UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2012
OR
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number: 0-27422
ArthroCare Corporation
(Exact name of registrant as specified in its charter)
Delaware |
| 94-3180312 |
(State of incorporation) |
| (I.R.S. Employer Identification No.) |
7000 W. William Cannon, Building One, Austin, Texas 78735
(Address of principal executive offices)
(512) 391-3900
(Registrant’s 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 x No o
Indicate by check mark whether the registrant has submitted 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 x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b.2 of the Exchange Act (check one):
Large accelerated filer x |
| Accelerated filer o |
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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 x
As of April 25, 2012, the number of outstanding shares of the Registrant’s Common Stock was 27,658,172.
ARTHROCARE CORPORATION
Form 10-Q Quarterly Report
For the quarter ended March 31, 2012
1 | |
1 | |
1 | |
2 | |
3 | |
4 | |
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS | 11 |
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK | 17 |
18 | |
19 | |
19 | |
19 | |
ITEM 2. UNREGISTERED SALES OF SECURITIES AND USE OF PROCEEDS | 19 |
20 | |
20 | |
20 | |
20 | |
21 | |
22 | |
Exhibit 31.1 |
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Exhibit 31.2 |
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Exhibit 32.1 |
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Exhibit 32.2 |
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Exhibit 101 |
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ARTHROCARE CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(unaudited)
(in thousands, except par value data)
|
| March 31, |
| December 31, |
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ASSETS |
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Current assets: |
|
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Cash and cash equivalents |
| $ | 161,977 |
| $ | 219,605 |
|
Accounts receivable, net of allowances of $2,125 and $2,251 at March 31, 2012 and December 31, 2011, respectively |
| 49,167 |
| 51,350 |
| ||
Inventories, net |
| 37,372 |
| 35,761 |
| ||
Deferred tax assets |
| 35,882 |
| 40,622 |
| ||
Prepaid expenses and other current assets |
| 6,266 |
| 5,532 |
| ||
Total current assets |
| 290,664 |
| 352,870 |
| ||
|
|
|
|
|
| ||
Property and equipment, net |
| 34,706 |
| 35,769 |
| ||
Intangible assets, net |
| 4,150 |
| 5,457 |
| ||
Goodwill |
| 119,426 |
| 119,159 |
| ||
Deferred tax assets |
| 18,172 |
| 18,159 |
| ||
Other assets |
| 1,667 |
| 1,587 |
| ||
Total assets |
| $ | 468,785 |
| $ | 533,001 |
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LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS’ EQUITY |
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Current liabilities: |
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Accounts payable |
| $ | 13,940 |
| $ | 15,258 |
|
Accrued liabilities |
| 33,979 |
| 112,586 |
| ||
Deferred revenue |
| 854 |
| 742 |
| ||
Income tax payable |
| — |
| 1,542 |
| ||
Total current liabilities |
| 48,773 |
| 130,128 |
| ||
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|
|
|
|
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Deferred tax liabilities |
| 31 |
| 29 |
| ||
Other non-current liabilities |
| 19,651 |
| 18,922 |
| ||
Total liabilities |
| 68,455 |
| 149,079 |
| ||
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Commitments and contingencies (Notes 6 and 7) |
|
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Series A 3% Redeemable Convertible Preferred Stock, par value $0.001; Authorized: 100 shares; |
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Issued and outstanding: 75 shares at March 31, 2012 and December 31, 2011; Redemption value: $87,089 |
| 78,063 |
| 77,184 |
| ||
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Stockholders’ equity: |
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Preferred stock, par value $0.001; Authorized: 4,900 shares; Issued and outstanding: none |
| — |
| — |
| ||
Common stock, par value $0.001; Authorized: 75,000 shares; Issued: 31,615 and 31,523 shares |
|
|
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|
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Outstanding: 27,647 and 27,562 shares at March 31, 2012 and December 31, 2011, respectively |
| 28 |
| 28 |
| ||
Treasury stock: 3,961 shares at March 31, 2012 and 4,005 shares at December 31, 2011 |
| (106,945 | ) | (107,126 | ) | ||
Additional paid-in capital |
| 403,458 |
| 400,580 |
| ||
Accumulated other comprehensive income |
| 5,006 |
| 4,615 |
| ||
Retained earnings |
| 20,720 |
| 8,641 |
| ||
Total stockholders’ equity |
| 322,267 |
| 306,738 |
| ||
Total liabilities, redeemable convertible preferred stock and stockholders’ equity |
| $ | 468,785 |
| $ | 533,001 |
|
The accompanying notes are an integral part of these condensed consolidated financial statements.
ARTHROCARE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(unaudited)
(in thousands, except per-share data)
|
| Three Months Ended |
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|
| 2012 |
| 2011 |
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Revenues: |
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Product sales |
| $ | 88,375 |
| $ | 83,507 |
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Royalties, fees and other |
| 4,497 |
| 4,425 |
| ||
Total revenues |
| 92,872 |
| 87,932 |
| ||
|
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Cost of product sales |
| 26,651 |
| 24,744 |
| ||
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Gross profit |
| 66,221 |
| 63,188 |
| ||
Operating expenses: |
|
|
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|
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Research and development |
| 7,594 |
| 6,810 |
| ||
Sales and marketing |
| 30,200 |
| 28,098 |
| ||
General and administrative |
| 8,488 |
| 8,180 |
| ||
Amortization of intangible assets |
| 1,321 |
| 1,311 |
| ||
Exit costs |
| 160 |
| — |
| ||
Investigation and restatement-related costs |
| 1,093 |
| 2,212 |
| ||
Total operating expenses |
| 48,856 |
| 46,611 |
| ||
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Income from operations |
| 17,365 |
| 16,577 |
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Non-operating gains, net |
| 386 |
| 490 |
| ||
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Income from continuing operations before income taxes |
| 17,751 |
| 17,067 |
| ||
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Income tax provision |
| 4,793 |
| 4,608 |
| ||
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Net income from continuing operations |
| 12,958 |
| 12,459 |
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Income from discontinued operations, net of taxes |
| — |
| 311 |
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Net income |
| 12,958 |
| 12,770 |
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Accrued dividend and accretion charges on Series A 3% Redeemable Convertible Preferred Stock |
| (879 | ) | (840 | ) | ||
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Net income available to common stockholders |
| 12,079 |
| 11,930 |
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Other comprehensive income |
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Foreign currency translation adjustments |
| 392 |
| 899 |
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Total comprehensive income |
| $ | 13,350 |
| $ | 13,669 |
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Weighted average shares outstanding: |
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Basic |
| 27,614 |
| 27,168 |
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Diluted |
| 27,987 |
| 27,586 |
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Earnings per share from continuing operations applicable to common stockholders: |
|
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Basic |
| $ | 0.36 |
| $ | 0.35 |
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Diluted |
| $ | 0.36 |
| $ | 0.35 |
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Earnings per share applicable to common stockholders: |
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Basic |
| $ | 0.36 |
| $ | 0.36 |
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Diluted |
| $ | 0.36 |
| $ | 0.36 |
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The accompanying notes are an integral part of these condensed consolidated financial statements.
ARTHROCARE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(unaudited)
(in thousands)
|
| Three Months Ended |
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|
| 2012 |
| 2011 |
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Cash flows from operating activities: |
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Net income |
| $ | 12,958 |
| $ | 12,770 |
|
Adjustments to reconcile net income to net cash provided by operating activities: |
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Depreciation and amortization |
| 5,318 |
| 5,499 |
| ||
Provisions for doubtful accounts receivable, product returns, and inventory valuation |
| 1,609 |
| 251 |
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Non-cash stock compensation expense |
| 1,974 |
| 1,729 |
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Deferred taxes |
| 4,729 |
| 2,283 |
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Other |
| 1,017 |
| (1,065 | ) | ||
Changes in operating assets and liabilities: |
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Changes in operating assets |
| (1,954 | ) | 602 |
| ||
Changes in operating liabilities |
| (81,133 | ) | (6,836 | ) | ||
Net cash provided by (used in) operating activities |
| (55,482 | ) | 15,233 |
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Cash flows from investing activities: |
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Purchases of property and equipment |
| (3,011 | ) | (2,989 | ) | ||
Other |
| — |
| 46 |
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Net cash used in investing activities |
| (3,011 | ) | (2,943 | ) | ||
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Cash flows from financing activities: |
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Proceeds from exercise of stock options and issuance of common stock |
| 906 |
| 1,632 |
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Net cash provided by financing activities |
| 906 |
| 1,632 |
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Effect of exchange rate changes on cash and cash equivalents |
| (41 | ) | 1,071 |
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Net increase (decrease) in cash and cash equivalents |
| (57,628 | ) | 14,993 |
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Cash and cash equivalents, beginning of period |
| 219,605 |
| 132,536 |
| ||
Cash and cash equivalents, end of period |
| $ | 161,977 |
| $ | 147,529 |
|
The accompanying notes are an integral part of these condensed consolidated financial statements.
ARTHROCARE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
NOTE 1 — BASIS OF PRESENTATION
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements of ArthroCare Corporation (“ArthroCare”) and its subsidiaries (collectively with ArthroCare, the “Company”) have been prepared in accordance with the instructions to Form 10-Q and therefore do not include all information and footnotes necessary for a fair presentation of financial position, results of operations and cash flows in conformity with United States generally accepted accounting principles (“GAAP”). The condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto together with management’s discussion and analysis of financial condition and results of operations contained in the Company’s 2011 Annual Report on Form 10-K filed on February 16, 2012 (“2011 Form 10-K”). In the opinion of management, the accompanying condensed consolidated financial statements reflect all adjustments of a normal recurring nature considered necessary to fairly state the financial position of the Company at March 31, 2012 and December 31, 2011, and the results of its operations and cash flows for the three month periods ended March 31, 2012 and 2011. The results of operations for the periods presented are not necessarily indicative of results that may be expected for the year ending December 31, 2012.
Use of Estimates
The unaudited condensed consolidated financial statements have been prepared in conformity with GAAP, using management’s best estimates and judgments where appropriate. These estimates and judgments affect the reported amounts of assets and liabilities and disclosure of the contingent assets and liabilities at the date of the financial statements. The estimates and judgments will also affect the reported amounts for certain revenues and expenses during the reporting period. Actual results could differ materially from these estimates and judgments.
Significant Accounting Policies
The Company accounts for stock-based compensation by measuring and recognizing as compensation expense the grant date fair value of all share-based payment awards made to employees, including employee stock options and restricted stock awards. The determination of fair value involves a number of significant estimates. The Company uses the Black-Scholes option pricing model to estimate the fair value of employee stock options that have service or performance conditions and the Company uses the Monte Carlo pricing model to estimate the fair value of options or awards that have market based conditions. The inputs to both pricing models require a number of assumptions such as volatility, risk free interest rate and expected term. As stock-based compensation expense is based on the number of options or awards expected to vest, the Company must make estimates regarding whether or not the performance and service conditions will be achieved. These estimates are made at the time of grant and revised, if necessary, in subsequent periods which might result in a significant change in stock-based compensation expense in future periods.
There have been no other significant changes or updates to the Company’s significant accounting policies disclosed in its 2011 Form 10-K.
Recent Accounting Pronouncements
In the first quarter of 2012, the Company adopted the new requirements for the presentation of comprehensive income issued by the FASB in June 2011.
Reclassification of prior period presentation
In the third quarter of 2011, the Company reclassified advances of legal fees paid pursuant to indemnification agreements that were entered into with certain former executives and employees while they were employed with the Company to investigation and restatement related costs that had previously been reported as general and administrative expenses. The reclassifications had no effect on total operating expenses or income from operations. The amounts advanced, net of insurance recoveries, and reclassified from general and administrative expenses to investigation and restatement related costs for the three month period ending March 31, 2011 was $1.0 million.
ARTHROCARE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
NOTE 2 — DISCONTINUED OPERATIONS
In the fourth quarter of 2010, the Company determined that its non-Coblation spine products met the criteria under GAAP to be reported as discontinued operations and on June 30, 2011 completed the sale of its discontinued operations. The Company’s non-Coblation spine products consisted of its Parallax and Contour product lines. Revenues, income and income taxes related to discontinued operations for the three month period ended March 31, 2011 was as follows (in thousands):
|
| Three Months |
| |
|
| 2011 |
| |
Revenue |
| $ | 1,131 |
|
Income from discontinued operations before income taxes |
| 501 |
| |
Income tax provision |
| 190 |
| |
Income from discontinued operations, net of income taxes |
| 311 |
| |
NOTE 3 — COMPUTATION OF EARNINGS PER SHARE
The Company’s Series A 3% Redeemable Convertible Preferred Stock (the “Series A Preferred Stock”) has participation rights in dividends issued to common stockholders. As a result, the Company calculates earnings per share using the two class method. The following is a reconciliation of net income applicable to common stockholders and the number of shares used in the calculation of basic and diluted earnings per share applicable to common stockholders (in thousands, except per-share data):
ARTHROCARE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
|
| Three Months Ended |
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|
| March 31, |
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|
| 2012 |
| 2011 |
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Income from continuing operations allocated to common stockholders (net of $2,098 and $2,046 attributable to Series A Preferred Stock for the quarters ended March 31, 2012 and 2011, respectively) |
| $ | 9,981 |
| $ | 9,573 |
|
Income from discontinued operations (net of $0 and $55 attributable to Series A Preferred Stock for the quarters ended March 31, 2012 and 2011, respectively) |
| — |
| 256 |
| ||
Net income allocated to common stockholders (net of $2,098 and $2,101 of undistributed earnings to Series A Preferred Stock for the quarters ended March 31, 2012 and 2011, respectively) |
| $ | 9,981 |
| $ | 9,829 |
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Basic: |
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Weighted-average common shares outstanding |
| 27,614 |
| 27,168 |
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Earnings from continuing operations per share allocated to common stockholders |
| $ | 0.36 |
| $ | 0.35 |
|
Earnings from discontinued operations per share allocated to common stockholders |
| — |
| 0.01 |
| ||
Earnings per share allocated to common stockholders |
| $ | 0.36 |
| $ | 0.36 |
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Diluted: |
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Weighted-average shares outstanding used in basic calculation |
| 27,614 |
| 27,168 |
| ||
Dilutive effect of options |
| 120 |
| 109 |
| ||
Dilutive effect of unvested restricted stock |
| 253 |
| 309 |
| ||
Weighted-average common stock and common stock equivalents |
| 27,987 |
| 27,586 |
| ||
Earnings from continuing operations per share allocated to common stockholders |
| $ | 0.36 |
| $ | 0.35 |
|
Earnings from discontinued operations per share allocated to common stockholders |
| — |
| 0.01 |
| ||
Earnings per share allocated to common stockholders |
| $ | 0.36 |
| $ | 0.36 |
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Stock awards excluded from calculation as their effect would be anti-dilutive |
| 1,061 |
| 1,029 |
| ||
Stock issuable upon conversion of the Series A Preferred Stock |
| 5,806 |
| 5,806 |
|
ARTHROCARE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
NOTE 4 — INVENTORIES
The following summarizes the Company’s inventories (in thousands):
|
| March 31, |
| December 31, |
| ||
|
| 2012 |
| 2011 |
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Raw materials |
| $ | 8,689 |
| $ | 9,146 |
|
Work-in-process |
| 12,529 |
| 10,293 |
| ||
Finished goods |
| 20,824 |
| 20,852 |
| ||
|
| 42,042 |
| 40,291 |
| ||
Inventory valuation reserves |
| (4,670 | ) | (4,530 | ) | ||
Inventories, net |
| $ | 37,372 |
| $ | 35,761 |
|
NOTE 5 — ACCRUED LIABILITIES
The following summarizes the Company’s accrued liabilities (in thousands):
|
| March 31, |
| December 31, |
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Compensation |
| $ | 11,986 |
| $ | 16,751 |
|
Insurance dispute reserve |
| 9,663 |
| 9,627 |
| ||
Proposed settlement of private securities class actions |
| — |
| 74,000 |
| ||
Other |
| 12,330 |
| 12,208 |
| ||
|
| $ | 33,979 |
| $ | 112,586 |
|
NOTE 6 — COMMITMENTS
Operating Leases
The Company leases certain facilities and equipment under operating leases. The Company recognizes rent expense on a straight-line basis over the lease term. Rent expense was $2.0 million and $1.5 million for the quarters ended March 31, 2012 and 2011, respectively. There were no material changes from the Company’s lease obligations presented in its 2011 Form 10-K.
Indemnification Agreements
The Company advances legal fees as required pursuant to indemnification agreements that were entered with certain former executives and employees while they were employed with the Company. During the quarter ended March 31, 2012 the Company advanced $1.5 million and as of March 31, 2012 has accrued $0.4 million under these indemnity agreements. The Company expects to continue to advance payments pursuant to these agreements in future periods; however, management is unable to estimate the amount or timing of future payments under such agreements.
NOTE 7 — LITIGATION AND CONTINGENCIES
In addition to the matters specifically described below, the Company is involved in other legal and regulatory proceedings that arise in the ordinary course of business that do not have a material impact on the Company’s business. Litigation claims and proceedings of all types are subject to many factors that generally cannot be predicted accurately.
ARTHROCARE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
The Company records reserves for claims and lawsuits when they are probable and reasonably estimable. Except as otherwise specifically noted, the Company currently cannot determine the ultimate resolution of the matters described below. For matters where the likelihood or extent of a loss is not probable or cannot be reasonably estimated, the Company has not recognized in its condensed consolidated financial statements the potential liability that may result from these matters. Further, for such matters where a loss is believed to be reasonably possible, but not probable, no accrual has been made and an estimate of the reasonably possible loss cannot be made at this time. If one or more of these matters is determined against the Company, it could have a material adverse effect on the Company’s earnings, liquidity and financial condition.
The Company continues to gather additional facts and information related to insurance billing and healthcare compliance issues and marketing and promotional practices in connection with these legal and administrative proceedings with the assistance of legal counsel.
DOJ Investigation
The Department of Justice (the “DOJ”) is investigating certain of the Company’s activities including past sales, accounting, and billing procedures primarily in relation to the operation of the Company’s Spine product sales. The DOJ is also reviewing the Company’s relationship with its DiscoCare subsidiary. The Company is cooperating with this investigation. At this stage of the investigation, the Company cannot predict the ultimate outcome and is unable to estimate any potential liability the Company may incur.
Private Securities Class Action
In 2008, two putative securities class actions were filed in Federal court against the Company and certain of its former executive officers, alleging violations of Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder. Plaintiffs allege that the defendants violated federal securities laws by issuing false and misleading financial statements and making material misrepresentations regarding the Company’s internal controls, business, and financial results. On October 28, 2008, and thereafter, the two putative securities class actions and the federal shareholder derivative actions were consolidated and designated: In Re ArthroCare Corporation Securities Litigation, Case No. 1:08-cv-00574-SS (consolidated) in the U.S. District Court, Western District of Texas.
Proposed Settlement of Private Securities Actions
The Company reached an agreement to settle the private securities class action suits consolidated into the action titled In Re ArthroCare Corporation Securities Litigation, Case No. 1:08-cv-00574-SS (consolidated) in the U.S. District Court, Western District of Texas. The settlement is subject to Court approval.
The settlement would settle all claims arising from the purchase or sale of ArthroCare securities of a class of all purchasers of ArthroCare common stock and call options, and sellers of put options on ArthroCare common stock between December 11, 2007 and February 18, 2009, inclusive (the Class), except those members of the Class who opt out, for a payment of $74 million to a settlement fund to be created for the settlement. Counsel for the plaintiff will apply for an award of attorneys’ fees and reimbursement of expenses from the settlement fund. On February 10, 2012, the Court entered an order of preliminary approval of the settlement and ordered that Notice be sent to all class members. Pursuant to the preliminary approval order, the Company paid the $74 million in settlement funds into the applicable settlement escrow account on February 23, 2012. A fairness hearing for final approval of the settlement is scheduled for May 25, 2012.
False Claims Act Investigation
The Company received a Civil Investigative Demand from the DOJ, requesting information related to the marketing of its radio-frequency ablation devices, which could implicate the False Claims Act, 31 U.S.C. § 3729. The Company is cooperating fully with the investigation, although no assurances can be given regarding the duration of the investigation or whether proceedings will be instituted against the Company. Management intends to represent the Company’s interests vigorously in this matter. At this stage of the investigation, however, management cannot predict the ultimate outcome of the investigation or any potential liability the Company may incur.
ARTHROCARE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
NOTE 8 — LONG TERM INCENTIVE PROGRAM AWARDS
On January 6, 2012, the Company’s Board of Directors (the “Board”) approved a Long Term Incentive Program (the “LTIP”), which provides for shares of the Company’s Common Stock (the “Performance Shares”) to certain senior executives of the Company, under the Company’s Amended and Restated 2003 Incentive Stock Plan.
The Board also approved the participants, goals and award levels for the first performance period under the LTIP. Under the 2012-2014 Performance Period, in aggregate the participants may earn up to a maximum of 600,000 shares of Common Stock pursuant to Performance Shares. The final number of shares to be earned under the LTIP will be determined based upon the Company’s actual achievement compared to revenue, operating income and free cash flow goals, during the performance period, provided that the Company’s stock price is equal to or greater than $35 on December 31, 2014. The number of earned shares, if any, will be determined on the date that the Company files its Form 10-K for the year ended December 31, 2014 (the “Determination Date”) and 50 percent of the earned Performance Shares vests on the thirtieth day following the Determination Date and 25 percent of the earned shares vests on each of the next two anniversaries of the Determination Date.
The fair value of each Performance Share was estimated to be $17.07 on the grant date using the Monte Carlo pricing model with the following assumptions:
|
|
|
| |
Grant date price |
| $ | 31.30 |
|
Performance term (in years) |
| 2.98 |
| |
Expected volatility |
| 33.46 | % | |
Risk-free interest rate |
| 0.40 | % | |
Expected dividends |
| — |
| |
No expense was recorded for the period ended March 31, 2012 related to the LTIP awards. LTIP awards are excluded from earning per share calculations (see Note 3 — Earnings Per Share) until all performance and market conditions are satisfied.
NOTE 9 —EXIT COSTS
The Company completed the consolidation of its Sunnyvale, California activities to Austin, Texas in the fourth quarter of 2011. Exit costs in the current period primarily relates to the ongoing lease of office space that is no longer being utilized as a result of the consolidation.
The following table summarizes the accrued and paid exit costs during the quarter ended March 31, 2012 (in thousands):
|
| Three Months Ended March 31, 2012 |
| ||||||||||
|
| Accrued |
|
|
|
|
| Accrued |
| ||||
|
| Exit Cost |
|
|
|
|
| Exit Cost |
| ||||
|
| Balance at |
|
|
|
|
| Balance at |
| ||||
|
| January 1, 2012 |
| Cost Incurred |
| Payments |
| March 31, 2012 |
| ||||
Employee-related |
| $ | 1,417 |
| $ | 29 |
| $ | 1,397 |
| $ | 49 |
|
Contract termination and other |
| 2,371 |
| 131 |
| 225 |
| 2,277 |
| ||||
|
| $ | 3,788 |
| $ | 160 |
| $ | 1,622 |
| $ | 2,326 |
|
NOTE 10 — SEGMENT INFORMATION
Our business consists of one operating and reportable segment for the development, manufacturing and marketing of disposable devices and implants for select surgical procedures. The development, manufacturing and other supporting functions, such as regulatory affairs and distribution, are common across our Company. We organize and manage our sales and marketing functions according to both the surgical procedure that typically employs our products and geography. Most of the Company’s products are used in Sports Medicine or ENT procedures.
ARTHROCARE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (unaudited)
Product sales by product area for the periods shown were as follows (in thousands):
|
| Three Months Ended |
| Three Months Ended |
| ||||||||||||||
|
| March 31, 2012 |
| March 31, 2011 |
| ||||||||||||||
|
| Americas |
| International |
| Total |
| Americas |
| International |
| Total |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Sports Medicine |
| $ | 39,028 |
| $ | 20,282 |
| $ | 59,310 |
| $ | 37,381 |
| $ | 19,328 |
| $ | 56,709 |
|
ENT |
| 21,776 |
| 5,394 |
| 27,170 |
| 20,037 |
| 4,267 |
| 24,304 |
| ||||||
Other |
| 590 |
| 1,305 |
| 1,895 |
| 685 |
| 1,809 |
| 2,494 |
| ||||||
Total product sales |
| $ | 61,394 |
| $ | 26,981 |
| $ | 88,375 |
| $ | 58,103 |
| $ | 25,404 |
| $ | 83,507 |
|
Internationally, the Company markets and supports its products primarily through its subsidiaries and various distributors. Product sales attributed to geographic areas are based on the country or regional area where the Company’s customer is domiciled. Product sales by geography for the periods shown were as follows (in thousands):
|
| Three Months Ended |
| ||||
|
| March 31, |
| ||||
|
| 2012 |
| 2011 |
| ||
|
|
|
|
|
| ||
United States |
| $ | 58,807 |
| $ | 55,285 |
|
Non-United States (1) |
| 29,568 |
| 28,222 |
| ||
Total product sales |
| $ | 88,375 |
| $ | 83,507 |
|
(1) No additional countries have product sales greater then 10%. of total product sales
Long-lived assets, net by geography at the balance sheet dates shown were as follows (in thousands):
|
| March 31, |
| December 31, |
| ||
|
|
|
|
|
| ||
United States |
| $ | 115,575 |
| $ | 117,527 |
|
Other |
| 44,374 |
| 44,445 |
| ||
Total long-lived assets |
| $ | 159,949 |
| $ | 161,972 |
|
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with the condensed consolidated financial statements and notes thereto appearing elsewhere in this Form 10-Q. Readers should also review carefully “Forward-Looking Statements,” in Part II of this quarterly report on Form 10-Q, which provides information about the forward-looking statements in this report and a discussion of the factors that might cause our actual results to differ, perhaps materially, from these forward-looking statements. Statements in this Management’s Discussion and Analysis of Financial Condition and Results of Operations and elsewhere in this quarterly report on Form 10-Q which express that we “believe,” “anticipate,” “expect” or “plan to” as well as other statements which are not historical fact, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and are subject to the safe harbors created under the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended. Readers are cautioned that these forward-looking statements are only predictions and are subject to risks, uncertainties, and assumptions that are difficult to predict. As such, actual events or results may differ materially as a result of the risks and uncertainties described herein and elsewhere including, but not limited to, those factors discussed in Part II — Item 1A — “Risk Factors”. In this quarterly report on Form 10-Q, the terms the “Company”, “we”, “us” and “our” refer to ArthroCare Corporation and its subsidiaries.
Overview
We are a medical device company that develops, manufactures and markets surgical products, many of which are based on our minimally invasive patented Coblation technology. Our products are used across several medical specialties, improving many existing soft-tissue surgical procedures and enabling new minimally invasive surgical procedures. Our business consists of one operating and reportable segment for the development, manufacturing and marketing of disposable devices and implants for select surgical procedures. The product development, manufacturing and other supporting functions, such as regulatory affairs and distribution, are common across our Company. We organize and manage our sales and marketing functions according to both the surgical procedure that typically employs our products and geography. Most of the Company’s products are used in Sports Medicine or ENT procedures.
Key Financial Items, Trends and Uncertainties Affecting Our Business
Our management reviews and analyzes several metrics and ratios in order to manage our business and assess the quality of and potential variability of our operating performance. The most important of these financial metrics and ratios include:
Product Sales
Our principal source of revenue is from sales of our products, which primarily include disposable surgical devices and implants. Product sales are made through our employed sales representatives, independent sales agents and distributors. Product sales increased 5.8 percent in the first quarter of 2012 compared to the same period in 2011. We anticipate that disposable surgical device sales and implant sales will remain key components of our product sales for the foreseeable future.
We contract manufacture disposable surgical devices and implants based on our technologies for other medical device companies which is included in product sales. Product sales from contract manufacturing for the first quarter of 2012 and 2011 were $4.8 million and $5.4 million, respectively, a decrease of 11.1 percent.
We also generate revenue from royalties and fees from licensing of our technology to other companies and earn other revenues from shipping and handling costs billed to customers.
Gross Product Margin
Gross product margin as a percentage of product sales for the first quarter of 2012 was 69.8 percent compared to 70.4 percent for the same period in 2011. Cost of product sales consists of all product manufacturing costs (including material costs, labor costs, manufacturing overhead, warranty and other direct product costs), adjustments to the carrying value of inventory for excess or obsolete items, certain stock based compensation costs associated with manufacturing and operations personnel and costs of product shipped to our customers. Cost of product sales also includes the amortization of controller units and instruments that have been placed at customer locations to enable the
use of our disposable surgical products. We maintain ownership of all placed controllers and instruments and the costs are amortized into cost of product sales over their estimated useful life. Our manufactured products are mostly produced at our Costa Rica facility. Raw materials used to produce our products are generally not subject to substantial commodity price volatility.
The comparability of gross product margin between periods will be impacted by several items, including the mix between proprietary and contract manufactured product sales; the stability of the average sales price we realize on proprietary products; changes in the estimated percentage of engineering activities related to manufacturing process design or improvement; and changes in our product emphasis which could result in excess and obsolescence charges being included in the cost of product sales in a particular period.
Operating Margin
Operating margin is our income from operations as a percentage of total revenues. Our key operating expenses include expenses incurred in connection with research and development, sales and marketing, and general and administrative activities, as well as the amortization of intangible assets. Operating margin for the first quarter of 2012 was 18.7 percent compared to 18.9 percent for the same period in 2011.
Under the short-term incentive plan for 2012 approved by our Board of Directors, Adjusted Operating Margin is a key metric for purposes of evaluating management’s performance. Adjusted Operating Margin is Operating Margin adjusted for investigation and restatement related costs. Investigation and restatement related costs were 1.2 percent and 2.5 percent of total revenue for the first quarters of 2012 and 2011, respectively, and Adjusted Operating Margin was 19.9 percent and 21.4 percent for these same periods. Adjusted Operating Margin is a non-GAAP measure of profitability and it should not be considered as a substitute for measures prepared in accordance with GAAP.
We completed the relocation of our Sunnyvale, California operations to Austin, Texas in December of 2011. Exit cost in the current period relates to the lease of office space that is no longer being utilized as a result of the consolidation.
Net Earnings
Net earnings will be affected by the same trends that impact our revenues, gross product margin and operating margin. In addition, net earnings will also be affected by non-operating other income and expenses, such as foreign currency gains and losses, and by income taxes. We expect that we will report foreign currency gains or losses each period due primarily to changes in the value of the euro, British pound and Australian dollar versus the U.S. dollar.
Our effective income tax rate is less than the U.S. statutory rate as a substantial portion of our operations are outside the U.S. in jurisdictions with lower tax rates, including Costa Rica, where we have a tax holiday that extends through December 2015. In years of loss, our effective tax rate has exceeded the U.S. statutory rate due to the apportionment of income or loss between jurisdictions in which we operate. We expect to be able to fully utilize our deferred tax assets, which amounted to $54.1 million as of March 31, 2012.
Results of Operations
Results of operations for the three months ended March 31, 2012 and 2011 (in thousands, except percentages and per-share data) were as follows:
|
| Three Months Ended |
| ||||||||
|
| March 31, |
| ||||||||
|
| 2012 |
| 2011 |
| ||||||
|
| Dollars |
| % Total |
| Dollars |
| % Total |
| ||
|
|
|
|
|
|
|
|
|
| ||
Revenues: |
|
|
|
|
|
|
|
|
| ||
Product sales |
| $ | 88,375 |
| 95.2 | % | $ | 83,507 |
| 95.0 | % |
Royalties, fees and other |
| 4,497 |
| 4.8 | % | 4,425 |
| 5.0 | % | ||
Total revenues |
| 92,872 |
| 100.0 | % | 87,932 |
| 100.0 | % | ||
|
|
|
|
|
|
|
|
|
| ||
Cost of product sales |
| 26,651 |
| 28.7 | % | 24,744 |
| 28.1 | % | ||
|
|
|
|
|
|
|
|
|
| ||
Gross profit |
| 66,221 |
| 71.3 | % | 63,188 |
| 71.9 | % | ||
|
|
|
|
|
|
|
|
|
| ||
Operating expenses: |
|
|
|
|
|
|
|
|
| ||
Research and development |
| 7,594 |
| 8.2 | % | 6,810 |
| 7.7 | % | ||
Sales and marketing |
| 30,200 |
| 32.5 | % | 28,098 |
| 32.0 | % | ||
General and administrative |
| 8,488 |
| 9.1 | % | 8,180 |
| 9.3 | % | ||
Amortization of intangible assets |
| 1,321 |
| 1.4 | % | 1,311 |
| 1.5 | % | ||
Exit costs |
| 160 |
| 0.2 | % | — |
| 0.0 | % | ||
Investigation and restatement-related costs |
| 1,093 |
| 1.2 | % | 2,212 |
| 2.5 | % | ||
Total operating expenses |
| 48,856 |
| 52.6 | % | 46,611 |
| 53.0 | % | ||
|
|
|
|
|
|
|
|
|
| ||
Income from operations |
| 17,365 |
| 18.7 | % | 16,577 |
| 18.9 | % | ||
|
|
|
|
|
|
|
|
|
| ||
Non-operating gains, net |
| 386 |
|
|
| 490 |
|
|
| ||
|
|
|
|
|
|
|
|
|
| ||
Income from continuing operations before income taxes |
| 17,751 |
|
|
| 17,067 |
|
|
| ||
|
|
|
|
|
|
|
|
|
| ||
Income tax provision |
| 4,793 |
|
|
| 4,608 |
|
|
| ||
|
|
|
|
|
|
|
|
|
| ||
Net income from continuing operations |
| 12,958 |
|
|
| 12,459 |
|
|
| ||
|
|
|
|
|
|
|
|
|
| ||
Income (loss) from discontinued operations, net of taxes |
| — |
|
|
| 311 |
|
|
| ||
|
|
|
|
|
|
|
|
|
| ||
Net Income |
| 12,958 |
|
|
| 12,770 |
|
|
| ||
|
|
|
|
|
|
|
|
|
| ||
Accrued dividends and accretion charges on Series A 3% Redeemable Convertible Preferred Stock |
| (879 | ) |
|
| (840 | ) |
|
| ||
|
|
|
|
|
|
|
|
|
| ||
Net income available to common stockholders |
| 12,079 |
|
|
| 11,930 |
|
|
| ||
|
|
|
|
|
|
|
|
|
| ||
Other comprehensive income |
|
|
|
|
|
|
|
|
| ||
Foreign currency translation adjustments |
| 392 |
|
|
| 899 |
|
|
| ||
|
|
|
|
|
|
|
|
|
| ||
Total comprehensive income |
| $ | 13,350 |
|
|
| $ | 13,669 |
|
|
|
|
|
|
|
|
|
|
|
|
| ||
Weighted-average shares outstanding: |
|
|
|
|
|
|
|
|
| ||
Basic |
| 27,614 |
|
|
| 27,168 |
|
|
| ||
Diluted |
| 27,987 |
|
|
| 27,586 |
|
|
| ||
|
|
|
|
|
|
|
|
|
| ||
Earnings per share from continuing operations applicable to common stockholders: |
|
|
|
|
|
|
|
|
| ||
Basic |
| $ | 0.36 |
|
|
| $ | 0.35 |
|
|
|
Diluted |
| $ | 0.36 |
|
|
| $ | 0.35 |
|
|
|
|
|
|
|
|
|
|
|
|
| ||
Earnings per share applicable to common stockholders: |
|
|
|
|
|
|
|
|
| ||
Basic |
| $ | 0.36 |
|
|
| $ | 0.36 |
|
|
|
Diluted |
| $ | 0.36 |
|
|
| $ | 0.36 |
|
|
|
Product Sales
Product sales by product group and geographic market for the periods shown were as follows (in thousands, except percentages):
|
| Three Months Ended |
| Three Months Ended |
| ||||||||||||||||||
|
| March 31, 2012 |
| March 31, 2011 |
| ||||||||||||||||||
|
| Americas |
| International |
| Total |
| % Net |
| Americas |
| International |
| Total |
| % Net |
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
Sports medicine |
| $ | 39,028 |
| $ | 20,282 |
| $ | 59,310 |
| 67.2 | % | $ | 37,381 |
| $ | 19,328 |
| $ | 56,709 |
| 67.9 | % |
ENT |
| 21,776 |
| 5,394 |
| 27,170 |
| 30.7 | % | 20,037 |
| 4,267 |
| 24,304 |
| 29.1 | % | ||||||
Other |
| 590 |
| 1,305 |
| 1,895 |
| 2.1 | % | 685 |
| 1,809 |
| 2,494 |
| 3.0 | % | ||||||
Total product sales |
| $ | 61,394 |
| $ | 26,981 |
| $ | 88,375 |
| 100.0 | % | $ | 58,103 |
| $ | 25,404 |
| $ | 83,507 |
| 100.0 | % |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||||
|
| 69.5 | % | 30.5 | % | 100.0 | % |
|
| 69.6 | % | 30.4 | % | 100.0 | % |
|
|
Worldwide Sports Medicine sales increased 4.6 percent, or $2.6 million, for the first quarter of 2012 compared to the same period in 2011. Americas Sports Medicine product sales increased $1.6 million which consisted of an increase in proprietary Sports Medicine product sales of $2.2 million, or 6.9 percent, and a decrease in contract manufacturing product sales of $0.6 million, or 11.1 percent. The increase in Americas Sports Medicine proprietary product sales was due to stocking distributor changes initiated during 2011, increased sales in the labrum repair segment due to new product introductions in late 2011, and higher revenue per customer, which reflects an increase in underlying procedure volumes in the quarter. International Sports Medicine product sales increased $1.0 million, or 4.9 percent, in the first quarter of 2012 compared to the same period in 2011 due to higher product sales in Asia Pacific markets. Product sales in the European markets were mostly flat as a net increase in direct market sales was offset by decreases in distributor market sales.
Worldwide ENT product sales increased 11.8 percent, or $2.8 million, for the first quarter of 2012 compared to the same period in 2011. Americas ENT product sales increased $1.7 million, or 8.7 percent, primarily as a result of fulfilling Rapid Rhino backorders during the quarter and a higher average selling price for our Coblation product line. International ENT product sales increased $1.1 million, or 26.4 percent, as a result of higher product sales in both European and Asia Pacific markets.
Other product sales decreased 24.0 percent or $0.6 million and represented 2.1 percent and 3.0 percent of total product sales for the first quarter of 2012 and 2011, respectively.
Across all product areas, International product sales increased 6.2 percent, or $1.6 million, in the first quarter of 2012 compared to the same period in 2011. Changes in foreign currency rates decreased the U.S. dollar reported value of International’s local currency product sales by $0.3 million. In our direct markets, product sales increased $1.3 million in the first quarter of 2012, while sales to distributors increased $0.3 million when compared to the same period in 2011. Direct market sales represented approximately 74 percent of International product sales for the first quarter of 2012 and 2011.
Royalties, Fees and Other Revenues
Royalties, fees, and other revenues increased 1.6 percent in the first quarter of 2012 compared to 2011 and represented 4.8 percent of total revenue in the first quarter of 2012 versus 5.0 percent in the first quarter of 2011.
Cost of Product Sales
|
| Three Months Ended |
| ||||||||
|
| March 31, |
| ||||||||
|
| 2012 |
| 2011 |
| ||||||
|
| Dollars |
| % Net |
| Dollars |
| % Net Product |
| ||
|
|
|
|
|
|
|
|
|
| ||
Product cost |
| $ | 22,317 |
| 25.3 | % | $ | 20,674 |
| 24.8 | % |
Controller amortization |
| 2,208 |
| 2.5 | % | 2,185 |
| 2.5 | % | ||
Other |
| 2,126 |
| 2.4 | % | 1,885 |
| 2.3 | % | ||
Total cost of product sales |
| $ | 26,651 |
| 30.2 | % | $ | 24,744 |
| 29.6 | % |
Gross product margin as a percentage of product sales was 69.8 percent during the quarter ended March 31, 2012 compared to 70.4 percent for the same period in 2011. The decrease in gross product margin was primarily related to an increase in the excess inventory reserve in the current quarter.
Operating Expenses
|
| Three Months Ended |
| ||||||||
|
| March 31, |
| ||||||||
|
| 2012 |
| 2011 |
| ||||||
|
| Dollars |
| % Total |
| Dollars |
| % Total |
| ||
|
|
|
|
|
|
|
|
|
| ||
Research and development |
| $ | 7,594 |
| 8.2 | % | $ | 6,810 |
| 7.7 | % |
Sales and marketing |
| 30,200 |
| 32.5 | % | 28,098 |
| 32.0 | % | ||
General and administrative |
| 8,488 |
| 9.1 | % | 8,180 |
| 9.3 | % | ||
Amortization of intangible assets |
| 1,321 |
| 1.4 | % | 1,311 |
| 1.5 | % | ||
Exit costs |
| 160 |
| 0.2 | % | — |
| 0.0 | % | ||
Investigation and restatement-related costs |
| 1,093 |
| 1.2 | % | 2,212 |
| 2.5 | % | ||
Total operating expenses |
| $ | 48,856 |
| 52.6 | % | $ | 46,611 |
| 53.0 | % |
Research and development expense increased $0.8 million in the first quarter of 2012 when compared to the same period in 2011. The increase is due to a higher proportion of engineering personnel involved in research and development activities when compared to the first quarter of 2011 as well as increased activity related to Sports Medicine fixation product development projects.
Sales and marketing expense increased $2.1 million and was 32.5 percent of total revenues for the first quarter of 2012, compared to 32.0 percent of total revenues for the same period in 2011. The increase was primarily a result of expanding our sales infrastructure in International direct markets, such as the Netherlands where we began direct operations in the first quarter of 2012.
General and administrative expenses increased $0.3 million in the first quarter of 2012 when compared to the same period in 2011. The increase in general and administrative expenses is a result of higher stock compensation expense and costs to expand our International management structure, particularly in the Asia Pacific region.
Investigation and restatement expenses decreased $1.1 million to 1.2 percent of total revenues during the quarter ended March 31, 2012. The decrease in investigation and restatement expenses is a result of lower defense costs as certain legal matters that were outstanding during the first quarter of 2011 have since been settled. However, we expect to continue to incur legal defense costs in connection with the matters described in Note 7 of our condensed
consolidated financial statements. We also expect to continue to advance additional legal defense costs to former officers under the indemnification agreements with these former officers.
Non-Operating Gains, Net
|
| Three Months Ended |
| ||||
|
| March 31, |
| ||||
|
| 2012 |
| 2011 |
| ||
|
|
|
|
|
| ||
Foreign exchange gain (loss), net |
| $ | 344 |
| $ | 664 |
|
Interest and other income (expense), net |
| 42 |
| (174 | ) | ||
Non-operating gains, net |
| $ | 386 |
| $ | 490 |
|
Non-operating gains, net, decreased by $0.1 million in the quarter ended March 31, 2012 compared to the same quarter in 2011 as lower foreign exchange gains in the current quarter were partially offset by a gain on sales of non-core fixed assets of $0.2 million
Income Tax Provision (Benefit)
Our effective tax rate for the quarters ended March 31, 2012 and 2011 approximated 27 percent.
Liquidity and Capital Resources
Historically, our liquidity needs have been to finance the costs of operations, to acquire complementary businesses or assets and to make repurchases of our common stock. Our operating cash flow has historically been affected by the overall profitability of the sales of our products, our ability to invoice and collect from customers in a timely manner, and our ability to efficiently implement our acquisition strategy and manage costs. We expect that our cash flows from operations together with cash on hand will be sufficient to satisfy our short-term requirements and, excluding the uncertainty related to the ongoing DOJ investigation to which we are a party, long-term normal operating liquidity requirements.
As of March 31, 2012 we had $241.9 million in working capital compared to $222.7 million at December 31, 2011. Our cash and cash equivalent balance was $162.0 million at March 31, 2012 and $219.6 million at December 31, 2012. In the first quarter of 2012, we paid $74 million as required under the proposed settlement of the private securities class actions, discussed in Note 7 of the consolidated condensed financial statements. Adjusted for this payment, our cash and cash equivalents increased $16.4 million in the first quarter of 2012.
Cash used by operating activities for the first quarter of 2012 was $55.5 million and differed from net income primarily as a result of funding the proposed private securities class action which we accrued in the fourth quarter of 2011, depreciation and amortization expense, and stock based compensation expense. Adjusting for the funding of the $74 million settlement of the private securities class actions, cash provided by operating activities in the first quarter of 2012 was $18.5 million.
Cash used in investing activities was $3.0 million and $2.9 million for the quarter ended March 31, 2012 and 2011 and was primarily related to the purchase of property and equipment.
Cash provided by financing activities for the three months ended March 31, 2012 and 2011 was $0.9 million and $1.6 million, and consisted primarily of proceeds from exercise of stock options and purchases under the employee stock purchase plan.
Critical Accounting Policies and Estimates
We account for stock-based compensation by measuring and recognizing as compensation expense the grant date fair value of all share-based payment awards made to employees, including employee stock options and restricted stock awards. The determination of fair value involves a number of significant estimates. We use the Black-Scholes option pricing model to estimate the fair value of employee stock options that have service or performance conditions and we use the Monte Carlo pricing model to estimate the fair value of options or awards that have market based
conditions. The inputs to both pricing models require a number of assumptions such as volatility, risk free interest rate, and expected term. As stock-based compensation expense is based on the number of options or awards expected to vest, we must make estimates regarding whether or not the performance and service conditions will be achieved. These estimates are made at the time of grant and revised, if necessary, in subsequent periods which might result in a significant change in stock-based compensation expense in future periods.
There have been no other material updates to our critical accounting policies and estimates set forth in “Part II—Item 7—Management Discussion and Analysis of Financial Condition and Results of Operations — Critical Accounting Policies and Estimates” in our 2011 Form 10-K.
Recent Accounting Pronouncements
In the first quarter of 2012, we adopted the new requirements for the presentation of comprehensive income issued by the FASB in June 2011.
Disclosures about Contractual Obligations and Commercial Commitments
We have various contractual obligations, which are recorded as liabilities in our condensed consolidated financial statements. Other items, such as certain purchase commitments with suppliers and minimum lease payments under operating leases, are not recognized as liabilities in our condensed consolidated financial statements but are required to be disclosed. There were no material changes from our contractual obligations presented in our 2011 Form 10-K.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to certain market risks as part of our ongoing business operations, primarily risks from changing foreign currency exchange rates that may impact, adversely or otherwise, our financial condition, results of operations, or cash flows. Although payments under certain operating leases for our facilities are tied to market indices, we are not exposed to material interest rate risk associated with operating leases. We have not historically used derivative financial instruments to manage these market risks.
Our interest income is dependent on changes in the general level of U.S. dollar interest rates. Our cash and cash equivalents consist of money market funds and various deposit accounts. Due to the nature and value of our investments, we have concluded that we do not have material interest rate risk exposure. An immediate 10 percent increase or decrease in interest rates would not have a material adverse impact on our future operating results or cash flows.
Our weighted average interest rate earned on our cash and cash equivalents for the period ended March 31, 2012 was less than 1%.
A significant portion of our international sales and operating expenses are denominated in currencies other than the U.S. dollar. To the extent that the U.S. dollar exchange rates for these currencies fluctuate, we will experience variations in our earnings and financial condition.
Our cash and cash equivalents at March 31, 2012 are denominated primarily in U.S. dollars; however, we also maintain balances in euros, British pounds, Swedish kroner, Swiss francs, Australian dollars and Costa Rican colones. A 10 percent change in the March 31, 2012 exchange rates for these currencies would have an impact on pre-tax income of approximately $0.8 million.
ITEM 4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
As required by Rule 13a-15 under the Securities Exchange Act of 1934, management has evaluated, with the participation of our Chief Executive Officer and Chief Financial Officer, the effectiveness of our disclosure controls and procedures as of the end of the period covered by this report. Disclosure controls and procedures refer to controls and other procedures designed to ensure that information required to be disclosed in the reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC. Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is accumulated and communicated to management, including our CEO and CFO, as appropriate, to allow timely decisions regarding our required disclosure. In designing and evaluating our disclosure controls and procedures, management recognizes that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management was required to apply its judgment in evaluating and implementing possible controls and procedures. Pursuant to this evaluation, our CEO and CFO concluded that, as of March 31, 2012, the end of the period covered by this report, our disclosure controls and procedures were effective at the reasonable assurance level.
Changes in Internal Control Over Financial Reporting
Management has evaluated, with the participation of our CEO and CFO, whether any changes in our internal control over financial reporting that occurred during the quarter ended March 31, 2012 have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. Based on that evaluation, management concluded that there have been no changes in our internal control over financial reporting during the quarter ended March 31, 2012 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
FORWARD-LOOKING STATEMENTS
The information provided herein includes forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. Statements that are not historical facts are forward-looking statements. Forward-looking statements are based on beliefs and assumptions by management and on information currently available to management. Forward-looking statements speak only as of the date they are made, and the Company undertakes no obligation to update any of them publicly in light of new information or future events. Additional factors that could cause actual results to differ materially from those contained in any forward-looking statement include, without limitation: the resolution of litigation pending against the Company; the impact upon the Company’s operations of legal compliance matters which may require improvement and remediation; the ability of the Company to control expenses relating to legal or compliance matters; the Company’s ability to remain current in its periodic reporting requirements under the Exchange Act and to file required reports with the Securities and Exchange Commission on a timely basis; the results of the investigation being conducted by the United States Department of Justice; the impact on the Company of additional civil and criminal investigations by state and federal agencies and civil suits by private third parties involving the Company’s financial reporting and its previously announced restatement and its insurance billing and healthcare fraud-and-abuse compliance practices; the results of the civil investigation by the Department of Justice related to the Civil Investigative Demand we received arising under the False Claims Act; the possibility that the Department of Justice could institute civil proceedings against us, based on the results of the investigation related to the Civil Investigative Demand; the risk that we could be subject to qui tam suits involving the False Claims Act; the possibility that the Department of Justice could institute a criminal enforcement action against us based on the results of the civil investigation related to the Civil Investigative Demand; the resolution of any litigation related to the civil investigation; the ability of the Company to attract and retain qualified senior management and to prepare and implement appropriate succession planning for its Chief Executive Officer; general business, economic and political conditions; competitive developments in the medical devices market; changes in applicable legislative or regulatory requirements; the Company’s ability to effectively and successfully implement its business strategies, and manage the risks in its business; and the reactions of the marketplace to the foregoing.
We discuss our material legal proceedings in Note 7, “Litigation and Contingencies,” in the notes to the condensed consolidated financial statements. In addition to the matters specifically described in Note 7 we are involved in other legal and regulatory proceedings that arise in the ordinary course of business that do not have a material impact on our business. Litigation claims and proceedings of all types are subject to many factors that generally cannot be predicted accurately. We record reserves for claims and lawsuits when they are probable and reasonably estimable. Except as otherwise specifically noted, we currently cannot determine the ultimate resolution of the matters described in Note 7. For matters where the likelihood or extent of a loss is not probable or cannot be reasonably estimated, we have not recognized in our condensed consolidated financial statements the potential liability that may result from these matters. If one or more of these matters is determined against us, it could have a material adverse effect on our earnings, liquidity and financial condition.
There are no material changes from risk factors as previously disclosed in our 2011 Form 10-K.
ITEM 2. UNREGISTERED SALES OF SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. MINE AND SAFETY DISCLOSURES
None.
None.
Exhibit |
| Description |
31.1 |
| Certification of the Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
31.2 |
| Certification of the Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
32.1 |
| Certification of the Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
32.2 |
| Certification of the Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |
101 |
| XBRL Instance Document |
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
| ARTHROCARE CORPORATION |
| a Delaware corporation |
|
|
Date: May 2, 2012 | /s/ David Fitzgerald |
| David Fitzgerald |
| President and Chief Executive Officer |
|
|
Date: May 2, 2012 | /s/ Todd Newton |
| Todd Newton |
| Senior Vice President, Chief Financial Officer and Chief |
| Operating Officer |
EXHIBIT NO. |
| DOCUMENT DESCRIPTION |
|
|
|
31.1 |
| Certification of Chief Executive Officer Pursuant to Rule 13a-14(a) as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|
|
|
31.2 |
| Certification of Chief Financial Officer Pursuant to Rule 13a-14(a) as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|
|
|
32.1 |
| Certification of the 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 the Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 |
|
|
|
101 |
| XBRL Instance Document |