<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 September 30, 1998
For the transaction period from __________ to________
Commission file number 0-28604
----------
ELECTROSCOPE, INC.
-----------------------------------------------------------------
(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 SHARES 5,383,507
-------------------------- -----------------
Class (outstanding at October 23, 1998)
TRANSITIONAL SMALL BUSINESS DISCLOSURE FORMAT
YES NO X
---- ----
<PAGE>
ELECTROSCOPE, INC.
FORM 10-QSB
FOR THE QUARTER ENDED SEPTEMBER 30, 1998
INDEX
<TABLE>
<CAPTION>
Page
Number
------
<S> <C>
PART I. FINANCIAL INFORMATION
ITEM 1 - Condensed Interim Financial Statements . . . . . . 3
- Condensed Balance Sheets as of September 30,
1998 and March 31, 1998. . . . . . . . . . . . . 3
- Condensed Statements of Operations for
the Three Months Ended September 30, 1998
and 1997 . . . . . . . . . . . . . . . . . . . . 4
Condensed Statements of Operations for
the Six Months Ended September 30, 1998
and 1997 . . . . . . . . . . . . . . . . . . . . 5
- Condensed Statements of Cash Flows for
the Six Months Ended September 30, 1998
and 1997 . . . . . . . . . . . . . . . . . . . . 6
- Notes to Condensed Interim Financial
Statements . . . . . . . . . . . . . . . . . . . 7
ITEM 2 - Management's Discussion and Analysis
of Financial Condition and Results of
Operations . . . . . . . . . . . . . . . . . . . 10
PART II. OTHER INFORMATION
ITEM 4 - Submission of Matters to a Vote of Security
Holders. . . . . . . . . . . . . . . . . . . . . . 15
ITEM 6 - Exhibits and Reports on Form 8-K . . . . . . . . . 15
SIGNATURE . . . . . . . . . . . . . . . . . . . . . . . . . 16
EXHIBIT INDEX . . . . . . . . . . . . . . . . . . . . . . . . . 17
</TABLE>
2
<PAGE>
PART I FINANCIAL INFORMATION
ITEM 1 - CONDENSED INTERIM FINANCIAL STATEMENTS
ELECTROSCOPE, INC.
CONDENSED BALANCE SHEETS
(Unaudited)
<TABLE>
<CAPTION>
September 30, March 31,
ASSETS 1998 1998
------ ------------- -----------
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 1,315,898 $ 2,525,026
Short-term investments 4,059,033 3,674,729
Accounts receivable, net of allowance
for doubtful accounts of $7,500 and
$7,500, respectively 154,672 321,150
Inventory, net of reserve for obsolescence
of $70,318 and $140,000, respectively 495,452 543,006
Prepaid expenses 76,903 63,259
------------- -----------
Total current assets 6,101,958 7,127,170
------------- -----------
EQUIPMENT, at cost:
Furniture, fixtures and equipment 647,423 621,607
Less- Accumulated depreciation (447,650) (380,659)
------------- -----------
Equipment, net 199,773 240,948
------------- -----------
PATENTS, net of accumulated amortization
of $14,380 and $11,830 respectively 156,153 186,454
OTHER ASSETS 14,077 11,450
------------- -----------
Total assets $ 6,471,961 $ 7,566,022
------------- -----------
------------- -----------
LIABILITIES AND SHAREHOLDERS' EQUITY
------------------------------------
CURRENT LIABILITIES:
Accounts payable $ 131,302 $ 99,430
Accrued compensation 134,612 150,635
Other accrued liabilities 174,928 191,871
Customer deposits -- 4,376
Other current liabilities 21,025 6,639
------------- -----------
Total current liabilities 461,867 452,951
------------- -----------
LONG-TERM LIABILITIES:
Other long-term liabilities 4,447 5,331
------------- -----------
Total long-term liabilities 4,447 5,331
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, 5,383,507 and 5,383,507
shares outstanding, respectively 16,941,317 16,941,317
Warrants to purchase common stock 290,400 290,400
Accumulated deficit (11,226,070) (10,123,977)
------------- -----------
Total shareholders' equity 6,005,647 7,107,740
------------- -----------
Total liabilities and shareholders' equity $ 6,471,961 $ 7,566,022
------------- -----------
------------- -----------
</TABLE>
The accompanying notes are an integral part of these statements.
3
<PAGE>
ELECTROSCOPE, INC.
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
<TABLE>
<CAPTION>
For the Three Months
Ended September 30,
-------------------------
1998 1997
--------- -----------
<S> <C> <C>
REVENUE, net $ 368,428 $ 329,179
COST OF SALES 244,787 312,323
--------- -----------
Gross profit 123,641 16,856
--------- -----------
OPERATING EXPENSES:
Sales and marketing 330,524 497,567
General and administrative 253,605 340,674
Research and development 138,964 180,105
--------- -----------
Total operating expenses 723,093 1,018,346
--------- -----------
INCOME (LOSS) FROM OPERATIONS (599,452) (1,001,490)
OTHER INCOME:
Interest income 77,339 110,690
Other income (expense) (4,111) (7,090)
--------- -----------
NET INCOME (LOSS) $(526,224) $ (897,890)
--------- -----------
--------- -----------
NET INCOME (LOSS) PER SHARE (Note 2):
Basic and diluted net income (loss) per
common share $ (0.10) $ (0.17)
--------- -----------
--------- -----------
Basic and diluted weighted average shares
used in computing net income (loss) per
common share 5,383,507 5,368,007
--------- -----------
--------- -----------
</TABLE>
The accompanying notes are an integral part of these statements.
4
<PAGE>
ELECTROSCOPE, INC.
CONDENSED STATEMENTS OF OPERATIONS
(Unaudited)
<TABLE>
<CAPTION>
For the Six Months
Ended September 30,
---------------------------
1998 1997
----------- -----------
<S> <C> <C>
REVENUE, net $ 682,306 $ 640,743
COST OF SALES 509,905 587,285
----------- -----------
Gross profit 172,401 53,458
----------- -----------
OPERATING EXPENSES:
Sales and marketing 646,492 1,059,306
General and administrative 513,837 749,254
Research and development 266,007 389,779
----------- -----------
Total operating expenses 1,426,336 2,198,339
----------- -----------
INCOME (LOSS) FROM OPERATIONS (1,253,935) (2,144,881)
OTHER INCOME:
Interest income 156,319 223,639
Other income (expense) (4,477) (22,524)
----------- -----------
NET INCOME (LOSS) $(1,102,093) $(1,943,766)
----------- -----------
----------- -----------
NET INCOME (LOSS) PER SHARE (Note 2):
Basic and diluted net income (loss) per
common share $ (0.21) $ (0.36)
----------- -----------
----------- -----------
Basic and diluted weighted average shares
used in computing net income (loss) per
common share 5,383,507 5,371,479
----------- -----------
----------- -----------
</TABLE>
The accompanying notes are an integral part of these statements.
5
<PAGE>
ELECTROSCOPE, INC.
CONDENSED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
For the Six Months
Ended September 30,
---------------------------
1998 1997
----------- -----------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $(1,102,093) $(1,943,766)
Adjustments to reconcile net income
(loss) to net cash used in
operating activities-
Depreciation and amortization 89,743 93,770
Amortization of discount (90,452) (130,569)
Common stock issued in lieu of cash -- 100,750
Inventory Reserves -- (9,653)
Loss on retirement of assets 22,633 --
Changes in operating assets and liabilities-
Accounts receivable 166,478 (28,297)
Inventory 47,554 (159,653)
Accrued Interest and other current assets (13,644) 42,765
Other assets (2,627) --
Accounts payable 31,872 (81,219)
Accrued compensation and other accrued
liabilities (18,580) (229,072)
Customer deposits (4,376) (4,486)
Other liabilities (884) (3,320)
----------- -----------
Net cash used in operating activities (874,376) (2,352,750)
----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of equipment (29,818) (174,411)
Patent costs (11,694) (11,897)
Purchases of short-term investments-net (4,540,240) (1,611,743)
Sale of short-term investments 4,247,000 8,383,999
----------- -----------
Net cash (used in) provided by
investing activities (334,752) 6,585,948
----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Repurchase of common stock -- (156,715)
----------- -----------
Net cash used in financing activities -- (156,715)
----------- -----------
NET (DECREASE) INCREASE IN CASH AND CASH
EQUIVALENTS (1,209,128) 4,076,483
CASH AND CASH EQUIVALENTS, beginning of period 2,525,026 527,015
----------- -----------
CASH AND CASH EQUIVALENTS, end of period $ 1,315,898 $ 4,603,498
----------- -----------
----------- -----------
</TABLE>
The accompanying notes are an integral part of these statements.
6
<PAGE>
ELECTROSCOPE, INC.
NOTES TO CONDENSED INTERIM FINANCIAL STATEMENTS
SEPTEMBER 30, 1998
(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. The product monitors
for stray electrical energy during laparoscopic surgical procedures and
deactivates the electrosurgical unit when this energy creates potentially
dangerous conditions, thus enhancing patient safety for patients who undergo
laparoscopic surgery. The product can be used with most electrosurgical
instruments available today in the USA. The Company has also developed and
is marketing its own line of integrated, shielded, five millimeter diameter
electrosurgical instruments that incorporate the Company's proprietary
technology. The Company's sales to date have been made principally in the
United States.
The Company has incurred losses since its inception and has an accumulated
deficit of $11,226,070 at September 30, 1998. 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 and
limitations on future capital availability; current and potential competitors
with greater financial, technical and marketing resources; the potential
impact of a failure to comply with or changes in government regulations;
manufacturing being subject to Governmental regulations; dependence on new
product development and intellectual property rights; dependence on single
source suppliers and sub-contractors; the Company's limited manufacturing
experience for large-scale production; potential fluctuations in future
quarterly results; uncertainty of future efforts at health care reform;
product liability risk and limited insurance coverage against such risk;
potential risks associated with the Year 2000 computer software issue; and
dependence on key personnel.
(2) 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.
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
<PAGE>
CASH AND CASH EQUIVALENTS
For purposes of presentation in the financial statements, the Company
considers all cash and highly liquid investments with an original maturity of
three months or less to be cash equivalents.
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 September 30, 1998, the
Company's short-term investments consist primarily of government and
corporate securities that 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:
<TABLE>
<CAPTION>
September 30, March 31,
1998 1998
------------- ---------
<S> <C> <C>
Raw materials $ 437,442 $ 448,486
Finished goods 128,328 234,520
--------- ---------
565,770 683,006
Less- Reserve for obsolescence (70,318) (140,000)
--------- ---------
$ 495,452 $ 543,006
--------- ---------
--------- ---------
</TABLE>
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 PRONOUNCEMENTS
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 adopted this standard in its fiscal quarter ended
December 31, 1997, and such adoption had no impact on reported loss per
share.
The Company adopted the provisions of SFAS 130, "Reporting Comprehensive
Income" as of April 1, 1998. SFAS 130 establishes standards for reporting
and display of comprehensive income and its components in a full set of
general purpose financial statements. The adoption of this statement had no
impact on the Company's financial statements as there are no differences
between Net Income and Comprehensive Income.
8
<PAGE>
BASIC AND DILUTED LOSS PER COMMON SHARE
Loss per common share and common equivalent share for all fiscal periods
presented is computed using the sum of the weighted average number of shares
of common stock outstanding. Fully diluted shares that would result from the
exercise of common stock options and warrants would be anti-dilutive and thus
are not presented.
(3) 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. As of September 30, 1998, the Company believes it was in
substantial compliance with all known regulations.
Because of seasonal and other factors including the continuing development of
the sales force the results of operations for the quarter ended September 30,
1998, should not be taken as an indication of the results of operations for
all or any part of the balance of the year.
(4) 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, for the fiscal year ended March 31, 1998, filed on Form 10-KSB on
June 15, 1998.
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.
9
<PAGE>
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 enhance patient safety for 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 dynamically monitor for stray electrical energy
out of the view of the surgeon during MIS procedures. The Company has
received five FDA Form 510(k) notifications for its products and obtained
patent protection for its products' basic shielding and monitoring features.
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 is continuing to develop a sales
force in the U.S. consisting primarily of independent sales representative
organizations. The Company has modified its marketing strategies 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 additional product development and
acquisition opportunities from third parties.
The Company believes that it has sufficient cash resources on hand to attract
and 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 a result of several factors the Company's
Common Stock has been delisted from the Nasdaq National Market System and
trades on the Over the Counter Bulletin Board, as previously announced. (See
Liquidity and Capital Resources)
Statements herein that are not historical facts, including statements about
the Company's strategies and expectations about new and existing products and
market demand and acceptance of new and existing products, technologies and
opportunities, market and industry segment growth, and return on investments
in products and markets are forward looking statements within the meaning of
the Private Securities Litigation Reform Act of 1995. These forward looking
statements involve substantial risks and uncertainties that may cause actual
results to differ materially from those indicated by the forward looking
statements. These forward looking statements should be read in conjunction
with the risk factors discussed in the Form 10-KSB filed by the Company on
June 15, 1998. All forward looking statements are based on information
available to the Company on the date of this document and the Company assumes
no obligation to update such forward looking statements.
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. 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- 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 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
10
<PAGE>
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 an
exclusive distribution agreement with Valleylab, Inc., then a division of
Pfizer, Inc. This agreement did not meet its objectives and the Company has
developed its own direct sales force, made up of Company employees and
independent sales representative organizations, which together provide market
presence in many of the major market areas in the United States. In
addition, in Fiscal Year 1998 the Company began to sell through independent
distributors in Australia, Canada and Taiwan. 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. Management does not expect that profitable
revenue levels will be reached in fiscal year 1999, 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 $11,226,070 as of September 30, 1998. 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 SEPTEMBER 30, 1998 COMPARED TO THE THREE MONTHS
ENDED SEPTEMBER 30, 1997.
NET REVENUES. Revenues for the three months ended September 30, 1998 were
$368,428, compared to $329,179 for the three months ended September 30, 1997,
an increase of 12%. The increase is attributable to the Company continuing
to develop its own sales and marketing efforts and the introduction of
disposable products at the end of September 1997. The Company anticipates
revenue growth for the fiscal year ended March 31, 1999 ("Fiscal Year 1999"),
compared to fiscal year 1998 as the Company's continuing development of 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 1999, 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. Gross profit for the three months ended September 30, 1998 was
$123,641, compared to the three months ended September 30, 1997 gross profit
of $16,856, an increase of 633%. Gross profit as a percentage of revenue
(Gross Margin) increased to 33.6% for the three months ended September 30,
1998 from 5.1% in the three months ended September 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. The increase in gross profit is
partly due to product mix and volumes, and partly to lower spending levels in
the manufacturing facility. Gross margins, while improved, 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 and other, generally
fixed, manufacturing costs.
SALES AND MARKETING EXPENSES. Sales and marketing expenses for the three months
ended September 30, 1998 were $330,524 compared to $497,567 for the three months
ended September 30, 1997, a decrease of 34%. The decrease is the result of the
Company's change from a primarily direct sales force to one made up of
independent sales representatives who are paid on a commission basis only. In
the three months ended September 30, 1997 the Company invested in a significant
marketing communications effort to increase market awareness of the hazards
inherent in monopolar electrosurgery, with no comparable levels of spending in
the three months ended September 30, 1998. Offsetting some of the reductions
in marketing spending was the redeployment of certain employees from
administrative and operations assignments to marketing and
11
<PAGE>
customer support roles. 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.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses for
the three months ended September 30, 1998 were $253,605, compared to $340,674
for the three months ended September 30, 1997, a decrease of 26%. The
reduction is due to expense reduction programs, especially for outside
services and lower spending on directors fees, plus the transfer of certain
personnel to marketing and customer support functions. In addition, in the
three months ended September 1997 the Company was incurring significant legal
fees in connection with its successful defense against the shareholder law
suit, which was ultimately dismissed by a Federal Court in March of 1998.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses for the
three months ended September 30, 1998 were $138,964 compared to $180,105 for
the three months ended September 30, 1997, a decrease of 23%. The primary
contributors to the lower level of spending were reductions in headcount due
to completion of some engineering projects, lower levels of inventory
consumption required to test and modify products and lower levels of outside
services, related again to completed projects.
RESULTS OF OPERATIONS
FOR THE SIX MONTHS ENDED SEPTEMBER 30, 1998 COMPARED TO THE SIX MONTHS ENDED
SEPTEMBER 30, 1997.
NET REVENUES. Revenues for the six months ended September 30, 1998 were
$682,306, compared to $640,743 for the six months ended September 30, 1997,
an increase of 6.5%. The increase is attributable to the Company continuing
to develop its own sales and marketing efforts and the introduction of
disposable products at the end of September 1997. The Company anticipates
revenue growth for the fiscal year ended March 31, 1999 ("Fiscal Year 1999")
compared to fiscal year 1998 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 1999 that 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. Gross profit for the six months ended September 30, 1998 was
$172,401, compared to the gross profit of $53,458 for the six months ended
September 30, 1997, an increase of 222%. Gross profit as a percentage of
revenue (Gross Margin) increased to 25.3 % for the six months ended September
30, 1998 compared to 8.3% for the six months ended September 30, 1997. The
increase in gross profit is the result of reductions in manufacturing
headcount and spending reduction programs. 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, while improved, 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 and other, generally
fixed, manufacturing costs.
SALES AND MARKETING EXPENSES. Sales and marketing expenses for the six
months ended September 30, 1998 were $646,492 compared to $1,059,306 for the
six months ended September 30, 1997 a decrease of 39%. The decrease is the
result of the Company's change from a primarily direct sales force to one
made up of independent sales representatives who are paid on a commission
basis only. In the six months ended September 30, 1997 the Company made
substantial investments in a significant marketing communications effort to
increase market awareness of the hazards inherent in monopolar
electrosurgery, with no comparable level of expenditures in the six months
ended September 30, 1998. Some of the reduced levels of spending were offset
by the reassignment of certain personnel from Administration and Operations
to marketing and customer support roles. 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.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses for
the six months ended September 30, 1998 were $513,837 compared to $749,254
for the six months ended September 30, 1997, a decrease of 31%. In the six
months ended September 30, 1997 the Company incurred significant legal
12
<PAGE>
expenses in connection with its successful defense against the shareholder
lawsuit, which was dismissed by a Federal Court in March 1998. In addition,
certain administrative personnel were reassigned to marketing support
functions in the six months ended September 30, 1998.
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses for the
six months ended September 30, 1998 were $266,007 compared to $389,779 for
the six months ended September 30, 1997, a decrease of 32%. The decrease is
the result of a decrease in headcount, reflecting the completion of certain
engineering projects, a reduction in the utilization of outside consulting
services and reduced consumption of inventories and supplies used in testing
and modifying products.
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically satisfied its cash requirements principally
through sales of Common Stock which approximated $17.1 million through
September 30, 1998, and, to a substantially lesser degree, funds provided by
sales of the Company's products. 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 the remaining net proceeds from the Company's initial public offering
are currently invested primarily in money market instruments, government and
corporate securities, the Company may also use a substantial portion of those
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.
The Company's Common Stock trades on the Over the Counter Bulletin Board.
The Company's Common Stock formerly traded on the Nasdaq National Market. On
October 12, 1998, the Company's Common Stock was delisted from the Nasdaq
National Market for failure to meet certain listing requirements.
INCOME TAXES
Net operating loss carryforwards totaling approximately $10.2 million are
available to reduce taxable income as of September 30, 1998. 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.
YEAR 2000
Computer programs that rely on two-digit date codes to perform computations
and decisions-making functions may cause computer systems to malfunction due
to an inability of such programs to interpret the date code "00" as the year
2000. The Company has determined that none of the products of the Company are
subject to Year 2000 problems. The Company is conducting an audit of the
software and hardware used by the Company to assess the scope of Year 2000
problems, if any. The Company is also conducting a review of its major
suppliers of goods and services to understand their level of compliance with
Year 2000 issues. Both of these reviews are expected to be completed during
the three months ended December 31, 1998.
The Company does not anticipate that its review of internal hardware and
software will reveal material problems, as the Company uses current versions
of software provided by major software vendors. Likewise, the Company does
not anticipate that any material issues will arise as a result of its review
of hardware, as the Company utilizes hardware that is less than a year old
for the most part. The Company has adequate financial resources to replace
any hardware and/or software that is determined not to be Year 2000
compliant.
13
<PAGE>
The Company believes that most of its service providers will represent that
they are Year 2000 compliant. If in its survey of significant vendors of
materials, the Company becomes concerned that one or more vendors either is
not Year 2000 compliant or has what the Company believes to be inadequate
programs to become Year 2000 compliant, the Company will develop additional
programs to reduce or eliminate its reliance on such vendors.
14
<PAGE>
PART II. OTHER INFORMATION
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) On August 21, 1998 the Annual Meeting of the shareholders of
the Company was held. The purpose of the meeting was to
elect Directors for the coming year and to ratify the
appointment of Arthur Andersen LLP as independent public
accountants for the Company. Results of the voting were:
(1) To Elect Directors:
<TABLE>
<CAPTION>
Name Votes For Votes Withheld
---- --------- --------------
<S> <C> <C>
Patrick F. Crane 4,506,637 11,005
Vernon D. Kornelsen 4,446,469 71,173
David W. Newton 4,505,637 12,005
Roger C. Odell 4,445,369 72,273
C. Randle Voyles 4,506,637 11,005
</TABLE>
(2) To ratify the appointment of Arthur Andersen LLP as
independent public accountants for the Company:
<TABLE>
<S> <C>
Votes For: 4,507,576
Votes Against: 4,800
Abstain: 5,266
</TABLE>
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27 - Financial Data Schedule.
(b) On August 26, 1998 the Registrant filed a report with the
SEC on Form 8-K, and under Item 5 reported that the Board of
Directors accepted the resignation of Patrick F. Crane as an
Officer and the resignation of C. Randle Voyles as a
Director, both resignations effective immediately. The
Registrant also reported that David W. Newton was appointed
as Acting Chief Executive Officer.
(c) On September 30, 1998 the Registrant filed a report with the
SEC on Form 8-K and under Item 5 reported that the
Registrant had been notified by Nasdaq that it was not in
compliance with certain requirements for continuing listing
on the Nasdaq National Market System. The Registrant also
reported that it believed that the company would be delisted
from the Nasdaq National Market System on October 12, 1998.
15
<PAGE>
SIGNATURE
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 October 27, 1998
- ---------------------- (Principal Accounting Officer)
Karl D. Hawkins
16
<PAGE>
EXHIBIT INDEX
<TABLE>
<CAPTION>
Sequentially
Exhibit No. Description Numbered Page
- --------------- ----------------------- ----------------
<S> <C> <C>
27 Financial Data Schedule 18
</TABLE>
17
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM
ELECTROSCOPE, INC. BALANCE SHEET AS OF SEPTEMBER 30, 1998 AND STATEMENTS OF
OPERATION AND CASH FLOWS FOR THE SIX MONTHS ENDED SEPTEMBER 30, 1998 AND IS
QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> MAR-31-1998
<PERIOD-START> APR-01-1998
<PERIOD-END> SEP-30-1998
<CASH> 1,315,898
<SECURITIES> 4,059,033
<RECEIVABLES> 162,172
<ALLOWANCES> 7,500
<INVENTORY> 495,452
<CURRENT-ASSETS> 6,101,958
<PP&E> 647,423
<DEPRECIATION> (447,650)
<TOTAL-ASSETS> 6,471,961
<CURRENT-LIABILITIES> 461,867
<BONDS> 0
0
0
<COMMON> 16,941,317
<OTHER-SE> 290,400
<TOTAL-LIABILITY-AND-EQUITY> 6,471,961
<SALES> 682,306
<TOTAL-REVENUES> 682,306
<CGS> 509,905
<TOTAL-COSTS> 1,426,336
<OTHER-EXPENSES> (151,842)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (1,102,093)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,102,093)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,102,093)
<EPS-PRIMARY> (0.21)
<EPS-DILUTED> (0.21)
</TABLE>
