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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 [FEE REQUIRED]
FOR THE FISCAL YEAR ENDED JUNE 30, 1996, OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
FOR THE TRANSITION PERIOD FROM TO .
Commission file number: 0-28448
GENERAL SURGICAL INNOVATIONS, INC.
(Exact name of Registrant as specified in its charter)
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<S> <C>
CALIFORNIA 97-3170244
(State or other jurisdiction (I.R.S. Employer
of Identification
incorporation or organization) No.)
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3172A PORTER DRIVE, PALO ALTO, CALIFORNIA 94304
(Address of principal executive offices)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (415) 812-9730
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: COMMON STOCK, $.001
PAR VALUE
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. YES _X_ NO__
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained to the
best of 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 was approximately $45,519,450 as of August 30, 1996, based upon the
closing sale price on The Nasdaq National Market reported for such date. Shares
of Common Stock held by each officer and director and by each person who owns 5%
of 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.
There were 13,171,530 shares of Registrant's Common Stock issued and
outstanding as of September 1, 1996.
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DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement of the Registrant for the 1996 Annual
Meeting of Shareholders are incorporated in Part III of this Form 10-K.
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INTRODUCTORY STATEMENT
Except for the historical information contained in this Annual Report on
Form 10-K, the matters discussed herein are forward-looking statements that are
subject to certain risks and uncertainties that could cause the actual results
to differ materially from those projected. Factors that could cause actual
results to differ materially include, but are not limited to, the timing of
orders and shipments, the status of the Company's relationship with USSC and
other corporate partners, the timely development and market acceptance of new
products and surgical procedures, the impact of competitive products and
pricing, the Company's ability to manage growth and adaptation to new corporate
partnering relationships, the Company's ability to further expand into
international markets, approval of its products by government agencies such as
the United States Food and Drug Administration, public policy relating to health
care reform in the United States and other countries, and other risks detailed
below and included from time to time in the Company's other SEC reports and
press releases, copies of which are available from the Company upon request. The
Company assumes no obligation to update any forward-looking statements contained
herein.
References made in this Annual Report on Form 10-K to "General Surgical
Innovations, Inc.," the "Company" or the "Registrant" refer to General Surgical
Innovations, Inc. and its subsidiaries. The following General Surgical
Innovations, Inc. trademarks are mentioned in this Annual Report:
Spacemaker-Registered Trademark-, registered trademark of the Company; and
KnotMaker-TM-, trademark of the Company.
PART I
ITEM 1. BUSINESS
OVERVIEW
General Surgical Innovations, Inc. ("GSI" or the "Company") develops,
manufactures and sells balloon dissection systems for minimally invasive surgery
("MIS"). Each of GSI's proprietary Spacemaker balloon dissection systems
consists of an access and deployment platform and a balloon dissector. By using
the Company's products, surgeons can access a surgical site in a minimally
invasive manner and can rapidly and relatively atraumatically create a working
space at the target surgical site where no space previously existed. The
Company's balloon dissection systems currently are offered in four access and
deployment platforms, along with 14 different balloon shapes and sizes, which
are specifically designed for various surgical techniques, procedure types and
market segments. The Company commenced commercial sales of its first product,
the Spacemaker I for hernia repair, in September 1993 and to date almost all of
the Company's revenues have been derived from sales of products for this
procedure, primarily pursuant to a distribution agreement with United States
Surgical Corporation ("USSC"). The distribution agreement with USSC expires in
March 1997. The parties have been discussing a potential renewal of such
agreement; however, there is no assurance that such agreement will be renewed
and, in the interim, USSC may have built up its inventory of GSI balloon
dissector products. In addition, during the renewal discussions, USSC has
indicated that it currently intends to purchase less product. A significant
reduction in orders from USSC or a failure to renew the agreement with USSC
could have a material adverse effect on the Company's business, financial
condition and results of operations. The Company currently sells products in the
United States and certain other countries in Europe, Asia and South America, for
selected applications, including hernia repair, subfascial endoscopic perforator
surgery ("SEPS") and breast augmentation and reconstruction. Over the next 15
months, the Company anticipates completing marketing-related clinical
evaluations of and launching products for several new applications, including
treatment of stress urinary incontinence, saphenous vein harvesting and anterior
spinal fusion.
INDUSTRY BACKGROUND
Open surgery is an invasive procedure that generally requires large
incisions and significant tissue manipulation in order to provide the surgeon
with direct access to the intended surgical site. Much of the
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trauma suffered in connection with open surgery is a result of gaining access to
the surgical site and is not caused by the surgical repair itself. For example,
the surgeon often must make large incisions through layers of muscle and tissue,
which may cause muscle or nerve damage, bleeding, scarring and other
complications such as infection, temporary or permanent debilitation and pain.
As a result, many open surgical procedures require extended operating times,
expose the patient to the risks of general anesthesia and involve lengthy
hospitalization and patient recovery times. In addition, because of the severe
trauma often associated with open surgical procedures, a significant population
of patients, which includes the elderly and weak, are not considered good
candidates for these surgical procedures, and are thus deprived of treatment.
In order to reduce the complications associated with open surgery, surgical
techniques referred to as MIS have been developed recently. These techniques
allow surgeons to access the surgical site through the body's natural openings
(E.G. mouth, urethra or rectum) or by making small incisions to access body
cavities such as the abdominal cavity (the "peritoneum"). The performance of MIS
generally involves five basic steps. First, a small incision (approximately 1-2
cm) is made for insertion of each trocar, a valved tube with a blunt or sharp
insertion device. Next, one or more trocars are inserted to gain access to the
surgical site and provide a port through which a surgeon can pass surgical
instruments. Third, the surgeon creates a working space through the use of
dissection tools or by insufflating a natural body cavity (such as the
peritoneum). Fourth, the surgeon utilizes a device such as an endoscope or
laparoscope to visualize the surgical field. Finally, the surgeon utilizes
specialized MIS instruments to perform the surgical procedure.
The benefits of MIS as compared to open surgery generally include reduced
patient trauma (including muscle, nerve and other tissue damage), reduced blood
loss, reduced post-operative infection, reduced scarring at the site of the
incision (which in turn reduces reintervention requirements), shorter patient
recovery time, reduced procedure time and ultimately lower medical costs.
As a result of these benefits, MIS has been increasingly used for surgical
procedures. In particular, surgical techniques for gallbladder removal
("cholecystectomy") have experienced high conversion rates from open surgery to
minimally invasive laparoscopic surgery. By 1995, approximately 93% of the
estimated 857,000 cholecystectomies performed in the United States were
performed laparoscopically compared to none in 1988. A number of retrospective
studies have reported that laparoscopic cholecystectomy causes less
postoperative pain, involves shorter periods of post-procedure hospitalization,
and allows a more rapid return to daily activities than the open surgical
procedure.
Despite the documented benefits of MIS, its adoption to date has been
limited to a select number of surgical procedures, and, in the aggregate,
represented only an estimated 15% of all surgical procedures performed in the
United States in 1995. The most widely adopted MIS procedure, laparoscopic
cholecystectomy, has been successfully adopted largely because of the proximity
of the target surgical site to the peritoneum, the only natural body cavity that
provides a working space when insufflated. Application of MIS techniques to
other surgical procedures and the ability to exploit the clinical benefits of
MIS have been limited by the lack of a natural body cavity proximate to the
surgical site and the inability of the surgeon to easily and atraumatically
access the surgical site or establish a surgical working space where no natural
body cavity exists. MIS conducted outside of a natural body cavity requires the
surgeon to use blunt dissection instruments to tunnel through tissue to reach
the target surgical site, creating a relatively bloody working space with poor
visualization.
As a result of these limitations, many common types of surgical repairs
cannot be effectively performed using blunt dissection MIS techniques, including
hernia repairs, and procedures performed on organs such as the bladder, kidney,
spine, aorta or other sites that do not lie within the abdominal cavity. For
example, there are currently no effective MIS techniques for many common types
of vascular surgery such as saphenous vein harvesting and the treatment of
venous stasis ulcers. These surgical procedures are performed on the leg, where
the target surgical site is not easily accessible through natural body openings
or natural body cavities. For other procedures, although MIS techniques exist
for the performance of the
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repair itself, gaining access to the target surgical site is invasive thereby
reducing many of the clinical benefits of MIS. For example, currently utilized
MIS for spinal fusion requires making small incisions at the midline of the
patient's abdomen, entering the peritoneum, retracting bowel and other organs to
one side, exiting the back of the peritoneum and continuing down to the front of
the spine.
The Company believes that a significant opportunity exists for technologies
and surgical instruments that can effectively address the limitations of MIS and
facilitate the adoption of MIS for a wider range of surgical procedures.
GSI SOLUTION
GSI's proprietary Spacemaker balloon dissection systems allow a surgeon to
rapidly and relatively atraumatically create a working space at a target
surgical site where no space previously existed. By creating a working space at
the target surgical site, the Company's technology eliminates the need for
surgeons to make large incisions or to cut through muscle, nerve and tissue
layers, thereby eliminating the trauma resulting from such incisions. GSI
believes that its proprietary line of balloon dissection products eliminates
many of the limitations of blunt dissection MIS and enables the application of
MIS technology to a broad range of additional surgical procedures.
The Company's balloon dissection systems create a predictable working space
for a surgical procedure by separating natural tissue layers in the body. The
body has a large number of naturally occurring tissue layers, including skin,
muscle and fat. The Company's balloon dissection systems allow the surgeon to
exploit this physiology by inflating the balloon to separate the natural tissue
planes that exist between these layers, thereby creating a working space at the
surgical site. By utilizing any one of a range of the Company's balloons with
pre-specified deployment characteristics, the surgeon is able to accurately and
predictably determine the size, shape and proximity of the surgical working
space created relative to the target surgical site.
The Company believes that its Spacemaker products can be deployed anywhere
in the body where a natural tissue plane exists. For example, by creating a
working space in the pre-peritoneal area (the space in front of the peritoneum),
the Company's technology enables the use of MIS for hernia repair and treatment
of stress urinary incontinence. Similarly, by creating a working space in the
retroperitoneal area (the space behind the peritoneum), the Company's technology
enables the use of MIS for anterior spinal fusion, vascular surgery and other
pathologies accessible in this area. In addition, the ability of the Company's
line of Spacemaker products to create working spaces at different tissue levels
(including subcutaneous, subfascial, submuscular and subglandular) enables the
use of MIS for breast augmentation and reconstruction, tissue flap harvesting
for reconstruction, saphenous vein harvesting, subfascial endoscopic perforator
surgery, long-bone plating and a variety of other medical procedures.
COMPANY STRATEGY
The Company's objective is to become the leading provider of balloon
dissection systems and specialty surgical instruments for MIS. The key elements
of the Company's strategy are as follows:
INCREASE MARKET ACCEPTANCE OF BALLOON DISSECTION TECHNIQUES. The Company
intends to increase market acceptance for its Spacemaker products primarily by
developing and maintaining relationships worldwide with leading general surgeons
and specialists in the surgical fields of obstetrics, gynecology, urology,
cosmetic and reconstructive surgery, orthopedic surgery and vascular surgery.
The Company intends to support these efforts through surgeon training programs
designed to increase surgeon familiarity with the advantages and applications of
the Company's products. In addition, the Company is conducting marketing-related
clinical evaluations to increase exposure of surgeons to the Company's products
and to demonstrate the effectiveness of MIS in a broad range of procedures when
used with the Company's Spacemaker balloon dissection systems. The Company
intends to use data collected from
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marketing-related clinical evaluations to demonstrate the anticipated clinical
and cost advantages of the Company's products to patients, surgeons, hospital
administrators and third-party health care payers.
CAPITALIZE ON EXISTING PROPRIETARY POSITION. GSI has established an
extensive patent portfolio, and plans to capitalize on its proprietary position
to establish and maintain a leadership position in the balloon dissection
market. Currently, GSI has 16 issued United States patents, two issued foreign
patents and numerous additional United States and foreign patent applications
covering GSI's Spacemaker technology, including tissue dissection with balloons.
In May 1996, the Company was issued a United States patent that contains claims
regarding use of balloons to dissect tissue planes. The Company believes that
the scope of these claims could provide a long-term competitive advantage for
many of the Company's balloon dissection products.
DEVELOP AND RAPIDLY INTRODUCE NEW BALLOON DISSECTOR PRODUCTS. The Company
intends to develop and rapidly introduce additional balloon dissection products
and enhancements to its products that fall within the Company's existing 510(k)
clearances. GSI's Spacemaker balloon dissection systems (except for the
Spacemaker World system) have received FDA 510(k) clearance for tissue plane
dissection during general, endoscopic, laparoscopic or cosmetic and
reconstructive surgery, using a broad range of balloon sizes and shapes.
Accordingly, the Company believes it is well positioned to offer a portfolio of
products for additional surgical procedures without significant additional
United States regulatory pre-market clearance compliance requirements. The
Company is developing balloon dissectors for a number of procedures for which
MIS is currently suboptimal or unavailable, including treatment of stress
urinary incontinence, saphenous vein harvesting, anterior spinal fusion and
long-bone plating for certain fractures.
DEVELOP NEW SURGICAL INSTRUMENTS FOR MIS. As part of its MIS product
strategy, the Company seeks to develop surgical instruments tailored for use in
the working spaces created by the Company's balloon dissection systems. To date,
the Company has developed several instruments to facilitate the application of
MIS to target surgical procedures, such as its KnotMaker product, which is
designed to assist the surgeon in suturing and knot tying applications during
stress urinary incontinence surgery and certain other procedures. The Company
will continue to develop specialized surgical instruments that facilitate the
broader adoption of MIS and balloon dissection products for surgical procedures.
MARKET PRODUCTS THROUGH COLLABORATIVE RELATIONSHIPS AND DIRECT SALES
FORCE. The Company intends to build relationships with medical device companies
both in the United States and internationally that can provide the Company
access to an established distribution network in GSI's targeted specialty
surgical markets. By pursuing a strategy of corporate partnering to leverage
established medical device distribution networks, the Company believes that it
will be able to capitalize on the existing surgeon training programs,
complementary products and established surgeon relationships of its corporate
partners. For example, the Company currently has a distribution agreement with
USSC, a large supplier of surgical instruments for laparoscopic procedures,
under which USSC purchases hernia repair products from the Company and sells
them individually or in combination with its own products. The distribution
agreement with USSC expires in March 1997. The parties have been discussing a
potential renewal of such agreement; however, there is no assurance that such
agreement will be renewed and, in the interim, USSC may have built up its
inventory of GSI balloon dissector products. In addition, during the renewal
discussions, USSC has indicated that it currently intends to purchase less
product. A significant reduction in orders from USSC or a failure to renew the
agreement with USSC could have a material adverse effect on the Company's
business, financial condition and results of operations. The Company also has a
licensing and distribution arrangement with Ethicon Endo-Surgery, Inc. ("EES")
under which EES can market its new balloon tissue dissection system in the
hernia repair market and GSI has the right to manufacture EES' balloon
dissectors for EES. In addition, the Company intends to expand its direct sales
force in selected markets where it believes such an approach will enhance its
competitive position.
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BALLOON DISSECTION SYSTEMS
GSI's proprietary Spacemaker balloon dissection systems consist of an access
and deployment platform and a balloon dissector. During a surgical procedure,
the balloon dissection system is inserted between the desired tissue layers
through a puncture-like opening with the balloon in an uninflated state. The
balloon is then filled with air or saline, which causes the balloon to dissect
the tissue planes naturally. After completing the dissection, the balloon is
deflated, the balloon dissection system is removed from the body, and the newly
dissected space is insufflated with gas to create a surgical working space. The
surgeon can then utilize MIS instruments to access the surgical site and perform
the surgical repair in this new working space. By using the Company's balloon
dissection systems, the surgeon can avoid the large incisions and significant
tissue manipulation required for open surgery.
The Company's balloon dissectors incorporate several proprietary
technologies to increase the reliability, effectiveness and ease of use in
creating working spaces during MIS. Each balloon is composed of strong and
reliable nonelastomeric polyurethane material and is welded using a proprietary
technique that allows the balloon to be inflated to a predetermined size and
predictable shape with minimal risk of rupture. Each of the Company's balloons
is designed to be deployed in a predictable manner that maximizes effectiveness
and accuracy in creating the surgical working space and minimizes unnecessary
tissue trauma because of the specific and predictable manner in which the
balloon unfurls. The Company has designed its dissection balloons in a variety
of shapes and sizes that are tailored for specific procedures. For example, the
Company's "Manta Ray" shaped balloon is designed for use in hernia repair to
maximize working space and visibility of the surgical site while minimizing the
disruption of other anatomy at the surgical site.
The Company currently offers its balloon dissection systems in four distinct
access and deployment platforms, the Spacemaker I platform, the Spacemaker II
platform, the Spacemaker Resposable platform and the Spacemaker World platform,
along with 16 different balloon shapes and sizes, designed for various surgical
techniques, procedures types and market segments. Each balloon dissection system
contains three primary components: a guide rod and blunt tip to access the
surgical site; a single use, disposable balloon dissector (which includes a
tubing mechanism and valve apparatus to fill the balloon) to create a working
space at the surgical site; and a balloon cover to protect the balloon dissector
and maintain the balloon in its unfurled state prior to inflation. End-user
prices for the Company's balloon dissection systems range from $60 to $300 per
unit, depending upon the type of product platform purchased and the nature of
the product packaging.
The key attributes of the Company's four major product platforms are
described below:
SPACEMAKER I PLATFORM. The Spacemaker I platform is composed of a stainless
steel rod with a blunt tip which is used both as the guide rod for the balloon
and as the insertion rod for a pre-loaded integral trocar. This enables the
surgeon to quickly and accurately insert the trocar into the dissected space
once the balloon is removed. In addition, the balloon cover used with the
Spacemaker I platform is a strong sheath that maximizes its tunneling
capability.
SPACEMAKER II PLATFORM. The Spacemaker II platform is a blunt-tipped,
polymeric, hollow tube that is used both as a guide rod for insertion of the
balloon and as a scope cover for protection of a laparoscope. This platform is
designed to allow endoscopic visualization both during insertion and inflation
of the balloon. Visualization enables the surgeon to identify the appropriate
tissue plane for dissection, as well as identify anatomical features while
accessing the surgical site. The Spacemaker II platform includes an integral
polyurethane balloon cover, which releases automatically upon inflation of the
balloon thus simplifying the procedure for the surgeon.
SPACEMAKER RESPOSABLE PLATFORM. The Spacemaker Resposable platform consists
of a combined blunt-tipped polymeric guide rod and handle, used for insertion,
which can be resterilized and reused for multiple procedures. The one-piece
reusable handle and guide rod is designed to reduce the cost per
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surgical procedure. The platform also includes a balloon cartridge, composed of
a hollow tube upon which the balloon is loaded and an integral cover over the
balloon and tubing to protect them during insertion. This enables the surgeon to
easily load cartridges onto the guide rod and handle prior to insertion.
SPACEMAKER WORLD PLATFORM. The Spacemaker World platform is a similar but
simplified version of the Spacemaker II platform design. As with the Spacemaker
II platform, the Spacemaker World platform allows for visualization during the
surgical procedure, but is composed of fewer component parts and is more limited
in its visualization capability. The Spacemaker World platform has been designed
for certain international markets with lower price/performance requirements. The
Company does not currently intend to sell the Spacemaker World platform system
in the United States.
APPLICATIONS OF BALLOON DISSECTION TECHNOLOGIES
The Company's initial market focus was the application of its Spacemaker
balloon dissection technology for hernia repair. More recently, the Company has
completed marketing-related clinical evaluations of, and has introduced products
or is introducing products for SEPS and breast augmentation and reconstruction
procedures. The Company is currently conducting additional marketing-related
clinical evaluations for additional surgical applications, including urological
and gynecological applications (E.G. stress urinary incontinence), other
vascular applications (E.G. saphenous vein harvesting and retroperitoneal aortic
reconstruction) and orthopedic applications (E.G. anterior spinal fusion). The
Company believes that its current FDA clearances provide coverage for many
surgical applications that the Company may pursue. The Company has commenced
commercial sales of its products in the United States and certain other
countries in, Europe, Asia, and South America, for selected applications
including hernia repair, SEPS and breast augmentation and reconstruction. The
Company also is pursuing marketing-related clinical evaluations for selected
additional applications, including the treatment of stress urinary incontinence,
saphenous vein harvesting and a variety of retroperitoneal procedures such as
anterior spinal fusion. To date, the Company has received 510(k) clearances from
the FDA for the use of its Spacemaker balloon dissection technology to perform
dissection of tissue planes using a broad range of balloon sizes and shapes.
Following FDA clearance of one of the Company's products, the Company performs
marketing-related clinical evaluations to optimize the application of such
product to targeted surgical procedures.
HERNIA REPAIR
A hernia, a condition that commonly occurs in the groin, is a protrusion of
normal abdominal contents through a muscle defect, usually in the tissue layers
overlying the abdomen. The peritoneum and/or bowel often project into this
defect, causing pain and potential major complications. Hernias affect over
600,000 people in the United States and approximately 1.4 million people
worldwide each year.
The open surgical procedure for hernia repair is a herniorrhaphy, which
involves making a 10 to 15 cm open incision in the groin over the muscle defect
to be repaired. As in most invasive surgical procedures, recovery periods tend
to be long, typically extending between three and six weeks. Over the last few
years, in an effort to reduce post-operative pain and recovery times, several
laparoscopic techniques have been developed to repair hernias. Despite these
advances, MIS has not been optimized for hernia repair. For example, in certain
MIS hernia repair procedures, a surgeon must first make an incision in the
abdominal wall to gain access to the peritoneum. The surgeon then must make an
additional incision or window in the peritoneal wall that enables the surgeon to
exit the peritoneum to reach the surgical site and create the working space
required to conduct the surgical repair. While these newer laparoscopic
techniques may reduce pain and recovery time, they retain significant risks of
morbidity and post-procedural complications because they require entry into the
peritoneum and the use of general anesthesia.
The Company believes that its balloon dissection technology can
significantly improve the outcomes of laparoscopic hernia repair procedures.
Utilizing the Company's Spacemaker products, the surgeon
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deploys the balloon through the umbilicus to create a large and relatively
bloodless space at the site of the hernia. As a result, the surgeon is able to
more rapidly and easily access the target surgical site and complete the hernia
repair. In addition, because the surgeon never enters the peritoneum, this
procedure reduces the risk of organ damage, adhesion formation and morbidity,
and eliminates the requirement for general anesthesia. In a study presented in
March 1996, MIS hernia repair procedures utilizing the Company's balloon
dissectors resulted in lower cost, fewer complications and faster recovery time
as compared to open surgical hernia repair procedures.
The Company believes that its Spacemaker products provide a platform for
increasing the conversion of hernia repair procedures from open to laparoscopic
procedures. According to Medical Data International, Inc., laparoscopic hernia
repair procedures represented approximately 160,000 or 25% of total hernia
repair procedures in 1995. The Company believes that approximately half of these
laparoscopic hernia repair procedures are now performed using balloon dissection
technology.
The Company commenced commercial sales of its hernia repair balloon
dissection products in the United States in late 1993 and in Europe in 1994 and
currently sells three versions: the Spacemaker I platform, which was introduced
in September 1993, the Spacemaker II platform, which was introduced in October
1995, and the Spacemaker World platform, which was introduced in March 1996. The
Company sells these products both in the United States and certain foreign
markets, including France, Germany and the United Kingdom, through its partner,
USSC. The Company also sells these products in the United States through its
direct sales force and within certain foreign markets through selected
distributors.
STRESS URINARY INCONTINENCE SURGERY
Stress urinary incontinence ("SUI") is the uncontrollable loss of urine due
to a displacement of the bladder. According to Frost & Sullivan, approximately
1.7 million women 30 years or older suffer from SUI on a daily basis and are
thus candidates for interventional treatment.
Depending on the severity of incontinence, there are a number of treatment
options for SUI, including collagen injections, drugs, biofeedback exercises and
absorbent pads. Over the last few decades, however, an open surgical procedure
involving suture suspension of the bladderneck has been the standard method for
correcting severe SUI. This method is invasive and can create significant
complications for the patient, including enterocele (a hernia within the vaginal
wall) and genital prolapse (a descending of the uterus due to a weakness of the
pelvic floor). Furthermore, after surgery patients may require up to six weeks
or more to resume their preoperative lifestyle. Because of the risk, expense and
complexity of suture suspension, this surgical procedure is often performed only
in conjunction with other open abdominal procedures such as hysterectomy. As a
result, many women who are identified as candidates for surgical SUI repair
never receive treatment.
Several MIS alternatives to open surgical procedures for the treatment of
SUI have recently been developed to suspend the bladderneck. These MIS
procedures have been increasingly accepted as stand-alone procedures and are
typically less expensive and less likely to cause adverse side effects. Although
long-term outcome studies are not available, early results indicate laparoscopic
outcomes are equivalent to open surgical procedures in successfully treating
incontinence. Unfortunately, as in hernia repair, these MIS procedures involve
accessing the surgical site by entering, traversing and then exiting the
peritoneal cavity. While these procedures offer improvements over open surgery
and afford the benefits of MIS, they still involve the morbidity risks and
difficulties associated with entering the peritoneum.
Utilizing the Company's balloon dissection system, the surgeon can suspend
the bladderneck laparoscopically without entering the peritoneum. As with GSI's
hernia repair products, GSI's Spacemaker dissection products can be deployed
through the umbilicus to provide direct access to the bladder and bladderneck.
The surgeon can then use conventional laparoscopic instruments to complete the
procedure. The Company believes that the entire SUI repair procedure can be
performed in less than one hour on an outpatient basis.
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To date, SUI surgical procedures have been performed using the Company's
hernia repair balloon. The Company is conducting marketing-related clinical
evaluations on a new balloon shape designed specifically for SUI repair, which
the Company believes will allow a surgeon to optimize the working space in which
to perform the SUI repair procedure. GSI has signed an agreement to work with
Ethicon Endo-Surgery, Inc. to jointly develop and market the dissector balloon
for SUI repair in early calendar 1997, and intends to launch the system
commercially both domestically and internationally.
BREAST AUGMENTATION AND RECONSTRUCTIVE SURGERY
In 1995, approximately 90,000 women worldwide had breast reconstructive
surgery due to partial or full mastectomies relating to breast cancer, and an
additional 110,000 had elective (aesthetic) breast augmentation surgery.
Traditional surgical methods for such procedures require making a three to five
cm incision in the skin, finding the required tissue plane, and then using a
combination of blunt and sharp dissection tools to create a pocket for the
implant. The procedure can cause substantial bleeding, can sever both sensory
nerves and perforating vessels and can leave the patient with substantial,
noticeable scars.
In contrast to traditional breast augmentation and reconstruction
procedures, the Company's Spacemaker products require only small incisions,
create a relatively bloodless pocket, minimize disruption of sensory nerves or
perforating vessels and minimize scarring and loss of movement or sensation. In
addition, because the Spacemaker product allows the surgeon to introduce the
balloon dissector from a crease in the axilla (armpit), from the inframammary
fold (below the breast inside the mammary fold), in the periareolar (nipple)
area or in some cases from the umbilicus (navel), the surgeon can minimize the
appearance of any marks or scars. The Company believes that its Spacemaker
dissection products for breast augmentation and reconstruction procedures enable
the surgeon to create uniform, symmetrical pockets in less time and with much
less bleeding than is possible with traditional blunt or sharp dissection tools.
The Company has also developed a sizer, an instrument that can be used in
conjunction with its balloon dissection products, to enable the surgeon to
determine, prior to the placement of the implant, the fill volume that will
optimize the appearance of the implant. The Company believes the sizer will
reduce the overall cost for a procedure by eliminating the risk of having to
remove and destroy incorrectly sized implants, which cost approximately $650 -
$1,000 per set.
The Company's balloon dissection products for breast augmentation and
reconstruction were first introduced commercially in the United States in
January 1995. The Company currently sells the Spacemaker I platforms and the
Spacemaker Resposable platforms for use in this indication. The Company filed a
510(k) notification with the FDA for its sizer products in the second calendar
quarter of 1996 and plans to introduce these products in the United States
through its own direct sales force upon receipt of such clearance. While the
Company expects to receive such clearance by the end of 1996, there can be no
assurance as to the timing or receipt of such clearance.
OTHER COSMETIC AND RECONSTRUCTIVE SURGERY
In addition to the market opportunities for breast augmentation and
reconstruction, the Company has designed, developed and is clinically evaluating
applications of its balloon dissection technology for a number of cosmetic and
reconstructive surgery procedures, including tissue flap harvesting (24,000
procedures worldwide), face lifts (53,000 procedures worldwide), brow lifts
(21,000 procedures worldwide), and abdominolplasties (28,000 procedures
worldwide). The Company believes that its balloon dissection technology is
well-suited for such procedures. For example, a tissue flap harvest procedure
involves isolation and detachment of a discrete tissue segment for
transplantation to another part of the body, and may include a harvest of a
portion of the rectus muscle (or TRAM flap harvest) or a harvest of the
latissimus muscle (or latissimus dorsi flap harvest). Tissue flap harvesting
procedures are currently very tedious, requiring the severing of connecting
tissue with scissors or scalpel and taking three to four hours or longer to
complete.
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The Company believes a surgeon utilizing the GSI balloon dissector can
complete tissue flap harvesting in less than half the time and can do so more
accurately with less blood loss. Studies involving the Spacemaker platform for
tissue flap harvest procedures have been conducted at both Duke University and
at the Manhattan Eye, Ear, Nose and Throat Institute. The initial results were
presented during the American Society of Plastic and Reconstruction Surgeons
meeting in Montreal, Canada in October 1995, with both groups demonstrating the
feasibility, cost effectiveness and time savings experienced during procedures
in which the Company's balloon dissection products were utilized for tissue flap
harvesting. The Company is currently conducting marketing-related clinical
evaluations for its tissue flap harvesting balloon dissection product, and
anticipates launching the product for commercial sale in 1997.
SUBFASCIAL ENDOSCOPIC PERFORATOR SURGERY
Chronic venous insufficiency, which results in insufficient blood flow from
the extremities, is a common and debilitating disease. A frequent manifestation
of venous insufficiency is venous stasis ulceration (chronic skin ulcers), which
currently affects approximately 2.5 million people in the United States.
The Company believes that current treatment options for venous stasis
ulceration and venous insufficiency are suboptimal. Compression stockings
(elastic stockings that put pressure on the leg to force blood flow), the most
common treatment, often temporarily heal the ulcers but do not treat the
underlying venous incompetence. Compression stockings as treatments are also
ineffective because patients often do not wear the stockings, the associated
healing process is slow and the recurrence rate for the ulcers is high. Treating
the incompetent vein through an open surgical procedure allows treatment of the
underlying condition, but requires an incision through the ulcer wound, which is
composed of diseased tissue and is often incapable of healing. Alternatively, a
minimally invasive procedure known as SEPS has recently been introduced in which
the surgeon accesses the incompetent vein from a site remote from the ulcer
wound using blunt dissection instruments. However, because access to the
surgical site using blunt dissection causes bleeding and significant tissue
trauma, the procedure is difficult and time consuming for the surgeon to perform
because of poor visualization.
The Company's Spacemaker balloon dissection products allow the surgeon to
perform SEPS to ligate incompetent veins endoscopically in a relatively
atraumatic, bloodless manner. By utilizing the Company's Spacemaker technology,
the surgeon is able to deploy an elongated balloon down the length of the
patient's leg to create an operating space for access to one or more incompetent
veins. Because the incisions needed for this procedure are very small
(approximately one cm) and are remote from the area of ulcerated skin, the
Company believes that wounds will heal more rapidly and that there will be fewer
complications compared to open surgery and non-balloon assisted SEPS procedures.
In addition, the bloodless working space created by the Company's balloon
provides the surgeon with improved visualization of the veins requiring
ligation, making the procedure easier and faster for the surgeon.
The Company launched its initial product to treat venous stasis ulceration
and venous insufficiency in January 1996. To date, the Company's Spacemaker I
balloon dissection products have been used to treat nearly 140 patients
suffering from venous stasis ulcers or venous insufficiency in over 50 centers
across the United States, with results indicating successful outcomes.
Additional outcome studies are underway that are designed to demonstrate that
balloon assisted SEPS will produce faster healing rates, fewer complications and
lower recurrence rates as compared to compression stockings or open surgical
ligation or non-balloon assisted SEPS procedures. There can be no assurance that
these studies will in fact demonstrate these benefits.
SAPHENOUS VEIN HARVESTING
In recent years, advanced coronary artery disease has been increasingly
treated by coronary artery bypass graft (CABG) procedures, which involve
grafting a portion of a patient's vein, taken from a
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different part of the body, around the blocked artery. More than 600,000 CABG
procedures were performed worldwide in 1995. Nearly 90% of these procedures
utilized the patient's saphenous vein as a bypass graft.
Traditional saphenous vein harvesting procedures often require a continuous
incision from the ankle to the upper thigh of a patient's leg. The saphenous
vein is then dissected and removed, and the wound is sutured closed. A study
involving over 1,000 patients indicates that the open surgical procedure for
saphenous vein harvesting results in wound healing impairment in approximately
24% of patients. The length and invasiveness of the leg incision also causes
significant postoperative patient pain and discomfort. Surgeons indicate that
after the CABG procedure, patients more frequently complain about the pain
caused by leg incisions than other aspects of the procedure.
By utilizing the Company's balloon dissection technology in the saphenous
vein harvest procedure, the surgeon can reduce the leg incision to three or four
one-centimeter incisions, and can minimize damage to the muscles and nerve
endings surrounding the saphenous vein. Early results from one market evaluation
of saphenous vein harvest procedures using the Company's balloon dissection
products involving five patients at a single center have indicated successful
outcomes from the procedure including less postoperative pain, faster healing
and less scarring than with traditional open procedures. The Company is
currently establishing marketing evaluation sites and an outcome protocol to
demonstrate further that the application of Spacemaker technology to saphenous
vein harvesting will minimize pain, reduce length of hospital stay, decrease
risk of morbidity and improve quality of life. There can be no assurance that
these evaluations will in fact demonstrate these benefits.
The Company currently is developing surgical instruments to facilitate the
saphenous vein harvesting procedure, including instruments to ligate the side
branches and instruments to perform additional harvesting of the saphenous vein.
The Company has applied for FDA clearance for a Spacemaker serial surgical
balloon dissector for use in saphenous vein harvesting procedures. The Company
expects to receive clearance for this product in the first half of calendar year
1997.
AORTIC RECONSTRUCTION
Disruptions of blood flow to the aorta can lead to major cardiovascular
complications and death. One form of disruption results from a weakening in the
aortic wall that causes a bulge or aneurysm to form, commonly referred to as an
abdominal aortic aneurysm ("AAA"). Because of the blood pressure in the aorta,
an AAA is particularly susceptible to rupture, usually resulting in death. The
National Center for Health Care Statistics estimates that approximately 1.5
million people in the United States have AAA's, with approximately 190,000 new
patients diagnosed with AAA each year and approximately 45,000 AAA's repaired
each year. A second, more gradual disruption of blood flow is caused by
occlusive disease, which results in a blockage of the aorta. Although less
dramatic, this form of aortic disease also requires a surgical solution, with
approximately 40,000 grafts being performed annually to bypass the blockage.
Until recently, the only means of repair for AAA and occlusive disease was
open surgery. Open surgery is invasive, requires substantial incisions and long
recovery times, and can lead to complications such as blood loss and infection.
For example, the conventional treatment for aortic reconstruction is a
complicated open procedure requiring a significant incision in the patient's
abdomen, withdrawal of the patient's intestines to provide access to the aorta
and cross-clamping of the aorta to stop blood flow. This procedure typically
lasts two to four hours and is performed under general anesthesia. As a result
of its invasiveness, open surgical aortic reconstruction has high mortality and
complication rates.
The Company believes that its Spacemaker balloon dissection technology may
be used as a minimally invasive laparoscopic access device or as an aid to
surgeons in open procedures for creating rapid access to the aortic aneurysm or
occluded artery. The Company believes that its Spacemaker technology will allow
treatment that is rapid and atraumatic and will allow the surgeon to create a
relatively bloodless working space to access the aorta. The Company also
believes that its balloon dissection products may lower the
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cost of the procedure. The Company is currently pursuing marketing-related
clinical evaluations to optimize the application of its Spacemaker technology
for the aortic reconstruction market.
ORTHOPEDIC SPINE SURGERY
The Company believes that its products can be used in several orthopedic
spinal procedures to both reduce the costs of the procedure and enhance patient
benefits. Foremost among these procedures is spinal fusion, which was performed
approximately 200,000 times in the United States in 1994. Spinal fusion is
usually performed to remove a ruptured vertebral disc that is causing
significant patient discomfort, and subsequently to promote fusion between the
then exposed and adjacent vertebrae. This fusion procedure can be promoted by
any of several prosthetic systems, by traditional bone prostheses, or by a
combination of the two.
Most traditional open spinal fusion procedures have approached the spine
from the back. Several newer procedures, some currently under clinical
investigation, approach the spine through the abdomen, which appears to yield
better results. The open abdominal approach is highly invasive, however, and has
led researchers to try to develop a minimally invasive, transperitoneal
laparoscopic approach. This approach still subjects the patient to the same
risks associated with the open abdominal approach.
The Company's balloon dissection products have been used in several cadaver
studies in which an extraperitoneal laparoscopic approach to the spine has been
successfully performed. In this procedure, the balloon is deployed in the
retroperitoneal area under the rib cage and is inflated in order to dissect the
peritoneum away from muscle layers in the back and side of the patient. By doing
so, the surgeon can create a large working space to access the spine without
entering the peritoneum. The Company believes the spinal fusion procedure is a
natural extension of the aortic reconstruction application for balloon
dissection technology because the required dissected space is essentially the
same. The Company intends to conduct additional marketing-related clinical
evaluations to optimize the design of the Company's Spacemaker balloon
dissection systems for the orthopedic spine surgery market.
ADDITIONAL PRODUCTS UNDER DEVELOPMENT
As part of its competitive strategy, GSI continually seeks to leverage its
core technology to develop balloon dissection systems for new surgical
procedures, as well as to develop new surgical instruments for MIS. The Company
has made a significant investment in developing its proprietary balloon
dissection technology and believes its research and development commitment in
this area is critical to its competitive position. Research and development
expenses for fiscal 1996, 1995 and 1994 were approximately $1.3 million, $1
million and $.5 million, respectively. As of June 30, 1996, the Company had 14
persons engaged in research and development activities.
BALLOON DISSECTION PRODUCTS. The Company is currently developing a
Spacemaker III product platform, designed as a one-piece instrument in which the
balloon and guide rod are connected as a single unit. The Company believes the
one-piece platform design will be easier to use than the two-piece Spacemaker
platforms, because of the reduced number of steps a surgeon must perform in
order to deploy the balloon and dissect the tissue at the target site. In
addition, the Company expects the Spacemaker III platform to be less expensive
to manufacture, resulting in reduced costs per procedure. The Company intends to
continue to develop additional balloon shapes and sizes that can be used in
conjunction with each of its Spacemaker product platforms. Additional surgical
applications currently being targeted by the Company include long-bone plating
for fractures and seural nerve harvests for reconstructive surgery.
SURGICAL AND RELATED INSTRUMENTS. The Company is also exploiting its
expertise in MIS to develop a range of instruments to maximize the surgeon's
ability to perform MIS once an operative working space is created by the
Company's balloon dissection products. For example, the Company has developed
the KnotMaker suturing instrument, which is designed to allow the surgeon to
maintain tension on the suture and deliver a pre-tied knot to the surgical site,
rather than requiring the surgeon to tie the knot remote
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from the surgical site. The Company received 510(k) clearance for the KnotMaker
suturing instrument in October 1994, and is currently conducting
marketing-related clinical evaluations to optimize the design of the product for
use in multiple applications. In addition, the Company is developing a
specialized trocar with a balloon valve which provides a seal to maintain
insufflation of the surgical space while allowing the use of laparoscopic and
conventional non-laparoscopic instruments during MIS. For example, this
specialized trocar would enable the use of conventional arterial cross clamps,
which are particularly important in aortic reconstruction.
Product research and development will require substantial expenditures, and
there can be no assurance that the Company will be successful in identifying
products for which demand exists, in developing products that have the
characteristics necessary to treat target indications, or that any new product
introduced will receive regulatory approval or be commercially successful.
MARKETING, SALES AND DISTRIBUTION
The Company markets its products, both domestically and internationally, to
general surgeons, urologists, gynecologists, vascular surgeons, orthopedic
surgeons and cosmetic and reconstructive surgeons. Sales in the United States
and internationally in the hernia market are made primarily through an exclusive
relationship with USSC and through the Company's direct sales force. Sales of
devices for other applications are made in the United States through the
Company's direct sales force and internationally through the Company's network
of distributors.
MARKETING PROGRAMS. The Company's marketing strategy for its balloon
dissection products is designed to target surgeons who are leaders in their
respective surgical specialties, and to promote visibility of the Company's
products and awareness of the clinical efficacy and cost effectiveness of
surgical techniques that employ the Company's products. For direct product
sales, the Company has targeted those surgical procedure markets that are highly
concentrated, such as vascular surgery, plastic surgery and spinal repair. For
more dispersed markets, and markets where surgeons require substantial training
to use the Company's products, the Company has partnered or is seeking to
partner with independent distributors that have well-established distribution
networks across wide geographic areas as well as well-developed training
programs.
The Company has a program to disseminate clinical and technical information
worldwide to educate surgeons about the benefits of the Company's products and
to encourage surgeons to perform procedures utilizing the Company's products. In
support of this program, the Company has produced and distributed to surgeons
Spacemaker dissector procedure demonstration videos and educational videos for
hernia repair, bladder neck suspension, cosmetic and reconstructive surgery and
vascular surgery. In addition, the Company has developed relationships with
several leading surgeons in each of the Company's targeted major surgical
specialty areas who provide input on clinical and product development, as well
as surgical procedures that are candidates for GSI's products. The Company is
also pursuing a public relations campaign to increase patient awareness of the
benefits of MIS and the improvements afforded by the use of balloon dissectors
in such surgical procedures. In addition, the Company is actively sponsoring a
number of marketing-related clinical evaluations designed to optimize the
product design and to demonstrate the utility and ease of use of the Company's
products.
SALES IN THE UNITED STATES. GSI maintains a direct sales organization in
the United States to market its products to general surgeons and specialists,
and to support its distributor's sales efforts. As of June 30, 1996, the
Company's sales force in the United States consisted of 10 persons. The
Company's sales personnel are typically assigned to a particular surgical
market. GSI is currently selling Spacemaker products in the hernia repair
market, the breast augmentation and reconstructive surgery market, and the SEPS
market. For the hernia surgery market, sales and marketing is principally
conducted through a distribution agreement between the Company and USSC, a
leading supplier of surgical instruments for laparoscopic procedures. Under this
agreement, USSC has rights, co-exclusive with the rights of GSI, to
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distribute the Spacemaker I product for hernia repair and, to the extent
permitted by the Company's initial 510(k) clearance for the Spacemaker I
product, other applications. USSC's distribution rights are limited to only
those products that are or could be covered by the Company's initial 510(k)
clearance. From time to time, the Company and USSC have had disagreements
regarding the extent of USSC's rights under the distribution agreement to
distribute new products developed by the Company after the date of such
agreement. USSC purchases hernia repair products from the Company and sells them
individually or in combination with USSC products. The GSI products sold by USSC
carry the GSI name and logo. The Company's sales to USSC have fluctuated
significantly in the past, and the Company anticipates that such sales could
fluctuate in the future. For example, purchases by USSC declined substantially
in the quarter ended September 30, 1995, and then increased substantially in the
subsequent quarter ended December 31, 1995. As a result, there can be no
assurance that USSC will continue to purchase the Company's products in amounts
equal to past levels or that USSC will purchase the minimum quantities required
under the agreement. The distribution agreement with USSC expires in March 1997.
The parties have been discussing a potential renewal of such agreement; however,
there is no assurance that such agreement will be renewed and, in the interim,
USSC may have built up its inventory of GSI balloon dissector products. In
addition, during the renewal discussions, USSC has indicated that it currently
intends to purchase less product. USSC could also elect to sell competitive
products, rather than those of the Company, which could result in a decline of
the Company's sales. A significant reduction in orders from USSC or a failure to
renew the agreement with USSC could have a material adverse effect on the
Company's business, financial condition and results of operations. In addition,
in June 1996 the Company entered into a license and distribution agreement with
Ethicon Endo-Surgery, Inc. ("EES") under which the Company has the right to
manufacture EES balloon dissectors for EES and EES has the right to market its
balloon dissection system in the laparoscopic hernia repair market. The parties
expect to jointly develop and market a dissector for SUI repair in early
calendar 1997. No manufacturing or distribution of products has occurred to date
pursuant to the EES Agreement, and there can be no assurance that such
manufacturing or distribution efforts will be successful. Although the Company
intends to establish additional distributorships in the United States there can
be no assurance that such efforts will be successful. Failure to diversify its
distribution network in the United States could have a material adverse effect
on the Company's business, financial condition and results of operations.
SALES INTERNATIONALLY. The Company's products are currently sold
internationally to general surgeons and specialists through USSC and independent
distributors in Europe, Asia, Latin America and the Middle East. The Company
generally operates under written agreements with its international distributors,
which typically grant distributors the right to sell the Company's products
within a defined territory and permit the distributors to sell other
non-competing medical products. In addition, the agreements typically include
minimum sales forecast requirements, minimum inventory forecast requirements,
participation in trade shows and marketing efforts on behalf of GSI, and
training and support service programs for end-users. The Company's distributors
typically purchase the Company's products at discounts that vary by product and
market.
Substantially all of the Company's revenues to date have been derived from
hernia repair products sold to USSC. Sales to USSC accounted for approximately
75% and 92% of the Company's total sales for the year ended June 30, 1995, and
for the year ended June 30, 1996, respectively. Sales outside of the United
States accounted for approximately 2%, 3% and 4% of the Company's sales in
fiscal 1994, fiscal 1995 and the year ended June 30, 1996, respectively, and the
Company expects that international sales will represent an increasing portion of
revenue in the future. The Company records all sales to USSC as domestic sales;
however, sales of the Company's products by USSC include sales to European and
other countries internationally, made through Autosuture, Inc., a subsidiary of
USSC.
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MANUFACTURING
The Company manufactures its products in a clean room facility in Palo Alto,
California. The Company has implemented quality control systems as part of its
manufacturing process, which are designed to enable the Company to achieve ISO
9001 certification for its products by the end of calendar year 1997. The
Company has also been inspected by the California Department of Health Services
("CDHS"), on behalf of the CDHS and the FDA, and is registered with the State of
California to manufacture its medical devices. The Company believes that it is
in compliance with all FDA requirements including FDA Good Manufacturing
Practices ("GMP") for medical devices. There can be no assurance, however, that
the Company will attain ISO 9001 certification in calendar year 1997, or that
the Company will remain in compliance with GMP, and failure to do so in either
case could have a material adverse effect on the Company's business, operating
results or financial condition.
The Company occupies a single facility that houses its headquarters,
administrative offices, research laboratories and manufacturing facilities. This
facility is subject to a lease that expires in March 1998. While the Company
believes that this space is adequate for its immediate needs, GSI will need to
obtain additional office, development and manufacturing space to accommodate
expected business growth during calendar year 1997 and the first calendar
quarter of 1998. There can be no assurance that the Company will be able to
obtain such additional facilities on commercially reasonable terms, or at all.
If the Company is able to lease such additional space, there can be no assurance
that the Company will be able to establish and certify adequate manufacturing
capacity in a timely manner, or at all, in such space. Failure to obtain
additional space or establish and certify adequate manufacturing capacity in a
timely manner could have a material adverse effect on the Company's business,
financial condition or results of operations.
Raw materials used in the production of the Company's balloon dissector
products are purchased from various qualified vendors, subjected to stringent
quality specifications and assembled by the Company into the final balloon
dissectors. Quality audits of suppliers are conducted, and the Company has
adopted a vendor qualification program. The Company currently obtains certain
products from single source suppliers, including its supplier of product molds.
The Company believes that alternative suppliers are available for its raw
materials and other product components and plans to qualify additional suppliers
when sales volumes warrant. Although the Company intends to maintain sufficient
levels of inventory to avoid any material disruption resulting from the scale-up
of manufacturing, there can be no assurance that the Company will be able to
manufacture and supply sufficient products to meet potential demand. In
addition, there can be no assurance that the single source suppliers will meet
the Company's future requirements for timely delivery of products of sufficient
quality and quantity. The inability of GSI's single source suppliers to provide
it with adequate supplies of high quality products, or the loss of any of the
Company's single source suppliers, could cause a delay in GSI's ability to
fulfill orders while the Company identifies and certifies a replacement
supplier, and could have a material adverse effect upon the Company's business,
financial condition and results of operations. See "Factors Affecting Future
Results-- Limited Manufacturing Experience; Uncertainty Regarding Future
Facilities."
COMPETITION
Competition in the market for medical devices and tissue dissection products
is intense and is expected to increase. The Company competes primarily with
other producers of MIS tissue dissection products. Origin, a subsidiary of
Guidant Corporation, and others, currently compete with the Company in the
development, production and marketing of MIS tissue dissection instruments and
tissue dissection technology. To the extent that surgeons elect to use open
surgical procedures rather than MIS, the Company also competes with producers of
tissue dissection products used in open surgical procedures, such as blunt
dissectors or graspers. A number of companies currently compete against the
Company in the development, production and marketing of tissue dissection
products and technology for open surgical procedures. In addition, the Company
competes indirectly with producers of therapeutic drugs, when such drugs are
used as an alternative to surgery. Many of the Company's competitors and
potential competitors have substantially greater name recognition and capital
resources than the Company and also have greater
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resources and expertise in the areas of research and development, obtaining
regulatory approvals, manufacturing and marketing.
The Company believes that the primary competitive factors in the market for
tissue dissection products include safety, efficacy, ease of use, quality,
reliability and cost effectiveness. In addition, the length of time required for
products to be developed and to receive regulatory approval is an important
competitive factor. The Company believes that it competes favorably with respect
to these factors, although there can be no assurance that it will continue to do
so.
The market for tissue dissection products is characterized by rapid
technical innovation. Product development involves a high degree of risk and
there can be no assurance that the Company's competitors and potential
competitors will not succeed in developing and marketing technologies and
products that are more effective than those developed and marketed by the
Company or that would render the Company's technology and products obsolete or
noncompetitive. The medical applications for which the Company's MIS tissue
dissection products are used can also be addressed by other medical devices in
either MIS or open surgical procedures, many of which are widely accepted in the
medical community. There can be no assurance that a procedure using MIS balloon
dissection technology will be able to replace such established products and
procedures. Additionally, new surgical products or procedures could be developed
that replace or reduce the importance of current procedures that use the
Company's products.
PATENTS AND PROPRIETARY RIGHTS
The Company's policy is to seek to protect its proprietary position by,
among other methods, filing United States and foreign patent applications
related to its technology, inventions and improvements that are important to the
development of its business. The Company's patent strategy includes filing
procedure-specific method patents for the use of the Company's products in new
clinical applications. As of June 30, 1996, GSI had 16 United States patents
issued, and had applied for an additional 45 United States patents, four of
which had been allowed. In addition, GSI had two foreign patents issued, and 17
still in prosecution as of such date. In May 1996, the Company was issued a
United States patent which contains method claims regarding the use of balloons
to dissect tissue planes anywhere in the body. In May 1996, the Guidant
Corporation unit of Origin MedSystems, Inc. filed an action in the U.S. District
Court for the Northern District of California against GSI, alleging patent
infringement of its patent entitled "Apparatus and Methods for Peritoneal
Retraction." GSI subsequently filed an action against Origin Medsystems, Inc. in
the U.S. District Court for the Northern District of California alleging patent
infringement of its patent for a method of tissue plane dissection using balloon
systems. A decision against the Company in either of these actions could have a
material adverse effect on the Company's business, financial condition or
results of operations.
The validity and breadth of claims in medical technology patents involve
complex legal and factual questions and, therefore, may be highly uncertain. No
assurance can be given that any patents based on pending patent applications or
any future patent applications will be issued, that the scope of any patent
protection will exclude competitors or provide competitive advantages to the
Company, that any of the Company's patents or patents to which it has licensed
rights will be held valid if subsequently challenged or that others will not
claim rights in or ownership of the patents and other proprietary rights held or
licensed by the Company or that the Company's existing patents will cover the
Company's future products. Furthermore, there can be no assurance that others
have not developed or will not develop similar products, duplicate any of the
Company's products or design around any patents issued to or licensed by the
Company or that may be issued in the future to the Company.
The Company has acquired a significant number of patent rights from third
parties, including rights which apply to the Company's current balloon
dissection systems. The Company has historically paid and is obligated to pay in
the future to such third parties royalties equal to 4% of sales of such
products, which payments are expected to exceed certain minimum royalty payments
due under agreements with such parties. The Company has also acquired patent
rights under royalty-bearing agreements with respect to
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certain surgical instruments, including the KnotMaker suturing instrument and
the balloon valve trocar currently under development.
One of the patent applications filed by the Company, which is directed to a
surgical method using balloon dissection technology, has been placed in
interference with a patent application filed by Origin, a competitor of the
Company. The Company believes that the inventor named in its patent application
was the first to invent this subject matter, and the Company has asserted that
the Origin patent application was filed after a disclosure made by such inventor
to employees of Origin. Origin takes a contrary position. This interference is
presently pending in the United Stated Patent and Trademark Office ("USPTO")
and, as permitted by the rules of the USPTO, has been referred to an arbitrator
for completion of the interference proceeding. A decision is not expected in
this interference proceeding until calendar year 1997, and, while the Company
believes that it will be successful in this interference proceeding, there can
be no assurance of such success. Failure of the Company to prevail in such
interference proceeding could have a material adverse effect on the Company's
business, financial condition, or results of operations.
The patent position of medical device manufacturers, including GSI, is
uncertain and may involve complex legal and factual issues. Consequently, the
Company does not know whether any of its applications will result in the
issuance of any further patents, or whether issued patents will provide
significant proprietary protection or will not be challenged, circumvented or
invalidated. Since patent applications in the U.S. are maintained in secrecy
until patents issue, and since publications of discoveries in the scientific or
patent literature tend to lag behind actual discoveries by several months, GSI
cannot be certain that it was the first creator of inventions covered by pending
patent applications or issued patents, or that it was the first to file patent
applications for such inventions. Moreover, the Company is currently
participating in, and may in the future have to participate in, interference
proceedings declared by the USPTO to determine the priority of inventions, which
could result in substantial cost to the Company. There can be no assurance that
the Company's patent applications will result in further issued patents or that
such issued patents will offer protection against competitors with similar
technology.
Legislation is pending in Congress that, if enacted in its present form,
would limit the ability of medical device manufacturers in the future to obtain
patents on surgical and medical procedures that are not performed by, or as a
part of, devices or compositions which are themselves patentable. While the
Company cannot predict whether the legislation will be enacted, or precisely
what limitations will result from the law if enacted, any limitation or
reduction in the patentability of medical and surgical methods and procedures
could have a material adverse effect on the Company's ability to protect its
proprietary methods and procedures. In addition, the patent laws of European and
certain other foreign countries generally do not allow for the issuance of
patents for methods of surgery in the human body. Accordingly, the ability of
the Company to gain patent protection for its methods of tissue dissection will
be significantly limited. As a result, there can be no assurance that the
Company will be able to develop a patent portfolio in Europe or other foreign
jurisdictions or that the scope of any patent protection will provide
competitive advantages to the Company.
GSI also relies upon technical know-how and continuing technological
innovation to develop and maintain its competitive position. The Company
typically requires its employees, consultants and advisors to execute
appropriate confidentiality and assignment of inventions agreements in
connection with their employment, consulting or advisory relationship with the
Company. There can be no assurance, however, that these agreements will not be
breached or that GSI will have adequate remedies for any such breach.
Furthermore, no assurance can be given that competitors will not independently
develop substantially equivalent proprietary information and techniques or
otherwise gain access to the Company's proprietary technology, or that GSI can
meaningfully protect its rights in unpatented proprietary technology.
GOVERNMENT REGULATION
UNITED STATES. The Company's Spacemaker balloon dissection systems and
other products are subject to extensive and rigorous regulation by the United
States Food and Drug Administration (the "FDA") and,
17
<PAGE>
to varying degrees, by state and foreign regulatory agencies. Under the Federal
Food, Drug, and Cosmetic Act, the FDA regulates the clinical testing,
manufacture, labeling, packaging, marketing, distribution and record keeping for
medical devices, in order to ensure that medical devices distributed in the
United States are safe and effective for their intended use. Prior to
commercialization, a medical device generally must receive prior FDA clearance
or approval, which can be an expensive, lengthy, and uncertain process.
In the United States, medical devices are classified into one of three
classes (I.E., Class I, II, or III) on the basis of the controls deemed
necessary by the FDA to reasonably assure their safety and effectiveness. Class
I devices are subject to general controls (E.G., labeling, premarket
notification and adherence to GMPs) and Class II devices are subject to general
and special controls (E.G., performance standards, postmarket surveillance,
patient registries, and FDA guidelines). Generally, Class III devices are those
which must receive premarket approval ("PMA") by the FDA to ensure their safety
and effectiveness (E.G., life-sustaining, life-supporting and implantable
devices, or new devices which have been found not to be substantially equivalent
to legally marketed devices).
Before a new device can be introduced into the market in the United States,
the manufacturer or distributor generally must obtain FDA marketing clearance
through either a 510(k) premarket notification or a PMA application. If a
medical device manufacturer or distributor can establish, among other things,
that a device is "substantially equivalent" in intended use and technological
characteristics to a Class I or Class II medical device or a Class III medical
device for which FDA has not called for PMAs, the manufacturer or distributor
may seek clearance from the FDA to market the device by filing a 510(k). The
510(k) must be supported by appropriate information establishing to the
satisfaction of the FDA the claim of substantial equivalence to a predicate
device. In recent years, the FDA has been requiring a more rigorous
demonstration of substantial equivalence, including more frequent requests for
clinical data in 510(k) submissions.
The FDA also has the authority to require clinical testing of certain
medical devices. If clinical testing of a device is required and if the device
presents a "significant risk," an Investigational Device Exemption ("IDE")
application must be approved prior to commencing clinical trials. The IDE
application must be supported by data, typically including the results of
laboratory and animal testing. If the IDE application is approved by the FDA and
one or more appropriate Institutional Review Boards ("IRBs"), clinical trials
may begin at a specific number of investigational sites with a maximum number of
patients, as approved by the agency. If the device presents a "nonsignificant
risk" to the patient, a sponsor may begin the clinical trial after obtaining
approval for the study by one or more appropriate IRBs without the need for FDA
approval. Sponsors of clinical trials are permitted to sell those devices
distributed in the course of the study provided such compensation does not
exceed recovery of the costs of manufacture, research, development and handling.
The clinical trials must be conducted under the auspices of an IRB pursuant to
FDA regulations.
Following submission of the 510(k) notification, the manufacturer or
distributor may not place the device into commercial distribution unless and
until an order is issued by the FDA finding the product to be substantially
equivalent. It generally takes from four to 12 months from submission to obtain
510(k) premarket clearance, but may take longer. In response to a 510(k), the
FDA may declare that the device is substantially equivalent to another legally
marketed device and allow the proposed device to be marketed in the United
States. The FDA, however, may require further information, including clinical
data, to make a determination regarding substantial equivalence, or may
determine that the proposed device is not substantially equivalent and require a
PMA. Such a request for additional information or determination that the device
is not substantially equivalent would delay market introduction of the product.
There can be no assurance that the Company will obtain 510(k) premarket
clearance within the above time frames, if at all, for any of the devices for
which it may file a 510(k).
For any medical device cleared through the 510(k) process, modifications or
enhancements that could significantly affect the safety or effectiveness of the
device or that constitute a major change to the intended use of the device will
require a new 510(k) submission. The Company has made modifications to
18
<PAGE>
its products which the Company believes do not require the submission of new
510(k) notices. There can be no assurance, however, that the FDA will agree with
any of the Company's determinations not to submit a new 510(k) notice for any of
these changes or will not require the Company to submit a new 510(k) notice for
any of the changes made to the product. If the FDA requires the Company to
submit a new 510(k) notice for any product modification, the Company may be
prohibited from marketing the modified product until the 510(k) notice is
cleared by the FDA. Such a prohibition could have a material adverse effect on
the Company's business, financial condition and results of operations.
If a manufacturer or distributor of medical devices cannot establish that a
proposed device is substantially equivalent to a legally marketed device, the
manufacturer or distributor must seek premarket approval of the proposed device
through submission of a PMA. A PMA must be supported by extensive data,
including, laboratory, preclinical and clinical trial data to prove the safety
and effectiveness of the device as well as extensive manufacturing information.
Following receipt of a PMA, if the FDA determines that the application is
sufficiently complete to permit a substantive review, the FDA will "file" the
application. The PMA approval process can be lengthy, expensive and uncertain.
FDA review of a PMA generally takes approximately two years or more from the
date of filing to complete. If granted, the approval of the PMA may include
significant limitations on the indicated uses for which a product may be
marketed.
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 Spacemaker I platform, Spacemaker II platform, Spacemaker
Resposable platform, and KnotMaker product each have received 510(k) clearance
for use during general, endoscopic, laparoscopic, or cosmetic and reconstructive
surgery, either when tissue dissection is required or, with respect to the
KnotMaker product, when a surgical knot for suturing is required. The Company
has promoted these products for performing the dissection required for selected
applications (E.G., hernia repair, SEPS and breast augmentation and
reconstruction), and may in the future promote these products for the dissection
or knotmaking required for additional selected applications (E.G., treatment of
stress urinary incontinence, saphenous vein harvesting and a variety of
retroperitoneal procedures such as spinal fusion). Although the Company believes
that these narrower applications are covered by the 510(k) clearance already
received for each of these products, there can be no assurance that the FDA will
not consider promotion of these products for performing the dissection or
knotmaking required for such narrower indications to be a major change to the
intended use of the device and require a new 510(k) submission. In addition,
since its receipt of 510(k) clearances for these products, the Company has made
product modifications, including developing new balloon shapes and sizes to
facilitate dissection for specific applications. Although the Company believes
that these product modifications are covered by the 510(k) clearances already
received, there can be no assurance that the FDA will agree with the Company's
determination or will not require a new 510(k) submission for some or all of the
new balloon shapes and sizes or other modifications. If such additional 510(k)
clearances are required, there can be no assurance that the Company will obtain
them on a timely basis, if at all, and delays in receipt of or failure to
receive such approvals could have a material adverse effect on the Company's
business, financial condition and results of operations.
The Company anticipates filing a 510(k) submission for its specialized
trocar with a balloon valve, which provides a seal to maintain insufflation of
the surgical space during MIS. There can be no assurance that the FDA will grant
510(k) clearance for the Company's specialized trocar on a timely basis, if at
all.
In addition, there can be no assurance that the Company will be able to
obtain future 510(k) clearances or PMA approvals, if required, to market its
products for the intended uses on a timely basis, if at all, and delays in
receipt of or failure to receive such approvals, the loss of previously received
approvals, or failure to comply with existing or future regulatory requirements
could have a material adverse effect on the Company's business, financial
condition and results of operations. The need for additional clearances or
approvals could cause the Company to utilize significant unanticipated resources
and capital and could
19
<PAGE>
prohibit or delay product introductions, which could have a material adverse
effect on the Company's business, financial condition and results of operations.
The Company is subject to pervasive and continuing regulation, including
routine inspection by the FDA and state agencies, such as the California
Department of Health Services ("CDHS"). Manufacturers of medical devices for
marketing in the United States are required to adhere to applicable regulations
setting forth detailed GMP requirements, which include testing, control and
documentation requirements. Manufacturers must also comply with Medical Device
Reporting ("MDR") requirements that a company report to FDA any incident in
which its product may have caused or contributed to a death or serious injury,
or in which its product malfunctioned and, if the malfunction were to recur, it
would be likely to cause or contribute to a death or serious injury.
Noncompliance with applicable requirements can result in warning letters, import
detentions, fines, civil penalties, injunctions, suspensions or losses of
regulatory approvals, recall or seizure of products, operating restrictions,
refusal of the government to approve product export applications or allow the
Company to enter into supply contracts, and criminal prosecution. Delays in
receipt of, or failure to obtain regulatory clearances and approvals, the
restriction, suspension or revocation of regulatory clearances and approvals, if
obtained, or any failure to comply with regulatory requirements could have a
material adverse effect on the Company's business, financial condition and
results of operations. In July 1995, the Company's Palo Alto facility was
inspected by the CDHS, acting for itself and under contract with the FDA. The
Company received no material inspectional observations. The FDA has proposed
changes to the GMP regulations that will likely increase the cost of compliance
with GMP requirements. If finalized, the proposed GMP changes will cover device
design and servicing and will establish other new requirements. Changes in
existing requirements or adoption of new requirements could have a material
adverse effect on the Company's business, financial condition and results of
operation. There can be no assurance that the Company will not incur significant
costs to comply with laws and regulations in the future or that laws and
regulations will not have a material adverse effect upon the Company's business,
financial condition or results of operations.
The Company also is subject to numerous federal, state and local laws
relating to such matters as safe working conditions, environmental protection,
and fire hazard control. There can be no assurance that the Company will not be
required to incur significant costs to comply with such laws and regulations in
the future or that such laws or regulations will not have a material adverse
effect upon the Company's ability to do business.
Regulations regarding the development, manufacture and sale of the Company's
products are subject to change. The Company cannot predict what impact, if any,
such changes might have on its business, financial condition or results of
operations.
INTERNATIONAL. Sales of medical devices outside the United States are
subject to foreign regulatory requirements that vary widely from country to
country. The time required to obtain clearance required by foreign countries may
be longer or shorter than that required for FDA clearance or approval, and the
requirements may differ. The Company currently relies on its distributors for
the receipt of premarket approvals and compliance with clinical trial
requirements in those countries that require them, and the Company expects to
continue to rely on distributors in those countries where the Company continues
to use distributors. Many countries in which the Company intends to operate
either do not currently regulate medical devices or have minimal registration
requirements; however, these countries may develop more expensive regulations in
the future that could adversely affect the Company's ability to market its
products. Other countries, such as Japan, have requirements similar to those of
the United States. This disparity in the regulation of medical devices may
result in more rapid product clearance in certain countries than in others. The
products sold by the Company are subject to premarket approval as well as other
regulatory requirements in many countries.
In order to continue selling its products within the European Economic Area
following June 14, 1998, the Company is required to achieve compliance with the
requirements of the Medical Devices Directive (the "MDD") and affix CE marking
on its products to attest such compliance. To achieve this, the
20
<PAGE>
Company's products must meet the Essential Requirements as defined under the MDD
relating to safety and performance of its products and the Company must
successfully undergo verification of its regulatory compliance ("conformity
assessment") by a Notified Body selected by the Company. The nature of such
assessment will depend on the regulatory class of the Company's products. Under
European law, the Company's products are likely to be in Class IIA or lower. In
the case of a Class IIA product the Company can choose between two options.
Under the first option the Company must establish and maintain a complete
quality system for design and manufacture as described in Annex II of the MDD
(this corresponds to a quality system described in ISO 9001 and EN 46001
standards). The Notified Body must audit this quality system and determine if it
meets the requirements of the MDD. The second option involves two stages. First,
the Company would declare that its products comply with the provisions of the
MDD that apply to them and prepare technical documentation to allow the
conformity assessment of the products. Next, the Company could choose to do one
of the following: (i) request the Notified Body to carry out batch testing of
the finished products to verify their conformity, (ii) set up a complete quality
system for manufacture subject to assessment by the Notified Body or (iii) set
up a quality system for the final testing of products subject to conformity
assessment by the Notified Body. Irrespective of the conformity assessment route
chosen by the Company, the Company must ensure that the products comply with the
Essential Requirements of the MDD. In order to comply with these requirements,
the Company must, among other things, carry out a risk analysis. The Company may
have to present clinical data to provide evidence of compliance with certain
Essential Requirements if evidence by other means is insufficient. The clinical
data presented by the Company must provide evidence that the products meet the
performance specifications claimed by the Company, provide sufficient evidence
of adequate assessment of unwanted side-effects and demonstrate that the
benefits to the patient outweigh the risks associated with the device. The
Company will be subject to continued supervision by the Notified Body and will
have to report any serious adverse incidents to the appropriate authorities. The
Company also will have to comply with additional national requirements that are
beyond the scope of the MDD. The Company believes that it will comply with the
CE marking requirements prior to June 14, 1998. Failure to do so would mean that
the Company would be unable to sell its products in the European Economic Area
unless and until compliance was achieved, which could have a material adverse
effect upon the Company's business, financial condition and results of
operations. There can be no assurance that the Company will be able to achieve
or maintain compliance required for CE marking or any or all of its products or
that it will be able to produce its products timely and profitably while
complying with the requirements of the MDD and other regulatory requirements.
THIRD-PARTY REIMBURSEMENT
In the United States, hospitals, physicians and other healthcare providers
that purchase medical devices generally rely on third-party payors, such as
private health insurance plans, to reimburse all or part of the costs associated
with the treatment of patients.
The Company's success will depend upon the ability of surgeons to obtain
satisfactory reimbursement from healthcare payors for the Company's products.
Reimbursement in the United States for the Company's balloon dissection products
is currently available from most third-party payors, including most major
private health care insurance plans and Medicaid, under existing surgical
procedure codes. The Company does not expect that third-party reimbursement in
the United States will be available for use of its other products unless and
until FDA clearance or approval is received. If FDA clearance or approval is
received, third-party reimbursement for these products will be dependent upon
decisions by individual health maintenance organizations, private insurers and
other payors. Many payors, including the federal Medicare program, pay a preset
amount for the surgical facility component of a surgical procedure. This amount
typically includes medical devices such as the Company's. Thus, the surgical
facility or surgeon may not recover the added cost of the Company's products. In
addition, managed care payors often limit coverage to surgical devices on a
pre-approved list or obtained from an exclusive source. If the Company's
products are not on the list or are not available from the exclusive source, the
facility or surgeon will need to obtain an exception from the payor or the
patient will be required to pay for some or all of the cost of
21
<PAGE>
the Company's product. The Company believes that procedures using its balloon
dissection products may be reimbursed in the United States under certain
existing procedure codes. However, there can be no assurance that such procedure
codes will remain available or that the reimbursement under these codes will be
adequate. Given the efforts to control and decrease health care costs in recent
years, there can be no assurance that any reimbursement will be sufficient to
permit the Company to achieve or maintain profitability.
Reimbursement systems in international markets vary significantly by
country, and by region within some countries, and reimbursement approvals must
be obtained on a country-by-country basis. Many international markets have
government managed health care systems that govern reimbursement for new devices
and procedures. In most markets, there are private insurance systems as well as
government-managed systems. Large-scale market acceptance of the Company's
balloon dissectors and other products will depend on the availability and level
of reimbursement in international markets targeted by the Company. Currently,
the Company has been informed by its international distributors that balloon
dissectors have been approved for reimbursement in many of the countries in
which the Company markets its products. Obtaining reimbursement approvals can
require 12 to 18 months or longer. There can be no assurance that the Company
will obtain reimbursement in any country within a particular time, for a
particular amount, or at all. Failure to obtain such approvals could have a
material adverse effect on the Company's sales, business, financial condition
and results of operations.
Regardless of the type of reimbursement system, the Company believes that
surgeon advocacy of its products will be required to obtain reimbursement.
Availability of reimbursement will depend on the clinical efficacy and cost of
the Company's balloon dissection systems. There can be no assurance that
reimbursement for the Company's products will be available in the United States
or in international markets under either government or private reimbursement
systems, or that surgeons will support and advocate reimbursement for use of the
Company's systems for all applications intended by the Company. Failure by
surgeons, hospitals and other users of the Company's products to obtain
sufficient reimbursement from health care payors or adverse changes in
government and private third-party payors' policies toward reimbursement for
procedures employing the Company's products would have a material adverse effect
on the Company's business, financial condition and results of operations.
PRODUCT LIABILITY AND INSURANCE
The Company's business involves an inherent risk of exposure to product
liability claims. Although the Company has not experienced any product liability
claims to date, there can be no assurance that the Company will be able to avoid
significant product liability claims and potential related adverse publicity.
The Company maintains product liability insurance with coverage limits of
$5,000,000 per occurrence and an annual aggregate maximum of $5,000,000, which
the Company believes is comparable to that maintained by other companies of
similar size serving similar markets. However, there can be no assurance that
product liability claims will not exceed such insurance coverage limits, which
could have a material adverse effect on the Company, or that such insurance will
continue to be available on commercially reasonable terms, or at all.
ENVIRONMENTAL MATTERS
The Company is subject to federal, state and local laws, rules, regulations
and policies governing the use, generation, manufacture, storage, air emission,
effluent discharge, handling and disposal of certain hazardous and potentially
hazardous substances used in connection with the Company's operations. Although
the Company believes that it has complied with these laws and regulations in all
material respects and to date has not been required to take any action to
correct any noncompliance, there can be no assurance that the Company will not
be required to incur significant costs to comply with environmental regulations
in the future.
22
<PAGE>
EMPLOYEES
As of June 30, 1996, GSI employed 64 individuals, 19 of whom were engaged
directly in research, development, regulatory and quality assurance affairs, 19
in manufacturing, 17 in marketing and sales and nine in finance and
administration. The Company also contracts with outside consultants. None of the
Company's employees is covered by a collective bargaining agreement. GSI
believes that it maintains good relations with its employees.
EXECUTIVE OFFICERS OF THE COMPANY
The executive officers of the Company and their ages as of July 1, 1996 are
as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ---------------------------- --- ------------------------------------------------------------------------------
<S> <C> <C>
Roderick A. Young 52 President, Chief Executive Officer and Director
James E. Jervis 60 Vice President of Research and Development
Gregory D. Casciaro 40 Vice President of Sales and Marketing
Stephen J. Bonelli 34 Chief Financial Officer, Vice President of Finance, and Treasurer
Ferolyn T. Powell 33 Vice President of Operations
Thomas J. Fogarty, M.D. 62 Chairman of the Board of Directors
</TABLE>
The officers of the Company are appointed by the Board of Directors and
serve at the discretion of the Board. There are no family relationships among
the directors or officers of GSI.
RODERICK A. YOUNG joined GSI in August 1993, and serves as President and
Chief Executive Officer. From May 1993 until joining GSI, Mr. Young was
President and CEO of Focus Surgery, Inc., a medical device company that was spun
out of Diasonics, Inc. in October 1993. Prior to Focus Surgery, Mr. Young served
in various executive positions, including President, Chief Financial Officer and
Chief Operating Officer of Diasonics, Inc. a medical products manufacturer, from
May 1990 to May 1993. Mr. Young serves or has served on the Board of Directors
of Diasonics and Pacific Gateway Properties, Inc. and several privately held
companies. Mr. Young received a B.S. degree in Industrial Engineering from
Stanford University and an MBA from Harvard Business School.
JAMES E. JERVIS joined GSI in March 1994, and serves as Vice President of
Research and Development. Prior to joining GSI, Mr. Jervis had 30 years of
engineering design, development and operations experience at Raychem
Corporation. At Raychem, Mr. Jervis held various executive positions, including
Director of New Business Development, General Manager - Medical Products Group
and Operations Manager. Mr. Jervis holds 19 patents and is named as inventor in
over 50 other patents. Mr. Jervis received a BSME degree and an MBA from
Stanford University.
GREGORY D. CASCIARO joined GSI in February 1995, and serves as Vice
President of Sales and Marketing. Prior to joining GSI, Mr. Casciaro held
various positions at Devices for Vascular Intervention, Inc., a medical device
manufacturer, including Vice President of Sales, from June 1991 to February
1995. Previously, Mr. Casciaro held various sales positions at North American
Instrument Corporation, a medical device company, from March 1983 to May 1991.
Mr. Casciaro received a B.S. degree in Business Administration at Marquette
University.
STEPHEN J. BONELLI joined GSI in September 1994, and serves as Chief
Financial Officer, Vice President of Finance, and Treasurer. Prior to joining
GSI, Mr. Bonelli held financial management positions at Coactive Computing
Corporation, a computer networking company, from November 1993 to August 1994,
and Ready Systems Corporation, a software company, from May 1990 to October
1993. Previous to those positions, Mr. Bonelli held a management position with
Ernst & Young. Mr. Bonelli received a B.S. degree in Business Administration
from California Polytechnic State University, San Luis Obispo. Mr. Bonelli is a
Certified Public Accountant.
FEROLYN T. POWELL joined GSI in October 1995, and serves as Vice President
of Operations. Prior to joining GSI, Ms. Powell served as Director of Research
and Development at Adjacent Surgical, Inc. from
23
<PAGE>
June 1995 to October 1995, and as Senior Engineer, Project Manager and Director
at Devices for Vascular Interventions, Inc. from September 1992 to June 1995.
Previous to those positions, Ms. Powell held technical management positions at
Frantz Medical Development Ltd. and Life Systems, Inc. Ms. Powell received her
M.S. degree in Engineering from the University of Akron and her B.S. degree in
Chemical Engineering from Cleveland State University.
DR. THOMAS J. FOGARTY co-founded GSI in April 1992, and has been a director
of the Company since that time. Dr. Fogarty has an appointment at Stanford
University as a Professor of Surgery. He holds over 50 patents in surgical
instrumentation, including the Fogarty balloon catheter and the Fogarty vascular
clamp. Dr. Fogarty has also been instrumental in founding a variety of medical
device companies over the past 30 years, including Cardiac Pathways, Inc.,
CardioVascular Concepts, Perclose, Inc. and Ventritex. Dr. Fogarty is also a
founding general partner of Three Arch Partners, a venture capital investment
firm. Dr. Fogarty received his M.D. from the University of Cincinnati College of
Medicine.
ITEM 2. PROPERTIES
The Company occupies a facility of approximately 19,500 square feet in Palo
Alto, California which houses the Company's headquarters, administrative
offices, research laboratories and manufacturing facilities. The facility is
subject to a lease which expires on March 31, 1998. While the Company believes
that this space is adequate for its immediate needs, GSI will need to obtain
additional office, development and manufacturing space to accommodate expected
business growth during calendar year 1997 and the first calendar quarter of
1998. There can be no assurance that such additional facilities will be
available on commercially reasonable terms, if at all.
ITEM 3. LEGAL PROCEEDINGS
In May, 1996, the Guidant Corporation unit of Origin MedSystems, Inc. filed
an action against GSI in the United States District Court for the Northern
District of California, alleging patent infringement of its patent entitled
"Apperatus and Methods for Peritoneal Retraction." GSI subsequently filed a
claim against Origin Medsystems, Inc. in the United States District Court for
the Northern District of California, alleging that the use of Origin's balloon
dissection products infringe its patent for a method of tissue plane dissection
using balloon systems. In addition, one of the patent applications filed by the
Company, which is directed to a surgical method using balloon dissection
technology, has been placed in interference with a patent application filed by
Origin, a competitor of the Company. The Company believes that the inventor
named in its patent application was the first to invent this subject matter, and
the Company has asserted that the Origin patent application was filed after a
disclosure made by such inventor to employees of Origin. Origin takes a contrary
position. This interference is presently pending in the United States Patent and
Trademark Office ("USPTO") and, as permitted by the rules of the USPTO, has been
referred to an arbitrator for completion of the interference proceeding. A
decision is not expected in the interference proceeding until calendar year
1997, and, while the Company believes it will be successful in this interference
proceeding there can be no assurance of such success. Failure of the Company to
prevail in such interference proceeding could have a material adverse effect on
the Company business, financial condition or results of operation. A decision
against the Company in either of these actions could have a material adverse
effect on the Company's business, financial condition or results of operations.
From time to time the Company may be exposed to litigation arising out of
its products or operations. The Company is not engaged in any legal proceedings
that are expected, individually or in the aggregate, to have a material adverse
effect on the Company, expect for the patent interference proceedings discussed
herein.
24
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not Applicable.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND SHAREHOLDER MATTERS
MARKET INFORMATION
The Company completed its initial public offering on May 15, 1996, and the
Company's common stock is traded on The Nasdaq National Market under the symbol
GSII. As of June 30, 1996 the Company had approximately 101 shareholders of
record.
The following table shows the Company's high and low selling prices for the
fiscal year ended June 30, 1996 as reported by Nasdaq:
<TABLE>
<CAPTION>
1996
------------------------
HIGH BID LOW BID
----------- -----------
<S> <C> <C>
Fourth Quarter........................................................... $ 24.25 $ 14.25
</TABLE>
Future stock prices may be subject to volatility particularly on a quarterly
basis. Any shortfall in revenues or net income from amounts expected by
securities analysts could have an immediate and significant adverse effect on
the trading price of the Company's stock.
DIVIDEND POLICY
The Company has not paid dividends on its common stock and has no present
plans to do so. Provisions of the Company's bank line of credit prohibit the
payment of dividends without the bank's permission.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
<TABLE>
<CAPTION>
YEARS ENDED JUNE 30,
------------------------------------------------------
1996 1995 1994 1993
------------ ------------ ------------ ------------
(IN THOUSANDS EXCEPT PER SHARE DATA)
<S> <C> <C> <C> <C>
Sales.......................................... $ 6,165 $ 2,437 $ 789 $
Cost of Sales.................................. 2,772 1,262 600
------------ ------------ ------------ ------------
Gross Profit................................... 3,393 1,175 189 --
------------ ------------ ------------ ------------
Operating Expenses:
Research and development..................... 1,306 975 496 750
Selling, general and administrative.......... 5,204 4,258 2,870 440
Write-off of acquired in-process research and
development................................ 2,791
------------ ------------ ------------ ------------
Total operating expenses................... 9,301 5,233 3,366 1,190
------------ ------------ ------------ ------------
Operating loss................................. (5,908) (4,058) (3,177) (1,190)
Interest and other income (expense), net....... 443 7 58 18
------------ ------------ ------------ ------------
Net loss....................................... $ (5,465) $ (4,051) $ (3,119) $ (1,172)
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
Net loss per share............................. $ (0.74) $ (0.62) $ (0.49) $ (0.20)
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
Shares used in computing net loss per share.... 7,411,099 6,495,826 6,312,569 5,993,264
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
</TABLE>
25
<PAGE>
CONSOLIDATED BALANCE SHEET DATA:
<TABLE>
<CAPTION>
JUNE 30,
-------------------------------------------
1996 1995 1994 1993
---------- --------- --------- ---------
(IN THOUSANDS)
<S> <C> <C> <C> <C>
Cash, cash equivalents and available-for-sale securities.... $ 49,790 $ 4,541 $ 2,301 $ 336
Working capital............................................. 50,068 4,457 2,516 169
Total assets................................................ 52,767 6,245 3,525 560
Convertible redeemable preferred stock...................... -- 13,225 6,841 1,462
Accumulated deficit......................................... (13,817) (8,352) (4,301) (1,182)
Shareholders' equity (deficit).............................. 50,474 (8,316) (4,279) (1,161)
</TABLE>
(1) The Company did not conduct material operations from April 13, 1992, the
Company's inception date, through June 30, 1992. Operating expenses were not
material and approximated $10,000 for the period and, therefore, financial
data for this period is not presented.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
Since its inception in April 1992, GSI has been engaged in the development,
manufacturing and marketing of balloon dissection systems and related minimally
invasive surgical instruments. The Company began commercial sales of its balloon
dissection systems for hernia repair in September 1993. To date, the Company has
received from the FDA four 510(k) clearances for use of the Company's technology
to perform dissection of tissue planes anywhere in the body using a broad range
of balloon sizes and shapes. The Company currently sells products in the United
States and certain other countries in Europe, Asia and South America for
selected applications, such as hernia repair, saphenous endoscopic perforator
surgery and breast augmentation and reconstruction surgery.
In March 1994, the Company entered into a distribution agreement with USSC
providing USSC with limited exclusive rights to distribute the Company's balloon
dissection systems in the hernia repair market in both the United States and
certain international countries, and USSC is obligated to purchase minimum
quantities of the Company's products. Substantially all of the Company's
revenues have been derived from sales to USSC, which include sales to
Autosuture, Inc., a subsidiary of USSC, with USSC representing approximately 75%
and 92% of the Company's total net revenues for fiscal 1995 and 1996,
respectively. Sales outside of the United States accounted for approximately 3%
and 4% of the Company's sales in fiscal 1995, and fiscal 1996, respectively, and
the Company expects that international sales will represent an increasing
portion of revenue in the future. The Company records all sales to USSC as
domestic sales; however, sales of the Company's products by USSC include sales
to European and other foreign countries, made through Autosuture. The Company's
sales to USSC have fluctuated significantly in the past, and the Company
anticipates that such sales could fluctuate in the future. In addition, the
distribution agreement with USSC expires in March 1997. The parties have been
discussing a potential renewal of such agreement; however, there is no assurance
that such agreement will be renewed and, in the interim, USSC may have built up
its inventory of GSI balloon dissector products. In addition, during the renewal
discussions, USSC has indicated that it currently intends to purchase less
product. A significant reduction in orders from USSC or a failure to renew the
agreement with USSC could have a material adverse effect on the Company's
business, financial condition and results of operations. See "Factors Affecting
Future Results-- Dependence Upon Key Distributor; Limited Marketing and Direct
Sales Experience." The Company also recently entered into a license and
distribution agreement with Ethicon-Endo Surgery, Inc. ("EES") under which the
Company has the right to manufacture EES baloon dissectors for EES and EES has
the right to market its balloon dissection system in the laparoscopic hernia
repair market. The parties expect to jointly develop and market a dissector for
SUI repair in early calendar 1997. No manufacturing or distribution of
26
<PAGE>
products has occured to date persuant to the EES agreement, and there can be no
assurance that such manufacturing or distribution efforts will be successful.
Additional sales in the United States are currently made through a small
direct sales force. The Company currently sells its products in international
markets through a limited number of distributors who resell to surgeons and
hospitals. The Company plans to increase its direct sales force in the United
States and may seek to establish a direct sales force in one or more other
countries in the future. Any increase in the Company's direct sales force will
require significant expenditures and additional management resources. There can
be no assurance that any such direct sales force, if established, will be
successful.
To date, all of the sales to USSC and other distributors and almost all of
the sales by the Company's direct sales force have been for use in hernia repair
procedures. While the Company has developed balloon dissection systems for other
applications, sales of products for hernia repair are expected to provide a
majority of the Company's revenues at least through fiscal 1997. There can be no
assurance that the Company will be successful in generating sales of such
products for any other applications.
The Company has acquired a significant number of patent rights from third
parties, including rights that apply to the Company's current balloon dissection
systems. The Company has historically paid and is obligated to pay in the future
to such third parties royalties equal to 4% of sales of such products, which
payments are expected to exceed certain minimum royalty payments due under
agreements with such parties. The Company has also acquired patent rights under
royalty-bearing agreements with respect to certain surgical instruments,
including the KnotMaker product and the balloon valve trocar currently under
development.
In February 1996, the Company acquired Adjacent Surgical, Inc., a company
engaged in the development of balloon dissection systems for use in vascular
applications. The transaction resulted in a one-time expense related to
in-process research and development of approximately $2.8 million, in the
quarter ended March 31, 1996. From time to time, the Company has had discussions
with third parties regarding various strategic relationships, including the
potential sale of the Company, although the Company currently has no commitments
with respect to any such relationships. The Company may continue to have
discussions regarding potential strategic relationships in the future. However,
there can be no assurance that any such strategic relationship will occur.
The Company has a limited history of operations and has experienced
significant operating losses since inception. The Company expects such operating
losses to continue at least through calendar 1996. The increase in the Company's
sales to date has been due to demand for the Company's balloon dissector systems
principally for hernia repair. In order to support increased levels of sales in
the future and to augment its long-term competitive position, including the
development of balloon dissection systems for other applications, the Company
anticipates that it will be required to make significant additional expenditures
in manufacturing, research and development (including marketing related clinical
evaluations), sales and marketing and administration. In addition, the Company
anticipates higher administration expenses resulting from its obligations as a
public reporting company.
The Company anticipates that its results of operations may fluctuate for the
foreseeable future due to several factors, including purchases of the Company's
products by USSC, the status of the Company's relationship with USSC or other
partners, the mix of sales among the distributors and the Company's direct sales
force, timing of new product introductions or transitions to new products, the
margins recognized from products for various surgical procedures, the progress
of marketing-related clinical evaluations, the introduction of competitive
products (including pricing pressures), activities related to patents and patent
approvals (including litigation) and regulatory and third-party reimbursement
matters, the Company's ability to manufacture its products efficiently, and the
timing of research and development expenses (including marketing-related
clinical evaluations). In addition, the Company's results of operations could be
affected by the timing of orders from distributors, expansion of the Company's
distributor network, the ability of the Company's distributors to effectively
promote the Company's products and the
27
<PAGE>
ability of the Company to quickly and cost effectively increase its direct
domestic sales force. The Company's limited operating history makes accurate
prediction of future operating results difficult or impossible. Although the
Company has experienced sales growth in recent periods, there can be no
assurance that, in the future, the Company will sustain sales growth or gain
profitability on a quarterly or annual basis or that its growth will be
consistent with predictions made by securities analysts.
The Company currently manufactures and ships product shortly after the
receipt of orders, and anticipates that it will do so in the future.
Accordingly, the Company has not developed a significant backlog and does not
anticipate that it will develop a material backlog in the future.
28
<PAGE>
RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
The following table sets forth certain data from the Company's consolidated
statement of operations, expressed as a percentage of net revenues:
AS A PERCENTAGE OF SALES:
<TABLE>
<CAPTION>
YEARS ENDED JUNE 30,
----------------------------------------
1996 1995 1994
------------ ------------ ------------
<S> <C> <C> <C>
Sales................................................... 100.0 % 100.0 % 100.0 %
Cost of sales........................................... 45.0 51.8 76.0
------ ------ ------
Gross profit............................................ 55.0 48.2 24.0
------ ------ ------
Operating Expenses:
Research and development.............................. 21.2 40.0 62.9
Selling, general and administrative................... 84.4 174.7 363.8
Write-off of acquired in-process research and
development......................................... 45.3 -- --
------ ------ ------
Total operating expenses............................ 150.9 214.7 426.7
------ ------ ------
Operating loss.......................................... (95.9) (166.5) (402.7)
Interest and other income (expense), net................ 7.3 0.3 7.4
------ ------ ------
Net loss................................................ (88.6)% (166.2)% (395.3)%
------ ------ ------
------ ------ ------
</TABLE>
YEARS ENDED JUNE 30, 1996 AND 1995
SALES. Sales increased by 153% to $6.2 million in fiscal 1996 from $2.4
million in fiscal 1995. This increase was due primarily to the growth in unit
sales of the Spacemaker I platform to USSC for the hernia market and, to a
lesser extent, from sales of the Spacemaker II platform, which was introduced in
October 1995.
COST OF SALES. Cost of sales increased by 120% to $2.8 million in fiscal
1996 from $1.3 million in fiscal 1995, and decreased as a percentage of sales to
45% in the 1996 period from 52% in the 1995 period. This increase in absolute
dollars was primarily a result of the costs of additional manufacturing capacity
and personnel necessary to support increased sales volume, which was offset by
leveraging certain fixed overhead expenses across a higher base of sales.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses, which
include expenditures for marketing-related clinical evaluations and regulatory
expenses, increased by 34% to $1.3 million in fiscal 1996 from $975,000 in
fiscal 1995 and decreased as a percentage of sales to 21% in the 1996 period
from 40% in the 1995 period as a result of higher sales volume in the 1996
period. The Company expects research and development expenses to increase in
absolute dollars as the Company pursues development of new products.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased by 22% to $5.2 million in fiscal 1996 from
$4.3 million in fiscal 1995. This increase was primarily due to the growth of a
direct sales force in the United States and the growth in marketing and other
personnel associated with the Company's higher levels of operations. The Company
expects selling, general and administrative expenses to continue to increase in
absolute dollars as the Company's level of sales and manufacturing operations
increases and as the Company increases its finance and administrative
expenditures to meet its obligations as a public reporting company.
29
<PAGE>
NET LOSS. The Company had a net loss of $5.5 million in the year ended June
30, 1996 compared to a net loss of $4.1 million in the year ended June 30, 1995.
The 1996 net loss reflected a one-time expense related to the write-off of
acquired in process research and development of $2.8 million, incurred in
connection with the Company's acquisition of Adjacent Surgical, Inc. in February
1996.
YEARS ENDED JUNE 30, 1995 AND 1994
SALES. Sales increased by 209% to $2.4 million in fiscal 1995 from $789,000
in fiscal 1994. This increase was due primarily to an increase in unit sales of
the Spacemaker I platform to USSC for the hernia market.
COST OF SALES. Cost of sales increased by 110% to $1.3 million in fiscal
1995 from $600,000 in fiscal 1994 and decreased as a percentage of sales to 52%
in the 1995 fiscal year from 76% in the 1994 fiscal year. The increase in
absolute dollars was primarily a result of the increased volume of products sold
and, to a lesser extent, the costs of additional manufacturing capacity and
personnel necessary to support increased sales volume. The increased volume of
products sold also resulted in the decrease in cost of sales as a percentage of
sales, as certain fixed overhead expenses were leveraged across a higher sales
base.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses
increased by 97% to $975,000 in fiscal 1995 from $496,000 in fiscal 1994 and
decreased as a percentage of sales to 40% in the 1995 fiscal year from 63% in
the 1994 fiscal year. The increase in absolute dollars was primarily
attributable to the addition of research and development personnel and related
use of supplies and inventory, and increased levels of spending associated with
developing versions of the Spacemaker platform primarily for the cosmetic and
reconstructive surgery market. The decrease as a percentage of sales was the
result of higher sales in fiscal 1995.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased by 48% to $4.3 million in fiscal 1995 from
$2.9 million in fiscal 1994. This increase was primarily attributable to the
result of the establishment of a direct sales force in the United States, patent
and related litigation expenses, and additional costs of marketing and other
personnel necessary to support the higher level of operations.
QUARTERLY RESULTS OF OPERATIONS
The following tables set forth certain unaudited consolidated quarterly
results of operations for the fiscal year ended June 30, 1996, as well as such
data expressed as a percentage of the Company's net sales. This information has
been derived from unaudited financial statements that, in the opinion of
management, reflect all adjustments (consisting only of normally recurring
adjustments) necessary to fairly present this information when read in
conjunction with the consolidated financial statements and notes thereto.
30
<PAGE>
The results of operations for any quarter are not necessarily indicative of the
results to be expected for any future period.
<TABLE>
<CAPTION>
THREE MONTHS ENDED (IN THOUSANDS)
------------------------------------------------------
6/30/96 3/31/96 12/31/95 9/30/95
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Sales................................. $ 2,744 $ 1,713 $ 1,217 $ 491
Cost of Sales......................... 1,118 734 586 334
------------ ------------ ------------ ------------
Gross Profit.......................... 1,626 979 631 157
------------ ------------ ------------ ------------
Operating Expenses:
Research and development............ 442 384 278 202
Selling, general and
administrative.................... 1,506 1,239 1,393 1,066
Write-off of acquired in-process
research and development.......... 2,791
------------ ------------ ------------ ------------
Total operating expenses.......... 1,948 4,414 1,671 1,268
------------ ------------ ------------ ------------
Operating loss........................ (322) (3,435) (1,040) (1,111)
------------ ------------ ------------ ------------
Interest and other income (expense),
net.................................. 292 63 25 63
------------ ------------ ------------ ------------
Net loss.............................. $ (30) $ (3,372) $ (1,015) $ (1,048)
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
<CAPTION>
THREE MONTHS ENDED
------------------------------------------------------
6/30/96 3/31/96 12/31/95 9/30/95
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Sales................................. 100.0 % 100.0 % 100.0 % 100.0 %
Cost of Sales......................... 40.7 42.8 48.2 68.0
------------ ------------ ------------ ------------
Gross Profit.......................... 59.3 57.2 51.8 32.0
------------ ------------ ------------ ------------
Operating Expenses:
Research and development............ 16.1 22.4 22.8 41.1
Selling, general and
administrative.................... 54.9 72.3 114.5 217.2
Write-off of acquired in-process
research and development.......... -- 162.9 -- --
------------ ------------ ------------ ------------
Total operating expenses.......... 71.0 257.6 137.3 258.3
------------ ------------ ------------ ------------
Operating loss........................ (11.7) (200.4) (85.5) (226.3)
Interest and other income (expense),
net.................................. 10.6 3.7 2.1 12.8
------------ ------------ ------------ ------------
Net loss.............................. (1.1)% (196.7)% (83.4)% (213.5)%
------------ ------------ ------------ ------------
------------ ------------ ------------ ------------
</TABLE>
Results of the Company's operations may fluctuate significantly from quarter
to quarter and will depend on numerous factors, including (i) new product
introductions by the Company and its competitors and the resulting product
transitions, (ii) purchases of the Company's products by USSC, (iii) the status
of the Company's relationship with USSC, (iv) the rate of adoption by surgeons
of balloon dissection technology in markets targeted by the Company, (v) the
sales efforts of the Company's distributors, (vi) the mix of sales among
distributors and the Company's direct sales force, (vii) timing of patent and
regulatory approvals, (viii) timing of operating expenditures, (ix) the
Company's ability to manufacture its products efficiently, (x) timing of
research and development expenses, including marketing-related clinical
evaluation expenditures, (xi) intellectual property litigation and (xii) general
market conditions. The Company's sales in any period are highly dependent upon
the marketing efforts and success of USSC, which are not
31
<PAGE>
within the control of the Company. From time to time, the Company and USSC have
had disagreements regarding the extent of USSC's right under the distribution
agreement to distribute new products developed by the Company after the date of
such agreement. The Company's sales to USSC have fluctuated significantly in the
past, and the Company anticipates that such sales could fluctuate in the future.
For example, purchases by USSC declined substantially in the quarter ended
September 30, 1995, and then increased substantially in the subsequent quarter
ended December 31, 1995. Accordingly, any decline in purchases by USSC could
result in a decline of sales and adversely affect the Company's operating
results. The agreement expires in March 1997, and may not be renewed. Failure to
renew could have a material adverse effect on business, financial condition and
results of operations. The Company also recently entered into a license and
distribution agreement with Ethicon-Endo Surgery, Inc. ("EES") under which the
Company has the right to manufacture EES baloon dissectors for EES and EES has
the right to market its balloon dissection system in the laparoscopic hernia
repair market. The parties expect to jointly develop and market a dissector for
SUI repair in early calendar 1997. No manufacturing or distribution of products
has occured to date persuant to the EES agreement, and there can be no assurance
that such manufacturing or distribution efforts will be successful. In addition,
announcements or expected announcements by the Company, its competitors or its
distributors of new products, new technologies or pricing changes could cause
existing or potential customers of the Company to defer purchases of the
Company's existing products and could alter the mix of products sold by the
Company, which could have a material adverse effect on the Company's business,
financial condition and results of operations. There can be no assurance that
future products or product enhancements will be successfully introduced or that
such introductions will not adversely affect the demand for existing products.
As a result of these and other factors, the Company's quarterly operating
results have fluctuated in the past, and the Company expects that such results
may fluctuate in the future. Due to such quarterly fluctuations in operating
results, quarter-to-quarter comparisons of the Company's operating results are
not necessarily meaningful and should not be relied upon as indicators of likely
future performance or annual operating results. In addition, the Company's
limited operating history makes accurate prediction of future operating results
difficult or impossible to make. There can be no assurance that in the future
the Company will achieve revenue growth or become profitable on a quarterly or
annual basis or that its growth will be consistent with predictions by
securities analysts and investors.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, the Company's cash expenditures have significantly exceeded
its sales, resulting in an accumulated deficit of $13.8 million at June 30,
1996. The Company has funded its operations primarily through the sale of equity
securities. From its inception through June 30, 1996 the Company raised
approximately $15.2 million through the private placement of equity securities
and approximately $46.9 million (net of underwriting discounts and commissions)
in an initial public offering.
As of June 30, 1996 the Company's principal source of liquidity consists of
cash, cash equivalents and short-term investments of $49.8 million.
The Company expects to incur substantial additional costs, including costs
related to increased sales and marketing activities, increased research and
development, expenditures in connection with seeking regulatory approvals and
conducting additional marketing-related clinical evaluations, capital equipment
and other costs associated with expansion of the Company's manufacturing
capabilities and higher administration costs resulting from its obligations as a
reporting company. While the Company believes that its current cash balances and
short-term investments along with cash generated from the future sales of
products will be sufficient to meet the Company's operating and capital
requirements through calendar 1997, there can be no assurance that the Company
will not require additional financing within this time frame. The Company may
seek additional equity or debt financing to address its working capital needs or
to provide funding for capital expenditures. There can be no assurance that
additional financing, if required, will be available on satisfactory terms or at
all.
32
<PAGE>
FACTORS AFFECTING FUTURE RESULTS
LIMITED OPERATING HISTORY; ANTICIPATED FUTURE LOSSES. The Company was
organized in April 1992 and began commercially shipping its first Spacemaker
products in September 1993. Accordingly, the Company has only a limited
operating history upon which an evaluation of the Company and its prospects can
be based. As of June 30, 1996, the Company had an accumulated deficit of $13.8
million. The Company's operating net losses for the fiscal years ending June 30,
1994, 1995 and 1996 were $3.1 million, $4.1 million and $5.5 million,
respectively. The Company expects to continue to incur significant operating
losses on a quarterly and annual basis. Since the introduction of its initial
products, the Company has yet to achieve profitability and may never do so in
the future. Due to the Company's limited operating history, there can be no
assurance of sales growth or profitability on a quarterly or annual basis in the
future. The Company intends to increase significantly its investments in
research and development, sales and marketing, marketing-related clinical
evaluations and related infrastructure. Due to the anticipated increases in the
Company's operating expenses, the Company's operating results will be adversely
affected if sales do not increase. The Company's prospects must be considered in
light of the risks, expenses and difficulties frequently encountered by
companies in their early stage of development, particularly companies in rapidly
evolving markets. To address these risks, the Company must respond to
competitive developments, continue to attract, retain and motivate qualified
persons and successfully commercialize products incorporating advanced
technologies. There can be no assurance that the Company will be successful in
addressing such risks. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and "Business."
DEPENDENCE UPON BALLOON DISSECTION PRODUCTS; RISK OF TECHNOLOGICAL
OBSOLESCENCE. All of the Company's sales since inception have been derived from
sales of its balloon dissection products, with a substantial portion derived
from sales for hernia repair procedures. Failure of the Company to develop
successfully and commercialize balloon dissection products for applications
other than hernia repair could have a material adverse effect on the Company's
business, financial condition and results of operations. The success of the
Company's products depends on the nature of the technological advances inherent
in the product designs, reductions in patient trauma or other benefits provided
by such products, results of marketing-related clinical evaluations, continued
adoption of MIS procedures by surgeons, market acceptance of the Company's
products and related procedures, reimbursement for the Company's products by
health care payors and the Company's receipt of regulatory approvals. There can
be no assurance that the Company's products will have the required technical
characteristics, that the Company's products will provide adequate patient
benefits, that marketing-related clinical evaluations results will be favorable,
that surgeons will continue to adopt MIS procedures, that recently introduced
products or future products of the Company or related procedures will gain
market acceptance, or that required regulatory approvals will be obtained. The
failure to achieve any of the foregoing could have a material adverse effect on
the Company's business, financial condition and results of operations. To the
extent demand for the Company's balloon dissection systems for hernia repair
declines and the Company's newly-introduced products are not commercially
accepted or its existing products are not developed for new procedures, there
could be a material adverse effect on the Company's business, financial
condition and results of operations. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations."
DEPENDENCE ON KEY DISTRIBUTOR. In March 1994, the Company entered into a
distribution agreement with United States Surgical Corporation ("USSC"), a large
manufacturer and distributor of medical devices. Pursuant to this agreement USSC
has rights, which are co-exclusive with the rights of GSI, to distribute the
Spacemaker I product for hernia repair and, to the extent permitted by the
Company's initial 510(k) clearance for the Spacemaker I product, other
applications. USSC's distribution rights are limited to only those products that
are or could be covered by the Company's initial 510(k) clearance. From time to
time, the Company and USSC have had disagreements regarding the extent of USSC's
rights under the distribution agreement to distribute new products developed by
the Company after the date of such agreement. In addition, under the
distribution agreement, USSC is obligated to purchase minimum
33
<PAGE>
quantities of the Company's products. USSC historically has purchased
substantially more product than is required under this agreement. In fiscal 1995
and 1996, sales to USSC, which include sales to Autosuture, Inc., a subsidiary
of USSC, represented approximately 75% and 92%, respectively, of the Company's
net sales. The Company's sales to USSC have fluctuated significantly in the
past, and the Company anticipates that such sales could fluctuate in the future.
For example, purchases by USSC declined substantially in the quarter ended
September 30, 1995, and then increased substantially in the subsequent quarter
ended December 31, 1995. As a result, there can be no assurance that USSC will
continue to purchase the Company's products in amounts equal to past levels or
that USSC will purchase the minimum quantities required under the agreement. The
distribution agreement with USSC expires in March 1997, and there can be no
assurance that such agreement will be renewed on the same or similar terms or at
all. USSC could also elect to sell competitive products, rather than those of
the Company, which could result in a decline of the Company's sales. A
significant reduction in orders from USSC or a failure to renew the agreement
with USSC could have a material adverse effect on the Company's business,
financial condition and results of operations. In June 1996, the Company signed
an agreement with Ethicon Endo-Surgery, Inc. ("EES") under which the Company can
manufacture ESS balloon dissectors for ESS, and ESS has the right to market its
balloon tissue dissection system in the laparoscopic hernia repair market. The
parties expect to jointly develop and market a dissector for SUI repair in early
calendar 1997. No manufacture or distribution of products has occurred to date
pursuant to the EES Agreement, and there can be no assurance that efforts to do
so will be successful. Although the Company intends to establish additional
distributorships in the United States for products in areas other than hernia
repair, there can be no assurance that such efforts will be successful. Failure
to diversify its distribution network in the United States could have a material
adverse effect on the Company's business, financial condition and results of
operations.
To date, substantially all of the Company's international sales for hernia
repair procedures have been made through Autosuture under the same terms and
conditions as the Company's agreement with USSC. Although the Company may in the
future seek to diversify its international distribution network, there can be no
assurance that such efforts will be successful. Failure to diversify its
international distribution network or failure to maintain or renew its
relationship with Autosuture could have a material adverse effect on the
Company's business, financial condition and results of operations.
34
<PAGE>
LIMITED MARKETING AND DIRECT SALES EXPERIENCE. The Company has only limited
experience marketing and selling its products through its direct sales force,
and has sold its products in commercial quantities through its direct sales
force only to the hernia market and, to a lesser degree, to the cosmetic and
reconstructive surgery market. Establishing marketing and sales capability
sufficient to support sales in commercial quantities for the other markets
targeted by the Company, including additional hernia, vascular, urology,
obstetrics, gynecology and orthopedic surgery markets, will require significant
resources, and there can be no assurance that the Company will be able to
recruit and retain additional qualified marketing personnel, or direct sales
personnel or that future sales efforts of the Company will be successful. In
markets where there is a large potential customer base, the Company intends to
establish partnership relationships with additional distribution partners. The
Company has no significant relationships other than with USSC and Ethicon
Endo-Surgery, Inc. and there can be no assurance that the Company will be
successful in establishing such partnership relationships on commercially
reasonable terms, if at all. The failure to establish and maintain an effective
distribution channel for the Company's products, or establish and retain
qualified and effective sales personnel to support commercial sales of the
Company's products, could have a material adverse effect on the Company's
business, financial condition and results of operations. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations," and
"Business--Marketing, Sales and Distribution."
UNCERTAINTY OF MARKET ACCEPTANCE; NO ASSURANCE OF CLINICAL ADVANTAGE. The
Company's success is substantially dependent upon the success of its Spacemaker
balloon dissection products. The Company believes that market acceptance of the
Company's products will depend on the Company's ability to provide evidence to
the medical community of the safety, efficacy and cost-effectiveness of its
products and the procedures in which these products are intended to be used.
Market acceptance is also dependent on the adoption of laparoscopic techniques
generally and the conversion of non-balloon dissection techniques to balloon
dissection techniques specifically. To date, the Company's products have only
been used to treat a limited number of patients and the Company has limited
long-term outcomes data. If the Company is not able to demonstrate consistent
clinical benefits resulting from the use of its products (including reduced
procedure time, reduced patient trauma and lower costs), the Company's business,
financial condition and results of operations could be materially and adversely
affected.
The Company further believes that the ability of health care providers to
obtain adequate reimbursement for procedures using the Company's Spacemaker
balloon dissector products and related instruments will be critical to market
acceptance of the Company's products. Although the Company believes that
procedures using its balloon dissection products currently may be reimbursed in
the United States under certain existing procedure codes, there can be no
assurance that such procedure codes will remain available or that reimbursement
under these codes will be adequate. The Company has limited experience in
obtaining third-party reimbursement, and the inability to obtain reimbursement
for some or all of its products could have a material adverse effect on the
Company's business, financial condition and results of operations. See
"Business--Third-Party Reimbursement."
The Company introduced its balloon dissectors in late 1993 and to date there
has been relatively little education among surgeons about the benefits of
balloon dissection technology. Furthermore, because of the novelty of balloon
dissection procedures, many surgeons and surgeons' assistants have not developed
the requisite skills to perform balloon dissection procedures. To the extent
that laparoscopic techniques are adopted slowly, that balloon dissectors are
incorporated into laparoscopic techniques less often or that surgeons are
unwilling or unable to develop the skills necessary to utilize balloon
dissectors, the Company's business, financial condition and results of
operations could be materially adversely affected. See "Business--Marketing,
Sales and Distribution."
FLUCTUATIONS IN QUARTERLY RESULTS. Results of the Company's operations may
fluctuate significantly from quarter to quarter and will depend on (i) new
product introductions by the Company and its competitors and the resulting
product transitions, (ii) purchases of the Company's products by USSC, (iii) the
status of the Company's relationship with USSC, (iv) the rate of adoption by
surgeons of balloon
35
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dissection technology in markets targeted by the Company, (v) the sales efforts
of the Company's distributors, (vi) the mix of sales among distributors and the
Company's direct sales force, (vii) timing of patent and regulatory approvals,
(viii) timing of operating expenditures, (ix) the Company's ability to
manufacture its products efficiently, (x) timing of research and development
expenses, including marketing-related clinical evaluation expenditures, (xi)
intellectual property litigation and (xii) general market conditions. The
Company's sales in any period are highly dependent upon the marketing efforts
and success of USSC, which are not within the control of the Company. The
Company's sales to USSC have fluctuated significantly in the past, and the
Company anticipates that such sales could fluctuate in the future. For example,
purchases by USSC declined substantially in the quarter ended September 30,
1995, and then increased substantially in the subsequent quarter ended December
31, 1995. Accordingly, any decline in purchases by USSC could result in a
decline in sales and adversely affect the Company's operating results. The
Company also recently entered into a license and distribution agreement with
Ethicon Endo-Surgery, Inc. ("EES") under which the Company can manufacture
balloon dissectors for EES and EES has the right to market its balloon
dissection system in the laparoscopic hernia repair market. The parties expect
to jointly develop and market a dissector for SUI repair in early calendar 1997.
No manufacture or distribution of products has occured to date pursuant to the
EES Agreement, and there can be no assurance that efforts to do so will be
effective. In addition, announcements or expected announcements by the Company,
its competitors or its distributors of new products, new technologies or pricing
changes could cause existing or potential customers of the Company to defer
purchases of the Company's existing products and could alter the mix of products
sold by the Company, which could have a material adverse effect on the Company's
business, financial condition and results of operations. There can be no
assurance that future products or product enhancements will be successfully
introduced or that such introductions will not adversely affect the demand for
existing products. As a result of these and other factors, the Company's
quarterly operating results have fluctuated in the past, and the Company expects
that such results may fluctuate in the future. Due to such quarterly
fluctuations in operating results, quarter-to-quarter comparisons of the
Company's operating results are not necessarily meaningful and should not be
relied upon as indicators of likely future performance or annual operating
results. In addition, the Company's limited operating history makes accurate
prediction of future operating results difficult or impossible to make. There
can be no assurance that in the future the Company will achieve sales growth or
become profitable on a quarterly or annual basis or that its growth will be
consistent with predictions by securities analysts and investors. In such event,
the price of the Company's Common Stock would likely be materially and adversely
affected. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
RELIANCE ON PATENTS AND PROPRIETARY TECHNOLOGY. The Company's success will
depend on its ability to obtain patent protection for its products and
processes, to preserve its trade secrets and proprietary technology and to
operate without infringing upon the patents or proprietary rights of third
parties. As of June 30, 1996, GSI had 16 United States patents issued, and had
applied for an additional 45 United States patents, four of which had been
allowed. In addition, GSI had two foreign patents issued, and 17 still in
prosecution as of such date. In May 1996, the Company was issued a United States
patent that contains claims regarding the use of balloons to dissect tissue
planes anywhere in the body.
In May 1996, the Guidant Corporation unit of Origin MedSystems, Inc. filed
an action against GSI in the U.S. District Court for the Northern District of
California, alleging patent infringement of its patent entitled "Apparatus and
Method for Peritoneal Retraction". GSI subsequently filed an action against
Origin Medsystems, Inc. in the U.S. District Court for the Northern District of
California alleging patent infringement of its patent for a method of tissue
plane dissection using balloon systems. A decision against the Company in either
of these actions could have a material adverse effect on the Company's business,
financial condition or results of operations. The validity and breadth of claims
in medical technology patents involve complex legal and factual questions and,
therefore, may be highly uncertain. No assurance can be given that any patents
based on pending patent applications or any future patent applications will be
issued, that the scope of any patent protection will exclude competitors or
provide competitive
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advantages to the Company, that any of the Company's patents or patents to which
it has licensed rights will be held valid if subsequently challenged or that
others will not claim rights in or ownership of the patents and other
proprietary rights held or licensed by the Company or that the Company's
existing patents will cover the Company's future products. Furthermore, there
can be no assurance that others have not developed or will not develop similar
products, duplicate any of the Company's products or design around any patents
issued to or licensed by the Company or that may be issued in the future to the
Company. Since patent applications in the United States are maintained in
secrecy until patents issue, the Company also cannot be certain that others did
not first file applications for inventions covered by the Company's pending
patent applications, nor can the Company be certain that it will not infringe
any patents that may issue to others on such applications.
One of the patent applications filed by the Company, which is directed to a
surgical method using balloon dissection technology, has been placed in
interference with a patent application filed by Origin Medsystems, Inc.
("Origin"), a competitor of the Company. The Company believes that the inventor
named in its patent application was the first to invent this subject matter, and
has asserted that the Origin patent application was filed after a disclosure
made by such inventor to employees of Origin. Origin takes a contrary position.
This interference is presently pending in the United States Patent and Trademark
Office ("USPTO") and, as permitted by the rules of the USPTO, has been referred
to an arbitrator for completion of the interference proceeding. A decision is
not expected in this interference proceeding until 1997. Failure of the Company
to prevail in such interference proceeding could have a material adverse effect
on the Company's business, financial condition and results of operations.
Patent interference or infringement involves complex legal and factual
issues and is highly uncertain, and there can be no assurance that any
conclusion reached by the Company regarding patent interference or infringement
will be consistent with the resolution of such issue by a court. In the event
the Company's products are found to infringe patents held by competitors, there
can be no assurance that the Company will be able to modify successfully its
products to avoid infringement, or that any modified products will be
commercially successful. Failure in such event to either develop a commercially
successful alternative or obtain a license to such patent on commercially
reasonable terms could have a material adverse effect on the Company's business,
financial condition and results of operations. In any event, there can be no
assurance that the Company will not be required to defend itself in court
against allegations of infringement of third-party patents. Patent litigation is
expensive, requires extensive management time, and could subject the Company to
significant liabilities, require disputed rights to be licensed from third
parties or require the Company to cease selling its products.
Legislation is pending in Congress that, if enacted in its present form,
would limit the ability of medical device manufacturers in the future to obtain
patents on surgical and medical procedures that are not performed by, or as a
part of, devices or compositions which are themselves patentable. While the
Company cannot predict whether the legislation will be enacted, or precisely
what limitations will result from the law if enacted, any limitation or
reduction in the patentability of medical and surgical methods and procedures
could have a material adverse effect on the Company's ability to protect its
proprietary methods and procedures. In addition, the patent laws of European and
certain other foreign countries generally do not allow for the issuance of
patents for methods of surgery on the human body. Accordingly, the ability of
the Company to gain patent protection for its methods of tissue dissection will
be significantly limited. As a result, there can be no assurance that the
Company will be able to develop a patent portfolio in Europe or that the scope
of any patent protection will provide competitive advantages to the Company. See
"Business--Patents and Proprietary Rights."
ROYALTY PAYMENT OBLIGATIONS. The Company has acquired a significant number
of patent rights from third parties, including rights that apply to the
Company's current balloon dissection systems. The Company has historically paid
and is obligated to pay in the future to such third parties royalties equal to
4% of sales of such products, which payments are expected to exceed minimum
royalty payments due under agreements with such parties. The Company also has
acquired patent rights under royalty-bearing
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agreements with respect to certain surgical instruments, including the KnotMaker
product and the balloon valve trocar currently under development. The payment of
such royalty amounts will have an adverse impact on the Company's gross profit
and other results of operations. There can be no assurance that the Company will
be able to continue to satisfy such royalty payment obligations in the future,
and a failure to do so could have a material adverse effect on the Company's
business, financial condition and results of operations.
EARLY STAGE OF DEVELOPMENT AND COMMERCIALIZATION; NO ASSURANCE OF ABILITY TO
MANAGE GROWTH. The Company began commercial sales of its balloon dissection
products in September 1993 and, as a result, has limited experience in
manufacturing, marketing and selling its products commercially. The Company has
recently experienced rapid growth in its facilities and the number of its
employees, the number of products under development, the number and amount of
products manufactured and sold, and the geographic scope of its sales. In order
to support increased levels of sales in the future and to augment its long-term
competitive position, the Company anticipates that it will be required to make
significant additional expenditures in manufacturing, research and development,
sales and marketing, and administration. The Company's acquisition of Adjacent
Surgical, Inc. in February 1996 has resulted in additional demands on the
Company's limited management resources. The Company's inability to manage its
growth effectively could have a material adverse effect on the Company's
business, financial condition and results of operations.
COMPETITION; UNCERTAINTY OF TECHNOLOGICAL CHANGE. Competition in the market
for medical devices used in tissue dissection surgical procedures is intense and
is expected to increase. The Company competes primarily with other producers of
MIS tissue dissection instruments. Origin, a subsidiary of Guidant Corporation,
and others, currently compete against the Company in the development, production
and marketing of MIS tissue dissection instruments and tissue dissection
technology. To the extent that surgeons elect to use open surgical procedures
rather than MIS, the Company also competes with producers of tissue dissection
instruments used in open surgical procedures, such as blunt dissectors or
graspers. A number of companies currently compete against the Company in the
development, production and marketing of tissue dissection instruments and
technology for open surgical procedures. In addition, the Company indirectly
competes with producers of therapeutic drugs, when such drugs are used as an
alternative to surgery. Many of the Company's competitors have substantially
greater capital resources, name recognition, expertise in research and
development, manufacturing and marketing and obtaining regulatory approvals.
There can be no assurance that the Company's competitors will not succeed in
developing balloon dissectors or competing technologies that are more effective
than products marketed by the Company or that render the Company's technology
obsolete. Additionally, even if the Company's products provide performance
comparable to competing products or procedures, there can be no assurance that
the Company will be able to obtain necessary regulatory approvals or compete
against competitors in terms of price, manufacturing, marketing and sales.
Many of the alternative treatments for medical indications that can be
treated by balloon dissection products and laparoscopic surgery are widely
accepted in the medical community and have a long history of use. In addition,
technological advances with other therapies could make such other therapies more
effective or cost-effective than balloon dissectors and minimally invasive
surgery, and could render the Company's technology non-competitive or obsolete.
There can be no assurance that surgeons will use MIS to replace or supplement
established treatments or that MIS will remain competitive with current or
future treatments. The failure of surgeons to adopt MIS could have a material
adverse effect on the Company's business, financial condition and results of
operations.
In addition to the Company's focus on the development of its balloon
dissection systems, the Company has also developed surgical instruments for use
in MIS. There can be no assurance that the Company's surgical instruments will
successfully compete with those manufactured by other producers of
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such surgical instruments. The failure to achieve commercial market acceptance
of such surgical instruments could have a material adverse effect on the
Company's business, financial condition and results of operations. See
"Business--Competition."
UNCERTAIN AVAILABILITY OF THIRD-PARTY REIMBURSEMENT. The Company's success
will depend upon the ability of surgeons to obtain satisfactory reimbursement
from healthcare payors for the Company's products. In the United States,
hospitals, physicians and other healthcare providers that purchase medical
devices generally rely on third-party payors, such as private health insurance
plans, to reimburse all or part of the costs associated with the treatment of
patients. Reimbursement in the United States for the Company's balloon
dissection products is currently available from most third-party payors,
including most major private health care insurance plans and Medicaid, under
existing surgical procedure codes. The Company does not expect that third-party
reimbursement in the United States will be available for use of its other
products unless and until clearance or approval is received from the federal
Food and Drug Administration (the "FDA"). If FDA clearance or approval is
received, third-party reimbursement for these products will depend upon
decisions by individual health maintenance organizations, private insurers and
other payors. Many payors, including the federal Medicare program, pay a preset
amount for the surgical facility component of a surgical procedure. This amount
typically includes medical devices such as the Company's. Thus, the surgical
facility or surgeon may not recover the added cost of the Company's products. In
addition, managed care payors often limit coverage to surgical devices on a
preapproved list or obtained from an exclusive source. If the Company's products
are not on the list or are not available from the exclusive source, the facility
or surgeon will need to obtain an exception from the payor or the patient will
be required to pay for some or all of the cost of the Company's product. The
Company believes that procedures using its balloon dissection products currently
may be reimbursed in the United States under certain existing procedure codes.
However, there can be no assurance that such procedure codes will remain
available or that the reimbursement under these codes will be adequate. Given
the efforts to control and decrease health care costs in recent years, there can
be no assurance that any reimbursement will be sufficient to permit the Company
to increase revenues or achieve or maintain profitability. The unavailability of
third-party or other adequate reimbursement could have a material adverse effect
on the Company's business, financial condition and results of operations.
Reimbursement systems in international markets vary significantly by
country, and by region within some countries, and reimbursement approvals must
be obtained on a country-by-country basis. Many international markets have
government-managed health care systems that govern reimbursement for new devices
and procedures. In most markets, there are private insurance systems as well as
government-managed systems. Large-scale market acceptance of the Company's
balloon dissection systems and other products will depend on the availability
and level of reimbursement in international markets targeted by the Company.
Currently, the Company has been informed by its international distributors that
the balloon dissectors have been approved for reimbursement in many of the
countries in which the Company markets its products. Obtaining reimbursement
approvals can require 12 to 18 months or longer. There can be no assurance that
the Company will obtain reimbursement in any country within a particular time,
for a particular amount, or at all. Failure to obtain such approvals could have
a material adverse effect on the Company's business, financial condition and
results of operations.
Regardless of the type of reimbursement system, the Company believes that
surgeon advocacy of its products will be required to obtain reimbursement.
Availability of reimbursement will depend on the clinical efficacy of the
procedure and the utility and cost of the Company's products. There can be no
assurance that reimbursement for the Company's products will be available in the
United States or in international markets under either government or private
reimbursement systems, or that surgeons will support and advocate reimbursement
for use of the Company's systems for all applications intended by the Company.
Failure by surgeons, hospitals and other users of the Company's products to
obtain sufficient reimbursement from health care payors or adverse changes in
government and private third-party payors' policies toward reimbursement for
procedures employing the Company's products could have a material
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adverse effect on the Company's business, financial condition and results of
operations. See "Business-- Third-Party Reimbursement."
GOVERNMENT REGULATION. The Company's Spacemaker balloon dissection systems
and other products are subject to extensive and rigorous regulation by the FDA
and, to varying degrees, by state and foreign regulatory agencies. Under the
federal Food, Drug, and Cosmetic Act, the FDA regulates the clinical testing,
manufacture, labeling, packaging, marketing, distribution and record keeping for
medical devices, in order to ensure that medical devices distributed in the
United States are safe and effective for their intended use. Prior to
commercialization, a medical device generally must receive FDA and foreign
regulatory clearance or approval, which can be an expensive, lengthy and
uncertain process. The Company is also subject to routine inspection by the FDA
and state agencies, such as the California Department of Health Services
("CDHS"), for compliance with Good Manufacturing Practice requirements, Medical
Device Reporting requirements and other applicable regulations. Noncompliance
with applicable requirements can result in warning letters, import detentions,
fines, civil penalties, injunctions, suspensions or losses of regulatory
approvals, recall or seizure of products, operating restrictions, refusal of the
government to approve product export applications or allow the Company to enter
into supply contracts, and criminal prosecution. Delays in receipt of, or
failure to obtain, regulatory clearances and approvals, if obtained, or any
failure to comply with regulatory requirements could have a material adverse
effect on the Company's business, financial condition and results of operations.
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 Spacemaker I platform, Spacemaker II platform, Spacemaker
Resposable platform, and KnotMaker product each have received 510(k) clearance
for use during general, endoscopic, laparoscopic or cosmetic and reconstructive
surgery, either when tissue dissection is required or, with respect to the
KnotMaker product, when a surgical knot for suturing is required. The Company
has promoted these products for surgical applications (e.g., hernia repair,
subfascial endoscopic perforator surgery and breast augmentation and
reconstruction), and may in the future promote these products for the dissection
or knotmaking required for additional selected applications (e.g., treatment of
stress urinary incontinence, saphenous vein harvesting and a variety of
orthopedic procedures such as anterior spinal fusion). For any medical device
cleared through the 510(k) process, modifications or enhancements that could
significantly affect the safety or effectiveness of the device or that
constitute a major change to the intended use of the device will require a new
510(k) submission. The Company has made modifications to its products which the
Company believes do not affect the safety or effectiveness of the device or
constitute a major change to the intended use and therefore do not require the
submission of new 510(k) notices. There can be no assurance, however, that the
FDA will agree with any of the Company's determinations not to submit a new
510(k) notice for any of these changes or will not require the Company to submit
a new 510(k) notice for any of the changes made to the product. If such
additional 510(k) clearances are required, there can be no assurance that the
Company will obtain them on a timely basis, if at all, and delays in receipt of
or failure to receive such approvals could have a material adverse effect on the
Company's business, financial condition and results of operations. If the FDA
requires the Company to submit a new 510(k) notice for any product modification,
the Company may be prohibited from marketing the modified product until the
510(k) notice is cleared by the FDA. The Company plans to file a 510(k)
submission for its specialized trocar with a balloon valve, which provides a
seal to maintain insufflation of the surgical space during MIS. There can be no
assurance that the FDA will grant 510(k) clearance for the Company's specialized
trocar on a timely basis, if at all.
Sales of medical devices outside of the United States are subject to foreign
regulatory requirements that vary widely from country to country. The Company
currently relies on its international distributors for the receipt of premarket
approvals and compliance with clinical trial requirements in those countries
that require them, and it expects to continue to rely on distributors in those
countries where the Company continues to use distributors. In the event that the
Company's international distributors fail to obtain or
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maintain premarket approvals or compliance in foreign countries where such
approvals or compliance are required, the Company may be required to cause the
applicable distributor to file revised governmental notifications, cease
commercial sales of its products in the applicable countries or otherwise act so
as to stop any ongoing noncompliance in such countries. Any enforcement action
by regulatory authorities with respect to past or any future regulatory
noncompliance could have a material adverse effect on the Company's business,
financial condition and results of operations.
In order to continue selling its products within the European Economic Area
following June 14, 1998, the Company will be required to achieve compliance with
the requirements of the Medical Devices Directive (the "MDD") and to affix CE
marking on its products to attest such compliance. Failure by the Company to
comply with CE marking requirements by June 1998 would mean that the Company
would be unable to sell its products in the European Economic Area unless and
until compliance was achieved, which could have a material adverse effect upon
the Company's business, financial condition and results of operations. See
"Business--Government Regulation."
LIMITED MANUFACTURING EXPERIENCE; UNCERTAINTY REGARDING FUTURE
FACILITIES. The Company has only limited experience in manufacturing its
products in commercial quantities. The Company intends to scale up its
production of new products and to increase its manufacturing capacity for
existing and new products. However, manufacturers often encounter difficulties
in scaling up production of new products, including problems involving
production yields, quality control and assurance, component supply and shortages
of qualified personnel. Difficulties experienced by the Company in manufacturing
scale-up and manufacturing difficulties could have a material adverse effect on
its business, financial condition and results of operations. There can be no
assurance that the Company will be successful in scaling up or that it will not
experience manufacturing difficulties or product recalls in the future.
The Company occupies a single facility in Palo Alto, California that houses
its headquarters, administrative offices, research laboratories and
manufacturing facilities. This facility is subject to a lease that expires in
March 1998. While the Company believes that this space is adequate for its
immediate needs, GSI will need to obtain additional office, development and
manufacturing space to accommodate expected business growth during 1997 and the
first calendar quarter of 1998. There can be no assurance that the Company will
be able to obtain such additional facilities on commercially reasonable terms,
or at all. If the Company is able to lease such additional space, there can be
no assurance that the Company will be able to establish and certify adequate
manufacturing capacity in a timely manner, or at all, in such space. Failure to
obtain additional space or establish and certify adequate manufacturing capacity
in a timely manner could have a material adverse effect on the Company's
business, financial condition and results of operations. See
"Business--Manufacturing."
DEPENDENCE ON SINGLE SOURCE SUPPLIERS; LACK OF CONTRACTUAL
ARRANGEMENTS. The Company currently relies upon single source suppliers for
several components of its balloon dissection products, and in most cases there
are no formal supply contracts. There can be no assurance that the component
materials obtained from single source suppliers will continue to be available in
adequate quantities or, if required, that the Company will be able to locate
alternative sources of such component materials on a timely basis to market its
products. In addition, there can be no assurance that the single source
suppliers will meet the Company's future requirements for timely delivery of
products of sufficient quality and quantity. The failure to obtain sufficient
quantities and qualities of such component materials, or the loss of any of the
Company's single source suppliers, could cause a delay in GSI's ability to
fulfill orders while it identifies and certifies a replacement supplier, and
could have a material adverse effect on the Company's business, financial
condition and results of operations. See "Business--Manufacturing."
PRODUCT LIABILITY RISK AND PRODUCT RECALL; LIMITED INSURANCE COVERAGE. The
Company's business exposes it to potential product liability risks or product
recalls that are inherent in the design, development, manufacture and marketing
of medical devices, in the event the use of the Company's products is alleged to
have caused adverse effects on a patient or such products are believed to be
defective. The
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Company's products are designed to be used in certain procedures where there is
a high risk of serious injury or death. Such risks will exist even with respect
to those products that have received, or may in the future receive, regulatory
clearance for commercial sale. As a result, there can be no assurance that the
Company's product liability insurance is adequate or that such insurance
coverage will continue to be available on commercially reasonable terms or at
all. Particularly given the lack of data regarding the long-term results of the
use of balloon dissection products, there can be no assurance the Company will
avoid significant product liability claims. Consequently, a product liability
claim or other claim with respect to uninsured or underinsured liabilities could
have a material adverse effect on the Company's business, financial condition
and results of operations. See "Business--Product Liability and Insurance."
RISKS ASSOCIATED WITH INTERNATIONAL SALES. Sales outside of the United
States accounted for approximately 3% and 4% of the Company's sales in fiscal
1995 and 1996, respectively, and the Company expects that international sales
will represent an increasing portion of revenue in the future. The Company
intends to continue to expand its sales outside of the United States and to
enter additional international markets, which will require significant
management attention and financial resources and subject the Company further to
the risks of selling internationally. These risks include unexpected changes in
regulatory requirements, tariffs and other barriers and restrictions, reduced
protection for intellectual property rights, and the burdens of complying with a
variety of foreign laws. In addition, because all of the Company's sales are
denominated in U.S. dollars, fluctuations in the U.S. dollar could increase the
price in local currencies of the Company's products in foreign markets and make
the Company's products relatively more expensive than competitors' products that
are denominated in local currencies. There can be no assurance that regulatory,
currency and other factors will not adversely impact the Company's operations in
the future or require the Company to modify its current business practices. See
"Business--Marketing, Sales and Distribution."
DEPENDENCE ON MANAGEMENT AND OTHER KEY PERSONNEL. The Company is dependent
upon a limited number of key management and technical personnel. The loss of the
services of one or more of such key employees could have a material adverse
effect on the Company's business, financial condition, and results of
operations. In addition, the Company's success will be dependent upon its
ability to attract and retain additional highly qualified sales, management,
manufacturing and research and development personnel. The Company faces intense
competition in its recruiting activities and there can be no assurance that the
Company will be able to attract and/or retain qualified personnel.
POTENTIAL VOLATILITY OF STOCK PRICE. Prior to the Company's initial public
offering in May 1996, there was no public market for the Common Stock and there
can be no assurance that an active public market for the Common Stock will be
sustained. The initial public offering price was determined through negotiations
between the Company and the Underwriters. In addition, the securities markets
have from time to time experienced significant price and volume fluctuations
that are unrelated to the operating performance of particular companies. The
market prices of the common stock of many publicly held medical device companies
have in the past been, and can in the future be expected to be, especially
volatile. Announcements of technological innovations or new products by the
Company or its competitors, clinical marketing trial results, release of reports
by securities analysts, developments or disputes concerning patents or
proprietary rights, regulatory developments, changes in regulatory or medical
reimbursement policies, economic and other external factors, as well as
period-to-period fluctuations in the Company's financial results, may have a
significant impact on the market price of the Common Stock.
RECENT PRONOUNCEMENTS
In March 1995, the Financial Accounting Standards Board issued Statement No.
121 ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS
TO BE DISPOSED OF (SFAS No. 121) which requires the Company to review for
impairment long-lived assets and intangibles whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. In certain
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situations, an impairment loss would be recognized. SFAS 121 will become
effective for the Company's 1997 fiscal year. The Company has studied the
implications of the statement, and based on its initial evaluation, does not
expect it to have a material impact on the Company's financial condition or
results of operations.
In October 1995, the Financial Accounting Standards Board issued Statement
No. 123 ACCOUNTING FOR STOCK-BASED COMPENSATION (SFAS No. 123), which
establishes a fair value based method of accounting for stock-based compensation
plans and requires additional disclosures for those companies that elect not to
adopt the new method of accounting. While the Company studies the impact of the
pronouncement, it continues to account for employees' stock options under APB
Opinion No. 25, Accounting for Stock Issued to Employees. SFAS No. 123 will be
effective for the Company's 1997 fiscal year.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's Consolidated Financial Statements as of June 30, 1996 and 1995
and for each of the three years in the period ended June 30, 1996 are included
in this Form 10-K starting at page 50.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding Registrant's directors will be set forth under the
caption "Election of Directors-Nominees" in Registrant's proxy statement for use
in connection with the Annual Meeting of Shareholders to be held November 19,
1996, (the "1996 Proxy Statement") and is incorporated herein by reference. The
1996 Proxy Statement will be filed with the Securities and Exchange Commission
within 120 days after the end of the Registrant's fiscal year.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item is incorporated by reference into this
Form 10-K from the information set forth under the caption "Compensation of
Executive Officers" in the Company's 1996 Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item is incorporated by reference into this
Form 10-K from the information set forth under the caption "Common Stock
Ownership of Certain Beneficial Owners and Management" in the Company's 1996
Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this item is incorporated by reference into this
Form 10-K from the information set forth under the caption "Certain
Relationships and Related Transactions" in the Company's 1996 Proxy Statement.
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PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
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(a) (1) Consolidated Financial Statements:.............................................................
Report of Independent Accountants.............................................................. 48
Consolidated Balance Sheets.................................................................... 49
Consolidated Statements of Operations.......................................................... 50
Consolidated Statements of Shareholders' Equity (Deficit)...................................... 51
Consolidated Statements of Cash Flows.......................................................... 52
Notes to Consolidated Financial Statements..................................................... 53
(2) Financial Statement Schedules:.................................................................
Independent Accountants' Report on Schedule.................................................... S-1
II-Valuation and Qualifying Accounts........................................................... S-2
All other schedules are omitted because they are not applicable or the required information is shown in
the consolidated financial statements or notes thereto.
(3) Exhibits included herein (numbered in accordance with Item 601 of Regulation S-K):.............
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EXHIBIT
NUMBER DESCRIPTION
- ---------- --------------------------------------------------------------------------------------------------------
<C> <S>
3.2 Amended and Restated Articles of Incorporation of Registrant. (1)
3.4 By-laws of Registrant, as amended. (1)
10.1 Form of Indemnification Agreement. (1)
10.2 1992 Stock Option Plan and form of Agreement. (1)
10.3 1996 Employee Stock Purchase Plan and form of Subscription Agreement. (1)
10.4 1995 Directors' Stock Option Plan and form of Option Agreement. (1)
10.5 Third Amended and Restated Registration Rights Agreement among the Company and certain security holders
of the Company dated as of March 21, 1996. (1)
10.6 Commercial Security Agreement and Promissory Note dated as of December 15, 1994 between Silicon Valley
Bank and the Company. (1)
10.7 Sublease dated July 13, 1994, Sublease Amendment dated November 4, 1995 and Sublease Second Amendment
dated March 15, 1996 between the Company and CV Therapeutics, Inc. (1)
10.8 Agreement and Plan of Reorganization dated as of October 1, 1995, by and among the Company, General
Surgical Acquisition Corporation and Adjacent Surgical, Inc. (1)(2)
10.9 Merger Agreement dated February 12, 1996 by and among Adjacent Surgical, Inc., Thomas J. Fogarty,
Fogarty Engineering and the Company. (1)
10.10 Exclusive License Agreement dated as of February 12, 1996 by and among Adjacent Surgical, Inc., Thomas
J. Fogarty, Fogarty Engineering and the Company. (1)(2)
10.11 Assignment Agreement dated as of March 9, 1995 between Apogee Medical Products, Inc., and the Company.
(1)(2)
10.12 Hernia Repair Device Agreement dated as of April 29, 1992 by and among Maciej Kieturakis, Thomas J.
Fogarty and the Registrant, as amended on April 18, 1995. (1)(2)
10.13 Distributorship Agreement dated as of March 9, 1994 between the Registrant and United States Surgical
Corporation, as amended on March 25, 1994 and August 2, 1994. (1)(2)
10.14 Professional Services Agreement dated June 16, 1992 between the Company and Thomas J. Fogarty. (1)
</TABLE>
44
<PAGE>
<TABLE>
<CAPTION>
EXHIBIT
NUMBER DESCRIPTION
- ---------- --------------------------------------------------------------------------------------------------------
<C> <S>
10.15 Professional Services Agreement dated June 16, 1992 between the Company and Mark A. Wan. (1)
10.16 Bill of Sale and Instrument of Assignment and Grantback License Agreement dated June 16, 1992 between
the Company and Thomas J. Fogarty. (1)
10.17 Bill of Sale and Instrument of Assignment dated June 16, 1992, between the Company and Mark Wan. (1)
10.18 Loan Modification Agreement dated as of March 25, 1996, by and between the Company and Silicon Valley
Bank. (1)
+10.19 Agreement dated as of June 28, 1996 between Ethicon Endo-Surgery, Inc. and the Company. (3)
11.1 Computation of Net Loss Per Share. (3)
24.1 Power of Attorney (see page 32). (3)
</TABLE>
(b) Reports on Form 8-K: None.
- ------------------------
(1) Incorporated by reference to identically numbered exhibits filed in response
to Item 16(a), "Exhibits," of the Registrant's Registration Statement on
Form S-1 and Amendments thereto (File No. 333-2774), which became effective
on May 9, 1996.
(2) Confidential treatment granted by order effective May 9, 1996.
(3) Filed herewith.
+ Confidential Treatment requested as to a portion of this Exhibit.
45
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Report to be signed on
its behalf by the undersigned, thereunto duly authorized.
GENERAL SURGICAL INNOVATIONS, INC
By: /s/ RODERICK A. YOUNG
-----------------------------------------
Roderick A. Young
PRESIDENT AND CHIEF EXECUTIVE OFFICER
Date: September 29, 1996
46
<PAGE>
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints Roderick A. Young and Stephen J. Bonelli, his
attorneys-in-fact, each with the power of substitution, for him in any and all
capacities, to sign any amendments to this Report on Form 10-K, and to file the
same, with exhibits thereto and other documents in connection therewith with the
Securities and Exchange Commission, hereby ratifying and confirming all that
each of said attorneys-in-fact, or his substitute or substitutes may do or cause
to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
Report has been signed below by the following persons in the capacities and on
the dates indicated.
SIGNATURE TITLE DATE
- ------------------------------ -------------------------- -------------------
/s/ RODERICK A. YOUNG
- ------------------------------ President, Chief Executive September 29, 1996
(Roderick A. Young) Officer and Director
/s/ STEPHEN J. BONELLI Vice President of Finance
- ------------------------------ (Principal Financial and September 29, 1996
(Stephen J. Bonelli) Accounting Officer)
/s/ THOMAS A. FOGARTY
- ------------------------------ Chairman of the Board of September 29, 1996
(Thomas A. Fogarty) Directors
/s/ DAVID W. CHONETTE
- ------------------------------ Director September 29, 1996
(David W. Chonette)
/s/ PAUL GOELD
- ------------------------------ Director September 29, 1996
(Paul Goeld)
/s/ MARK A. WAN
- ------------------------------ Director September 29, 1996
(Mark A. Wan)
47
<PAGE>
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Shareholders
General Surgical Innovations, Inc. and Subsidiary:
We have audited the accompanying consolidated balance sheets of General
Surgical Innovations, Inc. and Subsidiary as of June 30, 1996 and 1995, and the
related consolidated statements of operations, shareholders' equity (deficit)
and cash flows for each of the three years in the period ended June 30, 1996.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of General
Surgical Innovations, Inc. and Subsidiary as of June 30, 1996 and 1995, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended June 30, 1996, in conformity with generally
accepted accounting principles.
COOPERS & LYBRAND L.L.P.
San Jose, California
July 29, 1996
48
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE DATA)
<TABLE>
<CAPTION>
JUNE 30,
--------------------
1996 1995
--------- ---------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents.................................................................... $ 28,339 $ 4,541
Available-for-sale securities................................................................ 21,451 --
Accounts receivable, net of allowance for doubtful accounts of $78 in 1996 and $17 in 1995... 873 256
Inventories.................................................................................. 700 419
Prepaid expenses and other current assets.................................................... 438 84
--------- ---------
Total current assets..................................................................... 51,801 5,300
Property and equipment, net.................................................................... 702 613
Intangible and other assets, net............................................................... 264 332
--------- ---------
Total assets........................................................................... $ 52,767 $ 6,245
--------- ---------
--------- ---------
LIABILITIES CONVERTIBLE REEDEEMABLE PREFERRED STOCK AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable............................................................................. $ 614 $ 297
Accrued liabilities.......................................................................... 892 327
Bank borrowings.............................................................................. 127 86
Deferred revenue............................................................................. 100 133
--------- ---------
Total current liabilities................................................................ 1,733 843
Bank borrowings, less current portion.......................................................... 360 193
Deferred revenue, less current portion......................................................... -- 100
Other long-term liabilities.................................................................... 200 200
--------- ---------
Total liabilities........................................................................ 2,293 1,336
Commitments (Note 11)
Convertible redeemable preferred stock, $.001 par value: Authorized: 6,123,867 shares: issued
and outstanding, no shares in 1996 and 5,461,121 in 1995..................................... -- 13,225
--------- ---------
Shareholders' equity (deficit)
Preferred stock, $.001 par value:
Authorized: 2,000,000 shares; none issued and outstanding
Common stock, $.001 par value:
Authorized: 50,000,000 shares; issued and outstanding: 13,132,903 in 1996 and 3,490,108 in
1995....................................................................................... 13 3
Additional paid in capital................................................................... 64,885 153
Notes receivable from shareholders........................................................... (112) (120)
Deferred compensation, net................................................................... (496) --
Unrealized gain on available-for-sale securities............................................. 1 --
Accumulated deficit.......................................................................... (13,817) (8,352)
--------- ---------
Total shareholders' equity (deficit)..................................................... 50,474 (8,316)
--------- ---------
Total liabilities convertible redeemable preferred stock and shareholders' equity
(deficit).............................................................................. $ 52,767 $ 6,245
--------- ---------
--------- ---------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements
49
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
YEARS ENDED JUNE 30,
-------------------------------
1996 1995 1994
--------- --------- ---------
<S> <C> <C> <C>
Sales......................................................................... $ 6,165 $ 2,437 $ 789
Cost of Sales................................................................. 2,772 1,262 600
--------- --------- ---------
Gross Profit.............................................................. 3,393 1,175 189
--------- --------- ---------
Operating Expenses:
Research and development.................................................... 1,306 975 496
Sales and marketing......................................................... 3,609 2,858 1,532
General and administrative.................................................. 1,595 1,400 1,338
Write-off of acquired in-process research and development................... 2,791 -- --
--------- --------- ---------
Total operating expenses.................................................. 9,301 5,233 3,366
--------- --------- ---------
Operating loss.......................................................... (5,908) (4,058) (3,177)
Interest income............................................................... 443 51 64
Interest expense.............................................................. (48) (29) (7)
Other income (expense)........................................................ 48 (15) 1
--------- --------- ---------
Net loss................................................................ $ (5,465) $ (4,051) $ (3,119)
--------- --------- ---------
--------- --------- ---------
Net loss per share............................................................ $ (0.74) $ (0.62) $ (0.49)
--------- --------- ---------
--------- --------- ---------
Shares used in computing net loss per share................................... 7,411,099 6,495,826 6,312,569
--------- --------- ---------
--------- --------- ---------
</TABLE>
The accompanying notes are an integral part of these financial statements
50
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
FOR THE THREE YEARS ENDED JUNE 30, 1996
<TABLE>
<CAPTION>
UNREALIZED
GAINS ON
COMMON STOCK ADDITIONAL NOTES AVAILABLE-
---------------------- PAID-IN RECEIVABLE FROM DEFERRED FOR-SALE ACCUMULATED
SHARES AMOUNT CAPITAL SHAREHOLDERS COMPENSATION SECURITIES DEFICIT
--------- ----------- ----------- --------------- --------------- --------------- ------------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C> <C> <C>
Balances, June 30, 1993...... 2,814 $ 3 $ 18 $ (1,182)
Issuance of common stock
for notes receivable..... 425 71 $ (71)
Exercise of stock options.. 16 1
Net loss................... (3,119)
--------- --- ----------- ----- ------------
Balance, June 30, 1994....... 3,255 3 90 (71) (4,301)
Issuance of common stock
for cash................. 28 8
Issuance of common stock
for notes receivable..... 217 63 (63)
Exercise of stock options.. 39 6
Repurchase of common stock
in exchange for notes
receivable............... (49) (14) 14
Net loss................... (4,051)
--------- --- ----------- ----- ------------
Balances, June 30, 1995...... 3,490 3 153 (120) (8,352)
Exercise of stock options.. 33 14
Issuance of common stock... 254 1,388
Issuance of common stock in
connection with initial
public offering at $15.00
per share, net of
issuance costs of
$4,810................... 3,450 4 46,920
Conversion of convertible
redeemable preferred into
common stock............. 5,834 6 15,541
Conversion of note payable
into common stock........ 72 269
Deferred compensation
related to stock
options.................. 600 $ (600)
Amortization of deferred
compensation............. 104
Unrealized gain on
available for sale
securities............... $ 1
Payment of shareholder's
notes receivable......... 8
Net loss................... (5,465)
--------- --- ----------- ----- ----- --- ------------
Balances, June 30, 1996...... 13,133 $ 13 $ 64,885 $ (112) $ (496) $ 1 $ (13,817)
--------- --- ----------- ----- ----- --- ------------
--------- --- ----------- ----- ----- --- ------------
<CAPTION>
TOTAL
---------
<S> <C>
Balances, June 30, 1993...... $ (1,161)
Issuance of common stock
for notes receivable.....
Exercise of stock options.. 1
Net loss................... (3,119)
---------
Balance, June 30, 1994....... (4,279)
Issuance of common stock
for cash................. 8
Issuance of common stock
for notes receivable.....
Exercise of stock options.. 6
Repurchase of common stock
in exchange for notes
receivable...............
Net loss................... (4,051)
---------
Balances, June 30, 1995...... (8,316)
Exercise of stock options.. 14
Issuance of common stock... 1,388
Issuance of common stock in
connection with initial
public offering at $15.00
per share, net of
issuance costs of
$4,810................... 46,924
Conversion of convertible
redeemable preferred into
common stock............. 15,547
Conversion of note payable
into common stock........ 269
Deferred compensation
related to stock
options..................
Amortization of deferred
compensation............. 104
Unrealized gain on
available for sale
securities............... 1
Payment of shareholder's
notes receivable......... 8
Net loss................... (5,465)
---------
Balances, June 30, 1996...... $ 50,474
---------
---------
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements
51
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEARS ENDED JUNE 30,
-------------------------------
1996 1995 1994
--------- --------- ---------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss........................................................................... $ (5,465) $ (4,051) $ (3,119)
Adjustments to reconcile net loss to net cash used in operating activities:
Amortization of deferred compensation............................................ 104
Depreciation and amortization.................................................... 346 186 55
Provision for uncollectable accounts............................................. 68
Loss on write-off of fixed assets................................................ 3
Write-off of acquired in-process research and development........................ 2,791
Changes in operating assets and liabilities:
Accounts receivable............................................................ (685) 371 (627)
Inventory...................................................................... (281) (198) (222)
Prepaid expenses and other current assets...................................... (351) (37) (19)
Intangible and other assets.................................................... (3) 14
Accounts payable............................................................... (202) 38 188
Accrued liabilities............................................................ 565 54 162
Deferred revenue............................................................... (133) (133) 367
--------- --------- ---------
Net cash used in operating activities........................................ (3,243) (3,770) (3,201)
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of available-for-sale securities......................................... (21,450)
Acquisition of property and equipment.............................................. (337) (513) (201)
Acquisition of patents............................................................. (85)
Disposal of property and equipment................................................. 39 9
Cash received on acquisition of Adjacent Surgical, Inc. (Note 3)................... 21
--------- --------- ---------
Net cash used in investing activities........................................ (21,727) (589) (201)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of Series B convertible redeemable preferred stock.......... 5,379
Proceeds from issuance of Series C convertible redeemable preferred stock.......... 6,309
Proceeds from issuance of Series D convertible redeemable preferred stock.......... 1,754
Proceeds from issuance of common stock, net of issuance costs...................... 46,938 14 1
Proceeds from payments on shareholders notes receivable............................ 8
Principal payments on note payable................................................. (140) (3) (13)
Proceeds from bank borrowings...................................................... 787 300
Principal payments on bank borrowings.............................................. (579) (21)
--------- --------- ---------
Net cash provided by financing activities.................................... 48,768 6,599 5,367
--------- --------- ---------
Net increase in cash and cash equivalents.......................................... 23,798 2,240 1,965
Cash and cash equivalents, beginning year.......................................... 4,541 2,301 336
--------- --------- ---------
Cash and cash equivalents, end of year............................................. $ 28,339 $ 4,541 $ 2,301
--------- --------- ---------
--------- --------- ---------
SUPPLEMENTARY DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for:
Interest......................................................................... $ 37 $ 22 $ 7
--------- --------- ---------
--------- --------- ---------
Taxes............................................................................ $ 1 $ 1 $ 1
--------- --------- ---------
--------- --------- ---------
NONCASH INVESTING AND FINANCING ACTIVITIES:
Issuance of common stock for notes receivable...................................... $ 63 $ 71
Repurchase of common stock for notes receivable.................................... $ 14
Issuance of preferred stock for technology patent.................................. $ 75
Disposal of property and equipment through cancellation of note payable............ $ 62
Additions to patents and other liabilities......................................... $ 200
</TABLE>
See Note 3 for other non-cash investing and financing activities.
The accompanying notes are an integral part of these consolidated financial
statements
52
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. FORMATION AND BUSINESS OF THE COMPANY:
General Surgical Innovations, Inc. (the Company) was incorporated on April
13, 1992 to engage in the development, manufacturing and marketing of medical
device balloon dissectors which create new working spaces between natural tissue
planes in the human body. The company sells its products in the United States
and certain other countries in Europe, Asia and South America, through its
direct sales force and key distributors.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
BASIS OF CONSOLIDATION:
The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiary. All significant intercompany accounts and
transactions have been eliminated.
USE OF ESTIMATES:
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
CASH AND CASH EQUIVALENTS:
The Company considers investments with an original maturity of 90 days or
less as of the date of purchase to be cash equivalents.
AVAILABLE-FOR-SALE SECURITIES:
The Company has classified its investments as "available-for-sale." Such
investments are recorded at fair value and unrealized holding gains and losses
are recorded net of related taxes as a separate component of shareholders'
equity. Interest income is recorded using an effective interest rate, with
associated premium or discount amortized to "investment income." Realized gains
and losses on sales of all such securities are reported in earnings and computed
using the specific identification cost method.
INVENTORIES:
Inventories are stated at the lower of cost or market. Cost is based on
actual costs computed on a first-in, first out basis.
PROPERTY AND EQUIPMENT:
Property and equipment are stated at cost, net of accumulated depreciation
and amortization. Furniture, fixtures, equipment and tooling are depreciated on
a straight-line basis over their estimated useful lives of three to five years.
Leasehold improvements are amortized over the lesser of their estimated useful
lives or the term of the lease.
53
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
REVENUE RECOGNITION:
The Company recognizes product sales upon shipment of product and when title
passes to its customer. Allowances are provided for estimated returns.
RESEARCH AND DEVELOPMENT:
Research and development expenses are charged to operations as incurred.
BUSINESS RISKS AND CREDIT CONCENTRATION:
A substantial portion of the Company's sales have been derived from sales of
its balloon dissection products for hernia repair procedures. Failure of the
Company to develop successfully and commercialize balloon dissection products
for applications other than hernia repair could have a material adverse effect
on the Company's business, financial condition and results of operations.
In March 1994, the Company entered into a distribution agreement with United
States Surgical Corporation ("USSC"), a large manufacturer and distributor of
medical devices. Pursuant to this agreement USSC has rights, which are
co-exclusive with the rights of GSI, to distribute the Spacemaker I product, for
hernia repair and, to the extent permitted by the Company's initial 510(k)
clearance for the Spacemaker I product, other applications. USSC's distribution
rights are limited to only those products that are or could be covered by the
Company's initial 510(k) clearance. In fiscal 1994, 1995 and 1996 sales to USSC,
which include sales to Autosuture, Inc., a subsidiary of USSC, represented
approximately 68%, 75% and 92%, respectively, of the Company's sales. The
Company's sales to USSC have fluctuated significantly in the past, and the
Company anticipates that such sales could fluctuate in the future. As a result,
there can be no assurance that USSC will continue to purchase the Company's
products in amounts equal to past levels or that USSC will purchase the minimum
quantities required under the agreement. The distribution agreement with USSC
expires in March 1997, and there can be no assurance that such agreement will be
renewed on the same or similar terms. A significant reduction in orders from
USSC or a failure to renew the agreement with USSC could have a material adverse
effect on the Company's business, financial condition and results of operations.
The Company maintains its cash balances in demand accounts primarily with
one financial institution and one investment management company. For its
accounts receivable, management of the Company performs ongoing credit
evaluations of its customers and maintains allowances for doubtful accounts.
Historically the Company has not experienced significant losses related to
individual customer or groups of customers in any particular geographic area. At
June 30, 1995 and 1996, one distributor accounted for approximately 45% and 91%,
respectively, of accounts receivable.
FAIR VALUE OF FINANCIAL INSTRUMENTS:
Carrying amounts of the Company's financial instruments including cash and
cash equivalents, accounts receivable, accounts payable and accrued liabilities
approximate fair values due to their short maturities. Based on the borrowing
rates currently available to the Company for loans with similar terms, the
carrying values of the equipment loan and line of credit approximates fair
values. Estimated fair values for available-for-sale securities, which are
separately disclosed elsewhere, are based on quoted market prices for the same
or similar instruments.
54
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED)
INCOME TAXES:
The company accounts for income taxes under the liability method. Under the
liability method, deferred tax assets and liabilities are determined based on
differences between financial reporting and tax bases of assets and liabilities
and are measured using the enacted tax rates and laws that will be in effect
when the differences are expected to reverse. The company is required to adjust
deferred tax liabilities in the period when tax rates or the provisions of the
income tax laws change. Valuation allowances are established when necessary to
reduce deferred tax assets to the amounts expected to be realized.
NET LOSS PER SHARE:
The net loss per share is computed using the weighted average number of
shares of common stock outstanding for all periods presented. Common equivalent
shares from stock options and convertible redeemable preferred stock are
excluded from the computation as their effect is anti-dilutive, except that,
pursuant to the Securities and Exchange Commission Staff Accounting Bulletin No.
83, common and common equivalent shares issued during the period beginning
twelve months prior to the initial filing of the Company's initial public
offering at prices substantially below the initial public offering price have
been included in the calculation as if they were outstanding for all periods
presented (using the treasury stock method and the assumed initial public
offering price).
RECENT PRONOUNCEMENTS:
In March 1995, the Financial Accounting Standards Board issued Statement No.
121 ACCOUNTING FOR THE IMPAIRMENT OF LONG-LIVED ASSETS AND FOR LONG-LIVED ASSETS
TO BE DISPOSED OF (SFAS No. 121) which requires the Company to review for
impairment long-lived assets and intangibles whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. In certain situations, an impairment loss would be recognized. SFAS
121 will become effective for the Company's 1997 fiscal year. The Company has
studied the implications of the statement, and based on its initial evaluation,
does not expect it to have a material impact on the Company's financial
condition or results of operations.
In October 1995, the Financial Accounting Standards Board issued Statement
No. 123 ACCOUNTING FOR STOCK-BASED COMPENSATION (SFAS No. 123), which
establishes a fair value based method of accounting for stock-based compensation
plans and requires additional disclosures for those companies that elect not to
adopt the new method of accounting. While the Company studies the impact of the
pronouncement, it continues to account for employees' stock options under APB
Opinion No. 25, "Accounting for Stock Issued to Employees." SFAS No. 123 will be
effective for the Company's 1997 fiscal year.
3. ACQUISITION:
In February 1996, the Company acquired substantially all of the assets of
Adjacent Surgical, Inc., a development stage enterprise engaged in research and
development for vascular devices. Certain shareholders of Adjacent Surgical,
Inc., also serve as Directors and are also shareholders of the Company.
Consideration paid consisted of the issuance of 254,027 shares of the Company's
common stock and 111,357 shares of the Company's Series C convertible redeemable
preferred stock.
55
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. ACQUISITION: (CONTINUED)
The acquisition was accounted for using the purchase method of accounting,
and accordingly, its operations have been included with those of the Company
since the date of acquisition. The fair market value of the assets acquired,
liabilities assumed and consideration paid is as follows:
<TABLE>
<CAPTION>
(IN THOUSANDS)
<S> <C>
Assets acquired:
Prepaid expenses............................................................ $ 4
Property and equipment, net................................................. 68
In-process research and development......................................... 2,791
Liabilities assumed:
Accounts payable and other liabilities...................................... (519)
Notes payable............................................................... (409)
Consideration paid:
Issuance of Series C convertible redeemable preferred stock................. (568)
Issuance of common stock.................................................... (1,388)
------
Cash received............................................................. $ 21
------
------
</TABLE>
4. AVAILABLE-FOR-SALE SECURITIES:
The following is a summary of available-for-sale securities as of June 30,
1996:
<TABLE>
<CAPTION>
ESTIMATED
FAIR VALUE COST MATURITY DATES
----------- --------- --------------
(IN THOUSANDS)
<S> <C> <C> <C>
Obligations of federal government agencies............ $ 3,021 $ 3,021 11/96
Corporate obligations, principally commercial paper
and corporate notes.................................. 18,430 18,429 7/96 - 2/97
----------- ---------
$ 21,451 $ 21,450
----------- ---------
----------- ---------
</TABLE>
During 1996, there were no realized gains or losses on the disposal of
available-for-sale securities.
5. PROPERTY AND EQUIPMENT:
Property and equipment comprise:
<TABLE>
<CAPTION>
JUNE 30,
--------------------
1996 1995
--------- ---------
(IN THOUSANDS)
<S> <C> <C>
Equipment................................................................... $ 590 $ 357
Furniture and fixtures...................................................... 218 194
Tooling..................................................................... 302 239
Leasehold improvements...................................................... 46 8
--------- ---------
1,156 798
Less accumulated depreciation and amortization.............................. (454) (185)
--------- ---------
$ 702 $ 613
--------- ---------
--------- ---------
</TABLE>
56
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
6. INVENTORIES:
Inventories comprise:
<TABLE>
<CAPTION>
JUNE 30,
--------------------
1996 1995
--------- ---------
(IN THOUSANDS)
<S> <C> <C>
Raw materials................................................................. $ 387 $ 158
Work in progress.............................................................. 153 82
Finished goods................................................................ 160 179
--------- ---------
$ 700 $ 419
--------- ---------
--------- ---------
</TABLE>
7. INTANGIBLE AND OTHER ASSETS:
Intangible and other assets comprise:
<TABLE>
<CAPTION>
JUNE 30,
--------------------
1996 1995
--------- ---------
(IN THOUSANDS)
<S> <C> <C>
Patents....................................................................... $ 360 $ 360
Other......................................................................... 6 2
--------- ---------
366 362
Less accumulated amortization................................................. (102) (30)
--------- ---------
$ 264 $ 332
--------- ---------
--------- ---------
</TABLE>
Patents are amortized on a straight line basis over their estimated useful
lives of five years.
8. NOTE PAYABLE:
In February 1996 in connection with the purchase of Adjacent Surgical, Inc.,
the Company issued two notes payable totaling $264,438 to two shareholders of
Adjacent Surgical, Inc., who are also shareholders of the Company, and one
shareholder who is also a director of the Company. The notes were payable on
August 12, 1996 and accrued interest at 8% per annum. The notes and all accrued
interest were converted to Series C Preferred Redeemable Convertible Stock at
the rate of $3.75 per share at the time of the Company's initial public
offering.
The Company issued a five-year note payable to a finance company to finance
leasehold improvements during fiscal year 1993. The note bore an interest rate
of 12%, and was payable in monthly installments. During fiscal year 1995, this
note was cancelled in conjunction with the relocation of the Company to a new
facility. The note cancellation was given to the Company as a result of a new
financing agreement being executed with the finance company by the new occupant
of the Company's old facility. There was no outstanding balance at June 30, 1995
and June 30, 1996.
9. BANK BORROWINGS:
On March 25, 1996, the Company entered into a loan agreement with a
financial institution which provides for two equipment loans of $300,000 and
$700,000 with interest at the bank's prime rate plus 1.75% (10.00% at June 30,
1996) and 1.25% (9.50% at June 30, 1996), respectively. The note for $300,000
matures September 30, 1998 and the note for $700,000 matures on June 30, 2000.
The bank borrowings are
57
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
9. BANK BORROWINGS: (CONTINUED)
collateralized by substantially all of the Company's assets. In addition, the
Company is required to maintain certain restrictive financial covenants. Future
minimum payments under the loans are as follows:
<TABLE>
<CAPTION>
YEAR ENDING JUNE 30, (IN THOUSANDS)
- -------------------------------------------------------------------------------
<S> <C>
1997........................................................................... $ 128
1998........................................................................... 167
1999........................................................................... 110
2000........................................................................... 82
-----
487
Less current portion........................................................... (127)
-----
$ 360
-----
-----
</TABLE>
Also on March 25, 1996, the Company entered into a line of credit agreement
with a bank for $1.5 million with interest at the bank's prime rate plus 1.00%
(9.25% at June 30, 1996). The line of credit is due on March 24, 1997 and is
collateralized by substantially all of the Company's assets. The Company is
subject to certain financial covenants including minimum tangible net worth, and
a minimum quick ratio. There are no amounts outstanding under the line of credit
at June 30, 1996 with $1.5 million available for future use.
10. COMMITMENTS:
LEASE AGREEMENTS:
The Company leases its facilities under a noncancelable operating lease that
expires on March 31, 1998. The Company is responsible for certain taxes,
maintenance costs and insurance under the lease. Future minimum rental payments
under the lease for fiscal year ending June 30, 1997 are $409,983.
Rent expense for the years ended June 30, 1996, 1995 and 1994 was $486,721,
$333,869 and $74,573, respectively.
OTHER COMMITMENTS:
In 1992, the Company entered into a royalty agreement to obtain technology
which provides for royalties of 4% of the sales price for products which utilize
this technology. Payments for the years ended June 30, 1996, 1995 and 1994 were
$156,619, $79,666 and $2,236, respectively.
Also, in 1994 in conjunction with obtaining technology for issuance of
preferred stock, the Company entered into a royalty agreement which provides for
royalties subject to 4% of net sales for products which utilize this technology
through 2001. Minimum royalties under the agreement are $50,000 and $150,000 for
the years ending June 30, 1999 and 2000, respectively.
11. CONVERTIBLE REDEEMABLE PREFERRED STOCK:
Under the Company's Articles of Incorporation, the Company's preferred stock
is issuable in series and the Company's Board of Directors is authorized to
determine the rights, preferences and terms of each series.
58
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
11. CONVERTIBLE REDEEMABLE PREFERRED STOCK: (CONTINUED)
During 1996, the Company amended its Articles of Incorporation to authorize
2,000,000 shares of undesignated preferred stock. Preferred stock may be issued
from time to time in one or more series. As of June 30, 1996, the Company had no
shares issued and outstanding.
Convertible redeemable preferred stock comprise:
<TABLE>
<CAPTION>
SERIES A SERIES B SERIES C SERIES D TOTAL
---------- ---------- ---------- ---------- -----------
<S> <C> <C> <C> <C> <C>
Balances, June 30, 1993....... $1,462,179 $ 1,462,179
Issuance of Series B
convertible redeemable
preferred stock for cash, net
of issuance costs............ $5,378,660 5,378,660
---------- ---------- ---------- ---------- -----------
Balances, June 30, 1994....... 1,462,179 5,378,660 6,840,839
Issuance of Series B
convertible redeemable
preferred stock for
technology patent............ 75,000 75,000
Issuance of Series C
convertible redeemable
preferred stock for cash, net
of issuance costs............ $6,308,956 6,308,956
---------- ---------- ---------- ---------- -----------
Balances, June 30, 1995....... 1,462,179 5,453,660 6,308,956 13,224,795
Issuance of Series C
convertible redeemable
preferred stock for the
acquisition of Adjacent
Surgical, Inc., net of
issuance costs............... 568,429 568,429
Issuance of Series D
convertible redeemable
preferred stock for cash, net
of issuance costs............ $1,753,804 1,753,804
Conversion to common stock at
initial public offering...... (1,462,179) (5,453,660) (6,877,385) (1,753,804) (15,547,028)
---------- ---------- ---------- ---------- -----------
Balances, June 30, 1996....... $ -- $ -- $ -- $ -- $ --
---------- ---------- ---------- ---------- -----------
---------- ---------- ---------- ---------- -----------
</TABLE>
12. SHAREHOLDERS' EQUITY (DEFICIT):
COMMON STOCK SPLIT:
In March 1996, the Board of Directors approved a 1.37 to 1 stock split of
its common stock and preferred stock. All share and per share information in the
accompanying financial statements have been restated to give retroactive
recognition to the stock split for all periods presented.
INITIAL PUBLIC OFFERING:
In May 1996, the Company completed its initial public offering of 3,450,000
shares of common stock at $15.00 per share. The Company received proceeds of
approximately $46.9 million (net of underwriting discounts and commissions). In
connection with the offering, all shares of convertible redeemable preferred
stock totaling 5,833,698 were converted into 5,833,698 shares of common stock.
COMMON STOCK:
The Company has issued through June 30, 1996 shares of its common stock to
the founders and key employees of the Company under stock purchase agreements.
Certain stock purchase agreements (the
59
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
12. SHAREHOLDERS' EQUITY (DEFICIT): (CONTINUED)
Agreements) contain provisions for the repurchase of common stock by the Company
in the event of termination of employment, during the vesting period following
the date of employment. Generally, 25% of the shares of common stock purchased
under the Agreements are released from the Company's repurchase option at the
end of twelve months from a participant's hiring date with the remaining shares
being released from repurchase ratably over 36 months. At June 30, 1996, 282,381
shares are subject to repurchase under the Agreements. Each share of common
stock has the right to one vote. The holders of common stock are also entitled
to receive dividends whenever funds are legally available and when declared by
the Board of Directors, subject to the prior rights of holders of all classes of
stock at the time outstanding having priority rights as to dividends.
In March 1996, the Board of Directors amended the Company's Articles of
Incorporation, to increase the authorized number of shares of common stock to
50,000,000 shares.
STOCK OPTION PLANS:
1992 Stock Option Plan
The Company has an Incentive Stock Option Plan (the Plan) under which an
aggregate of 1,715,895 shares of common stock were reserved for issuance.
Under the Plan, incentive options may be granted at prices not lower than
fair market value at the date of grant or 110% of the fair market value if the
optionee, immediately prior to the grant, owns stock representing 10% or more of
the voting power or value of all securities. Nonstatutory options may be granted
at prices not lower than 85% of fair market value at the date of grant as
determined by the Board of Directors. Options granted under the Plan are
exercisable and vest at such times and under such conditions as determined by
the Board. The options generally expire from five years to ten years from date
of grant.
1995 Directors' Stock Option Plan
In November 1995, the Company adopted the Directors' Stock Option Plan (the
Directors' Plan), under which 164,726 shares of Common Stock have been reserved
for issuance. The Directors' Plan provides for the grant of nonstatutory stock
options to non-employee directors of the Company. The Directors' Plan provides
an initial option to purchase 27,454 shares of common stock, which vests monthly
over two years, and beginning with the 1997 annual meeting, an additional annual
stock option to purchase 6,864 shares of common stock.
The exercise price of all stock options granted under the Directors' Plan
shall be equal to the fair market value of the Company's common stock on the
date of grant of the option. Options granted under the Directors' Plan have a
term of ten years.
60
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
12. SHAREHOLDERS' EQUITY (DEFICIT): (CONTINUED)
Information with respect to activity under the Plans is set forth below:
<TABLE>
<CAPTION>
OUTSTANDING OPTIONS
SHARES -----------------------------------------
AVAILABLE OPTIONS NUMBER OF PRICE PER AGREGATE PRICE
FOR GRANT EXERCISED SHARES SHARE IN DOLLARS
---------- ----------- ---------- ------------- --------------
<S> <C> <C> <C> <C> <C>
Balances, June 30,
1993.................... 442,015 175,707 $ .09 $ 15,360
Options granted........ (240,225) 240,225 $ .09-$.29 50,400
Options exercised...... 16,515 (16,515) $ .09 (1,444)
Options terminated..... 69,279 (69,279) $ .09-$.29 (8,856)
---------- ----------- ---------- ------------- --------------
Balances, June 30,
1994.................... 271,069 16,515 330,138 $ .09-$.29 55,460
Options granted........ (205,221) 205,221 $ .29-$.55 67,850
Options exercised...... 39,332 (39,332) $ .09-$.29 (6,153)
Options terminated..... 64,994 (64,994) $ .09-$.29 (14,447)
---------- ----------- ---------- ------------- --------------
Balances, June 30,
1995.................... 130,842 55,847 431,033 $ .09-$.55 102,710
Increase in shares
reserved............. 1,262,899
Options granted........ (745,280) 745,280 $ .55-$10.00 1,421,130
Options exercised...... 33,059 (33,059) $ .29 (13,888)
Options terminated..... 47,187 (47,187) $ .29 (187,892)
---------- ----------- ---------- ------------- --------------
Balances, June 30,
1996.................... 695,648 88,906 1,086,067 $ .09-$10.00 $ 1,320,060
---------- ----------- ---------- ------------- --------------
---------- ----------- ---------- ------------- --------------
</TABLE>
At June 30, 1996, options to purchase 259,373 shares were exercisable.
EMPLOYEE STOCK PURCHASE PLAN:
In March 1996, the Board of Directors adopted the 1996 Employee Stock
Purchase Plan (the ESPP) and reserved 274,543 shares of common stock for
issuance. The purpose of the ESPP is to provide eligible employees of the
Company with a means of acquiring common stock of the Company through payroll
deductions. The purchase price of such stock under the ESPP cannot be less than
95% of the lower of the fair market value on the specified purchase date or the
beginning of the offering period. At June 30, 1996, 2,226 shares had been issued
under the ESPP plan.
Compensation of approximately $600,000 has been attributed to stock options
granted after May 1995 and prior to the sale of the Company's common stock in an
initial public offering. The deferred compensation is being recognized as a
charge to income over the period for which the related stock options become
exercisable, which is generally four years. Amortization of the deferred
compensation was approximately $103,536 during the year ended June 30, 1996.
13. INCOME TAXES:
At June 30, 1996 the Company has federal and state net operating loss
carryforwards of $8.2 million and $4.3 million, respectively, which expire in
the years 1998-2010.
61
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
13. INCOME TAXES: (CONTINUED)
As a result of a change in ownership, as defined, federal and state net
operating loss carryforwards of $6.0 million and $3.0 million respectively are
subject to an annual limitation of $400,000.
Temporary differences and carryforwards which gave rise to significant
portions of deferred tax assets and liabilities, as adjusted for the adoption of
SFAS 109, are as follows:
<TABLE>
<CAPTION>
JUNE 30,
--------------------
(in thousands) 1996 1995
--------- ---------
<S> <C> <C>
Deferred tax assets:
Net operating loss carryforwards........................ $ 3,055 $ 2,900
Capitalized research expenses........................... 113 30
Research and development credit carryforward............ 78 98
Accrued liabilities and other........................... 286 130
Valuation allowance..................................... (3,532) (3,158)
--------- ---------
$ -- $ --
--------- ---------
--------- ---------
</TABLE>
In accordance with generally accepted accounting principles, a valuation
allowance must be established for a deferred tax asset if it is uncertain that a
tax benefit may be realized from the asset in the future. The Company has
established a valuation allowance to the extent of its deferred tax assets since
it is not certain that a benefit can be realized in the future due to the
Company's recurring operating losses.
<TABLE>
<CAPTION>
YEAR ENDED JUNE 30,
-------------------------------------
1993 1994 1995
----------- ----------- -----------
<S> <C> <C> <C>
Income tax (benefit) provision at statutory rate.................... (34)% (34)% (34)%
Net operating loss not benefited.................................... 34 34 34
-- -- --
Effective tax rate.................................................. --% -- % -- %
-- -- --
-- -- --
</TABLE>
14. RELATED PARTY TRANSACTIONS:
The Company entered into certain product development arrangements with a
sole proprietorship which is owned by a director of the Company. The Company has
paid this sole proprietorship $136,000 and $223,368 in fiscal year 1995 and
1996, respectively. (See Notes 3 and 8)
62
<PAGE>
INDEPENDENT ACCOUNTANTS' REPORT ON SCHEDULE
Our report on the financial statement of General Surgical Innovations, Inc.
and Subsidiary is included on page 49 of this Form 10-K. In connection with our
audits of such financial statements, we have also audited the related financial
statement schedule listed in the index on page 45 of this Form 10-K.
In our opinion, the financial statement schedule referred to above, when
considered in relation to the basic financial statements taken as a whole,
presents fairly, in all material respects, the information required to be
included therein.
COOPERS & LYBRAND L.L.P.
San Jose, California
July 29, 1996
S-1
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC.
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
VALUATION AND QUALIFYING ACCOUNTS
(IN THOUSANDS)
<TABLE>
<CAPTION>
BALANCE AT CHARGED IN
BEGINNING OF COSTS AND BALANCE AT
DESCRIPTION PERIOD EXPENSES DEDUCTIONS END OF PERIOD
- ------------------------------------------------------------------ ------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Year ended June 30, 1996
Allowance for doubtful accounts: $ 17 $ 68 $ (7) $ 78
Year ended June 30, 1995
Allowance for doubtful accounts: $ 17 $ -- $ -- $ 17
Year ended June 30, 1994
Allowance for doubtful accounts: $ -- $ 17 $ -- $ 17
</TABLE>
S-2
<PAGE>
Exhibit 10.19
OEM SUPPLY AGREEMENT
This is an Agreement dated and effective as of the last date of signature
below ("Effective Date"), by and between Ethicon Endo-Surgery, Inc., a
corporation organized under the laws of the State of Ohio, having a business
address at 4545 Creek Road, Cincinnati, Ohio 45242 ("Ethicon"); and General
Surgical Innovations, a corporation organized under the laws of the State of
California, having a business address at 3172A Porter Drive, Palo Alto,
California 94304 ("GSI").
ARTICLE 1 - BACKGROUND
1.1 Ethicon manufactures and markets surgical instruments and accessories
for minimally invasive surgery, including trocars, staplers, ligation devices,
hand-held instruments, retractors, manipulation devices and electrosurgery
products. As of the Effective Date hereof, Ethicon has developed and begun
marketing a balloon dissector to facilitate minimally invasive surgery for
hernia repair.
1.2 GSI has developed and patented an array of balloon dissectors and
their methods of use to facilitate minimally invasive surgery for hernia repair,
urinary stress incontinence ("USI"), plastic and reconstructive surgery,
vascular surgery, and other surgical methods.
1.3 Ethicon desires to qualify GSI as an original equipment manufacturer
("OEM") supplier for certain balloon dissectors, and to thereafter purchase from
GSI certain balloon dissectors meeting agreed-upon specifications for resale to
Ethicon's customers. Correspondingly, GSI desires to be qualified as an OEM
supplier of certain balloon dissectors to Ethicon, and to thereafter sell
certain balloon dissectors to Ethicon meeting agreed-upon specifications.
1.4 As of the Effective Date hereof, the parties acknowledge an Existing
OEM Supply Agreement (as defined below), which may be renewed by its parties,
notwithstanding any provision of this Agreement.
Therefore, GSI agrees to supply to Ethicon, and Ethicon agrees to purchase
from GSI, certain balloon dissectors upon the terms and conditions set forth
below.
ARTICLE 2 - DEFINITIONS
The following terms, when used with initial capital letters, shall have the
following meanings, whether used in the singular or the plural:
2.1 "Affiliate" is any entity that directly or indirectly controls, is
controlled by, or is under common control with a party, and for such purpose
"control" shall mean the possession, direct or indirect, of the power to direct
or cause the direction of the management and policies of the entity, whether
through the ownership of voting securities, by contract or otherwise.
2.2 A "Change of Control" shall be deemed to have occurred if any of the
following occurs: a) any "person" (as such term is used in Sections 13(d) and
14(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act") is
or becomes the "beneficial owner" (as defined in Rule 13d-3 under the Exchange
Act), directly or indirectly, of securities of GSI representing thirty percent
(30%) or more of the combined voting power of GSI's then outstanding securities;
b) the stockholders of GSI approve a merger or consolidation of GSI with any
other corporation, other than a merger or consolidation which would result in
the voting
CONFIDENTIAL TREATMENT REQUESTED
<PAGE>
securities of GSI outstanding immediately prior thereto continuing to
represent (either by remaining outstanding or by being converted into voting
securities of the surviving entity) at least sixty percent (60%) of the
combined voting power of the voting securities of GSI or such surviving
entity outstanding immediately after such merger or consolidation, or c) or
the stockholders of GSI approve a plan of complete liquidation of GSI or an
agreement for the sale or disposition by GSI of all or substantially all of
GSI's assets.
2.3 "OEM Balloon Dissectors" are collectively the First OEM Balloon
Dissector and the Subsequent OEM Balloon Dissectors. The parties acknowledge
that, during the term of the Existing OEM Supply Agreement or any extension
thereof, OEM Balloon Dissectors exclude all products covered under the Existing
OEM Supply Agreement, and the Spacemaker Balloon Dissector.
2.4 "Bonutti Agreement" is an agreement between Apogee Medical Products,
Inc. and GSI, whose last date of signature therein is March 9, 1995, a copy of
which is provided by GSI to Ethicon as of the Effective Date.
2.5 "Calendar Quarter" is the usual and customary Ethicon calendar
quarter, used for internal accounting purposes, of approximately three (3)
months, in which each of the first two months consist of four weeks and the
third month consists of five weeks.
2.6 "Ethicon Balloon Dissector" is the balloon dissector Ethicon has
itself begun to manufacture and sell to its customers, identified as the
ENDOPATH TED 12 Balloon Dissector, or any substantially identical modifications
thereof.
2.7 "Existing OEM Supply Agreement" is an agreement between GSI and U.S.
Surgical Corporation effective March 9, 1994, a redacted copy of which has been
made publicly available and is on file with the Securities and Exchange
Commission ("SEC").
2.8 "Expanded Field" shall mean all Tissue Dissectors, inclusive of all
products covered under the Existing OEM Supply Agreement and the Spacemaker
Balloon Dissector, in the field of hernia repair and USI.
2.9 "FDA" shall mean the U.S. Department of Health and Human Services,
Food and Drug Administration, or any successor governmental organization.
2.10 "Field" shall mean all Tissue Dissectors in the field of hernia repair
and USI, exclusive of (i) all products covered under the Existing OEM Supply
Agreement and (ii) the Spacemaker Balloon Dissector.
2.11 "First Accounting Quarter" is the first Calendar Quarter following the
Effective Date of this Agreement. The successive Calendar Quarters following
the First Accounting Quarter shall be referred to in their numerical order as,
for example, the "Second", "Third", "Fourth" and "Fifth" Accounting Quarter,
until the expiration or termination of this Agreement. For purposes of this
Agreement, the final Accounting Quarter shall extend from the end of its
preceding Accounting Quarter to the termination or expiration of this Agreement.
2.12 "First OEM Balloon Dissector" is the balloon dissector labeled under
the Ethicon name which GSI initially supplies to Ethicon hereunder in accordance
with and meeting the product and quality assurance specifications mutually
agreed to between the parties. The parties may hereinafter modify such
specifications upon mutual written consent.
-2-
CONFIDENTIAL TREATMENT REQUESTED
<PAGE>
2.13 "First Commercial Delivery" is the first delivery of the First OEM
Balloon Dissector from GSI to Ethicon, pursuant to Article 4.7 below, excluding
sales samples and training aids intended for promotional use only.
2.14 "510(k) Clearance" shall mean premarket concurrence of substantial
equivalence in accordance with Article 510(k) of the U.S. Food, Drug and
Cosmetic Act of 1938, as amended.
2.15 "GSI Patents" are each patent and patent application, U.S. and
foreign, which GSI owns or is empowered to grant a license to Ethicon prior to
or during the term of this Agreement or any extension thereof, the practice of
which is reasonably necessary for Ethicon to sell Tissue Dissectors.
2.16 "Guaranteed Payment" shall mean [ * * * *]
multiplied by [ * * *] which a potential purchaser (either Ethicon
or a third party) [ * * *]. In the case of Ethicon, such negotiated
transfer price will not [ * * *].
2.17 "Insolvency Event" shall mean the occurrence of any of the following
events:
(a) GSI shall admit in writing its inability, or be generally unable,
to pay its debts as such debts become due; or
(b) GSI shall (1) apply for or consent to the appointment of, or the
taking of possession by, a receiver, custodian, trustee or liquidator of itself
or of all or a substantial part of its property, (2) make a general assignment
for the benefit of its creditors, (3) commence a voluntary case under the United
States Bankruptcy Code, as now or hereafter in effect (the "Bankruptcy Code"),
(4) file a petition seeking to take advantage of any other law relating to
bankruptcy, insolvency, reorganization, winding-up, or composition or
readjustment of debts, (5) fail to controvert in a timely and appropriate
manner, or acquiesce in writing to, any petition filed against it in any
involuntary case under the Bankruptcy Code, or (6) take any corporate action for
the purpose of effecting any of the foregoing; or
(c) A proceeding or case shall be commence against GSI in any court
of competent jurisdiction, seeking (1) its liquidation, reorganization,
dissolution or winding-up, or the composition or readjustment of its debts, (2)
the appointment of a trustee, receiver, custodian, liquidator or the like of GSI
or of all or any substantial part of its assets, or (3) similar relief in
respect of GSI under any law relating to bankruptcy, insolvency, reorganization,
winding-up, or composition or adjustment of debts, or an order, judgment or
decree approving or ordering any of the foregoing shall be entered and continue
unstayed and in effect for a period of 90 days; or an order for relief against
GSI shall be entered in an insolvency case under the Bankruptcy Code.
2.18 "Kieturakis Agreement" is an agreement between Thomas J. Fogarty, M.D.
or his designee (represented by GSI to be GSI) and Maciej Kieturakis, M.D., made
as of April 29, 1992, and as filed with the SEC.
2.19 "Regulatory Compliance" shall mean compliance with (i) all applicable
statutes, laws, and regulations, including good manufacturing practices ("GMP");
(ii) Ethicon Endo-Surgery, Inc. Quality Assurance requirements, and (iii)
Johnson & Johnson Corporate Quality Assurance requirements generally applicable
to all suppliers of products to Johnson & Johnson companies in effect as of the
Effective Date, and as amended by Johnson & Johnson.
-3-
CONFIDENTIAL TREATMENT REQUESTED
<PAGE>
2.20 "Spacemaker Balloon Dissector" is collectively the Spacemaker II
balloon dissector and Spacemaker World balloon dissector both of which GSI has
made commercially available.
2.21 "Subsequent OEM Balloon Dissectors" are balloon dissectors labeled
under the Ethicon name which GSI subsequently supplies to Ethicon hereunder
following the initial supply of the First OEM Balloon Dissector, and supplied in
accordance with and meeting the product and quality assurance specifications
mutually agreed to between the parties and set forth hereinafter in successive
appendices to this Agreement. The parties may modify such specifications upon
mutual written consent.
2.22 "Tissue Dissectors" are surgical instruments or the use of such
instruments, which are covered by a Valid Claim of any of the GSI Patents for
separating adjacent tissue layers to create an operative space during or in
connection with a medical or surgical procedure, including but not limited to
the OEM Balloon Dissectors and the Ethicon Balloon Dissector, and whether for
open or endoscopic surgery.
2.23 "Trademarks" are (i) U.S. Trademark Registration No. 1,860,825,
"Spacemaker" and (ii) the "General Surgical Innovations, Inc." and "GSI" names,
unregistered.
2.24 "Valid Claim" means any claim of the issued GSI Patents.
Notwithstanding the foregoing, the term "Valid Claim" will not include (x) any
claims which have been declared or rendered invalid or otherwise become
unenforceable by reissue, disclaimer, or any unappealed or unappealable decision
or judgment of a court or governmental agency of competent jurisdiction, or (y)
any claims of the GSI Patents that have lapsed or become abandoned.
ARTICLE 3 - TERM
3.1 The term of this Agreement shall be [ * * *] from the
Effective Date unless earlier terminated under Article 10 below. The parties
may extend the term of this Agreement for successive [ * * *]
periods upon the terms and conditions set forth herein, provided the parties
mutually agree on a transfer price and minimum purchase requirements for the OEM
Balloon Dissectors. For a period of [ * * *] following the
termination of this Agreement, or any extension thereof, GSI shall not enter
into any agreement with a single distributor or OEM for exclusive rights to
supply Tissue Dissectors for resale in the Field to such party upon terms
requiring such distributor or OEM to make a Guaranteed Payment less than the
midpoint of those terms last offered in writing by GSI and by Ethicon.
Ethicon's offer will be deemed to be zero if Ethicon fails to make an offer in
writing.
ARTICLE 4 - RESPONSIBILITIES OF THE PARTIES
4.1 The parties shall cooperate with each other to qualify GSI as an OEM
supplier of OEM Balloon Dissectors for Ethicon, and to ensure that GSI
satisfactorily meets Ethicon's requirements for Regulatory Compliance and
manufacturing capacity. Ethicon shall render assistance to GSI as necessary or
desirable to reasonably expedite the qualification process, without charge to
GSI. Any costs incurred by GSI to expedite the qualification process, and to
meet the requirements of Regulatory Compliance, shall be borne by GSI.
4.2 Once [ * * *] GSI shall manufacture and sell the OEM
Balloon Dissectors[ * * *].. After the date [ * * *]
Ethicon also agrees not to manufacture, have
-4-
CONFIDENTIAL TREATMENT REQUESTED
<PAGE>
manufactured, sell or market Tissue Dissectors, except for (a) the Ethicon
Balloon Dissector, (b) Tissue Dissectors purchased from or on behalf of
GSI, or (c) as permitted under Article 8 below. GSI shall not change the
form, fit, function, color, components or materials of the OEM Balloon
Dissectors, or the process by which the OEM Balloon Dissectors are
manufactured, without the prior written consent of Ethicon (which consent
will not be unreasonably withheld).
4.3 (a) During the original term of this Agreement, Ethicon shall pay[
* * *].
(b) The parties shall negotiate in good faith [ * * *].
(c) During the term of this Agreement or any extension thereof, [
* * *].
4.3A (a) During the original term of this Agreement, [ * * *].
(b) The parties shall negotiate in good faith [ * * *].
(c) During the term of this Agreement or any extension thereof, [
* * *].
4.4 Ethicon shall pay the fixed prices set forth in Article 4.3 above for
delivery of the OEM Balloon Dissectors within thirty (30) days from the date of
invoice, F.O.B. GSI's factory in Palo Alto, California, or other location
mutually agreed upon between the parties. The date of invoice shall not be
earlier than the date of shipment. GSI shall ship, at Ethicon's cost, to any
location chosen by Ethicon utilizing carriers chosen by Ethicon. The risk of
loss with respect to the OEM Balloon Dissectors shall remain with GSI until the
OEM Balloon Dissectors are loaded aboard the common carrier in Palo Alto, or
other location mutually agreed upon between the parties. GSI will pack the OEM
Balloon Dissectors in a manner suitable for shipment to enable the OEM Balloon
Dissectors to withstand the effects of shipping, including handling during
loading and unloading.
4.5 GSI shall provide the following information at no cost to Ethicon:
(a) necessary data, descriptions, processes, photographs and
statements of claims for safety, efficacy or performance so that Ethicon may
prepare, at its cost, labeling, inserts and sales literature relating to the OEM
Balloon Dissectors;
(b) technical data to allow Ethicon to prepare up-to-date customer
instruction for the OEM Balloon Dissectors;
(c) a copy of the Device Master Record and the Device History Record,
as defined in 21 Code of Federal Regulations 800, for the OEM Balloon Dissectors
and components thereof; and
(d) copies of all U.S. and foreign regulatory submissions, including
the 510(k) submission, for the OEM Balloon Dissectors.
4.5A Ethicon shall provide the following information at no cost to GSI:
(a) Any information reasonably necessary for GSI to meet the
requirements of Regulatory Compliance for the purchase by or on behalf of
Ethicon of the OEM Balloon Dissectors.
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4.6 MINIMUM QUARTERLY PAYMENT REQUIREMENTS
(a) During each of the [ * * *] Accounting Quarters,
Ethicon shall purchase from GSI enough of the OEM Balloon Dissectors or, during
the period preceding GSI's qualification as Ethicon's OEM supplier, pay enough
earned royalties based on the sale of the Ethicon Balloon Dissector pursuant to
Article 9.1 below, to satisfy the following minimum quarterly payment
requirements:
ACCOUNTING QUARTER QUARTERLY MINIMUM PAYMENT REQUIREMENT
[ * * *] [ * * *]
[ * * *] [ * * *] [ * * *]
[ * * *] [ * * *] [ * * *]
[ * * *] [ * * *] [ * * *]
[ * * *] [ * * *] [ * * *]
[ * * *] [ * * *] [ * * *]
[ * * *] [ * * *] [ * * *]
[ * * *] [ * * *] [ * * *]
[ * * *] [ * * *] [ * * *]
If the actual sales of the OEM Balloon Dissectors or Ethicon Balloon Dissectors
(if applicable) for either procedural category set forth above (Hernia or USI)
in any Accounting Quarter exceeds the quarterly minimum payment requirement for
such quarter, then such excess may be applied as a credit to the other
procedural category for such quarter.
During the Accounting Quarters following the [ * * *] Accounting
Quarter, Ethicon's quarterly minimum payment requirement shall be based on the
greater of (i) [ * * *]or (ii) [ * * *].
(b) GSI shall consider satisfaction of the quarterly minimum payment
requirements of Article 4.6(a) and satisfaction of the mutual initiatives set
forth in Article 14.12A (provided GSI satisfies such initiatives in cooperation
with Ethicon) herein as complete satisfaction of any duty, whether express or
implied, which could be imposed upon Ethicon to commercially exploit its rights
under this Agreement, and is accepted by GSI in lieu of any best efforts
obligation on the part of Ethicon. If Ethicon fails to make its quarterly
minimum payment requirements to GSI, then GSI may provide Ethicon with written
notice of such failure. Ethicon shall have thirty (30) days after receiving
such written notice to deliver a binding purchase order to GSI for the OEM
Balloon Dissectors for delivery within the applicable quarter or to make a
payment to GSI in order to make up any deficiencies in its quarterly minimum
payment requirements. If Ethicon fails to take this action, then GSI may
manufacture and sell the Tissue Dissectors to third parties upon written notice,
or otherwise terminate this Agreement under Article 10.1 herein; provided,
however, Ethicon will not be relieved from its obligation to make the quarterly
minimum payments occurring prior to the termination of this Agreement.
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(c) The quarterly minimum payment requirements set forth under
Article 4.6(a) above shall for any applicable Accounting Quarter be reduced in
the following circumstances:
(i) If GSI fails for any reason within GSI's reasonable control
(other than (1) a Major Forces event under Article 14.8 below, (2) a failure by
Ethicon to supply components or subassemblies to GSI for use in OEM Balloon
Dissectors, or (3) breach by Ethicon) to deliver the OEM Balloon Dissectors to
Ethicon in accordance with the terms of this Agreement, or replace OEM Balloon
Dissectors which are defective under Article 5.1 below, then the quarterly
minimum payment requirements for the applicable Accounting Quarter(s) shall be
reduced by an amount equal to [ * * *] of the number of units of OEM
Balloon Dissectors not delivered or replaced.
(ii) If any of the OEM Balloon Dissectors are recalled from
market or withdrawn from sale for reason of safety, efficacy or quality
primarily due to GSI (and beyond Ethicon's reasonable control), (i)
involuntarily regardless of lot size, (ii) voluntarily and involving multiple
lots, or (iii) voluntarily and involving a single lot where such lot is not
immediately replaced; or if a Major Forces event under Article 14.8 occurs, then
the quarterly minimum payment requirements shall be waived until a period [
* * *] whichever is applicable, and shall then be proportionately
reduced.
(iii) If GSI fails to meet its obligations under Article 9.2
below, then the quarterly minimum payment requirements shall be waived until
such time as GSI does, in fact, meet its obligation under such article.
(iv) If this Agreement is terminated pursuant to Article 10 below
during any applicable Accounting Quarter, then the minimums shall be
proportionately reduced for such quarter, and Ethicon shall be relieved of
minimums thereafter.
4.7 Within thirty (30) days of the First Commercial Delivery, Ethicon
shall provide GSI with a forecast of its expected purchases of the OEM Balloon
Dissectors, including a schedule of desired delivery dates, for the following
[ * * *] and the [ * * *] of this forecast shall
constitute a binding purchase order. Thereafter, Ethicon shall update the
forecast monthly so that its expected purchases and schedule of desired
delivery dates are continually forecast for a [ * * *] the
[ * * *] of such rolling forecasts constituting a binding
purchase order. Unless both parties otherwise agree, the [ * * *]
month of each binding purchase order will be at [ * * *] or
not more than [ * * *] of the prior month's forecast for that same
month. Furthermore, Ethicon's forecasts and purchase orders must be
consistent with reasonable expected usage based on historical procedural
volumes and shall also be consistent with its practices with other suppliers.
4.8 Ethicon may adjust the total number of OEM Balloon Dissectors to be
delivered pursuant to Article 4.7 above upon thirty (30) days written notice,
provided however, that any such adjustment shall not serve to reduce Ethicon's
obligation to purchase the total number of OEM Balloon Dissectors indicated in
the binding purchase order In any given month, if Ethicon wants GSI to deliver
more than [ * * *] of the total number of the OEM Balloon Dissectors
indicated in the binding purchase order, then GSI shall not be obligated to
supply the excess above [ * * *] but GSI shall nevertheless use its
reasonable commercial efforts to deliver to Ethicon any such excess [ *
* *] on a priority basis.
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4.9 GSI shall use reasonable commercial efforts to deliver the OEM Balloon
Dissectors to Ethicon in accordance with the schedule of delivery dates
specified in the binding purchase orders set forth in Article 4.7 above.
4.9A Insofar as the terms and conditions of Ethicon's standard purchase
order (a copy of which is attached as Appendix 2) are contrary to or
inconsistent with the terms and conditions of this Agreement, the terms and
conditions of this Agreement shall control. The parties acknowledge that as of
the Effective Date there are existing terms and conditions of the Ethicon
standard purchase order that are contrary to or inconsistent with the terms and
conditions of this Agreement, and that the terms and conditions of this
Agreement shall control. Insofar as terms and conditions are added to such
purchase order after the Effective Date hereof, GSI shall not be subject to such
added terms and conditions unless specifically agreed to in writing.
4.9B All amounts due hereunder are payable in full to GSI without deduction
and are net of taxes (including any withholding tax) and custom duties.
4.9C Ethicon shall, at Ethicon's own expense, obtain and pay for import and
export licenses and permits, pay customs charges and duty fees, and take all
other actions required to accomplish the export and import of the OEM Balloon
Dissectors purchased by Ethicon. Ethicon understands that both Ethicon and GSI
are subject to regulation by agencies of the United States of America
government, including the United States of America Department of Commerce,
which prohibit export or diversion of certain technical products to certain
countries. Ethicon warrants that Ethicon will comply in all respects with all
such export regulations to the extent they relate to the OEM Balloon Dissector.
4.9D Ethicon shall provide GSI within ninety (90) days after the end of
each Calendar Quarter (for purposes of international information) and within
sixty (60) days after the end of each Calendar Quarter (for purposes of U.S.
information) the following information with respect to the term of this
Agreement: (i) a summary of the number of units of OEM Balloon Dissectors sold
(broken down (X) by the five digit customer's zip code (or as the Parties
otherwise mutually agree as necessary and reasonably available in order for GSI
to comply with its obligations to compensate its sales representatives and
employees), for sales in the United States and (Y) by country for sales
internationally), (ii) a copy of any market research which Ethicon has in its
discretion conducted regarding competition with respect to the OEM Balloon
Dissectors and changes in the market for the OEM Balloon Dissectors in the
United States or internationally, and (iii) a summary of the number of OEM
Balloon Dissectors held by Ethicon at the end of such quarter. Notwithstanding
whether Ethicon designates such information or any portion therof as
confidential, such information shall be deemed to be confidential and GSI shall
treat such information as confidential information in accordance with Article
9.4 below.
ARTICLE 5 - WARRANTY
5.1 GSI warrants during the warranty period set forth under Article 5.2
below that the OEM Balloon Dissectors delivered to Ethicon under this Agreement
shall be manufactured in accordance with the mutually agreed-upon
specifications, and that the OEM Balloon Dissectors so delivered shall be free
from material defects in design, construction, materials and workmanship (except
for components and design supplied solely by Ethicon). Ethicon may inspect the
OEM Balloon Dissectors within thirty (30) days of receipt of a shipment, on a
sample basis, to determine conformity with such specifications. If this
inspection shows a failure to meet
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such specifications, then Ethicon may return the entire lot in question to
GSI for a full credit, including credit for freight and insurance costs
incurred by Ethicon, with a written reasonably detailed description of the
reasons for rejection. Prior to issuing credit, GSI shall have thirty (30)
days to modify or correct the OEM Balloon Dissectors to conform to such
specification. Notwithstanding failure of Ethicon to inspect or return any
shipment, or its acceptance of any shipment, Ethicon shall be entitled during
the warranty period to return to GSI for exchange or full credit at Ethicon's
original cost, including incurred freight and insurance costs, OEM Balloon
Dissectors returned by a customer of Ethicon for material defects in design,
construction, materials or workmanship or failure to meet mutually agreed
upon specifications, except for components provided by Ethicon. Any
inspection by Ethicon shall not relieve GSI of its obligation to manufacture
OEM Balloon Dissectors which meet the Specifications and comply with good
manufacturing practices.
EXCEPT FOR THE EXPRESS LIMITED WARRANTY SET FORTH IN THIS ARTICLE 5.1, GSI
GRANTS NO WARRANTIES FOR THE OEM BALLOON DISSECTORS, EXPRESS OR IMPLIED, EITHER
IN FACT OR BY OPERATION OF LAW, BY STATUTE OR OTHERWISE, AND GSI SPECIFICALLY
DISCLAIMS ANY IMPLIED WARRANTY OF QUALITY, WARRANTY OF MERCHANTABILITY OR
WARRANTY OF FITNESS FOR A PARTICULAR PURPOSE.
5.2 The warranty period shall be for a period of [ * * *] from
the date of GSI's shipment of an OEM Balloon Dissector to Ethicon. GSI shall
reasonably agree to extend this warranty period, up to an additional [ *
* *] based on applicable data generated by the parties during the term of
this Agreement or any extension thereof .
5.3 GSI agrees that Ethicon may pass the warranty given to Ethicon under
Article 5 above along to Ethicon's customers.
ARTICLE 6 - REGULATORY COMPLIANCE
6.1 GSI shall promptly file for 510(K) Clearance from the FDA to
manufacture and sell the First OEM Balloon Dissector as required by applicable
laws, rules and regulations, as soon as accurate and complete data and
information regarding the First OEM Balloon Dissector is made available to GSI
as required by applicable laws, rules and regulations. In addition, GSI shall
likewise file for 510(K) clearance for Subsequent OEM Balloon Dissectors which
GSI desires to sell to Ethicon and Ethicon desires to purchase from GSI. GSI
shall maintain and make available for Ethicon's review for the term of this
Agreement or any extension thereof all of the 510(K) Clearances for the OEM
Balloon Dissectors. Furthermore, GSI shall file, and maintain at its own cost,
all registrations for which GSI would be the appropriate party to so file and
maintain such registrations with the FDA and similar regulatory authorities in
the United States and in foreign countries which have the authority to approve
the sale of the OEM Balloon Dissectors for use in humans.
6.2 GSI represents and warrants that all OEM Balloon Dissectors sold or
delivered to Ethicon during the term of this Agreement or any extension thereof
shall be manufactured and delivered in accordance with Regulatory Compliance,
and that continually during the term of this Agreement or any extension thereof
no OEM Balloon Dissectors delivered by GSI to Ethicon will be adulterated or
misbranded at the time of delivery within the meaning of the Federal Food, Drug
and Cosmetic Act. GSI shall notify Ethicon as soon as practicable after
receiving notice of any claim or
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action by the FDA relating to non-compliance with this Article or any notice
with respect to any violation of any applicable laws, rules or regulations.
Both parties shall notify each other of any adverse reaction, malfunction,
injury or other similar claims with respect to the OEM Balloon Dissectors of
which either becomes aware.
6.3 GSI shall notify Ethicon of any FDA audit, or any audit from any other
regulatory body, of its factories for the manufacture of the OEM Balloon
Dissectors, or any request for information from the FDA or other regulatory body
related to the manufacture of the OEM Balloon Dissectors, as soon as practically
possible after GSI receives notice of such audit or such request.
6.4 Ethicon or its designated representative may, at its discretion and
upon ten (10) days written notice to GSI, conduct periodic GMP audits of GSI's
factories for the manufacture of the OEM Balloon Dissectors.
6.5 Upon mutual consent of the parties, which consent may not be
unreasonably withheld, or in the case of a recall required by an agency with
competent jurisdiction, GSI shall be required to institute and fund any recall,
field corrective action, or the like in circumstances relating to a breach by
GSI of the warranty set forth in Article 5 above or other breach of its
obligations hereunder. In such circumstances, the actual retrieval of the OEM
Balloon Dissectors and costs associated with that retrieval will be undertaken
and absorbed by Ethicon. The parties shall maintain adequate records concerning
traceability of the OEM Balloon Dissectors, and shall cooperate with each other
in the event that any procedures described in this paragraph are undertaken. In
the event of any such recall, GSI shall accept recalled OEM Balloon Dissectors
and deliver to Ethicon replacement OEM Balloon Dissectors at GSI's sole cost and
expense.
6.6 Because regulatory requirements vary throughout the world, the parties
agree to cooperate with one another to obtain regulatory approvals.
6.7 Both parties agree to comply with their state, federal, and
international regulatory requirements as are required for their status as a
medical device manufacturer or medical device distributor.
ARTICLE 7 - RESPONSIBILITY FOR CLAIMS
In order to distribute between themselves the responsibility for the
handling and expense of claims arising out of the manufacture, distribution,
sale or use of the OEM Balloon Dissectors, the parties agree as follows:
7.1 GSI shall be liable for and shall indemnify and hold Ethicon harmless
against any liability, damages or loss (other than loss of potential sales) and
from any claims, suits, proceedings, demands, recoveries or expenses, including
without limitation, expenses of total or partial device recalls, in connection
with the OEM Balloon Dissectors manufactured by GSI (other than (i) the Ethicon
Balloon Dissector which is manufactured by GSI or changes thereto requested
solely by Ethicon, and (ii) components or designs supplied solely by Ethicon)
arising out of, based on, or caused by:
(a) alleged defects in materials, workmanship or design of the OEM
Balloon Dissectors manufactured by or on behalf of GSI; or
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(b) failure of the OEM Balloon Dissectors manufactured by or on
behalf of GSI to fulfill claims relating to safety, efficacy or performance
furnished by GSI under Article 4.5 above (excluding matters for which Ethicon is
responsible under Article 7.2 below); and
(c) claims of patent infringement made with respect to the OEM
Balloon Dissectors manufactured by or on behalf of GSI, or claims of trademark
infringement made with respect to Ethicon's use of GSI's Trademarks; and
(d) a breach of the representations and warranties set forth in
Article 14.1 below.
GSI shall obtain and maintain in full force and effect valid and
collectible product liability insurance in respect of the OEM Balloon Dissectors
for death, illness, bodily injury and property damage in an amount not less than
$2 million per occurrence. Such policy shall name Ethicon as an insured or an
additional insured thereunder and GSI shall grant like coverage to Ethicon under
a standard broad form vendor's endorsement thereto. GSI shall within ten (10)
days of the Effective Date provide Ethicon with evidence of this coverage,
provided that the existence of such coverage shall in no way limit GSI's
liability or obligations hereunder. Such insurance policy shall provide that in
the event such insurance coverage should be materially adversely changed or
terminated for any reason, the insurer thereunder will give GSI and Ethicon ten
(10) days prior notice of such change or termination.
7.2 Ethicon shall be liable for and shall indemnify and hold GSI harmless
against any liability, damages or loss (other than loss of potential sales) and
from any claims, suits, proceedings, demands, recoveries or expenses, including
without limitation, expenses of total or partial device recalls, (i) in
connection with the OEM Balloon Dissectors, and/or the Ethicon Balloon
Dissectors sold by Ethicon, or (ii) arising out of, based on, or caused by
claims whether written or oral, made or alleged to be made, by Ethicon in its
advertising, publicity, promotion, or sale of the OEM Balloon Dissectors where
such claims were not substantially the same as those claims furnished by GSI
under Article 4.5 above, or (iii) arising out of, based on, or caused by the
Ethicon Balloon Dissector which is manufactured by GSI or changes thereto
requested solely by Ethicon, or (iv) arising out of, based on or caused by
components or designs supplied solely by Ethicon, or (v) arising out of, based
on, or caused by the labeling of the OEM Balloon Dissectors where such labeling
was not substantially the same labeling information furnished by GSI under
Article 4.5 above, or by negligent handling by Ethicon of the OEM Balloon
Dissectors (excluding matters for which GSI is responsible under Article 7.1
above).
7.3 (a) GSI is the "Indemnifying Party" and Ethicon is the "Indemnified
Party" for purposes of Section 7.1, and Ethicon is the "Indemnifying Party" and
GSI is the "Indemnified Party" for purposes of Section 7.2. In the event a
Claim is made upon the Indemnified Party, the Indemnified Party shall promptly
give notice of such Claim to the Indemnifying Party, and shall promptly deliver
to such Indemnifying party all information and written material available to the
indemnified Party relating to such Claim. If such Claim is first made upon the
Indemnifying Party, the Indemnifying Party shall promptly give notice of such
Claim to the Indemnified Party.
(b) The Indemnified Party will, if notified of the Indemnifying
Party's election to do so within fifteen (15) days of the date of notice of a
Claim, permit the Indemnifying Party to defend in the name of the Indemnified
Party any Claim in any appropriate administrative or judicial proceedings and
take whatever actions may be reasonably requested of the Indemnified
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Party to permit the Indemnifying Party to make such defense and obtain an
adjudication of such Claim on the merits, including the signing of pleadings
and other documents, if necessary; provided that the Indemnifying Party shall
defend the Claim with counsel reasonably satisfactory to the Indemnified
Party and provide the Indemnified Party with evidence reasonably satisfactory
to the Indemnified Party that the Indemnifying Party can satisfy the Claim if
it is upheld. In addition to the liability for the ultimate settlement or
judgment, if any, arising out of such Claim under this Agreement, the
Indemnifying Party shall be solely responsible for all the expenses incurred
in connection with such defense or proceedings, regardless of their outcome.
However, the Indemnifying Party shall not be responsible for any expenses,
including attorneys fees and costs, incurred by the Indemnified Party to
monitor the defense of the Claim by the Indemnifying Party.
(c) In the event the Indemnifying Party does not accept the defense
of such Claim under the terms hereof, the Indemnified Party shall be entitled to
conduct such defense and settle or compromise such Claim, and the Indemnifying
Party's indemnification obligation under this Agreement shall be absolute,
regardless of the outcome of such Claim. The Indemnified Party, at its option,
may elect not to permit the Indemnifying Party to control the defense against a
Claim. If the Indemnified Party so elects, then the Indemnifying Party shall
not be obligated to indemnify the Indemnified Party against any settlements,
judgments or other costs or obligations arising thereunder which the Indemnified
Party may make or incur relating to such Claim.
ARTICLE 8 - FAILURE TO SUPPLY, CHANGE OF CONTROL
OR INSOLVENCY EVENT
8.1 If GSI fails to supply the quantity of the OEM Balloon Dissectors on a
desired delivery date specified on a binding purchase order issued in compliance
with the terms of this Agreement (a "Failure to Supply Event") for any reason
other than those set forth under Article 14.8 below, and this failure lasts
longer than sixty (60) days from such desired delivery date, then so long as (i)
Ethicon is then in compliance with Articles 4.7 and 4.8 above at the time of
such Failure to Supply Event, and (ii) at such time, such event has not been
caused by Ethicon's failure to supply or have supplied components to GSI,
Ethicon shall thereafter have the right to immediately terminate this Agreement
upon written notice to GSI and to manufacture or have manufactured the Tissue
Dissectors. During such sixty (60) days, Ethicon agrees to cooperate with GSI
in any commercially reasonable manner in an effort to cure such event.
Additionally, if a Failure to Supply Event occurs following a Change of Control
or an Insolvency Event, and such failure lasts longer than thirty (30) days from
the date specified on the binding purchase order, then immediately upon written
notice to GSI, Ethicon shall have the right to immediately terminate this
Agreement and to manufacture or have manufactured the Tissue Dissectors. If
Ethicon exercises its rights under this Article 8.1, GSI grants Ethicon an
exclusive worldwide license in the Field under the GSI Patents to make, have
made, use or sell the Tissue Dissectors, rights under GSI's regulatory
clearances in the Field, including 510(K) Clearances, to market the Tissue
Dissectors, and all know-how necessary to make, have made, use or sell the
Tissue Dissectors in the Field, such license and rights to expire upon the date
when this Agreement would have expired without the intervention of this
paragraph (the "Default License"). In consideration for the grant of the
Default License, Ethicon shall pay GSI an earned royalty [ * * *]
per unit sold of the Tissue Dissectors (the "Default Royalty"). The royalty and
accounting provisions for paying such earned royalty are set forth in Appendix 3
attached to this Agreement. In the event Ethicon exercises its rights under
this Article 8.1, GSI shall make available to Ethicon all
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of the information then in GSI's possession or at its free disposal relating
to the manufacture of the Tissue Dissectors (including information placed in
escrow pursuant to Article 14.2 below).
8.1A If a Failure to Supply Event occurs for any reason set forth in
Article 14.8 below, then GSI shall have the option, upon written notice within
forty five (45) days of such event, to inform Ethicon of its inability to cure
such event within ninety (90) days of the desired delivery date specified on the
binding purchase order, and to agree to fully reimburse Ethicon for its costs in
connection with the manufacture of the Tissue Dissectors by or on behalf of
Ethicon for resale to its customers to satisfy forecasted demand (the "Default
Option"). If GSI elects the Default Option, and Ethicon correspondingly is
therefore capable of providing its customers with forecasted requirements, then
GSI may thereafter renew its exclusive distributorship arrangement with Ethicon
provided GSI once again satisfactorily meets Ethicon's requirements for
Regulatory Compliance and manufacturing capacity. If GSI does not elect the
Default Option, and such Failure to Supply Event lasts longer than ninety (90)
days from such desired delivery date, then upon written notice to GSI, Ethicon
may terminate this Agreement, and GSI thereafter grants Ethicon the Default
License to immediately manufacture or have manufactured the Tissue Dissectors.
During such ninety (90) days, Ethicon agrees to cooperate with GSI in any
commercially reasonable manner in an effort to cure such event. In
consideration of the Default License, Ethicon shall pay GSI the Default Royalty
for any units sold of the Tissue Dissectors. The royalty and accounting,
provisions for paying such earned royalty are set forth in Appendix 3 attached
to this agreement. In the event Ethicon exercises its rights under this
Article 8.1A, GSI shall make available to Ethicon all of the information then in
GSI's possession or at its free disposal related to the manufacture of the
Tissue Dissectors including information placed in escrow pursuant to
Article 14.2 below.
8.2 The remedy provided in Article 8.1 and 8.1A above for failure to
supply shall be in addition to and not in lieu of Ethicon's other remedies under
applicable law. However, notwithstanding the foregoing, in the event of such
failure to supply, Ethicon shall not be entitled to recover its lost profits or
other incidental or consequential damages from GSI.
ARTICLE 9 - PATENTS, TRADEMARKS AND SECRETS
9.1 PATENTS. During the time period preceding GSI's qualification as
Ethicon's OEM supplier of OEM Balloon Dissectors pursuant to Article 4.1 above,
Ethicon and its Affiliates shall have a worldwide, exclusive license in the
Field under the GSI Patents to make, have made, use or sell the Ethicon Balloon
Dissector (the "Pre-Qualification License"). During such time period, Ethicon
shall pay GSI an earned royalty [ * * *] per unit sold of the
Ethicon Balloon Dissector. The royalty and accounting provisions for paying
such earned royalty are set forth in Appendix 3 attached to this Agreement.
Following such time period, and when GSI becomes qualified, the
Pre-Qualification License shall expire, and Ethicon and its Affiliates shall
thereafter have a worldwide, exclusive license in the Field under the GSI
Patents to use or sell the Tissue Dissectors manufactured by or on behalf of GSI
for the remainder of the term of this Agreement or any extension thereof (the
Post-Qualification License). The parties acknowledge that the Pre-Qualification
License and the Post-Qualification License are subject to as of the Effective
Date hereof certain GSI International Distributorship Agreements, a list of
which is attached in Appendix 5, and GSI shall use its best efforts to either
terminate such agreements or allow such agreements to expire as promptly as
possible after the Effective Date hereof.
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9.1A Ethicon grants GSI a nonexclusive, worldwide license (to the extent
such license is available) outside the Field under any patents which it owns or
is empowered to grant a license thereunder to make, have made, use or sell
Tissue Dissectors. GSI will pay Ethicon an earned royalty of [ * *
*] per unit sold of such dissectors. The royalty and accounting provisions for
paying such earned royalties are set forth in Appendix 4 attached to this
Agreement.
9.2 PATENT ENFORCEMENT. The parties acknowledge that prior to the
Effective Date hereof, GSI has sued a third party having a significant presence
in the marketplace for Tissue Dissectors. GSI shall diligently prosecute such
suit until the litigation upon which such suit is founded results in such third
party voluntarily or involuntarily withdrawing such dissectors from the
marketplace in the Field. Furthermore, upon resolution of such suit, if another
third party is then or thereafter offers Tissue Dissectors for sale in the
Field, and such dissectors have a market share in the Field in the United States
of [ * * *] then GSI shall promptly sue such other third party for
patent infringement if such third party does not cease or continue to cease its
infringing activities, and GSI shall diligently prosecute such infringement suit
in the same manner as described in the preceding sentence. GSI does not have
any obligation to diligently prosecute more than one patent infringement suit at
any one time. If GSI fails to meet its obligations pursuant to this Article 9.2
after thirty days written notice from Ethicon, then the minimums set forth in
Article 4.6 above will be waived until such time as GSI once again fulfills its
obligations hereunder.
9.3 TRADEMARKS. Ethicon shall have the right to promote and sell the OEM
Balloon Dissectors under any trademark selected by Ethicon which trademark shall
be and shall remain the property of Ethicon. Nothing herein shall be deemed to
give one party, either during the term of this Agreement or thereafter, any
right to trademarks or copyrights of the other party or to their use except that
Ethicon shall have the right to use GSI's name in association with the marketing
and sale of the OEM Balloon Dissectors during the term of this Agreement or any
extension thereof if it chooses to do so, but such use by Ethicon shall be for
the benefit of GSI and Ethicon shall acquire no ownership rights to the GSI
Trademarks.
9.4 CONFIDENTIAL INFORMATION. All written information designated as
confidential and exchanged between GSI and Ethicon while this Agreement is in
effect shall be treated as confidential information. Neither party shall for
three (3) years after such exchange, use (other than in the performance of its
obligations hereunder) or disclose such information to any third party without
the prior written approval of the other party (other than in the performance of
its obligations hereunder), unless such information has become public knowledge
through no fault of the party receiving such information, or comes to such party
from a third party under no obligation of confidentiality with respect to such
information, or was in the possession of such party prior to the date of
disclosure, or is developed by or on behalf of such party without reliance on
confidential information received hereunder, or is requested to be disclosed in
compliance with applicable laws or regulations in connection with the sale of
the OEM Balloon Dissectors, or is otherwise required to be disclosed in
compliance with applicable law, an order by a court or other regulatory body
having competent jurisdiction, or is product-related information which is
reasonably required to be disclosed in connection with marketing the OEM Balloon
Dissectors. The obligations imposed by this section shall not limit any rights
provided to Ethicon pursuant to Article 8.1 above to manufacture or have
manufactured the OEM Balloon Dissectors following GSI's failure to supply
pursuant to this Agreement; provided that the disclosure of confidential
information to a
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CONFIDENTIAL TREATMENT REQUESTED
<PAGE>
third party (except as may be reasonably required in preliminary discussions
with such third party) for the purpose of enabling such party to manufacture
or distribute the OEM Balloon Dissectors shall be conditioned upon such third
party signing a confidentiality agreement prohibiting the disclosure of such
information to any other party and limiting the use of such information to
the manufacturing or distribution of the OEM Balloon Dissectors.
ARTICLE 10 - TERMINATION
10.1 This Agreement may be terminated by either party in the event the
other substantially fails to perform or otherwise substantially breaches any of
its obligations under this Agreement by giving written notice of its intent to
terminate and stating the grounds for termination. The party receiving the
notice shall have three (3) months from the date of receipt of the notice to
cure the failure or breach. In the event it is cured, the notice shall be of no
effect. In the event it is not cured, this Agreement then shall, without any
further action, terminate at the end of such three (3) month period. If the
failure to perform or other breach is due to circumstances covered under Article
14.8 below, then this subsection shall not apply until such circumstances have
ceased.
10.2 If Ethicon discovers a patent of a third party which Ethicon
reasonably believes, upon advice of patent counsel, covers in whole or in part
any aspect of the OEM Balloon Dissector or the Ethicon Balloon Dissector which
is then offered for sale by or for Ethicon, and if the parties are unable to
either design around such patent to the satisfaction of patent counsel for
Ethicon, or to obtain a license to such patent, within three months of Ethicon's
notice of such discovery to GSI, Ethicon may automatically terminate this
Agreement upon notice to GSI.
10.3 Ethicon may terminate this Agreement upon written notice pursuant to
the conditions set forth under Articles 8.1 and 8.1A above.
10.4 Termination of this Agreement for any reason shall not affect rights
and obligations of the parties accrued through the effective date of
termination, including without limitation indemnification provisions relating to
the OEM Balloon Dissectors manufactured or distributed by or on behalf of GSI
during the term of this Agreement or any extension thereof.
ARTICLE 11 - ARBITRATION OF DISPUTES
11.1 Any controversy or claim arising out of or relating to this Agreement,
except for any controversy regarding the validity of a patent licensed hereunder
by either party to the other, any claim seeking injunctive relief based on or
related to a claim of patent infringement, and the decision to enter into this
Agreement, shall be settled exclusively by binding arbitration by a single
arbitrator chosen by agreement of the parties, which agreement shall not be
unreasonably withheld. The law of the state where the arbitration is conducted
pursuant to Article 11.2 below shall apply to the arbitration proceeding
(without regard to its conflict of law principles). Judgment upon the award
rendered by the arbitrator may be entered in any court having jurisdiction over
the matter. In connection with any such arbitration, the prevailing party shall
be entitled to recover from the non-prevailing party reasonable expenses,
including, without limitation, reasonable attorneys' fees and reasonable
accountants' fees. If the arbitrator is unable to designate a prevailing party,
the arbitration award shall so state and the expenses shall be split equally
between the parties.
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<PAGE>
11.2 If Ethicon submits a claim or controversy to arbitration pursuant to
Article 11.1 above, then such arbitration shall be conducted in Palo Alto,
California. If GSI submits a claim or controversy to arbitration, then such
arbitration shall be conducted in Cincinnati, Ohio.
11.3 Notwithstanding any other provision hereof, any arbitration conducted
pursuant to this Article 11 shall adopt the procedural rules of the Federal
Rules of Civil Procedure and the evidentiary rules of the Federal Rules of
Evidence. The parties and the arbitrator shall use all reasonable efforts to
conclude arbitration proceedings within six (6) months from the date of
selection of the arbitrator. The arbitrator shall render a decision, setting
forth findings and conclusions of law, within thirty (30) days after completion
of hearing the arbitration evidence on the merits.
11.4 The arbitrator shall be bound by the express terms of this Agreement
and may not amend or modify such terms in any manner. Any award rendered by the
arbitrator shall be consistent with the terms of this Agreement, and such terms
shall control the rights and obligations of the parties. Notwithstanding
anything to the contrary set forth in this Agreement, in no event shall the
arbitrator be empowered to award exemplary, consequential or punitive damages,
and the parties shall be deemed to have waived any right to such damages. The
proceedings shall be confidential and the arbitrator shall issue appropriate
protective orders to safeguard both parties confidential information.
11.5 From the date one party notifies the other it wishes to commence an
arbitration proceeding until such time as the matter has been finally settled by
arbitration, the running of the time period set forth in Article 10.1 above, as
to which a party must cure a breach, shall be suspended as to the subject matter
of the dispute.
ARTICLE 12 - DISCLAIMER
12.1 Ethicon makes no representation or warranty that it will market the
OEM Balloon Dissectors (or the Ethicon Balloon Dissector), or if it does market
the OEM Balloon Dissectors (or the Ethicon Balloon Dissector), that the OEM
Balloon Dissectors (or the Ethicon Balloon Dissector) shall be the exclusive
means by which Ethicon shall participate in the marketing of surgical devices
for hernia repair and USI. Furthermore, all business decisions, including
without limitation, the design, manufacture, sale, price and promotion of the
OEM Balloon Dissectors (or the Ethicon Balloon Dissector) marketed under this
Agreement and the decision whether to sell the OEM Balloon Dissectors (or the
Ethicon Balloon Dissector) shall be within the sole discretion of Ethicon. GSI
realizes that Ethicon already sells a line of surgical devices for hernia repair
and USI and that Ethicon may itself or with others develop new surgical devices
which may compete with the OEM Balloon Dissectors (or the Ethicon Balloon
Dissector) sold under this Agreement.
ARTICLE 13 - AVAILABILITY OF EXPANDED FIELD
13.1 If an exclusive license becomes available to Ethicon from GSI in the
Expanded Field after the Effective Date hereof and before [ * * *],
GSI shall promptly notify Ethicon thereof in writing. If notice is provided
before [ * * *], then upon such notification, the parties shall
negotiate in good faith and enter into an Amendment to this Agreement within
thirty (30) days of such notification setting forth a grant from GSI to Ethicon
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CONFIDENTIAL TREATMENT REQUESTED
<PAGE>
and its Affiliates of a worldwide, exclusive license in the Expanded Field
under the GSI Patents effective the first day of availability of such
license. Such amendment shall set forth the modification of Articles 4.2,
4.3, 4.3A, 4.6, 8.1, 9.1, 9.1A, 9.2, 9.3, 12.1 and 14.1 of this Agreement,
and any other Articles the parties mutually agree to modify (collectively the
"Affected Articles"). If the parties are unable to agree on the terms for
such amendment within twenty (20) days of such notification, then the
presidents of the respective parties shall intervene directly in an attempt
to agree upon such terms. If the presidents of the respective parties are
unable to agree within the thirty (30) day period from GSI's notice to
Ethicon, then either party may submit the disagreement to binding arbitration
in accordance with Article 11 above for final resolution.
13.2 If and when the parties negotiate an Amendment to this Agreement upon
availability of a license in the Expanded Field pursuant to Article 13.1 above,
then the parties shall consider the guiding principles set forth in Principles
Side Letter, attached hereto as Appendix 4, as significant factors in reaching a
mutual agreement on the modification of the Affected Articles.
13.3 The terms and conditions of the Amendment to this Agreement which are
to be negotiated pursuant to Article 13.1 above shall be retroactive to the
first date of availability of a license in the Expanded Field.
13.4 If GSI does not provide notice of the availability of the Expanded
Field to Ethicon before [ * * *] and the Expanded Field or any
portion thereof thereafter becomes available, GSI shall not enter into any
agreement with a single distributor or OEM for exclusive rights at any time
within [ * * *] following the termination of this Agreement, or any
extension thereof, to supply Tissue Dissectors for resale in the Expanded Field
or any portion thereof to such party upon terms requiring such distributor or
OEM to make a Guaranteed Payment less than the midpoint of those terms last
offered in writing by GSI and by Ethicon.
ARTICLE 14 - MISCELLANEOUS
14.1 REPRESENTATIONS AND WARRANTIES. GSI expressly warrants and represents
that (a) it owns all of the right, title and interest in and to the Tissue
Dissectors supplied by or on behalf of GSI under this Agreement; (b) it is
empowered to supply the OEM Balloon Dissectors to Ethicon in the Field; (c) to
the best of its knowledge, either actual or constructive, it has no outstanding
encumbrances or agreements, including but not limited to the Existing OEM Supply
Agreement, or arrangements of any kind pursuant to which any entity is entitled
to purchase from GSI, or has the right to sell or market, the OEM Balloon
Dissectors or any component thereof in the Field; (d) it shall not enter into
any such agreements or arrangements during the term of this Agreement or any
extension thereof; (e) it is empowered to grant Ethicon an exclusive license of
the scope set forth in Article 8 above if Ethicon exercises its rights to such a
license; (f) it has the financial capacity to supply the OEM Balloon Dissectors
to Ethicon in view of the terms and conditions set forth in this Agreement; (g)
the "BONUTTI INVENTIONS" as defined in the Bonutti Agreement have in fact been
assigned to GSI; h) any licenses granted to Ethicon herein under the BONUTTI
INVENTIONS survive an Insolvency Event; (i) the BONUTTI INVENTIONS include all
counterparts to the patents and patent applications listed in the Bonutti
Agreement, including all continuations and divisionals thereof; (j) GSI owns all
of the BONUTTI INVENTIONS regardless whether GSI prosecutes or maintains patent
applications or patents thereon; (k) neither GSI nor Ethicon is required to
credit Bonutti on packaging inserts and labels which specify patent numbers for
the BONUTTI INVENTIONS; (l) any licenses or sublicenses granted to Ethicon
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CONFIDENTIAL TREATMENT REQUESTED
<PAGE>
herein under the Kieturakis Agreement survive the termination of such agreement,
and m) GSI neither has been nor is, as of the Effective Date hereof, in material
breach of the Bonutti Agreement or the Kieturakis Agreement, and GSI shall not
materially breach such agreements prior to the expiration or termination of this
Agreement, including extensions thereof.
14.2 ESCROW. GSI shall place with an escrow agent mutually acceptable to
GSI and Ethicon, a description of GSI's process for the manufacture of the OEM
Balloon Dissectors in sufficiently clear and detailed terms that it can be
readily followed and carried out by a trained scientist or engineer to make the
OEM Balloon Dissectors in the manner GSI considers most efficient. Furthermore,
should GSI alter, modify or change its process for manufacturing the OEM Balloon
Dissectors, GSI shall amend the description in escrow to include such
alteration, modification or change. The description held in escrow pursuant to
this Article 14.2, shall be available to Ethicon or its designee only in the
event GSI is unable to supply or fails to supply Ethicon with the OEM Balloon
Dissectors pursuant to this Agreement for any reason other than those set forth
under Article 14.8 below, or if a Change of Control or Insolvency Event occurs
and Ethicon exercises its rights under Article 8 above. Each party represents,
warrants and covenants, that it shall treat as confidential information in
accordance with Article 9.4 above any written information designated as
confidential concerning the other party disclosed in accordance with this Escrow
provision of this Agreement.
14.3 ASSIGNABILITY. Neither party shall transfer or assign this Agreement,
in whole or in part, without the prior written consent of the other party (which
shall not be unreasonably withheld); except that either party may, without such
consent, assign this Agreement to an Affiliate or with the sale of substantially
all of the assets of the business to which the OEM Balloon Dissectors relates.
14.4 NOTICES. All notices hereunder shall be in writing and shall be
deemed to have been duly given if delivered personally, one day after delivery
to a nationally recognized overnight delivery service, charges prepaid, three
days after sent by registered or certified mail, postage prepaid, or when
receipt is confirmed if by telex, facsimile or other telegraphic means:
In the case of GSI:
General Surgical Innovations, Inc.
3172-A Porter Drive
Palo Alto, CA 94304
Attn: Rod Young, President
With a copy to:
Venture Law Group
2800 Sand Hill Road
Menlo Park, CA 94025
Attn: Tae Hea Nahm
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<PAGE>
In the case of Ethicon:
Ethicon Endo-Surgery, Inc.
4545 Creek Road
Cincinnati, Ohio 45242
With a copy to:
Chief Patent Counsel
Johnson & Johnson
One Johnson & Johnson Plaza
New Brunswick, New Jersey 08933
Such addresses may be altered by written notice given in accordance with
this Article 14.4.
14.5 RELATIONSHIP OF PARTIES. The parties hereto are entering into this
Agreement as independent contractors, and nothing herein is intended or shall be
construed to create between the parties a relationship of principal and agent,
partners, joint venturers or employer and employee. Neither party shall hold
itself out to others or seek to bind or commit the other party in any manner
inconsistent with the foregoing provisions of this Article.
14.6 WAIVER. The failure of either party to enforce at any time for any
period the provisions of this Agreement shall not be construed to be a waiver of
such provisions or of the right of such party thereafter to enforce each such
provision.
14.7 GOVERNING LAW. This Agreement and its performance are to be governed
by the laws of the state where the arbitration occurs, except that the
arbitration provisions set forth in Article 11 above shall be governed by the
provisions of the Federal Arbitration Act as well as the laws of the state where
the arbitration occurs.
14.8 MAJOR FORCES. Subject to Ethicon's rights set forth in Article 8
above, neither party shall be responsible for and the terms of this Agreement
shall be inapplicable to any defaults or delays which are due to unforeseen
causes beyond the parties control including, but without limitation, acts of God
or public enemy, acts or other order of a government, particularly full market
approval by the United States Food and Drug Administration and any foreign
government equivalent approval, fire, flood or other natural disasters,
embargoes, accidents, explosions, strikes or other labor disturbances
(regardless of the reasonableness of the demands of labor), shortage of fuel,
power or raw materials, inability to obtain or delays of transportation
facilities, incidents of war, or other unforeseen events causing the inability
of a party, acting in good faith with due diligence, to perform its obligations
under this Agreement.
14.9 PUBLICITY. With respect to any other publicity, neither party shall
originate any such publicity, news release or public announcement, written or
oral, whether to the public or press, stockholders or otherwise, relating to
this Agreement, to any amendment or performances under the Agreement, save only
such announcements as in the opinion of counsel for the party
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CONFIDENTIAL TREATMENT REQUESTED
<PAGE>
making such announcement is required by law to be made. If a party decides
to make an additional announcement required by law under this Agreement, it
will give the other party thirty (30) days advance written notice, or any
shorter notice period otherwise required by law, of the text of the
announcement so that the other party will have an opportunity to comment upon
the announcement.
14.10 RELEASE FOR PAST INFRINGEMENT. GSI forever releases Ethicon from
any claims, liabilities, demands, damages, expenses and losses for patent
infringement which GSI may have had against Ethicon for the sale of the Ethicon
Balloon Dissector prior to the Effective Date hereof.
14.11 BANKRUPTCY. All rights and licenses granted under or pursuant to
this Agreement by GSI to Ethicon are, and shall otherwise be deemed to be, for
purposes of Section 365(n) of Title 11, U.S. Code (the "Bankruptcy Code"),
licenses of rights to "intellectual property" as defined in the Bankruptcy
Code. The parties agree that Ethicon, as a licensee of such rights under this
Agreement, shall retain and may fully exercise all of its rights and elections
under the Bankruptcy Code. GSI agrees during the term of this Agreement to
create and maintain current copies or, if not amenable to copying, detailed
descriptions or other appropriate embodiments, of all such intellectual
property. The parties further agree that, in the event of the commencement of a
bankruptcy proceeding by or against GSI under the Bankruptcy Code, Ethicon
shall be entitled to a complete duplicate of (or complete access to, as
appropriate) any such intellectual property and all embodiments of such
intellectual property, and same, if not already in its possession, shall be
promptly delivered to Ethicon (i) upon any such commencement of a bankruptcy
proceeding upon Ethicon's written request, unless GSI elects to continue to
perform all of its obligations under this Agreement, or (ii) if not delivered
under (i) above, upon the rejection of this Agreement by or on behalf of GSI
upon Ethicon's written request. All rights, powers and remedies of Ethicon
provided under this Article are in addition to and not in substitution for any
and all other rights, powers and remedies now or hereafter existing at law or in
equity in the event of any such commencement of a bankruptcy proceeding by or
against GSI.
14.12 ENHANCEMENTS. The parties agree to meet periodically at their
respective facilities to discuss proposed enhancements to the OEM Balloon
Dissectors. If Ethicon wishes to engage GSI's services to develop an enhanced
OEM Balloon Dissector and GSI wishes to perform such services, and Ethicon
agrees to pay for such services or any portion thereof, then Ethicon and GSI
shall enter into a development agreement in a form mutually acceptable to both
parties.
14.12A [ * * *] As of the Effective Date hereof, the
parties will use their reasonable commercial efforts [ * * *]. The
parties agree to cooperate to [ * * *] In addition, Ethicon will
[ * * *]. Within 30 days after the [ * * *].
The parties shall use good faith efforts to [ * * *].
14.13 IN NO EVENT SHALL EITHER PARTY BE LIABLE TO THE OTHER FOR ANY
CONSEQUENTIAL DAMAGES, HOWEVER CAUSED, ON ANY THEORY OF LIABILITY, WHETHER
CONTRACT, TORT (INCLUDING NEGLIGENCE) OR OTHERWISE, WHETHER OR NOT A PARTY HAS
BEEN ADVISED OF THE POSSIBILITY OF SUCH DAMAGE.
14.14 PRIOR UNDERSTANDINGS. The parties have, in this Agreement,
incorporated all representations, warranties, covenants, commitments and
understandings on which they have relied in entering into this Agreement and,
except as provided herein, the parties make no
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CONFIDENTIAL TREATMENT REQUESTED
<PAGE>
covenants or other commitments to the other concerning their future actions.
Accordingly, this Agreement
(i) constitutes the entire agreement and understanding between the
parties, and there are no promises, representations, conditions, provisions or
terms relating to it other than as set forth in this Agreement, and
(ii) supersedes all previous understandings, agreements and
representations between the parties, written or oral, relating to the subject
matter of this Agreement. This Agreement may be altered or amended only upon
mutual written consent.
14.15 COUNTERPARTS. This Agreement may be executed in any number of
counterparts, each of which shall be considered an original and all of which
taken together shall constitute one and the same instrument, provided that this
Agreement shall not become effective until each party has received the
counterparts executed by the other party.
The parties agree to the terms of this Agreement, as indicated by the
signatures of their respective corporate officers, duly authorized as of the
last date of signature below.
General Surgical Innovations Ethicon Endo-Surgery, Inc.
By: /s/ Rod Young By: /s/ Robert Salerno
----------------------------- -------------------------------
Rod Young, President Robert Salerno, Vice President
Business Development & Strategic Planning
Date: June 28, 1996 Date: June 28, 1996
--------------------------- ---------------------------
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<PAGE>
APPENDIX 1
TRANSFER PRICES
First OEM Balloon Dissector for Resale [ * * *]
First OEM Balloon Dissector for Samples [ * * *]
COMPONENTS
[ * * *] [ * * *] [ * * *]
[ * * *] [ * * *] [ * * *]
[ * * *] [ * * *] [ * * *]
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<PAGE>
APPENDIX 2
ETHICON STANDARD PURCHASE ORDER
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<PAGE>
APPENDIX 3
ROYALTY AND ACCOUNTING PROVISIONS
Ethicon shall keep accurate books and records of all payments due GSI.
Ethicon shall deliver to GSI written reports of the number of units sold of the
Ethicon Balloon Dissector during the preceding Accounting Quarter, on or before
the sixtieth day following the end of each Accounting Quarter. Such report
shall include a calculation of the earned royalty due and the earned royalty
payment.
GSI shall have the right to nominate an independent accountant acceptable
to and approved by Ethicon (which approval shall not be unreasonably withheld)
who shall have access to Ethicon's records during reasonable business hours for
the purpose of verifying, at GSI's expense, the royalty payable as provided for
in this Agreement for the two preceding years, but this right may not be
exercised more than once in any year. GSI shall solicit or receive only
information relating to the accuracy of the royalty report and the royalty
payments made. Ethicon shall be entitled to withhold approval of an accountant
which GSI nominates unless the accountant agrees to sign a confidentiality
agreement with Ethicon which shall obligate such accountant to hold the
information he receives from Ethicon in confidence, except for information
necessary for disclosure to GSI necessary to establish the accuracy of the
royalty reports.
The remittance of royalties payable on sales outside the United States will
be payable to the GSI in United States Dollar equivalents at the official rate
of exchange of the currency of the country from which the royalties are payable
as quoted by The Wall Street Journal, New York Edition, for the day upon which
the transfer of funds for the royalty payment is made. If the transfer or the
conversion into United States Dollar equivalents in any such instance is not
lawful or possible, the payment of such part of the royalties as is necessary
shall be made by the deposit thereof, in the currency of the country where the
sales were made on which the royalty was based, to the credit and account of GSI
or its nominee in any commercial bank or trust company of its choice located in
that country, prompt notice of which shall be given by Ethicon to GSI. In order
to facilitate payments from countries other than the United States, GSI shall,
whenever requested by Ethicon, enter into a direct agreement in writing with a
foreign affiliate of Ethicon. Such shall be obligated to remit any earned
royalties due for sales in such country directly to GSI, and GSI shall execute
such direct agreement as Ethicon may request which may be necessary to effect
such purpose. Such direct agreement shall provide generally for the payment of
earned royalties under the same terms as provided for herein, insofar as such
terms are lawful under the applicable laws and regulations of the particular
country. Notwithstanding the provisions of this paragraph, Ethicon shall remain
primarily liable for all payments due GSI.
Any tax required to be withheld on royalties payable to GSI under the laws
of any country, shall be promptly paid by Ethicon on behalf of GSI to the
appropriate governmental authority, and Ethicon shall furnish GSI with proof of
payment of such tax together with official or other appropriate evidence issued
by the appropriate governmental authority, sufficient to
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CONFIDENTIAL TREATMENT REQUESTED
<PAGE>
enable GSI to support a claim for income tax credit for the sum withheld.
Any such tax required to be withheld shall be an expense of GSI.
Notwithstanding whether the Ethicon Balloon Dissector is covered by more than
one patent, only one royalty payment shall be payable to consultant for the
Ethicon Balloon Dissector.
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<PAGE>
APPENDIX 4
GUIDING PRINCIPLES
The Principals wish to reflect the addition of the Expanded Field through a
modification of the Affected Articles which include the determination of
transfer prices, minimum purchases, and cash payments, if any, for the remainder
of the term of the contract.
MODIFIED AGREEMENT OBJECTIVE:
- --Ensure GSI's aggregate gross profit for its fiscal year 1997 which it would
have made from continued sales of SPACEMAKER Balloons following notice to
Ethicon of the availability of a license in the Expanded Field (the "Notice
Event"). The aggregate gross profit for 1997 will be determined by
extrapolating gross profits from sales of SPACEMAKER Balloons for the [* * *]
period immediately preceding the Notice Event (the "Trailing [* * *] Period")
through June 30, 1997. The parties will mutually agree on the specific method
of extrapolation. It is contemplated that this objective will be achieved by
modifying EES's minimum unit purchase/payment requirements or product transfer
prices payable from EES to GSI, or requiring EES to make a cash payment to GSI,
or a combination of any of these.
IN MEETING THESE OBJECTIVES, THE PARTIES WISH TO EXPLICITLY INCLUDE THE
FOLLOWING CONSIDERATIONS:
GSI CONSIDERATIONS:
Net Sales for the Trailing [* * *] Period (units and $$), Costs (Materials,
Labor, and Overhead (OH)) and gross profit (GP), for SPACEMAKER Balloons.
GSI overall gross profit margins.
EES CONSIDERATIONS:
Net Sales for the Trailing [* * *] Period (units and $$), Costs (Materials,
Labor, and Overhead, and gross profit) for EES Balloon Products in the Field.
Purchases from GSI and/or royalty payments to GSI during the Trailing [* * *]
Period.
EES forecasted purchases of SPACEMAKER Balloons.
EES selling expenses.
EES professional education expenses and commitments for continued education.
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MARKET CONDITIONS:
Sales (units and $$) and average sell price for SPACEMAKER Balloons during the
Trailing [* * *] Period.
Number of Customers for Tissue Products in the Expanded Field.
Industry Customary Distributor Gross Profit Margins.
Industry Customary Royalty Rates.
Industry pricing for proprietary technology (based upon number of competitors
offering clinical equivalent technology).
GENERAL:
Wherever possible, [* * * * ]will be involved and/or consulted.
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<PAGE>
APPENDIX 5
LIST OF INTERNATIONAL DISTRIBUTORS
-------------------------------------------------------
DISTRIBUTOR COUNTRY
-------------------------------------------------------
Blue Mountain International Korea
China
Hong Kong
Macau
-------------------------------------------------------
Escor Oy Finland
-------------------------------------------------------
PRIM Spain
Portugal
-------------------------------------------------------
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EXHIBIT 11.1
GENERAL SURGICAL INNOVATIONS, INC. AND SUBSIDIARY
COMPUTATION OF NET LOSS PER SHARE (1)
(In thousands, except per share data)
<TABLE>
<CAPTION>
Year Ended June 30,
-------------------------
1996 1995 1994
----- ----- ----
<S> <C> <C> <C>
Primary and Fully Diluted:
Weighted average common shares...... 4,201 3,295 3,112
Common and common equivalent shares
pursuant to Staff Accounting
Bulletin No. 83................... 3,201 3,201 3,201
------ ------ -------
Shares used in per share calculation... 7,411 6,496 6,313
------ ------ -------
------ ------ -------
Net loss............................... $(5,465) $(4,051) $(3,119)
------ ------ -------
------ ------ -------
Net loss per share..................... $ (0.74) $ (0.62) $ (0.49)
------ ------ -------
------ ------ -------
</TABLE>
- -----------------
(1) There is no difference between primary and fully diluted net loss per
share for all periods presented.
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> JUN-30-1996
<PERIOD-START> JUL-01-1995
<PERIOD-END> JUN-30-1996
<CASH> 28,339
<SECURITIES> 21,451
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0
0
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</TABLE>
