UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
[X] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934 For the fiscal year ended May 31, 2003
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the transition period from _____ to _____
Commission File No. 0-18105
VASOMEDICAL, INC.
(Name of registrant as specified in its charter)
Delaware 11-2871434
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
180 Linden Avenue, Westbury, New York 11590
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (516) 997-4600
Securities registered under Section 12(b) of the Act: None
Securities registered under Section 12(g) of the Act:
Common Stock, $.001 par value
(Title of Class)
Indicate by a check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [ X ] No [ ]
Indicate by a check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [ X ]
The aggregate market value of the voting stock held by non-affiliates of
the registrant as of August 20, 2003, based on the average price on that date,
was $50,082,000. At August 20, 2003, the number of shares outstanding of the
issuer's common stock was 57,827,690.
DOCUMENTS INCORPORATED BY REFERENCE
Part III - (Items 10, 11, 12 and 13). Registrant's definitive proxy
statement to be filed pursuant to Regulation 14A to the Securities Exchange Act
of 1934.
PART I
ITEM ONE - BUSINESS
Except for historical information contained herein, the matters discussed
are forward looking statements that involve risks and uncertainties. When used
herein, words such as "anticipates", "believes", "estimates", "expects" and
"intends" and similar expressions, as they relate to the Company or its
management, identify forward-looking statements. Such forward-looking statements
are based on the beliefs of the Company's management, as well as assumptions
made by and information currently available to the Company's management. Among
the factors that could cause actual results to differ materially are the
following: the effect of the dramatic changes taking place in the healthcare
environment; the impact of competitive procedures and products and their
pricing; medical insurance reimbursement policies; unexpected manufacturing
problems; unforeseen difficulties and delays in the conduct of clinical trials
and other product development programs; the actions of regulatory authorities
and third-party payers in the United States and overseas; uncertainties about
the acceptance of a novel therapeutic modality by the medical community; and the
risk factors reported from time to time in the Company's SEC reports. The
Company undertakes no obligation to update forward-looking statements as a
result of future events or developments.
General Overview
Vasomedical, Inc. (the Company), incorporated in Delaware in July 1987, is
primarily engaged in designing, manufacturing, marketing and supporting EECP
external counterpulsation systems based on the Company's proprietary technology
currently indicated for use in cases of angina (i.e., chest pain), cardiogenic
shock, acute myocardial infarction (i.e., heart attack) and congestive heart
failure (CHF). The Company is also actively engaged in research to determine the
potential benefits of EECP therapy in the setting of acute coronary syndromes,
as well as in the management of other major vascular disease states, including
congestive heart failure. EECP is a non-invasive, outpatient therapy for the
treatment of diseases of the cardiovascular system. The therapy serves to
increase circulation in areas of the heart with less than adequate blood supply
and may restore systemic vascular function. The Company provides hospitals,
clinics and private practices with EECP equipment, treatment guidance, and a
staff training and maintenance program designed to provide optimal patient
outcomes. EECP is a registered trademark for Vasomedical's enhanced external
counterpulsation systems.
EECP therapy is currently reimbursed by Medicare and numerous other
commercial third-party payers for the treatment of refractory angina. The
reimbursement rate for a full course of 35 one-hour treatments ranges from
$6,000 to $10,500. Although Medicare has not modified its national coverage
policy for EECP therapy to specifically include CHF patients, the Company
believes, based upon data published from the International EECP Patient Registry
(IEPR), that there exists a significant subset of patients with CHF that also
have disabling angina that would qualify for Medicare reimbursement under its
present coverage policy.
The EECP External Counterpulsation Systems
General Discussion
Cardiovascular disease (CVD) is the leading cause of death in the world and
is among the top three diseases in terms of healthcare spending in nearly every
country. CVD claimed approximately 950,000 lives in the United States in 2000
and was responsible for 1 of every 2.5 deaths. The American Heart Association
(AHA) reports in its 2003 Heart and Stroke Statistical Update that, if high
blood pressure is included, approximately 62 million Americans suffer from some
form of cardiovascular disease. Among these, 12.9 million have coronary artery
disease, 6.6 million of whom suffer from angina pectoris, a painful and often
debilitating complication caused by obstruction of the arteries that supply
blood to the myocardium or heart muscle, with an additional 400,000 new cases
seen annually. Medications, including vasodilators, are often prescribed to
increase blood flow to the coronary arteries. When drugs fail or cease to
correct the problem, invasive revascularization procedures such as angioplasty
and coronary stent placement, as well as coronary artery bypass grafting (CABG)
are employed. Despite the success of these procedures in lowering the death rate
from cardiovascular disease and allowing many to live longer lives, restenosis
or reocclusion of the affected vessels remains a problem. Restenosis rates
currently reported in the literature for angioplasty and stenting range from 18%
- - 50%. Half of all vein grafts in coronary artery bypass procedures exhibit
localized or diffuse narrowings within approximately ten years.
CHF is a complication of many serious diseases in which the heart loses its
full pumping capacity, causing blood to back up into other organs, especially
the lungs and liver. The condition affects both sexes and is most common in
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people over age 50. Symptoms include shortness of breath, fatigue, swelling of
the abdomen, legs and ankles, rapid or irregular heartbeat, low blood pressure
and enlargement of the liver. Causes range from high blood pressure, heart-
valve disease, heart attack, coronary artery disease, heartbeat irregularities,
severe lung disease such as emphysema, congenital heart disease, cardiomyopathy,
hyperthyroidism and severe anemia.
CHF is treated with medication and, sometimes, surgery on heart valves or
the coronary arteries and, in certain severe cases, heart transplants. Left
ventricular assist devices (LVADs) and the use of cardiac resynchronization and
implantable defibrillators continue to advance. Still, no consensus therapy
currently exists for CHF and patients must currently suffer their symptoms
chronically and have a reduced life expectancy.
According to 2003 AHA data, 2.4 million men and 2.5 million women in the US
have the condition. About 550,000 new cases of the disease occur each year.
Deaths caused by the disease increased 148% from 1979 to 2000. The prevalence of
the disease is growing rapidly as a result of the aging of the population and
the improved survival rate of people after heart attacks. Also, because the
condition frequently entails visits to the emergency room and in- patient
treatment, two-thirds of all hospitalizations for people over age 65 are due to
CHF. In addition to careful outpatient care and monitoring, the economic burden
of heart failure is enormous. A discussion of this subject in Clinical
Cardiology (March 2000) estimated that heart failure management costs in 1999,
for the US alone, were $56 billion. Worldwide, 22 million people have CHF and
there are over 1 million new cases of CHF each year. Clearly, a treatment that
can reduce the incidence of heart failure and alleviate some of this burden
would be quickly adopted.
Given the pressing need to identify new and effective methods to treat CHF,
the Company has been actively focusing clinical development resources on CHF.
Heart failure offers a good strategic fit with the Company's current angina
business and offers an equal or better market opportunity. Unmet clinical needs
in CHF are greater than those for angina, as there are no consensus therapies,
invasive or otherwise, beyond medical management for the condition. It is
noteworthy that the IEPR currently shows that approximately one- third of
patients treated also have a history of CHF and have demonstrated positive
outcomes from EECP therapy.
The Systems
The EECP therapy systems, models MC2 and TS3 (collectively, the system(s)),
are advanced treatment systems utilizing fundamental hemodynamic principles to
relieve angina pectoris. Treatment is administered to patients on an outpatient
basis usually in daily one-hour sessions, 5 days per week over seven weeks for a
total of 35 treatments.
During EECP therapy, the patient lies on a bed while wearing three sets of
inflatable pressure cuffs, resembling oversized blood pressure cuffs, on the
calves, the upper and lower thighs and buttocks. The cuffs inflate sequentially
- -- via computer-interpreted ECG signals -- starting from the calves and
proceeding upward during the resting phase of each heartbeat (diastole). When
the heart pumps (systole), all three cuffs instantaneously deflate. This
sequential "squeezing" of the legs creates a pressure wave that forces blood
from the legs to the heart. To coordinate the inflation and deflation of the
cuffs with the beating heart, the heart rate and rhythm are monitored
constantly. Precise timing means that each wave of blood is delivered to the
heart when it will do the most good. This surge of circulation insures that the
heart does not have to work as hard to pump large amounts of blood through the
body, and that more blood is forced into the coronary arteries which supply
energy to the heart muscle or myocardium.
While the precise mechanism of action remains unknown, there is strong
hypothetical evidence to suggest that EECP triggers a neurohormonal response
that induces the production of growth factors and dilates existing blood
vessels, thus fostering the recruitment of collateral blood vessels. These tiny
collateral vessels, it is theorized, then bypass current blockages and feed
blood to areas of the heart that are receiving an inadequate supply.
Circulation improvement is further induced or reinforced by the fact that a
course of EECP treatment represents sustained and moderately vigorous exercise,
even though passive in nature, that is much more than the often sedentary
patient has been able to attempt previously.
Patients usually begin to experience symptomatic relief of angina after 15
or 20 hours of a 35-hour treatment regimen. Positive effects are sustained
between treatments and usually persist years after completion of a full course
of therapy. Data reported in the April 2000 issue of Clinical Cardiology showed
a five-year survival rate for those who respond to EECP therapy of 88%, a rate
similar to those seen in contemporary surgical bypass and angioplasty trials,
despite the fact that many of the patients who underwent EECP therapy had
already failed previous attempts at revascularization. In addition, data
collected by the IEPR at the University of Pittsburgh Graduate School of Public
Health points to sustained lowering of anginal severity and frequency of attacks
at six, twelve and twenty-four months post-treatment.
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In February 1995, the Company received 510(k) clearance to market the
second-generation version of its EECP therapy system, the MC2, which
incorporated a number of technological improvements over the original system. In
addition, in December 2000, the Company received 510(k) clearance to market its
third generation system, the TS3. The FDA's clearance in these cases was for the
use of EECP therapy in the treatment of patients suffering from stable or
unstable angina pectoris, acute myocardial infarction and cardiogenic shock. In
June 2002, the FDA granted 510(k) market clearance for an upgraded TS3, which
incorporated the Company's patent-pending CHF treatment and oxygen saturation
monitoring technologies, and provided for a new indication for the use of EECP
in CHF, which applied to all present models of the Company's EECP systems.
Clinical Studies
Early experiments with counterpulsation at Harvard in the 1950s
demonstrated that this technique markedly reduces the workload, and thus oxygen
consumption, of the left ventricle. This basic effect has been demonstrated over
the past forty years in both animal experiments and in patients. The clinical
benefits of external counterpulsation were not consistently achieved in early
studies because the equipment used then lacked some of the features found in the
current EECP systems, such as the computerized electrocardiographic gating, that
makes sequential cuff inflation possible. As the technology improved, however,
it became apparent that both internal (i.e. intra-aortic balloon pumping) and
external forms of counterpulsation were capable of improving survival in
patients with cardiogenic shock following myocardial infarction. Later, in the
1980s, Dr. Zheng and colleagues in China reported on their extensive experience
in treating angina using the newly developed "enhanced" sequentially inflating
EECP device that incorporated a third cuff for the buttocks. Not only did a
course of treatment with EECP reduce the frequency and severity of anginal
symptoms during normal daily functions and also during exercise, but the
improvements were sustained for years after therapy.
These results prompted a group of investigators at the State University of
New York at Stony Brook (Stony Brook) to undertake a number of open studies with
EECP between 1989 and 1996 to reproduce the Chinese results, using both
subjective and objective endpoints. These studies, though open and
non-randomized, showed statistical improvement in exercise tolerance by patients
as evidenced by thallium-stress testing and partial or complete resolution of
coronary perfusion defects as evidenced by radionuclide imaging studies. All of
these results have been reported in the literature and support the assertion
that EECP therapy is an effective and durable treatment for patients suffering
from chronic angina pectoris.
In 1995, the Company began a large randomized, controlled and
double-blinded multicenter clinical study (MUST-EECP) at four leading university
hospitals in the United States to confirm the patient benefits observed in the
open studies conducted at Stony Brook and to provide definitive scientific
evidence of EECP therapy's effectiveness. Initial participating sites included
the University of California San Francisco, Columbia University College of
Physicians & Surgeons at the Columbia-Presbyterian Medical Center in New York,
Beth Israel Deaconess Hospital, a teaching affiliate of Harvard Medical School,
and the Yale University School of Medicine. These institutions were later joined
by Loyola University, the University of Pittsburgh and Grant/Riverside Methodist
Hospitals. MUST-EECP was completed in July 1997 and the results presented at the
annual meetings of the American Heart Association in November 1997 and the
American College of Cardiology in March 1998. The results of MUST-EECP were
published in the Journal of the American College of Cardiology (JACC), a major
peer- review medical journal, in June 1999.
This 139 patient study, which included a sham-EECP control group, showed
that EECP therapy was a safe and effective treatment option for patients
suffering from angina pectoris, including those on maximal medication and for
whom invasive revascularization procedures were no longer an option. The results
of the MUST-EECP study confirmed the clinical benefits described in earlier open
trials, namely a decline in anginal frequency, an increase in the ability to
exercise and a decrease in exercise-induced signs of myocardial ischemia. Data
collected by the IEPR at the University of Pittsburgh Graduate School of Public
Health closely mirror the results seen in the MUST-EECP trial.
In fiscal 1999, the Company completed a quality-of-life study with EECP in
the same institutions and with the same patients that participated in MUST-EECP.
Two highly regarded standardized means of measurement were used to gauge changes
in patients outlook and ability to participate in normal daily living during the
treatment phase and for up to 12 months after treatment. Results of this study,
which have been presented at major scientific meetings and published in the
January 2002 Journal of Investigative Medicine, show that the group of patients
receiving EECP enjoyed significantly improved aspects of health-related quality
of life compared to those who received a sham treatment.
4
As part of its program to expand the therapy's indications for use beyond
the treatment of angina, the Company applied for and received FDA approval in
April 1998 to study, under an Investigational Device Exemption (IDE) protocol,
the application of EECP in the treatment of CHF. A 32-patient feasibility study
was conducted simultaneously at the University of Pittsburgh, the University of
California San Francisco and the Grant/Riverside Methodist Hospitals in
Columbus, Ohio. The results of this study were presented at the 49th Scientific
Sessions of the American College of Cardiology in March 2000 and the Heart
Failure Society of America's Annual Meeting in September 2000 and were published
in the July/August 2002 issue of Congestive Heart Failure. This study concluded
that EECP therapy increased functional capacity of the patients, was beneficial
to left ventricular function and portends to be a useful adjunct to current
medical therapy in heart failure patients.
In summer 2000, an IDE supplement to proceed with a pivotal study to
demonstrate the efficacy of EECP therapy in most types of heart failure patients
was approved. This study, known as PEECH (Prospective Evaluation of EECP in
Congestive Heart Failure), began patient enrollment in March 2001 and enrollment
is expected to be complete by the end of calendar 2003. The PEECH trial, which
presently involves nearly thirty centers and was designed to enroll 180
patients, will evaluate improvements in exercise capacity and quality of life,
as well as the reduction in the need for certain medications that CHF patients
are typically prescribed. Centers participating in the PEECH trial include,
among others, the Cleveland Clinic, Mayo Clinic, Scripps Clinic, Thomas
Jefferson University Hospital, University of North Carolina at Chapel Hill, The
Minnesota Heart Failure Consortium, Advocate Christ Hospital, Hull Infirmary
(UK), the University of California at San Diego Medical Center, the University
of Pittsburgh Medical Center and the Cardiovascular Research Institute. The
510(k) clearance for CHF granted in June 2002 obviated the need to continue this
trial for regulatory reasons. However, it is the intention of the Company to use
the expected positive clinical outcomes of this trial to establish the clinical
validation of EECP as a treatment for CHF and to obtain Medicare and other
third-party reimbursement for this indication.
The IEPR at the University of Pittsburgh Graduate School of Public Health
was established in January 1998 to track the outcomes of patients who have
undergone EECP therapy. More than one hundred centers have participated in the
registry and data from 5,000 patient records has been entered. Phase 2 of the
IEPR, planned for an additional 2,500 patients, began enrollment in January 2002
and incorporates sub-studies that are examining treatment beyond 35 hours of
treatment, where needed, the presence of protein in the urine of type 2 diabetic
patients as a predictor of response to EECP, the effects on peripheral vascular
disease, and the effects of sexual function in men. The IEPR is a vital source
of information about the effectiveness of EECP in a real-world environment for
the medical community at large. For this reason, the Company will continue to
provide an ongoing grant to fund the registry to publicize data that assists
clinicians in delivering optimal care to patients. Data from the IEPR show that
patients continue to receive dramatic benefit at six, twelve and twenty-four
months following completion of their course of EECP therapy.
Over the last several years, the Company's clinical bibliography has
expanded to include numerous publications in major peer-review journals, as well
as abstracts presented a major medical conferences. Notable among these studies
are several discussing the neurohumoral effects of EECP therapy including
increases in the levels of nitric oxide, a potent vasodilator and decreases in
levels of endothelin a vasoconstrictor as well as the release of certain growth
factors.
The Company's Plans
The Company's short- and long-term plans are to:
(a) Enlarge the market opportunity, short and long-term, by (i) advancing
the progress of marketplace acceptance of EECP as a common treatment
for the early and mid-stage (Canadian Class I and II) angina
populations and as a viable treatment modality for CHF (principally
the chronic patient with NYHA Class II and III) and, (ii) increasing
the reimbursed patient base for the existing angina and CHF
indications, (iii) continue to drive the clinical validation process
for acceptance of EECP as a primary or complimentary therapy for
congestive heart failure, (iv) renew the exposure of EECP as an
already approved therapy for acute coronary conditions, such as
myocardial infarction and cardiogenic shock, and (v) investigate the
possible applications of EECP therapy in diabetes disease management,
and peripheral vascular and cerebrovascular conditions.
(b) Continue the development of campaigns to market the benefits of EECP
therapy directly to clinicians, third-party payers and patients.
(c) Continue the development of EECP in international markets, principally
through the establishment of a distribution network.
(d) Continue to establish and support academic reference centers in the
United States and overseas in order to accelerate the growth and
prestige of EECP therapy and to increase the number and diversity of
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clinical and mode-of-action studies, as well as the number of
presentations, publications, speakers and advocates.
(e) Continue product development efforts to improve the EECP system and
expand its intellectual property estate by filing for additional
patents in the United States and other countries.
(f) Engage in educational campaigns for providers and medical directors of
third party insurers designed to highlight the cost-effectiveness and
quality-of-life advantages of EECP therapy in order to broaden
coverage policies and process claims more rapidly for EECP services.
(g) Complete the PEECH clinical trial, publish the results in a major
peer-review medical journal and submit data to insurers, including
Medicare, for favorable coverage policies.
(h) Pursue possible investments in creative partnerships with others who
have distinctive competencies or delivery capabilities for serving the
cardiovascular and disease management marketplace.
(i) Continue to provide an ongoing grant to fund the International EECP
Patient Registry at the University of Pittsburgh Graduate School of
Public Health to publicize key information relating to patient
outcomes.
(j) Launch the Company's new TS4 system at the Transcatheter
Cardiovascular Therapeutics (TCT) and Heart Failure Society of America
meetings in September 2003.
Sales and Marketing
Domestic Operations
The Company sells its EECP systems to treatment providers in the United
States through a direct sales force that is supported by an in-house service
organization. The Company's sales force is comprised of approximately twenty
sales representatives, including management, as well as four independent sales
agents.
The efforts of the Company's sales organization are further supported by a
field-based staff of clinical educators who are responsible for the onsite
training of physicians and therapists as new centers are established. Training
generally takes three days. These centers are closely monitored and their
medical charts reviewed for several weeks following the initial training of the
center's clinicians to ensure treatment guidelines are being appropriately
followed. This clinical applications group is also responsible for training and
certification of new personnel at each site, as well as for updating providers
on new clinical developments relating to EECP therapy.
The Company expects to focus more intently on sales to National Accounts.
The Company plans to continue developing its relationships with such major U.S.
hospital groups as Tenet Healthcare, Kaiser Permanente, Health South, Columbia
HCA and with other cardiac care operations that have plans for nationwide
expansion. The Company has entered into agreements with three group purchasing
organizations: Amerinet, Magnet and MedAxiom. The impact upon our revenues and
operating results relating to the agreements with the three group purchasing
organizations have not been material to date.
Vasomedical's continuing transformation to a more commercial, market-driven
company will be reflected in its marketing activities planned for 2004 to
heighten awareness among clinicians, third-party payers and patients. Such
activities are expected to include journal advertising, publication of
EECP-related newsletters, support of physician education and physician outreach
programs, exhibition at national, international and regional medical
conferences, as well as sponsorship of seminars at professional association
meetings. All of these programs are designed to support the Company's field
sales organization. Additional Company marketing activities include supporting
direct-to-patient marketing campaigns to individuals suffering from angina and
other heart failure related symptoms as well as creating awareness among
third-party payers to the benefits of EECP for patients suffering from heart
failure as well as angina.
The Company employs service technicians responsible for the repair and
maintenance of EECP systems and, in many instances, on-site training of a
customer's biomedical engineering personnel. The Company provides a one-year
product warranty that includes parts and labor. The Company offers post-warranty
service to its customers under annual service contracts or on a fee-for-service
basis.
International Operations
One of the Company's key objectives has been to appoint distributors in
exchange for exclusive marketing rights to EECP in their respective countries.
The Company currently has distribution agreements for Canada, Europe (United
Kingdom, Italy, Germany, Sweden, Denmark, Netherlands, Greece, Belgium, Ireland,
Turkey, Romania) the Middle East (Israel, Saudi Arabia, Egypt, Jordan, Iran,
United Arab Emirates, Syria, Kuwait, Lebanon), Russia, India, Pakistan, the
Caribbean Basin and the Far East (Japan, Malaysia, Singapore, Taiwan, Thailand,
Philippines, Indonesia, Burma, Viet Nam, Laos, Cambodia). Each distribution
6
agreement contains a number of requirements that must be met for the distributor
to retain exclusivity, including minimum performance standards. In most cases,
distributors must assist the Company either to obtain an FDA-equivalent
marketing clearance or to establish confirmation clinical evaluations conducted
by local opinion leaders in cardiology. Each distributor is responsible for
obtaining any required approvals and maintaining an infrastructure to provide
post-sales support, including clinical training and product maintenance
services. In July 2000, the Company received its medical device license to
market its EECP system in Canada and, in November 2002, the Company received the
authorization to apply the CE mark for its TS3 system. Foreign regulatory
approvals and/or export licenses have been granted for several countries to date
and applications are presently pending in Taiwan, Russia and Japan. However,
there can be no assurance that all of the Company's distributors will be
successful in obtaining proper approvals for the EECP system in their respective
countries or that these distributors will be successful in their marketing
efforts. The Company plans to enter into additional distribution agreements to
enhance its international distribution base. There can be no assurance that the
Company will be successful in entering into any additional distribution
agreements.
To date, revenues from international operations have not been significant
(fiscal 2003 revenues approximated 5%) but are expected to increase in future
years. Marketing activities planned include, among other things, assist in
obtaining national or third-party healthcare insurance reimbursement approval,
increasing our participation in medical conferences to create greater awareness
and acceptance of EECP therapy by clinicians. International sales may be subject
to certain risks, including export/import licenses, tariffs, other trade
regulations and local medical regulations. Tariff and trade policies, domestic
and foreign tax and economic policies, exchange rate fluctuations and
international monetary conditions have not significantly affected the Company's
business to date.
Competition
Presently, Vasomedical is aware of at least two competitors with an
external counterpulsation device on the market, namely Cardiomedics, Inc. and
Nicore, Inc. While the Company believes that these competitors' involvement in
the market is limited, there can be no assurance that these companies will not
become a significant competitive factor. The Company believes it competes
favorably in value with these companies, as EECP is the only external
counterpulsation system that is clinically proven in controlled clinical trials,
the only system to be covered by an independent patient registry and the only
system to have secured a CE mark. Vasomedical views other companies engaged in
the development of device-related and biotechnology approaches to the management
of cardiovascular disease as potential competitors in the marketplace as well.
There can be no assurance that other companies will not enter the market
intended for EECP systems. Such other companies may have substantially greater
financial, manufacturing and marketing resources and technological expertise
than those possessed by the Company and may, therefore, succeed in developing
technologies or products that are more efficient than those offered by the
Company and that would render the Company's technology and existing products
obsolete or noncompetitive.
Government Regulations
The EECP system is subject to extensive regulation by the FDA. Pursuant to
the Federal Food, Drug and Cosmetic Act, as amended, the FDA regulates and must
approve the clinical testing, manufacture, labeling, distribution and promotion
of medical devices in the US.
If a medical device manufacturer can establish that a newly developed
device is "substantially equivalent" to a device that was legally marketed prior
to the enactment of the Medical Device Amendments Act of 1976 or to a device
subsequently granted 510(k) market clearance , the manufacturer may seek
marketing clearance from the FDA to market the device by filing a 510(k)
premarket notification. The 510(k) premarket notification must be supported by
appropriate data establishing the claim of substantial equivalence to the
satisfaction of the FDA. Pursuant to recent amendments to the law, the FDA can
now require clinical data or other evidence of safety and effectiveness. The FDA
may have authority to deny marketing clearance if the device is not shown to be
safe and effective even if the device is otherwise "substantially equivalent".
The Company's EECP systems can be marketed in the United States based on the
FDA's determination of substantial equivalence. There can be no assurance that
the Company's EECP systems will not be reclassified in the future by the FDA and
subject to additional regulatory requirements.
If substantial equivalence cannot be established or if the FDA determines
that more extensive efficacy and safety data are in order, the FDA will require
the manufacturer to submit an application for a Premarket Approval (PMA) for
full review and approval. Management does not believe that the EECP system will
ultimately require PMA approval for continued commercialization under its
present labeling; however, the Company so designed the protocols for MUST-EECP
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and PEECH as to be able to generate some of the data needed in the event that a
PMA is required at some future date. The Company received notice in June 2000
that its EECP system, when used to treat congestive heart failure patients,
would be classified by FDA as a Class III PMA device. However, the FDA reversed
that determination in June 2002 and the Company understands from discussions
with the FDA that one reason for the change in the regulatory status of EECP for
the treatment of congestive heart failure was the result of the agency's
reassessment of the safety profile for EECP therapy. As such, the Company filed
a 510(k) premarket notification and in June 2002, FDA granted market clearance
to all three of the models of the EECP system for a new indication for use in
the treatment of congestive heart failure.
In most countries to which the Company seeks to export the EECP system, it
must first obtain documentation from the local medical device regulatory
authority stating that the marketing of the device is not in violation of that
country's medical device laws. The regulatory review process varies from country
to country. The Company has obtained regulatory approval of the EECP system in
certain non-domestic markets, including Europe, and is in the process of
obtaining such approvals in Taiwan, Russia and Japan.
There can be no assurance that all the necessary FDA clearances, including
approval of any PMA required, and non-domestic approvals will be granted for
EECP, its future-generation upgrades or newly developed products, on a timely
basis or at all. Delays in receipt of or failure to receive such clearances
could have a material adverse effect on the Company's financial condition and
results of operations.
In June 1998, the Company's EECP System Model MC2 was awarded the CE Mark,
which satisfies the regulatory provisions for marketing in all 15 countries of
the European Union (EU). The CE Mark was awarded by DGM of Denmark, an official
notified regulatory body, under the European Council Directive concerning
medical devices. The ISO 9001 and ISO 13485 Certificates, issued by
Underwriter's Laboratories (UL), cover the Company's design and manufacturing
operation for the EECP systems and recognizes that the Company has established
and operates a world-class quality system. In addition, in July 2000, the
Company received its license for Level II devices from the Canadian Health
authority and, in February 2003, the Company received a certificate from UL
regarding its compliance with the Canadian Medical Device Conformity Assessment
Standards (CMDCAS). In July 2001, the Company received the UL classified mark,
an electrical certification, for its new TS3 system and received authorization
to apply the CE Mark for the TS3 in November 2002. This CE certification also
enables the Company to begin marketing new or improved EECP products in the EU
without undergoing separate review and inspection for each product.
Compliance with current Good Manufacturing Practices (GMP) regulations is
necessary to receive FDA clearance to market new products and to continue to
market current products. The Company's manufacturing (including its contract
manufacturer), quality control and quality assurance procedures and
documentation are currently in compliance, and are subject to periodic
inspection and evaluation by the FDA.
Third-Party Reimbursements
Health care providers, such as hospitals and physicians, that purchase or
lease medical devices, such as the EECP system, for use on their patients
generally rely on third-party payers, principally Medicare, Medicaid and private
health insurance plans, to reimburse all or part of the costs and fees
associated with the procedures performed with these devices. Even if a device
has FDA clearance , Medicare and other third-party payers may deny reimbursement
if they conclude that the device is not cost-effective, is experimental or is
used for an unapproved indication.
In February 1999, the Centers for Medicare and Medicaid Services (CMS), the
federal agency that administers the Medicare program for more than 39 million
beneficiaries, issued a national coverage policy for the use of the EECP system
for patients with disabling angina pectoris who, in the opinion of a
cardiologist or cardiothoracic surgeon, are not readily amenable to surgical
interventions, such as balloon angioplasty and cardiac bypass. In July 1999, CMS
communicated payment instructions for the EECP therapy to its contractors around
the country, stipulating coverage for services provided on or after July 1,
1999. In January 2000, a national Medicare payment level was established.
Beginning August 1, 2000, Medicare coverage was extended to include EECP
treatment received on an outpatient basis at hospitals and outpatient clinics
under the new APC (Ambulatory Payment Classification) system. The national
average payment rate approximated $150 per hourly session. Since January 2000,
CMS approved three separate increases to the reimbursement rate for EECP therapy
which, effective March 2003, has raised the average Medicare payment
approximately 60% cumulatively to $208 per hourly session, or approximately
$7,300 for a full course of therapy.
Some private insurance carriers continue to adjudicate EECP claims on a
case-by-case basis. Since the establishment of reimbursement by the federal
8
government, however, an increasing number of these private carriers now
routinely pay for use of EECP for the treatment of angina and have issued
positive coverage policies. The Company estimates that over 300 private insurers
are reimbursing for EECP today at favorable payment levels and the Company
expects that the number of private insurers and their related health plans that
provide for EECP therapy as a covered benefit will continue to increase.
In June 2002, the Company announced that all three of its models of the
EECP system had been granted a 510(k) market clearance from the FDA for a new
indication for the treatment of congestive heart failure. Congestive heart
failure is the single most expensive disease state in the nation. Although CMS
has not modified its national coverage policy for EECP therapy to specifically
include CHF patients, the Company believes that there exists a significant
subset of patients with CHF that also have disabling angina that would qualify
for Medicare reimbursement under its present definition. The Company intends to
apply to CMS for a national coverage policy for EECP specific to CHF when it has
completed and analyzed the results of the ongoing PEECH trial, a randomized,
controlled clinical study on the use of EECP in CHF patients. The Company
expects the enrollment in PEECH to be completed by the end of calendar 2003 and
submission of the results to CMS no earlier than the end of calendar 2004.
The Company intends to vigorously pursue a constructive dialogue with many
private insurers for the establishment of positive coverage policies for EECP
that include CHF patients. The Company believes that its discussions with these
third-party payers will, as a minimum, continue to define circumstances that
justify reimbursement on a case-by-case basis and create a pathway for rapid
review of patient data and determination of medical necessity.
If there is any material change in the availability of third-party coverage
or the inadequacy of the reimbursement level for treatment procedures using the
EECP system, it would adversely affect the Company's business, financial
condition and results of operations. Moreover, the Company is unable to forecast
what additional legislation or regulation, if any, relating to the health care
industry or Medicare coverage and payment level may be enacted in the future or
what effect such legislation or regulation would have on the Company.
Patents and Trademarks
The Company owns five US patents that issued in June 1988, September 1996,
December 1999, June 2003 and July 2003, which expire at various times between
2005 and 2020. In addition, foreign patents have issued which expire in 2013,
and others are pending. At August 1 2003, the Company has two patent
applications in the US outstanding regarding aspects of the TS3 system,
potential improvements, and new methods of treatment. The Company is planning to
pursue these applications in other countries, including members of the European
Union. The Company is also planning to file other patent applications regarding
specific enhancements to the current EECP models, future generation products,
and methods of treatment. Moreover, trademarks have been registered for the
names "EECP" and "Natural Bypass", as well as for its widely-recognized man-like
figure representing the application of EECP therapy.
With respect to the patent expiring in fiscal 2005, we do not believe that
the expiration of this particular patent will have a material effect on our
future operations because the Company's EECP units do not incorporate the
features described in this patent.
The Company pursues a policy of seeking patent protection, both in the US
and abroad, for its proprietary technology. There can be no assurance that the
Company's patents will not be violated or that any issued patents will provide
protection that has commercial significance. Litigation may be necessary to
protect the Company's patent position. Such litigation may be costly and
time-consuming, and there can be no assurance that the Company will be
successful in such litigation. The loss or violation of the Company's EECP
patents and trademarks could have a material adverse effect upon the Company's
business.
Employees
As of August 1, 2003, the Company employed 91 full-time persons and 1
part-time person with 22 in direct sales and sales support, 10 in clinical
applications, 32 in manufacturing, quality control and technical service, 8 in
marketing and customer support, 11 in engineering, regulatory and clinical
research and 9 in administration. None of the Company's employees are
represented by a labor union. The Company believes that its employee relations
are good.
Manufacturing
The Company manufactures its EECP Model TS3 at its plant in Westbury, NY
and believes its manufacturing facility, in addition to the other warehouse
facilities presently under lease, are adequate to meet the current and
immediately foreseeable future demand for the production of these systems. The
9
Company's EECP Model MC2 system was manufactured for the Company by Vamed
Medical Instrument Company Ltd. (Vamed), a Chinese company. Early in 2002,
Foshan Life Sciences Co. Ltd. (FLSC), a Chinese joint venture comprised of a
Florida company and Vamed, assumed the operational activities for manufacturing
the EECP Model MC2 systems and accessories for the Company pursuant to separate
purchase orders issued by the Company. The Company believes that FLSC will be
able to meet the Company's future need for this Model MC2 system.
ITEM TWO - PROPERTIES
The Company owns its 18,000 square foot headquarters and manufacturing
facility at 180 Linden Avenue, Westbury, New York 11590. The Company leases
approximately 7,100 square feet of additional warehouse space under two
operating leases with non-affiliated landlords, of which one expires in October
2003 and the other in September 2006, at an annual cost of approximately
$70,000. Management believes that the Company can renegotiate the lease that
will expire in October 2003 or lease other available space under reasonable
terms and that these combined facilities are adequate to meet its current needs
and should continue to be adequate for the immediately foreseeable future.
ITEM THREE - LEGAL PROCEEDINGS
In June 2001, an action was commenced in the New York Supreme Court, Nassau
County, against the Company by the former holder of a warrant to purchase
100,000 shares of the Company's stock seeking undefined damages based upon a
claim that the Company breached an agreement to register the common shares
underlying the warrant at the "earliest practicable date" after due demand by
the warrant holder had been made. In October 2002, the Company settled this
matter for $600,000 through the execution of an agreement that enables the
Company to satisfy this obligation over a four-year period ($200,000 in fiscal
2003, $100,000 in fiscal 2004, $133,000 each in fiscal years 2005 and 2006 and
$34,000 in fiscal 2007). Accordingly, the Company recorded a $600,000 charge to
operations in fiscal 2003. In December 2002, the Company paid $200,000 to the
warrant holder pursuant to the terms of the settlement agreement.
In or about late June 2002, the Company was notified by a letter from the
domestic counsel for Foshan Life Sciences Co. Ltd. (FLSC), a joint venture
comprised of a Florida company and Vamed Medical Instrument Company Limited
(Vamed), a Chinese company with whom the Company had an agreement to manufacture
the Company's EECP Model MC2 system, that FLSC was initiating an arbitration
proceeding before the Hong Kong International Arbitration Council (HKIAC) to
recover compensatory and punitive damages in excess of $1,000,000 and injunctive
relief based upon claims of breach of the manufacturing agreement, tortious
interference and misappropriation of confidential information and trade secrets.
Although possessing several substantive defenses to these claims, the Company
initially has challenged the HKIAC's right to hear and determine the dispute on
the ground that FLSC is neither a legitimate nor recognized party to the
manufacturing agreement which provides for such arbitration and, therefore, is
not entitled to enforce the same. The Company demanded on July 3, 2002 that FLSC
deposit with the HKIAC security to cover the Company's costs of arbitration. To
date, FLSC has neither responded to the Company's demand for security nor
apparently filed a formal statement of claim with the HKIAC.
ITEM FOUR - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the fourth
quarter of the fiscal year.
PART II
ITEM FIVE - MARKET FOR THE COMPANY'S COMMON STOCK AND RELATED SECURITY HOLDER
MATTERS
The Company's Common Stock trades on the Nasdaq SmallCap Market tier of The
Nasdaq Stock MarketSM under the symbol VASO. The approximate number of record
holders of Common Stock as of August 1, 2003 was approximately 1,000, which does
not include approximately 31,600 beneficial owners of shares held in the name of
brokers or other nominees. The table below sets forth the range of high and low
trade prices of the Common Stock as reported by the Nasdaq SmallCap Market tier
of The Nasdaq Stock MarketSM for the fiscal periods specified.
10
Fiscal 2003 Fiscal 2002
High Low High Low
First Quarter $3.00 $1.25 $4.32 $3.51
Second Quarter $1.85 $0.52 $3.75 $2.26
Third Quarter $1.20 $0.70 $4.02 $2.65
Fourth Quarter $1.60 $0.63 $3.30 $1.65
The last bid price of the Company's Common Stock on August 20, 2003 was
$.92 per share. The Company has never paid any cash dividends on its Common
Stock. While the Company does not intend to pay cash dividends in the
foreseeable future, payment of cash dividends, if any, will be dependent upon
the earnings and financial position of the Company, investment opportunities and
such other factors as the Board of Directors deems pertinent. Stock dividends,
if any, also will be dependent on such factors as the Board of Directors deems
pertinent.
11
ITEM SIX - SELECTED FINANCIAL DATA
The following table summarizes selected financial data for each of the five
years ended May 31, 2003 as derived from the Company's audited consolidated
financial statements. These data should be read in conjunction with the
consolidated financial statements of the Company, related notes and other
financial information.
Year ended May 31,
2003 2002 2001 2000 1999
Statements of Earnings
Revenues $24,823,619 $34,830,471 $27,508,338 $13,673,632 $6,024,263
Cost of sales and services 9,251,221 10,538,731 7,910,359 3,277,700 2,035,578
-------------- -------------- --------------- -------------- ---------------
Gross profit 15,572,398 24,291,740 19,597,979 10,395,932 3,988,685
Selling, general & administrative expenses 13,714,913 13,686,958 11,634,965 7,383,567 6,207,924
Research and development expenses 4,544,822 5,112,258 2,554,470 1,413,464 706,934
Provision for doubtful accounts 3,728,484 1,304,000 325,000 400,000 -
Interest and financing costs 186,574 98,140 48,294 7,302 11,880
Interest and other income, net (176,724) (249,722) (201,992) (99,317) (115,064)
-------------- -------------- --------------- -------------- ---------------
21,998,069 19,951,634 14,360,737 9,105,016 6,811,674
-------------- -------------- --------------- -------------- ---------------
Earnings (loss) before income taxes (6,425,671) 4,340,106 5,237,242 1,290,916 (2,822,989)
Income tax (expense) benefit, net 1,634,688 (1,554,000) 6,457,108 400,000 -
-------------- -------------- --------------- -------------- ---------------
Net earnings (loss) (4,790,983) 2,786,106 11,694,350 1,690,916 (2,822,989)
Deemed dividend on preferred stock - - - - (864,000)
Preferred stock dividend requirement - - - (94,122) (205,163)
-------------- -------------- --------------- -------------- ---------------
Earnings (loss) applicable to
common stockholders $(4,790,983) $2,786,106 $11,694,350 $1,596,794 $(3,892,152)
============== ============== =============== ============== ===============
Net earnings (loss) per common share
- basic $(.08) $.05 $.21 $.03 $(.08)
============== ============== =============== ============== ===============
- diluted $(.08) $.05 $.20 $.03 $(.08)
============== ============== =============== ============== ===============
Weighted average common shares
outstanding - basic 57,647,032 57,251,035 56,571,402 52,580,623 49,371,574
============== ============== =============== ============== ===============
- diluted 57,647,032 59,468,092 59,927,199 57,141,949 49,371,574
============== ============== =============== ============== ===============
Balance Sheet
Working capital $11,478,092 $17,225,434 $16,214,655 $7,380,236 $2,174,774
Total assets $35,327,550 $41,418,258 $36,518,974 $10,588,962 $5,198,172
Long-term debt $1,177,804 $1,072,716 $1,108,593 $- $-
Stockholders' equity (1) $27,319,302 $31,602,604 $28,508,729 $7,943,770 $3,153,533
__________________
(1) No cash dividends on common stock were declared during any of the above periods.
12
ITEM SEVEN - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Results of Operations
Fiscal Years Ended May 31, 2003 and 2002
The Company generated revenues from the sale, lease and service of EECP
systems of $24,824,000 and $34,830,000 for fiscal 2003 and fiscal 2002,
respectively, representing a 29% decrease. The Company generated earnings (loss)
before income taxes of $(6,426,000) and $4,340,000 for fiscal 2003 and fiscal
2002, respectively. The Company reported net earnings (loss) of $(4,791,000) and
$2,786,000 for fiscal 2003 and fiscal 2002, respectively, after recognition of
an income tax provision (benefit) of $(1,635,000) and $1,554,000, respectively.
The decrease in revenues in fiscal 2003 as compared to fiscal 2002 is a
result of the following:
(1) The Company's prior-year period revenues were favorably impacted by
$4,187,000 resulting from the shipment of EECP units under sales-type
leases. There was no equipment sold under sales-type leases in fiscal 2003.
The Company offered equipment under sales-type leases only to select
customers in the past, based upon, among other things, the customers'
business model and history with the Company.
(2) Revenues in fiscal 2003 were affected by several factors including, an
increase in the duration of the selling cycle of the Company's EECP systems
and reduced average unit selling prices. Factors that have caused a longer
selling cycle for EECP systems include, among other things, (a) a change in
the mix of prospective customers toward larger medical practices and
hospitals which have longer decision-making processes; (b) inconsistent or
inadequate reimbursement coverage policies among certain third-party
insurers; and (c) general economic conditions. Factors that have
contributed to reduced average selling prices include increased competition
and general economic conditions. Fiscal 2003 revenues from equipment sales
were adversely impacted by reductions in average selling prices aggregating
approximately $5,100,000.
(3) Revenues from non-domestic business were $1,122,000, accounting for nearly
5% of total revenues compared to $2,725,000, or 8%, in fiscal 2002.
The Company's revenue growth over the last several prior fiscal year
periods through 2002 resulted primarily from the increase in cardiology
practices and hospitals who became providers of EECP therapy following the
announcement by the Centers for Medicare and Medicaid Services (CMS) in February
1999 of its decision to extend Medicare coverage nationally to the Company's
noninvasive, outpatient treatment for coronary artery disease. CMS is the
federal agency that administers the Medicare program for approximately 39
million beneficiaries. In addition, the results of the Company's multicenter,
prospective, randomized, blinded, controlled clinical study of EECP (MUST-EECP)
were published in the June 1999 issue of the Journal of the American College of
Cardiology. Interest in EECP therapy has also been spurred by the announcement
of the results of six- month, twelve-month and twenty-four month post-treatment
outcomes reported by the International EECP Patient Registry, as well as
numerous other studies reported and presented at major scientific meetings,
including the American Heart Association (AHA) and the American College of
Cardiology (ACC) annual meetings.
The Company continues to be optimistic about its future. In June 2002, the
Company announced that all three of its models of the EECP system had been
granted a 510(k) market clearance from the Food and Drug Administration (FDA)
for a new indication for the treatment of congestive heart failure. Congestive
heart failure afflicts more than 5 million people in the United States alone,
with more than 550,000 new patients diagnosed every year. It is the single most
expensive disease state in the nation, accounting for more than $40 billion in
direct and indirect medical costs. EECP therapy was the featured topic at a CME
(Continuing Medical Education) satellite symposium held at the Heart Failure
Society of America's Sixth Annual Scientific Meeting in September where over 300
heart failure specialists attended the symposium, entitled "Enhanced External
Counterpulsation: A Novel Potential Approach to Heart Failure," which was
sponsored by the University of Minnesota and supported by an educational grant
from the Company. Vasomedical's multicenter, randomized, controlled, PEECH
(Prospective Evaluation of EECP in Congestive Heart Failure) trial, which is at
80% enrollment, is of significant importance and should confirm the benefits of
EECP for heart failure patients that have been observed to date in smaller
studies and lead to more widespread acceptance and adoption of the therapy in
clinical practice. The Company's heart failure feasibility study was published
in the July/August 2002 issue of the journal Congestive Heart Failure.
In November 2002, the Company received the CE Mark approval for its EECP
systems from its notified body, DGM of Denmark, indicating compliance with the
European Union (EU) Medical Device Directives. This enables the Company to begin
marketing new or improved EECP products in all 15 EU countries and cooperating
13
partner countries without undergoing separate review and inspection for each
product. As a result, the Company began marketing its Model TS3 EECP system,
which includes the Company's patent-pending congestive heart failure treatment
and oxygen saturation monitoring technologies, throughout the EU.
In late December, CMS published changes to the Medicare Physician Fee
Schedule for Calendar Year 2003 that were expected to result in a new national
average payment level of approximately $195 per session for the Company's EECP
therapy, or $6,841 per standard course of treatment. The new proposed average
payment reflected a 27% increase in the national average reimbursement for EECP
over 2002 levels. In February 2003, CMS finalized its December proposal which
further increased the national average payment level to approximately $208 per
session for the Company's EECP therapy, or $7,280 per standard course of
treatment, resulting in an increase of 35% over 2002 levels. The national
average payment rate for the therapy has increased by 60% since January 2000.
The new rates took effect March 1, 2003.
Gross profit margins for fiscal 2003 and fiscal 2002 and were 63% and 70%,
respectively. Gross profits are dependent on a number of factors, particularly
the mix of EECP models sold and their respective average selling prices, the mix
of EECP units sold, rented or placed during the period, the ongoing costs of
servicing such units, and certain fixed period costs, including facilities,
payroll and insurance. Gross profit margins are generally less on non- domestic
business due to the use of distributors resulting in lower selling prices.
Consequently, the gross profit realized during the current period may not be
indicative of future margins. The decrease in overall gross profit for fiscal
2003 compared to 2002 primarily resulted from increases in unit costs, due to
lower production levels, as well as overall reductions in the average selling
price of EECP units.
Selling, general and administrative (SG&A) expenses for fiscal 2003 and
fiscal 2002 were $13,715,000 (55% of revenues) and $13,687,000 (39% of
revenues), respectively. The increase in the percentage of SG&A expenses as a
percentage of sales was primarily due to the significant decrease in revenues
from the prior comparable periods, as discussed above. The increase in SG&A
expenses, on an absolute basis, from the comparable prior fiscal periods
resulted primarily from a $600,000 accrual arising from the settlement of
litigation in the first quarter, non-recurring charges of $420,000 for employee
severance arrangements and executive recruiting fees in the second quarter,
partially offset by overall decreases in sales related expenses due to decreased
revenues.
Research and development (R&D) expenses of $4,545,000 (18% of revenues) for
fiscal 2003 decreased by $567,000, or 11%, from fiscal 2002 R&D expenses of
$5,112,000 (15% of revenues). R&D expenses are primarily impacted by the PEECH
clinical trial in heart failure and other clinical initiatives (including the
International EECP Patient Registry), as well as continued product design and
development costs. The Company expects to continue its investments in product
development and clinical trials in fiscal 2004 and beyond to further validate
and expand the clinical applications of EECP, including, but not limited to,
heart failure and acute coronary syndromes.
During fiscal 2003, the Company charged $3,728,000 (net of bad debt
recoveries of $494,000) to its provision for doubtful accounts as compared to
$1,304,000 in fiscal 2002. These charges primarily resulted from the write-off
of receivables from a major customer during the first quarter of fiscal 2003 of
approximately $3,000,000 due to significant uncertainties related to this
customer's ability to satisfy its financial obligations to the Company (Note C),
as well as specific reserves against certain domestic and international accounts
that defaulted on their payment obligations. During the second quarter of fiscal
2003, the Company was able to successfully recover all of the units that it had
sold under sales-type leases to the aforementioned major customer back into its
finished goods inventory and recorded a bad debt recovery of $479,408, which
represented the present carrying amount of the equipment. The Company redeployed
certain pieces of the equipment while certain other pieces were returned to the
Company's inventory for resale.
The Company's standard payment terms on its equipment sales are generally
net 30 days and do not contain "right of return" provisions. The Company has
historically offered a variety of extended payment terms, including sales-type
leases, in certain situations and to certain customers in order to expand the
market for its EECP products in the US and internationally. Such extended
payment terms were offered in lieu of price concessions, in competitive
situations, when opening new markets or geographies and for repeat customers.
Extended payment terms cover a variety of negotiated terms, including payment in
full - net 120, net 180 days or some fixed or variable monthly payment amount
for a six to twelve month period followed by a balloon payment, if applicable.
However, in fiscal 2003, approximately 2% of revenues were generated from sales
in which extended payment terms were offered and no sales-type leases were
offered. In fiscal 2003, approximately $454,000 included in the provision for
doubtful accounts related to specific accounts that had been offered extended
payment terms, while $752,000 included in the provision for doubtful accounts
related to accounts offered standard terms. At May 31, 2003, $1,033,000, or 17%,
14
of gross accounts receivable represent accounts offered extended payment terms.
In general, reserves are generally calculated on a formula basis considering
factors such as the aging of the receivables, time past due, and the customer's
credit history and their current financial status. In most instances where
reserves are required, or accounts are ultimately written-off, customers have
been unable to successfully implement their EECP program. As the Company is
creating a new market for EECP and recognizes the challenges that some customers
may encounter, it has opted, at times, on a customer-by- customer basis, to
recover its equipment instead of pursuing other legal remedies against these
customers, which necessitated the recording of a reserve or a write-off by the
Company.
Sales-type leases are for terms ranging from three to six years. The annual
minimum lease payments are subject to adjustment based on usage of the leased
units and, if applicable, balloon payments may be required at the end of the
lease term. In fiscal 2003, approximately $2,500,000 included in the provision
for doubtful accounts resulted from financing receivables and a loan written-off
in connection with the major customer described above. At May 31, 2003, net
financing receivables to one customer were $679,000.
The decrease in interest income from the prior fiscal period is the direct
result of a decrease in interest income related to certain equipment sold under
sales-type leases to a major customer reported in fiscal 2002 and during the
first quarter of fiscal 2003, as well as declining interest rates this year over
last year, offset by the increase in the average cash balances invested during
the current year.
The increase in interest expense over the prior periods is primarily due to
interest on working capital borrowings and related charges under the Company's
revolving secured credit facility, as well as loans secured to refinance the
November 2000 purchase of the Company's headquarters and warehouse facility.
In fiscal 2003, the Company recorded a net benefit for income taxes of
$1,635,000, inclusive of a $622,000 valuation allowance on deferred tax assets.
This is in contrast to an income tax provision reported in fiscal 2002 of
$1,554,000. Ultimate realization of the deferred tax assets, inclusive of the
$1,891,000 deferred tax benefit recorded in fiscal 2003, is dependent upon the
Company generating sufficient taxable income prior to the expiration of the loss
carryforwards. In accordance with the Statement of Financial Accounting Standard
No. 109 "Accounting for Income Taxes" ("FAS 109"), management concluded, based
upon the weight of available evidence, that it is more likely than not that all
of the deferred tax assets would be realized. It is management's belief that
realization of the deferred tax asset is not dependent on material improvements
over the average of fiscal 2000 through fiscal 2002 levels of pre-tax income,
and believes that the Company is positioned for long-term growth despite the
results achieved in fiscal 2003 (much of which was unexpected and non-recurring,
including the write-off of approximately $2,600,000 in financing receivables and
loan from the default of one customer, a $600,000 litigation settlement and
$400,000 in employee severance payments and related expenses).
The following factors are anticipated to positively impact the future of
the Company's business activities and initiatives:
A. A large and increasing worldwide patient population with
cardiovascular disease demanding new choices of therapy, leading to
increased coverage by CMS (in the US) and other foreign regulatory
bodies. The estimated US patient population for angina patients is
approximately 6.2 million and approximately 5 million patients for
heart failure.
B. Medicare coverage rates for EECP have risen in each year since a
national rate was established in January 2000, increasing 60%
cumulatively.
C. Potential extension of Medicare coverage to include all classes of
angina (beyond the present Class III/IV indication, for which the
Company estimates the annual patient population in the US alone is
150,000, necessitating an installed base in excess of 3,000 systems).
D. Approval of Medicare coverage and other third-party payer policies
specific to the congestive heart failure indication. The results of
the Company's ongoing PEECH trial are likely a pre-requisite for
significant coverage policies. The PEECH trial results are expected to
be favorable (based upon a published feasibility study and other
analyses) and should be available in early 2005. The combination of
favorable PEECH trial results and Medicare reimbursement would likely
be a significant catalyst for significant Company growth.
E. A cardiology community with a mandate to offer patients new disease
management solutions providing effective clinical and economic
outcomes. The Company has cultivated relationships with many of the
leading institutions and cardiologists (as evidenced in its roster of
PEECH study sites). The Company's Scientific Council is comprised of
leading academic cardiologists, many of whom are past presidents of
the American College of Cardiology, the American Heart Association or
the Heart Failure Society of America.
F. The accumulation of EECP clinical validation and removal of obstacles
to third-party insurance reimbursement. Numerous abstracts and
15
publications are presented each year at major scientific meetings
worldwide. The Company estimates that more than 300 third party payers
reimburse for EECP therapy, many on a routine basis.
G. Expanded base of future FDA-cleared indications to more effectively
penetrate the hospital market, particularly with respect to heart
failure (for which FDA clearance was received in June 2002), acute
coronary syndromes (also cleared by FDA), diabetes management, and
peripheral and cerebrovascular diseases.
H. Initiatives planned to lower the standard cost of the Company's EECP
systems, improving margins or preserving them from further erosion.
I. The Company has a large, non-domestic market opportunity that is
developing through a network of local independent distributors,
primarily in Europe for which the Company has received the CE Mark
(FDA-clearance equivalent).
J. Continuing to prove more definitively the mechanism of action by which
EECP operates. These smaller scale clinical studies are aimed at
convincing those with lingering doubt about EECP's effectiveness that
the therapy is, indeed, safe and effective and serves to expand the
market. Studies have been presented and published in this area.
K. Increased hardware utility to allow for the use of EECP in an
increasing number of patient environments. The EECP TS3 system is
mobile and can be used more easily in the hospital environment. Future
system modifications could allow for emergency room use.
The Company acknowledges that certain risk factors have the potential to
adversely affect the business opportunity that has been outlined. Initiatives
planned to mitigate the impact of such risks have been addressed. They include:
A. Dependence on outcome of PEECH trial and related reimbursement
coverage policies. Presently, the Company is engaged in the PEECH
trial, a pivotal study to evaluate the effectiveness of EECP therapy
for congestive heart failure patients. The results of this study are
likely to be the catalyst for Medicare and other third-party
reimbursement coverage policies specific to heart failure. Although
the Company has received clearance from the FDA to market for heart
failure, medical community acceptance and insurance coverage policies
are highly influenced by scientifically proven technologies. The
Company had designed its PEECH protocol in cooperation with the FDA
and had reached a formal agreement with the FDA that the key
parameters of its investigational plan for this trial were appropriate
to determine the effectiveness of EECP as an adjunct therapy for heart
failure. The Company believes that its PEECH trial is robust and will
provide favorable results that should provide a reasonable basis for
market acceptance and insurance reimbursement.
B. Dependence on a single product platform. Current FDA labeling extends
beyond chronic stable angina and congestive heart failure to unstable
angina, myocardial infarction and cardiogenic shock (i.e., acute
coronary syndromes). The Company intends to pursue additional clinical
studies to validate the safety and effectiveness of EECP in acute
coronary syndromes over the next few years.
C. Dependence on consistency of research findings about EECP efficacy and
increasing acceptance of EECP by the medical community. To that end,
the Company has sponsored the International EECP Patient Registry
(IEPR), maintained at the University of Pittsburgh. Results to date
(5,000 patients enrolled) have supported favorable results achieved in
the initial trials conducted at the State University of New York at
Stony Brook, as well the conclusions from the MUST-EECP multicenter,
controlled, randomized and double-blinded efficacy trial completed in
1997. Phase 2 of the registry, known as IEPR II, began enrollment of
2,500 patients in January 2002 and is capturing additional date from
angina patients that include, among other things, data related to
concomitant heart failure symptoms.
D. Technological obsolescence of EECP by newly developed process, device
or therapy. There is no assurance that such technology couldn't exist
in the future to make EECP obsolete. However, there is presently
little evidence to suggest it. Several companies are evaluating
devices and drugs for heart failure but there is presently no
consensus treatment for those patients. Even in the event one or more
drugs are developed, it is unlikely that EECP would be replaced
completely as many ill patients suffer a myriad of conditions with
co-morbid disease states that would make them contraindicated for use.
The cardiovascular disease market is so large and the disease so
complex that numerous technologies can aggressively and successfully
compete in the marketplace.
16
E. Competition, through acquisition or development, from companies with
superior financial resources and marketing capabilities. There are
presently only two competitors with a marketed external
counterpulsation system. The Company believes that neither is well
capitalized or positioned within the medical community (neither have
done extensive clinical trials). The Company estimates having a 75%+
market share and doesn't foresee significant changes.
F. New or changed regulatory environment that creates unforeseen
obstacles, or costs, to continue to market and sell the EECP system.
None are known at this time. Such changes in this industry are not
swift and would allow, in the opinion of management, sufficient time
to modify its business plan or become compliant.
G. New or changed insurance reimbursement criteria that create, or
reinstate, obstacles to physician acceptance of EECP. With respect to
Medicare, the Company is confident that rates are now and will remain
at sufficient levels to support the Company's growth. In fact, CMS
raised rates for EECP treatment by 35% in March 2003 while all other
cardiovascular procedures were adjusted downward by 4%. It is unlikely
that Medicare rates would drop to a level that would adversely harm
the Company's future prospects as EECP is proven to be a
cost-effective solution in the management of angina.
Although ultimate realization of all deferred tax assets is not assured,
management has concluded, in accordance with FAS 109, that based upon the weight
of available evidence, it is more likely than not that the deferred tax asset
will be realized. The amount of the deferred tax assets considered realizable,
however, could be reduced in the future if estimates of future taxable income
during the carryforward period are reduced.
Fiscal Years Ended May 31, 2002 and 2001
The Company generated revenues from the sale and lease of EECP systems of
$34,830,000 and $27,508,000 for fiscal 2002 and fiscal 2001, respectively,
representing a 27% increase. The Company generated earnings before income taxes
of $4,340,000 and $5,237,000 for fiscal 2002 and fiscal 2001, respectively. The
Company reported net earnings of $2,786,000 and $11,694,000 for fiscal 2002 and
fiscal 2001, respectively, after recognition of an income tax provision
(benefit) of $1,554,000 and $(6,457,000), respectively.
Effective January 1, 2002, CMS approved an additional increase of 7%,
raising the average Medicare payment to $153 per hourly session, or $5,355 for a
full course of therapy. These events led to an increased demand for EECP therapy
and EECP equipment and, consequently, to revenue growth overall. Pursuant to
contractual arrangements with two customers, the Company has sold equipment
under sales-type leases. In fiscal 2002, revenues of $4,187,000 were reported
from equipment sold under sales-type leases. Revenues from non-domestic business
were $2,725,000, accounting for nearly 8% of total revenues compared to
$1,441,000, or 5%, in fiscal 2001.
Gross profit margins for fiscal 2002 and 2001 were 70% and 71%,
respectively. Gross profits are dependent on a number of factors, particularly
the mix of EECP units sold, rented or placed during the period, the ongoing
costs of servicing such units, and certain fixed period costs, including
facilities, payroll and insurance. Gross profit margins are generally less on
non-domestic business due to the use of distributors resulting in lower selling
prices. Consequently, the gross profit realized during the current period may
not be indicative of future margins. The decrease in gross profit margin for
fiscal 2002 compared to 2001 was primarily attributable to a change in the
product mix now favoring the new, but more costly, Model TS3 system manufactured
in Westbury, NY. Management believes that the increased production costs of TS3
will be offset in the future by manufacturing efficiencies and engineering
initiatives toward further product cost reduction. In addition, gross profit
margin was further affected by the change in sales mix, inclusive of an 89%
increase in revenues from non-domestic business in fiscal 2002 which, as
described above, has been less profitable than the Company's domestic business.
Selling, general and administrative (SG&A) expenses for fiscal 2002 and
2001 were $13,687,000 (39% of revenues) and $11,635,000 (42% of revenues),
respectively. The Company has been effectively leveraging its SG&A expenses as a
percentage of sales, decreasing by 3%. The increases in SG&A expenses, on an
absolute basis, from the comparable prior fiscal year resulted primarily from
increases in personnel in sales and marketing functions, increases in selling
and marketing expenses (including commissions) related to increased revenues, as
well as increases in insurance and other administrative expenses.
Research and development (R&D) expenses of $5,112,000 (15% of revenues) for
fiscal 2002 increased by $2,558,000, or 100%, from the prior fiscal year of
$2,554,000 (9% of revenues). The increase relates primarily to expenses incurred
for the PEECH clinical trial in heart failure (which received FDA approval in
July 2000 and began treating patients in March 2001), the initiation of other
clinical studies and initiatives, as well as continued product design and
17
development costs (including an increase in engineering and other personnel).
The Company's newly developed EECP system, Model TS3, received FDA 510(k)
clearance to market in December 2000 and was commercially available for sale in
the fourth quarter of fiscal 2001. The Company intends to invest approximately
12%-14% of revenues in product development and clinical trials in fiscal 2003 to
further expand the clinical applications of EECP, including, but not limited to,
heart failure, diabetes disease management and acute coronary syndromes.
In fiscal 2002, the Company charged $1,304,000 to its provision for
doubtful accounts, increasing reserves primarily as a result of extended credit
terms offered to certain domestic and international customers, as well as a
valuation reserve in connection with long-term financing receivables generated
by equipment sold under sales-type leases. The Company's standard payment terms
on its equipment sales are generally net 30 days and do not contain "right of
return" provisions. However, the Company has historically offered a variety of
extended payment terms, including sales-type leases, in certain situations and
to certain customers in order to expand the market for its EECP products in the
US and internationally. Such extended payment terms were offered in lieu of
price concessions, in competitive situations, when opening new markets or
geographies and for repeat customers. Extended payment terms cover a variety of
negotiated terms, including payment in full - net 120, net 180 days or some
fixed or variable monthly payment amount for a six to twelve month period
followed by a balloon payment, if applicable. In fiscal 2002, approximately
$288,000 included in the provision for doubtful accounts related to specific
accounts that had been offered extended payment terms, while $666,000 included
in the provision for doubtful accounts related to accounts offered standard
terms. At May 31, 2002, $5,072,000, or 37%, of gross accounts receivable
represent accounts offered extended payment terms. In general, reserves are
generally calculated on a formula basis considering factors such as the aging of
the receivables, time past due, and the customer's credit history and their
current financial status. In most instances where reserves are required, or
accounts are ultimately written-off, customers have been unable to successfully
implement their EECP program. As the Company is creating a new market for EECP
and recognizes the challenges that some customers may encounter, it has opted,
at times, on a customer-by-customer basis, to recover its equipment instead of
pursuing other legal remedies against these customers, which necessitated the
recording of a reserve or a write-off by the Company.
Sales-type leases are for terms ranging from three to six years. The annual
minimum lease payments are subject to adjustment based on usage of the leased
units and, if applicable, balloon payments may be required at the end of the
lease term. In fiscal 2002, approximately $350,000 included in the provision for
doubtful accounts related to financing receivables to recognize the possibility
that some units that were located in centers to be closed by one customer might
not be utilized as planned and subsequently default. At May 31, 2002, net
financing receivables to two customers were $3,575,000.
The increase in interest expense over the prior fiscal year is primarily
due to interest payments on loans secured for the purchase of the Company's
headquarters and operating facility in November 2000, as well as working capital
borrowings under the Company's revolving secured credit facility.
The increase in interest income in fiscal 2002 is the direct result of
interest income reported on equipment sold under sales-type leases, offset by
the decrease in the average cash balances invested during the year, as well as
declining interest rates this year over last year.
In fiscal 2002, the Company recorded a provision for income taxes of
$1,554,000, inclusive of $39,000 in current tax expense principally resulting
from state taxes. This is in contrast to a deferred tax benefit reported in
fiscal 2001 of $6,457,000 resulting principally from a change in the deferred
tax valuation allowance.
Liquidity and Capital Resources
The Company has financed its fiscal 2003 and 2002 operations primarily from
working capital and operating results. At May 31, 2003, the Company had a cash
balance of $5,223,000 and working capital of $11,478,000, compared to a cash
balance of $2,968,000 and working capital of $17,225,000 at May 31, 2002. The
Company's working capital decreased in fiscal 2003 primarily due to, among other
things described below, the reclassification of approximately $2,730,000 in
current deferred tax assets related to the anticipated utilization in fiscal
2003 of net operating loss carryforwards to long-term deferred tax assets as a
result of current year operating losses and management's revised estimate of the
anticipated utilization of such deferred asset. The Company's operating
activities provided (used) cash of $3,180,000 and $(2,317,000) in fiscal 2003
and fiscal 2002, respectively. Net cash provided from operations during fiscal
2003 consisted primarily of decreases in accounts receivable, inventories and
other current assets and increases in other long-term liabilities, partially
offset by decreases in accounts payable and accrued expenses. The decrease in
inventories primarily resulted from the better management and utilization of raw
materials. The decrease in accounts receivable resulted primarily from
18
collection efforts in the period. The Company's management has tightened its
sales and credit policies and provides routine oversight with respect to its
accounts receivable credit and collection efforts, as well as the procurement of
its raw materials and management of finished goods inventory levels. Cash
provided by operations in fiscal 2003 may not necessarily be indicative of the
results expected in future periods.
Accounts receivable turnover was 2.5 and 2.7 for the fiscal years ended May
31, 2003 and 2002, respectively, representing a decline of 7%. Accounts
receivable turnover has been primarily impacted by the offering of extended
payment terms to customers during fiscal 2002. The Company has offered only a
limited number of such extended payment terms to customers in fiscal 2003,
approximating 2% of equipment sales. At the end of the fourth quarter ended May
31, 2003, net accounts receivable exceeded quarterly revenues by 13%,
representing a reduction of 10% from the comparative 2002 period rate of 23%.
Other factors that can impact the periodic net accounts receivable to quarterly
revenues ratio include sales growth, the type of customer (i.e., physician
practice, hospital, distributor) and their payment routine, the timing of
respective sales in a given quarterly period and overall economic conditions.
The ratio of the allowance for doubtful accounts to gross accounts receivable
was 9.4% and 7.9% for the fiscal years ended May 31, 2003 and 2002,
respectively. This ratio was adversely affected in fiscal 2003 as a result of
additional reserves, primarily on fiscal 2002 revenues. The Company expects each
of these ratios to improve in future periods primarily as a result of
collections of existing accounts receivable with extended payment terms,
limiting the offering of extended payment terms in the future, and continued
application of its revised credit policies which include customer deposits and
external credit verification and validation.
Investing activities used net cash of $326,000 and $820,000 during fiscal
2003 and fiscal 2002, respectively. The principal use of cash during fiscal 2003
was for the purchase of property and equipment.
Financing activities provided (used) cash of $(598,000) and $2,319,000
during fiscal 2003 and fiscal 2002, respectively. Financing activities during
fiscal 2003 and fiscal 2002 consisted of the utilization of the Company's credit
facility, as well as the receipt of cash proceeds upon the exercise of Company
common stock options and warrants by officers, directors, employees and
consultants. In addition, in fiscal 2002, the Company refinanced its long-term
obligations on the purchase of its headquarters and warehouse facility. In
October 2002, the Company amended its existing credit facility to provide for
borrowings up to $5,000,000 ($2,000,000, at any time that consolidated net
income for the immediately preceding three-month period is less than $1),
primarily based upon eligible accounts receivable, as defined therein, at the
Libor Rate plus 200 basis points or the published Prime Rate plus 50 basis
points. Under the terms of the agreement, which expires in February 2005, the
Company is required to meet certain quarterly covenants, including leverage
ratio, liquidity, capital expenditures, minimum net income, minimum interest
coverage and minimum tangible net worth. Although the Company was not in
compliance with certain financial covenants during each of its first three
fiscal quarters of 2003, the bank issued waivers to the Company for those
periods. In April 2003, the agreement was further amended to allow for
borrowings absent compliance with the financial covenants as long as such
eligible borrowings are collateralized by cash. In April 2003, the Company
repaid all outstanding borrowings under the agreement instead of maintaining
restricted cash balances. At May 31, 2003, the Company did not meet the minimum
interest coverage and tangible net worth covenants and future compliance with
each of these covenants in the near term is not certain. Management believes,
based upon its cash balance ay May 31, 2003 and its internal forecasts, that any
limitation on the Company's ability to borrow against this credit facility in
fiscal 2004 would not have an adverse effect on the Company's operations.
On February 14, 2003, the Company was notified by The Nasdaq Stock Market,
Inc. that it was not in compliance with the minimum $1.00 per share requirement
for continued listing inclusion and that it would be provided 180 days to regain
compliance. On June 16, 2003, Nasdaq notified the Company that since the closing
bid price of the Company's common stock had been at $1.00 per share or greater
for at least ten consecutive trading days, the Company regained compliance and
that the issue of non-compliance has been closed.
Management believes that its working capital position at May 31, 2003, the
ongoing commercialization of the EECP system, and the effect of initiatives
undertaken to improve our cash position by managing operating expense levels
will make it possible for the Company to support its operating expenses and to
implement its business plans for at least the next twelve months.
The following table presents the Company's expected cash requirements for
contractual obligations outstanding as of May 31, 2003:
19
Due as of Due as of 5/31/05 Due as of 5/31/07
Total 5/31/04 and 5/31/06 and 5/31/08 Due Thereafter
- --------------------------------------------------------------------------------------------------------------------
Long-Term Debt $1,286,000 $108,000 $243,000 $149,000 $786,000
Operating Leases 152,000 61,000 79,000 12,000 -
Litigation Settlement 400,000 100,000 300,000 - -
Severance obligations 100,000 100,000 - - -
Employment Agreements 602,000 398,000 204,000 - -
------------------------------------------------------------------------------------
Total Contractual Cash $2,540,000 $767,000 $826,000 $161,000 $786,000
Obligations
====================================================================================
Effects of Inflation
The Company believes that inflation and changing prices over the past three
years have not had a significant impact on our revenue or on our results of
operations.
Critical Accounting Policies
Financial Reporting Release No. 60, which was released by the Securities
and Exchange Commission, or SEC, in December 2001, requires all companies to
include a discussion of critical accounting policies or methods used in the
preparation of financial statements. Note A of the Notes to Consolidated
Financial Statements included in the Company's Annual Report on Form 10-K for
the year ended May 31, 2003 includes a summary of the Company's significant
accounting policies and methods used in the preparation of our financial
statements. In preparing these financial statements, the Company has made its
best estimates and judgments of certain amounts included in the financial
statements, giving due consideration to materiality. The application of these
accounting policies involves the exercise of judgment and use of assumptions as
to future uncertainties and, as a result, actual results could differ from these
estimates. The Company's critical accounting policies are as follows:
Revenue Recognition
The Company recognizes revenue from the sale of its EECP system in the
period in which the Company fulfills its obligations under the sale agreement,
which includes delivery and customer acceptance. The sale of EECP systems are
not subject to a right of return, other than for normal warranty matters, and
the Company is not obligated for post-sale upgrades to these systems. The
Company has also entered into lease agreements for its EECP system, generally
for terms of one year or less, that are classified as operating leases. Revenues
from operating leases are generally recognized, in accordance with the terms of
the lease agreements, on a straight-line basis over the life of the respective
leases. For certain operating leases in which payment terms are determined on a
"fee-per- use" basis, revenues are recognized as incurred (i.e., as actual usage
occurs). The cost of the EECP system utilized under operating leases is recorded
as a component of property and equipment and is amortized to cost of sales over
the estimated useful life of the equipment, not to exceed five years. There are
no significant minimum rental commitments on these operating leases at May 31,
2003. Revenues from the sale of extended warranties on the EECP system are
recognized on a straight-line basis over the life of the extended warranty,
ranging from one year to four years. Deferred revenues relate to extended
warranty fees that have been paid by customers prior to the performance of
extended warranty services.
The Company follows SFAS No. 13, "Accounting For Leases," for its sales of
EECP units under sales-type leases it presently has with one customer. In
accordance with SFAS No. 13, the Company records the sale and financing
receivable at the amount of the minimum lease payment, less unearned interest
income, which is computed at the interest rate implicit in the lease, and
executory costs, which are primarily related to product warranties on each unit
sold. Unearned interest income is amortized to income in a manner that produces
a constant rate of return on the investment in the sales-type lease. The cost of
the EECP unit acquired by the customer is recorded as cost of sales in the same
period that the sale is recorded.
Accounts Receivable/Financing Receivables
The Company's accounts receivable-trade are due from customers engaged in
the provision of medical services. Credit is extended based on evaluation of a
customer's financial condition and, generally, collateral is not required.
Accounts receivable are generally due 30 to 60 days from shipment and are stated
at amounts due from customers net of allowances for doubtful accounts, returns,
term discounts and other allowances. Accounts outstanding longer than the
contractual payment terms are considered past due. Estimates are used in
determining our allowance for doubtful accounts based on our historical
collections experience, current trends, credit policy and a percentage of our
accounts receivable by aging category. In determining these percentages, we look
20
at historical write-offs of our receivables. The Company also looks at the
credit quality of its customer base as well as changes in its credit policies.
The Company continuously monitors collections and payments from its customers.
While credit losses have historically been within expectations and the
provisions established, the Company cannot guarantee that it will continue to
experience the same credit loss rates that it has in the past.
In addition, the Company periodically reviews and assesses the net
realizability of its receivables arising from sales-type leases. If this review
results in a lower estimate of the net realizable value of the receivable, an
allowance for the unrealized amount is established in the period in which the
estimate is changed. In the first quarter of fiscal 2003, management decided to
write-off financing receivables under sales-type leases of approximately
$2,558,000 as a result of significant uncertainties with respect to a major
customer's ability to meet its financial obligations.
Inventories
The Company values inventory at the lower of cost or estimated market, cost
being determined on a first- in, first-out basis. The Company regularly reviews
inventory quantities on hand, particularly raw materials and components, and
records a provision for excess and obsolete inventory based primarily on
existing and anticipated design and engineering changes to our products as well
as forecasts of future product demand.
Warranty Costs
Equipment sold is generally covered by a warranty period of one year. The
Company accrues a warranty reserve for estimated costs to provide warranty
services when the equipment sale is recognized. The factors affecting the
Company's warranty liability include the number of units sold and historical and
anticipated rates of claims and costs per claim. The Company periodically
assesses the adequacy of its warranty liability based on changes in these
factors. Warranty reserves related to units sold under sales-type leases are
recorded as executory costs, which serve to reduce the amount of financing
receivables reported in the consolidated balance sheets. The Company records
revenue on extended warranties on a straight-line basis over the term of the
related warranty contracts. Service costs are expensed as incurred.
Deferred revenues related to extended warranties are $1,709,551 and
$991,204 at May 31, 2003 and 2002, respectively.
Income Taxes
Deferred income taxes are recognized for temporary differences between
financial statement and income tax bases of assets and liabilities and loss
carryforwards for which income tax benefits are expected to be realized in
future years. A valuation allowance is established, when necessary, to reduce
deferred tax assets to the amount expected to be realized. In estimating future
tax consequences, the Company generally considers all expected future events
other than an enactment of changes in the tax laws or rates. The deferred tax
asset is continually evaluated for realizability. To the extent management's
judgment regarding the realization of the deferred tax assets change, an
adjustment to the allowance is recorded, with an offsetting increase or
decrease, as appropriate, in income tax expense. Such adjustments are recorded
in the period in which management's estimate as to the realizability of the
asset changed.
Deferred tax liabilities and assets shall be classified as current or
non-current based on the classification of the related asset or liability for
financial reporting. A deferred tax liability or asset that is not related to an
asset or liability for financial reporting, including deferred tax assets
related to carryforwards, shall be classified according to the expected reversal
date of the temporary difference. The deferred tax asset recorded by the Company
relates primarily to the realization of net operating loss carryforwards, of
which the allocation of the current portion reflects the expected utilization of
such net operating losses in fiscal 2004. Such allocation is based upon
management's internal financial forecast for fiscal 2004 and may be subject to
revision based upon actual results.
Stock Compensation
The Company has four stock-based employee compensation plans, which are
described more fully in Note H. The Company accounts for stock-based
compensation using the intrinsic value method in accordance with Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and
related Interpretations ("APB No. 25") and has adopted the disclosure provisions
of Statement of Financial Accounting Standards No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure, an amendment of FASB
Statement No. 123." under APB No. 25, when the exercise price of the Company's
employee stock options equals the market price of the underlying stock on the
21
date of grant, no compensation expense is recognized. Accordingly, no
compensation expense has been recognized in the consolidated financial
statements in connection with employee stock option grants.
Pro forma compensation expense may not be indicative of future disclosures
because it does not take into effect pro forma compensation expense related to
grants before 1995. For purposes of estimating the fair value of each option on
the date of grant, the Company utilized the Black-Scholes option-pricing model.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options, which 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. 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 its employee stock options.
Equity instruments issued to nonemployees in exchange for goods, fees and
services are accounted for under the fair value-based method of SFAS No. 123.
Recently Issued Accounting Standards
In August 2001, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets"
("SFAS No. 144"). SFAS No. 144 supersedes SFAS No. 121 "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" and
Accounting Principles Board Opinion No. 30, "Reporting Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions." This statement
retains the fundamental provisions of SFAS No. 121 for recognition and
measurement of impairment, but amends the accounting and reporting standards for
segments of a business to be disposed of. The new rules were effective for the
Company on June 1, 2002. The adoption of SFAS No. 144 did not have a material
effect on the Company's financial position or results of operations.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure" ("SFAS 148") which addresses financial
accounting and reporting for recording expenses for the fair value of stock
options. SFAS 148 provides alternative methods of transition for a voluntary
change to fair value based method of accounting for stock-based employee
compensation. Additionally, SFAS No. 148 requires more prominent and more
frequent disclosures in financial statements about the effects of stock-based
compensation. The provisions of this Statement are effective for fiscal years
ending after December 15, 2002. The adoption of SFAS No. 148 did not have a
material impact on the financial position or results of operations of the
Company.
In April 2003, the FASB issued Statement of Financial Accounting Standards
No. 149 ("SFAS No. 149"), "Amendment of Statement 133 on Derivative Instruments
and Hedging Activities," which amends and clarifies financial accounting and
reporting for derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities under SFAS No. 133. SFAS
No. 149 is effective for contracts entered into or modified after June 30, 2003
except for the provisions that were cleared by the FASB in prior pronouncements.
The Company is currently evaluating the effect of the adoption of SFAS No. 149
on its financial position and results of operations.
In May 2003, the FASB issued Statement of Financial Accounting Standards
No. 150 ("SFAS No. 150"), "Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity." This statement establishes
standards for how an issuer classifies and measures in its statement of
financial position certain financial instruments with characteristics of both
liabilities and equity. In accordance with the standard, financial instruments
that embody obligations for the issuer are required to be classified as
liabilities. This Statement shall be effective for financial instruments entered
into or modified after May 31, 2003, and otherwise shall be effective at the
beginning of the first interim period beginning after June 15, 2003. The Company
is currently evaluating the effect of the adoption of SFAS No. 150 on its
financial position and results of operations.
In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" ("FIN 45"). FIN 45 requires that upon
issuance of a guarantee, a guarantor must recognize a liability for the fair
value of an obligation assumed under a guarantee. FIN 45 also requires
additional disclosures by a guarantor in its interim and annual financial
statements about the obligations associated with guarantees issued. The
recognition provisions of FIN 45 are effective for any guarantees issued or
modified after December 31, 2002. The disclosure requirements are effective for
financial statements of interim or annual periods ending after December 15,
2002. The adoption of FIN 45 did not have a material impact on the Company's
financial position or results of operations.
22
In January 2003, the FASB issued FASB Interpretation No. 46 "Consolidation
of Variable Interest Entities" ("FIN 46"). In general, a variable interest
entity is a corporation, partnership, trust, or any other legal structure used
for business purposes that either (a) does not have equity investors with voting
rights or (b) has equity investors that do not provide sufficient financial
resources for the entity to support its activities. A variable interest entity
often holds financial assets, including loans or receivables, real estate or
other property. A variable interest entity may be essentially passive or it may
engage in activities on behalf of another company. Until now, a company
generally has included another entity in its consolidated financial statements
only if it controlled the entity through voting interests. FIN 46 changes that
by requiring a variable interest entity to be consolidated by a company if that
company is subject to a majority of the risk of loss from the variable interest
entity's activities or entitled to receive a majority of the entity's residual
returns or both. FIN 46's consolidation requirements apply immediately to
variable interest entities created or acquired after January 31, 2003. The
consolidation requirements apply to older entities in the first fiscal year or
interim period beginning after June 15, 2003. Certain of the disclosure
requirements apply in all financial statements issued after January 31, 2003,
regardless of when the variable interest entity was established. The Company
adopted FIN 46 effective January 31, 2003. The adoption of FIN 46 did not have a
material impact on the Company's financial position or results of operations.
In November 2002, the Emerging Issues Task Force reached a consensus
opinion of EITF 00-21, "Revenue Arrangements with Multiple Deliverables". That
consensus provides that revenue arrangements with multiple deliverables should
be divided into separate units of accounting if certain criteria are met. The
consideration of the arrangement should be allocated to the separate units of
accounting based on their relative fair values, with different provisions if the
fair value is contingent on delivery of specified items or performance
conditions. Applicable revenue criteria should be considered separately for each
separate unit of accounting. EITF 00-21 is effective for revenue arrangements
entered into in fiscal periods beginning after June 15, 2003. Entities may elect
to report the change as a cumulative effect adjustment in accordance with APB
Opinion 20, "Accounting Changes." The Company is currently evaluating the impact
of the adoption of EITF 00-21 on its financial statements.
Qualitative and Quantitative Disclosures About Market Risk
The Company is exposed to certain financial market risks, including changes
in interest rates. All of the Company's revenue, expenses and capital spending
are transacted in US dollars. The Company's exposure to market risk for changes
in interest rates relates primarily to our cash and cash equivalent balances,
investments in sales-type leases and the line of credit agreement. The majority
of our investments are in short-term instruments and subject to fluctuations in
US interest rates. Due to the nature of our short-term investments, we believe
that there is no material risk exposure.
ITEM EIGHT - FINANCIAL STATEMENTS
The consolidated financial statements listed in the accompanying Index to
Consolidated Financial Statements are filed as part of this report.
ITEM NINE - DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
PART III
ITEM TEN - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this Item will be included in the Company's
definitive Proxy Statement, which will be filed with the Securities and Exchange
Commission in connection with the Company's 2003 Annual Meeting of Stockholders,
and is incorporated herein by reference.
ITEM ELEVEN - EXECUTIVE COMPENSATION
The information required by this Item will be included in the Company's
definitive Proxy Statement, which will be filed with the Securities and Exchange
Commission in connection with the Company's 2003 Annual Meeting of Stockholders,
and is incorporated herein by reference.
23
ITEM TWELVE - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this Item will be included in the Company's
definitive Proxy Statement, which will be filed with the Securities and Exchange
Commission in connection with the Company's 2003 Annual Meeting of Stockholders,
and is incorporated herein by reference.
ITEM THIRTEEN - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this Item will be included in the Company's
definitive Proxy Statement, which will be filed with the Securities and Exchange
Commission in connection with the Company's 2003 Annual Meeting of Stockholders,
and is incorporated herein by reference.
ITEM FOURTEEN - CONTROLS AND PROCEDURES
The Company carried out an evaluation, under the supervision and with the
participation of the Company's management, including the Company's Chief
Executive Officer and Chief Financial Officer, of the effectiveness of the
design and operation of the Company's disclosure controls and procedures
pursuant to Exchange Act Rule 13a- 15. Based upon that evaluation, the Chief
Executive Officer and Chief Financial Officer concluded that the Company's
disclosure controls and procedures are effective. 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.
24
ITEM FIFTEEN - EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Financial Statements and Financial Statement Schedules
------------------------------------------------------
(1) See Index to Consolidated Financial Statements on page F-1 at
beginning of attached financial statements.
(2) The following Consolidated Financial Statement Schedule is included in
Part IV of this report:
Schedule II Valuation and Qualifying Accounts (17)
All other schedules are omitted because they are not applicable, or not
required, or because the required information is included in the
Consolidated Financial Statements or notes thereto.
(b) Form 8-K Reports
----------------
None
(c) Exhibits
--------
(3) (a) Restated Certificate of Incorporation (2) (b) By-Laws (1)
(4) (a) Specimen Certificate for Common Stock (1)
(b) Certificate of Designation of the Preferred Stock, Series A (3)
(c) Certificate of Designation of the Preferred Stock, Series B (8)
(d) Form of Rights Agreement dated as of March 9, 1995 between
Registrant and American Stock Transfer & Trust Company (5)
(e) Certificate of Designation of the Preferred Stock, Series C (9)
(10) (a) 1995 Stock Option Plan (6)
(b) Outside Director Stock Option Plan (6)
(c) Employment Agreement dated February 1, 1995, as amended March 12,
1998 and October 10, 2001, between Registrant and John C.K. Hui
(4) (9) (13)
(d) 1997 Stock Option Plan, as amended (10)
(e) 1999 Stock Option Plan, as amended (11)
(f) Credit Agreement dated February 21, 2002 between Vasomedical,
Inc. and Fleet National Bank (12)
(g) Agreement dated October 1, 2002 between the Registrant and Peter
F. Cohn (14)
(h) Termination and Settlement Agreement dated October 21, 2002
between the Registrant and D. Michael Deignan (14)
(i) Employment Agreement dated October 28, 2002, and amended June 30,
2003, between the Registrant and Gregory D. Cash (14) (16)
(j) Amendment and Waiver to Credit Agreement dated October 18, 2002
between the Vasomedical, Inc. and Fleet National Bank (14)
(k) Amendment No. 2 and Waiver to Credit Agreement dated April 10,
2003 between the Registrant and Fleet National Bank (15)
(22) Subsidiaries of the Registrant
Percentage
Name State of Incorporation Owned by Company
---- ---------------------- ----------------
Viromedics, Inc. Delaware 61%
180 Linden Avenue Corp. New York 100%
(23) Consent of Grant Thornton LLP (17)
(31) Certification Reports pursuant to Securities Exchange Act Rule
13a-14 (17)
(32) Certification Reports pursuant to Section 906 of Sarbanes-Oxley
Act of 2002 (17)
- --------------------------
(1) Incorporated by reference to Registration Statement on Form S-18, No.
33-24095.
(2) Incorporated by reference to Registration Statement on Form S-1, No.
33-46377 (effective 7/12/94).
(3) Incorporated by reference to Report on Form 8-K dated November 14,
1994.
(4) Incorporated by reference to Report on Form 8-K dated January 24,
1995.
(5) Incorporated by reference to Registration Statement on Form 8-A dated
May 12, 1995.
(6) Incorporated by reference to Notice of Annual Meeting of Stockholders
dated December 5, 1995.
(7) Incorporated by reference to Report on Form 8-K dated June 25, 1997.
(8) Incorporated by reference to Report on Form 8-K dated April 30, 1998.
(9) Incorporated by reference to Report on Form 10-K for the fiscal year
ended May 31, 1998.
(10) Incorporated by reference to Report on Form 10-K for the fiscal year
ended May 31, 1999
(11) Incorporated by reference to Report on Form 10-K for the fiscal year
ended May 31, 2000.
(12) Incorporated by reference to Report on Form 10-Q for the quarterly
period ended February 28, 2002.
(13) Incorporated by reference to Report on Form 10-K for the fiscal year
ended May 31, 2002.
(14) Incorporated by reference to Report on Form 10-Q for the quarterly
period ended November 30, 2002.
(15) Incorporated by reference to Report on Form 10-Q for the quarterly
period ended February 28, 2003.
(16) Incorporated by reference to Report on Form 8-K dated June 30, 2003.
(17) Filed herewith.
25
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the Company has duly caused this report to be signed on its behalf
by the undersigned, thereunto duly authorized on the 22nd day of August, 2003.
VASOMEDICAL, INC.
By: /s/ Gregory D. Cash
-----------------------------------------------
Gregory D. Cash
President, Chief Executive Officer and Director
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below on August 22, 2003 by the following persons in the
capacities indicated:
/s/ Alexander G. Bearn Director
Alexander G. Bearn
/s/ David S. Blumenthal Director
David S. Blumenthal
/s/ Gregory D. Cash President, Chief Executive Officer and Director
Gregory D. Cash (Principal Executive Officer)
/s/ Abraham E. Cohen Chairman of the Board
Abraham E. Cohen
/s/ Joseph A. Giacalone Chief Financial Officer (Principal Financial
Joseph A. Giacalone and Accounting Officer)
/s/ John C.K. Hui Senior Vice President, Chief Technology Officer
John C.K. Hui and Director
/s/ Photios T. Paulson Director
Photios T. Paulson
/s/ Kenneth W. Rind Director
Kenneth W. Rind
/s/ E. Donald Shapiro Director
E. Donald Shapiro
/s/ Anthony Viscusi Director
Anthony Viscusi
/s/ Forrest R. Whittaker Director
Forrest R. Whittaker
/s/ Martin Zeiger Director
Martin Zeiger
26
Vasomedical, Inc. and Subsidiaries
Schedule II - Valuation and Qualifying Accounts
- ----------------------------------------------- --------------- ---------------------------- ----------------- -----------------
Column A Column B Column C Column D Column E
- ----------------------------------------------- --------------- ---------------------------- ----------------- -----------------
Additions
----------------------------
(1) (2)
Balance at Charged to Charged to
beginning of costs and other Balance at end
period expenses accounts Deductions of period
- ----------------------------------------------- --------------- --------------- ------------ ----------------- -----------------
Allowance for doubtful accounts
Year ended May 31, 2003 $1,099,687 $1,227,324 (a) $1,528,382 $768,629
Year ended May 31, 2002 $545,000 $954,000 $399,313 $1,099,687
Year ended May 31, 2001 $400,000 $325,000 $180,000 $545,000
Valuation Allowance - Financing Receivables
Year ended May 31, 2003 $718,879 $473,885 $244,994
Year ended May 31, 2002 $- $718,879 $718,879
Reserve for obsolete inventory
Year ended May 31, 2003 $180,000 $100,000 $280,000
Year ended May 31, 2002 $150,000 $30,000 $180,000
Year ended May 31, 2001 $- $150,000 $150,000
Valuation Allowance - Deferred Tax Asset
Year ended May 31, 2003 $- $622,000 $622,000
Year ended May 31, 2002 $- $-
Year ended May 31, 2001 $14,665,000 $14,665,000 $-
Provision for warranty obligations
Year ended May 31, 2003 $991,000 $724,000 $927,000 $788,000
Year ended May 31, 2002 $1,055,000 $780,000 $844,000 $991,000
Year ended May 31, 2001 $387,000 $1,250,000 $582,000 $1,055,000
(a) accounts receivable written off, net of $15,000 in recoveries in fiscal 2003
Vasomedical, Inc. and Subsidiaries
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
----
Report of Independent Certified Public Accountants F-2
Financial Statements
Consolidated Balance Sheets as of May 31, 2003 and 2002 F-3
Consolidated Statements of Earnings for the
years ended May 31, 2003, 2002 and 2001 F-4
Consolidated Statement of Changes in Stockholders'
Equity for the years ended May 31, 2003, 2002 and 2001 F-5
Consolidated Statements of Cash Flows for the
years ended May 31, 2003, 2002 and 2001 F-6
Notes to Consolidated Financial Statements F-7 - F-19
F-1
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
Stockholders and Board of Directors
Vasomedical, Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of Vasomedical,
Inc. and Subsidiaries (the "Company") as of May 31, 2003 and 2002, and the
related consolidated statements of earnings, changes in stockholders' equity and
cash flows for each of the three fiscal years in the period ended May 31, 2003.
These financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements based
on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Vasomedical, Inc. and Subsidiaries as of May 31, 2003 and 2002, and the
consolidated results of their operations and their consolidated cash flows for
each of the three fiscal years in the period ended May 31, 2003, in conformity
with accounting principles generally accepted in the United States of America.
We have also audited Schedule II Valuation and Qualifying Accounts for each of
the three fiscal years in the period ended May 31, 2003. In our opinion, this
schedule, when considered in relation to the basic consolidated financial
statements taken as a whole, presents fairly, in all material respects, the
information set forth therein.
/s/ GRANT THORNTON LLP
- ----------------------
GRANT THORNTON LLP
Melville, New York
August 1, 2003
F-2
Vasomedical, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
May 31,
2003 2002
---- ----
ASSETS
CURRENT ASSETS
Cash and cash equivalents $5,222,847 $2,967,627
Accounts receivable, net of an allowance for doubtful accounts
of $768,629 and $1,099,687 at May 31, 2003 and 2002, respectively 7,377,118 12,682,725
Inventories 3,439,567 4,902,121
Deferred income taxes 303,000 3,033,000
Financing receivables, net 264,090 633,786
Other current assets 268,231 627,243
----------- -----------
Total current assets 16,874,853 24,846,502
PROPERTY AND EQUIPMENT, net 3,233,158 3,252,030
FINANCING RECEIVABLES, net 679,296 2,941,587
NOTES RECEIVABLE - 512,329
DEFERRED INCOME TAXES 14,279,000 9,658,000
OTHER ASSETS 261,243 207,810
----------- -----------
$35,327,550 $41,418,258
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable and accrued expenses $2,667,861 $3,645,846
Current maturities of long-term debt and notes payable 108,462 1,046,445
Sales tax payable 461,704 732,362
Deferred revenues 789,118 272,000
Accrued warranty and customer support expenses 575,000 588,334
Accrued professional fees 207,793 362,083
Accrued commissions 586,823 973,998
----------- -----------
Total current liabilities 5,396,761 7,621,068
LONG-TERM DEBT 1,177,804 1,072,716
ACCRUED WARRANTY COSTS 213,000 402,666
DEFERRED REVENUES 920,433 719,204
OTHER LIABILITIES 300,250 -
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY
Preferred stock, $.01 par value; 1,000,000 shares authorized;
none issued and outstanding - -
Common stock, $.001 par value; 110,000,000 shares authorized;
57,822,023 and 57,309,120 shares at May 31, 2003 and 2002,
respectively, issued and outstanding 57,822 57,309
Additional paid-in capital 50,623,316 50,116,148
Accumulated deficit (23,361,836) (18,570,853)
----------- -----------
27,319,302 31,602,604
----------- -----------
$35,327,550 $41,418,258
=========== ===========
The accompanying notes are an integral part of these statements.
F-3
Vasomedical, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF EARNINGS
Year ended May 31,
--------------------------------------------
2003 2002 2001
---- ---- ----
Revenues
Equipment sales $22,850,391 $29,304,349 $26,912,373
Equipment rentals and services 1,973,228 1,339,113 595,965
Equipment sold under sales-type leases - 4,187,009 -
----------- ----------- -----------
24,823,619 34,830,471 27,508,338
Cost of sales and services 9,251,221 10,538,731 7,910,359
----------- ----------- -----------
Gross profit 15,572,398 24,291,740 19,597,979
Expenses
Selling, general and administrative 13,714,913 13,686,958 11,634,965
Research and development 4,544,822 5,112,258 2,554,470
Provision for doubtful accounts 3,728,484 1,304,000 325,000
Interest and financing costs 186,574 98,140 48,294
Interest and other income, net (176,724) (249,722) (201,992)
----------- ----------- -----------
21,998,069 19,951,634 14,360,737
----------- ----------- -----------
EARNINGS (LOSS) BEFORE INCOME TAXES (6,425,671) 4,340,106 5,237,242
Income tax (expense) benefit, net 1,634,688 (1,554,000) 6,457,108
----------- ----------- -----------
NET EARNINGS (LOSS) $(4,790,983) $2,786,106 $11,694,350
=========== ========== ===========
Net earnings (loss) per common share
- basic $(.08) $.05 $.21
===== ==== ====
- diluted $(.08) $.05 $.20
===== ==== ====
Weighted average common shares outstanding
- basic 57,647,032 57,251,035 56,571,402
=========== ========== ===========
- diluted 57,647,032 59,468,092 59,927,199
=========== ========== ===========
The accompanying notes are an integral part of these statements.
F-4
Vasomedical, Inc. and Subsidiaries
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
Total
Additional Accum- stock-
Preferred stock Common stock paid-in ulated holders'
Shares Amount Shares Amount capital deficit equity
------ ------ ------ ------ --------- ------- ---------
Balance at June 1, 2000 - - 55,921,330 $55,921 $40,939,158 $(33,051,309) $7,943,770
Exercise of options and warrants 1,274,123 1,274 1,625,335 1,626,609
Stock options granted for services 35,000 35,000
Tax benefit of stock options and warrants
exercised in the current and prior years 7,209,000 7,209,000
Net earnings _ 11,694,350 11,694,350
------- ------ ---------- ------- ----------- ------------ -----------
Balance at May 31, 2001 - - 57,195,453 57,195 49,808,493 (21,356,959) 28,508,729
Exercise of options and warrants 113,667 114 199,529 199,643
Stock options granted for services 50,126 50,126
Tax benefit of stock options and warrants
exercised in the current year 58,000 58,000
Net earnings 2,786,106 2,786,106
------- ------ ---------- ------- ----------- ------------ -----------
Balance at May 31, 2002 - - 57,309,120 57,309 50,116,148 (18,570,853) 31,602,604
Exercise of options and warrants 512,903 513 234,487 235,000
Stock options granted for services 50,681 50,681
Tax benefit of stock options and warrants
exercised in the current year 222,000 222,000
Net loss (4,790,983) (4,790,983)
------- ------ ---------- ------- ----------- ------------ -----------
Balance at May 31, 2003 - - 57,822,023 $57,822 $50,623,316 $(23,361,836) $27,319,302
======= ====== ========== ======= =========== ============ ===========
The accompanying notes are an integral part of this statement.
F-5
Vasomedical, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year ended May 31,
-----------------
2003 2002 2001
---- ---- ----
Cash flows from operating activities
Net earnings (loss) $(4,790,983) $2,786,106 $11,694,350
Adjustments to reconcile net earnings (loss) ------------ ---------- -----------
to net cash provided by (used in) operating activities
Depreciation and amortization 1,132,996 962,167 587,541
Provision for doubtful accounts, net of write-offs 2,209,101 904,687 145,000
Reserve for inventory obsolescence 100,000 30,000 150,000
Deferred income taxes (1,669,000) 1,573,000 (6,597,000)
Stock options granted for services 50,681 50,126 35,000
Changes in operating assets and liabilities
Accounts receivable 5,643,288 (3,855,663) (5,043,939)
Financing receivables, net 118,126 (3,575,373) -
Inventories 1,079,976 (1,694,198) (4,460,572)
Other current assets 359,012 (183,356) 35,380
Other assets (79,082) (142,062) (90,251)
Accounts payable, accrued expenses and other current
liabilities (1,286,324) 443,649 3,833,781
Other liabilities 311,813 384,265 389,605
----------- ----------- -----------
7,970,587 (5,102,758) (11,015,455)
----------- ----------- -----------
Net cash provided by (used in) operating activities 3,179,604 (2,316,652) 678,895
----------- ----------- -----------
Cash flows from investing activities
Issuance of notes - (500,000) -
Purchase of property and equipment (326,489) (319,981) (1,578,415)
----------- ----------- -----------
Net cash used in investing activities (326,489) (819,981) (1,578,415)
----------- ----------- -----------
Cash flows from financing activities
Proceeds from notes 238,071 2,141,667 1,141,667
Payments on notes (1,070,966) (1,164,173) -
Restricted cash - 1,141,667 (1,141,667)
Proceeds from exercise of options and warrants 235,000 199,643 1,626,609
----------- ----------- -----------
Net cash provided by (used in) financing activities (597,895) 2,318,804 1,626,609
----------- ----------- -----------
NET INCREASE (DECREASE) IN
CASH AND CASH EQUIVALENTS 2,255,220 (817,829) 727,089
Cash and cash equivalents - beginning of year 2,967,627 3,785,456 3,058,367
----------- ----------- -----------
Cash and cash equivalents - end of year $5,222,847 $2,967,627 $3,785,456
=========== =========== ===========
Non-cash investing and financing activities were as follows:
Inventories transferred to property and equipment
attributable to operating leases, net $761,986 $1,130,020 $849,613
Supplemental disclosures:
Interest paid $186,574 $98,139 $48,294
Income taxes paid $87,963 $304,263 $10,749
The accompanying notes are an integral part of these statements.
F-6
Vasomedical, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
May 31, 2003, 2002 and 2001
NOTE A - BUSINESS ACTIVITIES AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Company was incorporated in Delaware in July 1987. During fiscal 1996,
the Company commenced the commercialization of its EECP external
counterpulsation system ("EECP"), a microprocessor-based medical device for the
noninvasive, outpatient treatment of patients with cardiovascular disease. EECP
is marketed worldwide to hospitals, clinics and other cardiac health care
providers. To date, a significant portion of the Company's revenues have been
generated from customers in the United States.
A summary of the significant accounting policies consistently applied in
the preparation of the consolidated financial statements follows:
Principles of Consolidation
The consolidated financial statements include the accounts of the Company,
its wholly-owned subsidiary and its inactive majority-owned subsidiary.
Significant intercompany accounts and transactions have been eliminated.
Revenue Recognition
The Company recognizes revenue from the sale of its EECP system in the
period in which the Company fulfills its obligations under the sale agreement,
which includes delivery and customer acceptance. The sale of EECP systems are
not subject to a right of return, other than for normal warranty matters, and
the Company is not obligated for post-sale upgrades to these systems. The
Company has also entered into lease agreements for its EECP system, generally
for terms of one year or less, that are classified as operating leases. Revenues
from operating leases are generally recognized, in accordance with the terms of
the lease agreements, on a straight-line basis over the life of the respective
leases. For certain operating leases in which payment terms are determined on a
"fee-per-use" basis, revenues are recognized as incurred (i.e., as actual usage
occurs). The cost of the EECP system utilized under operating leases is recorded
as a component of property and equipment and is amortized to cost of sales over
the estimated useful life of the equipment, not to exceed five years. There are
no significant minimum rental commitments on these operating leases at May 31,
2003. Revenues from the sale of extended warranties on the EECP system are
recognized on a straight-line basis over the life of the extended warranty,
ranging from one year to four years. Deferred revenues relate to extended
warranty fees that have been paid by customers prior to the performance of
extended warranty services.
The Company follows SFAS No. 13, "Accounting For Leases," for its sales of
EECP units under sales-type leases it presently has with one customer. In
accordance with SFAS No. 13, the Company records the sale and financing
receivable at the amount of the minimum lease payment, less unearned interest
income, which is computed at the interest rate implicit in the lease, and
executory costs, which are primarily related to product warranties on each unit
sold. Unearned interest income is amortized to income in a manner that produces
a constant rate of return on the investment in the sales-type lease. The cost of
the EECP unit acquired by the customer is recorded as cost of sales in the same
period that the sale is recorded.
Accounts Receivable/Financing Receivables
The Company's accounts receivable-trade are due from customers engaged in
the provision of medical services. Credit is extended based on evaluation of a
customer's financial condition and, generally, collateral is not required.
Accounts receivable are generally due 30 to 60 days from shipment and are stated
at amounts due from customers net of allowances for doubtful accounts, returns,
term discounts and other allowances. Accounts outstanding longer than the
contractual payment terms are considered past due. Estimates are used in
determining our allowance for doubtful accounts based on our historical
collections experience, current trends, credit policy and a percentage of our
accounts receivable by aging category. In determining these percentages, we look
at historical write-offs of our receivables. The Company also looks at the
credit quality of its customer base as well as changes in its credit policies.
The Company continuously monitors collections and payments from its customers.
While credit losses have historically been within expectations and the
F-7
provisions established, the Company cannot guarantee that it will continue to
experience the same credit loss rates that it has in the past.
The changes in the Company's allowance for doubtful accounts are as
follows:
May 31, 2003 May 31, 2002
------------ ------------
Beginning balance $1,099,687 $545,000
Provision for losses on accounts receivable 1,227,324 954,000
Direct write-offs (1,543,382) (399,313)
Recoveries (15,000) -
---------- ----------
Ending balance $768,629 $1,099,687
========== ==========
In addition, the Company periodically reviews and assesses the net
realizability of its receivables arising from sales-type leases. If this review
results in a lower estimate of the net realizable value of the receivable, an
allowance for the unrealized amount is established in the period in which the
estimate is changed. In the first quarter of fiscal 2003, management decided to
write-off financing receivables under sales-type leases of approximately
$2,558,000 as a result of significant uncertainties with respect to a major
customer's ability to meet its financial obligations (Note C).
The changes in the Company's allowance for financing receivables, which
primarily relates to balloon payments due at lease end, are as follows:
May 31, 2003 May 31, 2002
------------ ------------
Beginning balance $718,879
Provision for losses on financing receivables - $718,879
Direct write-offs (473,885) -
--------- --------
Ending balance $244,994 $718,879
======== ========
Concentrations of Credit Risk
The Company markets the EECP system principally to cardiologists,
hospitals, clinics and other health care providers. The Company performs credit
evaluations of its customers' financial condition and, as a consequence,
believes that its receivable credit risk exposure is limited. Receivables are
generally due 30 to 60 days from shipment. (See Notes C and D.)
For the years ended May 31, 2003, 2002 and 2001, no customer accounted for
10% or more of revenues. For the years ended May 31, 2003 and 2002, no customer
accounted for 10% or more of accounts receivable. At May 31, 2003 and 2002,
financing receivables were due from one and two customers, respectively.
The Company's revenues were derived from the following geographic areas
during the years ended May 31:
2003 2002 2001
------------ ----------- --------------
Domestic (United States) $23,701,619 $32,105,471 $26,093,388
Non-domestic 1,122,000 2,725,000 1,415,000
-------------- ------------- --------------
$24,823,619 $34,830,471 $27,508,388
============== ============= ==============
Inventories
The Company values inventory at the lower of cost or estimated market, cost
being determined on a first-in, first-out basis. The Company regularly reviews
inventory quantities on hand, particularly raw materials and components, and
records a provision for excess and obsolete inventory based primarily on
existing and anticipated design and engineering changes to our products as well
as forecasts of future product demand.
Property and Equipment
Property and equipment are stated at cost less accumulated depreciation and
amortization. Depreciation is provided over the estimated useful lives of the
assets, which range from three to thirty-nine years, on a straight-line basis.
Accelerated methods of depreciation are used for tax purposes. Leasehold
improvements are amortized over the useful life of the related leasehold
improvement or the life of the related lease, whichever is less.
F-8
Warranty Costs
Equipment sold is generally covered by a warranty period of one year. The
Company accrues a warranty reserve for estimated costs to provide warranty
services when the equipment sale is recognized. The factors affecting the
Company's warranty liability include the number of units sold and historical and
anticipated rates of claims and costs per claim. The Company periodically
assesses the adequacy of its warranty liability based on changes in these
factors. Warranty reserves related to units sold under sales-type leases are
recorded as executory costs, which serve to reduce the amount of financing
receivables reported in the consolidated balance sheets. The Company records
revenue on extended warranties on a straight-line basis over the term of the
related warranty contracts. Service costs are expensed as incurred.
Deferred revenues related to extended warranties are $1,709,551 and
$991,204 at May 31, 2003 and 2002, respectively.
The changes in the Company's product warranty liability are as follows:
May 31, 2003 May 31, 2002
------------ ------------
Beginning balance $991,000 $1,055,000
Expense for new warranties issued 724,000 780,000
Warranty claims (927,000) (844,000)
-------- ----------
Ending balance $788,000 $991,000
======== ==========
Research and Development
Research and development costs are expensed as incurred. Included in
research and development costs is amortization expense related to the cost of
EECP systems under loan for clinical trials.
Income Taxes
Deferred income taxes are recognized for temporary differences between
financial statement and income tax bases of assets and liabilities and loss
carryforwards for which income tax benefits are expected to be realized in
future years. A valuation allowance is established, when necessary, to reduce
deferred tax assets to the amount expected to be realized. In estimating future
tax consequences, the Company generally considers all expected future events
other than an enactment of changes in the tax laws or rates. The deferred tax
asset is continually evaluated for realizability. To the extent management's
judgment regarding the realization of the deferred tax assets change, an
adjustment to the allowance is recorded, with an offsetting increase or
decrease, as appropriate, in income tax expense. Such adjustments are recorded
in the period in which management's estimate as to the realizability of the
asset changed.
Deferred tax liabilities and assets shall be classified as current or
non-current based on the classification of the related asset or liability for
financial reporting. A deferred tax liability or asset that is not related to an
asset or liability for financial reporting, including deferred tax assets
related to carryforwards, shall be classified according to the expected reversal
date of the temporary difference. The deferred tax asset recorded by the Company
relates primarily to the realization of net operating loss carryforwards, of
which the allocation of the current portion reflects the expected utilization of
such net operating losses in fiscal 2004. Such allocation is based upon
management's internal financial forecast for fiscal 2004 and may be subject to
revision based upon actual results.
Shipping and Handling Costs
The Company includes all shipping and handling expenses incurred as a
component of cost of sales. Amounts billed to customers related to shipping and
handling costs are included as a component of sales.
Fair Value of Financial Instruments
The carrying amounts of cash and cash equivalents, accounts receivable and
accounts payable approximate fair value due to the short-term maturities of the
instruments. The carrying amount of the financing receivables approximates fair
value as the interest rates implicit in the leases approximate current market
interest rates for similar financial instruments. The carrying amounts of notes
payable and notes receivable approximate their fair values as the interest rates
of these instruments approximate the interest rates available on instruments
with similar terms and maturities.
F-9
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the amounts reported in
the financial statements and accompanying notes. Significant estimates and
assumptions relate to estimates of collectibility of accounts receivable and
financing receivables, the realizability of deferred tax assets, and the
adequacy of inventory and warranty reserves. Actual results could differ from
those estimates.
Net Earnings (Loss) Per Common Share
Basic earnings (loss) per share are based on the weighted average number of
common shares outstanding without consideration of potential common stock.
Diluted earnings (loss) per share are based on the weighted number of common and
potential common shares outstanding. The calculation takes into account the
shares that may be issued upon the exercise of stock options and warrants,
reduced by the shares that may be repurchased with the funds received from the
exercise, based on the average price during the period. Options and warrants to
purchase 6,190,753, 2,432,167 and 893,000 shares of common stock were excluded
from the computation of diluted earnings (loss) per share as of May 31, 2003,
2002 and 2001, respectively, because the effect of their inclusion would be
antidilutive.
The following table sets forth the computation of basic and diluted
earnings (loss) per share:
For the fiscal year ended May 31,
---------------------------------
2003 2002 2001
---- ---- ----
Numerator:
Basic and diluted earnings (loss) $(4,790,983) $2,786,106 $11,694,350
========== ========== ==========
Denominator:
Basic - weighted average shares 57,647,032 57,251,035 56,571,402
Stock options - 1,624,744 2,270,094
Warrants - 592,313 1,085,703
---------- ---------- ----------
Diluted - weighted average shares 57,647,032 59,468,092 59,927,199
========== ========== ==========
Earnings (loss) per share - basic $(.08) $.05 $.21
===== ==== ====
- diluted $(.08) $.05 $.20
===== ==== ====
Stock Compensation
The Company has four stock-based employee compensation plans, which are
described more fully in Note H. The Company accounts for stock-based
compensation using the intrinsic value method in accordance with Accounting
Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees," and
related Interpretations ("APB No. 25") and has adopted the disclosure provisions
of Statement of Financial Accounting Standards No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure, an amendment of FASB
Statement No. 123." under APB No. 25, when the exercise price of the Company's
employee stock options equals the market price of the underlying stock on the
date of grant, no compensation expense is recognized. Accordingly, no
compensation expense has been recognized in the consolidated financial
statements in connection with employee stock option grants.
The following table illustrates the effect on net income and earnings per
share had the Company applied the fair value recognition provisions of Statement
of Financial Accounting Standards No. 123, "Accounting for Stock- Based
Compensation," to stock-based employee compensation.
For the fiscal year ended May 31,
---------------------------------
2003 2002 2001
---- ---- ----
Net earnings (loss), as reported $(4,790,983) $2,786,106 $11,694,350
Deduct: Total stock-based employee compensation
expense determined under fair value-based method
for all awards (917,281) (1,143,120) (1,311,660)
------------ ---------- -----------
Pro forma net earnings (loss) $(5,708,264) $1,642,986 $10,382,690
============ ========== ===========
Earnings (loss) per share:
Basic - as reported $(.08) $.05 $.21
Diluted - as reported $(.08) $.05 $.20
Basic - pro forma $(.10) $.03 $.18
Diluted - pro forma $(.10) $.03 $.17
F-10
Pro forma compensation expense may not be indicative of future disclosures
because it does not take into effect pro forma compensation expense related to
grants before 1995. For purposes of estimating the fair value of each option on
the date of grant, the Company utilized the Black-Scholes option-pricing model.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options, which 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. 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 its employee stock options.
The fair value of the Company's stock-based awards was estimated assuming
no expected dividends and the following weighted-average assumptions:
Fiscal year ended May 31, 2003 2002 2001
------------------------- ---- ---- ----
Expected life (years) 5 5 5
Expected volatility 89% 86% 80%
Risk-free interest rate 3.0% 3.9% 5.2%
Equity instruments issued to nonemployees in exchange for goods, fees and
services are accounted for under the fair value-based method of SFAS No. 123.
Statements of Cash Flows
The Company considers highly liquid temporary cash investments with an
original maturity of three months or less to be cash equivalents. Cash
equivalents consist principally of money market funds. The market value of the
cash equivalents approximates cost.
Impact of New Accounting Pronouncements
In August 2001, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets"
("SFAS No. 144"). SFAS No. 144 supersedes SFAS No. 121 "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" and
Accounting Principles Board Opinion No. 30, "Reporting Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary,
Unusual and Infrequently Occurring Events and Transactions." This statement
retains the fundamental provisions of SFAS No. 121 for recognition and
measurement of impairment, but amends the accounting and reporting standards for
segments of a business to be disposed of. The new rules were effective for the
Company on June 1, 2002. The adoption of SFAS No. 144 did not have a material
effect on the Company's financial position or results of operations.
In December 2002, the FASB issued SFAS No. 148, "Accounting for Stock-Based
Compensation - Transition and Disclosure" ("SFAS 148") which addresses financial
accounting and reporting for recording expenses for the fair value of stock
options. SFAS 148 provides alternative methods of transition for a voluntary
change to fair value based method of accounting for stock-based employee
compensation. Additionally, SFAS No. 148 requires more prominent and more
frequent disclosures in financial statements about the effects of stock-based
compensation. The provisions of this Statement are effective for fiscal years
ending after December 15, 2002. The adoption of SFAS No. 148 did not have a
material impact on the financial position or results of operations of the
Company.
In April 2003, the FASB issued Statement of Financial Accounting Standards
No. 149 ("SFAS No. 149"), "Amendment of Statement 133 on Derivative Instruments
and Hedging Activities," which amends and clarifies financial accounting and
reporting for derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities under SFAS No. 133. SFAS
No. 149 is effective for contracts entered into or modified after June 30, 2003
except for the provisions that were cleared by the FASB in prior pronouncements.
The Company is currently evaluating the effect of the adoption of SFAS No. 149
on its financial position and results of operations.
In May 2003, the FASB issued Statement of Financial Accounting Standards
No. 150 ("SFAS No. 150"), "Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity." This statement establishes
standards for how an issuer classifies and measures in its statement of
F-11
financial position certain financial instruments with characteristics of both
liabilities and equity. In accordance with the standard, financial instruments
that embody obligations for the issuer are required to be classified as
liabilities. This Statement shall be effective for financial instruments entered
into or modified after May 31, 2003, and otherwise shall be effective at the
beginning of the first interim period beginning after June 15, 2003. The Company
is currently evaluating the effect of the adoption of SFAS No. 150 on its
financial position and results of operations.
In November 2002, the FASB issued FASB Interpretation No. 45, "Guarantor's
Accounting and Disclosure Requirements for Guarantees, Including Indirect
Guarantees of Indebtedness of Others" ("FIN 45"). FIN 45 requires that upon
issuance of a guarantee, a guarantor must recognize a liability for the fair
value of an obligation assumed under a guarantee. FIN 45 also requires
additional disclosures by a guarantor in its interim and annual financial
statements about the obligations associated with guarantees issued. The
recognition provisions of FIN 45 are effective for any guarantees issued or
modified after December 31, 2002. The disclosure requirements are effective for
financial statements of interim or annual periods ending after December 15,
2002. The adoption of FIN 45 did not have a material impact on the Company's
financial position or results of operations.
In January 2003, the FASB issued FASB Interpretation No. 46 "Consolidation
of Variable Interest Entities" ("FIN 46"). In general, a variable interest
entity is a corporation, partnership, trust, or any other legal structure used
for business purposes that either (a) does not have equity investors with voting
rights or (b) has equity investors that do not provide sufficient financial
resources for the entity to support its activities. A variable interest entity
often holds financial assets, including loans or receivables, real estate or
other property. A variable interest entity may be essentially passive or it may
engage in activities on behalf of another company. Until now, a company
generally has included another entity in its consolidated financial statements
only if it controlled the entity through voting interests. FIN 46 changes that
by requiring a variable interest entity to be consolidated by a company if that
company is subject to a majority of the risk of loss from the variable interest
entity's activities or entitled to receive a majority of the entity's residual
returns or both. FIN 46's consolidation requirements apply immediately to
variable interest entities created or acquired after January 31, 2003. The
consolidation requirements apply to older entities in the first fiscal year or
interim period beginning after June 15, 2003. Certain of the disclosure
requirements apply in all financial statements issued after January 31, 2003,
regardless of when the variable interest entity was established. The Company
adopted FIN 46 effective January 31, 2003. The adoption of FIN 46 did not have a
material impact on the Company's financial position or results of operations.
In November 2002, the Emerging Issues Task Force reached a consensus
opinion of EITF 00-21, "Revenue Arrangements with Multiple Deliverables". That
consensus provides that revenue arrangements with multiple deliverables should
be divided into separate units of accounting if certain criteria are met. The
consideration of the arrangement should be allocated to the separate units of
accounting based on their relative fair values, with different provisions if the
fair value is contingent on delivery of specified items or performance
conditions. Applicable revenue criteria should be considered separately for each
separate unit of accounting. EITF 00-21 is effective for revenue arrangements
entered into in fiscal periods beginning after June 15, 2003. Entities may elect
to report the change as a cumulative effect adjustment in accordance with APB
Opinion 20, "Accounting Changes." The Company is currently evaluating the impact
of the adoption of EITF 00-21 on its financial statements.
NOTE B - INVENTORIES
May 31,
------
Inventories consist of the following: 2003 2002
---- ----
Raw materials $1,374,241 $2,661,303
Work in progress 634,890 547,818
Finished goods 1,430,436 1,693,000
---------- ----------
$3,439,567 $4,902,121
========== ==========
NOTE C - RECEIVABLES FROM A MAJOR CUSTOMER
Under a multi-year sales contract, the Company sold equipment (EECP units)
to a customer engaged in establishing a national network of EECP centers under
sales-type leases aggregating revenues of $3,160,792 in fiscal 2002. No
additional equipment has been sold to this customer during fiscal 2003. At
F-12
August 31, 2002, financing receivables of approximately $2,558,000 from these
sales-type lease transactions with this customer were outstanding. In addition,
in March 2002, the Company provided a $500,000 unsecured loan to this customer.
This financing was part of an aggregate $3.2 million credit facility, subject to
certain conditions, executed by the customer with the Company and an
unaffiliated lender in January 2002, under which the Company had no further
financing obligation. The customer issued two notes to the Company of $250,000
each in connection with two EECP centers that bore interest at 18% per annum and
were scheduled to mature in September 2005. Payments of principal and interest
under these notes was scheduled to commence in April 2003 in varying amounts
determined by a formula based upon cash generated, as defined in the loan
agreement.
In late August 2002, this customer became delinquent in its scheduled
monthly payments under its financing obligations to the Company. In September,
the Company was notified by this customer of recent circumstances that precluded
their ability to remain current under their financing obligations to the
Company. Based on their situation, for which the customer was attempting to
remedy through a recapitalization, significant uncertainties existed in
connection with the ongoing viability of their business. Accordingly, management
decided to write-off, in full, all funds due from this customer as of August 31,
2002, which aggregated approximately $3,000,000, including the present carrying
amount of the underlying equipment due to the uncertainty of the Company's
ability to repossess the equipment. During the second quarter of fiscal 2003,
the customer ceased operations and the Company was able to successfully recover
all of the units that it had sold under sales-type leases to the customer back
into its finished goods inventory and recorded a bad debt recovery of $479,000,
which represented the present carrying amount of the equipment. The Company has
redeployed certain pieces of the equipment while other pieces have been returned
to the Company's inventory for resale.
NOTE D - FINANCING RECEIVABLES
The following table shows the future minimum rentals receivable under
sales-type leases and future minimum lease payments and obligations under
capital leases in effect for the fiscal years ended May 31:
2004 $348,302
2005 835,288
2006 178,896
---------
Total minimum lease payments 1,362,486
Less estimated executory costs (46,661)
---------
Net minimum lease payments 1,315,825
Less interest (127,445)
---------
Present value of minimum lease payments 1,188,380
Less valuation allowance (244,994)
---------
Net financing receivables 943,386
Less current portion (264,090)
---------
Long-term portion $679,296
=========
These sales-type leases are for a term of three years. The annual minimum
lease payments are subject to adjustment based on usage of the leased units in
accordance with the provisions of the lease agreements.
NOTE E - PROPERTY AND EQUIPMENT
May 31,
------
Property and equipment is summarized as follows: 2003 2002
---- ----
Land $200,000 $200,000
Building and improvements 1,376,106 1,366,855
Office, laboratory and other equipment 1,111,827 794,801
EECP units under operating leases or
under loan for clinical trials 2,617,624 2,174,000
Furniture and fixtures 148,164 148,164
Leasehold improvements 117,803 117,803
--------- ----------
5,571,524 4,801,623
Less accumulated depreciation and
amortization (2,338,366) (1,549,593)
---------- ----------
$3,233,158 $3,252,030
========== ==========
F-13
NOTE F - LONG-TERM DEBT AND LINE OF CREDIT AGREEMENT
May 31,
-------
2003 2002
----------------- -----------------
Revolving credit agreement (a) $1,000,000
Term loans (b) (c) $1,286,266 1,119,161
----------------- -----------------
1,286,266 2,119,161
Less current portion (108,462) (1,046,445)
----------------- -----------------
$1,177,804 $1,072,716
================= =================
(a) In February 2002, the Company renegotiated a secured revolving credit
line with its existing bank. The credit line provided for borrowings up to
$15,000,000, based upon eligible accounts receivable, as defined therein, at the
Libor Rate plus 150 basis points (3.4% at May 31, 2002). At May 31, 2002,
approximately $3,600,000 of the line was available of which there were
outstanding borrowings of $1,000,000. Under the terms of the agreement, which
expires in February 2005, the Company is required to meet certain quarterly
covenants, including leverage ratio, liquidity, capital expenditures, minimum
net income, minimum interest coverage and minimum tangible net worth. In
addition, the line is secured by substantially all the tangible assets of the
Company. In October 2002, the credit line was further amended to provide for
borrowings up to $5,000,000 ($2,000,000, at any time that consolidated net
income for the immediately preceding three-month period is less than $1),
primarily based upon eligible accounts receivable, as defined therein, at the
Libor Rate plus 200 basis points or the published Prime Rate plus 50 basis
points. In April 2003, the agreement was further amended to allow for borrowings
absent compliance with the financial covenants as long as such eligible
borrowings are collateralized by cash. In April 2003, the Company repaid all
outstanding borrowings under the agreement instead of maintaining restricted
cash balances. At May 31, 2003, the Company did not meet minimum interest
coverage and tangible net worth covenants and future compliance with each of
these covenants in the near term is not certain.
(b) The Company purchased its headquarters and warehouse facility and
secured notes of $641,667 and $500,000, respectively, under two programs
sponsored by New York State. These notes, which bear interest at 7.8% and 6%,
respectively, are payable in monthly installments consisting of principal and
interest payments over fifteen- year terms, expiring in September 2016 and
January 2017, respectively, and are secured by the building. At May 31, 2003 and
2002, $1,072,717 and $1,119,161, respectively, were outstanding in connection
with these notes.
(c) In fiscal 2003, the Company financed the cost and implementation of a
management information system and secured several notes, aggregating
approximately $238,000. The notes, which bear interest at rates ranging from
7.5% through 8.7%, are payable in monthly installments consisting of principal
and interest payments over four-year terms, expiring at various times between
August and October 2006. At May 31, 2003, $213,549 was outstanding in connection
with these notes.
Maturities of long-term debt are as follows at May 31, 2003:
2004 $108,462
2005 117,019
2006 126,263
2007 83,506
2008 65,769
Thereafter 785,247
----------------
$1,286,266
================
NOTE G - STOCKHOLDERS' EQUITY AND WARRANTS
In fiscal 2001, warrants to purchase 776,212 shares of common stock were
exercised, aggregating $1,143,000 in proceeds to the Company. In fiscal 2002,
warrants to purchase 15,000 shares of common stock were exercised, aggregating
$31,200 in proceeds to the Company. In fiscal 2003, warrants to purchase 500,000
shares of common stock were exercised, aggregating $225,000 in proceeds to the
Company.
The outstanding warrants expire in October 2006. Warrant activity for the
years ended May 31, 2001, 2002 and 2003 is summarized as follows:
Employees Consultants Total Price Range
--------- ----------- ----- -----------
Balance at June 1, 2000 750,000 868,712 1,618,712 $.45 - $2.08
Exercised (250,000) (526,212) (776,212) $.45 - $2.08
-------- -------- --------- ------------
F-14
Balance at May 31, 2001 500,000 342,500 842,500 $.45 - $2.08
Exercised (15,000) (15,000) $2.08
-------- -------- --------- ------------
Balance at May 31, 2002 500,000 327,500 827,500 $.45 - $2.08
Exercised (500,000) (500,000) $.45
Canceled (127,500) (127,500) $2.08
-------- -------- --------- ------------
Balance at May 31, 2003 - 200,000 200,000 $.91
======== ======== ========= ============
Number of shares exercisable - 200,000 200,000 $.91
======== ======== ========= ============
NOTE H - OPTION PLANS
1995 Stock Option Plan
In May 1995, the Company's stockholders approved the 1995 Stock Option Plan
for officers and employees of the Company, for which the Company reserved an
aggregate of 1,500,000 shares of common stock. In December 1997, the Company's
Board of Directors terminated the 1995 Stock Option Plan with respect to new
option grants.
Outside Director Stock Option Plan
In May 1995, the Company's stockholders approved an Outside Director Stock
Option Plan for non-employee directors of the Company, for which the Company
reserved an aggregate of 300,000 shares of common stock. In December 1997, the
Company's Board of Directors terminated the Outside Director Stock Option Plan
with respect to new option grants.
1997 Stock Option Plan
In December 1997, the Company's stockholders approved the 1997 Stock Option
Plan (the "1997 Plan") for officers, directors, employees and consultants of the
Company, for which the Company has reserved an aggregate of 1,800,000 shares of
common stock. The 1997 Plan provides that it will be administered by a committee
of the Board of Directors of the Company and that the committee will have full
authority to determine the identity of the recipients of the options and the
number of shares subject to each option. Options granted under the 1997 Plan may
be either incentive stock options or non-qualified stock options. The option
price shall be 100% of the fair market value of the common stock on the date of
the grant (or in the case of incentive stock options granted to any individual
principal stockholder who owns stock possessing more than 10% of the total
combined voting power of all voting stock of the Company, 110% of such fair
market value). The term of any option may be fixed by the committee but in no
event shall exceed ten years from the date of grant. Options are exercisable
upon payment in full of the exercise price, either in cash or in common stock
valued at fair market value on the date of exercise of the option. The term for
which options may be granted under the 1997 Plan expires August 6, 2007.
In January 1999, the Company's Board of Directors increased the number of
shares authorized for issuance under the 1997 Plan by 1,000,000 shares to
2,800,000 shares. At May 31, 2003, there were 173,168 shares available for
future grants under the 1997 Plan.
1999 Stock Option Plan
In July 1999, the Company's Board of Directors approved the 1999 Stock
Option Plan (the "1999 Plan"), for which the Company reserved an aggregate of
2,000,000 shares of common stock. The 1999 Plan provides that it will be
administered by a committee of the Board of Directors of the Company and that
the committee will have full authority to determine the identity of the
recipients of the options and the number of shares subject to each option.
Options granted under the 1999 Plan may be either incentive stock options or
non-qualified stock options. The option price shall be 100% of the fair market
value of the common stock on the date of the grant (or in the case of incentive
stock options granted to any individual principal stockholder who owns stock
possessing more than 10% of the total combined voting power of all voting stock
of the Company, 110% of such fair market value). The term of any option may be
fixed by the committee but in no event shall exceed ten years from the date of
grant. Options are exercisable upon payment in full of the exercise price,
either in cash or in common stock valued at fair market value on the date of
exercise of the option. The term for which options may be granted under the 1999
Plan expires July 12, 2009. In July 2000, the Company's Board of Directors
increased the number of shares authorized for issuance under the 1999 Plan by
1,000,000 shares to 3,000,000 shares. In December 2001, the Board of Directors
of the Company increased the number of shares authorized for issuance under the
1999 Plan by 2,000,000 shares to 5,000,000 shares.
F-15
In January 2001, the Board of Directors granted stock options under the
1999 Plan to a consultant to purchase 25,000 shares of common stock at an
exercise price of $3.81 per share (which represented the fair market value of
the underlying common stock at the time of the respective grant). The Company
charged $60,000 to operations over the one-year period in which services were
rendered. In December 2001, the Board of Directors granted stock options under
the 1999 Plan to a consultant to purchase 25,000 shares of common stock at an
exercise price of $2.95 per share (which represented the fair market value of
the underlying common stock at the time of the respective grant). These stock
options were fair-valued at $50,250 which the Company charged to operations over
the one-year period in which services were rendered. During fiscal 2003, 2002
and 2001, the Company charged $25,000, $50,000 and $35,000, respectively, to
operations for these grants.
In fiscal 2003, the Board of Directors granted stock options under the 1999
Plan to directors and employees to purchase an aggregate of 1,175,000 shares of
common stock, at exercise prices ranging from $.71 to $1.67 per share (which
represented the fair market value of the underlying common stock at the time of
the respective grants). At May 31, 2003, there were 1,265,500 shares available
for future grants under the 1999 Plan.
Activity under all the plans for the years ended May 31, 2001, 2002 and
2003 is summarized as follows:
Outstanding Options
Shares Available Number of Shares Exercise Weighted Average
--------------------- Price per Share Exercise Price
for Grant
---------------------- ----------------- ---------------------- ------------------------
Balance at June 1, 2000 905,168 4,143,734 $.75 - $5.15 $1.76
Shares authorized 1,000,000
Options granted (798,000) 798,000 $2.66 - $5.00 $4.00
Options exercised - (497,911) $.75 - $3.44 $.97
Options canceled 111,000 (111,000) $.75 - $3.47 $1.90
----------------- ------------------- ------------------------ ----------------
Balance at May 31, 2001 1,218,168 4,332,823 $.78 - $5.15 $2.26
Shares authorized 2,000,000
Options granted (1,084,100) 1,084,100 $1.78 - $4.02 $3.61
Options exercised - (98,667) $.88 - $2.44 $1.71
Options canceled 125,333 (125,333) $.88 - $5.00 $3.90
----------------- ------------------- ------------------------ ----------------
Balance at May 31, 2002 2,259,401 5,192,923 $.78 - $5.15 $2.51
Options granted (1,175,000) 1,175,000 $.71 - $1.67 $.95
Options exercised - (12,903) $.78 $.78
Options canceled 354,267 (364,267) $.88 - $5.15 $3.77
----------------- ------------------- ------------------------ ----------------
Balance at May 31, 2003 1,438,668 5,990,753 $.71 - $5.15 $2.13
================= =================== ======================== ================
The following table summarizes information about stock options outstanding
and exercisable at May 31, 2003.
Options Outstanding Options Exercisable
------------------------------------------------- --------------------------------
Weighted
Average
Number Remaining Weighted Number Weighted
Outstanding at Contractual Average Exercisable at Average
May 31, 2003 Life (yrs.) Exercise Price May 31, 2003 Exercise
Range of Exercise Prices Price
- ----------------------------- ------------------ ---------------- --------------- ----------------- --------------
$.71 - $1.00 2,101,876 6.9 $0.90 1,021,876 $0.86
$1.22 - $1.78 973,250 6.5 $1.37 673,250 $1.40
$1.91 - $2.78 820,127 5.1 $2.00 778,460 $1.97
$2.89 - $4.28 1,892,500 6.5 $3.66 1,186,500 $3.62
$4.59 - $5.15 203,000 7.0 $4.83 153,667 $4.87
------------------ ---------------- --------------- ----------------- --------------
5,990,753 6.5 $2.13 3,813,753 $2.20
================== ================ =============== ================= ==============
The weighted-average fair value of options granted during fiscal 2003, 2002
and 2001 was $.95, $2.50 and $2.73, respectively. At May 31, 2003, there were
approximately 11,823,000 remaining authorized shares of common stock after
reserves for all stock option plans, stock warrants and shareholders' rights.
F-16
NOTE I - INCOME TAXES
In fiscal 2003, the Company recorded a benefit for income taxes of
$1,634,688, inclusive of $256,312 in current tax expense and a deferred tax
benefit of $1,891,000. In fiscal 2002, the Company recorded an expense for
income taxes of $1,554,000, inclusive of $39,000 in current tax expense and a
deferred tax expense of $1,515,000. In fiscal 2001, the Company recorded a
benefit for income taxes of $6,457,108, inclusive of $139,892 in current tax
expense principally resulting from the federal alternative minimum tax and a
deferred tax benefit of $6,597,000 resulting principally from the change in the
valuation allowance.
The Company's deferred tax assets are summarized as follows:
May 31,
---------------------------------------
2003 2002 2001
---- ---- ----
Deferred tax assets
Net operating loss and other carryforwards $13,368,000 $11,344,000 $13,422,000
Accrued compensation 153,000 - -
Bad debts 244,000 493,000 178,000
Other 1,439,000 854,000 606,000
----------- ------------ -----------
Total gross deferred tax assets 15,204,000 12,691,000 14,206,000
Valuation allowance (622,000) - -
----------- ------------ -----------
Net deferred tax assets $14,582,000 $12,691,000 $14,206,000
=========== =========== ===========
The fiscal 2003 deferred tax benefit does not include the tax benefit
associated with the current exercises of stock options and warrants, aggregating
$222,000, which was credited directly to additional paid-in capital in the
current year.
The fiscal 2002 tax expense does not include the tax benefit associated
with the current exercises of stock options and warrants, aggregating $58,000,
which was credited directly to additional paid-in capital in such year.
The fiscal 2001 deferred tax benefit does not include the tax benefit
associated with the current and prior years' exercises of stock options and
warrants, aggregating $7,209,000, which was credited directly to additional
paid- in capital in such year.
As of May 31, 2001, management determined that no valuation allowance was
required based upon its financial performance, which was positively affected by
the availability of Medicare coverage and reimbursement and the increasing
acceptance by the medical community of the Company's cost-effective and
noninvasive therapy system. In addition, the Company's assessment of the
cardiovascular disease marketplace, which includes favorable patient
demographics and unmet clinical needs, provides a substantial economic
opportunity and anticipated future earnings stream with respect to current and
prospective clinical applications for its products. Ultimate realization of the
deferred tax assets is dependent upon the Company generating sufficient taxable
income prior to the expiration of the loss carryforwards. Although realization
is not assured, management believes it is more likely than not that the net
deferred tax assets will be realized. The amount of the deferred tax assets
considered realizable, however, could be reduced in the future if estimates of
future taxable income during the carryforward period are reduced.
At May 31, 2003, the Company had net operating loss carryforwards for
Federal income tax purposes of approximately $39,315,000, expiring at various
dates from 2005 through 2021.
The following is a reconciliation of the effective income tax rate to the
federal statutory rate:
2003 2002 2001
Amount % Amount % Amount %
---------------- -------- --------------- --------- --------------- ----------
Federal statutory rate $(2,185,000) (34.0) $1,475,000 34.0 $1,781,000 34.0
State taxes, net 34,000 .5 56,000 1.3 65,000 1.2
Permanent differences 33,320 .5 23,000 .5 67,300 1.3
Utilization of net operating loss - - (1,781,000) (34.0)
Change in valuation allowance
F-17
relating to operations 622,000 9.7 - (6,719,000) (128.3)
Other (139,008) (2.1) - 129,592 2.5
---------------- -------- --------------- --------- --------------- ----------
$(1,634,688) (25.4) $1,554,000 35.8 $(6,457,108) (123.3)
================ ======== =============== ========= =============== ==========
Under current tax law, the utilization of tax attributes will be restricted
if an ownership change, as defined, were to occur. Section 382 of the Internal
Revenue Code provides, in general, that if an "ownership change" occurs with
respect to a corporation with net operating and other loss carryforwards, such
carryforwards will be available to offset taxable income in each taxable year
after the ownership change only up to the "Section 382 Limitation" for each year
(generally, the product of the fair market value of the corporation's stock at
the time of the ownership change, with certain adjustments, and a specified
long-term tax-exempt bond rate at such time). The Company's ability to use its
loss carryforwards would be limited in the event of an ownership change.
NOTE J - COMMITMENTS AND CONTINGENCIES
Employment Agreements
In October 2002, the Company and its Chief Executive Officer entered into a
termination and consulting agreement, whereby the employment agreement that had
previously existed between the parties was terminated. As a result of this
termination, the Company will pay to the former employee a severance payment of
$240,000 in equal monthly installments through October 31, 2003. The Company
recorded a charge to operations during the three-month period ended November 30,
2002 to reflect this obligation. The consulting agreement, which expires on
December 31, 2003, provides for a consulting fee of $40,000 to be paid in equal
monthly installments over the term of the agreement. Further, the consulting
agreement provides for the continued vesting of stock options that had been
previously granted to the employee which would have otherwise vested during the
term of the agreement. The terms of the original option grants provided for
vesting throughout the period that the former employee was employed by or
provided services to the Company. There were no other modifications to any of
the previously granted stock options. The Company measured the fair value of the
unvested options as of the date of the termination and consulting agreement and
has recorded a charge to operations of approximately $25,000 as a result of this
modification.
In October 2002, the Company entered into an employment agreement with its
new President and Chief Operating Officer. The agreement, which expires in
October 2004, provides for certain settlement benefits, including a lump-sum
payment of twelve months of base salary in the event of a change of control, as
defined, or a termination payment in an amount equal to six months of base
salary in the event of termination without cause, as defined. Such agreement was
modified on June 30, 2003 reflecting this employee's promotion to President and
Chief Executive Officer.
The approximate aggregate minimum compensation obligation under active
employment agreements at May 31, 2003 are summarized as follows:
Fiscal Year Amount
----------- -------
2004 $398,000
2005 204,000
--------
$602,000
========
Leases
The Company leases additional warehouse space under two noncancelable
operating leases, of which one expires on October 31, 2003 and the other on
September 30, 2006. Rent expense was $99,000, $85,000 and $69,000 in fiscal
2003, 2002 and 2001, respectively.
Approximate aggregate minimum annual obligations under these lease
agreements and other equipment leasing agreements at May 31, 2003 are summarized
as follows:
Fiscal Year Amount
----------- ------
2004 $61,000
2005 42,000
2006 37,000
2007 12,000
--------
$152,000
========
F-18
Litigation
In June 2001, an action was commenced in the New York Supreme Court, Nassau
County, against the Company by the former holder of a warrant to purchase
100,000 shares of the Company's stock seeking undefined damages based upon a
claim that the Company breached an agreement to register the common shares
underlying the warrant at the "earliest practicable date" after due demand by
the warrant holder had been made. In October 2002, the Company settled this
matter for $600,000 through the execution of an agreement that enables the
Company to satisfy this obligation over a four-year period ($200,000 in fiscal
2003, $100,000 in fiscal 2004, $133,000 each in fiscal years 2005 and 2006 and
$34,000 in fiscal 2007). Accordingly, the Company recorded a $600,000 charge to
operations in fiscal 2003. In December 2002, the Company paid $200,000 to the
warrant holder pursuant to the terms of the settlement agreement.
In or about late June 2002, the Company was notified by a letter from the
domestic counsel for Foshan Life Sciences Co. Ltd. ("FLSC"), a joint venture
comprised of a Florida company and Vamed Medical Instrument Company Limited
("Vamed"), a Chinese company with whom the Company had an agreement to
manufacture the Company's EECP Model MC2 system, that FLSC was initiating an
arbitration proceeding before the Hong Kong International Arbitration Council
("HKIAC") to recover compensatory and punitive damages in excess of $1,000,000
and injunctive relief based upon claims of breach of the manufacturing
agreement, tortious interference and misappropriation of confidential
information and trade secrets. Although possessing several substantive defenses
to these claims, the Company initially has challenged the HKIAC's right to hear
and determine the dispute on the ground that FLSC is neither a legitimate nor
recognized party to the manufacturing agreement which provides for such
arbitration and, therefore, is not entitled to enforce the same. The Company
demanded on July 3, 2002 that FLSC deposit with the HKIAC security to cover the
Company's costs of arbitration. To date, FLSC has neither responded to the
Company's demand for security nor apparently filed a formal statement of claim
with the HKIAC.
401(k) Plan
In April 1997, the Company adopted the Vasomedical, Inc. 401(k) Plan to
provide retirement benefits for its employees. As allowed under Section 401(k)
of the Internal Revenue Code, the plan provides tax-deferred salary deductions
for eligible employees. Employees are eligible to participate in the next
quarter enrollment period after employment. Participants may make voluntary
contributions to the plan up to 15% of their compensation. In fiscal 2003 and
2002, the Company made discretionary contributions of approximately $35,000 and
$20,000, respectively, to match a percentage of employee contributions. No
Company contributions were made for the fiscal year ended May 31, 2001.
Purchase Commitments
At May 31, 2003, the Company had no outstanding purchase commitments with
FLSC, a Chinese company that has assumed the operational activities of Vamed,
another Chinese company, for the manufacture of its earlier- generation EECP
Model MC2 system. At May 31, 2002, such outstanding commitments were $324,000.
Requirements for this earlier-generation system are expected to be minimal, if
any, and the Company believes that FLSC will be able to meet any future needs
for this system.
NOTE K - SUMMARY OF QUARTERLY FINANCIAL DATA (UNAUDITED)
The following is a summary of the Company's unaudited quarterly operating
results for the years ended May 31, 2003 and 2002.
Three months ended
--------------------------------------------------------------------------------------------------
(in 000s except May 31, Feb. 28, Nov. 30, Aug. 31, May 31, Feb. 28, Nov. 30, Aug. 31,
Earnings (loss) per 2003 2003 2002 2002 2002 2002 2001 2001
share data) (c) (b) (a) (a) (a) (a)
- ----------------------- ----------- ----------- ------------- ------------ ----------- ----------- ----------- -----------
Revenues $6,488 $7,153 $6,644 $4,539 $8,641 $8,019 $8,544 $9,626
Gross Profit $3,970 $4,383 $4,640 $2,580 $6,083 $5,382 $5,980 $6,847
Net Earnings (Loss) $14 $26 $(597) $(4,234) $440 $98 $1,005 $1,243
F-19
Earnings (loss) per
share - basic $.00 $.00 $(.01) $(.07) $.01 $.00 $.02 $.02
- diluted $.00 $.00 $(.01) $(.07) $.01 $.00 $.02 $.02
Weighted average
common shares
outstanding -
- basic 57,817 57,809 57,658 57,478 57,309 57,281 57,207 57,198
- diluted 58,453 58,078 57,658 57,478 59,256 59,469 59,364 59,776
(a) Revenues were favorably impacted from equipment sold under sales-type
leases in fiscal 2002, while no such sales-type leases were offered in
fiscal 2003. Revenues from equipment sold under sales-type leases for
the first through fourth quarters of fiscal 2002 were $1,830, $754,
$880 and $723, respectively.
(b) Net Loss for the first quarter of fiscal 2003 was adversely affected
by the write-off of approximately $3,000 related to significant
uncertainties related to the ability of a major customer to satisfy
its financial obligations to the Company (Note C).
(c) Net Loss for the second quarter of fiscal 2003 was adversely affected
by the settlement of litigation of $600 and approximately $300 in
severance obligations, principally to the Company's former Chief
Executive Officer.
F-20