<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1998.
Commission file number: 0-28448
GENERAL SURGICAL INNOVATIONS, INC.
(Exact name of Registrant as specified in its charter)
CALIFORNIA 94-3160456
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
10460 BUBB ROAD, CUPERTINO, CALIFORNIA 95014
(Address of principal executive offices)
Registrant's telephone number, including area code: (408) 863-2500
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
There were approximately 13,441,974 shares of Registrant's Common Stock issued
and outstanding as of October 31, 1998.
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC.
QUARTERLY REPORT ON FORM 10-Q
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1998
TABLE OF CONTENTS
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<TABLE>
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PAGE
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PART I. FINANCIAL INFORMATION
Item 1. Condensed Financial Statements (Unaudited)
Condensed balance sheets at September 30, 1998
and June 30, 1998. . . . . . . . . . . . . . . . . . . . . . . . . 3
Condensed statements of operations and comprehensive loss
for the three months ended September 30, 1998 and September 30,
1997 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
Condensed statements of cash flows for the three months ended
September 30, 1998 and September 30, 1997. . . . . . . . . . . . . 5
Notes to condensed financial statements. . . . . . . . . . . . . . 6
Item. 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations. . . . . . . . . . . . . . . . . . . . . 7
Item 3. Quantitative and Qualitative Disclosures About Market Risk . . . .21
PART II. OTHER INFORMATION
Item 1. Legal Proceedings. . . . . . . . . . . . . . . . . . . . . . . . .21
Item 2. Changes in Securities and Use of Proceeds. . . . . . . . . . . . .22
Item 3. Defaults Upon Senior Securities. . . . . . . . . . . . . . . . . .23
Item 4. Submission of Matters to a Vote of Security Holders. . . . . . . .23
Item 5. Other Information. . . . . . . . . . . . . . . . . . . . . . . . .23
Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . . . . . .23
</TABLE>
2
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GENERAL SURGICAL INNOVATIONS, INC.
CONDENSED BALANCE SHEETS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
September 30, June 30,
1998 1998
------------- --------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents . . . . . . . . . . . . $ 17,065 $ 17,954
Available-for-sale securities . . . . . . . . . . 10,744 10,743
Accounts receivable, net. . . . . . . . . . . . . 1,847 1,043
Inventories . . . . . . . . . . . . . . . . . . . 1,547 1,284
Prepaid expenses and other current assets . . . . 691 733
--------- ----------
Total current assets . . . . . . . . . . . . 31,894 31,757
Available-for-sale securities, non-current . . . . . . 6,807 8,772
Property and equipment, net. . . . . . . . . . . . . . 2,182 2,101
Intangible and other assets, net . . . . . . . . . . . 409 194
--------- ----------
Total assets . . . . . . . . . . . . . . . . $ 41,292 $ 42,824
--------- ----------
--------- ----------
LIABILITIES
Current liabilities:
Accounts payable. . . . . . . . . . . . . . . . . $ 1,202 $ 910
Accrued liabilities . . . . . . . . . . . . . . . 2,060 1,316
Capital leases. . . . . . . . . . . . . . . . . . 14 14
Bank borrowings . . . . . . . . . . . . . . . . . 82 103
--------- ----------
Total current liabilities. . . . . . . . . . 3,358 2,343
Other long-term liabilities. . . . . . . . . . . . . . 94 149
Capital leases, less current portion . . . . . . . . . 8 12
Bank borrowings, less current portion. . . . . . . . . 61 82
--------- ----------
Total liabilities. . . . . . . . . . . . . . 3,521 2,586
--------- ----------
Contingencies (Note 4)
SHAREHOLDERS' EQUITY
Preferred stock, $.001 par value . . . . . . . . . . . - -
Common stock, $.001 par value. . . . . . . . . . . . . 13 13
Additional paid-in capital . . . . . . . . . . . . . . 65,300 65,290
Notes receivable from shareholders . . . . . . . . . . (87) (87)
Deferred compensation, net . . . . . . . . . . . . . . (125) (159)
Accumulated other comprehensive income . . . . . . . . 84 16
Accumulated deficit. . . . . . . . . . . . . . . . . . (27,414) (24,835)
--------- ----------
Total shareholders' equity . . . . . . . . . . . . . . 37,771 40,238
--------- ----------
Total liabilities and shareholders' equity . . . . . . $ 41,292 $ 42,824
--------- ----------
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</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED FINANCIAL
STATEMENTS.
3
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GENERAL SURGICAL INNOVATIONS, INC.
CONDENSED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended
September 30,
---------------------
1998 1997
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<S> <C> <C>
Sales . . . . . . . . . . . . . . . . . . . . . . . . $ 2,021 $ 1,567
Guaranteed payments. . . . . . . . . . . . . . . . . . - 775
-------- --------
Total revenue. . . . . . . . . . . . . . . . . . . . . 2,021 2,342
Cost of sales. . . . . . . . . . . . . . . . . . . . . 1,084 956
-------- --------
Gross profit. . . . . . . . . . . . . . . . . . . 937 1,386
-------- --------
Operating expenses:
Research and development. . . . . . . . . . . . . 744 765
Sales and marketing . . . . . . . . . . . . . . . 1,318 1,126
General and administrative. . . . . . . . . . . . 1,951 1,346
-------- --------
Total operating expenses. . . . . . . . . . . . . 4,013 3,237
-------- --------
Operating loss. . . . . . . . . . . . . . . . . . (3,076) (1,851)
Interest income. . . . . . . . . . . . . . . . . . . . 503 603
Interest expense . . . . . . . . . . . . . . . . . . . (6) (12)
-------- --------
Net loss. . . . . . . . . . . . . . . . . . . . . (2,579) (1,260)
Other comprehensive income:
Change in unrealized gain or loss on available-for-
sale securities . . . . . . . . . . . . . . . . . 68 51
-------- --------
Comprehensive loss. . . . . . . . . . . . . . . . $ (2,511) $ (1,209)
-------- --------
-------- --------
Net loss per common share and per common share-assuming
dilution. . . . . . . . . . . . . . . . . . . . . $ (0.19) $ (0.09)
-------- --------
-------- --------
Shares used in computing net loss per common share and
per common share-assuming dilution. . . . . . . . 13,439 13,314
-------- --------
-------- --------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED FINANCIAL
STATEMENTS.
4
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GENERAL SURGICAL INNOVATIONS, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended
September 30,
----------------------
1998 1997
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<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss . . . . . . . . . . . . . . . . . . . . . . . $ (2,579) $ (1,260)
Adjustments to reconcile net loss to net cash used in
operating activities:
Amortization of deferred compensation . . . . . . 34 34
Depreciation and amortization . . . . . . . . . . 208 282
Provision for uncollectible accounts. . . . . . . 8 16
Provision for excess and obsolete inventory . . . 32 (4)
Changes in operating assets and liabilities:
Accounts receivable. . . . . . . . . . . . . (812) 664
Inventories. . . . . . . . . . . . . . . . . (295) 232
Prepaid expenses and other current assets. . 42 (190)
Other assets . . . . . . . . . . . . . . . . (233) (2)
Accounts payable . . . . . . . . . . . . . . 292 105
Accrued liabilities. . . . . . . . . . . . . 689 (273)
---------- ---------
Net cash used in operating activities . (2,614) (396)
---------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of available-for-sale securities . . . . . . - (6,060)
Proceeds from sales and maturities of available-for-sale
securities. . . . . . . . . . . . . . . . . . . . 2,000 3,542
Acquisition of property and equipment. . . . . . . . . (239) (211)
---------- ---------
Net cash provided by (used in) investing
activities. . . . . . . . . . . . . . . 1,761 (2,729)
---------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock . . . . . . . . 10 25
Payments on capital lease obligations. . . . . . . . . (4) (5)
Principal payments on bank borrowings. . . . . . . . . (42) (42)
---------- ---------
Net cash used in financing activities . (36) (22)
---------- ---------
Net decrease in cash and cash equivalents. . . . . . . (889) (3,147)
Cash and cash equivalents, beginning of period . . . . 17,954 7,900
---------- ---------
Cash and cash equivalents, end of period . . . . . . . $ 17,065 $ 4,753
---------- ---------
---------- ---------
</TABLE>
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE CONDENSED FINANCIAL
STATEMENTS.
5
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GENERAL SURGICAL INNOVATIONS, INC.
NOTES TO CONDENSED FINANCIAL STATEMENTS
1. Basis of Presentation:
The accompanying unaudited condensed financial statements as of
September 30, 1998 of General Surgical Innovations, Inc. (the "Company") have
been prepared in accordance with generally accepted accounting principles for
interim financial information and pursuant to the instructions to Form 10-Q
and Article 10 of Regulation S-X. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements. In the opinion of management,
all adjustments, consisting of normal recurring adjustments, considered
necessary for a fair presentation have been included. Operating results for
the three month period ended September 30, 1998 are not necessarily
indicative of the results that may be expected for the fiscal year ending
June 30, 1999, or any future interim period.
These financial statements and notes should be read in conjunction with
the Company's audited financial statements and footnotes thereto included in
the Company's Annual Report on Form 10-K for the fiscal year ended June 30,
1998.
2. Computation of Net Loss per Common Share and per Common Share-Assuming
Dilution:
Effective December 15, 1997, the Company adopted Financial Accounting
Standards Board ("FASB") No. 128 "Earnings Per Share", and the provisions of
the Securities and Exchange Commission Staff Accounting Bulletin ("SAB 98"),
and accordingly all prior periods have been restated. Net loss per common
share and per common share-assuming dilution are computed using the weighted
average number of shares of common stock outstanding. Common equivalent
shares from stock options are excluded from the computation of net loss per
common share-assuming dilution as their effect is antidilutive. The Company
has determined that no incremental shares should be included in the
computations in accordance with SAB 98.
Stock options to purchase 1,867,247 and 1,230,056 shares of common stock
at prices ranging from $0.09 to $9.75 per share were outstanding at September
30, 1998 and September 30 1997, respectively, but were not included in the
computation of net loss per common share-assuming dilution because they were
antidilutive. The aforementioned stock options could potentially dilute
earnings per share in the future.
6
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3. Inventories:
Inventories comprise (IN THOUSANDS):
<TABLE>
<CAPTION>
Sept. 30, June 30,
1998 1998
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(unaudited)
<S> <C> <C>
Raw materials... . . . . . . . . . . . . . . . . . . . $ 1,014 $ 910
Work in progress.. . . . . . . . . . . . . . . . . . . 25 -
Finished goods.. . . . . . . . . . . . . . . . . . . . 508 374
-------- --------
$ 1,547 $ 1,284
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</TABLE>
4. Contingencies:
In May 1996, Origin Medsystems, Inc. ("Origin"), a unit of Guidant
Corporation, filed suit against GSI for infringement of U.S. Patent No.
5,520,609 in the United States District Court for the Northern District of
California. That suit was resolved in GSI's favor by judgment entered on May
15, 1998, finding Origin's patent unenforceable. Origin's appeal of that
judgment is pending, and is expected to be decided in 1999. The District
Court has also awarded $990,000 in attorneys' fees to GSI and Origin is
expected to appeal that ruling.
In June 1996, GSI filed an action against Origin in the U.S. District
Court for the Northern District of California alleging that the use of
Origin's products infringes GSI's U.S. Patent No. 5,514,153. In September
1997, the Company filed an action against Origin alleging that the use of
Origin's products infringes GSI's U.S. Patent No. 5,667,520. Both actions
are still pending. In the first action, the Court has ruled that all of
Origin's existing balloon dissection products infringe the claims of Patent
No. 5,514,153. Discovery is near completion in the second case. At present,
the first of these actions is scheduled for trial in early 1999 and the
second is expected to go to trial later in 1999. While the Company believes
it will be successful in these proceedings, there can be no assurance of such
success.
GSI is also involved in an interference proceeding in the U.S. Patent
Office to determine whether certain subject matter was first invented by
GSI's inventor. The priority portion of this interference has been decided in
GSI's favor by an arbitrator to whom this issue was referred. The
patentability portion of this interference was decided in GSI's favor by the
United States Patent and Trademark Office ("PTO"). Origin is expected to
appeal the PTO's decision, but GSI believes that the arbitrator's priority
decision is not appealable.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the
unaudited financial statements and notes thereto included in Part I, Item I
of this Quarterly Report and with Management's Discussion and Analysis of
Financial Condition and Results of Operations contained in the Company's
Annual Report on Form 10-K for the year ended June 30, 1998.
References made in this Quarterly Report on Form 10-Q to "General Surgical
Innovations, Inc.," the "Company" or the "Registrant" refer to General Surgical
Innovations, Inc. The following General Surgical Innovations, Inc. trademarks
are mentioned in this Quarterly Report: SPACEMAKER-Registered Trademark-,
SAPHtrak-Registered Trademark-,
7
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registered trademarks of the Company; ENDOSAPH-TM- and SPACEKEEPER-TM-,
trademarks of the Company.
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 seven 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, Europe, Asia and South
America for selected applications, such as hernia repair, subfascial
endoscopic perforator surgery, saphenous vein harvesting and breast
augmentation and reconstruction surgery.
In December 1996, the Company entered into a five year OEM supply
agreement (the "Expanded EES Agreement") with Ethicon Endo-Surgery, Inc.
("EES"), pursuant to which GSI granted EES worldwide sales and marketing
rights to sell the SPACEMAKER-Registered Trademark- surgical balloon
dissectors in the laparoscopic hernia repair and stress urinary incontinence
("SUI") markets. In February 1998, the Company and EES signed a non-exclusive
distribution agreement for the laparoscopic hernia repair and SUI markets.
This agreement supersedes the December 1996 Expanded EES Agreement.
In September 1998, the Company signed two non-exclusive, three-year
agreements with United States Surgical Corporation ("USSC"). Under the terms
of the first agreement, USSC has obtained non-exclusive rights to market and
distribute GSI's SPACEMAKER-Registered Trademark- surgical balloon dissectors
worldwide for use in hernia repair and incontinence procedures. Under the
terms of the second agreement, GSI has secured non-exclusive worldwide rights
to market and distribute several products, including USSC's 5mm mesh fixation
device, the ProTack-TM-, which is offered with GSI's balloon dissectors in a
complete hernia repair kit.
In October 1998, GSI entered into non-exclusive agreements with seven
leading surgical suppliers to distribute its SPACEMAKER-Registered
Trademark-surgical balloon dissector kits used for hernia repair in the
United States. The agreements provide for distribution of hernia kits in 31
States. The Company currently has a direct sales force covering the
remaining portion of the United States and has agreements with USSC and EES
to distribute these hernia repair products worldwide.
In addition, the Company currently sells its products (other than for
hernia and SUI applications) in international markets through other
distributors, which resell to surgeons and hospitals. At present, the Company
has exclusive distribution agreements with eight international distributors,
including Baxter International, to distribute GSI's cardiovascular products
in 18 European countries. In August 1997, the Company achieved compliance
with the requirements of the European Economic Area Medical Devices Directive
and the Company currently affixes CE markings on its products to attest to
such compliance.
During the first quarter of fiscal year 1999, the Company has increased
its direct sales force in the United States, and plans to continue this
expansion throughout the remainder of the fiscal year. Any increase in the
Company's direct sales force will require significant expenditures and
additional management resources.
8
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To date, the majority of the sales to distributors and by the Company's
direct sales force have been for use in hernia repair procedures. The
Company's initial market focus was the application of its
SPACEMAKER-Registered Trademark- balloon dissection technology for hernia
repair. Subsequent to this, the Company has developed additional products for
use in general surgery, as well as products for plastic surgery and
cardiovascular applications. The Company has completed marketing-related
clinical evaluations of, and has introduced products for, saphenous vein
harvesting, subfascial endoscopic perforator surgery (SEPS"), breast
augmentation and reconstruction procedures and SUI. The Company is currently
conducting additional marketing-related clinical evaluations for tissue
dissection/expansion.
While the Company has developed or is developing balloon dissection
systems for stress urinary incontinence, vascular and plastic surgery, sales
of products for hernia repair are expected to provide a majority of the
Company's revenues at least through fiscal 1999.
The Company has acquired rights to a significant number of patents 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 between one and four
percent of sales of such products, which payments are expected to exceed
certain minimum royalty payments due under the agreements with such parties.
The payment of such royalty amounts will have an adverse impact on the
Company's gross profit and results of operations.
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 fiscal 1999. The Company's
sales to date have consisted primarily of surgical balloon dissectors 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 surgical balloon dissectors for other applications, the Company
anticipates that it will be required to make significant additional
expenditures in sales and marketing, and in research and development
(including marketing-related clinical evaluations).
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.
RESULTS OF OPERATIONS
REVENUE. Total revenue, including product sales and guaranteed
payments, decreased by 14% to approximately $2.0 million for the quarter
ended September 30, 1998 from $2.3 million for the same period in 1997.
Product sales for the quarter ended September 30, 1998 reflect an increase of
29% over product sales for the quarter ended September 30, 1997. Revenues for
the first quarter of fiscal 1999 consisted entirely of product sales while
revenues for the first quarter of fiscal 1998 consisted of approximately $1.6
million in product sales and approximately $700,000 in guaranteed payments
from EES. The Company believes that its sales results will fluctuate from
quarter to quarter during at least the next several quarters.
COST OF SALES. Cost of sales increased by 13% to approximately $1.1
million for the quarter ended September 30, 1998 from $956,000 for the same
period in 1997. This increase in absolute dollars was due to an increase in
product sales over this same period. As a percentage of product sales,
cost of sales decreased from 61% in the first quarter of fiscal 1998 to 54%
in the first quarter of fiscal 1999 primarily due to higher production during
this time period.
9
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RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses,
which include expenditures for marketing-related clinical evaluations and
regulatory expenses, remained relatively stable at $744,000 in the quarter
ended September 30, 1998, compared to $765,00 for the same period on 1997.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased by 32% to approximately $3.3 million for
the quarter ended September 30, 1998 from $2.5 million for the quarter ended
September 30, 1997 primarily due to increased legal expenses related to
intellectual property litigation. The Company expects selling expenses to
continue to increase in absolute dollars as the Company continues to build
its sales infrastructure.
INTEREST INCOME AND INTEREST EXPENSE. Interest income and interest
expense decreased to $497,000 for the quarter ended September 30, 1998 from
$591,000 for the quarter ended September 30, 1997. The decrease is mainly
due to lower average cash, cash equivalents and available-for-sale securities
balances. Interest earned in the future will depend on the Company's funding
cycles and prevailing interest rates.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, the Company's cash expenditures have significantly
exceeded its sales, resulting in an accumulated deficit of approximately
$27.4 million at September 30, 1998. The Company has funded its operations
primarily through the sale of equity securities. From its inception through
September 30, 1998 the Company raised approximately $15.5 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 September 30, 1998 the Company's principal source of liquidity
consists of cash, cash equivalents and available-for-sale securities of $34.6
million. In addition, the Company has a bank line of credit available for
$5.0 million. As of September 30, 1998, the company has no amounts
outstanding under this line. The Company also has an equipment loan with an
outstanding balance of approximately $143,000.
The Company expects to continue to incur costs over the next fiscal
year, including costs related to increased sales and marketing activities,
increased research and development, additional marketing-related clinical
evaluations, and costs to defend its patent positions. 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 year 2000. 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 sought, will be available on
satisfactory terms or at all.
YEAR 2000 COMPLIANCE
The Year 2000 ("Y2K") issue arises from computer programs using two
digits rather than four to define the applicable year. Such software may
recognize a date using "00" as the year 1900 rather than the year 2000. This
could result in system failures or miscalculations leading to disruptions or
delays in the Company's activities and operations. If the Company, its key
customers or suppliers fail to make necessary modifications to their
information technology or non-information technology systems on a timely
basis, the Y2K issue could have a material adverse effect on Company
operations. However, the impact cannot be quantified at this time.
10
<PAGE>
In January 1998 the Company began to evaluate and assess the Company's
information technology and non-information technology systems for compliance
with the Y2K issue. The Company intends to fix or replace noncompliant
software and systems by March 31, 1999, but there can be no assurance that
such fixes or replacements will occur by such date. The Company is currently
conducting testing and remediation activities on its systems, and intends to
survey major customers and suppliers to assess their systems' compliance as
well as their systems' compatibility with the Company's existing or projected
compliant systems. There can be no assurance that there will not be an
adverse material effect on the Company's business, financial condition or
results of operations if the Company or its suppliers or customers do not
convert or replace their systems in a timely manner to comply with the Y2K
issue.
The Company's costs related to the Y2K issue are funded through
operating cash flows. Through September 30, 1998, the Company expended
approximately $5,000 in evaluating and planning. The Company estimates total
costs to be between $50,000 and $100,000 for fixing and replacing
noncompliant systems, including the cost of new software and modifying the
applicable code of existing software. The Company currently believes that
the total cost of achieving Y2K compliant systems will not be material to its
business, financial condition or results of operations. In the event that
the Company will be unable to achieve Y2K compliance in a timely manner with
existing personnel, as a contingency the Company expects to hire outside Y2K
solution providers to assist in achieving such compliance.
Time and cost estimates are based on currently available information.
Factors that could affect these estimates include, but are not limited to,
the availability and cost of trained personnel to evaluate and implement the
changes, the ability to locate and correct all noncompliant systems, and the
ability of the Company's customers and suppliers to successfully implement
Y2K compliant systems or fixes.
FACTORS AFFECTING FUTURE RESULTS
The following discussion should be read in conjunction with the
condensed financial statements and notes thereto included herein.
The Company desires to take advantage of the "safe harbor" provisions of
the Private Securities Litigation Reform Act of 1995. Specifically the
Company wishes to alert readers that, except for the historical information
contained in this Quarterly Report on Form 10-Q, 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, market demand for the Company's products,
the Company's ability to shift market focus successfully, the timing of
orders and shipments, the timely development and market acceptance of new
products and surgical procedures, the impact of performance of the Company's
distributors, the Company's ability to further expand into international
markets, public policy relating to health care reform in the United States
and other countries, approval of its products by government agencies such as
the United States Food and Drug Administration, 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. The factors listed below under "Factors Affecting Future
Results," as well as other factors, have in the past affected, and could in
the future affect, the Company's actual results and could cause the Company's
results for future periods to differ materially from those expressed in any
forward-looking statements contained in the following discussion.
11
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LIMITED OPERATING HISTORY; ANTICIPATED FUTURE LOSSES. The Company has a
limited operating history upon which an evaluation of the Company and its
prospects can be based. As of September 30, 1998, the Company had an
accumulated deficit of $27.4 million. The Company's net operating losses for
the fiscal years ending June 30, 1998, 1997 and 1996 and for the quarter
ended September 30, 1998 were $9.1 million, $1.9 million, $5.5 million and
$2.6 million, respectively. The Company expects to continue to incur
operating losses on a quarterly and annual basis through at least fiscal
1999. Due to the Company's limited operating history there can be no
assurance of sales growth or profitability in the future. The Company intends
to increase 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.
DEPENDENCE UPON BALLOON DISSECTION PRODUCTS; RISK OF TECHNOLOGICAL
OBSOLESCENCE. Nearly 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 market
acceptance of and demand for the Company's products and related procedures,
the nature of the technological advances inherent in the product designs,
reduction in patient trauma or other benefits provided by such products,
continued adoption of minimally invasive surgery ("MIS") procedures by
surgeons, 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 surgical balloon
dissectors 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.
DEPENDENCE ON KEY DISTRIBUTORS. In February 1998, the Company replaced
its five-year OEM supply agreement with EES with a non-exclusive distribution
agreement which granted EES worldwide sales and marketing rights to sell the
SPACEMAKER-Registered Trademark- surgical balloon dissectors in the
laparoscopic hernia repair and stress urinary incontinence ("SUI") markets.
Unlike the prior EES OEM Agreement, this new EES non-exclusive agreement does
not provide for any minimum payments from EES to the Company. In December
1997, the Company entered into a four-year distribution agreement with
Genzyme Surgical Products Corporation ("Genzyme"). Under the agreement,
Genzyme has exclusive rights to market and distribute GSI's surgical surgical
balloon dissectors worldwide for use in reconstructive and cosmetic plastic
surgery procedures. In September 1998, the Company signed a non-exclusive,
three-year agreement with United States Surgical Corporation ("USSC"). Under
the terms of the agreement, USSC has obtained non-
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exclusive rights to market and distribute GSI's SPACEMAKER-Registered
Trademark- surgical balloon dissectors worldwide for use in hernia repair and
incontinence procedures.
The Company's products are sold internationally to hospitals, surgeons
and specialists through USSC, EES and independent distributors in Europe,
Asia, Latin America and the Middle East.
During the third quarter of fiscal year 1998, the Company expanded its
international distribution network by adding eight international
distributors, including Baxter International, to distribute its
cardiovascular products. Although the Company intends to continue to
establish additional distributorships in the United States and
internationally for products in areas other than certain plastic surgery
procedures, there can be no assurance that recently appointed distributors
will be successful, or that efforts to establish additional distributors will
be successful. Failure of current distributors to succeed, or failure to add
additional distributors to its distribution network, could have a material
adverse effect on the Company's business, financial condition and results of
operations.
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 to the hernia market and, to a lesser degree, to the
cardiovascular and cosmetic and reconstructive surgery markets. The Company
intends to establish relationships with additional distribution partners, and
there can be no assurance that the Company will be successful in establishing
such 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.
UNCERTAINTY OF MARKET ACCEPTANCE; NO ASSURANCE OF CLINICAL ADVANTAGE.
The Company's success is substantially dependent upon the success of its
SPACEMAKER-Registered Trademark- 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, clinical advantage 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 surgical techniques and treatments
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-Registered Trademark- balloon dissection 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
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third-party reimbursement, and the failure 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.
The Company introduced its surgical 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 surgical balloon dissectors are incorporated into laparoscopic
techniques less often or that surgeons are unwilling or unable to develop the
skills necessary to utilize surgical balloon dissectors, the Company's
business, financial condition and results of operations could be materially
adversely affected.
FLUCTUATIONS IN QUARTERLY RESULTS. Results of the Company's operations
may fluctuate significantly from quarter to quarter and will depend on
numerous factors, including (i) fluctuations in purchases of the Company's
products by its distributors, (ii) the ability of the Company's distributors
to effectively promote and sell the Company's products, (iii) the rate of
adoption by surgeons of balloon dissection technology in markets targeted by
the Company, (iv) the mix of sales among distributors and the Company's
direct sales force, (v) the timing and cost of increasing the Company's
direct domestic sales force, (vi) the expansion of the Company's distribution
network, (vii) new product introductions by the Company and its competitors,
(viii) fluctuations in revenues among different product lines and markets,
(ix) timing of patent and regulatory approvals, if any, (x) intellectual
property litigation, (xi) timing and growth of operating expenses and (xii)
general market conditions.
In December 1996, the Company entered into the Expanded Ethicon
Agreement, pursuant to which EES made approximately $4.9 million in
guaranteed payments to the Company in fiscal year 1997, which constituted 54%
of revenues for fiscal year 1997 and payments by mutual consent of $775,000
in the first quarter of fiscal year 1998 and $860,000 in the second quarter
of fiscal 1998. The company and EES entered into a nonexclusive distribution
agreement for the laparoscopic hernia repair and stress urinary incontinence
markets in February 1998, which supersedes the Expanded Ethicon Agreement and
which does not include a provision for minimum quarterly payments. The
Company anticipates that sales to EES may decrease in the future. Failure by
EES to achieve certain levels of sales growth or purchases could adversely
affect the Company's operating results. In September 1998, the Company signed
two non-exclusive, three-year agreements with United States Surgical
Corporation. Under the terms of the first agreement, USSC has obtained
non-exclusive rights to market and distribute GSI's SPACEMAKER-Registered
Trademark- surgical balloon dissectors worldwide for use in hernia repair and
incontinence procedures. Under the terms of the second agreement, GSI has
secured non-exclusive worldwide rights to market and distribute several
products, including USSC's 5mm mesh fixation device, the ProTack-TM-, which
is offered with GSI's balloon dissectors in a complete hernia repair kit.
Failure by the Company or USSC to achieve certain levels of sales growth or
purchases could adversely affect the Company's operating results. In
addition, announcements or expected announcements by the Company, its
competitors or its distributor 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
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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. There can be
no assurance that in the future the Company will achieve sales growth or
become profitable on a quarterly or annual basis, if at all, or that its
growth, if any, 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.
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.
In May 1996, Origin Medsystems, Inc. ("Origin"), a unit of Guidant
Corporation, filed suit against GSI for infringement of U.S. Patent No.
5,520,609 in the United States District Court for the Northern District of
California. That suit was resolved in GSI's favor by judgment entered on May
15, 1998, finding Origin's patent unenforceable. Origin's appeal of that
judgment is pending and is expected to be decided in 1999. The District Court
has also awarded $990,000 in attorneys' fees to GSI and Origin is expected to
appeal that ruling.
In June 1996, GSI filed an action against Origin in the U.S. District
Court for the Northern District of California alleging that the use of
Origin's products infringes GSI's U.S. Patent No. 5,514,153. In September
1997, the Company filed an action against Origin alleging that the use of
Origin's products infringes GSI's U.S. Patent No. 5,667,520. Both actions
are still pending. In the first action, the Court has ruled that all of
Origin's existing balloon dissection products infringe the claims of Patent
No. 5,514,153. Discovery is near completion in the second case. At present,
the first of these actions is scheduled for trial in early 1999 and the
second is expected to go to trial later in 1999. While the Company believes
it will be successful in these proceedings, there can be no assurance of such
success.
GSI is also involved in an interference proceeding in the U.S. Patent
Office to determine whether certain subject matter was first invented by
GSI's inventor. The priority portion of this interference has been decided in
GSI's favor by an arbitrator to whom this issue was referred. The
patentability portion of this interference was decided in GSI's favor by the
United States Patent and Trademark Office ("PTO"). Origin is expected to
appeal the PTO's decision, but GSI believes that the arbitrator's priority
decision is not appealable.
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 would have a material adverse effect
on the Company's business, financial condition and results of operations. As
discussed above, the Company is defending itself, and may in the future have
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.
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
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Company's patents or patents to which it has licensed rights will be held
valid under current challenges or if subsequently challenged or that persons
or entities in addition to Origin 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.
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.
ROYALTY PAYMENT OBLIGATIONS. The Company has acquired rights to patents
from third parties, including rights that apply to the Company's current
surgical balloon dissectors. The Company has historically paid and is
obligated to pay in the future to such third parties royalties equal to
between one and four percent of sales of such products, which payments are
expected to exceed minimum royalty payments due under agreements with such
parties. 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 has limited experience in
manufacturing, marketing and selling its products commercially. In addition,
the Company has experienced rapid growth in the number of products under
development, the number and amount of products manufactured, and the
geographic scope of its sales. In order to augment its long-term competitive
position, the Company anticipates that it will be required to make
significant additional expenditures in research and development and sales and
marketing. 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
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the Company's competitors will not succeed in developing surgical 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 surgical balloon dissectors 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 surgical 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 development of its surgical balloon
dissectors, 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 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.
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
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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 surgical 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 the surgical 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 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 adverse effect on the Company's business, financial condition
and results of operations.
GOVERNMENT REGULATION. The Company's SPACEMAKER-Registered
Trademark-surgical balloon dissectors 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-Registered Trademark- I platform,
SPACEMAKER-Registered Trademark- II platform, SPACEMAKER-Registered
Trademark-Plastics platform, SPACEMAKER-Registered Trademark-
SAPHtrak-Registered Trademark- platform and KnotMaker-TM- product each have
received 510(k) clearance for use during general, endoscopic, laparoscopic or
cosmetic and reconstructive surgery, and certain vascular surgery (including
saphenous vein procedures) when tissue dissection is required. The
Company has promoted these products for surgical applications (E.G., hernia
repair, subfascial endoscopic perforator surgery, breast augmentation and
reconstruction, treatment of stress urinary incontinence and saphenous vein
harvesting), and may in the future promote these products for the dissection
required for additional selected applications (E.G. tissue
dissection/expansion and a variety of orthopedic procedures such as anterior
spinal fusion and long-bone plating). For any medical device cleared through
the 510(k) process, modifications or enhancements that could
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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.
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 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.
LIMITED MANUFACTURING EXPERIENCE. The Company has only limited
experience in manufacturing its products in commercial quantities. The
Company intends to scale up its production of 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.
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, if at all. 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 attempts to identify and certify
a replacement supplier, if any, and could have a material adverse effect on
the Company's business, financial condition and results of operations.
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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
cause or are alleged to have caused adverse effects on a patient or such
products are believed to be defective. The 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.
RISKS ASSOCIATED WITH INTERNATIONAL SALES. Sales outside of the United
States accounted for approximately .2%, .4% and .5% of the Company's sales in
the quarter ended September 30, 1998, and for the fiscal years ended June 30,
1998 and 1997, respectively. 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.
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. The market prices of the Company's
common stock and the stock of many other publicly held medical device
companies have in the past been, and can in the future be expected to be,
especially volatile. Announcements regarding competitive developments,
product sales, 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. 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.
20
<PAGE>
YEAR 2000 COMPLIANCE. The Year 2000 ("Y2K") issue arises from computer
programs using two digits rather than four to define the applicable year.
Such software may recognize a date using "00" as the year 1900 rather than
the year 2000. This could result in system failures or miscalculations
leading to disruptions or delays in the Company's activities and operations.
If the Company, its key customers or suppliers fail to make necessary
modifications to their information technology or non-information technology
systems on a timely basis, the Y2K issue could have a material adverse effect
on Company operations. However, the impact cannot be quantified at this time.
In January 1998 the Company began to evaluate and assess the Company's
information technology and non-information technology systems for compliance
with the Y2K issue. The Company intends to fix or replace noncompliant
software and systems by March, 31, 1999, but there can be no assurance that
such fixes or replacements will occur by such date. The Company is currently
conducting testing and remediation activities on its systems, and intends to
survey major customers and suppliers to assess their systems' compliance as
well as their systems' compatibility with the Company's existing or projected
compliant systems. There can be no assurance that there will not be an
adverse material effect on the Company's business, financial condition or
results of operations if the Company or its suppliers or customers do not
convert or replace their systems in a timely manner to comply with the Y2K
issue. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Year 2000 Compliance."
RECENT PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 131 ("SFAS 131"), "Disclosures about
Segments of an Enterprise and Related Information." This statement
establishes standards for disclosure about operating segments in annual
financial statements and selected information in interim financial reports.
It also establishes standards for related disclosures about products and
services, geographic areas and major customers. This statement supersedes
Statement of Financial Accounting Standards No. 14, "Financial Reporting for
Segments of a Business Enterprise." The new standard becomes effective for
fiscal years beginning after December 15, 1997, and requires that comparative
information from earlier years be restated to conform to the requirements of
this standard. The Company is evaluating the requirements of SFAS 131 and
the effects, if any, on the Company's current reporting and disclosures.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company had no holdings of derivative financial or commodity
instruments at September 30, 1998. A review of the Company's other financial
instruments and risk exposures at that date revealed that the Company had
exposure to interest rate risk. At September 30, 1998 the Company performed
sensitivity analyses to assess the potential effect of this risk and
concluded that near-term changes in interest rates should not materially
adversely affect the Company's financial position, results of operations or
cash flows.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
21
<PAGE>
In May 1996, Origin Medsystems, Inc. ("Origin"), a unit of Guidant
Corporation, filed suit against GSI for infringement of U.S. Patent No.
5,520,609 in the United States District Court for the Northern District of
California. That suit was resolved in GSI's favor by judgment entered on May
15, 1998, finding Origin's patent unenforceable. Origin's appeal of that
judgment is pending and is expected to be decided in 1999. The District Court
has also awarded $990,000 in attorneys' fees to GSI and Origin is expected to
appeal that ruling.
In June 1996, GSI filed an action against Origin in the U.S. District
Court for the Northern District of California alleging that the use of
Origin's products infringes GSI's U.S. Patent No. 5,514,153. In September
1997, the Company filed an action against Origin alleging that the use of
Origin's products infringes GSI's U.S. Patent No. 5,667,520. Both actions
are still pending. In the first action, the Court has ruled that all of
Origin's existing balloon dissection products infringe the claims of Patent
No. 5,514,153. Discovery is near completion in the second case. At present,
the first of these actions is scheduled for trial in early 1999 and the
second is expected to go to trial later in 1999. While the Company believes
it will be successful in these proceedings, there can be no assurance of such
success.
GSI is also involved in an interference proceeding in the U.S. Patent
Office to determine whether certain subject matter was first invented by
GSI's inventor. The priority portion of this interference has been decided in
GSI's favor by an arbitrator to whom this issue was referred. The
patentability portion of this interference was decided in GSI's favor by the
United States Patent and Trademark Office ("PTO"). Origin is expected to
appeal the PTO's decision, but GSI believes that the arbitrator's priority
decision is not appealable.
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, except for the patent interference
and infringement proceedings discussed herein.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
In connection with its initial public offering in 1996, the Company
filed a Registration Statement on Form S-1, SEC File No. 333-2774 (the
"REGISTRATION STATEMENT"), which was declared effective by the Commission on
May 9, 1996. Pursuant to the Registration Statement, the Company registered
and sold 3,450,000 shares of its Common Stock, $0.001 par value per share,
for its own account. The offering commenced on May 10, 1996 and terminated
when all of the registered shares had been sold. The aggregate offering
price of the registered shares was $51,750,000. The managing underwriters of
the offering were Cowen & Company and UBS Securities LLC.
From May 10, 1996 to September 30, 1998, the Company incurred the
following expenses in connection with the offering:
<TABLE>
<S> <C>
Underwriting discounts and commissions. . . . . . $3,622,500
Other expenses. . . . . . . . . . . . . . . . . . $1,187,025
----------
Total Expenses . . . . . . . . . . . . . . . $4,809,525
</TABLE>
All of such expenses were direct or indirect payments to others.
The net offering proceeds to the Company after deducting the total
expenses above were $46,940,475. From May 10, 1996 to September 30, 1998,
the Company used such net offering proceeds, in direct or indirect payments
to others, as follows:
22
<PAGE>
<TABLE>
<S> <C>
Construction of plant, building and facilities $ 1,227,065
Purchase and installment of machinery and equipment $ 1,520,383
Repayment of indebtedness $ 856,970
Working capital $25,011,284
-----------
Total $28,615,702
</TABLE>
This use of proceeds does not represent a material change in the use of
proceeds described in the prospectus of the Registration Statement.
ITEM 3. DEFUALTS IN SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit Description
------- -----------
27.1 Financial Data Schedule
10.25 Consulting Agreement between the Company and Roderick A. Young,
dated as of November 1, 1998.
10.26 Promissory Note and Bonus Agreement between the Company and
Gregory D. Casciaro dated as of September 3, 1998.
(b) Reports on Form 8-K
The Company filed no reports on Form 8-K during the quarter ended
September 30, 1998.
23
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized.
GENERAL SURGICAL INNOVATIONS, INC.
By: /s/ STEPHEN J. BONELLI
----------------------------------
Stephen J. Bonelli
Vice President, Finance and Administration
Principal and Chief Financial Officer
Date: November 13, 1998
24
<PAGE>
GENERAL SURGICAL INNOVATIONS, INC.
CONSULTING AGREEMENT
This Consulting Agreement (the "AGREEMENT") is entered into by and
between General Surgical Innovations, Inc. (the "COMPANY") and Roderick Young
("CONSULTANT"), effective as of this 1st day of November, 1998 (the
"Effective Date").
1. CONSULTING RELATIONSHIP. Beginning on the Effective Date and
during the term of this agreement, Consultant will provide consulting
services (the "SERVICES") to the Company as described on EXHIBIT A attached
to this Agreement. Consultant shall use Consultant's best efforts to perform
the Services in a manner satisfactory to the Company.
2. FEES; SUPPORT. As consideration for the Services to be provided by
Consultant and other obligations, the Company will compensate Consultant as
described in EXHIBIT B to this Agreement. As additional consideration for
the Services, the Company will provide Consultant with such support
facilities and space as may be required in the Company's judgment to enable
Consultant to properly perform the Services.
3. EXPENSES. Consultant shall not be authorized to incur on behalf of
the Company any expenses, except in compliance with the Company's policies
without the prior written consent of the Company's Chief Financial Officer.
As a condition to receipt of reimbursement, Consultant shall be required to
submit to the Company reasonable evidence that the amount involved was
expended and related to Services provided under this Agreement.
4. TERM AND TERMINATION. Consultant shall serve as a consultant to
the Company for a period commencing on the Effective Date and terminating on
the earlier of: (i) April 1, 1999, (ii) the date Consultant begins rendering
services as an employee or consultant in excess of thirty hours per week to
any person or entity other than the Company, or (iii) Consultant's
termination of this Agreement at any time upon ten (10) days' written notice
to the Company (which date shall be the "TERMINATION DATE").
5. INDEPENDENT CONTRACTOR. Consultant's relationship with the Company
will be that of an independent contractor and not that of an employee.
Consultant will not be eligible for any employee benefits, nor will the
Company make deductions from payments made to Consultant for taxes, all of
which will be Consultant's responsibility. Consultant agrees to indemnify
and hold the Company harmless from any liability for, or assessment of, any
such taxes imposed on the Company by relevant taxing authorities. Consultant
will have no authority to enter into contracts that bind the Company or
create obligations on the part of the Company without the prior written
authorization of the Company.
6. SUPERVISION OF CONSULTANT'S SERVICES. All services to be performed
by Consultant, including but not limited to the Services, will be as agreed
between Consultant and the Company's Chief Executive Officer. Consultant
will be required to report to the Chief
<PAGE>
Executive Officer concerning the Services performed under this Agreement.
The nature and frequency of these reports will be left to the discretion of
the Chief Executive Officer.
7. CONSULTING OR OTHER SERVICES FOR COMPETITORS. Consultant
represents and warrants that Consultant will not, during the term of this
Agreement, perform any consulting or other services for any company, person
or entity whose business or proposed business in any way involves products or
services which could reasonably be determined to be competitive with the
products or services or proposed products or services of the Company.
8. CONFIDENTIALITY AGREEMENT. Consultant has signed a Confidential
Information and Invention Assignment Agreement substantially in the form
attached to this Agreement as EXHIBIT C (the "CONFIDENTIALITY AGREEMENT"),
prior to the date hereof.
9. CONFLICTS WITH THIS AGREEMENT. Consultant represents and warrants
that Consultant is not under any pre-existing obligation in conflict or in
any way inconsistent with the provisions of this Agreement. Consultant
warrants that Consultant has the right to disclose or use all ideas,
processes, techniques and other information, if any, which Consultant has
gained from third parties, and which Consultant discloses to the Company in
the course of performance of this Agreement, without liability to such third
parties. Consultant represents and warrants that Consultant has not granted
any rights or licenses to any intellectual property or technology that would
conflict with Consultant's obligations under this Agreement. Consultant will
not knowingly infringe upon any copyright, patent, trade secret or other
property right of any former client, employer or third party in the
performance of the services required by this Agreement.
10. STOCK VESTING. As of the date hereof, Consultant owns options to
purchase an aggregate of 159,817 shares of Common Stock of the Company. Such
options shall continue to vest in accordance with their vesting schedules on
EXHIBIT D until the Termination Date, PROVIDED, HOWEVER, that if Consultant
terminates this Agreement pursuant to subsection 4(iii) Consultant will not
be eligible to exercise any options that were repriced in October, 1998.
11. MISCELLANEOUS.
(a) AMENDMENTS AND WAIVERS. Any term of this Agreement may be
amended or waived only with the written consent of the parties.
(b) SOLE AGREEMENT. This Agreement, including the Exhibits
hereto, constitutes the sole agreement of the parties and supersedes all oral
negotiations and prior writings with respect to the subject matter hereof.
The parties hereby agree and acknowledge that the Change of Control Agreement
between the Company and Consultant dated January 20, 1998 is hereby
terminated as of the Effective Date. The parties hereby agree and
acknowledge that the offer letter between the Company and Consultant is
hereby terminated as of the Effective Date.
(c) NOTICES. Any notice required or permitted by this Agreement
shall be in writing and shall be deemed sufficient upon receipt, when
delivered personally or by courier,
-2-
<PAGE>
overnight delivery service or confirmed facsimile, or forty-eight (48) hours
after being deposited in the regular mail as certified or registered mail
(airmail if sent internationally) with postage prepaid, if such notice is
addressed to the party to be notified at such party's address or facsimile
number as set forth below, or as subsequently modified by written notice.
(d) CHOICE OF LAW. The validity, interpretation, construction and
performance of this Agreement shall be governed by the laws of the State of
California, without giving effect to the principles of conflict of laws.
(e) SEVERABILITY. If one or more provisions of this Agreement are
held to be unenforceable under applicable law, the parties agree to
renegotiate such provision in good faith. In the event that the parties
cannot reach a mutually agreeable and enforceable replacement for such
provision, then (i) such provision shall be excluded from this Agreement,
(ii) the balance of the Agreement shall be interpreted as if such provision
were so excluded and (iii) the balance of the Agreement shall be enforceable
in accordance with its terms.
(f) COUNTERPARTS. This Agreement may be executed in counterparts,
each of which shall be deemed an original, but all of which together will
constitute one and the same instrument.
(g) ARBITRATION. Any dispute or claim arising out of or in
connection with any provision of this Agreement, excluding Section 7 hereof,
will be finally settled by binding arbitration in Santa Clara County,
California in accordance with the rules of the American Arbitration
Association by one arbitrator appointed in accordance with said rules. The
arbitrator shall apply California law, without reference to rules of
conflicts of law or rules of statutory arbitration, to the resolution of any
dispute. Judgment on the award rendered by the arbitrator may be entered in
any court having jurisdiction thereof. Notwithstanding the foregoing, the
parties may apply to any court of competent jurisdiction for preliminary or
interim equitable relief, or to compel arbitration in accordance with this
paragraph, without breach of this arbitration provision. This Section 11(g)
shall not apply to the Confidentiality Agreement.
(h) ADVICE OF COUNSEL. EACH PARTY ACKNOWLEDGES THAT, IN EXECUTING
THIS AGREEMENT, SUCH PARTY HAS HAD THE OPPORTUNITY TO SEEK THE ADVICE OF
INDEPENDENT LEGAL COUNSEL, AND HAS READ AND UNDERSTOOD ALL OF THE TERMS AND
PROVISIONS OF THIS AGREEMENT. THIS AGREEMENT SHALL NOT BE CONSTRUED AGAINST
ANY PARTY BY REASON OF THE DRAFTING OR PREPARATION HEREOF.
-3-
<PAGE>
The parties have executed this Agreement on the respective dates set forth
below.
GENERAL SURGICAL INNOVATIONS, INC.
By: /s/ Gregory Casciaro
------------------------------
Name: Gregory Casciaro
---------------------------
Title: Chief Executive Officer
-------------------------
10460 Bubb Road
Cupertino, CA 95014
Date: November 13, 1998
----------------------------
RODERICK YOUNG
/s/ Roderick Young
----------------------------------
Signature
Address: 679 Mirada Avenue
Stanford, CA 94305
-------------------------
Date: November 12, 1998
----------------------------
SIGNATURE PAGE TO GENERAL SURGICAL INNOVATIONS, INC. CONSULTING AGREEMENT
<PAGE>
EXHIBIT A
DESCRIPTION OF CONSULTING SERVICES
Consulting to the Chief Executive Officer and the Board of Directors
with regard to strategic business considerations, with specific projects to
be as mutually determined by the Consultant and the Chief Executive Officer.
<PAGE>
EXHIBIT B
COMPENSATION
Consultant shall be paid the following monthly fees payable in
accordance with the Company's normal payroll policies:
<TABLE>
<S> <C>
November 1998 $10,000
December 1998 $10,000
January 1998 $10,000
February 1998 $5,000
March 1998 $5,000
</TABLE>
<PAGE>
THE SECURITIES REPRESENTED BY THIS CERTIFICATE HAVE NOT BEEN REGISTERED UNDER
THE SECURITIES ACT OF 1933, AND HAVE BEEN ACQUIRED FOR INVESTMENT AND NOT
WITH A VIEW TO, OR IN CONNECTION WITH, THE SALE OR DISTRIBUTION THEREOF. NO
SUCH SALE OR DISTRIBUTION MAY BE EFFECTED WITHOUT AN EFFECTIVE REGISTRATION
STATEMENT RELATED THERETO OR AN OPINION OF COUNSEL IN A FORM SATISFACTORY TO
THE COMPANY THAT SUCH REGISTRATION IS NOT REQUIRED UNDER THE SECURITIES ACT
OF 1933.
PROMISSORY NOTE
$300,000.00 September 3, 1998
Cupertino, California
For value received, Gregory Casciaro, (the "EMPLOYEE"), promises to pay
to General Surgical Innovations, Inc. (the "HOLDER"), the principal sum of
Three Hundred Thousand Dollars ($300,000.00). Interest shall accrue from the
date of this Note on the unpaid principal amount at a rate equal to five and
42/100 percent (5.42 %) per annum, compounded monthly. This Note is subject
to the following terms and conditions:
1. MATURITY. Principal and any accrued but unpaid interest under
this Note shall be due and payable upon demand by the Holder at any time
after the earlier of (i) April 3, 2003 or (ii) the date on which the Employee
is no longer Chief Executive Officer of the Holder.
2. PAYMENT. All payments shall be made in lawful money of the United
States of America at such place as the Holder hereof may from time to time
designate in writing to the Employee. Payment shall be credited first to the
accrued interest then due and payable and the remainder applied to principal.
Prepayment of this Note may be made at any time without penalty.
3. TRANSFER; SUCCESSORS AND ASSIGNS. The terms and conditions of this
Note shall inure to the benefit of and be binding upon the respective
successors and assigns of the parties. Notwithstanding the foregoing, the
Employee may not assign, pledge, or otherwise transfer this Note without the
prior written consent of the Holder. Subject to the preceding sentence, this
Note may be transferred only upon surrender of the original Note for
registration of transfer, duly endorsed, or accompanied by a duly executed
written instrument of transfer in form satisfactory to the Holder. Thereupon,
a new note for the same principal amount and interest will be issued to, and
registered in the name of, the transferee. Interest and principal are
payable only to the registered holder of this Note.
4. GOVERNING LAW. This Note and all acts and transactions pursuant
hereto and the rights and obligations of the parties hereto shall be
governed, construed and interpreted in accordance with the laws of the State
of California, without giving effect to principles of conflicts of law.
<PAGE>
5. NOTICES. Any notice required or permitted by this Note shall be in
writing and shall be deemed sufficient upon delivery, when delivered
personally or by a nationally-recognized delivery service (such as Federal
Express or UPS), or forty-eight (48) hours after being deposited in the U.S.
mail, as certified or registered mail, with postage prepaid, addressed to the
party to be notified at such party's address as set forth below or as
subsequently modified by written notice.
6. AMENDMENTS AND WAIVERS. Any term of this Note may be amended only
with the written consent of the Employee and the Holder. Any amendment or
waiver effected in accordance with this Section 6 shall be binding upon the
Employee, the Holder and each transferee of the Note.
7. ACTION TO COLLECT ON NOTE. If action is instituted to collect on
this Note, the Employee promises to pay all costs and expenses, including
reasonable attorney's fees, incurred in connection with such action.
EMPLOYEE
GREGORY CASCIARO
By: /s/ Gregory Casciaro
-------------------------------
Address: 10460 Bubb Road
Cupertino, CA 95014
--------------------------
AGREED TO AND ACCEPTED:
HOLDER
GENERAL SURGICAL INNOVATIONS, INC.
By: /s/ Mark Wan
------------------------------
Name: Mark Wan
-----------------------------
(print)
Title: Director
---------------------------
Address: 10460 Bubb Road
Cupertino, CA 95014
<PAGE>
CASH BONUS AGREEMENT
THIS CASH BONUS AGREEMENT ("Agreement") is entered into this 3rd day of
September, 1998, by and between GENERAL SURGICAL INNOVATIONS, INC., a
California corporation ("Company") and GREGORY CASCIARO ("Executive").
WHEREAS, the board of directors has determined that it is in the
Company's best interests to enter into this Agreement for the purpose of
retaining Executive as a valued employee of the Company and providing an
incentive for him to maximize his efforts on the Company's behalf;
NOW, THEREFORE, the Company and Executive agree as follows:
1. PAYMENT OF CASH BONUSES. Company agrees to pay Executive a cash
bonus in the amount of $68,750 on September 3, 1998 and in the amount of
$4,737.13 on the Third day of each calendar month thereafter until and
including April 3, 2003, provided that Executive continues to serve as the
chief executive officer of the Company as of the applicable date. If (a)
Executive is terminated on or prior to a bonus payment date without cause or
(b) in the event of the acquisition, sale or transfer of a majority of the
outstanding shares, a sale of all or substantially all of the assets or
another change of control of the Company (except a merger or sale effected
solely for the purpose of changing the domicile of the Company), the Company
shall pay to Executive a cash bonus in an amount equal to the aggregate value
of all bonus payments that would otherwise have been received by Executive
pursuant to this Section 1.
2. FORFEITURE OF FUTURE CASH BONUSES. Except as set forth in Section
1, if Executive terminates employment with the Company for any reason,
whether voluntarily or involuntarily, prior to a bonus payment date specified
in Section 1, then he shall not be entitled to receive any further cash
bonuses under this Agreement but shall be entitled to retain such cash
bonuses that have previously been paid to him.
3. TAX WITHHOLDING. All payments under this Agreement shall be
subject to and net of all applicable federal, state and local tax withholding
requirements.
4. GROSS-UP AMOUNT. Each bonus payment set forth in Section 1 will be
increased by an amount sufficient to permit the Executive to pay his taxes on
such payment (the "Gross Up Payment") and on the amount of the Gross Up
Payment itself.
5. NON-TRANSFERABILITY; CREDITOR RIGHTS. Executive's right to receive
cash bonuses under this Agreement may not be sold, pledged assigned
hypothecated, transferred, or disposed of in any manner. Executive shall
have no greater rights pursuant to this Agreement than that of a general
unsecured creditor of the Company. Company shall have no obligation to set
aside any property to fund its obligations hereunder and Executive shall have
no rights in any particular property of the Company as a result of the award
hereunder.
<PAGE>
6. GOVERNING LAW. This Cash Bonus Agreement shall be governed by and
construed in accordance with the laws of the State of California applicable
to contracts wholly made and performed in the state of California.
COMPANY: GENERAL SURGICAL INNOVATIONS, INC.
By: /s/ Mark Wan
---------------------------------------
Its: Director
--------------------------------------
EXECUTIVE: GREGORY CASCIARO
/s/ Gregory Casciaro
-------------------------------------------
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> JUN-30-1999
<PERIOD-START> JUN-30-1998
<PERIOD-END> SEP-30-1998
<CASH> 17,065
<SECURITIES> 17,551
<RECEIVABLES> 1,847
<ALLOWANCES> 151
<INVENTORY> 1,547
<CURRENT-ASSETS> 31,894
<PP&E> 2,182
<DEPRECIATION> 1,381
<TOTAL-ASSETS> 41,292
<CURRENT-LIABILITIES> 3,358
<BONDS> 0
0
0
<COMMON> 13
<OTHER-SE> 37,758
<TOTAL-LIABILITY-AND-EQUITY> 41,292
<SALES> 2,021
<TOTAL-REVENUES> 2,021
<CGS> (1,084)
<TOTAL-COSTS> (1,084)
<OTHER-EXPENSES> (4,013)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> (6)
<INCOME-PRETAX> (2,579)
<INCOME-TAX> 0
<INCOME-CONTINUING> (2,579)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (2,579)
<EPS-PRIMARY> (.19)
<EPS-DILUTED> (.19)
</TABLE>
