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SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

March 31, 2003

Commission file number 0-19711

The Spectranetics Corporation

96 Talamine Court
Colorado Springs, Colorado 80907
(719) 633-8333
(Address of principal executive offices and telephone number)

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 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   þ   No   o

Indicate by check mark whether the Registrant is an accelerated filer.  Yes   o   No   þ

The aggregate market value of the voting stock of the Registrant, as of June 28, 2002 computed by reference to the closing sale price of the voting stock held by non-affiliates on such date, was $47,298,979.

As of May 12, 2003 there were 24,139,075 outstanding shares of Common Stock.

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Part I—FINANCIAL INFORMATION

Item 1. Financial Statements

THE SPECTRANETICS CORPORATION AND SUBSIDIARY
Condensed Consolidated Balance Sheets (Unaudited)
(In Thousands, Except Share Amounts)

See accompanying unaudited notes to condensed consolidated financial statements.

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Item 1. Financial Statements (cont’d)

THE SPECTRANETICS CORPORATION AND SUBSIDIARY
Condensed Consolidated Statements of Operations and Comprehensive Income (Loss) (Unaudited)
(In Thousands, Except Percentages, Share and Per Share Amounts)

See accompanying unaudited notes to condensed consolidated financial statements.

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Item 1. Financial Statements (cont’d)

THE SPECTRANETICS CORPORATION AND SUBSIDIARY
Condensed Consolidated Statements of Cash Flows (Unaudited)
(In Thousands)

See accompanying unaudited notes to condensed consolidated financial statements.

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Item 1. Notes to Financial Statements

(1) General

     We develop, manufacture, market and distribute single-use medical devices used in minimally invasive surgical procedures within the cardiovascular system in conjunction with our proprietary excimer laser system. Excimer laser technology delivers comparatively cool ultraviolet light in short, controlled energy pulses to ablate or remove tissue. Our excimer laser system includes the CVX-300® laser unit and various fiber-optic delivery devices, including disposable catheters and sheaths. Our excimer laser system is the only excimer laser system approved in the United States and Europe for use in multiple, minimally invasive cardiovascular applications. Our excimer laser system is used in complex atherectomy procedures to open clogged or obstructed arteries in the coronary vascular system. It is also used to remove lead wires from patients with implanted pacemakers or cardioverter defibrillators, which are electronic devices that regulate the heartbeat.

     The accompanying consolidated financial statements include the accounts of The Spectranetics Corporation, a Delaware corporation, and its wholly owned subsidiary, Spectranetics International, B.V. (collectively, the Company). All intercompany balances and transactions have been eliminated in consolidation. The Company’s primary business is the design, manufacture and marketing of single use medical devices used in minimally invasive surgical procedures within the cardiovascular system in conjunction with its proprietary excimer laser system.

     The information included in the accompanying condensed consolidated interim financial statements is unaudited and should be read in conjunction with the audited financial statements and notes thereto contained in the Company’s latest Annual Report on Form 10-K. In the opinion of management, all adjustments necessary for a fair presentation of the assets, liabilities and results of operations for the interim periods presented have been reflected herein. The results of operations for interim periods are not necessarily indicative of the results to be expected for the entire year.

(2) Stock-Based Compensation

     The Company accounts for its stock option plan in accordance with the provisions of Accounting Principles Board (APB) Opinion 25, “Accounting for Stock Issued to Employees”, and related interpretations. As such, compensation expense is recorded on the date of grant only if the current market price of the underlying stock exceeds the exercise price, the intrinsic value method. Under SFAS 123, “Accounting for Stock-Based Compensation”, entities are permitted to recognize as expense over the vesting period the fair value of all stock-based awards on the date of grant. Alternatively, SFAS 123 also allows entities to continue to apply the provisions of APB Opinion 25 and provide pro forma net income (loss) disclosures for employee stock option grants as if the fair-value-based method defined in SFAS 123 had been applied. The Company has elected to continue to apply the provisions of APB Opinion 25 and provide the pro forma disclosures required by SFAS 123. All stock-based awards to non-employees are accounted for at their fair value in accordance with SFAS 123 and related interpretations.

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     The following table summarizes relevant information as to reported results under the Company’s intrinsic value method of accounting for stock awards, with supplemental information as if the fair value recognition provisions of SFAS 123, Accounting for Stock Based Compensation had been applied for the three months ended March 31, 2003 and 2002 (in thousands, except per share amounts):

     The per share weighted-average fair value of stock options granted during the first quarter of 2003 and 2002 was $2.35 and $2.89, respectively, using the Black-Scholes option pricing model. The Company used the following weighted average assumptions in determining the fair value of options granted during the three months ended March 31, 2003 and 2002:

(3) Net Income (Loss) Per Share

     The Company calculates net income (loss) per share under the provisions of Statement of Financial Accounting Standards No. 128, Earnings Per Share (SFAS 128). Under SFAS 128, basic earnings per share is computed by dividing net income (loss) by the weighted average number of common shares outstanding. Shares issued during the period and shares reacquired during the period are weighted for the portion of the period that they were outstanding. Diluted earnings per share are computed in a manner consistent with that of basic earnings per share while giving effect to all potentially dilutive common shares outstanding during the period using the treasury stock method.

     Diluted net income (loss) per share is the same as basic net income (loss) per share for the three months ended March 31, 2002, since potential common stock instruments are anti-dilutive. For the three months ended March 31, 2003 and March 31, 2002, 2,699,437 and 4,954,389 stock options, respectively, were excluded from the computation of diluted earnings per share due to their antidilutive effect. A summary of the net income (loss) per share calculation is shown below (in thousands, except per share amounts):

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(4) Inventories

     Inventories consist of the following:

(5) Deferred Revenue

     “Deferred revenue – current” in the amounts of $1,258,000 and $1,064,000 at March 31, 2003, and December 31, 2002, respectively, relates primarily to payments in advance for various product maintenance contracts in which revenue is initially deferred and recognized over the life of the contract, which is generally one year.

(6) Restricted Cash

     “Restricted cash” in the amounts of $1,124,000 and $1,123,000 at March 31, 2003, and December 31, 2002, respectively, consists of an escrow fund established pursuant to litigation with a licensor of certain patents. The funds may be disbursed from the escrow account upon the earlier of the resolution of the dispute or two years.

(7) Segment and Geographic Reporting

     An operating segment is a component of an enterprise whose operating results are regularly reviewed by the enterprise’s chief operating decision maker to make decisions about resources to be allocated to the segment and assess its performance. The primary performance measure used by management is net income or loss. The Company operates in one distinct line of business consisting of developing, manufacturing, marketing and distributing a proprietary excimer laser system for the treatment of certain coronary and vascular conditions. The Company has identified two reportable geographic segments within this line of business: (1) U.S. Medical and (2) Europe Medical. U.S. Medical and Europe Medical offer the same products and services but operate in different geographic

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regions and have different distribution networks. Additional information regarding each reportable segment is shown below.

U. S. Medical

     Products offered by this reportable segment include an excimer laser unit (“equipment”), fiber-optic delivery devices (“disposables”), and the service of the excimer laser unit (“service”). The Company is subject to product approvals from the Food and Drug Administration (“FDA”). At March 31, 2003, FDA-approved products were used in conjunction with coronary angioplasty as well as the removal of non-functioning leads from pacemakers and cardiac defibrillators. This segment’s customers are primarily located in the United States; however, the geographic areas served by this segment also include Canada, Mexico, South America, the Pacific Rim and Australia.

     U.S. Medical is also corporate headquarters for the Company. Accordingly, research and development as well as corporate administrative functions are performed within this reportable segment. As of March 31, 2003 and 2002, cost allocations of these functions to Europe Medical have not been performed.

     Manufacturing activities are performed primarily within the U.S. Medical segment. Revenue associated with intersegment product transfers to Europe Medical was $348,000 and $298,000 for the three months ended March 31, 2003 and 2002, respectively. Revenue is based upon transfer prices, which provide for intersegment profit that is eliminated upon consolidation.

Europe Medical

     The Europe Medical segment is a marketing and sales subsidiary located in the Netherlands that serves all of Europe as well as the Middle East. Products offered by this reportable segment are the same as U.S. Medical products. The Company has received CE mark approval for products that relate to four applications of excimer laser technology – coronary angioplasty, in-stent restenosis, lead removal, and peripheral angioplasty to clear blockages in leg arteries.

     Summary financial information relating to reportable segment operations is shown below. Intersegment transfers as well as intercompany assets and liabilities are excluded from the information provided (in thousands):

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(8) Reorganization Costs

     During the three months ended December 31, 2000, reorganization costs primarily associated with the elimination of the direct sales organization in Germany totaled $1,200,000. A rollforward of these costs is summarized below.

     Additional costs of $140,000 relate primarily to a provision for bad debt expense associated with the restructuring as of December 31, 2000. At March 31, 2003, this provision had a balance of $15,000.

     The termination and severance costs relate primarily to eight employees within the direct sales organization in Germany. Effective January 1, 2001, a direct sales organization was no longer used in Germany; instead, a distributor has been contracted to continue selling the Company’s products in Germany. The remaining reorganization costs accrued at March 31, 2003, are expected to be paid in 2003.

(9) Proxy Contest and Settlement Obligation

     On April 26, 2002, a stockholder of the Company, Steven W. Sweet, filed a preliminary proxy statement with the SEC in which he nominated two directors for election at the Company’s 2002 Annual Meeting, then scheduled to take place on June 4, 2002. On May 3, 2002, all of the executive officers of the Company signed a letter addressed to Mr. Sweet agreeing to vote in favor of Mr. Sweet’s director nominees. On May 13, 2002, Mr. Sweet, together with Joseph A. Largey, the former President and Chief Executive Officer of the Company, Paul C. Samek, the former Vice President, Finance and Chief Financial Officer of the Company, Lawrence R. McKinley, Sharon L. Sweet, a former employee of the Company and sibling of Steven W. Sweet (collectively, the “Sweet Group”) and the other executive officers of the Company filed a Schedule 13D with the SEC indicating that they were acting as a group (the “13D Group”) in connection with Mr. Sweet’s proxy solicitation. On May 14, 2002, all of the executive officers of the Company, other than Messrs. Largey and Samek, signed a letter addressed to Mr. Sweet withdrawing from the 13D Group and from Mr. Sweet’s proxy solicitation group and stating their neutrality with respect to any proposals submitted to the stockholders by the Company or the Sweet

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Group. Subsequently, Mr. Sweet filed additional proxy materials adding four proposals for consideration at the June 4, 2002 Annual Meeting. On May 15, 2002, the Company announced that it had deferred its 2002 Annual Meeting in order to give the Company’s stockholders more time to fully consider recent developments. On May 23, 2002, the Company filed an action in the United States District Court for the District of Delaware against the members of the Sweet Group for violation of federal securities laws.

     On June 6, 2002, the Company reached a definitive agreement that resolved disputes among the Company and the members of the Sweet Group. As part of the settlement, the parties agreed to the following:

	•		The withdrawal by the Sweet Group of its director nominees as well as the other matters it had proposed for the Annual Meeting and agreement to vote at the Annual Meeting for the election of Messrs. Geisenheimer and Schulte, who are current members of the Board of Directors, and the Company dismissed with prejudice the lawsuits filed against the Sweet Group.
	•		The appointment to the Board of two new directors who are unaffiliated with, and independent of, any of the Company’s current directors and the Sweet Group and who are approved in good faith by the Board and Mr. Sweet, which approval shall not by unreasonably withheld. One of the new directors will fill a vacancy on the Board created by the resignation of Mr. Largey, which became effective on June 18, 2002, and the other new director will replace a current member of the Board, who will retire from the Board upon the appointment of a replacement director. Heidrick & Struggles, a nationally recognized executive recruiting firm, has been retained by the Company to assist in identifying the new directors. As of March 31, 2003, one of the two new directors has been appointed and the search is on-going for the open seat.
	•		The retention by the Company of a nationally recognized consultant to recommend a program for equity incentives, including stock options, for outside directors and to submit the program recommended by the independent consultant to a vote of the stockholders at the Annual Meeting. The recommendations of the consultant were submitted to a shareholder vote and approved at the Annual Shareholders’ Meeting held on August 5, 2002.

     The resolution also settled all claims between the Company and Messrs. Largey and Samek and Ms. Sweet, each of whom has separated from the Company.

     Costs associated with the proxy contest and settlement obligations are shown below (in thousands):

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

     Additional costs of $56,000 relate primarily to costs associated with accelerating the vesting of stock options of the three terminated executives. The remaining settlement costs accrued at March 31, 2003 are expected to be paid in 2003.

Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition

Forward-Looking Statements

     This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Such statements are based on current assumptions that involve risks and uncertainties that could cause actual outcomes and results to differ materially. For a description of such risks and uncertainties, which could cause the actual results, performance or achievements of the Company to be materially different from any anticipated results, performance or achievements, please see the risk factors below. Readers are urged to carefully review and consider the various disclosures made in this report and in our other reports filed with the SEC that attempt to advise interested parties of certain risks and factors that may affect our business. This analysis should be read in conjunction with our consolidated financial statements and related noted and Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Form 10-K, filed on March 31, 2003. Spectranetics disclaims any intention or obligation to update or revise any financial projections or forward-looking statements due to new information or other events.

Corporate Overview

     We develop, manufacture, market and service an excimer laser unit and fiber optic delivery system for minimally invasive surgical procedures within the cardiovascular system. Our CVX-300® excimer laser is the only system approved by the FDA for multiple cardiovascular procedures, including coronary angioplasty and removal of faulty pacemaker and defibrillator leads. Our laser system competes against alternative technologies including balloon catheters, cardiovascular stents and mechanical atherectomy and thrombectomy devices.

     In addition to our core business described above, we also manufacture and distribute certain products as an original equipment manufacturer for other medical device companies. Revenue from this business represents less than 2% of consolidated revenue and gross margin has historically been in the range of $100,000 to $200,000 per year. In past years, revenue within this business was derived primarily from one customer who has moved its business to another supplier. As a result, we do not expect revenue in 2003 to reach prior year amounts.

     Our strategy is to develop additional applications for our excimer laser system, increase utilization of our FDA-approved products, and expand our installed base of laser systems. We plan to remain focused on profitability as we work towards the execution of our strategy.

     In 1993, the FDA approved for commercialization our CVX-300 laser system and the first generation of our fiber optic coronary angioplasty catheters. Several improvements and additions to our coronary angioplasty product line have been made since 1993 and have been approved for commercialization by the FDA. In 1997, we secured FDA approval to use our excimer laser system for removal of pacemaker and defibrillator leads, and we secured FDA approval in 2001 to market certain products for use in restenosed (clogged) stents (thin steel mesh tubes used to support the walls of coronary arteries) as a pretreatment prior to brachytherapy (radiation therapy).

     We recently completed two FDA-approved clinical trials evaluating the use of our excimer laser system to treat blocked arteries in the upper and lower leg. In January 2003, the data from our LACI

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

(Laser Angioplasty for Critical Limb Ischemia) trial, which deals with blockages in the lower leg, was submitted to the FDA in the form of a Pre-Market Approval (PMA) Supplement. In December 2002 we completed the one year follow-up phase of our PELA (Peripheral Excimer Laser Angioplasty) trial, which deals with blockages in the upper leg. The PELA data are being analyzed and, if the data warrant, an approval request will be submitted to the FDA later this year. If successful, these trials will result in additional FDA-approved applications in the United States during late 2003 or early 2004.

Results of Operations

The following table summarizes key supplemental financial information for the last 5 quarters.

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

*Cash flow generated (used) is a result of the net change in cash, cash equivalents, and investment securities available for sale (current and long-term) during the periods presented.

Three Months Ended March 31, 2003, Compared with Three Months Ended March 31, 2002

     Revenue in the first quarter of 2003 was $6,977,000, down one percent from $7,059,000 during the first quarter of 2002. The decrease is due to a 22 percent decrease in equipment revenue partially offset by a seven percent increase in disposable products revenue.

     Equipment revenue decreased 22 percent due to decreased laser unit sales. The Company sold (either an outright sale from inventory or a sale conversion from evaluation or rental programs) 8 laser units in the first quarter of 2003 compared to 12 laser sales in the first quarter of 2002. The decrease in laser unit sales is primarily a result of the termination of a special promotion offering lasers for $90,000 during 2002. The $90,000 promotional price compares with a list price of $249,000, and this special promotion continued through September 30, 2002. For the three months ended March 31, 2003, we had a net placement (sold, rented or provided for evaluation) of one excimer laser system, reflecting five placements net of four returns. Ten net placements were made during the first quarter of 2002. The installed base at March 31, 2003 is 361 excimer laser systems (261 in the United States).

     The increase of seven percent in disposable products revenue, which consists of single-use catheter products, is attributable to a 25 percent increase in lead removal products partially offset by a six percent decrease in atherectomy catheters. We believe our lead removal business is benefiting from expansion of patients eligible for inplantable cardioverter defibrillators (ICD), a device that regulates heart rhythm. When an ICD is implanted, it often replaces a pacemaker. In these cases, the old pacemaker leads are likely to be removed to avoid potential electrical interference with the new ICD leads. Devices that directly compete with our laser atherectomy products include the cutting balloon and rotablator which are marketed and distributed by Boston Scientific Corporation. While our atherectomy business continues to be highly competitive, there is a lack of recent clinical data to support the use of our products for atherectomy. We have initiated clinical research studying the use of our technology to treat saphenous vein grafts and acute myocardial infarction (heart attack). Although we believe this clinical data, when available, may contribute to the growth of our atherectomy business, there can be no assurances this will occur.

     Service revenue in the first quarter of 2003 was consistent with the first quarter of 2002.

     Gross margin increased to 70 percent during the three months ended March 31, 2003 from 68 percent for the first quarter of 2002. This increase was due primarily to a higher percentage of disposable products revenue in the product mix compared with 2002. Disposable products revenue generates higher gross margins than equipment revenue.

     Selling, general and administrative expenses increased five percent to $3,870,000 for the three months ended March 31, 2003 from $3,701,000 in the first quarter of 2002. The increase is due to:

•

Selling expenses increased approximately $318,000 in the quarter compared with last year’s quarter as a result of the following:

	•		Approximately $175,000 relates to personnel-related expenses associated with an increase of three additional employees in our field sales force compared with last year.
	•		Approximately $86,000 relates to marketing costs related to the anticipated launch of LACI products upon receipt of FDA approval.

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

•

Approximately $57,000 relates to physician training costs, consistent with a higher number of physicians trained, compared with last year, for use of our technology for coronary angioplasty and the removal of pacemaker and defibrillator leads.

•

General and administrative expenses decreased approximately $149,000 in the quarter compared with last year, primarily as a result of reduced personnel-related costs associated with four fewer employees compared with last year.

     Research, development and other technology expenses decreased 23 percent to $924,000 for the first quarter of 2003 from $1,193,000 in the first quarter of 2002. Costs included within research, development and other technology expenses are research and development costs, clinical studies costs and royalty costs associated with various license agreements with third-party licensors. The decrease from prior year amounts is primarily due to a $230,000 decrease in clinical studies costs as a result of the completion of the LACI and PELA trials during the fourth quarter of 2002 and decreased royalties as a result of decreased royalty-bearing revenue. Research and development costs decreased as a result of the completion of development on the second generation laser sheath used to remove pacemaker and defibrillator leads. We anticipate that research, development and other technology expenses in future quarters may increase from the amounts incurred during the three months ended March 31, 2003. We are in the early stages of clinical research studying the use of our technology to treat thrombus-laden lesions in saphenous vein grafts and acute myocardial infarction (heart attack). We are also conducting animal studies to assess our technology’s ability to treat ischemic stroke. We anticipate completing these studies by the end of this year and will determine if further clinical research in humans is warranted.

     Interest income decreased 35 percent in 2003 to $68,000 due to lower yields on our investment securities, which consist primarily of U.S. government and agency obligations with original maturities of less than two years.

     Net income was $141,000 for the three months ended March 31, 2003, compared with a net loss of $17,000 in 2002. The net income was primarily due to increased gross margins and decreased operating expenses in the first quarter of 2003, discussed above.

     The functional currency of Spectranetics International B.V. is the euro. All revenue and expenses are translated to U.S. dollars in the consolidated statements of operations using weighted average exchange rates during the period. Fluctuation in euro currency rates during the three months ended March 31, 2003, as compared with the three months ended March 31, 2002, caused a decrease in consolidated revenue and operating expenses of less than two percent.

Liquidity and Capital Resources

     As of March 31, 2003, we had cash, cash equivalents and investment securities of $11,985,000, an increase of $555,000 from $11,430,000 at December 31, 2002.

     For the three months ended March 31, 2003, cash provided by operating activities totaled $202,000, consisting of cash earnings (net income plus depreciation and amortization) of $556,000, $314,000 decrease in accounts receivable, and $214,000 increase in deferred revenue, offset by $229,000 reduction in accounts payable and accrued liabilities, an increase of inventory and equipment held for rental or loan of $376,000, an increase of $132,000 in prepaid expenses and other current assets and an increase of $145,000 in other assets.

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

     The table below presents the change in receivables and inventory in relative terms, through the presentation of financial ratios. Days sales outstanding are calculated by dividing the ending net accounts receivable balance by the average daily sales for the first quarter. Inventory turns are calculated by dividing annualized cost of sales for the first quarter by ending inventory.

     Cash used by investing activities of $17,000 for the three months ended March 31, 2003 was due to capital expenditures of $47,000 partially offset by proceeds from the maturity of $30,000 of investment securities.

     Cash provided by financing activities was $403,000, comprised of $411,000 of proceeds from the sale of common stock pursuant to exercises of stock options and stock issuances under our employee stock purchase plan, offset by $8,000 of principal payments on long-term debt and capital lease obligations. At March 31, 2003, total debt, including capital lease obligations, was $75,000.

     At March 31, 2003, and December 31, 2002, we had placed a number of laser systems on rental and loan programs. A total of $5,093,00 and $5,031,000 was recorded as equipment held for rental or loan at March 31, 2003, and December 31, 2002, respectively, and is being depreciated over three to five years.

     We currently use two placement programs in addition to the sale of laser systems:

	(1)		Evergreen rental program – This rental program was introduced in July 1999. Rental revenue under this program varies on a sliding scale depending on the customer’s purchases of disposable products each month. Rental revenue is invoiced on a monthly basis and revenue is recognized upon invoicing. The laser unit is transferred to the equipment held for rental or loan account upon shipment, and depreciation expense is recorded within cost of revenue based upon a three- to five-year expected life of the unit. As of March 31, 2003, 45 laser units were in place under the evergreen rental program.
	(2)		Evaluation programs – We “loan” a laser system to an institution for use over a short period of time, usually three to six months. The loan of the equipment is to create awareness of our products and their capabilities, and no revenue is earned or recognized in connection with the placement of a loaned laser (although sales of disposable products result from the laser placement). The laser unit is transferred to the equipment held for rental or loan account upon shipment, and depreciation expense is recorded within selling, general and administrative expense based on a three- to five-year expected life of the unit. As of March 31, 2003, 23 laser units were in place under the evaluation program.

     We believe our liquidity and capital resources as of March 31, 2003 are sufficient to meet our operating and capital requirements through at least the next twelve months. In the event we need additional financing for the operation of our business, we will consider additional public or private financing. Factors influencing the availability of additional financing include our progress in our current clinical trials, investor perception of our prospects and the general condition of the financial markets. We cannot assure you that our existing cash and cash equivalents will be adequate or that additional

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

financing will be available when needed or that, if available, this financing will be obtained on terms favorable to us or our stockholders.

     We do not expect our capital requirements to change significantly in 2003 compared with 2002 levels.

CONVERSION TO THE EURO

     On January 1, 2002, Spectranetics International B.V. adopted the euro as its functional currency. The conversion to the euro did not have and is not expected to have a material effect on our consolidated financial results of operations.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

     We prepare our consolidated financial statements in conformity with accounting principles generally accepted in the United States of America. As such, we are required to make certain estimates, judgments and assumptions that we believe are reasonable based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. Actual results could differ from those estimates. Significant estimates are used in these financial statements to determine the allowance for doubtful accounts, useful lives of depreciable assets, the valuation allowance for deferred tax assets and reserves.

     Our critical accounting policies and estimates are included in our Form 10-K, filed on March 31, 2003.

RECENT ACCOUNTING PRONOUNCEMENTS

     In December 2002, the Emerging Issues Task Force (EITF) reached a consensus on EITF 00-21, “Revenue Arrangements with Multiple Deliverables.” The consensus defines the accounting for arrangements that include multiple deliverables and provides guidance on how the arrangement consideration should be measured, whether the arrangement should be divided into separate units of accounting and that the arrangement consideration should be allocated among the separate units of accounting based on their relative fair value, if applicable. Once the arrangement is separated into its units of accounting, applicable revenue recognition should be applied to each separate unit of accounting. Adoption of the provisions of this EITF are required beginning with the Company’s third quarter of 2003. The Company is currently in the process of evaluating the provisions of EITF 00-21 to determine its applicability to the Company’s revenue arrangements and has not determined the impact of adopting this EITF on its financial position and results of operations.

RISK FACTORS

     We Have a History of Losses and May Not Be Able to Maintain Profitability. We incurred net losses from operations since our inception in June 1984 until the second quarter of 2001, and we incurred net losses in the first and second quarters of 2002. At March 31, 2003, we had accumulated $77 million in net losses since inception. We expect that our research, development and clinical trial activities and regulatory approvals, together with future selling, general and administrative activities and the costs associated with launching our products for additional indications will result in significant expenses for

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

the foreseeable future. No assurance can be given that we will be able to maintain profitability in the future.

     Our Small Sales and Marketing Team May Be Unable To Compete With Our Larger Competitors or To Reach All Potential Customers. Many of our competitors have larger sales and marketing operations than we do. This allows those competitors to spend more time with potential customers and to focus on a larger number of potential customers, which gives them a significant advantage over our team in making sales.

     Our Products May Not Achieve Market Acceptance. Excimer laser technology competes with more established therapies for restoring circulation to clogged or obstructed arteries such as balloon angioplasty and stent implantation. Market acceptance of the excimer laser system depends on our ability to provide adequate clinical and economic data that shows the clinical efficacy and cost effectiveness of, and patient benefits from, excimer laser atherectomy and lead removal.

     We May Be Unable To Compete Successfully With Bigger Companies in Our Highly Competitive Industry. Our primary competitors in the area of excimer laser coronary angioplasty are manufacturers of products used in competing therapies, such as:

	•		balloon angioplasty, which uses a balloon to push obstructions out of the way;
	•		stent implantation;
	•		open chest bypass surgery; and
	•		atherectomy and thrombectomy, using mechanical methods to remove arterial blockages.

     We estimate that approximately 80 percent of coronary interventions involve the placement of a stent. The leading stent providers in the United States are SCIMED Life Systems, Inc. (a subsidiary of Boston Scientific Corporation); Cordis Corporation (a subsidiary of Johnson & Johnson Interventional Systems); Guidant Corporation; Medtronic, Inc.; and JOMED N.V. The leading balloon angioplasty manufacturers are SCIMED, Cordis, Guidant and Medtronic. Manufacturers of atherectomy or thrombectomy devices include SCIMED, Guidant and Possis Medical, Inc.

     We also compete with companies marketing lead extraction devices or removal methods, such as mechanical sheaths. In the lead removal market, we compete worldwide with lead removal devices manufactured by Cook Vascular Inc. and we compete in Europe with devices manufactured by VascoMed.

     Almost all of our competitors have substantially greater financial, manufacturing, marketing and technical resources than we do. Larger competitors have a broader product line, which enables them to offer customers bundled purchase contracts and quantity discounts. We expect competition to intensify.

     We believe that the primary competitive factors in the interventional cardiovascular market are:

	•		the ability to treat a variety of lesions safely and effectively;
	•		the impact of managed care practices, related reimbursement to the health care provider, and procedure costs;
	•		ease of use;
	•		size and effectiveness of sales forces; and
	•		research and development capabilities.

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

Laser placement is a barrier to accessing patient cases for which our disposable products may be suited. Many competing products do not require an up-front investment in the form of a capital equipment purchase, lease, or rental.

     Failure of Third Parties To Reimburse Medical Providers for Our Products May Reduce Our Sales. We sell our CVX-300 laser unit primarily to hospitals, which then bill third-party payers, such as government programs and private insurance plans, for the services the hospitals provide using the CVX-300 laser unit. Unlike balloon angioplasty, laser atherectomy requires the purchase or lease of expensive capital equipment. In some circumstances, the amount reimbursed to a hospital for procedures involving our products may not be adequate to cover a hospital’s costs. We do not believe that reimbursement has materially adversely affected our business to date, but continued cost containment measures by third-party payers could hurt our business in the future.

     In addition, the FDA has required that the label for the CVX-300 laser unit state that adjunctive balloon angioplasty was performed together with laser atherectomy in most of the procedures we submitted to the FDA for pre-market approval. Adjunctive balloon angioplasty requires the purchase of a balloon catheter in addition to the laser catheter. While all approved procedures using the excimer laser system are reimbursable, some third-party payers attempt to deny reimbursement for procedures they believe are duplicative, such as adjunctive balloon angioplasty performed together with laser atherectomy. Third-party payers may also attempt to deny reimbursement if they determine that a device used in a procedure was experimental, was used for a non-approved indication, or was not used in accordance with established pay protocols regarding cost-effective treatment methods. Hospitals that have experienced reimbursement problems or expect to experience reimbursement problems may not purchase our excimer laser systems.

     Technological Change May Result in Our Products Becoming Obsolete. We derive substantially all of our revenue from the sale or lease of the CVX-300 laser unit, related disposable devices and service. Technological progress or new developments in our industry could adversely affect sales of our products. Many companies, some of which have substantially greater resources than we do, are engaged in research and development for the treatment and prevention of coronary artery disease. These include pharmaceutical approaches as well as development of new or improved angioplasty, atherectomy, thrombectomy or other devices. Our products could be rendered obsolete as a result of future innovations in the treatment of vascular disease.

     Regulatory Compliance Is Expensive and Can Often Be Denied or Significantly Delayed. The industry in which we compete is subject to extensive regulation by the FDA and comparable state and foreign agencies. Complying with these regulations is costly and time consuming. International regulatory approval processes may take longer than the FDA approval process. If we fail to comply with applicable regulatory requirements, we may be subject to fines, suspensions or revocations of approvals, seizures or recalls of products, operating restrictions, criminal prosecutions and other penalties. We may be unable to obtain future regulatory approval in a timely manner, or at all, if existing regulations are changed or new regulations are adopted. For example, the FDA approval process for the use of excimer laser technology in clearing blocked arteries in the upper and lower leg has taken longer than we anticipated due to requests for additional clinical data and changes in regulatory requirements.

     Failures in Clinical Trials May Hurt Our Business and Our Stock Price. All of Spectranetics’ potential products are subject to extensive regulation and will require approval from the FDA and other regulatory agencies prior to commercial sale. The results from pre-clinical testing and early clinical trials may not be predictive of results obtained in large clinical trials. Companies in the medical device

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

industry have suffered significant setbacks in various stages of clinical trials, even in advanced clinical trials, after apparently promising results had been obtained in earlier trials.

     The development of safe and effective products is uncertain and subject to numerous risks. The product development process may take several years, depending on the type, complexity, novelty and intended use of the product. Larger competitors are able to offer larger financial incentives to their customers to support their clinical trials. Enrollment in our clinical trials may be adversely affected by clinical trials financed by our larger competitors. Product candidates that may appear to be promising in development may not reach the market for a number of reasons.

     Product candidates may:

	•		be found ineffective;
	•		take longer to progress through clinical trials than had been anticipated; or
	•		require additional clinical data and testing.

     We cannot guarantee that we will gain FDA approval to market the use of our excimer laser system to treat blocked arteries in the upper and lower leg. If we do not receive these FDA approvals, our business will suffer.

     Our European Operations May Not Be Successful or May Not Be Able To Achieve Revenue Growth. In January 2001 we established a distributor relationship in Germany, and now utilize distributors throughout most of Europe. The sales and marketing efforts on our behalf by distributors in Europe could fail to attain long-term success.

     We Are Exposed to the Problems That Come From Having International Operations. For the three months ended March 31, 2003, our revenue from international operations represented nine percent of consolidated revenue. Changes in overseas economic conditions, currency exchange rates, foreign tax laws or tariffs or other trade regulations could adversely affect our ability to market our products in these and other countries. As we expand our international operations, we expect our sales and expenses denominated in foreign currencies to expand.

     We Have Important Sole Source Suppliers and May Be Unable To Replace Them if They Stop Supplying Us. We purchase certain components of our CVX-300 laser unit from several sole source suppliers. We do not have guaranteed commitments from these suppliers and order products through purchase orders placed with these suppliers from time to time. While we believe that we could obtain replacement components from alternative suppliers, we may be unable to do so.

     Potential Product Liability Claims and Insufficient Insurance Coverage May Hurt Our Business and Stock Price. We are subject to risk of product liability claims. We maintain product liability insurance with coverage and aggregate maximum amounts of $5,000,000. The coverage limits of our insurance policies may be inadequate, and insurance coverage with acceptable terms could be unavailable in the future.

     Our Patents and Proprietary Rights May Be Proved Invalid, Which Would Enable Competitors To Copy Our Products; We May Infringe Other Companies’ Rights. We hold patents and licenses to use patented technology, and have patent applications pending. Any patents we have applied for may not be granted. In addition, our patents may not be sufficiently broad to protect our technology or to give us any competitive advantage. Our patents could be challenged as invalid or circumvented by competitors. In addition, the laws of certain foreign countries do not protect our intellectual property rights to the same

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

extent as do the laws of the United States. We do not have patents in many foreign countries. We could be adversely affected if any of our licensors terminates our licenses to use patented technology. Although we have established reserves for royalty payment obligations based on a process of calculating royalty obligations associated with our licensed technology, the process involves management estimates that require judgement and there can be no assurance that these reserves will be adequate. For example, we are currently involved in litigation over royalties payable by us to one of our licensors, Interlase L.P., under an existing license agreement. Interlase has also filed a complaint alleging we infringe certain patents relating to lead removal products and services that re the subject of a license agreement. There are no assurances we will prevail in these matters.

     There may be patents and patent applications owned by others relating to laser and fiber-optic technologies, which, if determined to be valid and enforceable, may be infringed by Spectranetics. Holders of certain patents, including holders of patents involving the use of lasers in the body, may contact us and request that we enter into license agreements for the underlying technology. For example, we have been made aware of a patent issued for a certain catheter with a diameter of less than .9 millimeters. We are in the process of reviewing the patent to determine its validity and enforceability. We cannot guarantee a patent holder will not file a lawsuit against us and prevail. If we decide that we need to license technology, we may be unable to obtain these licenses on favorable terms or at all. We may not be able to develop or otherwise obtain alternative technology.

     Litigation concerning patents and proprietary rights is time-consuming, expensive, unpredictable and could divert the efforts of our management. An adverse ruling could subject us to significant liability, require us to seek licenses and restrict our ability to manufacture and sell our products.

     Our Stock Price May Continue To Be Volatile. The market price of our common stock, similar to other small-cap medical device companies, has been, and is likely to continue to be, highly volatile. The following factors may significantly affect the market price of our common stock:

	•		fluctuations in operating results;
	•		announcements of technological innovations or new products by Spectranetics or our competitors;
	•		governmental regulation;
	•		developments with respect to patents or proprietary rights;
	•		public concern regarding the safety of products developed by Spectranetics or others;
	•		past or future management changes;
	•		general market conditions; and
	•		financing of future operations through additional issuances of equity securities, which may result in dilution to existing stockholders and falling stock prices.

     Protections Against Unsolicited Takeovers in Our Rights Plan, Charter and Bylaws May Reduce or Eliminate Our Stockholders’ Ability To Resell Their Shares at a Premium Over Market Price. We have a stockholders’ rights plan that may prevent an unsolicited change of control of Spectranetics. The rights plan may adversely affect the market price of our common stock or the ability of stockholders to participate in a transaction in which they might otherwise receive a premium for their shares. Under the rights plan, rights to purchase preferred stock in certain circumstances have been issued to holders of outstanding shares of common stock, and rights will be issued in the future for any newly issued common stock. Holders of the preferred stock are entitled to certain dividend, voting and liquidation rights that could make it more difficult for a third party to acquire Spectranetics.

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Item 2. Management’s Discussion and Analysis of Results of Operations and Financial Condition (cont’d)

     Our charter and bylaws contain provisions relating to issuance of preferred stock, special meetings of stockholders and amendments of the bylaws that could have the effect of delaying, deferring or preventing an unsolicited change in the control of Spectranetics. Our Board of Directors is elected for staggered three-year terms, which prevents stockholders from electing all directors at each annual meeting and may have the effect of delaying or deferring a change in control.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

     Our primary market risks include changes in foreign currency exchange rates and interest rates. Market risk is the potential loss arising from adverse changes in market rates and prices, such as foreign currency exchange and interest rates. We do not use financial instruments to any degree to manage these risks. We do not use financial instruments to manage changes in commodity prices, and do not hold or issue financial instruments for trading purposes. The functional currency of Spectranetics International B.V. is the euro. All revenue and expenses are translated to U.S. dollars in the consolidated statements of operations using weighted average exchange rates during the period. Fluctuation in euro currency rates during the three months ended March 31, 2003, as compared with the three months ended March 31, 2002, caused a decrease in consolidated revenue and operating expenses of less than two percent.

     Our exposure to market rate risk for changes in interest rates relates primarily to our investment portfolio. We do not use derivative financial instruments in our investment portfolio. We place our investments with high quality issuers and, by policy, limit the amount of credit exposure to any one issuer. We are averse to principal loss and ensure the safety and preservation of our invested funds by limiting default, market and reinvestment risk. We classify our cash equivalents and marketable securities as “fixed-rate” if the rate of return on such instruments remains fixed over their term. (These “fixed-rate” investments include U.S. government securities, commercial paper, asset backed securities, and corporate bonds.) Fixed rate securities may have their fair value adversely affected due to a rise in interest rates and we may suffer losses in principal if forced to sell securities that have declined in market value due to a change in interest rates. We classify our cash equivalents and marketable securities as “variable-rate” if the rate of return on such investments varies based on the change in a predetermined index or set of indices during their term. These “variable-rate” investments primarily include money market accounts. The Company does not consider the potential losses in future earnings, cash flows and fair values from reasonable near-term changes in exchange rates or interest rates to be material.

Item 4. Controls and Procedures

     We maintain disclosure controls and procedures that are designed to ensure that information required to be disclosed in the our Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. In designing and evaluating the disclosure controls and procedures, management recognized that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives, and management necessarily was required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.

     Within 90 days prior to the date of filing this report, we carried out an evaluation, under the supervision of and with the participation of our management, including our Chief Executive Officer and our Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls

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Item 3. Quantitative and Qualitative Disclosures About Market Risk (cont’d)

and procedures. Based on the foregoing, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective.

     We have evaluated our systems of internal controls and have not identified any significant deficiencies or material weaknesses. There have been no significant changes in our internal controls or in other factors that could significantly affect our internal controls subsequent to the date we completed our evaluation.

Part II—OTHER INFORMATION

Item 1. Legal Proceedings

     The Company is involved in a dispute over royalties payable to one of its licensors, Interlase LP, which has been in receivership since September 1998 under the supervision of a state court in Virginia. In addition, because the general partner of Interlase, Lucre Investments, Ltd., filed a voluntary chapter 7 petition on behalf of Interlase in 1999, there is also a pending bankruptcy proceeding in the United States Bankruptcy Court in the Eastern District of Virginia. In October 2002, the licensor completed an audit of the Company’s records relating to a license agreement entered into in 1993 and is claiming past royalties due of approximately $1.1 million related to lead removal products as well as certain service revenue. They are also claiming forward royalties on these items for periods subsequent to October 2002. The Company disagrees with the licensor’s assertion that additional royalties are due and has filed a complaint in the United States District Court in Denver, Colorado seeking a declaratory judgment that: (1) Spectranetics and the products at issue do not infringe patents that are the subjects of the agreement; and (2) Spectranetics does not owe any additional sums as contended by the licensor under the terms of the agreement and the licensor does not have the right to terminate the agreement as a result of its improper claims. No ruling has been made on the filed complaint.

     In March 2003, Interlase filed a complaint in the United States District Court for the Eastern District of Virginia claiming Spectranetics is in breach of the same patent license agreement and is infringing the patents that are the subject of the license agreement. In the complaint, Interlase claims an amount in controversy in excess of $1 million, exclusive of interest and costs, in addition to certain other forms of relief, such as treble damages, a declaratory judgment and injunctive relief. The claims for relief all relate to royalties allegedly owed to or due Interlase in the future associated with certain lead removal products and certain services the Company provides to its customers. The Company believes the claims are not justified and plans to vigorously defend its position.

     The Company is involved in other legal proceedings in the normal course of business and does not expect them to have a material adverse effect on our business.

Items 2-5. Not applicable

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Item 6. Exhibits and Reports on Form 8-K

     On April 17, 2003, pursuant to Securities and Exchange Commission Release No. 33-8216, the Company filed a Current Report on Form 8-K which included as an exhibit a press release dated April 17, 2003, which sets forth our results of operations for the quarter ended March 31, 2003.

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.

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CERTIFICATIONS

I, John G. Schulte, President and Chief Executive Officer of The Spectranetics Corporation, certify that:

     1.     I have reviewed this quarterly report on Form 10-Q of The Spectranetics Corporation;

     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 the 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 or not 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.

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     I, Guy A. Childs, Vice President, Chief Financial Officer of The Spectranetics Corporation, certify that:

     1.     I have reviewed this quarterly report on Form 10-Q of The Spectranetics Corporation;

     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 the 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 or not 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.

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EXHIBIT INDEX