e10vq
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
FORM 10-Q
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 |
For the quarterly period ended December 31, 2007
OR
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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 0-23837
SurModics, Inc.
(Exact name of registrant as specified in its Charter)
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MINNESOTA
(State of incorporation)
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41-1356149
(I.R.S. Employer Identification No.) |
9924 West 74th Street
Eden Prairie, Minnesota 55344
(Address of principal executive offices)
Registrant’s telephone number, including area code: (952) 829-2700
Indicate by check mark whether the registrant: (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes þ No o
Indicate by a check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
definitions of “large accelerated filer,” “accelerated filer ” and “smaller reporting company” in rule 12b-2 of the Exchange Act. (Check
one):
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| Large accelerated filer o
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Accelerated filer þ
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Non-accelerated filer o
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Smaller reporting company o |
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(Do not check if a smaller reporting company) |
Indicate by check mark whether the registrant is a shell company (as defined in
Exchange Act Rule 12b-2).
Yes o No þ
The number of shares of the registrant’s common stock, $.05 par value per share,
outstanding as of December 31, 2007 was 18,273,214.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
SurModics, Inc. and Subsidiaries
Condensed Consolidated Balance Sheets
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December 31, |
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September 30, |
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2007 |
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2007 |
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| (In thousands, except share data) |
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(unaudited) |
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ASSETS |
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Current assets |
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Cash and cash equivalents |
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$ |
14,998 |
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$ |
13,812 |
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Short-term investments |
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11,326 |
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12,496 |
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Accounts receivable, net of allowance for doubtful
accounts of $40 as of September 30 and December 31, 2007 |
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16,049 |
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16,138 |
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Inventories |
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2,404 |
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2,497 |
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Deferred tax asset |
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1,115 |
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1,116 |
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Prepaids and other |
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1,845 |
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1,836 |
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Total current assets |
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47,737 |
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47,895 |
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Property and equipment, net |
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20,132 |
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19,738 |
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Restricted cash |
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1,617 |
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— |
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Long-term investments |
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46,171 |
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43,917 |
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Deferred tax asset |
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5,781 |
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5,908 |
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Intangible assets , net |
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17,717 |
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18,399 |
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Goodwill |
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16,849 |
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15,686 |
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Other assets |
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17,774 |
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19,788 |
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Total assets |
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$ |
173,778 |
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$ |
171,331 |
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LIABILITIES AND STOCKHOLDERS’ EQUITY |
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Current liabilities |
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Accounts payable |
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$ |
2,652 |
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$ |
2,541 |
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Accrued liabilities |
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2,236 |
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4,187 |
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Accrued income taxes payable |
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1,186 |
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6,227 |
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Deferred revenue |
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4,515 |
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5,586 |
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Other current liabilities |
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2,545 |
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1,311 |
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Total current liabilities |
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13,134 |
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19,852 |
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Deferred revenue, less current portion |
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22,222 |
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20,305 |
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Other long-term liabilities |
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1,179 |
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252 |
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Total liabilities |
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36,535 |
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40,409 |
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Stockholders’ Equity |
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Series A Preferred stock- $.05 par value, 450,000
shares authorized; no shares issued and outstanding |
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— |
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Common stock- $.05 par value, 45,000,000 shares
authorized; 18,273,214 and 18,164,980 shares issued
and outstanding |
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913 |
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909 |
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Additional paid-in capital |
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78,036 |
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76,670 |
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Accumulated other comprehensive income |
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948 |
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1,723 |
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Retained earnings |
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57,346 |
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51,620 |
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Total stockholders’ equity |
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137,243 |
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130,922 |
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Total liabilities and stockholders’ equity |
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$ |
173,778 |
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$ |
171,331 |
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The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
2
SurModics, Inc. and Subsidiaries
Condensed Consolidated Statements of Income
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Three Months Ended |
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December 31, |
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2007 |
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2006 |
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| (In thousands, except per share data) |
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(unaudited) |
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Revenue |
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Royalties and license fees |
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$ |
13,178 |
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$ |
13,219 |
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Product sales |
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5,207 |
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2,726 |
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Research and development |
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5,444 |
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795 |
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Total revenue |
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23,829 |
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16,740 |
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Operating costs and expenses |
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Product |
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2,782 |
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1,086 |
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Research and development |
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8,727 |
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5,207 |
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Selling, general and administrative |
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4,749 |
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2,338 |
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Total operating costs and expenses |
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16,258 |
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8,631 |
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Income from operations |
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7,571 |
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8,109 |
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Other income (loss) |
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Investment income, net |
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953 |
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1,333 |
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Other income (loss), net |
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767 |
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(4 |
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Other income, net |
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1,720 |
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1,329 |
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Income before Income taxes |
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9,291 |
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9,438 |
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Income tax provision |
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(3,645 |
) |
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(3,446 |
) |
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Net income |
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$ |
5,646 |
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$ |
5,992 |
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Basic net income per share |
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$ |
0.31 |
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$ |
0.32 |
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Diluted net income per share |
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$ |
0.31 |
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$ |
0.32 |
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Weighted average shares outstanding |
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Basic |
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18,015 |
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18,456 |
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Dilutive effect of outstanding stock options |
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413 |
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100 |
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Diluted |
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18,428 |
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18,556 |
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The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
3
SurModics, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
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Three Months Ended |
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December 31, |
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2007 |
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2006 |
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| (In thousands) |
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(unaudited) |
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Operating Activities |
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Net income |
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$ |
5,646 |
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$ |
5,992 |
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Adjustments to reconcile net income to net cash provided by
operating activities |
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Depreciation and amortization |
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1,488 |
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|
986 |
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(Gain) loss on equity method investments and sales of investments |
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(767 |
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4 |
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Amortization of discount on investments |
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— |
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(557 |
) |
Stock-based compensation |
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1,953 |
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1,412 |
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Deferred tax |
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607 |
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19 |
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Excess tax benefit from exercise of stock options |
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(502 |
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— |
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Change in operating assets and liabilities: |
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Accounts receivable |
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89 |
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1,956 |
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Inventories |
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93 |
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19 |
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Accounts payable and accrued liabilities |
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(1,731 |
) |
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(972 |
) |
Income taxes |
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(3,275 |
) |
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2,571 |
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Deferred revenue |
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824 |
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|
515 |
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Prepaids and other |
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(10 |
) |
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(165 |
) |
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Net cash provided by operating activities |
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4,415 |
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11,780 |
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Investing Activities |
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Purchases of property and equipment |
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(1,215 |
) |
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(1,226 |
) |
Sales of property and equipment |
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26 |
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— |
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Purchases of available-for-sale investments |
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(4,689 |
) |
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(40,973 |
) |
Sales/maturities of available-for-sale investments |
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5,005 |
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45,014 |
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Investment in other strategic assets |
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— |
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(2,117 |
) |
Purchase of licenses and patents |
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(58 |
) |
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(38 |
) |
Repayment of notes receivable |
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137 |
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|
130 |
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Cash restricted for land purchase |
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(1,617 |
) |
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— |
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Other investing activities |
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(225 |
) |
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— |
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Net cash (used in) provided by investing activities |
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(2,636 |
) |
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|
790 |
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|
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Financing Activities |
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Excess tax benefit from exercise of stock options |
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|
502 |
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— |
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Issuance of common stock |
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335 |
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|
1,470 |
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Purchase of performance shares to pay employee taxes |
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(1,207 |
) |
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(42 |
) |
Repurchase of common stock |
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— |
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(17,516 |
) |
Repayment of notes payable |
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(223 |
) |
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— |
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Net cash used in financing activities |
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(593 |
) |
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(16,088 |
) |
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Net change in cash and cash equivalents |
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|
1,186 |
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(3,518 |
) |
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|
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Cash and Cash Equivalents |
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Beginning of period |
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13,812 |
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|
3,751 |
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End of period |
|
$ |
14,998 |
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|
$ |
233 |
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|
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|
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Supplemental Information |
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Cash paid for income taxes |
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$ |
6,227 |
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$ |
847 |
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Noncash transaction-acquisition of property, plant, and equipment on account |
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$ |
204 |
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$ |
63 |
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Noncash transaction-accrued earnout payment in connection with business acquisition agreement |
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$ |
1,148 |
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— |
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The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
4
SurModics, Inc. and Subsidiaries
Notes to Condensed Consolidated Financial Statements
Period Ended December 31, 2007
(Unaudited)
(1) Basis of Presentation
In the opinion of management, the accompanying unaudited condensed consolidated
financial statements have been prepared in accordance with accounting principles
generally accepted in the United States of America and reflect all adjustments,
consisting solely of normal recurring adjustments, needed to fairly present the
financial results for the interim periods presented. These financial statements
include some amounts that are based on management’s best estimates and judgments.
These estimates may be adjusted as more information becomes available, and any
adjustment could be significant. The impact of any change in estimates is included in
the determination of earnings in the period in which the change in estimate is
identified. The results of operations for the three month period ended December 31,
2007 are not necessarily indicative of the results that may be expected for the entire
2008 fiscal year.
In July 2007, we acquired Brookwood Pharmaceuticals, Inc., from Southern
Research Institute, for $40 million in upfront cash at closing and up to an additional
$22 million in cash upon the successful achievement of specified milestones.
Brookwood specializes in proprietary injectable microparticles and implants to provide
sustained delivery of drugs being developed by leading pharmaceutical, biotechnology
and medical device clients as well as emerging companies. This acquisition is
expected to help us broaden our technology offerings to our customers, diversify the
range of markets in which we participate, expand our customer base, and enhance our
pipeline of potential revenue generating opportunities.
In August 2007, we acquired BioFX Laboratories, Inc., a provider of
substrates to the in vitro diagnostics industry, for $11.3 million in cash at closing
and up to an additional $11.4 million in cash upon the successful achievement of
specified revenue targets. BioFX is a leading manufacturer of substrates, a critical
component of diagnostic test kits used to detect and signal that a certain reaction
has taken place. We expect our acquisition of BioFX to broaden our product portfolio
in the in vitro diagnostics market.
The results of operations for the three month period ended December 31, 2007,
reflect the first full quarter in which we recorded revenue
from our Brookwood Pharmaceuticals business unit and sales of BioFX
products.
In accordance with the rules and regulations of the United States Securities and
Exchange Commission, the Company has omitted footnote disclosures that would
substantially duplicate the disclosures contained in the audited financial statements
of the Company. These unaudited condensed consolidated financial statements should be
read together with the audited financial statements for the year ended September 30,
2007, and footnotes thereto included in the Company’s Form 10-K as filed with the
United States Securities and Exchange Commission on December 14, 2007.
(2) New Accounting Pronouncements
On July 13, 2006, Financial Accounting Standards Board (“FASB”) Interpretation
(“FIN”) No. 48, Accounting for Uncertainty in Income Taxes — an Interpretation of FASB
Statement No. 109, was issued. FIN 48 clarifies the accounting for uncertainty in
income taxes recognized in an enterprise’s financial statements in accordance with
FASB Statement No. 109, Accounting for Income Taxes. FIN 48 also prescribes a
recognition threshold and measurement attribute for the financial statement
recognition and measurement of a tax position taken or expected to be taken in a tax
return. The new FASB standard also provides guidance on derecognition, classification,
interest and penalties, accounting in interim periods, disclosure, and transition. The
provisions of FIN 48 are effective for the Company in fiscal 2008. The Company adopted
FIN 48 on October 1, 2007. See Note 10 for impact on the Company’s consolidated
financial statements.
In September 2006, FASB issued Statement of Financial Accounting Standards
(“SFAS”) No. 157 (“SFAS No. 157”), Fair Value Measurements. This statement establishes
a consistent framework for measuring fair value and expands disclosures on fair value
measurements. SFAS No. 157 is effective for the Company in fiscal 2009. The Company
has not determined the impact, if any, the adoption of this statement will have on its
consolidated financial statements.
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for
Financial Assets and Financial Liabilities (“SFAS No. 159”). SFAS No. 159 permits
entities to choose to measure many financial assets and financial liabilities at fair
value. Unrealized gains and losses on items for which the fair value option has been
elected will be reported in earnings. SFAS No. 159 is effective for the Company in
fiscal 2009. The Company is currently evaluating the impact of SFAS No. 159 on its
consolidated financial position
and results of operations.
5
(3) Inventories
Inventories are principally stated at the lower of cost or market using the
specific identification method and include direct labor, materials and overhead.
Inventories consisted of the following components (in thousands):
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December 31, |
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September 30, |
| |
|
2007 |
|
2007 |
| |
|
|
|
|
|
|
|
|
|
|
|
|
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Raw materials |
|
$ |
962 |
|
|
$ |
1,241 |
|
Finished products |
|
|
1,442 |
|
|
|
1,256 |
|
| |
|
|
|
|
Total |
|
$ |
2,404 |
|
|
$ |
2,497 |
|
| |
|
|
|
|
(4) Restricted Cash
The Company has entered into an agreement to purchase an undeveloped parcel of land,
as described in detail in Note 13. To secure the performance of its obligations under
the purchase agreement, the Company delivered a standby letter of credit in the amount
of $1.6 million. This letter of credit is fully collateralized by restricted cash
that the Company deposited with the issuing institution.
(5) Other Assets
Other assets consist principally of strategic investments and a note receivable related to the
Company’s sale of a contract manufacturing facility and 27 acres of land in September 2005. See
Note 14. The Company accounts for its strategic investments under the cost method, except for its
investments in Paragon Intellectual Properties, LLC (“Paragon”), Paragon’s subsidiary, Apollo
Therapeutics, LLC (“Apollo”), and Broodwood’s investment in Aeon Biosience, which are accounted for
under the equity method.
Other assets consisted of the following components as of September 30 and
December 31, 2007 (in thousands):
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| |
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December 31, |
|
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September 30, |
|
| |
|
2007 |
|
|
2007 |
|
|
|
|
|
|
|
|
|
|
Investment in OctoPlus |
|
$ |
7,033 |
|
|
$ |
8,762 |
|
Long-term portion of note receivable (see note 14) |
|
|
5,032 |
|
|
|
5,158 |
|
Investment in Paragon and subsidiary |
|
|
3,508 |
|
|
|
3,632 |
|
Investment in ThermopeutiX |
|
|
1,185 |
|
|
|
1,185 |
|
Investment in Novocell |
|
|
559 |
|
|
|
559 |
|
Other |
|
|
457 |
|
|
|
492 |
|
|
|
|
|
|
|
|
Other assets |
|
$ |
17,774 |
|
|
$ |
19,788 |
|
|
|
|
|
|
|
|
In the three months ended December 31, 2007 and December 2006, the Company
recognized revenue of $1.0 million, and $49,000, respectively, from activity with
companies in which it had a strategic investment.
6
(6) Intangible Assets
Intangible assets consist principally of acquired patents and technology,
customer relationships, licenses,
and trademarks. The Company recorded amortization expense of $740,000, and $447,000
for the three months ended December 31, 2007 and 2006, respectively.
In September 2004, the Company made a commitment to purchase for $7 million
certain additional sublicense rights and the accompanying future royalty revenue
streams under certain sublicenses through an amendment to the Company’s diagnostic
format patent license with Abbott Laboratories. Prior to such amendment, the Company
was receiving only a portion of the royalties under such sublicenses. The first $5
million installment was paid in fiscal 2005, and an additional $1 million installment
was paid in fiscal 2007. The remaining $1 million installment is reflected in other
current liabilities.
Intangible assets consisted of the following (in thousands):
| |
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Useful life |
|
|
December 31, |
|
|
September 30, |
|
| |
|
(in years) |
|
|
2007 |
|
|
2007 |
|
|
|
|
|
|
|
|
|
|
Customer list |
|
|
9 - 11 |
|
|
$ |
7,340 |
|
|
$ |
7,340 |
Abbott license |
|
|
4 |
|
|
|
7,037 |
|
|
|
7,037 |
|
Core technology |
|
|
8 - 18 |
|
|
|
6,930 |
|
|
|
6,933 |
|
Patents and other |
|
|
7 - 20 |
|
|
|
2,049 |
|
|
|
1,988 |
|
Trademarks |
|
|
|
|
|
|
580 |
|
|
|
580 |
Less accumulated amortization of intangible assets |
|
|
|
|
|
|
(6,219 |
) |
|
|
(5,479 |
) |
|
|
|
|
|
|
|
|
|
|
|
Other assets, net |
|
|
|
|
|
$ |
17,717 |
|
|
$ |
18,399 |
|
|
|
|
|
|
|
|
|
|
|
|
Based on the intangible assets in service as of December 31, 2007, estimated
amortization expense for the next five fiscal years is as follows (in thousands ):
| |
|
|
|
|
2008 |
|
$ |
2,223 |
|
2009 |
|
|
1,717 |
|
2010 |
|
|
1,299 |
|
2011 |
|
|
1,299 |
|
2012 |
|
|
1,299 |
|
(7) Goodwill
Goodwill represents the excess of the cost of the acquired entities over the fair
value assigned to the assets purchased and liabilities assumed in connection with the
Company’s acquisitions. The carrying amount of goodwill is evaluated annually, and
between annual evaluations if events occur or circumstances change indicating that the
carrying amount of goodwill may be impaired.
(8) Stock-based Compensation
Stock Option Plans
The Company accounts for stock-based compensation in accordance with Statement of
Financial Accounting Standards No. 123(R), “Share Based Payment” (“SFAS 123(R)”), which
requires all share-based payments, including grants of stock options, to be recognized
in the income statement as an operating expense, based on their fair values, over the
requisite service period. The Company’s stock-based compensation expenses were as
follows (in thousands) :
| |
|
|
|
|
|
|
|
|
| |
|
Three months ended December 31, |
|
| |
|
2007 |
|
|
2006 |
|
Product |
|
$ |
24 |
|
|
$ |
27 |
|
Research and development |
|
|
837 |
|
|
|
693 |
|
Selling, general and
administrative |
|
|
1,092 |
|
|
|
692 |
|
|
|
|
|
|
|
|
Total |
|
$ |
1,953 |
|
|
$ |
1,412 |
|
|
|
|
|
|
|
|
As of December 31, 2007, approximately $18.4 million of total unrecognized
compensation costs related to non-vested awards is expected to be recognized over a
weighted average period of approximately 2.6 years.
7
The Company uses the Black-Scholes option pricing model to determine the weighted
average fair value of options. The weighted average fair value of options granted
during three months ended December 31, 2007, and 2006 was $26.93 and $17.16,
respectively. The assumptions used as inputs in the model were as follows:
| |
|
|
|
|
|
|
|
|
| |
|
Three months ended December 31, |
| |
|
2007 |
|
2006 |
Risk-free interest rates |
|
|
3.99 |
% |
|
|
4.60 |
% |
Expected life |
|
|
6.73 |
|
|
|
6.01 |
|
Expected volatility |
|
|
49.7 |
% |
|
|
51.5 |
% |
Dividend yield |
|
|
0 |
% |
|
|
0 |
% |
The risk-free interest rate assumption was based on yields for U.S. Treasury
bonds with maturities similar to those of the expected term of the award. The expected
life of options granted is determined based on the Company’s experience. Expected
volatility is based on the Company’s stock price movement over a period approximating
the expected term. Based on management’s judgment, dividend rates are expected to be
zero for the expected life of the options. The Company also estimates forfeitures of
options granted, which is based on historical experience.
The Company’s Incentive Stock Options (“ISO”) are granted at a price of at least
100% of the fair market value of the common stock of the Company (“Common Stock”) on
the date of the grant or 110% with respect to optionees who own more than 10% of the
total combined voting power of all classes of stock. ISO’s expire in seven years or
upon termination of employment and are exercisable at a rate of 20% per year
commencing one year after the date of grant. Nonqualified stock options(“NQSO”) are
granted at fair market value on the date of grant. NQSO’s expire in 7 to 10 years and
are exercisable at rates of 20% per year from the date of grant, or 20% to 33% per
year commencing one year after the date of grant.
Restricted Stock Awards
The Company has entered into restricted stock agreements with certain key
employees, covering the issuance of Common Stock (“Restricted Stock”). Under SFAS
123(R), these shares are considered to be non-vested shares. The Restricted Stock will
be released to the key employees if they are employed by the Company at the end of the
vesting period. Compensation has been recognized for the estimated fair value of the
199,025 common shares and is being charged to income over the vesting term. Stock
compensation expense recognized related to these awards totaled $562,000, and $269,000
during three months ended December 31, 2007 and 2006, respectively.
Performance Share Awards
Historically, the Company has entered into performance share agreements with
certain key employees, covering the issuance of Common Stock (“Performance Shares”).
The Performance Shares vest upon the achievement of certain performance objectives,
which must be achieved during the performance period. Compensation is recognized in
each period based on management’s best estimate of the achievement level of the
grants’ specified performance objectives and the resulting vesting amounts. To date,
no similar grants have been made for fiscal 2008. For the three months ended December
31, 2006, the Company recognized $65,000 of the fair value of anticipated vesting of
grants.
8
1999 Employee Stock Purchase Plan
Under the 1999 Employee Stock Purchase Plan (“Stock Purchase Plan”), the Company
is authorized to issue up to 200,000 shares of Common Stock. All full-time and
part-time employees can choose to have up to 10% of their annual compensation withheld
to purchase the Company’s Common Stock at purchase prices defined within the
provisions of the Stock Purchase Plan. As of December 31, 2007 and 2006, there were
$442,000 and $397,000 of employee contributions, respectively, included in accrued
liabilities in the accompanying consolidated balance sheets. Stock compensation
expense recognized related to the Stock Purchase Plan for three months ended December
31, 2007 and 2006 totaled $38,000 and $40,000, respectively.
(9) Comprehensive Income
The components of comprehensive income are as follows (in thousands):
| |
|
|
|
|
|
|
|
|
| |
|
Three Months Ended |
|
| |
|
December 31, |
|
|
December 31, |
|
| |
|
2007 |
|
|
2006 |
|
| |
|
|
|
|
|
Net income |
|
$ |
5,646 |
|
|
$ |
5,992 |
|
Other Comprehensive income: |
|
|
|
|
|
|
|
|
Unrealized holding gains (losses) on available for sale securities arising during the period |
|
|
(212 |
) |
|
|
1,800 |
|
Add reclassification adjustment for realized losses included in net income, net of tax |
|
|
— |
|
|
|
3 |
|
Less reclassification adjustment for realized gain included in net income, net of tax |
|
|
(563 |
) |
|
|
— |
|
|
|
|
|
|
|
|
Other comprehensive income |
|
|
(775 |
) |
|
|
1,803 |
|
|
|
|
|
|
|
|
Comprehensive Income |
|
$ |
4,871 |
|
|
$ |
7,795 |
|
|
|
|
|
|
|
|
(10) Income Taxes
The Company adopted the provisions of FASB Interpretation No. 48 (“FIN 48”) “Accounting for
Uncertainty in Income Taxes — An Interpretation of FASB Statement No. 109,” on October 1, 2007.
Upon adoption of FIN 48, the Company recorded a net $79,000 benefit related to taxes, which was
recorded as an increase to the October 1, 2007 beginning retained earnings balance. As of the
adoption date, the Company has gross unrecognized tax benefits of $1.1 million and if recognized,
this total amount would impact the effective tax rate. The Company has classified $160,000 of the
gross unrecognized tax benefits as a current liability, reflecting the amount the Company expects
to pay during the next twelve months in connection with certain amended tax returns filed by the
Company. The remaining liability for unrecognized tax benefits has been classified as
non-current, as no payments are expected to be made in the next twelve months. The Company does
not anticipate any other significant increases or decreases in unrecognized tax benefits within
twelve months of adoption of FIN 48. Interest and penalties related to unrecognized tax benefits
are recorded in income tax expense. As of October 1, 2007, a gross balance of $445,000 of
interest and penalties has been accrued related to the unrecognized tax benefits balance.
The Company files tax returns, including returns for its subsidiaries, in the United States
federal jurisdiction and in various state jurisdictions. Uncertain tax positions are related to
tax years that remain subject to examination. As of the date of the adoption, U.S. tax returns for
fiscal years ended September 30, 2005, 2006, and 2007 remain subject to examination by federal tax
authorities. Tax returns for state and local jurisdictions for fiscal years ended September 30,
2003 through 2007 remain subject to examination by state and local tax authorities.
(11) Operating Segments
Operating segments are defined as components of an enterprise about which separate financial
information is available that is evaluated regularly by the chief operating decision maker, or
decision making group, in deciding how to allocate resources and in assessing performance.
SurModics manages its business on the basis of the operating segments noted in the table
below, which are comprised of the Company’s seven business units. The three operating segments are
aggregated into one reportable segment. The “Drug Delivery” operating segment contains: (1) the
Drug Delivery business unit, which is responsible for technologies dedicated
9
to site specific delivery of drugs; (2) the Ophthalmology business unit, which is dedicated to the
advancement of treatments for eye diseases, such as age-related macular degeneration (AMD) and
diabetic macular edema (DME), two of the leading causes of blindness; and (3) the Brookwood
Pharmaceuticals unit, which provides proprietary polymer-based technologies to companies
developing improved pharmaceutical products. The “Hydrophilic and Other” operating segment
consists of three business units: (1) the Hydrophilic Technologies business unit, which focuses on
enhancing medical devices with advanced lubricious coatings that facilitate their placement and
maneuverability in the body; (2) the Regenerative Technologies business unit, which is developing
platforms intended to augment or replace tissue/organ function (e.g., cell encapsulation
applications), or to modify medical devices to facilitate tissue/organ recovery through natural
repair mechanisms (e.g., hemo/biocompatible or prohealing coatings); and (3) the Orthopedics
business unit, which is committed to innovative solutions for orthopedics patients using proven
SurModics technologies, and creating new technology solutions to existing patient care gaps in the
orthopedics field. The “In Vitro” operating segment contains the In Vitro Technologies (formerly
Diagnostics and Drug Discovery) business unit, which includes the Company’s genomics slide
technologies, stabilization products, antigens and substrates for immunoassay diagnostics tests,
its in vitro diagnostic format technology and its synthetic ECM cell culture products.
Each operating segment has similar economic characteristics, technology, manufacturing
processes, customers, regulatory environments, and shared infrastructures. The Company manages its
expenses on a company-wide basis, as many costs and activities are shared among the business
units. The focus of the business units is providing solutions to customers and maximizing
financial performance over the long term. The accounting policies for segment reporting are the
same as for the Company as a whole. The table below presents revenue from the three operating
segments for the three month periods in fiscal 2007 and 2006, respectively (in thousands):
| |
|
|
|
|
|
|
|
|
| |
|
Three Months Ended |
|
| |
|
December 31, |
|
|
December 31, |
|
| |
|
2007 |
|
|
2006 |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Drug Delivery |
|
$ |
10,768 |
|
|
$ |
6,628 |
|
Hydrophilic and Other |
|
|
7,553 |
|
|
|
5,278 |
|
In Vitro |
|
|
5,508 |
|
|
|
4,834 |
|
|
|
|
|
|
|
|
Total revenue |
|
$ |
23,829 |
|
|
$ |
16,740 |
|
|
|
|
|
|
|
|
(12) Share Repurchases
In November 2007, the company’s Board of Directors authorized the repurchase of
$35 million of the Company’s Common Stock in open-market transactions, private
transactions, tender offers, or other transactions. The repurchase authorization does
not have a fixed expiration date, and as of December 31, 2007, no shares had been
repurchased.
(13) Commitments and Contingencies
Litigation. From time to time, the Company may become involved in various legal
actions involving its products and technologies, including intellectual property
disputes. The outcomes of these legal actions are not within the Company’s complete
control and may not be known for prolonged periods of time. In some actions, the
claimants seek damages, as well as other relief, including injunctions barring the
sale of products that are the subject of the lawsuit, which, if granted, could require
significant expenditures or result in lost revenues. In accordance with SFAS No. 5,
“Accounting for Contingencies,” the Company records a liability in the consolidated
financial statements for these actions when a loss is known or considered probable and
the amount can be reasonably estimated. If the reasonable estimate of a known or
probable loss is a range, and no amount within the range is a better estimate, the
minimum amount of the range is accrued. If a loss is possible but not known or
probable, and can be reasonably estimated, the estimated loss or range of loss is
disclosed. In most cases, significant judgment is required to estimate the amount and
timing of a loss to be recorded. While it is not possible to predict the outcome for
most of the actions discussed below and the Company believes that it has meritorious
defenses against these matters, it is possible that costs associated with them could
have a material adverse impact on the Company’s consolidated earnings, financial
condition or cash flows.
10
Investment Obligation. In July 2007, the Company made equity investments in
Paragon and Apollo, a Paragon subsidiary. The Paragon and Apollo investments totaled
$3.5 million. The arrangement calls for the
Company to invest additional equity totaling $2.5 million upon successful completion
of specified development milestones, which it expects will occur by the
second quarter of fiscal 2008.
Land Purchase Commitment. In August 2007, the Company entered into an agreement
to purchase an undeveloped parcel of land in Eden Prairie, Minnesota for approximately
$3.6 million (including a non-refundable deposit of $100,000 paid to the seller at the
time the purchase agreement was signed). The agreement requires that the Company
complete the purchase on or before August 24, 2008 (the “Closing Date”). While it is
the Company’s intention to complete the purchase on or before the Closing Date, the
Company will be required to pay the seller $1.6 million if it fails to do so and will
have no further rights to acquire the land. This $1.6 million commitment is secured
by a standby letter of credit as discussed above in Note 4.
(14) Subsequent Events
In September 2005, the Company entered into an agreement to sell a contract
manufacturing facility and 27 acres of land located in Bloomington, Minnesota. The
terms of the sale agreement included a $100,000 cash down payment and a note
receivable of $6.9 million, which was collateralized by the property. The terms of the
note called for monthly installment payments of principal and interest at 6% with the
remaining amount due and payable in September 2010. On January 14, 2008, the
outstanding balance (including principal and accrued interest) of $5.8 million was
repaid in its entirety.
11
|
|
|
| Item 2. |
|
Management’s Discussion and Analysis of Financial Condition and Results of
Operations |
Overview
SurModics is a leading provider of surface modification and drug delivery technologies to the
healthcare industry. The Company is organized into three operating segments composed of seven
technology-centered and industry-focused business units. The “Drug Delivery” operating segment
consists of three business units: (1) the Drug Delivery business unit, which is responsible for technologies dedicated to
site-specific delivery of drugs; (2) the Ophthalmology business unit, which is dedicated to the
advancement of treatments for eye diseases, such as age-related macular degeneration (AMD) and
diabetic macular edema (DME), two of the leading causes of blindness; and (3) the Brookwood
Pharmaceuticals business unit, which provides proprietary polymer-based technologies to companies
developing improved pharmaceutical products. The “Hydrophilic and Other” operating segment
consists of three business units: (1) the Hydrophilic Technologies business unit, which focuses on
enhancing medical devices with advanced lubricious coatings that facilitate their placement and
maneuverability in the body; (2) the Regenerative Technologies business unit, which is developing
platforms intended to augment or replace tissue/organ function (e.g., cell encapsulation
applications), or to modify medical devices to facilitate tissue/organ recovery through natural
repair mechanisms (e.g., hemo/biocompatible or prohealing coatings); and (3) the Orthopedics
business unit, which is committed to innovative solutions for orthopedics patients using proven
SurModics technologies, and creating new technology solutions to existing patient care gaps in the
orthopedics field. The “In Vitro” operating segment
consists of the In Vitro Technologies (formerly
Diagnostics and Drug Discovery) business unit, which includes our genomics slide technologies, our
stabilization products, antigens and substrates for immunoassay diagnostic tests, our in vitro
diagnostic format technology and our synthetic ECM cell culture products.
Revenue in each of our operating segments is derived from three primary sources: (1)
royalties and license fees from licensing our patented surface modification and drug delivery
technologies and in vitro diagnostic formats to customers; the vast majority (typically in excess
of 90%) of revenue in the “royalties and license fees” category is in the form of royalties; (2)
the sale of reagent chemicals to licensees of our technologies, stabilization products, antigens
and substrates to the diagnostics industry and coated glass slides to the genomics market; and (3)
research and development fees generated on customer projects. Revenue should be expected to
fluctuate from quarter to quarter depending on, among other factors: our customers’ success in
selling products incorporating our technologies; the timing of introductions of coated products by
customers; the timing of introductions of products that compete with our customers’ products; the
number and activity level associated with customer development projects; the number and terms of
new license agreements that are finalized; the value of reagent chemicals and other products sold
to customers; and the timing of future acquisitions we complete, if any.
In
June 2007, we signed a collaborative research and license agreement with Merck (the “Merck
Agreement”) to pursue the joint development and commercialization of the I-vation sustained
drug delivery system with triamcinolone acetonide and other products that combine Merck
proprietary drug compounds with the I-vation system for the treatment of serious retinal diseases.
Under the terms of our agreement with Merck, we received an up-front license fee of $20 million
and may receive up to an additional $288 million in fees and development milestones associated
with the successful product development and attainment of appropriate U.S. and EU regulatory
approvals for these new combination products. We will also be paid for our activities in
researching and developing these combination products. Additionally, under the terms of our
agreement with Merck, we will be responsible for the exclusive manufacture and supply of
clinical and commercial products. Once products licensed under the agreement are
commercialized, we will also receive royalties on sales of such products.
Under EITF 00-21, we
are amortizing the $20 million license fee we received upon signing the
agreement in June 2007, over the economic life of the technology we licensed to Merck, or 16 years.
This accounting treatment and the resulting amortization will also apply to future license fees and
milestone payments. The commercial R&D fees we are paid by Merck are also amortized over
the same economic life. However, all of the costs of the R&D work we perform for Merck are
expensed in the period. As of December 31, 2007, the deferred revenue balance related to the
Merck agreement was $22.1 million.
In July 2007, we acquired Brookwood Pharmaceuticals, Inc., from Southern
Research Institute, for $40 million in upfront cash at closing and up to an additional
$22 million in cash upon the successful achievement of specified milestones.
Brookwood specializes in proprietary injectable microparticles and implants to provide
sustained delivery of drugs being developed by leading pharmaceutical, biotechnology
and medical device clients as well as emerging companies. This acquisition is
expected to help us broaden our technology offerings to our customers, diversify the
range of markets in which we participate, expand our customer base, and enhance our
pipeline of potential revenue generating opportunities.
In August 2007, we acquired BioFX Laboratories, Inc., a provider of
substrates to the in vitro diagnostics industry, for $11.3 million in cash at closing
and up to an additional $11.4 million in cash upon the successful achievement of
specified revenue targets. BioFX is a leading manufacturer of substrates, a critical
component of diagnostic test kits used to detect and signal that a certain reaction
has taken place. We expect our acquisition of BioFX to broaden our product portfolio
in the in vitro diagnostics market.
The results of operations for the three month period ended December 31, 2007,
reflect the first full quarter in which we recorded revenue
from our Brookwood Pharmaceuticals business unit and sales of BioFX
products.
For financial accounting and reporting purposes, we treat our three operating segments as one
reportable segment. We made this determination because a significant percentage of our employees
provide support services (including research and development) to each operating segment;
technology and products from each operating segment are marketed to the same or similar customers;
each operating segment uses the same sales and marketing resources; and each operating segment
operates in the same regulatory environment.
Critical Accounting Policies
Critical accounting policies are those policies that require the application of
management’s most challenging subjective or complex judgment, often as a result of the
need to make estimates about the effect of matters that are inherently uncertain and
may change in subsequent periods. Critical accounting policies involve judgments and
uncertainties that are sufficiently sensitive to result in materially different
results under different assumptions and conditions. For a detailed description of our
critical accounting policies, see the notes to the financial statements included in
our Annual Report on Form 10-K for the year ended September 30, 2007.
12
Results of Operations
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
Three Months Ended |
|
|
|
|
|
|
|
| |
|
December 31, |
|
|
December 31, |
|
|
|
|
|
|
|
| (Dollars in thousands) |
|
2007 |
|
|
2006 |
|
|
Increase |
|
|
% Increase |
|
Revenue: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Drug Delivery |
|
$ |
10,768 |
|
|
$ |
6,628 |
|
|
$ |
4,140 |
|
|
|
62 |
% |
Hydrophilic and Other |
|
|
7,553 |
|
|
|
5,278 |
|
|
|
2,275 |
|
|
|
43 |
% |
In Vitro |
|
|
5,508 |
|
|
|
4,834 |
|
|
|
674 |
|
|
|
14 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue |
|
$ |
23,829 |
|
|
$ |
16,740 |
|
|
$ |
7,089 |
|
|
|
42 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue. Revenue during the first quarter of fiscal 2008 was $23.8 million, an increase of
$7.1 million or 42% compared with the first quarter of fiscal 2007. All three operating segments
generated revenue growth, as detailed in the table above and further explained in the narrative
below.
Drug Delivery. Revenue in the Drug Delivery segment was $10.8 million in the first quarter of
fiscal 2008, a 62% increase compared with $6.6 million in the prior-year period. The increase in
total revenue reflects a significant increase in product sales and research and development
revenue from drug delivery and ophthalmology customers, and the addition of $4.2 million in
revenue from our Brookwood Pharmaceuticals business unit, which offset an 18% decrease in royalties and license
fees. Prior-year results do not include any revenue from Brookwood
Pharmaceuticals, as the
acquisition was completed in the fourth quarter of fiscal 2007.
Drug Delivery derives a substantial amount of revenue from royalties and license fees and product
sales attributable to Cordis Corporation, a Johnson & Johnson company, on its CYPHER®
Sirolimus-eluting Coronary Stent. The CYPHER® stent incorporates a proprietary SurModics polymer
coating that delivers a therapeutic drug designed to reduce the occurrence of restenosis in
coronary artery lesions.
The decrease in
Drug Delivery royalties and license fees principally reflects decreased royalty
revenue from Cordis as a result of lower CYPHER® sales.
Partially offsetting the decrease
attributable to CYPHER® was an increase
in royalties and license fees from ophthalmology
customers, including amortization of license fees and research and development fees received in
connection with the Merck Agreement. In accordance with accounting for arrangements with multiple elements, we will be amortizing the payments received from Merck over the
estimated 16 year economic life of the technology we licensed to Merck.
The CYPHER® stent, from which we derive a substantial amount of our Drug Delivery revenue, faces
continuing competition from Boston Scientific Corporation’s Taxus drug-eluting stent, which is
sold domestically and internationally, and stents from Medtronic, Abbott Vascular and others sold
outside the U.S. Medtronic received FDA clearance for its Endeavor drug-eluting stent in February
2008. In addition, a drug-eluting stent from Abbott is expected to be approved in the U.S. within
the next year. These stents compete or will compete directly with the CYPHER® stent. In addition
to competition among the various players, the total size of the drug-eluting stent market has
decreased significantly in the past eighteen months as a result of concerns about product safety,
mostly related to potential clotting associated with stents. Therefore, future royalty and reagent
sales revenue could decrease because of lower CYPHER® stent sales as a result of the market
contraction and the ongoing and expected future competition. We anticipate that quarterly royalty
revenue from the CYPHER® stent may be volatile throughout fiscal 2008 and beyond as the various
marketers of drug-eluting stents continue competing in the marketplace and as others enter the
marketplace. Management expects royalties from the CYPHER® stent to continue to constitute a
substantial portion of our revenue in fiscal 2008. However, whether and the extent to which
royalties from the CYPHER® stent continue to constitute a significant source of revenue is subject
to a number of risks, including intellectual property litigation generally, and specifically the
damages, settlements and mutual agreements that may result from various infringement suits between
Boston Scientific and Cordis in which each has been found to have violated certain intellectual
property rights of the other.
The
inclusion of revenue from Brookwood Pharmaceuticals business unit in Drug Delivery will also impact the overall revenue
and mix in fiscal 2008, as a substantial majority of Brookwood revenue is comprised of research
and development fees.
Hydrophilic and Other. Hydrophilic and Other revenue was $7.6 million in the first quarter of
fiscal 2008, a 43% increase compared with $5.3 million in the first quarter of fiscal 2007,
primarily as a result of 36% growth in royalties and license
fees. The Hydrophilic and Other segment also generated strong growth in reagent sales and research
and development revenue. In contrast to our Drug Delivery segment, where a significant percentage
of revenue is attributable to Cordis, there are several dozen licensees and an even larger number
of coated products generating royalties in our Hydrophilic and Other segment. The growth in
royalties principally reflects increased sales of coated products already on the market, and to a
lesser extent newly introduced licensed products. We believe that revenue will likely continue to
increase for the remainder of fiscal 2008; however, the rate of growth will depend upon the timing
and market success of our customers’ newly released products, as well as the sales of existing
products.
In Vitro. Revenue in the In Vitro segment was $5.5 million in the first quarter of fiscal 2008, an
increase of 14% compared with $4.8 million in the prior-year period. This increase was
attributable to increased product sales, mostly as a result of the addition of $1.1 million of
BioFX products sold during the quarter. The increase was partially offset by a decrease
in royalties and license fees. Prior-year results do not include
sales of BioFX products,
because the acquisition of BioFX Laboratories was completed in the fourth quarter of fiscal 2007.
In Vitro segment royalties and license fees decreased principally because the prior-year results
included a settlement related to past due royalties; there was no such settlement in the first
quarter of fiscal 2008. We anticipate continued growth in product sales for the remainder of
fiscal 2008 reflecting particularly the addition of BioFX products, but the rate of growth will
depend on the success of certain product launches. Royalties and license fees likely will not
increase. In Vitro derives a significant percentage of its revenue from GE Healthcare and Abbott
Laboratories. Royalty revenue generated under our diagnostic format patent license agreement with Abbott Laboratories (the
“Abbott Agreement”) is expected to decline significantly following the expiration of the licensed patents, which is
expected to occur in fiscal 2009. Consistent with our revenue recognition practices, royalty revenue is recognized as licensees
report it to us, which typically occurs on a quarter lag basis. Accordingly, we may record royalty revenues generated
under the Abbott Agreement beyond the expiration of the patents.
13
Product costs. Product costs were $2.8 million in the first quarter of fiscal 2008, compared with
$1.1 million in the prior-year period. The $1.7 million increase in product costs principally
reflects the addition of product sales from Brookwood and BioFX, as well as the inclusion of
out-of-pocket expenses incurred in connection with our Merck
projects, for
which we are reimbursed. Overall product margins averaged 47%, compared with 60% reported last
year. The decrease in product margins reflects the changing mix of products sold in the period (in
particular, some of our stabilization and antigen products, genomics slides and Brookwood polymer
products carry lower margins than our reagent products), higher depreciation costs on the
recently-constructed manufacturing space at our Eden Prairie facility, and the inclusion of
reimbursed out-of-pocket expenses incurred in connection with our
Merck projects, on which we do not charge a markup. We anticipate that product
margins will continue to be lower on a year-over-year basis throughout fiscal 2008 when compared
to prior year results, principally as a result of product mix.
Research and development expenses. Research and development expenses were $8.7 million for the
first quarter, an increase of 68% compared with the first quarter of fiscal 2007. The increase
principally reflects the addition of Brookwood and BioFX to our operations, higher compensation
expenses as we have added personnel to support customer projects and internal development
projects, increased incentive and stock-based compensation, and higher costs related to our
internal development projects. Research and development expenses are expected to continue to
increase for the remainder of fiscal 2008, reflecting the addition of Brookwood and BioFX to our
operations, and as we expand our research and development organization. The research and
development expenses for our Brookwood Pharmaceuticals business unit, in particular, are a higher
percentage of that unit’s total revenues than for our other business units.
Selling, general and administrative expenses. Selling, general and administrative expenses were
$4.7 million for the three months ended December 31, 2007, an increase of $2.4 million compared
with the prior-year period. The increase principally reflects the addition of Brookwood and BioFX
to our operations, higher compensation expenses, and increased incentive and stock-based
compensation. We expect selling, general and administrative expenses to continue to increase for
the remainder of fiscal 2008, reflecting the addition of Brookwood and BioFX to our operations,
and as we expand our organization to support our anticipated growth.
Other income, net. Other income was $1.7 million in the first quarter of fiscal 2008, compared
with $1.3 million in the first quarter of fiscal 2007. Income from investments was $1.0 million,
compared with $1.3 million in the prior-year period. The decrease principally reflects a decrease
in investable cash in our investment portfolio. Offsetting the decrease in investment income was
$0.8 million in other income, reflecting a $0.9 million gain on our investment in ForSight Newco
II, which was acquired by QLT Inc. in October 2007. Partially offsetting this gain was our pro
rata net loss on our equity method investments.
Income tax expense. The income tax provision was $3.6 million in the first quarter of fiscal 2008,
compared with $3.4 million in the prior-year period. The effective tax rate was 39.2%, compared
with 36.5% in the prior-year period. This increase is primarily attributable to timing differences related to stock options
and state tax exposures.
Liquidity and Capital Resources
As of December 31, 2007, the Company had working capital of $36.2 million and
cash, cash equivalents and short-term investments totaling $72.5 million. The Company’s
short-term investments principally consist
of U.S. government and government agency obligations and investment grade,
interest-bearing corporate debt securities with varying maturity dates, the majority
of which are five years or less. The Company’s policy requires that no more than 5% of
investments be held in any one credit issue, excluding U.S. government and government
agency obligations. The primary investment objective of the portfolio is to provide
for the safety of principal and appropriate liquidity while meeting or exceeding a
benchmark (Merrill Lynch 1-3 Year Government-Corporate Index) total rate of return.
Management plans to continue to direct its investment advisors to manage the Company’s
investments primarily for the safety of principal for the foreseeable future as it
assesses other investment opportunities and uses of its investments.
We had cash flows from operating activities of approximately $4.4 million in the
first three months of fiscal 2008, compared with $11.8 million in the first three
months of fiscal 2007. The decrease compared with prior-year results primarily
reflects timing of certain tax payments, a larger use of cash related to accounts
payable and accrued liabilities than in the prior-year period, and accounts receivable
remaining stable rather than being a source of cash as it was in the prior-year
period.
In September 2004,
we amended the Abbott Agreement in order to acquire rights to agreements between Abbott and certain of
its sublicensees. Each of these sublicense agreements was granted pursuant to the Abbott Agreement.
According to the terms of
the amendment, we agreed to pay to Abbott $7.0 million in exchange for the right to
receive the future royalty revenue streams under the acquired sublicense agreement
rights.
14
Prior to such amendment, we were receiving only a portion of the royalties
under such sublicenses. The first $5 million installment was paid in November 2004. We
made an additional $1 million installment payment in June 2007. The remaining $1 million installment payment will become payable during the third
quarter of fiscal 2008.
In January 2005, we entered into a merger agreement whereby we acquired all of
the assets of InnoRx, Inc. (“InnoRx”) by paying approximately $4.1 million in cash and
issuing 600,064 shares of Common Stock to InnoRx stockholders. In July 2005, we issued
60,007 shares of Common Stock to the shareholders of InnoRx upon the successful
completion of the first milestone involving the InnoRx technology acquired in the
purchase of InnoRx. In March 2006, we issued an additional 60,007 shares of Common
Stock as a result of completion of the second milestone (the
“Second Milestone”). The shares of Common Stock issued in connection with the Second Milestone are being held
in escrow pending possible indemnification per the merger agreement. Upon the
successful completion of the remaining development and commercial milestones involving
InnoRx technology acquired in the transaction, we will be required to issue up to
approximately 480,059 additional shares of our Common Stock to the stockholders of
InnoRx.
In November 2007, our Board of Directors authorized the repurchase of up to $35
million of the Company’s stock in open-market transactions, private transactions,
tender offers, or other transactions. The repurchase authorization does not have a
fixed expiration date, and as of December 31, 2007, no purchases have been made under this authorization.
On July 10, 2007, we made equity investments in Paragon and Apollo, a Paragon
subsidiary. The Paragon and Apollo investments totaled $3.5 million. The arrangement
calls for us to invest additional equity totaling $2.5 million upon successful
completion of specified development milestones. Our investment in Paragon represents
an ownership interest of less than 20% and the investment in Apollo represents an
ownership interest of less than 20%.
On July 31, 2007, we acquired Brookwood Pharmaceuticals, Inc., from Southern
Research Institute, for $40 million in upfront cash at closing and up to an additional
$22 million in cash upon the successful achievement of specified milestones.
Brookwood specializes in proprietary injectable microparticles and implants to provide
sustained delivery of drugs being developed by leading pharmaceutical, biotechnology
and medical device clients as well as emerging companies. This acquisition is
expected to help us broaden our technology offerings to our customers, diversify the
range of markets in which we participate, expand our customer base, and enhance our
pipeline of potential revenue generating opportunities.
On
August 13, 2007, we acquired BioFX Laboratories, Inc., a provider of
substrates to the in vitro diagnostics industry, for $11.3 million in cash at closing
and up to an additional $11.4 million in cash upon the successful achievement of
specified revenue targets. BioFX is a leading manufacturer of substrates, a critical
component of diagnostic test kits used to detect and signal that a certain reaction
has taken place. We expect our acquisition of BioFX to broaden our product portfolio
in the in vitro diagnostics market.
As of December 31, 2007, we had no material debt, nor did we have any material
credit agreements. We believe that our existing capital resources will be adequate to
fund our operations and material commitments into the foreseeable future.
As of December 31, 2007, the Company did not have any off-balance sheet
arrangements with any unconsolidated entities.
Forward-Looking Statements
Certain statements contained in this report and other written and oral statements
made from time to time by the Company do not relate strictly to historical or current
facts. As such, they are considered “forward-looking statements” that provide current
expectations or forecasts of future events. These forward-looking statements are made
pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act
of 1995. Such statements can be identified by the use of terminology such as
“anticipate,” “believe,” “could,” “estimate,” “expect,” “forecast,” “intend,” “may,”
“plan,” “possible,” “project,” “will” and similar words or expressions. Any statement
that is not an historical fact, including estimates, projections, future trends and
the outcome of events that have not yet occurred, are forward-looking statements. The
Company’s forward-looking statements generally relate to its growth strategy,
financial results, product development programs, sales efforts, sufficiency of capital
resources, and the impact of the Cordis agreement and other significant customer
agreements. You should carefully consider forward-looking statements and understand
that such statements involve a variety of risks and uncertainties, known and unknown,
and may be affected by inaccurate assumptions. Consequently, no forward-looking
statement can be guaranteed and actual results may vary materially. The Company
undertakes no obligation to update any forward-looking statement.
15
Although it is not possible to create a comprehensive list of all factors that
may cause actual results to differ from the Company’s forward-looking statements, such
factors include, among others: (i) the Company’s significant dependence upon Cordis,
which causes our financial results and stock price to be subject to factors affecting
Cordis and its Cypher stent program, including among others, the rate of market
penetration by Cordis, the timing of market introduction of competing products,
product safety or efficacy concerns and intellectual property litigation generally and
specifically the litigation involving Boston Scientific Scimed, Inc. and Cordis in the
U.S. District Court for the District of Delaware in which each was reported in June
and July 2005 to have been found to have infringed the patent rights of the other;
(ii) frequent intellectual property litigation in the medical device industry that may
directly or indirectly adversely affect our customers’ ability to market their
products incorporating our technologies; (iii) our ability to protect our own
intellectual property; (iv) healthcare reform efforts and reimbursement rates for
medical device products that may adversely affect our customers’ ability to cost
effectively market and sell devices incorporating our technologies; (v) the Company’s
ability to attract new licensees and to enter into agreements for additional product
applications with existing licensees, the willingness of potential licensees to sign
license agreements under the terms offered by the Company, and the Company’s ability
to maintain satisfactory relationships with its licensees; (vi) the Company’s ability
to increase the number of market segments and applications that use its coating
technologies through its sales and marketing and research and development efforts;
(vii) the Company’s ability to facilitate through strategic investment and research
and development support the creation of new medical device market segments and
applications that incorporate its coating technologies; (viii) market acceptance of
products sold by customers incorporating our technologies and the timing of new
product introductions by licensees; (ix) market acceptance of products sold by
customers’ competitors and the timing and pricing of new product introductions by
customers’ competitors; (x) the difficulties and uncertainties associated with the
lengthy and costly new product development and foreign and domestic regulatory
approval processes, such as delays, difficulties or failures in achieving acceptable
clinical results or obtaining foreign or FDA marketing clearances, which may result in
lost market opportunities or postpone or preclude product commercialization by
licensees; (xi) efficacy or safety concerns with respect to products marketed by us
and our licensees, whether scientifically justified or not, that may lead to product
recalls, withdrawals or declining sales; (xii) the ability to secure raw materials for
reagents the Company sells; (xiii) the Company’s ability to manage successfully
clinical trials and related foreign and domestic regulatory processes for the I-vation
™ intravitreal implant or other acquired products from InnoRx under development by the
Company’s ophthalmology division, whether delays, difficulties or failures in
achieving acceptable clinical results or obtaining foreign or FDA marketing clearances
postpone or preclude product commercialization of the intravitreal implant or other
acquired products, and whether the intravitreal implant and any other acquired
products remain viable commercial prospects; (xiv) product liability claims not
covered by insurance; (xv) the development of new products or technologies by
competitors, technological obsolescence and other changes in competitive factors;
(xvi) the trend of consolidation in the medical device industry, resulting in more
significant, complex and long term contracts than in the past and potentially greater
pricing pressures; (xvii) the Company’s ability to identify suitable businesses to
acquire or with whom to form strategic relationships to expand its technology
development and commercialization, its ability to successfully integrate the
operations of companies it may acquire from time to time (including Brookwood
Pharmaceuticals, Inc., and BioFX Laboratories, Inc.) and its ability to create
synergies from acquisitions and other strategic relationships; (xviii) the Company’s
ability to successfully internally perform certain product development activities and
governmental and regulatory compliance activities with respect to acquired technology,
including InnoRx technology, which activities the Company has not previously
undertaken in any
significant manner; (xix) the Company’s ability to successfully perform and earn
milestone payments related to contractual milestone criteria in general and
specifically the $288 million in fees and development milestones in the Merck
Agreement; (xx) economic and other factors over which the Company has no control,
including changes in inflation and consumer confidence; (xxi) acts of God or terrorism
which impact the Company’s personnel or facilities; and (xxii) other factors described
in the “Risk Factors” and other sections of SurModics’ Annual Report on Form 10-K,
which you are encouraged to read carefully. Many of these factors are outside the
control and knowledge of the Company and could result in increased volatility in
period-to-period results. Investors are advised not to place undue reliance upon the
Company’s forward-looking information and to consult any further disclosures by the
Company on this subject in its filings with the Securities and Exchange Commission.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company’s investment policy requires investments with high credit quality
issuers and limits the amount of credit exposure to any one issuer. The Company’s
investments principally consist of U.S. government and government agency obligations
and investment-grade, interest-bearing corporate debt securities with varying maturity
dates, the majority of which are five years or less. Because of the credit criteria of
the Company’s investment policies, the primary market risk associated with these
investments is interest rate risk. The Company does not use derivative financial
instruments to manage interest rate risk or to speculate on future changes in interest
rates. A one percentage point increase in interest rates would result in
16
an
approximate $949,000 decrease in the fair value of the Company’s
available-for-sale securities as of December 31, 2007, but no material impact on the
results of operations or cash flows. Management believes that a reasonable change in
raw material prices would not have a material impact on future earnings or cash flows
because the Company’s inventory exposure is not material.
Although we conduct business in foreign countries, our international operations
consist primarily of sales of reagent and stabilization chemicals. Additionally, all
sales transactions are denominated in U.S. dollars. Accordingly, we do not expect to
be subject to material foreign currency risk with respect to future costs or cash
flows from our foreign sales. To date, we have not entered into any foreign currency
forward exchange contracts or other derivative financial instruments to hedge the
effects of adverse fluctuations in foreign currency exchange.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
As of the end of the period covered by this report, the Company conducted an
evaluation under the supervision and with the participation of the Company’s
management, including the Company’s Chief Executive Officer and Chief Financial
Officer regarding the effectiveness of the design and operation of the Company’s
disclosure controls and procedures pursuant to Rule 13a-15(b) of the Securities
Exchange Act of 1934 (the “Exchange Act”). Based upon that evaluation, the Chief
Executive Officer and Chief Financial Officer concluded that the Company’s disclosure
controls and procedures are effective to ensure that information that is required to
be disclosed by the Company in reports that it files under the Exchange Act is
recorded, processed, summarized and reported within the time period specified in the
rules of the Securities and Exchange Commission.
Changes in Internal Controls
There were no changes in the Company’s internal control over financial reporting
that occurred during the period covered by this report that have materially affected,
or are reasonably likely to materially affect, the Company’s internal control over
financial reporting.
17
PART II — OTHER INFORMATION
Item 1. Legal Proceedings.
There have
been no material developments in the legal proceedings previously
disclosed in the Company’s Form 10-K for the fiscal year ended
September 30, 2007.
Item 1A. Risk Factors.
There have been no material changes from risk factors as previously disclosed in
the Company’s Form 10-K for the fiscal year ended September 30, 2007 in response to
Item 1A to Part I of Form 10-K.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
None.
Item 3. Defaults Upon Senior Securities.
None.
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of the Company’s security holders during the
period covered by this Report on Form 10-Q; however, set forth below is information
concerning matters submitted to a vote of the Company’s security holders at the recent
annual meeting of shareholders:
| |
(a) |
|
The Company held its Annual Meeting of Shareholders on January 28, 2008. |
| |
| |
(b) |
|
Proxies were solicited pursuant to Regulation 14A under the Securities
Act of 1934. The shareholders voted on two matters: (i) to set the
number of directors at ten (10), and (ii) to elect Class III directors.
The shareholders approved all matters by the following votes: |
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
|
|
|
|
Votes |
|
Votes |
|
Broker |
| |
|
Votes For |
|
Against |
|
Abstained |
|
Non-Votes |
(i) Set
the number of directors at ten (10) |
|
|
14,533,481 |
|
|
|
459,614 |
|
|
|
7,808 |
|
|
|
— |
|
| |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| |
|
|
|
|
|
|
|
|
|
Votes |
|
Broker |
(ii) Elect Class II directors |
|
|
|
|
|
Votes For |
|
Withheld |
|
Non-Votes |
Robert C. Buhrmaster |
|
|
|
|
|
|
14,858,259 |
|
|
|
142,645 |
|
|
|
— |
|
Kenneth C. Keller, Ph.D. |
|
|
|
|
|
|
14,312,664 |
|
|
|
688,240 |
|
|
|
— |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Item 5. Other Information.
None.
Item 6. Exhibits.
| |
|
|
| Exhibit |
|
Description |
3.1
|
|
Restated Articles of Incorporation, as amended - incorporated by reference to Exhibit 3.1 of the Company’s Quarterly Report on Form 10-QSB for the quarter
ended December 31, 1999, SEC File No. 0-23837 |
3.2
|
|
Restated Bylaws - incorporated by
reference to Exhibit 3.2 of the Company’s Annual Report on Form 10-K for the fiscal year ended September 30, 2007, SEC File No. 0-23837 |
31.1**
|
|
Certification of Chief Executive Officer Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 |
31.2**
|
|
Certification of Chief Financial Officer Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 |
32.1**
|
|
Certification of Chief Executive Officer Pursuant to Section 906 of Sarbanes-Oxley Act of 2002 |
32.2**
|
|
Certification of Chief Financial Officer Pursuant to Section 906 of Sarbanes-Oxley Act of 2002 |
18
Table of Contents
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
| |
|
|
|
|
February 8, 2008
|
SurModics, Inc.
|
|
| |
By: |
/s/ Philip D. Ankeny
|
|
| |
|
Philip D. Ankeny |
|
| |
|
Chief Financial Officer |
|
| |
19
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
EXHIBIT INDEX TO FORM 10-Q
For the Quarter Ended December 31, 2007
SURMODICS, INC.
| |
|
|
| Exhibit |
|
Description |
3.1
|
|
Restated Articles of Incorporation, as amended - incorporated by reference to Exhibit 3.1 of the Company’s Quarterly Report on Form 10-QSB for the quarter
ended December 31, 1999, SEC File No. 0-23837 |
3.2
|
|
Restated Bylaws - incorporated by
reference to Exhibit 3.2 of the Company’s Annual Report on Form 10-K for the fiscal year ended September 30, 2007, SEC File No. 0-23837 |
31.1**
|
|
Certification of Chief Executive Officer Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 |
31.2**
|
|
Certification of Chief Financial Officer Pursuant to Section 302 of Sarbanes-Oxley Act of 2002 |
32.1**
|
|
Certification of Chief Executive Officer Pursuant to Section 906 of Sarbanes-Oxley Act of 2002 |
32.2**
|
|
Certification of Chief Financial Officer Pursuant to Section 906 of Sarbanes-Oxley Act of 2002 |
20