<PAGE>
U. S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 1997
For the transaction period from __________ to________
Commission file number 0-28604
---------
ELECTROSCOPE, INC.
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(Exact name of small business issuer as specified in its charter)
COLORADO 84-1162056
- ------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
4828 STERLING DRIVE, BOULDER, COLORADO 80301
---------------------------------------------
(Address of principal executive offices)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (303) 444-2600
-------------------------------------------------------------------
(Issuer's telephone number)
CHECK WHETHER THE ISSUER (1) FILED ALL REPORTS REQUIRED TO BE FILED BY SECTION
13 OF 15(d) OF THE EXCHANGE ACT DURING THE PAST 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
--- ---
STATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE ISSUER'S CLASSES OF COMMON
EQUITY, AS OF THE LATEST PRACTICABLE DATE:
COMMON STOCK, NO PAR VALUE 5,352,507 SHARES
-------------------------- ------------------------------
Class (outstanding at July 24, 1997)
TRANSITIONAL SMALL BUSINESS DISCLOSURE FORMAT
YES NO X
--- ---
1
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ELECTROSCOPE, INC.
FORM 10-QSB
FOR THE QUARTER ENDED JUNE 30, 1997
INDEX
Page
Number
------
PART I. FINANCIAL INFORMATION
ITEM 1 - Condensed Interim Financial Statements . . . . . . . . . 3
- Condensed Balance Sheets as of June 30,
1997 and March 31, 1997. . . . . . . . . . . . . . . . 3
- Condensed Statements of Operations for
the Three Months Ended June 30, 1997 and 1996. . . . . 4
- Condensed Statements of Cash Flows for
the Three Months Ended June 30, 1997 and 1996. . . . . 5
- Notes to Condensed Interim Financial
Statements . . . . . . . . . . . . . . . . . . . . . . 6
ITEM 2 - Management's Discussion and Analysis
of Financial Condition and Results of Operations . . . 11
PART II. OTHER INFORMATION
ITEM 1 - Legal Proceedings. . . . . . . . . . . . . . . . . . . . 15
ITEM 2 - Changes in Securities. . . . . . . . . . . . . . . . . . 15
ITEM 6 - Exhibits and Reports on Form 8-K . . . . . . . . . . . . 16
SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
EXHIBIT INDEX. . . . . . . . . . . . . . . . . . . . . . . . . . . 18
2
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PART I FINANCIAL INFORMATION
ITEM 1 - CONDENSED INTERIM FINANCIAL STATEMENTS
ELECTROSCOPE, INC.
CONDENSED BALANCE SHEETS
<TABLE>
June 30, March 31,
ASSETS 1997 1997
----------- -----------
(Unaudited)
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 6,871,615 $ 527,015
Short-term investments 1,640,432 9,631,427
Accounts receivable, net of allowance for doubtful
accounts of $25,000 and $25,000, respectively 216,072 155,446
Inventory, net of reserve for obsolescence of $65,349
and $102,596, respectively 606,700 521,696
Prepaid expenses 85,537 110,777
----------- ------------
Total current assets 9,420,356 10,946,361
----------- ------------
EQUIPMENT, at cost:
Furniture, fixtures and equipment 570,566 503,871
Less- Accumulated depreciation (259,804) (258,983)
----------- ------------
Equipment, net 310,762 244,888
----------- ------------
PATENTS, net of accumulated amortization of $9,910 and $9,270 141,922 138,078
respectively
OTHER ASSETS 11,450 11,450
----------- ------------
Total assets $ 9,884,490 $ 11,340,777
----------- ------------
----------- ------------
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 242,725 $ 327,682
Accrued compensation 132,748 155,908
Other accrued liabilities 274,863 454,295
Customer deposits 15,737 20,223
Other current liabilities 6,639 6,639
----------- ------------
Total current liabilities 672,712 964,747
----------- ------------
LONG-TERM LIABILITIES:
Other long-term liabilities 15,933 17,593
----------- ------------
Total long-term liabilities 15,933 17,593
COMMITMENTS AND CONTINGENCIES (Notes 1 and 4)
SHAREHOLDERS' EQUITY:
Preferred stock, no par value, 10,000,000 shares
authorized, no shares outstanding - -
Common stock, no par value, 100,000,000 shares
authorized, 5,352,507 and 5,389,402 shares
outstanding, respectively 16,880,567 16,997,282
Warrants to purchase common stock 290,400 290,400
Accumulated deficit (7,975,122) (6,929,245)
----------- ------------
Total shareholders' equity 9,195,845 10,358,437
----------- ------------
Total liabilities and shareholders'
equity $ 9,884,490 $ 11,340,777
----------- ------------
----------- ------------
</TABLE>
The accompanying notes are an integral part of these balance sheets.
3
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ELECTROSCOPE, INC.
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
<TABLE>
For the Three Months
Ended June 30,
--------------------------
1997 1996
----------- ----------
<S> <C> <C>
REVENUE, net $ 311,564 $ 413,642
COST OF SALES 274,962 309,516
----------- ----------
Gross profit 36,602 104,126
----------- ----------
OPERATING EXPENSES:
Sales and marketing 561,740 183,227
General and administrative 408,579 155,568
Research and development 209,675 126,702
----------- ----------
Total operating expenses 1,179,994 465,497
----------- ----------
INCOME (LOSS) FROM OPERATIONS (1,143,393) (361,371)
OTHER INCOME:
Interest income 112,949 8,796
Other income (expense) (15,433) 7,258
----------- ----------
NET INCOME (LOSS) $(1,045,877) $ (345,317)
----------- ----------
----------- ----------
NET INCOME (LOSS) PER SHARE (Note 2):
Net income (loss) per common share and common
equivalent share $ (0.19) $ (0.08)
----------- ----------
----------- ----------
Shares used in computing net income (loss) per
common share and common equivalent share 5,374,950 4,210,817
----------- ----------
----------- ----------
</TABLE>
The accompanying notes are an integral part of these statements.
4
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ELECTROSCOPE, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
For the Three Months
Ended June 30,
-------------------------------
1997 1996
------------ -------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (1,045,877) $ (345,317)
Adjustments to reconcile net income (loss) to net cash
used in operating activities-
Depreciation and amortization 33,462 20,392
Amortization of discount (109,005) ---
Common stock issued as stock bonus 40,000 ---
Changes in operating assets and liabilities-
Accounts receivable (60,626) 69,130
Inventory (85,004) 31,659
Other assets 25,240 (11,517)
Accounts payable (84,957) 72,696
Accrued compensation and other accrued
liabilities (202,592) (112,611)
Customer deposits (4,486) (61,550)
Deferred revenue --- (7,762)
Other liabilities (1,660) (1,659)
------------ ------------
Net cash used in operating activities (1,495,505) (346,539)
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of equipment (98,696) (18,686)
Patent costs (4,484) (5,094)
Purchases of short-term investments --- (10,000,000)
Sale of short-term investments 8,099,999 ---
------------ ------------
Net cash used in investing activities 7,996,819 (10,023,780)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock --- 13,185,952
Repurchase of common stock (156,715) ---
Proceeds from issuance of warrants --- 50
Stock issuance costs --- (1,233,274)
------------ ------------
Net cash provided by financing activities (156,715) 11,952,728
------------ ------------
NET INCREASE IN CASH AND CASH EQUIVALENTS 6,344,599 1,582,409
CASH AND CASH EQUIVALENTS, beginning of period 527,015 538,708
------------ ------------
CASH AND CASH EQUIVALENTS, end of period $ 6,871,614 $ 2,121,117
------------ ------------
------------ ------------
</TABLE>
The accompanying notes are an integral part of these statements.
5
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ELECTROSCOPE, INC.
NOTES TO CONDENSED INTERIM FINANCIAL STATEMENTS
JUNE 30, 1997
(Unaudited)
(1) ORGANIZATION AND NATURE OF BUSINESS
Electroscope, Inc. (the "Company") was incorporated as a Colorado corporation on
February 1, 1991. The Company designs, develops, manufactures and markets a
patented monopolar electrosurgical shielding system and integrated surgical
instruments, which are designed to provide greater safety to patients who
undergo laparoscopic surgery. The products can be used with most
electrosurgical instruments available today in the USA. It has also developed
and is marketing its own line of integrated, shielded, five millimeter diameter
electrosurgical instruments which incorporate the Company's proprietary
technology. These products monitor for stray electrical energy during
laparoscopy and deactivate the electrosurgical unit when this energy creates
potentially dangerous conditions. The Company's sales to date have been made
principally in the United States and have been made primarily to one customer
for the past two fiscal years. During the three months ended June 30, 1997,
sales to this customer were not significant.
The Company has incurred losses since its inception and has an accumulated
deficit of $7,975,122 at June 30, 1997. During fiscal year 1997, the formerly
exclusive distributor of the Company's products did not purchase products from
the Company in sufficient amounts to maintain the distributor's exclusivity. As
a result, the sales, marketing and market development activities conducted by
this distributor have now become the responsibility of the Company. The
Company's operations are subject to certain risks and uncertainties, which
include the following: Commercial acceptance of the Company's products will
have to occur in the marketplace, in significant volumes, before the Company can
attain profitable operations; the possibility of continued substantial
operating losses; the need to develop a distribution channel for the Company's
products; current and potential competitors with greater financial, technical
and marketing resources; management's plans for growth and expansion; and the
Company's limited manufacturing experience for large-scale production. In
addition, a class action lawsuit regarding the Company's initial public offering
was filed against the Company and certain individuals associated with the
Company on June 4, 1997. The Company believes that the claims are without merit
and intends to vigorously defend itself against the claims filed (See Part II,
Item 1).
As discussed above, in September 1995, the Company entered into an exclusive
Distribution Agreement for the Company's products with Valleylab Inc., a part of
Hospital Products Group of Pfizer, Inc. ("Valleylab"). The terms of this
agreement required Valleylab to purchase minimum amounts of the Company's
products in specified time frames, in order to maintain exclusivity.
-6-
<PAGE>
Valleylab did not meet the minimum purchase requirements for calendar year
1996, and the agreement has now become non-exclusive for the remainder of its
term through 1999.
During the first quarter of fiscal year 1997, sales to Valleylab accounted for
essentially all of the Company's revenue. Sales to Valleylab in the first
quarter of fiscal year 1998 were not material.
(2) INITIAL PUBLIC OFFERING
In June 1996, the Company completed an initial public offering (IPO) of
1,200,000 shares of its common stock at a price per share of $10.50, of which
all shares were sold by the Company. After underwriting discounts, commissions
and other expenses, net proceeds to the Company from the offering were
approximately $11.4 million.
In connection with the IPO, the Company sold, for a nominal purchase price, a
five-year warrant to purchase up to 120,000 shares of common stock, exercisable
at 120% of the initial offering price, or $12.60 per share. In accordance with
Statement of Financial Accounting Standards No. 123 (SFAS No. 123), "Accounting
for Stock-Based Compensation," the fair value of the warrant sold is estimated
using an option-pricing model. In accordance with SFAS No. 123, the option-
pricing model takes into account as of the date the warrant is issued the
exercise price, life of the warrant, current price of the common stock, expected
common stock volatility and the risk-free interest rate for the expected term of
the warrant. Based on this valuation methodology, the Company has recorded the
fair value of the warrant sold at $290,400. The difference between the fair
value of the warrant and the nominal purchase price has been recorded as a
deduction from the net proceeds to the Company from the offering.
(3) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions.
Such estimates and assumptions affect the reported amounts of assets and
liabilities as well as disclosure of contingent assets and liabilities at the
date of the financial statements, and the reported amounts of revenue and
expense during the reporting period. Actual results could differ from those
estimates.
CASH AND EQUIVALENTS
For purposes of the statements of cash flows, the Company considers all cash and
highly liquid investments with an original maturity of three months or less to
be cash equivalents.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company's financial instruments consist of cash, short-term investments and
short-term trade receivables and payables. The carrying values of cash, short-
term investments and short-term receivables and payables approximate their fair
value.
7
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SHORT-TERM INVESTMENTS
As required under Statement of Financial Accounts Standards No. 115,
"Accounting for Certain Investments in Debt and Equity Securities," (SFAS
115) management determines the appropriate classification of its investments
in debt securities at the time of purchase. At June 30, 1997, the Company's
short-term investments consist primarily of government securities which the
Company classifies as held-to-maturity.
The amortized cost of debt securities classified as held-to-maturity is
adjusted for amortization of premiums and accretion of discounts to maturity.
Such amortization and accretion of discounts are included in interest
income.
INVENTORY
Inventory consists primarily of component parts and raw materials, and is
valued at the lower of cost (first-in, first-out basis) or market. Inventory
consists of the following:
June 30, March 31,
1997 1997
--------- --------
Raw materials $290,410 $266,299
Work in process 159,327 225,353
Finished goods 222,312 132,640
--------- --------
672,049 624,292
Less-Reserve for obsolescence (65,349) (102,596)
--------- --------
$606,700 $521,696
--------- --------
--------- --------
INCOME TAXES
The Company accounts for income taxes under the provisions of Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS
No. 109"). SFAS No. 109 requires recognition of deferred income tax assets
and liabilities for the expected future income tax consequences, based on
enacted tax laws, of temporary differences between the financial reporting
and tax bases of assets and liabilities. SFAS No. 109 requires recognition
of deferred tax assets for the expected future tax effects of all deductible
temporary differences, loss carryforwards and tax credit carryforwards.
Deferred tax assets have been completely offset by a valuation allowance
because the realization criteria set forth in SFAS 109 are not currently
satisfied, primarily due to the Company's history of operating losses.
NEW ACCOUNTING PRONOUNCEMENT
In February 1997, the Financial Accounting Standards Board, ("FASB") issued
Statement of Financial Accounting Standards No. 128, "Earnings Per Share".
This statement establishes standards for computing and presenting earnings
per share. The Company will adopt this standard for its third fiscal quarter
ending December 31, 1997, and does not expect that adoption
8
<PAGE>
will have a material impact on reported earnings per share and required
financial statement disclosures.
LOSS PER COMMON SHARE AND COMMON EQUIVALENT SHARE
Loss per common share and common equivalent share for all fiscal years
presented is computed using the sum of the weighted average number of shares
of common stock and common stock equivalent shares from common stock options
and warrants. Pursuant to Securities and Exchange Commission Staff Accounting
Bulletin No. 83, common stock and common stock equivalent shares issued by
the Company during the period beginning twelve months prior to the filing of
the Company's initial public offering at prices significantly below the
public offering price have been included in the earnings per share
calculation as if they were outstanding for all periods prior to the initial
public offering (using the treasury stock method and the initial public
offering price of $10.50 per share for stock options and warrants) regardless
of whether they are antidilutive. Options and warrants for the Company's
common stock issued other than in this one-year period have been excluded as
they are antidilutive. For the first quarter of fiscal years 1997,
(subsequent to the effective date of the IPO) and 1998, the Company has
reported earnings per share in accordance with Accounting Principles Board
Opinion No. 15, "Earnings per Share".
(4) COMMITMENTS AND CONTINGENCIES
The Company is subject to regulation by the United States Food and Drug
Administration ("FDA"). The FDA provides regulations governing the
manufacture and sale of the Company's products and regularly inspects the
Company and other manufacturers to determine their compliance with these
regulations.
Under the terms of the Distribution Agreement, after termination, Valleylab
may sell for a period of six months, any inventory of products held by it at
the date of termination. In the event of termination, the Company has the
obligation to purchase from Valleylab products held in Valleylab's inventory,
if any, to the extent such products are salable and non-obsolete and have
been received by Valleylab within nine months of the latter of the date of
termination or the post-termination sales period. Valleylab has not notified
the Company of any intent to terminate the Agreement.
Because of seasonal and other factors including the continuing development of
the sales force and the changes in management discussed in Item 2, Historical
Perspective and Outlook, and Results of Operations, General and
Administrative Expenses, the results of operations for the quarter ended June
30, 1997, should not be taken as an indication of the results of operations
for all or any part of the balance of the year.
On June 4, 1997, as discussed more fully in Part II, Item 1, a class action
lawsuit was filed naming the Company and certain individuals associated with
the Company as defendants. The Company believes that the claims of such
lawsuit are without merit, and intends to defend itself vigorously against
such claims.
9
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(5) MANAGEMENT'S REPRESENTATIONS
The condensed interim financial statements included herein have been prepared
by the Company, without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission. Certain information and footnote
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed or omitted
pursuant to such rules and regulations, although the Company believes that
the disclosures made are adequate to make the information presented not
misleading. The condensed interim financial statements and notes thereto
should be read in conjunction with the financial statements and the notes
thereto, included in the Company's Annual Report to the Securities Exchange
Commission, filed on form 10-KSB on June 30, 1997.
The accompanying condensed interim financial statements have been prepared,
in all material respects, in conformity with the standards of accounting
measurements set forth in Accounting Principles Board Opinion No. 28 and
reflect, in the opinion of management, all adjustments, which are of a normal
recurring nature, necessary to summarize fairly the financial position and
results of operations for such periods. The results of operations for such
interim periods are not necessarily indicative of the results to be expected
for the full year.
10
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ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL
The Company manufactures and markets a line of proprietary electrosurgical
products that are designed to provide greater safety to patients who undergo
minimally invasive electrosurgery (MIS). The Company believes that its
patented Electroshield-Registered Trademark- Monitoring System offers
surgeons significant advantages compared to other electrosurgical systems in
use because of its ability to monitor dynamically for stray electrical energy
out of the view of the surgeon during MIS procedures. The Company has
received three FDA Form 510(k) notifications for its products and obtained
patent protection for its products' basic shielding and monitoring features.
In September 1995, the Company entered into an exclusive worldwide
Distribution Agreement (the "Agreement") with Valleylab, part of the Hospital
Products Group of Pfizer, Inc., pursuant to which Valleylab was required to
make minimum purchases through calendar year 1998 in order to retain its
exclusive distribution rights. Valleylab did not meet its minimum purchase
requirements in calendar 1996 and the Agreement has become a non-exclusive
distribution arrangement for calendar year 1997. To supplement the Valleylab
distribution resources, the Company has hired and trained a direct sales
force, and has begun to contract with a network of independent sales
representative organizations across the U.S. In addition, the Company has
engaged a specialized marketing communications firm to broaden the awareness
of the hazards inherent in monopolar electrosurgery.
The Company recognizes that market awareness and acceptance of the hazards
inherent in monopolar electrosurgery and acceptance of the Company's products
to address such hazards has been slower to occur than the Company had
believed would be the case. The Company has modified its marketing
strategies, including the engagement of the marketing communications firm
referred to above and the significant expansion of the Company's sales and
marketing functions, to address the issues of market acceptance of the
technology. The Company has also undertaken efforts to broaden the product
line offerings beyond the original EM-2 product and its accessories. The
Company is developing a line of disposable products, and intends to explore
product development and acquisition opportunities from third parties.
The Company recognizes that its efforts to develop its own sales force,
including both direct sales representatives and independent representative
organizations, will require increased use of cash and additional management
resources beyond those which were necessary while Valleylab had an exclusive
right to distribute the Company's products. The Company believes that it has
sufficient cash resources on hand to successfully complete the development of
the sales force, and that it has attracted and can continue to attract the
additional human resources necessary to manage the development of the sales
force, the increased marketing efforts, and the general growth of the
business. There can be no assurance however, that the Company's efforts in
this area will result in increased revenues or the achievement of
profitability.
As more fully discussed in Part II, Item 1, a class action lawsuit has been
filed in the United States District Court in Minnesota. While the Company
believes that this suit is without merit, defense against such suit will take
management time, legal resources and could result in significant
11
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expenditures. Should the lawsuit result in a significant payment to the
plaintiff(s) or significant legal fees, such payments could have a material
adverse impact on the Company's liquidity.
Statements herein that are not historical facts, including statements about
the Company's strategies and expectations about new and existing products,
technologies and opportunities, market and industry segment growth, demand
and acceptance of new and existing products, and return on investments in
products and markets are forward looking statements that involve substantial
risks.
HISTORICAL PERSPECTIVE AND OUTLOOK
The Company was organized in February 1991. During its first two years, the
Company developed the EM-2 Electronic Monitor and adaptive sheaths to work
with traditional electrosurgical instruments. During this period, the
Company applied for patents with the United States Patent Office and
conducted clinical trials. In 1993, the Company hired a vice president of
sales and marketing and recruited clinical sales specialists. The Company
also continued work on its patent applications and formulated development
plans for shielded hinged tip and fixed tip electrosurgical instruments. As
this development program proceeded it became apparent that the merging of
electrical and mechanical engineering skills in the instrument development
process for the Company's patented, integrated electrosurgical instruments
was more difficult than was expected at first. As a result, the development
of the instruments with the Electroshield-Registered Trademark- Active
Electrode Monitoring (AEM-Registered Trademark-) technology was not completed
until 1995. The Company introduced integrated instruments for the
Electroshield-Registered Trademark- Monitoring System (EMS) in November 1995.
The installed base of the Company's EM-2 Electronic Monitor has continued to
increase since the introduction of the product in 1994. The Company believes
such installed base has the potential for increasing as the new sales
representatives of the Company become familiar with the EMS and sell the
system to their customers. The approximate number of EM-2 Electronic
Monitors sold were 567 and 257 in the fiscal years ended March 31, 1996 and
1997, respectively. The Company expects that the sales of electrosurgical
instruments and accessories should increase as additional EM-2 Electronic
Monitors are installed. The Company continues to devote resources to
increasing market awareness of the inherent hazards of monopolar
electrosurgery. There can be no assurance, however, as to the rate of market
acceptance of the EMS. Given the system's short history of usage, the
Company cannot predict the rate of its electrosurgical instrument sales. As
a result of the lack of immediate market acceptance of the EM-2+ EMS, the
Company has broadened its R&D efforts to reduce its dependence on products
involving AEM-Registered Trademark- technology.
The Company believed that the most cost effective way to educate the market
to the hazards of monopolar electrosurgery and to generate significant
revenues for the Company was to supplement a direct sales effort with the
Valleylab sales force. As noted above, this Agreement did not meet its
objectives and the Company has taken steps to develop its own direct sales
force, made up of Company employees and independent sales representative
organizations, which together provide market presence in most of the major
market areas in the United States. In addition, the Company has hired a
Chief Executive Officer with substantial experience in the medical device
industry. The Company believes that such measures, along with increased
marketing efforts and the introduction of new products, will provide the
basis for increased revenues and will ultimately lead to profitable
operations. The Company believes that selling the Company's products
directly will generate additional gross profits as the Company will be
capturing the margins formerly
12
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recorded by the Company's distributor. Management does not expect that
profitable revenue levels will be reached in fiscal year 1998, and there can
be no assurance that these measures, or any others that the company may
adopt, will result in either increased revenues or profitable operations.
The Company has incurred losses from operations since inception and has an
accumulated deficit of $7,975,122 as of June 30, 1997. Due to the need to
continue the development and training of a sales and distribution network the
Company believes that it may continue to operate at a net loss for several
quarters. The Company believes its results of operations may fluctuate on a
quarterly basis as a result of the size and frequency of sales through the
independent sales network and the development of its internal sales force,
resulting in increased sales expenses. Such fluctuations may be significant,
and may result in the Company operating at a loss in any one period even
after a period of profitability.
RESULTS OF OPERATIONS
FOR THE THREE MONTHS ENDED JUNE 30, 1997 COMPARED TO THE THREE MONTHS ENDED
JUNE 30, 1996.
NET REVENUES. Revenues for the three months ended June 30, 1997, were
$311,564, compared to $413,642 for the three months ended June 30, 1996, a
decrease of 25%. The decrease is attributable to the Company developing its
own sales and marketing efforts to replace those provided by Valleylab in the
first quarter of fiscal year 1997. The Company anticipates revenue growth
for the fiscal year ended March 31, 1998 ("Fiscal Year 1998") compared to
fiscal year 1997 as the Company's efforts to develop an independent sales
force and marketing program mature and result in increased market coverage
and increased sales. The company also expects to introduce new products
during fiscal year 1998 which are expected to contribute to increased
revenues. There can be no assurance, however, that the Company's sales and
marketing efforts will lead to increased revenues, or that the new products
will find adequate market acceptance to generate significant revenues.
GROSS PROFIT. The gross profit for the three months ended June 30, 1997, of
$36,601 decreased by $67,524 (65%) from the three months ended June 30, 1996
gross profit of $104,126. Gross profit as a percentage of revenue (Gross
Margin) decreased from 25% for the three months ended June 30, 1996 to 12% in
the three months ended June 30, 1997. Gross profit and gross margin can be
expected to fluctuate from quarter to quarter, as a result of product sales
mix and sales volume. Gross margins are expected to be higher at higher
levels of production and sales. These higher gross margins are currently not
being achieved because of the expenses related to manufacturing capacity,
which is currently underutilized due to the reduced levels of product
revenues and other, generally fixed, manufacturing costs.
SALES AND MARKETING EXPENSES. Sales and marketing expenses of $561,739 for
the three months ended June 30, 1997 increased by $378,512 (a 206% increase)
compared to $183,227 for the three months ended June 30, 1996. The increase
is the result of the Company's efforts to develop its own direct sales force
and group of independent sales representatives after the exclusive
distribution agreement with Valleylab converted to a non-exclusive
arrangement. The Company believes that sales and marketing expenses will
decrease as a percentage of net revenue with increasing sales volume. There
can be no assurance, however, that such decrease will occur.
13
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GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased $253,011 (163%) from $155,568 for the three months ended June 30, 1996
to $408,579 for the three months ended June 30, 1997. This increase was
primarily due to the addition of a Chief Executive Officer, the replacement of
the Chief Financial Officer, and increased legal expenses, primarily related to
the shareholder lawsuit filed in June of 1997. (See Part II, Item 1).
RESEARCH AND DEVELOPMENT. Research and development expenses increased to
$209,674 from $126,702 for the three months ended June 30, 1996, a 65% increase,
reflecting the Company's ongoing product development efforts related to both the
current product line and new products which are anticipated to be introduced in
fiscal year 1998.
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically satisfied its cash requirements principally through
sales of Common Stock which approximated $17.1 million through June 30, 1997,
and, to a substantially lesser degree, funds provided by sales of the Company's
products. In the first quarter of Fiscal Year 1997, the Company completed its
initial public offering, raising net proceeds of $11.4 million, and raised an
additional $585,000 in cash from the exercise of warrants issued in connection
with previous sales of Common Stock. Historically, these funds have been used
for working capital and general corporate purposes including research and
development. The Company may use working capital to build inventories, to
ensure that orders can be filled in a timely manner, to support the sales
efforts of the Company's sales force and to accommodate anticipated growth.
While net proceeds from the Company's initial public offering are currently
invested primarily in money market instruments and government securities, the
Company may also use a substantial portion of the net proceeds for the
acquisition or development of complementary products or businesses, if such
acquisition or development opportunities arise. The Company currently has no
understanding, commitment or agreement with respect to any such acquisition or
development program.
Capital expenditures historically have been relatively minor, and have consisted
of specialized equipment, manufacturing equipment, office equipment and
leasehold improvements. The Company anticipates that its cash on hand will be
sufficient to fund its operations, working capital and capital requirements for
at least the next twelve months.
INCOME TAXES
Net operating loss carryforwards totaling approximately $6.3 million are
available to reduce taxable income as of June 30, 1997. The net operating loss
carryforwards expire, if not previously utilized, at various dates beginning in
the year 2006. The Company has not paid income taxes since its inception. The
Tax Reform Act of 1986 and other income tax regulations contain provisions which
may limit the net operating loss carryforwards available to be used in any given
year, if certain events occur, including changes in ownership interests. The
Company has established a valuation allowance for the entire amount of its
deferred tax asset since inception due to its history of operating losses.
14
<PAGE>
PART II. OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS
On June 4, 1997 a class action lawsuit was filed in the United States District
Court for the District of Minnesota against the Company, the members of the
Board of Directors as of the date of the Company's initial public offering, and
John G. Kinnard and Company, Inc., the underwriter of the Company's initial
public offering. The complaint was filed by Avron Gart, a former shareholder of
the Company, individually and on behalf of all others similarly situated. The
complaint alleges that the Company's Registration Statement which became
effective on or about June 25, 1996, of which the prospectus was a part, was
materially false and misleading, contained untrue statements of material facts,
omitted to state other facts necessary to make the statements therein not
misleading, and failed to disclose adequately material facts.
The plaintiff alleges in the complaint that the Company's prospectus failed to
disclose, among other things, the fact that stock-in sales to Valleylab were
non-repetitive sales, that the growth rate shown in the prospectus was already
reversing itself and that the reduced revenues would be reported for the first
fiscal quarter ended three business days after the offering. The plaintiff
requests, on behalf of himself and the class, the difference between the price
they paid for the Company's stock and either the current market value of such
stock if currently held or the price at which such stock was disposed of in the
market if disposed of before the commencement of the action, together with costs
and expenses of the litigation, including reasonable attorney's fees and
experts' fees and other costs.
The Company's Directors and Officers Liability Insurance provides coverage for
up to $1,000,000 of the cost of defense against and costs associated with the
complaint, with a retention of $200,000.
The Company intends to vigorously defend itself against this litigation. The
lawsuit may have a material adverse effect on the business and financial
condition of the Company in terms of legal fees and costs incurred to defend the
claims, the possibility of an award of damages, and of the loss of management
time needed to deal with the lawsuit.
ITEM 2 - CHANGES IN SECURITIES
(a) On May 5, 1997 the Company granted its new President and
Chief Executive Officer, Patrick F. Crane, a 22,222 share stock bonus. This
transaction was exempt from registration under the Securities Act of 1933 by
virtue of the provisions of Section 4(2) thereof.
ITEM 3 - Not Applicable
ITEM 4 - Not Applicable
ITEM 5 - Not Applicable
15
<PAGE>
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
11 - Computation of Net Income (Loss) per Common Share and
Common Equivalent Share.
27 - Financial Data Schedule.
(b) The Registrant did not file any reports on Form 8-K during
the quarter ended June 30, 1997.
16
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, Electroscope has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
Name Title Date
--------------------- ---------------------------------- ---------------
/s/ Karl D. Hawkins Chief Financial Officer August 4, 1997
Karl D. Hawkins (Principal Accounting Officer)
17
<PAGE>
EXHIBIT INDEX
Sequentially
Exhibit No. Description Numbered Page
--------------------- ---------------------------------- ---------------
11 Computation of Net Income (Loss) per
Common Share and Common Equivalent Share 19
27 Financial Data Schedule 20
18
<PAGE>
EXHIBIT 11
ELECTROSCOPE, INC.
COMPUTATION OF NET INCOME (LOSS) PER COMMON SHARE
AND COMMON EQUIVALENT SHARE
(UNAUDITED)
For the Three Months Ended
-------------------------------
June 30, 1997 June 30, 1996
--------------- ---------------
NET INCOME (LOSS) $ (1,045,877) $ (345,317)
------------ ------------
------------ ------------
SHARES USED IN SHARE COMPUTATION
Common stock shares outstanding
(weighted average) 5,374,950 3,965,082
Treasury stock effect of common stock and
equivalents issued within one year of the
public offering at prices less than the
public offering price --- 245,735
------------ ------------
Shares used in computation 5,374,950 4,210,817
------------ ------------
------------ ------------
NET INCOME (LOSS) PER COMMON SHARE AND
COMMON EQUIVALENT SHARE $(0.19) $(0.08)
------------ ------------
------------ ------------
19
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM
ELECTROSCOPE, INC. BALANCE SHEET AS OF JUNE 30, 1997 AND STATEMENTS OF
OPERATION AND CASH FLOWS FOR THE THREE MONTHS ENDED JUNE 30, 1997 AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> MAR-31-1997
<PERIOD-END> JUN-30-1997
<CASH> 6,871,615
<SECURITIES> 1,640,432
<RECEIVABLES> 241,072
<ALLOWANCES> 25,000
<INVENTORY> 606,700
<CURRENT-ASSETS> 9,420,356
<PP&E> 570,566
<DEPRECIATION> (259,804)
<TOTAL-ASSETS> 9,884,490
<CURRENT-LIABILITIES> 672,712
<BONDS> 0
0
0
<COMMON> 16,880,567
<OTHER-SE> 290,400
<TOTAL-LIABILITY-AND-EQUITY> 9,884,490
<SALES> 311,564
<TOTAL-REVENUES> 311,564
<CGS> 274,962
<TOTAL-COSTS> 1,179,994
<OTHER-EXPENSES> (97,516)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (1,045,877)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,045,877)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,045,877)
<EPS-PRIMARY> (0.19)
<EPS-DILUTED> (0.19)
</TABLE>
