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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
/X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 FOR THE FISCAL YEAR ENDED MARCH 29, 1996 OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OF 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO .
COMMISSION FILE NUMBER: 000-20198
CHOLESTECH CORPORATION
(Exact name of registrant as specified in its charter)
CALIFORNIA 94-3065493
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
3347 INVESTMENT BLVD., HAYWARD, CALIFORNIA 94545
(Address of principal executive office) (zip code)
Registrant's telephone number, including area code: (510) 732-7200
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
- ------------------------- -------------------------
None None
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
Common Stock, no par value
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes _X_ No ____
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. /X/
The aggregate market value of the voting stock held by non-affiliates of the
registrant, based upon the closing sale price of the Common Stock on March 31,
1996 as reported on the Nasdaq National Market, was approximately $59,850,488.
Shares of Common Stock held by each officer and director and by each person who
owns 5% or more of the outstanding Common Stock have been excluded in that such
persons may be deemed to be affiliates. This determination of affiliate status
is not necessarily a conclusive determination for other purposes.
As of March 31, 1996, registrant had outstanding 8,131,824 shares of Common
Stock.
DOCUMENTS INCORPORATED BY REFERENCE
The Registrant has incorporated by reference into Part III of this Form 10-K
portions of its Proxy Statement for the Annual Meeting of Shareholders to be
held August 22, 1996.
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PART I
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
CERTAIN STATEMENTS IN THIS REPORT CONSTITUTE "FORWARD-LOOKING STATEMENTS"
WITHIN THE MEANING OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 (THE
"REFORM ACT"). SUCH FORWARD-LOOKING STATEMENTS INVOLVE KNOWN AND UNKNOWN RISKS,
UNCERTAINTIES AND OTHER FACTORS WHICH MAY CAUSE THE ACTUAL RESULTS, PERFORMANCE
OR ACHIEVEMENTS OF THE COMPANY, OR INDUSTRY RESULTS, TO BE MATERIALLY DIFFERENT
FROM ANY FUTURE RESULTS, PERFORMANCE OR ACHIEVEMENTS EXPRESSED OR IMPLIED BY
SUCH FORWARD-LOOKING STATEMENTS. SUCH FACTORS INCLUDE, AMONG OTHER THINGS, THE
FOLLOWING: THE COMPANY'S HISTORY OF LOSSES AND UNCERTAINTY OF PROFITABILITY; THE
UNCERTAINTY OF MARKET ACCEPTANCE OF THE L-D-X SYSTEM; THE COMPANY'S DEPENDENCE
ON DEVELOPMENT AND INTRODUCTION OF NEW PRODUCTS; THE COMPANY'S LIMITED SALES,
MARKETING AND DISTRIBUTION EXPERIENCE AND DEPENDENCE ON DISTRIBUTORS; THE RISKS
ASSOCIATED WITH CASSETTE MANUFACTURING; THE COMPANY'S HIGHLY COMPETITIVE
INDUSTRY AND RAPID TECHNOLOGICAL CHANGE WITHIN THE COMPANY'S INDUSTRY; THE
UNCERTAINTY OF PATENT AND PROPRIETARY TECHNOLOGY PROTECTION AND RELIANCE ON
TECHNOLOGY LICENSED FROM THIRD PARTIES; CHANGES IN, OR FAILURE TO COMPLY WITH,
GOVERNMENT REGULATION; THE UNCERTAINTY OF THIRD PARTY REIMBURSEMENT FOR
PROCEDURES PERFORMED USING THE COMPANY'S PRODUCTS; THE POTENTIAL FLUCTUATIONS IN
THE COMPANY'S QUARTERLY RESULTS; THE COMPANY'S DEPENDENCE ON RETENTION AND
ATTRACTION OF KEY EMPLOYEES; GENERAL ECONOMIC AND BUSINESS CONDITIONS; AND OTHER
FACTORS REFERENCED IN THIS REPORT.
Cholestech and L-D-X are registered trademarks of Cholestech Corporation.
This Report also includes trademarks of companies other than Cholestech
Corporation.
ITEM 1. BUSINESS
GENERAL
Cholestech Corporation ("Cholestech" or the "Company") develops,
manufactures and markets a proprietary point of care diagnostic system (the
"L-D-X System") which measures specific analytes to detect various diseases and
disorders within five minutes using a single drop of whole blood. The Company
currently markets its L-D-X System and a series of lipid and glucose panels for
preventive screening and monitoring applications. In January 1996, the L-D-X
System and the Company's total cholesterol ("TC"), high density lipoproteins
("HDL"), triglycerides and glucose tests were granted waived status under the
Clinical Laboratory Improvement Amendments of 1988 ("CLIA"), the first such
waiver granted under CLIA's newly-developed ease of use, accuracy and precision
guidelines. The CLIA waiver allows health care providers to use the L-D-X System
without the additional operating costs and extensive regulatory requirements
associated with CLIA compliance. The Company believes that the L-D-X System is
the only multi-analyte diagnostic system to be classified as waived under CLIA.
The Company believes that the L-D-X System's CLIA waived status, technological
flexibility, ease of use, accuracy and low maintenance costs provide it with
competitive advantages over other point of care diagnostic systems.
MARKET OVERVIEW
Diagnostic testing of blood for chronic diseases and disorders is typically
performed in independent clinical laboratories or hospital-based laboratories
where large numbers of blood samples are processed in batches and test results
are often not returned to physicians in less than 24 hours. The Company believes
that as a result of the potential benefits and advantages of point of care
testing, there exists an opportunity to shift certain types of diagnositc
testing from clinical laboratories and hospital-based laboratories to the point
of care. These potential benefits and advantages include permitting the health
care practitioner to provide immediate feedback to the patient as well as
allowing health care practitioners to closely monitor the therapeutic
effectiveness of treatment and thereby improve patient compliance. The Company
also believes that point of care testing could help to reduce overall delivery
costs and could improve patient outcomes by providing diagnosis as close to
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the patient as possible, thereby eliminating the need for additional patient
follow-up with test results and redundant and time consuming procedures and
processes, reducing paperwork and minimizing the time to medical intervention.
Two of the principal markets in which point of care testing is performed are
the screening and monitoring markets. The screening market is generally
comprised of hospitals, corporate wellness programs, health promotion service
providers, managed care organizations, community health centers, public health
programs, fitness centers, the military and other independent screeners. These
health care providers focus on identifying patients who may be at risk for
certain diseases or disorders and directing them to appropriate therapeutic or
preventive care programs. The monitoring market is generally comprised of
physician office laboratories ("POLs"), lipid clinics, cardiac rehabilitation
centers and pharmacies. These health care providers focus on disease management
and perform testing to monitor (i) patients who are identified as at risk for
certain diseases, (ii) patients on dietary or drug therapy, and (iii) patients
at risk of, or who have suffered, heart attacks or who are in cardiac
rehabilitation. The Company believes that the number of potential point of care
testing sites is large. For example, the National Cholesterol Education Program
("NCEP") and American Heart Association have encouraged cholesterol testing in
such places as worksites, community health centers and a variety of preventive
medicine programs in order to make such testing readily available. Until
recently, point of care testing has been conducted predominately in the high
volume screening and monitoring settings. Point of care testing in the
monitoring market has been embraced by low volume POLs only on a limited basis
due to the costs and administrative burdens associated with government
regulatory requirements. In addition, technological limitations have restricted
the number of tests which can be performed cost effectively at the point of
care.
Historically, the Federal Clinical Laboratory Improvement Amendments of 1967
applied only to clinical and hospital-based laboratories, and physicians were
able to perform any laboratory testing that they believed was appropriate for
their patients. The POL market grew as a result of the development of easy to
use laboratory testing equipment and the economic incentives for physicians to
perform such testing in their own offices. In 1988, the regulatory environment
in the POL market changed with the promulgation of CLIA which applies to all
laboratories, including POLs, which perform testing on human specimens. Under
CLIA, all laboratories are required to register with the Health Care Financing
Administration ("HCFA"), but laboratories conducting non-waived tests must pay
higher registration fees and submit to biannual federal inspections.
Laboratories conducting non-waived tests are also required to implement a
comprehensive quality assurance program, which includes a detailed procedure
manual, enrollment in a proficiency testing program and a requirement to run two
levels of quality control material each day of testing, even if only one patient
sample is run. Moreover, CLIA regulations include personnel requirements that
vary depending on the complexity of tests performed. See "-- Government
Regulation." Since POL testing is often done in low volumes and CLIA
requirements can significantly increase the costs of testing, performing
non-waived tests in a POL setting, particularly in low volume POLs, is often not
cost effective. When CLIA regulations went into effect in 1992, many physicians
discontinued all but waived testing. Clinical and hospital-based laboratories,
however, have continued to perform such testing and as a result currently
dominate this market.
SCREENING MARKET
In the screening market, health care providers perform high volume
preventive risk factor screening, particularly for cholesterol and glucose.
Although not subject to reimbursement by Medicare or other third party payors,
risk factor screening has proven to be an effective way to decrease the overall
cost of medical care. Hospitals and health departments offer health screening in
local communities. Many corporations offer periodic cholesterol screenings to
their employees at the worksite as part of worksite health promotion programs.
Of those companies providing cholesterol screenings, approximately 30% also
measure glucose. Worksite health promotion is advocated by government agencies
such as the National Heart, Lung and Blood Institute and the Centers for Disease
Control
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and Prevention ("CDC"). In addition, private organizations promote worksite
health promotion with a variety of programs such as the American Heart
Association's "Heart at Work" Program and the YMCA's "Corporate Health
Enhancement Program," which serves more than 2,000 worksites nationally. The
Public Health Service has set goals for the number of worksites offering
cholesterol education and testing to be increased from 16% in 1983 to 50% by the
year 2000. Due to the high volume of testing performed by health care providers
in the screening market, the adoption of CLIA and its resulting cost increases
and administrative burdens did not have a significant negative impact on testing
in the screening market. Since CLIA went into effect in 1992, the Company has
focused its sales and marketing efforts on the distribution of its products into
the various segments of the screening market.
MONITORING MARKET
Since the Company received notice from the CDC in January 1996 that the
L-D-X System and the TC, HDL, triglycerides and glucose tests in any combination
have been classified as waived under CLIA, the Company has expanded its sales
and marketing focus to include the monitoring market, in particular the POL and
pharmacy segments. There are currently 54,000 POLs which perform different types
of diagnostic tests. The Company currently offers four of the eight most common
blood chemistry tests performed at POLs, with two additional tests under
development. In addition, there are currently 68,000 pharmacies which could
potentially offer point of care testing. The Company believes that long term
success in the pharmacy market will be dependent upon the development of patient
monitoring programs developed by pharmacies and implemented with managed care
practitioners and physicians on a local basis.
STRATEGY
The Company's business strategy includes the following elements:
- LEVERAGE CORE TECHNOLOGIES TO ENHANCE PRODUCT OFFERINGS. The Company
intends to leverage the technological flexibility of the L-D-X System by
developing new test cassettes which utilize the existing L-D-X Analyzer in
order to capitalize on the Company's installed based of instruments as
well as to make the L-D-X System more attractive to new customers. The
Company is currently in various stages of development of new products
which utilize biological markers for screening and monitoring certain
common diseases, such as metabolic bone diseases and disorders, prostate
cancer and diabetes. In addition, the Company is developing new tests for
blood urea nitrogen, uric acid and creatinine for renal function analysis
and liver enzymes for hepatic damage. There can be no assurance that the
Company will be able to successfully complete the development,
introduction and scale up of manufacturing of any of these future products
or that any such tests will achieve a significant level of market
acceptance. See "-- Products -- Products Under Development" and "--
Manufacturing."
- INCREASE PENETRATION OF SCREENING MARKET AND EXPAND INTO MONITORING
MARKET. The Company believes that the CLIA waived status of its products
will increase the number of potential customers in the screening market,
and will enable the Company to access the monitoring market. The Company
is currently developing new products to make its product line more
attractive to the POL market as well as to expand its screening market
offerings.
- EXPAND DISTRIBUTION CHANNELS. The Company intends to augment its direct
sales and marketing efforts by continuing to establish relationships with
selected third party distributors to strategically access target markets.
The Company has recently entered into a distribution agreement with
Physician Sales and Services, Inc. ("PSS"), one of the largest medical
products distributors in the United States, to sell the L-D-X System to
the POL market.
- ESTABLISH STRATEGIC RELATIONSHIPS. The Company has established and intends
to continue to establish strategic relationships to develop new products
and to expand its customer base. The Company believes that such
relationships will enable it to take advantage of the financial
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resources, technological capabilities and market presence of its partners
to enhance its competitive position in the screening market and expand
into the monitoring market. In May 1996, the Company entered into a
development, marketing and licensing agreement with Metra Biosystems, Inc.
("Metra Biosystems") to develop an immunoassay test cassette incorporating
Metra Biosystems' bone resorption technology to be used with the L-D-X
System. The Company is also participating in a pilot program with the
American Pharmaceutical Association funded by Merck & Co. ("Merck") to
demonstrate the ability of pharmacists to improve patient outcomes with
drug therapy and behavior modification.
TECHNOLOGY
The L-D-X System is a self-contained, easy to use package of products
consisting of a versatile, telephone-sized electronic analyzer, a line of
disposable test cassettes, and accessories that enable a user to perform
combinations of blood tests in five minutes or less. Although no special user
training is needed and the test sample does not need to be pre-treated, the
Cholestech L-D-X System produces results that are comparable to the precision
and accuracy typically seen in larger, more expensive bench top and
laboratory-based analyzers. Correlation studies of the L-D-X System and clinical
laboratory analyzers have shown that the L-D-X System meets NCEP guidelines for
precision and accuracy. In addition, the ease of use and precision and accuracy
of the L-D-X System were factors necessary for the L-D-X System to receive
waived status under CLIA. The Company believes that it is the only manufacturer
with a CLIA waived multi-analyte diagnostic system.
The Company believes the L-D-X System provides the following benefits and
advantages:
- FLEXIBILITY OF L-D-X SYSTEM. The design of the L-D-X System incorporates
as much of the system's technology as possible into the test cassettes and
maintains the L-D-X Analyzer as a flexible measuring device that can be
adapted as new tests and other product upgrades are introduced. As new
tests are marketed, encoding on the cassette's magnetic stripe
communicates the product change to the L-D-X Analyzer and provides the
L-D-X Analyzer the information needed to measure and display the test
results. Changes that cannot be captured on the cassette's magnetic stripe
can be accomplished by software changes in the L-D-X Analyzer's removable
read only memory ("ROM") pack. This flexible design is intended to permit
the installed base of users to incorporate new tests and other product
upgrades to the L-D-X System without having to purchase a new analyzer.
- COST EFFECTIVENESS. The Company believes that point of care specimen
analysis made possible by the L-D-X System may provide savings to third
party payors and physicians. Point of care testing allows the health care
practitioner to provide immediate results to the patient, thereby
increasing the possibility for improved patient outcomes and eliminating
the requirement that the patient return to receive test results. In
addition, the Company believes that the L-D-X System's waived status under
CLIA, together with prevailing third party reimbursement rates and
recommended fees, may provide a financial incentive for many health care
providers to test patients at the point of care and capture revenue rather
than forwarding it to the clinical laboratory.
- IMMEDIATE RESULTS. The L-D-X System provides the health care practitioner
with results in approximately five minutes, allowing for immediate point
of care risk factor analysis, diagnosis and monitoring. The immediacy of
the test results allows the practitioner to begin treatment during the
same visit, perform additional tests if needed or select an alternative
treatment. The L-D-X System's ability to provide immediate test results
also improves the usefulness of screening applications, such as worksite
testing programs.
- SIMULTANEOUS PERFORMANCE OF MULTIPLE TESTS. With the L-D-X System, a
single cassette can perform up to four tests simultaneously, enabling the
Company to develop test cassettes that meet specific market needs. In the
monitoring market, the performance of multiple tests with a single
cassette may also result in more reimbursement revenue for the physician.
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- EASE OF USE. The L-D-X System requires no special medical or chemistry
training to operate and obtain test results. In addition, the L-D-X System
eliminates the need to pre-treat the testing sample.
- FEWER OPPORTUNITIES FOR ERROR. The L-D-X System eliminates many of the
steps traditionally involved in blood testing, including sample
transportation, preparation and storage, and interpretation of analyte
color reactions, thereby reducing opportunities for human error and
preserving the integrity of the sample.
L-D-X ANALYZER
The L-D-X Analyzer is a four-channel, reflectance photometer that measures
the amount of light reflected from the reaction surfaces and incorporates a
microprocessor with on board software. The L-D-X Analyzer contains an entry
drawer for insertion of the cassette, three buttons for user activation and a
liquid crystal display to present the test measurements. The L-D-X Analyzer can
also transmit results to a printer or laboratory management computer system for
data handling and record keeping. The L-D-X Analyzer includes cardiac risk
assessment software that allows the health care practitioner to perform cardiac
risk assessment using TC and HDL test results and information about other
cardiac risk factors the health care practitioner enters into the L-D-X
Analyzer.
To run a test, the health care provider presses the "run" button on the
L-D-X Analyzer to open the cassette drawer, applies the sample of whole blood
directly to the test cassette's sample well, inserts the cassette onto the
drawer and presses the run button again. All further steps are done by the L-D-X
Analyzer. Utilizing the information and instructions encoded on the cassette's
magnetic stripe, the L-D-X Analyzer's on board microprocessor controls the
reaction conditions, controls the optical measurements of analyte concentrations
on the cassette's reaction pads, executes the required calculations and, within
approximately five minutes, displays the quantitative results on the liquid
crystal display.
The ROM software that instructs and controls the operation of the L-D-X
Analyzer's on board microprocessor is contained in a removable ROM pack mounted
in an access well on the bottom of the L-D-X Analyzer. The Company intends to
upgrade the software in its ROM pack as the Company develops new products. A
user can then easily remove the ROM pack and replace it with a new ROM pack
containing upgraded software. To date, the Company has made available to
existing users a new ROM pack, without charge, containing the cardiac risk
assessment software described above, as well as a new ROM pack, for a fee,
reflecting certain changes required to receive the CLIA waiver.
DISPOSABLE TEST CASSETTES
The focal point of the L-D-X System is the line of disposable test cassettes
which incorporate patented technology, including a method for distributing
precisely measured plasma to multiple reaction pads for simultaneous testing
along with the technology to instruct the L-D-X Analyzer how to perform the
tests and all related calculations.
Each cassette consists of three parts: a main body that contains the sample
well into which the blood sample is dispensed, a reaction bar where plasma is
transferred for analysis, and a magnetic stripe encoded with test instructions
and lot specific calibration information for the various chemistries on the
reaction pads. Capillary action draws a drop of whole blood through a separation
medium within a cassette, stopping the cellular components of the blood while
transferring a small volume of plasma to the cassette's reaction pads. When the
plasma contacts the reaction pads, the dry chemistry on the reaction pads reacts
with the analyte(s) in the plasma producing color. The intensity of color
developed is proportional to the concentration of the analyte(s) in the plasma.
The magnetic stripe contains information needed by the L-D-X Analyzer to convert
the reflected color reading into a concentration level for the accurate
measurement of analytes being tested. This feature frees the user from having to
interpret any color reaction, relate a reading to a separate chart or input any
calibration information.
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For certain future tests, the Company will be required to modify the design
of the existing dry chemistry cassette. For example, the Company's immunoassay
tests currently under development require the use of antibodies bound to the
reaction membrane and a wash step which removes bound reactants that would
interfere with the test. The new immunoassay cassette under development has the
same external dimensions as the currently available dry chemistry cassette, but
will require the Company to develop new technologies that would allow it to
perform an immunoassay test, of which there can be no assurance. The Company
believes that, if the immunoassay cassette is successfully developed, the L-D-X
Analyzer will be the only instrument capable of performing both dry chemistry
and immunoassay-based tests on a single instrument. See "-- Products -- Products
Under Development."
PRODUCTS
The Company's current products include the L-D-X Analyzer and a series of
lipid and glucose test cassettes for the screening and monitoring markets. In
addition, the Company is in the process of developing new tests to expand its
product menu, including immunoassay-based test cassettes to provide preventive
monitoring assays for the detection of metabolic bone diseases and disorders and
prostate cancer. The following table summarizes the Company's current cassette
products and products under development:
<TABLE>
<CAPTION>
L-D-X TEST APPLICATION TEST TYPE STATUS (1)
- ----------------------- ----------------------- ------------ -----------------------
CURRENT PRODUCTS
<S> <C> <C> <C>
TC Cardiac Risk Dry Marketed; FDA cleared;
Chemistry CLIA waived
TC and HDL Cardiac Risk Dry Marketed; FDA cleared;
Chemistry CLIA waived
Lipid Profile (TC/HDL/ Cardiac Risk Dry Marketed; FDA cleared;
Triglycerides) Chemistry CLIA waived
TC and Glucose Cardiac & Diabetes Risk Dry Marketed; FDA cleared;
Chemistry CLIA waived
TC/HDL/Glucose Cardiac & Diabetes Risk Dry Marketed; FDA cleared;
Chemistry CLIA waived
Lipid Profile plus Cardiac & Diabetes Risk Dry Marketed; FDA cleared;
Glucose Chemistry CLIA waived
<CAPTION>
PRODUCTS UNDER
DEVELOPMENT
<S> <C> <C> <C>
Bone Markers Osteoporosis Immunoassay Prototype Stage
Uric Acid Renal Function Dry Feasibility Studies
Chemistry
Blood Urea Nitrogen Renal Function Dry Feasibility Studies
Chemistry
Creatinine Renal Function Dry Feasibility Studies
Chemistry
Prostate Specific Prostate Disease Immunoassay Feasibility Studies
Antigen
Glycated Hemoglobin Diabetes Specific Feasibility Studies
Binding
</TABLE>
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(1) "Marketed" means that commercial sales of the product have commenced. "FDA
cleared" means that the product has received 510(k) clearance from the
FDA. "CLIA waived" means that the product has been classified as waived
under CLIA by the CDC. "Feasibility studies" means that a theoretical
design for the product has been developed and the test chemistry is being
evaluated in the laboratory. "Prototype stage" means cassette shelf-life
is being evaluated, pilot manufacturing equipment is being developed, and
the new test is being evaluated in-house against samples designed to mimic
the range of real patient samples.
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CURRENT PRODUCTS
The Company's current products are designed to measure and monitor blood
cholesterol and related lipids and glucose. Lipids travel in the blood within
water-soluble particles called lipoproteins. These lipid carriers include VLDL
(very-low-density lipoproteins), LDL (low-density lipoproteins) and HDL (high
density lipoproteins). VLDL, a major carrier of triglycerides in the blood, and
LDL, the major carrier of cholesterol, have been shown to be associated with
deposits on the arterial wall, which are sometimes referred to as
atherosclerotic plaque. The accumulation of this plaque leads to a narrowing of
the arteries and increases the likelihood of coronary heart disease, the leading
cause of death in the United States. HDL particles, which circulate in the blood
and can pick up cholesterol from arteries and carry it to the liver for
elimination from the body, counterbalance this mechanism. HDL is sometimes
called "good cholesterol" because of this function. The development of coronary
heart disease has been associated with three lipoprotein abnormalities: (i) high
levels of LDL; (ii) high levels of VLDL; and (iii) low levels of HDL.
Recognizing the relationship between diabetes and dyslipidemia (abnormal
lipid levels), Cholestech developed a glucose test for the L-D-X System.
Diabetes is a complex disorder of carbohydrate, fat and protein metabolism. It
is manifested by a relative or absolute deficiency in insulin, the hormone that
facilitates and controls the use of glucose by the body. Because of the
deficiency of insulin, diabetic patients have an impaired tolerance to glucose,
which leads to a number of short term and long term complications, such as nerve
damage, kidney disease and retinal damage.
The Company's L-D-X System includes the L-D-X Analyzer which measures
analyte concentrations on the test cassette and displays the quantitative
results. The L-D-X Analyzer currently has a list price of $1,795. A description
of the Company's test cassettes is provided below.
TC. A stand alone test for measuring total cholesterol. The TC test
currently has a list price of $2.95.
TC AND HDL PANEL. The total cholesterol and HDL cholesterol panel provides
results for TC and HDL and calculates the ratio of TC to HDL, a recognized
measure of lipid-induced cardiac risk. The Company believes that the TC and HDL
Panel is the only currently available point of care test which, using only a
single drop of whole blood from a simple fingerstick, addresses the National
Institutes of Health ("NIH") guidelines regarding the evaluation of coronary
heart disease through the testing of not only TC, but also the important HDL
component. As a result, the Company believes the TC and HDL Panel is
particularly useful in corporate wellness and initial screening applications.
The TC and HDL Panel currently has a list price of $7.50.
LIPID PROFILE. The Company offers a Lipid Profile which directly measures
TC, HDL and triglycerides. In addition to providing direct results for TC, HDL
and triglycerides, the Lipid Profile calculates estimated values for LDL and
VLDL and calculates the ratio of TC to HDL. The Lipid Profile thus performs,
using a small sample of whole blood from a simple fingerstick, each test
identified by the NIH guidelines as important in the diagnosis and ongoing
monitoring of individuals who have high TC levels or who exhibit two or more
other coronary heart disease risk factors. The Lipid Profile also allows the
health care practitioner to follow the NIH guidelines to perform three lipid
profiles, each one week apart, prior to initiating drug or dietary therapy. The
Lipid Profile currently has a list price of $9.95.
TC AND GLUCOSE PANEL, TC/HDL/GLUCOSE PANEL AND LIPID PROFILE PLUS
GLUCOSE. These panels address the need for screening and monitoring patients
with demonstrated or incipient diabetes mellitus and individuals who may be at
risk of cardiovascular disease and individuals who may not be aware that they
are diabetic. These test combinations are potentially desirable because glucose
and TC tests are frequently conducted at occupational health sites. The TC and
Glucose Panel, the TC/HDL/Glucose Panel and the Lipid Profile plus Glucose have
a list price of $3.95, $8.50 and $10.95, respectively.
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MARKETS. In response to conclusive evidence relating high TC to heart
disease, the NIH in 1985 launched the NCEP, a nationwide effort to reduce the
prevalence of high blood cholesterol. In 1988, the NCEP issued guidelines for
the testing of all adults over 20 years of age for high blood cholesterol, and
more extensive lipid monitoring and treatment for those found to be in high risk
categories. Testing guidelines were subsequently expanded to include children
over the age of two with a family history of high blood cholesterol or coronary
heart disease and to include in certain circumstances a lipid profile,
consisting of TC, HDL, LDL and triglycerides. Since the NCEP initiated its
recommendations, the market for cholesterol and other lipid tests has
experienced significant growth. NCEP data indicate that more than 50% of the
adult population in the United States has high or borderline high TC.
It is estimated that Type II diabetes, which involves insulin deficiency or
insulin resistance, afflicts more than 14 million persons in the United States,
but only half of those with Type II diabetes have been identified. Screening for
these patients who have non-symptomatic diabetes is important, because proper
treatment will minimize the long term complications of the disease.
In order for the Company to increase revenues and achieve profitability and
positive cash flows from operations, the L-D-X System must achieve a significant
degree of market acceptance among health care providers in the monitoring
market, particularly POLs. The substantial majority of diagnostic tests used by
physicians and other health care providers are performed by independent clinical
laboratories and hospital-based laboratories. Physicians and other health care
providers will not use the L-D-X System unless they determine that it is an
attractive alternative to other means of screening or monitoring blood detected
diseases, particularly independent clinical laboratories and hospital-based
laboratories, and that the clinical benefits to the patient and cost savings
achieved through use of the L-D-X System outweigh the cost of the system. Such
determination will depend, in part, upon the L-D-X System's accuracy, ease of
use, rapid test time, reliability, cost effectiveness, portability and level of
third party reimbursement. Even if the advantages of the L-D-X System in
diagnosing and monitoring patients with blood detected diseases are established
as clinically significant, physicians, medical clinics, pharmacists and other
health care providers may elect not to purchase and use the L-D-X System for any
number of other reasons. For example, physicians and other health care providers
may not change their established means of having such tests performed, may not
make the necessary investment to purchase the Company's products or may not be
able to obtain adequate reimbursement from third party payors for tests
performed using the L-D-X System. In addition, the growing prevalence of managed
care and health maintenance organizations may adversely affect the POL market. A
growing number of physicians are salaried employees and have no financial
incentive to perform testing. Many HMO and managed care organizations have
contracts with laboratories which require participating or employed physicians
to send patient specimens to contracted laboratories. Finally, physicians are
under growing pressure by Medicare and private insurers to limit their testing
to "medically necessary" tests. As a result of these and other factors, there
can be no assurance that demand for the L-D-X System, particularly in the
monitoring market, will be sufficient to allow for profitable operations.
PRODUCTS UNDER DEVELOPMENT
The Company's strategy is to use the technological flexibility of the L-D-X
System to develop new cassettes that address disease states and testing markets
the Company believes provide attractive commercial opportunities. The Company is
in the early stages of developing new cassettes that would expand its product
line in the screening market and would better position its product line for the
POL market. To date, the Company has been engaged primarily in conducting
research and development to determine the feasibility of performing these new
tests on the L-D-X System. The Company will initially focus its available
resources on the development of uric acid, blood urea nitrogen, creatinine and
liver enzyme tests, as well as the immunoassay-based test to detect and monitor
metabolic bone diseases and disorders being developed in conjunction with Metra
Biosystems. The Company will undertake the development of additional tests
depending on the progress of its existing development efforts and its available
resources. To complete its product development programs, particularly with
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respect to the immunoassays, the Company may be required to develop new core
technologies, processes and production equipment. In addition, the Company may
also be required to retain additional scientific, engineering and manufacturing
staff. There can be no assurance that the Company will be successful in
developing any of the tests described below, or even if successfully developed,
that such tests will receive regulatory clearance, be capable of being cost
effectively manufactured in sufficient quantities, on a timely basis and in
compliance with regulatory guidelines, or be successfully marketed. The Company
intends to design and develop most of these products so as to be eligible for
FDA 510(k) clearance and waivers under CLIA (See "-- Government Regulation"),
although there can be no assurance that the Company's products under development
will obtain such clearances or waivers.
Products currently being developed by the Company are described below.
METABOLIC BONE DISEASES AND DISORDERS. Osteoporosis is the most widespread
form of bone disease characterized by a general loss of bone density. This loss
of bone density can lead to a weakening of the bone, thereby making the bone
more prone to fractures. Biological markers of bone metabolism are secreted in
urine, and it has been shown that the level of secretion correlates to the
amount of bone loss. The measured levels of these markers has also been shown to
be responsive to osteoporosis therapies such as hormone replacement. According
to the National Osteoporosis Foundation, this disease afflicts over 25 million
Americans and over 200 million people worldwide. In the United States,
approximately 1.5 million osteoporosis related fractures occur each year. For
Caucasian women, it is estimated that the risk of hip fractures approximates the
combined risks of breast, endometrial and ovarian cancers. The World Health
Organization estimates that the cost of osteoporosis related fractures in the
United States exceeds $7 billion annually.
The Company has entered into an agreement with Metra Biosystems to develop
and market Metra Biosystems' Pyrilinks-D and other related bone marker
technologies on the L-D-X System. The Company has successfully demonstrated the
feasibility of meeting the initial specifications for the Company's technology
for this urine-based immunoassay test on the L-D-X System and is in the
prototype stage of development. See "-- Strategic Relationships."
RENAL FUNCTION TESTS. The Company is developing a menu expansion of tests
to include tests for uric acid, blood urea nitrogen and creatinine for the POL.
The Company believes that these tests are among the most commonly ordered tests
in physician offices. Uric acid elevations occur in renal diseases as well as
gout, and low uric acid levels are sometimes associated with diabetes and severe
liver disease. Blood urea nitrogen elevations occur in chronic renal disease as
well as urinary tract obstruction. Blood urea nitrogen is useful to monitor
hemodialysis and other therapies. Creatinine is also a measure of renal function
and is used in combination with uric acid and blood urea nitrogen tests. In
addition, creatinine is used as a measure of renal blood flow which may have
become reduced due to congestive heart failure or dehydration. Low levels of
creatinine may result from decreased hepatic production in advanced liver
disease. The Company is currently conducting feasibility studies for each of
these tests.
PROSTATE SPECIFIC ANTIGEN (PSA). The American Cancer Society estimates that
in 1996, 317,000 Americans will be diagnosed with prostate cancer and predicts
that deaths from prostate cancer in the United States will reach over 41,000
making it the second leading cause of cancer related deaths. The American Cancer
Society recommends that men 50 and older receive a PSA blood test annually. By
making early detection possible, treatment can begin when there is a higher
likelihood of success, leading to better survival rates from the disease. The
Company has demonstrated the feasibility of measuring PSA from a single drop of
whole blood using the Company's technology. The Company expects that the PSA
test may require pre-market approval ("PMA") from the FDA. See "-- Government
Regulation."
GLYCATED HEMOGLOBIN. Glycated hemoglobin measurement is used by physicians
to assess a diabetic's long term compliance with prescribed diet and insulin
usage. This test measures the percent of the patient's hemoglobin which has
become coupled to glucose. A relatively high percentage of
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hemoglobin to glucose indicates poor patient compliance, which can lead to
severe health problems. The American Diabetes Association ("ADA") recommends at
least semi-annual measurement for all diabetic patients. It is estimated that
there are seven to eight million diagnosed diabetics in the United States.
The Company has been notified by the U.S. Department of Health and Human
Services that it will receive a "Small Business Innovative Research" grant of
$100,000 to further develop this test on the L-D-X System. The Company is
currently evaluating the feasibility of a test to detect glycated hemoglobin on
the L-D-X System.
OTHER PRODUCTS UNDER DEVELOPMENT. The Company currently sells two cassettes
which can calculate LDL cholesterol levels from the combined readings of TC, HDL
and triglycerides. LDL cholesterol is the fraction of TC which leads to heart
disease and is referred to as "bad" cholesterol. There is now available a direct
version of the LDL test, and the Company is considering adapting this form of
the test to the L-D-X System. The advantage of this direct test over the
calculated version of the test is that it does not require the patient to fast
before testing. However, since lipid management requires the physician to assess
a patient treatment on both "good" and "bad" cholesterol, the disadvantage of
the stand alone direct LDL test is the lack of the patient's HDL values. The
Company believes that the L-D-X System may overcome this problem with its
ability to run multiple tests simultaneously on the system.
The Company is currently evaluating the feasibility of a test to detect the
levels of liver enzymes in whole blood. Liver enzymes are measures of hepatic
damage which may be caused by a number of diseases and/or chemical toxicities.
The ability to monitor the levels of liver enzymes is important because a large
number of drugs, including cholesterol lowering drugs, can cause liver damage.
The Company believes that a liver enzyme test would complement its lipid
diagnostic products.
Lp(a) is a lipoprotein which is a component of LDL. It has been established
in the scientific literature that Lp(a) is a risk factor for atherosclerosis,
and it is believed that Lp(a) may be the component of LDL which is responsible
for the risk associated with LDL. The Company believes that a test for Lp(a) may
emerge as the dominate test for cardiac risk in the future. The Company has
licensed the rights to a new technology to measure Lp(a). This technology is
currently being evaluated by the Company and a number of collaborators.
The Company believes that its revenue growth and profitability will depend,
in part, upon its ability to complete development of and successfully introduce
these new tests. In addition, some of these new tests depend on the development
of immunoassay-based technologies and the incorporation of these technologies
into the L-D-X System. The Company will be required to undertake time-consuming
and costly development activities and seek regulatory approval for these new
tests. There can be no assurance that the Company will be able to complete
successful development of any of these future products. Furthermore, there can
be no assurance that even if these products and/or any other future products are
successfully developed, the Company will be able to successfully receive FDA
clearance or approval or CLIA waivers on a timely basis, manufacture such
products on a cost effective basis and in compliance with applicable regulatory
standards, or successfully market these products. If the Company is unable for
technological or other reasons to complete the development, introduction and
scale up of manufacturing of any new tests or if such new tests do not achieve a
significant level of market acceptance, the Company's business, financial
condition and results of operations could be materially adversely affected.
SALES AND MARKETING
To date, the Company has focused its sales and marketing efforts on
hospitals, managed care organizations, large physician group practices,
corporate wellness programs, community health centers, health promotion service
providers and other independent screeners in the screening market. With the
recent CLIA waiver of its existing product line, the Company believes that it
has a significant
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opportunity to access the monitoring market. The Company utilizes a combination
of a direct sales force and regional distributors to sell into the screening
market and is developing a national distribution network to access the
monitoring market.
The Company provides continuing customer support, including an automated
order entry system, and technical support whenever needed to promote customer
satisfaction. A U.S. toll-free number gives the customer immediate access to
Cholestech's in-house customer service and technical support group. Customer
service representatives also assist customers to order cassettes and
accessories. The Company maintains an in-house instrument service capability
that provides repairs to instruments either under warranty or on a parts and
labor basis.
SCREENING MARKET
The Company's distribution strategy for the screening market is to sell both
directly to high volume customers and to selected regional distributors. The
Company believes that its products provide a cost effective, easy to use
alternative for preventive health care programs that are focused on identifying
high risk individuals with possible cardiovascular disease and diabetes and
enrolling them into appropriate disease intervention programs to reduce their
overall health risk.
The Company sells directly through a field sales group which includes nine
regional sales managers. In addition, the Company has established a
telemarketing effort to support large volume customers and utilizes direct mail
campaigns to increase demand for its products. The Company also has entered into
agreements with nine regional distributors that augment the Company's direct
sales efforts.
The Company's international distribution strategy for the screening market
is designed to opportunistically penetrate targeted geographical markets by
selling directly to individual distributors in those areas. The Company has
entered into agreements with several foreign distributors to distribute the
L-D-X System primarily in Europe and Latin America and is negotiating similar
agreements with other distributors in South and Central America.
MONITORING MARKET
The Company's sales and marketing efforts in the monitoring market will
initially be focused on the POL and pharmacy segments. To efficiently access the
54,000 POLs, the Company is negotiating with several national and regional
distributors. As of April 1, 1996, the Company entered into a national,
non-exclusive distribution agreement with PSS, a national medical products
distributor with more than 700 sales professionals who focus on the POL market.
The pharmacy market consists of 68,000 pharmacies which may provide point of
care testing. The Company believes that marketing success in the pharmacy market
will be dependent upon the development of patient monitoring programs
implemented in conjunction with managed care providers and physicians on a local
basis. In January 1996, the American Pharmaceutical Association announced
Project IMPACT (IMprove Persistence And Compliance to Therapy). Project IMPACT
is being funded by Merck, and its goal is to demonstrate the ability of
pharmacists to enhance patient outcomes with drug therapy and behavior
modification. The pilot program enlarges the pharmacist's role to one in which
the pharmacist monitors therapeutic effectiveness of medications and provides
counseling services to the patient. Utilizing pharmacists to provide such
services may result in both direct and indirect cost savings to the patient and
the patient's insurer. The Company is participating in Project IMPACT through
the use of its L-D-X System to monitor patients in this pharmacy-based
cholesterol management project. The Company intends to utilize the program to
evaluate the potential market for the L-D-X System among pharmacists. Project
IMPACT will monitor approximately 900 patients at 32 community-based pharmacies
across the country for a period of two years.
In order for the Company to increase revenues and achieve profitability, the
L-D-X System must achieve a significant degree of market acceptance among health
care providers in the monitoring market, particularly POLs. The Company has only
limited experience marketing and selling to the
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monitoring market in the United States. The Company has only recently entered
into a distribution arrangement with such a national distributor, PSS. The
Company may be required to enter into additional distribution arrangements in
order to achieve broad distribution of its products. There can be no assurance
that the Company will be able to maintain the recently established distribution
relationship with PSS or that the Company will be able to enter into and
maintain arrangements with additional distributors on a timely basis, if at all.
There can be no assurance that the Company will be able to penetrate the
monitoring market, including the POL or pharmacy segments, or that physicians
will use the L-D-X System instead of clinical laboratory services for the same
tests.
In addition, in order to increase sales and market acceptance of the L-D-X
System, the Company will also be required to expand its direct sales force and
marketing organization. Establishing a sales and marketing capability sufficient
to support the level of sales necessary for the Company to attain profitability
will require substantial efforts and significant management and financial
resources. The Company is currently actively recruiting a new executive officer
to replace the Company's former Executive Vice President of Marketing and Sales,
who resigned in April 1996. There can be no assurance that the Company will be
able to recruit and retain direct sales and marketing personnel, in particular a
new executive officer of sales and marketing, in order to build a sales and
marketing organization, that building such a sales and marketing organization
will be cost effective or that the Company's sales and marketing efforts will be
successful.
STRATEGIC RELATIONSHIPS
The Company's strategy includes establishing strategic relationships to
develop new products, expand its customer base, and provide the Company with
technological, clinical, marketing, financial and other key resources.
In May 1996, the Company entered into a development, marketing and licensing
agreement with Metra Biosystems to develop an immunoassay test cassette
incorporating Metra Biosystems' bone resorption technology to be used with the
L-D-X System. Pursuant to the agreement, Metra Biosystems purchased 39,526
shares of the Company's Common Stock for an aggregate purchase price of $250,000
($6.325 per share) and is obligated to purchase $750,000 of additional shares of
Common Stock upon the completion of specified milestones by the Company. The
Company has granted Metra Biosystems registration rights in connection with
Metra Biosystems' purchase of the Company's Common Stock.
In connection with the development of the immunoassay test cassette, Metra
Biosystems granted Cholestech a non-exclusive, royalty-bearing license to use,
make, sell, offer to sell, import or distribute the resulting cassette to assess
bone resorption, a gauge of the effectiveness of treatments of certain metabolic
diseases and disorders and certain future products worldwide (the "Metra
License"). The Company is obligated to pay royalties to Metra Biosystems on the
bone resorption product and on products that stem from work done in the course
of the collaboration but do not incorporate any of Metra Biosystems' proprietary
technology. The parties will negotiate royalties on future Metra Biosystems
products as appropriate. Under the agreement, the Company will market the
immunoassay test through its existing distribution channels in the United
States. The Company and Metra Biosystems will work together to market and
distribute the tests internationally.
There can be no assurance that the Company will be successful in developing
a bone resorption test or any other product under this agreement, that this
agreement will not expire prior to its term, or that even if any products are
developed that they will be successfully marketed. The Company expects to enter
into additional strategic agreements in the future to develop, commercialize and
sell its current and future products. There can be no assurance that the Company
will be able to negotiate acceptable agreements in the future, or that such
relationships will be successful. In addition, there can be no assurance that
the Company's strategic partners will not pursue alternative competing
technologies or products.
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MANUFACTURING
The Company manufactures, tests, performs quality assurance, packages and
ships products at its 30,000 square foot facility located in Hayward,
California. The Company maintains control of those portions of the manufacturing
process that it believes are complex and provide important barriers to entry by
competitors. The production processes employed by the Company to manufacture
cassettes differ significantly from those employed in the manufacture of the
analyzer.
MANUFACTURE OF CASSETTES
The Company purchases chemicals, membranes and other raw materials from
third party suppliers and converts these raw materials, using proprietary
processes, into cassettes. The Company believes its proprietary processes and
custom-designed equipment are important components of its cassette manufacturing
operations. The Company has developed core manufacturing technologies, processes
and production machinery, including (i) membrane lamination and welding; (ii)
discrete membrane impregnation; (iii) on-line calibration; and (iv) software
control of the manufacturing process. The Company is currently in the process of
completing validation of the second cassette manufacturing line and expects the
line to be fully operational in mid-1996. In the event that cassette sales
volume significantly increases, the Company would be required to construct a
third cassette manufacturing line. There can be no assurance that such expansion
of cassette manufacturing capacity can be completed in a timely fashion, if
ever, and the failure to increase cassette manufacturing capacity on a cost
effective and timely basis would have a material adverse effect on the Company's
business, financial condition and results of operations.
Manufacturing of the cassettes is highly complex and sensitive to a wide
variety of factors, including variations and impurities in the raw materials,
performance of the manufacturing equipment and the level of contaminants in the
manufacturing environment. Incoming inspection of raw materials, in-process
controls, improved manufacturing equipment performance, and better operator
proficiency and training all contribute to improvements in yield. Continuous
improvement of process factors are key determinants of manufacturing output and
efficiency, product quality and reliability and overall profitability. Although
the Company believes that it has acceptable cassette yields and should be able
to maintain the current cassette yield in the future, there can be no assurance
that such improvement will be maintained or that the Company will not suffer
future periodic cassette yield problems in connection with new or existing
products. Failure to maintain the improvements in process yield or failure to
obtain acceptable yields on future products could have a material adverse effect
on the Company's business. The Company's cassette manufacturing lines represent
a single point of potential failure in its manufacturing process that would be
costly and time consuming to replace if their operation were interrupted.
Furthermore, the Company has a limited number of employees dedicated to the
operation and maintenance of the cassette manufacturing equipment, the loss of
whom could impact the Company's ability to effectively operate and service such
equipment. The interruption of cassette manufacturing operations or the loss of
employees dedicated to the cassette manufacturing facility could have a material
adverse effect on the Company's business, financial condition and results of
operations. The Company manufactures all of the cassettes at its Hayward,
California manufacturing facility, and any prolonged inability to utilize such
facility as a result of earthquake, fire or otherwise would have a material
adverse effect on the Company's business, financial condition and results of
operations.
MANUFACTURE OF L-D-X ANALYZER
The analyzer employs a variety of subassemblies and components designed or
specified by the Company, including an optical element, microprocessors, circuit
boards, a liquid crystal display and other electrical components. These
components and subassemblies are manufactured by a variety of third parties and
are shipped to the Company for final assembly. The Company's manufacture of the
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analyzer consists primarily of assembly, testing, inspection and packaging.
Testing consists of a burn-in period, functional tests and integrated system
testing using specially produced test cassettes. The Company believes it can
expand its current analyzer manufacturing capacity at minimal cost.
RAW MATERIALS; QUALITY ASSURANCE
Outside vendors provide Cholestech with subassemblies, components and raw
materials. These materials are purchased, inspected and tested by the Company's
quality control personnel. The Company's quality control personnel also perform
finished goods quality control and inspection and maintain documentation for
compliance with cGMP and other government manufacturing regulations.
Cholestech's manufacturing facilities are subject to periodic inspection by
regulatory authorities. See "-- Government Regulation." Certain key components
and raw materials used in the manufacturing of the Company's products are
currently provided by single-source vendors pursuant to the Company's periodic
purchase orders. The Company believes that it maintains an adequate level of
such components and raw materials in inventory and believes that alternative
sources for such components and raw materials are available. However, any supply
interruption in a sole-sourced component or raw material would have a material
adverse effect on the Company's business once the inventory is depleted and
until a new source of supply were qualified. In addition, an uncorrected
impurity or supplier's variation in a raw material, either unknown to the
Company or incompatible with the Company's manufacturing process, could have a
material adverse effect on the Company's business. Because the Company is a
small customer of many of its suppliers, there can be no assurance that its
suppliers will devote adequate resources to supplying the Company's needs.
COMPETITION
The testing market in which the Company competes is intensely competitive.
The Company's competition consists mainly of independent clinical laboratories
and hospital-based laboratories, as well as with manufacturers of bench top and
other point of care analyzers. The substantial majority of diagnostic tests used
by physicians and other health care providers are currently performed by
clinical laboratories and hospital-based laboratories. The Company expects that
these laboratories will compete intensely to maintain their dominance in the
monitoring market. In order to achieve broad market acceptance for the L-D-X
System, the Company will be required to demonstrate that the L-D-X System is an
attractive alternative to the independent clinical laboratory and hospital-based
laboratory. This will require physicians to change their established means of
having such tests performed. There can be no assurance that the L-D-X System
will be able to compete with the testing services provided by these
laboratories.
In addition, companies having a significant presence in the diagnostic
market, such as Abbott Laboratories, Clinical Diagnostic Systems, a division of
Johnson and Johnson which was formerly a division of Eastman Kodak Company, and
Boehringer Mannheim, have developed or are developing analyzers targeted for
point of care. These competitors have substantially greater financial,
technical, research and other resources and larger, more established marketing,
sales, distribution and service organizations than the Company. In addition,
such competitors offer broader product lines than the Company, have greater name
recognition than the Company, and offer discounts as a competitive tactic. The
Company believes that it currently has a competitive advantage with the
classification of its existing products as waived under CLIA. The Company
expects that the reclassification of the L-D-X System as waived under CLIA will
result in competitors seeking to develop products that qualify for waived
classification. There can be no assurance that the Company's competitors will
not succeed in obtaining CLIA waived status for their products or in developing
or marketing technologies or products that are more effective and commercially
attractive than the Company's current or future products, or that would render
the Company's technology or products obsolete or noncompetitive.
The Company's products must compete effectively overall with the existing
and future products of its competitors primarily on the basis of the ability to
perform tests at point of care, ease of use,
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testing of multiple analytes from a single sample, ability to conduct tests
without a skilled technician or a blood pretreatment step, the breadth of tests
available, market presence, cost effectiveness, precision, accuracy or immediacy
of results. There can be no assurance that the Company will have the financial
resources, technical expertise or marketing, distribution or support
capabilities to compete successfully in the future. See "Business -- Products --
Products Under Development," "-- Technology" and "-- Competition."
PATENTS AND PROPRIETARY TECHNOLOGY
The Company pursues an active patenting policy to protect inventions and
technology which are important to its business. The Company owns eight United
States patents covering various aspects of the technology incorporated in its
products, including the method for separating HDL from other lipoproteins in a
dry chemistry format, the basic design of the testing cassette and the L-D-X
Analyzer and the method of correcting for the effects of substances that can
interfere with testing of a blood sample. The Company has also filed patent
applications relating to its technology internationally under the Patent
Cooperation Treaty and individual foreign applications. The Company is also the
licensee of one United States patent relating to the measurement of Lp(a) and a
number of third party patents relating to its cassette technology.
The medical products industry has been characterized by extensive litigation
regarding patents and other intellectual property rights, and any potential
litigation can result in substantial loss or diversion of revenues of the
Company and could have a material adverse effect on the Company. There can be no
assurance that pending patent applications filed by the Company will be approved
or that the issued or pending patents will not be challenged or circumvented by
competitors. Notwithstanding the Company's active pursuit of patent protection,
the Company believes that its future success will depend primarily upon the
technical expertise, creative skills and management abilities of its officers,
directors and key employees rather than on patent ownership.
There can be no assurance that infringement claims will not be asserted by
other parties in the future, that in such event the Company will prevail or that
it will be able to obtain licenses on reasonable terms. Adverse determinations
in any litigation could subject the Company to significant liabilities and/or
require the Company to seek licenses from third parties. If the Company is
unable to obtain necessary licenses or is unable to develop or implement
alternative technology, the Company may be unable to manufacture and sell the
affected products. Any of these outcomes could have a material adverse effect on
the Company's business.
The Company relies substantially on trade secrets, technical know-how and
continuing invention to develop and maintain its competitive position. The
Company works actively to foster continuing technological innovation to maintain
and protect its competitive position, and the Company has taken security
measures to protect its trade secrets and periodically explores ways to further
enhance trade secret security. There can be no assurance that such measures will
provide adequate protection for the Company's trade secrets or other proprietary
information. Although the Company has entered into proprietary information
agreements with its employees, consultants and advisors, there can be no
assurance that these agreements will have adequate remedies for any breach.
There can be no assurance that the Company's competitors will not independently
develop substantially equivalent proprietary information and techniques or
otherwise gain access to the Company's trade secrets or disclose such
technology, or that the Company can meaningfully protect its right to its trade
secrets.
GOVERNMENT REGULATION
FDA AND OTHER REGULATIONS
The manufacture and sale of the Company's products are subject to regulation
by numerous governmental authorities, principally the United States Food and
Drug Administration ("FDA") and
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corresponding state and foreign regulatory agencies. Pursuant to the Federal
Food, Drug and Cosmetic Act of 1938, as amended (the "FDC Act"), the FDA
regulates the clinical testing, manufacture, labeling, distribution and
promotion of medical devices. Noncompliance with applicable requirements can
result in, among other things, fines, injunctions, civil penalties, recall or
seizure of products, total or partial suspension of production, failure of the
government to grant premarket clearance or premarket approval for devices,
withdrawal of marketing approvals, a recommendation by the FDA that the Company
not be permitted to enter into government contracts and criminal prosecution.
The FDA also has the authority to request repair, replacement or refund of the
cost of any device manufactured or distributed by the Company.
In the United States, medical devices are classified into one of three
classes, Class I, II or III, on the basis of the controls deemed by the FDA to
be necessary to reasonably ensure their safety and effectiveness. Class I
devices are subject to general controls (e.g. labeling, premarket notification
and adherence to cGMPs). Class II devices are subject to general controls and to
special controls (e.g. performance standards, postmarket surveillance, patient
registries, and FDA guidelines). Generally, Class III devices are those that
must receive premarket approval by the FDA to assure their safety and
effectiveness (e.g. life-sustaining, life-supporting and implantable devices, or
new devices which have not been found substantially equivalent to legally
marketed devices), and require clinical testing to assure safety and
effectiveness and FDA approval prior to marketing and distribution.
Before a new device can be introduced into the market, the manufacturer must
generally obtain marketing clearance through a pre-market notification under
Section 510(k) of the FDC Act or an approval of a PMA application under Section
515 of the FDC Act. A 510(k) clearance typically will be granted if the
submitted information establishes that the proposed device is "substantially
equivalent" to a legally marketed Class I or II medical device or to a Class III
medical device for which the FDA has not called for PMAs. A 510(k) notification
must contain information to support a claim of substantial equivalence, which
may include laboratory test results or the results of clinical studies of the
device in humans. It generally takes from four to twelve months from the date of
submission to obtain a 510(k) clearance, but it may take longer. A "not
substantially equivalent" determination by the FDA, or a request for additional
information, could delay the market introduction of new products that fall into
this category. For any devices that are cleared through the 510(k) process,
modifications or enhancements that could significantly affect safety or
effectiveness, or constitute a major change in the intended use of the device,
will require new 510(k) submissions. The L-D-X Analyzer and all existing test
cassettes required that the Company obtain 510(k) clearance prior to marketing
in the United States.
In general, the Company intends to develop and market tests that will
require no more than 510(k) clearance. However, if the Company cannot establish
that a proposed test cassette is substantially equivalent to a legally marketed
device, the Company must seek pre-market approval of the proposed test cassette
from the FDA through the submission of a PMA application. Certain products under
development, including the PSA test, may require submission of a PMA
application. A PMA application generally must be supported by extensive data
including, laboratory, preclinical and clinical data to demonstrate safety and
efficacy, as well as a complete description of the device and its components,
and a detailed description of the methods, facilities and controls used to
manufacture the device. In addition, the submission must include the proposed
labeling, advertising literature and training methods (if required). Upon
receipt of a PMA application, the FDA makes a threshold determination as to
whether the application is sufficiently complete to permit a substantive review.
If the FDA determines that the PMA application is sufficiently complete to
permit a substantive review, the FDA will accept the application for filing. The
PMA approval process can be lengthy, expensive and uncertain. An FDA review of a
PMA application generally takes one to three years from the date the PMA
application is accepted for filing, but may take significantly longer.
Any products manufactured or distributed by the Company pursuant to FDA
clearance or approvals are subject to pervasive and continuing regulation by FDA
and certain state agencies, including record keeping requirements and reporting
of adverse experience with the use of the device. Labeling
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and promotional activities are subject to scrutiny by FDA and, in certain
circumstances, by the Federal Trade Commission. Current FDA enforcement policy
prohibits the marketing of approved medical devices for unapproved uses.
The FDC Act regulates the Company's quality control and manufacturing
procedures by requiring the Company and its contract manufacturers to
demonstrate compliance with cGMP. The FDA monitors compliance with these
requirements by requiring manufacturers to register with the FDA, which subjects
them to periodic inspections. While the Company's manufacturing processes,
facilities and practices have not been inspected by the FDA, the Company
believes that its manufacturing practices are in compliance with cGMP. The State
of California also regulates and inspects Cholestech's manufacturing facilities.
The Company has been inspected twice by the State of California to date and is
manufacturing under an issued medical device manufacturers facility license from
the State of California. If violations of the applicable regulations are noted
during an FDA or State of California inspection of the Company's manufacturing
facilities or the manufacturing facilities of its contract manufacturers, the
continued marketing of the Company's product could be adversely affected.
The Company and its products are also subject to a variety of state and
local laws and regulations in those states or localities where its products are
or will be marketed. Any applicable state or local laws or regulations may
hinder the Company's ability to market its products in those states or
localities.
The Company is also subject to numerous federal, state and local laws
relating to such matters as safe working conditions, manufacturing practices,
environmental protection, fire hazard control and disposal of hazardous or
potentially hazardous substances. There can be no assurance that the Company
will not be required to incur significant costs to comply with such laws and
regulations now or in the future or that such laws or regulations will not have
a material adverse effect upon the Company.
Changes in existing requirements or adoption of new requirements or policies
could increase the cost of or otherwise adversely affect the ability of the
Company to comply with regulatory requirements. Failure to comply with
regulatory requirements could have a material adverse effect on the Company.
CLIA REGULATIONS
The use of the Company's products in the United States is subject to CLIA,
which provides for federal regulation of laboratory testing, an activity also
regulated by most states. Laboratories either must obtain a registration
certificate from HCFA, register with an approved accreditation agency or obtain
a state license in a state with a federally approved license program. The CLIA
regulations seek to ensure the quality of medical testing and generally took
effect in September 1992 with a two-year phase-in of certain requirements. The
three primary mechanisms to accomplish this goal are daily quality control
requirements to ensure the accuracy of laboratory devices and procedures,
proficiency testing to measure testing accuracy, and personnel standards to
assure appropriate training and experience for laboratory workers. CLIA
categorizes tests as "waived," or as being "moderately complex" or "highly
complex" on the basis of specific criteria.
Prior to January 1996, the L-D-X System, including all current cassettes,
was categorized under CLIA as moderately complex. In January 1996, the L-D-X
System and the TC, HDL, Triglycerides and Glucose tests in any combination were
reclassified as waived under CLIA. Under the waived classification, users are
only required to obtain a certificate of waiver from HCFA and pay a $100 fee.
This certificate must be renewed every two years. Current L-D-X System users,
including managed care organizations, hospitals, self-insured businesses and
health promotion organizations, will now be able to use the L-D-X System at a
lower cost. The Company provides United States purchasers of its products with
the documentation, systems and support necessary for the purchaser to comply
with CLIA. In order to successfully commercialize the tests that are currently
under development, the
18
<PAGE>
Company believes that it will be critical to obtain waived classification for
such tests under CLIA. There can be no assurance that any new tests developed by
the Company will qualify for the waived classification. Any failure of the new
tests to obtain waived status under CLIA will adversely impact the Company's
ability to commercialize such tests, which could have a material adverse effect
on the Company's business, financial condition and results of operations. In
addition, there can be no assurance that any future amendment of CLIA or the
promulgation of additional regulations impacting laboratory testing will not
have an adverse effect on the Company's ability to market the L-D-X System. If
CLIA regulations were modified in a manner that reduced regulatory requirements
and burdens faced by competitive products, any competitive advantage of the
L-D-X System's waived status would be reduced or eliminated.
THIRD PARTY REIMBURSEMENT
In the United States, health care providers, such as hospitals and
physicians, that purchase diagnostic products, including the Company's L-D-X
System, generally rely on third party payors, principally private health
insurance plans, federal Medicare and state Medicaid, to reimburse all or part
of the cost of the procedure in which the product is being used. The Company's
ability to commercialize its products successfully in the United States will
depend in part on the extent to which reimbursement for the cost of such
products and related treatment will be available from government health
administration authorities (such as HCFA, which determines Medicare
reimbursement levels), private health insurers and other organizations. Such
third party payors can affect the pricing or the relative attractiveness of the
Company's products by regulating the maximum amount of reimbursement provided by
such payors for testing services. Reimbursement is currently not available for
certain uses of the Company's products. For example, the cost of the L-D-X
Analyzer is generally not subject to reimbursement by government or other third
party payors. In addition, the tests performed by public health departments,
corporate wellness programs and other large volume users in the screening market
are generally not subject to reimbursement. In addition, certain health care
providers are moving towards a managed care system in which such providers
contract to provide comprehensive health care for a fixed cost per patient.
Managed care providers are attempting to control the cost of health care by
authorizing fewer elective procedures, such as screening of blood disease
levels. The Company is unable to predict what changes will be made in the
reimbursement methods utilized by third party payors. The Company could be
adversely affected by changes in reimbursement policies of governmental or
private health care payors, particularly to the extent any such changes affect
reimbursement for procedures in which the Company's products are used. Third
party payors are increasingly scrutinizing and challenging the prices charged
for medical products and services. Decreases in reimbursement amounts for tests
performed using the Company's products may decrease amounts physicians and other
practitioners are able to charge patients, which in turn may adversely affect
the Company's ability to sell its products on a profitable basis. Failure by
physicians and other users to obtain reimbursement from third party payors, or
changes in government and private third party payors' policies toward
reimbursement of tests employing the Company's products could have a material
adverse effect on the Company's business. Given the efforts to control and
reduce health care costs in the United States in recent years, there can be no
assurance that currently available levels of reimbursement will continue to be
available, or that adequate reimbursement will be available in the future for
the Company's existing products or products under development. See "Risk Factors
- -- Uncertainty Relating to Third Party Reimbursement."
Effective October 1, 1991, HCFA adopted new regulations providing for the
inclusion of capital-related costs in the prospective payment system, under
which providers are reimbursed on a
per-diagnosis basis at fixed rates unrelated to actual costs, based on
diagnostic related groups (DRGs). Under this system of reimbursement, equipment
costs generally will not be reimbursed separately, but rather, will be included
in a single, fixed-rate, per patient reimbursement. These regulations are being
phased in over a ten-year period, and, although the full implications of these
regulations cannot yet be known, the Company believes that the new regulations
will place more pressure on hospitals'
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operating margins, causing them to limit capital expenditures. These regulations
could have an adverse effect on the Company if hospitals decide to defer
obtaining medical equipment as a result of any such limitation on their capital
expenditures. The Company is unable to predict what adverse impact on the
Company, if any, additional government regulations, legislation or initiatives
or changes by other payors affecting reimbursement or other matters that may
influence decisions to obtain medical equipment may have.
In addition, market acceptance of the Company's products in international
markets is dependent, in part, upon the availability of reimbursement within
prevailing health care payment systems. Reimbursement and health care payment
systems in international markets vary significantly by country, and include both
government sponsored health care and private insurance.
The Company believes that the overall escalating cost of medical products
and services has led to and will continue to lead to increased pressures on the
health care industry, both foreign and domestic, to reduce the cost of products
and services, including products offered by the Company. There can be no
assurance as to either United States or foreign markets that third party
reimbursement and coverage will be available or adequate, that current
reimbursement amounts will not be decreased in the future or that future
legislation, regulation, or reimbursement policies of third party payors will
not otherwise adversely affect the demand for the Company's products or its
ability to sell its products on a profitable basis.
PRODUCT LIABILITY AND INSURANCE
Sale of the Company's products entails risk of product liability claims. The
medical testing industry has historically been litigious, and the Company faces
financial exposure to product liability claims in the event that use of its
products result in personal injury. The Company also faces the possibility that
defects in the design or manufacture of its products might necessitate a product
recall. There can be no assurance that the Company will not experience losses
due to product liability claims or recalls in the future. The Company currently
maintains product liability insurance with coverage limits of $5.0 million per
occurrence and $5.0 million annually in the aggregate, and there can be no
assurance that the coverage limits of the Company's insurance policies will be
adequate. Such insurance is expensive, difficult to obtain and may not be
available in the future on acceptable terms, or at all. No assurance can be
given that product liability insurance can be maintained in the future at a
reasonable cost or in sufficient amounts to protect the Company against losses
due to liability. An inability to maintain insurance at an acceptable cost or to
otherwise protect against potential product liability could prevent or inhibit
the continued commercialization of the Company's products. In addition, a
product liability claim in excess of relevant insurance coverage or product
recall could have a material adverse effect on the Company's business, financial
condition and results of operations.
The Company has liability insurance covering its property and operations
with coverage and deductible amounts and exclusions which the Company believes
are customary for companies of its size in its industry. The Company's personal
property is insured for up to $4.0 million and it has comprehensive general
liability coverage of up to $5.0 million. In addition, the Company has business
interruption insurance of up to $5.6 million. There can be no assurance that the
Company's current insurance coverage is adequate or that it will be able to
maintain insurance at an acceptable cost or otherwise to protect against
liability.
EMPLOYEES
As of March 31, 1996, the Company employed 79 full-time employees. There
were 33 employees in sales, marketing and administration and 42 employees in
manufacturing and 4 employees devoted to research and development. The Company
seeks to attract and retain skilled and experienced employees with directly
relevant experience in the fields of interest, although there can be no
assurance that it will continue to do so in the future. The loss of key
personnel or the inability to hire or retain
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<PAGE>
qualified personnel, in particular a new executive officer of sales could have a
material adverse effect on the Company's business, financial condition and
results of operations. None of the employees is covered by a collective
bargaining agreement, and management considers relations with employees to be
excellent.
ITEM 2. PROPERTIES
The Company leases a 30,000 square foot facility in Hayward, California. The
Company's facility contains approximately 5,000 square feet of laboratory space,
7,000 square feet of manufacturing space and approximately 18,000 square feet
devoted to marketing and administrative and common areas. The Company's lease on
the facility expires in the year 2000. The Company believes that this facility
is adequate to meet its requirements through the expiration of its lease.
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to any legal proceedings.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable.
EXECUTIVE OFFICERS OF THE REGISTRANT
The executive officers of the Company are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ------------------------------------ --- ---------------------------------------------------------------------
<S> <C> <C>
Warren E. Pinckert II............... 52 President, Chief Executive Officer and Director
Steven L. Barbato................... 46 Vice President of Manufacturing
Gary E. Hewett...................... 44 Vice President of Diagnostic Development
Richard H. Janney................... 37 Vice President of Finance and Chief Financial Officer
</TABLE>
WARREN E. PINCKERT II joined the Company as Chief Financial Officer and Vice
President of Business Development in 1989 and became Secretary in February 1990.
Mr. Pinckert became Executive Vice President of Operations in May 1991 while
retaining his previous positions. In June 1993, Mr. Pinckert became President
and Chief Executive Officer and was appointed to the Board of Directors. Prior
to joining Cholestech, he was Chief Financial Officer for Sunrise Medical Inc.,
an international durable medical equipment manufacturer, from 1983 to 1989. Mr.
Pinckert also serves on the Board of Directors of PacifiCare Health Systems, a
managed care organization. Mr. Pinckert earned a B.S. in Accounting and an
M.B.A. from the University of Southern California and is a certified public
accountant.
STEVEN L. BARBATO joined the Company as Vice President of Manufacturing in
May 1992. From 1990 to January 1992, Mr. Barbato served as Vice President of
Operations of the Pandex Division of Baxter Diagnostics, Inc. ("Baxter
Diagnostics"), a biotechnical instrument and reagent development division and
served in other capacities at Baxter Diagnostics from January 1992 to May 1992.
From 1989 to 1990, Mr. Barbato served as Director of Manufacturing for the
Paramax Chemistry Division of Baxter Diagnostics, a division manufacturing
automated whole blood analyzers. From 1987 to 1989, Mr. Barbato was employed as
Manager of Manufacturing by the Pandex Division of Baxter Diagnostics. Mr.
Barbato earned a B.S. in Chemical Engineering from Northeastern University and
an M.B.A. from Xavier University.
GARY E. HEWETT, a co-founder of the Company, has served as Vice President of
Diagnostic Development since the Company's inception in 1988. From 1985 to 1988,
Mr. Hewett was employed by Genelabs, Inc., a biotechnology company, as Vice
President of Diagnostics. Prior to 1985, he was
21
<PAGE>
employed in a variety of management and technical positions at the following
companies: Cetus Corporation, a biotechnology firm, from 1983 to 1985; Molecular
Design, Inc., a computer software company, from 1980 to 1983; Beckman
Instruments, Inc., a clinical instrument company, from 1978 to 1983; and Durrum
Instrument (Dionics), an analytical instrument firm, from 1975 to 1978. Mr.
Hewett earned a B.A. in Neurophysiology from the University of California,
Berkeley.
RICHARD H. JANNEY joined the Company in September 1992 as Controller and
became Vice President of Finance and Chief Financial Officer if March 1995.
Prior to joining the Company, he was employed by Price Waterhouse LLP from 1984
to September 1992. Mr. Janney earned a B.S. in Business Administration from
California Polytechnic State University at San Luis Obispo and is a certified
public accountant.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock is quoted on the Nasdaq National Market under the
symbol "CTEC." The following table sets forth the quarterly high and low closing
sale prices for the Company's Common Stock.
<TABLE>
<CAPTION>
HIGH LOW
--------- ---------
<S> <C> <C>
FISCAL YEAR 1995
First Quarter $ 5.25 $ 2.50
Second Quarter 3.25 1.75
Third Quarter 3.25 1.13
Fourth Quarter 3.00 1.50
FISCAL YEAR 1996
First Quarter $ 2.50 $ 1.50
Second Quarter 3.00 2.13
Third Quarter 3.75 2.25
Fourth Quarter 7.56 3.13
</TABLE>
On June 12, 1996, there were approximately 309 holders of record of the
Company's Common Stock.
The Company has never declared or paid dividends on its capital stock. The
Company currently expects to retain future earnings, if any, to finance the
growth and development of its business and, therefore, does not anticipate
paying any cash dividends in the foreseeable future.
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<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
<TABLE>
<CAPTION>
YEAR ENDED MARCH 31,
----------------------------------------------------------
1992 1993 1994 1995 1996
---------- ---------- ---------- ---------- ----------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues:
Products....................................... $ 939 $ 3,744 $ 3,029 $ 4,038 $ 6,873
Licenses....................................... 579 -- -- -- --
---------- ---------- ---------- ---------- ----------
1,518 3,744 3,029 4,038 6,873
Cost of products sold............................ 565 4,908 4,972 3,933 4,505
---------- ---------- ---------- ---------- ----------
Gross profit (loss).............................. 953 (1,164) (1,943) 105 2,368
---------- ---------- ---------- ---------- ----------
Operating expenses:
Research and development....................... 6,124 1,843 2,134 715 714
Sales and marketing............................ 1,446 2,171 2,909 2,694 3,168
General and administrative..................... 2,373 3,133 2,288 1,983 1,376
---------- ---------- ---------- ---------- ----------
Total operating expenses..................... 9,943 7,147 7,331 5,392 5,258
---------- ---------- ---------- ---------- ----------
Loss from operations............................. (8,990) (8,311) (9,274) (5,287) (2,890)
Interest income, net............................. 100 246 364 243 144
---------- ---------- ---------- ---------- ----------
Net loss......................................... $ (8,890) $ (8,065) $ (8,910) $ (5,044) $ (2,746)
---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ----------
Net loss per share (1)........................... $ (13.38) $ (1.57) $ (1.14) $ (.63) $ (.34)
---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ----------
Weighted average common shares (1)............... 664 5,122 7,791 7,954 8,042
---------- ---------- ---------- ---------- ----------
---------- ---------- ---------- ---------- ----------
<CAPTION>
MARCH 31,
----------------------------------------------------------
1992 1993 1994 1995 1996
---------- ---------- ---------- ---------- ----------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash, cash equivalents and restricted marketable
securities...................................... $ 4,355 $ 18,964 $ 11,058 $ 5,230 $ 4,111
Working capital.................................. 1,942 14,660 9,239 5,929 4,442
Total assets..................................... 8,730 25,399 15,685 10,041 9,645
Long-term liabilities............................ 650 361 54 44 810
Accumulated deficit.............................. (24,898) (32,962) (41,872) (46,916) (49,662)
Shareholders' equity............................. 4,264 21,991 13,412 8,513 5,982
</TABLE>
- --------------
(1) See Note 1 of Notes to Financial Statements for an explanation of shares
used in computing net loss per share.
(2) The Company's fiscal year is a 52-53 week period ending on the last Friday
in March. All fiscal years referenced in the Report consist of 52 weeks,
except fiscal 1995, which consisted of 53 weeks. For convenience, the
Company has indicated in this Report that its fiscal year ends on March 31.
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<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THE FOLLOWING DISCUSSION OF OPERATIONS AND FINANCIAL CONDITION OF CHOLESTECH
SHOULD BE READ IN CONJUNCTION WITH THE FINANCIAL STATEMENTS AND NOTES THERETO
INCLUDED ELSEWHERE IN THIS REPORT. SPECIAL NOTE: CERTAIN STATEMENTS SET FORTH
BELOW CONSTITUTE "FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF THE REFORM
ACT. SEE "SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS" ON PAGE 2 FOR
ADDITIONAL FACTORS RELATING TO SUCH STATEMENTS.
GENERAL
The Company develops, manufactures and markets a proprietary point of care
diagnostic system which measures specific analytes to detect various diseases
and disorders within five minutes using a single drop of whole blood. The
Company has experienced significant operating losses since inception and, as of
March 31, 1996, had an accumulated deficit of $49.7 million. The Company has not
generated significant revenues to date, and there can be no assurance that
significant revenues will ever be achieved. The Company is developing certain
additional tests designed to extend the L-D-X System's capabilities. The Company
believes that its future growth will depend, in part, upon its ability to
complete development and successfully introduce these new tests. The Company
expects to continue to incur operating losses as well as negative cash flows
from operations as it expands product research and development efforts for new
test panels, pursues regulatory clearances and approvals, expands sales and
marketing activities to address the monitoring market, and develops and expands
manufacturing capacity for existing and new test panels. The development and
commercialization of the new tests will require additional development, sales
and marketing, manufacturing and other expenditures. The required level and
timing of such expenditures will impact the Company's ability to achieve
profitability and positive cash flows from operations.
RESULTS OF OPERATIONS
YEARS ENDED MARCH 31, 1995 AND 1996
REVENUES. The Company's revenues increased by 70.2% from $4.0 million in
fiscal 1995 to $6.9 million in fiscal 1996. Domestic revenues increased by 72.2%
from $3.2 million in fiscal 1995 to $5.6 million in fiscal 1996 while
international revenues increased by 62.2% from $817,000 in fiscal 1995 to $1.3
million in fiscal 1996. The increase in revenues reflected increased unit sales
of the L-D-X Analyzer and test cassettes to hospitals, managed care
organizations, public health departments, corporations and other health care
providers in the screening market. The Company's product sales to the United
States monitoring market were minimal in each fiscal year. The Company expects
that international revenues will continue to decline as a percentage of total
revenues in future periods as the Company increases sales and marketing efforts
in the monitoring market in the United States.
COSTS OF PRODUCTS SOLD. Costs of products sold increased 14.5% from $3.9
million in fiscal 1995 to $4.5 million in fiscal 1996, as unit sales of the
L-D-X Analyzer and test cassettes increased. Gross margin was 2.6% and 34.5% in
fiscal 1995 and 1996, respectively. The improvement in the gross margin was
primarily attributable to improved cassette manufacturing yields, improved
quality assurance procedures and growth in the volume of units sold. During
fiscal 1995, the Company improved cassette manufacturing yields and quality
assurance procedures and reduced staffing levels by eliminating technical and
engineering positions specific to initial product development and scale-up of
manufacturing capacity. The resulting manufacturing efficiencies and cost
reductions were reflected for the full year of fiscal 1996.
24
<PAGE>
The Company has obtained rights to use certain technology in the manufacture
of certain of its products. The related agreements provide for the Company to
pay royalties ranging from 0.6% to 6.0% of net sales of the applicable products.
Total royalty expense for fiscal 1995 and 1996 was $132,000 and $381,000,
respectively, and was charged to costs of products sold.
RESEARCH AND DEVELOPMENT. Research and development expenses remained
constant between fiscal 1995 and fiscal 1996 as a result of the Company's
decision to concentrate available resources on expansion of sales and marketing
activities for existing test panels. However, the Company believes that its
future revenue growth and profitability will depend, in part, upon its ability
to complete development and successfully introduce new test panels designed to
extend the L-D-X System's capabilities to include additional tests useful in the
screening and monitoring markets. The Company is currently developing additional
tests to detect disease states such as metabolic bone diseases and disorders,
prostate cancer and diabetes. Each of these new tests is at an early stage of
development and the Company will be required to undertake time consuming and
costly development activities and seek regulatory approval for these new tests.
As a result, the Company currently anticipates that research and development
expenditures will increase significantly in future periods as product
development and manufacturing scale-up efforts for new tests increase.
SALES AND MARKETING. Sales and marketing expenses increased 17.6% from $2.7
million in fiscal 1995 to $3.2 million in fiscal 1996. The increase in sales and
marketing expenses was primarily attributable to expansion of the Company's
domestic direct sales and marketing organization, increased commissions
associated with increased product sales and, to a lesser extent, participation
in domestic conferences and trade shows. The Company currently anticipates that
sales and marketing expenses will increase in future periods as the Company
expands sales and marketing activities to address the monitoring market, in
particular the POL segment of the monitoring market.
GENERAL AND ADMINISTRATIVE. General and administrative expenses decreased
30.6% from $2.0 million in fiscal 1995 to $1.4 million in fiscal 1996. The
decrease in general and administrative expenses was primarily a result of
reduced headcount and reduced expenditures for rent and insurance. In fiscal
1995, general and administrative expenses included a one-time charge of
approximately $114,000 as a result of headcount reductions. Absent such one-time
charge, general and administrative expenses for fiscal 1995 would have been $1.9
million.
INTEREST INCOME (EXPENSE), NET. Interest income was earned on investment of
cash balances generated from prior equity financings of the Company. Interest
expense was incurred on capital lease financings, the bank line of credit and
long-term debt obtained by the Company.
YEARS ENDED MARCH 31, 1994 AND 1995
REVENUES. Revenues increased 33.3% from $3.0 million in fiscal 1994 to $4.0
million in fiscal year 1995. Domestic revenues increased by 74.6% from $1.8
million in fiscal 1994 to $3.2 million in fiscal 1995, while international
revenues decreased by 31.1% from $1.2 million in fiscal 1994 to $817,000 in
fiscal 1995. The increase in domestic revenues reflected an increase in sales of
diagnostic tests to the domestic screening market. The decrease in international
revenues reflected the completion in fiscal 1994 of the Company's promotional
activities with Warner Lambert/Parke Davis Corporation ("Warner Lambert") in
Italy relating to Warner Lambert's hypolipidemic agent, Lopid.
COSTS OF PRODUCTS SOLD. Costs of products sold decreased 20.9% from $5.0
million in fiscal 1994 to $3.9 million in fiscal 1995. Costs of products sold as
a percentage of total revenues decreased from 164.1% in fiscal 1994 to 97.4% in
fiscal 1995. The decrease was primarily attributable to the Company's successful
completion of efforts to improve cassette manufacturing yields and improve
quality assurance procedures. The improvements in cassette manufacturing and
quality assurance procedures enabled the Company to reduce staffing levels by
eliminating technical and engineering positions specific to initial product
development and expansion of the Company's manufacturing capacity. Total royalty
expense for fiscal 1994 was $140,000 and was charged to costs of products sold.
25
<PAGE>
RESEARCH AND DEVELOPMENT. Research and development expenses decreased 66.5%
from $2.1 million in fiscal 1994 to $715,000 in fiscal 1995. The decrease in
research and development expenses was primarily a result of completing the
development of, and obtaining FDA approval for, a TC/HDL/ Glucose test and a
Lipid Profile plus Glucose test and, transitioning to product marketing in
fiscal 1995 from product development in fiscal 1994. The fiscal 1995 expenses
included $715,000 for new product development and product enhancements to meet
customer demands while fiscal 1994 expenses included $733,000 for manufacturing
scale-up costs and $1.4 million related to continued development of the L-D-X
System and its related products.
SALES AND MARKETING. Sales and marketing expenses decreased 7.4% from $2.9
million in fiscal 1994 to $2.7 million in fiscal 1995. The decrease in sales and
marketing expenses was a direct result of the Company's efforts to improve
efficiency. During fiscal 1995, the Company focused on increasing domestic
product sales while selectively targeting potential sources of international
product sales. The strategy allowed the Company to reduce sales and marketing
expenses in fiscal 1995 although product sales increased.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
decreased 13.3% from $2.3 million in fiscal 1994 to $2.0 million in fiscal 1995.
General and administrative expenses for fiscal 1995 included a one-time charge
of approximately $114,000 due to a reduction in the number of administrative
personnel. Absent such one-time charge, general and administrative expenses for
fiscal 1995 would have been $1,886,000. In addition, fiscal 1994 expenses
included a net gain of $290,000 upon the settlement of a dispute in connection
with a licensing agreement. Absent such net gain, general and administrative
expenses for fiscal 1994 would have been $2.6 million. After consideration of
the net gain and one-time charge, actual general and administrative expenses for
fiscal 1995 decreased approximately $704,000 or 27% from fiscal 1994. The
decrease resulted from the Company's efforts to control costs and conserve
resources through reduced headcount and improved operating efficiency.
INTEREST INCOME (EXPENSE), NET. Interest income was earned on investment of
cash balances generated from equity financings of the Company. Interest expense
was incurred on capital lease financings obtained by the Company.
INCOME TAX CARRYFORWARDS
As of March 31, 1996, the Company had net operating loss carryforwards
available to reduce taxable income through 2011 for federal and state income tax
purposes of approximately $46.0 million and $21.0 million, respectively.
Additionally, the Company had research and development credit carryforwards
available to reduce income taxes through 2011 for federal and state income tax
purposes of approximately $1.5 million and $493,000, respectively. There is an
annual limitation of approximately $1.5 million for federal and state income tax
reporting purposes on the use of approximately $8.1 million and $1.1 million of
net operating losses, and of $390,000 and $160,000 of tax credit carryforwards,
respectively. The Company's net operating losses and tax credit carryforwards
incurred prior to December 1992 are subject to an annual limitation of
approximately $5.5 million for federal and state income tax reporting purposes
on the use of approximately $28.2 million and $8.1 million of net operating loss
carryforwards, respectively, and of $1.2 million and $379,000 of tax credit
carryforwards, respectively. If the amount of these limitations are not utilized
in any year, the amount not utilized increases the allowable limit in the
subsequent year.
IMPACT OF ADOPTION OF NEW ACCOUNTING STANDARDS
In March 1995, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 121 "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," ("FAS 121")
which requires the Company to review for impairment long-lived assets, certain
identifiable intangibles and goodwill related to those assets whenever events or
changes in circumstances indicate that the carrying amount of an asset might not
be recoverable. In
26
<PAGE>
certain situations, an impairment loss would be recognized. The Company will
adopt FAS 121 during fiscal 1997 and, based on its initial evaluation, does not
expect its adoption to have a material impact on the Company's financial
condition or results of operations.
In October 1995, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 123 "Accounting for Stock-Based
Compensation" ("FAS 123") which established a fair value based method of
accounting for stock-based compensation plans and requires additional
disclosures for those companies who elect not to adopt the new method of
accounting. The Company will adopt FAS 123 during fiscal 1997. The Company
intends to continue to account for employee stock options using the intrinsic
value method prescribed by APB Opinion No. 25 and to adopt the "disclosure only"
pro forma alternative described in FAS 123.
POTENTIAL FLUCTUATIONS IN QUARTERLY RESULTS
The Company may experience significant fluctuations in revenues and results
of operations on a quarter to quarter basis in the future. Quarterly operating
results will fluctuate due to numerous factors, including the timing and level
of market acceptance of the L-D-X System, particularly with respect to POLs, the
timing of introduction and availability of new tests, the timing and level of
expenditures associated with new product development activities, the timing and
level of expenditure associated with expansion of sales and marketing activities
and overall operations, the Company's ability to cost-effectively expand
cassette manufacturing capacity and maintain consistently acceptable yields in
the manufacture of cassettes, the timing of establishment of strategic
distribution arrangements and success of the activities conducted under such
arrangements, variations in manufacturing efficiencies, changes in demand for
its products based on changes in third party reimbursement, competition, changes
in government regulation and other factors, the timing of significant orders
from and shipments to customers, and general economic conditions. These factors
are difficult to forecast, and these or other factors could have a material
adverse effect on the Company's business, financial condition and results of
operations. Fluctuations in quarterly demand for products and order
cancellations may adversely affect the continuity of the Company's manufacturing
operations, increase uncertainty in operational planning, disrupt cash flow from
operations and contribute to the volatility of the Company's stock price. The
Company's expenses are based in part on the Company's expectations as to future
revenue levels and to a large extent are fixed in the short-term. If actual
revenues do not meet expectations, the Company's business, financial condition
and results of operations could be materially adversely affected.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations primarily through the sale of equity
securities and, to a lesser extent, through capital lease financings and a long
term note payable. Through March 31, 1996, the Company had received
approximately $55.1 million in net proceeds from equity financings. As of March
31, 1996, the Company had approximately $361,000 of cash and cash equivalents.
In addition, the Company had $3.75 million of restricted marketable securities
that currently secure a $3.0 million revolving bank line of credit. While the
line of credit is in effect, the Company is required to maintain on deposit with
the bank $3.75 million of restricted marketable securities or a $3.0 million
certificate of deposit as pledged collateral, restricted as to use when the
Company has outstanding borrowings under the agreement. The line of credit
expires on October 31, 1996. As of March 31, 1996, borrowings under the line of
credit totaled $250,000. If the Company's cash and restricted marketable
securities were to fall below $3.0 million, the Company would be required to
either renegotiate the terms or cancel the revolving line of credit. At March
31, 1996, the Company also had approximately $1.3 million outstanding under a
long term note. The note contains various provisions including requirements that
the Company maintain at least $3.0 million in cash and restricted marketable
securities and a security deposit in the amount of $150,000 payable to the
lender in the event of a default on the note. If the Company's cash and
restricted marketable securities were to fall below $3.0 million, the Company
would be required to deposit with the lender an additional $200,000 as a
security deposit.
27
<PAGE>
Net cash used in operating activities was approximately $7.2 million, $5.0
million and $2.4 million in fiscal 1994, 1995 and 1996, respectively. Cash used
in operating activities during fiscal 1996 resulted primarily from net losses
and the net effect of increases in inventory, receivables and accounts payable
and accrued expenses of $559,000, $443,000 and $721,000, respectively, which
reflects the effect of increased revenues from fiscal 1995 and the anticipated
increase in revenues during fiscal 1997. Net cash provided by investing
activities in fiscal 1995 resulted primarily from the sales of marketable
securities. During fiscal 1996, net cash used in investing activities reflected
the Company's purchases of property and equipment. Net cash used in financing
activities in fiscal 1995 reflected the repayment of capital lease obligations,
while the net cash provided by financing activities in fiscal 1996 reflected
approximately $1.7 million in net proceeds from a note payable, borrowing under
the line of credit and issuances of Common Stock.
The Company intends to expend substantial funds for product research and
development, expansion of sales and marketing activities, expansion of
manufacturing capacity and other working capital and general corporate purposes.
Although the Company believes that the net proceeds of a public offering of
Common Stock currently expected to be completed in June 1996, together with its
unrestricted cash balances, internally generated funds, bank borrowings under
existing lines of credit and proceeds from issuances of Common Stock to Metra
Biosystems will be sufficient to meet its capital requirements for the
foreseeable future, there can be no assurance that the Company will not require
additional financing. The Company's actual liquidity and capital requirements
will depend upon numerous additional factors, including the costs and timing of
expansion of manufacturing capacity, the number and type of new tests the
Company seeks to develop, the costs and timing of expansion of sales and
marketing activities, the extent to which the Company's existing and new
products gain market acceptance, competing technological and market
developments, the progress of commercialization efforts of the Company's
distributors, the costs involved in preparing, filing, prosecuting, maintaining
and enforcing patent claims and other intellectual property rights, developments
related to regulatory and third party reimbursement matters and CLIA, and other
factors. In the event that additional financing is needed, the Company may seek
to raise additional funds through public or private financing, collaborative
relationships or other arrangements. Any additional equity financing may be
dilutive to shareholders, and debt financing, if available, may involve
restrictive covenants. Collaborative arrangements, if necessary to raise
additional funds, may require the Company to relinquish its rights to certain of
its technologies, products or marketing territories. The failure of the Company
to raise capital when needed could have a material adverse effect on the
Company's business, financial condition and results of operations. There can be
no assurance that such financing, if required, will be available on satisfactory
terms, if at all.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Reference is made to the financial statements and supplemental data required
by this item and set forth at the pages indicated in Item 14(a) of this Report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item concerning the Company's directors is
incorporated by reference from the section captioned "Election of Directors"
contained in the Company's Proxy Statement related to the Annual Meeting of
Shareholders to be held August 22, 1996, to be filed by the Company with the
Securities and Exchange Commission within 120 days of the end of the Company's
28
<PAGE>
fiscal year pursuant to General Instruction G(3) of Form 10-K (the "Proxy
Statement"). The information required by this item concerning executive officers
is set forth in Part I of this Report. The information required by this item
concerning compliance with Section 16(a) of the Exchange Act is incorporated by
reference from the section captioned "Compliance with Section 16(a) of the
Exchange Act" contained in the Proxy Statement.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated by reference from the
section captioned "Executive Compensation" contained in the Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated by reference from the
section captioned "Security Ownership of Certain Beneficial Owners and
Management" contained in the Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item is incorporated by reference from the
sections captioned "Compensation Committee Interlocks and Insider Participation"
and "Certain Transactions With Management" contained in the Proxy Statement.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a)(1) FINANCIAL STATEMENTS
The following financial statements are filed as part of this Report:
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Report of Independent Accountants...................................................... F-2
Balance Sheets......................................................................... F-3
Statements of Operations............................................................... F-4
Statement in Changes in Shareholders' Equity........................................... F-5
Statements of Cash Flows............................................................... F-6
Notes to Financial Statements.......................................................... F-7
</TABLE>
29
<PAGE>
(a)(2) FINANCIAL STATEMENT SCHEDULES
II -- Valuation and Qualifying Accounts
CHOLESTECH CORPORATION
VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
ADDITIONS
BALANCE AT TO COSTS BALANCE AT
BEGINNING AND END OF
OF PERIOD EXPENSES DEDUCTIONS PERIOD
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
FISCAL YEAR ENDED MARCH 25, 1994
Allowance for doubtful accounts............................. $ 115,000 $ 11,000 $ 50,000 $ 76,000
Amortization of other assets................................ 60,000 142,000 -- 202,000
----------- ----------- ----------- -----------
$ 175,000 $ 153,000 $ 50,000 $ 278,000
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
FISCAL YEAR ENDED MARCH 31, 1995
Allowance for doubtful accounts............................. $ 76,000 $ 17,000 $ 68,000 $ 25,000
Amortization of other assets................................ 202,000 142,000 -- 344,000
----------- ----------- ----------- -----------
$ 278,000 $ 159,000 $ 68,000 $ 369,000
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
FISCAL YEAR ENDED MARCH 29, 1996
Allowance for doubtful accounts............................. $ 25,000 $ 57,000 $ -- $ 82,000
Amortization of other assets................................ 344,000 487,000 -- 831,000
----------- ----------- ----------- -----------
$ 369,000 $ 544,000 $ -- $ 913,000
----------- ----------- ----------- -----------
----------- ----------- ----------- -----------
</TABLE>
All other Schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required under the
related instructions or are inapplicable, and therefore have been omitted.
(a)(3) EXHIBITS
<TABLE>
<C> <S>
3.1(2) Restated Articles of Incorporation of Registrant.
3.2(1) Bylaws of Registrant, as amended.
10.1(3) 1988 Stock Incentive Program and forms of agreements thereunder.
10.2(3) Employee Stock Purchase Plan.
10.3(1) Standard Industrial Lease Agreement between Registrant and Sunlife
Assurance Company of Canada dated October 22, 1989.
10.3.1(8) First Amendment to Standard Industrial Lease Agreement between
Registrant and Sunlife Assurance Company of Canada dated April
1995.
10.4(1) Forms of Indemnification Agreements between Registrant and its
officers and its directors.
10.5(1) Employment Agreement between Registrant and Edward L. Erickson
dated December 6, 1991.
10.6(1) Equipment Lease Agreement between Registrant and MMC/GATX
Partnership No. 1 dated August 17, 1990.
10.6.1(1) Revised Warrant to Purchase Series D Preferred Stock issued to
MMC/GATX Partnership No. 1.
10.7(1) Master Lease Agreement between Registrant and LINC Venture Lease
Partners II L.P. dated June 13, 1991.
10.7.1(1) Amendment No. 1 to Warrant issued to LINC Venture Lease Partners
II L.P.
10.8(1) Supply Agreement effective the 15th day of February 1991 by and
between Ciba Corning Diagnostics Corp. and the Registrant.
</TABLE>
30
<PAGE>
<TABLE>
<C> <S>
10.9(4) Employment Agreement between Registrant and Steven L. Barbato
dated April 27, 1992.
10.10(4) Employment Agreement between Registrant and Robert J. Guyon dated
July 13, 1992.
10.11.1(5) Letter Agreement effective September 28 1993 by and between Union
Bank and Registrant.
10.11.2(5) Promissory Note effective September 28 1993 by and between Union
Bank and Registrant.
10.11.3(5) Security Agreement effective September 28, 1993 by and between
Union Bank and Registrant.
10.11.4(7) First Amendment to the Letter Agreement by and between Union Bank
and Registrant.
10.11.5(7) First Amendment to the Promissory Note by and between Union Bank
and Registrant.
10.11.6(10) Second Amendment to the Letter Agreement by and between Union Bank
and Registrant.
10.11.7(10) Second Amendment to the Promissory Note by and between Union Bank
and Registrant.
10.12(4) License Agreement between Registrant and Eastman Kodak Company
dated December 23, 1992.
10.13(6) Employment Agreement between Registrant and Linda H. Masterson
dated May 12, 1994.
10.14(9) Loan Agreement between Registrant and Phoenixcor, Inc. dated
August 31, 1995.
10.15*(11) Development, License and Distribution Agreement between Registrant
and Metra Biosystems, Inc. dated May 3, 1996.
10.16(11) Registration Rights Agreement between Registrant and Metra
Biosystems, Inc. dated May 3, 1996.
23.1 Consent of Price Waterhouse LLP, Independent Accountants.
24.1 Power of Attorney (See page 33).
27.1(11) Financial Data Schedule.
</TABLE>
- --------------
* Confidential treatment has been requested with respect to certain portions
of this exhibit. The redacted portions have been filed separately with the
Securities and Exchange Commission.
+ Previously filed.
(1) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form S-1 (No. 33-47603) which became effective on June 26,
1992.
(2) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form S-1 (No. 33-54300) which became effective on December 16,
1992.
(3) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form S-8 (No. 333-4148) as filed with the Securities and
Exchange Commission on April 26, 1996.
(4) Incorporated by reference to exhibits filed with Registrant's Annual Report
on Form 10-K for the year ended March 26, 1993.
(5) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended December 23, 1993.
(6) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended June 24, 1994.
31
<PAGE>
(7) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended September 23, 1994.
(8) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended June 30, 1995.
(9) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended September 29, 1995.
(10) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended December 29, 1995.
(11) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form S-1 (No. 333-3367) filed with the Commission on May 9,
1996.
(b) REPORTS ON FORM 8-K. The Company did not file any reports on Form 8-K
during the quarter ended March 31, 1996.
(c) EXHIBITS. See Item 14(a)(3) above.
(d) FINANCIAL STATEMENT SCHEDULES. See Item 14(a)(2) above.
32
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the Registrant has duly caused this Report to
be signed on its behalf by the undersigned, thereunto duly authorized.
CHOLESTECH CORPORATION
By: /s/ WARREN E. PINCKERT II
-----------------------------------
Warren E. Pinckert II
PRESIDENT, CHIEF EXECUTIVE OFFICER
AND DIRECTOR
Date: June 26, 1996
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Warren E. Pinckert II and Richard H. Janney, and
each of them, his true and lawful attorneys-in-fact and agents, each with full
power of substitution and resubstitution, to sign any and all amendments
(including post-effective amendments) to this Annual Report on Form 10-K and to
file the same, with all exhibits thereto and other documents in connection
therewith, with the Securities and Exchange Commission, granting unto said
attorneys-in-fact and agents, and each of them, full power and authority to do
and perform each and every act and thing requisite and necessary to be done in
connection therewith, as fully to all intents and purposes as he might or could
do in person, hereby ratifying and confirming all that said attorneys-in-fact
and agents, or their substitute or substitutes, or any of them, shall do or
cause to be done by virtue hereof.
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, AS
AMENDED, THIS REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF
THE REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED:
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
- --------------------------------------------------------- ---------------------------------------------- ------------------
<C> <S> <C>
/S/ WARREN E. PINCKERT II
--------------------------------------------- President, Chief Executive Officer and June 26, 1996
(Warren E. Pinckert II) Director (Principal Executive Officer)
/S/ RICHARD H. JANNEY Vice President of Finance and Chief Financial
--------------------------------------------- Officer (Principal Financial and Accounting June 26, 1996
(Richard H. Janney) Officer)
/S/ HARVEY S. SADOW, PH.D.
--------------------------------------------- Director June 26, 1996
(Harvey S. Sadow, Ph.D.)
/S/ JOHN L. CASTELLO
--------------------------------------------- Director June 26, 1996
(John L. Castello)
/S/ H.R. SHEPHERD
--------------------------------------------- Director June 26, 1996
(H.R. Shepherd)
/S/ JOSEPH BUCHMAN, M.D.
--------------------------------------------- Director June 26, 1996
(Joseph Buchman, M.D.)
</TABLE>
33
<PAGE>
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
---------
<S> <C>
Report of Independent Accountants.......................................................................... F-2
Balance Sheets............................................................................................. F-3
Statements of Operations................................................................................... F-4
Statement of Changes in Shareholders' Equity............................................................... F-5
Statements of Cash Flows................................................................................... F-6
Notes to Financial Statements.............................................................................. F-7
</TABLE>
F-1
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Shareholders of Cholestech Corporation
In our opinion, the financial statements listed in the index appearing under
Item 14(a)(1) and (2) on page 24 present fairly, in all material respects, the
financial position of Cholestech Corporation at March 31, 1995 and March 29,
1996, and the results of its operations and its cash flows for each of the three
years in the period ended March 29, 1996, in conformity with generally accepted
accounting principles. 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 of these
statements in accordance with generally accepted auditing standards which
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, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
San Jose, California
April 24, 1996, except as to Note 11,
which is as of May 9, 1996
F-2
<PAGE>
CHOLESTECH CORPORATION
BALANCE SHEETS
ASSETS
<TABLE>
<CAPTION>
MARCH 31, MARCH 29,
1995 1996
--------------- ---------------
<S> <C> <C>
Current assets:
Cash and cash equivalents.................................................... $ 1,230,000 $ 361,000
Marketable securities........................................................ 4,000,000 --
Restricted marketable securities............................................. -- 3,750,000
Accounts receivable.......................................................... 664,000 1,107,000
Inventories.................................................................. 1,351,000 1,910,000
Prepaid expenses and other assets............................................ 168,000 167,000
--------------- ---------------
Total current assets....................................................... 7,413,000 7,295,000
Property and equipment, net.................................................... 2,182,000 2,041,000
Other assets, net.............................................................. 446,000 309,000
--------------- ---------------
$ 10,041,000 $ 9,645,000
--------------- ---------------
--------------- ---------------
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Short-term bank borrowings................................................... $ -- $ 250,000
Accounts payable and accrued expenses........................................ 893,000 1,614,000
Accrued payroll and benefits................................................. 304,000 253,000
Product warranty............................................................. 150,000 187,000
Current portion of long-term debt............................................ -- 499,000
Other liabilities............................................................ 137,000 50,000
--------------- ---------------
Total current liabilities.................................................. 1,484,000 2,853,000
Long-term debt, less current portion........................................... -- 799,000
Other liabilities.............................................................. 44,000 11,000
--------------- ---------------
Total liabilities.......................................................... 1,528,000 3,663,000
--------------- ---------------
Commitments (Notes 5 and 6)....................................................
Shareholders' equity:
Preferred Stock, no par value; 5,000,000 shares authorized;
no shares issued and outstanding............................................ -- --
Common Stock, no par value; 25,000,000 shares authorized;
7,999,962 and 8,131,824 shares issued and outstanding....................... 55,465,000 55,644,000
Note receivable from issuance of Common Stock................................ (36,000) --
Accumulated deficit.......................................................... (46,916,000) (49,662,000)
--------------- ---------------
Total shareholders' equity................................................. 8,513,000 5,982,000
--------------- ---------------
$ 10,041,000 $ 9,645,000
--------------- ---------------
--------------- ---------------
</TABLE>
See accompanying notes to financial statements.
F-3
<PAGE>
CHOLESTECH CORPORATION
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED
MARCH 25, MARCH 31, MARCH 29,
1994 1995 1996
-------------- -------------- --------------
<S> <C> <C> <C>
Revenues:
Domestic........................................................ $ 1,844,000 $ 3,221,000 $ 5,548,000
International................................................... 1,185,000 817,000 1,325,000
-------------- -------------- --------------
3,029,000 4,038,000 6,873,000
Cost of products sold............................................. 4,972,000 3,933,000 4,505,000
-------------- -------------- --------------
Gross profit (loss)............................................... (1,943,000) 105,000 2,368,000
-------------- -------------- --------------
Operating expenses:
Research and development........................................ 2,134,000 715,000 714,000
Sales and marketing............................................. 2,909,000 2,694,000 3,168,000
General and administrative...................................... 2,288,000 1,983,000 1,376,000
-------------- -------------- --------------
Total operating expenses...................................... 7,331,000 5,392,000 5,258,000
-------------- -------------- --------------
Loss from operations.............................................. (9,274,000) (5,287,000) (2,890,000)
Interest income................................................... 447,000 278,000 284,000
Interest expense.................................................. (83,000) (35,000) (140,000)
-------------- -------------- --------------
Net loss.......................................................... $ (8,910,000) $ (5,044,000) $ (2,746,000)
-------------- -------------- --------------
-------------- -------------- --------------
Net loss per share................................................ $ (1.14) $ (.63) $ (.34)
-------------- -------------- --------------
-------------- -------------- --------------
Weighted average common shares.................................... 7,790,684 7,954,284 8,041,531
-------------- -------------- --------------
-------------- -------------- --------------
</TABLE>
See accompanying notes to financial statements
F-4
<PAGE>
CHOLESTECH CORPORATION
STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
<TABLE>
<CAPTION>
PREFERRED STOCK COMMON STOCK
-------------------- ---------------------- NOTE ACCUMULATED
SHARES AMOUNT SHARES AMOUNT RECEIVABLE DEFICIT TOTAL
--------- --------- --------- ----------- ----------- ------------ -----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance at March 26, 1993................ -- $ -- 7,648,471 $54,991,000 $ (36,000) $(32,962,000) $21,993,000
Issuance of Common Stock................. 262,141 226,000 226,000
Compensation expense relating to stock
options................................. 104,000 104,000
Net loss................................. (8,910,000) (8,910,000)
--------- --------- --------- ----------- ----------- ------------ -----------
Balance at March 25, 1994................ -- -- 7,910,612 55,321,000 (36,000) (41,872,000) 13,413,000
Issuance of Common Stock................. 89,350 72,000 72,000
Compensation expense relating to stock
options................................. 72,000 72,000
Net loss................................. (5,044,000) (5,044,000)
--------- --------- --------- ----------- ----------- ------------ -----------
Balance at March 31, 1995................ -- -- 7,999,962 55,465,000 (36,000) (46,916,000) 8,513,000
Issuance of Common Stock................. 131,862 140,000 140,000
Compensation expense relating to stock
options................................. 39,000 39,000
Foregiveness of loan..................... 36,000 36,000
Net loss................................. (2,746,000) (2,746,000)
--------- --------- --------- ----------- ----------- ------------ -----------
Balance at March 29, 1996................ -- $ -- 8,131,824 $55,644,000 $ -- $(49,662,000) $ 5,982,000
--------- --------- --------- ----------- ----------- ------------ -----------
--------- --------- --------- ----------- ----------- ------------ -----------
</TABLE>
See accompanying notes to financial statements
F-5
<PAGE>
CHOLESTECH CORPORATION
STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED MARCH
MARCH 25, 1994 MARCH 31, 1995 29, 1996
-------------- -------------- ----------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss..................................................... $ (8,910,000) $ (5,044,000) $ (2,746,000)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization.............................. 1,098,000 729,000 612,000
Deferred revenue........................................... (215,000) (74,000) (30,000)
Compensation expense relating to stock options issued below
market.................................................... 104,000 72,000 39,000
Forgiveness of note receivable............................. -- -- 36,000
Write-off of property and equipment........................ 231,000 2,000 3,000
Changes in assets and liabilities:
Accounts receivable...................................... 357,000 (283,000) (443,000)
Inventories.............................................. (31,000) 103,000 (559,000)
Prepaid expenses and other assets........................ 331,000 2,000 1,000
Other assets............................................. 153,000 (8,000) (6,000)
Accounts payable and accrued expenses.................... (218,000) (115,000) 721,000
Accrued license fee...................................... (290,000) -- --
Accrued payroll and benefits............................. 429,000 (391,000) (51,000)
Product warranty......................................... (110,000) -- 37,000
Other liabilities........................................ (100,000) -- --
-------------- -------------- ----------------
Net cash used in operating activities...................... (7,171,000) (5,007,000) (2,386,000)
-------------- -------------- ----------------
Cash flows from investing activities:
Purchases of marketable securities........................... (37,364,000) (47,567,000) (121,016,000)
Proceeds from the sale of marketable securities.............. 37,800,000 53,197,000 121,266,000
Purchases of property and equipment.......................... (657,000) (625,000) (331,000)
-------------- -------------- ----------------
Net cash provided by (used in) investing activities........ (221,000) 5,005,000 (81,000)
-------------- -------------- ----------------
Cash flows from financing activities:
Proceeds from long-term debt................................. -- -- 1,500,000
Principal payments on long-term debt......................... -- -- (202,000)
Proceeds from short-term bank borrowing...................... -- -- 250,000
Principal payments on capital leases......................... (685,000) (268,000) (90,000)
Restricted cash investment................................... 380,000 -- --
Issuance of Common Stock..................................... 226,000 72,000 140,000
-------------- -------------- ----------------
Net cash (used in) provided by financing activities........ (79,000) (196,000) 1,598,000
-------------- -------------- ----------------
Net change in cash and cash equivalents........................ (7,471,000) (198,000) 869,000
Cash and cash equivalents at beginning of period............... 8,899,000 1,428,000 1,230,000
-------------- -------------- ----------------
Cash and cash equivalents at end of period..................... $ 1,428,000 $ 1,230,000 $ 361,000
-------------- -------------- ----------------
-------------- -------------- ----------------
Supplemental disclosures of cash flow information:
Cash paid during the year for interest....................... $ 83,000 $ 35,000 $ 140,000
-------------- -------------- ----------------
-------------- -------------- ----------------
Supplemental disclosures of non-cash financing and investing
activities:
Capital lease obligations incurred for acquisition of
property and equipment...................................... $ 53,000 $ 105,000 $ --
-------------- -------------- ----------------
-------------- -------------- ----------------
Reclassification of $3,750,000 in marketable securities to
restricted marketable securities in connection with a line
of credit.
</TABLE>
See accompanying notes to financial statements.
F-6
<PAGE>
CHOLESTECH CORPORATION
NOTES TO FINANCIAL STATEMENTS
1. OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
OPERATIONS
Cholestech Corporation (the "Company") was incorporated February 2, 1988 to
develop, manufacture and sell point-of-care systems which can perform various
diagnostic tests using a single drop of whole blood.
SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
FISCAL YEAR END
The Company's fiscal year is a 52-53 week period ending on the last Friday
in March. Fiscal 1994, 1995 and 1996 comprised 52, 53 and 52 week periods,
respectively.
REVENUE RECOGNITION
All revenues from product sales are recognized at the time products are
shipped and are denominated in U.S. dollars. The Company also provides an amount
for estimated sales returns.
CASH AND CASH EQUIVALENTS AND MARKETABLE SECURITIES
The Company considers all highly liquid investments with a maturity of three
months or less at the date of purchase to be cash equivalents; investments with
maturities between three and twelve months are classified as short-term
marketable securities and investments with maturities which exceed twelve months
are classified as long-term marketable securities. The Company has established
policies which limit the type, credit quality and length of maturity of the
securities in which it invests. The Company's investment policy allows no
investments in any single private issuer to exceed $1,000,000 and the
investments must have, at a minimum, a credit rating of AA. Cash equivalents and
restricted marketable securities at March 29, 1996 consist principally of
investments in money-market funds, commercial paper and U.S. government-agency
obligations and are classified as available for sale. Restricted marketable
securities are carried at amortized cost, which approximates market. Unrealized
gains and losses are immaterial.
CONCENTRATION OF CREDIT RISK
Financial instruments which potentially expose the Company to concentrations
of credit risk include trade accounts receivable; however, this risk is limited
due to the large number of individually smaller customers. Collateral is not
required on these transactions. The Company maintains reserves for potential
credit losses and such losses, in the aggregate, have not exceeded management
expectations.
INVENTORIES
Inventories are stated at the lower of cost or market, cost being determined
using the first-in, first-out (FIFO) method. Cost includes direct materials,
direct labor and manufacturing overhead.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation is computed using
the straight-line method over the estimated useful lives of the related assets
which range from two to five years. Leasehold improvements are amortized over
their estimated useful lives, not to exceed the term of the related lease. The
cost of additions and improvements is capitalized while maintenance and repairs
are charged to expense as incurred.
WARRANTIES
The Company's products are generally under warranty against defects in
material and workmanship for a period of one year. The Company accrues for
estimated future warranty costs at the time of sale.
F-7
<PAGE>
CHOLESTECH CORPORATION
NOTES TO FINANCIAL STATEMENTS
1. OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
INCOME TAXES
The Company uses the asset and liability method of accounting for income
taxes, which requires the recognition of deferred tax liabilities and assets for
the expected future tax consequences of temporary differences between the
financial reporting and income tax bases of assets and liabilities.
NET LOSS PER SHARE
Net loss per share is computed by dividing the net loss by the weighted
average number of common and common equivalent shares outstanding during each
period. Common equivalent shares are included in determining net loss per share,
to the extent they are dilutive, using the treasury stock method.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying value of cash equivalents, short-term bank borrowings and
current portion of long-term debt approximate fair value due to the short
maturity of those instruments.
The fair value of the Company's long-term debt, which approximates its
carrying value, is estimated based on the quoted market prices for the same or
similar issues or on the current rates offered to the Company for debt of
similar maturities.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenue and expenses during the reporting
period. Actual results could differ from those estimates.
IMPACT OF ADOPTION OF NEW ACCOUNTING STANDARDS
In March 1995, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 121 "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" ("FAS 121") which
requires the Company to review for impairment of long-lived assets, certain
identifiable intangibles and goodwill related to those assets whenever events or
changes in circumstances indicate that the carrying amount of an asset might not
be recoverable. In certain situations, an impairment loss would be recognized.
The Company will adopt FAS 121 during fiscal 1997 and, based on its initial
evaluation, does not expect its adoption to have a material impact on the
Company's financial condition or results of operations.
In October 1995, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 123 "Accounting for Stock-Based
Compensation" ("FAS 123") which established a fair value based method of
accounting for stock-based compensation plans and requires additional
disclosures for those companies who elect not to adopt the new method of
accounting. The Company will adopt FAS 123 during fiscal 1997. The Company
intends to continue to account for employee stock options using the intrinsic
value method prescribed by APB Opinion No. 25 and to adopt the "disclosure only"
pro forma alternative described in FAS 123.
F-8
<PAGE>
CHOLESTECH CORPORATION
NOTES TO FINANCIAL STATEMENTS
2. BALANCE SHEET COMPOSITION
Accounts receivable consist of:
<TABLE>
<CAPTION>
MARCH 31, 1995 MARCH 29, 1996
-------------- --------------
<S> <C> <C>
Accounts receivable.......................................... $ 689,000 $ $1,189,000
Less allowance for doubtful accounts and sales returns....... (25,000) (82,000)
-------------- --------------
$ 664,000 $ 1,107,000
-------------- --------------
-------------- --------------
</TABLE>
Inventories consist of:
<TABLE>
<CAPTION>
MARCH 31, 1995 MARCH 29, 1996
-------------- --------------
<S> <C> <C>
Raw materials................................................ $ 854,000 $ 875,000
Work-in-process.............................................. 167,000 380,000
Finished goods............................................... 330,000 655,000
-------------- --------------
$ 1,351,000 $ 1,910,000
-------------- --------------
-------------- --------------
</TABLE>
Property and equipment consist of:
<TABLE>
<CAPTION>
MARCH 31, 1995 MARCH 29, 1996
-------------- --------------
<S> <C> <C>
Machinery and equipment...................................... $ 4,137,000 $ 4,322,000
Furniture and fixtures....................................... 276,000 280,000
Computer equipment........................................... 833,000 866,000
Leasehold improvements....................................... 203,000 215,000
Construction-in-progress..................................... 41,000 131,000
-------------- --------------
5,490,000 5,814,000
Less accumulated depreciation and amortization............... (3,308,000) (3,773,000)
-------------- --------------
$ 2,182,000 $ 2,041,000
-------------- --------------
-------------- --------------
</TABLE>
Property and equipment include assets under capital leases of $1,116,000 and
$841,000 and accumulated depreciation of $1,011,000 and $802,000 at March 31,
1995 and March 29, 1996, respectively. Depreciation expense was approximately
$1,098,000, $570,000 and $470,000 for the fiscal years ended March 25, 1994,
March 31, 1995 and March 29, 1996, respectively.
3. SHORT-TERM BANK BORROWING
In December 1993, the Company entered into an agreement with a bank for a $3
million revolving line of credit. While the agreement is in effect, the Company
is required to maintain on deposit with the bank $3,750,000 of marketable
securities as pledged collateral, restricted as to use when the Company has any
outstanding borrowings under the agreement. The Company has the option of
selecting an interest rate on borrowings under the agreement based on the bank's
reference rate, LIBOR or the bank's short-term certificate-of-deposit rates
(ranging from 5.5% to 8.25%). The Company is not required to pay any commitment
fees on the unused available credit. The agreement expires on October 31, 1996.
As of March 29, 1996, there was $250,000 outstanding under the agreement.
F-9
<PAGE>
CHOLESTECH CORPORATION
NOTES TO FINANCIAL STATEMENTS
4. LONG-TERM DEBT
Long-term debt consists of:
<TABLE>
<CAPTION>
MARCH 29,
1996
-------------
<S> <C>
Note payable, bearing interest at 16%, with monthly installments of $53,000,
and secured by fixed assets, inventory and a portion of accounts receivable... $ 1,298,000
Less current portion........................................................... (499,000)
-------------
Long-term portion.............................................................. $ 799,000
-------------
-------------
</TABLE>
The note contains various provisions including requirements to maintain
$3,000,000 or more in cash, cash equivalents and restricted marketable
securities, net of all non-subordinated debt outstanding, and maintain a
security deposit in the amount of $150,000 payable to the lender in the event of
a default on the note. If the Company's cash and restricted marketable
securities were to fall below $3,000,000, the Company would be required to
deposit with the lender an additional $200,000 as a security deposit.
Annual maturities under the note are as follows:
<TABLE>
<CAPTION>
FISCAL YEAR
- -------------------------------------------------------------------------------
<S> <C>
1997........................................................................... $ 499,000
1998........................................................................... 496,000
1999........................................................................... 303,000
-------------
Total...................................................................... $ 1,298,000
-------------
-------------
</TABLE>
5. LEASES
The Company leases office and laboratory facilities under a noncancellable
operating lease which expires in 2000. The lease provides for renewal options
and options for expansion or reduction of the initial rental space. Rent expense
was $300,000, $300,000, and $195,000 for fiscal 1994, 1995 and 1996,
respectively.
The Company also leases equipment and furniture under capital leases which
contain renewal options and/or options to purchase the equipment and furniture
at fair market value.
Future minimum payments required under capital and noncancellable operating
leases at March 29, 1996 are:
<TABLE>
<CAPTION>
CAPITAL OPERATING
FISCAL YEAR LEASES LEASES TOTAL
- -------------------------------------------------------- --------- ----------- -----------
<S> <C> <C> <C>
1997.................................................... $ 35,000 $ 195,000 $ 230,000
1998.................................................... 7,000 200,000 207,000
1999.................................................... 5,000 205,000 210,000
2000.................................................... -- 205,000 205,000
--------- ----------- -----------
Total minimum lease payments............................ 47,000 $ 805,000 $ 852,000
----------- -----------
----------- -----------
Imputed interest........................................ (3,000)
---------
Present value of net minimum lease payments............. 44,000
Current portion of capital lease obligations............ (33,000)
---------
Capital lease obligations, less current portion......... $ 11,000
---------
---------
</TABLE>
F-10
<PAGE>
CHOLESTECH CORPORATION
NOTES TO FINANCIAL STATEMENTS
6. COMMITMENTS
The Company has obtained rights to use certain technology in the manufacture
of certain of its products. The related agreements provide for the Company to
pay royalties ranging from 0.6% to 6% of net sales of the applicable products.
Total royalty expense for fiscal 1994, 1995 and 1996 was $140,000, $132,000 and
$381,000, respectively.
7. SHAREHOLDERS' EQUITY
PREFERRED STOCK
The Company is authorized to issue 5,000,000 shares of undesignated
Preferred Stock. The Board of Directors has the authority to issue the Preferred
Stock in one or more series and to fix the price, rights, preferences,
privileges and restrictions thereof, including dividend rights, dividend rates,
conversion rights, voting rights, terms of redemption, redemption prices,
liquidation preferences and the number of shares constituting a series or the
designation of such series, without any further vote or action by the Company's
shareholders.
WARRANTS
At March 29, 1996, there were warrants for 39,242 shares of Common Stock
outstanding at an exercise price of $3.50 per share, which expire on July 15,
1999.
EMPLOYEE STOCK PURCHASE PLAN
In April 1992, the Company adopted the Employee Stock Purchase Plan (the
"Plan") which reserved 75,000 shares of Common Stock to be issued in accordance
with the Internal Revenue Code under such terms as approved by the officers of
the Company. In fiscal 1996, 32,177 shares and 18,637 shares were purchased by
employees at prices of $1.59 and $2.01 per share, respectively. In August 1995,
the shareholders approved an increase in the number of shares reserved for
issuance under the Plan from 75,000 to 200,000. The price of stock purchased
under the Purchase Plan is 85% of the lower of (i) the fair market value of the
Common Stock at the beginning of the offering period or (ii) the fair market
value of the Common Stock at the end of the offering period. Employees may end
their participation in the offering at any time during the offering period, and
participation ends automatically on termination of employment with the Company.
STOCK INCENTIVE PROGRAM
The Board of Directors adopted the 1988 Stock Incentive Program (the
"Program") which provides that incentive stock options (ISOs) and nonqualified
stock options (NSOs) for shares of Common Stock may be granted to employees and
consultants of the Company. In accordance with the Program, the stated exercise
price shall not be less than 100% and 85% of the fair market value of Common
Stock on the date of grant for ISOs and NSOs, respectively. The Program provides
that the options shall be exercisable over a period not to exceed five years and
a day and shall vest at a rate of at least 25 percent each year over a four year
period. Vesting may be accelerated upon the occurrence of certain events as
described in the stock option agreement. In August 1995, the shareholders
approved an increase in the number of shares of Common Stock reserved for
issuance under the Program from 1,300,000 to 1,550,000.
As a result of the Company's initial public offering of Common Stock in June
1992, options issued in November 1991 were determined to have been issued at an
amount less than the fair market value of the Company's Common Stock at the date
the options were granted. The difference between the option price and the fair
market value of the Company's Common Stock was determined to contain a
compensatory element. The compensatory element resulted in a charge to
operations in fiscal 1994, 1995 and 1996 of $104,000, $72,000 and $39,000,
respectively.
F-11
<PAGE>
CHOLESTECH CORPORATION
NOTES TO FINANCIAL STATEMENTS
7. SHAREHOLDERS' EQUITY (CONTINUED)
In August 1994, the Company's Board of Directors approved a plan to offer
all current employees and consultants holding outstanding options to purchase
Common Stock of the Company with exercise prices in excess of $3.50 per share
the opportunity to exchange such options for options priced at $3.50 per share.
In exchange for the new options, the employees and consultants forfeited
approximately 25 percent of their vesting credit. At the time of the approval,
the fair market value of the Company's Common Stock was $2.50 per share.
Stock option activity under the Program is as follows:
<TABLE>
<CAPTION>
OUTSTANDING EXERCISE PRICE
OPTIONS PER SHARE
----------- ---------------
<S> <C> <C>
Balance, March 26, 1993........................................ 943,411 $ .20-$15.25
Granted...................................................... 290,652 $ 5.25-$ 7.13
Exercised.................................................... (237,234) $ .20-$ 5.00
Cancelled.................................................... (221,526) $ .20-$13.50
-----------
Balance, March 25, 1994........................................ 775,303 $ .20-$15.25
Granted...................................................... 860,381 $ 1.75-$ 3.50
Exercised.................................................... (47,161) $ .20-$ 5.00
Cancelled.................................................... (709,495) $ .20-$15.25
-----------
Balance, March 31, 1995........................................ 879,028 $ .20-$10.50
Granted...................................................... 212,923 $ 1.75-$ 6.56
Exercised.................................................... (79,885) $ .20-$ 3.50
Cancelled.................................................... (136,383) $ .20-$ 3.50
-----------
Balance, March 29, 1996........................................ 875,683 $ .20-$10.50
-----------
-----------
</TABLE>
As of March 29, 1996, options for 518,244 shares of Common Stock were
exercisable.
8. INCOME TAXES
Deferred tax assets (liabilities) consist of the following:
<TABLE>
<CAPTION>
MARCH 31, MARCH 29,
1995 1996
--------------- ---------------
<S> <C> <C>
Net deferred tax assets:
Net operating loss carryforwards......................... $ 16,417,000 $ 17,611,000
Research and development tax credit
carryforwards........................................... 1,881,000 1,963,000
Capitalized research and development..................... 456,000 487,000
Other.................................................... 300,000 (756,000)
Valuation allowance for deferred tax assets.............. (19,054,000) (19,305,000)
--------------- ---------------
$ -- $ --
--------------- ---------------
--------------- ---------------
</TABLE>
The Company has net operating loss carryforwards available to reduce taxable
income through 2011 for federal and state income tax purposes of approximately
$46,044,000 and $21,035,000, respectively. Additionally, the Company has
research and development credit carryforwards available to reduce taxes payable
through 2011 for federal and state income tax purposes of approximately
$1,470,000 and $493,000, respectively.
As a result of the Series C Preferred Stock offerings in May 1990, there is
an annual limitation of approximately $1,500,000 for federal and state income
tax purposes on the use of approximately
F-12
<PAGE>
CHOLESTECH CORPORATION
NOTES TO FINANCIAL STATEMENTS
8. INCOME TAXES (CONTINUED)
$8,100,000 and $1,080,000 of net operating losses, and of $390,000 and $160,000
of tax credit carryforwards, respectively. Additionally, as a result of the
Company's secondary offering in December 1992, the Company's net operating
losses and tax credit carryforwards incurred prior to December 1992 are subject
to an annual limitation of approximately $5,450,000 for federal and state income
tax reporting purposes on the use of approximately $28,176,000 and $8,099,000 of
net operating loss carryforwards, respectively, and of $1,151,000 and $379,000
of tax credit carryforwards, respectively. If the amount of these limitations
are not utilized in any year, the amount not utilized increases the allowable
limit in the subsequent year.
9. RETIREMENT SAVINGS PLAN
Effective in September 1990, the Company adopted the Cholestech Corporation
Retirement Savings Plan (the "401(k) Plan") that covers all employees of the
Company. An eligible employee may elect to defer, in the form of contributions
to the 401(k) Plan, between 1% and 15% of the total compensation that would
otherwise be paid to the employee, not to exceed $9,240 per year (adjusted for
cost-of-living increases). Employee contributions are invested in selected
mutual funds or a money market fund according to the directions of the employee.
The contributions are fully vested and nonforfeitable at all times. The 401(k)
Plan provides for employer contributions as determined by the Board of
Directors. The Company has not made any contributions through fiscal 1996.
10. RELATED PARTY TRANSACTIONS
In April 1988, the Company granted a loan to an officer in connection with
his purchase of 35,640 shares of the Company's Common Stock pursuant to a stock
purchase agreement. The loan was evidenced by a promissory note in the amount of
$35,640 due in April 1993, which bore interest at the annual rate of 8%. In June
1993, the Board of Directors approved an amendment to the loan agreement
providing for forgiveness of the prinipcal loan balance in April 1995 as long as
the officer remained employed by the Company until such time. The loan was
forgiven in April 1995.
In April 1992, the Company entered into an employment agreement with an
officer providing for certain relocation benefits, and a bridge loan. In July
1992, the officer executed a promissory note evidencing a $100,000 bridge loan.
This interest free promissory note was repaid in full in October 1992. In July
1992, the officer borrowed $65,000 from the Company pursuant to a second
promissory note. This promissory note bore interest at a rate of 8.0% per annum,
was due September 1994, and provided for quarterly forgiveness of $8,125 of the
outstanding balance and any accrued interest as long as the officer remained
employed with the Company. The loan was forgiven in full, and recorded as
compensation expense in the statement of operations, as of March 31, 1995.
11. SUBSEQUENT EVENTS
In May 1996, the Company entered into a development, marketing and license
agreement (the "Agreement") with Metra Biosystems to develop an immunoassay test
cassette incorporating Metra Biosystems bone resporation technology to be used
with the L-D-X System. Pursuant to the Agreement, Metra Biosystems purchased
39,526 shares of the Company's Common Stock for an aggregate purchase price of
$250,000 ($6.325 per share) and is obligated to purchase $750,000 of additional
shares of Common Stock upon the completion of specified milestones by the
Company.
On May 9, 1996, the Company filed a Registration Statement with the
Securities and Exchange Commission to register for sale 3,450,000 shares of
Common Stock, which includes 450,000 shares related to the over-allotment
option.
F-13
<PAGE>
EXHIBIT 23.1
CONSENT OF INDEPENDENT ACCOUNTANTS
We hereby consent to the incorporation by reference in the Registration
Statements on Form S-8 of Cholestech Corporation of our report dated April 24,
1996, except as to Note 11 which is as of May 9, 1996, appearing on page F-2 of
Cholestech Corporation's Annual Report on Form 10-K.
PRICE WATERHOUSE LLP
San Jose, California
June 25, 1996
