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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
(Mark One)
ý |
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the fiscal year ended December 31, 2002
or
o |
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the transition period from to
Commission File No.: 000-49871
HEALTHETECH, INC.
(Exact name of Registrant as specified in its charter)
| Delaware | 77-0478611 | |
| (State or other jurisdiction of incorporation or organization) |
(IRS Employer Identification Number) |
523 Park Point Drive, 3rd Floor, Golden, Colorado 80401
(Address of principal executive offices, including zip code)
(303) 526-5085
(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, $.001 par value per share
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 ý No o
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. o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes o No ý
The aggregate market value of the Common Stock held by non-affiliates of the Registrant as of February 14, 2003 was approximately $30,013,630 based upon the closing sale price of the Registrant's Common Stock on such date, as reported on the Nasdaq National Market. Shares of Common Stock held by each executive officer and director and each person owning more than 5% of the outstanding Common Stock of the Registrant have been excluded in that such persons may be deemed to be affiliates of the Registrant. This determination of affiliate status is not necessarily a conclusive determination for other purposes.
As of February 14, 2003, the Registrant had 19,565,506 shares of Common Stock, $.001 par value per share, outstanding.
Documents Incorporated By Reference
Portions of the definitive proxy statement for the Registrant's 2002 Annual Meeting of Stockholders to be held on May 7, 2003, are incorporated by reference in Part III of this Form 10-K.
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This Form 10-K contains statements that constitute "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). These forward-looking statements involve risks and uncertainties and are not historical facts but rather are based on current expectations, estimates and projections about our industry, our beliefs and assumptions. We use words such as "anticipate," "expect," "intend," "plan," "believe," "seek," "estimate" and variations of these words and similar expressions to identify forward-looking statements. These statements are not guarantees of future performance and are subject to certain risks, uncertainties and other factors, some of which are beyond our control, are difficult to predict and could cause actual results to differ materially from those expressed or forecasted in the forward-looking statements. These risks and uncertainties include those described in "Risk Factors" and elsewhere in this Form 10-K. You should not place undue reliance on these forward-looking statements, which reflect our view only as of the date of this Form 10-K. Readers are urged to carefully review and consider various disclosures made by us in this report and our other reports filed with the Securities and Exchange Commission that attempt to advise interested parties of the risks and factors that may affect our business.
Overview
We were incorporated in Delaware in February 1998 and design, develop and market technologically advanced and proprietary handheld medical devices and software for the measurement and monitoring of important health parameters. Our current health monitoring devices measure oxygen consumption (also known as oxygen uptake) to calculate resting metabolic rate, or RMR. The accurate measurement of resting metabolic rate, which establishes how many calories a person burns per day at rest and represents up to 75% of the total calories burned by a healthy individual per day, is important to the success of medical therapy and to achieving weight management and fitness goals. However, an accurate, cost-effective and practical device for measuring and monitoring metabolism has not previously been available. The HealtheTech system, which consists of handheld health monitoring devices, single-use disposable facemasks and mouthpieces and stand-alone software applications designed to be used with our devices, enables healthcare professionals and wellness advisors to quickly, accurately and cost effectively measure and monitor the metabolism of a patient or client. We believe that by making metabolism measurements broadly accessible, the HealtheTech system has the potential to become a standard of care in the medical therapy, weight management and fitness markets.
Our initial health monitoring devices include MedGem for the medical market, which received 510(k) clearance for prescription use from the FDA and commenced initial sales in January 2002, and BodyGem for the weight management, nutrition monitoring and fitness markets, which was commercially launched in November 2001. We are also developing FitGem for use in athletic and fitness training, cardiac and pulmonary rehabilitation, occupational therapy and sports medicine. Our BalanceLog software was launched in November 2001 and allows users to create a weight management system that incorporates RMR measurements from our devices. A key element of our strategy is to establish relationships with large, prominent companies for the distribution of the HealtheTech system in each of our target markets. We operate as a single business segment.
Industry Background
The proper management of an individual's nutritional and weight management needs is enhanced by the accurate measurement of metabolism. This has historically been most often performed by use of a large and expensive machine either in a research lab or in the hospital setting. Because of the cost, complexity and time required to measure an individual's metabolism using this method, healthcare
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professionals and wellness advisors primarily rely on estimation methods which are based on such factors as height, weight, sex and age. However, these estimations can be significantly inaccurate when applied to an individual due to variations in disease state, genetics, hormone levels, diet, body composition, activities and exercise. The shortcomings in current methods of measuring or estimating metabolism can significantly compromise the effectiveness of medical care, weight management and fitness programs.
Inadequate nutrition in medical care. Adequate nutritional assessment is important to ensuring satisfactory medical treatment results. According to a 1998 study published in the Journal of Parenteral and Enteral Nutrition, only one quarter of patients admitted in long-term acute care facilities receive calories within 10% of their daily caloric needs. In addition, 39% of patients admitted in long-term care facilities are not provided their caloric requirements while admitted, according to a 1995 study published in the Journal of the American Dietetic Association. Underfeeding can lead to delayed healing, increased incidence of infection, increased morbidity and mortality, and increased length of stay and cost per patient. Overfeeding can also result in a variety of serious medical complications and significant unnecessary expense. We believe that significant healthcare costs can be avoided with an accurate and cost-effective medical device to measure metabolism.
Obesity. According to a June 1997 report by the World Health Organization, obesity has become a worldwide epidemic. In December 2001, the United States Surgeon General issued a "Call to Action" against excess weight and obesity, a leading cause of preventable death in the United States. Obesity is a recognized independent risk factor or aggravating agent for more than 20 medical conditions, including cardiovascular disease, high blood pressure and diabetes. Weight management and nutritional assessment play an integral part in the daily management of these medical conditions. We believe that successful weight management is impeded by the inability to accurately determine an individual's metabolism in a practical manner.
Fitness and performance training. The accurate measurement of oxygen consumption and metabolic rate has important applications in the area of fitness and performance training. One of the best ways to assess and monitor aerobic fitness is to measure oxygen consumption during physical activity. In addition, regardless of sport, performance is affected by the maintenance of an optimal body weight. Oxygen consumption and resting metabolic rate measurements are used in the training and evaluation of many elite athletes in endurance-based sports at highly specialized facilities. However, most people have not previously had access to cost-effective and accurate oxygen consumption and resting metabolic rate measurements.
Our Solution
We have developed a proprietary, non-invasive platform technology that can quickly, accurately and cost effectively measure oxygen consumption to determine resting metabolic rate. The HealtheTech system incorporates advanced sensor technologies and significant engineering expertise. These technologies enable healthcare professionals and wellness advisors to provide nutrition monitoring and weight management services that were generally not accessible to many patients and clients due to the cost and inconvenience of existing methods.
Our MedGem device, which displays both oxygen consumption and resting metabolic rate, is designed to be used by healthcare professionals for medically supervised weight management programs and medical nutritional assessment and therapy and received 510(k) clearance from the Food and Drug Administration in January 2002. BodyGem, which displays resting metabolic rate, is designed to be used by wellness advisors for non-medically supervised weight management, nutrition monitoring and health and fitness programs to develop appropriate dietary and exercise regimens and was commercially launched in November 2001. We also have developed BalanceLog, a stand-alone software application that incorporates an individual's RMR measurement and allows users to establish and maintain a
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personalized nutrition and weight monitoring program as well as easily track food intake and exercise activity to provide continuous feedback on their caloric balance. We are developing additional health monitoring devices and software products for the medical therapy, weight management and fitness and performance training markets.
The HealtheTech system offers our customers the following benefits:
Scientifically-based and clinically validated accuracy. Our health monitoring devices have been validated in both laboratory and clinical tests against the "gold standard" Douglas Bag method to demonstrate accurate measurement of RMR and oxygen consumption.
Ease of use. The HealtheTech system is designed to be easy to use and requires minimal training. Our health monitoring devices are portable, handheld devices that weigh less than five ounces. Upon activation, the health monitoring devices quickly self-calibrate as compared to the metabolic cart, which requires a longer set-up time and regular manual calibration. The measurement process itself is non-invasive and can be accomplished in less than ten minutes.
Cost-effective. The HealtheTech system enables healthcare professionals, wellness advisors and fitness trainers to provide health and nutrition monitoring services that in many instances were not previously cost-effective. We designed our health monitoring devices to require no on-going maintenance and no replacement parts. In appropriate cases, we believe that qualified medical nutrition professionals and registered dietitians can seek Medicare and other third-party reimbursement for some of the cost associated with providing metabolic rate measurement services using MedGem to provide medical nutrition therapy for the purposes of managing diabetes or kidney disease.
Enables personalized care, therapy and advice. The HealtheTech system enables healthcare professionals and wellness advisors to provide highly personalized care, therapy and advice to their patients and clients. Our health monitoring devices provide oxygen consumption and RMR measurements for each individual, as opposed to relying upon an estimate derived from a population-based formula. Our related software products integrate an individual's RMR with personal profile information to create personalized nutrition monitoring and weight management solutions. This allows users to customize care, therapy and advice to the particular and changing profiles of each patient and client.
Our Strategy
Our goal is to be a leading medical device company that produces proprietary, non-invasive health monitoring devices for the measurement of important health parameters. We intend to focus on the following key strategies:
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Our Products
Health Monitoring Devices
Our health monitoring devices are based on advanced technologies that enable healthcare professionals and wellness advisors to determine resting metabolic rate, or RMR, by accurately measuring oxygen consumption. This information is then used by healthcare professionals, wellness advisors and fitness professionals to help determine the caloric requirements of each patient or client.
Our portfolio of health monitoring devices includes:
We plan to develop additional health monitoring devices based on our existing technology platform to measure other important health parameters.
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Disposables
The MedGem and BodyGem are designed to use our proprietary disposable hygienic facemasks or mouthpieces. The disposables fit directly into our health monitoring devices and are intended to be discarded after a single use. The disposables eliminate the threat of cross-contamination by incorporating a medical-grade microbial filter material. The labeling of our disposable products cleared by the FDA states that a new disposable must be used each time our MedGem is used. We also label and contractually require our distributors and service provider partners to acknowledge that disposables are single use and to use a new disposable each time the BodyGem is used.
We currently sell the disposables separately from the health monitoring devices. However, we are evaluating a system under which purchasers of our health monitoring devices would have the option to pay for a certain number of uses or measurements. Under this system, we would pre-set each device with the number of uses that a customer purchases and send a corresponding number of disposables. After all uses are expended, customers could purchase additional uses.
Software
We anticipate that each health monitoring device will have a corresponding software package available which is designed to be used as a companion application with our devices. The current software packages are not required to operate the related devices. Sales of our software products, predominately BalanceLog, amounted to approximately 22% of revenues in 2002. Our BalanceLog software package is typically purchased by consumers at retail, from our distribution partners or downloaded from our web site with payment. A growing number of BalanceLog sales will come from retail distribution and we intend to sell our future consumer software applications through retail distribution as well. We have also developed MedGem analyzer software intended for medical professionals, which received FDA 510(k) clearance in June 2002. Our software products include:
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Sales, Marketing and Distribution
Through strategic relationships with our current and future strategic and distribution partners, we intend to focus primarily on the following markets:
Our sales and marketing efforts are intended to establish strategic partnership and distribution relationships, to generate awareness of the HealtheTech system and to penetrate and expand the markets for monitoring nutrition and metabolism and managing weight. As of December 31, 2002, we had 12 individuals in our sales and marketing organization.
In addition to direct sales efforts and work with existing and prospective partners and distributors, our sales force educates and trains healthcare professionals and wellness advisors on the benefits of our products. To further generate awareness and penetrate our target markets, our sales and marketing organization provides a range of programs, support materials and events. These include public relations efforts, product training, attendance at conferences, seminars and trade shows, press relations and educational and promotional literature.
In December 2002, we launched a $3 million national consumer awareness campaign aimed at educating consumers about the critical role of measured metabolism in weight management and
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nutrition. Production costs for this campaign were $0.5 million in 2002. We recognized $1.3 million of production and advertising expense for the year ended December 31, 2002. The campaign is expected to run through March 2003, and primarily targets women aged 30 to 54 through the use of network and cable television and print media. We plan to launch a $1 million radio and print advertising campaign in the first quarter of 2003 to further support sales of our BalanceLog product in the retail channel.
Our health monitoring devices are currently sold to healthcare professionals, wellness advisors and fitness professionals who have received training in their use and are not intended to be sold directly to consumers.
Strategic Partnerships and Customers
Our strategy is to establish relationships with at least one large, prominent company in each of our targeted market segments that already possesses the sales, marketing and distribution capabilities needed to reach our target customers. We currently distribute and plan to continue to distribute our products with the support of distributors that have significant experience in marketing and selling health monitoring devices to healthcare professionals, such as physicians and dietitians. We also sell and market our products directly to companies in the retail, in-home measurement, commercial weight management, commercial fitness, retail pharmacy and diagnostic service center, corporate wellness program and day spa and resort markets. We believe that this strategy will allow us to promote rapid and widespread adoption of the HealtheTech system and to validate and increase exposure of our brand, while maintaining a relatively small internal team of account management and service professionals.
Our current customers, which include distributors and strategic partners, include:
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For the year ended December 31, 2002, HEALTHSOUTH, Microlife and Nature's Sunshine accounted for 56%, 13% and 9% of our gross revenues respectively. For the year ended December 31, 2001, Nature's Sunshine and Procter & Gamble accounted for 29% and 15% of our gross revenue respectively. No customers represented greater than 10% of our gross revenue in 2000.
Revenue from customers outside the United States accounted for 13% of total revenue in 2002 of which 39% reflected sales of product into Europe and 23% to Taiwan. In addition, 38% of revenue from customers outside the United States represented license fees. We recognized no revenue from outside the United States in 2001 and 2000.
Reimbursement
In the United States, medical professionals rely on third-party payors, principally private insurers, Medicare and Medicaid, to reimburse some of the cost associated with diagnostic and monitoring services in which medical devices are used. In January 2002, the Centers for Medicare and Medicaid Services approved the use of Medicare reimbursement codes for registered dietitians who provide medical nutrition therapy, which includes nutritional diagnosis, therapy and counseling, for purposes of managing diabetes and kidney disease. Certain private insurers have also approved similar reimbursement codes for registered dietitians. However, there is little uniformity as to which medical conditions are covered under these codes.
In appropriate cases, we believe that both registered dietitians and other qualified medical professionals can seek third-party reimbursement for some of the cost associated with providing metabolic rate measurement services using MedGem. However, because MedGem did not receive FDA clearance until January 2002 and we did not commence shipment until the end of January 2002, MedGem has not been available long enough for us to evaluate the success that healthcare providers will have in securing reimbursement for its use. In addition, given their strict eligibility requirements, third-party payors may at times refuse to reimburse such procedures. Moreover, the current cost reduction orientation of third-party payors makes it exceedingly difficult for new medical devices and procedures to obtain approval for reimbursement. Often, it is necessary to convince these payors that the new devices or procedures will establish an overall cost savings compared to currently reimbursed devices and procedures.
We believe that MedGem offers significant opportunities for third-party payors to reduce the overall cost of treating patients, such as reductions in length of hospital stays and number of ventilator days, and decreased incidence of infection and complications in medical and surgical patients. While we believe that MedGem possesses economic advantages that will be attractive to such payors, they may not make reimbursement decisions until we can demonstrate with clinical data that our products can improve patient outcomes.
Reimbursement systems in international markets vary significantly by country and, within some countries, by region. Reimbursement approvals must be obtained on a country-by-country basis or a region-by-region basis. In addition, reimbursement systems in international markets may include both private and government sponsored insurance. We have not obtained any international reimbursement approvals. We may not obtain any such approvals in a timely manner, if at all. If we fail to receive international reimbursement approvals at all or in acceptable amounts, market acceptance of our products may be adversely affected.
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Technology and Intellectual Property
Our platform health monitoring device technology uses an innovative approach to monitoring variables in inhaled and exhaled gases. Our devices use advanced ultrasonic sensors to measure gas flow in combination with sophisticated sensor technology to measure oxygen content in that flow. Sophisticated algorithms incorporated into the devices integrate these measurements with data received from other sensors, such as temperature, humidity and barometric pressure, to calculate breath-by-breath oxygen consumption. This platform of sensor technologies can be deployed in different configurations using different algorithms to monitor variables specific to various disease states and health conditions.
We believe our intellectual property portfolio represents a substantial business advantage for us. We rely on a combination of patent, trademark, copyright, trade secret and other intellectual property laws, license agreements, confidentiality agreements and other measures to protect our proprietary rights. We have 16 issued United States patents, eight issued foreign patents and 131 pending United States and foreign patent applications related to our technology. We believe it may take up to five years from the date of filing, and possibly longer, for our patent applications to result in issued patents, if ever.
We rely heavily on licensed technology to enable us to develop, market and sell our products. Our current technology licenses include the following:
Sensors for Medicine and Science, Inc. developed the oxygen sensor used in our MedGem and BodyGem and, pursuant to a development and supply agreement, has granted us an exclusive license to use the patented technology in the field of our products for the life of the patents, subject to our payment of minimum royalties. We pay royalties to Sensors for Medicine and Science based on sales of our disposable products.
ndd Medizintechnik AG developed and licensed to us the patented technology used in the air flow application specified integrated circuits used in our MedGem and BodyGem. The license is exclusive in the field of our products and is for the life of the patent, subject to our payment of minimum royalties. We pay royalties to ndd based on sales of our products.
We have four issued United States registrations, 23 pending United States applications for registration, 17 issued foreign registrations and 10 pending foreign applications for registration for trademarks including HealtheTech, the HealtheTech logo, MedGem, BodyGem, FitGem and BalanceLog.
We require all of our employees, consultants and other parties to execute confidentiality agreements. These agreements prohibit disclosure of confidential information to third parties except in specified circumstances. In addition, all of our employees and consultants are required to execute invention assignment agreements, which generally provide that all proprietary information relating to our business is the exclusive property of the company.
Research and Development
Our research and development activities are conducted by our research and development staff, which consisted of 33 employees as of December 31, 2002, and third-party contractors, including certain of our suppliers and licensors. Our research and development expenditures were $6.8 million in 2002, $6.1 million in 2001 and $9.2 million in 2000. Our research and development efforts are focused on:
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Government Regulation
As a participant in the healthcare industry we are subject to extensive and frequently changing regulation under many laws administered by governmental entities at the federal, state and local level. Foremost among these are the regulations of the Food and Drug Administration, or FDA. FDA regulations govern several activities that either we perform or have had performed on our behalf such as: product design and development; product testing; product manufacturing; product labeling and packaging; product handling, storage and installation; premarket clearance or approval; advertising and promotion; and product sales, distribution and servicing.
Unless an exemption applies, each medical device we wish to commercially distribute in the United States, including certain medical software applications, must first receive 510(k) clearance or premarket approval from the FDA. In January 2002, we received 510(k) clearance from the FDA to market our MedGem device, a class II medical device, for prescription use in the United States. The product was cleared for the measurement of oxygen uptake in clinical and research applications. The FDA also allows our device to display resting metabolic rate, which the device calculates from the measurement of oxygen consumption and an internal device formula. Additionally, as part of our FDA clearance of the MedGem, we are required to set forth in our labeling the formula used to estimate resting metabolic rate and a discussion on how the calculation may affect the accuracy of the resting metabolic rate measurement. Products such as BodyGem and the non-medical version of FitGem, as well as software applications associated with those products, are not regulated by the FDA because the intended use and data generated from their use is not of a clinical nature and is not used for determining medical treatments.
After a medical device is placed on the market, numerous FDA regulatory requirements apply. These include quality system regulation, establishment registration, medical device listing, labeling regulations and medical device reporting regulations. Failure to comply with applicable regulatory requirements can result in enforcement action by the FDA, which may include sanctions such as: fines, injunctions and civil penalties; mandatory recall or seizure of our products; administrative detention or banning of our products; operating restrictions, partial suspension or total shutdown of production; refusing our request for 510(k) clearance or pre-market approval of new or modified products; revocation of 510(k) clearance or pre-market approvals previously granted; and criminal penalties.
International sales of medical devices are subject to foreign government regulations, which vary substantially from country to country. The time required to obtain approval by a foreign country may be longer or shorter than that required for FDA approval, and the requirements may differ significantly. For example, the European Union has adopted legislation, in the form of directives to be implemented in each member state, concerning the regulation of medical devices within the European Union. Among these are the Medical Device Directive, which establishes standards for regulating the design, manufacture, clinical trials, labeling and adverse event reporting for medical devices. The medical devices of manufacturers who demonstrate compliance with the requirements of the Medical Device Directive may bear CE Marking, indicating compliance with the requirements of the Medical Device Directive. Medical devices properly bearing the CE Marking may be commercially distributed throughout the European Union. In June 2002 we obtained the right to affix the CE Marking to our MedGem, MedGem Analyzer and BodyGem products.
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Manufacturing, Warehousing and Logistics
Our strategy is to outsource the manufacturing, warehousing and shipping of our health monitoring devices, disposables and software to benefit from the resources of our contract manufacturers and fulfillment vendor. We rely on contractors for the manufacture, warehousing and shipping of our products and their component parts.
Our primary component subcontractors are Mikrofontechnik Leipzig GmbH, Sensors For Medicine and Science, Inc., Seco Sensor Consult GmbH, Centre Suisse d'Essais des Composants Electroniques (CSEE), and Austria Mikro Systems International AG. Mikrofontechnik Leipzig manufactures the air flow transducers used in our health monitoring devices. Sensors For Medicine and Science produces our oxygen sensors, which it developed pursuant to a development and supply agreement. This agreement requires Sensors for Medicine and Science to supply us with the oxygen sensors for the life of the patents that cover the sensor technology. We place our supply orders with Sensors for Medicine and Science on a quarterly basis. See our discussion of risks associated with reliance on our third party manufacturers contained in the "Risk Factors" section of this Form 10-K.
Austria Mikro Systems International together with CSEE manufactures and assembles our air flow application specific integrated circuit, or ASIC, on a purchase order basis, based on technology developed by ndd Medizintechnik and licensed to us. Each of our manufacturing subcontractors purchases all necessary parts and materials to produce complete finished goods. Currently, oxygen sensors are a key sole-sourced component part. We obtain our air flow transducers and our air flow ASICs from limited sources.
Competition
The markets for our products are competitive and subject to rapid technological change. Certain of our current and potential competitors have greater name recognition, longer operating histories, larger customer bases and significantly greater financial, technical, marketing, sales, distribution and other resources than we do. These competitors may, among other things, be able to undertake more extensive research and development, adopt more aggressive marketing and pricing strategies, obtain more favorable pricing from suppliers and manufacturers and make more attractive offers to distribution partners than we can. In addition, some healthcare professionals and wellness advisors will continue to use existing methodologies, such as the Harris-Benedict equation and other formulas used to estimate metabolic rate, to derive metabolic rate estimates.
Our current and potential competitors include:
In addition, we also compete to some extent with pharmaceutical companies, commercial weight management companies, producers of fitness products and equipment and other providers of alternative solutions to weight management and fitness. We believe that our competitive strengths are our technological leadership, our product design, performance and price, our focus on the needs of our
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customers including education and training, and our distribution strategy. To remain competitive, we believe that we must invest significant resources in developing new products and enhancing our current products and maintaining customer satisfaction worldwide.
Employees
At December 31, 2002, we had 84 full-time employees, all of whom were based in the United States. Of the total, 33 were in research and development and clinical affairs, 17 were engaged in sales, marketing and customer service, 6 were in regulatory and quality assurance, and 28 were engaged in various administrative, finance and operations activities. None of our employees are subject to a collective bargaining agreement and we believe that our relations with our employees are good.
Scientific Advisory Group
We have established a scientific advisory group to provide us with access to advice and direction from a group of well respected and established professionals. Our advisory group members have expertise in weight management and the treatment of obesity, clinical and hospital-based nutrition programs, and the nutrition, fitness and health club industries. None of the members of our scientific advisory group is an officer, director or employee of the company. The following individuals are members of our scientific advisory group:
| Name |
Position and Affiliation |
|
|---|---|---|
| James O. Hill, Ph.D. | Director, Center for Human Nutrition, University of Colorado Health Sciences Center, Denver, Colorado | |
| Charles Billington, M.D. | Professor of Medicine, VA Medical Center, Special Diagnosis and Treatment Unit 111P, Minneapolis, Minnesota | |
| Steven Blair, DPE | Director of Research, Cooper Institute for Aerobics Research, Dallas, Texas | |
| George L. Blackburn, M.D., Ph.D. | Associate Director of Nutrition, Division of Nutrition, Harvard Medical School, Beth Israel Deaconess Medical Center, Boston, Massachusetts | |
| Richard Branson, R.R.T. | Associate Professor of Clinical Surgery, Department of Surgery, Division of Trauma and Critical Care, University Hospital Medical Center, Cincinnati, Ohio | |
| Gary Foster, Ph.D. | Associate Professor and Clinical Director Weight and Eating Disorders Program, University of Pennsylvania School of Medicine, Philadelphia, Pennsylvania | |
| John P. Grant, M.D. | Professor of Surgery, Duke University Medical Center, Durham, North Carolina | |
| Steven Heymsfield, M.D. | Deputy Director, Obesity Research, St. Luke's-Roosevelt Hospital Center, Columbia University College of Physicians and Surgeons, New York, New York | |
| Carol S. Ireton-Jones, Ph.D., R.D., L.D., C.N.S.D., F.A.C.N. | Nutrition Therapy Specialist, Carrollton, Texas | |
| Danny O. Jacobs, M.D., M.P.H., C.N.S.P. | Chairman, Department of Surgery, Creighton University Medical Center, Omaha, Nebraska |
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| Janet King, Ph.D. | Director, USDA Western Research Center, University of California, Davis, California | |
| Samuel Klein, M.D. | William H. Danforth Professor of Medicine and Nutritional Science Director, Center for Human Nutrition, Washington University, St. Louis, Missouri | |
| Steven A. McClave, M.D. | Medical Director, Gastroenterology/Clinical Nutrition Vencor Hospital, Louisville, Kentucky; Director, Clinical Nutrition, University of Louisville School of Medicine, Louisville, Kentucky | |
| David Nieman, Ph.D. | Director, Human Performance Laboratory, Appalachian State University, Boone, North Carolina | |
| Sachiko St. Jeor, Ph.D., R.D. | Professor and Director of Nutrition Education and Research Program at the University of Nevada at Reno, University of Nevada School of Medicine, Reno, Nevada | |
| Tom Storer, Ph.D. | Professor and Director, Exercise Science Laboratory, El Camino College, Torrance, California. Adjunct Professor of Medicine, Division of Endocrinology Charles Drew-University of California, Los Angeles School of Medicine, Los Angeles, California |
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Risks Related to Our Business
Our brief operating history makes it difficult to evaluate our prospects.
We were incorporated in February 1998. Through November 2001, we were primarily engaged in the research and development of our initial products. We commenced shipment of our health monitoring devices in 2001 and executed our first significant distribution agreement in August 2001. As a result of our limited operating history, we have a limited amount of financial data that you can use to evaluate our business. Moreover, the revenue and profitability potential of our markets are unproven. You must consider our prospects in light of the risks, expenses and challenges we might encounter because we are at an early stage of development in new and developing markets. We may not successfully address these risks, and our business strategy may not prove successful.
We recorded only $17.0 million in revenue since our inception, we have a large accumulated deficit, we expect future losses and we may not achieve or maintain profitability.
Since our inception through December 31, 2002, we recorded only $17.0 million in revenue, of which only $16.0 million was from products we currently sell. As a result, we will need to significantly increase the revenue we receive from sales of our products, while controlling our expenses, in order to achieve profitability. We have incurred substantial losses each year since our inception in funding the research and development of our products and technologies, the Food and Drug Administration, or FDA, marketing clearance process for MedGem, the growth of our organizational resources and other activities. As of December 31, 2002, we had an accumulated deficit of $64.2 million.
We expect that our expenses will continue to increase significantly as we, among other things:
We may not generate a sufficient level of revenue to offset these expenditures, and we may be unable to adjust spending in a timely manner to respond to any failure to increase our revenue. Even if we do achieve profitability, we may not be able to sustain or increase profitability.
We expect our future financial results to fluctuate significantly, and failure to increase our revenue or achieve profitability may disappoint securities analysts or investors and result in a decline in our stock price.
We believe that period-to-period comparisons of our historical results of operations are not meaningful and are not a good predictor of our future performance. We expect our future quarterly and annual operating results to fluctuate significantly as we attempt to expand our product offerings and increase sales into different markets. Our revenue, gross margins and operating results are difficult to forecast and may vary significantly from period to period due to a number of factors, many of which are not in our control. These factors include:
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We forecast the volume and timing of orders for our products for operational and production planning and in some cases we become liable for procurement costs based on these forecasts. These forecasts, however, are based on many factors and subjective judgments, and they may be inaccurate. In particular, because of our limited operating history, we do not have meaningful historical information to predict demand for our products, and trends that may emerge, in the various markets into which we sell and plan to sell our products. Moreover, because most of our expenses, such as employee compensation and lease payment obligations, are relatively fixed in the short term, we may be unable to adjust spending quickly enough to offset any unexpected shortfall in revenue growth or any decrease in revenue levels in any particular period. As a result of the foregoing, our operating results may fall below the expectations of securities analysts or investors in future quarters or years, causing our stock price to decline.
If our customers or distributors purchase products in excess of current demand, our revenue may unexpectedly decline in future periods, which may disappoint securities analysts and investors and result in a decline in our stock price.
With the exception of software sold into the retail channel, we recognize revenue when ownership transfers to our customers or distributors. These customers or distributors may make purchases well in advance of the actual resale, deployment or use of our products, particularly in the case of their initial purchases of our products, or may make purchases in excess of current requirements to take advantage of volume or price discounts. Additionally, our customers or distributors may purchase disposables from us based on their projected utilization of our MedGem and BodyGem devices. Some customers or distributors have exclusive rights in a particular market if they meet contractual minimum purchase requirements and may make purchases in excess of actual demand in order to maintain that exclusivity. Our revenue could decline in future periods if our customers and distributors acquire a supply of our products that is in excess of their demand or if our customers or distributors and their resale customers fail to develop a successful deployment strategy for our devices. Moreover, our revenue may not be indicative of the number of health monitoring devices in use or the number of disposables used in a particular period. Consequently, our historical operating results may not provide any indication of the number of health monitoring devices and disposables that may be purchased or used in future periods.
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Our strategic partners may experience financial difficulties or undergo organizational changes, which may harm our ability to distribute our products, and could result in a substantial decline in our revenue and overall operating results.
We expect that a majority of our sales will be made to a limited number of customers, including our strategic partners and distributors. One or more of our strategic partners may experience financial difficulties or undergo organizational changes that could affect their ability or need to purchase our products. Organizational restructurings and financial concerns may cause our strategic partners to substantially reduce the volume of their purchases of our products, or to no longer continue as our distributors. As a result, our ability to effectively distribute our products may be harmed, and we may experience a significant decline in our revenue and overall operating results.
We have very limited product offerings from which we expect to derive substantially all of our future revenue. If demand for our limited number of products fails to develop as we expect or otherwise declines, we could fail to generate sufficient revenue to achieve profitability.
We derive substantially all of our revenue from the sale of MedGem, BodyGem, disposables and software. In January 2002, we obtained FDA clearance to market MedGem and accordingly did not derive any of our revenue from the sale of MedGem prior to that time. We expect that revenue from the sale of MedGem, BodyGem, disposables and our BalanceLog software will account for substantially all of our revenue for the foreseeable future. In particular, we expect disposable sales and sales of our software products to comprise a larger portion of revenue over time. The limited development and sales of our product line makes our future prospects difficult to predict. If the anticipated demand for our products fails to develop, our ability to generate revenue and achieve profitability would be significantly harmed. In particular, the failure to sell sufficient quantities of MedGem and BodyGem would not only directly affect revenue but would also significantly harm our ability to generate recurring revenue from the sale of our disposables and may limit sales of software products.
The failure of our customers to adhere to single-use labeling restrictions for disposable facemasks and mouthpieces, or the use of disposables acquired from third party sources would significantly limit our ability to generate recurring revenue.
Our disposable products used with MedGem were cleared by the FDA for single-use only and the labeling states that a new disposable mouthpiece or facemask be used each time MedGem is used. We also label and contractually require our distributors and strategic partners to acknowledge that disposables are single-use and to use a new disposable each time a BodyGem or MedGem device is used. We anticipate that a significant portion of our future revenue will be derived from the use of a new disposable each time our health monitoring devices are used. If customers do not adhere to our single-use labeling instructions, or if customers use disposables acquired from third parties, our ability to generate recurring revenue would be significantly harmed, our operating results may suffer and we may incur significant costs in developing future versions of our product that provide for alternative means to track and charge for usage. We may not successfully develop these alternative means.
If we cannot convince healthcare professionals, wellness advisors and their patients and clients of the importance of measuring metabolism for nutrition monitoring, weight management and fitness applications and of the benefits of our products, we will not be able to increase our revenue and our operating results would suffer.
Our products, which have only recently been launched, have achieved limited adoption in their target markets and our ability to sell to customers and distributors in these markets is unproven. Consequently, there is limited information upon which to evaluate whether a significant number of potential customers will purchase our solutions to replace or supplement their current methods for nutrition monitoring and weight management. As part of our strategy, we will be required to educate
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healthcare professionals and wellness advisors as to the importance of measuring metabolism for nutrition monitoring, weight management and other applications. However, these practitioners may view existing tools, such as estimates of resting metabolic rate, as adequate for their needs. Patients and clients may also view present methods of nutrition monitoring and weight management, including self-administered weight-loss regimens, commercial weight loss programs and pharmaceuticals, as adequate without the need for the additional benefits provided by our products. Additionally, as part of our FDA clearance of MedGem, we are required to set forth in our labeling the formula used to estimate resting metabolic rate and a discussion on how the calculation may affect the accuracy of the resting metabolic rate measurement. If we cannot convince practitioners, patients and clients that accurately measuring metabolism is important for nutrition monitoring, weight management and other applications and that our solution is superior to current tools, we will be unable to increase or sustain revenue.
The commercial weight management and fitness markets are characterized by short-lived trends and we may not experience increased demand for our products, or any increase in demand may be short-lived.
Due in part to the difficulty of weight management and fitness enhancement and the regular introduction of new weight management or fitness products and regimens, many products sold in the weight management and fitness markets have short product lifecycles. The weight management and fitness markets are characterized by fads and short-lived trends driven by factors such as short-term success, perceived efficacy and marketing campaigns. Weight management and fitness improvement can be difficult, and many people abandon weight loss and fitness regimens due to factors unrelated to the effectiveness of the regimen. We have not conducted trials or other tests to demonstrate to our customers and end-users that our products are effective in helping people lose weight or improve their fitness. Sales of BalanceLog, BodyGem and our disposables will suffer and our revenue and results of operations will be harmed if we and our strategic partners are not able to convince end-users that the measurement of resting metabolic rate will effectively and efficiently help their weight management or fitness efforts, or if people who use our products do not meet their weight goals.
Our consumer software products have uncertain market acceptance, short product life cycles and may be subject to returns from our distributors.
A substantial portion of our current sales orders relate to the sale of BalanceLog software. Consumer preferences for software products, particularly software relating to weight management and fitness, are difficult to predict and few consumer software products achieve sustained market acceptance. There can be no assurance that BalanceLog software or other software products that we introduce will achieve any significant degree of market acceptance, or that such acceptance will be sustained for any significant period.
We typically sell BalanceLog software, and intend to sell our future consumer software applications, separately through retail distribution channels. In most circumstances, our distributors and customers have certain return rights and in other circumstances we could be forced to accept substantial product returns to maintain our relationships with certain distributors and customers. Because the sale of our software products has a limited history, we do not have a historical basis for estimating the rate of such returns and therefore have deferred recognizing revenue until sold to an end user. Failure of the current or new releases of BalanceLog software or other software offerings to achieve market acceptance or product returns in excess of our expectations would have a material adverse effect on our operating results and financial condition.
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We currently rely on a limited number of distributors for the sale of MedGem and BodyGem into the medical markets and, to a lesser extent, other target markets. If these distributors are not successful selling our products, or if we are unable to establish additional distributor arrangements as planned, we will not be able to achieve our sales goals and our business will be harmed.
We expect to rely primarily upon distributors and their sales forces to sell MedGem into the medical market and to increasingly rely upon distributors and their sales forces to sell BodyGem into the retail pharmacy, weight management, fitness and other target markets. We currently have a limited number of distributors, such as HEALTHSOUTH Corporation, Mead Johnson & Company, Microlife Corporation and Nature's Sunshine Products, Inc. for the distribution of our products into global markets. Our reliance on distributors subjects us to many risks, including risks related to their inventory levels and support for our products. If any of our distributors attempt to reduce their inventory levels or if they do not maintain sufficient levels to meet customer demand, our sales could be negatively affected. As is generally the case with our current distribution agreements, we anticipate that our future distribution agreements will allow our distributors to reduce or discontinue purchases of our products with short notice. Further, distributors may not recommend, or continue to recommend, our products. We will rely heavily upon our distributors for the sales and marketing activities that we believe are critical to the successful sale of our products. However, our distributors may not market or sell our products effectively or continue to develop and devote the resources necessary to provide us with effective sales, marketing and technical support. For example, while we have granted to a subsidiary of Microlife Corporation an exclusive right to sell our products to retail pharmacies in Europe, and weight management and fitness/exercise markets in Taiwan, Microlife has limited experience selling into those markets. In addition, we intend to attract additional distributors of MedGem and BodyGem in order to increase penetration in the medical and other markets. It may be difficult to increase our distributor base due to current exclusivity arrangements and prospective requests for exclusivity from distributors and other customers. In addition to the exclusive rights we have granted Microlife, we have granted HEALTHSOUTH Corporation an exclusive right to purchase our products for use in its facilities, an exclusive right to purchase BodyGem for use in and resale to certain non-hospital facilities such as outpatient rehabilitation and physical therapy facilities, and a right of first refusal to provide metabolic rate measurement services to organizations such as in-house corporate wellness programs and fitness facilities. We have entered into a distribution agreement with Mead Johnson & Company for the marketing, sale and distribution of MedGem and related products on an exclusive basis to hospital-based dieticians and physicians and osteopaths specializing in oncology, hospital based nutrition support services, obstetrics, gynecology, pediatrics and bariatric surgery as well as a non-exclusive right to distribute MedGem and related products to certain other categories of physician professionals in the United States. If we are unable to maintain successful relationships with our distributors or obtain additional distributors, we will have to devote substantially more resources to the distribution, sales, marketing, implementation and support of our products than we would otherwise and our efforts may not be as effective. The loss of any one or more of our distributors, a reduction in purchases of our products by or through our distributors, the decline of our distributors' business or the inability to increase our third-party distributor base may limit our revenue growth and harm our operating results.
Because a small number of customers are likely to account for a substantial portion of our revenue, the loss of any of these customers or the cancellation or deferment of a customer's order could cause our revenue to decline substantially and may result in a decline in our share price.
We expect that the majority of our revenue will depend on sales of our products to a limited number of customers, which include our strategic partners and our distributors. We intend to establish strategic relationships with large, prominent companies that possess significant sales, marketing and distribution capabilities in each of our targeted medical and non-medical channels. We have only recently entered into contracts with customers that provide for the potential purchase of significant quantities of our products. As a result, we have not had significant working experience with these new
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customers and it is difficult to predict their purchasing patterns. Many of our contracts with our customers do not contain minimum purchase requirements and any customer may reduce or discontinue purchases of our products at any time. The loss of one or more of our customers, a reduction in purchases of our products by our customers or the decline of our customers' business may cause our revenue to decline substantially or fall short of our expectations. In addition, because we expect our accounts receivable to be concentrated on a small group of customers, the failure of any of them to pay on a timely basis would reduce our cash flow and negatively affect our operating results.
We have granted, and may in the future grant, certain of our customers' exclusive rights to particular markets. For example, we have granted to a subsidiary of Microlife Corporation an exclusive right to sell our products to retail pharmacies in Europe, and weight management and fitness/exercise markets in Taiwan. In addition to the exclusive rights we have granted Microlife, we have granted HEALTHSOUTH Corporation an exclusive right to purchase our products for use in its facilities, an exclusive right to purchase BodyGem for use in and resale to certain non-hospital facilities such as outpatient rehabilitation and physical therapy facilities, and a right of first refusal to provide metabolic rate measurement services to organizations such as in-house corporate wellness programs and fitness facilities. We have entered into a distribution agreement with Mead Johnson & Company for the marketing, sale and distribution of MedGem and related products on an exclusive basis to hospital-based dieticians and physicians and osteopaths specializing in oncology, hospital based nutrition support services, obstetrics, gynecology, pediatrics and bariatric surgery as well as a non-exclusive right to distribute MedGem and related products to certain other categories of physician professionals in the United States. Also, Nature's Sunshine Products, Inc. has an exclusive right to purchase our products for resale to their independent distributors who, in turn, may use our products to provide metabolic rate measurement services to consumers for a fee. These exclusive agreements may limit our ability to add additional customers. If one of these current or future customers fails to adequately promote and sell our products, our sales and penetration into their markets will be adversely affected. Moreover, if any customer that has an exclusive right in a particular market proves to be ineffective, we may not be able to replace that customer for a significant period of time, if at all.
We rely primarily on Sanmina-SCI Corporation to manufacture and assemble MedGem and BodyGem. If it is unable to perform any of these services on a timely and cost-effective basis, our revenue, profitability and stock price could be harmed and our reputation and brand may suffer.
We currently rely primarily on Sanmina-SCI Corporation, a third-party contract manufacturer and assembler, to procure component parts for MedGem and BodyGem and to assemble, test and package MedGem and BodyGem at its facility in San Jose, California. Our reliance on a single third-party manufacturer exposes us to the following significant risks outside our control:
We entered into our agreement with Sanmina in April 2001. As a result, we have not had a long term working experience with Sanmina and therefore cannot predict whether Sanmina will be able to continue to produce MedGem and BodyGem at acceptable cost and quantity levels, and in a timely manner. In particular, Sanmina may not be able to improve or maintain the efficiency and quality of its services when it is required to manufacture larger quantities of our health monitoring devices or meet
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FDA or other regulatory requirements. If Sanmina is unable to meet our requirements, we may be unable to cost effectively provide our customers with sufficient quantities of MedGem and BodyGem devices on a timely basis and our devices may contain defects. If there is any problem with Sanmina's services, our reputation and brand may suffer. We may also lose current and prospective customers and experience a higher rate of product returns due to manufacturing issues, which would harm our revenue and profitability.
Our agreement with Sanmina terminates in April 2004 and may be terminated by Sanmina with cause on 60 days notice. If Sanmina were to stop manufacturing our devices, we may be unable to replace the lost manufacturing capacity on a timely or cost-effective basis, and we could suffer significant disruption in operations, delays in product shipments, a decrease in revenue and an increase in costs. If Sanmina were to seek to change the terms under which it manufactures and assembles for us, our manufacturing and assembly costs could increase and our profitability could suffer.
We purchase one of our key components, an oxygen sensor, from a sole source. If this source fails to satisfy our supply requirements on a timely basis, we may lose sales and experience increased component costs and our customer relationships may be harmed.
We currently purchase the oxygen sensor component of our health monitoring devices from a sole source, Sensors for Medicine and Science, Inc. If we are unable to obtain a sufficient supply of oxygen sensors from this source, or if we experience any interruption in the supply of this component, we could experience difficulties in obtaining alternative sources or in altering product designs to use alternate components. For example, we had to modify the original design of MedGem and BodyGem as a result of our inability to obtain adequate supplies of capacitors that the design required. Any resulting delays or reductions in product shipments could affect our ability to meet scheduled product deliveries to customers, damage customer relationships and limit our ability to enter into new customer relationships. We may also be subject to increases in component costs, which would adversely affect our gross margins.
Our health monitoring devices and our software products may contain unknown errors or defects, which could result in rejection of our products and damage to our reputation, as well as lost revenue, diverted development resources and increased service costs and warranty claims.
Our MedGem and BodyGem devices and our software products incorporate complex technologies. In the future, we must develop our hardware and software products quickly to keep pace with the rapidly changing requirements of our customers. Products as complex as ours can contain undetected errors or defects, especially when first introduced or when new models or versions are released. For instance, in July 2001 we discovered a defect in BodyGem related to our oxygen sensor calibration algorithm and stopped shipment of BodyGem. We spent four months working to correct the defect, and in November 2001 we shipped replacement devices to all of our customers and resumed shipments of the device. We estimate that the direct cost to correct this defect was approximately $187,000. We also suffered damage to our reputation, lost revenue and had to divert development resources. If any of our products in the future contain errors or defects, it could result in product recalls, the rejection of our products, damage to our reputation, lost revenue, diverted development resources and increased customer service and support costs and warranty claims. Any of these results could harm our business.
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If we fail to maintain necessary FDA or other regulatory clearance for the marketing and sale of MedGem or if we fail to obtain or maintain necessary FDA or other regulatory clearance or approvals for the marketing and sale of any other medical devices that we may develop in the future, or if clearances or approvals are delayed, we will be unable to commercially distribute and market those medical devices in the United States or abroad.
MedGem is a medical device that is subject to extensive regulation in the United States and in foreign countries where we do business. In January 2002, we obtained FDA clearance through the premarket notification provisions of Section 510(k) of the Federal Food, Drug and Cosmetic Act to market MedGem for the measurement of oxygen consumption in clinical and research applications. The FDA also allows our device to display resting metabolic rate, which the device calculates from the measurement of oxygen consumption and an internal device algorithm. We have obtained International Standards Organization (ISO) certification and CE Marking approval and are in the process of fulfilling various other international requirements in order to commercially distribute our products in new international markets. We may no longer be able to sell MedGem if safety or effectiveness problems develop or if we lose our ISO certification or CE Marking. Furthermore, unless an exemption applies, before we can sell a new medical device in the United States, we must obtain either 510(k) clearance or premarket approval from the FDA and CE Marking approval before we can sell a new device in international markets. Complying with the FDA and other regulations is an expensive and time-consuming process, and any failure to comply could result in substantial penalties. The FDA's 510(k) clearance process usually takes from six to twelve months after the date we submit the application and it is received and filed by the FDA, but may take significantly longer. The alternative premarket approval process is much more costly, lengthy and uncertain. It generally takes from one to six years after we submit the application and it is received and filed by the FDA or even longer. We may not be able to obtain additional clearances in a timely fashion, or at all. Delays in obtaining domestic and foreign regulatory clearances or approvals, if required, could adversely affect our revenue and profitability. Noncompliance with applicable regulatory requirements can result in enforcement action, which may include recalling products, ceasing product marketing and paying significant fines and penalties, which could limit product sales, delay product shipment and adversely affect our profitability.
Modifications to MedGem may require a new 510(k) clearance or premarket approval or require us to cease marketing or recall the modified device until these clearances or approvals are obtained.
Although we have not modified any aspect of MedGem since receiving our FDA 510(k) clearance in January 2002, we may make modifications to MedGem in the future. Any modification to an FDA cleared device that could significantly affect its safety or effectiveness, or that would constitute a major change in its intended use, requires a new FDA 510(k) clearance. While the manufacturer makes this determination in the first instance, the FDA can review any such decision and may disagree with a decision not to seek new clearance and require a new 510(k) clearance. In addition, the FDA may impose significant regulatory fines or penalties for marketing the modified product. If we need to seek 510(k) clearance for any modifications to a previously cleared product, we may be required to cease marketing until we obtain this clearance.
If we or our third-party manufacturers fail to comply with the FDA's Quality System regulation with respect to MedGem and any other medical devices that we may produce in the future, our manufacturing operations could be delayed, and our MedGem product sales and our profitability could suffer.
The manufacturing processes used by third-party manufacturers of our MedGem and any other medical devices, including disposables, are required to comply with the FDA's Quality System regulation, which covers the methods and documentation of the testing, production, control, quality assurance, labeling, packaging, complaint-handling, storage and shipping of MedGem. The FDA's
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Quality System regulation will also cover any other medical devices that our contract manufacturer or we may produce in the future. The FDA enforces its Quality System regulation through periodic inspections, some of which may be unannounced. If we or our third-party manufacturers fail the FDA's Quality System inspection, our operations could be disrupted and our manufacturing delayed. If we, or one of our third-party manufacturers, fail to comply with the FDA's Quality System regulations, we or our third-party manufacturer could face various enforcement actions, which could include a shutdown of the manufacturing line at our third-party manufacturer and a recall of our products, which would cause our product sales and profitability to suffer. Furthermore, our key component suppliers must also remain in compliance with applicable regulatory requirements. If our third-party manufacturer or component suppliers do not conform to applicable regulations, we may be required to find alternative manufacturers or component suppliers, which could be a long and costly process and which could significantly harm our ability to deliver products to our customers on a timely basis.
Our MedGem device and any other medical devices that we may produce in the future are subject to product recalls even after receiving regulatory clearance or approval. Product recalls would harm our reputation and result in increased costs, either of which could harm our operating results.
The FDA and similar governmental authorities in other countries have the authority to require the recall of our medical products in the event of material deficiencies or defects in design or manufacture. A government mandated or voluntary recall by us could occur as a result of component failures, manufacturing errors or design or labeling defects. Any recall of a product would divert managerial and financial resources, harm our reputation with customers and harm our operating results.
If we fail to protect our intellectual property rights, our competitors may take advantage of our ideas and compete directly against us.
We rely on a combination of patent, trademark, copyright, trade secret and other intellectual property laws, license agreements, confidentiality agreements and other measures to protect our proprietary technology and intellectual property. Our success will depend in part on our ability to maintain existing intellectual property and to obtain and maintain further intellectual property protection for our products, in the United States and in other countries. We have 16 issued United States patents, eight issued foreign patents and 131 pending United States and foreign patent applications. We also have exclusive licenses to patents and other intellectual property rights of the companies that supply us with the oxygen sensor and the airflow application-specific integrated circuits used in MedGem and BodyGem. Subject to our payment of minimum royalties, the licenses provide us with rights to use the patented technology in the field of our products for the life of the patents. We intend to rely on our portfolio of issued patents and pending patent applications in the United States and in other countries and our patent licenses to protect a portion of our intellectual property and our competitive position. However, our patents and any licensed patents may not protect or address critical aspects of the technology incorporated in our present and future products. Moreover, intellectual property laws and legal agreements afford only limited protection, may be expensive to pursue and may not adequately protect our rights or permit us to gain or keep any competitive advantage. Our patents and the patents that we license may be challenged, invalidated or circumvented by third-parties, and these patents may not be sufficiently broad to prevent third parties from producing competing products similar in design to our products. Our patent applications, including those already allowed and those patent applications covered under licenses, may not be issued as patents in a form that will be advantageous to us.
In addition, we may not be able to prevent the unauthorized disclosure or use of our technical knowledge or other trade secrets by our employees, consultants, partners or other persons. Our confidentiality agreements may not provide meaningful protection against the unauthorized use or disclosure of our trade secrets or other confidential information and adequate remedies may not exist if
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unauthorized use or disclosure were to occur. Furthermore, the laws of foreign countries may not protect our intellectual property rights to the same extent as the laws of the United States. Even if our intellectual property rights are adequately protected, litigation may be necessary to enforce our intellectual property rights, which could result in substantial costs to us and result in a substantial diversion of management attention. If our intellectual property is not adequately protected, our competitors could use our intellectual property to enhance their products. This could harm our competitive position, decrease our market share or otherwise harm our business.
If we infringe the patents or proprietary rights of other parties, our ability to grow our business will be severely limited.
Extensive litigation and related administrative proceedings regarding disputes over patents and other intellectual property rights are common in the medical device and software industries. In addition, major medical device companies have used litigation against emerging growth companies as a means of gaining a competitive advantage. Although we have not been sued for infringement of another party's patent in the past, we may be the subject of patent or other litigation in the future. From time to time, we may receive letters from third parties drawing our attention to their patent rights. Third-parties may claim that we are using their patented inventions and may go to court to stop us from engaging in our normal operations and activities. These lawsuits are expensive to defend and conduct and would also consume and divert a significant amount of time and attention of our management. A court may decide that we are infringing a third-party's patents and may order us to cease the infringing activity. An adverse determination could put our patents at risk of being invalidated or interpreted narrowly or require us to seek licenses from third-parties. Licenses may not be available on commercially reasonable terms or at all, in which event, our business would be significantly harmed. The court could also order us to pay damages for the infringement. These damages could be substantial and could harm our business, financial condition and operating results. While we do not believe that we infringe any valid and enforceable rights that have been brought to our attention, there may be other more pertinent rights of which we are presently unaware.
We license or sublicense key technology from third-parties. If necessary licenses or sublicenses of technology are terminated or become unavailable or too expensive, or if licensors or sublicensors fail to prosecute and enforce patents licensed to us, our competitive position and our product offering will suffer.
We license or sublicense from third-party suppliers several key technologies incorporated or to be incorporated in our health monitoring devices, such as oxygen sensor technology from Sensors for Medicine and Science and air flow application specific integrated circuits from ndd Medizintechnik AG. We do not own the patents that underlie these licenses or sublicenses. We may be required to license or sublicense technology from other third-party suppliers to enable us to develop new products or to modify our existing products. Our rig