AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JANUARY 15, 2004
REGISTRATION NO. 333-110994
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM SB-2/A
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
DIOMED HOLDINGS, INC.
(NAME OF SMALL BUSINESS ISSUER)
DELAWARE 3845 84-140636
(STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NO.)
ONE DUNDEE PARK
ANDOVER, MA 01810
(978) 475-7771
(ADDRESS AND TELEPHONE NUMBER OF PRINCIPAL EXECUTIVE OFFICES)
JAMES A. WYLIE, JR.
PRESIDENT AND CHIEF EXECUTIVE OFFICER
ONE DUNDEE PARK
ANDOVER, MA 01810
(978) 475-7771
(NAME, ADDRESS AND TELEPHONE NUMBER OF AGENT FOR SERVICE)
COPY TO:
WILLIAM A. NEWMAN, ESQ.
MCGUIREWOODS LLP
9 WEST 57TH STREET, SUITE 1620
NEW YORK, NEW YORK 10019
(212) 548-2100
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as
practicable after this Registration Statement becomes effective.
If any of the securities being registered on this form are to be offered on a
delayed basis pursuant to Rule 415 under the Securities Act of 1933, other than
securities offered only in connection with dividend or interest reinvestment
plans, check the following box. |X|
If this form is filed to register additional securities for an offering pursuant
to Rule 462(b) under the Securities Act of 1933, check the following box and
list the Securities Act registration statement number of the earlier effective
registration statement for the same offering. |_|
If this form is a post-effective amendment filed pursuant to Rule 462(c) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. |_|
If this form is a post-effective amendment filed pursuant to Rule 462(d) under
the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. |_|
If delivery of the prospectus is expected to be made pursuant to Rule 434 check
the following box. |_|
CALCULATION OF ADDITIONAL REGISTRATION FEE
====================================================================================================================================
TITLE OF EACH CLASS OF PROPOSED MAXIMUM PROPOSED MAXIMUM AMOUNT OF
SECURITIES TO BE REGISTERED AMOUNT TO BE REGISTERED OFFERING PRICE PER SHARE AGGREGATE OFFERING PRICE REGISTRATION FEE
- ------------------------------------------------------------------------------------------------------------------------------------
Shares of common stock Par
value, $0.001 per share 29,711,749 $0.10 $2,971,175.00 $266.22
- ------------------------------------------------------------------------------------------------------------------------------------
The Registrant hereby amends this Registration Statement on such date or dates
as may be necessary to delay its effective date until the Registrant shall file
a further amendment which specifically states that this Registration Statement
shall thereafter become effective in accordance with Section 8(a) of the
Securities Act of 1933, as amended, or until the Registration Statement shall
become effective on such date as the Securities and Exchange Commission, acting
pursuant to said Section 8(a), may determine.
THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY
NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER
TO SELL THESE SECURITIES AND IT IS NOT SOLICITING AN OFFER TO BUY THESE
SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED.
SUBJECT TO COMPLETION, DATED JANUARY 15, 2004
PROSPECTUS
29,711,749 SHARES OF COMMON STOCK
DIOMED HOLDINGS, INC.
In this prospectus, unless the context requires otherwise, "we," "our," "us,"
"Diomed" and the "Company" refer to Diomed Holdings, Inc. and its subsidiaries.
We are offering the persons who were stockholders of record as of August 29,
2003, an aggregate of up to 29,711,749 shares of our common stock. We refer to
the stockholders to whom we are making this offer of our common stock as the
"offeree stockholders," and we refer to our offer to the offeree stockholders as
the "offering."
We are offering you, as an offeree stockholder, a number of shares of common
stock up to the number of shares of common stock that you owned on August 29,
2003. You are entitled to purchase this number of shares at $0.10 per share
payable in cash. The price of $0.10 per share is the price that was paid by the
investors that purchased shares of common stock in the second closing of our
equity financing. You may purchase these shares at any time beginning on the
date of this prospectus until 5:00 pm, Eastern Standard Time, on [________ ___],
2004 [insert date that is 45 days from date of prospectus]. If you elect to
purchase the full number of shares to which you are entitled under the terms of
the offering, you also may offer to purchase additional shares of common stock
at the same price of $0.10 per share payable in cash, subject to the terms and
conditions of the offering.
THERE IS NO MINIMUM NUMBER OF SHARES OF COMMON STOCK THAT WE MUST SELL IN THIS
OFFERING. WE WILL NOT, HOWEVER, SELL MORE THAN 29,711,749 SHARES. ALL NET
PROCEEDS WILL BE MADE IMMEDIATELY AVAILABLE TO US FOR THE PURPOSES SET FORTH IN
THIS PROSPECTUS.
Our common stock is currently traded on the American Stock Exchange under the
symbol "DIO." On November 25, 2003, the closing trading price of our common
stock as reported on the American Stock Exchange was $0.32 per share.
SEE "RISK FACTORS," BEGINNING ON PAGE 7, FOR A DISCUSSION OF CERTAIN RISK
FACTORS THAT YOU SHOULD CONSIDER BEFORE PURCHASING SHARES OF OUR COMMON STOCK.
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES
COMMISSION HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE
ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A
CRIMINAL OFFENSE.
WE ARE NOT MAKING THIS OFFER TO ANY STOCKHOLDERS THAT RESIDE IN JURISDICTIONS IN
WHICH IT IS UNLAWFUL FOR US TO MAKE THE OFFERING. THIS INCLUDES STOCKHOLDERS
RESIDING IN THE UNITED KINGDOM.
No person other than a stockholder of record as of August 29, 2003 may purchase
any of the 29,711,749 shares being offered by this prospectus.
The date of this prospectus is _________ __, 2003
TABLE OF CONTENTS
PAGE
----
SUMMARY .....................................................................1
SUMMARY FINANCIAL DATA ......................................................6
RISK FACTORS ................................................................7
RISKS RELATED TO THIS OFFERING .............................................19
SPECIAL NOTE OF CAUTION REGARDING FORWARD-LOOKING STATEMENTS ...............20
CAPITALIZATION .............................................................24
DIVIDEND POLICY ............................................................24
BUSINESS ...................................................................24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION OR PLAN
OF OPERATION .............................................................47
DESCRIPTION OF PROPERTY.....................................................78
CERTAIN MARKET INFORMATION .................................................78
THE OFFERING................................................................79
DESCRIPTION OF SECURITIES ..................................................86
MANAGEMENT..................................................................89
EXECUTIVE COMPENSATION......................................................92
RELATED TRANSACTIONS........................................................97
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT ...........112
PLAN OF DISTRIBUTION.......................................................115
TRANSFER AGENT.............................................................115
LEGAL MATTERS .............................................................115
EXPERTS ...................................................................115
WHERE YOU CAN FIND MORE INFORMATION........................................116
PART II ...............................................................II - 1
INDEX TO EXHIBITS......................................................II - 14
SIGNATURES.............................................................II - 20
INDEX TO EXHIBITS......................................................II - 21
SUMMARY
THE COMPANY
We specialize in developing and commercializing laser and related disposable
product technologies used in minimally and micro-invasive medical procedures.
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 or eliminated 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 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 or acquire. To
optimize our revenues, we focus on clinical procedures which generate revenue
from both our laser equipment and our disposable products, such as kits and
optical fibers.
Our high power semiconductor diode lasers combine clinical efficacy, operational
efficiency and cost effectiveness in a versatile, compact, lightweight,
easy-to-use and easy-to-maintain system. Using our proprietary technology,
including our exclusive rights to U.S. Patent No. 6,398,777 and related foreign
patents for the endovenous laser treatment of varicose veins, we currently focus
on endovenous laser treatment (our EVLT(R) product line) for use in varicose
vein treatments, photodynamic therapy (our PDT product line) for use in cancer
treatments, and other clinical applications.
Our principal executive offices are located at One Dundee Park, Andover, MA
01810. Our telephone number is (978) 475-7771.
QUESTIONS AND ANSWERS ABOUT THE OFFERING
WHAT IS THE OFFERING?
The offering is an opportunity for our stockholders of record as of August 29,
2003, to purchase additional shares of common stock at a fixed price and in an
amount proportional to the stockholders' existing interests as of August 29,
2003. The offering enables the offeree stockholders to invest at the same price
per share as accredited investors paid for shares of our common stock in our
private placement equity financing which closed on November 25, 2003. A purchase
of the shares offered in this offering may result in offeree stockholders
offsetting some of the dilution that will occur as a result of that equity
financing and lowering the average cost basis of shares of common stock that the
offeree stockholders acquired at prices higher than the $0.10 per share price to
be paid for shares they purchase in this offering. The offering also provides us
with the opportunity to raise additional capital. We are making the offering
only to our stockholders of record as of August 29, 2003.
WHAT AM I BEING OFFERED?
If you were a stockholder of record as of August 29, 2003, you are an offeree
stockholder. We are offering you and each other offeree stockholder shares of
common stock priced at $0.10 per share. You may purchase all or part of the
shares that you are entitled to purchase, or you may choose not to purchase any
shares. Only offeree stockholders can purchase shares pursuant to the offering.
1
WHAT IS THE EQUITY FINANCING?
The equity financing that we announced on September 2, 2003 and completed on
November 25, 2003 was essential to the continuation of our operations. We
received a total of $22,000,000 in cash (of which we received $6,500,000 at the
first closing on September 3, 2003 and $15,500,000 at the second closing on
November 25, 2003), and we converted $1,200,000 of our outstanding debt (plus
accrued interest) into common stock. We issued a total of 256,899,579 shares of
common stock and warrants to purchase 40,879,063 shares of common stock in this
equity financing. We also issued 30,138,792 shares of common stock on November
25, 2003 in exchange for preferred shares in connection with the equity
financing. We also issued 500,000 shares of common stock on November 25, 2003 in
a separate transaction.
The issuance of these shares diluted our existing stockholders' interests in our
company by substantially reducing the aggregate ownership of our existing
stockholders. Prior to our issuance of securities in connection with the equity
financing, each share of our common stock represented a one/29,711,749 (or,
..000000034) interest in our company. As a result of the dilution caused by our
recent issuance of securities, each share of common stock that was outstanding
on August 29, 2003 now represents a one/357,781,616 (or, .00000000028) interest
in our company. Our issuance of common stock in this offering will cause further
dilution to our stockholders. Assuming we issue all 29,711,749 shares of common
stock being offered in this offering, each shares of common stock outstanding
prior to the completion of the offering will represent a one/387,493,365
(.000000000258) interest in our company. Assuming that we issue all 29,711,749
shares of common stock that we are offering to the offeree stockholders in this
offering, in order for an offeree stockholder to maintain its same percentage of
interest in our company as it had prior to the equity financing, for each share
held as of August 29, 2003, the offeree stockholder would have to purchase an
additional 13 shares of common stock.
WHY ARE WE CONDUCTING THE OFFERING?
In the equity financing we sold shares of our common stock to investors at $0.08
per share and $0.10 per share. These prices are a significant discount to the
closing trading price ($0.35) of our shares on the American Stock Exchange on
August 29, 2003. In proposing the terms of the equity financing to the new
investors, our board of directors recognized the extent of the discount and
sought to provide to our existing stockholders the opportunity to purchase
additional shares at the price of $0.10 per share on a one-to-one basis with
their current holdings. The board determined that it would be appropriate for
stockholders to be able to purchase a number of shares at the price at which we
were selling common stock in the equity financing.
While the ownership percentage of the current stockholders decreased
substantially as a result of the issuance of shares of our common stock in the
equity financing, the board of directors determined that the availability of
shares at the price of $0.10 per share will partially offset the dilutive effect
of the equity financing and permit those stockholders who purchased shares at
various times prior to our announcement of the equity financing to lower the
average per share cost of their investment in our shares. The board also
recognized that the offering could result in additional proceeds of up to
$2,971,175.
HOW MANY SHARES AM I ENTITLED TO PURCHASE?
We have made a maximum of 29,711,749 shares of our common stock available for
this offering. That is the number of shares of common stock that were issued and
outstanding on August 29, 2003. You and each other offeree stockholder are
entitled to purchase directly from us that number of shares that equals the
number of shares that you owned of record on August 29, 2003. In this
prospectus, we refer to these shares that you are entitled to purchase as the
"allotted shares." In certain circumstances, however, to comply with applicable
foreign securities laws, we may not be able to accept offers to purchase
allotted shares. For example, due to securities law restrictions, this offering
is not being made to persons residing in the United Kingdom, and accordingly, we
are not offering allotted shares (or over-allotted shares) to holders of record
in the United Kingdom.
MAY I PURCHASE SHARES IN ADDITION TO THOSE THAT I AM ENTITLED TO PURCHASE?
We do not expect that all of the offeree stockholders will purchase all of the
allotted shares that they are entitled to purchase. Accordingly, as part of the
offering, we are offering to those offeree stockholders who purchase all of
their allotted shares additional shares on a prorated basis with all other
offeree stockholders who have offered to purchase additional shares. We refer to
these additional shares as the "over-allotted shares." Therefore, any offeree
stockholder that purchases all of his, her or its allotted shares may also
purchase, at $0.10 per share, a pro rata share of the 29,711,749 shares not
purchased by all other offeree stockholders as allotted shares.
On the attached stock order form, you may request to purchase as many
over-allotted shares as you wish for $0.10 per share. When you send in your
stock order form, you also must send the full cash purchase price for all
allotted shares that you have ordered and, in addition, the purchase price due
for that number of over-allotted shares that you have ordered. Depending on the
offers that we receive to purchase over-allotted shares, and depending on the
number of over-allotted shares that you have ordered, you may or may not be able
to purchase all of the over-allotted shares that you have ordered. If we do not
accept your order for all or some of the over-allotted shares because we have
received offers exceeding the maximum number of shares available, we will refund
the excess amount you paid to us for the purchase price of the over-allotted
shares you ordered but were not able to purchase. We will not pay interest on
the amounts paid to us in connection with orders for over-allotted shares.
2
WHAT ARE THE LIMITATIONS ON PURCHASE OF OVER-ALLOTTED SHARES?
We will sell up to a maximum 29,711,749 shares of common stock in this offering.
The number of shares available for purchase as over-allotted shares will be
29,711,749 minus the number of shares purchased by offerees who purchase all or
a part of their allotted shares. If sufficient shares are available, we will
accept purchases of the over-allotted shares in full. If orders for
over-allotted shares exceed the number of shares available, we will allocate the
available shares among offeree stockholders who placed orders for shares in
proportion to the number of allotted shares that those offeree stockholders did
purchase. If, however, your pro rata allocation of over-allotted shares exceeds
the number of shares that you ordered, you will receive only the number of
over-allotted shares that you ordered, and the remaining over-allotted shares
from your pro rata allocation will be divided among the other offeree
stockholders that are purchasing over-allotted shares in proportion to the
number of allotted shares purchased by the other stockholders that have ordered
over-allotted shares. See "The Offering" for a more detailed explanation of how
we will allocate over-allotted shares. In certain circumstances, however, to
comply with applicable foreign securities laws, we may not be able to accept all
orders for over-allotted shares, even if we have shares available.
WHAT IF OFFEREE STOCKHOLDERS DO NOT PURCHASE ANY OF THE SHARES IN THE OFFERING?
The shares of common stock that offeree stockholders do not purchase in the
offering will remain unissued until such time as we may decide to issue these
shares in the future. We will file a post-effective amendment to the
registration statement of which this prospectus is a part with the Securities
and Exchange Committee to de-register those shares of common stock that are not
purchased in this offering.
HOW WILL WE APPLY THE PROCEEDS FROM THE OFFERING?
If we receive proceeds in the offering, we intend to use the proceeds to support
our sales and marketing initiatives, to effect our intellectual property
strategy and to fund other general working capital expenses. We cannot assure
you that we will not need to seek additional financing in the future to fund our
operations or to pursue commercial opportunities.
HOW DID WE ARRIVE AT THE OFFERING PRICE PER SHARE?
The $0.10 per share offering price is the price at which the new investors
purchased shares of our common stock at the final closing in the equity
financing on November 25, 2003. The notes that we issued on September 3, 2003,
converted into shares of common stock at the final closing at a price of $0.08
per share. The 20% discount for the notes we issued at the first closing
primarily reflects the risk in the note investment, since at the time we issued
the notes we were not certain that we would be able to complete the final
closing of the equity financing, since the final closing was contingent upon
stockholder approval which we could not be assured of receiving. The offeree
stockholders do not bear this risk, so the offering price per share is $0.10 and
not $0.08.
CAN THE MARKET PRICE OF THE COMMON STOCK DECLINE BELOW THE AMOUNT I PAY IN THE
OFFERING?
Yes. The public trading market price of our common stock may decline after we
receive your stock order form, before or after the offering expires, and this
decline could result in a market price below $0.10 per share. If that occurs,
you may have committed to buy shares of common stock at a price above the
prevailing market price, and you will have an immediate unrealized loss.
Moreover, you may not be able to sell your shares of common stock at a price
equal to or greater than $0.10 per share after the shares of common stock are
delivered to you.
WHAT IF I AM HOLDING SHARES IN "STREET NAME" OR OTHERWISE FOR THE BENEFIT OF
ANOTHER PERSON?
If you are a broker, a trustee or a depository for securities, or you otherwise
hold shares of common stock for the account of a beneficial owner of common
stock, you should notify the beneficial owner of such shares as soon as possible
to obtain instructions with respect to the offering. If you are a beneficial
owner of common stock held by a holder of record (commonly referred to as shares
held in "street name"), such as a broker, trustee or a depository for
securities, you should contact the holder of record and ask the holder of record
to effect transactions in accordance with your instructions.
HOW DO I PURCHASE SHARES IN THE OFFERING?
You must properly complete the attached stock order form and deliver it to our
subscription agent, together with payment for all shares you are ordering before
5:00 p.m., Eastern Standard Time, on [____________ ___], 2004 (or such later
date as we may chose to extend the offering period to). The stock order form and
payment for the shares should be mailed to our subscription agent at Corporate
Stock Transfer, Attn: Christine Welsh, 3200 Cherry Creek South Drive, Suite 430,
Denver, CO 80209. Your stock order form must be accompanied by proper payment
for each share that you wish to purchase (including any over-allotted shares
that you wish to purchase). Payment instructions are detailed in the stock order
form.
3
HOW LONG WILL THE OFFERING LAST?
The offering to offeree stockholders will expire 45 days after the commencement
of the offering. Offeree stockholders will be able to purchase shares in the
offering upon commencement of the offering and for 45 days thereafter, unless we
extend the offering for an additional period of time. Accordingly, you will not
be able to purchase shares after 5:00 p.m., Eastern Standard Time, on
[____________ ___], 2004, unless we extend the offering. We may, in our
discretion, extend the period during which you may purchase shares for up to 60
days beyond [_____________ __], 2004, the currently scheduled expiration date.
In addition, if the commencement of the offering is delayed, the expiration date
will similarly be extended.
AFTER I SUBMIT MY OFFER TO PURCHASE SHARES, CAN I CHANGE MY MIND?
No. Once you send in your stock order form and payment, you cannot withdraw it,
even if you later learn information about us that you consider to be
unfavorable. You should not submit your stock order form unless you are certain
that you wish to purchase additional shares of our common stock at a price of
$0.10 per share.
IS PURCHASING SHARES RISKY?
Yes. The purchase of shares of our common stock involves certain risks. You
should carefully consider this investment as you would view other equity
investments. Among other things, you should carefully consider the risks
described under the heading "Risk Factors."
WHAT HAPPENS TO THE SHARES I CURRENTLY OWN IF I CHOOSE NOT TO PURCHASE
ADDITIONAL SHARES?
You will retain your current number of shares of common stock even if you do not
purchase additional shares. However, if other stockholders purchase shares and
you do not purchase your allotted shares in full, your percentage ownership
interest in us will be reduced.
CAN SOMEONE ELSE PURCHASE MY ALLOTTED SHARES IN THIS OFFERING?
No.
MUST I PURCHASE SHARES?
No.
WHEN WILL I RECEIVE MY NEW SHARES?
If you purchase shares of common stock in the offering, you will receive
certificates representing those shares as soon as practicable after the
completion of the offering. We will distribute share certificates within three
business days after the offering expires. Subject to applicable securities laws
and regulations, we have the discretion to delay allocation and distribution of
any shares you may elect to purchase to comply with applicable securities laws.
CAN WE CANCEL THE OFFERING?
Yes. Our board of directors may cancel the offering at any time on or before
[______________ ____], 2004 (or any later date to which we extend the offering
period), for any reason. If we cancel the offering, we will give the offeree
stockholders written notice. Any stock order forms delivered by the offeree
stockholders will automatically become null and void if we cancel the offering.
We will promptly refund any money that we received from stockholders, without
interest, if we cancel the offering.
HOW MUCH MONEY WILL WE RECEIVE FROM THE OFFERING?
There is no minimum number of shares that must be purchased in the offering. We
cannot assure you that any shares of common stock will be purchased in the
offering. Our gross proceeds from the offering will depend on the number of
shares that are purchased and will first be used to cover the costs of the
offering. Because the sale of a minimum number of shares is not assured, the
offering proceeds may not be sufficient to pay for the costs of this offering.
4
If we sell all 29,711,749 shares that may be purchased in the offering, then we
will receive gross proceeds of $2,971,175, before deducting expenses payable by
us. We estimate that those expenses will be approximately $150,000.
HOW MANY SHARES WILL BE OUTSTANDING AFTER THE OFFERING?
There are currently 358,129,183 shares of our common stock currently outstanding
(on a fully-diluted basis, assuming the exercise of all 40,879,063 warrants we
issued in connection with the equity financing), 29,711,749 shares are available
to trade publicly (including approximately 2,000,000 shares held by affiliates).
The number of shares outstanding as of August 29, 2003 was 29,711,749. We
recently issued 287,038,371 shares of common stock in connection with our equity
financing, and we also issued warrants to purchase an additional 40,879,063
shares of common stock in connection with our equity financing. We have also
committed to register these shares of common stock, at which time these shares
will become freely tradable in the public market by their holders. We also
issued 500,000 shares of common stock on November 25, 2003 in accordance with an
agreement with our former financial advisor. The number of shares of common
stock that will be outstanding after the offering will depend on the number of
shares that are purchased in the offering. If we sell all of the shares offered
by this prospectus, then we will issue 29,711,749 new shares of common stock in
the offering. In that case, we will have 387,840,932 shares of common stock
outstanding after the offering (including the shares underlying warrants).
WHAT IF I HAVE MORE QUESTIONS?
If you have more questions about this offering, please contact David B. Swank,
our Chief Financial Officer, at (978) 475-7771 or by e-mail at
dbswank@diomedinc.com.
5
SUMMARY FINANCIAL DATA
The following table summarizes the financial data for our business and includes
our audited consolidated financial data for the years ended December 31, 2001
and 2002, and unaudited consolidated financial data for the nine months ended
September 30, 2002 and 2003, on an actual basis and on a pro forma basis to
reflect the effects of shares we issued in the final closing of the equity
financing on November 25, 2003, the conversion in November 2003 of notes payable
having a face value of $8,195,000 and the retirement of $433,000 in short term
promissory notes subsequent to the completion of the equity financing. The pro
forma data excludes proceeds that we may receive from the sale of common stock
in this offering. You should read the following information in conjunction with
the consolidated financial statements and the related financial statement notes
appearing elsewhere in this prospectus.
STATEMENT OF OPERATIONS DATA (IN THOUSANDS, EXCEPT PER SHARE)
NINE MONTHS ENDED
YEARS ENDED NINE MONTHS ENDED SEPTEMBER 30,
DECEMBER 31, SEPTEMBER 30, PRO FORMA
-------------------- -------------------- -----------------
2001 2002 2002 2003 2003
-------- -------- -------- -------- --------
(AUDITED) (UNAUDITED) (UNAUDITED)
Revenues .......................................... $ 7,732 $ 5,556 $ 4,070 $ 6,644 $ 6,644
Cost of revenues .................................. 6,141 5,215 3,481 4,211 4,211
-------- -------- -------- -------- --------
Gross profit ................................ 1,591 342 589 2,433 2,433
-------- -------- -------- -------- --------
Operating expenses:
Research and development .................... 1,216 928 664 635 635
Selling and marketing ....................... 2,520 3,264 2,096 2,892 2,892
General and administrative .................. 2,616 3,825 2,658 2,829 2,829
-------- -------- -------- -------- --------
Total operating expenses .............. 6,352 8,017 5,418 6,356 6,356
-------- -------- -------- -------- --------
Loss from operations .............................. (4,761) (7,676) (4,829) (3,923) (3,923)
Interest expense, non-cash (1) .................... 2,764 225 225 2,933 2,833
Interest expense, cash (1) ........................ 129 102 92 450 302
-------- -------- -------- -------- --------
Net loss (1) ...................................... (7,654) (8,003) (5,146) (7,306) (7,059)
Value ascribed to call option ..................... (423) -- -- -- --
-------- -------- -------- -------- --------
Net loss applicable to common stockholders (1) .... $ (8,077) $ (8,003) $ (5,146) $ (7,306) $ (7,059)
======== ======== ======== ======== ========
Basic and diluted net loss per share (1) .......... $ (0.96) $ (0.59) $ (0.38) $ (0.29) $ (.17)
======== ======== ======== ======== ========
Basic and diluted weighted average number of common
shares outstanding used in per share calculations . 8,407 13,603 13,399 25,178 41,035
======== ======== ======== ======== ========
SEPTEMBER 30, SEPTEMBER 30,
2003 2003
ACTUAL PROFORMA
(UNAUDITED) (UNAUDITED)
------------- -----------
(IN THOUSANDS)
BALANCE SHEET DATA (2)
Cash and cash equivalents.................................................................... $ 1,537 $ 16,048
Working capital (deficiency)................................................................. (9,574) 14,055
Total assets................................................................................. 12,337 25,633
Non-current liabilities...................................................................... 1,292 1,292
Accumulated deficit.......................................................................... (46,761) (57,369)
Total stockholders' equity (deficit)......................................................... (3,369) 18,996
(1) The pro forma amounts exclude $148,000 in general interest expense and
$100,000 in non-cash interest expense pertaining to interest expense on notes,
debt financing costs and debt discounts attributable to the May 2003 and
September 2003 notes that were converted to equity at the second closing of the
equity financing.
(2) The pro forma amounts include an additional $2,513,000 in general interest
expense and an additional $8,095,000 in non-cash interest expense pertaining to
interest expense on notes, debt financing costs and debt discounts attributable
to the May 2003 and September 2003 notes that were converted into equity at the
second closing of the equity financing that will be recorded in the fourth
quarter of 2003 to reflect the completion of the equity financing. The profit
and loss impact of these transactions has been excluded from the above pro forma
statement of operations.
6
RISK FACTORS
We develop, manufacture and sell laser-based medical devices and related
disposables in the United States and elsewhere in the world. We describe below
certain risk factors that are associated with our business, our focus and our
mission. If any of the following risks actually occur, they may adversely affect
our business, the results of our operations, our cash flows or our ability to
achieve our business objectives.
WE HAVE A HISTORY OF SIGNIFICANT OPERATING LOSSES. WE MAY NOT EVER ACHIEVE OR
MAINTAIN PROFITABILITY.
We have incurred significant operating losses since our inception, and as of
September 30, 2003, we have accumulated deficit of approximately $46,761,000,
including $5,859,000 in non-cash interest expense. We may continue to incur
operating losses over the next few years, depending largely upon the commercial
success of EVLT(R) . We will need to generate revenues in excess of our losses
to become profitable, and we may be unable to do so. If we do not become
profitable, the value of our common stock may decline.
Our operating losses may increase as we continue to incur costs for research and
development, regulatory, sales and marketing, manufacturing and general
corporate activities. Whether we achieve and maintain profitability depends upon
our ability, alone or with others, to successfully complete the development of
future clinical applications, obtain required regulatory clearances and sell our
products at profitable prices.
OUR REQUIRED EXPENDITURES MAY EXCEED OUR BUDGETED EXPENSES, AND WE MAY NOT BE
ABLE TO PAY FOR UNANTICIPATED EXPENSES OUT OF REVENUE OR OBTAIN ADDITIONAL
INVESTMENT CAPITAL TO FUND THESE EXPENSES.
We raised $23,200,000 in gross proceeds in the equity financing. The following
table sets forth in approximate terms use of these proceeds from September 2003
through December 31, 2003. These figures are not audited:
Gross Proceeds: $23,200,000
Use of Proceeds:
EVLT(R) Patent Acquisition $2,250,000
Retirement of December 2002 Notes (1) 2,132,000
Conversion of May 2003 Notes 1,200,000
Equity financing costs 1,160,000
Reduction in trade payables 1,141,000
Retirement of short term notes 438,000
Augenbaum Settlement 150,000
Working capital 9/1/03-12/31/03 1,329,000
-----------
Total $9,800,000
Net Balance of Proceeds
as of December 31, 2003: $13,400,000
===========
(1) Includes principal and interest of approximately $1,575,000 on notes held by
Samuel Belzberg, an affiliate.
We will apply the balance of these proceeds, together with our operating
revenue, to pay for our general working capital needs. The additional capital
which we received from our equity financing may not be sufficient to pay for all
of our required expenditures if we have underestimated our expenditures or have
overestimated our revenues when we prepared our business plan. We may need
additional resources to fund the growth, acquisitions and working capital that
our business plan envisions. The timing and amount of our future capital
requirements will depend on many factors, including:
- the scope and results of preclinical studies and clinical trials;
- the time and costs involved in obtaining regulatory approvals;
- the costs involved in preparing, filing, prosecuting, maintaining
and enforcing our patents;
- the costs involved in any potential litigation;
- competing technological and market developments;
- our ability to establish additional collaborations;
- changes in existing collaborations;
- our dependence on others for development of our potential products;
- the cost of manufacturing, marketing and distribution;
- the opportunities available for making acquisitions that would
enhance our business; and
- the effectiveness of our activities.
If we require additional funds, we cannot be certain that such funds will be
available to us on reasonable terms, or at all. In particular, given our capital
structure after completing the equity financing and the current market price of
our common stock, we may not be able to attract further new investment capital
in the near future. The inability to obtain additional financing could cause us
to reduce or cease operations, sell all or a portion of our assets, seek a sale
of our business or enter into a business combination with a third party.
7
WE MAY NEED TO EXPAND OUR EXISTING MARKETING AND SALES RESOURCES.
Our marketing and sales resources may not be adequate for the successful
commercialization of our products. Currently, we rely primarily on direct sales
representatives for the US market and independent distributors for the
international market. Direct sales representatives are our employees. Direct
sales representatives are paid a salary plus commissions on sales they make.
Distributors purchase products from us and then resell our products and services
to third parties. We use distributors primarily for sales in Canada and the
international market. Our officers and employees develop and implement our
marketing strategy, although we do periodically engage non-employee consultants,
acting as independent contractors, to assist us in these efforts.
Market forces, such as increasing competition, increasing cost pressures on our
customers and general economic conditions, may require us to devote more
resources to our sales and marketing efforts, such as changing the composition
of our sales and marketing staff and changing our marketing methods. These
changes may result in additional expenses. For example, we will incur additional
salary expenses if we increase our direct sales force (which we intend to do
after completing the equity financing), or if we hire direct sales
representatives to replace independent sales representatives or distributors
that we use. Similarly, if we increase our reliance on marketing consultants to
assist us, we will incur greater costs. If we decide to increase our
advertising, we will also incur higher sales and marketing costs.
If we expand our sales force and increase our marketing activities, we cannot
make any assurances that those efforts will result in more sales or higher
revenue. Also, we cannot make any assurances that the increased costs we incur
by expanding our sales and marketing resources will result in greater sales or
in higher revenue. Further, even if we increase our spending on sales and
marketing, we may not be able to maintain our current level of sales and
revenue.
WE MAY NEED TO EXPAND OUR EXISTING MANUFACTURING AND DISTRIBUTION CAPABILITIES.
Our manufacturing and distribution capabilities, and any current or future
arrangements with third parties for these activities, may not be adequate for
the successful commercialization of our products.
To be successful, we must manufacture our products in commercial quantities and
at acceptable costs as required by current good manufacturing practices, the FDA
and the applicable standards of other regulators. We currently have the capacity
to manufacture products at certain commercial levels within existing good
manufacturing practices. Future regulatory clearances by the FDA and other
regulatory agencies could result in the need to expand manufacturing operations.
If we expand our manufacturing capabilities, we would need to spend substantial
funds, hire and retain significant additional personnel and comply with
extensive regulations. If we are not able to expand our manufacturing
capabilities, or are unable to continue to comply with good manufacturing
practices, our ability to grow and to maintain our competitiveness may be
significantly hindered.
WE RELY ON OUR AGREEMENTS WITH OUR SUPPLIERS. IF WE FAIL TO MAINTAIN OR
ESTABLISH THESE AGREEMENTS, WE MAY NOT BE ABLE TO OBTAIN MATERIALS THAT ARE
NECESSARY TO DEVELOP OUR PRODUCTS AND THEIR APPLICATIONS.
We depend on outside suppliers for certain raw materials and other components
for our products. Raw materials or components that we need may not always be
available at our standards or on acceptable terms, if at all, and we may be
unable to get alternative suppliers or produce needed materials or components on
our own. If we cannot obtain these raw materials or components, we may be unable
to make our products in sufficient quantities to meet our customers' needs. We
may also be unable to develop new products and applications and conduct clinical
trials. This will, in turn, hinder our ability to obtain regulatory approval of
these applications, thereby impairing our ability to expand our markets or
create products for new treatments.
THERE ARE SUBSTANTIAL CONCERNS REGARDING SAFETY AND HEALTH IN THE U.S. MEDICAL
PRODUCTS INDUSTRY. WE MAY NOT HAVE ADEQUATE PROTECTION AGAINST PRODUCT LIABILITY
OR RECALL, AND WE MAY HAVE TO PAY A SIGNIFICANT AMOUNT OF MONEY ON LIABILITY
CLAIMS OR RECALLS.
Testing, manufacturing and selling medical products and applications entails
significant inherent, industry-wide risks of allegations of product liability.
The use of our products in clinical trials and the sale of our products may
expose us to liability claims of patients or others who use our products in
connection with clinical trials or sales of treatments offered by our customers.
We currently carry insurance against these risks, but that insurance coverage
may not be adequate to cover all our liabilities.
A successful product liability claim could materially adversely affect our cash
flows and our ability to meet the costs of developing our products and their
clinical applications. Defense of these claims could also entail significant
expense and divert the attention of our management and personnel from other
activities.
8
IF WE ARE UNABLE TO PROTECT OUR INTELLECTUAL PROPERTY AND PROPRIETARY RIGHTS,
OUR BUSINESS COULD BE ADVERSELY AFFECTED.
We rely on a combination of patents, licenses, trade secrets and know-how to
establish and protect our proprietary rights to our technologies and products.
As of September 30, 2003, we held 22 patents in the U.S. and foreign countries.
We currently have patents for the following inventions we use in our laser
devices and systems:
- endovascular laser treatment of varicose veins, used in EVLT(R) ;
- solid state laser diode light source;
- high power light source;
- peltier-cooled apparatus; and
- medical spacing guide.
Of the patents, five are principal patents and 17 are counterparts of the
principal patents filed in different jurisdictions. These patents expire at
various times from 2011 to 2018.
In addition to the foregoing patents which we own, we also license certain
patented technology. Although we have an ownership interest in the EVLT(R)
patent that we purchased in September 2003 from one of the inventors of this
technology, we also licensed the rights in the same patent from all of the other
inventors on an exclusive basis. We also sub-license technology used in our
OPTIGUIDE(R) fiber optic diffuser used in photodynamic therapy applications on a
non-exclusive basis from the licensee. See the risk factor captioned "The
Termination of Licenses that We Now Have for Some of the Technology that We Use
Could Enable Competitors to Offer Products Similar to Ours or Prevent Us from
Offering Our Products," and "Description of Business - Patents, Trademarks and
Proprietary Technology" for more information regarding these licenses.
We cannot guarantee that the steps that we have taken or will take to protect
our proprietary rights will be adequate to deter misappropriation of our
intellectual property. In addition to seeking formal patent protection whenever
possible, we attempt to protect our proprietary rights and trade secrets by
entering into confidentiality and non-compete agreements with employees,
consultants and third parties with which we do business. However, these
agreements can be breached and if they are, there may not be an adequate remedy
available to us, and we may be unable to prevent the unauthorized disclosure or
use of our technical knowledge, practices or procedures. If our trade secrets
become known, we may lose our competitive advantage.
In addition, we may not be able to detect unauthorized use of our intellectual
property and take appropriate steps to enforce our rights. If third parties
infringe or misappropriate our patents or other proprietary rights, our business
could be seriously harmed. We may be required to spend significant resources to
monitor our intellectual property rights. We may not be able to detect
infringement of these rights, and consequently we may lose our competitive
advantages associated with our intellectual property rights before we do so. In
addition, competitors may design around our technology or develop competing
technologies that do not infringe on our proprietary rights.
WE MAY BE SUBJECT TO INTELLECTUAL PROPERTY CLAIMS, WHICH COULD BE COSTLY AND
TIME CONSUMING AND COULD DIVERT OUR MANAGEMENT AND KEY PERSONNEL FROM OUR
BUSINESS OPERATIONS.
Although we do not believe that any of our products infringe the intellectual
property of third parties, we may be unaware of intellectual property rights of
others that may be used in our technology and products. Third parties may claim
that we are infringing their intellectual property rights. Third parties may
also claim that our patents have been improperly granted and may seek to
invalidate our existing or future patents. Although we do not believe that any
of our active patents should be subject to invalidation, if any claim for
invalidation prevailed, the result could be greatly expanded opportunities for
third parties to manufacture and sell products which compete with our products.
Litigation or other challenges regarding our patents or other intellectual
property could be costly and time consuming and could divert our management and
key personnel from our business operations. Claims of intellectual property
infringement might also require us to enter into costly royalty or license
agreements. However, we may not be able to obtain these agreements on terms
acceptable to us, or at all. We also may be subject to significant damages or
injunctions against development and sale of our products. Infringement claims,
even if not substantiated and unsuccessful, could result in significant legal
and other costs and may be a distraction to management.
9
THE TERMINATION OF LICENSES THAT WE NOW HAVE FOR SOME OF THE TECHNOLOGY THAT WE
USE COULD ENABLE COMPETITORS TO OFFER PRODUCTS SIMILAR TO OURS OR PREVENT US
FROM OFFERING OUR PRODUCTS.
We currently have two technology licenses that are material to our business. The
first license relates to our EVLT(R) product line and the second relates to our
OPTIGUIDE(R) fiber optic diffuser. See "Business - Patents, Trademarks and
Proprietary Technology" for detailed information regarding these licenses.
We have an exclusive license to the technology we use in our EVLT(R) products
and services with four of the five inventors of this technology. We also
acquired directly from the fifth inventor all of his rights to the EVLT(R)
patent. If we were to breach our obligations under the exclusive license, while
we could still make, use or sell our EVLT(R) products and services under our own
title to the EVLT(R) patent, the other inventors could license the EVLT(R)
patent to our competitors, which would reduce our competitive advantage and
could result in lower revenue.
The second license relates to our photodynamic therapy product line. This is a
sublicense for patented technology that we currently use in our OPTIGUIDE(R)
fiber optic diffuser. Our sublicense for this technology is non-exclusive. The
term of this sublicense is for the term of the primary exclusive license from
the patent owner to our licensor. The term of the primary exclusive license is
the same as the term of the patent.
If our license for the OPTIGUIDE(R) technology is terminated, we may not have
access to components that we need to manufacture our OPTIGUIDE(R) products. We
may not be able to find an alternative technology source to continue
manufacturing these products on reasonable terms or at all.
WE MAY NOT BE ABLE TO ATTRACT AND RETAIN KEY PERSONNEL AND CONSULTANTS. IF WE
FAIL TO DO SO, WE MAY NOT BE ABLE TO DEVELOP OUR APPLICATIONS.
Our success depends in large part on our ability to attract and retain highly
qualified management and other personnel. We depend upon the principal members
of our management team, key employees, staff and consultants that we engage from
time to time. Competition for this talent is intense, and we may not be able to
continue to attract and retain this talent. If we are unable to attract and
retain skilled personnel, our business would suffer.
We have limited resources to attract and retain personnel. Our ability to
compensate and provide incentives to management and our employees depends on our
financial resources and the availability of equity compensation. In the second
quarter of 2003, the board of directors approved a new stock option plan
providing for up to 40,000,000 shares of common stock to be issued to our
officers, directors, employees and consultants. This new option plan required
stockholder approval before we can grant any stock options or other equity
compensation under the plan. We obtained stockholder approval at our 2003 annual
meeting of stockholders held November 25, 2003.
In addition, our directors and senior officers are likely to require that we
maintain directors and officers insurance at levels comparable to that which we
have maintained in the past. This type of coverage has become increasingly
difficult to obtain, and the premiums for this coverage have increased
significantly recently. Our current directors' and officers' liability insurance
policies provide this coverage through February 2004. If we are unable to
provide adequate compensation or are unable to obtain sufficient directors and
officers insurance coverage, we may not be able to attract or retain key
personnel.
Personnel changes may disrupt our operations. Hiring and training new personnel
will entail costs and may divert our resources and attention from
revenue-generating efforts. From time to time, we also engage consultants to
assist us in our business and operations. These consultants serve as independent
contractors, and we therefore do not have as much control over their activities
as we do over the activities of our employees. Our consultants may be affiliated
with or employed by other parties, and some may have consulting or other
advisory arrangements with other entities that may conflict or compete with
their obligations to us. Inventions or processes discovered by these persons
will not necessarily become our property. If we are unable to find alternative
talent, we will not be in a position to avoid or negotiate terms that would seek
to protect us from these conditions.
10
WE MAY SUFFER LOSSES OR ENCOUNTER OTHER PROBLEMS AS A RESULT OF FUTURE BUSINESS
COMBINATIONS AND ALLIANCES.
We may expand our operations and market presence by entering into business
combinations, joint ventures, co-branding or other strategic alliances with
other companies. These transactions create risks, such as:
- difficulty in assimilating the operations, technology and personnel
of the combined companies;
- the disruption of our ongoing business, including loss of management
focus on existing businesses and other market developments;
- problems retaining key technical and managerial personnel;
- expenses associated with the amortization of intangible assets;
- additional operating losses and expenses of acquired businesses;
- impairment of relationships with existing employees, customers and
business partners; and
- additional losses from any equity investments we might make or the
assumption of liabilities from third parties that we combine with.
We may not succeed in addressing these risks, and we may not be able to make
business combinations and strategic investments on terms that are acceptable to
us. In addition, any business we may acquire may incur operating losses.
WE ARE SUBJECT TO UNCERTAINTIES REGARDING HEALTH CARE REIMBURSEMENT. IF OUR
PRODUCTS AND THEIR APPLICATIONS ARE NOT ROUTINELY COVERED BY MEDICAL INSURANCE,
THEN WE MAY BE UNABLE TO ACHIEVE MARKET ACCEPTANCE OR GENERATE PROJECTED
REVENUES.
Various health care providers and third party payors may refuse to cover our
products and/or their particular medical applications. If the patients who use
our treatments do not obtain coverage, patient demand for our applications may
decrease and as a result, physicians may not purchase our products. Our ability
to commercialize our products successfully depends, in part, on the extent to
which third parties make reimbursement available for these products and related
treatments. These third parties include collaborative partners, government
health administration authorities, private health insurers, managed care
entities and other organizations. Increasingly, these payors are challenging the
price of medical products and services and establishing protocols and
formularies, which effectively limit physicians' ability to select products and
procedures. Uncertainty exists as to the reimbursement status of health care
products, especially innovative technologies. Additionally, reimbursement
coverage, if available, may not be adequate for us to achieve market acceptance
of our products or to maintain price levels sufficient for us to realize an
appropriate return on our products. If payors decide not to continue covering
our products, our sales may not meet our projections.
Further, our strategy depends in part on our collaborative partners, for
example, a drug company that uses our lasers in connection with its drug for a
photodynamic therapy application. As a result, our ability to commercialize our
products may be hindered if cost control initiatives, such as reducing
reimbursement rates or amounts, adversely affect our collaborators or the
clinical applications they market or are seeking to develop.
11
FAILURE TO OBTAIN PRODUCT APPROVALS OR COMPLY WITH ONGOING GOVERNMENTAL
REGULATIONS COULD ADVERSELY AFFECT OUR ABILITY TO MARKET AND SELL OUR PRODUCTS
AND SERVICES AND COULD RESULT IN LOSSES.
We have been successful in receiving governmental clearances for the products
listed below along with their indications for use:
PRODUCT INDICATION FOR USE
------- ------------------
EVLT(R) kit and D15 plus diode laser Closure of the
greater saphenous vein with reflux of the thigh
for treatment of varicose veins
Diomed 15 plus and 30 plus Open and endoscopic surgical procedures in fields
such as urology, gastroenterology, gynecology and
neurosurgery; applications include treatment of
vascular lesions and pigmented lesions
Diomed 630 PDT Combination premarket approval application for
Photofrin used in palliation of esophageal cancer
and endobronchial non-small cell lung cancer and
for treatment of Barrett's Esophagus
EVLT(R) kit and D15 plus and D30 plus Treatment of varicose veins and
varicosities associated with the superficial diode lasers vein reflux of the
greater saphenous vein
The production and marketing of our products and our ongoing research and
development, preclinical studies and clinical trial activities are subject to
extensive regulation and review by numerous governmental authorities in the
United States, including the FDA, and similar regulatory agencies in other
countries. Before we can market them, most medical devices that we develop, and
all of the drugs we use in conjunction with those devices, must undergo rigorous
preclinical studies and clinical trials and clear an extensive regulatory
approval process administered by the FDA and comparable foreign authorities.
These processes involve substantial costs and can often take many years. As a
result of the required up-front costs for regulatory approval and relatively
long time between developing a product and being able to sell it and generate
revenue, we may incur losses and negative cash flows. Regulations provide that
failure to comply with the applicable requirements can, among other things,
result in non-approval, suspensions of regulatory approvals, fines, product
seizures and recalls, operating restrictions, injunctions and criminal
prosecution. We have limited experience in performing regulatory activities, we
have limited resources available for handling regulatory matters. We rely on our
collaborative partners and outside consultants to assist us with our regulatory
needs.
We must compile and submit to the FDA or other applicable regulators new
indications of use as we determine new clinical applications for our products.
We may also be required to seek regulatory clearance for modifications to our
existing platform of lasers and disposable products, including changes to
suppliers, which must satisfy the FDA's applicable criteria or the criteria of
other applicable regulators. We believe that we have not reached this threshold
in our program and are not now required to submit an application to the FDA for
any changes we have made to our previously reviewed products. In the future,
however, we may decide to alter certain disposables or lasers in a manner such
that the FDA or other applicable regulators outside the United States will
review and approve the change. If we are required to seek FDA approval for
future indications or modifications to our existing products or services, we or
our collaborative partners may be unable to satisfy the conditions imposed by
the FDA (or other regulators). As a result, we may be required to abandon
applications for regulatory approval we make, or we may be unable to obtain FDA
clearances or other approvals we seek, and therefore we may be unable to offer
products and services relating to the new indications of use or product
modifications that we identify.
As to our EVLT(R) product line, in January 2002 the FDA granted clearance for
using a diode laser fiber to close the greater saphenous vein to treat
superficial reflux. In December 2002 the FDA granted clearance for expanded
indications for use of EVLT(R) including Diomed's D15plus and D30plus diode
lasers and disposable kits for the treatment of varicose veins and varicosities
associated with the superficial vein reflux of the greater saphenous vein.
As to photodynamic therapy, in August 2003, a combination preliminary market
application for a new photodynamic therapy treatment was cleared by the FDA. Our
collaborative partner, Axcan Pharma, filed the application. The application is
for a new indication for use of our existing photodynamic therapy product in
combination with Axcan Pharma's drug, Photofrin(R) , for the treatment of high
grade dysplasia associated with Barrett's Esophagus.
We are also subject to the Radiation Control for Health and Safety Act with
laser radiation safety regulations administered by the Center for Devices and
Radiological Health of the FDA. We may be subject to fines or other penalties
for failure to comply with these regulations. See "Description of
Business--Government Approval."
12
WE MAY NOT BE ABLE TO KEEP UP WITH RAPID CHANGES IN THE MEDICAL DEVICES
INDUSTRY. AS A RESULT, SOME OR ALL OF OUR PRODUCTS COULD BECOME OBSOLETE.
COMPETING PRODUCTS AND TECHNOLOGIES MAY ALSO MAKE SOME OR ALL OF OUR PROGRAMS OR
POTENTIAL PRODUCTS NONCOMPETITIVE OR OBSOLETE.
Our industry is subject to rapid, unpredictable and significant technological
change. Competition is intense. Well-known pharmaceutical and medical device
companies are marketing well-established therapies for the treatment of cancer
and other diseases. Doctors may prefer existing methods rather than try our
products. Therefore, we may be unable to meet our sales goals. Many companies
are also seeking to develop new products and technologies for medical conditions
for which we and our collaborative partners are developing treatments. Our
competitors may succeed in developing products that are safer or more effective
than ours and in obtaining regulatory approval for future products before we do.
As a result, we may not be able to recoup our costs in developing these
products. We anticipate that we will face increased competition as new companies
enter our markets and as the scientific development of similar treatments
evolves.
SINCE TECHNOLOGY IN OUR INDUSTRY IS CONSTANTLY CHANGING, WE FACE TECHNOLOGICAL
UNCERTAINTY AND FACE CERTAIN COMPETITIVE DISADVANTAGES.
We are a relatively new enterprise and are engaged in the development of novel
therapeutic technologies, such as EVLT(R) and photodynamic therapy. As a result,
our resources are limited, and we may experience technical challenges inherent
in such novel technologies. Many of our competitors have substantially greater
financial, technical and human resources than we do and may also have
substantially greater experience in developing products, conducting preclinical
studies or clinical trials, obtaining regulatory approvals and manufacturing and
marketing. Further, our competitive position could be materially adversely
affected if our competitors or other third parties establish patent protection,
because we may then have to pursue alternate means of developing our products.
Existing competitors or other companies may succeed in developing technologies
and products that are safer, more effective or more affordable than those that
we develop.
SINCE A SUBSTANTIAL PORTION OF OUR REVENUES TO DATE HAVE COME FROM INTERNATIONAL
SALES, EVENTS AFFECTING INTERNATIONAL COMMERCE MAY ADVERSELY AFFECT OUR FUTURE
INTERNATIONAL SALES, FUTURE REVENUES AND OUR PRODUCTS' FUTURE PROFITABILITY.
International revenue accounted for approximately 51% of our total revenue in
2001, 45% of our total revenue in 2002 and 40% for the nine months ended
September 30, 2003. Our key international markets are the European Union, Japan,
Australia, South Korea, Peoples Republic of China and Canada. Outside of the
European Union, we must obtain country-by-country approval to import our
products. Fluctuations in currency exchange rates may negatively affect our
ability to compete, in terms of price, against products denominated in local
currencies. Our international sales are made through international distributors
and their wholly-owned subsidiaries with payments to us typically denominated in
the local currencies of the United Kingdom and Europe and in U.S. dollars in the
rest of the world. We believe that the US is the single largest market for
EVLT(R) . We anticipate that the comparative portion of our total revenues
derived from international sales will decrease as our sales of EVLT(R) in the US
will increase, due to our emphasis on selling EVLT(R) in the US. However, we
expect that international sales will continue to provide a significant portion
of our total revenues.
BUSINESS INTERRUPTIONS COULD KEEP US FROM DEVELOPING OUR PRODUCTS' CLINICAL
APPLICATIONS AND INCREASING OUR REVENUES.
Natural or man-made disasters, such as fires, earthquakes, power losses,
telecommunications failures, terrorist attacks, military operations and other
events beyond our control may interrupt our operations. We do not have a
detailed disaster recovery plan. In addition, we may not carry sufficient
business interruption insurance to compensate us for losses that may occur and
any losses or damages we incur could have a material adverse effect on our cash
flows and success as an overall business.
OUR FORMER USE OF ARTHUR ANDERSEN LLP AS OUR INDEPENDENT AUDITOR MAY POSE RISKS
TO US AND WILL LIMIT YOUR ABILITY TO SEEK POTENTIAL RECOVERIES FROM THEM RELATED
TO THEIR WORK.
In June 15, 2002, our former independent auditor, Arthur Andersen, was convicted
on a federal obstruction of justice charge. Our audited financial statements for
the years ended December 31, 2000 and 2001, included in this prospectus, were
audited by Arthur Andersen. While Arthur Andersen has previously consented to
the inclusion of its audit report for such periods in our reports filed with the
SEC, Arthur Andersen is no longer able to reissue a consent to including its
audit report relating to such financial statements in our filings with the SEC
as may be required under SEC rules. The SEC has provided certain regulatory
relief designed to allow companies that file reports with the SEC to dispense
with the requirement of filing a consent of Arthur Andersen in certain
circumstances. Notwithstanding the SEC's regulatory relief, an investor's
ability to seek potential recoveries from Arthur Andersen related to any claims
that an investor may assert as a result of the work performed by Arthur Andersen
may be limited significantly by the lack of such consent and the diminished
amount of assets of Arthur Andersen that are or may be available to satisfy any
such claims.
***
13
The following risks relate principally to our commercialization of our current
and future products and their clinical applications:
SOME OF OUR PRODUCTS, SUCH AS EVLT(R), MAY NEVER BE SUCCESSFULLY COMMERCIALIZED,
AND, THEREFORE, THESE PRODUCT LINES MAY NEVER BECOME PROFITABLE OR ALLOW US TO
RECOUP EXPENSES INCURRED IN THEIR DEVELOPMENT.
We must be able to effectively develop, market and sell our products in order to
make a profit. Commercialization depends upon:
- successfully completing development efforts or our collaborative
partners, including finding new clinical applications for our
existing products;
- obtaining the required regulatory approvals;
- manufacturing our products at an acceptable cost and with
appropriate quality;
- favorable acceptance of any products marketed; and
- successful marketing and sales efforts by our partner(s) and
ourselves.
We may not successfully achieve some or all of these goals, and if so, our
business and our financial condition would be adversely affected. The time frame
necessary to achieve these goals for any individual clinical application is
uncertain. Most applications will require clinical studies and clinical trials,
and all applications will require regulatory approval prior to
commercialization. The likelihood of our success must be considered in light of
these and other problems, expenses, difficulties, complications and delays that
may arise.
PHOTODYNAMIC THERAPY APPLICATIONS MAY NOT SUCCESSFULLY COMPLETE THE CLINICAL
TRIALS PROCESS, AND WE MAY NOT BE ABLE TO PROVE THAT THE METHODS OF TREATMENT
ARE SAFE AND EFFECTIVE.
Our principal product line is EVLT(R), and we expect that as sales of our
EVLT(R) products and services increase, proportionately less of our total
revenue will be derived from photodynamic therapy products and services. Some
applications of our existing photodynamic therapy products have been approved by
the FDA or other relevant regulators. Other clinical applications for our
proposed photodynamic therapy products are also being developed by our
collaborative partners, who typically are principally responsible for obtaining
and maintaining regulatory approvals. Some of the photodynamic therapy drugs,
optical fiber and laser devices that we and our collaborative partners are
currently developing require extensive preclinical studies and clinical trials
prior to regulatory approval. In addition, although we do not currently plan to
do so, should we wish to expand our photodynamic therapy product line in the
future, we and our collaborative partners would be required to obtain
appropriate regulatory approvals. Many methods of treatment using photodynamic
therapy have not completed testing for efficacy or safety in humans. We may be
unable to obtain regulatory approval for these applications.
The failure to adequately demonstrate the safety and efficacy of a particular
photodynamic therapy product or application could delay or prevent regulatory
clearance of the potential product and would negatively impact our business in
that our ability to market and sell our products for these applications would be
postponed or prevented.
OUR PHOTODYNAMIC THERAPY CLINICAL APPLICATIONS MAY INDUCE ADVERSE SIDE EFFECTS
THAT PREVENT THEIR WIDESPREAD ADOPTION OR THAT NECESSITATE WITHDRAWAL FROM THE
MARKET AND MAY FORM A BASIS FOR PRODUCT LIABILITY CLAIMS.
Photodynamic therapy drugs, fibers and laser devices may induce undesirable and
unintended side effects that may prevent or limit their commercial adoption and
use. One such side effect may be a period of photosensitivity to bright light
for a certain period of time after receiving photodynamic therapy treatment.
This period of photosensitivity typically declines over time. Currently, this
photosensitivity is being explored and evaluated in clinical trials. Even after
the FDA and other regulatory authorities grant us their approvals, our products
may later induce unanticipated adverse side effects that prevent widespread use
or necessitate withdrawal of the products from the market. The manifestation of
such side effects could cause our business to suffer because we may not be able
to recover the costs we have incurred in developing these applications, and
additionally, could create product liability issues for us.
14
MARKET ACCEPTANCE OF OUR PRODUCTS OR THEIR USES IS UNCERTAIN. FAILURE TO ACHIEVE
MARKET ACCEPTANCE WILL HARM OUR BUSINESS' OVERALL CHANCES FOR PROFITABILITY.
Even if regulators approve our products for marketing, our products may not
achieve market acceptance. Our revenues would suffer as a result. The degree of
market acceptance will depend upon a number of factors, including:
- the establishment and demonstration in the medical community of the
safety and efficacy of our clinical applications and their potential
advantages over existing applications;
- the pricing and reimbursement policies of government and third-party
payors, such as insurance companies, health maintenance
organizations and other plan administrators; and
- the general willingness of physicians, patients, payors or the
medical community to accept, utilize or recommend any of our
applications.
In particular, since most photodynamic therapy treatments still are in clinical
trials, there is no long-term safety or efficacy data available. The medical
profession may, therefore, prefer to prescribe conventional alternatives to PDT,
such as surgery, chemotherapy and radiation. If our products and clinical
applications are not accepted due to these or other factors, our business will
not develop as planned and may be harmed.
IF WE ARE UNABLE TO SUCCESSFULLY MAINTAIN OUR RELATIONSHIPS WITH PHOTODYNAMIC
THERAPY DRUG COMPANIES AND ESTABLISH COLLABORATIVE AND LICENSING ARRANGEMENTS,
WE MAY BE UNABLE TO DEVELOP OUR PRODUCTS AND APPLICATIONS. BECAUSE OUR PRODUCTS
MAY NEVER BECOME MARKETABLE, OUR REVENUES MAY BE ADVERSELY AFFECTED.
We enter into collaborative relationships with photodynamic therapy drug
companies for research and development, preclinical studies and clinical trials,
manufacturing, sales and distribution of our products and their application.
Currently our most active collaborative arrangement is with Axcan Pharma. Most
other collaborative agreements are at earlier stages of development or are not
currently active. Our collaborative partners use our technology to activate the
drug for which they are seeking FDA clearance for the drug/laser/fiber
combination. As we are not in a position to influence the outcome of the medical
trials involved in obtaining FDA clearance, we are wholly dependent upon our
collaborative partners' success in these medical trials and in completing the
FDA clearance process. Our current and future collaborations are important to us
because they allow us access to research, development or testing resources that
we would otherwise not have. We intend to continue to rely on these kinds of
arrangements.
Some of the risks and uncertainties related to our reliance on collaborations
are:
- we may not be able to negotiate acceptable collaborative
arrangements, including those based upon existing agreements;
- we may not be able to negotiate extensions of existing collaborative
agreements, or the terms of any such extensions may be less
favorable to us;
- our future or existing collaborative arrangements may not result in
products that we can market and sell;
- our collaborative relationships may restrict us;
- our collaborative partners may be free to pursue alternative
technologies or products either on their own or with others,
including our competitors, for the medical problems that our
applications and products target;
- our collaborative partners may fail to fulfill their contractual
obligations to us or terminate their relationships with us, in which
event we may be required to seek other collaborative partners, or
expend substantial resources to pursue these activities
independently, and these efforts may not be successful; and
- we may not be able to manage, interact and coordinate our timelines
and objectives with our collaborative partners successfully.
***
The following risks relate principally to our common stock and its market value:
15
OUR COMMON STOCK COULD BE SUBJECT TO SUBSTANTIAL PRICE AND VOLUME FLUCTUATIONS
DUE TO A NUMBER OF FACTORS, MANY OF WHICH WILL BE BEYOND OUR CONTROL, AND THOSE
FLUCTUATIONS MAY PREVENT OUR STOCKHOLDERS FROM RESELLING OUR COMMON STOCK AT A
PROFIT.
The securities markets have experienced extreme price and volume fluctuations
during the past three years, and the market prices of the securities of emerging
companies and technology-oriented companies have been especially volatile. In
the past, companies that have experienced volatility in the market price of
their stock have been the subject of securities class action litigation.
Securities class action litigation could result in substantial costs,
liabilities and a diversion of management's attention and resources. For
example, as a result of the Augenbaum class action litigation commenced in July
2003, discussed in detail under "Litigation" below, we adjourned our annual
stockholders meeting, made certain adjustments to our preferred stock and
negotiated a settlement of this litigation, all in August 2003. This required
significant attention by our management and entailed legal and other related
expenses, and may have had a negative impact on the trading price of our common
stock. The shares of common stock being issued in our equity financing and this
offering will likely enter the trading market, which may result in lower trading
prices if there are not sufficient purchasers to absorb the common stock as it
enters the trading market.
Since the February 14, 2002 merger by which we became a public company through
September 30, 2003, the price and trading volume of our common stock has ranged
widely. During this period, the highest closing price of our common stock was
$8.80 on March 8, 2002, and the lowest closing price of our common stock was
$.10 on March 24, 2003.
OUR COMMON STOCK HAS ONLY BEEN PUBLICLY TRADED SINCE FEBRUARY 22, 2002. THE
PRICE OF OUR COMMON STOCK HAS FLUCTUATED WIDELY AND WE EXPECT THAT THE PRICE OF
OUR COMMON STOCK COULD CONTINUE TO FLUCTUATE SUBSTANTIALLY.
Until shortly after the February 14, 2002 merger, there was not any significant
public market for our common stock. On February 22, 2002, shares of our common
stock became listed for trading on the American Stock Exchange. We cannot be
certain that the American Stock Exchange will maintain our listing if we fall
below its listing qualifications or do not comply with other applicable American
Stock Exchange rules. An issuer's securities may be delisted by the American
Stock Exchange if the issuer fails to meet certain financial criteria, or if a
listed security trades at a low market price for a substantial period of time.
We have not received notice from the American Stock Exchange threatening to
delist our common stock, but if we do receive such a notice in the future, we
cannot be certain that we will be able to take corrective action requested by
the American Stock Exchange to avoid delisting.
If our shares are not listed on the American Stock Exchange, our shares are
likely to be quoted on the Over-the-Counter Bulletin Board of the National
Association of Securities Dealers, where they have previously been quoted, but
where there may be less trading of our shares.
The market price for our common stock will be affected by a number of factors,
including:
- developments within our own company;
- our announcements of new products or new clinical applications for
our products;
- our competitors' announcements of new products or new clinical
applications;
- quarterly variations in our or our competitors' results of
operations;
- changes in earnings estimates, recommendations by securities
analysts or our failure to achieve analysts' earning estimates;
- developments in our industry;
- the number of shares of our common stock that are available for
trading in the markets at any given time; and
- general market conditions and other factors, including factors
unrelated to our or our competitors' operating performance.
In addition, the stock prices of many companies in both the medical device and
medical services industries have experienced wide fluctuations, often unrelated
to the operating performance of those companies. These factors and industry
price fluctuations may materially and adversely affect the market price of our
common stock.
16
SALES OF OUR STOCK BY STOCKHOLDERS PRIOR TO THE FEBRUARY 14, 2002 MERGER MAY
HAVE A POTENTIAL IMPACT ON US.
Prior to the February 14, 2002, there was both public and private trading in the
shares of Natexco Corporation, which became Diomed Holdings, Inc. in the merger.
Although no buyers or sellers in those transactions have asserted any claims
against us, we cannot be certain that those buyers or sellers will not assert
claims arising out of their purchases and sales of shares, and we cannot predict
whether those claims will involve us. To the extent that we are involved, this
may entail expense and diversion of management's attention, and if we are found
to be have done something improper, then we may have financial liability, or we
may be required to issue additional shares of stock or take other corrective
action.
OUR NEW INVESTORS HAVE SIGNIFICANT VOTING POWER AND HAVE INFLUENCE ON THE
COMPOSITION OF OUR BOARD OF DIRECTORS.
Our new investors in the equity financing (including the placement agent and
those investors who formerly held preferred stock that we exchanged for common
stock in connection with the equity financing) control approximately 83% of our
common stock (assuming the exercise of approximately 41,000,000 warrants we
issued to our placement agent as part of its compensation for the placement
agent's services in connection with the equity financing).
Furthermore, investors holding approximately 80% of the shares that we issued in
the equity financing (including Gibralt US, which is controlled by Samuel
Belzberg, one of our directors) became parties to a stockholders' agreement to
which we are also a party. The stockholders' agreement contains provisions
regarding our board of directors. We agreed to use our best efforts to cause the
size of the board to be increased to nine directors after completing the equity
financing, and to cause to be nominated for election to the board three persons
selected by those investors who are parties to the stockholders' agreement. We
also agreed to use our best efforts to cause the board of directors to appoint
one of the investors' designees as one of the members of the committees of the
board of directors.
After we completed the equity financing, we amended our certificate of
incorporation to permit us to have up to nine directors. Samuel Belzberg advised
us that he intends to resign after the investors have exercised their right to
select three directors, and we expect the remaining six members of the board of
directors to nominate and appoint the three persons designated by the investors
to fill the vacancies created by Mr. Belzberg's resignation and the increase in
the size of the board. As of the date of the registration statement of which
this prospectus is a part, the investors who are parties to the stockholders'
agreement have not yet designated to us the three persons they wish to be
nominated as directors.
We and Gibralt US agreed with the investors that the size of the board of
directors would remain at nine and we will use our best efforts to nominate for
election to the board of directors at each annual meeting of stockholders three
persons designated by those investors who are parties to the stockholders'
agreement. The agreement with regard to the nomination of directors terminates
when the investors who are parties to the stockholders' agreement cease to
beneficially own more than 50% of the investors' shares that are subject to the
agreement. Gibralt US also agreed to vote its voting securities in favor of the
election of the investors' three designees during the first three years after
the completion of the equity financing.
As a result of the high percentage of ownership of our outstanding shares and
the right to designate three director nominees, the investors may be able to
control the management and affairs of our company. These stockholders' interests
may vary from yours. The concentration of ownership may also delay or prevent a
change in control and might adversely affect the market price of our common
stock. Therefore, concentration of ownership may not be in the best interest of
our other stockholders.
WE HAVE NOT PAID DIVIDENDS IN THE PAST AND DO NOT EXPECT TO PAY DIVIDENDS IN THE
FUTURE. ANY RETURN ON INVESTMENT MAY BE LIMITED TO POTENTIAL FUTURE APPRECIATION
ON THE VALUE OF OUR STOCK.
We have never paid cash dividends on our stock and do not anticipate paying cash
dividends on our stock in the foreseeable future. The payment of dividends on
our stock, if ever, will depend on our earnings, financial condition and other
business and economic factors affecting us at such time as the board of
directors may consider relevant. If we do not pay dividends, our stock may be
less valuable because a return on investment will only occur if and to the
extent that our stock price appreciates, and if the price of our stock does not
appreciate, then there will be no return on investment.
A SALE OF A SUBSTANTIAL NUMBER OF SHARES OF OUR COMMON STOCK MAY CAUSE THE PRICE
OF OUR COMMON STOCK TO DECLINE AND MAY IMPAIR OUR ABILITY TO RAISE CAPITAL IN
THE FUTURE.
If our stockholders sell substantial amounts of our common stock in the public
market, including shares issued upon the exercise of outstanding options or
warrants, the market price of our common stock could fall. These sales also
might make it more difficult for us to sell equity or equity-related securities
in the future at times and prices that we deem reasonable or appropriate.
Of the 358,129,183 shares of our common stock currently outstanding (on a
fully-diluted basis, assuming the exercise of all 40,879,063 warrants we issued
in connection with the equity financing), 29,711,749 shares are available to
trade publicly (including approximately 2,000,000 shares held by affiliates). We
recently issued 287,038,371 shares of common stock in connection with our equity
financing and have also issued warrants to purchase an additional 40,879,063
shares of common stock. We have also committed to register these shares of
common stock, at which time these shares will become freely tradable in the
public market by their holders. In addition, we are registering 29,711,749
shares of common stock under this offering being made to our stockholders as of
August 29, 2003. These shares will be freely tradable upon issuance because they
will not be issued until after the corresponding registration statement has been
declared effective by the SEC.
The equity financing which closed on November 25, 2003 and the May 2003 exchange
transaction are described in detail under "Management's Discussion and Analysis
of Financial Condition or Plan of Operation." The number of shares issued under
these transactions are as follows:
UNDERLYING BASIS FOR ISSUANCE NUMBER OF SHARES
- ------------------------------ -----------------
Exchange of Class E Shares 27,117,240
Exchange of Class F Shares 3,021,552
Conversion of Secured Bridge Notes
Issued in First Closing of Equity Financing 87,437,500
Sale of Investors' Shares at Second Closing of
Equity Financing 167,000,000
Conversion of Interest on Secured Bridge Notes
at Second Closing of Equity Financing 1,632,177
Conversion of Interest on Class D Notes at Second
Closing of Equity Financing 482,335
Conversion of Interest earned on investors'
Funds while in escrow pending the final closing of
Equity Financing 347,567
Exercise of Warrants Issued to Placement Agent
In Connection with Equity Financing 40,879,063(1)
-----------
TOTAL: 327,917,434
- ----- ===========
(1) Assumes full exercise of all warrants issued to placement agent.
As to any shares of common stock which are not covered by an effective
registration statement, the SEC's Rule 144 will govern resale of these shares
and, in general, stockholders will be able to sell their shares subject to the
volume and manner of sale limitations of Rule 144, beginning one year after the
stockholders acquired these shares.
APPROXIMATELY 54,000,000 SHARES ARE BEING REGISTERED FOR RESALE BY OUR
AFFILIATES, WHICH WILL ENABLE THESE AFFILIATES TO SELL THEIR SHARES IN THE OPEN
MARKET AND COULD CAUSE THE PRICE OF OUR COMMON STOCK TO DECREASE.
One of our affiliates, Samuel Belzberg, a director, beneficially owns
approximately 55,600,000 shares of common stock, of which approximately
53,600,000 are being registered for resale under the registration statement of
which this prospectus is a part. Another affiliate, James A. Wylie, Jr., a
director and our chief executive officer, owns approximately 650,000 shares of
common stock, all of which are being registered for resale under the
registration statement of which this prospectus is a part. Under the volume
limitations provided under Rule 144 promulgated by the Securities and Exchange
Commission, these affiliates will be subject to restrictions on the amount of
shares that they may sell in the market after registration. Rule 144 does,
however, permit affiliates to sell shares in any three-month period up to either
1% of the outstanding shares of our common stock for a period prior to the sale,
or the average weekly trading volume of our common stock, whichever is greater.
Accordingly, each of our affiliates will be permitted to sell at least
approximately 3,580,000 shares of common stock in a given three-month period,
which is 1% of the number of our common shares that currently are outstanding.
The sale of a substantial number of these shares may cause the trading price of
our common stock to decrease.
WE HAVE ISSUED APPROXIMATELY 287,000,000 SHARES OF COMMON STOCK, INCLUDING
APPROXIMATELY 55,000,000 SHARES ISSUED TO AFFILIATES, AND WE ISSUED WARRANTS TO
PURCHASE APPROXIMATELY 41,000,000 SHARES OF COMMON STOCK AT A SUBSTANTIAL
DISCOUNT TO THE TRADING PRICE OF OUR COMMON STOCK, WHICH COULD LEAD THESE
STOCKHOLDERS TO SELL THEIR SHARES WHEN THEY BECOME FREELY TRADABLE IF THEY CAN
REALIZE A PROFIT AT THAT TIME.
In connection with our equity financing, we issued approximately 287,000,000
shares of common stock and warrants to purchase up to approximately 41,000,000
shares of common stock. Details regarding these issuances are provided below.
COMMON STOCK
On November 25, 2003, the date we completed our equity financing, the closing
price of our common stock on the American Stock Exchange was $0.32 per share. We
issued shares of common stock in connection with the equity financing at prices
of $0.10 per share and less. These shares become freely tradable when registered
under the registration statement of which this prospectus is a part. If when
these shares become freely tradable, the trading price of our common stock is
greater than the price paid by the investors in the equity financing, then the
investors may seek to sell their shares to immediately realize gains on their
investment. If these stockholders sell a substantial number of their shares, the
market price of our common stock may decrease substantially.
We issued common stock in connection with the equity financing as follows:
BASIS FOR ISSUANCE NUMBER OF SHARES PRICE PER SHARE
- ------------------ ---------------- ---------------
Shares issued to investors 256,899,579 $0.09(1)
in the equity financing:
(includes 31,059,890 shares
issued to affiliates)
Shares issued upon exchange of 27,117,240 $0.08(2)
preferred stock as a condition to
the equity financing, which
preferred stock was issued in
connection with December 2002
interim financing (includes 20,337,930
shares issued to affiliates)
Shares issued upon exchange of preferred stock
as a condition to the equity financing, which
preferred stock was issued in connection with
May 2003 interim financing (all of these
shares were issued to affiliates) 3,021,552 $0.08(2)
(1) Weighted average price per share paid by investors. Of these
shares, 89,069,677 were issued at $0.08 per share and 167,829,902 were
issued at $0.10 per share.
(2) Deemed price per share, based on the closing price of the common
stock on April 22, 2003, the effective date of the agreements for the
interim financing transaction pursuant to which the preferred stock
initially was issued ($0.16 per share) and adjusted to $0.08 to reflect
the dilutive effect of the issuance of the approximately 30,000,000
shares of common stock underlying the preferred stock.
Accordingly, if the selling stockholders were to sell their shares at prices
above the price they paid for their shares, they will realize a profit. For
example, on November 25, 2003, the closing price of our common stock was $0.32.
If the investors were to sell all shares purchased in the equity financing at
that price, then the investors would realize aggregate profits of approximately
$58,000,000, of which approximately $7,000,000 would be realized by our
affiliates. Further, assuming that the six holders of shares of common stock
that we issued upon exchange of preferred stock as a condition to the completion
of the equity financing were to sell their shares at prices above the deemed
price for these shares, then they would realize a profit. For example, if
selling stockholders were to sell all shares issued to them upon exchange of
their preferred stock for $0.32 per share, they would realize aggregate profits
of approximately $7,200,000, of which approximately $5,600,000 would be realized
by our affiliates.
WARRANTS
We also issued warrants to purchase 40,879,063 to our placement agent in the
equity financing, Sunrise Securities Corp., on September 3, 2003 as partial
compensation for its services to us in connection with the equity financing. The
weighted average exercise price of these warrants was $0.06 per share and was
substantially below the market price of our common stock when we issued the
warrants, which was $0.34 on September 3, 2003.
If the holders of these warrants were to exercise their warrants and sell their
shares at prices above the exercise price, they would realize a profit from the
sale of these shares. Further, if the holders of the warrants having an exercise
price of $0.001 per share were to exercise their warrants and sell their shares
for more than approximately $0.088 per share, then the value of these securities
would exceed the $1,550,000 amount that we would have paid to the placement
agent if we had paid cash fees instead of issuing warrants. If the warrant
holders were to sell all of the underlying shares for $0.34, which was the
closing price of our common stock on September 3, 2003, the date we issued the
warrants, the warrant holders would realize gross profits of $11,671,340.
17
POTENTIAL DILUTION CAUSED BY CURRENTLY OUTSTANDING STOCK OPTIONS, AND WARRANTS
MAY REDUCE THE MARKET PRICE OF OUR COMMON STOCK.
As of September 30, 2003, there were outstanding stock options representing
3,431,838 shares of common stock, with exercise prices ranging from $0.08 to
$8.23 per share. The weighted average exercise price of the stock options
outstanding as of September 30, 2003 was $1.28. In addition, as of September 30,
2003, there were outstanding warrants representing 41,000,987 shares of common
stock, with exercise prices varying from $0.001 to $3.50 per share. We issued
40,879,063 of these warrants on September 3, 2003 to our placement agent in the
equity financing, Sunrise Securities Corp., in partial payment of fees that we
owed to the placement agent. The warrants issued to our placement agent have
exercise prices ranging from $0.001 per share to $0.10 per share, and the
weighted average exercise price of all warrants outstanding as of September 30,
2003 was $0.06 per share. The placement agent subsequently transferred the
warrants to several third parties, which the placement agent advises us are nine
of its employees, one former employee, a consultant and a charitable trust over
whose securities Nathan Low, the president of the placement agent, exercises
voting and investment discretion. The names and numbers of warrants at each
exercise price held by the placement agent's transferees are set forth under
"Selling Stockholders," below.
We also recently implemented a new option plan to help incent and compensate our
employees and others who assist our business. This new plan allows us to issue
options to purchase up to 40,000,000 shares of common stock to employees,
directors and consultants. The holders of the options and warrants have the
opportunity to profit if the market price for the stock exceeds the exercise
price of their respective securities, without assuming the risk of ownership. If
the market price of the common stock does not exceed the exercise price of these
securities, then they will likely not be exercised and may expire on their
respective expiration dates.
After the exercise of options or warrants, an increase in the number of
outstanding shares will occur, thus decreasing each shareholder's percentage of
our total outstanding equity. When the holders exercise a significant number of
these options, the market price of our stock could fall.
OUR CORPORATE CHARTER AND BYLAWS CONTAIN PROVISIONS THAT MAY PREVENT
TRANSACTIONS THAT COULD BE BENEFICIAL TO STOCKHOLDERS.
Our charter and bylaws restrict certain actions by our stockholders and require
greater than majority votes for certain actions. For example:
- Only our board of directors or the chairman of the board can call
special meetings of stockholders.
- Stockholders must give advance notice to the secretary of any
nominations for directors or other business to be brought by
stockholders at any stockholders' meeting. Our board of directors
has the authority to issue up to approximately 3,000,000 additional
shares of preferred stock, which are authorized under our
certificate of incorporation but are currently unissued. Our board
of directors can fix the price, rights, preferences and privileges
of the preferred stock without any further vote or action by our
stockholders. These rights, preferences and privileges attached to
future preferred stock may be senior to those of the holders of our
common stock.
These and other provisions of our charter, the certificates of designations
setting forth the terms of our preferred stock and our bylaws, as well as
certain provisions of Delaware law, could prevent changes in our management and
discourage, delay or prevent a merger, tender offer or proxy contest, even if
the events could be beneficial to our stockholders. These provisions could also
limit the price that investors might be willing to pay for our stock because
these provisions may limit their rights and, thus, make an investment in our
stock appear less attractive.
18
Additionally, the listing requirements of the American Stock Exchange, on which
our common stock is listed, provide restrictions on our ability to enter into
certain types of transactions, such as the issuance of additional shares of
capital stock. These restrictions may make it more difficult to issue securities
having terms acceptable to investors in capital financing transactions that we
may wish to enter into from time to time. If we are precluded by these
requirements from issuing such securities, then our business may suffer because
we will be unable to obtain additional equity capital investment.
RISKS RELATED TO THIS OFFERING
THE PRICE OF OUR COMMON STOCK MAY DECLINE BEFORE OR AFTER THE OFFERING EXPIRES.
We cannot assure you that the public trading market price of our common stock
will not decline after you submit your stock order form to purchase shares, and
this decline could result in a market price below $0.10 per share. If that
occurs, you may have committed to buy shares of common stock at a price above
the prevailing market price, and you will have an immediate unrealized loss.
Moreover, we cannot assure you that, following your purchase of shares, you will
be able to sell your shares of common stock at a price equal to or greater than
$0.10 per share. Until certificates are delivered upon expiration of the
offering, you may not be able to sell the shares of our common stock that you
have purchased in the offering. Certificates representing shares of our common
stock purchased will be distributed by our transfer agent within three business
days after expiration of the offering. We may chose to extend the offering for
up to an additional 60 days after the initial 45 day offering period, in which
case share certificates will not be distributed until after the extended
offering period expires. We will not pay you interest on funds delivered to the
subscription agent pursuant to your order, and we will not reimburse you for any
loss you may incur on the shares you purchased in this offering, either during
the offering period or afterward.
THERE IS NO MINIMUM NUMBER OF SHARES THAT MUST BE PURCHASED IN THE OFFERING.
There is no minimum number of shares that must be purchased in the offering. We
cannot assure you that any shares of common stock will be purchased in this
offering. Furthermore, we cannot assure you that the amount of net proceeds
received by us from the purchase of shares will be adequate to pay for the costs
of this offering or to enable us to pursue our intended operations in the manner
or to the extent we contemplate in this prospectus.
OUR AFFILIATE, SAMUEL BELZBERG, MAY PARTICIPATE IN THE OFFERING.
Among the offeree stockholders is Gibralt US, Inc., an affiliate of Samuel
Belzberg, a director and significant stockholder. Gibralt US has approximately
2,000,000 allotted shares. Gibralt US will also be able to purchase
over-allotted shares in the offering to the extent over-allotted shares are
available to the offeree stockholders. If Gibralt US purchases shares in the
offering, it may increase its ownership of our company relative to our other
stockholders. This would provide Mr. Belzberg with both an increased economic
interest in our company and greater influence over our affairs.
ONCE YOU SUBMIT YOUR STOCK ORDER FORM WITH PAYMENT FOR THE SHARES, YOU CANNOT
WITHDRAW YOUR ORDER
Once you submit your stock order form with payment for the shares, you cannot
withdraw your order, even if fewer than all of the shares that we are offering
are actually purchased. If we elect to withdraw or terminate the offering,
neither we nor the subscription agent will have any obligation with respect to
your stock order, except to return, without interest, any payments.
19
THE OFFERED PRICE PER SHARE IS NOT AN INDICATION OF THE VALUE OF OUR COMPANY.
The offered price per share in the offering is equal to the price that the new
investors paid to us to purchase common stock at the final closing of the equity
financing on November 25, 2003. The price does not necessarily bear any
relationship to the book value of our assets, past operations, cash flows,
losses, financial condition, or any other established criteria for value, and is
not necessarily an indication of the present or future value of our company.
SPECIAL NOTE OF CAUTION REGARDING FORWARD-LOOKING STATEMENTS
Some statements in this prospectus under the caption "Risk Factors" and
elsewhere may constitute "forward-looking statements" within the meaning of
federal securities laws. Forward-looking statements are based on our
management's beliefs, assumptions, and expectations of our future economic
performance, taking into account the information currently available to them.
These statements are not statements of historical fact. Forward-looking
statements involve risks and uncertainties that may cause our actual results,
performance or financial condition to be materially different from the
expectations of future results, performance or financial condition we express or
imply in any forward-looking statements. Some of the important factors that
could cause our actual results, performance or financial condition to differ
materially from our expectations are discussed in "Risk Factors" and in our
filings with the SEC.
When used in our documents or presentations, the words "anticipate," "estimate,"
"expect," "objective," "projection," "forecast," "goal" or similar words are
intended to identify forward-looking statements. We qualify any such
forward-looking statements entirely by these cautionary factors.
20
RECENT DEVELOPMENTS
EQUITY FINANCING
On September 2, 2003, we entered into a private placement equity financing
transaction with accredited investors who agreed to purchase common stock for an
aggregate purchase price of $23,200,000. The terms of this transaction provided
that the equity financing would occur at two closings. The first closing
occurred on September 3, 2003. At that time, the investors funded $6,500,000 in
cash to us in exchange for $6,500,000 principal amount of secured convertible
bridge notes. The second closing occurred on November 25, 2003. At the second
closing, the $6,500,000 principal amount of notes was converted into a total of
81,250,000 shares of our common stock at a conversion price of $0.08 per share.
The investors invested the remaining $16,700,000 of the equity financing at the
second closing in exchange for common stock at a purchase price of $0.10 per
share. The registration statement, of which this prospectus forms a part,
relates to those shares issued to the investors on November 25, 2003.
The investors who participated in the first closing of the equity financing
included the four holders of our $2,000,000 principal amount of Class E Secured
Notes due 2006, which we issued in connection with a bridge financing
transaction in December 2002. At the first closing, these noteholders invested
an aggregate of $2,000,000. These noteholders were (i) Gibralt US, Inc., an
affiliate of one of our directors, Samuel Belzberg, which held $1,500,000 of the
Class E Notes and purchased $1,500,000 of the secured bridge notes, (ii) Morris
Belzberg, a cousin of Samuel Belzberg, who held $300,000 of the Class E Notes
and purchased $300,000 of the secured bridge notes, (iii) Charles Diamond, who
held $100,000 of the Class E Notes and purchased $100,000 of the secured bridge
notes and (iv) Steven Schraiberg, who held $100,000 of the Class E Notes and
purchased $100,000 of the secured bridge notes. At the time of the first
closing, we repaid all of the Class E Notes.
Of the $16,700,000 invested at the second closing of the equity financing,
$15,500,000 was paid by the investors in cash. We also converted our Class D
Secured Notes due 2004, which we issued in connection with a bridge financing
transaction in May 2003, for the remaining $1,200,000 of common stock. The
holders of the Class D Notes were, at the time of the May 2003 bridge financing,
directors, or affiliates of directors. These three Class D holders are Gibralt
US, Inc., which is an affiliate of Samuel Belzberg (the holder of $1,100,000 in
principal amount of Class D Notes); James A. Wylie, Jr. (the holder of $50,000
in principal amount of Class D Notes); and Peter Norris (the holder of $50,000
principal amount of Class D Notes). We issued a total of 256,552,012 shares of
common stock to the 119 investors (including the placement agent and the holders
of the Class D Notes) on November 25, 2003 at the final closing of the equity
financing, including 12,482,335 shares that we issued on conversion of the Class
D Notes. Subsequently, on December 18, 2003, we issued an additional 347,567
shares of common stock to those investors who paid cash for their shares at the
final closing of the equity financing. We issued these shares because under the
terms of the escrow agreement under which these investors deposited all funds
for their investment, these investors were entitled to either receive the
interest that was earned on their funds while held in escrow or to receive
shares in lieu of this interest, with the interest earned being paid to the
Company, as determined by the placement agent, Sunrise Securities Corp. The
placement agent elected to have the interest paid to us and for us to issue
additional shares accordingly. We received approximately $35,000 in interest
from the escrow agent on December 18, 2003, and we then issued the additional
shares to the investors at a price of $0.10 per share.
In connection with the equity financing, we engaged Sunrise Securities Corp., a
registered broker-dealer, to act as our placement agent. The placement agent
also participated as an investor in the equity financing by reinvesting $495,000
of its fee (that would have otherwise been paid in cash) at the first closing of
the equity financing in exchange for notes which were converted into 6,187,500
shares of common stock at the second closing. These notes are in addition to the
notes we issued to the investors who loaned $6,500,000 to us at the first
closing of the equity financing. Accordingly, an aggregate of $6,995,000
principal amount of notes was converted into a total of 87,437,500 shares of
common stock at the second closing of the equity financing on November 25, 2003.
Accrued interest on the $6,995,000 in notes was also converted into common stock
at the final closing of the equity financing at a conversion price of $0.08 per
share, and we issued 1,632,177 shares of common stock upon conversion of this
accrued interest.
The following table approximates our use of these proceeds from September 2003
through December 31, 2003:
Use of Proceeds (unaudited)
---------------------------
Gross Proceeds: $23,200,000
Use of Proceeds:
EVLT(R) Patent Acquisition $2,250,000
Retirement of December 2002 Notes (1) 2,132,000
Conversion of May 2003 Notes 1,200,000
Equity financing costs 1,160,000
Reduction in trade payables 1,141,000
Retirement of short term notes 438,000
Augenbaum Settlement 150,000
Working capital 9/1/03-12/31/03 1,329,000
-----------
Total $9,800,000
Net Balance of Proceeds
as of December 31, 2003: $13,400,000
===========
(1) Includes principal and interest of approximately $1,575,000 on notes held by
Samuel Belzberg, an affiliate.
In connection with the equity financing, we issued warrants to purchase
40,879,063 shares of common stock to our placement agent as part of its
compensation for its services. Of the warrants issued to the placement agent,
17,150,000 are exercisable at $0.10 per share, 6,187,500 are exercisable at
$0.08 per share and 17,541,563 are exercisable at $0.001 per share. The warrants
expire November 25, 2008. The exercise prices of these warrants is substantially
below the market price of our common stock at the time of issuance, which was
$0.34 on September 3, 2003.
We issued those warrants with an exercise price of $0.001 instead of paying in
cash fees that the placement agent earned under our agreement with the placement
agent. These cash fees would have been $1,550,000, and we and the placement
agent determined that the number of warrants issued at $0.001 approximated the
value of this cash fee at the time the equity financing terms were finalized on
September 2, 2003. We issued the warrants with exercise prices of $0.08 and
$0.10 per share because our agreement with the placement agent provided that we
would issue warrants equal to 10% of the investment made by the new investors in
the equity financing. The exercise prices reflect the underlying amounts
invested and prices paid by the investors for common stock at each of the two
stages of the equity financing.
Assuming that holders of these warrants exercise their warrants and are able to
sell their shares at prices above the exercise price, they will be able to
realize a profit. Further, if the holders of the warrants having an exercise
price of $0.001 per share were to exercise their warrants and were to sell their
shares for more than approximately $0.088 per share, then the value of these
securities will exceed the $1,550,000 amount that we would have paid to the
placement agent had we paid cash fees instead of issuing warrants. Assuming that
the warrant holders are able to sell the underlying shares for $0.34, the
closing price of our common stock on the date we issued the warrants, the
warrant holders will realize gross profits as follows:
NUMBER OF SHARES EXERCISE PRICE PROFIT PER SHARE TOTAL PROFIT
- ---------------- -------------- ---------------- ------------
17,541,563 $0.001 $0.339 $5,946,590
6,187,500 $0.08 $0.26 $1,608,750
17,150,000 $0.10 $0.24 $4,116,000
We agreed to register the common stock to be issued in the equity financing and
the common stock underlying the warrants issued to the placement agent for
resale to the public with the SEC. The registration statement of which this
prospectus is a part is that resale registration statement. The agreement
obligates us to issue additional shares ratably to the investors at the rate of
three percent of the number of shares issued in the equity financing per month,
subject to a limit of 12% of these shares if the SEC does not declare the
registration statement effective within 70 days after the filing of the resale
registration statement, which we filed on December 3, 2003.
21
In connection with the equity financing, we, Gibralt US, Inc. and those
investors who elected to become parties to a stockholders' agreement have agreed
to certain provisions regarding our board of directors. We used our best efforts
to cause the board of directors to be increased to nine directors within 12 days
after the completion the equity financing. The investors that hold a majority of
the shares issued in the equity financing that are subject to the stockholders'
agreement have the right to designate three persons for nomination to the board
of directors. As of the date of the registration statement of which this
prospectus is a part, the investors have not identified whom they will nominate
as new directors. We have also agreed to use our best efforts to cause the board
of directors to appoint one person that the investors designated for nomination
to the board as a member of any nominating, compensation or audit committee of
the board of directors.
We and Gibralt US have agreed with the investors to use our best efforts to
nominate for election to the board of directors at each annual meeting of
stockholders, three persons designated by the investors who hold a majority of
those of the shares of common stock issued in the equity financing that are
subject to the stockholders' agreement. Gibralt US also agreed to vote its
voting shares in favor of the election of these three designees during the first
three years after the completion of the equity financing. The stockholders'
agreement terminates when the investors who elected to be a party to this
agreement cease to beneficially own more than 50% of the shares of common stock
issued to them in the equity financing.
The terms of the equity financing also permit us to commence this offering for a
total of 29,711,749 shares to the holders of record of our common stock as of
August 29, 2003.
ANNUAL MEETING OF STOCKHOLDERS ON NOVEMBER 25, 2003
On November 25, 2003, we held our annual meeting of stockholders. In addition to
other matters, our stockholders approved the following:
- an amendment to our Certificate of Incorporation to increase the
number of authorized shares of common stock to 500,000,000;
- the issuance of up to 298,500,000 shares of common stock to
investors in the equity financing;
- the issuance of 30,138,792 shares of common stock in exchange for
preferred stock we issued to Gibralt US, Inc. and the other parties
that provided bridge financing to us in December 2002 and May 2003;
- an offering pursuant to which we will solicit from each holder of
record of common stock as of August 29, 2003 an offer to purchase,
at a price of $0.10 per share, that number of shares of common stock
that is equal to the number of shares held by the holder as of
August 29, 2003; and
- an amendment to the Certificate of Incorporation increasing the
maximum size of the board of directors to nine members.
ACQUISITION OF EXCLUSIVE EVLT(R) PATENT RIGHTS
On September 3, 2003, we acquired exclusive rights to US Patent No. 6,398,777
and related foreign patents and patent applications for endovenous laser
treatment of varicose veins. These patents relate to the technology underlying
our EVLT(R) procedure. This acquisition resulted from two transactions.
In the first transaction, we purchased the interest in the EVLT(R) patent owned
by one of its five named inventors, Dr. Robert J. Min. This transaction was
completed under a purchase agreement between us and Dr. Min entered into on July
23, 2003, after the satisfaction of the conditions precedent to the closing of
the purchase agreement. On September 3, 2003, we paid the purchase price of
$500,000 in cash and options to purchase 1,000,000 shares of our common stock in
exchange for Dr. Min's assignment to us of his interest in the EVLT(R) patent.
We have agreed to pay to Dr. Min variable payments based on our sales of EVLT(R)
products. Dr. Min had previously licensed the EVLT(R) patent to us and had
served as a consultant to Diomed. Dr. Min's consulting agreement with Diomed was
amended to reflect the changes in the relationship between him and Diomed as a
result of Diomed's acquisition of the EVLT(R) patent rights. Dr. Min will
continue to act as a consultant to Diomed under the revised consulting
agreement.
22
In the second transaction, we licensed, on an exclusive basis, the EVLT(R)
patent from Endolaser Associates, LLC, the assignee of interest in the EVLT(R)
patent from the other four named inventors. This transaction was completed under
a license agreement between us and Endolaser Associates entered into on July 11,
2003, after the satisfaction of the conditions precedent to the taking effect of
the license agreement. On September 3, 2003, we paid Endolaser Associates
$1,500,000 in cash in exchange for the exclusive license granted by Endolaser
Associates. We are to make additional payments totaling $2,500,000 in 10
quarterly installments of $250,000 each, commencing on the first day of the
first calendar quarter after we complete the equity financing. We have agreed
with Endolaser Associates that we will pay variable royalties based on our sales
of EVLT(R) products.
The proceeds from the sale of secured bridge notes in the equity financing on
September 3, 2003 served as the source of the funds used to pay the purchase
price to Dr. Min under the purchase agreement and the initial license payments
to Endolaser Associates under the license agreement. After we complete the
equity financing, we will pay future quarterly payments to Endolaser Associates
and future variable payments to Dr. Min and royalties to Endolaser Associates
from a combination of the funds provided by investors in the equity financing
and our operating revenue.
APPOINTMENT OF CHIEF FINANCIAL OFFICER
Effective September 1, 2003, we appointed David B. Swank as our Chief Financial
Officer. Mr. Swank has since March 2003 been one of our directors and Chairman
of the board's audit committee. Gary Brooks, previously a member of the audit
committee, became chairman of the audit committee when Mr. Swank was appointed
Chief Financial Officer and accordingly stepped down from the audit committee.
Mr. Swank earned a BS in business administration in the honors accounting
program at The Ohio State University and a MBA with a concentration on Finance
at the Southern Methodist University, and has over twenty years of financial
control, accounting and related business experience.
LITIGATION AGAINST VASCULAR SOLUTIONS, INC.
On December 12, 2003, we filed a lawsuit in the United States Federal District
Court for the District of Massachusetts seeking injunctive and other relief
against Vascular Solutions, Inc. and one of its executives. We allege, among
other things, that Vascular Solutions and the executive misappropriated our
trade secrets and then improperly used that information to develop and market
laser accessory products. We also seek to redress what we allege to be the
willful and deceptive manner in which Vascular Solutions has been marketing its
laser accessory products by, among other things:
- infringing our registered EVLT(R) mark;
- marketing Vascular Solutions' products in a way designed to confuse
consumers as to the source and origin of its products;
- making false and defamatory statements about us and our products;
- tortuously interfering with our existing and prospective customer
relationships; and
- tortuously interfering with agreements previously entered into by
the executive and us that prohibit the executive from disclosing our
confidential information to Vascular Solutions or any other third
party.
As of the date of the registration statement of which this prospectus is a part,
Vascular Solutions has not filed an answer to our complaint. Vascular Solutions
has generally denied our allegations.
LITIGATION AGAINST ANGIODYNAMICS, INC.
On January 6, 2004, we filed a lawsuit in the United States Federal District
Court for the District of Massachusetts against AngioDynamics, Inc., a
subsidiary of E-Z-EM, Inc., seeking injunctive relief and damages for
infringement of our US Patent Number 6,398,777 covering the endovascular laser
treatment of varicose veins which we use in our EVLT(R) product line, the
exclusive rights to which we acquired on September 3, 2003. As of the date of
the registration statement of which this prospectus is a part, AngioDynamics has
not filed an answer to our complaint. AngioDynamics has generally denied our
allegations.
23
CAPITALIZATION
The following table sets forth our capitalization as of September 30, 2003 on an
actual basis and on a pro forma basis to reflect the effects of the shares
issued in the final closing of the equity financing on November 25, 2003 and the
conversion in November 2003 of notes payable having a face value of $8,195,000.
The pro forma data excludes proceeds that we may receive from the sale of common
stock in this offering. You should read this table in conjunction with our
financial statements and the accompanying notes to our financial statements,
"Summary Financial Data" and "Management's Discussion and Analysis of Results of
Operations and Financial Condition" included elsewhere in this prospectus.
SEPTEMBER 30, 2003
--------------------
PRO FORMA
ACTUAL (1)
----------------------
(UNAUDITED)
(IN THOUSANDS)
Total long-term debt .............................. $1,292 $ 1,292
Stockholders' equity:
Common stock, $0.001 par value .............. 30 316
Preferred stock, $0.001 par value ........... 2,240 0
Additional paid-in capital .................. 40,859 75,786
Accumulated other comprehensive income ...... 263 263
Accumulated deficit ......................... (46,761) (57,369)
Total stockholders' equity (deficit)... (3,369) 18,996
Total Capitalization .................. (2,077) 20,288
(1) The pro forma amounts include an additional $2,513,000 in general interest
expense and an additional $8,095,000 in non-cash interest expense on notes, debt
financing costs and debt discounts attributable to the May 2003 and September
2003 notes that were converted into equity at the second closing of the equity
financing that will be recorded in the fourth quarter of 2003 to reflect the
completion of the equity financing.
DIVIDEND POLICY
It is our present policy not to pay cash dividends and to retain future earnings
to support our growth. We do not anticipate paying any cash dividends in the
foreseeable future.
BUSINESS
OVERVIEW OF OUR BUSINESS
We carry on our business primarily through our wholly-owned subsidiaries,
Diomed, Inc. and, to a lesser extent, Diomed, Ltd.
We specialize in developing and commercializing laser and related disposable
product technologies used in minimally and micro-invasive medical procedures.
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 or eliminated 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 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 and/or acquire.
To optimize our revenues, we focus on clinical procedures that require the
health care provider to own our equipment and to purchase our disposable
products, such as kits and optical fibers.
Our high power semiconductor diode lasers combine clinical efficacy, operational
efficiency and cost effectiveness in a versatile, compact, lightweight,
easy-to-use and easy-to-maintain system. Using our proprietary technology,
including our exclusive rights to U.S. Patent No. 6,398,777 and related foreign
patents for the endovenous laser treatment of varicose veins, we currently focus
on endovenous laser treatment (our EVLT(R) product line) for use in varicose
vein treatments, photodynamic therapy (our PDT product line) for use in cancer
treatments, and other clinical applications.
24
During 2002, we generated approximately 62% of our revenues from sales of laser
devices and systems and approximately 38% of our revenues from disposable items,
such as fibers, and other accessories and services. During the nine months ended
September 30, 2003, we generated approximately 63% of our revenues from sales of
laser devices and systems and 37% of our revenues from disposable items and
other accessories and services. Historically, the majority of our revenues were
generated from sales outside the United States (mostly in the United Kingdom and
elsewhere in Europe, as well as in the Asia-Pacific region). In 2001,
approximately 51% of our revenue was generated overseas, and in 2002,
approximately 45% of our revenue was generated overseas. For the nine months
ended September 30, 2003, approximately 40% of our revenue was generated
overseas. We expect this trend to continue. This shift occurred largely because
in January, 2002, we received clearance from the US Food and Drug Administration
for endovenous laser treatment using EVLT(R), and we began marketing our EVLT(R)
product line in the US at that time. The US represents the single largest market
for EVLT(R).
Diomed, Inc. was incorporated on December 24, 1997 in the State of Delaware. On
June 23, 1998, Diomed, Inc. succeeded to the business of Diomed, Ltd., a company
formed under the laws of the United Kingdom in 1991. It did so by offering to
issue shares of Diomed, Inc. on a one-to-one exchange basis to the holders of
the shares of Diomed, Ltd. As a result of the exchange, Diomed, Inc. became the
owner of 100% of the outstanding shares of Diomed, Ltd., and Diomed, Ltd. became
a wholly-owned subsidiary of Diomed, Inc. Diomed, Ltd. continues to operate in
the United Kingdom. Its chief activities are product development, manufacturing
and international sales and marketing. Also, on June 23, 1998, we acquired the
business of Laserlite LLC, a US-based distributor of aesthetic laser systems, by
issuing Diomed, Inc. shares in exchange for the outstanding membership interests
of Laserlite. We withdrew from the aesthetic laser market in 2001, when we
abandoned our Laserlite business because this business did not prove to be
successful, and we subsequently migrated to our current laser platform.
Since our inception in 1991 in Cambridge, England, we have focused on the
development of medical diode lasers. Our patented technology is capable of
bending light from many diodes simultaneously and concentrating them into a very
small opening, such as a small optic fiber. Our proprietary diode laser
technology has made it possible to simplify and minimize certain medical
procedures. Utilizing our core competency in diode light sources and optical
fibers, we pioneered the development of diode lasers for medical applications,
first with photodynamic therapy and later with EVLT(R).
Our management team focuses on developing and marketing solutions that address
serious medical problems that have significant markets. This determination is
based upon the number of procedures that may be conducted in a market during a
three-to-five year time period and the revenue we project we may receive for
this type of procedure. Currently, EVLT(R) applications fall within this
guideline, and we believe that photodynamic therapy may have the potential to do
so as well at some time in the future.
In November 2000, to enter the disposable market segment of our laser business,
we acquired the medical fiber business of QLT, Inc., a company based in
Vancouver, British Columbia. We acquired QLT's rights to manufacture and market
OPTIGUIDE(R) fibers that were developed for use in photodynamic therapy cancer
treatments and the distribution rights to customers of Laserscope and Coherent,
Inc., two manufacturers of medical laser devices. In the fourth quarter of 2000,
we also created FibersDirect.com. FibersDirect.com is a US business unit that
acts as a direct marketing conduit by providing on-line information for certain
available products and an e-mail link to our sales staff. FibersDirect.com
enables distribution of fibers directly from the manufacturer to the end-user.
Our OPTIGUIDE(R) fibers used in photodynamic therapy cancer treatments are
promoted via FibersDirect.com.
OVERVIEW OF DIOMED HOLDINGS, INC.'S HISTORICAL BUSINESS
Diomed, Inc. is now a subsidiary of Diomed Holdings, Inc., a corporation
originally formed under the laws of the State of Nevada on March 3, 1998 under
the name Natexco Corporation. On February 11, 2002, we changed our name from
Natexco Corporation to Diomed Holdings, Inc. On February 14, 2002, Diomed
Holdings, Inc. acquired Diomed, Inc. pursuant to the terms of an Agreement and
Plan of Merger, which we refer to as the "Merger Agreement." We refer to the
merger that occurred on February 14, 2002 under the Merger Agreement as the
"Merger." As a result of the Merger, Diomed, Inc. became a wholly-owned
subsidiary of Diomed Holdings, Inc., and the business of Diomed Holdings, Inc.
now is principally the business of Diomed, Inc. Accordingly, except for this
section or as otherwise indicated, the discussion of our business relates to
Diomed, Inc.'s business. For details, see "Diomed Merger and Private Placement
of common stock - February 14, 2002" and "Description of Securities - Recent
Sales of Unregistered Securities."
25
MIGRATORY MERGER
In April 2002, our board of directors determined that it was in our best
interests and the best interests of the stockholders to change our state of
incorporation from Nevada to Delaware. On May 13, 2002, after obtaining
stockholder approval, the reincorporation was effected by a merger transaction
(which we refer to as the "migratory merger"). As a result of the migratory
merger, each share of common stock of Diomed Holdings, Inc. (Nevada) outstanding
as of the date of the consummation of the migratory merger was converted into
one share of common stock of Diomed Holdings, Inc. (Delaware) and each share of
Class A Stock of Diomed Holdings, Inc. (Nevada) was converted into four shares
of Class A Stock of Diomed Holdings, Inc. (Delaware). The rights and privileges
of the common stock and the Class A Stock of Diomed Holdings, Inc., Inc.
(Delaware) are virtually identical to those of the common stock and Class A
Stock of Diomed Holdings, Inc. (Nevada), other than a one for four exchange of
shares of Class A Stock of Diomed Holdings, Inc. (Nevada) for shares of Class A
Stock of Diomed Holdings, Inc. (Delaware), and a reduction in the number of
votes from four votes per share for Class A Stock of Diomed Holdings, Inc.
(Nevada) to one vote per share for Class A Stock of Diomed Holdings, Inc.
(Delaware). For details, see "Migratory Merger - May 13, 2002" and "Description
of Securities - Recent Sales of Unregistered Securities."
BUSINESS STRATEGY
We offer an integrated clinical solution with two key components: a laser and a
disposable procedure kit. In addition, we sell lasers and optical fiber for a
variety of medical applications directly to physicians, distributors and on an
original equipment manufacturing basis. This strategy involves the following
major components:
FULL SERVICE DIFFERENTIATION TO MAXIMIZE REVENUE AND MARKET SHARE
Our revenues are generated from the sale of products and services. In 2002, in
the US, we launched our EVLT(R) product line, after receiving FDA clearance in
January 2002. In mid 2002, we established a direct sales force to focus on
EVLT(R) sales. In the US, our sales force concentrates on selling our EVLT(R)
products and also our photodynamic therapy product line. We also selectively use
a network of independent sales representatives to supplement our direct sales
force. Our direct sales force is well trained and versed in selling EVLT(R) as a
complete clinical solution for the treatment of varicose veins. Our clinical
solution includes not only the laser and disposable procedure kits or single
fiber used by physicians in patient EVLT(R) treatments, but also includes
physician training and practice management tools which we provide to help
physicians develop and manage the business of promoting EVLT(R) as a minimally
invasive treatment option for patients suffering from varicose veins. In
addition, we have developed a website, www.evlt.com, to provide patients and
physicians with information about treatment options and benefits of EVLT(R) and
a physician locator function. International sales are managed through a global
network of third party sales agents and distributors. We also take advantage of
existing professional relationships and new opportunities to sell photodynamic
therapy lasers and disposable fiber for photodynamic therapy and to manufacture
laser and disposable items for third parties for other clinical uses.
STRATEGIC PARTNERSHIPS TO ENHANCE CUSTOMER REACH
We have established strategic partnerships with some of the notable photodynamic
therapy drug companies, including Axcan Pharma, Inc., to bring new treatments to
market. We also have ongoing relationships with other photodynamic therapy
companies. However, the underlying products being developed by these companies
which are used in conjunction with our products, have gained only limited
regulatory approval required for commercialization, and expanded regulatory
approval is not assured. Accordingly, we have focused our near-term investment
in the commercialization of EVLT(R) . In addition, we maintain original
equipment manufacture, or original equipment manufacturing, relationships with
Olympus and others. Our strategy is to create long-term and exclusive working
relationships that increase laser applications and revenue potential through the
sale of our lasers and disposables whenever possible.
RESEARCH AND DEVELOPMENT TO ENHANCE EFFICIENCIES AND PRODUCT EFFECTIVENESS
We have an internal research and development staff and from time to time have
used outside experts to assist us in our development program. Historically, our
research and development efforts concentrated on the development of clinical
applications and solutions for our lasers and related delivery systems. Through
our past efforts, we have created our EVLT(R) and photodynamic therapy product
lines. Although current research and development activities are directed at
enhancing laser and fiber manufacturing efficiency and functional effectiveness
of our EVLT(R) product line, we are continuously evaluating new clinical
applications and solutions for our lasers and delivery systems.
26
Our research and development expenditures were approximately $1,200,000, or, 16%
of sales, for the year ended December 31, 2001, approximately $900,000, or, 17%
of sales, for the year ended December 31, 2002 and approximately $635,000, or
10%, for the nine months ended September 30, 2003.
KEY ACQUISITIONS TO ENHANCE PROFITABILITY
On September 3, 2003, we acquired exclusive rights to US Patent No. 6,398,777
and foreign counterparts regarding the endovenous laser treatment of varicose
veins from the five inventors of this procedure. With this new proprietary
position, we believe we have positioned ourselves to be the leader in minimally
invasive varicose vein treatment. Previously, we acquired the rights to
manufacture OPTIGUIDE(R) fiber from QLT, Inc. in November 2000. We continue to
be interested in entertaining attractive opportunities in related fields, and we
expect to expand our efforts to identify and pursue these opportunities,
beginning in 2004.
Semiconductor laser diodes are used in optical disc drives, optical fiber
telecommunications, printers and bar code scanners. No larger than a grain of
salt, the diode chip converts electricity into laser light with such efficiency
that power consumption and heat generation are reduced. They are related to the
LEDs that are used as indicator lights in most electrical devices. While LEDs
produce light measured in milliwatts, high power laser diodes each produce
several watts of laser light. Because they are semiconductor components, the
products they support have no moving parts, are highly reliable and can be run
from a wall socket power supply with only limited requirements to cool the
components. The outcome of this miniaturization of laser technology is a
portable, lightweight, highly reliable and easy to use laser. Like electronic
semiconductors, management believes that semiconductor lasers will increasingly
replace most other laser technologies.
To achieve power levels beyond that of a single laser diode, light may be
coupled from multiple diodes. This may be achieved by attaching an optical fiber
to the end of each diode and "bundle" the fibers together. This entails a number
of optical fiber joints inside the laser system to guide and couple the light.
Each optical joint reduces the amount of light that passes through the system
and each joint also has a finite lifetime that is usually less than the life of
the diode. As one optical joint fails so the others come under greater stress
and an increased likelihood of cascade failure. The result is an inefficient
optical transfer where the power delivered to the working end of the fiber is a
small percentage of the power put out by the diode and a system of optical
joints with an excessive failure rate.
Our core technology uses an optical arrangement to manipulate and combine the
laser light in "free space," focusing the beams from multiple laser diodes into
the final optical fiber. The ability to combine the power from a large number of
laser diodes results in a much higher efficiency of power delivered to the
working site and in higher reliability than non-combined diodes because there
are no optical joints to burn out. The focusing ability of this system also
enables a more concentrated delivery of power as the light is focused to a
smaller spot size. This increased power density enables a wider variety of
medical, and other applications.
The most widely used medical diode laser emits laser energy at 810nm, producing
light in the near infra-red portion of the spectrum. At powers of up to 60W and
used in conjunction with a flexible optical delivery fiber, this wavelength can
be used in various surgical applications to cut, close or vaporise soft tissue.
Semiconductor diode chips, including wavelengths of 630nm, 635nm, 652nm, 690nm
and 730nm, are available, thereby permitting the development of practical,
portable laser systems for photodynamic therapy in the treatment of certain
types of cancer.
Practical and versatile, the diode laser can be used in the operating theatre,
outpatient clinic and the doctor's office as well as permitting shared use
between hospital departments. With healthcare providers under increasing
pressure to cut costs while maintaining a high standard of treatment, diode
laser technology can assist in achieving these targets.
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PRODUCTS, COMPETENCIES AND MARKET OPPORTUNITIES
Our focus on the development and commercialization of minimally and
micro-invasive medical procedures employing our laser technology and disposable
products has led to an array of applications, which are described below.
Minimally and micro-invasive medical procedures in general are a growing market,
as they reduce the need for general anesthesia, expensive hospital stays, and
long and painful recovery periods. The medical procedures that we address with
our products are those which we believe are capable of producing a recurring
revenue stream through the sale of a disposable, such as a procedure kit or
individual fiber, in addition to one-time revenue from the sale of the laser
itself. In 2002, approximately $3,400,000, or, 62%, of our total revenues were
derived from laser sales and approximately $2,100,000, or, 38%, of our total
revenues were derived from sales of disposable fibers and kits, accessories and
services. During the nine months ended September 30, 2003, approximately
$4,206,000, or 63%, of our total revenues were derived from laser sales and
approximately $2,438,000, or 37%, of our total revenues were derived from sales
of disposable fibers and kits, accessories and services. With the procedures
described below, we have demonstrated our skill and ability to be first to
market in the US with innovative treatment options, thereby providing meaningful
new treatments and the foundation for what we believe will be a profitable
growing business.
1. ENDOVENOUS LASER TREATMENT.
In September 2001, we were 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. In January 2002, we became the first
company to receive FDA clearance for endovenous laser treatment, with respect to
marketing EVLT(R) in the US, for the closure of the greater saphenous vein with
superficial reflux. In December 2002, we received FDA clearance for expanded
indications for use of EVLT(R) , including our D15plus and D30plus diode lasers
and disposable kits for the treatment of varicose veins and varicosities
associated with the superficial vein reflux of the greater saphenous vein. On
September 3, 2003, we acquired exclusive rights to the patent for endovenous
laser treatment of varicose veins from the five inventors of this procedure (see
"Recent Developments -- Acquisition of Exclusive EVLT(R) Patent Rights" for
further details).
We commercialized EVLT(R) as an innovative minimally invasive laser procedure
for the treatment of varicose veins resulting from reflux of the greater
saphenous vein. The causes of varicose veins are commonly genetic. People with
past vein diseases, new mothers, overweight individuals, and people with jobs or
hobbies that require extended standing also are at risk. According to a 1973
report by the University of Michigan under a comprehensive study of the health
characteristics of the community of Tecumseh, Michigan, approximately 25% of
women in the US have varicose veins. In addition, varicose veins are more
prevalent in older people. The Tecumseh study was a comprehensive longitudinal
research study that tracked the health of a sample population of 7,000 to nearly
9,000 people at three intervals over the course of a decade, from the late 1950s
to the late 1960s. According to the Tecumseh study, at least 42% of Americans
over age 60 have varicose veins and this number is increasing as the population
continues to age. The Tecumseh study also indicates that at least 72% of women
over age 60 in the US have varicose veins. According to the American Association
of Retired Persons, approximately 76,000,000 people in the US are 50 or older,
and approximately an additional 4,000,000 people turn 50 each year. Based on
this data, we estimate that between 25,000,000 and 40,000,000 Americans suffer
from venous insufficiency.
We believe that as many as 1,000,000 people worldwide undergo vein-stripping
operations each year, but there are many more who suffer the pain, discomfort
and unattractive appearance of their legs in order to avoid having surgery to
treat their condition. We believe that most patients who undergo vein-stripping
procedures are candidates for endovenous laser treatment. Endovenous laser
treatment has several competitive advantages over the current vein-stripping
treatment. Endovenous laser treatment is a 45 minute procedure per leg that can
be performed in a physician's office, usually under local anesthesia and with
the procedure guided by ultrasound technology. Endovenous laser treatment also
has a quick recovery period, reduced or minimal pain and no appreciable
scarring. In an endovenous laser treatment, the area of the leg affected is
anesthetized locally and a thin laser fiber is inserted into the effected vein
to deliver the laser energy in short pulses or as a continuous application. At
the end of the procedure, after the fiber is withdrawn, a compression bandage is
applied and worn up to three days. In addition, a compression stocking is worn
for seven days. Patients can resume their normal routine, barring vigorous
physical activities, directly after receiving the laser treatment. Vein
stripping is a surgical procedure that requires an overnight hospital stay, a
painful recovery period of several weeks, and possibly post-op scarring from
incisions and post-op infections. During clinical studies, 98% of first-time
endovenous laser treatment treatments in clinical trials have been successful. A
second endovenous laser treatment has successfully resolved the remaining cases.
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We developed our EVLT(R) product line as a complete clinical solution and
marketing model, including a laser, disposable kit and a training and marketing
plan, to assist physicians, clinics and hospitals in responding to the demand
for treatment of varicose veins in a minimally invasive manner. EVLT(R) is
attractive to physicians because it is a rapid treatment for patients, reduces
costs, is an efficient use of resources, reduces the rate of complications and
we believe that patients will request this treatment. Also, EVLT(R) for
treatment of greater saphenous vein reflex is considered a non-cosmetic
procedure that may be reimbursable by health insurance providers if the treating
physician is knowledgeable about the reimbursement system and obtains
preapproval.
Due to the relative newness of the EVLT(R) procedure, currently available long
term clinical data demonstrating the effectiveness of the EVLT(R) procedure in
maintaining closure of the greater saphenous vein is limited to three years. The
lack of longer term clinical data may affect the ability of patients undergoing
this procedure to obtain reimbursement from their health insurance carriers.
Recently, a new study, co-authored by Dr. Robert Min, our paid consultant,
entitled "Endovenous Laser Treatment of Saphenous Vein Reflux: Long-Term
Results," was published in the August 2003 issue of the Journal of Vascular and
Interventional Radiology.
This study shows what we believe to be excellent long-term results for the
successful occlusion of varicose veins caused by reflux of the greater saphenous
vein. The data presented in the study shows that minimally invasive laser
treatment of varicose veins has a high long-term success rate, low complication
rate and rapid recovery. The Cornell study included 499 limbs with varicose
veins treated by EVLT(R) over a three-year period. Patients were evaluated
clinically and with duplex ultrasound scans at 1 week, 1 month, 6 months, 12
months, 24 months, and 36 months to assess efficacy and adverse reactions.
Successful occlusion of the greater saphenous vein after initial treatment was
98.2% and at 2 year follow-up 93.4% remain closed (113 of 121 limbs followed for
2 years). Importantly, all recurrences occurred prior to 9 months with the
majority noted less than 3 months following endovenous laser treatment. In this
study, there were no reports of skin burns, no abnormal nerve sensation and no
deep vein clots. In comparison, traditional surgery (ligation and stripping)
often requires general or spinal anesthesia and can take up to 4 weeks for full
recovery. Pain, bruising and scarring are also common. The results in this study
also show EVLT(R) to be comparable or superior to those reported for other
options available for treating greater saphenous vein reflux, including
ultrasound guided sclerotherapy, and radiofrequency ablation.
This study was co-authored by Dr. Robert Min, Director of Cornell Vascular in
New York and Vice-Chairman of Radiology at Weill Medical College of Cornell
University. Dr. Min is a paid consultant to Diomed, and is an inventor of the
EVLT(R) , who sold his rights to this patent to Diomed on September 3, 2003. Dr.
Min assists Diomed in physician training and in the development of medical
treatments using EVLT(R) . He has been a paid consultant to us since August
2001. As of September 30, 2003, Dr. Min owned options to purchase 1,034,575
shares of common stock. See "Recent Developments - Acquisition of Exclusive
EVLT(R) Patent Rights" for further details.
EVLT(R) represented a significant percentage of our total revenue in 2002, and
EVLT(R) will be our primary source of revenue in 2003. We also developed our
EVLT(R) product line as a complete clinical solution and marketing model,
including a laser, disposable kit, clinical training and a marketing plan, to
assist physicians, clinics and hospitals in responding to the demand for
treatment of varicose veins in a minimally invasive manner. In addition, we have
developed a website--www.evlt.com--to provide patients with education about
treatment options and benefits of EVLT(R) . We expect that as the volume of
EVLT(R) procedures performed increases so may our disposable sales. We believe
that the US represents the single largest market for EVLT(R) .
2. CANCER TREATMENTS UTILIZING PHOTODYNAMIC THERAPY.
We were the first diode laser manufacturer to receive FDA clearance for use of
our lasers and optical fibers in photodynamic therapy cancer treatments.
Photodynamic therapy is an effective palliative treatment for late-stage lung
and esophageal cancers and is under study for treatment of various other cancers
throughout the body. Photodynamic therapy is based on the discovery that certain
chemicals can kill one-celled organisms in the presence of light. Recent
interest in photosensitizing agents stems from research showing that some of
these substances have a tendency to collect in cancer cells. The
photosensitizing agent injected into the body is absorbed by all cells. The
agent remains in or around tumor cells for a longer time than it does in normal
tissue. When treated cancer cells are exposed to red light from a laser, the
light is absorbed by the photosensitizing agent. This light absorption causes a
chemical reaction that destroys the tumor cells. Light exposure is carefully
timed to coincide with the period when most of the agent has left healthy cells
but still remains in cancer cells. There are several promising features of
photodynamic therapy in treating cancer: (1) cancer cells can be selectively
destroyed while most normal cells are spared, (2) the damaging effect of the
photosensitizing agent occurs only when the substance is exposed to light, and
(3) the side effects are relatively mild. The laser light used in photodynamic
therapy is directed through an optical fiber (a very thin glass strand). The
optical fiber is placed close to the cancer to deliver the proper amount of
light. For example, the fiberoptic can be directed through a bronchoscope into
the lungs for the treatment of lung cancer or through an endoscope into the
esophagus for the treatment of esophageal cancer.
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Our photodynamic therapy product line of photodynamic therapy solutions uses our
own proprietary technology. When used in combination with a photosensitizing
drug, photodynamic therapy provides the cancer therapy. As indicated,
photodynamic therapy requires three-interacting elements: (1) a photosensitive
drug that is absorbed by cancerous and abnormal cells, (2) a light source
(laser) of a specific wavelength that activates the drug, and (3) a delivery
system, including a thin optical-fiber to guide the light source to the target
area. Our photodynamic therapy line is a delivery system of laser technology,
support services and fiber disposables to the global photodynamic therapy
industry.
Photodynamic therapy technology is only effective when these three components
are working in concert. We work jointly and early in the clinical development
process with photodynamic therapy drug companies to design a laser that
optimizes the most effective wavelength in combination with their photodynamic
therapy drugs. We have long-term relationships with some photodynamic therapy
drug companies, and have sold lasers to be used in clinical trials for
photodynamic therapy applications. Currently, our relationship with Axcan Pharma
is the most active, as other collaborative partners are at earlier stages of
development with respect to their photodynamic therapy drugs using our products.
In the US, regulatory approval by the FDA is given for each specific treatment
in response to a specific pre-market approval application. Each premarket
approval application is generally addressed to a use for the device that the
pre-market approval application specifies. The FDA considers photodynamic
therapy a modality that requires a combination pre-market approval application,
where the photodynamic therapy drug company, laser manufacturer and fiber
manufacturer work together to obtain regulatory approval for the complete
medical procedure. The lengthy regulatory approval process and FDA modality
factor create significant obstacles to potential competition. In addition, we
have forged collaborative relationships with significant players in photodynamic
therapy drug development, thus limiting our risk should one of the photodynamic
therapy companies fail to receive regulatory approval or perform poorly in the
marketplace.
In August 2000, we and Axcan Pharma together received regulatory approval for
our 630nm laser and OPTIGUIDE(R) fiber, and Axcan Pharma's Photofrin(R) drug
used in the palliative treatment for late stage lung and esophageal cancers. In
November 2000, we entered into a 5-year exclusive supply contract with Axcan
Pharma for lasers. Axcan Pharma is developing other clinical applications using
Photofrin(R) , including treatment for Barrett's Esophagus, a pre-cursor to
cancer of the esophagus. Axcan Pharma has pursued an application for FDA
clearance for Photofrin(R) and our lasers and fibers for use in the treatment of
Barrett's Esophagus. In December 2002, the FDA issued an approvable letter in
connection with Axcan Pharma's application. Axcan Pharma announced that it
received FDA clearance for the photodynamic therapy for Barrett's Esophagus in
August 2003.
Our understandings regarding the market for photodynamic therapy are derived
from a variety of sources, and represents our best estimate of the overall
market sizes presented in certain disease areas. The actual market size and our
market share, depend upon a number of factors, including:
- competitive treatments, either existing or those that may arise in
the future;
- our products' performance and subsequent labeling claims; and
- actual patient population at and beyond product launch.
Our sales of our photodynamic therapy product line are dependent upon the
clinical development process and the commercialization of photodynamic therapy
drugs by photodynamic therapy drug companies. As a result, our sales may
fluctuate in relation to the timing of photodynamic therapy drug companies
achieving their strategic initiatives. Certain additional factors may slow the
growth of a market for photodynamic therapy procedures. Like any new clinical
solution, photodynamic therapy has to show long term results in order to gain
acceptance. The cancers that photodynamic therapy is being developed to treat
are slow to develop and acceptance of the procedure requires long term follow
up. As a result, there is currently a lack of long term clinical data for
photodynamic therapy. Furthermore, the diversity of different cancers requires
us to obtain data based on each type of cancer studied. Also, photodynamic
therapy may cause a photosensitivity side effect in certain patients such that
they are highly sensitive to sunlight for several days. In some patients this
side effect may cause skin burns if the patient is exposed to sunlight.
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We currently believe that the potential market for our EVLT(R) product line is
larger than the potential market for our photodynamic therapy product line. We
also expect sales of EVLT(R) products and services to account for an
increasingly higher proportion of our total sales revenue as compared to
photodynamic therapy products. Therefore, while we continue to pursue sales of
our photodynamic therapy product line and to pursue development of new
photodynamic therapy applications through the efforts of our collaborative
partners, our present emphasis is on our EVLT(R) product line and we are
concentrating our marketing and sales efforts towards the EVLT(R) product line.
3. FIBERS AND DISPOSABLE ITEMS.
To address medical conditions with minimally invasive techniques, we offer
physicians an integrated clinical solution, including a laser and disposable
procedure kits or individual fibers. Optical fiber is the necessary system that
delivers the laserlight during surgical, endovenous laser treatment and
photodynamic therapy procedures. These sterile fibers, typically used only once,
can generate a steady stream of revenue. We sell self-contained EVLT(R) kits of
disposable items, which include an optical fiber, a sheath that acts as an
introduction for the fiber, a needle, a tray cloth and protective packaging. In
some cases, we sell only the fiber.
The potential market for kits, fibers and other disposable items is driven by
the adoption rate of the specific clinical procedure. We have and will continue
to generate a disposable market by developing and promoting specific procedures,
such as endovenous laser treatments. As EVLT(R) gains market share in comparison
to vein-stripping and other varicose vein procedures, so will the volume of kits
and fibers used in these treatments, and similarly, as the number of
photodynamic therapy procedures using our products increases, the volume of
fibers we sell for use in these procedures will increase. As a result, we
believe that our revenue stream is likely to increase if we are able to incent
physicians to purchase the fiber and disposable procedure kits that we sell.
4. OTHER CLINICAL APPLICATIONS.
Our technologies are also used in general surgical applications as well as in
dental applications. While our focus is on the development of specific clinical
applications, such as varicose vein treatment with EVLT(R) and cancer treatment
with photodynamic therapy, other medical applications can be, and are being,
performed with our lasers. Through September 30, 2003, for instance, the FDA had
also cleared our diode laser technology for open and endoscopic surgical
procedures, which are used to treat vascular and pigmented lesions. Potential
clinical applications that we may address include:
Nasal Polypectomy: Nasal polyps are usually benign growths in the nose, which
are removed with the laser with minimal bleeding and quick recovery period.
Turbinate Reduction: The turbinates are structures in the nose which can become
enlarged due to conditions such as allergies and obstruct the airways. The laser
can be used to reduce their size and clear the blockage. Other nasal procedures
include: ethmoidectomy, meatal antrostomy, maxillary endo-sinus surgery. These
various procedures involve the removal of blockages, opening up of the various
airways and gaining access to various structures within the nose.
Dacryocystorhinostomy (DCR): Tear ducts take tears from the corner of the eye
down into the nose. Blockage of the tear ducts results in watery eyes. The laser
fiber can be used to reopen the channel from the tear duct into the nose and
resolve the problem. This simple procedure can be performed under local
anesthetic, is less traumatic than conventional surgery and leaves no surgical
scarring.
Ontological Surgery: By carbonizing the end of the fiber, the trapped laser
energy heats up the tip producing in effect a tiny "hot knife", which can be
used, for cutting away tissue in a variety of conditions in the ear. The fine
tip size makes it an exceptionally controllable tool. Applications include
Stapedotomy and Stapedectomy (treatments involving the auditory bones in the ear
to correct hearing problems), Myringotomy (incision in eardrum to relieve
pressure from infection), Cholesteatoma and Acoustic neuron (benign growths in
the ear which are removed).
Uvulopalatoplasty (LAUP): Reshaping of the soft palate and uvula at the back of
the mouth is done in severe cases to reduce snoring and can be performed in one
session using a fine sculpted tip fiber. The coagulated area surrounding the
incision ensures virtually no blood loss, faster patient recovery and minimal
post-operative nursing requirements.
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Vaporization of Tumors: Areas of abnormal tissue due to inflammation or
infection can be destroyed or reduced in size with heat energy. The laser
delivers this in a very controllable way with a known depth of effect, which
avoids damage to surrounding structures.
Gastro-Intestinal Cancer: Cancer in the gullet will grow and block the tube
stopping the patient from swallowing. The cancer can be reduced in size and the
tube reopened using the laser. This relieves the symptoms allowing the patient
to eat fairly normally, often returning home. It does not cure the cancer but
produces a temporary improvement in quality of life.
Lung Tumors: Cancers in the lung will grow and obstruct the airways causing
breathing problems for the patient. The cancer can be reduced in size and the
airway reopened using the laser. This relieves the symptoms allowing the patient
to breathe more normally. Again, it does not cure the cancer but produces a
temporary improvement in quality of life.
Vascular Lesions: Although seen as primarily a cosmetic problem, vascular and
pigmented lesions can have a profound effect on lifestyle especially when they
occur in young people. For many years lasers have been used to deal with such
lesions with a high degree of success. Such treatments are simple to perform and
the nature of the laser light allows for a high degree of precision while side
effects are kept to a minimum. The laser can be used by shining it through the
skin (transdermally) to reduce the lesions' appearance. Delivery of the laser
energy is simplified by a range of specially designed hand pieces.
Neurosurgery: There are a variety of intercranial tumors which can be treated
with the laser. Those most suitable for laser assisted ablation are the benign
forms especially the various meningiomas. The laser can also be useful in
gaining access to lesions involving the brain stem and for removing acoustic
neuromas. The hemostatic properties of the laser, its controllability and the
limited collateral effects make the laser highly suitable for neurosurgical
applications.
Urology: The laser can be used in the treatment of Benign Prostate Hypertrophy
(BPH) in three different ways. It can be used transurethrally to debulk the
prostate by contact tissue removal or by non-contact tissue coagulation. It can
also be used to shrink the prostate by interstitial therapy. In addition, the
laser can be used to destroy bladder tumors and for a variety of open surgical
techniques where its ability to cut and coagulate simultaneously are utilized.
Interstitial Therapy: The laser can be used to treat tumors within normal tissue
by thermally destroying them in situ. This technique is applicable to liver
metastases, osteoid osteomas and breast tumors. In addition, the laser can be
used in a similar way on the nucleus pulposus to cause shrinkage and reduce
pressure within the discs of the lower back. This latter technique is called
Percutaneous Laser Disc Decompression (PLDD).
There may be one or more common pathways for the development of products for
these potential clinical applications. In general, however, each of them will
require extensive preclinical studies, successful clinical trials and cleared
pre-market approval applications or 510(k)s before we can generate significant
revenues from them. We have no pending regulatory applications or clinical
studies. We may rely on third parties, including our collaborative partners, to
design and conduct any required clinical trials. If, we are not able to find
appropriate third parties to design and conduct clinical trials, and if we do
not have the resources to administer clinical trials in-house, this process may
become even more lengthy and expensive. Since we collaborate with third parties,
those parties generally maintain certain rights to control aspects of the
application development and clinical programs. Our business depends in part on
our ability to obtain regulatory approval for expanding applications and uses of
our products. Therefore, delays or other related problems may adversely affect
our ability to generate future revenues.
We may rely on third parties, including our collaborative partners, to design
and conduct any required clinical trials. In the future, we may not be able to
find appropriate third parties to design and conduct clinical trials or we may
not have the resources to administer clinical trials in-house. Therefore, this
process may become even more lengthy and expensive. Moreover, our collaborative
partners have certain rights to control aspects of the application development
and clinical programs. As a result, these programs might not be conducted in the
manner we currently contemplate. Since our business' success is heavily
dependent upon our ability to achieve regulatory approval for the applications
and uses of our products, our revenues may be adversely affected by delays or
other related problems.
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Data already obtained from preclinical studies and clinical trials of our
products under development does not necessarily demonstrate that favorable
results will be obtained from future preclinical studies and clinical trials. A
number of companies in the medical devices industry, as in the pharmaceutical
industry, have suffered setbacks in advanced clinical trials, even after
promising results in earlier trials.
5. ORIGINAL EQUIPMENT MANUFACTURING.
Our technology and manufacturing capability has attracted original equipment
manufacturing partners. In the typical original equipment manufacturing
relationship, we produce the laser and other products to the original equipment
manufacturing customer's specifications, which will then be marketed under the
original equipment manufacturing's label. Our most significant original
equipment manufacturing relationship is with Olympus in Japan, which is using
our technology for surgical and dental applications.
MANUFACTURING
We manufacture our products with components and subassemblies that our
subcontractors supply. We assemble and test each of our products at our
Cambridge, England facility. Ensuring adequate inventory, continuous cost
reduction and superior product quality are top priorities of our manufacturing
operations. To achieve our goals, we work closely with our research and
development, sales and marketing teams, and effectively manage a limited number
of what we believe to be the most qualified suppliers.
We use a variety of materials, including mechanical, electronic, optical
components and subassemblies for the lasers, plus other materials that our
customers purchase for direct consumption, such as disposable items sold in kit
form and fibers. With the lasers constructed in the UK, local high-quality
sources of supply are utilized for metalwork components and subassemblies. We
procure standard off-the-shelf-electronic components from various UK suppliers.
Because of their complexity, high quality requirements and relatively low
volumes we choose to procure our optical components from a single source. We
also use a number of different laser diodes for our various products. The diodes
are also currently single-sourced, although we are currently exploring available
opportunities for dual sourcing. Currently, the majority of these suppliers are
located in the U.S., Japan and Europe. In addition, we purchase the fibers
contained in our clinical solution kits, and those fibers required to support
our FibersDirect.com business, from suppliers in the US. During 2001, our
principal supplier of diodes which we used to manufacture lasers was HPD, and
our principal suppliers of materials which we used to manufacture fibers were
Pioneer, Inc. and Laser Peripherals, and Pioneer has been our main supplier of
fiber in 2003. In 2002, we changed our principal supplier of diodes to Laser
Diode, Inc., although HPD remains an available alternative supplier of diodes.
Pioneer and Laser Peripherals continued to be our main suppliers of fiber in
2002. Because most of our raw materials and components are available from
various sources, we are currently developing qualified backup suppliers for each
of these resources.
We currently outsource most of our manufacturing of disposable fibers used in
EVLT(R) , photodynamic therapy and other surgical procedures. In 2002,
disposable fibers represented approximately 28% of our total sales, whereas in
2001, disposable fibers represented approximately 17% of our total sales. For
the nine months ended September 30, 2003, disposable fibers represented
approximately 30% of our total sales. We license the right to manufacture the
OPTIGUIDE(R) fibers used in photodynamic therapy procedures and subcontract the
manufacturing to a third party. We own the patent applications for EVLT(R)
disposable fiber technology and subcontract the manufacturing to a third party.
We subcontract the production of EVLT(R) kits of disposable items, consisting
principally of a fiber, a sheath used to introduce the fiber into a vein and a
needle used to insert the sheath. Each of these EVLT(R) components is currently
purchased from third parties. We purchase disposable fibers used in other
surgical procedures directly from third parties.
Lead times for components and materials may vary significantly depending on the
size of the order, specific supplier requirements and current market demand for
the components. Inability of our suppliers to meet our requirements on a timely
basis could interrupt our production until we obtain an alternative source of
supply. To date, we have not experienced significant delays in obtaining any of
our products.
We are required to manufacture our products to comply with the international
standard ISO 13485:2001 and the FDA's Quality System Regulations, or "QSR." The
ISO 13485 and QSR cover the methods and documentation of the design, testing,
control, labeling, packaging, storage and shipping of our products. Our
manufacturing facility is subject to periodic audits by regulators who conduct
inspections which must be satisfactory for us to maintain ISO approval, and it
is also auditable by the FDA. Our failure to maintain compliance with the ISO
13485 and QSR requirements could result in the shut down of our manufacturing
operations and the recall of our products. If one of our suppliers were not to
maintain compliance with our quality requirements, we might have to qualify a
new supplier and could experience manufacturing delays as a result. In November
1999, we became certified to manufacture in the United Kingdom and upgraded to
ISO 13485 in 2001. In 2002, we underwent an FDA Quality Systems Regulation
Inspection and received a satisfactory letter in from the FDA as a result of
this inspection.
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SALES AND MARKETING
In the US, we sell, market and distribute our products and services directly
through direct sales representatives and through "independent sales
representatives." Independent sales representatives are independent contractors
and not employees. Our independent sales representatives commit to achieving
certain minimum sales targets, and we compensate them on a commission only
basis. If an independent sales representative fails to meet its minimum sales
targets, then we have the right to terminate our relationship. Internationally,
we sell our products primarily through distributors.
Our primary sales focus in the US has been the commercialization of EVLT(R) . We
began to use independent sales representatives in the later half of 2001, before
the FDA approved our EVLT(R) product line in January 2002. Subsequent to the
FDA's clearance of EVLT(R) and given the dynamics of selling clinical
applications, including lasers and disposable products, we made the decision at
the end of the first quarter in 2002 to execute a direct sales strategy to
commercialize EVLT(R) in the US. In addition, in September 2002, we engaged
Sigmacon Health Products Corporation to be our distributor in the Canadian
market. Since expanding our sales force, we have been engaged in training our
sales representatives and in enhancing our proprietary marketing materials. We
will continue to monitor sales activities and strategies and adjust the number
of direct sales representatives, independent sales representatives and
distributors to address market needs and opportunities in the future.
In November 2000, we formed FibersDirect.com, a US business unit that acts as a
direct marketing conduit by providing on-line information for available products
and access to our sales staff by e-mail. FibersDirect.com enables distribution
of fibers directly from the manufacturer to the end-user. Our OPTIGUIDE(R)
fibers, used in photodynamic therapy cancer treatments, are promoted via
FibersDirect.com.
Internationally, we sell, market and distribute our products and services
through a network of distributors in Europe, the Middle East, South America,
Central America and Asia. We typically commit our distributors to minimum
product purchases and we may terminate our relationships with distributors who
do not meet their minimum purchase levels. We have not given our distributors
price protection or product return rights. We do not remotely monitor inventory
levels of our products once we sell them to distributors, but may obtain that
information as needed by our contact with the distributor. We also develop and
maintain strategic marketing alliances for international sales and marketing.
These alliances exist under agreements with companies including Olympus
ProMarketing, Inc. and Axcan Pharma. Each of these agreements relates to certain
products and market segments.
We target our marketing efforts to physicians through office visits, trade shows
and trade journals, and to consumers through point of service information
brochures and our websites, www.evlt.com (which provides information to patients
and physicians about EVLT(R) ) and www.fibersdirect.com (which provides product
and pricing information to prospective customers about our available optical
fibers). We expect that consumer awareness will increase demand for the
treatment methodologies we address and for our products. Our sales philosophy
includes establishing strong collaborations with well-known people in the
industry regarding our technology platforms, compiling substantive clinical data
and supporting the publication of peer review articles. With respect to EVLT(R)
, we believe that we have collected more clinical data regarding our products
and their application then any of our competitors in the endovenous laser
treatment market.
In fiscal years 2000 and 2001, two of our customers each accounted for more than
10% each of our revenues. In 2000 and 2001, approximately 50% of our sales were
generated domestically versus internationally. In fiscal year 2002, only one of
our customers accounted for more than 10% of our revenues, and approximately 55%
of our sales were generated in the US versus internationally. In the nine months
ended September 30, 2003, only one of our customers accounted for more than 10%
of our revenues, and approximately 60% of our sales were generated in the US
versus internationally.
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Going forward, we believe that our annual dependence on any individual customer
or group of customers should decrease because we expect more of our revenues to
be generated from sales of EVLT(R) to individual physician practices rather than
to large-scale distributors. In addition, we believe that our percentage of
sales generated domestically should increase as EVLT(R) market penetration in
the US increases.
We envision that by developing and marketing procedures to doctors that involve
selling key components--namely lasers and their related single use
disposables--we will have the potential to create recurring sales. Our plan is
that each future procedure will be accompanied with a disposable component to
provide recurring sales.
In 2004, while we expect to focus on the development and growth of EVLT(R) sales
worldwide, we will continue to support the development and approval of new
applications for photodynamic therapy products, and to continue our research and
development efforts aimed at enhancing our products' effectiveness and
manufacturing efficiencies.
COMPETITION
The medical device industry is highly competitive and regulated, and is subject
to rapid and substantial technological change. We compete primarily on the basis
of performance, brand name, reputation and price. Developments by others, both
public and private, may render our products under development or existing
technologies noncompetitive or obsolete, or we may be unable to keep pace with
technological developments and other market factors. Existing and potential
competitors may develop products and clinical solutions that could prove to be
more effective, safer or less costly than our products and clinical solutions.
Many of these competitors have significantly greater financial and human
resources than we do, and have established reputations as well as worldwide
distribution channels that are more effective than ours. Such competition
involves an intensive search for technological innovations and the ability to
market these innovations effectively. The introduction of new products and
clinical applications by competitors may result in price reductions, reduced
margins, loss of market share and product replacements, even for products
protected by patents. There can be no assurance that competitors, many of which
may have made substantial investments in competing technologies, would not
prevent, limit or interfere with our ability to make, use or sell our products
either in the United States or in international markets. To compete effectively
in the marketplace, we require the financial resources to effectively support
our activities in the following key areas: research and development, regulatory
compliance, quality control, sales and marketing, distribution and technical
information and training services.
In the vein treatment market, our competitors include manufacturers and
marketers of surgical and radiofrequency devices, and pharmaceutical companies
that provide drugs used in sclerotherapy and other vascular diseases. Within the
specific endovenous laser treatment market which our EVLT(R) products serve,
Biolitec A.G., AngioDynamics, Inc. (a subsidiary of E-Z-EM, Inc.) and Dornier
MedTech GmbH are our main competitors for surgical diode lasers. AngioDynamics
does not manufacture lasers or optical fiber and we understand it currently has
an original equipment manufacturing agreement with Biolitec for these goods.
AngioDynamics received FDA clearance for its device in November 2002,
approximately 10 months after Diomed. Biolitec, Lumenis and Dornier, among
others, are our competitors in the general surgical laser market. AngioDynamics
and Vascular Solutions currently compete with us for kits used in endovenous
laser treatment.
We believe that our EVLT(R) system and comprehensive physician management tools
are superior to the products offered by our direct competitors. EVLT(R) uses a
laser wavelength that has been proven 98% effective in FDA trials and in peer
reviewed data. As to varicose vein treatments using radiofrequency, offered by
our competitor, VNUS, Diomed's EVLT(R) treatment is a faster procedure, uses
substantially less expensive disposables and has clinically proven safety
results that are superior to the safety results reported for VNUS. EVLT(R)
offers physicians comprehensive practice management tools, including physician
training and practice development. Dornier, Biolitec and AngioDynamics offer
some practice management assistance, but we believe that, to the extent offered,
our competitors' practice management tools are significantly less comprehensive
than ours.
In the cancer treatment market, our competitors include manufacturers and
marketers of surgical and radiation therapy devices, and all the pharmaceutical
companies that provide various drugs used in chemotherapy and immunotherapy.
Within the specific photodynamic therapy market, Lumenis, Laserscope and
Biolitec are our main competitors. We currently have one FDA-cleared diode laser
in the US for photodynamic therapy cancer applications, which is used in
conjunction with Axcan Pharma's Photofrin(R) drug for late stage lung and
esophagus cancers.
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We also face competition from current widespread treatment practices, including
surgery, chemotherapy and radiation. Since most photodynamic therapy cancer
treatments are still in clinical trials, no long-term safety or efficacy data is
available. As a result, cancer patients may be more likely to choose proven
traditional forms of treatment.
We expect that our principal methods of competition with other photodynamic
therapy support companies will be based upon such factors as:
- the ease of administration of our partners' photodynamic therapy
methodologies;
- the degree of generalized skin sensitivity to light;
- the number of required doses;
- the safety and efficacy profile;
- the selectivity of photodynamic therapy drug for the target lesion
or tissue of interest;
- the type and cost of our light systems; and
- the cost of our partners' drug.
Increased competition could result in:
- price reductions;
- lower levels of third-party reimbursements;
- failure to achieve market acceptance for our photodynamic therapy
product line, and loss of market share.
PATENTS, TRADEMARKS AND PROPRIETARY TECHNOLOGY
We hold US and international patents for inventions in the following areas:
endovenous laser treatment of varicose veins, solid state laser diode light
source, high power light source, peltier-cooled and medical spacing guide. These
patents expire from 2011 to 2018.
In June 2002, the US Patent and Trademark Office issued Patent No. 6,398,777
("Endovascular laser device and the treatment of varicose veins") regarding this
technology. The technology is for the process of using lasers and fibers to
perform endovenous laser treatment procedures. We formerly licensed technology
for the EVLT(R) process from one of its inventors, Dr. Robert Min, on a
non-exclusive basis, although Dr. Min had agreed not to license the process
technology to any third party so long as we were not in breach of our
obligations under our agreement with him. On September 3, 2003, Diomed acquired
exclusive rights to US Patent No. 6,398,777 and related foreign patents for
endovenous laser treatment of varicose veins. These patents relate to the
technology underlying our EVLT(R) product. This acquisition resulted from two
transactions.
In the first transaction, Diomed purchased the interest in the EVLT(R) patent
owned by one of its five named inventors, Dr. Robert J. Min. This transaction
was completed under a purchase agreement between Diomed and Dr. Min entered into
on July 23, 2003. On September 3, 2003, Diomed paid the purchase price set forth
in the Purchase Agreement (consisting of $500,000 in cash and options to
purchase 1,000,000 shares of our common stock) in exchange for Dr. Min's
assignment to Diomed of his interest in the EVLT(R) patent. Diomed has agreed to
pay to Dr. Min variable payments based on Diomed's sales of products using the
EVLT(R) patent. Dr. Min had previously licensed the EVLT(R) patent to Diomed and
had served as a consultant to Diomed. Dr. Min's consulting agreement with Diomed
was amended to reflect the changes in the relationship between him and Diomed as
a result of Diomed's acquisition of the EVLT(R) patent rights. Dr. Min will
continue to act as a consultant to Diomed under the revised consulting
agreement.
In the second transaction, Diomed licensed, on an exclusive basis, the EVLT(R)
patent from Endolaser Associates, LLC, the assignee of interest in the EVLT(R)
patent from the other four named inventors. This transaction was completed under
a license agreement between Diomed and Endolaser Associates entered into on July
11, 2003. On September 3, 2003, Diomed paid Endolaser Associates $1,500,000 in
cash in exchange for the exclusive license granted by Endolaser Associates on
behalf of the four inventors who had assigned their interest in the EVLT(R)
patent to Endolaser Associates. Diomed is to make additional payments totaling
$2,500,000 in 10 quarterly installments of $250,000 each, commencing October 1,
2003. Diomed has agreed with Endolaser Associates that Diomed will pay variable
royalties based on Diomed's sales of products using the EVLT(R) patent.
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Together with Dr. Min and his associate, Dr. Stephen Zimmet, we also invented
fiber technology that we use with our EVLT(R) products. Drs. Min and Zimmet
assigned to us their rights to a patent application regarding this technology.
As of November 1, 2003, this patent application was still pending before the US
Patent and Trademark Office. We pay a fee for our sale of fibers incorporating
this technology. Doctors Min and Zimmet are also our consultants. They provide
services to us on an ongoing basis to educate physicians on the use of our
EVLT(R) products, and we pay them fees for these services.
We license technology that we currently use in our OPTIGUIDE(R) fiber optic
diffuser. Health Research, Inc. owns this patented technology, and exclusively
licenses it to QLT, Inc. In turn, QLT sublicenses it to us on a non-exclusive
basis. The sublicense continues until the licensed patent rights expire or the
license from Health Research to QLT is terminated, whichever comes first. Health
Research may terminate its license to QLT if QLT breaches its obligations under
the license and does not cure the breach within 90 days, or if QLT becomes
insolvent. QLT may terminate our sublicense if we breach our obligations under
the sublicense, such as failing to pay royalties, and do not cure the breach
within 90 days, or if we become insolvent.
We have received trademark registrations from the US Patent and Trademark Office
for the trademarks "Diomed,""OPTIGUIDE" and "EVLT." We have initiated trademark
registrations for "Summer Legs" as a trademarks and/or service mark, but we have
not yet received registrations for this particular mark. We registered various
domain names, including diomedinc.com, diomed-lasers.com, fibersdirect.com,
fibresdirect.com, summerlegs.com and evlt.com.
Our proprietary technology includes:
- a device for scanning laser beams in a pre-defined pattern across
the patient's skin;
- an enclosure for protecting laser diodes and modules;
- a low cost method for measuring the light from optical fibers of
differing geometry (under development);
- a common platform for laser diodes of different wavelengths;
- a user interface that is appropriate to the clinical setting;
- a monolithic optical geometry for implementing the patented
technology;
- a means for driving the laser diodes that provides a wide dynamic
range; and
- a means for efficiently removing heat from the diodes thereby
allowing the instrument to operate with standard line power as the
only service.
The patent position of medical device companies generally is highly uncertain.
Some of the risks and uncertainties include:
- the patent applications owned by or licensed to us may not result in
issued patents;
- our issued patents may not provide us with proprietary protection or
competitive advantages;
- our issued patents may be infringed upon or designed around by
others;
- our issued patents may be challenged by others and held to be
invalid or unenforceable;
- the patents of others may have a material adverse effect on us; and
- significant time and funds may be necessary to defend our patents.
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We are aware that our competitors and others have been issued patents relating
to optical fibers and laser devices. In addition, our competitors and others may
have been issued patents or filed patent applications relating to other
potentially competitive products of which we are not aware. Further, in the
future our competitors and others may file applications for patents, or
otherwise obtain proprietary rights to technology that can be used for such
products. These existing or future patents, applications or rights may conflict
with our patents or applications. These conflicts could result in a rejection of
our or our licensors' patent applications or the invalidation of issued patents,
any of which could have a material adverse effect on our ability to focus on the
development or marketing of these applications. If conflicts occur, or if we
believe that other products may infringe on our proprietary rights, we may
pursue litigation or other legal remedies, or may be required to defend against
litigation. Legal proceedings may materially adversely affect our competitive
position, and we may not be successful in any such proceeding. Litigation and
other proceedings can be expensive and time consuming, regardless of whether we
prevail. This can result in the diversion of substantial financial, managerial
and other resources from other activities. An adverse outcome could subject us
to significant liabilities to third parties or require us to cease any related
research and development activities or product sales. Some of the risks and
uncertainties include:
- we may be required to obtain licenses under dominating or
conflicting patents or other proprietary rights of others;
- these licenses may not be made available on terms acceptable to us,
if at all; and
- if we do not obtain such licenses, we could encounter delays or
could find that the development, manufacture or sale of products
requiring such licenses is foreclosed.
We also seek to protect our proprietary technology and processes in part by
confidentiality agreements with our collaborative partners, employees and
consultants. These third parties may breach their agreements with us, and we may
not have adequate remedies for their breach. Also, competitors may independently
learn or discover our trade secrets.
GOVERNMENT APPROVAL
The FDA and comparable international regulatory bodies regulate our medical
device products and their applications. The FDA governs, among other things, the
following activities that we or our partners perform:
- product design and development;
- product testing;
- product manufacturing;
- product labeling;
- product storage;
- premarket clearance or approval;
- advertising and promotion; and
- product sales and distribution.
Unless an exemption applies, each medical device we wish to commercially
distribute in the US will require either prior clearance by the FDA on the basis
of what is called a "510(k) application," or a pre-market approval application.
The FDA classifies medical devices that are manufactured or sold in the US into
one of three classes. Devices deemed to pose lower risks are placed in either
class I or II, which requires the manufacturer to submit to the FDA a pre-market
notification requesting permission to commercially distribute the device. This
process is generally known as 510(k) pre-market notification. Some low risk
devices are exempted from this requirement. Devices deemed by the FDA to pose
the greatest risk, such as life-sustaining, life-supporting or implantable
devices, or devices deemed not substantially equivalent to a previously cleared
510(k) device, are placed in class III, requiring pre-market approval upon a
pre-market approval application submitted by the applicant.
Our laser devices require either 510(k) or pre-market approval application
approval, depending on the clinical application. These devices generally qualify
for clearance under 510(k) procedures. To obtain 510(k) clearance, we must
submit a pre-market notification demonstrating that our proposed device is
substantially equivalent to a previously cleared 510(k) device or a device that
was in commercial distribution before May 28, 1976 (the date that the FDA called
for the submission of pre-market approval applications). The FDA's 510(k)
clearance review has recently taken from three to twelve months from the date
the application is submitted, but it can take significantly longer.
After a device receives 510(k) clearance, any modification that could
significantly affect its safety or effectiveness, or that would constitute a
major change in its intended use, requires a new 510(k) clearance or,
alternatively, could require pre-market approval. The FDA requires each
manufacturer to make this determination initially, but the FDA can review any
such decision and can disagree with a manufacturer's determination. If the FDA
disagrees with a manufacturer's determination, the FDA can require the
manufacturer to cease marketing and/or recall the modified device until 510(k)
clearance or obtain premarket approval. If the FDA requires us to seek 510(k)
clearance or premarket approval for any modifications to a previously cleared
product, we may be required to cease marketing or recall the modified device for
the unapproved, or so called "offlabel," use until we obtain this clearance or
approval. Also, under these circumstances, we may be subject to significant
regulatory fines or penalties.
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We must submit a premarket approval application to the FDA if we are not
permitted to clear the device through the 510(k) process. We must support our
premarket approval application with extensive data, including technical,
preclinical studies, clinical trials, manufacturing and labeling, to demonstrate
the safety and efficacy of the device, to the FDA's satisfaction.
After we file a premarket approval application, the FDA conducts an in-depth
review of the submitted information. This review generally takes one to three
years, but may take significantly longer. During this review period, the FDA may
request additional information or clarification of information provided. Also
during the review period, in many cases an advisory panel of experts from
outside the FDA may be convened to review and evaluate the application and
provide recommendations to the FDA as to the approvability of the device. In
addition, the FDA will conduct a pre-approval inspection of our manufacturing
facility to insure compliance with its quality system regulations (known as
"good manufacturing practices"). The FDA requires new premarket approval
applications or application supplements for significant modifications to the
manufacturing process, labeling and design of a device that is approved through
the premarket approval process. Premarket approval supplements often require
submission of the same type of information as a premarket approval application,
except that the supplement may be limited to information needed to support any
changes from the device covered by the original premarket approval application,
and may not require as extensive clinical data or the convening of an advisory
panel.
We expect that any additional applications that we may seek for our existing
laser products will require premarket approval. The FDA requires premarket
approval for each specific clinical procedure.
The FDA generally requires at least one clinical trial to support a premarket
approval application, and occasionally requires clinical trials to support a
510(k) premarket notification. These trials generally require submission to the
FDA of an application for investigational device exemption, or "IDE." We must
support the IDE application with appropriate data, such as animal and laboratory
testing results, showing that it is safe to test the device in humans and that
the testing protocol is scientifically sound. The FDA must approve the
application in advance for a specified number of patients, unless the FDA deems
the product to be a non-significant risk device and eligible for more
abbreviated IDE requirements. Clinical trials for a significant risk device may
begin once the FDA and the appropriate institutional review boards at the
clinical trial sites clear the application. Future clinical trials of our
products may require that we submit and obtain clearance of an IDE from the FDA
prior to commencing clinical trials. The results of clinical testing may not be
sufficient to obtain clearance or approval of a new intended use of our device.
We are the first company to receive FDA clearance for use of lasers and related
applications in endovenous laser treatment and first diode laser manufacturer to
receive FDA clearance for use of lasers in photodynamic therapy cancer
treatments. In January 2002, we received FDA clearance for use of endovenous
laser treatment in the US, in respect of our EVLT(R) product line, making us the
first company to receive FDA clearance for this modality and use. Specifically,
the FDA approved our EVLT(R) surgical laser and procedure kit as intended for
use in coagulation of the greater saphenous vein of the thigh in patients with
varicose veins, and the FDA specifically found that the FDA would not require us
to submit a premarket approval application for this use. In December 2002, the
FDA granted clearance for the use of EVLT(R) for expanded indications, namely,
the use of our D15plus and D30plus diode lasers and disposable kits for the
treatment of varicose veins and varicosities associated with the superficial
vein reflux of the greater saphenous vein. In August 2000, we and Axcan Pharma
received regulatory approval for our 630nm laser and OPTIGUIDE(R) fiber, and
Axcan Pharma's Photofrin(R) drug used in the cancer treatment for late stage
lung and esophageal cancers. In August 2003, Axcan Pharma announced that it
received FDA clearance in connection with an application it had made for
expanded indications of the use of Photofrin(R) in conjunction with our
photodynamic therapy laser products for the treatment of Barrett's Esophagus.
After a device is placed on the market, numerous regulatory requirements apply.
These include:
- quality system regulations, which require manufacturers to follow
design, testing, control, documentation and other quality assurance
procedures during the manufacturing process;
- labeling regulations, which prohibit the promotion of products for
uncleared or unapproved (off label); and
39
- medical device reporting regulations, which require that
manufacturers report to the FDA if their device may have caused or
contributed to a death or serious injury or malfunctioned in a way
that would likely cause or contribute to a death or serious injury
if it were to recur.
Failure to comply with applicable regulatory requirements can result in
enforcement action by the FDA, which may include one or more of the following
sanctions:
- fines, injunctions and civil penalties;
- recall or seizure of our products;
- operating restrictions, partial suspension or total shutdown of
production;
- refusing our requests for 510(k) clearance or premarket approval of
new products or new intended uses;
- withdrawing 510(k) clearance or premarket approvals that are already
granted; and
- criminal prosecution.
We are also regulated under the Radiation Control for Health and Safety Act,
which requires laser products to comply with performance standards, including
design and operation requirements, and manufacturers to certify in product
labeling and in reports to the FDA that their products comply with all such
standards. The law also requires laser manufacturers to file new product reports
and annual reports, maintain manufacturing, testing and sales records, and
report product defects. We must affix various warning labels and install certain
protective devices, depending on the class of the product.
The Radiation Control for Health and Safety Act sets labeling and reporting
requirements. Our failure to comply would initially result in a warning letter
from FDA informing the company of the noncompliance. Action to correct the
non-compliance range from a field correction, such as new labeling being sent to
existing customers by mail, to a formal recall of the labeling and replacement
with compliant material.
As compliance to existing regulations is included in our new product development
protocol, it is unlikely a non-compliance will occur. Labeling and new product
compliance are reviewed at discrete intervals during new product development by
regulatory and compliance departments prior to the release of any new products.
Foreign governmental regulations, which vary substantially from country to
country, govern international sales of medical devices. The time required to
obtain clearance or approval by a foreign country may be longer or shorter than
that required for FDA clearance or approval, and the requirements may be
different.
Some of the risks and uncertainties of international governmental regulation
include:
- foreign regulatory requirements governing testing, development,
marketing, licensing, pricing and/or distribution of drugs and
devices in other countries;
- our products may not qualify for the centralized review procedure or
we may not be able to obtain a national market application that
would be accepted by other European Union member states;
- our devices must also meet the new Medical Device Directive that
became effective in Europe in 1998. The Directive requires that our
manufacturing quality assurance systems and compliance with
technical essential requirements be certified with a "CE Mark"
authorized by a registered notified body of an European Union member
state prior to free sale in the European Union; and
- registration and approval of a photodynamic therapy products in
other countries, such as Japan, may include additional procedures
and requirements, nonclinical and clinical studies, and may require
the assistance of native corporate partners.
These uncertainties could cause delays in our products entering the
international market or cause our expenses to increase significantly.
The primary regulatory environment in Europe is that of the European Union,
which consists of fifteen countries encompassing most of the major countries in
Europe. Other countries, such as Switzerland, have voluntarily adopted laws and
regulations that mirror those of the European Union with respect to medical
devices. The European Union has adopted numerous directives and standards
regulating the design, manufacture, clinical trials, labeling and adverse event
reporting for medical devices. Devices that comply with the requirements of a
relevant directive will be entitled to bear CE conformity marking, such as that
issued by the British Standards Institute, indicating that the device conforms
with the essential requirements of the applicable directives and, accordingly,
can be commercially distributed throughout Europe. The method of assessing
conformity varies depending on the class of the product, but normally involves a
combination of self-assessment by the manufacturer and a third-party assessment
by an official body. This third-party assessment may consist of an audit of the
manufacturer's quality system and specific testing of the manufacturer's device.
An assessment in one country within the European Union is required in order for
a manufacturer to commercially distribute the product throughout the European
Union. ISO 9001 certification is one of the CE Mark certification requirements.
In November 1999, our facility was awarded ISO 9001 and EN 46001 certification,
thereby allowing us to apply the CE mark to our products and market them
throughout the European Union. In September 2001, we were the first company to
receive the CE mark of approval for marketing endovenous laser therapy products
in Europe.
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THIRD-PARTY REIMBURSEMENT
A patient's ability to secure reimbursement for our existing and future products
is critical to our success. In the US, health care providers generally rely on
third-party payors, principally private health insurance plans, Medicare and
Medicaid, to reimburse all or part of the cost of procedures in which medical
devices are used. However, we cannot assure that EVLT(R) and photodynamic
therapy, and future products that we develop in connection with photodynamic
therapy, endovenous or other medical and clinical procedures, will be
reimbursed, or that the amounts reimbursed to physicians would be adequate.
The current cost reduction orientation of the third-party payor community makes
it exceedingly difficult for new medical devices and surgical procedures to
obtain reimbursement. Often, it is necessary to convince payors that the new
devices or procedures will establish an overall cost savings compared to
currently reimbursed devices and procedures. We believe that EVLT(R) may offer
an opportunity for payors to reduce the costs of treating varicose vein patients
by possibly reducing significantly the number of vein stripping procedures
performed. We estimate that the cost of varicose vein treatment using EVLT(R) is
approximately 25% of the cost of vein stripping procedures. While we believe
that EVLT(R) possesses economic advantages that will be attractive to payors, we
cannot assure that they will make reimbursement decisions based upon these
advantages.
Reimbursement by third-party payors is often positively influenced by the
existence of peer-reviewed publications of safety and efficacy data and
recommendations by knowledgeable physicians. In regards to EVLT(R) , we
currently exceed the competition in the magnitude of clinical data we have
compiled, and we are currently the only company to have peer-reviewed articles
published in scientific journals addressing endovenous laser treatment. Most
recently, a new study, entitled "Endovenous Laser Treatment of Saphenous Vein
Reflux: Long-Term Results," was published in the August 2003 issue of the
Journal of Vascular and Interventional Radiology. This study shows what we
believe to be excellent long-term results for the removal of varicose veins
caused by reflux of the greater saphenous vein. The study was co-authored by Dr.
Robert Min, Director of Cornell Vascular in New York and Vice-Chairman of
Radiology at Weill Medical College of Cornell University. Dr. Min is a paid
consultant to Diomed, and is an inventor of the EVLT(R) , who sold his rights to
this patented technology to Diomed on September 3, 2003. Dr. Min assists Diomed
in physician training and in the development of medical treatments using EVLT(R)
.. This study is discussed in more detail under "Products, Competencies and
Market Opportunities," above.
Reimbursement systems in international markets vary significantly by country
and, within some countries, by region. Reimbursement approvals must be obtained
on a country-by-country basis or a region-by-region basis. In addition,
reimbursement systems in international markets may include both private and
government-sponsored insurance. We cannot be certain that we will be able to
continue to obtain such approvals in a timely manner, if at all. If we fail to
receive acceptable levels of international reimbursement approvals, market
acceptance of our products in those countries is likely to be adversely
affected.
Nevertheless, the efforts of governments and third-party payors to contain or
reduce the cost of healthcare will continue to affect our business and financial
condition as a medical device company. In foreign markets, pricing or
profitability of medical products and services may be subject to government
control. In the US, we expect that there will continue to be federal and state
proposals for government control of pricing and profitability. In addition,
increasing emphasis on managed healthcare has increased pressure on pricing of
medical products and will continue to do so. These cost controls may have a
material adverse effect on our revenues and profitability, and may affect our
ability to raise additional capital.
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In addition, cost control initiatives could adversely affect our business in a
number of ways, including:
- decreasing the price we, or any of our partners or licensees,
receive for any of our products;
- preventing the recovery of development costs, which could be
substantial; and
- limiting profit margins.
PRODUCT LIABILITY RISK
Our development of clinical solutions exposes us to significant inherent,
industry-wide risks of allegations of product liability. Patients or others who
use or sell our products may make these claims.
The following are some of the risks related to liability and recall:
- we are subject to the inherent risk that a governmental authority or
third party may require the recall of one or more of our products;
- if we obtain insurance coverage in the future, this coverage may not
be available at a reasonable cost if at all, or in amounts
sufficient to protect us against claims that may be made; and
- liability claims relating to our products or a product recall could
adversely affect our ability to obtain or maintain regulatory
approval for our products and their applications.
NUMBER OF EMPLOYEES
As of September 30, 2003, we employed a total of 63 full-time employees, 23 of
whom are based in the US and 40 of whom are based at Diomed Ltd., our
wholly-owned subsidiary in Cambridge, England, where manufacturing and certain
international sales are conducted. We believe that our future success will
depend in part on our continued ability to attract, hire and retain qualified
personnel. None of our employees is represented by a labor union. We believe our
employee relations are good.
DIOMED MERGER AND PRIVATE PLACEMENT OF COMMON STOCK - FEBRUARY 14, 2002
Diomed, Inc. became a wholly-owned subsidiary of the Diomed Holdings, Inc. by
way of the February 14, 2002 Merger. The principal purpose of the Merger was to
enhance our ability to raise capital for our business by creating a public
trading market for shares of our common stock and help us when we negotiate
future acquisitions. To facilitate this process, we originally entered into the
Merger Agreement with Pashleth Investment Ltd., a Delaware corporation, and
granted Pashleth the right, subject to our consent, to assign its rights to a
merger partner that would be suitable to our need to raise capital. When
Pashleth selected Natexco Corporation, Pashleth assigned all of its rights and
obligations under the Merger Agreement to Natexco. As a result, Pashleth had no
continuing relationship with the Merger, other than as escrow agent for the
proceeds of the contemporaneous private placement. Because Natexco was a public
company that had ceased its previous business operations, we believed that this
entity could provide us with a better opportunity to access capital and
negotiate future acquisitions due to the liquidity afforded by a public trading
market.
For financial statement purposes, the Merger was treated as a recapitalization
of Diomed, Inc. For tax purposes, we believe the Merger qualifies as a tax-free
exchange of equity securities. We have not, however, requested any ruling from
the Internal Revenue Service in respect of the tax treatment of the Merger.
Natexco's initial business plan was to provide promotional advertising and
public relations services in the United States to Canadian companies lacking the
personnel and facilities to conduct these activities outside Canada. This
business plan was, however, unsuccessful. On July 30, 2000, Natexco acquired all
of the issued and outstanding shares of common stock of Security Software
Systems, Inc., a Florida corporation incorporated on October 17, 1996. As a
result of the acquisition of Security Software, Natexco was in the sole business
of developing, manufacturing, marketing and selling security computer software
designed for access control for use by guarded communities, office buildings,
high rise condominiums, private estates, country clubs and other secure
facilities. Diomed Holdings, Inc.'s sole business activity until the Merger was
the operation of Security Software. We abandoned the business of Security
Software after the Merger.
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On February 14, 2002, pursuant to the Merger Agreement, Diomed Acquisition
Corp., a Delaware corporation and a wholly-owned subsidiary of Diomed Holdings,
Inc., merged with and into Diomed, Inc.
Pursuant to the Merger Agreement, Diomed Holdings, Inc. issued:
- 2,328,922.50 shares of its Class A convertible preferred stock,
known as "Class A Stock," to the former holders of Diomed, Inc.
common stock in exchange for 9,315,690 shares of common stock of
Diomed, Inc. issued and outstanding as of the effective time of the
Merger. The 2,328,922.50 shares of Class A Stock were convertible
into 9,315,690 shares of Diomed Holdings, Inc.'s common stock, and
- 1,362,500 shares of its Class A Stock to the former holders of
2,725,000 shares of Diomed, Inc. Series A Preferred Stock issued and
outstanding as of the effective time of the Merger. The 1,362,500
shares of Class A Stock were convertible into 5,450,000 shares of
Diomed Holdings, Inc.'s common stock.
Immediately prior to the Merger, we consummated a private placement transaction,
wherein Diomed, Inc. issued 5,000,000 shares of common stock, at a purchase
price of $2.00 per share, and received aggregate gross proceeds of $10,000,000.
As a result of the Merger, these shares were exchanged for an equal number of
shares of common stock of Diomed Holdings, Inc. The proceeds of the private
placement were used to pay $700,000 of bridge loans that Diomed, Inc. had
obtained to fund operations prior to the Merger, to pay merger-related fees and
expenses, and to provide funds for ongoing corporate needs.
In connection with the Merger, Diomed Holdings, Inc. assumed the obligations of
Diomed, Inc. with respect to Diomed, Inc.'s outstanding stock options and
warrants. During 2002, Diomed, Inc. issued options representing 450,200 shares
of common stock and cancelled 620,655 options held by former employees who
departed from Diomed, Inc. or Diomed Holdings, Inc. prior to the options vesting
and/or who did not exercise their options within the required post-employment
exercise period. As of September 30, 2003, options representing 3,431,838 shares
of common stock were outstanding , of which 2,510,758 were exercisable.
As of December 31, 2001, Diomed, Inc. had issued warrants representing 121,924
shares of common stock. On January 1, 2002, Diomed, Inc. issued warrants
representing a total of 10,000 shares of common stock to two affiliated
investors, Winton Capital Holdings Ltd. and Verus International Group Limited,
that provided $700,000 of bridge financing to Diomed, Inc. in October, 2001. See
Note (8) of the Notes to December 31, 2002 Audited Consolidated Financial
Statements for a description of the terms of this bridge financing. On December
27, 2002, Diomed Holdings, Inc. issued warrants to purchase 8,333,333 shares of
common stock to an affiliated investor, Gibralt US, Inc., that provided
$2,000,000 of bridge financing to Diomed Holdings, Inc. on that date. See Note
(8) of the Notes to December 31, 2002 Audited Consolidated Financial Statements
for a description of the terms of this bridge financing. Accordingly, as of
December 31, 2002, warrants to purchase 8,455,257 shares of common stock were
outstanding.
On May 7, 2003, we entered into an exchange agreement with the holders of the
8,333,333 warrants we issued on December 27, 2002, wherein the holders of these
warrants surrendered all of the warrants to us in exchange for preferred stock
that became exchangeable for a total 9,024,391 shares of common stock after we
obtained stockholder approval of the issuance of these shares of common stock
and listed these shares of common stock with the American Stock Exchange. On
September 3, 2003, in connection with the equity financing, we issued warrants
to purchase 40,879,063 shares of common stock to our placement agent. Of the
warrants issued to the placement agent, 17,150,000 are exercisable at $0.10 per
share, 6,187,500 are exercisable at $0.08 per share and 17,541,563 are
exercisable at $0.001 per share. All of these warrants expire November 25, 2008.
Accordingly, as of September 30, 2003 there were warrants to purchase 41,000,987
shares of common stock outstanding.
The shares issued to the former Diomed, Inc. stockholders in the Merger
represented approximately 51% of Diomed Holdings, Inc. voting securities
following the Merger, before giving effect to options and warrants. Assuming
that the holders of the options and warrants outstanding at the time of the
merger had fully exercised their purchase rights, the shares issued to the
former Diomed, Inc. stockholders in the Merger would represent approximately
47.8% of the issued and outstanding voting securities following the Merger, the
shares issued to the option holders would represent approximately 5.8% of the
issued and outstanding voting securities following the Merger and the shares
issued to the warrant holders would represent approximately 0.4% of the issued
and outstanding voting securities following the Merger.
43
We believe that each stockholder of Diomed, Inc. that was a US resident at the
time of the Merger also was an accredited investor, as the term is defined in
Regulation D under the Securities Act, and that the offering by means of the
Merger was exempt from the registration requirements of the Securities Act under
Section 4(2) of the Securities Act. The shares that we issued to those persons
are subject to restrictions on transfer. Each other stockholder of Diomed, Inc.
was not a US resident at the time of the Merger and, as to those stockholders,
the Merger was structured to comply with the exemption from registration
provided by Regulation S under the Securities Act. The shares issued to non-US
residents also are subject to restrictions on transfer. Accordingly, the issue
of shares to non-US residents did not require registration under the Securities
Act.
Before the Merger, the directors of Diomed, Inc. appointed Peter Norris as a
director to fill a vacancy on the board of directors, and to serve in such
capacity until the next annual meeting of shareholders or until his earlier
resignation or removal. The directors also appointed Peter Klein, then the chief
executive officer and president of Diomed, Inc., as chief executive officer and
president of Diomed Holdings, Inc. After the Merger, except for Mr. Norris, the
pre-Merger directors resigned, Mr. Norris appointed the remaining Diomed, Inc.
directors as directors of Diomed Holdings, Inc., and additionally, in
consultation with the remaining Diomed, Inc. directors, appointed Kim Campbell
as a director of Diomed Holdings, Inc.
Under the terms of the Merger, Diomed Holdings, Inc. was required to file a
registration statement with the SEC within 120 days after the Merger and to have
the registration statement declared effective within 240 days after the Merger.
The registration statement was to cover (i) 5,000,000 shares of Diomed Holdings
Inc. common stock issued in the private placement related to the Merger, (ii)
14,765,690 shares of common stock into which the Class A Stock issued in the
Merger to the former Diomed, Inc. stockholders convert over a period of
approximately two years after the Merger and (iii) 121,924 shares of common
stock issuable upon conversion of the shares of Class A Stock that are issuable
upon the exercise of Diomed, Inc. warrants that Diomed Holdings, Inc. assumed as
part of the Merger. The terms also provided that since Diomed Holdings, Inc. did
not meet the requirement of effectiveness within 240 days after the Mergers, it
was required to issue a total of 50,000 shares of common stock as a penalty to
the stockholders who purchased common stock under Diomed Holdings, Inc.'s
agreement with the purchasers of its common stock in the February 14, 2002
private placement.
Diomed Holdings, Inc. filed such registration statement with the SEC within 120
days of the Merger, but this registration statement was not declared effective
by the SEC within 240 days after the Merger. This registration statement was
declared effective by the SEC on October 24, 2002. Accordingly, Diomed Holdings,
Inc. was required to issue a total of an additional 50,000 shares of common
stock to the stockholders who purchased shares of common stock in the February
14, 2002 private placement. Diomed Holdings, Inc. filed another registration
statement on November 1, 2002 registering for resale these additional 50,000
shares of common stock.
Diomed Holdings, Inc. also agreed to file, 45 days after the effective date of
the first registration statement, a second registration statement that would
cover the 1,789,370 shares of its common stock issuable upon conversion of all
shares of Class A Stock that are issuable upon the exercise of Diomed, Inc.
options that Diomed Holdings, Inc. assumed as part of the Merger. According to
that agreement, Diomed Holdings, Inc. was required to have filed such a
registration statement by December 8, 2002. However, Diomed Holdings, Inc. has
not yet filed such a registration statement. The exercise prices of these
options were less than the market price of our common stock at the time the
second registration statement was required to be filed. Accordingly, Diomed
Holdings, Inc. did not file such registration statement to defer the cost of
doing so. There is no contractual penalty associated with the failure to file
this second registration statement. Diomed Holdings, Inc. expects to file this
particular registration statement before the end of 2003.
To the extent not covered by an effective registration statement, shares of
common stock issued on the exercise of options or warrants will generally become
tradable in the public markets one year after exercise, subject to the volume
limitations, manner of sale and notice of sale limitations of the SEC's Rule
144.
MIGRATORY MERGER - MAY 13, 2002
At the time of the Merger, Diomed Holdings, Inc. was incorporated in the State
of Nevada. In April 2002, our board of directors determined that it was in our
best interests and the best interests of our stockholders to change our state of
incorporation from Nevada to Delaware by way of the migratory merger. On May 13,
2002, after obtaining stockholder approval, the migratory merger was completed
by merging Diomed Holdings, Inc. (Nevada) with and into a newly organized
Delaware subsidiary, Diomed Holdings, Inc. (Delaware). As a result of the
migratory merger, each share of common stock of Diomed Holdings, Inc. (Nevada)
outstanding as of the date of the consummation of the migratory merger was
converted into one share of common stock of Diomed Holdings, Inc. (Delaware) and
each share of Class A Stock of Diomed Holdings, Inc. (Nevada) was converted into
four shares of Class A Stock of Diomed Holdings, Inc. (Delaware). The rights and
privileges of the common stock and the Class A Stock of Diomed Holdings, Inc.
(Delaware) are virtually identical to those of the common stock and Class A
Stock of Diomed Holdings, Inc. (Nevada), other than a one for four exchange of
shares of Class A Stock of Diomed Holdings, Inc. (Nevada) for shares of Class A
Stock of Diomed Holdings, Inc. (Delaware), and a reduction in the number of
votes from four votes per share for Class A Stock of Diomed Holdings, Inc.
(Nevada) to one vote per share for Class A Stock of Diomed Holdings, Inc.
(Delaware).
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In connection with the migratory merger, we assumed the obligations of Diomed
Holdings, Inc. (Nevada) with respect to Diomed Holdings, Inc. (Nevada)'s
outstanding stock options and warrants (formerly the Diomed, Inc. stock options
and warrants described above). As a result of the migratory merger, the
directors and officers of Diomed Holdings, Inc. (Nevada) became our directors
and officers.
Since we have become a Delaware corporation, we and our stockholders are subject
to Section 203 of the General Corporation Law of the State of Delaware, an
anti-takeover law. In general, the law prohibits a public Delaware corporation
from engaging in a "business combination" with an "interested stockholder" for a
period of three years after the date of the transaction in which the person
became an interested stockholder, unless the business combination is approved in
the prescribed manner. A "business combination" includes a merger, asset sale or
other transaction resulting in a financing benefit to the interested
stockholder. An "interested stockholder" is a person who, together with
affiliates and associates, owns (or within the prior three years, did own) 15%
or more of the corporation's voting stock.
In the migratory merger, the common stock, Class A Stock, warrants and options
of Diomed Holdings, Inc. (Nevada) were exchanged with the security holders
thereof for common stock, Class A Stock, warrants and options of Diomed
Holdings, Inc. (Delaware) and no commission or other remuneration was paid or
given for soliciting the exchange. We therefore believe that the securities
issued by Diomed Holdings, Inc. (Delaware) in the migratory merger are exempt
securities under Section 3(a)(9) of the Securities Act.
LEGAL PROCEEDINGS
On October 22, 2001, MBG Technologies, Inc. and its United Kingdom subsidiary
Ci-Tec UK Ltd. filed an action, entitled MBG ---- Technologies, Inc. et al. v.
Diomed, Inc., et al, Superior Court of the State of California, County of
Orange, Case No. 01CC 13525, against us and our UK subsidiary, Diomed Ltd. MBG
alleges we disclosed trade-secret information. The trade secrets relate to "the
development and distribution of information for non-coherent light sources..."
and MBG alleges that we disclosed this information to MBG's competitor, Efos. We
deny these allegations. MBG seeks compensatory and punitive damages in an
unspecified amount, but apparently at least $80,000, and an injunction against
further disclosures by us of MBG's trade secrets. On December 11, 2001, we
removed the State Action to the United District Court for the Central District
of California, Southern Division, where it is now pending as Case No. SA 01-1190
GLT. We have moved to dismiss the action and compel arbitration to address MBG's
allegations. MBG has opposed this motion.
On July 28, 2003, Murray Augenbaum filed an action, entitled Augenbaum v. Diomed
Holdings, Inc., in the Delaware Chancery Court (C.A. No. 20454). The complaint
and accompanying motion for permanent injunction sought class certification and
challenged one of the amendments to our Certificate of Incorporation that was to
have been voted upon at the July 2003 Meeting. The amendment in question would
have increased the number of authorized shares of our common stock to
500,000,000 shares. The plaintiff challenged the propriety of the record date
set for the July 2003 meeting, the voting of all outstanding classes of our
capital stock as one class, and the rights of the holders of our Class C Stock
and Class D Convertible Preferred Stock to convert their shares and vote their
shares as if they had been converted.
On August 6, 2003, we entered into a stipulation of settlement to resolve this
case. The terms of the stipulation of settlement required the adjournment of the
July 2003 meeting and the reconvening of an annual meeting during the remainder
of 2003. Under the stipulation of settlement, at the reconvened annual meeting,
we are permitted to submit to the stockholders for their approval each of the
matters that had been proposed for the July 2003 meeting. In addition, the
stipulation of settlement requires us to pay up to $150,000 to cover the
plaintiff's legal fees. A hearing before the Delaware Chancery Court for the
settlement of this matter was held on September 15, 2003. After this hearing,
the court entered an order that approved the stipulation of settlement as
submitted. The stipulation of settlement became final on October 15, 2003 on the
expiration of the applicable appeal period for the appeal of the Chancery
Court's order and final judgment without an appeal having been filed.
45
We disclaim any liability relating to any of the settled claims, deny having
engaged in any wrongful or illegal activity or having violated any law,
regulation or duty, deny that any person or entity has suffered any harm or
damages as a result of the settled claims and we made the settlement to avoid
the distraction, burden and expense occasioned by continued litigation. The
court has made no finding that we engaged in any wrongdoing or wrongful conduct
or otherwise acted improperly or in violation of any law, regulation or duty in
any respect.
In connection with the stipulation of settlement, on August 22, 2003, we entered
into an agreement with the holders of the Class C Stock by which the holders
tendered all 20 shares of Class C Stock in exchange for an equal number of
shares of Class E Stock, and we entered into an agreement with the holders of
the Class D Stock by which the holders tendered all 24 shares of Class D Stock
for an equal number of shares of Class F Stock. The Class E Stock and the Class
F Stock entitle the holders to one vote per share. Following the exchange of
Class C Stock for Class E Stock and Class D Stock for Class F Stock, both the
Class C Stock and Class D Stock were eliminated.
Under the terms of our agreement with the holders of our preferred stock,
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, we had the right to
purchase from the holders of the Class E Stock, and the holders of the Class E
Stock were obligated to sell, all 20 shares of Class E Stock in exchange for
27,117,240 shares of common stock, and we had the right to purchase from the
holders of the Class F Stock, and the holders of the Class F Stock were
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 our assets, the holders of the Class E Stock and Class F
Stock had 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 were preferred in liquidation to the
extent that before any distribution was to be made to the holders of common
stock, there was to 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 common stock were to share pro rata in the remainder of the net
liquidation proceeds.
In connection with the equity financing, on November 25, 2003, we exchanged all
outstanding shares of Class E Stock for a total of 27,117,240 shares of common
stock and we exchanged all outstanding shares of Class F Stock for a total of
3,021,552 shares of common stock, and no Class E or Class F Stock is
outstanding.
On December 12, 2003, we filed a lawsuit in the United States Federal District
Court for the District of Massachusetts seeking injunctive and other relief
against Vascular Solutions, Inc. and one of its executives. We allege, among
other things, that Vascular Solutions and the executive misappropriated our
trade secrets and then improperly used that information to develop and market
laser accessory products. We also seek to redress what we allege to be the
willful and deceptive manner in which Vascular Solutions has been marketing its
laser accessory products by, among other things:
- infringing our registered EVLT(R) mark;
- marketing Vascular Solutions' products in a way designed to confuse
consumers as to the source and origin of its products;
- making false and defamatory statements about us and our products;
- tortuously interfering with our existing and prospective customer
relationships; and
- tortuously interfering with agreements previously entered into by
the executive and us that prohibit the executive from disclosing our
confidential information to Vascular Solutions or any other third
party.
As of the date of the registration statement of which this prospectus is a part,
Vascular Solutions has not filed an answer to our complaint. Vascular Solutions
has generally denied our allegations.
On January 6, 2004, we filed a lawsuit in the United States Federal District
Court for the District of Massachusetts against AngioDynamics, Inc., a
subsidiary of E-Z-EM, Inc., seeking injunctive relief and damages for
infringement of our US Patent Number 6,398,777 covering the endovascular laser
treatment of varicose veins which we use in our EVLT(R) product line, the
exclusive rights to which we acquired on September 3, 2003. As of the date of
the registration statement of which this prospectus is a part, AngioDynamics has
not filed an answer to our complaint. AngioDynamics has generally denied our
allegations.
We are involved in other legal proceedings and claims of various types. While
any litigation contains an element of uncertainty, management believes that the
outcome of each such other proceeding or claim which is pending or known to be
threatened, will not have a material adverse effect on us.
46
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION OR PLAN OF OPERATION
You should read the following discussion of our financial condition and results
of operations together with the audited consolidated financial statements and
notes to the financial statements and unaudited consolidated financial
statements and notes to the financial statements included elsewhere in this
prospectus.
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,
we have incurred substantial costs to create our products. As of September 30,
2003, we had an accumulated deficit of approximately $46,761,000, including
$5,859,000 in non-cash interest expense. 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 losses until such time as we
generate sufficient revenue to offset such costs.
OVERVIEW
We specialize in developing and commercializing laser and related disposable
product technologies used in minimally and micro-invasive medical procedures.
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 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 which generate revenue from both
our laser equipment and our disposable products, such as kits and optical
fibers.
Using our proprietary technology, including our exclusive rights to U.S. Patent
No. 6,398,777 and related foreign patents for the endovenous laser treatment of
varicose veins, we currently focus on endovenous laser treatment (our EVLT(R)
product line) for use in varicose vein 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.
Since the beginning of 2001, the composition of our product line has undergone
significant changes. In the first half of 2001, we abandoned our Laserlite
business when we withdrew from the aesthetic laser market. We had acquired
Laserlite LLC, the distributor of our cosmetic laser systems, in May 1998. We
subsequently migrated to our existing laser platform, and this led to a decision
to discontinue the sale of the Laserlite product line.
In 2001, we 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, we were 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, we were the first company to receive FDA clearance for endovenous laser
treatment, with respect to marketing EVLT(R) in the US.
EVLT(R) was a primary source of revenue in 2002 and has continued to be a
primary source of revenue in 2003. We believe 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. We have 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.
47
We expect that as the number of EVLT(R) procedures increases, so will its sales
of associated disposable items. We believe that the U.S. represents the single
largest market for EVLT(R) . We are targeting our sales and marketing efforts at
hospitals, private physician practices and clinics. We sell our products to
hospital and office-based physicians in major population centers throughout the
U.S., including specialists in vascular surgery, interventional-radiology,
general surgery, phlebology, gynecology and dermatology.
We have developed and maintain a website - www.EVLT.com - to implement both the
"push" and "pull" components of our marketing 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:
- the customer's internal approval process,
- hospital determinations as to the specialty of physician performing
the EVLT(R) procedure and the facility where these procedures will
be performed,
- the physician's desire to observe an EVLT(R) procedure prior to
making a purchase decision, and
- 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
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, we sold our products through independent sales representatives in
the US and through distributors internationally. In March 2002, we made the
decision to execute a direct sales strategy to commercialize EVLT(R) in the US.
In addition, in September 2002, we engaged Sigmacon Health Products Corporation
of Toronto, Ontario as our distributor in the Canadian market. We 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.
We work 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.
Our sales of our 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 reliably predict our revenues from PDT because EVLT(R) and not PDT is our
primary source of revenue for 2003 because Photofrin is the first PDT drug
brought to market by Axcan Pharma, and there is not sufficient relevant
historical data on which to base sales assumptions.
In the US, 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
48
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 uses our technology for surgical and dental
applications. In addition we have a long-term partnership with Dentek
Lasersystems Vertriebs GmbH, which uses 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. We believe that our percentage of sales
generated domestically will increase as we grow the EVLT(R) market in the US. In
the first nine months of 2003, the percent of sales generated domestically
increased to 60%.
In 2003, we have focused, and in 2004, we expect to continue to focus, on the
development and growth of EVLT(R) sales in the US 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.
RESULTS OF OPERATIONS
NINE MONTHS ENDED SEPTEMBER 30, 2003 COMPARED TO THE NINE MONTHS ENDED SEPTEMBER
30, 2002.
REVENUE
Revenue for the nine months ended September 30, 2003 were $6,644,000, increasing
approximately $2,574,000, or 63%, from $4,070,000 for the same period in 2002.
In the nine months ended September 30, 2003, approximately $4,206,000, or 63%,
of our total revenues were derived from laser sales, as compared to
approximately $2,540,000, or 62%, in the same period in 2002. In the nine months
ended September 30, 2003, approximately $2,438,000, or 37%, of our total
revenues were derived from sales of disposable fibers and kits, accessories and
service, as compared to approximately $1,530,000, or 38%, in the same period in
2002.
The increase in revenue is attributable primarily to:
- increased penetration in the EVLT(R) market,
- the compounding impact of the recurring revenue stream from
disposable sales to both new and existing customers, and
- the impact of new sales management and development of our sales
team.
COST OF REVENUE AND GROSS PROFIT
Cost of Revenue for the nine months ended September 30, 2003 was $4,211,000,
increasing approximately $731,000, or 21%, from $3,480,000 for the same period
in 2002. Cost of Revenue, as a percentage of sales, decreased from 86% to 63% on
a year-to-year basis.
Gross profit for the nine months ended September 30, 2003 was $2,433,000,
increasing approximately $1,843,000, or 312%, from $590,000 for the same period
in 2002. On a percent-of-sales-basis, the gross margin increased 23 percentage
points from 14% to 37%.
The increase in Cost of Revenue was driven by:
- new royalties from the EVLT(R) patent acquisition, and
- the corresponding increase in the number of lasers and disposable
products sold, offset, on a percentage of sales basis, by the
leverage of fixed manufacturing costs across a greater number of
units.
OPERATING EXPENSES
RESEARCH AND DEVELOPMENT EXPENSES for the nine months ended September 30, 2003
remained largely unchanged at $635,000, a $29,000, or 4%, decrease from $664,000
for the same period in 2002. This slight downward trend is expected to be
reversed in 2004 after the completion of our equity financing.
49
SELLING AND MARKETING EXPENSES for the nine months ended September 30, 2003 were
$2,892,000, increasing approximately $796,000, or 38%, from $2,096,000 for the
same period in 2002. In 2003, the increased selling and marketing expenses
resulted primarily from incremental commissions on a higher sales base (offset
somewhat by a lower commission rate) and from a higher level of marketing
spending during the first two quarters of 2003. We anticipate an increased
spending in sales and marketing programs to support the continued
commercialization of EVLT(R) after the completion of the equity financing.
GENERAL AND ADMINISTRATIVE EXPENSES for the nine months ended September 30, 2003
remained largely unchanged at $2,829,000, increasing approximately $171,000, or
6%, from $2,658,000 for the same period in 2002. In the third quarter of 2003,
we recognized additional expense in the amount of $150,000 in legal fees paid
for the settlement of the Augenbaum litigation.
LOSS FROM OPERATIONS
As a result of the above, the loss from operations for the nine months ended
September 30, 2003 was $3,924,000, decreasing approximately $904,000, or 19%,
from $4,828,000 for the same period in 2002.
INTEREST EXPENSE, NET
Interest expense for the nine months ended September 30, 2003 was $3,383,000,
compared to $317,000 for the same period in 2002. Interest expense in the nine
months ended September 30, 2003 included non-cash charges totaling approximately
$2,933,000 and amortization of deferred financing costs totaling $154,000
related to the December 2002 and May 2003 debt financings.
Two million dollars of non-cash interest charges resulted from the accelerated
amortization of the balance of the discount associated with the notes we issued
in the December 2002 debt financing upon the retirement of those notes at the
first closing of the equity financing. An additional $833,000 in non-cash
interest expense resulted from the amortization of the discount on Class A
Secured Notes and Class B Unsecured Notes we issued in the December 2002
financing prior to their exchange for Class C notes contemporaneously with the
May 2003 debt financing.
In the fourth quarter of 2003, the contingent discount associated with the
$6,995,000 in secured bridge notes will be fully amortized to non-cash interest
expense with an offsetting increase in additional paid in capital. The net
impact on stockholders' equity/(deficit) will be zero when net loss including
the discount is fully reflected in the accumulate deficit.
In the fourth quarter of 2003, in connection with the first closing of the
equity financing, we will recognize approximately $580,000 in general interest
expense related to the corresponding legal and placement agent fees upon
stockholder approval of the equity financing. Otherwise, these unamortized costs
will continue to be amortized over the life of the notes.
In the fourth quarter of 2003, in connection with the first closing of the
equity financing, we will recognize an additional placement agent fee, in the
amount of approximately $1,800,000, for 6,187,500 warrants issued to the
placement agent. The warrant fee will be recorded as a deferred financing cost.
This contingent cost will be fully amortized to general interest expense in the
period in which the secured bridge notes converted to equity, with a
corresponding increase in additional paid in capital. The net impact on
stockholders' equity/(deficit) will be zero when the net loss, including the
deferred financing cost, is fully reflected in the accumulated deficit.
50
In the fourth quarter of 2003, in accordance with Emerging Issues Task Force
(EITF) 00-27, "Application of EITF No. 98-05 to Certain Convertible
Instruments," we will recognize a beneficial conversion feature related to the
Class D notes, in the amount of $960,000, which will be recorded as a discount
to the notes. This contingent discount will be fully amortized to non-cash
interest expense in the period in which the Class D notes converted to equity,
with a corresponding increase in additional paid in capital. The net impact on
stockholders' equity/(deficit) will be zero when the net loss, including the
discount, is fully reflected in the accumulated deficit.
NET LOSS APPLICABLE TO COMMON STOCKHOLDERS
As a result of the above, the net loss applicable to common stockholders for the
nine months ended September 30, 2003, including $2,933,000 in non-cash interest
expense, was $7,307,000, or $0.29 per share, increasing approximately
$2,162,000, or 42%, from $5,145,000, or $0.38 per share, in the same period in
2002.
FISCAL YEAR ENDED DECEMBER 31, 2002 COMPARED TO FISCAL YEAR ENDED DECEMBER 31,
2001.
REVENUES
Revenues for the year ended December 31, 2002 were approximately $5,500,000, a
$2,200,000, or 28%, decrease from approximately $7,700,000 for the year ended
December 31, 2001.
In 2002, approximately $3,400,000, or, 62%, of our total revenues were derived
from laser sales, as compared to approximately $5,900,000, or 76%, of total
revenues in 2001. In 2002, approximately $2,100,000 or, 38%, of total revenues
were derived from sales of disposable fibers and kits, accessories and services,
as compared to approximately $1,800,000, or, 24%, of total revenues in 2001.
The decrease in revenues is principally due to decreased sales in the
photodynamic therapy and original equipment manufacturing product lines in 2002
as compared to 2001, which resulted from slower than anticipated
commercialization initiatives of our collaborative partners, Axcan Pharma and
Olympus, and due to our withdrawal from the aesthetic laser market in 2001.
These decreases were partially offset by revenues derived as a result of the
launch of our new EVLT(R) clinical solution following FDA clearance in the US in
January 2002.
COST OF REVENUES
Cost of revenues for the year ended December 31, 2002 was $5,200,000, a
$900.000, or 15%, decrease from $6,100,000 for the year ended December 31, 2001.
This decrease was principally due to the decreased sales volume and a headcount
reduction in manufacturing resulting from the restructuring in December 2001 of
our subsidiary operations in the UK, partially offset by regulatory costs
incurred in the US in 2002 that were not incurred in 2001.
GROSS PROFIT
Gross profit for the year ended December 31, 2002 was $300,000, a $1,300,000, or
79%, decrease from $1,600,000 in gross profit for the year ended December 31,
2001. This decrease was principally due to the decreased sales volume, and as a
result, we absorbed fixed costs for production quality, regulatory and service
that otherwise would have been covered.
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses for the year ended December 31, 2002 were
$900,000, a $300,000, or, 24%, decrease from $1,200,000 for the year ended
December 31, 2001. The decrease was principally due to a headcount reduction
resulting from the restructuring in December 2001 of our subsidiary operations
in the UK, partially offset by costs incurred in the first half of 2001 to
wind-down the aesthetic laser business, which was acquired from Laserlite LLC,
that was subsequently abandoned in the first half of 2001.
SELLING AND MARKETING EXPENSES
Selling and marketing expenses for the year ended December 31, 2002 were
$3,300,000, a $700,000, or, 29%, increase from $2,500,000 for the year ended
December 31, 2001. The increase was principally due to staff and recruiting
costs for sales and marketing resources in the US including the hiring of a
direct sales force, and costs associated with participation in industry trade
shows and other external marketing initiatives, to support the commercialization
of EVLT(R) post FDA clearance in January 2002. In addition, this increase was
partially offset by a headcount reduction resulting from the restructuring in
December 2001 of our subsidiary operations in the UK.
51
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses for the year ended December 31, 2002 were
$3,800,000, a $1,200,000, or, 46%, increase from $2,600,000 for the year ended
December 31, 2001. The increase was principally due to approximately $1,000,000
in incremental legal, investor relations, financial advisory, accounting and
other professional fees associated with becoming a public company in the first
quarter of 2002, as well as staffing costs in the US that were not incurred in
2001. These increased expenses were partially offset by a headcount reduction
resulting from a restructuring in December 2001 of our subsidiary in the UK.
INTEREST EXPENSE, NET
Interest expense for the year ended December 31, 2002 was $300,000, a
$2,600,000, or 89%, decrease from $2,900,000 in the year ended December 31,
2001.
Interest expense in the year ended December 31, 2002 includes non-cash charges
totaling approximately $225,000. In 2001, we issued Promissory Notes, in the
aggregate principal amount of $700,000, to two of our stockholders 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 that would 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, which
triggered the right to convert the notes.
Interest expense in the year ended December 31, 2001 reflects a noncash charge
totaling $2,700,000. In March 2001, holders of our 9% convertible subordinated
notes, with a conversion price of $3.50 per share, agreed to convert $2,500,000
in principal amount of those notes into common stock. The conversion rate was
subject to adjustment in the event of certain circumstances, including certain
issues of common stock at a price below $3.50 per share. Pursuant to our March
5, 2001 Stock Purchase and Recapitalization Agreement, which provided certain
shareholders with additional shares of common stock at a purchase price of $1.00
per share, we adjusted the conversion price of the notes from $3.50 per share to
$1.00 per share. At the same time, the holders of the notes converted $2,475,000
of the notes into 2,475,000 shares of common stock. We repaid the remaining
$225,000 of notes in cash. In accordance with Emerging Issues Task Force (EITF)
00-27, Application of EITF Issue No. 98-5 to Certain Convertible Instruments, we
recorded a non-cash interest expense charge of $2,700,000 due to the adjustment
of the conversion price.
INCOME TAXES
For the years ended December 31, 2001 and December 31, 2002, we recorded no
provision for foreign, federal and state income taxes, as we incurred net
operating losses.
NET LOSS APPLICABLE TO COMMON STOCKHOLDERS
As a result of the above, the net loss applicable to common stockholders for the
year ended December 31, 2002 was $8,000,000, a $100,000, or 1%, decrease from
the year ended December 31, 2001.
RESULTS OF OPERATIONS
FISCAL YEAR ENDED DECEMBER 31, 2001 COMPARED TO FISCAL YEAR ENDED DECEMBER 31,
2000.
REVENUES
Revenues for the year ended December 31, 2001 were $7,700,000, a $1,700,000, or
18%, decrease from $9,400,000 for the year ended December 31, 2000. This
decrease was due to an approximately $3,300,000 decrease in laser sales, offset
by increases in fiber sales ($1,300,000) and sales of our new product line,
EVLT(R) ($300,000). The decrease in laser sales was primarily attributed to
three factors: (1) a 50% decrease (or, $800,000) in sales of
52
photodynamic therapy lasers, (2) a 56% decrease (or, $1,600,000) in original
equipment manufacturing sales, and (3) our withdrawal from the aesthetic laser
market (sales of which decreased by $900,000 in 2001 over 2000).
The principal reason for the reduction in laser sales is that orders in 2000
were largely by customers who ordered our lasers in connection with clinical
trials they were conducting. The lasers purchased in 2000 were sufficient for
these customers to continue their trials in 2001. The reduced laser orders by
these customers were offset in part by the development of new customers and
increased laser sales to Axcan Pharma, Inc. under our exclusive supply agreement
(Axcan Pharma, Inc. uses our products (specifically, photodynamic therapy and
OPTIGUIDE(R) fibers) in connection with its product, Photofrin(R) , which is a
drug used to treat late stage lung and esophageal cancer). Our original
equipment manufacturing sales decreased primarily because we shipped fewer units
to certain distributors, who did not need to replenish stock because they
experienced delays in obtaining necessary regulatory approvals. We withdrew from
the aesthetic laser market when we abandoned our Laserlite business. We acquired
Laserlite on May 31, 1998. We subsequently migrated to our current laser
platform, and this led to the discontinuation of the sale of the Laserlite
product line.
The increase in fiber sales was primarily due to the acquisition of
manufacturing rights from QLT, Inc. for OPTIGUIDE(R) fibers, and the formation
of FibersDirect.com, our direct marketing Internet portal for fibers, both of
which we completed in fiscal year 2001.
COST OF REVENUES
Cost of revenues for the year ended December 31, 2001 was $6,100,000, a
$1,300,000, or 18% decrease from $7,400,000 for the year ended December 31,
2000. This decrease was primarily due to the decreased sales volume of our
products.
GROSS PROFIT
Gross profit for year ended December 31, 2001 was $1,600,000, a $400,000, or
20%, decrease from $2,000,000 for the year ended December 31, 2000. This
decrease was primarily due to the increased strategic investment in our
marketing infrastructure, product quality and customer service tools. We
anticipate that this internal investment will result in better financial
performance in the future. As a percentage of revenue, gross profit was 21% for
both of the years ended December 31, 2001 and 2000, respectively.
RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses for the year ended December 31, 2001 were
$1,220,000, a $50,000, or 4%, decrease from $1,270,000 for the year ended
December 31, 2000.
SELLING AND MARKETING EXPENSES
Selling and marketing expenses for the year ended December 31, 2001 were
$2,500,000, a $900,000, or 56%, increase from $1,600,000 for the year ended
December 31, 2000. This increase reflects an expansion of staffing in sales and
marketing, trade show and promotional expenses, and other expenses related to
the expansion of our sales and marketing infrastructure to support growth.
Additionally, we invested in marketing programs to support EVLT(R) and other
applications.
GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses for the year ended December 31, 2001 were
$2,600,000, a $400,000, or 18%, increase from $2,200,000 for the year ended
December 31, 2000. The increase was primarily due to an expansion of staffing in
management, finance and information technology to support company operations and
growth.
INTEREST EXPENSE, NET
For the year ended December 31, 2001, interest expense increased from $300,000
in 2000 to $2,900,000 in 2001. The increase in interest expense reflects a
noncash charge totaling approximately $2,700,000. In March 2001, holders of our
9% convertible subordinated notes, with a conversion price of $3.50 per share,
agreed to convert $2,500,000 in principal amount of those notes into common
stock. The conversion rate was subject to adjustment in the event of certain
circumstances, including certain issues of common stock at a price below
53
$3.50 per share. Pursuant to our March 5, 2001 Stock Purchase and
Recapitalization Agreement, which provided certain stockholders with additional
shares of common stock at a purchase price of $1.00 per share, we adjusted the
conversion price of the notes from $3.50 per share to $1.00 per share. At the
same time, the noteholders converted $2,475,000 of the notes into 2,475,000
shares of common stock. We repaid the remaining $225,000 of notes in cash. In
accordance with Emerging Issues Task Force (EITF) 00-27, Application of EITF
Issue No.98-5 to certain Convertible Instruments, we recorded a non-cash
interest expense charge of $2,700,000 due to the adjustment of the conversion
price.
VALUE ASCRIBED TO CALL OPTION AND BENEFICIAL CONVERSION FEATURE
RELATED TO PREFERRED STOCK
Pursuant to our Series A Preferred Stock financing in March 2001, two holders of
our Series A Preferred Stock were issued a call option requiring us to sell up
to an additional 1,000,000 shares of our Series A Preferred Stock at a price per
share equal to $1.00. We recorded the fair value of the call option and related
beneficial conversion feature, totaling an aggregate of $400,000 in the
accompanying statement of stockholders' equity (deficit).
INCOME TAXES
For the year ended December 31, 2001, we recorded no provision for foreign,
federal and state income taxes for the periods 2000 and 2001, as we incurred net
operating losses.
NET LOSS APPLICABLE TO COMMON STOCKHOLDERS
As a result of the above, the net loss applicable to common stockholders for the
year ended December 31, 2001 was $8,100,000, a $4,600,000, or 132%, increase
from the year ended December 31, 2000.
LIQUIDITY AND CAPITAL RESOURCES
SUMMARY
Since our inception through September 30, 2003, we had an accumulated deficit of
approximately $46,761,000, including $5,859,000 in non-cash interest expense. 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 losses until such time as we generate sufficient revenue to offset
such costs. We financed our operations primarily through private placements of
common stock and preferred stock, private placements of convertible notes and
short term notes and through credit arrangements.
At the end of 2002, we completed a $2,000,000 bridge financing in the form of
convertible notes. The investor in this bridge financing was Gibralt US, Inc.,
an affiliate of Samuel Belzberg, one of our directors and a significant
stockholder. The proceeds of this bridge financing were used to fund our
operations while management assessed our business plan, capital needs and the
availability of investment capital.
We recognized that to fund our operations through 2003 and to support the
commercialization of EVLT(R) , we needed to complete an additional debt or
equity financing or put in place a credit facility. We anticipated that we would
have access to additional funding sources from affiliated stockholders and new
private and institutional investors. We required the proceeds of any such
financing, together with our current cash resources, to continue as a going
concern, and to use these proceeds to fund our operations and commercialize our
products in 2003. However, at the time we recognized that additional financing
may not be available on acceptable terms or at all. The inability to obtain
additional financing would have caused us to reduce or cease operations, sell
all or a portion of our assets, or enter into a business combination with a
third party. As a result of additional financing needed to support operations in
2003, the report of our independent certified public accountants, relating to
our 2002 financial statements, contains an explanatory paragraph stating
substantial doubt about our ability to continue as a going concern. In April
2003, we appointed an investment banking firm (with which we had no prior
relationship) as our exclusive financial advisor to provide advice relating to
our capital structure and to explore raising additional capital through an
equity financing in which the advisor would act as our placement agent.
In May 2003, we obtained $1,200,000 of bridge financing from three directors,
Samuel Belzberg (investing through his affiliate, Gibralt US), James A. Wylie,
Jr. and Peter Norris. In order to fund our operations while we pursued an equity
financing transaction that would provide us with sufficient capital to pursue
our business plan, based on the assumptions in that business plan When we
obtained bridge financing in May 2003, we also restructured the terms of the
December 2002 bridge financing to change our capital structure by
54
eliminating warrants and conversion rights granted in the December 2002
financing, which our board of directors believed, based on their experience and
their assessment of the then-current availability for companies similarly
situated with us to attract investors, would increase our opportunity to obtain
long term equity financing.
In September 2003, we entered into an equity financing transaction pursuant to
which we raised gross proceeds of $22,000,000 and satisfied the $1,200,000 in
debt we issued in the May 2003 bridge financing. This equity financing is
discussed in detail under "September 2003 Equity Financing," below. We received
gross proceeds of $6,500,000 in this transaction on September 3, 2003 and
received the balance of $15,500,000 and satisfied the $1,200,000 in debt issued
in the May 2003 bridge financing at the final closing on November 25, 2003.
We had cash balances of approximately $1,500,000 as of September 30, 2003,
approximately $1,900,000 as of December 31, 2002 and approximately $323,000 as
of December 31, 2001.
DESCRIPTION OF INTERIM FINANCING TRANSACTIONS FROM DECEMBER 2002 TO DATE
From December 2002 until September 2003, we entered into three interim (or
"bridge") financing transactions, each of which was with a related party.
Highlights of these three transactions are as follows:
- December 2002 Interim Financing. At the end of December 2002, we
borrowed $2,000,000 from Gibralt US in the form of one-year Class A
Secured Convertible Notes (the "Class A Notes") and Class B
Unsecured Convertible Notes (the "Class B Notes"). In connection
with this loan, we also issued warrants to purchase 8,333,333 shares
of common stock at an exercise price of $0.26 per share. These funds
were used to provide working capital while new management and new
independent directors completed their assessments of our prospects
and operations.
- May 2003 Interim Financing. In April 2003, we secured loan
commitments for up to $1,200,000 as interim financing from Gibralt
US and two directors. Gibralt US committed to lend up to $1,100,000,
and Mr. Wylie and Peter Norris committed to lend the remaining
$100,000 in exchange for one-year Class D Secured Notes (the "Class
D Notes"). This transaction closed on May 7, 2003. These funds were
used to provide working capital while we pursued our plan to raise
long-term equity financing. We issued preferred shares convertible
into a total of 3,021,552 shares of common stock to these lenders in
connection with their loan commitments.
- May 2003 Exchange Transaction. Simultaneously with obtaining the
$1,200,000 of loan commitments, we modified several terms and
conditions of the Class A and Class B Notes that we believed might
impede the completion of a permanent equity financing with
institutions and accredited investors. First, we issued Class C
Stock, which was convertible into 27,117,240 shares of common stock,
in exchange for the redelivery to us of 8,333,333 warrants and
modification of the Class A and Class B Notes to make them
non-convertible. Second, we issued Class D Stock, which was
convertible into 3,021,552 shares of common stock, as a discount for
the $1,200,000 in committed secured bridge loans. The 30,138,792
shares of common stock underlying the Class C Stock and Class D
Stock represented in the aggregate approximately 50.36% of our
common stock and common stock equivalents outstanding after the
transactions.
- May 2003 Modification Transaction. On May 28, 2003, we and the
holders of the Class A and Class B Convertible Notes made further
modifications to the notes to accommodate the plan for permanent
equity financing. We did not issue any additional shares or pay any
amounts to obtain these changes.
- August 2003 Exchange of Preferred Shares. As part of our settlement
of the Augenbaum lawsuit, we exchanged the convertible preferred
stock we issued on May 7, 2003 for an equal number of shares of new
classes of preferred stock. The new classes of preferred stock are
not by their terms convertible into common stock, but under a
written agreement with the stockholders, these shares will be
exchanged for an equal number of shares of common stock into which
the number the former classes of common stock were convertible. This
exchange was made to address a claim in the Augenbaum complaint that
the preferred stock we issued in May 2003 could be convertible by
its terms. The plaintiff in Augenbaum agreed
55
that we could issue the same number of shares of common stock into
which the May 2003 preferred stock would have been convertible, but
that the mechanism should be through an exchange of preferred stock
for common stock, not a conversion of the preferred stock into
common stock. Accordingly, the August 2003 exchange agreements with
the holders of the preferred stock provide that after our
stockholders approve the issuance of the underlying shares of common
stock, then either we or the holders of the preferred stock may
request the exchange of the preferred stock for that number of
shares of common stock into which the May 2003 preferred stock was
convertible.
- Repayment of $2 Million Debt Incurred in December 2002 Interim
Financing. On September 3, 2003, we repaid all of the $2,000,000 in
principal and accrued interest on the notes we issued in connection
with the December 2002 interim financing, using a portion of the
$6,500,000 gross proceeds of the sale of Secured Bridge Notes in the
equity financing.
- Conversion of $1.2 Million Debt Incurred in May 2003 Interim
Financing. On November 25, 2003, (including accrued interest) the
$1,200,000 in notes we issued in our May 2003 interim financing
converted into common stock at $0.10 per share. Accordingly, we
issued 12,482,335 shares of common stock to these noteholders.
- Conversion of Secured Bridge Notes. On November 25, 2003, the
$6,995,000 in Secured Bridge Notes we issued at the first closing of
the equity financing in September 3, 2003 (including accrued
interest) converted into common stock at $0.08 per share.
Accordingly, we issued 89,069,677 shares of common stock to these
noteholders.
- Exchange of Class E and Class F Stock. On November 25, 2003, in
connection with the final closing of our equity financing and
pursuant to our agreement with the holders of our Class E and Class
F Stock, we exchanged all outstanding shares of Class E Stock for a
total of 27,117,240 shares of common stock and we exchanged all
outstanding shares of Class F Stock for a total of 3,021,552 shares
of common stock.
We summarize in the tables below the material terms of the Class A and Class B
Convertible Notes and warrants that we issued in the December 2002 Interim
Financing, the Class C Notes that we issued in the May 2003 Exchange
Transaction, the Class D Notes that we issued in the May 2003 Interim Financing
Transaction and the Class E Notes that we issued in exchange for the Class C
Notes and the amendments that we made to the Class D Notes in the May 2003
Modification Transaction. Following these tables, we describe the material terms
of these securities in greater detail.
56
TABLE SUMMARIZING THE DECEMBER 2002 INTERIM FINANCING
AND SUBSEQUENT MODIFICATIONS
The following table summarizes the original terms of the $2,000,000 interim
financing that we completed in December 2002, the terms of that $2,000,000
interim financing after giving effect to the exchange transaction that we
completed on May 7, 2003 and the subsequent modification on May 28, 2003:
ORIGINAL TERMS OF TERMS OF DECEMBER 2002 TERMS OF DECEMBER 2002
DECEMBER 2002 INTERIM FINANCING AS INTERIM FINANCING AS
INTERIM FINANCING MODIFIED MAY 7, 2003 MODIFIED MAY 28, 2003
Indebtedness: Indebtedness: Indebtedness:
- ------------- ------------- -------------
- - $2,000,000 principal amount - $2,000,000 principal amount - $2,000,000 aggregate
- - interest rate 8% per annum - interest rate 8% per annum principal amount
- - principal and accrued interest - principal and accrued - interest rate 12.5% per annum
payable at maturity interest payable at maturity starting 5/28/03
- - maturity date 1/1/04 - maturity date 1/1/04 - interest accrued through
5/27/03
added
to
principal
and
becomes
payable
quarterly
commencing
3/31/04
to
the
extent
of
50%
excess
quarterly
cash
flow
- interest accrued from 5/28/03
payable quarterly commencing
9/30/03
- maturity date 1/1/06
Conversion of Indebtedness: Conversion of Indebtedness: Conversion of Indebtedness:
- --------------------------- --------------------------- ---------------------------
- - convertible into common stock - no conversion rights - no conversion rights
at noteholder's option
- - number of shares of common
stock into which convertible
equals principal and interest
divided by conversion price
- - conversion price determined at
time of conversion
- - conversion price is 80% of the then-prevailing price of common stock
(determined on basis of market price, price in financing transaction or
liquidation, as applicable)
57
Other Rights of Noteholders: Other Rights of Noteholders: Other Rights of Noteholders:
- ---------------------------- ---------------------------- ----------------------------
- - right to approve future - no right to approve future - no right to approve future
financings prior to 1/1/2004 financings financings
- - right to participate in future - no right to participate in - no right to participate in
financings at a 20% discount to the future financings future financings
price paid by investors in the - right to rescind 5/7/03 exchange - right to rescind 5/28/03 exchange
future financing transaction if (1) no stockholder transaction if (1) no stockholder
approval of issuance of
common approval of issuance
of common stock upon
conversion of preferred stock
upon conversion of preferred
shares issued in
consideration of shares
issued in consideration of
exchange transaction, or (2)
exchange transaction, or (2)
financing is not entered into
prior financing is not
entered into prior to 6/30/03
to 7/31/03
Security: Security: Security:
- --------- --------- ---------
- - $1,000,000 principal amount of - entire $2,000,000 principal - entire $2,000,000 principal
notes secured, $1,000,000 principal amount plus accrued interest amount plus accrued interest on
amount unsecured secured notes secured
- - security interest granted in - security interest is lien on - security interest is lien on
all of our personal property, subject all of our personal property, all of our personal property,
to priority of prior security subject to priority of prior excluding intellectual property
interest in accounts receivable security interest in accounts acquired after 12/31/02 and
- - pledge of stock of subsidiary receivable inventory and fixed assets in
owning the photodynamic therapy - pledge of stock of subsidiary excess of the stipulated 12/31/02
business owning the photodynamic therapy value
business - security interest in accounts
receivable subject to subrogation
to future creditors if we enter
into receivables financing
transaction
- pledge of stock of subsidiary
owning the photodynamic therapy
business
Warrants: Warrants: Warrants:
- --------- --------- ---------
- - warrants to purchase 8,333,333 - December 2002 warrants - December 2002 warrants
shares of common stock at exercise surrendered, subject to the surrendered, subject to the
price of $0.26 per share December 2002 warrants being December 2002 warrants being
- - number of warrant shares reissued upon the note-holders' reissued upon the noteholders'
subject to increase if shares of exercise of their rescission rights exercise of their rescission rights
common stock or common stock
equivalents are issued at a price
less than the warrant exercise price
- - warrant exercise price subject to downward adjustment if common stock or
common stock equivalents issued in a financing at less than the warrant
exercise price
TABLE SUMMARIZING THE MAY 2003 INTERIM FINANCING AND SUBSEQUENT MODIFICATIONS
The following table summarizes the original terms of the $1,200,000 interim
financing that we completed on May 7, 2003 and the subsequent modification to
certain of the terms and conditions of that financing on May 28, 2003:
58
ORIGINAL TERMS OF TERMS OF MAY 7, 2003
MAY 7, 2003 INTERIM FINANCING TRANSACTION
INTERIM FINANCING TRANSACTION AS MODIFIED MAY 28, 2003
Indebtedness: Indebtedness:
- ------------- -------------
- - up to $1,200,000 aggregate - up to $1,200,000 aggregate
principal amount principal amount
- - interest rate 8% per annum - interest rate 8% per annum
- - principal and accrued interest - principal and accrued interest
payable 5/6/2004 payable 5/6/2004
Conversion of Indebtedness: Conversion of Indebtedness:
- --------------------------- ---------------------------
- - no conversion rights - no conversion rights
Other Rights of Noteholders: Other Rights of Noteholders:
- ---------------------------- ----------------------------
- - no right to approve future - no right to approve future
financings financings
- - right to participate at the - mandatory participation in future
noteholder's option in future financings at the same price paid
financings at the same price paid by investors in the future
by investors in the future financing and otherwise on the same
financing and otherwise on the same terms as applicable to those
terms as applicable to those investors
investors - no right to redeem indebtedness for
- - right to redeem indebtedness for cash upon completion of future
cash upon completion of future financing
financing - right to accelerate due date of
- - right to accelerate due date of indebtedness if financing not
indebtedness if financing not completed prior to 7/31/2003
completed prior to 7/1/2003
Security: Security:
- --------- ---------
- - $1,200,000 principal amount and - $1,200,000 principal amount and
accrued interest on notes secured accrued interest on notes secured
- - security interest granted in all of - security interest granted in all of
our personal property, subject to our personal property, excluding
priority of existing lien in accounts receivable, intellectual
accounts receivable property acquired after 12/31/02
- - pledge of stock of subsidiary and inventory and fixed assets in
owning the photodynamic therapy excess of value as of 12/31/02
business - pledge of stock of subsidiary
owning the photodynamic therapy
business
Warrants: Warrants:
- --------- ---------
- - no warrants issued - no warrants issued
DESCRIPTION OF DECEMBER 2002 INTERIM FINANCING TRANSACTION
The principal terms of the $2,000,000 bridge financing that we completed on
December 27, 2002 were:
- We borrowed $2,000,000 from Gibralt US, whose principal, Samuel
Belzberg, is a member of our board of directors.
- To evidence the loan, we issued $1,000,000 in Class A Notes that
were secured and $1,000,000 in Class B Notes that were unsecured.
- The maturity date of the notes was January 1, 2004.
- The notes bore interest at 8% per annum, and accrued interest was
payable at maturity.
- The Class A and the Class B Notes, including principal and accrued
interest, were convertible into common stock at 80% of the common
stock price determined as follows:
(1) if we were to complete a financing transaction in which we issued common
stock or common stock equivalents, the price per share of common stock or common
stock equivalent (the weighted average if multiple financing transactions occur
in a rolling 30-day period), (ii) if we were to complete a financing transaction
in which we did not issue common stock or common stock equivalents, the lower of
the average of the closing price of the common stock for the 15 business days
preceding the public announcement of the financing transaction or the average of
the closing price of the common stock for the 15 business days following the
public announcement of the financing transaction, (iii) if a liquidity event
were to occur in which any person or group other than a stockholder on December
27, 2002 becomes the beneficial owner of at least 51% of voting control of us,
the price per share allocated to each share of common stock or common stock
equivalent, or (iv) if any other liquidity event were to occur, the lower of the
average of the closing price of the common stock for the 15 business days
preceding the public announcement of the liquidity event or the average of the
closing price of the common stock for the 15 business days following the public
announcement of the liquidity event.
59
- If a merger or reorganization were to occur, the Class A and Class B
Notes were convertible into the kind and number of shares of common
stock, other securities or property into which the notes would have
been converted into if the notes had been converted into common
stock on the business day preceding the merger or reorganization.
- We agreed not to consummate any financing transaction until January
1, 2004 while any Class A or Class B Notes were outstanding unless
we had first received the approval of the holders of at least
66-2/3% of the outstanding principal amount of the notes.
- We also issued to the noteholder warrants to purchase up to
8,333,333 shares of common stock. The warrants were exercisable for
a period of five years, beginning June 27, 2003, at an exercise
price of $0.26 per share, which was 110% of the market price of the
common stock on December 26, 2002. If we, during the life of the
warrants, were to issue common stock or common stock equivalents at
a price per share less than $0.26, the number of warrants would be
increased and the exercise price of the warrants would be decreased
to the lower price per share. If a merger or reorganization were to
occur, the warrants would become convertible into the kind and
number of shares of common stock, other securities or property into
which the common stock, other securities or property issuable upon
exercise of the warrants would have been converted if the warrants
had been exercised prior to the merger or reorganization.
- We and the noteholder entered into an agreement for the registration
of the shares of common stock issuable upon the conversion of the
notes and upon the exercise of the warrants. Under that agreement,
we agreed to notify the noteholder if we were to propose to file
certain future registration statements. We agreed to use our best
efforts to register any shares of common stock issuable to the
noteholder in the registration statement, subject to certain defined
limitations, if so requested by the noteholder within 30 days of
receipt of our notice. The noteholder agreed to become subject to a
"holdback period," by which the noteholder could not effect a public
sale of common stock for a period of up to 180 days following the
effective date of the registration statement, if so requested by a
managing underwriter of the offering.
- The notes and the warrants, pro rata to the notes, were transferable
in part or in whole by the noteholder to one or more third parties,
in accordance with all of the same terms agreed to by the
noteholder.
On March 18, 2003, Gibralt US sold and transferred to three investors in a
private transaction (i) $500,000 aggregate principal amount of the notes
($250,000 of which were Class A Notes and $250,000 of which were Class B Notes),
and (ii) 2,083,334 warrants. None of these transferees was an affiliate of
Gibralt US, although one of them is Morris Belzberg, a cousin of Samuel
Belzberg. Samuel Belzberg does not beneficially own, or have investment
discretion over, the securities purchased from him by Morris Belzberg.
Accordingly, after this transfer, Mr. Belzberg beneficially owned 6,249,999
warrants and $1,500,000 aggregate principal amount of notes ($750,000 of which
are Class A Notes and $750,000 of which are Class B Notes).
DESCRIPTION OF MAY 7, 2003 EXCHANGE TRANSACTION
During the first quarter of 2003, our board of directors and management
determined that we should seek permanent financing and continue our efforts to
achieve our business plan. Accordingly, the board of directors approved a plan
to raise long-term equity financing.
To address certain issues presented by our capital structure, the board of
directors created a special committee comprised of independent directors, (the
"Independent Committee"). The Independent Committee is comprised of Messrs.
60
Jenkins, Swank and Brooks. Based on information provided by Mr. Wylie and an
investment banker engaged by us in April 2003, the Independent Committee found
that under prevailing market conditions in the second quarter of 2003,
prospective investors were likely to be reluctant to invest in us because of
certain features of the December 2002 Interim Financing. Specifically, the
Independent Committee found that the future dilution represented by the
8,333,333 warrants to purchase our common stock and the potential conversion of
the $2,000,000 principal amount of the Class A and Class B Notes were unlikely
to be acceptable to new investors. In addition, the Independent Committee found
that the December 2002 noteholders' right to participate in any future financing
at a 20% discount to the price that new investors would be paying and their
right to approve future financing were likely to be obstacles to a completed
financing. The Independent Committee also determined that issuing additional
shares in exchange for modifications to the notes issued in the December 2002
Interim Financing was, from the perspective of our stockholders, preferable to
the alternative of ceasing operations due to our inability to raise additional
funding.
The Independent Committee began negotiations in April 2003 to modify the terms
of the December 2002 Interim Financing to eliminate the potential obstacles to
obtaining permanent financing. The Independent Committee and the December 2002
noteholders agreed to the proposed terms of the exchange transaction on April
22, 2003 and the transaction closed on May 7, 2003. The principal terms of the
May 7, 2003 exchange transaction were:
- the noteholders delivered to us the 8,333,333 warrants held by them;
- the noteholders returned the Class A secured notes and Class B
unsecured notes held by them to us for cancellation;
- to compensate the December 2002 noteholders for surrendering the
conversion rights under the notes and the warrants, we issued a
total of 20 shares of Class C Stock (the "Class C Stock") to the
December 2002 noteholders, which were convertible into an aggregate
of 27,117,240 shares of common stock;
- we issued Class C secured notes to the noteholders in principal
amounts equal to the Class A and Class B notes that were cancelled
(the "Class C Notes");
- the Class C Notes were redeemable for cash at the holder's option if
we were to complete our anticipated permanent financing;
- the Class C Notes were not convertible into our capital stock;
- the noteholders surrendered their rights to approve future financing
transactions;
- the Class C Notes were secured by a security interest in our
property identical to the security interest created in the December
2002 Interim Financing, and otherwise had terms substantially
similar to the Class A Notes; and
- we expanded our obligation under the registration rights agreement
entered into in December 2002 by granting demand registration rights
to the noteholders regarding the underlying shares of stock.
We also agreed to unwind the May 2003 Exchange Transaction and restore the
original terms of the December 2002 Interim Financing if: (1) our stockholders
did not approve the issuance of the common stock underlying the capital stock
issued to the noteholders in the May 2003 Exchange Transaction, or (2) we did
not complete our contemplated financing transaction by June 30, 2003 (this date
was subsequently extended to July 31, 2003 under the modifications which were
agreed to on May 28, 2003 and again to November 15, 2003 or any later day that
is one business day following the date agreed by us and the investors for the
second closing of the equity financing).
If the May 2003 Exchange Transaction had been rescinded, then the original terms
of the December 2002 Interim Financing would have been reinstated (except that
all of the notes will be secured). The original terms of the December 2002 notes
provided for conversion of the notes at a variable conversion rate. The original
terms of the Class A and Class B Notes provided for conversion at the
noteholder's option of principal and accrued interest into common stock at a
conversion price equal to 80% of the common stock price, with the common stock
price being determined at the time of conversion. In addition, if the May 7,
2003 exchange transaction had been rescinded, we would have been required to
redeliver the warrants to purchase 8,333,333 shares of common stock to the
December 2002 noteholders.
To allow for the issuance of the preferred shares associated with the exchange
transaction, on May 5, 2003, we created a new class of preferred stock,
consisting of 20 shares of preferred stock designated as "Class C Stock," each
share of which was to automatically convert into 1,355,862 shares of common
stock at the time when our stockholders approve the issuance of common stock
61
underlying the Class C Stock. This would have resulted in an additional
27,117,240 shares of common stock being issued and outstanding after the
conversion occurs. Under the terms of the Class C Stock, the holders of the
Class C Stock held the right to vote that number of shares into which the Class
C Stock is convertible, voting as one class with the holders of common stock and
other capital stock convertible into common stock.
In the May 7, 2003 exchange transaction, Gibralt US and the three other
securityholders received (1) Class C Notes in the principal amount equal to the
aggregate principal amount of the Class A and Class B Notes surrendered by them
and (2) shares of Class C Stock, all in exchange for surrendering the conversion
rights of the Class A and Class B Notes (Class C Stock convertible into a total
of 18,092,849 shares of common stock, or, approximately 904,642.45 shares of
common stock per $100,000 principal amount of notes exchanged for
non-convertible notes) and the warrants (Class C Stock, convertible into a total
of 9,024,391 shares of common stock, or, approximately 108,292.73 shares of
common stock per 100,000 warrants surrendered). On April 22, 2003, the effective
date of the May 7, 2003 exchange transaction, the closing price of the common
stock on the American Stock Exchange was $0.16 per share.
The number of shares of Class C Stock issued in the exchange transaction and the
value of the Class C Stock issued to the December 2002 securityholders in the
exchange transaction, using the closing price of the common stock of $0.16 on
April 22, 2003, is as follows:
Gibralt US
Principal Amount of Notes Exchanged: $1,500,000
Number of Warrants Surrendered: 6,249,999
Shares of Class C Stock Issued: 15
Number of Shares of Common Stock Issuable upon
Conversion of Class C Stock: 20,337,930
Shares of Common Stock Issuable upon conversion
of Class C Stock multiplied by
April 22, 2003 closing price per share: $3,254,069
Morris Belzberg
Principal Amount of Notes Exchanged: $300,000
Number of Warrants Surrendered: 1,250,000
Shares of Class C Stock Issued: 3
Number of Shares of Common Stock Issuable upon
Conversion of Class C Stock: 4,067,586
Shares of Common Stock Issuable upon Conversion
of Class C Stock multiplied by
April 22, 2003 closing price per share: $650,814
Steven Shraiberg
Principal Amount of Notes Exchanged: $100,000
Number of Warrants Surrendered: 416,667
Shares of Class C Stock Issued: 1
Number of Shares of Common Stock Issuable upon
Conversion of Class C Stock: 1,355,862
Shares of Common Stock Issuable upon conversion
of Class C Stock multiplied by
April 22, 2003 closing price per share: $216,938
62
Charles Diamond
Principal Amount of Notes Exchanged: $100,000
Number of Warrants Surrendered: 416,667
Shares of Class C Stock Issued: 1
Number of Shares of Common Stock Issuable upon
Conversion of Class C Stock: 1,355,862
Shares of Common Stock Issuable upon conversion
of Class C Stock multiplied by
April 22, 2003 closing price per share: $216,938
After the May 2003 Exchange Transaction and Interim Financing were completed and
in light of discussions with our investment banker, the Independent Committee
determined that further modifications to the terms of the securities issued in
the May 2003 transactions would be necessary to assist us in completing the
permanent financing. The material terms of these modifications are described
under "Description of Modifications to Terms of May 2003 Exchange Transaction
and Interim Financing."
DESCRIPTION OF MAY 2003 INTERIM FINANCING TRANSACTION
In March 2003, the board of directors also determined that we had an immediate
need for capital to support our operations until we completed the contemplated
permanent financing. In April 2003, the board of directors approved a plan to
raise up to $1,200,000 of interim financing prior to May 15, 2003. The board
further determined that, because of our history of operating losses and cash
position at the time, the contemplated permanent financing was likely to involve
the issuance of substantial amounts of equity.
The Independent Committee negotiated with Samuel Belzberg, a principal investor
and a director, to obtain the needed $1,200,000 interim financing. Mr. Belzberg
committed to lend (through his affiliate, Gibralt US) up to $1,100,000 to us,
and two other directors, James A. Wylie, Jr. and Peter Norris, each agreed to
lend $50,000 to us, to demonstrate their commitment to and support of us. The
board did not believe there were other prospective investors available to us to
provide the interim financing on terms and within a time period acceptable to
us. The Independent Committee and these directors agreed to the proposed terms
of the interim financing on April 22, 2003, and the transaction closed on May 7,
2003.
The material terms of the May 7, 2003 interim financing transaction are as
follows:
- Gibralt US committed to lend up to $1,100,000 to us ($1,000,000 of
which was to be funded according to a predetermined funding schedule
and the other $100,000 of which was to be funded upon completion of
a certain third party transaction), and Messrs. Wylie and Norris
loaned $50,000 to us. Gibralt US funded all of its commitment.
- We issued Class D secured notes in a principal amount equal to the
amount loaned to us (secured on an equal basis with the indebtedness
incurred in the December 2002 Interim Financing and having
substantially similar terms as the Class C notes issued in the May
7, 2003 exchange transaction, except that they would mature one year
from the date of issuance).
- To compensate the lenders for the risk attendant to their investment
and based on our financial condition, need for additional funding
and lack of definitive terms for a future permanent financing or
commitment from any investor to provide such permanent financing, we
issued shares of capital stock equal to 20% of the amount of the
loan commitment of the interim financing lenders (or, $240,000), in
the form of a total of 24 shares of Class D Convertible Preferred
Stock, which were convertible into an aggregate of 3,021,552 shares
of common stock.
- The Class D noteholders held rights (but not the obligation) to
redeem their notes for the securities issued by us in the permanent
financing on the same terms and conditions as the investors in the
permanent financing.
63
- The Class D noteholders held rights to redeem their notes for cash
if we consummated our permanent financing.
- The Class D noteholders held registration rights identical to those
granted to the holders of the Class C Notes issued in the May 7,
2003 exchange transaction.
During the negotiation process, the lenders required that if the contemplated
financing did not occur prior to June 30, 2003 (subsequently extended to July
31, 2003 in the May 28, 2003 modifications, described below and thereafter
extended to November 15, 2003 and again to a day after November 15, 2003 that we
and the investors agree as the date for the second closing of the equity
financing), then the lenders could accelerate the maturity date of their notes.
We created a new class of preferred stock from its authorized preferred stock,
consisting of 24 shares of preferred stock designated as "Class D Convertible
Preferred Stock," each share of which would have been automatically converted
into 125,898 shares of common stock when our stockholders approved the issuance
of these shares of common stock underlying the Class D Convertible Preferred
Stock. This would have resulted in an additional 3,021,552 shares of common
stock being issued and outstanding after the conversion occurs. Under the terms
of the Class D Stock, the holders of the Class D Stock hold the right to vote
that number of shares into which the Class D Stock is convertible, voting as one
class with the holders of common stock and other capital stock convertible into
common stock.
The loan commitments of the lenders in the May 7, 2003 interim financing and the
principal amount of Class D Notes, the number of shares of Class D Convertible
Preferred Stock (and the number of shares of common stock into which the Class D
Stock is convertible) the lenders received, as well as the value of the Class C
Stock issued to the lenders in the interim financing using the closing price of
the common stock of $0.16 on April 22, 2003, and after giving effect to the
issuance of the shares to be issued upon conversion of the Class C Stock and the
Class D Stock, is as follows:
Gibralt US
Loan Commitment: Up to $1,100,000
Principal Amount of Notes Issued: Up to $1,100,000
Shares of Class D Convertible Preferred Stock Issued: 22
Number of Shares of Common Stock Issuable upon
Conversion of Class D Convertible Preferred Stock: 2,769,756
Shares of Common Stock issuable upon conversion
of Class D Convertible Preferred Stock multiplied by
April 22, 2003 closing price per share: $ 221,580
James A. Wylie, Jr.
Loan Commitment: $50,000
Principal Amount of Notes Issued: $50,000
Shares of Class D Convertible Preferred Stock Issued: 1
Number of Shares of Common Stock Issuable upon
Conversion of Class D Convertible Preferred Stock: 125,898
Shares of Common Stock issuable upon conversion
of Class D Convertible Preferred Stock multiplied by
April 22, 2003 closing price per share: $10,072
Peter Norris
Loan Commitment: $50,000
Principal Amount of Notes Issued: $50,000
Shares of Class D Convertible Preferred Stock Issued: 1
Number of Shares of Common Stock Issuable upon
Conversion of Class D Convertible Preferred Stock: 125,898
Shares of Common Stock issuable upon conversion
of Class D Convertible Preferred Stock multiplied by
April 22, 2003 closing price per share: $10,072
64
Gibralt US, Mr. Norris and Mr. Wylie loaned a total of $1,200,000 to us,
representing their entire loan commitments.
DESCRIPTION OF MAY 28, 2003 MODIFICATIONS TO MAY 7, 2003 EXCHANGE TRANSACTION
AND INTERIM FINANCING
As we proceeded to seek our permanent financing during May 2003, we assessed the
availability of investment capital for development stage companies. The
Independent Committee determined that it was essential to extend the maturity
date of the Class C Notes beyond January 1, 2004, to eliminate the right of the
holders of the Class C Notes to redeem those notes for cash upon the completion
of the future permanent financing and to limit in certain respects the
collateral securing our obligations under the Class C and Class D Notes. The
Independent Committee determined that these modifications were necessary because
the terms of the Class C and Class D Notes would likely, unless modified, deter
investors from investing in us. The Independent Committee found that prospective
investors would presumably expect that we would use the proceeds of their
investment as working capital rather than apply the proceeds to the satisfaction
of existing debt. Accordingly, the Independent Committee negotiated further
modifications to the May 7, 2003 exchange transaction, as well as modifications
to the May 2003 interim financing transaction, as described below in this
section.
The Independent Committee determined that the maturity date of the Class C Notes
should be extended to January 1, 2006. In addition, the Independent Committee
determined that the security interest granted to the Class C noteholders should
be limited to certain collateral that was owned at December 31, 2002 and that
the note collateral should not include our after-acquired property, thereby
making that property available as security to our future investors. The
Independent Committee further determined that the Class D Notes should not be
redeemable for cash upon the closing of the future financing transaction.
Instead, the Class D Notes should be converted into the securities issued in the
future financing on the same terms and conditions offered to the other
investors. With these objectives, the Independent Committee commenced
negotiations with the holders of the Class C Notes and the Class D Notes.
The Class C noteholders required that, in exchange for the modifications we
sought, the terms of their notes be revised to increase the interest rate from
8% to 12.5% per annum, and to require that we commence making payments of
interest accrued from December 27, 2002 through May 27, 2003 and principal on a
quarterly basis beginning the first quarter of 2004, but only to the extent of
50% of our excess quarterly cash flow.
The Class C noteholders also agreed to modify the security for the notes, the
change to become effective when we raised at least $6,000,000 in our permanent
financing. The Class C noteholders agreed that their security interest in
accounts receivable would be subordinated to a future security interest granted
by us in a receivables financing transaction and that their security interest in
intellectual property would be limited to that owned as of December 31, 2002.
The Class C noteholders required that we maintain minimum inventory and fixed
asset levels, determined quarterly, of not less than $2,000,000. In addition,
our combined cash, inventory and fixed assets must be at least $3,271,400. A
failure to comply with these covenants is an event of default. The notes have
other events of default for matters such as non-payment of interest or
principal, breach of representations and warranties, failure to satisfy any
agreement or condition under the agreements with the investor which is not cured
within 30 days, a "cross-default" for our other institutional indebtedness and
our voluntary or judicial dissolution or bankruptcy. We and the Class C
noteholders exchanged the Class C Notes for an equal principal amount of Class E
Notes with these modified terms.
The covenant relating to minimum inventory, net book assets and cash levels does
not apply unless and until we raise at least $6,000,000 in gross proceeds in a
future financing. We do not expect an event of default relating to this
requirement to occur if we complete our contemplated permanent financing. To
date, no events of default have occurred. If any event of default occurs and is
not cured within the applicable cure period, then, unless the default is waived
by a majority in interest of the noteholders, at the option and in the
discretion of the holders of at least 66 2/3% of the principal amount of the
Class E Notes, the noteholders may declare the notes and all accrued interest to
be immediately due and payable, and may immediately enforce any and all of the
noteholder's rights and remedies provided in the agreements with the investors
and any other rights or remedies afforded by law.
The Class D noteholders agreed to redeem their Class D Notes in exchange for the
securities issued in the contemplated permanent financing on the same terms and
conditions offered to the other investors and to forego the option of redeeming
their notes for cash after the permanent financing occurred.
65
The noteholders also agreed to extend the date by which we would be required to
raise $6,000,000 in our permanent financing (to avoid triggering the December
2002 securityholders' right to rescind the May 7, 2003 exchange transaction)
from June 30, 2003 to July 31, 2003 (and subsequently, to November 15, 2003 and
again to a day after November 15, 2003 that we and the investors agree as the
date for the second closing of the of the equity financing), and to defer our
obligation to seek stockholder approval of the conversion of the Class C Stock
and Class D Stock into shares of common stock until a future meeting of the
stockholders, at which we would also seek approval of the issuance of common
stock underlying securities that may be issued by it in the permanent financing.
The rescission right is not available unless the meeting has been held and the
issuance has not been approved.
On September 3, 2003, we redeemed all of our outstanding Class E Notes
(principal of $2,000,000 plus accrued interest of approximately $132,000), and
no Class E Notes remain outstanding. We used a portion of the proceeds of the
first closing of the equity financing to pay for the redemption of the Class E
Notes.
AUGUST 2003 EXCHANGES OF PREFERRED SHARES
As a result of the stipulation of settlement that we reached in the Augenbaum
litigation, we entered into exchange agreements with the holders of the
outstanding shares of our Class C Stock and Class D Convertible Preferred Stock.
Upon entering into the exchange agreements, on August 22, 2003 the holders of
the Class C Stock exchanged their Class C Stock for 20 Class E Shares, on a
share-for-share basis. Similarly, upon execution of the exchange agreements, the
holders of the 24 outstanding Class D Stock exchanged their Class D Stock for
Class F Shares, on a share-for-share basis. Following these exchanges, we
eliminated all Class C Stock and all Class D Stock.
Shares of the Class E Stock are preferred in liquidation to the extent that,
before any distribution of assets can be made to the holders of our common
stock, there will be distributed pro rata to the holders of the issued and
outstanding Class E Shares and Class F Shares the amount of $108,469 as to each
outstanding Class E Share and $10,072 per share as to each outstanding Class F
Share. The holders of the common stock then share in the remainder of net
liquidation of proceeds. The term liquidation means our liquidation, dissolution
or winding up, as well as any sale, lease, exchange or other disposition of all
or substantially all of our assets. The aggregate liquidation preference of the
Class E Shares is $2,169,380 and the aggregate liquidation preference of the
Class F Shares is $241,728. The aggregate liquidation preference was determined
to be equal to the dollar value that the board of directors allocated to the
conversion rights, warrants and other rights that we agreed to pay to the
holders of the Class C Stock and the discount that we agreed to pay to the
holders of the Class D Stock in the May 7, 2003, transactions.
The holders of the Class E Shares and Class F Shares have the right to one vote
per share, respectively, for each outstanding Class E Share and each outstanding
Class F Share.
The holders of the Class E Shares are entitled to cash dividends and
distributions when and as declared by the board of directors, pari passu with
the holders of our common stock with the dividend amount on each Class E Share
being 1,355,862 times the dividend or distribution to be paid on each share of
common stock. The holders of the Class F Shares are entitled to cash dividends
and distributions when and as declared by the board of directors, pari passu
with the holders of our common stock with the dividend amount on each Class F
Share being 125,898 times the dividend or distribution to be paid on each share
of common stock.
The exchange agreements also gave both us and the holders of the Class E Shares
and the Class F Shares rights to exchange those preferred shares for shares of
our common stock, as long as our stockholders approve the issuance of the shares
of our common stock underlying the preferred shares and the American Stock
Exchange approves the listing of these shares of common stock. Specifically, the
agreement provided that if the stockholders approve the common stock issuance
and the American Stock Exchange lists these the shares of common stock, then the
holders of the Class E Share have the right to sell to us, and we have the right
to purchase from them, each outstanding Class E Share in exchange for 1,355,862
shares of our common stock per Class E Share. Similarly, the holders of the
Class F Shares have the right to sell to us, and we have the right to purchase
from them, each outstanding Class F Share in exchange for 125,898 shares of our
common stock per Class F Share. The exchange agreements also provided that,
should any sale, lease, exchange or other disposition of all or substantially
all of our assets occur while the Class E Shares and the Class F Shares are
outstanding, each holder of the Class E Shares has the right to sell to us all
Class E Shares in exchange for 1,355,862 shares of common stock per Class E
Share. Similarly, each holder of Class F Share has the right to sell to us all
Class F Shares in exchange for 125,898 shares of common stock per Class F Share.
66
The board of directors determined that the terms of the exchange agreements were
appropriate in order to provide the former holders of the Class C Stock and the
Class D Stock with the economic equivalence of the conversion rights they held
in conjunction with the Class C Stock and Class D Stock. Upon exchange of all
Class E Stock, the former holders of the Class C Stock will receive 27,117,240
shares of our common stock, or the same number of shares of our common stock we
were obligated to issue to them upon conversion of the Class C Stock. In
connection with the final closing of our equity financing, we exchanged the
Class E and Class F Stock as provided by our August 2003 exchange agreement with
the holders of the Class E and Class F Stock. Upon exchange of all shares of the
Class F Stock, the former holders of the Class D Stock will receive 3,021,552
shares of common stock, or the same number of shares of our common stock that we
were obligated to issue to them upon conversion of the Class D Stock. In the
stipulation of settlement for the Augenbaum litigation, the parties agreed on
the exchange of shares of our common stock in these specific amounts for the
Class E Stock and Class F Stock, as well as the exchange of the Class E Stock
for the Class C Stock and the exchange of the Class F Stock for the Class D
Stock. A hearing before the Delaware Chancery Court for approval of the
stipulation of settlement was held on September 15, 2003. After this hearing,
the court entered an order approving the stipulation of settlement as submitted.
The stipulation of settlement became final on October 15, 2003 when the appeal
period terminated with no appeal having been filed.
At the request of the investors in our equity financing, we and Gibralt US, on
behalf of itself and the other holders of the Class E Stock and Class F Stock,
agreed not to exchange the Class E Stock or Class F Stock for common stock until
the second closing of the equity financing. Gibralt US also acknowledged that
the common stock to be issued upon the exchange of the Class E Stock and Class F
Stock will not be eligible to participate in the offering to stockholders we are
making pursuant to this prospectus to the holders of common stock as of August
29, 2003, and that only those shares of common stock held by Gibralt US and the
other holders of Class E Stock and Class F Stock as of August 29, 2003 are
eligible to participate in this offering.
PARTICIPATION BY RELATED PARTIES IN THE EQUITY FINANCING
Investment by the Holders of the Class E Notes at the First Closing. As part of
the negotiation of the equity financing, the investors indicated that, were they
to purchase notes that would be convertible into shares of our common stock, the
notes would be required to be secured by all of our assets, including the patent
rights acquired by us with the proceeds of the first closing and also by those
assets that, prior to the first closing, were encumbered by security interests
in favor of the then-outstanding Class E Notes. As a result, we offered to
Gibralt US and to the other three holders of the Class E Notes the opportunity
to purchase $2,000,000 of the Secured Bridge Notes, which was the outstanding
principal amount of the Class E Notes, and to use part of the proceeds of the
first closing to retire the Class E Notes in full, making the collateral
securing the Class E Notes available to all holders of the Secured Bridge Notes.
The board of directors unanimously, with the abstention of Samuel Belzberg,
approved the terms on which the holders of the Class E Notes would participate
in the equity financing at the first closing. Under those terms, the full
$2,000,000 new investment made by the holders of the Class E Notes would be
allocated to the purchase of Secured Bridge Notes and the holders of the Class E
Notes would, in exchange, terminate the security interest encumbering our assets
and make those assets available as collateral for all holders of the Class E
Notes. The former holders of the Class E Notes received as security for the
repayment of the Secured Bridge Notes held by them, a pro rata interest in the
same collateral securing all of the other Secured Bridge Notes. As is the case
with all Secured Bridge Notes, on November 25, 2003, the Secured Bridge Notes
held by Gibralt US and the other former holders of the Class E Notes converted
into common stock at a purchase price of $0.08 per share.
Conversion of Class D Notes at Second Closing. The terms and conditions under
which we issued our outstanding Class D Notes to Gibralt US, Peter Norris and
James A. Wylie, Jr. in May 2003 included a requirement that the Class D Notes be
converted into equity on the same terms and conditions on which all other
investors participate in an equity financing. Therefore, on November 25, 2003,
the $1,200,000 principal amount plus accrued interest on the Class D Notes
converted into our common stock at a price of $0.10 per share.
SEPTEMBER 2003 EQUITY FINANCING TRANSACTION
On September 2, 2003, we entered into an equity financing transaction in which
119 accredited investors agreed to purchase 254,437,500 shares of common stock
for an aggregate purchase price of $23,200,000. Under the terms of the equity
financing, $22,000,000 of the aggregate purchase price was payable in cash, and
$1,200,000 was payable by conversion of certain of our outstanding debt,
previously issued in connection with our May 2003 bridge financing.
The first closing of the equity financing occurred on September 3, 2003. At that
time, the investors funded $6,500,000 of the equity financing in the form of a
secured bridge loan. The second closing of the equity occurred on November 25,
2003. The notes that we issued in connection with the secured bridge loans at
the first closing converted into common stock at the second
67
closing at a price of $0.08 per share. Also at the second closing, the remaining
$16,700,000 of the equity financing was provided to us by the investors for the
purchase of common stock at a price of $0.10 per share. Of the $16,700,000
provided by the investors at the second closing, $15,500,000 was paid by the
investors in cash and $1,200,000 was paid by conversion of our outstanding Class
D Notes due 2004, which we issued in connection with loans made in our May 2003
interim financing transaction.
Three of the investors in the equity financing are related to us. These are:
Gibralt US, Inc., an affiliate of Samuel Belzberg, a director and significant
stockholder of us, James A. Wylie, Jr., a director and our chief executive
officer and Peter Norris, a former director and a stockholder of us. Gibralt US
loaned $1,500,000 to us at the first closing and accordingly, we issued
$1,500,000 in secured bridge notes to him. Gibralt US also owned $1,100,000 of
Class D Notes that were converted into common stock at the second closing, and
Mr. Wylie and Mr. Norris each own $50,000 of Class D Notes that were converted
into common stock at the second closing.
PLACEMENT AGENT COMPENSATION
In connection with the equity financing, we issued warrants to purchase up to
40,879,063 shares of common stock to our placement agent, Sunrise Securities
Corp., a New York corporation and a registered broker-dealer (the "Placement
Agent"). The warrants issued to the Placement Agent are exercisable for five
years at per share prices of $0.001, $0.08 and $0.10. The Placement Agent also
participated as an investor in the equity financing by reinvesting $495,000 of
its fee in exchange for Secured Bridge Notes which were converted into 6,187,500
shares of common stock.
REGISTRATION RIGHTS AGREEMENT
We have entered into a registration rights agreement providing for us to
register with the SEC the investors' common stock and the shares underlying the
warrants issued to the Placement Agent for resale to the public. We filed that
resale registration statement on December 3, 2003. We are obligated to issue
additional shares ratably to the investors at the rate of 3% of the investors'
Shares per month, subject to a limit of 12%, if the SEC does not declare the
registration statement effective within 70 days after the filing of the
registration statement.
INVESTORS' SELECTION OF DIRECTORS
In connection with the equity financing, we agreed to use our best efforts to
cause the board of directors to be increased to nine directors within 12 days of
the closing of the equity financing, and to cause to be elected to the board
three persons selected by the investors who have opted to become parties to the
stockholders' agreement. One member of the board of directors, Samuel Belzberg,
has indicated that he intends to resign after the investors have exercised their
right to select three directors, and the remaining six members of the board of
directors are expected to elect three persons to fill the vacancies created by
Mr. Belzberg's resignation and the increase in the size of the board. We also
agreed to use our best efforts to cause the board of directors to appoint one
nominee that the investors have so designated as one of the members of the
committees of the board of directors. On November 25, 2003, our stockholders
approved an amendment to the Certificate of Incorporation that will permit the
board of directors to be increased to nine directors.
We and Gibralt US agreed with the investors that the size of the board of
directors will remain at nine and we will use our best efforts to nominate for
election to the board of directors at each annual meeting of stockholders three
persons designated by the investors who have opted to become parties to the
stockholders' agreement. The agreement with regard to the nomination of
directors terminates when the investors who are parties to the stockholders'
agreement cease to beneficially own more than 50% of the investors' shares that
are subject to this agreement.
INVESTORS' CONTROL OF THE COMPANY
In addition to our agreement to use the proceeds of the equity financing in the
manner agreed with the investors and to use our best efforts to appoint three
directors that the investors have selected to become members of the board of
directors after the equity financing is completed, we have made other agreements
with the investors. These agreements relate to actions that we are obligated to
take in the future. We agreed to use our best efforts to follow the direction of
the majority in interest of the investors in whether to pursue a reverse stock
split that we had considered implementing shortly after the completion of the
equity financing. A majority in interest of the investors recommended that we
not pursue the proposed reverse split, and the board of directors determined not
to pursue the reverse split at this time. In addition to our agreement regarding
the use of proceeds and our agreement regarding the director designees of the
investors, both as discussed above, we agreed to
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register the common stock that the investors purchased in the equity financing
(including the shares of common stock underlying the warrants issued to the
Placement Agent) and to list these shares with the American Stock Exchange for
sale. The board of directors believes these agreements were reasonable when it
negotiated the final terms of the equity financing.
The common stock issued to the investors and the placement agent (assuming the
exercise of all of the warrants we issued to the placement agent) represents
approximately 83% of our outstanding capital stock (without giving effect to any
shares which may be issued pursuant to the offering to Stockholders as of August
29, 2003). As a result, the investors are able to control any matters submitted
to our stockholders for approval. Except for the investors' agreements
concerning the selection and election of directors described above, we are not
aware of any agreements among the investors to vote collectively in respect of
matters affecting our operations. However, the investors may have made, or may
in the future may make, formal or informal agreements regarding voting of our
common stock or other actions affecting us.
OFFERING TO STOCKHOLDERS OF RECORD AS OF AUGUST 29, 2003
The terms of the equity financing also contemplate that we would commence an
offering of up to 29,711,749 shares of common stock to the holders of our common
stock as of August 29, 2003. The shares being offered to our stockholders as of
August 29, 2003 in this offering are being registered pursuant to the
registration statement of which this prospectus is a part.
USE OF PROCEEDS
We applied a portion of the proceeds from the first closing of the equity
financing to repay in full all outstanding Class E Notes (approximately
$2,100,000 of principal and interest, including approximately $1,575,000 repaid
to Gibralt US, Inc., an affiliate of Samuel Belzberg, one of our directors) and
to acquire additional intellectual property rights related to our EVLT(R)
product line ($2,000,000). We also paid fees incurred by legal counsel to the
investors (approximately $100,000) and reimbursable expenses incurred by our
placement agent (approximately $14,000). We intend to use the balance of these
proceeds, together with the proceeds from the November 25, 2003 closing of the
equity financing and our operating revenue, for general working capital
purposes, including 10 quarterly payments of $250,000 each to be paid for our
exclusive license to the EVLT(R) patent to support our sales and marketing
initiatives, and to effect our intellectual property strategy.
SEPTEMBER 2003 ACQUISITION OF EXCLUSIVE EVLT(R) TECHNOLOGY
On September 3, 2003, we acquired rights to U.S. Patent No. 6,398,777 and
related foreign patents for endovenous laser treatment of varicose veins. The
EVLT Patent relates to the technology underlying our EVLT(R) product line. This
acquisition resulted from two transactions.
In the first transaction, we purchased the interest in the EVLT Patent owned by
Dr. Robert J. Min, one of the five named inventors of the EVLT Patent. This
transaction was completed under a purchase agreement with Dr. Min entered into
on July 23, 2003. Pursuant to the agreement, on September 3, 2003, we paid
$500,000 in cash and issued options to purchase 1,000,000 shares of common stock
in exchange for Dr. Min's assignment to us of his interest in the EVLT Patent.
The stock options are fully vested, have an exercise price of $0.08 per share
(the price per share paid by the investors in the first closing of the equity
financing), and are exercisable for ten years. We also agreed to pay to Dr. Min
variable payments based on our sales of products using the EVLT Patent over the
remaining 16-year life of the EVLT Patent. Dr. Min previously licensed the EVLT
Patent to us and had served as a consultant to us. Dr. Min's consulting
agreement with us was amended to reflect the changes in the relationship with
him as a result of the acquisition of his EVLT Patent rights. Dr. Min will
continue to act as a consultant to us under the revised consulting agreement.
In the second transaction, we licensed, on an exclusive basis (except for
Spain), the EVLT Patent from Endolaser Associates, LLC, the assignee of interest
in the EVLT Patent from the other four named inventors of the EVLT Patent. This
transaction was completed under a license agreement between us and Endolaser
Associates entered into on July 11, 2003. On September 3, 2003, we paid
Endolaser Associates $1,500,000 for the exclusive license granted by Endolaser
Associates on behalf of the four inventors who had assigned their interest in
the EVLT Patent to Endolaser Associates. We agreed to make additional payments
totaling $2,500,000 in 10 quarterly installments of $250,000 each, commencing
upon the second closing of the equity financing. We have agreed to pay Endolaser
Associates variable royalties based on our sales of products using the EVLT
Patent over the remaining 16-year life of the EVLT Patent.
69
We recorded an intangible technology asset in the amount of $4,702,000 to record
the acquisition of the EVLT Patent. The intangible asset will be amortized over
the remaining 16 year life of the EVLT Patent.
CASH POSITION AND CASH FLOW
We have cash balances of approximately $1,500,000 and $1,900,000 at September
30, 2003 and December 31, 2002, respectively.
Cash used in operations for the nine months ended September 30, 2003 was
approximately $2,300,000. This principally results from the approximate
$3,900,000 loss from operations, offset by changes in working capital and
(non-cash) depreciation expense, and reflects the external marketing initiatives
and the costs of a direct sales force in support of the commercialization of
EVLT(R) .
Cash used in investing activities for the nine months ended September 30, 2003
was approximately $2,300,000. On September 3, 2003, we acquired rights to U.S.
Patent No. 6,398,777 and related foreign patents for endovenous laser treatment
of varicose veins, which patents relate to the technology underlying our EVLT(R)
product line. In connection with this technology acquisition, we paid an
aggregate of $2,000,000 to Dr. Robert Min and Endolaser Associates, LLC, and
$144,000 in other costs. Net cash used by investing activities also includes
$200,000 in property, plant and equipment, principally for demonstration
equipment for customer trial programs and for use by the direct sales force in
the field.
Cash provided by financing activities for the nine months ended September 30,
2003 was approximately $4,500,000. This includes the $1,200,000 proceeds from
the May interim financing and the $6,500,000 proceeds from the first closing of
September 2003 equity financing, offset by $1,290,000 in financing costs, and
the retirement of the December 2002 notes in the aggregate principal amount of
$2,000,000.
Cash used in operations for the year ended December 31, 2002 was approximately
$6,900,000. This is principally attributable to the $7,700,000 loss from
operations, the paydown of trade payables of approximately $800,000 and
repayment of a customer advance of approximately $300,000 subsequent to
completing the private placement offering in connection with the Merger. In
February 2002, we became a public company via a reverse merger and accordingly
incurred incremental legal, audit, investor relations, financial advisory and
other professional fees related to being a public company. Also, in the second
half of 2002, we hired and trained a direct sales force in the U.S. to support
the commercialization of EVLT(R) post FDA clearance in January 2002, and
accordingly incurred costs associated with recruiting, salaries, commissions,
benefits, taxes and travel. In addition, the decreased sales volume in 2002 as
compared to 2001 put a drain on our financial resources, and we had to cover
other fixed overhead and production costs.
For 2000 and 2001, we required cash for operations of $5,800,000, and $869,000,
respectively. The decrease in net cash used in operating activities in 2001
compared to 2000 is primarily attributed to a decrease in accounts receivable
($2,900,000), an increase in accounts payable ($900,000) and an advance received
by a customer as a result of a duplicate payment ($300,000), offset by a
decrease in accrued expenses ($700,000).
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 used in investing activities for the year ended December 31, 2002 was
approximately $482,000. The net cash used in investing activities was
principally related to the purchase of demonstration laser equipment to support
sales efforts by the direct sales force, a customer trial program and a loaner
program ($282,000). In addition, we invested in office equipment, furnishings
and fixtures, and leasehold improvements.
For 2000 and 2001, net cash used in investing activities was $272,000 and
$489,000, respectively. The net cash used in 2000 and 2001 for investing was
directly related to the purchases of computer and manufacturing equipment,
furnishings and fixtures, leasehold improvements for operating activities.
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
$1,100,000, from the May interim financing offset by the financing
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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).
Cash provided by financing activities for the year ended December 31, 2002, was
approximately $8,700,000. Cash provided by financing activities is attributable
to approximately $8,300,000 in net proceeds from the sale of our common stock
sold in the private placement offering in connection with the Diomed Merger, and
approximately $1,900,000 in net proceeds from the issuance of $2,000,000 in
secured Class A Notes and unsecured Class B Notes issued in connection with a
bridge financing in December 2002. Subsequent to closing the Diomed Merger, we
repaid the Promissory Notes issued to two stockholders in October and December
2001 in exchange for bridge loans ($700,000). In addition, we paid down the
Barclays bank line of credit ($658,000) and paid down promissory notes issued to
service providers subsequent to completing our December 2002 bridge financing
($154,000).
For 2000 and 2001, net cash provided by financing activities was $6,200,000 and
$1,800,000, respectively. Cash provided by financing activities in 2000 was
primarily attributed to the $2,700,000 provided under the convertible
subordinated notes issued between March and June, the $2,800,000 in common stock
sold in August and November, and the $936,000 customer loan, all described
below. Cash provided by financing activities in 2001 was primarily attributed to
$2,500,000 in net proceeds from sales of our Series A Preferred Stock between
March and May and $700,000 in bridge financing during the fourth quarter, all
described below, offset by payments of accounts receivable and the Barclays bank
line of credit (approximately $800,000) and repayment of a portion of the
convertible notes in the course of the March 2001 recapitalization ($225,000),
and deferred costs related to the private placement and the Diomed Merger which
were consummated on February 14, 2002 ($387,000).
Future minimum commitments, including capital equipment and operating leases,
promissory notes and convertible debt, as of December 31, 2002 are as follows:
OPERATING
CAPITAL LEASES LEASES DEBT
-------------- ---------- -------------
2003 $ 44,190 $ 533,461 $ 445,208
2004 12,520 510,067 2,936,000
2005 -- 486,673 --
2006 -- 486,673 --
2007 -- 486,673 --
Thereafter -- 3,082,260 --
-------- ---------- -------------
Total future minimum lease payments 56,710 $5,585,807 $ 3,381,208
========== =============
Less--Amount representing interest (12,700)
--------
Present value of future minimum lease
payments 44,010
Less--Current portion of capital lease
obligations 33,993
--------
Capital lease obligations, net of
current portion $ 10,018
========
PROMISSORY NOTES ISSUED TO SERVICE PROVIDERS
In December 2002, we converted fees for legal services, in the amount of
$416,102, into a promissory note. Payment terms include a $100,000 payment due
upon completing the $2,000,000 bridge financing 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%, which accrues over
the life of the promissory note and is payable upon maturity. The promissory
note does not provide for conversion rights into equity. As of December 31, 2002
and September 30, 2003, the principal balance outstanding under this promissory
note was $316,102, and accrued interest was $1,611 and $15,796, respectively. On
November 26, 2003, we repaid this note, including accrued interest, in full.
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In December 2002, we converted fees due a professional service provider for
external marketing initiatives, in the amount of $183,016, into a promissory
note. Payment terms include a $50,000 payment due upon completing the $2,000,000
bridge financing on December 27, 2002, a 20% surcharge of monthly services until
the promissory note is paid, and the balance due upon completion of a
longer-term financing in fiscal 2003. The promissory note does not bear any
interest and does not provide for conversion rights into equity. As of December
31, 2002 and September 30, 2003, the principal balance outstanding under this
promissory note was $129,106 and $117,442, respectively. After the final closing
of the equity financing on November 25, 2003, we repaid this note in full.
PROMISSORY NOTE ISSUED TO CUSTOMER
In October 2000, Axcan Pharma advanced us $936,000 to secure certain key
materials. In September 2001, we issued a promissory note to this customer in
the amount of the advance. The promissory note bears interest, at an annual rate
of 8.5%, which is payable quarterly in arrears. The promissory note matured on
January 1, 2004 and does not provide for conversion rights into equity. As of
September 30, 2003 and December 31, 2002, the principal balance outstanding
under this promissory note was $936,000 and accrued interest was $20,053 on each
such date. On January 2, 2004, we repaid this note in full.
CAPITAL EQUIPMENT LEASES
The leased assets included in property and equipment primarily include
manufacturing equipment. We did not enter into any new capital equipment leases
in the years ended December 31, 2001 and 2002. Depreciation expense for leased
equipment in the years ended December 31, 2000, 2001 and 2002, was $67,160,
$54,199, and $56,226, respectively.
CAPITAL TRANSACTIONS IN 2001
In March 2001, we completed a recapitalization and financing transaction in
connection with which we did the following:
- issued and sold 2,000,000 shares of our Series A Preferred Stock at
a purchase price of $1.00 per share;
- committed to issue and sell an additional 500,000 shares of our
Series A Preferred Stock to certain investors at a purchase price of
$1.00 per share by April 30, 2001;
- issued a put/call option under which certain investors could elect
to purchase, and we could elect to require such investors to
purchase, up to an additional 1,000,000 shares of our Series A
Preferred Stock at a purchase price of
- $1.00 per share, which we exercised to the extent of 225,000 shares
in May 2001; the balance of the put/call option expired on May 31,
2001 (as to the put option) and October 31, 2001 (as to the call
option);
- converted $2,475,000 of the 9% convertible subordinated notes into
2,475,000 shares of common stock at $1.00 per share (and repaid the
remaining $225,000 of notes in cash to certain noteholders);
- exchanged 571,429 shares of common stock issued in August 2000 at a
purchase price of $3.50 per share into 2,000,001 shares of common
stock (for an effective purchase price of $1.00 per share) and
cancelled 1,142,858 warrants issued in August 2000; and
- exchanged 202,512 shares of common stock issued in October 2000 at a
purchase price of $3.50 per share for 708,792 shares of common stock
(for an effective purchase price of $1.00 per share) and cancelled
202,512 warrants issued in October 2000.
The investors who acquired approximately 81 percent of the shares of Series A
Preferred Stock were either our existing stockholders or affiliates of existing
stockholders. All of the investors who acquired shares of our common stock in
the transaction were existing security holders.
In March 2001, we recorded a noncash interest expense totaling approximately
$2,700,000 due to the adjustment of the original conversion price of the 9%
convertible subordinated notes from $3.50 per share to $1.00 per share.
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Effective March 15, 2001, we increased our authorized capital stock to
43,500,000 shares, consisting of 40,000,000 shares of common stock, $0.001 par
value per share and 3,500,000 shares of preferred stock, $0.01 par value per
share, all of which are designated as Series A Preferred Stock.
Between March and May 2001, we sold 2,725,000 shares of Series A Preferred Stock
for $1.00 per share, which resulted in gross proceeds of $2,725,000 and net
proceeds of $2,533,000.
In September 2001, we issued a promissory note to Axcan Pharma, Inc., a
customer, in the principal amount of $936,000. The note matures on January 1,
2004 and bears interest at a rate of 8.5% per year. Interest is paid quarterly
in arrears and the cumulative interest paid through December 31, 2002 is
$80,868. The note does not provide for conversion rights.
In October and December 2001, we issued secured convertible promissory notes in
the aggregate principal amounts of $500,000 and $200,000, respectively, to two
of our stockholders in exchange for their providing bridge financing to us. We
also issued 50,000 and 20,000 warrants to purchase shares of our common stock,
respectively, to these stockholders, with a maximum exercise price of $2.00 per
share. These notes were repaid in full after the Merger. As of January 1, 2004,
all of these warrants (plus an additional 10,000 warrants issued in January 2002
in a related transaction, as described below) had expired, without having been
exercised.
CAPITAL TRANSACTIONS IN 2002
On January 1, 2002, in accordance with the terms of the bridge financing
provided to us in October 2001, we issued warrants to purchase an additional
10,000 (in the aggregate) shares of common stock to the two stockholders who
provided that bridge financing. The reason for this was that the underlying
agreement required us to issue an additional 10,000 warrants to the stockholders
in that bridge financing for each month after December 31, 2001 where we did not
consummate a reverse-merger. Because the Merger satisfied that requirement, no
additional warrants are issuable in respect of that financing. As of January 1,
2004, all of these 10,000 warrants had expired, without having been exercised.
In January and August 2002, we issued a total of 831,794 shares of Class A Stock
to QLT, Inc. upon the conversion of promissory notes held by QLT (issued in
connection with our purchase in October 2000 of QLT's manufacturing rights
related to OPTIGUIDE(R) fibers) in the aggregate principal and interest amount
of $1,247,691, which QLT converted into common stock at a conversion price of
$1.50 per share.
On February 14, 2002, in connection with the Merger, we conducted a private
placement offering of common stock. In the private placement, investors
subscribed to purchase from Diomed, Inc. an aggregate of 5,000,000 shares of its
common stock at a price per share of $2.00, which resulted in gross proceeds of
$10,000,000 and net proceeds of $8,100,000. As a result of the Merger, the
shares of Diomed, Inc. common stock issued in the private placement were
exchanged for an equal number of shares of Diomed Holdings, Inc.'s common stock.
Subsequent to completion of the Merger, we paid back the $700,000 in convertible
promissory notes issued to two of our stockholders in October and December 2001,
including cumulative interest.
On December 27, 2002, we issued Class A secured notes and Class B unsecured
notes in the aggregate principal amount of $2,000,000 to Gibralt US, Inc. (an
affiliate of a director, Samuel Belzberg) in exchange for providing bridge
financing to us. In connection with the bridge financing, we issued Gibralt US,
Inc. 8,333,333 warrants to purchase shares of our common stock at an exercise
price of $0.26 per share. The Class A and Class B notes were convertible into
common stock. The warrants were cancelled in May 2003. Certain terms of the
Notes were also modified in May 2003, and the notes were satisfied in full in
September 2003.
AS TO NATEXCO CORPORATION:
On January 23, 2002, Natexco purchased 400,000 shares of common stock owned by
Anthony Mulhall, a former director of Natexco.
On February 5, 2002 Natexco redeemed all of the shares of preferred stock owned
by R.H. Consulting Group, Inc. and Desert Bloom Investments, Inc., which
represented all of Natexco's then outstanding preferred stock. All of such
shares of preferred stock were then canceled.
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CAPITAL TRANSACTIONS IN 2003
On May 7, 2003, we issued Class C Preferred Stock to the holders of the notes
and warrants we had issued in December 2003 in exchange for certain
modifications we made to those notes and warrants. These shares of Class C Stock
were convertible into 27,117,240 shares of common stock upon satisfaction of
certain conditions. The modifications to the notes included eliminating the
convertibility feature of the notes and eliminating the noteholders' right to
approve a future financing transaction. We issued Class C notes in exchange for
the December 2002 notes to reflect these modified terms. The modification to the
warrants was the redelivery of the warrants to us for cancellation.
On May 7, 2003, we also issued $1,200,000 in Class D notes to Gibralt US (an
affiliate of a director, Samuel Belzberg, to which we issued $1,100,000
principal amount notes) and to two directors (James A. Wylie, Jr. and Peter
Norris, to each of whom we issued $50,000 principal amount of notes). We issued
these notes in exchange for loan commitments made by these noteholders. We also
issued to these noteholders Class D Preferred Stock as a prepaid discount to
recognize that the loan commitments were expected to be converted into equity in
a future equity financing transaction that we then contemplated, and to reflect
the risk that the equity financing transaction might not occur. These shares of
Class D Stock were convertible into a total of 3,021,552 shares of common stock
upon satisfaction of certain conditions. The notes were convertible into the
securities to be issued in the contemplated equity financing on the same terms
as applied to the other investors in the equity financing.
On August 22, 2003, we exchanged the Class C Stock for an equal number of shares
of Class E Preferred Stock,, and we exchanged the Class D Stock for an equal
number of shares of Class F Preferred Stock. We exchanged these shares of
preferred stock in accordance with the stipulation of settlement we entered into
to settle the Augenbaum class action lawsuit that was filed in late July 2003.
That lawsuit claimed, among other things, that the Class C Stock and Class D
Stock was not permitted to be, by its terms, convertible into common stock.
Accordingly, although we denied the allegations in the lawsuit, to reach a
settlement amicably, we created the Class E and Class F Stock and performed the
preferred stock exchange. The Class E and F Stock is not by its terms
convertible into common stock. However, by a separate agreement between us and
the holders of the Class E and F Stock, upon the satisfaction of certain
conditions, we will issue 27,117,240 shares of common stock in exchange for the
Class E Stock and we will issue 3,021,552 shares of common stock in exchange for
the Class F Stock.
On September 2, 2003, we entered into definitive agreements for the equity
financing that we had been pursuing since the second quarter of 2003. Pursuant
to these agreements, on September 3, 2003, the investors in the equity financing
funded to us $6,500,000 in the form of secured bridge loans, and we issued
secured bridge notes to these investors. The $1,200,000 principal amount of
Class D notes we issued in May 2003 converted into common stock at the final
closing. We applied part of the proceeds of the secured bridge loans to repay
all of the notes that we originally issued in connection with our $2,000,000
December 2002 bridge financing. The secured bridge notes converted into common
stock at $0.08 per share at the final closing, the investors purchased
$15,500,000 of common stock for $0.10 per shares and the $1,200,000 in Class D
notes and accrued interest on these notes were purchased for common stock for
$0.10 per share.
On September 3, 2003, in connection with the equity financing, we issued
securities to pay the fees of the placement agent that we engaged in April 2003
to assist us in obtaining the financing that we needed. In lieu of paying this
fee in cash, we issued to the placement agent $495,000 in secured bridge notes
plus warrants to purchase up to 40,879,063 shares of common stock. Of these
warrants, 17,541,563 warrants have an exercise price of $0.001 per share,
6,187,500 warrants have an exercise price of $0.08 per share and 17,150,000
warrants have an exercise price of $0.10 per share. These warrants are
exercisable for five years.
On November 25, 2003, we had the final closing of our equity financing, pursuant
to which we issued a total of 256,552,012 shares of common stock to the
investors in the equity financing.
On November 25, 2003, in connection with the final closing of the equity
financing, we exchanged all outstanding Class E Stock for a total of 27,117,240
shares of common stock and we exchanged all outstanding Class F Stock for a
total of 3,021,552 shares of common stock, as provided by the August 2003
exchange agreement.
On November 25, 2003, we issued 500,000 shares of common stock to Verus Support
Services, Inc. in connection with an agreement we made on September 30, 2003 to
issue these shares in lieu of accrued cash payments due under our December 2001
agreement with Verus that we ceased paying in August 2002.
On December 18, 2003, in connection with the equity financing, we issued an
additional 347,567 shares of common stock to those investors who paid cash for
their shares at the final closing of the equity financing. We issued these
shares because under the terms of the escrow agreement under which these
investors deposited all funds for their investment, these investors were
entitled to either receive the interest that was earned on their funds while
held in escrow or to receive shares in lieu of this interest, with the interest
earned being paid to us, as determined by the placement agent. The placement
agent elected to have the interest paid to us and for us to issue additional
shares to the investors. We received approximately $35,000 in interest from the
escrow agent on December 18, 2003, and we then issued the additional shares to
the investors (at a price of $0.10 per share).
BANK LINE OF CREDIT
As of September 30, 2003, Diomed Ltd., our UK subsidiary, had access to a line
of credit with Barclays Bank, which was limited to the lesser of (pound)350,000
(approximately $582,000 at September 30, 2003) or 80% of eligible accounts
receivable. This line bears interest at 3% above Barclays Bank's base rate (4%
at September 30, 2003), and borrowings are due upon collection of receivables
from customers. To secure this line of credit, Barclays Bank has a security
interest in all assets of Diomed Ltd. (excluding inventory on certain
intellectual property).
As of December 31, 2001, borrowings of approximately (pound)601,000
(approximately $874,000) were outstanding. As of December 31, 2002, borrowings
of approximately (pound)134,000 (approximately $216,000) were outstanding under
74
this line. As of September 30, 2003, borrowing of approximately (pound)187,000
(approximately $311,000) were outstanding under this line. The lower balance
under the line of credit for the year ended December 31, 2002 is largely due to
a decrease in accounts receivable and a change in our customer order policy for
financed orders, which we instituted in the third quarter of 2001. Under this
new policy, customer orders are generally be supported by a letter of credit,
advance payment or payment upon installation, which reduces our reliance on our
line of credit.
CRITICAL ACCOUNTING POLICIES
Our discussion and analysis of our financial condition, results of operations,
and cash flows are based on our consolidated financial statements, which have
been prepared in accordance with accounting principles generally accepted in the
US. 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:
- revenue recognition;
- allowance for doubtful accounts;
- warranty obligation;
- allowances for excess and obsolete inventory; and
- valuation of long-lived and intangible assets.
Revenue Recognition. We derive our revenue from primarily two sources:
(i) revenues from products including lasers, instrumentation, and
disposables, and (ii) revenues from service. We recognize revenue on products
and services when persuasive evidence of an arrangement is in place, the price
is fixed or determinable, collectability is reasonably assured and title and
risk of 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. We
currently provide 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. We sell our products to private
physicians, hospitals, health clinics, distributors and OEM customers. We
generally require signed sales agreements, non-refundable advance payments and
purchase orders, and in certain circumstances, depending upon the type of
customer, 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. We include 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, we believe our allowance
for doubtful accounts as of September 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.
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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.
RECENT ACCOUNTING PRONOUNCEMENTS
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements SFAS
Nos. 4, 44 and 64, Amendment of FASB Statement No. 13 and Technical
Corrections". SFAS No. 145 rescinds Statement No. 4, "Reporting Gains and Losses
from Extinguishments of Debt," and an amendment of that Statement, FASB
Statement No. 64, "Extinguishments of Debt Made to Satisfy Sinking-Fund
Requirements." SFAS No. 145 also rescinds FASB Statement No. 44, "Accounting for
Intangible Assets of Motor Carriers." SFAS No. 145 amends FASB Statement No. 13,
"Accounting for Leases," to eliminate an inconsistency between the required
accounting for sale-leaseback transactions and the required accounting for
certain lease modifications that have economic effects that are similar to
sale-leaseback transactions. SFAS No. 145 also amends other existing
authoritative pronouncements to make various technical corrections, clarify
meanings, or describe their applicability under changed conditions. The
provision of SFAS No.145 related to the rescission of Statement No. 4 shall be
applied in fiscal years beginning after May 15, 2002. The provisions of SFAS No.
145 related to Statement No. 13 should be for transactions occurring after May
15, 2002. Early application of the provisions of this Statement is encouraged.
The adoption of SFAS No. 145 did not have a significant impact on our
consolidated results of operations, financial position or cash flows.
In June 2002, the FASB issued SFAS No. 146 "Accounting for Costs Associated with
Exit or Disposal Activities." This statement superseded EITF No. 94-3,
"Liability Recognition for Certain Employee Termination Benefits and Other Costs
to Exit an Activity." Under this statement, a liability or a cost associated
with a disposal or exit activity is recognized at fair value when the liability
is incurred rather than at the date of an entity's commitment to an exit plan as
required under EITF 94-3. The provisions of this statement are effective for
exit or disposal activities that are initiated after December 31, 2002, with
early adoption permitted. The adoption of SFAS No. 146 did not have a
significant impact on our consolidated financial position and results of
operations.
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. We have adopted FAS 148 for the year ended December 31, 2002
and continue to account for stock-based compensation utilizing the intrinsic
value method.
EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES
Our principal executive officer and our 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 September 30, 2003 and have concluded that, as of such date, our
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.
CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING
During the three-month period ended September 30, 2003, 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.
76
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
Prior to the February 14, 2003 Merger, Spicer, Jeffries & Co. acted as
independent public accountants to Natexco Corporation, and Arthur Andersen LLP
acted as independent public accountants to Diomed. After the Merger, Spicer,
Jeffries & Co. was not engaged by us to prepare our audited financial statements
for 2001, since our business is conducted at the Diomed level. Spicer, Jeffries
& Co. was dismissed on March 29, 2002, by action of our board of directors. In
order to maintain consistency, Arthur Andersen was designated by our board of
directors, effective as of March 27, 2002, to audit our financial statements for
the fiscal year ended 2001. The reports of Spicer, Jeffries & Co. on Natexco's
financial statements for 2000 did not contain any adverse opinion or disclaimer
of opinion, but were prepared on the assumption that Natexco would continue as a
going concern. To the best of our knowledge, there were no disagreements between
prior management and Spicer, Jeffries & Co. on any matter of accounting
principles or practices, financial statement disclosure or auditing scope or
procedures.
In October 2002, we engaged Spicer, Jeffries & Co. for the limited purpose of
auditing the financial statements for the fiscal year ended December 31, 2001,
prior to the merger pursuant to which we became the successor registrant to
Natexco Corp. After Spicer, Jeffries & Co. completed its audit, we have not
engaged Spicer, Jeffries & Co. for any other purpose.
Acting through our Audit Committee, our board of directors determined to change
our independent accountants. Accordingly, we dismissed Arthur Andersen and
appointed BDO Seidman, LLP to serve as our independent public accountants for
the fiscal year ending December 31, 2002. Having completed its standard client
acceptance procedures with respect to its engagement by us, BDO Seidman accepted
its appointment.
During the fiscal years ended December 31, 2000 and 2001, and through the date
we appointed BDO Seidman, we did not consult BDO Seidman with respect to the
application of accounting principles to a specified transaction, either
contemplated or proposed, or the type of audit opinion that might be rendered on
our financial statements or any other matters of reportable events as set forth
in Item 304(a)(2) of Regulation S-B.
The report of Arthur Andersen on our financial statements for the fiscal year
ended December 31, 2001 did not contain any adverse opinion or disclaimer of
opinion, nor were they qualified or modified as to uncertainty, audit scope or
accounting principles. There were no disagreements between us and Arthur
Andersen on any matter of accounting principle or practice, financial statement
disclosure or auditing scope or procedure for the fiscal year ended December 31,
2001 which, if not resolved to Arthur Andersen's satisfaction, would have caused
them to make reference to the subject matter in connection with their report on
our financial statements for 2001, and there were no reportable events as
defined in Item 304(a)(1)(iv) of Regulation S-B for 2001 or during the
subsequent interim period through the date of Andersen's dismissal.
In June 2002, Arthur Andersen was found guilty of certain federal obstruction of
justice charges arising from the government's investigation of Enron Corp.,
Arthur Andersen subsequently ceased its audit operations and dissolved. The
outcome of this prosecution could adversely affect us in that the ruling against
Arthur Andersen could impair Arthur Andersen's ability to satisfy any claims
arising from the provision of auditing services to us.
In connection with the filing of the registration statement of which this
prospectus is a part, we have filed our financial statements for the year ended
December 31, 2001, in the manner provided for under current SEC guidelines.
See the risk factors relating to our business in the section of this prospectus
captioned "Risk Factors."
DESCRIPTION OF PROPERTY
We own no real property. We occupy 20,500 square feet of office, manufacturing,
and research and development space in Cambridge, UK under a 25 year lease
expiring in April 2024. We, however, have the option to terminate the lease
agreement at the end of 15 years. If we choose not to exercise our termination
option, the lease agreement will continue for the remaining 10 years. We have
sublet a portion of this space. We also occupy approximately 3,700 square feet
of office and distribution space in Andover, Massachusetts under a lease
expiring in June 2004. We believe that these facilities are in good condition
and are suitable and adequate for our current operations.
77
CERTAIN MARKET INFORMATION
Our common stock is traded on the American Stock Exchange under the symbol
"DIO". On December 2, 2003, our common stock closed at a price of $0.32 per
share. On January 7, 2004, our common stock closed at a price of $0.29 per
share.
MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Since February 22, 2002, our common stock has been listed on the American Stock
Exchange under the symbol "DIO". Between November 2001 and February 22, 2002,
our stock was quoted on the OTC Electronic Bulletin Board. Prior to being quoted
on the OTC Bulletin Board, there was no market for our common stock. The
following table sets forth for the periods indicated the high and low bid price
information for the common stock as reported on the American Stock Exchange and
the Over-the-Counter Bulletin Board. The quotations reflect inter-dealer prices,
without retail mark-up, mark-down or commission, and may not represent actual
transactions.
PERIOD HIGH LOW
------ ---- ---
2001
November 1 to December 31 ...................... $1.00 $0.77
2002
January 1 to February 21 ....................... $9.00 $0.70
February 22 to March 31 ........................ $8.85 $3.86
Second Quarter ................................. $5.35 $1.04
Third Quarter .................................. $2.00 $0.34
Fourth Quarter ................................. $0.65 $0.22
2003
First Quarter .................................. $0.38 $0.10
Second Quarter ................................. $0.54 $0.16
Third Quarter .................................. $0.53 $0.32
Fourth Quarter (through December 31, 2003)...... $0.44 $0.26
On November 25, 2003, the date of the final closing of our equity financing, the
closing price on the American Stock Exchange for our common stock was $0.32, and
on January 7, 2004, the closing price was $0.29. As of October 27, 2003, the
record date for our 2003 annual meeting, there were approximately 317 holders of
record of our common stock (a substantial number of which are nominees for other
persons). As of December 31, 2003, there were approximately 450 holders of
record of our common stock (a substantial number of which are nominees for other
persons).
It is our present policy not to pay cash dividends and to retain future earnings
to support our growth. We do not anticipate paying any cash dividends in the
foreseeable future.
78
THE OFFERING
Before submitting any order to purchase shares, you should read carefully the
information set forth under "Risk Factors."
THE EQUITY FINANCING
On September 2, 2003, we announced that we had entered into agreements providing
for an equity financing. The equity financing was essential to the continuation
of our operations. The equity financing occurred at two closings, the first on
September 3, 2003 and the second on November 25, 2003. In the equity financing,
we received a total of $22,000,000 in cash (of which we received $6,500,000 at
the first closing and $15,500,000 at the second closing), and $1,200,000 of our
outstanding debt (plus accrued interest) was converted into common stock. The
equity financing did, however, require that we issue 327,569,867 shares of
common stock (assuming the issuance all 40,879,063 shares of common stock
issuable upon exercise of warrants we delivered to our placement agent in the
equity financing). The issuance of these shares will dilute our existing
stockholders by reducing the aggregate ownership of our pre-equity financing
stockholders from 100% to approximately 17%. Of that 17%, approximately 9% was
held by owners of preferred stock pre-equity financing and approximately 8% was
held by owners of common stock pre-equity financing.
In the equity financing, we agreed to sell shares of our common stock to
investors at $0.08 per share for investments made at the first closing and $0.10
per share for investments made at the second closing. These prices are a 77% and
71% discount to the $0.35 closing trading price of our shares on the American
Stock Exchange on August 29, 2003, and a 78% and 72% discount to the $0.36
average trading price for the 20 consecutive trading days ending on August 29,
2003. In proposing the terms of the equity financing to the new investors, our
board of directors recognized the extent of the discount and sought to provide
to existing stockholders the opportunity to purchase new shares at the price of
$0.10 per share of common stock held. The board therefore decided that we would
make shares available to stockholders at $0.10 per share on a basis of one new
share for each outstanding share, or an aggregate of 29,711,749 shares. The
board of directors determined that the availability of shares at the price of
$0.10 per share could both offset the dilutive effect of the equity financing
and at the same time permit those stockholders who had previously purchased
shares to lower the average per share cost of their investment in our common
stock.
TERMS OF THE OFFERING
If the conditions to the offering are met, we plan to offer to those
stockholders who owned shares of our common stock as of August 29, 2003, an
aggregate of up to 29,711,749 shares of our common stock. We plan to commence
the offering following the completion of the equity financing. The price of the
shares in the offering is $0.10 per share. The offering will remain open, and
offeree stockholders may submit their orders, for a period of 45 days until
[_________ ____, 2004]. We may, at our discretion, extend the offering for up to
an additional 60 days after the initial 45 day offering period. After the
expiration of the offering date, the offering will terminate and we will not
accept any orders submitted by offeree stockholders. We will extend the offering
period if we believe that any such extension would better allow for increased
stockholder participation or if we believe that any such extension is in our
best interests.
ALLOTTED SHARES
If the conditions to the offering are met, we plan to offer each offeree
stockholder that number of shares that was held by that offeree stockholder as
of August 29, 2003. The number of shares that each offeree stockholder is
entitled to purchase is referred to as the "allotted shares." The purchase price
of $0.10 per share for the allotted shares must be paid in cash. We will
distribute certificates representing the allotted shares that you purchase as
within three business days after the expiration of the offering, irrespective of
whether you have submitted your order to purchase stock immediately prior to
that date or earlier.
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OVER-ALLOTTED SHARES
Subject to the allocation described below, if the conditions to the offering are
met, as part of the offering, we plan to offer each offeree stockholder who does
purchase all of their allotted shares, additional shares of common stock on a
prorated basis with all other offeree stockholders who have submitted an order
to purchase additional shares. The additional shares we are offering are
referred to as "over-allotted shares." If you wish to submit an order to
purchase over-allotted shares, you should indicate the number of additional
shares that you would like to purchase in the space provided on your stock order
from. WHEN YOU SEND IN YOUR STOCK ORDER FORM, YOU ALSO MUST SEND THE FULL CASH
PURCHASE PRICE FOR THE NUMBER OF OVER-ALLOTTED SHARES THAT YOU HAVE REQUESTED TO
PURCHASE IN ADDITION TO THE PAYMENT DUE FOR YOUR ALLOTTED SHARES.
If the number of shares remaining after the purchase of all allotted shares is
not sufficient to satisfy all offers to purchase over-allotted shares, we will
allocate the available over-allotted shares among stockholders that offered to
purchase them in proportion to the number of allotted shares purchased by those
stockholders and will refund any amounts due, WITHOUT interest. However, if your
pro rata allocation of over-allotted shares exceeds the number of shares that
you requested, you will purchase only the number of shares that you requested,
and the remaining shares from your pro rata allocation will be divided among
other stockholders submitting orders to purchase over-allotted shares that have
submitted orders to purchase over-allotted shares in proportion to the number of
allotted shares purchased by those stockholders. In certain circumstances,
however, in order to comply with applicable state and foreign securities laws,
we are not offering over-allotted shares even if we have shares available.
The following examples illustrate how shares will be allocated among
stockholders who submit orders to purchase over-allotted shares, depending on
whether or not there is a sufficient number of over-allotted shares remaining to
satisfy all orders to purchase over-allotted shares. For both examples, assume
that offeree stockholders A, B, and C are the only stockholders that submitted
orders to purchase over-allotted shares, as follows:
ASSUMPTIONS FOR ALL EXAMPLES
NUMBER OF SHARES HELD ALLOTTED SHARES OVER-ALLOTTED SHARES
PRIOR TO THE OFFERING PURCHASED SUBJECT TO PURCHASE ORDERS
--------------------- --------- --------------------------
Stockholder A: 1,000 1,000 2,000,000
Stockholder B: 10,000 10,000 2,500,000
Stockholder C: 100,000 100,000 350,000
------- ------- ---------
Total: 111,000 111,000 4,850,000
EXAMPLE 1: NUMBER OF ALLOTTED SHARES NOT PURCHASED EXCEEDS NUMBER OF
OVER-ALLOTTED SHARES SUBJECT TO PURCHASE ORDERS
Assume that stockholders purchase a total of 11,000,000 allotted shares, so that
a total of 18,711,749 over-allotted shares remains available for purchase.
Because that number exceeds 4,850,000, or the total number of over-allotted
shares that the offeree stockholders have submitted orders to purchase, each of
offeree stockholders A, B, and C will receive the full number of shares they
submitted orders for, as follows:
NUMBER OF SHARES HELD ALLOTTED SHARES OVER-ALLOTTED SHARES TOTAL NUMBER OF SHARES
PRIOR TO THE OFFERING PURCHASED SUBJECT TO PURCHASE ORDERS HELD AFTER THE OFFERING
--------------------- --------- -------------------------- -----------------------
Stockholder A: 1,000 1,000 2,000,000 2,002,000
Stockholder B: 10,000 10,000 2,500,000 2,520,000
Stockholder C: 100,000 100,000 350,000 550,000
------- ------- --------- ---------
Total: 111,000 111,000 4,850,000 5,072,000
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EXAMPLE 2: NUMBER OF ALLOTTED SHARES NOT PURCHASED IS LESS THAN NUMBER OF
OVER-ALLOTTED SHARES SUBJECT TO PURCHASE ORDERS
Assume that stockholders purchase a total of 26,711,749 allotted shares, so that
a total of only 3,000,000 over-allotted shares remains available for purchase.
Because 4,850,000, or the number of over-allotted shares that are the subject of
purchase orders exceeds the number of over-allotted shares that are available,
the 3,000,000 available over-allotted shares will be allocated among offeree
stockholders A, B and C as follows:
OVER-ALLOTTED SHARES AVAILABLE
------------------------------
Stockholder A: 3,000,000 x 1,000/111,000 = 27,027
Stockholder B: 3,000,000 x 10,000/111,000 = 270,270
Stockholder C: 350,000
-------
Total: 647,297
First, offeree stockholders A and B's allocations are determined by prorating
the 3,000,000 over-allotted shares available on the basis of allotted shares
that they each purchased. Because offeree stockholder C submitted an order to
purchase only 350,000 over-allotted shares, only 350,000 over-allotted shares
will be allocated to him, even though the calculation would have permitted him
to take up to 2,702,703 over-allotted shares (3,000,000 x 100,000/111,000). The
remaining 2,352,703 over-allotted shares (3,000,000 - 647,297 = 2,352,703) will
be allocated between offeree stockholders A and B as follows:
Total allotted shares purchased:
Offeree Stockholder A: 1,000
Offeree Stockholder B: 10,000
TOTAL OVER-ALLOTTED SHARES
AVAILABLE AFTER INITIAL
ALLOCATION TO PURCHASING FURTHER ALLOCATION OF
STOCKHOLDERS PRO RATA ALLOCATION OVER-ALLOTTED SHARES
------------ ------------------- --------------------
Stockholder A: 2,352,703 X 1,000/11,000 = 213,882
Stockholder B: 2,352,703 X 10,000/11,00 = 2,138,821
-------------
Total 2,352,703
The total allocation of the over-allotted shares will be as follows:
Offeree Stockholder A: 27,027 + 213,882 = 240,909
Offeree Stockholder B: 270,270 + 2,138,821 = 2,409,091
Offeree Stockholder C: 350,000 + 0 = 350,000
---------
Total: 3,000,000
Following this allocation, offeree stockholders A, B and C will own shares as
follows:
TOTAL NUMBER OF
NUMBER OF SHARES HELD OVER-ALLOTTED SHARES HELD AFTER
PRIOR TO THE OFFERING ALLOTTED SHARES SHARES THE OFFERING
--------------------- --------------- ------ ------------
Offeree Stockholder A: 1,000 1,000 240,909 242,909
Offeree Stockholder B: 10,000 10,000 2,409,091 2,429,091
Offeree Stockholder C: 100,000 100,000 350,000 550,000
------- ------- ------- -------
Total: 111,000 111,000 3,000,000 3,222,000
SHARES NOT PURCHASED
Any shares that are not purchased in the offering will be withdrawn from the
offering.
NO RECOMMENDATION
WE AND OUR BOARD OF DIRECTORS ARE NOT MAKING ANY RECOMMENDATIONS AS TO WHETHER
OR NOT YOU SHOULD PURCHASE ALLOTTED SHARES OR OVER-ALLOTTED SHARES. YOU SHOULD
MAKE YOUR DECISION BASED ON YOUR OWN ASSESSMENT OF YOUR BEST INTERESTS.
EXPIRATION DATE
The offering will expire at 5:00 p.m., Eastern Standard Time, on [______________
____], 2004, unless we decide to extend the offering for up to 60 days after the
initial 45 day offering period. We will extend the period of the offering if we
believe that any such extension would better allow for increased stockholder
participation or if we believe that any such extension is in the best interests
of our company. If you do not submit your order to purchase stock prior to that
time, any orders you may thereafter submit will be null and void. We will not be
required to issue shares of common stock to you if we receive your order or your
payment after that time, regardless of when you sent the stock order form and
payment, unless you send the documents in compliance with the guaranteed
delivery procedures described below.
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COMPANY'S RIGHT TO TERMINATE THE OFFERING
Our board of directors may terminate the offering in its sole discretion at any
time prior to or on ________________, 2004 (or a later date to which we have
extended the offering period), for any reason, including without limitation, a
change in the market price of our common stock or force majeure events. If we
decide to terminate the offering, we will provide written notice to the offeree
stockholders. Any stock orders submitted to the subscription agent (either prior
to or after our termination of the offering) will be null and void, and we will
refund, WITHOUT INTEREST, the purchase price offeree stockholders paid in
connection with the offering.
EXCLUSIVITY OF OFFERS
We are making this offer only to you as a holder of record of shares of our
common stock as of August 29, 2003. No one other than you may submit an order to
purchase the shares that are subject to the offering that we are making to you.
PURCHASE OF SHARES IN OFFERING
You may purchase shares by delivering to the subscription agent on or prior to
[__________ ____,] 2004:
- a properly completed and duly executed stock order form;
- any required signature guarantees; and
- payment in full of $0.10 per share in cash for the allotted shares
that you have ordered and, if desired, for the over-allotted shares
that you have offered to purchase.
You should deliver your stock order form and payment in cash to the subscription
agent at the address shown under the heading "Subscription Agent." We will not
pay you interest on funds delivered to the subscription agent to purchase
shares.
METHOD OF PAYMENT
You must make payment for the shares by check or bank draft (cashier's check)
drawn upon a United States bank or a postal, telegraphic, or express money order
payable to the order of "Corporate Stock Transfer, as Subscription Agent for
Diomed Holdings, Inc."
Payment will be deemed to have been received by the subscription agent only
upon:
- clearance of any uncertified check; or
- receipt by the subscription agent of any certified check or bank
draft drawn upon a U.S. bank or of any postal, telegraphic, or
express money order; or
- receipt by the subscription agent of any funds transferred by wire
transfer; or
- receipt of funds by the subscription agent through an alternative
payment method approved by us.
Please note that funds paid by uncertified personal check may take at least five
business days to clear. Accordingly, if you wish to pay by means of an
uncertified personal check, we urge you to make payment sufficiently in advance
of [_________ __], 2004, to ensure that the payment is received and clears
before that date. We also urge you to consider payment by means of a certified
or cashier's check or money order.
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GUARANTEED DELIVERY PROCEDURES
If you want to purchase shares, but time will not permit your stock order form
to reach the subscription agent on or prior to [_________ __], 2004 (or any
later date that we extend the offering period to), you may purchase shares if
you satisfy the following guaranteed delivery procedures:
(1) You send, and the subscription agent receives, payment in full for each
allotted share and each over-allotted share that you order on or prior to
[___________ __], 2004 (or any later date that we extend the offering period
to);
(2) You send, and the subscription agent receives, on or prior to [____________
__], 2004 (or any later date that we extend the offering period to), a notice of
guaranteed delivery, substantially in the form set forth in the instructions
accompanying the stock order form, from a member firm of a registered national
securities exchange or a member of the National Association of Securities
Dealers, Inc., or a commercial bank or trust company having an office or
correspondent in the United States. The notice of guaranteed delivery must state
your name, the number of allotted shares that you are entitled to purchase, the
number of allotted shares that you have ordered and the number of over-allotted
shares that you have ordered. The notice of guaranteed delivery must guarantee
the delivery of your stock order form to the subscription agent within three
American Stock Exchange trading days following the date of the notice of
guaranteed delivery; and
(3) You send, and the subscription agent receives, your properly completed and
duly executed stock order form, including any required signature guarantees,
within three American Stock Exchange days following the date of your notice of
guaranteed delivery.
The notice of guaranteed delivery may be delivered to the subscription agent in
the same manner as your stock order form at the addresses set forth under the
heading "Subscription Agent," or may be transmitted to the subscription agent by
facsimile transmission, to facsimile number (303) 282-5800, attention Christine
Welsh. You can obtain additional copies of the form of notice of guaranteed
delivery by requesting them from the subscription agent at the address set forth
under the heading "Subscription Agent."
SIGNATURE GUARANTEE
Signatures on the stock order form do not need to be guaranteed if either the
stock order form provides that the shares of common stock to be purchased are to
be delivered directly to the stockholder of record to whom we made the offer, or
the stock order form is submitted for the account of a member firm of a
registered national securities exchange or a member of the National Association
of Securities Dealers, Inc., or a commercial bank or trust company having an
office or correspondent in the United States. If a signature guarantee is
required, signatures on the stock order form must be guaranteed by an Eligible
Guarantor Institution, as defined in Rule 17Ad-15 of the Securities Exchange Act
of 1934, as amended, subject to the standards and procedures adopted by the
subscription agent. Eligible Guarantor Institutions include banks, brokers,
dealers, credit unions, national securities exchanges, and savings associations.
SHARES HELD IN "STREET NAME" AND OTHERWISE HELD FOR THE BENEFIT OF OTHERS
If you are a broker, a trustee, or a depository for securities, or you otherwise
hold shares of common stock for the account of a beneficial owner of common
stock, you should notify the beneficial owner of such shares as soon as possible
to obtain instructions with respect to the offering. If you are a beneficial
owner of common stock held by a holder of record, such as a broker, trustee, or
a depository for securities, you should contact the holder of record and ask the
holder of record to effect transactions in accordance with your instructions.
AMBIGUITIES IN SUBMITTED STOCK ORDERS
If you do not specify the number of shares that you are ordering on your stock
order form, or if your payment is not sufficient to pay the total purchase price
for all of the shares that you have ordered, you will be deemed to have ordered
the maximum number of shares that could be exercised for the amount of the
payment that the subscription agent receives from you. If your payment exceeds
the total purchase price for all of the shares that you ordered as set forth on
your stock order form, your payment will be applied, until depleted, to purchase
shares of common stock in the following order:
(1) to purchase the number of allotted shares, if any, that you
indicated on the stock order form;
(2) to purchase allotted shares until you have purchased all of your
allotted shares;
(3) to purchase over-allotted shares, but subject to any applicable
proration.
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Any excess payment remaining after the foregoing allocation will be returned to
you as soon as practicable by mail, without interest or deduction.
REGULATORY LIMITATION
WE ARE NOT OFFERING SHARES OF COMMON STOCK PURSUANT TO THE OFFERING TO THOSE
PERSONS WHO, IN OUR OPINION, ARE REQUIRED TO OBTAIN PRIOR CLEARANCE OR APPROVAL
FROM ANY STATE OR FEDERAL REGULATORY AUTHORITIES TO OWN OR CONTROL SUCH SHARES
IF, AT THE TIME THE OFFERING EXPIRES, YOU HAVE NOT OBTAINED SUCH CLEARANCE OR
APPROVAL.
FOREIGN SECURITIES LAWS
We are not making the offering in any state or other jurisdiction in which it is
unlawful to do so. We may delay the commencement of the offering in certain
jurisdictions in order to comply with the securities law requirements of such
states or other jurisdictions. We do not anticipate that there will be any
changes in the terms of the offering. In our sole discretion, we may decline to
make modifications to the terms of the offering requested by certain
jurisdictions, in which case stockholders that live in those jurisdictions will
not be eligible to participate in the offering.
OUR DECISION WILL BE BINDING ON YOU
WE WILL DETERMINE ALL QUESTIONS CONCERNING THE TIMELINESS, VALIDITY, FORM, AND
ELIGIBILITY OF ANY ORDERS TO PURCHASE, AND OUR DETERMINATIONS WILL BE FINAL AND
BINDING. IN OUR SOLE DISCRETION, WE MAY WAIVE ANY DEFECT OR IRREGULARITY, OR
PERMIT A DEFECT OR IRREGULARITY TO BE CORRECTED WITHIN SUCH TIME AS WE MAY
DETERMINE, OR REJECT THE PURPORTED ORDER TO PURCHASE BY REASON OF ANY DEFECT OR
IRREGULARITY IN SUCH EXERCISE. ORDERS WILL NOT BE DEEMED TO HAVE BEEN RECEIVED
OR ACCEPTED UNTIL ALL IRREGULARITIES HAVE BEEN WAIVED OR CURED WITHIN SUCH TIME
AS WE DETERMINE IN OUR SOLE DISCRETION. NEITHER WE NOR THE SUBSCRIPTION AGENT
WILL BE UNDER ANY DUTY TO NOTIFY YOU OF ANY DEFECT OR IRREGULARITY IN CONNECTION
WITH THE SUBMISSION OF STOCK ORDER FORM OR INCUR ANY LIABILITY FOR FAILURE TO
GIVE SUCH NOTIFICATION.
NO REVOCATION
After you have purchased your allotted shares or over-allotted shares, YOU MAY
NOT REVOKE THAT PURCHASE. You should not order shares unless you are certain
that you wish to purchase additional shares of common stock.
SHARES OF COMMON STOCK OUTSTANDING AFTER THE OFFERING
There were approximately 358,000,000 shares of common stock outstanding as of
December 31, 2003 (on a fully-diluted basis, assuming the exercise of all of the
warrants we issued to our placement agent in connection with the equity
financing). Assuming we issue all of the shares of common stock offered in this
offering, approximately 388,000,000 shares of common stock will be issued and
outstanding. This would represent an approximately 8.4% increase in the number
of outstanding shares of common stock. IF YOU DO NOT PURCHASE SHARES IN THE
OFFERING AND OTHER STOCKHOLDERS PURCHASE SHARES IN THE OFFERING, YOUR PERCENTAGE
OWNERSHIP OF OUR COMMON STOCK WILL DECREASE.
FEES AND EXPENSES OF SHARE PURCHASES
We will pay all fees charged by the subscription agent. You are responsible for
paying any other commissions, fees, taxes, or other expenses incurred in
connection with your order to purchase shares in this offering. Neither we nor
the subscription agent will pay such expenses.
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SUBSCRIPTION AGENT
We have appointed Corporate Stock Transfer as subscription agent for the
offering. You may order shares by forwarding the attached stock order form, with
payment in full of the aggregate subscription price, to the subscription agent
on or prior to 5:00 p.m. Eastern Standard Time on [_________ __], 2004 (or any
later date that we extend the offering period to) at the following addres:
By mail, by hand or by overnight courier:
Corporate Stock Transfer
3200 Cherry Creek South Drive
Suite 430
Denver, CO 80209
The subscription agent's telephone number is (303) 282-4800 and its facsimile
number is (303) 282-5800. You should deliver your stock order form, payment of
the subscription price and notice of guaranteed delivery (if any) to the
subscription agent. We will pay the fees and certain expenses of the
subscription agent, which we estimate will total $50,000. We also have agreed to
indemnify the subscription agent from any liability that it may incur in
connection with this offering.
IMPORTANT
PLEASE CAREFULLY READ THE INSTRUCTIONS ACCOMPANYING THE STOCK ORDER FORM AND
FOLLOW THOSE INSTRUCTIONS IN DETAIL. DO NOT SEND THE STOCK ORDER FORM DIRECTLY
TO US. YOU ARE RESPONSIBLE FOR CHOOSING THE PAYMENT AND DELIVERY METHOD FOR YOUR
STOCK ORDER FORM AND YOU BEAR THE RISKS ASSOCIATED WITH SUCH DELIVERY. IF YOU
CHOOSE TO DELIVER YOUR STOCK ORDER FORM AND PAYMENT BY MAIL, WE RECOMMEND THAT
YOU USE REGISTERED MAIL, PROPERLY INSURED, WITH RETURN RECEIPT REQUESTED. WE
ALSO RECOMMEND THAT YOU ALLOW A SUFFICIENT NUMBER OF DAYS TO ENSURE DELIVERY TO
THE SUBSCRIPTION AGENT AND CLEARANCE OF PAYMENT PRIOR TO [_________ __], 2004
(OR ANY LATER DATE THAT WE EXTEND THE OFFERING PERIOD TO). BECAUSE UNCERTIFIED
PERSONAL CHECKS MAY TAKE AT LEAST FIVE BUSINESS DAYS TO CLEAR, WE STRONGLY URGE
YOU TO PAY, OR ARRANGE FOR PAYMENT, BY MEANS OF CERTIFIED OR CASHIER'S CHECK OR
MONEY ORDER.
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DESCRIPTION OF SECURITIES
References in the following description are to securities of Diomed Holdings,
Inc. unless otherwise stated or readily indicated by context.
Our authorized capital stock consists of 500,000,000 shares of common stock, par
value $.001 per share, and 20,000,000 shares of preferred stock.
As of December 31, 2003, approximately 358,000,000 shares of common stock were
issued and outstanding (assuming the exercise of the approximately 41,000,000
warrants we issued to our placement agent), and zero shares of preferred stock
were issued and outstanding.
The following description of our capital stock does not purport to be complete
and is subject to and qualified by our Articles of Incorporation and By-laws,
which are included as exhibits to this report, and by the provisions of
applicable Delaware law.
COMMON STOCK
Subject to preferences that may be applicable to any rights of holders of
outstanding stock having prior rights as to dividends, the holders of
outstanding shares of our common stock are entitled to receive dividends out of
assets legally available therefor at such times and in such amounts as the board
of directors from time to time may determine. Holders of our common stock are
entitled to one vote for each share held on all matters submitted to a vote of
the stockholders. Cumulative voting with respect to the election of directors is
permitted by the Articles of Incorporation. The common stock is not entitled to
preemptive rights and is not subject to conversion or redemption. Upon our
liquidation, dissolution or winding-up, the assets legally available for
distribution to stockholders are distributable ratably among the holders of the
common stock after payment of liquidation preferences, if any, on any
outstanding stock having prior rights on such distributions and payment of other
claims of creditors. Each share of common stock outstanding as of the date of
this prospectus is validly issued, fully paid and nonassessable.
PREFERRED STOCK
Our board of directors is authorized, subject to any limitations prescribed by
Delaware law, to issue preferred stock. The board of directors can fix the
rights, preferences and privileges of the shares and any qualifications,
limitations or restrictions thereon. The board of directors may authorize the
issuance of preferred stock with voting or conversion rights that could
adversely affect the voting power or other rights of the holders of common
stock. No shares of preferred stock are outstanding as of the date of this
prospectus.
The issuance of preferred stock, while providing flexibility in connection with
possible acquisitions and other corporate purposes could, among other things,
under certain circumstances, have the effect of delaying, deferring or
preventing a change in control. The issuance of preferred stock may adversely
affect the rights of our common stockholders by, among other things:
- restricting dividends on common stock;
- diluting the voting power of the common stock;
- impairing the liquidation rights of the common stock; or
- delaying or preventing a change in control without further action by
the stockholders.
Immediately prior to our completing the equity financing on November 25, 2003,
we had designated 20 shares of our preferred stock as Class E Stock and 24
shares of our preferred stock as Class F Stock. All of these shares of preferred
stock were issued in connection with our bridge financing obtained by us in
December 2002 and May 2003 to the parties who provided that bridge financing,
including Gibralt US, Inc., an affiliate of Samuel Belzberg, one of our
directors, James A. Wylie, a director and our executive officer and Peter
Norris, one of our former directors.
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Pursuant to an exchange agreement with the holders of the Class E and Class F
Stock, the Class E and Class F Stock is exchangeable for common stock. The
exchange agreement provides that the Class E Stock was exchangeable at a rate of
1,355,862 shares of common stock per share of Class E Stock, for a total of
27,117,240 shares of common stock, and the Class F Stock was exchangeable at a
rate of 125,898 shares of common stock per share of Class E Stock, for a total
of 3,021,552 shares of common stock. The Class E and Class F Stock became
exchangeable for common stock on November 25, 2003 after our stockholders
approved the issuance of these shares of common stock and the American Stock
Exchange approved the listing of these shares of common stock. On November 25,
2003, we exchanged the shares of Class E and Class F Stock as provided by the
exchange agreement, and no preferred stock is currently outstanding.
STOCK OPTIONS
As of September 30, 2003, a options to purchase a total of 3,431,838 shares of
common stock were issued and outstanding, as follows:
OUTSTANDING EXERCISABLE
--------------------------------- ----------------------------------
WEIGHTED
AVERAGE
REMAINING WEIGHTED WEIGHTED
CONTRACTUAL AVERAGE AVERAGE
EXERCISE PRICE SHARES NUMBER OF SHARES LIFE (IN YEARS) EXERCISE PRICE NUMBER OF SHARES EXERCISE PRICE
- --------------------- ---------------- --------------- -------------- ---------------- --------------
$ 0.08-2.00 2,762,170 8.9 $0.42 1,885,758 $0.40
2.25-3.54 246,468 3.9 2.74 217,426 2.76
4.00-6.56 407,200 3.2 5.92 391,575 5.98
8.05-8.23 16,000 2.4 8.27 16,000 8.27
--------- ---------
Total: 3,431,838 $1.28 2,510,758 $1.52
WARRANTS
As of September 30, 2003, warrants to purchase a total of 41,000,987 shares of
our common stock were issued and outstanding. The terms of these warrants are
summarized as follows:
- 121,924 warrants have exercise prices ranging from $2.00 to $3.50
per share. Fifty thousand of these warrants expired (without having
been exercised) on October 5, 2003, 20,000 of these warrants expired
(without having been exercised) on December 21, 2003 and 10,000 of
these warrants expired on January 1, 2004 (without having been
exercised). The balance of these warrants will expire on October 19,
2005;
- 17,541,563 warrants have an exercise price of $0.001 per share,
became exercisable on November 25, 2003, when our stockholders
approved the issuance of the underlying common stock and we listed
these shares with the American Stock Exchange, and expire five years
from that date;
- 6,187,500 warrants have an exercise price of $0.08 per share, became
exercisable on November 25, 2003, when our stockholders approved the
issuance of the underlying common stock and we listed these shares
with the American Stock Exchange, and expire five years from that
date; and
- 17,150,000 warrants have an exercise price of $0.10 per share,
became exercisable on November 25, 2003, when our stockholders
approved the issuance of the underlying common stock and we listed
these shares with the American Stock Exchange, and expire five years
from that date.
On December 3, 2003, Nathan Low and the Sunrise Foundation Trust each exercised
all of their warrants having an exercise price of $0.001 per share, using the
"cashless exercise" option. As a result, we issued 8,483,704 shares of common
stock to Nathan Low and we issued 2,156,744 shares of common stock to the
Sunrise Foundation Trust, and we cancelled all 8,508,729 warrants with an
exercise price of $0.001 held by Nathan Low and all 2,163,106 warrants with an
exercise price of $0.001 held by the Sunrise Foundation Trust. On December 8,
2003, Richard Stone exercised all of his warrants having an exercise price of
$0.001 per share, using the "cashless exercise" option. As a result, we issued
334,441 shares of common stock to Mr. Stone, and we cancelled all 335,427
warrants with an exercise price of $0.001 held by him. Also on December 8, 2003,
Marcia Kucher exercised all of her warrants having an exercise price of $0.001
per share, using the "cashless exercise" option. As a result, we issued 2,787
shares of common stock to Ms. Kucher, and we cancelled all 2,795 warrants with
an exercise price of $0.001 held by her.
DELAWARE ANTI-TAKEOVER LAW
We and our stockholders are subject to Section 203 of the General Corporation
Law of the State of Delaware, an anti-takeover law. In general, the law
prohibits a public Delaware corporation from engaging in a "business
combination" with an "interested stockholder" for a period of three years after
the date of the transaction in which the person became an interested
stockholder, unless the business combination is approved in the prescribed
manner. A "business combination" includes merger, asset sale and other
transaction resulting in a financing benefit to the interested stockholder. An
"interested stockholder" is a person who, together with affiliates and
associates, owns (or within three years, did own) 15% or more of the
corporation's voting stock.
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TRANSFER AGENT AND REGISTRAR
The transfer agent and registrar for our common stock is Corporate Stock
Transfer, Inc., 3200 Cherry Creek Drive South, Suite 430, Denver, Colorado
80209. We act as our own transfer agent and registrar as to our warrants and
stock options.
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MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
The following tables set forth certain information concerning our executive
officers and directors serving as of October 27, 2003. For information about
ownership of our common stock by the officers and directors named below, see
"Security Ownership of Certain Beneficial Owners and Management."
NAME AGE POSITIONS AND OFFICES WITH THE COMPANY
---- --- --------------------------------------
Geoffrey Jenkins ................ 51 Chairman
Samuel Belzberg ................. 75 Director
Gary Brooks ..................... 69 Director
James A. Wylie, Jr............... 65 Director, President and Chief Executive Officer
David Swank ..................... 46 Director, Chief Financial Officer
Kim Campbell .................... 56 Director
Peter Klein ..................... 50 Director
Kevin Stearn .................... 43 General Manager, Diomed Ltd
Lisa M. Bruneau ................. 36 Vice President, Finance, Treasurer and Secretary
All of our directors were elected to hold office until our next annual meeting
of stockholders or special meeting in lieu thereof (and thereafter until their
successors have been duly elected and qualified). None of the persons named
above are related by blood, marriage or adoption to any of our other directors
or executive officers. Executive officers are elected annually by the board of
directors and serve at the discretion of the board.
Following the close of fiscal year 2002, our board of directors elected James A.
Wylie, Jr. as a member of the Board and appointed him as our president & chief
executive officer. Mr. Wylie assumed his current position on January 13, 2003,
replacing Mr. Peter Klein who resigned to pursue personal interests. Mr. Klein
has remained as an active member of the board of directors.
Mr. Wylie has over 30 years of global executive experience and has provided
strategic advisory and management services to companies in the medical device,
healthcare, chemical and telecommunications industries, and has also held
various interim executive management positions at companies in the medical
device and healthcare industries. He was initially engaged by us on December 2,
2002 to provide strategic consulting services to the board of directors and
operating management. As a result, Mr. Wylie assumed his new position with a
solid understanding of our technology, operations, personnel, competitive
environment and business strategies. This knowledge provided for a rapid
transfer of responsibility and minimized any interruption to vital corporate
programs.
Concurrent with the election of Mr. Wylie, the board elected Geoffrey H. Jenkins
as chairman of our board of directors. Mr. Jenkins has over 25 years of
management experience in consumer and professional healthcare products and
companies. Mr. Jenkins has been an active member of the board since the spring
of 2001. Mr. Jenkins replaced our former chairman, James Arkoosh, who resigned
from the board at the end of 2002.
On March 13, 2003, the board of directors elected two additional members to the
board, both of whom joined the Audit Committee: David Swank and Gary Brooks. Mr.
Swank became Audit Committee chairman at that time. Both Mr. Swank and Mr.
Brooks have extensive corporate finance, business development and operating
experience. Effective September 1, 2003, David Swank was appointed as our chief
financial officer. As a result, Mr. Swank resigned from the Audit Committee on
that date, and Mr. Brooks became Audit Committee Chairman. Effective September
9, 2003, Peter Norris resigned as a director and from the Audit Committee.
Geoffrey Jenkins was appointed as a member of the Audit Committee effective
October 10, 2003.
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The following information regards our directors:
DIRECTOR PRINCIPAL OCCUPATION DURING
NAME AGE SINCE LAST FIVE YEARS AND DIRECTORSHIPS
- ---- --- ----- ---------------------------------
Geoffrey Jenkins 51 2002 Mr. Jenkins has been a director of Diomed since 2001, a director of the
Company since the February 14, 2002 merger, is chairman of the
Compensation Committee and has been the chairman of the board of
directors of the Company since January 2003. Mr. Jenkins has over
twenty-five years of experience in building consumer and professional
healthcare companies. In 2000, he founded and became the president of
UV-Solutions, LLC, a product development company. From 1998 to 2000,
Mr. Jenkins held the positions of chief operating officer and then
president of MDI Instruments, which was acquired by Becton Dickinson in
1999. MDI Instruments developed and marketed diagnostic devices for
the healthcare market. Mr. Jenkins holds a BS and BA from Clarkson
University, awarded in 1976.
Samuel Belzberg 75 2002 Mr. Belzberg has been a director of Diomed since 2001 and a director of
the Company since the February 14, 2002 merger. During the past five
years and prior thereto, Mr. Belzberg has principally been the
president of Gibralt Capital Corporation, a Canadian private investment
company which Mr. Belzberg founded. Gibralt Capital and its affiliates
hold equity interests in several private and public operating
companies, as well as significant real estate holdings. Mr. Belzberg
is a director of Education Lending, of Del Mar, California, e-Sim Ltd.
of Jerusalem, Israel and Bar Equipment Corporation of America of
Commerce, California. He is the chairman of the Dystonia Medical
Research Foundation, which he and his wife founded in 1977, and is
chairman of the Simon Wiesenthal Center of Los Angeles. Mr. Belzberg
received a Bachelor of Commerce Degree from the University of Alberta
in 1948.
Gary Brooks 69 2003 Mr. Brooks has been a director of the Company since March 2003 and is a
member of the Audit Committee. Mr. Brooks is a nationally recognized
turnaround consultant and crisis manager. During the past five years
and prior thereto, Mr. Brooks has principally served as chairman and
chief executive officer of Allomet Partners, Ltd. where since 1985 he
has provided turnaround consulting and interim management services to
more than 400 companies. He has over thirty-five years of diversified
executive management experience. Mr. Brooks earned a BS in Biochemical
Engineering and Industrial Management from Massachusetts Institute of
Technology in 1955 and an MS in Chemical Engineering and Operations
Research from the University of Rochester in 1959.
A. Kim Campbell 56 2002 Ms. Campbell has been a director of the Company since March 2002, and
is a member of the Compensation Committee. Ms. Campbell served as
Canada's 19th (and first female) Prime Minister in 1993. She was also
Canada's Minister of Justice, Attorney General and Minister of National
Defense. Currently, Ms. Campbell is a Visiting Professor of Practice
at the John F. Kennedy School of Government at Harvard University. In
2000, she completed a four-year term as Consul General of Canada in Los
Angeles, California, in which she fostered trade in the high-tech and
biotechnology industries. Ms. Campbell holds a range of prestigious
positions, including Senior Fellow of the Gorbachev Foundation of North
America in Boston, Massachusetts, and member of the International
Council of the Asia Society of New York. Ms. Campbell is chair of the
Council of Women World Leaders, an organization of current and former
women Presidents and Prime Ministers, and deputy president of the Club
of Madrid, an organization of former heads of state and government that
supports democratic transition. Ms. Campbell holds a BA and an LLB
from the University of British Columbia, awarded in 1969 and 1983,
respectively, performed doctoral work in Soviet government at the
London School of Economics from 1970 to 1973 (ABD), and holds four
honorary doctorates.
90
Peter Klein 50 2002 Mr. Klein has been a director of Diomed since 1999 and a director of
the Company since the February 14, 2002 merger. Mr. Klein has served as
the president and chief executive officer of Diomed from June 1999 and
of the Company since the merger through January 2003, at which time he
resigned from the offices of president and chief executive officer, but
remained a director. For thirteen years prior to joining Diomed, Mr.
Klein has served as an executive in the medical image processing
business, first as founder, president and co-chairman of Tomtec Imaging
Systems, then as president and chief executive officer of Medison
America, Inc., a subsidiary of the Korean Group Medison.
David Swank 46 2003 Mr. Swank has been a director of the Company since March 2003 and
served as chairman of the Audit Committee from that time until he
became the Company's chief financial officer, effective September 1,
2003. Mr. Swank is president and founder of BrookstoneFive, Inc., a
private consulting firm engaged in corporate strategy formulation and
capital acquisition. Since 1997, Mr. Swank has principally been the
president of BrookstoneFive, Inc., although from 2001 to the beginning
of 2003, he also served as executive vice president and chief financial
officer of Melard Technologies, Inc., a New York-based, privately held
high-tech developer of wireless computing devices for the field service
industry. Mr. Swank has significant accounting and financial control
experience. From 1994 to 1996, he served as executive vice
president-corporate development and senior vice president-chief
financial officer at Telxon Corporation, a publicly traded developer of
mobile computing devices, and from 1989 to 1992, he was regional
controller for PepsiCo Foods International (PFI), the international
snack food subsidiary of PepsiCo, Inc. Mr. Swank's other experience
includes chief financial officer at AVM Systems, Inc., a high-tech
developer of Command and Control Systems, and audit manager at Peat,
Marwick, Mitchell & Company (currently KPMG), an international "Big
Four" accounting firm. Mr. Swank earned a BS in Business
Administration in the honors accounting program at The Ohio State
University in 1980 and an MBA with a concentration in Finance at
Southern Methodist University in 1989.
91
James A. Wylie, Jr. 65 2003 Mr. Wylie has been a director of the Company since January 2003, at
which time he also became the Company's president and chief executive
officer. Prior to joining the Company, Mr. Wylie acted as a consultant
from 1994 through 2002, providing strategic advisory and interim
executive management services to institutional investors and operating
companies in the medical device, health care, chemical and
telecommunications industries. Mr. Wylie has more than 30 years of
global executive management experience as a division president, group
executive, president and chief executive officer of both private and
public corporations. Mr. Wylie holds a BS in Chemistry from Bates
College.
The following information regards our executive officers, in addition to Mr. Wylie and Mr. Swank, and
highly-compensated non-executive officer employees:
Kevin Stearn, General Manager, Diomed Ltd. Mr. Stearn joined us in March 2000 and is the general manager of our UK
subsidiary. From 1987 to 2000 he served as the operations director of
a medical diagnostic manufacturer, joining that company in its early
start-up phase and growing it to a workforce of over 700 people and a
30-fold increase in production. Mr. Stearn has managed FDA inspections.
Lisa M. Bruneau, Vice President, Finance, Ms. Bruneau joined us in October 2001 as controller and was promoted to
Secretary and Treasurer vice president, finance, secretary and treasurer in March 2002. Ms.
Bruneau had several years of previous experience in the fields of
accounting and financing in the biopharmaceutical industry. Ms. Bruneau
holds a BS from Bridgewater State College of Massachusetts awarded in
1989 and received her MBA from Suffolk University in Boston,
Massachusetts, awarded in 2000. During the last five years prior to
joining the Company, she was director of finance at Acambis, Inc.
(formerly OraVax, Inc.), a biopharmaceutical company in Cambridge,
Massachusetts.
Section 16(a) of the Securities Exchange Act requires our directors, executive
officers and persons who own more than 10% of any class of our capital stock to
file with the SEC initial reports of ownership and reports of changes in
ownership and to provide copies of such reports to us. Based solely on a review
of the copies of such reports furnished to us and written representations that
no other reports were required to be filed during the fiscal year ended December
31, 2002, we believe that all of the filing requirements applicable to our
officers, directors and beneficial owners of greater than 10% of our common
stock were complied with during 2002, the most recent fiscal year as to which we
have issued our annual report.
92
EXECUTIVE COMPENSATION
SUMMARY COMPENSATION TABLE
The following table sets forth certain information concerning the compensation
that we paid for services rendered in all capacities for the fiscal years ended
December 31, 2000, 2001 and 2002 and by those individuals serving as our chief
executive officer during 2002 and our other executive officers serving on
December 31, 2002 whose salary and bonuses for 2002 exceeded $100,000. We refer
to these officers as the "Named Executive Officers."
ANNUAL COMPENSATION LONG-TERM COMPENSATION
------------------------------------------- -------------------------------
LONG-TERM
COMPENSATION
AWARDS
SECURITIES
ANNUAL UNDERLYING ALL OTHER
NAME AND PRINCIPAL FISCAL YEAR COMPENSATION OPTIONS (1) COMPENSATION
POSITION END SALARY BONUS (#) (2)
- -----------------------------------------------------------------------------------------------------------
Peter Klein 12/31/02 $250,000 $0 0 $0
President and Chief
Executive Officer,
2/14/02 (after the
Merger) to 12/31/02 12/31/01 $236,611 $51,540 221,263 $0
12/31/00 $205,000 $28,460 0 $0
Gerald A. Mulhall 12/31/02 $0 $0 0 $0
President and Chief
Executive Officer,
1/1/02 to 2/14/02 (prior
to the Merger)(3) 12/31/01 $0 $0 0 $0
12/31/00 $0 $0 0 $0
Lisa M. Bruneau (4) 12/31/02 $105,000 $0 25,000 $0
Vice President -
Finance; Treasurer,
Secretary 12/31/01 $15,000 $0 25,000 $0
Kevin Stearn (5) 12/31/02 $109,000 $0 0 $0
General Manager,
Diomed Ltd. 12/31/01 $99,209 $6,344 140,390 $14,631
12/31/00 $84,198 $0 19,610 $0
(1) During fiscal 2002, 2001 and 2000, neither the Company nor Diomed granted
any restricted stock awards or stock appreciation rights or made any long-term
incentive plan payouts to any Named Executive Officer.
(2) Includes all other annual compensation and all other long-term compensation.
Perquisites are not included if the aggregate amount is less than the lesser of
$50,000 or 10% of salary and bonus.
(3) Mr. Mulhall was president and chief executive officer of the Company's
predecessor, Natexco. Mr. Mulhall's service terminated as of the February 14,
2002 merger.
(4) Ms. Bruneau commenced her employment in November 2001, as controller. Her
effective annual salary for fiscal year 2001 was $90,000. As of March 22, 2002,
Ms. Bruneau was appointed vice president - finance, secretary and treasurer of
the Company, with an effective annual salary of $110,000.
(5) Mr. Stearn began employment in February 2000. All figures expressed as
converted into US dollars from British Pounds Sterling.
93
EQUITY COMPENSATION PLAN INFORMATION
The following table lists information as of December 31, 2002 with respect to
compensation plans under which our equity securities are authorized for
issuance. The information shown below addresses those outstanding options,
warrants and rights which were outstanding and exercisable as of December 31,
2002:
- ----------------------------------------------------------------------------------------------------------------------
Number of securities
Number of securities to be remaining available for
issued upon exercise of future issuance under
outstanding options, Weighted average exercise equity compensation plans
warrants and rights price of outstanding (excluding securities
Plan Category (expressed in common stock) options, warrants and rights reflected in column (a))
(a) (b) (c)
- ----------------------------------------------------------------------------------------------------------------------
Equity compensation plans 1,150,115 $2.90 1,375,094
approved by stockholders
- ----------------------------------------------------------------------------------------------------------------------
Equity compensation plans not 0 0 0
approved by stockholders
- ----------------------------------------------------------------------------------------------------------------------
Total 1,150,115 1,375,094
- ----------------------------------------------------------------------------------------------------------------------
EMPLOYMENT AGREEMENTS
Effective July 1, 2001, Diomed, Inc. entered into an employment agreement with
Mr. Klein, under which his employment continued until terminated in accordance
with certain provisions. Upon the closing of the February 14, 2002 merger, we
assumed Mr. Klein's employment agreement, and as a result during 2002 Mr. Klein
served as our president and chief executive officer at an annual base salary of
$250,000. The agreement provided for bonuses as determined by our board of
directors, and employee benefits, including vacation, sick pay and insurance, in
accordance with our policies. Pursuant the terms of this agreement, after Mr.
Klein's resignation effective January 10, 2003, we paid his salary as then in
effect and continued his medical benefits until June 30, 2003.
Effective January 10, 2003, we entered into an employment agreement with James
A. Wylie, Jr. as president and chief executive officer. Mr. Wylie became a
director as of that date. Mr. Wylie's employment agreement is for a term of two
years and provides for an annual base salary of $300,000 (payable commencing
March 1, 2003), an award of options to purchase up to 800,000 shares of common
stock and certain bonus compensation, including a discretionary bonus as
determined by the board of directors and a bonus for the consummation of certain
financings (including the equity financing), mergers or similar transactions. If
we terminate Mr. Wylie's employment other than for cause, we will be obligated
to pay his salary and provide benefits to him for the remainder of his two-year
employment term. From December 2, 2002 until the effective date of his
employment agreement, Mr. Wylie acted as a consultant to us and an advisory
board member, pursuant to a management services agreement. Under the management
services agreement, we paid Mr. Wylie a consulting fee of $125,000 for the
period December 2, 2002 through February 28, 2003, and agreed to pay a success
fee for the consummation of certain financing, merger or similar transactions
(excluding the December 27, 2002 bridge financing transaction). The management
services agreement was terminated upon the effective date of Mr. Wylie's
employment agreement and was superceded by his employment agreement.
Other executive officers have agreements which generally provide that upon
termination of their respective employment without cause, we will pay portions
of their annual base salary and continue their medical benefits for a period of
between three and eight months. These agreements also provide that these
executives are eligible to receive annual bonuses based on performance.
Our employment agreements with our executives also prohibit the executive from
directly or indirectly competing with us for a period of one-year following
termination of his employment.
There have been no adjustments or amendments to the exercise price of stock
options for our executive officers or directors.
STOCK OPTION PLANS
As of February 14, 2002, the date of the merger, we assumed the obligations of
Diomed, Inc. under its 1998 Stock Option Plan and its 2001 Stock Option Plan. We
did not have any stock option plans prior to the merger.
We rely on incentive compensation in the form of stock options to retain and
motivate directors, executive officers and employees. Incentive compensation in
the form of stock options is designed to provide long-term incentives to
directors, executive officers and other employees, to encourage them to remain
with us and to enable them to develop and maintain an ownership position in our
common stock. Prior to the merger, we granted stock options our 2001 Stock
Option Plan and prior to May 2001, Diomed, Inc. granted stock options under its
1998 Stock Option Plan.
94
Our 2001 Stock Option Plan authorizes stock option grants to directors and
eligible employees, including executive officers. Options generally become
exercisable based upon a vesting schedule over four years. The value realizable
from exercisable options is dependent upon the extent to which our performance
is reflected in the value of our common stock at any particular point in time.
Equity compensation in the form of stock options is designed to provide
long-term incentives to directors, executive officers and other employees. We
approve the granting of options in order to motivate these employees to maximize
stockholder value. Generally, vesting for options granted under the plan is
determined at the time of grant, and options expire after a 10-year period.
Options are granted at an excise price not less than the fair market value at
the date of grant. As a result of this policy, directors, executives and other
employees are rewarded economically only to the extent that the stockholders
also benefit through appreciation in the market.
The options we grant under the 2001 Stock Option Plan may be either "incentive
stock options" within the meaning of Section 422 of the Internal Revenue Code of
1986, as amended (the "Code"), or non-statutory stock options at the discretion
of the board of directors and as reflected in the terms of a written option
agreement. The 2001 Stock Option Plan is not a qualified deferred compensation
plan under Section 401(a) of the Code, and is not subject to the provisions of
the Employee Retirement Income Security Act of 1974, as amended (ERISA).
Options granted to employees are based on such factors as individual initiative,
achievement and performance. In administering grants to executives, we evaluate
each employee's total equity compensation package. We generally review the
option holdings of each of the executive officers, including vesting and
exercise price and the then current value of such unvested options. We consider
equity compensation to be an integral part of a competitive executive
compensation package and an important mechanism to align the interests of
management with those of our stockholders. During fiscal 2002, we granted
options to purchase 25,000 shares of common stock to Ms. Bruneau (at an exercise
price of $4.18 per share), but not to any other Named Executive Officer.
Options for 1,750,000 shares of common stock are authorized for issuance under
the 2001 Stock Option Plan. As of December 31, 2002, options for 866,840 shares
of common stock were outstanding under the 2001 Stock Option Plan, and options
for 883,160 shares of common stock were available for future grants. In January
2003, in connection with the appointment of Mr. Wylie as president and chief
executive officer, we granted options for 800,000 shares of common stock to Mr.
Wylie (at an exercise price of $0.26 per share), including 400,000 options that
were granted as incentive options under the 2001 Stock Option Plan and 400,000
options that were granted as non-qualified stock options that are outside of the
2001 Stock Option Plan. The terms of this option grant provide that 200,000 of
these options vest as of the date of grant, and 75,000 options vest on each of
March 31, June 30, September 30 and December 31, 2003 and 2004.
Options for up to 750,000 shares of common stock are authorized for issuance
under the 1998 Stock Option Plan. As of December 31, 2002, options for 258,066
shares of common stock were outstanding under the 1998 Stock Option Plan, and
options for 491,934 shares of common stock were available for future grants. No
options were issued under the 1998 Stock Option Plan during fiscal year 2001 or
2002, and we do not expect to grant additional options under the 1998 Stock
Option Plan.
OPTION GRANTS IN LAST FISCAL YEAR
The following table sets forth certain information regarding stock options that
we granted in 2002 to all Named Executive Officers:
PERCENT OF
TOTAL
NUMBER OF SHARES OPTIONS GRANTED
NAME AND UNDERLYING TO EMPLOYEES EXERCISE PRICE EXPIRATION
PRINCIPAL POSITION OPTIONS GRANTED IN FISCAL YEAR (1) PER SHARE DATE
- --------------------------------------------------------------------------------------------------------------------
Lisa M. Bruneau 25,000 13% $4.18 March 21, 2012
Vice President -
Finance; Treasurer and
Secretary
(1) Based on a total of 197,500 options granted to employees during 2002.
95
OPTIONS HELD AT END OF PRIOR FISCAL YEAR
The following table sets forth certain information regarding stock options that
the Named Executive Officers held as of December 31, 2002:
NUMBER OF UNEXERCISED
OPTIONS AT VALUE OF "IN THE MONEY"
DECEMBER 31, 2002 OPTIONS AT
EXERCISABLE/ DECEMBER 31, 2002
NAME AND UNEXERCISABLE EXERCISABLE/UNEXERCISABLE
PRINCIPAL POSITION (1) (2)
- -------------------------------------------------------------------------------------------------------------
Peter Klein
President and Chief Executive Officer 166,737/0 (3) $0/$0
Kevin Stearn
General Manager, Diomed Ltd. 48,211/111,789 $0/$0
Lisa M. Bruneau
Vice President - Finance, Treasurer and $0/$0
Secretary 7,292/42,708
(1) Based on the aggregate of 197,500 shares of its common stock granted to all
employees, which excludes 252,700 options to purchase shares of our common stock
granted to directors and consultants subsequent to December 31, 2002.
(2) Based on the closing price of $.26 on the American Stock Exchange on
December 31, 2002 and the respective exercise prices of the options held. (3)
173,263 unexercisable options were terminated as of December 31, 2002, due to
Mr. Klein's resignation as president and chief executive officer. All remaining
options were terminated because they were not exercised within 90 days after his
resignation.
No adjustments to the exercise price of any outstanding options were made during
the fiscal year ended December 31, 2002, other than in connection with
adjustments of the common stock pursuant to the February 14, 2002 merger and the
migratory merger, as noted above.
96
RELATED TRANSACTIONS
During the past two years, we and our predecessor entities have entered into
transactions with various related parties. Generally, the transactions were
completed to finance our operations and to implement our business plans. We
believe that each of these transactions were on terms as favorable to it as the
terms we could have obtained from independent third parties. This section
discusses transactions entered into between August 2001 and December 31, 2003
between us and the following persons:
- Samuel Belzberg, a director and his affiliates, Gibralt Capital
Corp. and Gibralt US, Inc., a beneficial holder of more than 5% of
our common stock;
- Winton Capital Holdings Ltd., a beneficial holder of more than 5% of
our common stock (prior to the transactions on May 7, 2003,
described below). Mark Belzberg, the owner of Winton, is the son of
Samuel Belzberg, one of our directors;
- Verus International Group Limited and its affiliates, a beneficial
holder of more than 5% of the our common stock (prior to the
transactions on May 7, 2003, described below);
- James Arkoosh, who is a former officer of Verus International Group
Limited and a former director and our former chairman; and
- Axcan Pharma, Inc., one of our customers.
OCTOBER AND DECEMBER 2001 BRIDGE FINANCING
In October and December 2001, Diomed, Inc. issued secured convertible promissory
notes in the aggregate principal amount of $500,000 and $200,000, respectively,
to Winton Capital and Verus International in exchange for their providing bridge
financing to Diomed, Inc.. Pursuant to the terms of the notes, Diomed, Inc.
agreed to issue additional warrants to Winton Capital and Verus International if
Diomed did not consummate a transaction similar to the February 2002 merger by
December 31, 2001. The notes provided interest at 7.5% and a maturity date of
January 1, 2003. We repaid the notes in February 2002 and paid each of Winton
Capital and Verus International $7,500 in interest.
In October and December 2001, Diomed, Inc. also issued 50,000 and 20,000
warrants (in the aggregate) to purchase shares of its common stock to Winton
Capital and Verus International, respectively, with an exercise price of $2.00
per share. On January 1, 2002, 5,000 additional warrants were issued to each of
Winton Capital Holdings and Verus Investment Group in satisfaction of Diomed's
obligation to issue 10,000 additional warrants if Diomed did not consummate a
merger transaction prior to December 31, 2001. The warrants are fully
exercisable for two years from the date of issuance.
All principal and accrued interest was repaid by Diomed, Inc., with proceeds
from the private placement sale of common stock which occurred immediately prior
to the merger on February 14, 2002. Diomed, Inc. issued 5,000,000 shares of its
common stock in the private placement, at a price of $2.00 per share, and
received aggregate gross proceeds of $10,000,000 from the private placement. Of
the 5,000,000 shares of common stock sold in this private placement, Winton
Capital purchased 1,200,000 shares, at a price of $2.00 per share, for an
aggregate purchase price of $2,400,000.
AXCAN TRANSACTION
In September 2001, we issued a promissory note to Axcan Pharma, Inc. in
connection with an advance that Axcan made to us in October 2000 related to our
procurement of inventory. The promissory note, which we issued on September 24,
2001, totaled $936,000 in principal amount and matures on January 1, 2004.
Interest accrues at 8.5% per annum, and is payable quarterly in arrears.
VERUS ADVISORY AGREEMENTS
In December 2001, Diomed, Inc. entered into two advisory agreements with Verus,
which at the time beneficially owned more than 5% of Diomed, Inc.'s common
stock. The first agreement provides that as an advisor to the February 2002
merger, a fixed advisory fee of $750,000 was payable to Verus Support Services
Inc. upon the closing of the merger, which was paid from the gross proceeds of
the private placement by the public company. We completed both the merger and
the private placement on February 14, 2002. Diomed, Inc. believed this fee was
comparable to the fee that would have been payable on an arms-length basis to an
unrelated advisor. The second agreement was initially between Verus Support
Services and Diomed, Inc., and we assumed this separate
97
agreement as part of the merger. Pursuant to this agreement, we engaged Verus
for 18 months (ending September 1, 2003) to act as a financial advisor. Pursuant
to this agreement, a monthly fee of $15,000 was payable to Verus. Under certain
circumstances, Verus was to become entitled to a success fee of 3.5% of any
transaction value, including consideration that we and/or our affiliates provide
or receive in business combination transactions with third parties, with a
minimum fee of $175,000. The success fee was to become payable if Verus
identified and introduced the transaction. Verus did not identify or introduce
the equity financing and accordingly is not entitled to any fee arising from
that transaction. Our former director and chairman, James Arkoosh, was an
employee of Verus until July 2002, and we paid Verus annual compensation of
$50,000 in connection with Mr. Arkoosh's services to us, commencing on July 1,
2001. From July 2002 through December 31, 2002, when Mr. Arkoosh resigned, we
paid this amount directly to him instead of to Verus, pursuant to our agreement
with Verus.
We ceased making the $15,000 monthly payments to Verus beginning August 2002. On
September 30, 2003, we entered into an agreement with Verus pursuant to which we
are to issue to Verus a total of 500,000 shares of common stock in lieu of the
monthly payments that we did not pay to Verus. The issuance of these shares is
contingent on the completion of the equity financing, and these shares are to be
issued within three days after the completion of the equity financing.
INTERIM FINANCING TRANSACTIONS FROM DECEMBER 2002 TO DATE
At the beginning of 2003, the board elected a new president and chief executive
officer and three new members of the board. In January 2003, Geoffrey Jenkins,
one of our directors since 2001, became the chairman of the board. Also in
January 2003, James A. Wylie, Jr. became our president and chief executive
officer and a director. Mr. Wylie had been engaged on a consulting basis at the
end of 2002 to review our business operations and viability. In March 2003, Gary
Brooks, a nationally recognized turnaround consultant and crisis manager, and
David Swank, an experienced financial executive with significant accounting and
financial control experience, became independent directors.
In connection with the changes in the Board's composition and our leadership, we
entered into three financing transactions, each of which was with a related
party. Highlights of these three transactions are as follows:
- December 2002 Interim Financing. At the end of December 2002, we
borrowed $2,000,000 from Gibralt US in the form of one-year Class A
Secured Convertible Notes and Class B Unsecured Convertible Notes.
In connection with this loan, we also issued warrants to purchase
8,333,333 shares of common stock at an exercise price of $0.26 per
share. These funds were used to provide working capital while new
management and new independent directors completed their assessments
of our prospects and operations.
- May 2003 Interim Financing. In April 2003, we secured loan
commitments for up to $1,200,000 as interim financing from Gibralt
US and two directors. Gibralt US committed to lend up to $1,100,000,
and Mr. Wylie and Peter Norris committed to lend the remaining
$100,000 in exchange for one-year Class D Secured Notes. This
transaction closed on May 7, 2003. These funds were used to provide
working capital for us while we pursued our plan to raise long-term
equity financing. We issued preferred shares convertible into a
total of 3,021,552 shares of common stock to these lenders in
connection with their loan commitments.
- May 2003 Exchange Transaction. Simultaneously with obtaining the
$1,200,000 of loan commitments, we modified several terms and
conditions of the Class A and Class B Notes that we believed might
impede the completion of a permanent equity financing with
institutions and accredited investors. First, we issued Class C
Stock, which was convertible into 27,117,240 shares of common stock,
in exchange for the redelivery to us of 8,333,333 warrants and
modification of the Class A and Class B Notes to make them
non-convertible. Second, we issued Class D Stock, which was
convertible into 3,021,552 shares of common stock, as a discount for
the $1,200,000 in committed secured bridge loans. The 30,138,792
shares of common stock underlying the Class C Stock and Class D
Stock represented in the aggregate approximately 50.36% of our
common stock and common stock equivalents outstanding after the
transactions.
- May 2003 Modification Transaction. On May 28, 2003, we and the
holders of the Class A and Class B Convertible Notes made further
modifications to the notes to accommodate the plan for permanent
equity financing. We did not issue any additional shares or pay any
amounts to obtain these changes.
98
- August 2003 Exchange of Preferred Shares. As part of our settlement
of the Augenbaum lawsuit, we exchanged the convertible preferred
stock we issued on May 7, 2003 for an equal number of shares of new
classes of preferred stock. The new classes of preferred stock are
not by their terms convertible into common stock, but under a
written agreement with the stockholders, these shares were to be
exchanged for an equal number of shares of common stock into which
the number the former classes of common stock were convertible. This
exchange was made to address a claim in the Augenbaum complaint that
the preferred stock we issued in May 2003 were convertible by its
terms. The plaintiff in Augenbaum agreed that we could issue the
same number of shares of common stock into which the May 2003
preferred stock would have been convertible, but that the mechanism
should be through an exchange of preferred stock for common stock,
not a conversion of the preferred stock into common stock.
Accordingly, the August 2003 exchange agreements with the holders of
the preferred stock provide that after our stockholders approve the
issuance of the underlying shares of common stock, then either we or
the holders of the preferred stock may request the exchange of the
preferred stock for that number of shares of common stock into which
the May 2003 preferred stock was convertible.
- Repayment of $2,000,000 Debt Incurred in December 2002 Interim
Financing. On September 3, 2003, we repaid all of the $2,000,000 in
principal and accrued interest on the notes we issued in connection
with the December 2002 interim financing, using a portion of the
$6,500,000 gross proceeds of the sale of Secured Bridge Notes in the
equity financing.
- Conversion of $1.2 Million Debt Incurred in May 2003 Interim
Financing. On November 25, 2003, the $1,200,00 in notes we issued in
our May 2003 interim financing, including accrued interest,
converted into common stock at $0.10 per share. Accordingly, we
issued 12,482,335 shares of common stock to these noteholders.
- Conversion of Secured Bridge Notes. On November 25, 2003, the
$6,995,000 in Secured Bridge Notes we issued at the first closing of
the equity financing in September 3, 2003, including accrued
interest, converted into common stock at $0.08 per share.
Accordingly, we issued 89,069,676 shares of common stock to these
noteholders.
- Exchange of Class E and Class F Stock. On November 25, 2003, in
connection with the final closing of our equity financing and
pursuant to our agreement with the holders of our Class E and Class
F Stock, we exchanged all outstanding shares of Class E Stock for a
total of 27,117,240 shares of common stock and we exchanged all
outstanding shares of Class F Stock for a total of 3,021,552 shares
of common stock.
We summarize in the tables below the material terms of the Class A and Class B
Convertible Notes and warrants that we issued in the December 2002 Interim
Financing, the Class C Notes that we issued in the May 2003 Exchange
Transaction, the Class D Notes that we issued in the May 2003 Interim Financing
Transaction and the Class E Notes that we issued in exchange for the Class C
Notes and the amendments that we made to the Class D Notes in the May 2003
Modification Transaction. Following these tables, we describe the material terms
of these securities in greater detail.
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TABLE SUMMARIZING THE DECEMBER 2002 INTERIM FINANCING
AND SUBSEQUENT MODIFICATIONS
The following table summarizes the original terms of the $2,000,000 interim
financing that we completed in December 2002, the terms of that $2,000,000
interim financing after giving effect to the exchange transaction that we
completed on May 7, 2003 and the subsequent modification on May 28, 2003:
ORIGINAL TERMS OF TERMS OF DECEMBER 2002 TERMS OF DECEMBER 2002
DECEMBER 2002 INTERIM FINANCING AS INTERIM FINANCING AS
INTERIM FINANCING MODIFIED MAY 7, 2003 MODIFIED MAY 28, 2003
Indebtedness: Indebtedness: Indebtedness:
- ------------- ------------- -------------
- - $2,000,000 principal amount - $2,000,000 principal amount - $2,000,000 aggregate
- - interest rate 8% per annum - interest rate 8% per annum principal amount
- - principal and accrued interest - principal and accrued - interest rate 12.5% per annum
payable at maturity interest payable at maturity starting 5/28/03
- - maturity date 1/1/04 - maturity date 1/1/04 - interest accrued through
5/27/03 added to principal and
becomes payable quarterly
commencing 3/31/04 to the
extent of 50% excess quarterly
cash flow
- interest accrued from 5/28/03
payable quarterly commencing
9/30/03
- maturity date 1/1/06
Conversion of Indebtedness: Conversion of Indebtedness: Conversion of Indebtedness:
- --------------------------- --------------------------- ---------------------------
- - convertible into common stock - no conversion rights - no conversion rights
at noteholder's option
- - number of shares of common
stock into which convertible
equals principal and interest
divided by conversion price
- - conversion price determined at
time of conversion
- - conversion price is 80% of the
then-prevailing price of common
stock (determined on basis of
market price, price in financing
transaction or liquidation, as
applicable)
Other Rights of Noteholders: Other Rights of Noteholders: Other Rights of Noteholders:
- ---------------------------- ---------------------------- ----------------------------
- - right to approve future - no right to approve future - no right to approve future
financings prior to 1/1/2004 financings financings
- - right to participate in future - no right to participate in - no right to participate in
financings at a 20% discount to the future financings future financings
price paid by investors in the - right to rescind 5/7/03 exchange - right to rescind 5/28/03 exchange
future financing transaction if (1) no stockholder transaction if (1) no stockholder
approval of issuance of
common approval of issuance
of common stock upon
conversion of preferred stock
upon conversion of preferred
shares issued in
consideration of shares
issued in consideration of
exchange transaction, or (2)
exchange transaction, or (2)
financing is not entered into
prior financing is not
entered into prior to 6/30/03
to 7/31/03
100
Security: Security: Security:
- --------- --------- ---------
- - $1,000,000 principal amount of - entire $2,000,000 principal - entire $2,000,000 principal
notes secured, $1,000,000 principal amount plus accrued interest amount plus accrued interest on
amount unsecured secured notes secured
- - security interest granted in - security interest is lien on - security interest is lien on
all of our personal property, subject all of our personal property, all of our personal property,
to priority of prior security subject to priority of prior excluding intellectual property
interest in accounts receivable security interest in accounts acquired after 12/31/02 and
- - pledge of stock of subsidiary receivable inventory and fixed assets in
owning the photodynamic therapy - pledge of stock of subsidiary excess of the stipulated 12/31/02
business owning the photodynamic therapy value
business - security interest in accounts
receivable subject to subrogation
to future creditors if we enter
into receivables financing
transaction
- pledge of stock of subsidiary
owning the photodynamic therapy
business
Warrants: Warrants: Warrants:
- --------- --------- ---------
- - warrants to purchase 8,333,333 - December 2002 warrants - December 2002 warrants
shares of common stock at exercise surrendered, subject to the surrendered, subject to the
price of $0.26 per share December 2002 warrants being December 2002 warrants being
- - number of warrant shares reissued upon the note-holders' reissued upon the noteholders'
subject to increase if shares of exercise of their rescission rights exercise of their rescission rights
common stock or common stock
equivalents are issued at a price
less than the warrant exercise price
- - warrant exercise price subject to downward adjustment if common stock or
common stock equivalents issued in a financing at less than the warrant
exercise price
TABLE SUMMARIZING THE MAY 2003 INTERIM FINANCING AND SUBSEQUENT MODIFICATIONS
The following table summarizes the original terms of the $1,200,000 interim
financing that we completed on May 7, 2003 and the subsequent modification to
certain of the terms and conditions of that financing on May 28, 2003:
ORIGINAL TERMS OF TERMS OF MAY 7, 2003
MAY 7, 2003 INTERIM FINANCING TRANSACTION
INTERIM FINANCING TRANSACTION AS MODIFIED MAY 28, 2003
Indebtedness: Indebtedness:
- ------------- -------------
- - up to $1,200,000 aggregate - up to $1,200,000 aggregate
principal amount principal amount
- - interest rate 8% per annum - interest rate 8% per annum
- - principal and accrued interest - principal and accrued interest
payable 5/6/2004 payable 5/6/2004
101
Conversion of Indebtedness: Conversion of Indebtedness:
- --------------------------- ---------------------------
o no conversion rights - no conversion rights
Other Rights of Noteholders: Other Rights of Noteholders:
- ---------------------------- ----------------------------
- - no right to approve future - no right to approve future
financings financings
- - right to participate at the - mandatory participation in future
noteholder's option in future financings at the same price paid
financings at the same price paid by investors in the future
by investors in the future financing and otherwise on the same
financing and otherwise on the same terms as applicable to those
terms as applicable to those investors
investors - no right to redeem indebtedness for
- - right to redeem indebtedness for cash upon completion of future
cash upon completion of future financing
financing - right to accelerate due date of
- - right to accelerate due date of indebtedness if financing not
indebtedness if financing not completed prior to 7/31/2003
completed prior to 7/1/2003
Security: Security:
- --------- ---------
- - $1,200,000 principal amount and - $1,200,000 principal amount and
accrued interest on notes secured accrued interest on notes secured
- - security interest granted in all of - security interest granted in all of
our personal property, subject to our personal property, excluding
priority of existing lien in accounts receivable, intellectual
accounts receivable property acquired after 12/31/02
- - pledge of stock of subsidiary and inventory and fixed assets in
owning the photodynamic therapy excess of value as of 12/31/02
business - pledge of stock of subsidiary
owning the photodynamic therapy
business
Warrants: Warrants:
- --------- ---------
- - no warrants issued - no warrants issued
DESCRIPTION OF DECEMBER 2002 INTERIM FINANCING TRANSACTION
The principal terms of the $2,000,000 bridge financing that we completed on
December 27, 2002 were:
- We borrowed $2,000,000 from Gibralt US, whose principal, Samuel
Belzberg, is a member of our board of directors.
- To evidence the loan, we issued $1,000,000in Class A Notes that were
secured and $1,000,000 in Class B Notes that were unsecured.
- The maturity date of the notes was January 1, 2004.
- The notes bore interest at 8% per annum, and accrued interest was
payable at maturity.
- The Class A and the Class B Notes, including principal and accrued
interest, were convertible into common stock at 80% of the common
stock price determined as follows:
(1) if we were to complete a financing transaction in which we issued common
stock or common stock equivalents, the price per share of common stock or common
stock equivalent (the weighted average if multiple financing transactions occur
in a rolling 30-day period), (ii) if we were to complete a financing transaction
in which we did not issue common stock or common stock equivalents, the lower of
the average of the closing price of the common stock for the 15 business days
preceding the public announcement of the financing transaction or the average of
the closing price of the common stock for the 15 business days following the
public announcement of the financing transaction, (iii) if a liquidity event
were to occur in which any person or group other than a stockholder on December
27, 2002 becomes the beneficial owner of at least 51% of voting control over us,
the price per share allocated to each share of common stock or common stock
equivalent, or (iv) if any other liquidity event were to occur, the lower of the
average of the closing price of the common stock for the 15 business days
preceding the public announcement of the liquidity event or the average of the
closing price of the common stock for the 15 business days following the public
announcement of the liquidity event.
102
- If a merger or reorganization were to occur, the Class A and Class B
Notes were convertible into the kind and number of shares of common
stock, other securities or property into which the notes would have
been converted into if the notes had been converted into common
stock on the business day preceding the merger or reorganization.
- We agreed not to consummate any financing transaction until January
1, 2004 while any Class A or Class B Notes were outstanding unless
we had first received the approval of the holders of at least
66-2/3% of the outstanding principal amount of the notes.
- We also issued to the noteholder warrants to purchase up to
8,333,333 shares of common stock. The warrants were exercisable for
a period of five years, beginning June 27, 2003, at an exercise
price of $0.26 per share, which was 110% of the market price of the
common stock on December 26, 2002. If we, during the life of the
warrants, were to issue common stock or common stock equivalents at
a price per share less than $0.26, the number of warrants would be
increased and the exercise price of the warrants would be decreased
to the lower price per share. If a merger or reorganization were to
occur, the warrants would become convertible into the kind and
number of shares of common stock, other securities or property into
which the common stock, other securities or property issuable upon
exercise of the warrants would have been converted if the warrants
had been exercised prior to the merger or reorganization.
- We and the noteholder entered into an agreement for the registration
of the shares of common stock issuable upon the conversion of the
notes and upon the exercise of the warrants. Under that agreement,
we agreed to notify the noteholder if we were to propose to file
certain future registration statements. We agreed to use our best
efforts to register any shares of common stock issuable to the
noteholder in the registration statement, subject to certain defined
limitations, if so requested by the noteholder within 30 days of
receipt of our notice. The noteholder agreed to become subject to a
"holdback period," by which the noteholder could not effect a public
sale of common stock for a period of up to 180 days following the
effective date of the registration statement, if so requested by a
managing underwriter of the offering.
- The notes and the warrants, pro rata to the notes, were transferable
in part or in whole by the noteholder to one or more third parties,
in accordance with all of the same terms agreed to by the
noteholder.
On March 18, 2003, Gibralt US sold and transferred to three investors
in a private transaction (i) $500,000 aggregate principal amount of the notes
($250,000 of which were Class A Notes and $250,000 of which were Class B Notes),
and (ii) 2,083,334 warrants. None of these transferees was an affiliate of
Gibralt US, although one of them is Morris Belzberg, a cousin of Samuel
Belzberg. Samuel Belzberg does not beneficially own, or have investment
discretion over, the securities purchased from him by Morris Belzberg.
Accordingly, after this transfer, Mr. Belzberg beneficially owned 6,249,999
warrants and $1,500,000 aggregate principal amount of notes ($750,000 of which
are Class A Notes and $750,000 of which are Class B Notes).
DESCRIPTION OF MAY 7, 2003 EXCHANGE TRANSACTION
During the first quarter of 2003, our board of directors and management
determined that we should seek permanent financing and continue our efforts to
achieve our business plan. Accordingly, the board of directors approved a plan
to raise long-term equity financing.
To address certain issues presented by our capital structure, the board of
directors created a special committee comprised of independent directors, (the
"Independent Committee"). The Independent Committee is comprised of Messrs.
Jenkins, Swank and Brooks. Based on information provided by Mr. Wylie and an
investment banker engaged by us in April 2003, the Independent Committee found
that under prevailing market conditions in the second quarter of 2003,
prospective investors were likely to be reluctant to invest in us because of
certain features of the December 2002 Interim Financing. Specifically, the
Independent Committee found that the future dilution represented by the
8,333,333 warrants to purchase our common stock and the potential conversion of
the $2,000,000 principal amount of the Class A and Class B Notes were unlikely
to be acceptable to new investors. In addition, the Independent Committee found
that the December 2002 noteholders' right to participate in any future financing
at a 20% discount to the price that new investors would be paying and their
right to approve future financing were likely to be obstacles to a completed
financing. The Independent Committee also determined that issuing additional
shares in exchange for modifications to the notes issued in the December 2002
Interim Financing was, from the perspective of our stockholders, preferable to
the alternative of ceasing operations due to our inability to raise additional
funding.
103
The Independent Committee began negotiations in April 2003 to modify the terms
of the December 2002 Interim Financing to eliminate the potential obstacles to
obtaining permanent financing. The Independent Committee and the December 2002
noteholders agreed to the proposed terms of the exchange transaction on April
22, 2003 and the transaction closed on May 7, 2003. The principal terms of the
May 7, 2003 exchange transaction were:
- the noteholders delivered the 8,333,333 warrants held by them;
- the noteholders returned the Class A secured notes and Class B
unsecured notes held by them to us for cancellation;
- to compensate the December 2002 noteholders for surrendering the
conversion rights under the notes and the warrants, we issued a
total of 20 shares of Class C Stock (the "Class C Stock") to the
December 2002 noteholders, which were convertible into an aggregate
of 27,117,240 shares of common stock;
- we issued Class C secured notes to the noteholders in principal
amounts equal to the Class A and Class B notes that were cancelled
(the "Class C Notes");
- the Class C Notes were redeemable for cash at the holder's option if
we were to complete our anticipated permanent financing;
- the Class C Notes were not convertible into capital stock;
- the noteholders surrendered their rights to approve future financing
transactions;
- the Class C Notes were secured by a security interest in our
property identical to the security interest created in the December
2002 Interim Financing, and otherwise had terms substantially
similar to the Class A Notes; and
- we expanded our obligation under the registration rights agreement
entered into in December 2002 by granting demand registration rights
to the noteholders regarding the underlying shares of stock.
We also agreed to unwind the May 2003 Exchange Transaction and restore the
original terms of the December 2002 Interim Financing if: (1) our stockholders
did not approve the issuance of the common stock underlying the capital stock
issued to the noteholders in the May 2003 Exchange Transaction, or (2) if we did
not complete our contemplated financing transaction by June 30, 2003 (this date
was subsequently extended to July 31, 2003 under the modifications which were
agreed to on May 28, 2003 and again to November 15, 2003 or any later day that
is one business day following the date agreed by us and the investors for the
second closing of the equity financing).
If the May 2003 Exchange Transaction had been rescinded, then the original terms
of the December 2002 Interim Financing would have been reinstated (except that
all of the notes will be secured). The original terms of the December 2002 notes
provided for conversion of the notes at a variable conversion rate. The original
terms of the Class A and Class B Notes provided for conversion at the
noteholder's option of principal and accrued interest into common stock at a
conversion price equal to 80% of the common stock price, with the common stock
price being determined at the time of conversion. In addition, if the May 7,
2003 exchange transaction had been rescinded, we would have been required to
redeliver the warrants to purchase 8,333,333 shares of common stock to the
December 2002 noteholders.
To allow for the issuance of the preferred shares associated with the exchange
transaction, on May 5, 2003, we created a new class of preferred stock,
consisting of 20 shares of preferred stock designated as "Class C Stock," each
share of which was to automatically convert into 1,355,862 shares of common
stock at the time when our stockholders approve the issuance of common stock
underlying the Class C Stock. This would have resulted in an additional
27,117,240 shares of common stock being issued and outstanding after the
conversion occurs. Under the terms of the Class C Stock, the holders of the
Class C Stock held the right to vote that number of shares into which the Class
C Stock is convertible, voting as one class with the holders of common stock and
other capital stock convertible into common stock.
In the May 7, 2003 exchange transaction, Gibralt US and the three other
securityholders received (1) Class C Notes in the principal amount equal to the
aggregate principal amount of the Class A and Class B Notes surrendered by them
and (2) shares of Class C Stock, all in exchange for surrendering the conversion
rights of the Class A and Class B Notes (Class C Stock convertible into a total
of 18,092,849 shares of common stock, or, approximately 904,642.45 shares of
common stock per $100,000 principal amount of notes exchanged for
non-convertible notes) and the warrants (Class C Stock, convertible into a total
of 9,024,391 shares of common stock, or, approximately 108,292.73 shares of
104
common stock per 100,000 warrants surrendered). On April 22, 2003, the effective
date of the May 7, 2003 exchange transaction, the closing price of the common
stock on the American Stock Exchange was $0.16 per share.
The number of shares of Class C Stock issued in the exchange transaction and the
value of the Class C Stock issued to the December 2002 securityholders in the
exchange transaction, using the closing price of the common stock of $0.16 on
April 22, 2003, is as follows:
GIBRALT US
Principal Amount of Notes Exchanged: $1,500,000
Number of Warrants Surrendered: 6,249,999
Shares of Class C Stock Issued: 15
Number of Shares of Common Stock Issuable upon
Conversion of Class C Stock: 20,337,930
Shares of Common Stock Issuable upon conversion
of Class C Stock multiplied by
April 22, 2003 closing price per share: $3,254,069
MORRIS BELZBERG
Principal Amount of Notes Exchanged: $300,000
Number of Warrants Surrendered: 1,250,000
Shares of Class C Stock Issued: 3
Number of Shares of Common Stock Issuable upon
Conversion of Class C Stock: 4,067,586
Shares of Common Stock Issuable upon Conversion
of Class C Stock multiplied by
April 22, 2003 closing price per share: $650,814
STEVEN SHRAIBERG
Principal Amount of Notes Exchanged: $100,000
Number of Warrants Surrendered: 416,667
Shares of Class C Stock Issued: 1
Number of Shares of Common Stock Issuable upon
Conversion of Class C Stock: 1,355,862
Shares of Common Stock Issuable upon conversion
of Class C Stock multiplied by
April 22, 2003 closing price per share: $216,938
CHARLES DIAMOND
Principal Amount of Notes Exchanged: $100,000
Number of Warrants Surrendered: 416,667
Shares of Class C Stock Issued: 1
Number of Shares of Common Stock Issuable upon
Conversion of Class C Stock: 1,355,862
Shares of Common Stock Issuable upon conversion
of Class C Stock multiplied by
April 22, 2003 closing price per share: $216,938
After the May 2003 Exchange Transaction and Interim Financing were completed and
in light of discussions with our investment banker, the Independent Committee
determined that further modifications to the terms of the securities issued in
the May 2003 transactions would be necessary to assist us in completing the
permanent financing. The material terms of these modifications
105
are described under "Description of Modifications to Terms of May 2003 Exchange
Transaction and Interim Financing."
DESCRIPTION OF MAY 2003 INTERIM FINANCING TRANSACTION
In March 2003, the board of directors also determined that we had an immediate
need for capital to support our operations until we completed the contemplated
permanent financing. In April 2003, the board of directors approved a plan to
raise up to $1,200,000 of interim financing prior to May 15, 2003. The board
further determined that, because of our history of operating losses and cash
position at the time, the contemplated permanent financing was likely to involve
the issuance of substantial amounts of equity.
The Independent Committee negotiated with Samuel Belzberg, a principal investor
and a director, to obtain the needed $1,200,000 interim financing. Mr. Belzberg
committed to lend (through his affiliate, Gibralt US) up to $1,100,000 to us,
and two other directors, James A. Wylie, Jr. and Peter Norris, each agreed to
lend $50,000 to us, to demonstrate their commitment to and support of us. The
board did not believe there were other prospective investors available to us to
provide the interim financing on terms and within a time period acceptable to
us. The Independent Committee and these directors agreed to the proposed terms
of the interim financing on April 22, 2003, and the transaction closed on May 7,
2003.
The material terms of the May 7, 2003 interim financing transaction are as
follows:
- Gibralt US committed to lend up to $1,100,000 to us($1,000,000 of
which was to be funded according to a predetermined funding schedule
and the other $100,000 of which was to be funded upon completion of
a certain third party transaction), and Messrs. Wylie and Norris
loaned $50,000 to us. Gibralt US funded all of its commitment.
- We issued Class D secured notes in a principal amount equal to the
amount loaned to us (secured on an equal basis with the indebtedness
incurred in the December 2002 Interim Financing and having
substantially similar terms as the Class C notes issued in the May
7, 2003 exchange transaction, except that they would mature one year
from the date of issuance).
- To compensate the lenders for the risk attendant to their investment
and based on our financial condition, need for additional funding
and lack of definitive terms for a future permanent financing or
commitment from any investor to provide such permanent financing, we
issued shares of capital stock equal to 20% of the amount of the
loan commitment of the interim financing lenders (or, $240,000), in
the form of a total of 24 shares of Class D Convertible Preferred
Stock, which were convertible into an aggregate of 3,021,552 shares
of common stock.
- The Class D noteholders held rights (but not the obligation) to
redeem their notes for the securities issued by us in the permanent
financing on the same terms and conditions as the investors in the
permanent financing.
- The Class D noteholders held rights to redeem their notes for cash
if we consummated our permanent financing.
- The Class D noteholders held registration rights identical to those
granted to the holders of the Class C Notes issued in the May 7,
2003 exchange transaction.
During the negotiation process, the lenders required that if the contemplated
financing did not occur prior to June 30, 2003 (subsequently extended to July
31, 2003 in the May 28, 2003 modifications, described below and thereafter
extended to November 15, 2003 and again to a day after November 15, 2003 that we
and the investors agreed as the date for the second closing of the equity
financing), then the lenders could accelerate the maturity date of their notes.
We created a new class of preferred stock from our authorized preferred stock,
consisting of 24 shares of preferred stock designated as "Class D Convertible
Preferred Stock," each share of which would have been automatically converted
into 125,898 shares of common stock when our stockholders approved the issuance
of these shares of common stock underlying the Class D Convertible Preferred
Stock. This would have resulted in an additional 3,021,552 shares of common
stock being issued and outstanding after the conversion occurs. Under the terms
of the Class D Stock, the holders of the Class D Stock had the right to vote
that number of shares into which the Class D Stock was convertible, voting as
one class with the holders of common stock and other capital stock convertible
into common stock.
106
The loan commitments of the lenders in the May 7, 2003 interim financing and the
principal amount of Class D Notes, the number of shares of Class D Convertible
Preferred Stock (and the number of shares of common stock into which the Class D
Stock is convertible) the lenders received, as well as the value of the Class C
Stock issued to the lenders in the interim financing using the closing price of
the common stock of $0.16 on April 22, 2003, and after giving effect to the
issuance of the shares to be issued upon conversion of the Class C Stock and the
Class D Stock, is as follows:
GIBRALT US
Loan Commitment: Up to $1,100,000
Principal Amount of Notes Issued: Up to $1,100,000
Shares of Class D Convertible Preferred Stock Issued: 22
Number of Shares of Common Stock Issuable upon
Conversion of Class D Convertible Preferred Stock: 2,769,756
Shares of Common Stock issuable upon conversion
of Class D Convertible Preferred Stock multiplied by
April 22, 2003 closing price per share: $221,580
JAMES A. WYLIE, JR.
Loan Commitment: $50,000
Principal Amount of Notes Issued: $50,000
Shares of Class D Convertible Preferred Stock Issued: 1
Number of Shares of Common Stock Issuable upon
Conversion of Class D Convertible Preferred Stock: 125,898
Shares of Common Stock issuable upon conversion
of Class D Convertible Preferred Stock multiplied by
April 22, 2003 closing price per share: $10,072
PETER NORRIS
Loan Commitment: $50,000
Principal Amount of Notes Issued: $50,000
Shares of Class D Convertible Preferred Stock Issued: 1
Number of Shares of Common Stock Issuable upon
Conversion of Class D Convertible Preferred Stock: 125,898
Shares of Common Stock issuable upon conversion
of Class D Convertible Preferred Stock multiplied by
April 22, 2003 closing price per share: $10,072
Gibralt US, Mr. Norris and Mr. Wylie loaned a total of $1,200,000 to us,
representing their entire loan commitments.
DESCRIPTION OF MAY 28, 2003 MODIFICATIONS TO MAY 7, 2003 EXCHANGE TRANSACTION
AND INTERIM FINANCING
As we proceeded to seek our permanent financing during May 2003, we assessed the
availability of investment capital for development stage companies. The
Independent Committee determined that it was essential to extend the maturity
date of the Class C Notes beyond January 1, 2004, to eliminate the right of the
holders of the Class C Notes to redeem those notes for cash upon the completion
of the future permanent financing and to limit in certain respects the
collateral securing our obligations under the Class C and Class D Notes. The
Independent Committee determined that these modifications were necessary because
the terms of the Class C and Class D Notes would likely, unless modified, deter
investors from investing in us. The Independent Committee found that prospective
investors would presumably expect that we would use the proceeds of their
investment as working capital rather than apply the proceeds to the satisfaction
of existing debt. Accordingly, the Independent Committee negotiated further
modifications to the May 7, 2003 exchange transaction, as
107
well as modifications to the May 2003 interim financing transaction, as
described below in this section.
The Independent Committee determined that the maturity date of the Class C Notes
should be extended to January 1, 2006. In addition, the Independent Committee
determined that the security interest granted to the Class C noteholders should
be limited to certain collateral that was owned at December 31, 2002 and that
the note collateral should not include our after-acquired property, thereby
making that property available as security to our future investors. The
Independent Committee further determined that the Class D Notes should not be
redeemable for cash upon the closing of the future financing transaction.
Instead, the Class D Notes should be converted into the securities issued in the
future financing on the same terms and conditions offered to the other
investors. With these objectives, the Independent Committee commenced
negotiations with the holders of the Class C Notes and the Class D Notes.
The Class C noteholders required that, in exchange for the modifications we
sought, the terms of their notes be revised to increase the interest rate from
8% to 12.5% per annum, and to require that we commence making payments of
interest accrued from December 27, 2002 through May 27, 2003 and principal on a
quarterly basis beginning the first quarter of 2004, but only to the extent of
50% of our excess quarterly cash flow.
The Class C noteholders also agreed to modify the security for the notes, the
change to become effective when we raised at least $6,000,000 in our permanent
financing. The Class C noteholders agreed that their security interest in
accounts receivable would be subordinated to a future security interest granted
by us in a receivables financing transaction and that their security interest in
intellectual property would be limited to that owned as of December 31, 2002.
The Class C noteholders required that we maintain minimum inventory and fixed
asset levels, determined quarterly, of not less than $2,000,000. In addition,
our combined cash, inventory and fixed assets must be at least $3,271,400. A
failure to comply with these covenants is an event of default. The notes have
other events of default for matters such as non-payment of interest or
principal, breach of representations and warranties, failure to satisfy any
agreement or condition under the agreements with the investor which is not cured
within 30 days, a "cross-default" for our other institutional indebtedness and
our voluntary or judicial dissolution or bankruptcy. We and the Class C
noteholders exchanged the Class C Notes for an equal principal amount of Class E
Notes with these modified terms.
The covenant relating to minimum inventory, net book assets and cash levels does
not apply unless and until we raise at least $6,000,000 in gross proceeds in a
future financing. We did not expect an event of default relating to this
requirement to occur if we completed our contemplated permanent financing. No
events of default in fact did occur. If any event of default occurred and was
not cured within the applicable cure period, then, unless the default was waived
by a majority in interest of the noteholders, at the option and in the
discretion of the holders of at least 66 2/3% of the principal amount of the
Class E Notes, the noteholders could have declared the notes and all accrued
interest to be immediately due and payable, and could have immediately enforced
any and all of the noteholder's rights and remedies provided in the agreements
with and the investors and any other rights or remedies afforded by law.
The Class D noteholders agreed to redeem their Class D Notes in exchange for the
securities issued in the contemplated permanent financing on the same terms and
conditions offered to the other investors and to forego the option of redeeming
their notes for cash after the permanent financing occurred.
The noteholders also agreed to extend the date by which we would be required to
raise $6,000,000 in our permanent financing (to avoid triggering the December
2002 securityholders' right to rescind the May 7, 2003 exchange transaction)
from June 30, 2003 to July 31, 2003 (and subsequently, to November 15, 2003 and
again to a day after November 15, 2003 that we and the investors agree as the
date for the second closing of the of the equity financing), and to defer our
obligation to seek stockholder approval of the conversion of the Class C Stock
and Class D Stock into shares of common stock until a future meeting of the
stockholders, at which we would also seek approval of the issuance of common
stock underlying securities that may be issued by it in the permanent financing.
The rescission right was not available unless the meeting was held and the
issuance was not approved.
On September 3, 2003, we redeemed all of our outstanding Class E Notes
(principal of $2,000,000 plus accrued interest of approximately $132,000), and
no Class E Notes remain outstanding. We used a portion of the proceeds of the
first closing of the equity financing to pay for the redemption of the Class E
Notes.
108
AUGUST 2003 AND NOVEMBER 2003 EXCHANGES OF PREFERRED SHARES
As a result of the stipulation of settlement that we reached in the Augenbaum
litigation, we entered into exchange agreements with the holders of the
outstanding shares of our Class C Stock and Class D Convertible Preferred Stock.
Upon entering into the exchange agreements, on August 22, 2003 the holders of
the Class C Stock exchanged their Class C Stock for 20 Class E Shares, on a
share-for-share basis. Similarly, upon execution of the exchange agreements, the
holders of the 24 outstanding Class D Stock exchanged their Class D Stock for
Class F Shares, on a share-for-share basis. Following these exchanges, we
eliminated all Class C Stock and all Class D Stock.
Shares of the Class E Stock are preferred in liquidation to the extent that,
before any distribution of assets can be made to the holders of our common
stock, there will be distributed pro rata to the holders of the issued and
outstanding Class E Shares and Class F Shares the amount of $108,469 as to each
outstanding Class E Share and $10,072 per share as to each outstanding Class F
Share. The holders of the common stock then share in the remainder of net
liquidation of proceeds. The term liquidation means our liquidation, dissolution
or winding up, as well as any sale, lease, exchange or other disposition of all
or substantially all of our assets. The aggregate liquidation preference of the
Class E Shares is $2,169,380 and the aggregate liquidation preference of the
Class F Shares is $241,728. The aggregate liquidation preference was determined
to be equal to the dollar value that the board of directors allocated to the
conversion rights, warrants and other rights that we agreed to pay to the
holders of the Class C Stock and the discount that we agreed to pay to the
holders of the Class D Stock in the May 7, 2003, transactions.
The holders of the Class E Shares and Class F Shares have the right to vote one
vote per share, respectively, for each outstanding Class E Share and each
outstanding Class F Share.
The holders of the Class E Shares are entitled to cash dividends and
distributions when and as declared by the board of directors, pari passu with
the holders of our common stock with the dividend amount on each Class E Share
being 1,355,862 times the dividend or distribution to be paid on each share of
common stock. The holders of the Class F Shares are entitled to cash dividends
and distributions when and as declared by the board of directors, pari passu
with the holders of our common stock with the dividend amount on each Class F
Share being 125,898 times the dividend or distribution to be paid on each share
of common stock.
The exchange agreements also gave both us and the holders of the Class E Shares
and the Class F Shares rights to exchange those preferred shares for shares of
our common stock, as long as our stockholders approve the issuance of the shares
of our common stock underlying the preferred shares and the American Stock
Exchange approves the listing of these shares of common Stock. Specifically, if
the stockholders approve the common stock issuance and the American Stock
Exchange lists these the shares of common stock, then the holders of the Class E
Share have the right to sell to us, and we have the right to purchase from them,
each outstanding Class E Share in exchange for 1,355,862 shares of our common
stock per Class E Share. Similarly, the holders of the Class F Shares have the
right to sell to us, and we have the right to purchase from them, each
outstanding Class F Share in exchange for 125,898 shares of our common stock per
Class F Share. The exchange agreements also provided that, should any sale,
lease, exchange or other disposition of all or substantially all of our assets
occur while the Class E Shares and the Class F Shares are outstanding, each
holder of the Class E Shares has the right to sell to us all Class E Shares in
exchange for 1,355,862 shares of common stock per Class E Share. Similarly, each
holder of Class F Share has the right to sell to us all Class F Shares in
exchange for 125,898 shares of common stock per Class F Share.
The board of directors determined that the terms of the exchange agreements were
appropriate in order to provide the former holders of the Class C Stock and the
Class D Stock with the economic equivalence of the conversion rights they held
in conjunction with the Class C Stock and Class D Stock. Upon exchange of all
Class E Shares, the former holders of the Class C Stock will receive 27,117,240
shares of our common stock, or the same number of shares of our common stock we
were obligated to issue to them upon conversion of the Class C Stock. Upon
exchange of all the Class F Shares, the former holders of the Class D Stock will
receive 3,021,552 shares of common stock, or the same number of shares of our
common stock that we were obligated to issue to them upon conversion of the
Class D Stock. In the stipulation of settlement for the Augenbaum litigation,
the parties agreed on the exchange of shares of our common stock in these
specific amounts for the Class E Shares and Class F Shares, as well as the
exchange of the Class E Shares for the Class C Stock and the exchange of the
Class F Shares for the Class D Stock. A hearing before the Delaware Chancery
Court for approval of the stipulation of settlement was held on September 15,
2003. After this hearing, the court entered an order approving the stipulation
of settlement as submitted. The stipulation of settlement became final on
October 15, 2003 when the appeal period terminated with no appeal having been
filed.
109
At the request of the investors in our equity financing, we and Gibralt US, on
behalf of itself and the other holders of the Class E Shares and Class F Shares,
agreed not to exchange the Class E Shares or Class F Shares for common stock
until the second closing of the equity financing. Gibralt US also acknowledged
that the common stock to be issued upon the exchange of the Class E Shares and
Class F Shares will not be eligible to participate in the offering to
stockholders we are making pursuant to this prospectus, and that only those
shares of common stock held by Gibralt US and the other holders of Class E
Shares and Class F Shares as of August 29, 2003 are eligible to participate in
the offering.
Pursuant to the August 2003 exchange agreement, in connection with the equity
financing, on November 25, 2003 we exchanged all outstanding shares of Class E
Stock for a total of 27,117,240 shares of common stock and we exchanged all
outstanding shares of Class F Stock for a total of 3,021,552 shares of common
stock. After these shares were exchanged, we had no shares of preferred stock
outstanding.
PARTICIPATION BY RELATED PARTIES IN THE EQUITY FINANCING
INVESTMENT BY THE HOLDERS OF THE CLASS E NOTES AT THE FIRST CLOSING. As part of
the negotiation of the equity financing, the investors indicated that, were they
to purchase notes that would be convertible into shares of our common stock, the
notes would be required to be secured by all of our assets, including the patent
rights acquired by us with the proceeds of the first closing and also by those
assets that, prior to the first closing, were encumbered by security interests
in favor of the then-outstanding Class E Notes. As a result, we offered to
Gibralt US and to the other three holders of the Class E Notes the opportunity
to purchase $2,000,000 of the Secured Bridge Notes, which was the outstanding
principal amount of the Class E Notes, and to use part of the proceeds of the
first closing to retire the Class E Notes in full, making the collateral
securing the Class E Notes available to all holders of the Secured Bridge Notes.
The board of directors unanimously, with the abstention of Samuel Belzberg,
approved the terms on which the holders of the Class E Notes would participate
in the equity financing at the first closing. Under those terms, the full
$2,000,000 new investment made by the holders of the Class E Notes would be
allocated to the purchase of Secured Bridge Notes and the holders of the Class E
Notes would, in exchange, terminate the security interest encumbering our assets
and make those assets available as collateral for all holders of the Class E
Notes. The former holders of the Class E Notes received as security for the
repayment of the Secured Bridge Notes held by them, a pro rata interest in the
same collateral securing all of the other Secured Bridge Notes. As is the case
with all Secured Bridge Notes, the Secured Bridge Notes held by Gibralt US and
the other former holders of the Class E Notes converted into common stock on
November 25, 2003 at a purchase price of $0.08 per share.
CONVERSION OF CLASS D NOTES AT FINAL CLOSING. The terms and conditions under
which we issued our outstanding Class D Notes to Gibralt US, Peter Norris and
James A. Wylie, Jr. in May 2003 included a requirement that the Class D Notes be
converted into equity on the same terms and conditions on which all other
investors participate in an equity financing. Therefore, on November 25, 2003,
the $1,200,000 principal amount plus accrued interest on the Class D Notes
converted into our common stock at a price of $0.10 per share, and we issued
12,482,335 shares of common stock to the former holders of the Class D Notes.
AGENCY CAPACITY OF GIBRALT US. After the first closing of the equity financing,
Gibralt US ceased to act as the "Designated Note Purchaser" on behalf of the
Class E Notes (because these notes were redeemed and are no longer outstanding),
and at the second closing, ceased to act as the "Designated Lender" on behalf of
the holders of the Class D Notes because they are converted at the second
closing. In addition, Gibralt US agreed to act as the "Designated Note Investor"
under the security agreement that provided the security interest to the Secured
Bridge Note holders and as the "Designated Pledgeholder" under the pledge
agreement under which Gibralt US held all outstanding shares of Diomed PDT,
Inc., an indirect wholly-owned subsidiary of us, as security for holders of the
Secured Bridge Notes and the Class E Notes.
On August 21, 2003, Gibralt US also agreed, on behalf of the holders of the
Class E Shares and the Class F Shares, that their right to registration of those
shares of our common stock for which they are exchangeable would be governed by
the registration rights agreement entered into connection with the equity
financing rather than the agreements that had been entered into at the time of
the acquisition of the Class C Stock and the Class D Stock. On August 21, 2003,
Gibralt US, acting on behalf of all holders of the Class D Notes, also agreed
that although it had the right to declare the Class D Notes immediately due and
payable , it would extend this deadline to the business day following the second
closing of the equity financing.
ACCELERATED CONVERSION OF CLASS A CONVERTIBLE PREFERRED STOCK ON MARCH 31, 2003
In March 2003, the board of directors determined to accelerate the conversion
into common stock of all our outstanding shares of Class A Stock, including
those shares owned by related parties, pursuant to the authority reserved in the
board under the terms of Class A Stock. Pursuant to the terms of the Class A
Stock, on December 31, 2002 the Class A Stock had begun to automatically convert
into common stock at the rate of 5% of the aggregate number of shares originally
issued at that date and at the end of each month thereafter, with those shares
that were not converted at the end of February
110
2004 automatically converting into common stock on February 29, 2004. The
original terms of the Class A Stock also provided that after February 28, 2003,
the board of directors could in its discretion accelerate the rate of conversion
or increase the amount of shares of Class A Stock being converted, so long as
the change applied equally to all shares of Class A Stock.
The purpose for the conversion feature of the Class A Stock, when the terms of
the Class A Stock were designated in February 2002, was to permit a staggered
increase in the number of shares of common stock available for trading in order
to minimize the market disruption that otherwise may occur if a large block of
shares were to become tradable at once. In March 2003, the board determined that
the effect of the incremental conversion of Class A Stock into common stock
would impair our ability to procure additional equity investment. The board
further determined that due to the apparent negative impact on our ability to
obtain equity financing, the board's goal is to have only one class of capital
stock outstanding prior to completing our permanent financings. Pursuant to our
discretion under the terms of the Class A Stock, the board determined to cause
all of the outstanding shares of Class A Stock to convert into common stock as
of March 31, 2003. This acceleration affected all holders of Class A Stock
equally, whether related parties or non-affiliated parties.
As a result of the board's determination to accelerate the conversion of the
Class A Stock, on March 31, 2003 we converted all 13,142,888 outstanding shares
of Class A Stock (including 5,863,840 shares held by related parties) into an
equal number of shares of common stock, resulting in a total of 29,711,749
shares of common stock outstanding and no Class A Stock outstanding. Those
related parties who owned Class A Stock as of March 31, 2003 immediately prior
to the conversion into common stock and the numbers of shares they held are as
follows:
NAME SHARES OF CLASS A STOCK OWNED
---- -----------------------------
Samuel Belzberg (Director)
(shares registered to Gibralt
Capital Corporation) 849,999
Peter Norris (Director until
September 9, 2003)
(shares registered to spouse) 13,942
Ajmal Khan (holder of greater than 5% of our capital stock) (1,986,649 shares
registered to Verus Investments Holdings, Inc. and 1,700,000 shares registered
to
Verus International Group Limited) 3,686,649
Winton Capital Corp. (holder of
greater than 5% of our
capital stock) 1,313,250
The benefit derived by those related parties of us who owned Class A Stock on
March 31, 2003 was the conversion of our Class A Stock into common stock. This
was the same as the benefit derived by all other former holders of Class A Stock
as a result of this transaction.
111
TRANSACTIONS INVOLVING AFFILIATES OF NATEXCO CORP., OUR PREDECESSOR CORPORATION
Because of their management positions, organizational efforts and/or percentage
share ownership of Natexco Corp., our predecessor corporation, Gerald A. Mulhall
and Anthony Mulhall may be deemed to be our "parents" and "promoters," as the
Securities Act and the rules thereunder define those terms. Mr. John H. and Ms.
Terese M. Tetstill may be "parents" and "promoters" of Security Software, Inc.
because of their present management positions with, and organizational efforts
on behalf of, Security Software. Because of these relationships, transactions
with Security Software, Messrs. Gerald A. Mulhall and Anthony Mulhall, Aboyne
Management Ltd., of which Gerald A. Mulhall is the president and controlling
stockholder, and Mr. and Ms. Tetstill should not be considered to have occurred
at arms-length.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT
COMPENSATION PLANS
The following table lists information as of December 31, 2002 with respect to
compensation plans under which our equity securities are authorized for
issuance. The information shown below addresses those outstanding options,
warrants and rights which were outstanding and exercisable as of December 31,
2002:
NUMBER OF SECURITIES
NUMBER OF SECURITIES REMAINING AVAILABLE
TO BE ISSUED UPON FOR FUTURE ISSUANCE
EXERCISE OF WEIGHTED AVERAGE UNDER EQUITY
OUTSTANDING OPTIONS, EXERCISE PRICE OF COMPENSATION PLANS
WARRANTS AND RIGHTS OUTSTANDING (EXCLUDING
(EXPRESSED IN COMMON OPTIONS, WARRANTS SECURITIES REFLECTED
PLAN CATEGORY STOCK)(A) AND RIGHTS(B) IN COLUMN)(A)(C)
- --------------------------------------------- ---------------------- -------------------- ----------------------
Equity compensation plans approved by 1,150,115 $2.90 1,375,094
stockholders
Equity compensation plans not approved by 0 0 0
stockholders
Total 1,150,115 1,375,094
BENEFICIAL OWNERSHIP
The following table sets forth beneficial ownership information as of December
31, 2003 for our capital stock owned by:
- our chief executive officer and other executive officers whose
salary and bonuses for 2002 exceeded $100,000 (the "Named Executive
Officers");
- each director;
- our directors and executive officers as a group; and
- each person who is known by us to beneficially own more than 5% of
the outstanding shares of our common stock and other classes of
voting stock.
To our knowledge, each person, along with his or her spouse, has sole voting and
investment power over the shares unless otherwise noted.
112
AMOUNT AND NATURE OF
NAME BENEFICIAL OWNERSHIP PERCENT OF CLASS(1)
- ----- -------------------- ------------------
Samuel Belzberg 55,650,963 (2) 17.1%
Gary Brooks - 0 - 0%
A. Kim Campbell 75,000 (3) 0%
Geoffrey Jenkins 50,000 (4) 0%
Peter Klein - 0 - (5) 0%
Peter Norris 749,421 (6) .2%
David Swank - 0 - 0%
James A. Wylie, Jr. 1,149,010 (7) .4%
Lisa Bruneau 22,396 (8) 0%
Kevin Stearn 71,128 (9) 0%
All officers and directors as a group (10 persons) 57,767,918 17.7%
Beneficial Owners of More than 5% of the Company's common stock
Nathan Low (10) 22,193,746 6.6%
Zesiger Capital Group (11) 42,460,000 13.4%
(1) Calculated pursuant to Rule 13d-3 of the Rules and Regulations under the
Securities Exchange Act of 1934, as amended. Percentages shown for all officers
and directors as a group are calculated on an aggregate basis and percentages
shown for individuals are rounded to the nearest one-tenth of one percent. The
mailing address for each of the directors and officers is c/o Diomed, Inc., One
Dundee Park, Andover, MA 01810.
(2) Includes 55,600,963 shares of common stock owned by Gibralt Capital Corp.
and 50,000 shares issuable upon the exercise of stock options by Mr. Belzberg.
Mr. Belzberg is an affiliate of Gibralt Capital Corp. and Gibralt US, and
therefore is deemed to beneficially own the securities it holds. On January 8,
2004, Gibralt US sold 956,500 shares of common stock (which are registered
shares that Gibralt US purchased from other stockholders in a private
transaction on January 17, 2003) to Winton Capital Corp. at a price of $0.08 per
share. Accordingly, as of January 9, 2004, Mr. Belzberg beneficially owned
54,594,463 shares of common stock. Marc Belzberg, the son of Samuel Belzberg, is
a principal of Winton Capital. Samuel Belzberg disclaims beneficial ownership of
the securities held by Winton Capital.
(3) Includes 75,000 shares of common stock issuable upon the exercise of stock
options.
(4) Includes 50,000 shares of common stock issuable upon the exercise of stock
options.
(5) Stock options to purchase 166,375 shares that Mr. Klein formerly held were
automatically terminated because he did not exercise those options within 90
days after his resignation as president and chief executive officer.
(6) Includes (i) 125,898 shares of common stock issued on November 25, 2003 upon
exchange of Class F Stock owned by Mr. Norris, (ii) 522,445 shares of common
stock issued on November 25, 2003 upon conversion of Class D Notes held by Mr.
Norris, (iii) 16,402 shares of common stock owned by Mr. Norris' spouse, and
(iv) 84,676 shares issuable upon the exercise of stock options. Mr. Norris
resigned as a director on September 9, 2003, however, because he was a director
at the time we agreed to the final terms of the equity financing, we have
included a reference to his securities in this table of beneficial ownership.
(7) Includes (i) 125,898 shares of common stock issued on November 25, 2003 upon
exchange of Class F Stock owned by Mr. Wylie, (ii) 523,112 shares of common
stock issued on November 25, 2003 upon conversion of Class D Notes held by Mr.
Wylie and (iii) 500,000 shares of common stock issuable upon the exercise of
stock options.
(8) Includes 22,396 shares of common stock issuable upon the exercise of stock
options that we have issued.
(9) Includes 71,128 shares of common stock issuable upon the exercise of stock
options that we have issued.
113
(10) Mr. Low is the president of Sunrise Securities Corp, our placement agent in
the equity financing. We issued warrants to purchase 40,879,063 shares of common
stock to the placement agent, which in turn transferred these warrants to Mr.
Low and eight other employees, one former employee, a consultant and a
charitable trust. According to the Schedule 13D filed by Mr. Low with the
Securities and Exchange Commission on December 5, 2003, Mr. Low held our
securities as follows: (i) 2,408,181 shares of common stock issued to him upon
conversion of secured bridge notes held by him at the second closing of the
equity financing on November 25, 2003, (ii) 8,483,703 shares of common stock
issued to him upon exercise of warrants to purchase shares at $0.001 per share,
(iii) 3,024,767 shares of common stock issuable to him upon exercise of warrants
to purchase shares at $0.08 per share and (iv) 8,277,095 shares issuable to him
upon exercise of warrants to purchase shares at $.10 per share. The 22,193,746
shares of common stock beneficially held by Mr. Low does not include 5,659,712
shares of common stock beneficially held by Sunrise Foundation Trust, a
charitable trust of which Mr. Low is a trustee. In his Schedule 13D, Mr. Low
disclaimed beneficial ownership of the shares of common stock held by Sunrise
Foundation Trust. Mr. Low's address is c/o Sunrise Securities Corp., 641
Lexington Avenue, 25th Floor, New York, NY 10022.
(11) According to the Schedule 13G filed by Zesiger Capital Group with the
Securities and Exchange Commission on December 10, 2003, consisting of
42,460,000 shares over which Zesiger has sole dispositive power, as investment
adviser for Zesiger clients, none of whom individually owns more than 5% of the
common stock. Zesiger's address is 320 Park Avenue, 30th Floor, New York, NY
10022.
114
PLAN OF DISTRIBUTION
The shares of common stock being offered hereby are being offered to the persons
who were stockholders of record as of August 29, 2003 at a price of $0.10 per
share. We are directly offering the shares to these persons. No broker or dealer
will participate in this offering as underwriter or in any other capacity.
The offeree stockholders, who are stockholders of record as of August 29, 2003,
that desire to purchase shares will be required to submit a stock order form
pursuant to which such persons will agree to purchase such shares from us,
subject to the limitations on the amount of shares that they can purchase in the
offering.
Each offeree stockholder is entitled to purchase directly from us that number of
shares that equals the number of shares that offeree stockholder owned of record
on August 29, 2003. These shares are referred to as the allotted shares. Each
person's purchase of allotted shares will not be conditioned upon the
consummation of the purchase of shares by any other person.
Offeree stockholders that purchase all of the allotted shares that they are
entitled to purchase, may be able to purchase additional shares on a prorated
basis with all other offeree stockholders who execute a stock order form to
purchase additional shares. These shares are referred to as the over-allotted
shares.
Our common stock is listed on the American Stock Exchange under the symbol
"DIO." We estimate that the expenses of this offering will be $325,000, and we
will pay those expenses.
TRANSFER AGENT
Our common stock transfer agent and registrar is Corporate Stock Transfer, 3200
Cherry Creek South Drive, Suite 430, Denver, CO 80209.
LEGAL MATTERS
The validity of the common stock being offered hereby is being passed upon for
us by McGuireWoods LLP.
EXPERTS
We appointed BDO Seidman, LLP as our independent public accountants for the year
ended December 31, 2002. The 2002 Financial statements included in this
prospectus have been audited by BDO Seidman, LLP, independent certified public
accountants, to the extent and for the period set forth in their report (which
contains an explanatory paragraph regarding the Company's ability to continue as
a going concern) appearing elsewhere herein and are included in reliance upon
such report given upon the authority of said firm as experts in auditing and
accounting.
The audited financial statements for the year ended December 31, 2001
incorporated by reference in this registration statement have been audited by
Arthur Andersen LLP, independent public accountants, as indicated in their
report with respect thereto, and are included herein in reliance upon the
authority of said firm as experts in accounting and auditing.
Arthur Andersen's reports on consolidated financial statements for the year
ended December 31, 2001 did not contain an adverse opinion, or disclaimer or
opinion, nor were they qualified or modified as to uncertainty, audit scope or
accounting principles.
During the fiscal year ended December 31, 2001, and the subsequent interim
period through the date hereof, there were no disagreements with Arthur Andersen
on any matters of accounting principles or practices, financial statement
disclosure, or auditing scope or procedure which disagreement, if not resolved
to Arthur Andersen's satisfaction, would have caused it to make reference to the
subject matter of the disagreement in connection with its report on our
consolidated financial statements for that year.
115
WHERE YOU CAN FIND MORE INFORMATION
We have filed with the Securities and Exchange Commission a registration
statement on Form SB-2 under the Securities Act of 1933, as amended, with
respect to the common stock to be offered hereby. As used herein, the term
"registration statement" means the initial registration statement and any and
all amendments thereto. This prospectus, which is a part of the registration
statement, contains all material information about the contents of any agreement
or other document filed as an exhibit to the registration statement. For further
information with respect to us and our common stock reference is made to the
registration statement, including the exhibits and schedules thereto. Statements
contained in this prospectus concerning the contents of any contract or any
other document contain all material information regarding that contract or other
document but are not necessarily the full text of that contract or document, and
reference is made to such contract or other document filed with the SEC as an
exhibit to the registration statement.
A copy of the registration statement, including the exhibits thereto, may be
inspected without charge at the Public Reference section of the commission at
Room 1024, Judiciary Plaza, 450 Fifth Street, N.W., Washington, D.C. 20549 and
at the following regional offices of the SEC: Northeast Regional Office, 233
Broadway, New York, New York 10279; and Midwest Regional Office, 175 W. Jackson
Boulevard, Suite 900, Chicago, Illinois 60604. Copies of the registration
statement and the exhibits and schedules thereto can be obtained from the Public
Reference Section of the SEC upon payment of prescribed fees, or at its web site
at http://www.sec.gov.
Our common stock is registered under Section 12 of the Securities Exchange Act
of 1934 as amended, and we are therefore subject to the reporting requirements
of Section 13 of the Securities Exchange Act of 1934, as amended. In accordance
therewith, we file periodic reports with the Securities and Exchange Commission.
Our periodic reports are available for inspection and copying at the public
reference facility.
116
FINANCIAL STATEMENTS
DIOMED HOLDINGS, INC. AND SUBSIDIARIES
Table of Contents
Page
----
Reports of Independent Certified Public Accountants F-2
Audited Consolidated Balance Sheets as of December 31, 2001 and 2002 F-4
Audited Consolidated Statements of Operations for the Years Ended December 31, 2000, 2001 and 2002 F-5
Audited Consolidated Statements of Cash Flows for the Years Ended December 31, 2000, 2001 and 2002 F-6
Consolidated Statements of Stockholders' Equity (Deficit) for the Years Ended December 31, 2000,
2001 and 2002 F-7
Notes to Audited Consolidated Financial Statements F-9
Unaudited Consolidated Balance Sheets - September 30, 2003 F-30
Unaudited Consolidated Statements of Operations - Nine Months Ended September 30, 2003 F-32
Unaudited Consolidated Statements of Cash Flows - Nine Months Ended September 30, 2003 F-33
Notes to unaudited Consolidated Financial Statements F-35
F-1
Report of Independent Certified Public Accountants
We have audited the accompanying consolidated balance sheet of Diomed Holdings,
Inc. as of December 31, 2002 and the related consolidated statement of
operations, stockholders' equity/(deficit), and cash flows for the year then
ended. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audit. The consolidated financial statements of Diomed
Holdings, Inc. as of December 31, 2001 and for each of the two years in the
period ended December 31, 2001 were audited by other auditors who have ceased
operations. Those auditors expressed an unqualified opinion on those financial
statements in their report dated March 27, 2002.
We conducted our audit in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Diomed Holdings,
Inc. and subsidiaries at December 31, 2002 and the results of their operations
and their cash flows for the year then ended in conformity with accounting
principles generally accepted in the United States of America.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
consolidated financial statements, the Company has suffered significant
recurring losses from operations and has a net capital deficiency. These matters
raise substantial doubt about its ability to continue as a going concern.
Management's plans in regard to these matters are also described in Note 1. The
consolidated financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
/s/ BDO SEIDMAN, LLP
Boston, Massachusetts
March 5, 2003
F-2
This is a copy of the audit report previously issued by Arthur Andersen LLP in
connection with Diomed Holdings, Inc.'s filing Form 10-KSB for the year ended
December 31, 2001. This audit report has not been reissued by Arthur Andersen
LLP in connection with this filing on Form 10-KSB, as Arthur Andersen LLP ceased
providing audit services as of August 31, 2002. The balance sheet as of December
31, 2000 referred to in this report has not been included in the accompanying
financial statements.
Report of Independent Certified Public Accountants
To Diomed Holdings, Inc.:
We have audited the accompanying consolidated balance sheet of Diomed Holdings,
Inc. (a Nevada corporation) and subsidiaries as of December 31, 2000 and 2001,
and the related consolidated statements of operations, stockholders' equity
(deficit) and cash flows for each of the two years in the period ended December
31, 2001. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of Diomed Holdings, Inc. and
subsidiaries as of December 31, 2000 and 2001, and the results of their
operations and their cash flows for each of the two years in the period ended
December 31, 2001 in conformity with accounting principles generally accepted in
the United States.
/s/ Arthur Andersen LLP
Boston, Massachusetts
March 27, 2002
F-3
DIOMED HOLDINGS, INC.
Audited Consolidated Balance Sheets
December 31, 2001 December 31, 2002
----------------- -----------------
ASSETS
Current Assets:
Cash and cash equivalents $ 322,566 $ 1,848,646
Restricted cash -- 75,000
Accounts receivable, net of
allowance for doubtful accounts
of $217,000 and $308,000 in
2001 and 2002, respectively 869,231 676,444
Inventories 2,402,182 2,012,141
Prepaid expenses and other current
assets 201,429 214,253
------------ ------------
Total current assets 3,795,408 4,826,484
------------ ------------
Property and Equipment:
Office equipment and furniture and
fixtures 1,209,649 1,229,307
Manufacturing equipment 740,000 731,787
Leasehold improvements 631,900 652,141
------------ ------------
2,581,549 2,613,235
Less--Accumulated depreciation and
amortization 1,519,607 1,548,085
------------ ------------
1,061,942 1,065,150
Intangible Assets, net of accumulated
amortization of $221,000 and $417,000
in 2001 and 2002, respectively (Note 5) 760,542 564,270
Other Assets:
Deposits 590,600 597,426
Deferred financing costs 387,133 80,000
Deferred acquisition costs 39,981 --
------------ ------------
Total other assets 1,017,714 677,426
------------ ------------
$ 6,635,606 $ 7,133,330
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
(DEFICIT)
Current Liabilities:
Bank loan (Note 6) $ 874,449 $ 216,306
Current maturities of convertible
debt (Note 8a) 1,786,640 --
Promissory notes (Note 8d) -- 445,208
Current maturities of capital lease
obligations (Note 8f) 46,383 33,993
Accounts payable 2,866,346 1,608,623
Accrued expenses (Note 4) 883,769 1,444,100
Customer advance 293,463 --
Total current liabilities 6,751,050 3,748,230
------------ ------------
Promissory Note Payable 936,000 936,000
------------ ------------
Related Party Convertible Debt, less
current maturities (Note 8e)
($2,000,000 face value, net of
$2,000,000 debt discount) -- --
Capital Lease Obligations, less current
maturities (Note 8f) 39,817 10,018
------------ ------------
Commitments (Note 13)
Total liabilities 7,726,867 4,694,248
------------ ------------
Stockholders' Equity (Deficit):
Series A convertible preferred
stock, $0.001 par value
Authorized--3,500,000 shares
Issued and outstanding--2,725,000
shares at December 31, 2001 27,250 --
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--14,688,662
shares at December 31, 2002 -- 14,689
Undesignated preferred stock, $.001
par value
Authorized--2,000,000 shares
Issued and outstanding--zero shares
at December 31, 2002
Common stock, $0.001 par value
Authorized--40,000,000 shares at
December 31, 2001 and 80,000,000
shares at December 31, 2002
Issued and outstanding--9,179,955
shares at December 31, 2001 and
15,023,087 at December 31, 2002 9,180 15,023
Additional paid-in capital 30,324,556 41,704,774
Cumulative translation adjustment 130 158,312
Accumulated deficit (31,452,377) (39,453,715)
------------ ------------
Total stockholders' equity (deficit) (1,091,261) 2,439,083
------------ ------------
$ 6,635,606 $ 7,133,330
============ ============
The accompanying notes are an integral part of these consolidated financial
statements
F-4
DIOMED HOLDINGS, INC.
Audited Consolidated Statement of Operations
Years Ended December 31,
--------------------------------------------------------
2000 2001 2002
------------ ------------ ------------
Revenues $ 9,424,514 $ 7,731,530 $ 5,556,439
Cost of Revenues 7,414,564 6,140,557 5,214,524
------------ ------------ ------------
Gross profit 2,009,950 1,590,973 341,915
------------ ------------ ------------
Operating
Expenses:
Research and
development 1,270,816 1,216,400 928,167
Selling and
marketing 1,647,510 2,520,337 3,263,517
General and
administrative 2,228,777 2,615,600 3,824,652
------------ ------------ ------------
Total operating
expenses 5,147,103 6,352,337 8,016,336
------------ ------------ ------------
Loss from
operations (3,137,153) (4,761,364) (7,674,421)
Interest Expense,
net (338,843) (2,893,031) (326,917)
------------ ------------ ------------
Net loss (3,475,996) (7,654,395) (8,001,338)
Value Ascribed to
Call Option
and Beneficial
Conversion
Feature
Related to
Preferred Stock -- (423,180) --
------------ ------------ ------------
Net loss
applicable to
common
stockholders $ (3,475,996) $ (8,077,575) $ (8,001,338)
============ ============ ============
Net loss per
share (Note 3):
Basic and
diluted net
loss per share
applicable to
common
stockholders $ (0.82) $ (0.96) $ (0.59)
============ ============ ============
Basic and
diluted
weighted
average common
shares
outstanding 4,246,004 8,406,721 13,603,284
============ ============ ============
The accompanying notes are an integral part of these consolidated financial
statements
F-5
DIOMED HOLDINGS, INC.
Audited Consolidated Statements of Cash Flows
Years Ended December 31,
-----------------------------------------------------
2000 2001 2002
----------- ----------- -----------
Cash Flows from Operating
Activities:
Net loss $(3,475,996) $(7,654,395) $(8,001,338)
Adjustments to
reconcile net loss to
net cash used in
operating activities-
Depreciation and
amortization 467,566 709,618 627,366
Noncash interest
expense on
convertible debt -- 2,700,000 225,260
Issuance of stock
options to
consultants -- 55,000 82,329
Changes in
operating
assets and
liabilities,
net of
acquisition
Accounts
receivable (1,965,681) 2,910,905 192,786
Inventories (421,071) 24,779 390,041
Prepaid expenses
and other current
assets 256,583 (35,201) (12,824)
Deposits -- (143,478) --
Accounts payable 226,307 932,898 (658,606)
Accrued expenses (852,658) (662,378) 560,331
Customer advance -- 293,463 (293,463)
----------- ----------- -----------
Net cash used in operating
activities (5,764,950) (868,789) (6,888,118)
Cash Flows from Investing
Activities:
Purchases of property
and equipment (272,414) (489,323) (406,924)
Restricted cash -- -- (75,000)
----------- ----------- -----------
Net cash used in investing
activities (272,414) (489,323) (481,924)
Cash Flows from Financing
Activities:
Proceeds from
issuance of common
stock, net 2,784,491 -- 8,293,713
Proceeds from issue
of preferred
stock, net -- 2,532,470 --
Proceeds from
convertible loan
notes 2,700,000 -- --
Proceeds from related
party convertible
debt -- 700,000 2,000,000
Promissory note
payable 936,000 -- --
Net proceeds
(payments) from
bank borrowings (115,389) (800,766) (658,142)
Payments on
convertible debt (34,325) (225,000) (700,000)
Payments on capital
lease obligations (50,388) (50,751) (42,190)
Payments on
promissory notes -- -- (153,911)
Increase in deferred
financing costs -- (387,133) (80,000)
Net cash provided by
financing activities 6,220,389 1,768,820 8,659,470
----------- ----------- -----------
Effect of Exchange Rate
Changes (127,195) (207,014) 236,651
----------- ----------- -----------
Net Increase in Cash and
Cash Equivalents 55,830 203,694 1,526,080
Cash and Cash Equivalents,
beginning of period 63,042 118,872 322,566
----------- ----------- -----------
Cash and Cash Equivalents,
end of period $ 118,872 $ 322,566 $ 1,848,646
=========== =========== ===========
Supplemental Disclosure of
Cash Flow Information:
Cash paid for interest $ 332,285 $ 155,438 $ 118,917
=========== =========== ===========
Supplemental Disclosure of
Noncash Investing and
Financing Activities:
Acquisition of
property and
equipment under
capital lease
obligations $ 32,065 $ -- $ --
=========== =========== ===========
Exchange of
convertible debt
for QLT intangible
assets and
inventory $ 1,200,000 $ -- $ --
=========== =========== ===========
Conversion of
convertible debt
into common stock $ -- $ 2,475,000 $ 1,247,691
=========== =========== ===========
Value ascribed to
warrants issued in
connection with
issuance of
convertible debt
to stockholders $ -- $ 96,900 $ 8,200
Value ascribed to
call option and
beneficial
conversion feature
related to
preferred stock $ -- $ 423,180 $ --
Value ascribed to
debt discount and
warrants feature
related to
convertible debt $ -- $ -- $ 2,000,000
Reclassification
offering costs to
additional paid-in
capital $ -- $ -- $ 387,133
Conversion of
accounts payable
to notes payable $ -- $ -- $ 599,118
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
Class A Convertible
Series A Convertible Preferred Preferred
Preferred Stock Common Stock Stock Stock
Number $0.01 Par Number of $0.001 Par Number of $0.001 Par Paid-in
of Shares Amount Shares Amount Shares Amount Capital
--------- ------ ------ ------ ------ ------ -------
Balance, December 31, 1999 -- -- 3,954,238 $ 3,954 -- -- $ 19,289,991
Issuance of stock
and warrants,
net of offering
costs of $71,036 -- -- 815,865 816 -- -- 2,783,675
Change in
cumulative
translation
adjustment -- -- -- -- -- -- --
Net loss -- -- -- -- -- -- --
Comprehensive loss
Balance, December 31, 2000 -- -- 4,770,103 4,770 -- -- 22,073,666
Issuance of Series
A convertible
preferred stock,
net of issuance
costs of $192,530 2,725,000 27,250 -- -- -- 2,505,220
Value ascribed to
call option and
beneficial
conversion
feature related
to preferred
stock -- -- -- -- -- -- 423,180
Conversion of debt
into common
stock, including
$2,700,000
related to
beneficial
conversion
feature -- -- 2,475,000 2,475 -- -- 5,172,525
Value ascribed to
warrants issued
in connection
with issuance of
debt to
stockholders
equity -- -- -- -- -- -- 96,900
Compensation
expense related
to issuance of
stock options to
consultants for
services -- -- -- -- -- -- 55,000
Recapitalization
of common stock
held by certain
investors -- -- 1,934,852 1,935 -- -- (1,935)
Change in
cumulative
translation
adjustment -- -- -- -- -- -- --
Net loss -- -- -- -- -- -- --
Comprehensive loss
Balance, December 31, 2001 2,725,000 27,250 9,179,955 9,180 -- -- 30,324,556
Conversion of debt
into common stock -- -- 135,735 136 -- -- 339,201
Conversion of
Series A
convertible
preferred stock
into Class A
convertible
preferred Stock (2,725,000) (27,250) -- -- 1,362,500 1,363 25,887
Conversion of
common stock
into Class A
convertible
preferred stock -- -- (9,315,690) (9,316) 2,328,923 2,329 6,987
Common stock
assumed in the
Merger -- -- 9,200,000 9,200 -- -- (9,200)
Issuance of common
stock, net of
issuance costs
of $2,093,420 -- -- 5,000,000 5,000 -- -- 7,901,580
Value ascribed to
warrants issued
in connection
with issuance of
debt to
stockholders -- -- -- -- -- -- 8,200
Total
Stockholders'
Translation Accumulated Equity Comprehensive
Adjustment Deficit (Deficit) Loss
---------- ------- --------- ----
Balance, December 31, 1999 (38,341) $(19,898,806) $ (643,202)
Issuance of stock
and warrants,
net of offering
costs of $71,036 -- -- 2,784,491
Change in
cumulative
translation
adjustment 53,673 -- 53,673 $ 53,673
Net loss -- (3,475,996) (3,475,996) (3,475,996)
Comprehensive loss $ (3,422,323)
Balance, December 31, 2000 15,332 (23,374,802) (1,281,034)
Issuance of Series
A convertible
preferred stock,
net of issuance
costs of $192,530 -- -- 2,532,470
Value ascribed to
call option and
beneficial
conversion
feature related
to preferred
stock -- (423,180) --
Conversion of debt
into common
stock, including
$2,700,000
related to
beneficial
conversion
feature -- -- 5,175,000
Value ascribed to
warrants issued
in connection
with issuance of
debt to
stockholders
equity -- -- 96,900
Compensation
expense related
to issuance of
stock options to
consultants for
services -- -- 55,000
Recapitalization
of common stock
held by certain
investors -- -- --
Change in
cumulative
translation
adjustment (15,202) -- (15,202) $ (15,202)
Net loss -- (7,654,395) (7,654,395) (7,654,395)
Comprehensive loss (7,669,597)
Balance, December 31, 2001 130 (31,452,377) (1,091,261)
Conversion of debt
into common stock -- -- 339,336
Conversion of
Series A
convertible
preferred stock
into Class A
convertible
preferred Stock -- -- --
Conversion of
common stock
into Class A
convertible
preferred stock -- -- --
Common stock
assumed in the
Merger -- -- --
Issuance of common
stock, net of
issuance costs
of $2,093,420 -- -- 7,906,580
Value ascribed to
warrants issued
in connection
with issuance of
debt to
stockholders -- -- 8,200
F-7
DIOMED HOLDINGS, INC.
Consolidated Statements of Shareholders' Equity (Deficit) for the
Years Ended December 31, 2000, 2001 and 2002
Recapitalization of conversion of Series A
convertible preferred stock into Class A
convertible preferred stock -- -- -- -- 4,087,500 4,088
Recapitalization of conversion of common stock
into Class A convertible preferred stock -- -- -- 6,986,767 6,987 (6,987)
Compensation expense related to issuance of stock
options to consultants -- -- -- -- -- --
Beneficial conversion related to warrants issued in
connection with issuance of debt to stockholders -- -- -- -- -- --
Conversion of debt into Class A stock -- -- 696,060 696 907,659 --
Debt discount ascribed to warrants and
convertible notes -- -- -- -- -- --
Conversion of Class A stock into common stock -- -- 773,087 773 (773,087) (773)
Issuance additional shares of common stock -- -- 50,000 50 -- --
Change in cumulative translation adjustment -- -- -- -- -- --
Net loss -- -- -- -- -- --
Comprehensive loss
Balance December 31, 2002 -- -- 15,023,087 $ 15,023 14,688,663 $ 14,689
======= ======= ========== ============ ========== ============
Recapitalization of conversion of Series A
convertible preferred stock into Class A
convertible preferred stock (4,088) -- -- --
Recapitalization of conversion of common stock
into Class A convertible preferred stock -- -- --
Compensation expense related to issuance of stock
options to consultants 82,329 -- -- 82,329
Beneficial conversion related to warrants issued in
connection with issuance of debt to stockholders 128,700 -- -- 128,700
Conversion of debt into Class A stock -- 908,355
Debt discount ascribed to warrants and
convertible notes 2,000,000 -- -- 2,000,000
Conversion of Class A stock into common stock -- -- -- --
Issuance additional shares of common stock (50) -- -- --
Change in cumulative translation adjustment -- 158,182 158,182 $ 158,182
Net loss -- (8,001,338) (8,001,338) (8,001,338)
Comprehensive loss $ (7,843,156)
Balance December 31, 2002 $ 41,704,774 $ 158,312 $(39,453,715) $ 2,439,083
=== ==== ============ ============ ============ ============
F-8
DIOMED HOLDINGS, INC.
NOTES TO AUDITED CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2002
(1) OPERATIONS
Diomed Holdings, Inc. (the Company) and its subsidiaries specialize in
developing and commercializing minimal and micro-invasive medical procedures
that use its laser technologies and disposable products.
Previously, the operations of the Company were those 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. via a reverse merger (see Note 14).
Some of 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.
The Company's consolidated financial statements have been presented on the
basis that it is a going concern, which contemplates the realization of assets
and the satisfaction of liabilities in the normal course of business. The
Company has experienced significant recurring losses from operations and has a
net capital deficiency in the amount of $1.1 million as of December 31, 2002. As
further explained, the Company is exploring raising additional capital through
an equity financing in order to fund its operations in 2003. There can be no
assurances that additional financing will be obtained. The consolidated
financial statements do not include any adjustments relating to the
recoverability and classification of asset amounts or the amounts and
classification of liabilities that might be necessary should the Company be
unable to continue as a going concern.
In December 2002, the Company completed a $2.0 million bridge financing,
provided by an affiliated shareholder, in the form of convertible Notes due
January 1, 2004. To fund its operations in 2003, the Company will need to
complete an additional debt or equity financing or put in place a credit
facility to supplement the Company's commercialization of EVLT(TM). The Company
anticipates it will have access to additional funding sources from affiliated
shareholders and new private and institutional investors. The Company is engaged
in negotiations to appoint an investment banking firm (with which the Company
has no prior relationship) as its exclusive financial advisor to provide advice
relating to the Company's capital structure and to explore raising additional
capital through an equity financing. The Company anticipates completing a
financing transaction by the end of the second quarter of 2003. The Company will
require the proceeds of any such 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. However, additional
financing may not 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.
(2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The accompanying consolidated financial statements reflect the application
of certain accounting policies as 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. Estimates and
assumptions principally relate to reserves, including inventory, doubtful
accounts and product warranty, and to services performed by third parties
but not yet invoiced. Actual results could differ from those estimates.
F-9
(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 year-end. Results of operations are
translated using the weighted average exchange rate in effect during the
year. 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. In December 1999, the
Securities and Exchange Commission (SEC) issued Staff Accounting Bulletin
(SAB) No. 101, Revenue Recognition in Financial Statements, which
establishes guidance in applying generally accepted accounting principles
to revenue recognition in financial statements and became effective
beginning with the Company's fourth quarter of the year ended December 31,
2000. The Company has determined that its existing revenue recognition
practices comply with the requirements of SAB No. 101 for all periods
presented.
(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:
December 31,
2001 2002
---------- ----------
Raw materials $1,211,870 $ 982,622
Work-in-progress 1,016,236 446,820
Finished goods 174,076 582,699
---------- ----------
$2,402,182 $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 Useful Life
- ----------- -----------
Office equipment and furniture and fixtures 2-5 years
Manufacturing equipment 2-5 years
Leasehold improvements Lesser of estimated useful
life or life of lease
Depreciation expense for the years ended December 31, 2000, 2001 and 2002
was $426,566, $529,618 and $431,366 , respectively.
(h) Intangible Assets
Intangible assets are recorded at cost and consist of manufacturing
rights acquired in 2000. These manufacturing rights are being amortized
over a five year assumed useful life (see Note 5).
F-10
(i) Long Lived Assets
The Company evaluates long-lived assets, such as intangible assets,
equipment and certain other assets, for impairment in accordance with
Financial Accounting Standards Board issued Statement of Financial
Accounting Standards No. 144 (SFAS 144), "Accounting for the Impairment or
Disposal of Long-Lived Assets. This statement supersedes Statement of
Financial Accounting Standards No. 121 (SFAS 121), "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed
Of" and amends Accounting Principles Board Opinion No. 30, "Reporting
Results of Operations--Reporting the Effects of Disposal of a Segment of a
Business and Extraordinary, Unusual and Infrequently Occurring Events and
Transactions." SFAS 144 retained the fundamental provisions of SFAS 121
for recognition and measurement of impairment, but amended the accounting
and reporting standards for segments of a business to be disposed of. 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. The adoption of SFAS 144 in 2002 did not
have a material impact on the Company's financial position or results of
operations.
(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.
(k) Concentration of Credit Risk and Significant Customers
Financial instruments that subject the Company to credit risk
consist primarily of cash, cash equivalents and trade accounts receivable.
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 generally
requires signed sales agreements, non-refundable advance payments and
purchase orders depending upon the type of customer, and letters of credit
may be required in certain circumstances. 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 December 31, 2002 is adequate. The
allowance for doubtful accounts as of December 31, 2000, 2001 and 2002 was
$300,000, $217,473 and $308,145, respectively.
The following table summarizes the number of customers that
individually comprise greater than 10% of total revenues and total gross
accounts receivable for the periods presented:
Revenues:
Years Ended December 31,
------------------------
2000 2001 2002
---- ---- ----
Customer A 20% 21% *
Customer B 18% 13% 10%
Customer C * * *
*Less than 10%
F-11
Gross Accounts Receivable:
December 31,
----------------
2001 2002
---- ----
Customer A 33% *
Customer B * *
Customer C 14% *
*Less than 10%
(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 10(g)).
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 has 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:
December 31,
---------------------------------------------------------
2000 2001 2002
---------------------------------------------------------
Net (loss) as reported $(3,475,996) $(7,654,395) $(8,001,338)
Add: Stock-based employee compensation: expense
included in reported net (loss), net of tax $ 0 $ 0 $ 0
Deduct: total stock-based employee compensation:
expense
determined under the fair value based method
for all awards, net of tax $ (65,429) $ (169,924) $ (541,367)
Pro forma net (loss) $(3,541,425) $(7,824,319) $(8,542,705)
Earnings per share:
Basic and diluted - as reported $ (0.82) $ (0.96) $ (0.59)
Basic and diluted - pro forma $ (0.83) $ (0.98) $ (0.63)
(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) as follows:
F-12
Years Ended December 31,
---------------------------------------------------------
2000 2001 2002
----------- ----------- -----------
Foreign currency translation
adjustment 53,673 (15,202) 158,182
Net loss (3,475,996) (7,654,395) (8,001,338)
----------- ----------- -----------
Comprehensive loss $(3,422,323) $(7,669,597) $(7,843,156)
=========== =========== ===========
(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.
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.
(p) Recent Accounting Pronouncements
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB
Statements SFAS Nos. 4, 44 and 64, Amendment of FASB Statement No. 13 and
Technical Corrections". SFAS No. 145 rescinds Statement No. 4, "Reporting
Gains and Losses from Extinguishments of Debt". and an amendment of that
Statement, FASB Statement No. 64, "Extinguishments of Debt Made to Satisfy
Sinking-Fund Requirements". SFAS No. 145 also rescinds FASB Statement No.
44, "Accounting for Intangible Assets of Motor Carriers". SFAS No. 145
amends FASB Statement No. 13, "Accounting for Leases" to eliminate an
inconsistency between the required accounting for sale-leaseback
transactions and the required accounting for certain lease modifications
that have economic effects that are similar to sale-leaseback
transactions. SFAS No. 145 also amends other existing authoritative
pronouncements to make various technical corrections, clarify meanings, or
describe their applicability under changed conditions. The provision of
SFAS No. 145 related to the rescission of Statement No. 4 shall be applied
in fiscal years beginning after May 15, 2002. The provisions of SFAS No.
145 related to Statement No. 13 should be for transactions occurring after
May 15, 2002. Early application of the provisions of this Statement is
encouraged. The Company does not expect that the adoption of SFAS No. 145
will have a significant impact on its consolidated results of operations,
financial position or cash flows.
In June 2002, the FASB issued SFAS No. 146 "Accounting for Costs
Associated with Exit or Disposal Activities." This statement superseded
EITF No. 94-3, "Liability Recognition for Certain Employee Termination
Benefits and Other Costs to Exit an Activity". Under this statement, a
liability or a cost associated with a disposal or exit activity is
recognized at fair value when the liability is incurred rather than at the
date of an entity's commitment to an exit plan as required under EITF
94-3. The provisions of this statement are effective for exit or disposal
activities that are initiated after December 31, 2002, with early adoption
permitted. The Company is currently evaluating the effect that the
adoption of SFAS No. 146 will have on its consolidated financial position
and results of operations.
(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 years ended December 31, 2000, 2001 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 year-end
which were not included in the calculation of diluted net loss per share since
their inclusion would be antidilutive.
F-13
December 31,
---------------------------------------------------
2000 2001 2002
---------------------------------------------------
Common stock options 840,640 1,773,740 1,603,285
Common stock warrants 1,408,304 111,924 8,455,257
Convertible preferred stock -- 5,450,000 14,688,662
Convertible debt 1,104,479 819,734 9,615,385
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 is convertible into Diomed Holdings, Inc. Common
Stock ("Common Stock") by February 14, 2004, the second annual anniversary of
the reverse merger. On December 31, 2002, according to the Class A Convertible
Preferred Stock Certificate of Designation, monthly conversions 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 will 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 will convert into Common Stock in
February 2004 (see Note 14).
On December 27, 2002 (the "Closing Date"), the Company completed a $2.0
million bridge financing with Gibralt US, Inc (the "Lender"), whose Principal
Samuel Belzberg is a member of the Company's Board of Directors. The financing
is in the form of Notes, including $1.0 million in Class A secured Notes and
$1.0 million in Class B unsecured Notes (collectively known as the "Notes"),
which are due on January 1, 2004. The Notes accrue interest, at an annual rate
of 8%, over the life of the Notes and is payable upon maturity. The Notes,
including principal and accrued interest, are convertible into Common Stock, at
the election of the Lender, at 80% of the price per share of the Common Stock in
defined transactions. Based on the $0.26 closing price per share of the Common
Stock on December 31, 2002, the Notes were convertible into 9,615,385 shares of
Common Stock.
In connection with the bridge financing, the Company issued the Lender
100% Warrant coverage or 8,333,333 Warrants, based upon the $0.24 closing price
of the Company's Common Stock on December 26, 2002. The warrants are exercisable
for a period of five years, beginning six months from the Closing Date, at an
exercise price of $0.26. If the Company, over the life of the Warrants, issues
Common Stock or Common Stock equivalents at a price per share less than the
$0.26 exercise price of the Warrants, the number of Warrants and the exercise
price of the Warrants are adjustable to the lower price per share (see Note 8e).
(4) ACCRUED EXPENSES
Accrued liabilities consist of the following:
December 31,
-------------------------------
2001 2002
---------- ----------
Payroll and related
costs $ 194,557 $ 290,260
Warranty and
related costs 103,280 538,954
Deferred rent 153,907 97,333
Professional fees 258,056 365,172
Others 173,969 152,381
---------- ----------
$ 883,769 $1,444,100
========== ==========
During the year ended December 31, 2002, the Company identified a
component problem and increased its warranty reserve accordingly.
(5) ACQUISITION OF INTANGIBLE MANUFACTURING RIGHTS
Effective October 16, 2000, the Company acquired certain manufacturing
rights and inventory of QLT, Inc. (QLT) necessary or useful to commercialize
certain series of its OPTIGUIDE(R) fibers for $1,175,000 in the form of two
promissory notes, payable within two years, and $25,000 in cash. The first
promissory note is payable in cash or in shares of common stock. The second
promissory note is payable, at the election of the Company, in cash or in shares
of common stock (see Note 8). In the event that the Company closes an initial
public offering (IPO) of its securities within two years of the closing date,
the due date of the balance payment would be accelerated to the time of
completion of the IPO and QLT would receive payment in full in the form of
common stock, at a 40% discount on the offering price per share to the public.
This contingent beneficial conversion feature, valued at $556,667 and computed
in accordance with Emerging Issues Task Force (EITF) 00-27, Application of EITF
Issue No. 98-5 to Certain Convertible Instruments, would be recorded upon the
occurrence of an IPO as a discount to the debt and amortized ratably to interest
expense over the remaining term of the debt, unless converted earlier. The
merger and private offering of common stock does not qualify as an IPO (see Note
14). The aggregate purchase price of $1,200,000 was allocated based on the fair
value of the tangible and intangible assets acquired as follows:
F-14
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. Included in general and
administrative expenses is amortization expense of approximately $41,000,
$180,000, and $196,000 for the years ended December 31, 2000, 2001 and December
31, 2002, respectively.
(6) LINE-OF-CREDIT ARRANGEMENT
Diomed, Ltd., the Company's subsidiary in the United Kingdom, has a line
of credit with Barclays Bank, which is limited to the lesser of (pound)1,200,000
($1,931,000 at December 31, 2002) or 80% of eligible accounts receivable. This
line bears interest at 3% above Barclays Bank's base rate (4.00% at December 31,
2002) and borrowings are due upon collection of receivables from customers. As a
security interest, Barclays has a lien on all of the assets of Diomed, Ltd.,
excluding inventory and certain intellectual property.
As of December 31, 2002, there were borrowings of (pound)134,394
($216,307) outstanding under this line and available future borrowings of
approximately $19,346.
(7) CONVERTIBLE LOAN NOTES
Between March and June 2000, the Company issued $2.7 million of 9%
convertible subordinated notes (the Notes), which were due on March 31, 2001.
The original conversion rate for the Notes was $3.50 per share of common stock.
The conversion rate was subject to adjustment in the event of certain
circumstances occurring, including certain issues of common stock at a price
below $3.50 per share.
Pursuant to the Stock Purchase and Recapitalization Agreement (the
Agreement), dated March 5, 2001, which provided certain existing shareholders
with additional shares of common stock which had the effect of reducing their
purchase price to $1.00 per share (see Note 10(e)), the Company agreed to adjust
the conversion price from $3.50 per share to $1.00 per share. Concurrent with
the Agreement, the noteholders agreed to convert principle of $2,475,000 into
2,475,000 shares of common stock. The remaining balance due of $225,000 was
repaid in cash in 2001.
In accordance with EITF 00-27, the Company recorded noncash interest
expense totaling approximately $2.7 million for fiscal year 2001 due to the
adjustment of the original conversion price.
(8) DEBT
a) QLT, Inc.
As of December 31, 2001, the two promissory notes due to QLT, in the
aggregate principal amount of $1,175,000, for the acquisition of the
manufacturing rights to the OPTIGUIDE(R) fibers (see Note 5) are shown on
the consolidated balance sheet as convertible debt.
With respect to the First QLT Promissory Note, by letter dated June
7, 2001, QLT formally requested payment of the $339,337 balance due under
that note. QLT also indicated that it would exercise its option under the
Optiguide Asset Purchase Agreement to require the Company to issue to QLT
shares of Company Common Stock having a value equal to $339,337. On
October 1, 2001 the Company advised QLT that it was prepared to issue
135,735 shares based on a per share price of $2.50. The Company asked QLT
to respond if the calculation was acceptable to it and also asked that, if
the calculation was not acceptable, that the matter be referred to
arbitration pursuant to the applicable provisions of the Optiguide Asset
Purchase Agreement. On January 28, 2002 the Company issued QLT 135,735
shares of Company Common Stock. On February 11, 2002, QLT informed the
Company and stated that it was accepting the 135,735 shares issued to it
under protest as it disagreed with the per share price the Company had
used in calculating the number of shares issued to it. It also asserted
that the Company had failed, in connection with the issuance of those
shares, to confirm certain registration rights and deliver a legal
opinion. The Company believes that QLT may have been asserting that it was
entitled to receive up to an additional 542,940 shares. The Company
disputes this position based on the express terms of its agreement with
QLT and the relevant facts. The terms of the agreement between the Company
and QLT require senior management of both companies to meet for a period
of 60 days to attempt to resolve disputes arising thereunder.
F-15
From the time it received notice of QLT's assertions, the Company
engaged in discussions with QLT to resolve the dispute amicably. On August
5, 2002, the Company and QLT entered into an agreement pursuant to which
the Company issued to QLT, and QLT accepted from the Company, a total of
696,059 shares of Convertible Preferred Stock to both resolve the dispute
as to the First Promissory Note and fully satisfy the Company's
obligations under the Second Promissory Note. The Company in effect
re-valued the conversion price of the First Promissory Note to $1.50 per
share, and converted the Second Promissory Note into Convertible Preferred
Stock at the conversion price of $1.50 per share. In consideration for our
issuance of these shares, QLT released us from any claims under both of
these promissory notes, as well as a related registration rights agreement
and relevant portions of the 2000 Optiguide Asset Purchase Agreement.
b) Promissory Note Issued to Customer
In October 2000, a customer 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
bears interest, at an annual rate of 8.5%, which is payable quarterly in
arrears. The Promissory Note matures on January 1, 2004 and does not
provide for conversion rights into equity. As of December 31, 2001 and
2002, the balance outstanding on this Promissory Note was $936,000. As of
December 31, 2002, accrued interest was $20,053.
c) Bridge Loans from Stockholders
In September 2001, the Company received an aggregate of $500,000
from two stockholders of the Company in exchange for a bridge loan in the
form of two secured promissory notes ("notes"), dated October 5, 2001. The
notes were to mature on January 1, 2003 and had an annual interest rate of
7.5%.
The notes were convertible, at the election of the noteholders, into
common stock prior to the maturity date under the following scenarios: 1)
in the event the Company did not complete a reverse merger by October 31,
2001, the noteholders could have exercised their call option issued in the
March 2001 Series A Preferred Stock financing (see Note 10(b)) and deliver
their notes as payment, 2) in the event the Company completed a reverse
merger, the notes were convertible into common stock at the lesser of
$2.25 per share and the price per share in the reverse merger, 3) in the
event of another type of financing transaction, as defined, the notes were
convertible into common stock at the lesser of $2.25 per share and the
price per share in the transaction, and 4) in the event of a merger or
consolidation, excluding a reverse merger, the notes were convertible into
common stock at the lesser of $2.25 per share and the price per share of
any warrants issued in the transaction. However, if the Company
successfully completed a reverse merger with a public company, where such
public company has raised $10 million in gross proceeds in a private
placement financing prior to the reverse merger, the notes would have
become due and payable in cash within 10 days of the effective closing
date. The call option expired on October 31, 2001.
In addition, the Company granted fully exercisable warrants to
purchase an aggregate of 50,000 shares of common stock at a price per
share equal to a maximum of $2.25, adjustable for certain events, as
defined. The value of such warrants, calculated using the Black-Scholes
option pricing model, was recorded as a debt discount totaling $43,000 and
will be amortized to interest expense over the life of the note. In
addition, the beneficial conversion feature attributable to the warrants,
totaling $43,000, will be recorded as interest expense upon the occurrence
of an event which will trigger the note's right to convert. In January
2002, due to the Company's delay in completing the reverse merger by
December 31, 2001, the Company was required to issue up to an additional
aggregate of 10,000 warrants, with terms identical to the initial grant.
The warrants expire two years from the date of issuance. The value
ascribed to these 10,000 warrants was $8,200 and was calculated using the
Black-Scholes option pricing model. The $8,200 was recorded as a debt
discount and will be amortized to interest expense over the life of the
notes. In addition, the beneficial conversion feature attributable to the
warrants totaling $8,200 will be recorded as interest expense upon the
occurrence of an event which will trigger the note's right to convert.
In December 2001, the Company received an additional aggregate of
$200,000 from the same two noteholders through issuance of additional
promissory notes, with terms identical to those specified above, except as
noted below. The maximum conversion price of the notes and the exercise
price of the warrants is $2.00 per share, adjustable for certain events as
defined. In addition, the Company granted fully exercisable warrants to
purchase an aggregate of 20,000 shares of common stock at a price per
share equal to a maximum of $2.00, adjustable for certain events, as
defined. The warrants expire two years from the date of issuance. The
value ascribed to these 20,000 warrants was $15,000 and was calculated
using the Black-Scholes option pricing model. The $15,000 was recorded as
a debt discount and will be amortized to interest expense over the life of
the notes. In addition, the beneficial conversion feature attributable to
the warrants totaling $15,000 will be recorded as interest expense upon
the occurrence of an event which will trigger the note's right to convert
The Company completed a reverse merger by March 31, 2002, and accordingly
did not have to issue any contingent warrants. Under the December 2001
notes, the conversion price of the notes and the exercise price of the
warrants included under the October 2001 notes were reduced to a maximum
of $2.00 to be consistent with the terms of the December 2001 notes. Such
revision creates an additional beneficial conversion feature attributed to
the reduction of the conversion price, totaling $62,500, to be recorded
upon the occurrence of an event which will trigger the notes' right to
convert. Additionally, such revision created an additional debt discount,
attributed to the establishment of a new measurement date for the amended
warrant, totaling $39,000.
F-16
In February 2002, subsequent to the closing of the reverse merger,
the $700,000 aggregate principal amount of the promissory notes, issued in
October and December 2001, was repaid to the two stockholders, including
cumulative interest. During the year ended December 31, 2002, the Company
recorded $225,260 as additional non-cash interest expense related to
warrants issued in connection with the bridge loan in 2001 and 2002, as
well as beneficial conversion features discussed above which were
triggered by the acquisition discussed in Note 15. Promissory notes in the
amount of $611,640 and net of $88,360 in debt discount were included in
current maturities of convertible debt on the balance sheet as of December
31, 2001.
d) Promissory Notes Issued to Service Providers
In December 2002, the Company converted fees for legal services, in
the amount of $416,102, into a Promissory Note. Payment terms include a
$100,000 payment due upon completing the $2.0 million bridge financing on
December 27, 2002 and the balance due upon completion of a longer-term
capital financing in fiscal 2003, being the earlier of May 15, 2003 and
the completion of a subsequent debt or equity financing other than a
bridge financing. The Promissory Notes bears interest, at an annual rate
of 6%, which accrues over the life of the Promissory Note and is payable
upon maturity. The Promissory Note does not provide for conversion rights
into equity. As of December 31, 2002, the balance outstanding to this
Promissory Note was $316,102 and accrued interest was $1,611.
In December 2002, the Company converted fees due a professional
service provider for external marketing initiatives, in the amount of
$183,016, into a Promissory Note. Payment terms include a $50,000 payment
due upon completing the $2.0 million bridge financing on December 27,
2002, a 20% surcharge of monthly services until the Promissory Note is
paid, and the balance due upon completion of a longer-term financing in
fiscal 2003. The Promissory
Note does not bear any interest and does not provide for conversion rights
into equity. As of December 31, 2002, the balance outstanding to this
Promissory Note was $129,106.
e) Bridge Financing with Related Party
On December 27, 2002 (the "Closing Date"), the Company completed a
$2.0 million bridge financing with Gibralt US, Inc (the "Lender"), whose
Principal Samuel Belzberg is a member of the Company's Board of Directors.
The financing is in the form of Notes, including $1.0 million in Class A
secured Notes and $1.0 million in Class B unsecured Notes (collectively
known as the "Notes"), which are due on January 1, 2004. The Notes accrue
interest, at an annual rate of 8%, over the life of the Notes and is
payable upon maturity. The Company and the Lender entered into a Note
Agreement, Security Agreement, Pledge Agreement and Registration Rights
Agreement and the Company issued the Class A Notes and Class B Notes and
the Warrant. (collectively known as the "Bridge Financing Agreements") As
of December 31, 2002, the balance outstanding to these Notes was $2.0
million and zero interest was accrued.
To facilitate granting a security interest for the Class A Notes,
the Company formed a new subsidiary company ("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 stock in PDT Co to
the Lender. As additional security, the Company pledged the following
unencumbered assets of Diomed Inc. to the Lender: equipment, inventory,
accounts receivable, intellectual property, and cash deposit accounts. The
Lender's lien on the inventory is junior and subordinate to Axcan Pharma's
lien on inventory as collateral for the September 2001 Promissory Note in
the amount of $936,000, so long as Axcan Pharma's Promissory Note is
outstanding.
The Company issued the Lender 100% warrant coverage or 8,333,333
Warrants based upon the $0.24 closing price of the Company's Common Stock
on December 26, 2002. The Warrants are exercisable for a period of five
years, beginning six months from the Closing Date, at an exercise price of
$0.26, which is 110% of the market price of the stock on December 26,
2002. If the Company, over the life of the Warrants, issues Common Stock
or Common Stock equivalents at a price per share less than the $0.26
exercise price of the Warrants, the number of Warrants and the exercise
price of the Warrants are adjustable to the lower price per share. In the
event of a merger or reorganization, the Warrants are 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-17
The Notes are convertible into Common Stock at the election of the
Note Holder (s) upon the occurrence of: i) a financing transaction, ii) a
liquidity event, iii) in a merger or reorganization, or iv) at any time
during the life of the Notes at the election of at least 66 2/3% of the
outstanding principal amount by the Note Holders. A financing transaction
is defined as a debt or equity financing under which the Company issues
Common Stock or equity securities convertible into Common Stock, and
raises gross proceeds of at least $50,000 in any rolling 30-day period. A
liquidity event is defined as i) any person or group other than a
shareholder at the Closing Date that shall become the beneficial owner,
either directly or indirectly, of capital stock representing 51% of voting
control of the Company, ii) the sale of all or substantially all of the
assets of the Company to one or more persons not an affiliate of the
Company, or iii) the sale of the stock of PDT Co or the sale of all or
substantially all of the business relating to photodynamic therapy
products.
The Notes, including principal and accrued interest, are convertible
into Common Stock at 80% of the Common Stock price, which is defined as:
i) in the event of a financing transaction in which the Company issues
Common Stock or Common Stock equivalents--the price per share of Common
Stock or Common Stock equivalent (the weighted average if multiple
financing transaction in a rolling 30-day period), ii) in the event of a
financing transaction in which the Company does not issue Common Stock or
Common Stock equivalents - the lower of the average of the closing price
of the Common Stock for the fifteen business day period preceding the date
of the public announcement of the financing transaction or the average of
the closing price of the Common Stock for the fifteen day business period
commencing the date after the date of the public announcement of the
financing transaction, iii) in the event of a liquidity event in which any
person or group other than a shareholder at the Closing Date becomes the
beneficial owner, either directly or indirectly, of capital stock
representing 51% of voting control of the Company - the price per share
allocated to each share of Common Stock or Common Stock equivalent, iv) in
the event of all other liquidity events--the lower of the average of the
closing price of the Common Stock for the fifteen business day period
preceding the date of the public announcement of the liquidity event or
the average of the closing price of the Common Stock for the fifteen
business day period commencing the date after the date of the public
announcement of the liquidity event.
In the event of a merger or reorganization, the Notes, including
principal and accrued interest, are convertible into the kind and number
of shares of Common Stock, other securities or property into which the
Notes would have been
converted into if the Notes had been converted into Common Stock on the
business day preceding the merger or reorganization.
Under the Registration Rights agreement, the Company agreed to
notify the Lender (s) if the Company proposes to file certain future
registration statements. The Company agreed to use its best efforts to
include the registerable securities held by the Lender (s) in the
registration statement, subject to certain defined limitations, if so
requested by the Lender (s) within 30 days after receipt of said notice.
The Lender (s) agreed to become subject to a "holdback period", by which
it does not effect a public sale of stock for a period of up to 180 days
following the effective date of the registration statement, if so
requested by a managing underwriter of the offering which is the subject
of that registration statement.
The Notes and Warrants, on a pro rata basis to the Notes, are
transferable in part or in whole by the Lender to one or more third
parties, in accordance with all of the same terms granted the Lender by
the Company. The Lender (s) may designate a member to the Company's Board
of Directors while the Notes are outstanding. The Company is required to
obtain the advance approval by the Lender (s) for future financing
transactions during the life of the Notes.
The Company may at its option call for redemption in whole or in
part any of the Class A Notes, including principal and accrued interest,
prior to the maturity of the Notes on January 1, 2004. No Class A Notes
may be redeemed while any of the Class B Notes are outstanding. If fewer
than all of the outstanding Class A Notes are to be redeemed, then all
Class A Notes shall be partially redeemed on a pro-rata basis. If fewer
than all outstanding Class B Notes are to be redeemed, then all Class B
Notes shall be partially redeemed on a pro rata basis.
The Company will be in default if any of the following occurs: i)
the Company fails to make payment of the principal and accrued interest by
January 1, 2004 and the same continues for a period of two days, ii) any
of the representations or warranties made by the Company in the Bridge
Financing Agreements shall have been false or misleading in any material
respect, iii) the Company fails to perform or observe in any material
respect terms under the Bridge Financing Agreements and such failure is
not cured within thirty days after written notice from the Lender (s),
iii) the voluntary or judicial dissolution of the Company, iv) admission
by the Company of its inability to pay its debts as they become due, iv)
any default by the Company under any institutional indebtedness, and v)
commencement of bankruptcy proceedings.
In accordance with Emerging Issues Task Force (EITF) 00-27,
Application of EITF No.98-5 to Certain Convertible Instruments, the
Company recorded a beneficial conversion feature in the amount of $2.0
million, which has been recorded as a debt discount to the Notes. The debt
discount will be amortized over the term of the Notes through January 1,
2004, with full amortization of any remaining discount to occur if the
Notes are converted to equity prior to the January 1, 2004 maturity date.
Accordingly, Notes in the principal amount of $2.0 million were discounted
to zero as of December 31, 2002 and zero amortization of the debt discount
was recognized in the year ended December 31, 2002 as the corresponding
amortization since December 27, 2002 was immaterial.
F-18
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 will be amortized to interest
expense over the life of the Notes, such that the full amount of costs are
amortized by the earlier of the maturity date of the Notes or by the month
the Notes are converted into equity.
On March 18, 2003, Gibralt US, Inc. sold and transferred to three
investors in a private transaction (i) $500,000 aggregate principal amount
of Notes ($250,000 of which are Class A Notes and $250,000 of which are
Class B Notes), and (ii) 2,083,334 warrants. Accordingly, after the taking
effect of this transfer, Mr. Belzberg beneficially owned 6,249,999
warrants and $1,500,000 aggregate principal amount of Note ($750,000 of
which are Class A Notes and $750,000 of which are Class B Notes).
f) Capital Equipment Leases
The leased assets included in property and equipment primarily
include manufacturing equipment. The Company did not enter into any new
capital equipment leases during the years ended December 31, 2001 and
2002. Depreciation expense for leased equipment during the years ended
December 31, 2000, 2001 and 2002 was $67,160, $54,199 and $56,226,
respectively.
A summary of the debt at December 31, 2002 is as follows:
December 31, 2002 December 31, 2002
Current Long-Term
---------- ----------
Promissory notes payable $ 445,208 $ --
Nonconvertible debt -- 936,000
Related party convertible
debt (face value) -- 2,000,000
Capital equipment leases 33,993 10,018
---------- ----------
$ 479,201 $2,946,018
========== ==========
Future minimum debt payments for capital equipment leases, promissory
notes and convertible notes required under these arrangements at December 31,
2002 are as follows:
Capital Leases Debt
-------------- ----------
2003 $ 44,190 $ 445,208
2004 12,520 2,936,000
2005 -- --
2006 -- --
2007 -- --
Thereafter -- --
---------- ----------
Total future minimum lease payments 56,710 $3,381,208
Less--Amount representing interest (12,700)
----------
Present value of future minimum lease
payments 44,010
Less--Current portion
of capital lease obligations 33,993
----------
Capital lease obligations, net of
current portion $ 10,018
==========
F-19
(9) INCOME TAXES
No provision for foreign, federal or state income taxes has been recorded,
as the Company incurred net operating losses for all periods presented. The
Company has U.S. federal and state net operating loss carryforwards of
approximately $10.9 million at December 31, 2002 to reduce future federal income
taxes, if any. These carryforwards expire through 2022 and are subject to review
and possible adjustment by the Internal Revenue Service (IRS). The Company also
has approximately $16.4 million of foreign net operating loss carryforwards at
December 31, 2002 to reduce future foreign income taxes, if any. These
carryforwards do not have an expiration date.
The Tax Reform Act of 1986 contains provisions that may limit the amount
of U.S. federal and state net operating loss and credit carryforwards that the
Company may utilize in any one year in the event of certain cumulative changes
in ownership over a three-year period in excess of 50%, as defined. The Company
has not assessed whether its equity transactions have caused such a change in
ownership.
The approximate tax effects of temporary differences that give rise to
significant portions of the Company's deferred tax assets primarily relate to
net operating loss carryforwards and amount to approximately $7.7 million and
$8.6 million as of December 31, 2001 and 2002, respectively. It is the Company's
objective to become a profitable enterprise and to realize the benefits of its
deferred tax assets. However, in evaluating the realizability of these deferred
tax assets, management has considered the Company's short operating history, the
volatility of the market in which it competes and the operating losses incurred
to date, and believes that, given the significance of this evidence, a full
valuation reserve against its deferred tax assets is required as of December 31,
2001 and 2002. The components of the Company's deferred tax assets are
approximately as follows:
December 31,
----------------------------------
2001 2002
----------- -----------
Net operating loss carryforwards $ 7,605,793 $ 8,620,000
Other temporary differences 66,175 255,000
Valuation allowance (7,671,968) (8,875,000)
----------- -----------
Net deferred tax asset $ -- $ --
=========== ===========
(10) STOCKHOLDERS' EQUITY
(a) Capitalization of Diomed, Inc.
Effective March 15, 2001, the authorized capital stock of Diomed,
Inc., the principal operating subsidiary of the Company, was increased to
43,500,000 shares, consisting of 40,000,000 shares of common stock, $0.001
par value per share and 3,500,000 shares of preferred stock, $0.01 par
value per share, all of which are designated Series A convertible
preferred stock (Series A Preferred Stock).
(b) Sale of Series A Preferred Stock by Diomed, Inc.
From March through May 2001, Diomed, Inc. sold an aggregate of
2,725,000 shares of Series A Preferred Stock for $1.00 per share, which
resulted in gross proceeds of $2,725,000.
The Series A Preferred Stock had the following rights, preferences
and privileges:
Voting
Each share of Series A Preferred Stock entitled the holder
thereof to such number of votes equal to the number of shares of
common stock into which each share was then convertible. The
holders, collectively, by a two-thirds vote, had the right to elect
three members to the Company's Board of Directors and could have
assigned such rights to the lead investor. Also, the holders were
required, by a two-thirds vote, to approve matters pertaining to
corporate governance and structure, dividends, sale or redemption of
securities or instruments convertible to securities, a merger or
consolidation, and sale, lease or disposal of all or substantially
all of the Company's assets. In addition, until the effective date
of a qualifying initial public offering or private equity offering
of common stock at a price per share of at least $5.00, resulting in
gross proceeds of at least $15 million, the Company was not to incur
any debt, make any acquisitions or strategic investments or enter
into any contracts or payment obligations that committed the Company
to $250,000 or more in aggregate without the approval of the Board
of Directors, including the three members elected by the holders.
F-20
Dividends
The holders of Series A Preferred Stock were entitled to
receive non-cumulative 10% dividends annually, when and if declared
by the Company's Board of Directors.
Liquidation Preference
Upon any liquidation, dissolution or winding-up of the
Company, whether voluntary or involuntary, the holders of each share
of Series A Preferred Stock were entitled to receive an amount equal
to the greater of (i) $1.00 per share, subject to adjustment, plus
any declared but unpaid dividends or (ii) such amount per share of
Series A Preferred Stock as would have been payable had each share
been converted to common stock.
Voluntary Conversion
Each share of Series A Preferred Stock was convertible, at the
option of the holder thereof, into two shares of common stock,
subject to adjustment, as defined.
Automatic Conversion
Each share of Series A Preferred Stock was automatically
convertible into shares of common stock at the then effective
conversion price, upon written election of at least two-thirds of
the then outstanding Series A Preferred Stock, merger or
consolidation, as defined, or upon the closing of a qualifying
initial public offering at a price per share of at least $5.00,
resulting in gross proceeds of at least $15,000,000.
Call Option
On or prior to October 31, 2001 or the earlier merger or
consolidation of the Company, as defined, two holders of Series A
Preferred Stock could have required the Company to sell up to
1,000,000 shares of Series A Preferred Stock at a price per share
equal to $1.00, subject to adjustment, as defined. The Company
recorded the fair value of the call option and related beneficial
conversion feature, totaling an aggregate of $423,180, in the
accompanying statement of stockholders' equity (deficit). Effective
October 31, 2001, the call option terminated.
(c) Capitalization of Diomed Holdings, Inc.
Effective February 14, 2002, the authorized capital stock of the Company
was 80,000,000 shares of common stock, par value $0.001 per share, and 5,000,000
shares of preferred stock, par value $.001 per share, of which 4,300,000 shares
were designated Class A Convertible Preferred Stock (referred to as "Old Class A
Stock").
(d) Issuance of Diomed Holdings, Inc. Class A Convertible Preferred Stock
("Old Class A Stock") in Diomed Merger
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, merged with and into Diomed,
Inc. pursuant to an Agreement and Plan of Merger, dated as of January 29, 2002.
Pursuant to the Diomed Merger Agreement, Diomed Holdings Nevada issued:
o 2,328,922.50 shares of its Old Class A Stock to the former holders
of Diomed, Inc. common stock in exchange for 9,315,690 shares of
common stock of Diomed, Inc. issued and outstanding as of the
effective time of the Diomed Merger, which 2,328,922.50 shares were
convertible into 9,315,690 shares of Diomed Holdings Nevada common
stock; and
o 1,362,500 of its Old Class A Stock to the former holders of
2,725,000 shares of Diomed, Inc. Series A Preferred Stock issued and
outstanding as of the effective time of the Diomed Merger, which
1,362,500 shares were convertible into 5,450,000 shares of Diomed
Holdings Nevada common stock.
(e) Migratory Merger of the Company; Recapitalization of the Company
In April 2002, the board of directors of the Company determined that
it was in the best interests of the Company and its stockholders for the
Company to change its state of incorporation from Nevada to Delaware. At a
stockholders meeting on May 13, 2002 to consider the proposed
reincorporation, the stockholders granted their approval, and the
reincorporation was effected by the merger of the Company into a
F-21
newly-formed Delaware corporation (referred to as the "Migratory Merger"),
which occurred on that same date. As a result of the Migratory Merger,
each share of common stock of Diomed Holdings Nevada outstanding as of the
date of the consummation of the Migratory Merger was converted into one
share of Common Stock, and each share of Old Class A Stock was converted
into four shares of Class A Convertible Preferred Stock of the Company
(referred to as the "Convertible Preferred Stock"). The rights and
privileges of the Common Stock and the Convertible Preferred Stock are
virtually identical to the common stock of Diomed Holdings Nevada and the
Old Class A Stock, other than the one for four exchange of shares of Old
Class A Stock for shares of Convertible Preferred Stock, and a reduction
in the number of votes from four votes per share for Old Class A Stock to
one vote per share for Convertible Preferred Stock.
In connection with the Migratory Merger, the Company assumed the
obligations of Diomed Holdings Nevada with respect to Diomed Holdings
Nevada's outstanding stock options and warrants (formerly the Diomed stock
options and warrants).
As a result of the Migratory Merger, the directors and officers of
Diomed Holdings Nevada became the directors and officers of the Company.
The Convertible Preferred Stock has the following rights,
preferences and privileges:
Voting
Each share of Convertible Preferred Stock shall entitle the
holder thereof to such number of votes equal to the number of shares
of common stock into which each share is then convertible. The
holders of the Convertible Preferred Stock shall each be entitled to
vote the number of votes equal to the number of shares of the Common
Stock into which such shares are to be converted. Any matter as to
which the holders of Common Stock are entitled to vote shall require
the affirmative vote of the holders of a majority of the issued and
outstanding shares of Convertible Preferred Stock, voting as one
class.
The affirmative vote of the holders of a majority of the
issued and outstanding shares of the Convertible Preferred Stock
voting as a separate class, shall be required to change the powers,
preferences or special rights of the shares of the Convertible
Preferred Stock in relation to the shares of the Common Stock.
Liquidation Preference
Upon any liquidation, dissolution or winding-up of the Company
or sales, lease, exchange or other disposition of all or
substantially all of the Company's assets, the holders of each share
of Convertible Preferred Stock and the Common Stock shall be
entitled to receive pro rata an amount equal to the entire assets
and funds legally available for distribution.
Negative Covenants
So long as 250,000 shares of the Convertible Preferred Stock
remain issued and outstanding (appropriately adjusted to take
account of any stock split, stock dividend, combination of shares,
or the like), the Company shall not, without first having obtained
the affirmative vote or written consent of the holders of at least
two-thirds of the shares of the Preferred Stock at the time issued
and outstanding to:
(a) create, authorize or issue any other class or series of
capital stock of the Company senior to or on parity with the
Convertible Preferred Stock in any respect, or increase the
number of authorized shares of any such class or series of
capital stock, or increase the authorized number of shares of
the Convertible Preferred Stock;
(b) create, authorize or issue any bonds, notes or other
securities convertible into, exchangeable for, or evidencing
the right to purchase shares of any class or series of capital
stock of the Company senior to or on parity with the
Convertible Preferred Stock in any respect;
(c) pay a dividend on or repurchase any shares of capital stock of
the Company, other than as necessary to satisfy the terms of
the Convertible Preferred Stock, or repurchases of shares of
Common Stock issued pursuant to stock purchase or stock option
plans or subject to stock repurchase agreements under which
the Company has the option to repurchase such shares upon the
occurrence of certain events, including the termination of
employment;
(d) merge with or into or consolidate with any other Company, or
sell, lease, or otherwise dispose of all or substantially all
of its properties or assets, or voluntarily liquidate,
dissolve or wind up;
(e) amend or repeal the Articles of Incorporation or By-laws in
any manner that adversely affects the rights of the holders of
the Convertible Preferred Stock;
(f) reclassify any securities of the Company that are junior to
the Preferred Stock into securities that are senior to or on
parity with the Convertible Preferred Stock in any respect;
F-22
(g) incur any debt in excess of $1,000,000 secured by assets of
the Company or its subsidiaries other than debt to a
commercial bank or other lending institution which is secured
solely by accounts receivable and/or inventory; or
(h) substantially alter the nature of the business of the Company
from that carried on as of the date of initial original issue
of shares of the Convertible Preferred Stock.
Automatic Conversion
All of the outstanding shares of the Convertible Preferred
Stock shall automatically convert into Common Stock on a one-to-one
share basis, as follows:
(i) on the date which is the last day of the second month,
(referred to as the "Benchmark Month") after the effectiveness of a
registration statement filed by the Company with the Securities and
Exchange Commissions with respect to the shares of Common Stock into
which the Convertible Preferred Stock is convertible, 5% of the
shares of the Convertible Preferred Stock shall automatically
convert into Common Stock;
(ii) thereafter, subject to the following clause (iii), on the
last day of each of the following 23 months, an additional 5% of the
shares of Convertible Preferred Stock shall likewise automatically
convert into Common Stock; and
(iii) in all events, and whether or not the SEC has declared
the Company's registration statement effective, on the last day of
the 24th month after the month during which the Diomed Merger became
effective, the balance of the Convertible Preferred Stock not
theretofore converted into Common Stock shall automatically be
converted into Common Stock.
In the reverse merger, the Diomed, Inc. Common Stock shareholders
received 2,328,922.50 shares of Diomed Holdings, Inc. Class A Convertible
Preferred Stock in exchange for their 9,315,690 shares of Diomed, Inc.
Common Stock. Based on a conversion factor of "1 to 4", the 2,328,922.50
shares of Diomed Holdings, Inc. Class A Convertible Preferred Stock were
convertible into 9,315,690 shares of Diomed Holdings, Inc. Common Stock.
Pursuant to the migratory merger and recapitalization on May 13, 2002, the
Diomed Holdings, Inc. Class A Convertible Preferred Stock and Common Stock
shares were recapitalized on a one-to-four-share basis such that the
2,328,922.50 shares of Class A Stock became 9,315,690 shares of Class A
Stock.
In the reverse merger, the Diomed, Inc. Series A Preferred Stock
shareholders received 1,362,500 shares of Diomed Holdings, Inc. Class A
Convertible Preferred Stock in exchange for their 2,725,000 shares of
Diomed, Inc. Series A Preferred Stock. Based on a conversion factor of "1
to 4", the 1,362,500 shares of Diomed Holdings, Inc. Class A Convertible
Preferred Stock were convertible into 5,450,000 shares of Diomed Holdings,
Inc. Common Stock. Pursuant to the migratory merger and recapitalization
on May 13, 2002, the Diomed Holdings, Inc. Class A Convertible Preferred
and Common Stock shares were recapitalized on a one-to-four-share basis
such that the 1,362,500 shares of Class A Stock became 5,450,000 shares of
Class A Stock.
As of May 13, 2002, the Company had authorized 20,000,000 shares of
Preferred Stock, including 18,000,000 shares of Class A Convertible
Preferred Stock, $0.001 par value, of which 14,765,690 shares are
outstanding, and 2,000,000 shares of undesignated shares of Preferred
Stock, $.001 par value, of which zero shares are outstanding.
On August 5, 2002, the Company and QLT entered into an agreement
pursuant to which the Company issued to QLT, and QLT accepted from the
Company, a total of 696,059 shares of Convertible Preferred Stock to both
resolve the dispute as to the First Promissory Note and fully satisfy the
Company's obligations under the Second Promissory Note. (See Note 8a).
On December 31, 2002, according to the Class A Convertible Preferred
Stock Certificate of Designation, monthly conversions of the Company's
Class A Convertible Preferred Stock ("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 will 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 will convert in February 2004.
As of December 31, 2002, the Company had authorized 20,000,000
shares of Preferred Stock, $0.001 par value, of which 14,688,662 shares
are outstanding.
Because the board of directors determined that the effect of the
incremental conversion of Class A Stock into common stock would impair the
Company's ability to procure additional equity investments, pursuant to
its discretion under the terms of the Class A Stock, the board determined
to cause the remaining outstanding shares of Class A Stock to convert into
common stock on March 31, 2003.
F-23
(f) Common Stock
Pursuant to the Stock Purchase and Recapitalization Agreement, dated
March 5, 2001, the Company converted $2,475,000 in 9% convertible
subordinated notes to equity and issued 2,475,000 shares of common stock
at $1.00 per share. (see Note 7)
Between August and November 2000, the Company issued 815,865 shares
of its common stock at a price of $3.50 per share, together with warrants
to purchase 1,387,294 shares of common stock at a price of $3.50 per
share, in private placements resulting in net proceeds of approximately
$2.8 million. Pursuant to the Stock Purchase and Recapitalization
Agreement, dated March 5, 2001, substantially all of the purchasers of
common stock from August and November 2000 elected to accept the Company's
offer to exchange the shares and warrants they originally acquired
(773,941 and 1,345,370, respectively) for 2,708,793 shares of common
stock. This recapitalization yields an effective purchase price of $1.00
per share.
In February 2002, the Company issued 5,000,000 shares of its Common
Stock, $0.001 par value per share, at a price of $2.00 per share in a
private placement financing in connection with the Diomed Merger,
resulting in proceeds net of offering costs of $7.9 million.
After the Migratory Merger on May 13, 2002, the Company had
authorized 80,000,000 shares of Common Stock, $0.001 par value, of which
14,200,000 shares are outstanding (excluding securities which may be
converted into or exercisable for Common Stock), having been automatically
issued to the holders of the Common Stock issued by Diomed Holdings Nevada
by virtue of the Migratory Merger.
As per the Merger agreement, the Company is obligated to use its
best efforts to file a registration statement with the Securities Exchange
Commission to register for resale its common shares that it issued in the
private placement 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. In the event that the Company fails to
file or cause the registration statement to be declared effective within
240 days of completing the Merger, or remain effective through the first
anniversary of the Merger, the Company will be required to issue
additional shares of its common stock, up to a maximum of 4% of the shares
held by each of the February 2002 private placement investors. On October
24, 2002, the Company received approval of its registration statement by
the Securities and Exchange Commission and accordingly issued the February
2002 private placement investors an additional aggregate of 50,000 shares
of Common Stock.
On October 24, 2002, the Company's registration statement was
declared effective by the Securities and Exchange Comission.
On December 31, 2002, according to the Class A Convertible Preferred
Stock Certificate of Designation, monthly conversions of the Company's
Class A Convertible Preferred Stock ("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 will 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 will convert in February 2004.
As of December 31, 2002, the Company had authorized 80,000,000
shares of Common Stock, $0.001 par value, of which 15,023,087 shares are
outstanding.
Because the board of directors determined that the effect of the
incremental conversion of Class A Stock into common stock would impair the
Company's ability to procure additional equity investments, pursuant to
its discretion under the terms of the Class A Stock, the board determined
to cause the remaining outstanding shares of Class A Stock to convert into
common stock on March 31, 2003. As of March 31, 2003, the Company will
have 29,711,749 shares of common stock outstanding.
(g) Stock Options
In November 1998 and May 2001, 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), respectively, 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 Company.
F-24
A summary of stock option activity is as follows:
Range of Exercise Weighted Average
Price Number of Shares Exercise Price
------------- ---------------- ------------
Outstanding,
December 31, 1999 2.24-8.23 704,078 4.89
Granted 3.50 172,738 3.50
Forfeited 2.24-8.23 (36,176) 6.46
------------- --------- ------------
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 .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
============= ========= ============
Exercisable,
December 31, 2000 $ 2.24-8.23 680,621 $ 4.59
============= ========= ============
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
============= ========= ============
As of December 31, 2002, 1,375,094 options were available for future grants
under the Plans, including 491,934 options under the 1998 Plan and 883,160
options under the 2001 Plan. However, the Company in the years ended December
31, 2001 and 2002, has granted options only under the 2001 Plan and does not
intend to grant options under the 1998 Plan in the foreseeable future.
The following table summarizes information relating to currently outstanding and
exercisable options as of December 31, 2002.
OUTSTANDING EXERCISABLE
- --------------------------------------------- -----------------------------------------------
WEIGHTED
AVERAGE
REMAINING WEIGHTED WEIGHTED
CONTRACTUAL AVERAGE AVERAGE
EXERCISE NUMBER OF LIFE (IN EXERCISE NUMBER OF EXERCISE
PRICE SHARES YEARS) PRICE SHARES PRICE
$ 0.34-2.00 740,880 8.8 $1.18 365,509 $1.33
2.25-3.54 429,205 4.7 2.85 376,406 2.87
4.00-6.56 417,200 4.1 5.80 392,200 5.90
8.05-8.23 16,000 3.2 8.14 16,000 8.14
1,603,285 $2.90 1,150,115 $3.49
F-25
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,
------------------------------------------
2000 2001 2002
------------------------------------------
Risk-free interest rate 5.78-6.68% 3.53-4.76% 1.84-4.74%
Expected dividend yield --% --% --%
Expected lives 5 years 5 years 5 years
Expected volatility 70% 70% 75%
Weighted average grant date fair value
per share $ 0.95 $ 0.78 $ 1.05
Weighted average remaining contractual
life of options outstanding 6.4 years 7.9 years 6.9 years
h) Issuance of Stock Options to Consultants
In August 2001, the Company granted fully exercisable options to
purchase 60,000 shares of common stock at an exercise price per share
equal to $2.25 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 $55,000 in the accompanying statement of operations for year
ended December 31, 2001.
In fiscal 2002, the Company granted fully exercisable options to
purchase 2,700 shares of common stock at exercise prices per share in the
range of $0.55 to $2.87 to the above-mentioned 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 $1,743 in the statement of operations for
year ended December 31, 2002.
In April 2002, the Company entered into an agreement with The
Investor Relations Group, Inc., referred to as IRG, for investor relations
and public relations services. In connection therewith, the Company
granted to IRG Options to purchase up to 150,000 shares of Class A Stock
at an exercise price of $5.35 per share. These Options were not granted
under the 2001 Plan, but are subject to the terms and conditions of the
2001 Plan as if granted thereunder. Any unvested Options would be
cancelled upon the termination of the IRG agreement. The Company
calculated the fair value of these Options, based on the Black-Scholes
option pricing model.
In November 2002, the Company terminated its agreement with IRG. In
accordance with the agreement, IRG owns 43,750 Options that are
exercisable until November 2004. In the statement of operations for the
year ended December 31, 2002, the Company recorded stock-based
compensation expense in the amount of $80,586 related to the vested
Options.
i) Warrants
A summary of warrant activity is as follows:
WEIGHTED Weighted
AVERAGE Average Remaining
RANGE OF NUMBER OF EXERCISE Contractual Life
EXERCISE PRICE SHARES PRICE (in 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
F-26
11) VALUATION AND QUALIFYING ACCOUNTS
A summary of the allowance for doubtful accounts is as follows:
December 31,
---------------------------------------------------
2000 2001 2002
---------------------------------------------------
Allowance for doubtful accounts:
Balance, beginning of period $ 7,000 $ 300,000 $ 217,473
Provision for doubtful accounts 293,000 207,240 116,452
Write-offs -- (289,767) (25,780)
--------- --------- ---------
Balance, end of period $ 300,000 $ 217,473 $ 308,145
========= ========= =========
12) SEGMENT REPORTING
The Company has adopted SFAS No. 131, Disclosures about Segments of an
Enterprise and Related Information, which establishes standards for reporting
information regarding operating segments in annual financial statements and
requires selected information for those segments to be presented in interim
financial reports issued to stockholders. SFAS No. 131 also establishes
standards for related disclosures about products and services and geographic
areas.
Operating segments are identified as components of an enterprise about
which separate discrete financial information is available for evaluation by the
chief operating decision maker, or decision making group, in making decisions on
how to allocate resources and assess performance. The Company's chief decision
making group, as defined under SFAS No. 131, is the Executive Management
Committee.
The Company's reportable segments are determined by product type: laser
systems and fibers and other accessories. 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:
Years Ended December 31,
----------------------------------------------------
2000 2001 2002
----------------------------------------------------
Laser systems $8,901,906 $5,898,530 $3,443,228
Fibers, accessories and service 522,608 1,833,000 2,113,211
---------- ---------- ----------
Total $9,424,514 $7,731,530 $5,556,439
========== ========== ==========
F-27
The following table represents percentage of revenues by geographic destination:
Years Ended December 31,
----------------------------------
2000 2001 2002
----------------------------------
North America 33% 49% 55%
Asia/Pacific 30% 25% 23%
Europe 33% 24% 19%
Other 4% 2% 3%
--- --- ---
Total 100% 100% 100%
=== === ===
The following table represents long-lived assets by geographic location:
December 31
-------------------------------
2001 2002
-------------------------------
North America $1,417,681 $1,175,410
Europe 1,382,536 1,131,437
Total $2,800,217 $2,306,846
(13) COMMITMENTS
(a) Leases
The Company leases certain equipment and office facilities under
noncancelable operating and capital leases that expire at various dates
through 2014. The Company's building lease at its subsidiary in the United
Kingdom is a 25-year lease through 2024. However, the Company has an
option, at its election, to terminate the lease agreement after 15 years
in 2014. If the Company chooses not to exercise this option, the lease
agreement continues for the remaining 10 years through 2024. The Company's
building lease at its headquarters in the US is through June 2004. Total
rent expense under these operating lease agreements for the years ended
December 31, 2000, 2001 and 2002, was $454,529, $473,247, and $496,539,
respectively.
Future minimum payments required under these operating leases
at December 31, 2002 are as follows:
Operating
Leases
2003 $ 533,461
2004 510,067
2005 486,673
2006 486,673
2007 486,673
Thereafter 3,082,260
Total operating lease $ 5,585,807
(b) Litigation
From time to time, the Company is involved in legal and
administrative proceedings and claims of various types. While any
litigation contains an element of uncertainty, management, in consultation
with the Company's general counsel, presently believes that the outcome of
each such other proceedings or claims which are pending or known to be
threatened, or all of them combined, will not have a material adverse
effect on the Company.
F-28
On October 22, 2001, a plaintiff filed an action against the
Company, alleging that the Company disclosed certain trade secret
information. The plaintiff seeks compensatory and punitive damages in an
unspecified amount and an injunction against further disclosures. The
Company moved to dismiss the action and compel arbitration. An order
granting our motion for arbitration was entered by the court on May 22,
2002, and accordingly, the dispute will be referred to arbitration. The
court also stayed proceedings on other issues not subject to arbitration.
Management believes that this claim will not have a material adverse
effect on the Company's consolidated financial position or results of
operations. Due to the uncertainty of the outcome, no accrual for a
liability has been recorded for the year ended December 31, 2002.
(14) 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 Parent. As a condition to the Merger,
Parent raised gross proceeds of $10,000,000 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. Parent is obligated to use its best efforts to file a
registration statement with the Securities 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. In the event that the Parent fails to file or cause the
registration statement to be declared effective within 240 days of
completing the Merger, or remain effective through the first anniversary
of the Merger, the Parent will be required to issue additional shares of
its common stock, up to a maximum of 4% of the shares held by each party
subject to the agreement.
After the Merger, the Company's former stockholders own
approximately 51% of the issued and outstanding shares of Parent (in terms
of common share equivalents). The shares of Parent into which the shares
of the Company's existing common stock and the Old Class A Stock were
converted in the Merger and were thereafter automatically convertible into
Parent's common stock in installments beginning 60 days after Parent's
registration statement was to become effective and continuing, unless
interrupted under certain circumstances, until the second anniversary of
the Merger, at which time all such shares were automatically convertible
into shares of Parent's common stock.
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 private placement financing and to 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. These
costs were offset against paid-in-capital within stockholders equity in
the year ended December 31, 2002.
The audited operating results for Natexco Corporation for the year
ended December 31, 2001 are as follows:
December 31, 2001
-----------------
Revenue $ 0
Total loss from discontinued operations $ 21,439
Net Loss $ (54,484)
Net loss to common stockholders
(less than $0.01 per share) --
F-29
Diomed Holdings, Inc.
Consolidated Balance Sheets
Assets SEPTEMBER 30, DECEMBER 31,
2003 2002
(unaudited) (audited)
Current Assets:
Cash and cash equivalents $ 1,537,240 $ 1,848,646
Restricted cash - 75,000
Accounts receivable, net of allowance for doubtful accounts of
$304,000 and $308,000 in 2003 and 2002, respectively 1,166,629 676,444
Inventories 1,580,904 2,012,141
Prepaid expenses and other current assets 555,081 214,253
--------------- ---------------
Total current assets 4,839,854 4,826,484
Property and Equipment:
Office equipment and furniture and fixtures 1,486,519 1,229,307
Manufacturing equipment 829,752 731,787
Leasehold improvements 816,949 652,141
--------------- ---------------
3,133,220 2,613,235
Less--Accumulated depreciation and amortization 2,115,061 1,548,085
--------------- ---------------
Property and Equipment, net 1,018,159 1,065,150
Intangible Manufacturing Asset, net of accumulated amortization of
$564,000 and $417,000 in 2003 and 2002, respectively (Note 2j) 417,059 564,270
Intangible EVLT Technology, net of accumulated amortization of
$24,000 and zero in 2003 and 2002, respectively (Notes 2j, 5f and 11) 4,677,733 -
--------------- ---------------
Total intangible assets, net 5,094,792 564,270
Other Assets:
Deposits 169,088 597,426
Deferred offering costs (Note 10) 605,343 -
Deferred financing costs, net of accumulated amortization of
$133,000 and zero in 2002 and 2003, respectively (Notes 5d, 5e and 10) 609,959 80,000
--------------- ---------------
Total other assets 1,384,390 677,426
$ 12,337,195 $ 7,133,330
=============== ===============
F-30
Diomed Holdings, Inc.
Consolidated Balance Sheets
(continued)
Liabilities and Stockholders' Equity (Deficit)
Current Liabilities:
Bank loan $ 310,754 $ 216,307
Related party redeemable Debt ($1,200,000 face value,
net of $140,000 in debt discount at September 30, 2003) (Note 5d) 1,060,000 -
Promissory notes (Notes 5a and 5b) 1,369,544 445,208
Convertible Debt ($2,000,000 in related party debt)
(Notes 5e and 10) 6,995,000 -
Accounts payable 1,673,500 1,608,621
Accrued expenses 1,983,064 1,444,100
Current maturities of EVLT Technology Payable ($1,000,000 face
value, net of $35,609 debt discount at September 30, 2003)
(Notes 5f and 11) 964,391 -
Other current liabilities 57,483 33,993
--------------- ---------------
Total current liabilities 14,413,736 3,748,229
--------------- ---------------
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 5c) - -
Capital Lease Obligations, less current maturities - 10,018
EVLT Technology Payable, less current maturities ($1,500,000 face value,
net of $207,516 debt discount at September 30, 2003) (Notes 5f and 11) 1,292,484 -
--------------- ---------------
Total liabilities 15,706,220 4,694,247
--------------- ---------------
Commitments and Contingencies
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 September 30, 2003
and 14,688,662 shares at December 31, 2002 -0- 14,689
Designated Class E preferred stock, $0.001 par value (Note 9)
Authorized--20 shares
Issued and outstanding--20 shares at September 30, 2003
and zero shares at December 31, 2002 2,000,000 -
Designated Class F preferred stock, $0.001 par value (Note 9)
Authorized--24 shares
Issued and outstanding--24 shares at September 30, 2003
and zero shares at December 31, 2002 240,000 -
Common stock, $0.001 par value
Authorized - 80,000,000 shares
Issued and outstanding - 29,711,749 and 15,023,087 shares at
September 30, 2003 and December 31, 2002, respectively 29,712 15,023
Additional paid in capital 40,858,785 41,704,774
Accumulated comprehensive income 263,533 158,312
Accumulated deficit (46,761,055) (39,453,715)
--------------- ---------------
Total stockholders' equity (deficit) (3,369,025) 2,439,083
---------------- ---------------
$ 12,337,195 $ 7,133,330
=============== ===============
The accompanying notes are an integral part of these consolidated financial
statements.
F-31
Diomed Holdings, Inc.
Consolidated Statements of Operations
(unaudited)
Three Months Three Months Nine Months Nine Months
Ended Ended Ended Ended
September 30, September 30, September 30, September 30,
2003 2002 2003 2002
------------- ------------- ------------- -------------
Revenues $ 2,371,768 $1,945,333 $ 6,644,118 $ 4,070,478
Cost of Revenues 1,540,003 1,287,064 4,211,409 3,480,650
-------------- ------------- ------------ -------------
Gross profit 831,765 658,269 2,432,709 589,828
Operating Expenses:
Research and development 248,467 280,532 635,253 663,775
Selling and marketing 870,403 1,019,101 2,892,381 2,096,154
General and administrative 1,047,705 890,181 2,829,422 2,658,259
-------------- ------------- ------------ -------------
Total operating expenses 2,166,575 2,189,814 6,357,056 5,418,188
-------------- ------------- ------------ -------------
Loss from operations (1,334,810) (1,531,545) (3,924,347) (4,828,360)
Interest Expense, non-cash (Notes 5c and 5d) 1,995,484 0 2,933,333 225,260
Interest Expense, cash (Notes 5c, 5d and 5e) 218,778 29,192 449,661 91,879
-------------- ------------- ------------ -------------
Total interest expense 2,214,262 29,192 3,382,994 317,139
-------------- ------------- ------------ -------------
Net loss $(3,549,072) $(1,560,737) $(7,307,341) $(5,145,499)
============= ============= ============= =============
Net loss per share (Note 3):
Basic and diluted net loss per share
applicable to common stockholders $ (0.12) $ (0.11) $ (0.29) $ (0.38)
============= ============= ============= =============
Basic and diluted weighted average common
shares outstanding 29,711,749 14,200,000 25,178,002 13,399,361
============= ============= ============= =============
The accompanying notes are an integral part of these consolidated financial
statements.
F-32
Diomed Holdings, Inc.
Consolidated Statements of Cash Flows
(unaudited)
Nine Months Ended
September 30, 2003 September 30, 2002
Cash Flows from Operating Activities:
Net loss $(7,307,341) $(5,145,499)
Adjustments to reconcile net loss to net cash used in
operating activities-
Depreciation and amortization 460,234 250,635
Noncash interest expense on related party
debt 2,933,333 225,260
Issuance of stock options to a third party 8,600 63,318
Changes in operating assets and liabilities
Accounts receivable (490,185) (272,613)
Inventories 431,238 203,527
Prepaid expenses and other current assets (340,828) (7,152)
Deposits 452,094 -
Accounts payable 1,029,270 (1,409,798)
Accrued expenses 538,964 6,312
Customer advance - (293,463)
------------ ----------
Net cash used in operating activities (2,284,621) (6,379,473)
------------ ----------
Cash Flows from Investing Activities:
Purchases of property and equipment (194,627) (157,326)
Acquisition of intangible EVLT Technology (2,144,500) -
------------ ----------
Net cash used in investing activities (2,339,127) (157,326)
------------ ----------
Cash Flows from Financing Activities:
Net proceeds (payments) from bank borrowings 94,447 (595,751)
Proceeds from issue of common stock, net - 8,381,999
Proceeds from convertible debt 6,500,000 -
Proceeds from redeemable debt 1,200,000 -
Increase in deferred financing costs (683,991) -
Increase in deferred offering costs (605,343) -
Payments on related party debt (2,000,000) -
Payments on convertible debt - (700,000)
Payments on promissory notes (11,664) -
Payments on capital lease obligations (15,610) (34,231)
------------ ----------
Net cash provided by financing activities 4,477,839 7,052,017
------------ ----------
Effect of Exchange Rate Changes (165,497) 219,078
------------ ----------
Net Increase (Decrease) in Cash and Cash Equivalents (311,406) 734,296
Cash and Cash Equivalents, beginning of period 1,848,646 322,566
------------ ----------
Cash and Cash Equivalents, end of period $1,537,240 $1,056,862
=========== ============
F-33
Diomed Holdings, Inc.
Consolidated Statements of Cash Flows
(unaudited)
(continued)
Supplemental Disclosure of Cash Flow Information:
Cash paid for interest $ 67,077 $ 104,035
=========== ===========
Supplemental Disclosure of Noncash Investing and Financing
Activities:
Conversion of convertible debt into common stock $ - $ 908,355
=========== ===========
Reclassification of offering costs incurred in 2001 to
APIC $ - $ 387,133
=========== ===========
Fair value options granted to consultants $ - $ 212,978
=========== ===========
Value ascribed to debt discount
related to redeemable debt $ 240,000 $ -
=========== ===========
Value ascribed to debt discount
related to related party debt $ 2,000,000 $ -
=========== ===========
Value ascribed to stock options issued in connection
with acquisition of EVLT Technology $ 312,078 $ -
=========== ===========
Debt associated with EVLT technology acquisition $ 2,245,647 $ -
=========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
F-34
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
(1) OPERATIONS, BASIS OF PRESENTATION
(a) Operations
Diomed Holdings, Inc. (the "Company") and its subsidiaries specialize in
developing and commercializing laser and related disposable product technologies
used in minimally and micro-invasive medical procedures.
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 and disposable product technologies 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 $3,200,000 of
bridge financing from Gibralt US, Inc., an affiliate of Samuel Belzberg, a
director and significant stockholder of the Company, James A. Wylie, Jr., a
director and the Company's chief executive officer and Peter Norris, a former
director and a stockholder of the Company. (See Notes 5c and 5d) In order to
fund its operations in 2003, the Company requires additional debt or equity
financing to support the Company's commercialization of EVLT(R). The Company
will require the proceeds of any such financing, together with its current cash
resources, to continue as a going concern. As a result of the additional
financing needed to support operations in 2003, the auditors' opinion for the
year ended December 31, 2002 expressed substantial doubt about the Company's
ability to continue as a going concern.
On September 2, 2003, the Company entered into an equity financing
transaction (the "Equity Financing") in which 119 accredited investors (the
"Investors") agreed to purchase 254,437,500 shares of Common Stock for an
aggregate purchase price of $23,200,000. Twenty two million dollars of the
aggregate purchase price is payable in cash, and $1,200,000 will be paid by
conversion of the Company's outstanding debt previously issued in connection
with the Company's May 2003 bridge financing. (See Note 10)
The first closing of the Equity Financing occurred on September 3,
2003. At that time, the Investors funded $6,500,000 of the Equity Financing in
the form of secured bridge loans. The second closing of the Equity Financing
will occur after we satisfy the conditions to the second closing, which we
expect to be within 90 days after the first closing. The notes that the Company
issued in connection with the secured bridge loans at the first closing will
convert into Common Stock at the second closing at a price of $0.08 per share.
Also at the second closing, the remaining $16,700,000 of the Equity Financing
will be provided to us by the Investors for the purchase of Common Stock at a
price of $0.10 per share. Of the $16,700,000 to be provided by the Investors at
F-35
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
the second closing, $15,500,000 will be paid by the Investors in cash and
$1,200,000 will be paid by conversion of the Company's outstanding Class D notes
due 2004 that we issued in connection with loans made in its May 2003 interim
financing transaction. The $15,500,000 in cash payable at the second closing is
currently on deposit with a third party acting as our escrow agent.
The Company believes that the Equity Financing is absolutely essential
to its continued existence. If the Company is unable to obtain stockholder
approval and complete the Equity Financing within 90 days of the first closing,
or December 2, 2003, the Company will be obligated to return the $15,500,000
held in escrow for the second closing to the Investors. Our inability to
complete the Equity Financing would cause the Company to reduce or cease
operations, seek a sale of the Company or enter into a business combination with
a third party. If the Company does not complete the Equity Financing, then the
Company will attempt to sell its business and assets, to merge with another
Company or to enter into some other business combination. The Company has not
begun any discussions with any third parties to enter into any such transaction
if the Company does not complete the Equity Financing. If the Company's cash
inflows and cash outflows continue at their historic rate for the remainder of
2003, and if the Equity Financing is not completed, then the Company expects to
exhaust its current cash resources at the end of 2003.
(b) Basis of Presentation
The accompanying consolidated condensed financial statements of the
Company at September 30, 2003 and for the three-month and nine-month periods
ended September 30, 2003 and 2002 are unaudited. In management's opinion, these
unaudited consolidated condensed 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 unaudited consolidated condensed financial statements should be
read in conjunction with the audited consolidated financial statements included
in the Company's Annual Report on Form 10-KSB/A, as amended, for the year ended
December 31, 2002. The results of operations for the three-month and nine-month
periods ended September 30, 2003 are not necessarily indicative of the results
expected for the fiscal year ending December 31, 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.
F-36
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
(e) Revenue Recognition
Revenue is derived primarily from product revenue, which includes
lasers, instrumentation, and disposables, and 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, collectability is
reasonably assured, and title and risk of 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. Service revenue is recognized as the services are
performed.
(f) Warranty Obligation
The Company engages in extensive product quality programs and
processes, including actively monitoring and evaluating the quality of our
component suppliers. In addition to these proactive measures, the Company also
provides for the estimated cost of product warranties at the time revenue is
recognized.
(g) 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:
September 30, 2003 December 31, 2002
Raw materials $ 804,602 $ 982,622
Work-in-progress 334,727 446,820
Finished goods 441,575 582,699
------------------------ ----------------------
$ 1,580,904 $ 2,012,141
======================== ======================
(h) Excess and Obsolete Inventory
The Company maintains reserves for its 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.
(i) Property and Equipment
The Company records property and equipment at cost, and 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
Leasehold improvements Lesser of estimated useful life or life of lease
Depreciation expense for the nine-month periods ended September 30,
2003 and 2002 was approximately $289,000 and $103,000, respectively.
F-37
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
(j) Intangible Assets
Intangible assets are recorded at cost and consist of manufacturing
rights acquired in 2001 and the EVLT(R) patent rights acquired in September 2003
(Note 11). The manufacturing rights are being amortized over a five-year
estimated useful life. Amortization expense relating to these manufacturing
rights of approximately $49,000 is included in general and administrative
expenses for each of the three-month periods ended September 30, 2003 and 2002
and amortization expense relating to these manufacturing rights of approximately
$147,000 is included in general and administrative expenses for each of the
nine-month periods ended September 30, 2003 and 2002. The EVLT(R) patent rights
are being amortized over the remaining 16-year life of the patents, and
amortization expense relating to the EVLT(R) patent rights of $24,000 is
included in the cost of goods sold for the three and nine -month periods ended
September 30, 2003.
(k) 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.
(l) 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.
(m) 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 cases, 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 September 30,
2003 is adequate.
(n) Accounting for Stock-Based Compensation
F-38
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
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, as follows: (See Note 6)
Three-Months Ended September 30, Nine-Months Ended September 30,
2003 2002 2003 2002
Net (loss)as reported ($3,549,072) ($1,560,737) ($7,307,341) ($5,145,499)
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) ($211,729) ($462,949)
-------------- ----------- ----------- ------------
Pro forma net (loss) ($3,620,132) ($1,636,584) ($7,519,070) ($5,608,448)
============== =========== ============ ===========
Earnings per share:
Basic and diluted - as reported (0.12) (0.11) (0.29) (0.38)
Basic and diluted - pro forma (0.12) (0.12) (0.30) (0.42)
(o) Research and Development Expenses
The Company charges research and development expenses to
operations incurred.
(p) 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
resulting from transactions and other events and circumstances from non-owner
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 net income (loss) for all periods
presented in the accompanying consolidated statements of stockholders' equity
(deficit), as follows:
Three Months Three Months Nine Months Nine Months
Ended Ended Ended Ended
September 30, 2003 September 30, 2002 September 30, 2003 September 30, 2002
----------- ----------- ----------- -----------
Net loss $(3,549,072) $(1,560,737) $(7,307,341) $(5,145,499)
Foreign currency translation adjustment 255,591 (39,439) 105,221 (114,513)
----------- ----------- ----------- -----------
Comprehensive loss $(3,293,481) $(1,600,176) $(7,202,120) $(5,260,012)
=========== =========== =========== ===========
F-39
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
(q) 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.
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 nine months ended
September 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 Nine Months Ended
September 30, September 30, September 30, September 30,
2003 2002 2003 2002
-------------- -------------- -------------- --------------
Convertible Debt 99,437,500(A) -0- 99,437,500(A) -0-
============== ============== ============== ==============
Convertible Preferred Stock -0- 15,461,750(B) -0- 15,461,750(B)
============== ============== ============== ==============
Exchangeable Preferred Stock 30,138,792(C) -0- 30,138,792(C) -0-
============== ============== ============== ==============
Common Stock Options 3,431,838(D) 1,784,878 3,431,838(D) 1,784,878
============== ============== ============== ==============
Common Stock Warrants 41,000,987(E) 121,924(D) 41,000,987(E) 121,924(D)
============== ============== ============== ==============
(A) On September 2, 2003, the Company entered into an equity financing
transaction providing for an aggregate investment of $23,200,000. At the first
closing of the equity financing on September 3, 2003, the Company issued
$6,995,000 in principal amount of Secured Bridge Notes that will convert into
87,437,500 shares of common stock at $0.08 per share at the second closing of
the equity financing. (See Note 10) In addition, the $1,200,000 in principal
amount of notes issued in May 2003 will convert into 12,000,000 shares of common
stock at $0.10 per share in the second closing. (See Note 5d)
F-40
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
(B) On February 14, 2002, the Company completed a reverse merger and
issued Diomed Inc. shareholders Diomed Holdings, Inc. Class A Convertible
Preferred Stock (the "Class A Stock") that was convertible into Diomed Holdings,
Inc. Common Stock by February 14, 2004. On December 31, 2002, monthly
installments of the Class A Stock began converting into Common Stock at the rate
of 773,087 shares per month. 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 conversion of those shares of Class A Stock that had
not yet been converted into Common Stock. As of the close of business on March
31, 2003, no shares of Class A Stock were outstanding:
(C) On August 22, 2003, the Company issued 20 shares of Class E
Preferred Stock (the "Class E Stock") and 24 shares of Class F Preferred Stock
(the "Class F Stock"). The Class E Stock was issued in exchange for an equal
number of shares of Class C Convertible Preferred Stock (the "Class C Stock')
and the Class F Stock was issued in exchange for an equal number of shares of
Class D Convertible Preferred Stock (the "Class D Stock"). On May 7, 2003, the
Company had issued the Class C Stock to the December 2002 noteholders and issued
the Class D Stock to the May 2003 noteholders. (See Notes 5d and 9)
(D) See Note 6.
(E) On September 3, 2003, the Company issued 40,879,063 warrants to
purchase Common Stock to a placement agent for services rendered in the equity
financing. (See Note 10)
(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
($582,000 at September 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
September 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 September 30, 2003, there were borrowings of (pound)186,976
($310,754) outstanding under this line and available future borrowing capacity
of approximately $16,000.
(5) DEBT
a) 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 September 30, 2003 and December 31, 2002, the
balance outstanding to this promissory note was $936,000, and accrued interest
was $20,053.
b) 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 $2,000,000 bridge financing 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 September 30, 2003 and December 31,
2002, the balance outstanding to this promissory note was $316,102, and accrued
interest was $15,796 and $1,611, respectively.
F-41
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
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 $2,000,000 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 September 30, 2003 and December 31, 2002, the note balance was
$117,442 and $129,106, respectively.
c) Bridge Loan from Related Party - December 27, 2002
On December 27, 2002, the Company completed a $2,000,000 bridge note
financing with Gibralt US, Inc (the "December 2002 noteholder" and, together
with the three persons to whom Gibralt US subsequently transferred $500,000 of
the notes, the "December 2002 noteholders"), whose principal, Samuel Belzberg,
is a member of the Company's Board of Directors. The financing included
$1,000,000 in Class A secured notes and $1,000,000 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 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 noteholders. 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 5a)
As additional consideration for the financing, 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.
The notes and warrants were 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 could designate a member to the Company's Board of Directors while
the notes were 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.
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.
F-42
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
In accordance with Emerging Issues Task Force (EITF) 00-27,
"Application of EITF No. 98-05 to Certain Convertible Instruments," the Company
recognized the $2,000,000 fair value of the warrants and the beneficial
conversion feature related to the immediate convertibility of the notes to
equity as a discount to the notes. The value ascribed to the warrants was
approximately $1,200,000, as calculated using the Black-Scholes option pricing
model, and the value ascribed to the beneficial conversion feature of the notes
was $800,000. The discount was to be amortized over the term of the notes to
non-cash interest expense, with a corresponding increase in additional paid in
capital, such that the full amount of the discount was to be amortized by the
earlier of the maturity date of the notes or the convertability of the notes to
equity. The net impact on stockholders' equity/(deficit) was to be zero when the
net loss, including the discount, was fully reflected in the accumulated
deficit. Accordingly, the notes were originally recorded at net value of zero
(after the $2,000,000 discount). In the nine-month period ended September 30,
2003, $833,000 was recognized in non-cash interest expense pertaining to this
amortization of the discount due to the May 2003 exchange transaction discussed
below.
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 general 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 2003 exchange transaction.
In the nine-month period ended September 30, 2003, the Company recognized
$80,000 in general interest expense pertaining to this amortization of the
deferred financing costs, and, accordingly, the balance of the deferred
financing costs was zero as at September 30, 2003.
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
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 $1,200,000 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 Marshall & Stevens,
Incorporated, a professional valuation firm, to provide an 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 $1,000,000 in secured debt
without obtaining prior approval by its preferred stockholders under the terms
of its Class A Stock. On March 31, 2003, the Company converted all of its Class
A Stock into common stock to eliminate its convertibility feature and its
apparent negative impact on the Company's ability to obtain additional
financing. On May 7, 2003, the December 2002 noteholders exchanged their
$1,000,000 principal amount of secured Class A notes and $1,000,000 principal
amount of unsecured Class B notes for $2,000,000 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 Stock, convertible into
27,117,240 shares of common stock in exchange for eliminating the convertibility
feature of the $2,000,000 principal amount of notes and the warrants to purchase
8,333,333 shares of common stock, as well as certain other rights. The Class C
Stock was exchanged for Class E Stock on August 22, 2003. (See Note 9)
F-43
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
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. The
Class E notes were repaid in full with a portion of the proceeds from the first
closing of the equity financing.
The exchange of debt and preferred stock for the elimination of
warrants and modification of the December 2002 notes in May 2003 was treated as
an extinguishment of the $2,000,000 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.
In accordance with Emerging Issues Task Force (EITF) 00-27,
"Application of EITF No. 98-05 to Certain Convertible Instruments," the Company
recognized the $2,000,000 fair value of the preferred stock issued with the
Class E notes, which was recorded as a discount to the notes. The discount was
to be amortized over the term of the notes to non-cash interest expense, with
the offset as an increase in preferred stock, such that the full amount of the
discount was to be amortized by the earlier of the maturity date of the notes or
early retirement of the notes. The net impact on stockholders' equity/(deficit)
was to be zero when the net loss, including the discount, was fully reflected in
the accumulated deficit. Accordingly, the notes were originally recorded at net
value of zero (after the $2,000,000 discount). On September 3, 2003 the notes
were fully retired in advance of their January 1, 2006 maturity date in order to
expand the security interest base available to the holders of the September
Secured Bridge Notes while the Company obtained stockholder approval to complete
the Equity Financing. (See Notes 5e and 10) In the three-month and nine-month
periods ended September 30, 2003, the Company recognized $1,935,000 and
$2,000,000, respectively, in non-cash interest expense pertaining to this
amortization of the discount.
d) 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 $1,200,000 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 Stock, convertible into 3,021,552 shares of common stock. The
Class C Stock was exchanged for Class F Stock on August 22, 2003. (see Note 9)
The Class D notes accrue interest at an annual rate of 8%, payable upon
maturity. As of September 30, 2003, the entire $1,200,000 in interim financing
had been funded. At the second closing of the Equity Financing, the $1,200,000
in Class D notes and accrued interest will convert into common stock at $0.10
per share. (See Note 10) 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 assessing 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.
F-44
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
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 $6,000,000 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. On August 21, 2003, this deadline was extended to
the business day following any date after November 15, 2003, which the Company
and the Investors in the Equity Financing agree to as the second closing date.
(See Note 10)
In accordance with Emerging Issues Task Force (EITF) 00-27,
"Application of EITF No. 98-05 to Certain Convertible Instruments," the Company
recognized an amount of $240,000 for the fair value of the preferred stock
issued, which has been recorded as a discount to the Class D notes. The discount
will be amortized over the term of the notes to non-cash interest expense, with
a corresponding increase in preferred stock, such that the full amount of the
discount will be 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. The net
impact on stockholders' equity/(deficit) will be zero when the net loss,
including the discount, is fully reflected in the accumulated deficit. In the
three-month and nine-month periods ended September 30, 2003, the Company
recognized $60,000 and $100,000, respectively, in non-cash interest expense
pertaining to this amortization of the discount and, accordingly, the Class D
notes were recorded at $1,060,000 as of September 30, 2003.
In accordance with Emerging Issues Task Force (EITF) 00-27,
"Application of EITF No. 98-05 to Certain Convertible Instruments," the Company
will recognize a beneficial conversion feature in the amount of $960,000, which
will be recorded as a discount to the notes, upon favorable stockholder approval
of the equity financing at the annual meeting. This contingent discount will be
fully amortized to non-cash interest expense in the period in which the Class D
notes convert to equity, with a corresponding increase in additional paid in
capital. The net impact on stockholders' equity/(deficit) will be zero when the
net loss, including the discount, is fully reflected in the accumulated deficit.
In connection with the interim financing, the Company incurred $51,000
in related legal fees. As of September 30, 2003, these costs were capitalized as
deferred financing costs and will be amortized to general interest expense over
the life of the Class D notes, such that the full amount of costs will be
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 and
nine-month periods ended September 30, 2003, the Company recognized $12,775 and
$21,292, respectively, in general interest expense pertaining to this
amortization of the deferred financing costs, and, accordingly, the balance of
the deferred financing costs was $29,809 as of September 30, 2003.
e) Secured Bridge Notes - September 3, 2003
On September 2, 2003, the Company entered into agreements that provide
for the Equity Financing with 119 Investors who agreed to purchase from the
Company 254,437,500 shares of Common Stock for an aggregate purchase price of
$23,200,000. Twenty two million dollars of the aggregate purchase price is
payable in cash, and $1,200,000 will be paid by conversion of certain of the
Company's Class D notes at the second closing. (See Note 10)
At the first closing of the Equity Financing, the Company issued
$6,995,000 in principal amount of Secured Bridge Notes due September 3, 2004
(the "Secured Bridge Notes"), which accrue interest at an annual rate of 8%. The
notes are secured by a security interest in collateral that includes the
Company's rights to U.S. Patent No. 6,398,777 and related foreign patents for
endovenous laser treatment of varicose veins (the "EVLT Patent"). These patents
relate to the technology that the Company acquired on September 3, 2003
underlying the Company's EVLT(R) product line (See Note 11) and the security
interest previously granted to the December 2002 noteholders (See Notes 5c and
5d). The Class E notes were fully paid at the first closing of the Equity
Financing in advance of the January 1, 2006 maturity date to increase the
collateral available for the September Secured Bridge Notes.
F-45
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
Under the terms of the Equity Financing, at the second closing, the
aggregate principal amount of the Secured Bridge Notes converts into
approximately 87,437,500 shares of Common Stock at a purchase price of $0.08 per
share. Additional shares are to be issued to pay accrued interest on the Secured
Bridge Notes, also at $0.08 per share. Of the Secured Bridge Notes, $6,500,000
in aggregate principal amount was issued at the first closing in exchange for a
purchase price equal to $6,500,000 paid in cash. Gibralt US and the other three
holders of the Company's Class E notes purchased $2,000,000 of Secured Bridge
Notes at $0.08 per share at the same price as the other Investors paid. Each of
the other Investors who subscribed to purchase securities in the Equity
Financing purchased on a pro rata basis $4,500,000 in aggregate principal amount
of the Secured Bridge Notes. The Company also issued $495,000 in principal
amount of the Secured Bridge Notes to the placement agent in partial payment of
its fee.
If the Company defaults on any indebtedness exceeding $500,000, the
holders of at least twenty five (25%) of the outstanding principal amount of the
Secured Bridge Notes may declare the outstanding Secured Bridge Notes, together
with all accrued and unpaid interest thereon, to be immediately due and payable.
In accordance with Emerging Issues Task Force (EITF) 00-27,
"Application of EITF No. 98-05 to Certain Convertible Instruments," the Company
will recognize a beneficial conversion feature in the amount of $6,995,000,
which will be recorded as a discount to the notes, upon favorable stockholder
approval of the Equity Financing at the annual meeting. This contingent discount
will be fully amortized to non-cash interest expense in the period the Secured
Bridge Notes convert to equity, with a corresponding increase in additional paid
in capital. The net impact on stockholders' equity/(deficit) will be zero when
the net loss, including the discount, is fully reflected in the accumulated
deficit. Accordingly, as of September 30, 2003, the Secured Bridge Notes were
recorded at their full face value of $6,995,000.
In connection with the first closing, the Company incurred $632,891 in
placement agent and legal fees, including the fee due to be paid in cash to the
placement agent in the amount of $495,000 that the placement agent invested in
the Secured Bridge Notes. As of September 30, 2003, these costs were capitalized
as deferred financing costs and will be amortized to general interest expense
over the life of the notes, such that the full amount of costs will be amortized
by the earlier of the maturity date of the notes or by the month the notes are
converted into equity. In the three-month period ended September 30, 2003, the
Company recognized $52,741 in general interest expense pertaining to this
amortization of the deferred financing costs, and accordingly, the balance of
the deferred financing costs was $580,150 as of September 30, 2003.
In connection with the first closing, the Company will recognize an
additional placement agent fee, in the amount of approximately $1,800,000, for
6,187,500 warrants issued to a placement agent. The warrant fee will be recorded
as a deferred financing cost upon favorable stockholder approval of the Equity
Financing. This contingent cost will be fully amortized to general interest
expense in the period in which the Secured Bridge Notes convert to equity, with
a corresponding increase in additional paid in capital. The net impact on
stockholders' equity/(deficit) will be zero when the net loss, including the
deferred financing cost, is fully reflected in the accumulated deficit.
f) EVLT(R) Technology Acquisition - September 3, 2003
On September 3, 2003, the Company acquired rights to the EVLT Patent,
which relates to the technology underlying the Company's EVLT(R) product line.
As part of the transaction, the Company entered into an agreement with Endolaser
Associates. On September 3, 2003, the Company paid Endolaser Associates
$1,500,000 in payments in cash in exchange for the exclusive license and is to
make additional payments totaling $2,500,000 in 10 quarterly installments of
$250,000 each, commencing with the quarter following the completion of the
equity financing. (See Note 11)
F-46
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
The following summarizes the Company's current and long term debt at
December 31, 2002 and September 30, 2003:
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
============== =============
September 30, 2003 September 30, 2003
Current Long-Term
--------------- --------------
Promissory notes payable $ 433,554 $ -
Non-convertible debt 936,000 -
Related party redeemable debt (face value) 1,200,000 -
Convertible debt ($2,000,000 related party
debt)(face value) 6,995,000 -
EVLT technology payable (face value) 1,000,000 1,500,000
Capital equipment leases 18,383 -
--------------- --------------
$ 10,582,937 $ 1,500,000
=============== ==============
(6) Stock Options
(a) 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.
A summary of stock option activity is as follows:
Weighted
Average
Range of Number of Exercise
Exercise Price Shares Price
------------- ------------- -------------
Outstanding, December 31, 2002 $ 0.34-8.23 1,603,285 $ 2.90
------------- ------------- -------------
Granted 0.08-0.34 2,126,790 0.14
Forfeited 0.33-5.51 (298,237) 2.40
------------- ------------- -------------
Outstanding, September 30, 2003 $ 0.08-8.23 3,431,838 $ 1.28
============= ============= =============
Exercisable, December 31, 2002 $ 0.34-8.23 1,150,115 $ 3.49
============= ============= =============
Exercisable, September 30, 2003 $ 0.08-8.23 2,510,758 $ 1.53
============= ============= =============
F-47
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
As of September 30, 2003, 849,441 options were available for future
grants under the Plans, including 614,671 options under the 1998 Plan and
321,870 options under the 2001 Plan. However, the Company in the years ended
December 31, 2001 and 2002, and the three and nine -month periods ended
September 30, 2003 has granted options only under the 2001 Plan and does not
intend to grant options under the 1998 Plan.
On June 4, 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 $0.46 per share, the closing price of the
Company's Common Stock on June 4, 2003. The Company will seek stockholder
approval of the 2003 Omnibus Incentive Plan at its 2003 annual meeting of
stockholders, to be held on November 25, 2003.
The following table summarizes information relating to currently
outstanding and exercisable options as of September 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
-------------- ------ --------------- -------------- ------ --------------
$ 0.08-2.00 2,762,170 8.9 $ 0.42 1,885,758 $ 0.40
2.25-3.54 246,468 3.9 2.74 217,426 2.76
4.00-6.56 407,200 3.2 5.92 391,575 5.98
8.05-8.23 16,000 2.4 8.27 16,000 8.27
----------- ----------- ---------- -----------
3,431,838 $ 1.28 2,510,758 $ 1.52
=========== =========== ========== ===========
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, September 30,
2002 2003
Risk-free interest rate 1.84 - 4.74% 1.23-3.37%
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 7.6 years
(b) 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 per share 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.
On September 3, 2003, the Company acquired rights to the EVLT Patent,
which relates to the technology underlying the Company's EVLT(R) product line.
As part of the transaction, the Company entered into an agreement with Dr.
Robert Min pursuant to which the Company granted Dr. Min options, to purchase
1,000,000 shares of Common Stock. The Company recorded the fair value of these
options, in the amount of $312,078, based on the Black-Scholes option pricing
model, and capitalized this cost as part of the related intangible asset that
will be amortized over the remaining life of the EVLT Patent. The amortization
of the intangible asset will be recorded as a component of cost of goods sold.
(See Note 11)
F-48
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
(c) 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
============= =========== ============= =============
Exchanged (8,333,333) 0.26
Granted to Placement Agent $ 0.001-0.10 40,879,063 0.05 5.0
------------- ----------- ------------- -------------
Outstanding, September 30, 2003 $ 0.001-3.50 41,000,987 $ 0.06 5.0
============= =========== ============= =============
(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 Board of Directors
evaluates segment performance based on revenue. Accordingly, all expenses are
considered corporate level activities and are not allocated to segments. Also,
the Board of Directors does not assign assets to its segments. This table
presents revenues by reportable segment:
Three Month Period Ended Nine Month Period Ended
September 30, September 30, September 30, September 30,
2003 2002 2003 2002
----------- ----------- ----------- -----------
Laser systems $ 1,504,234 $ 1,404,664 $ 4,205,931 $ 2,540,724
Fibers, accessories and service 867,534 540,669 2,438,187 1,529,754
----------- ----------- ----------- -----------
Total $ 2,371,768 $ 1,945,333 $ 6,644,118 $4,070,478
=========== =========== =========== ===========
F-49
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
The following table represents percentage of revenues by geographic destination:
Three-Month Period Ended Nine-Month Period Ended
September 30, September 30,
2003 2002 2003 2002
North America 59% 57% 60% 54%
Asia/Pacific 19% 31% 23% 27%
Europe 18% 10% 15% 16%
Other 4% 2% 2% 3%
------------ ------------ ------------ -----------
Total 100% 100% 100% 100%
============ ============ ============ ===========
The following table represents long-lived assets by geographic location:
September 30, 2003 December 31, 2002
North America $ 6,897,157 $ 1,175,410
Europe 600,184 1,131,437
-------------- --------------
Total $ 7,497,341 $ 2,306,847
============== ==============
(8) MERGER AND PRIVATE OFFERING OF COMMON STOCK
The Company is a corporation originally formed under the laws of the
State of Nevada on March 3, 1998 under the name Natexco Corporation. On February
11, 2002, the Company changed its name from Natexco Corporation to Diomed
Holdings, Inc. On February 14, 2002, the Company acquired Diomed, Inc. in a
merger. As a result of the merger, Diomed, Inc. became a wholly-owned subsidiary
of the Company. The merger was accounted for as a recapitalization. Accordingly,
the historical records of Diomed, Inc. became the historical records of Natexco
and, after the merger, the Company. After the merger, the business conducted by
the Company was the business conducted by Diomed, Inc. prior to the merger.
Under the terms of the merger, the Company issued Class A Stock to the
former stockholders of Diomed, Inc. These shares of Class Stock have since
converted into Common Stock, and no Class Stock remains outstanding.
Concurrently with the merger, the Company issued 5,000,000 shares of
Common Stock in a private placement offering at a price of $2.00 per share,
resulting in gross proceeds to the Company of $10,000,000 from the private
offering. The common stock issued in this private offering were not subject to
refund, redemption or rescission and, accordingly, were included as a component
of stockholders' equity, net of applicable costs. The Company registered the
shares of Common Stock issued in the private offering with the SEC in a
registration statement that the SEC declared effective on October 24, 2002.
After the merger, the board of directors of the Company determined that
it was in the best interests of the Company and its stockholders for the Company
to change its state of incorporation from Nevada to Delaware. On May 13, 2002,
after obtaining stockholder approval, the reincorporation was effected by a
migratory merger, and the Company is now a Delaware corporation.
(9) Exchange of Class C Convertible Preferred Stock and Class D Convertible
Preferred Stock
On July 28, 2003, the Company was named as a defendant in a class
action lawsuit, Augenbaum v. Diomed Holdings, Inc. On August 6, 2003, the
Company entered into a stipulation of settlement to resolve this suit. The
stipulation of settlement became final on October 15, 2003.
F-50
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
In connection with the stipulation of settlement, on August 22, 2003,
the Company entered into an agreement with the holders of the Class C Stock by
which the holders tendered all 20 shares of Class C Stock in exchange for an
equal number of shares of Class E Stock, and the Company entered into an
agreement with the holders of the Class D Stock by which the holders tendered
all 24 shares of Class D Stock for an equal number of shares of Class F Stock.
The Class E Stock and the Class F Stock entitle the holders to one vote per
share. Following the exchange of Class C Stock for Class E Stock and Class D
Stock for Class F Stock, both the Class C Stock and Class D Stock were
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 must 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 Common Stock share pro rata in the remainder of the net liquidation
proceeds.
(10) September 2003 Equity Financing
On September 2, 2003, the Company entered into agreements that provide
for the Equity Financing in which 119 Investors agreed to purchase 254,437,500
shares of Common Stock for an aggregate purchase price of $23,200,000.
Twenty-two million dollars of the aggregate purchase price is payable in cash,
and $1,200,000 will be paid by conversion of the Class D notes issued in
connection with the Company's May 2003 bridge financing.
The first closing of the Equity Financing occurred on September 3,
2003. At that time, the Investors funded $6,500,000 of the Equity Financing in
the form of Secured Bridge Notes. The second closing of the Equity Financing
will occur after the Company satisfies the conditions to the second closing,
which is expected to be within 90 days after the first closing. The Secured
Bridge Notes issued at the first closing will convert into Common Stock at the
second closing at a price of $0.08 per share. Also at the second closing, the
remaining $16,700,000 of the Equity Financing will be provided to the Company by
the Investors for the purchase of Common Stock at a price of $0.10 per share. Of
the $16,700,000 to be provided by the Investors at the second closing,
$15,500,000 will be paid by the Investors in cash and $1,200,000 will be paid by
conversion of the Company's outstanding Class D notes. The $15,500,000 in cash
payable at the second closing is being held by a third party acting as our
escrow agent.
Three of the Investors in the Equity Financing are related to the
Company. These Investors are Gibralt US, Inc., an affiliate of Samuel Belzberg,
a director and significant stockholder of the Company, James A. Wylie, Jr., a
director and the Company's chief executive officer and Peter Norris, a former
director and a stockholder of the Company. Gibralt US loaned $1,500,000 to the
Company at the first closing and, accordingly, the Company issued $1,500,000 in
Secured Bridge Notes to him. Gibralt US also owns $1,100,000 of Class D notes
that will be converted into Common Stock at the second closing, and Mr. Wylie
and Mr. Norris each own $50,000 of Class D notes that will be converted into
Common Stock at the second closing.
Before the Company can complete the Equity Financing, the following
must occur:
o the stockholders must approve an amendment to the Company's
Certificate of Incorporation to increase the number of
authorized shares of Common Stock to 500,000,000,
F-51
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
o the stockholders must approve the issuance of up to
298,500,000 shares of Common Stock to the Investors in the
Equity Financing, and the American Stock Exchange (the "AMEX")
must approve the listing of the shares of Common Stock to be
issued to the Investors in connection with the Equity
Financing, and
o the stockholders must approve the issuance of 30,138,792
shares of Common Stock to be issued in exchange for Class E
Stock and Class F Stock, and the AMEX must approve the listing
of the shares of Common Stock to be issued to the holders of
the Class E Stock and the Class F Stock.
The Company anticipates that, assuming stockholder approval at the
annual meeting, the Equity Financing will be completed within three business
days after the annual meeting.
In connection with the Equity Financing, the Company has issued
warrants to purchase up to 40,879,063 shares of Common Stock to its placement
agent. The warrants issued to the placement agent are exercisable for five years
beginning upon approval by stockholders of the Equity Financing at the annual
meeting, and at exercise prices of $0.001, $0.08 and $0.10. The placement agent
also participated as an investor in the Equity Financing by reinvesting $495,000
of its fee in exchange for Secured Bridge Notes convertible into 6,187,500
shares of Common Stock. The original agreement with the placement agent provided
that the Company pay the placement agent a cash fee equal to 10% of the funds it
raised in a financing and issue to the placement agent warrants to purchase
shares of Common Stock equal to 10% of the aggregate number of shares of Common
Stock that were purchased by the Investors in the Equity Financing.
On August 28, 2003, the agreement with the placement agent was amended
to raise the maximum amount of the financing approved by the board of directors
and to provide for the deposit of all of the Investors' funds into an escrow
pending the second closing. The Company further agreed that it would pay the
cash portion of the fee due to the placement agent in connection with the Equity
Financing in securities rather than in cash. The placement agent agreed to
reinvest its financing fee, and the parties agreed that they would calculate the
financing fee on the total amount invested in the Company, exclusive of amounts
to be invested by the holders of the Class D notes and the Class E notes, but
inclusive of the amount the placement agent reinvested. On September 3, 2003,
the Company amended its agreement with the placement agent to reflect the
increased maximum amount of the offering from $21,200,000 to $23,200,000.
As of September 30, 2003, the Company incurred $1,238,234 in placement
agent and legal fees in connection with the Equity Financing. In connection with
the first closing, the Company incurred $632,891 of these costs, including the
placement agent's investment of its $495,000 in the Secured Bridge Notes. As of
September 30, 2003, these costs were capitalized as deferred financing costs and
will be amortized to general interest expense over the life of the notes, such
that the full amount of costs will be amortized by the earlier of the maturity
date of the notes or by the month the notes are converted into equity. In the
three-month period ended September 30, 2003, the Company recognized $52,741 in
general interest expense pertaining to this amortization of the deferred
financing costs, and as of September 30, 2003, the balance of the deferred
financing costs was $580,150.
In connection with the first closing of the Equity Financing, the
Company will recognize additional placement agent fees of approximately
$1,800,000 for the 6,187,500 Common Stock warrants issued to the placement
agent. The fee related to the warrants will be recorded as a deferred financing
cost upon favorable stockholder approval of the Equity Financing. This
contingent cost will be fully amortized to general interest expense in the
period in which the Secured Bridge Notes convert to equity, with a corresponding
increase in additional paid in capital. The net impact on stockholders'
equity/(deficit) will be zero when the net loss including the deferred financing
cost is fully reflected in the accumulated deficit.
In connection with the second closing, the Company had incurred
$605,343 in legal fees through September 30, 2003. These costs were capitalized
as deferred offering costs and will be offset against additional paid in capital
in stockholders equity upon completion of the second closing of the Equity
Financing.
F-52
DIOMED HOLDINGS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2003
(Unaudited)
The Company entered into a registration rights agreement providing for
the Company to register with the SEC the shares purchased by the investors and
the shares underlying the warrants issued to the placement agent for resale to
the public. The registration rights agreement requires the Company to file a
registration statement for these shares within 5 days after the completion of
the Equity Financing. The Company is obligated to issue additional shares
ratably to the Investors at the rate of 3% of the Investors' shares per month,
subject to a limit of 12%, if the Company does not file the registration
statement timely or if the SEC does not declare the registration effective
within 70 days after filing the registration statement.
(11) Acquisition of Exclusive EVLT(R) Technology
On September 3, 2003, the Company acquired rights to U.S. Patent No.
6,398,777 and related foreign patents for endovenous laser treatment of varicose
veins. The EVLT Patent relates to the technology underlying the Company's
EVLT(R) product line. This acquisition resulted from two transactions.
In the first transaction, the Company purchased the interest in the
EVLT Patent owned by Dr. Robert J. Min, one of the five named inventors of the
EVLT Patent. This transaction was completed under a purchase agreement between
the Company and Dr. Min entered into on July 23, 2003. Pursuant to the
agreement, on September 3, 2003, the Company paid $500,000 in cash and issued
options to purchase 1,000,000 shares of Common Stock in exchange for Dr. Min's
assignment to the Company of his interest in the EVLT Patent. The stock options
are fully vested, have an exercise price of $0.08 per share (the price per share
paid by the Investors in the first closing of the Equity Financing) and are
exercisable for ten years. The Company also has agreed to pay to Dr. Min
variable payments based on the Company's sales of products using the EVLT Patent
over the remaining 16-year life of the EVLT Patent. Dr. Min previously licensed
the EVLT Patent to the Company and had served as a consultant to the Company.
Dr. Min's consulting agreement with the Company was amended to reflect the
changes in the relationship between him and the Company as a result of the
acquisition of his EVLT Patent rights. Dr. Min will continue to act as a
consultant to the Company under the revised consulting agreement.
In the second transaction, the Company licensed, on an exclusive basis
(except for Spain), the EVLT Patent from Endolaser Associates, LLC, the assignee
of interest in the EVLT Patent from the other four named inventors of the EVLT
Patent. This transaction was completed under a license agreement between the
Company and Endolaser Associates entered into on July 11, 2003. On September 3,
2003, the Company paid Endolaser Associates $1,500,000 for the exclusive license
granted by Endolaser Associates on behalf of the four inventors who had assigned
their interest in the EVLT Patent to Endolaser Associates. The Company agreed to
make additional payments totaling $2,500,000 in 10 quarterly installments of
$250,000 each, commencing upon the second closing of the Equity Financing. The
Company has agreed to pay Endolaser Associates variable royalties based on the
Company's sales of products using the EVLT Patent over the remaining 16-year
life of the EVLT Patent.
The Company recorded an intangible technology asset in the amount of
$4,702,000 to record the acquisition of the EVLT Patent. The intangible asset
will be amortized over the remaining 16-year life of the EVLT Patent.
F-53
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS
Section 145 of the Delaware General Corporation Law (the "DGCL") allows for the
indemnification of officers, directors, and other corporate agents in terms
sufficiently broad to indemnify such persons under certain circumstances for
liabilities (including reimbursement for expenses incurred) arising under the
Securities Act. The Ninth Article of the Registrant's certificate of
incorporation and Article VII of the Registrant's bylaws authorize
indemnification of the registrant's directors, officers, employees and other
agents to the extent and under the circumstances permitted by the DGCL. The
Registrant maintains liability insurance for the benefit of its directors and
certain of its officers.
The above discussion of the DGCL and of the Registrant's certificate of
incorporation, bylaws and indemnification agreements is not intended to be
exhaustive and is qualified in its entirety by such statutes, amended and
restated certificate of incorporation, bylaws and indemnification agreements.
Insofar as indemnification for liabilities arising under the Securities Act may
be permitted to directors, officers and controlling persons of the Registrant
pursuant to the foregoing provisions, or otherwise, the Registrant has been
advised that in the opinion of the SEC such indemnification is against public
policy as expressed in the Securities Act and is, therefore, unenforceable. In
the event that a claim for indemnification against such liabilities (other than
the payment by the Registrant of expenses incurred or paid by a director,
officer or controlling person of the Registrant in the successful defense of any
action, suit or proceeding) is asserted by such director, officer or controlling
person in connection with the securities being registered, the Registrant will,
unless in the opinion of our counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the
Securities Act and will be governed by the final adjudication of such issue.
ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION
Set forth below is an estimate (except for registration fees, which are actual)
of the approximate amount of the fees and expenses (other than underwriting
commissions and discounts) payable by the Company in connection with the
issuance and distribution of the shares of common stock.
ESTIMATED
EXPENSE AMOUNT
- ------- ------
Securities and Exchange Commission Registration Fee .......... $ 500
Printing and Engraving Expenses .............................. $ 25,000
Legal Fees and Expenses ...................................... $100,000
Accounting Fees and Expenses ................................. $ 50,000
Transfer Agent Fees and Expenses ............................. $ 15,000
Miscellaneous ................................................ $ 10,000
--------
Total .................................................. $200,500
========
Item 26. Recent Sales of Unregistered Securities
During 2000 through September 30, 2003, we and Natexco Corporation, the
predecessor of Diomed Holdings, sold and issued the unregistered securities
described below:
On May 18, 2000, Natexco issued and sold 20,000 shares of preferred stock to
Desert Bloom Investments, Inc., a Colorado corporation, in consideration for
$20,000 in cash. In addition, on that date Natexco issued and sold 20,000 shares
of preferred stock to Aboyne Management, Ltd., in consideration for the cash sum
of $20,000. Aboyne is a British Columbia, Canada, corporation of which Gerald A.
Mulhall, the President and a director of Natexco, was at the time the President
and principal shareholder. In connection with the sale of the above-described
shares of preferred stock, Natexco relied upon the exemption from registration
afforded by Section 4(2) of the Securities Act. To make the exemption available,
Natexco relied upon the representation by Desert Bloom Investments, Inc. and
Aboyne Management, Ltd. that each was an accredited investor. These investors
had access to the prospectus dated February 25, 1999, used in connection with
Natexco's previous common stock offering conducted under Rule 504 of Regulation
D under Section 3(b) of the Securities Act, and/or the information provided in
the prospectus. Further, Natexco did not use public solicitation or general
II-1
advertising in connection with the offering. In connection with the sale of the
shares of preferred stock to Desert Bloom Investments, Inc., Natexco also relied
upon the exemption from registration provided under Section 11-51-308(1)(p) of
the Colorado Uniform Securities Act.
During 2000, 2001 and 2002, Diomed and Diomed Holdings sold and issued the
unregistered securities described below (those unregistered securities Diomed
sold and issued in 2000 are described in the discussion of the March 15, 2001
plan of reorganization under paragraph (1)(v) and (vi)):
1) On March 15, 2001, pursuant to a plan of reorganization, Diomed sold and
issued, and agreed to sell and issue, securities as follows:
Diomed sold 2,000,000 shares of its Series A Preferred Stock to nine purchasers
for an aggregate purchase price of $2,000,000 (each share of Series A Preferred
Stock could be converted into two shares of its common stock, subject to
adjustment as provided in its certificate of incorporation). The nine
purchasers, the shares of Diomed Series A Preferred Stock that they purchased
and the respective purchase prices paid were as follows:
Shares Purchase Price
--------- --------------
Verus International Group Limited 500,000 $ 500,000.00
Verus Investments Holdings Inc. 500,000 $ 500,000.00
Winton Capital Holdings Ltd. 500,000 $ 500,000.00
Green Crescent Corporation 318,500 $ 318,500.00
James Arkoosh 41,500 $ 41,500.00
George M. Lieberman 5,000 $ 5,000.00
Marousa L. Dumaresq 35,000 $ 35,000.00
Content Groove Inc. 50,000 $ 50,000.00
Jack L. Rivkin 50,000 $ 50,000.00
--------- -------------
2,000,000 $2,000,000.00
Diomed committed to sell an additional 500,000 shares of its Series A Preferred
Stock to Verus International, Group Limited by April 30, 2001, for an aggregate
purchase price of $500,000;
Diomed issued a put/call option under which Verus International Group Limited
and Winton Capital Holdings Ltd. could elect to purchase, and Diomed could elect
to require such purchasers to purchase, up to an additional 1,000,000 shares of
its Series A Preferred Stock at the same purchase price of $1.00 per share. The
put option expired on May 31, 2001 and the call option expired on October 31,
2001;
Diomed issued 2,475,000 shares of its common stock in connection with the
conversion by 19 noteholders of $2,475,000 in principal amount of its 9%
Convertible Subordinated Notes due March 31, 2001 (which notes were amended as
of March 15, 2001 to reduce the conversion price of such notes to $1.00 per
share). Diomed repaid an aggregate of $225,000 principal amount of these notes
that were not so converted. The 19 noteholders who converted their notes, the
principal amounts of the notes they tendered to Diomed and the number of shares
of Diomed common stock issued upon conversion of such notes were as follows:
Principal
Amount
Noteholder of Notes Shares Issued
---------- ------------ --------------
Charles Savill $ 25,000.00 25,000
Chris Ohlsen $ 25,000.00 25,000
CMWL Trust $ 500,000.00 500,000
Edward Baxter $ 25,000.00 25,000
Hugh Moreshead $ 25,000.00 25,000
Jeffrey Evans $ 25,000.00 25,000
Julian Rogers-Coltman $ 25,000.00 25,000
Mark & Amanda Sater $ 25,000.00 25,000
Michael May $ 25,000.00 25,000
Mr Robert N. Bee and/or Mrs Delores M. Bee $ 25,000.00 25,000
Neil Durazzo $ 100,000.00 100,000
II-2
Principal
Amount
Noteholder of Notes Shares Issued
---------- ------------- -------------
Nick Burge $ 25,000.00 25,000
Nick Robinson $ 25,000.00 25,000
Rathbone Jersey Limited re PT635 $1,000,000.00 1,000,000
Richard Gray $ 25,000.00 25,000
Ross Jones $ 25,000.00 25,000
Rupert Scott $ 25,000.00 25,000
Verus Investments Holdings Inc. $ 500,000.00 500,000
Xavier De. La Rochefoncould $ 25,000.00 25,000
------------- ---------
$2,475,000.00 2,475,000
Diomed issued 2,000,001 shares of its common stock to the five purchasers who
purchased units on August 31, 2000 in consideration of the tender to it for
cancellation of all securities purchased by such purchasers from us in August
2000 (namely, 571,429 shares of its common stock and warrants to purchase
1,142,858 shares of its common stock at an exercise price of $3.50 per share)
and the termination of all rights granted by it to such purchasers in connection
with the August 2000 transaction. The purchasers, the numbers of shares of
common stock that were reissued to them and, the numbers of shares of common
stock and warrants previously issued that were respectively cancelled were as
follows (rounded to whole numbers):
Shares of Common Shares of Common
Stock to be Stock to be Warrants to be
Reissued Cancelled Cancelled
--------- --------- ---------
Verus Investment Holdings 771,985 220,567 441,134
Gibralt Capital 999,999 285,714 571,428
James Arkoosh 17,500 5,000 10,000
George Lieberman 10,500 3,000 6,000
Marousa Dumaresq 200,018 57,148 114,296
--------- --------- ---------
2,000,001 571,429 1,142,858
Diomed issued 708,792 shares of its common stock to five purchasers who
purchased units in October 2000 in consideration of the tender to it for
cancellation of all securities purchased by such purchasers from us in October
2000 (namely, 202,152 shares of its common stock and warrants to purchase
202,152 shares of its common stock at an exercise price of $3.50 per share) and
the termination of all rights granted by it to such purchasers in connection
with the October 2000 transaction. The purchasers, the numbers of shares of
common stock that were reissued to them and, the numbers of shares of common
stock and warrants previously issued that were respectively cancelled were as
follows:
Shares of Common Shares of Common
Stock to be Stock to be Warrants to be
Reissued Cancelled Cancelled
---------------- ---------------- --------------
DLG Rowlands 25,000.50 7,143 7,143
Mrs. T. Norris 12,250 3,500 3,500
HSBC Financial Services (Cayman) Limited - Trustee of The 81,350.50 23,243 23,243
Abe-Sci Venture Fund
Fortis Fund Services (Cayman) Ltd. - 576,093 164,598 164,598
Trustee of Sofaer Funds/SCI Global Hedge Fund
Michael Bourne 14,098 4,028 4,028
---------- ------- -------
708,792.00 202,512 202,512
========== ======= =======
II-3
Diomed issued and sold the securities in the six above-referenced transactions
in reliance upon exemptions from registration under the Securities act of 1933,
as amended, set forth in Section 4(2) thereof or Regulation D or Regulation S
thereunder. Each purchaser represented that such purchaser was an accredited
investor or not a US person, and each agreed that the securities would not be
resold without registration under the Securities Act or exemption therefrom.
Each purchaser also represented such purchaser's intention to acquire the
securities for investment only, and not with a view to the distribution thereof.
Diomed affixed appropriate legends to the stock certificates issued in such
transactions. Prior to making any offer or sale, Diomed had reasonable grounds
to believe and believed that each purchaser was capable of evaluating the merits
and risks of the investment and was able to bear the economic risk of the
investment.
2) On April 30, 2001, Diomed sold 500,000 shares of its Series A Preferred Stock
to Verus International Group Limited, pursuant to the commitment entered into on
March 15, 2001, for a purchase price of $500,000.
Diomed issued and sold its shares to Verus International Group Limited in the
above transaction in reliance upon exemptions from registration under the
Securities act of 1933, as amended, set forth in Section 4(2) thereof or
Regulation D or Regulation S thereunder. The purchaser represented that it was
an accredited investor, and each agreed that the securities would not be resold
without registration under the Securities Act or exemption therefrom. The
purchaser also represented its intention to acquire the securities for
investment only, and not with a view to the distribution thereof. Diomed affixed
appropriate legends to the stock certificate issued in such transactions. 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.
3) On May 31, 2001, Diomed exercised its put rights under the put/call option
issued on March 15, 2001 (described under paragraph 1(iii), above) and sold
225,000 shares of its Series A Preferred Stock to four purchasers, three of
which were assignees of Verus International Group Limited, for an aggregate
purchase price of $225,000 in connection with the exercise of its rights. The
purchasers, the numbers of shares of common stock purchased and the amounts paid
were respectively as follows:
Shares Purchased Purchase Price
---------------- --------------
Winton Capital Holdings Ltd 112,500 $112,500.00
Virtual Winds Capital 80,500 $ 82,500.00
Philip Winder 25,000 $ 25,000.00
Caryn Baily 5,000 $ 5,000.00
------- -----------
225,000 $225,000.00
Diomed issued and sold the securities in the above transaction in reliance upon
exemptions from registration under the Securities act of 1933, as amended, set
forth in Section 4(2) thereof or Regulation D or Regulation S thereunder. Each
purchaser represented that such purchaser was an accredited investor or not a US
person, and each agreed that the securities would not be resold without
registration under the Securities Act or exemption therefrom. Each purchaser
also represented such purchaser's intention to acquire the securities for
investment only, and not with a view to the distribution thereof. Diomed affixed
appropriate legends to the stock certificates issued in such transactions. Prior
to making any offer or sale, Diomed had reasonable grounds to believe and
believed that each purchaser was capable of evaluating the merits and risks of
the investment and was able to bear the economic risk of the investment.
4) On September 24, 2001, Diomed issued a Promissory Note due January 1, 2004 in
the principal amount of $936,000 to Axcan Pharma, a customer, in consideration
of a prior advance of funds by such customer of $936,000.
Diomed issued its note to Axcan in the above transaction in reliance upon
exemptions from registration under the Securities Act of 1933, as amended, set
forth in Section 4(2) thereof or Regulation D thereunder. Axcan Pharma
represented that it was an accredited investor, and agreed that the note would
not be resold without registration under the Securities Act or exemption
therefrom. Axcan Pharma also represented its intention to acquire the note for
investment only, and not with a view to the distribution thereof.
5) On October 5, 2001, Diomed issued secured promissory notes due January 1,
2003 (subject to prior maturity in certain circumstances specified in such note)
in the aggregate principal amount of $500,000 to Verus International Group
II-4
Limited and Winton Capital Holdings Ltd. for an aggregate purchase price of
$500,000 (which notes are convertible into shares of its common stock at a
conversion price, referred to as the "note conversion price," equal to the lower
of $2.25 per share or the price per share (on a common stock-equivalent basis)
paid by other persons who purchase shares of its capital stock in the
transaction in connection with which such conversion occurs) and warrants to
purchase an aggregate of 50,000 shares of its common stock (subject to increase
in certain circumstances specified in such warrant) at an exercise price equal
to the note conversion price. Diomed received the proceeds of these promissory
notes in September 2001. Each purchaser purchased equal amounts of the notes and
warrants. On December 21, 2001, Diomed and the noteholders agreed to reduce the
note conversion price and the warrant exercise price to the lower of $2.00 per
share or the price per share paid by other persons who purchase shares of its
capital stock in the transaction in connection with which such conversion
occurs. The principal and accrued interest payable under these secured
promissory notes was paid in full by the Company after the closing of the
private placement sale of common stock which occurred immediately prior to the
Merger on February 14, 2002 and after the Merger became effective. As a result,
these notes are no longer outstanding, although the warrants issued in
conjunction therewith do remain outstanding.
Diomed issued and sold its securities to Verus International Group Limited and
Winton Capital Holdings Ltd. in the above transactions in reliance upon
exemptions from registration under the Securities act of 1933, as amended, set
forth in Section 4(2) thereof or Regulation D thereunder. Each purchaser
represented that it was an accredited investor, and each agreed that the
securities would not be sold without registration under the Securities Act or
exemption therefrom. Each purchaser also represented its intention to acquire
the securities for investment only, and not with a view to the distribution
thereof. Diomed affixed appropriate legends to the securities issued in the
transactions with Verus International Group Limited and Winton Capital Holdings
Ltd. Prior to making any offer or sale, Diomed had reasonable grounds to believe
and believed that each purchaser was capable of evaluating the merits and risks
of the investment and was able to bear the economic risk of the investment.
6) On December 21, 2001, Diomed issued secured promissory notes due January 1,
2003 (subject to prior maturity in certain circumstances specified in such
notes) in the aggregate principal amount of $200,000 to Verus International
Group Ltd. and Winton Capital Holdings, Ltd. for an aggregate purchase price of
$200,000 (which notes are convertible into shares of its common stock at a
conversion price, referred to as the "note conversion price," equal to the lower
of $2.00 per share or the price per share (on a common stock-equivalent basis)
paid by other persons who purchase shares of its capital stock in the
transaction in connection with which such conversion occurs) and warrants to
purchase an aggregate of 20,000 shares of common stock (subject to increase in
certain circumstances specified in such warrants) at an exercise price equal to
the note conversion price. Each purchaser purchased equal amounts of the notes
and warrants. The principal and accrued interest payable under these secured
promissory notes was paid in full by the Company after the closing of the
private placement sale of common stock which occurred immediately prior to the
Merger on February 14, 2002 and after the Merger became effective. As a result,
these notes are no longer outstanding, although the warrants issued in
conjunction therewith do remain outstanding.
Diomed issued and sold its securities to Verus International Group Limited and
Winton Capital Holdings Ltd. in the above transactions in reliance upon
exemptions from registration under the Securities act of 1933, as amended, set
forth in Section 4(2) thereof or Regulation D thereunder. Each purchaser
represented that it was an accredited investor, and each agreed that the
securities would not be sold without registration under the Securities Act or
exemption therefrom. Each purchaser also represented its intention to acquire
the securities for investment only, and not with a view to the distribution
thereof. Diomed affixed appropriate legends to the securities issued in the
transactions with Verus International Group Limited and Winton Capital Holdings
Ltd. Prior to making any offer or sale, Diomed had reasonable grounds to believe
and believed that each purchaser was capable of evaluating the merits and risks
of the investment and was able to bear the economic risk of the investment.
7) On January 1, 2002 Diomed issued 5,000 additional warrants to each of Verus
International Group Limited and Winton Capital Holdings Ltd. pursuant to the
agreements under which Diomed issued warrants to Verus International Group
Limited and Winton Capital Holdings Ltd. on October 5, 2001. The terms and
conditions of the warrants issued in January 2002 were substantially the same as
the warrants issued to Verus International Group Limited and Winton Capital
Holdings Ltd. in December 2001.
Diomed issued and sold its warrants to Verus International Group Limited and
Winton Capital Holdings Ltd., in the above transaction in reliance upon
exemptions from registration under the Securities act of 1933, as amended, set
forth in Section 4(2) thereof or Regulation D thereunder. Each purchaser also
represented its intention to acquire the warrants for investment only, and not
with a view to the distribution thereof. Diomed affixed appropriate legends to
the warrants issued in the transactions with Verus International Group Limited
and Winton Capital Holdings Ltd. Prior to making any offer or sale, Diomed had
reasonable grounds to believe and believed that each of Verus International
Group Limited and Winton Capital Holdings Ltd. was capable of evaluating the
merits and risks of the investment and was able to bear the economic risk of the
investment. Diomed affixed appropriate legends to the warrants issued in the
transactions with Verus International Group Limited and Winton Capital Holdings
Ltd.
8) In January 2002, Diomed issued 135,735 shares of its common stock in
satisfaction of indebtedness it owed to QLT under a promissory note in the
principal amount of $339,336. Diomed determined this number of shares in
accordance with the provisions of the note regarding the conversion price of the
note.
Diomed issued and sold these securities to QLT in reliance upon exemptions from
registration under the Securities Act set forth in Section 4(2) thereof or
Regulation S thereunder. QLT represented that it was not a US person and agreed
that the securities would not be resold without registration under the
Securities Act or exemption therefrom. QLT also represented it intended to
II-5
acquire the securities for investment purposes only and not with a view to the
distribution thereof. The common stock was not issued in certificated form.
Before making any offering of the securities to QLT, Diomed had reasonable
grounds to believe and believed that QLT was capable of evaluating the merits
and risks of the investment and was able to bear the economic risk of the
investment.
9) On February 14, 2002, immediately prior to the taking effect of the Merger,
we issued 5,000,000 shares of common stock at a purchase price of $2.00 per
share in a private placement offering made to 46 purchasers, and received
aggregate gross proceeds of $10,000,000 from this offering. The purchasers and
the respective numbers of shares of common stock they purchased are as follows:
Shareholder Shares Issued
- ----------- -------------
Lorne Neff 10,000
Gerry Nichele 12,500
Joan Woodrow 5,000
Cheryl More 5,000
Jim Fitzgerald 25,000
T&J Reilly Revocable Trust 35,000
Walter Eeds 35,000
3854973 Canada Inc. 100,000
Cirpa Inc. 132,500
Melvin Fogel 62,500
Bruce Fogel 100,000
Joseph Yanow 74,000
Elio Cerundolo 56,000
Alan Dershowitz 50,000
Elon Dershowitz 25,000
Panamerica Capital Group, Inc. 250,000
Private Investment Company Ltd. 250,000
Green Mountain Trading, Ltd. 50,000
Steve Leisher 50,000
Antonio Garcia 75,000
Renee Schatz Revocable Trust 35,000
Ray Grimm 25,000
Jeffrey Evans 12,500
Nicholas Burge 12,500
Julian Rogers - Coltman 12,500
Aslan Ltd. 25,000
Patricia Kelly-White 12,500
Ernest Holloway 10,000
W.T. Leahy III 25,000
Thomas Brassil 25,000
1212855 Ontario Ltd. 50,000
II-6
Shareholder Shares Issued
- ----------- -------------
John Galt Fund, L.P. 50,000
Seneca Ventures 125,000
Woodland Ventures Fund 125,000
Steve Shraiberg 300,000
Semamor Enterprises 500,000
Matthew Bronfman Recipient Pour Off Trust 250,000
Jack L. Rivkin 100,000
Orva Harwood 40,000
Winton Capital Holdings 1,200,000
Bridge Finance Ltd. 50,000
Hyde Park International Holdings Ltd. 125,000
Sarah Investments Ltd. 250,000
Charles Diamond 150,000
Lord Anthony St. John 37,500
Alex Vahabzadeh Money Purchase Plan 50,000
---------
5,000,000
Diomed issued and sold the securities in the above transaction in reliance upon
exemptions from registration under the Securities act of 1933, as amended, set
forth in Section 4(2) thereof or Regulation D or Regulation S thereunder. Each
purchaser represented that such purchaser was an accredited investor or not a US
person, and each agreed that the securities would not be resold without
registration under the Securities Act or exemption therefrom. Each purchaser
also represented such purchaser's intention to acquire the securities for
investment only, and not with a view to the distribution thereof. Diomed affixed
appropriate legends to the stock certificates issued in such transactions. Prior
to making any offer or sale, Diomed had reasonable grounds to believe and
believed that each purchaser was capable of evaluating the merits and risks of
the investment and was able to bear the economic risk of the investment. The
shares of common stock issued by Diomed in the private placement on February 14,
2002 became shares of common stock of the Company when the Merger became
effective.
10) In April 2002, we entered into an agreement, referred to as the IRG
Agreement, with The Investor Relations Group, Inc., referred to as IRG, for
investor relations and public relations services. In connection therewith, we
granted to IRG 150,000 options, referred to as the Awarded Options, to purchase
shares of Class A Stock, (which, in connection with the Migratory Merger,
discussed below, became options to purchase the Company's Class A Stock), priced
at $5.35 per share. The Awarded Options were not granted under the 2001 Plan,
but are subject to the terms and conditions of the 2001 Plan as if granted
thereunder. Any unvested Awarded Options were to terminate upon the termination
of the IRG Agreement. In November 2002, the Company terminated its agreement
with IRG. In accordance with the agreement, IRG owns 43,750 Awarded Options,
exercisable until November 2004.
The Company issued and sold the options to IRG in the above transaction in
reliance upon exemptions from registration under the Securities act of 1933, as
amended, set forth in Section 4(2) thereof or Regulation D thereunder. IRG
represented that it was an accredited investor, and agreed that the securities
would not be resold without registration under the Securities Act or exemption
therefrom. IRG also represented its intention to acquire the securities for
investment only, and not with a view to the distribution thereof. The Company
affixed appropriate legends to the options issued in this transaction. Prior to
making any offer or sale, the Company had reasonable grounds to believe and
believed that IRG was capable of evaluating the merits and risks of the
investment and was able to bear the economic risk of the investment.
11) As a result of the Migratory Merger that occurred in May, 2002, the
outstanding capital securities of the Company prior to the Migratory Merger were
exchanged for comparable securities of the Company after the Migratory Merger.
There was no change in the number of outstanding common share equivalents of the
Company, which remained at 28,965,690. However, each share of pre-Migratory
Merger Class A Stock, each share of which would have been convertible into four
shares of common stock on the basis of a pre-established schedule, received four
shares of post-Merger Class A Stock, each share of which is convertible into one
share of common stock on the basis of the same pre-established schedule. The
Migratory Merger did not result in any change in the restrictions on transfer
attaching to the 5,000,000 shares of the common stock sold in the February 14,
2002 private placement.
II-7
The Company issued the securities in the Migratory Merger in reliance upon
exemptions from registration under the Securities act of 1933, as amended, set
forth in Section 3(a)(9) thereof. In the Migratory Merger, the securities of the
predecessor (Nevada) corporation were exchanged for like securities of the
successor (Delaware) and no commission or other remuneration was paid or given
for soliciting the exchange.
12) In August 2002, we re-valued the conversion price of the promissory note
held by QLT, Inc. (issued in connection with our purchase in October 2000 of
QLT's rights related to OPTIGUIDE(R) fibers) which QLT converted into common
stock in January 2002 to $1.50 per share and in so doing, we issued an
additional 90,489 shares of Class A Stock to QLT. QLT also converted a second
promissory note held by QLT (also issued in connection with our purchase in
October 2000 of QLT's rights related to OPTIGUIDE(R) fibers) at a conversion
price of $1.50 per share, and we issued 605,570 shares of Class A Stock to QLT
in that connection.
The Company issued and sold these securities to QLT in reliance upon exemptions
from registration under the Securities Act set forth in Section 4(2) thereof or
Regulation S thereunder. QLT represented that it was not a US person and agreed
that the securities would not be resold without registration under the
Securities Act or exemption therefrom. QLT also represented it intended to
acquire the securities for investment purposes only and not with a view to the
distribution thereof. The common stock was not issued in certificated form.
Before making any offering of the securities to QLT, Diomed had reasonable
grounds to believe and believed that QLT was capable of evaluating the merits
and risks of the investment and was able to bear the economic risk of the
investment.
13) In November 2002, we issued an aggregate of 50,000 shares of common stock to
the purchasers of common stock in our February 14, 2002 private placement. We
issued these shares because the registration statement we filed registering the
private placement common stock did not become effective within 240 days of the
private placement. (The registration statement was declared effective by the SEC
as of October 25, 2002). According to the private placement agreement, we were
required to issue 1% of the shares purchased in the private placement for each
month after the 240 day deadline during which the registration statement was not
effective.
The Company filed a registration statement on Form SB-2MEF simultaneously with
the issuance of these shares of common stock. This registration statement became
effective immediately upon filing with the SEC.
14) In December 2002, in consideration for aggregate gross proceeds to Diomed of
$2,000,000 paid by Gibralt US, Inc. and pursuant to the terms and conditions of
a Note Agreement, the Company issued to Gibralt US (i) warrants to purchase up
to 8,333,333 shares of common stock at an exercise price of $.26 per share,
which warrants become exercisable on May 27, 2003 and expire on May 27, 2008,
and (ii) $1,000,000 principal amount Class A Secured Convertible Notes due
January 1, 2004 and $1,000,000 principal amount of Class B Unsecured Convertible
Notes due January 1, 2004, which Notes bear interest at the rate of 8% per
annum, and are convertible into common stock at the option of the holder(s) upon
at least 60 days written notice to the Company or, at the option of the
holder(s) upon the occurrence of certain transactions or events, specified in
the Note Agreement. The rate of conversion is 80% of the Common Stock Price (as
defined in the Note Agreement), which cannot be ascertained until a conversion
is requested because it is based on the market price of the common stock during
the period prior to the date that conversion is requested. The Company granted
certain registration rights in connection with the common stock which may be
issued upon exercise of the warrants and/or conversion of the Notes pursuant to
a registration rights agreement. In addition, the Company granted a lien in
certain assets of Diomed to the holder(s) of the Class A Secured Convertible
Notes, and pledged to the Class A Secured Convertible Note holders 100% of the
shares of Diomed PDT, Inc., a wholly-owned Delaware subsidiary of Diomed which
owns certain assets related to the Company's PDT business. Under the terms of
the Note Agreement, Gibralt US is the "Designated Purchaser" with authority to
perform certain actions relating to the Notes on behalf of the other holders of
Notes, although this authority does not include investment discretion over the
Notes or the Warrants.
Gibralt US is an affiliate of Samuel Belzberg, a director of Diomed Holdings and
Diomed. The Company believes the terms of this bridge financing were no less
favorable to Diomed Holdings and/or Diomed than if the transaction were with a
non-affiliate of the Company. This bridge financing transaction was approved by
the audit committee of the board of directors of Diomed Holdings and by the
boards of directors of Diomed Holdings and Diomed.
On March 18, 2003, Gibralt US sold and transferred to three investors in a
private transaction (i) $500,000 aggregate principal amount of Notes ($250,000
of which are Class A Notes and $250,000 of which are Class B Notes), and (ii)
2,083,334 warrants. Accordingly, after the taking effect of this transfer, Mr.
Belzberg beneficially owned 6,249,999 warrants and $1,500,000 aggregate
principal amount of Notes.
II-8
The Company issued and sold the securities in the above transaction in reliance
upon exemptions from registration under the Securities act of 1933, as amended,
set forth in Section 4(2) thereof or Regulation D thereunder. Gibralt US
represented that it was an accredited investor, and agreed that the securities
would not be resold without registration under the Securities Act or exemption
therefrom. Gibralt US also represented its intention to acquire the securities
for investment only, and not with a view to the distribution thereof. The
Company affixed appropriate legends to the Notes and warrant certificate issued
in this transaction. Prior to making any offer or sale, the Company had
reasonable grounds to believe and believed that Gibralt US was capable of
evaluating the merits and risks of the investment and was able to bear the
economic risk of the investment.
15) On May 7, 2003, the Company issued to the December 2002 noteholders a total
of 20 shares of Class C Convertible Preferred Stock, convertible into a total of
27,117,240 shares of common stock, in exchange for the convertibility feature of
the $2,000,000 principal amount of notes and their warrants to purchase
8,333,333 shares of common stock, as well as certain other rights. The terms of
the Notes issued in the December 2002 financing were amended accordingly, and
the Company issued Class C Secured Notes in exchange for the Class A and B Notes
issued in December 2002.
On May 28, 2003, the Company and the December 2002 noteholders agreed to certain
further revisions of the terms of the Notes issued in December 2002, including
extending the maturity date to January 1, 2006, limiting the collateral securing
the Notes and increasing to 12.5% the interest rate on the Notes. The December
2002 noteholders exchanged their Class C Notes for an equal principal amount of
Class E Notes, reflecting the revised terms. All of the Class E Notes were
redeemed by the Company on September 3, 2003, using a portion of the proceeds
from the first closing of the Company's equity financing which occurred on that
date, and no Class E Notes remain outstanding.
The Company issued and sold the securities in the above transactions in reliance
upon exemptions from registration under the Securities act of 1933, as amended,
set forth in Section 4(2) thereof or Regulation D thereunder. Each of the
December 2002 noteholders represented that it was an accredited investor, and
agreed that the securities would not be resold without registration under the
Securities Act or exemption therefrom. Each of the December 2002 noteholders
also represented its intention to acquire the securities for investment only,
and not with a view to the distribution thereof. The Company affixed appropriate
legends to the Notes issued in these transactions. Prior to making any offer or
sale, the Company had reasonable grounds to believe and believed that the
December 2002 noteholders were capable of evaluating the merits and risks of the
investment and was able to bear the economic risk of the investment.
16) On May 7, 2003, the Company issued Class D Secured Notes in the aggregate
principal amount of $1,200,000 in connection with loans committed by three
affiliates of the Company, Gibralt US, an affiliate of Samuel Belzberg, a
director of the Company ($1,100,000), Peter Norris, a director of the Company
($50,000) and James A. Wylie, Jr., a director and the chief executive officer of
the Company ($50,000). The terms of these Notes provide that they are redeemable
for securities that the Company issues in an equity financing transaction
entered into after the issuance of these Notes, on the same terms and conditions
as the other investors in such an equity financing.
In connection with this financing, the Company also issued to the lenders a
total of 24 shares of Class D Convertible Preferred Stock, convertible into a
total of 3,021,552 shares of common stock, allocated among the lenders in
proportion to their respective loan commitments, as compensation in
consideration of the increased that they were taking by funding the operations
of the Company in advance of investors in the future equity financing.
The Company issued and sold the securities in the above transactions in reliance
upon exemptions from registration under the Securities act of 1933, as amended,
set forth in Section 4(2) thereof or Regulation D thereunder. Each of the May
2003 noteholders represented that it was an accredited investor, and agreed that
the securities would not be resold without registration under the Securities Act
or exemption therefrom. Each of the May 2003 noteholders also represented its
intention to acquire the securities for investment only, and not with a view to
the distribution thereof. The Company affixed appropriate legends to the Notes
issued in these transactions. Prior to making any offer or sale, the Company had
reasonable grounds to believe and believed that the May 2003 noteholders were
capable of evaluating the merits and risks of the investment and was able to
bear the economic risk of the investment.
II-9
17) On August 22, 2003, pursuant to the stipulation of settlement that we
reached in the Augenbaum litigation (described under Item 1, Legal Proceedings,
above), we entered into exchange agreements with the holders of the outstanding
shares of our Class C Convertible Preferred Stock (the "Class C Stock") and
Class D Convertible Preferred Stock (the "Class D Stock"). Upon entering into
the exchange agreements, the holders of the Class C Stock exchanged their Class
C Stock for 20 shares of Class E Stock, on a share-for-share basis. Similarly,
upon execution of the exchange agreements, the holders of the 24 outstanding
Class D Stock exchanged their Class D Stock for shares of Class F Stock, on a
share-for-share basis. Following these exchanges, we eliminated all Class C
Stock and all Class D Stock.
Shares of the Class E and Class F Stock are preferred in liquidation to the
extent that, before any distribution of assets can be made to the holders of the
common stock, there will be distributed pro rata to the holders of the issued
and outstanding shares of Class E Stock and Class F Stock the amount of $108,469
as to each outstanding share of Class E Stock and $10,072 per share as to each
outstanding share of Class F Stock. The holders of the common stock then share
in the remainder of net liquidation of proceeds. The aggregate liquidation
preference of the Class E Stock is $2,169,380 and the aggregate liquidation
preference of the Class F Stock is $241,728.
The holders of the Class E Stock are entitled to cash dividends and
distributions when and as declared by the board of directors, pari passu with
the holders of our common stock with the dividend amount on each share of Class
E Stock being 1,355,862 times the dividend or distribution to be paid on each
share of common stock. The holders of the Class F Stock are entitled to cash
dividends and distributions when and as declared by the board of directors, pari
passu with the holders of our common stock with the dividend amount on each
share of Class F Stock being 125,898 times the dividend or distribution to be
paid on each share of common stock.
The exchange agreements also gave both the Company and the holders of the Class
E Stock and the Class F Stock rights to exchange those preferred shares for
shares of our common stock, as long as our stockholders approve the issuance of
the shares of our common stock underlying the preferred shares and the American
Stock Exchange approves the listing of these shares of common stock.
Specifically, if the stockholders approve the common stock issuance and the
American Stock Exchange lists these the shares of common stock, then the holders
of the Class E Stock have the right to sell to us, and we have the right to
purchase from them, each outstanding share of Class E Stock in exchange for
1,355,862 shares of our common stock per share of Class E Stock. Similarly, the
holders of the Class F Stock have the right to sell to us, and we have the right
to purchase from them, each outstanding share of Class F Stock in exchange for
125,898 shares of our common stock per share of Class F Stock. The exchange
agreements also provided that, should any sale, lease, exchange or other
disposition of all or substantially all of our assets occur while shares of
Class E Stock and Class F Stock are outstanding, each holder of the Class E
Stock has the right to sell to us all shares of Class E Stock held in exchange
for 1,355,862 shares of common stock per share of Class E Stock. Similarly, each
holder of the Class F Stock has the right to sell to us all shares of Class F
Stock held in exchange for 125,898 shares of common stock per share of Class F
Stock.
The board of directors determined that the terms of the exchange agreements were
appropriate in order to provide the former holders of the Class C Stock and the
Class D Stock with the economic equivalence of the conversion rights they held
in conjunction with the Class C Stock and Class D Stock. Upon exchange of all
Class E Stock, the former holders of the Class C Stock will receive 27,117,240
shares of our common stock, or the same number of shares of our common stock we
were obligated to issue to them upon conversion of the Class C Stock. Upon
exchange of all shares of the Class F Stock, the former holders of the Class D
Stock will receive 3,021,552 shares of common stock, or the same number of
shares of our common stock that we were obligated to issue to them upon
conversion of the Class D Stock.
The Company issued its preferred shares 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 its intention to acquire the securities
for investment only, and not with a view to the distribution thereof. Prior to
making any offer or sale, we had reasonable grounds to believe and believed that
the security holder 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.
18) On September 3, 2003, at the first closing of our equity financing
transaction, we issued an aggregate principal amount of $6,995,000 in Secured
Bridge Notes due 2004 to 119 accredited investors. The principal and accrued
interest on these Secured Bridge Notes will convert into shares of common stock
at the conversion price of $0.08 per share when we complete the equity
financing. The names of the investors in the equity financing to whom we issued
Secured Bridge Notes, the principal amount of the Secured Bridge Notes issued to
each such investor and the number of shares of common stock into which the
Secured Bridge Notes will convert are set forth below. These investors include
Gibralt US, Inc., an affiliate of one of the Company's directors, Samuel
Belzberg.
II-10
Shares of common stock to
Be Issued at Final
Closing of Equity
Financing upon Conversion
Secured Bridge Notes of Secured Bridge Notes
Purchased September 3, 2003 (Excluding Shares to Be
at First Closing of Equity Issued upon Conversion of
Name of Investor Financing Accrued Interest)
- ----------------------------------------------------------- ------------------------------- ---------------------------
Gibralt US, Inc. $1,500,000 18,750,000
Morris Belzberg $300,000 3,750,000
Charles Diamond $100,000 1,250,000
Steven Schraiberg $100,000 1,250,000
Sunrise Securities Corp. $495,000 6,187,500
Sanford Antignas $2,250 28,125
BPW Israel Ventures LLC $56,250 703,125
Emilio Bassini $22,500 281,250
HUG Funding LLC $90,000 1,125,000
West End Convertible Fund, L.P. $22,500 281,250
F. Berdon Defined Benefit Plan $9,000 112,500
Chana Braun $5,625 70,312.5
Smithfield Fiduciary, LLC $112,500 1,406,250
Meredith A. Rauhut $11,250 140,625
Sean B. Curran $11,250 40,625
Incap Company Limited $56,250 703,125
Bel-Cal Holdings, Ltd. $45,000 562,500
SDS Merchant Fund, LP $112,500 1,406,250
BayStar Capital II, LP $112,500 1,406,250
Craig Drill Capital $101,250 1,265,625
Joseph Duchman $5,625 70,312.5
Bear Stearns Securities Corp., Custodian for J. Steven Emerson $135,000 1,687,500
IRA II
Michael D. Farkas $16,875 210,937.5
The Riverview Group, LLC $317,250 3,965,625
Robert Schecter $6,750 84,375
Shimon S. Fishman $3,375 42,187.5
Platinum Partners Global Macro Fund, LP $56,250 703,125
Platinum Partners Value Arbitrage Fund, LP $168,750 2,109,375
Melton Management Ltd. $22,500 281,250
Asher Gottesman $2,250 28,125
James G. Groninger $13,500 168,750
Yehuda Harats $45,000 562,500
David Hirsch and Ruth Hirsh $5,625 70,312.5
J.M. Hull Associates, LP $22,500 281,250
Benjamin J. Jesselson 8/21/74 Trust $33,750 421,875
Michael G. Jesselson 4/8/71 Trust $33,750 421,875
Ron Katz $33,750 421,875
Joseph Klein III $11,250 140,625
Abraham Koot $1,125 14,062.5
ProMed Offshore Fund, Ltd. $16,425 205,312.5
ProMed Partners, LP $96,075 1,200,937.5
Dwight E. Lee $6,750 84,375
Jonathan Leifer $11,250 140,625
David Leiner $5,625 70,312.5
Ruth Low $22,500 281,250
II-11
Avi Lyons $2,250 28,125
Jason Lyons $1,125 14,062.5
David D. May $11,250 140,625
Balestra Capital Partners, LP $45,000 562,500
Monmouth Consulting Inc. $5,625 70,312.5
MTD Holdings LLC $56,250 703,125
Israel Nekritz $1,125 14,062.5
Tammy Newman $2,250 28,125
Pequot Navigator Offshore Fund, Inc. $135,000 1,687,500
Pequot Navigator Onshore Fund, LP $78,750 984,375
Pequot Scout Fund, LP $236,250 2,953,125
Piers Playfair $5,625 70,312.5
William J. Ritger $22,500 281,250
Orion Biomedical Fund, LP $92,418.75 1,155,234.38
Orion Biomedical Offshore Fund, LP $20,081.25 251,015.63
Reuven Y. Rosenberg $56,250 703,125
Joan Schapiro $5,625 70,312.5
Rock Associates $5,625 70,312.5
Alexander Scharf $5,625 70,312.5
David Scharf $6,750 84,375
Abraham Schwartz $3,375 42,187.5
Rivie Schwebel $5,625 70,312.5
Morton Seelenfreund IRA $22,500 281,250
Sherleigh Associates Inc. Profit Sharing Plan $112,500 1,406,250
Terrapin Partners $112,500 1,406,250
Stanley B. Stern $2,250 28,125
David Stone $56,250 703,125
Richard B. Stone $2,250 28,125
Peter Sugarman $45,000 562,500
Langley Partners, L.P. $45,000 562,500
Ellis International Ltd. $56,250 703,125
Fred Weber & Chaya Weber JT Ten $4,500 56,250
George Weinberger $22,500 281,250
Congregation Mishkan Sholom $33,750 421,875
North Sound Legacy Fund LLC $10,125 126,562.5
North Sound Legacy Institutional Fund LLC $102,375 1,279,687.5
North Sound Legacy International Ltd. $112,500 1,406,250
East Hudson Inc. (BVI) $13,275 165,937.5
The Conus Fund (QP), LP $11,025 137,812.5
The Conus Fund Offshore Ltd. $9,675 120,937.5
The Conus Fund, LP $78,525 981,562.5
Bull & Co. $14,625 182,812.5
Albert L. Zesiger $11,250 140,625
Cudd & Co. $16,650 208,125
Barrie Ramsay Zesiger $11,250 140,625
City of Milford Pension & Retirement Fund $155,250 1,940,625
City of Stamford Firemen's Pension Fund $74,250 928,125
Domenic J. Mizio $22,500 281,250
Francois deMenil $15,750 196,875
HBL Charitable Unitrust $14,625 182,812.5
II-12
Cudd & Co. $18,000 225,000
James F. Cleary $2,250 28,125
Jeanne L. Morency $11,250 140,625
John J. & Catherine H. Kayola $1,800 22,500
Hare & Co. $15,750 196,875
Meehan Foundation $14,625 182,812.5
Morgan Trust Co. of the Bahamas Ltd. As Trustee U/A/D 11/30/93 $48,375 604,687.5
Murray Capital, LLC $18,000 225,000
Huland & Co. $42,750 534,375
Huland & Co. $7,875 98,437.5
Huland & Co. $33,750 421,875
Peter Looram $6,750 84,375
Psychology Associates $4,500 56,250
Mellon Bank NA, Custodian for PERSI-Zesiger Capital $270,000 3,375,000
Robert K. Winters $675 8,437.5
Susan Uris Halpern $30,375 379,687.5
Theeuwes Family Trust, Felix Theeuwes, Trustee $14,625 182,812.5
William B. Lazar $11,250 140,625
Wolfson Investment Partners, LP $11,250 140,625
Zinc Partners II, LP $505.80 6,322.5
Zinc Partners Offshore, Ltd. $37,521 469,012.5
Zinc Partners, LP $40,723.20 509,040
We received gross proceeds of $6,500,000 from the issuance of the Secured Bridge
Notes. We applied a portion of these proceeds to repay in full all of our
outstanding Class E notes (approximately $2,140,000 of principal and interest,
including approximately $1,575,000 repaid to Gibralt US, Inc., an affiliate of
Samuel Belzberg, a director of the Company) and to acquire additional
intellectual property rights related to our EVLT(R) product line ($2,000,000).
We also paid fees incurred by legal counsel to the investors (approximately
$100,000) and reimbursable expenses incurred by our placement agent
(approximately $14,000). We intend to use the balance of these proceeds for
general working capital purposes.
As part of the compensation payable to our placement agent, Sunrise Securities
Corp., in connection with our equity financing, on September 3, 2003, we issued
warrants to purchase up to a total of 40,879,063 shares of common stock to our
placement agent. The warrants may be exercised for a five-year period beginning
when our stockholders have approved the issuance of shares of our common stock
underlying these warrants and those shares have been listed for trading on the
American Stock Exchange. The following table sets forth the respective exercise
prices of these warrants
Number of Shares of
Common Stock Purchasable Exercise Price
------------------------ --------------
17,541,563 $0.001
6,187,500 $0.08
17,150,000 $0.10
The Company issued its 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
notes, common stock or warrants, 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, her or its intention
to acquire the securities for investment only, and not with a view to the
distribution thereof. Prior to making any offer or sale, we 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.
19) On September 3, 2003, in connection with our purchase from Robert J. Min,
M.D. of his interest in the technology we use in our EVLT(R) products and
services, we issued options to purchase 1,000,000 shares of common stock to Dr.
Min.
The Company issued these options to Dr. Min in reliance upon the exemption from
registration set forth under Section 4(2) of the Securities Act of 1933, as
amended. Dr. Min 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. Dr. Min also represented intention to
acquire the securities for investment only, and not with a view to the
distribution thereof. Prior to making any offer or sale, we 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.
20) On September 30, 2003, we agreed to issue 500,000 shares of common stock to
Verus Support Services, Inc. to satisfy our obligations arising under a
II-13
December 2001 agreement between the Company and Verus. The Company believes that
Verus is no longer a holder of greater than 5% of the Company's common stock. We
engaged Verus as our financial advisor for the period ended August 31, 2003.
Under that agreement, we were to pay Verus $15,000 per month for these services.
We ceased making the $15,000 monthly payments to Verus beginning August 2002. On
September 30, 2003, we entered into an agreement with Verus pursuant to which we
are to issue to Verus a total of 500,000 shares of common stock in lieu of the
monthly payments that we did not pay to Verus. The issuance of these shares is
contingent on the completion of the equity financing, and we are to issue these
shares to Verus within three days after we complete the equity financing.
The Company issued securities to the Verus 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 common stock would not be
resold without registration under the Securities Act or exemption therefrom.
Verus also represented its intention to acquire the securities for investment
only, and not with a view to the distribution thereof. Prior to making any offer
or sale, we had reasonable grounds to believe and believed that Verus 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 shares to be issued.
We issued these shares on November 25, 2003, the same day that we completed the
equity financing.
21) On November 25, 2003, we competed our equity financing. In that connection,
we issued shares of common stock as follows:
UNDERLYING BASIS FOR ISSUANCE NUMBER OF SHARES
- ----------------------------- ----------------
Exchange of Class E Shares 27,117,240
Exchange of Class F Shares 3,021,552
Conversion of Secured Bridge Notes
Issued in First Closing of Equity Financing 87,437,500
Sale of Investors' Shares at Second Closing of
Equity Financing 167,000,000
Conversion of Interest on Secured Bridge Notes and
Class D Notes Converted at Second Closing of
Equity Financing 2,114,512
-----------
TOTAL: 286,690,804
===========
These shares are in addition to the warrants to purchase 40,879,063 shares of
common stock that we issued to our placement agent at the first closing of the
equity financing on September 3, 2003. We issued these securities to the
following persons:
Name of Investor Number of Shares
- --------------------------------------------------------------------------------
Sanford Antignas 106,150
- --------------------------------------------------------------------------------
BPW Israel Ventures LLC 2,653,750
- --------------------------------------------------------------------------------
Emilio Bassini 1,061,500
- --------------------------------------------------------------------------------
HUG Funding LLC 4,246,000
- --------------------------------------------------------------------------------
West End Convertible Fund, L.P. 1,061,500
- --------------------------------------------------------------------------------
F Berdon Defined Benefit Plan 424,600
- --------------------------------------------------------------------------------
Chana Braun 265,375
- --------------------------------------------------------------------------------
Smithfield Fiduciary LLC 5,307,500
- --------------------------------------------------------------------------------
Meredith A. Rauhut 530,750
- --------------------------------------------------------------------------------
Sean B. Curran 530,750
- --------------------------------------------------------------------------------
Incap Company Limited 2,653,750
- --------------------------------------------------------------------------------
Bel-Cal Holdings, Ltd. 2,123,000
- --------------------------------------------------------------------------------
SDS Merchant Fund, LP 5,307,500
- --------------------------------------------------------------------------------
BayStar Capital II, LP 5,307,500
- --------------------------------------------------------------------------------
Craig Drill Capital Limited 4,776,750
- --------------------------------------------------------------------------------
Joseph Duchman 265,375
- --------------------------------------------------------------------------------
Bear Stearns Securities Corp.,
FBO J. Steven Emerson 6,369,000
- --------------------------------------------------------------------------------
Michael D. Farkas 796,125
- --------------------------------------------------------------------------------
II-14
- --------------------------------------------------------------------------------
The Riverview Group, LLC 14,967,150
- --------------------------------------------------------------------------------
Robert Schecter 318,450
- --------------------------------------------------------------------------------
Shimon S. Fishman 159,225
- --------------------------------------------------------------------------------
Platinum Partners Global Macro
Fund LP 2,653,750
- --------------------------------------------------------------------------------
Platinum Partners Value
Arbitrage Fund, LP 7,961,250
- --------------------------------------------------------------------------------
Melton Management Ltd. 1,061,500
- --------------------------------------------------------------------------------
Asher Gottesman 106,150
- --------------------------------------------------------------------------------
James G. Groninger 636,900
- --------------------------------------------------------------------------------
Yehuda Harats 2,123,000
- --------------------------------------------------------------------------------
David Hirsh and Ruth Hirsh 265,375
- --------------------------------------------------------------------------------
J.M.Hull Associates, LP 1,061,500
- --------------------------------------------------------------------------------
Benjamin J. Jesselson 8/21/74
Trust 1,592,250
- --------------------------------------------------------------------------------
Michael G. Jesselson 4/8/71
Trust 1,592,250
- --------------------------------------------------------------------------------
Ron Katz 1,592,250
- --------------------------------------------------------------------------------
Joseph Klein III 530,750
- --------------------------------------------------------------------------------
Abraham Koot 53,075
- --------------------------------------------------------------------------------
ProMed Offshore Fund, Ltd. 774,895
- --------------------------------------------------------------------------------
ProMed Partners, LP 4,532,605
- --------------------------------------------------------------------------------
Dwight E. Lee 318,450
- --------------------------------------------------------------------------------
Jonathan Leifer 530,750
- --------------------------------------------------------------------------------
David Leiner 265,375
- --------------------------------------------------------------------------------
Ruth Low 1,061,500
- --------------------------------------------------------------------------------
Avi Lyons 106,150
- --------------------------------------------------------------------------------
Jason Lyons 53,075
- --------------------------------------------------------------------------------
David D. May 530,750
- --------------------------------------------------------------------------------
Balestra Capital Partners, LP 2,123,000
- --------------------------------------------------------------------------------
Monmouth Consulting Inc. 265,375
- --------------------------------------------------------------------------------
MTD Holdings LLC 2,653,750
- --------------------------------------------------------------------------------
Israel Nekritz 53,075
- --------------------------------------------------------------------------------
Tammy Newman 106,150
- --------------------------------------------------------------------------------
Pequot Navigator Offshore
Fund, Inc. 6,369,000
- --------------------------------------------------------------------------------
Pequot Navigator Onshore
Fund, LP 3,715,250
- --------------------------------------------------------------------------------
Pequot Scout Fund, LP 11,145,750
- --------------------------------------------------------------------------------
Piers Playfair 265,375
- --------------------------------------------------------------------------------
William J. Ritger 1,061,500
- --------------------------------------------------------------------------------
Orion Biomedical Fund, LP 4,360,112
- --------------------------------------------------------------------------------
Orion Biomedical Offshore
Fund, LP 947,389
- --------------------------------------------------------------------------------
Reuven Y. Rosenberg 2,653,750
- --------------------------------------------------------------------------------
Joan Schapiro 265,375
- --------------------------------------------------------------------------------
Rock Associates 265,375
- --------------------------------------------------------------------------------
Alexander Scharf 265,375
- --------------------------------------------------------------------------------
II-15
- --------------------------------------------------------------------------------
David Scharf 318,450
- --------------------------------------------------------------------------------
Abraham Schwartz 159,225
- --------------------------------------------------------------------------------
Rivie Schwebel 265,375
- --------------------------------------------------------------------------------
Morton Seelenfreund IRA 1,061,500
- --------------------------------------------------------------------------------
Sherleigh Associates Inc.
Profit Sharing Plan 5,307,500
- --------------------------------------------------------------------------------
Terrapin Partners Diomed
Investment Partnership 5,307,500
- --------------------------------------------------------------------------------
Stanley B. Stern 106,150
- --------------------------------------------------------------------------------
David Stone 2,653,750
- --------------------------------------------------------------------------------
Richard B. Stone 106,150
- --------------------------------------------------------------------------------
Peter Sugarman 2,123,000
- --------------------------------------------------------------------------------
Langley Partners, L.P. 2,123,000
- --------------------------------------------------------------------------------
Ellis International Ltd. 2,653,750
- --------------------------------------------------------------------------------
Fred Weber & Chaya Weber JT Ten 212,300
- --------------------------------------------------------------------------------
George Weinberger 1,061,500
- --------------------------------------------------------------------------------
Congregation Mishkan Sholom 1,592,250
- --------------------------------------------------------------------------------
North Sound Legacy Fund LLC 477,675
- --------------------------------------------------------------------------------
North Sound Legacy
Institutional Fund LLC 4,829,825
- --------------------------------------------------------------------------------
North Sound Legacy
International Ltd. 5,307,500
- --------------------------------------------------------------------------------
East Hudson Inc. (BVI) 626,285
- --------------------------------------------------------------------------------
The Conus Fund (QP), LP 520,135
- --------------------------------------------------------------------------------
The Conus Fund Offshore Ltd. 456,445
- --------------------------------------------------------------------------------
The Conus Fund, LP 3,704,635
- --------------------------------------------------------------------------------
Bull & Co. 689,975
- --------------------------------------------------------------------------------
Albert L. Zesiger 530,750
- --------------------------------------------------------------------------------
Cudd & Co. 785,510
- --------------------------------------------------------------------------------
Barrie Ramsay Zesiger 530,750
- --------------------------------------------------------------------------------
City of Milford Pension &
Retirement Fund 7,324,350
- --------------------------------------------------------------------------------
City of Stamford Firemen's
Pension Fund 3,502,950
- --------------------------------------------------------------------------------
Domenic J. Mizio 1,061,500
- --------------------------------------------------------------------------------
Francois deMenil 743,050
- --------------------------------------------------------------------------------
HBL Charitable Unitrust 689,975
- --------------------------------------------------------------------------------
Cudd & Co. 849,200
- --------------------------------------------------------------------------------
James F. Cleary 106,150
- --------------------------------------------------------------------------------
Jeanne L. Morency 530,750
- --------------------------------------------------------------------------------
John J. & Catherine H. Kayola 84,920
- --------------------------------------------------------------------------------
Hare & Co. 743,050
- --------------------------------------------------------------------------------
Meehan Foundation 689,975
- --------------------------------------------------------------------------------
Morgan Trust Co. of the Bahamas
Ltd. As Trustee U/A/ 2,282,225
- --------------------------------------------------------------------------------
Murray Capital, LLC 849,200
- --------------------------------------------------------------------------------
Huland & Co.
(re: NFIB Corporate Account) 1,592,250
- --------------------------------------------------------------------------------
Huland & Co.
(re: NFIB Employee Pension Trust) 2,016,850
- --------------------------------------------------------------------------------
II-16
- --------------------------------------------------------------------------------
Huland & Co.
(re: NFIB Serp Assets) 371,525
- --------------------------------------------------------------------------------
Peter Looram 318,450
- --------------------------------------------------------------------------------
Psychology Associates 212,300
- --------------------------------------------------------------------------------
Mellon Bank NA custodian for
PERSI-Zesiger Capital 12,738,000
- --------------------------------------------------------------------------------
Robert K. Winters 31,845
- --------------------------------------------------------------------------------
Susan Uris Halpern 1,433,025
- --------------------------------------------------------------------------------
Theeuwes Family Trust, Felix
Theeuwes Trustee 689,975
- --------------------------------------------------------------------------------
William B. Lazar 530,750
- --------------------------------------------------------------------------------
Wolfson Investment Partners, LP 530,750
- --------------------------------------------------------------------------------
Zinc Partners II, LP 23,863
- --------------------------------------------------------------------------------
Zinc Partners Offshore, Ltd. 1,770,158
- --------------------------------------------------------------------------------
Zinc Partners, LP 1,921,231
- --------------------------------------------------------------------------------
Nathan A. Low (1) 22,218,772
- --------------------------------------------------------------------------------
Sunrise Foundation Trust (1) 5,659,712
- --------------------------------------------------------------------------------
Amnon Mandelbaum (1) 9,475,812
- --------------------------------------------------------------------------------
Derek Caldwell (1) 3,117,631
- --------------------------------------------------------------------------------
Paul Scharfer (1) 1,591,992
- --------------------------------------------------------------------------------
David I. Goodfriend (1) 1,178,083
- --------------------------------------------------------------------------------
Jason Lyons (1) 1,142,798
- --------------------------------------------------------------------------------
Richard Stone (1) 1,702,209
- --------------------------------------------------------------------------------
Richard Geyser (1) 135,332
- --------------------------------------------------------------------------------
Jay Rodin (1) 150,369
- --------------------------------------------------------------------------------
David Bartash (1) 801,841
- --------------------------------------------------------------------------------
Marcia Kucher (1) 7,519
- --------------------------------------------------------------------------------
Peter Norris 664,745
- --------------------------------------------------------------------------------
James A. Wylie, Jr 649,010
- --------------------------------------------------------------------------------
Samuel Belzberg 53,644,464
- --------------------------------------------------------------------------------
Morris Belzberg 7,887,586
- --------------------------------------------------------------------------------
Steven Shraiberg 2,629,196
- --------------------------------------------------------------------------------
Charles Diamond 2,629,196
- --------------------------------------------------------------------------------
(1) Transferee of Secured Bridge Notes and warrants originally issued to Sunrise
Securities Corp., our placement agent, at the first closing of the equity
financing in payment of fees we owed the placement agent for services rendered
in connection with the equity financing, and includes shares issued upon
conversion of Secured Bridge Notes as well as shares underlying warrants.
At the final closing of the equity financing on November 25, 2003, the investors
provided $16,700,000 to the Company, $15,500,000 of which was paid in cash, with
the remaining $1,200,000 invested by conversion of the Company's Class D Secured
Notes due 2004 issued in connection with the Company's May 2003 interim
financing transaction. The holders of the Class D Notes were affiliates of the
Company: Gibralt US, Inc., which is an affiliate of Samuel Belzberg, a director
of the Company; James A. Wylie, Jr., a director and the chief executive officer
of the Company; and Peter Norris, a former director of the Company (holding
$1,100,000, $50,000 and $50,000 principal amount of Class D Notes,
respectively).
II-17
The second closing was conditioned on, among other things, stockholder approval
by the Company's stockholders of: (i) an amendment to the Company's certificate
of incorporation that would increase the number of authorized shares of common
stock to 500,000,000; (ii) the listing of the shares of common stock to be
issued to the Investors on the American Stock Exchange (the "AMEX") and (iii)
the issuance of 30,138,792 shares of common stock to Gibralt US, Inc. and the
other parties that provided interim financings to the Company in December 2002
and May 2003. The Company's stockholders approved these matters at the Company's
2003 Annual Meeting of stockholders on November 25, 2003. The Company issued a
total of 286,690,804 shares to the Investors, in addition to the warrants to
purchase 40,879,063 shares of common stock that the Company had issued to its
placement agent at the first closing as part of the placement agent's
compensation.
The Company has applied a portion of the proceeds from the first closing of the
Equity Financing to repay in full all outstanding Class E Secured Notes issued
in connection with the Company's $2 million bridge financing in December 2002
($1,500,000 of which were held by Gibralt US, Inc., an affiliate of Samuel
Belzberg, a director) and to acquire additional intellectual property rights
related to the Company's EVLT(R) product line and for general working capital
purposes. The Company will use the proceeds from the second closing of the
Equity Financing to support the Company's sales and marketing initiatives,
effect its intellectual property strategy and for other general working capital
purposes.
The Company issued its securities in the equity financing 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 notes, common stock or warrants, 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, her or its intention to acquire the securities for investment only, and not
with a view to the distribution thereof. Prior to making any offer or sale, we
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.
All of the above transactions were made directly without use of an underwriter.
In each case the aggregate sales proceeds (if any), after payment of offering
expenses in immaterial amounts, were applied to our working capital and other
general corporate purposes.
II-18
ITEM 27. EXHIBITS
INDEX TO EXHIBITS
EXHIBIT NO. IDENTIFICATION OF EXHIBIT
- ----------- -------------------------
2.1 Agreement and Plan of Merger for Diomed Merger (1)
2.2 Certificate of Amendment of Articles of Incorporation of Natexco
Corporation (1)
2.3 Agreement and Plan of Merger for migratory merger (2)
2.4 Articles of Merger for migratory merger (Nevada) (2)
2.5 Certificate of Merger for migratory merger (Delaware) (2)
3.1 Diomed Holdings, Inc. (Nevada) Articles of Incorporation (1)
3.2 Diomed Holdings, Inc. (Nevada) Amendment to the Articles of
Incorporation (1)
3.3 Certificate of Incorporation of Diomed Holdings, Inc. (Delaware)
(2)
3.4 Restated By-laws of Diomed Holdings, Inc. (Nevada) (1)
3.5 By-laws of Diomed Holdings, Inc. (Delaware) (2)
4.2 Diomed Holdings, Inc. (Nevada) Certificate of Designation for
Class A Convertible Preferred Stock (1)
4.3 Diomed Holdings, Inc. (Delaware) Certificate of Designation for
Class A Convertible Preferred Stock (2)
4.4 Diomed Holdings, Inc. Certificate of Designations for Class C
Convertible Preferred Stock (7)
4.5 Diomed Holdings, Inc. Certificate of Designations for Class D
Convertible Preferred Stock (7)
4.6 Diomed, Inc. 1998 Incentive Stock Plan (1)
4.7 Diomed, Inc. 2001 Employee Stock Option Plan (1)
II-19
EXHIBIT NO. IDENTIFICATION OF EXHIBIT
- ----------- -------------------------
4.8 Diomed Holdings, Inc. 2003 Omnibus Incentive Plan (11)
5.1 Legality Opinion rendered by the Registrant's legal counsel,
McGuireWoods LLP (13)
10.1 Form of Subscription Agreement and Investment Representation
regarding February 14, 2002 Private Placement (1)
10.2 Escrow Agreement regarding February 14, 2002 Private Placement (1)
10.3 Lock-up Agreement Applicable to February 14, 2002 Private
Placement Investors (1)
10.4 Consulting Agreement between the Company and Verus Support
Services, Inc. dated December 21, 2001 (1)
10.5 Letter Agreement between Diomed Holdings, Inc. and Verus Support
Services, Inc. dated as of September 3, 2003, providing for
issuance of shares of common stock in lieu of payment (10)
10.6 Agreement between James Arkoosh and Diomed (1)
10.7 Employment Agreement with Peter Klein, dated July 24, 1999 (1)
10.8 Employment Agreement with James A. Wylie, Jr. dated January 10,
2003 (6)
10.9 Cambridge Facility Lease (3)
10.10 Axcan Pharma, Inc.--Diomed photodynamic therapy Laser Development
and Supply Agreement (3)
10.11 HRI Sub-License Agreement between QLT and Diomed (3)
10.12 EVLT(R) Marketing and Promotion Agreement with Dr. Robert Min (3)
10.13 EVLT(R) Marketing and Promotion Agreement with Dr. Steven E.
Zimmet (3)
10.14 EVLT(R) Patent Purchase Agreement with Dr. Robert Min (8)
10.15 EVLT(R) Patent Exclusive License Agreement with Endolaser
Associates, LLC (8)
10.16 Amendment to Engagement Letter with Placement Agent, dated as of
September 3, 2003, providing for the issuance of 40,879,063
warrants to Placement Agent (including form of warrant) (9)
10.17 Report of Atlas Capital Services dated February 4, 2002 (1)
10.18 Descriptive Memorandum of Diomed Holdings, Inc. (4)
10.19 Note Purchase Agreement dated December 27, 2002 (5)
10.20 Form of Class A Secured Notes due 1/1/2004 (5)
10.21 Form of Class B Unsecured Notes due 1/1/2004 (5)
10.22 Registration Rights Agreement dated December 27, 2002 (5)
10.23 Security Agreement dated December 27, 2002 (5)
II-20
EXHIBIT NO. IDENTIFICATION OF EXHIBIT
- ----------- -------------------------
10.24 Pledge Agreement dated December 27, 2002 (5)
10.25 Exchange Agreement dated as of April 22, 2003 (7)
10.26 Form of Class C Secured Notes due 1/1/2004 (7)
10.27 Secured Loan Agreement dated as of April 22, 2003 (7)
10.28 Form of Class D Secured Notes due 5/8/04 (7)
10.29 Amended and Restated Security Agreement dated as of April 22, 2003
(7)
10.30 Amended and Restated Pledge Agreement dated as of April 22, 2003
(7)
10.31 Amended and Restated Registration Rights Agreement dated as of
April 22, 2003 (7)
10.32 Second Exchange Agreement dated as of May 28, 2003 (12)
10.33 Second Amended and Restated Security Agreement dated as of May 28,
2003 (12)
10.34 Amendment to First Exchange Agreement dated as of May 28, 2003
(12)
10.35 Amendment to Secured Loan Agreement dated as of May 28, 2003 (12)
10.36 Second Amendment to First Exchange Agreement dated as of July 31,
2003 (12)
10.37 Amendment to Second Amended and Restated Security Agreement dated
as of July 31, 2003 (12)
10.38 Amendment to Second Exchange Agreement dated as of July 31, 2003
(12)
10.39 Second Amendment to Secured Loan Agreement dated as of July 31,
2003 (12)
10.40 Exchange Agreement regarding Class C Stock (Exchanged for Class E
Preferred Stock) (10)
10.41 Exchange Agreement regarding Class D Stock (Exchanged for Class F
Preferred Stock) (10)
10.42 Letter of Understanding with Gibralt US, Inc. dated August 21,
2003 (10)
10.43 Securities Purchase Agreement for Equity Financing (9)
10.44 Form of Secured Bridge Notes (Issued at First Closing of Equity
Financing on September 3, 2003) (9)
10.45 Escrow Agreement regarding Equity Financing (9)
10.46 Investors' Rights Agreement regarding Equity Financing (9)
10.47 Patent Security Agreement regarding Equity Financing (9)
10.48 Security Agreement regarding Equity Financing (9)
10.49 Stockholders' Agreement regarding Equity Financing (9)
10.50 Pledge Agreement regarding Equity Financing (9)
23.1 Consent of BDO Seidman, LLP (13)
II-21
EXHIBIT NO. IDENTIFICATION OF EXHIBIT
- ----------- -------------------------
23.2 Consent of McGuireWoods LLP (included with Exhibit 5.1)
99.1 Stock Order Form (13)
- ----------
(1) Filed with the Company's Current Report on SEC Form 8-K dated February 14,
2002.
(2) Filed with the Company's Current Report on SEC Form 8-K dated May 14,
2002.
(3) Filed with the Company's Annual Report on Form 10-KSB/A dated April 29,
2002.
(4) Filed with the Company's Current Report on Form 8-K dated October 22,
2003.
(5) Filed with the Company's Current Report on Form 8-K dated December 30,
2002.
(6) Filed with the Company's Current Report on Form 8-K dated January 13,
2003.
(7) Filed with the Company's Current Report on Form 8-K/A dated May 19, 2003.
(8) Filed with the Company's Current Report on Form 8-K dated September 10,
2003 regarding EVLT(R) Patent.
(9) Filed with the Company's Current Report on Form 8-K dated September 10,
2003 regarding Equity Financing.
(10) Filed with the Company's Quarterly Report on Form 10-QSB filed November
10, 2003.
(11) Filed with the Company's Definitive Proxy Statement on Schedule 14A filed
October 27, 2003.
(12) Filed with the Company's Registration Statement on Form SB-2 filed on
December 3, 2003.
(13) Filed herewith.
During the last quarter of the fiscal year ended December 31, 2001, the Company
filed a report on Form 8-K dated December 17, 2001, reporting under Item 5 that,
pursuant to the written consent of directors in accordance with Section 78.207
of the Nevada General Corporation Law, as of the opening of business on Friday,
December 28, 2001, the Company would multiply its authorized shares of common
stock by four, from 20,000,000 to 80,000,000, and correspondingly multiply the
outstanding number of shares of common stock by four, from 2,400,000 to
9,600,000. No financial statements were filed in connection with that Form 8-K.
During the first quarter of fiscal year 2002, the Company filed a report on Form
8-K dated February 14, 2002, reporting under Item 5 that, on February 14, 2002,
Diomed Acquisition Corp., a Delaware corporation and a wholly-owned subsidiary
of the Company formerly known as Natexco Corporation, merged with and into
Diomed, pursuant to the Diomed Merger Agreement.
During the second quarter of fiscal year 2002, the Company filed a report on
Form 8-K dated May 14, 2002, reporting under Item 5 that, on May 13, 2002 the
Company merged with and into a Diomed Holdings (Delaware), Inc., a Delaware
corporation and a wholly-owned subsidiary of the Company and that the Diomed
Holdings (Delaware), Inc. changed its name to Diomed Holdings, Inc. as of the
effective time of the merger, pursuant to the migratory merger Agreement.
During the third quarter of fiscal year 2002, the Company filed a report on Form
8-K dated August 6, 2002, reporting under Item 4 that, on August 5, 2002, the
Company dismissed its auditors, Arthur Andersen LLP, and appointed new
independent auditors, BDO Seidman, LLP.
During the fourth quarter of 2002, on October 11, 2002, the Company filed a Form
8-K to describe the appointment of Spicer, Jeffries & Co. for the limited
purpose of auditing the financial statements as of December 31, 2001 of Natexco
Corporation, to which the Company is the successor registrant.
During the fourth quarter of 2002, on October 22, 2002, the Company filed a Form
8-K containing a descriptive memorandum of the Company as of March 29, 2002.
During the fourth quarter of 2002, on December 30, 2002, the Company filed a
Form 8-K announcing the consummation on December 27, 2002 of its $2,000,000
interim financing transaction with an affiliate of a related party, Samuel
Belzberg, a director.
II-22
During the first quarter of 2003, on January 13, 2003, the Company filed a Form
8-K to announce the appointment of Geoffrey H. Jenkins as chairman of the board
of directors and the appointment of James A. Wylie, Jr. as a director and as
president and chief executive officer.
During the second quarter of 2003, on May 15, 2003, the Company filed a Form 8-K
to announce the consummation on May 7, 2003 of a $1,200,000 interim financing
transaction with an affiliate of a related party, Samuel Belzberg, a director,
and two other directors, Peter Norris and James A. Wylie, Jr., and to announce
certain modifications to the terms of the Company's December 27, 2003 interim
financing transaction. The Company filed an amendment on Form 8-K/A on May 16,
2003 to make certain changes to the description of the transactions.
During the third quarter of 2003, on n July 29, 2003, the Company filed a Form
8-K disclosing the Augenbaum class action litigation filed against the Company
on July 28, 2003.
During the third quarter of 2003, on August 6, 2003, the Company filed a Form
8-K disclosing that it had entered into a stipulation of settlement in
connection with the Augenbaum class action litigation filed against the Company
on July 28, 2003.
During the third quarter of 2003, on September 10, 2003, the Company filed a
Form 8-K in connection with its September 2, 2003 equity financing transaction
in which 119 accredited investors agreed to purchase 254,437,500 shares of
common stock for an aggregate purchase price of $23,200,000
During the third quarter of 2003, on September 10, 2003, the Company filed a
Form 8-K in connection with its September 3, 2003 acquisition of the exclusive
rights to U.S. Patent No. 6,398,777 and related foreign patents for endovenous
laser treatment of varicose veins, which patents relate to the technology
underlying the Company's EVLT(R) product.
ITEM 28. UNDERTAKINGS
The undersigned registrant hereby undertakes:
(1) To file, during any period in which offers or sales are being made, a
post-effective amendment to this registration statement:
(a) to include any prospectus required by Section 10(a)(3) of the Securities
Act;
(b) to reflect in the prospectus any facts or events arising after the effective
date of this registration statement (or the most recent post-effective amendment
hereof) which, individually or in the aggregate, represent a fundamental change
in the information set forth in this registration statement. Notwithstanding the
foregoing, any increase or decrease in volume of securities offered (if the
total dollar value of securities offered would not exceed that which was
registered) and any deviation from the low or high end of the estimated maximum
offering range may be reflected in the form of prospectus filed with the
Commission pursuant to Rule 424(b), if in the aggregate, the changes in volume
and price represent no more than a 20% change in the maximum aggregate offering
price set forth in the "Calculation of Registration Fee" table in the effective
registration statement.
(c) to include any material information with respect to the plan of distribution
not previously disclosed in this registration statement or any material change
to such information in this registration statement.
(2) That, for the purpose of determining any liability under the Securities Act,
each such post-effective amendment shall be deemed to be a new registration
statement relating to the securities offered therein, and the offering of such
securities at that time shall be deemed to be the initial bona fide offering
thereof.
(3) To remove from registration by means of a post-effective amendment any of
the securities being registered which remain unsold at the termination of the
offering.
II-23
Insofar as indemnification for liabilities arising under the Securities Act may
be permitted to directors, officers and controlling persons of the Registrant
pursuant to the foregoing provisions, or otherwise, the Registrant has been
advised that in the opinion of the SEC such indemnification is against public
policy as expressed in the Securities Act and is, therefore, unenforceable. In
the event that a claim for indemnification against such liabilities (other than
the payment by the Registrant of expenses incurred or paid by a director,
officer or controlling person of the Registrant in the successful defense of any
action, suit or proceeding) is asserted by such director, officer or controlling
person in connection with the securities being registered, the Registrant will,
unless in the opinion of our counsel the matter has been settled by controlling
precedent, submit to a court of appropriate jurisdiction the question whether
such indemnification by it is against public policy as expressed in the
Securities Act and will be governed by the final adjudication of such issue.
II-19
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT, THE REGISTRANT CERTIFIES
THAT IT HAS REASONABLE GROUNDS TO BELIEVE THAT IT MEETS ALL OF THE REQUIREMENTS
FOR FILING ON FORM SB-2 AND HAS DULY CAUSED THIS REGISTRATION STATEMENT TO BE
SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED, IN THE CITY
OF NEW YORK, STATE OF NEW YORK, ON JANUARY 15, 2004. EACH PERSON WHOSE
SIGNATURE APPEARS BELOW HEREBY APPOINTS JAMES A. WYLIE, JR. AS SUCH PERSON'S
TRUE AND LAWFUL ATTORNEY, WITH FULL POWER FOR HIM TO SIGN, FOR SUCH PERSON AND
IN SUCH PERSON'S NAME AND CAPACITY INDICATED BELOW, ANY AND ALL AMENDMENTS TO
THIS REGISTRATION STATEMENT, HEREBY RATIFYING AND CONFIRMING SUCH PERSON'S
SIGNATURE AS IT MAY BE SIGNED BY SAID ATTORNEY TO ANY AND ALL AMENDMENTS.
DIOMED HOLDINGS, INC.
By: /S/JAMES A. WYLIE, JR.
-------------------------------------
JAMES A. WYLIE, JR.
PRESIDENT AND CHIEF EXECUTIVE OFFICER
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES ACT, THIS REGISTRATION STATEMENT
HAS BEEN SIGNED BY THE FOLLOWING PERSONS, CONSTITUTING A MAJORITY OF THE BOARD
OF DIRECTORS, IN THE CAPACITIES AND ON THE DATES INDICATED.
SIGNATURE TITLE DATE
--------- ----- ----
/S/ JAMES A. WYLIE, JR. President, Chief Executive Officer and January 15, 2004
- -------------------------------------- Director
(JAMES A. WYLIE, JR)
/S/ DAVID B. SWANK Chief Financial Officer and January 15, 2004
- -------------------------------------- Director
(DAVID B. SWANK)
/S/ GEOFFREY H. JENKINS Chairman of the Board, Director January 15, 2004
- --------------------------------------
(GEOFFREY H. JENKINS)
/S/ GARY BROOKS Director January 15, 2004
- --------------------------------------
(GARY BROOKS)
II-24
INDEX TO EXHIBITS
EXHIBIT NO. IDENTIFICATION OF EXHIBIT
- ----------- -------------------------
2.1 Agreement and Plan of Merger for Diomed Merger (1)
2.2 Certificate of Amendment of Articles of Incorporation of Natexco
Corporation (1)
2.3 Agreement and Plan of Merger for migratory merger (2)
2.4 Articles of Merger for migratory merger (Nevada) (2)
2.5 Certificate of Merger for migratory merger (Delaware) (2)
3.1 Diomed Holdings, Inc. (Nevada) Articles of Incorporation (1)
3.2 Diomed Holdings, Inc. (Nevada) Amendment to the Articles of
Incorporation (1)
3.3 Certificate of Incorporation of Diomed Holdings, Inc. (Delaware)
(2)
3.4 Restated By-laws of Diomed Holdings, Inc. (Nevada) (1)
3.5 By-laws of Diomed Holdings, Inc. (Delaware) (2)
4.2 Diomed Holdings, Inc. (Nevada) Certificate of Designation for
Class A Convertible Preferred Stock (1)
4.3 Diomed Holdings, Inc. (Delaware) Certificate of Designation for
Class A Convertible Preferred Stock (2)
4.4 Diomed Holdings, Inc. Certificate of Designations for Class C
Convertible Preferred Stock (7)
4.5 Diomed Holdings, Inc. Certificate of Designations for Class D
Convertible Preferred Stock (7)
4.6 Diomed, Inc. 1998 Incentive Stock Plan (1)
4.7 Diomed, Inc. 2001 Employee Stock Option Plan (1)
4.8 Diomed Holdings, Inc. 2003 Omnibus Incentive Plan (11)
5.1 Legality Opinion rendered by the Registrant's legal counsel,
McGuireWoods LLP (13)
10.1 Form of Subscription Agreement and Investment Representation
regarding February 14, 2002 Private Placement (1)
10.2 Escrow Agreement regarding February 14, 2002 Private Placement (1)
10.3 Lock-up Agreement Applicable to February 14, 2002 Private
Placement Investors (1)
10.4 Consulting Agreement between the Company and Verus Support
Services, Inc. dated December 21, 2001 (1)
10.5 Letter Agreement between Diomed Holdings, Inc. and Verus Support
Services, Inc. dated as of September 3, 2003, providing for
issuance of shares of common stock in lieu of payment (10)
II-25
EXHIBIT NO. IDENTIFICATION OF EXHIBIT
- ----------- -------------------------
10.6 Agreement between James Arkoosh and Diomed (1)
10.7 Employment Agreement with Peter Klein, dated July 24, 1999 (1)
10.8 Employment Agreement with James A. Wylie, Jr. dated January 10,
2003 (6)
10.9 Cambridge Facility Lease (3)
10.10 Axcan Pharma, Inc.--Diomed photodynamic therapy Laser Development
and Supply Agreement (3)
10.11 HRI Sub-License Agreement between QLT and Diomed (3)
10.12 EVLT(R) Marketing and Promotion Agreement with Dr. Robert Min (3)
10.13 EVLT(R) Marketing and Promotion Agreement with Dr. Steven E.
Zimmet (3)
10.14 EVLT(R) Patent Purchase Agreement with Dr. Robert Min (8)
10.15 EVLT(R) Patent Exclusive License Agreement with Endolaser
Associates, LLC (8)
10.16 Amendment to Engagement Letter with Placement Agent, dated as of
September 3, 2003, providing for the issuance of 40,879,063
warrants to Placement Agent (including form of warrant) (9)
10.17 Report of Atlas Capital Services dated February 4, 2002 (1)
10.18 Descriptive Memorandum of Diomed Holdings, Inc. (4)
10.19 Note Purchase Agreement dated December 27, 2002 (5)
10.20 Form of Class A Secured Notes due 1/1/2004 (5)
10.21 Form of Class B Unsecured Notes due 1/1/2004 (5)
10.22 Registration Rights Agreement dated December 27, 2002 (5)
10.23 Security Agreement dated December 27, 2002 (5)
10.24 Pledge Agreement dated December 27, 2002 (5)
10.25 Exchange Agreement dated as of April 22, 2003 (7)
10.26 Form of Class C Secured Notes due 1/1/2004 (7)
10.27 Secured Loan Agreement dated as of April 22, 2003 (7)
10.28 Form of Class D Secured Notes due 5/8/04 (7)
10.29 Amended and Restated Security Agreement dated as of April 22, 2003
(7)
10.30 Amended and Restated Pledge Agreement dated as of April 22, 2003
(7)
10.31 Amended and Restated Registration Rights Agreement dated as of
April 22, 2003 (7)
10.32 Second Exchange Agreement dated as of May 28, 2003 (12)
II-26
EXHIBIT NO. IDENTIFICATION OF EXHIBIT
- ----------- -------------------------
10.33 Second Amended and Restated Security Agreement dated as of May 28,
2003 (12)
10.34 Amendment to First Exchange Agreement dated as of May 28, 2003
(12)
10.35 Amendment to Secured Loan Agreement dated as of May 28, 2003 (12)
10.36 Second Amendment to First Exchange Agreement dated as of July 31,
2003 (12)
10.37 Amendment to Second Amended and Restated Security Agreement dated
as of July 31, 2003 (12)
10.38 Amendment to Second Exchange Agreement dated as of July 31, 2003
(12)
10.39 Second Amendment to Secured Loan Agreement dated as of July 31,
2003 (12)
10.40 Exchange Agreement regarding Class C Stock (Exchanged for Class E
Preferred Stock) (10)
10.41 Exchange Agreement regarding Class D Stock (Exchanged for Class F
Preferred Stock) (10)
10.42 Letter of Understanding with Gibralt US, Inc. dated August 21,
2003 (10)
10.43 Securities Purchase Agreement for Equity Financing (9)
10.44 Form of Secured Bridge Notes (Issued at First Closing of Equity
Financing on September 3, 2003) (9)
10.45 Escrow Agreement regarding Equity Financing (9)
10.46 Investors' Rights Agreement regarding Equity Financing (9)
10.47 Patent Security Agreement regarding Equity Financing (9)
10.48 Security Agreement regarding Equity Financing (9)
10.49 Stockholders' Agreement regarding Equity Financing (9)
10.50 Pledge Agreement regarding Equity Financing (9)
23.1 Consent of BDO Seidman, LLP (13)
23.2 Consent of McGuireWoods LLP (included with Exhibit 5.1)
99.1 Stock Order Form (13)
- ----------
(1) Filed with the Company's Current Report on SEC Form 8-K dated February 14,
2002.
(2) Filed with the Company's Current Report on SEC Form 8-K dated May 14,
2002.
(3) Filed with the Company's Annual Report on Form 10-KSB/A dated April 29,
2002.
(4) Filed with the Company's Current Report on Form 8-K dated October 22,
2003.
(5) Filed with the Company's Current Report on Form 8-K dated December 30,
2002.
(6) Filed with the Company's Current Report on Form 8-K dated January 13,
2003.
(7) Filed with the Company's Current Report on Form 8-K/A dated May 19, 2003.
(8) Filed with the Company's Current Report on Form 8-K dated September 10,
2003 regarding EVLT(R) Patent.
(9) Filed with the Company's Current Report on Form 8-K dated September 10,
2003 regarding Equity Financing.
(10) Filed with the Company's Quarterly Report on Form 10-QSB filed November
10, 2003.
(11) Filed with the Company's Definitive Proxy Statement on Schedule 14A filed
October 27, 2003.
(12) Filed with the Company's Registration Statement on Form SB-2 filed on
December 3, 2003.
(13) Filed herewith.
II-27