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Securities and Exchange Commission

Form 10-Q

(Mark One)

Commission File Number: 000-49867

CTI MOLECULAR IMAGING, INC.

(865) 218-2000
(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 proceeding 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   o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).     Yes   o    No   x

APPLICABLE ONLY TO CORPORATE ISSUERS

As of February 1, 2003, the registrant had outstanding 43,554,207 shares of common stock, par value $0.01.

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CTI Molecular Imaging, Inc.
Quarterly Report on Form 10-Q

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CAUTIONARY NOTICE REGARDING FORWARD-LOOKING STATEMENTS

     This report contains “forward-looking statements.” Forward-looking statements relate to expectations, beliefs, future plans and strategies, anticipated events or trends and similar expressions concerning matters that are not historical facts or that necessarily depend upon future events. In some cases, you can identify forward-looking statements by terms such as “may,” “will,” “should,” “could,” “would,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “project,” “predict,” “potential,” and similar expressions. Specifically, this report contains, among others, forward-looking statements about:

	•		our expectations regarding financial condition or results of operations for periods after December 31, 2002;
	•		our future sources of and needs for liquidity and capital resources;
	•		our critical accounting policies;
	•		the timing of the exercisability of the Siemens option to purchase an additional ownership interest in CPS and the effect of the Siemens option, or its exercise, on our business;
	•		our expectations regarding the size and growth of the market for our products and services;
	•		our business strategies and our ability to grow our business;
	•		our ability to enhance existing, or develop new products and services and the impact of any such enhancements or developments;
	•		the development of new applications for PET and the impact of any such new applications;
	•		the implementation or interpretation of current or future regulations and legislation;
	•		our ability to develop new proprietary radiopharmaceuticals;
	•		the number and scope of procedures involving our products and services for which third-party reimbursement is available, and the reimbursement levels of third-party payors;
	•		our ability to maintain contracts and relationships with key suppliers, customers, distributors or research and development collaboration partners; and
	•		our ability to maintain our existing, or to develop additional, valuable intellectual property rights.

     The forward-looking statements contained in this report reflect our current views about future events, are based on assumptions and are subject to known and unknown risks and uncertainties. Many important factors could cause our actual results or achievements to differ materially from any future results or achievements expressed in or implied by our forward-looking statements. Many of the factors that will determine future events or achievements are beyond our ability to control or predict. Important factors that could cause actual results or achievements to differ materially from the results or achievements reflected in our forward-looking statements include, among other things, the factors discussed in Part I, Item 2 of this report under the sub-heading “Factors Affecting Operations and Future Results.”

     You should read this report, the information incorporated by reference into this report and the documents filed as exhibits to this report completely and with the understanding that our actual future results or achievements may be materially different from what we currently expect or anticipate.

     The forward-looking statements contained in this report reflect our views and assumptions only as of the date this report is signed. Except as required by law, we assume no responsibility for updating any forward-looking statements.

     We qualify all of our forward-looking statements by these cautionary statements. In addition, with respect to all of our forward-looking statements, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.

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PART I: Financial Information

ITEM 1. Condensed Consolidated Financial Statements (unaudited):

CTI MOLECULAR IMAGING, INC. AND SUBSIDIARIES

The accompanying notes are an integral part of these condensed consolidated financial statements.

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CTI MOLECULAR IMAGING, INC. AND SUBSIDIARIES

The accompanying notes are an integral part of these condensed consolidated financial statements.

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CTI MOLECULAR IMAGING, INC. AND SUBSIDIARIES

The accompanying notes are an integral part of these condensed consolidated financial statements.

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CTI MOLECULAR IMAGING, INC. AND SUBSIDIARIES

1. Organization and Presentation

     The unaudited condensed consolidated financial statements include the accounts of CTI Molecular Imaging, Inc. (CTI) and all of its subsidiaries (the “Company”), namely CTI Services, Inc. (Services), Advanced Crystal Technology, Inc. (ACT), CTI GmbH (GmbH), PETNET Pharmaceuticals, Inc. (PETNET), and CTI PET Systems, Inc., doing business as CPS Innovations (CPS). All of the subsidiaries are wholly owned except for CPS in which CTI owns 50.1%. The balance of CPS is owned by Siemens Medical Solutions USA, Inc. (Siemens).

     The Company’s products and services can be broadly classified into four principal categories: Positron Emission Tomography (PET) scanners, radiopharmaceuticals, detector materials, and other PET products and services. CPS manages the development and production and sale of the ECAT® line of PET scanners. PETNET develops, produces and distributes radiopharmaceuticals. ACT and CTI’s unincorporated division, Detector Materials, develop and manufacture detector materials used in PET scanners. CTI Services includes the direct sale and service by CTI of the ECAT® line of PET scanners, cyclotron systems and other PET related products.

2. Summary of Significant Accounting Policies

     Interim Financial Statements — The unaudited condensed consolidated financial statements have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (the “SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. These financial statements should be read in conjunction with the financial statements and the notes thereto included in the Company’s Form 10-K previously filed with the SEC on December 19, 2002. Information in the accompanying unaudited condensed consolidated financial statements and notes to the financial statements for the three month periods ended December 31, 2002 and 2001, is unaudited. In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation of financial position, results of operations and cash flows for the periods presented have been included. Operating results for the three month period ended December 31, 2002 are not necessarily indicative of the results that may be expected for the year ending September 30, 2003 or any future period.

     Principles of Consolidation — All significant intercompany balances and transactions have been eliminated. The Company periodically enters into arrangements in which it holds a majority of the equity ownership. In some instances, the Company also has influence over a majority of the board of directors or managers. The Company determines accounting for these investments under Statement of Financial Accounting Standard (SFAS) No. 94 and Accounting Principles Board (APB) Opinion No. 18 and, where appropriate, evaluates its and the minority shareholders’ participating rights in accordance with Emerging Issues Task Force (EITF) Issue 96-16 to determine whether consolidation or equity method accounting is appropriate in each case.

     CTI owns a majority interest in CPS. Under the terms of the CPS operating agreement, CTI has influence over a majority of the board of directors. Decisions deemed participating rights, including approval of operating budgets and management compensation, are determined by a majority vote of the board of directors. The board of directors of CPS consists of two directors selected by CTI, two directors selected by Siemens, and a fifth director selected by Siemens from a list of persons selected by CTI. Neither Siemens nor any member of the board of directors of CPS who was selected or nominated by Siemens has any substantive participating or veto rights with regard to significant operating, budget, capital and other decisions. CPS is consolidated in the Company’s financial statements.

     In cases where the minority shareholder is deemed to have “veto rights” or has equal representation on the board of directors, the Company accounts for these investments using the equity method as the Company does not have control over significant operating decisions. The Company has invested in five radiopharmacies that are accounted for under the equity method.

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     Revenue Recognition — The Company records revenues in accordance with the guidance of the Securities and Exchange Commission’s Staff Accounting Bulletin No. 101 (SAB 101), specifically when persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the contract price is fixed or determinable, and collectibility is reasonably assured. No right of return privileges are granted to customers after shipment.

     The Company accounts for sales of scanning equipment and related installation and associated training services as multiple-element arrangements. The Company recognizes revenue for the elements separately as (i) the sales of the equipment, installation and training services represent separate earnings processes, (ii) revenue is allocated among the elements based on the fair value of the elements and (iii) installation and associated training are not deemed essential to the functionality of the equipment (as other companies are available to provide the installation and associated training services and are sometimes employed by CTI to do so). The Company determines the value of the equipment and installation and training services based on sales of the equipment both with and without installation and training. The Company derives its revenues from sales of scanners, calibration sources, spare parts, detector materials, cyclotrons, radiopharmaceuticals and the provision of services on equipment sold, including site planning and installation, repair and maintenance, training, technical support and assistance with licensing. Revenues derived from the sale of scanners, calibration sources, spare parts, and detector materials are recognized upon either shipment or arrival at destination depending on shipment terms.

     Until April 2001, the Company’s scanners were distributed exclusively by Siemens. Under this exclusive distribution arrangement, the Company received and recognized revenue in an amount equal to the price to the customer and paid Siemens a fee to cover its selling, marketing, and distribution costs. Under this arrangement, the Company set the price to the end customer, had ultimate liability to the end customer for product performance, and retained credit risk associated with sales to end customers. In April 2001, the Company implemented a multiple distributor strategy for the sale of scanners by commencing direct distribution and by pursuing additional third-party distributor agreements. Following the implementation of the multiple distributor strategy, the Company received and recognized revenue in an amount equal to the price to the distributor and ceased paying fees to distributors to cover their selling, marketing, and distribution costs. Under these agreements, the Company set the transfer price to distributors who set their own prices to the end customer. The Company does not bear credit risk associated with the sales made by the distributors to end customers. Under the Company’s new distribution agreements for scanners, revenues are recognized upon delivery to our distributors when all other revenue recognition criteria have been met. Revenues derived from installing scanning equipment and associated training are deferred and recognized when installation and training are complete. For cyclotron system sales, all revenue is recognized upon installation and customer acceptance, as installation is deemed essential to the functionality of cyclotrons.

     Revenues derived from distribution of radiopharmaceuticals are recognized upon delivery of the product. Equipment maintenance service contracts are typically three or more years in duration and related revenues are recognized ratably over the respective contract periods as the services are performed. For other services, revenue is recognized upon completion of the service.

     The Company’s contracts require customer payments in advance of revenue recognition. These amounts are reflected as customer advances and recognized as revenue when the Company has fulfilled its obligations under the respective contracts.

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     Earnings per share - Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding during the period. The weighted average number of common shares outstanding does not include unvested restricted shares. These shares, although classified as issued and outstanding, are considered contingently returnable until the restrictions lapse and will not be included in the basic earnings per share calculation until the shares are vested. Diluted earnings per share is computed by giving effect to all dilutive potential common shares, including restricted stock and stock options. A reconciliation of the numerator and denominator used in the calculation of historical basic and diluted earnings per share follows:

     The following amounts of outstanding warrants, convertible redeemable preferred stock, restricted stock and options were excluded from the computation of diluted net income per common share for the three month period ended December 31, 2002 and 2001 because including them would have had an antidilutive effect:

     Recent Accounting Pronouncements

     Asset Retirement - In August 2001 the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 143, Accounting for Asset Retirement Obligations, which is effective for fiscal years beginning after June 15, 2002. This Statement addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. Statement of Financial Accounting Standards No. 143 requires, among other things, that the retirement obligations be recognized when they are incurred and displayed as liabilities on the balance sheet. In addition, the asset’s retirement costs are to be capitalized as part of the asset’s carrying amount and subsequently allocated to expense over the asset’s useful life. The Company adopted Statement of Financial Accounting Standards No. 143 during the first quarter of fiscal year 2003 and this adoption had no significant impact on the Company’s financial statements.

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     Accounting for Impairment- In October 2001 the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, which is effective for fiscal years beginning after December 15, 2001 and interim periods within those fiscal years. This Statement develops one accounting model for long-lived assets that are to be disposed of by sale, as well as addressing the principal implementation issues. The Company adopted Statement of Financial Accounting Standards No. 144 in the first quarter of fiscal year 2003 and this adoption had no impact on the Company’s financial statements.

     Sale Leaseback Transactions - In April 2002 FASB issued SFAS No. 145 (SFAS 145), Rescission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections, which is effective for transactions occurring after May 15, 2002 and fiscal nine months beginning after May 15, 2002. SFAS 145 rescinds FASB Statement No. 4, Reporting Gains and Losses from Extinguishment of Debt, and an amendment of that Statement, FASB Statement No. 64, Extinguishments of Debt Made to Satisfy Sinking-Fund Requirements and amends FASB Statement No. 13, Accounting for Leases, to eliminate an inconsistency between the required accounting for sale-leaseback transactions and the required accounting for certain lease modifications that have economic effects that are similar to sale-leaseback transactions. The adoption of SFAS 145 will require CTI to reclassify the loss on early extinguishment of debt, previously recorded as extraordinary during the fourth quarter of fiscal year 2002, to other (income) expense in the Company’s future comparative financial statements.

     Costs Associated with Exit or Disposal Activities — In June 2002, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard No. 146 (SFAS 146), Accounting for Costs Associated with Exit or Disposal Activities, which is effective for exit or disposal activities that are initiated after December 31, 2002, with early application encouraged. SFAS 146 addresses financial accounting and reporting for the costs associated with exit or disposal activities and nullifies Emerging Issues Task Force (EITF) Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits and Costs to Exit and Activity (Including Certain Costs Incurred in a Restructuring). SFAS 146 requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred, and establishes that fair value is the objective for initial measurement of the liability. The Company believes that the adoption of SFAS 146 will not have a significant impact on the Company’s financial statements.

     Accounting for Revenue Arrangements with Multiple Deliverables — In November 2002, the Financial Accounting Standards Board reached a consensus on Emerging Issues Task Force Issue 00-21 (the Issue), Accounting for Revenue Arrangements with Multiple Deliverables. The guidance in this Issue is effective for revenue arrangements entered into in fiscal periods beginning after June 15, 2003. This Issue addresses certain aspects of the accounting by a vendor for arrangements under which it will perform multiple revenue-generating activities. Specifically, this Issue addresses how to determine whether an arrangement involving multiple deliverables contains more than one earnings process and, if it does, how to divide the arrangement into separate units of accounting consistent with the identified earning processes for revenue recognition purposes. This Issue also addresses how arrangement consideration should be measured and allocated to the separate units of accounting in the arrangement. The Company is evaluating the effect of this Issue on its financial statements.

     Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others — On November 25, 2002, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 45 (FIN 45), Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others, an interpretation of FASB Statements No. 5, 57, and 107 and Rescission of FASB Interpretation No. 34. FIN 45 clarifies the requirements of FASB Statement No. 5, Accounting for Contingencies (FAS 5), relating to the guarantor’s accounting for, and disclosure of, the issuance of certain types of guarantees. FIN 45 requires that upon issuance of a guarantee, the entity (i.e., the guarantor) must recognize a liability for the fair value of the obligation it assumes under that guarantee. The FASB believes that, in current practice, many entities might not be recognizing that liability, believing that GAAP does not require recognition, particularly when the entity does not receive separately identifiable consideration (i.e., a premium) for issuing the guarantee. As noted above, many guarantees are embedded in purchase or sales agreements, service contracts, joint venture agreements, or other commercial agreements and the guarantor in many such arrangements does not receive a separately identifiable upfront payment for issuing the guarantee. FIN 45 is intended to improve the comparability of financial reporting by requiring identical accounting for guarantees issued with a separately identified premium

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and guarantees issued without a separately identified premium. FIN 45’s provisions for initial recognition and measurement should be applied on a prospective basis to guarantees issued or modified after December 31, 2002, irrespective of the guarantor’s fiscal year-end. The guarantor’s previous accounting for guarantees that were issued before the date of FIN 45’s initial application may not be revised or restated to reflect the effect of the recognition and measurement provisions of FIN 45. The Company adopted the disclosure requirements of FIN 45 in the Company’s financial statements in the first quarter of fiscal year 2003. Additional information about guarantees has been disclosed in the footnotes to the Company’s first quarter fiscal year 2003 financial statements.

     Consolidation of Variable Interest Entities - On January 17, 2003, the FASB issued FASB Interpretation No. 46 (FIN 46), Consolidation of Variable Interest Entities, an interpretation of Accounting Research Bulletin No. 51. FIN 46 is an effort to expand upon and strengthen existing accounting guidance that addresses when a company should include in its financial statements the assets, liabilities and activities of another entity. A variable interest entity is any legal structure used for business purposes that either does not have equity investors with voting rights or has equity investors that do not provide sufficient financial resources for the entity to support its activities. A variable interest entity often holds financial assets, including loans or receivables, real estate or other property. A variable interest entity may be essentially passive or it may engage in research and development or other activities on behalf of another company. The objective of FIN 46 is to improve financial reporting by companies involved with variable interest entities. Previously, one company generally has included another entity in its consolidated financial statements only if it controlled the entity through voting interests. FIN 46 changes that by requiring a variable interest entity to be consolidated by a company if that company is subject to a majority of the risk of loss from the variable interest entity’s activities or entitled to receive a majority of the entity’s residual returns or both. The consolidation requirements of FIN 46 apply immediately to variable interest entities created after January 31, 2003. The consolidation requirements apply to older entities in the first fiscal year or interim period beginning after June 15, 2003. The Company is assessing the impact of FIN 46 on its unconsolidated investees and joint ventures.

     Accounting for Stock-Based Compensation – On December 31, 2002 the FASB issued Statement of Financial Accounting Standard 148 (SFAS 148), Accounting for Stock Based Compensation – Transition and Disclosure. SFAS 148 amends FASB Statement No. 123 (SFAS 123), Accounting for Stock-Based Compensation, to provide alternative methods of transition to SFAS 123’s fair value method of accounting for stock based employee compensation. SFAS 148 also amends the disclosure provisions of SFAS 123 and APB Opinion No. 28, Interim Financial Reporting, to require the disclosure in the summary of significant accounting policies of the effects of an entity’s accounting policy with respect to stock based employee compensation on reported net income and earnings per share in annual and interim financial statements. The Statement’s amendments of transition and annual disclosure requirements are effective for fiscal years ending after December 15, 2002, with earlier application permitted for entities with fiscal years ending prior to December 15, 2002. In addition, SFAS 148’s amendment of interim disclosure requirements is effective for interim periods beginning after December 15, 2002. The Company believes that the adoption of SFAS 148 will not have a significant impact on the Company’s financial statements.

3. Inventories

     Inventories consist of the following:

     Cyclotrons, which were delivered but not yet accepted by the customers, are included in inventories as finished goods in the condensed consolidated balance sheets at December 31, 2002 and September 30, 2002 in the amount of $4,409 (unaudited) and $5,978, respectively.

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4. Property and Equipment

     Property and equipment consist of the following:

     Depreciation expense for the three months ended December 31, 2002 and 2001 was $2,517 (unaudited) and $1,396 (unaudited), respectively.

     We used capital leases to finance the procurement of property and equipment in the amounts of $395 (unaudited) and $4,944 (unaudited) for the three months ended December 31, 2002 and 2001, respectively.

5. Commitments and Contingencies

     CTI guarantees lease obligations for radiopharmacy facilities and equipment on behalf of unconsolidated investees in the maximum aggregate amount of $2,724 at December 31, 2002. No liability has been recorded for these lease obligations which expire through 2009. The guarantees are not collaterized by any assets, and are without recourse.

     The Company provides a parts and labor warranty on its products typically for a period of twelve months after installation. Estimated costs of this warranty obligation are charged to cost of revenues at the time revenue is recognized. A summary of the activity in our warranty reserve is as follows:

     On November 21, 2002, General Electric Company filed an action against us and a former General Electric employee now employed by us, in the District Court of Johnson County, Kansas, civil case no. 02-CV-07947. The complaint charges us, and our employee, with alleged misappropriation of trade secrets and unfair competition, and the employee with breach of contract and breach of fiduciary duty. The complaint seeks injunctive relief and an undisclosed amount of damages. On November 21, 2002, General Electric, without notice to us or our employee, obtained a temporary restraining order enjoining the employee from using General Electric’s confidential information and trade secrets, and enjoining us from disclosing or using any confidential information or trade secrets gained by the employee during his employment at General Electric. Because our investigation with respect to the allegations is at a preliminary stage, an estimate of the possible loss or range of loss, if any, cannot be made. Nevertheless, we deny liability and intend to vigorously defend this suit.

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     On September 19, 2002, General Electric filed a complaint against two former employees of General Electric who are now employed by us, in the United States District Court, Eastern District of Wisconsin, civil case no. 02-C-929. The complaint alleges threatened or actual misappropriation of trade secrets, breach of contract and unfair competition. We have not been named as a defendant in that action. The defendants have answered the complaint, and have denied liability.

     In May 2002, Cox Nuclear Pharmacy, Inc. and Accuscan, L.L.C. filed an action against CTI, PETNET and an employee of PETNET, in the United States District Court for the Southern District of Alabama, Southern Division, Civil Action No. 02-cv-0321-CG-C. The plaintiffs have set forth fourteen causes of action against the defendants, including a breach of contract claim related to the sale of a cyclotron and various tort claims alleging misrepresentations in connection with the sale which generally relate to an alleged oral covenant not to compete with the plaintiffs. The plaintiffs are seeking $20 million in compensatory damages on the breach of contract claims and $50 million in aggregate compensatory and punitive damages on the tort claims. CTI believes that the claims are without merit and intends to vigorously defending this suit.

     We are also involved in various other lawsuits and claims arising in the normal course of business. Although the outcomes of these other lawsuits and claims are uncertain, we do not believe any of them will have a material adverse effect on our business, financial condition or results of operations.

6. Long-Term Debt

     On September 30, 2002 CTI executed, and all of its subsidiaries guaranteed, an amended and restated syndicated revolving credit facility (the Syndicated Facility) with a group of banks. The modifications to the original $90,000 syndicated facility executed on March 14, 2002, primarily included increasing the total credit available to $125,000, decreasing the banks’ lending margin, reducing certain restrictive covenants, and extending the maturity. Borrowing under the Syndicated Facility is collateralized by all property and interests in property, presently owned or hereafter acquired or presently existing or hereafter created by CTI or its subsidiaries as guarantors, including any and all proceeds thereof, in which a security interest is now or hereinafter granted; provided, however, that all real property of CTI encumbered with an existing mortgage, as of March 14, 2002, is excluded; and provided further that the property and interests of CPS are limited to the inventory and accounts receivable and all proceeds therefrom of CPS. Interest is at LIBOR plus 0.75% to 1.75% or, at our option, the lender’s base rate plus 0.00% to 0.75%, payable monthly (2.88% at December 31, 2002). The Syndicated Facility matures on October 15, 2005 and contains certain restrictive covenants, which, among other things, require minimum tangible net worth, funded debt, and debt service ratios; impose limitations on other indebtedness and liens; and, restrict investments, disposals of assets and dividend payments. There was no outstanding balance of the Syndicated Facility at December 31, 2002.

     Industrial Revenue Bonds — In 1988 ACT entered into an agreement with the Industrial Development Board of Blount County, Tennessee (the Board) relating to the issue of Industrial Development Revenue Bonds (the Series 1988 Bonds) by the Board in the aggregate principal amount of $5,000 for the purpose of lending proceeds from the Bonds to ACT. Such proceeds were restricted to use in the acquisition, construction, improvement, and equipping of a manufacturing plant in Blount County, Tennessee. The remaining $4,000 balance of the Series 1988 Bonds is supported by an irrevocable letter of credit agreement that expires March 14, 2004. The Series 1988 Bonds are due in August 2008.

     On August 1, 2000 ACT entered into an agreement with the Board relating to the issue of Industrial Development Revenue Bonds (the Series 2000 Bonds) by the Board in the aggregate principal amount of $3,000 for the purpose of lending proceeds from the Series 2000 Bonds to the Company. Such proceeds are restricted to use in the acquisition, construction, improvement and equipping of the ACT manufacturing plant in Blount County, Tennessee. At December 31, 2002 the remaining $2,300 balance of the Series 2000 Bonds is supported by an irrevocable letter of credit agreement that expires March 14, 2004. The Series 2000 Bonds are due in August 2010. In May 2002, ACT redeemed all outstanding tax exempt bonds and reissued taxable bonds for the purpose of terminating federal government limitations on aggregate capital expenditures.

     CTI is required to repay 10.0% of the outstanding debt annually, for both series. Both bond series bear interest at variable rates, which change from time to time as set by the remarketing agents for the bonds, in order to remarket both bond series in a secondary market (interest rates were from 1.55% to 1.95% at December 31, 2002).

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     Notes Payable — At December 31, 2002, CTI may borrow up to $7,900 under the terms of a construction loan agreement with a bank. Interest is at LIBOR plus 1.00% to 2.00% after a modification executed in July 2002 (3.32% at September 30, 2002) payable monthly. Prior to the execution of the modification in July 2002, interest was at LIBOR plus 1.25% to 2.25% (2.94% at December 31, 2002) payable monthly. The outstanding balance on this construction loan agreement, which matures on February 15, 2004, was $7,550 at December 31, 2002.

     During 2000, CTI entered into a mortgage loan agreement to purchase its current office space, which had previously been leased. CTI is required to make principal and interest payments totaling $720 per year through 2005. The debt bears interest at LIBOR plus 1.00% to 2.00% after a modification executed in July 2002, resulting in a rate of 2.88% at December 31, 2002. The outstanding balance on this mortgage loan was $3,790 at December 31, 2002.

7. Income Taxes

     The Company files a consolidated federal tax return that includes CTI, PETNET, Services and ACT. CPS files a separate federal return and GmbH files a German return. The Company’s effective tax rate on income before taxes and minority interest differs from the federal statutory rate as follows:

8. Stock Options and Restricted Stock

Incentive Stock Option Plans

     In 1998 the Company adopted an incentive stock option plan for officers and key employees. The options are generally exercisable in installments of 25% per year from the grant date, except that options granted to persons who, at the time of grant, have been employed by the Company for at least 10 years are fully exercisable upon grant. The options expire after five to seven years. Twelve million eight hundred thousand shares had been authorized under this plan; however, after the adoption of the 2002 Long-Term Incentive Plan in May 2002, no further awards will be granted under this plan. On May 23, 2002, the Company’s shareholders approved the 2002 Long-Term Incentive Plan which authorized three million shares.

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     The following table summarizes information about incentive stock options under both plans at December 31, 2002:

(1)		Weighted average contractual life remaining in years.
(2)		Weighted average exercise price.

Non-qualified Options

     In addition, the Company provides non-qualified stock options to certain officers and key employees. The options are generally exercisable in installments of 25% per year from the grant date, except that options granted to persons who, at the time of grant, have been employed by the Company for at least 10 years are fully exercisable upon grant. The options expire after five to ten years.

     The following table summarizes information about non-qualified stock options at December 31, 2002:

(1)		Weighted average contractual life remaining in years.
(2)		Weighted average exercise price.

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Stock-based Compensation

     During the three months ended December 31, 2002, 2,000 options to purchase common stock were issued to non-employees. The fair value of these options of $26 was charged to stock-based compensation expense, and was determined using the Black-Scholes option-pricing model using a risk-free interest rate of 7.39%, an expected life of seven years (the life of the options), volatility of 35%, and no expected dividends.

     During the year ended September 30, 2002, the Company issued options to purchase common stock with exercise prices ranging from $4.69 to $22.40. In connection with the issuance of these options to purchase common stock, the Company recorded unearned compensation of $4,441. The Company is amortizing the balance of unearned compensation over the respective vesting periods ranging from three to four years. For the three months ended December 31, 2002, the Company amortized $285 to stock-based compensation expense.

     During the year ended September 30, 2002, the Company issued 214,528 restricted shares of common stock at prices ranging from $15.55 to $22.40 in connection with hiring executives. In connection with these restricted common shares, the Company recorded unearned compensation of $3,724. The Company is amortizing the balance to stock-based compensation expense over the four year vesting periods during which the restrictions expire. For the three months ended December 31, 2002, the Company amortized $233 to stock-based compensation expense.

     During the year ended September 30, 2002, the Company issued warrants to purchase common stock to a consultant in exchange for receiving consulting services. The fair value of the warrants was estimated using the Black-Scholes option-pricing model using a risk-free interest rate of 6.77%, and expected life of five years (the term of the associated contract), volatility of 75%, and no expected dividends. In connection with the issuance of these warrants to purchase common stock, the Company recorded unearned compensation of $253. The Company is amortizing the balance of unearned compensation to stock-based compensation expense over the term of the consulting contract. For the three months ended December 31, 2002, the Company amortized $12 to stock-based compensation expense.

9. Related Party Transactions

     From 1987 through April 2001, Siemens was the exclusive distributor of scanners manufactured by CPS. In April 2001 CPS implemented a new multiple distributor strategy. The current distribution agreement with Siemens, which was effective March 1, 2002, has an initial term of five years with a one-year renewal period. The agreement is cancelable with three years notice upon the expiration of the then current term. Transfer prices are set annually and vary with product type and annual shipment volume. Sales are F.O.B. factory. Siemens is provided a warranty discount to cover their cost of parts during the first twelve months of usage. Siemens is responsible for all site planning, installation and customer training. The Company’s sales through and to Siemens were $25,254 (unaudited), and $27,195 (unaudited), during the three month periods ended December 31, 2002 and 2001, respectively. Accounts receivable from Siemens totaled $22,112 (unaudited) and $39,918, at December 31, 2002 and September 30, 2002, respectively. Also, customer advances from Siemens totaled $2,275 (unaudited) and $1,214, at December 31, 2002 and September 30, 2002, respectively.

     Under the terms of an agreement with Siemens (the Siemens Agreement), Siemens shall have the right to purchase, or CTI shall have the right to require Siemens to purchase, an additional 30.1% of CPS. The exercise of this put/call is contingent upon cumulative unit sales of ECAT® scanners reaching a defined target level. At December 31, 2002 the cumulative total number of units sold by CPS was 550. By September 30, 2003, CPS would need to have sold a cumulative total of 981 units to achieve the required cumulative sales level for the put/call to be exercisable, with such cumulative unit sales requirement increasing by 74 units each year thereafter. Upon exercise of the put/call, the Siemens Agreement provides for the purchase price to be established through an independent third party valuation process if the parties are unable to agree upon a price. Once CTI is notified of Siemens’ intent to purchase the additional interest, CTI shall have the right to defer the Siemens purchase for one year. CTI does not expect this target level to be reached before 2005.

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10. Segments

     The Company operates in four reportable business segments based on differences in products and services: CPS, PETNET, Detector Materials, and CTI Services. CPS designs, manufactures and markets medical research and scanning equipment. PETNET manufactures and distributes radiopharmaceuticals to customers. Detector Materials manufactures a scintillation component sold primarily to CPS. The Company’s direct distribution and service of cyclotron systems and PET scanners are reflected in CTI Services.

     The accounting policies of the segments are the same as those described in the “Summary of Significant Accounting Policies.” Segment data includes intersegment revenues. Assets and costs of the corporate headquarters are allocated to the segments based on usage with the exception of the Company’s headquarters building and non-allocable costs which are included in “Corporate and Other.” The Company evaluates the performance of its segments based on net income (loss). The Company’s business is conducted principally in the U.S.; however, the Company does have foreign operations for which identifiable assets are immaterial.

     The following table summarizes information about net income (loss) and segment assets used by the chief operating decision maker of the Company in making decisions regarding allocation of assets and resources as of and for the three month period ended December 31, 2002 and 2001: