UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-------------------
FORM 10-QSB
-------------------
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
----- SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2003
or
____ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____ to ____
Commission File Number 000-32045
DIOMED HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
Delaware 84-140636
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization) ,
1 Dundee Park
Andover, MA 01810
(Address of principal executive offices) (Zip Code)
DIOMED HOLDINGS, INC. AND SUBSIDIARIES
Quarterly Report on Form 10-QSB
For the Three Months and Six Months Ended June 30, 2003
Table of Contents
Item Number Page Number
Caption
Part I - Financial Information
1 Unaudited Consolidated Balance Sheets - June 30, 2003 and December 31, 2002 F-1
Unaudited Consolidated Statements of Operations - Three Months and Six F-3
Months Ended June 30, 2003 and 2002
Unaudited Consolidated Statements of Cash Flows - Six Months Ended June F-4
30, 2003 and 2002
Notes to Consolidated Financial Statements F-5
2 Management's Discussion and Analysis or Plan of Operation 1
3 Controls and Procedures 12
Part II - Other Information 13
1 Legal Proceedings 13
4 Submission of Matters to a Vote of Security Holders 13
6 Exhibits and Reports on Form 8-K 13
Signatures 15
Diomed Holdings, Inc.
Consolidated Balance Sheets
(unaudited)
Assets JUNE 30, 2003 DECEMBER 31, 2002
(unaudited) (audited)
Current Assets:
Cash and cash equivalents $ 249,441 $ 1,848,646
Restricted cash - 75,000
Accounts receivable, net of allowance for doubtful accounts of
$327,000 and $308,000 in 2003 and 2002, respectively 628,466 676,444
Inventories 1,742,692 2,012,141
Prepaid expenses and other current assets 649,553 214,253
--------------- ---------------
Total current assets 3,270,152 4,826,484
--------------- ---------------
Property and Equipment:
Office equipment and furniture and fixtures 1,269,764 1,229,307
Manufacturing equipment 780,917 731,787
Leasehold improvements 800,109 652,141
--------------- ---------------
2,850,790 2,613,235
Less--Accumulated depreciation and amortization 2,053,734 1,548,085
--------------- ---------------
797,056 1,065,150
Intangible Assets, net of accumulated amortization of $515,000 and
$417,000 in 2003 and 2002, respectively 566,127 564,270
--------------- ---------------
Other Assets:
Deposits 329,161 597,426
Deferred offering costs 198,682 -
Deferred financing costs 42,584 80,000
--------------- ---------------
Total other assets 570,427 677,426
--------------- ---------------
$ 5,203,762 $ 7,133,330
=============== ===============
Liabilities and Stockholders' EQUITY (DEFICIT)
Current Liabilities:
Bank loan $ 54,896 $ 216,306
Related party redeemable Debt ($1,100,000 face value,
net of $200,000 in debt discount at June 30, 2003) (Note 5f) 900,000 -
Promissory notes (Notes 5b and 5d) 1,373,754 445,208
Current maturities of capital lease obligations 27,254 33,993
Deferred revenue 22,716 -
Accounts payable 1,658,285 1,608,623
Accrued expenses 1,489,965 1,444,100
--------------- ---------------
Total current liabilities 5,526,870 3,748,230
--------------- ---------------
Promissory Note Payable, less current maturities - 936,000
Related Party Convertible Debt, less current maturities ($2,000,000
face value, net of $2,000,000 debt discount at December 31, 2002)(Note 5e) - -
Related Party Debt, less current maturities ($2,000,000 face value,
net of $1,935,484 debt discount at June 30, 2003) (Note 5e) 64,516 -
Capital Lease Obligations, less current maturities - 10,018
--------------- ---------------
Total liabilities 5,591,386 4,694,248
--------------- ---------------
Stockholders' Equity (Deficit):
Preferred stock., $0.001 par value
Authorized - 20,000,000 shares
Designated Class A convertible preferred stock, $0.001
par value
Authorized--18,000,000 shares
Issued and outstanding--zero shares at June 30, 2003
and 14,688,662 shares at December 31, 2002 - 14,689
F-1
Designated Class C convertible preferred stock, $0.001 par value
Authorized--20 shares
Issued and outstanding--20 shares at June 30, 2003 and zero
shares at December 31, 2002 2,000,000 -
Designated Class D convertible preferred stock, $0.001 par value
Authorized--24 shares
Issued and outstanding--24 shares at June 30, 2003 and zero
shares at December 31, 2002 240,000 -
Undesignated preferred stock, $0.001 par value
Authorized--1,999,956 shares
Issued and outstanding--zero shares - -
Common stock, $0.001 par value
Authorized - 80,000,000 shares
Issued and outstanding - 29,711,749 and 15,023,087 shares at
June 30, 2003 and December 31, 2002, respectively 29,712 15,023
Additional paid-in capital 40,546,706 41,704,774
Cumulative translation adjustment 7,942 158,312
Accumulated deficit (43,211,984) (39,453,715)
--------------- ---------------
Total stockholders' equity (deficit) (387,624) 2,439,083
---------------- ---------------
$ 5,203,762 $ 7,133,330
=============== ===============
The accompanying notes are an integral part of these consolidated financial
statements.
F-2
Diomed Holdings, Inc.
Consolidated Statements of Operations
(unaudited)
Three Months Three Months Six Months Six Months
Ended Ended Ended Ended
June 30, 2003 June 30, 2002 June 30, 2003 June 30, 2002
------------- ------------- -------------- --------------
Revenues $ 2,148,540 $1,168,508 $ 4,272,350 $ 2,125,145
Cost of Revenues 1,271,947 1,038,696 2,671,406 2,193,586
--------------- ------------- -------------- --------------
Gross profit (loss) 876,593 129,812 1,600,944 (68,441)
--------------- ------------- -------------- --------------
Operating Expenses:
Research and development 198,693 212,243 386,786 383,243
Selling and marketing 878,764 734,325 2,021,978 1,077,053
General and administrative 980,968 947,363 1,781,717 1,768,010
--------------- ------------- -------------- --------------
Total operating expenses 2,058,425 1,893,931 4,190,481 3,228,306
--------------- ------------- -------------- --------------
Loss from operations (1,181,832) (1,764,119) (2,589,537) (3,296,747)
Interest Expense, net (579,359) (23,547) (1,168,732) (287,886)
-------------- ------------- -------------- -------------
Net loss $(1,761,191) $(1,787,666) $ (3,758,269) $ (3,584,633)
=============== ============= =============== ==============
Net loss per share (Note 3):
Basic and diluted net loss per share
applicable to common stockholders $ (0.06) $ (0.13) $ (0.16) $ (0.28)
=============== ============= =============== ==============
Basic and diluted weighted average common
shares outstanding 29,711,749 14,200,000 22,873,555 12,992,406
=============== ============= ============== ==============
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
Diomed Holdings, Inc.
Consolidated Statements of Cash Flows
(unaudited)
Six Months Ended
June 30, 2003 June 30, 2002
Cash Flows from Operating Activities:
Net loss $ (3,758,269) $ (3,584,633)
Adjustments to reconcile net loss to net cash used in
operating activities-
Depreciation and amortization 283,912 144,638
Noncash interest expense on related party
debt 937,849 225,260
Issuance of stock options to a third party 8,600 28,781
Changes in operating assets and liabilities
Accounts receivable 47,978 303,699
Inventories 269,449 130,703
Prepaid expenses and other current assets (435,300) (190,839)
Deposits 242,928 -
Accounts payable 49,664 (1,341,402)
Accrued expenses 45,865 (81,142)
Customer advance - (293,463)
------------ -------------
Net cash used in operating activities (2,307,324) (4,658,398)
------------ -------------
Cash Flows from Investing Activities:
Purchases of property and equipment (185,130) (74,600)
------------ -------------
Net cash used in investing activities (185,130) (74,600)
------------ -------------
Cash Flows from Financing Activities:
Net proceeds (payments) from bank borrowings (161,411) (656,053)
Proceeds from issue of common stock, net - 8,530,870
Proceeds from redeemable debt 1,100,000 -
Increase in deferred financing costs (51,100) -
Increase in deferred offering costs (198,682) -
Payments on convertible debt - (700,000)
Payments on promissory notes (7,454) -
Payments on capital lease obligations (16,757) (22,428)
------------ ------------
Net cash provided by financing activities 664,596 7,152,389
------------ ------------
Effect of Exchange Rate Changes 228,653 89,585
------------ ------------
Net Increase (Decrease) in Cash and Cash Equivalents (1,599,205) 2,508,786
Cash and Cash Equivalents, beginning of period 1,848,646 322,566
------------ ------------
Cash and Cash Equivalents, end of period $ 249,441 $ 2,831,352
=========== ============
Supplemental Disclosure of Cash Flow Information:
Cash paid for interest $ 40,843 $ 71,335
=========== ===========
Supplemental Disclosure of Noncash Investing and Financing
Activities:
Conversion of convertible debt into common stock $ - $ 339,337
=========== ===========
Reclassification of offering costs incurred in 2001 to
APIC $ - $ 387,133
=========== ===========
Value ascribed to warrants issued in connection with
issuance of debt to stockholders $ - $ 8,200
=========== ===========
Value ascribed to debt discount
related to redeemable debt $ 240,000 $ -
=========== ===========
Value ascribed to debt discount
related to debt $ 2,000,000 $ -
=========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
(1) OPERATIONS
Diomed Holdings, Inc. (the Company) and its subsidiaries specialize in
developing and commercializing minimally and micro-invasive medical procedures
that use its laser technologies and disposable products.
Previously, the operations of the Company were that of Diomed, Inc., which
was incorporated in December 1997 under the laws of the State of Delaware. On
February 14, 2002, Diomed, Inc. became a wholly owned subsidiary of Diomed
Holdings, Inc. through a reverse merger. (See Note 8)
The Company's medical laser products and applications are in various
stages of development, and, as such, the success of future operations is subject
to a number of risks similar to those of other companies in similar stages of
development. Principal among these risks are the continued successful
development and marketing of the Company's products, proper regulatory approval,
the need to achieve profitable operations, competition from substitute products
and larger companies, the need to obtain adequate financing to fund future
operations and dependence on key individuals. The Company has incurred
significant losses since inception and is devoting substantially all its efforts
towards research and development, regulatory approvals, manufacturing, and sales
and marketing of its products.
Between December 2002 and May 2003, the Company obtained $3.2 million of
bridge financing in the form of secured notes from Gibralt US, Inc., an
affiliate of one of our directors, Samuel Belzberg, and two of our other
directors, James A. Wylie, Jr. and Peter Norris. (See Notes 5e and 5f) In order
to fund its operations in 2003, the Company requires additional debt or equity
financing and, as an additional option, a credit facility to support the
Company's commercialization of EVLT(R). The Company anticipates it will have
access to additional funding sources and has entered into discussions that it
believes may lead to a financing transaction during the second half of 2003. The
Company will require the proceeds of any such additional financing, together
with its current cash resources, to continue as a going concern and will use
these proceeds to fund its operations and commercialize its products in 2003.
Additional financing may not, however, be available on acceptable terms or at
all. The inability to obtain additional financing would cause the Company to
reduce or cease operations, sell all or a portion of its assets, seek a sale of
the Company or enter into a business combination with a third party. As a result
of the additional financing needed to support operations in 2003, the auditors'
opinion for the year ended December 31, 2002 expressed doubt about the Company's
ability to continue as a going concern.
The accompanying consolidated financial statements at June 30, 2003 and
for the three-month and six-month periods ended June 30, 2003 and 2002 are
unaudited. In management's opinion, these unaudited consolidated financial
statements have been prepared on the same basis as the audited consolidated
financial statements included in the Company's Annual Report on Form 10-KSB, as
amended, for the year ended December 31, 2002, and include all adjustments,
consisting of only normal recurring adjustments, necessary for a fair
presentation of the results for such interim periods. These financial statements
should be read in conjunction with the audited consolidated financial statements
included in the Company's Annual Report on Form 10-KSB, as amended, for the year
ended December 31, 2002. The results of operations for the three-month and
six-month periods ended June 30, 2003 are not necessarily indicative of the
results expected for the fiscal year ending December 31, 2003.
F-5
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying consolidated financial statements reflect the application
of certain accounting policies described below and elsewhere in these notes to
consolidated financial statements.
(a) Principles of Consolidation
These financial statements include the accounts of the Company and
its wholly owned subsidiaries. All significant intercompany transactions
have been eliminated.
(b) Use of Estimates
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States requires
management to make estimates and assumptions that affect the amounts
reported in the financial statements and accompanying notes. Actual
results could differ from those estimates.
(c) Cash and Cash Equivalents
Cash and cash equivalents consists of short-term, highly liquid
investments with original maturity dates of 90 days or less. Cash
equivalents are carried at cost, which approximates fair value.
(d) Foreign Currency Translation
Assets and liabilities of the foreign subsidiaries are translated at
the rate of exchange in effect at the end of the period. Results of
operations are translated using the weighted average exchange rate in
effect during the period. Translation adjustments, resulting from changes
in the rate of exchange between the subsidiaries' functional currency and
the U.S. dollar, are included in other comprehensive income (loss) with
the cumulative effect included as a separate component of stockholders'
equity in the accompanying consolidated balance sheets. Transaction gains
and losses, resulting from the revaluations of assets and liabilities
denominated in other than the functional currency of the Company or its
subsidiaries, are included in operating expenses for all periods
presented.
(e) Revenue Recognition
Revenue from product sales is recognized at the time of shipment to
the customer as long as there is persuasive evidence of an arrangement,
the sales price is fixed and determinable and collection of the related
receivable is probable. The Company provides for estimated product returns
and warranty costs at the time of product shipment.
(f) Inventories
Inventories are valued at the lower of cost (first-in, first-out) or
market. Work-in-progress and finished goods consist of materials, labor
and manufacturing overhead. Inventories consist of the following:
F-6
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
June 30, 2003 December 31, 2002
Raw materials $ 841,861 $ 982,622
Work-in-progress 387,904 446,820
Finished goods 512,927 582,699
--------------- ---------------
$ 1,742,692 $ 2,012,141
=============== ===============
(g) Property and Equipment
The Company records property and equipment at cost.
The Company provides for depreciation and amortization using both
straight-line and accelerated methods by charges to operations in amounts
that allocate the cost of the assets over their estimated useful lives as
follows:
Description Estimated Useful Life
- ------------- ----------------------
Office equipment and furniture and fixtures 2-5 years
Manufacturing equipment 2-5 years
Lesser of estimated useful life or
Leasehold improvements life of lease
Depreciation expense for the six-month periods ended June 30, 2003
and 2002 was approximately $186,000 and $47,000, respectively.
(h) Intangible Assets
Intangible assets are recorded at cost and consist of
manufacturing rights acquired in 2001. The manufacturing rights are being
amortized over a five-year estimated useful life. (see Note 5a)
(i) Long Lived Assets
The Company evaluates long-lived assets, such as intangible
assets, equipment and certain other assets, for impairment in accordance
with Statement of Financial Standards No. 144 (SFAS 144), "Accounting for
the Impairment or Disposal of Long-Lived Assets." The Company records an
impairment charge whenever events or changes in circumstances indicate
that the carrying amount of the assets may not be recoverable through the
estimated undiscounted future cash flows from the use of these assets.
When any such impairment exists, the related assets are written down to
fair value.
(j) Fair Value of Financial Instruments
The carrying amounts of the Company's cash, cash equivalents,
accounts receivable, accounts payable and various debt instruments
approximate fair value due to the short-term nature of these instruments.
The carrying amounts of debt issued pursuant to agreements with banks
approximate fair value as the interest rates on these instruments
fluctuate with market interest rates.
F-7
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
(k) Concentration of Credit Risk and Significant Customers
The Company places its cash and cash equivalents in established
financial institutions. The Company has no significant off-balance-sheet
concentration of credit risk such as foreign exchange contracts, options
contracts or other foreign hedging arrangements. The Company's accounts
receivable credit risk is not concentrated within any one geographic area.
The Company has not experienced any significant losses related to
receivables from any individual customers or groups of customers in any
specific industry or by geographic area. Due to these factors, no
additional credit risk beyond amounts provided for collection losses is
believed by management to be inherent in the Company's accounts
receivable.
Accounts receivable are customer obligations due under normal trade
terms. The Company sells its products to private physicians, hospitals,
health clinics, distributors and OEM customers. The Company typically
requires signed sales agreements, non-refundable advance payments and
purchase orders depending upon the type of customer, and in certain
circumstance letters of credit. Accounts receivable are stated at the
amount billed to the customer less a valuation allowance for doubtful
accounts.
Senior management reviews accounts receivable on a monthly basis to
determine if any receivables could potentially be uncollectible. The
Company includes specific accounts receivable balances that are determined
to be uncollectible, along with a general reserve, in its overall
allowance for doubtful accounts. After all attempts to collect a
receivable have failed, the receivable is written off against the
allowance. Based on available information, the Company believes its
allowance for doubtful accounts as of June 30, 2003 is adequate.
(l) Accounting for Stock-Based Compensation
The Company accounts for its stock-based compensation plans
under Accounting Principles Board Opinion No. 25, Accounting for Stock
Issued to Employees, utilizing the intrinsic value method. Accordingly,
compensation cost for stock options issued to employees is measured as the
excess, if any, of the fair market price of the Company's stock at the
date of the grant over the amount an employee must pay to acquire the
stock. SFAS No. 123, Accounting for Stock-Based Compensation, establishes
a fair value based method of accounting for stock-based compensation
plans. The Company has adopted the disclosure only alternative under SFAS
No. 123, which requires disclosure of the pro forma effects on earnings
and earnings per share as if SFAS No. 123 had been adopted as well as
certain other information (see Note 6).
In December 2002, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No. 148, "Accounting
for Stock-Based Compensation - Transition and Disclosure" ("FAS 148"),
which (i) amends FAS Statement No. 123, "Accounting for Stock-Based
Compensation," to provide alternative methods of transition for an entity
that voluntarily changes to the fair value based method of accounting for
stock-based employee compensation (ii) amends the disclosure provisions of
FAS 123 to require prominent disclosure about the effects on reported net
income of an entity's accounting policy decisions with respect to
stock-based employee compensation and (iii) amends APB Opinion No. 28,
"Interim Financial Reporting," to require disclosure about those effects
in interim financial information. Items (ii) and (iii) of the new
requirements in FAS 148 are effective for financial statements for fiscal
years ending after December 15, 2002. The Company adopted FAS 148 for the
fiscal year ended December 31, 2002. The Company continues to account for
stock-based compensation utilizing the intrinsic value method. The
additional disclosures required by FAS 148 are as follows:
F-8
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
Three Months Ended June 30, Six Months Ended June 30,
2003 2002 2003 2002
Net (loss) as reported ($1,761,191) ($1,787,666) ($3,758,269) ($3,584,633)
Add : Stock-based employee compensation; - 0 - - 0 - - 0 - - 0 -
expense included in reported net (loss),
net of tax
Deduct : total stock-based employee compensation;
expense determined under the fair value
based method for all awards, net of tax ($71,060) ($75,847) ($140,669) ($387,102)
-------------- ----------- ----------- ------------
Pro forma net (loss) ($1,832,251) ($1,863,513) ($3,898,938) ($3,971,735)
============== =========== =========== =============
Earnings per share :
Basic and diluted - as reported (0.06) (0.13) (0.16) (0.28)
Basic and diluted - pro forma (0.06) (0.13) (0.17) (0.31)
(m) Research and Development Expenses
The Company charges research and development expenses to operations
as incurred.
(n) Comprehensive Income
SFAS No. 130, Reporting Comprehensive Income, requires disclosure of
all components of comprehensive income. Comprehensive income is defined as
the change in stockholders' equity of a business enterprise during a
period from transactions and other events and circumstances from nonowner
sources. For all periods presented, comprehensive loss consists of the
Company's net loss and changes in cumulative translation adjustment
account (see Note 2(d)). The Company has disclosed comprehensive income
(loss) for all periods presented in the accompanying consolidated
statements of stockholders' equity (deficit) follows:
Three Months Ended Three Months Ended Six Months Ended Six Months Ended
June 30, 2003 June 30, 2002 June 30, 2003 June 30, 2002
------------- ------------- ------------- -------------
Net loss $ (1,761,191) $ (1,787,666) $ (3,758,269) $ (3,584,633)
Foreign currency translation adjustment 21,423 (155,352) (150,370) (153,282)
--------------- --------------- ---------------- ----------------
Comprehensive loss $ (1,739,768) $ (1,943,018) $ (3,908,639) $ (3,737,915)
================ ================ ================ ================
(o) Income Taxes
The Company follows the provisions of SFAS No. 109, Accounting for
Income Taxes. Deferred income taxes are provided on temporary differences
that arise in the recording of transactions for financial and tax
reporting purposes and result in deferred tax assets and liabilities.
F-9
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
Deferred tax assets are reduced by an appropriate valuation allowance if
it is management's judgment that part of the deferred tax asset will not
be realized. Tax credits are accounted for as reductions of the current
provision for income taxes in the year in which the related expenditures
are incurred.
(3) NET LOSS PER SHARE
Net loss per share is computed based on the guidance of SFAS No.
128, Earnings per Share. SFAS No. 128 requires companies to report both
basic loss per share, which is based on the weighted average number of
common shares outstanding, and diluted loss per share, which is based on
the weighted average number of common shares outstanding and the weighted
average dilutive potential common shares outstanding using the treasury
stock method. As a result of the losses incurred by the Company for the
three months and six months ended June 30, 2003 and 2002, all potential
common shares were antidilutive and were excluded from the diluted net
loss per share calculations.
The following table summarizes securities outstanding as of each
period-end which were not included in the calculation of diluted net loss
per share since their inclusion would be antidilutive.
Three Months Ended Six Months Ended
June 30, June 30, June 30, June 30,
2003 2002 2003 2002
Common stock options 2,518,938 1,933,308 2,518,938 1,933,308
============== ============== ============== ==============
Common stock warrants 121,924 121,924 121,924 121,924
============== ============== ============== ==============
Convertible preferred stock 30,138,792 (B) 14,765,690 (A) 30,138,792 (B) 14,765,690 (A)
============== ============== ============== ==============
Convertible debt 2,619,048 (C) - 2,619,048 (C) -
============== ============== ============== ===============
(A) On February 14, 2002, the Company completed a reverse merger and
issued Diomed Inc. shareholders Diomed Holdings, Inc. Class A Convertible
Preferred Stock ("Class A Stock") that was convertible into Diomed Holdings,
Inc. Common Stock ("Common Stock") by February 14, 2004, the second anniversary
of the reverse merger. On December 31, 2002, according to the Class A
Convertible Preferred Stock Certificate of Designation, monthly installments of
the Class A Stock began converting into Common Stock at the rate of 5% of the
initial shares of the Class A Stock or 773,087 shares, and were to continue to
occur on the last day of each month during the period from January 2003 through
January 2004. The remaining 4,638,531 shares of Class A Stock were to have
converted into Common Stock in February 2004. On March 31, 2003, the Company
accelerated the conversions of the 13,142,188 share balance of the Class A Stock
into Common Stock. As of March 31, 2003, no shares of Class A Stock were
outstanding after the conversion into Common Stock.
(B) On May 7, 2003, the Company issued the December 2002 noteholders 20
shares of Class C Convertible Preferred Stock ("Class C Stock") convertible into
27,117,240 shares of common stock. (See Note 5e). On May 7, 2003, the Company
issued the May 2003 noteholders 24 shares of Class D Convertible Preferred Stock
("Class D Stock") convertible into 3,021,552 shares of common stock. (See Note
5f)
F-10
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
(C) On May 28, 2003, the Company amended the May 7, 2003 interim financing
transaction to make it a mandatory requirement that the May 2003 noteholders
redeem their Class D notes for common stock at the same price per share and on
the same terms and conditions as the investors that participate in the
contemplated financing. As of June 30, 2003, $1.1 million of the committed $1.2
million in interim financing had been funded. Based on the $0.42 closing price
of the Company's stock on June 30, 2003, the $1.1 million in funded Class D
notes was redeemable into 2,619,048 shares of common stock. (See Note 5f)
(4) LINE-OF-CREDIT ARRANGEMENT
Diomed, Ltd., the Company's United Kingdom-based subsidiary, utilizes a
line of credit with Barclays Bank, limited to the lesser of (pound) 350,000
($579,000 at June 30, 2003) or 80% of eligible accounts receivable. The credit
line bears interest at a rate of 3% above Barclays base rate (4.00% at June 30,
2003) and borrowings are due upon collection of receivables from customers. As
security interest, Barclay's Bank has a lien on all of the assets of Diomed
Ltd., excluding inventory and certain intellectual property.
As of June 30, 2003, there were borrowings of (pound)31,143 ($54,896)
outstanding under this line and available future borrowing capacity of
approximately $49,000.
(5) DEBT
a) QLT, Inc.
Effective October 16, 2000, the Company acquired certain manufacturing
rights and inventory of QLT, Inc. ("QLT") to commercialize certain series
of its OPTIGUIDE(R) fibers for $25,000 in cash and $1,175,000 in the form
of two promissory notes. On January 28, 2002 the Company issued QLT 135,735
shares of common stock at $2.50 per share in connection with the conversion
of the first promissory note in the amount of $339,337 into equity. On
August 5, 2002, the Company issued QLT a total of 696,059 shares of Class A
Convertible Preferred Stock at $1.50 per share in connection with the
conversion of the second promissory note in the amount of $835,664 into
equity and to reprice the conversion of the first promissory note from
$2.50 per share to $1.50 per share.
The aggregate purchase price of $1,200,000 was allocated based on the
fair value of the tangible and intangible assets acquired as follows:
Inventory................................ $ 218,623
Manufacturing rights..................... 981,377
-------------
$ 1,200,000
Amounts allocated to manufacturing rights are being amortized on the
straight-line basis over a five-year period. Amortization expense of
F-11
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
approximately $49,000 is included in general and administrative expenses for
each of the three-month periods ended June 30, 2003 and 2002, respectively, and
approximately $98,000 for each of the six-month periods ended June 30, 2003 and
2002, respectively.
b) Promissory Note Issued to Customer
In October 2000, Axcan Pharma advanced the Company $936,000 to
secure certain key materials. In September 2001, the Company issued a
promissory note to this customer in the amount of the advance. The
promissory note matures on January 1, 2004 and bears interest, at an
annual rate of 8.5%, which is payable quarterly in arrears. As of June 30,
2003 and December 31, 2002, the balance outstanding to this promissory
note was $936,000, and accrued interest was $19,836 and $20,053,
respectively.
c) Bridge Loans from Stockholders in 2001
Between September 2001 and December 2001, the Company received
an aggregate of $700,000 from two stockholders of the Company in
exchange for bridge loans in the form of secured promissory notes due
January 1, 2003. The notes were interest bearing at an annual rate of
7.5% and were convertible at the election of the noteholders into
common stock prior to the maturity date under certain financing
scenarios. In addition the Company issued these two stockholders
warrants to purchase an aggregate of 80,000 shares of common stock at a
maximum price per share of $2.00 and the warrants are exercisable for
two years from the date of issuance.
The convertibility election of the notes was not exercised. In
February 2002, subsequent to the completion of the reverse merger, the
$700,000 aggregate principal amount of the promissory notes was repaid
to the two stockholders, including cumulative interest. During the
three-month period ended March 31, 2002, the Company recorded $225,260
as additional non-cash interest expense related to warrants issued in
connection with the bridge loans, as well as beneficial conversion
features which were triggered by the acquisition discussed in Note 8.
d) Promissory Notes Issued to Service Providers
In December 2002, the Company converted amounts due for legal
services, in the amount of $416,102, into a promissory note. Payment terms
include $100,000 paid upon completion of the $2.0 million bridge financing
F-12
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
on December 27, 2002 and the balance due upon completion of a longer-term
capital financing in fiscal 2003. The promissory note bears interest at an
annual rate of 6% and is payable upon maturity. As of June 30, 2003 and
December 31, 2002, the balance outstanding to this promissory note was
$316,102, and accrued interest was $11,016 and $1,611, respectively.
In December 2002, the Company converted $183,016 due a
professional service provider for external marketing initiatives into a
promissory note. Payment terms include $50,000 paid upon completion of the
$2.0 million bridge financing on December 27, 2002, with the balance due
upon completion of a longer-term financing in fiscal 2003. The promissory
note is non-interest bearing. As of June 30, 2003 and December 31, 2002,
the note balance was $121,652 and $129,106, respectively.
e) Bridge Loan from Related Party - December 27, 2002
On December 27, 2002, the Company completed a $2.0 million bridge
note financing with Gibralt US, Inc ("December 2002 noteholder" and,
together with the three persons to whom Gibralt US subsequently transferred
$0.5 million of the notes, the "December 2002 noteholders"), whose
principal, Samuel Belzberg, is a member of the Company's Board of
Directors. The financing included $1.0 million in Class A secured notes and
$1.0 million in Class B unsecured notes due January 1, 2004. The notes
accrued interest at an annual rate of 8%, payable upon maturity.
The notes were convertible into common stock at the election of
the December 2002 noteholders upon the occurrence of: (i) a financing
transaction, (ii) a liquidity event, (iii) a merger or reorganization, or
(iv) at any time during the life of the notes at the election of the
holders of at least 66 2/3% of the outstanding principal amount of the
notes. The notes, including principal and accrued interest, were
convertible into common stock at 80% of the common stock price at the time
of conversion.
As security for the notes, the Company formed a new wholly owned
subsidiary ("PDT Co"), transferred its assets for photodynamic therapy
("PDT") to PDT Co, including intellectual property, manufacturing rights
and trademarks for lasers and disposable Optiguide(R) fibers, and pledged
100% of the shares of PDT Co to the December 2002 noteholder. As
additional security, the Company granted a security interest in the
following unencumbered assets of Diomed Inc. to the December 2002
noteholders: equipment, inventory, accounts receivable, intellectual
property and cash deposit accounts. The December 2002 noteholders' lien on
the inventory is subordinate to Axcan Pharma's lien on inventory. (See
Note 5b)
As additional consideration for the financing provided to it, the
Company issued to the December 2002 noteholders warrants to purchase
8,333,333 shares of common stock, based upon the $0.24 closing price of
the Company's common stock on December 26, 2002. The warrants were
exercisable for a period of five years beginning June 27, 2003 at an
exercise price of $0.26, which was 110% of the market price of the stock
on December 26, 2002. If prior to the exercise of the warrants the Company
issued common stock or common stock equivalents at a price per share less
than the exercise price of the warrants, the number of warrants and the
exercise price of the warrants were to be adjusted to the lower price per
share. In the event of a merger or reorganization, the warrants were
convertible into the kind and number of shares of common stock, other
securities or property into which the warrants would have been converted
into if the warrants had been converted into common stock based on the
provisions of the merger or reorganization.
F-13
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
The Company agreed to notify the December 2002 noteholders
whenever the Company proposed to file certain registration statements. The
Company agreed to use its best efforts to include the shares of Common
Stock into which the notes were convertible and the shares for which the
warrants were exercisable held by the December 2002 noteholders in the
registration statement, subject to certain limitations, if so requested by
the noteholders within 30 days after receipt of said notice.
The notes and warrants are transferable in part or in whole by
the December 2002 noteholders to one or more third parties, in accordance
with all of the same terms granted the noteholder by the Company. The
December 2002 noteholders may designate a member to the Company's Board of
Directors while the notes are outstanding. The Company was required to
obtain the advance approval by the December 2002 noteholders for future
financing transactions during the life of the notes.
In connection with the bridge financing, a debt discount
valued at $2.0 million was incurred as a result of the issuance of warrants
and the beneficial conversion feature related to the immediate
convertibility of the notes to equity. The value ascribed to the warrants
was approximately $1.2 million, as calculated using the Black-Scholes
option pricing model, and the value ascribed to the beneficial conversion
feature of the notes was $0.8 million. In accordance with Emerging Issues
Task Force (EITF) 00-27, "Application of EITF No. 98-05 to Certain
Convertible Instruments," the Company recorded a beneficial conversion
feature in the amount of $2.0 million, which was recorded as a debt
discount to the notes. The note discount was to be amortized over the term
of the notes. Accordingly, the notes were originally recorded at net value
of zero (after the $2.0 million discount). In the three-month and six-month
periods ended June 30, 2003, the Company recognized $500,000 and $833,000
respectively in non-cash interest expense pertaining to this amortization
of the debt discount.
In connection with the bridge financing, the Company incurred
$80,000 in related legal fees. As of December 31, 2002, these costs were
capitalized as deferred financing costs and were to be amortized to
interest expense over the life of the notes, such that the full amount of
costs were amortized by the earlier of the maturity date of the notes or by
the month the notes were converted into equity. In May 2003, the Company
expensed the balance of the deferred financing costs upon completion of the
May 7, 2003 exchange transaction. In the three-month and six-month periods
ended June 30, 2003, the Company recognized $60,000 and $80,000,
respectively, in interest expense pertaining to this amortization of the
deferred financing costs, and accordingly, the balance of the deferred
financing costs was zero as at June 30, 2003.
On March 18, 2003, the initial December 2002 noteholder sold and
transferred to three investors in a private transaction (i) $500,000
aggregate principal amount of notes ($250,000 of which were Class A notes
and $250,000 of which were Class B notes) and (ii) warrants to purchase
2,083,334 shares of common stock. Accordingly, after the taking effect of
this transfer, the initial noteholder owned $1,500,000 aggregate principal
amount of notes ($750,000 of which were Class A notes and $750,000 of which
were Class B notes) and warrants to purchase 6,249,999 shares of common
stock.
During the first quarter of 2003, it became clear that the
successful operations of the Company would require additional working
capital. In April 2003, the Company began discussions with Gibralt US with
F-14
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
a view to its providing early in the quarter interim financing in addition
to that it had provided in December 2002. The Company also began to
consider a subsequent financing expected to begin later in the quarter that
would address its longer term capital needs. In late April, the Company
elected to obtain up to $1.2 million of interim financing from Gibralt US
and two of its directors. At the same time, the Company proposed a
restructuring of the securities issued in December 2002 to improve its
access to the financial markets and enhance the likelihood of a subsequent
financing. Therefore, the Company offered to repurchase from the December
2002 noteholders certain of their rights that, in light of current market
conditions, might have made it more difficult to successfully complete a
subsequent financing in the current market.
Using the Black Scholes valuation methodology, the Company calculated
the monetary value of the rights of the December 2002 noteholders to
convert their notes into shares of common stock and the monetary value of
the common stock purchase warrants. The Company further engaged a
professional valuation firm to provide a professional opinion as to the
valuations that it had calculated. The price per share that the Company
employed to calculate the number of shares to equal to the monetary value
of the rights that the December 2002 noteholders would be surrendering was
the presumed price per share of its common stock after giving effect to the
issuance of those shares.
At the time when the Class A secured notes and Class B unsecured notes
were issued, the Company could not issue more than $1.0 million in secured
debt without first obtaining prior approval by its preferred stockholders
under the terms of its Class A Convertible Preferred Stock. On March 31,
2003, the Company converted all of its Class A Convertible Preferred Stock
into common stock to eliminate the convertibility overhang and its apparent
negative impact on the Company's chances for successfully obtaining
additional financing. On May 7, 2003, the December 2002 noteholders
exchanged their $1.0 million principal amount of secured Class A notes and
$1.0 million principal amount of unsecured Class B notes for $2.0 million
principal amount of secured Class C notes due January 1, 2004.
On May 7, 2003, the Company issued to the December 2002 noteholders 20
shares of its Class C Convertible Preferred Stock ("Class C Stock")
convertible into 27,117,240 shares of common stock in exchange for
eliminating the convertibility feature of the $2.0 million principal amount
of notes and the warrants to purchase 8,333,333 shares of common stock, as
well as certain other rights. If the Company does not complete its
contemplated subsequent financing by November 15, 2003, or if its common
stockholders do not approve the issuance of the common stock underlying the
common share equivalents issued in the exchange transaction and the interim
financing, the December 2002 noteholders can elect to rescind the exchange
transaction, in which event the Company would reissue the warrants to
purchase 8,333,333 shares originally issued on December 27, 2002, replace
the Class C notes with fully secured notes due January 1, 2004 in the
aggregate principal amount of $2.0 million having the same terms and
conditions as the Class A secured notes, including the conversion rights,
and cancel the preferred stock representing 27,117,240 common stock
equivalents issued to the December 2002 noteholders on May 7, 2003.
The exchange of debt and preferred stock for the elimination of
warrants and modification of the December 2002 notes was treated as an
extinguishment of the $2.0 million debt. As a result, the fair market value
of the warrants and other consideration, which was limited to the remaining
unamortized discount on the December 2002 notes, was recorded as a
reduction in additional paid-in-capital in the amount of $1,167,000 and the
remaining unamortized discount was reduced to zero. The Company recorded a
discount in the amount of $2.0 million for the fair value of the preferred
stock issued with the Class C notes. Accordingly, the Class C notes are
recorded at net value of zero (after the $2.0 million discount). The
discount on the Class C notes will be amortized over the life of the debt.
In the three-month period ended June 30, 2003, the Company recognized
$65,000 in non-cash interest expense related to this amortization of the
debt discount and accordingly the Class C notes were recorded at $65,000 as
of June 30, 2003.
On May 28, 2003, the Company and the December 2002 noteholders amended
certain of the terms of the May 7, 2003 capital restructuring to: (i)
extend the due date of the Class C notes from January 1, 2004 until January
1, 2006, (ii) increase the rate of interest payable on the Class C notes
from 8.0% to 12.5%, (iii) provide for mandatory prepayments of principal of
the Class C notes in amounts up to 50% of positive quarterly cash flow,
(iv) limit the security interest in inventory that secures the Class C
notes at $3,271,000, (v) waive the noteholders' right of
F-15
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
approval of future financing transactions and (vi) extend the deadline by
which the financing was to be completed without triggering the noteholders'
right of rescission, from June 30, 2003 to July 31, 2003 (under the terms
of the restructuring if the contemplated financing were not completed by
July 31, 2003 the December 2002 noteholders had the right to rescind the
May 7, 2003 exchange transaction). On July 31, 2003, the deadline by which
the financing was to be completed without triggering the noteholders' right
of rescission was extended until November 15, 2003. The Class C notes were
exchanged for Class E notes reflecting these modified terms, in principal
amounts equal to the principal amounts of the Class C notes so exchanged.
f) Bridge Loans from Related Parties - May 7, 2003
On May 7, 2003, Gibralt US and two of the Company`s directors, James
A. Wylie, Jr. and Peter Norris (the "May 2003 noteholders"), committed to
provide financing of up to $1.2 million in the form of Class D secured
notes due May 6, 2004. The Company issued the May 2003 noteholders an
aggregate of 24 shares of Class D Convertible Preferred Stock ("Class D
Stock") convertible into 3,021,552 shares of common stock. The Class D
notes accrue interest at an annual rate of 8%, payable upon maturity. As of
June 30, 2003, $1.1 million of the committed $1.2 million in interim
financing had been funded. On July 7, 2003, the $100,000 balance of the
committed financing was funded.
The May 2003 noteholders have the same security interest and
registration rights granted to the December 2002 noteholders, as described
in Note 5e. The notes are not transferable without the prior consent of the
Company.
The May 2003 noteholders have the right to participate in the
Company`s financing contemplated for the second half of 2003 on the same
terms and conditions as the new investors by redeeming their notes. In
determining the price at which the Company sold its notes, an independent
committee of the board of directors considered the added risk that the May
2003 noteholders would be accepting in light of the uncertainty of the
completion of the contemplated financing. The December 2002 notes provided
that the corresponding noteholders had the right to participate in the next
financing of the Company at a discount of 20% to the price to be paid by
investors. Using this discount factor as a benchmark for arriving at a
value for the risk that the May 2003 noteholders would be assuming, among
other factors, the independent committee authorized the issuance of
preferred shares convertible into 3,021,552 shares of common stock,
allocated according to the noteholder`s respective loan commitments.
If the Company does not complete its contemplated subsequent financing
by November 15, 2003, the May 2003 noteholders have the right to declare
the principal plus any accrued and unpaid interest, immediately due and
payable.
The Company recorded an amount of $240,000 for the fair value of
the preferred stock issued, which has been recorded as a debt discount to
the class D notes. As the notes become convertible only upon the occurrence
of a future event outside the control of the holder, the contingent
beneficial conversion feature could not be measured at the commitment date
and it will be recognized in earnings when the contingency is resolved. It
is expected that the redemption of the notes may result in a beneficial
conversion feature as the Company's contemplated financing may be at a
discount from the market price of the common stock. The maximum amount of
any beneficial conversion feature would be approximately $960,000.The
discount on the Class D notes will be amortized over the life of the debt.
In the three-month period ended June 30, 2003, the Company recognized
$40,000 in non-cash interest expense related to this amortization of the
debt discount, and accordingly the Class C notes were recorded at $900,000
as of June 30, 2003.
On May 28, 2003, the Company and the May 2003 noteholders amended
certain of the terms of the May 7, 2003 interim financing to: (i) add a
requirement that 100% of the Class D Notes be redeemed into common stock in
the contemplated financing at the same price per share and on the same
terms as the new investors if the Company raises $6.0 million or more in
gross proceeds and (ii) extend the deadline for completion of the
contemplated financing without triggering the right of the May 2003
noteholders to declare the Class D Notes due and payable to July 31, 2003.
On July 31, 2003, this date was further extended to November 15, 2003.
In connection with the interim financing, the Company incurred $51,000
in related legal fees. As of June 30, 2003, these costs were capitalized
F-16
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
as deferred financing costs and will be amortized to interest expense over
the life of the Class D notes, such that the full amount of costs are
amortized by the earlier of the maturity date of the Class D notes or by
the month the Class D notes are converted into equity. In the three-month
period ended June 30, 2003, the Company recognized $8,500 in interest
expense pertaining to this amortization of the deferred financing costs,
and accordingly, the balance of the deferred financing costs was $42,500 as
at June 30, 2003.
The following chart summarizes the Company's current and long term debt at December 31, 2002:
December 31, 2002 December 31, 2002
Current Long-Term
Promissory notes payable $ 445,208 $ -
Non-convertible debt - 936,000
Related party convertible debt (face value) 2,000,000
Capital equipment leases 33,993 10,018
--------- -------------
$ 479,201 $ 2,946,018
========= =============
The following chart summarizes the Company's current and long term debt at June 30, 2003:
June 30, 2003 June 30, 2003
Current Long-Term
Promissory notes payable $ 437,754 $ -
Non-convertible debt 936,000
Related party
non-convertible debt (face value) - 2,000,000
Related party redeemable debt(face value) 1,100,000 -
Capital equipment leases 27,254 -
----------- ---------------
$ 2,501,008 $ 2,000,000
=========== ===============
(6) Stock Options
In November 1998 and May 2001, respectively, the Company's board of
directors approved the 1998 Incentive Plan (the "1998 Plan") and the 2001
Stock Option Plan (the "2001 Plan") (collectively, the "Plans"),
permitting the granting of stock options to employees, directors,
consultants and advisors, which may be either incentive stock options or
nonqualified options and stock awards. The Board has reserved 750,000 and
1,750,000 shares of common stock for issuance under the 1998 Plan and the
2001 Plan, respectively.
The exercise price and vesting are determined by the board of
directors at the date of grant. Options generally vest over two and four
years and expire 10 years after the date of grant. Incentive stock options
under the Plans are granted at not less than fair market value per share
of common stock on the date of grant or 110% of fair market value for any
stockholder who holds more than 10% of the total combined voting power of
all classes of stock of the issuer.
F-17
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
A summary of stock option activity is as follows:
Weighted
Average
Range of Number of Exercise
Exercise Price Shares Price
Outstanding, December 31, 2000 2.24-8.23 840,640 4.37
Granted 1.25-2.25 1,056,653 1.33
Forfeited 3.50-6.36 (123,553) 2.75
------------- ------------- -------------
Outstanding, December 31, 2001 1.25-8.23 1,773,740 2.65
------------- ------------- -------------
Granted 0.34-5.35 450,200 2.35
Forfeited 1.25-8.23 (620,655) 2.87
------------- ------------- -------------
Outstanding, December 31, 2002 $ 0.34-8.23 1,603,285 $ 2.90
------------- ------------- -------------
Granted 0.17-0.34 1,125,890 0.26
Forfeited 0.33-5.51 (210,237) 2.69
------------- ------------- -------------
Outstanding, June 30, 2003 $ 0.17-8.23 2,518,938 $ 1.77
============= ============= =============
Exercisable, December 31, 2001 $ 1.25-8.23 911,537 $ 3.83
============= ============= =============
Exercisable, December 31, 2002 $ 0.34-8.23 1,150,115 $ 3.49
============= ============= =============
Exercisable, June 30, 2003 $ 0.17-8.23 1,475,927 $ 2.59
============= ============= =============
As of June 30, 2003, 849,441 options were available for future grants
under the Plans, including 614,671 options under the 1998 Plan and 234,770
options under the 2001 Plan. However, the Company in the years ended December
31, 2001 and 2002, and the three and six-month periods ended June 30, 2003 has
granted options only under the 2001 Plan and does not intend to grant options
under the 1998 Plan.
On June 2, 2003, the board of directors authorized the grant of
2,137,500 stock options to purchase shares of Common Stock to directors and
officers, non-executive employees and a third party service provider. These
stock options were granted pursuant to the Company's 2003 Omnibus Incentive Plan
and were granted with an exercise price of $0.30 per share, the closing price of
the Company's Common Stock on June 2, 2003. The Company will seek stockholder
approval of the 2003 Omnibus Incentive Plan at its 2003 annual meeting of
stockholders, to be held in the third or fourth quarter of 2003.
F-18
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
The following table summarizes information relating to currently
outstanding and exercisable options as of June 30, 2003.
OUTSTANDING EXERCISABLE
Weighted
Average
Remaining
Number of Contractual Weighted Average Number of Weighted Average
Exercise Price Shares Life (in Years) Exercise Price Shares Exercise Price
$ 0.17-2.00 1,789,270 8.5 $ 0.62 798,927 $ 0.80
2.25-3.54 306,468 3.4 2.63 270,987 2.63
4.00-6.56 407,200 3.4 5.90 390,013 5.97
8.05-8.23 16,000 2.7 8.23 16,000 8.23
----------- ----------- ---------- -----------
2,518,938 $ 1.76 1,475,927 $ 2.58
=========== =========== ========== ===========
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option pricing model with the following assumptions used
for grants during the applicable period:
December 31, June 30,
2002 2003
Risk-free interest rate 1.84 - 4.74% 1.23-2.93%
Expected dividend yield -% -%
Expected lives 5 years 5 years
Expected volatility 75% 75%
Weighted average grant date
fair value per share $ 1.05 $ 0.15
Weighted average remaining
contractual life of options
outstanding 6.9 years 7.8 years
Issuance of Stock Options to Consultants
In January 2003, the Company granted fully exercisable options to
purchase 60,000 shares of common stock at the exercise price per share of
$0.26 and 930 options to purchase shares of common stock at the exercise
price of $0.34 to two consultants in exchange for marketing services. The
Company recorded the fair value of such options, based on the
Black-Scholes option pricing model, as stock-based compensation expense
totaling $8,600 in the statement of operations for the three month period
ended March 31, 2003.
F-19
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
Warrants
A summary of warrant activity is as follows:
Weighted
Average
Remaining
Weighted Contractual
Range of Number of Average Life (in
Exercise Price Shares Exercise Price Years)
Outstanding, December 31, 2001 2.00-3.50 111,924 2.56 1.6
Granted to stockholders 2.00 10,000 2.00 0.5
Granted to related party 0.26 8,333,333 0.26 5.5
Forfeited - - - -
------------- ------------- -------------
Outstanding, December 31, 2002 $ 0.26-3.50 8,455,257 $ 0.29 5.4 years
============== ============= ===============
Granted to stockholders - - -
Granted to related party - -
Exchanged - (8,333,333) 0.26
--------------- ------------- -------------
Outstanding, June 30, 2003 $ 2.00-3.50 121,924 $ 2.52 1.0 years
=============== ============= =============
(7) SEGMENT REPORTING
The Company's reportable segments are determined by product type:
laser systems, and fibers, accessories and service. The accounting
policies of the segments are the same as those described in Note 2. The
Executive Management Committee evaluates segment performance based on
revenue. Accordingly, all expenses are considered corporate level
activities and are not allocated to segments. Also, the Executive
Management Committee does not assign assets to its segments.
This table presents revenues by reportable segment:
Three Month Period Ended Six Month Period Ended
June 30, June 30, June 30, June 30,
2003 2002 2003 2002
Laser systems $ 1,295,953 $ 614,010 $ 2,701,697 $ 1,136,060
Fibers, accessories and service 852,587 554,498 1,570,653 989,085
----------- ----------- ----------- -----------
Total $ 2,148,540 $ 1,168,508 $ 4,272,350 $ 2,125,145
=========== =========== =========== ===========
F-20
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
The following table represents percentage of revenues by geographic destination:
Three Month Period Ended Six Month Period Ended
June 30, June 30,
2003 2002 2003 2002
North America 59% 54% 60% 52%
Asia/Pacific 24% 23% 25% 24%
Europe 16% 21% 14% 22%
Other 1% 2% 1% 2%
------------ ------------ ------------ ------------
Total 100% 100% 100% 100%
============ ============ ============ ============
The following table represents long-lived assets by geographic location:
June 30, 2003 December 31, 2002
North America $ 1,158,873 $ 1,175,410
Europe 774,737 1,131,437
-------------- --------------
Total $ 1,933,610 $ 2,306,847
============== ==============
(8) MERGER AND PRIVATE OFFERING OF COMMON STOCK
On February 14, 2002, Diomed Acquisition Corp. ("Acquisition"), a
Delaware corporation and a wholly-owned subsidiary of Diomed Holdings,
Inc., a Nevada corporation formerly known as Natexco Corporation (the
"Parent") merged with and into the Company pursuant to an Agreement and
Plan of Merger, dated as of January 29, 2002. In the merger (the "Merger")
that occurred under the Agreement and Plan of Merger, the stockholders of
the Company received shares of Diomed Holdings, Inc. Class A Convertible
Preferred Stock ("Class A Stock") that was convertible into Diomed
Holdings, Inc. Common Stock ("Common Stock") by February 14, 2004, the
second anniversary of the reverse merger. As a condition to the Merger,
Parent raised gross proceeds of $10.0 million in a private offering of
shares of its common stock. The shares issued in the private offering were
not subject to refund, redemption or rescission and, accordingly, were
included as a component of stockholders' equity, net of the applicable
costs. The merger agreement provides that the proceeds of that offering
will be available to the Company for payment of its existing obligations
and, subject to the approval of its board of directors, certain future
expenses, including the financing of product developments and acquisitions.
After the Merger, the Company's former stockholders owned approximately 51%
of the issued and outstanding shares of Parent (in terms of common share
equivalents).
Parent was obligated to use its best efforts to file a registration
statement with the Securities and Exchange Commission to register for
resale its common shares that it issued in the private offering and those
of its common shares that it issued to the Company's former stockholders
and to cause the registration statement to be declared effective. On
October 24, 2002, the Company received approval of its registration
statement by the Securities and Exchange Commission.
On December 31, 2002, according to the Class A Convertible Preferred
Stock Certificate of Designation, monthly installments of the Class A Stock
began converting into Common Stock at the rate of 5% of the initial shares
of the Class A Stock or 773,087 shares, and were to continue to occur on
the last day of each month during the period from January 2003 through
January 2004. The remaining 4,638,531 shares of Class A Stock were to have
converted into Common Stock in February 2004. On March 31, 2003, the
Company accelerated the conversions of the 13,142,188 share balance of the
Class A Stock into Common Stock. As of March 31, 2003, no shares of Class A
Stock were outstanding after the conversion into Common Stock.
F-21
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
The Merger was accounted for as a recapitalization. The historical
records of the Company are the historical records of Parent. Following the
Merger, the business conducted by Parent is the business conducted by
Diomed prior to the Merger.
Costs of approximately $2.1 million related to the issuance of
Parent's shares in the offering and its preparation and negotiation of the
documentation for the Merger were paid by the Company at the closing of the
Merger and subsequent to the Merger.
(9) Exchange of Class C Convertible Preferred Stock and Class D Convertible
Preferred Stock
The Company has been named as a defendant in a class action lawsuit,
Augenbaum vs. Diomed Holdings, Inc., commenced on July 28, 2003 in Delaware
Chancery Court (C.A. No. 20454). The complaint and accompanying motion for
permanent injunction challenge one of the amendments to the Company's
certificate of incorporation that were to have been voted upon at the
Company's annual meeting of stockholders to have been held on July 29,
2003. The amendment in question would increase the number of authorized
shares of the Company's common stock to 500 million. The claims of the
class plaintiff challenged the propriety of the record date set for the
2003 annual meeting, the voting of all outstanding classes of the Company's
capital stock as one class and the rights of the holders of the Company's
Class C Stock and Class D Stock to convert their preferred shares and vote
their preferred shares as if they had been converted.
On August 6, 2003, the Company entered into a stipulation of
settlement to resolve this case. The terms of the settlement required the
adjournment of its 2003 annual meeting and the reconvening of its annual
meeting during the late third quarter or early fourth quarter of 2003. At
the reconvened annual meeting, the Company will seek the approval of its
stockholders for the matters that had been proposed for the annual meeting
originally to have been held on July 29, 2003. The Company anticipates in
addition that, at the reconvened annual meeting, it will seek the approval
of its stockholders for the issuance of shares of its common stock to the
investors that invest in its contemplated financing, as well as the
issuance of common stock to the investors that provided an aggregate of
$3.2 million bridge financing to the Company in December 2002 and May 2003.
In addition, the settlement requires the Company to pay up to $150,000 in
to the class plaintiff's legal fees.
The Company has disclaimed any liability whatsoever relating to any of
the settled claims, has denied having engaged in any wrongful or illegal
activity or having violated any law or regulation or duty,
F-22
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2003
has denied that any person or entity has suffered any harm or damages as a
result of the settled claims and has made the settlement to avoid the
distraction, burden and expense occasioned by continued litigation. The
court has made no finding that the Company or any of its related persons
engaged in any wrongdoing or wrongful conduct or otherwise acted improperly
or in violation of any law or regulation or duty in any respect.
By way of background, on May 7, 2003, the Company issued to the
December 2002 noteholders 20 shares of Class C Stock convertible into
27,117,240 shares of common stock in exchange for the convertibility
feature of the Class A and Class B notes, warrants to purchase 8,333,333
shares of common stock and certain other rights. On May 7, 2003, the
Company issued to the May 2003 noteholders 24 shares of Class D Stock
convertible into a total of 3,021,552 shares of common stock in connection
with commitments for $1.2 million in interim financing.
In connection with the stipulation of settlement, the Company has
agreed with the holders of the Company's Class C Stock by which the holders
will tender all 20 shares of the Company`s Class C Stock in exchange for an
equal number of shares of Class E Preferred Stock ("Class E Stock"), and
the Company will enter into an agreement with the holders of the Company's
Class D Stock by which the holders will tender all 24 shares of Class D
Stock in exchange for an equal number of shares of the Company`s Class F
Preferred Stock ("Class F Stock"). The Class E Stock and Class F Stock and
will entitle the holders to one vote per share of the Class E Stock and
Class F Stock. The Class C Stock and Class D Stock will be eliminated.
Following stockholder approval of the issuance of shares of common
stock to be issued in exchange for the Class E Stock and Class F Stock, the
Company has the right to purchase from the holders of the Class E Stock and
the holders of the Class E Stock are obligated to sell all 20 shares of
Class E Stock in exchange for 27,117,240 shares of common stock, and the
Company has the right to purchase from the holders of the Class F Stock and
the holders of the Class F Stock are obligated to sell all 24 shares of
Class F Stock in exchange for 3,021,552 shares of common stock.
Upon a sale, lease, exchange or other disposition of all or
substantially all of the Company's assets, the holders of the Class E Stock
and Class F Stock have the right to tender all shares of their preferred
stock in exchange for the corresponding numbers of shares of common stock
noted above.
Shares of Class E Stock and Class F Stock are preferred in liquidation
to the extent that before any distribution is made to the holders of common
stock, there would be a distribution to the holders of the Class E Stock in
the amount of $108,469 per share of Class E Stock and a distribution to the
holders of the Class F Stock in the amount of $10,072 per share of Class F
Stock. The holders of the common stock would share pro rata in the
remainder of the net liquidation proceeds.
The stipulation of settlement becomes final (i) upon entry of the
court`s order and final judgment approving the settlement; and (ii) upon
the expiration of any applicable appeal period for the appeal of the
court`s order and final judgment without an appeal having been filed or, if
an appeal is taken, upon entry of an order affirming court`s order appealed
from and the expiration of any applicable period for the reconsideration,
rehearing or appeal of such affirmance without a motion for such
reconsideration, rehearing or further appeal being filed.
F-23
Item 2. Management's Discussion and Analysis or Plan of Operation
In this Quarterly Report, the terms "Company" and "Diomed Holdings"
both refer to Diomed Holdings, Inc. The term "Diomed" refers to the Company's
principal subsidiary, Diomed, Inc. and its consolidated subsidiaries. We use the
terms "we," "our" and "us" when we do not need to distinguish among these
entities or their predecessors, or when any distinction is clear from the
context.
This section contains forward-looking statements, which involve known
and unknown risks and uncertainties. These statements relate to our future
plans, objectives, expectations and intentions. These statements may be
identified by the use of words such as "may," "will," "should," "potential,"
"expects," "anticipates," "intends," "plans," "believes" and similar
expressions. These statements are based on our current beliefs, expectations and
assumptions and are subject to a number of risks and uncertainties. Our actual
results could differ materially from those discussed in these statements. Our
Annual Report on Form SEC 10-KSB (the "Annual Report") contains a discussion of
certain of the risks and uncertainties that affect our business. We refer you to
the "Risk Factors" on pages 5 through 16 of the Annual Report for a discussion
of certain risks, including those relating to our business as a medical device
company without a significant operating record and with operating losses, our
risks relating to our commercialization of our current and future products and
applications and risks relating to our common stock and its market value.
In view of our relatively limited operating history, we have limited
experience forecasting our revenues and operating costs. Therefore, we believe
that period-to-period comparisons of financial results are not necessarily
meaningful and should not be relied upon as an indication of future performance.
To date, the Company has incurred substantial costs to create our products. As
of June 30, 2003, we had an accumulated deficit of approximately $43.2 million.
We may continue to incur operating losses due to spending on research and
development programs, clinical trials, regulatory activities, marketing and
administrative activities. This spending may not correspond with any meaningful
increases in revenues in the near term, if at all. As such, these costs may
result in negative operating cash flows until such time as the Company generates
sufficient revenue to offset such costs.
The following discussion should be read in conjunction with the
Consolidated Financial Statements and Notes set forth above in this Quarterly
Report and our 2002 Annual Report on Form 10-KSB (as amended).
Overview
Diomed specializes in developing and commercializing minimally and
micro-invasive medical procedures that use its laser technologies and disposable
products. Minimally and micro-invasive medical procedures typically result in
reduced pain and scarring, shorter recovery periods and increased effectiveness
compared to traditional surgical procedures. Most of the pain associated with
traditional surgical procedures results from the slicing of the layers of skin
and muscle tissue, which can be significantly diminished with minimally and
micro-invasive procedures.
In developing and marketing our clinical solutions, we use proprietary
technology and we aim to secure strong commercial advantages over our
competitors by gaining governmental approvals in advance of others and through
exclusive commercial arrangements. To participate in the rapidly growing
minimally and micro-invasive medical procedure industry, we seek to develop
medical applications for our laser technology, to incorporate disposable
products into these applications and to market our products to physicians who
perform medical procedures using our products and the techniques that we
develop. To optimize our revenues, we focus on clinical procedures that require
the health care provider to own our equipment and also purchase our disposable
products, such as kits and optical fibers.
Using our proprietary technology in certain methods of synchronizing
diode light sources and in certain optical fibers, we currently focus on
endovenous laser treatment (our EVLT(R) product line) for use in varicose vein
1
treatments, photodynamic therapy (our PDT product line) for use in cancer
treatments, and other clinical applications. Using high power semiconductor
diodes as their energy source, our diode lasers combine clinical efficacy,
operational efficiency and cost effectiveness in a versatile, compact,
lightweight, easy-to-use and easy-to-maintain system.
In 2001, Diomed developed endovenous laser treatment (EVLT(R)), an
innovative minimally invasive laser procedure for the treatment of varicose
veins caused by greater saphenous vein reflux. In September 2001, Diomed was the
first company to receive the CE mark of the European Economic Union for approval
for endovenous laser treatment with respect to marketing EVLT(R) in Europe. On
January 22, 2002, Diomed was the first company to receive FDA clearance for
endovenous laser treatment, with respect to marketing EVLT(R) in the U.S.
EVLT(R) was a primary source of revenue in 2002. Diomed expects that
EVLT(R) will continue to be a primary source of revenue in 2003. Diomed believes
that EVLT(R) will achieve a high level of commercial acceptance due to its
related short recovery period, immediate return to one's normal routine barring
vigorous physical activities, reduced pain and minimal scarring, and reduced
costs compared to other vein treatments for varicose veins. We developed our
EVLT(R) product line as a complete clinical solution and marketing model,
including a laser, disposable kit, clinical training and marketing plan, to
assist office-based and hospital-based physicians in responding to the demand
for treatment of varicose veins in a minimally invasive manner. Diomed has also
published a health insurance reimbursement guide to assist physicians in the
reimbursement submission process. We believe that these attributes, in addition
to EVLT(R)'s superior clinical trial results, favorable peer reviews and
comparatively larger and longer follow-up data reports provide EVLT(R) with a
competitive advantage over competing traditional and minimally invasive varicose
vein treatment products.
Diomed expects that as the number of EVLT(R) procedures performed
increases so will its sales of associated disposable items. Diomed believes that
the U.S. represents the single largest market for EVLT(R). Diomed is targeting
its sales and marketing efforts at hospitals, private physician practices and
clinics, and focuses on leading hospitals. We sell our products to hospital and
office-based physicians, including specialists in vascular surgery,
interventional-radiology, general surgery, phlebology, gynecology and
dermatology.
Diomed has developed a website - www.EVLT.com - to implement its push /
pull strategy to attract the interest of both patients and physicians. EVLT.com
provides patients with education about treatment options and benefits of EVLT(R)
and provides physicians with education about the EVLT(R) procedure. At
www.EVLT.com, patients can also locate the nearest physician performing EVLT(R)
by inputting their city and state.
The sales cycle for selling capital equipment, such as medical lasers,
can be affected by several factors, including:
o the customer's internal approval process;
o hospital determinations as to the specialty of physician performing
the EVLT(R)procedure and the facility where these procedures will be
performed;
o the physician's desire to observe an EVLT(R)procedure prior to making
a purchase decision; and
o budget constraints for capital equipment.
The length of the sales cycle may vary according to the type of customer.
For example, a sale to a private physician may take as little as two to three
months, whereas a sale to a hospital may take six months or longer. Diomed
2
provides both hospital-based and office-based physicians with marketing guidance
as to how they can build an EVLT(R) business, facilitating the sales closing
process and reducing the sales cycle.
Prior to 2002, the Company sold its products through independent sales
representatives in the U.S. and through distributors internationally. In March
2002, Diomed made the decision to execute a direct sales strategy to
commercialize EVLT(R) in the U.S. In addition, in September 2002, Diomed engaged
Sigmacon Health Products Corporation of Toronto, Ontario as its distributor in
the Canadian market. The Company will continue to monitor sales activities and
strategies, and adjust the number of direct sales representatives, indirect
sales representatives and distributors to address market needs and opportunities
in the future.
Diomed's sales of its PDT product line are dependent to an extent upon the
clinical development process and the commercialization of PDT drugs by PDT drug
companies. In 2001, our collaborative partner, Axcan Pharma, lead the sales
effort for PDT in conjunction with Axcan Pharma's drug, Photofrin. We are unable
to predict any probable impact on our revenues because EVLT(R) and not PDT is
our primary source of revenue for 2002 and because Photofrin is the first PDT
drug brought to market by Axcan Pharma. Consequently, there is not sufficient
relevant historical data on which to base sales assumptions.
Diomed works jointly and early on in the development cycle with
photodynamic therapy drug (PDT) companies in their clinical development process
in order to design a laser that optimizes wavelength with their PDT drugs. We
have long-term relationships with some of the world's leading PDT drug
companies, including Axcan Pharma, and have sold them lasers in support of their
clinical trials for PDT applications.
In the U.S., regulatory approval by the FDA is given for each specific
treatment in response to a specific pre-market approval application, or "PMA."
Each PMA is generally addressed to a use for the device that the PMA specifies.
Our PDT line is a delivery system of laser technology, services and fiber
disposables to the global PDT industry. The FDA considers PDT a modality that
requires a combination PMA approval, where the PDT drug company, laser
manufacturer and fiber manufacturer work together to obtain regulatory approval
for the complete medical procedure.
Our technology and manufacturing capability has attracted original
equipment manufacturing (OEM) partners. In a typical OEM relationship, we
produce the laser and other products to the OEM's specifications, which will
then be marketed under the OEM's label. As a result, sales of our products to
OEM partners may fluctuate in relation to the achievement of their strategic
initiatives. Our most prominent OEM relationship is with Olympus in Japan, which
is using our technology for surgical and dental applications. In addition we
have a long-term partnership with Dentek Lasersystems Vertriebs GmbH, which is
using our laser module for dental applications.
In 2002, approximately 55% of our sales were generated in the U.S. and
45% in other markets around the world. Diomed believes that its percentage of
sales generated domestically should increase as it grows the EVLT(R) market in
the U.S. In the first six months of 2003, the percent of sales generated
domestically increased to 60%.
In 2003, Diomed expects to continue to focus on the development and growth
of EVLT(R) sales in the U.S. while simultaneously pursuing channels for future
sales worldwide, to support the development and approval of new applications for
PDT products, and to continue the development of enhancements to our products in
order to further improve their effectiveness and manufacturing efficiency.
3
Results of Operations
Three Months Ended June 30, 2003 Compared to the Three Months Ended
June 30, 2002
Revenues
Revenues for the three months ended June 30, 2003 were $2.1 million,
increasing approximately $1.0 million or 84% from $1.2 million for the same
period in 2002.
In the three months ended June 30, 2003, approximately $1.3 million or
60% of our total revenues were derived from laser sales, as compared to
approximately $0.6 million or 53% in the same period in 2002. In the three
months ended June 30, 2003, approximately $0.8 million or 40% of our total
revenues were derived from sales of disposable fibers and kits, accessories and
service, as compared to approximately $0.6 million or 47% in the same period in
2002.
The increase in revenues is principally due to the commercialization of
EVLT(R) for the treatment of varicose veins. In the second quarter of 2003, the
Company experienced a 281% increase in the sale of EVLT(R) related disposable
kits and fibers as compared to the second quarter in 2002. This increase
represents a strong growth trend in a recurring revenue stream from disposable
sales, a key element in the Company's business strategy.
Cost of Revenues
Cost of revenues for the three months ended June 30, 2003 was $1.3
million, increasing approximately $0.2 million or 22% from the same period in
2002. The dollar increase was in line with the relative increase in sales volume
resulting from the further commercialization of EVLT(R). However, cost of
revenues, as a percentage of sales, decreased from 89% to 59% as the Company
gained critical fixed cost leverage and manufacturing efficiencies with the
increased volume.
Gross Profit
Gross profit for the three months ended June 30, 2003 was $0.9 million,
approximately $0.8 million or 575% from the same period in 2002. On a
percent-of-sales-basis, the gross margin increased 30 percentage points from 11%
to 41%, again driven by the increased volume and resulting manufacturing fixed
cost leverage.
Research and Development Expenses
Research and development expenses for the three months ended June 30,
2003 remained largely unchanged at $199,000, a $13,000 or 6% decrease from
$212,000 for the same period in 2002.
Selling and Marketing Expenses
Selling and marketing expenses for the three months ended June 30, 2003
were $0.9 million, increasing approximately $0.2 million or 20% from $0.7
million for the same period in 2002. The increase was driven by the Company's
strategy to build a direct sales force beginning in the second half of 2002 and
the Company's investment in marketing initiatives in 2003 to support the
commercialization of EVLT(R). In fiscal 2003, the Company anticipates continued
investment in sales and marketing programs to support the aggressive
commercialization of EVLT(R).
General and Administrative Expenses
General and administrative expenses for the three months ended June 30,
2003 remained largely unchanged at $981,000, a $34,000 or 4% increase from
$947,000 for the same period in 2002. In fiscal 2002, the Company developed much
of the infrastructure required to support a public company.
Loss from Operations
Loss from operations for the three months ended June 30, 2003 was
$1.2 million, decreasing approximately $0.6 million or 33% from $1.8 million
for the same period in 2002.
4
Interest Expense, net
Interest expense for the three months ended June 30, 2003 was $579,000,
increasing $556,000 from $24,000 for the same period in 2002.
Interest expense in the three months ended June 30, 2003 included
non-cash charges totaling approximately $438,000 and amortization of deferred
financing costs totaling approximately $69,000 related to the $2.0 million in
notes we issued in our December 2002 bridge financing and the $1.2 million
committed in May 2003 financing.
Net Loss Applicable to Common Stockholders
As a result of the above, the net loss applicable to common
stockholders for the three months ended June 30, 2003 was 1,761,000
a $26,000 or 1% decrease from $1,788,000 for the same period in 2002.
Results of Operations
Six Months Ended June 30, 2003 Compared to the Six Months Ended June 30, 2002
Revenues
Revenues for the six months ended June 30, 2003 were $4.3 million,
increasing approximately $2.2 million or 101% from $2.1 million for the same
period in 2002.
In the six months ended June 30, 2003, approximately $2.7 million or
63% of our total revenues were derived from laser sales, as compared to
approximately $1.1 million or 53% in the same period in 2002. In the six months
ended June 30, 2003, approximately $1.6 million or 37% of our total revenues
were derived from sales of disposable fibers and kits, accessories and service,
as compared to approximately $1.0 million or 47% in the same period in 2002.
The increase in revenues is principally due to the commercialization of
EVLT(R)for the treatment of varicose veins. In the six months ended June 30,
2003, the Company experienced a 348% increase in the sale of EVLT(R) related
disposable kits and fibers as compared to the six months ended June 30, 2002.
This increase represents a strong growth trend in a recurring revenue stream
from disposable sales, a key element in the Company's business strategy.
Cost of Revenues
Cost of revenues for the six months ended June 30, 2003 was $2.7
million, increasing approximately $0.5 million or 22% from $2.2 million for the
same period in 2002. The dollar increase was in line with the relative increase
in sales volume. However, cost of revenues, as a percentage of sales, decreased
from 103% to 63% as the Company gained critical fixed cost leverage and
manufacturing efficiencies with the increased volume.
5
Gross Profit
Gross profit for the six months ended June 30, 2003 was $1.6 million,
increasing approximately $1.7 million or 2,439% from $0.1 million in gross loss
for the same period in 2002. On a percent-of-sales-basis, the gross margin
increased 40 percentage points from a negative 3% to a positive 37%, again
driven by the increased volume and resulting manufacturing fixed cost leverage.
Research and Development Expenses
Research and development expenses for the six months ended June 30,
2003 remained largely unchanged at $387,000, a $4,000 or 1% increase from
$383,000 for the same period in 2002.
Selling and Marketing Expenses
Selling and marketing expenses for the six months ended June 30, 2003
were $2.0 million, increasing approximately $0.9 million or 88% from $1.1
million for the same period in 2002. The increase was driven by the Company's
strategy to build a direct sales force beginning in the second half of 2002 and
the Company's investment in marketing initiatives in 2003 to support the
commercialization of EVLT(R). In fiscal 2003, the Company anticipates continued
investment in sales and marketing programs to support the aggressive
commercialization of EVLT(R).
General and Administrative Expenses
General and administrative expenses for the six months ended June 30,
2003 remained largely unchanged at $1,782,000, increasing $14,000 or 1% increase
from $1,768,000 for the same period in 2002. In fiscal 2002, the Company
developed much of the infrastructure required to support a public company.
Loss from Operations
As a result of the above, the loss from operations for the six months
ended June 30, 2003 was $2.6 million, decreasing approximately a $0.7 million or
21% from $3.3 million for the same period in 2002.
Interest Expense, net
Interest expense for the six months ended June 30, 2003 was $1.2
million, increasing approximately $0.9 million or 306% from $0.3 million for the
same period in 2002.
Interest expense in the six months ended June 30, 2002 included
non-cash charges totaling approximately $225,000. In 2001, the Company issued
promissory notes, in the aggregate principal amount of $700,000, to two
stockholders of the Company in exchange for bridge loans and granted these two
stockholders fully exercisable warrants to purchase an aggregate of 80,000
shares of common stock. We recorded the value of such warrants, calculated using
the Black-Scholes option pricing model, as a debt discount to be
amortized to interest expense over the life of the notes. In addition, we
recorded the beneficial conversion feature attributable to the warrants as
interest expense upon the closing of the Merger we consummated on February 14,
2002, which triggered the right to convert the notes.
Interest expense in the six months ended June 30, 2003 included non-cash
charges totaling approximately $938,000 and amortization of deferred financing
costs totaling approximately $89,000 related to the $2.0 million in notes we
issued in our December 2002 bridge financing and the $1.2 million committed in
May 2003 financing.
6
Net Loss Applicable to Common Stockholders
As a result of the above, the net loss applicable to common
stockholders for the six months ended June 30, 2003 was $3.8 million, increasing
approximately $0.2 million or 5% from $3.6 million in the same period in 2002.
Liquidity, Capital Resources and Capital Transactions
Since inception we have incurred a cumulative loss of approximately
$43.2 million and may continue to incur operating losses, dependent upon the
commercial success of EVLT(R). The Company has financed its operations primarily
through private placements of common stock and preferred stock, and private
placements of convertible notes and short-term notes and credit arrangements.
Between December 2002 and May 2003, the Company obtained $3.2 million
of bridge financing from Gibralt US, Inc., an affiliate of one of our directors,
Samuel Belzberg, and two of our other directors, James A. Wylie, Jr. and Peter
Norris. In order to fund its operations in 2003, the Company requires additional
debt or equity financing and, as an additional option, put in place a credit
facility to support the Company`s commercialization of EVLT(R). The Company
anticipates it will have access to additional funding sources and has entered
into discussions that it believes may lead to a long term financing transaction
during the second half of 2003.
The Company will require the proceeds of any such additional financing,
together with its current cash resources, to continue as a going concern and
will use these proceeds to fund its operations and commercialize its products in
2003. Additional financing may not, however, be available on acceptable terms or
at all. The inability to obtain additional financing would cause the Company to
reduce or cease operations, sell all or a portion of its assets, seek a sale of
the Company or enter into a business combination with a third party. As a result
of the additional financing needed to support operations in 2003, the auditors`
opinion for the year ended December 31, 2002 expressed doubt about the Company`s
ability to continue as a going concern.
Capital Restructuring and Interim Financing
During the first quarter of 2003, it became clear that the successful
operations of the Company would require additional working capital. In April
2003, the Company began discussions with Gibralt US with a view to its providing
early in the quarter interim financing in addition to that it had provided in
December 2002. The Company also began to consider a subsequent financing
expected to begin later in the quarter that would address its longer term
capital needs. In late April, the Company elected to obtain up to $1.2 million
of interim financing from Gibralt US and two of its directors. At the same time,
the Company proposed a restructuring of the securities issued in December 2002
to improve its access to the financial markets and enhance the likelihood of a
subsequent financing. Therefore, the Company offered to repurchase from the
December 2002 noteholders certain of their rights that, in light of current
market conditions, might have made it more difficult to successfully complete a
subsequent financing in the current market.
Using the Black Scholes valuation methodology, the Company calculated the
monetary value of the rights of the December 2002 noteholders to convert their
notes into shares of common stock and the monetary value of the common stock
purchase warrants. The Company further engaged a professional valuation firm to
provide a professional opinion as to the valuations that it had calculated. The
price per share that the Company employed to calculate the number of shares to
7
equal to the monetary value of the rights that the December 2002 noteholders
would be surrendering was the presumed price per share of its common stock after
giving effect to the issuance of those shares.
At the time the Class A secured notes and Class B unsecured notes were
issued, the Company could not issue more than $1.0 million in secured debt
without first obtaining prior approval by its preferred stockholders under the
terms of its Class A Convertible Preferred Stock. On March 31, 2003, the Company
converted all of its Class A Convertible Preferred Stock into common stock to
eliminate the convertibility overhang and its apparent negative impact on the
Company`s chances for successfully obtaining additional financing. On May 7,
2003, the December 2002 noteholders exchanged their $1.0 million principal
amount of secured Class A notes and $1.0 million principal amount of unsecured
Class B notes for $2.0 million principal amount of secured Class C notes due
January 1, 2004.
On May 7, 2003, the Company issued to the December 2002 noteholders 20
shares of its Class C Convertible Preferred Stock ("Class C Stock") convertible
into 27,117,240 shares of common stock in exchange for eliminating the
convertibility feature of the $2.0 million principal amount of notes and the
warrants to purchase 8,333,333 shares of common stock, as well as certain other
rights. If the Company does not complete its contemplated subsequent financing
by November 15, 2003, or if its common stockholders do not approve the issuance
of the common stock underlying the common share equivalents issued in the
exchange transaction and the interim financing, the December 2002 noteholders
can elect to rescind the exchange transaction, in which event the Company would
reissue the warrants to purchase 8,333,333 shares originally issued on December
27, 2002, replace the Class C notes with fully secured notes due January 1, 2004
in the aggregate principal amount of $2.0 million having the same terms and
conditions as the Class A secured notes, including the conversion rights, and
cancel the preferred stock representing 27,117,240 common stock equivalents
issued to the December 2002 noteholders on May 7, 2003.
The exchange of debt and preferred stock for the elimination of warrants
and modification of the December 2002 notes was treated as an extinguishment of
the $2.0 million debt. As a result, the fair market value of the warrants and
other consideration, which was limited to the remaining unamortized discount on
the December 2002 notes, was recorded as a reduction in additional
paid-in-capital in the amount of $1,167,000 and the remaining unamortized
discount was reduced to zero. The Company recorded a discount in the amount of
$2.0 million for the fair value of the preferred stock issued with the Class C
notes. Accordingly, the Class C notes are recorded at net value of zero (after
the $2.0 million discount). The discount on the Class C notes will be amortized
over the life of the debt. In the three-month period ended June 30, 2003, the
Company recognized $65,000 in non-cash interest expense related to this
amortization of the debt discount and accordingly the Class C notes were
recorded at $65,000 as of June 30, 2003.
On May 28, 2003, the Company and the December 2002 noteholders amended
certain of the terms of the May 7, 2003 capital restructuring to: (i) extend the
due date of the Class C notes from January 1, 2004 until January 1, 2006, (ii)
increase the rate of interest payable on the Class C notes from 8.0% to 12.5%,
(iii) provide for mandatory prepayments of principal of the Class C notes in
amounts up to 50% of positive quarterly cash flow, (iv) limit the security
interest in inventory that secures the Class C notes at $3,271,000, (v) waive
the noteholders` right of approval of future financing transactions and (vi)
extend the deadline by which the financing was to be completed without
triggering the noteholders` right of rescission, from June 30, 2003 to July 31,
2003 (under the terms of the restructuring if the contemplated financing were
not completed by July 31, 2003 the December 2002 noteholders had the right to
rescind the May 7, 2003 exchange transaction). On July 31, 2003, the deadline by
which the financing was to be completed without triggering the noteholders`
right of rescission was extended until November 15, 2003. The Class C notes were
exchanged for Class E notes reflecting these modified terms, in principal
amounts equal to the principal amounts of the Class C notes so exchanged.
On May 7, 2003, Gibralt US and two of the Company`s directors, James A.
Wylie, Jr. and Peter Norris (the "May 2003 noteholders"), committed to provide
financing of up to $1.2 million in the form of Class D secured notes due May 6,
2004. The Company issued the May 2003 noteholders an aggregate of 24 shares of
Class D Convertible Preferred Stock ("Class D Stock") convertible into 3,021,552
shares of common stock. The Class D notes accrue interest at an annual rate of
8%, payable upon maturity. As of June 30, 2003, $1.1 million of the committed
$1.2 million in interim financing had been funded. On July 7, 2003, the $100,000
balance of the committed financing was funded.
The May 2003 noteholders have the same security interest and registration
rights granted to the December 2002 noteholders, as described in Note 5e in the
financial statements included with this quarterly report. The notes are not
transferable without the prior consent of the Company.
The May 2003 noteholders have the right to participate in the Company`s
financing contemplated for the second half of 2003 on the same terms and
conditions as the new investors by redeeming their notes. In determining the
price at which the Company sold its notes, an independent committee of the board
of directors considered the added risk that the May 2003 noteholders would be
accepting in light of the uncertainty of the completion of the contemplated
financing. The December 2002 notes provided that the corresponding noteholders
had the right to participate in the next financing of the Company at a discount
8
of 20% to the price to be paid by investors. Using this discount factor as a
benchmark for arriving at a value for the risk that the May 2003 noteholders
would be assuming, among other factors, the independent committee authorized the
issuance of preferred shares convertible into 3,021,552 shares of common stock,
allocated according to the noteholder`s respective loan commitments.
If the Company does not complete its contemplated subsequent financing by
November 15, 2003, the May 2003 noteholders have the right to declare the
principal plus any accrued and unpaid interest, immediately due and payable.
The Company recorded an amount of $240,000 for the fair value of the
preferred stock issued, which has been recorded as a debt discount to the Class
D notes. As the notes become convertible only upon the occurrence of a future
event outside the control of the holder, the contingent beneficial conversion
feature could not be measured at the commitment date and it will be recognized
in earnings when the contingency is resolved. It is expected that the redemption
of the notes may result in a beneficial conversion feature as the Company's
contemplated financing may be at a discount from the market price of the common
stock. The maximum amount of any beneficial conversion feature would be
approximately $960,000. The discount on the Class D notes will be amortized over
the life of the debt. In the three-month period ended June 30, 2003, the Company
recognized $40,000 in non-cash interest expense related to this amortization of
the debt discount, and accordingly the Class C notes were recorded at $900,000
as of June 30, 2003.
On May 28, 2003, the Company and the May 2003 noteholders amended certain
of the terms of the May 7, 2003 interim financing to: (i) add a requirement that
100% of the Class D Notes be redeemed into common stock in the contemplated
financing at the same price per share and on the same terms as the new investors
if the Company raises $6.0 million or more in gross proceeds and (ii) extend the
deadline for completion of the contemplated financing without triggering the
right of the May 2003 noteholders to declare the Class D Notes due and payable
to July 31, 2003. On July 31, 2003, this deadline was further extended to
November 15, 2003.
Exchange of Class C Convertible Preferred Stock and Class D Convertible
Preferred Stock
The Company has been named as a defendant in a class action lawsuit,
Augenbaum vs. Diomed Holdings, Inc., commenced on July 28, 2003 in Delaware
Chancery Court (C.A. No. 20454). The complaint and accompanying motion for
permanent injunction challenge one of the amendments to the Company`s
certificate of incorporation that were to have been voted upon at the Company`s
annual meeting of stockholders to have been held on July 29, 2003. The amendment
in question would increase the number of authorized shares of the Company`s
common stock to 500 million. The claims of the class plaintiff challenged the
propriety of the record date set for the 2003 annual meeting, the voting of all
outstanding classes of the Company`s capital stock as one class and the rights
of the holders of the Company`s Class C Stock and Class D Stock to convert their
preferred shares and vote their preferred shares as if they had been converted.
On August 6, 2003, the Company entered into a stipulation of settlement to
resolve this case. The terms of the settlement required the adjournment of its
2003 annual meeting and the reconvening of its annual meeting during the late
third quarter or early fourth quarter of 2003. At the reconvened annual meeting,
the Company will seek the approval of its stockholders for the matters that had
been proposed for the annual meeting originally to have been held on July 29,
2003. The Company anticipates in addition that, at the reconvened annual
meeting, it will seek the approval of its stockholders for the issuance of
shares of its common stock to the investors that invest in its contemplated
financing, as well as the issuance of common stock to the investors that
provided an aggregate of $3.2 million bridge financing to the Company in
December 2002 and May 2003. In addition, the settlement requires the Company to
pay up to $150,000 in to the class plaintiff's legal fees.
The Company has disclaimed any liability whatsoever relating to any of the
settled claims, has denied having engaged in any wrongful or illegal activity or
having violated any law or regulation or duty, has denied that any person or
entity has suffered any harm or damages as a result of the settled claims and
has made the settlement to avoid the distraction, burden and expense occasioned
by continued litigation. The court has made no finding that the Company or any
of its related persons engaged in any wrongdoing or wrongful conduct or
otherwise acted improperly or in violation of any law or regulation or duty in
any respect.
9
By way of background, on May 7, 2003, the Company issued to the December
2002 noteholders 20 shares of Class C Stock convertible into 27,117,240 shares
of common stock in exchange for the convertibility feature of the Class A and
Class B Notes, warrants to purchase 8,333,333 shares of common stock and certain
other rights. On May 7, 2003, the Company issued to the May 2003 noteholders 24
shares of Class D Stock convertible into a total of 3,021,552 shares of common
stock in connection with commitments for $1.2 million in interim financing.
In connection with the stipulation of settlement, the Company has agreed
with the holders of the Company`s Class C Stock by which the holders will tender
all 20 shares of the Company`s Class C Stock in exchange for an equal number of
shares of Class E Preferred Stock ("Class E Stock"), and the Company will enter
into an agreement with the holders of the Company`s Class D Stock by which the
holders will tender all 24 shares of Class D Stock in exchange for an equal
number of shares of the Company`s Class F Preferred Stock ("Class F Stock"). The
Class E Stock and Class F Stock and will entitle the holders to one vote per
share of the Class E Stock and Class F Stock. The Class C Stock and Class D
Stock will be eliminated.
Following stockholder approval of the issuance of shares of common stock to
be issued in exchange for the Class E Stock and Class F Stock, the Company has
the right to purchase from the holders of the Class E Stock and the holders of
the Class E Stock are obligated to sell all 20 shares of Class E Stock in
exchange for 27,117,240 shares of common stock, and the Company has the right to
purchase from the holders of the Class F Stock and the holders of the Class F
Stock are obligated to sell all 24 shares of Class F Stock in exchange for
3,021,552 shares of common stock.
Upon a sale, lease, exchange or other disposition of all or substantially
all of the Company`s assets, the holders of the Class E Stock and Class F Stock
have the right to tender all shares of their preferred stock in exchange for
the corresponding numbers of shares of common stock noted above.
Shares of Class E Stock and Class F Stock are preferred in liquidation to
the extent that before any distribution is made to the holders of common stock,
there would be a distribution to the holders of the Class E Stock in the amount
of $108,469 per share of Class E Stock and a distribution to the holders of the
Class F Stock in the amount of $10,072 per share of Class F Stock. The holders
of the common stock would share pro rata in the remainder of the net liquidation
proceeds.
The stipulation of settlement becomes final (i) upon entry of the
court`s order and final judgment approving the settlement; and (ii) upon the
expiration of any applicable appeal period for the appeal of the court`s order
and final judgment without an appeal having been filed or, if an appeal is
taken, upon entry of an order affirming court`s order appealed from and the
expiration of any applicable period for the reconsideration, rehearing or appeal
of such affirmance without a motion for such reconsideration, rehearing or
further appeal being filed.
Cash Position and Cash Flow
The Company had cash balances of approximately $250,000 and $1.9
million at June 30, 2003 and December 31, 2002, respectively.
Cash used in operations for the six months ended June 30, 2003 was
approximately $2.3 million. This is principally attributable to the $2.6 million
loss from operations, and reflects the external marketing initiatives and the
10
costs of a direct sales force in support of the commercialization of EVLT(R), as
well as the incremental legal, audit, and other professional fees associated
with being a public company.
Cash used in investing activities for the six months ended June 30,
2003 was $185,000. The net cash used by investing activities was principally
related to demo equipment included in property, plant and equipment, for
customer trial programs and for use by the direct sales force in the field.
Cash provided by financing activities for the six months ended June 30,
2003 was $665,000. This is principally attributable to the proceeds, in the
amount of $1.1 million, from the May interim financing offset by the financing
costs associated with the May interim financing ($51,000), the deferred offering
costs associated with the contemplated subsequent financing ($199,000), and a
reduction in the Barclays bank line of credit ($161,000).
Bank Line of Credit
Diomed, Ltd., the Company`s subsidiary in the United Kingdom, utilizes a
line of credit with Barclays Bank, which is limited to the lesser of
(pound)350,000 ($579,000 at June 30, 2003) or 80% of eligible accounts
receivable. The credit line bears interest at 3% above Barclays base rate (4.00%
at June 30, 2003) and borrowings are due upon collection of receivables from
customers. As security interest, Barclay`s Bank has a lien on all of the assets
of Diomed Ltd., excluding inventory and certain intellectual property.
As of June 30, 2003, there were borrowings of (pound)31,143 ($54,896)
outstanding under this line and available future borrowing capacity of
approximately $49,000.
Critical Accounting Policies
Our discussion and analysis of the Company`s financial condition, results
of operations, and cash flows are based upon Diomed`s consolidated financial
statements, which have been prepared in accordance with accounting principles
generally accepted in the U.S. The preparation of these financial statements
requires us to make estimates and judgments that affect the reported amounts of
assets, liabilities, revenues and expenses, and related disclosure of contingent
assets and liabilities. On an on-going basis, we evaluate these estimates,
including those related to bad debts, inventory valuation and obsolescence,
intangible assets, income taxes, warranty obligations, contingencies and
litigation. We base our estimates on historical experience and on various other
assumptions that we believe to be reasonable under the circumstances, the
results of which form the basis for making judgments about the carrying values
of assets and liabilities that are not readily apparent from other sources.
Actual results may differ from these estimates under different assumptions or
conditions.
Our critical accounting policies include:
o revenue recognition;
o allowance for doubtful accounts;
o warranty obligation;
o allowances for excess and obsolete inventory; and
o valuation of long-lived and intangible assets.
Revenue Recognition. We derive our revenue from primarily two sources (i)
product revenue which includes lasers, instrumentation, and disposables, and
(ii) service revenue. The Company recognizes revenue on products and services
when the persuasive evidence of an arrangement is in place, the price is fixed
or determinable, collectibility is reasonably assured, and title and risk of
11
ownership has been transferred. Transfer of title and risk of ownership
generally occurs when the product is shipped to the customer or when the
customer receives the product, depending on the nature of the arrangement. The
Company currently provides for the estimated cost to repair or replace products
under warranty at the time of sale. Service revenue is recognized as the
services are performed.
Allowance for Doubtful Accounts. Accounts receivable are customer
obligations due under normal trade terms. The Company sells its products to
private physicians, hospitals, health clinics, distributors and OEM customers.
The Company generally requires signed sales agreements, non-refundable advance
payments and purchase orders depending upon the type of customer, and in certain
circumstances letters of credit. Some customers seek equipment financing from
third party leasing agents. Accounts receivable is stated at the amount billed
to the customer less a valuation allowance for doubtful accounts.
Senior management reviews accounts receivable on a monthly basis to
determine if any receivables could potentially be uncollectible. The Company
includes specific accounts receivable balances that are determined to be
uncollectible, along with a general reserve, in its overall allowance for
doubtful accounts. After all attempts to collect a receivable have failed, the
receivable is written off against the allowance. Based on available information,
the Company believes its allowance for doubtful accounts as of June 30, 2003 is
adequate.
Warranty Obligation. We engage in extensive product quality programs and
processes, including actively monitoring and evaluating the quality of our
component suppliers. In addition to these proactive measures, we also provide
for the estimated cost of product warranties at the time revenue is recognized.
Excess and Obsolete Inventory. We maintain reserves for our estimated
obsolete inventory. The reserves are equal to the difference between the cost of
inventory and the estimated market value based upon assumptions about future
demand and market conditions. If actual market conditions are less favorable
than those projected by management, additional inventory reserves may be
required.
Valuation of Long-Lived and Intangible Assets. We assess the impairment of
identifiable intangibles and long-lived assets on an annual basis and whenever
events or changes in circumstances indicate that the carrying value may not be
recoverable. When we determine that the carrying value of intangibles and
long-lived assets may not be recoverable, we measure any impairment based on a
projected discounted cash flow method using a discount rate determined by our
management to be commensurate with the risk inherent in our current business
model. If cash generated in the future by the acquired asset is different from
current estimates, or if the appropriate discount rate were to change, then the
net present value of the asset would be impacted, resulting in a charge to
earnings.
Item 3. Controls and Procedures
(a) Evaluation of disclosure controls and procedures.
The Company`s principal executive officer and its principal financial
officer have carried out an evaluation of the effectiveness of our disclosure
controls and procedures (as defined in Rules 13a -15e and 15d-15(e) under the
Securities Exchange Act of 1934) as of June 30, 2003 and have concluded that as
of such date, the Company`s disclosure controls and procedures in place are
adequate to ensure material information and other information requiring
disclosure is identified and communicated on a timely basis.
(b) Changes in Internal Control Over Financial Reporting.
During the period covered by this report, there have been no
significant changes in our internal control over financial reporting that have
materially affected or are reasonably likely to materially affect our internal
control over financial reporting.
12
Part II: Other Information
Item 1. Legal Proceedings
The Company has been named as a defendant in a class action lawsuit,
Augenbaum vs. Diomed Holdings, Inc., commenced on July 28, 2003 in Delaware
Chancery Court (C.A. No. 20454). The complaint and accompanying motion for
permanent injunction challenge one of the amendments to the Company`s
certificate of incorporation that were to have been voted upon at the Company`s
annual meeting of stockholders to have been held on July 29, 2003. The amendment
in question would increase the number of authorized shares of the Company`s
common stock to 500 million. The claims of the class plaintiff challenged the
propriety of the record date set for the 2003 annual meeting, the voting of all
outstanding classes of the Company`s capital stock as one class and the rights
of the holders of the Company`s Class C Stock and Class D Stock to convert their
preferred shares and vote their preferred shares as if they had been converted.
On August 6, 2003, the Company entered into a stipulation of settlement to
resolve this case. The terms of the settlement required the adjournment of its
2003 annual meeting and the reconvening of its annual meeting during the late
third quarter or early fourth quarter of 2003. At the reconvened annual meeting,
the Company will seek the approval of its stockholders for the matters that had
been proposed for the annual meeting originally to have been held on July 29,
2003. The Company anticipates in addition that, at the reconvened annual
meeting, it will seek the approval of its stockholders for the issuance of
shares of its common stock to the investors that invest in its contemplated
financing, as well as the issuance of common stock to the investors that
provided an aggregate of $3.2 million bridge financing to the Company in
December 2002 and May 2003. In addition, the settlement requires the Company to
pay up to $150,000 in to the class plaintiff's legal fees.
The Company has disclaimed any liability whatsoever relating to any of the
settled claims, has denied having engaged in any wrongful or illegal activity or
having violated any law or regulation or duty, has denied that any person or
entity has suffered any harm or damages as a result of the settled claims and
has made the settlement to avoid the distraction, burden and expense occasioned
by continued litigation. The court has made no finding that the Company or any
of its related persons engaged in any wrongdoing or wrongful conduct or
otherwise acted improperly or in violation of any law or regulation or duty in
any respect.
By way of background, on May 7, 2003, the Company issued to the December
2002 noteholders 20 shares of Class C Stock convertible into 27,117,240 shares
of common stock in exchange for the convertibility feature of the Class A and
Class B Notes, warrants to purchase 8,333,333 shares of common stock and certain
other rights. On May 7, 2003, the Company issued to the May 2003 noteholders 24
shares of Class D Stock convertible into a total of 3,021,552 shares of common
stock in connection with commitments for $1.2 million in interim financing.
In connection with the stipulation of settlement, the Company has agreed
with the holders of the Company`s Class C Stock by which the holders will tender
all 20 shares of the Company`s Class C Stock in exchange for an equal number of
shares of Class E Preferred Stock ("Class E Stock"), and the Company will enter
into an agreement with the holders of the Company`s Class D Stock by which the
holders will tender all 24 shares of Class D Stock in exchange for an equal
number of shares of the Company`s Class F Preferred Stock ("Class F Stock"). The
Class E Stock and Class F Stock and will entitle the holders to one vote per
share of the Class E Stock and Class F Stock. The Class C Stock and Class D
Stock will be eliminated.
Following stockholder approval of the issuance of shares of common stock to
be issued in exchange for the Class E Stock and Class F Stock, the Company has
the right to purchase from the holders of the Class E Stock and the holders of
the Class E Stock are obligated to sell all 20 shares of Class E Stock in
exchange for 27,117,240 shares of common stock, and the Company has the right to
purchase from the holders of the Class F Stock and the holders of the Class F
Stock are obligated to sell all 24 shares of Class F Stock in exchange for
3,021,552 shares of common stock.
Upon a sale, lease, exchange or other disposition of all or substantially
all of the Company`s assets, the holders of the Class E Stock and Class F Stock
have the right to tender all shares of their preferred stock in exchange for
the corresponding numbers of shares of common stock noted above.
Shares of Class E Stock and Class F Stock are preferred in liquidation to
the extent that before any distribution is made to the holders of common stock,
there would be a distribution to the holders of the Class E Stock in the amount
of $108,469 per share of Class E Stock and a distribution to the holders of the
Class F Stock in the amount of $10,072 per share of Class F Stock. The holders
of the common stock would share pro rata in the remainder of the net liquidation
proceeds.
The stipulation of settlement becomes final (i) upon entry of the
court`s order and final judgment approving the settlement; and (ii) upon the
expiration of any applicable appeal period for the appeal of the court`s order
and final judgment without an appeal having been filed or, if an appeal is
taken, upon entry of an order affirming court`s order appealed from and the
expiration of any applicable period for the reconsideration, rehearing or appeal
of such affirmance without a motion for such reconsideration, rehearing or
further appeal being filed.
Item 2. Changes in Securities and Use of Proceeds
During the second quarter of 2003, the Company issued options to
purchase up to 230,000 shares of its Common Stock to employees at purchase
prices ranging from $0.19 to $0.25 per share and issued options to purchase up
to 960 shares of its Common Stock at a purchase price of $0.17 per share.
On May 7, 2003, the Company issued to the December 2002 noteholders 20
shares of Class C Stock convertible into 27,117,240 shares of common stock in
exchange for the convertibility feature of the $2.0 million principal amount of
notes and their warrants to purchase 8,333,333 shares of common stock, as well
as certain other rights. On May 7, 2003, the Company also issued to the May 2003
noteholders 24 shares of Class D Stock convertible into 3,021,552 shares of
common stock in connection with commitments to provide $1.2 million in interim
financing. The issuance of the underlying shares of common stock in these
transactions is subject to the stockholders` prior approval. See Part I, Item 2,
"Management`s Discussion and Analysis or Plan of Operation," "Capital
Restructuring and Interim Financing" and "Exchange of Class C Convertible
Preferred Stock and Class D Convertible Preferred Stock" for more information.
On June 2, 2003, the board of directors authorized 2,137,500 stock
options to purchase shares of common stock to directors and officers,
non-executive employees and a third party service provider. These stock options
were granted pursuant to the Company`s 2003 Omnibus Incentive Plan, which has
been adopted subject to stockholder approval, and were granted with an exercise
price of $0.30 per share, the closing price of the Company`s common stock on
June 2, 2003.
The Company issued securities to the above-referenced persons in
reliance upon the exemption from registration set forth under Section 4(2) of
the Securities Act of 1933, as amended. Each such person agreed that neither the
options or notes, as the case may be, nor the underlying securities would be
resold without registration under the Securities Act or exemption therefrom.
Each such person also represented his or her intention to acquire the securities
for investment only, and not with a view to the distribution thereof. Prior to
making any offer or sale, Diomed had reasonable grounds to believe and believed
that the purchaser was capable of evaluating the merits and risks of the
investment and was able to bear the economic risk of the investment represented
by the options granted.
Item 4. Submission of Matters to a Vote of Security Holders
On August 5, 2003, in connection with the Company`s stipulation of
settlement in the class action lawsuit Augenbaum vs. Diomed, the Company
adjourned, without specifying a date, its 2003 annual meeting. The Company
anticipates holding its annual meeting of stockholders in the fourth quarter
of 2003.
13
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
31.1 Certification by the Chief Executive Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
31.2 Certification by the Chief Financial Officer pursuant to Section 302
of the Sarbanes-Oxley Act of 2002
32.1 Certification of Principal Executive Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002
32.2 Certification of Principal Financial Officer pursuant to Section 906
of the Sarbanes-Oxley Act of 2002
(b) Reports on Form 8-K. State whether any reports on Form 8-K were
filed during the quarter for which this report is filed, listing the items
reported, any financial statements filed and the dates of such reports:
On May 15, 2003, the Company filed a Current Report on Form 8-K in
connection with the May 7, 2003 Exchange Transaction and Interim Financing. This
Current Report was amended pursuant to a Current Report on Form 8K/A filed on
May 19, 2003.
14
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant has duly caused this report to be signed on its behalf by the
undersigned hereunto duly authorized.
Diomed Holdings, Inc.
(Registrant)
By : /s/ JAMES A. WYLIE, JR.
----------------------------------------
Name: James A. Wylie, Jr.
Title: President and Chief Executive Officer,
Director
Date: August 14, 2003
/s/ LISA M. BRUNEAU
----------------------------------------
Name: Lisa M. Bruneau
Title: Principal Financial Officer,
Vice President, Finance; Secretary
and Treasurer
Date: August 14, 2003
15