UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For The Quarter Ended September 30, 2001 Commission File Number 0-8672
------------------ ------
ST. JUDE MEDICAL, INC.
-----------------------
(Exact name of Registrant as specified in its charter)
MINNESOTA 41-1276891
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(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
One Lillehei Plaza, St. Paul, Minnesota 55117
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(Address of principal executive offices)
(651) 483-2000
---------------
(Registrant's telephone number, including area code)
Not Applicable
---------------
(Former name, former address and former fiscal year,
if changed since last report)
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; and (2) has been subject to such filing
requirements for the past 90 days.
YES _X_ NO ___
The number of shares of common stock, par value $.10 per share, outstanding on
November 2, 2001 was 87,054,512.
Page 1 of 19
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
ST. JUDE MEDICAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2001 2000 2001 2000
==================================================================================================
Net sales $ 337,029 $ 286,969 $ 999,156 $ 883,407
Cost of sales:
Cost of sales before special charges 108,322 93,008 325,622 293,562
Special charges 21,667 -- 21,667 --
--------------------------------------------------------------------------------------------------
Total cost of sales 129,989 93,008 347,289 293,562
--------------------------------------------------------------------------------------------------
Gross profit 207,040 193,961 651,867 589,845
Selling, general and administrative expense 116,684 102,688 347,385 313,753
Research and development expense 41,141 34,657 121,772 101,947
Purchased in-process research and
development charges -- -- 5,000 5,000
Special charges 11,167 -- 11,167 26,101
--------------------------------------------------------------------------------------------------
Operating profit 38,048 56,616 166,543 143,044
Other income (expense) (1,614) (5,950) (7,251) (20,599)
--------------------------------------------------------------------------------------------------
Earnings before income taxes 36,434 50,666 159,292 122,445
Income tax expense 5,000 12,667 36,965 34,499
--------------------------------------------------------------------------------------------------
Net earnings $ 31,434 $ 37,999 $ 122,327 $ 87,946
==================================================================================================
==================================================================================================
Net earnings per share:
Basic $ 0.36 $ 0.45 $ 1.42 $ 1.05
Diluted $ 0.35 $ 0.44 $ 1.37 $ 1.03
Weighted average shares outstanding:
Basic 86,510 84,269 85,945 83,970
Diluted 89,832 86,494 89,012 85,136
==================================================================================================
See notes to condensed consolidated financial statements.
Page 2 of 19
ST. JUDE MEDICAL, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
SEPTEMBER 30, DECEMBER 31,
2001 (UNAUDITED) 2000 (SEE NOTE)
=========================================================================================
ASSETS
Current assets
Cash and equivalents $ 82,190 $ 50,439
Marketable securities 54,156 57,423
Accounts receivable, less allowances of $18,182
in 2001 and $13,831 in 2000 329,136 303,307
Inventories 235,182 222,238
Other current assets 79,526 71,235
---------------------------------------------------------------------------------------
Total current assets 780,190 704,642
Property, plant and equipment - at cost 645,343 619,392
Less accumulated depreciation (345,760) (302,213)
---------------------------------------------------------------------------------------
Net property, plant and equipment 299,583 317,179
Other assets
Goodwill and other intangible assets, net 429,567 430,896
Other 78,122 79,999
---------------------------------------------------------------------------------------
Total other assets 507,689 510,895
---------------------------------------------------------------------------------------
TOTAL ASSETS $ 1,587,462 $ 1,532,716
=======================================================================================
LIABILITIES & SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable $ 88,528 $ 81,340
Accrued expenses 174,665 157,803
Incomes taxes payable 61,376 58,224
---------------------------------------------------------------------------------------
Total current liabilities 324,569 297,367
Long-term debt 162,400 294,500
Commitments and contingencies -- --
Shareholders' equity
Preferred stock -- --
Common stock 8,677 8,534
Additional paid-in capital 115,424 55,723
Retained earnings 1,084,644 962,317
Accumulated other comprehensive income:
Cumulative translation adjustment (112,065) (93,380)
Unrealized gain on available-for-sale securities 3,813 7,655
---------------------------------------------------------------------------------------
Total shareholders' equity 1,100,493 940,849
---------------------------------------------------------------------------------------
TOTAL LIABILITIES & SHAREHOLDERS' EQUITY $ 1,587,462 $ 1,532,716
=======================================================================================
NOTE: THE BALANCE SHEET AT DECEMBER 31, 2000 HAS BEEN DERIVED FROM THE AUDITED
FINANCIAL STATEMENTS AT THAT DATE. SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS.
Page 3 of 19
ST. JUDE MEDICAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
NINE MONTHS ENDED
SEPTEMBER 30,
2001 2000
=============================================================================================
Operating Activities
Net earnings $ 122,327 $ 87,946
Adjustments to reconcile net earnings to net cash provided
by operating activities:
Depreciation and amortization 66,396 69,919
Purchased in-process research and development charges 5,000 5,000
Special charges 32,834 26,101
Net investment gain -- (2,056)
Working capital change and other (23,783) (61,300)
---------------------------------------------------------------------------------------------
Net cash provided by operating activities 202,774 125,610
Investing Activities
Purchase of property, plant and equipment (51,682) (23,042)
Proceeds from sale or maturity of marketable securities -- 7,871
Business acquisition payments (10,919) (7,864)
Other (19,705) (1,048)
---------------------------------------------------------------------------------------------
Net cash used in investing activities (82,306) (24,083)
Financing Activities
Proceeds from exercise of stock options
and employee stock purchase plan 44,377 20,662
Borrowings under debt facilities 1,691,700 3,478,537
Payments under debt facilities (1,823,800) (3,572,937)
Repurchase of convertible subordinated debentures -- (19,320)
---------------------------------------------------------------------------------------------
Net cash used in financing activities (87,723) (93,058)
Effect of currency exchange rate changes on cash (994) (1,026)
---------------------------------------------------------------------------------------------
Net increase in cash and equivalents 31,751 7,443
Cash and equivalents at beginning of period 50,439 9,655
---------------------------------------------------------------------------------------------
Cash and equivalents at end of period $ 82,190 $ 17,098
=============================================================================================
See notes to condensed consolidated financial statements.
Page 4 of 19
ST. JUDE MEDICAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information, and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring adjustments) considered necessary for a fair presentation
have been included. Operating results for the interim periods are not
necessarily indicative of the results that may be expected for the full year.
For further information, refer to the consolidated financial statements and
footnotes included in the Company's Annual Report on Form 10-K for the fiscal
year ended December 31, 2000.
NOTE 2 - INVENTORIES
Inventories consist of the following:
SEPTEMBER 30, DECEMBER 31,
2001 2000
================================================================================
Finished goods $127,776 $ 123,696
Work in process 40,151 35,640
Raw materials 67,255 62,902
--------------------------------------------------------------------------------
$235,182 $ 222,238
================================================================================
NOTE 3 - LONG-TERM DEBT
Long-term debt consists of the following:
SEPTEMBER 30, DECEMBER 31,
2001 2000
================================================================================
Commercial paper borrowings $162,400 $ 223,000
Uncommitted credit facility borrowings -- 71,500
--------------------------------------------------------------------------------
Total long-term debt $162,400 $ 294,500
================================================================================
The Company issues commercial paper with maturities up to 270 days. These
commercial paper borrowings are fully backed by committed credit facilities.
The Company has committed revolving credit facilities of $350,000 and $150,000
that expire in March 2003 and March 2002, respectively. The Company also borrows
from time to time under uncommitted, due-on-demand credit facilities with
various banks.
Page 5 of 19
The Company classifies all of its commercial paper and credit facility
borrowings as long-term on its balance sheet as the Company has the ability to
repay any short-term obligations with available cash from its existing
long-term, committed credit facility. Management continually reviews the
Company's cash flow projections and may from time to time repay a portion of the
Company's borrowings.
NOTE 4 - COMMITMENTS AND CONTINGENCIES
SILZONE(R) LITIGATION: The Company has been sued by patients alleging defects in
the Company's mechanical heart valves and valve repair products with Silzone(R)
coating. The Company recalled products with Silzone(R) coating on January 21,
2000, and sent a Recall Notice and Advisory concerning the recall to physicians
and others. Some of these cases are seeking monitoring of patients implanted
with Silzone(R)-coated valves and repair products who allege no injury to date.
Some of these cases are seeking class action status. The Company intends to
vigorously defend these cases. See also Note 6 regarding the 2000 special charge
for the Silzone(R) recall.
On April 18, 2001, the U.S. Judicial Panel on Multi-Litigation ruled that
certain lawsuits filed in U.S. federal district court involving products with
Silzone(R) coating should be part of M.D.L. proceedings, which will take place
under the supervision of U.S. District court Judge John Tunheim in Minnesota. As
a result, a number of actions involving products with Silzone(R) coating are
being transferred to Judge Tunheim's court in Minnesota for coordinated or
consolidated pretrial proceedings.
While it is not possible to predict the outcome of these cases, the Company
believes that it has adequate product liability insurance to cover the costs
associated with them. The Company further believes that any costs not covered by
product liability insurance will not have a material adverse impact on the
Company's financial position or liquidity, but may be material to the
consolidated results of operations of any one period.
GUIDANT LITIGATION: On November 26, 1996, Guidant Corporation (a competitor of
St. Jude Medical) ("Guidant") and related parties filed two lawsuits against St.
Jude Medical, Inc. and certain affiliates ("St. Jude Medical"). The first
lawsuit, filed in State Superior Court in Marion County, Indiana, alleged, among
other things, that the license agreement between CPI (Guidant) and members of
the Telectronics Group did not pass to St. Jude Medical upon St. Jude Medical's
acquisition of substantially all the assets of the Telectronics cardiac
stimulation device business. This lawsuit was stayed by the court in 1998
pending a ruling on the transferability of the CPI/Telectronics license by an
arbitrator, as required by the license agreement.
On July 10, 2000, the arbitrator ruled that the CPI/Telectronics license
agreement did not transfer to St. Jude Medical in connection with St. Jude
Medical's acquisition of the Telectronics cardiac stimulation device business.
Pursuant to an earlier ruling by the arbitrator, St. Jude Medical was not
allowed to participate in the arbitration proceeding.
The second case Guidant initiated against St. Jude Medical in November 1996 was
filed in the United States District Court for the Southern District of Indiana.
In this lawsuit, Guidant originally alleged infringement by St. Jude Medical of
four patents. Guidant later dismissed its claims on one patent
Page 6 of 19
(the '678 patent). In addition, in response to a stipulation by the parties, the
court ruled that a second patent (the '191 patent) was invalid. Guidant has
appealed the ruling of invalidity concerning the '191 patent.
The judge in the U.S. District court action issued a pre-trial ruling in May
2001 which determined that the CPI/Telectronics license did not transfer to St.
Jude Medical. Based on the ruling of the arbitrator and the judge in the federal
court case, the Indiana State court action discussed above has no further
significance.
A jury trial involving the two remaining patents asserted by Guidant (the '288
and '472 patents) commenced in June 2001. The jury issued its verdict on July 3,
2001, finding that both the '472 and '288 patents were valid and that St. Jude
Medical did not infringe the '288 patent. The jury also found that St. Jude did
infringe the '472 patent, which expired on March 4, 2001, but that the
infringement was not willful. The jury awarded damages of $140 million to
Guidant.
The jury's verdict in this case has not yet been entered as a judgment by the
judge overseeing the trial pending any post-trial motions filed by St. Jude
Medical or Guidant. St. Jude Medical has filed various post-trial motions which
would effectively eliminate any damage award on the '472 patent if these motions
were ruled upon favorably by the trial judge. The Company has also filed
alternative post-trial motions seeking to reduce the damage amount, and the
Guidant parties have filed motions seeking a new trial on certain issues and
also an award of interest. Rulings on the post trial motions filed by the
parties are expected in the fourth quarter of 2001 or the first quarter of 2002.
Under these circumstances, the Company is unable to determine the amount of a
loss, if any, that may be incurred in connection with this case, and
consequently has not recorded any liability for this lawsuit in its financial
statements.
Since the date of St. Jude Medical's acquisition of Ventritex in May 1997 and
the inception of the Company's sales of implantable cardioverter defibrillator
(ICD) products, St. Jude Medical has accrued a 3% royalty on its ICD sales under
a license it believed it had acquired as part of its purchase of the
Telectronics cardiac stimulation device business. As a result of the jury's
verdict that St. Jude Medical's ICD products do not infringe Guidant's '288
patent, future royalty accruals are no longer necessary. The historical accruals
under this license, which total approximately $15 million, will remain on the
Company's balance sheet pending future developments in this case.
OTHER LITIGATION MATTERS: The Company is involved in various other product
liability lawsuits, claims and proceedings of a nature considered normal to its
business. Subject to self-insured retentions, the Company believes it has
product liability insurance sufficient to cover such claims and suits.
NOTE 5 - SHAREHOLDERS' EQUITY
CAPITAL STOCK: The Company's authorized capital consists of 25,000 shares of
$1.00 per share par value preferred stock and 250,000 shares of $0.10 per share
par value common stock. There were no shares of preferred stock issued or
outstanding during 2000 or 2001. There were 86,770 and 85,336 shares of common
stock outstanding at September 30, 2001 and December 31, 2000.
Page 7 of 19
SHARE REPURCHASES: In 1999, the Company's Board of Directors authorized the
repurchase of up to $250,000 of the Company's outstanding common stock over a
three-year period at the discretion of the Company's management. Since the
authorization in 1999, the Company has repurchased 978 shares of its common
stock for $29,826.
NOTE 6 - SPECIAL CHARGES
In July 2001, the Company initiated efforts to streamline its heart valve
operations, consolidate its U.S. sales activities and restructure its
international sales organization. As a result of these activities, the Company
recorded pre-tax special charges of $20,657 in the third quarter of 2001,
consisting of employee severance costs resulting from the elimination of
approximately 90 production and administrative positions ($5,293), inventory
write-offs ($9,490), capital equipment write-offs ($3,379) and other costs
related primarily to lease terminations and other facility exit costs due to the
closing and consolidation of sales offices ($2,495). The Company has utilized
$13,987 of these special charge accruals through September 30, 2001.
During the third quarter of 2001, the Company also wrote-off $12,177 of certain
diagnostic equipment deemed obsolete due to the overwhelming acceptance of newer
technology equipment that was launched earlier in the year.
The charges relating to employee severance costs, heart valve operations
equipment write-offs and other costs have been recorded in operating expenses as
special charges. The inventory and diagnostic equipment write-offs are included
in cost of sales as special charges.
On January 21, 2000, the Company initiated a worldwide voluntary recall of all
field inventory of heart valve replacement and repair products incorporating a
Silzone(R) coating on the sewing cuff fabric. The Company concluded that it will
no longer utilize a Silzone(R) coating. The Company recorded a special charge
accrual totaling $26,101 during the first quarter of 2000 relating to asset
write-downs ($9,465) and other costs ($16,636), including monitoring expenses,
associated with this recall and product discontinuance. The Company has utilized
$19,707 of this special charge accrual through September 30, 2001. There can be
no assurance that the final costs associated with this recall, including
litigation-related costs, will not exceed management's estimates.
NOTE 7 - PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT CHARGES
The Company recorded purchased in-process research and development charges
totaling $5,000 during each of the second quarters of 2001 and 2000 relating to
performance-based milestone payments associated with the 1999 acquisition of
Vascular Science, Inc. (VSI). The Company will also record an additional $5,000
of purchased in-process research and development charges in the fourth quarter
of 2001 based on an additional milestone that was achieved in October 2001. See
Note 2 of the "Notes to Consolidated Financial Statements" in the Company's 2000
Annual Report on Form 10-K for additional discussion on the VSI acquisition and
related accounting.
Page 8 of 19
NOTE 8 - NET EARNINGS PER SHARE
The table below sets forth the computation of basic and diluted net earnings per
share:
THREE MONTHS NINE MONTHS
ENDED SEPTEMBER 30, ENDED SEPTEMBER 30,
2001 2000 2001 2000
=================================================================================================
Numerator:
Net earnings $ 31,434 $ 37,999 $122,327 $ 87,946
Convertible debenture interest, net of taxes -- 95 -- 95
-------------------------------------------------------------------------------------------------
Adjusted net earnings $ 31,434 $ 38,094 $122,327 $ 88,041
Denominator:
Basic-weighted average shares outstanding 86,510 84,269 85,945 83,970
Effect of dilutive securities:
Employee stock options 3,280 1,882 3,026 1,023
Restricted shares 42 32 41 40
Convertible debentures -- 311 -- 103
-------------------------------------------------------------------------------------------------
Diluted-weighted average shares outstanding 89,832 86,494 89,012 85,136
=================================================================================================
Basic net earnings per share $ .36 $ .45 $ 1.42 $ 1.05
=================================================================================================
Diluted net earnings per share $ .35 $ .44 $ 1.37 $ 1.03
=================================================================================================
Diluted-weighted average shares outstanding for 2000 have not been adjusted for
certain employee stock options and awards since the effect of those securities
would have been anti-dilutive.
NOTE 9 - COMPREHENSIVE INCOME (LOSS)
Other comprehensive income (loss) consists of unrealized gains or losses on
available-for-sale marketable securities, net of taxes, and foreign currency
translation adjustments. Other comprehensive income (loss) was $7,077 and
$(1,743) for the three months ended September 30, 2001 and 2000, and $(22,527)
and $(13,887) for the first nine months of 2001 and 2000. Total comprehensive
income (loss) combines reported net earnings and other comprehensive income
(loss). Total comprehensive income was $38,511 and $36,256 for the three months
ended September 30, 2001 and 2000, and $99,800 and $74,059 for the first nine
months of 2001 and 2000.
Page 9 of 19
NOTE 10 - OTHER INCOME (EXPENSE)
Other income (expense) consists of the following:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
2001 2000 2001 2000
------------------------------------------------------------------------------
Interest expense, net $ (1,585) $ (6,663) $ (8,767) $ (21,019)
Other (29) 713 1,516 420
------------------------------------------------------------------------------
Other income (expense) $ (1,614) $ (5,950) $ (7,251) $ (20,599)
------------------------------------------------------------------------------
NOTE 11 - SEGMENT INFORMATION
The Company has two reportable segments: Cardiac Rhythm Management (CRM) and
Cardiac Surgery (CS). The CRM segment, which includes the results from the
Company's Cardiac Rhythm Management Division and Daig Division, develops,
manufactures and distributes bradycardia pulse generator and tachycardia
implantable cardioverter defibrillator systems, electrophysiology and
interventional cardiology catheters and vascular closure devices. The CS segment
develops, manufactures and distributes mechanical and tissue heart valves and
valve repair products, and suture-free devices to facilitate coronary artery
bypass graft anastomoses.
The following table presents certain financial information about the Company's
reportable segments:
ALL
CRM CS OTHER (a) TOTAL
---------------------------------------------------------------------------------------
QUARTER ENDED SEPTEMBER 30, 2001
External net sales $ 279,074 $ 57,955 $ -- $ 337,029
Operating profit (loss)(b) 53,821 25,153 (40,926) 38,048
QUARTER ENDED SEPTEMBER 30, 2000
External net sales 226,016 60,953 -- 286,969
Operating profit (loss) 32,430 32,039 (7,853) 56,616
NINE MONTHS ENDED SEPTEMBER 30, 2001
External net sales 811,707 187,449 -- 999,156
Operating profit (loss)(b) 144,111 87,335 (64,903) 166,543
NINE MONTHS ENDED SEPTEMBER 30, 2000
External net sales 685,562 197,845 -- 883,407
Operating profit (loss)(b) 97,512 100,838 (55,306) 143,044
=======================================================================================
Page 10 of 19
(a) AMOUNTS RELATE PRIMARILY TO CORPORATE ACTIVITIES, PURCHASED IN-PROCESS
RESEARCH AND DEVELOPMENT CHARGES AND SPECIAL CHARGES.
(b) ALL OTHER OPERATING PROFIT (LOSS) AMOUNTS INCLUDE PURCHASED IN-PROCESS
RESEARCH AND DEVELOPMENT CHARGES OF $5,000 IN EACH OF THE SECOND QUARTERS OF
2001 AND 2000, AND SPECIAL CHARGES TOTALING$32,834 IN THE THIRD QUARTER OF
2001 AND $26,101 IN THE FIRST QUARTER OF 2000.
NOTE 12 - NEW ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board issued Statements of
Financial Accounting Standards No. 141, Business Combinations (Statement 141),
and No. 142, Goodwill and Other Intangible Assets (Statement 142). These
Statements change the accounting for business combinations, goodwill, and
intangible assets. Statement 141 eliminates the pooling-of-interests method of
accounting for business combinations except for qualifying business combinations
that were initiated prior to July 1, 2001. Statement 141 further clarifies the
criteria to recognize intangible assets separately from goodwill. The
requirements of Statement of 141 are effective for any business combination
accounted for by the purchase method that is completed after June 30, 2001.
Under Statement 142, goodwill and indefinite lived intangible assets are no
longer amortized but are reviewed annually (or more frequently if impairment
indicators arise) for impairment. Separable intangible assets that are not
deemed to have an indefinite life will continue to be amortized over their
useful lives. The amortization provisions of Statement 142 apply to goodwill and
intangible assets acquired after June 30, 2001. Goodwill and intangible assets
acquired prior to July 1, 2001 will continue to be amortized through December
31, 2001 for all calendar year companies. After December 31, 2001, such goodwill
and indefinite lived intangible assets will cease being amortized. Management is
reviewing the impact of these two statements on the Company's financial
statements.
Page 11 of 19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND
FINANCIAL CONDITION
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
RESULTS OF OPERATIONS
NET SALES: Net sales for the third quarter of 2001 totaled $337,029, a 17.4%
increase over the $286,969 reported in the third quarter of 2000. For the first
nine months of 2001, net sales totaled $999,156, a 13.1% increase over the
$883,407 reported in 2000. Unfavorable foreign currency effects due to a
stronger U.S. dollar primarily against the major Western European currencies
reduced 2001 net sales as compared with 2000 by approximately $5,300 for the
third quarter and $16,900 for the first nine months.
Cardiac rhythm management (CRM) net sales for the second quarter of 2001 were
$279,074, a 23.5% increase over the $226,016 recorded in the third quarter of
2000. CRM net sales for the first nine months of 2001 were $811,707, an 18.4%
increase over the $685,562 recorded in 2000. The increase in CRM net sales for
the third quarter and first nine months of 2001 was primarily attributable to
increased bradycardia, tachycardia, Angio-Seal(TM), and electrophysiology (EP)
catheter unit sales, offset in part by negative foreign currency effects.
Cardiac surgery (CS) net sales for the third quarter of 2001 were $57,955, a
4.9% decrease from the $60,953 recorded in 2000. CS net sales for the first nine
months of 2001 were $187,449 compared with $197,845 recorded in 2000. The
decrease in CS net sales in 2001 was attributable to the effects of the stronger
U.S. dollar and a slight clinical preference shift from mechanical valves to
tissue valves in the U.S. market where CS holds significant mechanical valve
market share and a smaller share of the tissue valve market, offset in part by
an increase in aortic connector sales in the U.S. market.
GROSS PROFIT: Gross profit for the third quarter of 2001 totaled $207,040 or
61.4% of net sales, as compared with $193,961, or 67.6% of net sales, during the
third quarter of 2000. For the first nine months of 2001 and 2000, gross profit
was $651,867, or 65.2% of net sales, and $589,845, or 66.8% of net sales. The
reduction in gross profit percentage for the third quarter and first nine months
of 2001 was due to the $21,667 of special charges recorded in the third quarter
of 2001 relating to inventory and diagnostic equipment write-offs (see further
details under the discussion of Special Charges). Excluding these special
charges, the gross profit percentage was 67.9% for the third quarter of 2001 and
67.4% for the first nine months of 2001, up from the prior year due to higher
CRM unit volumes and improved CRM manufacturing efficiencies.
SELLING, GENERAL AND ADMINISTRATIVE (SG&A) EXPENSE: SG&A expense for the third
quarter of 2001 totaled $116,684, a 13.6% increase over the $102,688 reported in
the third quarter of 2000. For the first nine months of 2001, SG&A expense
totaled $347,385, a 10.7% increase over the $313,753 recorded in 2000. The
increase in SG&A expense in the third quarter and first nine months of 2001 was
primarily attributable to increased sales activities.
Page 12 of 19
RESEARCH AND DEVELOPMENT (R&D) EXPENSE: R&D expense in the third quarter of 2001
totaled $41,141, or 12.2% of net sales, compared with $34,657, or 12.1 % of net
sales, for the third quarter of 2000. For the first nine months of 2001, R&D
expense totaled $121,772 or 12.2% of net sales, compared with $101,947, or 11.5%
of net sales, for the first nine months of 2000. The increase in R&D expenses
and as a percentage of net sales was primarily attributable to increased CRM
activities relating primarily to ICDs and products treating emerging indications
in atrial fibrillation and congestive heart failure.
PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT CHARGES: The Company recorded
purchased in-process research and development charges totaling $5,000 during
each of the second quarters of 2001 and 2000 relating to performance-based
milestone payments associated with the 1999 acquisition of Vascular Science,
Inc. (VSI). The Company will also record an additional $5,000 of purchased
in-process research and development charges in the fourth quarter of 2001 based
on an additional milestone that was achieved in October 2001. The Company
anticipates additional in-process research and development charges related to
the VSI acquisition as additional milestones are achieved. See "Purchased
in-process research and development charges" in the Company's 2000 Annual Report
on Form 10-K for additional discussion on the VSI acquisition and related
accounting.
SPECIAL CHARGES: In July 2001, the Company initiated efforts to streamline its
heart valve operations, consolidate its U.S. sales activities and restructure
its international sales organization. As a result of these activities, the
Company recorded pre-tax special charges of $20,657 in the third quarter of
2001, consisting of employee severance costs resulting from the elimination of
approximately 90 production and administrative positions ($5,293), inventory
write-offs ($9,490), capital equipment write-offs ($3,379) and other costs
related primarily to lease terminations and other facility exit costs due to the
closing and consolidation of sales offices ($2,495). The Company has utilized
$13,987 of these special charge accruals through September 30, 2001.
During the third quarter of 2001, the Company also wrote-off $12,177 of certain
diagnostic equipment deemed obsolete due to the overwhelming acceptance of newer
technology equipment that was launched earlier in the year.
The charges relating to employee severance costs, heart valve operations
equipment write-offs and other costs have been recorded in operating expenses as
special charges. The inventory and diagnostic equipment write-offs are included
in cost of sales as special charges.
On January 21, 2000, the Company initiated a worldwide voluntary recall of all
field inventory of heart valve replacement and repair products incorporating a
Silzone(R) coating on the sewing cuff fabric. The Company concluded that it
would no longer utilize a Silzone(R) coating. The Company recorded a special
charge accrual totaling $26,101 during the first quarter of 2000 relating to
asset write-downs ($9,465) and other costs ($16,636), including monitoring
expenses, associated with this recall and product discontinuance. The Company
has utilized $19,707 of this special charge accrual through September 30, 2001.
There can be no assurance that the final costs associated with this recall,
including litigation-related costs, will not exceed management's estimates.
Page 13 of 19
OTHER INCOME (EXPENSE): Net interest expense was $1,585 during the third quarter
of 2001, as compared with $6,663 in 2000. Net interest expense was $8,767 for
the first nine months of 2001, compared with $21,019 for 2000. The decrease in
net interest expense is due to lower debt levels resulting from debt repayments,
as well as lower interest rates in 2001 as compared with 2000.
INCOME TAXES: The Company's reported effective income tax rates were 13.7% and
25.0% for the third quarters of 2001 and 2000, and 23.2% and 28.2% for the first
nine months of 2001 and 2000. Exclusive of the purchased in-process research and
development and special charges, the Company's effective income tax rate was 25%
for each of these periods. The purchased in-process research and development
charges were not deductible for tax purposes, and the special charges were
recorded in taxing jurisdictions where income tax rates vary from the Company's
blended 25% effective tax rate.
OUTLOOK: The Company expects that market demand, government regulation and
societal pressures will continue to change the worldwide health care industry
resulting in further business consolidations and alliances. The Company
participates with industry groups to promote the use of advanced medical device
technology in a cost conscious environment. Customer service in the form of
cost-effective clinical outcomes will continue to be a primary focus for the
Company.
The Company's CS business is in a highly competitive market. The market is
segmented between mechanical heart valves, tissue heart valves, and repair
products. Since 1999, the U.S. market has shifted slightly to tissue valve and
repair products from mechanical heart valves, resulting in a small overall CS
market share loss for the Company. Competition is anticipated to continue to
place pressure on pricing and terms.
The Company's CRM business is also in a highly competitive industry that has
undergone consolidation. There are currently three principal suppliers,
including the Company, and the Company's two principal competitors each have
substantially more assets and sales than the Company. Rapid technological change
is expected to continue, requiring the Company to invest heavily in R&D and to
effectively market its products.
The global medical technology market is highly competitive. Competitors have
historically employed litigation to gain a competitive advantage. In addition,
the Company's products must continually improve technologically and provide
improved clinical outcomes due to the competitive nature of the industry.
Group purchasing organizations (GPOs) in the U.S. continue to consolidate the
purchasing for some of the Company's customers. A few GPOs have executed
contracts with the Company's CRM market competitors, which exclude the Company.
These contracts, if enforced, may adversely affect the Company's sales of CRM
products to members of these GPOs.
FINANCIAL CONDITION
The Company's liquidity and cash flows remained strong in 2001. Cash provided by
operating activities was $202,774 for the nine months ended September 30, 2001,
a $77,164 increase over the same period one year ago reflecting increased
earnings and improved working capital management. The Company's current assets
to current liabilities ratio was 2.4 to 1 at September 30, 2001 and December 31,
2000.
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Total interest bearing debt at September 30, 2001 decreased $132,100 from
December 31, 2000 due to debt repayments primarily using cash generated from
operations and proceeds from employee stock option exercises.
The Company classifies all of its credit facility and commercial paper
borrowings as long-term on its balance sheet as the Company has the ability to
repay any short-term maturity with available cash from its existing long-term,
committed credit facility. Management continually reviews the Company's cash
flow projections and may from time to time repay a portion of the Company's
borrowings.
In 1999, the Company's Board of Directors authorized the repurchase of up to
$250,000 of the Company's outstanding common stock over a three-year period at
the discretion of the Company's management. Since the authorization in 1999, the
Company has repurchased 978 shares of its common stock for $29,826.
Management believes that cash generated from operations and cash available under
its credit facilities will be sufficient to meet the Company's working capital
and share repurchase plan needs in the near term. Should suitable investment
opportunities arise, management believes that the Company's earnings, cash flows
and balance sheet will permit the Company to obtain additional debt or equity
financing, if necessary.
CAUTIONARY STATEMENTS
In this discussion and in other written or oral statements made from time to
time, we have included and may include statements that may constitute
"forward-looking statements" within the meaning of the safe harbor provisions of
the Private Litigation Securities Reform Act of 1995. These forward-looking
statements are not historical facts but instead represent our belief regarding
future events, many of which, by their nature, are inherently uncertain and
beyond our control. These statements relate to our future plans and objectives,
among other things. By identifying these statements for you in this manner, we
are alerting you to the possibility that our actual results may differ, possibly
materially, from the results indicated by these forward-looking statements. We
undertake no obligation to update any forward-looking statements.
Various factors contained in the previous discussion and those described below
may affect the Company's operations and results. Since it is not possible to
foresee all such factors, you should not consider these factors to be a complete
list of all risks or uncertainties. Risk factors include the following:
o Administrative or legislative reforms to the U.S. Medicare and Medicaid
systems or similar reforms of foreign reimbursement systems in a manner
that significantly reduces reimbursement for procedures using the
Company's medical devices or denies coverage for such procedures.
o Acquisition of key patents by others that have the affect of excluding
the Company from market segments or require the Company to pay
royalties.
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o Economic factors, including inflation, changes in interest rates and
changes in foreign currency exchange rates.
o Product introductions by competitors which have advanced technology,
better features or lower pricing.
o Price increases by suppliers of key components, some of which are
sole-sourced.
o A reduction in the number of procedures using the Company's devices
caused by cost containment pressures or preferences for alternate
therapies.
o Safety, performance or efficacy concerns about the Company's marketed
products, many of which are expected to be implanted for many years,
leading to recalls and advisories with the attendant expenses and
declining sales.
o Changes in laws, regulations or administrative practices affecting
government regulation of the Company's products, such as FDA laws and
regulations, that increase pre-approval testing requirements for
products or impose additional burdens on the manufacture and sale of
medical devices.
o Difficulties obtaining, or the inability to obtain, appropriate levels
of product liability insurance.
o A serious earthquake affecting the Company's facilities in Sunnyvale or
Sylmar, California.
o Health care industry consolidation leading to demands for price
concessions or the exclusion of some suppliers from significant market
segments.
o Adverse developments in litigation including product liability
litigation and patent litigation or other intellectual property
litigation including that arising from the Telectronics and Ventritex
acquisitions.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
There have been no material changes from December 31, 2000 in the
Company's market risk.
For further information on market risk, refer to Item 7A in the
Company's Annual Report on Form 10-K for the fiscal year ended December 31,
2000.
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PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
SILZONE(R) LITIGATION:
The Company has been sued by patients alleging defects in the Company's
mechanical heart valves and valve repair products with Silzone(R) coating. The
Company recalled products with Silzone(R) coating on January 21, 2000 (see Note
6), and sent a Recall Notice and Advisory concerning the recall to physicians
and others. Some of these cases are seeking monitoring of patients implanted
with Silzone(R)-coated valves and repair products who allege no injury to date.
Some of these cases are seeking class action status. The Company intends to
vigorously defend these cases.
On April 18, 2001, the U.S. Judicial Panel on Multi-Litigation ruled
that certain lawsuits filed in U.S. federal district court involving products
with Silzone(R) coating should be part of M.D.L. proceedings, which will take
place under the supervision of U.S. District court Judge John Tunheim in
Minnesota. As a result, a number of actions involving products with Silzone(R)
coating are being transferred to Judge Tunheim's court in Minnesota for
coordinated or consolidated pretrial proceedings.
While it is not possible to predict the outcome of these cases, the
Company believes that it has adequate product liability insurance to cover the
costs associated with them. The Company further believes that any costs not
covered by product liability insurance will not have a material adverse impact
on the Company's financial position or liquidity, but may be material to the
consolidated results of operations of any one period.
GUIDANT LITIGATION:
On November 26, 1996, Guidant Corporation (a competitor of St. Jude Medical)
("Guidant") and related parties filed two lawsuits against St. Jude Medical,
Inc. and certain affiliates ("St. Jude Medical"). The first lawsuit, filed in
State Superior Court in Marion County, Indiana, alleged, among other things,
that the license agreement between CPI (Guidant) and members of the Telectronics
Group did not pass to St. Jude Medical upon St. Jude Medical's acquisition of
substantially all the assets of the Telectronics cardiac stimulation device
business. This lawsuit was stayed by the court in 1998 pending a ruling on the
transferability of the CPI/Telectronics license by an arbitrator, as required by
the license agreement.
On July 10, 2000, the arbitrator ruled that the CPI/Telectronics
license agreement did not transfer to St. Jude Medical in connection with St.
Jude Medical's acquisition of the Telectronics cardiac stimulation device
business. Pursuant to an earlier ruling by the arbitrator, St. Jude Medical was
not allowed to participate in the arbitration proceeding.
The second case Guidant initiated against St. Jude Medical in November
1996 was filed in the United States District Court for the Southern District of
Indiana. In this lawsuit, Guidant originally alleged infringement by St. Jude
Medical of four patents. Guidant later dismissed its claims on one patent (the
'678 patent). In addition, in response to a stipulation by the parties, the
court ruled that a second patent (the '191 patent) was invalid. Guidant has
appealed the ruling of invalidity concerning the '191 patent.
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The judge in the U.S. District court action issued a pre-trial ruling
in May 2001 which determined that the CPI/Telectronics license did not transfer
to St. Jude Medical. Based on the ruling of the arbitrator and the judge in the
federal court case, the Indiana State court action discussed above has no
further significance.
A jury trial involving the two remaining patents asserted by Guidant
(the '288 and '472 patents) commenced in June 2001. The jury issued its verdict
on July 3, 2001, finding that both the '472 and '288 patents were valid and that
St. Jude Medical did not infringe the '288 patent. The jury also found that St.
Jude did infringe the '472 patent, which expired on March 4, 2001, but that the
infringement was not willful. The jury awarded damages of $140 million to
Guidant.
The jury's verdict in this case has not yet been entered as a judgment
by the judge overseeing the trial pending any post-trial motions filed by St.
Jude Medical or Guidant. St. Jude Medical has filed various post-trial motions
which would effectively eliminate any damage award on the '472 patent if these
motions were ruled upon favorably by the trial judge. The Company has also filed
alternative post-trial motions seeking to reduce the damage amount, and the
Guidant parties have filed motions seeking a new trial on certain issues and
also an award of interest. Rulings on the post trial motions filed by the
parties are expected in the fourth quarter of 2001 or the first quarter of 2002.
Under these circumstances, the Company is unable to determine the amount of a
loss, if any, that may be incurred in connection with this case, and
consequently has not recorded any liability for this lawsuit in its financial
statements.
Since the date of St. Jude Medical's acquisition of Ventritex in May
1997 and the inception of the Company's sales of implantable cardioverter
defibrillator (ICD) products, St. Jude Medical has accrued a 3% royalty on its
ICD sales under a license it believed it had acquired as part of its purchase of
the Telectronics cardiac stimulation device business. As a result of the jury's
verdict that St. Jude Medical's ICD products do not infringe Guidant's '288
patent, future royalty accruals are no longer necessary. The historical accruals
under this license, which total approximately $15 million, will remain on the
Company's balance sheet pending future developments in this case.
OTHER LITIGATION AND PROCEEDINGS
The Company is unaware of any other pending legal proceedings which it
regards as likely to have a material adverse effect on its business.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
None
(b) Reports on Form 8-K
A Form 8-K was filed on July 5, 2001, announcing the jury's verdict in
a lawsuit brought by Guidant Corporation against the Company and its
subsidiaries.
Page 18 of 19
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.
ST. JUDE MEDICAL, INC.
November 9, 2001 /s/ John C. Heinmiller
---------------- ----------------------
DATE JOHN C. HEINMILLER
Vice President - Finance
and Chief Financial Officer
(Principal Financial and Accounting Officer)
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