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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 JUNE 30, 2002
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
------------ ----------
COMMISSION FILE NUMBER: 0-22179
SPECTRX, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 58-2029543
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
6025A UNITY DRIVE
NORCROSS, GEORGIA 30071
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE)
(770) 242-8723
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
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 requirements for
the past 90 days.
YES [X] NO [ ]
The number of issued and outstanding shares of the Registrant's Common Stock,
$0.001 par value, as of July 31, 2002, was 11,208,278.
SPECTRX, INC.
INDEX
PART I. FINANCIAL INFORMATION.................................................. 3
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED
CONSOLIDATED BALANCE SHEETS -
DECEMBER 31, 2001 AND JUNE 30, 2002..................... 4
CONSOLIDATED STATEMENTS OF OPERATIONS -
THREE MONTHS AND SIX MONTHS ENDED
JUNE 30, 2001 AND 2002.................................. 5
CONSOLIDATED STATEMENTS OF CASH FLOWS -
SIX MONTHS ENDED JUNE 30, 2001 AND 2002................. 6
NOTES TO FINANCIAL STATEMENTS.......................................... 7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS.............................. 10
ITEM 3. QUANTITIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK........ 28
PART II. OTHER INFORMATION...................................................... 29
ITEM 1. LEGAL PROCEEDINGS.............................................. 29
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............ 29
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K............................... 29
SIGNATURES...................................................................... 30
PART 1. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Arthur Andersen LLP audited our accounts for fiscal 2001. Ernst & Young
LLP was selected as our auditors for fiscal 2002, and a letter of engagement was
signed July 25, 2002.
Our interim financial statements for the first quarter of 2002, as
submitted in our Form 10-Q for the period ending March 31, 2002, were not
reviewed by an independent public accountant, in accordance with Release No.
34-45590 under the Securities and Exchange Act of 1934. The interim financial
statements for the first quarter of 2002 have now been reviewed by Ernst & Young
LLP.
SPECTRX, INC.
UNAUDITED CONSOLIDATED BALANCE SHEETS
DECEMBER 31, JUNE 30,
2001 2002
(UNAUDITED)
------------ -----------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 9,458 $ 3,269
Accounts receivable 1,229 526
Inventory 437 771
Other current assets 408 1,279
-------- --------
Total Current Assets 11,532 5,845
-------- --------
NON-CURRENT ASSETS
Property & Equipment, Net 513 409
Intangibles 4,132 4,009
Due from related parties 557 571
-------- --------
Total Non-Current Assets 5,202 4,989
-------- --------
TOTAL ASSETS $ 16,734 $ 10,834
======== ========
LIABILITIES & STOCKHOLDER'S EQUITY
CURRENT LIABILITIES
Accounts payable $ 1,018 $ 372
Accrued liabilities 1,194 1,382
-------- --------
Total Current Liabilities 2,212 1,754
-------- --------
COLLABORATIVE PARTNER ADVANCE 381 381
-------- --------
REDEEMABLE CONVERTIBLE PREFERRED STOCK 4,769 4,897
-------- --------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY (DEFICIT)
Preferred stock 1,125 1,155
Common stock 11 11
Additional paid-in-capital 47,604 47,783
Treasury stock (38) (38)
Deferred compensation (19) (95)
Accumulated deficit (39,280) (44,983)
Notes receivable from officers (31) (31)
-------- --------
Total Stockholders' Equity 9,372 3,802
-------- --------
TOTAL LIABILITIES & EQUITY $ 16,734 $ 10,834
======== ========
The accompanying notes are an integral part of the financial statements
SPECTRX, INC.
UNAUDITED STATEMENT OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS SIX MONTHS
ENDED JUNE 30 ENDED JUNE 30
2001 2002 2001 2002
------- -------- ------- --------
REVENUE
Product sales $ 635 $ 774 $ 1,156 $ 1,326
Collaborative agreements 0 0 100 100
------- -------- ------- --------
Total 635 774 1,256 1,426
COST OF SALES 506 393 1,007 817
------- -------- ------- --------
GROSS PROFIT 129 381 249 609
------- -------- ------- --------
EXPENSES
Research & development 636 1,873 2,208 3,326
Sales & marketing 197 735 374 1,040
General & administrative 698 969 1,415 1,845
------- -------- ------- --------
Total 1,531 3,577 3,997 (6,211)
------- -------- ------- --------
Operating loss (1,402) (3,196) (3,748) (5,602)
OTHER INCOME (EXPENSE) 2 (5) 2 (5)
INTEREST INCOME 40 26 76 62
------- -------- ------- --------
NET LOSS (1,360) (3,175) (3,670) (5,545)
PREFERRED STOCK DIVIDENDS (79) (79) (158) (158)
------- -------- ------- --------
Loss available to common stockholders $(1,439) $ (3,254) $(3,828) $ (5,703)
======= ======== ======= ========
NET (LOSS) PER SHARE
BASIC AND DILUTED $ (0.16) $ (0.29) $ (0.44) $ (0.51)
======= ======== ======= ========
WEIGHTED AVERAGE
COMMON SHARES OUTSTANDING
BASIC AND DILUTED 9,048 11,197 8,781 11,195
======= ======== ======= ========
The accompanying notes are an integral part of these financial statements.
SPECTRX, INC.
UNAUDITED CONSOLIDATED STATEMENT OF CASH FLOWS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
SIX MONTHS
ENDED
JUNE 30,
2001 2002
-------- -------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (3,670) $(5,545)
-------- -------
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 183 260
Loss on retirement of assets 0 4
Amortization of deferred compensation 0 (76)
Changes in assets and liabilities:
Accounts receivable 717 703
Inventory (100) (334)
Other current assets 8 (871)
Other assets (15) (14)
Accounts payable 437 (646)
Accrued liabilities (200) 188
-------- -------
Total adjustments 1,030 (786)
-------- -------
Net cash used in operating activities (2,640) (6,331)
-------- -------
CASH FLOW FROM INVESTING ACTIVITIES:
Additions to property and equipment (57) (37)
-------- -------
Net cash used in investing activities (57) (37)
-------- -------
CASH FLOW FROM FINANCING ACTIVITIES:
Issuance of common stock (net of issuance costs) 11,259 179
-------- -------
Net cash provided by financing activities 11,259 179
-------- -------
NET INCREASE (DECREASE) IN CASH AND
CASH EQUIVALENTS 8,562 (6,189)
CASH AND CASH EQUIVALENTS, beginning of period 3,609 9,458
-------- -------
CASH AND CASH EQUIVALENTS, end of period $ 12,171 $ 3,269
======== =======
The accompanying notes are an integral part of the financial statements.
SPECTRX, INC.
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF PRESENTATION
The unaudited interim financial statements included herein have been
prepared by SpectRx. These statements reflect all adjustments, all of which are
of a normal, recurring nature, and which are, in the opinion of management,
necessary to present fairly the financial position as of June 30, 2002, the
results of operations for the three months and six months ended June 30, 2001
and 2002, and the cash flows for the six months ended June 30, 2001 and 2002.
The results of operations for the three months and six months ended June 30,
2001 and 2002 are not necessarily indicative of the results for a full fiscal
year. Certain information and footnote disclosures normally included in
financial statements prepared in accordance with accounting principles generally
accepted in the United States have been condensed or omitted. Preparing
financial statements requires our management to make estimates and assumptions
that affect the reported amounts of assets, liabilities, revenues and expenses.
Actual results could differ from those estimates. Our accounting policies
continue unchanged from December 31, 2001. These financial statements should be
read in conjunction with the financial statements and notes thereto included in
our Annual Report on Form 10-K for the year ended December 31, 2001 and our
subsequent quarterly report on Form 10-Q.
Certain amounts in the December 31, 2001 financial statements have
been reclassified to conform to the current year presentation.
2. FLUORRX
In December 1996, we sublicensed certain technology to and acquired a
64.8% interest in FluorRx, Inc., a corporation organized for the purpose of
developing and commercializing technology related to fluorescence spectroscopy.
Our interest in FluorRx is represented by two seats on the board of directors
and 129,000 shares of convertible preferred stock purchased for $250,000. In
December 1997, March 1998, August 1998 and April 1999, FluorRx sold additional
convertible preferred stock for net cash proceeds of $521,000, $429,000,
$511,000 and $300,000, respectively. The issuance of additional preferred stock
reduced our ownership (on an as converted basis) to 43%. Effective with the
August 1998 funding, we began accounting for our investment in FluorRx under the
equity method of accounting. In connection therewith, we began suspending the
equity losses from our investment in FluorRx.
On June 18, 2002, the board of directors of FluorRx approved a series
of actions that will result in a dissolution of that corporation and its
business. Those actions were subsequently approved by the FluorRx stockholders,
and as soon as the appropriate documentation is filed, FluorRx will be
dissolved. There is no impact on our statement of operations or balance sheet
for the quarter ended June 30, 2002 as a result of the dissolution.
3. STERLING MEDIVATIONS
On December 31, 2001, we purchased the outstanding shares of Sterling
Medivations, Inc. Sterling Medivations (which is doing business as
SimpleChoice(TM)) is a developer of innovative insulin delivery products for
people with diabetes. The acquisition of Sterling Medivations expands our
diabetes business opportunities by adding a portfolio of FDA-cleared insulin
delivery products, including consumables for the rapidly growing insulin pump
market. As a result of the merger, we issued a total of 634,713 shares of our
common stock in exchange for all of the outstanding Sterling common stock and
preferred stock and reserved 22,151 shares for issuance upon exercise of stock
options assumed in the merger with an estimated fair market value of $62,159.
Sterling stockholders and option holders will also be entitled to up to an
aggregate of 1,234,567 additional shares of our common stock in the future if
the Sterling Medivations product line achieves specified financial goals. In
connection with the acquisition of Sterling Medivations, we entered into
employment agreements with four employees for terms expiring June 2003. The
excess of the cost over the estimated fair value of net tangible assets
acquired amounts to approximately $4.1 million and has been included in
intangibles in the accompanying consolidated balance sheets. The $4.1 million
purchase price excess has been allocated between patents and non-compete
agreements. The acquisition has been accounted for as a purchase in accordance
with Statement of Financial Accounting Standards ("SFAS") No. 141, "Accounting
for Business Combinations."
4. COMPREHENSIVE INCOME
We currently have no other comprehensive income items as defined by
SFAS No. 130, "Reporting Comprehensive Income."
5. LITIGATION
We are involved in certain litigation arising in the ordinary course of
business. In management's opinion, the ultimate resolution of these matters will
not have a material
adverse effect on our financial position or results of operations. See Part II,
Item 1, "Legal Proceedings," for disclosure of significant litigation matters.
6. STOCKHOLDERS' EQUITY
In June 2001, we announced that we had completed two private
placements. On June 4, 2001, we entered into an agreement with affiliates of
SAFECO Corporation, which invested about $9.5 million in SpectRx before
transaction expenses. On June 13, 2001, we entered into an agreement with
affiliates of Special Situations Fund, which invested about $2.5 million in
SpectRx before transaction expenses. The financings consisted, in total, of
sales of about 1.9 million shares of common stock and warrants to purchase
379,127 shares of common stock. Under the terms of the agreements, each share of
common stock was sold at a price of $6.319 per share, which represented a
discount from the market price of our common stock on the dates these
transactions closed. The first transaction, funded on June 4, 2001, involved the
private placement of 1.5 million shares of common stock. The second transaction,
funded on June 13, 2001, involved the private placement of 395,633 shares of
common stock. The combination of these two transactions resulted in proceeds to
SpectRx of about $12 million before transaction expenses. The 1,895,633 shares
issued in these transactions constituted 22.2% of our common stock outstanding
prior to the first private placement transaction. In addition, the purchasers of
common stock also received warrants to purchase an aggregate of 379,127 shares
of common stock for $9.8874 per share. These warrants expire on the fifth
anniversary of their issuance date. The warrants are valued at $1.7 million and
are included in additional paid-in capital in the accompanying balance sheets.
On August 30, 2001, the common stockholders of SpectRx, excluding the shares
held by SAFECO and Special Situations Fund, approved these transactions.
In October 2001, Abbott invested an additional $1 million in SpectRx
common stock, acquiring 126,199 shares at $7.92 per share, which was subject to
SpectRx maintaining certain rights to sublicense technology to Abbott. The
purchase was associated with a milestone under a program to commercialize our
continuous glucose monitoring technology for people with diabetes. The purchase
raised Abbott's common stock ownership in SpectRx to approximately 5.9%, as of
June 30, 2002.
On September 19, 2001, we announced that our board of directors had
approved a stock repurchase program for up to $1 million of our common stock. As
of June 30, 2002, we had purchased 6,700 shares of common stock at an average
price of $5.66 per share.
7. PREFERRED STOCK
In January 1997, we authorized 5,000,000 shares of preferred stock with
a $.001 par value. The board of directors has the authority to issue these
shares and to fix dividends, voting and conversion rights, redemption
provisions, liquidation preferences, and other rights and restrictions.
In November 1999, the board of directors designated 525,000 shares of
the preferred stock as redeemable convertible preferred stock. We issued $5.25
million of redeemable convertible preferred stock in November 1999 in
conjunction with the
execution of an amendment to our agreement with Abbott, of which $2,750,000 was
received in November 1999 and $2,500,000 was received in January 2000.
The preferred shares, together with any accrued but unpaid dividends,
are convertible into shares of common stock at a conversion rate equal to the
greater of $9.39 per share or the average of the closing sales price for 30
trading days that begin on the 15th trading day prior to our receipt of a
conversion notice sent by the holder of such shares. Also, the shares of
preferred stock automatically convert into shares of common stock on December
31, 2004 at such conversion rate.
In September 2001, we entered into an agreement with Abbott whereby
Abbott waived its right of optional redemption as to 100,000 shares of its
preferred stock. At the election of the holders of a majority of the shares of
preferred stock, the remaining 425,000 shares of preferred stock are
mandatorily redeemable by us at $10 per share, plus accrued but unpaid
dividends, beginning on December 31, 2002. Such election must be made by
written notice from such holders on or before the later of September 30, 2002
or 60 days subsequent to the date that the we give notice to the holders of
preferred stock of our right to redeem the shares. If this written election to
be mandatorily redeemed is made, 162,000 shares of the shares of preferred stock
are to be mandatorily redeemed on December 31, 2002. The remaining 262,500
shares are redeemable on or prior to January 31, 2004, if we achieve a revenue
goal of $20 million during the year 2003. If we do not achieve this goal, then
131,250 must be redeemed prior to January 31, 2004, and the remaining 131,250 by
December 31, 2004. Additionally, we have the option to redeem the shares of any
holder of the redeemable convertible preferred stock at $10 per share, plus
accrued and unpaid dividends, after receiving a notice from such holder electing
to convert such holder's shares of preferred stock into common stock. The
preferred stock also has a liquidation preference of $10 per share, plus all
accrued but unpaid dividends.
Dividends are accrued on the 100,000 shares of non-redeemable
convertible preferred stock at a rate of 6% per year and total $30,000 for the
first half of 2002, and $155,000 since issuance. The related dividends are
included in preferred stock in the accompanying balance sheets. Dividends are
also accrued on the redeemable convertible preferred stock at a rate of 6% per
year and total $127,500 for the first half of 2002, and $646,250 since issuance.
The related dividends are included in redeemable convertible preferred stock in
the accompanying balance sheets.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Statements in this report which express "belief", "anticipation" or
"expectation" as well as other statements which are not historical facts are
forward looking statements within the meaning of Section 27A of the Securities
Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These
forward looking statements are subject to certain risks and uncertainties that
could cause actual results to differ materially from historical results or
anticipated results, including those set forth under "Risk Factors" in this
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and elsewhere in or incorporated by reference into this report.
Examples of these uncertainties and risks include, but are not limited to:
- whether our products in development will prove safe and
effective;
- whether and when we or our strategic partners will obtain
approval from the Food and Drug Administration, or FDA, and
corresponding foreign agencies;
- our need to achieve manufacturing scale-up in a timely manner,
and our need to provide for the efficient manufacturing of
sufficient quantities of our products;
- the lack of immediate alternate sources of supply for some
critical components of our products;
- our patent and intellectual property position;
- the need to fully develop the marketing, distribution,
customer service and technical support and other functions
critical to the success of our product lines;
- the effectiveness and ultimate market acceptance of our
products;
- access to sufficient debt or equity capital to meet our
operating and financial needs;
- the dependence on our strategic partners for funding,
development assistance, clinical trials, distribution and
marketing of some of our products; and
- other risks and uncertainties described from time to time in
our reports filed with the Securities and Exchange Commission,
including those contained in our Annual Report on Form 10-K
for the year ended December 31, 2001 and our subsequent
Quarterly Report on Form 10-Q.
The following discussion should be read in conjunction with our
financial statements and notes thereto included elsewhere in this report.
OVERVIEW
We were incorporated on October 27, 1992, and since that date we raised
capital through the sale of preferred stock, issuance of debt securities, public
and private sales of common stock and funding from collaborative arrangements.
Following our initial funding in early 1993, we immediately began research and
development activities with the objective of commercializing less invasive
diagnostic, screening and monitoring products. As part of our business strategy,
we have established arrangements with leading medical device companies for the
development, commercialization and introduction of some of our products. We have
collaborative arrangements with Abbott Laboratories and Respironics, Inc. for
our continuous glucose monitoring and BiliChek products, respectively. We also
have had a collaborative agreement with Welch Allyn since 1999 to jointly
develop our cervical cancer detection product, although we expect to modify our
relationship with Welch Allyn by entering into a cross-licensing agreement with
Welch Allyn that will allow us to independently commercialize this product. In
addition, we have a collaborative agreement with Roche related to a diabetes
detection product, although there is currently little development activity with
regard to this product, and we expect no revenue from this product in the
foreseeable future. We may seek to establish strategic relationships with other
leading companies for the development, commercialization, and introduction of
additional products, if it is the best path to commercialization for those
products.
In December 2001, we acquired 100% of the common stock of Sterling
Medivations, Inc. (doing business as SimpleChoice(TM)), a company formed for the
purpose of developing and marketing insulin-delivery products.
We have a limited operating history upon which our prospects can be
evaluated. Our prospects must be considered in light of the substantial risks,
expenses and difficulties encountered by entrants into the medical device
industry. This industry is characterized by an increasing number of
participants, intense competition and a high failure rate. We have experienced
operating losses since our inception, and, as of June 30, 2002, we have an
accumulated deficit of about $45.0 million. To date, we have engaged primarily
in research and development efforts. We first generated revenues from product
sales in 1998, but do not have significant experience in manufacturing,
marketing or selling our products. Our development efforts may not result in
commercially viable products, and we may not be successful in introducing our
products. Moreover, required regulatory clearances or approvals may not be
obtained in a timely manner, or at all. Our products may not ever gain market
acceptance, and we may not ever generate significant revenues or achieve
profitability. The development and commercialization of our products will
require substantial development, regulatory, sales and marketing, manufacturing
and other expenditures. We expect our operating losses to continue through at
least 2002 as we continue to expend substantial resources to introduce our
SimpleChoice(TM) product line, further the development of our products, obtain
regulatory clearances or approvals, build our marketing, sales, manufacturing
and finance organizations and conduct further research and development.
Our product revenues to date have been limited. For 2002, a substantial
majority of our product line revenues have come from our BiliChek(TM) product
line. We expect
that about half of our revenue in 2003 will be derived from sales of our
SimpleChoice(TM) insulin delivery products, which have not yet been introduced
to the market. Our other products for glucose monitoring and cervical cancer
detection are still in development.
We currently sell our products either to distributors or to a
collaborative partner, which then distributes our products, which results in
revenues from distributor sales, manufacturing profits and royalties. The
royalties and manufacturing profits that we expect to receive from Abbott and
Respironics depend on sales of the products covered by our collaborative
arrangements with each of these companies. Our collaborative partners and we may
not be able to sell sufficient volumes of our products to generate substantial
revenues or profits for us.
We have a licensing agreement with Respironics that grants it the right
to distribute the BiliChek product line in the United States and Canada. We
currently have a collaborative agreement with Abbott related to our continuous
glucose monitoring product. We have a collaborative agreement with Roche related
to a diabetes detection product. These collaborative arrangements grant a
substantial amount of discretion to each collaborative partner. If a
collaborative partner were to terminate its arrangement with us, we would either
need to reach agreement with a replacement collaborative partner or undertake,
at our own expense, the activities previously handled by our collaborative
partner. We currently expect to modify our relationship with Welch Allyn to
allow us to independently commercialize our cervical cancer product. This will
require us to develop expertise we do not currently possess, significantly
increase our capital requirements and limit the programs we could pursue. We
would likely encounter significant delays in introducing our products, and the
development, manufacture and sales of our products may be adversely affected by
the absence of collaborative arrangements.
CRITICAL ACCOUNTING POLICIES
Our material accounting policies that we believe are the most critical
to an investor's understanding of our financial results and condition are
discussed below. Because we are still early in our enterprise development, the
number of these policies requiring explanation are limited. As we begin to
generate increased revenue from different sources, we expect that the number of
applicable policies and complexity of the judgments required will increase.
Currently our policies that could require critical management judgment
are in the areas of revenue recognition, reserves for accounts receivable,
accruals of product warranties and inventory evaluation.
- Revenue recognition: We recognize revenue from sales of
products or services upon shipment of products or services. We
also recognize milestone revenue from our collaborative
partners when a milestone has been accomplished or when we and
our partner agree that a milestone is due.
- Reserve for Accounts Receivable: We estimate losses from the
inability of our customers to make required payments and
periodically review the
payment history of each of our customers or subsidiaries, as
well as their financial condition, and revise our reserves as
a result.
- Accruals of Product Warranties: We book a cost for warranty
work on each of our products at the time of sale and match
actual warranty work against that accrual, as the work is
performed. We periodically review the level of warranty
accrual and the actual warranty work incurred and adjust these
as needed.
- Inventory Valuation: Inventories are valued at the lower of
cost or market value and have been reduced by an allowance for
excess and obsolete inventories.
QUARTER OVERVIEW
On May 14, 2002 we announced that we had received FDA clearance for the
use of our SimpleChoice(TM) easy disposable infusion set with the Medtronic
MiniMed Paradigm(TM) insulin pump. We believe the SimpleChoice(TM) easy will be
the only alternative insulin pump disposable infusion set FDA cleared for use
with all major makes and brands of insulin pumps.
Insulin infusion sets, when attached to external pumps, provide a
steady stream of insulin for people with diabetes, helping them to better
control their disease. The disposable infusion sets are changed about every
three days. This is a growing market, with about 160,000 people with diabetes
using insulin pumps in the U.S in 2001. That number is expected to increase to
about 225,000 in 2002.
We currently have a total of 27 FDA clearances for five insulin
delivery products including soft catheter insulin pump infusion sets, an insulin
pump reservoir and a multi-purpose insulin pen.
On June 14, 2002 we unveiled our SimpleChoice(TM) easy disposable
infusion set at the American Diabetes Association, or ADA, meeting in San
Francisco. We also conducted a survey of nearly 400 healthcare providers about
the easy and other insulin delivery products we are developing. The responses
completed by the ADA attendees reflected a strong interest in our insulin
delivery products. For example, the novel insulin patch infusion set was
characterized as a "breakthrough technology" by 80% of the respondents. There
was a strong interest in and 63% of respondents preferred a 30(degree) infusion
set design, similar to our SimpleChoice(TM) easy product, which is the first
product in this line we plan to launch. In addition, we currently have purchase
orders from distributors and are continuing to expand our distribution network.
Additionally, we presented results from clinical studies of our
interstitial fluid glucose monitoring technology. In a two-day interval study
involving 252 patients, the correlation to blood glucose levels was 95% for day
one and 90% for day two.
On July 9, 2002 we reported that results from a clinical study of our
non-invasive cervical cancer detection devices indicate that the technology
could potentially reduce by half the occurrence of false positives over that
reported for human papillomavirus (HPV) testing. Additionally, the prototypes,
which utilize our proprietary biophotonic technology, detected 15% more
high-grade precancers than Pap tests. The study, a precursor for FDA pivotal
trials, funded in part by the National Cancer Institute, included 274 women.
Locations for the clinical study were the University of Miami, the Medical
College of Georgia in Augusta, Georgia, Emory University/Grady Hospital in
Atlanta and the Saint Francis Hospital and Medical Center in Hartford,
Connecticut. The prototype devices used in the study provided very high negative
predictive rates of 98% for women in the study who had an ambiguous Pap test
result. This is the most common abnormal finding and affects over 2 million
women in the U.S. each year. Based on the study data, referral rates for
colposcopy and biopsy for women with ambiguous Pap test results would be less
than 30% with our product, as compared to 56% for HPV testing.
The prototype devices use our proprietary biophotonic technology to
locate cancers and precancers painlessly and non-invasively by analyzing light
reflected from the cervix. The device creates an image of the cervix indicating
the location and severity of disease. The technology distinguishes between
normal and diseased tissue by detecting biochemical and morphological changes at
the cellular level. Unlike Pap or HPV tests, our test does not require a tissue
sample or laboratory analysis.
On the strength of these findings, we submitted a protocol for pivotal
clinical trials of the device to the FDA. On July 30, 2002 we announced that the
FDA is reviewing our protocol for pivotal clinical trials of the device, which
we would expect to begin in late 2002 or early 2003 if we receive timely FDA
approval to proceed, and if successful, would be followed by an application for
regulatory approval. As we have previously indicated, development partner Welch
Allyn and we have been reviewing the product positioning, methods of funding and
our relationship in light of the changing marketplace. We now expect to enter
into a cross licensing agreement that should allow us to independently
commercialize the product.
According to published data, cervical cancer is the third most common
cancer in women worldwide. There are approximately 371,000 cases of cervical
cancer diagnosed annually and approximately 190,000 deaths per year on a
worldwide basis. Annually more than 60 million Pap tests are performed in the
U.S. alone. We estimate the global market size for a non-invasive cervical
cancer test at approximately $1.6 billion annually.
On July 30, 2002 we announced that we had received eight FDA clearances
in the second quarter of 2002 for three SimpleChoice(TM) insulin delivery
products. Additionally, we announced that while we are very pleased with the
market reaction to our proposed product line, we recently have had to resolve a
variety of unexpected issues relating to the production start up of the
SimpleChoice(TM) easy. Our suppliers and we had some coordination issues, and
testing of the first few thousand infusion sets revealed changes that were
needed before product launch. As a result, we will not be in a position to
launch in the third quarter. However, these issues appear to have been resolved,
and assuming the next phase of testing goes well, we hope to launch the
SimpleChoice(TM) easy product by the end of 2002 or early 2003.
We also announced that we expect to receive a milestone payment from
Abbott of $1 million, but there is a dispute as to whether we have met the
criteria to receive the payment. We expect the issue to be resolved in October.
RESULTS OF OPERATIONS
COMPARISON OF THE THREE MONTHS ENDED JUNE 30, 2002 AND 2001.
General. Net loss available to common stockholders increased to
$3.3 million during the three months ended June 30, 2002 as compared to $1.4
million for the same period in 2001. Increased spending associated with the
SimpleChoice(TM) product line and reductions in expense reimbursements from
Abbott and Welch Allyn accounted for the increased loss.
Revenue. Product revenue increased to $774,000 for the quarter ended
June 30, 2002 from $635,000 for the same period in 2001. Product revenue is
higher for the 2002 quarter than for the comparable period in 2001, in part due
to the 6% increase in revenues from our BiliChek products. We also received
$162,000 in revenue associated with services, which is primarily contract
engineering work.
Cost of Sales. Cost of sales decreased to $393,000 for the three months
ended June 30, 2002 from $506,000 during the same period in 2001. This decrease
is due to excess capacity production charges, which were lower for this period
than in 2001, partially offset by cost of sales increases directly related to
increased product revenue. We expect costs of sales to increase in the future
with the ramp up and sales of products associated with our SimpleChoice(TM)
product line.
Research and Development Expenses. Research and development expenses
increased to $1.9 million for the three months ended June 30, 2002 compared to
$636,000 for the same period in 2001. The increase in research and development
expenses was due to activities associated with the SimpleChoice(TM) products
($556,000) and reduced expense reimbursements from Abbott ($716,000) and Welch
Allyn ($242,000), offset by reduced spending on our continuous glucose
monitoring product being developed in conjunction with Abbott. We expect
research and development expenses to remain at a high level this year as we
continue development and expand clinical trials for products in both our
non-invasive business and our diabetes management business.
Sales and Marketing Expenses. Sales and marketing expenses increased to
$735,000 during the three months ended June 30, 2002 from $197,000 during the
same period in 2001, due to increased marketing relating to our introduction of
the SimpleChoice(TM) products. Marketing expenses are expected to be lower in
the remaining quarters of 2002 than in the second quarter, during which we
produced the introductory advertising and marketing materials for
SimpleChoice(TM), but can be expected to increase in the future as we launch and
market our SimpleChoice(TM) product line.
General and Administrative Expenses. General and administrative
expenses increased to $969,000 during the three months ended June 30, 2002
compared to
$698,000 incurred during the same period in 2001. The increase is primarily due
to an increase in costs associated with management of the SimpleChoice(TM)
products. General and administrative expenses are expected to increase in the
future with increases in SimpleChoice(TM) administrative needs.
Net Interest and Other Income. Net interest and other income decreased
to about $21,000 for the three months ended June 30, 2002, as compared to
$42,000 for the same period in 2001 due to lower cash balances for the period.
COMPARISON OF THE SIX MONTHS ENDED JUNE 30, 2002 AND 2001.
General. Net loss available to common stockholders increased to $5.7
million during the six months ended June 30, 2002 as compared to $3.8 million
during the same period in 2001. Increased spending associated with the
SimpleChoice(TM) product line and reductions in expense reimbursements from our
collaborative partners were slightly offset by decreases in excess capacity and
other expense reductions.
Revenue. Product revenue increased to $1.3 million for the six months
ended June 30, 2002 from $1.2 million for the same period in 2001. Product
revenue is higher for the 2002 period than for the comparable period in 2001,
due to the 6% increase in revenues from our BiliChek products and service
business revenues of $217,000. We also achieved a milestone of $100,000 in March
2002 and in March 2001, relating to FDA approval of expanded claims for BiliChek
during and after phototherapy.
Cost of Sales. Cost of sales decreased to $817,000 for the six months
ended June 30, 2002 from $1.0 million during the same period in 2001. This
decrease is due to excess capacity production charges, which were lower for this
period than in 2001, partially offset by cost of sales increases directly
related to increased product revenue.
Research and Development Expenses. Research and development expenses
increased to $3.3 million for the six months ended June 30, 2002 compared to
$2.2 million for the same period in 2001. The increase in research and
development expenses was due to expenses associated with the SimpleChoice(TM)
products ($788,000), lower reimbursements from Abbott and Welch Allyn ($946,000)
offset by reduced spending on both those programs, ($750,000).
Sales and Marketing Expenses. Sales and marketing expenses increased to
$1.0 million during the six months ended June 30, 2002 from $374,000 during the
same period in 2001, due to increased marketing activities relating to our
introduction of the SimpleChoice(TM) products.
General and Administrative Expenses. General and administrative
expenses increased to $1.8 million during the six months ended June 30, 2002
compared to $1.4 million incurred during the same period in 2001. The increase
is primarily due to an increase in costs associated with management of the
SimpleChoice(TM) products.
Net Interest and Other Income. Net interest and other income decreased
to about $57,000 for the six months ended June 30, 2002 as compared to $78,000
for the same period in 2001, due to lower cash balances for the period.
LIQUIDITY AND CAPITAL RESOURCES
We have financed our operations since inception primarily through
private sales of debt and private and public sales of our equity securities.
From October 27, 1992 (inception) through June 30, 2002, we received
approximately $48.0 million in proceeds from sales of our debt and equity
securities. At June 30, 2002, we had cash of approximately $3.8 million and
working capital of approximately $4.1 million. We completed an initial public
offering of our common stock on July 7, 1997, which resulted in net proceeds
received by us, before expenses related to the transaction, of approximately
$14.0 million.
We issued $5.25 million of redeemable convertible preferred stock in
November 1999 in conjunction with the execution of amendment to our agreement
with Abbott. We issued common stock in a private placement in February 2000,
which resulted in gross proceeds of $5.0 million. We issued common stock and
warrants in two private placements in June 2001, which resulted in net proceeds
of approximately $11.2 million. We issued common stock to Abbott in October 2001
in a private placement, which resulted in gross proceeds of $1 million.
Our major cash flows in the six months ended June 30, 2002 consisted of
cash out-flow of $6.3 million from operations and $37,000 in additions to
property and equipment. $1.8 million of the cash out-flow from operations
resulted from a prepayment of royalties relating to our agreement with Altea
Technologies, Inc.
We have historically received funds also from milestones and
reimbursements from our collaborative partners. About 29% of our funds inflow to
date through June 30, 2002 have come from these sources. We may be required to
raise additional funds through public or private financing, additional
collaborative relationships or other arrangements in addition to those sources.
We believe our existing and available capital resources plus anticipated
milestone payments will be sufficient to satisfy our funding requirements
through 2002.
We currently invest our excess cash balances primarily in short-term,
investment-grade, interest-bearing obligations or direct or guaranteed
obligations of the U.S. government until such funds are utilized in operations.
Substantial capital will be required to develop our products, including
completing product testing and clinical trials, obtaining all required United
States and foreign regulatory approvals and clearances, and commencing and
scaling up manufacturing and marketing of our products. Any failure of our
collaborative partners to fund our development expenditures, or our inability to
obtain capital through other sources, would have a material adverse effect on
our business, financial condition and results of operations.
RISK FACTORS
The following risk factors should be considered carefully in addition
to the other information presented in this report. This report contains forward
looking statements that involve risks and uncertainties. Our actual results may
differ significantly from the results discussed in the forward looking
statements. Factors that might cause such differences include, but are not
limited to, the following risk factors:
WE HAVE A SHORT OPERATING HISTORY, WHICH MAKES IT DIFFICULT FOR YOU TO EVALUATE
OUR BUSINESS.
Because limited historical information is available on our revenue
trends and operations, it will be difficult for you to evaluate our business.
Our prospects must be considered in light of the substantial risks, expenses,
uncertainties and difficulties encountered by entrants into the medical device
industry, which is characterized by increasing intense competition and a high
failure rate.
WE HAVE A HISTORY OF LOSSES, AND WE EXPECT LOSSES TO CONTINUE.
We have never been profitable, and we have had operating losses since
our inception. We expect our operating losses to continue as we continue to
expend substantial resources to integrate the recently acquired operations of
Sterling Medivations and launch the SimpleChoice(TM) product line, to complete
development of our products, obtain regulatory clearances or approvals, build
our marketing, sales, manufacturing and finance organizations, and conduct
further research and development. To date, we have engaged primarily in research
and development efforts. The further development and commercialization of our
products will require substantial development, regulatory, sales and marketing,
manufacturing and other expenditures. We have only generated limited revenues
from product sales. Our accumulated deficit was about $45 million at June 30,
2002.
OUR SIMPLECHOICE PRODUCT LINE HAS A DIFFERENT FOCUS THAN OUR NON-INVASIVE
PRODUCTS, AND WE WILL BE REQUIRED TO DEVELOP NEW CAPABILITIES TO SUCCESSFULLY
INTEGRATE STERLING MEDIVATIONS.
In December 2001, we acquired Sterling Medivations, a start-up medical
device company that has developed a portfolio of diabetes products. We call that
business and its product line SimpleChoice(TM). SimpleChoice(TM) currently has
no revenues or significant assets. The SimpleChoice(TM) product line is also
significantly different from our historical product line, which focuses on
non-invasive and minimally invasive products. SimpleChoice's future business
will depend on our ability to develop various functions that will enable it to
operate as planned, including manufacturing, marketing, and distribution
capabilities. There can be no assurance that we, or SimpleChoice(TM), will be
able to successfully develop or implement these functions.
We cannot be sure that we will be able to successfully integrate the
SimpleChoice(TM) business into our operations without substantial costs, delays
or other problems. The difficulties of combining operations may be magnified by
integrating
personnel with differing business backgrounds and corporate cultures. The
integration of SimpleChoice(TM) may take longer and be more disruptive to our
company than originally anticipated and may result in a significant diversion of
management attention and operational and financial resources. We and
SimpleChoice(TM) may not be able to realize the benefits that are expected to be
realized. Difficulties encountered in the integration process could have an
adverse effect on our business, operations and financial condition.
OUR ABILITY TO SELL OUR PRODUCTS IS CONTROLLED BY GOVERNMENT REGULATIONS, AND WE
MAY NOT BE ABLE TO OBTAIN ANY NECESSARY CLEARANCES OR APPROVALS.
The design, manufacturing, labeling, distribution and marketing of
medical device products are subject to extensive and rigorous government
regulation, which can be expensive and uncertain and can cause lengthy delays
before we can begin selling our products.
IN THE UNITED STATES, THE FOOD AND DRUG ADMINISTRATION'S ACTIONS COULD
DELAY OR PREVENT OUR ABILITY TO SELL OUR PRODUCTS, WHICH WOULD
ADVERSELY AFFECT OUR GROWTH AND STRATEGY PLANS.
In order for us to market our products in the United States, we must
obtain clearance or approval from the Food and Drug Administration, or FDA. We
cannot be sure:
- that we or our collaborative partners will make timely filings
with the FDA;
- that the FDA will act favorably or quickly on these
submissions;
- that we will not be required to submit additional information
or perform additional clinical studies;
- that we would not be required to submit an application for
premarket approval, rather than a 510(k) premarket
notification submission as described below; or
- that other significant difficulties and costs will not be
encountered to obtain FDA clearance or approval.
The premarket approval process is more rigorous and lengthier than the
510(k) clearance process for premarket notifications; it can take several years
from initial filing and require the submission of extensive supporting data and
clinical information. For example, Roche, as part of our collaborative
agreement, previously filed a premarket notification for our diabetes detection
product, which was withdrawn when the FDA indicated that this product should be
submitted for premarket approval, including submission of clinical study data.
We do not have any premarket notifications or premarket approval applications
pending, but our cervical cancer
detection product and, we believe, our glucose monitoring products will require
submission of applications for premarket approval.
The FDA may impose strict labeling or other requirements as a condition
of its clearance or approval, any of which could limit our ability to market our
products. Further, if we wish to modify a product after FDA clearance of a
premarket notification or approval of a premarket approval application,
including changes in indications or other modifications that could affect safety
and efficacy, additional clearances or approvals will be required from the FDA.
Any request by the FDA for additional data, or any requirement by the FDA that
we conduct additional clinical studies or submit to the more rigorous and
lengthier premarket approval process, could result in a significant delay in
bringing our products to market and substantial additional research and other
expenditures. Similarly, any labeling or other conditions or restrictions
imposed by the FDA on the marketing of our products could hinder our ability to
effectively market our products. Any of the above actions by the FDA could delay
or prevent altogether our ability to market and distribute our products.
Further, there may be new FDA policies or changes in FDA policies that could be
adverse to us.
IN FOREIGN COUNTRIES, INCLUDING EUROPEAN COUNTRIES, WE ARE ALSO
SUBJECT TO GOVERNMENT REGULATION, WHICH COULD DELAY OR PREVENT OUR
ABILITY TO SELL OUR PRODUCTS IN THOSE JURISDICTIONS.
In order for us to market our products in Europe and some other
international jurisdictions, we and our distributors and agents must obtain
required regulatory registrations or approvals. We must also comply with
extensive regulations regarding safety, efficacy and quality in those
jurisdictions. We may not be able to obtain the required regulatory
registrations or approvals, or we may be required to incur significant costs in
obtaining or maintaining any regulatory registrations or approvals we receive.
Delays in obtaining any registrations or approvals required to market our
products, failure to receive these registrations or approvals, or future loss of
previously obtained registrations or approvals would limit our ability to sell
our products internationally. For example, international regulatory bodies have
adopted various regulations governing product standards, packaging requirements,
labeling requirements, import restrictions, tariff regulations, duties and tax
requirements. These regulations vary from country to country. In order to sell
our products in Europe, we must maintain ISO 9001 certification and CE mark
certification, which is an international symbol of quality and compliance with
applicable European medical device directives. Failure to receive or maintain
ISO 9001 certification or CE mark certification or other international
regulatory approvals would prevent us from selling in Europe.
EVEN IF WE OBTAIN CLEARANCE OR APPROVAL TO SELL OUR PRODUCTS, WE
ARE SUBJECT TO ONGOING REQUIREMENTS AND INSPECTIONS THAT COULD
LEAD TO THE RESTRICTION, SUSPENSION OR REVOCATION OF OUR
CLEARANCE.
We and our collaborative partners will be required to adhere to
applicable FDA regulations regarding good manufacturing practice, which include
testing, control, and
documentation requirements. We are subject to similar regulations in foreign
countries. Ongoing compliance with good manufacturing practice and other
applicable regulatory requirements will be strictly enforced in the United
States through periodic inspections by state and federal agencies, including the
FDA, and in international jurisdictions by comparable agencies. Failure to
comply with these regulatory requirements could result in, among other things,
warning letters, fines, injunctions, civil penalties, recall or seizure of
products, total or partial suspension of production, failure to obtain premarket
clearance or premarket approval for devices, withdrawal of approvals previously
obtained, and criminal prosecution. The restriction, suspension or revocation of
regulatory approvals or any other failure to comply with regulatory requirements
would limit our ability to operate and could increase our costs.
SINCE WE WILL RELY SIGNIFICANTLY ON OUR COLLABORATIVE PARTNERS TO
OBTAIN AND MAINTAIN OUR REGULATORY APPROVALS, ANY FAILURE OF OUR
COLLABORATIVE PARTNERS TO PERFORM COULD HURT OUR OPERATIONS.
Because they have primary responsibility for regulatory compliance for
some of our product lines, the inability or failure of our collaborative
partners to comply with the varying regulations, or the imposition of new
regulations, would limit our ability to produce and sell many of our products.
We will solely rely upon Abbott to obtain United States and international
regulatory approvals and clearances for our glucose monitoring product.
Respironics was responsible for the regulatory approvals for our BiliChek
product line in the United States. If we move forward with the diabetes
detection product under our collaborative agreement with Roche, Roche will be
responsible for obtaining United States and international regulatory approvals
and clearances. We do not have control over the timing or amount of resources
our collaborative partners devote to these activities.
OUR SUCCESS LARGELY DEPENDS ON OUR ABILITY TO OBTAIN AND PROTECT THE PROPRIETARY
INFORMATION ON WHICH WE BASE OUR PRODUCTS.
Our success depends in large part upon our ability to establish and
maintain the proprietary nature of our technology through the patent process, as
well as our ability to license from others patents and patent applications
necessary to develop our products. If any of our patents are successfully
challenged, invalidated or circumvented, or our right or ability to manufacture
our products were to be limited, our ability to continue to manufacture and
market our products could be adversely affected. In addition to patents, we rely
on trade secrets and proprietary know-how, which we seek to protect, in part,
through confidentiality and proprietary information agreements. The other
parties to these agreements may breach these provisions, and we may not have
adequate remedies for any breach. Additionally, our trade secrets could
otherwise become known to or be independently developed by competitors.
We have been issued, or have rights to, 40 U.S. patents (including
those under license). In addition, we have filed for, or have rights to, 52 U.S.
patents (including those under license) that are still pending. There are
additional international patents and
pending applications. One or more of the patents we hold directly or license
from third parties, including those for the disposable components to be used
with our glucose monitoring, infant jaundice and insulin delivery products, may
be successfully challenged, invalidated or circumvented, or we may otherwise be
unable to rely on these patents. These risks are also present for the process we
use or will use for manufacturing our products. In addition, our competitors,
many of whom have substantial resources and have made substantial investments in
competing technologies, may apply for and obtain patents that prevent, limit or
interfere with our ability to make, use and sell our products, either in the
United States or in international markets.
The medical device industry has been characterized by extensive
litigation regarding patents and other intellectual property rights. In
addition, the United States Patent and Trademark Office may institute litigation
or interference proceedings. The defense and prosecution of intellectual
property suits, Patent and Trademark Office proceedings and related legal and
administrative proceedings are both costly and time consuming. Moreover, we may
need to litigate to enforce our patents, to protect our trade secrets or
know-how, or to determine the enforceability, scope and validity of the
proprietary rights of others. Any litigation or interference proceedings
involving us may require us to incur substantial legal and other fees and
expenses and may require some of our employees to devote all or a substantial
portion of their time to the proceedings. An adverse determination in the
proceedings could subject us to significant liabilities to third parties,
require us to seek licenses from third parties or prevent us from selling our
products in some or all markets. We may not be able to reach a satisfactory
settlement of any dispute by licensing necessary patents or other intellectual
property. Even if we reached a settlement, the settlement process may be
expensive and time consuming, and the terms of the settlement may require us to
pay substantial royalties. An adverse determination in a judicial or
administrative proceeding or the failure to obtain a necessary license could
prevent us from manufacturing and selling our products.
WE MAY NOT BE ABLE TO GENERATE SUFFICIENT SALES REVENUES TO SUSTAIN OUR GROWTH
AND STRATEGY PLANS.
We expect that about half of our revenues in 2003 will come from sales
of our new SimpleChoice(TM) diabetes product line, which has not been launched
yet and some of which is still in development. Our ability to collect revenue
from the BiliChek product line and our glucose monitoring product in development
depends on our collaborative partners' abilities to generate sales of our
products which will provide us with manufacturing revenue and royalties. We may
not be able to successfully commercialize the products we are developing. Even
if we do, we, together with our collaborative partners with respect to products
being jointly developed, may not be able to sell sufficient volumes of our
products to generate profits for us. In addition, our profit margins on some of
our products are not likely to increase over time because they are subject to
predetermined royalty rates and manufacturing profit rates.
WE ARE DEVELOPING SOME PRODUCT LINES INDEPENDENT FROM ANY COLLABORATIVE
PARTNERS, WHICH MAY REQUIRE US TO ACCESS ADDITIONAL CAPITAL AND TO DEVELOP
ADDITIONAL SKILLS TO PRODUCE, MARKET AND DISTRIBUTE THESE PRODUCTS.
We are independently finishing development, building up production
capacity, launching, marketing and distributing the SimpleChoice(TM) line of
products. We also currently expect to commercialize our cervical cancer
detection product independently of Welch Allyn, our collaborative partner for
the early phases of this product. These activities require additional resources
and capital that we will need to secure. There is no assurance that we will be
able to raise sufficient capital, attract and retain skilled personnel to enable
us to finish development, launch and market these products. Thus, there can be
no assurance that we will be able to commercialize all, or any, of these
products.
BECAUSE OUR PRODUCTS, WHICH USE DIFFERENT TECHNOLOGY OR APPLY TECHNOLOGY IN MORE
INNOVATIVE WAYS THAN OTHER MEDICAL DEVICES, ARE OR WILL BE NEW TO THE MARKET, WE
MAY NOT BE SUCCESSFUL IN LAUNCHING OUR PRODUCTS AND OUR OPERATIONS AND GROWTH
WOULD BE ADVERSELY AFFECTED.
Our products are based on new methods of glucose monitoring, diabetes
detection, infant jaundice and cervical cancer detection and new methods of
delivery for our diabetes products. If they do not achieve significant market
acceptance, our sales will be limited and our financial condition may suffer.
Physicians and individuals may not recommend or use our products unless they
determine that these products are an attractive alternative to current tests
that have a long history of safe and effective use. To date, our products have
been used by only a limited number of people, and few independent studies
regarding our products have been published. The lack of independent studies
limits the ability of doctors or consumers to compare our products to
conventional products.
IF WE ARE UNABLE TO COMPETE EFFECTIVELY IN THE HIGHLY COMPETITIVE MEDICAL DEVICE
INDUSTRY, OUR FUTURE GROWTH AND OPERATING RESULTS WILL SUFFER.
The medical device industry in general, and the markets in which we
expect to offer products in particular, are intensely competitive. Many of our
competitors have substantially greater financial, research, technical,
manufacturing, marketing and distribution resources than we do and have greater
name recognition and lengthier operating histories in the health care industry.
We may not be able to effectively compete against these and other competitors.
For example, a number of competitors are currently marketing traditional glucose
monitors. These monitors are widely accepted in the health care industry and
have a long history of accurate and effective use. Further, if our products are
not available at competitive prices, health care administrators who are subject
to increasing pressures to reduce costs may not elect to purchase them. Also, a
number of companies have announced that they are developing products that permit
non-invasive and less invasive glucose monitoring. Accordingly, competition in
this area is expected to increase.
Furthermore, our competitors may succeed in developing, either before
or after the development and commercialization of our products, devices and
technologies that
permit more efficient, less expensive non-invasive and less invasive glucose
monitoring, insulin delivery, diabetes detection, infant jaundice or cancer
detection. It is also possible that one or more pharmaceutical or other health
care companies will develop therapeutic drugs, treatments or other products that
will substantially reduce the prevalence of diabetes or infant jaundice or
otherwise render our products obsolete.
In addition, one or more of our collaborative partners may, for
competitive reasons, reduce their support of their collaborative arrangement
with us or support, directly or indirectly, a company or product that competes
with our products. This would limit our ability to compete with others.
WE HAVE LITTLE MANUFACTURING EXPERIENCE, WHICH COULD LIMIT OUR GROWTH.
We do not have manufacturing experience that would enable us to make
products in the volumes that would be necessary for us to achieve significant
commercial sales. In addition, we may not be able to establish and maintain
reliable, efficient, full scale manufacturing at commercially reasonable costs,
in a timely fashion. Difficulties we encounter in manufacturing scale-up, or our
failure to implement and maintain our manufacturing facilities in accordance
with good manufacturing practice regulations, international quality standards or
other regulatory requirements, could result in a delay or termination of
production. To date, our manufacturing activities have included our BiliChek and
BiliCal products, as well as the diabetes detection product on a limited scale.
We are having our initial product offerings in the SimpleChoice(TM) insulin
delivery area manufactured by a third party. We may decide to manufacture these
products ourselves in the future or may decide to manufacture products that are
currently under development in this market segment. We have the right to
manufacture certain glucose monitoring products under our agreement with Abbott.
Companies often encounter difficulties in scaling up production, including
problems involving production yield, quality control and assurance, and
shortages of qualified personnel.
SINCE WE RELY ON SOLE SOURCE SUPPLIERS FOR SEVERAL OF OUR PRODUCTS, ANY FAILURE
OF THOSE SUPPLIERS TO PERFORM WOULD HURT OUR OPERATIONS.
Several of the components used in our products are available from only
one supplier, and substitutes for these components are infeasible or would
require substantial modifications to our products. Any significant problem
experienced by one of our sole source suppliers may result in a delay or
interruption in the supply of components to us until that supplier cures the
problem or an alternative source of the component is located and qualified. Any
delay or interruption would likely lead to a delay or interruption in our
manufacturing operations. The microspectrometer and disposable calibration
element, components of our infant jaundice product, are each available from only
one supplier. For our products which require premarket approval, the inclusion
of substitute components could require us to qualify the new supplier with the
appropriate government regulatory authorities. Alternatively, for our products
which qualify for premarket notification, the substitute components must meet
our product specifications.
Since we are relying on third party manufacturing for our initial
product offerings of the SimpleChoice(TM) product line, we are dependent upon
those parties for product supply. Any delay in initiating production or scaling
production to higher volumes could result in delays of product introduction, or
create lower availability of product than our expectations. These delays could
lead to lower revenue achievement and additional cash requirements for us. We
announced at the end of July 2002, that we had experienced some delays in the
ramp up of manufacturing that would push off the initial launch of our
SimpleChoice(TM) easy product offering to at least one quarter past our original
expected launch date. We also announced that initial volumes available to us
would be at relatively low levels until higher volume productions become
available later next year.
OUR LIMITED MARKETING AND SALES EXPERIENCE MAKES OUR INTERNATIONAL REVENUE
UNCERTAIN.
We are responsible for marketing our infant jaundice product in
countries other than the United States and Canada. In addition, we will be
responsible for marketing our SimpleChoice(TM) product line. We have relatively
limited experience in marketing or selling medical device products and only
have an eight person marketing and sales staff. In order to successfully
continue to market and sell our products, we must either develop a marketing
and sales force or expand our arrangements with third parties to market and
sell our products. We may not be able to successfully develop an effective
marketing and sales force, and we may not be able to enter into and maintain
marketing and sales agreements with third parties on acceptable terms. If we
develop our own marketing and sales capabilities, we will compete with other
companies that have experienced and well-funded marketing and sales operations.
If we enter into a marketing arrangement with a third party, any revenues we
would receive will be dependent on this third party, and we will likely be
required to pay a sales commission or similar compensation to this party.
Furthermore, we are currently dependent on the efforts of Abbott and Roche for
any revenues to be received from our glucose monitoring and diabetes detection
products, if any. The efforts of these third parties for the marketing and sale
of our products may not be successful.
BECAUSE WE OPERATE IN AN INDUSTRY WITH SIGNIFICANT PRODUCT LIABILITY RISK, AND
WE HAVE NOT SPECIFICALLY INSURED AGAINST THIS RISK, WE MAY BE SUBJECT TO
SUBSTANTIAL CLAIMS AGAINST OUR PRODUCTS.
The development, manufacture and sale of medical products entail
significant risks of product liability claims. We currently have no product
liability insurance coverage beyond that provided by our general liability
insurance. Accordingly, we may not be adequately protected from any liabilities,
including any adverse judgments or settlements, we might incur in connection
with the development, clinical testing, manufacture and sale of our products. A
successful product liability claim or series of claims brought against us that
results in an adverse judgment against or settlement by us in excess of any
insurance coverage could seriously harm our financial condition or reputation.
In addition, product liability insurance is expensive and may not be available
to us on acceptable terms, if at all.
IF WE CANNOT OBTAIN ADDITIONAL FUNDS WHEN NEEDED, WE WILL NOT BE ABLE TO
IMPLEMENT OUR BUSINESS PLAN.
We will require substantial additional capital to develop our products,
including completing product testing and clinical trials, obtaining all required
regulatory approvals and clearances, beginning and scaling up manufacturing, and
marketing our products. Any failure of our collaborative partners to fund our
capital expenditures, or our inability to obtain capital through other sources,
would limit our ability to grow and operate as planned. Under our collaborative
arrangements with Abbott and Respironics, these collaborative partners will
either directly undertake the activities to develop specified products or will
fund a substantial portion of the relevant expenditures for the relevant
product. The obligations of our collaborative partners to fund our expenditures
is largely discretionary and depends on a number of factors, including our
ability to meet specified milestones in the development and testing of the
relevant product. We may not be able to meet these milestones, or our
collaborative partners may not continue to fund our expenditures.
We bear responsibility for all aspects of our SimpleChoice(TM) product
line and our cervical cancer product, which will not be developed with a
collaborative partner. In addition to funds that we expect to be provided by our
collaborative partners, we may be required to raise additional funds through
public or private financing, additional collaborative relationships or other
arrangements. We believe that our existing capital resources and the funding
from our collaborative partners will be sufficient to satisfy our funding
requirements through 2002, but may not be sufficient to fund our operations to
the point of commercial introduction of our glucose monitoring products, our
cervical cancer detection product or our full line of diabetes products. Any
required additional funding may not be available on terms attractive to us, or
at all. To the extent we cannot obtain additional funding, our ability to
continue to develop and introduce products to market will be limited. Any
additional equity financing may be dilutive to stockholders, and debt financing,
if available, may involve restrictive covenants that would limit how we conduct
our business or finance our operations.
THE AVAILABILITY OF THIRD-PARTY REIMBURSEMENT FOR OUR PRODUCTS IS UNCERTAIN,
WHICH MAY LIMIT CONSUMER USE AND THE MARKET FOR OUR PRODUCTS.
In the United States and elsewhere, sales of medical products are
dependent, in part, on the ability of consumers of these products to obtain
reimbursement for all or a portion of their cost from third-party payors, such
as government and private insurance plans. Any inability of patients, hospitals,
physicians and other users of our products to obtain sufficient reimbursement
from third-party payors for our products, or adverse changes in relevant
governmental policies or the policies of private third-party payors regarding
reimbursement for these products, could limit our ability to sell our products
on a competitive basis. We are unable to predict what changes will be made in
the reimbursement methods used by third-party health care payors. Moreover,
third-party payors are increasingly challenging the prices charged for medical
products and services, and some health care providers are gradually adopting a
managed care system in which the providers contract to provide comprehensive
health care services for a fixed cost per
person. Patients, hospitals and physicians may not be able to justify the use of
our products by the attendant cost savings and clinical benefits that we believe
will be derived from the use of our products, and therefore may not be able to
obtain third-party reimbursement.
Reimbursement and health care payment systems in international markets
vary significantly by country and include both government sponsored health care
and private insurance. We may not be able to obtain approvals for reimbursement
from these international third-party payors in a timely manner, if at all. Any
failure to receive international reimbursement approvals could have an adverse
effect on market acceptance of our products in the international markets in
which approvals are sought.
OUR SUCCESS DEPENDS ON OUR ABILITY TO ATTRACT AND RETAIN SCIENTIFIC, TECHNICAL,
MANAGERIAL AND FINANCE PERSONNEL.
Our ability to operate successfully and manage our future growth
depends in significant part upon the continued service of key scientific,
technical, managerial and finance personnel, as well as our ability to attract
and retain additional highly qualified personnel in these fields. We may not be
able to attract and retain key employees when necessary, which would limit our
operations and growth. None of our key employees have an employment contract
with us, nor are any of these employees, except our chief executive officer,
covered by key person or similar insurance. In addition, if we are able to
successfully develop and commercialize our products, we will need to hire
additional scientific, technical, marketing, managerial and finance personnel.
We face intense competition for qualified personnel in these areas, many of whom
are often subject to competing employment offers.
WE ARE SIGNIFICANTLY INFLUENCED BY OUR DIRECTORS, EXECUTIVE OFFICERS AND THEIR
AFFILIATED ENTITIES.
Our directors, executive officers and entities affiliated with them
beneficially owned an aggregate of about 28% of our outstanding common stock as
of June 30, 2002. These stockholders, acting together, would be able to exert
significant influence on substantially all matters requiring approval by our
stockholders, including the election of directors and the approval of mergers
and other business combination transactions.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS
We have not entered into any transactions using derivative financial
instruments and believe our exposure to interest rate risk, foreign currency
exchange rate risk and other relevant market risks is not material.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In September 2001, we announced our agreement with Abbott to postpone
payment of a $1,000,000 milestone due pursuant to an amendment to our agreement
signed September 4, 2001. We have provided Abbott with notice of our achievement
of the milestone, but Abbott has disputed whether we have met the required
conditions for the milestone payment and whether it is due. On May 17, 2002, we
notified Abbott that we intended to pursue the alternative dispute resolution
provisions of our agreement with Abbott regarding the non-payment of this
milestone. Abbott has presented a counterclaim based upon the validity of the
September 9, 2001 agreement. We expect the dispute resolution process to be
completed by October.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On May 22, 2002, we held our annual meeting of stockholders to elect
directors. The result of the vote was as follows:
BROKER NON-VOTES FOR WITHHELD
Mark A. Samuels 0 6,710,883 663,498
Keith D. Ignotz 0 6,710,883 663,498
Charles G. Hadley 0 6,713,683 660,698
Earl R. Lewis 0 6,708,483 665,898
William E. Zachary, Jr. 0 6,723,283 651,098
Chris Monahan 0 6,645,743 728,638
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit Number Exhibit Description
-------------- -------------------
99.1 Certification of Chief Executive Officer
pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002.
99.2 Certification of Chief Financial Officer
pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002.
(b) Reports on Form 8-K
The registrant filed a Form 8-K on June 14, 2002 announcing the
replacement of its independent public accountants.
SIGNATURE
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.
SPECTRX, INC.
Date: August 14, 2002 By: /S/ THOMAS H. MULLER, JR.
----------------------------------------------------
Thomas H. Muller, Jr.
Executive Vice President and Chief Financial Officer
(Duly Authorized Officer and Principal
Financial and Accounting Officer)
EXHIBIT INDEX
Exhibit Number Exhibit Description
- -------------- -------------------
99.1 Certification of Chief Executive Officer
pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002.
99.2 Certification of Chief Financial Officer
pursuant to Section 906 of the Sarbanes-
Oxley Act of 2002.