MED-DESIGN CORP - 10-Q Quarterly Report

DRAFT 8 November 8, 2004

U. S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549

FORM 10-Q

(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934.
For the quarterly period ended September 30, 2004

( ) 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 0-25852

THE MED-DESIGN CORPORATION

(Exact Name of Registrant as Specified in Its Charter)

Delaware			23-2771475

(State or other Jurisdiction of Incorporation or Organization)			(IRS Employer Identification No.)

2810 Bunsen Avenue, Ventura, CA			93003

(Address of Principal Executive Offices)			(Zip Code)

Registrant’s Telephone Number, Including Area Code (805) 339-0375

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 No

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

Yes No

On November 9, 2004, 16,749,486 shares of the registrant’s common stock, $.01 par value, were outstanding.

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DRAFT 8 November 8, 2004

THE MED-DESIGN CORPORATION AND SUBSIDIARIES

INDEX TO FORM 10-Q

		Page Number
PART I – FINANCIAL INFORMATION

Item 1 -	Financial Statements

	Consolidated Balance Sheets as of September 30, 2004 (unaudited) and as of December 31, 2003	3

	Consolidated Statements of Operations (unaudited) for the three and nine months ended September 30, 2004 and 2003	4

	Consolidated Statements of Comprehensive Loss (unaudited) for the three and nine months ended September 30, 2004 and 2003	5

	Consolidated Statements of Cash Flows (unaudited) for the nine months ended September 30, 2004 and 2003	6

	Notes to Consolidated Financial Statements (unaudited)	7-13

Item 2 -	Management’s Discussion and Analysis of Financial Condition and Results of Operations	14-16

Item 3 -	Quantitative and Qualitative Disclosure About Market Risk	16

Item 4 -	Controls and Procedures	16

PART II – OTHER INFORMATION


Item 4 -	Submission of Matters to Vote of Security Holders	17

Item 6 -	Exhibits	17

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DRAFT 8 November 8, 2004

PART I – FINANCIAL INFORMATION

Item 1. Financial Statements

THE MED-DESIGN CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

		September 30, 2004 (Unaudited)			December 31, 2003

ASSETS
Current assets:
Cash and cash equivalents	$	10,845,842		$	5,198,837
Available-for-sale securities		4,646,328			19,830,912
Trade receivables		328,601			655,056
Inventory		182,897			39,243
Prepaid expenses and other current assets		385,764			265,761


Total current assets		16,389,432			25,989,809

Property, plant, and equipment, net of accumulated depreciation of $1,545,488 and $1,366,305 at September 30, 2004 (unaudited) and December 31, 2003, respectively		689,912			782,872
Patents, net of accumulated amortization of $994,412 and $843,133 at September 30, 2004 (unaudited) and December 31, 2003, respectively		1,825,964			1,773,748
Acquired license rights, net of accumulated amortization of $198,416 at September 30, 2004 (unaudited)		6,250,087			—
Goodwill		232,053			—


Total assets	$	25,387,448		$	28,546,429


LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Current maturities of long-term payable	$	250,000		$	—
Capital lease obligations		—			1,506
Accounts payable		272,088			451,110
Accrued compensation and benefits		111,069			162,740
Accrued professional fees		163,940			138,950
Other accrued expenses		90,032			27,466


Total current liabilities		887,129			781,772

Long-term payable, less current maturities		447,832			—


Total liabilities		1,334,961			781,772


Commitments and Contingencies (see Note 4)

Stockholders’ equity
Preferred stock, $.01 par value, 5,000,000 shares authorized; no shares outstanding		—			—
Common stock, $.01 par value, 30,000,000 shares authorized; 16,749,486 shares 16,572,390 shares issued and outstanding as of September 30, 2004 (unaudited) and December 31, 2003, respectively		167,495			165,724
Additional paid-in capital		71,851,317			71,033,777
Accumulated deficit		(47,900,165	)		(43,279,731	)
Accumulated other comprehensive (loss) income		(66,160	)		(155,113	)


Total stockholders’ equity		24,052,487			27,764,657


Total liabilities and stockholders’ equity	$	25,387,448		$	28,546,429

The accompanying notes are an integral part of these consolidated financial statements.

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DRAFT 8 November 8, 2004

THE MED-DESIGN CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)

		Three Months Ended September 30,						Nine Months Ended September 30,

		2004			2003			2004			2003


Revenue	$	489,474		$	140,135		$	948,315		$	221,371


Cost and expenses:
Product		495,689			58,041			815,210			81,796
General and administrative		1,254,197			1,372,335			3,897,507			4,336,561
Research and development		273,906			420,294			934,164			1,185,080

Total operating expenses		2,023,792			1,850,670			5,646,881			5,603,437

Loss from operations		(1,534,318	)		(1,710,535	)		(4,698,566	)		(5,382,066	)
Interest expense		(8,020	)		(159	)		(17,073	)		(366	)
Investment income (loss)		(197,996	)		238,014			95,205			563,047

Net loss		($1,740,334	)		($1,472,680	)		($4,620,434	)		($4,819,385	)


Basic and diluted loss per common share:

Net loss		($0.10	)		($0.10	)		($0.28	)		($0.36	)

Basic and diluted weighted average common shares outstanding		16,749,486			15,191,002			16,700,661			13,511,005

The accompanying notes are an integral part of these consolidated financial statements.

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DRAFT 8 November 8, 2004

THE MED-DESIGN CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(Unaudited)

	Three Months Ended September 30,				Nine Months Ended September 30,

	2004		2003		2004		2003


Net loss	($1,740,334	)	($1,472,680	)	($4,620,434	)	($4,819,385	)

Other comprehensive loss:

Unrealized holding gains (losses) on securities	496,333		87,189		88,953		(104,348	)

Comprehensive loss	($1,244,001	)	($1,385,491	)	($4,531,481	)	($4,923,733	)

The accompanying notes are an integral part of these consolidated financial statements.

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DRAFT 8 November 8, 2004

THE MED-DESIGN CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)

		Nine Months Ended September 30,
		2004			2003

Cash flows from operating activities:
Net loss		($4,620,434)			($4,819,385)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization		548,027			305,311
Loss on sale of available-for-sale securities		400,597			165,585
Stock-based compensation		405,605			1,233,887
Changes in operating assets and liabilities:
Trade receivable		326,455			(139,095	)
Prepaid expenses and other current assets		(120,003	)		191,144
Inventory		(53,654	)		—
Note receivable-related party		—			(25,774	)
Accounts payable		(179,022	)		244,055
Accrued compensation, benefits, professional fees and other accrued expenses		75,676			(357,837	)


Net cash used in operating activities		(3,216,751	)		(3,202,109	)


Cash flows from investing activities:
Purchases of property and equipment		(24,724	)		(667,581	)
Additions to patents		(203,494	)		(165,771	)
Investment in available-for-sale securities		(941,462	)		(12,758,018	)
Sale of available-for-sale securities		15,814,402			8,819,934
Purchase of acquired licensed rights		(5,948,449	)		—
Loss on sale of fixed assets		5,284			—


Net cash provided by (used in) investing activities		8,701,557			(4,771,436	)


Cash flows from financing activities:
Capital lease payments		(1,506	)		(1,903	)
Proceeds from the exercise of warrants and stock options		163,705			594,407
Proceeds from private placement, net of issuance costs paid		—			15,923,119


Net cash provided by financing activities		162,199			16,515,623


Increase in cash		5,647,005			8,542,078
Cash and cash equivalents, beginning of period		5,198,837			1,917,130

Cash and cash equivalents, end of period	$	10,845,842		$	10,459,208


Noncash investing and financing activities:
Change in unrealized loss on available-for-sale securities		($ 496,333	)		($ 104,348	)
Private placement issue costs – warrants issued to placement agent	$	—		$	1,055,844
Acquired business (note 2)
Cash paid		5,901,240			—
Non-cash consideration
Fair value of common stock issued		250,000			—
Liability – additional purchase consideration		680,812			—

Total fair market value	$	6,832,052		$	—

The accompanying notes are an integral part of these consolidated financial statements.

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DRAFT 8 November 8, 2004

THE MED-DESIGN CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1. Significant Accounting Policies

Basis of Presentation

The accompanying unaudited consolidated financial statements include The Med-Design Corporation (hereinafter, including its subsidiaries as the context indicates, the “Company” or “Med-Design”) and its wholly-owned subsidiaries. The accompanying consolidated financial statements have been prepared on a basis consistent with that used as of and for the year ended December 31, 2003 and, in the opinion of management, reflect all adjustments (principally consisting of normal recurring accruals) considered necessary to present fairly the financial position of the Company as of September 30, 2004, the results of the Company’s operations and comprehensive loss for the three and nine month periods ended September 30, 2004 and cash flows for the nine month period ended September 30, 2004. The results of operations for the three and nine-month periods ended September 30, 2004 are not necessarily indicative of the results that may be expected for the year ended December 31, 2004. The consolidated financial statements included herein have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and the applicable requirements of Regulation S-X promulgated by the Securities and Exchange Commission. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. These consolidated financial statements should be read in conjunction with the Company’s audited financial statements, which were included as part of the Company’s Annual Report on Form 10-K for the year ended December 31, 2003.

Principles of Consolidation

The accompanying consolidated financial statements include the accounts of The Med-Design Corporation and its wholly owned subsidiaries, MDC Investment Holdings, Inc. and MDC Research Ltd. All significant intercompany accounts and transactions have been eliminated in consolidation. Certain amounts from prior years have been reclassified for comparability.

Revenue Recognition

Fees received in connection with the entry into licensing contracts for the Company’s patented, proprietary products are recorded as revenue following the execution of a binding agreement, and when the Company has fulfilled its obligations under the arrangement or when Med-Design’s only remaining obligation is to maintain and defend the licensed patent rights.

Royalties received on licensed products which are based on the licensee’s product volume are recorded as revenue in the period when the royalty payments are earned. Minimum contractual royalty payments related to licensed products are recorded as revenue during the period to which the minimum payments relate.

Revenues from the sale of contract manufactured products are recorded upon the receipt of the product by customer when Med-Design pays freight. Revenues from the sale of contract manufactured products are recorded upon shipment of the product when customer pays freight.

Investment in Acquired License Rights

On April 1, 2004, Med-Design acquired the assets of the Safety Huber Needle business of Luther Needlesafe Products, Inc., which has been accounted for as an acquisition of a business in accordance with the guidance in EITF 98-3, Determining Whether a Non-monetary Transaction Involves Receipt of Production Assets or of a Business. The Low Profile Safety Huber Needle, the version of the Safety Huber Needle product marketed by the Company and used for the delivery of chemotherapeutic agents, was launched in the U.S. in October 2003. This acquisition expanded the Company’s safety product line and provided contract manufacturing capability and an established distribution channel for the products. See Note 2.

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DRAFT 8 November 8, 2004

Goodwill and Other Intangibles Resulting from Business Acquisition

The Company adopted Statement of Financial Accounting Standards (“SFAS”) No. 142 upon the acquisition of the assets of the Safety Huber Needle business on April 1, 2004. SFAS No. 142 addresses the accounting and reporting of goodwill and other intangible assets subsequent to their acquisition. SFAS No. 142 provides that goodwill and indefinite-lived intangible assets will no longer be amortized and that impairment will be measured using various valuation techniques based on discounted cash flows. Both goodwill and intangible assets deemed to have indefinite lives will be tested for impairment at least annually. Intangible assets with finite lives will be amortized over their useful lives.

Impairment of Long-Lived Assets

The Company evaluates the recoverability of long-lived assets and the related estimated remaining lives at each balance sheet date. An impairment or change in useful life would be recorded whenever events or changes in circumstances indicate that the carrying amount may not be recoverable or the useful life has changed in accordance with SFAS No. 144, “Accounting for the Impairment of Disposal of Long-Lived Assets.”

Product Cost

Product cost includes direct expenditures for material, packaging, sterilization, freight, amortization of investment in acquired license rights and consulting expense related to the acquisition of the Safety Huber Needle business. The Company also allocates some of its overhead (labor, use of facilities and depreciation) to product cost.

Stock-Based Compensation

The Company applies the intrinsic value method of Accounting Principles Board Opinion No. 25 “Accounting for Stock Issued to Employees” (APB 25) and the Financial Accounting Standards Board Interpretation No. 44 “Accounting for Certain Transactions Involving Stock Compensation” (FIN 44) in accounting for its stock plans. The Company has adopted the disclosure-only provisions of SFAS No. 123, “Accounting for Stock-Based Compensation.”

The following table illustrates the effect on net loss and loss per share if the Company had applied the fair value recognition provisions of SFAS No. 123:

	Three Months Ended September 30,				Nine Months Ended September 30,
	2004		2003		2004		2003


Net loss – as reported	($1,740,334	)	($1,472,680	)	($4,620,434	)	($4,819,385	)
Add: stock-based employee compensation expense included in reported net loss	43,844		323,518		405,605		1,233,887
Deduct: total stock-based employee compensation expense determined under fair-value based method for all awards	(486,672	)	(1,255,538	)	(1,456,107	)	(3,233,703	)


Net loss – pro forma	($2,183,162	)	($2,404,700	)	($5,670,936	)	($6,819,201	)


Net loss per share:

Basic & diluted loss per share – as reported	($0.10	)	($0.10	)	($0.28	)	($0.36	)
Basic & diluted loss per share – pro forma	($0.13	)	($0.16	)	($0.34	)	($0.50	)

In August 2000 and March and November 2002, the Company entered into several equity arrangements with officers and consultants of the Company involving grants of stock options and warrants to purchase common stock. The Company recorded compensation expense in the amount of $43,844 and $323,518 in connection with these transactions for the three months ended September 30, 2004 and September 30, 2003, respectively, and $405,605 and $1,233,887 for the nine months ended September 30, 2004 and 2003, respectively, to reflect partial vesting of the grants.

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DRAFT 8 November 8, 2004

2. Investment in Acquired License Rights

Acquisition of a Business

On April 1, 2004, the Company acquired the assets of the Safety Huber Needle business of Luther Needlesafe Products, Inc. The Company paid $5.6 million in cash, $250,000 in the Company’s common stock (67,094 shares valued at $3.73 per share, which was the average of the reported closing prices of the Company’s common stock on the Nasdaq National Market for the 10 trading days preceding the date of the acquisition) and $750,000 to be paid in cash or, at the Company’s option, in the Company’s common stock over the next three years. The three year payment arrangement was valued at its discounted present value of $680,812. The purchase price of the acquired business was thus $6,840,958, inclusive of costs related to the acquisition of $301,240. Results of operations for the Safety Huber Needle business are included in the Company’s income statement effective April 1, 2004. See also Note 4.

Safety Huber Needle Business Transaction Summary

Purchase price:
Cash	$	5,901,240
Stock		250,000
Liability–additional purchase consideration		680,812

	$	6,832,052


Allocated as follows:

Inventory	$	90,000
Property and equipment		61,498
Acquired license rights		6,448,501
Goodwill		232,053

	$	6,832,052

The acquired license rights are being amortized over the remaining patent life of approximately 16 years.

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DRAFT 8 November 8, 2004

The following unaudited pro forma financial information presents the combined results of operations of the Company and the Safety Huber Needle business for the nine months ended September 30, 2004 as if the acquisition had occurred on January 1, 2004 and the three and nine months ended September 30, 2003, as if the acquisition had occurred on January 1, 2003.

UNAUDITED PRO FORMA STATEMENT OF OPERATIONS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2004

Historical

The Med-Design
Corporation

Safety
Huber Needle
Business

Pro Forma
Adjustments

Pro
Forma