As filed with the Securities Exchange Commission on April 6, 2006
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SECURITIES AND EXCHANGE COMMISSION |
Washington, D.C. 20549 |
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FORM 20-F |
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o | REGISTRATION STATEMENT PURSUANT TO SECTION 12(B) OR (G) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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x | ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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FOR THE FISCAL YEAR ENDED DECEMBER 31, 2005 | |
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o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 |
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GIVEN IMAGING LTD. |
(Exact name of Registrant as specified in its charter) |
Israel
(Jurisdiction of incorporation or organization)
Hermon Building, New Industrial Park
Yoqneam 20692, Israel
(Address of principal executive offices)
Securities registered or to be registered pursuant to Section 12(b) of the Act: None.
Securities registered or to be registered pursuant to Section 12(g) of the Act:
Ordinary Shares, par value NIS 0.05 per share
Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act: None.
The number of outstanding shares of each of the issuer’s classes of capital or common stock as of December 31, 2005:
27,950,281 Ordinary Shares, par value NIS 0.05 per share
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.
Yeso Nox
If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.
Yeso Nox
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.
Yesx Noo
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filero Accelerated filerx Non-accelerated filero
Indicate by check mark which financial statement item the registrant has elected to follow.
Item 17o Item 18x
If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yeso Nox
TABLE OF CONTENTS
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87 | ||
Material Modifications to the Rights of Security Holders and Use of Proceeds | 87 | |
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Purchases of Equity Securities by the Issuer and Affiliated Purchasers | 88 | |
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89 |
The GIVEN logo, GIVEN, PillCam, PILLCAM, the PillCam logo, AGILE, ORDERWIN, ORDER WHEN I NEED, RAPID, PILLCAM IMAGING CAPSULE and design, FINGERS HOLDING A CAPSULE logo and, FINGERS HOLDING PILLCAM CAPSULE logo, are our trademarks or registered trademarks. All other registered trademarks appearing herein are owned by their holders.
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ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISORS
Not Applicable.
ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE
Not Applicable.
The selected consolidated statements of operations data for the years ended December 31, 2003, 2004 and 2005, and the selected consolidated balance sheet data as of December 31, 2004 and 2005, have been derived from our audited consolidated financial statements set forth elsewhere in this Form 20-F. These financial statements have been prepared in accordance with generally accepted accounting principles in the United States of America. The selected consolidated statements of operations data for the years ended December 31, 2001 and 2002, and the selected consolidated balance sheet data as of December 31, 2001, 2002 and 2003, have been derived from our audited consolidated financial statements not included in this Form 20-F, which have also been prepared in accordance with generally accepted accounting principles in the United States of America. You should read the selected consolidated financial information set forth below in conjunction with our consolidated financial statements and the related notes as well as Item 5 “Operating and Financial Review and Prospects” included elsewhere in this Annual Report on Form 20-F.
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| Year ended December 31, |
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| 2001 |
| 2002 |
| 2003 |
| 2004 |
| 2005 |
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| (in thousands, except share and per share data) |
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Statements of Operations Data: |
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Revenues |
| $ | 4,733 |
| $ | 28,904 |
| $ | 40,539 |
| $ | 65,020 |
| $ | 86,776 |
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Cost of revenues |
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| 2,476 |
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| 11,907 |
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| 13,551 |
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| 17,734 |
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| 22,070 |
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Gross profit |
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| 2,257 |
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| 16,997 |
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| 26,988 |
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| 47,286 |
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| 64,706 |
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Operating expenses: |
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Research and development, gross |
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| (6,156 | ) |
| (8,609 | ) |
| (7,037 | ) |
| (7,363 | ) |
| (8,833 | ) |
Royalty-bearing participation |
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| 44 |
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| — |
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| 1,303 |
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| 1,140 |
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| 1,244 |
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Research and development, net |
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| (6,112 | ) |
| (8,609 | ) |
| (5,734 | ) |
| (6,223 | ) |
| (7,589 | ) |
Sales and marketing |
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| (12,902 | ) |
| (22,681 | ) |
| (26,804 | ) |
| (33,652 | ) |
| (43,281 | ) |
General and administrative |
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| (2,664 | ) |
| (4,749 | ) |
| (5,312 | ) |
| (6,916 | ) |
| (9,657 | ) |
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Total operating expenses |
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| (21,678 | ) |
| (36,039 | ) |
| (37,850 | ) |
| (46,791 | ) |
| (60,527 | ) |
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Operating profit (loss) |
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| (19,421 | ) |
| (19,042 | ) |
| (10,862 | ) |
| 495 |
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| 4,179 |
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Financing income, net |
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| 764 |
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| 1,469 |
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| 995 |
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| 956 |
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| 762 |
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Other expenses, net |
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| — |
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| (711 | ) |
| — |
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| — |
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| — |
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Profit (loss) before taxes on income |
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| (18,657 | ) |
| (18,284 | ) |
| (9,867 | ) |
| 1,451 |
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| 4,941 |
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Taxes on income |
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| — |
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| — |
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| — |
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| 690 |
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| 286 |
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Profit (loss) before minority share |
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| (18,657 | ) |
| (18,284 | ) |
| (9,867 | ) |
| 2,141 |
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| 5,227 |
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Minority share in losses (profits) of subsidiary |
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| — |
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| (26 | ) |
| 258 |
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| 747 |
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| 1,116 |
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Net profit (loss) |
| $ | (18,657 | ) | $ | (18,310 | ) | $ | (9,609 | ) | $ | 2,888 |
| $ | 6,343 |
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Basic profit (loss) per ordinary share (1) |
| $ | (1.60 | ) | $ | (0.73 | ) | $ | (0.38 | ) | $ | 0.11 |
| $ | 0.23 |
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Diluted profit (loss) per ordinary share (1) |
| $ | (1.60 | ) | $ | (0.73 | ) | $ | (0.38 | ) | $ | 0.10 |
| $ | 0.21 |
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Weighted average number of ordinary shares used in computing basic profit (loss) per ordinary share (1) |
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| 12,879,369 |
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| 25,182,563 |
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| 25,493,073 |
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| 26,633,964 |
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| 27,781,223 |
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Weighted average number of ordinary shares used in computing diluted profit (loss) per ordinary share (1) |
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| 12,879,369 |
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| 25,182,563 |
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| 25,493,073 |
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| 29,353,448 |
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| 29,695,164 |
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| As of December 31, |
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| 2002 |
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| 2005 |
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Balance Sheet Data: |
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Cash and cash equivalents |
| $ | 61,230 |
| $ | 35,792 |
| $ | 25,367 |
| $ | 80,861 |
| $ | 65,356 |
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Working capital |
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| 62,891 |
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| 43,972 |
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| 34,970 |
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| 92,987 |
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| 86,217 |
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Marketable Securities |
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| — |
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| — |
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| — |
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| — |
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| 21,664 |
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Total assets |
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| 75,923 |
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| 68,728 |
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| 55,569 |
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| 124,224 |
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| 149,110 |
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Long-term liabilities, net of current portion |
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| 522 |
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| 882 |
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| 1,192 |
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| 10,984 |
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| 24,246 |
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Total liabilities |
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| 6,590 |
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| 12,969 |
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| 8,847 |
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| 28,430 |
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| 47,005 |
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Accumulated deficit |
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| (30,716 | ) |
| (49,026 | ) |
| (58,635 | ) |
| (55,747 | ) |
| (49,404 | ) |
Total shareholders’ equity |
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| 69,333 |
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| 53,577 |
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| 44,798 |
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| 94,617 |
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| 102,044 |
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(1) | See Notes 1L and 11 of the notes to our consolidated financial statements for an explanation of the number of shares used in computing per share data. |
CAUTIONARY LANGUAGE REGARDING FORWARD-LOOKING STATEMENTS
This Form 20-F contains forward-looking statements. We have based these forward-looking statements on our current expectations and projections about future events. These statements include but are not limited to:
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| • | the adequacy of our cash balances and cash flow from operations to support our operations or future growth, in general or for specified periods of time; |
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| • | expectations as to raising additional financing; |
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| • | statements as to the potential or expected expansion in acceptance of our current and future products by the medical community, particularly gastroenterologists; |
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| • | statements as to expected increases in sales, operating results and certain expenses, including research and development and sales and marketing expenses; |
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| • | statements as to anticipated reimbursement from U.S. and non-U.S. healthcare payors for our products; |
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| • | expectations as to the development of our products and technology, and the timing of enhancements to our products and new product launches; |
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| • | expectations as to the market opportunities for the Given System and other products, including capsule endoscopes, for visualizing other sections of the gastrointestinal tract, such as the esophagus, stomach and the colon, as well as our ability to take advantage of those opportunities; |
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| • | expectations as to the timing and content of future clinical studies and publications; |
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| • | statements as to the expected outcome of legal and patent proceedings in which we are involved; |
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| • | statements as to the expectation for the content of future publications regarding our products; |
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| • | expectations as to the receipt and timing of regulatory clearances and approvals, and the anticipated timing of sales of the Given System in new markets or for new indications; |
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| • | estimates of the impact of changes in currency exchange rates on our operating results; |
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| • | expectations as to the adequacy of our inventory of critical components and finished products; |
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| • | expectations as to the adequacy of our manufacturing facilities; and |
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| • | statements as to our expected treatment under Israeli and U.S. federal tax legislation and the impact that new Israeli tax and corporate legislation may have on our operations. |
In addition, statements that use the terms “believe”, “expect”, “plan”, “intend”, “estimate”, “anticipate” and similar expressions are intended to identify forward-looking statements. All forward-looking statements in this Form 20-F reflect our current views about future events and are based on assumptions and are subject to risks and uncertainties that could cause our actual results to differ materially from future results expressed or implied by the forward-looking statements. Many of these factors are beyond our ability to control or predict. You should not put undue reliance on any forward-looking statements. Unless we are required to do so under U.S. federal securities laws or other applicable laws, we do not intend to update or revise any forward-looking statements.
RISK FACTORS
If we are unable to achieve broader penetration of the Given System among gastroenterologists, we may not be able to maintain our current growth rate.
Our principal product is the Given System, consisting of a line of PillCam capsules and the related data recorder and computer workstation. As of December 31, 2005, we had sold over 2,860 systems worldwide. Growth in our installed base of Given Systems has contributed to our revenue growth. If we are unable to continue to achieve broad penetration among gastroenterologists, we may be unable to maintain our current growth rate. Our success in making or increasing sales of the Given System depends on a number of factors. First, we must demonstrate that the Given System is clinically-effective and cost-effective in diagnosing a range of disorders of the gastrointestinal tract, and we must inform and educate both physicians and the third-party payors responsible for providing reimbursement coverage about the clinical and economic benefits of using the Given System. Second, we must broaden the indications for which the use of the Given System is reimbursed, expand the number of lives with such reimbursement coverage and educate healthcare providers as to the clinical and economic benefits of using the Given System for such broader indications so that they are encouraged to adopt the Given System. Third, we must continue to improve operational efficiencies of the Given System and demonstrate and convince gastroenterologists that the Given System fits within their normal practice routines. If we are unable to achieve the foregoing, future penetration of the Given System among gastroenterologists may not be sufficient to maintain our current growth rate.
If we are unable to expand reimbursement coverage from third-party healthcare payors for procedures using the Given System, or if reimbursement is insufficient to cover the costs of purchasing or using the Given System when compared to alternative procedures, demand for the Given System may not grow at the rate we expect.
Demand for the Given System depends significantly on the eligibility of the procedures performed using the Given System for reimbursement through government-sponsored healthcare payment systems and private third-party payors. In general, the process of obtaining reimbursement coverage approvals has been slower outside of the United States. Reimbursement practices vary significantly from country to country and within some countries, by region, and we must obtain reimbursement approvals on a country-by-country and region-by-region basis. Historically, we have experienced higher sales in territories in which we have received reimbursement for capsule endoscopy using the Given System and in territories in which health authorities and regulators approved the marketing or use of capsule endoscopy. We may not be able to obtain further approvals in a timely manner or at all. If physicians, hospitals and other healthcare providers are unable to obtain sufficient coverage and reimbursement from third-party payors for procedures using the Given System, or if reimbursement is, or is perceived by our customers to be, insufficient to cover the costs of purchasing or using our product or does not adequately compensate physicians and health care providers compared to the other procedures they offer, we may be unable to generate sufficient sales to continue to grow.
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Our future growth depends in part on our ability to market the Given System and the PillCam SB capsule as a first line diagnostic tool for a variety of disorders of the small intestine.
The Given System and the PillCam SB capsule have been cleared for marketing by the FDA for the detection of disorders of the small intestine. To date, sales of the Given System and of PillCam SB capsules have accounted for the significant majority of our revenues. Our ability to market and sell our line of PillCam capsules is highly dependent on the availability of third party reimbursement for the procedures performed with the Given System. Most reimbursement policies today cover the small bowel capsule endoscopy procedure only after a previous procedure, such as endoscopy or radiology has been performed. Our ability to expand the use of the PillCam SB capsule depends substantially on our ability to convince third party payors to provide reimbursement coverage for the PillCam SB capsule as a primary diagnostic tool and not only after a previous procedure, such as endoscopy or radiology, has been performed. If we are unable to do obtain such reimbursement coverage, sales of the PillCam SB capsule may not grow as we expect.
Changes in healthcare system policies may make it difficult for physicians, hospitals and other healthcare providers to obtain adequate reimbursement for procedures using the Given System, which could adversely affect demand for the Given System.
Many healthcare payors have adopted a managed care system in which they contract to provide comprehensive healthcare for a fixed cost per person, irrespective of the amount of care actually provided. Therefore, the amount of reimbursement provided may not be sufficient to encourage physicians to purchase or utilize the Given System. We are unable to predict what changes will be made in the reimbursement policies of third-party payors. Sales of the Given System could be adversely affected by changes in reimbursement policies of governmental or private healthcare payors to the extent any such changes affect reimbursement amounts or methods for procedures in which the Given System is used.
We currently depend on sales of the PillCam SB for a substantial majority of our revenues. If we are unable to manufacture, market or sell the PillCam SB capsules or to increase PillCam SB capsule usage rates among gastroenterologists, we may not be able to maintain our current annual growth rate.
A substantial portion of our annual revenue growth to date has resulted from increased sales of the PillCam SB capsule. We expect that a substantial majority of our revenues for the foreseeable future will come from sales of the PillCam SB capsule and other PillCam capsules. Sales of the PillCam SB capsule contributed $22.9 million, or 56.4%, in 2003, $41.6 million, or 64%, in 2004 and $62.5 million, or 72% in 2005. We believe that the usage rate of our PillCam capsules is an important factor in growing our revenues. The usage rate outside the United States has historically been lower than in the United States. We are seeking to increase the usage rate by a number of methods, including increased selling and marketing activities, more frequent contact with our customers, attaining reimbursement coverage for broader indications and as a first line tool, generating supporting clinical evidence and educating physicians regarding the clinical benefits of the PillCam capsule, increasing operating efficiencies of our system to the benefit of physicians and collaborating with strategic industry participants. Increasing the usage rate of our customers is also important to attracting new customers to purchase and use the Given System. If we are unable to increase the usage rate of the Given System, we may not be able to achieve the revenues necessary to maintain our growth.
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Our future growth also depends in part on the success of Ethicon Endo-Surgery in marketing our new PillCam ESO video capsule, particularly in the United States.
In May 2004, we entered into an exclusive sales representation and co-promotion agreement with Ethicon Endo-Surgery, a Johnson & Johnson company. InScope, a division of Ethicon Endo-Surgery established to market products to the gastroenterology market, has exclusive rights to market our PillCam ESO capsule in the United States. In September 2004, we launched the PillCam ESO capsule in Europe and in November 2004 we received FDA clearance. Under the agreement, InScope is responsible for marketing the PillCam ESO capsule and, consequently, our future growth depends in part on the success of InScope in doing so. The results of our cooperation with InScope since signing the agreement have not met our expectations and we and InScope have taken a number of actions in an effort to improve sales of the PillCam ESO capsule, including the transfer to us of InScope’s initial responsibility to obtain a dedicated CPT code for the esophageal capsule endoscopy procedure. Sales of the PillCam ESO capsule in 2005 were lower than we expected and may continue to be lower than we expect if InScope is not successful in marketing the PillCam ESO capsule. This may negatively impact our revenue growth.
We face direct competition from manufacturers of capsule endoscopy systems and may lose market share if we are unable to compete effectively in the marketplace or utilize our patent portfolio.
In October 2005, Olympus Corporation launched a competing capsule endoscopy system and began sales in Europe and Australia. Based on publicly available information, Olympus is also conducting clinical trials in the United States and intends to seek FDA clearance to market its capsule endoscopy system in the United States. In addition, in December 2003, Olympus submitted a request to the United States Patent and Trademark Office, or USPTO, to re-examine some of the claims of one of our patents. We submitted our response in August 2005 and are awaiting the decision of the USPTO. Finally, other companies in Korea and China began selling capsule endoscopy systems in these territories in 2005. If we are unable to compete effectively in the marketplace or utilize our patent portfolio against the Olympus capsule endoscopy system and other competing systems, we may lose market share or experience delays in completing sales as a result of longer decision making process among potential customers.
We face competition from large, well-established manufacturers of existing technologies for detecting gastrointestinal disorders, as well as from gastrointestinal products in general which compete for the limited capital expenditure budgets of customers.
To date, competition for the Given System has come primarily from existing technologies for detecting gastrointestinal disorders and diseases. Existing technologies include traditional endoscopy and radiological imaging. The principal manufacturers of gastrointestinal endoscopes are Olympus, Asahi Optical Co., which manufactures and markets cameras and other imaging equipment under the Pentax brand, and Fujinon. The principal manufacturers of equipment for radiological imaging are General Electric Healthcare Systems, Siemens Medical Solutions, a division of Siemens AG, Philips Medical Systems Ltd., Toshiba Corporation and Shimadzu Corporation for x-ray equipment. These companies have substantially greater financial resources than we do, and they have established reputations as well as worldwide distribution channels for medical instruments to physicians. If we are unable to convince physicians to adopt the Given System over the current technologies marketed by our competitors, our results of operations will suffer.
In addition to competition from products performing similar clinical functions to the Given System, there is also competition for the limited capital expenditure budgets of customers. Another capital equipment item for gastroenterology that is priced similarly to our system may compete with our system for the same hospital capital budget, which is typically limited, and therefore the potential purchaser may be required to choose between the two items of capital equipment. If we are unable to market the Given System more effectively than other products which could be purchased using the same budget as the Given System, we may be unable to maintain our current growth rate.
Because of the importance of our patent portfolio to our business, we may lose market share to our competitors if we fail to protect our technology.
Protection of our technology is key to our future success. We rely on patent protection, as well as a combination of copyright, trade secret, design and trademark laws, nondisclosure and confidentiality agreements and other contractual restrictions to protect our proprietary technology. However, these legal means afford only limited protection and may not adequately protect our rights or permit us to gain or keep any competitive advantage. Currently, many of our patent applications are still pending and we will be able to use them to protect our technology against potential competitors only after they are
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issued. The process of issuing a patent may sometimes be lengthy and may not always result in issued patents in a form that will be advantageous to us or at all. In addition, once issued, patents may be challenged, invalidated or circumvented by third parties. Our patents and applications cover particular aspects of our products and technology and may be challenged, invalidated or circumvented by third parties. There may be other effective technologies, designs or methods. If other effective methods are not covered by our patents or applications and our competitors are able to commercialize products using these methods, it could have an adverse effect on our sales. We may not be able to prevent the unauthorized disclosure or use of our technical knowledge or other trade secrets by former employees. Laws protecting intellectual property provide protection in the jurisdiction they are enacted. The laws and judiciary systems of foreign countries also may not protect or enable enforcement of our intellectual property rights to the same extent as the laws of the United States. Even if we adequately protect our intellectual property rights, litigation may be necessary to enforce these rights. This litigation could be lengthy, negatively affect our earnings, require a substantial diversion of management attention and allow our competitors to gain significant market position in the meantime. If we do not adequately protect our intellectual property, our competitors or other parties could use the intellectual property that we have developed to enhance their products or make products similar to ours and compete more efficiently with us, which could result in a decrease in our market share.
Due to the rapid development and introduction of improvements and upgrades to the Given System, it may be difficult for many of our customers to utilize our latest technologies.
We began marketing and selling the Given System in August 2001. Since then, we have introduced new products or significant improvements to existing components of the Given System every year. Newer products or system components may not be able to support and work with older product versions. For example, our PillCam ESO capsule only works with RAPID 3.0 or newer versions of the RAPID software. In order for as many of our customers as possible to utilize our most advanced capsule endoscopy technology, we need to manage new product introductions and installations efficiently, addressing concerns of customers regarding product upgrade costs, time constraints and training and education in light of possible short product cycles. If we are unable to cause our customers to use the most advanced technology available or effectively address compatibility issues between older and newer products, we may harm our competitive position and our sales may be negatively affected.
We may be unable to introduce other products for use in other parts of the gastrointestinal tract.
Our objective is to expand the use of the Given System as a platform to be used with a variety of products and indications. We intend to add to our current PillCam capsules by developing and introducing new capsules for visualizing other parts of the gastrointestinal tract, including the stomach and the colon. There can be no assurance of widespread market acceptance of the Given System as superior to existing technologies for detection of abnormalities in other parts of the gastrointestinal tract or that we will succeed in marketing and selling capsules for use in other parts of the gastrointestinal tract. In addition, we will be required to obtain FDA clearance in the United States and other regulatory approvals outside of the United States before commercially distributing the Given System for use in other parts of the gastrointestinal tract or introducing new products for use in the gastrointestinal tract. These regulatory processes can be lengthy and expensive and we cannot be sure that FDA clearance or other regulatory approvals will be granted. In order to obtain FDA clearance and other regulatory approvals, and to obtain reimbursement coverage for use of the Given System in other parts of the gastrointestinal tract, we will be required to conduct additional clinical trials to demonstrate the diagnostic and cost-effectiveness of the Given System. If future clinical trials indicate that the Given System is not as clinically-effective or cost-effective in these parts of the gastrointestinal tract as current methods, or that it causes unexpected complications or other unforeseen negative effects, we may not obtain regulatory clearance to market and sell the Given System for use in other parts of the gastrointestinal tract or obtain reimbursement coverage, and our growth would be adversely affected.
Any disruption in the United States, our primary market for our products, may result in a material reduction in our revenues and negatively affect our results of operations.
Since we began selling the Given System in 2001, most of our revenues have been generated from sales in the United States. Sales in the United States accounted for $26.2 million, or 65%, of our revenues in 2003, $46.7 million, or 72%, of our revenues in 2004 and $63.9 million, or 74%, of our revenues in 2005. Any disruption to our market in the United States resulting from changes in management of our U.S. subsidiary, adverse changes in reimbursement policies, regulatory requirements, macro-economic changes and other events, many of which are outside our control, may result in a material reduction in our revenues and negatively affect our results of operations.
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We may be unable to maintain or increase our profitability.
We were formed in 1998 and recorded our initial sales of the Given System in the third quarter of 2001. We achieved positive cash flow in the fourth quarter of 2003 and initially became profitable in the second quarter of 2004; however, we have significant operating expenses and must continue increasing our gross profit from sales of the Given System and of the PillCam capsules at a higher rate than the increase in our expenses in order to maintain and grow our profits. If we fail to do so, we may be unable to maintain or increase our profitability.
Because the medical device industry is litigious, we are susceptible to intellectual property suits that could cause us to incur substantial costs or pay substantial damages or prohibit us from selling our products.
There is a substantial amount of litigation over patent and other intellectual property rights in the medical device industry. Whether a product infringes a patent involves complex legal and factual issues, the determination of which is often uncertain. While we have attempted to ensure that the Given System does not infringe other parties’ valid patents and proprietary rights, searches typically performed to identify potentially infringed patents of third parties are not always conclusive and, because patent applications can take many years to issue, there may be applications now pending of which we are unaware, which may later result in issued patents which our current or future products may infringe. In addition, our competitors or other parties may assert that our product and the methods it employs may be covered by patents held by them. If our products infringe a valid patent, we could be prevented from selling them unless we can obtain a license or redesign the product to avoid infringement. A license may not always be available or may require us to pay substantial royalties. We also may not be successful in any attempt to redesign our product to avoid any infringement. Infringement and other intellectual property claims, with or without merit, can be expensive and time-consuming to litigate and can divert management’s attention from operating our business.
We may be required to increase manufacturing quantities of the Given System and could encounter manufacturing problems or delays that could result in lost revenue.
We are currently using two semi-automatic production lines to manufacture PillCam SB capsules and one semi-automated production line to manufacture PillCam ESO capsules. These production lines are installed at our manufacturing facilities in Yoqneam, Israel. Each semi-automatic production line has the capacity to manufacture approximately 270,000 PillCam capsules per year. We have installed one back-up semi-automatic production line at the facilities of Pemstar, Inc. in Ireland for the PillCam SB capsule and have purchased and plan to install a second back-up line for the PillCam ESO capsule. We may be unable to establish or maintain reliable, high-volume manufacturing capacity and may encounter difficulties in scaling up production of the Given System, whether by installing one or more fully-automated production lines, or otherwise. If demand for the Given System exceeds our manufacturing capacity, we could develop a substantial backlog of customer orders and our ability to generate additional revenues will be limited and our reputation in the marketplace may be harmed.
We are subject to extensive regulation by the FDA which could restrict the sale and marketing of the Given System and could cause us to incur significant costs.
We received the initial clearance from the U.S. Food and Drug Administration, or FDA, to market the Given System in the U.S. in August 2001. FDA regulations may require us to submit for clearance improvements and modifications of the Given System, including new PillCam capsules, before we are allowed to market them in the United States. FDA regulations also prohibit us from promoting or advertising the Given System, or any other devices that the FDA may clear in the future, for uses not within the scope of our clearances or making unsupported safety and effectiveness claims. Currently, the Given System has been cleared by the FDA for the detection of abnormalities of the small intestine and the esophagus. These determinations can be subjective, and the FDA may disagree with our promotional claims. Noncompliance with applicable regulatory requirements can result in enforcement action which may include recalling products, ceasing product marketing, paying significant fines and penalties, and similar FDA actions which could limit product sales or delay or halt product shipment. Additionally, if we are unable to receive FDA clearance for new or improved products, the marketing and sale of these products will be delayed or cancelled, which in turn may materially adversely affect our financial condition and results of operations. Unanticipated changes in existing regulatory requirements or adoption of new requirements could also materially adversely affect our financial condition and results of operations.
We are required to adhere to the FDA’s Medical Device Reporting regulation, which requires that manufacturers report to the FDA if their device may have caused or contributed to a death or serious injury or malfunctioned in a way that
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would likely cause or contribute to a death or serious injury if it were to recur. The FDA also requires us to adhere to the Quality System Regulation, which covers the methods and documentation of the design, testing, production, control, quality assurance, labeling, packaging and shipping of the Given System. The FDA enforces the Quality System Regulation through inspections. Our quality system has passed several audits, including a re-certification audit, pursuant to the Medical Devices Directive of the European Union, the International Standard Organization’s standard ISO 9001:2000, ISO 13485:1996 and ISO 13485:2003, which are quality standards setting forth requirements for medical device manufacturers that are more specific than the general requirements specified in ISO 9001. While these quality standards contain requirements which are generally similar to the Quality System Regulation required by the FDA, we have never been through a Quality System Regulation inspection by the FDA and cannot assure you that we would pass. If we fail a Quality System Regulation inspection, our operations could be disrupted and our manufacturing delayed. Failure to take adequate corrective action in response to a Quality System Regulation inspection could force a shutdown of our manufacturing operations and a recall of the Given System, which would have a material adverse effect on our product sales, financial condition and results of operations.
If we or our distributors do not obtain and maintain the necessary regulatory approvals in a specific country or region, we will not be able to market and sell the Given System in that country or region.
In addition to the United States, Germany, France, Australia and Israel, where we market and sell the Given System directly with our own direct sales and marketing organizations, we sell the Given System in over 50 other countries. To be able to market and sell the Given System in a specific country or region, we or our distributors must comply with the regulations of that country or region. While the regulations of some countries do not impose barriers to marketing and selling the Given System or only require notification, others require that we or our distributors obtain the approval of a specified regulatory body. These regulations, including the requirements for approvals, and the time required for regulatory review vary from country to country. Obtaining regulatory approvals is expensive and time-consuming, and we cannot be certain that we or our distributors will receive regulatory approvals in each country or region in which we plan to market our products. If we modify the Given System, we or our distributors may need to apply for new regulatory approvals before we are permitted to sell it. We may not continue to meet the quality and safety standards required to maintain the authorizations that we or our distributors have received. If we or our distributors are unable to maintain our authorizations in a particular country or region, we will no longer be able to sell our products in that country or region, and our ability to generate revenues will be materially adversely affected.
Our failure to comply with radio frequency regulations in a specific country or region could impair our ability to commercially distribute and market the Given System in that country or region.
The Given System includes a wireless radio frequency transmitter and receiver, and is therefore subject to equipment authorization requirements in a number of countries and regions. In the United States, Europe and Japan, authorities require advance clearance of all radio frequency devices before they can be sold or marketed in these jurisdictions. We currently have clearance in the United States and Europe based on the current system design and specifications and expect to be in compliance with the Japanese regulations by the middle of 2006. Modifications to the Given System may require new or further regulatory approvals before we are permitted to market and sell a modified system, and it could take several months to obtain any necessary approvals. If we are unable to maintain our current approvals or obtain any additional required approvals from the authorities responsible for the radio frequency regulations in these and other jurisdictions where we sell the Given System, an enforcement action could be brought to prevent the sale or use of the Given System in these countries. Any such action could negatively affect our results of operations.
Some of our activities may subject us to risks under federal and state laws prohibiting “kickbacks” and false or fraudulent claims.
Certain federal and state laws, including but not limited to the federal anti-kickback statute, prohibit, among other things, the offer, payment, solicitation or receipt of any form of remuneration in return for the referral of healthcare items or services reimbursable by a federal or state health care program such as Medicare or Medicaid. While the federal anti-kickback statute applies only to products or services for which payment may be made in whole or in part by a federal or state health care program, state laws often also apply to private third party payors such as commercial insurance plans. Other federal and state laws, including the Federal False Claims Act, prohibit individuals or entities from knowingly presenting, or causing to be presented, claims for payment to Medicare, Medicaid, or other third-party payors that are false or fraudulent, or are for items or services that were not provided as claimed.
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These laws may apply to the sales, marketing and other promotional activities of manufacturers of medical devices, such as us, and may limit the kinds of financial arrangements we may have with hospitals, physicians, and other potential purchasers of medical devices. The anti-kickback statute, similar federal and state laws, and false claims laws prescribe substantial civil and criminal penalties for noncompliance. While we believe that we are in compliance with these laws, even an unsuccessful government action under one of these legal authorities could cause adverse publicity and be costly to respond to, and thus could have a material adverse effect on our business, results of operations and financial condition.
We have experienced rapid growth and our failure to manage this growth could harm our business.
Our revenues have grown rapidly and we face significant challenges and risks in building and managing our sales and marketing team, including managing geographically dispersed sales efforts and hiring and adequately training our sales people in the use and benefits of the Given System. To succeed in the implementation of our business strategy and maintain our growth, our management team must diligently plan and rapidly execute our sales and marketing strategy, while continuing our research and development, regulatory, clinical and manufacturing activities, as well as manage our continued growth by implementing effective long term planning. If we are unable to effectively plan, manage and execute these efforts, our business may be harmed.
We rely on local distributors to market and distribute the Given System in most of the territories in which we sell it.
With the exception of Australia, France, Germany, Israel and the United States, we rely on distributors for the marketing and distribution of the Given System. Under most of our agreements with local distributors, a distributor is granted the right to market the Given System for an initial period of approximately three years in a particular country or region, subject to the attainment of minimum sales targets. The distributor is required to prepare and submit to us for our approval a sales plan for the Given System and to obtain the requisite regulatory and reimbursement approvals for the Given System. Our success in generating sales in countries or regions where we have engaged local distributors depends in part on the efforts of others whom we do not control. In 2005, we derived $12.9 million, or 15%, of our revenues from sales to local distributors, compared to $9.8 million, or 15%, from sales to local distributors in 2004. To date, we have changed a number of our distributors due to a failure to meet minimum sales targets. If a distributor is terminated by us or goes out of business, it may take us a period of time to locate an alternative distributor and to train its personnel to market the Given System and our ability to sell the Given System in that distributor’s country or region could be adversely affected.
Our reliance on single source suppliers could harm our ability to meet demand for the Given System in a timely manner or within budget.
We depend on single source suppliers for some of the components necessary for the production of the Given System. Specifically, Micron Technology, Inc., through its Micron Imaging Group and other wholly-owned subsidiaries, is currently the sole supplier of the imaging sensor and the packaging for the sensor, and Zarlink Semiconductors is currently the sole supplier of the transmitter that is integrated into the PillCam capsules. If the supply of these components is disrupted or terminated, or if these suppliers are unable to supply the quantities of components that we require, we may not be able to find alternative sources for these key components. Although we maintain a strategic inventory of key components, the inventory many not be sufficient to satisfy the demand for our products if supply is interrupted, and is subject to risk of loss due to catastrophic events such as fire at a storage facility. As a result, we may be unable to meet demand for our products, which could harm our ability to generate revenues, lead to customer dissatisfaction and damage our reputation. If we are required to change the manufacturer of any of these key components of the Given System, there may be a significant delay in locating a suitable alternative manufacturer. Additionally, we may be required to verify that the new manufacturer maintains facilities and procedures that comply with FDA and other applicable quality standards and with all applicable regulations and guidelines. The delays associated with the verification of a new manufacturer could delay our ability to manufacture our product in a timely manner or within budget. Furthermore, in the event that the manufacturer of a key component of our product ceases operations or otherwise ceases to do business with us, we may not have access to the information necessary to enable another supplier to manufacture the component. The occurrence of any of these events could harm our ability to meet demand for the Given System in a timely manner or within budget.
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Conditions in Israel affect our operations and may limit our ability to produce and sell our product which could decrease our revenues.
Our corporate offices, our manufacturing facilities (other than our backup production lines in Ireland), and our research and development facilities are located in Israel. Political, economic and military conditions in Israel directly affect our operations. Since the establishment of the State of Israel in 1948, a number of armed conflicts have taken place between Israel and its Arab neighbors and a state of hostility, varying in degree and intensity, has led to security and economic problems for Israel. Any escalation in these hostilities or any future armed conflict, political instability or violence in the region, could have a negative effect on our business condition, harm our results of operations and adversely affect the share price of publicly traded Israeli companies such as us.
If we lose our key personnel or are unable to attract and retain additional personnel, our business and ability to compete will be harmed.
We are dependent on the principal members of our management and scientific staff. In order to implement our business strategy, we will need to keep our key personnel with expertise in research and development, clinical testing, government regulation, manufacturing, sales, marketing and finance. Our product development plans depend in part on our ability to retain engineers with expertise in a variety of technical fields. The loss of a number of these persons or our inability to attract and retain qualified personnel could harm our business and our ability to compete.
Our operations could be disrupted as a result of the obligation of key personnel in Israel to perform military service.
Generally, all male adult citizens and permanent residents of Israel are, unless exempt, obligated to take part in military reserve duty annually. Many of our male employees are currently obligated to perform annual reserve duty, as are two of our executive officers. Additionally, all Israeli residents who perform reserve duty are subject to being called to active duty at any time under emergency circumstances. Our operations could be disrupted by the absence for a significant period of one or more of our officers or employees due to military service. Any such disruption to our operations could adversely affect the development of our business and our financial condition.
Our international operations will expose us to the risk of fluctuations in currency exchange rates.
In 2005, we derived 77% of our revenues in U.S. dollars and 19% in Euro, with the remainder denominated in other currencies. The currency denomination of our revenues depends on the location of the customer or the distributor used to fulfill our customers’ orders. Conversely, in 2005, in addition to our U.S. dollar and Euro-denominated liabilities, 26% of our expenses were denominated in New Israeli Shekels, or Shekels. Our Shekel-denominated liabilities consist principally of salaries and related personnel expenses. We anticipate that for the foreseeable future a material portion of our liabilities will continue to be denominated in shekels. If the value of a currency in which our receivables are denominated devalues against the value of a currency in which our liabilities are denominated, there will be a negative impact on our operating margin, as well as on our net income. Our revenues and expenses may not always be fully hedged against our currency exposure through financial instruments. In addition, if we wish to maintain the dollar-denominated value of our product in non-U.S. markets, devaluation in the local currencies of our customers relative to the U.S. dollar could cause our customers to cancel or decrease orders or default on payment. In addition, as of December 31, 2005, 11% of our cash and cash equivalents were denominated in currencies other than the U.S. dollar and we are therefore subject to the risk of exchange rate fluctuations between the Yen, the Shekel, the Australian dollar and the Euro.
The use of the Given System, including ingestion of the PillCam capsules, could result in product liability claims that could be expensive, damage our reputation and harm our business.
Our business exposes us to an inherent risk of potential product liability claims related to the manufacturing, marketing and sale of medical devices. The medical device industry has historically been litigious, and we face financial exposure to product liability claims if the use of our product were to cause or contribute to injury or death, whether by aggravating existing patient symptoms or otherwise. There is also the possibility that defects in the design or manufacture of the Given System might necessitate a product recall. Although we maintain product liability insurance for the Given System, the coverage limits of these policies may not be adequate to cover future claims. Particularly as sales of the Given System increase, we may be unable to maintain product liability insurance on acceptable terms or at reasonable costs and such insurance may not provide us with adequate coverage against potential liabilities. A successful claim brought against us in excess of, or outside of, our insurance coverage could have a material adverse effect on our financial condition and results of
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operations. A product liability claim, regardless of merit or ultimate outcome, or any product recall could result in substantial costs to us and a substantial diversion of management attention.
The price of our shares could fluctuate significantly as a result of a number of factors, including varying quarterly financial performance or our failure to meet our guidance or the expectations of analysts or investors, which may lead to additional volatility in our share price.
Our ordinary shares commenced trading on the Nasdaq National Market in October 2001 and on the Tel Aviv Stock Exchange in March 2004. In 2005, the closing price of our shares has ranged from $20.39 to $36.04 per share on the Nasdaq National Market and NIS 95.79 to NIS155.3 on the Tel Aviv Stock Exchange. The price of our shares could fluctuate significantly for, among other things, the following reasons: future announcements concerning us or our competitors, the existence of litigation concerning our intellectual property assets, changes in third-party reimbursement practices, regulatory developments, and new clinical or economic data regarding our current or future products. In addition, it is our practice to provide guidance to the market as to our expected revenues and earnings per share based on information available to us at the time of the guidance. If our quarterly operating results do not meet our guidance or the expectations of securities analysts or investors, the price of our shares would likely decline. In addition, based on our experience to date, we believe that many of our customers delay purchasing systems until the end of the fiscal quarter because they believe this will enable them to negotiate more favorable terms. Therefore, revenues from system sales may be concentrated at the end of each fiscal quarter making it difficult for us to determine the success of each quarter until its end and resulting in lower than expected quarterly revenues if external or other events cause a large number of potential customers to defer their purchasing decisions even for a short period of time. Furthermore, we believe that demand for systems and capsules may be materially affected by seasonal factors during the summer months when physicians and administrators are more likely to postpone purchasing decisions relating to systems due to summer vacations and patients are more likely to postpone less urgent diagnostic procedures until later in the year.Both of these factors may result in slower sales during the summer. Share price fluctuations may be exaggerated by low trading volume of our ordinary shares and changes in trading practices in our ordinary shares, such as short buying and selling. Securities class action litigation has often been brought against companies following periods of volatility. Any securities litigation claims brought against us could result in substantial expense and divert management’s attention from our business.
The two largest beneficial owners of our shares, IDB Holding Corporation Ltd., which is controlled by four individuals, and certain funds affiliated with OrbiMed Advisors, Inc., which we refer to as the OrbiMed investors and which are controlled by Samuel D. Isaly, have significant influence over matters requiring shareholder approval, which could, among other things, delay or prevent a change of control.
The largest beneficial owners of our shares, four individuals in Israel through IDB Holding Corporation Ltd., beneficially own 36.5% of our ordinary shares, and the principal of the OrbiMed investors beneficially owns 13.0% of our ordinary shares. As a result, these shareholders, if they were to act together, could exercise a controlling influence over our operations and business strategy and have sufficient voting power to control the outcome of matters requiring shareholder approval. These matters may include:
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| • | the composition of our board of directors which has the authority to direct our business and to appoint and remove our officers; |
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| • | approving or rejecting a merger, consolidation or other business combination; |
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| • | raising future capital; and |
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| • | amending our articles of association which govern the rights attached to our ordinary shares. |
This concentration of ownership of our ordinary shares could delay or prevent proxy contests, mergers, tender offers, open-market purchase programs or other purchases of our ordinary shares that might otherwise give our other shareholders the opportunity to realize a premium over the then-prevailing market price of our ordinary shares. This concentration of ownership may also adversely affect our share price.
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Future sales of our ordinary shares in the public market and low trading volume could adversely affect our share price.
As of December 31, 2005, we had 27.9 million ordinary shares outstanding. Approximately 50% of these shares are “restricted securities” available for resale on the Nasdaq National Market subject, however, to volume limitations under Rule 144. In addition, all of our ordinary shares are available for resale on the Tel Aviv Stock Exchange, subject to compliance with Regulation S under the Securities Act of 1933. Future sales of these restricted shares, or the perception that these sales could occur, could adversely affect the market price of our ordinary shares. We have periodically experienced a low trading volume of our ordinary shares, and if one or a small number of parties buys or sells a large number of our ordinary shares, we may experience volatility in our share price and our share price may be adversely affected. In addition, the holders of approximately 13 million ordinary shares are entitled to request that we register their ordinary shares under the Securities Act of 1933 and have the right to request that we include their shares in any registration statement that we file, in each case, subject to exclusion for marketing reasons. These registration rights expire on October 10, 2006. Registration of these shares would result in them becoming freely tradable without restriction immediately upon the effectiveness of such registration, except for shares purchased by affiliates, which may be sold subject to the volume limitations of Rule 144. These factors could also make it more difficult for us to raise additional funds through future offerings of our ordinary shares or other securities.
Our ordinary shares are traded on more than one market and this may result in price variations.
Our ordinary shares are traded on the Nasdaq National Market and the Tel Aviv Stock Exchange. Trading in our ordinary shares on these markets is made in different currencies (dollars on the Nasdaq National Market, and Israeli shekels on the Tel Aviv Stock Exchange) and at different times (due to different time zones, trading days and public holidays in the United States and Israel). The trading prices of our ordinary shares on these two markets may differ due to these and other factors. Any decrease in the trading price of our ordinary shares on one of these markets could cause a decrease in the trading price of our ordinary shares on the other market.
If we are characterized as a passive foreign investment company, our U.S. shareholders may suffer adverse tax consequences.
If, for any taxable year, our passive income, or our assets which produce passive income, exceed specified levels, we may be characterized as a passive foreign investment company, or PFIC, for U.S. federal income tax purposes. This characterization could result in adverse U.S. tax consequences for our U.S. shareholders, which may include having gains realized on the sale of our ordinary shares treated as ordinary income, rather than as capital gains income, having potentially punitive interest charges apply to those gains, and the denial of the taxation of certain dividends paid by us at the lower rates applicable to long-term capital gains. We believe we were not a PFIC for the fiscal year ended December 31, 2005. However, the tests for determining PFIC status are applied annually and are based in part on reference to the market value of our shares and valuing our intangible assets using the methods prescribed for publicly traded corporations, and it is difficult to make accurate predictions of future income and assets, which are relevant to this decision. Accordingly, we cannot give any assurance that we will not become a PFIC, in particular, since the value of our shares is likely to fluctuate. For a more detailed discussion of the consequences of our being classified as a PFIC, see “Taxation and Government Programs—United States Federal Income Taxation—Passive Foreign Investment Company Considerations.” U.S. shareholders are urged to consult with their own U.S. tax advisors with respect to the U.S. tax consequences of investing in our ordinary shares.
The government grants we have received for research and development expenditures limit our ability to manufacture products and transfer technologies outside of Israel and require us to satisfy specified conditions. If we fail to satisfy these conditions, we may be required to refund grants previously received together with interest and penalties, and may be subject to criminal charges.
From 1998 through 2005, we received grants totaling $4.9 million from the government of Israel through the Office of the Chief Scientist of the Ministry of Industry and Trade for the financing of a portion of our research and development expenditures in Israel. The terms of the Chief Scientist grants prohibit us from manufacturing products developed using these grants outside of Israel without special approvals and completely prohibit the transferring of our technologies and related intellectual property rights outside of Israel. Even if we receive approval to manufacture the Given System outside of Israel, we would be required to pay an increased total amount of royalties, which may be up to 300% of the grant amount plus interest, depending on the manufacturing volume that is performed outside of Israel, as well as a possible increased rate or royalties. This restriction may impair our ability to outsource manufacturing, engage in change in control transactions or
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otherwise transferring our technology outside Israel. We currently hold an approval from the Office of the Chief Scientist to manufacture limited quantities of the PillCam SB capsule in Pemstar’s facilities in Ireland without an increase in royalty rates and we will be required to obtain an approval before manufacturing the PillCam ESO capsule outside of Israel. In addition, if we fail to comply with any of the conditions imposed by the Office of the Chief Scientist, we may be required to refund any grants previously received together with interest and penalties, and may be subject to criminal charges. In recent years, the government of Israel has accelerated the rate of repayment of Chief Scientist grants and may further accelerate them in the future.
We receive significant tax benefits that may be reduced or eliminated in the future.
Our investment program in leasehold improvements and equipment at our manufacturing facility in Yoqneam, Israel has been granted “approved enterprise” status and we are therefore eligible for significant tax benefits under the Israeli Law for Encouragement of Capital Investments. From time to time, the government of Israel has considered reducing or eliminating the tax benefits available to approved enterprise programs such as ours. These tax benefits may not be continued in the future at their current levels or at all. If these tax benefits were reduced or eliminated, the amount of taxes that we pay would likely increase. In addition, our approved enterprise status imposes certain requirements on us, such as the location of our manufacturing facility, location of certain subcontractors and the extent to which we may outsource portions of our production process. If we do not meet these requirements, the law permits the authorities to cancel the tax benefits retroactively. See Item 10 “Additional Information—Taxation.”
It may be difficult to enforce a U.S. judgment against us, our officers and directors or to assert U.S. securities laws claims in Israel or serve process on our officers and directors.
We are incorporated in Israel. The majority of our executive officers and directors are not residents of the United States, and the majority of our assets and the assets of these persons are located outside the United States. Therefore, it may be difficult for an investor, or any other person or entity, to enforce a U.S. court judgment based upon the civil liability provisions of the U.S. federal securities laws in an Israeli court against us or any of these persons or to effect service of process upon these persons in the United States. Additionally, it may be difficult for an investor, or any other person or entity, to assert U.S. securities law claims in original actions instituted in Israel. Israeli courts may refuse to hear a claim based on a violation of U.S. securities laws because Israel is not the most appropriate forum to bring such a claim. In addition, even if an Israeli court agrees to hear a claim, it may determine that Israeli law and not U.S. law is applicable to the claim. If U.S. law is found to be applicable, the content of applicable U.S. law must be proved as a fact which can be a time-consuming and costly process. Certain matters of procedure will also be governed by Israeli law. There is little binding case law in Israel addressing the matters described above.
Under current Israeli law, we may not be able to enforce covenants not to compete and therefore may be unable to prevent competitors from benefiting from the expertise of some of our former employees involved in research and development activities.
We currently have non-competition agreements with substantially all of our employees who are involved in research and development, nearly all of whom are located in Israel. These agreements prohibit our employees, if they cease working for us, from directly competing with us or working for our competitors for a limited period of time following termination of employment. Israeli courts have required employers seeking to enforce non-compete undertakings of a former employee to demonstrate that the competitive activities of the former employee will harm one of a limited number of material interests of the employer which have been recognized by the courts, such as the secrecy of a company’s confidential commercial information or its intellectual property. If we cannot demonstrate that harm would be caused to us, we may be unable to prevent our competitors from benefiting from the expertise of our former employees.
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ITEM 4. INFORMATION ON THE COMPANY
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A. | HISTORY AND DEVELOPMENT OF THE COMPANY |
We were incorporated by RDC Rafael Development Corporation under the laws of the State of Israel in January 1998. We are registered with the Israeli registrar of companies in Jerusalem. Our registration number is 51-257802-2. Our address is Hermon Building, New Industrial Park, Yoqneam 20692, Israel. Our telephone number is (011) 972-4-909-7777. Our agent in the United States is our subsidiary Given Imaging, Inc. Given Imaging, Inc.’s address is Oakbrook Technology Center, 5555 Oakbrook Parkway, No. 355, Norcross, GA 30093.
See Items 5 and 18 for a description of capital expenditures by us for the past three fiscal years. We have not made any divestitures during the same time period.
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B. | BUSINESS OVERVIEW |
We develop, manufacture and market innovative diagnostic products for the visualization and detection of disorders of the gastrointestinal tract. We pioneered capsule endoscopy, a proprietary approach to visual examination of the gastrointestinal tract through the use of a miniaturized video camera contained in a ingestible disposable capsule. Our principal product, which incorporates our core technology, is the Given System, a proprietary wireless imaging system that uses our disposable video capsules, which we refer to as the PillCam capsules. The PillCam video capsules are easily ingested by the patient and move naturally through the gastrointestinal tract without discomfort while wirelessly transmitting to a portable recorder, enabling the gastroenterologists to view high quality video, images and data on our workstation, utilizing our proprietary RAPID software. We believe that capsule endoscopy provides a patient-friendly solution that addresses a significant market opportunity and overcomes many of the shortcomings of traditional diagnostic tools for gastrointestinal disorders. In 2001, we commenced marketing the Given System, our capsule endoscopy platform, with the M2A capsule (which we rebranded in 2004 as the PillCam Small Bowel capsule, or PillCam SB), for detection of disorders of the small bowel. As of December 31, 2005, we had an installed base of more than 2,860 Given Systems and had sold more than 307,000 PillCam SB capsules in over 50 countries worldwide. In November 2004, we received FDA marketing clearance for our second PillCam capsule, the PillCam ESO capsule, for visualizing the esophagus. We market the PillCam ESO video capsule in the United States through a strategic marketing and sales alliance we formed in May 2004 with InScope, a division of Ethicon Endo-Surgery, a Johnson & Johnson company. We have also developed the AGILE Patency Capsule and system, which is a dissolvable capsule that enables physicians to determine whether there are obstructions or strictures in the gastrointestinal tract. We launched the AGILE Patency Capsule and system in Europe in November 2003. Following favorable clinical trial results for the AGILE Patency System in the United States, we submitted the AGILE Patency System for FDA clearance in December 2005 under a 510(k) application and we expect to receive FDA clearance to market this system in the United States in the first half of 2006.
Our long-term objective, subject to further development and receipt of regulatory clearances and/or approvals, is to establish the Given System as a platform for diagnosis of disorders in all parts of the gastrointestinal tract and the PillCam capsules as the first tool administered to patients with such suspected disorders. We believe that each segment of the gastrointestinal tract presents meaningful opportunities for patient-friendly diagnostic procedures. In furtherance of these objectives, in December 2005, we launched a further advanced version of our RAPID software, RAPID 4.0, which supports and is compatible with the entire line of PillCam capsules currently available and is expected to significantly improve physician productivity. In addition, in 2005 we made significant progress in the development of PillCam Colon for diagnosis of disorders in the colon and began initial clinical trials with this capsule. If clinical trials results are positive, we intend to submit the PillCam Colon capsule for FDA clearance and launch it in Europe during 2006. In 2005, we also saw the first third-party payors changing their reimbursement policies to cover PillCam SB as a first line diagnostic tool that may be administered to a patient without first undergoing other tests, such as upper or lower endoscopy.
Disorders of the Gastrointestinal Tract
The gastrointestinal tract is a series of organs in the body responsible for digesting food. These organs principally include the mouth, esophagus, stomach, small intestine and colon. The following is an illustration of the gastrointestinal tract:
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Oral cavity
Duodenum
lleum
Anal canal
Jejunum
Stomach
Esophagus
Large Intestine
Small
Intestine
The upper gastrointestinal tract consists of the mouth, esophagus, stomach and duodenum, which is the first portion of the small intestine. The esophagus is an approximately ten inch long tube that connects the throat and the stomach. The stomach is a sac-like organ that produces enzymes to break down food. The small intestine is an approximately 21 foot long hollow organ that is primarily responsible for digesting food. The three parts of the small intestine are the duodenum, the jejunum and the ileum. The small intestine is located in the abdominal cavity between the stomach and the large intestine, or colon. The lower gastrointestinal tract consists of the lower two-thirds of the small intestine (the jejunum and the ileum) and the colon. The colon is the final portion of the gastrointestinal tract and is primarily responsible for absorbing water before waste is excreted.
The gastrointestinal tract is susceptible to various disorders. Typical symptoms of such disorders include heartburn, upper or lower abdominal pain, bleeding, diarrhea, constipation, anemia, weight loss and nausea. Some of these symptoms are not specific to any particular disorder, but may be common to more than one underlying disorder, often requiring the gastroenterologist to make a differential diagnosis. We believe that PillCam capsule endoscopy can have a significant role in assisting gastroenterologists in making an evidence-based diagnosis. The disorders causing the above-mentioned symptoms may include:
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| • | inflammatory bowel disease, including Crohn’s disease and ulcerative colitis, both of which inflame the lining of the digestive tract; |
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| • | celiac disease, which causes damage to the intestine due to an allergic reaction to gluten in the diet; |
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| • | Gastro-esophageal reflux disease, which is the flow-back of acidic stomach content into the esophagus, causingesophagitis, which is inflammation of the esophageal lining, orBarrett’s esophagus, a pre-cancerous condition; |
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| • | gastritis, which is inflammation of the lining of the stomach; |
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| • | irritable bowel syndrome, which is a functional disorder characterized by abdominal pain or cramping and changes in bowel function without any organic manifestation; |
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| • | peptic ulcer disease, which occurs when the lining of the stomach or duodenum is worn away by stomach acid; and |
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| • | growths,such as tumor or polyps, which may be cancerous. |
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| Our products currently assist in the diagnosis of disorders of the small intestine and the esophagus. | |
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| • | Small intestine disorders. According to data from the American Gastroenterology Association, or AGA, approximately 19 million Americans suffer from numerous disorders of the small intestine, including bleeding, Crohn’s disease, celiac disease, chronic diarrhea, irritable bowel syndrome and small bowel cancer. Prior to the development of capsule endoscopy, there was no convenient and effective method for visualizing the interior of the entire small intestine. As a result, we believe that many gastroenterologists first examine the colon or stomach before ordering an examination of the small intestine. |
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| • | Esophageal disorders. GERD is the frequent backward flow, or reflux, of stomach contents into the esophagus due to an improperly functioning valve between the stomach and esophagus. Stomach acid, enzymes and bile irritate the esophagus and cause a wide range of symptoms and complications, most commonly persistent, severe heartburn and chest pain. According to AGA data, an estimated 61 million Americans suffer from heartburn at least once a month and there are approximately 9 million physician office visits each year diagnosing GERD. If left untreated, GERD can lead to ulceration of the esophagus, respiratory problems or esophageal cancer. It is estimated that approximately 10% to 15% of patients with GERD symptoms have Barrett’s esophagus, a pre-cancerous condition with an associated risk for esophageal cancer. In the United States alone, according to the American Cancer Society, there were expected to be approximately 14,250 new cases of esophageal cancer in 2004. Another serious disorder of the esophagus is known as esophageal varices, a life-threatening complication caused by severe bleeding from small veins in the esophagus, usually associated with chronic liver disease. Esophageal varices are present in about 40% of patients with cirrhosis of the liver, which has been reported to affect 400,000 Americans based on data from the National Digestive Disease Information Clearinghouse. The risk of death with the first variceal bleed is approximately 20%–25%. Thus, it is very important to screen patients with cirrhosis of the liver for the presence of varices and to monitor those patients with known varices. We believe that the PillCam ESO capsule may provide an effective method for screening for and detecting esophageal varices. |
Current Detection Methods for Gastrointestinal Disorders
The most common methods for detection of gastrointestinal disorders, including disorders of the small intestine, are endoscopy and radiological imaging.
Traditional Endoscopy
A traditional endoscope is a device consisting of a flexible tube and an optical system. There are several types of endoscopic procedures used to identify disorders in the gastrointestinal tract. The basic endoscopic procedures available include:
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| • | Upper endoscopy. In upper endoscopy, the physician inserts an endoscope, which is an approximately 3.5 foot long tube, through the patient’s mouth. In esophagogastroduodenoscopy, or EGD, the gastroscope passes down the esophagus and into the stomach and duodenum for visual examination. In esophagoscopy, only the esophagus is viewed. |
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| • | Colonoscopy. In colonoscopy, the physician inserts a colonoscope, which is an approximately 5.5 foot long endoscope, into the patient’s colon through the anus. Colonoscopy is the primary method for detecting |
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| disorders of the colon. Because of the increasing awareness of colon cancer, colonoscopy as a screening tool for early detection of colon cancer is becoming more common. |
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| • | Push enteroscopy. Push enteroscopy involves the insertion of an approximately six foot long push enteroscope into the mouth. Due to the length and curvature of the small intestine, push enteroscopy enables the physician to view only the first one-third of the small intestine. The procedure is lengthy and difficult to perform for both the physician and the patient and is substantially more complicated than gastroscopy. |
A traditional endoscope can perform both diagnostic and limited treatment functions. In a traditional endoscopic procedure, the physician is able to control the movement of the endoscope through the gastrointestinal tract, to stop the endoscope and examine more closely a particular area in the gastrointestinal tract and to take a tissue sample or seal a bleeding site using the endoscope. However, traditional endoscopy has some risks and limitations, including the following:
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| • | Requires sedation. Due to the need to insert a tube through the mouth or anus, a traditional endoscopic examination typically requires sedation of the patient due to patient discomfort. |
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| • | Involves potential complications. Potential complications of traditional endoscopic procedures include difficulty in breathing while the tube is inserted in the mouth, perforation or tearing of the intestinal wall, post-procedural infection and vomiting, abdominal swelling, sore throat, diarrhea and cross-contamination resulting from inadequate disinfection of endoscopes. Certain clinical studies have reported that perforation rates range between 0.01% and 1.9% for esophagoscopy, between 0.1% and 0.7% for esophagogastroduodenoscopy, or EGD, and between 0.01% and 0.3% for colonoscopy. These studies report that mortality rates range between zero and 0.98% for esophagoscopy, between zero and 0.07% for esophagogastroduodenoscopy, and between 0.01 and 0.02% for colonoscopy. To date, there have been no reports of perforation or mortality attributed to the capsule endoscopy procedure. |
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| • | Causes patient anxiety, discomfort and pain. Many patients are unwilling to undergo traditional endoscopic procedures due to the pain and discomfort associated with having a tube inserted through the mouth or anus. |
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| • | Requires substantial time commitment. Patients undergoing a traditional endoscopic procedure are required to remain in the physician’s office or hospital during the procedure. In addition, the effects of the sedation cause the patient to be inactive for several hours following the procedure. |
Radiological Imaging
Radiological imaging is a commonly used method for initial detection of the small intestine and other parts of the gastrointestinal tract. Radiological imaging is used for detection of disorders of the esophagus only in limited situations, generally where gross structural lesions are suspected. During a radiological imaging examination, the patient swallows a contrast medium (such as barium), which is a dense liquid that coats the internal organs and makes them appear on x-ray film. The procedure produces a series of black and white x-ray images of the lumen, or cavity, of the small intestine.
A more detailed examination, the double contrast small intestine enema, or enteroclysis, requires insertion of a tube through the mouth or nose, which is then pushed through the stomach and duodenum. High density barium and then methyl cellulose, a gel-like material used to expand the intestine, are injected through the tube into the patient’s small intestine prior to a series of x-ray exposures.
Radiological imaging also has risks and limitations as a diagnostic tool, including the following:
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| • | Cannot provide direct imaging of the mucosa. Radiological imaging does not provide a detailed view of soft tissue, including the mucosa, or internal layer of the gastrointestinal tract. In addition, radiological imaging does not provide clear visualization of ulcerations or flat malignant lesions. A lesion must have a certain mass and a distinguishable shape in order to be detected by radiology. |
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| • | Has difficulty detecting small pathologies. Radiological imaging has difficulty detecting smaller-sized disorders or pathologies (typically less than five millimeters in diameter). Larger pathologies of up to ten millimeters in diameter can also remain undetected. |
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| • | Has difficulty detecting strictures. Radiological imaging has difficulty detecting strictures – which are a three dimensional phenomena, and with a two-dimensional image this is not easily detected and frequently misdiagnosed. |
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| • | Causes patient discomfort. Radiological imaging is uncomfortable for patients, requiring them to drink barium, which has an unpleasant chalky taste. A double contrast procedure is even more uncomfortable due to the insertion of a tube into the body through the mouth or nose. These preparatory measures can induce vomiting, particularly in a double contrast procedure if the injected contrast liquids return to the stomach. In elderly patients, the passage of barium can be difficult and can result in blockage requiring the use of disimpaction techniques. There is some morbidity associated with barium induced blockage in elderly patients. |
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| • | Exposes patient to radiation. Radiological imaging poses increased risks of exposure to ionizing radiation for the patient. A double contrast procedure requires three to five times the amount of radiation to the patient. Tracking the progress of a disorder through repeated radiological imaging increases this risk. |
The Given Imaging Solution
The Given System features the PillCam capsule endoscope, a miniaturized video camera contained in a disposable capsule that is naturally ingested by the patient and delivers high quality color video images of the inside of the gastrointestinal tract in a painless manner. Capsule endoscopy with our PillCam capsules represents a fundamentally new approach to visual examination of the gastrointestinal tract and provides a solution to many of the shortcomings of other procedures by offering the following benefits:
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| • | Patient-friendly procedure with no sedation. Capsule endoscopy provides a patient-friendly and painless tool for the diagnosis of patients that present symptoms of suspected disorders of the small intestine and the esophagus. The PillCam capsule requires no sedation or patient preparation (other than a typical overnight fast in the case of the PillCam SB capsule), is easily ingested by the patient and does not use x-rays to produce images. We believe that this patient-friendly solution will increase the number of patients who undergo diagnosis for gastrointestinal disorders of the small intestine and the esophagus, since existing methods have been intimidating or uncomfortable for many potential candidates. |
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| • | Improved or comparable diagnostic yield. The PillCam SB capsule is the only test that provides direct imaging of the entire small intestine. By comparison, a push enteroscope accesses only approximately the first third of the small intestine. As a result, clinical trials demonstrate that the Given System has a significantly higher diagnostic yield in detecting disorders of the small intestine when compared to all other modalities, including push enteroscopy and radiological imaging. In addition, as demonstrated through clinical studies and on-going experience with the Given System, a negative finding from the Given System, unlike conventional diagnostic techniques, has significant diagnostic value as it may allow physicians to rule out the existence of certain suspected abnormalities based on this finding thereby avoiding the need to engage in additional costly or inconvenient diagnostic procedures. Data from clinical trials reviewed by the FDA for clearing PillCam ESO demonstrated that the diagnostic efficacy of the Given System in detecting disorders of the esophagus is comparable to the diagnostic efficacy of traditional endoscopy. |
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| • | Administered on an outpatient basis. The PillCam capsule is generally administered in an outpatient setting with a brief visit to the physician’s clinic or hospital. In the case of the PillCam SB capsule, the patient can go about his or her daily routine as the capsule transmits images and other data to the portable data recorder. In the case of the PillCam ESO capsule, the procedure can be completed in a short visit to the physician’s office. We believe the Given System offers a significant opportunity for gastroenterologists and endoscopy departments to expand their business by increasing the number of procedures performed at their office or facility. |
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| • | Detects small pathologies. Unlike radiological imaging procedures, the PillCam video capsule provides direct visualization of the intestinal mucosa which allows detailed (up to 0.1 millimeter) visualization of small pathologies. This increases the possibility of detecting and diagnosing at an early stage pathologies that might otherwise go undetected. |
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| • | Natural passage requires no insufflation. Many traditional endoscopic procedures require insufflation, or the forcing of air into the gastrointestinal tract. This process can cause considerable patient discomfort. The Given System does not require insufflation because the PillCam capsule is ingested and moves with the natural contractions of the digestive tract. The absence of insufflation allows the PillCam capsule to capture images of the gastrointestinal tract in its normal physiological state. This approach, called “physiological endoscopy,” allows the physician to clearly view the mucosa. |
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| • | Provides convenient digital reporting, storage and remote consulting capabilities. The physician can review the video produced by the Given System without seeing the patient or having him or her remain in the office or clinic during the review, thereby providing the physician with greater flexibility. In addition, the RAPID software includes various features that enhance the physician’s efficiency and productivity, such as innovative display methods for faster review, localizing findings, help in identifying anatomical landmarks for easy orientation, managing images and patient information, reporting modules and convenient options for sending still images or short video files to the patient file, to the referring physician or a colleague for consultation. Some of these features are proprietary and covered by patent applications, which we believe add an additional competitive advantage as physicians become more used to using these functions. |
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| • | Provides a cost-effective diagnostic tool. We believe that the PillCam SB capsule endoscopy procedure is more cost-effective from a third party payor perspective than traditional methods for imaging the gastrointestinal tract. With respect to the PillCam SB capsule for the small bowel, two economic outcomes studies reported by the Office of Health Policy and Clinical Outcomes of the Thomas Jefferson University in Philadelphia concluded that diagnosing small intestinal bleeding or Crohn’s disease using the PillCam SB capsule procedure is cost-effective from a third party payor perspective. We believe that the Given System may result in additional cost savings due to the reduction in physician resources and facility costs permitted by the outpatient nature of the PillCam SB capsule procedure, its higher diagnostic yield – in the case of the PillCam SB capsule – and the potential for earlier diagnosis of disorders, allowing earlier therapeutic intervention or other change in patient management. |
The Given System also has some limitations. The PillCam capsule moves naturally through the gastrointestinal tract; consequently, the capsule’s passage is not controlled by the physician who cannot stop or steer the capsule for close-up detailed viewing of suspected disorders. In addition, the Given System, unlike a traditional endoscope, cannot take biopsies or be used for minor surgical procedures, such as cauterizing bleeding sites in the gastrointestinal tract. While endoscopes may be used in patients with obstructions or strictures in the gastrointestinal tract, the PillCam capsule may not pass naturally through the gastrointestinal tract of patients with obstructions or strictures, and accordingly the Given System is not recommended for use in these patients.
Our Products
The Given System consists of three components:
PillCam capsules.
The PillCam capsules are miniaturized disposable color video cameras encased in a plastic shell, which incorporate one or more specially developed imaging devices based on complementary metal oxide semiconductor, or CMOS, technology. Other components include optics, white-light emitting diodes for illumination, an application-specific integrated circuit device for control and image transmission, low-power silver oxide batteries, an antenna and other discrete electronic components.
Until their use, the PillCam capsules are stored in a hermetically sealed package. Before the patient ingests a capsule, the package is opened and the removal of the capsule from the package triggers a switch that activates the capsule. After the patient ingests the PillCam capsule with a small amount of water, the capsule passes naturally through the gastrointestinal tract. The PillCam capsules are excreted naturally from the body, usually within a day or two, without pain or discomfort. There is no need to retrieve the capsules after passage.
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The RAPID software, when used with the PillCam SB capsule, creates a graphic representation of the patient’s gastrointestinal tract, helping physicians assess the location of the PillCam SB capsule within the body when an image is captured and assisting them in directing treatment to the affected area.
We are currently selling PillCam capsules designed for visualization of two areas of the gastrointestinal tract, the small bowel and the esophagus:
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| • | PillCam SB – Our initial capsule for the Given System was PillCam SB video capsule for visualization of the small intestine. The PillCam SB capsule transmits images at a rate of two images per second for approximately eight hours, resulting in approximately 50,000 images, at which time the operation is stopped and recording ceases. After ingesting the capsule at the physician’s office, during the procedure, the patient can continue his or her daily routine as the capsule transmits to a portable data recorder and then returns the data recorder to the physician’s office for review and diagnosis. The PillCam SB capsule is used with a variety of indications of the small intestine, including obscure bleeding, suspected Crohn’s disease, iron deficiency anemia and suspected small bowel tumors. |
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| • | PillCam ESO – In November 2004, we received FDA clearance for our PillCam ESO capsule for visualization of the esophageal mucosa, which we market in the United States through our strategic marketing alliance with InScope, a division of Ethicon Endo-Surgery, a Johnson & Johnson company. The PillCam ESO capsule contains an imaging device and light source at both ends of the capsule and is designed to capture up to 14 images per second as it passes down the esophagus. The patient ingests the PillCam ESO capsule in a reclining position in the physician’s office. The PillCam ESO capsule can be used only with DataRecorder 2.0 or newer versions and RAPID 3.0 or newer versions. |
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| • | AGILE PatencySystem -The AGILE Patency System consists of the AGILE Patency capsule, a dissolvable capsule the same size as the PillCam with a radio frequency identification (RFID) tag packed in a lactose and barium powder. The AGILE Patency capsule is ingested by the patient and allows physicians to confirm free passage of a PillCam capsule in a patient’s gastrointestinal tract. We have obtained authorization to affix the CE mark to the AGILE Patency System, permitting us to market the AGILE Patency System in the member countries of the European Union, and we have also obtained regulatory clearance to market the AGILE Patency System in Australia. Following favorable clinical trial results for the AGILE Patency System in the United States, we submitted the AGILE Patency System for FDA clearance in December 2005 under a 510(k) application and we expect to receive FDA clearance to market this system in the United States in the first half of 2006. |
Data recorder and sensor array.
After ingestion by the patient, the PillCam capsule transmits information from the body to a proprietary wireless data recorder through an array of antennae, or sensor array, that are secured with adhesive pads to the abdomen, in the case of a procedure performed with a PillCam SB capsule, or to the chest, in the case of a procedure performed with a PillCam ESO capsule. The data recorder is worn on a belt around the waist of the patient for the duration of the examination. Simultaneously with the launch of our new PillCam ESO video capsule in November of 2004 we introduced an advanced version of our data recorder, the DR 2.0, and in January 2006 we commenced selling of an advanced version of the DR 2.0 with larger storage capacity. This advanced version is now provided as standard as part of all new Given Systems we sell. This advanced version supports PillCam SB and PillCam ESO procedures performed with our products and will also be able to support the PillCam Colon capsule, which is currently under development. In addition to having larger storage capacity this advanced version is, similar to the earlier version of DR 2.0, completely solid-state, much less susceptible to shock, enables quicker and more reliable connection to the sensor array, weighs less and is therefore more comfortable for the patient, can be remotely diagnosed and has a robust storage mechanism and faster download capability compared to previous generations of our data recorders.
Computer workstation with proprietary RAPID software.
After the recording ceases, the data recorder is returned to the physician’s office at the patient’s convenience, where it is connected to the RAPID computer workstation, our capsule endoscopy platform, for transfer of the data captured during the test. Our proprietary RAPID software then processes the data received from the capsule. The RAPID software also
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includes a number of proprietary algorithms relating to the speed of processing imaging data, as well as to the visual presentation of this data. The Given workstation presents a video stream for viewing by the physician. The physician can review the video carefully, save specific images for the patient file, or attach the thumbnail images and the short video file to an e-mail in order to send to the referring physician or consult with a colleague. The “Multiview” feature of our RAPID software provides users with a simultaneous viewing mode of two or four consecutive images, thereby accelerating review speed. In addition, the RAPID software contains a proprietary algorithm that we developed called SBI, or suspected blood indicator, which automatically marks images that correlate with the existence of suspected bleeding. In addition, we provide our users with the RAPID Reader, which is a narrowed version of the RAPID Workstation software that can be installed on a standard PC, allowing the physician to review RAPID videos at any time and place as convenient.
In December 2005 we received FDA clearance to market RAPID 4.0, our newest version of RAPID software, which is now provided as standard as part of all Given Systems we sell. The introduction of RAPID 4.0 follows the introduction of RAPID 3.0 that was launched in November 2004, simultaneously with the launch of our PillCam ESO capsule. Similar to RAPID 3.0, RAPID 4.0 works both PillCam SB and PillCam ESO. RAPID 4.0 introduces several new features that we believe significantly improve physicians’ reading efficiency and diagnostic confidence. These features include:
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| • | “Automatic Mode,” which uses advanced software resulting in more efficient diagnostic review of the video; |
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| • | “Quick View,” which allows fast preview of the video and highlights potentially interesting images in the video stream; and |
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| • | Image atlas, which compares the on-screen case image with known reference images stored in the database. The reference images can be searched by findings, diagnosis, or using Capsule Endoscopy Structured Terminology, or CEST. |
Upgrades of the Given System
We began marketing and sales of the Given System in August 2001. Since then, we have introduced new products or significant improvements for existing components of the Given System every year.
In the fourth quarter of 2004 and again during 2005, we continued to present improvements to the Given System. First, from November 2004 through the end of the first quarter of 2005, simultaneously with the launch of PillCam ESO, we upgraded many of the Given Systems already installed at our customers at that time to RAPID 3.0. At the same time, we also launched a promotional campaign in the United States together with InScope in which we offered a significant discount on the combined purchase price of a DR 2.0 and ten PillCam ESO capsules. This upgrade and promotional campaign enabled participating customers to perform procedures with the PillCam ESO capsule that is not compatible with earlier versions of RAPID or data recorders. Second, beginning in December 2005, following receipt of FDA clearance to market the newest version of the RAPID software, RAPID 4.0, we began including RAPID 4.0 as standard in all systems we now sell. At the same time, we began including a modified version of our DR 2.0 with larger storage capacity as part of those new systems.
Newer products or system components may not be able to support and work with older product versions. For example, our PillCam ESO capsule may only work with RAPID 3.0 or newer versions of the RAPID software. In order for as many of our customers as possible to utilize our most advanced capsule endoscopy technology we need to manage new product introductions and installations efficiently, addressing concerns of customers regarding product upgrade costs, time constraints and training and education in light of possible short product cycles.
Warranty and Service
Our standard warranty for PillCam SB capsules is fourteen months from the date of manufacture and for PillCam ESO capsules is eighteen months from the date of manufacture. Our standard warranty for other components of the Given System normally extends for a period of one year from the date of the first installation at the customer’s location with the exception of the Sensor Array, which carries a limited warranty of 6 months from installation or 10 months from delivery. Generally, no warranty is provided more than 16 months from the date of shipment of the Given System to the customer. During the warranty period, we are obligated to repair or replace, at our election, every defective product.
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When a customer reports a problem with the Given System, first line service is normally provided by our own technical personnel in the territories in which we operate directly, such as the United States, Germany, France and Australia. In territories in which we operate through a distributor, the distributor is responsible for providing first line service. If our personnel in the field or our distributors are not able to resolve the problem, the defective part is shipped to our main facility in Israel for repair or replacement. Often, the defective part is replaced promptly out of a stock of spare parts we maintain in all of our direct territories. In 2004, we introduced a remote access software that allows us to provide maintenance and support services for our products from a remote location, including our distributor’s office, through a telephone line.
When the warranty expires, our customers are offered the opportunity to sign a service contract with us. Under this contract, the customer pays a fixed amount per year in consideration for receiving our maintenance and support services, as well as any software upgrades of our products, free of charge. As of December 31, 2005, we had over 2,860 systems installed worldwide, of which 1,120 were under warranty and 288 were covered by a service contract.
Clinical Studies
To demonstrate the clinical and economic benefits of the Given System, the PillCam SB capsule has been tested in clinical studies sponsored by us and by independent third parties. Our clinical studies program is conducted in a number of countries, primarily Australia, Belgium, Canada, France, Germany, Israel, Italy, the Netherlands, Portugal, Spain, Sweden, the United Kingdom, Japan and the United States. Initially, our clinical studies program focused on patients suffering from suspected bleeding in the small intestine. Subsequent clinical trials have focused more on evaluating the performance of the PillCam SB capsule in detecting other disorders of the small intestine such as suspected Crohn’s disease, tumors, malabsorption (such as celiac disease), mucosal injuries induced by long-term use of NSAIDs (non-steroidal anti-inflammatory drugs, such as aspirin) and the performance of the PillCam SB capsule in children over the age of ten.
The results of these clinical studies to date have demonstrated that the Given System has a significantly higher diagnostic yield in the detection of disorders of the small intestine than comparative methods, such as push-enteroscopy, gastroscopy and radiological examinations, such as barium follow-through, enteroclysis, computerized tomography (CT), magnetic resonance (MR) and angiography. Many of the investigators conducting these studies have presented their results at major gastroenterology meetings or submitted them for publication in peer-reviewed medical journals. Accordingly, the number of presentations and publications of studies evaluating the Given System is constantly growing. As of December 31, 2005, more than 400 articles, editorials and case reports had been published in peer reviewed journals. These papers provide the results of clinical studies as well as accumulated experience from on-going use of the Given System for a range of indications. We believe that these presentations and publications assist our marketing and educational efforts and support our efforts to obtain new reimbursement coverage policies and expand existing policies. We intend to expand our clinical trials program to cover other potential indications for the PillCam SB capsule.
In 2003, the FDA agreed to remove the adjunctive labeling which originally accompanied its clearance of the Given System in 2001, with the result that the PillCam SB capsule is marketed in the United States as a standalone tool for the detection of abnormalities of the small intestine. The FDA’s decision was based on materials we submitted showing an analysis of the results of 32 clinical studies involving 691 patients with various suspected disorders of the small intestine. Near the end of 2004, Thomas Jefferson University published a peer-reviewed article showing the cost-effectiveness of using the PillCam SB capsule as a first line diagnostic tool in diagnosing Crohn’s disease before any other procedure, such as endoscopy or radiology, is performed.
In November 2004, our PillCam ESO capsule was cleared for marketing in the United States for visualization of the esophageal mucosa. We have also conducted clinical trials to compare the PillCam ESO capsule to traditional endoscopy in the detection of esophageal disorders. The pivotal trial for obtaining FDA clearance was conducted in seven hospitals in the United States, Germany and Israel, and involved 106 patients with GERD symptoms. The patients were examined first using the PillCam ESO capsule followed by traditional endoscopy on the same day performed with a gastroscope. In this trial, the PillCam ESO capsule showed comparable efficacy to conventional upper-endoscopy. All patients ingested the PillCam ESO capsule without difficulty, no adverse events were reported and patients preferred the PillCam ESO capsule over conventional endoscopy in all categories. The investigators concluded that the PillCam ESO capsule is a convenient, patient-friendly, sensitive method for visualization of esophageal disorders and may provide an effective method to screen patients for Barrett’s esophagus, a pre-cancerous complication of GERD. In 2005, we initiated a multi-center, multi-national study clinical study evaluating the PillCam ESO for the detection of esophageal varices. This study is expected to be completed by the end of 2006. We expect that results of clinical trials with PillCam ESO capsules will demonstrate its
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clinical and economic benefits in early detection of disorders of the esophagus, including esophageal varices, GERD and Barrett’s esophagus.
In the second half of 2005, we began performing initial clinical trials with the PillCam Colon capsule, which is still under development. If initial results are favorable, we intend to begin broader studies during 2006 that we will then use to support our submission of the PillCam Colon capsule for FDA clearance.
The PillCam capsules are not recommended for use by patients who have known or suspected gastrointestinal obstructions, narrowing, and certain other abnormalities, such as swallowing disorders. In patients with unsuspected or unknown obstructions, narrowing or certain other abnormalities of the gastrointestinal tract, the PillCam capsules can potentially become blocked from natural excretion, requiring hospitalization, and in some cases surgery, to remove it. According to the 2005 ICCE consensus report that was published in November 2005 in the peer-review journal Endoscopy, which defines practice guidelines and protocols for the use of both PillCam SB and PillCam ESO capsules by gastroenterologists, the rate of capsule retention depends on the indication. The rate of retention in patients with obscure gastrointestinal bleeding is 1.5% (15 out of 1089 cases); in patients with known Crohn’s disease is 5% (4 out of 80 cases); and in patients with suspected Crohn’s disease is 1.4% (1 out of 71 cases). The consensus report stated that the PillCam capsule has been reported to identify areas of narrowing of the gastrointestinal tract and there is nothing to indicate that the capsule itself is creating any obstructions or narrowing. The consensus report also stated that, while there is no accepted method of completely avoiding capsule retention, it is clear that obtaining a good medical history is the best single method. Patients with abdominal pain, distension and nausea should be suspected of having a potential for capsule retention. Other risk factors include known Crohn’s disease and a history of chronic NSAID use that is not necessarily current. A history of small bowel obstruction, previous small bowel resection or previous abdominal surgery are not in and of themselves indicators of probable retention. Once retention has been diagnosed, only endoscopic and surgical intervention have been shown to be effective for removal of the capsule. Surgical intervention is also recommended by the consensus report because it allows removal and treatment of the pathology that resulted in the capsule retention in the first place. There is no available data on the success of medical therapies for retention, such as initiating a course of steroids, stopping NSAIDs, or using prokinetics to aid in passing the capsule. To date, there have been no reports of major complications or mortality attributed to the PillCam capsule procedure and there have not been any reports of retention of the PillCam ESO capsule. See “Marketing and Distribution” for a further discussion of the 2005 ICCE consensus reports.
The Patency System
In November 2003, we launched our AGILE Patency System in Europe, a simple and prep-less procedure designed to enable physicians to confirm free passage of a PillCam capsule in the gastrointestinal tract. The AGILE Patency System consists of the AGILE Patency capsule, a dissolvable capsule the same size as the PillCam with a radio frequency identification (RFID) tag packed in a lactose and barium powder. The AGILE Patency capsule is ingested by the patient and allows physicians to confirm free passage of a PillCam capsule in a patient’s gastrointestinal tract. The reusable component of the AGILE Patency System is a hand-held Patency Scanner, which detects the signal from the RFID tag. If the scanner indicates that the tag is no longer in the gastrointestinal tract, patency has been established and the patient can ingest a PillCam capsule without fear of impaction in a stricture. If the scanner indicates that the tag is located in the patient’s body, an obstruction preventing the passage of the PillCam capsule may exist. If the AGILE Patency capsule remains in the body, it starts dissolving after 40 hours into small fragments that are naturally excreted. Since the capsule contains barium, in those instances where the AGILE Patency capsule is not excreted after ingestion, the physician may detect its location within the body using fluoroscopy.
We have obtained authorization to affix the CE mark to the AGILE Patency System, permitting us to market the AGILE Patency System in the member countries of the European Union, and we have also obtained regulatory clearance to market the AGILE Patency System in Australia. Following favorable clinical trial results for the AGILE Patency System in the United States, we submitted the AGILE Patency System for FDA clearance in December 2005 under a 510(k) application and we expect to receive FDA clearance to market this system in the United States in the first half of 2006. We also expect that the availability of the AGILE Patency System will result in an increased use of the PillCam SB capsule in the diagnosis of suspected or known gastrointestinal obstructions or narrowing, such as suspected or known Crohn’s disease.
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Marketing and Distribution
We market and sell our products through a combination of direct sales through our marketing subsidiaries, and through independent distributors. The following table indicates the jurisdictions in which we were marketing and selling the Given System as of December 31, 2005, and the method used:
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Country or Region |
| Method | |
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Africa |
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| South Africa |
| Distributor |
Asia |
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| Brunei, China, India, Indonesia, Malaysia, Singapore, |
| Distributors |
Australia and New Zealand |
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| Australia |
| Direct sales (Given Imaging Pty. Ltd.) and distributors |
| New Zealand |
| Distributors |
Europe |
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| |
| France |
| Direct sales (Given Imaging s.a.s.) |
| Germany |
| Direct sales (Given Imaging GmbH) |
| Austria, Belgium, Bulgaria, Cyprus, Czech Republic, |
| Distributors |
Middle East |
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| |
| Israel |
| Direct sales (Given Imaging Ltd.) |
North America |
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| United States |
| Direct sales (Given Imaging, Inc.) |
| Canada, Puerto Rico |
| Distributors |
Latin America |
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| Argentina, Brazil, Chile, Costa Rica, Dominican |
| Distributors |
Our sales and marketing operations are organized in three geographical regions: United States; International (including, Europe, Asia, Canada and Latin America) and Japan. This organization enables us to focus effectively on each region.
We market the Given System using either direct or indirect sales, depending on the potential size of the market and local market conditions. Currently, we market the Given System directly in Australia, France, Germany, the United States and Israel.. In the United States, which accounted for 72% of our revenues in 2004 and 74% of our revenues in 2005, we market our products through our wholly-owned subsidiary, Given Imaging, Inc., located in Norcross, Georgia. As of December 31, 2005, we had a direct sales force in the United States of more than 50 personnel. We have 16 sales and marketing field personnel in the other jurisdictions in which we directly market the Given System.
Sales to our local distributors worldwide accounted for approximately 15% of our revenues in 2005. Under the terms of our distribution agreements, we generally grant to one distributor in each particular country or region the right to market the Given System for a defined period. In larger territories, such as China, we may have several regional distributors to cover the entire territory. During the contract period, the distributor is required to meet minimum sales targets set out in each distribution agreement. We may, in our sole discretion, upon prior written notice, terminate a distribution agreement with a distributor in the event that a distributor fails to meet its minimum sales targets. To date, we have changed a number of our distributors due to failure to meet minimum sales targets. We have the right not to renew a distribution agreement if we are unable to reach an agreement with the distributor as to minimum sales targets during any renewal period. Each distributor is responsible for obtaining and maintaining any regulatory approvals or registrations required to sell the Given System in that distributor’s sales territory. Each distributor is also responsible for preparing and submitting to us for our approval a marketing plan for the Given System in that distributor’s sales territory. After receiving our approval of the
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marketing plan, each distributor is responsible for implementing the marketing plan, including, participating in local and national trade shows, conducting education and training sessions and conducting sponsored marketing clinical trials in its sales territory.
In May 2002, we entered into an agreement with Marubeni Corporation and Suzuken Co., Ltd. for the purpose of investing in Given Imaging K.K., a Japanese subsidiary established to commercialize the Given System in Japan. Marubeni is one of Japan’s largest trading companies and Suzuken is one of Japan’s largest pharmaceutical distributors. Marubeni and Suzuken together invested an aggregate of $4.3 million in Given Imaging K.K. in consideration for an aggregate 49% interest and we retained a 51% controlling interest. In addition, Suzuken has been appointed by Given Imaging K.K. as its exclusive distributor in Japan. Given Imaging K.K. has conducted clinical trials and has submitted the results to the Japanese Ministry of Health, Labor and Welfare for the purpose of obtaining clearance to market the Given System in Japan. We expect to receive marketing clearance for our products in Japan in 2006. However, we do not expect to generate significant revenues from sales in Japan before our products are also approved for reimbursement by Japanese authorities, which is not likely to occur in 2006. Because the regulatory approval process in Japan is taking longer then we initially anticipated, we intend to provide additional equity financing of up to approximately $9.0 million to finance the operations of our Japanese subsidiary during the next three years. Our portion of the funding will be paid out of our cash reserves.
Our marketing strategy is to drive the placement of Given Systems in order to expand our “footprint” while increasing the utilization of PillCam capsules by each account. While initially we focused primarily on expanding our market penetration of Given Systems in gastroenterology physician offices and gastroenterology departments within hospitals, today most of our revenues come from sales of our PillCam capsules. Accordingly, our marketing and sales strategy is also focused on increasing capsule utilization by our existing installed base, which we intend to achieve by increasing the number of our sales representatives, maintaining a closer relationship with our customers, educating them about updated data on the clinical and economic benefits of our products and enhancing the operating efficiencies of the Given System.
The clinical benefits of capsule endoscopy and its place in routine practice management are demonstrated in the ICCE consensus reports. The ICCE is an annual scientific meeting dedicated to presentations and discussions of the most recent advances in the field of capsule endoscopy. This annual conference serves as a basis for establishing a community of physicians who utilize the Given System and accelerates the dissemination of new clinical data. In ICCE 2005 a group of gastroenterology opinion leaders from around the world issued consensus reports, which define practice guidelines and protocols for the use of both PillCam SB and PillCam ESO by gastroenterologists in several disease states. These consensus reports were developed in response to the need to formalize practice guidelines for using capsule endoscopy. The consensus reports focused on five areas: gastrointestinal bleeding, inflammatory bowel disease, celiac disease, use of bowel preparations and prokinetics, and esophageal capsule endoscopy. The consensus reports were published in the October 2005 issue of Endoscopy, the official, peer-reviewed publication of the European Society of Gastrointestinal Endoscopy (ESGE). We view the consensus reports as a significant tool in our marketing activities and we believe it will help us establish capsule endoscopy as a standard practice world wide. As a result of the success of the annual ICCE meeting in the United States, we intend to hold two meetings during 2006. The first ICCE meeting is planned for March 2006 in Boca Raton, Florida, and a second ICCE meeting is scheduled in June 2006 in Paris, France.
In order to drive strong growth in the future, we need to demonstrate and convince gastroenterologists that the Given System fits within their normal practice routines. In December 2005, we began marketing and selling our most advanced RAPID software, RAPID 4.0. RAPID 4.0 introduces several new features that we believe significantly improve physicians’ reading efficiency and diagnostic confidence, which we expect will drive physicians to incorporate capsule endoscopy into their daily routine. We intend to continue investing in training and education of our customers and help them realize the advantages of our newest technology.
We also use trade shows and scientific meetings and offer workshops, courses, videos and seminars to educate our customers. In 2005, we participated in the Digestive Disease Week (DDW) and the annual meeting of the American College of Gastroenterology (ACG) in the United States, the United European Gastro Week (UEGW) in Copenhagen, the World Congress of Gastroenterology (WCOG) held in Montreal, Canada and numerous other regional, national and local trade shows. In 2005, more than 9,000 physicians and nurses received training in nearly 300 courses and seminars. We believe that these education programs helped also to expand the knowledge of participating physicians and provide an independent endorsement of the clinical value and importance of the Given System.
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A variety of special interest groups related to capsule endoscopy have been formed in the United States, Europe and Japan to provide a dynamic forum to share knowledge, encourage research, and support the advancement of capsule endoscopy. One of the first groups formed was the Capsule Endoscopy Special Interest Group, which is sponsored by the American Society of Gastrointestinal Endoscopy, or ASGE. In Europe, a group of leading gastroenterologists gathered to form the European Capsule Endoscopy Group (ECEG). A similar group, the Capsule Endoscopy Study Group (CESG), was formed to complete the first clinical trials for capsule endoscopy in Japan and to educate the Japanese physician community on the practical application of capsule endoscopy. We believe that these groups in the United States, Europe and Japan provide an important contribution to the broad adoption of capsule endoscopy within these markets.
In 2005, we sponsored the creation and launch of a new web portal dedicated to capsule endoscopy,www.CapsuleEndoscopy.org. This portal addresses gastroenterology professionals and provides training and educational materials and information, including a virtual image atlas, clinical papers, course information and discussion forums for a variety of clinical topics. Over 2,000 new members from more than 50 countries have already enrolled at the site.
Strategic Marketing and Sales Alliance with Ethicon Endo-Surgery
On May 10, 2004, we entered into an exclusive sales representation, co-promotion and cooperation agreement with Ethicon Endo-Surgery, a Johnson & Johnson company. InScope, a business division of Ethicon Endo-Surgery established to market products to the gastroenterology market, has exclusive rights to market our PillCam ESO capsule in the United States. Under the agreement, we retain responsibility for regulatory approvals, manufacturing, supply chain management, order invoicing and processing, collections and technical support for the PillCam ESO capsule. We retain sole ownership of the intellectual property associated with the Given System, the PillCam capsules and any future innovations that we make. InScope is responsible for sales, marketing and promotion, funding mutually agreed upon clinical trials, as well as efforts to establish reimbursement policies for the PillCam ESO capsule. InScope also collaborates with us to expand the installed base of the Given System, which is our platform for the PillCam ESO capsule, the PillCam SB capsule and other capsules which we are developing. InScope began marketing PillCam ESO capsules in the United States in November 2004 following FDA clearance for the PillCam ESO capsule.
Under the terms of the agreement, Ethicon Endo-Surgery committed to pay us up to $50 million, pending achievement of specified milestones by both parties. Out of this amount, we received to date a total of $20 million and achieved a milestone entitling us to receive additional $5.0 million on April 1, 2006. Amounts received to date are as follows:
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| • | $10 million in December 2004 following FDA clearance of the PillCam ESO capsule; |
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| • | $5.0 million in February 2005 as a result of completing the upgrade of 90% of our installed base in the United States to include RAPID 3.0 that our customers needed in order to perform capsule endoscopy procedures with the PillCam ESO capsule; |
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| • | $5.0 million in October 2005 following the sale of the 500th workstation since the FDA cleared PillCam ESO in November 2004. An additional $5.0 million for the achievement of this milestone is scheduled to be paid to us by April 1, 2006. |
To market and promote the PillCam ESO capsule, InScope created a sales force, which initially more than doubled the number of sales representative promoting our PillCam technology in the United States. During 2005, the number of InScope sales representative promoting the PillCam ESO was reduced because of the low volume of sales expected prior to obtaining a dedicated CPT code for the esophageal capsule endoscopy procedure. The InScope sales force markets the PillCam ESO and will also market other InScope products as they are launched. We pay InScope commissions on sales in the United States at a rate of 50% on sales of PillCam ESO capsules and 10% on sales of other parts of the Given System, including workstations and portable data recorders. Subject to achieving specified minimum sales targets and meeting certain conditions, the exclusive term of the agreement will continue for up to 11 years followed by a four-year transition period during which InScope’s rights to market the PillCam ESO capsule will be co-exclusive with ours.
Sales of the PillCam ESO in 2005 were lower than expected, primarily due to the lack of reimbursement. Together with InScope, we continue our efforts to obtain reimbursement for the esophageal capsule endoscopy procedure.
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In particular, we have assumed responsibility for the efforts to obtain a dedicated CPT code for this procedure, while InScope has been focusing its efforts to obtain reimbursement from private third-party payers. In addition, we are working more closely with InScope in managing the clinical trial activity for PillCam ESO. We believe that this effort will result in initial reimbursement announcements by private third-part payers during 2006. To further facilitate sales of PillCam ESO and the Given System and increase coordination of the combined sales force, we have conducted joint training sessions for our and InScope’s sales teams and provided InScope with a number of Given Systems for customer training and demonstrations. Both sales teams are now promoting the entire PillCam platform and are no longer solely focused on a single line of capsules. In addition, we signed an amendment to our agreement with InScope permitting it to also market the PillCam ESO capsule to emergency rooms and hepatology departments or centers.
Manufacturing
We purchase both custom and off-the-shelf components from a number of suppliers. Except as described below, the components and services we purchase are available from more than one supplier.
PillCam Capsules
The manufacture of the PillCam capsules is a complex process involving a number of separate processes and components. Our manufacturing process consists primarily of assembling externally purchased components and sub-assemblies in an environmentally controlled area. After assembly, each PillCam capsule is inspected and packaged.
We manufacture the PillCam capsules at our facilities in Yoqneam, Israel using three semi-automated production lines. Two of these production lines are used to manufacture the PillCam SB capsule and one to manufacture the PillCam ESO capsule. We have constructed a fourth semi-automated production line, which we plan to use for manufacturing the PillCam ESO capsule. We will enable this fourth production line to become operational when demand for our PillCam ESO capsule justifies it. Each semi-automatic production line in our Yoqneam, Israel facility has a capacity to manufacture approximately 270,000 PillCam capsules per year. We have also installed at Pemstar’s facilities in Ireland one semi-automated production line for the PillCam SB capsule and have purchased and plan to install a second production line for the PillCam ESO capsule for back-up purposes. Each of these back-up production lines has a capacity to manufacture an additional 270,000 PillCam capsules per year. We believe we have adequate capacity to manufacture capsules needed to satisfy estimated demand for the foreseeable future.
We perform all supervisory, operational and maintenance functions for all semi-automated lines we currently operate in our manufacturing facility in Yoqneam, Israel. The technical services agreement we had with Pemstar since 2002 was terminated by mutual agreement as of September 30, 2005. Under this agreement Pemstar provided operational and technical services to our first production line, which we purchased from Pemstar in 2001 and is now operated and maintained solely by us. Pemstar still performs assembly work for us of some capsule components, leases to us the space for our two back-up production lines and provides operational and maintenance services for these back-up lines. We expect that the reduction in the scope of services Pemstar is providing us will reduce the cost of goods sold and will have a positive effect on our gross margin.
There are single-source suppliers for two key components of the PillCam capsule:
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| • | Micron Technology, Inc., by and through its Micron Imaging Group and other wholly-owned subsidiaries, developed the imaging sensor that is integrated into the PillCam capsules based on our specifications and is also manufacturing and supplying this imaging sensor exclusively to us. Under our contract with Micron, Micron may not offer the imaging sensor as a standard catalog part. In the event that Micron ceases operations or enters into liquidation, we are entitled to receive all information necessary to manufacture the sensor upon the payment of reasonable royalties to be agreed upon with Micron Technology. In February 2006, we signed an amendment to our development and manufacturing agreement with Micron and agreed with Micron that it will develop and manufacture an enhanced version of the imaging sensor based on specifications that we provide. This amendment also extended the initial term of the agreement until November 2012, with an option to extend that term by mutual agreement. We have agreed to purchase the enhanced sensor only from Micron and Micron has agreed to sell the sensor exclusively to us. The agreement permits Micron to disregard the exclusive sales requirement if we fail to purchase agreed-upon minimum quantities of Micron’s sensors. Pursuant to the agreement, we have also agreed with Micron to cooperate in our mutual efforts to market the product. |
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| • | Zarlink Semiconductors AB, a Canadian company, supplies the transmitter that is integrated into the PillCam capsules. Zarlink began supplying the transmitter to us in the fourth quarter of 2004, replacing our previous supplier, Asicom Technologies. We currently expect that Zarlink Semiconductor will fulfill substantially all of our future needs for transmitters for the PillCam capsules. Under our agreement, we have agreed to purchase a minimum quantity of transmitters during the first 36 months following the development and testing phase, and if we fail to do so we must make certain payments to Zarlink Semiconductor in respect of the shortfall. After this initial 36-month period, Zarlink Semiconductor may terminate the agreement on six months notice if we do not order a minimum quantity of transmitters in each subsequent 12-month period, subject to our right to submit a final purchase order. The agreement also includes non-compete provisions prohibiting Zarlink Semiconductor from selling the transmitters to other parties and, for a certain period of time following termination of the agreement, from transferring any of the intellectual property and design specifications associated with the development of the transmitter to any potential competitors in our market. In July 2005, we agreed with Zarlink that it will develop and manufacture an enhanced version of the transmitter based on specifications that we provide. The minimum purchase requirements will not apply to this enhanced transmitter. In addition, the initial term of the agreement was extended until April 2012, subject to earlier termination in specified circumstances, with the option to extend annually thereafter for up to five years. |
We believe that we would be able to arrange substitute sources of supply for these two components in approximately a one-year period of lead time. We believe that if we need to find a substitute source of supply, our inventory of components and finished products, together with our right to submit final purchase orders prior to termination of our agreements with Micron Technology and Zarlink Semiconductors, is sufficient to continue sales of the Given System for all or most of the lead-time period.
Portable Data Recorder and Sensor Array
We designed our portable data recorder, sensor array and their related accessories. Data recorders are manufactured externally and assembled and tested at our facilities. Sensor arrays are manufactured and assembled externally and are tested at our facilities. We have established a back-up facility at Pemstar’s facilities in Ireland for testing workstations, data recorders and sensor arrays.
Computer Workstation
Our computer workstation is an off-the-shelf computer workstation pre-loaded with our proprietary RAPID software and integrated software that together allow us to service the workstation from remote locations through standard telephone connections.
Manufacturing facilities and disaster-preparedness
In order to maintain our special tax benefits under our approved enterprise status, we are required to conduct our manufacturing and a majority of our subcontracting in specific locations in Israel. We currently plan to continue these practices as we increase our manufacturing capacity. For more information, see “Taxation and Government Programs-Israeli Tax Considerations and Government Programs — Taxation of Companies —Tax Benefits Under the Law for the Encouragement of Capital Investments, 1959.”
We have also taken the following measures for disaster-preparedness:
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| • | We have installed one back-up semi-automatic production line, and have purchased a second back-up line at the facilities of Pemstar, Inc. in Ireland. Each of these backup lines has a capacity to manufacture approximately 22,500 PillCam capsules per month. We believe that these lines can be operational upon 60 days notice. |
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| • | Our policy is to hold inventory of critical components, such as the imaging sensor and the transmitter, for a period of time ranging from approximately two to 18 months, depending on the risk profile we allocate to each critical component. |
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| • | Our policy is to hold approximately six weeks inventory of finished products at our offices in Israel, Sydney, Hamburg, Paris and Norcross, Georgia. |
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| • | We maintain back-up copies of all production files, original certifications and all proprietary software masters outside of our facilities in Israel. |
The FDA requires us to adhere to the Quality System Regulation which requires manufacturers to follow elaborate design, testing, control, documentation and other quality assurance procedures during the manufacturing process. Our quality system has passed three audits pursuant to the Medical Devices Directive of the European Union, the International Standard Organization’s standard ISO 9001 and EN 46001, a European quality standard setting forth requirements for medical device manufacturers that are more specific than the general requirements specified in ISO 9001. These quality standards contain requirements that are generally similar to the Quality System Regulation required by the FDA. However, we have never been through a Quality System Regulation inspection by the FDA and cannot assure you we would pass such an inspection.
Intellectual Property
An important part of our competitive strategy is to seek, when appropriate, protection for our products and proprietary technology through the use of various United States and foreign patents, trademarks, trade secrets and contractual arrangements. We intend to prosecute and defend our proprietary technology.
We acquired the rights to our first issued U.S. and Israeli patents in January 1998 under a technology purchase and license agreement with Rafael Armament Development Authority. See Item 7 “Major Shareholders and Related Party Transactions.” These patents expire in January 2014 and January 2015, respectively. In addition, we hold 36 additional issued patents in the United States, Australia, France, Israel, South Korea and Taiwan covering different elements of our technology. These patents expire between July 2014 and October 2022. We also hold six utility models in Japan and three utility models in Germany. As of December 31, 2005, we also had 421 patent applications worldwide based on approximately 120 priority applications relating to various elements and functions of our product and its enhancements.
We seek to protect our product names and logos through trademark use and registration in the United States and other countries. In 2004 we re-branded our line of video capsule from “M2A” to “PillCam.” The GIVEN logo, GIVEN, PillCam, PILLCAM, the PillCam logo, ORDERWIN, ORDER WHEN I NEED, RAPID, PILLCAM IMAGING CAPSULE and design, FINGERS HOLDING A CAPSULE logo and, FINGERS HOLDING PILLCAM CAPSULE logo, are our trademarks or registered trademarks.
In March 2004, the U.S. Patent and Trademark Office notified us that it would conduct a reexamination of some of the claims in one of our U.S. patents in the U.S. Patent and Trademark Office pursuant to a request submitted by Olympus Corporation. In August 2005, we filed our response to an office action issued by the U.S. Patent and Trademark Office and we are awaiting its decision.
Competition
In October 2005, Olympus Corporation launched a competing capsule endoscopy system and began sales in Europe and Australia. Based on publicly available information, Olympus is also conducting clinical trials in the United States and intends to seek FDA clearance to market its capsule endoscopy system in the United States. Olympus displayed its newly developed capsule endoscopy system in several trade shows, has won some tenders published by public hospitals in Europe, and delivered a number of its capsule endoscopy systems in Europe and Australia. In addition to Olympus, a few other Korean and Chinese companies began selling capsule endoscopy systems in these territories in 2005 and presented their systems in industry trade shows outside Asia.
We believe that we have a competitive advantage compared to Olympus and other sellers of capsule endoscopes in the capsule endoscopy market. First, we have a first to market advantage and have been concentrating on the development and sale of capsule endoscopy systems longer than Olympus and other existing or potential competitors. Second, we are selling an advanced platform enabling us to use our line of PillCam capsules for diagnosing disorders in parts of the gastrointestinal tract other than the small bowel, where Olympus and other companies have only announced the launch of a small bowel capsule at this time. Finally, we invented the field of capsule endoscopy and have a patent portfolio that we believe protects critical aspects of our technology and creates technological barriers for our competitors, which may force them to enter the market with inferior products or keep them out of certain territories all together.
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In addition, we face competition from existing technologies for detecting gastrointestinal disorders and diseases, including traditional endoscopy and radiology. Our success depends in large part on convincing physicians to adopt the Given System over current technologies.
Three companies control the major portion of the worldwide gastrointestinal traditional endoscopy market. These companies, Olympus, Asahi Optical (which manufactures and sells cameras and endoscopes under the Pentax brand) and Fujinon, have marketed and sold flexible endoscopic equipment for many years. These companies have substantially greater financial resources than we do, and they have established reputations as well as worldwide distribution channels for medical instruments to gastroenterologists. We are aware of research and development efforts by some of these companies and other individuals and companies to develop and bring to market imaging capsules or other minimally invasive imaging techniques.
In addition, there are several companies focused on radiological diagnostics that provide x-ray machines and other imaging products used for barium series radiological examinations. These companies include but are not limited to GE Healthcare, Siemens Medical Solutions, Philips Medical Systems, Toshiba Corporation and Shimadzu Corporation.
In addition to competition from products performing similar clinical functions to the Given System, there is also competition among gastrointestinal products for the limited capital expenditure budgets of customers. For example, another capital equipment item for gastroenterology may compete with our system for the same hospital capital budget, which is typically limited, and therefore the potential purchaser may be required to choose between the various items of capital equipment.
U.S. Government Regulation
FDA Clearance and Regulation of the Given System
In August 2001, we received clearance from the FDA to market the Given System in the United States for adjunctive use in the detection of abnormalities of the small intestine. In 2003, based on review of a meta-analysis of data from 32 studies in a total of 691 patients, the FDA approved the removal of the adjunctive labeling, with the result that the Given System can now be marketed in the United States as a standalone tool for the detection of abnormalities of the small intestine. In 2003, we received two further clearances from the FDA. First for a suspected blood indicator, a new feature of the Given System which automatically marks images that contain the color red and which therefore correlate with the existence of suspected bleeding, and, second, for use of the PillCam capsule in children aged 10 through 18. In November 2004, we received FDA marketing clearance for our PillCam ESO video capsule and for the advanced RAPID software and data recorder. In December 2005, we received clearance to market a more enhanced version of our RAPID software, RAPID 4.0.
FDA Clearance and Regulation of the Future Products
Any new medical device that we wish to commercially distribute in the United States will likely require either 510(k) clearance or premarket application approval from the FDA prior to commercial distribution. 510(k) clearance or amendment to premarket application is also required when a change is made to a legally marketed device or to expand the product label.
510(k) Clearance Process. To obtain 510(k) clearance, an applicant must submit a premarket notification demonstrating that the proposed device is substantially equivalent in intended use and in safety and effectiveness to a “predicate device” – either a previously 510(k) cleared device or a pre-amendment device for which the FDA has not called for premarket applications. The FDA’s 510(k) clearance process usually takes from three to 12 months, but it can last longer. After a device receives 510(k) clearance, any modification that could significantly affect its safety or effectiveness, or that would constitute a major change in its intended use, requires a new 510(k) clearance or could even require a premarket application approval. The FDA requires each manufacturer to make this determination in the first instance, but the FDA can review any such decision. If the FDA disagrees with the determination, the agency may retroactively require the manufacturer to seek 510(k) clearance or premarket application approval. The FDA also can require the manufacturer to cease marketing and/or recall the modified device until 510(k) clearance or pre-market application approval is obtained. Our PillCam ESO video capsule and the advanced versions of the RAPID software and data recorder have received FDA marketing clearance under the 510(k) clearance process.
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De Novo Classification. If the FDA denies 510(k) clearance of a device because it is novel and an adequate predicate device does not exist, the “de novo classification” procedure can be invoked based upon reasonable assurance that the device is safe and effective for its intended use. This procedure approximates the level of scrutiny in the 510(k) process but may add several months to the clearance process. If the FDA grants the request, the device is permitted to enter commercial distribution in the same manner as if 510(k) clearance had been granted. We received our original FDA clearance for the Given System pursuant to the de novo classification procedure which is intended for novel but low risk devices. Our application for clearance under the de novo classification procedure included clinical data from a non-significant risk study. We cannot assure you that future studies of the Given System in the United States will be eligible for the same abbreviated regulatory treatment.
Premarket Application Approval Process. If the FDA denies 510(k) clearance for a product, and denies de novo classification, the product must follow the premarket application approval process, which requires proof of the safety and effectiveness of the device to the FDA’s satisfaction. A premarket application must provide extensive preclinical and clinical trial data and also information about the device and its components regarding, among other things, device design, manufacturing and labeling. After approval of a premarket application, a new premarket application or premarket application supplement is required in the event of a modification to the device, its labeling or its manufacturing process. The premarket application approval pathway is much more costly, lengthy and uncertain. It generally takes from one to three years or longer.
FCC Clearance and Regulation
Because the Given System includes a wireless radio frequency transmitter and receiver, it is subject to equipment authorization requirements in the United States. The U.S. Federal Communications Commission, or FCC, requires advance clearance of all radio frequency devices before they can be sold or marketed in the United States. These clearances ensure that the proposed products comply with FCC radio frequency emission and power level standards and will not cause interference. We received an equipment certificate from the FCC in March 2001 based on the current system design and specifications for the Given System. Any modifications to the Given System may require new or further FCC approval before we are permitted to market and sell a modified system, and it could take several months to obtain any necessary FCC approval.
Anti-Kickback and False Claims Laws
In the United States, there are federal and state anti-kickback laws that prohibit the payment or receipt of kickbacks, bribes or other remuneration intended to induce the purchase or recommendation of healthcare products and services. Violations of these laws can lead to civil and criminal penalties, including exclusion from participation in federal healthcare programs. These laws constrain the sales, marketing and other promotional activities of manufacturers of medical devices such as us, by limiting the kinds of financial arrangements (including sales programs) we may have with hospitals, physicians and other potential purchasers of the medical devices. Other provisions of state and federal law provide civil and criminal penalties for presenting, or causing to be presented, to third-party payors for reimbursement, claims that are false or fraudulent, or which are for items or services that were not provided as claimed. Since we are providing coding and billing advice to purchasers of our products, and since we cannot be sure that the government will regard any billing errors as inadvertent, we could be subject to an enforcement proceeding in a case where our advice was deemed to have caused the submission of improper claims.
Health Insurance Portability and Accountability Act of 1996 and Related Laws
U.S. Federal and state laws protect the confidentiality of certain patient health information, including patient records, and restrict the use and disclosure of that protected information. In particular, the U.S. Department of Health and Human Services promulgated patient privacy rules under the Health Insurance Portability and Accountability Act of 1996, or HIPAA. These privacy rules protect medical records and other personal health information by limiting their use and disclosure, giving individuals the right to access, amend and seek accounting of their protected health information and limiting most use and disclosures of health information to the minimum amount reasonably necessary to accomplish the intended purpose. Because we are selling products and services to persons and entities subject to HIPAA and are exposed to personally-identifiable health information in the course of our operations, we also may be subject to HIPAA, as well as similar state laws. HIPAA imposes civil and criminal penalties for violations of its provisions, which could be substantial. State privacy laws have their own penalty provisions which could apply in a given case.
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Regulation in Europe
Commercialization of medical devices in member countries of the European Union is regulated by directives adopted by the European Union. The European Union presently requires that all medical products bear the CE mark, an international symbol of adherence to quality assurance standards and demonstrated clinical effectiveness. Compliance with the Medical Device Directive, as certified by a recognized European Notified Body, permits the manufacturer to affix the CE mark on its products. We received authorization to affix the CE mark to the Given System in May 2001 and successfully passed the 2005 annual re-certification for compliance with ISO 9001:2000, ISO 13485:1996 and ISO 13485:2003 and the CE mark. In September 2004, our new PillCam ESO video capsule was added to our CE mark certification.
If we modify the Given System, we may need to apply for permission to affix the CE mark to it. Additionally, we will need to apply for a CE mark for any new products that we may develop in the future. We cannot be certain that we will be able to obtain permission to affix the CE mark for new or modified products or that we will continue to meet the quality and safety standards required to maintain the permissions that we receive. If we are unable to maintain permission to affix the CE mark to our products, we will no longer be able to sell our products in member countries of the European Union.
In Europe, the frequency range in which the Given System operates is subject to technical standards for radio frequency use developed by the Short Range Device Maintenance Group of the European Conference of Postal and Telecommunications Administrations. We currently have clearance to operate our system in Europe based on the current system design and specifications; however, modifications to the Given System may require new or further approvals before we are permitted to market and sell a modified system, and it could take several months to obtain any necessary approvals.
Regulation in Other Countries
In order for us to market the Given System in countries other than the United States, we must obtain regulatory approvals and comply with extensive safety and quality regulations in these countries. These regulations, including the requirements for approvals or clearance and the time required for regulatory review, vary from country to country. Failure to obtain regulatory approval or clearance in any foreign country in which we plan to market our product may harm our ability to generate revenue and harm our business.
In all of the countries in which we are currently selling the Given System we have either received regulatory approval or been informed that approval is not required. Renewals or updates of the regulatory status of our products in all these countries are done annually.
In Japan, we comply with the “extremely low power radio station” category of the Japanese Radio Law, which does not require a license. In addition, we are still in the process of obtaining clearance to market the Given System from the Japanese Ministry of Health, Labor and Welfare after submitting to this ministry the results of a clinical trial conducted in Japan together with results of clinical trials conducted in other countries. The clearance of the Given System in Japan has taken longer than we initially expected. The revision of the Pharmaceuticals Law of Japan in April 2005 and the resulting reorganization of the Ministry of Health, Labor and Welfare related organizations into an independent government body has contributed significantly to the delay. This reorganization has not only affected our application, but all applications under review.
Nonetheless, we believe we are closer to obtaining regulatory clearance to sell the Given System in Japan and have seen several important activities taking place. We held a general meeting of our Japanese capsule endoscopy study group, or CESG, consisting of a number of leading key industry opinion leaders. The CESG made a number of very important decisions. First, they endorsed the ICCE 2005 consensus that was published in Endoscopy and notified their endorsement to the Japanese Pharmaceutical and Medical Device Agency, or PMDA. Third, the CESG completed and is publishing an economic outcomes study supporting the use of the PillCam SB capsule in patients with suspected small bowel disease. This will be a basic building block for our submission for reimbursement as soon as PMDA clearance is obtained. Fourth, the CESG has completed the publication of a Japanese capsule endoscopy atlas which will be distributed to many industry key opinion leaders in Japan. Regulatory clearance to market the Given System in Japan will be important, but is not likely to result in significant revenues in Japan until reimbursement is available, which we do not expect to occur in 2006.
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Third-Party Reimbursement
Reimbursement in the United States
In the United States, healthcare providers that purchase medical devices generally rely on third-party payors, such as Medicare, Medicaid, private health insurance plans and health maintenance organizations, to reimburse all or a portion of the cost of the devices, as well as any related healthcare services utilizing the devices. FDA clearance does not result in coverage and reimbursement by third-party payors.
Coding. Generally, a current procedural terminology, or CPT, code is necessary to facilitate claims for reimbursement. If a procedure is not covered by an appropriate existing code, an application for a new code can be made to the American Medical Association, or AMA. This process can be lengthy, however, typically taking two or more years before the new code is effective. In the meantime, claims may be submitted using a miscellaneous CPT code or using a temporary G-code, if one is established by the Department of Health and Human Services’ Centers for Medicare and Medicaid Services, or CMS. In December 2002, CMS established a temporary G-code specifically for capsule endoscopy. In October 2003, the American Medical Association assigned a permanent CPT code for capsule endoscopy of the small bowel, effective January 1, 2004. With the assignment of the permanent CPT code for capsule endoscopy of the small bowel, the temporary G-code was abolished.
For capsule endoscopy procedures of the small bowel performed in a physicians office, the CPT code covers a global fee for both the technical and the professional components. In the outpatient hospital setting, claims are submitted using the CPT code and paid by Medicare using an Ambulatory Payment Classification, or APC, code, which covers the technical component, which includes the cost of the facility and supplies related to the procedure. The physician is paid separately. In January 2003, CMS established a New Technology APC for capsule endoscopy of the small bowel in the hospital outpatient setting and in November 2004, CMS reclassified the APC into a GI diagnostic category for payment in an outpatient hospital setting, effective January 1, 2005.
Under our exclusive sales representation, co-promotion and cooperation agreement with Ethicon Endo-Surgery, Ethicon was originally responsible to obtain a CPT code for capsule endoscopy of the esophagus using our PillCam ESO video capsule. In order to facilitate the receipt of reimbursement coverage, we took over that responsibility in October 2005 and Ethicon continues to focus on obtaining coverage from private third-party payers. We do not expect any CPT code to be effective before January 2007. We expect that the assignment of a permanent CPT code for capsule endoscopy of the esophagus will significantly improve the potential for physicians to receive reimbursement for use of the Given System. However, the assignment of this CPT code does not require either Medicare carriers or private payors to cover capsule endoscopy of the esophagus. In July 2005, CMS determined that hospitals can use the CPT code 91110 with a -52 modifier to report the technical component of the esophageal capsule endoscopy procedures with our PillCam ESO capsule for Medicare patients until a dedicated code for the procedure is issued. The CMS 2006 final rule determined that hospital claims for the technical component of the procedure, reported with the - -52 modifier, will receive only 50% of the fee normally paid for the technical component under the CPT code for small bowel capsule endoscopy. Since neither the existing CPT code nor the use of a reducing modifier adequately reflect the professional component of the PillCam ESO procedure, in November 2005 the gastroenterology professional societies in the United States submitted a request to the AMA to issue a dedicated code for the esophageal capsule endoscopy.
Reimbursement Coverage. A payor’s decision to cover a device or medical procedure is independent of the coding process, although the existence of an appropriate CPT code and APC may assist in obtaining coverage. Generally, payors may deny coverage if they determine that a procedure was not reasonable or necessary as determined by the payor, was experimental or was used for an unapproved indication. During the past several years, the major third-party payors have substantially revised their reimbursement methodologies in an attempt to contain their healthcare reimbursement costs.
Third-party payors in the United States began issuing coverage policies for capsule endoscopy in early 2002. Initially, all reimbursement policies issued coverage for capsule endoscopy of the small bowel only for the diagnosis of obscure gastrointestinal bleeding. Subsequently, reimbursement coverage has been expanded to include other indications and as of December 31, 2005, most Medicare carriers and private payors, with a total insured population in the United States of approximately 209 million individuals, also cover capsule endoscopy of the small bowel for suspected Crohn’s disease, suspected small bowel tumors and other small bowel pathologies.
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Almost all of the reimbursement policies currently in effect require that a previous procedure, such as endoscopy or radiology, be performed prior to using the Given System and some may require prior authorization. We intend to continue our efforts to establish the Given System as the first tool administered to patients with suspected disorders of the small bowel and to convince third party payors to provide reimbursement coverage for capsule endoscopy as a primary diagnostic tool by presenting to them economic and health outcomes analyses showing the benefits of using the PillCam SB capsule as a first line tool. To this end, the peer-reviewed journal Disease Management published in its Winter 2004 issue an economic analysis of using PillCam SB capsules as a first-line tool for diagnosing patients with suspected Crohn’s disease. The study, conducted by researchers at Thomas Jefferson University, concluded that using the PillCam SB capsule as a first line procedure for detecting small bowel Crohn’s disease is less costly from a third-party payor perspective than existing diagnostic approaches. This publication supports the company’s efforts to convince payors to revise policies to cover PillCam SB capsules when performed as a first line procedure in patients with suspected Crohn’s disease. As a result of this efforts, in 2005 several third-party payors have issued new or updated policies that do not require endoscopy or other procedure prior to performing small bowel capsule endoscopy. As of December 31, 2005, approximately 11.5 million individuals in the United States now have coverage under these new or updated policies.
As of December 31, 2005, no third party payor had established published coverage policy for capsule endoscopy of the esophagus using our PillCam ESO capsule. Meanwhile, numerous payers are reimbursing this procedure on a case by case basis. While some third party payors may provide reimbursement coverage for this procedure before a dedicated CPT code for capsule endoscopy of the esophagus is assigned, we do not expect broad coverage for this procedure prior to assignment of such code, which we expect to occur in late 2006, effective January 2007. We have established a toll-free reimbursement help-line whereby reimbursement specialists assist our customers in the process of submitting prior authorizations,claims and appeals in the event of a denial.
Reimbursement Rates. Even if a device or medical procedure is covered, reimbursement rates must be adequate for most providers to use it routinely. Reimbursement rates vary depending on the third-party payor and individual insurance plan involved, the procedure performed and other factors. Medicare reimbursement for inpatient hospital services is based on a fixed amount per admission based on the patient’s specific diagnosis. As a result, any illness to be treated or procedure to be performed in an inpatient setting will be reimbursed only at a prescribed rate set by the government that is known in advance to the hospital. If the treatment cost is less, the hospital is still reimbursed for the entire fixed amount; if it costs more, the hospital cannot bill the patient for the difference. However, the Given System is not subject to these restrictions for hospital inpatients services because the capsule endoscopy procedure is reimbursed by Medicare under the outpatient regulations, which allows for separate reimbursement. Medicare is covering the capsule endoscopy procedure under the outpatient regulations because the Given System is purchased for placement in an outpatient setting, where patients are not admitted to a hospital as an in-patient status for the capsule endoscopy procedure.
In 2005, the national average global fee for physicians paid by Medicare under the CPT code for capsule endoscopy of the small bowel for a procedure in a physician’s office was $985, an increase of 5% compared to 2004. The national average physician fee paid by Medicare when the procedure was performed in an outpatient hospital was $185, an increase of less than 1% compared to 2004. These payment rates are modified annually. Effective January 1, 2006, the national average global fee paid by Medicare for a procedure in a physician’s office was increased to $987 and the physician fee for the professional component of a hospital outpatient procedure was increased to $189 The national average payment rate to the hospital for the technical component increased to $538 from $496 in 2005, effective January 1, 2006 due to an increase in the APC rate for gastrointestinal small bowel procedures classified under APC 142.
Coverage Outside the United States
In countries outside the United States, coverage is obtained from various sources, including governmental authorities, private health insurance plans, and labor unions. In some foreign countries, private insurance systems may also offer payments for some therapies. Although not as prevalent as in the United States, health maintenance organizations are emerging in certain European countries. Coverage systems in international markets vary significantly by country and, within some countries, by region. Coverage approvals must be obtained on a country-by-country or region-by-region basis. In general, the process of obtaining coverage approvals has been slower outside of the United States. In Europe, the population with reimbursable access to capsule endoscopy grew to 110 million at the end of 2005, compared to 102 million at the end of 2004. This increase was mainly the result of obtaining additional private reimbursement in Germany. The number of lives with reimbursement for expanded indications as of the end of 2005 remained at approximately 87 million, the same number as of the end of 2004. In Australia, reimbursement has been approved for all residents in Australia who hold Australian and/or New Zealand citizenship, providing coverage for the approximately 20 million residents. While coverage in
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Switzerland and Australia is generally limited to the indication of suspected small intestinal bleeding, the public healthcare systems in Denmark, Portugal, Sweden and the United Kingdom cover capsule endoscopy for broader indications, including suspected Crohn’s disease. We cannot provide any assurance that we will obtain any additional approvals in a timely manner or at all.
Patency System
As of the date of this annual report, we have not received any reimbursement approvals for the Patency System.
C. ORGANIZATIONAL STRUCTURE
Given Imaging Ltd. is organized under the laws of the State of Israel and, as of December 31, 2005, held directly and indirectly the percentage indicated of the outstanding capital stock of the following subsidiaries:
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Name of Subsidiary |
| Country of Incorporation |
| Percentage Ownership |
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| |||
Given Imaging Pty. Ltd. |
| Australia |
| 100 |
Given Imaging, Inc. |
| United States |
| 100 |
Given Imaging s.a.s. |
| France |
| 100 |
Given Imaging GmbH |
| Germany |
| 100 |
Given Imaging B.V. |
| Netherlands |
| 100 |
Given Imaging KK |
| Japan |
| 51 |
D. PROPERTY, PLANTS AND EQUIPMENT
In June 2005, we relocated our corporate headquarters in Israel, including our principal administrative and research and development activities, to a new office space in Yoqneam, Israel, nearby our previous office space. Our corporate headquarters in now located in the same building in which we currently lease space for three of our production lines for the PillCam capsules. We have a total of approximately 10,300 square meters (approximately 110,869 square feet) in Yoqneam under a lease that expires in December 31, 2015, including 1,750 square meters (18,837 square feet) in an adjacent building that currently hosts one semi-automated production line that we use for the manufacture of the PillCam ESO video capsule.
We believe that our existing facilities will be adequate to meet our needs in Israel for the foreseeable future.
Our subsidiaries are party to the following leases:
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| • | Given Imaging, Inc. leases 1,536 square meters (16,526 square feet) of office space in Norcross, Georgia pursuant to a five-year lease that expires in May 2006. Starting in June 2006, Given Imaging, Inc. will move to a new, 2,318 square meters (24,919 square feet) office space in Duluth, Georgia under a new three-year lease; |
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| • | Given Imaging GmbH leases approximately 590 square meters (6,348 square feet) of office space in Hamburg, Germany, pursuant to a lease that may not be terminated by us or our landlord prior to May 2008 without the payment of a specified early termination fee; |
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| • | Given Imaging Pty. Ltd. leases 244 square meters (2,626 square feet) of office space in North Ryde, Australia, pursuant to a lease that expires in February 2011; |
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| • | Given Imaging s.a.s. leases 168 square meters (1,808 square feet) of office space in Paris, France, pursuant to a nine-year lease that expires in September 2010 and that may be terminated by us at the end of each three year period upon six months notice; and |
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| • | Given Imaging K.K. leases 103 squares meters (1,114 square feet) of office space in Tokyo, pursuant to a four-year lease that expires on December 31, 2007, subject to our right to terminate the lease at any time upon six months prior notice. |
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ITEM 4A. UNRESOLVED STAFF COMMENTS
Not Applicable.
ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS
A. OPERATING RESULTS
Overview
We develop, manufacture and market innovative diagnostic products for disorders of the gastrointestinal tract. Our principal product, which incorporates our core technology, is the Given System, a proprietary wireless imaging system that represents a fundamentally new approach to visual examination of the gastrointestinal tract. The Given System uses a miniaturized video camera contained in a disposable capsule, which we refer to as the PillCam capsule, that is easily ingested by the patient and delivers high quality color video in a painless and noninvasive manner. In 2001, we commenced marketing the Given System with the PillCam SB capsule for detection of disorders of the small bowel. As of December 31, 2005, we had an installed base of over 2,860 Given Systems and had sold over 307,000 PillCam SB capsules in more than 50 countries worldwide. Since initial sales of the PillCam SB capsule began in 2001, we are working to add additional types of PillCam capsules to our PillCam platform for detecting disorders in other parts of the gastrointestinal tract. At the end of November 2004, we received clearance to market our PillCam ESO capsule. We market the PillCam ESO video capsule in the United States through a strategic marketing and sales alliance with InScope, a division of Ethicon Endo-Surgery, a Johnson & Johnson company. Sales of PillCam ESO were significantly lower than expected in 2005, primarily due to lack of reimbursement coverage for the esophageal capsule endoscopy procedure. In addition, in December 2005 we submitted our AGILE Patency system for FDA clearance in the United States. Our AGILE Patency system already received the European CE-Mark in 2003 which allows it to be marketed throughout the European Union. Finally, in 2005 we made significant progress in the development of the PillCam Colon capsule and are now conducting initial clinical trials with the expectation of launching this product in Europe towards the end of 2006 and in the U.S. in 2007 following FDA clearance.
We were incorporated in Israel in January 1998. We raised approximately $53.2 million of net proceeds in our initial public offering and were listed on the Nasdaq National Market in October 2001. We completed a follow-on offering in June 2004 in which we raised additional net proceeds of $44.3 million. Since March 2004, our shares have also been listed on the Tel Aviv Stock Exchange. Since our inception, we have devoted substantially all of our efforts to developing the Given System, raising capital, recruiting personnel and marketing the Given System and PillCam capsules. We recorded our initial sales of the Given System in the third quarter of 2001.
Revenues
We derive our revenues from sales of the Given System, consisting of a Rapid workstation, a portable data recorder, and disposable PillCam capsules and from recurring sales of our PillCam capsules to our installed base. We also derive a small portion of our revenues from service contracts entered into by customers at the end of the warranty period for the computer workstation and data recorders. As more of the systems that we sold initially approach the end of their warranty period, we expect the amount and proportion of our revenues derived from service contracts to increase, although we expect the proportion to remain small. Since the fourth quarter of 2003, we have derived limited revenues from sales of our AGILE Patency System in Europe.
Revenue breakdown. Since we commenced sales of the Given System, we have focused on growing our revenues both through sales of more systems and through capsule sales. Initially, the majority of our revenues came from sale of the Given System to new customers. However, with over 2,860 systems now installed worldwide, of which over 1,800 are in the United States, an increasing proportion of our revenues is generated from reorders of our PillCam capsules by existing customers. The proportion of our revenues derived from sales of capital equipment components of the Given System, such as the Rapid workstations and portable data recorders, and revenues derived from sales of the PillCam capsules, which generate recurring sales, is an important indicator of our results of operations. In recent years, we have seen a gradual increase in the share of revenues generated from recurring sale of our PillCam capsules. In 2003, we derived 56.4% of our revenues from sales of the PillCam SB capsule compared to 64.0% of our revenues in 2004 and 72.1% of our revenues in 2005. Sales of the PillCam ESO capsule, which began at the end of November 2004, represented an additional 5.0% of our revenues from capsule sales in 2005. As we have increased the installed base of Rapid workstations, the proportion of
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our revenues derived from sales of PillCam capsules has increased. We expect that a substantial majority of our revenues in the future will continue to come from sales of our PillCam capsules, all of which are compatible with our RAPID workstation platform.
The following table sets forth information for the periods indicated regarding the breakdown of our revenues:
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|
| $ |
| % of annual revenues |
| ||||||||||||||
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| ||||||||||||||||
|
| 2003 |
| 2004 |
| 2005 |
| 2003 |
| 2004 |
| 2005 |
| ||||||
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| ||||||||||||
|
| (in thousands) |
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| |||||||
Workstations and data recorders |
|
| 15,879 |
|
| 18,669 |
|
| 16,145 |
|
| 39.2 |
|
| 28.7 |
|
| 18.6 |
|
PillCam SB capsule |
|
| 22,865 |
|
| 41,622 |
|
| 62,528 |
|
| 56.4 |
|
| 64.0 |
|
| 72.1 |
|
PillCam ESO capsule** |
|
| — |
|
| 1,829 |
|
| 4,384 |
|
| — |
|
| 2.8 |
|
| 5.1 |
|
Patency system and capsule |
|
| 15 |
|
| 188 |
|
| 174 |
|
| * |
|
| * |
|
| * |
|
Service |
|
| 1,780 |
|
| 2,712 |
|
| 3,545 |
|
| 4.4 |
|
| 4.2 |
|
| 4.2 |
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| ||||||||||||
Total |
|
| 40,539 |
|
| 65,020 |
|
| 86,776 |
|
| 100.0 | % |
| 100.0 | % |
| 100.0 | % |
|
|
* | Less than 1%. |
** | FDA clearance was received at the end of November 2004. |
Workstations and data recorders.In 2005, our revenues from the sale of workstations and data recorders decreased compared to our revenues from the sale of these products in 2004. We believe that a significant reason for this decrease was our focus on increasing utilization of the PillCam SB capsule. Accordingly, in the second quarter of 2005, we reduced the list price of the data recorder 2.0, or DR 2.0, by approximately 50% to promote sales of the DR 2.0 and, in turn, increased our customers’ capacity to perform more than one capsule endoscopy procedure at a time. Sales of the DR 2.0 at the reduced list price negatively impacted our revenues. In addition, with the introduction of new products or newer versions of existing products, as part of our promotional activities, we replaced the older equipment of many customers with newer versions of the workstation and data recorder at a reduced price or at no charge. Finally, the lack of reimbursement in many European countries negatively impacted our ability to grow our installed base in this area and generate revenues from sales of the capital equipment components of the Given System.
PillCam SB.Substantially all of our revenues from capsule sales were attributed to sales of the PillCam SB capsule, which we began selling worldwide in the fourth quarter of 2001. We expect recurring sales of the PillCam SB capsule to continue to account for substantially all of our revenues from capsule sales in 2006. The primary reasons for this expected growth are:
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| • | Most small bowel indications for which the PillCam SB capsule is used are covered by federal and private reimbursement policies. |
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| • | In 2005, we saw the first reimbursement policies that cover small bowel capsule endoscopy as a first-line tool, without the requirement to perform other diagnostic procedures prior to using the PillCam SB capsule. If this trend continues, we believe more capsule endoscopy procedures of the small bowel will be performed. |
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| • | In the first half of 2006, we expect to receive FDA clearance to market in the United States our AGILE patency system. This system is designed to enable physicians to confirm the absence of small bowel obstruction in patients with suspected strictures such as known Crohn’s disease patients, allowing the use of capsule endoscopy in this patient population. |
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| • | We expect to receive regulatory clearance to market the PillCam SB capsule in Japan in 2006. |
PillCam ESO. Sales of our PillCam ESO capsule were lower than expected, primarily due to the lack of reimbursement for the esophageal capsule endoscopy procedure. We market the PillCam ESO in the Unites States through an exclusive sales representation, co-promotion and cooperation agreement with Ethicon Endo-Surgery, a Johnson & Johnson company. InScope, a business division of Ethicon Endo-Surgery established to market products to the gastroenterology market, has exclusive rights to market our PillCam ESO capsule. In the first quarter of 2005, shortly after receiving FDA marketing clearance for the PillCam ESO, we conducted a promotion in the United States in which customers received a significant discount on the combined purchase of 10 PillCam ESO capsules and a DR 2.0. Many of our
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customers purchased PillCam ESO capsules through that promotion and are equipped to perform esophageal capsule endoscopy.
The lack of reimbursement and difficulties in coordination between our and InScope’s sales teams resulted in lower than expected sales of PillCam ESO capsules in 2005. To address the situation, we are working more closely with InScope in managing clinical trials for PillCam ESO and have assumed InScope’s contractual responsibility for obtaining a dedicated CPT code for the procedure, while InScope continues to have primary responsibility for obtaining reimbursement coverage from private third-party payers. In addition, we conducted joint training to our and InScope’s sales teams and adjusted the sales strategy so both sales teams now market and promote the entire PillCam platform rather than just one line of capsules. Finally, we agreed that InScope will also have rights to sell the PillCam ESO outside the gastroenterology field for use in hepatology departments or centers and emergency rooms. We believe these steps, as well as the fact that a significant portion of the installed base in the United States is already enabled to perform the PillCam ESO procedure, will result in a meaningful level of sales once a dedicated CPT code is available, which we expect to occur in the beginning of 2007. However, we do not expect significant sales of PillCam ESO capsules before that time.
Utilization.The portion of our total revenues resulting from recurring capsule sales is an important indicator for measuring our results of operations because it indicates the level of adoption by physicians of the Given System. To generate revenues from recurring capsule sales, we must increase utilization of existing Given Systems in the field. We believe that increased utilization is important to sustain our growth. We seek to increase the utilization of the Given System by a number of methods, including:
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| • | broadening the reimbursed indications, conducting clinical trials to prove the clinical benefits of capsule endoscopy compared to other diagnostic procedures of the gastrointestinal tract and educating physicians regarding the clinical benefits of the PillCam capsules; |
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| • | increased selling and marketing activities and more frequent contact with our customers to inform and educate them about our technology; and |
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| • | enhancing operating efficiencies of the system to allow physicians to incorporate capsule endoscopy into their daily practice routines. |
The increase in utilization is also key to attracting new customers to purchase and use the Given System and to maintaining our growth in revenues, as more potential customers are likely to purchase the Given System if they believe they will utilize it more frequently.
Our focus in the second half of 2005 and specifically in the fourth quarter has been to increase the level of utilization in the United States. To achieve this, we have implemented several initiatives aimed at increasing utilization at customers with low usage rates and educating our customers on how to use the ICCE consensus guidelines to maximize their utilization. As a result of these initiatives, the utilization rate in the United States grew to 1.4 capsules per system per week during the fourth quarter of 2005, a notable increase from previous periods. The results of these initiatives made it clear to us that in order to increase utilization and enable more patients to have the benefit of our technology our sales force should spend more time at physicians’ offices. As a result, we decided to increase the number of territory managers in the United States from 40 to 60 and decrease the number of accounts per sales representative.
PillCam capsule reorders. Another indicator of the adoption of the PillCam platform by physicians is the proportion of our revenues derived from reorders of PillCam capsules. In 2005, 95% of PillCam capsule unit sales resulted from reorders compared to 92.7% in 2004 and 87.7% in 2003. We believe that reorders represent a potentially stable source of revenue provided that capsule usage per installed system remains the same or increases.
The following table sets forth information for the periods indicated regarding the total numbers of PillCam SB capsules sold and the percentage of revenues derived from such sales which represent reorders:
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| 2003 |
| 2004 |
| 2005 |
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| |||
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Total number of PillCam SB capsules sold* |
| 51,400 |
| 90,400 |
| 135,500 |
Number of PillCam SB capsule sales representing reorders |
| 45,100 |
| 83,850 |
| 128,760 |
% of revenues from capsule sales that represent reorders |
| 87.7% |
| 92.7% |
| 95% |
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* Sales of PillCam ESO began only in November 2004 and reorders in 2005 were negligible primarily due to the lack of reimbursement. Accordingly, reorders of PillCam ESO are not included in the above table. |
In the first quarter of 2005, shortly after receiving FDA marketing clearance for the PillCam ESO, we conducted a promotion in the United States in which customers received a significant discount on the combined purchase of 10 PillCam ESO capsules and a DR 2.0. Many customers purchased PillCam ESO capsules through that promotion, but due to the absence of reimbursement for the esophageal capsule endoscopy procedure, their usage was limited and they did not have to replenish their inventory during 2005 and, consequently, reorders of PillCam ESO capsules in 2005 were insignificant.
Seasonality
We believe that demand for systems and capsules may be affected by seasonal factors during the summer months when physicians and administrators are more likely to postpone purchasing decisions relating to the Given System due to summer vacations, and patients are more likely to postpone less urgent diagnostic procedures until later in the year. We believe that the seasonal effect in the third quarter may become more pronounced if the portion of our revenues derived from reorders continues to grow.
Geographical breakdown
We derived 74% of our revenues in 2005 from the United States compared to 72% in 2004. The following table sets forth the geographic breakdown of our revenues for the periods indicated:
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|
| 2003 |
| 2004 |
| 2005 |
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| |||
| ||||||
United States |
| 65% |
| 72% |
| 74% |
Europe |
| 29% |
| 21% |
| 19% |
Rest of World |
| 6% |
| 7% |
| 7% |
We expect that a significant portion of our revenues in the foreseeable future will continue to come from the United States, mainly due to our ability to leverage existing market share to generate additional sales, a favorable reimbursement system and general acceptance of new technologies among physicians generally. In Japan, we experienced further delays in the regulatory process and are expecting to obtain regulatory clearance for the PillCam SB capsule during 2006.
Reimbursement
We believe that the existence of reimbursement coverage and the amount of reimbursement will continue to significantly affect the proportion of our revenues that are derived from sales in the United States. Availability of reimbursement is a key factor in the decision of physicians and healthcare providers to purchase the Given System and perform capsule endoscopy procedures. Once a payor has decided to provide reimbursement for use of the Given System, the level of reimbursement coverage provided also becomes an important key factor in a physician’s decision. We estimate that as of December 31, 2005, reimbursement for the Given System was available worldwide to approximately 346 million people of which approximately 207 million are located in the United States. In general, the process of obtaining coverage approvals has been slower outside of the United States. Prior to the beginning of 2003, all of the policies in the United States covered capsule endoscopy with PillCam SB capsules for suspected small intestinal bleeding. The number of policies covering other small bowel pathologies and indications has grown steadily since then and as of December 31, 2005 approximately 203 million people in the United States have expanded coverage for suspected Crohn’s disease, suspected small bowel tumors and other small bowel pathologies. In Europe, reimbursement for capsule endoscopy was available for approximately 110 million people as of December 31, 2005 compared to approximately 102 million people at the end of 2004, and reimbursement for expanded indications, such as Crohn’s disease and other small bowel disorders was available for approximately 87 million people at the end of 2005, similar to the number at the end of 2004.
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In addition to continuing our efforts to expand reimbursement coverage, in 2005 we made significant efforts in educating our customers regarding coverage conditions and rates. We believe that increased customer awareness and knowledge regarding these issues is important to remove any misunderstandings that may exist among physicians regarding the availability of reimbursement or coverage rates and to allow more patients the benefit of our technology as a result. We also maintain a reimbursement support line that responds to inquiries from customers on reimbursement issues.
In 2005, we also continued our efforts to establish the Given System as the first tool administered to patients with suspected disorders of the small bowel and to convince third party payors to provide reimbursement coverage for capsule endoscopy as a primary diagnostic tool, without the requirement to perform any previous diagnostic procedure, by presenting to them economic and health outcomes analyses showing the benefits of using the PillCam SB capsule as a first line tool. The peer-reviewed journal Disease Management published in its Winter 2004 issue an economic analysis of using PillCam SB capsules as a first-line tool for diagnosing patients with suspected Crohn’s disease. The study, conducted by researchers at Thomas Jefferson University, concluded that using the PillCam SB capsule as a first line procedure for detecting small bowel Crohn’s disease is less costly from a third-party payor perspective than existing diagnostic approaches. This publication supports the company’s efforts to convince payors to revise policies to cover PillCam SB capsules when performed as a first line procedure in patients with suspected Crohn’s disease. As a result of these efforts, during 2005 three private third-party payers covering approximately 11 million people in the United States issued reimbursement policies covering capsule endoscopy of the small bowel as a first line tool.
We do not expect to see a significant increase in sales of our PillCam ESO capsule until a dedicated CPT code is obtained for the esophageal capsule endoscopy. We do not expect a formal CPT code for the PillCam ESO capsule to be assigned before late 2006, effective January 2007. Beginning in the fourth quarter of 2005, we assumed from InScope the primary responsibility for the efforts to obtain a dedicated CPT code for esophageal capsule endoscopy, while InScope retained the responsibility for obtaining coverage from third-party payers.
Competition
In October 2005, Olympus Corporation launched a competing capsule endoscopy system and began sales in Europe and Australia. Based on publicly available information, Olympus is also conducting clinical trials in the United States and intends to seek FDA clearance to market its capsule endoscopy system in the United States. Olympus displayed its capsule endoscopy system in several trade shows, has won some tenders published by public hospitals in Europe, and delivered a few of its capsule endoscopy systems in Europe and Australia. In addition to Olympus, a few other companies in China and Korea began selling capsule endoscopy systems in these territories in 2005 and presented their systems in industry trade shows outside Asia.
The effect of competition from Olympus or other possible direct competitors is uncertain. On the one hand, we may lose market share, be forced to reduce the price of our products or experience delays in completing sales as a result of a longer decision making process among potential customers. On the other hand, however, we believe that the entrance of Olympus into the capsule endoscopy market further validates the market opportunity of our PillCam platform and may result in greater market acceptance of our products, which we believe have a number of advantages over competing products. First, we have a first to market advantage and have been concentrating on the development and sale of capsule endoscopy systems longer than Olympus and other potential competitors. Second, we have an advanced platform enabling us to use our line of PillCam capsules for diagnosing disorders in areas of the gastrointestinal tract in addition to the small bowel, while Olympus only has a small bowel capsule at this time and has not announced the development of other capsules. Third, we believe our technological solution, and in particular our software solution, is superior to the products introduced by competitors. Finally, we invented the field of capsule endoscopy and have a patent portfolio that we believe protects critical aspects of our technology and creates technological barriers for our competitors, which may force them to enter the market with inferior products or keep them out of certain territories all together.
Customers and customer concentration
We market and sell the Given System through a direct sales force in the United States, Germany, France, Australia and Israel. We rely on third-party distributors in international markets outside these countries. We sell the Given System primarily to hospitals, gastroenterology offices and gastroenterology outpatient facilities. In 2005, we derived $12.9 million, or 15%, of our revenues from sales to local distributors, compared to $9.8 million, or 15% in 2004. Our direct sales revenues are derived from a large number of individual customers and have a higher gross margin. In 2005, no single direct sales customer accounted for more than 0.4% of our revenues and no single distributor accounted for more than 2.7% of our
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revenues. It is our policy to require collateral or security in connection with sales to distributors. Due to these factors and the geographical dispersion of our customers, we believe that we adequately control our exposure to credit risks associated with accounts receivable. To date, we have not experienced any material bad debts and we have collected substantially all of our receivables.
Cost of revenues and gross margin
Cost of revenues consists primarily of materials, as well as manufacturing costs and related depreciation of our production facilities, the salary and related costs of our technical staff who assemble our products, royalties payable to the Office of the Chief Scientist, warranty costs and product liability insurance.
The principal factors affecting our gross margin are related to the volume of PillCam capsules we sell and the product mix, namely the proportion of our revenues derived from sales of workstations and portable data recorders, compared to sales of the PillCam capsules, as well as the percentage of our sales made by direct sales. To date, our gross margins from sales of workstations and portable data recorders have been higher than our gross margins from sales of the PillCam capsules, although we expect that our gross margins from sales of the PillCam capsule will increase due to planned cost reductions from production efficiencies and reduced costs per capsule as we manufacture larger volumes of the PillCam capsule and spread the fixed costs associated with manufacturing over a larger base of sales. In addition, our gross margin in territories in which we use our direct sales force is higher than our gross margin in territories in which we market and sell our products through third-party distributors.
Operating expenses
Research and development. Our research and development expenses consist primarily of costs associated with the design, development, pre-manufacture and testing of, and enhancements to, the Given System, salaries and related personnel costs, clinical studies and obtaining regulatory approvals, patent costs, sponsored research costs and other expenses related to our product development and research program. We expense our research and development costs as they are incurred. “Research and development expenses, net” are net of grants received from the Israeli Government through the Office of the Chief Scientist of the Ministry of Industry and Trade. We plan to continue investing in research and development, as we enhance the Given System, pursue the development of new products and perform clinical trials to drive continued expansion of reimbursement for the PillCam capsules worldwide.
Sales and marketing. Our sales and marketing expenses consist primarily of salaries, commissions to our sales force, travel and related costs for our internal sales staff and costs related to marketing activities such as medical meetings, medical training and education, trade shows, and promotional and public relations activities, as well as costs associated with development of our website. We expect that our selling and marketing expenses will increase in the future as we increase sales of PillCam capsules, further expand our sales and marketing team, expand our educational activities and expand our promotional efforts. A significant portion of the increase in marketing expenses in 2005 was attributable to the commissions we paid InScope under our exclusive sales representation, co-promotion and cooperation agreement for the marketing of the PillCam ESO video capsule. Under this agreement, we pay InScope commissions on sales in the United States at a rate of 50% commission on the sale of the PillCam ESO capsule and 10% on sales of other parts of the Given System, including workstations and data recorders. Under the terms of the agreement, as of December 31, 2005, we received from InScope milestone payments totaling $20 million and achieved the milestone entitling us for an additional $5.0 million, which we expect to receive by April 1, 2006. We may receive additional payments of up to $25.0 million, contingent on achieving additional performance milestones applicable to both parties. We record these milestone payments as a reduction of commission expenses and will recognize them ratably over the term of the agreement, which is 15 years. Subject to achieving specified minimum sales targets and meeting certain conditions, the exclusive term of the agreement will continue for up to 11 years followed by a four-year transition period during which InScope’s marketing rights will be co-exclusive with our rights.
General and administrative. Our general and administrative expenses consist primarily of salaries and related costs for our executive and administrative staff, insurance premiums, and legal, accounting and consulting expenses. We expect general and administrative expenses to increase for the foreseeable future as our operations continue to expand.
Equity-based compensation. Our operating expenses also include amortization of stock-based compensation, which is allocated among research and development expenses, marketing expenses and general and administrative expenses based on the division in which the recipient of the option grant is employed. Amortization of stock-based compensation results
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from the granting of options to employees at below market value (calculated as the difference between the exercise price and the trading price of our ordinary shares) and to consultants at below fair market value (calculated using the Black-Scholes model) per share of our ordinary shares on the dates of grant. The stock-based compensation is being amortized to operating expenses over the vesting periods of the individual options. We incurred stock-based compensation expense in respect of options granted to employees, consultants and directors in an amount of $3,000 in 2005, $78,000 in 2004 and $105,000 in 2003.
In December 2004, the Financial Accounting Standard Board, or FASB, issued a new Financial Accounting Standard, FAS 123R, that requires companies, including Given Imaging, to recognize as an expense the grant-date fair value of stock options and other equity-based compensation to employees. FAS 123R became effective on January 1, 2006 and it requires us to recognize such expenses as of that date. Based upon our projection of unvested stock options at the implementation date, we expect the adoption of FAS 123R to result in the recognition of $5.7 million additional compensation expense in 2006 and, consequently, it will have a material impact on our projected earnings per share. Effective January 1, 2006, we have adopted FAS 123R using the modified prospective method for the valuation of our equity-based compensation. Future compensation expenses will also be impacted by various factors, including the number of options granted and their fair value at the date of grant.
Financing income, net. Financing income, net consists primarily of interest earned on our cash balances and other financial investments and foreign exchange gains or losses, net of financing expenses. Financing expenses consist primarily of bank fees, currency fees and credit card commissions.
Taxes. In 2005, Israeli companies were generally subject to income tax at the corporate tax rate of 34%. This tax rate has been reduced to 31% in 2006 and is expected to be gradually reduced to a rate of 25% by 2010. However, our investment program in leasehold improvements and equipment at our manufacturing facility in Yoqneam, Israel has been granted approved enterprise status and, therefore, we are eligible for the reduced tax benefits described later in this section in “Corporate Tax.” These benefits should result in income recognized by us from our investment program being tax exempt for a specified period after we begin to report taxable income and exhaust any net operating loss carry-forwards. However, these benefits may not be applied to reduce the tax rate for any income that is not derived from sales of our product manufactured at our facility in Yoqneam, Israel. We recorded a deferred tax asset of $1.2 million as of December 31, 2005. Based upon our projections for future taxable income in our U.S. subsidiary over the periods in which the deferred tax assets are deductible, we believe that we will realize the benefits of these deductible differences. The amount of the deferred tax asset considered realizable, however, could be reduced in the near term if estimates of future taxable income during the carry forward period are reduced.
Minority share in losses (profits) of subsidiary. Minority share in losses (profits) of subsidiary consists of the losses attributed to the 49% interest of minority shareholders in our 51% controlled Japanese subsidiary, Given Imaging KK.
Critical Accounting Policies
Our significant accounting policies are more fully described in Note 1 to our consolidated financial statements. However, certain of our accounting policies are particularly important to the portrayal of our financial position and results of operations. In applying these critical accounting policies, our management uses its judgment to determine the appropriate assumptions to be used in making certain estimates. Those estimates are based on our historical experience, the terms of existing contracts, our observance of trends in the industry, information provided by our customers and information available from other outside sources, as appropriate. These estimates are subject to an inherent degree of uncertainty. With respect to our policies on revenue recognition, warranty costs and inventories, our historical experience is based principally on our operations since we commenced selling the Given System in the second quarter of 2001. Our critical accounting policies include:
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| • | Revenue recognition. We recognize revenues from sales of the Given System upon delivery, provided that collection of payment is probable, there is persuasive evidence of an arrangement, no significant obligations in respect of installation remain and the price is fixed or determinable. Our arrangements with customers and distributors do not contain product return rights. Certain of our sales contracts include a post-contract customer support, or PCS, component. We defer recognition of the revenue attributed to the PCS component of the sale and recognize revenue based on the term of the support period, which is generally one-year period following the sale. The fair value of the PCS component is based on the price at which we sell customer |
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| support contracts separately following the expiration of the PCS component included in the initial sale of the Given System. |
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| • | Warranty costs. Our products are usually covered by a one-year warranty following sale. We accrue estimated warranty costs at the time of shipment. Our warranty reserve is based on our best estimate of the amounts necessary to settle future claims on products sold as of the balance sheet date based on contractual warranty rights and our historical experience of the frequency of failures of our products which are not covered by warranties that our suppliers give to us. The amount of our estimated warranty liability is currently approximately 3.0% of the sales of such products and may change if the costs incurred due to product failures increase in the future. In 2005, our warranty costs did not exceed our reserve of $39,000. In the event of any future problems with our products, we will need to increase the amount of our reserves. |
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| • | Inventories. Inventories are stated at the lower of cost or market, cost being determined on the basis of the average cost method for raw materials and finished goods and on the basis of actual manufacturing costs for work-in-progress and sub-contractors. We write down fully the cost of components in our inventory which we discover do not perform during the production process. As we expand and enhance our manufacturing operations, the write down of amounts of non-performing components in our inventory may change. Spare parts and raw materials that are no longer used in producing our product are written down to their fair market value. In addition, we add to the cost of finished products held in inventory the overhead from our manufacturing process. |
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| • | Foreign currency translation. In preparing our consolidated financial statements, we are required to translate non-U.S. dollar amounts in our financial statements and the financial statements of our subsidiaries into U.S. dollars. Under the relevant accounting guidance the treatment of any gains or losses resulting from this translation is dependent upon our management’s determination of the functional currency of each subsidiary. The functional currency is determined based on management’s judgment and involves consideration of all relevant economic facts and circumstances affecting the subsidiary. Generally, the currency in which the subsidiary transacts a majority of its transactions, including billings, financing, payroll and other expenditures would be considered the functional currency. However, any dependency upon the parent and the nature of the subsidiary’s operations must also be considered. If any subsidiary’s functional currency is deemed to be the local currency, then any gain or loss associated with the translation of that subsidiary’s financial statements into U.S. dollars would be included as other comprehensive income. However, if the functional currency of a subsidiary is deemed to be the U.S. dollar then any gain or loss associated with the translation of these financial statements would be included within our statement of operations. Based on our assessment of the factors discussed above, we consider the U.S. dollar to be the functional currency for each of our subsidiaries. Therefore, all gains and losses from translations are recorded in our statement of operations and are included in determining our net income. In the event that we determine that the functional currency of these or any future subsidiaries is not the U.S. dollar, any foreign currency gains or losses would not affect our net income for the year presented. |
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| • | Accounting for income taxes. As part of the process of preparing our consolidated financial statements we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process requires us to estimate our actual current tax exposure and make an assessment of temporary differences resulting from differing treatment of items, for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheet. We must then assess the likelihood that our deferred tax assets will be recovered and, to the extent we believe that recovery is not likely, we must establish a valuation allowance. To the extent we establish a valuation allowance or increase this allowance in a period, we must include an expense within the tax provision in the statement of operations. Significant management judgment is required in determining our deferred tax assets and liabilities and any valuation allowance recorded against our net deferred tax assets. We have recorded a deferred tax asset of $1.2 million as of December 31, 2005. Based upon our projections for future taxable income in our US subsidiary over the periods in which the deferred tax assets are deductible, we believe that we will realize the benefits of these deductible differences. The amount of the deferred tax asset considered realizable, however, could be reduced in the near term if estimates of future taxable income during the carry forward period are reduced. |
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Results of Operations
Our consolidated statements of operations data for the years ended December 31, 2003, 2004 and 2005 are set forth below:
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| Year ended December 31, |
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| 2003 |
| 2004 |
| 2005 |
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Statements of Operations Data: |
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Revenues |
| $ | 40,539 |
| $ | 65,020 |
| $ | 86,776 |
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Cost of revenues |
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| 13,551 |
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| 17,734 |
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| 22,070 |
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Gross profit |
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| 26,988 |
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| 47,286 |
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| 64,706 |
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Operating expenses: |
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Research and development, gross |
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| (7,037 | ) |
| (7,363 | ) |
| (8,833 | ) |
Royalty-bearing participation |
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| 1,303 |
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| 1,140 |
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| 1,244 |
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Research and development, net |
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| (5,734 | ) |
| (6,223 | ) |
| (7,589 | ) |
Sales and marketing |
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| (26,804 | ) |
| (33,652 | ) |
| (43,281 | ) |
General and administrative |
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| (5,312 | ) |
| (6,916 | ) |
| (9,657 | ) |
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Total operating expenses |
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| (37,850 | ) |
| (46,791 | ) |
| (60,527 | ) |
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Operating profit (loss) |
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| (10,862 | ) |
| 495 |
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| 4,179 |
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Financing income, net |
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| 995 |
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| 956 |
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| 762 |
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Other expenses, net |
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| — |
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| — |
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| — |
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Profit (loss) before taxes on income |
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| (9,867 | ) |
| 1,451 |
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| 4,941 |
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Taxes on income |
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| — |
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| 690 |
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| 286 |
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Profit (loss) before minority share |
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| (9,867 | ) |
| 2,141 |
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| 5,227 |
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Minority share in (profits) losses of subsidiary |
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| 258 |
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| 747 |
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| 1,116 |
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Net profit (loss) |
| $ | (9,609 | ) | $ | 2,888 |
| $ | 6,343 |
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Our historical operating results as a percentage of net revenues for the years ended December 31, 2003, 2004 and 2005 are set forth below:
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| Year ended December 31, |
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| 2003 |
| 2004 |
| 2005 |
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Statements of Operations Data: |
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Revenues |
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| 100.0 | % |
| 100.0 | % |
| 100.0 | % |
Cost of revenues |
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| 33.4 |
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| 27.3 |
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| 25.4 |
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Gross profit |
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| 66.6 |
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| 72.7 |
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| 74.6 |
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Operating expenses: |
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Research and development, gross |
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| 17.4 |
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| 11.3 |
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| 10.2 |
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Royalty-bearing participation |
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| 3.2 |
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| 1.7 |
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| 1.4 |
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Research and development, net |
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| 14.2 |
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| 9.6 |
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| 8.8 |
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Sales and marketing |
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| 66.1 |
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| 51.8 |
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| 49.9 |
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General and administrative |
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| 13.1 |
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| 10.6 |
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| 11.1 |
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Total operating expenses |
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| 93.4 |
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| 72.0 |
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| 69.8 |
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Operating profit (loss) |
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| (26.8 | ) |
| 0.7 |
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| 4.8 |
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Financing income, net |
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| 2.5 |
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| 1.5 |
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| 0.9 |
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Other expenses, net |
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| — |
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| — |
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| — |
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Profit (loss) before taxes on income |
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| (24.3 | ) |
| 2.2 |
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| 5.7 |
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Taxes on income |
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| — |
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| 1.1 |
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| 0.3 |
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Profit (loss) before minority share |
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| (24.3 | ) |
| 3.3 |
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| 6.0 |
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Minority share in (profits) losses of subsidiary |
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| 0.6 |
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| 1.1 |
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| 1.3 |
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Net profit (loss) |
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| (23.7 | ) |
| 4.4 |
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| 7.3 |
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Year Ended December 31, 2005 compared to Year Ended December 31, 2004
Revenues. Revenues increased by $21.8 million, or 33.5%, to $86.8 million in 2005 from $65.0 million in 2004. This increase was primarily due to an increase of $20.9 million, or 50.2%, in PillCam SB capsule sales, an increase of $2.6 million in PillCam ESO sales and an increase of $0.4 million in service contract revenues. We estimate that all of the increase in sales of the PillCam SB capsule was attributable to increases in capsule sales. In addition, we estimate that 83% of the $2.6 million increase in sales of the PillCam ESO capsule was attributable to increases in product sales and approximately 17% was attributable to the higher average selling price of the PillCam ESO capsules compared to 2004. These increases were partially offset by a decrease of $2.1 million, or 10.7%, in workstation and data recorder sales. We estimate that approximately 19% of the decrease was attributable to lower product sales, and 81% of the decrease was attributable to lower average selling prices resulting mainly from promotion activities during the year and an increase of second systems sold to existing customers, which were sold at a significantly lower price. These increases in sales of PillCam capsules were also partially offset by approximately $0.1 million, or 0.7%, due to reduced selling prices resulting from changes in exchange rates between the U.S. dollar and other currencies.
Cost of revenues and gross margin. Cost of revenues increased to $22.1 million in 2005 compared to $17.7 million in 2004, but was lower in 2005 as a percentage of total revenues than in 2004. Consequently, gross margin was 74.6% in 2005 compared to 72.7% in 2004. The improvement in gross margin is attributable mainly to our efforts to reduce manufacturing costs by using advanced and lower cost components, by implementing more efficiency measures in our manufacturing process, and by terminating our technical services agreement with Pemstar and the resulting reduction in the scope of manufacturing and technical services Pemstar provides us and our payments for these services. The increase in quantities of capsules manufactured and sold during the year had an additional positive effect on gross margin. The improvement in gross margin was partially offset by an increase of $0.7 million in royalties payable to the Office of the Chief Scientist, or OCS, and an increase of $1.0 million related to manufacturing expenses, including depreciation.
Research and development. Gross research and development expenses increased by $1.4 million, or 20.0%, to $8.8 million in 2005 from $7.4 million in 2004. This increase was due mainly to a $0.5 million increase related to additional
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personnel and employee-related expenses, an increase of $0.5 million in investments in R&D projects and to an increase of $0.4 million in expenses related to patent registration, maintenance and depreciation.
Research and development expenses, net of grants received from OCS, totaled $7.6 million in 2005, compared to $6.2 million in 2004. Grants totaling $1.2 million were received in 2005 compared to grants totaling $1.1 million received in 2004. In both years, the grants were received for new products under development.
Sales and marketing. Sales and marketing expenses increased by $9.6 million, or 28.6%, to $43.3 million in 2005 from $33.7 million in 2004. This increase, which was in line with our growth in revenues, consisted primarily of an increase of $4.0 million related to the hiring of additional personnel, increase in salaries and other employment-related expenses, mainly in the United States, the initial payment of $2.2 million in commissions to Ethicon Endo-Surgery for sales of our PillCam ESO capsule and ancillary products, an increase of $0.3 million due to participation in trade shows and other marketing events, an increase of $0.6 million due to clinical, regulatory and marketing activities in Japan of our Japanese subsidiary, Given Imaging K.K., an increase of $0.4 in legal and accounting expenses of our U.S. subsidiary, an increase of $0.7 million in payments to outside service providers at our subsidiaries and a $1.8 million provision, before tax effect, for uncollectible sales tax at our U.S. subsidiary.
General and administrative. General and administrative expenses increased by $2.8 million, or 39.6%, to $9.7 million in 2005 from $6.9 million in 2004. This increase was primarily due to an increase of $0.7 million in legal and other professional expenses related to the investigation of our failure to collect and remit sales tax in the United States and the implementation of remedial measures, as more fully described under Item 15 below, an increase of $0.7 million in salaries and fringe benefits, resulting mainly from turnover in management, and an increase of $0.6 million in investments in information systems. Other general and administrative expenses increased by $0.8 million.
Financing income, net. Financing income, net, decreased by $0.2 million, or 20.3% to $0.8 million in 2005 from $1.0 million in 2004. Financing income in 2005 was generated from interest income of $2.4 million from short-term deposits and from marketable securities, offset by currency translation losses of $0.8 million, interest on sales tax of $0.5 million and bank expenses of $0.2 million.
Taxes on income.We had taxes on income of $0.3 million in 2005, compared to taxes on income of $0.7 million in 2004. This taxable income was derived primarily from the release of part of the valuation allowance on deferred tax assets in our U.S. subsidiary due to our belief that it is more likely than not that this benefit will be realized by this subsidiary.
Minority share in losses of subsidiary. Minority share in losses of a subsidiary, Given Imaging K.K, was $1.1 million in 2005 compared to minority share in losses of subsidiary of $0.7 million in 2004. Given Imaging K.K. did not generate any significant revenues in 2005 because the Given System has not yet been approved for marketing by the relevant regulatory authority in Japan.
Year Ended December 31, 2004 compared to Year Ended December 31, 2003
Revenues. Revenues increased by $24.5 million, or 60.4%, to $65 million in 2004 from $40.5 million in 2003. This increase was primarily due to an increase of $20.7 million, or 91%, in capsule sales, an increase of $2.8 million, or 17.6%, in workstation and data recorder sales, and an increase of $0.9 million, or 52.4%, in service contract revenues. We estimate that approximately 92.6% of the increase of $24.5 million in revenues was attributable to the increase in product sales, approximately 6.2% of the increase was attributable to currency gains due to the strengthening of the Euro and the Australian dollar against the U.S. dollar, and approximately 1.1% of the increase was attributable to higher average selling prices resulting from a higher percentage of direct sales compared to sales through distributors and an increase in selling prices during the year.
Cost of revenues and gross margin. Cost of revenues increased by $4.2 million, or 30.9%, to $17.7 million in 2004 from $13.6 million in 2003, compared to an increase of 60.4% in revenues during the same period. This increase occurred due to the increase in sales of the PillCam SB capsule in 2004 and primarily resulted from an increase of $3.1 million related to the cost of materials and components, an increase of $1.2 related to manufacturing expenses, including depreciation, offset by a decrease of $0.1 in royalties payable to the Office of the Chief Scientist. The smaller increase in cost of revenues compared to revenues resulted primarily from a decrease in the cost of components for the Given System, an increase in manufacturing volumes from the smaller quantities we had manufactured in 2003 and an increase in manufacturing efficiencies. Gross margin was 72.7% in 2004 compared to 66.6% in 2003.
-49-
Research and development. Research and development expenses increased by $0.4 million, or 4.6%, to $7.4 million in 2004 from $7.0 million in 2003. This increase was primarily due to $0.3 million related to regulatory compliance and quality assurance processes related to the launch of our new products in 2004.
Research and development expenses, net of grants received from the Office of the Chief Scientist, increased by $0.5 million, or 8.5%, to $6.2 million in 2004 from $5.7 million in 2003. Grants totaling $1.1 million were received in 2004 compared to grants totaling $1.3 million received in 2003. In both years, the grants were received for new products under development.
Sales and marketing. Sales and marketing expenses increased by $6.9 million, or 25.5%, to $33.7 million in 2004 from $26.8 million in 2003. This increase primarily consists of an increase of $3.0 million due to the hiring of additional sales and marketing personnel, principally in the United States, and an increase in commissions paid to these personnel, the initial payment of $0.8 million paid as commission to Ethicon Endo-Surgery for sales of our new PillCam ESO capsule, an increase of $0.7 million due to participation in trade shows and other marketing events, an increase of $0.6 million due to clinical, regulatory and marketing activities in Japan of our Japanese subsidiary, Given Imaging K.K. and a $0.4 million provision for the misappropriation of funds at our U.S. subsidiary.
General and administrative. General and administrative expenses increased by $1.6 million, or 30.2%, to $6.9 million in 2004 from $5.3 million in 2003. This increase was primarily due to an increase of $0.7 million related to consultants and professional fees, $0.3 million related to salaries and related expenses, $0.4 million related to increased D&O insurance costs and other miscellaneous general and administrative expenses and a $0.2 million provision for the investigation costs related to the misappropriation of funds at our U.S. subsidiary.
Financing income, net. Financing income, net, remained at the same level as in 2003 at about $1.0 million. Financing income in 2004 was derived primarily from interest income of $0.7 million and currency translation gains of $0.4 million, offset by bank expenses of $0.2 million. Financing income in 2003 was derived primarily from currency translation gains of $0.8 million, interest income of $0.3 million offset by bank expenses of $0.1 million.
Taxes on income.We had taxes on income of $0.7 million in 2004, compared to no taxes on income in 2003. This taxable income was derived primarily from the release of part of the valuation allowance on deferred tax assets in our US subsidiary due to our belief that it is more likely than not that this benefit will be realized by this subsidiary.
Minority share in losses (profits) of subsidiary. Minority share in losses of subsidiary was $0.7 million in 2004 compared to minority share in losses of subsidiary of $0.3 million in 2003. Given Imaging K.K. did not derive any revenues in 2004.
Misappropriation of funds in U.S. subsidiary.In connection with the preparation and audit of our 2004 financial statements, we discovered that a former employee of our U.S. subsidiary had misappropriated approximately $0.4 million during the period 2002 through 2004, with the bulk of the misappropriation taking place in 2004. We undertook an investigation, which was completed in February 2005, with the assistance of independent legal counsel and forensic accountants. The investigators did not uncover any evidence that any other employee knowingly participated in the misappropriation. Our financial statements for the year ended December 31, 2004 include a provision of $0.6 million, which we estimated would be adequate to cover substantially all of the misappropriated amount and the costs of investigation. Based on the amount and nature of the misappropriation, we believe that it did not have a material effect on our results of operations for the years ended December 31, 2002 and 2003. In March 2005, we received $0.3 million in partial restitution of the misappropriated funds and another $0.1 million was received in June 2005.
Quarterly Results of Operations
We believe that many of our customers delay purchasing systems until the end of the fiscal quarter because they believe this will enable them to negotiate more favorable terms. Therefore, revenues from system sales are frequently concentrated at the end of each fiscal quarter making it difficult for us to determine the revenues for each quarter until its end and resulting in lower than expected quarterly revenues if external or other events cause a large number of potential customers to defer their purchasing decisions even for a short period of time. To date, revenues from sales of the PillCam capsules have been spread more evenly throughout the quarter. In addition, we believe that demand for systems and capsules is affected by seasonal factors during the summer months when physicians and administrators are more likely to postpone purchasing decisions relating to the Given System due to summer vacations, and patients are more likely to
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postpone less urgent diagnostic procedures until later in the year. We believe that the seasonal effect in the third quarter may become more pronounced assuming the portion of our revenues derived from reorders continues to grow.
The tables below set forth unaudited consolidated statement of operations data in dollars for each of the eight consecutive quarters ended December 31, 2005. In management’s opinion, the unaudited consolidated financial statements have been prepared on the same basis as our audited consolidated financial statements contained elsewhere in this Form 20-F and include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of such financial information.
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| Three months ended |
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| March 31, |
| June 30, |
| Sept. 30, |
| Dec. 31, |
| March 31, |
| June 30, |
| Sept. 30, |
| Dec. 31, |
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| (unaudited) |
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| (in thousands) |
| ||||||||||||||||||||||
Revenue |
| $ | 12,751 |
| $ | 15,462 |
| $ | 14,594 |
| $ | 22,213 |
| $ | 22,009 |
| $ | 20,526 |
| $ | 19,841 |
| $ | 24,400 |
|
Cost of revenues |
|
| (3,736 | ) |
| (3,782 | ) |
| (3,636 | ) |
| (6,580 | ) |
| (6,401 | ) |
| (5,051 | ) |
| (4,618 | ) |
| (6,000 | ) |
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| ||||||||||||||||
Gross profit |
|
| 9,015 |
|
| 11,680 |
|
| 10,958 |
|
| 15,633 |
|
| 15,608 |
|
| 15,475 |
|
| 15,223 |
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| 18,400 |
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Operating expenses: |
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Research and development, net |
|
| (1,621 | ) |
| (1,302 | ) |
| (1,831 | ) |
| (1,469 | ) |
| (1,903 | ) |
| (1,617 | ) |
| (1,687 | ) |
| (2,382 | ) |
Sales and marketing |
|
| (7,019 | ) |
| (7,864 | ) |
| (7,705 | ) |
| (11,064 | ) |
| (10,812 | ) |
| (11,637 | ) |
| (9,778 | ) |
| (11,054 | ) |
General and administrative |
|
| (1,208 | ) |
| (1,758 | ) |
| (1,678 | ) |
| (2,272 | ) |
| (2,039 | ) |
| (2,435 | ) |
| (2,539 | ) |
| (2,644 | ) |
Total operating expenses |
|
| (9,848 | ) |
| (10,924 | ) |
| (11,214 | ) |
| (14,805 | ) |
| (14,754 | ) |
| (15,689 | ) |
| (14,004 | ) |
| (16,080 | ) |
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|
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| ||||||||||||||||
Operating profit (loss) |
|
| (833 | ) |
| 756 |
|
| (256 | ) |
| 828 |
|
| 854 |
|
| (214 | ) |
| 1,219 |
|
| 2,320 |
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|
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| ||||||||||||||||
Financing income (expenses), net |
|
| 61 |
|
| (124 | ) |
| 165 |
|
| 854 |
|
| 51 |
|
| (415 | ) |
| 519 |
|
| 607 |
|
Taxes on income |
|
| — |
|
| — |
|
| — |
|
| 690 |
|
| 74 |
|
| (16 | ) |
| (53 | ) |
| 281 |
|
Minority share in losses of subsidiary |
|
| 187 |
|
| 289 |
|
| 205 |
|
| 66 |
|
| 269 |
|
| 281 |
|
| 253 |
|
| 313 |
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Net profit (loss) |
| $ | (585 | ) | $ | 921 |
| $ | 114 |
| $ | 2,438 |
| $ | 1,248 |
| $ | (364 | ) | $ | 1,938 |
| $ | 3,521 |
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Impact of Currency Fluctuations
Currency Risk. Our sales to our customers in 2005 were denominated 76.7% in U.S. dollars, 19% in Euros and 0.2% in other currencies, depending on the location of the customer or the distributor used to fulfill our customers’ orders. In 2005, 26% of our expenses, principally salaries and related personnel expenses were denominated in shekels, and we expect this level of shekel expenses to continue for the foreseeable future. If the value of a currency in which our revenues are denominated weakens against the value of a currency in which our expenses are denominated, there will be a negative impact on the profit margin for sales of the Given System. In addition, as of December 31, 2005, 11.4% of our cash and cash equivalents were denominated in currencies other than U.S. dollar and we are therefore subject to the risk of exchange rate fluctuations between the Yen, the New Israeli Shekel, the Australian dollar and the Euro. In 2005, we covered an expected surplus of Euros against the devaluation of the Euro compared to the U.S. dollar by purchasing options to sell Euros and buy U.S. dollars at a pre-determined price. In addition, we have used different hedging tools in order to minimize the effect of currency fluctuations on our income. If we wish to maintain the dollar-denominated value of our product in non-U.S. markets, devaluation in the local currencies of our customers relative to the U.S. dollar could cause our customers to cancel or decrease orders or default on payment.
Translation Effect. The U.S. dollar is our functional currency, and our consolidated financial statements included elsewhere in this annual report are prepared in U.S. dollars.
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B. | LIQUIDITY AND CAPITAL RESOURCES |
Since our inception and until we commenced sales in 2001, we financed our operations primarily with the proceeds of sales of our equity securities. From our inception through December 31, 2005, we raised a total of $145.6 million through public and private sales of our equity securities. As of December 31, 2005, we had $65.3 million in cash and cash
-51-
equivalents, and our working capital, which we calculate by subtracting our current liabilities from our current assets, was $86.2 million. As of December 31, 2005, we had an additional amount of $21.9 million invested in marketable securities.
We believe that our cash reserves and expected cash from operations will be sufficient to meet our anticipated cash needs for working capital and capital expenditures in 2006. We have also applied to the Office of Chief Scientist for a grant to support our research and development activities in 2006.
The following table sets forth the components of our cash flows for the periods indicated:
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| Year ended December 31, |
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| 2003 |
| 2004 |
| 2005 |
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| (in thousands) |
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Net cash provided by (used in) operating activities |
| $ | (8,548 | ) | $ | 11,868 |
| $ | 13,488 |
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Net cash used in investing activities |
|
| (2,647 | ) |
| (3,230 | ) |
| (29,883 | )(1) |
Net cash provided by financing activities |
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| 653 |
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| 46,816 |
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| 1,069 |
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Effect of exchange rate changes on cash |
|
| 117 |
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| 40 |
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| (179 | ) |
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Increase (decease) in cash and cash equivalents |
| $ | (10,425 | ) | $ | 55,494 |
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| (15,505 | ) |
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(1) Includes $21.9 million invested in marketable securities.
Net cash derived from operating activities was $13.5 million in 2005, compared to $11.9 million in 2004 and $8.5 million used in 2003. The increase in net cash in 2005 resulted primarily from net income of $6.3 million, a $3.4 million improvement compared to the $2.9 million net income in 2004, and an increase of $2.4 million in inventories and of $5.8 in accounts payable due to increased sales and operating expenses during the year. The increase in net cash derived from operations in 2005 was partially offset by an increase of $6.1 million in our accounts receivable due to increased sales and a longer collection cycle in the United States due to our efforts to correct our errors in sales tax collection and an increase of $5.0 million in other accounts receivable due to accounting for the milestone achieved in 2005 but payable by Ethicon Endo-Surgery on or before April 1, 2006. The increase of $12.6 million in deferred income during 2005 resulted primarily from the recording of the $10.0 million milestone payment received from Ethicon Endo-Surgery during the year. The increase in cash in 2004 compared to 2003 resulted primarily from net income of $2.9 million in 2004, a $12.5 million improvement compared to the $9.6 million loss in 2003, the receipt in 2004 of the $10 million milestone payment from Ethicon Endo-Surgery following FDA clearance for our new PillCam ESO capsule, and an increase of $7.1 million in our accounts payable, compared to a decrease in our accounts payable of $4.7 million in 2003. The increase in net cash derived from operations was offset by an increase of $5.6 million in inventories, compared to a decrease in inventories of $1.9 million in 2003, and an increase of $5.3 million in our accounts receivable. The increase in inventories was primarily as a result of the build up of inventory to support increased sales of our products and the launch of our PillCam ESO, DR 2.0 and Rapid 3.0 and our increase in inventory of strategic components for our products.
Net cash used in investing activities was $29.9 million in 2005 compared to $3.2 million in 2004 and $2.6 million in 2003. Investing activities in 2005 consisted primarily of investing in marketable securities of $21.9 million and $7.9 million in capital expenditures and the capitalization of costs associated with our patents and trademarks. Our investments in 2005 consisted primarily of $2.3 million in machinery and equipment, $2.8 million in new real property leases of our facilities, $0.9 million in computers and software, $0.5 million in office furniture and equipment and $0.9 million in patents. Our capital investments in 2004 consisted primarily of $1.4 million in machinery and equipment, $0.3 million in a new real property lease of our facilities and $0.8 million in patents. Our capital investments in 2003 consisted primarily of $1.5 million in machinery and equipment and $0.5 million in patents. We expect to continue investing significant amounts in 2006 in order to support our growth plans. We intend to provide additional equity financing of approximately $9.0 million to finance operations of our Japanese subsidiary Given Imaging K.K during the next three years. Our portion of the funding will be paid out of our cash reserves.
Net cash provided by financing activities was $1.1 million in 2005, compared to $46.8 million in 2004, and $0.7 million in 2003. In 2005, net cash provided by financing activities resulted primarily from proceeds from the exercise of employee stock options. The increase from 2003 to 2004 was primarily attributable to the completion of our follow-on public equity offering in June 2004 in which we raised net proceeds of $44.3 million. In 2003, net cash provided by financing activities resulted primarily from proceeds from the exercise of employee stock options.
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In 2005, cash provided by operating activities, net of cash used in investing activities and excluding the investment in marketable securities, was approximately $5.6 million.
The following table of our material contractual obligations as of December 31, 2005, summarizes the aggregate effect that these obligations are expected to have on our cash flows in the periods indicated:
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| Payments due by period |
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Contractual obligations |
| Total |
| 2006 |
| 2007 |
| 2008 |
| 2009 |
| Later Years |
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| (in thousands) |
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Capital lease(1) |
| $ | 41 |
| $ | 11 |
| $ | 12 |
| $ | 18 |
| $ | — |
| $ | — |
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Operating leases(2) |
|
| 15,268 |
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| 2,353 |
|
| 2,271 |
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| 1,907 |
|
| 1,582 |
|
| 7,155 |
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| ||||||||||||
Total |
| $ | 15,309 |
| $ | 2,364 |
| $ | 2,283 |
| $ | 1,925 |
| $ | 1,582 |
| $ | 7,155 |
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(1) | Consists of capital lease for motor vehicles. |
(2) | Consists of operating leases for office, manufacturing space and motor vehicles. |
See Note 8 to our consolidated financial statements included in this annual report for our royalty commitments to the Office of the Chief Scientist and our obligations in connection with our supply agreement with Zarlink Semiconductor.
Market Risk
We invest our excess cash in bank accounts and deposits located with a number of banks inside and outside of Israel, principally in Europe. These instruments have maturities of three months or less when acquired. Due to the short-term nature of these investments, we believe that there is no material exposure to interest rate risk arising from our investments. We invest some of the excess cash we have in longer-term financial instruments in order to achieve a higher yield. Based on our investment policy, such instruments are highly rated by rating agencies and therefore we believe that there is no material exposure to the principal amount nor to interest rate risks arising from these longer-term investments.
Corporate Tax
Israeli companies were generally subject to income tax at the corporate rate of 34% in 2005. This tax rate has been reduced to 31% in 2006 and is expected to be gradually reduced to a rate of 25% by 2010 As of December 31, 2005, our net operating loss carry-forwards for Israeli tax purposes amounted to $14 million. Under Israeli law, net operating losses can be carried forward indefinitely and offset against certain future taxable income.
In addition, our investment program in equipment and leasehold improvements at our manufacturing facility in Yoqneam, Israel has been granted approved enterprise status and we are, therefore, eligible for tax benefits under the Law for the Encouragement of Capital Investments, 1959. Subject to compliance with applicable requirements, the portion of our undistributed income derived from our approved enterprise program will be exempt from corporate tax for a period of ten years commencing in the first year in which we generate taxable income. The ten-year period may not extend beyond the later of 14 years from the year in which approval was granted or 12 years from the year in which operations or production by the enterprise began. We received our approved enterprise status in 1999. As we continue to expand our production facilities, we have applied, and received, in 2002, an approval for the expansion of our production facilities during the subsequent two years under the alternative benefits track. The investments amounted to $3.5 million and were invested in Yoqneam, Israel. The plan is subject to certain terms set forth in the approval letter. In October 2004, we submitted an additional application in an amount of $10.1 million for additional expansion of our production facilities in the foreseeable future. As a result of a recent reform in the Investments Law, the grant of tax benefits in respect of future capital investments, including the proposed investments for which we submitted an application in October 2004, is now under the discretion of the Israeli income tax authorities. According to this reform, instead of filing application for tax benefits with the Investment Center, the administrator of the Investment Law, companies are allowed to claim the tax benefits on their corporate tax returns subject to fulfilling certain conditions, without prior approval and without submitting any reports to the Investment Center. Audits of any claim for tax benefits will take place by the Israeli income tax authority as part of the general tax audits it may perform from time to time. We cannot assure you that we will receive approvals in the future for approved enterprise status or that tax benefits for approved enterprises will continue at current levels or at all.
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The period of tax benefits for our approved enterprise programs has not yet commenced because we are yet to realize taxable income. We expect that a substantial portion of the income we derive in the future will be from this approved enterprise program. These benefits should result in income recognized by us being tax exempt for a specified period after we begin to report taxable income and exhaust any net operating loss carry-forwards. These benefits may not be applied to reduce the tax rate for any income that is not derived from sales of our product manufactured at our facility in Yoqneam, Israel.
Our approved enterprise status imposes certain requirements on us, such as the location of our manufacturing facility, location of certain subcontractors and the extent to which we may outsource portions of our production process. These requirements limit our freedom to pursue production arrangements that may otherwise be more favorable to us if we want to maintain these tax benefits. Therefore, we may be required to weigh the possible loss of these benefits against other benefits from pursuing arrangements which are not, or which may not be considered by the relevant Israeli authorities to be, in compliance with these requirements. If we do not meet these requirements, the law permits the authorities to cancel the tax benefits retroactively.
As of December 31, 2005, the net operating loss carry-forwards of our subsidiaries for tax purposes amounted to $22 million. A subsidiary’s net operating loss carry-forwards for tax purposes relating to a jurisdiction are generally available to offset future taxable income of such subsidiary in that jurisdiction, subject to applicable expiration dates.
Government Grants
Our research and development efforts have been financed, in part, through grants from the Office of the Chief Scientist of the Israeli Ministry of Industry, Trade and Labor. We have applied and received approval for grants totaling $4.9 million from the Office of the Chief Scientist, including $1.2 million, which was provided by the Office of Chief Scientist to support our 2005 research and development.
Under Israeli law, royalties on the revenues derived from sales of the Given System or any part of the Given System are payable to the Israeli government, generally at the rate of 3.0% during the first three years and 3.5% beginning with the fourth year. The maximum aggregate royalties paid generally cannot exceed 100%. The amount bears interest equal to the 12-month London Interbank Offered Rate (LIBOR) applicable to dollar deposits that is published on the first business day of each calendar year. Royalties are paid on our consolidated revenues.
The government of Israel does not own proprietary rights in technology developed using its funding and there is no restriction on the export of products manufactured using the technology. The technology is, however, subject to other legal restrictions, including the obligation to manufacture the product based on this technology in Israel and to obtain the Office of the Chief Scientist’s consent to transfer the technology or product rights to a third party. These restrictions may impair our ability to outsource manufacturing or enter into similar arrangements for those products or technologies and they continue to apply even after we have paid the full amount of royalties payable for the grants. If the Office of the Chief Scientist consents to the manufacture of the products outside Israel, the regulations allow the Office of the Chief Scientist to require the payment of increased royalties, ranging from 120% to 300% of the amount of the grant plus interest, depending on the percentage of foreign manufacture. If the manufacturing is performed outside of Israel by us, the rate of royalties payable by us on revenues from the sale of products manufactured outside of Israel will increase by 1% over the regular rates. If the manufacturing is performed outside of Israel by a third party, the rate of royalties payable by us on those revenues will be a percentage equal to the percentage of our total investment in the Given System that was funded by grants. Following our request, the Office of the Chief Scientist has approved the manufacture of limited quantities of the PillCam capsules using the back-up production line that we have installed at Pemstar’s facilities in Ireland without increasing royalty rates.
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C. | RESEARCH AND DEVELOPMENT |
Our research and development expenditures, excluding grants received from the Office of the Chief Scientist, were $8.8 million for the year ended December 31, 2005, $7.4 million for the year ended December 31, 2004 and $7.0 million for the year ended December 31, 2003. Our research and development activities are conducted by our research and development and regulatory affairs staff primarily at our headquarters in Israel. As of December 31, 2005, our research and development, clinical and regulatory and engineering staff consisted of 61 employees. Our research and development efforts are focused primarily on developing new capsules to be used in the detection of abnormalities in the stomach and the colon, improvements to our existing products and new technologies for future expansion of our product offering. In 2005, we
-54-
completed the development of the newest version of our RAPID software, RAPID 4.0, and received FDA clearance to market this product in December 2005. In December 2005 we also completed improvements to our AGILE patency system and submitted it to the FDA for clearance. In addition, during 2005, we made significant progress in the development of the PillCam Colon capsule for diagnosis of disorders in the colon and began initial clinical trials with this capsule. If clinical trials results are positive, we intend to complete the development and submit the PillCam Colon capsule for FDA clearance and launch it in Europe during 2006.
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D. | TREND INFORMATION |
See discussion in Parts A and B of Item 5 “Operating Results and Financial Review and Prospects.”
ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES
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A. | DIRECTORS AND SENIOR MANAGEMENT |
Our executive officers and directors and their ages and positions as of the date of this annual report are as follows:
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Name |
| Age |
| Position | ||
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| |||
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| ||
Executive Officers: |
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| ||
Gavriel D. Meron(1)(2) |
| 53 |
| President, Chief Executive Officer and Director | ||
Kevin Rubey |
| 48 |
| Chief Operations Officer | ||
Yuval Yanai |
| 53 |
| Chief Financial Officer | ||
Ehud Har-Chen |
| 60 |
| Senior Vice President — Human Resources | ||
Christopher Rowland |
| 43 |
| Senior Vice President — Business Development and Corporate Strategy | ||
Shoshana Friedman |
| 52 |
| Senior Vice President — Regulatory and Clinical Affairs | ||
Mark Gilreath |
| 40 |
| Senior Vice President — Global Marketing | ||
Manfred Gehrtz |
| 55 |
| President, International | ||
Yoram Ashery (3) |
| 40 |
| Corporate Vice President – Colon Products | ||
Sharon Koninsky (3) |
| 34 |
| Corporate Director, Office of the CEO | ||
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|
| ||
Directors: |
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|
|
| ||
Doron Birger (2)(4) |
| 54 |
| Chairman of the Board of Directors | ||
James M. Cornelius (2)(4)(5)(6) |
| 62 |
| Director | ||
Michael Grobstein (2)(4)(5)(6) |
| 63 |
| Director | ||
Jonathan Silverstein (4) |
| 38 |
| Director | ||
Chen Barir (5) |
| 47 |
| Director | ||
Eyal Lifschitz (5) |
| 37 |
| Director | ||
Prof. Anat Loewenstein |
| 47 |
| Director |
Gavriel D. Meron founded us in 1998, and has served as our President and Chief Executive Officer since that time. He has served as a director since August 2002. Prior to founding us, from 1995 to 1997, Mr. Meron served as Chief Executive Officer of APPLItec Ltd., an Israeli designer and manufacturer of video cameras and systems primarily for the
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medical endoscopy market. From 1993 to 1995, Mr. Meron was General Manager and Chief Operating Officer of Optibase Ltd., an Israeli manufacturer of hardware and software products that compress and playback digital video and sound for multimedia applications. From 1988 to 1993, Mr. Meron was Chief Financial Officer of InterPharm Laboratories Ltd., an Israeli company formerly listed on the Nasdaq National Market and a subsidiary of the Ares-Serono Group, a Swiss ethical pharmaceutical company. From 1983 to 1987, Mr. Meron held various management positions at the Tadiran Group, an Israeli telecommunications and semiconductor manufacturer. From 1973 to 1983, Mr. Meron served as an officer in the Israeli army overseeing the budgets of a range of military industries. Mr. Meron holds an M.B.A. from Tel Aviv University and a B.A. in economics and statistics from the Hebrew University, Jerusalem.
Kevin Rubey has served as our Chief Operations Officer since June 2001. Prior to joining us, from 1998 to May 2001, Mr. Rubey worked at Eastman Kodak Company, a consumer and professional photographic and information imaging company where he led global manufacturing and operations for the Health Imaging Business Unit. From 1996 to 1998, Mr. Rubey was Manufacturing Director of the Medical Imaging Business Unit of Imation Corporation, a U.S. information technology company specializing in data storage and color image management. Prior to that, from 1977 to 1996, Mr. Rubey worked at the 3M Corporation in a variety of positions in the health, consumer and information technology businesses. Mr. Rubey holds a B.Sc. in mechanical engineering and an M.B.A. from the University of Minnesota.
Yuval Yanai has served as our Chief Financial Officer since September 1, 2005. From October 2000 through August 2005, he served as Senior Vice President and Chief Financial Officer of Koor Industries Ltd., one of Israel’s largest holding corporations. Prior to that, from April 1998 to September 2000 he served as Senior Vice President and Chief Financial Officer of NICE Systems Ltd., an Israeli global provider of Insight from Interactions, and from 1991 to April 1998, he was the Vice President, Finance and Chief Financial Officer of Elscint Ltd., a former Israeli company engaged in the manufacturing of medical imaging devices that was acquired by larger companies in this field. He joined Elscint in 1985 and served as Corporate Controller and Corporate Treasurer through 1991. Mr. Yanai has served as a director of MA Industries Ltd., Tadiran Communication Ltd., The Elisra Group and Telrad Networks Ltd. Mr. Yanai holds a B.Sc. in Accounting and Economics from the Tel Aviv University.
Ehud Har-Chen has served as our Senior Vice President of Human Resources since January 1, 2006. Prior to joining us, Mr. Har-Chen worked for over 11 years at Motorola. His most recent role was Director of Leadership and Talent supply for Motorola Inc. in the EMEA region (Europe, Middle East, Asia) based in the UK having responsibility for the entire Staffing operation in all EMEA countries as well as executive search, university relations and contingent labor. Prior to that he was the Vice President of Human Resources at Motorola Israel. From 1982 until 1994, Mr. Har-Chen worked at Digital Equipment Corporation in various roles amongst which were the human resources lead at Digital Israel followed by a regional human resources leadership role in EMEA based in Geneva. From 1969 to 1981, Mr. Har-Chen worked at Israel Aircraft Industries in numerous Human resources management roles at both staff and field operation. Mr. Har-Chen studied Social Sciences at both Monash university in Melbourne Australia and Bar-Ilan university in Israel.
Christopher Rowland has served as our Senior Vice President of Business Development and Corporate Strategy since February 1, 2006. Prior to that, Mr. Rowland worked for 17 years at Boston Scientific Corporation, a medical device company, in various sales and marketing management positions, most recently as Vice President of Marketing for the Endovations division, where he was responsible for all marketing, product development and launch activities of products in the gastrointestinal field. Prior to that, from 1985 until 1989 Mr. Rowland worked for Xerox Corporation in various sales positions. Mr. Rowland has a degree in marketing from Southern Illinois University.
Shoshana Friedman has served as our Corporate Vice President-Regulatory and Medical Affairs since January 2002. Ms. Friedman served as a consultant to us and as a member of our advisory board to our Chief Executive Officer from 1998 to January 2002. Prior to joining us, from 1996 to 2002, Ms. Friedman served as the Managing Director of PuSH-med Ltd., a regulatory consulting firm that she founded, which provided consulting services to medical device and biotechnology companies. From 1993 to 1996, Ms. Friedman was Regulatory, Clinical and Quality Assurance Director at InStent Ltd., an Israeli medical device company that was acquired by Medtronic, Inc. in 1996. Ms. Friedman holds a Quality Assurance Lead Assessor certificate from Bywater, Inc. and a Regulatory Affairs Certificate from the Regulatory Affairs Professional Society in the United States. Ms. Friedman holds a B.Sc. in mathematics and physics from Haifa University and an M.B.A. from the Hebrew University, Jerusalem.
Mark Gilreath has served as Senior Vice President – Global Marketing since January 1, 2006, Prior to that, from February 2003 until December 2005 he served as Corporate Vice President – Marketing Strategy, from April 2001 until February 2003 he served as President of Given Imaging, Inc., from September 2000 until April 2001 as our Vice President –
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Global Business Development and from October 1999 to September 2000 as a consultant to us. In 1999, Mr. Gilreath founded VortexMed, Inc., a developer of internet sites for healthcare professionals, where he served as Chief Executive Officer until September 2000. From 1992 to 1999, Mr. Gilreath held various management positions with PENTAX Precision Instrument Corporation including Product Manager, Director of Marketing, Area Sales Manager and Director of Business Development. Prior to joining PENTAX, from 1989 to 1992, Mr. Gilreath served as an officer in the U.S. Navy. He holds a B.Sc. in business finance from Winthrop University and a M.B.A. from the Fuqua School of Business at Duke University.
Manfred Gehrtz has served as President, International since January 1, 2006. Prior to that, from January 2004 until December 31, 2005, Mr. Gehrtz served as our Corporate Vice President, General Manager for Europe. Prior to joining us, from 1995 to December 2003, Mr. Gehrtz was Managing Director, the head of the Endoscope Division and Vice President of Medical Systems Europe at Olympus Optical Co. (Europa) GmbH, a developer of products in the fields of photography, endoscopy, microscopy, communication and diagnostics. From 1990 to 1995, Mr. Gehrtz was Managing Director and CEO of Aesculap Meditec GmbH, a German company that develops and manufactures medical laser systems. Prior to that, from 1986 to 1990, Mr. Gehrtz was a Specialist, Lab Manager and Production Facility Manager at IBM Deutschland GmbH. Mr. Gehrtz holds a Ph. D. in Physical Chemistry and a M.Sc. in Physics from the University of Munich, Germany. From 1983 to 1985 Mr. Gehrtz was a Post-Doctoral Fellow at the IBM Research Laboratory in San Jose, California.
Yoram Ashery has served as our Corporate Vice President – Colon Products since January 1, 2006. Prior to that, since joining the Company in April 2001 until December 31, 2005, Mr. Ashery served as Corporate Vice President - Business Development. Prior to joining us, from 1995 to April 2001, Mr. Ashery was a corporate attorney, practicing in the fields of technology and medical devices and privatizations as an associate and, from January 2000, as a partner, with the law firm of Zellermayer, Pelossof & Co.. Prior to that, Mr. Ashery served at the Office of the Attorney General of the Government of Israel, from 1993 to 1994, during which period he also completed his internship under the direct supervision of the Israeli Attorney General. From 1992 to 1996, Mr. Ashery also served as a junior lecturer in Tax Law at the Buchman Faculty of Law of the Tel-Aviv University. Mr. Ashery holds an LL.B. from the Buchman Faculty of Law of the Tel-Aviv University and a B.A. in Economics from the School of Social Sciences of the Tel-Aviv University.
Sharon Koninsky, has served as Corporate Director at the Office of the CEO since January 1, 2006. Prior to that, from January 2002 until December 31, 2005, Ms. Koninsky served as Corporate Director, Human Resources and prior to that as Human Resources Manager. She has served as Executive Assistant to the President and Chief Executive Officer since 1998. Prior to joining us, from 1997 until 1998, Ms. Koninsky worked in the marketing department of Geotek Technologies Ltd., an Israeli telecommunications company. In 1996 Ms. Koninsky was responsible for placing personnel in administrative positions while employed at a manpower organization in Haifa.Ms. Koninsky holds a B.A. in social work and an M.A. in public administration, both from Haifa University.
Doron Birger has served as Chairman of the board of directors since August 2002 and as a director since June 2000. Mr. Birger has served as Chief Executive Officer of Elron Electronic Industries since August 2002, President since 2001, Chief Financial Officer from 1994 to August 2002, and Corporate Secretary from 1994 to 2001. Mr. Birger is a director of RDC Rafael Development Corporation and a director or chairman of the board of directors of many privately held companies in the Elron group in the fields of medical devices, semiconductors, communication and advanced materials. From 1991 to 1994, Mr. Birger was Vice President-Finance at North Hills Electronics Ltd., an advanced electronics company. From 1990 to 1991, Mr. Birger served as Chief Financial Officer of Middle-East Pipes Ltd., a manufacturer in the metal industry. From 1988 to 1990, Mr. Birger served as Chief Financial Officer of Maquette Ltd., a manufacturer and exporter of fashion items. From 1981 to 1988, Mr. Birger was Chief Financial Officer and director at Bateman Engineering Ltd. and I.D.C. Industrial Development Company Ltd. Mr. Birger holds a B.A. and an M.A. in economics from the Hebrew University, Jerusalem.
James M. Cornelius has served as a director since October 2001 and was elected as an outside director in December 2001. Effective November 15, 2005, Mr. Cornelius serves as the chairman of the board of directors and chief executive officer of Guidant Corporation, a U.S. cardiac and vascular medical device company. From 2000 until 2005, Mr. Cornelius served as the non-executive Chairman of the board of directors of Guidant Corporation. From 1994 until 2000, Mr. Cornelius served as the Senior Executive and Chairman of Guidant Corporation. From 1983 to 1994, Mr. Cornelius was a director, a member of the Executive Committee and Chief Financial Officer of Eli Lilly and Company. From 1980 to 1982, Mr. Cornelius served as President and Chief Executive Officer of IVAC Corporation, formerly part of Eli Lilly’s Medical Device and Diagnostics Division, and from 1978 to 1980, Mr. Cornelius was Director of Acquisitions for Eli Lilly’s Medical Device and Diagnostics Division. Mr. Cornelius currently also serves as a director of Bristol-Myers Squibb Company, The
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Chubb Corporation, The DIRECTV Group, Inc. and The National Bank of Indianapolis. Mr. Cornelius holds an M.B.A. and a B.A. in accounting from Michigan State University.
Michael Grobstein has served as a director since October 2001 and was elected as an outside director in December 2001. Mr. Grobstein has served as a director of Guidant Corporation since 1999, and is currently chairman of Guidant’s audit committee and a member of its corporate governance committee. Mr. Grobstein worked with Ernst & Young LLP from 1964 to 1998, and was admitted as a partner in 1975. At Ernst & Young, Mr. Grobstein served as a Vice Chairman-International Operations from 1993 to 1998, as Vice Chairman-Planning, Marketing and Industry Services from 1987 to 1993, and Vice Chairman-Accounting and Auditing Services from 1984 to 1987. In these positions, Mr. Grobstein, among other things, oversaw the global strategic planning of the firm, was responsible for developing and implementing the firm’s worldwide audit service delivery process and consulted with multinational corporations on a wide variety of financial reporting matters. Mr. Grobstein is a certified public accountant in the United States and holds a B.Sc. in accounting from the University of Illinois.
Jonathan Silverstein has served as a director since September 2000. Mr. Silverstein is a General Partner at OrbiMed Advisors LLC, a global healthcare asset management firm. Mr. Silverstein joined OrbiMed in 1999. From 1996 to 1999, Mr. Silverstein was the Director of Life Sciences in the Investment Banking Department at the Sumitomo Bank Limited. From 1994 to 1996, Mr. Silverstein was an associate at Hambro Resource Development. Mr. Silverstein serves as a director of DOV Pharmaceuticals, Avanir Pharmaceuticals, Emphasys Medical Corporation, Superdimension, Ltd., aDiana Inc. and Predix Pharmaceuticals and is a former director for Auxilium Pharmaceuticals, Orthovita, Inc. and LifeCell Corporation. Mr. Silverstein has a B.A. in economics from Denison University and a J.D. and an M.B.A. from the University of San Diego.
Chen Barir has served as director since August 2002. Mr. Barir is Chairman of Berman & Co. Trading and Investments Ltd. and subsidiaries and affiliates, a private investment company specializing in venture investments and management focusing primarily on seed or early stage medical device companies, investments and real estate. Mr. Barir is chairman, vice-chairman or a director of several privately held companies in the fields of medical device and real estate. Mr. Barir holds an LLB from the Hebrew University of Jerusalem, an M.B.A. from the European Institute of Business Administration (INSEAD) in Fontainebleau, France, and a Doctorate in Law and Economics from Harvard Law School, Cambridge, Massachusetts.
Eyal Lifschitz has served as a director since December 2003. Since 2001, Mr. Lifschitz has served as Chief Executive Officer of Peregrine Ventures, a venture capital fund focused on the medical device industry. Prior to that, Mr. Lifschitz was co-founder of a number of medical technology companies, including PharmaSys (acquired by Elan Corp. NYSE:ELN), where he served as Director of Business Development from 1990 to 1994, VisionCare Ophthalmic Technologies, Inc., where he served as Director of Business Development from 1997 to 2001, BioControl, Ltd., where he served as Director of Business Development from 1999 to 2001 and ECR Ltd.(acquired by AVX Corp. NYSE:AVX), where he served as General Manager from 1994 to 2001. Mr. Lifschitz serves on the board of directors of Neovasc Ltd. and of NeuroSonix Ltd., two companies in the medical device field, and holds an LL.B degree from Shearei Mishpat College in Israel.
Prof. Anat Loewenstein has served as a director since August 2005. Prof. Loewenstein completed her training in Johns Hopkins University Hospital in Baltimore in 1996. She is the Director of the Department of Ophthalmology, Tel Aviv Medical Center, since January 2000 and a Professor at the Sackler School of Medicine, Tel Aviv University, since April 1999. In addition, since 2000 Prof. Loewenstein has been a member of the Advisory Board of Notal Vision Ltd., a medical device company in the area of diagnostic ophthalmology, and from 1996 until 1997 she served as an advisor to Talia Technologies Ltd., which developed an instrument in diagnostic ophthalmology. She is the principal investigator in multiple multicenter drug and device studies for Pfizer, Novartis, Roche and Zeiss. She is a member of the IRB committee of the Israeli Ministry of Health. Prof. Loewenstein holds an M.D. from the Hebrew university of Jerusalem and Masters Degree in Health Administration from Tel Aviv University.
Change in Senior Management
In April 2006, we entered into an employment agreement with Nachum Shamir who will commence serving as our President and Chief Executive Officer and a director on April 9, 2006. Our current President and Chief Executive Officer, Gavriel Meron, will cease serving as in such capacities on that date. Mr. Meron will continue serving as a director and will be appointed Executive Vice Chairman of our board of directors effective April 9, 2006.
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Prior to joining us, Mr. Shamir has served as Corporate Vice President of Eastman Kodak Company and as the President of Eastman Kodak’s Transaction and Industrial Solutions Group, which includes several business units, including Kodak Versamark, Inc. (whose operations were previously those of Scitex Digital Printing Inc.) of which Mr. Shamir was President and Chief Executive Officer. From June 2003 to January 2004, Mr. Shamir served as the President and Chief Executive Officer of Scitex Corporation. From January 2001 to January 2004, he served as the President and Chief Executive Officer of Scitex Digital Printing, having previously served as its Chief Operating Officer since July 2000. Prior thereto, Mr. Shamir was Managing Director and General Manager of Scitex Digital Printing (Asia Pacific) Pte Ltd., from the incorporation of this Singapore-based company in 1994. His prior position was with the Hong Kong based Scitex Asia Pacific (H.K.) Ltd. (now Creo Asia Pacific (H.K.) Ltd.) from 1993. Mr. Shamir holds a B.Sc from the Hebrew University of Jerusalem and an M.A. in public administration from Harvard University.
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B. | COMPENSATION |
The aggregate compensation paid by us and our subsidiaries to our directors and executive officers, including stock-based compensation, for the year ended December 31, 2005 was $3.1 million (excluding director fees detailed below). This amount includes approximately $0.4 million set aside or accrued to provide pension, severance, retirement or similar benefits or expenses, but does not include business travel, relocation, professional and business association dues and expenses reimbursed to office holders, and other benefits commonly reimbursed or paid by companies in Israel.
During 2005, we paid each director, excluding Gavriel Meron, a quarterly fee of $3,750 for their service on our board of directors, and a $1,500 fee for attending and participating in each meeting of the board of directors or any committee of the board of directors. We paid an additional quarterly fee of $1,250 to the chairman of the audit committee. The total amount of these payments in 2005 was $338,750. The directors fees for service by our director, Doron Birger, are paid to Elron Electronics Industries, where he serves as President and Chief Executive Officer. Directors fees for services by our director, Jonathan Silverstein, are paid to OrbiMed Advisors LLC, where he is a General Partner. Director fees for service by our former director, Reuben Baron, who stepped down from our board of directors in August 2005, were paid to RDC Rafael Development Corporation, where he served as President and Chief Executive Officer. In addition, all of our directors were reimbursed for their expenses for each board of directors meeting attended. In addition, in 2005, we granted options to purchase 29,000 ordinary shares to our director and Chairman of the Audit Committee, Michael Grobstein, 25,000 ordinary shares to each of our directors, James Cornelius and Anat Loewenstein, options to purchase 14,000 shares to our Chairman, Doron Birger, and options to purchase 11,000 ordinary shares to each of our directors, Jonathan Silverstein, Chen Barir and Eyal Lifschitz. The exercise price of these options was equal to the fair market value of our ordinary shares on the date of grant.
In 2005, we paid Mr. Meron, our President and Chief Executive Officer an annual base salary of $271,750. In addition, Mr. Meron received options to purchase 70,000 ordinary shares of the company at an exercise price of $36.10 per share, equal to the closing price of our ordinary shares on the Nasdaq National Market on the date of the grant. 25% of these options were immediately vested and another 25% will vest in each of the subsequent three years. Mr. Meron was also awarded a bonus of $300,000 in respect of 2005.
Please see Item 7 “Major Shareholders and Related Party Transactions—Agreements with Directors and Officers — Employment Agreements” for information regarding the employment agreements and compensation of Gavriel Meron, our President and Chief Executive Officer, and Nahum Shamir, our President and Chief Executive Officer elect, which are subject to shareholder approval.
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C. | BOARD PRACTICE |
Board of Directors and Officers
Our articles of association provide that we may have up to 12 directors, each of whom is elected at an annual general meeting of our shareholders by a vote of the holders of a majority of the voting power present and voting at that meeting. Our board of directors currently consists of eight directors. Each director listed above will hold office until the next annual general meeting of our shareholders,except for our outside directors who were elected in December 2001 for an initial three-year term and were reelected for one additional three year term in May 2004, which will expire in December 31, 2007. Other than Gavriel Meron, our President and Chief Executive Officer, none of our directors are our employees or are party to a service contract with us. In April 2006, we entered into an employment agreement with Nachum Shamir, our President and Chief Executive Officer elect. In August 2005, Prof. Anat Loewenstein was elected to our board of directors to replace Dr. Dalia Megiddo, who resigned from the board. Mr. Reuben Baron also left our board of directors in August 2005.
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A simple majority of our shareholders at a general meeting may remove any of our directors from office and elect directors in their stead or fill any vacancy, however created. In addition, vacancies on the board of directors, other than vacancies created by an outside director, may be filled by a vote of a majority of the directors then in office. Our board of directors may also appoint additional directors up to the maximum number permitted under our articles of association. A director so chosen or appointed will hold office until the next general meeting of our shareholders.
Each of our executive officers serves at the discretion of the board of directors and holds office until his or her successor is elected or until his or her earlier resignation or removal. Zvi Ben-David, our former Chief Financial Officer, resigned his position effective July 2005 and was replaced by Yuval Yanai. Nancy Sousa, the former President of our U.S. subsidiary resigned her position effective June 2005. A search for her replacement is still ongoing. Mr. Meron, our President and Chief Executive Officer, was also serving as acting President of our U.S. subsidiary during part of 2005. Effective January 1, 2006, Mr. Ehud Har-Chen was appointed to the position of Senior Vice President of Human Resources and effective February 1, 2006, Christopher Rowland was appointed as our Senior Vice President of Business Development and Corporate Strategy.
There are no family relationships among any of our directors or executive officers. All of our executive officers have signed employment agreements.
Outside and Independent Directors
Under Israel’s Companies Law, companies incorporated under the laws of the State of Israel whose shares are listed on an exchange including the Nasdaq National Market are required to appoint at least two outside directors. Outside directors are required to meet standards of independence set forth in the Israeli companies law. Outside directors are elected by a majority vote at a shareholders’ meeting, provided that either (1) the majority of shares voted at the meeting, including at least one-third of the shares of non-controlling shareholders voted at the meeting, vote in favor of the election of the outside director, or (2) the total number of shares voted against the election of the outside director does not exceed one percent of the aggregate voting rights in the company. The initial term of an outside director is three years and he or she may be reelected to one additional term of three years by a majority vote at a shareholders’ meeting, subject to the conditions described above for election of outside directors. Outside directors may only be removed by the same percentage of shareholders as is required for their election, or by a court, and then only if the outside directors cease to meet the statutory requirements for their appointment or if they violate their duty of loyalty to the company. If an outside directorship becomes vacant and there are no other two serving outside directors, a company’s board of directors is required under the Companies Law to call a shareholders’ meeting immediately to appoint a new outside director. Our two outside directors are James Cornelius and Michael Grobstein.
Each committee of a company’s board of directors is required to include at least one outside director and our audit committee is required to include both outside directors. An outside director is entitled to compensation as provided in regulations adopted under the Companies Law and is otherwise prohibited from receiving any other compensation, directly or indirectly, in connection with services provided as an outside director.
An amendment to the Companies Law that became effective on January 19, 2006 provides that every outside director appointed to the board of directors of an Israeli company, such as us, must qualify as a “financial and accounting expert” or as “professionally competent,” as such terms are defined in the applicable regulations under the Companies Law, and that at least one outside director must qualify as a “financial and accounting expert.” We will be required to comply with these requirements upon the next appointment of our outside directors currently expected in 2007. In addition, this amendment requires Israeli companies to determine no later than April 19, 2006, how many directors, in addition to the outside directors, qualify as “financial and accounting experts” taking into account the nature of the company’s business, the complexity of the activities carried out by the company and the size of its board of directors. In February 2006, our board of directors determined that at least one of our directors will be a “financial and accounting expert,” in addition to the outside directors. Currently, both Doron Birger and Gavriel Meron qualify as a “financial and accounting expert,” as defined in the applicable regulations.
In addition to the requirements of the Companies Law, we must comply with the Nasdaq National Market listing requirements, under which a majority of the members of our board of directors (including all members of our audit committee) are required to be independent, as that term is defined in the rules of the Nasdaq National Market. Our board of directors has determined that all of our directors, except Mr. Gavriel Meron, qualify as independent directors in accordance with the applicable rules.
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Audit Committee
Under the Companies Law, the board of directors of any company whose shares are listed on any exchange must also appoint an audit committee comprised of at least three directors including all of the outside directors. The audit committee may not include the chairman of the board of directors, the general manager, the chief executive officer, a director employed by the company or who provides services to the company on a regular basis, or a controlling shareholder or a relative of a controlling shareholder. Under the Nasdaq National Market listing requirements, we are required to have an audit committee consisting of at least three members, each of whom must be “independent”, as defined under the rules of the Nasdaq National Market and the Exchange Act, and each of whom must be able to read and understand fundamental financial statements. In addition, one member of the audit committee must have past employment experience in finance or accounting or other comparable experience which results in the individual’s financial sophistication. Our board of directors has determined that the current members of our audit committee, Michael Grobstein, James Cornelius, Chen Barir and Eyal Lifschitz, each meet these independence and financial literacy requirements. In addition, the board of directors has determined that Mr. Grobstein has the requisite experience and is the financial expert serving on our audit committee.
Under the Companies Law, the role of the audit committee is to identify irregularities in the business management of the company, in consultation with the internal auditor and the company’s independent accountants, and suggest an appropriate course of action. In addition, it is the role of the audit committee to approve transactions with related parties and other corporate actions specified in the Companies Law. Under the Nasdaq National Market listing requirements, our audit committee has adopted an audit committee charter setting forth its responsibilities. The audit committee charter governing the actions of our audit committee states that in fulfilling this role the committee is entitled to rely on interviews and consultations with our management, our internal auditor and our independent public accountant, and is not obligated to conduct any independent investigation or verification. The charter also states that the audit committee is required to nominate the company’s independent accountants, which the shareholders subsequently are required to approve.
Internal Auditor
Under the Companies Law, the board of directors must appoint an internal auditor nominated by the audit committee. The role of the internal auditor is to examine whether a company’s actions comply with the law and orderly business procedure. Under the Companies Law, the internal auditor may be an employee of the company but not an interested party or an office holder, or affiliate, or a relative of an interested party or an office holder, nor may the internal auditor be the company’s independent accountant or its representative. An interested party is defined in the Companies Law as a 5% or greater shareholder, any person or entity who has the right to designate one director or more or the chief executive officer of the company or any person who serves as a director or as a chief executive officer. In 2005, we appointed the Israeli member firm of Deloitte Touche Tohmatsu to serve as our internal auditor following the resignation of our former internal auditor in order to preserve the independence of his accounting firm that is engaged as the independent auditor of one of our affiliates.
Compensation and Nominating Committee
Our compensation and nominating committee consists of our directors, James Cornelius, Doron Birger, Michael Grobstein and Jonathan Silverstein. In accordance with the rules of the Nasdaq National Market, our compensation and nominating committee adopted a charter, which sets forth its responsibilities. Pursuant to the charter, the compensation and nominating committee is authorized to make decisions regarding executive compensation and terms and conditions of employment, as well as to recommend that the board of directors issue options under our stock option plans. The compensation and nominating committee is also responsible for recommending to the board of directors nominees for board membership. The composition of the committee satisfies the Nasdaq National Market’s independent director requirements.
Executive Committee
In April 2006, we formed an executive committee which is governed by a written charter adopted by our board of directors. The charter specifies, among other things, that:
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• | the executive committee must be comprised of at least three directors and the majority of the committee’s members must qualify as “independent directors” under applicable law and the Nasdaq National Market |
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| independent director requirements (and one member must qualify as an “outside director” under the Israeli Companies Law); |
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• | the Chairman of our board of directors must serve as a member of the executive committee; |
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• | the executive committee shall meet as needed to conduct and oversee our affairs and fulfill its responsibilities and not less than once each quarter; |
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• | the executive committee may exercise the full powers of our board of directors between board meetings where, at the discretion of the chairman of the board, timely action is required or warranted, provided that the committee may not act in lieu of our board in any matter in respect of which the delegation of powers is prohibited under applicable law or that requires the approval of our shareholders; and |
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• | the committee is otherwise granted, among other things, the mandate to review the details of our business strategy and make recommendations to the board, to oversee and assist our chief executive officer as necessary, to monitor organization and management changes in our company and take any other action delegated or assigned from time to time by our board of directors. |
The executive committee currently consists of our directors, Gavriel Meron (Chairman), Doron Birger, James Cornelius and Michael Grobstein.
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D. | EMPLOYEES |
As of December 31, 2005, we and our subsidiaries had 339 employees of whom 183 were based in Israel, 107 in the United States, 37 in Europe, nine in Japan and three in Australia. This reflects a 20% increase in the number of employees since December 31, 2004. This increase is mainly in research and development employees in Israel and sales personnel in our U.S. subsidiary. In December 2005, we implemented an internal reorganization of our sales, marketing and product management teams. We implemented this change in order to enable us to focus more effectively on particular markets, clinical indications and technology for each type of PillCam capsule and each part of the gastrointestinal tract. The reorganization is intended to realign our activities along product lines and to allow us to address more efficiently the development, marketing and sale of multiple products and the accumulation and circulation of clinical information related to multiple gastrointestinal tract organs. As a result of the reorganization and the expected continued growth of our business, we expect our headcount to increase in 2006, primarily in research and development, clinical and regulatory affairs and sales and marketing.
Under Israeli law, we and our employees are subject to protective labor provisions, including restrictions on working hours, minimum wages, minimum vacation, minimal termination notice, sick pay, severance pay and social security as well as equal opportunity and anti-discrimination laws. Orders issued by the Israeli Ministry of Labor and Welfare make certain industry-wide collective bargaining agreements and collective bargaining agreements in the electricity, steel and electronics industries applicable to us. These agreements affect matters such as cost of living adjustments to salaries, length of working hours and week, recuperation, travel expenses, and pension rights. Our employees are not represented by a labor union. We provide our employees with benefits and working conditions above the required minimum and which we believe are competitive with benefits and working conditions provided by similar companies in Israel. We have written employment agreements with all of our Israeli employees and with our senior non-Israeli employees. Competition for qualified personnel in our industry is intense and we dedicate significant resources to employee retention. We have never experienced labor-related work stoppages and believe that our relations with our employees are good.
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E. | SHARE OWNERSHIP |
Share Ownership by Directors and Executive Officers
For information regarding ownership of our ordinary shares by our directors and executive officers, and regarding options to purchase our ordinary shares granted to Gavriel Meron, our President and Chief Executive Officer, see Item 7 “Major Shareholders and Related Party Transactions.”
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Stock Option Plans
2003 Stock Option Plan
Our 2003 stock option plan provides for a grant of options to our directors, employees and consultants, including members of our medical advisory committee, and to the directors, employees or consultants of our subsidiaries. We initially reserved a total of 1,500,000 ordinary shares for issuance under the plan. In addition, we have reserved for issuance under the plan any ordinary shares underlying unvested options granted under our 1998 and 2000 Stock Option Plans that expire without exercise. As of December 31, 2005, we had outstanding options to purchase 244,078 shares under the 2003 stock option plan.
The plan is substantially similar to our 2000 Stock Option Plan. Generally, where a grant of options under the plan is our first grant of options to that person, the options are not exercisable before the second anniversary of the date of grant, at which time 50% of the options become exercisable with 25% to become exercisable on each of the third and fourth anniversaries of the date of the grant. However, in cases of subsequent grants plans, options vest in four equal installments beginning with the first anniversary of the grant. Our compensation and nominating committee has the authority to accelerate the time periods for exercising options. Unexercised options expire ten years after the date of grant. To the extent the options have been vested, they may be exercised in whole or in part from time to time until their expiry. Upon the termination of the employment of an employee other than for cause the employee may exercise all vested options. Our compensation and nominating committee determined that in respect of grants made beginning in 2006, optionees will have 180 days to exercise vested options following termination. If the employment of an employee is terminated for cause, all of his or her vested and unvested options will expire.
In the event of an acquisition or merger, we will endeavor to ensure that the rights of the holders of outstanding options are maintained. If we are unable to do so or if our board of directors resolves otherwise, all outstanding, but unvested, stock options will be accelerated and exercisable, ten days prior to the acquisition or merger. In addition, if the employment of a holder of outstanding options is terminated in anticipation of or during the 12 month period following an acquisition or merger, all outstanding but unvested stock options will be accelerated and exercisable, subject to certain adjustments and exceptions.
Options granted under the plan to Israeli residents may be granted under Section 102 of the Israeli Income Tax Ordinance pursuant to which the options or the ordinary shares issued upon their exercise must be deposited with a trustee for at least two years following the date of the grant. Under Section 102, any tax payable by an employee from the grant or exercise of the options is deferred until the transfer of the options or ordinary shares by the trustee to the employee or upon the sale of the options or ordinary shares. Gains on options granted in 2003 and later are subject to capital gains tax of 25%. Options granted under the plan to U.S. residents may also qualify as incentive stock options within the meaning of Section 422 of the U.S. Internal Revenue Code of 1986. The exercise price for incentive stock options must not be not less than the fair market value on the date the option is granted, or 110% of the fair market value if the option holder holds more than 10% of our share capital.
2000 Stock Option Plan
Our 2000 stock option plan provides for the grant of options to our directors, employees or consultants, including members of our medical advisory committee, and to the directors, employees or consultants of our subsidiaries. As of December 31, 2005, we had outstanding options to purchase 998,745 shares under the 2000 stock option plan. Ordinary shares underlying options which expire without exercise under the 2000 stock option plan become available for issuance under the 2003 stock option plan.
The plan is administered by our compensation and nominating committee which makes recommendations to our board of directors regarding grantees of options and the terms of the grant, including exercise prices, vesting schedules, acceleration of vesting and other matters necessary in the administration of the plan. Upon the recommendation of our compensation and nominating committee, options granted under the plan to Israeli residents may be granted under Section 102 of the Israeli Income Tax Ordinance pursuant to which the options or the ordinary shares issued upon their exercise must be deposited with a trustee for at least two years. Any tax payable by an employee from the grant or exercise of the options is deferred until the transfer of the options or ordinary shares by the trustee to the employee or upon the sale of the options or ordinary shares. Options granted under the plan to U.S. residents may also qualify as incentive stock options within the meaning of Section 422 of the U.S. Internal Revenue Code of 1986. The exercise price for incentive stock options must
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not be not less than the fair market value on the date the option is granted, or 110% of the fair market value if the option holder holds more than 10% of our share capital.
Under the 2000 stock option plan, options issued under the plan are not exercisable before the second anniversary of the date of grant at which time 50% of the options become exercisable and 25% on each of the third and fourth anniversaries of the date of grant. Unexercised options expire ten years after the date of grant. If the employment of an employee is terminated for cause, all of his or her vested and unvested options will expire.
In the event of an acquisition or merger, we will endeavor to ensure that the rights of the holders of outstanding options are maintained. If we are unable to do so or if our board of directors resolves otherwise, all outstanding, but unvested, stock options will be accelerated and exercisable, ten days prior to the acquisition or merger.
1998 Stock Option Plan
Our 1998 stock option provides for the grant of options to our directors, employees, or consultants, including members of our medical advisory committee. Our 1998 stock option plan has been superseded by our 2000 stock option plan and we have ceased issuing options under our 1998 stock option plan. As of December 31, 2005, we had outstanding options to purchase 2,790,337 shares under the 1998 stock option plan. Ordinary shares underlying options which expire without exercise under the 1998 stock option plan become available for issuance under the 2003 stock option plan.
Under the 1998 stock option plan, options issued under the plan are not exercisable before the second anniversary of the date of grant at which time 50% of the options become exercisable and 25% on each of the third and fourth anniversaries of the date of grant. Unexercised options expire ten years after the date of grant. If the employment of an employee is terminated for cause, all of his or her vested and unvested options will expire.
ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS
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A. | MAJOR SHAREHOLDERS |
The following table sets forth certain information regarding the beneficial ownership of our outstanding ordinary shares as of February 28, 2006 for: (1) each person who we believe beneficially owns 5% or more of the outstanding ordinary shares, (2) each of our directors individually, (3) each of our executive officers individually, and (4) all of our directors and executive officers as a group. Beneficial ownership of shares is determined under rules of the Securities and Exchange Commission and generally includes any shares over which a person exercises sole or shared voting or investment power. The table also includes the number of shares underlying options that are exercisable within 60 days of the date of this annual report. Ordinary shares subject to these options are deemed to be outstanding for the purpose of computing the ownership percentage of the person holding these options, but are not deemed to be outstanding for the purpose of computing the ownership percentage of any other person.
The shareholders listed below do not have any different voting rights from our other shareholders. Unless otherwise noted below, each shareholder’s address is c/o Given Imaging Ltd., P.O. Box 258, Yoqneam 20692, Israel.
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Name and Address |
| Number of Shares |
| Percentage of |
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Principal shareholders: |
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IDB Holding Corporation Ltd. (1) |
| 10,207,533 |
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| 36.5 | % |
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OrbiMed Advisors LLC, OrbiMed Capital LLC and Samuel D. Isaly (2) | 3,638,904 |
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| 13.0 |
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AXA Assurances I.A.R.D. Mutuelle, AXA Assurances Vie Mutuelle, | 2,319,302 | 8.3 | |||||
Directors and executive officers: |
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Gavriel D. Meron (4) |
| 926,709 |
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| 3.2 |
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Yuval Yanai |
| — |
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| — |
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Ehud Har-Chen |
| — |
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| ¾ |
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Kevin Rubey (5) |
| 208,750 |
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| * |
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Christopher Rowland |
| — |
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| ¾ |
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Shoshana Friedman (6) |
| 111,526 |
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| * |
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Mark Gilreath (7) |
| 151,250 |
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| * |
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Manfred Gehrtz (8) |
| 21,000 |
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| * |
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Doron Birger (9) |
| 6,746,592 |
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| 24.1 |
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James M. Cornelius (10) |
| 223,500 |
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| * |
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Michael Grobstein (11) |
| 143,500 |
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| * |
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Jonathan Silverstein (12) |
| 3,711,926 |
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| 13.3 |
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Chen Barir (13) |
| 41,000 |
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| * |
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Eyal Lifschitz (14) |
| 25,000 |
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| — |
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Anat Loewenstein |
| — |
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| ¾ |
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All directors and executive officers as a group (15) |
| 15,754,194 |
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| 53.2 | % |
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* | Less than 1% |
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(1) | Based on a Schedule 13D/A filed on November 4, 2004 and on information provided to us supplementally, this number consists of 4,082,982 ordinary shares owned by Elron Electronic Industries Ltd., or Elron, 3,462,441 ordinary shares owned by Discount Investment Corporation Ltd., or DIC, and 2,662,110 ordinary shares owned by RDC Rafael Development Corporation Ltd., or RDC. Based on information contained in that Schedule 13D/A and on information provided to us supplementally, Elron owns all of the outstanding shares of DEP Technology Holdings Ltd. which, in turn, holds 50.1% of the voting power of RDC. As a result, Elron may be deemed to be the beneficial owner of the ordinary shares owned by RDC. As of February 28, 2006, DIC owned approximately 47.5% of the outstanding shares of Elron and, as a result, DIC may be deemed to be the beneficial owner of the ordinary shares owned by RDC and by Elron. The address of DIC is The Triangular Tower, 44th Floor, 3 Azrieli Center, Tel Aviv 67023, Israel. The address of RDC is Building 7, New Industrial Park, Yoqneam 20692, Israel. The address of Elron is The Triangular Tower, 42nd Floor, 3 Azrieli Center, Tel Aviv 67023, Israel. As of February 28, 2006, IDB Holding Corporation, or IDBH, owned approximately 71.8% of the outstanding shares of IDB Development Corporation Ltd., or IDBD, which, in turn, owned approximately 73.3% of the outstanding shares of DIC. As a result, IDBH may be deemed to be the beneficial owner of the ordinary shares owned by DIC, RDC and Elron. The address of each of IDBH and IDBD is The Triangular Tower, 44th Floor, 3 Azrieli Center, Tel Aviv 67023, Israel. IDBH is a public company traded on the Tel Aviv Stock Exchange. Approximately 51.7% of the outstanding share capital of IDBH is owned by a group comprised of (i) Ganden Investments I.D.B. Ltd. (“Ganden Investments”), a wholly owned Israeli subsidiary of Ganden Holdings Ltd. (“Ganden Holdings”), a private Israeli company controlled by Nochi Dankner and his sister, Shelly Bergman, which holds approximately 31.02% of the equity of and voting power in IDBH; (ii) Manor Investments-IDB Ltd. (“Manor Investments), a majority owned Israeli subsidiary of Manor Holdings B.A. Ltd. (“Manor Holdings”), a private Israeli company controlled by Ruth Manor, which holds approximately 10.34% of the equity of and voting power in IDBH; and (iii) Avraham Livnat Investments (2002) Ltd. (“Livnat Investments”), a wholly owned Israeli subsidiary of Avraham Livnat Ltd. (“Livnat Ltd.”), a private Israeli company controlled by Avraham Livnat, which holds approximately 10.34% of the equity of and voting power in IDBH. Ganden Investments, Manor Investments and Livnat Investments entered into a Shareholders Agreement relating, among other things, to their joint control of IDBH, the term of which is until May 19, 2023. |
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| In addition to the above-mentioned holdings of shares of IDBH, as of February 28, 2006, (a) Ganden Holdings held approximately 10.58% of the equity and voting power of IDBH; (b) Ganden Investments held approximately 6.7% of the equity and voting power of IDBH; (c) Shelly Bergman held, through a private Israeli company wholly owned by her, approximately 7.2% of the equity and voting power in IDBH; (d) Manor Holdings held approximately 0.03% of the equity and voting power in IDBH and (e) Livnat Ltd. held approximately 0.04% of the equity and voting power in IDBH. These additional holdings of shares of IDBH are not subject to the Shareholders Agreement referred to above. |
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| Nochi Dankner is Chairman of IDBH, IDBD and DIC. Isaac Manor (the husband of Ruth Manor) and Zvi Livnat (a son of Avraham Livnat) are directors of IDBH, IDBD and DIC. Shai Livnat (another son of Avraham Livnat) is a director of IDBD. Dori Manor (the son of Isaac and Ruth Manor) is a director of IDBH, IDBD, DIC and Elron. The address of Nochi Dankner is The Triangular Tower, 44th Floor, 3 Azrieli Center, Tel Aviv 67023, Israel. The address of Shelly Bergman is 9 Mishmar Ezrehi, Afeka, Tel Aviv, Israel. The address of Ruth Manor is 26 Hagderot Street, Savyon, Israel. The address of Avraham Livnat is Taavura Junction, Ramle, Israel. These individuals disclaim beneficial ownership of the shares owned by the foregoing entities except to the extent of their pecuniary interest therein. On September 29, 2003, Elron and DIC entered into a voting agreement pursuant to which, among other things, DIC agreed to vote all of its ordinary shares in favor of nominees to our board of directors proposed by Elron. The voting agreement is for a term of one year and renews automatically each year thereafter unless terminated by notice of either party to the other party no later than August 30 in each year, or unless earlier terminated by agreement of both parties thereto. |
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(2) | Based on a Schedule 13D/A filed on September 29, 2004 and on information provided to us supplementally, consists of 2,250,733 ordinary shares and options to purchase 2,157 ordinary shares owned by Caduceus Private Investments L.P., or Caduceus; 485,000 ordinary shares and options to purchase 771 ordinary shares owned by Eaton Vance Worldwide Health Sciences Portfolio, or Eaton Vance; 485,000 ordinary shares and options to purchase 771 ordinary shares owned by Finsbury Worldwide Pharmaceutical Trust, or Finsbury; 330,000 ordinary shares owned by UBS Juniper Crossover Fund LLC, or Juniper; 82,171 ordinary shares and options to purchase 144 ordinary shares owned by OrbiMed Associates LLC, or OrbiMed Associates; 2,157 options to purchase ordinary shares owned by OrbiMed Advisors LLC, or OrbiMed Advisors. OrbiMed Capital GPI LLC is the general partner of Caduceus, OrbiMed Capital LLC acts as managing member of OrbiMed Associates, OrbiMed Advisors acts as investment manager of Juniper, OrbiMed Capital LLC acts as investment advisor to Finsbury and OrbiMed Advisors LLC acts as investment adviser to Eaton Vance. As a result, OrbiMed Advisors, OrbiMed Capital and OrbiMed Capital GPI LLC have discretionary investment management authority with respect to the assets of Caduceus, Eaton Vance, Finsbury, OrbiMed Associates and Juniper. Samual D. Isaly owns a controlling interest in OrbiMed Advisors LLC and OrbiMed Capital. Samuel D. Isaly, Sven Borho, Michael Sheffery Carl L. Gordon and Jonathan Silverstein, share ownership and control of OrbiMed Capital GPI LLC, OrbiMed Capital and OrbiMed Advisors LLC. The address of OrbiMed Advisors LLC, OrbiMed Capital, OrbiMed Capital GPI LLC, Samuel D. Isaly, Sven Borho, Michael Sheffery, Carl L. Gordon and Jonathan Silverstein is 767 Third Avenue, 30th Floor, New York, NY 10017. These individuals each disclaim beneficial ownership of the shares owned by the foregoing entities except to the extent of his pecuniary interest therein. |
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(3) | Based on a Schedule 13G filed on February 14, 2006, consists of 2,188,242 ordinary shares owned by Alliance Capital Management L.P., or Alliance, and 131,060 ordinary shares owned by AXA Equitable Life Insurance Company, or AXA Equitable. Based on information contained in the Schedule 13G, Alliance and AXA Equitable are subsidiaries of AXA Financial, Inc. AXA Financial, Inc. is a parent holding company with respect to the holdings of Alliance, AXA Equitable and Frontier Trust Company, FSB (Advest Trust). Each of Alliance and AXA Equitable operates under independent management and makes independent decisions. AXA owns AXA Financial, Inc. AXA Assurances I.A.R.D Mutuelle, AXA Assurances Vie Mutuelle and AXA Courtage Assurance Mutuelle (collectively, the "Mutuelles AXA"), as a group, control AXA. The address of AXA Assurances I.A.R.D Mutuelle and AXA Assurances Vie Mutuelle is 26, rue Drouot, 75009 Paris, France. The address of AXA Courtage Assurance Mutuelle is 26, rue Drouot, 75009 Paris, France. The address of AXA is 25, avenue Matignon, 75008 Paris, France. The address of AXA Financial, Inc. is 1290 Avenue of the Americas, New York, NY 10104. Each of the Mutuelles AXA, as a group, and AXA expressly disclaims beneficial ownership of any securities owned by the foregoing entities. |
(4) | Consists of 111,416 ordinary shares and options to purchase 815,293 ordinary shares. |
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(5) | Consist of options to purchase 208,750 ordinary shares. |
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(6) | Consists of 19,026 ordinary shares owned by Ms. Friedman and options to purchase 92,500 ordinary shares owned by Ms. Friedman. |
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(7) | Consists of options to purchase 151,250 ordinary shares. |
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(8) | Consists of 1,000 ordinary shares and options to purchase 20,000 ordinary shares. |
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(9) | Consists of 1,500 ordinary shares owned by Mr. Birger personally, 2,662,110 ordinary shares owned by RDC Rafael Development Corporation and 4,082,982 ordinary shares owned by Elron Electronic Industries. Mr. Birger is a director of RDC Rafael Development Corporation and President and Chief Executive Officer of Elron Electronic Industries and by virtue of his position may be deemed to have voting and investment power, and thus |
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| beneficial ownership with respect to the shares that Elron Electronic Industries and RDC Rafael Development Corporation own. Mr. Birger disclaims such beneficial ownership except to the extent of his pecuniary interest therein. |
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(10) | Consists of 135,000 ordinary shares and options to purchase 88,500 ordinary shares. |
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(11) | Consists of 30,000 ordinary shares and options to purchase 113,500 ordinary shares. |
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(12) | Consists of 522 ordinary shares and options to purchase 78,500 ordinary shares owned by Mr. Silverstein and 3,638,904 ordinary shares beneficially owned by the OrbiMed investors. Mr. Silverstein is a principal of OrbiMed Advisors LLC and by virtue of his position may be deemed to have voting and investment power, and thus beneficial ownership with respect to the shares which the OrbiMed investors owns or over which they exercise voting and investment power. Mr. Silverstein disclaims such beneficial ownership except to the extent of his pecuniary interest therein. |
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(13) | Consists of options to purchase 41,000 ordinary shares |
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(14) | Consists of options to purchase 25,000 ordinary shares. |
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(15) | Includes 10,207,533 ordinary shares beneficially owned by IDB Holding Corporation and 3,636,747 ordinary shares beneficially owned by the OrbiMed entities, as well as ordinary shares and options to purchase ordinary shares held by directors and officers in their personal capacities or by their nominees. Our directors and officers disclaim beneficial ownership of the shares owned by the foregoing entities except to the extent of their pecuniary interest therein. |
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B. | RELATED PARTY TRANSACTIONS |
Agreement with Rafael
In January 1998, we entered into a technology purchase and license agreement with Rafael Armament Development Authority, or Rafael, which is a division of the Israeli Ministry of Defense. Rafael beneficially owns 47.8% of the outstanding shares of our shareholder, RDC Rafael Development Corporation. Pursuant to this agreement, we purchased from Rafael, for $30,000 in cash, all of Rafael’s rights to the technology associated with an in vivo video camera and an autonomous video endoscope, including a swallowable capsule with a camera and an optical system, a transmitter and a reception system, which was then being developed by Rafael, which we refer to as the PillCam capsule and system. Rafael transferred to us the patents that it had been issued in connection with the PillCam capsule and system technology. Rafael also granted us an exclusive, perpetual, worldwide, royalty-free license to use other technology and know-how of Rafael which was used at Rafael for the development of the PillCam capsule and system, provided that we use this technology and know-how solely for commercial exploitation of the PillCam capsule and system. We are permitted to transfer or sublicense this other technology to third parties in connection with the commercial exploitation of the PillCam capsule and system provided that we receive Rafael’s consent which is not to be unreasonably withheld. We have not received any technology from Rafael pursuant to this license. In connection with our commercial exploitation of the PillCam capsule and system, Rafael agreed to provide us with technical support in the form of equipment and use of its laboratories, subject to their availability, and access to its existing documentation. We agreed to pay to Rafael its costs plus 10% for any of Rafael’s manpower that we use. Rafael also agreed to provide us with research and development and prototype manufacturing services in connection with the PillCam capsule and system at customary commercial rates. Rafael has the right to provide such services to us if it is competitive in terms of quality, quantity, timing and price. In connection with this technical support, we paid an aggregate amount to Rafael of $12,000 in 1998 only.
In connection with our acquisition of this technology, we granted to Rafael an exclusive, perpetual, worldwide, royalty-free license to use all technology that we acquired from Rafael solely in the military and security fields. Rafael has the exclusive right to file patent applications for inventions developed by Rafael in connection with the use of the PillCam capsule and system in these fields. We are required to assist Rafael in connection with these patent applications. Rafael has granted to us an exclusive, perpetual, worldwide, royalty-free license to use outside of the military and security fields any technology covered by these patents. We and Rafael have also agreed to notify each other if either of us develops any improvements to the PillCam capsule and system technology provided that doing so does not breach any
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confidentiality undertaking to a third party, or in the case of Rafael, security requirements. We have each agreed to grant to the other exclusive rights to use any improvement in our case in the commercial field and in Rafael’s case in the military and security fields, in consideration for payment of royalties in an amount to be agreed upon.
Registration Rights
Demand Registration Rights
Pursuant to an investor rights agreement, at the request of one or more of our former Series A preferred shareholders that hold at least 20% of our then outstanding ordinary shares held by our former Series A preferred shareholders, we must use our best efforts to register any or all of these shareholders’ ordinary shares. We must also give notice of the registration to our other former Series A preferred shareholders and to some of our ordinary shareholders, including Discount Investment Corporation and its affiliates, and Elron Electronic Industries, and include in the registration any ordinary shares that they request to include. We are also permitted to include our shares in the registration. The minimum aggregate offering price of the shares to be registered is $5.0 million. We may only be requested to carry out two of these demand registrations.
In addition to the registrations described above that may be requested by our former Series A preferred shareholders, at the request of some of our ordinary shareholders, including Discount Investment Corporation and its affiliates, Elron Electronic Industries and PW Juniper Crossover Fund, holding at least 20% of our ordinary shares then outstanding, we must use our best efforts to register any or all of these shareholders’ ordinary shares. We must also give notice of the registration to all other shareholders to whom we have granted registration rights and include in the registration any ordinary shares that they request to include. We are also permitted to include our shares in the registration. The minimum aggregate offering price of the shares to be registered is $5.0 million. We may only be requested to carry out three of these demand registrations.
In connection with each of the above registrations, the managing underwriter may limit the number of shares offered for marketing reasons. In such case, the managing underwriter must exclude first any shares to be registered by us and second, any shares to be registered by our directors and officers. Thereafter, the shares to be registered by our former Series A preferred shareholders or ordinary shareholders would be reduced pro rata among the shareholders requesting inclusion of their shares according to the number of shares held by each shareholder.
Piggyback Registration Rights
Our former Series A preferred shareholders also have the right to request that we include their ordinary shares which were issued upon conversion of our Series A preferred shares in any registration statements filed by us in the future for the purposes of a public offering, subject to specified limitations. Some of our ordinary shareholders, including Discount Investment Corporation and its affiliates, Elron Electronic Industries and PW Juniper Crossover Fund, have similar rights with respect to the ordinary shares they currently hold. The managing underwriter may limit the number of shares offered for marketing reasons. In this case, the managing underwriter must exclude first any shares to be registered by us, unless we initiated the registration, second the shares that our shareholders have requested to include in the registration, and third the shares of the party initiating the registration.
Form F-3 Registration Rights
At the request of some of our shareholders including Discount Investment Corporation and its affiliates, Elron Electronic Industries and PW Juniper Crossover Fund, or any of our former Series A preferred shareholders, we must register such shareholder’s ordinary shares on Form F-3. We must also give notice of the registration to our other shareholders to whom we have granted registration rights, and include in the registration any ordinary shares they request to include. These demand rights may only be exercised if nine months have passed since the last registration that we filed in which the shareholder requesting registration was entitled to include its shares. The minimum aggregate offering price of the shares to be registered is $5.0 million. The managing underwriter may limit the number of shares offered for marketing reasons. In such case, the rights of each shareholder to include its ordinary shares in the registration are allocated in the same manner as in a demand registration described above.
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Termination
All registration rights will expire on October 10, 2006. With respect to any shareholder, registration rights will expire if that shareholder can sell all of its ordinary shares within a 90 day period under Rule 144 of the Securities Act.
Expenses
Generally, we will pay all expenses incurred in carrying out the above registrations, as well as the fees and expenses of one legal counsel for the selling shareholders in each registration.
Agreement for Travel Services.
In 2005, we engaged Diesenhaus to provide us with travel-related services. Diesenhaus is a provider of travel services in Israel and is controlled by IDB Holding Corporation Ltd., which is also a controlling shareholders of our company. The terms of our engagement with Diesenhaus are similar to the terms we have with other providers of travel services to us. In 2005, we paid Diesenhaus a total of $61,500, or 5.5% of our travel expenses. This agreement was approved by our audit committee and board of directors in accordance with Israeli law.
Agreement for Mobile Communication Services.
In December 2005, we entered into an agreement with Cellcom Ltd., an Israeli provider of mobile communication services. Cellcom is controlled by IDB Holding Corporation Ltd., which is also a controlling shareholder of our company. Under the agreement, Cellcom will be the sole provider of mobile communication to us during the term of the agreement. The prices we pay Cellcom are lower than the prices we paid our previous provider of mobile communication services, which was a non-affiliated party. This agreement was approved by our audit committee and Board of Directors in accordance with Israeli law.
Directors Fees
We pay directors fees in respect of service by our directors (other than our President and Chief Executive Officer, Gavriel Meron). See Item 6 “Directors, Senior Management and Employees¾ Compensation.”
Agreements with Directors and Officers
Employment Agreements
We maintain written employment agreements with all of our officers. These agreements all contain provisions standard for a company in our industry regarding noncompetition, confidentiality of information and assignment of inventions. The enforceability of covenants not to compete in Israel is limited.
The terms of our employment agreements with Gavriel Meron, our President and Chief Executive Officer, and Nachum Shamir, our President and Chief Executive Officer elect, are described below. Since Messrs. Shamir and Meron are directors, under Israeli law their employment agreements and terms are subject to approval by our shareholders at our next annual shareholders’ meeting.
Gavriel Meron.
In April 2006, we amended and restated Mr. Meron’s employment agreement. The employment agreement contains provisions standard for a firm in our industry regarding non-competition, confidentiality of information and assignment of inventions.
For the fiscal year 2006, Mr. Meron is entitled to receive (1) an annual base salary of $330,000 for the fiscal year 2006, (2) a cash bonus of up to 200% of Mr. Meron annual salary, subject to meeting certain personal and company performance targets determined from time to time at the discretion of the board of directors, and (3) a grant of options to purchase 60,000 ordinary shares, the exercise price of which will be equal to the closing price of the ordinary shares on the Nasdaq National Market on the date the shareholders approve the grant, vesting in four equal installments beginning on
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the first anniversary of the grant. Mr. Meron is also entitled to other fringe benefits, such as the use of a company car and contributions for study, disability and severance funds.
Mr. Meron’s employment may be terminated by us without cause upon three month’s prior written notice, in which case Mr. Meron is entitled to receive his base salary and benefits payable during the three months following such notice of termination and continued vesting of options during such period. In addition, Mr. Meron is entitled to receive a cash payment equal to 12 times his average monthly base salary during the three months prior to the notice of termination and to accelerated vesting with respect to those options that would have vested during the 12 months following the notice of termination. Mr. Meron’s employment may be terminated by us immediately for cause. Mr. Meron may terminate his employment with us upon three month’s prior written notice in which event, Mr. Meron is entitled to receive his base salary and benefits payable during the 3 months following such notice of termination and continued vesting with respect to those options that would have vested during such three months period. In the event that Mr. Meron terminates his employment after April 15, 2007, he is entitled to the same benefits as we would have paid him had we terminated his employment without cause.
Mr. Meron’s employment may be terminated following a change of control event (as defined in the employment agreement) by us or our successor upon three month’s prior written notice. In the event of such termination, Mr. Meron is entitled to receive a cash payment equal to 24 times his average monthly base salary during the three months prior to the notice of termination and to accelerated vesting with respect to those options and shares of restricted stock that would have vested during the 24 months following the notice of termination.
Nachum Shamir.
In April 2006, we signed an employment agreement with Mr. Shamir. The employment agreement contains provisions standard for a firm in our industry regarding non-competition, confidentiality of information and assignment of inventions.
For the fiscal year 2006, Mr. Shamir is entitled to receive (1) an annual base salary of $330,000, pro rated for the number of complete calendar months during which Mr. Shamir is employed by us in 2006, (2) a cash bonus of up to 200% of Mr. Shamir’s annual salary, pro rated for the number of complete calendar months during which Mr. Shamir is employed by us in 2006, subject to meeting certain personal and company performance targets determined from time to time at the discretion of the board of directors, (3) a grant of options to purchase 300,000 of our ordinary shares, the exercise price of which will be equal to the closing price of the ordinary shares on the Nasdaq National Market on the date the shareholders approve the grant, vesting in four equal installments beginning on the first anniversary of the date of commencement of Mr. Shamir’s employment, and (4) a grant 100,000 restricted shares, vesting in four equal installments beginning on the first anniversary of the date of commencement of Mr. Shamir’s employment. We have also agreed to pay Mr. Shamir a relocation bonus of $50,000. Mr. Shamir is also entitled to other standard benefits, such as a car allowance, insurance benefits and reimbursement of expenses.
Mr. Shamir’s employment may be terminated by us without cause upon three month’s prior written notice, in which case Mr. Shamir is entitled to receive his base salary and benefits payable during the 12 months following such notice of termination and accelerated vesting with respect to those options and shares of restricted stock that would have vested during such period. Mr. Shamir’s employment may be terminated by us immediately for cause. Mr. Shamir may terminate his employment with us upon three month’s prior written notice or immediately if such termination is for good reason, which consists of an uncured breach of the employment agreement by us or a continuous and material reduction in the scope or conditions of Mr. Shamir’s employment. In the event of such termination, Mr. Shamir is entitled to receive his base salary and benefits payable during the three months following notice of such termination (twelve months in the event Mr. Shamir terminates his employment for good reason) and accelerated vesting with respect to those options and shares of restricted stock that would have vested during the applicable period.
If we terminate Mr. Shamir’s employment following a change of control event (as defined in the employment agreement) or if Mr. Shamir terminates his employment for good reason following a change of control event, Mr. Shamir is entitled to receive (1) all remuneration, including any earned but unpaid bonus, and benefits payable during the 24-month period following notice of termination, and (2) accelerated vesting with respect to those options and shares of restricted stock that would have vested during the 24-month period following the effective date of such termination.
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Exculpation, Insurance and Indemnification
Under the Companies Law, an Israeli company may not exculpate an office holder from liability for a breach of the duty of loyalty of the office holder. However, a company may approve an act performed in breach of the duty of loyalty of an office holder provided that the office holder acted in good faith, the act or its approval does not harm the company, and the office holder discloses the nature of his or her personal interest in the act and all material facts and documents a reasonable time before discussion of the approval. An Israeli company may exculpate an office holder in advance from liability to the company, in whole or in part, for a breach of duty of care, subject to specified exceptions, but only if a provision authorizing such exculpation is inserted in its articles of association. Our articles of association include such a provision.
An Israeli company may indemnify an office holder in respect of certain liabilities either in advance of an event or following an event provided a provision authorizing such indemnification is inserted in its articles of association. Our articles of association contain such an authorization. An undertaking by an Israeli company to indemnify an office holder must be limited to foreseeable liabilities and reasonable amounts determined by the board of directors. A company may indemnify an office holder against the following liabilities incurred for acts performed as an office holder:
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| • | a financial liability imposed on him or her in favor of another person pursuant to a judgment, settlement or arbitrator’s award approved by court; |
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| • | reasonable litigation expenses, including attorneys’ fees, incurred by the office holder or imposed by a court in proceedings instituted against him or her by the company, on its behalf or by a third party, in connection with criminal proceedings in which the office holder was acquitted or as a result of a conviction for a crime that does not require proof of criminal intent; and |
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| • | reasonable expenses incurred by the office holder in connection with an investigation or other proceeding by a governmental authority, if such proceeding did not result in an indictment of the office holder, or if such proceeding did not result in an indictment of the office holder and the office holder was requested to pay a fine for a crime that does not require proof of criminal intent. |
An Israeli company may insure an office holder against the following liabilities incurred for acts performed as an office holder:
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| • | a breach of duty of loyalty to the company, to the extent that the office holder acted in good faith and had a reasonable basis to believe that the act would not prejudice the company; |
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| • | a breach of duty of care to the company or to a third party; and |
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| • | a financial liability imposed on the office holder in favor of a third party. |
An Israeli company may not indemnify, insure or exculpate an office holder against any of the following:
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| • | a breach of duty of loyalty, except for insurance and indemnification where the office holder acted in good faith and had a reasonable basis to believe that the act would not prejudice the company; |
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| • | a breach of duty of care committed intentionally or recklessly; |
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| • | an act or omission committed with intent to derive illegal personal benefit; or |
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| • | a fine levied against the office holder. |
Under the Companies Law, exculpation, indemnification and insurance of office holders must be approved by our audit committee and our board of directors and, in respect of our directors, by our shareholders as well.
Our articles of association allow us to exculpate, indemnify and insure our office holders to the fullest extent permitted by the Companies Law. Our office holders are currently covered by a directors and officers’ liability insurance policy. To date, no claims for directors and officers’ liability insurance have been filed under this policy.
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We have entered into agreements with each of our office holders undertaking to exculpate, indemnify and insure them to the fullest extent permitted by law. We may enter into additional agreements to indemnify or insure our directors and officers when circumstances change or when new directors and officers join us. This indemnification is limited to events and amounts determined as foreseeable by the board of directors, and the insurance is subject to our discretion depending on its availability, effectiveness and cost. In the opinion of the U.S. Securities and Exchange Commission, however, indemnification of directors and office holders for liabilities arising under the Securities Act is against public policy and therefore unenforceable.
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C. | INTERESTS OF EXPERTS AND COUNSEL |
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| Not applicable. |
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A. | CONSOLIDATED FINANCIAL STATEMENTS AND OTHER INFORMATION |
Financial Statements
See Item 18 for audited consolidated financial statements.
Export Sales
Our manufacturing facilities for the data recorder and the PillCam capsules forming part of the Given System are located in Israel. The majority of our products are exported out of Israel. For information regarding our revenues by geographic market, see Item 5: “Operating and Financial Review and Prospects.”
Legal Proceedings
In March 2004, the U.S. Patent and Trademark Office notified us that it would conduct a reexamination of some of the claims in one of our U.S. patents in the U.S. Patent and Trademark Office pursuant to a request submitted by Olympus Corporation. In August 2005, we filed our response to an office action issued by the U.S. Patent and Trademark Office and we are awaiting its decision. We do not believe that the outcome of this reexamination proceeding will affect our ability to market and sell the Given System.
On August 9, 2004, a former employee of our U.S. subsidiary filed a complaint in California against the U.S. subsidiary and two other individual defendants for, among other things, wrongful termination, and alleged discrimination and harassment based on age. The former employee claims he is entitled to damages, in an unstated amount, as well as interest and attorneys’ fees. The court assigned the case to mediation, which resulted in us paying the former employee $185,000 in full settlement of his claims, including attorneys’ fees, without admitting any wrongdoing.
From time to time we may be involved in legal proceedings. Other than described above, currently we are not party to any legal proceedings whose outcome may be material to our financial condition or results of operations.
Dividend Policy
We have never declared or paid any cash dividends on our ordinary shares and we do not anticipate paying any cash dividends on our ordinary shares in the foreseeable future. We currently intend to retain all future earnings to finance our operations and to expand our business. Any future determination relating to our dividend policy will be made at the discretion of our board of directors and will depend on a number of factors, including future earnings, capital requirements, financial condition and future prospects and other factors the board of directors may deem relevant.
Significant Changes
Except as otherwise disclosed in this Form 20-F, there has been no significant change in our financial position since December 31, 2005.
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A. OFFER AND LISTING DETAILS
Nasdaq National Market
The following table lists the high and low closing sale prices of our ordinary shares for the periods indicated as reported by the Nasdaq National Market:
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Annual Highs and Lows |
| High |
| Low |
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2005 |
| $ | 36.04 |
| $ | 20.39 |
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2004 |
| $ | 44.08 |
| $ | 17.87 |
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2003 |
| $ | 18.80 |
| $ | 6.65 |
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2002 |
| $ | 18.05 |
| $ | 6.91 |
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Quarterly Highs and Lows |
| High |
| Low |
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| |||||
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1st quarter 2006 |
| $ | 28.37 |
| $ | 21.65 |
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1st quarter 2005 |
| $ | 36.04 |
| $ | 29.53 |
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2nd quarter 2005 |
| $ | 29.66 |
| $ | 22.51 |
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3rd quarter 2005 |
| $ | 26.41 |
| $ | 20.92 |
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4th quarter 2005 |
| $ | 27.46 |
| $ | 20.39 |
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1st quarter 2004 |
| $ | 34.25 |
| $ | 17.87 |
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2nd quarter 2004 |
| $ | 38.51 |
| $ | 30.30 |
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3rd quarter 2004 |
| $ | 39.35 |
| $ | 31.35 |
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4th quarter 2004 |
| $ | 44.08 |
| $ | 27.10 |
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Most Recent Six Months |
| High |
| Low |
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March 2006 |
| $ | 23.76 |
| $ | 21.65 |
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February 2006 |
| $ | 26.61 |
| $ | 23.04 |
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January 2006 |
| $ | 28.37 |
| $ | 26.53 |
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December 2005 |
| $ | 27.46 |
| $ | 23.59 |
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November 2005 |
| $ | 25.24 |
| $ | 22.26 |
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October 2005 |
| $ | 23.96 |
| $ | 20.39 |
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On March 15, 2006, the closing price of our ordinary shares on the Nasdaq National Market was $22.91 per share. According to our transfer agent, as of March 15, 2006, there were approximately 137 holders of record of our ordinary shares.
Tel Aviv Stock Exchange
The following table lists the high and low closing sale prices of our ordinary shares for the periods indicated as reported by the Tel Aviv Stock Exchange:
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Annual Highs and Lows |
| High |
| Low |
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2005 |
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| NIS155.30 |
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| NIS95.79 |
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2004 |
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| NIS194.60 |
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| NIS123.90 |
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Quarterly Highs and Lows |
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| High |
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| Low |
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| |||
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1st quarter 2006 |
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| NIS132.60 |
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| NIS101.60 |
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1st quarter 2005 |
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| NIS155.30 |
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| NIS129.20 |
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2nd quarter 2005 |
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| NIS129.30 |
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| NIS102.90 |
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3rd quarter 2005 |
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| NIS118.50 |
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| NIS95.99 |
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4th quarter 2005 |
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| NIS126.00 |
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| NIS95.79 |
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1st quarter 2004 |
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| NIS155.90 |
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| NIS140.40 |
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2nd quarter 2004 |
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| NIS181.00 |
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| NIS140.30 |
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3rd quarter 2004 |
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| NIS175.40 |
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| NIS141.10 |
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4th quarter 2004 |
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| NIS194.60 |
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| NIS123.90 |
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Most Recent Six Months |
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| High |
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| Low |
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March 2006 |
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| NIS110.90 |
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| NIS101.60 |
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February 2006 |
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| NIS124.30 |
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| NIS109.40 |
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January 2006 |
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| NIS132.60 |
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| NIS122.20 |
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December 2005 |
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| NIS126.00 |
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| NIS110.20 |
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November 2005 |
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| NIS117.70 |
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| NIS104.10 |
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October 2005 |
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| NIS109.70 |
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| NIS95.79 |
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The average exchange ratio of NIS to U.S. dollar in 2005 was NIS 4.4878 to $1.0.
B. PLAN OF DISTRIBUTION
Not applicable.
C. MARKETS
Our ordinary shares have traded publicly on the Nasdaq National Market under the symbol “GIVN” since October 2001 and on the Tel Aviv Stock Exchange under the symbol “GIVN” since March 2004. Our ordinary shares trade publicly only on the Nasdaq National Market and the Tel Aviv Stock Exchange.
D. SELLING SHAREHOLDERS
Not applicable.
E. DILUTION
Not applicable.
F. EXPENSES OF THE ISSUE
Not applicable.
ITEM 10. ADDITIONAL INFORMATION
A. SHARE CAPITAL
Not applicable.
B. MEMORANDUM AND ARTICLES OF ASSOCIATION
Objects
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Our objects under our memorandum of association are to engage in any type of manufacturing, trade, production, labor, agriculture, and professional and business services in all branches and areas of economic activity, to advance trade, importing and exporting, and any other object determined by our board of directors from time to time. Our objects under our articles of association are to engage in any lawful business.
Transfer of Shares and Notices
Fully paid ordinary shares are issued in registered form and may be freely transferred under our articles of association unless the transfer is restricted or prohibited by another instrument, Israeli law or the rules of a stock exchange on which the shares are traded. Our articles of association provide that each shareholder of record is entitled to receive at least 21 days’ prior notice of any shareholders’ meeting.
Election of Directors
Our ordinary shares do not have cumulative voting rights for the election of directors. Rather, under our articles of association our directors are appointed by the holders of a simple majority of our ordinary shares at a general shareholder meeting. As a result, the holders of our ordinary shares that represent more than 50% of the voting power represented at a shareholder meeting have the power to elect or remove any or all of our directors, subject to the special approval requirements for outside directors described under “Management-Outside Directors.” Under the Companies Law, the procedures for the appointment and removal and the term of office of directors, other than outside directors, may be contained in the articles of association of a company. Our articles of association currently do not contain provisions for staggered terms for directors. However, our articles of association may be amended in the future by a majority of our shareholders at a general shareholder meeting to provide for a staggered board or other method of electing our directors, other than with respect to our outside directors.
Dividend and Liquidation Rights
Our board of directors may declare a dividend to be paid to the holders of ordinary shares in proportion to the paid up capital attributable to the shares that they hold. Dividends may only be paid out of our profits and other surplus funds, as defined in the Companies Law, as of the end of the most recent fiscal year or as accrued over a period of two years, whichever is higher, provided that there is no reasonable concern that a payment of a dividend will prevent us from satisfying out existing and foreseeable obligations as they become due. In the event of our liquidation, after satisfaction of liabilities to creditors, our assets will be distributed to the holders of ordinary shares in proportion to the paid up capital attributable to the shares that they hold. This right may be affected by the grant of preferential dividend or distribution rights to the holders of a class of shares with preferential rights that may be authorized in the future.
Shareholder Meetings
We are required to convene an annual general meeting of our shareholders once every calendar year within a period of not more than 15 months following the preceding annual general meeting. Our board of directors is required to convene a special general meeting of our shareholders at the request of two directors or one quarter of the members of our board of directors or at the request of one or more holders of 5% or more of our share capital and 1% of our voting power or the holder or holders of 5% or more of our voting power. All shareholder meetings require prior notice of at least 21 days. The chairperson of our board of directors or any other directors designated by the board presides over our general meetings. Shareholders entitled to participate and vote at general meetings are the shareholders of record on a date to be decided by the board of directors, which may be between four and 40 days prior to the date of the meeting.
Quorum
The quorum required for an ordinary meeting of shareholders consists of at least two shareholders present, in person or by proxy, who hold or represent between them at least 33 1¤3% of our issued share capital. A meeting adjourned for lack of a quorum generally is adjourned to the same day in the following week at the same time and place or any time and place as the directors designate in a notice to the shareholders. At the reconvened meeting, the required quorum consists of one or more shareholders present in person or by proxy, unless the meeting was called pursuant to a request by our shareholders in which case the quorum required is the number of shareholders required to call the meeting as described under “—Shareholder Meetings.”
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Voting
Holders of our ordinary shares have one vote for each ordinary share held on all matters submitted to a vote of shareholders at a shareholder meeting. Shareholders may vote at shareholder meetings either in person or by proxy. Israeli law does not provide for public companies such as us to have shareholder resolutions adopted by means of a written consent in lieu of a shareholder meeting. Shareholder voting rights may be affected by the grant of any special voting rights to the holders of a class of shares with preferential rights that may be authorized in the future. The Companies Law provides that a shareholder, in exercising his or her rights and performing his or her obligations toward the company and its other shareholders, must act in good faith and in an acceptable manner, and avoid abusing his or her powers. This is required when voting at general meetings on matters such as changes to the articles of association, increasing the company’s registered capital, mergers and approval of related party transactions. A shareholder must also avoid oppression of other shareholders. In addition, any controlling shareholder, any shareholder who knows that its vote can determine the outcome of a shareholder vote and any shareholder who, under the company’s articles of association, can appoint or prevent the appointment of an office holder, is required to act with fairness towards the company. The Companies Law does not describe the substance of this duty and there is no binding case law that addresses this subject directly. Any voting agreement is also subject to observance of these duties.
Resolutions
An ordinary resolution requires approval by the holders of a simple majority of the voting rights represented at the meeting, in person, by proxy or by written ballot, and voting on the resolution.
Under the Companies Law, unless otherwise provided in the articles of association or applicable law, all resolutions of the shareholders require a simple majority. A resolution for the voluntary winding up of the company requires the approval by holders of 75% of the voting rights represented at the meeting, in person, by proxy or by written ballot and voting on the resolution.
Access to Corporate Records
Under the Companies Law, all shareholders generally have the right to review minutes of our general meetings, our shareholder register, our articles of association and any document we are required by law to file publicly with the Israeli Companies Registrar. Any shareholder who specifies the purpose of its request may request to review any document in our possession that relates to any action or transaction with a related party which requires shareholder approval under the Companies Law. We may deny a request to review a document if we determine that the request was not made in good faith, that the document contains a commercial secret or a patent or that the document’s disclosure may otherwise harm our interests.
Acquisitions under Israeli Law
Tender Offer. A person wishing to acquire shares or any class of shares of a publicly traded Israeli company and who would as a result hold over 90% of the company’s issued and outstanding share capital or of a class of shares which are listed is required by the Companies Law to make a tender offer to all of the company’s shareholders or all shareholders of such class of shares, as applicable, for the purchase of all of the issued and outstanding shares of the company or of that class of shares, as applicable. If the shareholders who do not respond to the offer hold less than 5% of the issued share capital of the company or of that class of shares, as applicable, all of the shares that the acquirer offered to purchase will be transferred to the acquirer by operation of law. However, the shareholders may petition the court to alter the consideration for the acquisition. If the dissenting shareholders hold more than 5% of the issued and outstanding share capital of the company or of such class of shares, as applicable, the acquirer may not acquire additional shares of the company or of such class of shares, as applicable, from shareholders who accepted the tender offer if following such acquisition the acquirer would then own over 90% of the company’s issued and outstanding share capital or of the shares comprising such class, as applicable.
The Companies Law provides that, except in specified circumstances, an acquisition of shares of a public company must be made by means of a tender offer if as a result of the acquisition the purchaser would become a 25% or greater shareholder of the company. This rule does not apply if there is already another 25% shareholder of the company. We believe that IDB Holding Corporation Ltd., which is controlled by four individuals in Israel, currently holds more than 25% of our outstanding ordinary shares as determined in accordance with the Companies Law. Similarly, the Companies Law provides that, except in specified circumstances, an acquisition of shares in a public company must be made by means of a
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tender offer if as a result of the acquisition the purchaser would become a 45% or greater shareholder of the company, if there is no 45% or greater shareholder of the company.
Merger. The Companies Law permits merger transactions if approved by each party’s board of directors and the majority of each party’s shares voted on the proposed merger at a shareholders’ meeting called on at least 21 days’ prior notice. Shareholder approval is not required in certain specified circumstances, such as a merger between a company and its wholly-owned subsidiary. Under the Companies Law, merger transactions may be approved by holders of a simple majority of our shares present, in person or by proxy, at a general meeting and voting on the transaction. In determining whether the required majority has approved the merger, if our shares are held by the other party to the merger, or by any person holding at least 25% of the outstanding voting shares or 25% of the means of appointing directors of the other party to the merger, then a vote against the merger by holders of the majority of the shares present and voting, excluding shares abstaining and shares held by the other party or by such person, or anyone acting on behalf of either of them, is sufficient to reject the merger transaction. If the transaction would have been approved but for the exclusion of the votes of certain shareholders as provided above, a court may still approve the merger upon the request of holders of at least 25% of the voting rights of a company, if the court holds that the merger is fair and reasonable, taking into account the value of the parties to the merger and the consideration offered to the shareholders. Upon the request of a creditor of either party to the proposed merger, the court may delay or prevent the merger if it concludes that there exists a reasonable concern that, as a result of the merger, the surviving company will be unable to satisfy the obligations of any of the parties to the merger. In addition, a merger may not be executed unless at least 50 days have passed from the time that a proposal for approval of the merger has been filed with the Israeli Registrar of Companies and at least 30 days have passed from the approval of the shareholders of each of the parties.
Anti-Takeover Measures
The Companies Law allows us to create and issue shares having rights different to those attached to our ordinary shares, including shares providing certain preferred or additional rights to voting, distributions or other matters and shares having preemptive rights. In the future, if we do create and issue a class of shares other than ordinary shares, such class of shares, depending on the specific rights that may be attached to them, may delay or prevent a takeover or otherwise prevent our shareholders from realizing a potential premium over the market value of their ordinary shares. The authorization of a new class of shares will require an amendment to our articles of association which requires the prior approval of a majority of our shareholders at a general meeting. Shareholders voting at such a meeting will be subject to the restrictions under the Companies Law described in “Voting.”
Transfer Agent and Registrar
The transfer agent and registrar for our ordinary shares is American Stock Transfer & Trust Company. Its address is 59 Maiden Lane, New York, New York 10038 and its telephone number at this location is (212) 936-5100.
C. MATERIAL CONTRACTS
Summaries of the following material contracts are included in this Form 20-F in the places indicated:
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Material Contract |
| Location |
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Agreements with Micron Technology, Inc. |
| Item 4.B: “Information on the Company – Part B: Business Overview – Manufacturing.” |
Agreement with Zarlink Semiconductors AB |
| Item 4.B: “Information on the Company – Part B: Business Overview – Manufacturing.” |
Agreement with Ethicon Endo-Surgery Inc. |
| Item 4.B: “Information on the Company – Part B: Business Overview – Marketing and Distribution.” |
Agreement Rafael Armament Development Authority |
| Item 7: “Major Shareholder and Related Party Transactions.” |
Investor Rights Agreement |
| Item 7: “Major Shareholder and Related Party Transactions.” |
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D. EXCHANGE CONTROLS
In 1998, Israeli currency control regulations were liberalized significantly, so that Israeli residents generally may freely deal in foreign currency and foreign assets, and non-residents may freely deal in Israeli currency and Israeli assets. There are currently no Israeli currency control restrictions on remittances of dividends on the ordinary shares or the proceeds from the sale of the shares provided that all taxes were paid or withheld; however, legislation remains in effect pursuant to which currency controls can be imposed by administrative action at any time.
Non-residents of Israel may freely hold and trade our securities. Neither our memorandum of association nor our articles of association nor the laws of the State of Israel restrict in any way the ownership or voting of ordinary shares by non-residents, except that such restrictions may exist with respect to citizens of countries which are in a state of war with Israel. Israeli residents are allowed to purchase our ordinary shares.
E. TAXATION
Israeli Tax Considerations and Government Programs
The following is a description of the material Israeli income tax consequences of the ownership of our ordinary shares. The following also contains a description of material relevant provisions of the current Israeli income tax structure applicable to companies in Israel, with special reference to its effect on us. To the extent that the discussion is based on new tax legislation which has not been subject to judicial or administrative interpretation, we cannot assure shareholders that the tax authorities will accept the views expressed in the discussion in question. The discussion is not intended, and should not be taken, as legal or professional tax advice and is not exhaustive of all possible tax considerations.
The following description is not intended to constitute a complete analysis of all tax consequences relating to the ownership or disposition of our ordinary shares. Shareholders should consult their own tax advisors concerning the tax consequences of their particular situation, as well as any tax consequences that may arise under the laws of any state, local, foreign or other taxing jurisdiction.
Taxation of Companies
General Corporate Tax Structure. In 2005, Israeli companies were subject to corporate tax at the rate of 34% of taxable income. This tax rate was reduced to 31% in 2006 and is expected to decrease gradually to 25% by 2010. However, the effective tax rate payable by a company that derives income from an approved enterprise, as discussed further below, may be considerably less.
Tax Benefits Under the Law for the Encouragement of Capital Investments, 1959. The Law for the Encouragement of Capital Investments, 1959, commonly referred to as the Investment Law, provides that a proposed capital investment in eligible facilities may, upon application to the Investment Center of the Ministry of Industry, Trade and Labor of the State of Israel, be designated as an approved enterprise. Each certificate of approval for an approved enterprise relates to a specific investment program delineated both by its financial scope, including its capital sources, and by its physical characteristics, for example, the equipment to be purchased and utilized under the program. The tax benefits derived from any certificate of approval relate only to taxable income attributable to the specific approved enterprise. If a company has more than one approval or only a portion of its capital investments is approved, its effective tax rate is the result of a weighted average of the applicable rates.
Generally, taxable income of a company derived from an approved enterprise is subject to company tax at the maximum rate of 25%, rather than the regular corporate tax rate, for a period of seven years, or ten years if the company qualifies as a foreign investors’ company as described below, commencing with the year in which the approved enterprise first generates taxable income. However, the ten-year period may not extend beyond the later of 14 years from the year in which approval was granted or 12 years from the year in which operations or production by the enterprise began. A company’s undistributed income derived from an approved enterprise in top priority locations (commonly known as “Zone A”) will be exempt from corporate tax for a period of ten years.
A company having an approved enterprise status may elect to receive an alternative package of benefits. Under the alternative package of benefits, a company’s undistributed income derived from an approved enterprise will be exempt from
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company tax for a period of between two and ten years from the first year of taxable income, depending on the geographic location of the approved enterprise within Israel, and the company will be eligible for a reduced tax rate for the remainder of the benefits period.
A company that has an approved enterprise in Zone A or that has elected the alternative package of benefits and that subsequently pays a dividend out of income derived from the approved enterprise during the tax exemption period will be subject to corporation tax on of the amount distributed. The rate of the tax will be the rate which would have been applicable had the company not been tax exempt. This corporation tax rate is 10% to 25%, depending on the percentage of the company’s shares held by foreign shareholders. The recipient of dividend distributed from such income is taxed at the rate applicable to dividends from approved enterprises which is 15%, or less under certain anti double-taxation treaties, if the dividend is distributed during the tax benefit period or within 12 years after the period and there is no time limit with respect to dividend distributed from an exempt income of foreign investors’ company. The company must withhold this tax at source.
Subject to applicable provisions concerning income under the alternative package of benefits, all dividends are considered to be attributable to the entire enterprise and their effective tax rate is the result of a weighted average of the various applicable tax rates. Under the Investment Law, a company that has elected the alternative package of benefits is not obliged to distribute exempt retained profits, and may generally decide from which year’s profits to declare dividends. We currently intend to reinvest any income derived from our approved enterprise programs and not to distribute the income as a dividend.
The Investment Center bases its decision whether or not to approve an application on the criteria in the Investment Law and regulations, the then prevailing policy of the Investment Center and the specific objectives and financial criteria of the applicant. In addition, the benefits available to an approved enterprise are conditional upon the fulfillment of conditions stipulated in the Investment Law and its regulations and the criteria in the specific certificate of approval, as described above. If a company does not meet these conditions, it would be required to refund the amount of tax benefits, with the addition of the consumer price index linkage adjustment and interest. There can be no assurance that any future approved enterprises that we may be awarded will be entitled to the same package of benefits as we currently have.
The Investment Center of the Ministry of Industry and Trade granted our manufacturing facility approved enterprise status under the Investment Law in 1999. We have elected the alternative package of benefits under these approved enterprise programs. Since our manufacturing facility is located in a “Zone A”, the portion of our income derived from this approved enterprise program will be exempt from tax for a period of ten years, commencing when we begin to realize net income from these programs, but such period may not extend beyond the later of 14 years from the year in which approval was granted or 12 years from the year in which operations or production by the enterprise began. The period of tax benefits for our approved enterprise programs has not yet commenced, because we have yet to realize taxable income. We expect to derive a substantial portion of our income from our approved enterprise program. The benefits available to an approved enterprise program are dependent upon the fulfillment of conditions stipulated in applicable law and in the certificate of approval.
The Investment Law and the criteria for receiving an “approved enterprise” status may be amended from time to time and there is no assurance that we will be able to obtain additional benefits under the Investment Law when we apply for such benefits.
A reform in the Investment Law was made in March 2005. According to this reform, instead of filing application for tax benefits with the Investment Center, companies are now allowed to claim the tax benefits on their corporate tax returns subject to fulfilling certain conditions, without prior approval and without submitting any reports to the Investment Center. Audit of any claim for tax benefits will take place by the Israeli income tax authority as part of general tax audits it may perform from time to time.
Grants Under the Law for the Encouragement of Industrial Research and Development, 1984. Under the Law for the Encouragement of Industrial Research and Development, 1984, commonly referred to as the Research Law, research and development programs which meet specified criteria and are approved by a governmental committee of the Office of the Chief Scientist are eligible for grants of up to 50% of the project’s expenditure, as determined by the research committee, in exchange for the payment of royalties from the sale of products developed under the program. Regulations under the Research Law generally provide for the payment of royalties to the Chief Scientist of 3.0% to 3.5% on sales of products and services derived from our technology developed using these grants until 100% of the dollar-linked grant is repaid, together
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with interest equal to the 12 month London Interbank Offered Rate applicable to dollar deposits that is published on the first business day of each calendar year. Following the full repayment of the grant, there is no further liability for repayment.
The terms of the Israeli government participation also require that the manufacture of products developed with government grants be performed in Israel. However, under the regulations of the Research Law, if any of the manufacturing is performed outside Israel by any entity other than us, assuming we receive approval from the Chief Scientist for the foreign manufacturing, we may be required to pay increased royalties. The increase in royalties depends upon the manufacturing volume that is performed outside of Israel follows:
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| Royalties to the Chief Scientist | |
Manufacturing Volume Outside of Israel | as a Percentage of Grant | |
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less than 50% | 120% | |
between 50% and less than 90% | 150% | |
90% and more | 300% |
If the manufacturing is performed outside of Israel by us, the rate of royalties payable by us on revenues from the sale of products manufactured outside of Israel will increase by 1% over the regular rates. If the manufacturing is performed outside of Israel by a third party, the rate of royalties payable by us on those revenues will be a percentage equal to the percentage of our total investment in the Given System that was funded by grants. In addition, in recent years the government of Israel has accelerated the repayment of Chief Scientist grants, and may further accelerate them in the future. Following our request, the Office of the Chief Scientist has approved the manufacture of limited quantities of the PillCam capsule using the back-up production line that we have established at Pemstar’s facilities in Ireland without increasing royalty rates.
The technology developed with Chief Scientist grants may not be transferred to third parties without the prior approval of a governmental committee under the Research Law, and may not be transferred to non-residents of Israel. The approval, however, is not required for the export of any products developed using the grants. Approval of the transfer of technology to residents of Israel may be granted in specific circumstances, only if the recipient abides by the provisions of the Research Law and related regulations, including the restrictions on the transfer of know-how and the obligation to pay royalties in an amount that may be increased. We cannot provide any assurance that any consent, if requested, will be granted.
The funds available for grants from the Chief Scientist depend on several criteria and prevailing government policy and budget, and may be reduced or eliminated in the future. Even if these grants are maintained, there is no assurance that we will receive Chief Scientist grants in the future. In addition, each application to the Chief Scientist is reviewed separately, and grants are based on the program approved by the research committee. Expenditures supported under other incentive programs of the State of Israel are not eligible for grants from the Chief Scientist. We cannot provide any assurance that applications to the Chief Scientist will be approved and, until approved, the amounts of any grants are not determinable.
Tax Benefits and Grants for Research and Development. Israeli tax law allows, under specific conditions, a tax deduction in the year incurred for expenditures that were paid in cash, including capital expenditures, relating to scientific research and development projects, if:
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| • | the expenditures are approved by the relevant Israeli government ministry, determined by the field of research; |
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| • | the research and development is for the promotion of the company; and |
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| • | the research and development is carried out by or on behalf of the company seeking the deduction. |
Expenditures not so approved are deductible over a three-year period. However, the amounts of any government grant made available to us are subtracted from the amount of the deductible expenses according to Israeli law.
Tax Benefits Under the Law for the Encouragement of Industry (Taxes), 1969. According to the Law for the Encouragement of Industry (Taxes), 1969, generally referred to as the Industry Encouragement Law, an industrial company is a company resident in Israel, at least 90% of the income of which, in a given tax year, determined in Israeli currency exclusive of income from specified government loans, capital gains, interest and dividends which are not classified for such
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company as business income, is derived from an industrial enterprise owned by it. An industrial enterprise is defined as an enterprise whose major activity in a given tax year is industrial production activity.
Under the Industry Encouragement Law, industrial companies are entitled to certain preferred corporate tax benefits, including the following:
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| • | deduction of purchases of know-how and patents over an eight-year period for tax purposes; and |
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| • | claiming of stock exchange issuance expenses over three years. |
Eligibility for benefits under the Industry Encouragement Law is not subject to receipt of prior approval from any governmental authority.
If we qualify as an industrial company within the definition of the Industry Encouragement Law, we are entitled to the benefits described above. We believe that in 2005 we qualified as an Industrial Company under the law for Encouragement of Industry (Taxes) 1969. We cannot provide any assurance that the Israeli tax authorities will agree with the determination that we qualified as an industrial company in the past or that we will maintain this qualification or our status as an industrial company.
Special Provisions Relating to Taxation Under Inflationary Conditions. The Income Tax Law (Inflationary Adjustments), 1985, generally referred to as the Inflationary Adjustments Law, represents an attempt to overcome the problems presented to a traditional tax system by an economy undergoing rapid inflation. The Inflationary Adjustments Law is highly complex. Its features which are material to us can generally be described as follows:
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| • | Where a company’s equity, as calculated under the Inflationary Adjustments Law, exceeds the depreciated cost of fixed assets, a deduction from taxable income is permitted equal to the excess multiplied by the applicable annual rate of inflation. The maximum deduction permitted in any single tax year is 70% of taxable income, with the unused portion permitted to be carried forward. |
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| • | Where a company’s depreciated cost of fixed assets exceeds its equity, then the excess multiplied by the applicable annual rate of inflation is added to taxable income. |
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| • | Depreciation deductions on fixed assets and losses carried forward are adjusted for inflation based on the increase in the consumer price index. |
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| • | Gains on traded securities are taxable in specified circumstances. |
Taxation of Our Shareholders
Capital Gains on Sales of Our Ordinary Shares. Israeli law imposes a capital gains tax on the sale of capital assets. The law distinguishes between real gain and inflationary surplus. The inflationary surplus is the portion of the total capital gain that is equivalent to the increase of the relevant asset’s purchase price which is attributable to the increase in the Israeli consumer price index between the date of purchase and the date of sale. Foreign residents who purchased an asset in foreign currency may request that the inflationary surplus be computed on the basis of the devaluation of the shekel against such foreign currency. The real gain is the excess of the total capital gain over the inflationary surplus. The inflationary surplus accumulated from and after December 31, 1993, is exempt from any capital gains tax in Israel while the real gain is taxed at the applicable rate discussed below.
Dealers in securities in Israel are taxed at regular tax rates applicable to business income.
Under the convention between the United States and Israel concerning taxes on income, Israeli capital gains tax will not apply to the sale, exchange or disposition of ordinary shares by a person:
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| • | who qualifies as a resident of the United States within the meaning of the U.S.-Israel tax treaty; and |
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| • | who is entitled to claim the benefits available to the person by the U.S.-Israel tax treaty. |
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However, this exemption does not apply, among other cases, if the gain is attributable to a permanent establishment of such person in Israel, or if the holder is a resident of the United States within the meaning of the U.S.-Israeli tax treaty who holds, directly or indirectly, shares representing 10% or more of our voting power during any part of the 12-month period preceding the sale, exchange or disposition, subject to specified conditions. Under these circumstances, the sale, exchange or disposition would be subject to Israeli tax, to the extent applicable. However, under the U.S.-Israel tax treaty, a U.S. resident generally would be permitted to claim a credit for the Israeli taxes paid against the U.S. federal income tax imposed on the sale, exchange or disposition, subject to the limitations under U.S. law applicable to foreign tax credits. The U.S.-Israel tax treaty does not relate to U.S. state or local taxes.
For residents of other countries, the purchaser of shares may be required to withhold 25% capital gains tax on all amounts received for the sale of our ordinary shares, for so long as the capital gain from such a sale is not exempt from Israeli capital gains tax, and unless a different rate is provided in a treaty between Israel and the seller’s country of residence.
Under new legislation, which became effective on January 1, 2003, the capital gain from the sale of shares by non Israeli residents is tax exempt in Israel as long as our shares are listed on the Nasdaq National Market or any other stock exchange recognized by the Israeli Ministry of Finance, and provided certain other conditions are met, the most relevant of which are: (A) the capital gain is not attributed to the foreign resident’s permanent establishment in Israel, and (B) the shares were acquired by the foreign resident after the company’s shares had been listed for trading on the foreign exchange. In addition, capital gains from the sale of our ordinary shares by non-Israeli residents who purchased or will have purchase the shares between July 1, 2005 and December 31, 2008 and whose state of residence has a double tax treaty with Israel will generally be tax exempt irrespective of whether our shares are listed on any stock exchange. If the shares were sold by Israeli residents, then (A) for the period ending December 31, 2002 their sale would be tax exempt so long as (1) the shares are listed on a stock exchange, such as the Nasdaq National Market, which is recognized by the Israeli Ministry of Finance, and (2) we qualified as an industrial company or industrial holding company under the law for Encouragement of Industry (Taxes) 1969, and (B) for the period commencing January 1, 2003, the sale of the shares would be subject to a 20% tax, or 25% if the seller holds 10% or more of the “means of control” of our company, as such term is defined by the law. We believe that in 2005 we qualified as an Industrial Company under the law for Encouragement of Industry (Taxes) 1969. We cannot provide any assurance that the Israeli tax authorities will agree with the determination that we qualified as an industrial company in the past or that we will maintain this qualification or our status as an industrial company. If we are delisted, gains from the sale of our ordinary shares will be subject to capital gains tax at a rate of 20% unless an exemption or other lower tax rate applies in accordance with a tax treaty between Israel and the shareholder’s country of residence.
Non-residents of Israel are subject to tax on income accrued or derived from sources in Israel. These sources of income include passive income such as dividends, royalties and interest, as well as non-passive income, such as income received for services rendered in Israel. We are required to withhold income tax at the rate of 25% with respect to passive income (or 15% for dividends distributed from income generated by an approved enterprise) unless a different rate or an exemption is provided in a tax treaty between Israel and the shareholder’s country of residence.
Under an amendment to the Inflationary Adjustments Law, non-Israeli corporations might be subject to Israeli taxes on the sale of shares in an Israeli company which are traded on certain stock markets, including The Nasdaq National Market, subject to the provisions of any applicable double taxation treaty.
Stamp Duty
Until December 31, 2005, stamp duty applied in Israel to various types of documents at various rates, depending primarily on the type of the document and the amount specified, or not, therein. In June 2003, the Israeli statute imposing the stamp duty was amended in a manner believed by many to significantly expand the tax basis. Following this amendment, the Israeli Tax Authority has increased enforcement of this statute. To date, we have not received a demand for payment of stamp duty following this amendment. We currently do not believe that any stamp duty that may be imposed on us as a result of this amendment would materially adversely affect our financial condition. The Israeli legislator has cancelled the stamp duty for any documents or transactions, effective January 1, 2006.
United States Federal Income Taxation
The following is a description of the material United States federal income tax consequences of the ownership of our ordinary shares. This description does not purport to address all of the tax considerations that may be relevant to a decision to purchase, own or dispose of our ordinary shares. This description assumes that holders of our ordinary shares will
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hold the ordinary shares as capital assets. This summary does not address tax considerations applicable to holders who may be subject to special tax rules, including:
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| • | dealers or traders in securities or currencies; |
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| • | tax-exempt entities; |
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| • | banks, financial institutions or insurance companies; |
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| • | real estate investment trusts, regulated investment companies or grantor trusts; |
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| • | persons who received our ordinary shares as compensation for the performance of services; |
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| • | holders who own, or are deemed to own, at least 10% or more, by voting power or value, of our shares; |
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| • | certain former citizens or residents of the United States; |
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| • | investors whose functional currency is not the United States dollar; or |
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| • | holders who hold our ordinary shares as part of a position in a “straddle” or as part of a “hedging” or “conversion” transaction for United States federal income tax purposes. |
Further, this description does not address any United States federal estate and gift or alternative minimum tax consequences, nor any state, local, or foreign tax consequences relating to the acquisition, ownership and disposition of our ordinary shares.
This description is based on the Internal Revenue Code of 1986, as amended, United States Treasury Regulations and judicial and administrative interpretations thereof, in each case as in effect and available on the date of this annual report. The United States tax laws and the interpretation thereof are subject to change, which change could apply retroactively and could affect the tax consequences described below.
Unless specifically noted below, the following description applies only to owners of our ordinary shares that are U.S. Holders, as defined below, for United States federal income tax purposes.
For purposes of this description, a “U.S. Holder” is a beneficial owner of ordinary shares that, for United States federal income tax purposes, is:
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| • | citizen or resident of the United States; |
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| • | a corporation or partnership created or organized in or under the laws of the United States or any state thereof, including the District of Columbia; |
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| • | an estate if its income is subject to United States federal income taxation regardless of its source; or |
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| • | a trust if such trust validly has elected to be treated as a United States person for United States federal income tax purposes or if a United States court can exercise primary supervision over its administration and one or more United States persons have the authority to control all of its substantial decisions. |
A non-U.S. Holder is a beneficial owner of ordinary shares that is not a U.S. Holder.
If a partnership (or any other entity treated as a partnership for U.S. federal income tax purposes) holds our ordinary shares, the tax treatment of the partnership and a partner in such partnership generally will depend on the status of the partner and the activities of the partnership. Such a partner or partnership should consult its own tax advisor as to its consequences.
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Shareholders should consult their own tax advisors with respect to the United States federal, state, local and foreign tax consequences of acquiring, owning or disposing of our ordinary shares.
Distributions
Subject to the discussion below under “Passive Foreign Investment Company Considerations”, the entire amount of any distribution made to you with respect to ordinary shares, other than any distributions of our ordinary shares made to all our shareholders, will constitute dividends to the extent of our current or accumulated earnings and profits as determined under United States federal income tax principles. For these purposes, the amount of the distribution will not be reduced by the amount of any Israeli tax withheld from the distribution. Subject to the discussion below under “Passive Foreign Investment Company Considerations”, non-corporate U.S. Holders may be taxed on the dividend distributions made in taxable years beginning on or before December 31, 2008 at the lower rates applicable to long-term capital gains (i.e., gains with respect to capital assets held for more than one year), provided that certain conditions are met, including certain holding period requirements and the absence of certain risk reduction transactions. In addition, the dividends will be included in your gross income as ordinary income and will not be eligible for the dividends received deduction generally allowed to corporate United States holders. Subject to the discussion below under “Passive Foreign Investment Company Considerations”, if distributions with respect to our ordinary shares exceed our current and accumulated earnings and profits as determined under United Stated federal income tax principles, the excess distributed with respect to any ordinary share would be treated first as a tax-free return of capital to the extent of your adjusted basis in that ordinary share and thereafter as capital gain. We do not maintain calculations of our earnings and profits under U.S. federal income tax principles.
If we pay a dividend or distribution in NIS, any such dividend or distribution will be included in your gross income in an amount equal to the U.S. dollar value of NIS on the date of receipt. You will have a tax basis for United States federal income tax purposes in the NIS received equal to that dollar value, and any subsequent gain or loss in respect of the NIS arising from exchange rate fluctuations will generally be taxable as U.S. source ordinary income or loss.
Dividends received by you with respect to your ordinary shares generally will be treated as foreign source income, which may be relevant in calculating your foreign tax credit limitation. You may generally elect to claim the Israeli income tax withheld from dividends and distributions you receive with respect to your ordinary shares as a foreign tax credit against your United States federal income tax liability, subject to a number of limitations. Among the limitations, the foreign tax credits allowable with respect to specific classes of income cannot exceed the U.S. federal income tax payable with respect to each such class. Dividends we pay generally will be included in the “passive income” class for these purposes, or, in the case of certain financial services entity holders, “financial services income.” U.S. Holders should note, however, that the “financial services income” category will be eliminated for taxable years beginning after December 31, 2006. Under the recently enacted legislation, the foreign tax credit limitation categories are limited to “passive category income” and “general category income.”
Subject to the discussion below under “Backup Withholding and Information Reporting,” if you are a non-U.S. Holder of our ordinary shares, you generally will not be subject to United States federal income or withholding tax on dividends you receive on your ordinary shares, unless the dividends are effectively connected with your conduct of a trade or business in the United States.
Sale or Exchange of Our Ordinary Shares
Subject to the discussion below under “Passive Foreign Investment Company Considerations”, if you are a U.S. Holder, you generally will recognize capital gain or loss for United States federal income tax purposes when you sell, exchange or otherwise dispose of our ordinary shares equal to the difference between your adjusted tax basis in the ordinary shares and the amount realized on their disposition. If you are a non-corporate U.S. Holder, the maximum marginal United States federal income tax rate applicable to such gain will be lower than the maximum marginal United States federal income tax rate applicable to ordinary income (other than certain dividends) if your holding period for our ordinary shares exceeds one year (i.e., such gain is long-term capital gain). Any gain or loss recognized by you generally will be treated as United States source income or loss for United States foreign tax credit purposes. The deductibility of capital losses is subject to limitations.
Subject to the discussion below under “Backup Withholding and Information Reporting,” if you are a non-U.S. Holder of our ordinary shares, you generally will not be subject to United States federal income or withholding tax on gain realized on the sale or exchange of such ordinary shares unless (1) such gain is effectively connected with your conduct of a
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trade or business in the United States, or (2) in the case of gain realized by an individual non-United States holder, you are present in the United States for 183 days or more in the taxable year of the sale or exchange and certain other conditions are met.
Passive Foreign Investment Company Considerations
A non-United States corporation will be classified as a “passive foreign investment company” or a PFIC, for United States federal income tax purposes in any taxable year in which, after applying applicable look-through rules, either (1) at least 75% of its gross income is “passive income,” or (2) at least 50% of the value of its gross assets is attributable to assets that produce passive income or are held for the production of passive income. Passive income for this purpose includes items such as dividends, interest, royalties, rents and gains from commodities and securities transactions.
Based on our estimated gross income, the average value of our gross assets (determined by reference to the market value of our shares and valuing our intangible assets using the methods prescribed for publicly traded corporations) and the nature of our business, we believe that we will not be classified as a PFIC for the taxable year ended December 31, 2005. Our status in future years will depend on our assets and activities in those years, although you will be treated as continuing to own an interest in a PFIC if we are a PFIC in any year while you own your shares unless you make certain elections. We have no reason to believe that our assets or activities will change in a manner that would cause us to be classified as a PFIC, but because the market price of our ordinary shares is likely to fluctuate, we cannot assure you that we will not be considered a PFIC for any taxable year. If we were a PFIC, you generally would be subject to imputed interest charges and other disadvantageous tax treatment (including the denial of the taxation of such dividends at the lower rates applicable to long-term capital gains, as discussed above under “Distributions”) with respect to any gain from the sale or exchange of, and excess distributions with respect to, the ordinary shares.
If we were a PFIC, you could make a variety of elections that may alleviate the tax consequences referred to above, and one of these elections may be made retroactively. However, it is expected that the conditions necessary for making certain of such elections will not apply in the case of our ordinary shares. You should consult your own tax advisor regarding our potential status as a PFIC and the tax consequences that would arise if we were treated as a PFIC.
Backup Withholding and Information Reporting
United States backup withholding taxes and information reporting requirements generally apply to certain payments to certain non-corporate holders of stock. Information reporting requirements will, and a backup withholding tax may, apply to payments of dividends on, and to proceeds from the sale, exchange or redemption of, our ordinary shares made within the United States, or by a U.S. payor or U.S. middleman, to a holder of our ordinary shares, other than an exempt recipient, including a corporation, a payee that is not a United States person that provides an appropriate certification and certain other persons. Backup withholding is not an additional tax and may be claimed as a credit against your U.S. federal income tax liability, and you may obtain a refund of any excess amounts withheld under the backup withholding rules by filing an appropriate claim for refund with the IRS and furnishing any required information. The backup withholding tax rate is 28% for years through 2010.
In the case of such payments made within the United States, or by a U.S. payor or U.S. middleman, to a foreign simple trust, foreign grantor trust or foreign partnership, other than payments to a foreign simple trust, foreign grantor trust or foreign partnership that qualifies as a “withholding foreign trust” or a “withholding foreign partnership” within the meaning of the applicable United States Treasury Regulations and payments to a foreign simple trust, foreign grantor trust or foreign partnership that are effectively connected with the conduct of a trade or business in the United States, the beneficiaries of the foreign simple trust, the person treated as the owner of the foreign grantor trust or the partners of the foreign partnership, as the case may be, will be required to provide the certification discussed above in order to establish an exemption from backup withholding tax and information reporting requirements. Moreover, a payor may rely on a certification provided by a payee that is not a United States person only if such payor does not have actual knowledge or a reason to know that any information or certification stated in such certificate is incorrect.
The above description is not intended to constitute a complete analysis of all tax consequences relating to the acquisition, ownership or disposition of our ordinary shares. Shareholders should consult their own tax advisors concerning the tax consequences of your particular situation, as well as any tax consequences that may arise under the laws of any state, local, foreign or other taxing jurisdiction.
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F. | DIVIDENDS AND PAYING AGENTS |
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| Not applicable. |
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G. | STATEMENTS BY EXPERTS |
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| Not applicable. |
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H. | DOCUMENTS ON DISPLAY |
We are currently subject to the information and periodic reporting requirements of the U.S. Securities Exchange Act of 1934, as amended (the “Exchange Act”), and file periodic reports and other information with the Securities and Exchange Commission through its electronic data gathering, analysis and retrieval (EDGAR) system. Our securities filings, including this Annual Report and the exhibits thereto, are available for inspection and copying at the public reference facilities of the Securities and Exchange Commission located at 1580 100 F Street, N.E., Washington, D.C. 20549. You may also obtain copies of the documents at prescribed rates by writing to the Public Reference Section of the Securities and Exchange Commission at 100 F Street, N.E., Washington, DC 20549. Please call the Securities and Exchange Commission at 1-800-SEC-0330 for further information on the public reference room. The Commission also maintains a website at http://www.sec.gov from which certain filings may be accessed.
As a foreign private issuer, we are exempt from the rules under the Exchange Act relating to the furnishing and content of proxy statements, and our officers, directors and principal shareholders will be exempt from the reporting and short-swing profit recovery provisions contained in Section 16 of the Exchange Act. In addition, we are not required under the Exchange Act to file periodic reports and financial statements with the Securities and Exchange Commission as frequently or as promptly as United States companies whose securities are registered under the Exchange Act.
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I. | SUBSIDIARY INFORMATION |
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| Not applicable. |
ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We develop and manufacture products primarily in Israel and sell the majority of the products in the United States, and to a lesser extent in other countries. As a result, our financial results could be affected by factors such as changes in foreign currency exchange rates or weak economic conditions in foreign markets. As most of our sales are made in U.S. dollars, a strengthening of the U.S. dollar could make our products less competitive in foreign markets. In addition, the lower value of the U.S. dollar compared to the NIS increases the operating expenses reported in our financial statements. Our interest income is sensitive to changes in the general level of interest rates in the United States and Israel since the majority of our investments are in short-term instruments that are tied to the interest rates in these countries. Due to the nature of our short-term investments, we do not believe that there is any material market risk exposure. Therefore, we believe that no quantitative tabular disclosures are required.
ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES
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| Not applicable. |
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ITEM 13. DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES
None.
ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS
Not applicable.
ITEM 15. CONTROLS AND PROCEDURES
We maintain disclosure controls and procedures that are designed to provide reasonable assurance that information required to be disclosed in our periodic filings with the SEC is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer (CEO) and Chief Financial Officer (CFO), as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. Furthermore, management necessarily was required to use its judgment in evaluating the cost to benefit relationship of possible disclosure controls and procedures.
As of the end of the period covered by this report, we performed an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures. The evaluation was performed with the participation of senior management of each business segment and key corporate functions, and under the supervision of our CEO and CFO. Based on the evaluation, our management, including the CEO and CFO, concluded that our disclosure controls and procedures were effective at the reasonable assurance level.
In connection with the preparation and audit of our 2004 financial statements, we discovered that a former employee of our U.S. subsidiary had misappropriated approximately $0.4 million during the period 2002 through 2004, with the bulk of the misappropriation taking place in 2004. See Part A “Operating Results” under Item 5 “Operating and Financial Review and Prospectus.” We undertook an investigation, which was completed in February 2005, with the assistance of independent legal counsel and forensic accountants. The investigators concluded that insufficient supervision and a lack of segregation of duties regarding cash and cash processing at our U.S. subsidiary may have facilitated the misappropriation. Between March and September 2005, we recovered an aggregate of $0.4 million from this former employee.
We have taken a number of remedial actions to address the internal control deficiencies that contributed to the misappropriation. First, we have replaced the entire financial management team of our U.S. subsidiary. Second, we have instituted a whistleblower policy, in accordance with legal requirements that became applicable to us in July 2005, to enable employees to report anonymously and confidentially any accounting, financial and other events of which they believe management should be aware. Third, we implemented new signature rights policy requiring dual signatures on all company checks. Finally, we have instituted a policy of conducting background checks on employees engaged in financial, accounting and other specified positions.
In June 2005, the financial management team of our U.S. subsidiary advised us that our U.S. subsidiary has not collected state sales tax on its sales since sales in the United States began in the fourth quarter of 2001. We believe the failure to collect and remit sales tax was a result of a good faith error that sales are exempt since most of the initial sales by our U.S. subsidiary were to non-profit hospitals, which are exempt from sales tax in most states. Following our discovery of the matter we contacted our customers in order to collect the required sales tax and remit it to the relevant states. In addition, we immediately took remedial measures to ensure that all invoices are issued with the applicable sales tax. We also included in our financial statements for the year ended December 31, 2005 a provision of $1.8 million, before tax effect, for possible uncollectible sales tax due from our customers related to all affected periods (2001 through the second quarter of 2005) plus interest and penalties. We believe this provision is adequate to cover any obligations we may have as a result of this matter.
-87-
Other than as described above, during the period covered by this annual report, there have not been any changes in our internal control over financial reporting that have materially affected, or that are reasonably likely to materially affect, our internal control over financial reporting.
ITEM 16A. AUDIT COMMITTEE FINANCIAL EXPERT.
The board of directors has determined that Michael Grobstein is the financial expert serving on its audit committee and that Mr. Grobstein is independent as that term is defined under the Nasdaq National Marketing listing requirements.
We have adopted a code of ethics applicable to our chief executive officer, chief financial officer, controller and persons performing similar functions. The code of ethics was filed with the SEC as Exhibit 11.1 to our Annual Report on Form 20-F for the fiscal year ended December 31, 2003 and is also available on our website, www.givenimaging.com.
ITEM 16C. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The following table sets forth the total remuneration that was paid by us and our subsidiaries to our independent accountants, KPMG, in each of our previous two fiscal years:
|
|
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|
|
|
|
|
|
|
|
| 2004 |
| 2005 |
| ||
|
|
|
|
| ||||
|
|
| (in thousands) |
| ||||
|
|
|
|
|
|
|
|
|
| Audit and audit-related fees |
| $ | 249 |
| $ | 710 |
|
| Tax fees |
|
| 64 |
|
| 114 |
|
| All other fees |
|
| 146 |
|
| 92 |
|
|
|
|
|
| ||||
| Total |
| $ | 459 |
| $ | 916 |
|
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|
|
| ||
| (1) | “Audit-related fees” includes fees related to our audit procedures and the audit procedures of all of our subsidiaries. |
|
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|
| (2) | “Tax fees” includes fees for professional services rendered by our auditors for tax compliance and tax advice on actual or contemplated transactions. |
|
|
|
| (3) | “All other fees” includes fees related to advice on international transfer prices, compliance with Sarbanes-Oxley Act requirements and advice regarding U.S. sales tax. |
Our audit committee pre-approved all audit and non-audit services provided to us and to our subsidiaries during the periods listed above.
ITEM 16D. EXEMPTIONS FROM THE LISTING STANDARDS FOR AUDIT COMMITTEES.
None.
ITEM 16E. PURCHASES OF EQUITY SECURITIES BY THE ISSUER AND AFFILIATED PURCHASERS
None.
-88-
Not applicable.
See pages F-2 to F-29.
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| |
Exhibit |
| Description | ||
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| |||
|
|
| ||
1.1 |
| Articles of Association, incorporated by reference to Exhibit 3.2 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. | ||
|
|
| ||
4.1 |
| Investor Rights Agreement, dated as of September 15, 2000, by and among the Registrant and the parties thereto, incorporated by reference to Exhibit 10.10 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. | ||
|
|
| ||
4.2 |
| Amendment No. 1 to Investor Rights Agreement, dated as of July 16, 2001, by and among the Registrant and the parties thereto, incorporated by reference to Exhibit 10.17 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. | ||
|
|
| ||
4.3 |
| Production Development, Manufacturing and Sales Agreement, dated as of November 26, 2002, by and between Micron Technology, Inc. and the Registrant, incorporated by reference to Exhibit 4.3 of the Annual Report on Form 20-F for the year ended December 31, 2003, filed with the Commission on March 17, 2004.† | ||
|
|
| ||
4.4 |
| Technology Purchase and License Agreement, dated as of January 29, 1998, by and between Rafael Armament Development Authority of the Israeli Ministry of Defense and the Registrant, incorporated by reference to Exhibit 10.12 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. | ||
|
|
| ||
4.5 |
| Form of Indemnification Agreement between directors and officers of the Registrant and the Registrant, incorporated by reference to Exhibit 10.15 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. | ||
|
|
| ||
4.6 |
| Lease Agreement, dated as of December 15, 1999, by and between B. A. T. M. Lands Ltd. and the Registrant, incorporated by reference to Exhibit 10.16 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. | ||
|
|
| ||
4.7 |
| Purchase and Sale Contract, dated as of August 25, 2001, by and between Pemstar, Inc. and the Registrant, incorporated by reference to Exhibit 10.18 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. | ||
|
|
| ||
4.8 |
| Form of Standard Distribution Agreement of the Registration, incorporated by reference to Exhibit 10.19 of the Registration Statement on Form F-1 (File No. 333-81514) filed with the Commission on February 1, 2002. | ||
|
|
| ||
4.9 |
| Lease Agreement, dated as of November 26, 2001, by and between Sha’ar Yoqneam L.P. and the Registrant, incorporated by reference to Exhibit 10.20 of the Registration Statement on Form F-1 (File No. 333-81514) filed with the Commission on February 1, 2002. | ||
|
|
| ||
4.10 |
| Summary of Material Terms of Addendum, dated December 2002, to Lease Agreement, dated as of November 26, 2001, by and between Sha’ar Yoqneam and the Registrant, incorporated by reference to Exhibit 4.11 of the | ||
-89-
|
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|
|
| Annual Report on Form 20-F for the year ended December 31, 2002, filed with the Commission on April 10, 2003. |
|
|
|
4.11 |
| Development and Supply Agreement, dated April 8, 2002, by and between Zarlink Semiconductor AB and the Registrant, incorporated by reference to Exhibit 4.11 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005.† |
|
|
|
4.12 |
| Addendum to Development and Supply Agreement, dated July 2005, by and between Zarlink Semiconductor AB and the Registrant.† |
|
|
|
4.13 |
| Exclusive Sales, Representation, Co-Promotion and Cooperation Agreement, dated May 10, 2004, by and between Ethicon Endo-Surgery, Inc. and the Registrant, incorporated by reference to Exhibit 4.12 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005.† |
|
|
|
4.14 |
| Amendment No. 1, dated June 2004, to the Exclusive Sales, Representation, Co-Promotion and Cooperation Agreement, dated May 10, 2004, by and between Ethicon Endo-Surgery, Inc. and the Registrant, incorporated by reference to Exhibit 4.13 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005.† |
|
|
|
4.15 |
| Amendment No. 2, dated October 4, 2004, to the Exclusive Sales, Representation, Co-Promotion and Cooperation Agreement, dated May 10, 2004, by and between Ethicon Endo-Surgery, Inc. and the Registrant, incorporated by reference to Exhibit 4.14 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005.† |
|
|
|
4.16 |
| Amendment No. 3, dated October 27, 2005, to the Exclusive Sales, Representation, Co-Promotion and Cooperation Agreement, dated May 10, 2004, by and between Ethicon Endo-Surgery, Inc. and the Registrant. |
|
|
|
4.17 |
| Amendment No. 4, dated November 14, 2005, to the Exclusive Sales, Representation, Co-Promotion and Cooperation Agreement, dated May 10, 2004, by and between Ethicon Endo-Surgery, Inc. and the Registrant. |
|
|
|
4.18 |
| Second Addendum, dated July 5, 2004, to the Lease Agreement, dated as of November 26, 2001, by and between Sha’ar Yoqneam L.P. and the Registrant, incorporated by reference to Exhibit 4.15 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005. |
|
|
|
8.1 |
| List of subsidiaries of the Registrant, incorporated by reference to Exhibit 8.1 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005. |
|
|
|
9.1 |
| Consent of KPMG Somekh Chaikin, independent registered public accountants. |
|
|
|
11.1 |
| Code of Ethics adopted on December 9, 2003, incorporated by reference to Exhibit 11.1 of the Annual Report on Form 20-F for the year ended December 31, 2003, filed with the Commission on March 17, 2004. |
|
|
|
12.1 |
| Certification of Chief Executive Officer of the Registrant pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|
|
|
12.2 |
| Certification of Chief Financial Officer of the Registrant pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|
|
|
13.1 |
| Certification of Chief Executive Officer of the Registrant pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.* |
|
|
|
13.2 |
| Certification of Chief Financial Officer of the Registrant pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.* |
-90-
|
|
† | Portions of this exhibit were omitted and have been filed separately with the Secretary of the Securities and Commission pursuant to an application requesting confidential treatment under Rule 24b-2 of the Securities Exchange Act of 1934. |
|
|
* | This document is being furnished in accordance with SEC Release Nos. 33-8212 and 34-47551. |
-91-
SIGNATURES
Pursuant to the requirements of Section 12 of the Securities Exchange Act of 1934, the registrant hereby certifies that it meets all of the requirements for filing on Form 20-F and that it has duly caused and authorized the undersigned to sign this annual report on its behalf.
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| |
|
| GIVEN IMAGING LTD. |
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| |||
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| By: /s/ Gavriel D. Meron |
| |||
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| ||
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| Name: Gavriel D. Meron |
| |||
|
| Title: President and Chief Executive Officer |
| |||
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| |||
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| By: /s/ Yuval Yanai |
| |||
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| ||
|
| Name: Yuval Yanai |
| |||
|
| Title: Chief Financial Officer |
|
Date: April 6, 2006
ANNUAL REPORT ON FORM 20-F
INDEX OF EXIBITS
|
|
|
Exhibit |
| Description |
| ||
|
|
|
1.1 |
| Articles of Association, incorporated by reference to Exhibit 3.2 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. |
|
|
|
4.1 |
| Investor Rights Agreement, dated as of September 15, 2000, by and among the Registrant and the parties thereto, incorporated by reference to Exhibit 10.10 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. |
|
|
|
4.2 |
| Amendment No. 1 to Investor Rights Agreement, dated as of July 16, 2001, by and among the Registrant and the parties thereto, incorporated by reference to Exhibit 10.17 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. |
|
|
|
4.3 |
| Production Development, Manufacturing and Sales Agreement, dated as of November 26, 2002, by and between Micron Technology, Inc. and the Registrant, incorporated by reference to Exhibit 4.3 of the Annual Report on Form 20-F for the year ended December 31, 2003, filed with the Commission on March 17, 2004.† |
|
|
|
4.4 |
| Technology Purchase and License Agreement, dated as of January 29, 1998, by and between Rafael Armament Development Authority of the Israeli Ministry of Defense and the Registrant, incorporated by reference to Exhibit 10.12 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. |
|
|
|
4.5 |
| Form of Indemnification Agreement between directors and officers of the Registrant and the Registrant, incorporated by reference to Exhibit 10.15 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. |
|
|
|
4.6 |
| Lease Agreement, dated as of December 15, 1999, by and between B. A. T. M. Lands Ltd. and the Registrant, incorporated by reference to Exhibit 10.16 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. |
|
|
|
4.7 |
| Purchase and Sale Contract, dated as of August 25, 2001, by and between Pemstar, Inc. and the Registrant, incorporated by reference to Exhibit 10.18 of the Registration Statement on Form F-1 (File No. 333-68142) filed with the Commission on August 22, 2001. |
|
|
|
4.8 |
| Form of Standard Distribution Agreement of the Registration, incorporated by reference to Exhibit 10.19 of the Registration Statement on Form F-1 (File No. 333-81514) filed with the Commission on February 1, 2002. |
|
|
|
4.9 |
| Lease Agreement, dated as of November 26, 2001, by and between Sha’ar Yoqneam L.P. and the Registrant, incorporated by reference to Exhibit 10.20 of the Registration Statement on Form F-1 (File No. 333-81514) filed with the Commission on February 1, 2002. |
|
|
|
4.10 |
| Summary of Material Terms of Addendum, dated December 2002, to Lease Agreement, dated as of November 26, 2001, by and between Sha’ar Yoqneam and the Registrant, incorporated by reference to Exhibit 4.11 of the Annual Report on Form 20-F for the year ended December 31, 2002, filed with the Commission on April 10, 2003. |
|
|
|
4.11 |
| Development and Supply Agreement, dated April 8, 2002, by and between Zarlink Semiconductor AB and the Registrant, incorporated by reference to Exhibit 4.11 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005.† |
|
|
|
4.12 |
| Addendum to Development and Supply Agreement, dated July 2005, by and between Zarlink Semiconductor AB and the Registrant.† |
|
|
|
4.13 |
| Exclusive Sales, Representation, Co-Promotion and Cooperation Agreement, dated May 10, 2004, by and between Ethicon Endo-Surgery, Inc. and the Registrant, incorporated by reference to Exhibit 4.12 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005.† |
|
|
|
4.14 |
| Amendment No. 1, dated June 2004, to the Exclusive Sales, Representation, Co-Promotion and Cooperation Agreement, dated May 10, 2004, by and between Ethicon Endo-Surgery, Inc. and the Registrant, incorporated by reference to Exhibit 4.13 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005.† |
|
|
|
4.15 |
| Amendment No. 2, dated October 4, 2004, to the Exclusive Sales, Representation, Co-Promotion and Cooperation Agreement, dated May 10, 2004, by and between Ethicon Endo-Surgery, Inc. and the Registrant, incorporated by reference to Exhibit 4.14 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005.† |
|
|
|
4.16 |
| Amendment No. 3, dated October 27, 2005, to the Exclusive Sales, Representation, Co-Promotion and Cooperation Agreement, dated May 10, 2004, by and between Ethicon Endo-Surgery, Inc. and the Registrant. |
|
|
|
4.17 |
| Amendment No. 4, dated November 14, 2005, to the Exclusive Sales, Representation, Co-Promotion and Cooperation Agreement, dated May 10, 2004, by and between Ethicon Endo-Surgery, Inc. and the Registrant. |
|
|
|
4.18 |
| Second Addendum, dated July 5, 2004, to the Lease Agreement, dated as of November 26, 2001, by and between Sha’ar Yoqneam L.P. and the Registrant, incorporated by reference to Exhibit 4.15 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005. |
|
|
|
8.1 |
| List of subsidiaries of the Registrant, incorporated by reference to Exhibit 8.1 of the Annual Report on Form 20-F for the year ended December 31, 2004, filed with the Commission on March 25, 2005. |
|
|
|
9.1 |
| Consent of KPMG Somekh Chaikin, independent registered public accountants. |
|
|
|
11.1 |
| Code of Ethics adopted on December 9, 2003, incorporated by reference to Exhibit 11.1 of the Annual Report on Form 20-F for the year ended December 31, 2003, filed with the Commission on March 17, 2004. |
|
|
|
12.1 |
| Certification of Chief Executive Officer of the Registrant pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|
|
|
12.2 |
| Certification of Chief Financial Officer of the Registrant pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|
|
|
13.1 |
| Certification of Chief Executive Officer of the Registrant pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.* |
|
|
|
13.2 |
| Certification of Chief Financial Officer of the Registrant pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.* |
|
|
† | Portions of this exhibit were omitted and have been filed separately with the Secretary of the Securities and Commission pursuant to an application requesting confidential treatment under Rule 24b-2 of the Securities Exchange Act of 1934. |
|
|
* | This document is being furnished in accordance with SEC Release Nos. 33-8212 and 34-47551. |
Given Imaging Ltd. and its Consolidated Subsidiaries
Index to Consolidated Financial Statements
|
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| Page |
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F-2 | |
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F-3 | |
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F-5 | |
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F-6 | |
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F-7 | |
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|
F-8 |
F-1
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders
Given Imaging Ltd.
We have audited the accompanying consolidated balance sheets of Given Imaging Ltd. and its subsidiaries (the “Company”) as of December 31, 2005 and 2004, and the related consolidated statements of operations, changes in shareholders’ equity and cash flows for each of the years in the three year period ended December 31, 2005. These consolidated financial statements are the responsibility of the Company’s Board of Directors and of its management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statements presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2005 and 2004, and the consolidated results of its operations and cash flows for each of the years in the three year period ended December 31, 2005, in conformity with U.S. generally accepted accounting principles.
Somekh Chaikin
Certified Public Accountants (Israel)
Member Firm of KPMG International
Tel - Aviv, Israel
February 7, 2006
F-2
Given Imaging Ltd. and its Consolidated Subsidiaries
Consolidated Balance Sheets
(In thousands except share data)
|
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|
|
| December 31 |
| ||||
|
|
|
|
| |||||
|
| Note |
| 2004 |
| 2005 |
| ||
|
|
|
|
| |||||
| |||||||||
Assets |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current assets |
|
|
|
|
|
|
|
|
|
Cash and cash equivalents |
| 1D; 2 |
| $ | 80,861 |
| $ | 65,356 |
|
Accounts receivable: |
|
|
|
|
|
|
|
|
|
Trade (net of provision for doubtful debts of $115 and $431 as of December 31, 2004 and 2005, respectively) |
| 1E |
|
| 12,261 |
|
| 18,325 |
|
Other |
| 3 |
|
| 1,271 |
|
| 6,552 |
|
Inventories |
| 1F; 4 |
|
| 13,794 |
|
| 16,172 |
|
Advances to suppliers |
|
|
|
| 555 |
|
| 332 |
|
Deferred taxes |
| 1P; 14C |
|
| 737 |
|
| 1,219 |
|
Prepaid expenses |
|
|
|
| 954 |
|
| 1,020 |
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
|
Total current assets |
|
|
|
| 110,433 |
|
| 108,976 |
|
|
|
|
|
|
|
|
|
|
|
Assets held for employee severance payments |
| 1G; 10 |
|
| 1,339 |
|
| 1,690 |
|
|
|
|
|
|
|
|
|
|
|
Marketable securities |
| 1H; 5 |
|
| — |
|
| 21,664 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed assets, at cost, less accumulated depreciation |
| 1I; 6 |
|
| 9,862 |
|
| 13,862 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other assets, at cost, less accumulated amortization |
| 1J; 7 |
|
| 2,590 |
|
| 2,918 |
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
|
Total Assets |
|
|
| $ | 124,224 |
| $ | 149,110 |
|
|
|
|
|
|
|
The accompanying notes are an integral part of these consolidated financial statements.
F-3
Given Imaging Ltd. and its Consolidated Subsidiaries
Consolidated Balance Sheets
(In thousands except share data)
|
|
|
|
|
|
|
|
|
|
|
|
|
| December 31 |
| ||||
|
|
|
|
| |||||
|
| Note |
| 2004 |
| 2005 |
| ||
|
|
|
|
| |||||
| |||||||||
Liabilities and shareholders’ equity |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current liabilities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current installments of obligation under capital lease |
| 8B |
| $ | 11 |
| $ | 11 |
|
Accounts payable: |
|
|
|
|
|
|
|
|
|
Trade |
|
|
|
| 5,147 |
|
| 5,529 |
|
Other |
| 9 |
|
| 8,678 |
|
| 13,886 |
|
Deferred income |
| 1N; 8C |
|
| 3,610 |
|
| 3,333 |
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
|
Total current liabilities |
|
|
|
| 17,446 |
|
| 22,759 |
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
|
Long-term liabilities |
|
|
|
|
|
|
|
|
|
Deferred income |
| 8C |
|
| 9,340 |
|
| 22,172 |
|
Obligation under capital lease |
| 8B |
|
| 48 |
|
| 34 |
|
Liability in respect of employee severance payments |
| 10 |
|
| 1,596 |
|
| 2,040 |
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
|
Total long-term liabilities |
|
|
|
| 10,984 |
|
| 24,246 |
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
|
Total liabilities |
|
|
|
| 28,430 |
|
| 47,005 |
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
|
Commitments and contingencies |
| 8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Minority interest |
|
|
|
| 1,177 |
|
| 61 |
|
|
|
|
|
|
|
|
|
|
|
Shareholders’ equity |
|
|
|
|
|
|
|
|
|
Share capital: |
| 11 |
|
|
|
|
|
|
|
Ordinary Shares, NIS 0.05 par value each (90,000,000 shares authorized as of December 31, 2004 and 2005, 27,621,386 and 27,950,281 shares issued and fully paid as of December 31, 2004 and 2005, respectively) |
|
|
|
| 323 |
|
| 327 |
|
Additional paid-in capital |
|
|
|
| 147,878 |
|
| 148,955 |
|
Capital reserve |
|
|
|
| 2,166 |
|
| 2,166 |
|
Unearned compensation |
|
|
|
| (3 | ) |
| — |
|
Accumulated deficit |
|
|
|
| (55,747 | ) |
| (49,404 | ) |
|
|
|
|
|
| ||||
Total shareholders’ equity |
|
|
| $ | 94,617 |
|
| 102,044 |
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
|
Total liabilities and shareholders’ equity |
|
|
| $ | 124,224 |
|
| 149,110 |
|
|
|
|
|
|
|
The accompanying notes are an integral part of these consolidated financial statements.
F-4
Given Imaging Ltd. and its Consolidated Subsidiaries
Consolidated Statements of Operations
(In thousands except share and per share data)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| |||||||
|
|
|
|
| ||||||||
|
| Note |
| 2003 |
| 2004 |
| 2005 |
| |||
|
|
|
|
|
| |||||||
| ||||||||||||
Revenues |
| 1N; 12 |
| $ | 40,539 |
| $ | 65,020 |
| $ | 86,776 |
|
Cost of revenues |
|
|
|
| 13,551 |
|
| 17,734 |
|
| 22,070 |
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
|
| 26,988 |
|
| 47,286 |
|
| 64,706 |
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating expenses |
|
|
|
|
|
|
|
|
|
|
|
|
Research and development, gross |
| 1Q |
|
| (7,037 | ) |
| (7,363 | ) |
| (8,833 | ) |
Royalty bearing participation |
| 1O |
|
| 1,303 |
|
| 1,140 |
|
| 1,244 |
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Research and development, net |
|
|
|
| (5,734 | ) |
| (6,223 | ) |
| (7,589 | ) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales and marketing |
|
|
|
| (26,804 | ) |
| (33,652 | ) |
| (43,281 | ) |
General and administrative |
|
|
|
| (5,312 | ) |
| (6,916 | ) |
| (9,657 | ) |
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
|
| (37,850 | ) |
| (46,791 | ) |
| (60,527 | ) |
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating profit (loss) |
|
|
|
| (10,862 | ) |
| 495 |
|
| 4,179 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Financing income, net |
| 13 |
|
| 995 |
|
| 956 |
|
| 762 |
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Profit (loss) before taxes on income |
|
|
|
| (9,867 | ) |
| 1,451 |
|
| 4,941 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Taxes on income |
| 1P, 14 |
|
| — |
|
| 690 |
|
| 286 |
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Profit (loss) before minority share |
|
|
|
| (9,867 | ) |
| 2,141 |
|
| 5,227 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Minority share in losses of subsidiary |
|
|
|
| 258 |
|
| 747 |
|
| 1,116 |
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Net profit (loss) |
|
|
| $ | (9,609 | ) | $ | 2,888 |
| $ | 6,343 |
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Profit (loss) per share |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic profit (loss) per Ordinary Share |
| 1L |
| $ | (0.38 | ) | $ | 0.11 |
| $ | 0.23 |
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted profit (loss) per Ordinary Share |
|
|
| $ | (0.38 | ) | $ | 0.10 |
| $ | 0.21 |
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average number of Ordinary Shares used to compute basic profit (loss) per Ordinary Share |
| 1L |
|
| 25,493,073 |
|
| 26,633,964 |
|
| 27,781,223 |
|
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted average number of Ordinary Shares used to compute diluted profit (loss) per Ordinary Share |
| 1L |
|
| 25,493,073 |
|
| 29,353,448 |
|
| 29,695,164 |
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these consolidated financial statements.
F-5
Given Imaging Ltd. and its Consolidated Subsidiaries
Consolidated Statements of Changes in Shareholders’ Equity
(In thousands except share data)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Additional |
|
|
|
|
|
|
|
|
| |||||||||
|
|
|
| Paid-In |
| Capital |
| Unearned |
| Accumulated |
|
|
| |||||||||
|
| Ordinary shares |
| Capital |
| Reserve |
| Compensation |
| Deficit |
| Total |
| |||||||||
|
|
|
|
|
|
|
| |||||||||||||||
|
| Shares |
| Amount |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| ||||
| ||||||||||||||||||||||
Balance as of December 31, 2002 |
|
| 25,373,513 |
| $ | 298 |
| $ | 100,262 |
| $ | 2,166 |
| $ | (123 | ) | $ | (49,026 | ) | $ | 53,577 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Changes during the year 2003: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercise of stock options |
|
| 275,675 |
|
| 3 |
|
| 722 |
|
| — |
|
| — |
|
| — |
|
| 725 |
|
Forfeiture of stock options |
|
| — |
|
| — |
|
| (78 | ) |
| — |
|
| 78 |
|
| — |
|
| — |
|
Acceleration of vesting |
|
| — |
|
| — |
|
| 31 |
|
| — |
|
| — |
|
| — |
|
| 31 |
|
Non-employees’ stock options |
|
| — |
|
| — |
|
| 59 |
|
| — |
|
| — |
|
| — |
|
| 59 |
|
Amortization of unearned compensation |
|
| — |
|
| — |
|
| — |
|
| — |
|
| 15 |
|
| — |
|
| 15 |
|
Net loss |
|
| — |
|
| — |
|
| — |
|
| — |
|
| — |
|
| (9,609 | ) |
| (9,609 | ) |
|
|
|
|
|
|
|
|
| ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of December 31, 2003 |
|
| 25,649,188 |
| $ | 301 |
| $ | 100,996 |
| $ | 2,166 |
| $ | (30 | ) | $ | (58,635 | ) | $ | 44,798 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Changes during the year 2004: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ordinary shares issued |
|
| 1,500,000 |
|
| 17 |
|
| 44,250 |
|
| — |
|
| — |
|
| — |
|
| 44,267 |
|
Exercise of stock options |
|
| 472,198 |
|
| 5 |
|
| 2,581 |
|
| — |
|
| — |
|
| — |
|
| 2,586 |
|
Forfeiture of stock options |
|
| — |
|
| — |
|
| (11 | ) |
| — |
|
| 3 |
|
| — |
|
| (8 | ) |
Non-employees’ stock options |
|
| — |
|
| — |
|
| 62 |
|
| — |
|
| — |
|
| — |
|
| 62 |
|
Amortization of unearned compensation |
|
| — |
|
| — |
|
| — |
|
| — |
|
| 24 |
|
| — |
|
| 24 |
|
Net profit |
|
| — |
|
| — |
|
| — |
|
| — |
|
| — |
|
| 2,888 |
|
| 2,888 |
|
|
|
|
|
|
|
|
|
| ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of December 31, 2004 |
|
| 27,621,386 |
| $ | 323 |
| $ | 147,878 |
| $ | 2,166 |
| $ | (3 | ) | $ | (55,747 | ) | $ | 94,617 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Changes during the year 2005: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercise of stock options |
|
| 328,895 |
|
| 4 |
|
| 1,077 |
|
| — |
|
| — |
|
| — |
|
| 1,081 |
|
Amortization of unearned compensation |
|
| — |
|
| — |
|
| — |
|
| — |
|
| 3 |
|
| — |
|
| 3 |
|
Net profit |
|
| — |
|
| — |
|
| — |
|
| — |
|
| — |
|
| 6,343 |
|
| 6,343 |
|
|
|
|
|
|
|
|
|
| ||||||||||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance as of December 31, 2005 |
|
| 27,950,281 |
| $ | 327 |
| $ | 148,955 |
| $ | 2,166 |
| $ | — |
| $ | (49,404 | ) | $ | 102,044 |
|
|
|
|
|
|
|
|
|
|
The accompanying notes are an integral part of these consolidated financial statements.
F-6
Given Imaging Ltd. and its Consolidated Subsidiaries
Consolidated Statements of Cash Flows
(In thousands)
|
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| |||||||
|
|
| ||||||||
|
| 2003 |
| 2004 |
| 2005 |
| |||
|
|
|
|
| ||||||
| ||||||||||
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
|
|
Net profit (loss) |
| $ | (9,609 | ) | $ | 2,888 |
| $ | 6,343 |
|
|
|
|
|
|
|
|
|
|
|
|
Adjustments required to reconcile net profit (loss) to net cash provided by (used in) operating activities: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Minority share in losses of subsidiary |
|
| (258 | ) |
| (747 | ) |
| (1,116 | ) |
Depreciation and amortization |
|
| 3,030 |
|
| 3,147 |
|
| 3,596 |
|
Deferred taxes |
|
| — |
|
| (737 | ) |
| (482 | ) |
Employees’ stock option compensation |
|
| 46 |
|
| 16 |
|
| 3 |
|
Non-employees’ stock option compensation |
|
| 59 |
|
| 62 |
|
| — |
|
Other |
|
| 9 |
|
| 48 |
|
| 98 |
|
Increase in accounts receivable – trade |
|
| (80 | ) |
| (5,316 | ) |
| (6,064 | ) |
Decrease (increase) in other accounts receivable |
|
| 1,018 |
|
| (804 | ) |
| (4,993 | ) |
Decrease (increase) in prepaid expenses |
|
| (80 | ) |
| 360 |
|
| (66 | ) |
Decrease (increase) in advances to suppliers |
|
| (23 | ) |
| (508 | ) |
| 223 |
|
Decrease (increase) in inventories |
|
| 1,860 |
|
| (5,648 | ) |
| (2,378 | ) |
Increase (decrease) in accounts payable |
|
| (4,708 | ) |
| 7,107 |
|
| 5,769 |
|
Increase in deferred income |
|
| 223 |
|
| 12,000 |
|
| 12,555 |
|
Decrease in payable to related parties |
|
| (35 | ) |
| — |
|
| — |
|
|
|
|
|
| ||||||
Net cash provided by (used in) operating activities |
| $ | (8,548 | ) | $ | 11,868 |
| $ | 13,488 |
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
|
|
Purchase of fixed assets and other assets |
| $ | (2,550 | ) | $ | (3,245 | ) | $ | (7,948 | ) |
Proceeds from sales of fixed assets |
|
| 60 |
|
| 57 |
|
| — |
|
Deposits, net |
|
| (157 | ) |
| (42 | ) |
| (16 | ) |
Acquisition of marketable securities |
|
| — |
|
| — |
|
| (21,919 | ) |
|
|
|
|
| ||||||
Net cash used in investing activities |
| $ | (2,647 | ) | $ | (3,230 | ) | $ | (29,883 | ) |
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
|
|
Principal payments on capital lease obligation |
| $ | (72 | ) | $ | (37 | ) | $ | (12 | ) |
Proceeds from the issuance of Ordinary Shares |
|
| 725 |
|
| 46,853 |
|
| 1,081 |
|
|
|
|
|
| ||||||
Net cash provided by financing activities |
| $ | 653 |
| $ | 46,816 |
| $ | 1,069 |
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
Effect of exchange rate changes on cash |
| $ | 117 |
| $ | 40 |
| $ | (179 | ) |
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
Increase (decrease) in cash and cash equivalents |
| $ | (10,425 | ) | $ | 55,494 |
| $ | (15,505 | ) |
Cash and cash equivalents at beginning of year |
|
| 35,792 |
|
| 25,367 |
|
| 80,861 |
|
|
|
|
|
| ||||||
Cash and cash equivalents at end of year |
| $ | 25,367 |
| $ | 80,861 |
| $ | 65,356 |
|
|
|
|
|
|
Supplementary cash flow information
|
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| |||||||
|
|
| ||||||||
|
| 2003 |
| 2004 |
| 2005 |
| |||
|
|
|
|
| ||||||
Interest paid |
| $ | 3 |
| $ | — |
| $ | — |
|
Income taxes paid |
| $ | 68 |
| $ | 107 |
| $ | 163 |
|
|
|
|
|
|
The accompanying notes are an integral part of these consolidated financial statements.
F-7
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 1 - Organization and Summary of Significant Accounting Policies
|
|
|
| A. | General |
|
|
|
| Given Imaging Ltd. (the “Company”) was incorporated in Israel in January 1998. | |
|
| |
| The Company has developed the Given System, a proprietary wireless imaging system that represents a new approach to visual examination of the gastrointestinal tract. The system uses a miniaturized video camera contained in a capsule, referred to as PillCam™ capsule, that is ingested by the patient and delivers high quality color images in a painless and noninvasive manner. | |
|
| |
| The Given System consists of three principal components: | |
|
| |
| • | a single-use, disposable PillCam color-imaging capsule that is ingested by the patient; |
|
|
|
| • | a portable data recorder and array of sensors that are worn by the patient; and |
|
|
|
| • | a computer workstation with a proprietary RAPID software for downloading, processing and analyzing recorded data. |
|
|
|
| After receiving marketing clearance from the U.S. Food and Drug Administration (“FDA”) in August of 2001, the Company commenced the marketing of the Given System with its first video capsule, the PillCam Small Bowel Capsule, or PillCam SB, for detection of disorders of the small bowel. In November 2004, following receipt of FDA marketing clearance, the Company began marketing and sales of its second video capsule, PillCam ESO, for detection of disorders in the esophagus. The Company markets the PillCam ESO capsule through a strategic marketing alliance with Inscope, a division of Ethicon Endo-Surgery, a Johnson & Johnson company (see Note 8C). As of December 31, 2005, the Company had an installed base of more than 2,860 Given Systems and had sold approximately 307,000 PillCam SB capsules in over 50 countries worldwide. | |
|
| |
| The medical device industry in which the Company is involved is characterized by the risks of regulatory barriers and reimbursement issues. Penetration into the world market requires the investment of considerable resources and continuous development efforts. The Company’s future success is dependent upon several factors including the technological quality, regulatory approvals and sufficient reimbursement for its products. | |
|
| |
| B. | Basis of presentation |
|
|
|
| The accompanying consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries in the USA, Germany, France, the Netherlands and Australia and its 51% owned subsidiary in Japan. The accounts of its subsidiaries are consolidated from the date of their inception. All intercompany balances and transactions have been eliminated in consolidation. | |
|
| |
| All the subsidiaries were established for the purpose of marketing and selling the Given System. |
F-8
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 1 - Organization and Summary of Significant Accounting Policies (cont’d)
|
|
|
| C. | Functional and reporting currency |
|
|
|
| The accounting records of the Company are maintained in New Israeli Shekels (“NIS”) and U.S. dollars. The Company’s functional and reporting currency is the U.S. dollar. | |
|
| |
| Transactions denominated in foreign currencies other than the U.S. dollar are translated into the reporting currency using current exchange rates. Gains and losses from the translation of foreign currency balances are recorded in the statement of operations. | |
|
| |
| D. | Cash and cash equivalents |
|
|
|
| All highly-liquid investments with original maturity of three months or less from the date of deposit are considered to be cash equivalents. | |
|
| |
| E. | Provision for doubtful debts |
|
|
|
| The provision for doubtful debts is calculated on the basis of specific identification of balances, the collection of which, in management’s opinion, is doubtful and a general provision based on the Company’s experience. In determining the adequacy of the provision, management bases its opinion, inter alia, on the estimated risk, in reliance on available information with respect to the debtor’s financial position and an evaluation of the collateral received. | |
|
| |
| The change in the provision during the year: |
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| ||||
|
|
|
| |||||
|
|
| 2004 |
| 2005 |
| ||
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
| Opening balance |
| $ | 115 |
| $ | 115 |
|
| Additions during the year |
|
| — |
|
| 316 |
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
| Closing balance |
| $ | 115 |
| $ | 431 |
|
|
|
|
|
|
|
|
|
| F. | Inventories |
| ||
| Inventories are stated at lower of cost or market. Cost is determined using the average cost method for raw materials and finished goods, and on the basis of actual manufacturing costs for work in progress. | |
|
| |
| G. | Assets held for severance benefits |
|
|
|
| Assets held for employee severance benefits represent contributions to severance pay funds and cash surrender value of life insurance policies that are recorded at their current redemption value. |
F-9
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 1 - Organization and Summary of Significant Accounting Policies (cont’d)
|
|
|
| H. | Marketable securities |
|
|
|
| The Company accounts for marketable securities under Statement of Financial Accounting Standards No. 115 “Accounting for Certain Investments in Debt and Equity Securities (“Statement 115”). Marketable securities consist of U.S. Government Bonds which the Company classified, under the guidance of Statement 115, “held-to-maturity”. | |
|
| |
| Held-to-maturity debt securities are securities in which the Company has the ability and intent to hold the security until maturity. | |
|
| |
| Held-to-maturity debt securities are recorded at amortized cost, adjusted for the amortization or accretion of premiums or discounts. Premiums and discounts are amortized or accreted over the life of the related held-to-maturity security as an adjustment to yield using the effective-interest method. | |
|
| |
| I. | Fixed assets |
|
|
|
| Fixed assets are stated at cost. Depreciation is computed by the straight-line method over the estimated useful lives of the assets at the following annual rates: |
|
|
|
|
|
|
|
|
| % |
| |
|
|
|
| ||
|
|
|
|
|
|
| Office furniture, leasehold improvements, laboratory equipment and other equipment |
| 6 - 15 |
|
|
| Computers, software and related equipment |
| 20 - 33 |
|
|
| Machinery and equipment |
| 15 |
|
|
| Motor vehicles |
| 15 |
|
|
|
|
|
| Motor vehicles purchased under capital lease arrangements are recorded at the present value of the minimum lease payments. Such assets and leasehold improvements are amortized using the straight-line method over the shorter of the lease term or estimated useful life of the asset. | |
|
|
|
| J. | Other assets |
|
|
|
| 1. | The Company developed proprietary software for its computer workstations that permits downloading and viewing recorded data from the portable data recorder. The costs of developing this software were capitalized in accordance with Statement of Financial Accounting Standards No. 86, “Accounting for Costs of Computer Software to be Sold, Leased or Otherwise Marketed” (“Statement 86”). As such, capitalization of software development costs begins upon the establishment of technological feasibility as defined in Statement 86 and continues up to the time the software is available for general release to customers, at which time capitalized software costs are amortized on a straight-line basis over the expected life of the related product, which is generally three years. |
|
|
|
| 2. | Legal expenses related to patent and trademark registration have been capitalized and depreciated over the remaining life of the asset, which is generally eight years. |
F-10
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 1 - Organization and Summary of Significant Accounting Policies (cont’d)
|
|
|
| J. | Other assets (cont’d) |
|
|
|
| 3. | Technology and content costs are generally expensed as incurred, except for certain costs relating to the development of the Company’s web site that are capitalized and amortized over their estimated useful lives, which are generally three years. |
|
|
|
| K. | Stock compensation plans |
|
|
|
| Employees and directors | |
|
| |
| The Company has adopted Financial Accounting Standards Board’s Statement No. 123, “Accounting for Stock-Based Compensation” (“Statement 123”) which permits entities to recognize as an expense over the vesting period, the fair value on the date of grant of all stock-based awards. Alternatively, Statement 123 allows entities to continue to apply the provisions of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees and related interpretations” (“APB Opinion No. 25”) and provide pro forma net income and pro forma earnings per share disclosures for employee stock option grants as if the fair-value based method defined in Statement 123 had been applied. | |
|
| |
| The Company has elected to apply the intrinsic value-based method prescribed in APB Opinion No. 25 for its stock compensation to employees and directors and provide the pro forma disclosure provisions of Statement 123, as amended by Statement 148, “Accounting for Stock-Based Compensation - Transition and Disclosure, an amendment of Statement No. 123”. | |
|
| |
| As such, the Company computes and records compensation expense for grants whose terms are fixed with respect to the number of shares and option price only if the market price on the date of grant exceeds the exercise price of the stock option. The compensation cost for the fixed plans is recorded over the period the employee performs the service to which the stock compensation relates. |
F-11
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 1 - Organization and Summary of Significant Accounting Policies (cont’d)
|
|
|
| K. | Stock compensation plans (cont’d) |
|
|
|
| Non-Employees | |
|
| |
| The Company applies the fair value-based method of accounting set forth in Statement 123 and EITF Issue No. 96-18, “Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services” to account for stock based compensation to non-employees. Using the fair value method, the total compensation expense is computed based on the fair value of the options on the date the options are granted to the non-employees since the options are fully vested. | |
|
| |
| The following table shows the effect on net profit (loss) and profit (loss) per Ordinary Share if the Company had applied the fair value recognition provisions of Statement 123: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| ||||||||
|
|
|
| |||||||||
|
|
| 2003 |
| 2004 |
| 2005 |
| ||||
|
|
|
|
|
| |||||||
|
|
|
|
|
|
|
|
| ||||
| Net profit (loss) as reported |
| $ | (9,609 | ) | $ | 2,888 |
| $ | 6,343 |
| |
| - | Compensation expenses according to APB 25 included in reported net profit (loss) |
|
| 46 |
|
| 16 |
|
| 3 |
|
| - | Compensation expenses according to Statement 123 |
|
| (7,012 | ) |
| (13,432 | ) |
| (10,327 | ) |
|
|
|
|
|
| |||||||
| Pro forma net loss |
| $ | (16,575 | ) | $ | (10,528 | ) | $ | (3,981 | ) | |
|
|
|
|
|
| |||||||
|
|
|
|
|
|
|
|
|
|
|
| |
| Basic profit (loss) per Ordinary Share: |
|
|
|
|
|
|
|
|
|
| |
| As reported |
| $ | (0.38 | ) | $ | 0.11 |
| $ | 0.23 |
| |
|
|
|
|
|
| |||||||
| Pro forma |
| $ | (0.65 | ) | $ | (0.39 | ) | $ | (0.14 | ) | |
|
|
|
|
|
| |||||||
|
|
|
|
|
|
|
|
|
|
|
| |
| Diluted profit (loss) per ordinary share: |
|
|
|
|
|
|
|
|
|
| |
| As reported |
| $ | (0.38 | ) | $ | 0.10 |
| $ | 0.21 |
| |
|
|
|
|
|
| |||||||
| Pro forma |
| $ | (0.65 | ) | $ | (0.39 | ) | $ | (0.14 | ) | |
|
|
|
|
|
| |||||||
| Number of options excluded from diluted earning per share calculation because of anti-dilutive effect |
|
| 3,881,396 |
|
| 165,500 |
|
| 2,448,114 |
| |
|
|
|
|
|
|
|
|
|
| L. | Profit (loss) per Ordinary Share |
|
|
|
| Basic and diluted profit (loss) per Ordinary Share is presented in conformity with Statement of Financial Accounting Standard No. 128, “Earnings Per Share”, for all years presented. Basic profit (loss) per Ordinary Share is calculated by dividing the net profit (loss) attributable to Ordinary Shares, by the weighted average number of Ordinary Shares outstanding. Diluted profit (loss) per Ordinary share calculation is similar to Basic Earnings Per Share except that the weighed average of common shares outstanding is increased to include the number of additional common shares that would have been outstanding if the dilutive potential common shares such as options had been exercised. |
F-12
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 1 - Organization and Summary of Significant Accounting Policies (cont’d)
|
|
|
| L. | Profit (loss) per Ordinary Share (cont’d) |
|
|
|
| The following table summarizes information related to the computation of basic and diluted profit (loss) per Ordinary Share for the years indicated. |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| |||||||
|
|
|
| ||||||||
|
|
| 2003 |
| 2004 |
| 2005 |
| |||
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
| |||
| Net profit (loss) attributable to Ordinary Shares |
| $ | (9,609 | ) | $ | 2,888 |
| $ | 6,343 |
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
| Weighted average number of Ordinary Shares outstanding used in basic profit (loss) per Ordinary Share calculation |
|
| 25,493,073 |
|
| 26,633,964 |
|
| 27,781,223 |
|
|
|
|
|
|
|
|
|
|
|
|
|
| Add assumed exercise of outstanding dilutive potential Ordinary Shares |
|
| — |
|
| 2,719,484 |
|
| 1,913,941 |
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
| Weighted average number of Ordinary Shares outstanding used in diluted profit (loss) per Ordinary Share calculation |
|
| 25,493,073 |
|
| 29,353,448 |
|
| 29,695,164 |
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
| Basic profit (loss) per Ordinary Share |
| $ | (0.38 | ) | $ | 0.11 |
| $ | 0.23 |
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
| Diluted profit (loss) per Ordinary Share |
| $ | (0.38 | ) | $ | 0.10 |
| $ | 0.21 |
|
|
|
|
|
|
|
|
|
|
| M. | Use of estimates |
|
|
|
| Management of the Company has made a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent assets and liabilities to prepare these consolidated financial statements in accordance with accounting principles generally accepted in the United States of America. Actual results could differ from these estimates. | |
|
| |
| N. | Revenue recognition |
|
|
|
| Revenues from sales of products are recognized upon delivery provided that the collection of the resulting receivable is probable, there is persuasive evidence of an arrangement, no significant obligations in respect of installation remain and the price is fixed or determinable. | |
|
| |
| For sales contracts which include a Post Contract Customer Support (“PCS”) component, revenues from PCS are deferred and recognized ratably over the term of the support period, which is generally one year. | |
|
| |
| The Company accrues estimated warranty costs at time of shipment based on contractual rights and historical experience. The Company’s policy is not to grant return rights. | |
|
| |
| O. | Government-Sponsored Research and Development |
|
|
|
| The Company records grants received from the Office of the Chief Scientist of the Israeli Ministry of Industry and Trade (the “OCS”) as a reduction of research and development expenses. | |
|
| |
| Royalties payable to OCS are classified as cost of revenues. |
F-13
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 1 - Organization and Summary of Significant Accounting Policies (cont’d)
|
|
|
| P. | Taxes on income |
|
|
|
| The Company accounts for income taxes under Statement of Financial Accounting Standards No. 109 “Accounting for Income Taxes” (“Statement 109”). | |
|
| |
| Under Statement 109 deferred tax assets or liabilities are recognized in respect of temporary differences between the tax bases of assets and liabilities and their financial reporting amounts as well as in respect of tax losses and other deductions which may be deductible for tax purposes in future years, based on enacted statutory tax rates applicable to the periods in which such deferred taxes will be realized. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. | |
|
| |
| Q. | Research and development costs |
|
|
|
| Research and development costs are expensed as incurred. | |
|
| |
| R. | Concentration of credit risk |
|
|
|
| Financial instruments that may subject the Company to significant concentrations of credit risk consist principally of cash and cash equivalents and trade accounts receivable. | |
| Cash and cash equivalents are deposited with major financial institutions in Europe, the United States, Japan and Israel. | |
|
| |
| The Company performs ongoing credit evaluations of the financial condition of its customers. The risk of collection associated with trade receivables is reduced by the large number and geographical dispersion of the Company’s customer base and the Company’s policy of requiring collateral or security on sales to distributors. | |
|
| |
| S. | Recent accounting pronouncements |
|
|
|
| The Company examined the recently issued accounting standards Statement No. 151, Statement No. 152, Statement No. 153, Statement No. 154 and EITF 03-1 and believes that the adoption of these standards will not have a significant impact on the Company’s financial position or results of operations. | |
|
| |
| In December 2004, the FASB issued Statement No. 123 (revised 2004), “Share-Based Payment” (“Statement 123R”), which requires all companies to measure compensation cost for all share-based payments (including employee stock options) at fair value. Statement 123R provides two alternative adoption methods. The first method is a modified prospective transition method whereby a company would recognize share-based employee costs from the beginning of the fiscal period in which the recognition provisions are first applied as if the fair-value-based accounting method had been used to account for all employee awards granted, modified, or settled after the effective date and to any awards that were not fully vested as of the effective date. Measurement and attribution of compensation cost for awards that are unvested as of the effective date of Statement 123R would be based on the same estimate of the grant-date fair value and the same attribution method used previously under Statement 123. The second adoption method is a modified retrospective transition method whereby a company would |
F-14
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 1 - Organization and Summary of Significant Accounting Policies (cont’d)
|
|
|
| S. | Recent accounting pronouncements (cont’d) |
|
|
|
| recognize employee compensation cost for periods presented prior to the adoption of Statement 123R in accordance with the original provisions of Statement 123; that is, an entity would recognize employee compensation costs in the amounts reported in the pro forma disclosures provided in accordance with Statement 123. A company would not be permitted to make any changes to those amounts upon adoption of Statement 123R unless those changes represent a correction of an error. For periods after the date of adoption of Statement 123R, the modified prospective transition method described above would be applied. | |
|
| |
| Statement 123R does not change the accounting guidance for share-based payment transaction with parties other than employees provided in Statement 123 as originally issued and EITF Issue No. 96-18, “Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services”. | |
|
|
|
| Statement 123R is effective for public entities that do not file as small business issuers as of the beginning of the first annual reporting period that begins after June 15, 2005. Accordingly, the company is required to adopt Statement 123R on January 1, 2006. The Company currently expects to adopt Statement 123R in the quarter ending March 31, 2006, using the modified prospective method. Based upon its projection of unvested stock options at the implementation date, the adoption of Statement 123R will result in the recognition of $5.7 million additional compensation expense in 2006. Future compensation expenses will also be impacted by various factors, including the number of options granted and their related fair value at the date of grant. |
Note 2 - Cash and Cash Equivalents
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Interest rate |
| December 31 |
| |||||
|
|
|
|
| |||||||
|
|
| 2005 |
| 2004 |
| 2005 |
| |||
|
|
|
|
|
| ||||||
|
|
| % |
|
|
|
|
| |||
|
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
| |||
| Denominated in U.S. dollars |
|
| 4.2 - 4.27 |
| $ | 72,650 |
| $ | 57,912 |
|
| Denominated in New Israeli Shekels |
|
| 4.23 - 4.28 |
|
| 2,538 |
|
| 2,855 |
|
| Denominated in Euro |
|
| 2.12 |
|
| 2,508 |
|
| 3,396 |
|
| Denominated in Australian dollars |
|
|
|
|
| 648 |
|
| 732 |
|
| Denominated in Japanese Yen |
|
|
|
|
| 2,517 |
|
| 461 |
|
|
|
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| $ | 80,861 |
| $ | 65,356 |
|
|
|
|
|
|
|
|
|
F-15
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 3 - Accounts Receivable - Other
|
|
|
|
|
|
|
|
|
|
|
| December 31 |
| ||||
|
|
|
| |||||
|
|
| 2004 |
| 2005 |
| ||
|
|
|
|
| ||||
|
|
|
|
|
|
| ||
| Government institutions |
| $ | 1,204 |
| $ | 921 |
|
| InScope (Note 8C) |
|
| — |
|
| 5,000 |
|
| Current maturities of marketable securities |
|
| — |
|
| 288 |
|
| Other |
|
| 67 |
|
| 343 |
|
|
|
|
|
| ||||
| ||||||||
|
|
| $ | 1,271 |
| $ | 6,552 |
|
|
|
|
|
|
Note 4 - Inventories
|
|
|
|
|
|
|
|
|
|
|
| December 31 |
| ||||
|
|
|
| |||||
|
|
| 2004 |
| 2005 |
| ||
|
|
|
|
| ||||
|
|
|
|
|
|
| ||
| Raw materials and components |
| $ | 5,058 |
| $ | 7,399 |
|
| Work in progress |
|
| 3,891 |
|
| 3,251 |
|
| Finished goods |
|
| 4,845 |
|
| 5,522 |
|
|
|
|
|
| ||||
| ||||||||
|
|
| $ | 13,794 |
| $ | 16,172 |
|
|
|
|
|
|
Note 5 - Marketable Securities
|
|
| As of December 31, 2005, marketable securities consist of U.S. Government Bonds which the Company classified as “held-to-maturity” (hereinafter – the Bonds). |
|
|
| The amortized cost, gross unrealized gains, gross unrealized losses and fair value of the Bonds by major interest type were as follows: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| December 31, 2005 |
| |||||||
|
|
|
| ||||||||
|
|
| Amortized |
| Gross unrealized |
| Fair |
| |||
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
| |||
| 3.375% - 4.3% |
| $ | 17,697 |
| $ | (198 | ) | $ | 17,499 |
|
| 5.9% - 6% |
|
| 4,255 |
|
| (86 | ) |
| 4,169 |
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| $ | 21,952 |
| $ | (284 | ) | $ | 21,668 |
|
|
|
|
|
|
|
Maturities of the Bonds were as follows at December 31, 2005
|
|
|
|
|
|
|
|
|
|
|
| Amortized cost |
| Fair value |
| ||
|
|
|
|
| ||||
|
|
| 2005 |
| 2005 |
| ||
|
|
|
|
| ||||
| ||||||||
| Current maturities |
| $ | 288 |
| $ | 284 |
|
| Due after one year through five years |
|
| 21,664 |
|
| 21,384 |
|
|
|
|
|
| ||||
| ||||||||
|
|
| $ | 21,952 |
| $ | 21,668 |
|
|
|
|
|
|
F-16
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 6 - Fixed Assets, at Cost, Less Accumulated Depreciation
|
|
|
|
|
|
|
|
|
|
|
| December 31 |
| ||||
|
|
|
| |||||
|
|
| 2004 |
| 2005 |
| ||
|
|
|
|
| ||||
|
|
|
|
|
|
| ||
| Computers and software |
| $ | 3,988 |
| $ | 4,942 |
|
| Instruments and laboratory equipment |
|
| 587 |
|
| 682 |
|
| Leasehold improvements |
|
| 1,554 |
|
| 3,847 |
|
| Motor vehicles |
|
| 55 |
|
| 55 |
|
| Machinery and equipment |
|
| 10,167 |
|
| 12,702 |
|
| Communication equipment |
|
| 375 |
|
| 388 |
|
| Office furniture and equipment |
|
| 927 |
|
| 1,273 |
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
| Fixed assets |
|
| 17,653 |
|
| 23,889 |
|
|
|
|
|
|
|
|
|
|
| Accumulated depreciation |
|
| (7,791 | ) |
| (10,027 | ) |
|
|
|
|
| ||||
| ||||||||
| Fixed assets less accumulated depreciation |
| $ | 9,862 |
| $ | 13,862 |
|
|
|
|
|
|
|
|
| Depreciation expense for the years ended December 31, 2003, 2004 and 2005 are $2,475, $2,561 and $2,936, respectively. |
Note 7 - Other Assets, at Cost, Less Accumulated Amortization
|
|
|
|
|
|
|
|
|
|
|
| December 31 |
| ||||
|
|
|
| |||||
|
|
| 2004 |
| 2005 |
| ||
|
|
|
|
| ||||
|
|
|
|
|
|
| ||
| Software development costs |
| $ | 647 |
| $ | 647 |
|
| Patents and trademarks |
|
| 2,485 |
|
| 3,425 |
|
| Web site application and infrastructure |
|
| 823 |
|
| 895 |
|
| Deposits |
|
| 425 |
|
| 401 |
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
| Other assets |
|
| 4,380 |
|
| 5,368 |
|
|
|
|
|
|
|
|
|
|
| Accumulated amortization |
|
| (1,790 | ) |
| (2,450 | ) |
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
| Other assets, net |
| $ | 2,590 |
| $ | 2,918 |
|
|
|
|
|
|
|
|
| Amortization expense for the years ended December 31, 2003, 2004 and 2005 are $555, $586 and $660, respectively. |
F-17
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 8 - Commitments and Contingencies
|
|
|
| A. | Office of the Chief Scientist Grants |
|
|
|
| The Company’s research and development efforts have been partially financed through grants from the Office of the Chief Scientist of the Israeli Ministry of Industry and Trade (the “OCS”). In return for the OCS’s participation, the Company is committed to pay royalties to the Israeli Government at the rate of 3% for each of the first three years and, from the fourth year onwards, at the rate of 3.5% of the sales of its product, up to 100% of the amount of the grants received. The grants are deducted from research and development expenses. The Company is entitled to the grants only upon incurring research and development expenditures. There are no future performance obligations related to the grants received from the OCS. However, under certain limited circumstances, the OCS may withdraw its approval of a research program or amend the terms of its approval. Upon withdrawal of approval, the grant recipient may be required to refund the grant, in whole or in part, with or without interest, as the OCS determines. The Company received from the OCS office a total cumulative amount of $4,884 of which it already repaid $2,102. The total outstanding obligation for royalties, based on royalty-bearing government participation totaled approximately $2,782 as of December 31, 2005. Royalties payable to the OCS are classified in cost of revenues. | |
|
| |
| B. | Leases |
|
|
|
| Operating leases | |
| The Company and its subsidiaries currently lease office space and manufacturing space for periods of up to 15 years (including options to extend the terms of the leases). The current lease for the Company’s headquarters is in Yoqneam, Israel. This facility houses the Company’s corporate headquarters, research & development and manufacturing facilities. Under this lease agreement, the Company will pay approximately $1.2 million a year in rent and management fee. These payments are subject to adjustments based on changes in the Israeli Consumer Price Index. In addition, to secure its obligations under the lease, the Company provided a bank guaranty in the amount of approximately $700 in favor of the lessor. The lease expires on December 31, 2015. The Company has an option to extend the lease until December 31, 2020. | |
|
| |
| The Company and its subsidiaries signed several motor vehicle lease agreements. The companies deposited a total amount of $154 to guarantee their performance under the terms of the lease agreements. |
F-18
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 8 - Commitments and Contingencies (cont’d)
|
|
|
| B. | Leases (cont’d) |
|
|
|
| Future minimum capital lease payments and future minimum operating lease payments are: |
|
|
|
|
|
|
|
|
|
| December 31, 2005 |
| ||||
|
|
| |||||
|
| Capital lease |
| Operating leases |
| ||
|
|
|
| ||||
2006 |
| $ | 11 |
| $ | 2,353 |
|
2007 |
|
| 12 |
|
| 2,271 |
|
2008 |
|
| 18 |
|
| 1,907 |
|
2009 |
|
| — |
|
| 1,582 |
|
2010 and thereafter |
|
| — |
|
| 7,155 |
|
|
|
|
| ||||
|
| $ | 41 |
| $ | 15,268 |
|
|
|
|
|
|
|
|
| Office and manufacturing rental expense under the lease agreements for the years ended December 31, 2003, 2004 and 2005 are $1,140, $1,999 and $2,353 respectively. | |
|
| |
| C. | Agreement with Ethicon Endo-Surgery |
|
|
|
| On May 10, 2004, the Company entered into an exclusive sales representation, co-promotion and cooperation agreement with InScope, a division of Ethicon Endo-Surgery, a Johnson & Johnson company. InScope has exclusive rights to market the Company’s PillCam ESO capsule for visualization of the esophagus in the United States. Under the terms of the agreement, Inscope is committed to pay the Company up to $50 million, pending achievement of specified milestones by both parties. Out of this amount, the Company received, as of December 31, 2005, milestone payments of $20 million and an additional amount of $5 million for the achievement of a milestone is scheduled to be paid by April 1, 2006 (recorded in receivables). The Company pays InScope a commission of 50% on sales of PillCam ESO capsules and a 10% commission on sales of other parts of the Given System, such as workstations and portable data recorders. Subject to achieving specified minimum sales targets and meeting certain conditions, the exclusive term of the agreement will continue for up to 11 years followed by a four-year co-exclusive transition period with the Company. InScope began marketing PillCam ESO in the United States in November 2004 following FDA clearance for the PillCam ESO capsule. | |
|
| |
| All milestone payments are being deferred and systematically recognized by the Company as a reduction of commission expense over the 15 years term of the agreement. | |
|
| |
| Milestone payments are included in deferred income in the Consolidated Balance Sheets. |
F-19
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 8 - Commitments and Contingencies (cont’d)
|
|
|
| D. | Agreement with a Canadian supplier |
|
|
|
| The Company entered into an agreement with a Canadian company (hereinafter – the supplier) that supplies the transmitter that is integrated into the PillCam capsules. The supplier began supplying the transmitter to the Company in the fourth quarter of 2004, replacing its previous supplier. Under the agreement, the Company has agreed to purchase a minimum quantity of transmitters during the first 36 months following the development and testing phase, and if it fails to do so it must make certain payments to the supplier in respect of the shortfall. After this initial 36-month period, the supplier may terminate the agreement on six months notice if the Company does not order a minimum quantity of transmitters in each subsequent 12-month period, subject to the right of the Company to submit a final purchase order. The agreement also includes non-compete provisions prohibiting the supplier from selling the transmitters to other parties and, for a certain period of time following termination of the agreement, from transferring any of the intellectual property and design specifications associated with the development of the transmitter to any potential competitors in the Company’s market. The initial term of the agreement expires in April 2007, subject to earlier termination in specified circumstances, with the option to extend annually thereafter for up to five years. | |
|
| |
| In July 2005, the Company agreed with the supplier that it will develop and manufacture an enhanced version of the transmitter based on specifications that the Company provides, which it expects will replace the existing transmitter in 2007. The minimum purchase requirements will not apply to this enhanced transmitter. In addition, the initial term of the agreement was extended until April 2012, subject to earlier termination in specified circumstances, with the option to extend annually thereafter for up to five years. | |
|
| |
| E. | Patent reexamination |
|
|
|
| On December 30, 2003, a Japanese corporation filed a request for ex parte reexamination of some claims in one of the Company’s U.S. patents in the United States Patent and Trademark Office (USPTO). The USPTO issued an office action in the reexamination, to which the Company responded on August 17, 2005. In its reply, the Company defended the validity of the claims. | |
|
| |
| The Company is not accused of infringing a third party’s patent and its ability to sell its products is not contested. | |
|
| |
| F. | Provision for Sales Tax |
|
|
|
| The financial statements contain a provision of $1.8 million, before tax effect, for potential uncollectible sales tax, interest and penalties resulting from the failure of the Company’s U.S. subsidiary to appropriately collect and remit sales tax on sales in the U.S. since the fourth quarter of 2001. Under most state laws and the terms of its customer agreements, the Company has a right to collect the tax from its customers. This provision represents the Company’s estimation regarding the amounts it may not be able to collect from its customers and remit to the different jurisdictions, and any interest and penalties the Company may have to pay these jurisdictions for failure to timely remit the sales tax. |
F-20
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 9 - Accounts Payable - Other
|
|
|
|
|
|
|
|
|
|
| December 31 |
| |||
|
|
|
| ||||
|
| 2004 |
| 2005 |
| ||
|
|
|
| ||||
|
|
|
|
|
| ||
Government institutions |
| $ | 861 |
| $ | 3,693 |
|
Liabilities regarding employees |
|
| 3,795 |
|
| 4,700 |
|
Advances from customers |
|
| 35 |
|
| 39 |
|
Warranty |
|
| 39 |
|
| 71 |
|
Royalties to the OCS |
|
| 246 |
|
| 306 |
|
Commissions |
|
| 1,923 |
|
| 2,161 |
|
Accrued expenses |
|
| 1,779 |
|
| 2,916 |
|
|
|
|
| ||||
|
| $ | 8,678 |
| $ | 13,886 |
|
|
|
|
|
Note 10 - Liability in Respect of Employee Severance Payments
|
|
| Under Israeli law and labor agreements the Company is required to pay severance payments to each employee who was employed by the Company for over one year and has been terminated by the Company or resigned under certain specified circumstances. The Company’s liability for severance payment is covered mainly by deposits with insurance companies in the name of the employee and/or by purchase of insurance policies. The liability is calculated on the basis of the latest salary of the employee multiplied by the number of years of employment as of the balance sheet date. The provision for employee severance payment included in the balance sheet represents the total liability for such severance payment, while the assets held for severance benefits included in the balance sheet represents the Company’s contributions to severance pay funds and to insurance policies. The Company may make withdrawals from the funds only upon complying with the Israeli severance pay law or labor agreements. |
|
|
| The U.S. subsidiary has a defined contribution retirement plan for its employees. Employees are allowed to contribute a percentage of their salary in any one year, subject to a regulatory limit. The Company makes matching contributions of up to 3% of an employee’s salary. Employees are immediately vested in the Company’s contributions. |
|
|
| Expenses recorded in respect of provision for employee severance payments for the years ended December 31, 2003, 2004 and 2005 are $489, $525 and $664, respectively. |
Note 11 - Share Capital
|
|
|
| A. | Ordinary shares |
|
|
|
| All of the issued and outstanding Ordinary Shares of the Company are duly authorized, validly issued, fully paid and non-assessable. The Ordinary Shares of the Company are not redeemable and have no preemptive rights. The ownership or voting of Ordinary Shares by non-residents of Israel is not restricted in any way by the Company’s memorandum of association, its articles of association or the laws of the State of Israel, except that citizens of countries which are, or have been, in a state of war with Israel may not be recognized as owners of Ordinary Shares. |
F-21
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 11 - Share Capital (cont’d)
|
|
|
| B. | Employees’ and non employees’ stock options |
|
|
|
| In 2003, the Company adopted a stock option plan for directors, employees and consultants. The 2003 Plan replaced and superseded previous option plans adopted by the Company in 1998 and 2000. Under these plans, the Board of Directors (or a compensation committee appointed by the board) (the “Board”) has the authority to grant options to employees of the Company and its subsidiaries, directors or consultants. Each option entitles the holder to purchase one Ordinary Share of par value of NIS 0.05 and expires after 10 years from the date of grant. | |
|
| |
| The purchase price of each share pursuant to the options granted under the 2003 Plan shall be the fair market value on the date the Board approves the grant of the option or as otherwise determined by the Board. | |
|
| |
| As of December 31, 2005, 4,502,695 Ordinary Shares of the Company, of a par value of NIS 0.05 each, are reserved for the exercise of options under the Plan. | |
|
| |
| Unless otherwise determined by the Board, where a grant of options under the 2003 Plan is the first grant of options made to a person, 50% of the options vest and become exercisable on the second anniversary of the date of grant. An additional 25% of the options vest and become exercisable on each of the third and fourth anniversaries of the date of the grant. If, however, a grant under the 2003 Plan is made to a person who previously received stock options under the 2003 Plan or a previous plan of the Company, 25% of the options granted are immediately vested and exercisable and an additional 25% of the options vest and become exercisable on each of the first, second and third anniversaries of the date of the grant. | |
|
| |
| Options granted to Israeli optionees are designated as Section 102 options or Section 3(i) options within the meaning of the Israeli Income Tax Ordinance and related regulations as amended under the tax reform and are held in trust on behalf of the Israeli employees, as required by such legislation. | |
|
| |
| Options granted to non-Israeli optionees may or may not contain such terms that will qualify such options as Incentive Stock Options (“ISOs”) within the meaning of Section 422(b) of the United States Internal Revenue Code of 1986, as amended (the “Code”). Options that do not contain terms that will qualify them as ISOs are referred to herein as Non-Qualified Stock Options. Each option agreement is required to state whether such option will or will not be treated as an ISO. No ISO is granted unless such option, when granted, qualifies as an “incentive stock option” under Section 422 of the Code. | |
|
| |
| Compensation expense related to options issued has been calculated based on the difference between the market price of the underlying shares and the option’s exercise price. Prior to the IPO date (October 4, 2001), the market price of the underlying shares was estimated on the basis of the price that was paid by various third parties, as well as increases in value attributable to the achievement of milestones in the Company’s business plan. The share price paid by third parties has been adjusted upwards between the dates of the various private offerings. Following the IPO date, the market price represents the underlying listing price on the Nasdaq National Market. | |
|
| |
| The Company applies APB Opinion No. 25 in respect of options granted to employees and directors, and recorded compensation expense of $46, $16 and $3 in the years ended December 31, 2003, 2004 and 2005, respectively, according to the intrinsic value of the above options. | |
|
| |
| The Company applies Statement 123 in respect of options granted to consultants and recorded compensation expense of $59, $62 and $0 in the years ended December 31, 2003, 2004 and 2005, respectively, related to the above options according to the Black-Scholes model. |
F-22
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 11 - Share Capital (cont’d)
|
|
|
| B. | Employees’ and non employees’ stock options (cont’d) |
|
|
|
| The following table illustrates the effect on net profit (loss) and profit (loss) per Ordinary Share if the Company had applied the fair value recognition provisions of Statement 123: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| |||||||
|
|
|
| ||||||||
|
|
| 2003 |
| 2004 |
| 2005 |
| |||
|
|
|
|
|
| ||||||
| |||||||||||
| Net profit (loss) as reported |
| $ | (9,609 | ) | $ | 2,888 |
| $ | 6,343 |
|
| - Compensation expenses according to APB 25 included in the reported net loss |
|
| 46 |
|
| 16 |
|
| 3 |
|
| - Compensation expenses according to Statement 123 |
|
| (7,012 | ) |
| (13,432 | ) |
| (10,327 | ) |
|
|
|
|
|
| ||||||
| Pro forma net loss |
| $ | (16,575 | ) | $ | (10,528 | ) | $ | (3,981 | ) |
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
| Basic profit (loss) per Ordinary Share |
|
|
|
|
|
|
|
|
|
|
| As reported |
| $ | (0.38 | ) | $ | 0.11 |
| $ | 0.23 |
|
|
|
|
|
|
| ||||||
| Pro forma |
| $ | (0.65 | ) | $ | (0.39 | ) | $ | (0.14 | ) |
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
| Diluted profit (loss) per Ordinary Share |
|
|
|
|
|
|
|
|
|
|
| As reported |
| $ | (0.38 | ) | $ | 0.10 |
| $ | 0.21 |
|
|
|
|
|
|
| ||||||
| Pro forma |
| $ | (0.65 | ) | $ | (0.39 | ) | $ | (0.14 | ) |
|
|
|
|
|
|
|
|
|
| The fair value of each option granted is estimated on the date of grant, using the Black-Scholes model using the following assumptions: | |
|
|
|
| 1. | Dividend yield of zero percent. |
|
|
|
| 2. | Risk-free average interest rate as follows: |
|
|
|
|
|
|
|
| Year ended December 31, |
|
| % |
| |
|
|
|
| |||
| ||||||
| 2003 |
|
| 1.5 |
| |
| 2004 |
|
| 1.0-2.5 |
| |
| 2005 |
|
| 3.0-4.3 |
|
|
|
|
| 3. | Estimated expected lives of seven years as of the date of grant in regard to options granted until the end of 2003. Options granted in 2004 and 2005 have estimated expected lives of five years. |
|
|
|
| 4. | Expected average volatility of 81%, 74% and 62%, for the years ended December 31, 2003, 2004 and 2005, respectively, which represents a weighted average standard deviation rate for the price of the Company’s Ordinary Shares on the NASDAQ National Market. |
F-23
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 11 - Share Capital (cont’d)
|
|
|
| B. | Employees’ and non employees’ stock options (cont’d) |
|
|
|
|
| The following table summarizes information relating to stock options for Ordinary Shares outstanding as of the years indicated: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Options outstanding |
| Options exercisable |
| ||
|
|
|
|
| |||||||
| Exercise price |
| Number outstanding at |
| Weighted average remaining |
| Number exercisable at |
| |||
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
| |||
| NIS 0.05 |
|
| 159,578 |
|
| 2.50 |
|
| 159,578 |
|
| $1 - $10 |
|
| 1,250,600 |
|
| 5.83 |
|
| 1,166,225 |
|
| $10.01-$20 |
|
| 1,527,450 |
|
| 6.86 |
|
| 1,159,075 |
|
| $20.01-$30 |
|
| 453,275 |
|
| 9.29 |
|
| 94,575 |
|
| $30.01-$40 |
|
| 642,257 |
|
| 8.83 |
|
| 273,807 |
|
|
|
|
|
|
|
|
| ||||
|
|
|
| 4,033,160 |
|
|
|
|
| 2,853,260 |
|
|
|
|
|
|
|
|
|
The option allotments are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Number of shares |
| Weighted average |
| Weighted average |
| |||
|
|
|
|
|
| ||||||
| Balance at January 1, 2003 |
|
| 2,977,463 |
|
|
|
|
|
|
|
| Granted |
|
| 1,331,500 |
|
| 13.78 |
|
| 9.89 |
|
| Forfeited |
|
| (151,892 | ) |
| 9.08 |
|
| 8.92 |
|
| Exercised |
|
| (275,675 | ) |
| 2.63 |
|
| 3.34 |
|
|
|
|
|
|
|
|
|
|
| ||
| Balance at December 31, 2003 |
|
| 3,881,396 |
|
|
|
|
|
|
|
| Granted |
|
| 1,011,340 |
|
| 34.09 |
|
| 23.31 |
|
| Forfeited |
|
| (119,000 | ) |
| 14.84 |
|
| 10.36 |
|
| Exercised |
|
| (472,198 | ) |
| 5.44 |
|
| 4.11 |
|
|
|
|
|
|
|
|
|
|
| ||
| Balance at December 31, 2004 |
|
| 4,301,538 |
|
|
|
|
|
|
|
| Granted |
|
| 266,000 |
|
| 25.06 |
|
| 13.93 |
|
| Forfeited |
|
| (205,483 | ) |
| 26.96 |
|
| 16.78 |
|
| Exercised |
|
| (328,895 | ) |
| 3.29 |
|
| 2.78 |
|
|
|
|
|
|
|
|
|
|
| ||
| Balance at December 31, 2005 |
|
| 4,033,160 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| The following summarizes the departmental allocation of the stock-based compensation charge for both employees and non-employee stock option grants: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| |||||||
|
|
|
| ||||||||
|
|
| 2003 |
| 2004 |
| 2005 |
| |||
|
|
|
|
|
| ||||||
| |||||||||||
| Research and development costs |
| $ | (18 | ) | $ | 63 |
| $ | — |
|
| Selling and marketing expenses |
|
| 94 |
|
| 1 |
|
| — |
|
| General and administrative expenses |
|
| 29 |
|
| 14 |
|
| 3 |
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| $ | 105 |
| $ | 78 |
| $ | 3 |
|
|
|
|
|
|
|
F-24
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 12 - Revenues
|
|
|
| A. | Revenues by activities |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| |||||||
|
|
|
| ||||||||
|
|
| 2003 |
| 2004 |
| 2005 |
| |||
|
|
|
|
|
| ||||||
| |||||||||||
| Workstations and recorders |
| $ | 15,879 |
| $ | 18,669 |
| $ | 16,145 |
|
| PillCam SB capsule |
|
| 22,865 |
|
| 41,622 |
|
| 62,528 |
|
| PillCam ESO capsule |
|
| — |
|
| 1,829 |
|
| 4,384 |
|
| Patency capsules and scanners |
|
| 15 |
|
| 188 |
|
| 174 |
|
| Service |
|
| 1,780 |
|
| 2,712 |
|
| 3,545 |
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| $ | 40,539 |
| $ | 65,020 |
| $ | 86,776 |
|
|
|
|
|
|
|
|
|
|
| B. | Revenues by geographic areas |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| |||||||
|
|
|
| ||||||||
|
|
| 2003 |
| 2004 |
| 2005 |
| |||
|
|
|
|
|
| ||||||
| |||||||||||
| United States |
| $ | 26,162 |
| $ | 46,694 |
| $ | 63,896 |
|
| Europe |
|
| 11,838 |
|
| 13,447 |
|
| 16,765 |
|
| Rest of the world |
|
| 2,539 |
|
| 4,879 |
|
| 6,115 |
|
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| $ | 40,539 |
| $ | 65,020 |
| $ | 86,776 |
|
|
|
|
|
|
|
Note 13 - Financial Income, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| Year ended December 31, |
| |||||||
|
|
|
| ||||||||
|
|
| 2003 |
| 2004 |
| 2005 |
| |||
|
|
|
|
|
| ||||||
| |||||||||||
| Currency gains (losses) |
| $ | 840 |
| $ | 444 |
| $ | (837 | ) |
| Interest income |
|
| 272 |
|
| 685 |
|
| 1,963 |
|
| Income from marketable securities |
|
| — |
|
| — |
|
| 422 |
|
| Other |
|
| (117 | ) |
| (173 | ) |
| (786 | ) |
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
| $ | 995 |
| $ | 956 |
| $ | 762 |
|
|
|
|
|
|
|
F-25
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 14 - Taxes on Income
|
|
|
| A. | Company |
|
|
|
| (1) | Israeli income tax is computed on the basis of the Company’s results in nominal NIS determined for statutory purposes. The Company is assessed for tax purposes under the Income Tax Law (Inflationary Adjustments 1985), the purpose of which is to prevent taxation on inflationary profits. |
|
|
|
|
| Pursuant to the Israeli tax law, the Company was awarded “Approved Enterprise” status under the government alternative benefits track. The program is for investments in the development of infrastructure and for investments in locally produced and imported equipment. The main benefits to which the Company will be entitled, if it implements all the terms of an approved program, are the exemption from tax on income deriving from an approved enterprise, and reduced tax rates on dividends originating from this income. |
|
|
|
|
| The income derived from an approved enterprise will be exempt from tax for a ten year period, commencing on the date that taxable income is first generated by the approved enterprise (limited to the earlier of a maximum period of 12 years from the year of commencement of operations or 14 years from the year the approval letter was received (2014, for the first program)). As of December 31, 2005, the benefit term had not commenced. |
|
|
|
|
| Dividend distributions originating from the income of the Approved Enterprise will be subject to tax at the rate of 15%, provided that the dividend is distributed during the period stipulated under Israeli law. |
|
|
|
|
| In the event of a dividend distribution (including withdrawals and charges that are deemed to be dividends) out of the income originating from the approved enterprise, and on which the Company received a tax exemption, the distribution is subject to corporate taxes at rates varying from 10% - 25% depending on the percentage of foreign investment holding in the Company as defined by the Law. |
|
|
|
|
| If the Company derives income from sources other than the approved enterprise during the relevant period of benefits, such income will be taxable at regular corporate tax rates (see (4) below). |
|
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|
|
| On March 30, 2005, the Knesset approved a reform of the Encouragement of Capital Investments Law - 1959 (hereinafter - “the reform”), which allows companies that meet the criteria of the alternative tax benefits track, to receive these benefits, subject to certain conditions, without prior approval and with no requirement to file reports with the Investment Center. Audits will take place via the Income Tax Authorities as part of the tax audits. |
F-26
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 14 - Taxes on Income (cont’d)
|
|
|
| A. | Company (cont’d) |
|
|
|
|
| The reform does not retroactively apply for investment programs having an approved enterprise approval certificate from the Investment Center issued up to December 31, 2004 and should not impact an existing approved enterprise, which received written approval. The reform shall apply for a new Approved Enterprise and for an approved enterprise expansion for which the first year of benefits may be as early as 2004. |
|
|
|
| (2) | The Company has net operating loss carryforwards in Israel of approximately $14 million as of December 31, 2005. These net operating loss carryforwards are linked to the Israeli Consumer Price Index and are available to offset future taxable income, if any, indefinitely. |
|
|
|
| (3) | The Israeli Company is exempt from tax for a ten-year period. Therefore, the Israeli Company has not recorded deferred tax assets and liabilities. |
|
|
|
| (4) | On July 25, 2005 the Knesset passed the Law for the Amendment of the Income Tax Ordinance (No.147 and Temporary Order) - 2005 (hereinafter - the Amendment). |
|
|
|
|
| The Amendment provides for a gradual reduction in corporate tax rates in the following manner: in 2006 - 31%, 2007 - 29%, 2008 - 27%, 2009 - 26% and from 2010 onward 25%. Furthermore, as from 2010, upon reduction of the corporate tax rate to 25%, capital gains will be subject to tax of 25%. |
|
|
|
|
| This change has no effect on the financial statements of the Company. |
|
|
|
| B. | Subsidiaries |
|
|
|
| Because of operating losses, the Company’s subsidiaries incurred no income tax expense for the period from inception through December 31, 2005. At December 31, 2005, the subsidiaries had local, federal and state net operating loss carryforwards of approximately $22 million. |
F-27
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 14 - Taxes on Income (cont’d)
|
|
|
| C. | Deferred Taxes |
|
|
|
| In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers projected future taxable income and tax planning strategies in making this assessment. | |
|
| |
| Based upon projections for future taxable income over the periods in which the deferred tax assets are deductible, management believes it is more likely than not that the Company will realize the benefits of these deductible differences, net of the existing valuation allowances at December 31, 2005. The amount of the deferred tax asset considered realizable, however, could be reduced in the near term if estimates of future taxable income during the carryforward period are reduced. | |
|
| |
| The tax effects of significant items comprising the Company’s deferred taxes are: |
|
|
|
|
|
|
|
|
|
|
|
| December 31 |
| ||||
|
|
|
| |||||
|
|
| 2004 |
| 2005 |
| ||
|
|
|
|
| ||||
| ||||||||
| Net operating tax assets regarding carryforward losses of subsidiaries |
| $ | 8,349 |
| $ | 9,960 |
|
| Other timing differences |
|
| 5,484 |
|
| 1,576 |
|
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
| Deferred tax asset |
|
| 13,833 |
|
| 11,536 |
|
| Valuation allowance |
|
| (13,096 | ) |
| (10,317 | ) |
|
|
|
|
| ||||
|
|
|
|
|
|
|
|
|
|
|
| $ | 737 |
| $ | 1,219 |
|
|
|
|
|
|
|
|
|
| The net change in the total valuation allowance for the year ended December 31, 2005 was $2,779. | |
|
| |
| D. | Reconciliation of the statutory tax expense (benefit) to actual taxes on income |
|
|
|
|
|
|
|
|
|
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|
|
|
| Year ended December 31, |
| |||||||
|
|
|
| ||||||||
|
|
| 2003 |
| 2004 |
| 2005 |
| |||
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
| Profit (loss) before taxes on income as reported in the consolidated statements of operations |
| $ | (9,867 | ) | $ | 2,141 |
| $ | 5,227 |
|
|
|
|
|
|
|
|
|
|
|
|
|
| Tax rate |
|
| 0 | % |
| 0 | % |
| 0 | % |
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
| Statutory income tax on the above amount |
|
| — |
|
| — |
|
| — |
|
|
|
|
|
|
|
|
|
|
|
|
|
| Tax benefits in subsidiaries |
|
| — |
|
| (690 | ) |
| (286 | ) |
|
|
|
|
|
| ||||||
|
|
|
|
|
|
|
|
|
|
|
|
| Taxes on income |
| $ | — |
| $ | (690 | ) | $ | (286 | ) |
|
|
|
|
|
| ||||||
|
|
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|
|
|
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|
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|
|
F-28
Given Imaging Ltd. and its Consolidated Subsidiaries
Notes To The Consolidated Financial Statements
(In thousands except share and per share data)
Note 15 - Related Parties Transactions and Balances
|
|
| Agreement with Rafael |
|
|
| On January 29, 1998, the Company entered into a technology purchase and license agreement (the “Technology Purchase Agreement”) with Rafael Armament Development Authority (“Rafael”) which is a division of the Israeli Ministry of Defense. |
|
|
| Rafael is a related party because it beneficially owns approximately 49% of the outstanding shares of RDC Rafael Development Corporation, and they both hold approximately 10% of the Company’s shares. |
|
|
| Pursuant to the Technology Purchase Agreement, the Company purchased from Rafael for $30 all of Rafael’s rights to the technology associated with and the patent issued in connection with the prototype PillCam capsule and system. Rafael and the Company each granted each other certain rights in connection with the know-how and technology associated with the PillCam capsule and system, in the case of Rafael, solely for use in the military and security fields and, in the case of the Company, solely for commercial exploitation of the PillCam capsule. |
|
|
| In consideration for payment of royalties in an amount to be agreed upon, the Company and Rafael have agreed to grant to the other the exclusive right to use any improvements to the PillCam capsule and system technology developed by the other party in these fields. |
| |
| None of the parties has exercised these certain rights to date. |
Note 16 - Fair Value of Financial Instruments
|
|
| The Company’s financial instruments include cash and cash equivalents, accounts receivable, deposits, assets held for severance benefits, marketable securities and accounts payable. The carrying amounts of these financial instruments approximate fair value. |
F-29