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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 June 30, 1999
( ) 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 of incorporation or (I.R.S. Employer
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 August 10,
1999 was 17,856,999.
Total Number of Pages: 19
Exhibit Index is on Page 18
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1
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CYTYC CORPORATION
INDEX TO FORM 10-Q
------------------
Page
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Part I Financial Information
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets as of
December 31, 1998 and June 30, 1999 3
Consolidated Statements of Operations
for the three and six months ended June 30, 1998 and 1999 4
Consolidated Statements of Cash Flows
for the three and six months ended June 30, 1998 and 1999 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 9
Item 3. Quantitative and Qualitative Disclosures About Market Risk 14
Part II Other Information
Item 1. Legal Proceedings 15
Item 4. Submission of Matters to a Vote of Security Holders 15
Item 5. Other Information 15
Item 6. Exhibits and Reports on Form 8-K 15
Signature 17
2
Part I Financial Information
Item 1. Consolidated Financial Statements
CYTYC CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands)
December 31, June 30,
1998 1999
----------- ----------
ASSETS
Current assets:
Cash and cash equivalents.............................................................. $ 33,566 $ 43,241
Short-term investments................................................................. 36,342 26,775
Accounts receivable, net............................................................... 12,548 16,140
Inventories............................................................................ 3,973 4,381
Prepaid expenses and other current assets.............................................. 650 1,106
-------- --------
Total current assets.............................................................. 87,079 91,643
Property and equipment, net................................................................. 8,825 10,111
Other assets................................................................................ 1,833 1,695
-------- --------
Total assets...................................................................... $ 97,737 $103,449
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable....................................................................... $ 2,555 $ 4,200
Accrued expenses....................................................................... 7,962 9,707
Deferred revenue....................................................................... 1,413 1,570
-------- --------
Total current liabilities......................................................... 11,930 15,477
-------- --------
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: 17,798,595 in 1998 and 17,848,920 in 1999................... 178 178
Additional paid-in capital............................................................. 166,431 166,858
Accumulated other comprehensive income................................................. 106 160
Accumulated deficit.................................................................... (80,908) (79,224)
-------- --------
Total stockholders' equity........................................................ 85,807 87,972
-------- --------
Total liabilities and stockholders' equity........................................ $ 97,737 $103,449
======== ========
See accompanying notes.
3
CYTYC CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
Three Months Ended Six Months Ended
June 30, June 30,
1998 1999 1998 1999
------------ ------------ ------------ ------------
Net sales............................................................. $ 9,225 $18,831 $ 17,282 $35,036
Cost of sales......................................................... 2,481 3,938 4,770 7,471
------- ------- -------- -------
Gross profit..................................................... 6,744 14,893 12,512 27,565
------- ------- -------- -------
Operating expenses:
Research and development......................................... 2,281 3,379 4,153 5,580
Sales, marketing and customer support............................ 9,950 10,660 18,859 19,821
General and administrative....................................... 3,351 1,841 6,024 3,436
------- ------- -------- -------
Total operating expenses.................................... 15,582 15,880 29,036 28,837
------- ------- -------- -------
Loss from operations.................................................. (8,838) (987) (16,524) (1,272)
Other income:
Interest income.................................................. 1,104 907 2,292 1,849
Other income..................................................... -- 1,107 -- 1,107
------- ------- -------- -------
Total other income.......................................... 1,104 2,014 2,292 2,956
------- ------- -------- -------
Net income (loss)..................................................... $(7,734) $ 1,027 $(14,232) $ 1,684
======= ======= ======== =======
Net income (loss) per common and potential common share:
Basic............................................................ $ (0.44) $ 0.06 $ (0.81) $ 0.09
======= ======= ======== =======
Diluted.......................................................... $ (0.44) $ 0.06 $ (0.81) $ 0.09
======= ======= ======== =======
Weighted average common and potential common shares outstanding:
Basic................................................................. 17,621 17,830 17,584 17,819
Diluted............................................................... 17,621 18,428 17,584 18,430
See accompanying notes.
4
CYTYC CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
Three Months Six Months
Ended Ended
June 30, June 30,
1998 1999 1998 1999
----------- ----------- ----------- -----------
Cash flows from operating activities:
Net income (loss)................................................. $(7,734) $ 1,027 $(14,232) $ 1,684
Adjustments to reconcile net income (loss) to net cash (used in)
provided by operating activities
Depreciation and amortization................................ 363 440 723 797
Provision for doubtful accounts.............................. -- -- 150 --
Compensation related to issuance of stock to directors....... -- 2 -- 95
Changes in assets and liabilities--
Accounts receivable...................................... 953 (3,294) 3,652 (3,592)
Inventories.............................................. 278 (278) (1,006) (408)
Prepaid expenses and other current assets................ (587) (677) (339) (456)
Accounts payable......................................... (1,067) 1,577 (1,274) 1,645
Accrued expenses......................................... 2,467 1,357 1,646 1,745
Deferred revenue......................................... (227) 111 (206) 157
------- -------- -------- --------
Net cash (used in) provided by operating activities.. (5,554) 265 (10,886) 1,667
------- -------- -------- --------
Cash flows from investing activities:
(Increase)decrease in other assets................................ 215 (10) 111 138
Purchases of property and equipment............................... (953) (972) (2,625) (2,083)
Purchases of short-term investments............................... (3,999) (11,072) (10,480) (24,773)
Proceeds from maturity of short-term investments.................. 15,044 12,467 32,183 34,213
------- -------- -------- --------
Net cash provided by investing activities............ 10,307 413 19,189 7,495
------- -------- -------- --------
Cash flows from financing activities:
Proceeds from exercise of stock options and warrants.............. 454 241 735 294
Proceeds from issuance of shares under Employee Stock
Purchase Plan.................................................... 111 37 111 37
------- -------- -------- --------
Net cash provided by financing activities............ 565 278 846 331
------- -------- -------- --------
Net increase in cash and cash equivalents............................. 5,318 956 9,149 9,493
Effect of exchange rates on cash...................................... -- 182 -- 182
Cash and cash equivalents, beginning of period........................ 51,035 42,103 47,204 33,566
------- -------- -------- --------
Cash and cash equivalents, end of period.............................. $56,353 $ 43,241 $ 56,353 $ 43,241
======= ======== ======== ========
Supplemental disclosure of non-cash items:
Changes in unrealized holding gain (loss) on short-term investments.. -- $ (83) $ 106 $ (128)
======= ======== ======== ========
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, 1998 (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), Cytyc
Canada Ltd. (a Canadian Corporation), Cytyc (UK) Limited (a United Kingdom
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, certificates of
deposit, 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. At June 30, 1999, the Company's available-for-sale securities had
contractual maturities that expire at various dates through April 2000. The fair
value of available-for-sale securities was determined based on quoted market
prices at the reporting date for those securities. Available-for-sale securities
are shown in the consolidated financial statements at fair market value. At June
30, 1999 and December 31, 1998, the amortized cost basis, aggregate fair value
and gross unrealized holding gains (losses) by major security type were as
follows:
6
CYTYC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Amortized Gross Fair
--------- ----- ----
Cost Unrealized Value
---- ---------- -----
Holding
-------
Gains
-----
(Losses)
--------
(in thousands)
June 30, 1999
- -------------
Available-for-sale securities
U.S. Government and Agency securities (average
maturity of 4.9 months)........................................... $22,420 (18) $22,402
Commercial Paper (average maturity of 1.8 months)................. 4,377 (4) 4,373
------- --- -------
$26,797 (22) $26,775
======= === =======
December 31, 1998
- -----------------
Available-for-sale securities
U.S. Government and Agency securities (average
maturity of 4.4 months)........................................... $31,767 105 $31,872
Certificates of Deposit (average maturity of 3.8 months).......... 2,999 -- 2,999
Commercial Paper (average maturity of 4.6 months)................. 1,470 1 1,471
------- --- -------
$36,236 106 $36,342
======= === =======
(5) Inventories
Inventories are stated at the lower of cost (first-in, first-out) or market
and consist of the following:
December 31, June 30,
------------ ------------
1998 1999
---- ----
(in thousands)
Raw material and work-in-process............... $1,680 $1,885
Finished goods................................. 2,293 2,496
------ ------
$3,973 $4,381
====== ======
(6) Net Income (Loss) Per Common Share
The Company applies SFAS No. 128, Earnings per Share, which requires
companies to report both basic and diluted per share data, for all periods for
which an income statement is presented. Basic earnings (loss) per share is
computed by dividing net income (loss) by the weighted average number of common
shares outstanding. Diluted earnings (loss) 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 (loss) per share is computed by dividing net income (loss) by
weighted average number of common shares and potential common shares from
outstanding stock options. Potential common shares are calculated using the
treasury stock method and represent incremental shares issuable upon exercise of
the Company's outstanding options. For the quarter and six months ended June 30,
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 denominators
used in calculating basic and diluted earnings (loss) per share for the three
and six months ended June 30, 1998 and 1999.
7
CYTYC CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Three Months Ended Six Months Ended
June 30, June 30,
1998 1999 1998 1999
------ ------ ------- ------
Basic weighted average common shares outstanding............. 17,621 17,830 17,584 17,819
Dilutive effect of assumed exercise of stock options......... -- 598 -- 611
------ ------ ------ ------
Weighted average common shares outstanding assuming dilution. 17,621 18,428 17,584 18,430
====== ====== ====== ======
Diluted weighted average shares outstanding excludes 1,314,587 and 676,154
potential common shares from stock options outstanding for the three months
ended June 30, 1998 and 1999, respectively, and 1,343,008 and 599,725 potential
common shares from stock options and warrants outstanding for the six months
ended June 30, 1998 and 1999, as their effect would be anti-dilutive.
(7) Reporting Comprehensive Income
The Company follows the provisions of SFAS No. 130, Reporting Comprehensive
Income. 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
six months ended June 30, 1998 and two such items in 1999, an unrealized holding
loss on marketable securities, totaling approximately $(22,000) and foreign
currency translation adjustments totaling $182,000.
(8) Legal Proceedings
The Company filed a suit against the PIE Mutual Insurance Company ("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 alleged false and misleading description and
representation, unfair and deceptive trade practices, interference with
advantageous relationships, defamation and commercial disparagement. On May 25,
1999, the parties settled the litigation. Terms of the settlement were not
disclosed.
On May 14, 1997, Cytology West, Inc. ("CWI") 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 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 June 25, 1999 the parties settled the litigation. Terms of the
settlement were not disclosed.
8
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(R) System
consists of the ThinPrep(R) 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 2000 Processor and related
reagents 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 2000 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 papillomavirus
("HPV") directly from a single vial of patient specimen collected in a ThinPrep
solution using the Hybrid Capture HPV I DNA Assay of Digene Corporation. In
March 1999, the FDA approved the use of Hybrid Capture II DNA Assay from a
single vial of patient specimen collected in ThinPrep solution. The Company
commenced the full-scale commercial launch of the ThinPrep System for cervical
cancer screening in the United States in 1997 and in selected international
markets in 1998.
Since inception, the Company had 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 may experience losses in the future as it expands its domestic and
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 depending on a number of factors, including the extent to
which the Company's products continue to gain market acceptance, the rate and
size of expenditures incurred as the Company expands its domestic and
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 automated customized equipment for the
high-volume manufacture of disposable filters for use in connection with the
ThinPrep System.
The cost per ThinPrep Pap Test, plus a laboratory mark-up, is generally
billed by laboratories to third-party payors and results in a higher amount for
the ThinPrep Pap Test than the current billing for conventional Pap tests.
Successful sales of the ThinPrep System for cervical cancer screening in the
United States and other countries will depend on the availability of adequate
reimbursement from third-party payors such as private insurance plans, managed
care organizations and Medicare and Medicaid. In the United States, the current
rate of reimbursement to 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.
Although health insurance companies have added the ThinPrep(R) Pap Test(TM) 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.
In the past, the Company has offered discounts to laboratory customers 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.
Since January 1, 1998, the Company's laboratory customers have been able to
request reimbursement for the ThinPrep Pap Test from health insurance companies
and the USHCFA (United States Health Care Financing Administration) using a
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 single CPT code replaced the
non-specific, two-code
9
description used during 1997 and is expected to facilitate reimbursement to the
Company's laboratory customers for their use of the ThinPrep Pap Test. Initial
delays in the implementation of the new CPT code by third-party payors, however,
resulted in delayed reimbursement to the Company's laboratory customers in the
first half of 1998. 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 with current
laboratory customers and health insurance companies to facilitate reimbursement
under the new CPT code. As of June 30, 1999, based on information provided to
the Company, the Company believes that all of the 149 health insurance companies
which announced coverage of 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 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. During 1997, the Company entered into a co-promotion agreement with
Mead Johnson & Company ("Mead Johnson"), a division of Bristol-Myers Squibb
Company, to promote the ThinPrep Pap Test to obstetricians and gynecologists in
the United States. The Mead Johnson agreement expired on December 31, 1998;
however, Mead Johnson will receive a residual payment in February 2000 based on
1999 product sales. In January 1999, the Company announced its intention to
employ 75 additional direct sales personnel to promote its products directly to
physicians. As of June 30, 1999, all 75 of such sales personnel had been
employed or otherwise engaged by the Company. There can be no assurance that
the Company's current and planned marketing, sales and customer support
activities will result in increased net sales, 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 increase 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 June 30, 1999 and 1998
Net sales increased to $18.8 million in the second quarter of 1999 from
$9.2 million for the same period of 1998, an increase of 104%. The increase was
primarily due to increased sales of the Company's ThinPrep Pap Test for cervical
cancer screening in the United States. Gross profit increased to $14.9 million
in the second quarter of 1999 from $6.7 million for the same period of 1998, an
increase of 121%, and the gross margin increased to 79% in the second quarter of
1999 from 73% for the same period of 1998. Management attributes the increase in
gross margin in 1999 primarily to increased sales of the higher gross margin
ThinPrep Pap Test in the United States as compared to domestic sales of the
ThinPrep 2000 Processor or international sales of either Tests or Processors.
Total operating expenses increased slightly to $15.9 million in the second
quarter of 1999 from $15.6 million for the same period of 1998, an increase of
2%. Research and development costs increased to $3.4 million in the second
quarter of 1999 from $2.3 million for the same period of 1998, an increase of
48%, primarily as a result of engineering costs associated with the Company's
ThinPrep Imaging System(TM) development activities and clinical trials for the
ThinPrep(R) 3000 Processor which commenced in April 1999. The Company expects
that research and development expenses will increase in the succeeding quarters
as a result of the development costs for the imaging system. Sales, marketing
and customer support costs increased slightly to $10.7 million in the second
quarter of 1999 from $10.0 million for the same period of 1998, an increase of
7%. This increase reflects increased expenses associated with the international
promotion of the ThinPrep technology. The Company expects that selling and
marketing costs will increase in succeeding quarters as a result of increased
expenditure for marketing and employment costs of additional sales personnel.
General and administrative costs decreased to $1.8 million in the second quarter
of 1999 from $3.4 million for the same period of 1998, a decrease of 45%,
primarily due to decreased legal expenses associated with litigation.
Net interest income decreased to $0.9 million in the second quarter of 1999
from $1.1 million for the same period of 1998, a decrease of 18%, due to both a
decrease in the average cash balances available for investment and lower
interest rates. The Company also recorded $1.1 million in other income during
the second quarter of 1999 resulting from favorable settlement of certain
litigation.
10
Six Months Ended June 30, 1999 and 1998
Net sales increased to $35.0 million in the first six months of 1999 from
$17.3 million for the same period of 1998, an increase of 103%. The increase was
primarily due to increased sales of the Company's ThinPrep Pap Test for cervical
cancer screening in the United States. Gross profit increased to $27.6 million
in the first six months of 1999 from $12.5 million for the same period of 1998,
an increase of 120%, and the gross margin increased to 79% in the first six
months of 1999 from 72% for the same period of 1998. Management attributes the
increase in gross margin in 1999 primarily to increased sales of the higher
gross margin ThinPrep Pap Test in the United States as compared to domestic
sales of the ThinPrep 2000 Processor or international sales of either Tests or
Processors.
Total operating expenses were approximately $29 million in both the first
six months of 1999 and 1998. Research and development costs increased to $5.6
million in the first six months of 1999 from $4.2 million for the same period of
1998, an increase of 34%, primarily as a result of engineering costs associated
with the Company's ThinPrep Imaging System development activities. Sales,
marketing and customer support costs increased to $19.8 million in the first six
months of 1999 from $18.9 million for the same period of 1998, an increase of
5%. This increase reflects increased expenses associated with the international
promotion of the ThinPrep technology. General and administrative costs decreased
to $3.4 million in the first six months of 1999 from $6.0 million for the same
period of 1998, a decrease of 43%, primarily due to decreased legal expenses
associated with litigation.
Net interest income decreased to $1.8 million in the first six months of
1999 from $2.3 million for the same period of 1998, a decrease of 19%, due to
both a decrease in the average cash balances available for investment and lower
interest rates. The Company also recorded $1.1 million in other income during
the first six months of 1999 resulting from favorable settlement of certain
litigation.
Liquidity and Capital Resources
Since inception, the Company's expenses have significantly exceeded its
revenue, resulting in an accumulated deficit of $79.2 million as of June 30,
1999. The Company has funded its operations primarily through the private
placement and public sale of equity securities aggregating $165.4 million, net
of offering expenses. At June 30, 1999, the Company had cash, cash equivalents
and short-term investments of $70.0 million. Cash provided by the Company's
operations during the second quarter of 1999 was $0.3 million compared to $5.6
million in cash used during the second quarter of 1998.
Net accounts receivable increased by $3.6 million to approximately $16.1
million during the first six months of 1999 which was due to a significant
growth in revenue during the first six months of the year.
The Company's capital expenditures for the quarters ended June 30, 1999 and
1998 were approximately equal.
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, the extent to
which such activities generate market acceptance and demand for the ThinPrep
System for cervical cancer screening and additional applications of its ThinPrep
technology. The Company's liquidity and capital requirements will also depend
upon the progress of the Company's research and development programs to develop
follow-on products including the ThinPrep 3000(R) Processor and ThinPrep Imaging
System, the receipt of and the time required to obtain regulatory clearances and
approvals, and the resources the Company devotes to developing and manufacturing
its products. In addition, the Company's capital requirements will depend on the
extent of potential liabilities, if any, and costs associated with any 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
11
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, which evaluation
includes 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
in clinical trials. 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 has implemented, tested and
validated all existing system updates during the second quarter of 1999 and will
continue this process with any new system updates it receives. 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 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 has
developed 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 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
completed its initial program focused on determining the year 2000 readiness of
its significant third-party payors, laboratory customers and critical suppliers
and will continue its dialog with those organizations whose compliance processes
were incomplete, until it secures appropriate assurances. There can be no
assurance that any information provided by such entities ensures that their
respective systems and products are year 2000 compliant. 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
12
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 first six months of fiscal 1999 to address
year 2000 compliance efforts were approximately $55,000. The Company estimates
it will incur up to approximately $35,000 during the remainder of 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 and outside consulting to review the Company's year 2000 program.
Because the Company's year 2000 compliance efforts are 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.
The Company is in the process of finalizing a year 2000 contingency plan
which began with an initial assessment to determine the status of all mission
critical systems. The plan includes an assessment of possible contingencies and
responsive remediation plans if any of these systems are determined to have year
2000 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, laboratory
customers and suppliers 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 party
payors, laboratory customers and suppliers, 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 Economic
and Monetary Union established fixed conversion rates between their existing
sovereign currencies and the Euro, and adopted the Euro as their common legal
currency. The Euro is currently being traded on currency exchanges and is
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 7% of its revenues from sales of the ThinPrep System to customers
in countries which have converted 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 and is ongoing, however,
13
there can be no assurance that such issues and their related costs will not have
a material adverse effect on the Company's business, financial condition and
results of operations.
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, risks associated
with the Euro conversion, potential liabilities and costs associated with any
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, 1998 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.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
----------------------------------------------------------
Derivative Financial Instruments, Other Financial Instruments, and
Derivative Commodity Instruments. The Company does not participate in derivative
financial instruments, other financial instruments for which the fair value
disclosure would be required under SFAS No. 107, or derivative commodity
instruments. All of the Company's investments are in short-term, investment-
grade commercial paper and U.S. Government and agency securities that are
carried at fair value on the Company's books. Accordingly, the Company has no
quantitative information concerning the market risk of participating in such
investments.
Primary Market Risk Exposures. The Company's primary market risk exposures
are in the areas of interest rate risk and foreign currency exchange rate risk.
The Company's investment portfolio of cash equivalents is subject to interest
rate fluctuations, but the Company believes this risk is immaterial due to the
short-term nature of these investments. The Company's business outside the
United States is conducted in local currency transactions. The Company has no
foreign exchange contracts, option contracts, or other foreign hedging
arrangements. However, the Company estimates that any market risk associated
with its foreign operations is not significant and is unlikely to have a
material adverse effect on the Company's business, results of operations, or
financial condition.
14
PART II OTHER INFORMATION
Item 1. Legal Proceedings.
-----------------
The Company filed a suit against the PIE Mutual Insurance Company ("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 alleged false and misleading description and
representation, unfair and deceptive trade practices, interference with
advantageous relationships, defamation and commercial disparagement. On May 25,
1999, the parties settled the litigation. Terms of the settlement were not
disclosed.
On May 14, 1997, Cytology West, Inc. ("CWI") 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 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 June 25, 1999 the parties settled the litigation. Terms of the
settlement were not disclosed.
Item 4. Submission of Matters to a Vote of Security Holders.
---------------------------------------------------
At the Company's Annual Meeting of stockholders held on May 4, 1999 (the
"1999 Annual Meeting"), the Company's stockholders took the following actions:
1. The Company's stockholders elected Monroe E. Trout, M.D. and Anna S.
Richo as Class III directors, each to serve for a three-year term
expiring at the Company's annual meeting of stockholders in 2002, or
until his or her successor has been duly elected and qualified or
until his or her earlier resignation or removal. Election of the
directors was determined by a plurality of the votes cast at the 1999
Annual Meeting. With respect to such matter, the votes were cast as
follows: 16,143,199 shares were voted for the election of Dr. Trout,
16,142,599 shares were voted for the election of Ms. Richo, 27,738
shares were withheld from the election of Dr. Trout and 28,338 shares
were withheld from the election of Ms. Richo. No other persons were
nominated, or received votes, for election as directors of the Company
at the 1999 Annual Meeting. The other directors of the Company whose
terms of office continued after the 1999 Annual Meeting were: Sally W.
Crawford, Franklin J. Iris, William G. Little, C. William McDaniel,
and Patrick J. Sullivan.
2. The Company's stockholders ratified the selection of Arthur Andersen
LLP, independent certified public accountants, as auditors for the
Company's fiscal year ending December 31, 1999. With respect to such
matter, the votes were cast as follows:16,143,793 shares were voted
for the proposal, 13,629 shares were voted against the proposal,
13,515 shares were abstained from voting on the proposal and no shares
were broker non-votes.
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 2000 annual meeting of
stockholders of the Company must be received at the Company's principal
executive offices not later than December 7, 1999. 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 7, 1999 and not earlier than the close of
business on November 7, 1999 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.
Item 6. Exhibits and Reports on Form 8-K.
--------------------------------
(a) Exhibits
--------
15
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 June 30, 1999.
16
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: August 13, 1999 By: /s/ Joseph W. Kelly
--------------------
Joseph W. Kelly
Vice President, Chief Financial Officer
and Treasurer
(Principal Financial and Accounting
Officer)
17
EXHIBIT INDEX
Exhibit
Number Description Page
- ------ ----------- ----
27 Financial Data Schedule 19
18