UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(x) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended March 31, 2003
Commission File Number 1-13165
CRYOLIFE, INC.
(Exact name of registrant as specified in its charter)
-------------------
Florida 59-2417093
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
1655 Roberts Boulevard, NW
Kennesaw, Georgia 30144
(Address of principal executive offices)
(zip code)
(770) 419-3355
(Registrant's telephone number, including area code)
Not Applicable
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
YES __X__ NO ____
The number of shares of common stock, par value $0.01 per share, outstanding on
April 30, 2003 was 19,663,833.
Part I - FINANCIAL INFORMATION
Item 1. Financial statements
CRYOLIFE, INC. AND SUBSIDIARIES
SUMMARY CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Three Months Ended
March 31,
-------------------------------------
2003 2002
-------------------------------------
(Unaudited)
Revenues:
Human tissue preservation services $ 9,130 $ 20,238
Products 6,599 5,065
Distribution and grant 191 168
-------------------------------------
15,920 25,471
Costs and expenses:
Human tissue preservation services 2,443 8,063
(Includes lower of cost or market
write-down of $297 in 2003)
Products 1,641 2,235
General, administrative, and marketing 11,592 9,478
Research and development 917 1,153
Interest expense 132 192
Interest income (131) (298)
Other income, net (26) (56)
--------------------------------------
16,568 20,767
-------------------------------------
(Loss) income before income taxes (648) 4,704
Income tax (benefit) expense (214) 1,600
-------------------------------------
Net (loss) income $ (434) $ 3,104
=====================================
(Loss) earnings per share:
Basic $ (0.02) $ 0.16
=====================================
Diluted $ (0.02) $ 0.16
=====================================
Weighted average shares outstanding:
Basic 19,634 19,096
=====================================
Diluted 19,634 19,796
=====================================
See accompanying notes to summary consolidated financial statements.
2
Item 1. Financial Statements
CRYOLIFE, INC.
SUMMARY CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
March 31, December 31,
2003 2002
-----------------------------------
ASSETS (Unaudited)
Current Assets:
Cash and cash equivalents $ 6,898 $ 10,277
Marketable securities, at market 13,327 14,583
Trade receivables, net 7,769 6,930
Other receivables, net 9,090 11,824
Deferred preservation costs, net 7,564 4,332
Inventories 4,703 4,585
Prepaid expenses and other assets 1,457 2,182
Deferred income taxes 5,365 6,734
-----------------------------------
Total current assets 56,173 61,447
-----------------------------------
Property and equipment, net 36,879 38,130
Patents, net 5,321 5,324
Deferred income taxes 736 --
Other, net 1,439 1,513
-----------------------------------
TOTAL ASSETS $ 100,548 $ 106,414
===================================
LIABILITIES AND SHAREHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 2,358 $ 3,874
Accrued expenses and other current liabilities 6,017 6,823
Accrued compensation 1,271 1,627
Accrued procurement fees 2,557 3,769
Current maturities of capital lease obligations 2,064 2,169
Current maturities of long-term debt 5,200 5,600
-----------------------------------
Total current liabilities 19,467 23,862
-----------------------------------
Capital lease obligations, less current maturities 917 971
Deferred income taxes 986
Other long-term liabilities 838 795
-----------------------------------
Total liabilities 21,222 26,614
-----------------------------------
Shareholders' equity:
Preferred stock -- ---
Common stock (20,996 issued shares in 2003 and
20,935 shares in 2002) 210 209
Additional paid-in capital 73,765 73,630
Retained earnings 12,352 12,786
Deferred compensation (18) (21)
Accumulated other comprehensive income 103 282
Less: Treasury stock at cost (1,361 shares in 2003 and
1,361 shares in 2002) (7,086) (7,086)
-----------------------------------
Total shareholders' equity 79,326 79,800
-----------------------------------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 100,548 $ 106,414
===================================
See accompanying notes to summary consolidated financial statements.
3
Item 1. Financial Statements
CRYOLIFE, INC.
SUMMARY CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
Three Months Ended
March 31,
-----------------------------------
2003 2002
-----------------------------------
(Unaudited)
Net cash from operating activities:
Net (loss) income $ (434) $ 3,104
Adjustments to reconcile net (loss) income to net cash
provided by operating activities:
Gain on sale of marketable equity securities -- (10)
Depreciation and amortization 1,401 1,230
Provision for doubtful accounts 24 24
Write-down of deferred preservation costs 297 --
Other non-cash adjustments to income 19 --
Deferred income taxes (342) 365
Tax effect of nonqualified option exercises -- 306
Changes in operating assets and liabilities:
Receivables 1,871 (2,919)
Deferred preservation costs and inventories (3,647) (2,854)
Prepaid expenses and other assets 725 185
Accounts payable, accrued expenses, and other liabilities (3,847) 380
-----------------------------------
Net cash used in operating activities (3,933) (189)
------------------------------------
Net cash from investing activities:
Capital expenditures (79) (1,398)
Other assets (2) (412)
Purchases of marketable securities -- (11,725)
Sales and maturities of marketable securities 1,205 13,036
Proceeds from note receivable -- 284
-----------------------------------
Net cash provided by (used in) investing activities 1,124 (215)
-----------------------------------
Net cash from financing activities:
Principal payments of debt (400) (400)
Payment of obligations under capital leases (159) (149)
Proceeds from exercise of stock options and
issuance of common stock 136 348
-----------------------------------
Net cash used in financing activities (423) (201)
------------------------------------
Decrease in cash and cash equivalents (3,232) (605)
Effect of exchange rate changes on cash (147) (33)
Cash and cash equivalents, beginning of period 10,277 7,204
-----------------------------------
Cash and cash equivalents, end of period $ 6,898 $ 6,566
===================================
See accompanying notes to summary consolidated financial statements.
4
CRYOLIFE, INC. AND SUBSIDIARIES
NOTES TO SUMMARY CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1 - BASIS OF PRESENTATION
The accompanying unaudited summary consolidated financial statements have been
prepared in accordance with (i) accounting principles generally accepted in the
United States for interim financial information and (ii) the instructions to
Form 10-Q and Rule 10-01 of Regulation S-X of the Securities and Exchange
Commission ("SEC"). Accordingly, the statements do not include all of the
information and disclosures required by accounting principles generally accepted
in the United States for a complete presentation of financial statements. In the
opinion of management, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been included. Certain prior
year balances have been reclassified to conform to the 2003 presentation.
Operating results for the three months ended March 31, 2003 are not necessarily
indicative of the results that may be expected for the year ending December 31,
2003. For further information, refer to the consolidated financial statements
and notes thereto included in the CryoLife Form 10-K for the year ended December
31, 2002, as amended.
NOTE 2 - FDA ORDER ON HUMAN TISSUE PRESERVATION AND OTHER FDA CORRESPONDENCE
On August 13, 2002 the Company received an order from the Atlanta district
office of the FDA regarding the non-valved cardiac, vascular, and orthopaedic
tissue processed by the Company since October 3, 2001 (the "FDA Order"). The FDA
Order followed an April 2002 FDA Form 483 Notice of Observations ("April 2002
483") and an FDA Warning Letter dated June 17, 2002, ("Warning Letter").
Subsequently, the Company responded to the Warning Letter. Revenue from human
tissue preservation services accounted for 78% of the Company's revenues for the
six months ended June 30, 2002, (the last period ending prior to the issuance of
the FDA Order) and of those revenues 67% or $26.9 million were derived from
preservation of tissues subject to the FDA Order. The FDA Order contains the
following principal provisions:
o The FDA alleges that, based on its inspection of the Company's
facility on March 25 through April 12, 2002, certain human tissue
processed and distributed by the Company may be in violation of 21
Code of Federal Regulations ("CFR") Part 1270. (Part 1270 requires
persons or entities engaged in the recovery, screening, testing,
processing, storage, or distribution of human tissue to perform
certain medical screening and testing on human tissue intended for
transplantation. The rule also imposes requirements regarding
procedures for the prevention of contamination or cross-contamination
of tissues during processing and the maintenance of certain records
related to these activities.)
o The FDA alleges that the Company has not validated procedures for the
prevention of infectious disease contamination or cross-contamination
of tissue during processing at least since October 3, 2001.
o Non-valved cardiac, vascular, and orthopaedic tissue processed by the
Company from October 3, 2001 to September 5, 2002 must be retained
until it is recalled, destroyed, the safety is confirmed, or an
agreement is reached with the FDA for its proper disposition under the
supervision of an authorized official of the FDA.
o The FDA strongly recommends that the Company perform a retrospective
review of all tissue in inventory (i.e. currently in storage at the
Company) that is not referenced in the FDA Order to assure that it was
recovered, processed, stored, and distributed in conformance with 21
CFR 1270.
o The Center for Devices and Radiological Health ("CDRH"), a division of
the FDA, is evaluating whether there are similar risks that may be
posed by the Company's allograft heart valves, and will take further
regulatory action if appropriate.
Pursuant to the FDA Order, the Company placed non-valved cardiac, vascular, and
orthopaedic tissue subject to the FDA Order on quality assurance quarantine and
recalled the non-valved cardiac, vascular, and orthopaedic tissues subject to
5
the FDA Order (i.e. processed since October 3, 2001) that had been distributed
but not implanted. In addition, the Company ceased processing non-valved
cardiac, vascular, and orthopaedic tissues. On September 5, 2002 the Company
reached an agreement with the FDA (the "Agreement") that supplements the FDA
Order and allows the tissues subject to recall (processed between October 3,
2001 and September 5, 2002) to be released for distribution after the Company
completes steps to assure that the tissue is used for approved purposes and that
patients are notified of risks associated with tissue use. Specifically, the
Company must obtain physician prescriptions, and tissue packaging must contain
specified warning labels. The Agreement calls for the Company to undertake to
identify third-party records of donor tissue testing and to destroy tissue from
donors in whom microorganisms associated with an infection are found. The
Agreement had a 45-business day term and was renewed on November 8, 2002, on
January 8, 2003, and on March 17, 2003. This most recent renewal expires on June
13, 2003. The Company is unable to predict whether or not the FDA will grant
further renewals of the Agreement. In addition, pursuant to the Agreement, the
Company agreed to perform additional procedures in the processing of non-valved
cardiac and vascular tissues and subsequently resumed processing these tissues.
The Agreement contained the requirement that tissues subject to the FDA Order be
replaced with tissues processed under validated methods. The Company also agreed
to establish a corrective action plan within 30 days from September 5, 2002 with
steps to validate processing procedures. The corrective action plan was
submitted on October 5, 2002.
On December 31, 2002 the FDA clarified the Agreement noting that non-valved
cardiac and vascular tissues processed since September 5, 2002 are not subject
to the FDA Order. Specifically, for non-valved cardiac and vascular tissue
processed since September 5, 2002, the Company is not required to obtain
physician prescriptions, label the tissue as subject to a recall, or require
special steps regarding procurement agency records of donor screening and
testing beyond those required for all processors of human tissue. A renewal of
the Agreement that expires on June 13, 2003 is therefore not needed in order for
the Company to continue to distribute non-valved cardiovascular and vascular
tissues processed since September 5, 2002, including orthopaedic tissue.
The Company resumed limited processing of orthopaedic tissues in late February
2003 following an FDA inspection of the Company's processing operations. The
Company's first quarter 2003 procurement of orthopaedic tissues was
approximately 5% of orthopaedic procurement levels in the first quarter of 2002.
The Company plans to resume distribution of orthopaedic tissues.
A new FDA 483 Notice of Observations ("February 2003 483") was issued in
connection with the FDA inspection in February 2003, but corrective action was
implemented on most of its observations during the inspection. The Company
believes the observations, most of which focus on the Company's systems for
handling complaints and validation of test methods, will not materially affect
the Company's operations. The Company responded to the February 2003 483 in
March 2003. The Company is currently communicating with the FDA to determine the
adequacy of its response to close out the February 2003 483.
After receiving the FDA Order the Company met with representatives of the FDA's
CDRH division regarding CDRH's review of the Company's processed allograft heart
valves, which are not subject to the FDA Order. On August 21, 2002 the FDA
publicly stated that allograft heart valves have not been included in the FDA
Order as these devices are essential for the correction of congenital cardiac
lesions in neonate and pediatric patients and no satisfactory alternative device
exists. However, the FDA also publicly stated that it then still had serious
concerns regarding the Company's processing and handling of allograft heart
valves. The FDA also recommended that surgeons carefully consider using
processed allografts from alternative sources, that surgeons inform prospective
patients of the FDA's concerns regarding the Company's allograft heart valves,
and that patients be carefully monitored for both fungal and bacterial
infections.
As a result of the adverse publicity surrounding the FDA Warning Letter, FDA
Order, and reported tissue infections, the Company's procurement of cardiac
tissues, from which heart valves and non-valved cardiac tissues are processed,
decreased 29% in the first quarter of 2003 as compared to the first quarter of
2002. The Company's first quarter 2003 procurement of cardiac tissues decreased
4% from fourth quarter of 2002. The Company has continued to process and
distribute heart valves since the receipt of the FDA Order, as these tissues are
not subject to the FDA Order.
During the first quarter of 2003 the Company limited its vascular procurement
until it addressed the observations detailed in the April 2002 483, and the
Company continues to limit its vascular procurement until it can fully evaluate
the demand for its vascular tissues. The Company's procurement of vascular
6
tissue decreased 65% in the first quarter of 2003 as compared to the first
quarter of 2002. The Company's first quarter 2003 procurement of vascular
tissues increased 25% from fourth quarter of 2002. The Company expects that
vascular procurement will continue to increase during 2003.
As a result of the FDA Order the Company recorded a reduction to pretax income
of $12.6 million in the quarter ended June 30, 2002. The reduction was comprised
of a net $8.9 million increase to cost of human tissue preservation services, a
$2.4 million reduction to revenues (and accounts receivable) for the estimated
return of the tissues subject to recall by the FDA Order, and a $1.3 million
accrual recorded in general, administrative, and marketing expenses for
retention levels under the Company's product liability and directors' and
officers' insurance policies of $1.2 million (see Note 12), and for estimated
expenses of $75,000 for packaging and handling for the return of affected
tissues under the FDA Order. The net increase of $8.9 million to cost of
preservation services was comprised of a $10.0 million write-down of deferred
preservation costs for tissues subject to the FDA Order, offset by a $1.1
million decrease in cost of preservation services due to the estimated tissue
returns resulting from the FDA Order (the costs of such recalled tissue are
included in the $10.0 million write-down). The Company evaluated many factors in
determining the magnitude of impairment to deferred preservation costs as of
June 30, 2002, including the impact of the FDA Order, the possibility of
continuing action by the FDA or other United States and foreign government
agencies, and the possibility of unfavorable actions by physicians, customers,
procurement organizations, and others. As a result of this evaluation,
management believed that since all non-valved cardiac, vascular, and orthopaedic
allograft tissues processed since October 3, 2001 were under recall pursuant to
the FDA Order, and since the Company did not know if it would obtain a favorable
resolution of its appeal and request for modification of the FDA Order, the
deferred preservation costs for tissues subject to the FDA Order had been
significantly impaired. The Company estimated that this impairment approximated
the full balance of the deferred preservation costs of the tissues subject to
the FDA Order, which included the tissues stored by the Company and the tissues
to be returned to the Company, and therefore recorded a write-down of $10.0
million for these assets.
In the quarter ended September 30, 2002 the Company recorded a reduction to
pretax income of $24.6 million as a result of the FDA Order. The reduction was
comprised of a net $22.2 million increase to cost of human tissue preservation
services, a $1.4 million write-down of goodwill, and a $1.0 million reduction to
revenues (and accounts receivable) for the estimated return of the tissues
shipped during the third quarter subject to recall by the FDA Order. The net
$22.2 million increase to cost of preservation services was comprised of a $22.7
million write-down of deferred preservation costs, offset by a $0.5 million
decrease in cost of preservation services due to the estimated and actual tissue
returns resulting from the FDA Order (the costs of such recalled tissue are
included in the $22.7 million write-down).
The Company evaluated multiple factors in determining the magnitude of
impairment to deferred preservation costs at September 30, 2002, including the
impact of the FDA Order, the possibility of continuing action by the FDA or
other United States and foreign government agencies, the possibility of
unfavorable actions by physicians, customers, procurement organizations, and
others, the progress made to date on the corrective action plan, and the
requirement in the Agreement that tissues subject to the FDA Order be replaced
with tissues processed under validated methods. As a result of this evaluation
management believed that all tissues subject to the FDA Order, as well as the
majority of tissues processed prior to October 3, 2001, including heart valves,
which were not subject to the FDA Order, were fully impaired. Management
believed that most of the Company's customers would only order tissues processed
after the September 5, 2002 Agreement or tissues processed under future
procedures approved by the FDA once those tissues were available. The Company
anticipated that the tissues processed under the Agreement would be available
early to mid-November. Thus, the Company recorded a write-down of deferred
preservation costs for processed tissues in excess of the supply required to
meet demand prior to the release of these interim processed tissues. In the
quarter ended March 31, 2003 the Company recorded a $297,000 increase to cost of
preservation services to write-down the value of certain deferred tissue
preservation costs that exceeded market value. As of March 31, 2003 the balance
of deferred preservation costs was $3.8 million for allograft heart valve
tissues, $379,000 for non-valved cardiac tissues, $3.1 million for vascular
tissues, and $344,000 for orthopaedic tissues.
As a result of the write-down of deferred preservation costs, the Company
recorded $6.3 million in income tax receivables and $4.5 million in deferred tax
assets as of December 31, 2002. Upon destruction or shipment of the remaining
tissues associated with the deferred preservation costs write-down, the deferred
tax asset will become deductible in the Company's tax return. An expected refund
of approximately $8.9 million related to 2002 federal income taxes will be
7
generated through a carry back of operating losses and write-downs of deferred
preservation costs. The Company filed its 2002 federal income tax returns in
April of 2003 and expects to receive its tax refund during the second quarter of
2003. In addition, the Company recorded $2.5 million in income tax receivables
as of December 31, 2002 related to estimated tax payments for 2002. The Company
received payment of the $2.5 million in January of 2003.
On September 3, 2002 the Company announced a reduction in employee force of
approximately 105 employees. In the third quarter of 2002 the Company recorded
accrued restructuring costs of approximately $690,000, for severance and related
costs of the employee force reduction. The expense was recorded in general,
administrative, and marketing expenses and was included as a component of
accrued expenses and other current liabilities on the Summary Consolidated
Balance Sheet. During the year ended December 31, 2002 the Company utilized
$580,000 of the accrued restructuring costs, including $505,000 for salary and
severance payments, $64,000 for placement services for affected employees, and
$11,000 in other related costs. During the quarter ended March 31, 2003 the
Company utilized $64,000 of the accrued restructuring costs, including $57,000
for salary and severance payments and $7,000 in other related costs. In March
2003 the Company reversed the remaining accrual of $46,000 in unused
restructuring costs, which was primarily due to lower than anticipated medical
claims costs for affected employees. The Company does not expect to incur any
additional restructuring costs associated with the employee force reduction.
In the quarter ended March 31, 2003 the Company recorded a favorable adjustment
of $848,000 to the estimated tissue recall returns due to lower actual tissue
returns under the FDA Order than were originally estimated in the second and
third quarters of 2002. The adjustment increased cardiac tissue revenues by
$92,000, vascular tissue revenues by $711,000, and orthopaedic tissue revenues
by $45,000 in the first quarter of 2003. As of March 31, 2003 approximately
$100,000 remains in the accrual for estimated return of tissues subject to
recall by the FDA Order.
The Company expects its liquidity to continue to decrease significantly over the
next year due to the anticipated significant decrease in revenues throughout at
least the first half of 2003 as compared to the prior year period, as a result
of reported tissue infections, the FDA Order and associated adverse publicity,
and an expected decrease in cash due to the anticipated increased legal and
professional costs relating to the defense of lawsuits (discussed in Note 12)
and ongoing FDA compliance. The Company believes that anticipated revenue
generation, expense management, savings resulting from the reduction in the
number of employees to reflect the reduction in revenues, tax refunds expected
to be approximately $8.9 million from loss carrybacks generated from operating
losses and write-downs of deferred preservation costs, and the Company's
existing cash and marketable securities will enable the Company to meet its
liquidity needs through at least March 31, 2004, even if the Term Loan (as
discussed in Note 5) is called in its entirety. There is no assurance that the
Company will be able to return to the level of demand for its tissue services
that existed prior to the FDA Order due to the adverse publicity or as a result
of customers and tissue banks switching to competitors. Failure of the Company
to maintain sufficient demand for its services would have a material adverse
effect on the Company's business, financial condition, results of operations,
and cash flows.
On February 20, 2003 the Company received a letter from the FDA stating that a
510(k) premarket notification should be filed for the Company's CryoValve SG and
that premarket approval marketing authorization should be obtained for the
Company's CryoVein SG when used for arteriovenous ("A-V") access. The agency's
position is that use of the SynerGraft technology in the processing of allograft
heart valves represents a modification to the Company's legally marketed
CryoValve allograft, and that femoral veins used for A-V access are medical
devices that require premarket approval. The FDA letter did not question the
safety or efficacy of the SynerGraft process or the CryoVein A-V access implant.
The FDA has advised the Company that its CryoValve SG and CryoVein SG used for
AV access will be regulated as medical devices. The Company is in discussions
with the FDA about the type of clearances necessary for these products. The
Company advised the FDA that it has voluntarily suspended use of the SynerGraft
technology in the processing of allograft heart valves and vascular tissue until
the regulatory status of the CryoValve SG and CryoVein SG is resolved. The FDA
has not suggested that these tissues be recalled. Until such time as the issues
surrounding the SynerGraft tissue are resolved, the Company will employ its
traditional processing methods on these tissues. Distribution of allograft heart
valves and vascular tissue processed using the Company's traditional processing
protocols will continue. The outcome of the discussions with the FDA regarding
8
the use of the SynerGraft process on human tissue could result in a reduction in
SynerGraft processed cardiovascular and vascular tissue which would reduce the
revenues and gross margins with respect to cardiovascular and vascular tissues.
NOTE 3 - CASH EQUIVALENTS AND MARKETABLE SECURITIES
The Company maintains cash equivalents, which consist primarily of highly liquid
investments with maturity dates of 90 days or less at the time of acquisition,
and marketable securities in several large, well-capitalized financial
institutions, and the Company's policy disallows investment in any securities
rated less than "investment-grade" by national rating services.
Management determines the appropriate classification of debt securities at the
time of purchase and reevaluates such designations as of each balance sheet
date. Debt securities are classified as held-to-maturity when the Company has
the positive intent and ability to hold the securities to maturity.
Held-to-maturity securities are stated at amortized cost. Debt securities not
classified as held-to-maturity or trading and marketable equity securities not
classified as trading are classified as available-for-sale. At March 31, 2003
and December 31, 2002 all marketable equity securities and debt securities were
designated as available-for-sale.
Available-for-sale securities are stated at their fair values, with the
unrealized gains and losses, net of tax, reported in a separate component of
shareholders' equity. Interest income, dividends, realized gains and losses, and
declines in value judged to be other than temporary are included in investment
income. The cost of securities sold is based on the specific identification
method.
The following is a summary of cash equivalents and marketable securities (in
thousands):
Unrealized Estimated
Holding Market
March 31, 2003 Cost Basis Gains/(Losses) Value
------------------------------------------------
Cash equivalents:
Money market funds $ 103 -- $ 103
Municipal obligations 2,200 -- 2,200
------------------------------------------------
$ 2,303 $ -- $ 2,303
================================================
Marketable securities:
Municipal obligations $ 13,071 $ 256 $ 13,327
================================================
Unrealized Estimated
Holding Market
December 31, 2002 Cost Basis Gains/(Losses) Value
------------------------------------------------
Cash equivalents:
Money market funds $ 52 $ -- $ 52
Municipal obligations 7,175 -- 7,175
------------------------------------------------
$ 7,227 $ -- $ 7,227
================================================
Marketable securities:
Municipal obligations $ 14,276 $ 307 $ 14,583
================================================
Differences between cost and market listed above, consisting of a net unrealized
holding gain less deferred taxes of $87,000 at March 31, 2003 and $104,000 as of
December 31, 2002, are included in the accumulated other comprehensive income
account of shareholders' equity.
The marketable securities of $13.3 million on March 31, 2003 and $14.6 million
on December 31, 2002 had maturity dates as follows: approximately $2.0 million
and $1.2 million, respectively, had a maturity date of less than 90 days,
approximately $8.0 million and $8.0 million, respectively, had a maturity date
between 90 days and 1 year, and approximately $3.3 million and $5.4 million,
respectively, had a maturity date between 1 and 5 years.
9
NOTE 4 - INVENTORIES
Inventories are comprised of the following (in thousands):
March 31, December 31,
2003 2002
-------------------------------
(Unaudited)
Raw materials $ 2,542 $ 2,341
Work-in-process 388 306
Finished goods 1,773 1,938
-------------------------------
$ 4,703 $ 4,585
===============================
NOTE 5 - DEBT
On April 25, 2000 the Company entered into a loan agreement permitting the
Company to borrow up to $8 million under a line of credit during the expansion
of the Company's corporate headquarters and manufacturing facilities. Borrowings
under the line of credit accrued interest equal to Adjusted LIBOR plus 2%
adjusted monthly. On June 1, 2001 the line of credit was converted to a term
loan (the "Term Loan") to be paid in 60 equal monthly installments of principal
plus interest computed at Adjusted LIBOR plus 1.5% (2.84% at March 31, 2003). At
March 31, 2003 the principal balance of the Term Loan was $5.2 million. The Term
Loan is secured by substantially all of the Company's assets. The Term Loan
contains certain restrictive covenants including, but not limited to,
maintenance of certain financial ratios, a minimum tangible net worth
requirement, and the requirement that no materially adverse event has occurred.
The lender has notified the Company that the FDA Order, as described in Note 2,
and the inquiries of the SEC, as described in the Company's Form 10-K for the
year ended December 31, 2002, as amended, have had a material adverse effect on
the Company that constitutes an event of default. Additionally, as of March 31,
2003, the Company is in violation of the debt coverage ratio and net worth
financial covenants. As of April 30, 2003 the lender has elected not to declare
an event of default, but reserves the right to exercise any such right under the
terms of the Term Loan. Therefore, all amounts due under the Term Loan as of
March 31, 2003 are reflected as a current liability on the Summary Consolidated
Balance Sheets.
NOTE 6 - DERIVATIVES
The Company's Term Loan, which accrues interest computed at Adjusted LIBOR plus
1.5%, exposes the Company to changes in interest rates going forward. On March
16, 2000 the Company entered into a $4.0 million notional amount
forward-starting interest swap agreement, which took effect on June 1, 2001 and
expires in 2006. This swap agreement was designated as a cash flow hedge to
effectively convert a portion of the Term Loan balance to a fixed rate basis,
thus reducing the impact of interest rate changes on future income. This
agreement involves the receipt of floating rate amounts in exchange for fixed
rate interest payments over the life of the agreement, without an exchange of
the underlying principal amounts. The differential to be paid or received is
recognized in the period in which it accrues as an adjustment to interest
expense on the Term Loan.
On January 1, 2001 the Company adopted SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133") as amended. SFAS 133 requires
the Company to recognize all derivative instruments on the balance sheet at fair
value, and changes in the derivative's fair value must be recognized currently
in earnings or other comprehensive income, as applicable. The adoption of SFAS
133 impacts the accounting for the Company's forward-starting interest rate swap
agreement. Upon adoption of SFAS 133, the Company recorded an unrealized loss of
approximately $175,000 related to the interest rate swap, which was recorded as
part of long-term liabilities and accumulated other comprehensive income as the
cumulative effect of adopting SFAS 133 within the Statement of Shareholders'
Equity.
In August 2002 the Company determined that changes in the derivative's fair
value could no longer be recorded in other comprehensive income, as a result of
the uncertainty of future cash payments on the Term Loan caused by the lender's
ability to declare an event of default as discussed in Note 5. Beginning in
August 2002 the Company records all changes in the fair value of the derivative
10
currently in other expense/income on the Summary Consolidated Statements of
Operations, and is amortizing the amounts previously recorded in other
comprehensive income into other expense/income over the remaining life of the
agreement. If the lender accelerates the payments due under the Term Loan by
declaring an event of default, any remaining balance in other comprehensive
income will be reclassed into other expense/income during that period.
At March 31, 2003 the notional amount of this swap agreement was $2.6 million,
and the fair value of the interest rate swap agreement, as estimated by the bank
based on its internal valuation models, was a liability of $252,000. The fair
value of the swap agreement is recorded as part of short-term liabilities. For
the three months ended March 31, 2003 the Company recorded a loss of $19,000 on
the interest rate swap. The unamortized value of the swap agreement, recorded in
the accumulated other comprehensive income account of shareholders' equity, was
$241,000 at March 31, 2003.
NOTE 7 - COMPREHENSIVE (LOSS) INCOME
The following is a summary of comprehensive (loss) income (in thousands):
March 31,
------------------------------
2003 2002
------------------------------
(Unaudited)
Net (loss) income $ (434) $ 3,104
Unrealized loss on investments (34) (86)
Change in fair value of interest rate swap
(including cumulative effect of adopting
SFAS 133 in 2001) 13 8
Translation adjustment (158) (33)
------------------------------
Comprehensive (loss) income $ (613) $ 2,993
==============================
The tax effect on the change in unrealized gain/loss on investments is $17,000
and $39,000 for the three months ended March 31, 2003 and 2002, respectively.
The tax effect on the change in fair value of the interest rate swap is an
expense of $6,000 and a benefit of $5,000 for the three months ended March 31,
2003 and 2002, respectively. The tax effect on the translation adjustment is
$110,000 and zero for the three months ended March 31, 2003 and 2002,
respectively.
11
NOTE 8 - (LOSS) EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted (loss)
earnings per share (in thousands, except per share data):
Three Months Ended
March 31,
-------------------------------
2003 2002
-------------------------------
(Unaudited)
Numerator for basic and diluted earnings
per share - (loss) income available to
common shareholders $ (434) $ 3,104
===============================
Denominator for basic earnings per share -
weighted-average basis 19,634 19,096
Effect of dilutive stock options -- 700
-------------------------------
Denominator for diluted earnings per share -
adjusted weighted-average shares 19,634 19,796
===============================
(Loss) earnings per share:
Basic $ (0.02) $ 0.16
===============================
Diluted $ (0.02) $ 0.16
===============================
The effect of stock options of 364,000 shares for the three months ended March
31, 2003, was excluded from the calculation because this amount is antidilutive
for the period presented.
On July 23, 2002 the Company's Board of Directors authorized the purchase of up
to $10 million of its common stock. As of August 13, 2002 the Company had
repurchased 68,000 shares of its common stock for $663,000. No further purchases
are anticipated in the near term.
NOTE 9 - STOCK-BASED COMPENSATION
On December 31, 2002 the Company was required to adopt SFAS No. 148, "Accounting
for Stock-Based Compensation - Transition and Disclosure" ("SFAS 148"). SFAS 148
amends SFAS No. 123, "Accounting for Stock-Based Compensation" to provide
alternative methods of transition for companies that voluntarily elect to adopt
the fair value recognition and measurement methodology prescribed by SFAS 123.
In addition, regardless of the method a company elects to account for
stock-based compensation arrangements, SFAS 148 requires additional disclosures
in the footnotes of both interim and annual financial statements regarding the
method the company uses to account for stock-based compensation and the effect
of such method on the Company's reported results. The adoption of SFAS 148 did
not have a material effect on the financial position, results of operations, and
cash flows of the Company.
The Company has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" and related interpretations ("APB
25") in accounting for its employee stock options because, as discussed below,
the alternative fair value accounting provided for under SFAS 123 requires use
of option valuation models that were not developed for use in valuing employee
stock options. Under APB 25, because the exercise price of the Company's
employee stock options equals the market price of the underlying stock on the
date of the grant, no compensation expense is recognized.
Pro forma information regarding net income and earnings per share is required by
SFAS 123, which requires that the information be determined as if the Company
has accounted for its employee stock options granted under the fair value method
of that statement. The fair values for these options were estimated at the dates
of grant using a Black-Scholes option pricing model with the following
weighted-average assumptions:
12
Three Months Ended
March 31,
-------------------------------
2003 2002
-------------------------------
(Unaudited)
Expected dividend yield 0% 0%
Expected stock price volatility .617 .630
Risk-free interest rate 2.49% 3.67%
Expected life of options 4.0 Years 5.3 Years
The Black-Scholes option valuation model was developed for use in estimating the
fair value of traded options which have no vesting restrictions and are fully
transferable. In addition option valuation models require the input of highly
subjective assumptions, including the expected stock price volatility. Because
the Company's employee stock options have characteristics significantly
different from those of traded options and because changes in the subjective
input assumptions can materially affect the fair value estimate, in management's
opinion, the existing models do not necessarily provide a reliable single
measure of the fair value of its employee stock options.
For purposes of pro forma disclosures, the estimated fair values of the options
are amortized to expense over the options' vesting periods. The Company's pro
forma information follows (in thousands, except per share data):
Three Months Ended
March 31,
-------------------------------
2003 2002
-------------------------------
(Unaudited)
Net (loss) income--as reported $ (434) $ 3,104
Deduct: Total stock-based employee
compensation expense determined under
the fair value based method for all awards,
net of tax 128 160
-------------------------------
Net (loss) income--pro forma $ (562) $ 2,944
==============================
(Loss) earnings per share--as reported:
Basic $ (0.02) $ 0.16
===============================
Diluted $ (0.02) $ 0.16
===============================
(Loss) earnings per share--proforma:
Basic $ (0.03) $ 0.15
===============================
Diluted $ (0.03) $ 0.15
===============================
NOTE 10 - ACCOUNTING PRONOUNCEMENTS
The Company was required to adopt SFAS No. 143, "Accounting for Asset Retirement
Obligations" ("SFAS 143") on January 1, 2003. SFAS 143 addresses accounting and
reporting for retirement costs of long-lived assets resulting from legal
obligations associated with acquisition, construction, or development
transactions. The adoption of SFAS 143 did not have a material effect on the
results of operations or financial position of the Company.
The Company was required to adopt SFAS No. 145, "Rescission of FASB Statements
4, 44 and 64, Amendment to FASB Statement 13, and Technical Corrections" ("SFAS
145"), on January 1, 2003. SFAS 145 rescinds SFAS No. 4, 44 and 64, which
required gains and losses from extinguishments of debt to be classified as
extraordinary items. SFAS 145 also amends SFAS No. 13 eliminating
inconsistencies in certain sale-leaseback transactions. The provisions of SFAS
145 are effective for fiscal years beginning after May 15, 2002. The adoption of
SFAS 145 did not have a material effect on the results of operations or
financial position of the Company.
13
The Company was required to adopt SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities" ("SFAS 146") on January 1, 2003. SFAS 146
requires that costs associated with exit or disposal activities be recorded at
their fair values when a liability has been incurred. Under previous guidance,
certain exit costs were accrued upon management's commitment to an exit plan,
which is generally before an actual liability has been incurred. The adoption of
SFAS 146 did not have a material effect on the results of operations or
financial position of the Company.
NOTE 11 - SEGMENT INFORMATION
The Company has two reportable segments: Human Tissue Preservation Services and
Implantable Medical Devices. The Company's segments are organized according to
services and products.
The HUMAN TISSUE PRESERVATION SERVICES segment includes external revenue from
cryopreservation services of cardiac, vascular, and orthopaedic allograft
tissues. The IMPLANTABLE MEDICAL DEVICES segment includes external revenue from
product sales of BioGlue Surgical Adhesive, bioprosthetic devices, including
stentless porcine heart valves, SynerGraft treated porcine heart valves, and
SynerGraft treated bovine vascular grafts, and Cerasorb(R) Ortho bone graft
substitute. There are no intersegment revenues.
The primary measure of segment performance, as viewed by the Company's
management, is segment gross margin, or net external revenues less cost of
preservation services and products. The Company does not segregate assets by
segment, therefore asset information is excluded from the segment disclosures
below.
The following table summarizes revenues, cost of preservation services and
products, and gross margins for the Company's operating segments (in thousands):
Three Months Ended
March 31
-------------------------------
2003 2002
-------------------------------
(Unaudited)
Revenue:
Human tissue preservation services 9,130 20,238
Implantable medical devices 6,599 5,065
All other(a) 191 168
-------------------------------
$ 15,920 $ 25,471
-------------------------------
Cost of Preservation Services and Products:
Human tissue preservation services 2,443 8,063
Implantable medical devices 1,641 2,235
All other(a) -- --
-------------------------------
4,084 10,298
-------------------------------
Gross Margin (Loss):
Human tissue preservation services 6,687 12,175
Implantable medical devices 4,958 2,830
All other(a) 191 168
-------------------------------
$ 11,836 $ 15,173
-------------------------------
- ----------
(a) The "All other" designation includes 1) grant revenue and 2) distribution
revenue.
14
The following table summarizes net revenues by product (in thousands):
Three Months Ended
March 31
-------------------------------
2003 2002
-------------------------------
(Unaudited)
Revenue:
Human tissue preservation services:
Cardiovascular tissue $ 4,725 $ 7,307
Vascular tissue 4,255 7,017
Orthopaedic tissue 150 5,914
-------------------------------
Total preservation services 9,130 20,238
-------------------------------
BioGlue surgical adhesive 6,494 4,873
Other implantable medical devices 105 192
Distribution and grant 191 168
-------------------------------
$ 15,920 $ 25,471
===============================
NOTE 12 - COMMITMENTS AND CONTINGENCIES
In the normal course of business as a medical device and services company, the
Company has product liability complaints filed against it. As of April 28, 2003
twenty-three cases were open that were filed against the Company between May 18,
2000 and April 14, 2003. The cases are currently in the pre-discovery or
discovery stages. Of these cases, 15 allege product liability claims arising out
of the Company's orthopaedic tissue services, seven allege product liability
claims arising out of the Company's allograft heart valve tissue services, and
one alleges product liability claims arising out of the non-tissue products made
by Ideas for Medicine, when it was a subsidiary of the Company.
On March 31, 2003 the Company announced that a settlement has been reached in
the lawsuit brought against the Company by the estate of Brian Lykins. The
complaint filed against the Company in the Superior Court of Cobb County,
Georgia, on July 12, 2002 by Steve Lykins, as Trustee for the benefit of next of
kin of Brian Lykins alleged strict liability, negligence, and breach of
warranties related to tissue implanted in November 2001. In addition to this
lawsuit, three other lawsuits have been dismissed or were settled during the
first quarter of 2003. The total settlements involved in these cases including
amounts paid by the Company and its insurer were less than 10% of total current
assets at March 31, 2003.
The Company maintains claims-made insurance policies, which the Company believes
to be adequate to defend against these suits. The Company's insurance company
has been notified of these actions. The Company intends to vigorously defend
against these claims. Nonetheless, an adverse judgment or judgments imposing
aggregate liabilities in excess of the Company's insurance coverage could have a
material adverse effect on the Company's financial position, results of
operations, and cash flows.
Claims-made insurance policies cover only those asserted claims and incidents
that are reported to the insurance carrier while the policy is in effect. Thus,
a claims-made policy does not represent a transfer of risk for claims and
incidents that have been incurred but not reported to the insurance carrier. The
Company periodically evaluates its exposure to unreported product liability
claims, and records accruals as necessary for the estimated cost of unreported
claims related to services performed and products sold. As of December 31, 2002
the Company accrued $3.6 million in estimated costs for unreported product
liability claims related to services performed and products sold prior to
December 31, 2002. The expense was recorded in 2002 in general, administrative,
and marketing expenses and was included as a component of accrued expenses and
other current liabilities on the Summary Consolidated Balance Sheets. As of
March 31, 2003 the accrual for unreported product liability claims remained
unchanged for services performed and products sold prior to March 31, 2003.
The Company has concluded that it is probable that it will incur losses relating
to asserted claims and pending litigation of at least $1.2 million, which
represents the aggregate amount of the Company's retention under its product
15
liability and directors' and officers' insurance policies. Therefore, the
Company recorded an accrual of $1.2 million during 2002. As of March 31, 2003
the remaining accrual for the retention levels decreased to $750,000 due to
required insurance retention payments made related to legal settlements reached
during the first quarter of 2003.
Several putative class action lawsuits were filed in July through September 2002
against the Company and certain officers of the Company, alleging that the
defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of
1934 and Rule 10b-5 promulgated thereunder by issuing a series of purportedly
materially false and misleading statements to the market. During the third
quarter of 2002 the Court consolidated the suits, and on November 14, 2002 lead
plaintiffs and lead counsel were named. A consolidated complaint was filed on
January 15, 2003, seeking the Court's certification of the litigation as a class
action on behalf of all purchasers of the Company's stock between April 2, 2001
and August 14, 2002. The principal allegations of the consolidated complaint are
that the Company failed to disclose its alleged lack of compliance with certain
FDA regulations regarding the handling and processing of certain tissues and
other product safety matters. In the consolidated complaint, plaintiffs seek to
recover compensatory damages and various fees and expenses of litigation,
including attorneys' fees. The Company and the other defendants filed a motion
to dismiss the consolidated complaint on February 28, 2003 which remains pending
before the Court. The Company carries directors' and officers' liability
insurance policies, which the Company believes to be adequate to defend against
this action. Nonetheless, an adverse judgment in excess of the Company's
insurance coverage could have a material adverse effect on the Company's
financial position, results of operations, and cash flows.
On August 30, 2002 a purported shareholder derivative action was filed by
Rosemary Lichtenberger against Steven G. Anderson, Albert E. Heacox, John W.
Cook, Ronald C. Elkins, Virginia C. Lacy, Ronald D. McCall, Alexander C.
Schwartz, and Bruce J. Van Dyne in the Superior Court of Gwinnett County,
Georgia. The suit, which names the Company as a nominal defendant, alleges that
the individual defendants breached their fiduciary duties to the Company by
causing or allowing the Company to engage in certain inappropriate practices
that caused the Company to suffer damages. The complaint was preceded by one day
by a letter written on behalf of Ms. Lichtenberger demanding that the Company's
Board of Directors take certain actions in response to her allegations. On
January 16, 2003 another purported derivative suit alleging claims similar to
those of the Lichtenberger suit was filed in the Superior Court of Fulton County
by complainant Robert F. Frailey. As in the Lichtenberger suit, the filing of
the complaint in the Frailey action was preceded by a purported demand letter
sent on Frailey's behalf to the Company's Board of Directors. Both complaints
seek undisclosed damages, costs and attorney's fees, punitive damages and
prejudgment interest against the individual defendants derivatively on behalf of
the Company. The Company's Board of Directors has established an independent
committee to investigate the allegations of Ms. Lichtenberger and Mr. Frailey.
The independent committee has engaged independent legal counsel to assist in the
investigation and that investigation is currently proceeding.
NOTE 13 - SUBSEQUENT EVENTS
On April 11, 2003 the Company entered into an agreement to finance $1.4 million
in insurance premiums associated with the yearly renewal of certain of the
Company's insurance policies. The amount financed accrues interest at a 3.75%
rate and is payable in equal monthly payments over a nine month period.
16
PART I - FINANCIAL INFORMATION
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
RECENT EVENTS
On February 5, 2003 the Company announced that it had signed an exclusive
agreement with curasan AG, located in Germany, for United States distribution of
Cerasorb(R) Ortho, curasan's resorbable bone graft substitute. The five-year
agreement gives CryoLife exclusive rights to market Cerasorb Ortho for all
non-spine, non-dental orthopaedic indications such as trauma, general, and
sports medicine. Cerasorb, a resorbable, beta-tricalcium phosphate bone
regeneration material, was first introduced in Germany in 1998 for dental use.
The product captured approximately 60% of the synthetic dental bone regeneration
market in Germany within four years. In 2001 curasan received CE Mark
certification for Cerasorb's use in general orthopaedics, and in 2002 received
FDA 510(k) approval for orthopaedic use. The Company anticipates that the United
States market for bone grafts and substitutes for which it can distribute
Cerasorb is approximately $140 million annually.
A new FDA 483 Notice of Observations was issued in connection with the FDA
inspection in February of 2003, but corrective action was implemented on most of
its observations during the inspection. The Company believes the observations,
most of which focus on the Company's systems for handling complaints and
validation of test methods, will not materially affect the Company's operations.
If the Company is unable to satisfactorily respond to the FDA's observations
contained in this notice, the FDA could take further action, which could have a
material adverse effect on the Company's business, results of operations,
financial position, or cash flows. The Company resumed limited processing of
orthopaedic tissues in late February 2003 following the FDA inspection. The
Company plans to resume distribution of orthopaedic tissues.
On February 20, 2003 the Company received a letter from the FDA stating that a
510(k) premarket notification should be filed for the Company's CryoValve SG and
that premarket approval marketing authorization should be obtained for the
Company's CryoVein SG when used for arteriovenous ("A-V") access. The agency's
position is that use of the SynerGraft technology in the processing of allograft
heart valves represents a modification to the Company's legally marketed
CryoValve allograft, and that femoral veins used for A-V access are medical
devices that require premarket approval. The FDA letter did not question the
safety or efficacy of the SynerGraft process or the CryoVein A-V access implant.
The FDA has advised the Company that its CryoValve SG and CryoVein SG used for
AV access will be regulated as medical devices. The Company is in discussions
with the FDA about the type of clearances necessary for these products. The
Company has voluntarily suspended use of the SynerGraft technology in the
processing of allograft heart valves and vascular tissue until the regulatory
status of the CryoValve SG and CryoVein SG is resolved. The FDA has not
suggested that these tissues be recalled. Until such time as the issues
surrounding the SynerGraft tissue are resolved, the Company will employ its
traditional processing methods on these tissues. Distribution of allograft heart
valves and vascular tissue processed using the Company's traditional processing
protocols will continue. The outcome of the discussions with the FDA regarding
the use of the SynerGraft process on human tissue could result in a reduction in
SynerGraft processed cardiovascular and vascular tissue which would reduce the
revenues and gross margins with respect to cardiovascular and vascular tissues.
Considering additional costs associated with processing SynerGraft cardiac and
vascular tissues, the potential net financial impact from not utilizing the
SynerGraft technology in cardiac and vascular tissue processing is estimated to
be approximately 10% of the cardiac and vascular revenues derived from
SynerGraft processing.
On March 31, 2003 the Company announced that a settlement has been reached in
the lawsuit brought against the Company by the estate of Brian Lykins. See Part
II, Item 1 "Legal Proceedings" for further discussion.
CRITICAL ACCOUNTING POLICIES
A summary of the Company's significant accounting policies is included in Note 1
to the consolidated financial statements, as filed in the Form 10-K for the
fiscal year ended December 31, 2002, as amended. Management believes that the
consistent application of these policies enables the Company to provide users of
17
the financial statements with useful and reliable information about the
Company's operating results and financial condition. The consolidated financial
statements are prepared in accordance with accounting principles generally
accepted in the United States, which require the Company to make estimates and
assumptions. The following are accounting policies that management believes are
most important to the portrayal of the Company's financial condition and results
and may involve a higher degree of judgment and complexity.
DEFERRED PRESERVATION COSTS: Tissue is procured from deceased human donors by
organ and tissue procurement agencies, which consign the tissue to the Company
for processing and preservation. Preservation costs related to tissue held by
the Company are deferred until revenue is recognized upon shipment of the tissue
to the implanting facilities. Deferred preservation costs consist primarily of
laboratory and personnel expenses, tissue procurement fees, fringe benefits,
facility allocations, and freight-in charges, and are stated at the lower of
cost or market, net of reserve, on a first-in, first-out basis.
As of March 31, 2003 the balance of deferred preservation costs was $3.8 million
for allograft heart valve tissues, $379,000 for non-valved cardiac tissues, $3.1
million for vascular tissues, and $344,000 for orthopaedic tissues. During 2002
the Company recorded a write-down of deferred preservation costs of $8.7 million
for valved cardiac tissues, $2.9 million for non-valved cardiac tissues, $11.9
million for vascular tissues, and $9.2 million for orthopaedic tissue totaling
$32.7 million. These write-downs were recorded as a result of the FDA Order as
discussed at Note 2 to the Summary Consolidated Financial Statements in this
Form 10-Q. The amount of these write-downs reflects managements' estimates based
on information available to it at the time the estimates were made. These
estimates may prove inaccurate, as the scope and impact of the FDA Order are
determined. Management continues to evaluate the recoverability of these
deferred preservation costs based on the factors discussed in Note 2 to Summary
Consolidated Financial Statements and will record additional write-downs if it
becomes clear that additional impairments have occurred. The write-down created
a new cost basis which cannot be written back up if these tissues become
shippable. The cost of human tissue preservation services may be favorably
impacted depending on the future level of tissue shipments related to previously
written-down deferred preservation costs. The shipment levels of these
written-down tissues will be affected by the amount and timing of the release of
tissues processed after September 5, 2002, as a result of the Agreement with the
FDA, since, under the Agreement, written-down tissues may be shipped if tissues
processed after September 5, 2002 are not available for shipment.
VALUATION OF LONG-LIVED AND INTANGIBLE ASSETS AND GOODWILL: The Company assesses
the impairment of its long-lived, identifiable intangible assets and related
goodwill annually and whenever events or changes in circumstances indicate that
the carrying value may not be recoverable. Factors that management considers
important that could trigger an impairment review include the following:
o Significant underperformance relative to expected historical or
projected future operating results;
o Significant negative industry or economic trends;
o Significant decline in the Company's stock price for a sustained
period; and
o Significant decline in the Company's market capitalization relative to
net book value.
Statement of Financial Accounting Standards No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets" ("SFAS 144"), requires the
write-down of a long-lived asset to be held and used if the carrying value of
the asset or the asset group to which the asset belongs is not recoverable. The
carrying value of the asset or asset group is not recoverable if it exceeds the
sum of the undiscounted future cash flows expected to result from the use and
eventual disposition of the asset or asset group. In applying SFAS 144, the
Company defined the specific asset groups used to perform the cash flow
analysis. The Company defined the asset groups at the lowest level possible, by
identifying the cash flows from groups of assets that could be segregated from
the cash flows of other assets and liabilities. Using this methodology, the
Company determined that its asset groups consisted of the long-lived assets
related to the Company's two reporting segments. The Company used a
fourteen-year period for the undiscounted future cash flows. This period of time
was selected based upon the remaining life of the primary assets of the asset
groups, which are leasehold improvements. The undiscounted future cash flows
related to these asset groups exceeded their carrying values as of March 31,
2003 and therefore management has concluded that there is not an impairment of
the Company's long-lived intangible assets and tangible assets related to the
18
tissue preservation business or medical device business. However, depending on
the Company's ability to rebuild demand for its tissue preservation services,
the outcome of discussions with the FDA regarding the shipping of orthopaedic
tissues, and the future effects of adverse publicity surrounding the FDA Order
and reported infections on preservation revenues, these assets may become
impaired. Management will continue to evaluate the recoverability of these
assets in accordance with SFAS 144.
Beginning with the Company's adoption of Statement of Financial Accounting
Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142")
on January 1, 2002 the goodwill resulting from business acquisitions is not
amortized, but is instead subject to periodic impairment testing in accordance
with SFAS 142. Patent costs are amortized over the expected useful lives of the
patents (primarily 17 years) using the straight-line method. Other intangibles,
which consist primarily of manufacturing rights and agreements, are amortized
over the expected useful lives of the related assets (primarily five years). As
a result of the FDA Order, the Company determined that an evaluation of the
possible impairment of intangible assets under SFAS 142 was necessary. The
Company engaged an independent valuation expert to perform the valuation using a
discounted cash flow methodology, and as a result of this analysis, the Company
determined that goodwill related to its tissue processing reporting unit was
fully impaired as of September 30, 2002. Therefore, the Company recorded a
write-down of $1.4 million in goodwill during the quarter ended September 30,
2002. Management does not believe an impairment exists related to the other
intangible assets that were assessed in accordance with SFAS No. 144,
"Accounting for the Impairment or Disposal of Long-Lived Assets" ("SFAS 144").
PRODUCT LIABILITY CLAIMS: In the normal course of business as a medical device
and services company, the Company has product liability complaints filed against
it. The Company maintains claims-made insurance policies to mitigate its
financial exposure to product liability claims. Claims-made insurance policies
cover only those asserted claims and incidents that are reported to the
insurance carrier while the policy is in effect. Thus, a claims-made policy does
not represent a transfer of risk for claims and incidents that have been
incurred but not reported to the insurance carrier. The Company periodically
evaluates its exposure to unreported product liability claims, and records
accruals as necessary for the estimated cost of unreported claims related to
services performed and products sold. As of December 31, 2002 the Company had
accrued $3.6 million in estimated costs for unreported product liability claims
related to services performed and products sold prior to December 31, 2002. The
Company engaged an independent actuarial firm to perform an analysis of the
unreported product claims as of December 31, 2002. The independent firm
estimated the unreported product loss liability using a frequency-severity
approach, whereas, projected losses were calculated by multiplying the estimated
number of claims by the estimated average cost per claim. The estimated claims
were calculated based on the reported claim development method and the
Bornhuetter-Ferguson method using a blend of the Company's historical claim
emergence and industry data. The estimated cost per claim was calculated using a
lognormal claims model blending the Company's historical average cost per claim
with industry claims data. The expense was recorded in 2002 in general,
administrative, and marketing expenses and was included as a component of
accrued expenses and other current liabilities on the Summary Consolidated
Balance Sheet. As of March 31, 2003 the accrual for unreported product liability
claims remained unchanged for services performed and products sold prior to
March 31, 2003. The Company believes that the accrual for unreported product
liability claims in addition to the product liability insurance renewal
effective as of April 1, 2003 is adequate to cover product liability complaints
filed against it. The Company's product liability insurance coverage may have a
favorable impact on future accruals for unreported product liability claims.
NEW ACCOUNTING PRONOUNCEMENTS
The Company was required to adopt SFAS No. 143, "Accounting for Asset Retirement
Obligations" ("SFAS 143") on January 1, 2003. SFAS 143 addresses accounting and
reporting for retirement costs of long-lived assets resulting from legal
obligations associated with acquisition, construction, or development
transactions. The adoption of SFAS 143 did not have a material effect on the
results of operations or financial position of the Company.
The Company was required to adopt SFAS No. 145, "Rescission of FASB Statements
4, 44 and 64, Amendment to FASB Statement 13, and Technical Corrections" ("SFAS
145"), on January 1, 2003. SFAS 145 rescinds SFAS No. 4, 44 and 64, which
required gains and losses from extinguishments of debt to be classified as
extraordinary items. SFAS 145 also amends SFAS No. 13 eliminating
19
inconsistencies in certain sale-leaseback transactions. The provisions of SFAS
145 are effective for fiscal years beginning after May 15, 2002. The adoption of
SFAS 145 did not have a material effect on the results of operations or
financial position of the Company.
The Company was required to adopt SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities" ("SFAS 146") on January 1, 2003. SFAS 146
requires that costs associated with exit or disposal activities be recorded at
their fair values when a liability has been incurred. Under previous guidance,
certain exit costs were accrued upon management's commitment to an exit plan,
which is generally before an actual liability has been incurred. The adoption of
SFAS 146 did not have a material effect on the results of operations or
financial position of the Company.
RESULTS OF OPERATIONS
(IN THOUSANDS)
REVENUES
Three Months Ended
March 31,
-------------------------------
2003 2002
-------------------------------
Revenues as reported $ 15,920 $ 25,471
Adjustment to estimated tissue recall returns 848 --
-------------------------------
Revenues prior to adjustment to estimated
tissue recall returns (a) $ 15,072 $ 25,471
===============================
Revenues as reported decreased 37% for the three months ended March 31, 2003 as
compared to the three months ended March 31, 2002. Revenues as reported include
$848,000 in favorable adjustments to the estimated tissue recall returns due to
lower actual tissue returns under the FDA Order than were originally estimated.
As of March 31, 2003 approximately $100,000 remains in the accrual for estimated
return of tissues subject to recall by the FDA Order. Revenues prior to the
adjustment to estimated tissue recall returns decreased 41% for the three months
ended March 31, 2003 as compared to the three months ended March 31, 2002. This
decrease in revenues was primarily due to a 59% decrease in human tissue
preservation service revenues as a result of the FDA Order's restriction on
shipments of certain tissues, the Company's cessation of orthopaedic processing,
and decreased demand as a result of the adverse publicity surrounding the FDA
Order, FDA Warning Letter, and reported tissue infections, partially offset by a
33% increase in BioGlue(R) Surgical Adhesive revenues due to increased demand
for the three months ended March 31, 2003.
Management believes that a decrease in revenues as compared to prior year
periods will continue at least through the first half of 2003, although the
ongoing corrective actions taken by the Company regarding the FDA issues and the
anticipated resolution of the FDA issues should assist the Company in rebuilding
demand for its preservation services. In the event the Company is not successful
in rebuilding demand for its preservation services, future revenues can be
expected to decrease significantly as compared to historical levels. As
discussed in Note 2 to the Summary Consolidated Financial Statements, the
outcome of the discussions with the FDA regarding the use of the SynerGraft
process on human tissue could result in a reduction in SynerGraft processed
cardiovascular and vascular tissue which would reduce revenue and the gross
margins with respect to cardiovascular and vascular tissues.
- --------
(a) The measurement "revenues prior to adjustment to estimated tissue recall
returns" may be deemed to be a "non-GAAP" financial measure as that term is
defined in Regulation G and Item 10(e) of Regulation S-K and is included for
informational purposes to provide information comparable to revenues in prior
periods. Presentation of revenues excluding such adjustment might mislead
investors with respect to the magnitude of the Company's revenues, since the
"adjustment to estimated tissue recall returns" included in "revenues as
reported" does not represent revenues earned from actual tissues shipped during
the period.
20
BIOGLUE SURGICAL ADHESIVE
Three Months Ended
March 31,
-------------------------------
2003 2002
-------------------------------
Revenues as reported $ 6,494 $ 4,873
BioGlue revenues as reported as a
percentage of total revenue as reported 41% 19%
BioGlue revenues as reported as a
percentage of total revenue prior to adjustment
to estimated tissue recall returns(a) 43% 19%
Revenues from the sale of BioGlue Surgical Adhesive increased 33% for the three
months ended March 31, 2003 as compared to the three months ended March 31,
2002. The increase in revenues for the three months ended March 31, 2003 was due
to a 23% increase in the amount of BioGlue cartridges and delivery devices
shipped due to an increase in demand and a 10% increase in the average selling
price of the BioGlue cartridges and delivery devices shipped. Domestic revenues
accounted for 79% and 80% of total BioGlue revenues for the three months ended
March 31, 2003 and 2002, respectively.
Although BioGlue revenue increased as compared to the prior year and BioGlue was
not included in the FDA Order, future sales of BioGlue could be adversely
affected due to the adverse publicity surrounding the FDA's review of and
correspondence with the Company. Additionally, there is a possibility that the
Company's BioGlue manufacturing operations could come under increased scrutiny
from the FDA as a result of their review of the Company's tissue processing
laboratories.
CARDIOVASCULAR PRESERVATION SERVICES
Three Months Ended
March 31,
-------------------------------
2003 2002
-------------------------------
Revenues as reported $ 4,725 $ 7,307
Adjustment to estimated tissue recall returns 92 --
-------------------------------
Revenues prior to adjustment to estimated
tissue recall returns(a) $ 4,633 $ 7,307
===============================
Cardiovascular revenues as reported as a
percentage of total revenue as reported 30% 29%
Cardiovascular revenues prior to adjustment
to estimated tissue recall returns as a
percentage of total revenue prior to adjustment
to estimated tissue recall returns(a) 31% 29%
Revenues from cardiovascular preservation services as reported decreased 35% for
the three months ended March 31, 2003 as compared to the three months ended
March 31, 2002. Revenues as reported include $92,000 in favorable adjustments to
the estimated tissue recall returns due to lower actual tissue returns under the
FDA Order than were originally estimated. Revenues from cardiovascular
preservation services prior to the adjustment to estimated tissue recall returns
decreased 37% for the three months ended March 31, 2003 as compared to the three
months ended March 31, 2002. This decrease in revenues for the three months
ended March 31, 2003 was primarily due to a 43% decrease in cardiovascular
shipments due to a decline in demand related to the adverse publicity
surrounding the FDA Order and FDA Warning Letter, the FDA Letter posted on its
website, reported tissue infections and the related adverse publicity, and the
restrictions on shipments of certain non-valved cardiac tissues subject to the
FDA Order. This decrease in shipments was partially offset by a 6% increase in
21
average service fees due to a higher percentage of shipments in the first
quarter of 2003 consisting of heart valves rather than non-valved cardiac tissue
as compared to the first quarter of 2002.
The Company anticipates a future decrease in cardiovascular preservation
revenues as compared to prior year periods for at least the first half of 2003
as a result of the FDA Warning Letter, the FDA Order, the FDA letter posted on
its website, certain reported tissue infections, and the related adverse
publicity. If the Company is unable to rebuild demand for its preservation
services for these tissues, future cardiac preservation revenue could continue
to decrease.
VASCULAR PRESERVATION SERVICES
Three Months Ended
March 31,
-------------------------------
2003 2002
-------------------------------
Revenues as reported $ 4,255 $ 7,017
Adjustment to estimated tissue recall returns 711 --
-------------------------------
Revenues prior to adjustment to estimated
tissue recall returns(a) $ 3,544 $ 7,017
===============================
Vascular revenues as reported as a
percentage of total revenue as reported 27% 28%
Vascular revenues prior to adjustment
to estimated tissue recall returns as a
percentage of total revenue prior to adjustment
to estimated tissue recall returns(a) 24% 28%
Revenues from vascular preservation services as reported decreased 39% for the
three months ended March 31, 2003 as compared to the three months ended March
31, 2002. Revenues as reported include $711,000 in favorable adjustments to the
estimated tissue recall returns due to lower actual tissue returns under the FDA
Order than were originally estimated. Revenues from vascular preservation
services prior to the adjustment to estimated tissue recall returns decreased
49% for the three months ended March 31, 2003 as compared to the three months
ended March 31, 2002. This decrease in revenues for the three months ended March
31, 2003 was primarily due to a 42% decrease in vascular shipments due to a
decline in demand related to the adverse publicity surrounding the FDA Order and
FDA Warning Letter, reported tissue infections and the related adverse
publicity, and the restrictions on shipments of certain vascular tissues subject
to the FDA Order. Additional decreases in revenues were due to a 7% decrease in
average service fees due to an increase in shorter multiple grafts, used as
composite grafts, shipped per case relative to longer, singular vascular grafts,
which have higher service fees, shipped per case in the first quarter of 2002.
The Company anticipates a future decrease in vascular preservation revenues as
compared to prior year periods for at least the first half of 2003 as a result
of the adverse publicity surrounding the FDA Warning Letter, FDA Order, and
certain reported tissue infections. If the Company is unable to rebuild demand
for its preservation services for these tissues, future vascular preservation
revenue could continue to decrease.
22
ORTHOPAEDIC PRESERVATION SERVICES
Three Months Ended
March 31,
-------------------------------
2003 2002
-------------------------------
Revenues as reported $ 150 $ 5,914
Adjustment to estimated tissue recall returns 45 --
-------------------------------
Revenues prior to adjustment to estimated
tissue recall returns(a) $ 105 $ 5,914
===============================
Orthopaedic revenues as reported as a
percentage of total revenue as reported 1% 23%
Orthopaedic revenues prior to adjustment
to estimated tissue recall returns as a
percentage of total revenue prior to adjustment
to estimated tissue recall returns(a) 1% 23%
Revenues from orthopaedic preservation services as reported decreased 97% for
the three months ended March 31, 2003 as compared to the three months ended
March 31, 2002. Revenues as reported include $45,000 in favorable adjustments to
the estimated tissue recall returns due to lower actual tissue returns under the
FDA Order than were originally estimated. Revenues from orthopaedic preservation
services prior to the adjustment to estimated tissue recall returns decreased
98% for the three months ended March 31, 2003 as compared to the three months
ended March 31, 2002. This decrease in revenues for the three months ended March
31, 2003 was primarily due to a 97% decrease in orthopaedic shipments due to a
decline in demand related to the adverse publicity surrounding the FDA Order,
FDA Warning Letter, and reported tissue infections, cessation of processing of
orthopaedic tissue until late February 2003, and the restrictions on shipments
of certain orthopaedic tissues subject to the FDA Order. Revenues since August
14, 2002 have been from shipments of orthopaedic tissues that were processed
prior to October 3, 2001.
The Company anticipates a substantial decrease in the orthopaedic preservation
revenues as compared to prior year periods for at least the first half of 2003
due to the Company's inability to ship orthopaedic grafts processed between
October 3, 2001 and September 5, 2002 pursuant to the FDA Order, the adverse
publicity resulting from the FDA Warning Letter and FDA Order, and the reported
infections in some orthopaedic allograft recipients. The Company resumed
processing orthopaedic tissues in late February 2003 following the FDA
inspection of the Company's operations as discussed in Note 2 to the Summary
Consolidated Financial Statements. The Company's first quarter 2003 procurement
of orthopaedic tissues was approximately 5% of orthopaedic procurement levels in
the first quarter of 2002. The Company plans to resume distribution of
orthopaedic tissues. If the Company is unable to rebuild demand for its
preservation services for orthopaedic tissues, future orthopaedic preservation
revenue, if any, may be minimal.
IMPLANTABLE MEDICAL DEVICES
Revenues from implantable medical devices decreased 45% to $105,000 for the
three months ended March 31, 2003 from $192,000 for the three months ended March
31, 2002, representing 1% of total revenues during such periods.
DISTRIBUTION AND GRANT REVENUES
Grant revenues increased to $191,000 for the three months ended March 31, 2003
from $27,000 for the three months ended March 31, 2002. Grant revenues in both
years were primarily attributable to the SynerGraft research and development
programs. Distribution revenues decreased to zero for the three months ended
March 31, 2003 from $141,000 for the three months ended March 31, 2002.
Distribution revenues consisted of commissions received for the distribution of
orthopaedic tissues for another processor. The Company does not currently
anticipate receiving distribution revenues from any third party processors in
2003.
23
COSTS AND EXPENSES
Cost of human tissue preservation services aggregated $2.4 million for the three
months ended March 31, 2003 compared to $8.1 million for the three months ended
March 31, 2002, representing 27% and 40%, respectively, of total human tissue
preservation service revenues as reported during each period. Cost of human
tissue preservation services was 29% and 40% for the three months ended March
31, 2003 and 2002, respectively, of total human tissue preservation service
revenues prior to the adjustment to estimated tissue recall returns during each
period. The decrease in the first quarter 2003 cost of preservation was due to
decreased shipments resulting from decreased demand and shipments of tissue with
a zero cost basis due to write-downs of deferred preservation costs in the
second and third quarter of 2002. The reduction in cost of preservation services
for tissues shipped in the first quarter of 2003 due to prior period write-downs
was estimated to be $2.3 million. This decrease was partially offset by a
$297,000 increase to cost of preservation services to adjust the value of
certain deferred tissue preservation costs that exceeded market value. The
Company anticipates a reduction in the cost of human tissue preservation
services for at least the first half of 2003 as compared to prior periods due to
a reduction in shipments of tissues as a result of the FDA Order and FDA Warning
Letter, reported tissue infections, and the related adverse publicity. The cost
of human tissue preservation services as a percent of revenue is likely to
increase as a result of lower tissue processing volumes, especially if the
decline in demand continues. However, the cost of human tissue preservation
services may be favorably impacted, depending on the future level of tissue
shipments related to previously written-down deferred preservation costs,
because the write-down creates a new cost basis which cannot be written back up
if these tissues are shipped or become available for shipment. The shipment
levels of these written-down tissues will be affected by the amount and timing
of the release of tissues processed after September 5, 2002, pursuant to the
Agreement with the FDA, since written-down tissues may only be shipped if
tissues processed after the Agreement are not available for shipment.
Cost of products aggregated $1.6 million for the three months ended March 31,
2003 compared to $2.2 million for the three months ended March 31, 2002,
representing 25% and 44%, respectively, of total product revenues during such
periods. The decrease in cost of products is primarily due to a decrease in the
costs related to bioprosthetic products due to lower sales and production levels
for these products, partially offset by an increase in BioGlue sales. The
decrease in the first quarter 2003 cost of products as a percentage of total
product revenues is due to a favorable product mix that was impacted by the
increase in revenues from BioGlue Surgical Adhesive, which carries higher gross
margins than bioprosthetic devices.
General, administrative, and marketing expenses increased 22% to $11.6 million
in the first quarter of 2003, compared to $9.5 million in the first quarter of
2002, representing 73% and 37%, respectively, of total revenues during such
periods. The increase in expenditures for the three months ended March 31, 2003
was primarily due to an increase of approximately $2.0 million in professional
fees (legal, consulting, and accounting) due to increased litigation, litigation
settlement costs, and issues surrounding the FDA Order and an increase of
approximately $300,000 in insurance premiums. The Company expects to continue to
incur significant legal costs and professional fees to defend the lawsuits filed
against the Company and to address FDA compliance requirements. Additional
marketing expenses may also be incurred to address the effects of the adverse
publicity surrounding the FDA Order.
Research and development expenses decreased 20% to $917,000 for the three months
ended March 31, 2003, compared to $1.2 million for the three months ended March
31, 2002, representing 6% and 5%, respectively, of total revenues during such
periods. Research and development spending in 2003 and 2002 was primarily
focused on the Company's SynerGraft and Protein Hydrogel Technologies.
Interest expense, net of interest income, was $1,000 for the three months ended
March 31, 2003 as compared to $106,000 of interest income, net of interest
expense, for the three months ended March 31, 2002. The 2003 decrease in net
interest income was due to reduced investments earning interest in 2003 as
compared to 2002 and lower interest rates in 2003, partially offset by a
reduction in the principal debt amount outstanding due to scheduled principal
payments and the conversion of the convertible debenture in March of 2002.
Other income decreased to $26,000 for the three months ended March 31, 2003 as
compared to $56,000 for the three months ended March 31, 2002.
The effective income tax rate was 33% and 34% for quarters ended March 31, 2003
and 2002, respectively.
24
SEASONALITY
The demand for the Company's cardiovascular tissue preservation services is
seasonal, with peak demand generally occurring in the second and third quarters.
Management believes this trend for cardiovascular tissue preservation services
is primarily due to the high number of surgeries scheduled during the summer
months. However, the demand for the Company's human vascular and orthopaedic
tissue preservation services, BioGlue Surgical Adhesive, and bioprosthetic
cardiovascular and vascular devices does not appear to experience seasonal
trends.
LIQUIDITY AND CAPITAL RESOURCES
NET WORKING CAPITAL
At March 31, 2003 net working capital (current assets of $56.2 million less
current liabilities of $19.5 million) was $36.7 million, with a current ratio
(current assets divided by current liabilities) of 3 to 1, compared to net
working capital of $37.6 million, with a current ratio of 3 to 1 at December 31,
2002. The Company's primary capital requirements arise from general working
capital needs, capital expenditures for facilities and equipment, and funding of
research and development projects. The Company has historically funded these
requirements through bank credit facilities, cash generated by operations, and
equity offerings. Based on the decrease in revenues resulting from the FDA
Order, FDA Warning Letter, reported tissue infections, and associated adverse
publicity, the Company expects that its cash used in operating activities will
increase significantly over the near term, and that net working capital will
decrease. The Company believes that anticipated revenue generation, expense
management, savings resulting from the reduction in the number of employees to
reflect the reduction in revenues, federal tax refunds of approximately $8.9
million due to loss carrybacks generated from operating losses and write-downs
of deferred preservation costs and inventory, and the Company's existing cash
and cash equivalents and marketable securities will enable the Company to meet
its liquidity needs, including repayment of the Term Loan if required, through
at least March 31, 2004. It is possible that the Company will not have
sufficient funds to meet its primary capital requirements over the long term.
NET CASH FROM OPERATING ACTIVITIES
Net cash used in operating activities was $3.9 million and $189,000 for the
three months ended March 31, 2003 and 2002, respectively. The difference is
primarily attributable to the net loss in 2003 compared to net income in 2002
and changes in accounts receivable, accounts payable, and deferred preservation
costs. These changes in working capital reflect the decrease in revenues and
increased expenses as compared to the first quarter of 2002. The $3.9 million in
current year net cash used was primarily due to an increase in working capital
requirements due to a $4.9 million net change in operating assets and
liabilities, partially offset by non-cash items, including depreciation and
amortization of $1.4 million, provision for doubtful accounts of $24,000,
write-down of deferred preservation costs of $297,000, and other non-cash
adjustments to income of $19,000 The net loss of $434,000 includes a $2.0
million increase in professional fees due to increased litigation, litigation
settlement costs, and issues surrounding the FDA compliance requirements, as
discussed in the Results of Operations section above.
NET CASH FROM INVESTING ACTIVITIES
Net cash provided by investing activities was $1.1 million in the three months
ended March 31, 2003, as compared to cash used of $215,000 in the three months
ended March 31, 2002. The $1.1 million in current year net cash provided was
primarily due to $1.2 million increase in cash from maturities of marketable
debt securities, partially offset by capital expenditures.
NET CASH FROM FINANCING ACTIVITIES
Net cash used in financing activities was $423,000 and $201,000 in the three
months ended March 31, 2003 and 2002, respectively. The $423,000 in current year
net cash used was primarily due to $400,000 in principal payments on the Term
25
Loan and $159,000 in payments on capital leases, partially offset by a $136,000
increase in cash due to proceeds from the issuance of stock.
SCHEDULED CONTRACTUAL OBLIGATIONS AND FUTURE PAYMENTS
Scheduled contractual obligations and the related future payments subsequent to
March 31, 2003 are as follows (in thousands):
Remainder of
Total 2003 2004 2005 Thereafter
----------- ----------- ----------- ----------- -----------
Debt $ 5,200 $ 1,200 $ 1,600 $ 1,600 $ 800
Capital Lease Obligations 3,426 632 843 843 1,108
Operating Leases 26,706 1,721 2,115 2,091 20,779
Purchase Commitments 700 322 378 -- --
----------- ----------- ----------- ----------- -----------
Total Contractual Obligations $ 36,032 $ 3,875 $ 4,936 $ 4,534 $ 22,687
=========== =========== =========== =========== ===========
The Company's Term Loan, of which the principal balance was $5.1 million as of
April 30, 2003, contains certain restrictive covenants including, but not
limited to, maintenance of certain financial ratios and a minimum tangible net
worth requirement, and the requirement that no materially adverse event has
occurred. The lender has notified the Company that the FDA Order, as described
in Note 2, and the inquiries of the SEC, as described in Note 12, have had a
material adverse effect on the Company that constitutes an event of default.
Additionally, as of March 31, 2003 the Company is in violation of the debt
coverage ratio and net worth financial covenants. As of April 30, 2003 the
lender has elected not to declare an event of default, but reserves the right to
exercise any such right under the terms of the Term Loan. Therefore, all amounts
due under the Term Loan as of March 31, 2003 are reflected as a current
liability on the Summary Consolidated Balance Sheets. In the event the lender
calls the Term Loan, the Company at present has adequate funds to pay the
principal amount outstanding. The Term Loan is secured by substantially all of
the Company's assets. Due to cross default provisions included in the Company's
debt agreements, as of March 31, 2003 the Company was in default of certain
capital lease agreements maintained with the lender of the Term Loan. Therefore,
all amounts due under these capital leases are reflected as a current liability
on the Summary Consolidated Balance Sheets as of March 31, 2003. Since the
lender has not elected to exercise its rights to declare an event of default,
the above chart shows the payments according to their scheduled payment dates.
The Company's Term Loan, which accrues interest computed at Adjusted LIBOR plus
1.5%, exposes the Company to changes in interest rates going forward. On March
16, 2000, the Company entered into a $4 million notional amount forward-starting
interest swap agreement, which took effect on June 1, 2001 and expires in 2006.
This swap agreement was designated as a cash flow hedge to effectively convert a
portion of the Term Loan balance to a fixed rate basis, thus reducing the impact
of interest rate changes on future income. This agreement involves the receipt
of floating rate amounts in exchange for fixed rate interest payments over the
life of the agreement, without an exchange of the underlying principal amounts.
The differential to be paid or received is recognized in the period in which it
accrues as an adjustment to interest expense on the Term Loan.
INTEREST RATE SWAP AGREEMENT
On January 1, 2001 the Company adopted SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133") as amended. SFAS 133 requires
the Company to recognize all derivative instruments on the balance sheet at fair
value, and changes in the derivative's fair value must be recognized currently
in earnings or other comprehensive income, as applicable. The adoption of SFAS
133 impacts the accounting for the Company's forward-starting interest rate swap
agreement. Upon adoption of SFAS 133, the Company recorded an unrealized loss of
approximately $175,000 related to the interest rate swap, which was recorded as
part of long-term liabilities and accumulated other comprehensive income within
the Statement of Shareholders' Equity.
In August 2002 the Company determined that changes in the derivative's fair
value could no longer be recorded in other comprehensive income, as a result of
the uncertainty of future cash payments on the Term Loan caused by the lender's
ability to declare an event of default as discussed in Note 5. Beginning in
August 2002 the Company is recording all changes in the fair value of the
derivative currently in other expense/income on the Summary Consolidated
26
Statements of Operation, and is amortizing the amounts previously recorded in
other comprehensive income into other expense/income over the remaining life of
the agreement. If the lender accelerates the payments due under the Term Loan by
declaring an event of default, any remaining balance in other comprehensive
income will be reclassed into other expense/income during that period.
At March 31, 2003 the notional amount of this swap agreement was $2.6 million,
and the fair value of the interest rate swap agreement, as estimated by the bank
based on its internal valuation models, was a liability of $252,000. The fair
value of the swap agreement is recorded as part of short-term liabilities. For
the three months ended March 31, 2003 the Company recorded a loss of $19,000 on
the interest rate swap. The unamortized value of the swap agreement, recorded in
the accumulated other comprehensive income account of shareholders' equity, was
$241,000 at March 31, 2003.
STOCK REPURCHASE
On July 23, 2002 the Company's Board of Directors authorized the purchase of up
to $10 million of its common stock. As of August 13, 2002 the Company had
repurchased 68,000 shares of its common stock for $663,000. No further purchases
are anticipated in the near term.
CAPITAL EXPENDITURES
The Company expects that its full year capital expenditures in 2003 will be less
than its expenditures in 2002, which were approximately $4.1 million. The
Company expects to have the flexibility to increase or decrease the majority of
its planned capital expenditures depending on its ability to resume normal
operating levels once it has fully evaluated the demand for its tissues and
resumed distribution of orthopaedic tissues. The Company does not currently
anticipate any major purchase of equipment as a result of the April 2002 and
February 2003 FDA inspections.
OVERALL TREND IN LIQUIDITY AND CAPITAL RESOURCES
Century Medical, Inc. has completed the Japanese BioGlue clinical trial and is
performing a post clinical trial follow up of patients who have received the
product. The Company does not know when to expect a final decision on the
approval of the BioGlue application from the Japanese Ministry of Health and
Welfare. If approval is received, the Company believes it could have a positive
impact on its BioGlue business.
The Company expects its liquidity to decrease significantly over the next year
due to the anticipated significant decrease in revenues through at least the
first half of 2003 as compared to the prior year period, as a result of the FDA
Order and associated adverse publicity, and an expected decrease in cash due to
the anticipated increased legal and professional costs relating to the defense
of lawsuits and the FDA Order. The Company believes that anticipated revenue
generation, expense management, savings resulting from the reduction in the
number of employees to reflect the reduction in revenues, tax refunds of
approximately $8.9 million due to loss carrybacks generated from operating
losses and write-downs of deferred preservation costs and inventory, and the
Company's existing cash and cash equivalents and marketable securities will
enable the Company to meet its liquidity needs through at least March 31, 2004,
even if the Term Loan is called in its entirety. There is no assurance that the
Company will be able to return to the level of demand for its tissue services
that existed prior to the FDA Order as a result of the adverse publicity or as a
result of customers and tissue banks switching to competitors. Failure of the
Company to maintain sufficient demand for its services would have a material
adverse effect on the Company's business, financial condition, results of
operations, and cash flows.
The Company's long term liquidity and capital requirements will depend upon
numerous factors, including continued acceptance of BioGlue, the ability to
extend the Agreement with the FDA, the extent and duration of the anticipated
revenue decreases, the costs associated with compliance with FDA requirements,
the outcome of litigation pending against the Company as described in Part II
Item 1 of this Form 10-Q, the level of demand for cardiovascular and vascular
tissue, the continuing effect of adverse publicity, the Company's ability to
resolve the February 2003 FDA 483 and the informal February FDA letter regarding
tissues processed with SynerGraft technology, the ability to regain orthopaedic
demand, the actual outcomes of product liability claims that have been incurred
but not reported as of March 31, 2003 for which $3.6 million has been accrued,
the timing of the Company's receipt of FDA approvals to begin clinical trials
for its products currently in development, the availability of resources
27
required to further develop its marketing and sales capabilities if and when
those products gain approval, and the extent to which the Company's products
generate market acceptance and demand. There can be no assurance the Company
will not require additional financing or will not be required to seek to raise
additional funds through bank facilities, debt or equity offerings, or other
sources of capital to meet future requirements. Additional funds may not be
available when needed or on terms acceptable to the Company, which could have a
material adverse effect on the Company's business, financial condition, results
of operations, and cash flows.
28
FORWARD-LOOKING STATEMENTS
This Form 10-Q contains forward-looking statements and information made or
provided by the Company that are based on the beliefs of its management as well
as estimates and assumptions made by and information currently available to our
management. The words "could," "may," "might," "will," "would," "shall,"
"should," "pro forma," "potential," "pending," "intend," "believe," "expect,"
"anticipate," "estimate," "plan," "future" and other similar expressions
generally identify forward-looking statements, including, in particular,
statements regarding anticipated revenues, cost savings, insurance coverage,
regulatory activity, available funds and capital resources, and pending
litigation. These forward-looking statements are made pursuant to the safe
harbor provisions of the Private Securities Litigation Reform Act of 1995.
Readers are cautioned not to place undue reliance on these forward-looking
statements, which are as of their respective dates.
Some of the forward-looking statements contained in this Form 10-Q include those
regarding:
o The impact of recent accounting pronouncements;
o The adequacy of insurance coverage;
o The outcome of lawsuits filed against the Company;
o The impact of the FDA Order, related Agreements, reported tissue
infections, and the related adverse publicity on future revenues,
profits and business operations, future tissue procurement levels, and
the estimates underlying the related charges recorded in the second
and third quarter;
o The Company's intent to resume shipping orthopaedic tissue;
o Future costs of human tissue preservation services;
o The impact of the February 2003 FDA 483 and of the FDA letter
regarding SynerGraft processed cardiovascular and vascular tissues;
o Expected future impact of BioGlue on revenues;
o The estimates of the amounts accrued for the retention levels under
the Company's product liability and directors' and officers' insurance
policies;
o The estimates of the amounts accrued for product liability claims
incurred but not reported at March 31, 2003; and
o The adequacy of current financing arrangements, product demand and
market growth.
These statements are based on certain assumptions and analyses made by the
Company in light of its experience and its perception of historical trends,
current conditions, and expected future developments as well as other factors it
believes are appropriate in the circumstances. However, whether actual results
and developments will conform with the Company's expectations and predictions is
subject to a number of risks and uncertainties which could cause actual results
to differ materially from the Company's expectations, including without
limitation, in addition to those specified in the text surrounding such
statements, the risk factors set forth below, the risks set forth under "Risk
Factors" in Part I, Item 1 of the Company's Form 10-K for the year ended
December 31, 2002 and other factors, many of which are beyond the control of the
Company. Consequently, all of the forward-looking statements made in this Form
10-Q are qualified by these cautionary statements and there can be no assurance
that the actual results or developments anticipated by the Company will be
realized or, even if substantially realized, that they will have the expected
consequences to or effects on the Company or its business or operations. The
Company assumes no obligation to update publicly any such forward-looking
statements, whether as a result of new information, future events, or otherwise.
The risks and uncertainties which might impact the forward-looking statements
and the Company include concerns that:
o The impact of the FDA Order, the FDA Warning Letter, reported tissue
infections, and the resulting adverse publicity on CryoLife's
business, liquidity and capital resources has been and may continue to
be material;
o The Company may not be able to obtain sufficient cardiovascular,
vascular, and orthopaedic tissue to operate profitably;
o Shipments of orthopaedic tissues are now minimal and demand may not
return;
o Physicians may be reluctant to implant the Company's preserved
tissues;
o Heart valves processed by the Company may also be recalled;
29
o Products not included in the FDA Order may come under increased
scrutiny;
o Demand for heart valves processed by the Company has decreased and may
decrease further in the future;
o Adverse publicity may reduce demand for products not affected by the
FDA Order;
o We may be unable to address the concerns raised by the FDA in its
February 2003 Form 483 Notice of Observations, or the February 2003
letter regarding the use of SynerGraft technology to process human
tissue;
o Regulatory action outside of the U.S. may also affect the Company's
business;
o The Company's common stock is potentially at risk of being delisted
from the New York Stock Exchange;
o The Company is the subject of an informal SEC investigation;
o As a result of the FDA Order and resulting financial impact,
CryoLife's lender has notified it that it is in default of certain
provisions of the Company's credit facility, resulting in cross
defaults under CryoLife's lease;
o The Company's insurance coverage may be insufficient to cover
judgments under existing or future claims;
o Insurance coverage may be difficult or impossible to obtain in the
future and if obtained, the cost of insurance coverage is likely to be
much more expensive than in the past;
o Intense competition may affect the Company's ability to recover from
the FDA Order and develop its surgical adhesive business;
o Extensive government regulation may retard the Company's ability to
develop and sell products and services; and
o Uncertainties regarding future health care reimbursement may affect
the amount and timing of the Company's revenues.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
The Company's interest income and expense are most sensitive to changes in the
general level of United States interest rates. In this regard, changes in United
States interest rates affect the interest earned on the Company's cash and cash
equivalents of $6.9 million and short-term investments in municipal obligations
of $13.3 million as of March 31, 2003, as well as interest paid on its debt. A
10% adverse change in interest rates affecting the Company's cash equivalents
and short-term investments would not have a material impact on the Company's
interest income for 2003.
The Company manages interest rate risk through the use of fixed debt and an
interest rate swap agreement. At March 31, 2003 approximately $2.6 million of
the Company's $5.2 million in debt charged interest at a fixed rate. This fixed
rate debt includes a portion of the Company's outstanding term loan balance that
has been effectively converted to fixed rate debt through an interest rate swap
agreement. A 10% increase in interest rates affecting the Company's variable
rate debt, net of the effect of the interest rate swap agreement, would not have
a material increase in the Company's interest expense for 2003. A 10% decrease
in interest rates would not have a material effect on the interest rate swap
agreement.
Item 4. Controls and Procedures.
With the participation of management, the Company's President and Chief
Executive Officer along with the Company's Vice President of Finance, Treasurer,
and Chief Financial Officer evaluated the Company's disclosure controls and
procedures within 90 days of the filing date of this quarterly report. Based
upon this evaluation, the Company's President and Chief Executive Officer along
with the Company's Vice President of Finance and Chief Financial Officer
concluded that the Company's disclosure controls and procedures are effective in
ensuring that material information required to be disclosed is included on a
timely basis in the reports that it files with the Securities and Exchange
Commission.
There were no significant changes in the Company's internal controls or, to the
knowledge of the management of the Company, in other factors that could
significantly affect these controls subsequent to the evaluation date.
30
Part II - OTHER INFORMATION
Item 1. Legal Proceedings.
In the normal course of business as a medical device and services company the
Company has product liability complaints filed against it. As of April 28, 2003
twenty-three cases were open that were filed against the Company between May 18,
2000 and April 14, 2003. The cases are currently in the pre-discovery or
discovery stages. Of these cases, 15 allege product liability claims arising out
of the Company's orthopaedic tissue services, seven allege product liability
claims arising out of the Company's allograft heart valve tissue services, and
one alleges product liability claims arising out of the non-tissue products made
by Ideas for Medicine, when it was a subsidiary of the Company.
On March 31, 2003 the Company announced that a settlement has been reached in
the lawsuit brought against the Company by the estate of Brian Lykins. The
complaint filed against the Company in the Superior Court of Cobb County,
Georgia, on July 12, 2002 by Steve Lykins, as Trustee for the benefit of next of
kin of Brian Lykins alleged strict liability, negligence, and breach of
warranties related to tissue implanted in November 2001. In addition to this
lawsuit, three other lawsuits have been dismissed or were settled during the
first quarter of 2003. The total settlements involved in these cases including
amounts paid by the Company and its insurer were less than 10% of total current
assets at March 31, 2003.
The Company maintains claims-made insurance policies, which the Company believes
to be adequate to defend against these suits. The Company's insurance company
has been notified of these actions. The Company intends to vigorously defend
against these claims. Nonetheless, an adverse judgment or judgments imposing
aggregate liabilities in excess of the Company's insurance coverage could have a
material adverse effect on the Company's financial position, results of
operations, and cash flows.
Claims-made insurance policies cover only those asserted claims and incidents
that are reported to the insurance carrier while the policy is in effect. Thus,
a claims-made policy does not represent a transfer of risk for claims and
incidents that have been incurred but not reported to the insurance carrier. The
Company periodically evaluates its exposure to unreported product liability
claims, and records accruals as necessary for the estimated cost of unreported
claims related to services performed and products sold. As of December 31, 2002
the Company accrued $3.6 million in estimated costs for unreported product
liability claims related to services performed and products sold prior to
December 31, 2002. The expense was recorded in 2002 in general, administrative,
and marketing expenses and was included as a component of accrued expenses and
other current liabilities on the Summary Consolidated Balance Sheets. As of
March 31, 2003 the accrual for unreported product liability claims remained
unchanged for services performed and products sold prior to March 31, 2003.
The Company has concluded that it is probable that it will incur losses relating
to asserted claims and pending litigation of at least $1.2 million, which
represents the aggregate amount of the Company's retention under its product
liability and directors' and officers' insurance policies. Therefore, the
Company recorded an accrual of $1.2 million during 2002. As of March 31, 2003
the remaining accrual for the retention levels decreased to $750,000 due to
required insurance retention payments made related to legal settlements reached
during the first quarter of 2003.
Several putative class action lawsuits were filed in July through September 2002
against the Company and certain officers of the Company, alleging that the
defendants violated Sections 10(b) and 20(a) of the Securities Exchange Act of
1934 and Rule 10b-5 promulgated thereunder by issuing a series of purportedly
materially false and misleading statements to the market. During the third
quarter of 2002 the Court consolidated the suits, and on November 14, 2002 lead
plaintiffs and lead counsel were named. A consolidated complaint was filed on
January 15, 2003, seeking the Court's certification of the litigation as a class
action on behalf of all purchasers of the Company's stock between April 2, 2001
and August 14, 2002. The principal allegations of the consolidated complaint are
that the Company failed to disclose its alleged lack of compliance with certain
FDA regulations regarding the handling and processing of certain tissues and
other product safety matters. In the consolidated complaint, plaintiffs seek to
recover compensatory damages and various fees and expenses of litigation,
including attorneys' fees. The Company and the other defendants filed a motion
to dismiss the consolidated complaint on February 28, 2003 which remains pending
before the Court. The Company carries directors' and officers' liability
31
insurance policies, which the Company believes to be adequate to defend against
this action. Nonetheless, an adverse judgment in excess of the Company's
insurance coverage could have a material adverse effect on the Company's
financial position, results of operations, and cash flows.
On August 30, 2002 a purported shareholder derivative action was filed by
Rosemary Lichtenberger against Steven G. Anderson, Albert E. Heacox, John W.
Cook, Ronald C. Elkins, Virginia C. Lacy, Ronald D. McCall, Alexander C.
Schwartz, and Bruce J. Van Dyne in the Superior Court of Gwinnett County,
Georgia. The suit, which names the Company as a nominal defendant, alleges that
the individual defendants breached their fiduciary duties to the Company by
causing or allowing the Company to engage in certain inappropriate practices
that caused the Company to suffer damages. The complaint was preceded by one day
by a letter written on behalf of Ms. Lichtenberger demanding that the Company's
Board of Directors take certain actions in response to her allegations. On
January 16, 2003, another purported derivative suit alleging claims similar to
those of the Lichtenberger suit was filed in the Superior Court of Fulton County
by complainant Robert F. Frailey. As in the Lichtenberger suit, the filing of
the complaint in the Frailey action was preceded by a purported demand letter
sent on Frailey's behalf to the Company's Board of Directors. Both complaints
seek undisclosed damages, costs and attorney's fees, punitive damages, and
prejudgment interest against the individual defendants derivatively on behalf of
the Company. The Company's Board of Directors has established an independent
committee to investigate the allegations of Ms. Lichtenberger and Mr. Frailey.
The independent committee has engaged independent legal counsel to assist in the
investigation and that investigation is currently proceeding.
Item 2. Changes in Securities.
None
Item 3. Defaults Upon Senior Securities.
See Note 5 to the Summary Consolidated Financial Statements for information
regarding a notification by the Company's lender that the FDA Order and the
inquiries of the SEC have had a material adverse effect on the Company,
which constitutes an event of default. The lender has elected not to
declare an event of default at this time.
Item 4. Submission of Matters to a Vote of Security Holders.
None.
Item 5. Other information.
None.
Item 6. Exhibits and Reports on Form 8-K
(a) The exhibit index can be found below.
Exhibit
Number Description
- ------- -----------
3.1* Restated Certificate of Incorporation of the Company, as amended.
3.2* ByLaws of the Company, as amended.
32
3.3 Articles of Amendment to the Certificate of Incorporation of the
Company. (Incorporated by reference to Exhibit 3.3 to the Registrant's
Annual Report on Form 10-K for the fiscal year ended December 31,
2000.)
4.1 Form of Certificate for the Company's Common Stock. (Incorporated by
reference to Exhibit 4.1 to the Registrant's Registration Statement on
Form S-1 (No. 33-56388).
10.1* Letter Agreement between the Company and FDA, dated March 17, 2003.
10.2* First Amendment to Employment Agreement, by and between the Company
and Steven G. Anderson, dated September 3, 2002.
99.1* Certification Pursuant To 18 U.S.C. Section 1350, As Adopted Pursuant
To Section 906 Of The Sarbanes-Oxley Act Of 2002.
(b) No Reports on Form 8-K were filed during the quarter.
- ----------------
* Filed herewith.
33
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CRYOLIFE, INC.
(Registrant)
/s/ STEVEN G. ANDERSON /s/ DAVID ASHLEY LEE
- --------------------------------- ----------------------------------
STEVEN G. ANDERSON DAVID ASHLEY LEE
Chairman, President, and Vice President, Treasurer, and
Chief Executive Officer Chief Financial Officer
(Principal Financial and
Accounting Officer)
May 2, 2003
- ------------------------
DATE
34
CERTIFICATIONS
I, Steven G. Anderson, Chairman, President, and Chief Executive Officer, certify
that:
1. I have reviewed this quarterly report on Form 10-Q of CryoLife, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report.
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether there were significant changes in internal controls or
in other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: May 5, 2003
/s/ STEVEN G. ANDERSON
-----------------------------------
Chairman, President, and Chief
Executive Officer
35
I, David Ashley Lee, Vice President, Treasurer, and Chief Financial Officer,
certify that:
1. I have reviewed this quarterly report on Form 10-Q of CryoLife, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report.
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that material
information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls and
procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
registrant's board of directors (or persons performing the equivalent function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officers and I have indicated in this
quarterly report whether there were significant changes in internal controls or
in other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: May 5, 2003
/s/DAVID ASHLEY LEE
-------------------------------
Vice President, Treasurer, and
Chief Financial Officer
36