SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-Q

 

ý	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
	For the quarterly period ended September 30, 2002.

 

OR

 

o	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 1-11388

 

 

 

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  ý     No  o

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class		Outstanding at November 8, 2002
Common Stock, no par value		29,738,432

 

 

PLC SYSTEMS INC.

 

Index

 

Part I.	Financial Information:
	Item 1.	Financial Statements
		Condensed Consolidated Balance Sheets (unaudited)
		Condensed Consolidated Statements of Operations (unaudited)
		Condensed Consolidated Statements of Cash Flows (unaudited)
		Notes to Condensed Consolidated Financial Statements (unaudited)
	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
	Item 3.	Quantitative and Qualitative Disclosures About Market Risk
	Item 4.	Controls and Procedures
Part II.	Other Information:
	Item 6.	Exhibits and Reports on Form 8-K

 

2

 

PLC SYSTEMS INC.

Part I.  Financial Information

 

Item 1.    Financial Statements

PLC SYSTEMS INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands)

(Unaudited)

 

		September 30, 2002			December 31, 2001
ASSETS
Current assets:
Cash and cash equivalents		$	5,462		$	4,977
Accounts receivable, net		1,910			2,544
Lease receivables, net		1,131			1,510
Inventories, net		906			1,001
Prepaid expenses and other current assets		579			222
Total current assets		9,988			10,254
Equipment, furniture and leasehold improvements, net		248			383
Lease receivables, net		533			1,326
Other assets		309			335
Total assets		$	11,078		$	12,298
LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable		$	589		$	968
Accrued compensation		373			444
Accrued expenses		796			859
Deferred revenue		919			507
Secured borrowings		1,307			1,691
Total current liabilities		3,984			4,469
Deferred revenue		77			73
Secured borrowings		533			1,446
Total long-term liabilities		610			1,519
Stockholders’ equity:
Preferred stock, no par value, unlimited shares authorized, no shares issued and outstanding		—			—
Common stock, no par value, unlimited shares authorized, 29,738 and 29,527 shares issued and outstanding at September 30, 2002 and December 31, 2001, respectively		93,534			93,419
Accumulated deficit		(85,908		)	(86,003		)
Accumulated other comprehensive loss		(1,142		)	(1,106		)
Total stockholders’ equity		6,484			6,310
Total liabilities and stockholders’ equity		$	11,078		$	12,298

 

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

 

3

 

PLC SYSTEMS INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

(Unaudited)

 

		Three Months Ended September 30,						Nine Months Ended September 30,
		2002			2001			2002			2001
Revenues:
Product sales		$	1,641		$	2,005		$	5,547		$	6,064
Placement and service fees		354			352			1,047			1,215
Total revenues		1,995			2,357			6,594			7,279
Cost of revenues:
Product sales		645			1,150			2,692			3,428
Placement and service fees		120			201			397			621
Total cost of revenues		765			1,351			3,089			4,049
Gross profit		1,230			1,006			3,505			3,230
Operating expenses:
Selling, general and administrative		796			1,849			2,790			6,044
Research and development		230			201			665			714
Total operating expenses		1,026			2,050			3,455			6,758
Income (loss) from operations		204			(1,044		)	50			(3,528		)
Other income, net		15			56			45			224
Net income (loss)		$	219		$	(988	)	$	95		$	(3,304	)
Basic and diluted earnings (loss) per share		$	0.01		$	(0.03	)	$	0.00		$	(0.11	)
Average shares outstanding:
Basic		29,738			29,452			29,676			29,171
Diluted		29,755			29,452			29,700			29,171

 

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

 

4

 

PLC SYSTEMS INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 

		Nine Months Ended September 30,
		2002			2001
Operating activities:
Net income (loss)		$	95		$	(3,304	)
Adjustments to reconcile net income (loss) to net cash provided by (used for) operating activities:
Depreciation and amortization		162			558
Change in assets and liabilities:
Accounts receivable		633			(519		)
Inventory		94			121
Prepaid expenses and other assets		(361		)	64
Accounts payable		(384		)	(244		)
Deferred revenue		395			50
Accrued liabilities		(181		)	(532		)
Net cash provided by (used for) operating activities		453			(3,806		)
Investing activities:
Purchase of equipment		(2		)	(199		)
Proceeds from disposition of equipment		—			10
Purchase of marketable securities		—			(333		)
Maturity of marketable securities		—			288
Net cash used for investing activities		(2		)	(234		)
Financing activities:
Net proceeds from sales of common shares		115			3,963
Secured borrowings		(125		)	(173		)
Net cash provided by (used for) financing activities		(10		)	3,790
Effect of exchange rate changes on cash and cash equivalents		44			(32		)
Net increase (decrease) in cash and cash equivalents		485			(282		)
Cash and cash equivalents at beginning of period		4,977			5,726
Cash and cash equivalents at end of period		$	5,462		$	5,444

 

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

 

5

 

PLC SYSTEMS INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

September 30, 2002

 

 

1.             Nature of Business

 

PLC Systems Inc. (“PLC” or the “Company”) has developed a patented high-powered carbon dioxide (“CO₂”) laser system known as The Heart Laser (“HL1”) for use in the treatment of severe coronary artery disease in a surgical laser procedure, pioneered by the Company and its clinical investigators, known as transmyocardial revascularization (“TMR”).  In January 2001, the Company obtained U.S. Food and Drug Administration (“FDA”) approval to market its second-generation laser, the CO₂ Heart Laser 2 (“HL2”).  The HL2 is less than half the weight and size of the HL1, but delivers the equivalent laser energy, wavelength and beam characteristics.  The HL1 and HL2 collectively are referred to throughout this report as the “Heart Laser Systems”.

 

In January 2001, the Company entered into a strategic marketing alliance and exclusive distribution agreement with Edwards Lifesciences LLC, a subsidiary of Edwards Lifesciences Corporation (collectively referred to as “Edwards”).  The distribution agreement is for five years with a five-year renewal option if certain conditions are met.  Under the terms of the agreement, Edwards will market and distribute the HL2, as well as all disposable TMR kits and accessories, to hospitals in the United States.  In January 2002, Edwards exercised a pre-existing option to assume full sales and marketing responsibilities in the United States for PLC’s HL2 and associated TMR kits.  Edwards is also the Company’s largest shareholder, owning approximately 18% of the Company’s outstanding shares as of December 31, 2001.

 

Outside the United States, the Company markets and distributes its products primarily through an independent dealer network, although in certain countries it continues to sell its products directly to hospitals.

 

2.             Basis of Presentation

 

The accompanying unaudited condensed consolidated financial statements of the Company have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements.  In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included.  Operating results for the three and nine months ended September 30, 2002 are not necessarily indicative of the results that may be expected for the year ending December 31, 2002.  Certain prior period items have been reclassified to conform with current period presentations.  These financial statements should be read in conjunction with the consolidated financial statements and footnotes thereto included in the Company’s annual report on Form 10-K for the year ended December 31, 2001.

 

3.             Net Income (Loss) per Share

 

Basic earnings per share have been computed using only the weighted average number of common shares outstanding during the period while diluted earnings per share have been computed

 

6

 

using the weighted average number of common shares outstanding during the period plus the effect of outstanding stock options using the treasury stock method.

 

Basic and diluted loss per share have been computed using only the weighted average number of common shares outstanding during the period without giving effect to any potential future issues of common stock related to stock option programs and warrants since their inclusion would be antidilutive.

 

4.             Comprehensive Income (Loss)

 

Total comprehensive income for the three-month period ended September 30, 2002 amounted to $213,000, as compared to a total comprehensive loss of $964,000 for the three-month period ended September 30, 2001. Total comprehensive income for the nine-month period ended September 30, 2002 amounted to $59,000, as compared to a total comprehensive loss of $3,323,000 for the nine-month period ended September 30, 2001.

 

5.             Inventories

 

Inventories are stated at the lower of cost or market using the first-in, first-out (FIFO) method and consist of the following (in thousands):

 

 

At September 30, 2002 and December 31, 2001, inventories are stated net of a reserve of $1,117,000 and $1,167,000, respectively, for potentially obsolete inventory.

 

6.             Revenue Recognition

 

The Company records revenue from the sale of TMR kits to Edwards at the time of shipment.  Heart Laser Systems are billed to Edwards in accordance with purchase orders received by the Company. Invoiced Heart Laser Systems are recorded as other current assets and deferred revenue on the Company’s consolidated balance sheet until such time as the laser is shipped to a hospital, at which time the Company records revenue and cost of revenue.

 

Under the terms of the Edwards distribution agreement, once Edwards has recovered a prescribed amount of revenue from a hospital for the use or purchase of a laser, any additional revenues earned by Edwards are shared with the Company pursuant to a formula established in the distribution agreement. The Company only records its share of such additional revenue, if any, at the time the revenue is earned.

 

The Company records revenue from the sale of TMR kits and Heart Laser Systems to international dealers or hospitals at the time of shipment. The Company generally requires its international customers to secure Heart Laser System sales through cash deposits and letters of credit.

 

7

 

Prior to entering into the Edwards distribution agreement, the Company installed Heart Laser Systems in hospitals under placement contracts that did not transfer substantial ownership of the equipment to the customer. Revenues from these transactions are recognized over the life of the placement agreement in accordance with the specific terms of the contract.

 

Revenues from service and maintenance contracts are recognized ratably over the life of the contract.

 

Installation revenues related to a Heart Laser System transaction are recorded as a component of placement and service fees when the Heart Laser System is installed.

 

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

 

This quarterly report (including certain information incorporated herein by reference) 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.  Statements containing terms such as “believes”, “plans”, “expects”, “anticipates”, “intends”, “estimates” and similar expressions contain uncertainty and are forward-looking statements. Forward-looking statements are based on current plans and expectations and involve known and unknown important risks and uncertainties that could cause actual results to differ materially from those described in the forward-looking statements. Such important factors and uncertainties include, but are not limited to, those set forth below under the heading “Factors Affecting Future Operating Results” and elsewhere in this quarterly report.

 

Overview

 

In January 2001, the Company obtained FDA approval to market its next generation laser, the HL2.  The HL2 is less than half the weight and size of the Company’s first generation laser, the HL1, but delivers the equivalent laser energy, wavelength and beam characteristics.  The HL1 and the HL2 collectively are referred to throughout this report as the “Heart Laser Systems”.

 

In January 2001, the Company entered into a strategic marketing alliance and exclusive distribution arrangement with Edwards.  Under this arrangement, Edwards is marketing and distributing the HL2, as well as all disposable TMR kits and accessories, to customers in the United States.  In 2001, Edwards’ sales force was principally responsible for driving increased TMR procedures and kit utilization, as well as providing the Company’s capital sales force with HL2 sales leads. The Company maintained its capital sales force through January 2002 to assist Edwards in marketing the HL2 in the United States.

 

In January 2002, Edwards exercised a pre-existing option to assume full sales and marketing responsibility in the United States for PLC’s HL2 and associated TMR kits. The Company sells the HL2 and TMR kits to Edwards at a discount to list price and Edwards remarkets the HL2 and TMR kits to hospitals.  The Company has benefited from reduced domestic sales and marketing expenses of approximately $2,388,000 through the first nine months of 2002 and expects ongoing savings to be realized during the fourth quarter of 2002.

 

A portion of the Company’s operations is conducted outside of the United States.  Historically the impact of foreign currency fluctuations on the Company’s overall consolidated results of operations has not been material (as discussed below under the heading “Quantitative and

 

8

 

Qualitative Disclosures About Market Risk”).

 

Results of Operations

 

Total revenues were $1,995,000 for the three-month period ended September 30, 2002, a decrease of $362,000 or 15% when compared to total revenues of $2,357,000 for the three-month period ended September 30, 2001.  The $362,000 decrease in total revenues was predominately the result of a $280,000 decline in international revenues.

 

Total revenues were $6,594,000 for the nine-month period ended September 30, 2002, a decrease of $685,000 or 9% when compared to total revenues of $7,279,000 for the nine-month period ended September 30, 2001.  The $685,000 decrease in total revenues was the result of an $893,000 decline in international revenues, which was in part offset by a $208,000 increase in domestic revenues.

 

Product Sales

 

Product sales for the three and nine months ended September 30, 2002 were $1,641,000 and $5,547,000, decreases of $364,000 and $517,000, respectively, when compared with product sales of $2,005,000 and $6,064,000 for the three and nine months ended September 30, 2001.

 

For the three-month period ended September 30, 2002, product sales declined primarily as a result of lower international Heart Laser Systems shipments and revenues and lower royalty revenue. Domestic Heart Laser Systems revenues increased, despite a decrease in the number of lasers shipped, due to an increase in the average sale price of domestic HL2 lasers sold to Edwards and increased revenue sharing earned under the distribution agreement with Edwards.

 

For the nine-month period ended September 30, 2002, product sales declined as a result of lower international Heart Laser Systems shipments and revenues, lower revenues generated from the sale of disposable TMR kits and lower royalty revenue. These decreases were partially offset by an increase in domestic Heart Laser Systems revenues, resulting from an increase in the number of domestic lasers shipped, an increase in the average sale price of domestic HL2 lasers sold to Edwards and increased revenue sharing earned under the distribution agreement with Edwards.

 

Placement and Service Fees

 

Placement and service fees for the three and nine months ended September 30, 2002 were $354,000 and $1,047,000, an increase of $2,000 and a decrease of $168,000, respectively, when compared with placement and service fees of $352,000 and $1,215,000 for the three and nine months ended September 30, 2001.

 

In the three months ended September 30, 2002, service fees increased by 6%, primarily as a result of increased installation revenues, which more than offset an 8% decline in placement fees.

 

In the nine months ended September 30, 2002, the decrease in placement and service fees reflects a decrease of 44% in placement fees partially offset by a 23% increase in service fees.  Placement fees declined as a result of (1) various U.S. HL1 customers upgrading to HL2s, which results in laser sales to Edwards and corresponding shifts in recorded disposable kit sales to these new HL2 customers as product sales instead of placement fees, and (2) a decline in international

 

9

 

placement contract fees due to a decrease in kit shipments to international placement contract customers.  Service fees increased due to more lasers being placed in service throughout 2001 and 2002, which resulted in increased billings to Edwards for installation, warranty and preventative maintenance services.

 

Gross Profit

 

Total gross profit for the three and nine months ended September 30, 2002 was $1,230,000, or 62% of revenues, and $3,505,000, or 53% of revenues, as compared to $1,006,000, or 43% of revenues, and $3,230,000, or 44% of revenues, for the comparable periods in 2001.

 

Gross profit improved in the three and nine months ended September 30, 2002 as compared to the corresponding periods in 2001 primarily due to (1) a higher average selling price on Heart Laser System transactions, (2) manufacturing cost savings and improved product yields, (3) lower depreciation charges and (4) a reduction in product cost of sales due to a reevaluation and decrease of estimated future warranty costs related to the Company’s installed base of lasers.

 

Operating Expenses

 

Selling, general and administrative expenditures were $796,000 and $2,790,000 for the three and nine months ended September 30, 2002, decreases of $1,053,000 and $3,254,000, respectively, when compared to expenditures of $1,849,000 and $6,044,000 in the three and nine months ended September 30, 2001.  For the three and nine months ended September 30, 2002, the overall decrease is primarily attributable to (1) reduced domestic sales and marketing expenditures as a result of the January 2002 Edwards exercise of a pre-existing option to assume the United States sales and marketing responsibility for the HL2 and associated TMR kits, (2) reduced international sales and marketing expenditures and (3) reduced administrative expenditures.  The Company expects that sales and marketing expenditures in the fourth quarter of 2002 will continue to decrease significantly as compared to 2001, primarily due to Edwards’ exercise of the sales and marketing option in January 2002.

 

Research and development expenditures for the three and nine months ended September 30, 2002 were $230,000 and $665,000, an increase of $29,000 and a decrease of $49,000, respectively, when compared with expenditures of $201,000 and $714,000 for the three and nine months ended September 30, 2001.  During the fourth quarter of 2002, research and development expenditures are expected to be comparable to the average level of expenditures incurred in the first three quarters of 2002.

 

Other Income

 

Other income for the three and nine months ended September 30, 2002 was $15,000 and $45,000, decreases of $41,000 and $179,000, respectively, when compared with other income of $56,000 and $224,000 for the three and nine months ended September 30, 2001.  These decreases are a result of both a lower overall average investable balance and lower interest rates on invested funds.

 

Net Income

 

The Company recorded net income of $219,000 and $95,000 for the three and nine months ended September 30, 2002, compared to net losses of $988,000 and $3,304,000 for the

 

10

 

three and nine months ended September 30, 2001.  Net income in the three and nine months ended September 30, 2002 resulted from the combination of higher gross margins and lower operating expenses, the latter being primarily related to the lower sales and marketing expenses discussed above.

 

In connection with the January 2002 sales and marketing option exercise by Edwards, Edwards will, pursuant to the terms of the distribution agreement with the Company, retain a greater share of the revenue generated from U.S. TMR kit sales.  In addition, royalty revenue is expected to decrease in the fourth quarter of 2002, as compared to the fourth quarter of 2001, because the guaranteed minimum royalties generated from the settlement of the CardioGenesis lawsuit ended on June 30, 2002. Although CardioGenesis is required to pay an ongoing royalty on sales of covered products after June 30, 2002, the Company expects that royalty revenue will be significantly lower than the guaranteed minimum royalties for the foreseeable future.

 

Kit Shipments

 

Management of the Company monitors disposable kit shipments to end users as an important metric in evaluating its business.  Management believes kit shipments to end users, although not a direct measure, are a reasonable indicator of the pace of the adoption of TMR as a therapy in the marketplace.

 

For the three and nine months ended September 30, 2002, a total of 325 and 1,197 disposable kits were shipped to end users.  This represented a decrease of 4% and an increase of 16%, respectively, over the 340 and 1,031 disposable kits shipped to end users during the three and nine months ended September 30, 2001.

 

Domestic kit shipments to end users decreased by 8% and increased by 27%, respectively, from 307 and 846 in the three and nine months ended September 30, 2001 to 283 and 1,074 in the three and nine months ended September 30, 2002.  In the three-month period ended September 30, 2002, the decrease in kit shipments is believed to be a result of a more pronounced seasonal decrease in the number of cardiac surgery procedures performed.  In the nine-month period ended September 30, 2002, the increase in kit shipments is believed to be due primarily to the increased base of installed lasers.

 

International kit shipments increased from 33 in the three-month period ended September 30, 2001 to 42 in the three-month period ended September 30, 2002.  International kit shipments decreased from 185 in the nine-month period ended September 30, 2001 to 123 in the nine-month period ended September 30, 2002.  The decrease in kit shipments during the nine-month period ended September 30, 2002 is believed to be due to various international accounts using their existing inventories of disposable kits.

 

Liquidity and Capital Resources

 

At September 30, 2002, the Company had cash and cash equivalents of $5,462,000.

 

During the nine-month period ended September 30, 2002, the Company recorded net income of $95,000.  The combination of this net income and favorable working capital changes, most notably the reduction in outstanding accounts receivable of $633,000, resulted in net cash provided by operating activities of approximately $453,000.  Cash used in financing activities was approximately $10,000, consisting of net proceeds of $115,000 obtained from the sale of the

 

11

 

Company’s common stock offset by a reduction in secured borrowings of $125,000.  Although the Company generated positive cash flow from operating activities during the nine-month period ended September 30, 2002, no assurance can be given that positive cash flow from operations will be sustained during the fourth quarter of 2002 and beyond.

 

The Company believes that its existing cash resources will meet its working capital requirements through December 31, 2002. However, the Company is largely dependent on the success of Edwards’ sales and marketing efforts in the U.S. to continue to sell HL2 lasers as well as to substantially increase TMR procedural volumes and revenues.  Should Edwards prove unsuccessful in its attempts to continue to sell HL2 lasers or to increase TMR procedural volumes, the Company’s liquidity and capital resources will be negatively impacted. Additionally, other unanticipated decreases in operating revenues or increases in expenses may adversely impact the Company’s cash position and require further cost reductions or the need to obtain additional financing. No assurance can be given that the Company, working with Edwards and its international distributors, will be successful in achieving broad commercial acceptance of the Heart Laser Systems, or that the Company will be able to operate profitably on a consistent basis.

 

Certain hospital customers prefer to acquire the Heart Laser Systems on a usage basis rather than as a capital equipment purchase.  The Company believes that this is the result of limitations many hospitals currently have on acquiring expensive capital equipment, as well as competitive pressures in the marketplace.  Should Edwards choose to pursue a usage business model with certain hospitals, Edwards will have a longer recovery period to recoup its investment in lasers it purchases from the Company.  This could result in (1) a delay in the Company’s ability to receive additional shared revenue, if any, that it otherwise is entitled to receive under the terms of its distribution agreement with Edwards and (2) a delay in the purchase of new lasers by Edwards if its installed base of placement lasers under usage contracts are under-performing and it chooses to re-deploy these lasers to other new hospital sites in lieu of purchasing a new laser from the Company.  The Company’s cash position and its need for additional financing to fund operations will be dependent in part upon the number of hospitals that acquire Heart Laser Systems from Edwards on a usage basis and the number and frequency of TMR procedures performed by these hospitals.  No assurance can be given that a usage based sales model will be successful, whether implemented by the Company or Edwards.

 

The Company may need to raise additional capital to fund operations during the next 12 months.  There can be no assurance that, should the Company require additional financing, such financing will be available on terms and conditions acceptable to the Company. Should additional financing not be available on terms and conditions acceptable to the Company, additional actions may be required that could adversely impact the Company’s ability to continue to realize assets and satisfy liabilities in the normal course of business. The consolidated financial statements set forth in this quarterly report do not include any adjustments to reflect the possible future effects of these uncertainties.

 

Factors Affecting Future Operating Results

 

The risks and uncertainties described below are not the only risks we face.  Additional risks and uncertainties not presently known to us or currently deemed immaterial may also impair our business operations.  If any of the following risks actually occur, our financial condition and operating results could be materially adversely affected.

 

12

 

Our company has a history of operating losses

 

PLC Systems Inc. was founded in 1987.  We have incurred operating losses in every year of our existence except 1995.  We incurred net losses of $3,902,000 for the year ended December 31, 2001, $7,410,000 for the year ended December 31, 2000 and $6,555,000 for the year ended December 31, 1999. As of December 31, 2001, we had an accumulated deficit of $86,003,000.  Although we have achieved profitability in the second and third quarters of 2002, as well as in the nine months ended September 30, 2002, this is the first time in more than five years that we have been able to do so.  Our revenues tend to vary significantly from fiscal quarter to fiscal quarter, and there is no assurance that we will continue to be profitable in the future.

 

Our company is dependent on one principal product line

 

We develop and market one principal product line, which consists of two patented high-powered carbon dioxide laser systems known as the Heart Laser Systems and related disposables. Approximately 91% of our revenues in the nine months ended September 30, 2002 and 90% of our revenues in the years ended December 31, 2001 and December 31, 2000 were derived from the sales and service of our Heart Laser Systems and related disposables.

 

Our company is dependent on one principal customer

 

Pursuant to a distribution agreement with Edwards, Edwards is our exclusive distributor for our HL2 and TMR kits in the United States.  As a result of this relationship, Edwards accounted for 86% and 68% of our total revenue in the nine months ended September 30, 2002 and the year ended December 31, 2001, respectively, and we expect Edwards to account for the majority of our revenue in the future.  If our relationship with Edwards does not progress or if Edwards’ sales and marketing strategies fail to generate sales of our HL2 and TMR kits in the future, our revenue will decrease significantly and our business, financial condition and results of operations will be seriously harmed.

 

Our company is dependent on certain suppliers

 

Some of the components for our laser systems, most notably the power supply, ECG card and certain optics and fabricated parts, are only available from one supplier, and we have no assurance that we will be able to source any of our sole-sourced components from additional suppliers. In the past, we have experienced delays in product delivery from our sole suppliers and, because we do not have an alternative supplier to produce these products for us, we have little leverage to enforce timely delivery. Any delay in product delivery or other interruption in supply from these suppliers could prevent us from meeting our commercial demands for the Heart Laser Systems, which could have a material adverse effect on our business, financial condition and results of operations.  Furthermore, we do not require significant quantities of any components because we produce a limited number of Heart Laser Systems each year.  Our low-quantity needs may not generate substantial revenue for our suppliers.  Therefore, it may be difficult for us to continue our relationships with our current suppliers or establish relationships with additional suppliers on commercially reasonable terms, if at all.

 

We have limited manufacturing experience building the HL2

 

We only began manufacturing the HL2 in 2001.  The HL2 is based on a different design than the HL1.  In order to achieve certain manufacturing cost savings, we have taken a more

 

13

 

vertically integrated approach to the manufacture of the HL2 than we did with the HL1.  As a result, we may experience manufacturing difficulties, including but not limited to:

 

•      shortages in component parts due to supplier manufacturing or procurement delays;

 

•     supplier quality problems;

 

•     lack of experienced technical personnel;

 

•     low production yields; and

 

•     changing processes and controls over the manufacturing procedures employed.

 

If we are unable to successfully manufacture the HL2 in a timely manner, we may lose customers and our business, financial condition and results of operations may be seriously harmed.

 

Our common stock may be delisted from AMEX

 

We may in the future fall out of compliance with AMEX’s continued listing guidelines.  If so, we may be unable to regain compliance with AMEX’s continued listing guidelines within a satisfactory period, and our common stock could be delisted from AMEX.  If our common stock were delisted from AMEX, we could face a number of negative implications, including reduced liquidity in our common stock as a result of the loss of market efficiencies associated with AMEX and the loss of federal preemption of state securities laws, as well as the potential loss of confidence by investors, suppliers, customers and employees, fewer business development opportunities and greater difficulty in obtaining financing.

 

Our company may be unable to raise needed funds

 

As of September 30, 2002, we had cash and cash equivalents totaling $5,462,000. Based on our current operating plan, we anticipate that our existing capital resources should be sufficient to meet our working capital requirements through December 31, 2002. However, if our business does not progress in accordance with our current business plan, we may need to raise additional funds in the future. We may not be able to raise additional capital upon satisfactory terms or at all, and our business, financial condition and results of operations could be materially and adversely affected. To the extent that we raise additional capital by issuing equity or convertible securities, ownership dilution to our stockholders will result.

 

In order to compete effectively, our Heart Laser Systems need to gain commercial acceptance

 

To date, our Heart Laser Systems have not achieved widespread commercial acceptance. We cannot predict whether our products will ever be broadly accepted by the medical community.  To be successful, we need to:

 

•      demonstrate to the medical community in general, and to heart surgeons and cardiologists in particular, that TMR procedures and the Heart Laser Systems are effective, relatively safe and cost effective;

 

14

 

•      support third-party efforts to document the medical processes by which TMR procedures relieve angina, if any;

 

•      have more heart surgeons trained to perform TMR procedures using the Heart Laser Systems; and

 

•      obtain widespread third-party reimbursement for the TMR procedure.

 

To date, only a limited number of heart surgeons have been trained on the use of our Heart Laser Systems, and we are dependent on Edwards to expand TMR related marketing and training efforts in the United States.  Our current competitor in the TMR market, CardioGenesis, uses a different type of laser (holmium) than we use in the Heart Laser Systems, and we have no assurance that our laser will be able to gain more widespread market acceptance.

 

Results of long-term clinical studies may adversely affect our business

 

Patients have only been treated with the Heart Laser Systems since January 1990, and, as a result, there have been few long-term follow-up studies. While these studies have shown positive results, if patients suffer harmful, long-term consequences from the Heart Laser Systems, our business, financial condition and results of operations will be materially and adversely affected.

 

Rapid technological changes in our industry could make the Heart Laser Systems obsolete

 

Our industry is characterized by rapid technological change. New technologies and products and new industry standards will develop at a rapid pace, which could make the Heart Laser Systems obsolete.  The advent of new devices and procedures and advances in new drugs and genetic engineering are especially threatening and may erode the potential TMR market.  Our future success will depend in part on our ability to timely respond to such changes with new products or product enhancements that address the needs of our customers.  Our inability to timely respond to such potential new technologies and methods could have a material adverse effect on our business, financial condition and results of operations.

 

The medical device industry is intensely competitive.  Many potential competitors have substantially greater financial resources and are in a better financial position to exploit marketing and research and development opportunities.  As such, our current and future competitors may be more successful than us in developing new technologies or methods to market their products, which could adversely affect our business.

 

Our competitor may obtain FDA approval to market a new device, the impact of which is uncertain on the future adoption rate of TMR

 

CardioGenesis is attempting to obtain FDA approval to market their PMR (percutaneous transmyocardial revascularization) laser, which would provide a less invasive method of creating channels in the heart.  If PMR can be shown to be safe and effective and is approved by the FDA, it would eliminate the need in certain patients to make an incision in the chest, reducing costs and speeding recovery.  It is unclear what impact, if any, an approval of a PMR device would have on the future adoption rate for TMR procedures. It is possible that the approval of a PMR device could favorably impact the adoption rate for TMR procedures if, as a result of the approval of the PMR device, referring cardiologists view laser revascularization therapy, by whatever means, in a more favorable light. However, it is possible that PMR, if approved, could erode the potential TMR market which

 

15

 

could have a material adverse effect on our business, financial condition and results of operations.

 

We must receive and maintain government approval in order to market our product

 

General

 

The Heart Laser Systems and our manufacturing activities are subject to extensive, rigorous and changing federal and state regulation in the United States and to similar regulatory requirements in other major markets, including the European Union and Japan. To date, we have received regulatory approval in the United States and have the ability to market the Heart Laser Systems in the European Union (excluding France). We have not received regulatory approval in Japan. Without regulatory approval, we cannot market the Heart Laser Systems in Japan. Even if granted, regulations may significantly restrict the use of the Heart Laser Systems. The process of obtaining and maintaining required regulatory approval is lengthy, expensive and uncertain.

 

United States — Although we have received FDA approval, the FDA has restricted the use of the Heart Laser Systems and could reverse its approval at any time

 

We received FDA approval to market the HL1 and HL2 for TMR procedures in August 1998 and January 2001, respectively. However, the FDA:

 

•      has not allowed us to market the Heart Laser Systems to treat patients with conditions amenable to conventional treatments, such as heart bypass surgery and angioplasty; and

 

•      could reverse its ruling and prohibit use of the Heart Laser Systems at any time.

 

Europe — Although we have the ability to market our product in the European Union, individual members of the European Union could, and France has, prohibited commercial use of the Heart Laser Systems

 

We received the CE Mark from the European Union for the HL1 and HL2 in March 1995 and February 2001, respectively. However:

 

•      the European Union could reverse its ruling and prohibit use of the Heart Laser Systems at any time;

 

•      we cannot market the Heart Laser Systems in France; and

 

•      other European Union countries could prohibit or restrict use of the Heart Laser Systems.

 

The French Ministry of Health instituted a commercial moratorium on TMR procedures in October 1997.  In its opinion, the procedure is considered to be experimental and should only be performed within the context of a clinical study.  There can be no assurance that this moratorium will be lifted on a timely basis or at all.

 

Japan  —  We cannot market our product in Japan until we receive government approval

 

We believe that Japan represents one of the largest potential markets for the Heart Laser Systems in Asia. Prior to marketing the Heart Laser Systems in Japan, we must receive approval

 

16

 

from the Japanese government.  This approval requires a clinical study in Japan with at least 60 patients.  A study was completed in 1998 with the HL1.  Although the results of this study have been submitted to the Japanese government, we do not know whether the clinical study will be sufficient or when, if ever, we will receive approval to sell the HL1 in Japan.  In addition, it is unclear what impact the introduction of the HL2 into the U.S. and other international markets will have on our ability to market the HL1 in Japan.

 

We could incur substantial costs defending against possible legal claims in the future

 

We have been sued for alleged securities law violations in the past, and may be subject to similar claims or other claims in the future.  Between August 1997 and November 1997, we were named as defendant in 21 class action lawsuits alleging violations of federal securities laws because we failed to obtain a favorable FDA panel recommendation to market the HL1.  Nineteen of the claims were consolidated into a single action and some of the claims were dismissed in 1999.  All remaining claims were settled in February 2001.  The settlement of these claims did not have a material impact on our financial statements.  However, any future litigation or claims, whether or not valid, could result in substantial costs and diversion of resources with no assurance of success.

 

Asserting and defending intellectual property rights may impact our results of operations

 

In our industry, competitors often assert intellectual property infringement claims against one another. The success of our business depends on our ability to successfully defend our intellectual property. Future litigation may have a material impact on our financial condition even if we are successful in marketing the Heart Laser Systems. We may not be successful in defending or asserting our intellectual property rights.

 

An adverse outcome in any litigation or interference proceeding could subject us to significant liabilities to third parties and require us to cease using the technology that is at issue or to license the technology from third parties. In addition, a finding that any of our intellectual property is invalid could allow our competitors to more easily and cost-effectively compete with us. Thus, an unfavorable outcome in any patent litigation or interference proceeding could have a material adverse effect on our business, financial condition or results of operations.

 

The cost to us of any patent litigation or interference proceeding could be substantial. Uncertainties resulting from the initiation and continuation of patent litigation or interference proceedings could have a material adverse effect on our ability to compete in the marketplace. Patent litigation and interference proceedings may also absorb significant management time.

 

We may be subject to product liability lawsuits; our insurance may not be sufficient to cover damages

 

We may be subject to product liability claims. The United States Supreme Court has stated that compliance with FDA regulations will not shield a company from common-law negligent design claims or manufacturing and labeling claims based on state rules. Such claims may absorb significant management time and could degrade the reputation of PLC and the marketability of the Heart Laser Systems. If product liability claims are made with respect to our products, we may need to recall the implicated product which could have a material adverse effect on our business, financial condition and results of operations. In addition, although we maintain product liability insurance, we cannot be sure that our insurance will be adequate to

 

17

 

cover potential product liability lawsuits. Our insurance is expensive and in the future may not be available on acceptable terms, if at all. If a successful product liability claim or series of claims exceeded our insurance coverage, it could have a material adverse effect on our business, financial condition and results of operations.

 

We are subject to risks associated with international operations

 

A portion of our product sales are generated from operations outside of the United States. Establishing and expanding international sales can be expensive. Managing and overseeing foreign operations may be difficult and products may not receive market acceptance. Risks of doing business outside the U.S. include the following: agreements may be difficult to enforce and receivables difficult to collect through a foreign country’s legal system; foreign customers may have longer payment cycles; foreign countries may impose additional withholding taxes or otherwise tax our foreign income, impose tariffs or adopt other restrictions on foreign trade; U.S. export licenses may be difficult to obtain; and the protection of intellectual property in foreign countries may be more difficult to enforce. There can be no assurance that our international business will grow or that any of the foregoing risks will not result in a material adverse effect on our business or results of operations.

 

Because we are incorporated in Canada, you may not be able to enforce judgments against us and our Canadian directors

 

Under Canadian law, you may not be able to enforce a judgment issued by courts in the United States against us or our Canadian directors. The status of the law in Canada is unclear as to whether a U.S. citizen can enforce a judgment from a U.S. court in Canada for violations of U.S. securities laws. A separate suit may need to be brought directly in Canada.

 

Antitakeover provisions may prevent you from realizing a premium return

 

Provisions of Canadian law could make it more difficult for a third party to acquire us, even if the acquisition would be beneficial to you. Specifically, Canadian law requires any person who makes a tender offer that would increase the person’s stock ownership to more than 20% of our outstanding common stock to make a tender offer for all of our common stock.  These provisions could prevent you from realizing the premium return that stockholders may realize in conjunction with corporate takeovers.

 

In addition, we have three classes of directors, with approximately one-third elected each year for a three-year term. These provisions may have the effect of delaying or preventing a corporate takeover or a change in our management.  This could adversely affect the market price of our common stock.

 

The market price of our stock may fall if other shareholders sell their stock

 

Certain current shareholders hold large amounts of our restricted stock, which they may be able to sell in the public market in the near future.  Sales of a substantial number of shares of our common stock within a short period of time could cause our stock price to fall.  In addition, the sale of these shares could impair our ability to raise capital through the sale of additional stock.

 

18

 

The value of your common stock may decrease if other shareholders exercise their options and warrants

 

As shown in the table below, as of September 30, 2002, we have reserved an additional 7,198,856 shares of common stock for future issuance upon exercise of all available options, warrants and shares purchasable under an employee stock purchase plan.

 

		Range of Exercise/ Conversion Prices					Weighted Average Exercise/ Conversion Price			Shares Reserved for Future Issuance
Options		$	.53 —	$	8.88		$	1.99		3,535,772
Warrants		$	1.00 —	$	19.53		$	2.48		3,177,215
Employee Stock Purchase Plan										485,869
Total										7,198,856

 

Pursuant to our option repricing program, we are committed to issue options to purchase 999,345 shares of our common stock at the then fair market value during March of 2003. We may issue additional options and warrants in the future. If any of these securities are exercised, you may experience significant dilution in the market value of your common stock.

 

We have no intention to pay dividends

 

We have never paid any cash dividends on our common stock. We currently intend to retain all future earnings, if any, for use in our business and do not expect to pay any dividends in the foreseeable future.

 

Our actual results could differ materially from those anticipated in forward-looking statements

 

This quarterly report and information incorporated by reference contain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.  Forward-looking statements deal with our current plans and expectations and involve known and unknown risks and uncertainties.  Statements containing terms such as believes, does not believe, plans, expects, intends, estimates, anticipates and other phrases of similar meaning are considered to contain uncertainty and are forward-looking statements.

 

No forward-looking statement is a guarantee of future performance.  Our actual results could differ materially from those anticipated in these forward-looking statements.  We have identified a number of important factors, including the risk factors specified above, that could cause our actual results to differ materially from our forward-looking statements.  You should read these important factors as being applicable to all related forward-looking statements, wherever they appear in this quarterly report, in the materials referred to in this quarterly report, in the materials incorporated by reference into this quarterly report or in our press releases. You should not place undue reliance on any forward-looking statement.

 

Item 3.    Quantitative and Qualitative Disclosures About Market Risk

 

A portion of the Company’s operations consists of sales activities in foreign jurisdictions. The Company manufactures its products exclusively in the United States and sells the products in

 

19

 

the United States and abroad. As a result, the Company’s financial results could be significantly affected by factors such as changes in foreign currency exchange rates or weak economic conditions in the foreign markets in which the Company distributes its products. The Company’s operating results are exposed to changes in exchange rates between the U.S. dollar and foreign currencies, especially the Swiss Franc and the Euro. When the U.S. dollar strengthens against the Franc or Euro, the value of nonfunctional currency sales decreases. When the U.S. dollar weakens, the functional currency amount of sales increases. No assurance can be given that foreign currency fluctuations in the future may not adversely affect the Company’s business, financial condition and results of operations, although at the present time the Company does not believe that its exposure is significant.

 

The Company’s interest income is sensitive to changes in the general level of U.S. interest rates. In this regard, changes in U.S. interest rates affect the interest earned on the Company’s cash equivalents.

 

Item 4.     Controls and Procedures

 

(a)           Evaluation of disclosure controls and procedures.  Based on their evaluation of the Company’s disclosure controls and procedures (as defined in Rules 13a-14(c) and 15d-14(c) under the Securities Exchange Act of 1934) as of a date within 90 days of the filing date of this Quarterly Report on Form 10-Q, the Company’s chief executive officer and chief financial officer have concluded that the Company’s disclosure controls and procedures are designed to ensure that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and are operating in an effective manner.

 

(b)           Changes in internal controls.  There were no significant changes in the Company’s internal controls or in other factors that could significantly affect these controls subsequent to the date of their most recent evaluation.

 

 

PLC SYSTEMS INC.

Part II.  Other Information

 

Item 6.    Exhibits and Reports on Form 8-K

 

a)	Exhibits
	99.1	Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
b)	Reports on Form 8-K
	None.

 

20

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

	PLC SYSTEMS INC.
Dated: November 12, 2002	By:	/s/ James G. Thomasch
		Chief Financial Officer (Principal Financial Officer and Chief Accounting Officer)

 

 

 

CERTIFICATIONS

 

I, Mark R. Tauscher, certify that:

 

1.  I have reviewed this quarterly report on Form 10-Q of PLC Systems Inc.;

 

2.  Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

 

3.  Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

 

4.  The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

 

a)  designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;

 

b)  evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and

 

c)  presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

 

21

 

5.  The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

 

a)  all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and

 

b)  any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

 

6.  The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

 

 

By:	/s/ Mark R. Tauscher
Dated: November 12, 2002	Mark R. Tauscher
	Chief Executive Officer

 

 

 

I, James G. Thomasch, certify that:

 

1.  I have reviewed this quarterly report on Form 10-Q of PLC Systems Inc.;

 

2.  Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;

 

3.  Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;

 

4.  The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

 

a)  designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;

 

b)  evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and

 

22

 

c)  presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

 

5.  The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):

 

a)  all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and

 

b)  any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

 

6.  The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

 

By:	/s/ James G. Thomasch
Dated: November 12, 2002	James G. Thomasch
	Chief Financial Officer

 

23

 

RIDER A

 

 

EXHIBIT INDEX