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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(MARK ONE)
X ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2001
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 NUMBER: 0-22427
HESKA CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 77-0192527
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
1613 PROSPECT PARKWAY 80525
FORT COLLINS, COLORADO
(ADDRESS OF PRINCIPAL EXECUTIVE (ZIP CODE))
OFFICES)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE:(970)493-7272
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT: NONE
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
COMMON STOCK, $.001 PAR VALUE
Indicate by check mark whether the registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to
file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of Regulation S-K is not contained herein,
and will not be contained, to the best of the registrant's
knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.
The aggregate market value of voting stock held by non-
affiliates of the Registrant was approximately $40,287,365 as of
March 26, 2002 based upon the closing price on the Nasdaq
National Market reported for such date. This calculation does
not reflect a determination that certain persons are affiliates
of the Registrant for any other purpose.
47,845,112 shares of the Registrant's Common Stock, $.001 par
value, were outstanding at March 26, 2002.
DOCUMENTS INCORPORATED BY REFERENCE
Items 10 (as to directors), 11, 12 and 13 of Part III
incorporate by reference information from the Registrant's Proxy
Statement filed with the Securities and Exchange Commission in
connection with the solicitation of proxies for the Registrant's
2002 Annual Meeting of Stockholders.
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TABLE OF CONTENTS
Page
PART I 1
Item 1. Business. 1
Item 2. Properties. 12
Item 3. Legal Proceedings. 12
Item 4. Submission of Matters to a Vote of Security Holders. 13
PART II 14
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters. 14
Item 6. Selected Consolidated Financial Data. 14
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations. 16
Item 7A. Quantitative and Qualitative Disclosures about Market Risk. 34
Item 8. Financial Statements and Supplementary Data. 35
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure. 65
PART III 65
Item 10. Directors and Executive Officers of the Registrant. 65
Item 11. Executive Compensation. 66
Item 12. Security Ownership of Certain Beneficial Owners and
Management. 66
Item 13. Certain Relationships and Related Transactions. 66
PART IV 67
Item 14. Exhibits, Financial Statement Schedules and Reports on
Form 8-K. 67
ALLERCEPT, AVERT, E.R.D.-SCREEN, E-SCREEN, HESKA, SOLO STEP, VET/ECG,
VET/E-Sig, VET/IV, and VET/OX are trademarks of Heska Corporation. This 10-K
also refers to trademarks and trade names of other organizations.
PART I
This Form 10-K contains forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933, as amended and Section 21E of the
Securities Exchange Act of 1934, as amended. Words such as "anticipates,"
"expects," "intends," "plans," "believes," "seeks," "estimates,"
variations of such words and similar expressions are intended to identify such
forward- looking statements. These statements are not guarantees of future
performance and are subject to certain risks, uncertainties and assumptions that
are difficult to predict. Therefore, actual results could differ materially
from those expressed or forecasted in any such forward-looking statements as a
result of certain factors, including those set forth in "Factors that May
Affect Results," "Management's Discussion and Analysis of Financial Condition
and Results of Operations," "Business" and elsewhere in this Form 10-K.
Although we believe that expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. We expressly disclaim any obligation or
undertaking to release publicly any updates or revisions to any forward-looking
statements contained herein to reflect any change in our expectations with
regard thereto or any change in events, conditions, or circumstances on which
any such statement is based. These forward-looking statements apply only as of
the date of this Form 10-K.
ITEM 1. BUSINESS.
We discover, develop, manufacture and market companion animal health
products principally for dogs, cats and horses. We employ approximately 80
scientists, of whom over one quarter hold doctoral degrees, with expertise in
several disciplines including microbiology, immunology, genetics, biochemistry,
molecular biology, parasitology and veterinary medicine. This scientific
expertise is focused on the development of a broad range of pharmaceutical,
vaccine and diagnostic products for companion animals. We also sell veterinary
diagnostic and patient monitoring instruments and offer diagnostic services to
veterinarians in the United States and Europe principally for companion animals.
Our Diamond Animal Health subsidiary manufactures food animal vaccines as well
as other food animal products that are marketed and distributed by other animal
health companies. In addition, Diamond manufactures certain companion animal
health products for marketing and sale by Heska.
We currently market our products in the United States to veterinarians
through approximately 20 independent third-party distributors and through a
direct sales force, complemented by an internal telesales group. Nearly one-
half of our domestic distributors provide sales services for the full line of
our pharmaceutical, vaccine, diagnostic and instrumentation products. Late in
2001, we made a shift in our product distribution strategy and expect to rely on
independent distributors for a greater portion of our domestic sales. Outside
the United States, we rely primarily on third-party distributors and, for
certain of our products, have granted our corporate partners exclusive
distribution rights. See "Sales, Marketing and Distribution" below.
Our principal executive offices are located at 1613 Prospect Parkway, Fort
Collins, Colorado 80525 and our telephone number is (970) 493-7272. We were
incorporated in California in 1988, and we reincorporated in Delaware in 1997.
Our business is comprised of two reportable segments, Companion Animal
Health and Food Animal Health. Within the Companion Animal Health segment there
are two major product groups, which we define as pharmaceuticals, vaccines and
diagnostics (PVD) and veterinary diagnostic and patient monitoring instruments.
These products are sold through our operations in Fort Collins, Colorado and
Europe. Within the Food Animal Health segment, there is one major product
group, food animal vaccine and pharmaceutical products. We manufacture these
food animal products at our Diamond Animal Health subsidiary located in Des
Moines, Iowa.
COMPANION ANIMAL HEALTH PRODUCTS
We presently sell a variety of companion animal health products, among the
most significant of which are the following:
DIAGNOSTICS
Heartworm Diagnostic Products. Heartworm infections of dogs and cats are
caused by the parasite, Dirofilaria immitis. This parasitic worm is transmitted
in larval form to dogs and cats through the bite of an infected mosquito.
Larvae develop into adult worms that live in the pulmonary arteries and heart of
the host, where they can cause serious cardiovascular, pulmonary, liver and
kidney disease. Our canine and feline heartworm diagnostic tests use monoclonal
antibodies or a recombinant heartworm antigen, respectively, to detect heartworm
antigens or antibodies circulating in the blood of an infected animal. These
tests were introduced into the marketplace over the last several years.
We currently market and sell heartworm diagnostic products for both cats
and dogs. SOLO STEP FH for cats and SOLO STEP CH for dogs are available in both
point-of-care versions that can be used by veterinarians on site, as well as
tests that can be sent to our veterinary diagnostic laboratory at our Fort
Collins facility. In 2000, we introduced SOLO STEP CH Batch Test Strips, which
is a rapid and simple point-of-care antigen detection test for dogs that allows
veterinarians in larger practices to run multiple samples at the same time.
Novartis Agro K.K. (Novartis Animal Health K.K. Tokyo) has been appointed our
exclusive distributor of SOLO STEP CH and SOLO STEP FH in Japan. SOLO STEP CH
received regulatory approval from the Japanese Ministry of Agriculture, Forestry
and Fisheries, or MAFF, in September 2001 and was first sold in Japan in
November 2001.
Allergy Testing and Diagnostic Products. Allergy is common in companion
animals, and it is estimated to affect approximately 10% to 15% of dogs.
Clinical symptoms of allergy are variable, but are often manifested as
persistent and serious skin disease in dogs and cats. Clinical management of
allergic disease is problematic, as there are a large number of allergens that
may give rise to these conditions. Although skin testing is often regarded as
the most accurate diagnostic procedure, such tests can be painful, subjective
and inconvenient. The effectiveness of the immunotherapy that is prescribed to
treat allergic disease is inherently limited by inaccuracies in the diagnostic
process.
Heska markets two complementary in vitro tests for the detection of IgE,
the antibody involved in most allergic reactions:
* The ALLERCEPT E-Screen Test, introduced in 2001, is a rapid in-clinic
test that detects the presence of allergen-specific IgE, an antibody
associated with allergic disease. Dogs testing positive for allergen-
specific IgE are candidates for further evaluation using our ALLERCEPT
Definitive Allergen Panels to determine the specific allergens to
which the dog is allergic.
* The ALLERCEPT Definitive Allergen Panels, introduced in 1997, provide
the most accurate determination of the specific allergens to which a
dog is reacting. The panels use a highly specific recombinant version
of the natural IgE receptor to screen the serum of potentially allergic
animals for IgE directed against a panel of known allergens. A typical
test panel consists primarily of various pollen, grass, mold, insect
and mite allergens. The test results often serve as the basis for
prescription ALLERCEPT Allergy Treatment Sets.
Early Renal Disease. Renal disease is the second leading cause of death in
dogs and often goes undetected until it is too late. It is estimated that 70%
to 80% of kidney function is already destroyed before veterinarians can detect
renal disease using existing tests. Early detection is key to the introduction
of dietary or therapeutic regimens that could significantly slow the progression
of the disease and add quality years to a dog's life. Our E.R.D.-SCREEN Test,
introduced in March 2002, is a rapid in-clinic immunoassay that detects trace
amounts of albumin in urine. The persistent presence of albumin in urine is
believed to be associated with the early stages of renal disease.
VACCINES
Equine Influenza Vaccine. Equine influenza is a common viral disease of
horses and is similar to human influenza. This disease poses a significant risk
to the estimated six million horses in the United States. Infected horses have
severe respiratory disease and diminished performance for an extended period
following infection. We believe that approximately half of the six million
horses in the United States currently receive vaccination. Most competitive
equine influenza vaccines are administered as a component of a multi-purpose
vaccine, intended to provide protection against multiple infectious diseases.
Industry sources have estimated the total U.S. equine vaccine market at $50
million. We believe that other currently available vaccines for equine
influenza are of limited efficacy.
We have developed a unique vaccine for equine influenza, our Flu AVERT I.N.
vaccine, which we believe has improved efficacy and duration of immunity
compared to existing products. This product was approved by the United States
Department of Agriculture, or USDA, in November 1999 and was first sold to
veterinarians in December 1999. In February 2001, we granted Novartis Animal
Health Canada exclusive distribution rights for Flu AVERT I.N. vaccine in
Canada. The vaccine received regulatory approval from the Canadian Food
Inspection Agency, or CFIA, in August 200l and was first sold in Canada in
September 2001.
Allergy Treatment Sets. Veterinarians who use our ALLERCEPT Definitive
Allergen Panels often purchase ALLERCEPT Allergy Treatment Sets for those
animals with positive test results. These prescription immunotherapy treatment
sets are formulated specifically for each allergic animal and contain only the
allergens to which the animal has significant levels of IgE antibodies. The
prescription formulations are administered in a series of injections, with doses
increasing over several months, to ameliorate the allergic condition of the
animal. Immunotherapy is generally continued for an extended time. We offer
both canine and feline immunotherapy treatment products.
Feline Respiratory Disease Vaccine. In 1997, we introduced in the United
States HESKA Trivalent Intranasal/Intraocular Vaccine, a three-way modified live
vaccine to prevent disease caused by the three most common respiratory viruses
of cats: calicivirus, rhinotracheitis virus and panleukopenia virus. This
vaccine is administered without needle injection by dropping the liquid
preparation into the eyes and nostrils of cats. While there is one competitive
non-injectable two-way vaccine, all other competitive products are injectable
formulations. The use of injectable vaccines in cats has become controversial
due to the frequency of injection site-associated side effects. The most
serious of these side effects are injection site sarcomas, tumors which, if
untreated, are nearly always fatal. Our vaccine avoids injection site side
effects, and we believe it is very efficacious. We anticipate the introduction
of a second generation of this product in 2003.
PHARMACEUTICALS
Nutritional Supplements. In 1998, we developed and introduced in the
United States a novel fatty acid supplement, HESKA F.A. Granules. The source of
the fatty acids in this product, flaxseed oil, leads to high omega-3:omega-6
ratios of fatty acids. Diets high in omega-3 fatty acids are believed to lead
to lower levels of inflammatory mediators. The HESKA F.A. Granules include
vitamins and are formulated in a palatable flavor base that makes the product
convenient and easy to administer.
MEDICAL INSTRUMENTS
We offer a broad line of veterinary diagnostic, monitoring and other
instruments which are described below. We also market and sell consumable
supplies and reagents for these instruments. We entered this line of business
in March 1998, when we acquired Sensor Devices, Inc., a manufacturer and
marketer of patient monitoring and diagnostic instruments. Following that
acquisition, we completed the development of various other instruments and
entered into agreements for the distribution of additional instruments to
veterinarians.
Diagnostic Instruments. Our line of veterinary diagnostic instruments
includes the following:
* The i-STAT Portable Clinical Analyzer is a hand-held, portable
clinical analyzer that provides quick, easy analysis of blood gases
and other key analytes, such as sodium, potassium and glucose, with
whole blood.
* The HESKA Vet ABC-Diff Hematology Analyzer is an easy to use blood
analyzer that measures such key parameters as white blood cell count,
red blood cell count, platelet count and hemoglobin levels in animals.
* The SPOTCHEM EZ is a compact desktop system used to measure common
blood chemistry components that are vital to veterinary medical diagnosis.
It provides veterinarians with an easy-to-use, flexible and economical
in-clinic chemistry system.
Monitoring and Other Instruments. The use by veterinarians of the types of
patient monitoring products that are taken for granted in human medicine is
becoming the state of the art in companion animal health. Our line of
monitoring instruments includes:
* The VET/OX 4404 monitor and the VET/OX 4800 monitor, the centerpieces
of our monitoring instrument product line, are oxygen saturation monitors
designed for monitoring animals under anesthesia. Each monitor includes
a variety of additional parameters, such as pulse rate and strength, body
temperature, respiration and ECG.
* The VET/E-Sig probe is used for monitoring ECG, temperature and heart and
breath sounds of anesthetized dogs.
* The VET/IV 2.2 infusion pump is a compact, affordable IV pump that allows
veterinarians to easily provide regulated infusion of fluids, drugs or
nutritional products for their patients.
VETERINARY DIAGNOSTIC LABORATORY
We have a veterinary diagnostic laboratory at our Fort Collins facility.
This diagnostic laboratory currently offers our allergy diagnostics, canine and
feline heartworm diagnostics and flea bite allergy assays, in addition to other
diagnostic services including polymerase chain reaction (PCR) based tests for
certain infectious diseases. Our Fort Collins veterinary diagnostic laboratory
is currently staffed by medical technologists experienced in animal disease and
several additional technical staff.
We intend to continue to use our Fort Collins diagnostic laboratory both as
a stand-alone service center for our customers and as an adjunct to our product
development efforts. Many of the assays which we intend to develop in a point-
of-care format are initially validated and made available in the veterinary
diagnostic laboratory and will also remain available there after the
introduction of the analogous point-of-care test.
FOOD ANIMAL HEALTH PRODUCTS
In addition to manufacturing companion animal health products for marketing
and sale by Heska, Diamond Animal Health, our wholly-owned subsidiary, has
developed its own line of food animal vaccines that were licensed by the USDA in
the United States in 1998 and 1999. In 1998, Diamond entered into an agreement
with a food animal products distributor, Agri Laboratories, Ltd., or AGRILABS,
for the exclusive marketing and sale of these vaccines worldwide. AGRILABS
currently has an arrangement with Intervet International B.V., a division of
Akzo Nobel, for the exclusive distribution of these vaccines worldwide. Certain
annual contract minimums must be met by AGRILABS in order to maintain worldwide
exclusivity. The agreement expires in December 2004 and is automatically
renewed for additional one-year terms thereafter, unless either party gives
prior written notice that it does not wish to renew the agreement. We do not
currently intend to terminate this agreement and have not received any such
notice from AGRILABS. We are currently in negotiations with AGRILABS to modify
and extend this agreement. Diamond is the sole manufacturer of these products.
Diamond also manufactures biological and pharmaceutical products for a
number of other food animal health companies. This activity ranges from
providing complete turnkey services which include research, licensing,
production, labeling and packaging of products to providing any one of these
services as needed by their customers.
PRODUCT CREATION
We are committed to creating innovative products to address significant
unmet health needs of companion animals. We create products both through
internal research and development and through external collaborations. Internal
research is managed by multidisciplinary product-associated project teams that
consist of microbiologists, immunologists, geneticists, biochemists, molecular
biologists, parasitologists and veterinarians, as appropriate.
We are also committed to identifying external product opportunities and
creating business and technical collaborations that lead to the creation of
other products. We believe that our active participation in scientific networks
and our reputation for investing in research enhances our ability to acquire
external product opportunities.
In the past, we have collaborated with a number of third parties on the
development of various pharmaceutical, vaccine and diagnostic products. We have
collaborated with numerous university veterinary specialists and practicing
veterinarians to test products in development and to validate the utility of our
existing products in the marketplace. In addition, we have collaborated with
the following institutions and companies to develop critical components of our
products:
* Quidel Corporation, Genzyme Corporation and Diagnostic Chemicals, Ltd.
with respect to the development of certain of our rapid, in-clinic
diagnostics tests,
* Valentis, Inc. and National Jewish Medical and Research Center on the
development of an intratumor gene therapy for the treatment of solid
tumors in dogs, and
* Researchers at the University of Pittsburgh on the development of our
Flu Avert I.N. vaccine.
We have also collaborated with several third parties on the development of
our veterinary medical instrument product line, including:
* i-STAT Corporation, for the development of veterinary applications for
the i-STAT Portable Clinical Analyzer and the cartridges used with this
instrument,
* Arkray, Inc., for the development of veterinary applications for the
SPOTCHEM EZ clinical biochemistry analyzer and associated reagents, and
* scil GmbH, for the development of veterinary applications for the Heska
Vet ABC-Diff Hematology Analyzer and associated reagents.
Our product pipeline currently includes numerous products in various stages
of development. Products under development include several point-of-care
diagnostic products, vaccines and pharmaceutical products for allergy, cancer,
heartworm control, pain management and flea control. We currently have under
development the following products which we expect to introduce in 2002 and
2003:
* A screening test for the parasites, Giardia and Cryptosporidium;
* A second generation vaccine for feline respiratory disease;
* A diagnostic product to determine if cats remain protected against
common respiratory viral diseases; and
* A gene-based medicine that stimulates a dog's own immune system to
attack tumors.
The vast majority of all our research and development resources are
directed toward the development of new companion animal health products. We
incurred expenses of $13.6 million, $14.9 million and $17.0 million in the years
ended December 31, 2001, 2000, and 1999, respectively in support of our research
and development activities.
SALES, MARKETING AND DISTRIBUTION
We estimate that there are approximately 30,000 veterinarians in the United
States whose practices are devoted principally to small animal medicine. Those
veterinarians practice in approximately 20,000 clinics in the United States.
During the past year, we sold our products to approximately 14,000 such clinics
in the United States.
We currently market our products in the United States to veterinarians
through independent third- party distributors, a direct sales force, a telephone
sales force, trade shows and print advertising. Prior to 2001, our distribution
strategy relied upon the use of third-party sales agents who would market
Heska's products on consignment. During 2001, we modified our distribution
strategy and entered into distribution agreements with over 20 third-party
veterinary distributors. These distributors market our products utilizing their
direct sales forces. Nearly one-half of these domestic distributors carry the
full line of our pharmaceutical, vaccine, diagnostic and instrumentation
products. We believe that these relationships will provide for more complete
market penetration. Internationally, we market our products to veterinarians
primarily through third-party distributors and corporate partners.
Given the shift in our product distribution strategy, we expect that a
greater portion of our sales will come from distributors rather than our direct
sales force. An important factor in successfully implementing this strategy
will be to retain sufficient independent distributors to market and sell our
products. We believe that one of our largest competitors, IDEXX, prohibits its
distributors from selling competitors' products, including our SOLO STEP
heartworm diagnostic products and medical diagnostic instruments. To be
successful, we will need to continue to attract and retain sufficient
independent distributors and train the sales personnel of our distributors about
the Heska products.
We have granted third parties substantial marketing rights to certain of
our existing products as well as products under development. Our agreements
with our corporate marketing partners generally contain no minimum purchase
requirements in order for them to maintain their exclusive or co-exclusive
marketing rights. Currently, Novartis Agro K.K. markets and distributes SOLO
STEP CH in Japan, and Novartis Animal Health Canada, Inc. distributes our Flu
AVERT I.N. vaccine in Canada. In addition, we have entered into agreements with
Novartis, Nestle Purina Petcare Company and Eisai Inc. to market or co-market
certain of the products that we are currently developing.
MANUFACTURING
Our products are manufactured by our Fort Collins, Des Moines and Fribourg,
Switzerland facilities and/or by third-party manufacturers. Diamond's facility
is a USDA, Food and Drug Administration, or FDA, and Drug Enforcement Agency, or
DEA, licensed biological and pharmaceutical manufacturing facility in Des
Moines, Iowa. We expect that we will manufacture most or all of our biological
products at this facility, as well as most or all of our recombinant proteins
and other proprietary reagents for our diagnostic products. Heska AG
manufactures its allergy diagnostic products at its facility in Fribourg,
Switzerland. Quidel Corporation and Diamond manufacture our heartworm point-of-
care diagnostic products. Centaq, Inc. manufactures our immunotherapy treatment
products. Third parties manufacture our veterinary diagnostic and patient
monitoring instruments, including our various analyzers and veterinary sensors.
In addition to manufacturing certain of our proprietary products, Diamond
manufactures animal health vaccine products for marketing and sale by other
companies. Diamond currently has the capacity to manufacture more than 50
million doses of vaccine each year. Diamond's customers purchase products in
both bulk and finished format, and Diamond performs all phases of manufacturing,
including growth of the active bacterial and viral agents, sterile filling,
lyophilization and packaging. Diamond also offers support to its customers
through research services, regulatory compliance services, validation support
and distribution services.
COLLABORATIVE AGREEMENTS
Novartis. We have entered into several collaborative agreements with
various subsidiaries and/or divisions of Novartis AG.
* Screening and Development Agreement. We entered into this agreement
with Ciba-Geigy Limited, now known as Novartis AG, in April 1996.
Under the agreement the parties may undertake joint research and
development activities related to both companion animal and food
animal health. If the parties decide not to perform joint research
activities, then Novartis has the right to use our materials to
develop food animal or companion animal products. Novartis would pay
royalties on any such products developed by it. There are currently
no joint research programs underway and no products being sold that
were developed under this agreement. This Agreement is effective
until December 31, 2005.
* Marketing Agreements. In April 1996, we entered into marketing
agreements with Ciba-Geigy Limited (Novartis AG) and Ciba-Geigy
Corporation, now known as Novartis Animal Health US, Inc. Under
these agreements, these entities were granted various rights to
manufacture and market flea control vaccine or feline heartworm
control vaccine products developed by us for which USDA prelicensing
serials are completed on or before December 31, 2005. We have
co-exclusive rights to market these products under our own trade
names throughout the world, subject to certain other marketing rights,
and we share revenues on those sales. These agreements are in force
until December 2010 or for as long as Novartis is selling the products.
No products have yet been developed or commercialized under these
agreements.
* Right of First Refusal Agreements.
- In April 1996 we entered into an agreement with Ciba-Geigy
Limited (Novartis AG) under which we, prior to granting
licenses to any third party to products or technology
developed or acquired by us for either companion animal or
food animal applications, subject to certain other rights,
must first notify and offer Novartis such rights. This
agreement terminates in December 2005. To date, Novartis AG
is not developing or marketing any products offered to it
under this agreement, except for a Leishmania vaccine that
is currently in development at Novartis.
- In August 1998, we entered into an agreement with Novartis Agro
K.K. ("NAH-Japan") and Novartis Animal Health, Inc. ("NAH") under
which both entities, prior to granting licenses to any third party
to certain products or technology offered to NAH-Japan or NAH by
any third party or by any NAH affiliate for either companion animal
or food animal applications, must first notify and offer us such
rights. This agreement terminates in December 2005. To date,
Heska is not developing or marketing any products under this
agreement.
* Exclusive Distribution Agreements.
- In August 1998, we entered into an agreement with Novartis Agro K.K.
(Novartis Animal Health K.K. Tokyo) to be our exclusive distributor
for SOLO STEP CH and SOLO STEP FH heartworm diagnostic products and
our feline Bivalent/Trivalent Intranasal/Intraocular Vaccines in
Japan upon obtaining regulatory approval in Japan for such products,
at Novartis' expense. This right continues until December 2006.
There are no minimum purchase obligations contained in this
agreement. Sales of SOLO STEP CH began in November 2001.
- In February 2001, we entered into an agreement with Novartis Animal
Health Canada, Inc. to be our exclusive distributor for Flu AVERT,
I.N. our equine influenza vaccine in Canada until December 2006,
subject to Novartis meeting certain minimum purchase requirements.
Products are marketed under the HESKA brand name. Product sales
began in November 2001.
Nestle Purina PetCare Company. We have a strategic alliance with Nestle
Purina PetCare Company, formerly Ralston Purina Company. Nestle holds exclusive
rights to license our discoveries, know-how and technologies for innovative
diets for dogs and cats. The first product from this strategic alliance was
introduced under the Purina name in July 2000. A second related product was
introduced in 2001. These products are specialty diets for the nutritional
management of feline diabetes mellitus. We receive a royalty from Nestle on
sales of these products.
i-STAT Corporation. Under the terms of an Amended and Restated
Distribution Agreement dated as of February 1999, we have been granted exclusive
rights to market and sell the i-STAT portable blood analyzer and cartridges in
the U.S. and major international markets, including Europe. We also have a
right to market certain products developed by i-STAT. The term of this
agreement is currently until December 2002. It is automatically renewed
thereafter for additional 12 months terms unless either party gives at least
9 months prior written notice to the other that it does not wish to renew the
agreement.
Agri Laboratories, Ltd. In July 1998, our wholly owned subsidiary, Diamond
Animal Health, Inc. entered into a Bovine Vaccine Distribution Agreement. Under
the terms of this agreement, Diamond has agreed to manufacture and sell certain
bovine vaccines to AGRILABS for distribution worldwide, with certain exceptions.
Certain minimum purchase requirements apply to this agreement. This agreement
expires in December 2004 and is automatically renewed thereafter for additional
one year terms unless either party gives prior written notice to the other that
it does not wish to renew the agreement. We are currently in negotiations with
AGRILABS to modify and extend this agreement.
INTELLECTUAL PROPERTY
We believe that patents, trademarks, copyrights and other proprietary
rights are important to our business. We also rely upon trade secrets, know-
how, continuing technological innovations and licensing opportunities to develop
and maintain our competitive position.
We actively seek patent protection both in the United States and abroad.
As of December 31, 2001, we owned, co-owned or had rights to 138 issued U.S.
patents and 110 pending U.S. patent applications. Our issued U.S. patents
primarily relate to allergy, flea control, heartworm control, infectious disease
vaccines, nutrition, instrumentation, diagnostics or vaccine delivery
technologies. Our pending patent applications primarily relate to allergy, flea
control, heartworm control, infectious disease vaccines, diagnostics, nutrition,
cancer, vaccine delivery, immunomodulators or medical instrument technologies.
Applications corresponding to pending U.S. applications have been or will be
filed in other countries. Our patent portfolio also includes 132 issued patents
and 209 pending applications in various foreign countries.
We also have obtained exclusive and non-exclusive licenses for numerous
other patents held by academic institutions and biotechnology and pharmaceutical
companies. The proprietary technologies of Diamond and Heska AG are primarily
protected through trade secret protection of, for example, their manufacturing
processes.
The biotechnology and pharmaceutical industries have been characterized by
extensive litigation relating to patents and other intellectual property rights.
In 1998, Synbiotics Corporation filed a lawsuit against us alleging infringement
of a Synbiotics patent relating to heartworm diagnostic technology. See "Item
3. Legal Proceedings."
SEASONALITY
Certain portions of our business are subject to seasonality, including our
SOLO STEP heartworm diagnostic products, which are principally sold starting in
the fourth quarter and continuing through the second quarter of the year; our
Flu AVERT I.N. vaccine for equine influenza, which is principally sold in the
first and fourth quarters of the year; our veterinary medical instrument
products, sales of which are higher in the fourth quarter of the year; and our
food animal vaccine products, which are sold principally in the second half of
the year.
GOVERNMENT REGULATION
Most of the products that we develop are subject to extensive regulation by
governmental authorities in the United States, including the USDA and the FDA,
and by similar agencies in other countries. These regulations govern, among
other things, the development, testing, manufacturing, labeling, storage, pre-
market approval, advertising, promotion, sale and distribution of our products.
Satisfaction of these requirements can take several years and time needed to
satisfy them may vary substantially, based on the type, complexity and novelty
of the product. Any product that we develop must receive all relevant
regulatory approval or clearances, if required, before it may be marketed in a
particular country. The following summarizes the U.S. government agencies that
regulate animal health products:
* USDA. Vaccines and certain point-of-care diagnostics are considered
veterinary biologics and are therefore regulated by the Center for
Veterinary Biologics, or CVB, of the USDA. Industry data indicate
that it takes approximately four years and $1.0 million to license a
conventional vaccine for animals from basic research through licensing.
In contrast to vaccines, point-of-care diagnostics can typically be
licensed by the USDA in about a year, at considerably less cost.
However, vaccines or diagnostics that use innovative materials, such
as those resulting from recombinant DNA technology, usually require
additional time to license. The USDA licensing process involves the
submission of several data packages. These packages include information
on how the product will be manufactured, information on the efficacy
and safety of the product in laboratory animal studies and information
on performance of the product in field conditions.
* FDA. Pharmaceutical products, which generally include synthetic
compounds, are approved and monitored by the Center for Veterinary
Medicine of the FDA. Industry data indicate that developing a new
drug for animals requires approximately 11 years from commencement
of research to market introduction and costs approximately $5.5 million.
Of this time, approximately three years is spent in animal studies and
the regulatory review process. However, unlike human drugs, neither
preclinical studies nor a sequential phase system of studies are
required. Rather, for animal drugs, studies for safety and efficacy
may be conducted immediately in the species for which the drug is
intended. Thus, there is no required phased evaluation of drug
performance, and the Center for Veterinary Medicine will review data
at appropriate times in the drug development process. In addition,
the time and cost for developing companion animal drugs may be
significantly less than for drugs for food production animals, as
food safety issues relating to tissue residue levels are not
present.
* EPA. Products that are applied topically to animals or to premises
to control external parasites are regulated by the Environmental
Protection Agency, or EPA.
After we have received regulatory licensing or approval for our
pharmaceutical products, numerous regulatory requirements apply. Among the
conditions for certain regulatory approvals is the requirement that our
manufacturing facilities or those of our third-party manufacturers conform to
current Good Manufacturing Practices or other manufacturing regulations, which
include requirements relating to quality control and quality assurance as well
as maintenance of records and documentation. The USDA, FDA and foreign
regulatory authorities strictly enforce manufacturing regulatory requirements
through periodic inspections.
A number of our animal health products are not regulated. For example,
certain assays for use in a veterinary diagnostic laboratory, such as ALLERCEPT,
E-SCREEN and E.R.D.-SCREEN Urine Test, do not have to be licensed by either the
USDA or FDA. Similarly, none of our veterinary diagnostic and patient
monitoring instruments require regulatory approval to be marketed and sold.
Additionally, various botanically derived products, various nutritional products
and supportive care products are exempt from significant regulation as long as
they do not bear a therapeutic claim that represents the product as a drug.
We have pursued regulatory approval outside the United States based on
market demographics of foreign countries. For marketing outside the United
States, we are also subject to foreign regulatory requirements governing
regulatory licensing and approval for many of our products. The requirements
governing product licensing and approval vary widely from country to country.
Licensing and approval by comparable regulatory authorities of foreign countries
must be obtained before we can market products in those countries. The approval
process varies from country to country and the time required for such approvals
may differ substantially from that required in the United States. We cannot be
certain that approval of any of our products in one country will result in
approvals in any other country. To date, we or our distributors have sought
regulatory approval for certain of our products in Canada, which is governed by
the Canadian Food Inspection Agency, or CFIA, and in Japan, which is governed by
the Japanese Ministry of Agriculture, Forestry and Fisheries, or MAFF.
The status of regulatory approval for our major products and products in
development both in the United States and elsewhere is summarized below.
CURRENT MAJOR PRODUCTS COUNTRY REGULATED AGENCY STATUS
- ---------------------------------------- -------------- ----------------------- ---------- -----------
ALLERCEPT E-SCREEN Test United States No
EU No - in most countries
ALLERCEPT Definitive Allergen Panels Unites States No
EU No
E.R.D.-SCREEN Urine Test United States No
EU No - in most countries
Flu AVERT I.N. Vaccine United States Yes USDA Licensed
Canada Yes CFIA Licensed
HESKA F.A. Granules United States No
SOLO STEP CH United States Yes USDA Licensed
Canada Yes CFIA Pending
Japan Yes MAFF Licensed
SOLO STEP FH United States Yes USDA Licensed
SOLO STEP Batch Test Strips United States Yes USDA Licensed
Canada Yes CFIA Pending
Trivalent Intranasal/Intraocular Vaccine United States Yes USDA Licensed
Veterinary Medical Instrumentation United States No
EU No
PRODUCTS IN DEVELOPMENT COUNTRY REGULATED AGENCY STATUS
- ---------------------------------------- -------------- ---------------------- ----------- ------------
Feline ImmuCheck Assay United States Yes USDA Pending
EU No-in most countries
Canine Cancer Gene Therapy United States Yes USDA Pending
Giardia + Crypto-Screen Fecal Test United States Yes USDA Pending
EU No-in most countries
Trivalent Intranasal/Intraocular Vaccine- United States Yes USDA Pending
Second Generation
COMPETITION
The market in which we compete is intensely competitive. Our competitors
include independent animal health companies and major pharmaceutical companies
that have animal health divisions. Companies with a significant presence in the
animal health market, such as Wyeth (formerly American Home Products), Bayer AG,
IDEXX Laboratories, Inc., Intervet International B.V., Merial Ltd., Novartis AG,
Pfizer Inc., Pharmacia Corporation and Schering-Plough Corporation are marketing
or are developing products that compete with our products. These competitors
may have substantially greater financial, technical, research and other
resources and larger, more established marketing, sales, distribution and
service organizations than us. Moreover, such competitors may offer broader
product lines and have greater name recognition than we do. Novartis is our
marketing partner, but its agreement with us does not restrict its ability to
develop and market competing products. In addition, we believe that IDEXX
prohibits its distributors from selling competitors' products, including our
SOLO STEP heartworm diagnostic products and medical diagnostic instruments.
The food animal vaccines sold by Diamond to AGRILABS compete with similar
products offered by a number of other companies, some of which have
substantially greater financial, technical, research and other resources than
Diamond and may have more established marketing, sales, distribution and service
organizations than AGRILABS.
ENVIRONMENTAL REGULATION
In connection with our product development activities and manufacturing of
our biological, pharmaceutical and diagnostic products, we are subject to
federal, state and local laws, rules, regulations and policies governing the
use, generation, manufacture, storage, handling and disposal of certain
materials, biological specimens and wastes. Although we believe that we have
complied with these laws, regulations and policies in all material respects and
have not been required to take any significant action to correct any
noncompliance, we may be required to incur significant costs to comply with
environmental and health and safety regulations in the future. Although we
believe that our safety procedures for handling and disposing of such materials
comply with the standards prescribed by state and federal regulations, the risk
of accidental contamination or injury from these materials cannot be eliminated.
In the event of such an accident, we could be held liable for any damages that
result and any such liability could exceed our resources.
EMPLOYEES
As of December 31, 2001, we and our subsidiaries employed 336 full-time
persons, of whom 107 were in manufacturing, quality control, shipping and
receiving, and materials management, 90 were in research, development,
intellectual property and regulatory affairs, 57 were in management, finance,
administration, legal, information systems, human resources and facilities
management, 67 were in sales, marketing and customer service and 15 were in the
diagnostic laboratories. We believe that our ability to attract and retain
skilled personnel is critical to our success. None of our employees is covered
by a collective bargaining agreement, and we believe our employee relations are
good.
ITEM 2. PROPERTIES.
Our principal administrative and research and development activities are
located in Fort Collins, Colorado. We currently lease an aggregate of
approximately 64,000 square feet of administrative and laboratory space in four
buildings located in Fort Collins under leases expiring through 2005, with
options to extend through 2010 for the larger facilities. We believe that our
present Fort Collins facilities are adequate for our current and planned
activities and that suitable additional or replacement facilities in the Fort
Collins area are readily available on commercially reasonable terms should such
facilities be needed in the future. Our principal manufacturing facility,
Diamond, located in Des Moines, Iowa, consists of 168,000 square feet of
buildings on 34 acres of land, which we own. We also own a 175-acre farm used
principally for research purposes located in Carlisle, Iowa. Our European
subsidiaries lease their facilities.
ITEM 3. LEGAL PROCEEDINGS.
In November 1998, Synbiotics Corporation filed a lawsuit against us in the
United States District Court for the Southern District of California in which it
alleges that we infringe a patent owned by Synbiotics relating to heartworm
diagnostic technology. We have obtained legal opinions from our outside patent
counsel that our heartworm diagnostic products do not infringe the Synbiotics
patent and that the patent is invalid. The opinions of non-infringement are
consistent with the results of our internal evaluations related to the one
remaining claim. In September 2000, the U.S. District Court hearing the case
granted our request for a partial summary judgment, holding two of the
Synbiotics patent claims to be invalid, leaving only the one remaining claim in
the lawsuit. The one remaining claim is currently scheduled for trial in 2002.
While we believe that we have valid defenses to Synbiotics' allegations
and intend to defend the action vigorously, there can be no assurance that an
adverse result or settlement would not have a material adverse effect on our
financial position, results of operations or cash flow.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of stockholders during the fourth
quarter of the year ended December 31, 2001.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
Our common stock is quoted on the Nasdaq National Market under the symbol
"HSKA." The following table sets forth the intraday high and low, prices for
our common stock as reported by the Nasdaq National Market, for the periods
indicated below.
HIGH LOW
-------------- -------------
2000
First Quarter $ 5.563 $ 2.063
Second Quarter 4.375 1.500
Third Quarter 4.469 1.750
Fourth Quarter 2.938 0.594
2001
First Quarter 1.563 0.656
Second Quarter 1.440 0.950
Third Quarter 1.310 0.500
Fourth Quarter 1.100 0.500
2002
First Quarter (through March 26) 1.470 1.019
On March 26, 2002, the last reported sale price of our common stock was
$1.10 per share. As of March 26, 2002, there were approximately 358 holders of
record of our common stock and approximately 4,658 beneficial stockholders. We
have never declared or paid cash dividends on our capital stock and do not
anticipate paying any cash dividends in the near future. In addition, we are
restricted from paying dividends, other then dividends payable solely in stock,
under the terms of our credit facility. We currently intend to retain future
earnings for the development of our business.
On December 18, 2001, we issued 7,792,768 shares of common stock for an
aggregate purchase price of approximately $5.7 million, net of issuance costs,
to accredited investors. The issuance of these shares was made in reliance on
the exemptions from registration set forth in Section 4(2) of the Securities Act
of 1933, as amended. We made no public solicitation in connection with the
issuance of the above-mentioned securities. We relied on representations from
the recipients of the securities that they purchased the securities for
investment only and not with a view to any distribution thereof and that they
were aware of our business affairs and financial condition and had sufficient
information to reach an informed and knowledgeable decision regarding their
purchase of the securities.
ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA.
The following statement of operations and balance sheet data have been
derived from our consolidated financial statements. The information set forth
below is not necessarily indicative of the results of future operations and
should be read in conjunction with "Management's Discussion and Analysis of
Financial Condition and Results of Operations" and the Consolidated Financial
Statements and related Notes included as Items 7 and 8 in this Form 10-K.
YEAR ENDED DECEMBER 31,
--------------------------------------------------------------------------------------------------
2001 2000 1999 1998 1997
----------------- ---------------- ----------------- ---------------- ----------------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
CONSOLIDATED STATEMENT OF
OPERATIONS DATA:
Revenues:
Products, net:
Pharmaceuticals, vaccines
and diagnostics $ 16,704 $ 13,961 $ 12,716 $ 5,406 $ 2,587
Veterinary medical instruments 16,018 14,194 12,106 6,709 5,690
Food animal products 13,664 18,203 12,086 12,234 11,083
Sold businesses and other - 3,191 13,383 14,102 7,365
--------- --------- --------- --------- ---------
Total product revenues 46,386 49,549 50,291 38,451 26,725
Research, development and other 1,897 3,126 885 1,321 2,578
--------- --------- --------- --------- ---------
Total revenues 48,283 52,675 51,176 39,772 29,303
--------- --------- --------- --------- ---------
Cost of products sold 28,655 33,299 36,386 29,087 20,077
--------- --------- --------- --------- ---------
19,628 19,376 14,790 10,685 9,226
--------- --------- --------- --------- ---------
Operating expenses:
Selling and marketing 13,981 14,788 15,073 13,188 9,954
Research and development 13,565 14,929 17,042 25,126 20,343
General and administrative 7,882 9,457 11,231 11,939 13,192
Amortization of intangible assets
and deferred compensation 299 903 2,228 2,745 2,500
Purchased research and
development - - - - 2,399
Loss on sale of assets - 204 2,593 1,287 -
Restructuring expenses and other 2,023 435 1,210 2,356 -
--------- --------- --------- -------- ---------
Total operating expenses 37,750 40,716 49,377 56,641 48,388
--------- --------- --------- -------- ---------
Loss from operations (18,122) (21,340) (34,587) (45,956) (39,162)
--------- --------- --------- --------) ---------
Other income (expense) (569) (530) (1,249) 1,682 298
Net loss $ (18,691) $ (21,870) $ (35,836) $ 44,274) $ (38,864)
========= ========= ========= ======== =========
Basic net loss per share $ (0.48) $ (0.65) $ (1.31) $ (1.79)
========= ========= ========= ========
Unaudited pro forma basic net
loss per share(1) $ (2.42)
=========
Shares used to compute basic net
loss per share and Unaudited pro
forma basic net loss per share 38,919 33,782 27,290 24,693 16,042
DECEMBER 31,
--------------------------------------------------------------------------------------------------
2001 2000 1999 1998 1997
------------------ ---------------- ----------------- ---------------- ---------------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
CONSOLIDATED BALANCE SHEET DATA:
Cash, cash equivalents and
marketable securities $ 5,710 $ 5,658 $ 23,981 $ 51,930 $ 28,752
Working capital 8,215 13,308 28,234 51,947 31,461
Total assets 37,757 39,160 71,168 98,054 69,020
Line of credit 5,737 - 917 1,749 667
Long-term obligations 3,131 3,819 5,346 11,367 10,754
Accumulated deficit (193,163) (174,472) (152,602) (116,766) (72,492)
Total stockholders' equity 17,166 25,100 45,439 67,114 43,850
(1) All shares of convertible preferred stock were automatically
converted to common stock upon closing of the Company's initial
public offering in July 1997. The Company has reflected the
conversion of convertible preferred stock into 11,289 shares of
common stock on a pro forma basis as if the shares had been
outstanding during 1997.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
The following discussion and analysis of our financial condition and
results of operations should be read in conjunction with "Selected Consolidated
Financial Data" and the Consolidated Financial Statements and related Notes
included in Items 6 and 8 of this Form 10-K.
This discussion contains forward-looking statements that involve risks and
uncertainties. Such statements, which include statements concerning future
revenue sources and concentration, gross margins, research and development
expenses, selling and marketing expenses, general and administrative expenses,
capital resources, additional financings or borrowings and additional losses,
are subject to risks and uncertainties, including, but not limited to, those
discussed below and elsewhere in this Form 10-K, particularly in "Factors that
May Affect Results," that could cause actual results to differ materially from
those projected. The forward-looking statements set forth in this Form 10-K are
as of April 1, 2002, and we undertake no duty to update this information.
CORPORATE OVERVIEW
We discover, develop, manufacture and market companion animal health
products, principally for dogs, cats and horses. We employ approximately 80
scientists, of whom over one quarter hold doctoral degrees, with expertise in
several disciplines including microbiology, immunology, genetics, biochemistry,
molecular biology, parasitology and veterinary medicine. This scientific
expertise is focused on the development of a broad range of pharmaceutical,
vaccine and diagnostic products for companion animals. We also sell veterinary
diagnostic and patient monitoring instruments and offer diagnostic services to
veterinarians in the United States and Europe, principally for companion
animals. In addition to manufacturing companion animal health products for
marketing and sale by Heska, our Diamond Animal Health subsidiary manufactures
food animal vaccines and other food animal products that are marketed and
distributed by other animal health companies.
OUR BUSINESS
We currently market our products in the United States to veterinarians
through approximately 20 independent third-party distributors and through a
direct sales force. Nearly one-half of these domestic distributors purchase the
full line of our pharmaceutical, vaccine, diagnostic and instrumentation
products. We have recently begun to rely on distributors for a greater portion
of our sales.
Our business is comprised of two reportable segments, Companion Animal
Health and Food Animal Health. Prior to June 30, 2000, we also had a third
reportable segment, Allergy Treatment, which represented the operations of a
subsidiary sold as of June 23, 2000. Within the Companion Animal Health segment
there are two major product groupings which we define as pharmaceuticals,
vaccines and diagnostics (PVD) and veterinary diagnostic and patient monitoring
instruments. These products are sold through our operations in Fort Collins,
Colorado and Europe. Within the Food Animal Health segment, there is one major
product grouping, food animal vaccine and pharmaceutical products. We
manufacture these food animal products at our Diamond Animal Health subsidiary,
located in Des Moines, Iowa.
Additionally, we generate non-product revenues from sponsored research and
development projects for third parties, licensing of technology and royalties.
We perform these sponsored research and development projects for both companion
animal and food animal purposes.
ACQUISITIONS AND DISPOSITIONS
In 1996, we expanded into a fully-integrated research, development,
manufacturing and marketing company by acquiring Diamond Animal Health, a
licensed pharmaceutical and biological manufacturing facility in Des Moines,
Iowa, accounted for as a purchase. We acquired Center Laboratories, an FDA and
USDA licensed manufacturer of allergy immunotherapy products located in New York
in 1997, accounted for as a purchase. Center was sold effective June 23, 2000.
Also in 1997, we expanded internationally with the acquisitions of Heska UK, a
veterinary diagnostic laboratory in England and Heska AG (formerly Centre
Medical des Grand'Places S.A.) in Switzerland, which manufactures and markets
allergy diagnostic products for use in veterinary and human medicine, primarily
in Europe, accounted for as a purchase. Heska UK was sold effective January 31,
2000. In 1998, we acquired Sensor Devices, Inc., a manufacturer and marketer of
patient monitoring devices located in Waukesha, Wisconsin, accounted for as a
pooling. These operations were consolidated with our existing operations in
Fort Collins, Colorado and Des Moines, Iowa as of December 31, 1999 and the
facility was closed.
CRITICAL ACCOUNTING POLICIES
Our significant accounting policies are more fully described in Note 2 to
our consolidated financial statements. However, certain of our accounting
policies are particularly important to the understanding of our financial
position and results of operations and require the application of significant
judgment by our management; as a result they are subject to an inherent degree
of uncertainty. In applying those policies, our management uses its judgment to
determine the appropriate assumptions to be used in the determination of certain
estimates. Those estimates are based on our historical experience, terms of
existing contracts, our observance of trends in the industry, information
provided by our customers and information available from other outside sources,
as appropriate. Our significant accounting policies include:
* The Company generates its revenues through sale of products, licensing
of technology and sponsored research and development. Revenue is
accounted for in accordance with the guidelines provided by Staff
Accounting Bulletin 101 "Revenue Recognition in Financial Statements"
(SAB 101). The Company's policy is to recognize revenue when the
applicable revenue recognition criteria have been met, which generally
include the following:
- Persuasive evidence of an arrangement exists;
- Delivery has occurred or services rendered;
- Price is fixed or determinable; and
- Collectibility is reasonably assured.
Revenue from the sale of products is generally recognized
after both the goods are shipped to the customer and
acceptance has been received with an appropriate provision for
returns and allowances. The terms of the customer
arrangements generally pass title and risk of ownership to the
customer at the time of shipment. Certain customer
arrangements provide for acceptance provisions. Revenue for
these arrangements is not recognized until the acceptance has
been received or the acceptance period has lapsed.
In addition to its direct sales force, the Company utilizes
third-party distributors to sell its products. Distributors
purchase goods from the Company, take title to those goods and
resell them to their customers in the distributors'
territory.
License revenues under arrangements to sell product rights or
technology rights are recognized upon the sale and completion
by the Company of all obligations under the agreement.
Royalties are recognized as products are sold to customers.
The Company recognizes revenue from sponsored research and
development over the life of the contract as research
activities are performed. The revenue recognized is the
lesser of revenue earned under a percentage of completion
method based on total expected revenues or actual non-
refundable cash received to date under the agreement.
* Inventories. Inventories are stated at the lower of cost or market,
cost being determined on the first-in, first-out method. Inventories
are written down if the estimated net realizable value is less than the
recorded value.
* Foreign currency translation. The financial position and results of
operations of our foreign subsidiaries are measured using local currency
as the functional currency. Assets and liabilities of each foreign
subsidiary are translated at the rate of exchange in effect at the end
of the period. Revenues and expenses are translated at the average
exchange rate for the period. Foreign currency translation gains and
losses not impacting cash flows are credited to or charged against
other comprehensive income (loss). Foreign currency translation gains
and losses arising from cash transactions are credited to or charged
against current earnings.
RESULTS OF OPERATIONS
The following table summarizes our operations for our three most recent
fiscal years.
YEAR ENDED DECEMBER 31,
------------------------------------------------------------
2001 2000 1999
------------------- ------------------- ------------------
(IN THOUSANDS)
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Revenues:
Products, net:
Pharmaceuticals, vaccines and diagnostics $ 16,704 $ 13,961 $ 12,716
Veterinary medical instruments 16,018 14,194 12,106
Food animal products 13,664 18,203 12,086
Sold businesses and other - 3,191 13,383
------------ ----------- ----------
Total product revenues 46,386 49,549 50,291
Research, development and other 1,897 3,126 885
------------ ----------- ----------
Total revenues 48,283 52,675 51,176
Cost of products sold 28,655 33,299 36,386
------------ ----------- ----------
19,628 19,376 14,790
------------ ----------- ----------
Operating expenses:
Selling and marketing 13,981 14,788 15,073
Research and development 13,565 14,929 17,042
General and administrative 7,882 9,457 11,231
Amortization of intangible assets and deferred compensation 299 903 2,228
Loss on sale of assets - 204 2,593
Restructuring expenses and other 2,023 435 1,210
----------- ----------- ----------
Total operating expenses 37,750 40,716 49,377
----------- ----------- ----------
Loss from operations (18,122) (21,340) (34,587)
Other income (expense) (569) (530) (1,249)
----------- ----------- ----------
Net loss $ (18,691) $ (21,870) $ (35,836)
=========== =========== ==========
Basic net loss per share $ (0.48) $ (0.65) $ (1.31)
=========== =========== ==========
REVENUES
Total revenues, which include product revenues, sponsored research and
development and other revenues, decreased 8% to $48.3 million in 2001 compared
to $52.7 million in 2000. The 2000 total revenues of $52.7 million increased 3%
compared to $51.2 million in 1999. The total reported revenue included
approximately $3.2 million in 2000 and $13.4 million in 1999 from businesses
sold and non-strategic product lines discontinued during those years. In 2000,
we recorded $1.3 million in non-recurring revenue related to the sale of the
worldwide rights to one of our products. Sales to one customer, AGRILABS,
represented 16% and 17% of total revenues in 2001 and 2000, respectively, and
sales to another customer, Bayer, represented 12% of total revenues in 1999. We
expect our total 2002 revenues to be higher than 2001 for all product groups as
we introduce our new canine early renal disease diagnostic and record full-year
revenues for products introduced in the prior year.
Product revenues decreased 6% to $46.4 million in 2001 compared to $49.5
million in 2000. Product revenues decreased 2% to $49.5 million in 2000
compared to $50.3 million in 1999.
Our PVD product group had increased revenues of 20% in 2001 and 10% in 2000
on a year-to-year basis. Both of these annual increases were driven primarily
by higher domestic sales of our heartworm diagnostic products and equine
influenza vaccine, as well as growth in our export sales of both products. We
introduced the equine influenza vaccine in 2000 and in 2001 we introduced our E-
SCREEN allergy product. In 2002, we introduced our E.R.D.-SCREEN Urine Test
canine renal product. We expect PVD product revenues to increase in 2002 due
primarily to this introduction.
Revenues from the Instruments product group increased 12% to $16.0 million
in 2001 and 17% to $14.2 million in 2000 over the respective prior year. The
2001 increase is primarily attributable to the introduction of our new blood
chemistry instrument and solid growth in consumables and reagents as more
instruments have been placed in service each year. During 2000 we experienced
significant growth in the sales of our portable analyzer and hematology
instrument and the related consumables and reagents. Instrument product
revenues in 2002 should continue to grow at a rate equal to or greater than 2001
due to a full year of sales for our blood chemistry instrument introduced in
2001 and increased sales for consumables and reagents with more instruments
placed in service.
Diamond Animal Health reported 25% lower revenues in 2001 declining to
$13.6 million versus the prior year revenues of $18.2 million due to reduced
orders from a significant vaccine customer. Revenues at Diamond increased 51%
in 2000 over the 1999 total of $12.1 million due to increases in contract
vaccine manufacturing for food animals. We expect higher sales at Diamond in
2002 with growth primarily in our bovine vaccine products.
Revenues from sponsored research and development and other decreased 39% to
$1.9 million in 2001 from $3.1 million in 2000. Included in the total for 2000
is $1.3 million of revenue from the sale of our worldwide rights to the
PERIOceutic Gel product. Revenues from sponsored research and development and
other increased 244% to $3.1 million in 2000 from $900,000 in 1999 due to the
sale of the product rights and an increase in the number of funded research
projects. Our revenues from sponsored research and development are anticipated
to be significantly lower in 2002 due to fewer large research projects for third
parties.
COST OF PRODUCTS SOLD
Cost of products sold totaled $28.7 million in 2001 compared to $33.3
million in 2000, and the resulting gross profit from product sales for 2001
increased to $17.7 million from $16.3 million in 2000. Our gross margin
percentage on products sold was 38% in 2001, compared to 33% in 2000. During
2001, our gross margin improved as our product mix included a higher percentage
of our proprietary PVD products with higher gross margins. Also during fiscal
2000 we sold businesses and eliminated various product lines that did not meet
gross profit expectations.
Cost of goods sold totaled $33.3 million in 2000 compared to $36.4 million
in 1999, and the resulting gross profit from product sales for 2000 increased to
$16.3 million from $13.9 million in 1999. Our gross margin percentage was 33%
in 2000, compared to 28% in 1999. During 2000, our gross margin improved as our
product mix included a higher percentage of proprietary products with higher
gross margins. Also during fiscal 2000 and late in fiscal 1999, we sold
businesses and eliminated various product lines that did not meet gross profit
expectations.
We expect our gross margin percentage to continue to increase in 2002 as we
sell more higher-margin PVD products plus reagents and consumables related to
the increased number of instruments in use in the marketplace. We also expect
to benefit from an improved cost structure at Diamond. This expected gross
margin percentage increase will be at a slower pace than prior years because, in
part, it will be somewhat offset by the recent change in our distribution
strategy which incorporates a larger reliance on third-party distributors for
the sale of our products.
OPERATING EXPENSES
Selling and marketing expenses decreased over 5% to $14.0 million in 2001
as compared to $14.8 million in 2000, due to the sale of certain businesses.
Selling and marketing expenses consist primarily of salaries, commissions and
benefits for sales and marketing personnel, commissions paid to contract sales
personnel and expenses of product advertising and promotion. We expect lower
selling and marketing expenses in 2002 as we rely more heavily on third-party
distributors rather than our own direct sales force to generate sales of our
products to veterinarians. Selling and marketing expenses remained relatively
flat with $14.8 million in 2000 as compared to $15.1 million in 1999, due to the
sale of certain businesses offset by the introduction and marketing costs for
new products.
Research and development expenses decreased nearly 9% to $13.6 million in
2001 from $14.9 million in 2000 and $17.0 million in 1999. The decreases are
due to a greater focus on companion animal product opportunities and tight cost
control. We expect a similar decrease in these expenses in 2002 for the same
reasons.
General and administrative expenses decreased 17% to $7.9 million in 2001
from $9.5 million in 2000 and $11.2 million in 1999. The year-over-year
decreases are due to the sale of certain businesses and tight cost control at
all operations. We expect general and administrative expenses to continue to
decrease in 2002 with continued tight cost control.
The amortization of goodwill and other intangibles resulted in a non-cash
charge to operations of $270,000, $255,000 and $1.6 million in 2001, 2000 and
1999, respectively. The decrease after 1999 is due to the sale of Heska UK and
the write-down of goodwill and certain intangible assets in 1999. The
amortization of deferred compensation resulted in a non-cash charge to
operations in 2001 of approximately $29,000 compared to $648,000 and $629,000 in
2000 and 1999, respectively. The 2000 and 1999 amortization of deferred
compensation represents current period costs associated with options issued to
employees during 1996 and 1997 in which the deemed value of the common stock for
accounting purposes on the date of grant exceeded the exercise price of the
options. The compensation costs were recognized over the service period and the
related deferred compensation was fully amortized as of December 31, 2000. We
have adopted SFAS 142 and therefore, will no longer be amortizing the goodwill
associated with our purchase of CMG. During fiscal 2001, we recognized $210,000
of amortization related to this goodwill.
The loss on sale of assets in 2000 reflects the write-down to net book
value of certain assets held for sale, offset by the gain on the sale of Center
of approximately $151,000.
We recorded a restructuring charge of approximately $1.5 million in the
fourth quarter of 2001 related to the change in our distribution strategy and to
the consolidation of our European operations into one facility. We also
recognized approximately $500,000 of non-recurring expenses resulting from
management's decision to not pursue a strategic transaction after extensive
evaluation.
During the first quarter of 2000, we recorded a $435,000 restructuring
charge related to the rationalization of our business operations at Diamond.
Diamond reduced the size of its workforce and vacated a warehouse and
distribution facility no longer needed when we decided to discontinue
manufacturing of certain low margin human healthcare products.
OTHER
Interest income decreased to $324,000 in 2001 as compared to $1.0 million
in 2000 and $1.6 million in 1999 as we continued to fund our operations with
available cash. Interest income is expected to continue to decrease in the
future as we continue to use cash to fund our business operations. Interest
expense decreased to $587,000 in 2001 from $1.2 million in 2000 and $1.9 million
as we reduced our debt and capital leases from $17.1 million at the beginning of
1999 to less than $8.7 million at the end of fiscal 2001.
Other expense decreased to $306,000 from $361,000 in 2000 and nearly $1.0
million in 1999. The higher losses in 1999 were primarily due to losses
realized on the sale of certain long-term interest-bearing government securities
during that year.
NET LOSS
Our net loss decreased to $18.7 million in 2001 compared to $21.9 million
in 2000 and $35.8 million in 1999. The improvement is the result of
significantly higher gross margin percentages on product sales from year-to-
year, a $11.6 million reduction in operating expenses including certain
unprofitable businesses that were sold and tight cost control in all areas of
our business. We are expecting a net loss in 2002 substantially lower than the
net loss in 2001 as we anticipate revenue growth in each of our primary product
groups, slightly higher gross profit margins on product sales and continued
disciplined management of our operating expenses.
LIQUIDITY AND CAPITAL RESOURCES
We have incurred negative cash flow from operations since inception in
1988. For the year ended December 31, 2001, we had total revenues of $48.3
million and a net loss of $18.7 million. Our negative operating cash flows have
been funded primarily through the sale of common stock and borrowings. At
December 31, 2001, we had cash and cash equivalents of $5.7 million.
We recently amended our credit agreement with our lender to obtain a waiver
of certain covenants under our revolving line of credit as of December 31, 2001,
set the financial covenants for 2002 and extend the maturity date of the loans
an additional year to May 31, 2003. If our lender imposes loan covenants or
other credit requirements that would prevent us from accessing the full amount
of our line of credit, we would need to raise additional capital to fund any
shortfall from our borrowings expected to be available under the revolving line
of credit. We anticipate that any additional capital would be raised through
one or more of the following:
* obtaining new loans secured by unencumbered assets;
* sale of various products or marketing rights;
* licensing of technology;
* sale of various assets; and
* sale of additional equity or debt securities.
At December 31, 2001, we had outstanding obligations for long-term debt and
capital leases totaling $2.9 million primarily related to two term loans with
Wells Fargo Business Credit. One of these two term loans is secured by real
estate at Diamond and had an outstanding balance at December 31, 2001 of
$1.8 million due in monthly installments of $17,658 plus interest, with a
balloon payment of approximately $1.5 million due on May 31, 2003. The other
term loan is secured by machinery and equipment at Diamond and had an
outstanding balance at December 31, 2001 of approximately $688,000 payable in
installments of $18,667 plus interest, with a balloon payment of approximately
$370,000 due on May 31, 2003. Both loans have a stated interest rate of prime
plus 1.25%. In addition, Diamond has promissory notes to the Iowa Department of
Economic Development and the City of Des Moines with outstanding balances at
year-end of $41,000 and $54,000, respectively, due in annual and monthly
installments through June 2004 and May 2004, respectively. Both promissory
notes have a stated interest rate of 3.0% and an imputed interest rate of 9.5%.
The notes are secured by first security interests in essentially all of
Diamond's assets and both lenders have subordinated their first security
interest to Wells Fargo. We also had $240,000 of equipment financing which was
paid in full in January 2002. Our capital lease obligations totaled $161,000 at
year-end 2001.
We also have a $10.0 million asset-based revolving line of credit with
Wells Fargo Business Credit. Available borrowings under this line of credit are
based upon percentages of our eligible domestic accounts receivable and domestic
inventories. Interest is charged at a stated rate of prime plus 1% and is
payable monthly. Our ability to borrow under this facility varies based upon
available cash, eligible accounts receivable and eligible inventory. On March
13, 2002, we negotiated our covenants for 2002 and obtained a waiver of certain
financial covenants at December 31, 2001. The line of credit has a maturity
date of May 31, 2003. At December 31, 2001, our outstanding borrowings under
the line of credit were $5.7 million and we had remaining available borrowing
capacity of $2.2 million.
Net cash used in operating activities was $14.1 million in 2001, compared
to $15.9 million in 2000. Accounts payable and accrued liabilities increased by
$2.9 million in 2001 related to the $2.0 million of restructuring expense and
other, as well as increases in accrued commissions, royalties and incentive
compensation. Accounts receivable increased by $2.0 million compared to the
fourth quarter of 2000 due to the 29% increase in revenues during the fourth
quarter of 2001. Net cash used in operating activities in 1999 was $33.2
million compared to $14.1 million in 2001. This significant decrease when
compared to the current year is primarily due to a $17.1 million decrease in the
net loss over the past two fiscal years.
Net cash flows from investing activities provided us with $1.9 million
during 2001, compared to $25.2 million and $20.3 million of cash provided in
2000 and 1999, respectively. The cash provided in 2001 resulted from the sale
of our marketable securities offset by capital expenditures for the year. The
cash provided in 2000 resulted primarily from the sale of $20.0 million of
marketable securities and the sale of Center Laboratories for approximately $6.0
million. This cash was used to fund our fiscal 2000 operations and debt
repayments. The cash provided in 1999 was from proceeds from the sale of
marketable securities offset by the purchase of marketable securities and
capital expenditures. This cash was used to fund operations in 1999 and debt
repayments. Expenditures for property and equipment totaled $840,000,
$1.2 million and $3.3 million in 2001, 2000 and 1999, respectively. We
currently expect to spend approximately $500,000 in 2002 for capital equipment,
including expenditures to upgrade certain manufacturing operations to improve
efficiencies and to assure ongoing compliance with regulatory requirements. We
also expect to begin a major renovation of the roof at our Diamond manufacturing
facility with an estimated cost of $1.0-$1.5 million. We expect to finance
these expenditures through available cash, equipment leases and secured debt
facilities.
Net cash flows from financing activities provided $14.8 million in cash in
2001, used $7.6 million in 2000 and provided $8.4 million in 1999. Our primary
sources of cash from financing activities in 2001 were two private placements of
our common stock in February and December with net proceeds of approximately
$11.0 million and borrowings under our credit facility of $5.7 million. We
repaid debt and capital lease obligations totaling $2.0 million in 2001. Our
primary use of cash in 2000 was the repayment of debt and capital lease
obligations totaling nearly $8.5 million. The primary source of cash in 1999
was the public offering of common stock in December which provided us with net
proceeds of approximately $13.3 million. We also borrowed an additional
$971,000 under our available credit facilities. We used cash to repay
$6.5 million of debt and capital lease obligations.
Our primary short-term needs for capital, which are subject to change, are
for our continuing research and development efforts, our sales, marketing and
administrative activities, working capital associated with increased product
sales and capital expenditures relating to developing and expanding our
manufacturing operations. Our future liquidity and capital requirements will
depend on numerous factors, including the extent to which our present and future
products gain market acceptance, the extent to which products or technologies
under research or development are successfully developed, the timing of
regulatory actions regarding our products, the costs and timing of expansion of
sales, marketing and manufacturing activities, the cost, timing and business
management of current and potential acquisitions and contingent liabilities
associated with such acquisitions, the procurement and enforcement of patents
important to our business and the results of competition.
Our financial plan for 2002 indicates that our cash on hand, together with
up to $9.1 million of borrowings expected to be available under our revolving
line of credit, should be sufficient to fund our operations through 2002 and
into 2003. However, our actual results may differ from this plan, and we may
need to raise additional capital in the future. If necessary, we expect to
raise these additional funds through one or more of the following: (1)
obtaining new loans secured by unencumbered assets; (2) sale of various products
or marketing rights; (3) licensing of technology; (4) sale of various assets;
and (5) sale of additional equity or debt securities. If we cannot raise the
additional funds through these options on acceptable terms or with the necessary
timing, management could also reduce discretionary spending to decrease our cash
burn rate and extend the currently available cash and cash equivalents, and
available borrowings. See "Factors that May Affect Results."
A summary of our contractual obligations at December 31, 2001 is shown
below.
PAYMENTS DUE BY PERIOD
-------------------------------------------------------------------------------------
TOTAL LESS THAN 1-3 4-5 AFTER
--------------- 1 YEAR YEARS YEARS 5 YEARS
--------------- --------------- --------------- ---------------
CONTRACTUAL OBLIGATIONS
Long-Term Debt $ 2,763 $ 711 $ 2,052 $ - $ -
Capital Lease Obligations 161 104 57 - -
Line of Credit 5,737 - 5,737 - -
Operating Leases 2,580 887 1,607 86 -
Unconditional Purchase 2,392 91 1,655 646 -
Obligations
Other Long-Term Obligations 125 - - - 125
---------- ---------- ---------- ---------- ---------
Total Contractual Cash $ 13,758 $ 1,793 $ 11,108 $ 732 $ 125
Obligations ========== ========== ========== ========== =========
NET OPERATING LOSS CARRYFORWARDS
As of December 31, 2001, we had a net operating loss carryforward, or NOL,
of approximately $164.5 million and approximately $2.7 million of research and
development tax credits available to offset future federal income taxes. The
NOL and tax credit carryforwards, which are subject to alternative minimum tax
limitations and to examination by the tax authorities, expire from 2003 to 2021.
Our acquisition of Diamond resulted in a "change of ownership" under the
provisions of Section 382 of the Internal Revenue Code of 1986, as amended. As
such, we will be limited in the amount of NOL's incurred prior to the merger
that we may utilize to offset future taxable income. This limitation will total
approximately $4.7 million per year for periods subsequent to the Diamond
acquisition. Similar limitations also apply to utilization of research and
development tax credits to offset taxes payable. We believe that this
limitation may affect the eventual utilization of our total NOL carryforwards.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 141, "Business Combinations" and SFAS No. 142, "Goodwill and Other
Intangible Assets." These statements prohibit pooling-of-interests accounting
for transactions initiated after June 30, 2001, require the use of the purchase
method of accounting for all combinations after June 30, 2001, and establish a
new accounting standard for goodwill acquired in a business combination. These
continue to require recognition of goodwill as an asset, but do not permit
amortization of goodwill as previously required by APB Opinion No. 17,
"Intangible Assets." Furthermore, certain intangible assets that are not
separable from goodwill will also not be amortized. However, goodwill and other
intangible assets will be subject to periodic (at least annual) tests for
impairment, and recognition of impairment losses in the future could be required
based on a new methodology for measuring impairments prescribed by these
pronouncements. The revised standards include transition rules and requirements
for identification, valuation and recognition of a much broader list of
intangibles as part of business combinations than prior practice, most of which
will continue to be amortized. The potential prospective impact of these
pronouncements on the Company's financial statements may significantly affect
the results of future periodic tests for impairment. The amount and timing of
non-cash charges related to intangibles acquired in business combinations will
change from prior practice. The Company recorded $211,000 of amortization
expense during the year ended December 31, 2001 relating to goodwill that will
not be amortized beginning January 1, 2002. Furthermore, the Company will be
required to conduct an annual impairment test of its goodwill. The Company has
not yet quantified the impact, if any, that this impairment test will have on
the results of its operations.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." This statement establishes accounting standards for
recognition and measurement of a liability for an asset retirement obligation
and the associated asset retirement cost. It requires an entity to recognize
the fair value of a liability for an asset retirement obligation in the period
in which it is incurred if a reasonable estimate can be made. The Company is
required to adopt this statement in its fiscal year 2003. The Company does not
believe that this statement will materially impact its results of operations.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." This statement supersedes SFAS
No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed of" and the accounting and reporting provisions of APB
Opinion No. 30, "Reporting the Results of Operations - Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions." This statement applies to recognized long-
lived assets of an entity to be held and used, or to be disposed of. This
statement does not apply to goodwill, intangible assets not being amortized,
financial instruments, and deferred tax assets. This statement requires an
impairment loss to be recorded for assets to be held and used when the carrying
amount of a long-lived asset is not recoverable and exceeds its fair value. An
asset that is classified as held for sale shall be recorded at the lower of its
carrying amount or fair value less cost to sell. The Company is required to
adopt this statement for the first quarter of 2002. The Company does not
believe that this statement will materially impact its results of operations.
FACTORS THAT MAY AFFECT RESULTS
Our future operating results may vary substantially from period to period
due to a number of factors, many of which are beyond our control. The following
discussion highlights these factors and the possible impact of these factors on
future results of operations. If any of the following factors actually occur,
our business, financial condition or results of operations could be harmed. In
that case, the price of our common stock could decline, and you could experience
losses on your investment.
WE ANTICIPATE FUTURE LOSSES AND MAY NOT BE ABLE TO ACHIEVE PROFITABILITY IN
THE FUTURE.
We have incurred net losses since our inception in 1988 and, as of December
31, 2001, we had an accumulated deficit of $193.2 million. We anticipate that
we will continue to incur additional operating losses in the near term. These
losses have resulted principally from expenses incurred in our research and
development programs and from sales and marketing and general and administrative
expenses. Even if we achieve profitability, we may not be able to sustain or
increase profitability on a quarterly or annual basis. If we cannot achieve or
sustain profitability, we may not be able to fund our expected cash needs or
continue our operations.
WE ARE NOT GENERATING POSITIVE CASH FLOW AND MAY NEED ADDITIONAL CAPITAL IN
THE FUTURE AND ANY REQUIRED CAPITAL MAY NOT BE AVAILABLE ON ACCEPTABLE TERMS OR
AT ALL.
We have incurred negative cash flow from operations since inception in
1988. For the year ended December 31, 2001, we had total revenues of $48.3
million and a net loss of $18.7 million. Our financial plan for 2002 indicates
that our cash on hand, together with up to $9.1 million of borrowings expected
to be available under our revolving line of credit should be sufficient to fund
our operations through 2002 and into 2003. However, our actual results may
differ from this plan, and we may need to raise additional capital in the
future.
We recently amended our credit agreement with our lender to obtain a waiver
of certain covenants under our revolving line of credit as of December 31, 2001,
set the financial covenants for 2002 and extend the maturity date of the loans
an additional year to May 31, 2003. If our lender imposes loan covenants or
other credit requirements that would prevent us from accessing the full amount
of our line of credit, we would need to raise additional capital to fund any
shortfall from our borrowings expected to be available under the revolving line
of credit. We anticipate that any additional capital would be raised through
one or more of the following:
* obtaining new loans secured by unencumbered assets;
* sale of various products or marketing rights;
* licensing of technology;
* sale of various assets; and
* sale of additional equity or debt securities.
Additional capital may not be available on acceptable terms, if at all.
The public markets may remain unreceptive to equity financings, and we may not
be able to obtain additional private equity financing. Furthermore, amounts we
expect to be available under our existing revolving credit facility may not be
available, and other lenders could refuse to provide us with additional debt
financing. Furthermore, any additional equity financing would likely be
dilutive to stockholders, and additional debt financing, if available, may
include restrictive covenants which may limit our currently planned operations
and strategies. If adequate funds are not available, we may be required to
curtail our operations significantly and reduce discretionary spending to extend
the currently available cash resources, or to obtain funds by entering into
collaborative agreements or other arrangements on unfavorable terms, all of
which would likely have a material adverse effect on our business, financial
condition and our ability to continue as a going concern.
WE MUST MAINTAIN VARIOUS FINANCIAL AND OTHER COVENANTS UNDER OUR REVOLVING
LINE OF CREDIT AGREEMENT.
Under our revolving line of credit agreement with Wells Fargo Business
Credit, we are required to comply with various financial and non-financial
covenants, and we have made various representations and warranties. Among the
financial covenants are requirements for monthly minimum book net worth, minimum
quarterly net income and minimum cash balances or liquidity levels. We have
obtained modifications and a waiver of these covenants in the past.
Failure to comply with any of the covenants, representations or warranties
could result in our being in default under the loan and could cause all
outstanding amounts to become immediately due and payable or impact our ability
to borrow under the agreement. All amounts due under the credit facility mature
on May 31, 2003. We intend to rely on available borrowings under the credit
agreement to fund our operations through 2002 and into 2003. If we are unable
to borrow funds under this agreement, we will need to raise additional capital
to fund our cash needs and continue our operations.
WE HAVE LIMITED RESOURCES TO DEVOTE TO PRODUCT DEVELOPMENT AND
COMMERCIALIZATION. IF WE ARE NOT ABLE TO DEVOTE ADEQUATE RESOURCES TO PRODUCT
DEVELOPMENT AND COMMERCIALIZATION, WE MAY NOT BE ABLE TO DEVELOP OUR PRODUCTS.
Our strategy is to develop a broad range of products addressing companion
animal healthcare. We believe that our revenue growth and profitability, if
any, will substantially depend upon our ability to:
* improve market acceptance of our current products;
* complete development of new products; and
* successfully introduce and commercialize new products.
We have introduced some of our products only recently and many of our
products are still under development. Among our recently introduced products
are SOLO STEP CH Batch Test Strips for testing heartworm infection in dogs,
E.R.D.-SCREEN Urine Test for detecting albumin in canine urine, ALLERCEPT E-
SCREEN Test for assessing allergies in dogs, and SPOTCHEMT EZ, a compact system
for measuring animal blood chemistry. We currently have under development or in
preliminary clinical trials a number of products, including a gene based therapy
for canine cancer. Because we have limited resources to devote to product
development and commercialization, any delay in the development of one product
or reallocation of resources to product development efforts that prove
unsuccessful may delay or jeopardize the development of our other product
candidates. If we fail to develop new products and bring them to market, our
ability to generate revenues will decrease.
In addition, our products may not achieve satisfactory market acceptance,
and we may not successfully commercialize them on a timely basis, or at all. If
our products do not achieve a significant level of market acceptance, demand for
our products will not develop as expected and it is unlikely that we ever will
become profitable.
WE MUST OBTAIN AND MAINTAIN COSTLY REGULATORY APPROVALS IN ORDER TO MARKET
OUR PRODUCTS.
Many of the products we develop and market are subject to extensive
regulation by one or more of the USDA, the FDA, the EPA and foreign regulatory
authorities. These regulations govern, among other things, the development,
testing, manufacturing, labeling, storage, pre-market approval, advertising,
promotion, sale and distribution of our products. Satisfaction of these
requirements can take several years and time needed to satisfy them may vary
substantially, based on the type, complexity and novelty of the product.
Our Flu AVERT I.N. Vaccine, SOLO STEP CH, SOLO STEP FH and SOLO STEP Batch
Test Strips each have received regulatory approval in the United States by the
USDA. In addition, the Flu AVERT I.N. Vaccine has been approved in Canada by
the CFIA. SOLO STEP CH and SOLO STEP Batch Test Strips are pending approval by
the CFIA. SOLO STEP CH has also been approved by the Japanese Ministry of
Agriculture, Forestry and Fisheries. In addition, our Trivalent
Intranasal/Intraocular Vaccine has also received United States regulatory
approval. U.S. regulatory approval by the USDA is currently pending for our
Feline ImmuCheck Assay, Canine Cancer Gene Therapy, Giardia + Crypto-Screen
Fecal Test and Trivalent Intranasal/Intraocular Vaccine - Second Generation
products.
The effect of government regulation may be to delay or to prevent marketing
of our products for a considerable period of time and to impose costly
procedures upon our activities. We have experienced in the past, and may
experience in the future, difficulties that could delay or prevent us from
obtaining the regulatory approval or license necessary to introduce or market
our products. For example, the Flu AVERT I.N. vaccine for equine influenza was
not approved until six months after the date on which we expected approval.
This delay caused us to miss the initial primary selling season for equine
influenza vaccines, and we believe it delayed the initial market acceptance of
this product. Regulatory approval of our products may also impose limitations
on the indicated or intended uses for which our products may be marketed.
Among the conditions for certain regulatory approvals is the requirement
that our manufacturing facilities or those of our third party manufacturers
conform to current Good Manufacturing Practices or other manufacturing
regulations, which include requirements relating to quality control and quality
assurance as well as maintenance of records and documentation. The USDA, FDA
and foreign regulatory authorities strictly enforce manufacturing regulatory
requirements through periodic inspections. If any regulatory authority
determines that our manufacturing facilities or those of our third party
manufacturers do not conform to appropriate manufacturing requirements, we or
the manufacturers of our products may be subject to sanctions, including warning
letters, product recalls or seizures, injunctions, refusal to permit products to
be imported into or exported out of the United States, refusals of regulatory
authorities to grant approval or to allow us to enter into government supply
contracts, withdrawals of previously approved marketing applications, civil
fines and criminal prosecutions.
FACTORS BEYOND OUR CONTROL MAY CAUSE OUR OPERATING RESULTS TO FLUCTUATE, AND
SINCE MANY OF OUR EXPENSES ARE FIXED, THIS FLUCTUATION COULD CAUSE OUR STOCK
PRICE TO DECLINE.
We believe that our future operating results will fluctuate on a quarterly
basis due to a variety of factors, including:
* results from Diamond;
* the introduction of new products by us or by our competitors;
* our recent change in distribution strategy;
* market acceptance of our current or new products;
* regulatory and other delays in product development;
* product recalls;
* competition and pricing pressures from competitive products;
* manufacturing delays;
* shipment problems;
* product seasonality; and
* changes in the mix of products sold.
We have high operating expenses for personnel, new product development and
marketing. Many of these expenses are fixed in the short term. If any of the
factors listed above cause our revenues to decline, our operating results could
be substantially harmed.
Our operating results in some quarters may not meet the expectations of
stock market analysts and investors. In that case, our stock price probably
would decline.
OUR LARGEST CUSTOMER ACCOUNTED FOR OVER 15% OF OUR REVENUES FOR THE PREVIOUS
TWO YEARS, AND THE LOSS OF THAT CUSTOMER OR OTHER CUSTOMERS COULD HARM OUR
OPERATING RESULTS.
We currently derive a substantial portion of our revenues from sales by our
subsidiary, Diamond, which manufactures several of our products and products for
other companies in the animal health industry. Revenues from one contract
between Diamond and Agri Laboratories, Ltd., comprised approximately 16% of our
total revenues in 2001 and 17% of our total revenues in 2000. That contract
expires in 2004 and is automatically renewed unless either party does not wish
to renew. We are currently in negotiations with Agri Laboratories to modify and
extend this agreement, but there is no assurance we will be successful. If Agri
Laboratories does not continue to purchase from Diamond and if we fail to
replace the lost revenue with revenues from other customers, our business could
be substantially harmed. In addition, sales from our next three largest
customers accounted for an aggregate of approximately 12% of our revenues in
2001. If we are unable to maintain our relationships with one or more of these
customers, our sales may decline.
WE OPERATE IN A HIGHLY COMPETITIVE INDUSTRY, WHICH COULD RENDER OUR PRODUCTS
OBSOLETE OR SUBSTANTIALLY LIMIT THE VOLUME OF PRODUCTS THAT WE SELL. THIS WOULD
LIMIT OUR ABILITY TO COMPETE AND ACHIEVE PROFITABILITY.
We compete with independent animal health companies and major
pharmaceutical companies that have animal health divisions. Companies with a
significant presence in the animal health market, such as Wyeth, Bayer, IDEXX,
Intervet, Merial, Novartis, Pfizer, Pharmacia and Schering Plough, have
developed or are developing products that compete with our products or would
compete with them if developed. These competitors may have substantially
greater financial, technical, research and other resources and larger, better-
established marketing, sales, distribution and service organizations than us.
In addition, we believe that IDEXX prohibits its distributors from selling
competitors' products, including our SOLO STEP heartworm diagnostic products
and medical diagnostic instruments. Our competitors frequently offer broader
product lines and have greater name recognition than we do. Our competitors may
develop or market technologies or products that are more effective or
commercially attractive than our current or future products or that would render
our technologies and products obsolete. Further, additional competition could
come from new entrants to the animal healthcare market. Moreover, we may not
have the financial resources, technical expertise or marketing, distribution or
support capabilities to compete successfully. If we fail to compete
successfully, our ability to achieve profitability will be limited.
WE MAY BE UNABLE TO SUCCESSFULLY MARKET AND DISTRIBUTE OUR PRODUCTS AND HAVE
RECENTLY MODIFIED OUR DISTRIBUTION STRATEGY.
The market for companion animal healthcare products is highly fragmented,
with discount stores and specialty pet stores accounting for a substantial
percentage of sales of certain products. Because our proprietary products are
available only by prescription and our medical instruments require technical
training, we sell our companion animal health products only to veterinarians.
Therefore, we may fail to reach a substantial segment of the potential market.
We currently market our products in the United States to veterinarians
through approximately 20 independent third party distributors and through a
direct sales force. Nearly one-half of these domestic distributors carry the
full line of our pharmaceutical, vaccine, diagnostic and instrumentation
products. We have recently begun to rely on distributors for a greater portion
of our sales and therefore need to increase our training efforts directed at the
sales personnel of our distributors. To be successful, we will have to continue
to develop and train our direct sales force as well as sales personnel of our
distributors and rely on other arrangements with third parties to market,
distribute and sell our products. In addition, most of our distributor
agreements can be terminated on 60 days' notice and IDEXX, our largest
competitor, prohibits its distributors from selling competitors' products,
including ours. For example, one of our largest distributors recently informed
us that they would no longer carry our heartworm diagnostic products or our
chemistry or hematology instruments because they wish to carry products from one
of our competitors.
We may not successfully develop and maintain marketing, distribution or
sales capabilities, and we may not be able to make arrangements with third
parties to perform these activities on satisfactory terms. If our marketing and
distribution strategy is unsuccessful, our ability to sell our products will be
negatively impacted and our revenues will decrease. Furthermore, the recent
change in our distribution strategy and our expected increase in sales from
distributors and decrease in direct sales may have a negative impact on our
gross margins.
WE HAVE GRANTED THIRD PARTIES SUBSTANTIAL MARKETING RIGHTS TO CERTAIN OF OUR
EXISTING PRODUCTS AS WELL AS PRODUCTS UNDER DEVELOPMENT. IF THE THIRD PARTIES
ARE NOT SUCCESSFUL IN MARKETING OUR PRODUCTS OUR SALES MAY NOT INCREASE.
Our agreements with our corporate marketing partners generally contain no
minimum purchase requirements in order for them to maintain their exclusive or
co-exclusive marketing rights. Currently, Novartis Agro K.K. markets and
distributes SOLO STEP CH in Japan, and Novartis Animal Health Canada, Inc.
distributes our FLU AVERT I.N. vaccine in Canada. In addition, we have entered
into agreements with Novartis and Eisai Inc. to market or co-market certain of
the products that we are currently developing. Also, Nestle Purina Petcare has
exclusive rights to license our technology for nutritional applications for dogs
and cats. One or more of these marketing partners may not devote sufficient
resources to marketing our products. Furthermore, there is nothing to prevent
these partners from pursuing alternative technologies or products that may
compete with our products. In the future, third party marketing assistance may
not be available on reasonable terms, if at all. If any of these events occur,
we may not be able to commercialize our products and our sales will decline.
WE MAY FACE COSTLY INTELLECTUAL PROPERTY DISPUTES.
Our ability to compete effectively will depend in part on our ability to
develop and maintain proprietary aspects of our technology and either to operate
without infringing the proprietary rights of others or to obtain rights to
technology owned by third parties. We have United States and foreign-issued
patents and are currently prosecuting patent applications in the United States
and with various foreign countries. Our pending patent applications may not
result in the issuance of any patents or any issued patents that will offer
protection against competitors with similar technology. Patents we receive may
be challenged, invalidated or circumvented in the future or the rights created
by those patents may not provide a competitive advantage. We also rely on trade
secrets, technical know-how and continuing invention to develop and maintain our
competitive position. Others may independently develop substantially equivalent
proprietary information and techniques or otherwise gain access to our trade
secrets.
The biotechnology and pharmaceutical industries have been characterized by
extensive litigation relating to patents and other intellectual property rights.
In 1998, Synbiotics Corporation filed a lawsuit against us alleging infringement
of a Synbiotics patent relating to heartworm diagnostic technology, and this
litigation remains ongoing. We may become subject to additional patent
infringement claims and litigation in the United States or other countries or
interference proceedings conducted in the United States Patent and Trademark
Office, or USPTO, to determine the priority of inventions. The defense and
prosecution of intellectual property suits, USPTO interference proceedings, and
related legal and administrative proceedings are costly, time-consuming and
distracting. We may also need to pursue litigation to enforce any patents
issued to us or our collaborative partners, to protect trade secrets or know-how
owned by us or our collaborative partners, or to determine the enforceability,
scope and validity of the proprietary rights of others. Any litigation or
interference proceeding will result in substantial expense to us and significant
diversion of the efforts of our technical and management personnel. Any adverse
determination in litigation or interference proceedings could subject us to
significant liabilities to third parties. Further, as a result of litigation or
other proceedings, we may be required to seek licenses from third parties which
may not be available on commercially reasonable terms, if at all.
OUR TECHNOLOGY AND THAT OF OUR COLLABORATORS MAY BECOME THE SUBJECT OF LEGAL
ACTION.
We license technology from a number of third parties, including Quidel
Corporation, Genzyme Corporation, Diagnostic Chemicals, Ltd., Valentis, Inc.,
Corixa Corporation, Roche, New England Biolabs, Inc. and Hybritech Inc., as well
as a number of research institutions and universities. The majority of these
license agreements impose due diligence or milestone obligations on us, and in
some cases impose minimum royalty and/or sales obligations on us, in order for
us to maintain our rights under these agreements. Our products may incorporate
technologies that are the subject of patents issued to, and patent applications
filed by, others. As is typical in our industry, from time to time we and our
collaborators have received, and may in the future receive, notices from third
parties claiming infringement and invitations to take licenses under third party
patents. It is our policy that when we receive such notices, we conduct
investigations of the claims they assert. With respect to the notices we have
received to date, we believe, after due investigation, that we have meritorious
defenses to the infringement claims asserted. Any legal action against us or
our collaborators may require us or our collaborators to obtain one or more
licenses in order to market or manufacture affected products or services.
However, we or our collaborators may not be able to obtain licenses for
technology patented by others on commercially reasonable terms, we may not be
able to develop alternative approaches if unable to obtain licenses, or current
and future licenses may not be adequate for the operation of our businesses.
Failure to obtain necessary licenses or to identify and implement alternative
approaches could prevent us and our collaborators from commercializing our
products under development and could substantially harm our business.
WE HAVE LIMITED MANUFACTURING EXPERIENCE AND CAPACITY AND RELY SUBSTANTIALLY
ON THIRD-PARTY MANUFACTURERS. THE LOSS OF ANY THIRD-PARTY MANUFACTURERS COULD
LIMIT OUR ABILITY TO LAUNCH OUR PRODUCTS IN A TIMELY MANNER, OR AT ALL.
To be successful, we must manufacture, or contract for the manufacture of,
our current and future products in compliance with regulatory requirements, in
sufficient quantities and on a timely basis, while maintaining product quality
and acceptable manufacturing costs. In order to increase our manufacturing
capacity, we acquired Diamond in April 1996.
We currently rely on third parties to manufacture those products we do not
manufacture at our Diamond facility. We currently have supply agreements with
Quidel Corporation for various manufacturing services relating to our point-of-
care diagnostic tests, with Centaq, Inc. for the manufacture of our own allergy
immunotherapy treatment products and with various manufacturers for the supply
of our veterinary diagnostic and patient monitoring instruments. Our
manufacturing strategy presents the following risks:
* Delays in the scale-up to quantities needed for product development
could delay regulatory submissions and commercialization of our products
in development;
* Our manufacturing facilities and those of some of our third-party
manufacturers are subject to ongoing periodic unannounced inspection by
regulatory authorities, including the FDA, USDA and other federal and state
agencies for compliance with strictly enforced Good Manufacturing Practices
regulations and similar foreign standards, and we do not have control over
our third party manufacturers' compliance with these regulations and
standards;
* If we need to change to other commercial manufacturing contractors for
certain of our products, additional regulatory licenses or approvals must
be obtained for these contractors prior to our use. This would require
new testing and compliance inspections. Any new manufacturer would have
to be educated in, or develop substantially equivalent processes necessary
for the production of our products;
* If market demand for our products increases suddenly, our current
manufacturers might not be able to fulfill our commercial needs, which
would require us to seek new manufacturing arrangements and may result in
substantial delays in meeting market demand; and
* We may not have intellectual property rights, or may have to share
intellectual property rights, to any improvements in the manufacturing
processes or new manufacturing processes for our products.
Any of these factors could delay commercialization of our products under
development, interfere with current sales, entail higher costs and result in our
being unable to effectively sell our products.
Our agreements with various suppliers of the veterinary medical instruments
require us to meet minimum annual sales levels to maintain our position as the
exclusive distributor of these instruments. We may not meet these minimum sales
levels in the future, and maintain exclusivity over the distribution and sale of
these products. If we are not the exclusive distributor of these products,
competition may increase.
WE DEPEND ON PARTNERS IN OUR RESEARCH AND DEVELOPMENT ACTIVITIES. IF OUR
CURRENT PARTNERSHIPS AND COLLABORATIONS ARE NOT SUCCESSFUL, WE MAY NOT BE ABLE
TO DEVELOP OUR TECHNOLOGIES OR PRODUCTS.
For several of our proposed products, we are dependent on collaborative
partners to successfully and timely perform research and development activities
on our behalf. For example, we jointly developed several point-of-care
diagnostic products with Quidel Corporation, and Quidel manufactures these
products. We license DNA delivery and manufacturing technology from Valentis
Inc. and distribute chemistry analyzers for Arkray, Inc. We also have worked
with i-STAT Corporation to develop portable clinical analyzers for dogs and
Diagnostic Chemicals, Ltd. to develop the E.R.D.-SCREEN Urine Test, and we are
working with 3-Dimensional Pharmaceuticals, Inc. to develop pharmaceutical
products. One or more of our collaborative partners may not complete research
and development activities on our behalf in a timely fashion, or at all. If our
collaborative partners fail to complete research and development activities, or
fail to complete them in a timely fashion, our ability to develop technologies
and products will be impacted negatively and our revenues will decline.
WE DEPEND ON KEY PERSONNEL FOR OUR FUTURE SUCCESS. IF WE LOSE OUR KEY
PERSONNEL OR ARE UNABLE TO ATTRACT AND RETAIN ADDITIONAL PERSONNEL, WE MAY BE
UNABLE TO ACHIEVE OUR GOALS.
Our future success is substantially dependent on the efforts of our senior
management and scientific team, particularly Dr. Robert B. Grieve, our Chairman
and Chief Executive Officer. The loss of the services of members of our senior
management or scientific staff may significantly delay or prevent the
achievement of product development and other business objectives. Because of
the specialized scientific nature of our business, we depend substantially on
our ability to attract and retain qualified scientific and technical personnel.
There is intense competition among major pharmaceutical and chemical companies,
specialized biotechnology firms and universities and other research institutions
for qualified personnel in the areas of our activities. Although we have an
employment agreement with Dr. Grieve, he is an at-will employee, which means
that either party may terminate his employment at any time without prior notice.
If we lose the services of, or fail to recruit, key scientific and technical
personnel, the growth of our business could be substantially impaired. We do
not maintain key person life insurance for any of our key personnel.
WE MAY FACE PRODUCT RETURNS AND PRODUCT LIABILITY LITIGATION AND THE EXTENT
OF OUR INSURANCE COVERAGE IS LIMITED. IF WE BECOME SUBJECT TO PRODUCT LIABILITY
CLAIMS RESULTING FROM DEFECTS IN OUR PRODUCTS, WE MAY FAIL TO ACHIEVE MARKET
ACCEPTANCE OF OUR PRODUCTS AND OUR SALES COULD DECLINE.
The testing, manufacturing and marketing of our current products as well as
those currently under development entail an inherent risk of product liability
claims and associated adverse publicity. Following the introduction of a
product, adverse side effects may be discovered. Adverse publicity regarding
such effects could affect sales of our other products for an indeterminate time
period. To date, we have not experienced any material product liability claims,
but any claim arising in the future could substantially harm our business.
Potential product liability claims may exceed the amount of our insurance
coverage or may be excluded from coverage under the terms of the policy. We may
not be able to continue to obtain adequate insurance at a reasonable cost, if at
all. In the event that we are held liable for a claim against which we are not
indemnified or for damages exceeding the $10 million limit of our insurance
coverage or which results in significant adverse publicity against us, we may
lose revenue and fail to achieve market acceptance.
WE MAY BE HELD LIABLE FOR THE RELEASE OF HAZARDOUS MATERIALS, WHICH COULD
RESULT IN EXTENSIVE CLEAN UP COSTS OR OTHERWISE HARM OUR BUSINESS.
Our products and development programs involve the controlled use of
hazardous and biohazardous materials, including chemicals, infectious disease
agents and various radioactive compounds. Although we believe that our safety
procedures for handling and disposing of such materials comply with the
standards prescribed by applicable local, state and federal regulations, we
cannot eliminate the risk of accidental contamination or injury from these
materials. In the event of such an accident, we could be held liable for any
fines, penalties, remediation costs or other damages that result. Our liability
for the release of hazardous materials could exceed our resources, which could
lead to a shutdown of our operations. In addition, we may incur substantial
costs to comply with environmental regulations as we expand our manufacturing
capacity.
WE EXPECT TO EXPERIENCE VOLATILITY IN OUR STOCK PRICE, WHICH MAY AFFECT OUR
ABILITY TO RAISE CAPITAL IN THE FUTURE OR MAKE IT DIFFICULT FOR INVESTORS TO
SELL THEIR SHARES.
The securities markets have experienced significant price and volume
fluctuations and the market prices of securities of many public biotechnology
companies have in the past been, and can in the future be expected to be,
especially volatile. For example, in the last twelve months our closing stock
price has ranged from a low of $0.50 to a high of $1.50. Fluctuations in the
trading price or liquidity of our common stock may adversely affect our ability
to raise capital through future equity financings. Factors that may have a
significant impact on the market price and marketability of our common stock
include:
* announcements of technological innovations or new products by us or by
our competitors;
* our quarterly operating results;
* releases of reports by securities analysts;
* developments or disputes concerning patents or proprietary rights;
* regulatory developments;
* developments in our relationships with collaborative partners;
* changes in regulatory policies;
* litigation;
* economic and other external factors; and
* general market conditions.
In the past, following periods of volatility in the market price of a
company's securities, securities class action litigation has often been
instituted. If a securities class action suit is filed against us, we would
incur substantial legal fees and our management's attention and resources would
be diverted from operating our business in order to respond to the litigation.
IF WE FAIL TO MEET NASDAQ NATIONAL MARKET LISTING REQUIREMENTS, OUR COMMON
STOCK MAY BE DELISTED AND BECOME ILLIQUID.
Our common stock is currently listed on the Nasdaq National Market. Nasdaq
has requirements we must meet in order to remain listed on the Nasdaq National
Market. If we continue to experience losses from our operations or we are
unable to raise additional funds as needed, we might not be able to maintain the
standards for continued quotation on the Nasdaq National Market, including a
minimum bid price requirement of $1.00. During the year ended December 31,
2001, our minimum bid price at times fell below $1.00, and on March 26, 2002,
was $1.06. If the minimum bid price of our common stock were to drop below
$1.00 and remain below $1.00 for 30 consecutive trading days, or if we were
unable to continue to meet Nasdaq's standards for any other reason, our common
stock could be delisted from the Nasdaq National Market.
If as a result of the application of these listing requirements, our common
stock were delisted from the Nasdaq National Market, our stock would become
harder to buy and sell. Further, our stock could be subject to what are known
as the "penny stock" rules. The penny stock rules place additional
requirements on broker-dealers who sell or make a market in such securities.
Consequently, if we were removed from the Nasdaq National Market, the ability or
willingness of broker-dealers to sell or make a market in our common stock might
decline. As a result, the ability for investors to resell shares of our common
stock could be adversely affected.
THE REGISTRATION OF SHARES FROM OUR RECENT PRIVATE PLACEMENT WILL INCREASE
THE NUMBER OF SHARES AVAILABLE FOR RESALE IN THE PUBLIC MARKET.
We recently filed a registration statement on Form S-3 with the SEC to
register the shares sold in a private offering in December 2001. The sale into
the public market of the common stock sold in the offering could adversely
affect the market price of our common stock. Most of our shares of common stock
outstanding are eligible for immediate and unrestricted sale in the public
market at any time. Once the registration statement on Form S-3 is declared
effective, the 7,792,768 shares of common stock covered by the Form S-3 will be
eligible for immediate and unrestricted resale into the public market. The
presence of these additional shares of common stock in the public market may
further depress our stock price.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Market risk represents the risk of loss that may impact the financial
position, results of operations or cash flows due to adverse changes in
financial and commodity market prices and rates. We are exposed to market risk
in the areas of changes in United States and foreign interest rates and changes
in foreign currency exchange rates as measured against the United States dollar.
These exposures are directly related to our normal operating and funding
activities. During 2001, we entered into a series of forward contracts for the
purchase of Japanese yen to be used for the purchase of inventory. As of
December 31, 2001, all of these forward contracts had been settled.
INTEREST RATE RISK
The interest payable on certain of our lines of credit and other borrowings
is variable based on the United States prime rate and, therefore, is affected by
changes in market interest rates. At December 31, 2001, approximately $8.2
million was outstanding on these lines of credit and other borrowings with a
weighted average interest rate of 5.82%. We manage interest rate risk by
investing excess funds principally in cash equivalents or marketable securities,
which bear interest rates that reflect current market yields. We completed an
interest rate risk sensitivity analysis of these borrowings based on an assumed
1% increase in interest rates. If market rates increase by 1% during the fiscal
year ended December 31, 2002, we would experience an increase in interest
expense of approximately $82,000 based on our outstanding balances as of
December 31, 2001.
FOREIGN CURRENCY RISK
At December 31, 2001, we had a wholly-owned subsidiary located in
Switzerland. Sales from these operations are denominated in Swiss Francs or
Euros, thereby creating exposures to changes in exchange rates. The changes in
the Swiss/U.S. exchange rate or Euro/U.S. exchange rate may positively or
negatively affect our sales, gross margins and retained earnings. We completed
a foreign currency exchange risk sensitivity analysis on an assumed 1% increase
in foreign currency exchange rates. If foreign currency exchange rates
increase/decrease by 1% during the fiscal year ended December 31, 2002, we would
experience an increase/decrease in our foreign currency gain/loss of
approximately $100,000 based on the investment in foreign subsidiaries as of and
for the fiscal year ended December 31, 2001.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
HESKA CORPORATION
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
---------
Report of Independent Public Accountants 36
Consolidated Balance Sheets as of December 31, 2001 and 37
2000
Consolidated Statements of Operations and Comprehensive 38
Loss for years ended December 31, 2001, 2000, and 1999
Consolidated Statements of Shareholders' Equity for the 39
years ended December 31, 2001,2000, and 1999
Consolidated Statements of Cash Flows for the years 40
ended December 31, 2001, 2000, and 1999
Notes to Consolidated Financial Statements 41
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Heska Corporation:
We have audited the accompanying consolidated balance sheets of Heska
Corporation (a Delaware corporation) and subsidiaries as of December 31, 2001
and 2000, and the related consolidated statements of operations and
comprehensive loss, stockholders' equity and cash flows for each of the three
years in the period ended December 31, 2001. These financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test
basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Heska Corporation and
subsidiaries as of December 31, 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in the period ended
December 31, 2001, in conformity with accounting principles generally accepted
in the United States.
Our audit was made for the purpose of forming an opinion on the basic
financial statements taken as a whole. The schedule of valuation and qualifying
accounts is presented for purposes of complying with the Securities and Exchange
Commission's rules and is not part of the basic financial statements. This
schedule has been subjected to the auditing procedures applied in the audit of
the basic financial statements and, in our opinion, fairly states in all
material respects the financial data required to be set forth therein in
relation to the basic financial statements taken as a whole.
/S/ ARTHUR ANDERSEN LLP
Denver, Colorado,
February 1, 2002 except with respect
to the matter discussed in Note 15, as
to which the date is March 13, 2002.
HESKA CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(dollars in thousands)
DECEMBER 31,
------------------------------------------
2001 2000
-------------------- --------------------
ASSETS
Current assets:
Cash and cash equivalents $ 5,710 $ 3,176
Marketable securities - 2,482
Accounts receivable, net of allowance
for doubtful accounts of $501 and
$431, respectively 10,313 8,433
Inventories 8,589 8,716
Other current assets 1,063 742
---------------- ---------------
Total current assets 25,675 23,549
Property and equipment, net 10,118 12,901
Intangible assets, net 1,400 1,457
Other assets 564 1,253
---------------- ---------------
Total assets $ 37,757 $ 39,160
================ ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable $ 4,263 $ 3,370
Accrued liabilities 6,302 4,258
Deferred revenue 343 467
Line of credit 5,737 -
Current portion of capital lease
obligations 104 584
Current portion of long-term debt 711 1,562
---------------- ---------------
Total current liabilities 17,460 10,241
Capital lease obligations, net of current
portion 57 138
Long-term debt, net of current portion 2,052 2,670
Deferred revenue and other long-term 1,022 1,011
liabilities ---------------- ---------------
Total liabilities 20,591 14,060
---------------- ---------------
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.001 par value, 25,000,000
shares authorized; none issued or
outstanding - -
Common stock, $.001 par value, 75,000,000
shares authorized; 47,842,198 and
34,072,640 shares issued and outstanding,
respectively 48 34
Additional paid-in capital 211,589 199,789
Deferred compensation (681) -
Accumulated other comprehensive loss (627) (251)
Accumulated deficit (193,163) (174,472)
--------------- --------------
Total stockholders' equity 17,166 25,100
---------------- --------------
Total liabilities and stockholders' equity $ 37,757 $ 39,160
=============== ==============
See accompanying notes to consolidated financial statements
HESKA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(in thousands, except per share amounts)
YEAR ENDED DECEMBER 31,
-----------------------------------------------------------------------------
2001 2000 1999
------------------ ------------------- --------------------
Revenues:
Products, net of sales returns and allowance $ 46,386 $ 49,549 $ 50,291
Research, development and other 1,897 3,126 885
------------------ ----------------- --------------------
Total revenues 48,283 52,675 51,176
Cost of products sold 28,655 33,299 36,386
------------------ ------------------ --------------------
19,628 19,376 14,790
------------------ ------------------ --------------------
Operating expenses:
Selling and marketing 13,981 14,788 15,073
Research and development 13,565 14,929 17,042
General and administrative 7,882 9,457 11,231
Amortization of intangible assets and
deferred compensation 299 903 2,228
Loss on sale of assets - 204 2,593
Restructuring expenses and other 2,023 435 1,210
----------------- ------------------ --------------------
Total operating expenses 37,750 40,716 49,377
Loss from operations (18,122) (21,340) (34,587)
Other income (expense):
Interest income 324 986 1,611
Interest expense (587) 1,155) (1,857)
Other, net (306) (361) (1,003)
----------------- ------------------ --------------------
Net loss $ (18,691) $ (21,870) $ (35,836)
----------------- ------------------ --------------------
Other comprehensive income (loss):
Foreign currency translation adjustments (133) (121) (88)
Changes in unrealized gain (loss) on
marketable securities 45 246 (376)
Minimum pension liability adjustments (175) - -
Changes in unrealized gain (loss) on
forward contracts 24 - -
------------------ ------------------ --------------------
Other comprehensive income (loss) (239) 125 (464)
------------------ ------------------ --------------------
Comprehensive loss $ (18,930) $ (21,745) $ (36,300)
================== ================== ====================
Basic and diluted net loss per share $ (0.48) $ (0.65) $ (1.31)
================== ================== ====================
Shares used to compute basic and diluted net
loss per share 38,919 33,782 27,290
================== ================== ====================
See accompanying notes to consolidated financial statements
HESKA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(in thousands)
COMMON STOCK ADDITIONAL
----------------------------------- PAID-IN DEFERRED
SHARES AMOUNT CAPITAL COMPENSATION
----------------- ----------------- ------------------ ------------------
Balances, December 31, 1998 26,458 $ 26 $ 185,163 $ (1,277)
Issuance of common stock for services 17 - 116 -
Cashless exercise of warrants to purchase
common stock 5 - - -
Issuance of common stock upon the Company's
follow-on public offering, net of $128 of
expenses 6,500 7 13,282 -
Issuance of common stock related to options,
ESPP and other 457 - 595 -
Amortization of deferred compensation - - - 629
Interest on stock subscription receivable - - - -
Payments received on stock subscription
receivable - - - -
Foreign currency translation adjustments - - - -
Unrealized loss on marketable securities - - - -
Net loss - - - -
------------ ------------- ---------------- ----------------
Balances, December 31, 1999 33,437 33 199,156 (648)
Issuance of common stock related to options,
ESPP and other 636 1 633 -
Amortization of deferred compensation - - - 648
Interest/payments on stock subscription
receivable - - - -
Foreign currency translation adjustments - - - -
Unrealized gain on marketable securities - - - -
Net loss - - - -
------------ ------------- --------------- ----------------
Balances, December 31, 2000 34,073 34 199,789 -
Issuance of common stock from private
placements, net of $823 of costs 12,366 13 10,880 -
Issuance of common stock related to options,
ESPP 358 - 211 -
Issuance of restricted stock (Note 8) 1,045 1 709 (710)
Deferred compensation recognized - - - 29
Foreign currency translation adjustments - - - -
Minimum pension liability - - - -
Unrealized gain/loss on forward contracts - - - -
Net loss - - - -
------------ ------------- --------------- ----------------
Balances, December 31, 2001 47,842 $ 48 $ 211,589 $ (681)
============ ============= =============== ================
ACCUMULATED
STOCK OTHER TOTAL
SUBSCRIPTION COMPREHENSIVE ACCUMULATED STOCKHOLDERS
RECEIVABLE INCOME DEFICIT EQUITY
------------------ ------------------ ------------------ --------------
Balances, December 31, 1998 $ (120) $ 88 $ (116,766) $ 67,114
Issuance of common stock for services - - - 116
Cashless exercise of warrants to purchase common - - - -
stock - - - -
Issuance of common stock upon the Company's follow-
on public offering, net of $128 of expenses - - - 13,289
Issuance of common stock related to options, ESPP
and other - - - 595
Amortization of deferred compensation - - - 629
Interest on stock subscription receivable (7) - - (7)
Payments received on stock subscription receivable 3 - - 3
Foreign currency translation adjustments - (88) - (88)
Unrealized loss on marketable securities - (376) - (376)
Net loss - - (35,836) (35,836)
------------ ------------- -------------- ------------
Balances, December 31, 1999 (124) (376) (152,602) 45,439
Issuance of common stock related to options, ESPP
and other - - - 634
Amortization of deferred compensation - - - 648
Interest/payments on stock subscription receivable 124 - - 124
Foreign currency translation adjustments - (121) - (121)
Unrealized gain on marketable securities - 246 - 246
Net loss - - (21,870) (21,870)
------------- -------------- -------------- ------------
Balances, December 31, 2000 - (251) (174,472) 25,100
Issuance of common stock from private placements,
net of $823 of costs - - - -
Issuance of common stock related to options, ESPP - - - 11,814
Issuance of restricted stock (Note 8) - - - (710)
Deferred compensation recognized - - - 29
Foreign currency translation adjustments - (177) - (177)
Minimum pension liability - (175) - (175)
Unrealized gain/loss on forward contracts - (24) - (24)
Net loss - - (18,691) (18,691)
------------- -------------- -------------- ------------
Balances, December 31, 2001 $ - $ (627) $ (193,163) $ 17,166
============= ============== ============== ============
See accompanying notes to consolidated financial statements
HESKA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
YEAR ENDED DECEMBER 31,
----------------------------------------------------------------------
2001 2000 1999
---------------------- ---------------------- ----------------------
CASH FLOWS USED IN OPERATING ACTIVITIES:
Net loss $ (18,691) $ (21,870) $ (35,836)
Adjustments to reconcile net loss to cash used
in operating activities:
Depreciation and amortization 3,425 4,066 3,864
Amortization of intangible assets and
deferred compensation 299 903 2,228
Loss on disposition of assets - 445 2,215
Changes in operating assets and liabilities:
Accounts receivable, net (1,880) 155 (2,993)
Inventories 127 2,380 (1,760)
Other current assets (321) 18 (293)
Other long-term assets 689 (229) (1,092)
Accounts payable 893 (2,551) (614)
Accrued liabilities 2,044 449 498
Deferred revenue and other long-term
liabilities (643) 348 592
----------- ----------- -----------
Net cash used in operating activities (14,058) (15,886) (33,191)
----------- ----------- -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Cash withdrawn from restricted cash account - - 238
Purchase of marketable securities - - (21,229)
Proceeds from sale of marketable securities 2,500 20,000 44,300
Proceeds from sale of subsidiary - 6,000 -
Proceeds from disposition of property and
equipment 196 406 262
Purchases of property and equipment (839) (1,207) (3,296)
----------- ----------- -----------
Net cash provided by investing
activities 1,857 25,199 20,275
----------- ----------- -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of common stock 11,133 634 13,884
Proceeds from stock subscription receivable - 124 3
Proceeds from borrowings 5,737 136 971
Repayments of debt and capital lease obligations (2,039) (8,484) (6,464)
----------- ----------- -----------
Net cash provided by (used in)
financing activities 14,831 (7,590) 8,394
----------- ----------- -----------
EFFECT OF EXCHANGE RATE CHANGES ON CASH (96) (46) 100
----------- ----------- -----------
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 2,534 1,677 (4,422)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 3,176 1,499 5,921
----------- ----------- -----------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 5,710 $ 3,176 $ 1,499
=========== =========== ===========
See accompanying notes to consolidated financial statements
HESKA CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1.ORGANIZATION AND BUSINESS
Heska Corporation ("Heska" or the "Company") is primarily focused on
the discovery, development, manufacturing and marketing of companion animal
health products and delivery of diagnostic services to veterinarians. The
Company currently conducts its operations through two segments. Through its
Companion Animal Health segment, the Company sells pharmaceutical, vaccine and
diagnostic products and veterinary diagnostic and patient monitoring
instruments, offers diagnostic services, and performs a variety of research and
development activities. The operations of this segment are carried out through
the Company's facilities in Fort Collins, Colorado, its wholly owned Swiss
subsidiary, Heska AG. Through its Animal Health segment, the Company
manufactures food animal vaccine and pharmaceutical products that are marketed
and distributed by third parties. The operations of this segment are carried
out through the Company's wholly owned subsidiary Diamond Animal Health, Inc.
("Diamond"), located in Des Moines, Iowa. Until June 2000, the Company
operated through a third segment, Allergy Treatment. This segment operated
through the then wholly owned subsidiary Center Laboratories, Inc., a
manufacturer of allergy immunotherapy products ("Center").
From the Company's inception in 1988 until early 1996, the Company's
operating activities related primarily to research and development activities,
entering into collaborative agreements, raising capital and recruiting
personnel. Prior to 1996, the Company had not received any revenue from the
sale of products. During 1996, Heska grew from being primarily a research and
development concern to a fully-integrated research, development, manufacturing
and marketing company. The Company accomplished this by acquiring Diamond, a
licensed pharmaceutical and biological manufacturing facility, hiring key
employees and support staff, establishing marketing and sales operations to
support new Heska products, and designing and implementing more sophisticated
operating and information systems. The Company also expanded the scope and
level of its scientific and business development activities, increasing the
opportunities for new products. In 1997, the Company introduced additional
products and expanded in the United States through the acquisition of Center, a
Food and Drug Administration ("FDA") and United States Department of
Agriculture ("USDA") licensed manufacturer of allergy immunotherapy products
located in Port Washington, New York, and internationally through the
acquisitions of Heska UK Limited ("Heska UK", formerly Bloxham Laboratories
Limited), a veterinary diagnostic laboratory in Teignmouth, England and Heska AG
(formerly Centre Medical des Grand'Places S.A.) in Fribourg, Switzerland, which
manufactures and markets allergy diagnostic products for use in veterinary and
human medicine, primarily in Europe. Each of the Company's acquisitions during
this period was accounted for under the purchase method of accounting and
accordingly, the Company's financial statements reflect the operations of these
businesses only for the periods subsequent to the respective acquisitions. In
July 1997, the Company established a new subsidiary, Heska AG, located near
Basel, Switzerland, for the purpose of managing its European operations.
During the first quarter of 1998 the Company acquired Heska Waukesha
(formerly Sensor Devices, Inc.), a manufacturer and marketer of patient
monitoring devices used in both animal health and human applications.
During 1999 and 2000, the Company restructured and refocused its business.
The operations of Heska Waukesha were combined with existing operations in Fort
Collins, Colorado and Des Moines, Iowa during the fourth quarter of 1999. The
Heska Waukesha facility was closed in December 1999. In March 2000, the Company
sold Heska UK. The Company recorded a loss on disposition of approximately
$1.0 million during 1999 for this sale. In June 2000, the Company sold Center.
The Company recognized a gain on the sale of approximately $151,000.
The Company has incurred net losses since its inception and anticipates
that it will continue to incur additional net losses in the near term as it
introduces new products, expands its sales and marketing capabilities and
continues its research and development activities. Cumulative net losses from
inception of the Company in 1988 through December 31, 2001 have totaled $193.2
million. During the year ended December 31, 2001, the Company incurred a loss
of approximately $18.7 million and used cash of approximately $14.1 million for
operations.
The Company's primary short-term needs for capital, which are subject to
change, are for its continuing research and development efforts, its sales,
marketing and administrative activities, working capital associated with
increased product sales and capital expenditures relating to developing and
expanding its manufacturing operations. The Company's ability to achieve
profitable operations will depend primarily upon its ability to successfully
market its products, commercialize products that are currently under development
and develop new products. Most of the Company's products are subject to long
development and regulatory approval cycles and there can be no guarantee that
the Company will successfully develop, manufacture or market these products.
There can also be no guarantee that the Company will attain profitability or, if
achieved, will remain profitable on a quarterly or annual basis in the future.
Until the Company attains positive cash flow, the Company may continue to
finance operations with additional equity and debt financing. There can be no
guarantee that such financing will be available when required or will be
obtained under favorable terms.
Our financial plan for 2002 indicates that our available cash and cash
equivalents, together with cash from operations, available borrowings and
borrowings we expect to be available under our revolving line of credit facility
should be sufficient to satisfy our projected cash requirements through 2002 and
into 2003. However, our actual results may differ from this plan and, we may
need to raise additional funds at or before such time. If necessary, we expect
to raise these additional funds through one or more of the following: (1)
obtaining new loans secured by unencumbered assets; (2) sale of various products
or marketing rights; (3) licensing of technology; (4) sale of various assets;
and (5) sale of additional equity or debt securities. If we cannot raise the
additional funds through these options on acceptable terms or with the necessary
timing, management could also reduce discretionary spending to decrease our cash
burn rate and extend the currently available cash and cash equivalents, and
available borrowings.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying consolidated financial statements include the accounts of
the Company and of its wholly-owned subsidiaries since their respective dates of
acquisitions. All material intercompany transactions and balances have been
eliminated in consolidation.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities, the disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates.
Cash and Cash Equivalents
Cash and cash equivalents are stated at cost, which approximates market,
and include short-term highly liquid investments with original maturities of
less than three months. Included in these amounts were Japanese yen with a
value in U.S. dollars of approximately $366,000 which were held in an interest-
bearing multi-currency account of a non-U.S. bank. The Company values its
Japanese yen at the spot market rate as of the balance sheet date. These yen
resulted from settlement of forward contracts entered into for purchases of
inventory throughout fiscal 2001. Changes in the fair value of the yen are
recorded in current earnings. The Company recognized a loss from devaluation of
the yen of approximately $48,000 during the fiscal year ended December 31, 2001.
The Company had no Japanese yen at December 31, 2000.
Marketable Securities and Restricted Investments
The Company classifies its marketable securities as "available-for-sale"
and, accordingly, carries such securities at aggregate fair value. Unrealized
gains or losses, if material, are included as a component of accumulated other
comprehensive income.
At December 31, 2001, the Company had no marketable securities on its
balance sheet. At December 31, 2000, these securities, consisting entirely of
U.S. government agency obligations, had an aggregate amortized cost, using
specific identification, of $2.8 million, with a maximum maturity of
approximately three years. The fair market value of marketable securities at
December 31, 2000 was approximately $2.5 million. Marketable securities at
December 31, 2000 included approximately $281,000 of restricted investments held
as collateral for capital leases (See Note 4) and $2.5 million of short-term
marketable securities, respectively. The Company realized losses on the sale of
certain marketable securities of $22,000 and $111,000 in 2001 and 2000,
respectively. These amounts were previously included in other comprehensive
income as unrealized losses on marketable securities.
Concentration of Credit Risk
Financial instruments that potentially subject the Company to a
concentration of credit risk consist of cash and cash equivalents, marketable
securities and accounts receivable. The Company maintains the majority of its
cash, cash equivalents and marketable securities with financial institutions
that management believes are creditworthy in the form of demand deposits, U.S.
government agency obligations and U.S. corporate commercial paper. The Company
has no significant off-balance sheet concentrations of credit risk such as
foreign exchange contracts, options contracts or other foreign hedging
arrangements. Its accounts receivable balances are due primarily from domestic
veterinary clinics and individual veterinarians, and both domestic and
international corporations.
Fair Value of Financial Instruments
The Company's financial instruments consist of cash and cash equivalents,
short-term trade receivables and payables, notes receivable, capital lease
obligations and notes payable. The carrying values of cash and cash equivalents
and short-term trade receivables and payables approximate fair value. The fair
value of notes payable is estimated based on current rates available for similar
debt with similar maturities and collateral, and at December 31, 2001,
approximates the carrying value.
Inventories
Inventories are stated at the lower of cost or market using the first-in,
first-out method. If the cost of inventories exceeds fair market value,
provisions are made to reduce the carrying value to fair market value.
Inventories, net of provisions, consist of the following (in thousands):
DECEMBER 31,
-------------------------------
2001 2000
-------------- --------------
Raw materials $ 2,549 $ 2,219
Work in process 3,223 2,904
Finished goods 2,817 3,593
--------- ---------
$ 8,589 $ 8,716
========= =========
Derivative Instruments and Hedging Activities
The Company utilizes derivative financial instruments to reduce financial
market risks. These instruments may be used to hedge foreign currency, interest
rate and certain equity market exposures of underlying assets, liabilities and
other obligations. The Company does not use derivative financial instruments
for speculative or trading purposes. The Company accounts for its derivative
instruments in accordance with the Statement of Financial Accounting Standards
("SFAS") No. 133 "Accounting for Derivative Instruments and Hedging
Activities," as amended by SFAS No. 138. This standard requires that all
derivative instruments be recorded on the balance sheet at fair value and
establishes criteria for designation and effectiveness of hedging relationships.
The Company's accounting policies for these instruments are based on whether
they meet the Company's criteria for designation as hedging transactions. The
criteria the Company uses for designating an instrument as a hedge includes the
instrument's effectiveness in risk reduction and one-to-one matching of
derivative instruments to underlying transactions. Gains and losses on currency
forward contracts, and options that are designated and effective as hedges of
anticipated transactions, for which a firm commitment has been attained, are
deferred and recognized in income in the same period that the underlying
transactions are settled. Gains and losses on currency forward contracts,
options and swaps that are designated and effective as hedges of existing
transactions are recognized in income in the same period as losses and gains on
the underlying transactions are recognized and generally offset. Gains and
losses on any instruments not meeting the above criteria are recognized in
income in the current period. If an underlying hedged transaction is terminated
earlier than initially anticipated the offsetting gain or loss on the related
derivative instrument would be recognized in each period until the instrument
matures, is terminated or is sold. See Note 11.
Property, Equipment and Intangible Assets
Property and equipment are recorded at cost and depreciated on a straight-
line or declining balance basis over the estimated useful lives of the related
assets.
Leasehold improvements are amortized over the applicable lease period or
their estimated useful lives, whichever is shorter. Maintenance and repairs are
charged to expense when incurred, and major renewals and improvements are
capitalized.
Intangible assets primarily consist of various assets arising from business
combinations and are amortized using the straight-line method over the period of
expected benefit.
The Company periodically reviews the appropriateness of the remaining life
of its property, equipment and intangible assets considering whether any events
have occurred or conditions have developed which may indicate that the remaining
life requires adjustment. After reviewing the appropriateness of the remaining
life and the pattern of usage of these assets, the Company then assesses their
overall recoverability by determining if the net book value can be recovered
through undiscounted future operating cash flows. Absent any unfavorable
findings, the Company continues to amortize and depreciate its property,
equipment and intangible assets based on the existing estimated life. During
2000, the Company's review of property, equipment and intangible assets
determined that a write-down to fair market value of $355,000 for equipment was
needed. In 1999, the Company's review of property, equipment and intangible
assets determined that a write-down to fair market value of $1.0 million for
equipment and $372,000 for intangible assets was needed. These amounts were
recorded as part of the loss on sale of assets in the accompanying statement of
operations.
Property and equipment consist of the following (in thousands):
DECEMBER 31,
--------------------------------------------------
ESTIMATED
USEFUL LIFE 2001 2000
----------------- ------------------------ ------------------------
Land N/A $ 377 $ 377
Building 10 to 20 years 2,677 2,677
Machinery and equipment 3 to 15 years 19,220 19,426
Leasehold improvements 7 to 15 years 4,435 4,066
---------- ----------
26,709 26,546
Less accumulated depreciation and amortization (16,591) (13,645)
---------- ----------
$ 10,118 12,901
========== ==========
Depreciation and amortization expense for property and equipment was $3.4
million, $4.1 million and $3.9 million for the years ended December 31, 2001,
2000 and 1999, respectively.
Intangible assets consist of the following (in thousands):
DECEMBER 31,
ESTIMATED -------------------------------------------------
USEFUL LIFE 2001 2000
----------------- ----------------------- ------------------------
Customer lists, market presence and goodwill 7 years $ 1,705 $ 1,705
Other intangible assets 2 to 15 years 1,079 793
------------ ------------
2,784 2,498
Less accumulated amortization (1,384) (1,041)
------------ ------------
$ 1,400 $ 1,457
============ ============
Amortization expense for intangible assets was $270,000, $255,000 and $1.6
million for the years ended December 31, 2001, 2000 and 1999, respectively.
Revenue Recognition
The Company generates its revenues through sale of products, licensing of
technology, and sponsored research and development. Revenue is accounted for in
accordance with the guidelines provided by Staff Accounting Bulletin 101
"Revenue Recognition in Financial Statements" (SAB 101). The Company's
policy is to recognize revenue when the applicable revenue recognition criteria
have been met, which generally include the following:
* Persuasive evidence of an arrangement exists;
* Delivery has occurred or services rendered;
* Price is fixed or determinable; and
* Collectibility is reasonably assured.
Revenue from the sale of products is generally recognized after both the
goods are shipped to the customer and acceptance has been received with an
appropriate provision for returns and allowances. The terms of the customer
arrangements generally pass title and risk of ownership to the customer at the
time of shipment. Certain customer arrangements provide for acceptance
provisions. Revenue for these arrangements is not recognized until the
acceptance has been received or the acceptance period has lapsed.
In addition to its direct sales force, the Company utilizes third party
distributors to sell its products. Distributors purchase goods from the
Company, take title to those goods and resell them to their customers in the
distributors' territory.
License revenue under arrangements to sell product or technology rights is
recognized upon the sale and completion by the Company of all obligations under
the agreement. Royalties are recognized as products are sold to customers.
The Company recognizes revenue from sponsored research and development over
the life of the contract as research activities are performed. The revenue
recognized is the lesser of revenue earned under a percentage of completion
method based on total expected revenues or actual non-refundable cash received
to date under the agreement.
Cost of Products Sold
Royalties payable in connection with certain licensing agreements (See Note
12) are reflected in cost of products sold as incurred.
Advertising Costs
The Company expenses advertising costs as incurred. Advertising expenses
were $747,000, $1,508,000 and $790,000 for the years ended December 31, 2001,
2000 and 1999, respectively.
Restructuring Expenses and Other
Income Taxes
The Company records a current provision for income taxes based on estimated
amounts payable refundable on tax returns filed or to be filed each year.
Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement
carrying amounts of existing assets and liabilities and their respective tax
bases and operating loss and tax credit carryforwards. Deferred tax assets and
liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be
recovered or settled. The effect on deferred tax assets and liabilities of a
change in tax rates is recognized in operations in the period that includes the
enactment date. The overall change in deferred tax assets and liabilities for
the period measures the deferred tax expense or benefit for the period. The
measurement of deferred tax assets may be reduced by a valuation allowance based
on judgmental assessment of available evidence if deemed more likely than not
that some or all of the deferred tax assets will not be realized.
Basic and Diluted Net Loss Per Share
Basic net loss per common share is computed using the weighted average
number of common shares outstanding during the period. Diluted net loss per
share is computed using the sum of the weighted average number of shares of
common stock outstanding and, if not anti-dilutive, the effect of outstanding
common stock equivalents (such as stock options and warrants) determined using
the treasury stock method. Since inception, due to the Company's net losses,
all potentially dilative securities are anti-dilutive and as a result, basic and
net loss per share is the same as diluted net loss per share for all periods
presented. At December 31, 2001 and 2000, securities that have been excluded
from diluted net loss per share because they would be anti-dilutive are
outstanding options to purchase 3,901,860 and 3,964,668 shares, respectively, of
the Company's common stock and warrants to purchase zero and 1,165,000 shares,
respectively, of the Company's common stock.
Comprehensive Loss
Comprehensive loss includes net loss adjusted for the results of certain
stockholders' equity changes not reflected in the Consolidated Statements of
Operations. Such changes include foreign currency items, unrealized gains and
losses on certain investments in marketable securities, unrealized gains and
losses on derivative instruments and minimum pension liability adjustments.
Foreign Currency Translation
The functional currency of the Company's international subsidiaries is the
Swiss Franc ("CHF"). Assets and liabilities of the Company's international
subsidiaries are translated using the exchange rate in effect at the balance
sheet date. Revenue and expense accounts are translated using an average of
exchange rates in effect during the period. Cumulative translation gains and
losses, if material, are shown in the consolidated balance sheets as a separate
component of stockholders' equity. Exchange gains and losses arising from
transactions denominated in foreign currencies (i.e., transaction gains and
losses) are recognized as a component of other income (expense) in the current
operations.
Reclassifications
Certain prior year amounts have been reclassified to conform with the 2001
financial statement presentation.
New Accounting Pronouncements
In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 141, "Business Combinations" and SFAS No. 142, "Goodwill and Other
Intangible Assets." These statements prohibit pooling-of-interests accounting
for transactions initiated after June 30, 2001, require the use of the purchase
method of accounting for all combinations after June 30, 2001, and establish a
new accounting standard for goodwill acquired in a business combination. These
continue to require recognition of goodwill as an asset, but do not permit
amortization of goodwill as previously required by APB Opinion No. 17,
"Intangible Assets." Furthermore, certain intangible assets that are not
separable from goodwill will also not be amortized. However, goodwill and other
intangible assets will be subject to periodic (at least annual) tests for
impairment, and recognition of impairment losses in the future could be required
based on a new methodology for measuring impairments prescribed by these
pronouncements. The revised standards include transition rules and requirements
for identification, valuation and recognition of a much broader list of
intangibles as part of business combinations than prior practice, most of which
will continue to be amortized. The potential prospective impact of these
pronouncements on the Company's financial statements may significantly affect
the results of future periodic tests for impairment. The amount and timing of
non-cash charges related to intangibles acquired in business combinations will
change from prior practice. The Company recorded $211,000 of amortization
expense during the year ended December 31, 2001 relating to goodwill that will
not be amortized beginning January 1, 2002. Furthermore, the Company will be
required to conduct an annual impairment test of its goodwill. The Company has
not yet quantified the impact, if any, that this impairment test will have on
the results of its operations.
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations." This statement establishes accounting standards for
recognition and measurement of a liability for an asset retirement obligation
and the associated asset retirement cost. It requires an entity to recognize
the fair value of a liability for an asset retirement obligation in the period
in which it is incurred if a reasonable estimate can be made. The Company is
required to adopt this statement in its fiscal year 2003. The Company does not
believe that this statement will materially impact its financial position or
results of its operations.
In August 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." This statement supersedes SFAS
No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to Be Disposed of" and the accounting and reporting provisions of APB
Opinion No. 30, "Reporting the Results of Operations - Reporting the Effects of
Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently
Occurring Events and Transactions." This statement applies to recognized long-
lived assets of an entity to be held and used, or to be disposed of. This
statement does not apply to goodwill, intangible assets not being amortized,
financial instruments, and deferred tax assets. This statement requires an
impairment loss to be recorded for assets to be held and used when the carrying
amount of a long-lived asset is not recoverable and exceeds its fair value. An
asset that is classified as held for sale shall be recorded at the lower of its
carrying amount or fair value less cost to sell. The Company is required to
adopt this statement for the first quarter of 2002. The Company does not
believe that this statement will materially impact its results of operations.
3.CAPITAL LEASE OBLIGATIONS
The Company has entered into certain capital lease agreements for
laboratory equipment, office equipment, machinery and equipment, and computer
equipment and software. For the years ended December 31, 2001 and 2000, the
Company had capitalized machinery and equipment under capital leases with a
gross value of approximately $560,000 and $2.5 million and net book value of
approximately $242,000 and $740,000, respectively. The capitalized cost of the
equipment under capital leases is included in the accompanying balance sheets
under the respective asset classes. Under the terms of the Company's lease
agreements, the Company is required to make monthly payments of principal and
interest through the year 2004, at interest rates ranging from 4.05% to 20.00%
per annum. The equipment under the capital leases serves as security for the
leases.
The future annual minimum required payments under capital lease obligations
as of December 31, 2001 were as follows (in thousands):
YEAR ENDING DECEMBER 31,
------------------------
2002 $ 116
2003 46
2004 10
----------
Total future minimum lease payments 172
Less amount representing interest (11)
----------
Present value of future minimum lease
payments 161
Less current portion (104)
----------
Total long-term capital lease obligations $ 57
==========
4.RESTRUCTURING EXPENSES
In the fourth quarter of 2001, the Company recorded a $1.5 million
restructuring charge related to a strategic change in its distribution model and
the consolidation of its European operations into one facility. This expense
related to personnel severance costs, costs to adjust the Company's products to
align with the new distribution model and the cost to close a leased facility in
Europe.
During the first quarter of fiscal 2000, the Company initiated a cost
reduction and restructuring plan at its Diamond subsidiary. The restructuring
resulted from the rationalization of Diamond's business including a reduction
in the size of its workforce and the Company's decision to vacate a leased
warehouse and distribution facility no longer needed after the Company's
decision to discontinue contract manufacturing of certain low margin human
healthcare products. The charge to operations of approximately $435,000 related
primarily to personnel severance costs for 12 individuals and the costs
associated with closing the leased facility, terminating the lease and
abandoning certain leasehold improvements. The facility was closed in April
2000.
In August 1999, the Company announced plans to consolidate its Heska
Waukesha operations with existing operations in Fort Collins, Colorado and Des
Moines, Iowa. This consolidation was based on the Company's determination that
significant operating efficiencies could be achieved through the combined
operations. The Company recognized a charge to operations of approximately $1.2
million for this consolidation. These expenses related primarily to personnel
severance costs for 40 individuals and the costs associated with facilities
being closed and excess equipment, primarily at the Company's Waukesha,
Wisconsin location. This facility was closed in December 1999.
Shown below is a reconciliation of restructuring costs for the year ended
December 31, 2001 (in thousands):
ADDITIONS FOR THE PAYMENTS/CHARGES
BALANCE AT FISCAL YEAR ENDED THROUGH BALANCE AT
DECEMBER 31, DECEMBER 31, DECEMBER 31, DECEMBER 31,
2000 2001 2001 2001
---------------- ---------------- ---------------- ----------------
Severance pay, benefits and relocation
expenses $ - $ 378 $ - $ 378
Noncancellable leased facility closure
costs 176 50 176 50
Products and other - 1,100 - 1,100
--------- --------- --------- ---------
Total $ 176 $ 1,528 $ 176 $ 1,528
========= ========= ========= =========
The balance of $1.5 million and $176,000 is included in accrued liabilities
in the accompanying consolidated balance sheets as of December 31, 2001 and
2000, respectively.
5.LONG-TERM DEBT
Long-term debt consists of the following (in thousands):
DECEMBER 31,
----------------------------------------------
2001 2000
---------------------- ----------------------
Equipment financing with final payment due in January 2002, stated
interest rates between 2.7% and 17.9%, secured by certain equipment
and fixtures $ 240 $ 1,218
Promissory note to the Iowa Department of Economic Development
("IDED"), due in annual installments through June 2004, with a
stated interest rate of 3.0% and a 9.5% imputed interest rate, net 41 54
Promissory note to the City of Des Moines, due in monthly
installments through May 2004, with a stated interest rate of 3%
and a 9.5% imputed interest rate, net 54 75
Real estate mortgage loan with a commercial bank, due in monthly
installments through September 2003, with a stated interest rate of
prime plus 1.25% at December 31, 2001 and 2000 (6.0% and 10.75%,
respectively) 1,740 1,973
Term loan with a commercial bank, secured by machinery and
equipment, due in monthly installments through December 2004, with
a stated interest rate of prime plus 1.25% at December 31, 2001 and
2000 (6.0% and 10.75%, respectively) 688 912
----------- ------------
2,763 4,232
Less installments due within one year (711) ( 1,562)
----------- ------------
$ 2,052 $ 2,670
============ ============
The Company has a credit facility with Wells Fargo Business Credit, Inc.,
an affiliate of Wells Fargo Bank. The credit facility includes a $10.0 million
asset-based revolving line of credit with a stated interest rate of prime plus
1%. Under the agreement, the Company is required to comply with certain
financial and non-financial covenants. Among the financial covenants are
requirements for monthly minimum book net worth, quarterly minimum net income
and minimum cash balances or liquidity levels. The amount available for
borrowings under this agreement will be determined based on the borrowing base
as defined by the credit agreement. As of December 31, 2001 approximately $2.2
million was available for additional borrowings under the line of credit
agreement. The Company was in violation of certain of the financial covenants
at December 31, 2001. On March 13, 2002, the Company obtained a waiver of these
financial covenants from the bank and also executed an amendment to the credit
agreement which extended the maturity date to May 31, 2003. See Note 15.
Amounts due under the Company's equipment term loan, real estate mortgage
loan and revolving credit facility are payable to a commercial bank and are
secured by a first security interest in essentially all of the Company's
assets.
The IDED and City of Des Moines promissory notes are secured by a first
security interest in essentially all assets of Diamond except assets acquired
through capital leases and are included as cross-collateralized obligations by
the respective lenders. The IDED has subordinated all of its security interest
in these assets to a commercial bank providing credit to the Company. The City
of Des Moines has subordinated up to $15 million of its security interest in
these assets to the same commercial bank. These notes were assumed as a result
of the 1996 Diamond acquisition.
Maturities of long-term debt as of December 31, 2001 were as follows (in
thousands):
YEAR ENDING DECEMBER 31,
------------------------
2002 $ 711
2003 2,028
2004 24
Thereafter -
------------
$ 2,763
============
6. ACCRUED PENSION LIABILITY
Diamond has a noncontributory defined benefit pension plan covering all
employees who have met the eligibility requirements. The plan provides monthly
benefits based on years of service which are subject to certain reductions if
the employee retires before reaching age 65. Diamond's funding policy is to
make the minimum annual contribution that is required by applicable regulations.
Effective October 1992, Diamond froze the plan, restricting new participants and
benefits for future service.
The following table sets forth the plan's funded status and amounts
recognized in the accompanying balance sheets (in thousands):
DECEMBER 31,
-------------------------------------------------
2001 2000
---------------------- -----------------------
Change in benefit obligation:
Benefit obligation, beginning $ 1,127 $ 1,171
Service cost - -
Interest cost 77 80
Actuarial loss 5 (39)
Benefits paid (67) (85)
----------- -----------
Benefit obligation, ending 1,142 1,127
----------- -----------
Change in plan assets:
Fair value of plan assets, beginning 954 971
Actual return on plan assets 129 68
Employer contribution - -
Benefits paid (67) (85)
----------- -----------
Fair value of plan assets, ending 1,016 954
----------- -----------
Funded status (125) (173)
Unrecognized net actuarial loss 175 234
----------- -----------
Prepaid benefit cost $ 50 $ 61
----------- -----------
Additional minimum liability disclosures:
Accrued benefit liability $ (125) $ (173)
=========== ===========
Components of net periodic benefit costs:
Service cost $ - $ -
Interest cost 77 80
Expected return on plan assets (72) (73)
Recognized net actuarial loss 6 7
----------- -----------
Net periodic benefit cost $ 11 $ 14
=========== ===========
Assumptions used by Diamond in the determination of the pension plan
information consisted of the following:
DECEMBER 31,
---------------------------
2001 2000
------------- ------------
Discount rate 7.00% 7.00%
Expected long-term rate of return on plan assets 7.75% 7.75%
7.INCOME TAXES
As of December 31, 2001 the Company had approximately $164.5 million of net
operating loss ("NOL") carryforwards for income tax purposes and approximately
$2.7 million of research and development tax credits available to offset future
federal income tax, subject to limitations for alternative minimum tax. The NOL
and credit carryforwards are subject to examination by the tax authorities and
expire in various years from 2003 through 2020. In addition, the Company's NOL
and tax credit carryforwards available for use in any given year may be limited
upon the occurrence of certain events, including significant changes in
ownership interest. The acquisition of Diamond in April 1996 resulted in such a
change of ownership and the Company estimates that the resulting NOL
carryforward limitation will be approximately $4.7 million per year for periods
subsequent to April 19, 1996. The Company believes that this limitation may
affect the eventual utilization of its total NOL carryforwards.
The Company's NOL's represent a previously unrecognized tax benefit.
Recognition of these benefits requires future taxable income, the attainment of
which is uncertain, and therefore, a valuation allowance has been established
for the entire tax benefit and no benefit for income taxes has been recognized
in the accompanying consolidated statements of operations.
The components of net loss were as follows (in thousands):
YEAR ENDED DECEMBER 31,
----------------------------------------
2001 2000
------------------ -------------------
Domestic $ (17,816) $ (20,642)
Foreign (875) (1,228)
------------- ------------
$ (18,691) $ (21,870)
============= ============
Temporary differences that give rise to the components of deferred tax
assets are as follows (in thousands):
DECEMBER 31,
-----------------------------------------------
2001 2000
--------------------- ----------------------
Current deferred tax assets (liabilities):
Inventory $ 142 $ 268
Accrued compensation 134 121
Restructuring reserve 574 254
Other 205 182
---------- -----------
1,055 825
Valuation allowance (1,055) (825)
---------- -----------
Total current deferred tax assets (liabilities) - -
---------- -----------
Noncurrent deferred tax assets (liabilities):
Research and development credits 2,748 3,126
Deferred revenue 523 17
Pension liability 90 19
Amortization of intangible assets - 314
Gain/loss on assets held for sale 559 (35)
Property and equipment (626) (875)
Net operating loss carryforwards 62,930 58,874
---------- -----------
66,224 61,440
Valuation allowance (66,224) (61,440)
---------- -----------
Total noncurrent deferred tax assets (liabilities) $ - $ -
========== ===========
The components of the income tax expense (benefit) are as follows (in
thousands):
YEAR ENDED DECEMBER 31,
-------------------------------------
2001 2000
---------------- -----------------
Deferred income tax benefit:
Federal $ (4,261) $ (7,265)
State (552) (969)
Foreign (201) (490)
------------- ------------
Total benefit (5,014) (8,724)
Valuation allowance 5,014 8,724
------------ ------------
Total income tax expense (benefit) $ - $ -
============ ============
The Company's income tax benefit relating to losses, respectively, for the
periods presented differ from the amounts that would result from applying the
federal statutory rate to those losses as follows:
YEAR ENDED DECEMBER 31,
---------------------------------
2001 2000
------------- -------------
Statutory federal tax rate (35%) (35%)
State income taxes, net of federal benefit (3%) (3%)
Other permanent differences 11% 1%
Change in valuation allowance 27% 37%
------- -------
Effective income tax rate 0% 0%
======= =======
8.CAPITAL STOCK
Common Stock
In December 2001, the Company completed a private placement of 7.8 million
shares of common stock at a price of $0.77 per share providing the Company with
net proceeds of approximately $5.7 million.
In February 2001, the Company completed a private placement of 4.6 million
shares of common stock at a price of $1.247 per share, providing the Company
with net proceeds of approximately $5.3 million.
In December 1999, the Company completed a public offering of 6.5 million
shares of common stock at a price of $2.063 per share, providing the Company
with net proceeds of approximately $13.3 million.
Stock Option Plans
The Company has a stock option plan which authorizes granting of stock
options and stock purchase rights to employees, officers, directors and
consultants of the Company to purchase shares of common stock. In 1997, the
board of directors adopted the 1997 Stock Incentive Plan and terminated two
prior option plans. However, options granted and unexercised under the prior
plans are still outstanding. All shares that remained available for grant under
the terminated plans were incorporated into the 1997 Plan. In addition, all
shares subsequently cancelled under the prior plans are added back to the 1997
Plan on a quarterly basis as additional options available to grant. The number
of shares reserved for issuance under the 1997 Plan increases automatically on
January 1 of each year by a number equal to the lesser of (a) 1,500,000 shares
or (b) 5% of the shares of common stock outstanding on the immediately preceding
December 31. The number of shares reserved for issuance under all plans as of
January 1, 2002 was 8,223,728.
The stock options granted by the board of directors may be either incentive
stock options ("ISOs") or non-qualified stock options ("NQs"). The purchase
price for options under all of the plans may be no less than 100% of fair market
value for ISOs or 85% of fair market value for NQs. Options granted will expire
no later than the tenth anniversary subsequent to the date of grant or three
months following termination of employment, except in cases of death or
disability, in which case the options will remain exercisable for up to twelve
months. Under the terms of the 1997 Plan, in the event the Company is sold or
merged, outstanding options will either be assumed by the surviving corporation
or vest immediately.
SFAS No. 123 ("SFAS 123")
SFAS 123, Accounting for Stock-Based Compensation, defines a fair value
based method of accounting for employee stock options, employee stock purchases,
or similar equity instruments. However, SFAS 123 allows the continued
measurement of compensation cost for such plans using the intrinsic value based
method prescribed by APB Opinion No. 25, Accounting for Stock Issued to
Employees ("APB 25"), provided that pro forma disclosures are made of net
income or loss, assuming the fair value based method of SFAS 123 had been
applied. The Company has elected to account for its stock-based compensation
plans under APB 25; accordingly, for purposes of the pro forma disclosures
presented below, the Company has computed the fair values of all options granted
during 2001, 2000 and 1999, using the Black-Scholes pricing model and the
following weighted average assumptions:
2001 2000 1999
---------- ---------- ----------
Risk-free interest rate 4.39% 6.26% 5.63%
Expected lives 1.7 years 7.59 years 3.5 years
Expected volatility 86% 94% 91%
Expected dividend yield 0% 0% 0%
To estimate expected lives of options for this valuation, it was assumed
options will be exercised at varying schedules after becoming fully vested
dependent upon the income level of the option holder. For measurement purposes,
options have been segregated into three income groups, and estimated exercise
behavior of option recipients varies from one and one half years to two years
from the date of vesting, dependent on income group (less highly compensated
employees are expected to have shorter holding periods). All options are
initially assumed to vest. Cumulative compensation cost recognized in pro forma
basic net income or loss with respect to options that are forfeited prior to
vesting is adjusted as a reduction of pro forma compensation expense in the
period of forfeiture. Fair value computations are highly sensitive to the
volatility factor assumed; the greater the volatility, the higher the computed
fair value of the options granted.
The total fair value of options granted was computed to be approximately
$1.1 million, $1.7 million and $3.8 million for the years ended December 31,
2001, 2000 and 1999, respectively. The amounts are amortized ratably over the
vesting periods of the options. Pro forma stock-based compensation, net of the
effect of forfeitures, was $906,000, $2.2 million and $3.6 million for 2001,
2000 and 1999, respectively.
A summary of the Company's stock option plans is as follows:
YEAR ENDED DECEMBER 31,
-------------------------------------------------------------------------------------
2001 2000 1999
------------------------------- ------------------------ ------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
OPTIONS PRICE OPTIONS PRICE OPTIONS PRICE
-------------- -------------- ---------- ------------ ------------- ----------
Outstanding at beginning of period 3,964,668 $ 4.4979 4,246,183 $ 4.6994 3,209,317 $ 5.1203
Granted at Market 1,444,844 $ 1.2047 753,700 $ 3.3453 1,725,480 $ 3.4876
Granted above Market 431 $ 0.9400 - - - -
Cancelled (1,477,500) $ 6.6312 (600,228) $ 6.5438 (329,820) $ 6.6815
Exercised (30,583) $ 0.3649 (434,967) $ 1.0904 (358,794) $ 0.8148
--------- --------- ----------
Outstanding at end of period 3,901,860 $ 2.5689 3,964,668 $ 4.4979 4,246,183 $ 4.6994
========== ========= ==========
Exercisable at end of period 2,399,954 $ 2.9447 2,274,489 $ 4.6293 1,973,349 $ 4.1737
========== ========= ==========
The weighted average estimated fair value of options granted during the
years ended December 31, 2001, 2000 and 1999 were $0.7821, $2.3277 and $2.1814,
respectively.
The Company also granted stock options to non-employees in exchange for
consulting services, recording deferred compensation based on the estimated fair
value of the options at the date of grant. Deferred compensation was amortized
over the applicable service periods. The amortization of deferred compensation
resulted in a non-cash charge to operations of $648,000 and $629,000 in the
years ended December 31, 2000 and 1999, respectively.
The following table summarizes information about stock options outstanding
and exercisable at December 31, 2001:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------------------ ---------------------------------------
EXERCISE PRICES NUMBER OF NUMBER OF WEIGHTED
OPTIONS WEIGHTED OPTIONS
OUTSTANDING AVERAGE WEIGHTED EXERCISABLE
AT REMAINING AVERAGE AT AVERAGE
DECEMBER 31, CONTRACTUAL EXERCISE DECEMBER 31, EXERCISE
2001 LIFE IN YEARS PRICE 2001 PRICE
-------------- ------------------- ----------------- ------------------- -----------------
$0.25 - $1.14 790,988 7.86 $ 0.9312 315,836 $ 0.6309
$1.19 - $1.20 547,598 4.63 $ 1.1999 545,016 $ 1.1999
$1.22 - $1.81 835,850 9.19 $ 1.2818 438,617 $ 1.3000
$2.00 - $3.25 820,580 7.70 $ 2.4252 480,808 $ 2.5059
$3.37 - $15.00 906,844 7.19 $ 2.5689 619,677 $ 7.1631
--------- ----------
$0.25 - $15.00 3,901,860 7.50 $ 2.5689 2,399,954 $ 2.9447
========= ==========
Employee Stock Purchase Plan (the "ESPP")
Under the 1997 Employee Stock Purchase Plan, the Company is authorized to
issue up to 750,000 shares of common stock to its employees. Employees of the
Company and its U.S. subsidiaries who are expected to work at least 20 hours per
week and five months per year are eligible to participate. Under the terms of
the plan, employees can choose to have up to 10% of their annual base earnings
withheld to purchase the Company's common stock. The purchase price of the
stock is 85% of the lower of its beginning-of-enrollment period or end-of-
measurement period market price. Each enrollment period is two years, with six
month measurement periods ending June 30 and December 31.
For the years ended December 31, 2001, 2000 and 1999, the weighted-average
fair value of the purchase rights granted was $0.35, $0.91 and $1.24 per share,
respectively. Pro forma stock-based compensation, net of the effect of
adjustments, was approximately $88,161, $112,462 and $96,000 in 2001, 2000 and
1999, respectively, for the ESPP.
Restricted Stock Exchange
On August 9, 2001, the Board of Directors approved a proposal to give Heska
employees an opportunity to exchange all options outstanding with exercise
prices greater than $3.90 per share under the 1997 Stock Incentive Plan for
shares of restricted stock. The offer closed on September 28,2001 with options
to purchase 1,044,900 shares of common stock exchanged for 1,044,900 shares of
restricted stock. The fair market value of the restricted stock at the time of
the exchange was $0.68 per share. The restricted stock vests over 48 months
beginning November 1, 2001. This exchange resulted in deferred compensation of
approximately $710,000 that is being recognized over the vesting period of the
restricted stock. The Company recognized $29,000 of non-cash compensation
expense from this exchange in 2001.
Pro Forma Basic Net Loss per Share under SFAS 123
If the Company had accounted for all of its stock-based compensation plans
in accordance with SFAS 123, the Company's net loss would have been reported as
follows (in thousands, except per share amounts):
YEAR ENDED DECEMBER 31,
----------------------------------------------------
2001 2000 1999
----------------- ---------------- ---------------
Net loss:
As reported $ (18,691) $ (21,870) $ (35,836)
========= ========= =========
Pro forma $ (19,597) $ (24,143) $ (39,564)
========= ========= =========
Basic net loss per share:
As reported $ (0.48) $ (0.65) $ (1.31)
========= ========= =========
Pro forma $ (0.50) $ (0.71) $ (1.45)
========= ========= =========
9.MAJOR CUSTOMERS
The Company had sales of greater than 10% of total revenues to only one
customer during the years ended December 31, 2001, 2000 and 1999. One customer
who represented 16% and 17% of total revenues in 2001 and 2000, respectively,
and a different customer who represented 12% of total revenues 1999, purchased
vaccines from Diamond. One customer represented 24% of total accounts
receivable at December 31, 2001.
10. SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
YEAR ENDED DECEMBER 31,
-----------------------------------------------------
2001 2000 1999
--------------- ----------------- -----------------
(IN THOUSANDS)
Cash paid for interest $ 587 $ 1,155 $ 1,857
Purchase of assets under direct $ - $ 45 $ 193
capital lease financing
11. HEDGING ACTIVITIES
In April 2001, the Company entered into a series of forward contracts to
purchase Japanese yen at various dates throughout the remainder of the year.
The yen were used to purchase inventory from a Japanese manufacturer throughout
fiscal 2001. These derivative instruments have been designated and qualify as
cash flow hedging instruments under the definition provided by SFAS 133,
"Accounting for Derivative Instruments and Hedging Activities". The forward
contracts were entered into with settlement dates, and for amounts, that
approximately correspond with the Company's projected needs to purchase
inventory with the hedged currency. All of these forward contracts have been
settled as of December 31, 2001. These derivative instruments were consistent
with the Company's risk management policy, which allows for the hedging of risk
associated with fluctuations in foreign currency for anticipated future
transactions. These instruments have been determined to be fully effective as a
hedge in reducing the risk of the underlying transaction. An unrealized loss of
approximately $24,000 has been recorded in Other Comprehensive Loss as of
December 31, 2001. This unrealized loss will be reclassified to cost of
products sold and recognized as the purchase inventory is sold to customers.
The Company has recognized a loss of approximately $48,000 in cost of products
sold during the fiscal year ended December 31, 2001.
Accumulated gains and losses from derivative contracts is as follows:
2001
------------
Accumulated derivative gains (losses), December 31, 2000 $ -
Unrealized losses on forward contracts (72)
Realized losses on forward contracts reclassified to current earnings 48
------
Accumulated derivative gains (losses), December 31, 2001 (24)
======
12. COMMITMENTS AND CONTINGENCIES
In November 1998, Synbiotics Corporation ("Synbiotics") filed a lawsuit
against the Company in the United States District Court for the Southern
District of California in which it alleges that the Company infringed a patent
owned by Synbiotics relating to heartworm diagnostic technology. The Company
has answered the complaint and no trial date has been set. The Company has
obtained legal opinions from outside patent counsel that its heartworm
diagnostic products do not infringe the Synbiotics patent and that the patent is
invalid. The opinions of non-infringement are consistent with the results of
the Company's internal evaluations. In September 2000, the U.S. District Court
hearing the case granted the Company's request for a partial summary judgment,
holding two of the Synbiotics patent claims to be invalid, leaving only one
remaining claim, which is scheduled for trial in 2002. While management
believes that the Company has valid defenses to Synbiotics' allegations and
intends to defend the action vigorously, there can be no assurance that an
adverse result or settlement would not have a material adverse effect on the
Company's financial position, its results of operations or cash flow.
The Company holds certain rights to market and manufacture all products
developed or created under certain research, development and licensing
agreements with various entities. In connection with such agreements, the
Company has agreed to pay the entities royalties on net product sales. In the
years ended December 31, 2001, 2000 and 1999, royalties of $866,000, $931,000
and $1.0 million became payable under these agreements, respectively.
The Company contracts with various parties that conduct research and
development on the Company's behalf. In return, the Company generally receives
the right to commercialize any products resulting from these contracts. In the
event the Company licenses any technology developed under these contracts, the
Company will generally be obligated to pay royalties at specified percentages of
future sales of products utilizing the licensed technology.
The Company has entered into operating leases for its office and research
facilities and certain equipment with future minimum payments as of December 31,
2001 as follows (in thousands):
YEAR ENDING DECEMBER 31,
--------------------------
2002 $ 878
2003 799
2004 666
2005 108
2006 -
--------
$ 2,451
========
The Company had rent expense of $861,000, $1.0 million and $1.1 million in
2001, 2000 and 1999, respectively.
13. SEGMENT REPORTING
Our business is comprised of two reportable segments, Companion Animal
Health and Food Animal Health. Prior to June 30, 2000, we also had a third
reportable segment, Allergy Treatment, which represented the operations of a
subsidiary sold as of June 23, 2000. Within the Companion Animal Health segment
there are two major product groupings which we define as pharmaceuticals,
vaccines and diagnostics (PVD) and veterinary diagnostic and patient monitoring
instruments. These products are sold through our operations in Fort Collins,
Colorado and Europe. Within the Food Animal Health segment, there is one major
product grouping, food animal vaccine and pharmaceutical products. We
manufacture these food animal products at our Diamond Animal Health subsidiary.
Additionally, we generate non-product revenues from sponsored research and
development projects for third parties, licensing of technology and royalties.
We perform these sponsored research and development projects for both companion
animal and food animal purposes.
Summarized financial information concerning the Company's reportable
segments is shown in the following table (in thousands).
COMPANION FOOD
ANIMAL ANIMAL ALLERGY
HEALTH HEALTH TREATMENT OTHER TOTAL
----------- ---------- ---------- ------------- ------------
2001:
Revenues:
PVD $ 16,704 $ - $ - $ - $ 16,704
Instruments 16,018 - - - 16,018
Diamond Animal Health - 13,664 - - 13,664
Sold businesses and other - - - - -
Research, development and other 1,532 365 - - 1,897
-------- --------- ----- -------- ---------
Total revenues 34,254 14,029 - - 48,283
Operating income (loss) (18,349) 2,250 - (2,023)(a) (18,122)
Total assets 52,102 21,079 - (35,424) 37,757
Capital expenditures 420 419 - - 839
Depreciation and amortization 1,978 1,447 - - 3,425
(a) Includes restructuring expenses of $1,528 million and $495,000 of other
(See Note 4).
COMPANION FOOD
ANIMAL ANIMAL ALLERGY
HEALTH HEALTH TREATMENT OTHER TOTAL
----------- ---------- ---------- ------------- ------------
2000:
Revenues:
PVD $ 13,961 $ - $ - $ - $ 13,961
Instruments 14,194 - - - 14,194
Diamond Animal Health - 18,203 - - 18,203
Sold business and other - - 3,191 - 3,191
Research, development and other 1,834 1,292 - - 3,126
-------- -------- ------- --------- ---------
Total revenues 29,989 19,495 3,191 - 52,675
Operating income (loss) (22,065) 1,539 (24) (790)(b) (21,340)
Total assets 53,109 17,533 - (31,482) 39,160
Capital expenditures 724 483 - - 1,207
Depreciation and amortization 2,277 1,577 212 - 4,066
(b) Includes the write-down of certain fixed assets to their expected net
realizable values, resulting in a loss of $355,000 and restructuring
expenses of $435,000 (See Note 4).
COMPANION FOOD
ANIMAL ANIMAL ALLERGY
HEALTH HEALTH TREATMENT OTHER TOTAL
----------- ---------- ---------- ------------- ------------
1999:
Revenues:
PVD $ 12,716 $ _ $ _ $ _ $ 12,716
Instruments 12,106 _ _ _ 12,106
Diamond Animal Health _ 12,086 _ _ 12,086
Sold businesses and other 301 3,901 9,181 _ 13,383
Research, development and other 505 380 _ _ 885
--------- -------- -------- --------- ---------
Total revenues 25,628 16,367 9,181 _ 51,176
Operating income (loss) (27,878) (2,534) (372) (3,803)(c) (34,587)
Total assets 89,199 22,185 6,376 (46,592) 71,168
Capital expenditures 743 2,368 185 - 3,296
Depreciation and amortization 2,155 1,294 415 - 3,864
(c) Includes the write-down of certain tangible and intangible assets to their
expected net realizable values, resulting from a loss on assets held for
disposition of $2.6 million, restructuring expenses of $1.2 million (See
Note 4).
The Company manufactures and markets its products in two major geographic
areas, North America and Europe. The Company's primary manufacturing
facilities are located in North America. Revenues earned in North America are
attributable to Heska, Diamond, Heska Waukesha (through 1999) and Center
(through June 2000). Revenues earned in Europe are primarily attributable to
Heska UK (through January 2000), Heska AG. There have been no significant
exports from North America or Europe.
During each of the years presented, European subsidiaries purchased
products from North America for sale to European customers. Transfer prices to
international subsidiaries are intended to allow the North American companies to
produce profit margins commensurate with their sales and marketing efforts.
Certain information by geographic area is shown in the following table (in
thousands).
NORTH AMERICA EUROPE OTHER TOTAL
--------------- ------------ ------------ ------------
2001:
Revenues:
PVD $ 15,213 $ 1,491 $ - $ 16,704
Instruments 15,744 274 - 16,018
Diamond Animal Health 13,664 - - 13,664
Sold businesses and other - - - -
Research, development and other 1,897 - - 1,897
---------- --------- --------- ---------
Total revenues 46,518 1,765 - 48,283
Operating income (loss) (15,782) (317) (2,023)(a) (18,122)
Total assets 71,288 1,893 (35,424) 37,757
Capital expenditures 821 18 - 839
Depreciation and amortization 3,324 101 - 3,425
(a) Includes restructuring expenses of $1,528 million and $495,000 of other
(See Note 4).
NORTH AMERICA EUROPE OTHER TOTAL
--------------- ------------ ------------ ------------
2000:
Revenues:
PVD $ 12,352 $ 1,609 $ - $ 13,961
Instruments 13,562 632 - 14,194
Diamond Animal Health 18,203 - - 18,203
Sold businesses and other 2,889 302 - 3,191
Research, development and other 3,126 - - 3,126
---------- --------- --------- ---------
Total revenues 50,132 2,543 - 52,675
Operating income (loss) (20,444) (896) - (b) (21,340)
Total assets 68,130 2,512 (31,482) 39,160
Capital expenditures 1,082 125 - 1,207
Depreciation and amortization 3,956 110 - 4,066
(b) Includes the write-down of certain fixed assets to their expected
net realizable values, resulting in a loss of $355,019 and restructuring
expenses of $435,000 (See Note 4).
NORTH AMERICA EUROPE OTHER TOTAL
--------------- ------------ ------------ ------------
1999:
Revenues:
PVD $ 9,308 $ 3,408 $ - $ 12,716
Instruments 11,314 792 - 12,106
Diamond Animal Health 12,086 - - 12,086
Sold business and other 10,436 2,947 - 13,383
Research, development and other 885 - - 885
--------- ---------- --------- ---------
Total revenues 44,029 7,147 - 51,176
Operating income (loss) (27,431) (3,353) (3,803)(c) (34,587)
Total assets 114,165 3,595 (46,592) 71,168
Capital expenditures 3,292 4 - 3,296
Depreciation and amortization 3,701 163 - 3,864
(c) Includes the write-down of certain tangible and intangible assets to their
expected net realizable values, resulting from a loss on assets held for
disposition of $2.6 million, restructuring expenses of $1.2 million (See Note
4).
14. QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
The following summarizes selected quarterly financial information for each
of the two years in the period ended December 31, 2001 (amounts in thousands
except per share data).
Q1 Q2 Q3 Q4 TOTAL
---------- ---------- ---------- ---------- ----------
2001:
Total revenues $ 10,927 $ 10,938 $ 11,755 $ 14,663 $ 48,283
Gross profit from product sales 4,100 3,710 4,115 5,806 17,731
Net loss (4,572) (4,664) (3,894) (5,561) (18,691)
Net loss per share - basic and diluted (0.12) (0.12) (0.10) (0.14) (0.48)
2000:
Total revenues $ 14,363 $ 14,243 $ 12,708 $ 11,361 $ 52,675
Gross profit from product sales 4,001 4,250 3,944 4,055 16,250
Net loss (5,929) (5,703) (4,731) (5,507) (21,870)
Net loss per share - basic and diluted (0.18) (0.17) (0.14) (0.16) (0.65)
15. SUBSEQUENT EVENTS
On March 13, 2002, the Company re-negotiated the covenants under its
revolving line of credit facility. The Company's ability to borrow under this
agreement varies based upon available cash, eligible accounts receivable and
eligible inventory. The minimum liquidity (cash plus excess capacity) required
to be maintained has been reduced to $2.5 million during 2002.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
Not applicable.
PART III
Certain information required by Part III is incorporated by reference to
our definitive Proxy Statement filed with the Securities and Exchange Commission
in connection with the solicitation of proxies for our 2002 Annual Meeting of
Stockholders.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this section is incorporated by reference to
the information in the sections entitled "Election of Directors-Directors and
Nominees for Directors" and "Section 16(a) Beneficial Ownership Reporting
Compliance" in the Proxy Statement.
EXECUTIVE OFFICERS OF THE REGISTRANT
Our executive officers and their ages as of March 16, 2002 are as follows:
NAME AGE POSITION
- ---------------------------------- ---------------- -------------------------------------------------------
Robert B. Grieve, Ph.D. 50 Chairman of the Board and Chief Executive Officer
James H. Fuller 57 President and Chief Operating Officer
Ronald L. Hendrick 56 Executive Vice President, Chief Financial Officer and
Secretary
Dan T. Stinchcomb, Ph.D. 48 Executive Vice President, Research and Development
Carol Talkington Verser, Ph.D. 49 Executive Vice President, Intellectual Property and
Business Development
Robert B. Grieve, Ph.D., one of our founders, currently serves as Chief
Executive Officer and Chairman of the Board. Dr. Grieve was named Chief
Executive Officer effective January 1, 1999, Vice Chairman effective March 1992
and Chairman of the Board effective May 2000. Dr. Grieve also served as Chief
Scientific Officer from December 1994 to January 1999 and Vice President,
Research and Development, from March 1992 to December 1994. He has been a
member of our Board of Directors since 1990. He holds a Ph.D. degree from the
University of Florida and M.S. and B.S. degrees from the University of Wyoming.
James H. Fuller has served as President and Chief Operating Officer since
January 1999. Prior to joining us, Mr. Fuller served as Corporate Vice
President of Allergan, Inc., a leading specialty pharmaceutical company, from
1994 through 1998. Prior to 1994, Mr. Fuller served in a number of sales and
marketing positions at Allergan since 1974. He holds M.S. and B.S. degrees from
the University of Southern California.
Ronald L. Hendrick serves as Executive Vice President, Chief Financial
Officer and Secretary. He joined us in December 1998. From 1995 until December
1998, Mr. Hendrick was Executive Vice President and Chief Financial Officer of
Xenometrix, Inc., a human biotechnology concern. From 1993 until 1995,
Mr. Hendrick served as Vice President and Corporate Controller at Alexander &
Alexander Services, Inc., a NYSE financial services firm, and before that he
held a number of finance and accounting positions at Adolph Coors Company. He
holds a M.B.A. from the University of Colorado and a B.A. degree from Michigan
State University.
Dan T. Stinchcomb, Ph.D., was appointed Executive Vice President, Research
and Development, in December 1999. Dr. Stinchcomb previously served as Vice
President, Research from December 1998 to November 1999, and as Vice President,
Biochemistry and Molecular Biology from May 1996 until December 1998. From July
1993 until May 1996, Dr. Stinchcomb was employed by Ribozyme Pharmaceuticals,
Inc., most recently as Director of Biology Research. From 1988 until April
1993, Dr. Stinchcomb held various positions with Synergen, Inc. Prior to
joining Synergen, Dr. Stinchcomb was an Associate Professor in Cellular and
Developmental Biology at Harvard University. He holds a Ph.D. degree from
Stanford University and a B.A. degree from Harvard University.
Carol Talkington Verser, Ph.D., was appointed Executive Vice President,
Intellectual Property and Business Development in February 2001. From June 2000
until January 2001 she was Vice President, Intellectual Property and Business
Development. From July 1996 to May 2000, she served us as Vice President,
Intellectual Property. From July 1995 to June 1996, Dr. Verser served us as
Director, Intellectual Property. From July 1991 to June 1995, Dr. Verser was a
Patent Agent and Technical Specialist at Sheridan, Ross and McIntosh, an
intellectual property law firm. Prior to July 1991, she was Director,
Scientific Development and Laboratory Director at Biogrowth, Inc., currently a
subsidiary of Insmed Inc. Dr. Verser holds a Ph.D. in cellular and
developmental biology from Harvard University and a B.S. in biological sciences
from the University of Southern California.
ITEM 11. EXECUTIVE COMPENSATION.
The information required by this section is incorporated by reference to
the information in the sections entitled "Election of Directors-Directors'
Compensation" and "Executive Compensation" in the Proxy Statement.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this section is incorporated by reference to
the information in the section entitled "Security Ownership of Certain
Beneficial Owners and Management" in the Proxy Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this section is incorporated by reference to
the information in the section entitled "Certain Transactions and
Relationships" in the Proxy Statement.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) The following documents are filed as a part of this Form 10-K.
(1) FINANCIAL STATEMENTS:
Reference is made to the Index to Consolidated Financial Statements
under Item 8 in Part II of this Form 10-K.
(2) FINANCIAL STATEMENT SCHEDULES:
Schedule II - Valuation and Qualifying Accounts.
SCHEDULE II
HESKA CORPORATION AND SUBSIDIARIES
VALUATION AND QUALIFYING ACCOUNTS
ADDITIONS OTHER DEDUCTIONS BALANCE AT
BALANCE AT CHARGED TO ADDITIONS ------------- END OF
BEGINNING COSTS AND --------- YEAR
OF YEAR EXPENSES ----------
---------- --------------
ALLOWANCE FOR DOUBTFUL ACCOUNTS
Year ended:
December 31, 2001 $ 431 $ 373 - $ (298 )(a $ 506
)
December 31, 2000 $ 188 $ 320 - $ (77 )(a $ 431
)
December 31, 1999 $ 93 $ 122 - $ (27 )(a $ 188
)
ALLOWANCE FOR RESTRUCTURING CHARGES
Year ended:
December 31, 2001 $ 176 $ 2,023 - $ (176 )(b $ 2,023
)
December 31, 2000 $ 1,123 $ 435 - $ (1,382 )(b $ 176
)
December 31, 1999 $ 1,631 $ 1,210 - $ (1,718 )(b $ 1,123
)
(a) Write-offs of uncollectable accounts.
(b) Payments for personnel severance costs and facility closing costs.
(3) EXHIBITS:
The exhibits listed below are required by Item 601 of Regulation S-K. Each
management contract or compensatory plan or arrangement required to be filed as
an exhibit to this Form 10-K has been identified.
EXHIBIT NUMBER NOTES DESCRIPTION OF DOCUMENT
- ---------------- -------------- ---------------------------------------------------------------------------
3(i)(d) (5) Restated Certificate of Incorporation of the Registrant.
3(ii) (8) Bylaws of the Registrant.
10.1H (1) Collaborative Agreement between Registrant and Eisai Co., Ltd., dated
January 25, 1993.
10.3H Bovine Vaccine Distribution Agreement between Diamond Animal Health, Inc.
and AGRI Laboratories, Ltd., dated February 13, 1998, as amended.
10.4H Exclusive Distribution Agreement between Registrant and Novartis Animal
Health Canada, Inc. dated February 14, 2001, as amended.
10.5H (1) Screening and Development Agreement between Ciba-Geigy Limited and
Registrant, dated as of April 12, 1996.
10.6 (1) Right of First Refusal Agreement between Ciba-Geigy Limited and Registrant,
dated as of April 12, 1996.
10.7 (1) Marketing Agreement between Registrant and Ciba-Geigy Limited, dated as of
April 12, 1996.
10.8H (1) Marketing Agreement between Registrant and Ciba-Geigy Corporation, dated as
of April 12, 1996.
10.9 H Amended and Restated Distribution Agreement between Registrant and i-STAT
Corporation, dated as of February 9, 1999.
10.10* (1) Employment Agreement between Registrant and Robert B. Grieve, dated January
1, 1994, as amended March 4, 1997.
10.10(a)* (4) Amended and Restated Employment Agreement with Robert B. Grieve, dated as
of February 22, 2000.
10.14H (2) Supply Agreement between Registrant and Quidel Corporation, dated July 3,
1997.
10.14(a)H First Amendment to Product Supply Agreement between Registrant and Quidel
Corporation, dated as of March 15, 1999.
10.18* (1) Form of Indemnification Agreement entered into between Registrant and its
directors and certain officers.
10.19* (8) 1997 Incentive Stock Plan of Registrant, as amended and restated.
10.20* (1) Forms of Option Agreement.
10.21* (1) 1997 Employee Stock Purchase Plan of Registrant, as amended.
10.22 (1) Lease Agreement dated March 8, 1994 between Sharp Point Properties, LLC and
Registrant.
10.23 (1) Lease Agreement dated as of June 27, 1996 between GB Ventures and
Registrant.
10.24 (1) Lease Agreement dated as of July 11, 1996 between GB Ventures and
Registrant.
10.25 Lease Agreement dated as of August 24, 1999 between GB Ventures and
Registrant.
10.26 Lease Agreement dated as of October 6, 1999 between GB Ventures and
Registrant.
10.28* (3) Employment Agreement between Registrant and Ronald L. Hendrick, dated
December 1, 1998.
10.29* (3) Employment Agreement between Registrant and James H. Fuller, dated
January 18, 1999.
10.34H (3) Exclusive Distribution Agreement between the Company and Novartis Agro
K.K., dated as of August 18, 1998
10.35 (3) Right of First Refusal Agreement between the Company and Novartis Animal
Health, Inc., dated as of August 18, 1998
10.39 (5) Second Amended and Restated Credit and Security Agreement between
Registrant, Diamond Animal Health, Inc., Center Laboratories, Inc. and
Wells Fargo Business Credit, Inc., dated as of June 14, 2000.
10.40* (5) Employment agreement by and between Registrant and Dan T. Stinchcomb, dated
as of May 1, 2000.
10.41* (5) Employment agreement by and between Registrant and Carol Talkington Verser,
dated as of May 1, 2000.
10.42* (6) Management Incentive Compensation Plan.
10.43 (7) First Amendment to Second Amended and Restated Credit and Security
Agreement between Registrant, Diamond Animal Health, Inc. and Wells Fargo
Business Credit, Inc., dated as of March 27, 2001.
10.44 Second Amendment to Second Amended and Restated Credit and Security
Agreement between Registrant, Diamond Animal Health, Inc. and Wells Fargo
Business Credit, Inc., dated as of March 13, 2002.
21.1 (6) Subsidiaries of the Company.
23.1 Consent of Arthur Andersen LLP.
24.1 Power of Attorney (See page 70 of this Form 10-K).
99.1 Letter concerning Arthur Andersen LLP.
Notes
* Indicates management contract or compensatory plan or arrangement.
H Confidential treatment has been requested with respect to certain portions of
these agreements.
(1) Filed with Registrant's Registration Statement on Form S-1 (File No. 333-
25767).
(2) Filed with the Registrant's Form 10-Q for the quarter ended September 30,
1997.
(3) Filed with the Registrant's Form 10-K for the year ended December 31, 1998.
(4) Filed with the Registrant's Form 10-K for the year ended December 31, 1999.
(5) Filed with the Registrant's Form 10-Q for the quarter ended June 30, 2000.
(6) Filed with the Registrant's Form 10-K for the year ended December 31,
2000.
(7) Filed with the Registrant's Form 10-Q for the quarter ended March 31,
2001.
(8) Filed with the Registrant's Form 10-Q for the quarter ended June 30, 2001.
(b) Reports on Form 8-K: The Company filed a Report on Form 8-K dated December
20, 2001, related to the private placement of approximately 7.8 million shares
of its common stock with certain investors at a price of $0.77 per share
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, on April 1, 2002.
HESKA CORPORATION
By: /s/ ROBERT B. GRIEVE
Robert B. Grieve
Chairman of the Board and
Chief Executive Officer
POWER OF ATTORNEY
KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints Robert B. Grieve, Ronald L. Hendrick,
Michael A. Bent and A. Lynn DeGeorge, and each of them, his or her true and
lawful attorneys-in-fact, each with full power of substitution, for him or her
in any and all capacities, to sign any amendments to this report on Form 10-K
and to file the same, with exhibits thereto and other documents in connection
therewith, with the Securities and Exchange Commission, hereby ratifying and
confirming all that each of said attorneys-in-fact or their substitute or
substitutes may do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities and Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated:
SIGNATURE TITLE DATE
- ------------------------------------ --------------------------------------- --------------------
Chairman of the Board and Chief April 1, 2002
/s/ ROBERT B. GRIEVE Executive Officer (Principal Executive
- ----------------------- Officer) and Director
Robert B. Grieve
/s/ RONALD L. HENDRICK Executive Vice President, Chief April 1, 2002
- ----------------------- Financial Officer and Secretary
Ronald L. Hendrick (Principal Financial and Accounting
Officer)
Director April 1, 2002
/s/ G. IRWIN GORDON
- -----------------------
G. Irwin Gordon
Director April 1, 2002
/s/ A. BARR DOLAN
- -----------------------
A. Barr Dolan
Director April 1, 2002
/s/ LYLE A. HOHNKE
- -----------------------
Lyle A. Hohnke
Director April 1, 2002
/s/ EDITH W. MARTIN
- -----------------------
Edith W. Martin
Director April 1, 2002
/s/ WILLIAM A. AYLESWORTH
- ----------------------
William A. Aylesworth
Director April 1, 2002
/s/ LYNNOR B. STEVENSON
- ----------------------
Lynnor B. Stevenson
Director April 1, 2002
/s/ JOHN F. SASEN, Sr.
- ----------------------
John F. Sasen, Sr.