UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Mark One
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þ |
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QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For The Quarterly Period Ended September 30, 2010
OR
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o |
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Transition Period from to
Commission File Number 000-22677
CLARIENT, INC.
(Exact name of registrant as specified in its charter)
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Delaware
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75-2649072 |
(State or other jurisdiction of incorporation
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(IRS Employer Identification Number) |
or organization) |
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31 Columbia |
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Aliso Viejo, California
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92656-1460 |
(Address of principal executive offices)
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(Zip code) |
(949) 425-5700
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be
filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months
(or for such shorter period that the registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark whether the registrant has submitted electronically and posted on its
corporate Web site, if any, every Interactive Data File required to be submitted and posted
pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months
(or for such shorter period that the registrant was required to submit and post such files).
Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated
filer, a non-accelerated filer, or a smaller reporting company. See the definitions of large
accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the
Exchange Act.
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Large accelerated filer o
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Accelerated filer þ
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Non-accelerated filer o
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Smaller reporting company o |
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of
the Exchange Act). Yes o No þ
The number of shares outstanding of each of the issuers classes of common stock as of the
latest practicable date:
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|
Class |
|
Outstanding at October 29, 2010 |
Common Stock, $0.01 par value per share
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|
88,700,606 shares |
CLARIENT, INC. AND SUBSIDIARIES
Table of Contents
2
PART I FINANCIAL INFORMATION
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Item 1. |
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Financial Statements. |
CLARIENT, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(in thousands, except par values)
(Unaudited)
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September 30, |
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December 31, |
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2010 |
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2009 |
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ASSETS |
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Current assets: |
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Cash and cash equivalents |
|
$ |
12,757 |
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|
$ |
10,903 |
|
Restricted cash |
|
|
772 |
|
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|
765 |
|
Accounts receivable, net of allowance for doubtful accounts of $13,097 and $8,747
at September 30, 2010 and December 31, 2009, respectively |
|
|
26,664 |
|
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|
21,568 |
|
Supplies inventory |
|
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1,420 |
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|
1,291 |
|
Prepaid expenses and other current assets |
|
|
1,145 |
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|
935 |
|
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|
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|
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|
Total current assets |
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42,758 |
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35,462 |
|
Restricted cash |
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|
1,314 |
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|
1,314 |
|
Property and equipment, net |
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16,162 |
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14,346 |
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Intangible assets, net |
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10,741 |
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|
11,639 |
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Goodwill |
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|
3,959 |
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|
3,959 |
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Other assets |
|
|
216 |
|
|
|
227 |
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|
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|
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Total assets |
|
$ |
75,150 |
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|
$ |
66,947 |
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LIABILITIES AND STOCKHOLDERS EQUITY |
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Current liabilities: |
|
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Revolving line of credit |
|
$ |
|
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|
$ |
2,678 |
|
Accounts payable |
|
|
3,711 |
|
|
|
2,883 |
|
Accrued payroll |
|
|
5,168 |
|
|
|
3,985 |
|
Accrued expenses and other current liabilities |
|
|
4,064 |
|
|
|
3,984 |
|
Income tax payable |
|
|
86 |
|
|
|
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|
Current maturities of capital lease obligations |
|
|
1,212 |
|
|
|
645 |
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Total current liabilities |
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14,241 |
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14,175 |
|
Long-term portion of capital lease obligations |
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1,999 |
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|
604 |
|
Deferred rent and other non-current liabilities |
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2,627 |
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|
3,055 |
|
Contingently issuable common stock |
|
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|
2,650 |
|
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|
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Commitments and contingencies |
|
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Preferred stock subject to redemption requirements outside the control of the issuer: |
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Series A convertible preferred stock $0.01 par value, authorized 8,000 shares,
issued and outstanding 5,263 shares at September 30, 2010 and December 31, 2009,
respectively. Aggregate liquidation preference and redemption value: September 30,
2010 and December 31, 2009$71,158 and $55,800, respectively |
|
|
38,586 |
|
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|
38,586 |
|
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|
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|
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Stockholders equity: |
|
|
|
|
|
|
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|
Common stock $0.01 par value, authorized 150,000 shares, issued
and outstanding 88,664 and 84,092 at September 30, 2010 and
December 31, 2009, respectively |
|
|
887 |
|
|
|
841 |
|
Additional paid-in capital |
|
|
179,060 |
|
|
|
172,200 |
|
Accumulated deficit |
|
|
(162,250 |
) |
|
|
(165,164 |
) |
|
|
|
|
|
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|
Total stockholders equity |
|
|
17,697 |
|
|
|
7,877 |
|
|
|
|
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|
Total liabilities and stockholders equity |
|
$ |
75,150 |
|
|
$ |
66,947 |
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See accompanying Notes to Condensed Consolidated Financial Statements.
3
CLARIENT, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
(in thousands, except per share amounts)
(Unaudited)
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Three Months Ended |
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Nine Months Ended |
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September 30, |
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September 30, |
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2010 |
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2009 |
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|
2010 |
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|
2009 |
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|
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Net revenue |
|
$ |
31,441 |
|
|
$ |
21,425 |
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|
$ |
86,803 |
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|
$ |
68,347 |
|
Cost of services |
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12,479 |
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9,796 |
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35,821 |
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28,675 |
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Gross profit |
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|
18,962 |
|
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|
11,629 |
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|
50,982 |
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39,672 |
|
Operating expenses: |
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|
|
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Sales and marketing |
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5,225 |
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4,194 |
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14,628 |
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|
13,116 |
|
General and administrative |
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6,451 |
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|
6,030 |
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19,033 |
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17,074 |
|
Bad debt |
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3,161 |
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|
4,214 |
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|
9,875 |
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9,483 |
|
Research and development |
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|
1,455 |
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|
282 |
|
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|
3,882 |
|
|
|
805 |
|
|
|
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|
|
|
|
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Total operating expenses |
|
|
16,292 |
|
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|
14,720 |
|
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|
47,418 |
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|
40,478 |
|
|
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|
|
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|
|
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|
Income (loss) from operations |
|
|
2,670 |
|
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|
(3,091 |
) |
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|
3,564 |
|
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|
(806 |
) |
Interest expense, net of interest income |
|
|
147 |
|
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|
144 |
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|
352 |
|
|
|
499 |
|
Interest expense to related party |
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|
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|
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|
|
|
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|
3,557 |
|
Other expense |
|
|
|
|
|
|
|
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31 |
|
|
|
|
|
|
|
|
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|
|
|
|
|
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|
Income (loss) from continuing operations before income taxes |
|
|
2,523 |
|
|
|
(3,235 |
) |
|
|
3,181 |
|
|
|
(4,862 |
) |
Income tax (expense) benefit |
|
|
(181 |
) |
|
|
|
|
|
|
(267 |
) |
|
|
599 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from continuing operations |
|
|
2,342 |
|
|
|
(3,235 |
) |
|
|
2,914 |
|
|
|
(4,263 |
) |
Income from discontinued operations, net of income taxes |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
901 |
|
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|
Net income (loss) |
|
$ |
2,342 |
|
|
$ |
(3,235 |
) |
|
$ |
2,914 |
|
|
$ |
(3,362 |
) |
|
|
|
|
|
|
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|
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|
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|
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|
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|
|
|
|
|
|
|
|
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|
Series A preferred stock beneficial conversion feature |
|
|
|
|
|
|
|
|
|
|
|
|
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(4,290 |
) |
|
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|
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|
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|
|
|
|
|
|
|
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|
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|
Undistributed earnings allocated to participating securities |
|
|
(504 |
) |
|
|
|
|
|
|
(606 |
) |
|
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
Net income (loss) applicable to common stockholders |
|
$ |
1,838 |
|
|
$ |
(3,325 |
) |
|
$ |
2,308 |
|
|
$ |
(7,652 |
) |
|
|
|
|
|
|
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|
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Net income (loss) per share applicable to common stockholders
basic and diluted: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from continuing operations |
|
$ |
0.02 |
|
|
$ |
(0.04 |
) |
|
$ |
0.03 |
|
|
$ |
(0.11 |
) |
Income from discontinued operations |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
0.01 |
|
|
|
|
|
|
|
|
|
|
|
|
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|
Net income (loss) applicable to common stockholders |
|
$ |
0.02 |
|
|
$ |
(0.04 |
) |
|
$ |
0.03 |
|
|
$ |
(0.10 |
) |
|
|
|
|
|
|
|
|
|
|
|
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|
|
|
|
|
|
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Weightedaverage shares used to compute net income (loss) per
common share: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
Basic |
|
|
85,461 |
|
|
|
77,583 |
|
|
|
84,855 |
|
|
|
77,257 |
|
|
|
|
|
|
|
|
|
|
|
|
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|
Diluted |
|
|
88,672 |
|
|
|
77,583 |
|
|
|
87,654 |
|
|
|
77,257 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
See accompanying Notes to Condensed Consolidated Financial Statements.
4
CLARIENT, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(in thousands)
(Unaudited)
|
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|
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|
Nine Months Ended |
|
|
|
September 30, |
|
|
|
2010 |
|
|
2009 |
|
Cash flows from operating activities: |
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
2,914 |
|
|
$ |
(3,362 |
) |
Income from discontinued operations, net of income taxes |
|
|
|
|
|
|
(901 |
) |
Adjustments to reconcile net loss to net cash used in operating activities: |
|
|
|
|
|
|
|
|
Depreciation and amortization |
|
|
3,408 |
|
|
|
2,820 |
|
Bad debt expense |
|
|
9,875 |
|
|
|
9,483 |
|
Amortization of warrants to related party interest expense |
|
|
|
|
|
|
2,506 |
|
Amortization of deferred financing and offering costs |
|
|
4 |
|
|
|
423 |
|
Amortization of intangible assets |
|
|
898 |
|
|
|
|
|
Stock-based compensation |
|
|
2,536 |
|
|
|
1,640 |
|
Issuance of common stock in consideration for research and development services |
|
|
75 |
|
|
|
|
|
Income tax benefit related to discontinued operations |
|
|
|
|
|
|
(599 |
) |
Mark to market adjustment for contingently issuable shares |
|
|
31 |
|
|
|
|
|
Changes in operating assets and liabilities: |
|
|
|
|
|
|
|
|
Interest on restricted cash |
|
|
(5 |
) |
|
|
|
|
Accounts receivable, net of allowance for doubtful accounts |
|
|
(14,971 |
) |
|
|
(13,773 |
) |
Supplies inventory |
|
|
(446 |
) |
|
|
(271 |
) |
Prepaid expenses and other assets |
|
|
(19 |
) |
|
|
(758 |
) |
Income tax payable |
|
|
267 |
|
|
|
|
|
Accounts payable |
|
|
332 |
|
|
|
(1,745 |
) |
Accrued payroll |
|
|
1,183 |
|
|
|
(846 |
) |
Accrued interest on related party debt |
|
|
|
|
|
|
(1,259 |
) |
Accrued expenses and other current liabilities |
|
|
191 |
|
|
|
664 |
|
Deferred rent and other non-current liabilities |
|
|
(428 |
) |
|
|
(793 |
) |
|
|
|
|
|
|
|
Net cash provided by (used in) operating activities |
|
|
5,845 |
|
|
|
(6,771 |
) |
|
|
|
|
|
|
|
Cash flows from investing activities: |
|
|
|
|
|
|
|
|
Purchases of property and equipment |
|
|
(2,166 |
) |
|
|
(3,280 |
) |
Increase in restricted cash |
|
|
(2 |
) |
|
|
(2,825 |
) |
Proceeds from sale of discontinued operations, net of selling costs |
|
|
|
|
|
|
1,500 |
|
|
|
|
|
|
|
|
Net cash used in investing activities |
|
|
(2,168 |
) |
|
|
(4,605 |
) |
|
|
|
|
|
|
|
Cash flows from financing activities: |
|
|
|
|
|
|
|
|
Proceeds from sale of preferred stock |
|
|
|
|
|
|
40,000 |
|
Offering costs from sale of preferred stock |
|
|
|
|
|
|
(1,414 |
) |
Proceeds from exercise of stock options and warrants |
|
|
1,433 |
|
|
|
464 |
|
Repayments on capital lease obligations |
|
|
(394 |
) |
|
|
(195 |
) |
Borrowings on revolving lines of credit |
|
|
69,338 |
|
|
|
55,426 |
|
Repayments on revolving lines of credit |
|
|
(72,200 |
) |
|
|
(64,478 |
) |
Borrowings on related party debt |
|
|
|
|
|
|
5,800 |
|
Repayments on related party debt |
|
|
|
|
|
|
(17,908 |
) |
|
|
|
|
|
|
|
Net cash (used in) provided by financing activities |
|
|
(1,823 |
) |
|
|
17,695 |
|
|
|
|
|
|
|
|
Effect of exchange rate changes on cash and cash equivalents |
|
|
|
|
|
|
(8 |
) |
|
|
|
|
|
|
|
Net increase in cash and cash equivalents |
|
|
1,854 |
|
|
|
6,311 |
|
Cash and cash equivalents at beginning of period |
|
|
10,903 |
|
|
|
1,838 |
|
|
|
|
|
|
|
|
Cash and cash equivalents at end of period |
|
$ |
12,757 |
|
|
$ |
8,149 |
|
|
|
|
|
|
|
|
Supplemental disclosure of cash flow information: |
|
|
|
|
|
|
|
|
Cash paid for interest |
|
$ |
320 |
|
|
$ |
2,729 |
|
Cash paid for income taxes |
|
|
|
|
|
|
|
|
Non cash investing and financing activities: |
|
|
|
|
|
|
|
|
Property and equipment financed by capital leases |
|
$ |
2,673 |
|
|
$ |
1,069 |
|
Property and equipment additions included in accounts payable and accrued expenses |
|
|
909 |
|
|
|
79 |
|
Issuance of common stock and stock options in connection with acquisition of ownership
interest |
|
|
2,650 |
|
|
|
|
|
Issuance of warrants in connection with borrowings from related party |
|
|
|
|
|
|
600 |
|
Beneficial conversion feature |
|
|
|
|
|
|
4,290 |
|
See accompanying Notes to Condensed Consolidated Financial Statements.
5
CLARIENT, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(all tabular amounts presented in thousands, except per share amounts)
(Unaudited)
(1) Description of Business, Basis of Presentation, and Operating Segment
(a) Description of Business
Clarient, Inc. and its wholly-owned subsidiaries (the Company) comprise an advanced oncology
diagnostic services company, headquartered in Aliso Viejo, California. The Companys mission is to
help improve the lives of those affected by cancer through translating cancer discoveries into
better patient care. The Company combines innovative technologies, clinically meaningful
diagnostic tests, and world-class pathology expertise to provide services that assess and
characterize cancer for physicians treating their patients. The Company also provides a complete
complement of commercial services to biopharmaceutical companies and other research organizations,
including diagnostic testing services, development of companion diagnostics, and clinical trial
support. The Companys physician customers are connected to its Internet-based portal, PATHSiTE®,
delivering high resolution images and interpretative reports resulting from the Companys services.
California state law prohibits general corporations from engaging in the practice of medicine,
pursuant to both statutory and common law principles commonly known as the Corporate Practice of
Medicine Doctrine (CPMD). The CPMD prohibits non-professional corporations from employing
physicians and certain other healthcare professionals who provide professional medical services.
All of the Companys pathology services are provided by, or are under the supervision of, Clarient
Pathology Services, Inc. (CPS) within the state of California, under a long-term and exclusive
professional services agreement, as amended on September 1, 2009, by and between the Company and
CPS (the Professional Services Agreement). Kenneth J. Bloom, M.D. is the president and sole
stockholder of CPS. Dr. Bloom also serves as the Companys Chief Medical Officer, a senior
management function primarily involving the technical oversight of the Companys diagnostic
services laboratory.
The Company is responsible for performing a variety of non-medical administrative services for
CPS, as required under the Professional Services Agreement. The Company bills and collects for the
pathology services provided by CPS. The Company, in turn, pays CPS a monthly professional services
fee. The fee is equal to the aggregate of CPS estimated physician salaries and benefits, and all
of its other operating costs.
(b) Pending Acquisition by General Electric
On October 22, 2010, the Company entered into a definitive Agreement and Plan of Merger (the
Merger Agreement) with General Electric Company, a New York corporation (General Electric), and
Crane Merger Sub, Inc., a Delaware corporation and an indirect wholly-owned subsidiary of General
Electric (Purchaser), pursuant to which General Electric, through the Purchaser, will commence an
offer (the Offer) to acquire all of the outstanding shares of the Companys common stock, par
value $0.01 per share (the Common Shares), and all of the outstanding shares of the Companys
Series A Convertible Preferred Stock, par value $0.01 per share (the Preferred Shares, and
together with the Common Shares, the Shares), at a price per Common Share of $5.00 (the Common
Offer Price) and a price per Preferred Share of $20.00 (together with the Common Offer Price, the
Merger Consideration).
Completion of the Offer is subject to several conditions, including (i) that a majority of the
outstanding Common Shares (determined on a fully diluted basis) must be tendered and not validly
withdrawn prior to the expiration of the Offer; (ii) that a majority of any Preferred Shares then
outstanding must be tendered and not validly withdrawn prior to the expiration of the Offer, (iii)
the expiration of the applicable waiting period under the Hart-Scott-Rodino Antitrust Improvements
Act of 1976, as amended (the HSR Act); (iv) the absence of a material adverse effect on the
Company; and (v) other customary closing conditions.
Following consummation of the Offer, Purchaser will be merged with and into the Company (the
Merger), with the Company surviving as a wholly-owned indirect subsidiary of General Electric.
Upon completion of the Merger, each Share outstanding immediately prior to the effective time of
the Merger (excluding those Shares that are held by General Electric, Purchaser, the Company or
their wholly-owned subsidiaries, or by stockholders who properly exercise their appraisal rights
under the Delaware General Corporation Law) will be canceled and converted into the right to
receive the applicable Merger Consideration. Consummation of the Merger is subject to completion of
the Offer, the absence of any legal prohibition and, if necessary, approval of the Company
stockholders.
6
(c) Basis of Presentation
The accompanying interim Condensed Consolidated Financial Statements of the Company were
prepared in accordance with accounting principles generally accepted in the United States of
America (GAAP) and the interim financial statements rules and regulations of the United States
Securities and Exchange Commission (SEC). These financial statements include the financial
position, results of operations, and cash flows of the Company, and the consolidated accounts of
CPS, as required by applicable GAAP. All inter-company accounts and transactions have been
eliminated in consolidation.
The preparation of the accompanying Condensed Consolidated Financial Statements in conformity
with GAAP requires management to make estimates and assumptions. Such estimates and assumptions
affect the amounts reported in the Condensed Consolidated Financial Statements and accompanying
notes thereto. The Companys most significant estimates relate to revenue recognition, allowance
for doubtful accounts, stock-based compensation expense, and income tax valuation allowance.
Actual results could differ from those estimates. As part of the interim financial statement
preparation process, the Company also has evaluated whether any significant events have occurred
after the balance sheet date of September 30, 2010 through November 2, 2010, representing the date
this Quarterly Report on Form 10-Q was filed with the SEC, and concluded that no additional
disclosures or adjustments were required.
The interim operating results are not necessarily indicative of the results for a full year.
Certain information and footnote disclosures normally included in annual financial statements
prepared in accordance with GAAP have been condensed or omitted pursuant to SEC rules and
regulations relating to interim financial statements. The Condensed Consolidated Financial
Statements included in this Form 10-Q should be read in conjunction with the Companys audited
Consolidated Financial Statements and Notes thereto included in the Companys Annual Report on
Form 10-K for the year ended December 31, 2009.
(d) Operating Segment
The Company has one reportable operating segment that delivers advanced cancer diagnostic
services to community pathologists, oncologists, and biopharmaceutical companies. As of September
30, 2010, all of the Companys services were provided within the United States, and all of the
Companys assets were located within the United States.
(2) Summary of Significant Accounting Policies
(a) Revenue Recognition
Net revenue for the Companys services is recognized on an accrual basis at the time discreet
diagnostic tests are completed. Each test performed relates to a specimen encounter derived from a
patient, and received by the Company on a specific date (such specimen encounter is commonly
referred to as an accession). The Companys services are billed to various payors, including
Medicare, private health insurance companies, healthcare institutions, biopharmaceutical companies,
and patients. The Company reports net revenue from contracted payors, including certain private
health insurance companies, healthcare institutions, and biopharmaceutical companies, based on the
contracted rate, or in certain instances, the Companys estimate of the amount expected to be
collected for the services provided. For billing to Medicare, the Company uses the published fee
schedules, net of standard discounts (commonly referred to as contractual allowances). The
Company reports net revenue from non-contracted payors, including certain private health insurance
companies, based on the amount expected to be collected for the services provided. Recognized net
revenue from patient payors is based on a multiple of the Centers for Medicare & Medicaid Services
(CMS) reimbursement schedule, or as applicable, the patients co-pay or deductible obligations.
(b) Allowance for Doubtful Accounts and Bad Debt Expense
An allowance for doubtful accounts is recorded for estimated uncollectible amounts due from
the Companys various payor groups. The process for estimating the allowance for doubtful accounts
involves significant assumptions and judgments. The allowance for doubtful accounts is adjusted
periodically, and is principally based upon an evaluation of historical collection experience of
aged accounts receivable among the Companys various payor classes. After appropriate collection
efforts, accounts receivable are written off and deducted from the allowance for doubtful accounts.
Additions to the allowance for doubtful accounts are charged to bad debt expense.
The payment realization cycle for certain governmental and managed care payors can be lengthy.
The collection cycle often involves payor denial of the Companys billed amounts, requiring the
Company to appeal and follow an adjudication process. Resulting periodic adjustments to bad debt
expense may be significant.
7
(c) Stock-Based Compensation
The Company values stock-based awards, including stock options and restricted stock, as of the
date of grant. The Company uses the Black-Scholes option-pricing model in valuing granted stock
options. The fair value of granted restricted stock awards is equal to the Companys closing stock
price on the date of grant. The Company recognizes stock-based compensation expense, net of
estimated forfeitures, using the straight-line method over the requisite service period.
Forfeitures are estimated at the time of grant, and prospectively revised if actual forfeitures
differ from those estimates. The Company classifies compensation expense related to these awards
in the Condensed Consolidated Statements of Operations, based on the department to which the
recipient reports.
(d) Long-Lived Assets
The Company evaluates the possible impairment of its long-lived assets when events or changes
in circumstances occur that indicate that the carrying value of its assets may not be recoverable.
Recoverability of assets to be held and used is measured through a comparison of the carrying
value of such assets to the Companys pretax cash flows (undiscounted and without interest charges)
expected to be generated from their use in operations. If such assets are considered to be
impaired, the impairment charge is measured as the amount by which the carrying amount of the
assets exceeds fair value. Assets held for sale, when applicable, are reported at the lower of
their carrying amount or fair value, less costs to sell.
One potential impairment indicator is current-period operating and/or cash flow loss, combined
with a history of operating and/or cash flow losses. Because this condition has historically been
applicable to the Company, management evaluates the Companys asset group for impairment at the end
of each reporting period. The asset group tested for impairment comprises the Companys entire
laboratory operation, representing the lowest level of its separately identifiable cash flows. The
undiscounted cash flow projections for the asset group, which are derived from the Companys
operating plan, are used in evaluating the existence of impairment.
The undiscounted net cash flows expected to be generated by the Companys asset group exceeded
the carrying amount of the asset group as of September 30, 2010 and December 31, 2009; therefore,
the Companys asset group is not considered to be impaired. This conclusion is based upon judgments
and estimates, made by the Companys management, that are inherently uncertain. Such assumptions
pertain to net revenue growth, cash collection trends, expense trends, and working capital
management. Any number of changes in the Companys business could adversely impact the
aforementioned assumptions, and thus, adversely affect the results of the Companys long-lived
asset impairment test.
(e) Income Taxes
The Company uses the asset and liability method of accounting for income taxes. Under such
method, deferred tax assets and liabilities are recognized for the estimated future tax
consequences attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax basis, and operating loss and tax credit
carry forwards. Deferred tax assets and liabilities are measured using enacted tax rates expected
to apply to taxable income in the years in which those temporary differences are expected to be
recovered or settled. Deferred taxes are reduced by a valuation allowance to an amount which is
more likely than not to be realized. The effect on deferred tax assets and liabilities of a change
in tax rates is recognized through income in the period of enactment.
(f) Cash and Cash Equivalents and Restricted Cash
Cash and cash equivalents consist of amounts held as unrestricted bank deposits or highly
liquid investments consisting of money market funds as of September 30, 2010, though from time to
time may also include highly liquid debt instruments, time deposits, and certificates of deposit
with an original maturity of three months or less at the date of purchase.
Restricted cash is held as bank deposits, serving as security deposits for the Companys Aliso
Viejo, California facility lease and a capital lease of computer hardware. Interest accrues to the
Company on both accounts. The classification of restricted cash as current or non-current is
dependent upon whether contractual terms provide for the restriction to be released within one year
of the balance sheet date.
The Companys unrestricted and restricted cash balances on deposit that exceeded the Federal
Deposit Insurance Corporation (FDIC) limits were approximately $13.9 million at September 30, 2010.
(g) Supplies Inventory
Supplies inventory consists of laboratory and research and development supplies, and are
stated at the lower of cost
or market. Supplies inventory is accounted for under the first-in, first-out method (FIFO).
8
(h) Property and Equipment and Depreciation
Property and equipment are depreciated using the straight-line method over the following
estimated useful lives:
|
|
|
Office furniture, computer, software, and laboratory equipment
|
|
Three to five years |
|
|
|
Leasehold improvements
|
|
Shorter of useful life or remaining term of lease, including expected extensions |
Expenditures for maintenance, repairs, and minor improvements are charged to expense as
incurred. Depreciation expense is recognized on the first day of the month subsequent to being
placed into service. Leasehold improvements are capitalized and amortized over the shorter of their
estimated useful lives or the remaining lease term, including expected extensions. The Companys
reimbursed expenditures for leasehold improvements that are received from its landlord are recorded
to deferred rent and recovered ratably through a reduction of rent expense over the remaining term
of the lease, including expected extensions.
(i) Capitalized Internal-Use Software Costs
The Company capitalizes eligible internal-use computer software costs. Amortization begins
when the internal-use computer software is ready for its intended use, and is amortized over a
three to five-year period using the straight-line method.
(j) Research and Development
Research and development costs are expensed as incurred. Research and development expenses
consist of compensation and benefits for research and development personnel, license fees, supplies
cost, costs of accessing clinical cohorts for ongoing studies, research and development
arrangements with consultants and other third parties, allocated information technology personnel,
and allocated facility-related costs.
(k) Intangible Assets, net
Intangible assets, net, primarily consist of intellectual property represented by proprietary
biomarkers in development, substantially ready, or ready for diagnostic testing use. These
intangible assets generally have associated patents or patents in process, and are amortized on a
straight-line basis over estimated useful lives of seven years.
(l) Goodwill
Goodwill is recorded when the purchase price paid for an acquisition exceeds the estimated
fair value of the net identified tangible and intangible assets acquired. The Company, on an annual
basis, or more frequently if necessary, determines (i) whether the fair value of the relevant
reporting unit exceeds carrying value, and (ii) the amount of an impairment loss, if any. The
reporting unit tested for goodwill impairment comprises the Companys entire laboratory
operation, representing its single operating segment. The fair value of the Companys reporting
unit is represented by its total market capitalization on the NASDAQ Capital Market as of the
close of the business day on December 1, which represents the Companys annual impairment testing
date. The Companys management was not aware of any indicators of goodwill impairment as of
September 30, 2010 and through the date this Quarterly Report on Form 10-Q was filed with the SEC.
(m) Fair Value Measurements
The Company applied relevant GAAP in measuring the fair value of its Variable Shares (see Note
14). Fair value is defined as the price that would be received to sell an asset or paid to
transfer a liability in an orderly transaction between market participants on the fair value
measurement date. GAAP establishes a fair value hierarchy that distinguishes between (i) market
participant assumptions developed based on market data obtained from independent sources
(observable inputs) and (ii) an entitys own assumptions about market participant assumptions
developed based on the best information available in the circumstances (unobservable inputs). The
fair value hierarchy consists of three broad levels, which gives the highest priority to unadjusted
quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest
priority to unobservable inputs (Level 3). The three levels of the fair value hierarchy are
described below:
Level 1 Unadjusted quoted prices in active markets that are accessible at the measurement
date for identical, unrestricted assets or liabilities.
9
Level 2 Inputs other than quoted prices included within Level 1 that are observable for the
asset or liability, either directly or indirectly, including quoted prices for similar assets or
liabilities in active markets and quoted prices for identical or similar assets or liabilities in
markets that are not active; inputs other than quoted prices that are observable for the asset or
liability (e.g. interest rates); and inputs that are derived principally from or corroborated by
observable market data by correlation or other means.
Level 3 Inputs that are both significant to the fair value measurement and
unobservable.
(3) Balance Sheet Detail
(a) Allowance for Doubtful Accounts
The following is a summary of activity for the Companys allowance for doubtful accounts for
the year ended December 31, 2009, and the nine months ended September 30, 2010:
|
|
|
|
|
Ending balance, December 31, 2008 |
|
$ |
8,045 |
|
Bad debt expense |
|
|
12,927 |
|
Write-offs |
|
|
(12,225 |
) |
|
|
|
|
Ending balance, December 31, 2009 |
|
|
8,747 |
|
Bad debt expense |
|
|
9,875 |
|
Write-offs |
|
|
(5,525 |
) |
|
|
|
|
Ending balance, September 30, 2010 |
|
$ |
13,097 |
|
|
|
|
|
(b) Property and Equipment
The following is a summary of the Companys property and equipment:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2010 |
|
|
2009 |
|
Office furniture, computer software, and laboratory equipment |
|
$ |
26,385 |
|
|
$ |
21,480 |
|
Leasehold improvements |
|
|
9,966 |
|
|
|
9,650 |
|
|
|
|
|
|
|
|
Total |
|
|
36,351 |
|
|
|
31,130 |
|
Accumulated depreciation and amortization |
|
|
(20,189 |
) |
|
|
(16,784 |
) |
|
|
|
|
|
|
|
Property and equipment, net |
|
$ |
16,162 |
|
|
$ |
14,346 |
|
|
|
|
|
|
|
|
As of September 30, 2010 and December 31, 2009, the Companys associated capital lease
obligations were $3.2 million and $1.2 million, respectively.
(c) Intangible assets
The following is a summary of the Companys intangible assets:
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
|
2010 |
|
|
2009 |
|
Biomarkers |
|
$ |
11,349 |
|
|
$ |
11,349 |
|
In-process research and development |
|
|
76 |
|
|
|
76 |
|
Issued patents |
|
|
26 |
|
|
|
26 |
|
Patent applications |
|
|
123 |
|
|
|
123 |
|
Non-compete agreements |
|
|
110 |
|
|
|
110 |
|
Accumulated amortization |
|
|
(943 |
) |
|
|
(45 |
) |
|
|
|
|
|
|
|
Intangible assets, net |
|
$ |
10,741 |
|
|
$ |
11,639 |
|
|
|
|
|
|
|
|
10
The following is a summary of the estimated useful lives, estimated annual amortization
expense, and expense classification of the Companys intangible assets:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Estimated |
|
|
|
|
|
|
|
|
|
Useful Life |
|
|
Estimated Annual |
|
|
Condensed Consolidated Statement of |
|
|
(years) |
|
|
Amortization |
|
|
Operations Classification |
Biomarkers* |
|
|
7 |
|
|
$ |
1,621 |
|
|
Cost of services or research and development |
In-process research and development |
|
|
7 |
|
|
|
11 |
|
|
Research and development |
Issued patents |
|
|
7 |
|
|
|
4 |
|
|
Cost of services |
Patent applications |
|
|
7 |
|
|
|
18 |
|
|
Cost of services |
Non-competition agreements |
|
|
3 |
|
|
|
37 |
|
|
Research and development |
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
|
|
|
$ |
1,691 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
* |
|
Upon the commercial launch of the associated biomarker, the related amortization is
recorded to cost of services on a per sales unit convention. Until such time, the related
amortization is recorded to research and development on a straight-line basis. The above
estimated annual amortization for biomarkers assumes an even recognition over seven years,
however, actual amortization will vary by year, based upon (i) the date of the commercial
launch, and (ii) the number of units (i.e. diagnostic tests) sold which utilize the
associated biomarker. |
(4) Discontinued Operations
On March 8, 2007, the Company sold its instrument systems business (the ACIS Business),
consisting of certain tangible assets, inventory, intellectual property (including the Companys
former patent portfolio and the ACIS and ChromaVision trademarks), contracts, and related assets to
Carl Zeiss MicroImaging, Inc. and one of its subsidiaries (collectively, Zeiss) for an aggregate
purchase price of $12.5 million. The $12.5 million consisted of $11.0 million in cash and an
additional $1.5 million in contingent purchase price, subject to the satisfaction of certain
post-closing conditions through March 8, 2009 relating to transferred intellectual property (the
ACIS Sale). As part of the ACIS Sale, the Company entered into a license agreement with Zeiss
that granted the Company a non-exclusive, perpetual and royalty-free license to certain of the
transferred patents, copyrights, and software code for use in connection with imaging applications
(excluding sales of imaging instruments) and the Companys oncology diagnostic services business.
In March 2009, Zeiss management acknowledged the satisfaction of the post-closing conditions
of the ACIS Sale and the associated $1.5 million payment due, which the Company subsequently
received on April 8, 2009. The Company recorded the $0.9 million as income from discontinued
operations, net of $0.6 million income tax benefit, within the accompanying Condensed Consolidated
Statements of Operations for the nine months ended September 30, 2009.
The Company retains certain indemnification obligations to Zeiss for any third party claims
surviving through the applicable statute of limitations. The Company believes the likelihood of a
raised claim(s) is remote and, in any case, would be immaterial in value.
(5) Recent Accounting Pronouncements
FASB Codification
The Financial Accounting Standards Board (FASB) Accounting Standards
CodificationTM (FASB Codification) became the single source of authoritative
nongovernmental GAAP on July 1, 2009. The FASB Codification became effective for financial
statements that cover interim and annual periods ending after September 15, 2009. Other than
resolving certain minor inconsistencies in current GAAP, the FASB Codification does not affect
GAAP, but rather organizes historical accounting pronouncements by approximately 90 accounting
topics. Accordingly, in this Quarterly Report on Form 10-Q, the Company describes, in general,
pertinent GAAP where applicable and/or cites the associated FASB Codification reference, rather
than the historical GAAP reference.
Earnings Per Share
In June 2008, GAAP guidance was released for determining whether instruments granted in
share-based payment transactions are participating securities. Under such guidance, unvested
share-based payment awards that contain non-forfeitable rights to dividends or dividend
equivalents, whether they are paid or unpaid, are considered participating securities and should be
included in the computation of earnings per share pursuant to the two-class method. As required,
the Company adopted such guidance retrospectively effective January 1, 2009, though it did not
affect the Companys consolidated
financial position, results of operations, cash flows, or loss per common share in prior periods,
as disclosed in Note 9.
11
Variable Interest Entities
In December 2009, the FASB issued guidance on how a reporting entity determines when an entity
that is insufficiently capitalized or is not controlled through voting (or similar rights) should
be consolidated. The determination of whether a reporting entity is required to consolidate another
entity is based on, among other things, the other entitys purpose and design and the reporting
entitys ability to direct the activities of the other entity that most significantly impact the
other entitys economic performance. Such guidance requires a reporting entity to provide
additional disclosures about its involvement with variable interest entities and any significant
changes in risk exposure due to that involvement. A reporting entity is required to disclose how
its involvement with a variable interest entity affects the reporting entitys financial
statements. The Company adopted the guidance as of January 1, 2010, and its application had no
impact on its Condensed Consolidated Financial Statements. The Company currently consolidates the
accounts of CPS, which it does not control through voting or similar rights, as disclosed in Note
1(a) and (b).
(6) Significant Risks and Uncertainties
Credit risk with respect to the Companys accounts receivable is generally diversified due to
the large number of payors that comprise its customer base. The Company has significant receivable
balances with government payors, health insurance carriers, health care institutions,
biopharmaceutical companies, and patients. The Companys accounts receivable balances are not
supported by collateral.
The laboratory services industry faces challenging billing and collection procedures. The
cash realization cycle for certain governmental and managed care payors can be lengthy and may
involve denial, appeal, and adjudication processes.
Collection of governmental and private health insurer receivables is generally a function of
providing these payors with complete and accurate billing information within various filing
deadlines, though is subject to their approval of the underlying completed services. Collection of
client receivables is generally a function of providing complete and accurate billing information
to the client within the various filing deadlines, as the underlying services have been approved
prior to completion. Receivables due from clients and patients, in particular, are generally
subject to increased credit risk as compared to the Companys other payor classes, due to the
clients and patients credit worthiness or inability to pay.
The percentage of the Companys gross accounts receivable of $39.8 million and $30.3 million
as of September 30, 2010 and December 31, 2009, respectively, by primary payor class, is as
follows:
|
|
|
|
|
|
|
|
|
|
|
September 30, 2010 |
|
|
December 31, 2009 |
|
Governmental (Medicare and Medicaid) |
|
|
20 |
% |
|
|
20 |
% |
Private health insurers |
|
|
41 |
% |
|
|
43 |
% |
Clients (pathologists, hospitals, clinics) |
|
|
17 |
% |
|
|
18 |
% |
Patients (indirect bill) |
|
|
12 |
% |
|
|
10 |
% |
Patients (direct bill) |
|
|
10 |
% |
|
|
9 |
% |
|
|
|
|
|
|
|
Total |
|
|
100 |
% |
|
|
100 |
% |
The Companys aged gross accounts receivable in total, and by payor class, as of September 30,
2010 and December 31, 2009 is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2010 |
|
|
% |
|
|
December 31, 2009 |
|
|
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
All payor classes |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
39,761 |
|
|
|
100 |
% |
|
$ |
30,315 |
|
|
|
100 |
% |
Unbilled |
|
|
5,410 |
|
|
|
14 |
% |
|
|
4,819 |
|
|
|
16 |
% |
Current |
|
|
7,002 |
|
|
|
18 |
% |
|
|
5,817 |
|
|
|
19 |
% |
31-60 days past due |
|
|
5,198 |
|
|
|
13 |
% |
|
|
4,341 |
|
|
|
14 |
% |
61-90 days past due |
|
|
3,054 |
|
|
|
8 |
% |
|
|
2,799 |
|
|
|
9 |
% |
91-120 days past due |
|
|
2,469 |
|
|
|
6 |
% |
|
|
1,963 |
|
|
|
6 |
% |
121-150 days past due |
|
|
2,408 |
|
|
|
6 |
% |
|
|
1,299 |
|
|
|
4 |
% |
Greater than 150 days past due |
|
|
14,220 |
|
|
|
35 |
% |
|
|
9,277 |
|
|
|
32 |
% |
12
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2010 |
|
|
% |
|
|
December 31, 2009 |
|
|
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Governmental payors (Medicare and Medicaid) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
7,799 |
|
|
|
100 |
% |
|
$ |
5,989 |
|
|
|
100 |
% |
Unbilled |
|
|
1,481 |
|
|
|
19 |
% |
|
|
1,508 |
|
|
|
25 |
% |
Current |
|
|
2,070 |
|
|
|
27 |
% |
|
|
1,332 |
|
|
|
22 |
% |
31-60 days past due |
|
|
566 |
|
|
|
7 |
% |
|
|
517 |
|
|
|
9 |
% |
61-90 days past due |
|
|
354 |
|
|
|
5 |
% |
|
|
335 |
|
|
|
6 |
% |
91-120 days past due |
|
|
319 |
|
|
|
4 |
% |
|
|
228 |
|
|
|
4 |
% |
121-150 days past due |
|
|
267 |
|
|
|
3 |
% |
|
|
204 |
|
|
|
3 |
% |
Greater than 150 days past due |
|
|
2,742 |
|
|
|
35 |
% |
|
|
1,865 |
|
|
|
31 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2010 |
|
|
% |
|
|
December 31, 2009 |
|
|
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Private health insurer payors |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
16,817 |
|
|
|
100 |
% |
|
$ |
13,009 |
|
|
|
100 |
% |
Unbilled |
|
|
3,175 |
|
|
|
19 |
% |
|
|
2,391 |
|
|
|
18 |
% |
Current |
|
|
1,345 |
|
|
|
8 |
% |
|
|
1,988 |
|
|
|
15 |
% |
31-60 days past due |
|
|
1,604 |
|
|
|
9 |
% |
|
|
1,395 |
|
|
|
11 |
% |
61-90 days past due |
|
|
1,025 |
|
|
|
6 |
% |
|
|
1,069 |
|
|
|
8 |
% |
91-120 days past due |
|
|
973 |
|
|
|
6 |
% |
|
|
729 |
|
|
|
6 |
% |
121-150 days past due |
|
|
946 |
|
|
|
6 |
% |
|
|
580 |
|
|
|
5 |
% |
Greater than 150 days past due |
|
|
7,749 |
|
|
|
46 |
% |
|
|
4,857 |
|
|
|
37 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2010 |
|
|
% |
|
|
December 31, 2009 |
|
|
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Client (pathologists, hospitals, clinics, and biopharmaceutical) payors |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
6,673 |
|
|
|
100 |
% |
|
$ |
5,433 |
|
|
|
100 |
% |
Unbilled |
|
|
454 |
|
|
|
7 |
% |
|
|
585 |
|
|
|
11 |
% |
Current |
|
|
2,618 |
|
|
|
39 |
% |
|
|
1,791 |
|
|
|
33 |
% |
31-60 days past due |
|
|
1,773 |
|
|
|
27 |
% |
|
|
1,570 |
|
|
|
29 |
% |
61-90 days past due |
|
|
566 |
|
|
|
8 |
% |
|
|
530 |
|
|
|
10 |
% |
91-120 days past due |
|
|
238 |
|
|
|
4 |
% |
|
|
299 |
|
|
|
5 |
% |
121-150 days past due |
|
|
166 |
|
|
|
2 |
% |
|
|
164 |
|
|
|
3 |
% |
Greater than 150 days past due |
|
|
858 |
|
|
|
13 |
% |
|
|
494 |
|
|
|
9 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2010 |
|
|
% |
|
|
December 31, 2009 |
|
|
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Patient payors (indirect bill) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
3,894 |
|
|
|
100 |
% |
|
$ |
2,992 |
|
|
|
100 |
% |
Unbilled |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Current |
|
|
163 |
|
|
|
4 |
% |
|
|
137 |
|
|
|
5 |
% |
31-60 days past due |
|
|
552 |
|
|
|
14 |
% |
|
|
343 |
|
|
|
11 |
% |
61-90 days past due |
|
|
497 |
|
|
|
13 |
% |
|
|
337 |
|
|
|
11 |
% |
91-120 days past due |
|
|
408 |
|
|
|
10 |
% |
|
|
302 |
|
|
|
10 |
% |
121-150 days past due |
|
|
402 |
|
|
|
10 |
% |
|
|
275 |
|
|
|
9 |
% |
Greater than 150 days past due |
|
|
1,872 |
|
|
|
49 |
% |
|
|
1,598 |
|
|
|
54 |
% |
13
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2010 |
|
|
% |
|
|
December 31, 2009 |
|
|
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Patient payors (direct bill) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
4,578 |
|
|
|
100 |
% |
|
$ |
2,892 |
|
|
|
100 |
% |
Unbilled |
|
|
300 |
|
|
|
7 |
% |
|
|
335 |
|
|
|
12 |
% |
Current |
|
|
806 |
|
|
|
18 |
% |
|
|
569 |
|
|
|
19 |
% |
31-60 days past due |
|
|
703 |
|
|
|
15 |
% |
|
|
516 |
|
|
|
18 |
% |
61-90 days past due |
|
|
612 |
|
|
|
13 |
% |
|
|
528 |
|
|
|
18 |
% |
91-120 days past due |
|
|
531 |
|
|
|
12 |
% |
|
|
405 |
|
|
|
14 |
% |
121-150 days past due |
|
|
627 |
|
|
|
14 |
% |
|
|
76 |
|
|
|
3 |
% |
Greater than 150 days past due |
|
|
999 |
|
|
|
21 |
% |
|
|
463 |
|
|
|
16 |
% |
As of September 30, 2010, the Company maintained a $13.1 million allowance for doubtful
accounts in order to carry accounts receivable at the estimated net realizable value of $26.7
million, as presented within the accompanying Condensed Consolidated Balance Sheets. The allowance
for doubtful accounts is an estimate that involves considerable professional judgment. As such,
the Companys actual collection of its September 30, 2010 accounts receivable may materially differ
from managements estimate for reasons including, but not limited to: customer mix, concentration
of customers within the healthcare sector, and the general downturn in the United States economy.
(7) Lines of Credit
The following table summarizes the Companys outstanding debt at its carrying value at
September 30, 2010 and December 31, 2009. The Company believes the carrying amount of its
outstanding debt approximates fair value due to its short-term nature and associated interest rate.
|
|
|
|
|
|
|
|
|
|
|
September 30, 2010 |
|
|
December 31, 2009 |
|
|
|
|
|
|
|
|
|
|
Gemino Facility |
|
$ |
|
|
|
$ |
2,678 |
|
|
|
|
|
|
|
|
The following table summarizes the Companys interest expense on its lines of credit,
including interest expense to related party, for the three and nine months ended September 30, 2010
and 2009 within the accompanying Condensed Consolidated Statements of Operations:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
|
2010 |
|
|
2009 |
|
|
2010 |
|
|
2009 |
|
Gemino Facility |
|
$ |
73 |
|
|
$ |
120 |
|
|
$ |
233 |
|
|
$ |
361 |
|
Comerica Facility |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
57 |
|
Safeguard Facility |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
3,556 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total interest
expense, including
interest expense
to Safeguard, a
related party
(excludes interest
expense associated
with capital
leases) |
|
$ |
73 |
|
|
$ |
120 |
|
|
$ |
233 |
|
|
$ |
3,974 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gemino Facility
On July 31, 2008, the Company entered into a secured credit agreement (the Gemino Facility)
with Gemino Healthcare Finance, LLC (Gemino), which was amended on February 27, 2009 (the
February 2009 Gemino Amendment), November 13, 2009 (the November 2009 Gemino Amendment), and
December 21, 2009 (the December 2009 Gemino Amendment). The Gemino Facility is a revolving
facility under which the Company may borrow up to $8.0 million, secured by the Companys accounts
receivable and related assets. The November 2009 Gemino Amendment extended the Gemino Facilitys
maturity date to January 31, 2011. The December 2009 Gemino Amendment joined AGI as a borrower
under the Gemino Facility.
14
The amount which the Company is entitled to borrow under the Gemino Facility at a particular
time ($8.0 million availability as of September 30, 2010) is based on the amount of the Companys
qualified accounts receivable and certain liquidity factors.
Borrowings under the Gemino Facility bear interest at an annual rate equal to 30-day LIBOR
(subject to a minimum annual rate of 2.50% at all times), plus an applicable margin of 6.0% (prior
to the February 2009 Gemino Amendment, the applicable margin was 5.25%). The Company is required
to pay a commitment fee of 0.50% per year on the daily average of unused credit availability (prior
to the November 2009 Gemino Amendment, the commitment fee was 0.75%) and a collateral monitoring
fee of 0.40% per year on the daily average of outstanding borrowings.
The February 2009 Gemino Amendment increased the Companys capital expenditure limit to $7.5
million in each fiscal year. For the nine months ending September 30, 2010, the Companys
aggregate capital expenditures were $2.2 million. The February 2009 Gemino Amendment also modified
the minimum level of excess liquidity covenant, increasing its threshold from $2.0 million to
$3.0 million, though such covenant was subsequently eliminated with the November 2009 Gemino
Amendment.
The November 2009 Gemino Amendment (i) extended the maturity date of the Gemino Facility from
January 31, 2010 to January 31, 2011; (ii) removed the excess liquidity covenant; (iii) increased
the facilitys advance rate from 75% to 85%; (iv) eliminated the minimum fixed charge coverage
ratio covenant through December 31, 2009; (v) includes a maximum loan turnover ratio covenant
(defined as the average monthly loan balance divided by average monthly cash collections multiplied
by 30 days) of 35 days only for the three months ended December 31, 2009 (for the three months
ended December 31, 2009 the Companys calculated maximum loan turnover ratio was 18 days); (vi)
requires a minimum annualized fixed charge coverage ratio (defined below) covenant of 1.00 for
the three months ending March 31, 2010, 1.10 for six months ending June 30, 2010, 1.20 for the nine
months ending September 30, 2010, and 1.20 for the twelve months ending December 31, 2010 and
thereafter; and (vii) reduced the commitment fee from 0.75% to 0.50% per year on the daily average
of unused credit availability.
The fixed charge coverage ratio is defined as the ratio of EBITDA (net income plus interest
expense, tax expense, depreciation/amortization expense, and stock-based compensation expense), to
the sum of (i) interest expense paid in cash on the Gemino Facility, (ii) payments made under
capital leases, (iii) unfinanced capital expenditures, and (iv) taxes paid. For the three months
ended September 30, 2010, the Companys calculated fixed charge coverage ratio was 3.67, which
exceeded the requirement of 1.00.
The Gemino Facility also contains a material adverse change clause (MAC) clause. If the
Company encountered difficulties that would qualify as a MAC in its (i) operations, (ii) condition
(financial or otherwise), or (iii) ability to repay amounts outstanding under the Gemino Facility,
it could be cancelled at Geminos sole discretion. Also, in connection with the pending
acquisition of the Company by General Electric, Gemino has the right to terminate the Gemino
Facility upon completion of the Merger, unless Gemino consents to the Merger. In either case, if
Gemino elects to terminate the Gemino Facility, it could then elect to declare the indebtedness,
together with accrued interest and other fees, to be immediately due and payable and proceed
against any collateral securing such indebtedness.
Comerica Facility
On March 26, 2009, the Company fully repaid the $9.8 million outstanding balance under its
$12.0 million revolving credit agreement with Comerica Bank (the Comerica Facility), using a
portion of the proceeds from the initial closing of the Oak Private Placement. The Comerica
Facility was terminated at such time, as was Safeguards guarantee of the Comerica Facility (as
described below). The Company maintains a $1.5 million standby letter of credit with Comerica Bank
which is fully supported by a restricted cash account for the same amount. The letter of credit is
for the benefit of the Companys landlord for its leased corporate and laboratory facility in Aliso
Viejo, California.
Borrowings under the Comerica Facility bore interest through February 27, 2009 at Comericas
prime rate minus 0.5%, or at the Companys option, at a rate equal to 30-day LIBOR plus 2.45%. The
Comerica Facility was amended on February 27, 2009, and as a result, until its retirement on March
26, 2009, borrowings under the Comerica Facility bore interest at the Companys option of: (i) 0.5%
plus the greater of Comericas prime rate or 1.75%, or (ii) 30-day LIBOR plus 2.40%.
Safeguard Delaware, Inc., a wholly-owned subsidiary of Safeguard Scientifics, Inc.
(Safeguard), the Companys largest single stockholder, guaranteed the Companys borrowings under
the Comerica Facility in exchange for 0.5% per year of the total amount guaranteed plus 4.5% per
year of the daily-weighted average principal balance outstanding. Additionally, the Company was
required to pay Safeguard a quarterly usage fee of 0.875% of the amount by which the daily average
outstanding principal balance under the Comerica Facility exceeded $5.5 million.
15
Safeguard Facility
On March 7, 2007, the Company entered into a senior subordinated revolving credit facility
with Safeguard (the Initial Mezzanine Facility). The Initial Mezzanine Facility provided the
Company with up to $12.0 million in working capital funding, but was reduced by $6.0 million as a
result of the ACIS Sale discussed in Note 4. The Initial Mezzanine Facilitys annual interest rate
was 12.0%. In connection with the Initial Mezzanine Facility, the Company issued Safeguard 0.3
million common stock warrants to satisfy Safeguards commitment fees and maintenance and usage
fees. The fair value of these common stock warrants was determined using the Black-Scholes option
pricing model, and was initially expensed over the term of the Initial Mezzanine Facility, though
the term was subsequently extended to coincide with the term of the New Mezzanine Facility (defined
below).
On March 14, 2008, the Company entered into an amended and restated senior subordinated
revolving credit facility with Safeguard (the New Mezzanine Facility) to refinance, renew, and
expand the Initial Mezzanine Facility. The New Mezzanine Facility, which had a stated maturity date
of April 15, 2009, provided the Company with up to $21.0 million in working capital funding.
Borrowings under the New Mezzanine Facility bore interest at an annual rate of 12.0% through
September 30, 2008 and 13.0% thereafter. Proceeds from the New Mezzanine Facility were used to
refinance indebtedness under the Initial Mezzanine Facility, for working capital purposes, and to
repay in full and terminate the Companys former GE Capital Facility, which included certain
equipment lease obligations.
In connection with the New Mezzanine Facility, the Company issued Safeguard 1.6 million common
stock warrants upon its signing. The Company was also required to issue Safeguard an additional
2.2 million common stock warrants, in four equal tranches of 0.55 million common stock warrants if
the balance of the New Mezzanine Facility had not been reduced to $6.0 million or less on or prior
to May 1, 2008, July 1, 2008, September 1, 2008, and November 1, 2008, respectively. Such
reduction was not accomplished and as a result, 0.55 million common stock warrants were issued on
each of June 10, 2008, July 2, 2008, September 2, 2008, and November 6, 2008.
The fair value of the 1.6 million common stock warrants issued on March 14, 2008 and the 2.2
million common stock warrants issued from June 2008 through December 2008 was measured on March 14,
2008, the date of the New Mezzanine Facility commitment. The fair value of any unissued common
stock warrants associated with the New Mezzanine Facility was measured and adjusted at each
subsequent quarter end. The fair value of all such common stock warrants has been treated for
accounting purposes as a debt discount of the New Mezzanine Facility and additional
paid-in-capital. The Company began accreting the debt discount in the first quarter of 2008 (as
adjusted for the change in fair value of any contingent warrants at each quarter-end) over the term
of the New Mezzanine Facility through recording interest expense to related party on a
straight-line basis.
The fair value of the common stock warrants issued to Safeguard in connection with the Initial
Mezzanine Facility and New Mezzanine Facility was determined using the Black-Scholes option pricing
model with the following inputs: zero dividends, a risk-free interest rate ranging from 3.4% to
4.5% (equal to the U.S. Treasury yield curve for the warrants term on the date of issuance), and
expected stock volatility of 66% to 85% (measured using weekly price observations for a period
equal to the warrants term).
On February 27, 2009, the Company entered into an amended and restated senior subordinated
revolving credit facility with Safeguard (the Third Mezzanine Facility) to refinance, renew, and
expand the New Mezzanine Facility. The Third Mezzanine Facility had a stated maturity date of
April 1, 2010 and provided the Company with up to $30.0 million in working capital funding through
March 25, 2009. Borrowings under the Third Mezzanine Facility bore interest at an annual rate of
14.0%, capitalized monthly to the principal balance. Upon the signing of the Third Mezzanine
Facility, the Company issued Safeguard 0.5 million fully vested common stock warrants with a five
year term and an exercise price equal to $1.376.
In connection with the Initial Oak Closing on March 26, 2009, the Company repaid $14.0 million
of the outstanding balance under the Third Mezzanine Facility. Also on March 26, 2009, the Company
and Safeguard amended the Third Mezzanine Facility, which resulted in the reduction of its total
availability from $30.0 million to $10.0 million. The Second Oak Closing occurred on May 14, 2009,
and at such time, the Company repaid the remaining outstanding balance (including accrued interest)
of the Third Mezzanine Facility of $5.7 million, which was cancelled upon such repayment.
In connection with the $20.0 million reduction in availability of the Third Mezzanine Facility
on March 26, 2009, the Company assessed the associated unamortized debt issuance costs of $1.7
million as of such date (which included unamortized warrant expense). The 67% reduction in
borrowing capacity ($20.0 million divided by $30.0 million) resulted in the expensing of debt
issuance costs in such proportion, totaling $1.1 million. Such amount was recorded to interest
expense to related party for the three months ended March 31, 2009 within the accompanying
Condensed Consolidated Statements of Operations. As of March 31, 2009, remaining unamortized debt
issuance costs totaled $0.5 million, and were fully amortized through May 14, 2009, the date the
Company fully repaid and cancelled the Third Mezzanine Facility.
16
The interest expense on the outstanding balance under the Mezzanine Facilities, including the
amortization of the fair value of issued warrants (see tables below), for the three and nine months
ended September 30, 2009, was $-0- and $3.6 million, respectively. Such amount is included in
interest expense to related parties within the accompanying Condensed Consolidated Statements of
Operations.
The below table summarizes the common stock warrant activity associated with the Initial
Mezzanine Facility for the nine months ended September 30, 2009. There was no comparable expense
in 2010, due to the full repayment of the Mezzanine Facilities in May 2009.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest Expense |
|
|
|
|
|
|
|
|
|
|
|
Warrant |
|
Warrant |
|
|
|
|
|
Recognized |
|
|
|
Exercise |
|
|
Warrant |
|
Issuance |
|
Expiration |
|
|
|
|
|
Nine Months Ended |
|
Number of warrants |
|
Price |
|
|
Term |
|
Date |
|
Date |
|
Fair Value |
|
|
September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
125,000*. |
|
$ |
0.01 |
|
|
4 years |
|
March 7, 2007 |
|
March 7, 2011 |
|
$ |
204 |
|
|
$ |
23 |
|
62,500 |
|
|
1.39 |
|
|
4 years |
|
March 7, 2007 |
|
March 7, 2011 |
|
|
69 |
|
|
|
8 |
|
31,250* |
|
|
0.01 |
|
|
4 years |
|
November 14, 2007 |
|
November 14, 2011 |
|
|
62 |
|
|
|
11 |
|
31,250* |
|
|
0.01 |
|
|
4 years |
|
December 17, 2007 |
|
December 17, 2011 |
|
|
61 |
|
|
|
13 |
|
31,250* |
|
|
0.01 |
|
|
4 years |
|
March 5, 2008 |
|
March 5, 2012 |
|
|
62 |
|
|
|
16 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
458 |
|
|
$ |
71 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The below table summarizes the common stock warrant activity associated with the New
Mezzanine Facility:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest Expense |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrant |
|
|
|
|
|
Recognized |
|
|
|
Exercise |
|
|
Warrant |
|
Warrant |
|
Expiration |
|
|
|
|
|
Nine Months Ended |
|
Number of warrants |
|
Price |
|
|
Term |
|
Issuance Date |
|
Date |
|
Fair Value |
|
|
September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,643,750* |
|
$ |
0.01 |
|
|
5 years |
|
March 14, 2008 |
|
March 14, 2013 |
|
$ |
2,666 |
|
|
$ |
703 |
|
550,000* |
|
|
0.01 |
|
|
5 years |
|
June 10, 2008 |
|
June 11, 2013 |
|
|
1,140 |
|
|
|
300 |
|
550,000* |
|
|
0.01 |
|
|
5 years |
|
July 2, 2008 |
|
July 2, 2013 |
|
|
1,095 |
|
|
|
289 |
|
550,000* |
|
|
0.01 |
|
|
5 years |
|
September 2, 2008 |
|
September 2, 2013 |
|
|
1,167 |
|
|
|
308 |
|
550,000* |
|
|
0.01 |
|
|
5 years |
|
November 6, 2008 |
|
November 6, 2013 |
|
|
890 |
|
|
|
235 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$ |
6,958 |
|
|
$ |
1,835 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
* |
|
On November 20, 2008 Safeguard exercised the indicated common stock warrants. |
17
The below table summarizes the common stock warrant activity associated with the Third
Mezzanine Facility:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest Expense |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrant |
|
|
|
|
|
|
Recognized |
|
|
|
Exercise |
|
|
Warrant |
|
|
Warrant |
|
|
Expiration |
|
|
|
|
|
|
Nine Months Ended |
|
Number of Warrants Issued |
|
Price |
|
|
Term |
|
|
Issuance Date |
|
|
Date |
|
|
Fair Value |
|
|
September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
500,000 |
|
$ |
1.376 |
|
|
5 years |
| |
February 27, 2009 |
| |
February 27, 2014 |
| |
$ |
600 |
|
|
$ |
600 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(8) Equipment Financing
On March 31, 2009, the Company entered into a three-year capital lease with Hitachi Data
Systems Credit Corporation for computer equipment and related software with a fair value on such
date of $1.2 million, associated with the Companys initiative to upgrade its information
technology infrastructure. The Company also has a number of active laboratory equipment and office
equipment leases (capital and operating) with various providers as of September 30, 2010.
The Companys capital lease obligations as of September 30, 2010 are as follows:
|
|
|
|
|
Remainder of 2010 |
|
$ |
388 |
|
2011 |
|
|
1,376 |
|
2012 |
|
|
967 |
|
2013 |
|
|
645 |
|
2014 |
|
|
236 |
|
|
|
|
|
Subtotal |
|
|
3,612 |
|
Less: interest |
|
|
(401 |
) |
|
|
|
|
Total |
|
|
3,211 |
|
Less: current portion |
|
|
(1,212 |
) |
|
|
|
|
Capital lease obligations, long-term portion |
|
$ |
1,999 |
|
|
|
|
|
(9) Net Income (Loss) Per Share Information
The Company calculates earnings per share (EPS) under the two-class method. Under the
two-class method, all earnings during the period are allocated to common stock and participating
securities (defined below), based on their respective rights to receive dividends, assuming all
earnings during the period were distributed.
The Company grants restricted stock awards from time to time under its 2007 Plan (see Note
11), generally entitling recipients to voting rights and non-forfeitable rights to dividends, if
and when declared. The Companys Series A convertible preferred stock (see Note 13) also carries
voting rights and non-forfeitable dividend rights. The Companys unvested restricted stock awards
and its Series A convertible preferred stock, therefore, are deemed participating securities.
Participating securities are included in the computation of EPS under the two-class method in
periods of net income, but are not included in the computation of EPS in periods of net loss, since
the contractual terms of the participating securities do not require the holders funding of the
Companys losses. Additionally, participating securities are not included in the computation of
EPS when distributions, or their accounting equivalents such as an amortized beneficial conversion
feature, are in excess of net income in the same period.
Basic EPS for the three and nine months ended September 30, 2010 and 2009, was computed by
dividing net income attributable to common stockholders by the weighted average number of Common
Shares outstanding during the period. Diluted EPS was computed by dividing net income attributable
to common stockholders by the weighted average number of Common Shares outstanding during the
period increased to include, if dilutive, the number of additional Common Shares that would be
outstanding if the dilutive potential Common Shares had been issued. The dilutive effect of
outstanding warrants, stock options, and restricted stock awards is reflected in diluted net income
(loss) per share by application of the treasury stock method.
18
Basic and diluted EPS applicable to common stockholders for the three and nine months ended
September 30, 2010 and 2009 is summarized in the table below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
Nine Months Ended September 30, |
|
|
|
2010 |
|
|
2009 |
|
|
2010 |
|
|
2009 |
|
Net income
(loss) per share
applicable to
common
stockholders basic
and diluted: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from
continuing
operations, net of
income taxes |
|
$ |
0.02 |
|
|
$ |
(0.04 |
) |
|
$ |
0.03 |
|
|
$ |
(0.11 |
) |
Income from
discontinued
operations, net of
income taxes |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
0.01 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
applicable to
common stockholders |
|
$ |
0.02 |
|
|
$ |
(0.04 |
) |
|
$ |
0.03 |
|
|
$ |
(0.10 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted EPS was computed by dividing net loss applicable to common stockholders by
the applicable weighted-average outstanding Common Shares during each period, as summarized in the
table below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
Nine Months Ended September 30, |
|
|
|
2010 |
|
|
2009 |
|
|
2010 |
|
|
2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted EPS numerator: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from continuing
operations, net of income taxes |
|
$ |
2,342 |
|
|
$ |
(3,235 |
) |
|
$ |
2,914 |
|
|
$ |
(4,263 |
) |
Income from discontinued operations,
net of income taxes |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
901 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
2,342 |
|
|
$ |
(3,235 |
) |
|
$ |
2,914 |
|
|
$ |
(3,362 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less: Series A preferred stock
beneficial conversion feature |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(4,290 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less: Undistributed earnings
allocated to participating
securities |
|
|
(504 |
) |
|
|
|
|
|
|
(606 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Undistributed earnings (loss)
allocated to common stockholders |
|
$ |
1,838 |
|
|
$ |
(3,235 |
) |
|
$ |
2,308 |
|
|
$ |
(7,652 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
19
The following share amounts were used to compute basic and diluted EPS applicable to common
stockholders (in periods of net loss, or when distributions or equivalents were in excess of net
income, the anti dilutive effects of participating securities, stock options, and warrants, were
properly excluded):
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
2010 |
|
|
2009 |
|
Basic EPS denominator: |
|
|
|
|
|
|
|
|
Weighted-average outstanding common
shares |
|
|
85,461 |
|
|
|
77,583 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted EPS denominator: |
|
|
|
|
|
|
|
|
Weighted-average outstanding common
shares |
|
|
88,672 |
|
|
|
77,583 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
2010 |
|
|
2009 |
|
Basic EPS denominator: |
|
|
|
|
|
|
|
|
Weighted-average outstanding common
shares |
|
|
84,855 |
|
|
|
77,257 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted EPS denominator: |
|
|
|
|
|
|
|
|
Weighted-average outstanding common
shares |
|
|
87,654 |
|
|
|
77,257 |
|
|
|
|
|
|
|
|
The following outstanding Company securities were excluded from the above calculations of net
income (loss) per share applicable to common stockholders because their impact would have been
anti-dilutive:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three |
|
|
Nine |
|
|
|
|
|
|
Months |
|
|
Months |
|
|
|
|
|
|
Ended |
|
|
Ended |
|
|
|
|
|
|
September 30, |
|
|
September 30, |
|
|
Total Outstanding at |
|
|
|
2010 |
|
|
2010 |
|
|
September 30, 2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Series A convertible preferred stock (as converted see Note 13) |
|
|
|
|
|
|
|
|
|
|
21,053 |
|
|
|
Common stock options (treasury stock method) |
|
|
5,603 |
|
|
|
5,971 |
|
|
|
7,486 |
|
Common stock warrants (treasury stock method) |
|
|
315 |
|
|
|
360 |
|
|
|
3,033 |
|
|
|
|
|
|
|
|
|
|
|
Total |
|
|
5,918 |
|
|
|
6,331 |
|
|
|
31,572 |
|
|
|
|
|
|
|
|
|
|
|
20
(10) Comprehensive Income (Loss)
Comprehensive income (loss) is defined as the change in equity from net income (loss) and
other transactions from non-stockholder sources during the period. The following summarizes the
components of the Companys comprehensive income (loss):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
|
2010 |
|
|
2009 |
|
|
2010 |
|
|
2009 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss) |
|
$ |
2,342 |
|
|
$ |
(3,235 |
) |
|
$ |
2,914 |
|
|
$ |
(3,362 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign currency translation adjustment |
|
|
|
|
|
|
(3 |
) |
|
|
|
|
|
|
(8 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive income (loss) |
|
$ |
2,342 |
|
|
$ |
(3,238 |
) |
|
$ |
2,914 |
|
|
$ |
(3,370 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
(11) Stock-Based Compensation
2007 Incentive Award Plan
The Company has one active stockholder-approved stock plan, the 2007 Incentive Award Plan (the
2007 Plan), which replaced the Companys former stockholder-approved stock plan (the 1996
Plan). The 2007 Plan provides for the grant of incentive stock options and nonqualified stock
options, restricted stock awards and restricted stock units, stock appreciation rights, performance
shares, performance stock units, dividend equivalents, stock payments, deferred stock, performance
bonus awards, and performance-based awards.
The maximum number of shares of the Companys common stock available for issuance under the
2007 Plan is 12.0 million shares (which increased by 7.0 million shares due to a
stockholder-approved amendment of the 2007 Plan in June 2010), plus additional availability from
forfeited shares under the 1996 Plan. As of September 30, 2010, 5.2 million shares were available
for grant under the 2007 Plan. The Company does not hold treasury shares, and therefore all shares
issued through exercised stock options are through unissued shares that are authorized and reserved
under the 2007 Plan. It is the Companys policy that before stock is issued through the exercise
of stock options, the Company must first receive all required cash payment for such shares.
Stock-based awards are governed by agreements between the Company and the recipients.
Incentive stock options and nonqualified stock options may be granted under the 2007 Plan at an
exercise price of not less than the closing fair market value of the Companys common stock on the
respective date of grant. The grant date is generally the date the award is approved by the
Companys Board of Directors, though for aggregate awards of 50,000 or less in each calendar
quarter, the grant date is generally the date the award is approved by the Companys chief
executive officer on the first business date of a calendar month.
The Companys standard stock-based award vests 25 percent on the first anniversary of the date
of grant, or for new hires, the first anniversary of their initial date of employment with the
Company. Awards vest either monthly or quarterly thereafter on a straight-line basis over 36
months. Stock options must be exercised, if at all, no later than 10 years from the date of grant.
Upon termination of employment with the Company, vested stock options may be exercised within 90
days from the last date of employment. In the event of an optionees death, disability, or
retirement, the exercise period is 365 days from the last date of employment.
21
Stock-based Compensation Expense
Stock-based compensation, which includes stock options and restricted stock awards, is
recognized in the Condensed Consolidated Statements of Operations as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
Nine Months Ended |
|
|
|
September 30, |
|
|
September 30, |
|
|
|
2010 |
|
|
2009 |
|
|
2010 |
|
|
2009 |
|
Cost of services |
|
$ |
189 |
|
|
$ |
83 |
|
|
$ |
436 |
|
|
$ |
155 |
|
Operating expenses |
|
|
1,028 |
|
|
|
418 |
|
|
|
2,175 |
|
|
|
1,485 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total stock-based compensation expense |
|
$ |
1,217 |
|
|
$ |
501 |
|
|
$ |
2,611 |
|
|
$ |
1,640 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(12) Outstanding Equity Securities and Stock Transactions
The following table presents the Companys outstanding equity securities as of September 30,
2010:
|
|
|
|
|
|
|
Shares |
|
|
|
|
|
|
Common stock (includes unvested restricted stock awards) |
|
|
88,664 |
|
Series A preferred stock (as-converted) |
|
|
21,053 |
|
Options outstanding (vested and unvested) |
|
|
8,401 |
|
Warrants outstanding (all of which are vested) |
|
|
729 |
|
|
|
|
|
Total |
|
|
118,847 |
|
|
|
|
|
The below summarizes recent significant transactions involving the Companys equity
securities.
Acquisition of Applied Genomics, Inc.
On December 21, 2009, the Company completed its acquisition of Applied Genomics, Inc. (AGI)
in accordance with the terms and conditions of the Agreement and Plan of Merger and Reorganization,
dated as of December 21, 2009, as amended March 17, 2010, by and between the Company and AGI. The
purchase price for AGI consisted of 4.4 million of the Companys Common Shares issued to the former
AGI stockholders at the closing of the acquisition (inclusive of exchanged stock option awards with
an exercise price of $0.40 per share), and a maximum of an additional 3.2 million of the Companys
Common Shares to the former AGI stockholders (inclusive of exchanged stock option awards with an
exercise price of $0.40 per share), upon the achievement of three milestones by December 31, 2012.
As of September 30, 2010, two of the three milestones had been achieved, resulting in the issuance
of 1.5 million shares (inclusive of exchanged stock option awards with an exercise price of $0.40
per share). See Note 14 for further discussion of the AGI acquisition.
Stock Purchase Agreement with Oak Investment Partners XII, Limited Partnership
On March 25, 2009, the Company entered into a stock purchase agreement (Oak Purchase
Agreement) with Oak Investment Partners XII, Limited Partnership (Oak). In reliance on
Section 4(2) of the Securities Act of 1933, as amended (the Securities Act), the Company agreed
to sell Oak up to an aggregate of 6.6 million shares of its Series A convertible preferred stock,
$0.01 par value (the Preferred Shares), in two or more tranches (the Oak Private Placement) for
aggregate consideration of up to $50.0 million. The initial closing of the Oak Private Placement
occurred on March 26, 2009, at which time the Company issued and sold an aggregate of 3.8 million
Preferred Shares (the Initial Oak Closing Shares) for aggregate consideration of $29.1 million.
The second closing of the Oak Private Placement occurred on May 14, 2009, at which time the Company
issued and sold an aggregate of 1.4 million Preferred Shares (the Second Oak Closing Shares) for
aggregate consideration of $10.9 million. Oaks Preferred Shares represented 19.2% of the total
voting power of the Companys issued and outstanding voting securities as of September 30, 2010.
Sale by Safeguard Scientifics, Inc.
In August and September 2009, Safeguard, through its wholly owned subsidiaries, completed the
sale of an aggregate of 18.4 million shares of the Companys common stock held by Safeguard in an
underwritten public offering which was pursuant to an effective registration statement filed with
the SEC. The Company did not, and will not, receive any
proceeds from the sale of such shares. Safeguards holdings of the Companys common stock
represented 27.5% of the total voting power of the Companys issued and outstanding voting
securities as of September 30, 2010.
22
Share Registration Obligations of the Company
As required by the terms of the Oak Purchase Agreement, the Company entered into a
Registration Rights Agreement with Oak on March 26, 2009. The Registration Rights Agreement
obligated the Company to register for resale, on a Form S-3 registration statement, the shares of
common stock issuable upon the conversion of the Preferred Shares. Such From S-3 was filed with
the SEC on December 22, 2009. From time to time in the past, the Company completed
several other private placements of its equity securities. In connection therewith, the Company
has entered into certain agreements which require the Company to register, for resale, such
investors securities under the Securities Act. The Company has concluded that under applicable
GAAP, an accrual of the estimated costs of preparing and filing such future registration statements
is not required.
Stock Warrant Activity
The Company has issued stock warrants to various parties in connection with entering and
maintaining certain credit facilities, as consideration for various licensing arrangements with
other companies, and in conducting other corporate business. The Company had 0.7 million
outstanding stock warrants as of September 30, 2010, all of which were exercisable. The warrants
have expiration dates ranging from January 2011 through February 2014. Stock warrant activity in
2010 is summarized below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted Average |
|
|
|
Shares |
|
|
Exercise Price |
|
|
|
|
|
|
|
|
|
|
Stock warrants outstanding, December 31, 2009 |
|
|
1,413 |
|
|
$ |
1.26 |
|
Granted |
|
|
|
|
|
|
|
|
Exercised |
|
|
674 |
|
|
|
|
|
Canceled |
|
|
10 |
|
|
|
|
|
|
|
|
|
|
|
|
|
Warrants outstanding, September 30, 2010 |
|
|
729 |
|
|
$ |
1.44 |
|
|
|
|
|
|
|
|
|
(13) Redeemable Preferred Stock
General Features
In March and May 2009, the Company issued and sold an aggregate of 5.3 million Preferred
Shares to Oak for aggregate gross consideration of $40.0 million. In connection with the issuance
of the Initial and Second Oak Closing Shares, the Company incurred expenses of $1.4 million. These
expenses were related to legal fees and investment banker fees which were recorded as a reduction
of additional paid in capital, rather than expense. Accordingly, the Preferred Shares are
presented at $38.6 million in the accompanying Condensed Consolidated Balance Sheets at September
30, 2010 and December 31, 2009, respectively ($40.0 million of aggregate Oak proceeds less $1.4
million of legal fees and investment banker fees).
Each Preferred Share will be voted with Common Shares on an as-converted basis and is
initially convertible, at any time, into four shares of the Companys common stock, though is
subject to broad-based weighted-average anti-dilution protection in the event that the Company
issues additional shares at or below the then-applicable conversion price for such share (initially
$1.90 per share). This provision will not be triggered, however, unless and until the Company
issues shares that, when aggregated with all shares issued after the initial closing, have an
aggregate offer or issue price exceeding $5.0 million. The Preferred Shares will automatically
convert if, at any time beginning after March 26, 2010, the Companys common stock price is above
$4.75 per share (as adjusted for stock splits, combinations, recapitalizations and the like) for 20
consecutive trading days over a 30-day trading period.
The Preferred Shares are senior to the Companys common stock with respect to liquidation
preference and dividends (in the event declared) in proportion to the relative number of Common
Shares on an as-converted basis. The Preferred Shares do not accrue dividends. Upon any
liquidation of the Company, before any distribution or payment is made to any other stockholders,
each Preferred Share holder is entitled to receive a liquidation payment. The liquidation payment
is the greater of (1) the initial purchase price of $7.60 per Preferred Share (equal to $1.90 per
common share on an if-converted basis, and subject to adjustment for any stock splits, stock
dividends or other recapitalizations) plus any declared and unpaid dividends thereon or (2) such
amount per Preferred Share as would have been payable had each Preferred Share been converted into
common stock immediately prior to such liquidation. At any time after March 26, 2013, the Company
may, at its option, redeem all Preferred Shares for an amount equal to its full liquidation
preference.
23
Redemption and Liquidation Rights
The redemption rights of the Preferred Shares are immediately triggered by the occurrence of
certain business events enumerated in the Stock Purchase Agreement with Oak. All such business
events are deemed to be within the Companys control, except beginning in the third quarter of
2009, an event of a change in control of the Company, whether by acquisition or merger. As of
August 21, 2009, an event of a change of control of the Company became possible with the effective
registration of Safeguards holdings in the Company through a registration statement on Form S-3
filed with the SEC (the Safeguard S-3). The Safeguard S-3 resulted in the ability of a
third-party to acquire over 50% of registered shares of the Company on the open market (see Note
15). Accordingly, the Preferred Shares have been classified as temporary equity (rather than
permanent equity) within the accompanying Condensed Consolidated Balance Sheets, as required under
applicable GAAP, since all redemption events are not solely within the Companys control as of
September 30, 2010 and December 31, 2009.
The Companys stock price on the NASDAQ Capital Market closed at $3.38 and $2.65 per common
share on September 30, 2010 and December 31, 2009, respectively, which exceeded the Preferred
Shares $1.90 liquidation value per common share, on an as-converted basis. In accordance with
GAAP, Company determined that the liquidation preference for the Preferred Shares was $71.2 million
and $55.8 million as of September 30, 2010 and December 31, 2009, respectively, as disclosed in the
accompanying Condensed Consolidated Balance Sheets. The liquidation preference was determined by
multiplying 21.1 million Common Shares that the Preferred Shares could be converted into by the
NASDAQ Capital Market closing price of $3.38 and $2.65 per common share on each date, respectively.
As of the date this Quarterly Report was filed with the SEC, the Company believes that the
Merger with General Electric is likely to occur. If the Merger is completed, the liquidation
preference on the Preferred Shares will be $5.00 per Common Share, and one Preferred Share converts to
four Common Shares.
Beneficial Conversion Feature
The Oak Purchase Agreements Material Adverse Effect (MAE) clause could have allowed Oak, at
their sole discretion, to have never completed the Second Oak Closing on May 14, 2009 due to their
rights under the Oak Purchase Agreement. Oaks discretion in completing the Second Oak Closing
allowed by the MAE clause, combined with the in-the-money non-detachable conversion feature of the
Preferred Shares, resulted in a $4.3 million beneficial conversion feature (the BCF) associated
with the Second Oak Closing Shares.
The Company recorded the BCF as an increase to accumulated deficit and a coinciding increase
of additional paid-in capital as of May 14, 2009, reflected within the accompanying Condensed
Balance Sheets as of September 30, 2010 and December 31, 2009. The BCF also served to increase net
loss applicable to common stockholders by $4.3 million for the nine months ended September 30,
2009, reflected within the accompanying Condensed Consolidated Statement of Operations. The BCF
was calculated using the Companys $2.65 per common share closing price on May 14, 2009 (the date
of the Second Oak Closing), less Oaks $1.90 contractual purchase price of the Companys common
stock on an if-converted basis. The resulting $0.75 value per share was multiplied by the Second
Oak Closing Shares on an if-converted basis, equal to 5.7 million Common Shares.
(14) Contingently Issuable Common Stock
AGI Acquisition Summary
On December 21, 2009 (the AGI Closing Date), the Company completed the acquisition of AGI
(the AGI Acquisition) in accordance with the terms and conditions of the Agreement and Plan of
Merger and Reorganization, dated as of December 21, 2009, as amended March 17, 2010, among the
Company, AGI, and the other parties named therein (the AGI Agreement). As of the AGI Closing
Date, AGI had developed 10 prognostic and predictive multivariate immunohistochemistry-based (IHC)
biomarkers for use in assessing the recurrence rates of certain cancer types, and the likelihood of
a favorable patient response to various treatment options.
The AGI purchase price consisted of 4.4 million of the Companys Common Shares, inclusive of
exchanged stock option awards with an exercise price of $0.40 per share, which were issuable on the
Closing Date, and a maximum of an additional 3.2 million shares, inclusive of exchanged stock
option awards with an exercise price of $0.40 per share (the Contingent Shares) upon the
achievement of certain revenue and scientific milestones (the AGI Milestones) by December 31,
2012.
The AGI acquisition was accounted for as a business combination under applicable GAAP,
requiring the use of the acquisition method of accounting. Accordingly, the purchase price was
allocated to the assets acquired and liabilities assumed, based on their estimated fair values on
the AGI Closing Date.
24
Liability Accounting for Variable Shares
As of December 31, 2009, an aggregate 1.4 million of the Contingent Shares met the
requirements for liability accounting under applicable GAAP (the Variable Shares). The Variable
Shares were variable with respect to the number of Common Shares that, depending on the sequence of
AGI Milestone achievements, are issuable through December 31, 2012, though limited to an aggregate
issuance of the 3.2 million shares, inclusive of exchanged stock option awards. The Company,
therefore, recorded a $2.7 million long term liability reported as contingently issuable common
shares on its Consolidated Balance Sheets as of December 31, 2009. The $2.7 million value was
derived from a calculation performed by the Company that involved the estimated probability and
timing of Variable Share achievement into a single, present-valued amount, utilizing (i) certain
liquidity restrictions on the Variable Shares; (ii) the contingency associated with the Variable
Shares; and (iii) the volatility associated with the Companys stock.
During the three months ended March 31, 2010, 1.5 million of the Contingent Shares became
immediately issuable to the former AGI shareholders, based upon the achievement in February and
March 2010 of two milestones under the AGI Agreement. As a result of these two milestones being
achieved, the Variable Shares no longer met the requirement for liability accounting as of March
17, 2010.
The Company recorded a mark-to-market adjustment for the Variable Shares through March 17,
2010. The adjustment involved comparing the value of the Variable Shares as of December 31, 2009,
to their value as of March 17, 2010. The Company recorded $31,000 of expense within other
expense on its Condensed Consolidated Statements of Operations for the nine months ended September
30, 2010 for this mark to market adjustment. The fair value of the Variable Shares as of March 17,
2010 was derived from a calculation performed by the Company that involved the (i) the Companys
closing stock price on the NASDAQ Capital Market on each of the two milestone achievement dates in
February and March 2010 multiplied by the related number of Variable Shares on each of such dates,
less (ii) an estimated discount for certain liquidity restrictions on the Variable Shares,
incorporating Level 3 inputs (see Note 2(m)).
The Company reclassified the $2.7 million contingently issuable common shares liability
reported on its December 31, 2009 Consolidated Balance Sheet to additional paid in capital during
the nine months ended September 30, 2010. Accordingly, the contingently issuable common shares
liability was $-0- at September 30, 2010, as summarized in the table below.
|
|
|
|
|
|
|
Contingently Issuable |
|
|
|
Common Stock |
|
December 31, 2009 |
|
$ |
2,650 |
|
Mark to market adjustment of Variable Shares (non-cash) |
|
|
31 |
|
Reclassification of Variable Shares to additional paid in capital |
|
|
(2,681 |
) |
|
|
|
|
September 30, 2010 |
|
$ |
|
|
|
|
|
|
(15) Subsequent Event
Pending Acquisition by General Electric
On October 22, 2010, the Company entered into the Merger Agreement with General Electric, and
the Purchaser, pursuant to which General Electric, through the
Purchaser, will commence the Offer to acquire all of the outstanding shares of the Companys Common Shares, and all of the
outstanding shares of the Companys Preferred Shares at a price per Common Share of $5.00 and a
price per Preferred Share of $20.00.
Completion of the Offer is subject to several conditions, including (i) that a majority of the
outstanding Common Shares (determined on a fully diluted basis) must be tendered and not validly
withdrawn prior to the expiration of the Offer; (ii) that a majority of any Preferred Shares then
outstanding must be tendered and not validly withdrawn prior to the expiration of the Offer;, (iii)
the expiration of the applicable waiting period under the HSR Act; (iv) the absence of a material
adverse effect on the Company; and (v) other customary closing conditions.
25
Following consummation of the Offer, Purchaser will be merged with and into the Company (the
Merger), with the Company surviving as a wholly-owned indirect subsidiary of General Electric.
Upon completion of the Merger, each Share outstanding immediately prior to the effective time of
the Merger (excluding those Shares that are held by General Electric, Purchaser, the Company or
their wholly-owned subsidiaries, or by stockholders who properly exercise their appraisal rights
under the Delaware General Corporation Law) will be canceled and converted into the right to
receive the applicable Merger Consideration. Consummation of the Merger is subject to completion
of the Offer, the absence of any legal prohibition and, if necessary, approval of the Company
stockholders.
The Merger Agreement may be terminated under certain customary circumstances, including by
General Electric if the Companys Board of Directors withdraws or changes its recommendation in
support of the Offer, or by the Company if the Companys Board of Directors decides to accept a
Superior Proposal (as defined in the Merger Agreement). In each of these cases, the Company may be
required to pay General Electric a termination fee of $18.0 million (the Breakup Fee).
In addition, if the Offer expires or terminates without any Shares being purchased or is not
completed before April 22, 2011, either General Electric or the Company may terminate the Merger
Agreement. If prior to the date of any such termination, a competing acquisition proposal is
publicly disclosed and the Company enters into an agreement to consummate, or actually consummates,
a competing acquisition proposal within six months after such termination, then the Company may
also be required to pay General Electric the Breakup Fee upon completion of such competing
acquisition proposal.
In connection with the Merger, all outstanding stock options, whether vested or unvested, will
be deemed to be exercised and terminated in exchange for a payment in cash of the excess, if any,
of the Common Offer Price over the exercise price per share of such stock option; all vesting
restrictions applicable to shares of restricted common stock shall be fully accelerated, and such
shares of restricted common stock shall be cancelled and converted into the right to receive the.
Common Offer Price in the Merger; and all outstanding warrants will be converted into the right to
receive the excess, if any, of the Common Offer Price over the exercise price per share of such
warrant.
Stockholder
Letters
On October 22,
2010, Oak and Safeguard the (“Supporting Stockholders”) entered
into a separate letter agreement with the Company (collectively, the
“Stockholder Letters”), pursuant to which Oak and Safeguard each
committed to pay a cash retention bonus to certain eligible officers of the
Company upon the consummation of a Change in Control (as defined in the
Stockholder Letters). The consummation of the transactions contemplated by the
Merger Agreement will be considered a Change in Control for purposes of the
Stockholder Letters. The terms and conditions of each Stockholder Letter are
materially identical to each other, as summarized below.
Each Stockholder
Letter provides that a total of at least eight officers of the Company are
eligible to receive a retention bonus, including the following named executive
officers of the Company: Ronald A. Andrews, the Company’s Chief Executive
Officer and Vice Chairman; Michael R. Rodriguez, the Company’s Chief
Financial Officer; Michael J. Pellini, the Company’s President and Chief
Operating Officer; and David J. Daly, the Company’s Senior Vice President
of Commercial Operations. The aggregate amount of retention bonuses that may
become payable to all eligible officers under the Shareholder Letters will not
exceed $12.0 million. The named executive officers have been allocated the
following amount of retention bonuses, any payment of which is subject to the
terms and conditions of the Shareholder Letter: $3.7 million to
Mr. Andrews, $1.1 million to Mr. Rodriguez, $2.2 million to
Dr. Pellini, and $2.1 million to Mr. Daly. These allocations may
be modified by mutual agreement of the Supporting Stockholders and the Company
(subject to approval of a majority of the members of the Compensation Committee
of the Board not affiliated with either Supporting Stockholder). An officer
will be eligible to receive payment of the allocated amount of retention bonus
if a Change in Control occurs prior to the termination of the Stockholder
Letter, and either (i) the officer is employed by the Company on the date
on which a Change in Control occurs, or (ii) the officer’s
employment is terminated by the Company without “Cause” or by the
officer for “Good Reason” (each as defined in the Stockholder
Letters) following the effective date of the Stockholder Letter and prior to
the date of such Change in Control. Subject to the officer’s execution of
a release of claims against the applicable Supporting Stockholder and the
Company, approval by the Compensation Committee of the Board, and payment of
applicable taxes, any retention bonus that becomes payable under the
Stockholder Letter will be paid on the date on which a Change in Control
occurs. The Company has agreed to pay up to $1.3 million of excise taxes
under Internal Revenue Code Section 4999 that directly or indirectly
result from payments of retention bonuses under the Stockholder Letters
(grossed up to cover any additional taxes that result from the payment of such
excise taxes by the Company).
Each Stockholder
Letter may be terminated, amended or modified by mutual agreement of the
Company (subject to approval of a majority of the members of the Audit
Committee of the Board) and the Supporting Stockholder at any time prior to the
consummation of a Change in Control. In addition, each Stockholder Letter will
automatically terminate, unless extended in writing by the Company and the
Supporting Stockholder, if (i) the Company is not a party to a definitive
agreement providing for a Change in Control for a period of at least 15
consecutive business days following the effective date of the Stockholder
Letter and prior to the consummation of a Change in Control, or (ii) the
other Stockholder Letter is terminated or materially amended to reduce the
amount of the commitment of the other Supporting Stockholder to pay retention
bonuses thereunder without the consent of the Supporting Stockholder.
Litigation
Following announcement of the Merger Agreement on October 22, 2010, several lawsuits were
filed by plaintiffs who allegedly hold Common Shares, suing on behalf of themselves and on behalf
of an alleged class of the Companys public stockholders. Five suits have been filed in the
Superior Court of California, County of Orange: on October 25, 2010 a suit was filed by plaintiff
Herbert Silverberg (Silverberg Complaint) naming the Company, each member of the Companys Board
of Directors, Safeguard, Oak and Purchaser; on October 26, 2010 a suit was filed by plaintiff
Southwest Ohio Regional Council of Carpenters Pension Plan (Southwest Ohio Complaint) naming the
Company, each member of the Companys Board of Directors, Purchaser, General Electric and 25
unidentified Does; and on October 28, 2010 three suits were filed; by plaintiff Dolph Haege
naming the Company, each member of the Companys Board of Directors, Purchaser and General
Electric, by plaintiff Michael Sassone (Sassone Complaint) naming the same defendants as the
Southwest Ohio Complaint and by Frank Sigl (Sigl Complaint) also naming the same defendants as
the Southwest Ohio Complaint. In addition, a suit was filed in Delaware Court of Chancery on
October 27, 2010 by plaintiff Bette Kurzweil naming the Company, each member of the Companys Board
of Directors, General Electric, GE Healthcare, and Purchaser. The
Company has been notified that two additional cases have been filed,
but, as of the date this quarterly report on Form 10Q was filed
with the SEC, the Company has not received the related complaints.
Plaintiffs in each case allege that the Companys Board of Directors breached their fiduciary
duties to the Companys stockholders, and that the Merger Agreement between the Company and General
Electric involves an unfair price, an inadequate sales process, unreasonable deal protection
devices, and that defendants agreed to the Merger to benefit
themselves personally. Several of the Complaints also allege that Safeguard and Oak together control the Company and breached fiduciary
duties allegedly owed by controlling shareholders to the
Companys stockholders. In addition, in each case, the plaintiffs allege that either the Company, General Electric, GE Healthcare, and/or the
Purchaser, aided and abetted the alleged breach of fiduciary duty by the other defendants.
The complaints seek to enjoin the transaction or in the alternative award the respective
plaintiffs and alleged class damages plus pre- and post-judgment interest, as well as other
unspecified attorneys and other fees and costs, and other relief. The Southwest Ohio Complaint,
Sassone Complaint, and Sigl Complaint also seek to impose a constructive trust in favor of
plaintiff and the alleged class upon any benefits improperly received by defendants.
The Company believes that these actions have no merit and intends to defend vigorously against
them. The Company has not recorded any accrual for these claims within the accompanying Condensed
Consolidated Financial Statements.
26
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|
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Item 2. |
|
Managements Discussion and Analysis of Financial Condition and Results of Operations |
Forward-Looking Statements
This Quarterly Report on Form 10-Q contains forward-looking statements that are based on
current expectations, estimates, forecasts and projections about us, the industries in which we
operate and other matters, as well as managements beliefs and assumptions and other statements
regarding matters that are not historical facts. These statements include, in particular,
statements about our plans, strategies and prospects. For example, when we use words such as
projects, expects, forecasts, anticipates, intends, plans, believes, seeks,
estimates, should, would, could, will, opportunity, potential or may, variations of
such words or other words that convey uncertainty of future events or outcomes, we are making
forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as
amended (the Securities Act) and Section 21E of the Securities Exchange Act of 1934, as amended
(the Exchange Act).
Our forward-looking statements are subject to risks and uncertainties. Factors that might
cause actual results to differ materially, include, but are not limited to: delays in completing,
or the failure to complete, the proposed Merger with General Electric due to a failure to satisfy
closing conditions or other reasons, our ability to continue to develop and expand our diagnostic
services business, uncertainties inherent in our product development programs, our ability to
attract and retain highly qualified managerial, technical, and sales and marketing personnel, our
ability to maintain compliance with financial and other covenants under our credit facility, our
ability to successfully manage our in-house billing and collection processes, the continuation of
favorable third-party payor reimbursement for laboratory tests, changes in federal payor
regulations or policies, including adjustments to Medicare reimbursement rates, that may affect
coverage and reimbursement for our laboratory diagnostics services, our ability to obtain
additional financing on acceptable terms or at all, unanticipated expenses or liabilities or other
adverse events affecting cash flow, uncertainty of success in identifying and developing new
diagnostic tests or novel markers, our ability to fund development of new diagnostic tests and
novel markers, and to obtain adequate patent protection covering our use of these tests and
markers, and the amount of resources we determine to apply to novel marker development and
commercialization, the risk to us of infringement claims and the possibility of the need to license
intellectual property from third parties to avoid or settle such claims, FDA initiatives to
regulate the development, validation and commercialization of laboratory developed tests, failure
to obtain regulatory approvals and clearances required to conduct clinical trials if/when required
and/or to commercialize our services and underlying diagnostic applications, our ability to compete
with other technologies and with emerging competitors in novel cancer diagnostics and our
dependence on third parties for collaboration in developing new tests, and those factors set forth
under the captions Managements Discussion and Analysis of Financial Condition and Results of
Operations and Risk Factors in this Quarterly Report on Form 10-Q and disclosures made under the
captions Managements Discussion and Analysis of Financial Condition and Results of Operations,
Risk Factors and Financial Statements and Supplementary Data included in our Annual Report on
Form 10-K for the year ended December 31, 2009. Many of these factors are beyond our ability to
predict or control. In addition, as a result of these and other factors, our past financial
performance should not be relied upon as an indication of future performance. All forward-looking
statements attributable to us, or to persons acting on our behalf, are expressly qualified in their
entirety by this cautionary statement.
We undertake no obligation to publicly update or revise any forward-looking statements,
whether as a result of new information, future events or otherwise, except as required by law. In
light of these risks and uncertainties, the forward-looking events and circumstances discussed in
this Quarterly Report on Form 10-Q might not occur.
Pending Acquisition by General Electric
On October 22, 2010, the Company entered into a definitive Agreement and Plan of Merger (the
Merger Agreement) with General Electric Company, a New York corporation (General Electric),
and Crane Merger Sub, Inc., a Delaware corporation and an indirect wholly-owned subsidiary of
General Electric (Purchaser), pursuant to which General Electric, through the Purchaser, will
commence an offer (the Offer) to acquire all of the outstanding shares of the Companys common
stock, par value $0.01 per share (the Common Shares), and all of the outstanding shares of the
Companys Series A Convertible Preferred Stock, par value $0.01 per share (the Preferred Shares,
and together with the Common Shares, the Shares), at a price per Common Share of $5.00 (the
Common Offer Price) and a price per Preferred Share of $20.00 (together with the Common Offer
Price, the Merger Consideration).
Completion of the Offer is subject to several conditions, including (i) that a majority of the
outstanding Common Shares (determined on a fully diluted basis) must be tendered and not validly
withdrawn prior to the expiration of the Offer; (ii) that a majority of any Preferred Shares then
outstanding must be tendered and not validly withdrawn prior to the expiration of the Offer;, (iii)
the expiration of the applicable waiting period under the Hart-Scott-Rodino Antitrust Improvements
Act of 1976, as amended (the HSR Act); (iv) the absence of a material adverse effect on the
Company; and (v) other customary closing conditions.
27
Following consummation of the Offer, Purchaser will be merged with and into the Company (the
Merger), with the Company surviving as a wholly-owned indirect subsidiary of General Electric.
Upon completion of the Merger, each Share outstanding immediately prior to the effective time of
the Merger (excluding those Shares that are held by General Electric, Purchaser, the Company or
their wholly-owned subsidiaries, or by stockholders who properly exercise their appraisal rights
under the Delaware General Corporation Law) will be canceled and converted into the right to
receive the applicable Merger Consideration. Consummation of the Merger is subject to completion of
the Offer, the absence of any legal prohibition and, if necessary, approval of the Company
stockholders.
Overview and Outlook
We are an advanced oncology diagnostics services company, headquartered in Aliso Viejo,
California, and incorporated in 1993. Our mission is to help improve the lives of those affected
by cancer through translating cancer discoveries into better patient care. We combine innovative
technologies, clinically meaningful diagnostic tests, and world-class pathology expertise to
provide advanced diagnostic services that assess and characterize cancer for physicians in the
course of treating their patients. We also provide a complete complement of commercial services to
biopharmaceutical companies and other research organizations, including diagnostic testing
services, development of companion diagnostics, and clinical trial support. Our physician
customers are connected to our Internet-based portal, PATHSiTE®, that delivers high resolution
images and critical interpretative reports resulting from our diagnostic testing services.
Our strategic focus is centered on identifying high-value opportunities that enable the
expansion and differentiation of our cancer diagnostic services within the highly competitive
medical laboratories sector in which we operate. We commercialize our services through our highly
developed commercial channels with community pathologists, oncologists, universities, hospitals,
and pharmaceutical researchers. An important aspect of our strategy is to develop and expand our
diagnostic offerings by applying our technical and medical expertise in combination with available
intellectual property. Our diagnostic tests utilize biomarkers which are present in human
tissues, cells, or fluids to aid in understanding a cancer patients diagnosis, prognosis, and
expected outcome from the use of specific therapeutics. We believe that diagnostic tests which
utilize biomarkers may help bring clarity to critical decision making points related to cancer
treatment for healthcare providers and the biopharmaceutical industry.
In 2010, we are focused on four primary areas:
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Maintain net revenue growth by reaching new customers and increasing same
store sales to our existing customers with our new services; |
|
|
|
Maintain financial discipline to achieve profitability; |
|
|
|
Leverage our industry-leading commercial channel and successfully launch new
proprietary diagnostic tests into this channel; and |
|
|
|
Maximize the effectiveness of our billing and collection function. |
Our Services
Overview
We provide a wide range of cancer diagnostic testing and consultative services that include
technical laboratory services and professional interpretation of cancer diagnostic reports by
licensed physicians that specialize in anatomic pathology and hematopathology. Our reports and
analyses are provided to customers through PATHSiTE®, our Internet-based portal.
Our anatomic pathology services assess and evaluate the most common types of solid tumors:
breast, colon, lung, and prostate, representing over 80 percent of tumor biopsies in the United
States. We also offer an extensive menu of hematopathology testing for leukemia and lymphoma. Our
laboratory continues to expand its service offerings as new biomarkers emerge. We also provide a
complete complement of commercial services to biopharmaceutical companies and other research
organizations, including diagnostic testing services, development of companion diagnostics, and
clinical trial support.
28
New Tests Launched in 2010
Clarient Insight®Dx Pulmotype®
In February 2010, we launched Clarient Insight®Dx Pulmotype® (Pulmotype), a five antibody
immunohistochemistry (IHC) test that can be used to aid in the histological distinction between
adenocarcinoma and squamous cell carcinoma in non-small cell lung cancer tumor specimens. The
histologic classification of non-small cell lung tumors has gained clinical relevance because newly
developed targeted therapies show different clinical effectiveness or toxicity dependent upon the
histology of the tumor. Non-small cell lung cancer accounts for approximately 85% of the more than
200,000 lung cancer cases diagnosed each year. There is currently no other widely accepted
molecular-based tool to help distinguish these different histological types. Pulmotype
can, therefore, assist pathologists through complementing their morphological assessment of lung
types, resulting in better diagnostic precision for more targeted therapeutic decisions for
patients.
Methodologies Employed in Our Laboratory Services
Our extensive menu of over 350 diagnostic tests used to assess and characterize cancer
includes various methodologies which incorporate the latest laboratory technologies: IHC, flow
cytometry, polymerase chain reaction (PCR), fluorescent in situ hybridization (FISH),
cytogenetics, and histology, which are briefly described below:
|
|
|
IHC refers to the process of localizing proteins in cells of a tissue
section and relies on the principle of antibodies binding specifically to antigens
in biological tissues. IHC is widely used in the diagnosis of abnormal cells such
as those found in cancerous tumors. Specific molecular markers are characteristic
of particular cellular events such as proliferation or cell death (apoptosis). IHC
is also used to understand the distribution and localization of biomarkers and
differentially expressed proteins in various parts of biological tissue. |
|
|
|
Flow cytometry is a technology that measures and analyzes multiple physical
characteristics of single particles, usually cells, as they flow in a fluid stream
through a beam of light. The properties measured include a particles relative
size, relative granularity or internal complexity, and relative fluorescence
intensity. The use of flow cytometry assists a pathologist in diagnosing a wide
variety of leukemia and lymphoma neoplasms. Flow cytometry is also used to monitor
patients through therapy to determine whether the disease burden is increasing or
decreasing, otherwise known as minimal residual disease monitoring. |
|
|
|
PCR is a molecular biology technique that uses small DNA probes to target and
amplify specific gene sequences for further analysis. The amplification occurs
through the use of the polymerase chain reaction which consists of repeated cycles
of heating and cooling the specimen in the presence of specific reagents. The
technique is extremely sensitive and rapid, and offers direct detection and
visualization of gene sequences. |
|
|
|
FISH is a molecular technique that can be used to detect and localize the
presence or absence of specific DNA sequences on chromosomes. The technique uses
fluorescent probes that bind to only those parts of the chromosome with which they
show a high degree of sequence similarity. Fluorescence microscopy is used to
visualize the fluorescent probes bound to the chromosomes. FISH is often used for
finding specific features of the genome for use in genetic counseling, medicine,
and species identification. FISH can be used to help identify a number of gene
alternations, such as amplification, deletions, and translocations. |
|
|
|
Histology is the study of the microscopic structure of tissues. Through
histology services, a pathologist attempts to determine the diagnosis of disease.
Through structural and other changes in cells, tissues, and organs, pathologists
can use a number of tools to establish a diagnosis of the type of disease suffered
by the patient, a prognosis on the likely progression of the disease, and a
determination as to which therapies are most likely to be effective in treating the
patient. In addition to histology service, a number of molecular studies can now
be run on these samples to gain further insight on prognostic and predictive
indicators. |
|
|
|
Cytogenetics involves genetic testing in cancer to assess a variety of genetic
disorders and hematologic malignancies. It involves looking at the chromosome
structure to identify changes from patterns seen in normal chromosomes. |
29
Employees
As of September 30, 2010, we, inclusive of CPS (defined in Note 1(a) to the Condensed
Consolidated Financial Statements), had 405 employees: 236 in laboratory diagnostics, research and
development, and related support positions; 112 in executive, finance, information technology,
billing, and administrative positions; and 57 in sales and marketing positions. We are not subject
to any collective bargaining agreements, and we believe that our relationship with our employees is
good. In addition to full-time employees, we use various independent contractors, primarily for
certain of our service development and administrative activities.
Billing
Overview
Our net revenue is predominately derived from performing oncology diagnostic testing services
which are billed to third parties (Medicare and private health insurers), clients (pathologists,
hospitals, clinics, and biopharmaceutical companies), and patients. Our laboratory diagnostic
services are eligible for third-party reimbursement under well-established medical billing codes.
These billing codes are known as Healthcare Common Procedure Coding Systems and incorporate
Medicares Common Procedural Terminology (CPT) codes, providing the means by which
Medicare/Medicaid and private health insurers identify medical services that are eligible for
reimbursement. The Medicare/Medicaid reimbursement amounts are based on the relative value of
medical services with associated CPT codes, as established by the Centers for Medicare & Medicaid
Services (CMS) with recommendations from the American Medical Associations Relative Value Update
Committee.
CMS reimbursement rates, which provide the basis for substantially all of our billings, are
dictated by CPT codes under two distinct reimbursement schedules: a Physician Fee Schedule and a
Clinical Fee Schedule. We have the requisite provider numbers for both schedules, though the vast
majority of our billings fall under the Physician Fee Schedule. The relevant CPT billing codes
under the Physician Fee Schedule further distinguishes between Technical diagnostic services (the
performance of a diagnostic test), Professional services (the professional interpretation of a
diagnostic test, typically performed by a licensed physician), and Global services (the
combination of Technical and Professional services).
The amount that we are able to be reimbursed from private health insurers is based on several
factors, including the type of health insurance coverage (for example, health maintenance
organization or preferred provider organization), whether the services are considered to be in
network or out of network by the health insurance provider, and the amount of any co-pays or
deductibles for which the patient is responsible.
Payor Classes
Third-party billing. The majority of our net revenue is generated from patients who use health
insurance coverage through Medicare or private health insurers.
Client billing. We generally establish arrangements with our clients that allow us to bill
them an agreed-upon amount for each type of service provided, though our client pricing is
generally based upon the effective CPT code rate. It is generally our clients responsibility to
seek reimbursement from their patients health insurance companies and/or the patients themselves.
Patient billing. We bill patients with health insurance co-payment obligations and deductibles
(indirect billings), as well as patients without health insurance coverage (direct billings).
We do not rely on any single customer, or subset of customers, for a significant portion of
our net revenue and we therefore have minimal risk of customer concentration. We, however, are
dependent upon reimbursement from Medicare and its designated administrator for a substantial
portion of our services. Any significant delay in payment from Medicare, or any reduction in the
published Medicare fee schedules could impact our operating results, cash flows, and/or financial
condition.
30
CPT Code Summary 2010 and 2009
The following table summarizes the Medicare reimbursement rates under the Physician Fee
Schedule and Clinical Laboratory Fee Schedule for the most common CPT codes used in our laboratory
services (Fees). The TC modifier denotes Technical services, 26 modifier denotes
Professional services, and no modifier denotes Global services (except CPT codes 83891, 83896,
83898, 83907, and 83914 which are Technical). The below CPT codes, which provide the basis for our
reimbursement rates per test, are associated with a substantial portion of our net revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2010 Fees |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(6/1/10 11/30/10) |
|
|
|
|
|
2010 Fees |
|
|
2010 Fees* |
|
|
2009 Fees |
|
|
Change |
|
CPT Code |
|
General Description of Service |
|
(1/1/10 5/31/10) |
|
|
(6/1/10 11/30/10) |
|
|
(1/1/09 12/31/09) |
|
|
From 2009 |
|
88185 |
|
Flow cytometry (cell surface, cytoplasmic, or nuclear marker) |
|
$ |
58 |
|
|
$ |
60 |
|
|
$ |
59 |
|
|
|
1.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
88342 TC |
|
IHC (including tissue immunoperoxidase) |
|
$ |
72 |
|
|
$ |
74 |
|
|
$ |
72 |
|
|
|
2.8 |
% |
88342 26 |
|
IHC (including tissue immunoperoxidase) |
|
$ |
45 |
|
|
$ |
46 |
|
|
$ |
44 |
|
|
|
4.5 |
% |
88342 |
|
IHC (including tissue immunoperoxidase) |
|
$ |
117 |
|
|
$ |
119 |
|
|
$ |
116 |
|
|
|
2.6 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
88361 TC |
|
IHC (computer assisted) |
|
$ |
112 |
|
|
$ |
114 |
|
|
$ |
116 |
|
|
|
(1.7 |
)% |
88361 26 |
|
IHC (computer assisted) |
|
$ |
60 |
|
|
$ |
62 |
|
|
$ |
62 |
|
|
|
|
|
88361 |
|
IHC (computer assisted) |
|
$ |
173 |
|
|
$ |
176 |
|
|
$ |
178 |
|
|
|
(1.1 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
88368 TC |
|
FISH (manual) |
|
$ |
181 |
|
|
$ |
184 |
|
|
$ |
182 |
|
|
|
1.1 |
% |
88368 26 |
|
FISH (manual) |
|
$ |
68 |
|
|
$ |
70 |
|
|
$ |
70 |
|
|
|
|
|
88368 |
|
FISH (manual) |
|
$ |
249 |
|
|
$ |
254 |
|
|
$ |
251 |
|
|
|
1.2 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
88367 TC |
|
FISH (computer assisted) |
|
$ |
221 |
|
|
$ |
225 |
|
|
$ |
222 |
|
|
|
1.4 |
% |
88367 26 |
|
FISH (computer assisted) |
|
$ |
66 |
|
|
$ |
67 |
|
|
$ |
66 |
|
|
|
1.5 |
% |
88367 |
|
FISH (computer assisted) |
|
$ |
286 |
|
|
$ |
292 |
|
|
$ |
288 |
|
|
|
1.4 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
83891 |
|
PCR Isolation or extraction of highly purified NA |
|
$ |
6 |
|
|
$ |
6 |
|
|
$ |
6 |
|
|
|
|
|
83896 |
|
PCR- NA probe |
|
$ |
6 |
|
|
$ |
6 |
|
|
$ |
6 |
|
|
|
|
|
83898 |
|
PCR Amp of patient NA, each NA sequence |
|
$ |
24 |
|
|
$ |
24 |
|
|
$ |
24 |
|
|
|
|
|
83907 |
|
PCR Lysis of cells prior to NA extraction (FFPE Only) |
|
$ |
19 |
|
|
$ |
19 |
|
|
$ |
20 |
|
|
|
(5.0 |
)% |
83914 |
|
PCR Mutation identification |
|
$ |
24 |
|
|
$ |
24 |
|
|
$ |
24 |
|
|
|
|
|
83912 26 |
|
PCR Interpretation and report |
|
$ |
20 |
|
|
$ |
20 |
|
|
$ |
19 |
|
|
|
5.3 |
% |
88381 |
|
PCR Microdissection, manual |
|
$ |
234 |
|
|
$ |
238 |
|
|
$ |
257 |
|
|
|
(7.4 |
)% |
|
|
|
* |
|
The presented 2010 rates are through November 30, 2010 only, as the Medicare
reimbursement rates under the Physician Fee Schedule for December 2010 and beyond,
continue to be the subject of ongoing deliberations in U.S. Congress as of the date
this Quarterly Report on Form 10-Q was filed with the SEC. |
31
Characteristics of Our Net Revenue and Expenses
Net revenue
Net revenue is derived from billing governmental and private health insurers, clients, and
patients for the services that we provide. We report revenue net of contractual allowances which
is defined and discussed within the Critical Accounting Policies and Estimates section below.
Bad debt expense is recorded as an operating expense, and is a key component of our overall
operating performance.
Cost of services
Cost of services includes compensation (including stock-based compensation) and benefits of
laboratory personnel, laboratory support personnel, and pathology personnel. Cost of services also
includes depreciation expense of laboratory equipment, laboratory supplies expense, allocated
facilities-related expenses, and certain direct costs related to the performance of our services,
such as shipping.
Sales and marketing
Sales and marketing expenses primarily consist of the compensation and benefits of our sales
force, sales support personnel, and marketing personnel. Sales and marketing expenses also include
those costs attributable to marketing our services to community pathology practices, oncology
practices, hospitals, and clinics.
General and administrative
General and administrative expenses primarily include compensation (including stock-based
compensation) and benefits for personnel that support our general operations such as: information
technology, executive management, billing and collection, client services, financial accounting,
purchasing, and human resources. General and administrative expenses also include allocated
facilities-related expenses, insurance, recruiting, legal, audit, and other professional services.
Bad debt
Bad debt consists of estimated uncollectible accounts, or portions thereof, recorded during
the period. The process of evaluating the required allowance for doubtful accounts, and resulting
bad debt expense, at each period end involves an evaluation of historical collection experience to
aged receivable balances by payor class, and also involves our significant assumptions and judgment
for those receivables we believe are unlikely for collection.
Research and development
Research and development costs are expensed as incurred. Research and development expenses
consist of compensation and benefits for research and development personnel, license fees, supplies
cost, costs of accessing clinical cohorts for ongoing studies, research and development
arrangements with consultants and other third parties, allocated information technology personnel,
and allocated facility-related costs. Our research and development activities primarily relate to
the development and validation of diagnostic tests in connection with our diagnostic services, as
well as the development of technology to electronically deliver such services to our customers.
Critical Accounting Policies and Estimates
Our discussion and analysis of our financial condition and results of operations are based
upon our financial statements, which have been prepared in accordance with accounting principles
generally accepted in the United States (GAAP). The preparation of financial statements requires
us to make estimates and assumptions that effect the reported amounts of assets, liabilities, and
the disclosure of contingent assets and liabilities as of the dates of the accompanying Condensed
Consolidated Balance Sheets, and net revenue and expenses for the periods presented within the
accompanying Condensed Consolidated Statements of Operations.
Management believes that the following estimates are the most critical to understand and
evaluate our reported financial results, which require managements most difficult, subjective, or
complex judgments, resulting from the need to make estimates that are inherently uncertain.
32
Revenue recognition
Net revenue for our diagnostic services is recognized at the time of completion of discreet
diagnostic tests which comprise a patient encounter at a specific date of service (commonly
referred to as an accession). Our services are billed to various payors, including
Medicare/Medicaid, private health insurance companies, healthcare institutions, and patients. We
utilize published fee schedules from CMS for amounts we bill to Medicare/Medicaid for our services
and recognize as net revenue. We report net revenue for our services from contracted payors,
including certain private health insurance companies and healthcare institutions, based on the
contracted rate (which is generally based on the CMS published fee schedule) or in certain
instances, our estimate of such rate.
We report net revenue from non-contracted payors, including certain private health insurance
companies, based on the amount expected to be approved for payment for our services, which are net
of standard discounts, commonly referred to as contractual allowances in our sector. Any
subsequent revenue adjustments for non-contracted payors are recognized in the period realized.
Patient revenue is divided into two classes: direct bill and indirect bill. The amount recognized
as net revenue for direct bill patients is based on a standard multiple of the CMS published fee
schedule. The amount recognized as net revenue for indirect bill patients is based on their co-pay
or deductible obligation with their primary insurance payor.
Allowance for doubtful accounts and bad debt expense
An allowance for doubtful accounts is recorded for estimated uncollectible amounts due from
our various payor groups. The process for estimating the allowance for doubtful accounts involves
significant assumptions and judgments. The allowance for doubtful accounts is adjusted
periodically, and is principally based upon an evaluation of our historical collection experience
of aged accounts receivable, among various payor classes. After appropriate collection efforts,
accounts receivable are written off and deducted from the allowance for doubtful accounts.
Additions to the allowance for doubtful accounts are charged to bad debt expense.
The payment realization cycle for certain governmental and managed care payors can be lengthy.
The collection cycle often involves payor denial of our billed amounts, requiring us to appeal and
follow an adjudication process. Resulting periodic adjustments to bad debt expense may be
significant.
Stock-based compensation
We value stock-based awards, including stock options and restricted stock, as of the date of
grant. We use the Black-Scholes option-pricing model in valuing granted stock options. The fair
value of granted restricted stock awards is equal to our closing stock price on the date of grant.
We recognize stock-based compensation expense, net of estimated forfeitures, using the
straight-line method over the requisite service period. Forfeitures are estimated at the time of
grant, and prospectively revised if actual forfeitures differ from those estimates. We classify
compensation expense related to these awards in the Condensed Consolidated Statements of Operations
based on the department to which the recipient reports.
33
Results of Operations
Continuing Operations Overview Three Months Ended September 30, 2010 and 2009
The following table presents our results of continuing operations and the percentage of net
revenue for each line item for the three months ended September 30, 2010 and 2009 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
September 30, 2010 |
|
|
September 30, 2009 |
|
Net revenue |
|
$ |
31,441 |
|
|
|
100.0 |
% |
|
$ |
21,425 |
|
|
|
100.0 |
% |
Cost of services |
|
|
12,479 |
|
|
|
39.7 |
% |
|
|
9,796 |
|
|
|
45.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
18,962 |
|
|
|
60.3 |
% |
|
|
11,629 |
|
|
|
54.3 |
% |
Operating expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales and marketing |
|
|
5,225 |
|
|
|
16.6 |
% |
|
|
4,194 |
|
|
|
19.6 |
% |
General and administrative |
|
|
6,451 |
|
|
|
20.5 |
% |
|
|
6,030 |
|
|
|
28.1 |
% |
Bad debt |
|
|
3,161 |
|
|
|
10.1 |
% |
|
|
4,214 |
|
|
|
19.7 |
% |
Research and development |
|
|
1,455 |
|
|
|
4.6 |
% |
|
|
282 |
|
|
|
1.3 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
16,292 |
|
|
|
51.8 |
% |
|
|
14,720 |
|
|
|
68.7 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from operations |
|
|
2,670 |
|
|
|
8.5 |
% |
|
|
(3,091 |
) |
|
|
(14.4 |
)% |
Interest expense, net of interest income |
|
|
147 |
|
|
|
0.5 |
% |
|
|
144 |
|
|
|
0.7 |
% |
Income tax expense |
|
|
181 |
|
|
|
0.6 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from continuing operations, net of income taxes |
|
$ |
2,342 |
|
|
|
7.4 |
% |
|
$ |
(3,235 |
) |
|
|
(15.1 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Accessions
Each test we perform relates to a specimen encounter derived from a patient, and received by
us on a specific date. Such specimen encounter is commonly referred to as an accession in the
laboratory sector. The following table presents the total number of our accessions:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Accessions |
|
|
43 |
|
|
|
35 |
|
|
|
22.9 |
% |
|
|
|
|
|
|
|
|
|
|
Test Volumes by General Test Type
Our diagnostic services incorporate a variety of testing methodologies for each of the below
categories, as discussed in Item 2, Our Services. The following table presents our test volumes by
general test type:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Solid tumor, including breast prognostics |
|
|
96 |
|
|
|
84 |
|
|
|
14.2 |
% |
Leukemia / Lymphoma |
|
|
201 |
|
|
|
150 |
|
|
|
34.0 |
% |
Molecular diagnostics |
|
|
9 |
|
|
|
6 |
|
|
|
50.0 |
% |
|
|
|
|
|
|
|
|
|
|
Total test volume |
|
|
306 |
|
|
|
240 |
|
|
|
27.5 |
% |
|
|
|
|
|
|
|
|
|
|
34
Average Net Revenue and Average Cost of Services Per Accession
The following table presents our average net revenue and average cost of services per
accession:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
Average net revenue per accession |
|
$ |
731 |
|
|
$ |
612 |
|
|
|
19.4 |
% |
Average cost of services per accession |
|
|
290 |
|
|
|
280 |
|
|
|
3.6 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit per accession |
|
$ |
441 |
|
|
$ |
332 |
|
|
|
32.8 |
% |
|
|
|
|
|
|
|
|
|
|
Average Net Revenue and Average Cost of Services Per Test
The following table presents our average net revenue and average cost of services per test:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
Average net revenue per test |
|
$ |
103 |
|
|
$ |
89 |
|
|
|
15.7 |
% |
Average cost of services per test |
|
|
41 |
|
|
|
41 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit per test |
|
$ |
62 |
|
|
$ |
48 |
|
|
|
29.2 |
% |
|
|
|
|
|
|
|
|
|
|
Net Revenue by Payor Class
The following table presents our net revenue by payor class:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30, |
|
|
|
2010 |
|
|
2009 |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Governmental health
insurance (Medicare,
Medicaid) |
|
$ |
10,762 |
|
|
|
34 |
% |
|
$ |
8,210 |
|
|
|
39 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Private health insurance |
|
|
11,959 |
|
|
|
38 |
% |
|
|
7,792 |
|
|
|
36 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Clients (pathologists,
hospitals, clinics, and
biopharmaceutical
companies) |
|
|
6,825 |
|
|
|
22 |
% |
|
|
4,279 |
|
|
|
20 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Patients |
|
|
1,895 |
|
|
|
6 |
% |
|
|
1,144 |
|
|
|
5 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
31,441 |
|
|
|
100 |
% |
|
$ |
21,425 |
|
|
|
100 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
35
Active Customers
The following table presents our estimated active customer count. We consider an active
customer to be any customer that has ordered our services within the six months prior to September
30, 2010 and 2009, respectively:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Active customers |
|
|
1,444 |
|
|
|
1,150 |
|
|
|
25.6 |
% |
|
|
|
|
|
|
|
|
|
|
Net Revenue per Full Time Equivalent Employee
The following table presents average net revenue per full time equivalent (FTE)
employee(a), including the employees of CPS:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenue per FTE employee |
|
$ |
80 |
|
|
$ |
65 |
|
|
|
23.1 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
(a) |
|
Represents our average number of company-wide employees during the respective
period, as adjusted for part-time personnel, utilizing a typical 40 hour work week. |
Three Months Ended September 30, 2010 versus September 30, 2009
Net Revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
Percent |
|
|
|
2010 |
|
|
2009 |
|
|
Variance |
|
|
change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenue |
|
$ |
31,441 |
|
|
$ |
21,425 |
|
|
$ |
10,016 |
|
|
|
46.7 |
% |
Our 46.7% net revenue increase resulted from a 27.5% increase in diagnostic services test
volume, and a 19.4% increase in average net revenue per accession in the three months ended
September 30, 2010, as compared to the prior year period. See the above Billing section for a
table of Medicare reimbursement rates under the Physician Fee Schedule and Clinical Fee Schedule
for the most common CPT codes associated with our laboratory services in 2010 and 2009.
Our net revenue growth was enabled by our expanded capabilities and service offerings which
utilize the test methodologies of IHC, flow cytometry, FISH, and molecular/PCR, and our
accompanying sales and marketing efforts. We anticipate that net revenue will continue to increase
as we further execute our strategy of expanding our diagnostic service offerings, and further
execute our associated sales and marketing plan.
Cost of Services, Gross Profit, and Gross Margin
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
Percent |
|
|
|
2010 |
|
|
2009 |
|
|
Variance |
|
|
change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
Cost of services |
|
$ |
12,479 |
|
|
$ |
9,796 |
|
|
$ |
2,683 |
|
|
|
27.4 |
% |
Gross profit |
|
|
18,962 |
|
|
|
11,629 |
|
|
|
7,333 |
|
|
|
63.1 |
% |
Gross margin percentage (gross profit as a percent of net revenue) |
|
|
60.3 |
% |
|
|
54.3 |
% |
|
|
|
|
|
|
|
|
36
The $2.7 million increase in cost of services was driven by a 27.5% increase in test volume,
and was primarily related to: additional laboratory personnel costs of $0.9 million; increased
laboratory supplies of $0.5 million; additional courier expenses of $0.6 million; and increased
cost of tests performed on our behalf by other laboratories of $0.6 million.
Our gross margin percentage (gross profit divided by net revenue) for the three months ended
September 30, 2010 of 60.3%, increased by 6.0%, as compared to the prior year period. The gross
margin increase was primarily driven by our 46.7% increase in net revenue. A significant portion
of our service costs are fixed, or only partially variable in nature. Accordingly, as our testing
volumes grow, we realize improved economies of scale and improved productivity, as measured by the
metric of specimens prepared and tested by month, per FTE laboratory employee. Gross margins
could be adversely affected, however, if Medicare reimbursement rates are decreased effective
November 30, 2010, or beyond.
Operating Expenses and Interest Expense, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
Percent |
|
|
|
2010 |
|
|
2009 |
|
|
Variance |
|
|
change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
Sales and marketing |
|
$ |
5,225 |
|
|
$ |
4,194 |
|
|
$ |
1,031 |
|
|
|
24.6 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative |
|
|
6,451 |
|
|
|
6,030 |
|
|
|
421 |
|
|
|
7.0 |
% |
Bad debt |
|
|
3,161 |
|
|
|
4,214 |
|
|
|
(1,053 |
) |
|
|
(25.0 |
)% |
Research and development |
|
|
1,455 |
|
|
|
282 |
|
|
|
1,173 |
|
|
|
416 |
% |
Interest expense, net of interest income |
|
|
147 |
|
|
|
144 |
|
|
|
3 |
|
|
|
2.1 |
% |
Sales and marketing. The $1.0 million increase for the three months ended September 30, 2010
as compared to 2009 was primarily related to $0.9 million of additional sales and marketing
personnel related costs, including sales commissions. The remaining $0.1 million increase was
related to our expanded advertising and promotion campaign costs.
General and administrative. The $0.4 million increase is related to several factors which
include: (i) a $0.4 million increase in personnel expenses (including relocation and recruiting
expenses, and stock-based compensation). The increased expenses, to support our growth, were
principally associated with our billing and collection and information technology functions, (ii) a
$0.1 million increase in legal expenses associated with corporate development activity, (iii) a
$0.1 million increase in facility expenses associated with the continued expansion of our Aliso
Viejo, California facility, and (iv) a $0.1 million increase in general insurance expenses. Such
increases were partially offset by a $0.3 million reduction in consulting fees.
Bad debt. Bad debt expense decreased by 25.0% for the three months ended September 30, 2010
as compared to 2009. The bad debt expense we recorded for the three months ended September 30,
2010 was based upon an evaluation of our historical collection experience of aged accounts
receivable, for our various payor classes.
In September 2008, our in-house billing and collection department began operations, using
licensed third-party billing and collection software. As of September 30, 2009 and for the three
months then ended, a substantial portion of our accounts receivable balance that was billed by our
former outsourced billing and collection provider had either been written off, or fully-reserved
within our total allowance for doubtful accounts, through the recording of bad debt expense.
We expect that bad debt expense as a percentage of net revenue will gradually decrease to the
high single digit level over the next four to five quarters, as we more effectively manage our
billing and collection function and continue to improve our billing and collection processes.
Research and development. The $1.2 million increase in research and development expenses was
primarily driven by $0.2 million of intangible asset amortization for the three months ended
September 30, 2010. The intangible assets were associated with our December 2009 acquisition of
AGI (see Note 14 to the Condensed Consolidated Financial Statements). We also incurred $0.7
million of increased compensation and benefits costs for research and development personnel,
primarily related to personnel hired in connection with the AGI acquisition; $0.1 million of
increased costs associated with third parties who assist us in developing novel diagnostic tests;
and $0.1 million of increased cost allocation in connection with our physical facilities (including
depreciation expense) associated with our Aliso Viejo, California facility, and our Huntsville,
Alabama facility.
Interest expense, net. Interest expense of $0.1 million for the three months ended September
30, 2010 remained consistent with the prior year period. All such interest expense is associated
with our Gemino credit facility (see Note 7 to our Condensed Consolidated Financial Statements).
37
Income Taxes
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended |
|
|
|
|
September 30, |
|
|
|
|
2010 |
|
2009 |
|
Variance |
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax expense
|
|
$ |
|
181 | |
|
|
$ |
|
181 |
The $0.2 million tax expense for the three months ended September 30, 2010 represents our
estimate of income tax expense applicable to our taxable income for the same period, and is
primarily related to the federal and California alternative minimum tax (AMT) schemes,
notwithstanding our substantial net operating loss carryforward. The deferred tax asset derived
from the current periods AMT has been fully reserved through a valuation allowance, thus resulting
in income tax expense recognition in the same amount. Our tax expense also includes the effects of
excess tax benefits from stock option deductions that were realized during the three months ended
September 30, 2010. The Companys policy is to use tax law ordering for determining when excess
tax benefits are realized. The excess tax benefit was recorded as a component of additional paid
in capital with a corresponding tax expense due to the Companys valuation allowance on its net
deferred tax assets.
Continuing Operations Overview Nine Months Ended September 30, 2010 and 2009
The following table presents our results of continuing operations and the percentage of net
revenue for each line item for the first nine months of 2010 and 2009 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
|
|
September 30, 2010 |
|
|
September 30, 2009 |
|
Net revenue |
|
$ |
86,803 |
|
|
|
100.0 |
% |
|
$ |
68,347 |
|
|
|
100.0 |
% |
Cost of services |
|
|
35,821 |
|
|
|
41.3 |
% |
|
|
28,675 |
|
|
|
42.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross profit |
|
|
50,982 |
|
|
|
58.7 |
% |
|
|
39,672 |
|
|
|
58.0 |
% |
Operating expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales and marketing |
|
|
14,628 |
|
|
|
16.9 |
% |
|
|
13,116 |
|
|
|
19.2 |
% |
General and administrative |
|
|
19,033 |
|
|
|
21.9 |
% |
|
|
17,074 |
|
|
|
25.0 |
% |
Bad debt |
|
|
9,875 |
|
|
|
11.4 |
% |
|
|
9,483 |
|
|
|
13.9 |
% |
Research and development |
|
|
3,882 |
|
|
|
4.5 |
% |
|
|
805 |
|
|
|
1.2 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Total operating expenses |
|
|
47,418 |
|
|
|
54.6 |
% |
|
|
40,478 |
|
|
|
59.2 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from operations |
|
|
3,564 |
|
|
|
4.1 |
% |
|
|
(806 |
) |
|
|
(1.2 |
)% |
Interest expense, net of interest income |
|
|
352 |
|
|
|
0.4 |
% |
|
|
4,056 |
|
|
|
5.9 |
% |
Other expense |
|
|
31 |
|
|
|
0.0 |
% |
|
|
|
|
|
|
|
|
Income tax expense (benefit) |
|
|
267 |
|
|
|
0.3 |
% |
|
|
(599 |
) |
|
|
(0.9 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from continuing operations, net of income taxes |
|
$ |
2,914 |
|
|
|
3.4 |
% |
|
$ |
(4,263 |
) |
|
|
(6.2 |
)% |
|
|
|
|
|
|
|
|
|
|
|
|
|
38
Total Accessions
The following table presents the total number of our accessions for the nine months ended
September 30, 2010 and 2009.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total Accessions |
|
|
121 |
|
|
|
101 |
|
|
|
19.8 |
% |
|
|
|
|
|
|
|
|
|
|
Test Volumes by General Test Type
The following table presents our test volumes by general test type for the nine months ended
September 30, 2010 and 2009.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Solid tumor, including breast prognostics |
|
|
276 |
|
|
|
249 |
|
|
|
10.8 |
% |
Leukemia / Lymphoma |
|
|
556 |
|
|
|
436 |
|
|
|
27.5 |
% |
Molecular diagnostics |
|
|
25 |
|
|
|
16 |
|
|
|
56.3 |
% |
|
|
|
|
|
|
|
|
|
|
Total test volume |
|
|
857 |
|
|
|
701 |
|
|
|
22.3 |
% |
|
|
|
|
|
|
|
|
|
|
Average Net Revenue and Average Cost of Services Per Accession
The following table presents our average net revenue and average cost of services per
accession in the nine months ended September 30, 2010 and 2009:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
Average net revenue per accession |
|
$ |
717 |
|
|
$ |
677 |
|
|
|
5.9 |
% |
Average cost of services per accession |
|
|
296 |
|
|
|
284 |
|
|
|
4.2 |
% |
|
|
|
|
|
|
|
|
|
|
Gross profit per accession |
|
$ |
421 |
|
|
$ |
393 |
|
|
|
7.1 |
% |
|
|
|
|
|
|
|
|
|
|
Average Net Revenue and Average Cost of Services Per Test
The following table presents our average net revenue and average cost of services per test in
the nine months ended September 30, 2010 and 2009:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
Average net revenue per test |
|
$ |
101 |
|
|
$ |
98 |
|
|
|
3.1 |
% |
Average cost of services per test |
|
|
42 |
|
|
|
41 |
|
|
|
2.4 |
% |
|
|
|
|
|
|
|
|
|
|
Gross profit per test |
|
$ |
59 |
|
|
$ |
57 |
|
|
|
3.5 |
% |
|
|
|
|
|
|
|
|
|
|
39
Net Revenue by Payor Class
The following table presents our net revenue by payor class in the nine months ended September
30, 2010 and 2009:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
2010 |
|
|
2009 |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Governmental health
insurance (Medicare,
Medicaid) |
|
$ |
29,612 |
|
|
|
34 |
% |
|
$ |
25,290 |
|
|
|
37 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Private health insurance |
|
|
33,915 |
|
|
|
39 |
% |
|
|
29,008 |
|
|
|
42 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Clients (pathologists,
hospitals, clinics, and
biopharmaceutical
companies) |
|
|
17,955 |
|
|
|
21 |
% |
|
|
10,770 |
|
|
|
16 |
% |
|
|
Patients |
|
|
5,321 |
|
|
|
6 |
% |
|
|
3,279 |
|
|
|
5 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
86,803 |
|
|
|
100 |
% |
|
$ |
68,347 |
|
|
|
100 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Revenue per Full Time Equivalent Employee
The following table presents average net revenue per full time equivalent (FTE)
employee(a), including the employees of CPS, for the nine months ended
September 30, 2010 and 2009:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Percent change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenue per FTE employee |
|
$ |
231 |
|
|
$ |
218 |
|
|
|
6.0 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
(a) |
|
Represents our average number of company-wide employees during the respective
period, as adjusted for part-time personnel, utilizing a typical 40 hour work week. |
Nine Months Ended September 30, 2010 versus September 30, 2009
Net Revenue
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
Percent |
|
|
|
2010 |
|
|
2009 |
|
|
Variance |
|
|
change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net revenue |
|
$ |
86,803 |
|
|
$ |
68,347 |
|
|
$ |
18,456 |
|
|
|
27.0 |
% |
Our 27.0% net revenue increase resulted from a 22.3% increase in diagnostic services test
volume in the nine months ended September 30, 2010, and a 5.9% increase in average net revenue per
accession, as compared to the prior year period. See the above Billing section for a table of
Medicare reimbursement rates under the Physician Fee Schedule and Clinical Fee Schedule for the
most common CPT codes associated with our laboratory services in 2010 and 2009.
Our net revenue growth was enabled by our expanded capabilities and service offerings which
utilize the test methodologies of IHC, flow cytometry, FISH, and molecular/PCR, and our
accompanying sales and marketing efforts.
40
Cost of Services, Gross Profit, and Gross Margin
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
Percent |
|
|
|
2010 |
|
|
2009 |
|
|
Variance |
|
|
change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
Cost of services |
|
$ |
35,821 |
|
|
$ |
28,675 |
|
|
$ |
7,146 |
|
|
|
24.9 |
% |
Gross profit |
|
|
50,982 |
|
|
|
39,672 |
|
|
|
11,310 |
|
|
|
28.5 |
% |
Gross margin percentage (gross profit as a percent of net revenue) |
|
|
58.7 |
% |
|
|
58.0 |
% |
|
|
|
|
|
|
|
|
The $7.1 million increase in cost of services was driven by a 22.3% increase in test volume,
and was primarily related to: (i) additional laboratory personnel costs of $2.9 million; (ii)
increased laboratory supplies of $1.6 million; (iii) additional courier expenses of $1.4 million;
(iv) increased cost of tests performed on our behalf by other laboratories of $0.8 million; (v)
increased facilities costs of $0.2 million; (vi) additional consulting fees of $0.2 million; and
(vii) additional amortization of patent expense of $0.1 million.
Our gross margin percentage for the nine months ended September 30, 2010 of 58.7%, slightly
increased from 58.0%, as compared to the prior year period. Despite the 27.0% increase in net
revenue for the nine months ended September 30, 2010, as compared to the prior year period, gross
margins only marginally increased. During late 2009 and early 2010, we made certain strategic
laboratory investments to support our operations, and hired of additional laboratory personnel to
support our anticipated test volume growth, though it initially adversely impacted our current year
gross profit percentage.
Operating Expenses and Interest Expense, net
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
Percent |
|
|
|
2010 |
|
|
2009 |
|
|
Variance |
|
|
change |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
Sales and marketing |
|
$ |
14,628 |
|
|
$ |
13,116 |
|
|
$ |
1,512 |
|
|
|
11.5 |
% |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
General and administrative |
|
|
19,033 |
|
|
|
17,074 |
|
|
|
1,959 |
|
|
|
11.5 |
% |
Bad debt |
|
|
9,875 |
|
|
|
9,483 |
|
|
|
392 |
|
|
|
4.1 |
% |
Research and development |
|
|
3,882 |
|
|
|
805 |
|
|
|
3,077 |
|
|
|
382.2 |
% |
Interest expense, net of interest income |
|
|
352 |
|
|
|
4,056 |
|
|
|
(3,704 |
) |
|
|
(91.3 |
)% |
Other expense |
|
|
31 |
|
|
|
|
|
|
|
31 |
|
|
|
|
|
Sales and marketing. The $1.5 million increase for the nine months ended September 30, 2010,
as compared to the prior year period, was primarily related to $1.3 million of additional sales and
marketing personnel related costs, including sales commissions. The remaining $0.2 million
increase was primarily related to an additional $0.1 million of travel expenses of our sales and
marketing personnel. The remaining $0.1 million increase was related to our expanded advertising
and promotion campaign costs.
General and administrative. The $2.0 million increase is related to several factors which
include: (i) a $1.6 million increase in personnel expenses (including relocation and recruiting
expenses, and stock-based compensation). The increased expenses, to support our growth, were
principally associated with our billing and collection and information technology functions; (ii) a
$0.1 million increase in insurance expense, (iii) a $0.3 million increase in depreciation expense
on recently deployed capital assets; (iv) a $0.4 million net decrease in consulting expenses
related to certain corporate initiatives; (v) a $0.5 million increase in facility expenses
associated with the continued expansion of our Aliso Viejo, California facility, (vi) increased
collection expenses of $0.1 million due to our overall testing volume and revenue increase, and
(vii) $0.2 million of additional supplies and postage expense. Such increases were partially
offset by a $0.5 million reduction in legal and accounting fees.
Bad debt. Despite revenue growth of 27.0% for the nine months ended September 30, 2010, as
compared to the prior year period, bad debt expense only increased by 4.1%. The bad debt expense
we recorded for the nine months ended September 30, 2010 was based upon an evaluation of our
historical collection experience of aged accounts receivable for our various payor classes.
In September 2008, our in-house billing and collection department began operations, using
licensed third-party billing and collection software. As of September 30, 2009 and for the nine
months then ended, a substantial portion of our accounts receivable balance that was billed by our
former outsourced billing and collection provider had either been written off, or fully-reserved
within our total allowance for doubtful accounts, through the recording of bad debt expense.
41
Research and development. The $3.1 million increase in research and development expenses was
primarily driven by $0.8 million of amortization of intangible assets acquired through our
acquisition of AGI in December 2009 (see Note 14 to the Condensed Consolidated Financial
Statements); $1.5 million of increased compensation and benefits costs for research and development
personnel, primarily related to personnel hired in connection with our December 2009 acquisition of
AGI; $0.4 million of increased costs associated with third parties who assist us in developing
novel diagnostic tests; and $0.3 million of increased costs related to physical facilities and
depreciation due to expansion of our Aliso Viejo, California facility, as well as the addition of
our Huntsville, Alabama facility in connection with the AGI acquisition.
Interest expense, net. Interest expense includes stated interest and fees on our credit
facility(s), plus the amortization of the fair value of issued common stock warrants in connection
with borrowings under our former credit facility with Safeguard. The $3.7 million decrease in
interest expense is primarily related to $2.5 million of recognized warrant expense for the nine
months ended September 30, 2009 associated with the retired Safeguard facilities, which did not
recur in 2010. In addition, we had lower average outstanding borrowings in the nine months ended
September 30, 2010 as compared to 2009, due to the repayment and retirement of our revolving credit
facilities with Comerica and Safeguard, as discussed in Note 7 to the Condensed Consolidated
Financial Statements.
Other expense. Other expense represents our mark-to-market of Variable Shares in connection
with our acquisition of AGI (as defined and described in Note 14 to the Condensed Consolidated
Financial Statements).
Income Taxes
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Nine Months Ended |
|
|
|
|
|
|
September 30, |
|
|
|
|
|
|
2010 |
|
|
2009 |
|
|
Variance |
|
|
|
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax expense (benefit) |
|
$ |
267 |
|
|
$ |
(599 |
) |
|
$ |
866 |
|
The $0.3 million tax expense for the nine months ended September 30, 2010 represents our
estimate of income tax expense applicable to our taxable income for the same period, and is
primarily related to federal and California AMT, notwithstanding our substantial net operating loss
carryforward. The deferred tax asset derived from the current periods AMT has been fully reserved
through a valuation allowance, thus resulting in income tax expense recognition in the same amount.
Our tax expense also includes the effects of excess tax benefits from stock option deductions that
were realized during the nine months ended September 30, 2010. The Companys policy is to use tax
law ordering for determining when excess tax benefits are realized. The excess tax benefit was
recorded as a component of additional paid in capital with a corresponding tax expense due to the
Companys valuation allowance on its net deferred tax assets.
The $0.6 million tax benefit in 2009 relates to the tax effect, through continuing operations,
of a $1.5 million payment received in April 2009 from Zeiss, the acquirer in the ACIS Sale (see
Note 4 to the Condensed Consolidated Financial Statements). The proceeds were in connection with
the satisfaction of certain post-closing conditions from the ACIS Sale in 2007.
Liquidity and Capital Resources
The chart below summarizes selected liquidity data and metrics as of September 30, 2010,
December 31, 2009, and September 30, 2009:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, |
|
|
December 31, |
|
|
September 30, |
|
|
|
2010 |
|
|
2009 |
|
|
2009 |
|
|
|
(in thousands, except financial metrics data) |
|
Cash and cash equivalents |
|
$ |
12,757 |
|
|
$ |
10,903 |
|
|
$ |
8,149 |
|
Accounts receivable, net |
|
|
26,664 |
|
|
|
21,568 |
|
|
|
24,605 |
|
Total current liabilities |
|
|
14,241 |
|
|
|
14,175 |
|
|
|
14,153 |
|
Working capital surplus (a) |
|
|
28,517 |
|
|
|
21,287 |
|
|
|
21,171 |
|
Days sales outstanding (DSO) (b) |
|
78 days |
| |
86 days |
| |
103 days |
|
Current ratio (c) |
|
|
3.00 |
|
|
|
2.50 |
|
|
|
2.50 |
|
|
|
|
(a) |
|
total current assets minus total current liabilities. |
|
(b) |
|
net accounts receivable divided by a rolling three-month average
of net revenue multiplied by 31 days. |
|
(c) |
|
total current assets divided by total current liabilities. |
Management believes that the Companys liquidity and capital resources are sufficient to meet
its operational needs at least through September 30, 2011.
42
Operating Activities
Cash provided by operating activities was $5.8 million for the nine months ended September 30,
2010, as compared to cash used in operating activities of $6.8 million in the prior year period.
The increase in cash provided by operating activities is primarily a function of increased net
revenue and associated general improvements in our billing and collection processes, specifically
within the area of monitoring and follow-up of significant accounts receivable balances. We hired
additional billing and collection personnel throughout 2009 in order to improve the completeness
and accuracy of the bills we send, and to minimize the time between our completed service date and
our billing date. During the nine months ended September 30, 2010 and 2009, our cash collections
from customers totaled $72.3 million and $54.1 million, respectively, representing 83.3% and 79.2%
of reported net revenue for the same periods, respectively.
Investing Activities
Cash used in investing activities for the nine months ended September 30, 2010 of $2.2 million
primarily consisted of capital expenditures related to purchases of new laboratory equipment and
certain information technology system enhancements.
Financing Activities
Net cash used in financing activities for the nine months ended September 30, 2010 was $1.8
million, as compared to $17.7 million of net cash provided by financing activities during the same
period in 2009. During nine months ended 2010, our repayments on our revolving credit facility
with Gemino exceeded our borrowings by $2.9 million. In March and May 2009, we received an
aggregate $38.6 million in proceeds, net of offering costs, from the sale of our Series A
convertible preferred stock to Oak (see Note 13 to the Condensed Consolidated Financial
Statements). Such proceeds were used to repay our now-retired revolving credit facilities with
Safeguard and Comerica, and our active Gemino Facility (see Note 7 to the Condensed Consolidated
Financial Statements).
Credit Arrangements
The following table summarizes our outstanding balance under our credit arrangement (excluding
capital lease obligations) and our remaining credit availability as of September 30, 2010 (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding |
|
|
Credit Availability |
|
|
|
|
|
|
September 30, 2010 |
|
|
September 30, 2010 |
|
|
Earliest Stated Maturity |
|
Gemino Facility |
|
$ |
|
|
|
$ |
8,000 |
|
|
January 31, 2011 |
|
|
|
|
|
|
|
|
|
|
|
As discussed in Note 7 to the Condensed Consolidated Financial Statements, on March 25, 2009
we entered into a Stock Purchase Agreement with Oak (the Oak Purchase Agreement), pursuant to
which we agreed to sell and issue to Oak, up to an aggregate of 6.6 million shares of our Series A
convertible preferred stock in two or more tranches for aggregate consideration of up to $50.0
million (the Oak Private Placement). The initial closing of the Oak Private Placement occurred
on March 26, 2009, at which time we issued and sold Oak an aggregate of 3.8 million preferred
shares for aggregate consideration of $29.1 million. After paying investment banking fees and
legal expenses, we used the remaining proceeds to repay in full the outstanding balance of $9.8
million on our retired revolving credit facility with Comerica Bank, to support a $2.3 million
standby letter of credit with Comerica Bank (subsequently reduced to $1.5 million in December 2009)
through opening a restricted cash account with Comerica Bank in the same amount, and to repay $14.0
million of our retired mezzanine facility with Safeguard.
The second closing of the Oak Private Placement occurred on May 14, 2009, at which time we
issued and sold Oak an aggregate of 1.4 million Series A preferred shares (the Second Oak Closing
Shares) for aggregate consideration of $10.9 million. Of the $10.9 million of proceeds from the
second closing of the Oak Private Placement, $5.7 million was used to repay in full and terminate
the mezzanine facility with Safeguard. The remaining amount of $4.8 million, net of legal fees and
investment banking fees, was used to support our working capital requirements. Though our Comerica
and Safeguard
facilities have been repaid and retired, we continue to maintain our credit facility (the
Gemino Facility) with Gemino Healthcare Finance, LLC (Gemino).
43
The Gemino Facility contains certain financial and non-financial covenants which require our
compliance, as described within Note 7 to the Consolidated Financial Statements. Failure to
maintain compliance would constitute an event of default. The Gemino Facility also contains a
material adverse change (MAC) clause. If we encountered difficulties that would qualify as a MAC
in our (i) operations, (ii) condition (financial or otherwise), or (iii) ability to repay the
amount outstanding, our credit agreement could be cancelled at Geminos sole discretion. Gemino
could then elect to declare the indebtedness, together with accrued interest and other fees, to be
immediately due and payable and proceed against any collateral securing such indebtedness. We
believe, though we can provide no assurance, that we will continue to be able to meet the Gemino
Facilitys financial covenants, as amended (see below), and will not encounter a MAC triggering
event.
On November 13, 2009, we executed the November 2009 Gemino Amendment. The November 2009
Gemino Amendment (i) extended the maturity date of the Gemino Facility from January 31, 2010 to
January 31, 2011, (ii) removed the excess liquidity covenant, (iii) increased the facilitys
advance rate from 75% to 85%, (iv) eliminated the minimum fixed charge coverage ratio covenant
through December 31, 2009, (v) includes a maximum loan turnover ratio (average monthly loan
balance divided by average monthly cash collections multiplied by 30 days) of 35 days only for the
three months ending December 31, 2009, (vi) requires a minimum annualized fixed charge coverage
ratio covenant of 1.00 for the three months ending June 30, 2010, 1.10 for six months ending June
30, 2010, 1.20 for the nine months ending September 30, 2010, and 1.20 for the twelve months ending
December 31, 2010 and thereafter, and (vii) reduced the commitment fee from 0.75% to 0.50% per year
on the daily average of unused credit availability. We believe we were in compliance with the
aforementioned financial covenants as of September 30, 2010, and for the period then ended.
In connection with the pending acquisition of the Company by General Electric, Gemino has the
right to terminate the Gemino Facility upon completion of the Merger, unless Gemino consents to the
Merger. If Gemino elects to terminate the Gemino Facility, it could then elect to declare the
indebtedness, together with accrued interest and other fees, to be immediately due and payable and
proceed against any collateral securing such indebtedness.
In-House Billing and Collection
On June 1, 2008, our in-house billing and collection department began operations, using
licensed third-party billing and collection software. During the fourth quarter of 2008, we ceased
utilizing the services of our former billing and collection service provider. We did not have
adequate internal resources to resolve various unanticipated billing and collection process issues
during this transition period. As a result, our cash collections in 2008 did not increase at the
same rate as our net revenue increased. Several collection process issues persisted through early
2009, negatively affecting our collection results during such time.
Though the effectiveness of our billing and collection department has increased significantly
since early 2009, we are actively seeking additional means to improve our performance in this area.
We believe that this will remain an ongoing activity of critical importance in 2010 and beyond, as
we rely on our cash collections to support our general working capital needs.
Contractual Obligations
The following table summarizes our contractual obligations and commercial commitments at
September 30, 2010:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payment due by period at September 30, 2010 |
|
|
|
|
|
|
|
Less |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
than 1 |
|
|
|
|
|
|
|
|
|
|
After |
|
|
|
Total |
|
|
Year |
|
|
1 - 3 Years |
|
|
3 - 5 Years |
|
|
5 Years |
|
|
|
(in thousands) |
|
Gemino Facility |
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
|
$ |
|
|
Capital lease obligations |
|
|
3,211 |
|
|
|
1,212 |
|
|
|
1,999 |
|
|
|
|
|
|
|
|
|
Operating leases |
|
|
9,392 |
|
|
|
1,877 |
|
|
|
3,794 |
|
|
|
3,440 |
|
|
|
281 |
|
Purchase commitments
(reagent chemicals for
laboratory services and
software licenses) |
|
|
7,397 |
|
|
|
2,311 |
|
|
|
4,207 |
|
|
|
879 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total |
|
$ |
20,000 |
|
|
$ |
5,400 |
|
|
$ |
10,000 |
|
|
$ |
4,319 |
|
|
$ |
281 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The above table does not include potential severance benefits due under various employment
agreements with certain employees if such employee(s) was terminated without cause, the timing and
total amount of which are not
practicable to estimate.
44
Off-Balance Sheet Arrangements
We have no off-balance sheet arrangements that involve liquidity, hedging, or financing
activities, except for operating lease arrangements. In addition, we are not aware of any matters
that may expose us to liability that is not expressly reflected in the Condensed Consolidated
Financial Statements, except for potential indemnification obligations associated with the ACIS
Sale.
As of September 30, 2010, we did not have any relationships with unconsolidated entities or
financial partnerships, often referred to as special purpose entities. Special purpose entities
are generally established for the purpose of facilitating off-balance sheet arrangements or other
contractually narrow or limited purposes. In connection with the provision of pathology services,
we have a long-term and exclusive relationship with CPS, as described in Note 1 to the Condensed
Consolidated Financial Statements. We are, therefore, not subject to any material financing,
liquidity, market or credit risk that could arise if we had engaged in such off-balance sheet
arrangements.
Recent Accounting Pronouncements
Several new accounting standards have been issued and adopted recently. None of these
standards had, or are expected to have, a material impact on our financial position, results of
operations, or liquidity. See Note 5 to the Condensed Consolidated Financial Statements.
|
|
|
Item 3. |
|
Quantitative and Qualitative Disclosures About Market Risk |
Our cash and cash equivalents, comprising of bank deposits and money market investments, are
not subject to significant interest rate risk due to their short term nature. As of September 30,
2010, the carrying value of our cash and cash equivalents approximates fair value.
Borrowings under our Gemino Facility bear interest at an annual rate equal to 30-day LIBOR
(subject to a minimum annual rate of 2.50% at all times) plus an applicable margin of 6.0% during
2009 and 2010. The variable interest rate applicable of our Gemino Facility may therefore expose
us to market risk due to changes in interest rates of 30-day LIBOR. As of September 30, 2010, we
had no outstanding borrowings under the Gemino Facility.
|
|
|
Item 4. |
|
Controls and Procedures |
Evaluation of disclosure controls and procedures
Our management, with the participation and under the supervision of our Chief Executive
Officer and Chief Financial Officer, has evaluated the effectiveness of our disclosure controls and
procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) as of the end of the period
covered by this Quarterly Report on Form 10-Q. Based on that evaluation, the Chief Executive
Officer and Chief Financial Officer have concluded that our disclosure controls and procedures were
effective as of the end of the period covered by this Quarterly Report on Form 10-Q to provide
reasonable assurance that the information required to be disclosed by us in reports filed under the
Exchange Act is (i) recorded, processed, summarized and reported within the time periods specified
in the U.S. Securities and Exchange Commissions rules and forms and (ii) accumulated and
communicated to our management, including the Chief Executive Officer and Chief Financial Officer,
as appropriate to allow timely decisions regarding disclosure. A controls system, no matter how
well designed and operated, cannot provide absolute assurance that the objectives of the controls
system are met, and no evaluation of controls can provide absolute assurance that all control
issues and instances of fraud, if any, within a company have been detected.
Changes in internal control over financial reporting
There were no changes in our internal control over financial reporting (as defined in Exchange
Act Rules 13a-15(f) and 15d-15(f)) that occurred during the quarter ended September 30, 2010 that
have materially affected, or are reasonably likely to materially affect, our internal control over
financial reporting.
45
PART II OTHER INFORMATION
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Item 1. |
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Legal Proceedings |
Following announcement of the Merger Agreement on October 22, 2010, several lawsuits were
filed by plaintiffs who allegedly hold Common Shares, suing on behalf of themselves and on behalf
of an alleged class of the Companys public stockholders. Five suits have been filed in the
Superior Court of California, County of Orange: on October 25, 2010 a suit was filed by plaintiff
Herbert Silverberg (Silverberg Complaint) naming the Company, each member of the Companys Board
of Directors, Safeguard, Oak and Purchaser; on October 26, 2010 a suit was filed by plaintiff
Southwest Ohio Regional Council of Carpenters Pension Plan (Southwest Ohio Complaint) naming the
Company, each member of the Companys Board of Directors, Purchaser, General Electric and 25
unidentified Does; and on October 28, 2010 three suits were filed; by plaintiff Dolph Haege
naming the Company, each member of the Companys Board of Directors, Purchaser and General
Electric, by plaintiff Michael Sassone (Sassone Complaint) naming the same defendants as the
Southwest Ohio Complaint and by Frank Sigl (Sigl Complaint) also naming the same defendants as
the Southwest Ohio Complaint. In addition, a suit was filed in Delaware Court of Chancery on
October 27, 2010 by plaintiff Bette Kurzweil naming the Company, each member of the Companys Board
of Directors, General Electric, GE Healthcare, and Purchaser. We have
been notified that two additional cases have been filed, but, as of
the date this quarterly report on Form 10-Q was filed with the
SEC, we have not received the related complaints.
Plaintiffs in each case allege that the Companys Board of Directors breached their fiduciary
duties to the Companys stockholders, and that the Merger Agreement between the Company and General
Electric involves an unfair price, an inadequate sales process, unreasonable deal protection
devices, and that defendants agreed to the Merger to benefit
themselves personally. Several of the Complaints also allege that Safeguard and Oak together control the Company and breached fiduciary
duties allegedly owed by controlling shareholders to the Companys stockholders. In addition, in each
case, the plaintiffs allege that either the Company, General Electric, GE Healthcare, and/or the
Purchaser, aided and abetted the alleged breach of fiduciary duty by the other defendants.
The complaints seek to enjoin the transaction or in the alternative award the respective
plaintiffs and alleged class damages plus pre- and post-judgment interest, as well as other
unspecified attorneys and other fees and costs, and other relief. The Southwest Ohio Complaint,
Sassone Complaint, and Sigl Complaint also seek to impose a constructive trust in favor of
plaintiff and the alleged class upon any benefits improperly received by defendants.
The Company believes that these actions have no merit and intends to defend vigorously against
them. The Company has not recorded any accrual for these claims within the accompanying Condensed
Consolidated Financial Statements.
There have been no material changes in our risk factors from the information set forth in our
Annual Report on Form 10-K for the year ended December 31, 2009, except for the following:
Failure to complete the Merger with General Electric could negatively impact our stock price
and adversely affect our future financial condition, operations and prospects.
If the Offer or Merger with General Electric is not completed for any reason, we may be
subject to a number of material risks, including the following:
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if the Merger Agreement is terminated, we may be required in specific
circumstances, to pay a termination fee of $18 million to General Electric; |
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the price of our common stock may decline to the extent that the current market
price of our stock reflects an assumption that the Offer and Merger will be completed; |
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we must pay significant transaction-related expenses related to the Offer and
Merger, including substantial legal, accounting and financial advisory fees, and other
expenses related to the Offer and Merger, even if the Offer and Merger are not
completed; and |
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our day-to-day operations may be disrupted due to the substantial time and effort
our management must devote to completing the transaction. |
These risks could negatively impact our stock price and adversely affect our future financial
condition, operations and prospects.
In addition, our current and prospective employees may experience uncertainty about their
future role with us or General Electric. This may adversely affect our ability to attract and
retain key management, pathologists, sales and marketing and other personnel.
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If the Merger Agreement is terminated and our Board of Directors determines to seek another
merger or business combination, it may not be able to find a party willing to pay an equivalent or
more attractive price than that which would have been paid in the Offer or Merger with General
Electric.
Changes in federal payor regulations or policies may adversely affect coverage and
reimbursement for our services and may have a material adverse effect upon our business.
Government payors, such as Medicare and Medicaid, have increased their efforts to control the
cost, utilization, and delivery of health care services. On March 1, 2010, a 21.2 percent
reduction in Medicare payments under the Medicare Physician Fee Schedule was to take effect,
however, the reduction has been stayed through November 30, 2010. We believe that the proposed cuts
to the Physician Fee Schedule will ultimately not occur, though there can be no assurance of our
expectation. If payment reductions to the Medicare Physician Fee Schedule eventually take effect,
reductions in the reimbursement rates applicable to other third-party payors may also occur, since
many third-party payors base their reimbursement rates on the published Medicare fee schedules.
Accordingly, the 21.2 percent proposed reduction in Medicare payments under the Medicare Physician
Fee Schedule would have a material adverse impact on our business, if enacted. From time to time,
Congress may consider and implement other reductions to the Medicare Physician Fee Schedule in
conjunction with budgetary legislation which would similarly have a negative impact on our business
if/when implemented.
The technical component grandfather clause for Medicare billings was extended through
December 31, 2010. The grandfather clause permits us to directly bill Medicare for the technical
laboratory services we provide to hospital inpatients and outpatients. Hospitals generally receive
a bundled payment from Medicare for all services provided to Medicare patients. Absent the
grandfather clause, when a hospital subcontracts out a cancer diagnostic test to us, the hospital
would be responsible for paying us out of the bundled fee it receives from Medicare, since we would
not be able to directly bill Medicare for technical laboratory services. This form of reimbursement
would subject us to increased administrative costs and slower collections and would likely result
in reduced reimbursement levels and pricing pressure. We expect the grandfather clause will
continue to be extended, though there can be no assurance of our expectation.
Our net revenue may be diminished by health care reform initiatives.
On March 23, 2010, President Obama signed comprehensive health reform, the Patient Protection
and Affordable Care Act (PPACA) into law, which will (i) require most U.S. citizens and legal
residents to have health insurance; (ii) assess monetary penalties upon employers with more than 50
employees that do not offer coverage; and (iii) expand Medicaid coverage. In order to pay for the
PPACA, the Obama administration is considering cuts in Medicare payments, which might be
significant. Our net revenue could be adversely affected by such potential adjustments to Medicare
reimbursement rates for our laboratory diagnostic services, offsetting the potential benefit to our
business of additional insured U.S. citizens and legal residents.
The FDAs enforcement discretion over laboratory-developed tests may subject us to additional
costs and delay launches of our proprietary diagnostic tests.
The U.S. Food and Drug Administration (FDA) has previously stated that clinical laboratories
which develop tests in-house are considered to be manufacturers of medical devices and are subject
to the FDAs jurisdiction under the federal Food, Drug, and Cosmetic Act (FD&C Act). We develop
assays and intend to validate new biomarkers as they become available to us. Many of the assays and
new markers we intend to validate will be considered analyte specific reagents (ASRs), commonly
referred to as home brews. ASRs are reagents composed of chemicals or antibodies which are the
active ingredients of tests used to identify one specific disease or condition. The FDA confirmed
previous announcements in July 2010 that it will exercise enforcement discretion over
laboratory-developed ASRs, as well as laboratory-developed tests (LDTs) using commercially
available and laboratory-developed ASRs. The scope of the FDAs enforcement discretion is widely
expected to be released by the FDA in the first half of 2011, with the potential of any and all
regulations being immediately enforceable.
The FDA announced (in draft guidance in July 2007) that in vitro diagnostic multivariate index
assays (IVDMIAs) do not fall within the scope of LDTs over which the FDA has generally exercised
enforcement discretion. The guidance document defines IVDMIAs as gene or protein-based tests (which
include tests for breast and prostate cancer) that combine assays and algorithms to produce results
tailored to a specific patient. In the draft guidance, the FDA stated that IVDMIAs must meet
pre-market and post-market device requirements under the FD&C Act and FDA regulations, including
pre-market review of class II and III devices. We may decide to develop IVDMIAs in-house, which
would then be subject to
these regulations, should the FDA adopt these draft provisions. In such case, we would be
required to obtain pre-market notification clearance, often referred to as a 510(k) clearance or
pre-market approval (PMA) of the test from the FDA. In order to market a device subject to the
510(k) clearance process, the FDA must determine that the proposed device is substantially
equivalent to a device legally on the market, known as a predicate device. Clinical and
non-clinical data may be required to demonstrate substantial equivalence. The 510(k) clearance
process usually takes from three to twelve months from the time of submission to the time that a
company can begin to market and distribute such product in the United States.
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The process can take significantly longer and there can be no assurance that the FDA will
issue such clearance. The PMA approval pathway requires an applicant to demonstrate that the device
is safe and effective and such determination is based, in part, on data obtained in clinical
trials. The PMA approval process is much more costly, lengthy, and uncertain and generally takes
between one and three years from submission to PMA approval, but may take significantly longer and
such approval may never be obtained. Once clearance or approval is obtained, ongoing compliance
with FDA regulations, including those related to manufacturing operations, recordkeeping,
reporting, marketing, and promotion, would increase the cost, time and complexity of conducting our
business.
The following is a list of exhibits required by Item 601 of Regulation S-K filed as part of
this Quarterly Report on Form 10-Q.
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Incorporated Filing |
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Reference |
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Original |
Exhibit |
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Form Type & |
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Description |
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Filing Date |
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10. 1
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Employment Agreement dated as of July 26, 2010, by and between
Clarient, Inc. and Ronald A. Andrews.
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10. 2
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Employment Agreement dated as of July 26, 2010, by and between
Clarient, Inc. and Dr. Michael J. Pellini.
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10. 3
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Employment Agreement dated as of July 26, 2010, by and between
Clarient, Inc. and David J. Daly.
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31. 1
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Certification of Ronald A. Andrews Pursuant to Rule 13a-14(a)
/ 15d-14(a) of the Securities Exchange Act of 1934.
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31. 2
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Certification of Michael R. Rodriguez Pursuant to
Rules 13a-14(a) / 15d-14(a) of the Securities Exchange Act of
1934.
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32. 1
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Certification of Ronald A. Andrews Pursuant to Rule 13a-14(b)
/ 15d-14(b) of the Securities Exchange Act of 1934 and 18
U.S.C. Section 1350.
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32. 2
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Certification of Michael R. Rodriguez Pursuant to Rule
13a-14(b) / 15d-14(b) of the Securities Exchange Act of 1934
and 18 U.S.C. Section 1350.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly
caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
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CLARIENT, INC.
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DATE: November 2, 2010 |
BY: |
/s/ RONALD A. ANDREWS
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Ronald A. Andrews |
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Vice Chairman and Chief Executive Officer |
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DATE: November 2, 2010 |
BY: |
/s/ MICHAEL R. RODRIGUEZ
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Michael R. Rodriguez |
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Senior Vice President and Chief Financial Officer |
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