide products that benefit wholesalers and
resellers by reducing their commitment to inventory with specific unit
configuration and permitting them to satisfy customers with systems easily
configured to their needs, and that benefit end-users by permitting them to
upgrade components from time to time without incurring the expense of a new
system.
Leverage Nexar's XPA(TM) (Cross-Processor Architecture) Technology.
Nexar develops, manufactures and markets high-performance,
competitively-priced desktop personal computers (PCs) based on patent-pending
technologies. Unlike conventional PCs, Nexar systems permit an end user to
easily upgrade or switch important components of the PC to accommodate emerging
and future technologies resulting in a significant extension of the computer's
useful life. Nexar sells a high-performance system which is typically shipped to
resellers without the key system defining components (microprocessor, memory and
hard drive), but which is otherwise fully configured. This approach:
Enables the end-user, whether corporate or individual, to buy a system
configured exactly to that customer's technical and budgetary requirements and,
later, to easily upgrade the PC's key components with industry-standard
products;
Enables Nexar's channel resellers to reduce their exposure to inventory
depreciation caused by rapid advances in technology and frequent price
reductions of the key system components, which typically account for more than
50% of the cost of a PC;
Enables Nexar's resellers to compete with direct marketers, such as Dell
Computer and Gateway 2000, because a Nexar PC provides resellers with the
ability to promptly deliver a custom-configured, high performance PC at a
competitive price;
Enables Nexar to maintain profit margins unaffected by the forecasting
risks borne by conventional PC manufacturers who operate within a
several-month-long cycle from component procurement to assembly to date-of-sale,
all conducted in an environment of rapid technological advances and frequent
price reductions.
Nexar's current PCs are based on an industry standard, open architecture
design, co-engineered by HCL Hewlett Packard LTD., which allows the central
processing unit (CPU), random access memory (RAM), and cashe memory to be
replaced by end-users without technical assistance and without opening the
entire chassis. Nexar's current model accepts Intel Corporation's Pentium and
compatible CPUs, including the recently released Pentium processor with MMX
multimedia extension technology. Nexar PCs also include, as a standard feature,
a removable hard drive, permitting its replacement and the further advantages of
increased data portability and security, and the use of multiple operating
systems in a single PC. The Nexar PC is configured with the following
components: system chassis with removable side panels, custom designed
motherboard, power supply, video controller, input/output controller, floppy
disk drive, caddy for removable hard disk, keyboard, mouse, and hardware
manuals. Nexar occasionally includes additional components, including the key
system defining components (CPU, memory and hard drive) and peripherals such as
monitors and modems at the customer's request. Nexar PCs sold by resellers fully
configured have list prices generally ranging from $1,200 to $2,500, depending
upon the components included.
Nexar's objective is to become the industry leader in designing and
marketing PCs with technology that enables resellers and end-users, in an easy
and cost-effective manner, to upgrade and transition the CPU and the other key
system defining components in accordance with the known and anticipated roadmaps
of various makers of fundamental and leading-edge PC technology. Accordingly,
Nexar has developed and will soon market a new generation of PCs featuring the
Company's patent-pending Cross-Processor Architecture(TM) (Nexar XPA(TM)) in
<PAGE>
17
which any one of the several state-of-the-art CPUs can be initially included or
later installed, including Intel's Pentium or Pentium Pro and Compatible CPU's.
The Nexar XPATM technology will also accommodate microprocessors based on other
technologies, such as the Alpha CPU made by Digital Equipment Corporation or the
PowerPC processor offered jointly by IBM, Motorola, and Apple Computer.
Engage in Private Labeling.
Nexar believes that as personal computer users become increasingly computer
literate, they will tend to shift away from branded products and towards private
label products. Nexar anticipates that contemporary technology and design,
upgradability, value, reliability and system flexibility will continue to be
essential requirements, but the method of presentation and product distribution
will adapt to satisfy the requirements of resellers and users alike. A primary
component of Nexar's overall channel strategy is to bypass the OEM and provide
custom, private label systems directly to major channel resellers. Nexar
believes that there will be a proliferation of private label personal computers
by channel resellers, and that private label branding will become an
increasingly standard practice in various reseller channels. Nexar intends to be
one of the first manufacturers to capitalize upon this opportunity.
Exploit specialized government markets.
Nexar believes that, in addition to the other advantages of Nexar PCs and
the increased security and other benefits of the removable hard disk drive
described herein, the Nexar PC is particularly appealing to many government
buyers because the time required for ordering entirely new systems is often
prohibitive under government regulations, while component parts can be more
timely requisitioned, thereby allowing a government office to more easily remain
technologically current. In 1996, Nexar recognized approximately 66% of its
total year revenue from Government Technology Services, Inc. (GTSI), a leading
supplier of desktop systems to the U.S. government.
COMPETITION
The desktop PC industry is intensely competitive and may become more so as
the result of, among other things, the introduction of new competitors
(including large multi-national, diversified companies) and possibly weakening
demand. Nexar currently competes in the desktop PC market principally with Acer,
Apple Computer, Compaq Computer, Dell Computer, Gateway 2000, Hewlet-Packard,
IBM and Packard Bell NEC. In addition, Nexar plans to compete in the network
server market by late 1997 with established companies such as ALR, Compaq, Dell,
Hewlett-Packard and IBM. All of these companies have stronger brand recognition,
significantly greater financial, marketing, manufacturing, technological and
distribution resources, broader product lines and larger installed customer
bases than Nexar. Principal competitive factors include product features,
product performance, quality and reliability, the ability to deliver product to
customers in a timely fashion, customer service and support, marketing and
distribution capabilities and price. The ability of Nexar to compete
successfully will depend on factors within and outside its control, including
the acceptance of its Nexar XPA(TM) system and general market and economic
conditions.
Manufacturing and Suppliers
Nexar's manufacturing process requires a high volume of quality components
that are procured from third party suppliers. Most of these components are
generally available from multiple sources; however, Nexar relies on two outside
contractors to manufacture motherboards used in PCs and plans to rely on a sole
outside contractor to manufacture the motherboards to be used in its planned
server product. In addition, Nexar relies on a single supplier to produce its
customized chassis and has several other single supplier relationships for less
critical components. In some cases, alternative sources of supply are not
readily available for some of Nexar's single sourced components. Nexar
occasionally experiences delays in receiving certain components, which can and
has caused delays in shipment of products.
Environmental Controls and Government Certifications
Although Nexar conducts certain manufacturing operations, those operations
consist primarily of product assembly and do not involve the use of material
quantities of hazardous or other regulated substances. Nexar believes that it
has substantially complied with existing environmental laws and regulations, but
<PAGE>
18
has not conducted any environmental studies of its operations to determine
whether contamination has occurred at its facilities. Nexar's computer products
are subject to certain FCC guidelines. Nexar believes they are in compliance
with these FCC guidelines.
Intellectual Property
Nexar has rights to two pending patent applications covering the essential
technology which enables the easy installation, removal and replacement of key
components in the Nexar PC. Nexar filed a patent application in late 1996
covering its proprietary Nexar XPATM technology, which is expected to be used in
Nexar's PCs by mid-1997. Also Nexar has agreed to acquire, no later than the
closing of its initial public offering, a patent application originally filed in
March 1995 together with the related technology which is currently included in
Nexar's PCs under an exclusive license agreement.
<PAGE>
19
DYNACO CORP. BUSINESS INTRODUCTION
Dynaco Corp. ("Dynaco")
Dynaco is a leading U.S. supplier of high-density, multilayer, flexible
printed circuit products for original equipment manufacturers ("OEMs"),
value-added resellers and contract manufacturers of sophisticated electronics
equipment. Specifically, Dynaco designs, develops and manufactures products that
provide electrical connections between components in electronic systems.
Dynaco's interconnect solutions use 3-dimensional packaging techniques to
enhance space utilization and increase signal speed via thin, multilayer
substrates. Dynaco's principal products are flexible circuits and rigid-flex
circuits. Dynaco's flexible circuits are flexible, multilayer printed circuit
boards that can be bent or folded to fit into spaces too small or too oddly
shaped for traditional rigid printed circuit boards. Dynaco's rigid-flex
circuits consist of one or more rigid, multilayer printed circuit boards
combined with flexible circuitry. The multiple layers of circuitry in Dynaco's
products increase reliability and reduce the overall size of its interconnect
systems by reducing the number of circuit boards, connectors and wires. Dynaco
also manufactures specialty interconnect cable harnesses that are sold with
Dynaco's traditional flexible circuit products and that are sold independently.
Dynaco currently designs flexible interconnect solutions for complex
military and commercial applications where high reliability, precision
tolerances and multilayer packaging are important. Dynaco's traditional
customers serve diverse markets, including defense, aerospace, electronics,
telecommunications, global positioning systems navigation, medical electronics,
interactive displays and semiconductor wafer fabrication equipment. For example,
Dynaco's products have been used in guidance systems for the Tomahawk and AMRAAM
missiles, and Dynaco has developed applications for lasers, night vision
systems, digital imaging and engine monitoring controls.
Flexible Interconnect Substrate Industry Background
Generally, interconnect substrates are printed circuits, consisting of
copper traces (circuitry) and an insulating (dielectric) base, that provide
electrical connections between electronic components such as microprocessors,
resistor networks and capacitors. Interconnect substrates include rigid printed
circuit boards, ceramic hybrid circuits and flexible circuits. Each type of
substrate has specific performance and price ratios which affect usage and
demand in the marketplace.
Dynaco believes that its multilayer flexible circuits offer the following
advantages over rigid printed circuit boards and ceramic substrates for
sophisticated, compact electronic equipment:
Flexible circuits are thinner and better able to conform to smaller volumes
and unusual container shapes;
Flexible circuits allow 3-dimensional interconnect packaging techniques;
Flexible circuits are lighter and more space-efficient because they
eliminate the need for connectors and wires;
Film-based flexible substrates cost significantly less per input/output
connection than ceramic-based interconnect systems; and
The use of multiple layers can provide significant performance enhancements
over single-sided and double-sided interconnect packages.
The 3-dimensional packaging and flexure characteristics of multilayer
flexible circuits and multilayer rigid-flex circuits have made them the fastest
growing segment of the U.S. printed circuit market. According to a May 1996
report by TechSearch International, Inc., a technology licensing and consulting
firm, the world market for flexible printed circuits in 1995 was approximately
$1.8 billion to $2.0 billion, of which the U.S. market was approximately $550
million, an increase of nearly 18% from $470 million in 1994. Japanese
manufacturers and their affiliated offshore operations had approximately 60%
share of the world market. According to Flexible Circuits Engineering, an
industry publication, sales of flexible circuits in North America have grown
from $300 million in 1985 to an estimated $650 million in 1995. The publication
points out that the market has grown erratically, growing principally in the
<PAGE>
20
periods from 1985 through 1987 and from 1993 through the present. According to
Flexible Circuits Engineering, the first growth phase reflected a short-lived
increase in the use of flexible circuits in missiles, "black boxes" and other
defense-related products shortly before the end of the Cold War, and the current
growth phase reflects the increased use of flexible circuits in commercial
markets, including the personal computer, automotive, consumer and instrument
markets. As a result of these market trends, Dynaco believes there is a
significant market opportunity for manufacturers that can timely deliver complex
multilayer flexible and rigid-flex circuits to leading suppliers of electronic
equipment.
Dynaco Strategy
Dynaco's objective is to be the preferred supplier of multilayer flexible
circuits and rigid-flex circuits in the electronics industry and to expand its
business to include high density memory modules. Dynaco's strategy is to
capitalize on its significant investment in flexible circuit technology, modern
facilities and multilayer packaging expertise in order to participate in the
growth of the worldwide electronics market. In order to achieve its objective
and benefit from the trends in the industry, Dynaco's strategy includes the
following:
Maintain and Improve the Company's Market Position in the Defense/Aerospace
Markets
Dynaco seeks to capitalize on a growing trend among electronics
manufacturers in the defense and aerospace markets to reduce the number of
suppliers with which they do business and to increase their out-sourcing of
higher level assemblies. Dynaco is currently a preferred supplier with leading
prime contractors such as Hughes Aircraft Company, Lockheed Martin Corporation,
Loral Corporation, McDonnell Douglas Corporation and Raytheon Company. A
preferred supplier is one of a select number of suppliers whose products and
facilities have been determined by the customer to meet certain performance and
quality specifications. Because customers frequently contact only preferred
suppliers for particular products, Dynaco intends to obtain and maintain the
status of preferred supplier with its current and prospective customers.
In January 1997, Raytheon announced a tentative agreement to purchased the
defense operations of Texas Instruments, Inc. and GM Hughes Electronics Corp.
for $2.95 billion and $9.5 billion respectively. These three companies combined
accounted for approximately one third of Dynaco's 1996 revenue. It is too early
to determine how this proposed consolidation will affect Dynaco.
Another market trend is the growth occurring in defense electronics due to
electronic upgrades, re-packaging for lower cost, and the commercialization of
defense hardware. Dynaco is currently developing new flat-panel displays,
night-vision systems, digital electronic upgrades, global positioning system
navigation products and enhanced communication systems that use flexible
circuits as the principal electronic interconnect. Dynaco also plans to utilize
its packaging expertise to convert wire bundles and cable harnesses into
flexible circuits to reduce weight, space and cost. Dynaco has designed and
currently expects to convert at least five wire and cable electronic
interconnect systems.
Commercialize the Dynaflex Products
Dynaco believes that the demand for smaller electronic products will
increasingly cause commercial designers to consider high-density multilayer
flexible packaging. Historically, Dynaco's flexible circuit products have been
too costly to make most commercial applications feasible. Dynaco has recently
developed, and in June, 1995, submitted patent applications for, Dynaflex-D
(Dynamic) and Dynaflex-S (Static), two new flexible circuit products that
utilize less expensive, commercial-grade substrates. Dynaco believes that these
proposed products will permit it to expand into commercial markets. Dynaco
believes that its proposed Dynaflex-D and Dynaflex-S products will ultimately be
used in commercial applications such as automotive engine monitoring controls,
disk drives, personal computers, workstations, and cellular communication
systems.
Exploit Manufacturing and Marketing Capabilities
Dynaco believes there are few domestic or foreign high-volume multilayer
flexible and rigid-flex circuit manufacturers with comparable expertise and
know-how. As the manufacture of multilayer flexible circuits for commercial
applications proliferates, Dynaco intends to license its manufacturing and
<PAGE>
21
marketing expertise to high volume, highly capitalized printed circuit board
manufacturers throughout the world. Dynaco recently signed a license agreement
with Wong Circuits International, a Hong Kong corporation, to manufacture
certain flexible circuit products in Hong Kong and China. In addition, the
Company is currently conducting negotiations with other manufacturers in the
United States and Europe. By working with these manufacturers, Dynaco hopes to
expand the customer base for its flexible circuits technology.
Acquire, Develop and Market Flexible Circuit Products
Dynaco through its Dynamem subsidiary and internal research and
development, intends to produce and market additional flexible circuit products.
Dynaco has recently obtained certain rights to the patented FRAMM technology.
See "Acquisition of Dynamem."
Comtel Electronics, Inc. Business Introduction
Comtel Electronics, Inc. ("Comtel")
Comtel, which was acquired in 1996, is an electronic and
electro-mechanical, contract manufacturer. Comtel's business is to provide a
lower cost alternative (outsourcing) to OEM in-house, or captive manufacturing.
Comtel's primary product is turnkey, build-to-print (versus its own design)
circuit card assemblies. These circuit card assemblies range in complexity from
very high volume, relatively simple (few components) assemblies in support of
the consumer electronics industry, to very complex, full "black and white box"
builds for high technology industry.
Contract Manufacturing Industry Background
Contract electronics manufacturers (CEMs) are playing an even more
important role in the electronics market. The world market for contract
manufacturing services exceeded $30 billion in 1996, and industry analysts
recently estimated the U.S. contract manufacturing market will grow from $11
billion in 1994 to over $36 billion by the year 2001, a compound average annual
growth rate of 20%. Based on industry data, the Company believes that OEMs are
increasingly relying upon independent manufacturers of complex, electronic
interconnect products, such as Comtel, rather than on internal captive
production. Factors which Comtel believes will lead OEMs to utilize contract
manufacturers include:
Limited Resources Used on Core Competencies: In recent years the
electronics industry has experienced greater levels of competition and technical
changes forcing OEMs to focus their resources on critical product activities. By
offering comprehensive turnkey manufacturing services, CEMs afford OEMs the
resources to focus on core activities such as product development, marketing and
product distribution.
Improved Purchasing Power and Material Management: OEMs are faced with
increasing difficulties planning, procuring and managing their inventories
efficiently due to frequent design changes, short product life-cycles, component
price fluctuations, and the need to achieve economies of scale in material
procurement. By using the CEMs' combined purchasing power and required expertise
in inventory management, OEMs can reduce capital required for production and
inventory.
Reduced capital investment: As electronic products become more
technologically advanced, including the transition from through-hole to surface
mount assembly, the manufacturing operation has become more sophisticated and
automated, requiring a greater level of capital investment in equipment. By
outsourcing, OEMs can reduce their overall capital equipment investment,
maintain access to the latest advanced manufacturing technology, and enjoy the
lower costs associated with higher capacity utilization experienced by CEMs.
Design/Packaging Expertise: The customer benefits from the ever
accumulating design and packaging capabilities of CEMs. For example, Comtel
works on hundreds of different designs each year and certain packaging solutions
can be applied to a multitude of new applications. OEMs are motivated to work
with a CEM in order to gain access to this process expertise and manufacturing
know-how.
<PAGE>
22
Comtel Electronics believes they can exploit this market with the latest
manufacturing capabilities in surface mount assembly and thin core PC card
assembly.
<PAGE>
23
Comtel Strategy
Comtel is a CEM who provides turnkey manufacturing and test services of
electronic assemblies. Comtel specializes in thin core and high density surface
mount assemblies. Comtel's services consist of design, procurement,
manufacturing and test.
Design: Working closely with customers and the substrate manufacturer,
Comtel designs a specific packaging configuration to satisfy the customer's
requirements for reliability and lowest cost of ownership. In selection of
substrate materials, Comtel advises its customers with respect to issues such as
size, power consumption and package configuration.
Procurement: Early involvement in the design process allows Comtel to
assist in the selection of suppliers and components to enhance time to market,
manufacturability and logistical support of volume ramp-ups. As part of the
procurement process, Comtel offers its customers material planning and
procurement, inventory management, and material handling services. From time to
time, material suppliers must allocate components among their customers in
response to supply shortages. By assuming responsibility for procurement, Comtel
and the Company may be required to bear the risks of price fluctuations and
availability. However, in certain cases, Comtel can pool its purchasing power
and leverage its position as a manufacturing partner to receive more favorable
pricing and volume allocations.
Assembly: Substrate assembly involves the exact placement and soldering of
a wide size range of electronic components. Comtel's current assembly techniques
range from manual assembly of through-hole connectors to highly automated screen
printing and placement of miniaturized SMT components. SMT is a method of
affixing electronic components, including integrated circuits, onto the surface
of a substrate. Components mounted in SMT assemblies can be of relatively small
size due to the use of fine lead-to-lead spacing (called "pitch") which
currently can be as small as 12 Mils. Comtel's SMT assembly process has become
increasingly complex because of these smaller dimensions and tight tolerances,
and accordingly requires the use of expensive automated assembly and test
equipment.
Test: Using sophisticated in-circuit and functional test systems, Comtel
tests complex assemblies in order to determine whether the electronic assembly
is performing to customer satisfactions. Comtel's current and planned investment
in manufacturing defect analyzer testers enables customers to specify a wide
range of test options.
DYNAMEM, INC. BUSINESS INTRODUCTION
DYNAMEM, INC. ("DYNAMEM")
Dynamem spent most of 1996 developing the 64MB, 128MB, and 256MB FRAMM high
density memory modules. These memory modules are currently being technically
evaluated by a number of potential OEM users. A memory module usually consists
of various configurations of memory chips or other memory devices mounted on a
printed circuit board inserted into a slot on a computer's motherboard. Memory
modules currently in use include single in-line memory modules ("SIMMs") and
double in-line memory modules ("DIMMs"), both of which utilize rigid printed
circuit boards. Industry standards limit the number of memory chips that can be
mounted on a rigid printed circuit board within a given length and height.
Consequently, a traditional memory module that has reached the maximum length
and height has also reached maximum memory capacity. Dynamem believes its
proposed memory modules will overcome this limitation of memory capacity by
utilizing the FRAMM technology to fit two rigid printed circuit boards in the
same slot arrangement that customarily houses SIMMs and DIMMs. Dynaco's proposed
memory modules will mount thin, small outline package memory chips onto two
rigid printed circuit boards, connected by flexible circuits, that are folded
for insertion into the motherboard.
High-Density Memory Modules
A memory module usually consists of various configurations of memory
devices or chips mounted on a printed circuit board inserted into a slot on a
computer's motherboard. Dynamem's memory modules consists of two rigid printed
circuit boards connected by flexible circuits that are folded for insertion. In
recent years, the overall size of computers, especially that of portable
computers, has shrunk while the newest program applications, such as Windows 95,
continue to use increasing amount of random-access memory ("RAM"). Meanwhile,
<PAGE>
24
computer manufacturers are shipping an increasing number of systems with limited
RAM in order to maintain price competitiveness. As a result, end-users who
desire to run the latest applications must add memory modules or buy new systems
with greater memory capacity. Dynaco believes that these trends will favor
manufacturers of high density memory modules as requirements for RAM increase
from 16MB to 32MB, 64MB, 128MB and beyond.
DYNAMEM STRATEGY
Dynaco has introduced high density memory modules based on the patented
FRAMM technology. These memory modules overcome the current limitation on memory
capacity by utilizing the FRAMM technology to fit two rigid printed circuit
boards in the same slot arrangement that customarily houses SIMMs and DIMMs.
Dynaco's memory modules will mount thin, small outline package memory chips onto
two rigid printed circuit boards, connected by flexible circuits, that are
folded for insertion into the motherboard. This combination produces a module
that is no wider or taller than conventional rigid boards but that offers four
substrate surface areas, twice the area offered by rigid boards. Dynaco believes
that FRAMM represents a novel and innovative packaging approach which will have
between 50% and 100% more memory capacity than currently available memory
modules.
This is in comparison to a traditional memory module that consists of
various configurations of memory chips or other memory devices mounted on a
printed circuit board inserted into a slot on a computer's motherboard. Industry
standards limit the number of memory chips that can be mounted on a rigid
printed circuit board within a given length and height. Consequently, a
traditional memory module that has reached the maximum length and height has
also reached maximum memory capacity. Dynaco is designing a full memory product
line around the FRAMM technology. Initial products are planned for
IBM-compatible personal, portable, laptop and notebook computers, Apple
Computer's Macintosh computers and Sun Microsystems' workstations. Dynaco also
plans to design custom modules for certain special needs and is investigating
other applications.
Sales and Distribution
Dynaco markets its products through a direct sales force and through a
network of four independent sales representatives and distributors specializing
in electronics equipment. Dynaco principally targets large OEM corporations and
government prime contractors. These and other customers often employ competitive
bidding techniques with respect to large, multi-year contracts, for which Dynaco
competes with other qualified suppliers of flexible circuits.
Comtel presently utilizes a combination of direct factory and independent
manufacturers representatives sales personnel and is moving towards complete
direct selling. Comtel relocated its manufacturing facility in November 1996 to
a much larger (65,000 square feet) facility to increase its capacity to fulfill
the expected increase in demand.
Dynaco's Dynamem subsidiary markets its FRAMM products through both a
separate sales organization and through Nexar. Dynaco believes that this
approach will enable the Dynamem sales force to develop specific industry
contacts and a focused knowledge base of the high-density memory market.
Dynaco has generally utilized selected sources to obtain volume discounts.
Customers
Dynaco
Dynaco's traditional customers include OEMs, prime contractors and contract
manufacturers of defense and aerospace electronics, telecommunications
equipment, navigational systems and medical products. Dynaco's new Dynaflex
products have attracted prototype orders from customers in the automotive,
computer and data storage markets.
For the year ended December 31, 1996, sales to Hughes, Raytheon, and
Lockheed Martin accounted for approximately 20%, 10% and 5%, respectively, of
Dynaco's net sales. For the year ended December 31, 1995, sales to Raytheon ,
Hughes Electronics and Loral accounted for 15%, 9% and 6%, respectively, of
Dynaco's net sales. Sales to Dynaco's top 10 customers accounted for
approximately 55% of Dynaco's net sales for the year ended December 31, 1996.
Approximately 100 other customers accounted for the remainder of Dynaco's net
sales for the year ended December 31, 1996.
<PAGE>
25
Comtel
Comtel entered into a five year agreement New Media, whereby New Media
subcontracted to Comtel all of its manufacturing and assembly business over the
contract term. Comtel recognized approximately $17.1 million of total revenue of
which 91% was from New Media. Comtel's intention in 1997 is to increase and
diversify its overall revenue base and reduce the percentage of New Media
concentration. The Company has received orders in 1997 from customers such as
MCI, MGE UPS Systems and others, thereby reducing the New Media customer
concentration. However, the Company cannot ensure that the New Media
concentration will significantly decrease in 1997.
Competition
The flexible circuit industry is characterized by intense competition.
Dynaco and its competitors have developed various technologies to serve niche
packaging requirements. Dynaco has focused its development efforts on more
complex multilayer circuit technology rather than single sided or double sided
circuit technology. Among others, Dynaco's competitors include Packard-Hughes
Interconnect Co., Parlex Corporation and Teledyne, Inc. Dynaco believes it
competes principally on the basis of design, quality, price and customer
service. Some of Dynaco's competitors include larger companies that have
substantially greater managerial, financial, technical and marketing resources
than Dynaco.
Other flexible circuit companies such as Adflex Solutions, Inc., Sheldahl,
Inc., MFlex and Smartflex primarily market single sided and double sided circuit
technology. Although Dynaco does not currently compete with such companies with
respect to those products, Dynaco believes that the customers of these companies
have begun to demand multilayer flexible circuits and that such companies will
become competitors in the near future.
The contract manufacturing market is estimated to be $30 billion plus
worldwide made up of many competitors. Comtel primarily competes with smaller
sized regional competitors. The same is true for Dynamem which competes in a $20
plus billion computer memory market.
Environmental Controls and Government Certifications
The manufacture of substrate interconnect products involves numerous
chemical solvents and other solid, chemical and hazardous wastes and materials.
Dynaco incurs approximately $200,000 per year in waste treatment costs. Dynaco
is subject to a variety of environmental laws relating to the generation,
storage, handling, use, emission, discharge and disposal of these substances.
Dynaco believes that it operates its facilities in substantial compliance with
existing environmental laws and regulations. In June 1989 and April 1994, Dynaco
conducted environmental studies of its Tempe, Arizona substrate manufacturing
facility and did not discover any contamination requiring remediation.
Certain sales of flexcircuits are subject to certain military and
government certifications. Dynaco maintains military certifications for
Mil-P-50884, Mil-P-55110, Mil-I-45208 and Mil-Std. 2000, and various subsets of
such certifications. In January 1996, Dynaco obtained ISO 9001 certification.
Dynaco is further subject to various federal, state and local regulations
regarding environmental protection and hazardous substance controls. Management
believes that its Dynaco operations are in compliance with governmental
environmental regulations.
Manufacturing and Suppliers
Dynaco relies upon a number of outside suppliers for all of its
manufacturing supplies, parts and components and, to date, has not experienced
any significant delays in obtaining parts and components. Although most of the
supplies, parts and components are available from multiple sources, Dynaco has
generally utilized selected sources to obtain volume discounts. Pyralux(R), a
substrate material used in substantially all of the products sold by Dynaco in
1994, is available only from DuPont. In addition, certain customers issue, from
time to time, narrow product specifications that can be fulfilled only by a
single component available from a single source. Because such specifications
vary from product to product, Dynaco is unable to anticipate its future needs
for such components and therefore cannot make advance arrangements for the
<PAGE>
26
supply of such components. Dynaco believes that it will continue to be able to
obtain most of the required components and parts from a number of different
suppliers. Dynaco may subcontract production of certain subsystems, such as heat
exchangers, power supplies and electronic control modules, in order to minimize
production overhead and to avoid rapid fluctuations in capacity utilization as
the demand for Dynaco's product changes.
PATENTS IN THE ELECTRONIC BUSINESS SEGMENT
The Company's Nexar subsidiary has filed a patent for the construction
method facilitating replacement of CPU memory and other modules in a personal
computer. This technology allows the end user a simple, quick and easy platform
for upgrading the most volatile components in a personal computer.
The Company, through its Dynaco subsidiary has filed a patent for flexible
circuit boards and method for their manufacture. This technology covers a unique
method of manufacturing, using proprietary materials that enable the
manufacturer to be cost competitive with rigid board manufacturers. Dynaco is
awaiting first office action from the U.S. Patent Office. As part of the
formation of Dynamem discussed previously, Dynamem became joint owner of an
issued patent surrounding technology that uses two rigid printed circuit boards
attached by flex circuitry that can be folded with low profile memory chips
attached to be inserted into the motherboard of a computer. This design, while
no larger than conventional rigid board designs, doubles the capacity of
conventional memory modules.
RESEARCH AND DEVELOPMENT
For the fiscal year ended December 31, 1996, and December 31, 1995, the
Company incurred $7,977,085 and $4,419,487, respectively, in product research
and development costs. Due to the intense competition and rapid technological
changes in the medical device and electronic industry, the Company believes that
it must continue to improve and refine its existing products and services, and
develop new applications for its technology. The Company also intends to obtain
additional technology and expand its product line through strategic
partnerships, joint ventures, licensing and acquisitions.
EMPLOYEES
As of December 31, 1996 the Company and its subsidiaries had 522 full-time
employees and 64 temporary employees. When necessary, the Company also relies on
consultants with particular expertise for specific research and consulting
assignments. The Company's ability to develop, manufacture, and market its
products and to establish and maintain a competitive position in the industry
will depend, in large part, upon its ability to attract and retain qualified
technical, marketing and managerial personnel. The Company believes that its
relations with its employees are good. None of the Company's employees are
represented by a union.
<PAGE>
27
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The company's Common Stock is currently traded on the National Association
of Securities Dealers Automated Quotation System (NASDAQ) under the symbol PMTI.
The following table sets forth the high and low bid prices quoted on NASDAQ for
the Common Stock for the periods indicated. Such quotations reflect inter-dealer
prices, without retail mark-up, mark-down or commission and do not necessarily
represent actual transactions.
Fiscal Year Ended
December 31, 1995
--------------------
High Low
--------------------
Quarter Ended March 31, 1995 3 5/8 2 1/2
Quarter Ended June 30, 1995 2 5/8 1 15/16
Quarter Ended Sept. 30, 1995 6 11/16 1 7/8
Quarter Ended Dec. 31, 1995 7 1/8 4 7/16
Fiscal Year Ended
December 31, 1996
--------------------
High Low
--------------------
Quarter Ended March 31, 1996 13 1/8 5
Quarter Ended June 30, 1996 16 3/8 9 1/8
Quarter Ended Sept. 30, 1996 14 5/8 7 7/8
Quarter Ended Dec. 31, 1996 9 1/8 6
As of March 24, 1997, the Company had 600 holders of record of common
stock. This does not include holdings in street or nominee names.
The Company has not paid dividends to its common stockholders since its
inception and does not plan to pay dividends to its common stockholders in the
foreseeable future. The Company intends to retain any earnings to finance the
growth of the Company.
PRIVATE PLACEMENT OF COMMON STOCK
Pursuant to Regulation S under the Act, the Company sold 365,533 shares of
common stock and 182,765 warrants to purchase common stock to a total of 23
overseas individuals and corporations on February 1, 1996 for an aggregate
purchase price of $1,783,800. The warrants were issued at a price of $5.00 per
share, are immediately exercisable and expire on February 1, 1999. The common
stock, and common stock underlying the warrants, were registered on a Form S-3
filed on February 6, 1996.
Pursuant to Regulation D and Section 4(2) of the Act, the Company sold a
total of 165,810 shares of common stock on March 29, 1996 for an aggregate
purchase price of $1,364,842. 114,810 shares of common stock were sold to Arista
High-Tech Growth Fund, Ltd. for an aggregate purchase price of $936,442; 45,000
shares of common stock were sold to Histon Financial Services, Inc. for an
aggregate purchase price of $378,000 and 6,000 shares of common stock were sold
to Berkshire International Finance, Inc. Pension Plan for an aggregate purchase
price of $50,400. The common stock was registered on a Form S-3 filed on June
28, 1996.
<PAGE>
28
Pursuant to Regulation D and Section 4(2) of the Act, the Company sold a
total of 44,862 shares of common stock on April 15, 1996 to Egger & Co. for an
aggregate purchase price of $450,000. The common stock was registered on a Form
S-3 filed on June 28, 1996.
Pursuant to Section 4(2) of the Act, the Company sold 600,000 shares of
common stock on December 27, 1996 to Finmanagment, Inc. for an aggregate
purchase price of $3,150,000. In addition to the common stock, Finmanagment
received 420,000 net warrants to purchase common stock at $7.50 per share,
300,000 net warrants to purchase common stock at $9.50 per share and 180,000 net
warrants to purchase common stock at $11.50 per share. The net warrants are
subject to a cashless exercise for common stock in which the number of shares of
common stock issuable upon such cashless exercise shall be determined by
multiplying (1) the difference between (a) the closing bid price of the common
stock on the day prior to the date exercised, as reported by NASDAQ, and (b) the
exercise price, by (2) the number of net warrant shares; divided by the closing
bid price of the common stock on the day prior to the date exercised. The net
warrants are exercisable immediately and expire on February 28, 1997. The common
stock, and common stock underlying the warrants, were registered on a Form S-3
filed on February 4, 1997.
CONVERTIBLE DEBENTURES
Pursuant to Regulation S of the Act, the Company sold 9,675 units of
convertible debentures to a total of 11 overseas individuals on July 3, 1996 for
an aggregate purchase price of $7,669,441. Each unit consists of a convertible
debenture due July 3, 2003 denominated in 1,000 Swiss Francs and a warrant to
purchase 24 shares of the Company's common stock at $16.50 per share. The
warrants are immediately exercisable and expire on June 27, 2003. The common
stock underlying the debentures and warrants was registered on a Form S-3 filed
on March 4, 1997.
Pursuant to Section 4(2) of the Act, the Company sold a total of $5,000,000
4.5% Convertible Debentures on October 17, 1996 to Cameron Capital Ltd. and Wood
Gundy London Limited. The debentures, due October 17, 2001, may be converted at
any time after 75 days from issuance at the option of the holder into shares of
the Company's common stock at a price equal to 85% of the average trailing five
day bid price from the date of conversion. The common stock underlying the
debentures was registered on a Form S-3 filed on February 4, 1997.
Pursuant to Section 4(2) of the Act, the Company sold a total of $6,000,000
5% Convertible Debentures as follows: $3,000,000 to High Risk Opportunities Hub
Fund Ltd. on December 31, 1996; $2,000,000 to Berckeley Investment Group, Ltd.
on December 31, 1996; and $1,000,000 to High Risk Opportunities Hub Fund Ltd. on
January 13, 1997. The debentures, due December 31, 2001, December 31, 2001 and
January 13, 2002, respectively, are convertible into shares of common stock at a
conversion price equal to 85% of the average trailing 10 day bid price from the
date of conversion, provided that in any 30 day period the holder of these
debentures may convert no more than 33% (or 34% in the last 30 day period
available for conversion) of the debentures. The common stock underlying the
debentures was registered on a Form S-3 filed on March 4, 1997.
PREFERRED STOCK
Pursuant to Section 4(2) of the Act, the Company sold 6,000 shares of
Series D Convertible Preferred Stock on February 14, 1996 to the Travelers
Insurance Company for an aggregate purchase price of $6,000,000. All of the
Series D Convertible Preferred Stock was converted into 1,116,918 shares of
common stock (including accrued dividends of $342,092 and accrued interest of
$9,183) as of December 31, 1996. In connection with the issuance of Series D
<PAGE>
29
Convertible Preferred Stock the Company issued 600,000 warrants to purchase
common stock at a price of $7.50 per share, and 200,000 warrants to purchase
common stock at a price of $8.00 per share, both of which expire on February 14,
2001 and are immediately exercisable. The common stock underlying the Preferred
Stock and the warrants was registered on a Form S-3 filed on June 28, 1996.
Pursuant to Section 4(2) of the Act, the Company sold 10,000 shares of
Series E Convertible Preferred Stock on April 17, 1996 to GFL Advantage Fund
Limited for an aggregate purchase price of $10,000,000. All of the Series E
Preferred Stock was converted into 1,381,506 shares of common stock (including
accrued dividends of $326,174 and accrued interest of $7,536) as of January 28,
1997. In connection with the issuance of Series E Convertible Preferred Stock,
the Company issued 304,259 warrants to purchase common stock at a price of $15
per share, which expire on April 17, 2001 and are immediately exercisable. The
common stock underlying the Preferred Stock and the warrants was registered on a
Form S-3 filed on June 28, 1996.
Pursuant to Section 4(2) of the Act, the Company sold 6,000 shares of
Series F Convertible Preferred Stock on July 12, 1996 to the Travelers Insurance
Company for an aggregate purchase price of $10,000,000. The Series F Convertible
Preferred Stock, together with any accrued but unpaid dividends, may be
converted into common stock at 80% of the daily average closing price of the
common stock on the ten trading days preceding such conversion, but in no event
less than $7.00 or more than $16.00. Series F Preferred stock may be redeemed at
any time, with no less than 10 days and no more than 30 days notice or when the
stock price exceeds $16.50 per share, at an amount equal to the amount of
liquidation preference determined as of the applicable redemption date. In
connection with the issuance of Series F Convertible Preferred Stock, the
Company issued 500,000 warrants to purchase common stock at a price of $11 per
share, which expire on July 12, 2001 and are immediately exercisable. The common
stock underlying the Preferred Stock and the warrants was registered on a Form
S-3 filed on August 23, 1996.
Pursuant to Section 4(2) of the Act, the Company sold 10,000 shares of
Series G Convertible Preferred Stock to Genesee Fund Limited on September 26,
1996 for an aggregate purchase price of $10,000,000. Genesee Fund Limited
subsequently transferred 5,000 of its shares of Series G Convertible Preferred
Stock to GFL Advantage Fund and the remaining 5,000 shares to GFL Performance
Fund. The Series G Convertible Preferred Stock, together with any accrued but
unpaid dividends, may be converted into common stock at 85% of the average
closing bid price for the three trading days immediately preceding the
conversion date, but in no event at less than $6.00 or more than $11.50 for the
5,000 shares of Series G Convertible Preferred Stock held by GFL Advantage Fund
and no less than $6.00 or more than $8.00 for the 5,000 shares of Series G
Convertible Preferred Stock held by GFL Performance Fund. The warrants are
immediately exercisable and expire on December 31, 2001. Series G Convertible
Preferred Stock may be redeemed at any time, with no less than 10 days and no
more than 20 days notice, at an amount equal to the sum of (a) the amount of
liquidation preference determined as of the applicable redemption date plus (b)
$176.50. In connection with the issuance of Series G Convertible Preferred
Stock, the Company issued 323,799 warrants to purchase common stock at a price
of $12 per share, which expire on September 27, 2001, and 50,000 warrants to
purchase common stock at a price of $6.5625 per share, which expire on December
31, 2001 and are immediately exercisable. The common stock underlying the
Preferred Stock and the warrants was registered on a Form S-3 filed on February
4, 1997.
STOCKHOLDER SERVICES
Stockholders of the Company who desire information about the Company are
invited to contact John Ingoldsby, Director of Investor Relations, Palomar
Medical Technologies, Inc., 66 Cherry Hill Drive, Beverly, Massachusetts 01915,
508-921-9300, e-mail at [email protected]. A mailing list is maintained to
enable stockholders whose stock is held in street name, and other interested
individuals, to receive quarterly reports, annual reports and press releases as
quickly as possible. (Quarterly reports and press releases are also available
through the Internet at the Company's home page on the World Wide Web
(http://www.palmed.com)).
<PAGE>
30
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
YEAR ENDED DECEMBER 31, 1996, COMPARED TO YEAR ENDED DECEMBER 31, 1995
For the year ended December 31, 1996, the Company had revenues of
$70,098,443 as compared to $21,906,504 for the year ended December 31, 1995. The
220% increase in revenues from 1995 to 1996 is primarily the result of
acquisitions, additional product lines and the transition of certain
subsidiaries from the development stage to commercialization in both the medical
and electronic business segments. Net revenues by the Company's business
segments are as follows:
<TABLE>
<S> <C> <C> <C> <C>
Year ended
December 31,
1995 1996
Medical $ 5,610,280 $ 17,824,158
Electronic 16,296,224 52,274,285
---------- ----------
Total $ 21,906,504 $ 70,098,443
============ ============
</TABLE>
The increase in revenues for the Company's medical segment was principally
attributable to $10.1 million of revenues generated from the Company's Tissue
Technologies subsidiary during the year ended December 31, 1996 as compared to
only $114,000 for the year ended December 31, 1995. Tissue Technologies began
commercial shipment of its product in the fourth quarter of 1995. Approximately
$6.1 million of medical revenues were generated by the Company's Spectrum
subsidiary during the year ended December 31, 1996, as compared to approximately
$3.8 million of revenues for the year ended December 31, 1995. This increase in
revenues at Spectrum was due to the introduction and initial shipments of its
EpiLaser during the third and fourth quarters of 1996. The Company expects its
revenue from the medical segment to continue to increase as the Company further
penetrates the domestic and international medical markets with its Tru-Pulse CO2
laser for treatment of wrinkles and skin resurfacing and begins marketing and
shipping its EpiLaser for hair removal which was approved by the FDA in March of
1997.
The increase in revenues for the Company's electronics segment was
attributable to approximately $18.6 million of revenues generated from the
Company's Nexar subsidiary which introduced its proprietary upgradeable PC in
April of 1996, as compared to only approximately $620,000 of revenues generated
from the sale of non-proprietary PCs during the year ended December 31, 1995.
The remaining increase in 1996 in the electronics segment was principally due to
$17.1 million of sales by Dynaco's Comtel subsidiary acquired in the first
quarter of 1996. The Company believes that the revenue in the electronic segment
will continue to increase as Nexar further expands its production capabilities,
marketing and distribution efforts and as Comtel expands its contract
manufacturing operations. However, the Company intends to divest a portion of
its interest in companies in the electronics segment, and such increase in
revenue may not be reflected in the consolidated results of the Company to the
extent it is successful in its divesture.
Gross margin for the year ended December 31, 1996 was $6,920,888 (9.9% of
revenues) versus $4,714,034 (21.5% of revenues) for the year ended December 31,
1995. Gross margin by the Company's business segments are as follows:
<TABLE>
<S> <C> <C> <C> <C>
Year ended
December 31, 1995 1996
Medical $ 2,145,808 $ 3,437,399
Electronic 2,568,226 3,483,489
--------- ---------
Total $ 4,714,034 $ 6,920,888
=========== ===========
</TABLE>
The increase in gross profit dollars was a result of the additional
revenues generated from new products introduced during the year ended December
31, 1996 as discussed above. In the medical segment the principal reason for the
decrease in the gross profit percent was the phase-out of the Company's research
<PAGE>
31
and development contract with the U.S. Army in anticipation of the
commercialization of its medical products. The gross profit percent also
decreased due to underutilization of increased production capacity at Spectrum
in preparation for the anticipated increase in demand of its EpiLaser in fiscal
1997. A portion of this decrease in gross margins was offset by an increase in
gross margins attributed to the acquisition of Tissue Technologies, which
introduced its Tru-Pulse CO2 laser to the commercial marketplace in the first
quarter of 1996.
In the electronic segment, the principal reason for the decrease in the
gross profit percent was a decrease in yields at Dynaco due to an increase in
production costs attributable to a change in Dynaco's product mix and an
inventory valuation write-off of $643,000 at Dynaco's Comtel subsidiary offset
by an increase in the gross margin as a result of Nexar's introduction and
initial volume shipments of its proprietary upgradeable PC in 1996.
Research and development costs increased to $7,977,085 (11% of revenues)
for the year ended December 31, 1996, from $4,419,487 (20% of revenues) for the
year ended December 31, 1995. This 80.5% increase in research and development
reflects the Company's continuing commitment to research and development for
both its medical and electronic business segments. In the Company's medical
segment the Company focused its efforts during 1996 to obtain FDA clearance for
hair removal using the EpiLaser. The Company received FDA clearance for hair
removal in March of 1997. The Company also continued to concentrate on the
development of additional products for medical laser applications. In the
electronics segment, the Company's Nexar subsidiary continues to enhance and
further develop its current proprietary upgradeable PC product in order to stay
competitive in a rapidly changing high technology industry. In addition, Dynaco
began funding a new process engineering and materials development program, and
has filed several patents. Management believes that research and development
expenditures will increase over the next few years as the Company continues
clinical trials of its medical products and develops additional applications for
its lasers and delivery systems. However, management anticipates that research
and development expenditures as a percentage of revenue will decrease as its
revenues increase with commercialization of its products.
General and Administrative expenses increased to $21,569,054 (31% of
revenues) for the year ended December 31, 1996, from $7,879,694 (36% of
revenues) for the year ended December 31, 1995. This 173.7% increase is
primarily due to acquisitions and the transition of certain subsidiaries from
the development stage to commercialization combined with the increased
administrative resources required at the Company's corporate offices to oversee
the growth of the Company's medical and electronic business segments. In the
medical segment, the Company acquired Tissue Technologies and expanded its
general and administrative support staff at Spectrum to accommodate the
forecasted growth in the fourth quarter of 1996 and in 1997. In the electronics
segment, the Company's Dynaco subsidiary acquired Comtel and formed Dynamem.
Additionally, the Company's Nexar subsidiary has expanded its executive,
administrative and finance staffs to support Nexar's growing operations. The
Company has continued to increase its support staffs in anticipation of several
new product introductions in 1996. All the Company's subsidiaries maintain their
own general and administrative support staffs. The increase in general and
administrative expenses is also due to write-downs and valuation allowances
totaling approximately $3,100,000 related to accounts receivable, intangibles
and the accrual of severance costs.
Selling and Marketing expenses increased to $11,420,943 (16% of revenues)
for the year ended December 31, 1996, from $2,768,541 (13% of revenues) for the
year ended December 31, 1995. This 312.5% increase reflects the Company's effort
to increase its marketing and distribution as a result of its new product lines
developed internally within the medical segment. This increase is attributable
to the Company's Spectrum subsidiary and the acquisition of Tissue Technologies,
both increasing its sales and marketing expenditures to coincide with the
addition of two new product lines. In the electronics segment, this increase
reflects the change in focus of the Company's Nexar subsidiary from product
development to selling and marketing its proprietary upgradeable PC. During 1996
Nexar began its efforts to increase its selling, marketing and distribution
which resulted in additional costs of $4.8 million in 1996 as compared to $0.6
million in 1995.
Business Development and Financing Costs increased to $2,879,603 (4% of
revenues) for the year ended December 31, 1996, from $1,409,303 (6% of revenues)
for the year ended December 31, 1995. This 104.3% increase is attributable to
the Company's continuing acquisitions and financing activities. The Company
anticipates that it will continue to expend funds to raise additional sources of
financing and to focus its efforts to acquire other technologies to broaden its
scope of product applications and services in both the medical and electronic
business segments.
<PAGE>
32
Settlement and litigation costs increased to $2,255,000 for the year ended
December 31, 1996 from $700,000 for the year ended December 31, 1995. This
increase is a result of a settlement of potential claims with a former executive
of Nexar for approximately $1,400,000 and under which Nexar is purchasing
previously-licensed core technology and eliminated future royalty payments on
the use of Nexar's core technology, a settlement of approximately $525,000 in
connection with a suit brought against the Company and the chief executive
officer of Nexar upon Nexar's organization, and other claims against the
Company, combined with the associated legal costs.
Merger expenses totaled $443,780 for the year ended December 31, 1996 and
are comprised of professional fees associated with the merger of Tissue
Technologies and the Company.
Interest expense increased to $1,443,564 for the year ended December 31,
1996, from $1,374,199 for the year ended December 31, 1995. This 5% increase is
primarily the result of the issuance of acquisition debt in April 1995 to
purchase Spectrum, and the issuance of the 4.5% Swiss Franc convertible
debentures in July 1996.
Interest income increased to $1,586,620 for the year ended December 31,
1996, from $913,050 for the year ended December 31, 1995. This increase is
primarily the result of interest received from subscriptions receivable and
other loans and investments made as a result of the Company's improved cash
position.
Net gain on trading securities represents realized and unrealized trading
gains and losses of $2,033,371 for the year ended December 31, 1996. Included in
this amount is an unrealized gain totaling approximately $1,547,000 related to
the Company's investment in a publicly traded company in which the Company's
chief executive officer owns approximately 13% and a realized gain totaling
approximately $827,000 related to the Company's investment in another publicly
traded company offset by various unrealized losses aggregating approximately
$340,000. The Company had a net realized trading gain of $201,067 for the year
ended December 31, 1995. It is the Company's intention to continue to invest in
trading securities, which may result in additional realized and unrealized
trading gains or losses in the future
Gain on the sale of stock of a subsidiary stock represents a gain of
$3,830,000 related to the private placement sale by the Company of 400,000 Nexar
common shares. See Note 10 of the Notes to the Consolidated Financial
Statements.
Other income and expense totaled $4,245,642 of expense for the year ended
December 31, 1996 as compared to $102,305 income for the year ended December 31,
1995. Significant amounts included in this amount for 1996 is a charge to
operations of $3,690,000 related to the Company's New Media investment and
additional reserves totaling $1,306,038 required for other loans to joint
ventures. Offsetting these losses is a foreign currency exchange gain of
$446,596. See Note 9 of the Notes to the Consolidated Financial Statements.
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 1996, the Company had $19,066,523 in cash, cash
equivalents and trading securities. During the year ended December 31, 1996, the
Company generated the following net cash proceeds from its financing and
investing activities to fund operations, acquisitions and the development of its
products:
YEAR ENDED
DECEMBER 31, 1996
Sale of common stock $ 6,061,380
Sale of preferred stock 30,823,147
Issuance of convertible debentures 14,169,441
Sale of Stock of a subsidiary 2,000,000
Exercise of stock options and warrants 7,653,907
---------
Total $60,707,875
The Company's net loss for the year ended December 31, 1996, included the
following noncash items: $3,916,221 of depreciation and amortization expense;
<PAGE>
33
$70,130 of interest expense relating to the amortization of the discounts on the
convertible debentures; and $741,982 related to common stock and warrants issued
to non-employees and consultants of which approximately $532,758 results from
the issuance of warrants for services in accordance with SFAS No. 123.
The Company anticipates that capital expenditures for 1997 will total
approximately $16 million, with nearly 60% of this amount funding lasers needed
for CTI laser centers. The Company intends to finance the majority of the CTI
expenditures under equipment leasing arrangements with various financing
institutions. However, there can be no assurance that the Company will be able
to obtain the necessary financing.
Dynaco has a three-year revolving credit and security agreement with a
financial institution. The agreement provides for the revolving sale of
acceptable accounts receivable, as defined in the agreement, with recourse at
85% of face value, up to a maximum commitment of $3,000,000. As of December 31,
1996, the amount of accounts receivable sold that remained uncollected totaled
$1,787,057 net of related reserves and fees, as defined in the agreement. This
amount is classified as a revolving line of credit in the accompanying
consolidated balance sheet as of December 31, 1996. The interest rate on such
outstanding amounts is the bank's prime rate (8.25% at December 31, 1996) plus
1.5%, and interest is payable monthly in arrears. The financing is
collateralized by the purchased accounts receivable and substantially all of
Dynaco's assets. Borrowings under this line are guaranteed by the Company.
On December 5, 1996, Comtel entered into a loan agreement with a loan
association which provided for borrowings up to $4,500,000 in the form of
revolving receivable and inventory loans. Borrowings under the loan agreement
are limited by a borrowing base calculation on eligible accounts receivable and
inventory, and are collateralized by accounts receivable, inventory and certain
other assets. Borrowings bear interest at the lender's prime rate plus 2.25% and
amounted to $2,770,375 as of December 31, 1996. The loan agreement terminates on
November 30, 1998. Borrowings under this loan agreement are guaranteed by the
Company.
Some of the Company's medical products businesses are still in the
development stage, with significant research and development costs and
regulatory constraints that currently limit sales of its medical products. These
activities are an important part of the Company's business plan. Due to the
nature of clinical trials and research and development activities, it is not
possible to predict with any certainty the timetable for completion of these
research activities or the total amount of funding required to commercialize
products developed as a result of such research and development. The rate of
research and the number of research projects underway are dependent to some
extent upon external funding. While the Company is regularly reviewing potential
funding sources in relation to these ongoing and proposed research projects,
there can be no assurance that the current levels of funding or additional
funding will be available, or, if available, on terms satisfactory to the
Company.
The Company also makes investments in core technologies and companies that
management feels are strategic to the Company's business or hopes will yield a
higher than average financial return to support the Company's core business. For
example, the Company has invested money in Nexar (see Item 1. Description of
Business -- Formation of Nexar Technologies, Inc.); the American Materials &
Technologies Corporation, a manufacturer of advanced composite materials, of
which the Company owns 13% as of December 31, 1996; GreenMan Technologies, Inc.,
a developer and manufacturer of "environmentally friendly" plastic and
thermoplastic rubber parts and products that are manufactured using recycled
materials, in which the Company has invested $1,200,000; and HealthCare 2000, a
privately held medical and cosmetic services company in which the Company has
invested $500,000. (See Note 11 to Financial Statements.) Some of these
investments are with companies that are related to some of the directors and
officers of the Company. In addition, the Company has made loans to various
affiliated parties. (See "Item 12. Certain Relationships and Related
Transactions.") At December 31, 1996, the Company had $1,564,153 of such related
party investments and loans.
The Company has had significant losses to date and expects these losses to
continue for the near future. Therefore, the Company must continue to secure
additional financing to complete its research and development activities,
commercialize its current and proposed medical products segment, spin-off its
electronic products segment, execute its acquisition business plan and fund
ongoing operations. The Company believes that the cash generated to date from
its financing activities and amounts available under its credit agreement will
be sufficient to satisfy its working capital requirements through at least the
next twelve months. However, there can be no assurance that events in the future
will not require the Company to seek additional financing sooner. The Company
<PAGE>
34
continues to investigate several financing alternatives, strategic partnerships,
additional bank financing, private debt and equity financing and other sources.
The Company believes that it has adequate cash reserves or will be successful in
obtaining additional financing in order to fund current operations in the near
future.
FACTORS THAT MAY AFFECT FUTURE RESULTS
SUBSTANTIAL AND CONTINUING LOSSES. The Company incurred a net loss of
$37,863,792 for the year ended December 31, 1996 and a net loss of $15,365,145
for the quarter ended March 31, 1997. Losses of this magnitude are expected to
continue for the near term, and there can be no assurance that the Company will
achieve profitable operations or that profitable operations will be sustained if
achieved. At December 31, 1996, the Company's accumulated deficit was
$64,971,200 and at March 31, 1997, the Company's accumulated deficit was
$80,631,341. Dynaco Corp. ("Dynaco"), Star Medical Technologies, Inc. ("Star"),
CD Titles, Inc. ("CD Titles"), Dynamem, Inc. ("Dynamem"), Comtel Electronics,
Inc. ("Comtel"). Tissue Technologies, Inc. ("Tissue"), Spectrum Technologies,
Inc. ("Spectrum") and Nexar Technologies, Inc. ("Nexar") each have had a history
of losses. There can be no assurance that these companies will achieve
profitable operations or that profitable operations will be sustained if
achieved. The Company anticipates incurring substantial research and development
expenses, which will reduce cash available to fund current operations. The
Company must continue to secure additional financing to complete its research
and development activities, commercialize its current and proposed cosmetic
laser products, expand its current electronics business, execute its acquisition
business plan and fund ongoing operations. The Company anticipates that it will
require substantial additional financing during the next twelve-month period.
The Company believes that the cash generated to date from its financing
activities; amounts available under its credit agreement and the Company's
ability to raise cash in future financing activities will be sufficient to
satisfy its working capital requirements through the next twelve-month period.
However, there can be no assurance that this assumption will prove to be
accurate or that events in the future will not require the Company to obtain
additional financing sooner than presently anticipated. The Company may also
determine, depending upon the opportunities available to it, to seek additional
debt or equity financing to fund the costs of acquisitions or continuing
expansion. To the extent that the Company finances an acquisition with a
combination of cash and equity securities, any such issuance of equity
securities could result in dilution to the interests of the Company's
shareholders. Additionally, to the extent that the Company incurs indebtedness
to fund increased levels of accounts receivable or to finance the acquisition of
capital equipment or issues debt securities in connection with any acquisition,
the Company will be subject to risks associated with incurring substantial
additional indebtedness, including the risks that interest rates may fluctuate
and cash flow may be insufficient to pay principal and interest on any such
indebtedness. The Company continues to investigate several financing
alternatives, including strategic partnerships, additional bank financing,
private, debt and equity financing and other sources. While the Company
regularly reviews potential funding sources in relation to its ongoing and
proposed research projects, there can be no assurance that the current levels of
funding or additional funding will be available, or if available will be on
terms satisfactory to the Company. Failure to obtain additional financing could
have a material adverse effect on the Company, including possibly requiring it
to significantly curtail its operations. (See "Item 1. Description of Business,"
"Item 6. Management's Discussion and Analysis of Financial Condition and Results
of Operations" and Note 1 to Financial Statements; March 31, 1997 Form 10-Q Part
I "Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations.")
HOLDING COMPANY STRUCTURE. The Company has no significant operations other
than those incidental to its ownership of the capital stock of its subsidiaries.
As a holding company, the Company is dependent on dividends or other
intercompany transfers of funds from its subsidiaries to meet the Company's debt
service and other obligations. Claims of creditors of the Company's
subsidiaries, including trade creditors, will generally have priority as to the
assets of such subsidiaries over the claims of the Company and the holders of
the Company's indebtedness.
LIMITED OPERATING HISTORY; RECENT ACQUISITIONS. Many of the Company's
subsidiaries have limited operating histories and are in the development stage,
and the Company is subject to all of the risks inherent in the establishment of
a new business enterprise. The likelihood of success of the Company must be
considered in light of the problems, expenses, difficulties, complications and
delays frequently encountered in connection with the establishment of a new
business and development of new technologies in the cosmetic laser products and
electronic products industries. These include, but are not limited to,
government regulation, competition, the need to expand manufacturing
capabilities and market expertise, and setbacks in production, product
development, market acceptance and sales and marketing. The Company's prospects
could be significantly affected by its ability to subsequently manage and
integrate the operations of several distinct businesses with diverse products,
services and customer bases in order to achieve cost efficiencies. There can be
<PAGE>
35
no assurance that the Company will be able to successfully manage and integrate
the operations of newly acquired businesses into its operations or that the
failure to do so will not increase the costs inherent in the establishment of
new business enterprises. (See "Item 1. Description of Business" and Note 1 to
Financial Statements.)
RISKS ASSOCIATED WITH ACQUISITIONS. Since going public, the Company has
acquired seven companies. In the normal course of business, the Company
evaluates potential acquisitions of businesses, products and technologies that
would complement or expand the Company's business. Promising acquisitions are
difficult to identify and complete for a number of reasons, including
competition among prospective buyers and the need for regulatory approvals.
Acquisitions may result in the incurrence of additional debt, the write-off of
in-process research and development or technology acquisition and development
costs and the amortization of expenses related to goodwill and other intangible
assets, any of which could have a material adverse effect on the Company's
business, financial condition, results of operations and cash flow. Acquisitions
involve numerous additional risks, including difficulties in the assimilation of
the operations, services, products and personnel of the acquired company, the
diversion of management's attention from other business concerns, entering
markets in which the Company has little or no direct prior experience and the
potential loss of key employees of the acquired company. In order to finance
acquisitions, it may be necessary for the Company to raise additional funds
through public or private financings. Any equity or debt financing, if available
at all, may be on terms which are not favorable to the Company and, in the case
of equity financing, may result in dilution to the Company's stockholders. (See
"Item 1. Description of Business" and Note 1 to Financial Statements.)
NEW VENTURES. The Company's Cosmetic Technology International, Inc. ("CTI")
subsidiary has entered into several agreements with physician groups to provide
cosmetic laser services at laser treatment centers, and plans to enter into more
such agreements in the future. While the Company believes these new partnerships
are strategically important, there are substantial uncertainties associated with
the development of new products, technologies and services for evolving markets.
The success of these ventures will be determined not only by the Company's
efforts, but also by those of its partners. Initial timetables for the
development and introduction of new technologies, products or services may not
be achieved, and price/performance targets may not prove feasible. External
factors, such as the development of competitive alternatives or government
regulation, may cause new markets to evolve in unanticipated directions. (See
"Highly Competitive Industries," and "Item 1. Description of Business.")
INVESTMENTS IN UNRELATED BUSINESSES. The Company has investments in
marketable and non-marketable securities and loans to related and unrelated
parties, including approximately $8 million invested in equity securities of
high-tech companies, both public and privately held. The amount that the Company
may ultimately realize from these investments could differ materially from the
value of these investments recorded in the Company's financial statements, and
the ultimate disposition of these investments could result in a loss to the
Company. (See "Item 6. Management's Discussion and Analysis of Financial
Condition and Results of Operations," "Item 12. Certain Relationships and
Related Transactions" and Notes 2 and 11 to Financial Statements; March 31, 1997
Form 10-Q Notes 3 and 10 to Financial Statements and Part I "Item 2.
Management's Discussion and Analysis of Financial Condition and Results of
Operations.")
MANAGEMENT OF GROWTH. In light of management's views of the potential for
future growth, the Company has adopted an aggressive growth plan that includes
substantial investments in its sales, marketing, production and distribution
organizations, the creation of new research and development programs and
increased funding of existing programs, and investments in corporate
infrastructure that will be required to support significant growth. This plan
carries with it a number of risks, including a higher level of operating
expenses, the difficulty of attracting and assimilating a large number of new
employees, and the complexities associated with managing a larger and faster
growing organization. Depending on the extent of future growth, the Company may
experience a significant strain on its management, operational, manufacturing
and financial resources. The failure of the Company's management team to
effectively manage growth, should it continue to occur, could have a material
adverse effect on the Company's financial condition and results of operations.
(See "Item 1. Description of Business.")
HIGHLY COMPETITIVE INDUSTRIES. The cosmetic laser and electronics
industries are characterized by intense competition. The cosmetic laser industry
is highly competitive and is characterized by the frequent introduction of new
products. The Company competes in the development, manufacture, marketing and
servicing of laser technology products with numerous other companies, certain of
which have substantially greater financial, marketing and other resources than
the Company. In addition, the Company's cosmetic laser products face competition
<PAGE>
36
from alternative medical products and procedures, such as dermabrasion, chemical
peels, pharmaceutical treatment, electrolysis, waxing and surgery, among others.
There can be no assurance that the Company will be able to differentiate its
products from the products of its competitors or that the marketplace will
consider the Company's products to be superior to competing products or medical
procedures. There can be no assurance that competitors will not develop products
or that new technologies will not be developed that render the Company's
products obsolete or less competitive. (See "Technological Obsolescence.") In
addition, in entering areas of business in which it has little or no experience,
such as the opening of laser treatment centers, the Company may not be able to
compete successfully with competitors that are more established in such areas.
(See "New Ventures.")
In the electronics industry, the Company competes with Packard-Hughes
Interconnect Co., Parlex Corporation, Teledyne Inc., IBM, Apple Computer, Compaq
and Dell Computer, among others. Many, if not most, of the Company's current and
prospective competitors are substantial in size and have substantial financial,
managerial, technical, manufacturing, marketing and other resources, and may
introduce additional products that compete with those of the Company. There can
be no assurance that the Company's products will compete favorably with the
products of its competitors or that the Company will have the resources
necessary to compete effectively against such companies. As a result of the
intense competition in the personal computer market, the Company expects that
gross margins on sales of its upgradeable personal computers will be extremely
narrow and will require the Company to manage carefully its cost of goods sold.
There can be no assurance that the Company will be able to manage its cost of
goods sold to the degree necessary for sales of upgradeable computer products to
generate significant gross margins. The Company currently has limited marketing
capabilities and expects to place significant reliance on independent
distributors and resellers for the distribution and marketing of its products.
The Company will be dependent upon the efforts of such third parties. The
inability to establish and maintain a network of independent distributors and
resellers, or a reduction in their sales efforts, could have a material adverse
effect on the Company's financial condition and results of operations. In
addition, there can be no assurance as to the viability or financial stability
of the Company's independent distributors and resellers. The computer industry
has been characterized from time to time by financial difficulties of
distributors and resellers; any such problems could lead to reduced sales and
could have a material adverse effect on the Company's financial condition and
results of operations. There can be no assurance that the Company's products
will compete favorably with the products of its competitors or that the Company
will have the resources necessary to compete effectively against such companies.
(See "Item 1. Description of Business.")
FLUCTUATIONS IN QUARTERLY PERFORMANCE. The Company's results of operations
have fluctuated substantially and can be expected to continue to vary
significantly. The Company's quarterly operating results depend on a number of
factors, including the timing of the introduction or acceptance of new products
offered by the Company or its competitors, changes in the mix of products sold
by the Company, changes in regulations affecting the cosmetic laser products or
electronics industry, changes in the Company's operating expenses, personnel
changes and general economic conditions.
The Company's stock price, like that of other technology companies, is
subject to significant volatility. If revenues or earnings in any quarter fail
to meet the investment community's expectations, there could be an immediate
impact on the price of the Company's common stock. The price of the Company's
common stock may also be affected by broader market trends unrelated to the
Company's performance. (See "Volatility of Share Price;" "Item 6. Management's
Discussion and Analysis of Financial Condition and Results of Operations;" March
31, 1997 Form 10-Q "Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations.")
VOLATILITY OF SHARE PRICE. Factors such as announcements of developments
related to the Company's business, announcements by competitors, quarterly
fluctuations in the Company's financial results and other factors have caused
the price of the Company's stock to fluctuate, in some cases substantially, and
could continue to do so in the future. In addition, the stock market has
experienced extreme price and volume fluctuations that have particularly
affected the market price for many technology companies and that have often been
unrelated to the operating performance of these companies. These broad market
fluctuations may adversely affect the market price of the Company's common
stock. The trading prices of many technology companies' stocks are at or near
their historical highs, and reflect price/earnings ratios substantially above
historical norms. There can be no assurance that the trading price of the
Company's common stock will remain at or near its current level.
GOVERNMENT REGULATION. The Company's laser product business segment and, to
a lesser degree, its electronics business segment are subject to regulation in
the United States and abroad. Failure to comply with applicable regulatory
requirements can result in fines, denial or suspension of approvals, seizures or
<PAGE>
37
recall of products, operating restrictions and criminal prosecutions, any or all
of which could have a material adverse effect on the Company. Furthermore,
changes in existing regulations or adoption of new regulations could prevent the
Company from obtaining, or could affect the timing of, future regulatory
approvals. (See "Item 1. Description of Business - Government Regulation.")
LASER PRODUCT SEGMENT. All laser product devices, including those sold by
the Company, are subject to regulation by the FDA under the Medical Device
Amendments of the United States Food, Drug and Cosmetics Act (the "FDA Act").
The Company's business, financial condition and operations are critically
dependent upon timely receipt of FDA regulatory clearance.
FDA CLEARANCE STATUS FOR COSMETIC LASER PRODUCTS. Three of the Company's
lasers have received clearance from the FDA for certain dermatological
applications: the Q-switched Ruby laser, the Tru-Pulse laser and the Epilaser
system. The Company's diode laser has not yet received FDA clearance, and is
currently under an Investigative Device Exemption.
The Company is also investigating other applications in dermatology for its
laser systems. It will be required to obtain FDA clearance before commercially
marketing any other application. The Company believes that it will be able to
seek such clearance under the 510(k) application process; however, no assurance
can be given that the FDA will not require the Company to follow the more
extensive and time-consuming Pre-Market Approval ("PMA") process. FDA review of
a 510(k) application currently averages about seven to twelve months and
requires limited clinical data based on "substantial equivalence" to a product
marketed prior to 1976, while a PMA review can last for several years and
require substantially more clinical data.
The FDA also imposes various requirements on manufacturers and sellers of
products under its jurisdiction, such as labeling, good manufacturing practices,
record keeping and reporting requirements. The FDA also may require post-market
testing and surveillance programs to monitor a product's effects. There can be
no assurance that the appropriate clearances from the FDA will be granted, that
the process to obtain such clearances will not be excessively expensive or
lengthy or that the Company will have sufficient funds to pursue such
clearances.
No assurance can be given that FDA approval will be obtained for the
Company's current or proposed laser products on a timely basis, if at all. The
laser products segment of the Company's business, is, and will continue to be,
critically dependent upon FDA approval of its current and proposed cosmetic
laser products. Delays or failure to obtain such approval would have a material
adverse effect on the Company.
OTHER GOVERNMENT APPROVALS FOR LASER PRODUCTS; GOOD MANUFACTURING
PRACTICES. In order to be sold outside the United States, the Company's products
are subject to FDA permit requirements that are conditioned upon clearance by
the importing country's appropriate regulatory authorities. Many countries also
require that imported products comply with their own or international electrical
and safety standards. Additional approvals may be required in other countries.
The Company's Tru-pulse laser has received the CE Mark pursuant to the European
Medical Device Directive which allows that laser to be sold in all countries
that recognize the CE Mark, including the countries that comprise the European
Community. The Company is currently seeking to obtain the CE Mark registration
for its Epilaser. The Company has yet to apply for international approval for
its diode laser for use in cosmetic surgery and dermatology.
The Company is subject to the laser radiation safety regulations of the FDA
Act administered by the National Center for Devices and Radiological Health
("CDRH") of the FDA. These regulations require a laser manufacturer to file new
product and annual reports, to maintain quality control, product testing and
sales records, to distribute appropriate operation manuals, to incorporate
certain design and operating features in lasers sold to end-users and to certify
and label each laser sold to end-users as one of four classes of lasers (based
on the level of radiation from the laser). In addition, various warning labels
must be affixed on the product and certain protective devices must be installed
depending upon the class of product. Under the Act, the Company is also required
to register with the FDA as a medical device manufacturer and is subject to
inspection on a routine basis by the FDA for compliance with Good Manufacturing
Practice ("GMP") regulations. The GMP regulations impose certain procedural and
documentation requirements upon the Company relevant to its manufacturing,
testing and quality control activities. The CDRH is empowered to seek fines and
other remedies for violations of these regulatory requirements. The Company
believes that it is currently in compliance with these regulations.
<PAGE>
38
ELECTRONIC SEGMENT. A significant percentage of the total sales of the
flexible circuit board component business of the Company, which presently
accounts for a significant amount of the sales of the Company, are the result of
either a subcontract or a direct contract for government programs funded by the
U.S. military. Generally, government contracts and subcontracts are terminable
at the convenience of the government. Cutbacks in military spending for certain
programs or lack of military spending in general could have a material adverse
effect on the Company. There can be no assurance that termination of contracts,
cessation of purchase orders, or a failure to appropriate funds will not occur
in the future. Any termination, cessation, or failure to appropriate funds with
respect to contracts or subcontracts having a significant dollar value would
have a material adverse effect on the Company's business, financial condition
and results of operation. The unpredictable nature of the government procurement
process also may contribute to fluctuations in the Company's quarterly
performance. (See "Fluctuations in Quarterly Performance.")
Flexible circuit board component sales to the U.S. military are subject to
certain military certifications. These certifications are based upon compliance
with specification standards set by the U.S. military. The certification for one
of the Company's products expires in late 1998, and, for the other certified
product, in early 1999. The Company is subject to periodic audit and review from
U.S. government agencies to ensure compliance under criteria set forth by these
agencies. The Company has passed all government audits. Failure to meet or
exceed criteria set forth could result in a suspension or disqualification of
certain certifications. Such suspension or disqualification could have a
material adverse effect on the Company.
One customer of Nexar, Government Technology Services, Inc. (GTSI), a
leading supplier of desktop systems to United States government agencies,
accounted for a majority of Nexar's revenues. The Company expects that GTSI will
continue to be an important customer, and that while sales to GTSI will
increase, such sales as a percentage of total revenues will decline
substantially as Nexar further expands its distribution network and increases
its overall sales. Nexar has entered into an agreement with GTSI pursuant to
which GTSI serves as Nexar's exclusive federal reseller with respect to
Government Services Administration (GSA) scheduled purchases, provided that GTSI
purchases at least $35 million of Nexar's products in 1997. GTSI is under no
obligation, however, to purchase any products of Nexar's. If GTSI makes fewer
purchases in 1997 than Nexar anticipates, that would have a material adverse
effect on the Company.
UNCERTAINTY OF MARKET ACCEPTANCE. The Company continually develops new
products intended for use in the cosmetic laser products segment and the
electronic products segment. As with any new products, there is substantial risk
that the marketplace may not accept or be receptive to the potential benefits of
such products. Market acceptance of the Company's current and proposed products
will depend, in large part, upon the ability of the Company or any marketing
partners to demonstrate to the marketplace the advantages of the Company's
products over other types of products. There can be no assurance that
applications or uses for the Company's current and proposed products will be
accepted by the marketplace or that any of the Company's current or proposed
products will be able to compete effectively. (See "Item 1. Description of
Business.")
UNCERTAINTY OF HEALTHCARE REIMBURSEMENT AND REFORM. The healthcare industry
is subject to changing political, economic and regulatory influences that may
affect the procurement practices and operations of healthcare industry
participants. During the past several years, state and federal government
regulation of reimbursement rates and capital expenditures in the United States
healthcare industry has increased. Lawmakers continue to propose programs to
reform the United States healthcare system, which may contain programs to
increase governmental involvement in healthcare, lower Medicare and Medicaid
reimbursement rates or otherwise change the operating environment for the
Company's customers. Healthcare industry participants may react to these
proposals by curtailing or deferring investments, including investments in the
Company's products.
DEPENDENCE ON THIRD PARTY RESEARCHERS. The Company is substantially
dependent upon third party researchers and others, over which the Company will
not have absolute control, to satisfactorily conduct and complete research on
behalf of the Company and to grant to the Company favorable licensing terms for
products which may be developed. The Company has entered into a number of
research agreements with recognized research hospitals and clinical
laboratories. These research institutions include the Oregon Medical Laser
Center at the Heart Institute of St. Vincent Hospital and Medical Center in
Portland, Oregon, the Wellman Labs at Massachusetts General Hospital and the
Otolaryngology Research Center for Advanced Endoscopic Applications at New
England Medical Center, Boston, Massachusetts. The Company provides research
funding, laser technology and optics know-how in return for licensing agreements
<PAGE>
39
with respect to specific medical applications and patents. Management believes
that this method of conducting research and development provides a higher level
of technical and clinical expertise than it could provide on its own and in a
more cost efficient manner. The Company's success will be highly dependent upon
the results of the research, and there can be no assurance that these research
agreements will provide the Company with marketable products in the future or
that any of the products developed under these agreements will be profitable for
the Company. (See "Item 1. Description of Business" and Note 6 to Financial
Statements.)
TECHNOLOGICAL OBSOLESCENCE. The markets for the Company's products are
characterized by rapid and significant technological change, evolving industry
standards and frequent new product introductions and enhancements. Many of the
Company's products and products under development are technologically
innovative, and require significant planning, design, development and testing,
at the technological, product and manufacturing process levels. These activities
require significant capital commitments and investment by the Company. The
Company's failure to develop products in a timely manner in response to changes
in the industry, whether for financial, technological or other reasons, will
have a material adverse effect on the Company's business, financial condition
and results of operations.
The flexible circuit board component, electronics interconnect and personal
computer industries are characterized by large capital investments in new
automated processes and state-of-the-art fabrication techniques. In order to
participate effectively in those industries, the Company must continue to make
large capital investments in new automated processes and state-of-the-art
fabrication techniques. Development by others of new or improved products,
processes or technologies may make the Company's products or proposed products
obsolete or less competitive. The Company will be required to devote continued
efforts and financial resources to enhancement of its existing products and
development of new products. There can be no assurance that the Company will
have the financial resources or the technological capability necessary to carry
out such product enhancement and development. Nor can there be any assurance
that any of the products currently being developed by the Company, or those to
be developed in the future, will be technologically feasible or accepted by the
marketplace, that any such development will be completed in any particular time
frame, or that the Company's products or proprietary technologies will not
become uncompetitive or obsolete. (See "Item 1. Description of Business.")
LACK OF PATENT PROTECTION. The Company currently holds several patents and
intends to pursue various additional avenues that it deems appropriate to
protect its technology. There can be no assurance, however, that the Company
will file any additional patent applications or that any patent applications
that have been, or may be, filed will result in issued patents, or that any
patent, patent application, know-how, license or cross-license will afford any
protection or benefit to the Company.
The cosmetic laser device market has been characterized by substantial
litigation regarding patent and other intellectual property rights. One of the
Company's competitors in the cosmetic laser business has filed suit against the
Company alleging patent infringement, among other things. In both the cosmetic
laser products and the electronic products segments, litigation, which could
result in substantial cost to and diversion of effort by the Company, may be
necessary to protect trade secrets or know-how owned by or licensed to the
Company or to determine the enforceability, scope and validity of the
proprietary rights of others. Adverse determination in litigation or
interference proceedings could subject the Company to significant liabilities to
third parties, require the Company to seek licenses from third parties and could
prevent the Company from manufacturing and selling its products, all of which
could have a material adverse effect on the Company's business, financial
condition and results of operations. (See "Item 1. Description of Business,"
"Item 3. Legal Proceedings;" March 31, 1997 10-Q, Part II "Item 1. Legal
Proceedings.")
POSSIBLE PATENT INFRINGEMENTS. In the medical products segment, the Company
is aware of patents relating to laser technologies used in certain applications.
The Company intends to pursue such laser technologies in the future; hence, if
the patents relating to those technologies are valid and enforceable, they may
be infringed by the Company. The Company has obtained opinions of counsel that
the Company is not infringing currently on patents held by others; however, such
opinions have not been challenged in any court of law. If the Company's current
or proposed products are, in the opinion of patent counsel, infringing on any of
these patents, the Company intends to seek non-exclusive, royalty-bearing
licenses to such patents but there can be no assurance that any such license
would be available on favorable terms, if at all. One of the Company's
competitors in the cosmetic laser business has filed suit against the Company
alleging patent infringement, among other things. In the electronic products
segment, the Company has not been notified that it is currently infringing on
any patents nor has it been the subject of any patent infringement action. No
assurance can be given that infringement claims will not be made or that the
Company would prevail in any legal action with respect thereto. Defense of a
claim of infringement would be costly and could have a material adverse effect
on the Company's business, even if the Company were to prevail.
<PAGE>
40
DEPENDENCE ON PROPRIETARY RIGHTS. The Company relies on trade secrets and
proprietary know-how which it seeks to protect, in part, by confidentiality
agreements with its collaborators, employees and consultants. There can be no
assurance that these agreements will not be breached, that the Company would
have adequate remedies for any breach, or that the Company's trade secrets will
not otherwise become known or be independently developed by competitors.
NEED FOR ADDITIONAL QUALIFIED PERSONNEL/DEPENDENCE ON KEY PERSONNEL. The
Company's ability to develop, manufacture and market all of its products, and to
attain a competitive position within the laser products and electronics
industries, will depend, in large part, on its ability to attract and retain
qualified personnel. Competition for qualified personnel in these industries is
intense and the Company will be required to compete for such personnel with
companies which may have greater financial and other resources; there can be no
assurance that the Company will be successful in attracting, assimilating and
retaining the personnel it requires to grow and operate profitably. The
Company's inability to attract and retain such personnel could have a material
adverse effect upon its business. (See "Management of Growth.")
The Company's future success depends to a significant extent on its
executive officers and certain technical, managerial and marketing personnel.
The loss of the services of any of these individuals or group of individuals
could have a material adverse effect on the Company's business, financial
condition and results of operations.
The Company is dependent on various sales representatives and distributors
to market and sell its medical products. The Company is in the process of
expanding its direct sales force to ensure that it satisfactorily masters and
controls the expected growth of its medical product sales. (See "Item 1.
Description of Business.")
ISSUANCE OF PREFERRED STOCK AND DEBENTURES COULD AFFECT RIGHTS OF COMMON
SHAREHOLDERS. The Company is authorized to issue up to 5 million shares of
Preferred Stock, $.01 par value. The Preferred Stock may be issued in one or
more series, the terms of which may be determined at the time of issuance by the
Board of Directors, without further action by shareholders, and may include
voting rights (including the right to vote as a series on particular matters),
preferences as to dividends and liquidation, conversion and redemption rights
and sinking fund provisions. In July 1996, the Company issued 6,000 shares of
Series F Convertible Preferred Stock at a price of $1,000 per share. In
September 1996, the Company issued 10,000 shares of Series G Preferred Stock at
a price of $1,000 per share. As of May 23, 1997, 2,316 shares were converted
into 362,824 shares of common stock. In March 1997, the Company issued 6,000
shares of Series H Convertible Preferred Stock at a price of $1,000 per share.
In May 1997, the Company issued 10,000 shares of Series H Convertible Preferred
Stock at a price of $1,000 per share. In July 1996, the Company issued 9,675
units in a convertible debenture financing. Each unit consisted of a convertible
debenture denominated in 1,000 Swiss Francs and a warrant to purchase 24 shares
of the Company's common stock at $16.50 per share. In February 1997, 300 units
were redeemed by the Company for an aggregate price of $195,044. In October
1996, the Company issued $5,000,000 in 4.5% Convertible Subordinated Promissory
Notes. As of May 23, 1997, $3,100,000 principal amount was converted into
619,512 shares of common stock. In December 1996 and January 1997, the Company
issued a total of $6,000,000 in 5% Convertible Debentures. Also, In March 1997,
the Company issued $5,500,000 in 5% Convertible Debentures. In March 1997, the
Company issued $500,000 in 6% Convertible Debentures. The issuance of any such
additional Preferred Stock or Debentures could affect the rights of the holders
of Shares, and could reduce the market price of the Shares. In particular,
specific rights granted to future holders of Preferred Stock or Debentures could
be used to restrict the Company's ability to merge with or sell its assets to a
third party, thereby preserving control of the Company by the existing control
group. (See "Item 1. Description of Business," "Item 5. Market for Common Equity
and Related Stockholder Matters," and Notes 4 and 5 to Financial Statements;
March 31, 1997 Form 10-Q, Part II, "Item 2. Changes in Securities" and Note 9 to
Financial Statements.)
ISSUANCE OF RESERVED SHARES; REGISTRATION RIGHTS. As of May 23, 1997, the
Company had 32,806,045 Shares of Common Stock outstanding. The Company has
reserved an additional 23,714,727 Shares for issuance as follows: (1) 3,897,500
Shares for issuance to key employees, officers, directors, consultants and
advisors pursuant to the Company's Stock Option Plans; (2) 212,690 Shares for
issuance to employees, officers and directors pursuant to the Company's 401(k)
Plan; (3) 997,586 Shares for issuance pursuant to the Company's Employee Stock
Purchase Plan; (4) 9,377,940 Shares for issuance upon exercise of three-, four-
five- and seven-year Warrants issued to certain lenders, investors, consultants,
directors and officers (a portion of which are subject to certain antidilutive
adjustments); (5) 600,000 Shares for issuance upon conversion of the 6,000
shares of Series F Preferred Stock; (6) 1,337,176 Shares for issuance upon
<PAGE>
41
conversion of the 7,684 shares of Series G Preferred Stock (7) 840,892 Shares
for issuance upon conversion of the debentures sold in the Swiss
Franc-Denominated Offering; (8) 280,488 Shares for issuance upon conversion of
$1,900,000 principal amount of a 4.5% Convertible Subordinated Promissory Note;
(9) 1,200,000 Shares for issuance upon conversion of $6,000,000 principal amount
of a 5% Convertible Debentures; (10) 2,000,000 Shares for issuance upon
conversion of $5,500,000 principal amount of a 5% Convertible Debenture; (11)
45,455 Shares for issuance upon conversion of $500,000 6% Convertible Debentures
and (12) 2,925,000 Shares for issuance upon conversion of the 13,000 shares of
Series H Preferred. All of the foregoing reserved Shares are, or the Company
intends for them shortly to be, registered with the Commission and therefore
freely salable on Nasdaq or elsewhere.
PRODUCT LIABILITY EXPOSURE. Cosmetic laser product companies face an
inherent business risk of financial exposure to product liability claims in the
event that the use of their products results in personal injury. The Company's
products are and will continue to be designed with numerous safety features, but
it is possible that patients could be adversely affected by use of one of the
Company's products or that deaths could occur. Further, in the event that any of
the Company's products prove to be defective, the Company may be required to
recall and redesign such products. Although the Company has not experienced any
material losses due to product liability claims to date, there can be no
assurance that it will not experience such losses in the future. The Company
maintains general liability insurance in the amount of $1,000,000 per occurrence
and $2,000,000 in the aggregate and maintains umbrella coverage in the aggregate
amount of $25,000,000; however, there can be no assurance that such coverage
will continue to be available on terms acceptable to the Company or that such
coverage will be adequate for liabilities actually incurred. In the event the
Company is found liable for damages in excess of the limits of its insurance
coverage, or if any claim or product recall results in significant adverse
publicity against the Company, the Company's business, financial condition and
results of operations could be materially and adversely affected. In addition,
although the Company's products have been and will continue to be designed to
operate in a safe manner, and although the Company attempts to educate medical
personnel with respect to the proper use of its products, misuse of the
Company's products by medical personnel over whom the Company cannot exert
control may result in the filing of product liability claims or significant
adverse publicity against the Company.
RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS. As part of its business
strategy, the Company intends to seek opportunities to expand its product and
service offerings into international markets. In marketing its products and
services internationally, the Company will likely face new competitors. There
can be no assurance that the Company will be successful in marketing or
distributing products and services in these markets or that its international
revenue will be adequate to offset the expense of establishing and maintaining
international operations. The Company's international business may be adversely
affected by changing economic conditions in foreign countries. The majority of
the Company's sales are currently denominated in U.S. dollars, but there can be
no assurance that a significantly higher level of future sales will not be
denominated in foreign currencies. To the extent the Company makes sales
denominated in currencies other than U.S. dollars, gains and losses on the
conversion of those sales to U.S. dollars may contribute to fluctuations in the
Company's business, financial condition and results of operations. In addition,
fluctuations in exchange rates could affect demand for the Company's products
and services. Conducting an international business inherently involves a number
of other difficulties and risks, such as export restrictions, export controls
relating to technology, compliance with existing and changing regulatory
requirements, tariffs and other trade barriers, difficulties in staffing and
managing international operations, longer payment cycles, problems in collecting
accounts receivable, political instability, seasonal reductions in business
activity in Europe and certain other parts of the world during the summer
months, and potentially adverse tax consequences. There can be no assurance that
one or more of these factors will not have a material adverse effect on any
international operations established by the Company and, consequently, on the
Company's business, financial condition and results of operations.
The Company plans to expand its business into international markets and has
set up a manufacturing and distribution center in Hull England. To date, the
Company has minimal experience in marketing and distributing its products
internationally and plans to establish alliances with sales representative
organizations and resellers with particular experience in international markets.
Accordingly, the Company's success in international markets will be
substantially dependent upon the skill and expertise of such international
participants in marketing the Company's products. There can be no assurance that
the Company will be able to successfully market, sell and deliver its products
in these markets. In addition, there are certain risks inherent in doing
business in international markets, such as unexpected changes in regulatory
requirements, export restrictions, tariffs and other trade barriers,
difficulties in staffing and managing foreign operations, management's lack of
international expertise, political instability and fluctuations in currency
exchange rates and potentially adverse tax consequences, which could adversely
impact the success of the Company's international operations. There can be no
<PAGE>
42
assurance that one or more of such factors will not have a material adverse
effect on the Company's future international operations and, consequently, on
the company's business, financial condition or operating results. (See "Item 1.
Description of Business.")
NEED FOR CONTINUED PRODUCT DEVELOPMENT. Although the Company received FDA
clearance in February 1997 to commercially market its Tru-Pulse(R) laser for
wrinkle treatment, and in March 1997 to commercially market its Epilaser(TM) for
hair removal, the Company is continuing its development of both products. The
Company is continuing to study both laser systems to optimize performance and
treatment parameters.
DEPENDENCE ON SOLE SUPPLIERS. The Company relies on outside suppliers for
substantially all of its manufacturing supplies, parts and components.
Pyralux(R), an integral component of most of the Company's flexible circuit
products, is manufactured exclusively by E.I. du Pont de Nemours and Company
("DuPont"). Although the Company has a written agreement with DuPont under which
DuPont will supply the Company with all of its requirements for Pyralux, there
can be no assurance that the Company will be able to obtain a sufficient supply
of Pyralux to fulfill orders for its products in a timely manner, if at all.
In addition, CO2 laser tubes, an integral component of Tissue's Tru-Pulse
Laser system, are manufactured exclusively by Pulse Systems, Inc. There can be
no assurance that the Company will be able to obtain sufficient supply of CO2
laser tubes to fulfill orders for its products in a timely manner, if at all.
Furthermore, several other component parts of the Company's cosmetic laser
products and electronic segment products are manufactured exclusively by one
supplier. There can be no assurance that the Company will be able to obtain a
sufficient supply of such components at commercially reasonable prices or at
all. A shortage of necessary parts and components or the inability of the
Company to obtain such parts and components would have a material adverse effect
on the Company's business, financial condition and results of operations. (See
"Item 1. Description of Business.")
DEPENDENCE ON SUBSTANTIAL CUSTOMERS. In the year ended December 31, 1996,
one customer of Nexar, Government Technology Services, Inc. ("GTSI), a leading
supplier of desktop systems to United States government agencies, accounted for
17.5% of the Company's revenues and 23.2% of the Company's accounts receivable
balance. In the quarter ended March 31, 1997, GTSI accounted for 9.0% of the
Company's revenues and 9.4% of the Company's accounts receivable balance. The
Company expects that GTSI will continue to be an important customer, but that
sales to GTSI as a percentage of total revenue will decline substantially as the
Company further expands its distribution network and increases its overall
sales. Nexar has entered into an agreement with GTSI pursuant to which GTSI
serves as the Company's exclusive federal reseller with respect to Government
Services Administration (GSA) scheduled purchases, provided that GTSI purchases
at least $35 million of Nexar's products in 1997. GTSI is under no obligation,
however, to purchase any products of Nexar. If GTSI makes fewer purchases in
1997 than the Company anticipates, that would have a material adverse effect on
the Company.
In the year ended December 31, 1996, one customer of Comtel, New Media,
Inc. ("New Media"), a related party, accounted for 22.3% of the Company's
revenues and 26.7% of the Company's accounts receivable balance. In the quarter
ended March 31, 1997, New Media accounted for 11.6% of the Company's revenues
and 18.3% of the Company's accounts receivable balance. Comtel has entered into
a five (5) year agreement with New Media whereby New Media, subcontracted to
Comtel all of its manufacturing and assembly business over the contract term. On
April 5, 1996, Palomar invested $2,345,000 in New Media preferred and common
stock and loaned New Media an additional $1,000,000. Palomar also received a
warrant to purchase 200,000 shares of common stock in New Media at $1.20 per
share. In February 1997, the note receivable was converted into equity and the
Company invested an additional $1,200,000 in New Media. The Company expects that
New Media will continue to be an important customer, but that sales to New
Media, Inc. as a percentage of total revenue will decline substantially as the
Company further expands its distribution network and increases its overall
sales. New Media has had a history of losses. There can be no assurance that New
Media will achieve profitable operations or that profitable operations will be
sustained if achieved.
A loss from either customer could have a material, adverse effect on the
Company's business in the short term. (See "Item 1. Description of Business" and
Note 2 to Financial Statements.)
HAZARDOUS SUBSTANCE AND ENVIRONMENTAL CONCERNS; LACK OF ENVIRONMENTAL
IMPAIRMENT INSURANCE. The manufacture of substrate interconnect products
involves numerous chemical solvents and other solid, chemical and hazardous
<PAGE>
43
wastes and materials. Dynaco is subject to a variety of environmental laws
relating to the generation, storage, handling, use, emission, discharge and
disposal of these substances and potentially significant risks of statutory and
common law liability for environmental damage and personal injury. The Company,
and in certain circumstances, its officers, directors and employees, may be
subject to claims arising from the Company's manufacturing activities, including
the improper release, spillage, misuse or mishandling of hazardous or
non-hazardous substances or material. The Company may be strictly liable for
damages, regardless of whether it exercised due care and complied with all
relevant laws and regulations. The Company does not currently maintain
environmental impairment insurance. There can be no assurance that the Company
will not face claims resulting in substantial liability for which the Company is
uninsured or that hazardous substances are not or will not be present at the
Company's facilities. The Company believes that it operates its Dynaco
facilities in substantial compliance with existing environmental laws and
regulations. In June 1989 and April 1994, Dynaco conducted environmental studies
of its Tempe, Arizona substrate manufacturing facility and did not discover any
contamination requiring remediation. Failure to comply with proper hazardous
substance handling procedures or violation of environmental laws and regulations
would have a material adverse effect on the Company. (See "Item 1. Description
of Business.")
SIGNIFICANT OUTSTANDING INDEBTEDNESS; SUBORDINATION OF DEBENTURES. The
Company has incurred substantial indebtedness in relation to its equity capital
and will be subject to all of the risks associated with substantial leverage,
including the risk that available cash may not be adequate to make required
payments to the holders of the Company's debentures. The Company's ability to
satisfy its obligations under the debentures from cash flow will be dependent
upon the Company's future performance and will be subject to financial, business
and other factors affecting the operation of the Company, many of which may be
beyond the Company's control. In the event the Company does not have sufficient
cash resources to satisfy quarterly interest or other repayment obligations to
the holders of the debentures, the Company will be in default under the
debentures, which would have a material adverse effect on the Company. To the
extent that the Company is required to use cash resources to satisfy interest
payments to the holders of the debentures, it will have less resources available
for other purposes. Inability of the Company to repay the debentures upon
maturity would have a material adverse effect on the Company, which could result
in a reduction of the price of the Company's Shares. The debentures will be
unsecured and subordinate in right of payment to all senior indebtedness of the
Company. The debentures do not restrict the Company's ability to incur
additional senior indebtedness and most other indebtedness. The terms of senior
indebtedness now existing or incurred in the future could affect the Company's
ability to make payments of principal and/or interest to the holders of
debentures. (See "Item 5. Market for Common Equity and Related Shareholder
Matters" and Note 4 to Financial Statements; March 31, 1997 Form 10-Q, Part II
"Item 2. Changes in Securities" and Note 8 to Financial Statements.)
POTENTIAL EFFECT OF ANTI-TAKEOVER PROVISIONS. The Company is subject to the
anti-takeover provisions of Section 203 of the Delaware General Corporation Law,
which prohibit the Company from engaging in a "business combination" with an
"interested stockholder" for a period of three years after the date of the
transaction in which the person becomes an interested stockholder, unless the
business combination is approved in a prescribed manner. The application of
Section 203 could have the effect of delaying or preventing a change of control
of the Company. The Company's stock option grants generally provide for an
exercise of some or all of the optioned stock, including non-vested shares, upon
a change of control or similar event. The Board of Directors has authority to
issue up to 5,000,000 shares of Preferred Stock and to fix the rights,
preference, privileges and restrictions, including voting rights, of these
shares without any further vote or action by the stockholders. The rights of the
holders of the Common Stock will be subject to, and may be adversely affected
by, the rights of the holders of any Preferred Stock that may be issued in the
future. The issuance of Preferred Stock, while providing desirable flexibility
in connection with possible acquisitions and other corporate purposes, could
have the effect of making it more difficult for a third party to acquire a
majority of the outstanding voting stock of the Company, thereby delaying,
deferring or preventing a change in control of the Company. Furthermore, such
Preferred Stock may have other rights, including economic rights senior to the
Common Stock, and, as a result, the issuance of such Preferred Stock could have
a material adverse effect on the market value of the Common Stock. (See
"Issuance of Preferred Stock and Debentures Could Affect Rights of Common
Shareholders.")
RISKS ASSOCIATED WITH PENDING LITIGATION. The Company and its subsidiaries
are involved in disputes with third parties. Such disputes have resulted in
litigation with such parties and, although the Company is a plaintiff in several
matters, the Company is subject to claims and counterclaims for damages and has
incurred, and likely will continue to incur, legal expenses in connection with
such matters. There can be no assurance that such litigation will result in
favorable outcomes for the Company. The Company is unable to determine the total
expense or possible loss, if any, that may ultimately be incurred in the
resolution of these proceedings. These matters may result in diversion of
<PAGE>
44
management time and effort from the operations of the business. After
consideration of the nature of the claims and the facts relating to these
proceedings, the Company believes that the resolution of these proceedings will
not have a material effect on the Company's business, financial condition and
results of operations; however, the results of these proceedings, including any
potential settlements, are uncertain and there can be no assurance to that
effect.
On October 7, 1996 the Company filed a declaratory judgment action against
MEHL/Biophile ("MEHL") in the United States District Court of the District of
Massachusetts seeking (i) a declaration that MEHL is without right or authority
to threaten or maintain suit against the Company or its customers for alleged
infringement of the patent held by MEHL's subsidiary Selvac Acquisitions Corp.
("Selvac" and the "Selvac Patent"), that the Selvac Patent is invalid, void and
unenforceable, and that the Company does not infringe the Selvac patent; (ii) a
preliminary and permanent injunction enjoining MEHL from threatening the Company
or its customers with infringement litigation or infringement; and (iii) an
award to the Company of damages suffered in connection with MEHL's conduct. On
March 7, 1997, Selvac filed a complaint for injunctive relief and damages for
patent infringement and for unfair competition against the Company, its Spectrum
Medical Technologies and Spectrum Financial Services subsidiaries, and a New
Jersey dermatologist, in the United States District Court for the District of
New Jersey. Selvac's complaint alleges that the Company's EpiLaser infringes the
Selvac Patent and that the Company unfairly competed by promoting the EpiLaser
or hair removal before it had received FDA approval for that specific
application. The Company and Selvac have agreed to dismiss the Massachusetts
litigation without prejudice. Palomar has brought in the New Jersey action its
claims that the Selvac patent is invalid, that the Company has not infringed the
Selvac patent, that MEHL should be enjoined from making further assertions
concerning infringement and unfair competition, and that the Company should be
awarded attorney fees and other appropriate relief. Thus, both the Company's and
MEHL's claims will be tried on the merits in New Jersey. As of May 23, 1997,
discovery had not yet commenced. The extent of exposure of the Company cannot be
determined at this time.
The Company is a defendant IN a lawsuit filed by Commonwealth Associates
("Commonwealth") on March 14, 1996 in the United States District Court for the
Southern District of New York. In its suit, Commonwealth alleges that the
Company breached a contract with Commonwealth in which Commonwealth was to
provide certain investment banking services in return for certain compensation.
In January 1997, Commonwealth's motion for summary judgment on its breach of
contract claim was granted. Commonwealth has alleged that it suffered up to
$3,381,250 in damages on its breach of contract claim, exclusive of interest. A
ruling on Commonwealth's damages claim is pending. The Company intends to appeal
the matter after damages have been determined, and believes its grounds for
appeal are meritorious. (See March 31, 1997 Form 10-Q "Part II, Item 1. Legal
Proceedings.")
<PAGE>
F-2
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Palomar Medical Technologies, Inc. and Subsidiaries:
We have audited the accompanying consolidated balance sheets of Palomar
Medical Technologies, Inc. (a Delaware corporation) and subsidiaries, as of
December 31, 1995 and 1996, and the related consolidated statements of
operations, stockholders' equity and cash flows for the years then ended. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Palomar Medical
Technologies, Inc. and subsidiaries as of December 31, 1995 and 1996, and the
results of their operations and their cash flows for the years then ended in
conformity with generally accepted accounting principles.
ARTHUR ANDERSEN LLP
Boston, Massachusetts,
March 7, 1997
(Except with respect
to the matter discussed
in Note15(a) as to which
the date is March 31, 1997)
<PAGE>
F-11
PALOMAR MEDICAL TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) ORGANIZATION AND OPERATIONS
Palomar Medical Technologies, Inc. and subsidiaries ("Palomar" or the
"Company") is engaged in two business segments: medical device products and
services and electronic products and services. The medical device products
segment consists of the commercial sales and development of cosmetic and medical
laser systems and services. The electronics products segment consists of the
manufacture and sale of personal computers, high density flexible electronics
circuitry and memory modules.
The Company also makes early stage investments in core technologies and
companies that management feels are strategic to the Company's business or will
yield a higher than average financial return to support the Company's core
business. Some of these investments are with companies associated with some of
the directors and officers of the Company (See Note 11).
Some of the Company's medical laser and electronic products are in various
stages of development, and, as such, success of future operations is subject to
a number of risks similar to those of other companies in similar stages of
development. Principal among these risks are the successful development and
marketing of its products, proper regulatory approval, the need to achieve
profitable operations, competition from substitute products and larger
companies, the need to obtain adequate financing to fund future operations and
dependence on key individuals.
The Company has incurred significant losses since inception. The Company
continues to seek additional financing from issuances of common stock and/or
other prospective sources in order to fund future operations. The Company has
financed current operations, expansion of its core business and outside
short-term financial investments primarily through the private sale of debt and
equity securities of the Company. The Company raised a total of $56,112,391 and
$31,083,892 in such financings during the years ended December 31, 1996 and
1995, respectively. The Company anticipates that it will require additional
financing during the next twelve-month period to continue to fund operations and
growth. The Company may from time to time be required to raise additional funds
through additional private sales of the Company's debt or equity securities.
Sales of securities to private investors are sold at a discount to the public
market for similar securities. It has been the Company's experience that private
investors require that the Company make its best effort to register these
securities for resale to the public at some future time.
MEDICAL SEGMENT BUSINESS DEVELOPMENTS
STAR MEDICAL TECHNOLOGIES, INC.
On April 22, 1996, the Company purchased the remaining 14.5% of the
outstanding common stock of Star Medical Technologies, Inc. ("Star") which it
did not already own in exchange for 224,054 shares of Palomar's common stock
valued between $6 and $8 per share. This agreement restricts, for a period of
two years, the sale of the Company's common stock issued in connection with this
agreement. The purchase price has been recorded as additional goodwill and is
being amortized over a period of five years. In connection with this agreement
the original founders of Star have agreed to rescind all royalties due to them
under a Rights Agreement dated July 1, 1993. To date, revenues from Star have
not been significant.
SPECTRUM MEDICAL TECHNOLOGIES, INC.
On April 5, 1995, the Company acquired all of the outstanding common stock
of Spectrum Medical Technologies, Inc. ("Spectrum"). The purchase price
consisted of $300,000 in cash, a $700,000 two-year promissory note, 364,178
shares of the Company's common stock with an aggregate fair market value of
$1,000,000, acquisition costs of $161,138 and assumed liabilities totaling
$1,128,139. In addition, the purchase price includes a 20% contingency payment,
<PAGE>
F-12
payable in the Company's common stock, based upon the future earnings
performance of Spectrum over a three to five-year period, which will be recorded
as additional goodwill if earned. Spectrum develops, manufactures, sells and
services ruby lasers throughout the world for dermatological applications
including the recently (March 1997) FDA approved EpiLaser. The acquisition has
been accounted for as a purchase in accordance with Accounting Principles Board
("APB") Opinion No. 16.
SPECTRUM FINANCIAL SERVICES LLC
On June 30, 1995, the Company formed Spectrum Financial Services LLC
("SFS"), a Limited Liability Company. SFS provides financial leasing services
for medical and electronic manufacturers both related and unrelated to the
Company. The Company has majority control over the operating activities of this
entity. Accordingly, the Company has consolidated the results of operations and
financial position of SFS since the date of formation. To date, the operations
of SFS have not been a significant.
TISSUE TECHNOLOGIES, INC.
On May 3, 1996, the Company acquired 100% of Tissue Technologies, Inc.
("Tissue Technologies"), a manufacturer of a dermatology laser product for the
treatment of wrinkles, in exchange for 3,200,000 shares of the Company's common
stock. The Company has accounted for this acquisition as a pooling-of-interest
in accordance with APB No. 16. Tissue Technologies is engaged in the
manufacturing, marketing and sales of the Tru-Pulse C02 laser system used in
skin resurfacing and treatment of wrinkles.
DERMASCAN, INC.
On July 18, 1996 the Company purchased 80 shares of common stock (80% of
total issued and outstanding capital stock) of Dermascan, Inc. ("Dermascan")
from a Dermascan stockholder in exchange for 35,000 shares of the Company's
common stock. The Company included these 35,000 shares in a registration
statement that became effective February 28, 1997. In addition, the Company
agreed to pay the Dermascan stockholder an amount equal to the difference
between $14.00 and the $7.8125, the closing bid price on February 28, 1997. The
Company has recorded the acquisition at a price of $490,000 in total. Dermascan
markets and sells electrology equipment and supplies to the electrology market.
To date, the operations of Dermascan have not been significant.
PALOMAR TECHNOLOGIES, LTD.
On November 13, 1996, the Company formed Palomar Technologies, Ltd. located
in Hull, England. The purpose of the formation of this company was to establish
a European entity to manufacture, sell and service laser products throughout
Europe and provide a low-cost sourcing alternative for specialty components.
Operations are expected to begin in mid-1997. Through March 7, 1997, the Company
has funded this subsidiary with approximately $1,600,000 for the purchase of
office building and lease of its manufacturing facilities and the hiring of
certain key employees, and is committed to fund this subsidiary an additional $1
million. Subsequent to year end, Palomar Technologies Ltd. entered into
employment agreements with several individuals and issued stock options to
purchase up to 49% of the outstanding common shares of Palomar Technologies Ltd.
Under the terms of the employment agreements, the optionholders have the right
to require the Company to purchase all or a portion of these common shares
exercised pursuant to such stock option at a purchase price based on an earnings
formula as defined.
PALOMAR MEDICAL PRODUCTS, INC.
In February 1997, Palomar Medical Products, Inc. ("Palomar Medical
Products") was formed with the purpose of consolidating the management and
operations of the medical products companies. In January 1997, the Company named
an outside party as the President and CEO of Palomar Medical Products to oversee
and manage the operations. Included in the medical products group are the
following companies; Spectrum, Tissue, Star, Dermascan and Palomar Technologies,
Ltd.
<PAGE>
F-13
COSMETIC TECHNOLOGY INTERNATIONAL, INC.
On December 20, 1996, the Company formed Cosmetic Technology International,
Inc. ("CTI"). CTI is a service company which intends to establish a worldwide
network of cosmetic, dermatological laser and medical device sites with medical
service partners (both fixed and mobile) in key geographic locations. Each site
will be provided a turnkey package of laser and medical device technology,
equipment and services. To date, the operations of CTI have not been
significant.
ELECTRONICS SEGMENT BUSINESS DEVELOPMENTS
NEXAR TECHNOLOGIES, INC.
On March 7, 1995, the Company formed Nexar Technologies, Inc. ("Nexar").
Nexar is an early-stage company that manufactures, markets and sells personal
computers with a unique circuit board design that will enable end users to
upgrade and replace the microprocessor, memory and hard drive components. Nexar
markets its products using various proprietary brand names through multiple
channels of distribution, including the wholesale, retail and direct response
channels.
In December 1996 the Company sold 400,000 shares of Nexar common stock for
$4,000,000, of which $2,000,000 was collected prior to year end and $2,000,000
is in other current assets in the consolidated balance sheet. One of the
purchasers of 200,000 shares is a shareholder of the Company. The Company
recognized a gain on this sale of $3,830,000 in the consolidated statement of
operations. Subsequent to year end, the Company sold an additional 200,000
shares of Nexar common stock for $2,000,000 to another Company shareholder. The
subsequent to year end sale of Nexar common stock includes an option
arrangement, whereby the purchaser has the option to exchange the shares of
Nexar common stock, as defined, for $2,000,000 of the Company's common stock
based on a discounted value as defined, if an option exercise event occurs,
based on the value of the Company's stock on the exchange date. The option
exercise terminates upon the completion of Nexar's initial public offering.
On April 14, 1997 Nexar completed its initial public offering of 2,500,000
shares of its common stock for its own account, as well as shares held by Nexar
shareholders. The price per share was $9.00 and Nexar raiseed net proceeds of
approximately $20.3 million. Following this offering, Palomar will beneficially
own approximately 67% of Nexar's common stock. Included in this percentage is
(i) 1,200,000 shares of Nexar's common stock owned by Palomar that are subject
to a contingent repurchase right by Nexar for an aggregate price of $12,000 in
the event that Nexar does not achieve certain performance milestones set forth
in an agreement between Nexar and Palomar, and (ii) 408,000 shares of Nexar
common stock which Palomar may acquire upon the conversion of 45,684 shares of
Nexar Convertible Preferred Stock that it also owns. The 1,200,000 shares of
common stock subject to the contingent repurchase right of Nexar will be held in
escrow and released to Palomar upon Nexar attaining certain revenue levels
ranging from $100 million to $400 million and net income levels ranging from $7
million to $28 million over a four year period ending December 31, 2000, as
defined in the agreement between Nexar and the Company. These shares may also be
released from escrow upon Nexar attaining a specified minimum stock price
ranging from $15.75 per share to $29.25 per share over this four year period
ending December 31, 2000, and if the Company achieves cumulative net income
totaling $70,000,000 through December 31, 2000. These shares will also be
released if Nexar is party to any merger or sale of substantially all of its
assets.
Upon completion of the offering, Nexar will repay the Company approximately
$8,200,000 from the net proceeds received from this offering.
CD TITLES, INC.
On July 13, 1995, CD Titles, Inc. ("CD Titles") was incorporated. The
Company owns substantially all of CD Titles' outstanding common stock. During
July 1995, certain minority stockholders of CD Titles loaned CD Titles a total
of $600,000. On July 31, 1995, CD Titles purchased certain assets and assumed
certain liabilities of CD Titles totaling $1,271,345. The purchase price
consisted of $625,000 in cash and a $600,000 note payable due September 30,
1995, which was guaranteed by the Company. CD Titles is a CD ROM publishing
company that distributes various materials on CD ROM through personal computer
wholesale channels in the United States. The acquisition has been accounted for
as a purchase in accordance with the APB No. 16.
<PAGE>
F-14
CD Titles defaulted on its loans to the minority stockholders, and on
October 30, 1995 the Company negotiated a settlement with the minority
stockholders by agreeing to issue 257,144 shares of the Company's common stock
in lieu of the then outstanding principal and accrued interest (approximately
$794,000 at October 30, 1995). The common stock was issued at a 35% discount of
the closing bid price of the stock on October 30, 1995. The discount represented
the Company's cost of acquiring capital and was consistent with discounts
offered in similar financings during 1995.
In addition to the settlement of the minority stockholders' notes, the
Company entered into a settlement agreement with the former stockholders.
Pursuant to the settlement agreement, the Company registered 175,000 shares of
its authorized, but unissued common stock (the "pledged shares") which were then
issued to the former shareholders of CD Titles for resale. As part of the
agreement, the former shareholders of CD Titles would sell only the amount of
pledged shares to receive proceeds equal to the outstanding principal and
accrued interest on the note payable, which totaled $628,531, due on September
30, 1995, as part of the acquisition of CD Titles. In 1996, the former
shareholders of CD Titles returned 46,000 of the pledged shares, which
represents the unused portion. The Company has retired the returned shares.
Dynamem, Inc.
On September 28, 1995, Dynaco Corp. ("Dynaco") formed Dynamem Corporation
("Dynamem") (a Delaware Corporation) and contributed $8,000 for a majority (80%)
ownership in this subsidiary. The remaining 20% ownership is owned by the
president of Dynamem (the "Joint Owner"). Dynamem was formed to manufacture and
distribute a patented, high-density memory packaging technology. The Joint Owner
granted Dynamem a non-exclusive license to manufacture, use, sell and sublicense
certain patented FRAMM technology in exchange for certain royalty payments. The
royalities are guaranteed by Dynaco. Dynaco and the Joint Owner also entered
into a stockholders' agreement which grants the Joint Owner the right, upon the
earlier of December 29, 2000, or the termination of his employment with Dynamem,
to require Dynaco to purchase a total of 75% of the securities owned by the
Joint Owner in Dynamem. In addition, if the Company purchases the Joint Owner's
shares, the Joint Owner may elect to receive between 35% and 100% of the
purchase price in the form of common stock of the Company.
Palomar Electronics Corporation
On September 15, 1995, the Company formed Palomar Electronics Corporation
("PEC"), as part of a reorganization to separate the electronics and computer
operations of the Company's business from the medical laser segments of its
business. On September 29, 1995, as part of this reorganization, the Company
contributed all of its outstanding capital stock of Dynaco and Nexar, together
with certain intercompany indebtedness, to PEC in exchange for 4,500,000 shares
of common stock of PEC. On December 21, 1995, PEC issued 10% bridge notes
payable to certain investors for an aggregate consideration of $1,350,000 (see
Note 4). In connection with these notes, PEC issued to the noteholders warrants
to purchase up to 240,000 shares of its common stock. During the year ended
December 31, 1995, the Company started, but did not complete, an initial public
offering of PEC and incurred costs of approximately $438,000. This amount is
included in business development and other financing costs in the accompanying
consolidated statement of operations for the year ended December 31, 1995.
Comtel Electronics, Inc.
During 1996, Dynaco acquired 80.23% ownership Comtel Electronics, Inc.
("Comtel") by converting a $100,000 note receivable into equity of Comtel and
paying $27,500 in cash. Effective December 31, 1996, as part of a
recapitalization of Comtel, Dynaco exchanged $2,200,000 in intercompany
receivables due from Comtel and used by Comtel to fund its operations for an
additional 11.98% ownership in Comtel. This transaction resulted in Dynaco
owning 97.3% of Comtel. The remaining 2.7% ownership is held by two individuals.
The acquisition has been accounted for as a purchase in accordance with APB No.
16. Accordingly, the Company has allocated the purchase price based on the fair
market value of assets acquired and liabilities assumed. The results of Comtel
have been included with those of the Company since March 20, 1996.
<PAGE>
F-15
Pro Forma Information
The results of operations related to Spectrum have been included with those
of the Company since April 5, 1995.
The results of operations related to CD Titles, Inc./CDRP have been
included with those of the Company since July 31, 1995.
The results of operations related to Comtel have been included with those
of the Company since March 20, 1996.
The results of operations related to Dermascan have been included with
those of the Company since July 18, 1996
<PAGE>
F-16
Unaudited pro forma operating results for the Company, assuming the
acquisitions of Spectrum and Comtel had been made as of January 1, 1995, are as
follows (operations of CD Titles and Dermascan prior to acquisition were
insignificant):
Year Ended
1995 1996
Revenue $31,051,600 $70,483,048
Net loss (16,827,709) (37,901,990)
Net loss per common share $(1.20) $(1.49)
Separate and combined results of the Company and Tissue Technologies
preceding the merger were as follows:
Tissue Palomar Combined
Four Months Ended May 3, 1996
(unaudited)
Net Revenues $3,093,804 $10,255,380 $13,349,184
Net Loss $(1,731,775) $(8,259,386) $ (9,991,161)
Year Ended December 31, 1995
Net Revenues $114,425 $21,792,079 $21,906,504
Net Loss $(1,969,793) $(10,650,975) $(12,620,768)
<PAGE>
48
PART IV
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(A) EXHIBITS
The following exhibits required to be filed herewith are incorporated by
reference to the filings previously made by the Company where so indicated
below.
Exhibit
No. Title
###10.47 List of exhibits omitted from the Asset Purchase and Settlement
Agreement. (The Company hereby undertakes and agrees to furnish copies
of the exhibits and schedules set forth in exhibit 10.47 above to the
Commission upon its request.)
23 Consent of Arthur Andersen LLP.
### Previously filed as an exhibit to the Company's Annual Report on
Form 10-KSB for the year ended December 31, 1996, and incorporated
herein by reference.
(B) Reports on Form 8-K
None
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Act of 1934, the Registrant
certifies that it has caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized, in the Town of Beverly in the
Commonwealth of Massachusetts on May 28, 1997.
PALOMAR MEDICAL TECHNOLOGIES, INC.
By: /s/ Louis P. Valente
------------------------------
Louis P. Valente
President and
Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1934, this Report has
been signed by the following persons on behalf of the Registrant in the
capacities and on the dates indicated.
<TABLE>
<C> <C> <C>
Name Capacity Date
/s/ Louis P. Valente President, Chief Executive May 28, 1997
---------------------------------
Louis P. Valente Officer and Director
/s/ Joseph P. Caruso Chief Financial Officer and Treasurer May 28, 1997
---------------------------------
Joseph P. Caruso ( Principal Financial Officer and
Principal Accounting Officer)
/s/ Dr. Michael H. Smotrich Chief Technical Officer, May 28, 1997
---------------------------------
Dr. Michael H. Smotrich and Director
/s/ Steven Georgiev Chairman of the Board May 28, 1997
---------------------------------
Steven Georgiev
/s/ Buster C. Glosson Director May 28, 1997
---------------------------------
Buster C. Glosson
/s/ John M. Deutch Director May 28, 1997
---------------------------------
John M. Deutch
</TABLE>
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation of our
report included in this Form 10-KSB, into the Company's previously filed
Registration Statements, File Numbers 33-47479, 33-879650, 33-96436, 33-97760,
33-99792, 33-99794, 333-000140, 333-001070, 333-3424, 333-5781, 333-7097,
333-10681, 333-18003, 333-21095, 333-22725, 333-87908, 33-97710 and 333-18347.
Arthur Andersen LLP
Boston, Massachusetts
May 23, 1997