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FORM 10-K
U.S. SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For fiscal year ended December 31, 1999
Commission file
number: 0-22340
PALOMAR MEDICAL TECHNOLOGIES, INC
---------------------------------
(Exact name of registrant as specified in its charter)
Delaware 04-3128178
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(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
82 Cambridge Street, Burlington, Massachusetts 01803
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(Address of principal executive offices)
(781) 993-2300
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(Issuer's telephone number, including area code)
Securities registered pursuant to Section 12 (b) of the Act:
Name of each exchange on
Title of each class which registered
------------------- -------------------------
Not Applicable Not Applicable
Securities registered pursuant to Section 12 (g) of the Act:
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Common Stock, $.01 par value
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such report(s)), and (2) has been subject to
such filing requirements for the past 90 days. Yes X No
--- ---
Check if there is no disclosure of delinquent filers in response to
Item 405 of Regulation S-K contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-K
or any amendment to this Form 10-K. X
---
As of March 1, 2000, 10,034,550 shares of common stock were
outstanding. The aggregate market value of the voting shares (based upon the
closing price reported by Nasdaq on March 1, 2000) of Palomar Medical
Technologies, Inc., held by nonaffiliates was $42,356,444. For purposes of this
disclosure, shares of common stock held by entities and individuals who own 5%
or more of the outstanding common stock, as reported in Amendment No. 6 to a
Schedule 13D/A filed on January 10, 2000 and Amendment No. 5 to a Schedule 13G/A
filed on February 14, 2000 and shares of common stock held by each officer and
director have been excluded in that such persons may be deemed to be
"affiliates" as that term is defined under the Rules and Regulations of the
Securities Exchange Act of 1934. This determination of affiliate status is not
necessarily conclusive.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive proxy statement to be filed prior to April
30, 2000, pursuant to Regulation 14A of the Securities Exchange Act of 1934 are
incorporated by reference into Part III of this Form 10-K
Transitional Small Business Disclosure Format: Yes No X
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INDEX
Item Page No.
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PART I.........................................................................................................1
Item 1. Business.........................................................................................1
(a) Introduction.....................................................................................1
(b) Financial Information About Industry Segments....................................................1
(c) Description of Business..........................................................................1
(d) Financial Information About Exports by Domestic Operations.......................................5
Item 2. Properties.......................................................................................5
Item 3. Legal Proceedings................................................................................5
Item 4. Submission of Matters to a Vote of Security Holders..............................................6
PART II 7
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters............................7
Item 6. Selected Financial Data..........................................................................8
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations............9
(a) Overview.........................................................................................9
(b) Results..........................................................................................9
(c) Liquidity and Capital Resources......................................................................13
(c) Year 2000 Impact.....................................................................................14
(e) Recently Issued Accounting Standard..................................................................14
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.....................................14
Statement Under the Private Securities Litigation Reform Act.............................................14
Risk Factors.............................................................................................15
Item 8. Financial Statements............................................................................19
Reports of Independent Public Accountants............................................................20
Consolidated Balance Sheets as of December 31, 1998 and 1999.........................................22
Consolidated Statements of Operations for the years ended December 31, 1997, 1998 and 1999...........23
Consolidated Statements of Stockholders' Equity (Deficit) for the years ended
December 31, 1997, 1998 and 1999................................................................24
Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1998 and 1999...........27
Notes to Consolidated Financial Statements...........................................................29
Item 9. Changes and Disagreements with Accountants on Accounting and Financial Disclosures..............54
-i-
PART III......................................................................................................55
Item 10. Directors and Executive Officers of the Registrant.............................................55
Item 11. Executive Compensation.........................................................................55
Item 12. Security Ownership of Certain Beneficial Owners and Management.................................55
Item 13. Certain Relationships and Related Transactions.................................................55
PART IV 56
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K................................56
(a) Index to Consolidated Financial Statements and Schedules........................................56
(b) Reports on Form 8-K.............................................................................56
(c) Exhibits.............................................................................................57
SIGNATURES....................................................................................................62
-ii-
PART I
ITEM 1. BUSINESS.
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(a) Introduction
Palomar Medical Technologies, Inc. was organized in 1987 to design,
manufacture and market lasers, delivery systems and related disposable products
for use in medical procedures. In December 1992, the Company went public.
Subsequently, the Company pursued an aggressive acquisition program, acquiring
companies in its core laser business as well as others, principally in the
electronics industry, in order to spread risk and bolster operating assets,
among other reasons. By the beginning of 1997, the Company had more than a dozen
subsidiaries. At the same time, having obtained FDA clearance to market its
EpiLaser(R) ruby laser hair removal laser system in March 1997, the Company was
well positioned to focus on what it believed was at that time the most promising
product in its core laser business. Hence, under the direction of a new Board
and management team, the Company undertook an ambitious program in 1997,
completed in May of 1998, of exiting all non-core businesses and investments and
focusing only on those businesses which it believes hold the greatest promise
for maximizing stockholder value. The Company's exclusive focus is now the use
of lasers in dermatology and cosmetic procedures, with an emphasis on laser hair
removal and research and development relating to that and other cosmetic laser
products. On December 7, 1998, the Company entered into an Agreement and Plan of
Reorganization (the "Agreement") with Coherent, Inc. to sell all of the issued
and outstanding common stock of Palomar's Star Medical Technologies, Inc.
subsidiary. The Company completed the sale of Star to Coherent on April 27,
1999. Currently, the Company has two operating subsidiaries, Palomar Medical
Products, Inc. ("PMP") and Esthetica Partners, Inc. (formerly Cosmetic
Technology International, Inc). In early 2000, the Company opened a research and
development division in Livermore, California ("Palomar West"). PMP, located at
the Company's headquarters in Burlington, Massachusetts, oversees the
manufacture and sale of the Company's laser systems currently on the market.
Esthetica, also based in Burlington, Massachusetts, places the Company's lasers
in clinical and cosmetic settings and shares in a portion of the revenue
generated thereby. Palomar West was established to expand product development in
dermatology, including laser treatment of tattoos, pigmented lesions, and leg
veins. (See Item 7. "Management's Discussion and Analysis of Financial Condition
and Results of Operations - Overview.")
(b) Financial Information About Industry Segments
The Company conducts business in one industry segment, medical products
and services. In 1998, the Company completed the program, begun in 1997, of
divesting all of its non-core electronics subsidiaries. (See Item 7.
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Overview" and Note 12 to Financial Statements.)
(c) Description of Business
(i) Principal Products
Hair Removal Lasers
Using its core ruby laser technology, originally developed for tattoo
removal and pigmented lesions, Palomar developed a long pulse ruby laser, the
EpiLaser(R), that is specifically configured to allow the appropriate
wavelength, energy level and pulse duration to be absorbed effectively by the
hair follicle without being absorbed by the surrounding tissue. That, combined
with the patented cooling handpiece, allows for safe and effective hair removal.
In March 1997, Palomar was the first company to receive FDA clearance to sell
and market a ruby laser (the EpiLaser(R) system) in the U.S. for hair removal.
In December 1997 and January 1998 respectively, Palomar was also the
first company to receive FDA clearance for a diode laser for hair removal and
for leg vein treatment, the LightSheer(TM) diode laser system manufactured by
Star. The LightSheer(TM) was the first generation of high powered diode lasers
designed for hair removal. These diode lasers also incorporate the patented
contact-cooling system licensed exclusively to Palomar. High-powered diode laser
systems are compact, solid-state lasers that are significantly smaller than most
current systems, and relatively easy to install and service.
During 1998, Palomar introduced its second generation ruby laser, the
Palomar E2000(TM) hair removal laser system, a product that is superior to hair
removal lasers currently available in a number of respects, including speed and
efficacy. The Palomar E2000(TM) has also received FDA clearance for hair
removal.
1
Studies using Palomar's laser hair removal process demonstrated
significant permanent reduction of hair following treatment with the EpiLaser(R)
and the Palomar E2000(TM). The first treatment causes a portion of the hair
(typically the hair in the growth mode) to be reduced in size, color and/or
quantity (based on studies followed for up to three years) and causes
significant growth delay (three to six months) of most of the rest of the hair.
Since the partial re-growth tends to occur in synchrony, the follow-up treatment
is often more effective than the first treatment. The EpiLaser(R) and the
Palomar E2000(TM) were the first hair removal lasers on the market that were
cleared by the FDA for "permanent hair reduction" labeling.
During 1999, Palomar completed its early clinical studies using high
powered diode lasers that deliver energy over a relatively long time period
("Super Long Pulse Technology"). This new generation of lasers promises to be
much gentler to the skin, capable of treating a wide range of skin types, and
cheaper to produce than current systems on the market. We plan on introducing
products in 2000 that use this Super Long Pulse Technology. The key to this new
technology is the specialized delivery systems attached to the laser. These
proprietary delivery systems are essential to providing safe and effective
treatment.
Market surveys report that the great majority of women in the United
States employ one or more techniques for temporary hair removal from various
parts of the body, including waxing, depilatories, tweezing, shaving, and
electrolysis. The market for laser-based hair removal is in its early stages.
Benefits of Palomar's laser hair removal process, as compared to other hair
removal methods currently available, include significant long term cosmetic
improvement, treatment of larger areas in each treatment session, a procedure
that is relatively painless and non-invasive, reduced risk of scarring, no risk
of cross-contamination, and higher success rates.
Tattoo Removal/Pigmented Lesion Laser
The Company also sells a Q-switched ruby laser for tattoo removal and
treating pigmented lesions, the RD-1200(TM). The RD-1200(TM) has been on the
market for ten years. Intense competition in the medical device industry and
market saturation for this type of laser have reduced RD-1200(TM) sales over the
last five years. In addition, there are less expensive products now available
for this purpose. Palomar expects sales of this product to continue in 2000 at a
low volume to foreign countries where the advantages of the ruby laser for
treatment of pigmented lesions is especially important. Palomar West is
developing technology for this market that is expected to be less expensive than
current products on the market.
Marketing, Distribution and Service
Palomar has changed its distribution method over the past few years to
address changes in the market conditions and composition of its product line.
Pursuant to an agreement executed in November 1997, Coherent acted as the
exclusive distributor for Palomar's hair removal lasers. Under that agreement,
Coherent was responsible for sales, marketing, service, training and education.
However, Coherent and Palomar agreed that, beginning January 1, 1999, Palomar
would take over all service for Palomar's ruby hair removal lasers and act as a
nonexclusive distributor for Palomar's hair removal laser. Since December 1998,
Continuum Biomedical, Inc., a medical division of the scientific laser-based
company Continuum Electro-Optics (which is in turn a wholly-owned subsidiary of
Hoya Corp. of Japan), has been distributing Palomar's products on a
non-exclusive basis. Recently, the Company has hired a number of direct sales
representatives in anticipation of new products to be introduced during 2000.
The Company further intends to tailor distribution methods to different
geographic regions and may include a combination of exclusive and non-exclusive
distributors, independent representatives and additional direct salespeople.
Palomar sells and services the RD-1200(TM) through distributors internationally.
In the United States, Palomar provides service through its own service
organization.
(ii) Products Under Development
The Company is engaged in developing products for the dermatology and
cosmetic market. Products under development include hair removal lasers, tattoo
and pigmented lesion lasers, leg vein lasers, acne treatment lasers and fat
reduction lasers. The core research, including in vitro, in vivo, and clinical
research, is a joint effort between scientists and researchers at the Company
and at our research partner Massachusetts General Hospital ("MGH"). Product
development is performed by scientists and engineers at the Company's
headquarters and in our Livermore, California facility. The Company splits its
efforts between new products for existing markets such as hair removal, leg vein
treatment and tattoo removal, and new products for new markets, such as acne
treatment and fat reduction. We feel that focusing our efforts among these types
of projects gives us the best chance for increasing stockholder value.
2
(iii) Production and Sources and Availability of Materials
Palomar's manufacturing operations are currently located in Burlington,
Massachusetts. Manufacturing consists of the assembly and testing of components
purchased from outside suppliers and contract manufacturers. Palomar maintains
control of and manufactures most key components in-house. The entire fully
assembled system is subjected to a rigorous set of tests prior to shipment to
the customer or distributor.
Palomar depends and will depend upon a number of outside suppliers for
components used in its manufacturing process. Palomar has also contracted with a
key overseas supplier of a major component of the Super Long Pulse Technology.
The component is matched with a specific delivery system developed by Palomar
and is incorporated into a full system. Most of Palomar's components and raw
materials are available from a number of qualified suppliers. Ruby rods for the
ruby lasers are available through only one qualified supplier. To date, the
Company has not experienced, nor does it expect to experience, any significant
delays in obtaining component parts or raw materials. Palomar has expanded its
manufacturing capabilities to satisfy projected demand. Palomar has the approval
for the CE Mark for the EpiLaser(R) and E2000(TM) laser systems, and has
obtained ISO 9001 registration.
(iv) Patents and Licenses
Certain products of the Company and methods for the use of such
products are largely proprietary. The Company believes that patent protection of
its technology and products that result from the Company's research and
development efforts is important to the possible commercialization of the
Company's technology. The Company continually attempts to protect its
proprietary technology by obtaining patent protection and relying on trade
secret laws and non-disclosure and confidentiality agreements with its employees
and persons that have access to its proprietary technology.
The Company believes it owns, or has the right to use, the basic
patents covering its products. However, each year there are many patents granted
worldwide related to lasers and their applications. In the past, the Company has
been able to obtain patent licenses for patents related to its products on
commercially reasonable terms. The failure to obtain a key patent license from a
third party could cause the Company to incur liabilities for patent infringement
and, in the extreme case, to discontinue manufacturing products that infringe
upon the patent. Management believes that none of the Company's current products
infringe upon a valid claim of any patents owned by third parties, where the
failure to license the patent would have a material and adverse effect on the
Company's financial position or results of operations.
The Company has not been notified that it is currently infringing on
any patents nor has it been the subject of any patent infringement action.
Defense of a claim of infringement is costly and could have a material adverse
effect on the Company's business, even if the Company were to prevail. (See Item
3. "Legal Proceedings" and Item 7. "Risk Factors.")
In August 1995, the Company entered into an agreement with MGH whereby
MGH agreed to conduct clinical trials on a laser treatment for hair
removal/reduction developed at MGH's Wellman Laboratories of Photomedicine. In
July 1999, the Company amended this agreement to extend its exclusive research
relationship for an additional five years. In addition to photo thermal removal
or reduction of hair, the agreement has been expanded to include research and
development in the fields of non-invasive electromagnetic targeting of
subcutaneous fat, and treatment of sebaceous glands and related skin disorders
(e.g., acne) using infrared light (hereinafter referred to, respectively, as
"hair removal," "fat removal," and "acne treatment," for simplicity).
MGH has filed a number of patents surrounding technology involving
laser hair removal. These patents expire on February 1, 2015. MGH licenses these
patents exclusively to Palomar. Palomar, in turn, has the right to sublicense
these patents to others. Palomar also has the right to exclusively license in
the fields of hair removal, fat removal, and acne treatment any other patents
arising out of MGH's Palomar-funded clinical trials. As consideration for this
license, the Company is obligated to pay MGH royalties on products and services
covered by valid patents licensed to the Company. Palomar has sublicensed to
competitors these two MGH hair removal patents.
(v) Seasonal Influences
There is no significant seasonal influence on the Company's sales.
3
(vi) Working Capital
There are no special inventory requirements, return rights, or credit
terms extended to customers that would have a material adverse effect on the
Company's working capital.
(vii) Dependence on a Single Sales Agent
Sales pursuant to the Company's Sales Agency, Development and License
Agreement with Coherent accounted for approximately 60% of the Company's total
revenues in fiscal 1999 and 89% in fiscal 1998. The Sales Agency Agreement
terminated upon the closing of the sale of Star in April 1999.
(viii) Backlog
The Company's backlog of firm orders for its continuing operations at
December 31, 1999, and December 31, 1998, was approximately $885,000 and $3.4
million, respectively. The backlog in 1998 consisted almost entirely of orders
for Star's LightSheer(TM) diode laser.
(ix) Government Contracts
Not applicable.
(x) Competition
The markets in which the Company is engaged are subject to keen
competition and rapid technological change. To Palomar's knowledge, eight other
companies have received market clearance from the FDA for laser hair removal and
another company has received FDA clearance to market a laser-like system using
filtered intense light to remove hair. The Company's former subsidiary, Star,
was sold to Coherent on April 27, 1999 and now competes with Palomar in the hair
removal market as well. The Company expects that other hair removal devices will
be developed and/or introduced in 2000, making laser hair removal a competitive
application within the cosmetic laser marketplace. The Company also expects that
there may be further consolidation of companies within the laser hair removal
industry via acquisitions, partnering arrangements or joint ventures. The
Company's products will also compete with other hair removal products and
methods. The Company competes primarily on the basis of technology, product
performance, price, quality, reliability, distribution and customer service and
support. To remain competitive, the Company will be required to continue to
develop new products, periodically enhance its existing products and compete
effectively in the areas described above. (See Item 7. "Risk Factors.")
(xi) Research and Development
Palomar's research and development goals in the field of laser hair
removal are to design systems that (1) permit more rapid treatment of large
areas, (2) have high gross margins, and (3) are manufactured at a lower cost,
thus addressing broader markets. Further, Palomar aims to address dermatology
and cosmetic procedure markets other than hair, including the fields of acne
treatment and fat removal covered in its expanded research agreement with
Massachusetts General Hospital.
During fiscal 1999, 1998 and 1997, the Company incurred approximately
$8,022,000, $7,029,000 and $11,990,000, respectively, of internally sponsored
research and development programs. Due to the intense competition and rapid
technological changes in the laser industry, the Company believes that it must
continue to improve and refine its existing products and services, and develop
new applications for its technology.
(See Item 7. "Risk Factors" and Note 4 to Financial Statements.)
(xii) Environmental Protection Regulations
The Company believes that compliance with federal, state and local
environmental regulations will not have a material adverse effect on its capital
expenditures, earnings or competitive position.
4
(xiii) Number of Employees
As of December 31, 1999, the Company and its divisions and subsidiaries
employed 81 people, 5 independent contractors and 5 temporary employees.
(d) Financial Information About Exports by Domestic Operations
Aggregate export sales for the Company's continuing operations were
approximately $5,030,000 for 1997, $17,360,000 for 1998 and $8,440,000 for 1999.
The 1997 export sales consisted primarily of the EpiLaser(R), and the 1998 and
1999 export sales consisted primarily of the LightSheer(TM). (See Notes 2(i) and
3 to Financial Statements.)
ITEM 2. PROPERTIES.
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The Company occupies approximately 44,000 square feet of office,
manufacturing and research space in Burlington, Massachusetts under a lease
expiring in August 2009. The Company occupies approximately 4,000 square feet of
research space in Livermore, California under a lease expiring in December 2001.
The Company believes that these facilities are in good condition and are
suitable and adequate for its current operations.
ITEM 3. LEGAL PROCEEDINGS.
------------------
On March 7, 1997, Selvac Acquisition Corp. ("Selvac"), a subsidiary of
Mehl Biophile International, Inc. ("Mehl"), filed a complaint for injunctive
relief and damages for patent infringement and for unfair competition in the
United States District Court for the District of New Jersey against the Company,
two of its subsidiaries and a New Jersey dermatologist. Selvac's complaint
alleged, among other things, that the Company's EpiLaser(R) ruby laser hair
removal system infringed a patent licensed to Selvac (the "Selvac Patent"). On
May 18, 1998, the court granted the Company's motion for partial summary
judgment on the ground that the Selvac patent is invalid because prior art
anticipated it. The court later denied Selvac's motion for reconsideration of
the summary judgment ruling. On September 30, 1999, the Court of Appeals for the
Federal Circuit affirmed the district court's summary judgment of invalidity of
the Selvac Patent. On October 14, 1999, Selvac filed a petition for rehearing,
which the Federal Circuit denied on October 27, 1999.
On March 11, 1999, the United States District Court for the Southern
District of New York granted plaintiffs leave to amend their complaint in the
action styled Varljen v. H.J. Meyers, Inc., et. al. to join the Company, its
former chief executive officer and current chief financial officer as
defendants. On March 17, 1999, the Second Amended Class Action Complaint in
Varljen was served upon the Company and its current chief financial officer,
alleging that the Company and the former and current officer violated the
federal securities laws in various public disclosures that the Company made
directly and indirectly during the period from February 1, 1996 to March 26,
1997. Palomar and the Varljen plaintiffs have reached an agreement in principle
pursuant to which Palomar and its insurance carrier would pay plaintiffs $5
million in settlement of all their claims. Of this amount, Palomar would
contribute up to $1 million in stock and $1.375 million in cash, and its
insurance carrier the remaining $2.625 million in cash. This settlement
agreement must be approved by the court. There can be no assurance of such court
approval; however, management believes that the court approval is probable and
has accrued for its estimated loss at December 31, 1999.
On July 20, 1999, The Monterey Stockholders Group LLC ("Monterey")
filed a complaint for declaratory judgment and for damages in the United States
District Court for the District of Delaware against the Company. The complaint
alleged that the Company and its directors violated the federal securities laws
in various public disclosures that the Company made in the spring of 1999. The
complaint alleged Palomar failed to disclose that it intended to include 3.25
million escrowed shares in the vote at its annual meeting when such shares were
allegedly non-voting and not outstanding. Monterey sought, among other forms of
relief, a declaration that no quorum was present in person or by proxy at the
Company's annual meeting. On September 3, 1999, the Company and its directors
filed an answer and counterclaim against Monterey, Mark Smith, Thomas O'Brien,
The Rockside Foundation, Logg Investment Research, and the R. Templeton Smith
Foundation, alleging, among other things, that Monterey filed fraudulent proxy
statements, and requesting a declaration that a quorum was present at the
Company's annual meeting and that the Palomar nominees were properly elected. On
October 19, 1999, all parties filed a stipulation of dismissal with prejudice of
the lawsuit, including all claims and counterclaims.
The Company is involved in other 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, at
present believes that
5
the outcome of each such other proceeding or claim which is pending or known to
be threatened, or all of them combined, will not have a material adverse effect
on the Company.
(See Item 7. "Risk Factors.")
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
---------------------------------------------------
Not applicable.
6
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
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The Company's common stock is currently traded on the National
Association of Securities Dealers Automated Quotation System (Nasdaq) under the
symbol PMTI. The following table sets forth the high and low bid prices quoted
on Nasdaq for the common stock for the periods indicated. Such quotations
reflect inter-dealer prices, without retail markup, markdown or commission and
do not necessarily represent actual transactions.
Fiscal Year Ended
December 31, 1998
High Low
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Quarter Ended March 31, 1998 2 11/32 5/8
Quarter Ended June 30, 1998 1 9/16 31/32
Quarter Ended September 30, 1998 1 7/32 3/4
Quarter Ended December 31, 1998 1 3/32 19/32
Fiscal Year Ended
December 31, 1999
High Low
------ -------
Quarter Ended March 31, 1999 1 3/32 17/32
Quarter Ended June 30, 1999 5 3/16 15/32
Quarter Ended September 30, 1999 4 15/16 1 25/32
Quarter Ended December 31, 1999 2 5/32 15/16
As of March 1, 2000, the Company had 1,682 holders of record of common
stock. This does not include holdings in street or nominee names.
The Company has not paid dividends to its common stockholders since its
inception and does not plan to pay dividends to its common stockholders in the
foreseeable future. The Company intends to retain substantially all earnings to
finance the operations of the Company. The Company may buy back shares of its
common stock on the open market from time to time.
Conversions of Preferred Stock and Debentures
During the year ended December 31, 1999, the following securities were
converted by the accredited investor unaffiliated third-party holders for the
number of shares of common stock indicated:
Number of Shares
Type of Security Number of Shares Common Stock Issued
---------------- ---------------- -------------------
Preferred Stock Series G 340 74,905
Debenture 6%,7%,8% Due September 30, 2002 N/A 377,760
The Company received no proceeds in connection with any of these
conversions.
7
ITEM 6. SELECTED FINANCIAL DATA.
-----------------------
The following table sets forth selected consolidated financial and other
information (in thousands except per share data) on a consolidated historical
basis for the Company and its subsidiaries as of and for each of the fiscal
years in the five year period ended December 31, 1999. Pursuant to Accounting
Principles Board Opinion ("APB") No. 30, Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions, the consolidated
financial statements of the Company have been reclassified to reflect the
dispositions of its subsidiaries that comprise the electronics segment. This
table should be read in conjunction with the Consolidated Financial Statements
of the Company and the Notes thereto included elsewhere in this Annual Report on
Form 10-K.
Selected Financial Data
(in thousands, except per share data)
Nine months
ended Year ended December 31,
December 31, ----------------------------------------------------------
Statement of Operations Data 1995 1996 1997 1998 1999
-------------- ----------- ------------ ------------ -----------
Revenues $ 5,610 $ 17,607 $ 20,995 $ 44,514 $24,251
Gross Profit 2,146 3,437 939 21,463 8,741
Operating Expenses (Income) 10,985 26,548 42,867 30,897 (24,297)
Income (Loss) from Operations (8,839) (23,110) (41,929) (9,434) 33,038
Net Income (Loss) from Continuing Operations (8,390) (20,798) (58,369) (9,967) 25,501
Net Loss from Discontinued Operations (4,231) (17,066) (27,435) (2,624) (435)
Net Income (Loss) (12,621) (37,864) (85,804) (12,591) 25,066
Basic Net Income (Loss) Per Common Share:
Continuing Operations $ (4.20) $ (5.88) $(12.52) $ (1.26) $2.48
Discontinued Operations (2.10) (4.55) (5.47) (0.29) (0.04)
-------------- ----------- ------------ ------------ ----------
Total Basic Income (Loss) Per Common
Share $ (6.30) $ (10.43) $ (17.99) $ (1.55) $2.44
Basic Weighted Average Number of
Common Shares Outstanding 2,024 3,738 5,015 8,981 10,153
============== =========== ============ ============ ==========
Diluted Net Income (Loss) Per Common Share:
Continuing Operations $ (4.20) $(5.88) $(12.52) $(1.26) $2.39
Discontinued Operations (2.10) (4.55) (5.47) (0.29) (0.04)
-------------- ----------- ------------ ------------ ----------
Total Diluted Income (Loss) Per Common
Share $ (6.30) $(10.43) $(17.99) $(1.55) $2.35
Diluted Weighted Average Number of
Common Shares Outstanding 2,024 3,738 5,015 8,981 10,776
============== =========== ============ ============ ==========
Balance Sheet Data:
Working Capital $ 12,998 $ 15,203 $ (7,269) $ (6,004) $ 18,347
Total Assets 33,656 67,533 28,968 23,526 34,843
Long-term Debt 1,765 14,665 12,446 3,150 1,622
Stockholder's Equity (Deficit) 25,289 38,077 (6,184) (6,463) 17,093
8
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS.
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(a) Overview
On December 7, 1998, the Company entered into an Agreement and Plan of
Reorganization (the "Agreement") with Coherent to sell all of the issued and
outstanding common stock of Palomar's Star Medical Technologies, Inc.
subsidiary. The Company completed the sale of Star to Coherent on April 27,
1999. The total purchase price for all of the issued and outstanding capital
stock of Star was $65 million, paid in cash. The purchase price was paid to the
stockholders of Star in proportion to their holdings of Star capital stock. On
the date of sale, Palomar owned 82.46% of Star. Palomar received net proceeds of
$49,736,023, of which $3,254,907 is being held in escrow until April 27, 2000 as
security for any claims which Coherent may have under the Agreement, resulting
in a gain of $47,090,877 or $3.98 diluted earnings per share, net of tax effect.
The Company has deferred gain recognition of approximately $3.1 million of the
proceeds from this sale pending the resolution in 2000 of certain commitments
and contingencies related to the sale.
As a result of the above transaction, the Company is able to fund its
operations for the short term. However, revenues have declined significantly
over the last two quarters, and will continue to remain low in the near term and
the successful introduction and marketing of new products will become critical
to the Company's long-term success. For the years ended December 31, 1998 and
1999, gross revenues associated with Star's LightSheer(TM) system comprised 80%
and 60%, respectively, of the Company's total revenues. This revenue base will
need to be replaced with revenues from products that the Company intends to
introduce in 2000. There can be no assurance that the Palomar E2000TM or the
Company's future products will achieve market acceptance or generate sufficient
margins. Broad market acceptance of laser hair removal is critical to the
Company's success. The Company recognizes the need and intends to broaden its
product line by developing cosmetic laser products other than hair removal
lasers.
In the third and fourth quarters of 1997, the Board of Directors
authorized management to focus the Company on its core laser products and
services business, principally related to laser hair removal, and to proceed
with a restructuring plan to reorganize the Company and divest its electronic
subsidiaries, Dynaco Corp., Dynamem, Inc., Comtel Electronics, Inc., and Nexar
Technologies, Inc. (collectively, the "Electronic Subsidiaries"), and other
non-core businesses. As a result, the Company has simplified its organization
and now conducts business in only two locations, Burlington, Massachusetts and
Livermore, California. Prior to the restructuring, the Company conducted
business in over a dozen different locations.
Pursuant to Accounting Principles Board Opinion (APB) No. 30,
"Reporting the Results of Operations -- Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring
Events and Transactions," the consolidated financial statements of the Company
have been presented to reflect the dispositions of the Electronic Subsidiaries.
Accordingly, the revenues, cost and expenses, assets and liabilities and cash
flows of the Electronics Subsidiaries have been reported as discontinued
operations in these consolidated financial statements (see Note 12 to the
Financial Statements).
(b) Results
(i) REVENUES AND GROSS PROFIT: Year Ended December 31, 1999
Compared to Year Ended December 31, 1998
For the year ended December 31, 1999, the Company's revenues decreased
to $24.3 million as compared to $44.5 million for the year ended December 31,
1998. The decrease in the Company's revenues of $20.2 million, or 45% from the
year ended December 31, 1998, was mainly due to the reduction in sales volume of
$21.1 million associated with the elimination of LightSheer(TM) sales in
connection with the sale of Star to Coherent on April 27, 1999, as discussed
above. There was an additional decrease of $2.1 million due to declining sales
of other cosmetic lasers, offset by an increase of $3.0 million consisting of
royalties received by the Company from Coherent. The Company anticipates that
sales volumes from its E2000 TM hair removal laser system introduced during the
first quarter of 1999 will not be substantial, and will need to be supplemented
with additional new products. The decrease in sales volume associated with other
cosmetic laser product revenue was principally due to declining sales of the
Company's EpiLaser(R) ruby laser hair removal system. Palomar introduced its
second generation long pulse ruby laser for hair removal, the Palomar E2000TM,
during the first quarter of 1999. In March of 1999, the Company obtained FDA
clearance to market and sell its Palomar E2000TM in the United States for
"permanent hair reduction."
9
Gross profit for the year ended December 31, 1999 was $8.7 million (36%
of revenues) compared to $21.5 million (48% of revenues) for the year ended
December 31, 1998. The decrease in gross profit and gross profit percentage was
due the fact that the Company sold Star and its LightSheer(TM) laser system to
Coherent on April 27, 1999, as discussed above. The LightSheer provided a
significantly higher gross profit than the Company's EpiLaser(R) and other
cosmetic products. The Company anticipates that its gross profit percentage from
sales of the Palomar E2000TM will be significantly less than the gross profit
from its former LightSheer(TM) product, unless and until the Palomar E2000TM
achieves volume production and further manufacturing efficiencies and overcomes
product introduction issues.
(ii) OPERATING AND OTHER EXPENSES: Year Ended December 31, 1999
Compared to Year Ended December 31, 1998
Research and development costs increased to $8.0 million for the year
ended December 31, 1999 from $7.0 million for the year ended December 31, 1998.
Research and development expenses as a percentage of revenues totaled 33% for
the year ended December 31, 1999 and 16% for the year ended December 31, 1998.
The continued spending on research and development reflects the Company's
commitment to research and development of devices and delivery systems for
cosmetic and medical applications using a variety of lasers, while continuing
dermatology research utilizing the Company's ruby and diode lasers. Palomar's
research and development goals in the field of laser hair removal are to design
systems that (1) permit more rapid treatment of large areas, (2) have high gross
margins, and (3) are manufactured at a lower cost, thus addressing broader
markets. Management believes that research and development expenditures will
remain constant over the next year as the Company continues product development
and clinical trials for additional applications for its lasers and delivery
systems in the cosmetic and dermatological markets. The Company recently entered
into an amendment to its existing Clinical Trial Agreement with Massachusetts
General Hospital, pursuant to which it will fund a minimum of $475,000 per year
over the next five years for research. The funding will be in the fields of
photo thermal removal or reduction of hair, non-invasive electromagnetic
targeting of subcutaneous fat, and treatment of sebaceous glands and related
skin disorders (e.g., acne) using infrared light. In return, the Company will
obtain exclusive license rights to patents arising from Palomar funded research
in these fields (referred to, respectively, as "hair removal," "fat removal,"
and "acne treatment," for simplicity). Research and development as a percentage
of revenues is expected to increase until the Company introduces other products
currently in development.
Sales and marketing expenses decreased to $6.6 million (27% of
revenues) for the year ended December 31, 1999 from $15.1 million (34% of
revenues) for the year ended December 31, 1998. The decrease in sales and
marketing expenses as a percentage of revenues is a result of the Company's sale
of Star to Coherent, which incurred significant commission expense. New
distribution channels include direct sales by the Company and other distribution
channels, and the associated sales and marketing expenses for the E2000(TM) are
less than the commission earned by Coherent, the Company's previous distributor.
The Company will continue to expand its own direct sales force to complement
these sales channels. The Company anticipates that, in comparison to the
commission previously paid to Coherent as a percentage of revenues, its future
sales and marketing costs as a percentage of revenues will decrease.
General and administrative expenses decreased to $5.1 million (21% of
revenues) for the year ended December 31, 1999 as compared to $8.9 million (20%
of revenues) for the year ended December 31, 1998. This decrease for the year
ended December 31, 1999 is attributable to a $3.5 million reduction due to the
sale of the Company's Star subsidiary and due to the Company's restructuring and
consolidation of administrative functions.
Costs related to solicitation of proxies in connection with the
Company's 1999 Annual Meeting of Stockholders were $625,000 for the year ended
December 31, 1999 as a result of a proxy contest launched by a dissident
stockholder group.
Settlement costs were $2.5 million for the year ended December 31, 1999
and are attributable to lawsuits and claims against the Company. (See Note 10(c)
to Financial Statements.)
Gain from the sale of a subsidiary was $47.1 million for the year ended
December 31, 1999 due to the Company completing the sale of Star on April 27,
1999. The Company has deferred gain recognition of $3.1 million of the proceeds
from this sale pending the resolution in 2000 of certain commitments and
contingencies related to the sale.
Redemption expense was $6.2 million for the year ended December 31,
1999. This amount reflects a redemption expense as a result of a settlement
agreement between Palomar and certain European banks that had held 4.5% Swiss
franc denominated subordinated convertible debentures originally totaling $7.7
million and due in 2003. Under the terms of this
10
agreement, which resolved a lawsuit, Palomar agreed to rescind its conversion
notices issued in November 1997. Through these conversion notices, Palomar
converted the subordinated debentures into 130,576 shares of the Company's
common stock. Since the conversion date, the Company had treated these shares as
issued and outstanding. Under the terms of this compromise, the Company agreed
to pay a total of $6.7 million to the European banks, of which $4.5 million has
been paid as of December 31, 1999. The balance of $2.2 million is due through
2001. Accordingly, the Company has recorded a charge to operations of $6.2
million. This amount represents the total amount due to the European banks less
the fair market value of the redemption of the common shares previously
considered outstanding by the Company.
Interest expense decreased to $597,000 for the year ended December 31,
1999 from $1.3 million for the year ended December 31, 1998. This 54% decrease
is primarily the result of the use of conventional financing and a decrease in
convertible debenture financings. Also, operations did not require as much
financing in 1999 as compared to 1998 as a result of lower working capital
needs. As a result of the sale of Star, which generated $49.7 million in cash,
the Company anticipates that interest expense will decline significantly due to
use of a portion of these proceeds to pay down certain of its outstanding debt
during the second quarter of 1999.
Net gain on trading securities represents a realized gain of
approximately $703,000 for the year ended December 31, 1998 related to the
Company's investment in a publicly traded company that was sold during 1998. The
Company did not have any marketable trading securities as of December 31, 1999.
Interest income increased to $1.3 million for the year ended December
31, 1999 as compared to $33,000 for the year ended December 31, 1998. This
amount represents interest earned on the balance of the funds received from the
sale of Star, which are invested in high-grade corporate and government notes
and bonds and will be used to fund future operations and research and
development efforts.
Other income increased to $411,000 for the year ended December 31,
1999. This amount compares to $21,000 for the year ended December 31, 1998. The
increase is primarily due to $231,000 of foreign currency gain from the Swiss
franc convertible debentures.
The Company provided income taxes of $2.5 million in 1999 as a result
of the sale of Star. The Company was not able to fully offset the gain with the
net operating loss carryforwards.
The loss from discontinued operations for the year ended December 31,
1999 was $435,000 compared to a loss of $2.6 million for the year ended December
31, 1998. The $435,000 loss from discontinued operations incurred during 1999
was related to a settlement related to the operations of Dynaco.
(iii) REVENUES AND GROSS PROFIT: Year Ended December 31, 1998
Compared to Year Ended December 31, 1997
For the year ended December 31, 1998, the Company's revenues increased
to $44.5 million as compared to $21.0 million for the year ended December 31,
1997. The increase in the Company's revenues of $23.5 million or 112% from the
year ended December 31, 1997 was mainly due to additional sales volume of $35.6
million associated with the introduction of the LightSheer(TM), partially offset
by a decrease in revenue of $12.1 million in other cosmetic laser product
revenue. The Company obtained FDA clearance to market and sell the
LightSheer(TM) for hair removal and leg vein treatment in the United States at
the end of 1997. The decrease in sales volume associated with other cosmetic
laser product revenue was principally due to declining sales of the Company's
EpiLaser(R) ruby laser. The Company focused on bringing the LightSheer(TM) to
market while further developing a new generation of ruby hair removal lasers
during 1998.
Gross margin for the year ended December 31, 1998 was $21.5 million
(48% of revenues) compared to $939,000 (4% of revenues) for the year ended
December 31, 1997. The increase in gross margin and gross margin percentage was
due to sales of the LightSheer(TM), which had a significantly higher gross
margin than the Company's EpiLaser(R) and other cosmetic products.
11
(iv) OPERATING AND OTHER EXPENSES: Year Ended December 31, 1998
Compared to Year Ended December 31, 1997
Research and development costs decreased to $7.0 million for the year
ended December 31, 1998 from $12.0 million for the year ended December 31, 1997.
Research and development expenses as a percentage of revenue totaled 16% for the
year ended December 31, 1998 and 57% for the year ended December 31, 1997. The
decline in spending was primarily the result of the Company's receipt of FDA
approval for the LightSheer(TM) at the end of 1997.
Sales and marketing expenses increased to $15.1 million (34% of
revenues) for the year ended December 31, 1998, from $7.0 million (33% of
revenues) for the year ended December 31, 1997. The increase in sales and
marketing expenses was attributable to the costs associated with the Company's
distribution agreement with Coherent, which increased in direct proportion to
sales volume because Coherent received a commission for each of the Company's
products that it sold, to compensate it for its sales and marketing efforts. The
amounts received by Coherent (as a percentage of the Company's revenues) were
greater than the Company's sales and marketing expenses when it performed these
functions internally during 1997.
General and administrative expenses decreased to $8.9 million (20% of
revenues) for the year ended December 31, 1998, as compared to $15.3 million
(73% of revenues) for the year ended December 31, 1997. This decrease is
attributable to the Company's restructuring and consolidation of administrative
functions in the third and fourth quarters of 1997, including a reduction in
costs attributable to Palomar Technologies, Ltd., Esthetica Partners, Inc.
(formerly Cosmetic Technology International, Inc.), Palomar Medical Products,
Inc. and corporate costs totaling $1.0 million, $2.4 million, $1.9 million and
$2.0 million, respectively. This reduction was offset by an increase of $900,000
for general and administrative expenses incurred at the Company's Star
subsidiary to support the introduction of the LightSheer(TM). In previous years,
the Company used management's time and allocated resources to developing
businesses outside of the medical and cosmetic laser industry and financing the
non-core businesses. Beginning in the fourth quarter of 1997, the Company
focused its efforts on its core business.
The Company incurred no business development and financing costs during
the year ended December 31, 1998, as compared to $2.1 million (10% of revenues)
for the year ended December 31, 1997. This decrease is attributable to the
Company's restructuring efforts to focus on its core medical business.
Restructuring and asset write-off costs were $13.0 million for the year
ended December 31, 1997. These charges reflect restructuring and asset write-off
costs for certain operating and non-operating assets that the Company believes
were not fully realizable for both the Company's medical business and other
non-medical investments. Included in this charge is a $2.7 million reserve for
severance costs associated with consolidating selling, general and
administrative functions, including the closing of certain facilities. Through
December 31, 1998, the Company paid out $2.3 million of severance costs and had
a remaining liability of $279,000 related to two individuals that was paid out
in 1999, resulting in actual restructuring costs incurred of $2.6 million.
Accordingly, the Company reversed the balance of this restructuring accrual of
$131,000 in its consolidated statement of operations during the fourth quarter
of fiscal 1998.
For the year ended December 31, 1998, the Company did not incur
settlement costs. Settlement costs of $3.2 million were incurred during the year
ended December 31, 1997. These costs consisted mainly of a legal accrual related
to a legal settlement with an investment bank.
Interest expense decreased to $1.3 million for the year ended December
31, 1998 from $7.0 million for the year ended December 31, 1997. The amount for
1997 includes $5.5 million of non-cash interest expense related to the value
ascribed to the discount features of the convertible debentures issued by the
Company during 1996 and 1997. This 82% decrease is primarily the result of a
decrease in convertible debenture financings and the Company's increased use of
conventional financing. Also, operations did not require as much financing in
1998 as compared to 1997.
Interest income decreased to $33,000 for the year ended December 31,
1998 from $457,000 for the year ended December 31, 1997. This decrease is
primarily the result of a reduction in interest received due to a decrease in
other loans and investments and a decrease in the Company's average cash
position during 1998.
12
Net gain on trading securities represents a realized gain of $703,000
for the year ended December 31, 1998 related to the Company's investment in a
publicly traded company that was sold during 1998. The Company did not have any
marketable trading securities as of December 31, 1998.
The loss from discontinued operations for the year ended December 31,
1998 was $2.6 million compared to a loss of $27.4 million for the year ended
December 31, 1997. The loss from discontinued operations in 1998 was due to a
delay in the disposition of Dynaco resulting in operating expenses of $1.1
million above the estimated operating expenses accrued at December 31, 1997. A
loss on disposition of discontinued entities for the year ended December 31,
1998 of $1.5 million was incurred. The majority of this charge relates to the
write off of the Company's carrying value of its investment in Nexar during the
second quarter of 1998.
(c) Liquidity and Capital Resources
On April 27, 1999, Palomar completed the sale of Star to Coherent for
$65 million. On the date of the sale, Palomar owned 82.46% of Star. Palomar
received net proceeds of $49,736,023, of which $3,254,907 is being held in
escrow until April 27, 2000 as security for any claims Coherent may have under
the Agreement.
In addition, the Company receives an ongoing royalty from Coherent for
all licensed products sold by Coherent that incorporate certain patented
technology or use certain patented methods currently licensed by the Company on
an exclusive basis from MGH. Palomar has also sublicensed these patents to two
additional competitors. Portions of these royalty proceeds are remitted to MGH.
The Company used a portion of the proceeds of the Star sale to pay down
certain of its outstanding debt during 1999. The balance of the funds has been
invested in high-grade corporate and municipal notes and bonds to fund future
operations and research and development efforts. Accordingly, the Company will
generate additional interest income for the near future.
The Company is a holding company with no significant operations.
Operations are carried out at the subsidiary level, and consist primarily of
research and development. To date, the Company's operating subsidiaries have
required cash advances from the Company to fund their operations. As of December
31, 1999, the Company had $25.2 million in cash, cash equivalents and
available-for-sale investments. With the proceeds from the Star sale, the
Company believes that its financial position will meet its ongoing cash flow
requirements and can fund operating losses at its subsidiaries for at least the
next 12 months. The successful introduction and marketing of new products
currently under development will be critical to funding future operations.
During the year ended December 31, 1999, under a settlement agreement,
the Company agreed to pay a total of $6.7 million to the European banks that had
held 4.5% convertible debentures originally totaling $7.7 million due in 2003.
The Company has paid $4.5 million to these banks through December 31, 1999. The
balance of $2.2 million is due through 2001.
During 1999, the Company entered into a 10-year lease agreement for its
operating facility in Burlington, Massachusetts. The annual commitment under
this agreement is $860,000 for the first five years of the agreement and
$950,000 thereafter.
In July 1999, the Company entered into an amendment to extend its
exclusive research agreement with MGH for an additional five years. In addition
to laser hair removal, the agreement has been expanded to include research and
development in the fields of fat removal and acne treatment. Under the terms of
this agreement, the Company is obligated to pay MGH $475,000 on an annual basis
for clinical research through August 1, 2004.
The Company anticipates that capital expenditures for 2000 will total
$700,000, consisting primarily of machinery, equipment, computers and
peripherals. The Company expects to finance these expenditures with cash on hand
and equipment leasing lines, if available.
The Company had a $10 million revolving line of credit from a bank. A
director of the Company personally guaranteed borrowings under the line of
credit. On April 27, 1999, the Company repaid all the amounts outstanding and
subsequently cancelled the line of credit.
13
The Company entered into a Loan Agreement with Coherent pursuant to
which Coherent agreed to loan the Company money to help finance the Company's
working capital requirements. These loans were collateralized by Star's
inventory. Coherent assumed $4.8 million of debt related to these loans in
connection with its purchase of all of the issued and outstanding common stock
of Star on April 27, 1999.
(d) Year 2000 Impact
We have not yet experienced any problems with our computer systems
relating to distinguishing twenty-first century dates from twentieth century
dates, which generally are referred to as Year 2000 problems. We are also not
aware of any material Year 2000 problems with our clients or vendors.
Accordingly, we do not anticipate incurring material expenses or experiencing
any material operational disruptions as a result of any Year 2000 problems.
(e) Recently Issued Accounting Standard
In February 1997, Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No.133, Accounting for
Derivative Instruments and Hedging Activities. SFAS No. 133 establishes
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts (collectively referred to as
derivatives) and for hedging activities. SFAS No. 133 is effective for fiscal
years beginning after June 15, 1999. The Company believes that the adoption of
this new accounting standard will not have a material impact on the Company's
financial statements.
ITEM 7A QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
-----------------------------------------------------------
(i) Derivative Financial Instruments, Other Financial Instruments,
and Derivative Commodity Instruments.
As of December 31, 1999, the Company did not participate in any
derivative financial instruments or other financial and commodity instruments
for which fair value disclosure would be required under SFAS No. 107. All of the
Company's investments are considered cash equivalent money market accounts and
debt securities which are considered available-for-sale investments and are
carried at market value, with the difference between cost and market value, net
of related tax effects, recorded as a separate component of stockholders'
(deficit) equity. Accordingly, the Company has no quantitative information
concerning the market risk of participating in such investments.
(ii) Primary Market Risk Exposures.
The Company's primary market risk exposures are in the areas of
interest rate risk and foreign currency exchange rate risk. The Company's
investment portfolio of cash equivalents and debt securities is subject to
interest rate fluctuations, but the Company believes this risk is immaterial
because of the short-term nature of these investments.
The Company's significant exposure to currency exchange rate
fluctuations is specifically related to its Swiss franc convertible debentures.
The impact of exchange rate movements on these debentures was immaterial for the
year ended December 31, 1999. The Company's other exposure to currency exchange
rate fluctuations has been and is expected to continue to be modest since it
sells its products in United States dollars. Currently, the Company does not
engage in foreign currency hedging activities.
STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT
------------------------------------------------------------
In addition to the other information in this Annual Report on Form
10-K, the following cautionary statements should be considered carefully in
evaluating the Company and its business. Statements contained in this Form 10-K
that are not historical facts (including, without limitation, statements
concerning products under development, the timing of new product introductions,
financing of future operations, and the Company's research partnership with MGH)
and other information provided by the Company and its employees from time to
time may contain certain forward-looking information, as defined by (i) the
Private Securities Litigation Reform Act of 1995 (the "Reform Act") and (ii)
releases by the SEC. The risk factors identified below, among other factors,
could cause actual results to differ materially from those suggested in such
forward-looking statements. Readers are cautioned not to place undue reliance on
these forward-looking statements, which speak only as of the date hereof. The
Company undertakes no obligation to release publicly the results of any
revisions to these forward-looking
14
statements that may be made to reflect events or circumstances after the date
hereof or to reflect the occurrence of unanticipated events. The cautionary
statements below are being made pursuant to the provisions of the Reform Act and
with the intention of obtaining the benefits of safe harbor provisions of the
Reform Act.
RISK FACTORS
------------
OUR FUTURE REVENUE DEPENDS ON OUR DEVELOPING NEW PRODUCTS.
We face rapidly changing technology and continuing improvements in
cosmetic laser technology. In order to be successful, we must continue to make
significant investments in research and development in order to develop in a
timely and cost-effective manner new products that meet changing market demands,
to enhance existing products, and to achieve market acceptance for such
products. We have in the past experienced delays in developing new products and
enhancing existing products. Furthermore, some of our new products under
development are based on unproven technology and/or technology with which the
Company has no previous experience. As a result of the sale of Star to Coherent,
our future revenue will be almost entirely dependent on sales of newly
introduced products. Although we have recently introduced a new hair removal
laser, sales to date have been minimal and this new product may not achieve
market acceptance or generate sufficient margins. In addition, the market for
this type of hair removal laser may already be saturated. At present, broad
market acceptance of laser hair removal is critical to our success. We intend to
diversify our product line by developing cosmetic laser products other than hair
removal lasers.
WE FACE INTENSE COMPETITION FROM COMPANIES WITH SUPERIOR FINANCIAL, MARKETING
AND OTHER RESOURCES.
The laser hair removal industry is highly competitive and companies
frequently introduce new products. We compete in the development, manufacture,
marketing and servicing of hair removal lasers with numerous other companies,
some of which have substantially greater financial, marketing and other
resources than we do. As a result, some of our competitors are able to sell hair
removal lasers at prices significantly below the prices at which we sell our
hair removal lasers. In addition, as a result of the Star sale, Coherent, our
former exclusive distributor and one of the largest and best financed laser
companies, is now our competitor and we have to find new ways to distribute our
products. We currently have no significant sales force in place for our new
products under development. Our laser products also face competition from
alternative medical products and procedures, such as electrolysis and waxing,
among others. We may not be able to differentiate our products from the products
of our competitors, and customers may not consider our products to be superior
to competing products or medical procedures, especially if competitive products
and procedures are offered at lower prices. Our competitors may develop products
or new technologies that make our products obsolete or less competitive.
OUR QUARTERLY OPERATING RESULTS HAVE DECREASED AS A RESULT OF THE STAR SALE, AND
THAT MAY HURT THE PRICE OF OUR COMMON STOCK.
Almost all of our revenues in 1999 were attributable to sales of the
LightSheer(TM) diode laser system manufactured by Star. Therefore, as a result
of the Star sale, our revenues have declined significantly. If our operating
results fall below the expectations of investors or public market analysts, the
price of our common stock could fall.
WE COULD BE DELISTED FROM NASDAQ.
For continued listing on The Nasdaq SmallCap Market, a company must
maintain a minimum bid price of $1.00 per share. In March 1999, Nasdaq held a
hearing regarding our continued listing on The Nasdaq SmallCap Market in light
of the fact that our common stock had traded below the $1.00 minimum bid price
requirement for longer than 30 trading days. As a result of our reverse stock
split, we regained compliance with the minimum bid price requirement before that
date, and are now in compliance with all of Nasdaq's requirements for continued
listing on The Nasdaq SmallCap Market. However, there can be no assurance that
we will remain in compliance with Nasdaq's criteria for continued listing or
that we will remain listed on Nasdaq. The delisting of our common stock would
likely reduce the liquidity of our common stock and our ability to raise
capital. If our common stock is delisted from The Nasdaq SmallCap Market, it
will likely be quoted on the "pink sheets" maintained by the National Quotation
Bureau, Inc. or Nasdaq's OTC Bulletin Board. These listings can make trading
more difficult for stockholders.
15
WE DEPEND ON A NUMBER OF VENDORS FOR CRITICAL COMPONENTS IN OUR CURRENT AND
FUTURE PRODUCTS.
We develop laser systems that incorporate third-party components as
part of the overall systems. Some of these items are custom made or otherwise
not readily available on the market. We purchase some of these components from
small specialized vendors that are not well capitalized. A disruption in the
delivery of these key components could have an adverse effect on our business.
In 2000, we anticipate that we will be substantially dependent on an overseas
third-party manufacturer over whom we do not have absolute control to provide us
with critical components for a new Super Long Pulse hair removal laser we intend
to introduce in 2000.
OUR LASERS ARE SUBJECT TO NUMEROUS MEDICAL DEVICE REGULATIONS. COMPLIANCE IS
EXPENSIVE AND TIME-CONSUMING. OUR NEW PRODUCTS MAY NOT BE ABLE TO OBTAIN THE
NECESSARY CLEARANCES IN ORDER TO SELL THEM.
All of our current products are laser medical devices. Laser medical
devices are subject to FDA regulations regulating clinical testing,
manufacturing, labeling, sale, distribution and promotion of medical devices.
Before a new laser medical device can be introduced into the market, we must
obtain clearance from the FDA. Compliance with the FDA clearance process is
expensive and time-consuming, and we may not be able to obtain such clearances
in a timely fashion or at all.
Our products are subject to similar regulations in our major
international markets. Complying with these regulations is necessary for our
strategy of expanding the markets for and sales of our products into these
countries. These approvals may necessitate clinical testing, limitations on the
number of sales and controls of end user purchase price, among other things. In
certain instances, these constraints can delay planned shipment schedules as
design and engineering modifications are made in response to regulatory concerns
an requests.
WE ARE DEPENDENT ON THIRD-PARTY RESEARCHERS.
We are substantially dependent upon third-party researchers over whom
we do not have absolute control to satisfactorily conduct and complete research
on our behalf and to grant us favorable licensing terms for products which they
may develop. At present, our principal research partner is the Wellman
Laboratories of Photomedicine at Massachusetts General Hospital. We provide
research funding, laser technology and optics know-how in return for licensing
rights with respect to specific medical applications and patents. Our success
will be highly dependent upon the results of this research. We cannot be sure
that such research agreements will provide us with marketable products in the
future or that any of the products developed under these agreements will be
profitable for us.
OUR COMMON STOCK COULD BE FURTHER DILUTED AS THE RESULT OF OUTSTANDING
CONVERTIBLE SECURITIES, WARRANTS AND OPTIONS.
In the past, we have issued convertible securities, such as debentures,
preferred stock and warrants, in order to raise money. We have also issued
options and warrants as compensation for services and incentive compensation for
our employees and directors. We have a substantial number of shares of common
stock reserved for issuance upon the conversion and exercise of these
securities. These outstanding convertible securities, options and warrants could
affect the rights of our stockholders, and could adversely affect the market
price of our common stock.
OUR PROPRIETARY TECHNOLOGY HAS ONLY LIMITED PROTECTIONS.
Our business could be materially and adversely affected if we are not
able to adequately protect our proprietary intellectual property rights. We rely
on a combination of patent, trademark and trade secret laws, license and
confidentiality agreements to protect our proprietary rights. We generally enter
into non-disclosure agreements with our employees and customers and restrict
access to, and distribution of, our proprietary information. Nevertheless, we
may be unable to deter misappropriation of our proprietary information, detect
unauthorized use and take appropriate steps to enforce our intellectual property
rights. Our competitors also may independently develop technologies that are
substantially equivalent or superior to our technology. Although we believe that
our services and products do not infringe the intellectual property rights of
others, we cannot prevent someone else from asserting a claim against us in the
future for violating their intellectual property rights. In addition, costly and
time-consuming lawsuits may be necessary to enforce patents issued or licensed
exclusively to us, to protect our trade secrets and/or know-how or to determine
the enforceability, scope and validity of others' intellectual property rights.
16
The medical laser industry is characterized by frequent litigation
regarding patent and other intellectual property rights. Because patent
applications are maintained in secrecy in the United States until such patents
are issued and are maintained in secrecy for a period of time outside the United
States, we can conduct only limited searches to determine whether our technology
infringes any patents or patent applications. Any claims for patent infringement
could be time-consuming, result in costly litigation and diversion of technical
and management personnel, cause shipment delays, require us to develop
non-infringing technology or to enter into royalty or licensing agreements.
Although patent and intellectual property disputes in the laser industry have
often been settled through licensing or similar arrangements, costs associated
with such arrangements may be substantial and often require the payment of
ongoing royalties, which could have a negative impact on gross margins. There
can be no assurance that necessary licenses would be available to us on
satisfactory terms, or that we could redesign our products or processes to avoid
infringement, if necessary. Accordingly, an adverse determination in a judicial
or administrative proceeding or failure to obtain necessary licenses could
prevent us from manufacturing and selling some of our products. This could have
a material adverse effect on our business, results of operations and financial
condition.
OUR CHARTER DOCUMENTS AND DELAWARE LAW MAY DISCOURAGE POTENTIAL TAKEOVER
ATTEMPTS.
Our Second Restated Certificate of Incorporation and our By-laws
contain provisions that could discourage takeover attempts or make more
difficult the acquisition of a substantial block of our common stock. Our
By-laws require a stockholder to provide to the Secretary of the Company advance
notice of director nominations and business to be brought by such stockholder
before any annual or special meeting of stockholders, as well as certain
information regarding such nomination and/or business, the stockholder and
others known to support such proposal and any material interest they may have in
the proposed business. They also provide that a special meeting of stockholders
may be called only by the affirmative vote of a majority of the Board of
Directors. These provisions could delay any stockholder actions that are favored
by the holders of a majority of the outstanding stock of the Company until the
next stockholders' meeting. In addition, the Board of Directors is authorized to
issue shares of common stock and preferred stock that, if issued, could dilute
and adversely affect various rights of the holders of common stock and, in
addition, could be used to discourage an unsolicited attempt to acquire control
of the Company.
The Company is also subject to the anti-takeover provisions of Section
203 of the Delaware General Corporation Law, which prohibits the Company 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
becomes an interested stockholder, unless the business combination is approved
in a prescribed manner. The application of Section 203 may limit the ability of
stockholders to approve a transaction that they may deem to be in their best
interests. These provisions of our Second Restated Certificate of Incorporation,
By-laws and the Delaware General Corporation Law could deter certain takeovers
or tender offers or could delay or prevent certain changes in control or
management of the Company, including transactions in which stockholders might
otherwise receive a premium for their shares over the then current market
prices.
AS WITH ANY NEW PRODUCTS, THERE IS SUBSTANTIAL RISK THAT THE MARKETPLACE MAY NOT
ACCEPT OR BE RECEPTIVE TO THE POTENTIAL BENEFITS OF OUR PRODUCTS.
Market acceptance of our current and proposed products will depend, in
large part, upon our or any marketing partner's ability to demonstrate to the
marketplace the advantages of our products over other types of products. There
can be no assurance that the marketplace will accept applications or uses for
our current and proposed products or that any of our current or proposed
products will be able to compete effectively.
WE MAY NOT BE ABLE TO SUCCESSFULLY COLLECT LICENSING ROYALTIES.
At present, a material portion of our revenues consist of royalties
from licensing both our own patents and patents licensed to us on an exclusive
basis by Massachusetts General Hospital. However, there can be no assurance that
we will be able to obtain valuable patent rights. Moreover, there can be no
assurance that, even if we do obtain such patent rights and are able to license
them to third parties, we will derive a significant revenue stream from such
licenses.
17
WE FACE RISKS ASSOCIATED WITH PENDING LITIGATION.
We are involved in disputes with third parties. Such disputes have
resulted in litigation with such parties. We have incurred, and likely will
continue to incur, legal expenses in connection with such matters. There can be
no assurance that such litigation will result in favorable outcomes for us.
Although we have reached a settlement agreement with the plaintiffs in the
Varljen litigation (described in Part I, Item 3), the settlement must be
approved by the court, and there can be no assurance that it will be approved.
An adverse result in that suit could have a material adverse effect on our
business, financial condition and results of operations.
WE MAY NOT BE ABLE TO RETAIN OUR KEY EXECUTIVES AND RESEARCH AND DEVELOPMENT
PERSONNEL.
As a small company with less than 100 employees, our success depends on
the services of key employees in executive and research and development
positions. The loss of the services of one or more of these employees could have
a material adverse effect on our business.
WE FACE A RISK OF FINANCIAL EXPOSURE TO PRODUCT LIABILITY CLAIMS IN THE EVENT
THAT THE USE OF OUR PRODUCTS RESULTS IN PERSONAL INJURY.
Our products are and will continue to be designed with numerous safety
features, but it is possible that patients could be adversely affected by use of
one of our products. Further, in the event that any of our products prove to be
defective, we may be required to recall and redesign such products. Although we
have not experienced any material losses due to product liability claims to
date, there can be no assurance that we will not experience such losses in the
future. We maintain general liability insurance in the amount of $1 million per
occurrence and $2 million in the aggregate and maintain umbrella coverage in the
aggregate amount of $25 million; however, there can be no assurance that such
coverage will continue to be available on terms acceptable to us or that such
coverage will be adequate for liabilities actually incurred. In the event we are
found liable for damages in excess of the limits of our insurance coverage or if
any claim or product recall results in significant adverse publicity against us,
our business, financial condition and results of operations could be materially
and adversely affected. In addition, although our products have been and will
continue to be designed to operate in a safe manner, and although we attempt to
educate medical personnel with respect to the proper use of our products, misuse
of our products by medical personnel over whom we cannot exert control may
result in the filing of product liability claims or in significant adverse
publicity against us.
18
ITEM 8. FINANCIAL STATEMENTS.
---------------------
PALOMAR MEDICAL TECHNOLOGIES, INC. AND SUBSIDIARIES
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Reports of Independent Public Accountants 20
Consolidated Balance Sheets as December 31, 1998 and 1999 22
Consolidated Statements of Operations for the Years Ended December 31, 1997,
1998 and 1999 23
Consolidated Statement of Stockholders' Equity (Deficit) for the Years Ended December 31, 1997,
1998 and 1999 24
Consolidated Statements of Cash Flows for the Years Ended December 31, 1997,
1998 and 1999 27
Notes to Consolidated Financial Statements 29
19
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Palomar Medical Technologies, Inc:
We have audited the accompanying consolidated balance sheets of Palomar
Medical Technologies, Inc. (a Delaware corporation) and subsidiaries as of
December 31, 1998 and 1999 and the related consolidated statements of
operations, stockholders' equity (deficit) and cash flows for each of the three
years in the period ended December 31, 1999. 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. The summarized
financial data for Nexar Technologies, Inc. for the year ended December 31, 1997
contained in Note 12 are based on the financial statements of Nexar
Technologies, Inc., which were audited by other auditors. Their report has been
furnished to us and our opinion, insofar as it relates to the data in Note 12,
is based solely on the report of the other auditors.
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, based on our audits and the report of other auditors,
the financial statements referred to above present fairly, in all material
respects, the financial position of Palomar Medical Technologies, Inc. and
subsidiaries as of December 31, 1998 and 1999 and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 1999 in conformity with accounting principles generally accepted in
the United States.
ARTHUR ANDERSEN LLP
Boston, Massachusetts
February 1, 2000
20
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors and Stockholders
of Nexar Technologies, Inc.
Southborough, Massachusetts
We have audited the accompanying consolidated balance sheet of Nexar
Technologies, Inc. and subsidiary as of December 31, 1997, and the related
consolidated statements of operations, stockholders' equity (deficit) and cash
flows for the year then ended. These financial statements (which are not shown
separately herein) 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 Nexar Technologies, Inc. and
subsidiary as of December 31, 1996 and for the periods ended December 31, 1995
and 1996 (not shown separately herein), were audited by other auditors whose
report dated January 24, 1997 (except with respect to the purchased technology
matter discussed in Note 12 as to which the date is February 28, 1997),
expressed an unqualified opinion on those statements.
We conducted our audit in accordance with generally accepted auditing standards.
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 1997 financial statements referred to above present fairly,
in all material respects, the financial position of Nexar Technologies, Inc. and
subsidiary as of December 31, 1997 and the results of their operations and their
cash flows for the year then ended in conformity with generally accepted
accounting principles.
BDO Seidman, LLP
February 13, 1998 (except for Note 10 which
is as of March 20, 1998)
21
PALOMAR MEDICAL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, December 31,
1998 1999
------------ ------------
ASSETS
Current Assets:
Cash and cash equivalents $1,874,718 $2,712,466
Available-for-sale investments, at market value - 22,505,996
Accounts receivable, net of allowance for doubtful accounts of
approximately $364,000 and $207,000 in 1998 and 1999, 9,938,121 1,879,612
respectively
Inventories 5,416,342 1,899,591
Receivable from sale of subsidiary (Note 1) - 3,330,976
Other current assets 1,056,388 729,301
------------ ------------
Total current assets 18,285,569 33,057,942
------------ ------------
Property and Equipment, Net 3,314,087 991,432
------------ ------------
Other Assets:
Cost in excess of net assets acquired, net of accumulated
amortization of
approximately $1,882,000 and $1,201,000 in 1998 and 1999,
respectively 1,699,983 631,026
Deferred financing costs 58,923 -
Other non-current assets 167,352 162,468
------------ ------------
Total other assets 1,926,258 793,494
------------ ------------
$23,525,914 $34,842,868
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current Liabilities:
Current portion of long-term debt $6,290,041 $ 1,122,008
Accounts payable 6,553,745 659,280
Accrued liabilities 9,049,238 6,371,553
Accrued income taxes - 2,500,000
Current portion deferred revenue 1,143,796 918,642
Deferred gain from sale of subsidiary of (Note 1) - 3,139,556
------------ ------------
Total current liabilities 23,036,820 14,711,039
------------ ------------
Liabilities of Discontinued Operations 1,680,171 -
------------ ------------
Long-Term Debt, Net of Current Portion 3,150,000 1,622,008
------------ ------------
Deferred Revenue, Net of Current Portion 870,000 -
------------ ------------
Accrued Dividends and Interest on Preferred Stock 1,252,386 1,417,184
------------ ------------
Commitments and Contingencies (Note 10)
Stockholders' Equity (Deficit):
Preferred stock, $.01 par value-
Authorized - 1,500,000 shares
Issued and outstanding -
6,993 shares and 6,000 shares
at December 31, 1998 and 1999, respectively
(Liquidation preference of $7,417,183 as of December 31, 1999) 69 60
Common stock, $.01 par value-
Authorized - 45,000,000 shares
Issued - 10,074,864 shares and 11,034,493 shares
at December 31, 1998 and 1999, respectively 100,747 110,345
Additional paid-in capital 161,337,926 162,275,613
Accumulated deficit (166,263,346) (141,550,040)
Unrealized loss on available-for-sale investments - (67,943)
Less: Treasury stock - 49,285 and 1,002,615 shares at cost
at December 31, 1998 and 1999, respectively (1,638,859) (3,675,398)
------------ ------------
Total stockholders' equity (deficit) (6,463,463) 17,092,637
------------ ------------
$23,525,914 $34,842,868
============ ============
The accompanying notes are an integral part of
these consolidated financial statements.
22
PALOMAR MEDICAL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31,
1997 1998 1999
------------------ ------------------ -----------------
Product revenues $ 20,994,546 $ 44,514,057 $ 21,279,168
Royalty revenues - - 2,972,279
------------------ ------------------ -----------------
Total Revenues 20,994,546 44,514,057 24,251,447
------------------ ------------------ -----------------
Cost of product revenues 20,055,963 23,050,834 14,321,615
Cost of royalty revenues - - 1,188,912
------------------ ------------------ -----------------
Total Cost of Revenues 20,055,963 23,050,834 15,510,527
------------------ ------------------ -----------------
Gross profit 938,583 21,463,223 8,740,920
------------------ ------------------ -----------------
Operating Expenses (Income)
Research and development 11,990,332 7,029,348 8,022,294
Sales and marketing 6,959,750 15,132,595 6,586,959
General and administrative 15,332,241 8,866,530 5,059,884
Costs incurred for proxy contest - - 624,627
Business development
and other financing costs 2,060,852 - -
Restructuring and asset write-off (Note 13) 3,325,000 (131,310) -
Settlement and litigation costs 3,199,000 - 2,500,000
Gain from sale of subsidiary (Note 1) - - (47,090,877)
------------------ ------------------ -----------------
Total operating expenses (income) 42,867,175 30,897,163 (24,297,113)
------------------ ------------------ -----------------
Income (loss) from operations
(41,928,592) (9,433,940) 33,038,033
Interest Expense (6,993,898) (1,290,905) (597,352)
Interest Income 456,945 33,080 1,316,158
Net Gain (Loss) on Trading Securities (52,272) 703,211 -
Asset Write-off (Note 13) (9,658,000) - -
Swiss Franc Redemption (Note 9) - - (6,167,369)
Other Income (Expense), Net (193,262) 21,311 411,420
------------------ ------------------ -----------------
Income (Loss) from Continuing Operations
Before Provision from Income Taxes (58,369,079) (9,967,243) 28,000,890
Provision for Income Taxes - - 2,500,000
------------------ ------------------ -----------------
Net Income (Loss) from Continuing Operations (58,369,079) (9,967,243) 25,500,890
------------------ ------------------ -----------------
Loss from Discontinued Operations (Note 12)
Loss from operations (29,508,755) (1,090,885) (435,000)
Gain (Loss) on dispositions, net 2,073,943 (1,533,295) -
------------------ ------------------ -----------------
Net Loss from Discontinued Operations (27,434,812) (2,624,180) (435,000)
------------------ ------------------ -----------------
Net Income (Loss) $ (85,803,891) $ (12,591,423) $ 25,065,890
================== ================== =================
Basic Net Income (Loss) Per Share:
Continuing operations $ (12.52) $ (1.26) $ 2.48
Discontinued operations (5.47) (0.29) (0.04)
------------------ ------------------ -----------------
Total Basic Net Income (Loss) Per Share $ (17.99) $ (1.55) $ 2.44
================== ================== =================
Basic Weighted Average Number of Shares Outstanding 5,015,039 8,981,242 10,152,763
================== ================== =================
Diluted Net Income (Loss) Per Share:
Continuing operations $ (12.52) $ (1.26) $ 2.39
Discontinued operations (5.47) (0.29) (0.04)
------------------ ------------------ -----------------
Total Diluted Net Income (Loss) Per Share $ (17.99) $ (1.55) $ 2.35
================== ================== =================
Diluted Weighted Average Number of Shares Outstanding 5,015,039 8,981,242 10,775,672
================== ================== =================
The accompanying notes are an integral part of
these consolidated financial statements.
23
PALOMAR MEDICAL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
Preferred Stock Common Stock Treasury Stock
--------------------------------------------------------------------------------------
Number $0.01 Number $0.01 Number
of Shares Par Value of Shares Par Value of Shares Cost
--------------------------------------------------------------------------------------
Balance, December 31, 1996 18,151 $182 4,370,975 $43,708 (28,571) $(1,211,757)
Sale of common stock pursuant to
warrants, options and Employee
Stock Purchase Plan - - 116,443 1,164 - -
Reduction in subscriptions
receivable - - - - - -
issuance costs of
approximately $1,000,000 16,000 160 - - - -
1996 employer 401(k)
matching contribution - - 12,492 125 - -
Conversion and redemption of
preferred stock (17,754) (178) 877,120 8,771 - -
Conversion of convertible
debentures and issuance of
common stock to an
investor - - 1,066,423 10,664 - -
Issuance of common stock for
investment banking,
merger and acquisition
and consulting services - - 2,857 29 - -
feature of convertible
debentures issued - - 59,016 590 - -
Unrealized gain on
available-for-sale
investments - - - - - -
Preferred stock dividends - - - - - -
associated with Dermascan
acquisition - - - - - -
Issuance of common stock for
technology - - 36,474 365 - -
Purchase of stock for treasury - - - - (20,714) (427,102)
Gain related to the issuance of
common stock by Nexar
Technologies, Inc. - - - - - -
Value ascribed to warrant to
purchase common stock
issued to Coherent, Inc. - - - - - -
Net loss - - - - - -
--------------------------------------------------------------------------------------
Balance, December 31, 1997 16,397 $164 6,541,800 $65,416 (49,285) $(1,638,859
======================================================================================
Additional Unrealized Loss Total
Paid-in Accumulated on Available- Subscription Stockholders'
Capital Deficit for-Sale Investments Receivable Equity (Deficit)
--------------------------------------------------------------------------------------
Balance, December 31, 1996 $105,162,811 $(64,971,200) $(342,500) $(604,653) $38,076,591
Sale of common stock pursuant to
warrants, options and Employee
Stock Purchase Plan 1,613,070 - - - 1,614,234
Reduction in subscriptions
receivable - - - 604,653 604,653
Sale of preferred stock, net of
issuance costs of
approximately $1,000,000 14,999,840 - - - 15,000,000
Issuance of common stock for
1996 employer 401(k)
matching contribution 318,029 - - - 318,154
Conversion and redemption of
preferred stock (3,873,689) - - - (3,865,096)
Conversion of convertible
debentures and issuance of
common stock to an
investor 16,999,699 - - - 17,010,363
Issuance of common stock for
investment banking,
merger and acquisition
and consulting services 53,096 - - - 53,125
Value ascribed to the discount
feature of convertible
debentures issued 3,754,353 - - - 3,754,943
Unrealized gain on
available-for-sale
investments - - 342,500 - 342,500
Preferred stock dividends - (1,584,406) - - (1,584,406)
Guaranteed value of common stock
associated with Dermascan
acquisition (216,562) - - - (216,562)
Issuance of common stock for
technology 1,148,576 - - - 1,148,941
Purchase of stock for treasury - - - - (427,102)
Gain related to the issuance of
common stock by Nexar
Technologies, Inc. 7,409,866 - - - 7,409,866
Value ascribed to warrant to
purchase common stock
issued to Coherent, Inc. 380,000 - - - 380,000
Net loss - (85,803,891) - - (85,803,891)
-------------------------------------------------------------------------------------
Balance, December 31, 1997 $147,749,089 $(152,359,497) $ - $ - $ (6,183,687)
The accompanying notes are an integral part of
these consolidated financial statements.
24
PALOMAR MEDICAL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
(Continued)
Preferred Stock Common Stock Treasury Stock
--------------------------------------------------------------------------
Number $0.01 Number $0.01 Number
of Shares Par Value of Shares Par Value of Shares Cost
--------------------------------------------------------------------------
Balance, December 31, 1997 16,397 $164 6,541,800 $65,416 (49,285) $(1,638,859)
Sale of common stock pursuant to warrants,
options and Employee Stock Purchase Plan - - 27,459 275 - -
Issuance of common stock for 1997 employer
401(k) matching contribution - - 44,555 446 - -
Conversion of preferred stock (5,888) (59) 984,526 9,845 - -
Conversion of convertible debentures - - 1,005,095 10,051 - -
Issuance of common stock, net of investment
banking fees - - 1,457,143 14,571 - -
Redemption of preferred stock (3,516) (36) - - - -
Value ascribed to warrants issued to
investment banker - - - - - -
Common stock issued for advisory services - - 14,286 143 - -
Costs incurred related to the issuance of
common stock - - - - - -
Preferred stock dividends and penalties - - - - - -
Net loss - - - - - -
---------------------------------------------------------------------------
Balance, December 31, 1998 6,993 $69 10,074,864 $100,747 (49,285) $(1,638,859)
===========================================================================
Additional Total
Paid-in Accumulated Stockholders'
Capital Deficit Equity (Deficit)
----------------------------------------------------------------
Balance, December 31, 1997 $147,749,089 $(152,359,497) $(6,183,687)
Sale of common stock pursuant to warrants,
options and Employee Stock Purchase Plan 65,856 - 66,131
Issuance of common stock for 1997 employer
401(k) matching contribution 253,835 - 254,281
Conversion of preferred stock 642,382 - 652,168
Conversion of convertible debentures 6 ,429,125 - 6,439,176
Issuance of common stock, net of investment
banking fees 9,825,429 - 9,840,000
Redemption of preferred stock (3,615,522) - (3,615,558)
Value ascribed to warrants issued to
investment banker 171,000 - 171,000
Common stock issued for advisory services 99,857 - 100,000
Costs incurred related to the issuance of
common stock (283,125) - (283,125)
Preferred stock dividends and penalties - (1,312,426) (1,312,426)
Net loss - (12,591,423) (12,591,423)
--------------------------------------------------------------------
Balance, December 31, 1998 $161,337,926 $(166,263,346) $ (6,463,463)
====================================================================
The accompanying notes are an integral part of
these consolidated financial statements.
25
PALOMAR MEDICAL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
(Continued)
Preferred Stock Common Stock Treasury Stock
-----------------------------------------------------------------------------
Number $0.01 Number $0.01 Number
of Shares Par Value of Shares Par Value of Shares Cost
-----------------------------------------------------------------------------
Balance, December 31, 1998 6,993 $69 10,074,864 $100,747 (49,285) $(1,638,859)
Issuance of common stock for Employee
Stock Purchase Plan - - 10,118 103 4,081 15,344
Issuance of common stock for 1998
employer 401(k) matching
contribution - - 32,561 326 - -
Conversion of preferred stock (340) (3) 74,905 749 - -
Conversion of convertible debentures - - 377,760 3,778 - -
Redemption of preferred stock (653) (6) - - - -
Redemption of common stock related to
Swiss franc convertible debentures - - - - (130,576) (575,348)
Purchase of stock for treasury - - - - (362,550) (1,471,893)
Issuance of escrow shares to treasury - - 464,285 4,642 (464,285) (4,642)
Costs incurred related to the issuance
of common stock - - - - - -
Unrealized loss on available-for-sale
investments - - - - - -
Preferred stock dividends - - - - - -
Net income - - - - - -
----------------------------------------------------------------------------------
Balance, December 31, 1999 6,000 $60 11,034,493 $110,345 (1,002,615) $(3,675,398)
==================================================================================
Additional Unrealized Loss Total
Paid-in Accumulated on Available- Stockholders'
Capital Deficit for-Sale Investments Equity (Deficit)
----------------------------------------------------------------------------------
Balance, December 31, 1998 $161,337,926 $ (166,263,346) $ - $ (6,463,463)
Issuance of common stock for Employee
Stock Purchase Plan 30,824 - - 46,271
Issuance of common stock for 1998
employer 401(k) matching
contribution 206,333 - - 206,659
Conversion of preferred stock 62,665 - - 63,411
Conversion of convertible debentures 1,802,296 - - 1,806,074
Redemption of preferred stock (781,381) - - (781,387)
Redemption of common stock related to
Swiss franc convertible debentures - - - (575,348)
Purchase of stock for treasury - - - (1,471,893)
Issuance of escrow shares to treasury - - - -
Costs incurred related to the issuance
of common stock (383,050) - - (383,050)
Unrealized loss on available-for-sale
investments - - (67,943) (67,943)
Preferred stock dividends - (352,584) - (352,584)
Net income - 25,065,890 - 25,065,890
----------------------------------------------------------------------------------
Balance, December 31, 1999 162,275,613 (141,550,040) $ (67,943) $ 17,092,637
==================================================================================
The accompanying notes are an integral part of
these consolidated financial statements.
26
PALOMAR MEDICAL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
1997 1998 1999
-------------- ------------- --------------
Cash Flows from Operating Activities:
Net income (loss) $(85,803,891) $(12,591,423) $ 25,065,890
Less: net loss from discontinued operations (27,434,812) (2,624,180) (435,000)
-------------- ------------- --------------
Net income (loss) from continuing operations (58,369,079) (9,967,243) 25,500,890
-------------- ------------- --------------
Adjustments to reconcile net income (loss) from
continuing operations to net cash
used in operating activities-
Depreciation and amortization 2,246,412 2,676,651 1,191,810
Restructuring and asset write-off costs 12,983,000 (131,310) -
Loss (gain) on sale of subsidiary 165,845 - (47,090,877)
Write off of deferred financing costs associated with
redemption of convertible debentures 27,554 - -
Valuation allowances for notes and investments 1,035,912 - -
Foreign currency exchange gain (651,970) - -
Noncash interest expense related to debt 5,473,077 63,652 -
Noncash compensation related to common stock and
warrants 205,238 171,000 -
Realized gain on marketable securities (577,969) - -
Unrealized loss (gain) on marketable securities 669,293 (703,211) -
Unrealized foreign currency exchange loss on foreign debt - - (130,943)
Redemption of common stock held by Swiss franc debenture
holders - - 6,167,369
Changes in assets and liabilities, net of effects from
sale of subsidiary:
Purchases of marketable securities (152,938) - -
Net sale of marketable trading securities 2,234,436 2,152,537 -
Accounts receivable (1,809,371) (7,689,441) 2,843,509
Inventories (3,390,396) (704,868) 1,010,751
Other current assets (1,005,781) 1,097,553 313,495
Accounts payable 1,378,637 2,402,763 (4,041,465)
Accrued liabilities 3,546,543 639,934 (1,336,081)
Accrued income taxes - - 2,500,000
Deferred revenue 2,948,247 (1,140,599) (1,095,154)
-------------- ------------- --------------
Net cash used in operating activities
(33,043,310) (11,132,582) (14,166,696)
-------------- ------------- --------------
Cash Flows from Investing Activities:
Purchases of property and equipment (5,777,446) (403,189) (398,037)
Purchases of available-for-sale investments - - (22,786,767)
Proceeds from sale of subsidiary - - 49,448,023
Proceeds from sale of building - - 424,676
Loans to related parties (1,250,000) - -
Payments received on loans to related parties 941,288 - -
Guaranteed value associated with Dermascan acquisition (216,562) - -
Investment in nonmarketable securities (1,057,631) - -
Decrease (increase) in other assets (95,830) (19,628) 2,884
-------------- ------------- --------------
Net cash provided by (used in) investing
activities (7,456,181) (422,817) 26,690,779
-------------- ------------- --------------
The accompanying notes are an integral part of
these consolidated financial statements.
27
PALOMAR MEDICAL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31,
1997 1998 1999
-------------- ------------- --------------
Cash Flows from Financing Activities:
Proceeds from issuance of convertible debentures 16,715,169 - -
Proceeds from notes payable 3,500,000 - -
Redemption of convertible debentures (196,000) (2,196,667) -
Proceeds from (payments of) notes payable and advances from
distributor (4,856,479) 3,010,817 750,000
Proceeds from issuance of common stock 1,462,121 9,840,000 -
Proceeds from exercise of warrants, stock options
and Employee Stock Purchase Plan - 66,131 46,271
Costs incurred related to issuance of common stock - (283,125) (383,050)
Proceeds from line of credit - 1,000,000 500,000
Payments on line of credit - - (1,500,000)
Payment on Swiss franc convertible debentures - - (4,441,064)
Issuance of preferred stock 15,000,000 - -
Purchase of stock for treasury (427,102) - (1,471,893)
Payment on note payable - - (2,290,041)
Redemption of preferred stock - (4,387,434) (781,387)
--------------- ------------- --------------
Net cash provided by (used in) financing
activities 31,197,709 7,049,722 (9,571,164)
--------------- ------------- --------------
Net increase (decrease) in cash and cash equivalents (9,301,782) (4,505,677) 2,952,919
Net cash provided by (used in) discontinued operations 12,676 3,377,095 (2,115,171)
Cash and cash equivalents, beginning of the period 12,292,406 3,003,300 1,874,718
--------------- ------------- --------------
Cash and cash equivalents, end of the period $ 3,003,300 $1,874,718 $2,712,466
=============== ============= ==============
Supplemental Disclosure of Cash Flow Information:
Cash paid for interest $ 534,037 $1,094,759 $ 389,637
=============== ============= ==============
Cash paid for income taxes $ - $ - $ -
=============== ============= ==============
Supplemental Disclosure of Noncash Financing and Investing Activities:
Conversion of convertible debentures and related accrued
interest, net of financing fees $17,010,363 $6,439,176 $ 1,806,074
=============== ============= ==============
Conversion of preferred stock $ 414,904 $ 652,168 $ 63,411
=============== ============= ==============
Issuance of common stock for 1996, 1997 and 1998 employer
401(k) matching contribution $ 318,154 $ 254,281 $ 206,659
=============== ============= ==============
Unrealized loss on available-for-sale investments $ - $ - $ 67,943
=============== ============= ==============
Issuance of common stock for advisory services performed
in 1997 $ - $ 100,000 $ -
=============== ============= ==============
Issuance of common stock for purchase of technology
related to discontinued operations $ 1,148,941 $ - $ -
=============== ============= ==============
Exchange of preferred stock for investment in a discontinued
operation $(4,280,000) $ - $ -
=============== ============= ==============
Investment banking and consulting fees for services related
to the issuance of common stock and convertible
debentures $ 53,125 $ - $ -
=============== ============= ==============
Accrued dividends and interest on preferred stock $ 1,584,406 $1,312,426 $ 352,584
=============== ============= ==============
28
PALOMAR MEDICAL TECHNOLOGIES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
(1) Organization and Operations
Palomar Medical Technologies, Inc. and subsidiaries are engaged in the
commercial sale and development of cosmetic and medical laser systems and
services. During the year ended December 31, 1997, the Company began execution
of a plan to dispose of its electronics segment (see Note 12). The Company
substantially completed the divestiture program in May of 1998.
The Company's medical laser products are in various stages of
development; accordingly, the success of future operations is subject to a
number of risks similar to those of other companies with products in similar
stages of development. Principal among these risks are the need for successful
development and marketing of the Company's products, the need for regulatory
approval, the need to achieve profitable operations, competition from substitute
products and larger companies, the need for successful funding of future
operations, and dependence on key individuals.
On December 7, 1998, the Company entered into an Agreement and Plan of
Reorganization (the "Agreement") with Coherent to sell all of the issued and
outstanding common stock of Star, Palomar's majority-owned subsidiary, to
Coherent. The Company owned substantially all of the issued and outstanding
common shares of Star. However, options outstanding granted to Palomar and
employees of Star to purchase shares of Star's common stock remained outstanding
prior to the consummation of this sale. When all of the outstanding options
under Star's Stock Option Plan were exercised, the Company owned 82.46% of
Star's common stock and the employees collectively owned 17.54%. See Note
11(c)(i). This sale was approved by a majority of the stockholders of Palomar on
April 21, 1999. On April 27, 1999, the Company completed the sale of Star to
Coherent and received net proceeds of $49,736,023. Additionally, $3,254,907 is
being held in escrow until April 27, 2000 as security for any claims which
Coherent may have under the Agreement, resulting in a gain of $47,090,877. The
Company has deferred gain recognition of $3,139,556 of the proceeds from this
sale pending the resolution in 2000 of certain commitments and contingencies
related to the sale.
The gain on the sale of Star is calculated as follows:
Cash Received, Net of $965,000 of Bonuses Due to Star Employees $48,771,023
Plus: Net Amount Held in Escrow Pending Final Asset Valuation 3,254,907
Less: Net Assets Divested (1,165,482)
-----------------------------
Gain on Sale Before Expenses 50,860,448
Less: Expenses 3,769,571
-----------------------------
Net Gain on Sale of Subsidiary $47,090,877
=============================
Under the terms of the Agreement, the Company will receive an ongoing
royalty of 7.5% from Coherent on the sale of any products by Coherent that
incorporate certain patented technology or use certain patented methods
currently licensed by the Company on an exclusive basis from Massachusetts
General Hospital ("MGH"). Portions of these royalty proceeds are remitted to
Massachusetts General Hospital.
On April 21, 1999, a majority of the Company's stockholders approved an
amendment to the Company's Certificate of Incorporation to effect a plan of
recapitalization that resulted in a one-for-seven reverse split of the Company's
common stock. The Company's authorized capital stock was also reduced to
45,000,000 shares of common stock and 1,500,000 shares of preferred stock. All
shares and per share amounts of common stock for all periods presented have been
retroactively adjusted to reflect the reverse stock split.
(2) Summary of Significant Accounting Policies
The accompanying consolidated financial statements reflect the
application of certain accounting policies described below and elsewhere in the
Notes to Consolidated Financial Statements.
29
(a) Principles of Consolidation
The accompanying consolidated financial statements reflect the
consolidated financial position, results of operations and cash flows of the
Company and all wholly owned and majority-owned subsidiaries. All investments of
which the Company owns less than 20% of the common stock are accounted for using
the cost method. All intercompany transactions have been eliminated in
consolidation.
(b) Management Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
(c) Investments
The Company accounts for marketable securities in accordance with
Statement of Financial Accounting Standards ("SFAS") No. 115, Accounting for
Certain Investments in Debt and Equity Securities. The Company's marketable
equity securities with maturities greater than 90 days are considered
available-for-sale investments in the accompanying balance sheet and are carried
at market value, with the difference between cost and market value, net of
related tax effects, recorded as a separate component of stockholders' equity
(deficit). As of December 31, 1998, the Company did not have any investments in
marketable securities. For the year ended December 31, 1999, the aggregate
market value, cost basis, and gross unrealized losses of available-for-sale
investments are as follows:
Market Cost Gross
Value Basis Unrealized Loss
Available-for-sale securities:
Corporate and municipal debt securities $22,505,996 $22,573,939 $67,943
=========== =========== =======
Available-for-sale investments in the accompanying balance sheet at
December 31, 1999 include debt securities of $22,505,996 with contractual
maturities of one year or less. Actual maturities may differ from contractual
maturities as a result of the Company's intent to sell these securities prior to
maturity and as a result of call features of the securities that enable either
the Company, the issuer or both to redeem these securities at an earlier date.
Unrealized holding losses totaling $67,943 on such debt securities are included
as a component of deducted from stockholders' equity (deficit) for the year
ended December 31, 1999.
(d) Inventories
Inventories are stated at the lower of cost (first-in, first-out) or
market. Work-in-process and finished goods inventories consist of material,
labor and manufacturing overhead. At December 31, 1998 and 1999, inventories
consist of the following:
December 31,
1998 1999
---------------- ----------------
Raw materials $2,478,289 $1,403,001
Work-in-process 1,330,822 496,590
Finished goods 1,607,231 -
---------------- ----------------
$5,416,342 $1,899,591
================ ================
30
(e) Depreciation and Amortization
The Company provides for depreciation and amortization on property and
equipment using the straight-line method by charging to operations amounts that
allocate the cost of assets over their estimated useful lives as follows:
Estimated
Asset Classification Useful Life
-------------------------------------- -------------------
Machinery and equipment 3-8 years
Furniture and fixtures 5 years
Leasehold improvements Term of Lease
At December 31, 1998 and 1999, property and equipment consist of the
following:
December 31,
1998 1999
---------------- -----------------
Machinery and equipment $6,022,320 $1,062,774
Furniture and fixtures 1,120,450 1,006,125
Leasehold improvements 567,216 139,046
---------------- -----------------
7,709,986 2,207,945
Less: Accumulated depreciation
and amortization 4,395,899 1,216,513
---------------- -----------------
$3,314,087 $991,432
================ =================
(f) Cost in Excess of Net Assets Acquired
The costs in excess of net assets for acquired businesses are being
amortized on a straight-line basis over five to seven years. Amortization
expense for the years ended December 31, 1997, 1998, and 1999 amounted to
approximately $554,000, $602,000 and $252,000 respectively, and is included in
general and administrative expenses in the consolidated statements of
operations.
The Company accounts for long-lived assets in accordance with SFAS No.
121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed Of. Under SFAS No. 121, the Company is required to assess
the valuation of its long-lived assets, including cost in excess of net assets
acquired, based on the estimated future cash flows to be generated by such
assets. The Company has assessed the realizability of its long-lived assets as
of December 31, 1999 and believes them to be realizable.
(g) Deferred Financing Costs
The Company incurred financing costs related to several issuances of
convertible debentures. Deferred financing costs are amortized by a charge to
interest expense over the period that the debt is outstanding (see Note 9(a)).
(h) Revenue Recognition
The Company recognizes product revenue upon shipment and acceptance.
The Company's sales of its product do not include any rights of return.
Provisions are made at the time of revenue recognition for any applicable
warranty costs expected to be incurred. Revenues from services are recognized in
the period the services are provided.
31
(i) Significant Sales Agent
For the years ended December 31, 1997, 1998 and 1999, Coherent acted as
the sales agent for products sold to the Company's customers that represented
11%, 89% and 60% of product revenues, respectively. At December 31, 1998 and
1999, Coherent accounted for 89% and 60% of accounts receivable, respectively.
Coherent was the Company's exclusive worldwide distributor of laser systems
until the sale of Star in April 1999. International sales (including sales for
which Coherent was the sales agent) for the years ended December 31, 1997, 1998
and 1999 were approximately 24%, 39% and 35%, respectively, of total revenue.
(j) Research and Development Expenses
The Company charges research and development expenses to operations as
incurred.
(k) Net Income (Loss) per Common Share
Basic net income (loss) per share is determined by dividing net income
(loss) by the weighted average common shares outstanding during the period.
Diluted net income (loss) per share is determined by dividing net income (loss)
by diluted weighted average shares outstanding. Diluted weighted average shares
reflect the dilutive effect, if any, of common stock options based on the
treasury stock method and the assumed conversion of all convertible debt
obligations and convertible preferred stock. The calculations of basic and
diluted weighted average shares outstanding are as follows:
Years Ended December 31,
1997 1998 1999
------------------ ----------------- -----------------
Basic weighted average common
shares outstanding 5,015,039 8,981,242 10,152,763
Potential common shares pursuant to:
Stock options and warrants - - 69,219
Convertible preferred stock - - 402,006
Convertible debentures - - 151,684
------------------ ----------------- -----------------
Diluted weighted average common
shares outstanding 5,015,039 8,981,242 10,775,672
================== ================= =================
32
The Company's basic net income (loss) per share from continuing
operations for the years ended 1997, 1998 and 1999 is as follows:
Years Ended December 31,
1997 1998 1999
------------------ ----------------- -----------------
Net income (loss) from
continuing operations $(58,369,079) $(9,967,243) $ 25,500,890
Preferred stock dividends (1,584,406) (1,312,426) (352,584)
Amortization of value ascribed to preferred
stock conversion discount (2,823,529) - -
------------------ ----------------- -----------------
Adjusted net income (loss) from
continuing operations $(62,777,014) $(11,279,669) $25,148,306
================== ================= =================
Basic net income (loss) per common share
from continuing operations $ (12.52) $ (1.26) $ 2.48
================== ================= =================
Basic weighted average number of shares
outstanding 5,015,039 8,981,242 10,152,763
================== ================= =================
Diluted net income (loss) per common
share from continuing operations $ (12.52) $ (1.26) $ 2.39
================== ================= =================
Diluted weighted average number of
shares outstanding 5,015,039 8,981,242 10,775,672
================= ================= =================
For the years ended 1997, 1998 and 1999, potential common shares
related to 4,622,635, 4,064,432 and 3,687,262 of outstanding stock options,
stock warrants and convertible securities, respectively, were not included in
diluted weighted average shares outstanding as they were antidilutive.
(l) Concentration of Credit Risk
SFAS No. 105, Disclosure of Information about Financial Instruments
with Off-Balance-Sheet Risk and Financial Instruments with Concentrations of
Credit Risk, requires disclosure of any significant off-balance-sheet and credit
risk concentrations. Financial instruments that subject the Company to credit
risk consist primarily of cash, short-term investments, and trade accounts
receivable. The Company places its cash and short-term investments 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
maintains an allowance for potential credit losses. The Company's accounts
receivable credit risk is not concentrated within any one geographic area. The
Company has not experienced 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.
(m) Disclosures About Fair Value of Financial Instruments
SFAS No. 107, Disclosure About Fair Value of Financial Instruments,
requires disclosure of an estimate of the fair value of certain financial
instruments. At December 31, 1998 and 1999, financial instruments consisted
principally of convertible debentures and preferred stock. The fair value of
financial instruments pursuant to SFAS No. 107 approximated their carrying
values at December 31, 1998 and 1999. Fair values have been determined through
information obtained from market sources and management estimates.
33
(n) Comprehensive Income (Loss)
The Company adopted SFAS No. 130, Reporting Comprehensive Income,
effective January 1, 1998. SFAS No. 130 establishes standards for reporting and
presentation of comprehensive income (loss) and its components in the financial
statements. The components of the Company's comprehensive loss are as follows:
December 31,
1997 1998 1999
---------------- ----------------- ---------------
Net income (loss) from continuing operations $(58,369,079) $(9,967,243) $25,500,890
Unrealized gain (loss) on available-for-sale
investments 342,500 - (67,943)
---------------- ----------------- ---------------
Comprehensive income (loss) from
continuing operations $(58,026,579) $(9,967,243) $25,432,947
================ ================= ===============
(o) Reclassifications
Certain reclassifications have been made to the 1997 and 1998
consolidated financial statements to conform with the current year's
presentation.
(p) Recent Accounting Pronouncements
In June 1998, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. This
statement establishes accounting and reporting standards for derivative
instruments, including derivative instruments embedded in other contracts, and
for hedging activities. SFAS No. 133, as amended by SFAS No. 137, is effective
for all fiscal quarters of fiscal years beginning after June 15, 2000. SFAS No.
133 is not expected to have a material impact on the Company's consolidated
financial statements.
(3) Segment and Geographic Information
The Company has adopted SFAS No. 131, Disclosures about Segments of an
Enterprise and Related Information. SFAS No. 131 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 how to allocate resources and assess performance. The Company's
chief decision-maker, as defined under SFAS No. 131, is a combination of the
Chief Executive Officer and the Chief Financial Officer. To date, the Company
has viewed its operations and manages its business as principally one segment,
cosmetic laser sales. Associated services are not significant. As a result, the
financial information disclosed herein represents all of the material financial
information related to the Company's principal operating segment.
Product revenues from international sources were approximately $5.03
million, $17.36 million and $8.44 million in 1997, 1998 and 1999, respectively.
The Company's revenues from international sources were primarily generated from
customers located in Europe, Canada, Latin America and Asia/Pacific. All of the
Company's product sales for the years ended December 31, 1997, 1998 and 1999
were shipped from its facilities located in the United States.
34
The following table represents percentage of product revenue by
geographic region from customers for 1997, 1998 and 1999:
Years Ended December 31,
1997 1998 1999
----------------- ------------------- ------------------
United States 76% 61% 57%
Europe 6 17 19
Asia/Pacific 3 2 4
Japan 3 11 17
Canada 4 3 1
Latin America 8 6 2
----------------- ------------------- ------------------
Total 100% 100% 100%
================= =================== ==================
(4) Research and Development
In August 1995, the Company entered into an agreement with MGH whereby
MGH agreed to conduct clinical trials on a laser treatment for hair
removal/reduction developed at MGH's Wellman Laboratories of Photomedicine.
Effective February 14, 1997, the Company amended the 1995 agreement with MGH.
Under the terms of this amendment, the Company agreed to provide MGH with a
grant of approximately $204,000 to perform research and evaluation in the field
of hair removal. In July 1999, the Company entered an amendment to extend its
exclusive research agreement for an additional five years. In addition to laser
hair removal, the agreement has been expanded to include research and
development in the fields of fat removal and acne treatment. Palomar has the
right to exclusively license, on royalty terms to be negotiated, Palomar-funded
inventions in the relevant fields. Under the terms of this agreement, the
Company will pay MGH $475,000 on an annual basis for clinical research through
August 2004.
(5) Income Taxes
The Company provides for income taxes under the liability method in
accordance with the provisions of SFAS No. 109, Accounting for Income Taxes. At
December 31, 1999, the Company had available, subject to review and possible
adjustment by the Internal Revenue Service, a federal net operating loss
carryforward of approximately $59.2 million to be used to offset future taxable
income, if any. This net operating loss carryforward will begin to expire in
2012. The Internal Revenue Code contains provisions that limit the net operating
loss carryforwards due to changes in ownership, as defined by the Internal
Revenue Code. The Company believes that its net operating loss carryforwards
will be limited due to its reorganization in 1991 and subsequent stock
offerings. The Company has completed an analysis of its availability to utilize
its operating loss in connection with the sale of Star to Coherent (see Note 1).
The Company estimates that its has net operating losses of approximately $37.9
million that are not subject to limitation under the Internal Revenue Code. The
Company has a net deferred tax asset of approximately $40.4 million, comprised
mainly of the net operating tax carryforwards discussed above, and the tax
effort of certain expenses and reserves not currently deductible. However, the
Company has placed a full valuation allowance against the deferred tax asset,
due to uncertainty relating to the Company's ability to realize the asset.
35
A reconciliation of the federal statutory rate to the Company's
effective tax rate is as follows:
December 31,
1997 1998 1999
---------------- ---------------- ---------------
Income tax provision at federal statutory rate 34.0% 34.0% 34.0%
Decrease in tax resulting from-
Net operating loss utilization - - (25.1)
Increase in valuation allowance (34.0) (34.0) -
---------------- ---------------- ---------------
Provision for income taxes 0.0% 0.0% 8.9%
================ ================ ===============
(6) 401(k) Profit Sharing Plan
The Company has a 401(k) profit sharing plan (the "Profit Sharing
Plan"), which covers substantially all employees who have attained the age of 18
and are employed at year-end. Employees may contribute up to 15% of their
salary, as defined, subject to restrictions defined by the Internal Revenue
Service. The Company is obligated to make a matching contribution, in the form
of the Company's common stock, of 50% of all employee contributions effective
January 1, 1995. The Company contributions vest over a three-year period. As of
December 31, 1999, the Company has reserved 114,292 shares of its common stock
for issuance in connection with the Profit Sharing Plan.
During 1998 and 1999, the Company issued 44,555 and 326 shares of its
common stock to the Profit Sharing Plan in satisfaction of its $254,281 and
$206,659 employer match for the 1997 and 1998 employee contributions,
respectively. For the year ended December 31, 1999, the Company has accrued
$123,564 for the 1999 match.
(7) Quarterly Results of Operations (Unaudited)
The following table presents a condensed summary of quarterly results
of operations for the years ended December 31, 1998 and 1999 (in thousands,
except per share data).
Years Ended December 31, 1999
------------------------------------------------------------------
First Second Third Fourth
Quarter Quarter Quarter Quarter
------------ ------------ ------------ ------------
Total revenues $ 13,479 $ 5,529 $ 2,923 $ 2,320
Gross profit 8,509 1,292 396 (1,456)
Income (loss) from
continuing operations 469 33,198 (2,598) (5,568)
Net income (loss) per
share from continuing
operations:
Basic 0.04 3.22 (0.27) (.56)
Diluted 0.04 3.02 (0.27) (.55)
36
>
Years Ended December 31, 1998
------------------------------------------------------------------
First Second Third Fourth
Quarter Quarter Quarter Quarter
------------ ------------ ------------ ------------
Total revenues $ 7,067 $ 9,090 $ 13,810 $ 14,547
Gross profit 731 4,278 8,088 8,366
Income (loss) from
continuing operations (6,839) (3,968) 540 300
Net income (loss) per
share from continuing
operations:
Basic $(1.02) (0.48) 0.07 0.03
Diluted $(1.02) (0.48) 0.07 0.03
(8) Accrued Liabilities
At December 31, 1998 and 1999, accrued liabilities consisted of the
following:
December 31,
1998 1999
---------------- ---------------
Payroll and consulting costs $1,148,898 $782,912
Royalties 1,106,352 1,265,825
Settlement costs -- 2,500,000
Warranty 2,798,836 711,606
Restructuring 279,000 --
Other 3,716,152 1,111,210
---------------- ---------------
Total $9,049,238 $6,371,553
================ ===============
(9) Long-Term Debt
(a) At December 31, 1998 and 1999, long-term debt consisted of the
following:
December 31,
1998 1999
--------------- ---------------
Dollar-denominated convertible debentures $2,150,000 $500,000
Revolving line of credit with a bank 1,000,000 --
Note payable in connection with guarantee on behalf of discontinued
subsidiary (See Note 12) 2,290,041 --
Short-term notes payable to Coherent 4,000,000 --
Swiss franc-denominated convertible debentures -- 2,244,016
--------------- ---------------
9,440,041 2,744,016
Less - Current maturities (6,290,041) (1,122,008)
--------------- ---------------
$3,150,000 $1,622,008
=============== ===============
37
(a) Convertible Debentures
The following table summarizes the issuance and conversion of the
convertible debentures for the years ended December 31, 1998 and 1999.
Common Shares
Initial Amount Outstanding Issued Upon
Face December 31, Conversion
--------------------------- ----------------------------
Series Value 1998 1999 1998 1999
- ---------------------------------------------------- ----------------- -------------- ------------ -------------- ------------
4.5% Series due October 21, 1999, 2000 and 2001 $5,000,000 $-- $-- 8,687 --
5% Series due December 31, 2001 5,000,000 -- -- 165,857 --
5% Series due January 13, 2002 1,000,000 -- -- 132,004 --
5% Series due March 10, 2002 5,500,000 -- -- 223,009 --
6% Series due March 13, 2002 500,000 500,000 500,000 -- --
6%, 7% and 8% Series due September 30, 2002 7,000,000 1,650,000 -- 475,537 377,760
4.5% Series denominated in Swiss francs
due July 3, 2003 7,669,442 -- 2,244,016 -- --
----------------- -------------- ------------ -------------- ------------
$31,669,442 $2,150,000 $2,744,016 1,005,094 377,760
================= ============== ============ ============== ============
It is the Company's policy to discount convertible debentures based on
the discount conversion price and amortize the discount to operations over the
expected life of the convertible debentures, which in most cases is less than
the term of the debentures. Accordingly, the Company credits the ascribed value
for the discount features described above to additional paid-in capital. This
ascribed amount is amortized over a period to the earliest conversion date,
which is six months for the convertible debentures outstanding in 1998 and 1999.
During 1997, the Company recorded approximately $5,444,000 of interest
expense related to the amortization of the discount of convertible debentures.
There was no amortization of the discount of convertible debentures in 1998 or
1999.
On March 13, 1997, the Company issued $500,000 of 6% convertible
debentures due March 13, 2002. The convertible debentures have a conversion
price of $11.00. The debentureholder may convert no more than one-third of the
debenture in any 30 day period. The Company has accounted for these debentures
at face value.
On September 30, 1997, the Company issued $7 million of convertible
debentures due September 30, 2002. The debentures bear interest at a rate of 6%
for the first 179 days, 7% for days 180 through 269 and 8% thereafter. The
debentureholders were also issued 59,015 shares of common stock related to this
financing. The fair market value of the common stock was $1.05 million and this
amount is being treated as debt discount and amortized to interest expense. The
convertible debentures have a conversion price of 100% of the Company's average
stock price, as defined. In addition, the debentureholder may convert no more
than 33% of their debentures in any thirty-day period (or 34% of the debentures
in the last 30 day period). The Company also has redemption rights related to
this financing. During the year ended December 31, 1998, the Company redeemed
$2,196,667 of these convertible debentures, including accrued interest of
$196,667. During the year ended December 31, 1999, the debentureholders
converted the remaining $1,650,000 of principal plus $176,483 of accrued
interest, into 377,760 shares of the Company's common stock. As of December 31,
1999, all of these debentures have been redeemed or converted.
On July 3, 1996, the Company raised approximately $7,669,000 through
the issuance of 9,675 units in a convertible debenture financing. These units
are traded on the Luxembourg Stock Exchange and consist of a convertible
debenture due July 3, 2003 denominated in 1,000 Swiss francs, and a warrant to
purchase 24 shares of the Company's common stock at $16.50 per share. The
warrants are non-detachable and may be exercised only if
38
the related debentures are simultaneously converted, redeemed or purchased.
Interest on the convertible debentures accrued at a rate of 4.5% per annum and
was payable quarterly in Swiss francs. The convertible debentures were
convertible by the holder, or the Company, commencing October 1, 1996 at a
conversion price equal to 100% to 77.5% of the applicable conversion price,
calculated as defined. The Company ascribed a value of $1,917,360 to the
discount conversion feature of the convertible debenture. This amount was being
amortized to interest expense over the life of the Swiss franc convertible
debenture. During 1997, the Company redeemed 300 units of this convertible
debenture financing for $195,044.
On October 16, 1997, the Company brought a declaratory judgment action
in the United States District Court against certain of the Swiss franc debenture
holders. Prior to this suit, those debenture holders had alleged that the
Company was in breach of certain protective covenants and, on October 22, 1997,
they brought suit based on these claims. On November 13, 1997, the Company
exercised its right to convert 9,375 units into 130,576 shares of common stock
and cash of approximately $36,000. The unamortized discount totaling
approximately $1,784,000 was amortized to interest expense upon conversion. The
Company accounted for these debentures as converted in the accompanying
financial statements as of December 31, 1998.
During the year ended December 31, 1999, the Company recorded a
redemption expense of $6,167,369 as a result of a compromise agreement between
Palomar and certain European banks that had held the Swiss franc debentures.
Under the terms of this April 21, 1999 agreement, which resolved a lawsuit,
Palomar agreed to rescind its conversion notices issued in November 1997. Under
the terms of the agreement, the Company agreed to pay a total of approximately
$6,742,717 to the European banks, of which $4,433,355 had been paid as of
December 31, 1999. The remaining amounts due under this obligation are due
through 2001. Accordingly, the Company has recorded a charge to operations of
$6,167,369. This amount represents the total amount due to the European banks
less the fair market value of the redemption of the common shares ($575,348)
previously considered outstanding by the Company.
The Company incurred deferred financing costs of approximately $769,000
relating to the issuance of convertible debentures during the year ended
December 31, 1997. These costs are reflected as deferred financing costs in the
accompanying consolidated balance sheets and are being amortized to interest
expense over the term of the related convertible debentures. During the years
ended December 31, 1997, 1998 and 1999, the Company amortized approximately
$276,000, $64,000 and $39,000 to interest expense, respectively. Any remaining
unamortized deferred financing costs are charged to additional paid-in capital
upon conversion. During the years ended December 31, 1997, 1998 and 1999, the
Company charged approximately $1,820,000, $374,000 and $20,000, respectively, of
unamortized deferred financing costs to additional paid-in-capital.
(b) Revolving Line of Credit with a Bank
The Company had a $10 million revolving line of credit with a bank.
This line of credit was to mature on March 31, 2000 and bore interest at the
bank's prime rate. Borrowings under this line of credit were secured by
substantially all assets of the Company and were limited to 80% of qualified
accounts receivables. A director of Palomar had guaranteed all borrowings under
this line of credit. In connection with this guarantee, the Company issued this
director warrants to purchase 28,571 shares of common stock at $10.50 per share.
These warrants were valued at approximately $69,000. This amount was amortized
to interest expense over the term of the revolving line of credit. The Company
repaid all amounts outstanding under this line of credit on April 27, 1999, and
cancelled the line of credit.
(c) Bridge Loan
On March 27, 1998, the Company borrowed $2 million from an individual.
The Company subsequently repaid this note during 1998. Interest on this note was
in the form of a warrant to purchase 17,857 shares of common stock for $.07 per
share exercisable over five years. This warrant was valued at $171,000 using the
39
Black-Scholes option pricing model. The Company accounted for this warrant as a
discount to the note through additional paid-in capital and amortized the
discount to interest expense over the period that the note was outstanding.
(d) Notes Payable to Coherent
In May and June 1998 and February 1999, the Company borrowed
$3,000,000, $1,000,000 and $750,000, respectively, from the Company's then
worldwide distributor, Coherent. These notes accrued interest at 8.5% per annum
and were collateralized by Star's inventory. Coherent assumed this debt in
connection with its purchase of all of the issued and outstanding common stock
of Star on April 27, 1999.
(e) Future Maturities of Long-Term Debt
Future maturities of convertible debentures reflected at face value as
of December 31, 1999 are as follows:
2000 $1,122,008
2001 1,122,008
2002 500,000
-------------
$2,744,016
=============
(10) Commitments and Contingencies
(a) Operating Leases
The Company has entered into various operating leases for its corporate
office, research facilities, and manufacturing operations. These leases have
monthly rent ranging from approximately $4,000 to $81,000, which is adjusted
annually for certain other costs, such as inflation, taxes and utilities, and
expire through August 2009.
Future minimum payments under the Company's operating leases at
December 31, 1999 are approximately as follows:
Year Ended
December 31,
----------------------------
2000 $939,000
2001 941,000
2002 889,000
2003 889,000
2004 911,000
Thereafter 4,562,000
-------------
$9,131,000
=============
(b) Royalties
The Company is required to pay a royalty under a license agreement with
MGH (see Note 4). For the years ended December 31, 1997, 1998 and 1999,
approximately $854,000, $1,332,000 and $2,085,000 of royalty expense,
respectively, was incurred under this agreement. These amounts are included in
cost of sales in the accompanying consolidated statements of operations.
A former employee and previous owner of one of the Company's
subsidiaries is paid a 1% commission on the net sales of certain lasers, as
defined in his severance agreement. These commissions will be paid through March
31, 2000 and are to be no less than $450,000. In accordance with the settlement
agreement with this individual, the
40
Company paid advances on commissions totaling $450,000 as follows: $200,000 in
1997 and $250,000 in January 1998. During 1999, the Company paid commissions of
approximately $218,000.
(c) Litigation
The Company was a defendant in a lawsuit filed by Commonwealth
Associates ("Commonwealth"). In 1997, Commonwealth's motion for summary judgment
was granted and the District Court awarded Commonwealth $3,174,070 in damages.
That judgment was appealed by Palomar and the case was settled for $1.875
million. During the year ended December 31, 1997, the Company incurred $1.875
million in settlement costs related to the above matter and another $1.324
million related to several other claims and associated litigation costs.
In 1997, the Company brought a declaratory judgment action against the
holders and the indenture trustee of the Company's 4.5% Subordinated Convertible
Debentures due 2003, denominated in Swiss francs (the "Swiss Franc Debentures").
Just prior to this suit, certain of the debenture holders (the "Asserting
Holders") had filed suit against the Company alleging that the Company was in
breach of certain protective covenants under the indenture. The Asserting
Holders claimed that the Company had breached certain protective indenture
covenants and that the Asserting Holders were entitled to immediate payment of
their indebtedness under the Swiss Franc Debentures. As of November 13, 1997,
the Company notified the holders of the Swiss Franc Debentures that it had
caused conversion of all of the Swiss Franc Debentures into an aggregate of
130,576 shares of the Company's common stock. Since the conversion date, the
Company had treated these shares as issued and outstanding. In July 1999,
Palomar and certain European banks entered into a settlement agreement whereby
Palomar agreed to rescind its conversion notices issued in November 1997. Under
the terms of this compromise, the Company agreed to pay a total of approximately
$6.7 million to the European banks, of which $4.5 million has been paid as of
December 31, 1999. The balance of $2.2 million is due through 2001. The Company
recorded a charge to operations of approximately $6.2 million representing the
total amount due to the European banks less the fair market value of the
redemption of the common shares previously considered outstanding by the
Company.
On March 17, 1999, the Company and a former and current officer were
added as defendants in the class action of Varljen v. H.J. Meyers, Inc., et al.
In February 2000, Palomar and the Varljen plaintiffs reached an agreement in
principle pursuant to which Palomar and its insurance carrier would pay
plaintiffs $5 million in settlement of all their claims. Of this amount, Palomar
would contribute up to $1 million in stock and $1.375 million in cash, and its
insurance carrier would contribute the remaining $2.625 million in cash. This
settlement agreement must be approved by the court. There can be no assurance of
such court approval; however, management believes that the court approval is
probable and accrued for its estimated loss at December 31, 1999.
The Company is involved in other 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.
(d) Distribution Agreement
On November 17, 1997, the Company entered into an exclusive
distribution, sales and service agreement with Coherent, an established,
worldwide laser company. Under this agreement, Coherent had the exclusive right
to sell the EpiLaser(R) and the LightSheer(TM) diode laser system and future
generation products worldwide. The Company paid Coherent a per unit commission,
adjusted for certain events, as defined. During 1997,1998 and 1999, the Company
incurred approximately $800,000, $14,108,000 and $4,702,000, respectively, of
commission expense related to this agreement, which is included in sales and
marketing expense in the accompanying consolidated statement of operations. Upon
execution of this agreement, Coherent made a lump sum payment of $3.5 million
and received a warrant to purchase 142,857 shares of the Company's common stock
at a share price of $36.75. The valuation of the warrant using the Black-Scholes
option pricing model was approximately $380,000. The value was credited to
additional paid-in capital during the year ended December 31, 1997. The
remaining amount of
41
$3,120,000, included in deferred revenue, was originally amortized to revenue
over the three year life of the agreement. On April 27, 1999, in connection with
the Company's completion of the sale of Star to Coherent, as discussed in Note
1, the distribution agreement was terminated and replaced with a one year
non-exclusive distribution agreement that enabled Coherent to sell the Company's
ruby-based laser products. The Company is amortizing the deferred revenue
related to Coherent over this one-year non-exclusive period ending April 27,
2000.
(e) Employment Agreements
The Company and its subsidiaries have employment agreements with
certain executive officers that provide for annual bonuses to the officers and
expire on various dates through 2001. Each of these agreements provides for 12
months severance upon termination of employment and change of control.
(11) Stockholders' Equity
(a) Common Stock
During 1998, the Company sold 1,457,142 shares of common stock to a
group of investors for $10,200,000. In addition, the Company issued callable
warrants with a three-year term to these investors to purchase 1,457,142 shares
of common stock at an exercise price of $21.00 per share. The callable warrants
are not exercisable for the first six months after issuance and thereafter are
callable by the Company if the closing price of the Company's common stock
equals or exceeds $35.00 for 10 consecutive trading days. Under the terms of
this private placement, the Company is obligated to pay the investors a fee of
5% per annum (payable quarterly) of the dollar value invested in the Company as
long as the investors continue to hold their common stock in their name at the
Company's transfer agent. During 1998 and 1999, the Company paid $283,125 and
$383,050, respectively, related to this fee. This amount has been charged to
additional paid-in capital. During 1998, the Company also paid $360,000 for
investment banking fees related to the issuance of these common shares. The
Company netted this amount against the proceeds through a reduction in
additional paid-in capital.
(b) Preferred Stock
The Company is authorized to issue up to 1,500,000 shares of preferred
stock, $.01 par value. As of December 31, 1998 and 1999, preferred stock
authorized, issued and outstanding consists of the following:
1998 1999
---- ----
Redeemable convertible preferred stock, Series F, $.01 par value per
share Authorized, issued and outstanding - 6,000 shares
(liquidation preference of $7,417,183 at December 31, 1999) $60 $60
Redeemable convertible preferred stock, Series G, $.01 par value per
share Authorized - 10,000 shares
Issued and outstanding - 743 shares in 1998 7 --
Redeemable convertible preferred stock, Series H, $.01 par value per
share Authorized - 16,000 shares
Issued and outstanding - 250 shares 1998 2 --
----- -----
Total preferred stock $ 69 $ 60
===== =====
The Series F redeemable convertible preferred stock ("Series F
Preferred"), together with any accrued but unpaid dividends, may be converted
into common stock at 80% of the average closing bid price for the 10 trading
days
42
preceding the conversion date, but in no event less than $21.00 or more than
$112.00. This conversion floor was decreased by the two parties from the
original price to $49.00. The Series F Preferred may be redeemed at the
Company's option, with no less than 10 days' and no more than 30 days' notice or
when the stock price exceeds $117.60 per share for 60 consecutive trading days,
at an amount equal to the amount of liquidation preference determined as of the
applicable redemption date. Dividends are payable quarterly at 8% per annum in
arrears on March 31, June 30, September 30 and December 31. Dividends not paid
on the payment date, whether or not such dividends have been declared, will bear
interest at the rate of 10% per annum until paid.
The conversion price for the Series F Preferred is adjustable for
certain dilutive events, as defined. The Series F Preferred has a liquidation
preference equal to $1,000 per share of redeemable convertible preferred stock,
plus accrued but unpaid dividends and accrued but unpaid interest. The Series F
Preferred stockholders do not have any voting rights except on matters affecting
the Series F Preferred.
The Series G redeemable convertible preferred stock ("Series G
Preferred"), together with any accrued but unpaid dividends, may be converted
into common stock at 85% of the average closing bid price for the five trading
days preceding the conversion date, but in no event less than $.07. The Series G
Preferred may be redeemed at the Company's option at any time, with no less than
15 days' and no more than 20 days' notice, at an amount equal to the sum of (a)
the amount of liquidation preference determined as of the applicable redemption
date plus (b) $176.50. Dividends are payable quarterly at 7% per annum in
arrears on January 1, April 1, July 1 and October 1. Dividends not paid on the
payment date, whether or not such dividends have been declared, bear interest at
the rate of 12% per annum until paid. During 1999, the Company converted 340
shares of Series G Preferred and accrued dividends and interest of $63,411 into
74,905 shares of the Company's common stock. During 1999, the Company also
redeemed 403 shares of Series G Preferred for $557,635. Included in this
redemption was $73,346 of accrued dividends and $10,363 of accrued interest on
dividends. As of December 31, 1999, all of the Series G Preferred had been
redeemed or converted.
During the first and second quarters of 1997, the Company issued 16,000
shares of Series H redeemable convertible preferred stock ("Series H Preferred")
for $16 million, less associated financing costs of $1 million. The Series H
Preferred accrued dividends at rates varying from 6% to 8% per annum, as
defined. The Series H Preferred, including any accrued but unpaid dividends, may
be converted into common stock at 100% of the average stock price for the first
179 days from the closing date, 90% of the average stock price, as defined, for
the following 90 days and 85% of the average stock price, as defined,
thereafter. The conversion price was adjustable for certain dilutive events. The
holders were restricted for the first 209 days following the closing date to
converting no more than 33% of the Series H Preferred in any 30 day period (or
34% in the last 30 day period). Under certain conditions, the Company had the
right to redeem the Series H Preferred. The Company had ascribed a value of
$2,823,529 to the discount conversion feature of the Series H Preferred, which
was amortized as an adjustment to earnings available to common stockholders over
the most favorable conversion period attainable to the holders (270 days from
the date of issuance). During 1999, the Company redeemed 250 shares of Series H
Preferred for $344,761. This redemption included $37,301 of accrued dividends.
As of December 31, 1999, all of the Series H Preferred had been redeemed or
converted.
43
During the year ended December 31, 1998, the following shares of
preferred stock, accrued premiums, dividends, interest, and other related costs
were converted into shares of common stock as follows:
Number of Additional Dollar Amount
Preferred Preferred Dollar Amount of Converted, Including Accrued Number of Common
Stock Series Shares Preferred Stock Premium, Dividends, Interest Total Dollar Shares Converted
Converted Converted and Other Related Costs Amount Converted Into
- -------------- -------------- --------------------- --------------------------------- --------------------- -------------------
G 1,941 $1,941,000 $268,245 $2,209,245 386,147
H 3,947 3,946,700 383,923 4,330,623 598,378
- -------------- -------------- --------------------- --------------------------------- --------------------- -------------------
5,888 $5,887,700 $652,168 $6,539,868 984,525
In addition to the 598,378 shares of common stock issued related to the
Series H Preferred conversion, the Company redeemed 3,516 shares of Series H
Preferred for $4,387,434 in 1998. This amount includes accrued dividends and
interest totaling $771,876.
During the year ended December 31, 1999, the following shares of
preferred stock, accrued premium, dividends, interest and other related costs
were converted into shares of common stock as follows:
Number of Additional Dollar Amount
Preferred Preferred Dollar Amount of Converted, Including Accrued Number of Common
Stock Series Shares Preferred Stock Premium, Dividends, Interest Total Dollar Shares Converted
Converted Converted and Other Related Costs Amount Converted Into
- -------------- -------------- --------------------- --------------------------------- --------------------- -------------------
G 340 $340,000 $63,411 $403,411 74,905
In addition to the 74,905 shares of common stock issued related to the
Series G Preferred conversion, the Company redeemed 403 shares of Series G
Preferred and 250 shares of Series H Preferred for $902,396 in 1999, including
related accrued dividends and interest of $121,009.
(c) Stock Option Plans and Warrants
(i) Stock Options
The Company has several Stock Option Plans (the "Plans") that provide
for the issuance of a maximum of 4,778,571 shares of common stock, which may be
issued as incentive stock options ("ISOs") or nonqualified options. Under the
terms of the Plans, ISOs may not be granted at less than the fair market value
on the date of grant (and in no event less than par value); in addition, ISO
grants to holders of 10% of the combined voting power of all classes of Company
stock must be granted at an exercise price of not less than 110% of the fair
market value at the date of grant. Pursuant to the Plans, options are
exercisable at varying dates, as determined by the Board of Directors, and have
terms not to exceed 10 years (five years for 10% or greater stockholders). The
Board of Directors, at its discretion, may convert the optionee's ISOs into
nonqualified options at any time prior to the expiration of such ISOs.
44
The following table summarizes all stock option activity of the Company
for the years ended December 31, 1997, 1998 and 1999:
Number of Exercise Weighted Average
Shares Price Exercise Price
------------- ----------------- ----------------------
Outstanding, December 31, 1996 379,428 $14.00-$73.50 $35.21
Granted 249,621 0.07-45.50 17.17
Exercised (30,692) 0.07-21.00 11.34
Canceled (172,300) 16.63-73.50 43.61
------------- ----------------- ----------------------
Outstanding, December 31, 1997 426,057 10.50-56.00 23.31
Granted 327,760 10.50 10.50
Canceled (417,771) 10.50-56.88 23.66
------------- ----------------- ----------------------
Outstanding, December 31, 1998 336,046 10.50-17.50 10.57
Granted 1,039,327 1.63-10.50 3.10
Canceled (140,385) 3.19-10.50 8.24
------------- ----------------- ----------------------
Outstanding, December 31, 1999 1,234,988 $1.63-$17.50 $4.55
============= ================= ======================
Exercisable, December 31, 1999 796,487 $3.19-$17.50 $5.21
============= ================= ======================
Available for future issuances under the Plans
as of December 31, 1999 3,451,840
=============
The range of exercise prices for options outstanding and options
exercisable at December 31, 1999 is as follows:
Options Outstanding Options Exercisable
- ------------------------------------------------------------------------------------- --------------------------------------
Weighted Average
Range of Options Remaining Weighted Average Options Weighted Average
Exercise Prices Outstanding Contractual Life Exercise Price Exercisable Exercise Price
- --------------------- ---------------- ---------------------- ----------------------- --------------- ----------------------
$1.63 75,000 9.83 years $1.63 - $-
3.19 - 3.75 917,560 9.42 years 3.19 579,520 3.19
10.50 238,857 2.21 years 10.50 213,396 10.50
17.50 3,571 1.96 years 17.50 3,571 17.50
---------------- ---------------------- ----------------------- --------------- ----------------------
$1.63 - $17.50 1,234,988 8.03 years $4.55 796,487 $5.21
================ ====================== ======================= =============== ======================
The Company accounts for its stock-based compensation plans under APB
Opinion No. 25, Accounting for Stock Issued to Employees. In October 1995, the
FASB issued SFAS No. 123, Accounting for Stock-Based Compensation, which is
effective for fiscal years beginning after December 15, 1995. SFAS No. 123
established 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 per share as
if SFAS No. 123 had been adopted, as well as certain other information. The
Company accounts for equity instruments issued to non-employees in accordance
with EITF 96-18 by valuing the instrument using the Black-Scholes option pricing
model, as prescribed by SFAS No. 123, and recording a charge to operations for
their fair value over the vesting period. The Company has issued options and
warrants to purchase common stock to certain financial intermediaries in
connection with various financings at below the fair market value of the
underlying stock. The costs associated with these issuances are accounted for as
a cost of raising capital and netted against the proceeds from these issuances.
45
During the years ended December 31, 1997 and 1998, a total of 143,571
and 312,128 options to purchase common stock were repriced to above the fair
market value of the underlying common stock to $17.50 and $10.50 per share,
respectively. The majority of the remainder of the options canceled during the
years ended December 31, 1997, 1998, and 1999 were the result of employee
terminations.
The Company has computed the pro forma disclosures required under SFAS
No. 123 for all stock options granted to employees of the Company in the years
ended December 31, 1997, 1998 and 1999 using the Black-Scholes option pricing
model prescribed by SFAS No. 123.
The assumptions used to calculate the SFAS No. 123 pro forma disclosure
for the years ended December 31, 1997, 1998 and 1999 for the Company are as
follows:
December 31,
1997 1998 1999
------------------ ------------------ ------------------
Risk-free interest rate 6.09% 5.60% 5.81%
Expected dividend yield - - -
Expected lives 3.69 years 2.94 years 3.65 years
Expected volatility 79% 93% 94%
Grant date fair value of options granted during
the period $14.42 $4.48 $2.04
The weighted average fair-value and weighted average exercise price of
options granted by the Company for the years ended December 31, 1997, 1998 and
1999 are as follows:
December 31,
1997 1998 1999
------------- ----------------- -----------------
Weighted average exercise price for options:
Whose exercise price exceeded fair market value at
the date of grant $17.71 $10.50 $5.05
Whose exercise price was equal to fair value at the
date of grant $- $- $3.08
Weighted average fair market value for options:
Whose exercise price exceeded fair market value at
the date of grant $14.42 $4.48 $1.93
Whose exercise price was equal to fair market value
at the date of grant $- $- $2.04
46
The Company sold its majority-owned subsidiary, Star, a manufacturer of
the Company's diode laser, on April 27, 1999. Star had established a stock
option plan that provided for the issuance of a maximum of 650,000 shares of
common stock, which may have been issued as nonqualified options and ISOs. The
following table summarizes employee stock option activity for Star:
Weighted
Average
Number of Shares Exercise Price Exercise Price
---------------- -------------- --------------
Outstanding, December 31, 1996 215,000 $2.50 - $19.00 $5.44
Granted 40,500 19.00 19.00
Canceled (1,917) 19.00 19.00
---------------- -------------- --------------
Outstanding, December 31, 1997 253,583 2.50-19.00 8.04
Exercised (6,300) 2.50-5.00 4.21
---------------- -------------- --------------
Outstanding, December 31, 1998 247,283 2.50-19.00 8.13
Exercised (247,283) 2.50-19.00 8.13
---------------- -------------- --------------
Outstanding, December 31, 1999 -- $-- $--
================ ============== ==============
(ii) Warrants
The following table summarizes all warrant activity of the Company for
the years ended December 31, 1997, 1998 and 1999:
>
Weighted
Number of Exercise Average
Shares Price Exercise Price
-------------- -------------------- -----------------
Outstanding, December 31, 1996 1,425,177 $4.20-$115.50 $49.14
Granted 399,026 17.50-62.13 30.03
Exercised (83,554) 4.20-52.50 14.70
Canceled (312,359) 7.00-115.50 46.55
-------------- -------------------- -----------------
Outstanding, December 31, 1997 1,428,290 14.00-105.00 46.55
Granted 1,797,792 0.07-21.00 19.25
Exercised (17,857) 0.07 0.07
Canceled (411,207) 15.75-47.25 28.91
-------------- -------------------- -----------------
Outstanding, December 31, 1998 2,797,018 10.50-105.00 30.66
Granted 113,000 3.19 3.19
Canceled (260,327) 14.00-72.63 32.53
-------------- -------------------- -----------------
Outstanding, December 31, 1999 2,649,691 $3.19 - $105.00 $29.51
============== ==================== =================
Exercisable, December 31, 1999 2,649,691 $3.19 - $105.00 $29.51
============== ==================== =================
During years ended December 31, 1997 and 1998, a total of 177,143 and
185,714 warrants, respectively, to purchase common stock were repriced to above
the then current fair market values of the underlying common stock. These
repriced option exercise prices ranged from $17.50 to $28.00 per share in 1997
and ranged from $10.50 to $14.00 per share in 1998. The majority of the
remainder of the canceled warrants during the years ended December 31, 1997,
1998 and 1999 were the result of employee terminations.
47
The range of exercise prices for warrants outstanding and exercisable
at December 31, 1999 are as follows:
Warrants Outstanding Warrants Exercisable
- ------------------------------------------------------------------------------------- --------------------------------------
Weighted Average
Range of Warrants Remaining Weighted Average Warrants Weighted Average
Exercise Prices Outstanding Contractual Life Exercise Price Exercisable Exercise Price
- ---------------------- --------------- ---------------------- ----------------------- --------------- ----------------------
$3.19 113,000 9.06 years $3.19 113,000 $3.19
10.50 - 14.88 319,559 1.61 years 11.49 319,559 11.49
21.00 - 22.75 1,544,264 3.23 years 21.04 1,544,264 21.04
35.00 - 66.50 511,719 1.26 years 50.24 511,719 50.24
84.00 - 105.00 161,149 1.16 years 98.97 161,149 98.97
- --------------------- --------------- ---------------------- ----------------------- --------------- ----------------------
===================== =============== ====================== ======================= =============== ======================
$3.19 - $105.00 2,649,691 2.78 years $29.51 2,649,691 $29.51
===================== =============== ====================== ======================= =============== ======================
The Company has computed the pro forma disclosures required under SFAS
No. 123 for all warrants granted in the years ended December 31, 1997, 1998 and
1999 using the Black-Scholes option pricing model prescribed by SFAS No. 123.
The weighted-average assumptions used to calculate the SFAS No. 123 pro
forma disclosure for the years ended December 31, 1997, 1998 and 1999 for the
Company are as follows:
December 31,
1997 1998 1999
---------------- ------------------ ------------------
Risk-free interest rate 6.13% 5.44% 5.81%
Expected dividend yield - - -
Expected lives 4.44 years 2.58 years 4.00 years
Expected volatility 79% 93% 94%
Grant date fair value of warrants granted during
the period $15.19 $5.32 $2.20
48
The weighted average fair value and weighted average exercise price of
warrants granted by the Company for the years ended December 31, 1997, 1998 and
1999 are as follows:
December 31,
1997 1998 1999
----------------- -------------- -----------------
Weighted average exercise price for warrants:
Whose exercise price exceeded fair market value at date
of grant $30.10 $19.46 $-
Whose exercise price was less than fair market value at
date of grant $52.50 $0.07 $-
Whose exercise price was equal to fair market value at
date of grant $22.75 $- $3.19
Weighted average fair value for warrants:
Whose exercise price exceeded fair market value at date
of grant $7.70 $5.32 $-
Whose exercise price was less than fair market value at
date of grant $4.34 $8.68 $-
Whose exercise price was equal to fair market value at
date of grant $15.26 $- $2.20
(iii) Pro Forma Disclosure
The pro forma effect on the Company of applying SFAS No. 123 for all
options and warrants to purchase common stock of the Company would be as
follows:
>
December 31,
1997 1998 1999
---------------- ---------------- --------------
Pro forma basic net income (loss) from continuing operations $(62,020,782) $(23,169,514) $23,289,114
Pro forma basic net income (loss) per share from
continuing operations $ (12.37) $ (2.58) $ 2.29
Pro forma diluted net income (loss) from continuing operations $(62,020,782) $(23,169,514) $23,885,314
Pro forma diluted net income (loss) per share from
continuing operations $ (12.37) $ (2.58) $ 2.22
(d) Reserved Shares
At December 31, 1999, the Company has reserved shares of its common
stock for the following:
Warrants 2,649,691
Stock option plans 4,686,828
Convertible debentures 188,635
Convertible preferred stock 85,714
Employee stock purchase plan 114,292
Employee 401(k) plan 203,840
---------------
Total 7,929,000
===============
49
(e) Employee Stock Purchase Plan
In June 1996, the Board of Directors established the Palomar Medical
Technologies, Inc. 1996 Employee Stock Purchase Plan (the "Purchase Plan").
Under the Purchase Plan, all employees are eligible to purchase the Company's
common stock at an exercise price equal to 85% of the fair market value of the
common stock with a lookback provision of three months. The Purchase Plan
provides for issuance of up to approximately 140,000 shares. During the years
ended December 31, 1998 and 1999, employees purchased 9,315 and 14,199 shares of
the Company's common stock for approximately $50,000 and $46,000, respectively,
pursuant to the Purchase Plan.
(12) Discontinued Operations
During the fourth quarter of 1997, the Company's Board of Directors
approved a plan to dispose of the Company's electronics business segment. The
electronics segment consisted of the manufacture and sale of personal computers,
high-density flexible electronics circuitry and memory modules. The Company
substantially completed this plan in May 1998.
Nexar Technologies, Inc. ("Nexar") was included in the electronics
business segment. Nexar was an early-stage company that manufactured, marketed
and sold personal computers. On April 14, 1997, Nexar completed an initial
public offering of 2,500,000 shares at $9.00 per share, for net proceeds of
approximately $19,593,000. The Company recorded an increase in stockholders'
equity of $7,409,866, in accordance with Staff Accounting Bulletin ("SAB") No.
51 as a result of Nexar's initial public offering. The Company's accounting
policy for gains arising under SAB No. 51 is to recognize these gains in its
consolidated statement of operations to the extent that such gains are
realizable at the date of each transaction.
During 1997 and 1998, the Company reduced its ownership in Nexar
through the sale of common stock to private investors. At December 31, 1997, the
Company beneficially owned 3,746,343 shares of Nexar's common stock,
representing approximately 36% ownership. As of December 31, 1998, the Company
beneficially owned 2,406,080 shares of Nexar's common stock, representing
approximately 19% ownership interest and had no other significant obligations
related to Nexar, other than the guaranty to GFL Advantage Fund Limited ("GFL")
discussed below.
During 1998, the Company recorded a charge to discontinued operations
of $1,524,966 as a result of management's decision to write-down the carrying
value of its investment in Nexar. During the year ended December 31, 1997, the
Company recognized a gain on the disposition of shares of Nexar common stock of
$6,221,689. This amount is included in "Gain (Loss) on dispositions, net" in the
accompanying consolidated statements of operations.
The following is the summarized financial information for Nexar:
Year Ended
December 31, 1997
---------------------------
Net Revenues $33,608,063
Gross Profit $740,151
Net Loss $(13,346,380)
On December 31, 1997 the Company entered into an Exchange Agreement and
sold 500,000 shares of Nexar's common stock to GFL for $2 million. Under the
terms of the Exchange Agreement, Palomar guaranteed GFL a minimum selling price
of $5.00 per share with respect to 400,000 shares of Nexar's common stock over a
two-year time period. As of December 31, 1998, the deferred liability related to
this transaction totaled $1,680,171
50
and represents the total amount due to GFL
after GFL sold its 400,000 common shares of Nexar stock. The Company paid this
deferred obligation on May 3, 1999.
The other entities that were included in the electronics business
segment are Dynaco Corp. ("Dynaco") and Dynaco's wholly owned subsidiaries
Comtel Electronics, Inc. ("Comtel") and Dynamem, Inc. ("Dynamem"). On December
9, 1997, the Company entered into a two-phase stock purchase agreement with
Biometric Technologies Corporation ("BTC"). BTC was formed jointly by Dynaco's
President and its Chairman of the Board. The first phase was consummated on
December 9, 1997 and consisted of the sale of all of the issued and outstanding
common stock of Comtel and Dynamem in exchange for $3,654,000, payable in two
installments. The first installment was a $850,000 unsecured promissory note
that was due on February 15, 1998. The second installment was a $2.8 million
unsecured promissory note due in 48 monthly installments, beginning February 1,
1999. This promissory note was fully reserved by the Company during 1997, as its
ultimate collectibility was believed to be uncertain. As of December 31, 1999,
the Company has not received any amounts due on these notes.
As part of the first phase, the Company entered into a Loan and
Subscription Agreement with a creditor of Comtel, Coast Business Credit, for
$3,233,000. This promissory note represented the settlement of amounts owed the
creditor by Comtel and guaranteed by Palomar. Principal and interest payments
were being made over 24 months, beginning December 31, 1997, and interest
accrued at the bank's prime rate plus 2.25%. This promissory note had been
collateralized by 464,285 shares of the Company's common stock that were held in
escrow. The Company also guaranteed up to $2.5 million of Comtel's borrowings
from this creditor until November 30, 1999. The stockholders of BTC had
personally guaranteed to the Company payment for any amounts borrowed under this
line of credit in excess of approximately $1.5 million in the event that the
Company would have been obligated to honor this guarantee.
BTC did not make the first installment on February 1, 1998, and on
October 7, 1998 the Company and BTC agreed to reduce the principal balances of
the $850,000 note and the $2.8 million note to a total of $1 million. BTC paid
$500,000 during 1998, with the balance due April 5, 1999. BTC did not make its
final principal payment on April 5, 1999, and on April 16, 1999 amended the
agreement, resulting in payment of $100,000, a release of Palomar from its
obligation to Coast Business Credit and a promissory note for $400,000 due on
March 31, 2001. The amended note is guaranteed by the principal stockholders of
BTC.
In connection with the disposition of Comtel, the Company also
restructured all assets and investments related to a significant customer of
Comtel into a $4 million note receivable. This receivable was fully reserved by
the Company during 1997, as its ultimate collectibility is uncertain. To date,
no amounts have been received under this restructured note receivable from the
customer, nor does the Company anticipate receiving any amounts from this note
receivable in the foreseeable future.
In the second phase, BTC agreed to purchase all of the issued and
outstanding stock of Dynaco. During phase two, BTC had the option of selling
Dynaco to a third party if agreed to by the Company and BTC. Consistent with the
terms of the agreement with BTC, the Company entered into a Stock Purchase
Agreement with Quick Turn Circuits, Inc. ("QTC") on May 26, 1998 pursuant to
which QTC purchased 100% of the issued and outstanding shares of common stock of
Dynaco for $3.2 million.
As of December 31, 1997, the Company recognized a loss of approximately
$4,148,000 related to the phase one and phase two dispositions. These charges
have been netted in "Gain (Loss) on dispositions, net" in the accompanying
consolidated statements of operations. As of December 31, 1997, the Company
accrued for the estimate of Dynaco's 1998 operating loss through the anticipated
disposition date of approximately $850,000. Through the date of disposition of
Dynaco, the Company recognized additional operating losses totaling $1,090,885.
During 1998, the Company recorded a loss on disposition of $8,329 related to the
ultimate sale of Dynaco to QTC.
Pursuant to Accounting Principles Board ("APB") Opinion No. 30,
Reporting the Results of Operations - Reporting the Effects of Disposal of a
Segment of a Business, and Extraordinary, Unusual and Infrequently
51
Occurring Events and Transactions, ("APB No. 30") the consolidated financial
statements of the Company have been presented to reflect the dispositions of the
aforementioned subsidiaries that comprise the electronics segment in accordance
with APB 30. Accordingly, revenues, expenses, and cash flows of the electronics
segment have been excluded from the respective captions in the accompanying
consolidated statements of operations and consolidated statements of cash flows.
The net liabilities of these entities have been reported as "Liabilities of
Discontinued Operations" in the accompanying consolidated balance sheets; the
net operating losses of these entities have been reported as "Net Loss from
Discontinued Operations" in the accompanying consolidated statements of
operations; and the net cash flows of these entities have been reported as "Net
Cash Provided by (Used in) Discontinued Operations" in the accompanying
consolidated statements of cash flows.
The liability of $1,680,171 as of December 31, 1998 represents the
Company's deferred liability associated with the sale of Nexar common stock to
GFL. The Company paid its obligation related to this deferred liability on May
3, 1999. The following summarizes the results of the discontinued operations:
Year Ended Period Ended Year Ended
December 31, May 26, December 31,
1997 1998 1999
----------------- ------------------- ---------------------
Revenues $57,663,080 $6,471,701 $--
Net loss from discontinued operations $(27,434,812) $(2,624,180) $(435,000)
The loss from operations for all of the discontinued operations from
the measurement date, October 1, 1997 (or December 31, 1997 for Dynaco), through
the date of disposition for Comtel and Dynamem total approximately $3,405,000.
Dynaco's loss from operations for the period beginning January 1, 1998 and
ending May 26, 1998, the date of disposition, totaled $1,940,885. During 1999,
the Company paid and settled a lawsuit related to the operations of Dynaco for
$435,000.
(13) Restructuring And Asset Write-off
The Company, in accordance with applicable accounting principles,
determined during the third quarter of 1997 that certain investments' and notes
receivables' carrying values would not be realizable due to the Company's change
in strategy to divest of its investments in non-core businesses. These
investments did not qualify for discontinued operations in accordance with APB
No. 30. During 1997, the Company fully reserved for all such investments
resulting in a charge of approximately $10,283,000 to continuing operations, as
follows:
Description Carrying Amount
----------- ---------------
Notes receivable $2,250,000
Investments in non-core businesses 8,033,000
---------------
$10,283,000
===============
The write-offs of the notes receivable and investments related to a
number of strategic investments and loans in non-medical businesses that the
Company made during 1996 and 1997. The notes receivable were principally
mezzanine investments whereby the Company loaned money and, in some cases,
received equity in early stage companies as a condition to making these loans.
During 1996 and 1997, the Company also made other equity investments in
companies that at the time were believed to be strategic to the Company's
business or had the potential to yield a higher than average financial return.
During 1997, based on a number of factors, including the Company's change in
strategy, the book value of these companies and their poor financial performance
to date, it became apparent to management that there was significant uncertainty
as to the ultimate realizability of these
52
investments and notes receivable. Accordingly, the Company wrote off these
investments and notes receivable in 1997.
In the third quarter of 1997, the Company recognized a restructuring
charge of $2,700,000 based on the decision to discontinue certain medical
product and service business units and consolidate others. The majority of these
amounts relate to severance benefits for significant reductions in staffing for
all areas of the Company, including the elimination of essentially all of the
sales and marketing function as a result of the Coherent Distribution Agreement
(Note 10(d)). Management's plan specifically identified 33 employees who were
targeted for termination, almost exclusively in selling, general and
administrative functions. Actual employees terminated as a result of this
restructuring totaled 45.
All expenses accounted for as restructuring charges were in accordance
with the criteria set forth in Emerging Task Force Issue 94-3, Liability
Recognition for Certain Employee Termination Benefits and Other Costs to Exit an
Activity (Including Certain Costs Incurred in a Restructuring), and are
exclusive of the charges related to discontinued operations, as disclosed in
Note 12. Through December 31, 1998, the Company paid out $2,289,690 of severance
costs. Through December 31, 1999, the remaining liability of $279,000 was paid
resulting in total restructuring costs incurred of $2,568,690.
As part of this restructuring, the Company disposed of the following
medical businesses:
(a) Tissue Technologies, Inc.
On December 16, 1997, the Company sold assets and certain liabilities
of Tissue Technologies, Inc. ("Tissue Technologies"), a manufacturer of a
dermatological laser product for the treatment of wrinkles, to a newly formed
medical laser manufacturer (the "Newco"). The Newco was formed by former
executives of Tissue Technologies. In exchange, the Company received a $500,000
note receivable due in monthly installments over the next year, royalties
ranging from 2% to 5% on product revenue over the next 10 years, a 15% equity
position in the Newco and a warrant to purchase 10% of the common stock of the
Newco at $.50 per share. As of December 31, 1999, no payments had been secured
from the Newco and the Company continued to place zero value on the note,
royalty and equity position in the newly formed company.
(b) Palomar Technologies, Ltd.
On January 1, 1998, the Company sold substantially all of the business
assets and liabilities of Palomar Technologies, Ltd., a foreign manufacturer, to
a publicly traded company. The Company received cash of approximately $200,000
and was relieved of obligations related to the building lease and all employment
agreements. This transaction did not have a material effect on the Company's
operations for the year ended December 31, 1997.
53
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURES.
----------------------------------------------------------------
Not applicable.
54
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
---------------------------------------------------
The information concerning directors required under this item is
incorporated herein by reference from the material contained under the heading
"Election of Directors" in the Registrant's definitive proxy statement to be
filed with the Securities and Exchange Commission pursuant to Regulation 14A,
not later than 120 days after the close of the fiscal year. The information
concerning delinquent filers pursuant to Item 405 of Regulation S-K is
incorporated herein by reference from the material contained under the heading
"Section 16(a) Beneficial Ownership Reporting Compliance" in the Registrant's
definitive proxy statement to be filed with the Securities and Exchange
Commission pursuant to Regulation 14A, not later than 120 days after the close
of the fiscal year.
ITEM 11. EXECUTIVE COMPENSATION.
-----------------------
The information required under this item is incorporated herein by
reference from the material contained under the heading "Executive Compensation"
in the Registrant's definitive proxy statement to be filed with the Securities
and Exchange Commission pursuant to Regulation 14A, not later than 120 days
after the close of the fiscal year.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
---------------------------------------------------------------
The information required under this item is incorporated herein by
reference from the material contained under the heading "Stock Ownership" in the
Registrant's definitive proxy statement to be filed with the Securities and
Exchange Commission pursuant to Regulation 14A, not later than 120 days after
the close of the fiscal year.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
-----------------------------------------------
The information required under this item is incorporated herein by
reference from the material contained under the heading "Relationship with
Affiliates" in the Registrant's definitive proxy statement to be filed with the
Securities and Exchange Commission pursuant to Regulation 14A, not later than
120 days after the close of the fiscal year.
55
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
---------------------------------------------------------------
(a) 1. Index to Consolidated Financial Statements. Page
------------------------------------------ ----
The following Consolidated Financial Statements of the Company and its
subsidiaries are filed as part of this report on Form 10-K:
Reports of Independent Public Accountants 20
Consolidated Balance Sheets - December 31, 1999 and
December 31, 1998 22
Consolidated Statements of Operations -
Years ended December 31, 1999, December 31, 1998 and December 31, 1997 23
Consolidated Statements of Stockholders' Equity (Deficit) -
Years ended December 31, 1999, December 31, 1998 and
December 31, 1997 24
Consolidated Statements of Cash Flows - Years ended
December 31, 1999, December 31, 1998 and December 31, 1997 27
Notes to Consolidated Financial Statements 29
2. Consolidated Financial Statement Schedules
Report of Independent Public Accountants on Schedule II
Schedule II - Valuation and Qualifying Accounts
Schedules not listed above have been omitted because the
matter or conditions are not present or the information
required to be set forth therein is included in the
Consolidated Financial Statements hereto.
(b) Reports on Form 8-K.
Form 8-K filed April 21, 1999 (announcing the Company's
adoption of a shareholder rights plan).
Form 8-K filed May 10, 1999 (announcing the sale of Star
Medical Technologies, Inc. to Coherent, Inc.).
Form 8-K filed June 29, 1999 (announcing the preliminary
report of independent inspector of elections in connection
with the Company's annual meeting)..
Form 8-K filed July 1, 1999 (announcing the Company's victory
in proxy contest).
Form 8-K filed December 16, 1999 (announcing the adoption of
the Company's amended and restated Bylaws).
56
(c) Exhibits.
The following exhibits required to be filed herewith are incorporated
by reference to the filings previously made by the Company where so
indicated below.
Exhibit
No. Title
- -------- -----
^^^3(i).1 Certificate of Designation, as filed with the Delaware
Secretary of State on April 21, 1999.
^3(i).2 Second Restated Certificate of Incorporation, as filed with
the Delaware Secretary of State on January 8, 1999.
^^^^3(ii) Bylaws, as amended.
^4.1 Common Stock Certificate.
^^4.2. Rights Agreement Between Palomar Medical Technologies, Inc.
and American Stock Transfer & Trust Company, dated as of April
20, 1999
##4.3 Form of 4.5% Convertible Debenture (denominated in Swiss
Francs) due July 3, 2003.
4.4 First Allonge and Amendment to 4.5% Subordinated Convertible
Debenture
##4.5 Form of 6% Convertible Debenture due March 13, 2002.
<4.6 Second Amended 1991 Stock Option Plan.
<4.7 Second Amended 1993 Stock Option Plan.
<4.8 Second Amended 1995 Stock Option Plan.
<4.9 Second Amended 1996 Stock Option Plan.
<4.10 Third Amended 1996 Employee Stock Purchase Plan.
*4.11 Form of Stock Option Grant under the 1991, 1993 and 1995
Amended Stock Option Plans.
##4.12 Form of Stock Option Agreement under the 1996 Amended Stock
Option Plan.
#4.13 Form of Company Warrant to Purchase Common Stock.
###10.1 Employment Agreement, dated as of May 15, 1997, between the
Company and Louis P. Valente.
<10.2 Amendment No. 1 to Key Employment Agreement between the
Company and Louis P. Valente dated May 15, 1999.
10.3 Amendment No. 2 to Key Employment Agreement between the
Company and Louis P. Valente dated February 1, 2000
<10.4 Amended and Restated Employment Agreement between the Company
and Joseph P. Caruso dated June 30, 1999.
10.5 Amendment No. 1 to Amended and Restated Employment Agreement
between the Company and Joseph P.
Caruso, dated February 1, 2000.
57
<10.6 Lease for premises at 82 Cambridge Street, Burlington,
Massachusetts, dated June 17, 1999.
###10.7 License Agreement between the Company and Massachusetts
General Hospital, dated August 18, 1995.
###10.8 First Amendment to License Agreement between the Company and
Massachusetts General Hospital, dated August 18, 1995.
###10.9 Second Amendment to License Agreement between the Company and
Massachusetts General Hospital, dated August 18, 1995.
-10.10 The Company's 401(k) Plan.
**10.11 Agreement and Plan of Reorganization by and among Coherent,
Inc., Medical Technologies, Acquisition, Inc., Palomar Medical
Technologies, Inc., Star Medical Technologies, Inc., Robert E.
Grove, James Z. Holtz and David C. Mundinger, dated as of
December 7, 1998.
21 List of Subsidiaries.
23 Consent of Arthur Andersen LLP.
27 Financial Data Schedule for the Period Ended December 31,
1999.
^ Previously filed as an exhibit to Form 8-K, filed on April 21,
1999 and incorporated herein by reference.
^^ Previously filed as an exhibit to Form 10-K for the period
ended December 31, 1998, filed on March 30, 1999 and
incorporated herein by reference.
^^^ Previously filed as an exhibit to Form 10-Q for the period
ended March 31, 1999, filed on May 17, 1999 and incorporated
herein by reference.
^^^^ Previously filed as an exhibit to Form 8-K, filed on December
16, 1999 and incorporated herein by reference.
* Previously filed as an exhibit to Amendment No. 4 to Form S-1
Registration Statement No. 33-47479 filed on October 5, 1992,
and incorporated herein by reference.
** Previously filed as an exhibit to the Company's Definitive
Proxy Statement for the period ended December 31, 1998 filed
on March 12, 1999, and incorporated herein by reference.
# Previously filed as an exhibit to the Company's Annual Report
on Form 10-KSB for the year ended December 31, 1995, and
incorporated herein by reference.
## Previously filed as an exhibit to the Company's Annual Report
on Form 10-KSB for the year ended December 31, 1996, and
incorporated herein by reference.
### Previously filed as an exhibit to the Company's Annual Report
on Form 10-K for the year ended December 31, 1998, and
incorporated herein by reference.
58
- Previously filed as an exhibit to Form S-8 Registration
Statement No. 33-97710 filed on October 4, 1995, and
incorporated herein by reference.
< Previously filed as an exhibit Form 10-Q for the period ended
June 30, 1999, and incorporated herein by reference.
59
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS ON SCHEDULE II
To Palomar Medical Technologies, Inc.:
We have audited, in accordance with generally accepted auditing
standards, the consolidated financial statements of Palomar Medical
Technologies, Inc. and subsidiaries included in this Form 10-K and have issued
our report thereon dated February 1, 2000. Our audit was made for the purpose of
forming an opinion on the basic financial statements taken as a whole. The
schedule listed in Item 14(2) above is the responsibility of the Company's
management and is presented for purposes of complying with the Securities and
Exchange Commission's rules and is not part of the basic financial statements.
This schedule has been subjected to the auditing procedures applied in the audit
of the basic financial statements and, in our opinion, fairly states, in all
material respects, the financial data required to be set forth therein, in
relation to the basic financial statements taken as a whole.
Arthur Andersen LLP
Boston, Massachusetts
February 1, 2000
60
SCHEDULE II
PALOMAR MEDICAL TECHNOLOGIES, INC.
Valuation and Qualifying Accounts
Balance,
Beginning of Balance, End of
Period Increases Deductions Period
Allowance for Doubtful Accounts:
December 31, 1997 $1,129,000 $933,000 $(1,316,000) $746,000
================= ================= ================ =================
December 31, 1998 $746,000 $183,000 $(565,000) $364,000
================= ================= ================ =================
December 31, 1999 $364,000 $-- $(157,000) $207,000
================= ================= ================ =================
Balance,
Beginning of Balance, End of
Period Increases Deductions Period
Restructuring Accrual:
December 31, 1997 $-- $2,700,000 $(718,000) $1,982,000
================= ================= ================ =================
December 31, 1998 $1,982,000 $-- $(1,703,000) $279,000
================= ================= ================ =================
December 31, 1999 $279,000 $-- $(279,000) $--
================= ================= ================ =================
61
SIGNATURES
Pursuant to the requirements of the Securities Act of 1934, the
Registrant certifies that it has caused this Report to be signed on its behalf
by the undersigned, thereunto duly authorized, in the Town of Burlington in the
Commonwealth of Massachusetts on March 27, 2000.
PALOMAR MEDICAL TECHNOLOGIES, INC.
By: /s/ LOUIS P. VALENTE
-------------------------------
Louis P. Valent
President and
Chief Executive Officer
Pursuant to the requirements of the Securities Act of 1934, this Report
has been signed by the following persons on behalf of the Registrant in the
capacities and on the dates indicated.
Name Capacity Date
---- -------- ----
/S/ LOUIS P. VALENTE President, Chief Executive March 27, 2000
- -------------------------------------- Officer and Director
Louis P. Valente
/S/ JOSEPH P. CARUSO Chief Financial Officer March 27, 2000
- -------------------------------------- (Principal Financial Officer and
Joseph P. Caruso Principal Accounting Officer)
/S/ NICHOLAS P. ECONOMOU Director March 27, 2000
- --------------------------------------
Nicholas P. Economou
/S/ A. NEIL PAPPALARDO Director March 27, 2000
- --------------------------------------
A. Neil Pappalardo
/S/ JAMES G. MARTIN Director March 27, 2000
- --------------------------------------
James G. Martin
62