UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1999.
OR
[ ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _______TO _______.
COMMISSION FILE NO.
SYMPHONIX DEVICES, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 77-0376250
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
2331 Zanker Road
SAN JOSE, CALIFORNIA 95131-1107
(Address of principal executive offices, including zip code)
(408) 232-0710
(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
----- ---
As of October 31, 1999, 12,441,949 shares of the Registrant's Common Stock were
outstanding.
SYMPHONIX DEVICES, INC.
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited)
Condensed Consolidated Balance Sheets as of September 30, 1999 and
December 31, 1998....................................................1
Condensed Consolidated Statements of Operations for the three months
and nine months ended September 30, 1999 and 1998....................2
Condensed Consolidated Statements of Comprehensive Loss for the nine
months ended September 30, 1999 and 1998.............................3
Condensed Consolidated Statements of Cash Flows for the nine months
ended September 30, 1999 and 1998....................................4
Notes to Condensed Consolidated Financial Statements.................5
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations................................................6
Item 3. Quantitative and Qualitative Disclosures About Market Risk..........26
PART II. OTHER INFORMATION
Item 1. Legal Proceedings...................................................26
Item 2. Changes in Securities and Use of Proceeds...........................26
Item 3. Defaults Upon Senior Securities.....................................26
Item 4. Submission of Matters to a Vote of Security Holders.................26
Item 5. Other Information...................................................27
Item 6. Exhibits............................................................27
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
SYMPHONIX DEVICES INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
(unaudited)
September 30, December 31,
1999 1998
-------------------- ------------------------
ASSETS
Current assets:
Cash and cash equivalents $ 7,816 $ 3,401
Short-term investments 5,954 21,916
Accounts receivable, net 93 228
Inventories 971 761
Prepaid expenses and other current assets 340 211
-------- --------
Total current assets 15,174 26,517
Property and equipment, net 1,673 2,100
Other assets 79 78
-------- --------
Total assets $ 16,926 $ 28,695
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 271 $ 684
Accrued compensation 1,192 1,060
Other accrued liabilities 1,496 751
Current portion of bank borrowings 375 -
Current portion of capital lease obligations 111 227
-------- --------
Total current liabilities 3,445 2,722
Capital lease obligations, less current portion 24 98
Bank borrowings, less current portion 1,625 2,000
-------- --------
Total liabilities 5,094 4,820
-------- --------
Stockholders' equity:
Common stock 12 12
Notes receivable from stockholders (1,019) (484)
Deferred compensation (1,100) (1,517)
Additional paid-in capital 58,380 58,040
Accumulated other comprehensive loss (45) (26)
Accumulated deficit (44,396) (32,150)
-------- --------
Total stockholders' equity 11,832 23,875
-------- --------
Total liabilities and stockholders' equity $ 16,926 $ 28,695
======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements
-1-
SYMPHONIX DEVICES INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
(unaudited)
Three months ended September 30, Nine months ended September 30,
---------------------------------- --------------------------------------
1999 1998 1999 1998
-------------- ------------------ ------------------ ------------------
Revenue $ 73 $ 242 $ 224 $ 327
Costs and expenses:
Cost of goods sold 891 709 2,771 1,076
Research and development 2,088 1,990 5,819 5,528
Selling, general and administrative 1,506 1,493 4,458 3,987
------- ------- -------- --------
Operating loss (4,412) (3,950) (12,824) (10,264)
Interest income 171 421 654 1,151
Interest expense (15) (41) ( 76) (102)
------- ------- -------- --------
Net loss $(4,256) $(3,570) $(12,246) $ (9,215)
======= ======= ======== ========
Basic and diluted net loss per common share $(0.35) $(0.29) $(1.00) $(0.87)
======= ======= ======== ========
Shares used in computing basic and diluted
net loss per common share 12,338 12,170 12,264 10,582
======= ======= ======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements
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SYMPHONIX DEVICES INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS
(in thousands)
(unaudited)
Three months ended September 30, Nine months ended September 30,
----------------------------------- ----------------------------------
1999 1998 1999 1998
----------------- ---------------- ----------------- ---------------
Net loss $(4,256) $(3,570) $(12,246) $(9,215)
Unrealized gains (losses) on short-term investments (6) 7 (36) 6
Translation adjustments 16 (4) 17 (14)
---------------- --------------- ---------------- --------------
Comprehensive loss $(4,246) $(3,567) $(12,265) $(9,223)
================ =============== ================ ==============
The accompanying notes are an integral part of these condensed consolidated financial statements.
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SYMPHONIX DEVICES INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
Nine months ended September 30,
--------------------------------------------
1999 1998
--------------------- ---------------------
Cash flows from operating activities:
Net loss $(12,246) $ (9,215)
Adjustments to reconcile net loss to cash used in
operating activities:
Amortization of deferred compensation 417 417
Depreciation and amortization 585 486
Changes in operating assets and liabilities:
Accounts receivable 135 (214)
Inventories (210) (430)
Prepaid expenses and other current assets (129) 206
Accounts payable (413) 362
Accrued compensation 132 76
Other accrued liabilities 745 (307)
-------- --------
Net cash used in operating activities (10,984) (8,619)
-------- --------
Cash flows from investing activities
Purchases of short-term investments (3,150) (28,056)
Maturities of short-term investments 19,112 16,248
Purchases of property and equipment (158) (1,378)
Change in other assets (1) (2)
-------- --------
Net cash provided by (used in) investing activities 15,803 (13,188)
-------- --------
Cash flows from financing activities
Payments on capital lease obligations (190) (242)
Proceeds from bank borrowings 6,000 6,000
Payments on bank borrowings (6,000) (6,000)
Payments received on notes receivable
from stockholders - 15
Proceeds from issuance of common stock, net 115 28,433
Issuance of notes receivables to stockholders (310) -
-------- --------
Net cash provided by (used in) financing activities (385) 28,206
-------- --------
Net increase in cash and cash equivalents 4,434 6,399
Effect of exchange rates on cash and cash equivalents (19) (14)
Cash and cash equivalents, beginning of period 3,401 4,908
-------- --------
Cash and cash equivalents, end of period $ 7,816 $ 11,293
-------- --------
The accompanying notes are an integral part of these condensed consolidated financial statements
-4-
SYMPHONIX DEVICES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation:
The accompanying unaudited condensed consolidated financial statements as of
September 30, 1999 of Symphonix Devices, Inc. (the "Company") have been prepared
in accordance with generally accepted accounting principles for interim
financial information and pursuant to the instructions to Form 10-Q and Article
10 of Regulation S-X. Accordingly, they do not include all of the information
and footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments, consisting
of normal recurring adjustments, considered necessary for a fair presentation
have been included. Operating results for the nine month period ended September
30, 1999 are not necessarily indicative of the results that may be expected for
the fiscal year ending December 31, 1999, or any future interim period.
These financial statements and notes should be read in conjunction with the
Company's audited financial statements for the year ended December 31, 1998 and
footnotes thereto, included in the Company's Annual Report on Form 10-K.
2. Computation of Basic and Diluted Net Loss per Common Share:
Basic and diluted net loss per common share are computed using the weighted
average number of shares of common stock outstanding. Common equivalent shares
from stock options, warrants, and preferred stock are excluded from the
computation of diluted net loss per common share, as their effect is
antidilutive.
Stock options and warrants to purchase 1,405,182 and 531,506 shares of common
stock at prices ranging from $0.14 to $10.50 per share were outstanding at
September 30, 1999 and 1998, respectively, but were not included in the
computation of diluted net loss per common share because they were antidilutive.
The aforementioned stock options and warrants could potentially dilute earnings
per share in the future.
3. Inventories:
Inventories comprise (in thousands):
September 30, 1999 December 31, 1998
--------------------- -------------------
Raw materials $116 $418
Work in Progress 590 182
Finished goods 265 161
---- ----
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$971 $761
==== ====
4. Recent Accounting Pronouncement:
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards ("SFAS") No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which establishes accounting and reporting
standards for derivative instruments and hedging activities. 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. The
Company, to date, has not engaged in derivative and hedging activities. The
Company will adopt SFAS No. 133 as required for its first quarterly filing of
the year 2001.
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion should be read in conjunction with the attached
condensed consolidated financial statements and footnotes thereto, and with the
Company's audited financial statements for the year ended December 31, 1998 and
the footnotes thereto. The information set forth below contains forward-looking
statements and the Company's actual results could differ materially from those
anticipated in these forward looking statements as a result of certain factors,
including those set forth below under "Factors That May Affect Future Results".
Overview
Symphonix Devices, Inc. ("Symphonix" or the "Company") is a developer of
proprietary semi-implantable and implantable products, or soundbridges, for the
management of moderate to severe hearing impairment. In 1994, mild to severe
hearing impairment affected approximately 26 million people in the United
States, or 10% of the population, of whom approximately 17 million people were
classified as moderately or severely hearing impaired. The Company believes that
its family of Vibrant soundbridges, designed to overcome the inherent
limitations of traditional hearing instruments, represent a novel approach in
the management of hearing impairment. The Company's initial products, the
Vibrant P, Vibrant D and Vibrant HF soundbridges, are semi-implantable devices
which mechanically drive the three small bones of the middle ear to overcome the
user's hearing impairment. The Vibrant P soundbridge is a second generation
product that is similar to the first generation Vibrant soundbridge but is
designed to permit a greater degree of customization to address the specific
needs of a particular user's hearing loss and expand the types of hearing loss
that can be managed by the Company's products. The Vibrant D soundbridge
incorporates digital signal processing and the Vibrant HF soundbridge is
designed for people with a noise-induced high frequency hearing loss.
In September 1996, the Company initiated clinical trials of the first
generation Vibrant soundbridge in both the United States and Europe. The
Company initiated clinical trials of the Vibrant P soundbridge in Europe in July
1997 and in the United States in March 1998. In November 1998, the Company
initiated clinical trials of the Vibrant HF soundbridge in both Europe and the
United States. The Company has received permission to affix the CE mark in the
European Union to the Vibrant P, Vibrant D and Vibrant HF soundbridges. Selling
activities were commenced for the
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Vibrant P soundbridge in March 1998 and for the Vibrant D soundbridge in June
1999. The Company plans to commence selling activities for the Vibrant HF
soundbridge in Europe after it has gathered clinical data on a limited number of
patients. In the United States, the Company has submitted a PMA pursuant to the
modular PMA process, which included data gathered in the clinical trial of the
Vibrant P and Vibrant D soundbridges. The Company has also submitted information
related to a manufacturing change recently implemented by the Company, and the
Company has proposed to enroll additional patients to provide safety data on
this manufacturing change. During the period of the FDA's review of the
application's fileability, the Company placed an applicant hold on such review
pending agreement of a final protocol for the safety follow-up of those patients
as a result of the manufacturing change. As of September 30, 1999, approximately
255 patients have been implanted with the Company's soundbridges.
Results of Operations
Revenue. Revenue was $73,000 in the three months ended September 30, 1999
compared to $242,000 in the three months ended September 30, 1998. Revenue was
$224,000 for the nine months ended September 30, 1999 compared to $327,000 for
the nine months ended September 30, 1998. Revenue in these periods was the
result of initial selling activities in Europe.
Cost of goods sold. Cost of goods sold increased from $709,000 for the
three months ended September 30, 1998 to $891,000 for the three months ended
September 30, 1999 and increased from $1.1 million for the nine months ended
September 30, 1998 to $2.8 million for the nine months ended September 30, 1999.
Cost of goods sold represents the direct cost of the products sold as well as
manufacturing variances and unabsorbed manufacturing overhead.
Research and Development Expenses. Research and development expenses were
$2.1 million in the three months ended September 30, 1999 compared to $2.0
million in the three months ended September 30, 1998. Expenses were $5.8
million for the nine months ended September 30, 1999 compared to $5.5 million
for the nine months ended September 30, 1998. The Company has incurred
substantial costs in both 1999 and 1998 on the clinical trials of its Vibrant
soundbridges. Research and development expenses consist primarily of personnel
costs, professional services, materials, supplies and equipment in support of
product development, clinical trials, regulatory submissions, and the
preparation and filing of patent applications.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses were $1.5 million in the three months ended September
30, 1999 compared to $1.5 million in the three months ended September 30, 1998
and were $4.5 million in the nine months ended September 30, 1999 compared to
$4.0 million for the nine months ended September 30, 1998. Selling, general and
administrative expenses consist primarily of personnel costs, promotional costs,
legal and consulting costs. These costs increased primarily due to costs
associated with the increased scope of the Company operations, including its
European sales and marketing organization. Commencing in 2000, the Company
expects to incur substantial expenses in developing a U.S. sales and marketing
organization.
Deferred compensation of $2.3 million was recorded in 1997, representing
the difference between the exercise prices of certain options granted and the
deemed fair value of the Company's common stock on the options grant dates.
Deferred compensation expense of $139,000 attributed to such options was
amortized during the quarter ended September 30, 1999. The remaining deferred
compensation will be amortized over the vesting period of the options (generally
four years).
-7-
Interest Income (Expense). Interest income, net of expense, decreased to
$156,000 in the three months ended September 30, 1999 from $380,000 in the three
months ended September 30, 1998 and decreased to $578,000 for the nine months
ended September 30, 1999 from $1,049,000 for the nine months ended September 30,
1998. These reductions in interest income were due to the reduction in the
Company's cash and short term investment balances. Interest earned in the
future will depend on the Company's funding cycles and prevailing interest
rates.
Income Taxes. As a result of the net losses incurred, the Company has not
incurred any U.S. income tax obligations. At December 31, 1998, the Company had
net operating loss carryforwards of $25 million for federal and $19 million for
state income tax purposes, which will expire at various dates through 2013 and
through 2003, respectively, if not utilized. The principal differences between
losses for financial and tax reporting purposes are the result of the
capitalization of research and development and start-up expenses for tax
purposes. United States federal and state tax laws contain provisions that may
limit the net operating loss carryforwards that can be used in any given year,
should certain changes in the beneficial ownership of the Company's shares
occur. Such events could limit the future utilization of the Company's net
operating loss carryforwards.
Liquidity and Capital Resources
Since inception, the Company has funded its operations and its capital
investments from proceeds from its initial public offering completed in February
1998 totaling $28.4 million, from the private sale of equity securities,
totaling $26.5 million, from equipment lease financing totaling $1.3 million and
from bank borrowings totaling, net, $2.0 million. At September 30, 1999, the
Company had $11.7 million in working capital, and its primary source of
liquidity was $13.8 million in cash, cash equivalents and short-term
investments.
Symphonix used $11.0 million in cash for operations in the nine months ended
September 30, 1999, compared to $8.6 million in the nine months ended September
30, 1998.
Capital expenditures, primarily related to the Company's research and
development and manufacturing activities, were $25,000 and $206,000 in the three
months ended September 30, 1999 and 1998, respectively and were $158,000 and
$1.4 million in the nine months ended September 30, 1999 and 1998, respectively.
At September 30, 1999, the Company did not have any material commitments for
capital expenditures.
In October 1997 the Company entered into a five-year lease for a new facility
that commenced in January 1998. During the quarter ended March 31, 1998, the
Company occupied the new facility and relocated its research and development and
administrative activities to the new facility. The relocation of manufacturing
activities to the new facility was completed in April 1998. Through December
31, 1998, the Company had incurred approximately $1.6 million in capital
expenditures on leasehold improvements and furniture and fixtures related to the
new facility.
The Company has a loan agreement with a bank providing for borrowings of up to
$2.0 million and for the issuance of letters of credit up to $250,000. At
September 30, 1999, the
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Company had borrowings of $2.0 million and an outstanding letter of credit in
the amount of $195,000 under the loan agreement. Borrowings under the loan
agreement are repayable over four years commencing in January 2000.
The Company will expend substantial funds in the future for research and
development, preclinical and clinical testing, capital expenditures and the
manufacturing, marketing and sale of its products. The timing and amount of
spending of such capital resources cannot be accurately predicted and will
depend on several factors, including the progress of its research and
development efforts and preclinical and clinical activities, competing
technological and market developments, the time and costs of obtaining
regulatory approvals, the time and costs involved in filing, prosecuting and
enforcing patent claims, the progress and cost of commercialization of products
currently under development, market acceptance and demand for the Company's
products if approved for marketing and other factors not within the Company's
control. The Company believes that its existing capital will be sufficient to
fund its operations and its capital investments through the first half of 2000.
Commencing in 2000, the Company expects to incur substantial expenses in
developing a U.S. sales and marketing organization. To fully develop such a
capability and to effectively launch its products commercially in the United
States, if approved by the U.S. Food and Drug Administration ("FDA"), the
Company expects that it will have to raise additional financing. There can be
no assurance that such additional financing will be available on a timely basis
on terms acceptable to the Company, or at all, or that such financing will not
be dilutive to stockholders. If adequate funds are not available, the Company
could be required to delay development or commercialization of certain of its
products, license to third parties the rights to commercialize certain products
or technologies that the Company would otherwise seek to commercialize for
itself, or reduce the marketing, customer support or other resources devoted to
certain of its products, any of which could have a material adverse effect on
the Company's business, financial condition and results of operations.
Year 2000 Compliance
The Company has initiated planning for issues related to the upcoming new
millennium. These issues derive from the use of software and hardware with
embedded chips or processors that use two digits to refer to a year and do not
properly recognize a year that begins with "20" instead of the familiar "19".
The use of such software and hardware occurs at many internal and external
points in the Company's development, supply, manufacturing and distribution
chain - both within the Company's internal operations as well as at important
external partners, such as vendors and customers.
The Company has developed a plan to address these issues and to enhance the
Company's readiness for Year 2000. The Company's plan (the "Year 2000 Readiness
Program") focuses on five areas: (1) network and facility infrastructure, (2)
business applications software, (3) process control systems, (4) external
partners, and (5) the Company's products. Within each area, the Year 2000
Readiness Program will involve (a) the identification of systems that may be
susceptible to Year 2000 issues (the "identification phase"), (b) the assessment
of the degree of readiness of those systems for the Year 2000 and an assessment
of the risks that may be posed to the Company's
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business (the "assessment phase"), (c) the remediation of problems that are
identified (the "remediation phase"), and (d) contingency planning.
Network and facility infrastructure: Included in this category are the
computer networks in the Company's San Jose, California headquarters and Basel,
Switzerland European headquarters (including servers, computers, other network
equipment and computer and network operating systems), together with general
facility systems such as telephone and security systems. The Company has
completed the identification and assessment phases and has partially completed
remediation of identified issues. The Company plans to complete the remaining
remediation efforts before the end of the fourth quarter of 1999. The cost of
such remediation efforts is not expected to be material. The Company will
carefully monitor the performance of its network and facility systems, but based
on its remediation efforts to date, does not anticipate a need for specific
contingency plans.
Business applications software: Included in this category are various
applications used in design, manufacturing, distribution and finance. The
Company's primary business application is a company-wide system used for
manufacturing planning, accounting, inventory management and sales transactions.
The Company has completed the identification and assessment phases. Regarding
the Company's primary business application, the Company has evaluated the
software developer's representation, has installed the version of the software
represented as being year 2000-compliant and has completed testing to verify
proper functioning of the software. This testing yielded satisfactory results
and the remediation is considered complete. For many other software
applications, the Company has, in the assessment phase, relied on the software
developer's representations regarding Year 2000 compliance of their software.
Remediation is substantially completed for these applications. There can be no
assurance, however, that software applications represented by developers as
being Year 2000 compliant will be free from Year 2000 errors and defects. The
Company intends to monitor the operation of its business applications to
identify as quickly as possible any Year 2000 errors that may arise.
Process control systems: Included in this category are instrumentation and
systems used in design and manufacturing processes. The Company has completed
the identification and assessment phases and has partially completed the
remediation phase. The Company plans to complete the remaining remediation
efforts during the fourth quarter of 1999. The Company plans to monitor system
operations closely to identify as quickly as possible any year 2000 errors and
defects.
External partners: The Company intends to assess the possible effects on its
operations of the Year 2000 compliance of certain relevant third parties, such
as customers and service providers by using questionnaires and interviews to
solicit information from these parties. In the event the Company identifies a
problem with respect to a particular vendor, then the Company may be forced to
identify alternative sources of supply. However, the Company's ability to seek
alternative sources of supply is subject to FDA restrictions and may involve
extensive validation processes. The failure to timely identify and validate an
alternative supplier could have a material adverse effect on the Company's
business, financial condition and results of operations. The Company has
completed the
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identification phase and has initiated the assessment phase. Contingency
planning, including the timing of procurement and production activities, will be
assessed during the fourth quarter of 1999.
Symphonix products: The Company's products are regulated by the FDA and the
FDA has advised manufacturers of medical devices to address readiness of their
products for year 2000 issues. The Company has completed a preliminary
assessment and has informed the FDA that the Company does not believe that any
of its existing products are susceptible to Year 2000 issues.
The Company does not expect to incur costs in its Year 2000 Readiness Program
that will be material to its business, financial condition or results of
operations. However, until the Company completes all phases of its program, the
full extent of the remediation costs will not be known and there can be no
assurance that such costs will not be material. The Company will utilize both
internal and external resources, such as consultants and professional advisors,
in implementing the Year 2000 Readiness Program and the Company currently
estimates that the external resources required during the identification,
assessment and remediation phases of the Year 2000 Readiness Program will cost
approximately $50,000. Because the Year 2000 Readiness Program is an ongoing
process, all cost estimates are subject to change. Specific contingency plans
will be developed upon completion of the assessment phases and may include
additional procurement of inventory to assure continued supply from vendors.
Although the Company intends to complete all phases of its Year 2000 Readiness
Program by December 31, 1999, there can be no assurance, even if this program is
successfully completed on schedule, that disruptions in the Company's business
will be avoided. The Year 2000 issues are pervasive in nature and involve
highly technical issues, not all of which are under the Company's control.
Possible consequences of Year 2000 issues that the Company is unable to
adequately identify, assess or remediate include but are not limited to: delays
in supplies from vendors, delays in shipment to customers, errors in processing
transactions, deficiencies in management of inventory, delays in collection of
funds from customers, and diversion of management time and effort to addressing
difficulties that emerge. The goal of the Company's Year 2000 Readiness Program
is to plan for and reduce the risk of such difficulties. There can be no
assurance that the Year 2000 Readiness Program will be completed in a timely
manner or will be successful.
Recent Accounting Pronouncement
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities," which
establishes accounting and reporting standards for derivative instruments and
hedging activities. 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. The Company, to date, has not engaged in
derivative and hedging activities. The Company will adopt SFAS No. 133 as
required for its first quarterly filing of the year 2001.
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Factors That May Affect Future Results
History of Losses and Expectation of Future Losses. At September 30, 1999,
the Company had an accumulated deficit of $44.4 million. Since the Company's
inception in 1994, substantially all of the Company's resources have been
dedicated to research and development, establishment of a European sales and
marketing organization and the initiation of sales and marketing activities in
Europe. The Company has received the authorization to affix the CE Mark to the
Vibrant P, Vibrant D and Vibrant HF soundbridges, permitting the initiation of
commercial sales in the European Union ("EU"). Although the Company has
commenced selling the Vibrant P and Vibrant D soundbridges in Europe, through
September 30,1999 the Company has not generated significant revenues from these
sales. The Company plans to commence selling the Vibrant HF soundbridge in
Europe after it has gathered clinical data on a limited number of patients. The
Vibrant HF soundbridge will require additional clinical testing prior to the
submission of a regulatory application for commercial use. All of the Company's
other products will require additional development, and preclinical and clinical
testing prior to the submission of a regulatory application for commercial use
internationally and domestically. Since the Company's Vibrant P and Vibrant D
soundbridges only recently became available for sale in the EU and are not
currently available for sale in the United States, significant product revenues
will not be realized for at least several years, if ever. The Company expects
its operating losses to continue at least through the year 2001 as it continues
to expend substantial funds for clinical trials in support of regulatory
approvals, expansion of research and development activities and establishment of
commercial-scale manufacturing and sales and marketing capabilities. There can
be no assurance that any of the Company's soundbridges will be successfully
commercialized internationally or in the United States or that the Company will
achieve significant revenues from product sales. In addition, there can be no
assurance that the Company will achieve or sustain profitability in the future.
The Company's results of operations may fluctuate from quarter to quarter or
year to year and will depend upon numerous factors, including action relating to
regulatory matters, progress of clinical trials, the timing and scope of
research and development efforts, the extent to which the Company's products
gain market acceptance or achieve reasonable reimbursement levels, the timing of
scale-up of manufacturing capabilities, the timing of expansion of sales and
marketing activities and competition.
Limited Clinical Testing Experience. In the United States, the Company
has received approval of an IDE and IDE supplements to conduct clinical trials
of the Vibrant, Vibrant P, Vibrant D and Vibrant HF soundbridges. In Europe,
the Vibrant P and Vibrant D soundbridges have been the subject of limited
clinical testing. The Company intends to conduct clinical testing of the
external components of the Vibrant HF soundbridge. The implanted components of
the Vibrant HF soundbridge is the same as the implanted components of the
Vibrant P and Vibrant D soundbridges which were tested in clinical trials
previously conducted by the Company in Europe. None of the Company's other
soundbridges under development have been tested in human clinical trials and
these soundbridges will require additional development, clinical trials and
regulatory approval prior to commercialization. The results from preclinical
studies and early clinical trials may not be indicative of results obtained in
later clinical trials, and there can be no assurance that clinical trials
conducted by the Company will demonstrate sufficient safety and efficacy to
obtain requisite approvals.
-12-
The rate of completion of the Company's clinical trials may be delayed by
many factors, including slower than anticipated patient enrollment or adverse
events occurring during clinical trials. Completion of preclinical and clinical
activities may take several years, and the length of time for completion of the
required studies is unpredictable. In addition, data obtained from preclinical
and clinical activities are susceptible to varying interpretations, which could
delay, limit or prevent regulatory approval. No assurance can be given that any
of the Company's clinical trials will be successfully completed on a timely
basis, or at all, that additional clinical trials will be allowed by the FDA or
other regulatory authorities or that such clinical trials will commence as
planned. Any delays in the Company's clinical trials would have a material
adverse effect on the Company's business, financial condition and results of
operations. Success in preclinical studies or early stage clinical trials does
not assure success in later stage clinical trials.
Reliance on FMT Technology. The Company has concentrated its efforts
primarily on the development, implementation and acceptance of the FMT, the
patented core direct drive technology upon which all of the Company's
soundbridges are based. The Company's soundbridges employ a direct drive
approach to the management of hearing impairment, which is a novel development.
There can be no assurance that the Company's soundbridges, based on the
Company's FMT technology, will prove to be safe and effective, or that if proven
safe and effective, can be manufactured at a reasonable cost or successfully
commercialized.
Government Regulation. The Company's medical products, such as the Vibrant
soundbridge, are regulated as medical devices. Accordingly, clinical trials,
product development, labeling, manufacturing processes and promotional
activities are subject to extensive review and rigorous regulation by government
agencies in most countries in which the Company will seek to commercialize its
products.
United States
In the United States, the Company's products are subject to applicable
provisions of the United States Federal Food, Drug, and Cosmetic Act ("FDC
Act"), and other federal statutes and regulations governing, among other things,
the design, manufacture, testing, safety, labeling, storage, record keeping,
reporting, approval, advertising and promotion of medical devices. Noncompliance
with applicable requirements can result in warning letters, fines, recalls or
seizure of products, civil penalties, injunctions, total or partial suspension
of production, withdrawal of approval or refusal to approve new marketing
applications and criminal prosecution. Changes in existing requirements or
adoption of new requirements could have a material adverse effect on the
Company's business, financial condition and results of operations.
Pursuant to the FDC Act, the FDA regulates the design, manufacture,
distribution, preclinical and clinical study and approval of medical devices in
the United States. Medical devices are classified in one of three classes (Class
I, Class II or Class III) on the basis of the controls necessary to reasonably
assure their safety and effectiveness. Safety and effectiveness is considered to
be reasonably assured for Class I devices through general controls (e.g.,
labeling, premarket notification and adherence to current QS regulations) and
for Class II devices through the use of additional
-13-
special controls (e.g., performance standards, post-market surveillance, patient
registries and FDA guidelines).
Generally, Class III devices are those which must receive premarket approval
by the FDA to reasonably assure their safety and effectiveness (e.g., life-
sustaining, life-supporting and implantable devices, or new devices which have
been found not to be substantially equivalent to legally marketed devices, or
devices whose safety and effectiveness cannot be reasonably assured through
general controls, even if supplemented by additional special controls). Active
implantable devices, such as the Company's implantable hearing devices, are
considered Class III devices.
Before a new device can be introduced to the market, the manufacturer
generally must obtain FDA clearance through a 510(k) Premarket Notification or
FDA approval through a PMA application. While the Company has no products for
which it expects to seek 510(k) clearance, it may file 510(k) submissions with
respect to future products. A 510(k) clearance will generally only be granted if
the information submitted to the FDA establishes that the device is
"substantially equivalent" to a legally marketed predicate medical device.
Frequently, the FDA will require clinical data in support of a 510(k)
submission, and the 510(k) process can become time-consuming and expensive.
Significant modifications of the labeling, manufacturing and design of any
product that has been cleared through the 510(k) process will require a new
510(k) Premarket Notification, if those modifications could significantly affect
the safety, effectiveness or intended use of the device.
A PMA must be submitted if the device cannot be cleared through the 510(k)
process. A PMA must be supported by extensive data, including, but not limited
to, technical, preclinical, clinical trials, manufacturing, and labeling to
demonstrate the safety and effectiveness of the device. The Company believes
that all versions of the Vibrant soundbridge currently under development are
Class III devices and will require a PMA, as will future configurations of
implantable hearing devices. The FDA has recently implemented a new streamlined
PMA process called the modular PMA. Under the modular PMA process, modules
reflecting the content requirements of a traditional PMA can be submitted as
they are completed, allowing them to be reviewed and approved in a sequential
manner.
Before the Company's products can be commercialized in the United States,
the Company must submit, in a PMA, extensive data on preclinical studies and
clinical trials, device design, manufacturing, labeling, promotion and
advertising, as well as other aspects of the product. In addition, the Company
must submit clinical data gathered in trials conducted under an IDE
demonstrating to the satisfaction of the FDA that the product is safe and
effective for its labeling claims, and obtain marketing approval from the FDA.
Phase I of the IDE study has been completed. Phase I was limited to two sites
and five subjects and was intended to test the safety and provide preliminary
evidence of the effectiveness of the device and the surgical procedure used to
implant the device. In November 1997, the Company filed an IDE supplement
summarizing the Phase I results, finalizing the study protocol and proposed
labeling claims, providing technical information regarding the Vibrant P
soundbridge, and requested permission to proceed to the pivotal study. In
December 1997, the FDA approved the multi-center pivotal study in 55 subjects at
up to 12 sites with the second generation Vibrant P soundbridge. In November
1998, the Company received FDA
-14-
approval of an IDE supplement to include the Vibrant HF soundbridge in this
study. During 1998, the Company enrolled 55 subjects in the study. However,
because the IDE supplement allowing the inclusion of the Vibrant HF soundbridge
was approved when enrollment was almost complete, only one of the 55 subjects is
to be fitted with a Vibrant HF soundbridge. To facilitate enrollment of a
greater number of subjects to receive the Vibrant HF soundbridge, on December
22, 1998, the Company requested FDA approval of an IDE supplement to allow an
additional 15 subjects. This IDE supplement was approved by the FDA on January
19, 1999 and the Company has enrolled 7 subjects in this clinical trial. In
March, 1999 the FDA approved an IDE supplement permitting the evaluation of the
Vibrant D soundbridge. Patients who had completed the clinical trial protocol
for the Vibrant P soundbridge were eligible for enrollment in the evaluation of
the Vibrant D soundbridge.
The Company has submitted a PMA pursuant to the modular process, which
included data gathered in the clinical trial of the Vibrant P and Vibrant D
soundbridges. The Company has also submitted information related to a
manufacturing change recently implemented by the Company, and the Company has
proposed to enroll additional patients to provide safety data on this
manufacturing change. The Company placed an applicant hold on the FDA's
fileability review of the Company's PMA, pending agreement of a final protocol
for the safety follow-up of those patients as a result of the manufacturing
change. The Company is presently discussing with the FDA the details of the
protocol for follow-up of these additional patients, of whom 73 have already
been enrolled, including 14 in the U.S. There can be no assurance that the
Company's clinical trial effort will progress as expected, will not be delayed
or that such effort will lead to the successful development of any product, or
that the FDA will file or approve the Company's PMA.
Any delays in the Company's clinical trials would have a material adverse
effect on the Company's business, financial condition and results of operations.
Success in preclinical studies or early stage clinical trials does not assure
success in later stage clinical trials. Data obtained from preclinical and
clinical activities are susceptible to varying interpretations which could
delay, limit or prevent regulatory approval. Further, there can be no assurance
that if such testing of products under development is completed, any such
devices will be accepted for formal review by the FDA, or approved by the FDA
for marketing in the United States.
After a PMA is filed, the FDA begins its review of the submitted information,
which generally takes between one and two years, but may take significantly
longer. During this review period, the FDA may request additional information or
clarification of information already provided. Also during the review period, an
advisory panel of experts from outside the FDA will be convened to review and
evaluate the application and provide recommendations to the FDA as to the
approvability of the device. In addition, the FDA will conduct a preapproval
inspection of the manufacturing facility to ensure compliance with Quality
System ("QS") regulation requirements. There can be no assurance that the
Company will be able to meet the FDA's requirements or that any necessary
approval will be granted in a reasonable time frame, or at all.
New PMAs or PMA supplements are required for significant modifications to the
manufacture, labeling and design of a device that is approved through the PMA
process. Supplements to a PMA often require submission of the same type of
information as a PMA, except
-15-
that the supplement is limited to information needed to support any changes from
the device covered by the original PMA and may not require as extensive clinical
data or the convening of an advisory panel.
The PMA process can be expensive, uncertain and can frequently require several
years. Even when a PMA is approved, the FDA may impose restrictions on the
indications for which the device can be marketed. There can be no assurance that
the Company will be able to obtain necessary approvals on a timely basis, or at
all, and delays in obtaining or failure to obtain such approvals, the loss of
previously obtained approvals, or failure to comply with existing or future
regulatory requirements could have an adverse effect on the Company's business,
financial condition and results of operations.
Subsequent to the receipt of an FDA approval, the Company will continue to be
regulated by the FDA with regard to the reporting of adverse events related to
its products, and ongoing compliance with QS regulation. The Company's
manufacturing facility must be registered with the FDA and the California
Department of Health Services ("CDHS") and will be subject to periodic
inspections by the FDA and by the CDHS. A Device Manufacturing License has been
issued by the State of California and this license must be renewed annually for
the Company to continue manufacture of medical devices in California.
Europe
The primary regulatory environment in Europe is that of the EU which consists
of 15 countries encompassing most of the major countries in Europe. The EU has
adopted numerous directives and standards regulating the design, manufacture,
clinical trial, labeling, and adverse event reporting for medical devices. The
principal directives prescribing the laws and regulations pertaining to medical
devices in the EU are the MDD and the AIMDD. In the EU, the Company's
soundbridges will be regulated as active implantables and therefore be governed
by the AIMDD. For products, such as those of the Company, that have not
previously been commercialized in the EU, CE marking is required prior to
initiation of sales in the EU. Certain other countries, such as Switzerland,
have voluntarily adopted laws and regulations that mirror those of the EU with
respect to medical devices.
Devices that comply with the requirements of a relevant directive will be
entitled to bear CE conformity marking, indicating that the device conforms with
the essential requirements of the applicable directive, and accordingly, can be
commercially distributed throughout the EU. The method of assessing conformity
varies depending on the class of the product, but normally involves a
combination of self-assessment by the manufacturer and a third-party assessment
by a Notified Body. This third party assessment may consist of an audit of the
manufacturer's quality system and specific testing of the manufacturer's
product. An assessment by a Notified Body in one country within the EU is
required in order for a manufacturer to commercially distribute the product
throughout the EU.
-16-
For purposes of determining the necessary steps for assessing conformity,
devices are classified under the Directives as Class I, Class IIa, Class IIb,
Class III, or Active Implantable Medical Devices. Devices having a higher
classification are considered to have a higher risk and, accordingly, are
subject to more controls in order to bear CE marking. The Vibrant soundbridge is
designated as an Active Implantable Medical Device. Essential requirements under
the AIMDD include substantiating that the device meets the manufacturer's
performance claims and that safety issues, if any, constitute an acceptable risk
when weighed against the intended benefits of the device. The two principal
aspects of assessing conformity for Active Implantable Medical Devices are
determinations from the Notified Body that the processes employed in the design
and manufacture of a device qualify as a full quality system in compliance with
applicable standards (e.g., EN ISO 9001, EN 46001 and 90/385/EEC), and that the
technical, preclinical, and clinical data gathered on the device are adequate to
support CE marking.
The Company has undergone an inspection by its Notified Body and its quality
system has been certified by the Notified Body as being in compliance with the
required standards. The Company has received approval to affix the CE mark to
the Vibrant P, Vibrant D and Vibrant HF soundbridges. The Company must continue
to pass annual EN ISO 9001, EN 46001 and AIMDD 2.3 quality system audits in
order to retain the authorization to affix the CE mark to its products.
Once a manufacturer has satisfactorily completed the regulatory compliance
tasks required by the directives and received favorable determinations by the
Notified Body, it is eligible to place the CE mark on its products.
Manufacturers are subject to ongoing regulation under the AIMDD. The quality
system will be subject to periodic audit and recertification, and serious
adverse events must be reported to the authorities in the country where the
incident takes place. If such incidents occur, the manufacturer may have to take
remedial action, including withdrawal of the product from the EU market.
While no additional premarket approvals in individual EU countries are
required, prior to the marketing of a device bearing the CE mark, practical
complications with respect to market introduction may occur. For example,
differences among countries have arisen with regard to labeling requirements.
Also, as the directives do not cover reimbursement and distribution practices,
differences may occur in these and other areas.
No Assurance of Market Acceptance. The market acceptance of the Company's
soundbridges will depend upon their acceptance by the medical and audiology
communities and patients as clinically useful, reliable and cost-effective
compared to other devices. Clinical acceptance will depend on numerous factors,
including the establishment of the safety and the effectiveness of the
soundbridge's ability to drive the ossicles directly and improve hearing over
currently available hearing aids. Clinical acceptance will also depend on the
receipt of regulatory approvals in the United States and the Company's ability
to adequately train ear surgeons on the techniques for implanting the Company's
soundbridges. There can be no assurance that the Company's soundbridges will be
preferable alternatives to existing devices, some of which, such as the acoustic
hearing aid, do not require surgery, or that the Company's soundbridges will not
be rendered obsolete or noncompetitive by products under development by other
companies. Patient acceptance
-17-
of the Company's soundbridges will depend in part upon physician, audiologist
and surgeon recommendations as well as other factors, including the
effectiveness, safety, reliability and invasiveness of the procedure as compared
to established approaches. Prior to undergoing surgery for the implantation of
the Company's soundbridge, a patient may speak with a number of medical
professionals, including the patient's primary care physician, an audiologist,
an ENT specialist, as well as surgeons who specialize in ear surgery. The
failure by any of these medical professionals to favorably recommend the
Company's products and the surgery required to implant the soundbridge could
limit the number of potential patients who are introduced to an ear surgeon as
candidates for the Company's soundbridges. Even if the Company's soundbridges
are adopted by the medical and audiology communities, a significant market may
not develop for the Company's products unless acceptable reimbursement from
health care payors is available. There can be no assurance that the Company's
soundbridges will be accepted by the medical and audiology communities, or
consumers, that acceptable reimbursement from third-party payors will be
available or that market demand for such products will be sufficient to allow
the Company to achieve profitable operations. Failure of the Company's
soundbridges, for whatever reason, to achieve significant adoption by the
medical and audiology communities or consumers or failure of the Company's
products to achieve any significant market acceptance would have a material
adverse effect on the Company's business, financial condition and results of
operations.
Highly Competitive Market; Risk of Competing Hearing Devices. The medical
device industry is subject to intense competition in the United States and
abroad. The Company believes its products will compete primarily with the
traditional approaches to managing hearing impairment, principally hearing aids.
Principal manufacturers of acoustic hearing aids include Siemens Audiologische
Technik GmbH, Phonak AG, Oticon, Widex, Philips Medical Systems, Starkey
Laboratories Inc., Beltone Electronics Corp., Dahlberg Inc., and GN
Danavox/ReSound. There can be no assurance that the Company's soundbridges will
be able to successfully compete with established hearing aid products. Although,
to the Company's knowledge, none of these acoustic hearing aid manufacturers are
currently developing direct drive devices, there can be no assurance that these
potential competitors will not succeed in developing technologies and products
in the future that are more effective, less expensive than those being developed
by the Company or that do not require surgery. The Company is aware of several
university research groups and development-stage companies that have active
research or development programs related to direct drive sensorineural hearing
devices. Research of this type has been conducted at various sites for over 20
years. In addition, some large medical device companies, some of which are
currently marketing implantable medical devices, may develop programs in hearing
management. Certain of these companies have substantially greater financial,
technical, manufacturing, marketing and other resources than the Company. In
addition, there can be no assurance that certain of the Company's competitors
will not develop technologies and products that may be more effective in
managing hearing impairment than the Company's products or that render the
Company's products obsolete.
The Company believes that the primary competitive factors in the hearing
management market will be the quality of the hearing enhancement, safety,
whether surgery is required, reliability, endorsement by the surgeon and
audiology communities, patient comfort, cosmetic result and price. The Company
believes that it will be competitive with respect to these factors.
-18-
Nonetheless, because the Company's products are either under development or in
the very early stages of commercialization, the relative competitive position of
the Company in the future is difficult to predict.
The medical device industry is characterized by rapid and significant
technological change. Accordingly, the Company's success will depend in part on
its ability to respond quickly to medical and technological change and user
preference through the development and introduction of new products that are of
high quality and that address patient and surgeon requirements.
Limited Manufacturing Experience; Scale-Up Risk; Dependence on Key Suppliers.
The Company currently manufactures its products in limited quantities for
laboratory testing, for its clinical trials and for initial commercial sales.
The manufacture of the Company's soundbridges is a complex operation involving a
number of separate processes, components and assemblies. Each device is
assembled and individually tested by the Company. The manufacturing process
consists primarily of assembly of internally manufactured and purchased
components and subassemblies, and certain processes are performed in an
environmentally controlled area. After completion of the manufacturing and
testing processes, implantable devices are sterilized by a sub-contracted
supplier. The Company has no experience manufacturing its products in the
volumes or with the yields that will be necessary for the Company to achieve
significant commercial sales, and there can be no assurance that the Company can
establish high volume manufacturing capacity or, if established, that the
Company will be able to manufacture its products in high volumes with
commercially acceptable yields. The Company will need to expend significant
capital resources and develop manufacturing expertise to establish commercial-
scale manufacturing capabilities. Furthermore, prior to approval of a PMA, the
Company's facilities, procedures and practices will be subject to a pre-approval
inspection by the FDA. The Company's inability to successfully manufacture or
commercialize its soundbridges in a timely matter could have a material adverse
effect on the Company's business, financial condition and results of operations.
Raw materials, components and subassemblies for the Company's soundbridges are
purchased from various qualified suppliers and are subject to stringent quality
specifications and inspections. The Company conducts quality audits of its key
suppliers, several of whom are experienced in the supply of components to
manufacturers of implantable medical devices, such as pacemakers, defibrillators
and drug delivery pumps. A number of components and subassemblies, such as
silicone, signal processing electronics and implant packaging are provided by
single source suppliers. Certain components of the Vibrant P, Vibrant D and
Vibrant HF soundbridges, the analog and digital signal processing microcircuits,
are provided by sole source suppliers. None of the Company's suppliers is
contractually obligated to continue to supply the Company nor is the Company
contractually obligated to buy from a particular supplier. For certain of these
components and subassemblies, there are relatively few alternative sources of
supply, and establishing additional or replacement suppliers for such components
and subassemblies could not be accomplished quickly. In addition, if the Company
wishes to significantly modify its manufacturing processes or change the
supplier of a critical component, additional approvals will be required from the
FDA before the change can be implemented. Because of the long lead time for some
components and subassemblies that are currently available from a single source,
a supplier's inability or failure to
-19-
supply such components or subassemblies in a timely manner or the Company's
decision to change suppliers could have a material adverse effect on the
Company's business, financial condition and results of operations.
The Company's manufacturing facilities are subject to periodic inspection by
regulatory authorities, and its operations must undergo QS regulation compliance
inspections conducted by the FDA and corresponding state agencies. Additionally,
prior to approval of a PMA, the Company's and its third-party manufacturers'
facilities, procedures and practices will be subject to pre-approval QS
regulation inspections. The Company has been inspected by the Food and Drug
Branch of the CDHS and a Device Manufacturing License has been issued to the
Company. The Company will be required to comply with the QS regulation
requirements in order to produce products for sale in the United States and with
applicable quality system standards and directives in order to produce products
for sale in the EU. Any failure of the Company to comply with the QS regulation
or applicable standards and directives may result in the Company being required
to take corrective actions, such as modification of its policies and procedures.
Pending such corrective actions, the Company could be unable to manufacture or
ship any products, which could have a material adverse effect on the Company's
business, financial condition and results of operations.
Dependence upon Patents and Proprietary Technology. In the United States, the
Company holds 11 issued patents and 12 pending patent applications, of which 1
has been allowed but not yet issued. Additionally, the Company has 1 issued and
17 pending foreign patent applications. These patents and patent applications
generally cover the invention and application of the FMT as well as the specific
application of the FMT and other concepts in the field of hearing impairment. In
addition, the Company has licensed, on a royalty-free basis, a United States
patent covering the magnetic attachment of an external audio processor to an
implanted receiver. The Company's success will depend in part on its ability to
obtain patent protection for its products and processes, to preserve its trade
secrets, and to operate without infringing or violating the proprietary rights
of others.
The patent positions and trade secret provisions of medical device companies,
including those of the Company, are uncertain and involve complex and evolving
legal and factual questions. The coverage sought in a patent application either
can be denied or significantly reduced before or after the patent is issued.
Consequently, there can be no assurance that any patents from pending
applications or from any future patent application will be issued, that the
scope of the patent protection will exclude competitors or provide competitive
advantages to the Company, that any of the Company's patents will be held valid
if subsequently challenged or that others will not claim rights in or ownership
of the patents and other proprietary rights held by the Company. Since patent
applications are secret until patents are issued in the United States or
corresponding applications are published in other countries, and since
publication of discoveries in the scientific or patent literature often lags
behind actual discoveries, the Company cannot be certain that it was the first
to file patent applications for such inventions.
In addition, there can be no assurance that competitors, many of which have
substantial resources, will not seek to apply for and obtain patents that will
prevent, limit or interfere with the
-20-
Company's ability to make, use or sell its products either in the United States
or in international markets. Although the Company has conducted searches of
patents issued to other companies, research or academic institutions or others,
there can be no assurance that such patents do not exist, have not been filed or
could not be filed or issued, which contain claims relating to the Company's
technology, products or processes. Patents issued and patent applications filed
in the United States or internationally relating to medical devices are numerous
and there can be no assurance that current and potential competitors and other
third parties have not filed, or in the future, will not file, applications for,
or have not received or in the future will not receive, patents or obtain
additional proprietary rights relating to products or processes used or proposed
to be used by the Company. In addition, patent applications in foreign countries
are maintained in secrecy for a period after filing. Publication of discoveries
in the scientific or patent literature tends to lag behind actual discoveries
and the filing of related patent applications. There may be pending
applications, which if issued with claims in their present form, might provide
proprietary rights to third parties relating to products or processes used or
proposed to be used by the Company. The Company may be required to obtain
licenses to patents or proprietary rights of others. Further, the laws of
certain foreign countries do not protect the Company's intellectual property
rights to the same extent as do the laws of the United States. Litigation or
regulatory proceedings, which could result in substantial cost and uncertainty
to the Company, may also be necessary to enforce patent or other intellectual
property rights of the Company or to determine the scope and validity of other
parties' proprietary rights. There can be no assurance that the Company will
have the financial resources to defend its patents from infringement or claims
of invalidity.
The Company also relies upon trade secrets and other unpatented proprietary
technology, and no assurance can be given that others will not independently
develop substantially equivalent proprietary information and techniques or
otherwise gain access to or disclose the Company's proprietary technology or
that the Company can meaningfully protect its rights in such unpatented
proprietary technology. The Company's policy is to require each of its
employees, consultants, investigators and advisors to execute a confidentiality
agreement upon the commencement of an employment or consulting relationship with
the Company. These agreements generally provide that all inventions conceived by
the individual during the term of the relationship shall be the exclusive
property of the Company and shall be kept confidential and not be disclosed to
third parties except in specified circumstances. There can be no assurance,
however, that these agreements will provide meaningful protection for the
Company's proprietary information in the event of unauthorized use or disclosure
of such information.
Recently Public Law 104-208 was signed into law in the United States and
limits the enforcement of patents relating to the performance of surgical or
medical procedures on a body. This law precludes medical practitioners and
health care entities, who practice these procedures, from being sued for patent
infringement. Therefore, depending upon how these limitations are interpreted by
the courts, they could have a material adverse effect on the Company's ability
to enforce any of its proprietary methods or procedures deemed to be surgical or
medical procedures on a body. In certain other countries outside the United
States, patent coverage relating to the performance of surgical or medical
procedures is not available. Therefore, patent coverage in such countries will
be limited to the FMT or to narrower aspects of the FMT.
-21-
The medical device industry in general has been characterized by substantial
litigation. Litigation regarding patent and other intellectual property rights,
whether with or without merit, could be time-consuming and expensive to respond
to and could distract the Company's technical and management personnel. The
Company may become involved in litigation to defend against claims of
infringement by the Company, to enforce patents issued to the Company or to
protect trade secrets of the Company. If any relevant claims of third-party
patents are held as infringed and not invalid in any litigation or
administrative proceeding, the Company could be prevented from practicing the
subject matter claimed in such patents, or would be required to obtain licenses
from the patent owners of each such patent, or to redesign its products or
processes to avoid infringement. In addition, in the event of any possible
infringement, there can be no assurance that the Company would be successful in
any attempt to redesign its products or processes to avoid such infringement or
in obtaining licenses on terms acceptable to the Company, if at all.
Accordingly, an adverse determination in a judicial or administrative proceeding
or failure by the Company to redesign its products or processes or to obtain
necessary licenses could prevent the Company from manufacturing and selling its
products, which would have a material adverse effect on the Company's business,
financial condition and results of operations. Although the Company has not been
involved in any litigation to date, in the future, costly and time-consuming
litigation brought by the Company may be necessary to enforce patents issued to
the Company, to protect trade secrets or know-how owned by the Company, or to
determine the enforceability, scope and validity of the proprietary rights of
others.
Future Capital Requirements; Uncertainty of Additional Funding. The Company
will expend substantial funds in the future for research and development,
preclinical and clinical testing, capital expenditures and the manufacturing,
marketing and sale of its products. The timing and amount of spending of such
capital resources cannot be accurately predicted and will depend upon several
factors, including the progress of its research and development efforts and
preclinical and clinical activities, competing technological and market
developments, the time and costs of obtaining regulatory approvals, the time and
costs involved in filing, prosecuting and enforcing patent claims, the progress
and cost of commercialization of products currently under development, market
acceptance and demand for the Company's products in the United States, if
approved for marketing, and internationally and other factors not within the
Company's control. On February 17, 1998, the Company completed an initial
public offering of 2,300,000 shares of common stock. On February 27, 1998, the
Company completed the sale of an additional 345,000 shares of common stock
pursuant to the exercise by the underwriters of an over allotment option. Net
proceeds to the Company totaled approximately $28.4 million. The Company
believes that the net proceeds of the offering, together with its previously
existing capital resources and projected interest income, will be sufficient to
fund its operations and its capital investments through the first half of 2000.
Commencing in 2000, the Company expects to incur substantial expenses in
developing a U.S. sales and marketing organization. To fully develop such a
capability and to effectively launch its products commercially in the United
States, if approved by the U.S. Food and Drug Administration ("FDA"), the
Company expects that it will have to raise additional financing. There can be
no assurance that such additional financing will be available on a timely basis
on terms acceptable to the Company, or at all, or that such financing will not
be dilutive to stockholders. If adequate funds are not available, the Company
could be required to delay development or commercialization of certain of its
-22-
products, to license to third parties the rights to commercialize certain
products or technologies that the Company would otherwise seek to commercialize
for itself, or to reduce the marketing, customer support or other resources
devoted to certain of its products, any of which could have a material adverse
effect on the Company's business, financial condition and results of operations.
Lack of Sales, Marketing and Distribution Experience. The primary market for
the Company's products in the United States is well defined and highly
concentrated. Of the approximately 8,000 ENT surgeons in the United States,
approximately 400 are specialists in otology. The Company believes that it can
address this market with a direct sales force. The Company's strategy is to
market its products initially to those specialists in otology who are currently
most active in ear surgery, and, subsequently, to the general population of ENT
surgeons. Because the surgical procedure for implementing the Company's
soundbridges utilizes many of the same techniques employed by surgeons trained
and experienced in cochlear implant surgery, the Company believes that surgeon
training will not be a significant impediment to market acceptance.
The Company intends to position its family of Vibrant soundbridges as
technologically advanced implants that address an unmet patient need and add to
the products and services that surgeons can offer. Patients who have
traditionally been candidates for a hearing aid often are first seen by an ENT
surgeon, prior to being referred to a hearing device dealer or dispensing
audiologist. Accordingly, endorsement by the surgical community will be an
important goal of the Company's marketing programs. The Company will also seek
to develop a high degree of awareness by and endorsement from audiologists.
The Company intends to promote the benefits of its products to consumers in
order to expand usage to include not only those who are currently dissatisfied
with hearing aids, but also those who have abandoned hearing aids due to either
dissatisfaction or perceived social stigma.
The Company has established a European sales and marketing organization which,
as of September 30, 1999, is comprised of 10 marketing, sales, clinical and
support personnel. These personnel are performing direct sales activities in
Germany, France, the United Kingdom, Switzerland and Austria, and are supporting
distributors in other European countries. In addition, the Company has hired a
sales manager for South America. The Company's initial selling efforts in
Europe have been targeted primarily at those ENT surgeons specializing in
otology. While the Company intends to continue to market its products to these
specialists, it also plans to focus on the referring physicians, audiologists
and the general population of ENT surgeons in an attempt to increase the number
of patients that are referred to specialist ear surgeons. The Company is also
attempting to gather clinical and other data which it believes will be helpful
in obtaining reasonable reimbursement levels for its products. The Company also
has distributors in Sweden, Denmark, Italy, Spain and Portugal. The Company has
also established a distributor for certain countries in South America. In other
international markets, including Japan, the Company will seek to establish a
network of distributors.
There can be no assurance that the Company will be able to build an
adequate direct sales force or marketing organization in any country, that
establishing a direct sales force or marketing
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organization will be cost-effective or that the Company's sales and marketing
efforts will be successful. In addition, the Company has entered into
distribution agreements with only a limited number of international
distributors. There can be no assurance that the Company will be able to enter
into similar agreements with other qualified distributors on a timely basis on
terms acceptable to the Company, or at all, or that such distributors will
devote adequate resources to selling the Company's products. Failure to
establish an adequate direct sales force domestically and in select
international markets, and to enter into successful distribution relationships,
could have a material adverse effect on the Company's business, financial
condition and results of operations.
Uncertain Availability of Third-Party Reimbursement. The Company believes that
its products will generally be purchased by hospitals and clinics upon the
recommendation of a surgeon. In the United States, hospitals, physicians and
other health care providers that purchase medical devices generally rely on
third-party payors, principally Medicare, Medicaid, private health insurance
plans, health maintenance organizations and other sources of reimbursement for
health care costs, to reimburse all or part of the cost of the procedure in
which the medical device is being used. Such third-party payors have become
increasingly sensitive to cost containment in recent years and place a high
degree of scrutiny on coverage and payment decisions for new technologies and
procedures.
Hearing aids, which do not involve surgery and, in certain cases, are exempt
from the requirement for 510(k) approval, are generally not reimbursed, although
a modest reimbursement is provided under certain insurance plans. Traditionally,
hearing aid users have paid for these devices directly. For cochlear implants,
however, that are technologically advanced and FDA-approved through the PMA
process for the treatment of profound hearing impairment, a reimbursement is
available for the device, the audiological testing, and the surgery. Similarly,
reimbursement is available for ossicular replacement prostheses that are FDA-
approved for the treatment of conductive hearing impairment. The Company
anticipates that, as surgically implanted devices that require FDA PMA approval,
the Company's products may also be the subject of reimbursement in the future.
During clinical trials, the Company does not anticipate that there will be any
reimbursement for the Vibrant soundbridge implant or procedure.
The Company's strategy is to pursue reimbursement for the Company's
soundbridges, once a PMA is approved by the FDA, based on surgeon endorsement
and demonstration of improved quality of life for specific patient groups.
Quality of life issues are included in the Company's clinical trial to provide
data in support of this reimbursement strategy. There can be no assurance that
the Company will be able to demonstrate improvement in quality of life or that
reimbursement will ever be available for the Company's products.
Certain third-party payors are moving toward a managed care system in which
they contract to provide comprehensive health care for a fixed cost per person.
The fixed cost per person established by these third-party payors may be
independent of the hospital's cost incurred for the specific case and the
specific devices used. Medicare and other third-party payors are increasingly
scrutinizing whether to cover new products and the level of reimbursement for
covered products. Because the Company's hearing prostheses are currently under
development and have not received
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FDA clearance or approval, uncertainty exists regarding the availability of
third-party reimbursement for procedures that would use the Company's
soundbridges. Failure by physicians, hospitals and other potential users of the
Company's soundbridges to obtain sufficient reimbursement from third-party
payors for the procedures in which the Company's soundbridges are intended to be
used could have a material adverse effect on the Company's business, financial
condition and results of operations.
Third-party payors that do not use prospectively fixed payments increasingly
use other cost-containment processes or require various outcomes data that may
pose administrative hurdles to the use of the Company's soundbridges. In
addition, third-party payors may deny reimbursement if they determine that the
device used in a procedure is unnecessary, inappropriate, experimental, used for
a non-approved indication or is not cost-effective. Potential purchasers must
determine that the clinical benefits of the Company's products justify the
additional cost or the additional effort required to obtain prior authorization
or coverage and the uncertainty of actually obtaining such authorization or
coverage.
Even after obtaining the necessary foreign regulatory approvals, market
acceptance of the Company's products and products currently under development in
international markets will be dependent, in part, upon the availability of
reimbursement within prevailing health care payment systems. Reimbursement and
health care payment systems in international markets vary significantly by
country, and include both government sponsored health care and private
insurance. The Company believes that in Europe, the primary source of funding
for products such as the Company's soundbridges is the various government
sponsored healthcare programs. Requirements for the granting of reimbursement
in many countries are not clearly specified and may involve the collection of
additional clinical data in support of submissions to the appropriate health
care administrations. There can be no assurance that any required data would be
available on a timely basis or that any international reimbursement approvals
will be obtained in a timely manner, if at all. Failure to receive
international reimbursement approvals could have a material adverse effect on
market acceptance of the Company's products in the EU as well as in
international markets in which such approvals are sought.
The Company believes that in the future reimbursement will be subject to
increased restrictions both in the United States and in international markets.
The Company believes that the overall escalating cost of medical products and
services will continue to lead to increased pressures on the health care
industry, both foreign and domestic, to reduce the cost of products and
services, including the Company's products and products currently under
development. There can be no assurance in either United States or international
markets that third-party reimbursement and coverage will be available or
adequate, that future legislation, regulation or reimbursement policies of
third-party payors will not otherwise adversely affect the demand for the
Company's products or products currently under development or its ability to
sell its products on a profitable basis. The unavailability of third-party payor
coverage or the inadequacy of reimbursement could have a material adverse effect
on the Company's business, financial condition and results of operations.
-25-
Dependence upon Key Personnel. The Company's future success depends in
significant part upon the continued service of certain key scientific, technical
and management personnel. Competition for such personnel is intense and there
can be no assurance that the Company can retain its key scientific, technical
and managerial personnel or that it can attract, assimilate or retain other
highly qualified scientific, technical and managerial personnel in the future.
The loss of key personnel, especially if without advance notice, or the
inability to hire or retain qualified personnel could have a material adverse
effect upon the Company's business, financial condition and results of
operations. The Company has not entered into employment agreements with any of
its key personnel in the United States.
Product Liability Risk; Possible Insufficiency of Insurance. The Company's
business involves the inherent risk of product liability claims. The Company
maintains limited product liability insurance at coverage levels which the
Company believes to be commercially reasonable and adequate given the Company's
current operations. However, there can be no assurance that such insurance will
continue to be available on commercially reasonable terms, or at all, or that
such insurance will be adequate to cover liabilities that may arise. Any claims
that are brought against the Company could, if successful, have an adverse
effect on the Company's business, financial condition and results of operations.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company had no holdings of derivative financial or commodity instruments
at September 30, 1999. A review of the Company's other financial instruments and
risk exposures at that date revealed that the Company had exposure to interest
rate risk. At September 30, 1999 the Company performed sensitivity analyses to
assess the potential effect of this risk and concluded that near-term changes in
interest rates should not materially adversely affect the Company's financial
position, results of operations or cash flows.
-26-
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
None
Item 2. Changes in Securities and Use of Proceeds.
On February 17, 1998, the Company completed the sale of 2,300,000 Common
Shares at a per share price of $12.00 in a firm commitment underwritten public
offering. The offering was effected pursuant to a Registration Statement on
Form S-1 (Registration No. 333-40339), which the United States Securities and
Exchange Commission declared effective on February 12, 1998. The offering was
underwritten by Cowen & Company and UBS Securities. On February 27, 1998 the
Company completed the sale of an additional 345,000 Common Shares at a per share
price of $12.00 pursuant to the exercise of the over-allotment option by the
underwriters. Of the $31,740,000 in aggregate proceeds raised by the Company in
connection with the February offering, (i) approximately $2,221,800 was paid to
the underwriters in connection with underwriting discounts and commissions and
(ii) approximately $1,120,000 was paid by the Company in connection with
offering expenses, including legal, printing and filing fees. The Company has
used the remaining proceeds of the offering in the following manner:
Use of Proceeds
---------------
Research & Development, including clinical trials $11,200,000
Development of sales and marketing organization $ 3,800,000
Leasehold improvements and capital expenditures $ 1,200,000
Working capital and general corporate $ 8,600,000
Temporary Investments
Short-term investments $ 3,600,000
All amounts represent estimates of direct or indirect payments of amounts
to third parties. No amounts were paid directly or indirectly for the above
purposes to directors or officers of the Company, to persons owning ten percent
or more of any class of equity securities of the Company, or to affiliates of
the Company. The use of proceeds described above do not represent a material
change in the use of proceeds described in the offering prospectus.
Item 3. Defaults upon Senior Securities.
None
Item 4. Submission of Matters to a Vote of Security Holders.
None
Item 5. Other Information.
-27-
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
10.1 OEM and Supply Agreement between Symphonix Devices, Inc. and
Siemens Audiologische Technik GmbH dated June 4, 1999. *
27.1 Financial Data Schedule.
(b) No reports on Form 8-K were filed during the quarter ended
September 30, 1999.
* Confidential treatment has been requested with respect to certain
portions of this Exhibit. Such portions have been omitted from
this filing and have been filed separately with the Securities and
Exchange Commission.
Pursuant to the requirements of the Securities Exchange Act of 1934,
the Registrant has duly caused this 10-Q report to be signed on its behalf by
the undersigned thereunto duly authorized.
Date: November 12, 1999 SYMPHONIX DEVICES, INC.
/s/ Kirk Davis
------------------------------------------
Kirk Davis
President and Chief Executive Officer
/s/ Alfred G. Merriweather
------------------------------------------
Alfred G. Merriweather
Vice President Finance and Chief Financial
Officer (Principal Financial and Accounting
Officer
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