Attached files
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EX-32.1 - EXHIBIT 32.1 - HeartWare International, Inc. | c23634exv32w1.htm |
EX-31.2 - EXHIBIT 31.2 - HeartWare International, Inc. | c23634exv31w2.htm |
EX-31.1 - EXHIBIT 31.1 - HeartWare International, Inc. | c23634exv31w1.htm |
EXCEL - IDEA: XBRL DOCUMENT - HeartWare International, Inc. | Financial_Report.xls |
EX-32.2 - EXHIBIT 32.2 - HeartWare International, Inc. | c23634exv32w2.htm |
Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
þ | Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 |
For the quarterly period ended September 30, 2011
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 NUMBER: 001-34256
HEARTWARE INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
Delaware | 26-3636023 | |
(State of Incorporation) | (I.R.S. Employer Identification No.) |
205 Newbury Street, Suite 101
Framingham, Massachusetts 01701
+1 508 739 0950
Framingham, Massachusetts 01701
+1 508 739 0950
(Address of principal executive offices)
(Registrants telephone number, including area code)
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed
by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its
corporate Web site, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months
(or for such shorter period that the registrant was required to submit and post such files). Yes
þ No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer,
or a non-accelerated filer or a smaller reporting company. See the definitions of large
accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the
Exchange Act.
Large accelerated filer o | Accelerated filer þ | Non-accelerated filer o | Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the
Exchange Act). Yes o No þ
Indicate the number of shares outstanding of each of the issuers classes of common stock, as of
the latest practicable date.
Class | Shares Outstanding as of October 24, 2011 | |
Common Stock, $0.001 Par Value Per Share | 14,053,526 |
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References
Unless
the context requires otherwise, references in this Quarterly Report
on Form 10-Q to:
| HeartWare, the Company, HeartWare Group, we, us and our refer to HeartWare International, Inc. and its consolidated subsidiaries, HeartWare Pty. Limited, HeartWare, Inc., HeartWare GmbH, HeartWare (UK) Limited and HeartWare France SAS. |
| HeartWare International, Inc. refers to HeartWare International, Inc., a Delaware corporation incorporated on July 29, 2008. |
| HeartWare Pty. Limited refers to HeartWare Pty. Limited (formerly known as HeartWare Limited), an Australian proprietary corporation originally incorporated on November 26, 2004. |
| HeartWare, Inc. refers to HeartWare, Inc., a Delaware corporation incorporated on April 3, 2003. HeartWare, Inc. was acquired by HeartWare Pty. Limited on January 24, 2005. |
| HeartWare GmbH refers to HeartWare GmbH, a German corporation established on February 19, 2010. |
| HeartWare (UK) Limited refers to HeartWare (UK) Limited, a limited liability corporation established in the United Kingdom on February 19, 2010. |
| HeartWare France SAS refers to HeartWare France, a French corporation established on August 16, 2011. |
Currency
Unless indicated otherwise in this Quarterly Report on Form 10-Q, all references to $, U.S.$ or
dollars refer to United States dollars, the lawful currency of the United States of America.
References to AU$ refer to Australian dollars, the lawful currency of the Commonwealth of
Australia, and references to or Euros means Euros, the single currency of Participating
Member States of the European Union.
Trademarks
HEARTWARE®, HVAD® and MVAD®, KRITON® and various company logos are the trademarks of the Company in
the United States, Europe, Australia and other countries. All other trademarks and trade names
mentioned in this Quarterly Report on Form 10-Q are the property of their respective owners.
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains 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. These forward-looking statements are based on our managements beliefs,
assumptions and expectations and on information currently available to our management. Generally,
you can identify forward-looking statements by terms such as may, will, should, could,
would, expects, plans, anticipates, believes, estimates, projects, predicts,
potential and similar expressions intended to identify forward-looking statements, which
generally are not historical in nature. All statements that address operating or financial
performance, events or developments that we expect or anticipate will occur in the future are
forward-looking statements, including without limitation:
| our expectations with respect to regulatory submissions and approvals, such as United States Food & Drug Administration (FDA) approval of our premarket approval application for our HeartWare® Ventricular Assist System for a bridge-to-transplant indication; |
| our expectations with respect to our clinical trials, including initiation of, enrollment in or completion of our clinical trials; |
| our expectations with respect to the integrity or capabilities of our intellectual property position; |
| our ability and plans to commercialize our existing products; |
| our ability and plans to develop and commercialize new products and the expected features and functionalities and possible benefits of these products; and |
| our estimates regarding our capital requirements and availability and our financial performance, including profitability and foreign currency fluctuation. |
3
Table of Contents
Our management believes that these forward-looking statements are reasonable as and when made.
However, you should not place undue reliance on forward-looking statements because they speak only
as of the date when made. We do not assume any obligation to publicly update or revise any
forward-looking statements, whether as a result of new information, future events or otherwise,
except as may be required by federal securities laws and the rules of the Securities and Exchange
Commission (the SEC). We may not actually achieve the plans, projections or expectations
disclosed in our forward-looking statements, and actual results, developments or events could
differ materially from those disclosed in the forward-looking statements. Forward-looking
statements are subject to a number of risks and uncertainties, including without limitation those
described in Part I, Item 1A. Risk Factors in our Annual Report on Form 10-K for the fiscal year
ended December 31, 2010 filed with the SEC on February 24, 2011, and those described from time to
time in our other filings with the SEC.
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Table of Contents
PART I. FINANCIAL INFORMATION
ITEM 1. | CONDENSED CONSOLIDATED FINANCIAL STATEMENTS |
HEARTWARE INTERNATIONAL, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(unaudited)
CONDENSED CONSOLIDATED BALANCE SHEETS
(unaudited)
September 30, 2011 | December 31, 2010 | |||||||
ASSETS |
||||||||
Current assets: |
||||||||
Cash and cash equivalents |
$ | 99,124,304 | $ | 192,148,312 | ||||
Short-term investments, net |
90,291,868 | 21,330,110 | ||||||
Accounts receivable, net |
11,336,947 | 19,052,672 | ||||||
Inventories, net |
28,573,235 | 15,076,590 | ||||||
Prepaid expenses and other current assets |
5,039,322 | 2,406,505 | ||||||
Total current assets |
234,365,676 | 250,014,189 | ||||||
Property, plant and equipment, net |
14,827,525 | 7,484,022 | ||||||
Long-term investments, net |
| 4,005,659 | ||||||
Other intangible assets, net |
1,905,454 | 1,595,456 | ||||||
Deferred financing costs, net |
2,727,671 | 2,939,149 | ||||||
Restricted cash |
1,538,429 | 1,538,429 | ||||||
Total assets |
$ | 255,364,755 | $ | 267,576,904 | ||||
LIABILITIES AND STOCKHOLDERS EQUITY |
||||||||
Current liabilities: |
||||||||
Accounts payable |
$ | 4,568,149 | $ | 3,889,643 | ||||
Accrued expenses and other current liabilities |
11,237,716 | 7,001,350 | ||||||
Total current liabilities |
15,805,865 | 10,890,993 | ||||||
Convertible senior notes, net |
92,876,969 | 88,921,557 | ||||||
Other long-term liabilities |
1,947,012 | | ||||||
Commitments and contingencies See Note 16 |
||||||||
Stockholders equity: |
||||||||
Preferred stock $.001 par value; 5,000,000 shares
authorized; no shares issued and outstanding at
September 30, 2011 and December 31, 2010 |
| | ||||||
Common stock $.001 par value; 25,000,000 shares
authorized; 14,053,526 and 13,878,686 shares issued
and outstanding at September 30, 2011 and December
31, 2010, respectively |
14,054 | 13,879 | ||||||
Additional paid-in capital |
313,186,481 | 302,533,344 | ||||||
Accumulated deficit |
(160,759,907 | ) | (127,268,545 | ) | ||||
Accumulated other comprehensive loss: |
||||||||
Cumulative translation adjustments |
(7,717,949 | ) | (7,548,706 | ) | ||||
Unrealized gain on investments |
12,230 | 34,382 | ||||||
Total accumulated other comprehensive loss |
(7,705,719 | ) | (7,514,324 | ) | ||||
Total stockholders equity |
144,734,909 | 167,764,354 | ||||||
Total liabilities and stockholders equity |
$ | 255,364,755 | $ | 267,576,904 | ||||
The accompanying notes are an integral part of these financial statements.
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Table of Contents
HEARTWARE INTERNATIONAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
Three Months Ended | Nine Months Ended | |||||||||||||||
September 30, | September 30, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Revenues, net |
$ | 21,339,698 | $ | 13,816,693 | $ | 59,703,789 | $ | 34,276,891 | ||||||||
Cost of revenues |
7,883,570 | 6,002,368 | 23,392,368 | 15,976,258 | ||||||||||||
Gross profit |
13,456,128 | 7,814,325 | 36,311,421 | 18,300,633 | ||||||||||||
Operating expenses: |
||||||||||||||||
Selling, general and administrative |
10,832,896 | 6,993,636 | 29,389,309 | 19,238,437 | ||||||||||||
Research and development |
12,705,042 | 9,312,738 | 32,284,700 | 21,579,617 | ||||||||||||
Total operating expenses |
23,537,938 | 16,306,374 | 61,674,009 | 40,818,054 | ||||||||||||
Loss from operations |
(10,081,810 | ) | (8,492,049 | ) | (25,362,588 | ) | (22,517,421 | ) | ||||||||
Other income (expense): |
||||||||||||||||
Foreign exchange gain (loss) |
(1,433,303 | ) | 514,191 | (707,089 | ) | (259,309 | ) | |||||||||
Interest expense |
(2,688,898 | ) | | (7,940,928 | ) | (971 | ) | |||||||||
Investment income, net |
118,322 | 133,775 | 413,422 | 407,254 | ||||||||||||
Other, net |
121,373 | | 105,821 | | ||||||||||||
Loss before income taxes |
(13,964,316 | ) | (7,844,083 | ) | (33,491,362 | ) | (22,370,447 | ) | ||||||||
Provision for income taxes |
| | | | ||||||||||||
Net loss |
$ | (13,964,316 | ) | $ | (7,844,083 | ) | $ | (33,491,362 | ) | $ | (22,370,447 | ) | ||||
Net loss per common share basic
and diluted |
$ | (1.00 | ) | $ | (0.57 | ) | $ | (2.41 | ) | $ | (1.66 | ) | ||||
Weighted average shares
outstanding basic and diluted |
13,948,162 | 13,752,829 | 13,924,182 | 13,467,540 | ||||||||||||
The accompanying notes are an integral part of these financial statements.
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Table of Contents
HEARTWARE INTERNATIONAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(unaudited)
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(unaudited)
Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Net loss |
$ | (13,964,316 | ) | $ | (7,844,083 | ) | $ | (33,491,362 | ) | $ | (22,370,447 | ) | ||||
Foreign currency
translation
adjustments |
(260,688 | ) | 261,075 | (169,243 | ) | 198,337 | ||||||||||
Unrealized gain
(loss) on
investments |
3,155 | 76,209 | (22,152 | ) | 31,085 | |||||||||||
Comprehensive loss |
$ | (14,221,849 | ) | $ | (7,506,799 | ) | $ | (33,682,757 | ) | $ | (22,141,025 | ) | ||||
The accompanying notes are an integral part of these financial statements.
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Table of Contents
HEARTWARE INTERNATIONAL, INC.
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS EQUITY
(unaudited)
CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS EQUITY
(unaudited)
Accumulated | ||||||||||||||||||||||||
Common Shares | Additional | Other | ||||||||||||||||||||||
Shares | Paid-In | Accumulated | Comprehensive | |||||||||||||||||||||
Issued | Amount | Capital | Deficit | Loss | Total | |||||||||||||||||||
Balance, December 31, 2010 |
13,878,686 | $ | 13,879 | $ | 302,533,344 | $ | (127,268,545 | ) | $ | (7,514,324 | ) | $ | 167,764,354 | |||||||||||
Issuance of common stock
pursuant to share-based awards |
174,840 | 175 | 658,548 | | | 658,723 | ||||||||||||||||||
Share-based compensation |
| | 9,994,589 | | | 9,994,589 | ||||||||||||||||||
Net loss |
| | | (33,491,362 | ) | | (33,491,362 | ) | ||||||||||||||||
Other comprehensive loss: |
||||||||||||||||||||||||
Foreign currency translation
adjustment |
| | | | (169,243 | ) | (169,243 | ) | ||||||||||||||||
Unrealized loss on investments |
| | | | (22,152 | ) | (22,152 | ) | ||||||||||||||||
Balance, September 30, 2011 |
14,053,526 | $ | 14,054 | $ | 313,186,481 | $ | (160,759,907 | ) | $ | (7,705,719 | ) | $ | 144,734,909 | |||||||||||
The accompanying notes are an integral part of these financial statements.
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Table of Contents
HEARTWARE INTERNATIONAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
Nine Months Ended September 30, | ||||||||
2011 | 2010 | |||||||
CASH FLOWS FROM OPERATING ACTIVITIES |
||||||||
Net loss |
$ | (33,491,362 | ) | $ | (22,370,447 | ) | ||
Adjustments to reconcile net loss to net cash used
in operating activities: |
||||||||
Depreciation of property, plant and equipment |
1,674,954 | 958,143 | ||||||
Amortization of intangible assets |
99,228 | 73,339 | ||||||
Share-based compensation expense |
9,994,589 | 8,561,918 | ||||||
Amortization of premium on investments |
679,830 | 330,506 | ||||||
Amortization of discount on convertible senior notes |
3,955,412 | | ||||||
Amortization of deferred financing costs |
212,078 | | ||||||
Other |
221,611 | 400,000 | ||||||
Change in operating assets and liabilities: |
||||||||
Accounts receivable |
7,396,932 | 2,763,282 | ||||||
Inventories, net |
(14,019,547 | ) | (8,348,090 | ) | ||||
Prepaid expenses and other current assets |
(2,533,284 | ) | (595,181 | ) | ||||
Accounts payable |
678,903 | 21,787 | ||||||
Accrued interest on convertible senior notes |
1,257,812 | | ||||||
Accrued expenses and other current liabilities |
2,982,620 | 3,318,705 | ||||||
Other long-term liabilities |
1,947,012 | | ||||||
Net cash used in operating activities |
(18,943,212 | ) | (14,886,038 | ) | ||||
CASH FLOWS FROM INVESTING ACTIVITIES |
||||||||
Purchases of investments |
(120,658,082 | ) | (25,802,150 | ) | ||||
Maturities of investments |
55,000,000 | | ||||||
Additions to property, plant and equipment, net |
(8,528,989 | ) | (4,053,433 | ) | ||||
Additions to patents |
(409,227 | ) | (366,958 | ) | ||||
Net cash used in investing activities |
(74,596,298 | ) | (30,222,541 | ) | ||||
CASH FLOWS FROM FINANCING ACTIVITIES |
||||||||
Proceeds from issuance of common stock |
| 62,760,450 | ||||||
Payment of common stock issuance costs |
(600 | ) | (4,359,934 | ) | ||||
Proceeds from exercise of stock options |
658,723 | 3,266,679 | ||||||
Net cash provided by financing activities |
658,123 | 61,667,195 | ||||||
Effect of exchange rate changes on cash and cash equivalents |
(142,621 | ) | 104,978 | |||||
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS |
(93,024,008 | ) | 16,663,594 | |||||
CASH AND CASH EQUIVALENTS BEGINNING OF PERIOD |
192,148,312 | 50,834,714 | ||||||
CASH AND CASH EQUIVALENTS END OF PERIOD |
$ | 99,124,304 | $ | 67,498,308 | ||||
The accompanying notes are an integral part of these financial statements.
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Table of Contents
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Note 1. Basis of Presentation
HeartWare International, Inc., referred to in these notes collectively with its subsidiaries
HeartWare Pty. Limited, HeartWare, Inc., HeartWare (UK) Limited, HeartWare GmbH and HeartWare
France SAS as we, our, HeartWare or the Company, is a medical device company that develops
and manufactures small implantable heart pumps, or ventricular assist devices, used in the
treatment of advanced heart failure.
The accompanying unaudited interim condensed consolidated financial statements have been
prepared pursuant to the rules and regulations of the Securities and Exchange Commission (SEC)
for reporting of interim financial information. Pursuant to such rules and regulations, certain
information and footnote disclosures normally included in financial statements prepared in
accordance with accounting principles generally accepted in the United States have been condensed
or omitted. Accordingly, these statements do not include all the disclosures normally required by
accounting principles generally accepted in the United States for annual financial statements and
should be read in conjunction with Managements Discussion and Analysis of Financial Condition and
Results of Operations contained in this report and the audited financial statements and notes
thereto for the year ended December 31, 2010 included in our Annual Report on Form 10-K. The
accompanying condensed consolidated balance sheet as of December 31, 2010 has been derived from our
audited financial statements. The condensed consolidated statements of operations for the three and
nine months ended September 30, 2011 and cash flows for the nine months ended September 30, 2011
are not necessarily indicative of the results to be expected for any future period or for the year
ending December 31, 2011.
In the opinion of management, the accompanying unaudited interim condensed consolidated
financial statements contain all adjustments (consisting of only normally recurring adjustments)
necessary to present fairly the financial position and results of operations as of the dates and
for the periods presented.
Note 2. Liquidity
At September 30, 2011, we had approximately $189.4 million of cash, cash equivalents and
investments. The accompanying condensed consolidated financial statements have been prepared in
conformity with accounting principles generally accepted in the United States, which contemplates
continuation of the Company as a going concern. We have sustained substantial losses from
operations since our inception, and such losses have continued through September 30, 2011. At
September 30, 2011, we had an accumulated deficit of approximately $160.8 million.
We have financed our operations primarily through the issuance of shares of our common stock
and the issuance of convertible notes. Most recently, in December 2010, we consummated the
issuance and sale of $143.75 million aggregate principal amount of convertible notes. The
convertible notes are the senior unsecured obligations of the Company. The convertible notes bear
interest at a rate of 3.5% per annum, payable semi-annually in arrears on June 15 and December 15
of each year, beginning on June 15, 2011. The convertible notes will mature on December 15, 2017,
unless earlier repurchased or converted. The convertible notes will be convertible at an initial
conversion rate of 10 shares of common stock per $1,000 principal amount of convertible notes,
which corresponds to an initial conversion price of $100.00 per share of common stock.
For the remainder of 2011, our cash, cash equivalents and investments are expected to
primarily be used to fund our ongoing operations including expanding our sales and marketing
capabilities on a global basis, continuing our ENDURANCE clinical trial for destination therapy,
enrolling additional patients in our ADVANCE trial under a Continued Access Protocol (CAP),
preparing for the launch of the HeartWare System in the United States, continued product
development, regulatory and other compliance functions, including costs related to our
Pre-Market Approval application, as well as for general working capital. We believe our
cash, cash equivalent and investment balances are sufficient to support our planned operations
through 2012.
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Note 3. Significant Accounting Policies
Principles of Consolidation
The condensed consolidated financial statements include the accounts of HeartWare
International, Inc., and its subsidiaries described in Note 1. All inter-company balances and
transactions have been eliminated in consolidation.
Accounting Estimates
The preparation of consolidated financial statements in conformity with accounting principles
generally accepted in the United States (U.S. GAAP) requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities, the disclosure of
contingent assets and liabilities at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting periods. Actual results could differ from those
estimates.
Cash and Cash Equivalents
Cash and cash equivalents are recorded on our condensed consolidated balance sheets at cost,
which approximates fair value. All highly liquid investments with an original maturity of three
months or less at the date of purchase are considered to be cash equivalents.
Investments
Our investments classified as available-for-sale are stated at fair value with unrealized
gains and losses reported in accumulated other comprehensive loss within stockholders equity. We
classify our available-for-sale investments as short-term if their remaining time to maturity at
purchase is beyond three months. Investments with maturities beyond one year may be classified as
short-term based on their highly liquid nature and because such marketable securities represent the
investment of cash that is available for current operations. Interest on investments classified as
available-for-sale is included in investment income, net. Premiums paid on our short-term
investments are amortized over the remaining term of the investment and such amortization is
included in investment income, net.
Receivables
Accounts receivable consists of amounts due from the sale of our HeartWare® Ventricular Assist
System (the HeartWare System) to our customers, which include hospitals, health research
institutions and medical device distributors. We grant credit to customers in the normal course of
business, but do not require collateral or any other security to support credit sales. Our
receivables are geographically dispersed, with a significant portion from customers located in
Europe and other foreign countries. At September 30, 2011, no customer had an accounts receivable
balance greater than 10% of our total accounts receivable. At December 31, 2010, one customer had
an accounts receivable balance representing approximately 13% of our total accounts receivable.
We maintain allowances for doubtful accounts for estimated losses that may result from an
inability to collect payments owed to us for product sales. We regularly review the allowance by
considering factors such as historical experience, the age of the accounts receivable balances and
current economic conditions that may affect a customers ability to pay. Account balances are
charged off against the allowance after appropriate collection efforts are exhausted and we feel it
is probable that the receivable will not be recovered.
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The following table summarizes the change in our allowance for doubtful accounts for the nine
months ended September 30, 2011 and 2010:
Nine months ended | ||||||||
September 30, | ||||||||
2011 | 2010 | |||||||
Beginning balance |
$ | 600,000 | $ | | ||||
Additions (bad debt expense) |
300,000 | 400,000 | ||||||
Deductions (charge-offs) |
(573,392 | ) | | |||||
Ending balance |
$ | 326,608 | $ | 400,000 | ||||
As of September 30, 2011 and December 31, 2010, we did not have an allowance for
returns.
Inventories, net
Inventories are stated at the lower of cost or market. Cost is determined using a first-in,
first-out, or FIFO, method. Work-in-process and finished goods include direct and indirect labor
and manufacturing overhead. Finished goods include product which is ready-for-use and which is held
by us or by our customers on a consignment basis.
We review our inventory for excess or obsolete inventory and write-down obsolete or otherwise
unmarketable inventory to its estimated net realizable value. Obsolescence may occur due to
product expiring or product improvements rendering previous versions obsolete. In May 2011, we
began shipping a sintered version of the HeartWare System on a global basis. Sintering is a process
whereby minute beads are adhered to a titanium surface commonly used in medical devices
to facilitate tissue adhesion. The extent to which this product enhancement will cause obsolescence
of existing non-sintered inventory is difficult to determine at this time as the rate of customer
acceptance is dependent on many factors and our ability to provide sintered product commercially in
the U.S. is subject to FDA approval. As of September 30, 2011, we had $2.1 million of non-sintered
inventory on hand and this product continues to be implanted at select customer sites. However, a
write-down of all or a portion of this inventory as obsolete could have a material impact on our
results of operations.
Deferred Financing Costs
Costs incurred in connection with the issuance of our convertible senior notes in December
2010 have been allocated between the liability component and the equity component as further
discussed in Note 11. The liability component of the issuance costs incurred was capitalized and is
included in deferred financing costs, net on our condensed consolidated balance sheets. These costs
are being amortized using the effective interest method through December 15, 2017, the maturity
date of the notes, and such amortization expense is reflected in interest expense on our condensed
consolidated statements of operations. The amount of amortization for the three and nine months
ended September 30, 2011 was approximately $73,000 and $212,000, respectively.
Product Warranty
Certain patient accessories sold with the HeartWare System are covered by a limited warranty
ranging from one to two years. Estimated contractual warranty obligations are recorded as an
expense when the related revenue is recognized and are included in cost of revenues on our
condensed consolidated statements of operations. Factors that affect the estimated warranty
liability include the number of units sold, historical and anticipated rates of warranty claims,
cost per claim, and vendor supported warranty programs. We periodically assess the adequacy of our
recorded warranty liabilities and adjust the amounts as necessary.
The amount of the liability recorded is equal to the estimated costs to repair or otherwise
satisfy claims made by customers. Accrued warranty expense is included as a component of accrued
expenses and other current liabilities on our condensed consolidated balance sheets.
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The costs to repair or replace products associated with product recalls and voluntary service
campaigns are recorded when they are determined to be probable and reasonably estimable as a cost
of revenues and are not included in the product warranty liability. No such costs were incurred in
the nine months ended September 30, 2011 and approximately $411,000 was incurred in the nine months
ended September 30, 2010.
The following table summarizes the change in our warranty liability for the nine months ended
September 30, 2011 and 2010:
Nine months ended | ||||||||
September 30, | ||||||||
2011 | 2010 | |||||||
Beginning balance |
$ | 290,891 | $ | 99,169 | ||||
Accrual for (reversal of) warranty expense |
(20,491 | ) | 229,422 | |||||
Warranty costs incurred during the period |
(34,171 | ) | (97,961 | ) | ||||
Ending balance |
$ | 236,229 | $ | 230,630 | ||||
Leases
We lease all of our administrative and manufacturing facilities. We recognize rent expense on
a straight-line basis over the terms of our leases. Any scheduled rent increases, rent holidays and
other related incentives are recognized on a straight-line basis over the terms of the leases. The
difference between the cash rental payments and the straight-line recognition of rent expense over
the terms of the leases results in a deferred rent asset or liability. As of September 30, 2011,
the long-term portion of our deferred rent liability of approximately $1.9 million is included in
other long-term liabilities on our condensed consolidated balance sheets.
Fair Value Measurements
The carrying amounts reported on our condensed consolidated balance sheets for cash and cash
equivalents, accounts receivable, accounts payable and accrued expenses and other current
liabilities approximate their fair value based on the short-term maturity of these instruments.
Investments are considered available-for-sale as of September 30, 2011 and December 31, 2010 and
are carried at fair value. See Note 6, Fair Value Measurements and Note 11, Debt for more
information.
Vendor Concentration
For the three and nine months ended September 30, 2011, we purchased approximately 53% and
54%, respectively, of our inventory components and supplies from two vendors. For the three and
nine months ended September 30, 2010, we purchased approximately 53% and 52%, respectively, of our
inventory components and supplies from the same two vendors. In addition, one of these vendors
supplies consulting services and material used in research and development activities. As of
September 30, 2011 and 2010, the amounts due to these vendors totaled approximately $860,000 and
$1.8 million, respectively.
Concentration of Credit Risk and other Risks and Uncertainties
Financial instruments that potentially expose us to concentrations of credit risk consist
primarily of cash and cash equivalents, investments and trade accounts receivable. Cash and cash
equivalents are primarily on deposit with financial institutions in the United States and these
deposits generally exceed the amount of insurance provided by the Federal Deposit Insurance
Corporation (the FDIC). The Company has not experienced any historical losses on its deposits of
cash and cash equivalents. Our investments consist of investment grade rated corporate and
government agency debt.
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Concentration of credit risk with respect to our trade accounts receivable from our customers
is primarily limited to hospitals, health research institutions and medical device distributors.
Credit is extended to our customers, based on an evaluation of a customers financial condition and
collateral is not required. We have an allowance for doubtful accounts of approximately $327,000 at
September 30, 2011.
We are subject to certain risks and uncertainties including, but not limited to, our ability
to achieve profitability, to generate cash flow sufficient to satisfy our indebtedness, to run
clinical trials in order to receive and maintain FDA and foreign regulatory approvals for our
products, the ability to achieve widespread acceptance of our product, our ability to manufacture
our products in a sufficient volume and at a reasonable cost, the ability to protect our
proprietary technologies and develop new products, the risks associated with operating in foreign
countries, and general competitive and economic conditions. Changes in any of the preceding areas
could have a material adverse effect on our business, results of operations or financial position.
New Accounting Standards
In May 2011, the Financial Accounting Standards Board (FASB) issued Accounting Standards
Update (ASU) No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair
Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs. ASU No. 2011-04 clarifies
some existing concepts, eliminates wording differences between U.S. GAAP and International
Financial Reporting Standards (IFRS), and in some limited cases, changes some principles to
achieve convergence between U.S. GAAP and IFRS. ASU No. 2011-04 results in a consistent definition
of fair value and common requirements for measurement of and disclosure about fair value between
U.S. GAAP and IFRS. ASU No. 2011-04 also expands the disclosures for fair value measurements that
are estimated using significant unobservable (Level 3) inputs. The provisions of ASU No. 2011-04
will become effective for us on January 1, 2012 and are to be applied prospectively. We do not
expect the adoption of the provisions of ASU No. 2011-04 to have a material effect on our
consolidated financial position, results of operations or cash flows and we do not expect to
materially modify or expand our financial statement footnote disclosures.
In June 2011, the FASB issued ASU No. 2011-05, Comprehensive Income (Topic 220): Presentation
of Comprehensive Income. ASU No. 2011-05 requires an entity to present the total of comprehensive
income, the components of net income, and the components of other comprehensive income either in a
single continuous statement of comprehensive income, or in two separate but consecutive statements.
ASU No. 2011-05 eliminates the option to present components of other comprehensive income as part
of the statement of stockholders equity. The presentation requirements will become effective for
us on January 1, 2012. As ASU No. 2011-05 applies to financial statement presentation matters, the
adoption of ASU No. 2011-05 will not affect our consolidated financial position, results of
operations or cash flows and we believe our current presentation of comprehensive income complies
with the new presentation requirements.
Note 4. Investments
We have cash investment policies that limit investments to investment grade securities. At
September 30, 2011 and December 31, 2010, all of our investments were classified as
available-for-sale and carried at fair value. Our investments in corporate debt are guaranteed by
the FDIC or foreign governments. At September 30, 2011, all of our investments had maturity dates
of less than twenty-four months.
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The amortized cost and fair value of our investments, with gross unrealized gains and losses,
were as follows:
At September 30, 2011
Gross | Gross | |||||||||||||||
Amortized | Unrealized | Unrealized | Aggregate | |||||||||||||
Cost Basis | Gains | Losses | Fair Value | |||||||||||||
Short-term investments: |
||||||||||||||||
U.S. government agency debt |
$ | 25,185,201 | $ | 3,384 | $ | (5,924 | ) | $ | 25,182,661 | |||||||
Corporate debt |
15,094,437 | 14,770 | | 15,109,207 | ||||||||||||
Certificates of deposit |
50,000,000 | | | 50,000,000 | ||||||||||||
Total short-term investments |
$ | 90,279,638 | $ | 18,154 | $ | (5,924 | ) | $ | 90,291,868 | |||||||
At December 31, 2010
Gross | Gross | |||||||||||||||
Amortized | Unrealized | Unrealized | Aggregate | |||||||||||||
Cost Basis | Gains | Losses | Fair Value | |||||||||||||
Short-term investments: |
||||||||||||||||
Corporate debt |
$ | 21,294,673 | $ | 35,437 | $ | | $ | 21,330,110 | ||||||||
Total short-term investments |
$ | 21,294,673 | $ | 35,437 | $ | | $ | 21,330,110 | ||||||||
Long-term investments: |
||||||||||||||||
U.S. government agency debt |
$ | 4,006,714 | $ | | $ | (1,055 | ) | $ | 4,005,659 | |||||||
Total long-term investments |
$ | 4,006,714 | $ | | $ | (1,055 | ) | $ | 4,005,659 | |||||||
For the three and nine months ended September 30, 2011 and 2010 we did not have any
realized gains or losses on our investments.
Note 5. Foreign Exchange Instruments
During the quarter ended June 30, 2011, we entered into a foreign currency forward-exchange
contract in an effort to minimize the risk of future fluctuations in the exchange rate between
Australian dollars and Japanese Yen. The foreign currency forward-exchange contract was directly
related to an asset purchase commitment by our Australian subsidiary. We do not utilize derivative
financial instruments for speculative or trading purposes.
As of September 30, 2011, the forward contract to sell Australian dollars to Japanese Yen had
a notional value of AU$858,000 and an exchange rate of one Australian dollar to 83.35 Japanese Yen.
As of September 30, 2011, the fair value of the forward contact was approximately $101,000, which
is included in prepaid expenses and other current assets on our condensed consolidated balance
sheet. During the three and nine months ended September 30, 2011, the change in the fair value of
this forward exchange contract resulted in a gain of approximately $121,000 and $106,000,
respectively, which is included in other, net on our condensed consolidated statements of
operations.
Note 6. Fair Value Measurements
FASB ASC 820 Fair Value Measurements and Disclosures, defines fair value as the price that
would be received to sell an asset or paid to transfer a liability in an orderly transaction
between market participants at the measurement date. FASB ASC 820 requires disclosures about the
fair value of all financial instruments, whether or not recognized, for financial statement
purposes. Disclosures about the fair value of financial instruments are based on pertinent
information available to us as of the reporting dates. Accordingly, the estimates presented in
these condensed consolidated financial statements are not necessarily indicative of the amounts
that could be realized on disposition of the financial instruments.
FASB ASC 820 specifies a hierarchy of valuation techniques based on whether the inputs to
those valuation techniques are observable or unobservable. Observable inputs reflect market data
obtained from independent sources, while unobservable inputs reflect market assumptions. The
hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical
assets or liabilities (Level 1 measurement) and the lowest priority to unobservable inputs (Level 3
measurement).
15
Table of Contents
The three levels of the fair value hierarchy are as follows:
Level 1 Quoted prices for identical instruments in active markets.
Level 2 Quoted prices for similar instruments in active markets; quoted prices for
identical or similar instruments in markets that are not active; and model-derived valuations whose
inputs are observable or whose significant value drivers are observable.
Level 3 Instruments with primarily unobservable value drivers.
The following table represents the fair value of our financial assets and financial
liabilities measured at fair value on a recurring basis and which level was used in the fair value
hierarchy.
At September 30, 2011 | ||||||||||||||||||||
Carrying | Fair | Fair Value Measurements at the Reporting Date Using | ||||||||||||||||||
Value | Value | Level 1 | Level 2 | Level 3 | ||||||||||||||||
Assets |
||||||||||||||||||||
Short-term investments |
$ | 90,291,868 | $ | 90,291,868 | $ | | $ | 90,291,868 | $ | | ||||||||||
Foreign exchange
instrument |
101,250 | 101,250 | | 101,250 | | |||||||||||||||
Liabilities |
||||||||||||||||||||
Convertible senior notes |
92,876,969 | (1) | 141,899,938 | | 141,899,938 | |
At December 31, 2010 | ||||||||||||||||||||
Carrying | Fair | Fair Value Measurements at the Reporting Date Using | ||||||||||||||||||
Value | Value | Level 1 | Level 2 | Level 3 | ||||||||||||||||
Assets |
||||||||||||||||||||
Short-term investments |
$ | 21,330,110 | $ | 21,330,110 | $ | | 21,330,110 | $ | | |||||||||||
Long-term investments |
4,005,659 | 4,005,659 | | 4,005,659 | | |||||||||||||||
Liabilities |
||||||||||||||||||||
Convertible senior notes |
88,921,557 | (1) | 160,693,813 | | 160,693,813 | |
(1) | The carrying amount of our convertible senior notes is net of unamortized discount. See Note 11, Debt for more information. |
The fair value of our investments was determined using quoted prices for the instruments in
markets that are not considered active. The fair value of our foreign exchange instrument was
determined using observable market data such as pricing for similar instruments or recently
executed transactions. The fair value of our convertible senior notes was determined using
observable market data (including trade data) and is presented for disclosure purposes only.
Note 7. Inventories, Net
Components of inventories, net are as follows:
September 30, | December 31, | |||||||
2011 | 2010 | |||||||
Raw material |
$ | 7,671,988 | $ | 4,279,170 | ||||
Work-in-process |
6,344,944 | 2,708,840 | ||||||
Finished goods |
14,556,303 | 8,088,580 | ||||||
$ | 28,573,235 | $ | 15,076,590 | |||||
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Finished goods inventories includes inventory held on consignment at customer sites of
$4.7 million at September 30, 2011 and December 31, 2010.
Note 8. Property, Plant and Equipment, Net
Property, plant and equipment, net consists of the following:
Estimated | September 30, | December 31, | ||||||||||
Useful Lives | 2011 | 2010 | ||||||||||
Machinery and equipment |
1.5 to 7 years | $ | 13,595,449 | $ | 8,966,747 | |||||||
Leasehold improvements |
3 to 7 years | 3,455,520 | 282,483 | |||||||||
Office equipment, furniture
and fixtures |
5 to 7 years | 944,084 | 450,849 | |||||||||
Purchased software |
5 to 7 years | 2,412,181 | 1,741,132 | |||||||||
20,407,234 | 11,441,211 | |||||||||||
Less: accumulated depreciation |
(5,579,709 | ) | (3,957,189 | ) | ||||||||
$ | 14,827,525 | $ | 7,484,022 | |||||||||
Note 9. Other Intangible Assets, Net
The gross carrying amount of intangible assets and the related accumulated amortization for
intangible assets subject to amortization are as follows:
September 30, 2011 | December 31, 2010 | |||||||||||||||||||
Weighted Average Life | Gross Carrying | Accumulated | Gross Carrying | Accumulated | ||||||||||||||||
Amortizable Intangible Assets | (Years) | Amount | Amortization | Amount | Amortization | |||||||||||||||
Patents |
15 | $ | 2,270,910 | $ | (365,456 | ) | $ | 1,861,684 | $ | (266,228 | ) |
Amortization expense for the three months ended September 30, 2011 and 2010 was
approximately $35,000 and $25,000, respectively. Amortization expense for the nine months ended
September 30, 2011 and 2010 was approximately $99,000 and $73,000, respectively.
Note 10. Accrued Expenses and Other Current Liabilities
Accrued expenses and other current liabilities consist of the following:
September 30, | December 31, | |||||||
2011 | 2010 | |||||||
Accrued payroll and other employee costs |
$ | 5,413,767 | $ | 4,152,833 | ||||
Accrued material purchases |
1,559,812 | 255,679 | ||||||
Accrued interest payable on convertible
senior notes |
1,467,448 | 209,635 | ||||||
Accrued research and development costs |
800,762 | 671,928 | ||||||
Accrued professional fees |
800,261 | 577,237 | ||||||
Accrued VAT |
566,121 | 647,525 | ||||||
Other accrued expenses |
629,545 | 486,513 | ||||||
$ | 11,237,716 | $ | 7,001,350 | |||||
Accrued payroll and other employee costs included estimated year-end employee bonuses of
approximately $3.2 million and $3.1 million at September 30, 2011 and December 31, 2010,
respectively.
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Note 11. Debt
Convertible Senior Notes
On December 15, 2010, we completed the sale of 3.5% convertible senior notes due 2017 (the
Convertible Notes) for an aggregate principal amount of $143.75 million pursuant to the terms of
an Indenture dated December 15, 2010. The Convertible Notes are the senior unsecured obligations of
the Company. The Convertible Notes bear interest at a rate of 3.5% per annum, payable semi-annually
in arrears on June 15 and December 15 of each year, beginning on June 15, 2011. The Convertible
Notes will mature on December 15, 2017, unless earlier repurchased by us or converted.
The Convertible Notes will be convertible at an initial conversion rate of 10 shares of our
common stock per $1,000 principal amount of Convertible Notes, which corresponds to an initial
conversion price of $100.00 per share of our common stock representing a conversion premium of
approximately 23% based on the closing price of $81.31 per share of our common stock on December 9,
2010, the day the notes were priced. The conversion rate is subject to adjustment from time to time
upon the occurrence of certain events.
Prior to June 15, 2017, holders may convert their Convertible Notes at their option only upon
satisfaction of one or more conditions relating to the sale price of our common stock, the trading
price per $1,000 principal amount of Convertible Notes or specified corporate events. On or after
June 15, 2017, until the close of business of the business day immediately preceding the date the
Convertible Notes mature, holders may convert their Convertible Notes at any time, regardless of
whether any of the foregoing conditions have been met. As of the date of this report, none of the
events that would allow holders to convert their Convertible Notes have occurred. Upon conversion,
we will pay or deliver, as the case may be, cash, shares of our common stock or a combination
thereof, at our election.
In accordance with ASC 470-20, Debt, which applies to certain convertible debt instruments
that may be settled in cash or other assets, or partially in cash, upon conversion, we recorded the
long-term debt and equity components on our Convertible Notes separately on the issuance date. The
amount recorded for long-term debt was determined by measuring the fair value of a similar
liability that does not have an associated equity component. The measurement of fair value required
the Company to make estimates and assumptions to determine the present value of the cash flows of
the Convertible Notes, absent the conversion feature. This treatment increased interest expense
associated with our Convertible Notes by adding a non-cash component to interest expense in the
form of amortization debt discount, calculated based on the difference between the 3.5% cash coupon
rate and the effective interest rate on debt borrowing of approximately 12.5%. The discount is
being amortized to interest expense through the December 15, 2017 maturity date of the Convertible
Notes using the effective interest method and is included in interest expense on our condensed
consolidated statements of operations. Additionally, we allocated the costs related to issuance of
the Convertible Notes on the same percentage as the long-term debt and equity components, such that
a portion of the costs is allocated to the long-term debt component and the equity component
included in additional paid-in capital. The portion of the costs allocated to the long-term debt
component is presented as deferred financing costs, net on our condensed consolidated balance
sheets. These deferred financing costs are also being amortized to interest expense through the
December 15, 2017 maturity date of the Convertible Notes using the effective interest method and
such amortization is included in interest expense on our condensed consolidated statements of
operations
The Convertible Notes and the equity component, which is recorded in additional
paid-in-capital, consisted of the following:
September 30, | December 31, | |||||||
2011 | 2010 | |||||||
Principal amount |
$ | 143,750,000 | $ | 143,750,000 | ||||
Unamortized discount |
(50,873,031 | ) | (54,828,443 | ) | ||||
Net carrying amount |
$ | 92,876,969 | $ | 88,921,557 | ||||
Equity component |
$ | 55,037,913 | $ | 55,037,913 | ||||
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Based on the initial conversion rate of 10 shares of our common stock per $1,000
principal amount of Convertible Notes, which corresponds to an initial conversion price of $100.00
per share of our common stock, the number of shares issuable upon conversion of the Convertible
Notes is 1,437,500. The value of these shares, based on the closing price of our common stock on
September 30, 2011 of $64.41, was approximately $92.6 million.
Interest expense related to the Convertible Notes consisted of interest due on the principal
amount, amortization of the discount and amortization of the portion of the deferred financing
costs allocated to the long-term debt component. For the three and nine months ended September 30,
2011, interest expense related to the Convertible Notes was as follows:
Three Months | Nine Months | |||||||
Ended | Ended | |||||||
September 30, 2011 | September 30, 2011 | |||||||
Stated amount at 3.5% coupon rate |
$ | 1,257,813 | $ | 3,773,438 | ||||
Amortization of discount |
1,358,259 | 3,955,412 | ||||||
Amortization of deferred financing costs |
72,826 | 212,078 | ||||||
$ | 2,688,898 | $ | 7,940,928 | |||||
Note 12. Stockholders Equity
In February 2010, we completed a public offering of approximately 1.77 million shares of our
common stock, including the underwriters exercise of their overallotment to purchase 230,595
shares, at an offering price of $35.50 per share for aggregate gross proceeds of approximately
$62.8 million. The underwriters for the transaction received a fee of 6% of the gross proceeds.
After fees and related expenses, net proceeds from the offering were approximately $58.5 million.
The offering was completed pursuant to a prospectus supplement, dated January 27, 2010, to a
shelf registration statement on Form S-3 that was previously filed with the SEC and which was
declared effective on January 20, 2010. This shelf registration statement allows us to offer and
sell from time to time, in one or more series or issuances and on terms that we will determine at
the time of the offering, any combination of the securities described in the prospectus, up to an
aggregate amount of $100 million.
In the nine months ended September 30, 2011, we issued an aggregate of 20,364 shares of our
common stock upon the exercise of stock options and an aggregate of 154,476 shares of our common
stock upon the vesting of restricted stock units.
Note 13. Share-Based Compensation
We recognize share-based compensation expense for the portion of awards that are ultimately
expected to vest using an accelerated accrual method over the vesting period from the date of
grant. We estimate forfeitures at the time of grant. We have applied a forfeiture rate of
approximately 12.5% to all unvested share-based awards as of September 30, 2011, which represents
the portion that we expect will be forfeited over the vesting period. We reevaluate this estimated
rate periodically and adjust the forfeiture rate as necessary. Vesting of share-based awards issued
with performance-based vesting criteria must be probable before we begin recording share-based
compensation expense. At each reporting period, we review the likelihood that these awards will
vest and if the vesting is deemed probable, we begin to recognize compensation expense at that
time. If ultimately performance goals are not met, for any awards where vesting was previously
deemed probable, previously recognized compensation cost will be reversed.
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Table of Contents
We allocate share-based compensation expense to cost of revenues, selling, general and
administrative expense and research and development expense based on the award holders employment
function. For the three and nine months ended September 30, 2011 and 2010, we recorded share-based
compensation expense as follows:
Three Months Ended | Nine Months Ended | |||||||||||||||
September 30, | September 30, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Cost of revenues |
$ | 546,088 | $ | 257,536 | $ | 1,664,950 | $ | 733,456 | ||||||||
Selling, general and administrative |
1,992,988 | 1,768,618 | 5,646,423 | 6,248,595 | ||||||||||||
Research and development |
1,018,700 | 536,802 | 2,683,216 | 1,579,867 | ||||||||||||
$ | 3,557,776 | $ | 2,562,956 | $ | 9,994,589 | $ | 8,561,918 | |||||||||
No deferred tax benefits were attributed to our share-based compensation expense recorded
in the accompanying condensed consolidated financial statements because we are in a net operating
loss position and a full valuation allowance is maintained for all net deferred tax assets. We
receive a tax deduction for certain stock option exercises during the period the options are
exercised, and for the vesting of restricted stock units during the period the restricted stock
units vest. For stock options, the amount of the tax deduction is generally equal to the excess of
the fair market value of our shares of common stock over the exercise price of the stock options at
the date of exercise. For restricted stock units, the amount of the tax deduction is generally
equal to the fair market value of our shares of common stock at the vesting date. Excess tax
benefits are not included in the accompanying condensed consolidated financial statements because
we are in a net operating loss position and a full valuation allowance is maintained for all net
deferred tax assets.
Equity Plans
We have issued share-based awards to employees, non-executive directors and outside
consultants through various approved plans and outside of any formal plan. New shares are issued
upon the exercise of share-based awards.
On August 5, 2008, we adopted the HeartWare International, Inc. 2008 Stock Incentive Plan
(2008 SIP). The 2008 SIP allows for the issuance of share-based awards to employees, directors
and consultants. We have issued options and restricted stock units (RSUs) to employees and
directors under the 2008 SIP. The plan allows for the issuance of share-based awards representing
up to 13% of the prior fiscal years weighted average shares outstanding, less share-based awards
outstanding under our other equity plans. At September 30, 2011, there were approximately 605,000
shares available for future awards under the 2008 SIP.
Stock Options
Each option allows the holder to subscribe for and be issued one share of our common stock at
a specified price, which is generally the quoted market price of our common stock on the date the
option is issued. Options generally vest on a pro-rata basis on each anniversary of the issuance
date within four years of the date the option is issued. Options may be exercised after they have
vested and prior to the specified expiry date provided applicable exercise conditions are met, if
any. The expiry date can be for periods of up to ten years from the date the option is issued.
In 2007 and 2008, we granted options with performance-based vesting criteria. These
performance-based options vest in four equal tranches contingent upon the achievement of
pre-determined corporate milestones related primarily to the development of our products and the
achievement of certain prescribed clinical and regulatory objectives. Any performance-based options
that have not vested after five years from the date of grant automatically expire.
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Table of Contents
The fair value of each option is estimated on the date of grant using the Black-Scholes option
pricing model using the assumptions established at that time. The following table includes the
assumptions used for options issued in the three and nine months ended September 30, 2011 and 2010.
Three Months Ended | Nine Months Ended | |||||||||||||||
September 30, | September 30, | |||||||||||||||
2011 | 2010 | 2011 | 2010 | |||||||||||||
Dividend yield |
0 | % | 0 | % | 0 | % | 0 | % | ||||||||
Expected volatility |
58.00 | % | 60.26 | % | 58.23 | % | 60.94 | % | ||||||||
Risk-free interest rate |
1.40 | % | 2.05 | % | 1.97 | % | 2.71 | % | ||||||||
Estimated holding period (years) |
6.25 | 6.25 | 6.25 | 6.25 |
Information related to options granted under all of our plans at September 30, 2011 and
activity in the nine months then ended is as follows (certain amounts in U.S.$ were converted from
AU$ at the then period-end spot rate):
Weighted | ||||||||||||||||
Weighted | Average | |||||||||||||||
Average | Remaining | |||||||||||||||
Exercise | Contractual Life | Aggregate | ||||||||||||||
Shares | Price | (Years) | Intrinsic Value | |||||||||||||
Outstanding at
December 31, 2010 |
404,366 | $ | 32.87 | |||||||||||||
Granted |
18,250 | 74.53 | ||||||||||||||
Exercised |
(20,364 | ) | 32.35 | |||||||||||||
Forfeited |
(8,991 | ) | 37.26 | |||||||||||||
Expired |
| | ||||||||||||||
Outstanding at
September 30, 2011 |
393,261 | $ | 33.80 | 6.09 | $ | 12,039,434 | ||||||||||
Exercisable at
September 30, 2011 |
276,625 | $ | 32.43 | 5.45 | $ | 8,846,795 | ||||||||||
The aggregate intrinsic values at September 30, 2011 noted in the table above represent
the closing price of our common stock traded on NASDAQ, less the weighted average exercise price at
period end multiplied by the number of options outstanding or exercisable.
At September 30, 2011, 34,283 of the 116,636 options outstanding that are not yet exercisable
are subject to performance-based vesting criteria as described above.
The weighted average grant date fair value per share of options issued in the nine months
ended September 30, 2011 and 2010 was $41.92 and $28.62 per share, respectively.
The total intrinsic value of options exercised in the nine months ended September 30, 2011 was
approximately $1.1 million. Cash received from options exercised in the nine months ended September
30, 2011 was approximately $659,000. The total intrinsic value of options exercised in the nine
months ended September 30, 2010 was approximately $3.5 million. Cash received from options
exercised in the nine months ended September 30, 2010 was approximately $3.3 million.
At September 30, 2011, there was approximately $1.3 million of unrecognized compensation cost
related to non-vested option awards, including performance-based options not yet deemed probable of
vesting. The expense is expected to be recognized over a weighted average period of 1.3 years.
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Restricted Stock Units
RSUs issued under the plans vest on a pro-rata basis on each anniversary of the issuance date
over three or four years or vest in accordance with performance-based criteria. The RSUs with
performance-based vesting criteria vest in tranches contingent upon the achievement of
pre-determined corporate milestones related
primarily to the development of our products and the achievement of certain prescribed
clinical and regulatory objectives. RSUs with performance-based vesting criteria not vested after
five years from the date of grant automatically expire. There is no consideration payable on the
vesting or exercise of RSUs issued under the plans. Upon vesting, the RSUs are exercised
automatically and settled in shares of our common stock.
Information related to RSUs at September 30, 2011 and activity in the nine months then ended
is as follows:
Weighted | ||||||||||||
Average | ||||||||||||
Remaining | ||||||||||||
Contractual | ||||||||||||
Number of | Life | Aggregate | ||||||||||
Units | (Years) | Intrinsic Value | ||||||||||
Outstanding at December 31, 2010 |
544,865 | |||||||||||
Granted |
75,450 | |||||||||||
Vested/Exercised |
(154,476 | ) | ||||||||||
Forfeited |
(18,905 | ) | ||||||||||
Expired |
| |||||||||||
Outstanding at September 30, 2011 |
446,934 | 1.53 | $ | 28,787,019 | ||||||||
Exercisable at September 30, 2011 |
| | $ | | ||||||||
The aggregate intrinsic value at September 30, 2011 noted in the table above represents
the closing price of our common stock traded on NASDAQ, multiplied by the number of RSUs
outstanding.
At September 30, 2011, 56,257 of the 446,934 RSUs outstanding that are not yet exercisable
are subject to performance-based vesting criteria as described above.
The total intrinsic value of RSUs vested in the nine months ended September 30, 2011 and 2010
was approximately $9.6 million and $11.6 million, respectively.
The fair value of each RSU award equals the closing price of our common stock on the date of
grant. The weighted average grant date fair value per share of RSUs granted in the nine months
ended September 30, 2011 and 2010 was $76.64 and $55.99, respectively.
At September 30, 2011, we had approximately $13.8 million of unrecognized compensation cost
related to non-vested RSU awards, including awards not yet deemed probable of vesting. The expense
is expected to be recognized over a weighted average period of 1.4 years.
Note 14. Net Loss Per Common Share
Basic net loss per common share is computed by dividing net loss for the period by the
weighted-average number of common shares outstanding during the period. Diluted net loss per common
share adjusts basic net loss per common share for the dilutive effects of convertible securities,
options and other potentially dilutive instruments only in the periods in which such effect is
dilutive. Due to our net loss for all periods presented, all potentially dilutive instruments were
excluded because their inclusion would have been anti-dilutive. The following instruments have been
excluded from the calculation of diluted net loss per common share, as their effect would be
anti-dilutive.
Three and Nine Months Ended | ||||||||
September 30, | ||||||||
2011 | 2010 | |||||||
Common shares issuable upon: |
||||||||
Conversion of convertible senior notes |
1,767,923 | | ||||||
Exercise of share-based awards |
840,195 | 786,235 |
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Note 15. Business Segment, Geographic Areas and Major Customers
For financial reporting purposes, we have one reportable segment which designs, manufactures
and markets medical devices for the treatment of advanced heart failure. Generally, products are
sold to customers located in the United States through our clinical trials, as commercial products
to customers in Europe and under special access in other countries. Product sales attributed to a
country or region are based on the location of the customer to whom the products are sold.
Long-lived assets are primarily held in the United States.
Product sales by geographic location are as follows:
Three Months Ended | Nine Months Ended | |||||||||||||||
September 30, | September 30, | |||||||||||||||
(in thousands) | 2011 | 2010 | 2011 | 2010 | ||||||||||||
United States |
$ | 7,606 | $ | 3,880 | $ | 19,795 | $ | 8,427 | ||||||||
Germany |
8,569 | 6,415 | 22,281 | 17,254 | ||||||||||||
International, excluding Germany |
5,165 | 3,522 | 17,628 | 8,596 | ||||||||||||
$ | 21,340 | $ | 13,817 | $ | 59,704 | $ | 34,277 | |||||||||
For the three and nine months ended September 30, 2011, no customers individually
accounted for more than 10% of product sales in the respective periods. For the three and nine
months ended September 30, 2010, one customer accounted for approximately 18% of product sales in
both periods. As the majority of our revenue is generated outside of the U.S., we are dependent on
favorable economic and regulatory environments for our products in Europe and other countries
outside of the U.S.
The percentage of our revenue generated in the U.S. has increased for the three and nine
months ended September 30, 2011 as compared to the same periods in 2010 primarily due to enrollment
in our ENDURANCE destination therapy trial which commenced in August 2010 and has continued in
2011.
Note 16. Commitments and Contingencies
At September 30, 2011, we had purchase order commitments of approximately $27.9 million
related to product costs and property, plant and equipment purchases. Many of our materials and
supplies require long lead times and as such purchase order commitments reflect materials that may
be received up to one year from the date of order.
From time to time we may be involved in litigation or other contingencies arising in the
ordinary course of business. Except as set forth below or in our 2010 Annual Report on Form 10-K,
and based on the information presently available, management believes that there are no
contingencies, claims or actions, pending or threatened, the ultimate resolution of which will have
a material adverse effect on our financial position, liquidity or result of operations.
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On February 24, 2010, we received a letter from two holders of Series A Preferred Stock in
HeartWare, Inc., an indirect subsidiary of HeartWare International, Inc. These holders requested
various financial and other information regarding HeartWare, Inc. for the purpose of determining
the Companys compliance with their rights as holders of Series A Preferred Stock, including
whether a liquidation event has occurred since inception in 2003. HeartWare, Inc. issued Series A-1
and Series A-2 Preferred Stock to certain equity holders of Kriton
Medical, Inc. when HeartWare, Inc. purchased substantially all of the assets of Kriton in July
2003. The Series A-1 and Series A-2 Preferred Stock do not have voting or dividend rights but
entitle the holders thereof to receive, upon certain liquidation events of HeartWare, Inc. (but not
the liquidation of or change of control of HeartWare International, Inc.), an amount equal to $10
per share of Series A-1 and $21 per share of Series A-2. The aggregate liquidation preference
payment obligation totals approximately $15 million.
On June 27, 2011, HeartWare International, Inc. and HeartWare, Inc., along with HeartWares
directors, certain officers and a significant stockholder, were named as defendants in a putative
class action lawsuit filed in Massachusetts state court by two other Series A Preferred
Stockholders on behalf of all holders of Series A Preferred Stock. The complaint alleges that the
defendants breached their fiduciary and contractual obligations to Series A Preferred Stockholders
by preventing them from receiving a payment of the liquidation preference in connection with
certain corporate transactions, including a transaction in 2005 in which HeartWare, Inc. was
acquired by HeartWare Limited, a subsidiary of HeartWare International, Inc. The plaintiffs seek
monetary damages, interest, costs and limited equitable relief. We do not believe HeartWare
International, Inc., HeartWare, Inc. or any of our directors, officers or stockholders have
abrogated the rights, or in any way failed to satisfy obligations owed to, any of our stockholders,
including holders of Series A Preferred Stock. On September 12, 2011, the defendants served on
plaintiffs a motion to dismiss the complaint with prejudice.
In accordance with ASC 450, Contingencies, we accrue loss contingencies including costs of
settlement, damages and defense related to litigation to the extent they are probable and
estimable. Otherwise, we expense these costs as incurred. If the estimate of a probable loss is a
range and no amount within the range is more likely, we accrue the minimum amount of the range. As
of September 30, 2011 we have not accrued any amounts related to the above litigation.
Note 17. Subsequent Events
We have evaluated events and transactions that occurred subsequent to September 30, 2011
through the date the financial statements were issued, for potential recognition or disclosure in
the accompanying condensed consolidated financial statements.
We did not identify any events or transactions that should be recognized or disclosed in the
accompanying condensed consolidated financial statements.
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ITEM 2: | MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
The following discussion and analysis of our financial condition and results of operations
should be read together with our unaudited interim condensed consolidated financial statements and
related notes appearing elsewhere in this Quarterly Report on Form 10-Q. Certain abbreviated key
terms have the meanings defined elsewhere in this Quarterly Report on Form 10-Q.
Overview
HeartWare develops and manufactures miniaturized implantable heart pumps, or ventricular
assist devices, to treat patients suffering from advanced heart failure.
The HeartWare® Ventricular Assist System (the HeartWare System), which includes a left
ventricular assist device (LVAD), or blood pump, patient accessories and surgical tools, is
designed to provide circulatory support for patients in the advanced stage of heart failure. The
core of the HeartWare System is a proprietary continuous flow blood pump, the HVAD®
Pump, which is a full-output device capable of pumping up to 10 liters of blood per minute. The
HeartWare System is designed to be implanted adjacent to the heart, avoiding the abdominal surgery
generally required to implant similar devices.
In 2009, we received CE Marking for the HeartWare System in the European Union allowing for
commercial sale and distribution of our device. In the U.S., the device is the subject of clinical
trials for two indications: bridge-to-transplant and destination therapy. Our device is also
available in other countries around the world under special access programs.
Recent key milestones in the development and commercialization of the HeartWare System include
the following:
| Submission of a Pre-Market Approval application for our HeartWare System based on data generated in our ADVANCE bridge-to-transplant clinical trial, subsequent acceptance by the FDA of the application for filing and response to the FDA regarding review questions; |
| Being named to the REVIVE-IT study, a study to be completed by the Universities of Michigan and Pittsburgh on the benefits of LVADs in patients with earlier access to the device; |
| Approval of the HeartWare System by the Therapeutic Goods Administration (TGA) in Australia for listing on the Australian Register of Therapeutic Goods; |
| Approval by the U.S. FDA for use in our clinical trials and notification of acceptance by the British Standards Institution of a sintered inflow tube; |
| Reimbursement approval in France and Belgium of the HeartWare System; and |
| Presentation at the 25th European Association for Cardio-Thoracic Surgery of clinical data from our ADVANCE bridge-to-transplant clinical trial and the Continued Access Protocol (CAP). The updated data for 241 patients enrolled in either the pivotal trial ADVANCE or CAP demonstrated a 180-day survival of 93 percent. |
Beyond the HeartWare System, we are also evaluating our next generation device, the
MVAD® Pump. The MVAD Pump is a development-stage miniature ventricular assist device,
approximately one-third the size of the HVAD Pump. The MVAD Pump is based on the same proprietary
impeller suspension technology used in the HVAD Pump, with its single moving part held in place
through a combination of passive-magnetic and hydrodynamic forces. Like the HVAD Pump, the MVAD
Pump is designed to support the hearts full cardiac output, yet also has the capability for
partial support. On September 9, 2011, pre-clinical data was presented at the 19th Congress of the
International Society for Rotary Blood Pumps (ISRBP), which demonstrated that the
MVAD Pump attained the objectives for system performance, hemocompatability and
biocompatibility in Good Laboratory Practice (GLP) animal studies, a precursor to human clinical
trials. We are currently preparing to commence human clinical studies in 2012. The MVAD Pump is
designed to be implantable by surgical techniques that are even less invasive than those required
to implant the HVAD Pump.
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We began generating revenue from our products in August 2008 and have incurred net losses in
each year since our inception. We expect our losses to continue as we advance and expand our
clinical trial activities in the U.S., continue to develop commercial markets outside of the U.S.,
and expand our research and development into next generation products including the MVAD Pump.
We have financed our operations primarily through the issuance of convertible notes and the
issuance of shares of our common stock. Most recently, on December 15, 2010, we issued convertible
notes with an aggregate principal amount of $143.75 million pursuant to the terms of an Indenture
dated as of December 15, 2010. The convertible notes are senior unsecured obligations of the
Company. The convertible notes bear interest at a rate of 3.5% per annum, payable semi-annually in
arrears on June 15 and December 15 of each year, beginning on June 15, 2011. The convertible notes
will mature on December 15, 2017, unless earlier repurchased or converted.
We are headquartered in Framingham, Massachusetts. We have an operations and manufacturing
facility in Miami Lakes, Florida, a small development and operations facility in Sydney, Australia
and a small distribution and customer service facility in Hannover, Germany.
Critical Accounting Policies and Estimates
We prepare our financial statements in accordance with accounting principles generally
accepted in the United States. We are required to adopt various accounting policies and to make
estimates and assumptions in preparing our financial statements that affect the reported amounts of
our assets, liabilities, revenue and expenses. Our significant accounting policies are disclosed in
Note 3 to the Consolidated Financial Statements included in our Annual Report on Form 10-K for the
fiscal year ended December 31, 2010 (2010 Annual Report on Form 10-K) filed with the Securities
and Exchange Commission on February 24, 2011. During the nine months ended September 30, 2011,
there were no significant changes to any of our significant accounting policies. We have included
and expanded the disclosures for certain of our significant accounting policies as disclosed in
Note 3 to the accompanying condensed consolidated financial statements.
Our most critical accounting policies and estimates include: revenue recognition, inventory
capitalization, accounting for share-based compensation, measurement of fair value, income taxes
and reserves. We also have other key accounting policies that are less subjective and, therefore,
their application is less subject to variations and would not have a material impact on our
reported results of operations. On an ongoing basis, we evaluate our estimates and assumptions. We
base our estimates on historical experience to the extent practicable and on various other
assumptions that we believe are reasonable under the circumstances and at the time they are made.
If our assumptions prove inaccurate or if our future results are not consistent with our historical
experience, we may be required to make adjustments in our policies that affect our reported
results. There have been no material changes to our critical accounting policies and estimates from
the information provided in Part II, Item 7, Managements Discussion and Analysis of Financial
Condition and Results of Operations included in our 2010 Annual Report on Form 10-K.
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Results of Operations
Three and nine months ended September 30, 2011 and 2010
Revenues, net
In the three and nine months ended September 30, 2011 and 2010, we generated revenue from
commercial sales outside of the U.S. and sales in connection with our clinical trials in the U.S.
The increase in revenue from the comparable periods in 2010, is due to increased implants in the
U.S., as we have two clinical studies on-going as compared to one in 2010, and increased market
penetration outside of the U.S.
Three Months Ended | Nine Months Ended | |||||||||||||||||||||||
September 30, | September 30, | |||||||||||||||||||||||
(in thousands) | 2011 | 2010 | Change | 2011 | 2010 | Change | ||||||||||||||||||
Revenues, net |
$ | 21,340 | $ | 13,817 | 54 | % | $ | 59,704 | $ | 34,277 | 74 | % |
For the three months ended September 30, 2011, approximately 64% of our product sales
were derived from commercial sales outside of the United States, predominantly in Europe, compared
to approximately 72% for the three months ended September 30, 2010.
For the nine months ended September 30, 2011, approximately 67% of our product sales were
derived from commercial sales outside of the United States, predominantly in Europe, compared to
approximately 75% for the nine months ended September 30, 2010.
We operate in multiple currencies outside of the U.S., with the majority of our international
revenue denominated in Euro. During the three and nine months ended September 30, 2011, our net
international revenue increased $3.8 million, or 38%, and $14.1 million, or 54%, respectively, as
compared to the same periods in the prior year. The change in exchange rates for all foreign
currencies for the three and nine months ended accounted for approximately $1.1 million and $2.5
million of the increase in each period.
We expect to continue to generate and grow commercial revenue from product sales as we further
expand our sales and marketing efforts outside of the United States and continue enrollment of our
destination therapy clinical trial, ENDURANCE, in the U.S. Notwithstanding our plans to generally
expand our U.S. clinical programs, revenues from U.S. sources in connection with our trials may
vary from quarter to quarter as the recruitment of qualified patients that meet protocol criteria
fluctuate and additional CAP cohorts are subject to FDA approval.
Future product sales are dependent on many factors, including receiving and maintaining the
necessary regulatory approvals in the U.S. and internationally, perception of product performance
and market acceptance among physicians, patients, health care payers and the medical community as
well as our capacity to meet customer demand by manufacturing sufficient quantities of our
products.
Cost of Revenues
Cost of revenues includes costs associated with manufacturing our product and consists of
direct materials, labor and overheard expenses allocated to the manufacturing process. Cost of
revenues totaled approximately $7.9 million and $6.0 million in the three months ended September
30, 2011 and 2010, respectively. Cost of revenues totaled approximately $23.4 million and $16.0
million in the nine months ended September 30, 2011 and 2010, respectively.
Gross profit and gross margin percentage are as follows:
Three Months Ended | Nine Months Ended | |||||||||||||||
September 30, | September 30, | |||||||||||||||
(in thousands) | 2011 | 2010 | 2011 | 2010 | ||||||||||||
Gross profit |
$ | 13,456 | $ | 7,814 | $ | 36,311 | $ | 18,301 | ||||||||
Gross margin % |
63.1 | % | 56.6 | % | 60.8 | % | 53.4 | % |
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Gross margin percentage for the three and nine months ended September 30, 2011 increased
compared to the same periods in 2010 as a result of lower per unit costs in 2011 primarily due to
increased production volume and improved efficiencies in our manufacturing processes.
Selling, General and Administrative
Selling, general and administrative expenses include costs associated with selling and
marketing our products and the general corporate administration of the Company. These costs are
primarily related to salaries and wages and related employee costs, travel, external consultants
and contractors, legal and accounting fees and general infrastructure costs, and include all
operating costs not associated with or otherwise classified as research and development costs or
cost of revenues.
Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||||||||||||
(in thousands) | 2011 | 2010 | Change | 2011 | 2010 | Change | ||||||||||||||||||
Total selling,
general and
administrative |
$ | 10,833 | $ | 6,994 | 55 | % | $ | 29,389 | $ | 19,238 | 53 | % |
The increase of $3.8 million for the three months ended September 30, 2011 as compared to
three months ended September 30, 2010 was primarily a result of an increase in employee costs,
including salaries and wages and related costs, of approximately $1.6 million, primarily due to
increased headcount to build our global sales and marketing and administrative functions to support
expected future growth. We also experienced increases in office expenses of $659,000, legal costs
of $485,000, travel expenses of $404,000 and non-cash share-based compensation expense of $224,000.
The increase of $10.2 million for the nine months ended September 30, 2011 was primarily a
result of an increase in employee costs, including salaries and wages and related costs, of
approximately $4.3 million, primarily due to increased headcount. We also experienced increases in
office expenses of $1.7 million, travel expenses of $1.5 million, marketing expenses of $1.1
million and legal costs of $1.0 million. These increases were partially offset by a decrease in
non-cash share-based compensation expense of approximately $602,000.
We expect our selling, general and administrative expenses to increase significantly in 2011
compared to 2010 as we continue to expand our sales and distribution capabilities as well as our
administrative capabilities to support our overall corporate growth. We have and will continue to
experience an increase in our employee headcount as well as an increase in costs associated with
the necessary administrative infrastructure to support this expansion.
Research and Development
Research and development expenses are the direct and indirect costs associated with developing
our products prior to commercialization and are expensed as incurred. These expenses fluctuate
based on project level activity and consist primarily of salaries and wages and related employee
costs of our research and development, clinical and regulatory staff, external research and
development costs, and materials and expenses associated with clinical trials. Additional costs
include travel, facilities and overhead allocations.
Three Months Ended September 30, | Nine Months Ended September 30, | |||||||||||||||||||||||
(in thousands) | 2011 | 2010 | Change | 2011 | 2010 | Change | ||||||||||||||||||
Total research and
development
expenses |
$ | 12,705 | $ | 9,313 | 36 | % | $ | 32,285 | $ | 21,580 | 50 | % |
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The increase of $3.4 million for the three months ended September 30, 2011 as compared to
the three months ended September 30, 2010 was primarily due to an aggregate increase in costs
associated with development projects, including the costs of supplies and components, animal
studies, consultants and contractors, of $1.7 million, primarily related to MVAD system
development. We also experienced an increase
in clinical trial costs of $766,000, primarily due to our ENDURANCE clinical trial for
destination therapy, an increase in employee costs, including salaries and wages and related costs,
of approximately $1.1 million and an increase in non-cash share-based compensation of $482,000.
These increases were partially offset by a decrease in outside engineering costs associated with
our development projects of $949,000.
The increase of $10.7 million for the nine months ended September 30, 2011 as compared to the
nine months ended September 30, 2010 was primarily due to an increase in costs associated with
development projects, including consumables, animal studies, outside engineering, consultants and
contractors, of $5.0 million, primarily related to MVAD development. We also experienced an
increase in employee costs, including salaries and wages and related costs, of approximately $2.6
million and an increase in share-based compensation of $1.1 million. Costs associated with our U.S.
clinical trials increased by $1.0 million.
Even with commercial approval of the HeartWare System in Europe, we expect that research and
development expenses will continue to represent a significant portion of our operating expenses for
the foreseeable future related to clinical trials in the U.S. and new product development,
including costs related to the development of the MVAD system.
Foreign Exchange
We generate a substantial portion of our revenues and collect receivables in foreign
currencies. Fluctuations in the exchange rate of the U.S. dollar against the Euro, British Pound
and Australian dollar can result in foreign currency exchange gains and losses that may
significantly impact our financial results. Continued fluctuation of these exchange rates could
result in financial results that are not comparable from quarter to quarter. As discussed in Note
5, we entered into a foreign currency forward-exchange contract related to an asset purchase
commitment by our Australian subsidiary. The purchase is denominated in a currency in which we do
not normally transact business. Notwithstanding this foreign currency forward-exchange contract, we
do not currently utilize foreign currency contracts to mitigate foreign exchange gains and losses.
In the three and nine months ended September 30, 2011, our net foreign exchange losses totaled
approximately $1.4 million and $707,000, respectively. In the three months ended September 30,
2010, our net foreign exchange gains totaled approximately $514,000, while in the nine months ended
September 30, 2010, our net foreign exchange losses totaled approximately $259,000. In 2011 and
2010, the majority of our realized and unrealized foreign exchange gains and losses were
experienced upon the collection of certain accounts receivable that were denominated in foreign
currencies, and the translation to U.S. dollars of customer accounts receivable denominated in
foreign currencies at period end, primarily the Euro. We expect to continue realizing foreign
exchange gains and losses for the foreseeable future as the majority of our sales denominated in
foreign currencies are settled in Euros.
Interest Expense
Interest expense in 2011 consists of interest incurred on the principal amount of our
convertible senior notes issued in December 2010, amortization of the related discount and
amortization of the portion of the deferred financing costs allocated to the debt component. The
convertible senior notes bear interest at a rate of 3.5% per annum. The discount on the convertible
senior notes and the deferred financing costs are being amortized to interest expense through the
December 15, 2017 maturity date of the convertible senior notes using the effective interest
method.
Interest expense was approximately $2.69 million in the three months ended September 30, 2011.
Interest incurred on the principal amount of the convertible notes at the 3.5% coupon rate was
approximately $1.26 million and non-cash amortization of the discount and deferred financing costs
totaled approximately $1.43 million.
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Interest expense was approximately $7.94 million in the nine months ended September 30, 2011.
Interest incurred on the principal amount of the convertible notes at the 3.5% coupon rate was
approximately $3.77 million and non-cash amortization of the discount and deferred financing costs
totaled approximately $4.17 million.
Investment Income, net
Investment income is primarily derived from investments and cash and short-term deposit
accounts held in the U.S. The amortization of premium on our investments is also included in
investment income, net. Investment income, net was approximately $118,000 and $413,000 in the three
and nine months ended September 30, 2011, respectively, compared to $134,000 and $407,000 in the
same periods in the prior year. While we have had greater cash and investments balances during 2011
as a result of the issuance of our convertible senior notes in December 2010, we have experienced
lower interest rates in 2011 compared to 2010.
Income Taxes
We are subject to taxation in the United States and jurisdictions outside of the United
States. These jurisdictions have different marginal tax rates. While we have incurred losses since
inception, changes in issued capital and share ownership, as well as other factors, may limit our
ability to utilize any net operating loss carry-forwards, and as such a 100% valuation allowance
has been recorded against our net deferred tax assets.
As of September 30, 2011, we did not have revenues or profit which would be sufficient to
allow any portion of our deferred tax assets to be recorded. We intend to monitor closely whether
to record a deferred tax asset as we further expand the commercialization of our products.
Liquidity and Capital Resources
As of September 30, 2011, our cash and cash equivalents were approximately $99.1 million as
compared to $192.1 million at December 31, 2010. The decrease is primarily a result of cash used to
support our operating and investing activities and the purchase of short-term investments,
partially offset by cash proceeds from the exercise of stock options.
Following is a summary of our cash flow activities:
Nine Months Ended September 30, | ||||||||
2011 | 2010 | |||||||
(in thousands) | ||||||||
Net cash used in operating activities |
$ | (18,943 | ) | $ | (14,886 | ) | ||
Net cash used in investing activities |
(74,596 | ) | (30,222 | ) | ||||
Net cash provided by financing activities |
658 | 61,667 | ||||||
Effect of exchange rate changes on cash and cash
equivalents |
(143 | ) | 105 | |||||
Net (decrease) increase in cash and cash equivalents |
$ | (93,024 | ) | $ | 16,664 | |||
Cash Used in Operating Activities
For the nine months ended September 30, 2011, cash used in operating activities included a net
loss of approximately $33.5 million and non-cash adjustments to net loss totaling approximately
$16.8 million, which primarily consisted of $10.0 million of share-based compensation, $4.0 million
for the amortization of the discount on our convertible notes and $1.8 million of depreciation and
amortization on long-lived assets. Also included in cash used in operating activities in the nine
months ended September 30, 2011 is approximately $14.0 million for the purchase and manufacture of
inventories and $2.5 million for prepaid expenses. These amounts were partially offset by net
collections of trade accounts receivable of $7.4 million, an increase in
accrued expenses of $3.0 million, an increase in deferred rent of $1.9 million and an increase
in trade accounts payable of $679,000.
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For the nine months ended September 30, 2010, cash used in operating activities included a net
loss of approximately $22.4 million, non-cash adjustments to net loss of approximately $10.3
million and changes in assets and liabilities of $2.8 million. Non-cash adjustments primarily
consisted of share-based compensation of approximately $8.6 million and $1.0 million of
depreciation and amortization on long-lived assets. Changes in assets and liabilities included a
use of cash of approximately $8.3 million for the purchase and manufacture of inventories partially
offset by $2.8 million in net accounts receivable collections.
Cash Used in Investing Activities
In the nine months ended September 30, 2011, net cash used for the purchase (net of maturities
in 2011) of available-for sale securities was $65.7 million compared to $25.8 million in the nine
months ended September 30, 2010. Other investing activities in the nine months ended September 30,
2011 and 2010 used cash of approximately $8.9 million and $4.4 million, respectively. These amounts
were expended to acquire property, plant and equipment and for capitalized patent costs.
Cash Provided by Financing Activities
In February 2010, we completed a public offering of approximately 1.77 million shares of our
common stock, including the underwriters exercise of their over-allotment option to purchase
230,595 shares, at an offering price of $35.50 per share for aggregate gross proceeds of
approximately $62.8 million. After fees and expenses, net proceeds from the offering were
approximately $58.5 million. The offering was completed pursuant to a prospectus supplement, dated
January 27, 2010, to a shelf registration statement previously filed with the SEC and which was
declared effective on January 20, 2010. This shelf registration statement allows us to offer and
sell from time to time, in one or more series or issuances and on terms that we will determine at
the time of the offering, any combination of the securities described in the prospectus, up to an
aggregate amount of $100 million.
The exercise of stock options in the nine months ended September 30, 2011 and 2010 resulted in
cash proceeds of approximately $659,000 and $3.3 million, respectively.
Operating Capital and Capital Expenditure Requirements
We have incurred operating losses to date and anticipate that we will continue to incur
substantial net losses as we expand our sales and marketing capabilities, develop new products and
seek regulatory approvals for the HeartWare System in the U.S. For the remainder of 2011, cash on
hand is expected to primarily be used to fund our ongoing operations, including;
| expanding our sales and marketing capabilities on a global basis, |
| continuing implants in the U.S. under a CAP and in our U.S. destination therapy clinical study, |
| continued product development, |
| regulatory activities, including PMA submissions and testing, and other compliance functions, and |
| general working capital. |
We expect to experience increased cash requirements for inventory and property related to the
expansion of our manufacturing capabilities, including the build-out of our new manufacturing
facility located in Miami Lakes, Florida, to support continued growth.
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Our convertible notes bear interest at a rate of 3.5% per annum, payable semi-annually in
arrears on June 15 and December 15 of each year. The $2.5 million interest payment that was due on
June 15, 2011 was paid on a
timely basis. Based on the outstanding principal amount of our convertible senior notes at
September 30, 2011, the semi-annual interest payment due on December 15, 2011 will be approximately
$2.5 million. This amount is expected to be paid from cash on hand.
We believe cash on hand and investment balances as of September 30, 2011 are sufficient to
support our planned operations throughout the remainder of 2011 and 2012.
Because of the numerous risks and uncertainties associated with the development of medical
devices and the current economic situation, we are unable to estimate the exact amounts of capital
outlays and operating expenditures necessary to obtain regulatory approvals in the U.S., fund
commercial expansion outside of the U.S. and develop new products. Our future capital requirements
will depend on many factors, including but not limited to the following:
| commercial acceptance of our products; |
| costs to manufacture our products; |
| expenses required to operate multiple clinical trials; |
| further product research and development for next generation products and peripherals and expanding indications for our products as well as efforts to sustain and maintain incremental improvements to existing products; |
| expanding our sales and marketing capabilities on a global basis, including building a team to support U.S. commercialization should the FDA approve our device for marketing in the U.S.; |
| broadening our infrastructure in order to meet the needs of our growing operations; and |
| complying with the requirements related to being a public company in both the United States and Australia. |
Contractual Obligations
As of January 15, 2011, we entered into a Public, Private Partnership Agreement with the
Regents of the University of Michigan whereby HeartWare, Inc. will act as industry sponsor of a
study conducted by University of Michigan Cardiovascular Center and the University of Pittsburgh
exploring the potential benefits of LVADs in patients who will be given earlier access to these
devices under a grant awarded from the National Heart, Lung and Blood Institute. In the study,
called REVIVE-IT, researchers will compare whether non-transplant eligible patients with heart
failure less advanced than that of current LVAD recipients do better with implanted devices than
with current medical therapy. Pursuant to the terms of the agreement, we have committed to provide
financial support up to $9.6 million over the five-year term of the agreement.
Other than the financial commitment discussed above, in the nine months ended September 30,
2011, there were no material changes to our contractual obligations provided in Part II, Item 7,
Managements Discussion and Analysis of Financial Condition and Results of Operations included in
our 2010 Annual Report on Form 10-K filed with the SEC on February 24, 2011, outside the ordinary
course of business.
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ITEM 3. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
Market risk represents the risk of changes in the value of market risk sensitive instruments
caused by fluctuations in interest rates, foreign exchange rates and commodity prices. Changes in
these factors could cause fluctuations in our results of operations and cash flows.
Interest Rate Risk
Our exposure to interest rate risk is currently confined to interest earnings on our cash and
cash equivalents that are invested in highly liquid money market funds, short-term time deposits,
short-term bank notes and short-term commercial paper. The primary objective of our investment
activities is to preserve our capital to fund operations. We also seek to generate reasonable
income from our investments without assuming significant risk. We do not presently use derivative
financial instruments in our investment portfolio. Our cash and investments policy emphasizes
liquidity and preservation of principal over other portfolio considerations.
Our convertible senior notes do not bear interest rate risk as the notes were issued with a
fixed interest rate of 3.5% per annum.
Foreign Currency Rate Fluctuations
We conduct business in foreign countries. For U.S. reporting purposes, we translate all assets
and liabilities of our non-U.S. entities at the period-end exchange rate and revenues and expenses
at the average exchange rates in effect during the periods. The net effect of these translation
adjustments is shown in the accompanying condensed consolidated financial statements as a component
of stockholders equity.
We generate a significant portion of our revenues and collect receivables in foreign
currencies. Fluctuations in the exchange rate of the U.S. dollar against major foreign currencies,
including the Euro, British Pound and Australian dollar, can result in foreign currency exchange
gains and losses that may significantly impact our financial results. These foreign currency
transaction gains and losses are presented as a separate line item on our condensed consolidated
statements of operations. Continued fluctuation of these exchange rates could result in financial
results that are not comparable from quarter to quarter. We do not currently utilize foreign
currency contracts to mitigate the gains and losses generated by the remeasurement of
non-functional currency assets and liabilities but do hold cash reserves in currencies in which
those reserves are anticipated to be expended.
ITEM 4. | CONTROLS AND PROCEDURES |
Evaluation of Disclosure Controls and Procedures
Our management, with the participation of the Chief Executive Officer and Chief Financial
Officer, carried out an evaluation required by the Securities Exchange Act of 1934, as amended (the
Exchange Act), of the effectiveness of the design and operation of our disclosure controls and
procedures, as defined in Rule 13a-15(e) of the Exchange Act, as of September 30, 2011. Based on
this evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of
September 30, 2011, our disclosure controls and procedures were effective to provide reasonable
assurance that information required to be disclosed by us in the reports that we file or submit
under the Exchange Act is recorded, processed, summarized, and reported within the time periods
specified in the SECs rules and forms and to provide reasonable assurance that such information is
accumulated and communicated to our management, including our Chief Executive Officer and Chief
Financial Officer, as appropriate to allow timely decisions regarding required disclosures.
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Changes in Internal Control over Financial Reporting
There has been no change in our internal control over financial reporting during the three
months ended September 30, 2011 that has materially affected, or is reasonably likely to materially
affect, our internal control over financial reporting.
Inherent Limitations on Controls and Procedures
Our management, including the Chief Executive Officer and Chief Financial Officer, does not
expect that our disclosure controls and procedures or our internal control over financial reporting
will prevent all errors and all fraud. A control system, no matter how well designed and operated,
can provide only reasonable, not absolute, assurance that the control systems objectives will be
met. Further, the design of a control system must reflect the fact that there are resource
constraints, and the benefits of controls must be considered relative to their costs. Because of
the inherent limitations in all control systems, no evaluation of controls can provide absolute
assurance that all control issues and instances of fraud, if any, have been detected. Thus,
misstatements due to error or fraud may occur and not be detected. These inherent limitations
include the realities that judgments in decision-making can be faulty, and that breakdowns can
occur because of simple error or mistake. Additionally, controls can be circumvented by the
individual acts of some persons, by collusion of two or more people, or by management override of
controls.
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PART II. OTHER INFORMATION
ITEM 1. | LEGAL PROCEEDINGS |
See Note 16, Commitments and Contingencies in the accompanying condensed consolidated
financial statements.
ITEM 1A. | RISK FACTORS |
In addition to the information set forth in this report you should carefully
consider the risk factors described in Part I, Item 1A. Risk Factors in our Annual Report on Form
10-K for the fiscal year ended December 31, 2010 filed with the SEC on February 24, 2011.
ITEM 2. | UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS |
On February 2, 2010, we completed an underwritten public offering of 1,767,900 shares of our
common stock (including 230,595 shares issued as a result of the full exercise of an overallotment
option by the underwriter) at a price to the public of $35.50 per share, or an aggregate offering
price of $62.8 million. The offer and sales of the shares in the offering were registered under the
Securities Act of 1933 pursuant to a shelf registration statement on Form S-3 (File No.
333-164004), which became effective on January 20, 2010 and which registered up to $100 million of
our common stock.
We raised approximately $58.5 million in the offering, after deducting underwriting discounts
and commissions of $3.8 million and other estimated offering costs of $470,000. No payments were
made by us to our directors, officers or persons owning ten percent or more of our common stock or
to their associates, or to our affiliates. Through September 30, 2011, we have used approximately
$56.8 million of the net proceeds of the offering, including approximately $20.1 million for the
purchase and manufacture of inventories, approximately $24.0 million for general working capital
and approximately $12.7 million for purchases of property, plant and equipment.
ITEM 6. | EXHIBITS |
3.1 | Certificate of Incorporation of HeartWare International, Inc. (1) |
|||
3.2 | Bylaws of HeartWare International, Inc. (1) |
|||
31.1 | Certification of Chief Executive Officer pursuant to Rule 13A-14(a) or Rule 15d-14(a) of the
Securities Exchange Act |
|||
31.2 | Certification of Chief Financial Officer pursuant to Rule 13A-14(a) or Rule 15d-14(a) of the
Securities Exchange Act |
|||
32.1 | Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
|||
32.2 | Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
(1) | Incorporated by reference to the respective exhibits filed with the Companys Current Report on Form 8-K filed with the Securities and Exchange Commission on November 13, 2008. |
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SIGNATURES
In accordance with the requirements of the Securities Exchange Act of 1934, the registrant has duly
caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
HEARTWARE INTERNATIONAL, INC. | ||||
Date: November 3, 2011
|
/s/ Douglas Godshall
|
|||
Chief Executive Officer | ||||
Date:
November 3, 2011
|
/s/ David McIntyre
|
|||
Chief Financial Officer and Chief Operating Officer | ||||
(Principal Financial Officer) | ||||
Date: November 3, 2011
|
/s/ Lauren Farrell
|
|||
Vice President, Finance (Principal Accounting Officer) |
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EXHIBIT INDEX
31.1 | Certification of Chief Executive Officer pursuant to Rule 13A-14(a) or Rule 15d-14(a) of the
Securities Exchange Act |
|||
31.2 | Certification of Chief Financial Officer pursuant to Rule 13A-14(a) or Rule 15d-14(a) of the
Securities Exchange Act |
|||
32.1 | Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
|||
32.2 | Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
37