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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 (NO FEE REQUIRED)
For the transition period from _______________ to __________________
Commission File Number 0-27558
CYTYC CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 02-0407755
-------- ----------
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
85 Swanson Road, Boxborough, MA 01719
(Address of principal executive offices, including Zip Code)
(978) 263-8000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [_]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date: The number of shares of the
issuer's Common Stock, $0.01 par value per share, outstanding as of November 10,
1998 was 17,742,913.
Total Number of Pages: 20
Exhibit Index is on Page 19
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CYTYC CORPORATION
INDEX TO FORM 10-Q
------------------
Page
----
PART I FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets
December 31, 1997 and September 30, 1998 3
Consolidated Statements of Operations
for the three and nine months ended
September 30, 1997 and 1998 4
Consolidated Statements of Cash Flows
for the three and nine months ended
September 30, 1997 and 1998 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 10
PART II OTHER INFORMATION
Item 1. Legal Proceedings 16
Item 5. Other Information 16
Item 6. Exhibits and Reports on Form 8-K 17
SIGNATURE 18
2
PART I FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements
CYTYC CORPORATION
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
- ---------------------------------------------------------------------------------------------------------------
DECEMBER 31, SEPTEMBER 30,
1997 1998
------------------ -----------------
ASSETS
Current assets:
Cash and cash equivalents............................................... $ 47,204 $ 41,072
Short-term investments.................................................. 38,198 27,958
Accounts receivable, net................................................ 10,501 9,122
Inventories............................................................. 3,241 3,983
Prepaid expenses and other current assets............................... 905 1,051
-------- --------
Total current assets................................................. 100,049 83,186
Property and equipment, net............................................... 5,851 8,430
Other assets.............................................................. 2,477 2,035
-------- --------
Total assets......................................................... $108,377 $ 93,651
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable........................................................ $ 2,570 $ 1,661
Accrued expenses........................................................ 8,088 8,961
Deferred revenue........................................................ 1,532 1,311
-------- --------
Total current liabilities............................................ 12,190 11,933
-------- --------
Commitments and contingencies
Stockholders' equity:
Preferred Stock, $.01 par value--
Authorized--5,000,000 shares
No shares issued or outstanding....................................... -- --
Common Stock, $.01 par value--
Authorized--60,000,000 shares
Issued and outstanding 17,454,096 in 1997 and 17,644,758 in 1998...... 175 176
Additional paid-in capital.............................................. 165,191 166,113
Accumulated deficit..................................................... (69,179) (84,571)
-------- --------
Total stockholders' equity........................................... 96,187 81,718
-------- --------
Total liabilities and stockholders' equity........................... $108,377 $ 93,651
======== ========
- --------------------------------------------------------------------------------------------------------------
See accompanying notes.
3
CYTYC CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1997 1998 1997 1998
----------- ----------- ----------- -----------
Net sales.......................................................... $ 7,011 $12,349 $ 15,612 $ 29,631
Cost of sales...................................................... 2,011 2,902 5,374 7,672
------- ------- -------- --------
Gross profit..................................................... 5,000 9,447 10,238 21,959
------- ------- -------- --------
Operating expenses:
Research and development......................................... 1,428 1,994 4,404 6,147
Sales, marketing and customer support............................ 9,151 8,412 23,841 27,271
General and administrative....................................... 2,124 1,201 5,415 7,225
------- ------- -------- --------
Total operating expenses...................................... 12,703 11,607 33,660 40,643
------- ------- -------- --------
Loss from operations............................................... (7,703) (2,160) (23,422) (18,684)
Other income, net.................................................. 1,404 1,000 3,862 3,292
------- ------- -------- --------
Net loss........................................................... $(6,299) $(1,160) $(19,560) $(15,392)
======= ======= ======== ========
Net loss per common and potential common share:
Basic............................................................ $( 0.36) $(0.07) $(1.17) $(0.87)
======= ======= ======== ========
Diluted.......................................................... $(0.36) $(0.07) $(1.17) $(0.87)
======= ======= ======== ========
Weighted average common and potential common shares outstanding:
Basic............................................................ 17,296 17,643 16,758 17,604
Diluted.......................................................... 17,296 17,643 16,758 17,604
See accompanying notes.
4
CYTYC CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1997 1998 1997 1998
Cash flows from operating activities:
Net loss........................................................... $ (6,299) $ (1,160) $(19,560) $(15,392)
Adjustments to reconcile net loss to net cash used in operating
activities
Depreciation and amortization.................................. 309 452 762 1,175
Provision for doubtful accounts................................ - 20 - 170
Changes in assets and liabilities--
Accounts receivable........................................ ( 2,205) (2,443) ( 3,298) 1,209
Inventories................................................ 24 264 (323) (742)
Prepaid expenses and other current assets.................. 90 193 104 (146)
Accounts payable........................................... 950 365 746 (909)
Accrued expenses........................................... 1,387 (773) 5,861 873
Deferred revenue........................................... 139 (15) 396 (221)
-------- -------- -------- --------
Net cash used in operating activities................ (5,605) (3,097) (15,312) (13,983)
-------- -------- -------- --------
Cash flows from investing activities:
Decrease (increase) in other assets................................ (441) 331 (746) 442
Purchases of property and equipment................................ (343) (1,129) (1,147) (3,754)
Purchases of short-term investments................................ (7,382) (18,963) (57,138) (29,443)
Proceeds from maturity of short-term investments................... 19,235 7,500 31,091 39,683
-------- -------- -------- --------
Net cash provided by (used in) investing activities.. 11,069 (12,261) (27,940) 6,928
-------- -------- -------- --------
Cash flows from financing activities:
Proceeds from employee stock purchase program...................... - - 109 111
Proceeds from exercise of stock options............................ 74 77 291 812
Proceeds from sale of common stock................................. - - 70,580 -
-------- -------- -------- --------
Net cash provided by financing activities............ 74 77 70,980 923
-------- -------- -------- --------
Net increase (decrease) in cash and cash equivalents...................... 5,538 (15,281) 27,728 (6,132)
Cash and cash equivalents, beginning of period............................ 49,762 56,353 27,572 47,204
-------- -------- -------- --------
Cash and cash equivalents, end of period.................................. $ 55,300 $ 41,072 $ 55,300 $ 41,072
======== ======== ======== ========
See accompanying notes.
5
CYTYC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies
The notes and accompanying consolidated financial statements are unaudited.
They have been prepared by the Company pursuant to the rules and regulations of
the Securities and Exchange Commission and are subject to year-end audit by
independent public accountants. Certain information and footnote disclosures
normally included in financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted pursuant to such
rules and regulations. The financial statements should be read in conjunction
with the financial statements and notes included in the Company's Annual Report
on Form 10-K for the year ended December 31, 1997 (File No. 0-27558).
The information furnished reflects all adjustments, which, in the opinion of
management, are necessary for a fair presentation of results for the interim
periods. Such adjustments consisted only of normal recurring items. The
interim periods are not necessarily indicative of the results expected for the
full year or any future period.
The accompanying consolidated financial statements reflect the application of
certain significant accounting policies, as discussed below and elsewhere in the
notes to consolidated financial statements. The preparation of these
consolidated financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosures of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenue and expenses during the reporting period. Actual
results could differ from those estimates.
(2) Principles of Consolidation
The accompanying consolidated financial statements include the accounts of
the Company and its wholly owned subsidiaries, Cytyc SARL (a Swiss corporation)
(including its wholly-owned subsidiaries Cytyc Italia s.r.l. and Cytyc France
s.a.r.l.), Cytyc (Australia) PTY LIMITED (an Australian corporation) and Cytyc
Securities Corporation (a Massachusetts securities corporation). All
intercompany transactions and balances have been eliminated in consolidation.
(3) Cash and Cash Equivalents
Cash equivalents consist of money market mutual funds, commercial paper and
U.S. Government securities with original maturities of three months or less.
(4) Short-term Investments
The Company follows the provisions of Statement of Financial Accounting
Standards (''SFAS'') No. 115, Accounting for Certain Investments in Debt and
Equity Securities.
Short-term investments consist of U.S. Government securities, certificates of
deposit and commercial paper with original maturities between three and twelve
months. The Company classifies these short-term investments as held-to-maturity,
and accordingly, they are carried at amortized cost. Aggregate fair value,
amortized cost and average maturity for marketable securities held at September
30, 1998 and December 31, 1997 are as follows:
6
CYTYC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
GROSS
UNREALIZED
AMORTIZED HOLDING FAIR
COST GAINS VALUE
-------- -------- --------
(IN THOUSANDS)
SEPTEMBER 30, 1998
------------------
U.S. Government and Agency securities (average
maturity of 5.8 months).................................... $22,509 127 $22,636
Certificates of Deposit (average maturity of 4.8
months).................................................... 3,999 2 4,001
Commercial Paper (average maturity of 7.7
months).................................................... 1,450 2 1,452
-------- -------- --------
TOTAL SHORT TERM INVESTMENTS SEPTEMBER 30, 1998 $ 27,958 131 $ 28,089
======== ======== ========
DECEMBER 31, 1997
-----------------
U.S. Government and Agency securities (average
maturity of 3.6 months).................................... $ 38,198 71 $ 38,269
======== ======== ========
(5) Net Loss Per Common Share
Statement of Financial Accounting Standards No. 128 (SFAS 128), "Earnings per
Share" requires companies to compute net income per share under two different
methods, basic and diluted per share data, for all periods for which an income
statement is presented. Basic earnings per share is computed by dividing net
income by the weighted average number of common shares outstanding for the
quarters and nine months ended September 30, 1997 and 1998. Diluted earnings
per share reflects the potential dilution that could occur if the income were
divided by the weighted-average number of common and potential common shares
outstanding during the period. Diluted earnings per share is computed by
dividing net income by weighted average number of common shares and common stock
equivalents from outstanding stock options for the quarters and nine months
ended September 30, 1997 and 1998. Common stock equivalents are calculated
using the treasury stock method and represent incremental shares issuable upon
exercise of the Company's outstanding options. For the quarters and nine months
ended September 30, 1997 and 1998, net loss per diluted share is based on
weighted average common shares and excludes any common stock equivalents as they
would be anti-dilutive due to the reported loss. The following table provides a
reconciliation of the numerators and denominators used in calculating basic and
diluted earnings per share for the three and nine months ended September 30,
1997 and 1998.
7
CYTYC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
1997 1998 1997 1998
------- ------- -------- --------
(in thousands, except per share data)
Net loss.................................................... $(6,299) $(1,160) $(19,560) $(15,392)
Basic Earnings Per Share:
Loss available to common shareholders.................. $(6,299) $(1,160) $(19,560) $(15,392)
Weighted average common shares outstanding ............. 17,296 17,643 16,758 17,604
------- ------- -------- --------
Basic loss per share........................................ $ (0.36) $ (0.07) $ (1.17) $ (0.87)
======= ======= ======== ========
Diluted Earnings Per Share:
Loss available to common shareholders................... $(6,299) $(1,160) $(19,560) $(15,392)
Weighted average common shares outstanding............... 17,296 17,643 16,758 17,604
Common stock options grants (unless anti-dilutive)....... - - - -
------- ------- -------- --------
Total weighted average equivalent shares..................... 17,296 17,643 16,758 17,604
------- ------- -------- --------
Diluted loss per share....................................... $ (0.36) $ (0.07) $ (1.17) $ (0.87)
======= ======= ======== ========
Diluted weighted average shares outstanding excludes 1,823,000 and 1,999,000
potential common shares from stock options and warrants outstanding as of
September 30, 1997 and 1998, respectively.
(6) Reporting Comprehensive Income
The Company adopted SFAS No. 130, Reporting Comprehensive Income, effective
January 1, 1998. SFAS No. 130 establishes standards for reporting and display
of comprehensive income and its components in the financial statements.
Comprehensive income is the total of net income and all other non owner changes
in equity including such items as unrealized holding gains/losses on securities
classified as available-for-sale, foreign currency translation adjustments and
minimum pension liability adjustments. The Company had no such items for the
three and nine months ended September 30, 1997 and 1998.
(7) New Accounting Standard
In June 1998, the FASB issued SFAS No. 133, Accounting for Derivative
Instruments and Hedging Activities. SFAS No. 133 establishes accounting and
reporting standards for derivative instruments and for hedging instruments. It
requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial position and measure those instruments
at fair value. This Statement applies to all entities and is effective for all
fiscal quarters beginning after June 15, 1999. Initial application of this
Statement should be as of the beginning of an entity's fiscal quarter. As of
September 30, 1998 and during the quarter then ended, the Company did not hold
any derivative instruments or have any hedging activities. The Company does not
expect adoption of this Statement to have a significant impact on its financial
position or results of operations.
(8) Legal Proceedings
On April 15, 1997, the Company commenced a lawsuit against Neuromedical
Systems, Inc. ("NSI"), The PIE Mutual Insurance Company ("PIE"), Cytology West,
Inc. ("CWI") and other parties in the United States District Court in
Massachusetts (Civil Action No. 97-10740). The action was voluntarily dismissed
without prejudice as to certain defendants, and dismissed as to the remaining
defendants following the court's determination that personal jurisdiction was
lacking.
8
CYTYC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company refiled its suit against NSI and two of its officers in the
United States District Court for the Southern District of New York on June 24,
1997 (Civil Action No. 97 CIV 4642). On October 19, 1998, the Company announced
that the parties had settled the litigation. The terms of the settlement were
not disclosed.
The Company also refiled its suit against PIE and its medical director in the
United States District Court for the Northern District of Ohio, Eastern Division
on July 3, 1997 (Civil Action No. 1:97 CV 1779). The complaint alleges false
and misleading description and representation, unfair and deceptive trade
practices, interference with advantageous relationships, defamation and
commercial disparagement. The Company is seeking injunctive relief as well as
damages, including treble damages. On September 2, 1997, the defendants filed
an answer and affirmative defenses to the Company's claims, denying liability.
Defendants filed a motion to dismiss the action on March 13, 1998. The case is
in discovery.
On May 14, 1997, CWI, a defendant in the Company's original lawsuit in
Massachusetts, filed suit against the Company in the United States District
Court for the District of Nevada (Civil Action No. CV-S- 97-00594-LDG (LRL)),
alleging false description, false representation and unfair competition. On
June 27, 1997, the Company filed a motion to dismiss the complaint. The Court
granted the Company's motion as to one count of CWI's complaint, but denied the
Company's motion as to the remainder of CWI's complaint. On August 6, 1997, the
Company filed counterclaims against CWI and third party claims against its
President, including claims for false and misleading description and
representation, unfair competition, interference with advantageous
relationships, defamation, commercial disparagement and abuse of process. On
August 26, 1997, CWI and its President filed an answer and affirmative defenses
to the Company's counterclaims, denying liability. On January 23, 1998, the
Company voluntarily withdrew its claim for abuse of process. While the outcome
of the action cannot be determined, the Company believes the claims against the
Company are without merit and intends to defend against those claims vigorously.
Each of the above pending actions are in discovery and, accordingly, the
Company is unable to determine the extent of its liability, if any, or the
likelihood of prevailing in such actions.
On August 10, 1998, the Company was served with a complaint filed in the
Delaware Chancery Court in a matter entitled Blazin v. Cytyc, et. al. (Civil
------------------------
Action No. 16571-NC), alleging that the continuing director or "dead hand"
provision of the Company's shareholder rights plan violates Delaware law. On
June 22, 1998, the Company had amended its shareholder rights plan, deleting the
dead hand provision in its entirety. The lawsuit was dismissed pursuant to a
notice of voluntary dismissal filed on August 24, 1998.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company designs, develops, manufactures and markets a sample preparation
system for medical diagnostic applications. The ThinPrep System consists of the
ThinPrep 2000 Processor and related disposable reagents, filters and other
supplies. The Company has marketed the ThinPrep System for use in non-
gynecological testing applications since 1991. On May 20, 1996, the Company
received premarket approval ("PMA") from the United States Food and Drug
Administration ("FDA") to market the ThinPrep System for cervical cancer
screening as a replacement for the conventional Pap smear method. On November 6,
1996, the FDA cleared expanded product labeling for the ThinPrep System to
include the claim that the ThinPrep System is significantly more effective in
detecting low grade and more severe lesions than the conventional Pap smear
method in a variety of patient populations. The expanded labeling also indicates
that the specimen quality using the ThinPrep System is significantly improved
over that of the conventional Pap smear method. On February 25, 1997, the FDA
approved the Company's supplemental PMA application for use of a combination of
an endocervical brush and spatula sampling devices, which is a commonly used
method of collecting samples for conventional Pap smears. On September 4, 1997,
the FDA approved the Company's supplemental PMA application for the testing for
the human papilloma virus ("HPV") directly from a single vial of patient
specimen collected in a ThinPrep solution using the Hybrid Capture HPV DNA Assay
of Digene Corporation. The Company commenced the full-scale commercial launch of
the ThinPrep System for cervical cancer screening in the United States in 1997.
Since inception, the Company has incurred substantial losses, principally from
expenses associated with obtaining FDA approval of the Company's ThinPrep System
for cervical cancer screening, engineering and development efforts related to
the ThinPrep System, expansion of the Company's manufacturing facilities, and
the establishment of a marketing and sales organization. The Company expects
that such losses may continue for the foreseeable future as it expands its
domestic and establishes its international marketing and sales activities, and
continues its product development efforts. The operating results of the Company
have fluctuated significantly in the past on an annual and a quarterly basis.
The Company expects that its operating results will fluctuate significantly from
quarter to quarter in the future and will depend on a number of factors,
including the extent to which the Company's products gain market acceptance, the
rate and size of expenditures incurred as the Company expands its domestic and
establishes its international sales and distribution networks, the timing and
level of reimbursement for the ThinPrep System by third-party payors, and other
factors, many of which are outside the Company's control.
The Company occupies a 97,000 square foot facility in Boxborough,
Massachusetts. The Company has installed custom-built automated equipment for
the high-volume manufacture of disposable filters for use in connection with the
ThinPrep System.
The Company believes that sales of the ThinPrep System for cervical cancer
screening in the United States will depend on the availability of adequate
reimbursement from third-party payors such as private insurance plans, managed
care organizations and Medicare and Medicaid. The Company believes that in the
United States, the current rate of reimbursement of laboratories from managed
care organizations and other third-party payors to screen conventional Pap
smears ranges from approximately $6.00 to $36.00 per test, with $17.00 as the
most common rate of reimbursement.
The Company believes that the cost per ThinPrep Pap Test, plus a laboratory
mark-up, will be billed to third-party payors and result in a higher cost than
the current charge for conventional Pap tests. In the past, the Company has
offered discounts to stimulate demand for the ThinPrep System and may elect to
do so in the future, which discounts could have a material adverse effect on the
Company's business, financial condition and results of operations.
The Company believes that its expanded FDA labeling supported by clinical
field and trial results may assist in the establishment of increased
reimbursement for the ThinPrep Pap Test. Although health insurance companies
have added the ThinPrep Pap Test to their coverage, there can be no assurance
that third-party payors will provide or continue to provide such coverage, that
reimbursement levels will be adequate or that health care providers or clinical
laboratories will use the ThinPrep System for cervical cancer screening in lieu
of the conventional Pap smear method.
Effective January 1, 1998, the Company's laboratory customers are able to
request reimbursement for the ThinPrep Pap Test from health insurance companies
and the USHCFA (United States Health Care Financing
10
Administration) using a newly assigned Common Procedure Technology ("CPT") code
specifically for liquid-based monolayer cervical cell specimen preparation. CPT
codes are assigned, maintained and revised by the CPT Editorial Board, which is
administered by the American Medical Association, and are used in the submission
of claims to third-party payors for reimbursement for medical services. The new,
single CPT code replaces the non-specific, two-code description used during 1997
and is expected to facilitate reimbursement to the Company's laboratory
customers for their use of the ThinPrep Pap Test. Delays in the implementation
of the new CPT code by third-party payors, however, have resulted in delayed
reimbursement to the Company's laboratory customers. As a result, the Company
believes that orders for ThinPrep Pap Tests during the first half of 1998 were
reduced, delayed or eliminated.
The Company's direct sales force is actively working directly with current
laboratory customers and health insurance companies to facilitate implementation
and reimbursement under the new CPT code. As of September 30, 1998, based on
information provided to the Company, the Company believes that all of the 85
health insurance companies covering the ThinPrep Pap Test have implemented the
new CPT code and have established a reimbursement amount. There are
approximately six hundred managed care organizations and other third party
payors in the United States. There can be no assurance however, that the new
CPT code will be successfully implemented by additional third-party payors, that
any reimbursement delays will be successfully reduced, or that reimbursement
levels under the new CPT code will be adequate.
The Company expects to continue its significant expenditures for marketing,
sales and customer support activities of the ThinPrep System for cervical cancer
screening. There can be no assurance, however, that such investments will result
in increased net sales or that the Company's direct sales force will succeed in
promoting the ThinPrep System to health care providers, third-party payors or
clinical laboratories, or that additional marketing and sales channels will be
successfully established. During 1997, the Company entered into a number of
agreements in connection with its marketing and sales activities, including a
co-promotion agreement with Mead Johnson & Company ("Mead Johnson"), a division
of Bristol-Myers Squibb, to promote the ThinPrep Pap Test to obstetricians and
gynecologists in the United States, and an agreement with Quest Diagnostics
Incorporated to provide processing of ThinPrep Pap Tests at its clinical
laboratories in the United States. The Quest Diagnostics agreement provides
that Quest will only provide other liquid-based mono or thin layer sample
preparation technologies if FDA labeling claims for such products exceed the FDA
labeling claims of the ThinPrep System and will only provide computer aided
rescreening upon customer initiated request. Quest Diagnostics and the Company
also agreed to coordinate certain efforts in planning and marketing the ThinPrep
Pap Test to medical professionals and third party payors. There can be no
assurance that such marketing, sales and customer support activities will result
in increased net sales, that the agreement with Mead Johnson or other third
parties will be successful, that the Company's direct sales force will succeed
in promoting the ThinPrep System to health care providers, third-party payors or
clinical laboratories, or that additional marketing and sales channels will be
successfully established.
The Company expects to continue its expenditures for research and development
to fund development of follow-on products and additional applications of
ThinPrep technology. The Company also expects to continue to incur expenses for
administrative activities, principally for the employment of personnel and
professional fees.
RESULTS OF OPERATIONS
Three Months Ended September 30, 1998 and 1997
Net sales increased to $12.3 million in the third quarter of 1998 from $7.0
million for the same period of 1997, an increase of 76%. The increase was
primarily due to sales of the Company's ThinPrep Pap Test for cervical cancer
screening in the United States. Gross profit increased to $9.4 million in the
third quarter of 1998 from $5.0 million for the same period of 1997, an increase
of 89%, and the gross margin increased to 77% in the third quarter of 1998 from
71% for the same period of 1997. Management attributes the increase in gross
margin in 1998 primarily to increased sales of the higher gross margin ThinPrep
Pap Test as compared to the ThinPrep 2000 Processor, and increased sales prices
for non-gynecological tests.
Total operating expenses decreased to $11.6 million in the third quarter of
1998 from $12.7 million for the same period of 1997, a decrease of 9%. Research
and development costs increased to $2.0 million in the third quarter of 1998
from $1.4 million for the same period of 1997, an increase of 40%, primarily as
a result of the costs associated with the Company's next-generation processor,
the ThinPrep 3000 instrument and other product development activities. Sales,
marketing and customer support costs decreased to $8.4 million in the third
quarter of
11
1998 from $9.2 million for the same period of 1997, a decrease of 8%. The
decrease in sales, marketing and customer support costs reflects decreased
expenses associated with the Mead Johnson co-promotion agreement and reductions
in sales travel and entertainment expenses and marketing and managed care
program costs offset by increased costs related to the international launch of
the ThinPrep technology. General and administrative costs decreased to $1.2
million in the third quarter of 1998 from $2.1 million for the same period of
1997, a decrease of 43%, primarily due to decreased legal expenses associated
with certain litigation and professional fees. Net interest income decreased to
$1.0 million in the third quarter of 1998 from $1.4 million for the same period
of 1997, a decrease of 29%, due to a decrease in the average cash balances
available for investment.
Nine Months Ended September 30, 1998 and 1997
Net sales increased to $29.6 million in the first nine months of 1998 from
$15.6 million for the same period in 1997, an increase of 90%. This increase
was primarily due to increased worldwide sales of the Company's ThinPrep Pap
Test for cervical cancer screening. Gross profit increased to $22.0 million in
the first nine months of 1998 from $10.2 million for the same period in 1997, an
increase of 114%, and the gross margin increased to 74% from 66%. Management
attributes the increase in gross margin in 1998 primarily to the increased sales
of the higher gross margin ThinPrep Pap Test as opposed to the ThinPrep 2000
Processor and increased selling prices for non-gynecological tests.
Total operating expenses increased to $40.6 million in the first nine months
of 1998 from $33.7 million for the same period of 1997, an increase of 21%.
Research and development costs increased to $6.1 million in the first nine
months of 1998 from $4.4 million for the same period in 1997, an increase of
40%, primarily as a result of costs associated with the ThinPrep 3000 instrument
and other product development activities. Sales, marketing and customer support
costs increased to $27.3 million in the first nine months of 1998 from $23.8
million for the same period in 1997, an increase of 14%. The increase in sales,
marketing and customer support costs reflects the employment of additional sales
and customer support personnel and additional marketing costs related to the
international launch of the ThinPrep Pap Test. General and administrative costs
increased to $7.2 million in the first nine months of 1998 from $5.4 million for
the same period in 1997, an increase of 33%, primarily due to legal expenses
associated with certain litigation. Net interest income decreased to $3.3
million in the first nine months of 1998 from $3.9 million for the same period
in 1997, a decrease of 15%, as a result of lower average cash balances available
for investment.
LIQUIDITY AND CAPITAL RESOURCES
Since inception, the Company's expenses have significantly exceeded its
revenue, resulting in an accumulated deficit of $84.6 million as of September
30, 1998. The Company has funded its operations primarily through the private
placement and public sale of equity securities aggregating $166.3 million, net
of offering expenses. At September 30, 1998, the Company had cash, cash
equivalents and short-term investments of $69.0 million. Cash used in the
Company's operations during the third quarter of 1998 decreased to $3.1 million
compared to $5.6 million in the third quarter of 1997.
Net accounts receivable decreased by $1.4 million to approximately $9.1
million during the first nine months of 1998 as a result of improved collections
activity at September 30, 1998 as compared to December 31, 1997 and increased
reserves for doubtful accounts. Inventories increased approximately $0.7 million
to $4.0 million from December 31, 1997 to September 30, 1998 due primarily to
the Company's planned sales increase of ThinPrep Pap Tests, ThinPrep 2000
Processors and reagents, filters and other supplies for non-gynecological
testing.
The Company's capital expenditures for the quarters ended September 30, 1998
and 1997 were $1.1 million and $0.3 million, respectively. The increase in
capital expenditures in the third quarter of 1998 was due primarily to increased
purchases for customized manufacturing equipment and leasehold improvements.
Additionally, as of September 30, 1998, the Company had commitments for
customized manufacturing equipment of approximately $0.6 million.
The Company's future liquidity and capital requirements will depend upon
numerous factors, including the resources required to further develop its
marketing and sales capabilities, both domestic and international, and the
extent to which such activities generate market acceptance and demand for the
ThinPrep System for cervical cancer screening. The Company's capital
requirements will also depend upon the progress of the Company's research and
development programs including clinical trials, the receipt of and the time
required to obtain regulatory clearances
12
and approvals, and the resources the Company devotes to developing,
manufacturing and marketing its products. In addition, the Company's capital
requirements will depend on the extent of potential liabilities, if any, and
costs associated with, existing or future litigation. See "Legal Proceedings."
There can be no assurance that the Company will not require additional financing
or will not in the future seek to raise additional funds through bank
facilities, debt or equity offerings or other sources of capital. Additional
funding may not be available when needed or on terms acceptable to the Company,
which would have a material adverse effect on the Company's business, financial
condition and results of operations.
YEAR 2000 READINESS DISCLOSURE AND RELATED INFORMATION
Until recently, many computer programs were written using two digits rather
than four digits to define the applicable year in the twentieth century. Such
software may recognize a date using "00" as the year 1900 rather than the year
2000. In addition, the year 2000 is a special case leap year. The consequences
of this issue may include systems failures and business process interruption to
the extent companies fail to upgrade, replace or otherwise address year 2000
problems. The year 2000 problem may also result in additional business and
competitive differentiation. The Company is working to assess the potential
impact of the year 2000 issue on the Company's products and systems and on its
third-party suppliers, payors and laboratory customers, and to minimize the
effects of any such impact.
The Company believes that it has three general areas of potential exposure
with respect to the year 2000 problem: (1) software integral to the operation of
the Company's own products; (2) software used in the Company's internal
information systems, financial and accounting systems, manufacturing systems,
and other administrative functions; and (3) the effects of third party year
2000-related compliance efforts on the Company's business with such third
parties. The Company has established a task force composed of experienced
personnel from technical operations, information systems, legal and finance
functional areas and is currently in the process of evaluating its year 2000
readiness with respect to these areas of potential exposure, and currently
anticipates that its evaluation will include the following phases: (i)
identification of all potentially affected products, hardware, systems and third
party compliance efforts; (ii) assessment of any repair or replacement
requirements; (iii) conducting any necessary repairs or replacements; (iv)
testing; (v) implementation; and (vi) creation of contingency plans in the event
of year 2000 failures.
The first type of potential year 2000 exposure for the Company relates to
software and/or hardware used in the Company's ThinPrep Processors. The Company
has completed an assessment of its ThinPrep 2000 Processor and, based on this
assessment, has determined that it is year 2000 compliant due to the fact that
the system does not have any software or hardware time or calendar functions
available in its design. The Company has also assessed the year 2000 compliance
of its next-generation product, the ThinPrep 3000 Processor, which is currently
under development. As a result of this assessment, the Company believes that
the ThinPrep 3000 Processor will be Year 2000 compliant upon its initial release
to the market.
The second type of potential year 2000 exposure for the Company relates to
software applications used in the Company's internal information systems,
financial and accounting systems, manufacturing processes, and other
administrative functions. The Company has conducted a review of its internal
computer software and systems to determine the extent to which the Company's
internal systems may be adversely affected by the onset of the year 2000. The
Company believes that it has identified all of its systems which require updates
in order to become year 2000 compliant. The Company plans to have all of these
systems and updates implemented, tested and validated by the first quarter of
1999. The Company has also established a procurement process intended to ensure
that all new software and hardware systems are year 2000 compliant. Based on
its assessment to date, and the identified corrective actions and validation
testing, the Company believes that it will not experience material disruption as
a result of year 2000 issues with respect to its internal information systems,
financial and accounting systems, manufacturing processes, and other
administrative functions.
The third type of potential year 2000 exposure for the Company relates to the
effects of third party compliance efforts and the potential failure by third
parties to achieve year 2000 readiness. Certain key components of the ThinPrep
System, including its proprietary filter, are currently supplied to the Company
by single sources. In the event that the Company believes that any of the
Company's suppliers will be unable to provide the Company with such key
components due to the failure of such suppliers to timely resolve their year
2000 issues, the Company intends to develop contingency plans, including, if
appropriate, establishing sufficient reserves of such key components in order to
limit or prevent any material disruption of the Company's ability to manufacture
its products on a timely and cost-competitive basis. In the event that the
Company is unable to obtain sufficient quantities of such key components caused
by the failure of the Company's suppliers to resolve their own Year 2000 issues,
or otherwise address any material disruption of its supply of such components,
the Company may not be able to manufacture its products
13
on a timely and cost-competitive basis, which could have a material adverse
effect on the Company's business, financial condition and results of operations.
The Company is also dependent on third-party payors such as private insurance
plans, managed care organizations and Medicare and Medicaid to reimburse its
laboratory customers for the ThinPrep Pap Test, and on laboratory customers for
orders of and payments for ThinPrep Pap Tests. The Company plans to initiate a
program in the fourth quarter of 1998 to determine the year 2000 readiness of
its significant third-party payors and laboratory customers. The Company
intends to contact critical suppliers, and large volume third party payors and
laboratory customers through correspondence concerning their year 2000
readiness. There can be no assurance that any such entities will provide any
requested information on a timely basis, or at all. Delays in reimbursement to
the Company's laboratory customers by third-party payors caused by year 2000
disruptions of third-party payors' systems, or the inability of such laboratory
customers to process ThinPrep Pap Tests and/or pay the Company for the Company's
products as a result of the failure of the laboratory customers to resolve their
own year 2000 issues, may adversely impact future orders for ThinPrep Pap Tests
and ThinPrep Processors, which could have a material adverse effect on the
Company's business, financial condition and results of operations. Furthermore,
the purchasing patterns of laboratory customers or potential customers may be
affected by year 2000 issues to the extent they expend significant resources to
correct their current systems for year 2000 compliance. Because of the many
uncertainties associated with year 2000 compliance efforts by third-party payors
and the Company's laboratory customers and suppliers and because the Company's
assessment is necessarily based primarily on information provided by such third-
party payors, laboratory customers and suppliers, there can be no assurance that
the Company's assessment of year 2000 readiness of such payors, laboratory
customers and suppliers will be correct or that the impact on the Company of any
resulting year 2000 disruptions with respect to such parties will not be
material.
In addition, if certain critical third party providers, such as those
supplying electricity, water, or telecommunications services, experience
difficulties resulting in a material interruption of services to the Company,
such interruption would likely result in a material adverse effect on the
Company's business, financial condition and results of operations.
To date, the Company has not incurred any material expenditures in connection
with identifying or evaluating year 2000 compliance issues. The costs incurred
by the Company through the third quarter of fiscal 1998 to address year 2000
compliance efforts were approximately $10,000. The Company estimates it will
incur up to approximately $40,000 during the remainder of fiscal 1998 and
$10,000 in fiscal 1999 to support its compliance initiatives. Most of the
Company's expenses have been, and in the future are expected to be, related to
the opportunity cost of time spent by employees of the Company evaluating year
2000 compliance matters in general. Because the Company's year 2000 process
is at an early stage and is ongoing, however, the actual costs to the Company of
its efforts to address year 2000 issues are not presently known, and there can
be no assurance that such costs will not have a material adverse effect on the
Company's business, financial condition and results of operations.
At present, the Company has not developed a year 2000-specific contingency
plan. The Company intends to prepare a contingency plan with respect to mission
critical systems no later than the second quarter of 1999. In addition, if
material year 2000 compliance issues are discovered, the Company will then
evaluate the need for one or more contingency plans relating to such issues.
The Company's expectations as to the extent and timeliness of modifications
required in order to achieve year 2000 compliance and of the prospects of the
Company and its third party payors and customers to achieve year 2000 compliance
are forward-looking statements subject to risks and uncertainties. Actual
results may vary materially as a result of a number of factors, including, among
others, those described in this paragraph. There can be no assurance that the
Company will be able to successfully modify on a timely basis its systems to
comply with year 2000 requirements, or that third party payors and laboratory
customers will not suffer material disruptions due to year 2000 issues, any of
which failures could have a material adverse effect on the business, financial
condition and results of operations of the Company. Further, while the Company
believes that its year 2000 compliance efforts will be completed on a timely
basis in advance of the year 2000 date transition and without material cost,
there can be no assurance that unexpected delays or problems, including the
failure to ensure year 2000 compliance by third
14
party payors and laboratory customers, will not result in material costs of
compliance to the Company or otherwise have a material adverse effect on the
business, financial condition and results of operations of the Company.
IMPACT OF EURO CONVERSION
On January 1, 1999, 11 of the 15 member countries of the European Union are
scheduled to establish fixed conversion rates between their existing sovereign
currencies and the Euro, and to adopt the Euro as their common legal currency.
The Euro will then trade on currency exchanges and be available for non-cash
transactions. For a three-year transition period, both the Euro and each
participating country's sovereign currency will remain legal currency. After
June 30, 2002, the Euro will be the sole legal tender for the participating
countries.
A significant amount of uncertainty exists as to the interpretation of
certain Euro regulations and the effect that the Euro will have on the
marketplace, including its impact on currency exchange rate risk, pricing,
competition, contracts, information systems and taxation. The Company derives
approximately 10% of its revenues from sales of the ThinPrep System to
customers in countries expected to convert to the Euro. The Company is
currently evaluating Euro-related issues and the impact that the introduction of
the Euro may have on the Company's business and results of operations. The
Company expects to take appropriate actions based on the results of its
evaluation. The Company has not yet determined the costs of addressing Euro-
related issues, but does not expect such costs to be material. Because the
Company's evaluation of Euro-related issues is at an early stage, however, there
can be no assurance that such issues and their related costs will not have a
material adverse effect on the Company's business, results of operations and
financial condition.
CERTAIN FACTORS WHICH MAY AFFECT FUTURE RESULTS
The Company does not provide financial performance forecasts. The forward
looking statements in this Quarterly Report on Form 10-Q are made under the safe
harbor provisions of Section 21E of the Securities Exchange Act of 1934, as
amended. The Company's operating results and financial condition have varied and
may in the future vary significantly depending on a number of factors.
Statements in this Form 10-Q which are not strictly historical statements,
including, without limitation, statements regarding current or future financial
performance, management's plans and objectives for future operations, domestic
and international marketing and sales plans, product plans and performance,
availability of reimbursement for the Company's product, potential savings to
the health care system, management's assessment of market factors, as well as
statements regarding the strategy and plans of the Company, constitute forward-
looking statements that involve risks and uncertainties. The following factors,
among others, could cause actual results to differ materially from those
contained in forward-looking statements made in this report and presented
elsewhere by management from time to time. The Company's risk factors include
its dependence on a single product, uncertainty of market acceptance and the
additional cost related thereto, a limited number of customers and a lengthy
sales cycle, limited marketing and sales experience, dependence on timely and
adequate levels of third-party reimbursement, CPT code implementation delays and
delays in reimbursement, risks associated with potential Year 2000 software
disruptions involving the products and systems of the Company and certain third
party customers, suppliers and payors of the Company, a limited operating
history, risks associated with commercialization, a history of losses, potential
fluctuations in future quarterly results, intense competition, potential
liabilities and costs associated with existing or future litigation, limited
manufacturing experience, uncertainty of additional applications and dependence
on single source suppliers. Such factors, among other risks detailed in the
Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1997
filed with the Securities and Exchange Commission, may have a material adverse
effect upon the Company's business, results of operations and financial
condition. Because of these and other factors, past financial performance should
not be considered an indication of future performance.
15
PART II OTHER INFORMATION
Item 1. Legal Proceedings.
-----------------
On April 15, 1997, the Company commenced a lawsuit against Neuromedical
Systems, Inc. ("NSI"), The PIE Mutual Insurance Company ("PIE"), Cytology West,
Inc. ("CWI") and other parties in the United States District Court in
Massachusetts (Civil Action No. 97-10740). The action was voluntarily dismissed
without prejudice as to certain defendants, and dismissed as to the remaining
defendants following the court's determination that personal jurisdiction was
lacking.
The Company refiled its suit against NSI and two of its officers in the United
States District Court for the Southern District of New York on June 24, 1997
(Civil Action No. 97 CIV 4642). On October 19, 1998, the Company announced that
the parties had settled the litigation. The terms of the settlement were not
disclosed.
The Company also refiled its suit against PIE and its medical director in the
United States District Court for the Northern District of Ohio, Eastern Division
on July 3, 1997 (Civil Action No. 1:97 CV 1779). The complaint alleges false
and misleading description and representation, unfair and deceptive trade
practices, interference with advantageous relationships, defamation and
commercial disparagement. The Company is seeking injunctive relief as well as
damages, including treble damages. On September 2, 1997, the defendants filed
an answer and affirmative defenses to the Company's claims, denying liability.
Defendants filed a motion to dismiss the action on March 13, 1998. The case is
in discovery.
On May 14, 1997, CWI, a defendant in the Company's original lawsuit in
Massachusetts, filed suit against the Company in the United States District
Court for the District of Nevada (Civil Action No. CV-S- 97-00594-LDG (LRL)),
alleging false description, false representation and unfair competition. On
June 27, 1997, the Company filed a motion to dismiss the complaint. The Court
granted the Company's motion as to one count of CWI's complaint, but denied the
Company's motion as to the remainder of CWI's complaint. On August 6, 1997, the
Company filed counterclaims against CWI and third party claims against its
President, including claims for false and misleading description and
representation, unfair competition, interference with advantageous
relationships, defamation, commercial disparagement and abuse of process. On
August 26, 1997, CWI and its President filed an answer and affirmative defenses
to the Company's counterclaims, denying liability. On January 23, 1998, the
Company voluntarily withdrew its claim for abuse of process. While the outcome
of the action cannot be determined, the Company believes the claims against the
Company are without merit, and intends to defend against those claims
vigorously.
Each of the above pending actions are in discovery and, accordingly, the
Company is unable to determine the extent of its liability, if any, or the
likelihood of prevailing in such actions.
On August 10, 1998, the Company was served with a complaint filed in the
Delaware Chancery Court in a matter entitled Blazin v. Cytyc, et. al. (Civil
------------------------
Action No. 16571-NC), alleging that the continuing director or "dead hand"
provision of the Company's shareholder rights plan violates Delaware law. On
June 22, 1998, the Company had amended its shareholder rights plan, deleting the
dead hand provision in its entirety. The lawsuit was dismissed pursuant to a
notice of voluntary dismissal filed on August 24, 1998.
Item 5. Other Information.
-----------------
Proposals of stockholders intended for inclusion in the proxy statement to be
furnished to all stockholders entitled to vote at the next annual meeting of
stockholders of the Company must be received at the Company's principal
executive offices not later than December 4, 1998. The Company's by-laws
establish an advance notice procedure with regard to proposals that stockholders
otherwise desire to introduce at the annual meeting without inclusion in the
Company's proxy statement for that meeting. Written notice of such stockholder
proposals for the next annual meeting of the Company must be received by the
Secretary of the Company at the Company's principal executive offices not later
than the close of business on December 4, 1998 and not earlier than the close of
business on November 4, 1998 in order to be considered timely, and must contain
specified information concerning the matters proposed to be brought before such
meeting and concerning the stockholder proposing such matters. The matters
proposed to be brought before the meeting also must be proper matters for
stockholder action.
16
Item 6. Exhibits and Reports on Form 8-K.
--------------------------------
(a) Exhibits
--------
27 Financial Data Schedule
(b) Reports on Form 8-K
--------------------
There were no reports on Form 8-K filed by the Company for the
quarter ended September 30, 1998.
17
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.
CYTYC CORPORATION
Date: November 16, 1998 By: /s/ Joseph W. Kelly
--------------------------------------
Joseph W. Kelly
Vice President, Chief Financial
Officer (Principal Financial
and Accounting
Officer)
18
EXHIBIT INDEX
Exhibit
Number Description Page
- ------- ----------- ----
27 Financial Data Schedule 20