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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
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[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED MARCH 31, 2000
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ____________ TO ____________ .
COMMISSION FILE NUMBER: 000-20198
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CHOLESTECH CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
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<S> <C>
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)
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REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (510) 732-7200
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
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NAME OF EACH EXCHANGE
TITLE OF EACH CLASS ON WHICH REGISTERED
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None None
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SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, NO PAR VALUE
SERIES A PARTICIPATING PREFERRED 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 [ ] No [X]
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, 2000 as reported on the NASDAQ National Market, was approximately
$85,366,834. 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, 2000, registrant had outstanding 11,921,251 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 2000 Annual Meeting of Shareholders
to be held August 17, 2000.
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PART I
ITEM 1: BUSINESS
This Annual Report on Form 10-K, including the information incorporated by
reference herein, includes "forward looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended (the "Securities Act") and
Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"). All of the statements contained in this Annual Report on Form 10-K, other
than statements of historical fact, should be considered forward looking
statements, including, but not limited to, those concerning the Company's
strategies, objectives and plans for expansion of its operations, products and
services, and growth in demand for the Cholestech L-D-X(R) System. There can be
no assurance that these expectations will prove to have been correct. Certain
important factors that could cause actual results to differ materially from the
Company's expectations (the "Cautionary Statements") are disclosed in this
Annual Report on Form 10-K, including, without limitation, in the section
entitled "Factors Affecting Future Operating Results" in Item 7 -- Management's
Discussion and Analysis of Financial Condition and Results of Operation and this
section. All subsequent written and oral forward looking statements by or
attributable to the Company or persons acting on its behalf are expressly
qualified in their entirety by such Cautionary Statements. Investors are
cautioned not to place undue reliance on these forward looking statements, which
speak only as of the date hereof and are not intended to give any assurance as
to future results. The Company undertakes no obligation to publicly release any
revisions to these forward looking statements to reflect events or reflect the
occurrence of unanticipated events.
GENERAL
The Company engages in three business activities:
- Diagnostic Products -- which develops, manufactures and markets the
Cholestech L-D-X(R) System (the "L-D-X System") which performs
near-patient diagnostic testing to assist in assessing for risk of
certain chronic diseases and to assist in the monitoring of therapy to
treat those diseases.
- WellCheck(TM) -- which conducts consumer testing within the United States
to assess for risk of certain chronic diseases and to assist in the
monitoring of therapy to treat those diseases.
- WellCheck.com -- is currently under development, and plans to provide
interactive tools to consumers through the Internet to better assess for
risk of certain chronic diseases and to monitor and motivate personal
health management of those diseases.
Diagnostic Products currently markets the L-D-X System, including the L-D-X
Analyzer and a variety of single use test cassettes, in the United States and
internationally. The L-D-X System is capable of measuring multiple analytes
simultaneously with a single drop of whole blood, producing test results within
five minutes. The Company's current products measure and monitor blood
cholesterol, related lipids, glucose, and liver function, and are used to
perform testing of patients at risk of or suffering from cardiovascular disease,
diabetes or liver disease.
WellCheck currently provides consumer-testing services utilizing the
Cholestech L-D-X System, as well as various other technologies for the
assessment of blood pressure, osteoporosis, glycated hemoglobin and general
health information. WellCheck was initiated through the acquisition of Health
Net, Inc., ("Health Net") of Hammond, Louisiana in January of 2000. The Company
intends to expand the WellCheck testing services offered through a combination
of further acquisitions and internal development with the goal of developing the
first truly nationwide consumer testing service for chronic disease.
Substantially all of the WellCheck revenue is currently derived from promotional
programs with major pharmaceutical companies marketing lipid-lowering statin
drugs. The Company believes that there is an opportunity to further expand the
WellCheck business into retail testing venues and worksite wellness programs.
WellCheck.com is currently under development with the expectation of
launching in June, 2000.
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The Company believes that the waived status, technological flexibility,
ease of use, accuracy, rapid results, low operating costs, quality, and
interactive nature of its products and services provide it with competitive
advantages, specifically:
- The L-D-X systems features are well suited to the needs of near-patient
testing, and
- The features of the L-D-X system provide regulatory advantages which
translate into time and cost savings for its users.
MARKET OVERVIEW
The market for the Company's products and services exists where the
management of chronic disease and the growing consumer trend for personal health
management meet.
Chronic diseases are long lasting or frequently recurring illnesses that,
due to their protracted and serious nature, are costly to treat and monitor. The
most prevalent chronic diseases include, among others, cardiovascular disease
and diabetes.
- The American Heart Association estimates that more than 58 million people
suffer from cardiovascular disease, the leading cause of death of adults
in the United States, resulting in over one million deaths in 1995.
- High levels of cholesterol have been linked by conclusive evidence to
cardiovascular disease, and National Cholesterol Education Program
("NCEP") data indicate that more than 50% of the adult population in the
United States has high or borderline high cholesterol levels.
- Diabetes is estimated to afflict more than 16 million people in the
United States, over a third of whom have not been identified as being
diabetic.
- Diabetes often results in a number of short term and long term
complications such as nerve damage, kidney disease and retinal damage.
- Cardiovascular disease and renal failure are the most prevalent causes of
death among diabetics.
The Company believes that there is a growing consumer trend towards
personal health management. This trend has been stimulated to a large degree by
the availability of the Internet.
- Almost half of Americans today access the Internet.
- Health information is the second most frequently sought area of content.
- Researchers estimate that over 40% of all Internet searches are related
to health information.
- Lack of healthcare coverage for a large portion of the American
population and the rise of managed care may also be driving factors for
this trend.
The Company believes that it is uniquely positioned to meet the needs of
these two markets, by providing the only cost effective technologies which
- Screen for certain chronic diseases, most specifically cardiovascular
disease.
- Monitor the ongoing condition of people with cardiovascular disease whose
treatment programs may include long-term complex drug therapies.
- Increase therapy effectiveness through positive reinforcement and
motivational counseling
- Enable consumers to take a more active role in their personal health
management.
MARKET OPPORTUNITY FOR SPONSORS AND PARTNERSHIPS
Many other companies and businesses are interested in reaching these same
consumers who may potentially be at risk for elevated cholesterol. Because
Cholestech is uniquely positioned with its technology
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and services to meet the needs of consumers wishing to personally manage their
cardiovascular health, the Company is an attractive partner to these other
interested companies and businesses.
Pharmaceutical companies have focused considerable resources on developing
drugs for the treatment of cardiovascular disease, diabetes and other chronic
diseases. While drug therapy is necessary for the overall treatment of chronic
diseases; diagnostic screening, and the proper monitoring of therapy is also
important in an effective program to manage chronic diseases. Widespread
diagnostic screening for chronic diseases aids in the early identification of
patients who would benefit from drug therapy. Effective administration of drug
therapies often requires careful therapeutic monitoring of drug impact on body
chemistry to ensure proper drug dosages, monitor improvement and reduce the risk
of side effects. Moreover, ongoing compliance with drug therapy is necessary for
effective treatment and reduces the risk to patients of adverse acute events.
- Studies show that noncompliance with drug therapy is a major health care
problem that may be responsible for almost 10% of all hospital
admissions, 23% of all nursing home admissions and the loss of 20 million
work days each year.
- Additional data is also available to show that with the class of
lipid-lowering drugs called "statins," three-quarters of patients
prescribed a lipid-lowering drug are not taking the medication one year
later.
- National statistics from the National Cholesterol Education Program show
that 9 out of 10 patients on a lipid-lowering program never reach their
cholesterol goals.
A wide range of non-pharmaceutical companies have developed products which
also target consumers with cholesterol problems or interests. These include the
manufacturers of food, vitamin, and other non-regulated neutraceutical products
which have features and benefits designed to reduce cholesterol. Cholestech is
also uniquely positioned to help these companies identify and market to
cholesterol-interested consumers.
One of the emerging issues in healthcare is the increase of self-insured
employers, and the increasing number of health and quality-of-life programs
offered by employers to their employees. Cholestech is also uniquely positioned
to help these companies provide programs which screen their employees for
cardiovascular risk and support cardiovascular health programs within the
employer's provider plan.
The Company believes that it is well positioned to meet the needs of
potential sponsors and partners. Cholestech's unique technology, easy and
convenient service, and interactive web-tools, create a personal interaction
with the consumer, which may be expanded to include other related products and
services.
MARKET SEGMENTS
Cholestech's products and services are specifically targeted at markets
outside of the traditional hospital or clinical laboratory. These include:
- Physician Office Laboratories, which are operated by physicians or groups
of physicians. The Physician Office Laboratory market consists of
approximately 96,000 sites registered with the Health Care Finance
Administration approximately 35,000 of which are registered to perform
only CLIA waived tests.
- Pharmacy sites, including approximately 53,000 independent and retail
chain pharmacies, which have begun positioning themselves to respond to
the consumer-trend toward personal health management, although
pharmacists face difficult reimbursement issues in a group of states with
blocking state legislation.
- Health promotion sites, which include a variety of locations such as
corporate wellness programs, fitness centers, health promotion service
providers, community health centers, public health programs, the United
States military and other independent screeners.
- Consumer events, including promotional sporting and social events, and
retail-venue events.
- eHealth, including Internet-enabled information requests, counseling, and
monitoring of cardiovascular disease and cholesterol.
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THE CHOLESTECH STRATEGY
Cholestech's strategy is to leverage the technological capabilities and
performance of its core Diagnostic Products business to allow the Company to
expand into the emerging area of personal health management of chronic diseases.
The Company has developed its WellCheck subsidiary to forward integrate its
traditional business directly to the consumer, and hopes to achieve both
financial and competitive advantages through immediate and personal contact with
the people who receive the Company's tests. The Company is developing its
WellCheck.com subsidiary to provide internet-enabled tools directly to
consumers, intended to allow them to better manage their cardiovascular health
and potentially increase their chances of reaching their cholesterol goals.
The components of the Cholestech strategy which are related to its
Diagnostic Products business include:
- Multiple and Flexible Testing Capabilities. Effective management of
chronic diseases often requires testing of multiple analytes. The CLIA
waived L-D-X System performs multiple tests simultaneously, enabling more
efficient testing required for chronic disease management. The modular
and flexible architecture of the L-D-X System places much of the testing
technology in the single use test cassettes and system software, which
decreases the development costs and the time to market for new tests
added to the L-D-X System. This architecture facilitates the Company's
continued enhancement of the L-D-X System's multi-analyte testing
capabilities.
- Expansion of Testing Technology. To effectively expand the chronic
diseases addressed by the Cholestech L-D-X System, the Company's strategy
is to develop a more effective and efficient platform technology and
expand its range of multi-analyte, single-use, disposable cassettes to
address additional diagnostic tests to screen for and manage chronic
disease.
- Expansion of Manufacturing Capabilities and Efficiencies. To effectively
expand the Company's penetration of its markets, the Company's strategy
is to expand its manufacturing capacity with the introduction of a third
line for the manufacture of cassettes. Additionally, the Company will
seek to improve on the key performance attributes of its manufacturing
process, including quality, yields, and efficiencies through the
introduction of new manufacturing technology.
- Expansion of Distribution Relationships. The Company intends to augment
its sales and marketing efforts by continuing to establish relationships
with select third party distributors to strategically access its markets
in the United States and internationally.
- Increase Market Penetration. The Company intends to further penetrate the
POL, pharmacy and health promotion markets by increasing the installed
base of L-D-X Analyzers. The Company has implemented marketing programs
to increase awareness of the advantages of the L-D-X System among health
care providers, third party payors, and Consumers. In addition, the
Company has entered into strategic relationships with major
pharmaceutical companies to promote preventive care testing with the
L-D-X System as critical components of chronic disease management.
- Expansion of Cassette Utilization. The Company intends to increase the
demand for single use test cassettes through the expanded venues to be
offered by the WellCheck Business unit and repeat testing stimulated by
the WellCheck.com web site. The Company believes increased testing will
be achieved through the combination of improved compliance testing for
people currently monitoring cholesterol as well as new people requesting
testing.
The components of the Cholestech strategy which are related to its
WellCheck business include:
- Broaden Consumer Testing. The Company intends to broaden its geographic
coverage of the WellCheck testing service by acquiring additional
regional testing companies, or expanding through internal growth into
retail testing and/or worksite wellness.
- Improve Consumer Access to Testing. The Company intends to capitalize on
its technological advantage of testing outside of the clinical or
hospital laboratory by providing products and services that improve
people's access to chronic disease risk assessment and management. The
Company
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believes that more convenient testing will increase the frequency of
diagnostic testing and may lead to earlier identification of patients at
risk of or suffering from chronic diseases.
- Improve Therapy Compliance. Studies have shown that easier access to
testing sites may improve drug, diet, and exercise therapy compliance.
Used in convenient consumer-settings, the L-D-X System makes therapeutic
monitoring more convenient for patients. Also, the L-D-X System provides
patients with feedback on therapy effectiveness within five minutes. The
Company believes that both of these benefits contribute to increased
patient compliance with drug therapy. The Company believes that the
potential for increased drug sales from improved compliance represents a
significant incentive for pharmaceutical companies.
The components of the Cholestech strategy which are related to its
WellCheck.com business include:
- Develop WellCheck.com and TEAMS. The Company is currently developing its
internet website and test event activity management systems (TEAMS).
- Personal Health Management for Chronic Disease. The Company plans to
provide interactive tools to consumers through the Internet, for the
monitoring and management of their cardiovascular health. By creating its
WellCheck.com website, Cholestech hopes to provide current and medically
meaningful information concerning the risks and potential therapy
programs for the management of cholesterol. Additionally, WellCheck.com
will provide individual, privacy-protected space for the user to manage
his or her own cholesterol over time with key input from individual
cholesterol test results, nutritionists, personal fitness experts,
pharmacists and preventive cardiologists, all of whom provide motivation
and counseling to enable the consumer to reach their personal cholesterol
goals.
- Further Develop Strategic Relationships. The Company has established and
intends to further develop strategic relationships to create new products
and to improve penetration of its target markets. In particular, the
Company intends to further its alliances with major pharmaceutical
companies and other health care companies to position the Company's
products and services as the preferred tools for the personal health
management for chronic disease.
- Expansion of Business Partnerships. The Company intends to provide more
effective marketing access for cholesterol-interested companies.
PRODUCTS AND PRODUCTS UNDER DEVELOPMENT
Cholestech offers a variety of products and services in each of its three
areas of business, including products currently under development.
DIAGNOSTIC PRODUCTS:
Diagnostic Products is focused on the manufacturing, marketing, and
development of diagnostic testing technology.
Overview of the L-D-X System
The L-D-X System is an easy to use, multi-analyte testing system consisting
of a telephone sized analyzer, a variety of single use, credit card sized test
cassettes, a printer and accessories. The L-D-X System enables health care
providers to perform individual tests or combinations of tests with a single
drop of whole blood within five minutes. No special training is required to
operate the L-D-X System and the sample does not need to be pre-treated. To run
a test, the health care provider pricks the patient's finger, transfers a drop
of blood to the cassette's sample well, inserts the cassette into the L-D-X
Analyzer's cassette drawer and presses the "run" button. All further steps are
performed by the L-D-X System, which produces results comparable in precision
and accuracy to results from larger, more expensive bench top and laboratory
instruments that are not CLIA waived.
The L-D-X System includes software that performs cardiac risk assessments
using risk factor parameters developed from the Framingham study (a long term
study of cholesterol levels and cardiovascular disease),
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TC and HDL test results and other cardiac risk factors that the health care
provider enters into the L-D-X Analyzer.
The design of the L-D-X System incorporates as much proprietary technology
as possible into the test cassettes and maintains the L-D-X Analyzer as a
platform that can be easily adapted as new tests and other product upgrades are
introduced. As health care providers perform different tests, encoding on the
cassette's magnetic stripe communicates test specific and calibration
information to the L-D-X Analyzer. Changes that cannot be captured on the
cassette's magnetic stripe can be accomplished by changes to the L-D-X
Analyzer's removable read only memory ("ROM") software pack. This flexible
design enables health care providers to perform a variety of tests using the
same L-D-X Analyzer and to take advantage of new tests and other product
upgrades without having to purchase a new L-D-X Analyzer.
The 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 of a test cassette and
incorporates a microprocessor with on-board software. The L-D-X Analyzer
contains a drawer for insertion of the cassette, three buttons for user
activation and a liquid crystal display to present the test results. Utilizing
the information and instructions encoded on the cassette's magnetic stripe, the
L-D-X Analyzer's built-in microprocessor regulates the reaction conditions,
controls the optical measurements of analyte concentrations on the cassette's
reaction pads, executes the required calculations and, within five minutes,
displays the quantitative results on the liquid crystal display. The results are
displayed as a numerical value of the level of the analyte tested and can be
transferred to a printer, computer or computer network.
The software calculates the numeric values of the test results and is
contained in a removable ROM software pack mounted in an access well on the
bottom of the L-D-X Analyzer. The Company will continue to upgrade the software
as new products are developed, allowing health care providers to easily replace
the existing ROM pack with a new ROM pack containing upgraded software. The
Company has made available to existing users a new ROM pack containing its
cardiac risk assessment software, as well as a new ROM pack reflecting certain
changes required to receive the CLIA waiver. The L-D-X Analyzer, in combination
with a printer, accessories and starter pack, constitutes an L-D-X System, and
currently has a list price of $1,995.
Cassette Products
The Company's line of single use test cassettes for the L-D-X System
incorporates patented and licensed technology for distributing precisely
measured plasma to multiple reaction pads for simultaneous testing. 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 the 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 reacts with the analytes in
the plasma, producing color. The intensity of color developed indicates the
concentration of the analytes 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 the analytes being
tested. This automatic process frees the health care provider from having to
interpret any color reaction, relate a reading to a separate chart or input
calibration information. The Company's available test cassettes range in current
list price from $3.95 to $10.95 per cassette, which includes up to four tests
per cassette.
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The following table summarizes the Company's current products and products
under development:
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PRODUCT REGULATORY STATUS(1)
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INSTRUMENT
L-D-X Analyzer FDA cleared; CLIA waived
CASSETTE PRODUCTS
Current
TC FDA cleared; CLIA waived
TC and HDL FDA cleared; CLIA waived
Lipid Profile FDA cleared; CLIA waived
(TC/HDL/ calculated LDL/Triglycerides)
TC and Glucose FDA cleared; CLIA waived
TC/HDL/Glucose FDA cleared; CLIA waived
Lipid Profile plus Glucose FDA cleared; CLIA waived
Alanine Aminotransferase (ALT) FDA cleared, applied for CLIA
waiver
Under Development(2)
None
In Feasibility Studies(3)
Glycated Hemoglobin Not filed or applied
Direct HDL Not filed or applied
Direct LDL Not filed or applied
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(1) "FDA" means the United States Food and Drug Administration, "FDA cleared"
means that the product has received clearance pursuant to Section 510(k)
("510(k)") of the Food, Drug and Cosmetics Act of 1938, as amended (the "FDC
Act"). "CLIA waived" means that the Center for Disease Controls and
Prevention (the "CDC") has granted the Company's application to classify the
product as having waived status with respect to CLIA.
(2) Products under development are those in the prototype stage, meaning that
cassette shelf life is being evaluated, the test is being evaluated in-house
against samples designed to mimic the range of real patient samples, pilot
manufacturing equipment is being developed and/or the Company has applied
for CLIA waiver.
(3) Products in feasibility studies are those for which a theoretical design for
the product has been developed and test chemistry is being evaluated in the
laboratory.
Current Cassette Products
The Company's current cassette products are designed to measure and monitor
blood cholesterol, related lipids and glucose. Lipids travel in the blood within
water-soluble particles called lipoproteins.
- TC. This stand-alone test for measuring total cholesterol was the
Company's first test, developed in conjunction with NCEP guidelines
issued in 1988. The TC test is used primarily at health promotion sites
for diagnostic screening. Current NCEP screening guidelines recommends
additional testing for HDL.
- TC and HDL Panel. The TC and HDL panel addresses current NCEP guidelines
regarding the screening for the risk of cardiovascular disease by testing
both TC and HDL. HDL (high-density lipoproteins) particles circulate in
the blood and can pick up cholesterol from arteries and carry it to the
liver for elimination from the body. HDL is sometimes called "good
cholesterol" because of this function. The Company believes the TC and
HDL panel is particularly useful in diagnostic screening applications.
This panel also calculates LDL (low density Lipoprotein) the ratio of TC
to HDL, and the ratio of HDL to LDL, a recognized measure of cholesterol
induced cardiac risk.
- Lipid Profile. The Company offers a lipid profile cassette, which
directly measures TC, HDL and Triglycerides. In addition, the lipid
profile cassette calculates estimated values for LDL, the ratio of
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HDL to LDL, and the ratio of TC to HDL. The development of cardiovascular
disease has been associated with three lipoprotein abnormalities: (i)
high levels of LDL; (ii) high levels of VLDL; and (iii) low levels of
HDL. LDL, the major carrier of cholesterol, and VLDL, a major carrier of
Triglycerides in the blood, has been shown to be associated with deposits
of plaque on the arterial wall. High levels of Triglycerides can also
lead to development of such plaque. Accumulation of this plaque leads to
narrowing of arteries and increases the likelihood of cardiovascular
disease. The lipid profile cassette thus performs multiple tests in the
diagnostic screening and ongoing therapeutic monitoring of individuals
who have high LDL levels or who exhibit two or more other cardiovascular
disease risk factors. NCEP guidelines recommend that health care
providers perform three lipid profiles, each one-week apart, prior to
initiating lipid lowering drug therapy.
- TC and Glucose Panel, TC/HDL/Glucose Panel and Lipid Profile plus Glucose
Panel. Recognizing the relationship between diabetes and abnormal lipid
levels, the Company developed a glucose test for the L-D-X System and
combined it with each of its three lipid related test panels. The
resulting panels provide input used in the diagnostic screening and
therapeutic monitoring of patients with diabetes, whether or not they are
aware they are diabetic, as well as of individuals who may be at risk of
cardiovascular disease.
- AlanineAminoTransferase (ALT) Patients undergoing certain drug therapies
must be monitored for increases in certain enzymes that are associated
with liver damage. The availability of an ALT test combined with the
Company's lipid profile would allow health care providers to monitor, in
the POL and pharmacies, both the impact of and potential adverse side
effects on the liver from lipid lowering and diabetic therapies. The
Company has determined the technological feasibility of combining on one
cassette the ALT test with the lipid profile and is evaluating other
potential uses of the test. The Company received 510(k) clearance to
market ALT in September, 1999. The Company applied for CLIA-waived status
in September, 1999. The Company cannot estimate when the FDA will
determine whether to grant CLIA waived status for this test or whether
such waived status will be granted. The Company is currently marketing
ALT as a moderately-complex test, pending CLIA waiver.
Cassette Products Under Development
The Company has pursued tests for BUN, Creatinine, and Bone Resorption. Due
to the more limited market opportunity of the BUN/Creatinine and Bone Resorption
tests, as well as low reimbursement levels, the Company has determined that
there is little or no economic advantage in bringing these tests to market.
Cassette Products in Feasibility Studies
The Company is in various stages of feasibility studies for new cassettes
that would expand its product line for diagnostic testing. The Company may
develop additional tests depending on the progress of its existing development
efforts and available resources.
Glycated Hemoglobin. Glycated hemoglobin measurement is an immunoassay test
used by health care providers to assess a diabetic's long term compliance with
prescribed diet and insulin usage. A relatively high percentage of 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 of glycated hemoglobin for all individuals with
diabetes. The Company received a "Small Business Innovative Research" grant of
$100,000 from the United States Department of Health and Human Services to
further develop this test on the L-D-X System.
Direct HDL. The direct HDL-cholesterol test provides the ability to measure
HDL-cholesterol directly in the patient sample without the need to remove the
non-HDL-cholesterol lipoproteins from the sample before analysis and is required
with the current HDL-cholesterol test on the LDX cassette. The direct HDL-
cholesterol test represents the next generation of measurement of
HDL-cholesterol and it is planned to replace the current HDL-cholesterol test.
Direct LDL. The direct LDL-cholesterol test permits the direct measurement
of LDL-cholesterol in patient sample. Currently, the only routine clinical
measurement of LDL-cholesterol is by estimating the LDL-cholesterol
concentration in the patient sample through the measurement of Total
cholesterol, HDL-
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cholesterol and Triglycerides. The calculated LDL-cholesterol is subject to a
number of limitations including the need for a fasting sample. The direct
LDL-cholesterol test should be reimbursable, where as the calculated test is
not.
To complete its product development programs, particularly with respect to
immunoassay tests, the Company may be required to develop new technologies,
processes and production equipment and 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 above,
or even if successfully developed, that such tests will receive regulatory
clearance or that the Company will be able to successfully manufacture or market
such tests. The Company intends to design and develop most of these products so
as to be eligible for 510(k) clearance and waivers under CLIA, although there
can be no assurance that the Company's products under development will obtain
such clearance or waivers. See "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Factors Affecting Future
Operating Results -- Dependence on Development, Introduction and Market
Acceptance of New Tests" and "-- Government Regulation."
WELLCHECK:
WellCheck is focused on providing easy and economic testing for chronic
disease to settings across the United States which are convenient to consumers.
Overview of the WellCheck Testing Service
WellCheck was initiated in 1999 through a three city pilot program, where
7,500 consumers were tested using the Cholestech L-D-X System. This pilot
program was conducted in Chicago, Cincinnati, and Houston in a combination of
Dominic's grocery stores, Krogers grocery stores, Walgreen's drug stores, and
Wal-Mart mass merchandisers. In August of 1999 the Company and its Board of
Directors made the decision to forward-integrate its existing Diagnostic
Products business to the point of consumer testing. Announced in November of
1999, the Company's strategy for this business includes the acquisition of
existing testing service companies and the expansion of those businesses through
internal growth to create one of the first truly nationwide testing service for
chronic disease outside of the clinical and hospital laboratory.
Current WellCheck Services
In January of 2000 the Company announced its first acquisition within the
umbrella of the WellCheck business, Health Net Inc. of Hammond, Louisiana.
Health Net began operating under the WellCheck brand as part of Cholestech's
operations on January 22, 2000. Substantially all of the WellCheck business, as
it exists today, is derived from promotional programs with major pharmaceutical
companies, but also includes programs in pharmacies, at conventions, health risk
appraisals, and other disease-specific screening programs.
WellCheck Services Under Development
The Company is currently in the process of expanding its WellCheck business
through the assessment of additional acquisition or partnership candidates who
may add more specific regional coverage to the WellCheck testing service. The
Company is also developing plans for the addition of retail testing programs,
and potentially broader worksite wellness programs, to its WellCheck offering.
WELLCHECK.COM:
WellCheck.com is focused on providing state-of-the-art medical information
and interactive tools to consumers for the management of cardiovascular, and
potentially other chronic diseases, through the Internet.
Overview of Interactive Disease Management Tools Under Development
WellCheck.com has two interactive software programs currently under
development:
- Test Event Activity Management System ("TEAMS"). TEAMS is a proprietary
interactive testing program which is planned to facilitate the operation
of a chronic disease testing event utilizing the
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Cholestech L-D-X System. TEAMS can be used to plan and set up a testing
event by providing full logistical support processes. Once a test event
has begun, TEAMS is planned to interact with the L-D-X System to initiate
testing and move test result information from the L-D-X System to the
WellCheck database. Additional information specific to the individual
consumer can be added to the onsite WellCheck database and custom reports
assessing an individual's results and potential risk of cardiovascular
disease, based upon the long-established Framingham Study, can be
provided immediately at the point of test. TEAMS will assign a
User-specific identification and password (PIN), enabling the consumer to
log-on to the WellCheck.com website, where he or she will find a full set
of interactive tools for the management of cardiovascular disease,
including a personal, privacy-protected space with the individual's test
result already in place.
- WellCheck.com is planned to be an interactive website, currently under
development, for the management of cardiovascular disease and
cholesterol. The site is designed to offer six key areas of expertise:
- Physician Support: Through the use of a virtual physician, developed
in large part through the assistance of the Company's Medical Advisory
Board of preventive cardiologists and the Stanford University Medical
School cardiac management program, consumers will be able to more
accurately assess their individual risk of cardiovascular disease. The
virtual physician will include risk assessments, cardiovascular and
cholesterol content, and medical recommendations to the individual
based upon his or her condition and goals.
- Pharmacist Support: Through the use of a virtual pharmacist, consumers
can explore over the counter and neutraceutical options for the
management of their individual risk of cardiovascular disease.
- Nutritionist Support: Through the use of a virtual nutritionist,
consumers can explore various food and diet options for the management
of their individual risk of cardiovascular disease.
- Personal Trainer: Through the use of a virtual personal trainer,
consumers can explore various exercise and physical activity options
for the management of their individual risk of cardiovascular disease.
- Motivation Support and Behavior Modification: Specific areas of the
WellCheck.com interactive program are designed to provide motivational
support and behavior modification. These include the use of prompts
and reminders, as well as tracking and goal setting tools.
- Personal Health Management: Specific areas of the WellCheck.com
interactive program are designed to provide individual,
privacy-protected activities. These include areas where and
individual's test results, medical history, and individual or
physician-entered data reside. This area is used specifically for the
individual to track his or her cholesterol levels, set goals, and
manage progress towards achieving his or her personal cardiovascular
objectives.
STRATEGIC RELATIONSHIPS
The Company has established and continually seeks to develop strategic
relationships, which it believes will enhance the commercialization of its
products. In particular, the Company intends to enter into additional alliances
with major pharmaceutical and other companies that will enhance the Company's
market positioning and its product offerings. The Company's current strategic
relationships are described below.
Merck and the American Pharmaceutical Association (the "APhA") ("Project
ImPACT")
In January 1996, the APhA announced Project ImPACT (Improve Persistence And
Compliance to Therapy), a joint effort between the APhA, Merck and Cholestech.
The goal of this project was to demonstrate the ability of pharmacists to
improve patient outcomes by expanding the pharmacist's role in chronic disease
management, including monitoring the therapeutic effectiveness of medications
and providing counseling to patients. The Company and the APhA believe that
utilizing pharmacists to provide such services
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may result in both direct and indirect cost savings to patients and third party
payors, as well as provide economic incentives for pharmacists. The Company
supplied L-D-X Systems to monitor patients in this pharmacy based cholesterol
management project.
On March 14, 2000, Cholestech announced the final results of "Project
ImPACT:Hyperlipidemia," released at the American Pharmaceutical Association's
147th Annual Meeting in Washington D.C. The March/April 2000 issue of the
Journal of the American Pharmaceutical Association announced that the Cholestech
L-D-X(R) System played an integral part in helping participating health care
providers successfully manage patients with cholesterol disorders achieve
optimal results.
Directed by the APhA Foundation, and funded through an unrestricted
educational grant from Merck Human Health (NYSE:MRK) and Cholestech, Project
ImPACT:Hyperlipidemia involved 397 patients, 26 pharmacy practice sites in 12
states, and over 60 pharmacists. It was designed to demonstrate how pharmacists
who act as disease state managers for patients with high cholesterol or lipid
disorders can Improve Persistence And Compliance with Therapy (ImPACT), working
in collaboration with the patient's physician.
The project's final results, based on 24 months of data, demonstrated that
monitoring lipid levels at regular intervals, and with healthcare provider
collaboration, increased rates for persistence and compliance with medication
therapy to 93.6 percent and 90.1 percent, respectively. In addition, the project
found that 62.5 percent of these patients had reached and were maintained at
their National Cholesterol Education Panel's (NCEP) cholesterol goals. These
results represent a twofold to fourfold improvement when compared to historical
findings.
In addition to its participation in Project ImPACT, the Company has a
nonexclusive agreement with Merck to place L-D-X Systems in pharmacies selected
by Merck. There are no minimum purchase requirements under this agreement.
Parke-Davis/Pfizer
Cholestech has entered into numerous promotional programs with Parke-Davis
and Pfizer Corporations in relation to the cholesterol-lowering statin drug
"Lipitor." These have included:
- Phase IV Clinical Trials: Cholestech supplied approximately 1,000 L-D-X
Systems, together with sufficient Lipid Profile Cassettes and
accessories, to conduct a Phase IV Clinical Trial in support of
Parke-Davis' lipid lowering drug "Lipitor" in June and August of 1998.
- Professional Golf Association ("PGA") Tour Screenings. Parke-Davis,
Cambridge Health Partners and the Lipid Nurse Taskforce collaborated to
provide free diagnostic screening using the L-D-X System and promote
cholesterol awareness at 10 PGA tour events in 1998.
- "Cholesterol Low Down" Mobile Screening Unit. Parke-Davis and WellCheck
collaborated to provide free diagnostic screening using the L-D-X System
for 100 days in 1999. This program promoted cholesterol awareness
throughout the United States, courtesy of the LIPITOR (atorvastatin
calcium) Mobile Screening Unit, reaching approximately 60,000 Americans
in 1999.
- Lipitor Truck(s). Parke-Davis/Pfizer are currently sponsoring two Mobile
Screening Units to screen consumers for elevated cholesterol and
cardiovascular disease at promotional sporting event across the United
States in 2000, conducted by WellCheck.
- Men's Health Truck. Pfizer is currently sponsoring a third Mobile
Screening Unit to provide men's health assessments, conducted by
WellCheck, across the United States in 2000.
Bristol Myers Squibb
Bristol Myers Squibb helped to support the Company's obstetrics and
gynecology program with Women First Healthcare, initiated in August of 1999. The
program provides testing of total cholesterol and High-Density Lipoprotein (HDL)
levels in female patients visiting their gynecologists. The testing is being
conducted in more than 300 gynecologist's offices in the U.S. It is expected
that more than 30,000 midlife women were tested in 1999.
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Physician Sales and Services, Inc.
Cholestech entered into a strategic distribution partnership with Physician
Sales and Services Inc. in 1996 for the distribution of the Company's diagnostic
products to the Physician Office. Physician Sales and Service has been the
Company's largest single customer for the last three years, contributing $4.6
million, $3.4 million and $2.1 million of revenues in fiscal 2000, 1999, and
1998, respectively.
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.
SALES AND MARKETING
The Company's sales and marketing strategy is to take advantage of the
growing consumer-trend for personal health management by expanding its
professional sales force and distribution, developing additional venues for
convenient consumer testing, and marketing interactive internet-tools for
personal health management directly to consumers and other interested sponsors
and partners.
DIAGNOSTIC PRODUCTS
The sales and marketing strategy in Diagnostic Products is to increase
penetration into the POL, pharmacy and health promotion markets for professional
testing and leverage its installed base of L-D-X Analyzers through increased
cassette utilization. Diagnostic Products plans to dedicate a significant
portion of its sales and marketing efforts to educate current and potential
owners of L-D-X Systems about the clinical and economic benefits of diagnostic
screening and therapeutic monitoring with the L-D-X System and about new test
cassettes as they become available for distribution. Diagnostic Products also
plans to continue to cultivate strategic relationships with development
partners, pharmaceutical companies and distributors. Diagnostic Products intends
to leverage the technology, customer bases, marketing power and distribution
networks of these partners to accelerate market penetration and cassette usage.
- POL. Diagnostic Products has entered into nonexclusive distribution
agreements with two national medical products distributors, Physician
Sales and Services, Inc. and General Medical (currently a division of
McKesson Corporation), which together have more than 1,300 sales
professionals who focus on the POL market. Diagnostic Products has
additionally expanded the number of distributors of the L-D-X System
targeting this market through the retention of more than 30 regional
distributors. Diagnostic Products and its distributors are focusing their
sales and marketing efforts on physicians whose practices include a high
incidence of the chronic diseases targeted by the Company's test
cassettes, including cardiologists, lipid clinicians, internists and
family practitioners.
- Pharmacy. Diagnostic Products has marketing efforts in the pharmacy
market to educate pharmacists about the clinical and economic benefits of
in-pharmacy testing. Diagnostic Products believes that its success in the
pharmacy market will be dependent in large part upon the development of
therapeutic monitoring programs implemented in conjunction with
physicians and third party Payors.
- Health Promotion. Diagnostic Products has ongoing relationships with 15
regional distributors who provide equipment and supplies to customers
that conduct diagnostic screening for cholesterol and related lipid
levels and diabetes. Additionally, through its agreements with regional
distributors and screening organizations, Diagnostic Products provides
the L-D-X System for use in diagnostic screening for employees of Exxon
Corporation, General Motors Corporation, Ford Motor Company and Sears,
Roebuck and Co.
- International. Diagnostic Products international distribution strategy is
to penetrate targeted geographical markets by selling directly to both
high volume users and distributors in those markets. The Company has
entered into non-exclusive agreements with 39 foreign distributors to
distribute the L-D-X System primarily in Europe, the Pacific Rim and
Latin America.
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Diagnostic Products is currently organized with 15 field sales personnel
with the balance of sales and marketing found in marketing, technical support
and customer service.
WELLCHECK:
The sales and marketing strategy in WellCheck is to broaden the geographic
coverage of the WellCheck testing service, and expand from the current,
predominantly promotional business, to offer retail testing services and
worksite wellness programs. The sales and marketing function historically has
consisted of 20 to 30 field sales personnel conducting testing, one person in
customer service, two people in sales operations, and a vice president of
marketing and sales. WellCheck's current marketing activities are centered
around:
- Promotional Mobile Screening Units in support of the Parke-Davis/Pfizer
cholesterol-lowering drug "Lipitor".
- Pharmacy programs
- Cholesterol screenings at conventions, and
- Health risk appraisals
WELLCHECK.COM:
The sales and marketing strategy in WellCheck.com is to secure sponsorship
and potential partners for the WellCheck.com interactive personal health
management site from:
- Pharmaceutical companies,
- Consumer-based product companies,
- Neutraceutical companies,
- Food companies,
- Retail venue partners,
- Worksite Wellness partners, and
- Healthcare providers.
COMPETITION
The diagnostic markets in which the Company operates are intensely
competitive. The Company's competition consists mainly of clinical and hospital
laboratories, as well as manufacturers of bench top analyzers. The substantial
majority of diagnostic tests used by physicians and other health care providers
are currently performed by clinical and hospital laboratories. The Company
expects that these laboratories will compete intensely to maintain dominance in
the market. In order to achieve broad market acceptance, the Company will be
required to demonstrate that the L-D-X System is an attractive alternative to
bench top analyzers as well as to clinical and hospital laboratories. 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 these other analyzers and testing services. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Factors Affecting Future Operating Results -- Uncertainty of
Market Acceptance of the L-D-X System" and "-- Highly Competitive Industry;
Rapid Technological Change."
Companies having a significant presence in the diagnostic market, such as
Abbott Laboratories, Bayer, Clinical Diagnostic Systems, a division of Johnson &
Johnson and formerly a division of Eastman Kodak Company, and Boehringer
Mannheim GmbH, a subsidiary of Roche Holdings Ltd. ("Boehringer Mannheim"), have
developed or are developing analyzers designed for preventive care testing.
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. In addition, several
smaller companies are currently making or developing
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products that compete or will compete with those of the Company. The Company
believes that it currently has a competitive advantage due to the status of the
L-D-X System as the only CLIA waived system capable of performing multiple tests
simultaneously on a single instrument. The Company expects that its competitors
will compete actively to maintain and increase market share and will seek to
develop multi-analyte tests that qualify for CLIA waiver. 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 WellCheck testing service is one of numerous, small,
preventive care testing services across the United States. Competing testing
service companies are almost exclusively privately-held, with limited access to
capital. While the Company believes that the market opportunity for nationwide
consumer testing of cholesterol vastly exceeds the current ability of all
existing testing services combined, there is no guarantee that a larger, more
well-known company, with greater access to capital than Cholestech, may not
choose to take advantage of this untapped market by competing with Cholestech.
The Company's WellCheck.com offering, while still under development, faces
numerous competitors with health information and/or cardiovascular-focused
interests. Many of these ebusinesses, such as Healtheon, WebM.D., and Dr. Koop
have greater name recognition, are more established, and have greater access to
capital than Cholestech. WellCheck.com will compete with these more established
ebusinesses on the basis of:
- Lower Cost of Member Acquisition -- many established web businesses must
expend considerable resources to acquire members. WellCheck.com members
are acquired as a result of the Company's testing activities for little
or no incremental cost.
- Personal Health Management -- the Company is unaware of any other ehealth
sites which directly post individual test results and allow consumers to
personally manage their individual health.
The Company's current and future products must compete effectively with the
existing and future products of the Company's competitors primarily on the basis
of ease of use, breadth of tests available, market presence, cost effectiveness,
precision, accuracy, immediacy of results and the ability to perform tests near
the patient, to test multiple analytes from a single sample and to conduct tests
without a skilled technician or pre-treating blood. 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 or, if the Company does have such resources and capabilities, that it
will employ them successfully.
MANUFACTURING
The Company manufactures, tests, performs quality assurance on, packages
and ships its products from its approximately 49,000 square foot facilities
located in Hayward, California. The Company maintains control of those portions
of the manufacturing process that it believes are complex and provide an
important competitive advantage.
- L-D-X Analyzer. The L-D-X Analyzer incorporates 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 and quality assurance. The
Company's manufacture of the L-D-X 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 L-D-X Analyzer manufacturing capacity as foreseeably required.
- Cassettes. The Company purchases chemicals, membranes and other raw
materials from third party suppliers and converts these raw materials,
using proprietary processes, into single use test 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
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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 has two fully operational cassette manufacturing
lines. The Company is currently building a third manufacturing line that
the Company anticipates will become operational in fiscal 2001. In the
event that cassette sales volume significantly increases, the Company may
require the added capacity of the third line prior to its scheduled
operational date.
- Raw Materials; Quality Assurance. Outside vendors provide the Company
with the subassemblies, components and raw materials necessary for the
manufacture of the Company's products. These subassemblies, components
and raw materials are 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 Quality Systems Regulations ("QSR"; the successor
regulations to current Good Manufacturing Practice ("cGMP") Regulations)
and other government manufacturing regulations. The Company's
manufacturing facilities are subject to periodic inspection by regulatory
authorities. Certain key components and raw materials used in the
manufacturing of the Company's products are currently provided by single
source vendors and on a purchase order basis.
PATENTS AND PROPRIETARY TECHNOLOGY
The Company owns nine United States patents covering various technologies,
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 United States patents relating to: (i) the measurement of Lp(a);
(ii) the measurement of bone resorption markers (Pyrilinks-D); and (iii) the
Company's cassette technology.
The medical products industry has been characterized by extensive
litigation regarding patents and other intellectual property rights, and any
such litigation could result in substantial loss or diversion of revenues of the
Company and could have a material adverse effect on the Company's business,
financial condition and results of operations. There can be no assurance that
pending patent applications filed by the Company will be approved or that the
Company's issued or pending patents will not be challenged or circumvented by
competitors. 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.
The Company's current products incorporate technologies which are the
subject of patents issued to, and patent applications filed by, others. The
Company has obtained licenses for certain of these technologies and might be
required to obtain licenses for others. There can be no assurance that the
Company will be able to obtain licenses for technology patented by others on
commercially reasonable terms, or at all, that it will be able to develop
alternative approaches if unable to obtain licenses or that the Company's
current and future licenses will be adequate for the operation of the Company's
business. The failure to obtain such licenses or identify and implement
alternative approaches could have a material adverse effect on the Company's
business, financial condition and results of operations.
The Company currently faces patent infringement claims filed by Roche in
several individual European countries. There can be no assurance that patent
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 necessary
licenses on reasonable terms, or at all. 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, financial condition or results of operations.
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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 provide 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. See "Management's Discussion and Analysis of Financial Condition and
Results of Operation -- Factors Affecting Future Operating Results -- Dependence
on Proprietary Technology; Uncertainty of Patent and Proprietary Technology
Protection; Dependence on Licensing of Technology from Third Parties."
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 FDA and
corresponding state and foreign regulatory agencies. Pursuant to 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 pre-market clearance or pre-market 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, registration, listing
and adherence to QSR). Class II devices are subject to general controls,
pre-market notification and to special controls (e.g., performance standards,
post-market surveillance and patient registries). Generally, Class III devices
are those that must receive pre-market approval ("PMA") by the FDA (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 or be exempt from 510(k) requirements. Under a recent
amendment to the FDC Act, most Class I devices are exempt from 510(k)
requirements. 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 a PMA. 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 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.
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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 will be required to seek pre-market approval of the proposed
test cassette from the FDA through the submission of a PMA application. However,
if a future product were to require submission of a PMA application, regulatory
approval of such product would involve a much longer and more costly process
than a 510(k) clearance. The Company does not believe that its products under
development will require the 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 PMA submission must include the proposed labeling, advertising literature
and training methods (if required). 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 the
FDA and certain state agencies, including record keeping requirements and
reporting of adverse experience with the use of the device. Labeling and
promotional activities are subject to scrutiny by the 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 QSR. The FDA monitors compliance with these
requirements by requiring manufacturers to register with the FDA, which subjects
them to periodic inspections. The State of California also regulates and
inspects the Company's manufacturing facilities. The Company has been inspected
twice by the State of California to date and is manufacturing under an issued
medical device manufacturer's facility license from the State of California. If
any violations of the Company's applicable regulations are noted during an FDA,
European Notified Body 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 products could be
materially adversely affected.
The European Union ("EU") has promulgated rules that require that devices
such as those developed, manufactured and sold by the Company receive the right
to affix the CE mark, a symbol of adherence to applicable EU directives. The
Company has completed all the testing necessary to comply with applicable
regulations to currently be eligible for self certification and currently has
the right, as self certified under the product testing requirements, to affix
the CE mark to its products. The Company's products will be covered by the In
Vitro Diagnostics Directives that have not yet been published or adopted. While
the Company intends to satisfy the requisite policies and procedures that will
permit it to continue to affix the CE mark to its products in the future, there
can be no assurance that the Company will be successful in meeting EU
certification requirements, and failure to receive the right to affix the CE
mark may prohibit the Company from selling its products in EU member countries
and could have a material adverse effect on the Company's business, financial
condition and results of operations.
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. For example, 8 states have regulations that impose requirements on
pharmacies and/or pharmacists that perform clinical testing; four of which
states have regulations that prohibit certain pharmacy based testing. 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.
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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 must obtain either 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 the Company's 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. CLIA waiver allows health
care providers to use the L-D-X System at a lower cost. Under the waived
classification, users of the L-D-X System are only required to obtain a
certificate of waiver from HCFA and pay a $150 fee, and are not required to
comply with the CLIA requirements otherwise applicable to individual diagnostic
tests. This certificate must be renewed every two years. The Company provides
United States purchasers of its products with the documentation, systems and
support necessary to comply with CLIA. In order to successfully commercialize
tests that are currently under development, the 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 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. If the Company does not receive CLIA waiver
for any of its products in development, the Company may choose to market such
products in the United States as moderately complex products and/or market such
products outside of the United States. These decisions will be made on a
product-by-product basis. 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,
certain competitive advantages of the L-D-X System's waived status could be
reduced or eliminated. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Factors Affecting Future Operating
Results -- Government Regulation."
THIRD PARTY REIMBURSEMENT
In the United States, health care providers, such as hospitals and
physicians, that purchase products such as the L-D-X System and single use test
cassettes, generally rely on third party Payors, including private health
insurance plans, federal Medicare, state Medicaid and managed care
organizations, 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 costs of tests performed with the L-D-X System and related
treatment will be available from government health authorities, private health
insurers and other third party Payors. 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 in particular circumstances. Tests performed in the health promotion
market are generally not subject to reimbursement. Pharmacists also face
blocking state legislation in a number of states, which precludes them from
accessing federally available reimbursement codes and practices. Third party
Payors are increasingly scrutinizing and challenging the prices charged for
medical products and
19
<PAGE> 20
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. In addition, certain health
care providers are moving toward a managed care system in which such providers
contract to provide comprehensive health care for a fixed cost per patient.
Managed care providers are attempting to control the cost of health care by
authorizing fewer elective procedures, such as the screening of blood for
chronic diseases. The Company is unable to predict what changes will be made in
the reimbursement methods utilized by third party Payors. Inability of
healthcare providers to obtain reimbursement from third party Payors, or changes
in third party Payors' policies toward reimbursement of tests employing the
Company's products, could have a material adverse effect on the Company's
business, financial condition and results of operations. 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 in the future for the Company's existing products or
products under development.
Effective October 1, 1991, HCFA adopted regulations providing for the
inclusion of capital related costs in the prospective payment system for
hospital inpatient services under which most hospitals are reimbursed by
Medicare on a per diagnosis basis at fixed rates unrelated to actual costs,
based on 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. Recently enacted Medicare reform legislation requires
HCFA to implement a prospective payment system for outpatient hospital services
by 1999 as well. This system might also provide for a per-patient fixed rate
reimbursement for outpatient department capital costs. Although the full
implications of these changes cannot be known, the Company believes that the
regulations will place more pressure on hospitals' 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 recent
Medicare legislation also requires HCFA to adopt uniform coverage and
administration policies for laboratory tests. 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.
The Company believes that the 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. 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. There can be no assurance in 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.
See "Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Factors Affecting Future Operating Results -- Uncertainty Relating
to Third Party Reimbursement."
PRODUCT LIABILITY AND INSURANCE
The 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 results 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, but 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 no
20
<PAGE> 21
assurance can be given that product liability insurance can be maintained in the
future on acceptable terms, or in sufficient amounts to protect the Company
against losses due to liability, or at all. 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 a product recall could have a material adverse effect on
the Company's business, financial condition and results of operations.
The services performed by the Company's WellCheck consumer-testing business
entail risk of professional liability claims. The medical testing industry has
historically been litigious, and the Company faces financial exposure to
professional liability claims and claims of malpractice in the event that
services provided by its employees results in personal injury. There can be no
assurance that the Company will not experience losses due to professional
liability claims in the future. The Company currently maintains professional
liability insurance, but 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 no assurance can be given that professional liability
insurance can be maintained in the future on acceptable terms, or in sufficient
amounts to protect the Company against losses due to liability, or at all. An
inability to maintain insurance at an acceptable cost or to otherwise protect
against potential professional liability could prevent or inhibit the continued
commercialization of the Company's products and services. In addition, a
professional liability claim in excess of relevant insurance coverage could have
a material adverse effect on the Company's business, financial condition and
results of operations.
The services performed by the Company's WellCheck.com internet business
entail risk of cyberliability claims. The medical testing industry has
historically been litigious, and the Company faces financial exposure to
cyberliability claims and claims of malpractice in the event that services
provided by its web-products results in personal injury. There can be no
assurance that the Company will not experience losses due to cyberliability
claims in the future. The Company currently maintains cyberliability insurance,
but 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 no assurance can be given that cyberliability insurance can be
maintained in the future on acceptable terms, or in sufficient amounts to
protect the Company against losses due to liability, or at all. An inability to
maintain insurance at an acceptable cost or to otherwise protect against
potential cyberliability could prevent or inhibit the continued
commercialization of the Company's products and services. In addition, a
cyberliability claim in excess of relevant insurance coverage 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, deductible amounts, and exclusions, which the Company believes
are customary for companies of its size in its industry. However, 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. See "Risk Factors -- Risk of Product Liability;
Product Liability Insurance May Be Insufficient or Unavailable."
EMPLOYEES
As of March 31, 2000, the Company employed 172 full-time, regular
employees, including 118 in Diagnostic Products, 35 in WellCheck, 5 in
WellCheck.com and 14 in corporate administration. There were 66 employees in
sales, marketing and administration, 69 employees in manufacturing, 20 employees
in field testing, and 17 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 qualified personnel 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.
21
<PAGE> 22
EXECUTIVE OFFICERS OF THE COMPANY
The following table sets forth certain information concerning the executive
officers and key employees of the Company as of March 31, 2000:
<TABLE>
<CAPTION>
NAME AGE POSITION
---- --- --------
<S> <C> <C>
Warren E. Pinckert II....... 56 President, Chief Executive Officer and Director
Jeffery S. Aroy............. 33 Corporate Vice President and Chief Operating
Officer (WellCheck.com)
Tommy M. Chauvin............ 45 Vice President of Sales and Marketing
(WellCheck)
Robert J. Dominici.......... 56 Executive Vice President and Chief Operating
Officer (Diagnostic Products)
Timothy I. Still............ 34 Vice President of Marketing, Sales (Diagnostic
Products)
Kevin R. Stromberg.......... 38 Vice President of Engineering (WellCheck.com)
Andrea J. Tiller............ 42 Corporate Vice President of Finance, Chief
Financial Officer, Treasurer and Secretary
Terry L. Wassmann........... 53 Vice President of Human Resources
Thomas E. Worthy............ 58 Vice President of Development and Regulatory
Affairs (Diagnostic Products)
</TABLE>
WARREN E. PINCKERT II has served as President, Chief Executive Officer, and
a Director of the Company since June 1993. Mr. Pinckert served as Executive Vice
President of Operations of the Company from 1991 to June 1993, and as Chief
Financial Officer and Vice President of Business Development of the Company from
1989 to June 1993. Mr. Pinckert also served as Secretary of the Company from
1989 to January 1997. Prior to joining the Company, Mr. Pinckert was Chief
Financial Officer of Sunrise Medical Inc., an international durable medical
products manufacturer, from 1983 to 1989. Mr. Pinckert also serves on the Board
of Directors of PacifiCare Health Systems, Inc., a managed care organization.
Mr. Pinckert earned a B.S. in Accounting and a M.B.A. from the University of
Southern California and is a certified public accountant.
ANDREA J. TILLER has served as Corporate Vice President of Finance, Chief
Financial Officer and Treasurer since joining the Company in November 1996. Ms.
Tiller has also served as Secretary of the Company since January 1997. From 1994
to 1995, Ms. Tiller was Director of Corporate Planning at Target Therapeutics, a
medical device manufacturer and currently a division of Boston Scientific
Corporation. From 1991 to 1994 Ms. Tiller was employed as Business Planning
Manager of SynOptics Communications, Inc., a computer networking company now
known as Nortel Networks Inc. Prior to joining SynOptics Communications, Inc.,
Ms. Tiller served as Senior Marketing Research Specialist at E. I. Du Pont de
Nemours and Company and has twice owned and operated consulting practices in the
areas of business strategy and development. Ms. Tiller earned a B.A. in
Economics from Stanford University and a M.B.A. from the San Francisco State
University Graduate School of Business.
TERRY L. WASSMANN joined Cholestech in March of 2000 as Vice President of
Human Resources. Prior to joining Cholestech Ms. Wassmann served as Staff
Relations Manager with Robert Half International from July, 1999 to March, 2000.
From February, 1986 until December, 1999 Boehringer Mannheim employed Ms.
Wassmann. She held numerous positions within the Human Resources function
including the Director of Human Resources of the Indiana and California based
Diagnostics Division.
ROBERT J. DOMINICI joined the Company as Executive Vice President of
Marketing and Sales in August 1998. In September of 1999, Mr. Dominici was
promoted to Chief Operating Officer of the Company's Diagnostic Product's
business. From January of 1997 to May, 1998 Mr. Dominici served as Senior Vice
President/General Manager Corporate Accounts for Boehringer Mannheim
Corporation, a healthcare diagnostic products company currently operating as
Roche Boehringer Mannheim. Prior to his position as Senior Vice President,
Corporate Accounts, Mr. Dominici held other positions within Boehringer Mannheim
Corporation including: January, 1985 to June, 1987 Vice President Marketing,
Sales and Services, July, 1988
22
<PAGE> 23
to January, 1992 President of the Laboratory Systems Division, and February,
1992 to December, 1997 President and Chief Executive Officer of Microgenics
Corporation, a wholly owned subsidiary of Boehringer Mannheim. Mr. Dominici
earned a B.S. in Biology and Chemistry from Otterbein College.
TIMOTHY I. STILL was recently elevated to the position of Vice President,
Marketing and Sales for the Company's Diagnostic Products business unit. He had
been Cholestech's Senior Director of Marketing since 1997. Prior to Cholestech,
Mr. Still was Director of global Marketing and Business Development for
Boehringer Mannheim Corporation (currently Roche Diagnostics) from August, 1992
to November, 1997. During his tenure with Boehringer Mannheim, he held global
responsibility for the CEDIA immunoassay product line. Prior to joining
Boehringer Mannheim, Mr. Still was a product Manager from June, 1990 to August,
1992 with Bio-Rad Laboratories where he was responsible for the Marketing of
various immunoassay reagents and instrumentation. He holds a Biological Sciences
degree from the University of California, Davis and a MBA in Marketing and
Entrepreneurship from the University of Southern California.
DR. THOMAS E. WORTHY is the Vice President, Development and Regulatory
Affairs for the Company's Diagnostic Products business unit. He was previously
the Company's Directory of Technical Affairs. Prior to joining Cholestech, Dr.
Worthy held Director of Research and Development positions at Microgenics
Corporation from January, 1980 to April, 1998, a division of Boehringer Mannheim
Corporation, and at MetPath, Inc. from May, 1981 to February, 1988. He holds a
Ph.D. in Radiation Biology from the University of Tennessee, a M.S. in
Microbiology from Northern Illinois University, and a B.A. in Biology from
Albion College.
JEFFERY S. AROY has served as Corporate Vice President and Chief Operating
Officer of the Company's WellCheck.com business unit since joining the Company
in September, 1999. Prior to Cholestech, he was Principal and Practice Leader
for the Wilkerson Group -- IBM's global healthcare consulting organization from
April, 1997 to September, 1999. Additionally, Mr. Aroy was Head of West Coast
Healthcare Consulting for the Wilkerson Group from May, 1997 to September, 1999,
and led IBM's eBusiness push in the healthcare market space. He graduated Cum
Laude from Harvard and received his MBA in Strategic Management from Wharton
School.
KEVIN R. STROMBERG is the Vice President of Engineering for the
WellCheck.com business unit, joining the Company in April 2000. Prior to joining
the team, he was Director of IT for Bay Alarm Company from February, 1998, to
April, 2000. Prior to Bay Alarm Mr. Stromberg held the position of Engineering
Manager from January, 1996 to February, 1998 for Sun Microsystems. From 1994 to
1996, he held several positions at Shared Medical Systems' Allegra Division.
Additionally he held positions from 1992 to 1994 with Interactive Development
Environments and Wollongong Software companies and operated his own consulting
business. Mr. Stromberg holds a B.S. in Computer Information Systems from the
University of San Francisco.
TOMMY M. CHAUVIN Vice President of Sales and Marketing for WellCheck Inc.,
has served in this capacity since the subsidiary's formation in January of 2000.
Prior to his position as Vice President of Sales and Marketing, Mr. Chauvin was
President and Chief Executive Officer of Health Net, Inc., a national wellness
and health promotion company he founded in 1988. In 1993, Mr. Chauvin also
co-founded the National Alliance of Biometric Services (NABS).
ITEM 2: PROPERTIES
The Company leases 49,000 square feet in Hayward, California. The Company's
facilities contain approximately 8,000 square feet of laboratory space and
10,000 square feet of manufacturing space with the balance devoted to marketing
and administrative and common areas. The Company's original lease on the
facility expired on March 31, 2000 and the company has agreed to renew the lease
for two years at 90% of the then current market rate. The Company believes that
this facility is adequate to meet its requirements through the expiration of its
lease. Additionally the Company has signed a letter of intent to purchase the
building which constitutes its current headquarters location and anticipates
closing this purchase in late 2000.
23
<PAGE> 24
ITEM 3: LEGAL PROCEEDINGS
On February 5, 1999, a complaint entitled Ree v. Pinckert, et al., No.
C99-0562 (MMC) was filed in the United States District Court for the Northern
District of California. The Action is a putative class action and the complaint
alleges that Cholestech and an officer, Mr. Pinckert, violated the federal
securities laws by misleading investors during the time period of July 30,
1997 - June 26, 1998, concerning the Company's business and its future
prospects. On June 24, 1999, plaintiffs filed an amended complaint, which
expanded the putative class period to June 28, 1996, through June 26, 1998. The
amended complaint's substantive allegations and purported causes of action
remain based on allegations that the Company misled shareholders concerning the
Company's business and its future prospects. The complaint does not specify
alleged damages. On September 20, 1999, defendants filed a motion to dismiss
plaintiff's amended complaint. On March 28, 2000, Judge Maxine M. Chesney,
United States District Judge for the Northern District of California granted
defendant's motion to dismiss pursuant to rule 12(B)(6) with leave for
plaintiffs to amend. The Company intends to defend the case vigorously. The
Company does not believe that the defendants in the class action engaged in any
wrongdoing, and that the outcome of this matter will not result in a material
adverse effect, however, there can be no assurance that the lawsuit will be
resolved in the Company's favor. The action is in its preliminary stages and a
trial date has not been set.
On August 9, 1999, Cholestech filed in the United States District Court for
the Southern District of Indiana a complaint entitled Cholestech Corporation v.
Polymer Technology Systems, Inc. and Tracy Thompson, No. IP99-1223-C T/G.
Cholestech's complaint and substantive causes of action were based on its
allegations that Mr. Thompson, a former Cholestech employee, disclosed, and/or
was likely to disclose, certain confidential and proprietary information of
Cholestech to Polymer and that Polymer was misappropriating this information. On
August 19, 1999, Polymer and Thompson ("plaintiffs") filed in the Marion County
Superior Court in Indianapolis, Indiana, a complaint entitled Polymer Technology
Systems, Inc. and Tracy Thompson v. Cholestech No. 49D02-9908-CP-001134 ("state
court action"). In their complaint, plaintiffs sought a declaration from the
court that the information Cholestech sought to protect in the federal court
action does not constitute a trade secret. By mutual agreement of the parties,
Cholestech voluntarily dismissed its federal court action, and on September 1,
1999, filed a counterclaim against the plaintiffs in the state court action. The
parties to this action recently agreed to resolve this action by way of a
settlement agreement. The terms of that agreement are confidential. The
settlement does not materially affect the Company.
On May 6, 1999 the Company filed a complaint, No. 9901251, in the Brussels,
Belgium court system seeking a patent infringement claim against Roche
Diagnostics. This action was filed to protect the Company's European Patent
rights for high-density lipoproteins ("HDL"). The Company believes this action
will not result in a material adverse effect, however, there can be no assurance
that the lawsuit will be resolved in the Company's favor. The action is in its
preliminary stages and a trial date has not been set.
On December 23, 1999 an injunction, No. ES 580-199, was filed in Zug,
Switzerland by Roche Diagnostics seeking a cease and desist order barring the
Company, and two distributors, Healthcare Solutions and Euromedix, from
distributing HDL assay single-use test cassettes in Switzerland. The complaint
alleges that Cholestech violated a Roche European patent for HDL. The Company
has filed its response to the complaint. The court is expected to reach a
decision on the merits of the complaint in the next several months. The Company
believes the suit is without merit and intends to defend the case vigorously.
The Company does not believe that it did cause any wrongdoing, and that the
outcome of this matter will not result in a material adverse effect, however,
there can be no assurance that the lawsuit will be resolved in the Company's
favor. Additionally, we have been informed by one of our Distributors that
during January, 2000 a complaint, No. 4 O 4/00 was filed in the District Court,
Dusseldorf, Germany against Cholestech and two of its distributors, seeking a
cease and desist order barring the distributor from shipping HDL single-use test
cassettes in to Germany. The Company was served on March 9, 2000. The court has
set a trial date of January 18, 2001. The complaint alleges the Company and its
distributor violated a Roche German priority patent for HDL by selling
Cholestech's single-use test cassette containing a HDL assay. The Company
believes the suit is without merit and intends to defend the case vigorously.
The Company does not believe that it did cause any wrongdoing, and that the
outcome of this matter will not result in a material adverse effect, however,
there can be no assurance that the lawsuit will be resolved in the Company's
favor.
24
<PAGE> 25
The Company is subject to various legal claims and assessments in the
ordinary course of business, none of which are expected by management to result
in a material adverse effect on the consolidated financial statements.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year through solicitation of proxies or otherwise.
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." On March 31, 2000, the last reported sale price for the
Company's Common Stock on the NASDAQ National Market was $8.47 per share. The
following table sets forth the quarterly high and low trading prices for the
Company's Common Stock.
<TABLE>
<CAPTION>
HIGH LOW
----- ----
<S> <C> <C>
FISCAL YEAR 1999
First Quarter......................................... 17.88 6.00
Second Quarter........................................ 8.88 4.00
Third Quarter......................................... 5.63 2.78
Fourth Quarter........................................ 4.94 1.88
FISCAL YEAR 2000
First Quarter......................................... 2.00 2.94
Second Quarter........................................ 2.28 6.94
Third Quarter......................................... 5.75 7.38
Fourth Quarter........................................ 5.50 9.63
</TABLE>
As of March 31, 2000, there were approximately 263 holders of record of the
Company's Common Stock.
DIVIDEND POLICY
The Company has never declared or paid cash 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.
25
<PAGE> 26
ITEM 6: SELECTED FINANCIAL DATA
The following selected financial data should be read in conjunction with
the Company's Consolidated Financial Statements and Notes thereto and
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" included elsewhere in this Annual Report on Form 10-K and the
exhibits hereto. The consolidated statement of operations data set forth below
for the fiscal years ended March 31, 1998, 1999 and 2000 and the consolidated
balance sheet data as of March 31, 1999 and 2000 are derived from the audited
consolidated financial statements of the Company and are included elsewhere in
this Annual Report on Form 10-K and the exhibits hereto.
<TABLE>
<CAPTION>
YEAR ENDED MARCH 31,(1)
-----------------------------------------------
2000 1999 1998 1997 1996
------- ------- ------- ------- -------
(IN THOUSANDS, EXCEPT SHARE DATA)
<S> <C> <C> <C> <C> <C>
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Revenues....................................... $27,422 $22,032 $21,664 $12,861 $ 6,873
Cost of revenues............................... 11,084 10,252 10,513 6,957 4,481
------- ------- ------- ------- -------
Gross profit................................... 16,338 11,780 11,151 5,904 2,392
------- ------- ------- ------- -------
Operating expenses:
Sales and marketing......................... 7,032 6,606 5,380 4,108 3,305
Research and development.................... 3,021 2,703 2,224 1,341 731
General and administrative.................. 3,510 2,381 2,087 1,537 1,246
Other operating expense..................... 319 826 -- -- --
------- ------- ------- ------- -------
Total operating expenses............... 13,882 12,516 9,691 6,986 5,282
------- ------- ------- ------- -------
Income (loss) from operations.................. 2,456 (736) 1,460 (1,082) (2,890)
Interest and other income, net................. 805 663 569 273 144
------- ------- ------- ------- -------
Income (loss) before taxes..................... 3,261 (73) 2,029 (809) (2,746)
Provision for income taxes..................... 129 -- 41 -- --
------- ------- ------- ------- -------
Net income (loss).............................. $ 3,132 $ (73) $ 1,988 $ (809) $(2,746)
======= ======= ======= ======= =======
Net income (loss) per share:
Basic....................................... $ 0.27 $ (0.01) $ 0.18 $ (0.08) $ (0.34)
======= ======= ======= ======= =======
Diluted..................................... $ 0.26 $ (0.01) $ 0.17 $ (0.08) $ (0.34)
======= ======= ======= ======= =======
Shares used to compute net income (loss) per
share:(2)
Basic....................................... 11,724 11,484 11,289 10,382 8,042
======= ======= ======= ======= =======
Diluted..................................... 11,920 11,484 11,905 10,382 8,042
======= ======= ======= ======= =======
</TABLE>
<TABLE>
<CAPTION>
MARCH 31,
----------------------------------------------------
2000 1999 1998 1997 1996
-------- -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
CONSOLIDATED BALANCE SHEET DATA:
Cash, cash equivalents and marketable securities......... $ 13,741 $ 11,427 $ 14,751 $ 14,009 $ 4,111
Working capital.......................................... 11,522 13,342 17,662 16,124 4,442
Total assets............................................. 32,218 24,283 25,788 21,087 9,645
Long-term obligations.................................... -- -- -- -- 810
Accumulated deficit...................................... (45,424) (48,556) (48,483) (50,471) (49,662)
Shareholders' equity..................................... 26,476 21,769 21,446 18,703 5,982
</TABLE>
---------------
(1) The Company's fiscal year is a 52-53 week period ending on the last Friday
in March. All fiscal years referenced in this annual report on Form 10-K
consisted of 52 weeks, except fiscal 2000, which consisted of 53 weeks. For
convenience the Company has indicated in this Annual Report on Form 10-K
that its fiscal year ends on March 31 and refers to the fiscal years ending
March 31, 2000, March 26, 1999, March 27, 1998, March 28, 1997 and March 29,
1996 as fiscal 2000, 1999, 1998, 1997, and 1996, respectively.
(2) See Note 1 of Notes to Consolidated Financial Statements for an explanation
of shares used to compute net income (loss) per share.
26
<PAGE> 27
ITEM 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion contains forward-looking statements that involve
risks and uncertainties. The Company's actual results could differ materially
from those anticipated in these forward looking statements as a result of
certain factors discussed below, including under "General" and "Factors
Affecting Future Operating Results." These forward looking statements include,
but are not limited to, the statement under "General" regarding the Company's
expectation of incurring negative cash flows, the statement under "Revenues"
regarding the Company's expectation that international revenues fluctuate from
period to period, the statement under "Sales and Marketing" regarding the
Company's expectation that sales and marketing expenses will increase, the
statement under "Research and Development" regarding the development of new test
cassettes and the Company's anticipation that research and development
expenditures will increase, and the statements in "Factors Affecting Future
Operating Results."
GENERAL
The Company operates in three business segments:
- Diagnostic Products -- which develops, manufactures and markets the
Cholestech L-D-X(R) System (the "L-D-X System") which performs
near-patient diagnostic testing to assist in assessing for risk of
certain chronic diseases and to assist in the monitoring of therapy to
treat those diseases.
- WellCheck(TM) -- which conducts consumer testing within the United States
to assess for risk of certain chronic diseases and to assist in the
monitoring of therapy to treat those diseases.
- WellCheck.com -- which is planned to provide interactive tools to
consumers through the Internet to better assess for risk of certain
chronic diseases and to monitor and motivate personal health management
of those diseases.
Diagnostic Products currently markets the L-D-X System, including the L-D-X
Analyzer and a variety of single use test cassettes, to the physician office
laboratory market, the pharmacy market and the health promotion market in the
United States and internationally. The L-D-X System is capable of measuring
multiple analytes simultaneously with a single drop of whole blood, producing
test results within five minutes. The Company's current products measure and
monitor blood cholesterol, related lipids, glucose, and liver function, and are
used to perform testing of patients at risk of or suffering from cardiovascular
disease, diabetes or liver disease.
WellCheck currently provides consumer-testing services utilizing the
Cholestech L-D-X System, as well as various other technologies for the
assessment of blood pressure, osteoporosis, glycated hemoglobin and general
health assessment. WellCheck was initiated through the acquisition of Health Net
Inc., of Hammond, Louisiana in January of 2000 for approximately $3.1 million.
The Company intends to expand the WellCheck testing services offered through a
combination of further acquisitions and internal development with the goal of
developing the first truly nationwide consumer testing service for chronic
disease. Substantially all of the revenue of the WellCheck business derived from
promotional programs with major pharmaceutical companies marketing
lipid-lowering statin drugs. The Company believes that there is an opportunity
to further expand the WellCheck business into retail testing venues and worksite
wellness programs.
WellCheck.com has developed the website content and structure, TEAMS
software, and business unit infrastructure, and was launched in June, 2000. In
collaboration with their healthcare providers, consumers will have at their
disposal the tools needed to learn about and manage chronic diseases.
RESULTS OF OPERATIONS
Fiscal 2000 and Fiscal 1999
Revenues. Revenues increased 24.4% to $27.4 million in fiscal 2000 from
$22.0 million in fiscal 1999. Diagnostic Products represented 98.5% and 100% of
total revenues for fiscal 2000 and 1999, respectively.
International revenues represented 17.7% of fiscal 2000 revenues, compared
to 12.9% for fiscal 1999. During fiscal 2000 all international revenue related
to the Diagnostic Products business unit.
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Segment performance was as follows:
- Diagnostic Products revenue increased 22.5% to $27.0 million in fiscal
2000 from $22.0 million in fiscal 1999. The increase in revenues mainly
reflected increased unit sales of single use test cassettes in the
physician office laboratory, health promotion, and international markets.
Unit sales of the L-D-X System declined in all domestic markets, other
than international.
- WellCheck revenue totaled $422,000 in fiscal 2000. All revenue since
acquisition was earned during the last two fiscal months of fiscal 2000.
- WellCheck.com did not generate any revenue during fiscal 2000.
Cost of Revenues. Cost of revenues increased 8.1% to $11.1 million for
fiscal 2000 from $10.3 million for fiscal 1999. Gross margins were 59.6% and
53.5% in fiscal 2000 and 1999, respectively. Diagnostic Products accounted for
99.7% and 100% of the Company's cost of products sold for the fiscal years 2000
and 1999, respectively.
Segment performance was as follows:
- Diagnostic Products cost of revenues includes direct labor, direct
material, overhead and royalties. Cost of revenues increased 7.8% to
$11.1 million in fiscal 2000 from $10.3 million in fiscal 1999. The
increase in cost relating to the higher unit sales of single use test
cassettes was offset by reductions in indirect factory spending. Gross
margin was 59.1% and 53.5% in fiscal 2000 and 1999, respectively. The
gross margin improvement was primarily attributable to stronger spending
controls.
The Company has licensed certain technology used in the manufacturing of
certain of its products. A related agreement, which expires in 2006,
requires the Company to pay a royalty of 2.0% on net sales of the
applicable products. Total royalty expense in fiscal 2000 and 1999 was
$456,000 and $379,000 respectively, and such amounts were charged to cost
of revenues.
- WellCheck cost of revenues includes reimbursed travel expenses,
laboratory services, medical waste disposal, and the cost of medical
testing equipment and supplies. Costs of product provided by the
Company's Diagnostic Products business are eliminated upon consolidation.
For the two months of operations during fiscal 2000, total cost of
revenues was $28,000.
- WellCheck.com cost of revenues will include costs related to the
development and expansion of the Company's two internet-related software
tools, TEAMS and WellCheck.com and amortization of capitalized web site
development costs.
Sales and Marketing. Sales and marketing expense includes salaries,
commissions, bonuses, expenses for outside services related to marketing
programs and travel expenses. Sales and marketing expenses increased 6.4% to
$7.0 million in fiscal 2000 from $6.6 million in fiscal 1999. Sales and
marketing expenses decreased to 25.6% of revenues in fiscal 2000 from 30.0% in
fiscal 1999. Diagnostic Products accounted for 97.2% and 100% of sales and
marketing expenses for fiscal 2000 and 1999, respectively.
Sales and marketing expense in each of Cholestech's segments was as
follows:
- Diagnostic Products sales and marketing expense increased 3.3% to $6.8
million in fiscal 2000 from $6.6 million in fiscal 1999. The increase can
be attributed primarily to the increased use of professional outside
services. Sales and marketing expense decreased to 25.3% of revenue in
fiscal 2000 from 30.0% of revenue in fiscal 1999. This change was
partially impacted by the transfer of costs related to the former
Executive Vice President of Marketing and Sales, who became the Chief
Operating Officer of Diagnostic Products in October, 1999 with associated
costs thereafter reported on the general and administrative line of the
Statement of Operations.
- WellCheck sales and marketing expense was $199,000 in fiscal 2000. The
business unit only operated during the last two months of fiscal 2000.
- WellCheck.com incurred no sales and marketing expense in fiscal 2000 as
this business was still in the development stage.
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Research and Development. Research and development expense includes
salaries, bonuses, expenses for outside services, supplies and amortization of
capital equipment. Research and development expense increased 11.8% to $3.0
million in fiscal 2000 from $2.7 million in fiscal 1999. Research and
development expenses as a percentage of revenue decreased to 11.0% in fiscal
2000 compared to 12.3% in fiscal 1999. Diagnostics Products accounted for 79.8%
and 100% of research and development expense in fiscal 2000 and 1999,
respectively. WellCheck.com incurred 20.2% of the research and development cost
reported in fiscal 2000.
Research and development expense in each of Cholestech's segments was as
follows:
- Diagnostic Products research and development expense decreased 10.8% to
$2.4 million in fiscal 2000 from $2.7 million in fiscal 1999. This
reduction was mainly attributable to reduced head count and related
expenses as the ALT single-use test cassette approached development
completion. Research and development expense as a percentage of revenues
decreased to 8.9% in fiscal 2000 compared to 12.3% in fiscal 1999.
- WellCheck incurred no research and development costs in fiscal 2000.
- WellCheck.com research and development expense was $609,000 in fiscal
2000 net of $2.0 million of capitalized web site development costs.
Activity occurred in the last six months of the year and was attributed
to the design and development of the WellCheck.com web site and TEAMS.
General and Administrative. General and administrative expense includes
compensation and benefits, as well as expenses for outside professional services
including information services, legal, accounting, the Company's medical
advisory board and costs associated with the Company's Board of Directors.
General and administrative expense increased by 47.4% to $3.5 million in fiscal
2000 from $2.4 million in fiscal 1999. General and administrative expense
increased to 12.8% of revenue in fiscal 2000 from 10.8% in fiscal 1999.
Diagnostics Products represented 67.5% and 100% of general and administrative
expense for fiscal 2000 and fiscal 1999, respectively. WellCheck.com accounted
for 25.5% and WellCheck accounted for 7% of the general and administrative
expense for fiscal 2000.
General and administrative expense in each of Cholestech's segments was as
follows:
- Diagnostic Products general and administrative expense remained
relatively constant at $2.4 million for both fiscal 2000 and fiscal 1999,
despite the addition of a Chief Operating Officer position. The addition
of the Chief Operating Officer position and related expenses were offset
by the partial allocation of corporate expenses to each of the other two
business segments. General and administrative expense decreased to 8.8%
of revenue in fiscal 2000, compared to 10.8% in fiscal 1999.
- WellCheck general and administrative expense was $245,000 during the two
months of operations since acquisition during fiscal 2000. For fiscal
2000 general and administrative expense was 58% of revenue.
- WellCheck.com general and administrative expense was $896,000 during the
final six months of fiscal 2000.
Other Operating Expense. In fiscal 2000 the Company recorded other
operating expenses of $319,000. These expenses included amortization of goodwill
incurred in connection with the acquisition of Health Net, defense of a filed
class action litigation, and charges relating to the extension of employee stock
options. This compares to $826,000 of other operating expense recorded in fiscal
1999, which included $325,000 of fees relating to the Company's withdrawn public
stock offering, $250,000 in settlement of litigation with a former employee,
expenses associated with the Company's reduction in force, and legal expenses
incurred to defend the Company in a filed class-action litigation. There were no
other operating expenses incurred in fiscal 1998.
Interest and Other Income, Net. Interest income reflects income from the
investment of cash balances and marketable securities, net of expenses, relating
to those investments. Interest income rose 21.4% to $805,000 in fiscal 2000 from
$663,000 in fiscal 1999. This increase was the result of positive cash flows
invested in marketable securities, as well as higher yields on securities.
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Income Taxes. The Company has significant net operating loss carryforwards
("NOLs") and tax credit carryforwards. The $129,000 provision for income taxes
in fiscal 2000 represented the estimated federal and state alternative minimum
taxes payable, reduced for the utilization of NOLs and tax credit carryforwards.
Management expects to utilize NOLs and other tax carryforward amounts to the
extent income is earned in fiscal 2001 and beyond. Therefore, the Company's
effective tax rate should continue to be substantially less than the applicable
statutory rates. As of March 31, 2000, the Company had NOL carryforwards
available to reduce future taxable income for federal and state income tax
purposes of $41.2 million and $867,000, respectively. Additionally, the Company
had research and development and other tax credit carryforwards available to
reduce income taxes for federal and state income tax purposes of $1.9 million
and $676,000, respectively. The Company has historically experienced significant
operating losses and operates in industries subject to rapid technological
changes. Therefore, management believes there is sufficient uncertainty
regarding the Company's ability to generate future taxable income and utilize
these NOLs and tax credit carryforwards such that a full valuation allowance for
deferred tax assets was required at March 31, 2000.
As a result of a change in ownership which occurred in May 1990, there is
an annual limitation of approximately $1.5 million for federal and state income
tax purposes on the combined use of approximately $6.1 million of federal NOLs
and the use of $550,000 of federal and state tax credit carryforwards.
Additionally, as a result of the Company's public offering in December 1992,
NOLs and tax credit carryforwards incurred prior to December 1992 are subject to
an annual limitation of $5.5 million for federal and state income tax purposes
on the combined use of $26.2 million of federal and $4.5 million of state NOLs,
and the use of $1.2 million of federal and $379,000 of state tax credit
carryforwards. If the amounts of these limitations are not utilized in a
particular year, the amount not utilized increases the limitation in the
subsequent year.
Fiscal 1999 and Fiscal 1998
Cholestech operated in a single business segment in both fiscal 1999 and
1998.
Revenues. The Company's revenues increased 1.7% to $22.0 million in fiscal
1999 from $21.7 million in fiscal 1998. The increase in revenues reflected
increased unit sales of single use test cassettes across all market segments and
total product sales increases in the physician office laboratory and
international markets. Total product sales decreased year to year in the health
promotion and pharmacy segments of the market.
International revenues represented 12.9% and 14.2% of revenues in fiscal
1999 and fiscal 1998, respectively. The Company expects that the dollar amount
and proportion of international revenues will continue to fluctuate from period
to period.
Cost of Revenues. Cost of revenues includes direct labor, direct material,
overhead and royalties. Cost of revenues decreased 2.5% to $10.3 million in
fiscal 1999 from $10.5 million in fiscal 1998, primarily as a result of
increased unit sales of single use test cassettes. Gross margin was 53.5% and
51.5% in fiscal 1999 and 1998, respectively. The improvement in gross margin was
primarily attributable to increased volume of single use test cassettes
manufactured and sold without corresponding percentage increases in
manufacturing costs, improving the absorption of manufacturing overhead and
reducing unit costs.
The Company has licensed certain technology used in the manufacturing of
certain of its products. A related agreement, which expires in 2006, requires
the Company to pay a royalty of 2.0% on net sales of the applicable products.
Total royalty expense in fiscal 1999 and 1998 was $379,000 and $562,000,
respectively, and such amounts were charged to cost of revenues.
Sales and Marketing. Sales and marketing expense includes salaries,
commissions, bonuses, expenses for outside services related to marketing
programs and travel expenses. Sales and marketing expense increased 22.8% to
$6.6 million in fiscal 1999 from $5.4 million in fiscal 1998. Sales and
marketing expense increased to 30.0% of revenue in fiscal 1999 from 24.8% in
fiscal 1998, primarily due to the addition of field sales and marketing
personnel and related expenses, continued expansion of the Company's domestic
sales and marketing programs, increased marketing and distribution expenses
related to greater penetration of the POL market and extended launch costs in
the pharmacy market.
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Research and Development. Research and development expense includes
salaries, bonuses, expenses for outside services, supplies and amortization of
capital equipment. Research and development expense increased 21.5% to $2.7
million in fiscal 1999 from $2.2 million in fiscal 1998. This increase was
primarily attributable to continued development of new single use test cassettes
and a related increase in headcount. Research and development expense as a
percentage of revenues increased to 12.3% in fiscal 1999 compared to 10.3% in
fiscal 1998.
General and Administrative. General and administrative expense includes
compensation, benefits, as well as expenses for outside professional services.
General and administrative expense increased 14.1% to $2.4 million in fiscal
1999 from $2.1 million in fiscal 1998. This increase resulted primarily from the
use of professional outside services, including legal services and information
services and support. General and administrative expenses increased to 10.8% of
revenues in fiscal 1999 from 9.6% in fiscal 1998.
Other Operating Expense. In fiscal 1999 the Company recorded other
operating expenses of $826,000. These expenses included fees relating to the
Company's withdrawn public stock offering, settlement of litigation with a
former employee, expenses associated with the Company's reduction in force, and
legal expenses incurred to defend the Company in a filed class-action
litigation. There were no other operating expenses incurred in fiscal 1998.
Interest and Other Income, Net. Interest income reflects income from the
investment of cash balances and marketable securities net of expenses relating
to those investments. Interest income rose 16.5% to $663,000 in fiscal 1999 from
$569,000 in fiscal 1998. This increase was primarily the result of realized
gains on marketable securities in fiscal 1999.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations primarily through the sale of
equity securities and, in fiscal 2000 and fiscal 1998, from positive cash flows
from operations. From inception to March 31, 2000, the Company raised $72.0
million in net proceeds from equity financings. As of March 31, 2000, the
Company had $13.7 million of cash, cash equivalents and marketable securities.
In addition to these amounts, the Company has available an $8.0 million
revolving bank line of credit agreement. While the agreement is in effect, the
Company is required to deposit assets with a collective value, as defined in the
line of credit agreement, equivalent to no less than 100% of the outstanding
principal balance. Amounts outstanding under the line of credit bear interest at
the bank's prime rate. The line of credit agreement expires on May 1, 2002. As
of March 31, 2000, there were no borrowings outstanding under the line of
credit.
During fiscal 2000, the Company provided $7.8 million in cash from
operating activities compared to using cash of $830,000 in fiscal 1999. Cash
provided from operations in fiscal 2000 was primarily due to net income of $3.1
million, increases in accounts payable and accrued liabilities of $2.2 million,
reductions in accounts receivable and inventory totaling $1.7 million and
depreciation and amortization of $1.6 million. This was partially offset by
increased prepaid expenses of $800,000. The use of cash in fiscal 1999 was
primarily due to an increase in inventories of $1.2 million and a decrease in
accounts payable and accrued benefits of $1.6 million, partially offset by a
decrease in accounts receivable of $1.2 million and depreciation expense of $1.1
million.
In fiscal 2000 the Company used $7.8 million of cash in investing
activities through the purchase of property and equipment of $4.2 million, the
purchase of Health Net Inc. for $2.6 million, and the net purchase of marketable
securities of $957,000. Net cash provided by investing activities was $798,000
in fiscal 1999 consisting primarily of net maturities of marketable securities
of $3.7 million offset against purchases of property and equipment of $2.9
million
Net cash provided by financing activities was $1.4 million in fiscal 2000
as compared to $431,000 for fiscal 1999. For both years, cash provided by
financing activities was primarily from the issuance of common stock pursuant to
the employee stock purchase and employee stock incentive plans.
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During fiscal 2001, the Company intends to expend approximately $6.0
million for capital purchases related to web site development, the acquisition
of additional testing service companies, expansion of its WellCheck testing
service, expansion of its manufacturing capacity, and research and development.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133
"Accounting for Derivative Instruments and Hedging Activities," which
establishes accounting and reporting standards for derivative instruments and
hedging activities. It requires that an entity recognize all derivatives as
either assets or liabilities on the balance sheet and measure those instruments
at fair value. The Company, to date, has not engaged in derivative and hedging
activities, and accordingly, does not believe that the adoption of SFAS No. 133
will have a material impact on the financial reporting and related disclosures
of the Company. The Company will adopt SFAS No. 133 as required by SFAS 137,
"Accounting for Derivative Instruments and Hedging Activities -- Deferral of the
Effective Date of the FASB Statement No. 133," beginning with the first quarter
of fiscal 2002.
In March 2000, the FASB issued FIN 44, "Accounting for Certain Transactions
Involving Stock Compensation -- An Interpretation of APB No. 25," which is
effective July 1, 2000. The Company does not expect FIN 44 to have any material
impact on its consolidated financial statements.
FACTORS AFFECTING FUTURE OPERATING RESULTS
Cholestech has no prior experience in the testing services or Internet
health management businesses, and if these new businesses are not successful,
Cholestech will be greatly harmed. The testing services business and Internet
health management business to be pursued by Cholestech's WellCheck and
WellCheck.com business units are completely new to Cholestech and our management
team. This will make it more difficult for us to successfully develop these new
businesses. Also, we will be devoting significant resources to developing these
new businesses. If we are not successful in developing these new businesses, our
Diagnostics business will be greatly harmed. Even if we are successful at
developing the new businesses, the demands of attempting to grow these new
businesses may prevent us from devoting significant time and attention to our
traditional business, and that traditional business may decline.
Internet health management is a new and unproven business, which means that
there is more risk that this business will not succeed, resulting in financial
harm to Cholestech. The internet-based personal health management business is a
very new and as yet unproven business. If it does not succeed, our significant
investment in this business will result in significant financial harm to
Cholestech. Cholestech's success in this business will depend upon individual
acceptance of internet-based management of personal health information.
Consumers may not feel comfortable having their health-related information
available over the Internet despite the privacy and security measures we plan to
take. Or there may be other reasons that we have not thought of that could
result in Internet health management not being a viable business. Thus,
consumers may not use our health management system on the Internet, and our
significant investment in this new business would not be recovered. This would
result in a significant financial loss to Cholestech.
We have no significant experience in managing geographically diverse
operations. If we are not successful in this area, our geographically dispersed
testing business may not perform well, which would result in financial harm to
Cholestech. Our traditional business has been managed and operated almost
exclusively from our Hayward, California headquarters. The new WellCheck
business will require us to operate in multiple geographic locations. This will
require us to manage multiple, geographically dispersed businesses and adapt our
management and financial systems and controls to this new geographically
dispersed business. We may not be able to manage these changes rapidly,
successfully, or at all. If we cannot successfully manage our geographic
expansion, the testing business will be much less likely to succeed. This would
mean we are less likely to recover our large investment in the testing business.
This, in turn, would likely result in significant financial harm to Cholestech.
Our new testing and Internet health management businesses will require
significant financial resources to develop. These expenditures will hurt our
overall financial performance and, if these new businesses are not
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successful, this large financial investment will not be returned. This will
result in significant financial damage to Cholestech. The development of the two
new business units, and the WellCheck.com Internet business in particular, will
require significant start-up expenditures. These expenditures are likely to
materially affect the operating results of Cholestech as a whole. The Company
may need to seek additional capital to help fund these start-up expenses. The
required additional capital may not be available to us at favorable or
acceptable terms when required, or at all. If we cannot obtain required
additional capital, we may have to change our business strategy, which would be
disruptive to our business. If we raise additional capital through borrowings,
the terms of such borrowings may impose limitations on how our management may
operate the business in the future. If we raise additional capital by issuing
equity, this may result in a dilution of existing shareholders' interests in
Cholestech. Also, equity issued by us may have rights, preferences, or
privileges senior to those of our existing shareholders.
We plan to use acquisitions as a significant part of the development of our
new testing business. These acquisitions could be very costly, could result in
dilution to existing investors and could result in integration problems that
harm the business as a whole. The WellCheck business will be developed in
significant part by our acquiring existing testing service businesses. We may
acquire services and/or technology to assist in developing our WellCheck.com
business as well. Any acquisition could result in significant amounts of cash,
potentially dilutive issuances of equity securities, and/or the incurring of
debt or amortization expenses related to goodwill and other intangible assets.
Any of these acquisition financing approaches could materially harm our
operating results and business. Acquisitions may also result in difficulties in
assimilating the operations, technologies, products, services, and personnel of
the acquired company or business. These difficulties could result in additional
expenses. These difficulties could also result in diversion of management
attention, which could prevent the new businesses from being successful. Any of
these results could harm Cholestech financially.
Our new Internet health management business has information security risks
that could result in the business not succeeding or in financial liability for
Cholestech. Our planned WellCheck.com business will involve the provision and
management of individual health-related information over the Internet. Despite
security measures we plan to take, such information may be accessed or
manipulated by third parties without our consent or the consent of the user of
our service. Any such security breach could greatly erode consumer confidence in
our WellCheck.com business. This would likely severely harm that business and
its prospects. Additionally, if an individual's health information is corrupted
by software or technical problems, consumer confidence in the WellCheck.com
business could be severely damaged. If consumer information is altered by third
parties or by technical problems, the affected individual may bring litigation
against Cholestech and/or the Company's web site hosting partners. Any such
litigation could result in significant expense, including any damage awards.
Even if ultimately decided in our favor, such litigation could result in
significant expense and distraction of our management.
Our L-D-X System has not yet achieved broad market acceptance in all of our
target markets and in physician office laboratories and pharmacies, market
acceptance has proceeded slower than anticipated. If broad market acceptance
does not occur, Cholestech will not grow and will suffer significant financial
damage. The Cholestech L-D-X System, including the L-D-X Analyzer (our only
product platform) and single use test cassettes, will continue to account for
substantially all of Cholestech's revenues for the foreseeable future. If this
revenue does not grow, the overall business will be severely harmed. In order
for the Company to increase revenues, sustain profitability and maintain
positive cash flows from operations, the L-D-X System must gain much broader
market acceptance among health care providers, particularly physician office
laboratories and pharmacies. Cholestech has made only limited sales to physician
office laboratories and pharmacists to date. Market acceptance issues such as
awareness, adoption, reimbursement, distribution, pricing, and education have
kept sales to pharmacists at a significantly low level to date relative to the
size of the available market. If we do not achieve broad market acceptance,
Cholestech's diagnostics products business will not grow. This will result in
significant financial damage to the business as a whole. We are relying in
significant part on income from the core testing device business to finance the
development of the new testing services and Internet health management
businesses of Cholestech. If the diagnostic products
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business does not grow, the new businesses will not succeed. These results will
cause severe financial harm to Cholestech. Factors that could prevent broad
market acceptance of the L-D-X System include:
- Awareness of the availability of the Company's technology remains at
predominantly low levels in both the physician and pharmacy customer
groups.
- The L-D-X System must be an attractive alternative to other means of
testing. This determination will depend on the L-D-X System's accuracy,
ease of use, rapid test time, reliability and cost effectiveness compared
to other testing alternatives.
- Even if the advantages of the L-D-X System in diagnosing and monitoring
patients with chronic diseases are established, health care providers may
elect not to purchase and use the L-D-X System for any number of reasons.
For example, physicians and other health care providers may not change
their established means of having such tests performed or may not make
the necessary investment to purchase the L-D-X Analyzer.
- The growing prevalence of managed care may adversely affect the physician
office laboratory market. A growing number of physicians are salaried
employees and have no financial incentive to perform testing.
- Many managed care organizations have contracts with laboratories, which
require participating or employed physicians to send patient specimens to
contracted laboratories.
- Physicians are under growing pressure by Medicare and other third party
Payors to limit their testing to "medically necessary" tests.
- Market acceptance of the L-D-X System will in part depend on the
continued availability and amount of reimbursement to them for performing
tests on the L-D-X System.
- Even if the Company is successful in continuing to place L-D-X Analyzers
at POLs, pharmacies and other near-patient testing sites, there can be no
assurance that placement of L-D-X Analyzers will result in sustained
demand for the Company's single use test cassettes.
As a result of these many hurdles to achieving broad market acceptance for
the L-D-X System, demand for the L-D-X System may not be sufficient to sustain
revenues and profits from operations. Because the L-D-X System currently
contributes the vast majority of our revenues, Cholestech could be required to
cease operations if the L-D-X System does not achieve and maintain a significant
level of market acceptance.
Our business has experienced a history of operating losses and fluctuating
operating results. Results are likely to continue to fluctuate and we may
(especially in light of investment in our new businesses) experience losses in
the future. Historically, Cholestech has experienced significant operating
losses and negative cash flows from operations. As of March 31, 2000, we had an
accumulated deficit of $48.6 million. Cholestech's first profitable quarter was
the first quarter of fiscal 1998, and our first profitable year was fiscal 1998.
However, we recorded a net loss of $73,000 for fiscal 1999. Cholestech's
profitability and positive cash flows from operations will require:
- Broadening market acceptance of our existing diagnostic product offerings
- Completing the development of and successfully introduction and marketing
of additional diagnostic products
- Successfully developing our new testing services and Internet health
management businesses
Cholestech 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 amount of expenditures on development of our new testing
services and Internet health management businesses
- The timing and level of market acceptance of the L-D-X System
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- The timing of the introduction and availability of new tests
- The timing and level of expenditures associated with research and
development activities
- The timing and level of expenditures associated with expansion of sales
and marketing activities and overall operations
- Our ability to reduce cost of cassette manufacturing
- Variations in manufacturing efficiencies
- The timing of establishment of strategic distribution arrangements and
the success of the activities conducted under such arrangements
- 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
- Product pricing and discounts
- Variations in the mix of products sold
- General economic conditions
These and other factors are difficult to predict, and could have a material
adverse effect on Cholestech's business, financial condition and results of
operations. Fluctuations in quarterly demand for our products may cause our
manufacturing operations to fluctuate in volume, increase uncertainty in
operational planning and/or affect cash flows from operations. Many of our
expenses are made in advance, based our expectations about future revenue
levels. These costs are largely fixed in the short term. As a result, when
actual revenues do not meet expectations, our fixed costs will not be recovered
and we will experience losses. This situation is likely to result in the future
because of the variability and unpredictability of our revenues. This also means
that Cholestech's results will likely not meet the expectations of public market
security analysts or investors at one time or another. This could cause the
trading price of Cholestech's common stock to decline significantly.
In order to grow the grow the business significantly, Cholestech must
successfully develop, introduce and market new tests. These activities are very
costly, and if not successful could result in significant financial harm to
Cholestech's business. The vast majority of Cholestech's revenues come from its
diagnostics products business. We anticipate this will continue for at least two
years. Cholestech is also relying on this revenue from the diagnostics products
business to fund the development of its new testing services and Internet health
management businesses. Cholestech also believes that its diagnostic products
business will not grow significantly if it does not develop new tests to use
with the L-D-X System. If new tests are not developed and accepted in the
market, Cholestech's business will not grow significantly and the business will
be harmed. Developing new tests involves many significant problems and risks,
including:
- Research and development is a very expensive
- Research and development takes a very long time to result in a marketable
product
- Significant costs (including diversion of resources) may be incurred in
development prior to knowing if the development will result in a test
that is commercially viable
- A new test will not be successful unless it is effectively marketed to
its target market
- A new test must be able to be manufactured in a reliable, cost-efficient,
high-volume manufacturing process for such tests and the manufacturing
process must be developed and implemented in a timely manner in order to
produce the test for sale
- New tests must meet a significant market need in order to be successful
- New tests must obtain proper regulatory approvals to be marketed
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Cholestech could experience difficulties that could delay or prevent the
successful development, introduction and marketing of new tests. Also,
regulatory clearance or approval of any new tests may not be granted on a timely
basis, or at all.
Cholestech has experienced difficulties obtaining regulatory approval for
tests in the past. In September 1999, the FDA approved the Company's request for
clearance to market Cholestech's newly developed ALT single use test cassette.
As of March 2000, the FDA has not approved our request for CLIA waiver for the
use of the ALT test cassette with the L-D-X System. Because the FDA's evaluation
of applications for CLIA waived status is not based upon precisely defined,
objectively measurable criteria, Cholestech cannot predict the likelihood of
obtaining waived status in the future for the ALT product or other products. In
order to successfully commercialize the ALT test cassette or other future tests
in the United States, the Company believes it is critical to obtain waived
status under CLIA. In order to successfully commercialize any new tests,
including the ALT test cassette, the Company will be required to establish and
maintain reliable, cost-efficient, high-volume manufacturing capacity for such
tests.
Cholestech has in the past encountered difficulties in scaling up
production of new test cassettes, including problems involving production
yields, quality control and assurance, variations and impurities in raw
materials and performance of the manufacturing equipment.
Manufacturing Cholestech's tests cassettes is a complex and delicate
process and interruption of cassette manufacturing could result in insufficient
cassettes to meet orders, which could result in financial harm to
Cholestech. Cholestech internally manufactures all of the single use test
cassettes that are used with the L-D-X Analyzer. The manufacture of the test
cassettes is a highly complex and precise process that is sensitive to a wide
variety of factors. The Company has in the past experienced lower than expected
manufacturing yields that have adversely affected gross margins and delayed
product shipments. To the extent that the Company does not maintain acceptable
manufacturing yields of test cassettes or experiences product shipment delays,
the Company's business, financial condition and results of operations would be
materially adversely affected. Manufacturing yields could be harmed by:
- Raw materials variations or impurities
- Occurrence of manufacturing process variances
- Decreased manufacturing equipment performance
- Introduction of manufacturing environment impurities
Cholestech's cassette manufacturing lines would be costly and time
consuming to repair or replace if their operation were interrupted. The
interruption of cassette manufacturing operations or the loss of employees
dedicated to the cassette manufacturing facility could severely harm
Cholestech's business. The risks involving the manufacturing lines include:
- As Cholestech's production levels have increased, Cholestech has been
required to use its machinery more hours per day and the down time
resulting from equipment failure has increased
- The custom nature of much of Cholestech's manufacturing equipment
increases the time required to remedy equipment failures and replace
equipment
- Cholestech has a limited number of employees dedicated to the operation
and maintenance of the cassette manufacturing equipment, the loss of whom
could impact Cholestech's ability to effectively operate and service such
equipment.
- Cholestech manufactures all of the cassettes at its Hayward, California
manufacturing facility, so manufacturing operations are at risk to
interruption from earthquake, fire or other events affecting this one
location
Cholestech will need to reduce manufacturing costs in order to achieve long
term success, and it may not be able to reduce these costs. We believe that it
we will be required to reduce manufacturing costs for new and existing test
cassettes in order to achieve sustained profitability. Cholestech currently
operates two
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manufacturing lines for dry chemistry cassettes. We are planning and building a
third manufacturing line that we anticipate will become fully operational in the
third quarter of fiscal 2001. The complexity and custom nature of our
manufacturing process increases the amount of time and money required to add an
additional manufacturing line. Despite our efforts, the new cassette
manufacturing line may not be completed in a timely fashion, or at all. Also, we
may need to implement cassette manufacturing cost reduction programs sooner.
Failure to develop the new dry chemistry manufacturing line could prevent us
from satisfying customer orders in a timely manner, which could lead to customer
dissatisfaction and loss of business. Failure to develop the new line could also
prevent us from reducing manufacturing costs for dry chemistry tests, and
prevent us from achieving sustained profitability.
Cholestech will have to develop new manufacturing processes and a new
manufacturing line in order to market immunoassay tests in development, or we
will not be able to recover the costs of these tests in development. We may also
be required to build a new cassette manufacturing line in order to manufacture
the immunoassay test cassettes under development. To date, we have not developed
the processes and production equipment necessary for an immunoassay cassette
manufacturing line. Failure to successfully develop an immunoassay cassette
manufacturing line and achieve acceptable yields, could lead to an inability to
cost effectively satisfy customer orders and could have a material adverse
effect on the Company's business, financial condition and results of operations.
Cholestech depends on single source suppliers for inputs to its
manufacturing process. Cholestech's business will be harmed if these suppliers
cannot provide supplies to Cholestech or experience problems with quality of
supplied materials. Single source vendors currently provide subassemblies,
components and raw materials used in the manufacture of Cholestech's products.
Any supply interruption in a single source subassembly, component, or raw
material could restrict Cholestech's ability to manufacture products until a new
source of supply is identified and qualified. Cholestech may not be successful
in qualifying additional sources of supply on a timely basis, or at all. Failure
to obtain a usable alternative source could prevent manufacturing our products,
resulting in inability to fill orders, customer dissatisfaction and loss of
business. This would likely severely harm our business. In addition, an
uncorrected impurity or supplier's variation in a raw material, either unknown
to Cholestech or incompatible with Cholestech's manufacturing process, could
interfere with our ability to manufacture products. Because Cholestech is a
small customer of many of its suppliers and purchases its subassemblies,
components and materials on a purchase order basis rather than pursuant to long
term commitments, Cholestech's suppliers may not devote adequate resources to
supplying Cholestech's needs. Any interruption or reduction in the future supply
of any subassemblies, components or raw materials currently obtained from single
or limited sources could severely harm Cholestech's business.
If Cholestech is successful in growing sales, this success may be
undermined if it cannot effectively manage the operational and management
challenges of growth. If Cholestech is successful in achieving and maintaining
market acceptance for the L-D-X System, Cholestech will be required to expand
its operations, particularly in the areas of sales and marketing and
manufacturing. As Cholestech expands its operations, this expansion will likely
result in new and increased responsibilities for management personnel and place
significant strain upon Cholestech's management, operating and financial systems
and resources. To accommodate any such growth and compete effectively,
Cholestech will be required to implement and improve its information systems,
procedures and controls, and to expand, train, motivate and manage its work
force. Our personnel, systems, procedures and controls may not be adequate to
support our future operations. Any failure to implement and improve operational,
financial and management systems or to expand, train, motivate or manage
employees as required by future growth, if any, could harm our business and
prevent us from improving our financial condition as a result of increased
sales.
Cholestech relies on distributors to sell its products, and has had
difficulty in the past maintaining some distributor relationships. In order for
Cholestech to increase revenues and achieve sustained profitability, we will
have to maintain and expand our existing distribution relationships and develop
new distribution relationships. Cholestech is dependent upon such distributors
to assist it in promoting market acceptance of the L-D-X System. If we do not
maintain and expand these relationships, our sales will not grow and our
business will be greatly harmed. We have in the past had problems maintaining
relationships with our distributors to the pharmacy market. Distribution
agreements with Amerisource and Bergen Brunswig Drug
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Company, both national distributors to the pharmacy market, were cancelled due
to contractual performance issues. Also, we may not be able to enter into and
maintain new arrangements on a timely basis, or at all. Even if we do enter into
additional distributor relationships, those distributors may not devote the
resources necessary to provide effective sales and marketing support to our
products. We do not have the ability to prevent distributors from distributing
products that compete with our products. The distributors may also give higher
priority to the products of our competitors.
If third party reimbursement for use of Cholestech's products is eliminated
or reduced, our sales will be greatly reduced and our business may fail. In the
United States, healthcare providers that purchase products such as the L-D-X
System generally rely on third party payors, including private health insurance
plans, federal Medicare, state Medicaid and managed care organizations, to
reimburse all or part of the cost of the procedure in which the product is being
used. Cholestech will not be able to successfully market its products if the
purchase and use of these products is not subject to reimbursement from
government health authorities, private health insurers and other third party
payors. If this reimbursement is not available or is limited, healthcare
providers will be much less likely to use Cholestech's products, our sales will
be greatly reduced and our business will likely fail.
Reimbursement is currently not available for certain uses of Cholestech's
products in particular circumstances. As a general rule, third party
reimbursement is available if a physician has been involved in the decision to
perform the test involving our products. For example, if a physician prescribes
a drug that requires therapeutic monitoring, the use of our products in
performing such tests will be reimbursable. In the health promotion market, use
of our products for diagnostic screening in health promotion clinics is
generally subject to reimbursement. However, diagnostic screening preformed in
corporate wellness programs and at fitness centers is likely not subject to
reimbursement.
There are current conditions in healthcare that increase the possibility
that third party payors may reduce or eliminate reimbursement for tests using
Cholestech's products in certain settings. These circumstances include:
- Third party Payors are increasingly scrutinizing and challenging the
prices charged for medical products and services.
- Healthcare providers are moving toward a managed care system in which
such providers contract to provide comprehensive healthcare for a fixed
cost per patient. Managed care providers are attempting to control the
cost of healthcare by authorizing fewer elective procedures, such as uses
of Cholestech's products for diagnostic screening.
- There is general uncertainty regarding what changes will be made in the
reimbursement methods utilized by third party payors and how that will
affect use of products such as Cholestech's. This uncertainty may deter
healthcare providers from adopting use of Cholestech diagnostic products.
- Cholestech believes that the overall escalating cost of medical products
and services has led to and will continue to lead to increased pressures
on the healthcare industry, both domestic and international, to reduce
the cost of products and services, including products offered by
Cholestech.
Market acceptance of Cholestech's products in international markets is also
dependent, in part, upon the availability of reimbursement within prevailing
healthcare payment systems. Reimbursement and healthcare payment systems in
international markets vary significantly by country and include both government
sponsored healthcare and private insurance. Third party reimbursement and
coverage may not be available or adequate in either United States or
international markets, and current reimbursement amounts may be decreased in the
future. Also, future legislation, regulation, or reimbursement policies of third
party Payors may adversely affect demand for our products or our ability to sell
our products on a profitable basis. Any of these events could materially harm
our business. See "Business -- Third Party Reimbursement."
There is a good likelihood that the healthcare system in the United States
will undergo fundamental change, and there is no way to predict whether these
changes will harm our business or how severe the effect will be. Political,
economic and regulatory influences are pushing the healthcare industry in the
United States
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to fundamental change. Cholestech anticipates that Congress, state legislatures
and the private sector will continue to review and assess alternative healthcare
delivery and payment systems. Potential approaches that have been considered
include mandated basic healthcare benefits, controls on healthcare spending
through limitations on the growth of private health insurance premiums and
Medicare and Medicaid spending, the creation of large insurance purchasing
groups, price controls and other fundamental changes to the healthcare delivery
system. Legislative debate is expected to continue in the future, and market
forces are expected to demand reduced costs. Cholestech cannot predict what
impact the adoption of any federal or state health care reform measures, future
private sector reform or market forces may have on its business. There is the
potential that changes in the healthcare system could have extremely negative
effects on our business.
Cholestech's products are subject to multiple levels of government
regulation that impose significant restrictions on Cholestech's business and
could change in ways that are difficult to predict and that could be very
damaging to our business. The manufacture and sale of diagnostic products,
including the L-D-X System, are subject to extensive regulation by numerous
governmental authorities, principally the FDA and corresponding state and
foreign regulatory agencies. Cholestech will not be able to commence marketing
or commercial sales in the United States of any of the new tests it is
developing until it receives required clearances and approvals. The process of
obtaining required regulatory clearances and approvals is lengthy, expensive and
uncertain. As a result, Cholestech's new tests under development, even if
successfully developed, may never obtain such clearance or approval.
Additionally, certain material changes to medical products already cleared or
approved by are subject to further review and clearance or approval. Medical
devices are subject to continual review, and later discovery of previously
unknown problems with a cleared product may result in restrictions on the
product's marketing or withdrawal of the product from the market. The loss of
previously obtained clearances, or failure to comply with existing or future
regulatory requirements, could prevent marketing of products affected, which
would depress revenues and severely harm our business.
In addition, any future amendment of regulations or the promulgation of
additional regulations impacting Cholestech's products could prevent Cholestech
from marketing the L-D-X System. Regulatory changes could hurt our business by
increasing burdens on our products. Regulatory changes could also harm our
business by reducing regulatory requirements and burdens faced by competitive
products, certain competitive advantages of the L-D-X System's waived status
could be reduced or eliminated.
Currently, Cholestech's diagnostic products are regulated in the United
States by the Food and Drug Administration. The L-D-X Analyzer and all existing
test cassettes required clearance by the Food and Drug Administration. Food and
Drug Administration clearance or approval of products such as Cholestech's can
be obtained by either of two processes:
- The 510(k) clearance process, which generally takes from four to twelve
months from the date of submission to obtain, but may take longer.
- The pre-market approval process, which is a much longer and more costly
process than a 510(k) clearance process, involves the submission of
extensive supporting data and clinical information and generally takes
one to three years from the date on which the application is accepted for
filing, but may take significantly longer.
If Cholestech's future products are required to obtain a pre-market
approval, this would significantly delay our ability to market those tests and
significantly increase the costs of development.
The use of the Company's products and those of its competitors is also
affected by federal and state regulations, which provide for regulation of
laboratory testing, as well as by the laws and regulations of foreign countries.
The scope of these regulations includes quality control, proficiency testing,
personnel standards and inspections. In the United States, clinical laboratory
testing is regulated under the Clinical Laboratory Improvements Act of 1976. The
L-D-X Analyzer and Cholestech's total cholesterol, HDL (high density
lipoproteins), triglycerides and glucose tests in any combination have been
classified as waived from the application of many of the requirements under the
Clinical Laboratory Improvements Act. Cholestech believes that this waived
classification is critical for its products to be successful in their markets.
Cholestech's new tests, including the ALT test cassette, may not qualify for
waived classification. Any failure of the new
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tests to obtain waived status under the Clinical Laboratory Improvements Act
will severely limit ability to commercialize such tests. Loss of waived status
for existing diagnostic products or failure to obtain waived status for new
products could limit our sales and revenues, which would severely harm our
business.
The European Union has promulgated rules that require that devices such as
those developed, manufactured and sold by Cholestech receive the right to affix
the CE mark, a symbol of adherence to applicable European Union directives.
Cholestech has completed all the testing necessary to comply with applicable
regulations to currently be eligible for self-certification and currently has
the right, as self-certified under the product testing requirements, to affix
the CE mark to its products. Cholestech's products will be covered by the In
Vitro Diagnostics Directives that have not yet been officially published or
adopted. Cholestech may lose its self-certified status if it is not successful
in meeting the European Union certification requirements. Failure to receive the
right to affix the CE mark may prohibit Cholestech from selling its products in
European Union member countries. This would result in lost sales and market
share and significant financial harm to our business.
Cholestech's manufacturing processes are subject to regulation and, if we
do not comply with these regulations, our manufacturing could be suspended,
resulting in unfilled orders, customer dissatisfaction, and lost sales, revenues
and market share. Cholestech's manufacturing processes, as well as, in certain
instances, those of our contract manufacturers, are subject to stringent
federal, state and local regulations governing the use, generation, manufacture,
storage, handling and disposal of certain materials and wastes. Failure to
comply with these regulations could result in, among other things, warning
letters, fines, injunctions, civil penalties, recall or seizure of products,
total or partial suspension of production, refusal of the government to grant
pre-market clearance or pre-market approval for devices, withdrawal of approvals
and criminal prosecution. Any of these could harm our business. Cholestech and
our contract manufacturers are subject to federal, state and foreign regulations
regarding the manufacture of healthcare products and diagnostic devices,
including:
- [QSR], which requires the company to maintain a quality system consistent
with FDA regulations.
- ISO9001/EN46001 requirements, which is an industry standard for
maintaining quality standards and assuring conformance to said standards.
- And other foreign regulations and state and local health, safety and
environmental regulations, which include testing, control and
documentation requirements.
Changes in existing regulations or adoption of new governmental regulations
or policies could prevent or delay regulatory approval of the Company's
products. Cholestech may be required to incur significant costs in the future in
complying with manufacturing and environmental regulations.
Our testing system may not properly process year 2000 dates, which would
result in loss of sales and in financial harm to Cholestech. Cholestech
implemented a program to assess the extent to which its internal systems and
products evaluate date information ("Year 2000 dependencies"), and, if so,
whether they can properly process and evaluate dates on or after the Year 2000
(whether they are "Year 2000 compliant). As of the first twenty-one weeks of
calendar 2000, the Company has not been able to detect any material Year 2000
related issue to its internal systems and products. Additionally, the Company is
not currently aware of any Year 2000 dependencies in its internal systems or
products that could have a material impact on its business. Although the company
believes no material events will occur, no assurances can be given that
Cholestech will not experience unanticipated material costs caused by undetected
errors or defects in its internal systems.
Our business depends on our ability to protect our proprietary technology
through patents and other means which may not be successful or may require
costly litigation to enforce. If our protective measures are not successful our
competitors will be able to use our technology to compete with us, and if we
have to enforce our protective measures we may have to divert time and money
from operating our business. The Company's ability to compete effectively will
depend in part on its ability to develop and maintain the proprietary aspects of
its technology and operate without infringing the proprietary rights of others.
The Company has nine United States patents and has filed patent applications
relating to its technology internationally under the Patent
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Cooperation Treaty and individual foreign patent applications. Risks of relying
on the proprietary nature of our technology include:
- Our pending patent applications may not result in the issuance of any
patents, or, if issued, such patents may not offer protection against
competitors with similar technology.
- Our patents may be challenged, invalidated or circumvented in the future,
and the rights created under our patents may not provide a competitive
advantage.
- Competitors, many of which have substantially greater resources than us
and have made substantial investments in competing technologies, may seek
to apply for and obtain patents covering technologies that are more
effective than ours. This could render our technologies or products
obsolete or uncompetitive or could prevent, limit or interfere with our
ability to make, use or sell our products either in the United States or
in international markets.
- The medical products industry has been characterized by extensive
litigation regarding patents and other intellectual property rights.
Cholestech may in the future become subject to patent infringement claims
and litigation or interference proceedings conducted in the United States
Patent and Trademark Office to determine the priority of inventions.
Litigation may also be necessary to enforce any patents issued to us, to
protect our trade secrets or know-how or to determine the enforceability,
scope and validity of the proprietary rights of others. The defense and
prosecution of intellectual property suits, patent interference
proceedings and related legal and administrative proceedings are both
costly and time consuming and will likely result in substantial diversion
of attention of technical and management personnel.
- An adverse determination in litigation or interference proceedings to
which Cholestech may become a party could subject us to significant
liabilities to third parties or require us to seek licenses from third
parties which may not be available on commercially reasonable terms or at
all.
On December 23, 1999 an injunction, No. ES 580-199, was filed in Zug
Switzerland by Roche Diagnostics seeking a cease and desist order barring the
Company, and two distributors, Healthcare Solutions, and Euromedix from
distributing HDL assay single-use test cassettes in Switzerland. The complaint
alleges that Cholestech violated a Roche European patent for HDL. The court is
expected to reach a decision on the merits of the complaint in the next several
months. Additionally, in January, 2000 a complaint, No. 4 O 4/00 was filed in
the District Court Dusseldorf, Germany against Cholestech and two of its
distributors, seeking a cease and desist order barring the distributor from
shipping HDL single-use test cassettes in to Germany. The complaint alleges the
Company and its distributor violated a Roche German priority patent for HDL by
selling Cholestech's single-use test cassette containing a HDL assay. The court
has set a trial date of January 18, 2001. The Company believes both suits are
without merit and intends to defend the cases vigorously. The Company does not
believe that it did cause any wrongdoing, and that the outcome of this matter
will not result in a material adverse effect, however, there can be no assurance
that the lawsuit will be resolved in the Company's favor.
We rely upon trade secrets, technical know-how and continuing invention to
develop and maintain our competitive position. Others may independently develop
substantially equivalent proprietary information and techniques or otherwise
gain access to our trade secrets or disclose such technology. Also, we may not
be able to meaningfully protect our right to its trade secrets
We rely on technology that we license from others. This technology and
other technology we require may not be available to us in the future, which
would prevent us from producing our products and severely harm our
business. Cholestech's current products incorporate technologies which are the
subject of patents issued to, and patent applications filed by, others.
Cholestech has obtained licenses for certain of these technologies. We may in
the future be required to obtain licenses for new products. We may not be able
to obtain licenses for technology patented by others on commercially reasonable
terms, or at all. We also may not be able to develop alternative approaches if
unable to obtain licenses. Also, our current and future licenses may not be
adequate for the operation of our business. Failure to obtain adequate licenses
on commercially reasonable terms could prevent us from producing our products
and severely harm our business.
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Cholestech faces increasing competition in the diagnostic products, testing
services and Internet health management businesses. If we do not effectively
compete in each of these markets, we will lose market shares and our sales,
revenues and business will suffer. The markets for diagnostic screening and
therapeutic monitoring in which Cholestech operates are intensely competitive.
Our competition consists mainly of clinical and hospital laboratories, as well
as manufacturers of bench top analyzers. In order to achieve market acceptance
for the L-D-X System, we will be required to demonstrate that the L-D-X System
is an attractive alternative to bench top analyzers as well as to clinical and
hospital laboratories. This will require physicians to change their established
means of having such tests performed. The L-D-X System may not be able to
compete with these other testing services and analyzers. In addition, companies
having a significant presence in the market for therapeutic monitoring, such as
Abbott Laboratories, Clinical Diagnostic Systems, a division of Johnson &
Johnson and formerly a division of Eastman Kodak Company, and Roche Boehringer
Mannheim, have developed or are developing analyzers designed for near-patient
testing. These competitors have substantially greater financial, technical,
research and other resources and larger, more established marketing, sales,
distribution and service organizations than Cholestech. These competitors also
offer broader product lines than us, have greater name recognition than us, and
offer discounts as a competitive tactic. In addition, several smaller companies
are currently making or developing products that compete or will compete with
those of Cholestech.
Cholestech expects that its competitors will compete intensely to maintain
and increase market share and seek to develop similar multi-analyte tests that
qualify for waived status under the Clinical Laboratory Improvements Act. These
competitors may succeed in obtaining Clinical Laboratory Improvements Act waived
status for their products or in developing or marketing technologies or products
that are more effective and commercially attractive than Cholestech's current or
future products, or that would render the Company's technologies and products
obsolete or noncompetitive. Our current and future products must compete
effectively with the existing and future products of our competitors primarily
on the basis of ease of use, breadth of tests available, market presence, cost
effectiveness, precision, accuracy, immediacy of results and the ability to
perform tests near the patient, to test multiple analytes from a single sample
and to conduct tests without a skilled technician or pre-treating blood.
Cholestech may not have the financial resources, technical expertise or
marketing, distribution or support capabilities to compete successfully in the
future. Even if we do have such resources and capabilities, we may not employ
them successfully. See "Business -- Products and Products Under Development" and
"-- Competition."
In order to succeed, we must retain our key personnel and attract
additional qualified employees, which are increasingly difficult to do in the
San Francisco Bay Area where we are located. Our success depends in significant
part upon the continued service of certain key scientific, technical, regulatory
and managerial personnel. Our success will also require us to continue to
attract and retain additional highly qualified personnel in those areas.
Competition for qualified personnel is intense, particularly in the San
Francisco Bay Area where Cholestech is located because of the large number of
attractive technology employment opportunities and the extremely high cost of
living. We may not be able to retain our key personnel or attract or retain
other necessary highly qualified personnel in the future. If we do not keep our
key personnel or attract other needed employees, we will not be able to grow our
business.
Sale of our diagnostic products and performance of our services may subject
us to liability claims, and if our insurance is insufficient, this liability
could severely harm our business. Sale of Cholestech's products and performance
of our testing services and offering our health management system entail risk of
product, professional, and cyberliability claims. If any of these claims are
brought, we may have to expend significant resources defending against them. If
we are found liable for any of these claims, we may have to pay damages that
could severely hurt Cholestech's financial position. Loss of these claims could
also hurt our reputation, resulting in our losing business and market share. The
medical testing industry has historically been litigious, and we face financial
exposure to these liability claims in the event that use of our products results
in personal injury or improper diagnosis. Cholestech also faces the possibility
that defects in the design or manufacture of its products might necessitate a
product recall.
We currently maintain product liability insurance, but there can be no
assurance that the coverage limits of our insurance policies will be adequate.
Insurance is expensive and difficult to obtain, and product liability
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insurance may not be able to be maintained in the future on acceptable terms, in
sufficient amounts to protect us against losses due to product liability.
Inability to maintain insurance at an acceptable cost or to otherwise protect
against potential product liability could prevent or inhibit the continued
commercialization of our products. In addition, a product liability claim in
excess of relevant insurance coverage or a product recall could severely hurt
Cholestech's financial condition.
Possible Future Capital Requirements; Uncertainty of Additional
Funding. Cholestech intends to expend substantial funds for capital expenditures
related to expansion of its manufacturing capacity, research and development,
expansion of sales and marketing activities and other working capital and
general corporate purposes. Also, we plan to expend significant amounts in
developing our new testing services and Internet health management businesses.
We believe that our cash, cash equivalents, marketable securities, cash flow
anticipated to be generated by future operations, and available bank borrowings
under an existing line of credit will be sufficient to meet our operating
requirements for the foreseeable future, we may still require additional
financing. For example, we may be required to expend greater than anticipated
funds if unforeseen difficulties arise in expanding manufacturing capacity for
existing cassettes or in the course of completing required additional
development, obtaining necessary regulatory approvals, obtaining waived status
under CLIA or introducing or scaling up manufacturing for new tests. Also, it is
possible that developing our new testing services and Internet health management
businesses may require more capital than we currently anticipate. This
possibility is increased given our lack of experience in the markets addressed
by these new businesses.
In the event that additional financing is needed, we 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 Cholestech to relinquish its rights to
technologies, products or marketing territories. Our failure to raise capital on
acceptable terms when needed could prevent us from developing our products and
our business.
Cholestech has made use of devices to limit the possibility that we are
acquired, which may mean that a transaction that shareholders are in favor of or
are benefited by may be prevented. Cholestech's board of directors has the
authority to issue up to 5,000,000 shares of preferred stock and to determine
the rights, preferences, privileges and restrictions of such shares without any
further vote or action by the Company's shareholders. To date, the Board has
designated 25,000 shares as Series A Participating Preferred Stock in connection
with our "poison pill" anti-takeover plan. The issuance of preferred stock under
certain circumstances could have the effect of delaying or preventing an
acquisition of Cholestech or otherwise adversely affecting the rights of the
holders of our stock. The "poison pill" may have the effect of rendering more
difficult or discouraging an acquisition of Cholestech deemed undesirable by the
board of directors. The "poison pill" may cause substantial dilution to a person
or group attempting to acquire Cholestech on terms or in a manner not approved
by the board of directors, except pursuant to an offer conditioned upon the
negation, purchase or redemption of the rights issued under the "poison pill."
Potential Volatility of Stock Price. The market price of our stock has in
the past been, and is likely in the future to continue to be, highly volatile.
These fluctuations are caused by many factors including:
- fluctuations in our operating results
- announcements of technological innovations or new commercial products by
us and our competitors
- government regulation
- changes in the current structure of the healthcare financing and payment
systems
- developments in or disputes regarding patent or other proprietary rights
- stock market price and volume fluctuations, which have particularly
affected the market prices for medical products and high technology
companies and which are often been unrelated to the operating performance
of such companies
- general economic, political and market conditions.
43
<PAGE> 44
In the past, following periods of volatility in the market price of a
company's stock, securities class action suits have been filed against the
issuing company. This type of litigation could be brought against us in the
future. This litigation could result in substantial costs and a diversion of
management's attention and resources, which could harm our company. Any adverse
determination in such litigation could also subject us to significant
liabilities.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Reference is made to the financial statements and supplemental data
required by this item and set forth on the pages indicated in Item 14(a) of this
Report.
ITEM 9. DISAGREEMENTS 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 sections captioned "Election of
Directors -- Nominees" and "Section 16(a) Beneficial Ownership Reporting
Compliance" contained in the Company's Proxy Statement related to the 2000
Annual Meeting of Shareholders to be held August 17, 2000, to be filed by the
Company within 120 days of the end of the Company's fiscal year pursuant to
General Instruction G(3) of Form 10-K (the "Proxy Statement"). Certain
information required by this item concerning executive officers set forth in
Part I of this Report under information required "Business -- Executive Officers
of the Company" and certain information required by reference from the section
captioned "Section 16(a) Beneficial Ownership Reporting Compliance" in the Proxy
Statement.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item concerning the compensation of the
Company's executive officers 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 to 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
section captioned "Compensation Committee Interlocks and Insider Participation"
and "Certain Transactions with Management" contained in the Proxy Statement.
44
<PAGE> 45
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-1
Consolidated Balance Sheets................................. F-2
Consolidated Statements of Operations....................... F-3
Consolidated Statement of Changes in Shareholders' Equity... F-4
Consolidated Statements of Cash Flows....................... F-5
Notes to Consolidated Financial Statements.................. F-6
</TABLE>
(a)(2) Financial Statement Schedules
II -- Valuation and Qualifying Accounts
CHOLESTECH CORPORATION
VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
BALANCE AT ADDITIONS BALANCE AT
BEGINNING OF TO COSTS END OF
PERIOD & EXPENSES DEDUCTIONS PERIOD
------------ ---------- ---------- ----------
<S> <C> <C> <C> <C>
FISCAL YEAR ENDED MARCH 27, 1998
Allowance for doubtful accounts............. $ 82,000 $ 41,000 $ 13,000 $110,000
Amortization of other assets................ 627,000 101,000 700,000 28,000
FISCAL YEAR ENDED MARCH 26, 1999
Allowance for doubtful accounts............. $110,000 $ -- $ 35,000 $ 75,000
Amortization of other assets................ 28,000 5,000 -- 33,000
FISCAL YEAR ENDED MARCH 31, 2000
Allowance for doubtful accounts............. $ 75,000 $ 62,000 -- $137,000
Allowance for returns....................... -- 83,000 -- 83,000
Amortization of Goodwill.................... -- 100,000 -- 100,000
Amortization of other assets................ 33,000 5,000 -- 38,000
</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>
<S> <C>
3.1(2) Restated Articles of Incorporation of Registrant.
3.2(1) Bylaws of Registrant, as amended.
4.2(12) Preferred Share Rights Agreement dated January 22, 1997
between the Registrant and Chase Mellon Shareholder
Services, L.L.C., including the Certificate of
Determination, the form of Rights Certificate and Summary of
Rights attached thereto as Exhibits A, B and C,
respectively.
10.1(3) 1988 Stock Incentive Program and forms of agreements
thereunder.
10.2(15) Employee Stock Purchase Plan.
</TABLE>
45
<PAGE> 46
<TABLE>
<S> <C>
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 issues
to MMC/GATX Partnership No. 1.
10.7(1) Master Lease Agreement between Registrant and LINC Venture
Lease Partners II L.T. 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.
10.9(4) Employment Agreement between 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.
10.17.1(13) Letter Agreement effective December 20, 1996 by and between
Wells Fargo Bank and the Registrant.
10.17.2(13) Revolving Line of Credit Note effective December 20, 1996 by
and between Wells Fargo Bank and the Registrant.
10.17.3(13) General Pledge Agreement effective December 20, 1996 by and
between Wells Fargo Bank and the Registrant.
10.17.4(18) Revolving Line of Credit Note effective November 30, 1997 by
and between Wells Fargo Bank and Registrant.
</TABLE>
46
<PAGE> 47
<TABLE>
<S> <C>
10.17.5 Revolving Line of Credit Note effective November 30, 1998 by
and between Wells Fargo Bank and the Registrant.
10.17.6 Revolving line of Credit Note Effective November 30, 1999 by
and between Wells Fargo Bank and the Registrant.
10.17.7 Revolving line of Credit Note Effective May 1, 2000 by and
between Wells Fargo Bank and Registrant.
10.18(14) Employment Agreement between Registrant and Mark J. Kussman
dated August 8, 1996.
10.19(16) Consulting Agreement between Registrant and Warner-Lambert
Company dated June 18, 1997.
10.20(17) 1997 Stock Incentive Program and Form of Agreement
thereunder.
10.21 1999 Nonstatutory Stock Option Plan and Form of Agreement
thereunder
10.21.1 Distribution Agreement between registrant and McKesson Drug
Company dated August 18, 1998.
10.21.2 Distribution Agreement between registrant Bergen Brunswig
Drug dated July 20, 1998.
10.22 Employment Agreement between Registrant and Andrea J. Tiller
dated November 14, 1996.
10.23 Employment Agreement between Registrant and Robert J.
Dominici dated July 15, 1998
10.24 Employment Agreement between Registrant Jeffrey S. Aroy
dated September 3, 1999.
10.25 Employment Agreement between Registrant and Thomas E.
Worthy, dated August 6, 1999.
10.26 Employment Agreement between Registrant and Terry L.
Wassmann dated March 28, 2000.
10.27 Employment Agreement between Registrant and Kevin R.
Stromberg dated March 27, 2000.
10.28 Employment Agreement between Registrant and Timothy I. Still
dated October 6, 1999.
10.3.2 Standard Industrial Sublease Agreement between Registrant
and Schlumberger Resource Management Services, Inc. dated
August 5, 1998.
10.3.3 Consent to Sublease Agreement between Registrant and Spieker
Properties, L.P. dated August 5, 1998.
23.1 Consent of Independent Accountants
27.1 Financial Data Schedule.
</TABLE>
---------------
* Confidential treatment has been granted by the Securities and Exchange
Commission with respect to certain portions of this exhibit. The redacted
portions have been filed separately with the Securities and Exchange
Commission.
(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. 333-22475) as filed with the Securities and
Exchange Commission on February 28, 1997.
(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.
(7) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended September 23, 1994.
47
<PAGE> 48
(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. 333-03364) as declared effective by the
Commission on June 28, 1996.
(12) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form 8-A (No. 000-20198) as declared effective by the
Commission on March 27, 1997.
(13) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended December 27, 1996.
(14) Incorporated by reference to exhibits filed with Registrant's Annual Report
on Form 10-K for the fiscal year ended March 28, 1997.
(15) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form S-8 (No. 333-38147) as declared effected by the
Commission on October 17, 1997.
(16) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended September 26, 1997.
(17) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form S-8 (No. 333-38151) that became effective on October 17,
1997.
(18) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended December 26, 1997.
(19) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form S-8 (No. 333-94503) that became effective on January 12,
2000.
(b) Reports on Form 8-K. The Company did not file any reports on Form 8-K
during the quarter ended March 31, 1998.
(c) Exhibits. See Item 14(a)(3) above.
(d) Financial Statement Schedules. See Item 14(a)(2) above.
48
<PAGE> 49
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 28, 2000
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Warren E. Pinckert II and Andrea J.
Tiller, and each of them, his or her 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 attorney-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 or she 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 thereof.
Pursuant to the requirements of the Securities and Exchange Act of 1934, as
amended, this Report has been signed below by the following persons on behalf of
the Registrant and in the capabilities and on the dates indicated:
<TABLE>
<CAPTION>
SIGNATURE TITLE DATE
--------- ----- ----
<C> <C> <S>
/s/ WARREN E. PINCKERT II President, Chief Executive June 20, 2000
----------------------------------------------------- Officer and Director (Principal
(Warren E. Pinckert II) Executive Officer)
/s/ ANDREA J. TILLER Vice President of Finance, Chief June 20, 2000
----------------------------------------------------- Financial Officer, Treasurer and
(Andrea J. Tiller) Secretary (Principal Financial
and Accounting Officer)
/s/ HARVEY S. SADOW, PH.D. Director June 20, 2000
-----------------------------------------------------
(Harvey S. Sadow, Ph.D.)
/s/ JOHN H. LANDON Director June 20, 2000
-----------------------------------------------------
(John H. Landon)
/s/ JOHN L. CASTELLO Director June 20, 2000
-----------------------------------------------------
(John L. Castello)
/s/ LARRY Y. WILSON Director June 20, 2000
-----------------------------------------------------
(Larry Y. Wilson)
</TABLE>
49
<PAGE> 50
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and
Shareholders of Cholestech Corporation
In our opinion, the consolidated financial statements listed in the index
appearing under Item 14(a)(1) on page 45 present fairly, in all material
respects, the financial position of Cholestech Corporation and its subsidiaries
at March 31, 2000 and March 26, 1999, and the results of their operations and
their cash flows for each of the three years in the period ended March 31, 2000,
in conformity with accounting principles generally accepted in the United
States. In addition, in our opinion, the financial statement schedule listed on
the index appearing under Item 14(a)(2) on page 45 presents fairly, in all
material respects, the information set forth therein when read in conjunction
with the related consolidated financial statements. These financial statements
and financial statement schedule are the responsibility of the Company's
management; our responsibility is to express an opinion on these financial
statements and financial statement schedule based on our audits. We conducted
our audits of these statements in accordance with auditing standards generally
accepted in the United States 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.
PRICEWATERHOUSECOOPERS LLP
San Jose, California
April 25, 2000
F-1
<PAGE> 51
CHOLESTECH CORPORATION
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
ASSETS
<TABLE>
<CAPTION>
MARCH 31, 2000 MARCH 26, 1999
-------------- --------------
<S> <C> <C>
Current assets:
Cash and cash equivalents................................. $ 6,959 $ 5,529
Restricted cash........................................... 1,000 --
Marketable securities..................................... 2,850 3,018
Accounts receivable, net.................................. 1,839 2,637
Inventories............................................... 3,714 4,532
Prepaid expenses and other assets......................... 902 140
-------- --------
Total current assets.............................. 17,264 15,856
Property and equipment, net................................. 8,309 5,489
Long-term investments....................................... 3,932 2,880
Goodwill.................................................... 2,661 --
Other assets, net........................................... 52 58
-------- --------
Total assets...................................... $ 32,218 $ 24,283
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses..................... $ 3,788 $ 1,433
Accrued payroll and benefits.............................. 1,563 990
Product warranty.......................................... 91 91
Other liabilities......................................... 300 --
-------- --------
Total current liabilities......................... 5,742 2,514
-------- --------
Commitments and contingencies (Notes 4 and 5)
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;
11,921,251 and 11,518,240 shares issued and outstanding
at March 31, 2000 and March 26, 1999................... 71,959 70,311
Accumulated other comprehensive income (loss)............. (59) 14
Accumulated deficit....................................... (45,424) (48,556)
-------- --------
Total shareholders' equity........................ 26,476 21,769
-------- --------
Total liabilities and shareholders' equity........ $ 32,218 $ 24,283
======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-2
<PAGE> 52
CHOLESTECH CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
---------------------------------
MARCH 31, MARCH 26, MARCH 27,
2000 1999 1998
--------- --------- ---------
<S> <C> <C> <C>
Revenues.................................................... $27,422 $22,032 $21,664
Cost of revenues............................................ 11,084 10,252 10,513
------- ------- -------
Gross profit................................................ 16,338 11,780 11,151
------- ------- -------
Operating expenses:
Sales and marketing....................................... 7,032 6,606 5,380
Research and development.................................. 3,021 2,703 2,224
General and administrative................................ 3,510 2,381 2,087
Other operating expense................................... 319 826 --
------- ------- -------
Total operating expenses.......................... 13,882 12,516 9,691
------- ------- -------
Income (loss) from operations............................... 2,456 (736) 1,460
Interest and other income, net.............................. 805 663 569
------- ------- -------
Income (loss) before taxes.................................. 3,261 (73) 2,029
Provision for income taxes.................................. 129 -- 41
------- ------- -------
Net income (loss)........................................... 3,132 $ (73) $ 1,988
======= ======= =======
Net income (loss) per share:
Basic..................................................... $ 0.27 $ (0.01) $ 0.18
======= ======= =======
Diluted................................................... $ 0.26 $ (0.01) $ 0.17
======= ======= =======
Shares used to compute net income (loss) per share:
Basic..................................................... 11,724 11,484 11,289
======= ======= =======
Diluted................................................... 11,920 11,484 11,905
======= ======= =======
</TABLE>
See accompanying notes to consolidated financial statements
F-3
<PAGE> 53
CHOLESTECH CORPORATION
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
COMMON STOCK ACCUMULATED
-------------------- OTHER ACCUMULATED
SHARES AMOUNT INCOME (LOSS) DEFICIT TOTAL
---------- ------- ------------- ----------- -------
<S> <C> <C> <C> <C> <C>
Balance at March 28, 1997................ 11,222,040 $69,174 $ -- $(50,471) $18,703
Issuance of Common Stock pursuant to
employee stock purchase plan and
exercise of stock options and
warrants............................... 180,044 706 -- -- 706
Unrealized gains on available-for-sale
securities............................. -- -- 49 -- 49
Net income............................... -- -- -- 1,988 1,988
---------- ------- ---- -------- -------
Balance at March 27, 1998................ 11,402,084 69,880 49 (48,483) 21,446
Issuance of Common Stock pursuant to
employee stock purchase plan and
exercise of stock options.............. 116,156 431 -- -- 431
Change in unrealized gain on
available-for-sale securities.......... -- -- (35) -- (35)
Net loss................................. -- -- -- (73) (73)
---------- ------- ---- -------- -------
Balance at March 26, 1999................ 11,518,240 70,311 14 (48,556) 21,769
Issuance of Common Stock pursuant to
employee stock purchase plan and
exercise of stock options.............. 403,011 1,426 -- -- 1,426
Stock compensation expense............... -- 132 -- -- 132
Warrants issued pursuant to acquisition
of Health Net.......................... -- 90 -- -- 90
Change in unrealized gain on
available-for-sale securities.......... -- -- (73) -- (73)
Net income............................... -- -- -- 3,132 3,132
---------- ------- ---- -------- -------
Balance at March 31, 2000................ 11,921,251 $71,959 $(59) $(45,424) $26,476
========== ======= ==== ======== =======
</TABLE>
See accompanying notes to consolidated financial statements
F-4
<PAGE> 54
CHOLESTECH CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
---------------------------------
MARCH 31, MARCH 26, MARCH 27,
2000 1999 1998
--------- --------- ---------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)......................................... $ 3,132 $ (73) $ 1,988
Adjustments to reconcile net income (loss) to net cash
provided by (used in) operating activities:
Depreciation and amortization.......................... 1,597 1,112 767
Change in allowance for doubtful accounts.............. 63 (35) 28
Change in allowance for sales returns.................. 83 -- --
Stock compensation expense............................. 132 -- --
Changes in assets and liabilities:
Restricted cash...................................... (1,000) -- --
Accounts receivable.................................. 824 1,191 (1,955)
Inventories.......................................... 873 (1,226) (953)
Prepaid expenses and other assets.................... (756) 14 126
Other assets......................................... -- 15 107
Accounts payable and accrued liabilities............. 1,944 (1,570) 1,400
Accrued payroll and benefits......................... 573 (146) 609
Other liabilities.................................... 300 -- --
Product warranty..................................... -- (112) (11)
-------- -------- --------
Net cash provided by (used in) operating
activities...................................... 7,765 (830) 2,106
-------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of marketable securities........................ (26,661) (19,225) (33,391)
Maturities of marketable securities....................... 25,704 22,913 31,740
Acquisition of Health Net Assets.......................... (2,598) -- --
Purchase of property and equipment........................ (4,206) (2,890) (2,079)
-------- -------- --------
Net cash provided by (used in) investing
activities...................................... (7,761) 798 (3,730)
-------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on capital leases...................... -- -- (40)
Issuance of common stock.................................. 1,426 431 706
-------- -------- --------
Net cash provided by financing activities......... 1,426 431 666
-------- -------- --------
Net change in cash and cash equivalents..................... 1,430 399 (958)
Cash and cash equivalents at beginning of period............ 5,529 5,130 6,088
-------- -------- --------
Cash and cash equivalents at end of period.................. $ 6,959 $ 5,529 $ 5,130
======== ======== ========
Supplemental disclosures of cash flow information:
Cash paid for interest.................................... $ -- $ -- $ 2
======== ======== ========
Cash paid for income taxes................................ $ 110 $ -- $ 25
======== ======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE> 55
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. THE COMPANY AND A SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Operations
Cholestech Corporation (the "Company") was incorporated February 2, 1988.
The Company operates in three business activities:
- Diagnostic Products -- which develops, manufactures and markets the
Cholestech L-D-X(R) System (the "L-D-X System") which performs
near-patient diagnostic testing to assist in assessing for risk of
certain chronic diseases and to assist in the monitoring of therapy to
treat those diseases.
- WellCheck(TM) -- which conducts consumer testing within the United States
to assess for risk of certain chronic diseases and to assist in the
monitoring of therapy to treat those diseases.
- WellCheck.com -- plans to provide interactive tools to consumers through
the Internet to better assess for risk of certain chronic diseases and to
monitor and motivate personal health management of those diseases.
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 2000 was comprised of 53 week periods. Fiscal 1998 and
1999 each comprised 52 week periods.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company
and its wholly owned subsidiaries. All significant intercompany transactions and
balances have been eliminated.
Revenue recognition
All revenues from product sales and services are recognized at the time
products are shipped or services are rendered and are denominated in U.S.
dollars.
Cash and cash equivalents and marketable securities
The Company considers all highly liquid investments with maturity of three
months or less at the date of purchase to be cash equivalents; other investments
with maturity of less than one year are classified as short-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 marketable securities at March 31, 2000
consist principally of investments in money market funds, commercial paper and
U.S. government-agency obligations. Marketable securities are classified as
available-for-sale and are carried at their market value at the balance sheet
date. Realized gains and losses on sales of all such securities are reported in
earnings and computed using the specific identification cost method. All
investments with maturity dates greater than 365 days are classified as
non-current.
Concentration of credit risk
Financial instruments that potentially subject the Company to credit risk
consist of cash equivalents, marketable securities and accounts receivable. Cash
and cash equivalents and marketable securities are maintained with a high credit
quality institution, and the composition and maturities of the investments are
regularly monitored by management. Generally, these securities are highly liquid
and may be redeemed upon
F-6
<PAGE> 56
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
demand and, therefore, have minimal risk associated with them. The Company has
not experienced any material losses on its investments.
The Company's trade accounts receivable generally consist of a large number
of small customers. Concentration of credit risk with respect to trade accounts
receivable is considered to be limited due to this customer base and the
diversity of the Company's geographic sales areas. The Company performs ongoing
credit evaluations of its customers' financial condition and, generally,
requires no collateral. The Company maintains a provision for potential credit
losses and such amounts, in the aggregate, have not been material. Provision is
concurrently made for estimated product returns, which historically have been
immaterial. In fiscal 2000 two customers accounted for 16.9% and 11.0% of total
revenues compared to fiscal 1999 when one customer accounted for 15.4% of total
revenues. No single customer accounted for more than 10% of revenues in fiscal
1998. Two customers accounted for 13.6% and 11.6% of accounts receivable at
March 31, 2000. At March 26, 1999 three customers accounted for 14.1%, 12.2% and
11.1% of accounts receivable, respectively.
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.
Web site development costs
The Company accounts for web site development costs in accordance with the
AICPA Statement of Position 98-1, "Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use." Web site development costs consist of
external and internal costs incurred to purchase and implement the web site
software and significant enhancements used in the Company's WellCheck.com
business. These costs are capitalized and amortized using the straight-line
method over the estimated useful life of the asset, usually three years.
Internal and external costs of developing web site content are expensed as
incurred.
Warranties
The Company's products are generally under warranty against defects in
material and workmanship for a period of up to one year. The Company accrues for
estimated future warranty costs at the time of sale. The Company is currently
dependent on sole or limited suppliers for certain key components used in its
products, which may cause shortages that limit production capacity. There can be
no assurance that such shortages will not adversely affect future operating
results.
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.
F-7
<PAGE> 57
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Net income (loss) per share
Basic earnings per share is computed by dividing income (loss) (numerator)
by the weighted average number of common shares outstanding (denominator) during
the period. Diluted earnings per share gives effect to all potential common
stock outstanding during a period, if dilutive. The following table reconciles
the numerator (net income or loss) and denominator (number of shares) used in
the basic and diluted per share computations.
<TABLE>
<CAPTION>
NET INCOME
(LOSS) SHARES PER SHARE
------------ -------- -----------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C>
Fiscal Year ended March 27, 1998:
Basic....................................... $1,988 11,289 $ 0.18
Effect of dilutive securities............... -- 616 (0.01)
Diluted..................................... $1,988 11,905 $ 0.17
Fiscal Year ended March 26, 1999:
Basic....................................... $ (73) 11,484 $(0.01)
Effect of dilutive securities............... -- -- --
Diluted..................................... $ (73) 11,484 $(0.01)
Fiscal Year ended March 31, 2000:
Basic....................................... $3,132 11,724 $ 0.27
Effect of dilutive securities............... -- 196 (0.01)
Diluted..................................... $3,132 11,920 $ 0.26
</TABLE>
At March 31, 2000, options to purchase 1,222,484 shares of Common Stock
were considered anti-dilutive because the respective exercise prices were
greater than the average fair market value of the Common Stock. Due to the net
loss incurred during fiscal 1999, options to purchase 1.9 million shares of
Common Stock were considered anti-dilutive at March 26, 1999. At March 27, 1998,
options to purchase 156,143 shares of Common Stock were considered anti-dilutive
because the respective exercise prices were greater than the average fair market
value of the Common Stock.
Fair value of financial instruments
The carrying value of cash equivalents, and marketable securities
approximate their fair value due to the short maturity of these instruments.
Use of estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States 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.
Accounting for Stock-based Compensation
The Company accounts for stock-based compensation using the intrinsic value
method prescribed in Accounting Principles Board Opinion ("APB") No. 25,
"Accounting for Stock Issued to Employees." Under APB No. 25, compensation cost
is measured as the excess, if any, of the quoted market price of the Company's
Common Stock at the date of grant over the price the employee must pay to
acquire the stock. The Company provides additional pro forma disclosures as
required under SFAS No. 123, "Accounting for Stock-Based Compensation" (see note
6).
F-8
<PAGE> 58
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Reporting Comprehensive Income
Comprehensive income is comprised of net income (loss) and other
comprehensive earnings such as unrealized gains or losses on available-for-sale
short-term investments.
Recent accounting pronouncements
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133
"Accounting for Derivative Instruments and Hedging Activities," which
establishes accounting and reporting standards for derivative instruments and
hedging activities. It requires that an entity recognize all derivatives as
either assets or liabilities on the balance sheet and measure those instruments
at fair value. The Company, to date, has not engaged in derivative and hedging
activities, and accordingly, does not believe that the adoption of SFAS No. 133
will have a material impact on the financial reporting and related disclosures
of the Company. The Company will adopt SFAS No. 133 as required by SFAS 137,
"Accounting for Derivative Instruments and Hedging Activities -- Deferral of the
Effective Date of the FASB Statement No. 133," beginning with the first quarter
of fiscal 2002.
In March 2000, the FASB issued FIN 44, "Accounting for Certain Transactions
Involving Stock Compensation -- An Interpretation of APB No. 25," which is
effective July 1, 2000. The Company does not expect FIN 44 to have any material
impact on its consolidated financial statements.
2. BALANCE SHEET COMPOSITION
Accounts receivable consist of (in thousands):
<TABLE>
<CAPTION>
MARCH 31, 2000 MARCH 26, 1999
-------------- --------------
<S> <C> <C>
Accounts receivable.............................. $2,059 $2,712
Less allowance for sales returns................. (83) --
Less allowance for doubtful accounts............. (137) (75)
------ ------
$1,839 $2,637
====== ======
</TABLE>
Inventories consist of (in thousands):
<TABLE>
<CAPTION>
MARCH 31, 2000 MARCH 26, 1999
-------------- --------------
<S> <C> <C>
Raw materials.................................... $1,258 $1,598
Work-in-progress................................. 1,412 1,398
Finished goods................................... 1,044 1,536
------ ------
$3,714 $4,532
====== ======
</TABLE>
Property and equipment consist of (in thousands):
<TABLE>
<CAPTION>
MARCH 31, 2000 MARCH 26, 1999
-------------- --------------
<S> <C> <C>
Machinery and equipment......................... $ 6,927 $ 6,093
Furniture and fixtures.......................... 240 565
Computer equipment.............................. 1,734 2,106
Leasehold improvements.......................... 779 654
Construction-in-progress........................ 3,694 2,413
Web site development costs...................... 1,994 --
------- -------
15,368 11,831
Less accumulated depreciation and
amortization.................................. (7,059) (6,342)
------- -------
$ 8,309 $ 5,489
======= =======
</TABLE>
F-9
<PAGE> 59
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Goodwill consists of (in thousands):
<TABLE>
<CAPTION>
MARCH 31, 2000 MARCH 26, 1999
-------------- --------------
<S> <C> <C>
Cost............................................ $ 2,761 $ --
Less accumulated amortization................... (100) --
------- -------
$ 2,661 $ --
======= =======
</TABLE>
Accounts payable and accrued liabilities consist of (in thousands):
<TABLE>
<CAPTION>
MARCH 31, 2000 MARCH 26, 1999
-------------- --------------
<S> <C> <C>
Trade accounts payable.......................... $2,823 $ 871
Accrued royalties............................... 182 222
Other accrued liabilities....................... 783 340
------ ------
$3,788 $1,433
====== ======
</TABLE>
3. BORROWING ARRANGEMENTS
In May, 2000, the Company entered into a new agreement with its primary
bank for an $8 million revolving line of credit (the "line of credit") replacing
its prior agreement for a $3 million revolving line of credit. While the new
line of credit is in effect, the Company is required to maintain on deposit with
the bank assets with a collective value, as defined in the line of credit
agreement, equivalent to no less than 100% of the outstanding principle balance.
Amounts outstanding under the line of credit bear interest at the bank's prime
rate. The line of new credit agreement expires on May 1, 2002. As of March 31,
2000 and March 26, 1999, there were no borrowings outstanding under the lines of
credit.
4. COMMITMENTS AND CONTINGENCIES
Leases
The Company leases office and laboratory facilities under non-cancellable
operating leases, which originally expired between March and June of 2000. The
lease for the Company's 40,000 square foot headquarters facility has been
extended and currently expires March of 2002. Rent expense was $374,000,
$409,000, and $229,000 for fiscal 2000, 1999, and 1998, respectively.
Future minimum payments required under the Company's non-cancellable
operating leases at March 31, 2000 were $436,710 and $425,760 for fiscal years
2001, and 2002, respectively.
Litigation
On February 5, 1999, a complaint entitled Ree v. Pinckert, et al., No.
C99-0562 (MMC) was filed in the United States District Court for the Northern
District of California. The Action is a putative class action and the complaint
alleges that Cholestech and an officer, Mr. Pinckert, violated the federal
securities laws by misleading investors during the time period of July 30,
1997 - June 26, 1998, concerning the Company's business and its future
prospects. On June 24, 1999, plaintiffs filed an amended complaint, which
expanded the putative class period to June 28, 1996, through June 26, 1998. The
amended complaint's substantive allegations and purported causes of action
remain based on allegations that the Company misled shareholders concerning the
Company's business and its future prospects. The complaint does not specify
alleged damages. On September 20, 1999, defendants filed a motion to dismiss
plaintiff's amended complaint. On March 28, 2000, Judge Maxine M. Chesney,
United States District Judge for the Northern District of California granted
defendant's motion to dismiss pursuant to rule 12(B)(6) with leave for
plaintiffs to amend. The Company intends to defend the case vigorously. The
Company does not believe that the defendants in the class action engaged in any
wrongdoing, and that the outcome of this matter will not result in a material
adverse effect,
F-10
<PAGE> 60
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
however, there can be no assurance that the lawsuit will be resolved in the
Company's favor. The action is in its preliminary stages and a trial date has
not been set.
On December 23, 1999, an injunction, No. ES 580-199, was filed in Zug,
Switzerland by Roche Diagnostics seeking a cease and desist order barring the
Company, and two distributors, Healthcare Solutions and Euromedix, from
distributing HDL assay single-use test cassettes in Switzerland. The complaint
alleges that Cholestech violated a Roche European patent for HDL. The Company
has filed its response to the complaint. The court is expected to reach a
decision on the merits of the complaint in the next several months. The Company
believes the suit is without merit and intends to defend the case vigorously.
The Company does not believe that it did cause any wrongdoing, and that the
outcome of this matter will not result in a material adverse effect, however,
there can be no assurance that the lawsuit will be resolved in the Company's
favor. Additionally, we have been informed by one of our distributors that
during January, 2000, a complaint, No. 4 O 4/00, was filed in the District
Court, Dusseldorf, Germany against Cholestech and two of its distributors,
seeking a cease and desist order barring the distributor from shipping HDL
single-use test cassettes into Germany. The complaint alleges the Company and
its distributors violated a Roche German priority patent for HDL by selling
Cholestech's single-use test cassette containing a HDL assay. The Company
believes the suit is without merit and intends to defend the case vigorously.
The Company does not believe that it did cause any wrongdoing, and that the
outcome of this matter will not result in a material adverse effect, however,
there can be no assurance that the lawsuit will be resolved in the Company's
favor.
The Company is subject to various legal claims and assessments in the
ordinary course of business, none of which are expected by management to result
in a material adverse effect on the consolidated financial statements.
5. LICENSE AND DEVELOPMENT AGREEMENTS
The Company has obtained rights to use certain technology in manufacturing
its products. The related agreement, which expires in 2006, requires the Company
to pay a 2.0% royalty on net sales of the applicable products. Total royalty
expense for fiscal 2000, 1999, and 1998 was $456,000, $379,000, and $562,000
respectively, and was charged to cost of revenues.
6. SHAREHOLDERS' EQUITY
Preferred Stock
The Company is authorized to issue 5,000,000 shares of Preferred Stock. The
Board of Directors has authority to issue the Preferred Stock in one or more
series and to fix the price, rights preferences, privileges and restrictions
thereof, including the 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. In
connection with the Company's shareholder rights plan, 25,000 shares of the
Preferred Stock have been designated Series A Participating Preferred Stock.
None of the Shares of Series A Participating Preferred Stock were outstanding as
of March 31, 2000, nor was there any activity relating to Preferred Stock during
the three year period ended March 31, 2000.
Stock Incentive Program
The 1988 Stock Incentive Program (the "1988 Program") provided that
incentive stock options ("ISOs") and nonqualified stock options ("NSOs") for
shares of Common Stock could be granted to employees and consultants of the
Company. In accordance with the 1988 Program, the exercise price could not be
less than 100% and 85% of the fair market value of Common Stock on the date of
the grant for ISOs and NSOs, respectively. The 1988 Program provided that
options would be exercisable over a period not to
F-11
<PAGE> 61
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
exceed five years and a day. Options vested over four years at a rate of at
least 25 percent each year. Vesting of individual option grants could be
accelerated upon the occurrence of certain events as described in the stock
option agreement. The 1988 Program expired in February 1998. There are no shares
available for future grant under the 1988 Program.
In August 1997, the shareholders approved the 1997 Stock Incentive Program
(the "1997 Program") which provides ISOs and NSOs for shares of Common Stock
which may be granted to employees and consultants of the Company. In accordance
with the 1997 Program, the exercise price may not be less than 100% of the fair
market value of Common Stock on the date of the grant for ISOs and NSOs,
respectively. The 1997 Program provides that options shall be exercisable over a
period not to exceed seven years and a day. Options vest over four years at a
rate of at least 25 percent each year. Vesting of individual option grants may
be accelerated upon the occurrence of certain events as described in the stock
option agreement. Pursuant to the terms of the 1997 Program, 900,000 shares of
Common Stock were reserved for future issuance.
In August 1999, the Board of Directors approved the 1999 Nonstatutory Stock
Option Plan (the "1999 Program") which provides NSOs for shares of Common Stock
which may be granted to employees and consultants of the Company. In accordance
with the 1999 Program, the exercise price may not be less than 100% of the fair
market value of Common Stock on the date of the grant for NSOs. The 1999 Program
provides that options shall be exercisable over a period not to exceed seven
years and a day. Options vest over four years at a rate of at least 25 percent
each year. Vesting of individual options grants may be accelerated upon the
occurrence of certain events as described in the stock option agreement.
Pursuant to the terms of the 1999 Program, 1,000,000 shares of Common Stock were
reserved for future issuance.
Stock option activity under the programs is as follows:
<TABLE>
<CAPTION>
WEIGHTED AVERAGE
OUTSTANDING EXERCISE PRICE
OPTIONS PER SHARE
----------- ----------------
<S> <C> <C>
Balance, March 28, 1997.......................... 1,074,097 $3.68
Granted.......................................... 449,893 8.66
Exercised........................................ (150,286) 3.74
Canceled......................................... (78,039) 6.56
Balance, March 27, 1998.......................... 1,295,665 5.41
Granted.......................................... 982,386 6.73
Exercised........................................ (66,804) 3.39
Canceled......................................... (300,151) 6.47
Balance, March 26, 1999.......................... 1,911,096 5.99
Granted.......................................... 691,105 5.83
Exercised........................................ (329,651) 3.87
Canceled......................................... (329,501) 7.55
Balance, March 31, 2000.......................... 1,943,049 6.03
</TABLE>
As of March 31, 2000, options for 112,657 and 540,209 shares of Common
Stock were available for future grant under the 1997 Program and 1999 Program,
respectively.
F-12
<PAGE> 62
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The following table summarizes information about stock options outstanding
at March 31, 2000:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
--------------------------------------------- ------------------------
WEIGHTED AVG. WEIGHTED AVG. WEIGHTED AVG.
RANGE OF EXERCISE PRICES NUMBER CONTRACTUAL LIFE EXERCISE PRICE NUMBER EXERCISE PRICE
------------------------ --------- ---------------- -------------- ------- --------------
<S> <C> <C> <C> <C> <C>
1.75 $- $ 3.25...... 203,699 3.4 $2.18 80,157 $ 2.21
3.26 $- $ 6.56...... 1,273,295 3.6 5.27 676,757 5.04
6.57 $- $14.13...... 466,055 5.0 9.77 134,152 11.60
--------- -------
1,943,049 3.9 6.03 891,066 5.77
========= =======
</TABLE>
Due to the continued depressed market price of the Company's stock,
employees were offered, during the second quarter of fiscal 2000, an opportunity
to extend their stock options lives from five years to seven years, with a
change to non-qualified status. This resulted in an additional $132,000 stock
compensation charge in fiscal 2000.
Employee Stock Purchase Plan
In April 1992, the Company adopted the Employee Stock Purchase Plan (the
"Stock Purchase 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 Board of Directors. In August 1995, the shareholders approved an increase
in the number of shares reserved for issuance under the Stock Purchase Plan from
75,000 to 200,000. In August 1997, the shareholders approved an additional
increase in the number of shares reserved for issuance under the Stock Purchase
Plan from 200,000 to 400,000. Under the terms of the Stock Purchase Plan,
employees can choose semi-annually to have up to 15% of their compensation
withheld to purchase shares of Common Stock. The purchase price is equal to 85%
of the lower of the closing price of the Common Stock on the NASDAQ National
Market on the day the Stock Purchase Plan period begins or ends. Under the Stock
Purchase Plan, the Company sold 74,188, 49,352, and 29,758 shares of Common
Stock to employees in fiscal 2000, 1999, and 1998, respectively.
Pro Forma Disclosures
Had compensation cost for the Company's stock option and stock purchase
plans been determined based on the fair market value of the options at the grant
dates, as prescribed in SFAS No. 123, the Company's net income (loss) and net
income (loss) per share would have been as follows:
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
------------------------------------------------
MARCH 31, 2000 MARCH 26, 1999 MARCH 27, 1998
-------------- -------------- --------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
<S> <C> <C> <C>
Net income (loss):
As reported........................ $3,132 $ (73) $1,988
Pro forma.......................... $2,284 $ (871) $1,195
Net income (loss) per share:
As reported -- basic............... $ 0.27 $(0.01) $ 0.18
Pro forma -- basic................. $ 0.19 $(0.08) $ 0.11
As reported -- diluted............. $ 0.26 $(0.01) $ 0.17
Pro forma -- diluted............... $ 0.19 $(0.08) $ 0.10
</TABLE>
The fair value of each stock option is estimated on the date of the grant
using the Black-Scholes valuation model, with the following assumptions used for
grants during the applicable periods: dividend yield of 0.0% for all periods;
risk free interest rates of 5.7%, 5.3%, and 5.9% for options granted during
fiscal 2000, 1999, and 1998, respectively; volatility factors of 93%, 93%, and
78%, for options granted during fiscal 2000, 1999, and 1998, respectively; and a
weighted average expected option term of 6.7 years, 4.0 years, and 4.0 years for
fiscal
F-13
<PAGE> 63
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2000, 1999, and 1998, respectively. The weighted average fair value of stock
options granted in fiscal 2000, 1999, and 1998 was $4.74, $4.20, and $5.03 per
share, respectively.
The fair value of stock purchase rights is estimated using the
Black-Scholes valuation model with the following assumptions for fiscal 2000,
1999, and 1998, respectively; dividend yield of 0.0% for all periods; an
expected life of 6 months for all periods; expected volatility factors of 93%,
93%, and 81% for fiscal 2000, 1999, and 1998, respectively. The weighted average
fair value of stock purchase rights granted in fiscal 2000, 1999, and 1998 was
$0.54, $1.12, and $1.85 per share, respectively. The weighted average exercise
prices of stock purchase rights granted in fiscal 2000, 1999, and 1998 were
$2.02, $4.16, and $8.20, respectively.
The pro forma effect on net income (loss) and net income (loss) per share
for fiscal 2000, 1999, and 1998 is not representative of the pro forma effect on
net income (loss) in future periods because it does not take into consideration
pro forma compensation expense related to grants made prior to 1997.
Shareholder Rights Plan
In January 1997, the Board of Directors approved a shareholder rights plan
under which shareholders of record on March 31, 1997 received a right to
purchase (the "Right") one-thousandth of a share of Series A Participating
Preferred Stock at an exercise price of $44.00, subject to adjustment. The
Rights will separate from the Common Stock and Rights certificates will be
issued and will become exercisable upon the earlier of: (i) 10 days (or such
later date as may be determined by a majority of the Board of Directors)
following a public announcement that a person or group of affiliated or
associated persons has acquired, or obtained the right to acquire, beneficial
ownership of 15% or more of the Company's outstanding Common Stock or (ii) 10
business days following the commencement of, or announcement of an intention to
make, a tender offer or exchange offer, the consummation of which would result
in the beneficial ownership by a person or group of 15% or more of the Company's
outstanding Common Stock. The Rights expire on the earlier of (i) January 22,
2007 or (ii) redemption or exchange of the Rights.
7. RETIREMENT SAVINGS PLAN
Effective September 1990, the Company adopted the Cholestech Corporation
Retirement Savings Plan (the "401(k) Plan") in which all employees of the
Company are entitled to participate. An eligible employee may elect to defer, in
the form of contributions to the 401(k) Plan, between 1% and 15% of the
employee's W-2 income, not to exceed $10,000 per year (adjusted for
cost-of-living increases). Employee contributions are invested in selected
mutual funds or a money market fund as specified by the employee. Employee
contributions are fully vested and nonforfeitable at all times. The 401(k) Plan
provides for employer contributions as determined by the Board of Directors.
Company contributions to the 401(k) Plan were $177,000 $67,000, and $164,000, in
fiscal 2000, 1999, and 1998, respectively.
8. INCOME TAXES
A provision for income taxes of $129,000 and $41,000 was recorded for the
years ended March 31, 2000, and March 27, 1998, respectively. No provision was
recorded for the year ended March 26, 1999 as the Company incurred net operating
losses for income tax purposes.
F-14
<PAGE> 64
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
The provision for income taxes consists of the following (in thousands):
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
-------------------------------------------------
MARCH 31, 2000 MARCH 26, 1999 MARCH 27, 1998
-------------- -------------- --------------
(IN THOUSANDS)
<S> <C> <C> <C>
Current:
Federal.......................... $ 84 $-- $ 40
State............................ 45 -- 1
---- -- ----
Total............................ $129 $-- $ 41
==== == ====
</TABLE>
The differences between the U.S. federal statutory income tax rate and the
Company's effective tax rate are as follows:
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
-------------------------------------------------
MARCH 31, 2000 MARCH 26, 1999 MARCH 27, 1998
-------------- -------------- --------------
<S> <C> <C> <C>
Provision at statutory rate........ 34.0% --% 34.0%
State taxes, net of federal
benefit.......................... 5.6 -- 2.0
Stock options...................... (2.4) -- (12.0)
Utilization of research and
development credits.............. (34.7) -- (24.1)
Other.............................. 1.4 -- 2.1
------ -- ------
3.9% --% 2.0%
====== == ======
</TABLE>
Deferred tax assets (liabilities) consist of the following (in thousands):
<TABLE>
<CAPTION>
MARCH 31, 2000 MARCH 26, 1999
-------------- --------------
<S> <C> <C>
Net operating loss carryforwards................ $ 14,073 $ 15,847
Research and development tax credit
carryforwards................................. 2,426 2,413
Minimum tax credit carryforwards................ 186 --
Capitalized research and development............ 756 278
Other........................................... 416 177
Valuation allowance for deferred tax assets..... (17,857) (18,715)
-------- --------
$ -- $ --
======== ========
</TABLE>
The Company has historically experienced significant operating losses and
operates in industries subject to rapid technological changes. Therefore,
management believes that there is sufficient uncertainty regarding the Company's
ability to generate future taxable income and utilize its net operating loss and
tax credit carryforwards such that a full valuation allowance for deferred tax
assets was required at March 31, 2000.
At March 31, 2000 the Company has net operating loss carryforwards
available to reduce future taxable income through 2012 for federal and state
income tax purposes of approximately $41,165,000 and $867,000, respectively.
Additionally, the Company has research and development and other tax credit
carryforwards available to reduce income taxes for federal and state income tax
purposes of approximately $1,935,000 and $676,000, respectively.
As a result of a change in ownership which occurred in May 1990, there is
an annual limitation of approximately $1,500,000 for federal and state income
tax purposes on the combined use of approximately $6,131,000 of federal net
operating loss carryforwards and the use of approximately $550,000 of federal
and state tax credit carryforwards. Additionally, as a result of the Company's
public offering in December 1992, net operating loss 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 purposes
on the combined use of
F-15
<PAGE> 65
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
approximately $26,208,000 of federal and $4,534,000 of state net operating loss
carryforwards, and the use of $1,151,000 and $379,000 of state tax credit
carryforwards. If the amount of these limitations is not utilized in a
particular year, the amount not utilized increases limitation in the subsequent
year.
9. SEGMENT INFORMATION
In fiscal 2000, the Company adopted Statement of Financial Accounting
Standard ("SFAS") 131, "Disclosures about Segments of an Enterprise and Related
Information." During fiscal 2000, the Company launched two new business units,
WellCheck and WellCheck.com. As a result, the Company now has three reportable
segments: Diagnostic Products, WellCheck and WellCheck.com. These segments are
strategic business units that offer different products and as a result are
managed separately. The accounting policies of the segments are the same as
those described in Note 1 -- Summary of Significant Accounting Policies. Segment
data includes a charge allocating all corporate-headquarters costs to each of
its operating segments and excludes inter-segment revenues. Prior to fiscal 2000
the Company operated in one segment, the Diagnostic Products business unit.
Asset information by segment has not been presented as the Company does not
produce such information. Results for fiscal 2000 by segment are as follows (in
thousands):
<TABLE>
<CAPTION>
DIAGNOSTIC
PRODUCTS WELLCHECK WELLCHECK.COM CHOLESTECH
---------- --------- ------------- ----------
<S> <C> <C> <C> <C>
Net revenues...................................... $27,000 $ 422 $ -- $27,422
Cost of revenues.................................. 11,056 28 -- 11,084
------- ----- ------- -------
Gross profit...................................... 15,944 394 -- 16,338
------- ----- ------- -------
Operating expenses:
Sales and Marketing............................. 6,832 200 -- 7,032
Research and Development........................ 2,412 -- 609 3,021
General and Administrative...................... 2,369 245 896 3,510
Other operating expense......................... 219 100 -- 319
------- ----- ------- -------
Total operating expenses................ 11,832 545 1,505 13,882
------- ----- ------- -------
Operating income (loss)........................... $ 4,112 $(151) $(1,505) $ 2,456
======= ===== ======= =======
</TABLE>
10. GEOGRAPHIC INFORMATION
The Company's export sales were $4,859,000, $2,836,000, and $3,067,000 for
fiscal 2000, 1999, and 1998, respectively. Sales to Europe were $3,960,000,
$2,069,000, and $2,170,000, in fiscal 2000, 1999 and 1998, respectively, with
the remainder of export sales to the Pacific Rim and Latin America.
All of the Company assets are located in the United States.
11. ACQUISITION
On January 21, 2000, the Company completed the purchase of certain assets
of Health Net, Inc., a Louisiana corporation ("Health Net"). As consideration,
to date, the Company paid approximately $2,200,000 in cash and issued 51,010
shares of its common stock valued at approximately $300,000. Pursuant to the
terms of the Purchase Agreement, the final purchase price will be fully
determined upon completion of the Health Net audit for the year ended December
31, 1999. The Purchase Agreement also provides that an additional amount of cash
consideration, up to $1,000,000, may be issued to the former owners of Health
Net if certain performance milestones described in the Purchase Agreement are
achieved for the calendar year ending December 31, 2000. This amount has been
deposited in an escrow account and is classified as restricted cash on the
Balance Sheet, at March 31, 2000. In addition, the Company incurred acquisition
related expenses of approximately $643,000.
F-16
<PAGE> 66
CHOLESTECH CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
Health Net markets and administers medical diagnostic testing services for
various venue events, corporations, and pharmacies. After the acquisition,
Health Net's marketing and administrative functions have been incorporated into
WellCheck, the Company's new national testing service which is responsible for
ongoing testing programs in retail venues, corporate facilities, and other sites
convenient to consumers and is expected to be a primary vehicle for attracting
members to the Company's website.
The acquisition was accounted for using the purchase method of accounting
and the results of Health Net have been included in the Company's consolidated
financial statements subsequent to January 21, 2000. The allocation of the
estimated purchase price to the tangible and intangible assets acquired in
connection with this acquisition was based on estimated fair values as
determined by management as follows (in thousands):
<TABLE>
<S> <C>
Total current assets........................................ $ 276
Property and equipment and other noncurrent assets.......... 106
Goodwill.................................................... 2,761
------
Total purchase price........................................ $3,143
======
</TABLE>
The amortization of goodwill is being computed on a straight-line basis
over a period of five years.
The following unaudited pro forma information reflects the results of
operations as if the Company had acquired Health Net at the beginning of each
period presented:
<TABLE>
<CAPTION>
FISCAL YEAR ENDED
--------------------------------------
MARCH 31, 2000 MARCH 26, 1999
--------------- ---------------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
<S> <C> <C>
Revenue:
As reported............................... $27,422 $22,032
Pro forma................................. $28,777 $22,734
Net income (loss):
As reported............................... $ 3,132 $ (73)
Pro forma................................. $ 2,848 $ (595)
Net income (loss) per share:
As reported -- basic...................... $ 0.27 $ (0.01)
Pro forma -- basic........................ $ 0.24 $ (0.05)
As reported -- diluted.................... $ 0.26 $ (0.01)
Pro forma -- diluted...................... $ 0.24 $ (0.05)
</TABLE>
F-17
<PAGE> 67
CHOLESTECH CORPORATION
EXHIBIT LIST
<TABLE>
<CAPTION>
EXHIBIT SEQUENTIAL
NO. DESCRIPTION PAGE NO.
------- ----------- -----------
<C> <S> <C>
3.1(2) Restated Articles of Incorporation of Registrant.
3.2(1) Bylaws of Registrant, as amended.
4.2(12) Preferred Share Rights Agreement dated January 22, 1997
between the Registrant and Chase Mellon Shareholder
Services, L.L.C., including the Certificate of
Determination, the form of Rights Certificate and Summary of
Rights attached thereto as Exhibits A, B and C,
respectively.
10.1(3) 1988 Stock Incentive Program and forms of agreements
thereunder.
10.2(15) 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 issues
to MMC/ GATX Partnership No. 1.
10.7(1) Master Lease Agreement between Registrant and LINC Venture
Lease Partners II L.T. 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.
10.9(4) Employment Agreement between 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.
10.11.4(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.
</TABLE>
<PAGE> 68
<TABLE>
<CAPTION>
EXHIBIT SEQUENTIAL
NO. DESCRIPTION PAGE NO.
------- ----------- -----------
<C> <S> <C>
10.16(11) Registration Rights Agreement between Registrant and Metra
Biosystems, Inc. dated May 3, 1996.
10.17.1(13) Letter Agreement effective December 20, 1996 by and between
Wells Fargo Bank and the Registrant.
10.17.2(13) Revolving Line of Credit Note effective December 20, 1996 by
and between Wells Fargo Bank and the Registrant.
10.17.3(13) General Pledge Agreement effective December 20, 1996 by and
between Wells Fargo Bank and the Registrant.
10.17.4(18) Revolving Line of Credit Note effective November 30, 1997 by
and between Wells Fargo Bank and Registrant.
10.17.5(20) Revolving Line of Credit Note effective November 30, 1998 by
and between Wells Fargo Bank and the Registrant.
10.17.6(23) Revolving line of Credit Note Effective November 30, 1999 by
and between Wells Fargo Bank and the Registrant.
10.17.7 Revolving Line of Credit Note effective May 1, 2000 by and
between Wells Fargo Bank and Registrant.
10.18(14) Employment Agreement between Registrant and Mark J. Kussman
dated August 8, 1996.
10.19(16) Consulting Agreement between Registrant and Warner-Lambert
Company dated June 18, 1997.
10.20(17) 1997 Stock Incentive Program and Form of Agreement
thereunder.
10.21(24) 1999 Nonstatutory Stock Option Plan and Form of Agreement
thereunder
10.21.1(19) Distribution Agreement between registrant and McKesson Drug
Company dated August 18, 1998.
10.21.2(19) Distribution Agreement between registrant Bergen Brunswig
Drug dated July 20, 1998.
10.22(21) Employment Agreement between Registrant and Andrea J. Tiller
dated November 14, 1996.
10.23(21) Employment Agreement between Registrant and Robert J.
Dominici dated July 15, 1998.
10.24(22) Employment Agreement between Registrant Jeffrey S. Aroy
dated September 3, 1999.
10.25 Employment Agreement between Registrant and Thomas E.
Worthy, dated August 6, 1999.
10.26 Employment Agreement between Registrant and Terry L.
Wassmann dated March 28, 2000.
10.27 Employment Agreement between Registrant and Kevin R.
Stromberg dated March 27, 2000.
10.28 Employment Agreement between Registrant and Timothy I. Still
dated October 6, 1999.
10.3.2(19) Standard Industrial Sublease Agreement between Registrant
and Schlumberger Resource Management Services, Inc. dated
August 5, 1998.
10.3.3(8) Consent to Sublease Agreement between Registrant and Spieker
Properties, L.P. dated August 5, 1998.
23.1 Consent of Independent Accountants.
27.1 Financial Data Schedule.
</TABLE>
---------------
* Confidential treatment has been granted by the Securities and Exchange
Commission with respect to certain portions of this exhibit. The redacted
portions have been filed separately with the Securities and Exchange
Commission.
(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.
<PAGE> 69
(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. 333-22475) as filed with the Securities and
Exchange Commission on February 28, 1997.
(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.
(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. 333-03364) as declared effective by the
Commission on June 28, 1996.
(12) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form 8-A (No. 000-20198) as declared effective by the
Commission on March 27, 1997.
(13) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended December 27, 1996.
(14) Incorporated by reference to exhibits filed with Registrant's Annual Report
on Form 10-K for the fiscal year ended March 28, 1997.
(15) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form S-8 (No. 333-38147) as declared effected by the
Commission on October 17, 1997.
(16) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended September 26, 1997.
(17) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form S-8 (No. 333-38151) that became effective on October 17,
1997.
(18) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended December 26, 1997.
(19) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended September 25, 1998.
(20) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended December 25, 1998.
(21) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended June 25, 1999.
(22) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended September 24, 1999.
(23) Incorporated by reference to exhibits filed with Registrant's Quarterly
Report on Form 10-Q for the quarter ended December 24, 1999.
(24) Incorporated by reference to exhibits filed with Registrant's Registration
Statement on Form S-8 (No. 333-94503) that became effective on January 12,
2000.
