UNITED STATES

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 April 30, 2003

 

or

 

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

 

Commission File Number 0-26670

 

 

NORTH AMERICAN SCIENTIFIC, INC.

(Exact name of registrant as specified in its charter)

 

 

 

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.

 

ý  Yes   o  No

 

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).

 

o  Yes   ý  No

 

The number of shares of Registrant’s Common Stock, $.01 par value, outstanding as of May 27, 2003 was 10,245,918 shares.

 

 

NORTH AMERICAN SCIENTIFIC, INC.

Index

 

 

Part I – Financial Information
Item 1.	Financial Statements
Consolidated Balance Sheets as of April 30, 2003 and October 31, 2002
Consolidated Statements of Operations for the three and six months ended April 30, 2003 and 2002
Consolidated Statements of Cash Flows for the six months ended April 30, 2003 and 2002
Condensed Notes to the Consolidated Financial Statements
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 4.	Submissions of Matters to a Vote of Security Holders
Item 6.	Exhibits and Reports on Form 8-K
Signatures
Certifications

 

2

 

NORTH AMERICAN SCIENTIFIC, INC.

 

Consolidated Balance Sheets

 

		April 30, 2003			October 31, 2002
		(Unaudited)
Assets
Current assets
Cash and cash equivalents		$	2,194,000		$	2,708,000
Marketable securities		30,536,000			36,144,000
Accounts receivable		1,943,000			2,416,000
Inventories		668,000			596,000
Income taxes receivable		—			1,006,000
Prepaid expenses and other current assets		1,601,000			833,000
Total current assets		36,942,000			43,703,000
Non-current marketable securities		21,297,000			17,093,000
Equipment and leasehold improvements		3,259,000			3,264,000
Goodwill		3,659,000			3,659,000
Licenses and patents		355,000			469,000
Deferred income taxes		844,000			844,000
Other assets		22,000			103,000
Total assets		$	66,378,000		$	69,135,000
Liabilities and Stockholders’ Equity
Current liabilities
Accounts payable		$	1,168,000		$	1,109,000
Accrued expenses		3,759,000			3,125,000
Total current liabilities		4,927,000			4,234,000
Commitments and contingencies
Stockholders’ equity
Preferred stock, $.01 par value, 2,000,000 shares authorized; no shares issued or outstanding		—			—
Common stock, $.01 par value, 40,000,000 shares authorized; 10,263,418 and 10,250,136 shares issued and 10,244,418 and 10,250,136 shares outstanding as of April 30, 2003 and October 31, 2002, respectively		103,000			103,000
Additional paid-in capital		74,060,000			73,929,000
Treasury stock, at cost – 19,000 common shares		(129,000		)	—
Accumulated deficit		(12,583,000		)	(9,131,000		)
Total stockholders’ equity		61,451,000			64,901,000
Total liabilities and stockholders’ equity		$	66,378,000		$	69,135,000

 

See condensed notes to the consolidated financial statements.

 

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NORTH AMERICAN SCIENTIFIC, INC.

 

Consolidated Statements of Operations

(Unaudited)

 

		Three Months Ended April 30,						Six Months Ended April 30,
		2003			2002			2003			2002
Net sales		$	2,904,000		$	4,957,000		$	8,045,000		$	9,893,000
Cost of goods sold		1,412,000			1,870,000			3,255,000			3,641,000
Gross profit		1,492,000			3,087,000			4,790,000			6,252,000
Selling, general and administrative expenses		3,030,000			1,639,000			5,445,000			2,864,000
Research and development		1,813,000			2,139,000			3,770,000			4,369,000
Write-off of licenses and equipment		—			2,714,000			—			2,714,000
Loss from operations		(3,351,000		)	(3,405,000		)	(4,425,000		)	(3,695,000		)
Interest and other income, net		926,000			466,000			1,284,000			956,000
Loss before provision for income taxes		(2,425,000		)	(2,939,000		)	(3,141,000		)	(2,739,000		)
Provision for income taxes		—			1,939,000			—			2,013,000
Loss before cumulative effect of change in accounting principle		(2,425,000		)	(4,878,000		)	(3,141,000		)	(4,752,000		)
Cumulative effect of change in accounting principle (Note 5)		—			—			(311,000		)	—
Net loss		$	(2,425,000	)	$	(4,878,000	)	$	(3,452,000	)	$	(4,752,000	)
Loss per share:
Basic
Loss per share before cumulative effect of change in accounting principle		$	(.24	)	$	(.48	)	$	(.31	)	$	(.47	)
Cumulative effect of change in accounting principle		$	—		$	—		$	(.03	)	$	—
Net loss		$	(.24	)	$	(.48	)	$	(.34	)	$	(.47	)
Diluted
Loss per share before cumulative effect of change in accounting principle		$	(.24	)	$	(.48	)	$	(.31	)	$	(.47	)
Cumulative effect of change in accounting principle		$	—		$	—		$	(.03	)	$	—
Net loss		$	(.24	)	$	(.48	)	$	(.34	)	$	(.47	)
Shares used in per share calculations:
Basic		10,251,968			10,189,762			10,254,106			10,182,357
Diluted		10,251,968			10,189,762			10,254,106			10,182,357

 

See condensed notes to the consolidated financial statements.

 

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NORTH AMERICAN SCIENTIFIC, INC.

 

Consolidated Statements of Cash Flows

 

		Six Months Ended April 30,
		2003			2002
		(Unaudited)
Cash flows from operating activities:
Net loss		$	(3,452,000	)	$	(4,752,000	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Cumulative effect of change in accounting principle		311,000			—
Depreciation and amortization		458,000			485,000
Non-cash stock compensation expense		47,000			—
Provision for doubtful accounts		39,000			—
Write-off of licenses and equipment		105,000			2,714,000
Gain on sale of non-marketable securities		(600,000		)	—
Deferred income taxes		—			2,013,000
Changes in assets and liabilities:
Accounts receivable		434,000			(114,000		)
Inventories		(72,000		)	(123,000		)
Prepaid expenses and other assets		(496,000		)	(34,000		)
Accounts payable		59,000			56,000
Accrued expenses		235,000			33,000
Income taxes receivable		1,006,000			307,000
Net cash provided by (used in) operating activities		(1,926,000		)	585,000
Cash flows from investing activities:
Proceeds from sale of marketable securities		11,882,000			10,341,000
Purchases of marketable securities		(10,477,000		)	(11,238,000		)
Proceeds from sale of non-marketable securities		408,000			—
Purchase of licenses		—			(75,000		)
Capital expenditures		(356,000		)	(188,000		)
Net cash provided by (used in) investing activities		1,457,000			(1,160,000		)
Cash flows from financing activities:
Purchases of common stock as treasury stock		(129,000		)	—
Proceeds from exercise of stock options and stock purchase plan		84,000			109,000
Net cash provided by (used in) financing activities		(45,000		)	109,000
Net decrease in cash and cash equivalents		(514,000		)	(466,000		)
Cash and cash equivalents at beginning of period		2,708,000			3,084,000
Cash and cash equivalents at end of period		$	2,194,000		$	2,618,000

 

See condensed notes to the consolidated financial statements.

 

5

 

NORTH AMERICAN SCIENTIFIC, INC.

 

Condensed Notes to Consolidated Financial Statements

(Unaudited)

 

Note 1 – Consolidated Financial Statements

 

Basis of Presentation

 

The accompanying consolidated financial statements of North American Scientific, Inc. (the “Company”) are unaudited, other than the consolidated balance sheet at October 31, 2002, and reflect all material adjustments, consisting only of normal recurring adjustments, which management considers necessary for a fair presentation of the Company’s financial position, results of operations and cash flows for the interim periods.  The results of operations for the current interim period are not necessarily indicative of the results to be expected for the entire fiscal year.

 

These consolidated financial statements have been prepared in accordance with the rules and regulations of the Securities and Exchange Commission.  Certain information and footnotes normally included in financial statements prepared in accordance with generally accepted accounting principles in the United States of America have been condensed or omitted pursuant to these rules and regulations.  These consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in the Company’s Form 10-K, as filed with the Securities and Exchange Commission for the year ended October 31, 2002.

 

Certain reclassifications have been made to prior period balances in order to conform to the current period presentation.

 

Use of Estimates

 

In the normal course of preparing the financial statements in conformity with generally accepted accounting principles in the United States of America, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and reported amounts of revenue and expenses during the reporting period.  Actual results could differ from those amounts.

 

Accounting for Stock-based Compensation

 

The Company accounts for its stock option awards to employees and directors using the intrinsic value method of accounting in accordance with Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” and related interpretations.  The Company has provided additional disclosures required by Statement of Financial Accounting Standards (“SFAS”) No. 123, “Accounting for Stock-Based Compensation.”

 

On December 31, 2002, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 148, “Accounting for Stock Based Compensation – Transition and Disclosure,” which amends SFAS No. 123.  SFAS No. 148 requires more prominent and frequent disclosures about the effects of stock-based compensation, which the Company has adopted as of November 1, 2002.  The Company has elected to continue to account for its stock-based compensation using the intrinsic value method of accounting according to the provisions of APB Opinion No. 25.

 

6

 

Had compensation cost for the Company’s stock options been recognized based upon the estimated fair value on the grant date under the fair value methodology prescribed by SFAS No. 123, as amended by SFAS No. 148, the Company’s net loss and loss per share would have been as follows:

 

		Three Months Ended April 30,						Six Months Ended April 30,
		2003			2002			2003			2002
Net loss, as reported		$	(2,425,000	)	$	(4,878,000	)	$	(3,452,000	)	$	(4,752,000	)
Less: total stock-based compensation (1)		(506,000		)	(569,000		)	(1,126,000		)	(1,100,000		)
Net loss, as adjusted		$	(2,931,000	)	$	(5,447,000	)	$	(4,578,000	)	$	(5,852,000	)
Basic and diluted loss per share, as reported		$	(.24	)	$	(.48	)	$	(.34	)	$	(.47	)
Basic and diluted loss per share, as adjusted		$	(.29	)	$	(.53	)	$	(.45	)	$	(.57	)

 

(1) As determined under the fair value method.

 

The Company uses the Black-Scholes option-pricing model for estimating the fair value of options granted. The Black-Scholes option-pricing model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable.  In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price volatility.  The Company uses projected volatility rates, which are based upon historical volatility rates, trended into future years. Because the Company’s employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of the Company’s options. For purposes of pro forma disclosures, the estimated fair values of the options are amortized over the options’ vesting periods.

 

Note 2 – Inventories

 

Inventories are valued at the lower of cost or market as determined under the first-in, first-out method. Costs include materials, labor and manufacturing overhead. Inventories are shown net of applicable reserves and allowances. Inventories consist of the following:

 

		April 30, 2003			October 31, 2002
Raw materials		$	495,000		$	459,000
Work in process		61,000			42,000
Finished goods		112,000			95,000
		$	668,000		$	596,000

 

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Note 3 – Net Loss per Share

 

Basic earnings (loss) per share is computed by dividing the net income (loss) by the weighted average number of shares outstanding for the period. Diluted earnings (loss) per share is computed by dividing the net income (loss) by the sum of the weighted average number of common shares outstanding for the period plus the assumed exercise of all dilutive securities by applying the treasury stock method unless such assumed exercises are anti-dilutive. The following table sets forth the computation of basic and diluted earnings (loss) per share:

 

		Three Months Ended April 30,						Six Months Ended April 30,
		2003			2002			2003			2002
Net loss		$	(2,425,000	)	$	(4,878,000	)	$	(3,452,000	)	$	(4,752,000	)
Weighted average shares outstanding - Basic		10,251,968			10,189,762			10,254,106			10,182,357
Dilutive effect of stock options		—			—			—			—
Weighted average shares outstanding - Diluted		10,251,968			10,189,762			10,254,106			10,182,357
Basic loss per share		$	(.24	)	$	(.48	)	$	(.34	)	$	(.47	)
Diluted loss per share		$	(.24	)	$	(.48	)	$	(.34	)	$	(.47	)

 

Stock options to purchase 2,303,184 and 1,970,331 common shares for the three months ended April 30, 2003, and 2002, respectively, and 2,308,096 and 1,913,058 common shares for the six months ended April 30, 2003 and 2002, respectively, were not included in the computation of diluted earnings per share because their effect would have been anti-dilutive.

 

Note 4 – Comprehensive Loss

 

The components of comprehensive loss are as follows:

 

		Three Months Ended April 30,						Six Months Ended April 30,
		2003			2002			2003			2002
Net loss		$	(2,425,000	)	$	(4,878,000	)	$	(3,452,000	)	$	(4,752,000	)
Other comprehensive loss:
Unrealized loss on securities available for sale		—			(4,000		)	—			(32,000		)
Total comprehensive loss		$	(2,425,000	)	$	(4,882,000	)	$	(3,452,000	)	$	(4,784,000	)

 

Note 5 – Asset Retirement Obligations

 

During 2003, the Company adopted SFAS No. 143, “Accounting for Asset Retirement Obligations” for recording future decommissioning costs related to its leased manufacturing and research facilities.  Under SFAS No. 143, a future retirement obligation is recorded at present value by discounting the Company’s estimated future asset retirement obligation using the Company’s estimated credit-adjusted borrowing rate.  The resultant capitalized costs are recorded as part of equipment and leasehold improvements and are amortized ratably over the term of the leased facilities.  The asset retirement obligation has been recorded in accrued expenses and will be adjusted to fair value over the remaining lease term as an accretion expense.  On November 1, 2002, the Company adopted SFAS No. 143 and recorded a liability for asset

 

8

 

retirement obligations of $383,000, increased net equipment and leasehold improvements by $72,000 and recognized a charge of $311,000 which is reported in the caption “Cumulative effect of change in accounting principle.”

 

Had the asset retirement obligations been recognized in previous periods as presented by SFAS No. 143, the Company’s net loss per share would have been as follows:

 

		Three Months Ended April 30,						Six Months Ended April 30,
		2003			2002			2003			2002
Net loss, as reported		$	(2,425,000	)	$	(4,878,000	)	$	(3,452,000	)	$	(4,752,000	)
Amortization and accretion expense		—			(8,000		)	—			(16,000		)
Net loss, as adjusted		$	(2,425,000	)	$	(4,886,000	)	$	(3,452,000	)	$	(4,768,000	)
Basic and diluted loss per share, as reported		$	(.24	)	$	(.48	)	$	(.34	)	$	(.47	)
Basic and diluted loss per share, as adjusted		$	(.24	)	$	(.48	)	$	(.34	)	$	(.47	)

 

Note 6 – Write-off of Licenses and Equipment

 

Results of operations for the three and six months ended April 30, 2002 include a charge of $2,714,000 to reflect the total write-off of abandoned licenses and related equipment associated with technology licensed from third parties for the development of the Company’s Apomate^TM technology platform. In 2001, the Company licensed additional technology and patent rights from a third party for the development of an improved version of its kit, or Hynic-Annexin V.  During the second quarter of 2002, the Company decided to exclusively pursue the development of its subsequent licensed Hynic-Annexin V technology and to write-off the prior technology.

 

Note 7 – Deferred Income Taxes

 

The Company continually reviews the adequacy of the valuation allowance of its net deferred tax assets in accordance with the provisions of SFAS No. 109.  The Company’s net deferred tax assets include substantial amounts of net operating loss and tax credit carryforwards. Failure to achieve forecasted taxable income would affect the ultimate realization of the net deferred tax assets.  There can be no assurance that in the future there would not be increased competition or other factors that may result in a decline in margins, loss of market share or technological obsolescence. In addition, the Company expects to incur significant expenses for the next several years for ongoing clinical trials and development of Hynic-Annexin V.  Due to these uncertainties, the Company recorded an additional valuation allowance of approximately $1.9 million during the three months ended April 30, 2002.

 

Note 8 – Commitments and Contingencies

 

In October 2002, Mentor Corporation (“Mentor”) filed suit in Los Angeles Superior Court against the Company alleging breach of the exclusive marketing and distribution agreement arising out of the Company’s newly initiated direct sales efforts for Prospera® Pd-103.  Mentor also alleges that the Company breached the agreement by marketing its Prospera® I-125 seeds while still subject to the agreement, for sales after the expiration of the agreement.  Mentor’s suit further alleges that the Company has misappropriated purported trade secrets and that the Company has engaged in unfair competition.  Mentor has sought unspecified monetary damages and injunctive relief.  In October 2002, Mentor was denied a temporary restraining order.  In November 2002, Mentor was denied a preliminary injunction, and in December 2002, Mentor lost a Motion for Reconsideration on the preliminary injunction.  In January 2003, the Company filed a responsive pleading, as well as counterclaims against

 

9

 

Mentor seeking monetary damages for breach of contract, misappropriation of confidential information and trade secrets, trade libel, intentional and negligent misrepresentation, unfair competition, and violation of the Lanham Act.

 

The Company believes that it has meritorious defenses against Mentor’s claims and intends to vigorously contest them. While it is not possible to predict the outcome of the lawsuit discussed above, the Company believes that costs associated with the lawsuit will not have a material adverse impact on its consolidated financial position or liquidity, but may be material to the consolidated results of operations of any one period.  The case is currently set for trial in March 2004.

 

The Company is also subject to other legal proceedings, claims and litigation arising in the ordinary course of business.  While the outcome of these matters is currently not determinable, management does not expect that the ultimate costs to resolve these matters will have a material adverse effect on the Company’s consolidated financial position, results of operations, or cash flows.

 

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

 

The following discussion and analysis provides information, which our management believes is relevant to an assessment and understanding of our financial condition and results of operations. The discussion should be read in conjunction with the Consolidated Financial Statements contained herein and the notes thereto. Certain statements contained in this Form 10-Q, including, without limitation, statements containing the words “believes”, “anticipates”, “estimates”, “expects”, “projections”, and words of similar import are forward looking as that term is defined by: (i) the Private Securities Litigation Reform Act of 1995 (the “1995 Act”) and (ii) releases issued by the Securities Exchange Commission or SEC. These statements are being made pursuant to the provisions of the 1995 Act and with the intention of obtaining the benefits of the “Safe Harbor” provisions of the 1995 Act. We caution that any forward looking statements made herein are not guarantees of future performance and that actual results may differ materially from those in such forward looking statements as a result of various factors, including, but not limited to, any risks detailed herein or detailed from time to time in our other filings with the SEC including our most recent report on Form 10-K. We are not undertaking any obligation to update publicly any forward-looking statements. Readers should not place undue reliance on these forward-looking statements.

 

Overview

 

We develop, produce, and sell innovative radioisotopic products, including brachytherapy seeds and radiopharmaceuticals, principally for the treatment and diagnosis of disease.  Since 1990, we have applied our expertise in radioisotopes to develop and market products for medical, environmental, research and industrial applications.

 

From 1998 to January 2003, our brachytherapy seeds were distributed under an exclusive agreement with Mentor Corporation (“Mentor”).  In January 2003, the agreement with Mentor terminated and we began to market and sell our brachytherapy products directly to health care providers.  Future revenues and gross profit relating to our brachytherapy products will depend on several factors, including our ability to successfully directly market and distribute our brachytherapy products and to successfully withstand pricing pressure from competition and price containment pressure from Medicare reimbursement limits for brachytherapy procedures.

 

In October 2000, we acquired Theseus Imaging Corporation, a developer of proprietary radiopharmaceuticals, to enhance the medical management of patients with cancer, heart disease or other medical conditions.  We expect to continue to incur significant clinical trial and development costs over

 

10

 

the next several years related to Hynic-Annexin V, our principal radiopharmaceutical product candidate, especially as we expand our clinical trials in Europe and, if approved by the FDA, initiate our clinical trials in the U.S. In addition, upon receipt of applicable approvals from regulatory agencies, we expect to incur substantial expenses in connection with the commercial launch of this product.

 

Results of Operations

 

Second Quarter of Fiscal 2003 Compared to Second Quarter of Fiscal 2002

 

Net sales.  Net sales decreased $2,053,000, or 41%, to $2,904,000 for the three months ended April 30, 2003 from $4,957,000 for the three months ended April 30, 2002.  Sales during the quarter ended April 30, 2003 were affected by the following:  (i) a decline in unit sales associated with the transition to the direct marketing and sale of our brachytherapy products upon the conclusion in January 2003 of our previous distribution agreement with Mentor, and (ii) although our average selling prices increased as a result of eliminating our primary distributor, the industry witnessed a significant reduction in average selling prices to end users of brachytherapy seeds as a result of a highly competitive pricing environment and price containment pressure arising from Medicare reimbursement limits.  Thus, although we captured the distributor margin overall average selling prices to end users of our brachytherapy products decreased significantly. Revenues from our non-therapeutic lines remained consistent between periods.

 

Gross profit.  Gross profit decreased $1,595,000, or 52%, to $1,492,000 for the three months ended April 30, 2003 from $3,087,000 for the three months ended April 30, 2002.  Gross profit as a percent of sales decreased from 62% to 51% during this period.  The decrease in gross profit as a percentage of sales was primarily due to reduced economies of scale associated with brachytherapy revenues due to a reduction in the volume of unit sales experienced as we transitioned to a direct sales initiative in January 2003 and a change in our product mix.

 

Selling, general and administrative expenses.  Selling, general and administrative (“SG&A”) expenses increased $1,391,000, or 85%, to $3,030,000 for the three months ended April 30, 2003 from $1,639,000 for the three months ended April 30, 2002. The increase is primarily attributed to the development of a direct sales and marketing force for our brachytherapy products and increased legal expenses associated with the Mentor litigation.

 

Research and development.  Research and development (“R&D”) expenses decreased $326,000, or 15%, to $1,813,000 for the three months ended April 30, 2003 from $2,139,000 for the three months ended April 30, 2002.  These costs primarily represent our continued investment in our Hynic-Annexin V product candidate. The decrease in research and development spending is primarily due to a decrease in manufacturing costs partially offset by increased R&D personnel and facility costs. All of our research and development costs are expensed as incurred. We anticipate incurring significant costs in the future as we initiate our clinical trials in the United States and expand our clinical trials in Europe.  Our R&D spending reflects our belief that to maintain our competitive position in a market characterized by rapid rates of technological advancement, we must continue to invest significant resources in new product development, as well as continue to enhance existing products.

 

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Write-off of licenses and equipment.  Results of operations for the three months ended April 30, 2002 include a charge of $2,714,000 to reflect the total write-off of abandoned licenses and related equipment associated with technology licensed from third parties for the development of our initial Apomate^TM technology platform. In 2001 we licensed additional technology and patent rights from a third party for the development of an improved version of our kit, or Hynic-Annexin V.  During the second quarter of 2002, we decided to exclusively pursue the development of our subsequent licensed Hynic-Annexin V technology and to write-off the prior technology.

 

Interest and other income, net.  Interest and other income increased $460,000, or 99%, to $926,000 for the three months ended April 30, 2003 from $466,000 for the three months ended April 30, 2002. This increase reflects a gain on sale of $600,000 resulting from the sale of our remaining shares of RadioMed Corporation, a privately held company, which was partially offset by lower interest income as a result of a general decline in the effective yield of our portfolio of marketable securities consistent with the general decline in interest rates during the period.

 

Provision for income taxes.   Results of operations for the three months ended April 30, 2002 included a provision for income taxes of $1,939,000, whereas we did not recognize a benefit for the loss during the three months ended January 31, 2003.  Due to the uncertainty of our ability to recognize the future benefit of certain deferred tax assets, we recorded a valuation allowance of approximately $1.9 million in the quarter ended April 30, 2002 and have not recorded any additional income tax benefits for losses incurred since April 30, 2002.

 

Six Months Ended April 30, 2003 Compared to Six Months Ended April 30, 2002

 

Net sales.  Net sales decreased $1,848,000, or 19%, to $8,045,000 for the six months ended April 30, 2003 from $9,893,000 for the six months ended April 30, 2002.  The decrease in net sales was due to the transition associated with directly marketing and selling our brachytherapy products upon the conclusion in January 2003 of our previous distribution agreement with Mentor. Our brachytherapy product sales accounted for approximately 73% of our revenues for the six months ended April 30, 2003.  Revenues from our non-therapeutic lines remained consistent between periods.

 

Gross profit.  Gross profit decreased $1,462,000, or 23%, to $4,790,000 for the six months ended April 30, 2003 from $6,252,000 for the six months ended April 30, 2002.  Gross profit as a percent of sales decreased from 63% to 60% during this period.  The decrease in gross profit as a percentage of sales was primarily due to reduced economies of scale in our fiscal second quarter associated with brachytherapy revenues due to a reduction in unit volume as we transitioned to a direct sales initiative in January 2003 and a change in our product mix.

 

Selling, general and administrative expenses.  SG&A expenses increased $2,581,000, or 90%, to $5,445,000 for the six months ended April 30, 2003 from $2,864,000 for the six months ended April 30, 2002. The increase is primarily attributed to the development of a direct sales and marketing force for our brachytherapy products and increased legal expenses associated with the Mentor litigation.

 

Research and development.  Research and development costs decreased $599,000, or 14% to $3,770,000 for the six months ended April 30, 2003 from $4,369,000 for the six months ended April 30, 2002.  These costs primarily represent our continued investment in our Hynic-Annexin V product candidate. The decrease in research and development spending is primarily due to a decrease in  manufacturing costs partially offset by increased R&D personnel costs and increased R&D facility costs. All of our research and development cost are expensed as incurred. We anticipate incurring significant costs in the future as we initiate our clinical trials in the Unites States and expand our clinical trials in

 

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Europe.  Our R&D spending reflects our belief that to maintain our competitive position in a market characterized by rapid rates of technological advancement, we must continue to invest significant resources in new product development, as well as continue to enhance existing products.

 

Write-off of licenses and equipment.  Results of operations for the six months ended April 30, 2002 include a charge of $2,714,000 to reflect the total write-off of abandoned licenses and related equipment associated with technology licensed from third parties for the development of our initial Apomate^TM technology platform. In 2001 we licensed additional technology and patent rights from a third party for the development of an improved version of our kit, or Hynic-Annexin V.  During the second quarter of 2002, we decided to exclusively pursue the development of our subsequent licensed Hynic-Annexin V technology and to write-off the prior technology.

 

Interest and other income.  Interest and other income increased $328,000, or 34%, to $1,284,000 for the six months ended April 30, 2003 from $956,000 for the six months ended April 30, 2002. This increase reflects a gain on sale of approximately $600,000 resulting from the sale of our remaining shares of RadioMed Corporation, a privately held company, which was partially offset by lower interest income as a result of a general decline in the effective yield of our portfolio of marketable securities consistent with the general decline in interest rates in the period.

 

Provision for income taxes.   Results of operations for the six months ended April 30, 2002 included a provision for income taxes of $2,013,000, whereas we did not recognize a benefit for the loss during the six months ended April 30, 2003.  Due to the uncertainty of our ability to recognize the future benefit of additional deferred tax assets, we recorded a valuation allowance of approximately $2.0 million in the quarter ended April 30, 2002 and have not recorded any additional income tax benefits for losses incurred since April 30, 2002.

 

Critical Accounting Policies

 

The preparation of financial statements and related disclosures in conformity with generally accepted accounting principles in the United States of America requires management to make judgments, assumptions and estimates that affect the amounts reported in the Consolidated Financial Statements and accompanying notes. Note 1 to the Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended October 31, 2002, describes the significant accounting policies and methods used in the preparation of the Consolidated Financial Statements. Estimates are used for, but not limited to, the accounting for revenue recognition, allowance for doubtful accounts, goodwill and long-lived asset impairments, loss contingencies, and taxes. Actual results could differ substantially from these estimates. The following critical accounting policies are impacted significantly by judgments, assumptions and estimates used in the preparation of the Consolidated Financial Statements.

 

Revenue Recognition

 

We apply the provisions of SEC Staff Accounting Bulletin (“SAB”) No. 101, “Revenue Recognition in Financial Statements,” which provides guidance on the recognition, presentation and disclosure of revenue in financial statements.  SAB No. 101 outlines the basic criteria that must be met to recognize revenue and provides guidance for the disclosure of revenue recognition policies.  In general, we recognize revenue related to our product sales when (i) persuasive evidence of an arrangement exists, (ii) delivery has occurred, (iii) the price is fixed or determinable, and (iv) collectibility is reasonably assured.

 

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Allowance for Doubtful Accounts

 

The allowance for doubtful accounts is based on our assessment of the collectibility of specific customer accounts and the aging of the accounts receivable. If there was a deterioration of a major customer’s credit worthiness or actual defaults are higher than our historical experience, our estimates of the recoverability of amounts due us could be overstated which could have an adverse impact on our financial results.

 

Goodwill

 

We perform goodwill impairment tests on an annual basis and between annual tests in certain circumstances. In response to changes in industry and market conditions, we may strategically realign our resources and consider restructuring, disposing of, or otherwise exiting businesses, which could result in an impairment of goodwill.

 

Impairment of Long-lived Assets

 

We assess the impairment of long-lived assets, which include equipment and leasehold improvements and identifiable intangible assets, whenever events and circumstances indicate that such assets might be impaired.  In the event the expected undiscounted future cash flow attributable to the asset is less than the carrying amount of the asset, an impairment loss equal to the excess of the asset’s carrying value over its fair value is recorded.

 

Legal Contingencies

 

We record liabilities related to pending litigation when an unfavorable outcome is probable and we can reasonably estimate the amount of the loss.

 

Deferred Taxes

 

We account for income taxes using the liability method. Deferred taxes are determined based on the differences between the financial statement and tax bases of assets and liabilities, using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to the amounts expected to be realized.

 

Liquidity and Capital Resources

 

To date, our short-term liquidity needs have generally consisted of operating capital to finance growth in inventories, trade accounts receivable, new product research and development, capital expenditures and strategic investments in related businesses.  We have satisfied these needs primarily through a combination of cash generated by operations, public offerings and from private placements of our common stock.  We do not currently have a line of credit or similar arrangements with a bank.

 

At April 30, 2003, we had cash and investments in marketable securities aggregating approximately $54.0 million and working capital of $32.0 million. Working capital does not include $21.3 million of our marketable securities that are classified as non-current assets since the maturities of these marketable debt instruments are beyond a one year period.

 

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For the six months ended April 30, 2003, net cash used in operating activities was approximately $1.9 million compared to net cash provided by operating activities of $0.6 million for the prior year period. Net cash provided by investing activities totaled approximately $1.5 million during the six months ended April 30, 2003, compared to net cash used in investing activities of $1.2 million for the prior year period.

 

During the six months ended April 30, 2003, we received approximately $84,000 from the exercise of stock options and the sale of shares under our employee stock purchase plan compared to $109,000 for the same period in 2002.  Proceeds from the exercise of stock options, employee stock purchase plan, and their related tax benefits will vary from period to period based upon, among other factors, fluctuations in the market value of our stock relative to the exercise price of such options.

 

We are authorized to purchase up to $10 million of our common stock on the open market under our share repurchase program.  During the three months ended April 30, 2003, we purchased 19,000 shares of our common stock at a total cost of $129,000.

 

The primary objectives for our investment portfolio are liquidity and safety of principal.  Investments are made to achieve the highest rate of return, consistent with these two objectives.  We invest excess cash in securities with varying maturities to meet projected cash needs.

 

We believe our current cash and marketable securities and anticipated cash flow from operations will be sufficient to support our operations and planned expansion for the foreseeable future.  However, the amount of capital that we will need in the future will depend on many factors including:

 

•      costs related to research, development, clinical trials, license fees, royalty obligations, regulatory approvals and commercialization relating to our Hynic-Annexin V product candidate and other product candidates

 

•      the further development of a sales and marketing force for our brachytherapy seed products as we transition from our exclusive distribution agreement with Mentor to direct sales and marketing

 

•      levels of sales and marketing that will be required to launch new products and achieve and maintain a competitive position in the marketplace for both existing and new products

 

•      market acceptance of our products

 

•      levels of inventory and accounts receivable that we maintain

 

•      competitors’ responses to our products

 

•    level of capital expenditures

 

•      acquisition and/or development of complementary businesses, technologies or products

 

We anticipate incurring significant expenses with respect to our Hynic-Annexin V product candidate over the next several years for clinical trials and development costs. Significant milestone payments to third parties are payable throughout the life of the contracts associated with our licenses of patent rights of technology related to our Hynic-Annexin V product candidate. We anticipate that available cash will provide sufficient funds to cover the above costs.  In addition, the costs related to Hynic-Annexin V may be reduced if we enter into strategic partnerships related to Hynic-Annexin V.

 

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We lease facilities and equipment under non-cancelable operating lease agreements. Future minimum lease payments are subject to annual adjustment for increases in the Consumer Price Index. Future minimum lease payments under all operating leases in each of the next three years are $654,000, $308,000 and $14,000, respectively.

 

In addition we have minimum commitments for various contract services with unrelated parties that are provided over a one to three year period, totaling approximately $1.4 million. We have contractual rights to terminate our payment obligations on approximately $0.6 million of such agreements with 30 to 90 day notification.

 

Future capital requirements will also depend on the extent to which we acquire or invest in businesses, products and technologies.  If we should require additional financing due to unanticipated developments, additional financing may not be available when needed or, if available, we may not be able to obtain this financing on terms favorable to us.  Insufficient funds may require us to delay, scale back or eliminate some or all of our research and development programs.  If additional funds are raised by issuing equity securities, dilution to existing stockholders would result.

 

Recent Accounting Pronouncements

 

In July 2002, the FASB issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.” This statement nullifies Emerging Issues Task Force (“EITF”) Issue No.  94-3,  “Liability  Recognition for Certain  Employee  Termination  Benefits  and  Other Costs to Exit an Activity  (including   Certain   Costs  Incurred  in  a  Restructuring).” This statement requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. SFAS No. 146 is to be applied prospectively to exit or disposal activities initiated after December 31, 2002. Adoption of this statement did not have a material impact on our consolidated financial statements.

 

In February 2003, FASB issued EITF Issue No. 00-21, “Revenue Arrangements with Multiple Deliverables.” EITF Issue No. 00-21 requires revenue arrangements with multiple deliverables to be divided into separate units of accounting. If the deliverables in the arrangement meet certain criteria, arrangement consideration should be allocated among the separate units of accounting based on their relative fair values. Applicable revenue recognition criteria should be considered separately for separate units of accounting. The guidance in EITF Issue No. 00-21 is effective for revenue arrangements entered into in fiscal periods beginning after June 15, 2003.  We are currently in the process of reviewing EITF Issue No. 00-21.

 

Item 3.    Quantitative and Qualitative Disclosures About Market Risk

 

Information about market risks for the three months ended April 30, 2003 does not differ materially from that discussed under Item 7A of the registrant’s Annual Report on Form 10-K for the fiscal year ended October 31, 2002.

 

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Item 4.    Controls and Procedures

 

a.             Evaluation of disclosure controls and procedures.

 

Within the 90-day period prior to the filing of this report, an evaluation was carried out under the supervision and with the participation of the Company’s management, including the Chief Executive Officer (“CEO”) and the Chief Financial Officer (“CFO”), of the effectiveness of our disclosure controls and procedures.  Based on that evaluation, the CEO and CFO have concluded that the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in reports that it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.

 

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 evaluation.  Since no significant deficiencies or material weaknesses were discovered during such the evaluation, no corrective actions were taken.

 

PART II – OTHER INFORMATION

 

We were not required to report the information pursuant to Items 1 through 6 of Part II of Form 10-Q except as follows:

 

Item 4.    Submission of Matters to a Vote of Security Holders

 

On March 28, 2003, we held our 2003 Annual Meeting of Stockholders.  The following persons were elected as directors to hold office until the 2004 Annual Meeting of Stockholders: Irwin J. Gruverman, L. Michael Cutrer, Dr. Jonathan P. Gertler, Dr. Allan M. Green, Mitchell H. Saranow and Dr. Gary N. Wilner.  The number of shares cast for, withheld and abstained with respect to each of the nominees were as follows:

 

 

The stockholders voted to approve our 2003 Non-Employee Director’s Equity Compensation Plan.  A total of 9,218,991 shares were cast for the adoption of the proposal, 796,128 shares were cast against this proposal, and 28,312 shares abstained.

 

The stockholders also voted to approve the ratification of the selection of PricewaterhouseCoopers LLP as our independent accountants for the fiscal year ending October 31, 2003.  A total of 9,801,010 shares were cast for the adoption of the proposal, 231,601 shares were cast against this proposal, and 10,820 shares abstained.

 

There were no broker non-votes on either matter.

 

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Item 6.    Exhibits and Reports on Form 8-K

 

(a)               Exhibits.

 

Exhibit No.		Title
99.1		Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
99.2		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.

 

No reports on Form 8-K have been filed during the quarter for which this report is filed.

 

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.

 

 

		NORTH AMERICAN SCIENTIFIC, INC.
May 27, 2003		By:	/s/ L. Michael Cutrer
			Name:	L. Michael Cutrer
			Title:	President and
				Chief Executive Officer
				(Principal Executive Officer)
May 27, 2003		By:	/s/ Alan I. Edrick
			Name:	Alan I. Edrick
			Title:	Senior Vice President and Chief Financial Officer
				(Principal Financial and Accounting Officer)

 

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CERTIFICATIONS PURSUANT TO

SECTION 302 OF THE SARBANES-OXLEY ACT OF 2002

 

I, L. Michael Cutrer, certify that:

 

1.		I have reviewed this quarterly report on Form 10-Q of North American Scientific, 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;
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 functions):
		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 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.

 

Date: May 27, 2003
/s/ L. Michael Cutrer
L. Michael Cutrer
President and Chief Executive Officer

 

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I, Alan I. Edrick, certify that:

 

1.		I have reviewed this quarterly report on Form 10-Q of North American Scientific, 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;
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 functions):
		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 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.

 

Date: May 27, 2003
/s/ Alan I. Edrick
Alan I. Edrick
Senior Vice President and Chief Financial Officer

 

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