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Table of Contents
 
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
FORM 10-Q
 
x
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
  For the quarterly period ended June 30, 2002
 
OR
 
¨
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
  For the transition period from                          to                         
 
Commission File No. 0-22958
 
 
INTERPORE INTERNATIONAL, INC.
(Exact name of registrant as specified in its charter)
 
Delaware
(State or other jurisdiction
of incorporation or organization)
  
95-3043318
(I.R.S. employer
Identification number)
 
181 Technology Drive, Irvine, California
(Address of Principal Executive Offices)
  
92618-2402
(Zip Code)
 
Registrant’s telephone number, including area code: (949) 453-3200
 
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  ¨
 
As of August 9, 2002, there were 17,278,542 shares of the registrant’s common stock issued and outstanding.
 

Table of Contents
INTERPORE INTERNATIONAL, INC.
 
INDEX
 
        
Page(s)
PART I.    FINANCIAL INFORMATION
     
Item 1.    Financial Statements
     
      
3
      
4
      
5
      
6
  
9
  
14
PART II.    OTHER INFORMATION
     
Item 1.     Legal Proceedings
   
15
  
15
  
16

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Table of Contents
 
INTERPORE INTERNATIONAL, INC.
 
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except share data)
 
    
December 31,
2001
     
June 30,
2002
  
           
(unaudited)
  
ASSETS
                  
Current assets:
                  
Cash and cash equivalents
   
$
6,538
 
   
$
1,161
 
Accounts receivable, less allowance for doubtful accounts of $688 and $760 in 2001 and 2002, respectively
   
 
13,051
 
   
 
13,911
 
Inventories
   
 
16,479
 
   
 
23,796
 
Prepaid expenses
   
 
763
 
   
 
2,451
 
Deferred income taxes
   
 
1,964
 
   
 
1,964
 
    
  
Total current assets
   
 
38,795
 
   
 
43,283
 
Property, plant and equipment, net
   
 
2,354
 
   
 
3,325
 
Deferred income taxes
   
 
1,022
 
   
 
1,022
 
Intangible assets, net
   
 
22,130
 
   
 
22,653
 
Other assets
   
 
261
 
   
 
268
 
    
  
Total assets
   
$
64,562
 
   
$
70,551
 
    
  
LIABILITIES AND STOCKHOLDERS’ EQUITY
                  
Current liabilities:
                  
Accounts payable
   
 
1,981
 
   
 
4,160
 
Accrued compensation and related expenses
   
 
1,969
 
   
 
1,774
 
Accrued royalties
   
 
474
 
   
 
569
 
Income taxes payable
   
 
664
 
   
 
723
 
Other accrued liabilities
   
 
544
 
   
 
1,970
 
    
  
Total current liabilities
   
 
5,632
 
   
 
9,196
 
    
  
Commitments and contingencies
                  
Stockholders’ equity:
                  
Series E convertible preferred stock, voting, par value $.01 per share:
Authorized shares—594,000; issued and outstanding shares—none
   
 
—  
 
   
 
—  
 
Preferred stock, par value $.01 per share: Authorized shares—4,406,000;
outstanding shares—none
   
 
—  
 
   
 
—  
 
Common stock, par value $.01 per share: Authorized shares—50,000,000; issued and outstanding shares—17,543,605 at December 31, 2001 and 17,883,517 at June 30, 2002
   
 
175
 
   
 
178
 
Additional paid-in-capital
   
 
62,717
 
   
 
63,843
 
Retained earnings (accumulated deficit)
   
 
(853
)
   
 
443
 
    
  
    
 
62,039
 
   
 
64,464
 
Less treasury stock, at cost—605,000 shares at December 31, 2001 and June 30, 2002
   
 
(3,109
)
   
 
(3,109
)
    
  
Total stockholders’ equity
   
 
58,930
 
   
 
61,355
 
    
  
Total liabilities and stockholders’ equity
   
$
64,562
 
   
$
70,551
 
    
  
 
See accompanying notes.
 

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INTERPORE INTERNATIONAL, INC.
 
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
(unaudited)
 
    
Three months ended
June 30,
     
Six months ended
June 30,
  
    
2001
     
2002
     
2001
     
2002
  
Net sales
   
$
13,016
 
   
$
14,663
 
   
$
24,297
 
   
$
28,449
 
Cost of goods sold
   
 
3,723
 
   
 
4,125
 
   
 
7,085
 
   
 
7,837
 
    
  
  
  
Gross profit
   
 
9,293
 
   
 
10,538
 
   
 
17,212
 
   
 
20,612
 
    
  
  
  
Operating expenses:
                                    
Research and development
   
 
1,689
 
   
 
2,066
 
   
 
3,286
 
   
 
3,979
 
Selling and marketing
   
 
4,528
 
   
 
5,956
 
   
 
8,530
 
   
 
11,309
 
General and administrative
   
 
1,347
 
   
 
1,612
 
   
 
2,371
 
   
 
3,531
 
    
  
  
  
Total operating expenses
   
 
7,564
 
   
 
9,634
 
   
 
14,187
 
   
 
18,819
 
    
  
  
  
Income from operations
   
 
1,729
 
   
 
904
 
   
 
3,025
 
   
 
1,793
 
    
  
  
  
Interest income
   
 
152
 
   
 
15
 
   
 
353
 
   
 
39
 
Interest expense
   
 
(6
)
   
 
(10
)
   
 
(6
)
   
 
(10
)
Other income
   
 
126
 
   
 
150
 
   
 
261
 
   
 
285
 
    
  
  
  
Total interest and other income, net
   
 
272
 
   
 
155
 
   
 
608
 
   
 
314
 
    
  
  
  
Income before taxes
   
 
2,001
 
   
 
1,059
 
   
 
3,633
 
   
 
2,107
 
Income tax provision
   
 
771
 
   
 
408
 
   
 
1,399
 
   
 
811
 
    
  
  
  
Net income
   
$
1,230
 
   
$
651
 
   
$
2,234
 
   
$
1,296
 
    
  
  
  
Net income per share:
                                    
Basic
   
$
.09
 
   
$
.04
 
   
$
.15
 
   
$
.08
 
Diluted
   
$
.08
 
   
$
.04
 
   
$
.15
 
   
$
.07
 
Shares used in computing net income per share:
                                    
Basic
   
 
14,429
 
   
 
17,245
 
   
 
14,426
 
   
 
17,187
 
Diluted
   
 
14,634
 
   
 
18,197
 
   
 
14,629
 
   
 
18,252
 
 
 
See accompanying notes.
 

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INTERPORE INTERNATIONAL, INC.
 
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
 
    
Six months ended
June 30,
  
    
2001
     
2002
  
Cash flows from operating activities
                  
Net income
   
$
2,234
 
   
$
1,296
 
Adjustments to reconcile net income to net cash provided by (used in) operating activities:
                  
Depreciation
   
 
364
 
   
 
542
 
Amortization
   
 
112
 
   
 
145
 
Compensation from stock option grants
   
 
—  
 
   
 
184
 
Changes in operating assets and liabilities:
                  
Accounts receivable
   
 
(859
)
   
 
(860
)
Inventories
   
 
(792
)
   
 
(7,317
)
Prepaid expenses
   
 
(957
)
   
 
(1,688
)
Other assets
   
 
(426
)
   
 
(7
)
Accounts payable and accrued liabilities
   
 
2,425
 
   
 
3,522
 
    
  
Net cash provided by (used in) operating activities
   
 
2,101
 
   
 
(4,183
)
    
  
Cash flows from investing activities
                  
Net cash paid for American OsteoMedix Corporation
   
 
—  
 
   
 
(66
)
Capital expenditures
   
 
(417
)
   
 
(1,513
)
Expenditures for patent rights and other intangible assets
   
 
(67
)
   
 
(560
)
    
  
Net cash used in investing activities
   
 
(484
)
   
 
(2,139
)
    
  
Cash flows from financing activities
                  
Repayment of long-term debt and capital lease obligations
   
 
(10
)
   
 
—  
 
Proceeds from exercise of stock options
   
 
3
 
   
 
885
 
Proceeds from employee stock purchase plan
   
 
40
 
   
 
60
 
    
  
Net cash provided by financing activities
   
 
33
 
   
 
945
 
    
  
Net increase (decrease) in cash and cash equivalents
   
 
1,650
 
   
 
(5,377
)
Cash and cash equivalents at beginning of period
   
 
14,610
 
   
 
6,538
 
    
  
Cash and cash equivalents at end of period
   
$
16,260
 
   
$
1,161
 
    
  
 
See accompanying notes.

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Table of Contents
INTERPORE INTERNATIONAL, INC.
 
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
June 30, 2002
(unaudited)
 
1.    Organization and Description of Business
 
Interpore International, Inc., doing business as Interpore Cross International, together with its subsidiaries, unless the context implies otherwise (“Interpore Cross”), operates in one business segment: the design, manufacture and marketing of medical devices for the orthopedic marketplace. Interpore’s products are distributed in the United States and internationally.
 
2.    Basis of Presentation
 
The accompanying unaudited condensed consolidated financial statements have been prepared pursuant to Securities and Exchange Commission regulations. In the opinion of management, the accompanying condensed consolidated financial statements include all adjustments (consisting only of normal recurring adjustments) necessary to present fairly the consolidated financial position at June 30, 2002 and the consolidated results of operations and cash flows for the periods ended June 30, 2001 and 2002.
 
The accompanying condensed consolidated financial statements include the accounts of Interpore Cross and its subsidiaries after elimination of all significant intercompany transactions. On July 10, 2001, Interpore Cross completed the acquisition of American OsteoMedix Corporation, (“AOM”), a developer, manufacturer and marketer of minimally invasive surgery products. The transaction has been accounted for using the purchase method of accounting. Results of operations of AOM are included in our consolidated results of operations beginning on July 10, 2001.
 
The results of operations and cash flows for the periods ended June 30, 2002 are not necessarily indicative of results to be expected for future quarters or the full year.
 
These consolidated financial statements should be read in conjunction with the financial statements included in Interpore Cross’ Annual Report on Form 10-K for the year ended December 31, 2001, as filed with the Securities and Exchange Commission.

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Table of Contents
 
3.    Earnings Per Share
 
Basic earnings per share (EPS) is calculated by dividing net earnings by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the assumed conversion of all dilutive securities, consisting of employee stock options and warrants. The following table presents the computation of net income per share (in thousands, except per share data):
 
    
Three months ended
June 30,
   
Six months ended
June 30,
    
2001
   
2002
   
2001
   
2002
Net income
   
$
1,230
   
$
651
   
$
2,234
   
$
1,296
    
  
  
  
Shares used in computing net income per share—basic:
                            
Weighted average common shares outstanding
   
 
14,429
   
 
17,245
   
 
14,426
   
 
17,187
Effect of dilutive securities:
                            
Shares issuable pursuant to stock option plans
   
 
205
   
 
952
   
 
203
   
 
1,065
    
  
  
  
Shares used in computing net income per share—diluted
   
 
14,634
   
 
18,197
   
 
14,629
   
 
18,252
    
  
  
  
Net income per share—basic
   
$
.09
   
$
.04
   
$
.15
   
$
.08
Net income per share—diluted
   
$
.08
   
$
.04
   
$
.15
   
$
.07
 
4.    Inventories
 
Inventories are stated at the lower of first-in, first-out average cost or market. Inventories are comprised of the following (in thousands):
 
    
December 31,
2001
   
June 30,
2002
Raw materials
   
$
1,503
   
$
1,433
Work-in-process
   
 
742
   
 
703
Finished goods
   
 
14,234
   
 
21,660
    
  
    
$
16,479
   
$
23,796
    
  
 
5.    Recent Accounting Pronouncements
 
In June 2001, the Financial Accounting Standards Board issued Statements of Financial Accounting Standards (“SFAS”) No. 141, Business Combinations and No. 142, Goodwill and Other Intangible Assets. SFAS No. 141 addresses financial accounting and reporting for business combinations and requires all business combinations to be accounted for using the purchase method. SFAS No. 142 addresses the initial recognition and measurement of goodwill and other intangible assets acquired in a business combination. Goodwill and other intangible assets with indefinite lives are no longer amortized, but instead subject to impairment tests at least annually. The impairment test is comprised of two parts. The first step compares the fair value of a reporting unit with its carrying amount, including goodwill. If the carrying amount exceeds the fair value of a reporting unit, the second step of the goodwill impairment test must be performed. The second step compares the implied fair value of the reporting unit’s goodwill with the respective carrying amount in order to determine the amount of impairment loss, if any. In July 2001, upon the acquisition of AOM, Interpore Cross early adopted SFAS No. 141 and SFAS No. 142. In connection with the acquisition, approximately $20 million of the purchase price was allocated to goodwill. Prior to July 2001, Interpore Cross had no goodwill or other intangible assets with indefinite lives. In accordance with SFAS No. 142, Interpore performed the first part of the two-step goodwill impairment test. For

7

Table of Contents
Interpore Cross’ subsidiary, AOM, for which goodwill was recorded, Interpore Cross determined that the fair value exceeded the carrying amount as of January 1, 2002. As a result, the second step of the impairment test was not required. Interpore Cross plans to perform the annual impairment test during the first quarter ending September 30, 2002.
 
In August 2001, the Financial Accounting Standards Board issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets. SFAS No. 144 Supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of and other related accounting guidance. SFAS No. 144 is effective for financial statements issued for fiscal years beginning after December 15, 2001, and interim periods within those fiscal years, with early application encouraged. The provisions of SFAS No. 144 generally are to be applied prospectively. Interpore Cross adopted the statement on January 1, 2002 and believes no impairment of the carrying value of its long-lived assets existed upon adoption and at June 30, 2002.
 
6.    Contingencies
 
On September 5, 2000, Interpore Cross’ wholly-owned subsidiary, Cross Medical Products, Inc. (“Cross”), filed suit in the U.S. District Court, Central District of California, against DePuy AcroMed, Inc., a Johnson & Johnson company and Biedermann Motech GmbH, which suit alleges that DePuy AcroMed has infringed and continues to infringe Cross’ U.S. Patent Nos. 5,466,237 and 5,474,555. These patents relate to screw technology embodied in certain components of the SYNERGY Spinal System. The Complaint seeks damages for willful past and continuing infringement of the patents. The Complaint also seeks a declaratory judgment against DePuy AcroMed and Biedermann Motech that Cross is not infringing Biedermann Motech’s Patent No. 5,207,678. DePuy AcroMed has responded to the Complaint alleging that Cross’ patents are invalid and unenforceable, and alleging that it does not infringe.
 
On May 21, 2001, the Court dismissed Cross’ declaratory judgment claim, ruling that Biedermann Motech is not subject to personal jurisdiction in California and is indispensable to the claim.
 
On January 30, 2002, the Court granted Cross’ motion for summary judgment of infringement of certain claims of Cross’ ‘237 Patent. On February 11, 2002, the Court granted Cross’ motion for summary judgment of infringement of certain claims of Cross’ ‘555 Patent. On March 20, 2002, the Court granted DePuy AcroMed’s motion for summary judgment of invalidity of Cross’ 237 Patent, ruling that this patent is partially invalid. Cross is exploring strategies in response to this ruling and currently plans to challenge it. However, there can be no assurance that Cross will be successful in any such challenge. The trial is currently scheduled for March 2003.
 
Aside from the patent litigation, the nature of Interpore Cross’ business subjects it to product liability and various other legal proceedings from time to time. Interpore Cross is currently involved in legal proceedings incidental to the normal conduct of its business. It does not believe that any liabilities relating to the legal proceedings to which it is a party are likely to be, individually or in the aggregate, material to its consolidated financial condition or results of operations.

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Table of Contents
 
Item 2.     Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
Financial Overview
 
Our revenues are generated from the sale of medical devices in three principal categories—spine products, orthobiologic products and minimally invasive surgery products. Our spine products consist of titanium or stainless steel hooks, rods, plates, spacers and screws and related instruments required for the surgeon to assemble a construct which restores the natural anatomy of the spine, keeping it immobilized while a bone graft eventually fuses the vertebrae. Our orthobiologic products consist of synthetic bone graft substitute materials and products used to derive Autologous Growth Factors™ (AGF™). AGF fibrinogen-rich extract is used to provide faster, more complete bone growth and enhance the performance of our bone graft products. Our minimally invasive surgery products consist of instruments and devices used to deliver biocompatible materials into bony structures in a minimally invasive procedure. The products in this category were obtained in our July 10, 2001 acquisition of American OsteoMedix Corporation (“AOM”), a developer, manufacturer and marketer of minimally invasive surgery products.
 
All of our operations are located in the United States, however, we sell our products to customers both within and outside the United States. Within the United States, we distribute our products primarily through independent agents. These independent agents provide a delivery and consultative service to our surgeon and hospital customers and receive commissions based on sales in their territories. The commissions are reflected in our income statement within selling and marketing expense.
 
For our spine products, we invoice hospitals directly following a surgical procedure in which our products are used. Our spine products are made available to hospitals from consignment inventories maintained by our independent agents, or from loaner implant sets that we ship from our facility. For our orthobiologic and minimally invasive surgery products, we generally ship directly to hospitals from our facility, and we invoice hospitals upon shipment.
 
Outside the United States, we sell our products directly to distributors who maintain an inventory of our products. We record revenue at the time of shipment to the distributor at prices reflecting a discount from our U.S. list prices. The distributors service the surgeons and hospitals, deliver products and invoice hospitals directly at prices determined by the distributors.
 
Because our revenues from U.S. hospitals are primarily at list price, and our revenues from international distributors are at a discount to U.S. list prices, our overall gross margin is subject to fluctuation based on our domestic versus international sales mix, with domestic gross margins being somewhat higher than international gross margins. Additionally, the mix between spine products sales and orthobiologic products sales also affects our gross margins, with higher margins in orthobiologics.
 
Critical Accounting Policies and Estimates
 
Our discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. On an on-going basis, we evaluate our estimates including those related to product returns, bad debts, inventories, intangible assets, income taxes and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

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We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our financial statements:
 
 
•
 
Revenue from sales of product where the customer immediately accepts title is recorded at the time of shipment. Revenue from sales of consigned inventory is recorded upon receipt of written acknowledgement from sales agents or customers that the product has been used in a surgical procedure. Provision is made currently for estimated product returns based on historical experience and other known factors.
 
 
•
 
We maintain an allowance for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required.
 
 
•
 
We provide an inventory reserve for estimated obsolescence or unmarketable inventory equal to the difference between the cost of inventory and the estimated market value based upon assumptions about future demand and market conditions. If actual market conditions are less favorable than those projected by management, additional inventory write-downs may be required.
 
 
•
 
We have significant intangible assets, including goodwill. The determination of related estimated useful lives and whether or not these assets are impaired involves significant judgments. Changes in strategy or market conditions could significantly impact these judgments and require adjustments to recorded asset balances.
 
 
•
 
We currently have deferred tax assets which are subject to periodic recoverability assessments. Realization of our deferred tax assets is principally dependent upon our achievement of projected future taxable income. We evaluate the realizability of the deferred tax assets annually.
 
Results of Operations
 
The following table presents our results of operations as percentages:
 
    
Three months ended June 30,
     
Six months ended June 30,
  
    
Percentage of
net sales
     
Percentage
change
     
Percentage of
net sales
     
Percentage
change
  
    
2001
     
2002
     
2002 vs. 2001
     
2001
     
2002
     
2002 vs. 2001
  
Net sales
   
100.0
%
   
100.0
%
   
12.7
%
   
100.0
%
   
100.0
%
   
17.1
%
Cost of goods sold
   
28.6
%
   
28.1
%
   
10.8
%
   
29.2
%
   
27.5
%
   
10.6
%
    
  
  
  
  
  
Gross profit
   
71.4
%
   
71.9
%
   
13.4
%
   
70.8
%
   
72.5
%
   
19.8
%
    
  
  
  
  
  
Operating expense:
                                          
Research and development
   
13.0
%
   
14.1
%
   
22.3
%
   
13.5
%
   
14.0
%
   
21.1
%
Selling and marketing
   
34.8
%
   
40.6
%
   
31.5
%
   
35.1
%
   
39.8
%
   
32.6
%
General and administrative
   
10.3
%
   
11.0
%
   
19.7
%
   
9.8
%
   
12.4
%
   
48.9
%
    
  
  
  
  
  
Total operating expenses
   
58.1
%
   
65.7
%
   
27.4
%
   
58.4
%
   
66.2
%
   
32.7
%
    
  
  
  
  
  
Income from operations
   
13.3
%
   
6.2
%
   
(47.7
)%
   
12.4
%
   
6.3
%
   
(40.7
)%
    
  
  
  
  
  

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Three months ended June 30, 2001 and 2002
 
For the quarter ended June 30, 2002, net sales of $14.7 million were $1.7 million or 12.7% higher than net sales of $13.0 million for the same period of 2001. The following table presents net sales by category (in thousands):
 
    
Three months ended June 30,
   
Change
  
    
2001
   
2002
   
Amount
     
%
  
Spine product sales
   
$
7,951
   
$
8,909
   
$
958
 
   
12.1
%
Orthobiologic product sales
   
 
5,065
   
 
4,496
   
 
(569
)
   
(11.2
%)
Minimally invasive surgery product sales
   
 
—  
   
 
1,258
   
 
1,258
 
   
n/a
 
    
  
  
  
Net sales
   
$
13,016
   
$
14,663
   
$
1,647
 
   
12.7
%
    
  
  
  
 
Sales of spine products for the quarter ended June 30, 2002 increased by nearly $1 million or 12.1% to $8.9 million, compared to $7.9 million for the quarter ended June 30, 2001. Growth in spine product sales was primarily driven by increased domestic sales of the SYNERGY™ Spinal System and sales of our C-TEK® Anterior Cervical Plate System, which was introduced during the first quarter of 2001.
 
Sales of orthobiologic products decreased $569,000 or 11.2% to $4.5 million for the quarter ended June 30, 2002, compared to $5.1 million for the quarter ended June 30, 2001. Sales of our synthetic bone graft products for the quarter ended June 30, 2002 decreased by 9.8% compared to the quarter ended June 30, 2001. Sales of our AGF™-related products for the quarter ended June 30, 2002 decreased 14.4% compared to the quarter ended June 30, 2001, but have remained essentially unchanged for the last four quarters. We have plans to introduce an allograft putty product and an improved AGF processing option called ACCESS™ this year that may mitigate the trend of declines in sales of orthobiologic products, but there can be no assurance that we will be able to introduce these products or, that upon introduction, these products will be commercially successful.
 
Sales of minimally invasive surgery products were $1.3 million for the quarter ended June 30, 2002. These products were acquired as part of the AOM acquisition in July 2001, and accordingly, no sales were recorded during the quarter ended June 30, 2001.
 
Domestic sales of all product categories in total increased $2.5 million or 25.4% to $12.3 million for the quarter ended June 30, 2002, compared to $9.8 million for the same period of 2001. International sales of $2.4 million for the quarter ended June 30, 2002 were lower by $840,000 or 26.2%, compared to $3.2 million for the quarter ended June 30, 2001. A variety of factors, including economic and political pressures, adversely affected international sales, especially in Latin America, for the quarter ended June 30, 2002.
 
For the quarter ended June 30, 2002, the gross margin was 71.9% of net sales compared to 71.4% of net sales for the quarter ended June 30, 2001. Start up costs associated with establishing production operations for the GEO™ Structure and Access System offset gross margin gains resulting from the higher proportion of domestic sales compared to the quarter ended June 30, 2001 and higher average selling prices for our spinal products.
 
Total operating expenses for the quarter ended June 30, 2002 increased by $2.1 million or 27.4% to $9.6 million, compared to $7.6 million for the quarter ended June 30, 2001. As a percentage of net sales, total operating expenses increased from 58.1% in the quarter ended June 30, 2001 to 65.7% in the quarter ended June 30, 2002. Research and development expenses increased by $377,000 or 22.3%, due primarily to efforts related to the development of potential new products and expenses related to AOM. Selling and marketing expenses increased 31.5% or $1.4 million compared to the second quarter of 2001 primarily due to commissions on increased sales and expenses related to AOM. General and administrative expenses increased by $265,000 or 19.7% compared to the quarter ended June 30, 2001, primarily as the result of legal expenses associated with the DePuy AcroMed litigation, which increased by $208,000 to $342,000 for the quarter ended June 30, 2002, and expenses related to AOM.

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Total interest and other income decreased $117,000 or 43.0%, to $155,000 for the quarter ended June 30, 2002, compared to $272,000 during the same period of 2001. Lower interest income resulted from lower average cash and cash equivalents balances in 2002.
 
The effective tax rates for the second quarters of 2002 and 2001 were 38.5%.
 
Six months ended June 30, 2001 and 2002
 
For the six months ended June 30, 2002, net sales of $28.4 million were $4.1 million or 17.1% higher than net sales of $24.3 million for the same period of 2001. The following table presents net sales by category (in thousands):
 
    
Six months ended June 30,
   
Change
  
    
2001
   
2002
   
Amount
     
%
  
Spine product sales
   
$
14,088
   
$
17,173
   
$
3,085
 
   
21.9
%
Orthobiologic product sales
   
 
10,209
   
 
9,159
   
 
(1,050
)
   
(10.3
)%
Minimally invasive surgery product sales
   
 
—  
   
 
2,117
   
 
2,117
 
   
n/a
 
    
  
  
  
Net sales
   
$
24,297
   
$
28,449
   
$
4,152
 
   
17.1
%
    
  
  
  
 
Sales of spine products for the six months ended June 30, 2002 increased by $3.1 million or 21.9% to $17.2 million, compared to $14.1 million for the six months ended June 30, 2001. Growth in spine product sales was driven primarily by increased domestic sales of the SYNERGY Spinal System and sales of our C-TEK Anterior Cervical Plate System, which was introduced during the first quarter of 2001.
 
Sales of orthobiologic products decreased $1.1 million or 10.3% to $9.1 million for the six months ended June 30, 2002, compared to $10.2 million for the six months ended June 30, 2001. Sales of our synthetic bone graft products decreased by 8.6% compared to the six months ended June 30, 2001 and sales of our AGF-related products decreased 13.9% compared to the six months ended June 30, 2001. We have plans to introduce an allograft putty product and an improved AGF processing option called ACCESS™ this year that may mitigate the trend of declines in sales of orthobiologic products, but there can be no assurance that we will be able to introduce these products or, that upon introduction, these products will be commercially successful.
 
Sales of minimally invasive surgery products were $2.1 million for the six months ended June 30, 2002. These products were acquired as part of the AOM acquisition in July 2001, and accordingly, no sales were recorded during the first half of 2001.
 
Domestic sales of all product categories in total increased $4.7 million or 25.2% to $23.4 million for the six months ended June 30, 2002, compared to $18.7 million for the same period of 2001. International sales of $5.0 million for the six months ended June 30, 2002 were lower by $560,000 or 10.0% compared to $5.6 million for the six months ended June 30, 2001. While our international sales increased 11.8% for the quarter ended March 31, 2002, that increase was more than offset by a 26.2% decline in international sales for the quarter ended June 30, 2002.
 
For the six months ended June 30, 2002, the gross margin was 72.5% of sales compared to 70.8% of sales for the six months ended June 30, 2001. This improvement primarily resulted from higher average selling prices for our spinal products.

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Total operating expenses for the six months ended June 30, 2002 increased by $4.6 million or 32.7% to $18.8 million, compared to $14.2 million for the same period of 2001. As a percentage of net sales, total operating expenses increased from 58.4% in the six months ended June 30, 2001 to 66.2% in the same period of 2002. Research and development expenses increased by $693,000 or 21.1% due primarily to efforts related to the development of potential new products and expenses related to AOM. Selling and marketing expenses increased $2.8 million or 32.6% compared to the six months ended June 30, 2001, primarily due to commissions on increased sales and expenses related to AOM. General and administrative expenses increased by $1.2 million or 48.9% compared to the six months ended June 30, 2001, primarily as the result of legal expenses associated with the DePuy AcroMed litigation, which increased by $781,000 to $967,000 for the six months ended June 30, 2002, and expenses related to AOM.
 
Total interest and other income decreased $294,000 or 48.4%, to $314,000 for the six months ended June 30, 2002, compared to $608,000 during the same period of 2001. Lower interest income resulted from lower average cash and cash equivalents balances in 2002.
 
The effective tax rates for the six month periods ended June 30, 2001 and 2002 were 38.5%.
 
Liquidity and Capital Resources
 
In the first six months of 2002, our operations used cash of approximately $4.2 million primarily related to increased inventory levels of new products, net of increases in related accounts payable and other liabilities. At June 30, 2002, cash and cash equivalents were $1.2 million, down $5.3 million from $6.5 million at December 31, 2001. We invest our excess cash in U.S. Treasury securities and high-grade marketable securities. We also have a $10.0 million secured revolving line of credit available to us that had no amount outstanding at June 30, 2002 and which expires in June 2005.
 
We plan to continue making significant investments this year in initial inventory levels for new products scheduled for launch this year and beyond. We also intend to continue to invest in the development of our business. We believe we currently possess sufficient resources, including our revolving line of credit, to meet the cash requirements of our operations for at least the next year. We expect to begin borrowing under our revolving line of credit in the quarter ending September 30, 2002. We have used and may continue to use our cash, our common stock, or a combination of both to pay for purchased technologies, product lines, mergers and acquisitions. Some of these activities may require cash in excess of that which we currently possess, and we can give no assurance that we will be able to raise the additional capital on satisfactory terms, if at all.
 
At June 30, 2002, we had no material commitments for capital expenditures.
 
Cautionary Note Regarding Forward-Looking Statements
 
We caution the reader that certain important factors may affect our actual results and could cause such results to differ materially from any forward-looking statement which may have been deemed to have been made in this report or which are otherwise made by us or on our behalf. For this purpose any statements contained in this report that are not statements of historical fact may be deemed to be forward-looking statements. Without limiting the generality of the foregoing, words such as “may”, “will”, “expect”, “believe”, “anticipate”, “intend”, “could”, “would”, “estimate”, “continue” or “pursue”, or the negative other variations thereof or comparable terminology are intended to identify forward-looking statements.
 
Forward-looking statements involve risks and uncertainties that cannot be predicted or quantified and, consequently, actual results may differ materially from those expressed or implied by such forward-looking statements. Such risks and uncertainties include, among other things:
 
 
•
 
the success of our product development activities and uncertainties related to the timing or outcome of such activities;
 
 
•
 
the timing with which regulatory authorizations and product introduction may be achieved, if at all;
 
 
•
 
our ability to adequately protect our technology and enforce our intellectual property rights;

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•
 
our success in acquiring or licensing proprietary technologies that are necessary for our product development activities;
 
 
•
 
the outcome of litigation involving Interpore Cross (including patent, trademark and copyright litigation), and the costs, expenses and possible diversion of management’s time and attention arising from such litigation;
 
 
•
 
our ability to obtain and maintain a sufficient supply of products to meet market demand in a timely manner;
 
 
•
 
our ability to timely and cost effectively integrate into our operations the companies that we acquire, including AOM;
 
 
•
 
our dependence on single source suppliers and the risks associated with a production interruption or shipment delays at such suppliers;
 
 
•
 
the scope, outcome and timeliness of any governmental, court or other regulatory action (including, without limitation, the scope, outcome or timeliness of any inspection or other action of the FDA);
 
 
•
 
the availability on commercially reasonable terms of raw materials and other third party sourced products;
 
 
•
 
our exposure to product liability and other lawsuits and contingencies;
 
 
•
 
our successful compliance with extensive, costly, complex and evolving governmental regulations and restrictions;
 
 
•
 
market acceptance of and continued demand for our products and the impact of competitive products and pricing; and
 
 
•
 
other risks and uncertainties detailed herein and from time to time in our Securities and Exchange Commission filings.
 
The information contained in this report is as of June 30, 2002, unless expressly stated as of another date. We undertake no obligation to publicly update any forward-looking statements, whether as a result of new information, future events or otherwise. We also may make additional disclosures in our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K that we may file from time to time with the Securities and Exchange Commission. Please also note that we provide a cautionary discussion of risks and uncertainties under the section entitled “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2001. These are factors that we think could cause our actual results to differ materially from expected results. Other factors besides those listed here could also adversely affect us. This discussion is provided as permitted by the Private Securities Litigation Reform Act of 1995.
 
Item 3.     Quantitative and Qualitative Disclosures About Market Risk
 
We are exposed to market risk for changes in interest rates related primarily to our cash and cash equivalent balances and marketable securities. However, as all of our investments are in short-term instruments, we believe that we have no material market risk exposure.

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PART II—OTHER INFORMATION
 
Item 1.     Legal Proceedings
 
The information set forth under Note 6 in Notes to Condensed Consolidated Financial Statements, included in Part I, Item 1 of this report, is incorporated herein by reference.
 
Item 4.     Submission of Matters to a Vote of Security Holders
 
On May 17, 2002, Interpore Cross held its 2002 Annual Meeting of Stockholders to vote on three proposals. The number of shares entitled to vote was 17,223,071. The number of shares represented in person or by proxy was 14,313,288.
 
The following are the voting results for the proposals:
 
PROPOSAL 1:    Election of two Class I members of the Board of Directors of Interpore Cross to serve until the Annual Meeting of Stockholders in the year 2005 or until their successors are duly elected and qualified:
 
Nominee
   
Number of votes
     
Percentage of shares present and voting
  
David W. Chonette
              
For
   
14,229,211
     
99.4
%
Withheld
   
84,077
     
.6
%
Robert J. Williams
              
For
   
14,223,581
     
99.4
%
Withheld
   
89,707
     
.6
%
 
PROPOSAL 2:    To approve amendments to the Interpore Cross Stock Option Plan for Non-Employee Directors to (i) increase the number of shares of common stock available for issuance thereunder by an additional 100,000 shares, from 200,000 to 300,000 shares, (ii) increase the number of shares of common stock subject to the options automatically granted to each of our non-employee directors on the date of each annual meeting of Interpore Cross stockholders by an additional 2,500 shares, from 2,500 to 5,000 shares, and (iii) increase the number of shares of common stock subject to the options automatically granted to each of Interpore Cross’ non-employee directors by an additional 500 shares, from 500 to 1,000 shares, for each board meeting attended by the director, if such director elects in advance to receive such an option in lieu of cash compensation:
 
    
Number of votes
   
Percentage of shares present and voting
  
For
   
13,125,923
   
91.7
%
Against
   
1,118,755
   
7.8
%
Abstain
   
68,610
   
.5
%
Total Votes
   
14,313,288
   
100.0
%

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PROPOSAL 3:    To approve an amendment to the Interpore Cross Employee Qualified Stock Purchase Plan to eliminate the one year waiting period requirement for new employees to participate in the plan:
 
    
Number of votes
   
Percentage of shares present and voting
  
For
   
13,497,163
   
94.3
%
Against
   
755,061
   
5.3
%
Abstain
   
61,064
   
.4
%
Total Votes
   
14,313,288
   
100.0
%
 
Item 6.     Exhibits and Reports on Form 8-K
 
a.  Exhibits.
 
10.1
   
Business Loan Agreement, Master Revolving Note and Addendum thereto, Security Agreement and Intellectual Property Security Agreement, each dated June 14, 2002, between Comerica Bank-California and Interpore International, Inc..
 
b.  Reports on Form 8-K.
 
No reports on Form 8-K were filed during the fiscal quarter ended June 30, 2002.
 

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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.
 
INTERPORE INTERNATIONAL, INC.
(Registrant)
By:
  
/s/    DAVID C. MERCER      
   
David C. Mercer,
Chairman and Chief Executive Officer
 
By:
  
/s/    RICHARD L. HARRISON
   
Richard L. Harrison
Sr. Vice President and
Chief Financial Officer
DATE:    August 9, 2002

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