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AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON APRIL 1, 2002
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[x] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from________to_________
COMMISSION FILE NUMBER 0-19841
i-STAT CORPORATION
(Exact name of Registrant as specified in its charter)
DELAWARE 22-2542664
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
104 WINDSOR CENTER DRIVE, EAST WINDSOR, NJ 08520
(Address of principal executive offices) (Zip code)
(609) 443-9300
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, PAR VALUE $0.15 PER SHARE
SERIES A PREFERRED STOCK PURCHASE RIGHTS
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____X______ No_________
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Number of shares of Common Stock outstanding as of March 1, 2002: 20,079,216
The aggregate market value of the Registrant's voting stock held by
non-affiliates of the Registrant as of March 1, 2002 is approximately
$69,235,147. Shares of voting stock held by each executive officer and director
and by each person who owns 5% or more of any voting stock have been excluded in
that such persons may be deemed affiliates of the Registrant. This determination
of affiliate status is not necessarily a conclusive determination for other
purposes.
DOCUMENTS INCORPORATED BY REFERENCE
(To The Extent Indicated Herein)
Part III incorporates certain information by reference to the Registrant's Proxy
Statement for its 2002 Annual Meeting of Stockholders.
Table of Contents
ITEM PAGE
- ---- ----
PART I
1. Business.............................................................................................1-11
2. Properties.............................................................................................11
3. Legal Proceedings......................................................................................11
4. Submission of Matters to a Vote of Security Holders....................................................12
PART II
5. Market for the Registrant's Common Equity and
Related Stockholder Matters.........................................................................14-15
6. Selected Consolidated Financial Data...................................................................16
7. Management's Discussion and Analysis of Financial Condition
and Results of Operations...........................................................................17-26
7(a). Quantitative and Qualitative Disclosures about Market Risk.............................................27
8. Financial Statements and Supplementary Data
(a) Financial Statements...............................................................................27
(b) Selected Quarterly Financial Data..................................................................53
9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure....................................................................27
PART III
10. Directors and Executive Officers of the Registrant.................................................13, 27
11. Executive Compensation.................................................................................27
12. Security Ownership of Certain Beneficial Owners
and Management.........................................................................................27
13. Certain Relationships and Related Transactions.........................................................27
PART IV
14. Exhibits, Financial Statement Schedules and
Reports on Form 8-K.................................................................................28-55
SPECIAL NOTE ON FORWARD-LOOKING STATEMENTS
CERTAIN STATEMENTS IN THIS ANNUAL REPORT ON FORM 10-K, UNDER THE SECTIONS
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS," "BUSINESS" AND ELSEWHERE RELATE TO FUTURE EVENTS AND EXPECTATIONS
AND AS SUCH CONSTITUTE "FORWARD-LOOKING STATEMENTS," WITHIN THE MEANING OF THE
PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. THE WORDS "BELIEVES,"
"ANTICIPATES," "PLANS," "EXPECTS," AND SIMILAR EXPRESSIONS IN THIS REPORT ARE
INTENDED TO IDENTIFY FORWARD-LOOKING STATEMENTS. SUCH FORWARD-LOOKING STATEMENTS
INVOLVE KNOWN AND UNKNOWN RISKS, UNCERTAINTIES, AND OTHER FACTORS WHICH MAY
CAUSE THE ACTUAL RESULTS, PERFORMANCE OR ACHIEVEMENTS OF THE COMPANY TO BE
MATERIALLY DIFFERENT FROM ANY FUTURE RESULTS, PERFORMANCE OR ACHIEVEMENTS
EXPRESSED OR IMPLIED BY SUCH FORWARD-LOOKING STATEMENTS AND TO VARY
SIGNIFICANTLY FROM REPORTING PERIOD TO REPORTING PERIOD. SUCH FACTORS INCLUDE,
AMONG OTHERS, THOSE LISTED IN "FACTORS THAT MAY AFFECT FUTURE RESULTS" UNDER
ITEM 1 BELOW AND OTHER FACTORS DETAILED FROM TIME TO TIME IN THE COMPANY'S OTHER
FILINGS WITH THE SECURITIES AND EXCHANGE COMMISSION.
Part 1
ITEM 1. BUSINESS
i-STAT Corporation ("i-STAT" or the "Company"), which was incorporated in
Delaware in 1983, develops, manufactures and markets medical diagnostic products
for blood analysis that provide health care professionals with immediate and
accurate critical diagnostic information at the point of patient care. Its
principal offices are located in East Windsor, New Jersey. The Company has one
subsidiary, i-STAT Canada Limited ("i-STAT Canada"), which is wholly-owned and
located in Kanata, Ontario. (All references in this Report to the Company
include i-STAT Canada unless otherwise specified.)
The Company's current products, known as the i-STAT(R) System, consist of
portable, hand-held analyzers and single-use, disposable cartridges, each of
which simultaneously performs different combinations of commonly ordered blood
tests in approximately two minutes. The i-STAT System uses a simple, one-step
procedure, the results of which can be easily linked by infrared transmission to
a health care provider's information system. As of December 31, 2001, i-STAT had
one primary customer, Abbott Laboratories ("Abbott"). The Company intends for
the i-STAT System to become the standard of care for blood analysis at the
patient's side, enabling rapid clinical intervention, improved patient outcomes,
and lower operational costs.
The i-STAT System provides accurate and reliable blood test results more quickly
and more simply than the most advanced clinical laboratory equipment. Blood
analysis performed at the point of patient care with the i-STAT System permits
more timely diagnosis and therapeutic intervention and reduces the occurrence of
common testing errors. The Company believes these attributes of the i-STAT
System result in improved patient care and lower overall health care costs. In
addition, the Company believes that the i-STAT System reduces or eliminates the
need for expensive capital equipment, specialized labor force, equipment
maintenance and space required for traditional testing laboratories.
The original i-STAT System, introduced in September 1992, was capable of
performing six of the most commonly ordered blood tests, which are tests for
sodium, potassium, chloride, glucose, urea nitrogen and hematocrit. In 1994, the
Company expanded the testing capabilities of the i-STAT System through the
introduction of cartridges that perform tests for pH, ionized calcium and
bicarbonate. In 1995, the Company introduced cartridges that measure arterial
blood gases (pH, PCO2 and PO2). In 1998, the Company added a creatinine test. In
1999, the Company added a lactate test, and in 2000, the Company added a
Celite(R) ACT (activated clotting time) test. The Company believes that 95% of
the approximately 200 million blood tests (electrolyte and blood gas) performed
on a "stat" basis in the United States each year now can be performed using the
i-STAT System. The Company believes that because the i-STAT System can now
perform the vast majority of the tests required on a "stat" basis, it is
substantially more attractive as a total replacement for hospital "stat"
laboratories. The Company has additional tests under development (see "Research
and Development").
In order to accelerate and increase sales of the i-STAT System, in September
1998 the Company entered into a long-term global product marketing and product
development alliance with Abbott. During 2001, approximately 84% of the
Company's total net revenues were derived from Abbott. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations".
1
I-STAT SYSTEM COMPONENTS
The i-STAT System is composed of a battery-operated, rechargeable analyzer,
which is a hand-held, portable instrument, and various single-use, disposable
cartridges, which contain the electrochemical biosensors necessary to perform
the desired blood tests. The Company's single-use, disposable cartridges, which
are less than two square inches in size, currently allow the i-STAT System to
perform blood tests for sodium, potassium, chloride, glucose, creatinine, urea
nitrogen, hematocrit, ionized calcium, lactate, Celite(R) ACT (activated
clotting time), arterial blood gases, (pH, PCO2 and PO2), and bicarbonate and to
derive certain other values, such as total carbon dioxide, base excess, anion
gap, hemoglobin and O2 saturation, by calculation from the tests performed. The
Company currently sells the following single-use, disposable cartridges that are
configured to perform the following commonly ordered blood measurements:
CARTRIDGE: TESTS PERFORMED
o ACT: Celite(R)ACT
o G: Glucose
o CREA: Creatinine
o E3+: Sodium, Potassium, Hematocrit, Hemoglobin*
o G3+: pH, PCO2, PO2, Bicarbonate*, Total Carbon Dioxide*,
Base Excess*, O2 Saturation*
o EC4+: Sodium, Potassium, Glucose, Hematocrit, Hemoglobin*
o CG4+: pH, PCO2, PO2, Lactate, Bicarbonate*, Total Carbon Dioxide*,
Base Excess*, O2 Saturation*
o 6+: Sodium, Potassium, Chloride, Urea Nitrogen, Glucose,
Hematocrit, Hemoglobin*
o EG6+: Sodium, Potassium, pH, PCO2, PO2, Hematocrit,
Bicarbonate*, Total Carbon Dioxide*, Base Excess*, O2
Saturation*, Hemoglobin*
o EC6+: Sodium, Potassium, Glucose, Ionized Calcium, pH, Hematocrit,
Hemoglobin*
o EG7+: Sodium, Potassium, Ionized Calcium, pH, PCO2, PO2, Hematocrit,
Bicarbonate*, Total Carbon Dioxide*, Base Excess*, O2
Saturation*, Hemoglobin*
o EC8+: Sodium, Potassium, Chloride, Urea Nitrogen, Glucose, pH,
PCO2, Hematocrit, Bicarbonate*, Total Carbon Dioxide*, Base
Excess*, Anion Gap*, Hemoglobin*
o CG8+: pH, PCO2, PO2, Sodium, Potassium, Hematocrit, Ionized
Calcium, Glucose, Bicarbonate*, Total Carbon Dioxide*,
Base Excess*, O2 Saturation*, Hemoglobin*
* Denotes calculated results
The i-STAT System also includes peripheral components that enable the results of
tests to be transmitted by infrared means to both a proprietary information
system for managing the user's point-of-care testing program and to the user's
information systems for billing and archiving. In the fourth quarter of 2000,
the Company introduced the i-STAT(R)1 Analyzer. The i-STAT 1 Analyzer, which
weighs approximately 22 ounces, permits a customer to run all i-STAT cartridges
as well as Abbott MediSense(R) glucose strips on one integrated hand-held
device. The i-STAT 1 Analyzer also incorporates a number of enhancements,
including a bar code reader, an improved user interface, and an enhanced data
management system which, in conjunction with a central data management system
developed by the Company, enhances the customers' ability to centrally manage a
widely distributed point-of-care testing program. The i-STAT 1 Analyzer provides
a visual readout of results, offers the ability to print results via infrared
means and it can store up to 5,000 patient records.
i-STAT believes its proprietary thin-film, biosensor technology provides the
Company with significant competitive advantages over other technologies. As a
result of the Company's proprietary know-how and the attributes of its thin-film
biosensors, the i-STAT System produces accurate results in approximately two
minutes in an easy, single step procedure, is small enough to be hand-held and
to be carried from patient to patient, operates with only two to three drops of
blood and is virtually maintenance free. The Company's thin-film technology uses
micro-fabrication techniques that permit dimensionally small product features
resulting in faster reactions than larger configurations such as those used in
thick-film technology. Thin-film technology permits i-STAT's biosensors to
"wet-up" quickly with small amounts of calibrant and blood samples, thereby
enabling the Company to package its biosensors in a dry state while retaining
the ability to produce results in approximately two minutes. The Company
believes that packaging its biosensors in a dry state facilitates extended shelf
life and simplifies the calibration process. The Company's disposable cartridges
have a shelf life ranging from a minimum of six months to a maximum of twelve
months. In addition, the Company's thin-film biosensor technology permits the
cartridges in the i-STAT System to be configured to perform multiple tests and
combinations of tests. The Company believes that products based on other
existing technologies cannot achieve performance characteristics or product
design features of the type described above.
2
MARKETING AND DISTRIBUTION
The i-STAT System is currently marketed primarily to the critical care
departments of hospitals in the United States, where the highest volume of blood
tests are performed on a "stat" basis. The i-STAT System is also marketed to
hospitals in Japan, Europe, Canada, South America, Mexico, Latin America, South
Africa, Hong Kong, People's Republic of China and other countries in Asia. Prior
to November 1998, the Company marketed and distributed the i-STAT System in the
United States and Canada principally through its own direct sales and marketing
organization, in Europe through Hewlett-Packard Company ("HP"), in Japan through
Japanese marketing partners and in South America and Asia through selected
distribution channels. Since November 1998, Abbott has become, subject to the
then existing rights of the Company's other international distributors, the
exclusive worldwide distributor of the Company's hand-held blood analyzer
products (including cartridges) and any new products the Company may develop for
use in the professionally attended human healthcare delivery market. Revenues
from Abbott represented approximately 84% of the Company's total net revenues
for 2001. See "Management's Discussion and Analysis of Financial Condition and
Results of Operations."
In August 1988, the Company entered into product commercialization and
distribution agreements with JCR Pharmaceuticals Inc. ("JCR") and FUSO
Pharmaceutical Industries Ltd. ("FUSO"), two Japanese pharmaceutical and medical
device companies. Pursuant to such agreements, i-STAT granted product
distribution rights covering Japan, South Korea and Taiwan for an initial
exclusive period, which expired, and a non-exclusive period from December 1997
to December 2002, which covers only Japan. Under certain circumstances, the
Company has the right to extend FUSO's non-exclusive rights in Japan for a
one-year period. The Company understands that JCR has assigned to FUSO all
distribution rights under these agreements. Sales to FUSO represented
approximately 10% of the Company's total net revenues for 2001.
The Company also markets its products to veterinarians' offices in the United
States and selected other countries through a distribution agreement with Heska
Corporation ("Heska"), which was signed in February 1999. The contract
automatically renews each calendar year unless the Company provides notice nine
months prior to renewal. Sales to Heska represented approximately 6% of the
Company's total net revenues for 2001.
Although the Company has marketing and distribution agreements with several
third parties, the Company still performs many traditional sales, marketing and
distribution activities. For example, the Company distributes its products
within the United States by shipping cartridges, analyzers and other peripheral
equipment directly to the end-user hospitals. The Company maintains a technical
services staff, which handles product-related technical matters directly with
end-users, and a team of implementation coordinators who install the i-STAT
System and train end-users. And, the Company employs several individuals who act
as sales consultants by working with Abbott to help sell its products to
customers and by servicing existing accounts.
See "Government Regulation" for a description of the regulatory framework
impacting the marketing of the Company's products in certain geographical areas
and alternate site markets.
COMPETITION
The Company competes principally with manufacturers of traditional blood
analysis equipment used by clinical laboratories. Historically, most clinical
testing has been performed in the hospital or in a commercial laboratory
setting. These clinical laboratories provide analyses similar to those conducted
by the i-STAT System and have traditionally been effective at processing large
panels of tests with the use of skilled technicians and complex equipment. While
i-STAT cannot provide the same range of tests, the Company believes that its
products offer several advantages over clinical laboratories, including lower
costs, faster results and reduced opportunity for error. In addition, the i-STAT
System's testing capabilities currently are sufficiently broad to enable larger
health care facilities to close "stat" laboratories and replace them wholly with
the i-STAT System. Other companies may introduce products performing the same or
similar functions as the i-STAT System. In such case, the Company may not be
able to compete effectively with these products, or these products may render
the Company's products obsolete. The Company is aware of products that have been
developed and are being marketed for point-of-care analysis of some or all of
the analytes measured by the i-STAT System. The Company believes that these
products are more difficult to use, less efficient and in general test for fewer
analytes than the i-STAT System.
To the extent that the i-STAT System achieves penetration into non-hospital
markets such as veterinarians' offices, doctors' offices, nursing homes and
outpatient clinics, it may face competition from commercial laboratories and
from established pharmaceutical and medical device companies which have
developed multitest blood analyzers specifically for use in these markets. The
Company believes that its products are capable of competing favorably with these
other products on the basis of ease-of-use, speed, the ability to conduct tests
without a skilled technician, variety of test menu, cost-effectiveness and
accuracy of results.
3
MANUFACTURING
The Company's products are manufactured by the Company with various components
being supplied by outside vendors. The Company manufactures its biosensors in
order to protect the proprietary nature of the Company's products and to control
the development and enhancement of its proprietary technology. Other cartridge
components are manufactured to the Company's specifications by outside vendors.
Final assembly, quality testing and inspection of cartridges are performed by
the Company. All components of the analyzers as well as peripheral components,
such as the infrared data communication link, are either custom fabricated by
outside suppliers or purchased by the Company from outside sources.
The Company's cartridge manufacturing and assembly is conducted in two adjoining
facilities totaling 96,856 square feet located in Kanata, Ontario, Canada. These
leased facilities include 18,925 square feet of Class 1,000 and Class 10,000
cleanrooms. In mid-1998, the Company commenced the transfer of its New Jersey
cartridge assembly and inspection operations to the Kanata facility and
completed that transfer in April 1999. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations". The Company is currently
manufacturing its cartridges at a rate of over 12,000,000 per year, utilizing
multiple shifts of labor and partially utilizing four cartridge assembly lines.
The Company could have the capacity to manufacture over 40,000,000 cartridges
annually at full factory utilization using the current generation of its
biosensor chips and taking into account planned yield and productivity
improvements and the addition of three cartridge assembly lines within the
existing facilities. The Company manufactures and assembles its portable,
hand-held analyzers and other peripheral equipment at its principal offices in
East Windsor, New Jersey utilizing a single shift of labor.
The Company maintains a comprehensive quality assurance and quality control
program, which includes complete documentation of all material specifications,
operating procedures, maintenance and equipment calibration procedures, training
programs and quality control test methods. To control the quality of its
finished products, the Company utilizes statistical process control systems
during the manufacturing process and comprehensive performance testing of
finished goods. The Company believes that it operates in accordance with all
applicable regulations including the Food and Drug Administration (the "FDA")
Good Manufacturing Practices. The Company has received ISO 9001 and EN 46001
certification of its Quality Assurance System. ISO 9001 comprises a set of
standards covering the quality of design, development, production, installation,
and servicing of products and systems. EN 46001 is the European quality standard
for the manufacture of medical devices. Compliance with these standards is
increasingly required by European buyers of manufactured products.
The majority of the raw materials and purchased components used to manufacture
the Company's products are readily available from more than one source. The
Company is also developing alternative sources for some of the raw materials it
presently obtains from a single source. However, some of the components of the
i-STAT System are custom manufactured by a limited number of outside vendors.
RESEARCH AND DEVELOPMENT
From commencement of the Company's operations in 1984 until 1992, most of its
financial resources were dedicated to the development of the core technology
that has resulted in the i-STAT System. The Company continues to engage in
research and development in order to improve its existing products and develop
new products based on the i-STAT System technology. In the fourth quarter of
1999, the Company commenced shipments of its new lactate test incorporated into
a cartridge that also tests for blood gases. In March 2000, the Company
commenced shipments of its first coagulation test, the Celite(R) ACT (activated
clotting time) cartridge. In 2000, the Company also introduced a cartridge that
combines its glucose test onto its combination blood gas/electrolyte cartridge
and an expanded measurement range for its glucose measurements. In the fourth
quarter of 2000, the Company introduced the i-STAT 1 Analyzer, which combines
the measurement capabilities of the i-STAT System with the measurement
capabilities of an Abbott point-of-care glucose testing system and incorporates
additional advanced features along with a range of peripheral components
including an advanced data management system.
The Company is currently developing three additional tests for the measurement
of coagulation: kaolin ACT, prothrombin time ("PT") and activated partial
thromboplastin time ("aPTT"). In February 2002, the Company submitted a 510(K)
application for the PT coagulation test. The Company expects to submit a 510(K)
application for the kaolin ACT test during 2002. Assuming timely regulatory
approvals, the Company expects to begin commercial introduction of the kaolin
ACT and PT tests during the second half of 2002. The Company also is conducting
research and development on tests for markers of cardiac damage based upon
immunoassay techniques.
In connection with their strategic alliance, the Company and Abbott entered into
a Research Agreement pursuant to which certain of the Company's research and
development may be funded by Abbott. Abbott is not currently funding any of the
Company's research and development programs. See "Management's Discussion and
Analysis of Financial
4
Condition and Results of Operations" for a discussion of research and
development costs during 1999, 2000 and 2001.
PATENTS AND PROPRIETARY RIGHTS
i-STAT pursues a policy of seeking patent protection, both in the United States
and abroad, for each of the areas of invention embodied in the i-STAT System.
The Company holds 32 United States utility patents related to the i-STAT System,
the earliest of which was issued on September 5, 1989, which on average have
over 11 years remaining on their patent terms, and two United States design
patents related to the i-STAT System. These patents relate to the unique
functional features and fabrication of the electrode technology contained in the
i-STAT cartridges, operation of the cartridges, the technologies used in the
i-STAT analyzers, in-house quality control instrumentation and matters related
to other potential uses of the i-STAT System. The Company has five pending
United States utility patent applications. The Company has received patents in
Japan, Europe, Canada and Taiwan corresponding to certain of the patents issued
in the United States and has filed or plans to file for patent protection in
certain countries which represent a significant segment of the intended market
for its products. There can be no assurance that additional patents for i-STAT's
products will be obtained, or that issued patents will provide substantial
protection or be of commercial benefit to i-STAT.
In addition to its patent position, i-STAT also relies upon trade secrets,
know-how and continuing technological innovation to maintain its competitive
advantages. The Company maintains a policy requiring all employees and
consultants to sign confidentiality agreements under which they agree not to use
or disclose i-STAT's confidential information as long as that information
remains proprietary or, in some cases, for fixed time periods. There can be no
assurance, however, that such proprietary technology will not be independently
developed or that secrecy will not be breached. Under Company policy, all
technical employees are required to assign to the Company all rights to any
inventions made during their employment or relating to the Company's activities
and not to engage in activities similar to the Company's for any other person or
entity during the term of their employment or for at least six months
thereafter.
GOVERNMENT REGULATION
The i-STAT System comprises several In Vitro Diagnostic (IVD) medical devices
subject to the provisions of the Food, Drug and Cosmetic Act (the "FDC Act") and
implementing regulations. The 1976 Medical Device Amendments and the Safe
Medical Device Amendments of 1990 to the FDC Act provide comprehensive
regulation of all stages of development, manufacture, distribution and promotion
of medical devices. There are two regulatory routes by which to bring a medical
diagnostic device to market: the Pre-market Approval Application ("PMA") and the
Pre-market Notification ("510(k) Notification"). The PMA requires a
comprehensive review of specified pre-clinical and clinical data, prior to an
FDA finding that a device is safe and effective for its designated indicated
use. The 510(k) Notification permits marketing upon a demonstration to the FDA's
satisfaction that a device is substantially equivalent to a device already in
commercial distribution. The clearance process can require extended periods of
testing, both prior to and after submissions are made. Review of submissions can
take protracted periods of time and involve significant resource expenditure.
There is no certainty that the FDA will clear any given device for marketing.
All of the Company's current IVD devices have received clearance to market for
use by health care professionals pursuant to 510(k) Notifications. Any change or
modification of an analyzer or a cartridge that could significantly affect the
safety or efficacy of the device would require the filing of a new 510(k)
Notification, and the Company would not be able to market the i-STAT System as
modified until FDA clearance is received. The FDA may not concur in any such
modification, and any such concurrence may be subject to delay and require
significant resources to provide the FDA with needed data.
FDA regulations classify medical devices into three classes that determine the
degree of regulatory control to which the manufacturer of the device is subject.
The FDA classified the i-STAT System (as currently configured) in Class II,
meaning that the device may at some time in the future also have to comply with
mandatory performance standards or other "special controls" if it is to remain
in commercial distribution. The Company cannot predict whether such additional
standards or controls will ever be enacted, nor what impact the enactment of
such standards or controls might have on its ability to produce and sell its
products. Such standards or controls may relate to any aspect of product
performance that must be controlled to minimize any risk associated with use of
the device. All devices, including those manufactured in Canada, must be
manufactured in accordance with Good Manufacturing Practices specified in
implementing regulations under the FDC Act. These practices control every phase
of production from the design control and incoming receipt of raw materials,
components and subassemblies to the labeling, tracing of consignees after
distribution and follow-up and reporting of complaint information.
The FDA has the authority to conduct unannounced inspections of all facilities
where devices are manufactured or assembled, and, if the investigator observes
conditions that might be violations, those conditions must be corrected or
5
satisfactorily explained, or the manufacturer could face regulatory action that
might include physical removal of the product from the marketplace. The
Company's New Jersey facilities have been inspected on four occasions by the FDA
(most recently in September 1999) and, as of the date of those inspections, the
inspectors reported that there were no observed conditions resulting in
violations. The FDA also regulates labeling and advertising for devices
restricted to use by health care professionals, such as the i-STAT System.
Recently, the FDA has pursued a more rigorous enforcement program to ensure that
regulated firms, such as the Company, comply with the provisions of the FDC Act.
A firm not in compliance may face a variety of regulatory actions, ranging from
warning letters, product detention, device alerts and mandatory recalls or field
corrections, to seizures, injunction actions, civil penalties and criminal
prosecutions of the firm or responsible individuals, employees, officers or
directors. The commencement of any action against the Company of the type
described above could seriously impact the Company's ability to conduct
business.
The Company's products are also affected by the Clinical Laboratory Improvement
Act of 1988 ("CLIA"). This law is intended to assure the quality and reliability
of all medical testing in the United States regardless of where tests are
performed. The regulations require laboratories performing blood chemistry tests
to meet specified standards in the areas of personnel qualification,
administration, participation in proficiency testing, patient test management,
quality control, quality assurance and inspections. The regulations have
established three levels of regulatory control based on test complexity
"waived," "moderate complexity" and "high complexity." The Company's products
have been designated as "moderate complexity." Subsequent categorization of the
Company's products as "high complexity" tests could hinder the Company's ability
to market its products. Expansion into alternate site markets, particularly
doctors' offices, may be limited by the regulatory burden imposed by the
classification of the i-STAT System as a moderately complex test under CLIA.
There can be no assurance that CLIA regulations or future administrative
interpretations of CLIA will not have an adverse impact on the Company.
In addition, certain aspects of the Health Insurance Portability and
Accountability Act of 1996 ("HIPAA") may affect how the Company handles, stores
and transmits patient data, and will likely require additional electronic
security and privacy measures to be put in place. At this time, the Company has
not yet determined the cost of any additional measures required under HIPAA.
These new regulatory requirements may adversely impact the Company's ability to
do business.
The Company and its products are also subject to a variety of state laws and
regulations in those states where its products are marketed, sold or used.
Certain states currently restrict or control, to varying degrees, the use of
medical devices such as the i-STAT System outside the clinical laboratory by
persons other than doctors or authorized technologists. These restrictions have
hindered the marketing of the Company's products in these locations. The Company
is seeking interpretations, rulings or changes in relevant laws and regulations
that will remove or ameliorate these restrictions. Although the Company has been
successful in gaining favorable rulings and changes in certain relevant laws and
regulations, there can be no assurance that the Company will be successful in
its efforts to remove or ameliorate all these legal restrictions.
The i-STAT System is currently distributed outside the United States in Japan,
Europe, Canada, South America and Asia and the Company expects the i-STAT System
to be distributed in other foreign countries under the terms of the Distribution
Agreement with Abbott. The i-STAT System is and will be subject to a wide
variety of laws and regulations in these markets, ranging from simple product
registration in certain countries to complex clearance and production controls
in others. Speaking generally, the extent and complexity of regulation of
medical devices is increasing worldwide, with regulation in some countries
already as comprehensive as that in the United States. The Company anticipates
that this trend will continue and that the cost and time required to obtain
approval to market in any given country will increase, with no assurance that
such approval will be given.
Beginning on December 7, 2003 all devices sold in the countries of the European
Union ("EU") will have to be compliant with the EU In Vitro Device Directive.
The Company currently is working to ensure that it will be in compliance with
this directive.
Because some of the Company's production facilities currently are located in
Canada, sales of the Company's products in the United States are subject to U.S.
laws regulating international trade practices. The Company does not believe that
these laws will materially and adversely affect its marketing strategy or
operations generally, although such laws are subject to change and the Company
cannot accurately predict the impact on the Company of any future changes.
Federal, state and foreign regulations regarding the sale of medical devices are
subject to change. The Company cannot predict what impact, if any, such changes
may have on its business.
6
REIMBURSEMENT
Third party payors can indirectly affect the pricing or the relative
attractiveness of the Company's products by regulating the maximum amount of
reimbursement provided for blood testing services. If the reimbursement amounts
for blood testing services are decreased in the future, it may decrease the
amount that physicians and hospitals are able to charge patients for such
services and consequently the price the Company or its distributors can charge
for its products. In addition, in Japan, the price the Company receives for
cartridges from one of its distribution partners is directly based upon the
local government reimbursement amount for each particular test and will thus
vary accordingly.
EMPLOYEES
As of December 31, 2001, the Company employed 682 persons on a full-time basis;
546 persons were employed in Canada and 136 persons were employed in the United
States, and there were 545 manufacturing employees, 64 employees in research and
development, 49 sales and marketing employees (including sales consultants,
implementation coordinators, and technical services, clinical affairs,
marketing, data management, international marketing, and business development
personnel) and 24 general and administrative employees (including finance,
information technology, regulatory affairs, quality assurance, human resources
and administration personnel). In addition, as of December 31, 2001, the Company
employed 26 persons on a part-time, on-call or temporary basis. There are no
i-STAT employees covered by a collective bargaining agreement. i-STAT believes
that its relationship with its employees is good and that its success is
dependent on, among other things, achieving and retaining scientific and
technological superiority and being capably managed.
INSURANCE
The Company maintains a product liability insurance policy in the amount of $2
million and excess liability insurance policies in the aggregate amount of $25
million for all occurrences during a calendar year. If the Company does not or
cannot maintain its existing or comparable product liability insurance, its
ability to market its products may be significantly impaired. The amount and
scope of any insurance coverage upon which the Company relies may not be
adequate to protect the Company in the event a successful product liability
claim is made against the Company. No product liability insurance claim has ever
been made against the Company. The Company also maintains general liability and
business interruption liability insurance policies.
The Company maintains terrorism insurance coverage for its New Jersey facility.
The Company is exploring obtaining such coverage for its facility in Kanata,
Ontario, including assessing whether the costs of such coverage are commensurate
with the risks to be covered.
BACKLOG
Customers generally place orders on an as needed basis and the Company ships
against those orders. Consequently, backlog is not a material factor in the
Company's operations.
SEASONALITY
The Company's operating results may fluctuate from quarter to quarter due to
many factors. Sales may be slower in the traditional vacation months, may be
accelerated in the fourth calendar quarter by customers whose annual budgets are
about to expire (especially affecting analyzer purchases), may be distorted by
unusually large analyzer shipments from time to time, or may be affected by the
timing of customer cartridge ordering patterns. (For example, a customer might
order two quarterly cartridge shipments in one quarter, perhaps at the beginning
and the end of the quarter, and none in the next quarter.)
GEOGRAPHIC SEGMENT DATA
Information regarding geographic segment data is provided in Note 16 to Notes to
Consolidated Financial Statements.
7
FACTORS THAT MAY AFFECT FUTURE RESULTS
WE ARE NOT PROFITABLE; WE MUST INCREASE SALES OF OUR PRODUCTS TO BE PROFITABLE.
We were formed in 1983, and we have not yet made an operating profit. We cannot
guarantee that we will ever be profitable. Furthermore, we may incur additional
losses. We can give no assurances that we will be able to market our products at
prices and in quantities that will generate a profit. We can give no assurances
that we can avoid potential delays and expenses in developing new products,
problems with production and marketing or other unexpected difficulties.
OUR SUCCESS DEPENDS ON GREATER COMMERCIAL ACCEPTANCE; WE ARE NOT ABLE TO PREDICT
FUTURE COMMERCIAL ACCEPTANCE. Our future depends on the success of the i-STAT
System, which depends primarily on its acceptance by an increasing number of
hospitals as a reliable, accurate and cost-effective replacement for traditional
blood measurement methods. The i-STAT System is known as a "point-of-care" blood
testing device, which is a relatively new way to analyze blood. Currently,
central and "stat" laboratories within hospitals or independent commercial
laboratories perform critical or "stat" blood testing. Although the market is
increasingly accepting point-of-care blood testing, most acute care hospitals
already use expensive blood testing instruments in their central and "stat"
laboratories and many are reluctant to change their current procedures for
performing blood analysis. In addition, the i-STAT System currently does not
measure a large enough number or range of analytes for some hospitals to
consider broadly adopting it. Although we continue to develop additional tests
to respond to hospitals' needs, we cannot guarantee that we will be able to
develop enough additional tests quickly enough or in a way that is
cost-effective or at all.
WE RELY ON ABBOTT LABORATORIES FOR THE MARKETING AND SALES OF OUR PRODUCTS. In
September 1998, the Company and Abbott signed agreements which provide for a
long-term sales, marketing and research alliance. Under our product distribution
agreement with Abbott, Abbott became the exclusive distributor of the i-STAT
System in most parts of the world. As a result of this alliance, our revenues
are significantly affected by sales made through Abbott, which accounted for
approximately 84% of our total net revenues in 2001. While our product
distribution agreement with Abbott remains in effect, our profitability will
depend heavily upon Abbott's success in selling our products. Moreover, our
agreement with Abbott gives Abbott sole discretion to set the prices for our
products, which can have a big effect on our revenues, margins and profits. Our
product distribution agreement with Abbott may be terminated by either party at
the end of 2003. Currently, we are evaluating whether continuation of this
agreement after 2003 is in the best interest of our business. If this agreement
is terminated we will also resume primary responsibility for marketing and
selling our products. This entails substantial risk and expense. For example, we
will have to hire and train additional marketing and sales personnel and/or
enter into new product distribution agreements with other parties. We cannot
guarantee that we would be successful in marketing and selling our products
without the benefit of a strong strategic partner, or that we would be able to
find such a partner if we felt this best served our interests. In addition, if
we elect not to continue the agreement after 2003, we will be obligated to pay
Abbott a substantial termination fee and royalties based on our product sales
for a period after the agreement's end. These amounts will materially impact our
cash flows and results of operations. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations - Alliance with Abbott
Laboratories."
OUR MANUFACTURING IS SUBJECT TO CERTAIN RISKS. We have faced unexpected
technical problems in trying to transfer product ideas from the development
stage to the manufacturing stage. Our manufacturing operations use highly
technical processes involving unique, proprietary biosensor microfabrication
techniques which our manufacturing personnel must continuously monitor and
update, especially as we develop more products. These technical problems could
recur, could result (and in the past they have resulted) in a high level of
product scrap and could delay our plans for new product releases, all with
attendant consequences to our financial results. Also, we may not be able to
predict or satisfy changing customer demands for certain products and it could
take longer than expected for us to change the manufacturing processes to
respond to these demands. As a result, we may not have sufficient inventory to
meet customer demands, which could affect our relationships with customers, or
we may have too much product inventory at times, which hurts our profitability
and negatively affects our working capital. In order to be profitable, we must
manufacture greater quantities of products than we have to date and at the same
time consistently deliver high production efficiencies. We cannot guarantee that
we will be able to do so. Some of the components of the i-STAT System are
custom-made by only a few outside vendors. We may not be able to meet the demand
for our products if one or more of these vendors could not supply us with the
needed components or components which meet our specifications. We have
experienced manufacturing problems because of vendor or component issues. Our
Kanata, Ontario facility is the only cartridge manufacturing facility, and our
East Windsor, New Jersey facility is the only facility where our hand-held
analyzers are manufactured. If either facility were damaged or closed due to
fire or other causes, it would very negatively impact our business.
8
WE MAY NEED ADDITIONAL FUNDING IN THE FUTURE AND THESE FUNDS MAY NOT BE
AVAILABLE TO US. We expect our existing funds to be sufficient to meet our
obligations and our liquidity and capital requirements for the foreseeable
future. However, numerous factors may change this expectation, including
manufacturing difficulties, arbitration and litigation outcomes, and the
continuation or termination of the Abbott alliance. In the long-term, it is
possible that we will need additional financing before our operations are
profitable enough to enable us to fund additional product development and
increase manufacturing capacity to meet anticipated product demand. We have no
commitments for any additional financing and we cannot assure investors that any
such commitment could be obtained on favorable terms, if at all. Affiliates of
Cerberus Capital Management, L.P. (collectively, "Cerberus"), which hold all of
the Company's Series D Redeemable Convertible Preferred Stock (the "Series D
Stock"), have a right of first refusal with respect to certain future
financings. This right of first refusal may inhibit our ability to obtain needed
financing from third parties or negatively affect the financing terms available
(see "Management's Discussion and Analysis of Financial Condition and Results of
Operations"). Any additional equity financing may cause dilution of our current
stockholders, and any debt financing may require restrictions on our right to
declare dividends or on other aspects of our business.
WE MAY NOT BE SUCCESSFUL IN DEFENDING OUR PROPRIETARY RIGHTS OR PROPRIETARY
RIGHTS CLAIMS MADE BY OTHERS. Our commercial success depends partly upon our
trade secrets, know-how, trademarks, patents and other proprietary rights. We
actively seek patent protection for our proprietary technology in the United
States and internationally, but we cannot guarantee that third parties will not
challenge our patents or that they will not be invalidated or designed around or
that they will provide a commercially significant level of protection. We cannot
guarantee that any pending patent applications or applications filed in the
future will result in a patent being issued to us. Furthermore, once issued, a
patent is not always valid or enforceable, and a patent holder may still
infringe the patent rights of others. If our key patents are invalidated or
expire, this could lead to increased competition and would adversely affect our
business. In addition, we may be found to have infringed the proprietary rights
of others or may be required to respond to patent infringement claims and may
have to litigate to determine the priority of inventions. We settled the patent
infringement lawsuit brought against us by Nova Biomedical Corporation, but
agreed to continue to pay royalties to it for as long as our product continues
to use the technology covered by its patent. We believe that our products no
longer utilize the covered technology; however, Nova Biomedical Corporation
disagrees and has filed for an arbitration in order to determine whether we
continue to owe such royalties. We may not be successful in that arbitration.
Litigation may be necessary to enforce our patents, trade secrets or know-how,
or to determine the enforceability, scope and validity of the proprietary rights
of others. The defense or prosecution of intellectual property proceedings is
costly and a diversion of our management resources. A determination against us
could be very costly and/or require us to seek licenses from third parties,
which may not be available on commercially reasonable terms, if at all.
Furthermore, we can provide no assurances that we will be able to maintain the
confidentiality of our trade secrets or know-how or that others may not develop
or acquire trade secrets or know-how that are similar to ours.
WE COMPETE AGAINST LARGER, STRONGER ENTITIES THAT SELL MORE ESTABLISHED BLOOD
ANALYSIS PRODUCTS. Our success depends on our ability to establish and maintain
a competitive position in the blood analysis market. We expect that
manufacturers of conventional blood analysis products used in clinical
laboratories will compete intensely to maintain their markets and revenues. Some
of these manufacturers currently offer products that many perceive to be less
expensive to operate and which include a broader range of tests than the
products we offer and expect to offer. We can provide no assurances that
competitive pressures will not result in price reductions of our products, which
could adversely affect our profitability. In addition, health care providers may
choose to maintain their current method of blood testing. We also face
competition from manufacturers of other blood analyzers intended for
point-of-care use. Many of our competitors have substantially greater capital
resources, research and development staffs and facilities than ours. Our
products may become obsolete or non-competitive if rapid technological changes
or developments occur. We need to continue to make substantial investments in
and commit significant resources to product improvement and development in order
to stay competitive and successfully introduce new products. We can provide no
assurances that we will have the resources necessary to make such investments.
If we do have the required resources, we can provide no assurances that we will
be able to respond adequately to technological or market changes.
WE DEPEND ON KEY MEMBERS OF OUR STAFF AND MUST RETAIN AND RECRUIT QUALIFIED
INDIVIDUALS IF WE ARE TO BE COMPETITIVE. Our success depends on our ability to
attract and retain certain scientific, technical, regulatory and managerial
personnel. If we lose key personnel, it could have a materially adverse effect
on our business. Competition for qualified personnel is intense and we cannot
guarantee investors that we will be successful in recruiting or retaining such
personnel in the future.
THERE ARE VARIOUS OPERATIONAL AND FINANCIAL RISKS ASSOCIATED WITH OUR
INTERNATIONAL BUSINESS. In recent years, we have experienced substantial sales
growth in international markets and expect to continue to expand our product
distribution internationally. We may face difficulties and risks in our
international business, including changing economic or political conditions,
export restrictions, currency risks, export controls relating to technology,
compliance with existing and changing regulatory requirements, tariffs and other
trade barriers, longer payment cycles, problems in
9
collecting accounts receivable, reimbursement levels, and potentially adverse
tax consequences. In addition, it may be difficult for us to enforce and collect
receivables through a foreign country's legal system and to protect our
intellectual property in foreign countries. International sales are invoiced and
settled in U.S. dollars. However, the cartridge price received from
international partners, including Abbott, may be affected by changes in the
value of the U.S. dollar relative to local currencies. This is because the
international cartridge price is based on the price paid by customers in local
currencies. When the values of foreign currencies change with respect to the
U.S. dollar, the price changes due to the foreign exchange conversion of local
currency prices. However, price reductions may be limited by guaranteed minimum
prices established for each cartridge. We cannot assure investors that one or
more of these factors will not have a material and adverse effect on our
international business opportunities.
In addition, our cartridge manufacturing takes place at our wholly-owned
subsidiary in Kanata, Ontario. Most of the expenses associated with producing
the cartridges are incurred in Canadian Dollars. If there is a significant
change in the exchange rate between the Canadian Dollar and the U.S. Dollar, it
could have a material impact on our cost of products sold, our results of
operations, and our cash flows from operations.
DUE TO ANTITAKEOVER PROVISIONS THERE MAY BE ISSUES ASSOCIATED WITH THE
MARKETABILITY OF THE COMPANY'S COMMON STOCK. Our Certificate of Incorporation
and Bylaws, Stockholder Rights Plan, and our agreements with Abbott and Cerberus
contain provisions, which may have the effect of delaying, deferring or
preventing a change in control of the Company without further action by our
stockholders. In addition, certain of these provisions may discourage bids for
the Common Stock, may adversely affect the market price of the Common Stock, and
may affect the voting and other rights of holders of Common Stock and may
discourage takeover attempts not first approved by the Board of Directors
(including takeovers which certain stockholders may deem to be in their best
interests). We will be subject to Section 203 of the Delaware General Corporate
Law which generally imposes restrictions upon certain acquirers and their
affiliates and associates of 15% or more of our Common Stock.
MANAGEMENT AND SIGNIFICANT STOCKHOLDERS CAN EXERCISE INFLUENCE OVER THE COMPANY.
As of March 1, 2002, directors, executive officers and principal stockholders of
the Company beneficially owned approximately 48% of our outstanding voting
securities. In addition, Cerberus is entitled to appoint one person to the
Company's Board of Directors for so long as it holds 10% of the outstanding
securities of the Company on a fully diluted basis. As a result, these
stockholders, individually and/or acting together may be able to influence the
outcome of stockholder votes. Examples of stockholder votes include those for
the election of directors, changes in our Certificate of Incorporation and
Bylaws and approving certain mergers or other similar transactions, such as a
sale of all or substantially all of our assets. Cerberus also has the right to
approve certain of these transactions. If we receive certain information
relating to an offer for our voting securities of all or substantially all of
our assets, we must provide notice to Abbott. Furthermore, our exclusive product
distribution arrangement with Abbott could discourage a third party from making
any such offer.
THE COMPANY'S STOCK PRICE IS VOLATILE AND INVESTING IN OUR COMMON STOCK INVOLVES
A HIGH DEGREE OF RISK. The market price of our Common Stock has fluctuated
significantly and as a result, it has been described as "volatile." Future
announcements concerning the Company or its competitors, including operating
results, technological innovations or new commercial products, government
regulations, developments concerning proprietary rights, or litigation could
have a significant impact on the market price of our Common Stock. A significant
percentage of our Common Stock is held by institutional investors. Among others,
our strategic partner Abbott owns approximately 10.0% of our outstanding voting
securities, and in 2001 we completed two financings that resulted in John
Hancock Advisers Inc. and Cerberus increasing their beneficial ownership to
13.1% and 14.99% of our outstanding voting securities, respectively. Absent
current restrictions barring certain conversions and exercises by Cerberus
described in "Management's Discussion and Analysis of Financial Condition and
Results of Operations", Cerberus' current holdings would represent 26.7% of our
outstanding voting securities. The lifting of these restrictions is not entirely
within the control of the Company. The decision by any of these investors to
sell all or a substantial portion of their holdings could have an adverse impact
on the market price of our Common Stock. Furthermore, the stock market has from
time to time experienced extreme price and volume fluctuations, which may
adversely affect the market price of our Common Stock. Some of these
fluctuations have particularly affected high technology companies and they have
often been unrelated to the operating performance of such companies. In
addition, general economic, political and market conditions may also adversely
affect the market price of our Common Stock. We cannot provide any assurances
that the trading price of our Common Stock will remain at or near its current
level.
WE ARE SUBJECT TO INTENSE GOVERNMENT REGULATION. Our industry is highly
regulated. The governments of the United States and other countries extensively
regulate the manufacture and sale of medical diagnostic devices intended for
commercial use. For example, United States commercial sales of medical
diagnostic devices require FDA clearance before selling may commence. Obtaining
FDA and other required regulatory clearances can be time-consuming, expensive
and uncertain. After any clearances, we remain subject to pervasive regulation
and inspection for compliance with regulatory requirements. We may also need to
obtain FDA clearance for any other new products we
10
are able to develop or acquire, and we cannot guarantee that we will be able to
do so. In addition, the FDA could change the classification regarding our
existing products and we may at some time in the future also have to comply with
mandatory performance standards or other "special controls" to keep our products
in commercial distribution. We cannot predict whether such additional standards
or controls will ever be enacted, or what impact the enactment of such standards
or controls might have on our ability to produce and sell our products. If we do
not obtain all necessary regulatory clearances for any new products, or maintain
clearance on our current products, our ability to generate sales will materially
suffer.
ITEM 2. PROPERTIES
The Company's principal cartridge manufacturing facilities are located in
Kanata, Ontario, Canada, where it leases a 53,802 square foot building for a
term expiring in December 2010. The Company also leases 43,054 square feet in an
adjoining building for a term expiring in February 2004, subject to, at the
Company's option, renewal for one five-year term. The Company leases executive
offices and instrument manufacturing space in East Windsor, New Jersey, where it
occupies a 37,474 square-foot facility. The East Windsor lease expires in
September 2003, subject to, at the Company's option, renewal for one five-year
term. The Company also leases 5,950 square feet of warehouse space in Jamesburg,
New Jersey. The Jamesburg lease expires in October 2003.
ITEM 3. LEGAL PROCEEDINGS
The Company was a defendant in a case entitled Nova Biomedical Corporation,
Plaintiff v. i-STAT Corporation, Defendant. The complaint, which was filed in
the United States District Court for the District of Massachusetts on June 27,
1995, alleged infringement by the Company of Nova Biomedical Corporation's
("Nova") U.S. Patent No. 4,686,479 (the "Patent"). In February 1998, the Court
entered summary judgment in favor of the Company on the issue of patent
infringement. The plaintiff appealed the dismissal to the Federal Circuit. The
Federal Circuit affirmed two of the grounds of the dismissal (proper
interpretation of the Patent and that the Company does not literally infringe),
but remanded the case to the District Court with instructions to reconsider
whether the Company's device performs a certain measurement in a substantially
equivalent way to a method covered by the Patent, and therefore infringes under
the "doctrine of equivalents." A jury trial was scheduled for July 2001.
Management concluded that the uncertainty inherent in any jury trial as well as
the drain on the Company's resources merited a resolution of this lawsuit.
Accordingly, on July 26, 2001 the Company entered into a license agreement and a
settlement agreement under which the Company agreed to pay Nova $10.5 million,
which was recorded as a charge in the second quarter of 2001. Pursuant to the
agreements, $6.5 million was paid on July 26, 2001, a retroactive royalty of
$0.5 million was paid on August 14, 2001 for the period of January 1, 2001
through June 30, 2001, and $3.5 million plus interest was due to be paid over
one year in equal quarterly installments, pursuant to a secured promissory note.
The promissory note was prepaid on August 3, 2001. The license agreement
provides for the payment to Nova of a royalty equal to 4% of the invoice price
of products sold in the United States after January 1, 2001, which products
determine hematocrit levels according to any method used by the Company prior to
December 31, 2000, as well as any method covered by the Patent. The royalties
are payable through the life of the Patent (July 22, 2005). The Company has
commercialized products that determine hematocrit levels using a method that was
not used by the Company prior to December 31, 2000 and which the Company
believes is not covered by the Patent. Consequently, the Company does not
believe that it owes any additional royalties to Nova. On February 28, 2002,
Nova filed a demand for arbitration claiming that the method by which the
Company's products determine hematocrit are covered under the Patent and the
license agreement. Nova is seeking royalties from July 1, 2001 to date. If the
Company is unsuccessful in defending its position in the arbitration and does
not develop new methods that do not utilize the covered technology, it may be
forced to continue to pay royalties to Nova through the life of the Patent and
approximately $0.6 million in respect of products sold through December 31,
2001. The Company plans to defend this matter vigorously.
The Company was a defendant in a case entitled Customedix Corporation, Plaintiff
v. i-STAT Corporation, Defendant. The complaint, which was filed in the United
States District Court for the District of Connecticut on December 26, 1996,
alleged infringement by i-STAT of Customedix's U.S. Patent No. 4,342,964. The
plaintiff sought injunctive relief and an accounting for i-STAT's profits and
the damages to Customedix from such alleged infringement. The Company was
prepared to contest the case vigorously, did not believe that it had infringed
the Customedix patent and had obtained an opinion from recognized patent counsel
to the effect that no infringement had occurred. However, management concluded
that the uncertainty inherent in any litigation as well as the drain on
management's time and the Company's resources merited an out-of-court resolution
of this lawsuit. Accordingly, on June 14, 2000, the Company entered into a
settlement agreement under which the Company paid the plaintiff $1.5 million and
the plaintiff agreed to permanently withdraw the complaint and to release the
Company from any and all claims of whatsoever nature that the plaintiff may have
had against the Company, whether under the referenced Patent or otherwise. A
charge in the amount of $1.5 million was recorded in the second quarter of 2000
in connection with the settlement of this litigation.
11
ITEM 4. SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS
Not applicable.
12
EXECUTIVE OFFICERS
The executive officers of the Company and their respective ages and positions
with the Company are as follows:
WILLIAM P. MOFFITT
Age 55. Mr. Moffitt is the President and Chief Executive Officer of the Company.
He has held various offices since he joined the Company as Executive Vice
President in July 1989. He has served as Chief Executive Officer of the Company
since February 1993, as President since November 1991 and as a director since
May 1990. From 1985 to 1989, Mr. Moffitt was President of the Physician
Diagnostics Division of Baxter Healthcare Corp., a diversified health care
company. Mr. Moffitt holds a B.S. from Duke University. Mr. Moffitt is a
director of a private company called Genomic Profiling Systems ("GPS"). GPS
develops and commercializes proprietary technologies for detecting cellular,
viral and molecular targets in order to address existing needs in industrial
microbiology and point-of-care diagnostics.
NOAH J. KROLOFF
Age 39. Mr. Kroloff is the Vice President of International Sales and Marketing
and Corporate Development. He joined the Company in May 1994. From September
1990 to May 1994, he was a manager at McKinsey & Company, a leading management
consulting firm, where he specialized in international alliances among medical
products companies. Prior to joining McKinsey, he served in consulting and
business development roles for several biotechnology companies and for Merck &
Co., Inc. Mr. Kroloff holds an M.B.A. in finance and marketing from the MIT
Sloan School of Management and a B.A. in general science from Brandeis
University.
ROGER J. MASON
Age 53. Mr. Mason has served as Vice President of Finance, Treasurer and Chief
Financial Officer since he joined the Company in July 1996. From October 1994 to
June 1996, he was Vice President, Finance and Treasurer, and Chief Financial
Officer at Concurrent Computer Corporation, a publicly held, leading worldwide
supplier of networked and distributed, high performance, real time,
fault-tolerant computing systems. From April 1991 to October 1994, Mr. Mason
served as Chief Financial Officer and Treasurer at Integral Peripherals Inc., a
disk drive manufacturer. From 1981 to 1991, he held senior executive positions
at Maxtor Corporation, a publicly held disk drive manufacturer, MiniScribe
Corporation, a publicly held disk drive manufacturer whose assets were acquired
by Maxtor Corporation, and Ironstone Group, Inc., a publicly held holding
company. His experience also includes public accounting with Coopers & Lybrand
and Honey, Perriam & Company. He is a fellow of the Institute of Chartered
Accountants in England and Wales.
MICHAEL P. ZELIN
Age 41. Mr. Zelin is the Executive Vice President and Chief Technology Officer
of the Company. He served as Senior Vice President, Research and Development,
from February 1999 to January 2001. From March 1992 to January 1999, he served
as Vice President of Systems Development. Since joining the Company in February
1986 he has held various technical positions including Manager and Director of
Systems Engineering, and has contributed to nine of the Company's U.S. patents
or patents pending.
Executive officers of the Company are elected by the Board of Directors of the
Company.
13
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
MARKET INFORMATION
The Company's Common Stock is traded on the Nasdaq National Market System
("Nasdaq") under the symbol "STAT". The following table sets forth for the
periods indicated the range of high and low trading prices for the Company's
Common Stock as reported on Nasdaq.
2001 High Low
- ------------------------------------------------------------------------
First Quarter...................................... $ 26.44 $16.56
Second Quarter..................................... $ 19.75 $12.90
Third Quarter...................................... $ 14.74 $ 5.17
Fourth Quarter..................................... $ 9.35 $ 5.25
2000 High Low
- ------------------------------------------------------------------------
First Quarter...................................... $ 19.38 $11.63
Second Quarter..................................... $ 18.69 $10.13
Third Quarter...................................... $ 23.31 $16.63
Fourth Quarter..................................... $ 26.50 $17.50
HOLDERS
There were approximately 360 registered holders of the Company's Common Stock of
record as of March 1, 2002.
RIGHTS
On June 29, 1995, the Company declared a dividend distribution of rights (each,
a "Right") to purchase a certain number of units at a price of $104.00, subject
to adjustment. The Rights are deemed to attach to and trade together with the
Common Stock. Each unit is equal to one one-hundredth of a share of Series A
Junior Participating Preferred Stock of the Company. Rights are distributed in
connection with issuances of shares of Common Stock. The Rights are not
exercisable until the occurrence of certain events enumerated in the Stockholder
Protection Agreement between the Company and First Union National Bank, the
Company's Rights agent. Until a Right is exercised, no holder of Rights will
have rights as a stockholder of the Company other than rights resulting from
such holder's ownership of Common Stock, including, without limitation, the
right to vote or to receive dividends. A description of the Rights is hereby
incorporated by reference from the Company's Current Report on Form 8-K dated
July 10, 1995, as amended.
DIVIDENDS
Except for the Rights, the Company has not declared or paid dividends on its
Common Stock to date and intends to retain future earnings, if any, for use in
its business for the foreseeable future. In addition, as a result of the Series
D Stock financing described in greater detail under "Management's Discussion and
Analysis of Financial Condition and Results of Operations", the Company must
have the consent of the holders of the Series D Stock before any dividend can be
declared on the Common Stock.
In addition, the holders of the Series D Stock are entitled to receive a
cumulative dividend equal to 8% of the Series D Stock's liquidation preference,
payable quarterly. The liquidation preference is equal to the Series D Stock
stated value of $30.0 million plus any accrued and unpaid dividends. The
dividends may be paid in cash, or they may be accrued and added to the
liquidation preference, becoming payable in cash upon redemption or payable in
Common Stock upon conversion of the Series D Stock. During the periods that the
Common Stock trades at or above $15.00 per share for 45 consecutive trading
days, the dividend rate will be reduced to 2%, and if during subsequent periods
the Common Stock trades below $10.00 per share for 45 consecutive trading days,
the dividend rate will adjust back to
14
8%. A dividend of approximately $0.1 million for the period of time the Series
D Stock was outstanding in December 2001 has been accrued and is shown on the
face of the Consolidated Statement of Operations below the "Net loss".
SALES OF UNREGISTERED SECURITIES
On December 12, 2001, the Company completed the private placement of Series D
Stock and related Warrants to purchase Common Stock to institutional investors,
which is described under "Liquidity and Capital Resources" in "Management's
Discussion and Analysis of Financial Condition and Results of Operations". The
resale of the shares of Common Stock underlying the Series D Stock and Warrants
issued in this transaction, were registered with the Securities and Exchange
Commission on Form S-3 (File No. 333-76934), which was declared effective on
February 4, 2002.
15
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA
The selected consolidated financial data set forth below has been derived from
the audited financial statements of the Company. The consolidated financial
statements of the Company as of December 31, 2001 and 2000 and for each of the
years in the three-year period ended December 31, 2001, together with the notes
thereto and the related report of PricewaterhouseCoopers LLP, independent
accountants, are included elsewhere in this Report. The selected consolidated
financial data set forth below should be read in conjunction with the
consolidated financial statements, related notes thereto and "Management's
Discussion and Analysis of Financial Condition and Results of Operations"
included elsewhere in this Report.
IN THOUSANDS OF DOLLARS,
EXCEPT SHARE AND PER SHARE DATA Years Ended December 31,
- -------------------------------------------------------------------------------------------------------------------
2001 2000 1999 1998 1997
Statement of Operations Data:
Net revenues.......................... $58,832 $ 55,037 $45,225 $39,101 $37,840
Cost of products sold................. 48,108 40,951 36,401 30,664 30,962
Research and development.............. 8,040 7,944 7,506 7,281 6,721
General and administrative............ 7,182 6,983 7,264 7,152 5,761
Sales and marketing................... 9,043 7,784 8,293 12,956 13,020
Litigation settlements................ 10,491 1,500 -- -- --
Write-down of certain fixed assets.... 1,124 -- -- -- --
Consolidation of operations........... -- -- 70 1,115 --
Operating loss........................ (25,156) (10,125) (14,309) (20,067) (18,624)
Other income, net..................... 795 1,763 1,507 1,672 1,651
Loss before income taxes.............. (24,361) (8,362) (12,802) (18,395) (16,973)
Income tax benefit.................... (1,141) (867) -- -- --
Net loss.............................. (23,220) (7,495) (12,802) (18,395) (16,973)
Accretion of Preferred Stock.......... (1,734) -- -- -- --
Dividends of Preferred Stock.......... (133) -- -- -- --
Net loss available to Common
Stockholders.......................... (25,087) (7,495) (12,802) (18,395) (16,973)
Basic and diluted net loss per share
available to Common Stockholders...... ($1.33) ($0.43) ($0.83) ($1.32) ($1.38)
Shares used in computing basic and
diluted net loss per share available to
Common Stockholders................... 18,920,956 17,512,083 15,475,893 13,912,175 12,358,828
IN THOUSANDS OF DOLLARS As of December 31,
- -------------------------------------------------------------------------------------------------------------------
2001 2000 1999 1998 1997
Balance Sheet Data:
Cash and cash equivalents ............ $43,112 $19,536 $25,575 $38,390 $32,914
Working capital....................... 48,082 21,521 31,958 44,605 38,697
Total assets.......................... 75,889 59,934 58,124 68,906 59,170
Accumulated deficit................... (220,185) (196,965) (189,470) (176,668) (158,273)
Total stockholders' equity............ $34,604 $41,052 $44,663 $54,660 $53,045
16
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
BACKGROUND AND OVERVIEW
The Company, which was incorporated in Delaware in 1983, together with its
wholly-owned subsidiary, i-STAT Canada Limited, develops, manufactures and
markets medical diagnostic products for blood analysis that provide health care
professionals with immediate and accurate critical, diagnostic information at
the point of patient care. The Company's current products, known as the
i-STAT(R) System, consist of portable, hand-held analyzers and single-use
disposable cartridges, each of which simultaneously performs different
combinations of commonly ordered blood tests in approximately two minutes. The
i-STAT System also includes peripheral components that enable the results of
tests to be transmitted by infrared means to both a proprietary information
system for managing the user's point-of-care testing program and to the user's
information systems for billing and archiving.
The i-STAT System currently performs blood tests for sodium, potassium,
chloride, glucose, creatinine, urea nitrogen, hematocrit, ionized calcium,
lactate, Celite(R) ACT (activated clotting time), arterial blood gases, and
bicarbonate, and derives certain other values, such as total carbon dioxide,
base excess, anion gap, hemoglobin and O2 saturation, by calculation from the
tests performed. The Company continues to engage in research and development in
order to improve its existing products and develop new products based on the
i-STAT System technology. The Company is currently developing three additional
tests for the measurement of coagulation: kaolin ACT, partial thromboplastin
time ("aPTT"), and prothrombin time ("PT"). Assuming timely regulatory
approvals, the Company expects to begin commercial introduction of the kaolin
ACT and PT tests during the second half of 2002. The Company also is conducting
research and development on cardiac marker tests. In the fourth quarter of 2000,
the Company introduced the i-STAT(R) 1 Analyzer. The i-STAT 1 Analyzer permits a
customer to run all i-STAT cartridges as well as Abbott MediSense(R) glucose
strips on one integrated hand-held device. The i-STAT 1 Analyzer also
incorporates a number of enhancements, including a bar code reader, an improved
user interface, and an enhanced data management system which, in conjunction
with a central data management system developed by the Company, enhances the
customer's ability to centrally manage a widely distributed point-of-care
testing program.
Prior to November 1, 1998, the Company marketed and distributed its products in
the United States and Canada principally through its own direct sales and
marketing organization, in Japan through Japanese marketing partners, in Europe
through Hewlett-Packard Company ("HP") and in Mexico, South America, China,
Australia, and certain other Asian and Pacific Rim countries, through selected
distribution channels. On September 2, 1998, the Company entered into a
long-term sales, marketing and research alliance with Abbott Laboratories
("Abbott"), which, among other things, since November 1, 1998, has altered
significantly the manner in which the Company markets and sells its products
worldwide. The majority of the Company's revenues are now derived from Abbott.
See "Alliance with Abbott Laboratories", below, for a description of the
Company's agreements with Abbott.
RESULTS OF OPERATIONS
The Company generated total net revenues of approximately $58.8 million, $55.0
million and $45.2 million in 2001, 2000 and 1999, including international
revenues (as a percentage of worldwide revenues) of $14.6 million (24.9%), $15.1
million (27.5%) and $13.8 million (30.5%), respectively. Total net revenues from
Abbott represented approximately 84.3%, 83.5% and 78.5% of the Company's
worldwide total net revenues for 2001, 2000 and 1999, respectively.
The $3.8 million (6.9%) increase in total net revenues from 2000 to 2001 was
primarily due to the increased sales volume of the Company's cartridges and
sales of the i-STAT 1 Analyzer which was introduced in December 2000, partially
offset by the elimination of research and development reimbursements from Abbott
during 2001. Cartridge sales volume increased 20.4% to 11,835,075 units in 2001
from 9,829,225 units in 2000. Increased cartridge revenue from the increase in
sales volume was partially offset by a decrease in worldwide average selling
prices per cartridge from $3.69 in 2000 to $3.38 in 2001. The decrease in
worldwide average selling prices is primarily a function of the pricing
arrangements under the strategic alliance with Abbott, which produces lower
average selling prices as volume increases, and the impact of discounting by
Abbott to its customers in the United States. For the foreseeable future,
cartridge average selling prices are expected to continue to decline because of
the product pricing arrangements applicable under the strategic alliance between
the Company and Abbott. (See "Alliance with Abbott Laboratories".) Worldwide
analyzer sales volume increased 1.4% to 4,371 units in 2001 from 4,311 units in
2000. Worldwide analyzer revenue increased 19.9% in 2001 primarily because of
sales of the new, higher priced i-STAT 1 Analyzer.
17
During 2001, the Company did not receive any research and development
reimbursements from Abbott. The Company had received approximately $2.7 million
of research and development reimbursements from Abbott in 2000.
The $9.8 million (21.7%) increase in total net revenues from 1999 to 2000 was
primarily due to increased shipment volume of the Company's cartridges,
reflecting higher cartridge consumption by existing hospital users and the
addition of new hospital users. Cartridge shipments increased 23.8% to 9,829,225
units in 2000 from 7,941,115 units in 1999. Revenues from the increased
cartridge shipments were partially offset by lower worldwide average selling
prices per cartridge, which declined from approximately $3.84 to $3.69 in the
same periods. Total net revenues in 2000 and 1999 also include approximately
$3.6 million ($2.7 million of research and development reimbursements and $0.9
million of sales and marketing reimbursements) and $2.4 million ($1.7 million of
research and development reimbursements and $0.7 million of sales and marketing
reimbursements), respectively, from Abbott.
The manufacturing costs (as a percentage of product sales) associated with
product sales in 2001, 2000 and 1999 were approximately $48.1 million (83.7%),
$41.0 million (79.7%) and $36.4 million (85.0%), respectively. Cost of products
sold as a percentage of product sales generally decreases with increased
shipment volume of the Company's cartridges and improvements in manufacturing
productivity and yields. However, despite an increase in shipment volume, cost
of products sold as a percentage of product sales were higher in 1999 due to
manufacturing process problems. The Company took a charge in the second and
third quarters of 1999 totaling $2.1 million to write-off inventory caused by
quality problems with material supplied by a vendor. The Company generated
higher than normal manufacturing efficiency gains in the third quarter of 1999
in rebuilding its inventory, which had a favorable, and partially offsetting
impact on cost of products sold, as a percentage of product sales. The Company
experienced a second manufacturing problem in the fourth quarter of 1999, also
caused by defective material from the same supplier, which resulted in a
write-off of approximately $0.9 million of work-in-process inventory and a
reduced level of production. Reduced levels of production and higher than normal
scrap levels continued into the first quarter of 2000. Cost of products sold, as
a percentage of product sales, subsequently improved during 2000 due to the
rebuilding of cartridge inventories, which caused fixed manufacturing costs to
be spread over a larger number of product units and improvements in cartridge
production yields. In 2001, despite an increase in shipment volume,
manufacturing costs as a percentage of product sales increased primarily as a
result of lower average selling prices per unit and a charge of $1.7 million
recorded in the fourth quarter of 2001, which was related to the write-off of
certain cartridges in inventory and the replacement of certain cartridges in the
field that exhibited a higher than usual quality check rejection rate. Although
this matter has been resolved, the Company does expect to incur an additional
charge of approximately $1.6 million in the first quarter of 2002 for product
that was produced in 2002.
The Company incurred research and development expenses (as a percentage of total
net revenues) of approximately $8.0 million (13.7%), $7.9 million (14.4%) and
$7.5 million (16.6%) in 2001, 2000 and 1999, respectively. Research and
development expenses consist of costs associated with the personnel, material,
equipment and facilities necessary to conduct new product development. Research
and development expenditures may increase over the next three years. The amount
and timing of such increase will depend upon numerous factors including the
level of activity at any point in time, the breadth of the Company's development
objectives and the success of its development programs. Revenues from Abbott of
approximately $2.7 million and $1.8 million for research and development
activities are included in net revenues in 2000 and 1999, respectively. There
were no research and development revenues from Abbott in 2001 and Abbott
currently is not funding any of the Company's research and development programs.
The Company incurred general and administrative expenses (as a percentage of
total net revenues) of approximately $7.2 million (12.2%), $7.0 million (12.7%)
and $7.3 million (16.1%) in 2001, 2000 and 1999, respectively. General and
administrative expenses consist primarily of salaries and benefits of personnel,
office costs, legal and other professional fees and other costs necessary to
support the Company's infrastructure.
The Company incurred sales and marketing expenses (as a percentage of total net
revenues) of approximately $9.0 million (15.4%), $7.8 million (14.1%) and $8.3
million (18.3%) in 2001, 2000 and 1999, respectively. Sales and marketing
expenses consist primarily of salaries, commissions, benefits, travel, business
development and similar expenditures for sales representatives, implementation
coordinators and international marketing support, as well as order entry,
product distribution, technical services, clinical affairs, product literature,
market research, and other sales infrastructure costs. The increase in 2001 is
primarily related to an increase in sales and marketing personnel. Included in
revenues are amounts reimbursed by Abbott for services performed by the
implementation coordinators, approximating $0.9 million, $0.9 million and $0.7
million in 2001, 2000 and 1999, respectively. Each of the Company
18
and Abbott have the right to terminate the alliance at the end of 2003, if
either party gives twelve months notice at the end of 2002. The alliance may be
extended, as described below (see "Alliance with Abbott Laboratories"). The
Company is currently evaluating Abbott's performance, and may not continue the
alliance after 2003. Consequently, sales and marketing expenses may increase
significantly in 2002 and 2003 as the Company begins to rebuild the
infrastructure necessary to assume primary responsibility for sales and
marketing activities.
Investment income was approximately $0.9 million, $1.6 million and $1.5 million
in 2001, 2000 and 1999, respectively. The changes in investment income primarily
reflect changes in the level of cash and cash equivalent balances and interest
rates.
In the fourth quarter of 2001, the Company incurred a charge of $1,124,000
related to the write-down of certain fixed assets located at the Company's
Canadian facility, which were associated with certain projects that had not been
completed. The write-down is a result of the Company's decision not to pursue
certain projects as lower cost alternative methods were found. The carrying
values of the assets have been reduced to their net realizable values, which is
based on their estimated sales price less any selling costs.
In 2001 and 2000, the New Jersey Economic Development Authority approved the
Company's application to sell New Jersey State income tax benefits under the New
Jersey Technology Tax Transfer Program (the "Program"). During the fourth
quarters of 2001 and 2000, the Company recognized $1,141,000 and $867,000,
respectively, from the sale of these tax benefits. The Program requires that the
Company maintain certain employment levels in New Jersey and that the proceeds
from the sale of the tax benefits be spent in New Jersey. There is no guarantee
that the Company will qualify for this Program in the future or that the Program
will not be terminated by the State of New Jersey. At December 31, 2001, the
Company had net operating loss carryforwards of approximately $102,510,000 for
New Jersey income tax purposes, which expire in varying amounts through 2008.
In 2001, the Company recorded accretion of Preferred Stock of approximately
$1,734,000 and dividends on Preferred Stock of approximately $133,000. The
accretion of Preferred Stock relates to the issuance by the Company of Series C
Redeemable Convertible Preferred Stock (the "Series C Stock") in August 2001,
which was subsequently redeemed in December 2001, and the issuance of Series D
Redeemable Convertible Preferred Stock (the "Series D Stock") in December 2001.
Both the Series C Stock and the Series D Stock were initially recorded at their
relative fair values and net of allocated issuance expenses. The accretion
recorded by the Company reflects the amortization of the difference between the
net fair value and the redemption (or stated) value of such stock. The Company
recorded the Series C Stock, related Warrants and Common Stock issued in the
transaction at their net relative fair values of $18.8 million, $3.0 million and
$11.0 million, respectively, which were determined by an independent, third
party appraisal firm and were net of aggregate issuance expenses of $1.3
million. The Series C Stock was accreted from its net relative fair value on the
date of issuance of approximately $18.8 million to its redemption value on
November 29, 2001 of approximately $20.5 million. The resulting accretion of
approximately $1.7 million is shown as Accretion of Preferred Stock below the
net loss in the Company's 2001 Consolidated Statements of Operations. The
Company recorded the Series D Stock and the Warrants to purchase Common Stock
(the "Series D Warrants") issued in the transaction at their net relative fair
values of $25.2 million and $2.5 million, respectively, which were determined by
an independent, third party appraisal firm and were net of aggregate issuance
expenses of $2.3 million. The Series D Stock is being accreted over a period of
ten years from its net relative fair value on the date of issuance of
approximately $25.2 million to its stated value of $30.0 million. The resulting
accretion of $0.036 million is shown below net loss in the Company's 2001
Consolidated Statements of Operations.
In addition, the Series D Stock carries a dividend. The Company recorded a
dividend at its fair value of approximately $133,000 for the period the Series D
Stock was outstanding during December 2001. The dividend was not paid in cash,
but was accrued and added to the liquidation preference of the Series D Stock.
The dividend is either accrued or payable in cash quarterly, at the option of
the Company. Also included in the accretion of Preferred Stock is a $3.7 million
charge recorded in the third and fourth quarters of 2001 relating to the
beneficial conversion feature associated with the Series C Stock. This $3.7
million charge was subsequently reversed in December 2001 as a result of the
Company's redemption of the Series C Stock on December 6, 2001.
In January 1998, the Company decided to consolidate all its cartridge assembly
operations in its manufacturing facility in Ontario, Canada. In order to
facilitate this move, the Company relocated its cartridge assembly operation
from Plainsboro, New Jersey, to its manufacturing facility in Ontario, Canada.
The relocation of cartridge assembly commenced in June 1998 and was completed in
April 1999. As a result of this consolidation of operations, 66
19
employees in the cartridge assembly operations were notified during the first
quarter of 1998 that their employment would be terminated. In addition, the
Company's lease for its instrument operations, engineering, customer support,
selected research and development, marketing and administrative facility in
Princeton, New Jersey, expired in September 1998. The Company relocated these
activities to a 37,474 square foot leased facility in East Windsor, New Jersey.
The product distribution operations formerly located in the Company's
Plainsboro, New Jersey facility were relocated to the Company's East Windsor,
New Jersey facility in early 1999. The charge to earnings in 1998 for these
relocations, including severance and retention payments to affected employees of
$1.0 million, for the physical move of equipment, rent and utilities on the
unoccupied Plainsboro facility until that lease expired in February 1999, and
for miscellaneous costs was approximately $1.1 million. An additional charge to
earnings of approximately $0.1 million occurred in 1999. Retention payments were
charged to expense over the retention period.
Net loss available to Common Stockholders in 2001 increased to approximately
$25.1 million, or $1.33 per share, from approximately $7.5 million, or $0.43 per
share in 2000. Net loss in 2000 decreased to approximately $7.5 million or $0.43
per share, from approximately $12.8 million or $0.83 per share in 1999. The
weighted average number of shares used in computing basic and diluted net loss
per share was 18.92 million, 17.51 million and 15.48 million in 2001, 2000 and
1999, respectively. The increases in the weighted average number of shares
primarily reflect the conversion of 2,138,702 shares of Series B Preferred Stock
into 2,138,702 shares of Common Stock in March 2000, the issuance of 1,480,000
shares of Common Stock in August 2001, and the exercise of employee stock
options in each year. The weighted average shares used in computing the basic
losses per share do not include any potentially dilutive instruments, such as
options, warrants or Convertible Preferred Stock, as such inclusion would be
anti-dilutive (i.e., decrease the net loss per share).
The principal factors contributing to the large increase in net loss from 2000
to 2001 were the absence of Abbott research and development reimbursements
discussed previously (a $2.7 million difference); the decrease in average
selling prices for cartridges sold through Abbott; increases in manufacturing
costs (also discussed previously); and $10.5 million in payments made by the
Company in settlement of the intellectual property litigation discussed below.
CONTINGENCIES
The Company was a defendant in a case entitled Nova Biomedical Corporation,
Plaintiff v. i-STAT Corporation, Defendant. The complaint, which was filed in
the United States District Court for the District of Massachusetts on June 27,
1995, alleged infringement by the Company of Nova Biomedical Corporation's
("Nova") U.S. Patent No. 4,686,479 (the "Patent"). In February 1998, the Court
entered summary judgment in favor of the Company on the issue of patent
infringement. The plaintiff appealed the dismissal to the Federal Circuit. The
Federal Circuit affirmed two of the grounds of the dismissal (proper
interpretation of the Patent and that the Company does not literally infringe),
but remanded the case to the District Court with instructions to reconsider
whether the Company's device performs a certain measurement in a substantially
equivalent way to a method covered by the Patent, and therefore infringes under
the "doctrine of equivalents." A jury trial was scheduled for July 2001.
Management concluded that the uncertainty inherent in any jury trial as well as
the drain on the Company's resources merited a resolution of this lawsuit.
Accordingly, on July 26, 2001 the Company entered into a license agreement and a
settlement agreement under which the Company agreed to pay Nova approximately
$10.5 million, which was recorded as a charge in the second quarter of 2001.
Pursuant to the agreements, $6.5 million was paid on July 26, 2001, a
retroactive royalty of $0.5 million was paid on August 14, 2001 for the period
of January 1, 2001 through June 30, 2001, and $3.5 million plus interest was due
to be paid over one year in equal quarterly installments, pursuant to a secured
promissory note. The promissory note was prepaid on August 3, 2001. The license
agreement provides for the payment to Nova of a royalty equal to 4% of the
invoice price of products sold in the United States after January 1, 2001, which
products determine hematocrit levels according to any method used by the Company
prior to December 31, 2000, as well as any method covered by the Patent. The
royalties are payable through the life of the Patent (July 22, 2005). The
Company has commercialized products that determine hematocrit levels using a
method that was not used by the
20
Company prior to December 31, 2000 and which the Company believes is not covered
by the Patent. Consequently, the Company does not believe that it owes any
additional royalties to Nova. On February 28, 2002, Nova filed a demand for
arbitration claiming that the method by which the Company's products determine
hematocrit are covered under the Patent and the license agreement. Nova is
seeking royalties from July 1, 2001 to date. If the Company is unsuccessful in
defending its position in the arbitration and does not develop new methods that
do not utilize the covered technology, it may be forced to continue to pay
royalties to Nova through the life of the Patent and $0.6 million in respect of
products sold through December 31, 2001. The Company plans to defend this matter
vigorously.
The Company was a defendant in a case entitled Customedix Corporation, Plaintiff
v. i-STAT Corporation, Defendant. The complaint, which was filed in the United
States District Court for the District of Connecticut on December 26, 1996,
alleged infringement by i-STAT of Customedix's U.S. Patent No. 4,342,964. The
plaintiff sought injunctive relief and an accounting for i-STAT's profits and
the damages to Customedix from such alleged infringement. The Company was
prepared to contest the case vigorously, did not believe that it had infringed
the Customedix patent and had obtained an opinion from recognized patent counsel
to the effect that no infringement had occurred. However, management concluded
that the uncertainty inherent in any litigation as well as the drain on
management's time and the Company's resources merited an out-of-court resolution
of this lawsuit. Accordingly, on June 14, 2000, the Company entered into a
settlement agreement under which the Company paid the plaintiff $1.5 million and
the plaintiff agreed to permanently withdraw the complaint and to release the
Company from any and all claims of whatsoever nature that the plaintiff may have
had against the Company, whether under the referenced Patent or otherwise. A
charge in the amount of $1.5 million was recorded in the second quarter of 2000
in connection with the settlement of this litigation.
The Company and Abbott are in disagreement over the amount of money Abbott is
entitled to for the sharing of certain cartridge production cost savings
resulting from an increase in sales volume. This disputed item relates to
different interpretations of certain terms of the Distribution Agreement between
Abbott and the Company. If this disagreement is not resolved amicably, under the
Distribution Agreement between the Company and Abbott it must be resolved
through binding arbitration. Management of the Company believes that Abbott's
position on this issue in dispute is without merit and that, in the event that
this issue is resolved through arbitration, the Company will not incur any
additional liability to Abbott. The disagreement regarding the sharing of
certain cartridge production cost savings resulting from an increase in sales
volume over the past three years is approximately $1.0 million at December 31,
2001, and if this matter is resolved in favor of Abbott, which management of the
Company believes is unlikely, the Company's cost of goods sold would increase by
up to the amount in dispute. Such adjustment would be made when, and if, it is
determined that an unfavorable outcome to the Company is probable.
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 2001, the Company had cash and cash equivalents of approximately
$43.1 million, an increase of approximately $23.6 million from the December 31,
2000 balance of approximately $19.5 million. The increase primarily reflects the
receipt of approximately $42.1 million, net, from several financing activities,
including the private placement of 1,480,000 shares of Common Stock and 30,000
shares of Series D Stock; and from employee stock option exercises. In January
2001, the Company also received $5.2 million from Abbott representing the fourth
and final installment of prepayments against future incremental cartridge sales
(as defined in the Distribution Agreement with Abbott). The increase in cash
from financing activities was offset by approximately $13.7 million of cash used
in operating activities (net of the receipt of $5.2 million from Abbott in
January 2001) and equipment purchases of approximately $4.5 million. Working
capital increased by approximately $26.6 million from $21.5 million to $48.1
million during 2001. Changes in working capital during the year primarily
reflect the increase in cash and cash equivalents of $23.6 million, a reduction
of approximately $2.0 million in inventories, an increase of $1.1 million in
other current assets due to the timing of the receipt of cash related to the
sale of New Jersey State income tax benefits under the Program, and a decrease
in current deferred revenue of $10.1 million related to the incremental
cartridge sales prepayment earned by Abbott in 2001, offset by an increase of
approximately $6.5 million in the net amount of related party accounts payable
and accounts receivable.
During the first quarter of each year under the Abbott Distribution Agreement,
the Company and Abbott conduct a reconciliation of the annual prepayments made
by Abbott against future incremental cartridge sales. The reconciliation for
2001 resulted in a credit due to Abbott of approximately $10.2 million. As a
result of this credit due to Abbott at December 31, 2001, the net balance is a
liability in the amount of $2.7 million (comprised of gross receivables of $7.5
million offset by a credit balance owed to Abbott of $10.2 million) and is
classified as "Accounts
21
payable to related party" within short-term liabilities.
The Company expects its existing cash and cash equivalents to be sufficient to
meet its obligations and its liquidity and capital requirements for the
foreseeable future. However, numerous factors may change this expectation,
including the results of its marketing and sales activities, its new product
development efforts, manufacturing difficulties, manufacturing efficiencies and
plant expansion plans, competitive conditions and long-term strategic decisions
(including the continuation or termination of the Abbott alliance). The Company
regularly monitors capital raising alternatives in order to take advantage of
opportunities to supplement its current working capital upon favorable terms,
including joint ventures, strategic corporate partnerships or other alliances
and the sale of equity and/or debt securities. The Company does not have any
debt or capital leases.
On March 16, 2000, Agilent Technologies, Inc. converted and sold its holding of
2,138,702 shares of the Company's Series B Preferred Stock (formerly held by
Hewlett-Packard Company) into 2,138,702 shares of Common Stock and accordingly,
is no longer a related party for financial statement purposes.
At December 31, 2001, the Company had available for Federal income tax purposes
net operating loss carryforwards of approximately $184.3 million, which expire
in varying amounts through 2021. The timing and manner in which the operating
loss carryforwards are utilized in any year by the Company may be limited by
Section 382 of the Internal Revenue Code. Given that significant uncertainty
exists regarding the realizability of the Company's deferred tax assets, a full
valuation allowance is recorded.
International sales are invoiced and paid in U.S. dollars. However, the
cartridge price received from international partners, including Abbott, may be
affected by changes in the value of the U.S. dollar relative to local currencies
because the price paid by customers to the Company's partners is set in local
currencies. When the value of foreign currencies changes with respect to the
U.S. dollar, the price paid by the Company's partners to the Company changes due
to the foreign exchange conversion of local currency prices. However, price
reductions may be limited by guaranteed U.S. dollar minimum prices established
for each cartridge.
The Company's cartridge manufacturing is conducted through i-STAT Canada. Most
manufacturing labor and overhead costs of this subsidiary are incurred in
Canadian dollars, while some raw material purchases are made in U.S. dollars.
The Canadian operation is primarily funded by payments in U.S. dollars made by
the U.S. parent Company for cartridges purchased for resale to its customers. In
2001, the accumulated other comprehensive loss related to foreign currency
translation increased by approximately $1.1 million to approximately $2.4
million, and reflects the adjustment to translate the Canadian subsidiary's
balance sheet to U.S. dollars at the December 31, 2001 exchange rate. Since most
of the cartridge manufacturing expenses are incurred in Canadian dollars, the
cost of products sold and therefore, the Company's consolidated results of
operations and cash flows can be impacted by a change in exchange rates between
the Canadian dollar and the U.S. dollar.
The impact of inflation on the Company's business has been minimal and is
expected to be minimal for the near-term.
FINANCINGS CONCLUDED IN 2001
In August 2001, the Company closed a $34.1 million private placement with
several institutional investors. In this financing the Company issued 1,480,000
shares of Common Stock at $9.218 per share, 20,464 shares of Series C Stock at
$1,000 per share, and six year warrants to purchase up to 1,295,000 shares of
Common Stock at $10.139 per share (the "Series C Warrants"). The Series C
Warrants are callable by the Company if the closing price of the Company's
Common Stock is greater than $16.50 for ten consecutive business days. If the
Company calls the Series C Warrants, then the Company must issue replacement
warrants of equal quantity at a strike price of $19.25 and with a term equal to
the remaining term on the initial Series C Warrants.
At the time of issuance the Series C Stock was deemed to have a "beneficial
conversion feature" because the conversion price of the Series C Stock would
reflect a twelve percent discount to the fair market value of the Common Stock.
The beneficial conversion feature was calculated on August 3, 2001, the
commitment date, and was approximately $3.7 million. The beneficial conversion
feature was accreted into the Series C Stock from the date of issuance through
November 29, 2001.
In December 2001, the Company elected to redeem all outstanding shares of Series
C Stock at their face value, thus leaving no Series C Stock outstanding. As a
result of the redemption of the Series C Stock, approximately $20.5
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million was returned to the holders and Series C Warrants representing 555,000
shares of Common Stock were cancelled. As a result of the redemption of the
Series C Stock, the accretion related to the "beneficial conversion feature" of
$3.7 million was reversed. Thus, the Company's 2001 Consolidated Statements of
Operations does not include any accretion related to the "beneficial conversion
feature" of the Series C Stock. In December 2001, as a result of the issuance of
the Series D Stock (see below), and pursuant to applicable anti-dilution
provisions, the Series C Warrants were adjusted from 740,000 shares of Common
Stock at a strike price of $10.139 per share, to 937,857.5 shares at a strike
price of $8.00 per share.
In December 2001, the Company closed a $30.0 million private placement with
affiliates of Cerberus Capital Management, L.P. (collectively, "Cerberus"). In
this financing, the Company issued 30,000 shares of Series D Stock with a stated
value of $1,000 per share and an 8% preferential dividend and six-year warrants
to purchase up to 937,500 shares of Common Stock at $8.00 per share (the "Series
D Warrants"). The Series D Stock is mandatorily redeemable in December 2011 and
may be redeemed by the Company any time after December 2007 (at a price equal to
the stated value plus accrued and unpaid dividends). The Series D Stock may be
converted into Common Stock at the holders' option at a conversion price of
$8.00 per share of Common Stock, subject to certain ownership level restrictions
described below and subject to customary anti-dilution protection adjustments.
At the closing of the issuance of Series D Stock, such shares were convertible
into 3.75 million shares of the Company's Common Stock without giving effect to
the ownership level restrictions. This number increases to the extent that the
Company elects to accrue the dividend.
No holder of the Series D Stock and Series D Warrants may convert or exercise
its securities into shares of the Company's Common Stock if after the
conversion, such holder, together with any of its affiliates, would beneficially
own over the ownership limitation percentage set by the Company, initially
14.99%. Under certain circumstances, the restrictions for Cerberus may be eased
so that it will be entitled to convert or exercise its securities into shares of
Common Stock if after the conversion it does not beneficially own in excess of
34% of the outstanding shares of the Company's Common Stock. These restrictions
are eased as certain restrictions on Abbott's ownership levels ease or
terminate. Absent these limitations, Cerberus' current ownership would represent
the right to acquire approximately 26.7% of the outstanding voting securities of
the Company at December 31, 2001. These limitations do not prevent the holders
from acquiring and selling shares of the Company's Common Stock within these
limitations. Cerberus is entitled to appoint one person to the Company's Board
of Directors for so long as it holds 10% of the outstanding securities of the
Company on a fully diluted basis.
Holders of the Series D Stock have a right of first refusal to participate in
certain financings proposed to be consummated by the Company for so long as such
holders hold at least 15% of the fully diluted securities of the Company
outstanding immediately after the closing of the Series D financing.
Holders of the Series D Stock are entitled to receive a cumulative dividend of
8% of the liquidation preference, payable quarterly. The dividends may be paid
in cash, or accrue and be added to the liquidation preference, becoming payable
in cash upon redemption or payable in Common Stock upon conversion. During the
periods that the Common Stock trades at or above $15.00 per share for 45
consecutive trading days, the dividend rate will be reduced to 2%, and if during
subsequent periods the Common Stock trades below $10.00 per share for 45
consecutive trading days, the dividend rate will adjust back to 8%.
At December 31, 2001, the liquidation preference amount of the Series D Stock is
$30.1 million, comprised of the stated value of $30.0 million plus accrued and
unpaid dividends of approximately $0.1 million, and the Series D Stock is
convertible into approximately 3.767 million shares of Common Stock at a
conversion price of $8.00 per share of Common Stock.
ALLIANCE WITH ABBOTT LABORATORIES
On September 2, 1998, the Company and Abbott entered into agreements (the
"Alliance Agreements") providing for a long-term sales, marketing and research
alliance. The Alliance Agreements comprise a Distribution Agreement, a Research
Agreement, a Stock Purchase Agreement, a Standstill Agreement and a Registration
Rights Agreement. Distribution under the Distribution Agreement commenced in the
United States on November 1, 1998. A subsequent international rollout commenced
in various countries during the second half of 1999. As a result of the
Distribution Agreement, the majority of the Company's revenues are now derived
from Abbott. The primary objective of the Abbott alliance was to strengthen the
Company's product marketing and distribution capability and
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accelerate the development of new products.
Under the Distribution Agreement, Abbott has become, subject to the then
existing rights of the Company's other international distributors, the exclusive
worldwide distributor of the Company's hand-held blood analyzer products
(including cartridges) and any new products the Company may develop for use in
the professionally attended human healthcare delivery market. Abbott has assumed
the Company's product sales to U.S. customers that were in place as of the
inception of the Distribution Agreement (the "Base Business") at no profit to
Abbott, and the Company and Abbott share in the incremental profits derived from
product sales beyond the Base Business. Abbott agreed to prepay to the Company a
total of $25,000,000 during the first three years of the Distribution Agreement
against future incremental product sales. Such prepayments are amortized to
revenue as incremental cartridges are sold to Abbott over the first three years
of the Agreement. Prepayments in amounts of $5,000,000, $4,000,000, $10,800,000
and $5,200,000 were received in September 1998, January 1999, January 2000 and
January 2001, respectively. Unamortized revenue relating to these prepayments in
the amounts of $603,000 and $10,606,000 are included in deferred revenues,
current at December 31, 2001 and 2000, respectively, and $4,991,000 is included
in deferred revenues from related party, non-current at December 31, 2001. The
$4,991,000 will be recognized in the Company's income if Abbott unilaterally
terminates the Distribution Agreement. If the Company unilaterally terminates
the Distribution Agreement without cause (as defined), the Company will be
obligated to repay the $4,991,000 to Abbott upon termination of the
Distribution Agreement.
The Distribution Agreement expires on December 31, 2003, subject to automatic
extensions for additional one-year periods unless either party provides the
other with at least 12 months prior written notice, except that the Company may
terminate the Distribution Agreement after December 31, 2001 if Abbott fails to
achieve a three-year milestone minimum growth rate in sales of the Company's
products in the U.S. covered by the Distribution Agreement. Abbott has advised
the Company that it has reached the minimum three-year growth rate milestone and
the Company agrees that the milestone has been met. If the Distribution
Agreement i