UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
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QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended June 30, 2001 Commission File Number 0-8672
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ST. JUDE MEDICAL, INC.
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(Exact name of Registrant as specified in its charter)
MINNESOTA 41-1276891
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(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
One Lillehei Plaza, St. Paul, Minnesota 55117
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(Address of principal executive offices)
(651) 483-2000
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(Registrant's telephone number, including area code)
Not Applicable
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(Former name, former address and former fiscal year, if changed since
last report)
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; and (2) has been subject to such filing
requirements for the past 90 days.
YES _X_ NO ___
The number of shares of common stock, par value $.10 per share, outstanding on
July 27, 2001 was 86,545,526.
Page 1 of 19
PART I FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
ST. JUDE MEDICAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
(UNAUDITED)
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
2001 2000 2001 2000
- -----------------------------------------------------------------------------------------------------------
Net sales $ 336,062 $ 300,939 $ 662,127 $ 596,438
Cost of sales 110,223 98,576 217,300 200,554
- -----------------------------------------------------------------------------------------------------------
Gross profit 225,839 202,363 444,827 395,884
Selling, general and administrative expense 117,080 107,766 230,701 211,065
Research and development expense 41,126 34,896 80,631 67,290
Purchased in-process research and
development charges 5,000 5,000 5,000 5,000
Special charge -- -- -- 26,101
- -----------------------------------------------------------------------------------------------------------
Operating profit 62,633 54,701 128,495 86,428
Other income (expense) (2,540) (7,543) (5,637) (14,649)
- -----------------------------------------------------------------------------------------------------------
Earnings before income taxes 60,093 47,158 122,858 71,779
Income tax expense 16,274 13,039 31,965 21,832
- -----------------------------------------------------------------------------------------------------------
Net earnings $ 43,819 $ 34,119 $ 90,893 $ 49,947
===========================================================================================================
===========================================================================================================
Net earnings per share:
Basic $ 0.51 $ 0.41 $ 1.06 $ 0.60
Diluted $ 0.49 $ 0.40 $ 1.03 $ 0.59
Weighted average shares outstanding:
Basic 85,786 83,862 85,662 83,819
Diluted 88,803 84,925 88,602 84,381
===========================================================================================================
See notes to condensed consolidated financial statements.
Page 2 of 19
ST. JUDE MEDICAL, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
JUNE 30, 2001 DECEMBER 31,
(UNAUDITED) 2000 (SEE NOTE)
- ------------------------------------------------------------------------------------------------
ASSETS
Current assets
Cash and equivalents $ 69,265 $ 50,439
Marketable securities 54,077 57,423
Accounts receivable, less allowances of $16,377
in 2001 and $13,831 in 2000 316,995 303,307
Inventories 234,663 222,238
Other current assets 70,491 71,235
- ------------------------------------------------------------------------------------------------
Total current assets 745,491 704,642
Property, plant and equipment 648,844 619,392
Less accumulated depreciation (330,287) (302,213)
- ------------------------------------------------------------------------------------------------
Net property, plant and equipment 318,557 317,179
Other assets
Goodwill and other intangible assets, net 429,849 430,896
Other 76,474 79,999
- ------------------------------------------------------------------------------------------------
Total other assets 506,323 510,895
- ------------------------------------------------------------------------------------------------
TOTAL ASSETS $ 1,570,371 $ 1,532,716
================================================================================================
LIABILITIES & SHAREHOLDERS' EQUITY
Current liabilities
Accounts payable $ 90,742 $ 81,340
Accrued expenses 152,882 157,803
Income taxes payable 69,083 58,224
- ------------------------------------------------------------------------------------------------
Total current liabilities 312,707 297,367
Long-term debt 229,400 294,500
Commitments and contingencies -- --
Shareholders' equity
Preferred stock -- --
Common stock 8,596 8,534
Additional paid-in capital 81,785 55,723
Retained earnings 1,053,212 962,317
Accumulated other comprehensive income:
Cumulative translation adjustment (119,402) (93,380)
Unrealized gain on available-for-sale securities 4,073 7,655
- ------------------------------------------------------------------------------------------------
Total shareholders' equity 1,028,264 940,849
- ------------------------------------------------------------------------------------------------
TOTAL LIABILITIES & SHAREHOLDERS' EQUITY $ 1,570,371 $ 1,532,716
================================================================================================
NOTE: THE BALANCE SHEET AT DECEMBER 31, 2000 HAS BEEN DERIVED FROM THE AUDITED
FINANCIAL STATEMENTS AT THAT DATE. SEE NOTES TO CONDENSED CONSOLIDATED FINANCIAL
STATEMENTS.
Page 3 of 19
ST. JUDE MEDICAL, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
SIX MONTHS ENDED
JUNE 30,
2001 2000
- -----------------------------------------------------------------------------------------------
Operating Activities
Net earnings $ 90,893 $ 49,947
Depreciation and amortization 43,902 46,667
Purchased in-process research and development charges 5,000 5,000
Special charge -- 26,101
Net investment gain -- (1,696)
Working capital change and other (14,622) (67,895)
- -----------------------------------------------------------------------------------------------
Net cash provided by operating activities 125,173 58,124
Investing Activities
Purchase of property, plant and equipment (35,899) (18,475)
Proceeds from sale or maturity of marketable securities -- 2,300
Other (20,785) (8,165)
- -----------------------------------------------------------------------------------------------
Net cash used in investing activities (56,684) (24,340)
Financing Activities
Proceeds from exercise of stock options 20,787 9,377
Borrowings under debt facilities 1,183,000 2,593,900
Payments under debt facilities (1,248,100) (2,616,100)
Repurchase of convertible subordinated debentures -- (19,320)
- -----------------------------------------------------------------------------------------------
Net cash used in financing activities (44,313) (32,143)
Effect of currency exchange rate changes on cash (5,350) (356)
- -----------------------------------------------------------------------------------------------
Net increase in cash and equivalents 18,826 1,285
Cash and equivalents at beginning of period 50,439 9,655
- -----------------------------------------------------------------------------------------------
Cash and equivalents at end of period $ 69,265 $ 10,940
===============================================================================================
See notes to condensed consolidated financial statements.
Page 4 of 19
ST. JUDE MEDICAL, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial information, and with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring adjustments) considered necessary for a fair presentation
have been included. Operating results for the interim periods are not
necessarily indicative of the results that may be expected for the full year.
For further information, refer to the consolidated financial statements and
footnotes included in the Company's Annual Report on Form 10-K for the fiscal
year ended December 31, 2000.
NOTE 2 - INVENTORIES
Inventories consist of the following:
JUNE 30, DECEMBER 31,
2001 2000
- -------------------------------------------------------------------------
Finished goods $ 129,346 $ 123,696
Work in process 44,149 35,640
Raw materials 61,168 62,902
- -------------------------------------------------------------------------
$ 234,663 $ 222,238
=========================================================================
NOTE 3 - LONG-TERM DEBT
Long-term debt consists of the following:
JUNE 30, DECEMBER 31,
2001 2000
- -------------------------------------------------------------------------
Commercial paper borrowings $ 229,400 $ 223,000
Uncommitted credit facility borrowings -- 71,500
- -------------------------------------------------------------------------
Total long-term debt $ 229,400 $ 294,500
=========================================================================
The Company issues commercial paper with maturities up to 270 days. These
commercial paper borrowings are fully backed by committed credit facilities.
The Company has committed revolving credit facilities of $350,000 and $150,000
that expire in March 2003 and March 2002, respectively. The Company also borrows
from time to time under uncommitted, due-on-demand credit facilities with
various banks.
Page 5 of 19
The Company classifies all of its commercial paper and credit facility
borrowings as long-term on its balance sheet as the Company has the ability to
repay any short-term obligations with available cash from its existing
long-term, committed credit facility. Management continually reviews the
Company's cash flow projections and may from time to time repay a portion of the
Company's borrowings.
NOTE 4 - COMMITMENTS AND CONTINGENCIES
SILZONE(R) LITIGATION: The Company has been sued by patients alleging defects in
the Company's mechanical heart valves with Silzone(R) coating. The Company
recalled products with Silzone(R) coating on January 21, 2000, and sent a Recall
Notice and Advisory concerning the recall to physicians and others. Some of
these cases are seeking monitoring of patients implanted with Silzone(R)-coated
valves who allege no injury to date. Some of these cases are seeking class
action status. The Company intends to vigorously defend these cases. See also
Note 6 regarding the 2000 special charge for the Silzone(R) recall.
On April 18, 2001, the U.S. Judicial Panel on Multi-Litigation ruled that
certain lawsuits filed in U.S. federal district court involving products with
Silzone(R) coating should be part of M.D.L. proceedings, which will take place
under the supervision of U.S. District court Judge John Tunheim in Minnesota. As
a result, a number of actions involving products with Silzone(R) coating are
being transferred to Judge Tunheim's court in Minnesota for coordinated or
consolidated pretrial proceedings.
While it is not possible to predict the outcome of these cases, the Company
believes that it has adequate product liability insurance to cover the costs
associated with them. The Company believes that any costs not covered by product
liability insurance will not have a material adverse impact on the Company's
financial position or liquidity, but may be material to the consolidated results
of operations of any one period.
GUIDANT LITIGATION: On November 26, 1996, Guidant Corporation (a competitor of
St. Jude Medical) ("Guidant") and related parties filed two lawsuits against St.
Jude Medical, Inc. and certain affiliates ("St. Jude Medical"). The first
lawsuit, filed in State Superior Court in Marion County, Indiana, alleged, among
other things, that the license agreement between CPI (Guidant) and members of
the Telectronics Group did not pass to St. Jude Medical upon St. Jude Medical's
acquisition of substantially all the assets of the Telectronics cardiac
stimulation device business. This lawsuit was stayed by the court in 1998
pending a ruling on the transferability of the CPI/Telectronics license by an
arbitrator, as required by the license agreement.
On July 10, 2000, the arbitrator ruled that the CPI/Telectronics license
agreement did not transfer to St. Jude Medical in connection with St. Jude
Medical's acquisition of the Telectronics cardiac stimulation device business.
Pursuant to an earlier ruling by the arbitrator, St. Jude Medical was not
allowed to participate in the arbitration proceeding.
The second case Guidant initiated against St. Jude Medical in November 1996 was
filed in the United States District Court for the Southern District of Indiana.
In this lawsuit, Guidant originally alleged infringement by St. Jude Medical of
four patents. Guidant later dismissed its claims on one patent
Page 6 of 19
(the '678 patent). In addition, in response to a stipulation by the parties, the
court ruled that a second patent (the '191 patent) was invalid. Guidant has
appealed the ruling of invalidity concerning the '191 patent.
The judge in the U.S. District court action issued a pre-trial ruling in May
2001 which determined that the CPI/Telectronics license did not transfer to St.
Jude Medical. Based on the ruling of the arbitrator and the judge in the federal
court case, the Indiana State court action discussed above has no further
significance.
A jury trial involving the two remaining patents asserted by Guidant (the '288
and '472 patents) commenced in June 2001. The jury issued its verdict on July 3,
2001, finding that both the '472 and '288 patents were valid and that St. Jude
Medical did not infringe the '288 patent. The jury also found that St. Jude did
infringe the '472 patent, which expired on March 4, 2001, but that the
infringement was not willful. The jury awarded damages of $140 million to
Guidant.
The jury's verdict in this case has not yet been entered as a judgment by the
judge overseeing the trial pending any post-trial motions filed by St. Jude
Medical or Guidant. St. Jude is filing various post-trial motions which would
effectively eliminate any damage award on the '472 patent if these motions were
ruled upon favorably by the trial judge. The Company will also file alternative
post-trial motions seeking to reduce the damage amount. Rulings on the post
trial motions filed by the parties are expected in the fourth quarter of 2001.
Under these circumstances, the Company is unable to determine the amount of a
loss, if any, and consequently has not recorded any liability for this lawsuit
in its financial statements.
Since the date of St. Jude Medical's acquisition of Ventritex in May 1997 and
the inception of the Company's sales of implantable cardioverter defibrillator
(ICD) products, St. Jude has accrued a 3% royalty on its ICD sales under a
license it believed it had acquired as part of its purchase of the Telectronics
cardiac stimulation device business. As a result of the jury's verdict that St.
Jude's ICD products do not infringe Guidant's '288 patent, future royalty
accruals are no longer necessary. The historical accruals under this license,
which total approximately $15 million, will remain on the Company's balance
sheet pending future developments in this case.
OTHER LITIGATION MATTERS: The Company is involved in various other product
liability lawsuits, claims and proceedings of a nature considered normal to its
business. Subject to self-insured retentions, the Company believes it has
product liability insurance sufficient to cover such claims and suits.
NOTE 5 - SHAREHOLDERS' EQUITY
CAPITAL STOCK: The Company's authorized capital consists of 25,000 shares of
$1.00 per share par value preferred stock and 250,000 shares of $0.10 per share
par value common stock. There were no shares of preferred stock issued or
outstanding during 2000 or 2001. There were 85,965 and 85,336 shares of common
stock outstanding at June 30, 2001 and December 31, 2000.
Page 7 of 19
SHARE REPURCHASES: In 1999, the Company's Board of Directors authorized the
repurchase of up to $250,000 of the Company's outstanding common stock over a
three-year period at the discretion of the Company's management. Since the
authorization in 1999, the Company has repurchased 978 shares of its common
stock for $29,826.
NOTE 6 - SPECIAL CHARGES
On January 21, 2000, the Company initiated a worldwide voluntary recall of all
field inventory of heart valve replacement and repair products incorporating a
Silzone(R) coating on the sewing cuff fabric. The Company concluded that it will
no longer utilize a Silzone(R) coating. The Company recorded a special charge
accrual totaling $26,101 during the first quarter of 2000 relating to asset
write-downs ($9,465) and other costs ($16,636), including monitoring expenses,
associated with this recall and product discontinuance. The Company has utilized
$18,372 of this special charge accrual through June 30, 2001. There can be no
assurance that the final costs associated with this recall, including
litigation-related costs, will not exceed management's estimates.
In July 2001, the Company announced a restructuring of its U.S. and
international sales organizations and a streamlining of its heart valve
operations. As a result of these activities, the Company anticipates recording a
pre-tax special charge of approximately $12,000 to $16,000 in the third quarter
of 2001.
NOTE 7 - PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT CHARGES
The Company recorded purchased in-process research and development charges
totaling $5,000 during each of the second quarters of 2001 and 2000 relating to
performance-based milestone payments associated with the 1999 acquisition of
Vascular Science, Inc. (VSI). See Note 2 of the "Notes to Consolidated Financial
Statements" in the Company's 2000 Annual Report on Form 10-K for additional
discussion on the VSI acquisition and related accounting.
NOTE 8 - NET EARNINGS PER SHARE
The table below sets forth the computation of basic and diluted net earnings per
share:
Page 8 of 19
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
2001 2000 2001 2000
- ------------------------------------------------------------------------------------------------------
Numerator:
Net earnings $ 43,819 $ 34,119 $ 90,893 $49,947
Denominator:
Basic-weighted average shares outstanding 85,786 83,862 85,662 83,819
Effect of dilutive securities:
Employee stock options 2,977 1,018 2,901 517
Restricted shares 40 45 39 45
- ------------------------------------------------------------------------------------------------------
Diluted-weighted average shares outstanding 88,803 84,925 88,602 84,381
======================================================================================================
Basic net earnings per share $ .51 $ .41 $ 1.06 $ .60
======================================================================================================
Diluted net earnings per share $ .49 $ .40 $ 1.03 $ .59
======================================================================================================
Net earnings and diluted-weighted average shares outstanding for 2000 have not
been adjusted for the Company's convertible debentures or for certain employee
stock options and awards since the effect of those securities would have been
anti-dilutive.
NOTE 9 - COMPREHENSIVE INCOME (LOSS)
Other comprehensive income (loss) consists of unrealized gains or losses on
available-for-sale marketable securities, net of taxes, and foreign currency
translation adjustments. Other comprehensive loss was $(16,027) and $(9,411) for
the three months ended June 30, 2001 and 2000, and $(29,604) and $(12,144) for
the first six months of 2001 and 2000. Total comprehensive income (loss)
combines reported net earnings and other comprehensive income (loss). Total
comprehensive income was $27,792 and $24,708 for the three months ended June 30,
2001 and 2000, and $61,289 and $37,803 for the first six months of 2001 and
2000.
NOTE 10 - OTHER INCOME (EXPENSE)
Other income (expense) consists of the following:
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
2001 2000 2001 2000
- ------------------------------------------------------------------------------------------------------
Interest expense, net $ (2,778) $ (7,230) $ (7,182) $ (14,355)
Other 238 (313) 1,545 (294)
- ------------------------------------------------------------------------------------------------------
Other income (expense) $ (2,540) $ (7,543) $ (5,637) $ (14,649)
- ------------------------------------------------------------------------------------------------------
Page 9 of 19
NOTE 11 - SEGMENT INFORMATION
The Company has two reportable segments: Cardiac Rhythm Management (CRM) and
Cardiac Surgery (CS). The CRM segment, which includes the results from the
Company's Cardiac Rhythm Management Division and Daig Division, develops,
manufactures and distributes bradycardia pulse generator and tachycardia
implantable cardioverter defibrillator systems, electrophysiology and
interventional cardiology catheters and vascular closure devices. The CS segment
develops, manufactures and distributes mechanical and tissue heart valves and
valve repair products, and suture-free devices to facilitate coronary artery
bypass graft anastomoses.
The following table presents certain financial information about the Company's
reportable segments:
CRM CS ALL OTHER (a) TOTAL
- --------------------------------------------------------------------------------------------------------
Quarter ended June 30, 2001
External net sales $ 272,213 $ 63,849 $ -- $ 336,062
Operating profit (loss) (b) 48,005 28,724 (14,096) 62,633
QUARTER ENDED JUNE 30, 2000
External net sales 234,288 66,651 -- 300,939
Operating profit (loss) (b) 32,988 33,679 (11,966) 54,701
SIX MONTHS ENDED JUNE 30, 2001
External net sales 532,633 129,494 -- 662,127
Operating profit (loss) (b) 90,290 62,182 (23,977) 128,495
SIX MONTHS ENDED JUNE 30, 2000
External net sales 459,546 136,892 -- 596,438
Operating profit (loss) (b) 65,082 68,799 (47,453) 86,428
========================================================================================================
(a) AMOUNTS RELATE PRIMARILY TO CORPORATE ACTIVITIES, PURCHASED IN-PROCESS
RESEARCH AND DEVELOPMENT CHARGES AND SPECIAL CHARGES.
(b) ALL OTHER OPERATING PROFIT (LOSS) AMOUNTS INCLUDE PURCHASED IN-PROCESS
RESEARCH AND DEVELOPMENT CHARGES OF $5,000 IN EACH OF THE SECOND QUARTERS
OF 2001 AND 2000, AND SPECIAL CHARGES TOTALING $26,101 IN THE FIRST QUARTER
OF 2000.
NOTE 12 - NEW ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board issued Statements of
Financial Accounting Standards No. 141, Business Combinations (Statement 141),
and No. 142, Goodwill and Other Intangible Assets (Statement 142). These
Statements change the accounting for business combinations, goodwill, and
intangible assets. Statement 141 eliminates the pooling-of-interests
Page 10 of 19
method of accounting for business combinations except for qualifying business
combinations that were initiated prior to July 1, 2001. Statement 141 further
clarifies the criteria to recognize intangible assets separately from goodwill.
The requirements of Statement of 141 are effective for any business combination
accounted for by the purchase method that is completed after June 30, 2001.
Under Statement 142, goodwill and indefinite lived intangible assets are no
longer amortized but are reviewed annually (or more frequently if impairment
indicators arise) for impairment. Separable intangible assets that are not
deemed to have an indefinite life will continue to be amortized over their
useful lives. The amortization provisions of Statement 142 apply to goodwill and
intangible assets acquired after June 30, 2001. Goodwill and intangible assets
acquired prior to July 1, 2001 will continue to be amortized through December
31, 2001 for all calendar year companies. After December 31, 2001, such goodwill
and indefinite lived intangible assets will cease being amortized. Management is
reviewing the impact of these two statements on the Company's financial
statements.
Page 11 of 19
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF
OPERATIONS AND FINANCIAL CONDITION
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
RESULTS OF OPERATIONS
NET SALES: Net sales for the second quarter of 2001 totaled $336,062, an 11.7%
increase over the $300,939 reported in the second quarter of 2000. For the first
six months of 2001, net sales totaled $662,127, an 11.0% increase over the
$596,438 reported in the first half of 2000. Unfavorable foreign currency
effects due to a stronger U.S. dollar primarily against the major Western
European currencies reduced 2001 net sales as compared with 2000 by
approximately $5,900 for the second quarter and $11,600 for the first six
months.
Cardiac rhythm management (CRM) net sales for the second quarter of 2001 were
$272,213, a 16.2% increase over the $234,288 recorded in the second quarter of
2000. CRM net sales for the first six months of 2001 were $532,633, a 15.9%
increase over the $459,546 recorded in 2000. The increase in CRM net sales for
the second quarter and first six months of 2001 was primarily attributable to
increased bradycardia, tachycardia, Angio-Seal(TM), and electrophysiology (EP)
catheter unit sales, offset in part by negative foreign currency effects.
Cardiac surgery (CS) net sales for the second quarter of 2001 were $63,849, a
4.2% decrease from the $66,651 recorded in 2000. CS net sales for the first six
months of 2001 were $129,494 compared with $136,892 recorded in 2000. The
decrease in CS net sales in 2001 was attributable to the effects of the stronger
U.S. dollar, a slight increase in the export sales mix where average selling
prices are lower than in the U.S., and a slight clinical preference shift from
mechanical valves to tissue valves in the U.S. market where CS holds significant
mechanical valve market share and a smaller share of the tissue valve market.
GROSS PROFIT: Gross profit for the second quarter of 2001 totaled $225,839 or
67.2% of net sales, as compared with $202,363, or 67.2% of net sales, during the
second quarter of 2000. For the first six months of 2001 and 2000, gross profit
was $444,827, or 67.2% of net sales, and $395,884, or 66.4% of net sales. The
improvement in the gross profit percentage in the first six months of 2001 is
due primarily to higher CRM unit volumes and improved CRM manufacturing
efficiencies.
SELLING, GENERAL AND ADMINISTRATIVE (SG&A) EXPENSE: SG&A expense for the second
quarter of 2001 totaled $117,080, an 8.6% increase over the $107,766 reported in
the second quarter of 2000. For the first six months of 2001, SG&A expense
totaled $230,701, a 9.3% increase over the $211,065 recorded in 2000. The
increase in SG&A expense in the second quarter and first six months of 2001 was
primarily attributable to increased sales activities.
RESEARCH AND DEVELOPMENT (R&D) EXPENSE: R&D expense in the second quarter of
2001 totaled $41,126, or 12.2% of net sales, compared with $34,896, or 11.6 % of
net sales, for the second quarter of 2000. For the first six months of 2001, R&D
expense totaled $80,631 or 12.2% of net sales, compared with $67,290, or 11.3%
of net sales, for the first six months of 2000. The increase in R&D expenses and
as a percentage of net sales was primarily attributable to increased CRM
activities
Page 12 of 19
relating primarily to ICDs and products treating emerging indications
in atrial fibrillation and congestive heart failure.
PURCHASED IN-PROCESS RESEARCH AND DEVELOPMENT CHARGES: The Company recorded
purchased in-process research and development charges totaling $5,000 during
each of the second quarters of 2001 and 2000 relating to performance-based
milestone payments associated with the 1999 acquisition of Vascular Science,
Inc. (VSI). The Company anticipates additional in-process research and
development charges in 2002 or later related to the VSI acquisition as
additional milestones are achieved. See "Purchased in-process research and
development charges" in the Company's 2000 Annual Report on Form 10-K for
additional discussion on the VSI acquisition and related accounting.
SPECIAL CHARGES: On January 21, 2000, the Company initiated a worldwide
voluntary recall of all field inventory of heart valve replacement and repair
products incorporating a Silzone(R) coating on the sewing cuff fabric. The
Company concluded that it would no longer utilize a Silzone(R) coating. The
Company recorded a special charge accrual totaling $26,101 during the first
quarter of 2000 relating to asset write-downs ($9,465) and other costs
($16,636), including monitoring expenses, associated with this recall and
product discontinuance. The Company has utilized $18,372 of this special charge
accrual through June 30, 2001. There can be no assurance that the final costs
associated with this recall, including litigation-related costs, will not exceed
management's estimates.
In July 2001, the Company announced a restructuring of its U.S. and
international sales organizations and a streamlining of its heart valve
operations. As a result of these activities, the Company anticipates recording a
pre-tax special charge of approximately $12,000 to $16,000 in the third quarter
of 2001.
OTHER INCOME (EXPENSE): Net interest expense was $2,778 during the second
quarter of 2001, as compared with $7,230 in 2000. Net interest expense was
$7,182 for the first six months of 2001, compared with $14,355 for 2000. The
decrease in net interest expense is due to lower debt levels resulting from debt
repayments and lower interest rates in 2001 as compared with 2000.
INCOME TAXES: The Company's effective income tax rate was 25% for the second
quarters and first six months of 2001 and 2000, exclusive of the 2000 special
charge and the 2001 and 2000 purchased in-process research and development
charges. The special charge and purchased in-process research and development
charges were recorded in taxing jurisdictions with low income tax rates or were
not deductible for tax purposes.
OUTLOOK: The Company expects that market demand, government regulation and
societal pressures will continue to change the worldwide health care industry
resulting in further business consolidations and alliances. The Company
participates with industry groups to promote the use of advanced medical device
technology in a cost conscious environment. Customer service in the form of
cost-effective clinical outcomes will continue to be a primary focus for the
Company.
The Company's CS business is in a highly competitive market. The market is
segmented between mechanical heart valves, tissue heart valves, and repair
products. Since 1999, the U.S. market has
Page 13 of 19
shifted slightly to tissue valve and repair products from mechanical heart
valves, resulting in a small overall CS market share loss for the Company.
Competition is anticipated to continue to place pressure on pricing and terms.
The Company's CRM business is also in a highly competitive industry that has
undergone consolidation. There are currently three principal suppliers,
including the Company, and the Company's two principal competitors each have
substantially more assets and sales than the Company. Rapid technological change
is expected to continue, requiring the Company to invest heavily in R&D and to
effectively market its products.
The global medical technology market is highly competitive. Competitors have
historically employed litigation to gain a competitive advantage. In addition,
the Company's products must continually improve technologically and provide
improved clinical outcomes due to the competitive nature of the industry.
Group purchasing organizations (GPOs) in the U.S. continue to consolidate the
purchasing for some of the Company's customers. A few GPOs have executed
contracts with the Company's CRM market competitors, which exclude the Company.
These contracts, if enforced, may adversely affect the Company's sales of CRM
products to members of these GPOs.
FINANCIAL CONDITION
The Company's liquidity and cash flows remained strong in 2001. Cash provided by
operating activities was $125,173 for the six months ended June 30, 2001, a
$67,049 increase over the same period one year ago reflecting increased earnings
and improved working capital management. The Company's current assets to current
liabilities ratio was 2.4 to 1 at June 30, 2001 and December 31, 2000.
Total interest bearing debt at June 30, 2001 decreased $65,100 from December 31,
2000 due to debt repayments as a result of cash generated from operations.
The Company classifies all of its credit facility and commercial paper
borrowings as long-term on its balance sheet as the Company has the ability to
repay any short-term maturity with available cash from its existing long-term,
committed credit facility. Management continually reviews the Company's cash
flow projections and may from time to time repay a portion of the Company's
borrowings.
In 1999, the Company's Board of Directors authorized the repurchase of up to
$250,000 of the Company's outstanding common stock over a three-year period at
the discretion of the Company's management. Since the authorization in 1999, the
Company has repurchased 978 shares of its common stock for $29,826.
Management believes that cash generated from operations and cash available under
its credit facilities will be sufficient to meet the Company's working capital
and share repurchase plan needs in the near term. Should suitable investment
opportunities arise, management believes that the
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Company's earnings, cash flows and balance sheet will permit the Company to
obtain additional debt financing or equity capital, if necessary.
CAUTIONARY STATEMENTS
In this discussion and in other written or oral statements made from time to
time, we have included and may include statements that may constitute
"forward-looking statements" within the meaning of the safe harbor provisions of
the Private Litigation Securities Reform Act of 1995. These forward-looking
statements are not historical facts but instead represent our belief regarding
future events, many of which, by their nature, are inherently uncertain and
beyond our control. These statements relate to our future plans and objectives,
among other things. By identifying these statements for you in this manner, we
are alerting you to the possibility that our actual results may differ, possibly
materially, from the results indicated by these forward-looking statements. We
undertake no obligation to update any forward-looking statements.
Various factors contained in the previous discussion and those described below
may affect the Company's operations and results. Since it is not possible to
foresee all such factors, you should not consider these factors to be a complete
list of all risks or uncertainties. Risk factors include the following:
* Administrative or legislative reforms to the U.S. Medicare and
Medicaid systems or similar reforms of foreign reimbursement systems
in a manner that significantly reduces reimbursement for procedures
using the Company's medical devices or denies coverage for such
procedures.
* Acquisition of key patents by competitors that have the affect of
excluding the Company from new market segments.
* Economic factors, including inflation, changes in interest rates and
changes in foreign currency exchange rates.
* Product introductions by competitors which have advanced technology,
better features or lower pricing.
* Price increases by suppliers of key components, some of which are
sole-sourced.
* A reduction in the number of procedures using the Company's devices
caused by cost containment pressures or preferences for alternate
therapies.
* Safety, performance or efficacy concerns about the Company's marketed
products, many of which are expected to be implanted for many years,
leading to recalls and advisories with the attendant expenses and
declining sales.
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* Changes in laws, regulations or administrative practices affecting
government regulation of the Company's products, such as FDA laws and
regulations, that increase pre-approval testing requirements for
products or impose additional burdens on the manufacture and sale of
medical devices.
* Difficulties obtaining, or the inability to obtain, appropriate levels
of product liability insurance.
* A serious earthquake affecting the Company's facilities in Sunnyvale
or Sylmar, California.
* Health care industry consolidation leading to demands for price
concessions or the exclusion of some suppliers from significant market
segments.
* Adverse developments in litigation including product liability
litigation and patent litigation or other intellectual property
litigation including that arising from the Telectronics and Ventritex
acquisitions.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
There have been no material changes from December 31, 2000 in the
Company's market risk.
For further information on market risk, refer to Item 7A in the
Company's Annual Report on Form 10-K for the fiscal year ended December 31,
2000.
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PART II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
SILZONE(R) LITIGATION:
The Company has been sued by patients alleging defects in the Company's
mechanical heart valves with Silzone(R) coating. The Company recalled products
with Silzone(R) coating on January 21, 2000 (see Note 6), and sent a Recall
Notice and Advisory concerning the recall to physicians and others. Some of
these cases are seeking monitoring of patients implanted with Silzone(R)-coated
valves who allege no injury to date. Some of these cases are seeking class
action status. The Company intends to vigorously defend these cases.
On April 18, 2001, the U.S. Judicial Panel on Multi-Litigation ruled
that certain lawsuits filed in U.S. federal district court involving products
with Silzone(R) coating should be part of M.D.L. proceedings, which will take
place under the supervision of U.S. District court Judge John Tunheim in
Minnesota. As a result, a number of actions involving products with Silzone(R)
coating are being transferred to Judge Tunheim's court in Minnesota for
coordinated or consolidated pretrial proceedings.
While it is not possible to predict the outcome of these cases, the
Company believes that it has adequate product liability insurance to cover the
costs associated with them. The Company believes that any costs not covered by
product liability insurance will not have a material adverse impact on the
Company's financial position or liquidity, but may be material to the
consolidated results of operations of any one period.
GUIDANT LITIGATION:
On November 26, 1996, Guidant Corporation (a competitor of St. Jude
Medical) ("Guidant") and related parties filed two lawsuits against St. Jude
Medical, Inc. and certain affiliates ("St. Jude Medical"). The first lawsuit,
filed in State Superior Court in Marion County, Indiana, alleged, among other
things, that the license agreement between CPI (Guidant) and members of the
Telectronics Group did not pass to St. Jude Medical upon St. Jude Medical's
acquisition of substantially all the assets of the Telectronics cardiac
stimulation device business. This lawsuit was stayed by the court in 1998
pending a ruling on the transferability of the CPI/Telectronics license by an
arbitrator, as required by the license agreement.
On July 10, 2000, the arbitrator ruled that the CPI/Telectronics
license agreement did not transfer to St. Jude Medical in connection with St.
Jude Medical's acquisition of the Telectronics cardiac stimulation device
business. Pursuant to an earlier ruling by the arbitrator, St. Jude Medical was
not allowed to participate in the arbitration proceeding.
The second case Guidant initiated against St. Jude Medical in November
1996 was filed in the United States District Court for the Southern District of
Indiana. In this lawsuit, Guidant originally alleged infringement by St. Jude
Medical of four patents. Guidant later dismissed its claims on one patent (the
'678 patent). In addition, in response to a stipulation by the parties, the
court ruled that a second patent (the '191 patent) was invalid. Guidant has
appealed the ruling of invalidity concerning the '191 patent.
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The judge in the U.S. District court action issued a pre-trial ruling
in May 2001 which determined that the CPI/Telectronics license did not transfer
to St. Jude Medical. Based on the ruling of the arbitrator and the judge in the
federal court case, the Indiana State court action discussed above has no
further significance.
A jury trial involving the two remaining patents asserted by Guidant
(the '288 and '472 patents) commenced in June 2001. The jury issued its verdict
on July 3, 2001, finding that both the '472 and '288 patents were valid and that
St. Jude Medical did not infringe the '288 patent. The jury also found that St.
Jude did infringe the '472 patent, which expired on March 4, 2001, but that the
infringement was not willful. The jury awarded damages of $140 million to
Guidant.
The jury's verdict in this case has not yet been entered as a judgment
by the judge overseeing the trial pending any post-trial motions filed by St.
Jude Medical or Guidant. St. Jude is filing various post-trial motions which
would effectively eliminate any damage award on the '472 patent if these motions
were ruled upon favorably by the trial judge. The Company will also file
alternative post-trial motions seeking to reduce the damage amount. Rulings on
the post trial motions filed by the parties are expected in the fourth quarter
of 2001. Under these circumstances, the Company is unable to determine the
amount of a loss, if any, and consequently has not recorded any liability for
this lawsuit in its financial statements.
Since the date of St. Jude Medical's acquisition of Ventritex in May
1997 and the inception of the Company's sales of implantable cardioverter
defibrillator (ICD) products, St. Jude has accrued a 3% royalty on its ICD sales
under a license it believed it had acquired as part of its purchase of the
Telectronics cardiac stimulation device business. As a result of the jury's
verdict that St. Jude's ICD products do not infringe Guidant's '288 patent,
future royalty accruals are no longer necessary. The historical accruals under
this license, which total approximately $15 million, will remain on the
Company's balance sheet pending future developments in this case.
OTHER LITIGATION AND PROCEEDINGS
The Company is unaware of any other pending legal proceedings which it
regards as likely to have a material adverse effect on its business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
The Company held its annual meeting of shareholders on May 17, 2001. In
conjunction therewith, proxies were solicited in accordance with Regulation 14A.
The following actions were taken:
(1) Terry L. Shepherd and David A. Thompson were elected to the Board of
Directors for terms ending in 2004. Shareholders approved management's
nominees to the Board of Directors by votes as follows: 71,379,575 and
71,388,791 in favor, 827,553 and 818,337 withheld for Messrs Shepherd
and Thompson, respectively. Five other directors are serving unexpired
terms as follows: Thomas H. Garrett III and Stuart M. Essig - through
2002; Ronald A. Matricaria, Walter L. Sembrowich and Daniel J. Starks -
through 2003.
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(2) The shareholders ratified the reappointment of Ernst & Young LLP as the
Company's independent auditor for 2001 by a vote of 71,011,090 in
favor, 949,611 opposed and 246,427 abstaining from voting.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
None
(b) Reports on Form 8-K
A Form 8-K was filed on May 7, 2001, announcing the results of the
Company's Atrial Dynamic Overdrive Pacing Trial (ADOPT-A) which was designed to
test the efficacy of a new feature in the Company's low voltage, bradycardia
pacemakers, Dynamic Atrial Overdrive, in treating atrial fibrillation.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
ST. JUDE MEDICAL, INC.
August 8, 2001 /s/ John C. Heinmiller
- -------------- ----------------------
DATE JOHN C. HEINMILLER
Vice President - Finance
and Chief Financial Officer
(Principal Financial and Accounting Officer)
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