EXHIBIT 13.1
MARKET PRICE OF COMMON STOCK
The Company's Common Stock is traded in the NYSE under the symbol "CRY." Prior
to July 15, 1997, the Company's Common Stock was traded on the Nasdaq National
Market under the symbol "CRYL." The following table sets forth, for the periods
indicated, the intra-day high and low sale prices per share of Common Stock on
the NYSE or the Nasdaq National Market, as applicable.
1998 High Low
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First quarter 17 15/16 12 1/4
Second quarter 18 1/4 14 3/4
Third quarter 16 1/4 12 1/16
Fourth quarter 15 11/16 9 3/16
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1997 High Low
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First quarter 14 1/4 8
Second quarter 13 1/4 7 5/8
Third quarter 16 1/8 11 1/4
Fourth quarter 19 13
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SELECTED FINANCIAL INFORMATION (In thousands except share data) December 31.
OPERATIONS 1998 1997 1996 1995 1994
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Revenues $60,691 $50,571 $36,866 $29,226 $28,810
Net income 6,486 4,725 3,927 2,202 1,266
Research and development
as a percent of revenues 7.8% 7.8% 7.6% 9.0% 8.3%
EARNINGS PER SHARE (1),(2)
- -----------------------------------------------------------------------------------------------------
Basic $0.54 $0.49 $0.41 $0.23 $0.14
Diluted $0.53 $0.48 $0.40 $0.23 $0.14
YEAR-END FINANCIAL POSITION
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Total assets $98,390 $54,402 $34,973 $24,132 $21,417
Working capital 62,313 19,478 10,787 15,217 14,279
Long-term liabilities 8,577 17,846 2,799 0 0
Shareholders' equity 80,424 30,227 24,929 20,465 17,933
Current ratio 8:1 4;1 3:1 5:1 5:1
Shareholders' equity
per diluted common shares (1),(2) $6.56 $3.04 $2.52 $2.14 $1.91
SELECTED QUARTERLY FINANCIAL INFORMATION (In thousands except share data)
First Second Third Fourth
REVENUES Year Quarter Quarter Quarter Quarter
- --------------------------------------------------------------------------------------------------
1998 $14,561 $15,554 $16,014 $14,562
1997 10,411 12,641 14,569 12,950
1996 8,372 9,644 10,211 8,639
NET INCOME
- -------------------------------------------------------------------------------------------------
1998 $1,172 $2,048 $1,902 $1,364
1997 952 1,160 1,458 1,155
1996 782 988 1,261 896
EARNINS PER SHARE - DILUTED (1),(2)
- --------------------------------------------------------------------------------------------------
1998 0.12 0.16 0.15 0.11
1997 0.10 0.12 0.15 0.12
1996 0.08 0.10 0.13 0.09
-------------------------------
(1) Reflects adjustment for the 2-for-1 stock split effected June 28, 1996.
(2) Presented, and where appropriate, restated to conform to Statement 128
requirements.
MANAGEMENT'S DISCUSSION AND ANALYSIS
Overview
The Company was organized in 1984 to address market opportunities in the area of
biological implantable products and materials, and today is the leader in the
cryopreservation of viable human tissue for cardiovascular, vascular, and
orthopedic applications. A majority of the Company's current revenues are
derived from the cryopreservation of human heart valves and conduits, reflecting
CryoLife's initial exclusive focus on this area. The Company began
cryopreserving aortic heart valves in 1984, pulmonary heart valves in 1986, and
mitral heart valves in 1995. CryoLife has also expanded into the
cryopreservation of other human tissue, including vascular tissue and connective
tissue for the knee.
The Company pays a fee to an organ procurement agency or tissue bank at the time
such organization consigns human tissue to the Company. The Company generates
revenues from cryopreservation services by charging hospitals a fee, which
covers the Company's services, the associated procurement fee and applicable
shipping expenses. The Company records revenue upon shipping tissue. Costs
associated with the procurement, processing and storage of tissue are accounted
for as deferred preservation costs on the Company's consolidated balance sheet
and are expensed when the tissue is shipped. The Company continually monitors
cryopreserved tissue in its possession to determine its viability. Tissue
determined not to be suitable for implantation is disposed of and the associated
deferred preservation costs are expensed. As part of an effort to reduce its
working capital needs, while simultaneously facilitating the use of
cryopreserved tissue, the Company provides the liquid nitrogen freezers to a
number of hospitals. The Company retains ownership of the liquid nitrogen
freezers and, consequently, incurs associated depreciation charges. The
hospitals are responsible for operating expenses related to the use of the
liquid nitrogen freezers.
The Company has expanded, and intends to continue to expand, its portfolio of
products and services. Much of this expansion has been accomplished through
acquisitions of intellectual property and businesses. In 1992, the Company
purchased for $730,000 the exclusive distribution rights for a line of stentless
aortic porcine heart valves and in 1996 purchased for $275,000 a patent for an
advanced design stentless pulmonary porcine heart valve, both of which the
Company currently markets in Europe, South America, the Middle East and South
Africa. Also in 1996, the Company purchased the patent for BioGlue, a surgical
adhesive which the Company currently markets in Europe, South America, Asia,
South Africa and the Middle East, and the Company acquired the assets of UCFI, a
tissue processor, for $750,000 in cash and a $1.3 million note. In 1997, the
Company acquired Ideas for Medicine, Inc. ("IFM") and its line of single-use
medical devices for $4.5 million in cash, a $5.0 million convertible debenture
and a commitment to pay additional cash consideration (not to exceed $1.75
million) if certain target net revenues of IFM are exceeded.
On September 30, 1998 the Company completed the sale of substantially all of the
IFM product line and certain related assets to Horizon Medical Products, Inc.
("Horizon"), for $15 million in cash pursuant to an asset purchase agreement.
Concurrently, IFM and Horizon signed a manufacturing agreement which provides
for the manufacture by IFM of specified minimum dollar amounts of IFM products
to be purchased exclusively by Horizon over each of the four years following the
sale. Thereafter, responsibility for such manufacturing is to be assumed by
Horizon. The Company recorded deferred revenue at the transaction date totaling
$2.9 million, representing the selling price less the net book value of the
assets sold, which included $7.7 million of goodwill, net of accumulated
amortization, and the costs related to the sale. The revenue was deferred
because the sale and manufacturing agreements represent, in the aggregate, a
single transaction for which the related income should be recognized over the
term of the manufacturing agreement. Accordingly, the deferred revenue is being
reflected in cost of goods sold over the four-year term of the manufacturing
agreement in a manner which is expected to result in approximately equal margins
over the four-year period on the products manufactured and sold by IFM to
Horizon. During 1998 amortization of deferred revenue totaled $387,000.
The composition of the Company's revenues is expected to change in future years,
reflecting, among other things, the anticipated growth in shipments of human
vascular tissue and human connective tissue for the knee, and the introduction
into international markets of BioGlue Surgical Adhesive as well as other
expected new products.
Results of Operations
Year Ended December 31, 1998 Compared to Year Ended December 31, 1997
Revenues increased 20% to $60.7 million in 1998 from $50.6 million in 1997. The
increase in revenues was primarily due to the growing acceptance in the medical
community of cryopreserved tissues, the Company's ability to procure greater
amounts of tissue, price increases for certain cryopreservation services,
revenues attributable to the Company's line of single-use medical devices
following the IFM acquisition in March of 1997, and revenues attributable to the
Company's introduction of BioGlue Surgical Adhesive in international markets in
April 1998.
Revenues from human heart valve and conduit cryopreservation services increased
6% to $30.8 million in 1998 from $29.0 million in 1997, representing 51% and
57%, respectively, of total revenues during such periods. This increase in
revenues was primarily due to a 6% increase in the number of heart allograft
shipments due to an increased demand and the Company's ability to procure
greater amounts of tissue.
Revenues from human vascular tissue cryopreservation services increased 36% to
$14.3 million in 1998 from $10.5 million in 1997, representing 24% and 21%,
respectively, of total revenues during such periods. This increase in revenues
was primarily due to a 37% increase in the number of vascular allograft
shipments due to an increased demand and the Company's ability to procure
greater amounts of tissue.
Revenues from human connective tissue for the knee cryopreservation services
increased 63% to $7.7 million in 1998 from $4.7 million in 1997, representing
13% and 9%, respectively, of total revenues during such periods. This increase
2
in revenues was primarily due to a 50% increase in the number of allograft
shipments due to increased demand and the Company's ability to procure greater
amounts of tissue. Additional revenue increases resulted from a greater
proportion of the 1998 shipments consisting of cryopreserved menisci, which have
a significantly higher per unit revenue than the Company's cryopreserved
tendons, and price increases for the cryopreservation of menisci and tendons.
Revenues from IFM increased 1% to $5.7 million in 1998 from $5.6 million in
1997, representing 9% and 11%, respectively, of total revenues during such
periods. This increase in revenues is due to 1998 having two extra months of IFM
revenue than 1997 due to the IFM acquisition closing on March 5, 1997, partially
offset by the sale of the IFM product line to Horizon Medical Products, Inc.,
pursuant to which the Company became an OEM manufacturer of such products on
October 1, 1998.
Revenues from bioprosthetic cardiovascular devices increased 33% to $764,000 in
1998 from $576,000 in 1997, representing 1% of total revenues during such
periods. This increase in revenues was primarily due to a 36% increase in the
number of bioprosthetic cardiovascular device shipments due to increased
manufacturing capacity. Revenues in 1998 also benefited from the introduction of
the CryoLife-Ross Pulmonary Valve into international markets in October 1998.
Revenues from BioGlue were $883,000 for 1998. The Company introduced the product
into international markets in April 1998.
Grant revenues increased to $512,000 in 1998 from $162,000 in 1997. This
increase in grant revenues is primarily attributable to the SynerGraft research
and development programs.
Other income increased to $1,078,000 in 1998 from $290,000 in 1997. Other income
in 1998 relates primarily to proceeds from the sale of the Company's port
product line.
Cost of cryopreservation services and products aggregated $25.3 million in 1998
compared to $17.8 million in 1997, representing 42% and 35%, respectively, of
total cryopreservation and product revenues. The increase in 1998 of the cost of
cryopreservation services and products as a percentage of revenues results from
a lesser portion of 1998 revenues being derived from human heart valve and
conduit cryopreservation services, which carry a significantly higher gross
margins than other cryopreservation services, from increased manufacturing
overhead costs associated with the Company's new manufacturing facilities, from
the switch in October of 1998 to OEM manufacturing of single-use medical
devices, which generates lower gross margins than cryopreservation services and
lower gross margins than the IFM products generated prior to the sale of the IFM
product line, compared with ten months of IFM sales in 1997, and from a one-time
charge of $500,000 associated with the start-up of the bioprosthetic
3
cardiovascular device manufacturing facility. The increase in the cost of
cryopreservation services and products as a percentage of revenues was partially
offset by a decrease in the IFM products sold in 1998 relative to those sold in
1997, which products generate lower gross margins than cryopreservation
services, and the impact of the fourth quarter amortization of deferred revenue
resulting from the sale of the IFM product line, which has the impact of
reducing cost of goods sold.
General, administrative and marketing expenses increased 16% to $23.9 million in
1998, compared to $20.5 million in 1997, representing 40% and 41%, respectively,
of total cryopreservation and product revenues in such periods. The increase in
expenditures in 1998 resulted from expenses incurred to support the increase in
revenues and costs associated with the introduction of BioGlue into
international markets.
Research and development expenses increased 19% to $4.7 million in 1998,
compared to $3.9 million in 1997, representing 8% of total cryopreservation and
product revenues for each period. Research and development spending relates
principally to the Company's focus on its bioadhesives and SynerGraft
technologies.
Net interest income was $820,000 in 1998 compared to net interest expense of
$970,000 in 1997. This variance is due to the repayment of certain indebtedness
with the proceeds from the follow-on equity offering completed in April 1998, as
well as the conversion of a portion of a convertible debenture into common stock
of the Company, and the receipt of interest income on the invested proceeds from
the follow-on equity offering (the "Offering").
The decline in the effective income tax rate to 25% in 1998 from 38% in 1997, is
due to the implementation of certain income tax planning strategies including
the recognition of approximately $600,000 of research and development tax
credits during the fourth quarter of 1998, during which period studies were
completed which quantified the amounts related thereto.
Year Ended December 31, 1997 Compared to Year Ended December 31, 1996
Revenues increased 37% to $50.6 million in 1997 from $36.9 million in 1996. The
increase in revenues was primarily due to the growing acceptance in the medical
community of cryopreserved tissues, the Company's ability to procure greater
amounts of tissue, price increases for certain cryopreservation services and
revenues attributable to the Company's line of single-use medical devices
following the IFM acquisition in March 1997.
Revenues from human heart valve and conduit cryopreservation services
increased 17% to $29.0 million in 1997 from $24.8 million in 1996, representing
57% and 67%, respectively, of total revenues during such years. This increase in
revenues was primarily due to a 16% increase in the number of heart allograft
shipments and the Company's ability to procure greater amounts of tissue.
Revenues from human vascular tissue cryopreservation services increased 28% to
$10.5 million in 1997 from $8.2 million in 1996, representing 21% and 22%,
respectively, of total revenues during such years. This increase in revenues was
primarily due to a 22% increase in the number of vascular allograft shipments
resulting from the introduction of cryopreserved tissues for new procedures, an
increased demand for the Company's existing cryopreservation services and the
Company's ability to procure greater amounts of tissue.
4
Revenues from human connective tissue for the knee cryopreservation services
increased 38% to $4.7 million in 1997 from $3.4 million in 1996, representing 9%
of total revenues during each year. This increase in revenues was primarily due
to a 19% increase in the number of allograft shipments and a greater proportion
of the 1997 shipments consisting of cryopreserved menisci, which have a
significantly higher per unit revenue than the Company's cryopreserved tendons,
and the Company's ability to procure greater amounts of tissue.
Revenues from the sale of bioprosthetic cardiovascular devices in 1997 were
$576,000 compared to $385,000 in 1996, representing 1% of revenues during each
year. Other revenues decreased to $460,000 in 1997 from $550,000 in 1996. Other
revenues in 1997 consisted primarily of research grant award revenues related to
the Company's SynerGraft technology.
Cost of cryopreservation services and products increased to $17.8 million in
1997 from $12.6 million in 1996. Cost of cryopreservation services and products
as a percentage of revenues increased to 35% in 1997 from 34% in 1996. This
increase was primarily due to the increased overhead costs associated with the
new corporate headquarters and the addition of the IFM product line, partially
offset by efficiencies gained with the increase in the number of allografts
processed.
General, administrative and marketing expenses increased 31% to $20.5 million in
1997 from $15.7 million in 1996, representing 40% and 42%, respectively, of
total revenues during such years. The increased expenses of approximately $4.8
million were primarily attributable to increased costs associated with the
Company's new corporate headquarters and increased fees paid to technical
representatives and other marketing expenses relating to the growth in revenues
and increases in general overhead expenses to support the growth in revenues.
Research and development expenses increased 19% to $3.9 million in 1997,
compared to $2.8 million in 1996, representing 8% of total cryopreservation and
product revenues for each year. The Company's research and development
expenditures during 1997 were primarily for the development of bioadhesives for
surgical applications and its SynerGraft technology.
Seasonality
The demand for the Company's human heart valve and conduit cryopreservation
services is seasonal, with peak demand generally occurring in the second and
third quarters. Management believes this demand trend for human heart valve and
conduit cryopreservation services is primarily due to the high number of
surgeries scheduled during the summer months. Management believes the trends
experienced by the Company to date for its human connective tissue for the knee
cryopreservation services indicate this business may also be seasonal because it
is an elective procedure which may be performed less frequently during the
fourth quarter holiday months. However, the demand for the Company's vascular
tissue cryopreservation services, bioprosthetic cardiovascular devices,
single-use medical devices and BioGlue Surgical Adhesive does not appear to
experience this seasonal trend.
5
Liquidity and Capital Resources
At December 31, 1998 net working capital was $62.3 million, compared to $19.5
million at December 31, 1997, with a current ratio of 8 to 1. The Company's
primary capital requirements arise out of general working capital needs, capital
expenditures for facilities and equipment, funding of research and development
projects and a common stock repurchase plan approved by the board of directors
in October of 1998. The Company historically has funded these requirements
through bank credit facilities, cash generated by operations and equity
offerings.
Net cash provided by operating activities was $1.2 in 1998, as compared to net
cash used in operating activities of $2.2 million in 1997. This increase
primarily resulted from an increase in net income, a decrease in the growth of
deferred preservation costs due to more stringent inventory management policies,
a decrease in the amount of accounts payable liquidated in the first quarter of
1998 as compared to the first quarter of 1997 due to shorter accounts payable
payment terms, and a decrease in income taxes receivable, partially offset by an
increase in receivables related to the increase in revenues and an increase in
inventories to support the increase in sales of bioprosthetic valves and the
introduction of BioGlue Surgical Adhesive.
Net cash used in investing activities was $18.9 million in 1998, as compared to
net cash used in investing activities of $9.6 million in 1997. This increase was
primarily attributable to the purchase of investments with the proceeds from the
Company's follow-on equity offering and the absence of a business acquisition
during 1998, partially offset by the net proceeds from the sale of the IFM
product line.
Net cash provided by financing activities was $30.5 million in 1998, as compared
to $10.6 million in 1997. This increase was primarily attributable to proceeds
of $45.4 million from the Offering, partially offset by the repayment of
borrowings on the Company's bank loans, and accrued interest thereon, totaling
$13.3 million.
In October 1998 the Company entered into an agreement with an investment banking
firm to provide financial advisory services related to a potential private
placement of equity or equity-oriented securities to form a separate company for
the commercial development of its serine proteinase light activation (FibRx(R))
technologies. This strategy will allow an affiliated entity to fund the FibRx
technology and should expedite the commercial development of its blood clot
dissolving and surgical sealant product applications without additional R&D
expenditures by the Company. This strategy, if successful, will favorably impact
the Company's liquidity going forward.
The Company anticipates its cash, short-term investments and cash generated from
operations will be sufficient to meet its operating and development needs for at
least the next 12 months. However, the Company's future liquidity and capital
requirements beyond that period will depend upon numerous factors, including the
timing of the Company's receipt of FDA approvals to begin clinical trials for
its products currently in development, the resources required to further develop
its marketing and sales capabilities if, and when, those products gain approval,
6
the resources required to expand manufacturing capacity and the extent to which
the Company's products generate market acceptance and demand. There can be no
assurance the Company will not require additional financing or will not seek to
raise additional funds through bank facilities, debt or equity offerings or
other sources of capital to meet future requirements. These additional funds may
not be available when needed or on terms acceptable to the Company, which could
have a material adverse effect on the Company's business, financial condition
and results of operations.
Year 2000
The Company is aware of the issues that many companies will face as the year
2000 approaches. In order to become year 2000 compliant, the Company has set up
a project team to address the issue and has taken the following steps:
Impact Assessment: The Company has identified potential year 2000 issues and the
associated potential risks. The Company has assessed the impact of the year 2000
issue and believes that its business products and services will not be
significantly impacted. Additionally, the Company has determined that, with the
exception of the Company's clinical tracking database, all of the Company's
financial and operational applications have been upgraded to or replaced with
year 2000 compliant software.
Third Party Impact Assessments: The Company has begun to verify the readiness of
its significant suppliers through the distribution of a questionnaire. This
process was substantially completed by January 1, 1999. The Company does not
anticipate that a lack of compliance of the vendors will significantly affect
the Company's daily operations.
Project Plan: The Company began its compliance strategy in October 1997. With
the exception of the clinical tracking database, all of the "off the shelf"
software packages have been upgraded to compliant releases. Older internally
developed software has been replaced with new systems that are year 2000
compliant. The remaining clinical tracking system will be internally rewritten,
and implemented by the end of the first quarter 1999. The Company estimates all
modifications and testing for year 2000 issues will be completed at a cost of
less than $50,000 including expenditures to date.
Contingency Plan: The principal risk the Company faces is a delay in the
implementation of the new clinical tracking system. Although the clinical
tracking system is not critical to the day-to-day operations of the Company, it
is important for FDA compliance regarding follow-up procedures after transplant.
A delay in the implementation of the new clinical tracking system would result
in the Company having to rely on its paper support for required FDA data.
Although the Company is uncertain what the costs associated with a delay would
be or the related impact on operations, liquidity and financial condition, the
Company does not expect the impact to be material. The Company expects to have a
contingency plan completed by April 15, 1999.
7
The Company believes it is diligently addressing the year 2000 issue and expects
that, through its actions, year 2000 problems are not reasonably likely to have
a material adverse effect on its operations. However, there can be no assurance
that such problems will not arise.
Recent Accounting Pronouncements
In 1997 the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income" ("Statement 130")
which established standards for the reporting and display of comprehensive
income and its components in a full set of comparative general-purpose financial
statements. The statement became effective for the Company in 1998.
Comprehensive income is defined in Statement 130 as net income plus other
comprehensive income, which, under existing accounting standards includes
foreign currency items, minimum pension liability adjustments and unrealized
gains and losses on certain investments in debt and equity securities.
Comprehensive income disclosures are included in the Consolidated Statements of
Shareholders' Equity and Comprehensive Income.
In June 1997, the FASB issued Statement No. 131 ("Statement 131"), "Disclosures
about Segments of an Enterprise and Related Information", which requires public
business enterprises to disclose certain information about reportable operating
segments in complete sets of financial statements of the enterprise and in
condensed financial statements of interim periods. It also requires public
enterprises to present certain "enterprise-wide" information, including revenues
related to products and services and geographic areas in which they operate.
Management does not review operating results on a "component" basis as described
under the statement; accordingly, no separate disclosures have been made for
segment information during the year ended December 31, 1998.
Quantitative and Qualitative Disclosures About Market Risk
The Company's interest income and expense are most sensitive to changes in the
general level of U.S. interest rates. In this regard, changes in U.S. interest
rates affect the interest earned on the Company's cash equivalents of $12.9
million and short-term investments of $16.1 million in municipal obligations as
of December 31, 1998 as well as interest paid on its debt. To mitigate the
impact of fluctuations in U.S. interest rates, the Company generally maintains
80% to 90% of its debt as fixed rate in nature. As a result, the Company is
subject to a risk that interest rates will decrease and the Company may be
unable to refinance its debt.
Forward-Looking Statement
This Annual Report includes "forward-looking statements" within the meaning of
Section 27A of the Securities Act of 1933, as amended (the "Securities Act,")
Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange
Act") and the Private Securities Litigation Reform Act of 1995. All statements,
other than statements of historical facts, including without limitation, (1) the
effects on the Company of year 2000 issues including unanticipated expenses in
connection therewith, (2) the Company's ability to find an equity investor in
8
the FibRx technology and the impact of such an investment on the Company's
liquidity, (3) the adequacy of the Company's financing arrangements over the
next twelve months, (4) the ability of the Synergraft heart valve to grow with
the recipient and provide surgeons with a near-permanent heart valve
replacement, (5) the impact of CryoLife's surgical adhesives on operating room
procedures and (6) forecasted increases in international BioGlue Surgical
Adhesive sales and other statements regarding future plans and strategies,
anticipated events or trends and similar expressions concerning matters that are
not historical facts are forward-looking statements. These statements are based
on certain assumptions and analyses made by the Company as well as other factors
it believes are appropriate in the circumstances. However, whether actual
results and developments will conform with the Company's expectations and
predictions is subject to a number of risks and uncertainties which could cause
actual results to differ materially from the Company's expectations, many of
which are beyond the control of the Company. Consequently, all of the
forward-looking statements made in this Annual Report are qualified by these
risks and uncertainies, including without limitation, (1) government regulation
of the Company's business, (2) the Company's competitive position, (3) the
availability of tissue for implant, (4) the status of the Company's products
under development, (5) the protection of the Company's proprietary technology
and (6) the reimbursement of health care costs by third-party payors and there
can be no assurance that the actual results or developments anticipated by the
Company will be realized or that they will have the expected consequences to or
effects on the Company or its business or operations. The Company assumes no
obligation to update publicly any such forward-looking statements.
9
REPORT OF INDEPENDENT AUDITORS
ERNST & YOUNG LLP
Board of Directors and Shareholders
CryoLife, Inc.
We have audited the accompanying consolidated balance sheets of CryoLife, Inc.
as of December 31, 1998 and 1997, and the related consolidated statements of
income, shareholders' equity and cash flows for each of the three years in the
period ending December 31, 1998. These financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. 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 statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the 1998 and 1997 consolidated financial statements referred to
above present fairly, in all material aspects, the consolidated financial
position of CryoLife, Inc. at December 31, 1998 and 1997, and the consolidated
results of its operations and its cash flows for each of the three years ended
December 31, 1998, in conformity with generally accepted accounting principles.
/s/ Ernst & Young LLP
Atlanta, Georgia
February 2, 1999
825065v1
CryoLife, Inc.
Consolidated Balance Sheets
(in thousands, except per share data)
ASSETS
December 31, 1998 1997
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Current assets:
- ---------------------------------------------------------------------------------------
Cash and cash equivalents $ 12,885 $ 111
Marketable securities, at market 26,713 40
Receivables:
Trade accounts, less allowance for doubtful accounts of
$256 in 1998 and $103 in 1997 10,733 9,224
Income taxes 71 842
Other 383 271
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Total receivables 11,187 10,337
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Deferred preservation costs, less allowances
of $53 in 1998 and $152 in 1997 14,239 12,257
Inventories 3,385 1,761
Prepaid expenses 1,945 1,260
Deferred income taxes 1,348 41
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Total current assets 71,702 25,807
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Property and equipment:
- ---------------------------------------------------------------------------------------
Equipment 12,145 10,533
Furniture and fixtures 3,011 1,828
Leasehold improvements 14,254 8,247
Construction in progress 2,266 2,509
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31,676 23,117
Less accumulated depreciation and amortization 10,216 7,630
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Net property and equipment 21,460 15,487
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Other assets:
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Goodwill, less accumulated amortization
of $215 in 1998 and $468 in 1997 1,685 9,809
Patents, less accumulated amortization
of $660 in 1998 and $531 in 1997 2,216 2,196
Other, less accumulated amortization
of $566 in 1998 and $483 in 1997 1,327 1,103
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Total assets $ 98,390 $ 54,402
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See accompanying notes to consolidated financial statements.
CryoLife, Inc.
Consolidated Balance Sheets
(in thousands, except per share data)
LIABILITIES AND SHAREHOLDERS' EQUITY
December 31, 1998 1997
- -------------------------------------------------------------------------------
Current liabilities:
- -------------------------------------------------------------------------------
Accounts payable $ 1,652 $ 1,612
Accrued expenses 2,968 222
Accrued compensation 726 952
Accrued fees to technical service representatives 459 482
Accrued procurement fees 1,806 1,565
Current maturities of capital lease obligation 224 --
Current maturities of long-term debt 516 1,496
Deferred income 1,038 --
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Total current liabilities 9,389 6,329
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Deferred income, less current amount 1,525 --
Deferred income taxes 410 980
Capital lease obligations, less current maturities 1,714 --
Revolving term loan -- 6,777
Convertible debenture 4,393 5,000
Other long-term debt 535 5,089
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Total liabilities 17,966 24,175
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Commitments and Contingencies
Shareholders' equity:
Preferred stock $.01 par value per share;
authorized 5,000 shares including 2,000
shares of series A junior participating preferred
stock; no shares issued. -- --
Common stock $.01 par value per share;
authorized 50,000 shares; issued 13,361
shares in 1998 and 10,245 shares in 1997 134 102
Additional paid-in capital 64,350 17,694
Retained earnings 19,113 12,627
Unrealized gain on marketable securities 139 --
Treasury stock; 845 shares in 1998 and 543
shares in 1997, at cost (3,312) (180)
Note receivable from shareholder -- (16)
- -------------------------------------------------------------------------------
Total shareholders' equity 80,424 30,227
- -------------------------------------------------------------------------------
- -------------------------------------------------------------------------------
Total liabilities and shareholders' equity $ 98,390 $ 54,402
- -------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
2
CryoLife, Inc.
Consolidated Income Statements
(in thousands, except per share data)
Year Ended
December 31, 1998 1997 1996
- ---------------------------------------------------------------------------------------------
Revenues:
- ---------------------------------------------------------------------------------------------
Preservation services and products $ 60,179 $ 50,409 $ 36,678
Research grants and licenses 512 162 188
- ---------------------------------------------------------------------------------------------
60,691 50,571 36,866
- ---------------------------------------------------------------------------------------------
Costs and Expenses:
- ---------------------------------------------------------------------------------------------
Preservation services and products 25,303 17,764 12,593
General, administrative and marketing 23,907 20,548 15,673
Research and development 4,708 3,946 2,807
Interest expense 670 978 72
Interest income (1,490) (8) (189)
Other income, net (1,078) (290) (173)
- ----------------------------------------------------------------------------------------------
52,020 42,938 30,783
- ---------------------------------------------------------------------------------------------
Income before income taxes 8,671 7,633 6,083
Income tax expense 2,185 2,908 2,156
- ---------------------------------------------------------------------------------------------
Net income $ 6,486 $ 4,725 $ 3,927
- ---------------------------------------------------------------------------------------------
Earnings per share:
Basic $ 0.54 $ 0.49 $ 0.41
- ---------------------------------------------------------------------------------------------
Diluted $ 0.53 $ 0.48 $ 0.40
- ---------------------------------------------------------------------------------------------
Weighted average shares outstanding:
Basic 11,974 9,642 9,505
- ---------------------------------------------------------------------------------------------
Diluted 12,264 9,942 9,906
- ---------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
3
CryoLife, Inc.
Consolidated Statements of Cash Flows
(in thousands)
Year Ended
December 31, 1998 1997 1996
- -----------------------------------------------------------------------------------------------------
Net cash flows from operating activities:
- -----------------------------------------------------------------------------------------------------
Net income $ 6,486 $ 4,725 $ 3,927
- -----------------------------------------------------------------------------------------------------
Adjustments to reconcile net income to net cash
flows provided by (used in) operating activities:
Deferred income recognized (387) -- --
Depreciation of property and equipment 2,586 1,842 973
Amortization 905 814 383
Provision for doubtful accounts 176 46 167
Deferred income taxes (1,948) 972 242
Changes in operating assets and liabilities:
Trade and other receivables (1,797) (533) (2,561)
Income taxes 771 (438) (614)
Deferred preservation costs (1,982) (5,079) (1,053)
Inventories (3,010) (864) 163
Prepaid expenses and other assets (706) (506) (326)
Accounts payable 295 (2,756) 1,197
Accrued expenses (158) (468) 740
- -----------------------------------------------------------------------------------------------------
Net cash flows provided by (used in) operating activities 1,231 (2,245) 3,238
- -----------------------------------------------------------------------------------------------------
Net cash flows from investing activities:
- -----------------------------------------------------------------------------------------------------
Capital expenditures (6,693) (5,059) (8,481)
Cash paid for acquisitions, net of cash acquired -- (4,418) (722)
Net proceeds from sale of IFM product line 15,000 -- --
Other assets (752) (148) (939)
Purchases of marketable securities (34,277) -- (3,013)
Sales of marketable securities 7,604 3 8,955
Gross unrealized gain on marketable equity securities 210 -- --
- -----------------------------------------------------------------------------------------------------
Net cash flows used in investing activities (18,908) (9,622) (4,200)
- -----------------------------------------------------------------------------------------------------
Net cash flows from financing activities:
- -----------------------------------------------------------------------------------------------------
Principal payments of debt (13,990) (6,607) (750)
Proceeds from debt issuance 1,680 16,643 2,000
Principal payments on obligations under capital leases (203) -- --
Proceeds from exercise of options and issuance of stock 46,298 567 561
Purchase of treasury stock (3,350) -- --
Net payments on notes receivable from shareholders 16 5 5
- -----------------------------------------------------------------------------------------------------
Net cash flows provided by financing activities: 30,451 10,608 1,816
- -----------------------------------------------------------------------------------------------------
Increase (decrease) in cash 12,774 (1,259) 854
Cash and cash equivalents, beginning of year 111 1,370 516
- -----------------------------------------------------------------------------------------------------
Cash and cash equivalents, end of year $ 12,885 $ 111 $ 1,370
- -----------------------------------------------------------------------------------------------------
Supplemental disclosures of cash flow information - cash paid during the year for:
- -----------------------------------------------------------------------------------------------------
Interest $ 742 $ 920 $ 34
Income taxes 3,568 2,380 2,529
- -----------------------------------------------------------------------------------------------------
Noncash investing and financing activities:
Establishing capital lease obligation $ 2,141 $ -- $ --
- -----------------------------------------------------------------------------------------------------
Debt conversion into common stock $ 608 $ -- $ --
- -----------------------------------------------------------------------------------------------------
Purchase of property and equipment
in accounts payable $ 185 $ 440 $ 888
- -----------------------------------------------------------------------------------------------------
Note issued for patent $ -- $ -- $ 826
- -----------------------------------------------------------------------------------------------------
Net cash paid for acquisition $ -- $ 1,768 $ 534
Cost in excess of assets acquired -- 8,541 1,873
Liabilities assumed -- (891) (435)
Notes issued for assets acquired -- (5,000) (1,250)
- -----------------------------------------------------------------------------------------------------
Fair value of assets acquired $ -- $ 4,418 $ 722
- -----------------------------------------------------------------------------------------------------
4
CryoLife, Inc.
Consolidated Statements of Shareholders' Equity and Comprehensive Income
(in thousands)
Common Shares Notes
Outstanding Additional Unrealized Receivables Total
------------- Paid-In Retainted Gains on Treasury from Shareholders'
Shares Amount Capital Earnings Investments Stock Shareholders Equity
- ------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1995 9,431 $100 $16,568 $3,975 $28 $(180) $(26) $20,465
- ------------------------------------------------------------------------------------------------------------------------
Net income -- -- -- 3,927 -- -- -- 3,927
Unrealized gains on investments -- -- -- -- (29) -- -- (29)
-----------
Comprehensive income 3,898
Exercise of options 124 1 409 -- -- -- -- 410
Employee stock purchase plan 2 -- 21 -- -- -- -- 21
Purchase of other assets 10 -- 130 -- -- -- -- 130
Payments on shareholder notes -- -- -- -- -- -- 5 5
- ------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1996 9,567 101 17,128 7,902 (1) (180) (21) 24,929
- ------------------------------------------------------------------------------------------------------------------------
Net income -- -- -- 4,725 -- -- -- 4,725
Unrealized gains on investments -- -- -- -- 1 -- -- 1
----------
Comprehensive income 4,726
Exercise of options 105 1 298 -- -- -- -- 299
Employee stock purchase plan 30 -- 268 -- -- -- -- 268
Additions to shareholder notes -- -- -- -- -- -- (21) (21)
Payments on shareholder notes -- -- -- -- -- -- 26 26
- ------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1997 9,702 102 17,694 12,627 -- (180) (16) 30,227
- ------------------------------------------------------------------------------------------------------------------------
Net income -- -- -- 6,486 -- -- -- 6,486
Unrealized gains on investments -- -- -- -- 139 -- -- 139
----------
Comprehensive income 6,625
Follow-on equity offering,
net of $703 of offering costs 2,976 30 45,417 -- -- -- -- 45,447
Exercise of options 100 1 338 -- -- 121 -- 460
Employee stock purchase plan 31 -- 294 -- -- 97 -- 391
Convertible debenture 50 1 607 -- -- -- -- 608
Purchase of treasury stock (343) -- -- -- -- (3,350) -- (3,350)
Payment on shareholder note -- -- -- -- -- -- 16 16
========================================================================================================================
Balance at December 31, 1998 12,516 $134 $64,350 $19,113 $139 $(3,312) $ -- $80,424
========================================================================================================================
See accompanying notes to the consolidated financial statements.
5
CRYOLIFE, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
Nature of Business
Founded in 1984, CryoLife, Inc. (the "Company") is the leader in the
cryopreservation of viable human tissues for transplant, and is developing and
commercializing additional implantable and single use non-implantable devices
for use in vascular, cardiovascular and orthopaedic applications. The Company
markets its viable human tissues in North and South America, Europe and Asia.
The Company's bioprosthetic implantable products include stentless porcine heart
valves marketed in Europe, South America, the Middle East and South Africa as
well as a proprietary project to transplant human cells onto the structure of
animal tissue. The Company also serves as an OEM manufacturer for single use
medical devices for use in vascular surgical procedures. In addition, the
Company develops proprietary implantable bioadhesives, including BioGlue
surgical adhesive, which it has begun commercializing for vascular applications
in Europe, South America, Asia, South Africa, and the Middle East. International
revenues were $4.0 million and $2.7 million for 1998 and 1997, respectively.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company and
its subsidiaries. All significant intercompany balances are eliminated.
Reclassifications
Certain prior year balances have been reclassified to conform to the 1998
presentation.
Use of Estimates
The consolidated financial statements have been prepared in conformity with
generally accepted accounting principles and, as such, include amounts based on
informed estimates and judgments of management with consideration given to
materiality. Actual results could differ from those estimates.
Cash and cash equivalents
Cash equivalents consist primarily of highly liquid investments with
insignificant interest rate risk and maturity dates of 90 days or less at the
time of acquisition. The carrying value of cash equivalents approximates fair
value.
Investments
The Company maintains cash equivalents and investments in several large
well-capitalized financial institutions, and the Company's policy disallows
investment in any securities rated less than "investments-grade" by national
rating services.
Management determines the appropriate classification of debt securities at the
time of purchase and reevaluates such designations as of each balance sheet
date. Debt securities are classified as held-to-maturity when the Company has
6
the positive intent and ability to hold the securities to maturity.
Held-to-maturity securities are stated at amortized cost. Debt securities not
classified as held-to-maturity or trading and marketable equity securities not
classified as trading are classified as available-for-sale. Available-for-sale
securities are stated at their fair values, with the unrealized gains and
losses, net of tax, reported in a separate component of shareholders' equity.
The amortized cost of debt securities classified as available-for-sale is
adjusted for amortization of premiums and accretion of discounts to maturity.
Such amortization is included in investment income. Realized gains and losses
and declines in value judged to be other than temporary on available-for-sale
securities are included in investment income. The cost of securities sold is
based on the specific identification method. Interest and dividends on
securities classified as available-for-sale are included in interest income. At
December 31, 1998 and 1997, all marketable equity securities and debt securities
were designated as available-for-sale.
Deferred Preservation Costs and Revenue Recognition
Tissue is procured from deceased human donors by organ procurement organizations
and tissue banks which consign the tissue to the Company for processing and
preservation. Preservation costs related to tissue held by the Company are
deferred until shipment to the implanting hospital. Deferred preservation costs
consist primarily of laboratory expenses, tissue procurement fees, and
freight-in charges and are stated at average cost, determined annually, on a
first-in, first-out basis. When the tissue is shipped to the implanting
hospital, revenue is recognized and the related deferred preservation costs are
charged to operations. The Company does not require collateral or other security
for its receivables.
Inventories
Inventories are comprised of single-use medical devices, bioprosthetic
implantable products, and implantable bioadhesives and are valued at the lower
of cost (first-in, first-out) or market.
Property and Equipment
Property and equipment are stated at cost. Depreciation is provided over the
estimated useful lives of the assets, generally 5 to 10 years, on a
straight-line basis. Leasehold improvements are amortized on a straight-line
basis over the lease term or the estimated useful lives of the assets, whichever
is shorter.
Intangible Assets
Goodwill resulting from business acquisitions is amortized on a straight-line
basis over 20 years. Patent costs are amortized over the expected useful lives
of the patents (primarily 17 years) using the straight-line method. Other
intangibles, which consist primarily of manufacturing rights and agreements, are
being amortized over the expected useful lives of the related assets (primarily
five years).
The Company periodically evaluates the recoverability of non-current tangible
and intangible assets and measures the amount of impairment, if any, by
assessing current and future levels of income and cash flows as well as other
factors, such as business trends and prospects and market and economic
conditions.
7
Income Taxes
Deferred income tax assets and liabilities are recognized for the future tax
consequences attributable to temporary differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases. Deferred tax assets and liabilities are measured using
enacted income tax rates expected to apply to taxable income in the years in
which those temporary differences are expected to be recovered or settled.
Research Grant and License Revenues
Revenues from research grants are recognized in the period the associated costs
are incurred. License revenues are recognized in the period the cash is received
and all licenser obligations have been fulfilled.
Earnings Per Share and Stock Split
In 1997 the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 128, "Earnings per Share" ("Statement 128"). Statement
128 replaced the calculation of primary and fully diluted earnings per share
with basic and diluted earnings per share. Unlike primary earnings per share,
basic earnings per share excludes any dilutive effects of options, warrants and
convertible securities. Diluted earnings per share is very similar to the
previously reported fully diluted earnings per share. All earnings per share
amounts for all periods have been presented, and where appropriate, restated to
conform to the Statement 128 requirements.
On May 16, 1996, the Board of Directors declared a two-for-one stock split,
effected in the form of a stock dividend, payable on June 28, 1996, to
shareholders of record on June 7, 1996. All share and per share information in
the accompanying consolidated financial statements has been adjusted to reflect
such split.
Comprehensive Income
In 1997 the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 130, "Reporting Comprehensive Income" ("Statement 130")
which established standards for the reporting and display of comprehensive
income and its components in a full set of comparative general-purpose financial
statements. The statement became effective for the Company in 1998.
Comprehensive income is defined in Statement 130 as net income plus other
comprehensive income, which, under existing accounting standards, includes
foreign currency items, minimum pension liability adjustments and unrealized
gains and losses on certain investments in debt and equity securities.
Comprehensive income disclosures are included in the Consolidated Statements of
Shareholders' Equity and Comprehensive Income.
8
2. Follow-on Equity Offering
On April 3, 1998 the Company completed a follow-on equity offering (the
"Offering") of 2,588,000 new shares of its common stock resulting in net
proceeds of $39.4 million. On April 16, 1998 the Company issued an additional
387,500 shares of common stock pursuant to the underwriters' overallotment
option resulting in $6.0 million of additional net proceeds to the Company. A
portion of the net proceeds were used to repay $13.3 million of principal and
interest outstanding under the Company's bank loans.
3. Ideas For Medicine, Inc.
On March 5, 1997 the Company acquired the stock of Ideas for Medicine, Inc.
("IFM"), a medical device company specializing in the manufacture and
distribution of single use medical devices, for consideration of approximately
$4.5 million in cash and approximately $5.0 million in convertible debentures
plus related expenses. The cash portion of the purchase price was financed by
borrowings under the Company's Revolving Term Loan Agreement. Pursuant to the
purchase agreement, additional consideration equal to 10 percent of IFM's net
annual revenues in excess of $7.5 million is to be paid each year for a 10 year
period, limited to $1.75 million in the aggregate. The acquisition was accounted
for as a purchase; accordingly, the results of operations have been included in
the accompanying 1998 and 1997 consolidated income statements from the date of
acquisition. Based on the allocation of the purchase price, the Company's
unaudited condensed pro forma results of operations for 1997, assuming
consummation of the purchase as of January 1, 1997 and 1996, are as follows (in
thousands, except per share data):
1997 1996
--------- ----------
Revenues $52,082 $43,574
Net income 4,756 3,511
Earnings per share:
Basic $0.49 $0.37
Diluted 0.48 0.35
In connection with this acquisition, the Company also entered into a consulting
agreement with the former majority shareholder of IFM requiring monthly payments
to such shareholder of approximately $17,000 until March 2002.
On September 30, 1998 the Company completed the sale of substantially all of the
IFM product line and certain related assets to Horizon Medical Products, Inc.
("Horizon"), for $15 million in cash pursuant to an asset purchase agreement.
Concurrently, IFM and Horizon signed a manufacturing agreement which provides
for the manufacture by IFM of specified minimum dollar amounts of IFM products
to be purchased exclusively by Horizon over each of the four years following the
sale. Thereafter, responsibility for such manufacturing is to be assumed by
Horizon.
9
The Company recorded deferred revenue at the transaction date totaling $2.9
million, representing the selling price less the net book value of the assets
sold, which included $7.7 million of goodwill, net of accumulated amortization,
and the costs related to the sale. The revenue was deferred because the sale and
manufacturing agreements represent, in the aggregate, a single transaction for
which the related income should be recognized over the term of the manufacturing
agreement. Accordingly, the deferred revenue is being reflected in cost of goods
sold over the four-year term of the manufacturing agreement in a manner which is
expected to result in approximately equal margins over the four-year period on
the products manufactured and sold by IFM to Horizon. During 1998 amortization
of deferred revenue totaled $387,000.
4. Marketable Securities
The following is a summary of available-for-sale securities (in thousands):
Unrealized Estimated
December 31, 1998 Cost Holding Gains Market Value
------------- ----------------- -----------------
Municipal obligations $ 24,963 $ 35 $ 24,998
Equity securities 10,440 175 10,615
------------ ---------------- ----------------
$ 35,403 $ 210 $ 35,613
============ ================ ================
Unrealized Estimated
December 31, 1997 Cost Holding Gains Market Value
------------- ----------------- -----------------
Debt securities $ 40 $ -- $ 40
============ ================ ================
The gross realized gains on sales of available-for-sale securities totaled
$4,000 and $0 in 1998 and 1997, respectively. Differences between cost and
market of $210,000 (less deferred taxes of $71,000) are included as a separate
component of shareholders' equity as of December 31, 1998.
At December 31, 1998 approximately $8.9 million of debt securities with original
maturities of 90 days or less at their acquisition dates were included in cash
and cash equivalents. At December 31, 1998 approximately $16.1 million of
investments mature between one and five years. The market values of these
securities approximate cost.
10
5. Inventories
Inventories at December 31 are comprised of the following (in thousands):
1998 1997
----------- ---------
Raw materials $ 1,296 $ 262
Work-in-process 1,037 358
Finished goods 1,052 1,141
----- -----
$ 3,385 $ 1,761
===== =====
6. Long-Term Debt
Long-term debt at December 31 consists of the following (in thousands):
1998 1997
--------------------------------
Revolving loan $ -- $6,777
Term loan due in equal monthly installments of $83,000 plus interest
at prime through December 31, 2002 -- 5,000
7% convertible debenture, due in March 2002 4,393 5,000
8.25% note payable due in equal annual installments of $250,000 750 1,000
Note payable due in 2000 with an effective interest rate
of 8%, net of unamortized discount of $29,000 in 1998
and $35,000 in 1997 301 585
------ ------
5,444 18,362
Less current maturities 516 1,496
----- ------
Total long-term debt $4,928 $16,866
====== =======
On August 30, 1996 the Company executed a $10 million revolving loan agreement
(the "Agreement") with a bank which, as amended on June 12, 1998, permits the
Company to borrow up to $2.0 million at either the bank's prime rate of interest
(7.75% at December 31, 1998) or at Adjusted LIBOR, as defined, plus an
applicable LIBOR margin. The Agreement expires on December 31, 1999; all
borrowings outstanding on that date convert to a term loan to be paid in 60
equal monthly installments of principal plus interest at either the bank's prime
rate of interest or at Adjusted LIBOR, as defined, plus an applicable LIBOR
11
margin. The Agreement contains certain restrictive covenants including, but not
limited to, maintenance of certain financial ratios and a minimum tangible net
worth requirement. The Agreement is secured by substantially all of the
Company's assets, including IFM's stock but excluding intellectual property.
Commitment fees are paid based on the unused portion of the facility. In
December 1997 the Company amended the Agreement to also include a $5.0 million
term loan facility with the bank at the bank's prime rate of interest or
Adjusted LIBOR, as defined, plus an applicable LIBOR margin. In conjunction with
the Offering, the revolving and term loans were paid in full in April 1998.
In March 1997 the Company issued a $5.0 million convertible debenture in
connection with the IFM acquisition. The debenture bears interest at 7% and is
due in March 2002. The debenture is convertible into common stock of the Company
at any time prior to the due date at $12.08 per common share. In conjunction
with the Offering, $608,000 of the convertible debenture was converted into
50,000 shares of the Company's common stock on March 30, 1998.
On September 12, 1996 the Company acquired the assets of United Cryopreservation
Foundation, Inc. ("UCFI"), a processor and distributor of cryopreserved human
heart valves and saphenous veins for transplant. The Company issued a $1.25
million note in connection with the acquisition. The note bears interest at
prime, as adjusted annually on the anniversary date of the acquisition.
In April 1996 the Company issued a $910,000 non-interest bearing note in
connection with the acquisition of its BioGlue(R) technology. The note is
payable in three annual installments of $290,000, plus a final payment of
$40,000 at maturity.
Scheduled maturities of long-term debt for the next five years are as follows
(in thousands):
1999 $516
2000 285
2001 250
2002 4,393
-----
$5,444
=====
7. Fair Values of Financial Instruments
Statement of Financial Accounting Standards No. 107, "Disclosures about Fair
Value of Financial Instruments" ("Statement 107"), requires the Company to
disclose estimated fair values for its financial instruments. The carrying
amounts of receivables and accounts payable approximate their fair values due to
the short term maturity of these instruments.
In 1997 the Company entered into two interest rate swap agreements with the
lender under the Agreement, maturing on dates through January 1999, which
effectively fixes the interest rate on $2.0 million of available borrowings
through such dates. The estimated fair values of the Company's interest rate
swap agreements and its outstanding debt approximate their carrying amounts at
December 31, 1998.
12
8. Leases
The Company leases equipment, furniture, and office space under various leases
with terms of up to 15 years. Commencing January 5, 1998 IFM leased office and
manufacturing facilities under a capital lease for $24,125 per month through
January 2008 from the former majority shareholder of IFM. Certain leases contain
escalation clauses and renewal options for additional periods. Future minimum
lease payments under noncancelable leases as of December 31, 1998 are as follows
(in thousands):
Capitalized Operating
Leases Leases
- ------------------------------------------------------------------------------
1999 $ 371 $ 1,369
2000 310 1,368
2001 290 1,281
2002 290 984
2003 290 966
Thereafter 1,132 8,025
---------------------------------------------------------------------------
Total minimum lease payments 2,683 $ 13,993
============
Less amount representing interest 745
------------------------------------------------------
Present value of net minimum
lease payments 1,938
Less current portion 224
-------------------------------------------------------
$ 1,714
======================================================
Property acquired under capital leases at December 31, 1998 consists of the
following (in thousands):
Buildings $ 1,987
Furniture and fixtures 150
------------
2,137
Accumulated depreciation 255
------------
$ 1,882
============
Total rental expense for operating leases amounted to $1,321,000, $1,282,000 and
$714,000 for 1998, 1997 and 1996, respectively.
13
9. Stock Option Plans
The Company has stock option plans which provide for grants of options to
employees and directors to purchase shares of the Company's common stock at
exercise prices generally equal to the fair values of such stock at the dates of
grant, which generally become exercisable over a five-year vesting period and
expire within ten years of the grant dates. Under the 1993 Employee Incentive
Stock Option Plan, the 1998 Long-Term Incentive Plan, and the amended and
restated Non-employee Director's Plan, the Company has authorized the grant of
options of up to 700,000, 300,000, and 396,000 shares of common stock,
respectively. As of December 31, 1998 and 1997, there were 569,000 and 306,000
shares of common stock reserved for future issuance under the Company's stock
option plans. A summary of stock option transactions under the plans follows:
Exercise Weighted Average
Shares Price Exercise Price
-------------- ----------------- ------------------------
Outstanding at December 31, 1995 590,000 $2.25-7.74 $ 4.21
Granted 247,000 8.5-18.43 15.70
Exercised (124,000) 2.26-7.26 3.31
Canceled (5,000) 2.25-3.75 3.68
--------------
Outstanding at December 31, 1996 708,000 2.25-18.43 7.36
Granted 201,000 10.25-15.88 11.97
Exercised (105,000) 2.25-7.50 2.85
Canceled (50,000) 2.25-16.75 10.06
--------------
Outstanding at December 31, 1997 754,000 3.00-18.43 8.95
Granted 331,000 12.00-17.13 15.48
Exercised (103,000) 3.12-10.25 4.80
Canceled (155,000) 3.12-18.43 16.03
==============
Outstanding at December 31, 1998 827,000 3.00-17.13 10.73
==============
The following table summarizes information concerning currently outstanding and
exercisable options:
Options Outstanding Options Exercisable
- -----------------------------------------------------------------------------------------------------------
Weighted Average Weighted Weighted
Range of Exercise Remaining Average Average
Prices Number Contractual Life Exercise Number Exercise
Outstanding Price Exercisable Price
- ------------------- ---------------- ---------------------- -------------- ------------------ --------------
$ 3.00-7.75 293,000 1.5 $ 4.68 206,000 $ 4.50
8.50-13.50 295,000 4.5 11.66 115,000 11.19
14.19-17.13 239,000 5.4 17.01 184,000 17.05
14
The Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" and related Interpretations ("APB
25") in accounting for its employee stock options because, as discussed below,
the alternative fair value accounting provided for under Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation"
("Statement 123") requires use of option valuation models that were not
developed for use in valuing employee stock options. Under APB 25, because the
exercise price of the Company's employee stock options equals the market price
of the underlying stock on the date of the grant, no compensation expense is
recognized.
Pro forma information regarding net income and earnings per share is required by
Statement 123, which also requires that the information be determined as if the
Company has accounted for its employee stock options granted subsequent to
December 31, 1994 under the fair value method of that Statement. The fair values
for these options were estimated at the dates of grant using a Black-Scholes
option pricing model with the following weighted-average assumptions:
1998 1997 1996
-------------------------------------------
Expected dividend yield 0% 0% 0%
Expected stock price volatility .520 .533 .561
Risk-free interest rate 5.30% 5.75% 6.51%
Expected life of options 3.8 Years 4.7 Years 4.8 Years
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions including the expected stock price volatility. Because
the Company's employee stock options have characteristics significantly
different from those of traded options, and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair values of the options
are amortized to expense over the options' vesting periods. The Company's pro
forma information follows (in thousands, except per share data):
1998 1997 1996
--------------------------------------
Net income--as reported $6,486 $4,725 $3,927
Net income--pro forma $5,705 $4,164 $3,542
Earnings per share--as reported:
Basic $ .54 $ .49 $ .41
Dilutive $ .53 $ .48 $ .40
Earnings per share--pro forma:
Basic $ .48 $ .43 $ .37
Dilutive $ .47 $ .42 $ .36
15
Other information concerning stock options follows:
1998 1997 1996
------------------------------------
Weighted average fair value of options
granted during the year $6.54 $6.69 $8.34
Number of shares as to which options are
exercisable at end of year 505,000 308,000 157,000
Because Statement 123 is applicable only to options granted subsequent to
December 31, 1994, its pro forma effect will not be fully reflected until 1999.
10. Shareholder Rights Plan
On November 27, 1995 the Board of Directors adopted a shareholder rights plan to
protect long-term share value for the Company's shareholders. Under the plan,
the Board declared a distribution of one Right for each outstanding share of the
Company's Common Stock to shareholders of record on December 11, 1995.
Additionally, the Company has further authorized and directed the issuance of
one Right with respect to each Common Share that shall become outstanding
between December 11, 1995 and the earliest of the Right's exercise date or
expiration date. Each Right entitles the registered holder to purchase from the
Company one-tenth of a share of a newly created Series A Junior Participating
Preferred Stock, at an exercise price of $100. The rights, which expire on
November 27, 2005, may be exercised only if certain conditions are met, such as
the acquisition of 15 percent or more of the Company's Common Stock by a person
or affiliated group ("Acquiring Person").
In the event the Rights become exercisable, each Right will enable the owner,
other than the Acquiring Person, to purchase, at the Right's then current
exercise price, that number of shares of Common Stock with a market value equal
to twice the exercise price. In addition, unless the Acquiring Person owns more
than 50% of the outstanding shares of Common Stock, the Board of Directors may
elect to exchange all outstanding Rights (other than those owned by such
Acquiring Person) at an exchange ratio of one share of Common Stock, or
one-tenth of a Preferred Share per Right.
11. Stock Repurchase
On October 14, 1998, the Company's Board of Directors authorized the Company to
purchase up to 1 million shares of its common stock. The purchase of shares will
be made from time to time in open market or privately-negotiated transactions on
such terms as management deems appropriate. As of December 31, 1998, the Company
had purchased 343,000 shares of its common stock for an aggregate purchase price
of $3,350,000.
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12. Employee Benefit Plans
The Company has a 401(k) savings plan (the "Plan") providing retirement benefits
to all employees who have completed at least six months of service. The Company
makes matching contributions of 50% of each participant's contribution up to 5%
of each participant's salary. Total Company contributions approximated $241,000,
$139,000 and $123,000 for 1998, 1997, and 1996, respectively. Additionally, the
Company may make discretionary contributions to the Plan that are allocated to
each participant's account. No such discretionary contributions were made in
1998, 1997 or 1996.
On May 16, 1996 the Company's shareholders approved the CryoLife, Inc. Employee
Stock Purchase Plan (the "ESPP"). The ESPP allows eligible employees the right
to purchase common stock on a quarterly basis at the lower of 85% of the market
price at the beginning or end of each three-month offering period. As of
December 31, 1998 and 1997 there were 543,000 and 566,000 shares of common stock
reserved under the ESPP and there had been 57,000 and 34,000 shares issued under
the plan, respectively.
13. Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per
share (in thousands, except per share data):
1998 1997 1996
----------- ---------- -----------
Numerator for basic and diluted earnings
per share - income available to common
shareholders $6,486 $4,725 $3,927
=========== ========== ===========
Denominator for basic earnings per share
- weighted-average basis 11,974 9,642 9,505
Effect of dilutive stock options 290 300 401
----------- ---------- -----------
Denominator for diluted earnings per
share - adjusted weighted-average
shares 12,264 9,942 9,906
=========== ========== ===========
Basic earnings per share $ 0.54 $ 0.49 $ 0.41
=========== ========== ===========
Diluted earnings per share $ 0.53 $ 0.48 $ 0.40
=========== ========== ===========
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14. Income Taxes
Income tax expense consists of the following (in thousands):
1998 1997 1996
------------------ ---------------- ----------------
Current:
Federal $3,854 $1,533 $1,573
State 279 403 341
----- ----- -----
4,133 1,936 1,914
Deferred (1,948) 972 242
------- ----- -----
$2,185 $2,908 $2,156
====== ====== ======
Such amounts differ from the amounts computed by applying the U.S. Federal
income tax rate of 34% to pretax income as a result of the following (in
thousands):
1998 1997 1996
---- ---- ----
Tax expense at statutory rate $2,947 $2,593 $2,068
Increase (reduction) in income taxes
resulting from:
Change in valuation allowance for
deferred tax assets -- (30) (129)
Entertainment expenses 90 42 30
State income taxes, net of federal benefit 173 266 241
Non-taxable interest income (63) -- (50)
Research and development credits (585) -- --
State and local tax refunds (256) -- --
Other (121) 37 (4)
----- ----- -----
$2,185 $2,908 $2,156
====== ====== ======
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The tax effects of temporary differences which give rise to deferred tax
liabilities and assets at December 31 are as follows (in thousands):
1998 1997
-------- -------
Long-term deferred tax liabilities/(assets):
Depreciation $1,537 $1,018
Deferred income (580) --
Intangible assets (547) (38)
----- ----
410 980
Current deferred tax assets/(liabilities):
Accrued expenses 872 --
Deferred income 394 --
Allowance for bad debts 97 --
Deferred preservation costs and inventory reserves 20 58
Unrealized gain on marketable securities (71) --
Other 36 (17)
------ -----
1,348 41
----- -----
Net deferred tax assets /(liabilities) $938 $ (939)
==== ======
15. FDA Regulation
Human heart valves historically have not been subject to regulation by the
United States Food and Drug Administration (the "FDA"). However, in June 1991
the FDA published a notice stating that human heart valves for transplantation
are medical devices subject to Premarket Approval ("PMA") or an Investigational
Device Exemption ("IDE"). In October 1994 the FDA announced in the Federal
Register that neither an approved application for PMA nor an IDE is required for
processors and distributors who had marketed heart valve allografts before June
1991. This action by the FDA has removed allograft heart valves from clinical
trial status thus allowing the Company to distribute such valves to
cardiovascular surgeons throughout the United States.
16. Executive Insurance Plan
Pursuant to a supplemental life insurance program for certain executive officers
of the Company, the Company and the executives share in the premium payments and
ownership of insurance policies on the lives of such executives. The Company's
aggregate premium contributions under this program were $43,000, $38,000 and
$37,000 for 1998, 1997 and 1996, respectively.
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17. Equipment on Loan to Implanting Hospitals
The Company consigns liquid nitrogen freezers with certain implanting hospitals
for tissue storage. The freezers are the property of the Company. At December
31, 1998 freezers with a total cost of approximately $1,540,000 and related
accumulated depreciation of approximately $901,000 were located at the
implanting hospitals' premises. Depreciation is provided over the estimated
useful lives of the freezers on a straight-line basis.
18. Transactions with Related Parties
The Company expensed $68,000, $65,000 and $39,000 during 1998, 1997 and 1996,
respectively, relating to services performed by a law firm whose sole proprietor
is a member of the Company's Board of Directors and a shareholder of the
Company. The Company expensed $75,000 in 1998 relating to consulting services
performed by a member of the Company's Board of Directors and a shareholder of
the Company. The Company expensed $ 210,000 and $175,000 in 1998 and 1997
relating to consulting services performed by a shareholder of the Company.
20