BioSphere Medical 10-K 2006
Documents found in this filing:
Washington, D.C. 20549
For the transition period from to
Commission File Number: 0-23678
BioSphere Medical, Inc.
(Exact Name of Registrant as Specified in Its Charter)
1050 Hingham Street, Rockland, Massachusetts 02370
(Address of Principal Executive Offices) (Zip Code)
(Registrants telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Securities registered pursuant to Section 12(g) of the Act:
common stock, $.01 par value
(Title of class)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes o No x
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o No x
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrants knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. x
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in rule 12b-2 of the Exchange Act. (Check one):
Indicate by check mark whether the registrant is a shell company (as defined in rule 12b-2 of the Act). Yes o No x
The aggregate market value of voting common stock held by non-affiliates of the registrant on June 30, 2005, was $35,249,000 based on the closing price of the common stock as reported by the NASDAQ National Market as of such date.
The Registrant had 17,231,505 shares of common stock outstanding as of March 1, 2006.
Documents incorporated by reference:
Portions of the Registrants Definitive Proxy Statement for the 2006 Annual Meeting of Stockholders of the Registrant are incorporated by reference into Part III of this Form 10-K.
This annual report on Form 10-K contains forward-looking statements that involve risks, uncertainties and assumptions that, if they never materialize or prove incorrect, could cause the results of BioSphereMedical, Inc. to differ materially from those expressed or implied by such forward-looking statements. All statements other than statements of historical fact are statements that could be deemed forward-looking statements, including any projections of revenues, expenses, earnings or losses from operations, or other financial items; any statements of the plans, strategies and objectives of management for future operations; any statements concerning product research, development and commercialization timelines and expectations regarding market acceptance and market penetration for our products; any statements of expectation or belief; and any statements of assumptions underlying any of the foregoing. The risks, uncertainties and assumptions referred to above include risks that are described in Risk Factors and elsewhere in this annual report and that are otherwise described from time to time in our Securities and Exchange Commission reports filed after this report.
The forward-looking statements included in this annual report represent our estimates as of the date of this annual report. We specifically disclaim any obligation to update these forward-looking statements in the future. These forward-looking statements should not be relied upon as representing our estimates or views as of any date subsequent to the date of this annual report.
We are focused on applying our proprietary microsphere technology to medical applications using embolotherapy techniques. Embolotherapy is the process of obstructing a blood vessel or organ by the insertion or lodgment of particles or other materials. Embolotherapy works by occluding blood vessels, either to arrest or prevent hemorrhaging to devitalize a structure or organ by depleting its blood supply. Our core technologies consist of patented bioengineered polymers, which are chemical compounds that we create through the application to medical science of engineering principles, and manufacturing methods. These core technologies are used to produce miniature spherical embolic particles with uniquely beneficial properties for a variety of medical applications. By selectively blocking the target tissues blood supply, the deprived tissue will either become destroyed or devitalized, resulting in therapeutic benefit.
Our principal focus is the treatment of symptomatic uterine fibroids, which are noncancerous tumors growing within or on the wall of the uterus, using a procedure called uterine fibroid embolization, or UFE. UFE is a minimally invasive procedure in which microspheres are injected through a microcatheter into the blood vessels that supply the uterus. Blood flow guides these particles into the network of vessels that preferentially flow toward the fibroids, thereby blocking the blood supply to the fibroids, but not the surrounding healthy tissue. Most patients with uterine fibroids are not initially symptomatic and remain untreated until the patient experiences symptoms such as abnormal bleeding, increased urinary frequency, pain, pelvic discomfort or fertility difficulties. Our products are gaining acceptance in this procedure, as well as in a number of other new and established medical treatments, including the use of microspheres in the treatment of primary liver cancer. Our strategy is to grow our embolotherapy business worldwide through increases in UFE and primary liver cancer embolization procedures, by increasing the awareness and availability of these procedures. Additionally, we expect to maintain our current technology leadership by introducing new products and product improvements through both internally developed and externally acquired technologies, that improve and broaden the use of embolotherapy techniques.
Our pioneering embolic products, Embosphere® Microspheres and EmboGold® Microspheres, have a number of beneficial properties that we believe make them well suited for embolotherapy procedures. Because of their uniform, spherical shape and soft, slippery surface, our particles are easy to inject through small catheters, resulting in a more even distribution within the vessel network. We provide these products in precise sizes, so they can be selected to target occlusion of specific sized vessels to produce predictable results and optimize therapeutic benefit.
In November 2002, we received 510(k) clearance from the Food and Drug Administration, or FDA, to market our Embosphere Microspheres for UFE. Third-party clinical data and publications support the safety, efficacy, cost-effectiveness and long-term durability of the UFE procedure. We believe that the medical community accepts UFE as an effective option for most patients who are on drug therapy or are considering undergoing a hysterectomy for treatment of their uterine fibroids. For these reasons, we believe the number of UFE procedures will increase at an accelerating rate. We were the first company to gain regulatory clearance to market a product for UFE in the United States. During 2005, we focused on growing our Embosphere Microsphere business through the development of physician referral networks and patient awareness programs. We continue to expand our sales and marketing organization to maintain our leadership position in the field of UFE.
We also believe that growth opportunities exist in the use of other embolotherapy procedures, notably in the treatment of primary liver cancer. In May 2000, we obtained a worldwide exclusive royalty-bearing license to HepaSphere Microspheres from Dr. Shinichi Hori. HepaSphere Microspheres have different properties than Embosphere Microspheres and EmboGold Microspheres. Specifically, HepaSphere Microspheres have an ability to absorb fluids and expand to 4 times their dry state in vivo while maintaining their spherical form. HepaSphere Microspheres occlude with a high degree of conformity to the vessel wall. Additionally, HepaSphere Microspheres have an ability to locally deliver a chemotherapeutic agent when used in the treatment of liver tumors. We have CE mark approval to market our HepaSphere Microspheres in the European Union for the treatment of liver cancer and are in early stage commercial introduction with limited sales of this product. CE mark approval denotes conformity with European standards for safety and allows certified devices to be placed in the market in European Union countries. HepaSphere Microspheres are currently under clinical evaluation in Japan and we have also had limited sales of this product in Japan under private import restrictions. We intend to seek regulatory approval of the HepaSphere Microspheres in Japan, but do not expect that such approval will be granted, if at all, in the near term. On March 13, 2006, we announced that we have instituted a voluntary recall of our HepaSphere Microspheres in Europe and Japan to correct a packaging defect that we identified while conducting aging studies routinely performed on all of our product packaging. HepaSphere Microspheres are contained in a prefilled vial that is in turn packaged inside a paper pouch. We determined that a defect in the paper pouch may compromise the sterility of the outside of the vial. If the sterility of the outside of the vial is not maintained, there is the risk that a physicians hands can become contaminated when handling the vial. We are not aware of any adverse events resulting from the defects in the paper packaging. Sales of HepaSphere Microspheres outside of the United States are expected to resume once a new packaging design is produced and validated.
In September 2005, we submitted a 510(k) application to the FDA seeking United States marketing clearance for our QuadraSphere Micropheres product candidate for the treatment of hypervascularized tumors and peripheral arteriovenous malformations. Our QuadraSphere Microspheres are identical in all respects to our HepaSphere Microspheres, which are marketed outside of the United States.
In addition, we expect to seek FDA clearance to release our next generation infusion catheter and Guidewire, and MR-Embosphere Microspheres, microspheres visible under magnetic resonance imaging.We filed for marketing approval of our Embosphere Microspheres in the Peoples Republic of China and in Korea and we expect market release in 2006.
We believe that our microsphere technologies may have several non-embolotherapy applications, including tissue bulking, and are exploring the use of our microspheres in the treatment of gastroesophageal reflux disease and for use in cosmetic dermatology. As a result of these efforts, we filed a number of patent applications, and have issued U.S. patents, related to the application of our technologies in these non-embolotherapy applications. Although our current focus is on embolotherapy markets, and significant additional research in these areas would be required, we believe that these non-embolotherapy
applications may provide us with development and commercialization opportunities through internal efforts or third-party licensing, collaboration or similar opportunities.
We were incorporated in Delaware in 1993. Our principal executive offices are located at 1050 Hingham Street, Rockland, MA 02370, and our telephone number is (781) 681-7900. Unless the context otherwise requires, references in this annual report on Form 10-K to BioSphere, we, and our refer to BioSphere Medical, Inc. and our subsidiaries.
We maintain a website with the address www.biospheremed.com. We are not including the information contained in our website as part of, or incorporating it by reference into, this annual report on Form 10-K. We make our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports available free of charge on our website as soon as reasonably practicable after we electronically file those materials with, or furnish those materials to, the United States Securities and Exchange Commission, or SEC.
BioSphere®, Embosphere®, EmboGold®, EmboCath®, Segway®, Sequitor, QuadraSphere, and ask4UFE are trademarks of BioSphere Medical, Inc. Other trademarks appearing in this annual report are the property of their respective holders.
Embolotherapy has been in use for more than 20 years by interventional radiologists to mechanically block the flow of blood to treat certain peripheral tumors and arteriovenous malformations and to control blood loss. In the past decade, interventional radiologists around the world have adopted new embolotherapy procedures, including uterine fibroid embolization and embolization for the treatment of certain cancers, in particular liver cancer. Moreover, we believe that an increasing number of affected patients are seeking alternative treatments with embolotherapy due to their desire for less invasive treatment options than those presented by non-embolotherapy procedures.
Until recently, women suffering from uterine fibroids have had few treatment options. These existing treatment options include the following:
· Hysterectomy. Hysterectomy is a surgical procedure to remove the uterus. While hysterectomy has a relatively low complication rate, it requires a hospital stay of several days, a recovery period of up to six to eight weeks, and results in loss of fertility. Furthermore, hysterectomies have been tied to adverse psychological effects, sexual and urinary dysfunction, as well as the onset of early menopause. In addition, for many women who have their ovaries removed during hysterectomy, this treatment means extended hormone replacement therapy.
· Myomectomy. Myomectomy is the surgical removal of the uterine fibroids without removal of the uterus. It is usually performed on women who wish to preserve their fertility. Only fibroids that can be easily accessed and excised are candidates for removal with this technique. Because some fibroids are difficult to identify while others are difficult to remove, there is a relatively high recurrence rate, between 10% and 60%, after myomectomy. Partly for this reason and because only a small percentage of gynecologists are trained to perform this procedure, relatively few myomectomies are performed compared to the number of eligible patients.
· Drug Therapy and Watchful Waiting. Drug therapies include non-steroidal anti-inflammatory drugs, oral contraceptive pills, progestational agents and gonadotropin-releasing hormone agonists. Women with less severe symptoms who elect against drug therapy and those
seeking to conceive have few satisfactory options. In these circumstances, physicians usually monitor symptoms and will administer therapy only if the condition worsens.
· Other treatments. Other treatments for uterine fibroids include high intensity focused ultrasound and global endometrial ablation. High-intensity focused ultrasound is a method of delivering ultrasonic energy to a discrete, distant point with resultant heat and tissue destruction, but without causing a significant temperature increase or cellular injury to tissue lying in the path of the ultrasound beam. Global endometrial ablation describes the minimally invasive application of energy to destroy the entire endometrial lining in women who are experiencing severe menstrual bleeding and who have completed their childbearing.
Liver cancer is one of the most prevalent forms of cancer worldwide. There are several types of liver cancer.
Primary liver cancer is typically diagnosed at a state that is too advanced to cure surgically. Primary liver cancer refers to cancer that begins within the liver itself. Chronic hepatitis B and chronic hepatitis C, inflammations of the liver associated with the hepatitis virus, are contributing factors to the development of primary liver cancer. For the 80% of patients who are not surgical candidates in the United States who fall into this category, existing treatment options are primarily designed to improve quality of life rather than cure the underlying disease. Metastatic liver cancer occurs when cancer begins in another part of the body, such as the colon, and then migrates, or spreads, to the liver. In the United States, metastatic liver cancer is more prominent than primary liver cancer. However, the rate of primary liver cancer, where the cancer originates in the liver, is expected to increase dramatically in the United States due to increased incidences of hepatitis C, a key risk factor for primary liver cancer. There is a high incidence of primary liver cancer outside of the United States, particularly in Asia, due to the high rates of the hepatitis B and C viruses outside of the United States.
Numerous studies and medical publications indicate that embolotherapy has been used for at least 20 years to treat liver cancer. For example, particle embolization is commonly used in Japan to manage liver cancer patients. In the United States, embolic particles are commonly injected with chemotherapeutic agents to control and limit distribution of the chemotherapy agents, thereby increasing the therapeutic exposure at the target area. Recently, a new, targeted approach to treating liver cancer, using radioactive particles, has become available. These particles, which are similar to our Embosphere Microspheres, are delivered in a targeted fashion through catheters placed in the feeding vessels near the tumor site.
A number of other, less invasive technologies are either in use or in development to treat inoperable primary liver cancer. Selective tumor ablation, using needle-like devices containing thermal energy or chemicals that are placed directly through the skin and into the tumor, can be used. However, application of this technique is practically limited to those with adequate liver function and relatively small tumors.
Although our current focus is to develop our embolotherapy business, we believe there may be applications for our core technology in non-embolotherapy applications, particularly as bulking agents to replace or supplement tissue support. Bulking agents are materials, injected into body sites, used to provide extra physical support where normal anatomic support is not present. These applications include gastro esophageal reflux disease and cosmetic dermatology.
We have developed a number of technologies related to non-embolotherapy applications that have resulted in numerous patent applications. Although we are currently focusing our resources and efforts on the embolotherapy business and significant additional research in these areas would be required, we believe that these non-embolotherapy applications may provide us with development and commercialization opportunities.
Our innovative microsphere technology evolved out of approximately 15 years of research and development of polymer formulations used in the field of biological separations and drug purification.
The following table summarizes information about our principal products and products under research and development.
Products under Research and Development
Our Embosphere Microspheres and EmboGold Microspheres products are intended for use in embolotherapy to block or control the blood supply to certain tumors and other vascular malformations. In November 2002, following successful completion of our clinical studies, we received regulatory clearance in the United States from the FDA for use of our Embosphere Microspheres in treating uterine fibroids. In April 2000, we received 510(k) marketing clearance from the FDA of our Embosphere Microspheres for hypervascularized tumors and arteriovenous malformations.
We believe that UFE will become the principal application for our microsphere products. The majority of our revenues are currently derived from the sale of our Embosphere Microspheres for UFE. Uterine fibroid embolization is a minimally invasive procedure, performed principally by interventional radiologists, in which microspheres are injected through a small catheter into the blood vessels that supply the uterus. Blood flow guides these particles into the network of vessels that preferentially flow toward the fibroids, thereby preferentially blocking the blood supply to the fibroids, but not to the surrounding healthy tissue. The goal of the uterine fibroid embolization procedure is to eliminate the flow of blood to the uterine fibroids, thereby causing fibroid shrinkage and alleviating related symptoms, while preserving normal uterine and ovarian function.
We believe that embolotherapy is a significantly more attractive alternative for treatment of uterine fibroids, particularly when compared to the invasiveness of such surgical procedures as hysterectomy or myomectomy, or even when compared to hormone therapy and watchful waiting. Current therapies can have significant adverse side effects, including loss of fertility, lengthy recovery periods, high costs, discomfort and risk of recurrence of fibroids.
Although the effect of uterine fibroid embolization on continued fertility or fetal development has not been studied extensively, and our 510(k) clearance does not include women who intend future pregnancy, we believe that uterine fibroid embolization has the potential to preserve the fertility of at least some of the patients that would otherwise be lost through hysterectomy or may be compromised by the use of current therapies or technologies, and to reduce or eliminate the risk of recurrence of the uterine fibroid tumor and the complications associated with myomectomy. Most uterine fibroid embolization procedures can be performed in less than one hour, while the patient is sedated, but awake. The patient often stays overnight in the hospital to manage any discomfort and/or pain associated with the procedure and typically returns to everyday activities in several days. In contrast, hysterectomy patients undergo general anesthesia, stay in the hospital for two to three days, and have a recovery period lasting up to six to eight weeks.
We believe Embosphere Microspheres are also being used in other disease areas and procedures, including liver cancer and arteriovenous malformations, although we are currently devoting most of our internal efforts to marketing and selling this product for UFE.
Embosphere Microspheres have a variety of characteristics that may make them preferable to other currently marketed particles. These include:
· Uniform Spherical Shape/Calibrated Particle Size. We are able to synthesize beads with uniform sizing and a spherical shape. When embolic materials are non-spherical or irregularly sized, as is the case with the polyvinyl alcohol, or PVA particles that have been historically used in these applications, clinicians find vessel targeting more difficult and may also experience an increased incidence in unwanted embolization of blood vessels away from the site of the tumor.
· Compliant and Resilient Properties. We have developed a soft, elastic microsphere that has the capability to compress significantly, thus facilitating delivery through very small catheters known as microcatheters. Many clinicians prefer using microcatheters during embolization, since such catheters minimize the frequency of artery or vessel spasm during the procedure. Vessel spasm can
be of particular concern during uterine fibroid embolization as it can disrupt the flow of blood, which clinicians rely on during embolization to direct the microspheres to the vessel targeted for occlusion.
· Hydrophilic Properties. As a result of the materials used to manufacture microspheres, our products are hydrophilic, which means that they absorb moisture. This characteristic is important in that it prevents the microspheres from clumping in the catheter or in the artery during the procedure.
· Nonbiodegradability. Our microspheres are composed of a synthetic three-component polymer that is compatible with the human body. This polymer is insoluble and nonbiodegradable. We believe, therefore, that our Embosphere Microspheres are an appropriate agent for permanent vessel occlusion.
· Cell Adhesion. Our Embosphere Microspheres are cross-linked with a cell adhesion promoter composed of gelatin, which is designed to enhance a stable and complete occlusion of the vessel.
· Charged Surface Property. Our microspheres are positively charged, enhancing attraction to the negatively charged blood vessel wall. This attachment to the vessel wall minimizes the potential for the microspheres to migrate to nontargeted vessels.
Embosphere Microspheres are currently available in six sizes, from 40 to 1,200 microns. They are designed to precisely fit the blood vessels, resulting in targeted and controlled occlusion. They can be used with our accessory catheter products or with any other commercially available catheter and delivery systems.
Our EmboGold Microspheres product was launched in the United States in September 2001 after receiving FDA clearance for treatment of hypervascularized tumors and arteriovenous malformations. In March 2002, we received CE mark approval in the European Union. This product enhancement adds color to the microspheres for improved visibility during preparation and injection. We do not have FDA clearance to market our EmboGold Microspheres for use in the treatment of uterine fibroids, and have determined not to seek such approval at this time. We made this decision because of reports that a small number of patients treated with UFE using EmboGold Microspheres, which we believe constitutes approximately 2% of the total number of patients receiving the UFE procedure using EmboGold Microspheres, reported a delayed onset of pain and/or rash.
HepaSphere Microspheres are marketed in the European Union and have been sold in limited quantities under private import restrictions in Japan, where it is in clinical evaluation for the treatment of primary liver cancer. We intend to seek regulatory approval of the HepaSphere MicroSpheres in Japan, but we do not expect regulatory approval to market HepaSphere Microspheres in Japan in the near term. On March 13, 2006, we announced that we have instituted a voluntary recall of our HepaSphere Microspheres in Europe and Japan to correct a packaging defect that we identified while conducting aging studies routinely performed on all of our product packaging. HepaSphere Microspheres are contained in a prefilled vial that is in turn packaged inside a paper pouch. We determined that a defect in the paper pouch may compromise the sterility of the outside of the vial. If the sterility of the outside of the vial is not maintained, there is the risk that a physicians hands can become contaminated when handling the vial. We are not aware of any adverse events resulting from the defects in the paper packaging. Sales of HepaSphere Microspheres outside of the United States are expected to resume once a new packaging design is produced and validated.
The product attributes of HepaSphere Microspheres are:
· an ability to expand and absorb fluids, such as saline, contrast agents and human serum, that create expansion to 4 times its dry state diameter in vivo64 times its initial volumewhile maintaining its spherical form;
· a high degree of conformity to vessel anatomy;
· a capability for complete occlusion of a vessel with, on average, just a single particle; and
· the ability to carry a chemotherapeutic agent.
Like treatment of uterine fibroids, targeted liver embolotherapy is intended to starve the liver tumor without damaging the surrounding tissue or causing any adverse side effects on other parts of the body, such as those associated with chemotherapy and radiation. In May 2000, we obtained a worldwide exclusive royalty-bearing license to HepaSphere Microsphere from Dr. Shinichi Hori.
During 2002, we introduced our EmboCath Infusion Catheter and our Segway Guidewire, which are products used to deliver embolization material into the target area. These delivery system devices are intended for peripheral embolization procedures, which are procedures in parts of the body other than the head, heart or vascular system. We are seeking to further develop this pipeline with new delivery products and product enhancements.
In November 2001, we received FDA clearance to market our EmboCath Infusion Catheter. The EmboCath Infusion Catheter is a microcatheter that is designed to be used to inject embolization material in the pelvic and abdominal region and has properties that we believe optimize the unique design of our hydrophilic and compressible microspheres, including the largest inside diameter available on the market in this size range, a specially designed hub to enable easy transfer of embolic agents from the syringe through the catheter, a hydrophilic coating and variable stiffness shaft to enable responsive yet supple handling.
In 2002, we introduced our Segway Guidewire, designed specifically for use with our EmboCath Infusion Catheter. The unique, proprietary design offers advanced features developed for use in cardiology applications. Guidewires are used in most intravascular catheter procedures to establish a support structure to aid placement of the catheter.
Our absorbing and expanding QuadraSphere Microsphere product under development is identical in all respects to HepaSphere Microspheres, which are marketed outside of the United States. In September 2005, we submitted a 510(k) application to the FDA seeking United States marketing clearance for our QuadraSphere Microspheres product candidate for the treatment of hypervascularized tumors and peripheral arteriovenous malformations.
Our MR-Embosphere Microsphere product under development is intended to enhance our Embosphere Microspheres with features that make the microspheres visible under magnetic resonance imaging, or MRI. Non-invasive detection of microspheres may be useful to enable image-guided therapy as well as to optimize patient care. This product candidate is currently in the preclinical research stage.
Our current delivery system product candidates under development include the EmboCath Plus Infusion Microcatheter and the Sequitor Steerable Guidewire. With these product candidates, we intend to build on the advantages of our first generation embolic delivery system, adding enhanced tracking, torque response and coating technology to the product lines. These product candidates are being specifically designed to be used together to optimize flexibility for use in UFE and liver procedures. Each of these product candidates is currently in the pre-clinical research stage.
We also sell barium delivery kits and other ancillary products in the European Union. We purchase barium from a third party and resell it for use in gastrointestinal medical testing. We sell other ancillary devices as medical products for hospital and physician use. While we generated a portion of our revenues in 2005 and 2004 from these nonstrategic products, we do not expect these products to be a significant component of our future sales.
We currently market our embolotherapy and delivery systems products through direct sales efforts in the United States and through a combination of direct sales and distributors in Europe, Asia, Canada, the Middle East, Africa, South America and other parts of the world.
As part of our sales and marketing efforts, we attend major medical conventions throughout the world pertaining to our targeted markets and invest in market development, including physician training, referral network education and patient outreach. We work closely with major interventional radiology centers in the areas of training, therapy awareness programs, clinical studies and ongoing research.
No single customer accounted for more than 10% of our revenue in 2005.
Our research and development group is focusing on developing our product technology in three areas:
· continuous improvement of our core technology;
· new embolotherapy materials and platforms; and
· complementary embolotherapy products.
Our core technologies include microsphere technologies, organic and inorganic polymer and surface chemistries for microsphere design and development, and expertise and know-how in microsphere manufacturing.
During the fiscal years ended December 31, 2005, 2004, and 2003, research and development expenses were $2.36 million, $2.11 million and $2.34 million, respectively.
We encounter, and expect to continue to encounter, competition in the sale of our current and future embolotherapy and delivery system products. The primary competitive embolotherapy product has been polyvinyl alchol, or PVA particles, a product introduced into the market more than 20 years ago. Our principal competitors in both the fields of embolotherapy and the delivery systems used in the UFE procedure are Angiodynamics Incorporated, Biocompatibles, Ltd., Boston Scientific Corporation, Cook Incorporated, Cordis Corporation, a Johnson and Johnson Company, Pfizer, Inc. and Terumo Corporation, as well as companies selling or developing non-embolotherapy solutions for the disease states
targeted by us. Currently, the primary products with which our microspheres compete for some of our applications are spherical PVA, sold by Boston Scientific Corporation, Biocompatibles and Terumo, gel foam, sold by Pfizer, and non-spherical PVA, sold by Boston Scientific, Angiodynamics and Cook. Many of our current competitors have, and our future competitors are likely to have, greater financial, operational, sales and marketing resources and more experience in research and development than we have. We compete primarily on the basis of product performance, ease of use, degree of targeted embolization control, and quality of patient outcome. Within the field of uterine artery embolization, we believe we are the market share leader and one of only two companies in the United States to have embolic products specifically indicated for use in UFE. Boston Scientific, which markets both a PVA product and a next-generation spherical PVA product, is our principal competitor in this area of the market. Based on both research and clinical studies conducted on our product for UFE, we believe we offer physicians a high degree of ease of use, targeted delivery, durable vessel occlusion, and therefore satisfactory short and long-term clinical outcomes, when compared to our competitors.
FDA Regulation. The FDA, and other federal, state, local, and foreign authorities, regulate our products and manufacturing activities. Pursuant to the Federal Food, Drug, and Cosmetic Act and the regulations promulgated under that act, the FDA regulates the development, clinical testing, manufacture, packaging, labeling, storage, distribution and promotion of medical devices. Before a new device that we develop can be introduced into the market, we must obtain marketing clearance through a 510(k) notification or approval through a premarket approval application.
Changes in Approved Devices. We must obtain new FDA 510(k) clearance or premarket approval when there is a major change or modification in the intended use of a legally marketed device or a change or modification, including product enhancements, to a legally marketed device that could significantly affect its safety or effectiveness.
Current Good Manufacturing Practices and Reporting. The Federal Food, Drug, and Cosmetic Act requires us to comply with Current Good Manufacturing Practices and the Quality Systems Regulation. We must comply with various quality control requirements pertaining to all aspects of our product design and manufacturing process, including requirements for packaging, labeling and record keeping, including complaint files. The FDA enforces these requirements through periodic inspections of medical device manufacturing facilities. In addition, the medical device reporting regulation requires us to inform the FDA whenever information reasonably suggests that one of our devices may have caused or contributed to death or serious injury, or when one of our devices malfunctions, if the device would be likely to cause or contribute to a death or a serious injury in the event the malfunction recurred. We believe that we, and all of our contract manufacturers, are in compliance with applicable Current Good Manufacturing Practices and the Quality Systems regulations and with medical device reporting requirements.
Labeling and Advertising. Labeling and promotional activities are also subject to scrutiny by the FDA. Among other things, labeling violates the law if it is false or misleading in any respect or it fails to contain adequate directions for use. Moreover, claims that are outside the labeling either approved or cleared by the FDA may violate the Federal Food, Drug, and Cosmetic Act.
Our product promotion is also subject to regulation by the Federal Trade Commission under the Federal Trade Commission Act, which prohibits unfair methods of competition and unfair or deceptive acts or practices in or affecting commerce, as well as unfair or deceptive practices such as the dissemination of any false advertisement pertaining to medical devices.
Import Requirements. To import a device, the importer must file an entry notice and bond with the United States Customs Service pending an FDA decision on the products admissibility. All devices are subject to FDA examination before release from Customs. Any article that appears to be in violation of the
Federal Food, Drug, and Cosmetic Act may be refused admission and a notice of detention and hearing may be issued.
Export Requirements. Products for export from Europe and from the United States are subject to foreign countries import requirements and the FDAs or European regulating bodies exporting requirements. In addition to the import requirements of foreign countries, we must also comply with the U.S. laws governing the export of products regulated by the FDA. However, foreign countries often require, among other things, an FDA certificate for products for export. To obtain this certificate from the FDA, the device manufacturer must certify to the FDA that the product has been granted clearance or approval in the United States and that the manufacturing facilities are in compliance with Good Manufacturing Practices regulations at the time of the last FDA inspection.
Fines and Penalties for Noncompliance. Failure to comply with applicable FDA regulatory requirements could result in, among other things, premarket clearance or approval withdrawal, injunctions, product withdrawals, voluntary or mandatory patient/physician notifications, recalls, warning letters, product seizures, civil penalties, fines and criminal prosecutions. Federal Trade Commission enforcement can result in orders requiring, among other things, limits on advertising, corrective advertising, consumer redress, rescission of contracts and such other relief as may be deemed necessary.
Foreign Regulations. Medical device laws are also in effect in many countries outside of the United States. These range from comprehensive device approval requirements for some or all of our medical device products to simpler requests for product data or certification. The number and scope of these requirements are increasing. Sales of medical devices in the European Union are subject to the European Medical Device Directive. This directive contains requirements for quality system and product performance guidelines with which all manufacturers must comply. These guidelines contain quality system guidelines and preproduction product design verification that closely resemble current FDA requirements. In February 2006, we obtained ISO 13485:2003 Quality Management Systems Requirements for Regulatory Purposes certification showing that our French manufacturing procedures and facilities comply with standards for quality management.
Failure to Comply. Failure to materially comply with applicable federal, state and foreign medical device laws and regulations would likely have a material adverse effect on our business. In addition, federal, state and foreign regulations regarding the manufacture and sale of medical devices are subject to future changes.
Environmental Regulations. We are subject to various federal, state, local and foreign laws and regulations relating to the protection of the environment, as well as health and safety. In the course of our business, we are involved in the handling, storage and disposal of limited amounts of certain chemicals. The laws and regulations applicable to our operations include provisions that regulate the discharge of materials into the environment. Usually these environmental laws and regulations impose strict liability, rendering a person liable without regard to negligence or fault on the part of such person. Such environmental laws and regulations may expose us to liability for the conduct of, or conditions caused by, others, or for acts that were in compliance with all applicable laws at the time the acts were performed. We have not been required to expend material amounts in connection with our efforts to comply with environmental requirements or that compliance with such requirements will have a material adverse effect upon our capital expenditures, results of operations or competitive position. Failure to comply with applicable environmental and related laws could have a material adverse effect on our business. In addition, because the requirements imposed by such laws and regulations are frequently changed, we are unable to predict the cost of compliance with such requirements in the future, or the effect of such laws on our capital expenditures, results of operations or competitive position.
Anti-Kickback Statutes. The federal healthcare program Anti-Kickback Statute prohibits persons from knowingly and willfully soliciting, offering, receiving or providing remuneration, directly or indirectly,
in exchange for or to induce either the referral of an individual for, or the furnishing, arranging for or recommending a good or service for which payment may be made in whole or part under a federal healthcare program such as Medicare or Medicaid. The definition of remuneration has been broadly interpreted to include anything of value, including, for example, gifts, discounts, the furnishing of supplies or equipment, credit arrangements, payments of cash and waivers of payments. Several courts have interpreted the statutes intent requirement to mean that if any one purpose of an arrangement involving remuneration is to induce referrals or otherwise generate business involving goods or services reimbursed in whole or in part under federal healthcare programs, the statute has been violated. The law contains a few statutory exceptions, including payments to bona fide employees, certain discounts and certain payments to group purchasing organizations. Violations can result in significant penalties, imprisonment and exclusion from Medicare, Medicaid and other federal healthcare programs. Exclusion of a manufacturer would preclude any federal healthcare program from paying for its products. In addition, some enforcement officials have argued that kickback arrangements can provide the basis for an action under the Federal False Claims Act, which is discussed in more detail below.
The Anti-Kickback Statute is broad and potentially prohibits many arrangements and practices that are lawful in businesses outside of the healthcare industry. Recognizing that the Anti-Kickback Statute is broad and may technically prohibit many innocuous or beneficial arrangements, the Office of Inspector General of Health and Human Services, or OIG, has issued a series of regulations, known as the safe harbors, beginning in July of 1991. These safe harbors set forth provisions that, if all the applicable requirements are met, will assure healthcare providers and other parties that they will not be prosecuted under the Anti-Kickback Statute. The failure of a transaction or arrangement to fit precisely within one or more safe harbors does not necessarily mean that it is illegal or that prosecution will be pursued. However, conduct and business arrangements that do not fully satisfy each applicable safe harbor may result in increased scrutiny by government enforcement authorities such as the OIG. Arrangements that implicate the Anti-Kickback Statute, and that do not fall within a safe harbor, are analyzed by the OIG on a case-by-case basis.
Government officials have focused recent enforcement efforts on, among other things, the sales and marketing activities of healthcare companies, and recently have brought cases against individuals or entities with personnel who allegedly offered unlawful inducements to potential or existing customers in an attempt to procure their business. Settlements of these cases by healthcare companies have involved significant fines and/or penalties and in some instances criminal pleas.
In addition to the Federal Anti-Kickback Statute, many states have their own kickback laws. Often, these laws closely follow the language of the federal law, although they do not always have the same exceptions or safe harbors. In some states, these anti-kickback laws apply with respect to all payors, including commercial health insurance companies.
False Claims Laws. Federal false claims laws prohibit any person from knowingly presenting, or causing to be presented, a false claim for payment to the federal government or knowingly making, or causing to be made, a false statement to get a false claim paid. Manufacturers can be held liable under false claims laws, even if they do not submit claims to the government, if they are found to have caused submission of false claims. The Federal Civil False Claims Act also includes whistle blower provisions that allow private citizens to bring suit against an entity or individual on behalf of the United States and to recover a portion of any monetary recovery. Many of the recent highly publicized settlements in the healthcare industry related to sales and marketing practices have been cases brought under the False Claims Act. The majority of states also have statutes or regulations similar to the federal false claims laws, which apply to items and services reimbursed under Medicaid and other state programs, or, in several states, apply regardless of the payor. Sanctions under these federal and state laws may include civil monetary penalties, exclusion of a manufacturers products from reimbursement under government programs, criminal fines, and imprisonment.
Privacy and Security. HIPAA and the rules promulgated thereunder require certain entities, referred to as covered entities, to comply with established standards, including standards regarding the privacy and security of protected health information, or PHI. HIPAA further requires that covered entities enter into agreements meeting certain regulatory requirements with their business associates, as such term is defined by HIPAA, which, among other things, obligate the business associates to safeguard the covered entitys PHI against improper use and disclosure. While not directly regulated by HIPAA, a business associate may face significant contractual liability pursuant to such an agreement if the business associates breaches the agreement or causes the covered entity to fail to comply with HIPAA. In the course of our business operations, we have entered into several business associate agreements with certain of our customers that are also covered entities. Pursuant to the terms of these business associate agreements, we have agreed, among other things, not to use or further disclose the covered entitys PHI except as permitted or required by the agreements or as required by law, to use reasonable safeguards to prevent prohibited disclosure of such PHI and to report to the covered entity any unauthorized uses or disclosures of such PHI. Accordingly, we incur compliance related costs in meeting HIPAA-related obligations under business associates agreements to which we are a party. Moreover, if we fail to meet our contractual obligations under such agreements, we may incur significant liability.
In addition, HIPAAs criminal provisions could potentially be applied to a non-covered entity that aided and abetted the violation of, or conspired to violate HIPAA, although we are unable at this time to determine conclusively whether our actions could be subject to prosecution in the event of an impermissible disclosure of health information to us. Also, many state laws regulate the use and disclosure of health information, and are not necessarily preempted by HIPAA, in particular those laws that afford greater protection to the individual than does HIPAA. Finally, in the event we change our business model and become a HIPAA covered entity, we would be directly subject to HIPAA, its rules and its civil and criminal penalties.
We seek to establish and protect our proprietary technologies and products by developing and using a strategy involving a combination of patents, copyrights, trademarks and trade secrets, as well as by entering into licensing agreements and utilizing confidentiality provisions where appropriate. We have implemented a patent strategy designed to maximize our intellectual property rights. We are pursuing patent coverage in the United States and foreign countries to protect the technology, inventions and improvements that we consider critical to the development of our products and business.
In January 1998, we entered into an agreement with LAssistance Publique-Hopitaux De Paris, referred to as AP-HP, pursuant to which AP-HP has granted us the exclusive right to use two United States patents and their foreign counterparts that we jointly own with AP-HP relating to Embosphere Microspheres. We are required to pay to AP-HP a royalty on the commercial sale of any products that incorporate technology covered by the patents. We may only sublicense these exclusive rights under the agreement with the prior written consent of AP-HP, which consent cannot be unreasonably withheld. The rights granted under the contract are for an initial period, which ends on September 16, 2009, and are renewable by mutual agreement between the parties. The agreement can be terminated on three months notice by either party if the other party does not perform one or more of its obligations under the agreement and fails to cure its nonperformance during the notice period. These jointly-owned U.S.and foreign counterpart patents will expire in 2014 and 2012, respectively.
In 2000, we entered into an agreement with Dr. Shinichi Hori, pursuant to which we have an exclusive royalty-bearing license to Japanese patent rights for our HepaSphere Microsphere product. These patent rights expire in 2012. We continue to develop this technology and we are prosecuting U.S. and foreign patent applications related to this technology. However, present applications may not issue as patents, and these patents, if issued, may not provide us with sufficient protection against competitors. Further, we may
be required to obtain additional licenses concerning the Japanese patent application and any licenses, if obtained, may not be on terms that are acceptable to us.
In addition to those listed above, we have a number of United States and foreign patents and pending applications related to our microsphere technology and uses thereof. For example, we have at least four U.S. and two foreign patents, and five U.S. and ten foreign counterpart pending applications related to microspheres and uses thereof for tissue bulking, tissue construction, dermal augmentation, and the treatment of gastroesophageal reflux disease, or GERD, and urinary incontinence. The issued U.S. and foreign counterpart patents expire at various dates between 2019 and 2020. We also have at least three U.S. and four foreign counterpart pending applications related to microspheres and uses thereof for drug delivery and gene therapy. Additionally, we have at least one patent and one pending application in each of the United States and Europe related to PVA microspheres useful for embolization and methods thereof. The U.S. and European PVA patents expire in 2019. Other U.S. and foreign counterpart patent applications have also issued or are currently pending. The subjects of these patents and applications include new materials for embolization, new methods of using our materials for embolization and other applications, as well as new uses of our materials outside of embolization.
The subjects of these patents and applications include new materials for embolization, new methods of using our materials for embolization and other applications, as well as new uses of our materials outside of embolization.
We currently own the following U.S. trademarks:
Our success depends to a significant degree upon our ability to develop proprietary products and technologies and to obtain patent coverage for these products and technologies. We intend to continue to file patent applications covering any newly developed products and technologies. However, as discussed above, there can be no guarantee that any of our pending or future filed applications will be issued as patents. There can be no guarantee that the United States Patent and Trademark Office or some third party will not initiate an interference proceeding involving any of our pending applications or issued patents. Finally, there can be no guarantee that our issued patents or future issued patents, if any, will provide adequate protection from competition, as further discussed below.
Patents provide some degree of protection for our proprietary technology. However, the pursuit and assertion of patent rights, particularly in areas like medical device development, involve complex legal and factual determinations and, therefore, are characterized by significant uncertainty. Specifically, enforcement or defense of our patents against potential or actual third party infringers may impose a significant burden on our financial and human resources, and we may be limited in our ability to protect all of our rights. If we enforce our patents against third parties, they may challenge the validity or enforceability of our patents. We cannot predict whether we will be successful in enforcing our patents or defending their validity or enforceability.
In addition, the laws governing patent issuance and the scope of patent coverage continue to evolve, particularly in life sciences, and the patent rights we possess, or are pursuing, generally cover our technologies to varying degrees. As a result, we cannot ensure that patents will issue from any of our patent applications or from applications licensed to us, or that any of our issued patents will offer meaningful protection. In addition, our issued patents or patents licensed to us may be successfully challenged, invalidated, circumvented or rendered unenforceable so that our patent rights may not create an effective competitive barrier. Moreover, the laws of some foreign countries may not protect our proprietary rights to the same extent, as do the laws of the United States. There can be no assurance that any patents issued to us will provide a legal basis for establishing an exclusive market for our products or provide us with any competitive advantages, or that the patents of others will not have an adverse effect on our ability to do business or to continue to use our technologies freely. In view of these factors, the value of our intellectual property position is uncertain.
We have one granted European Patent, EP 1128816, related to PVA microspheres useful for embolization and methods thereof. We have validated this European patent in Germany, Spain, France, United Kingdom and Italy. On January 13, 2005, we were notified of a Notice of Oppositions filed by Biocompatibles UK Limited on December 23, 2004 against this European patent. We have filed a response to the Notice of Opposition and an auxiliary claim set on August 11, 2005. We will continue defending our European PVA patent in this proceeding. While we are not able to predict the outcome of this proceeding, it will not impact our ability to sell our Embosphere Microsphere products, which are not comprised of PVA.
We may be subject to third parties filing claims asserting that our technologies or products infringe on their intellectual property. We cannot predict whether third parties will assert such claims against us or our licensees or against the licensors of technology licensed to us, or whether those claims will harm our business. If we are forced to defend against such claims, regardless of their merit or whether they are resolved in favor of or against us, our licensees or our licensors, we may face costly litigation and diversion of managements attention and resources. As a result of such disputes, we may have to develop, at a substantial cost, non-infringing technology, or enter into licensing agreements. These agreements, if necessary, may be unavailable on terms acceptable to us, or at all, which could seriously harm our business or financial condition.
We also rely in part on trade secret protection of our intellectual property. We attempt to protect our trade secrets by entering into confidentiality agreements with third parties, employees and consultants. Our employees also sign agreements assigning to us their interests in inventions and original expressions and any corresponding patents and copyrights arising from their work for us. However, it is possible that these agreements may be breached, invalidated or rendered unenforceable, and, if so, our trade secrets could be disclosed to others, including our competitors, and there may not be an adequate corrective remedy available. Despite the measures we have taken to protect our intellectual property, parties to our agreements may breach the confidentiality provisions in our contracts or infringe or misappropriate our patents, copyrights, trademarks, trade secrets and other proprietary rights. In addition, third parties may independently discover or invent competitive technologies, or reverse engineer our trade secrets or other
technology. Therefore, the measures we are taking to protect our proprietary technology may not be adequate.
As of December 31, 2005, we employed 69 persons. Of these employees, seven are primarily engaged in research, development and clinical activities, 22 are engaged in manufacturing, 30 are engaged in sales and marketing, and the remainder are engaged in finance and administration. Of these 69 persons, 34 are located in the United States and 35 are located in France.
Our employees in the United States are not covered by a collective bargaining agreement. In Europe, our employees are covered by the provisions of an agreement setting forth national guidelines and standards for labor relations within our industry. We consider our relations with our employees to be good.
Investing in our common stock involves a high degree of risk. The risks described below are not the only ones facing our company. Additional risks not presently known to us or that we deem immaterial may also impair our business operations. Any of the following risks could materially adversely affect our business, operating results and financial condition and could result in a complete loss of your investment.
We have incurred operating losses since our inception and, as of December 31, 2005, had an accumulated deficit of approximately $78.80 million. We expect to spend substantial funds to continue research and product testing, to maintain sales, marketing, quality control, regulatory, manufacturing and administrative capabilities and for other general corporate purposes. We expect to continue to incur operating losses in 2006, as we continue our research, development and commercialization efforts.
We may never become profitable. If we do become profitable, we may not remain profitable on a continuing basis. Our failure to become and remain profitable would depress the market price of our common stock and impair our ability to raise capital and expand, diversify or continue our operations.
We believe that our existing cash and other working capital (including the proceeds from our recent sale of securities in February 2006), together with anticipated proceeds from sales of our products will be sufficient to fund our operating and capital requirements, as currently planned through 2007.
Our currently planned operating and capital requirements primarily include the need for working capital to:
produce and manufacture our products;
support our sales and marketing efforts for our Embosphere Microsphere products for UFE and other indications, as well as our other products for sale;
support our research and development activities; and
fund our general and administrative costs and expenses.
However, our cash requirements may vary materially from those now planned due to a number of factors, including, without limitation, the amount of revenues we generate from sales of our products, in
particular from the use of our Embosphere Microspheres for UFE; changes in our UFE regulatory and marketing programs; anticipated research and development efforts; cost and time involved in preclinical and clinical testing; costs resulting from changes in the focus and direction of our research and development programs; competitive advances that make it harder for us to market and sell our products; the timing and cost of FDA regulatory review; and the markets acceptance of any approved products.
We also expect to incur additional costs related to ongoing research and development activities, preclinical studies, clinical trials, the expansion of our manufacturing, laboratory and administrative functions, as well as costs relating to further market development and commercialization efforts. We may also need additional funds for possible strategic acquisitions of synergistic businesses, products and/or technologies. If adequate funds are not available, we may be required to delay, scale back or eliminate some of our research, development, sales and marketing initiatives, which would have a material adverse effect on our business, results of operations and ability to achieve profitability.
We may need to raise additional funds to develop and commercialize our new products successfully. If we cannot fund these new products through cash generated from existing operations and cannot raise more funds, we could be required to reduce our capital expenditures, scale back our product development, reduce our workforce and license to others products or technologies that we otherwise would seek to commercialize ourselves. Although we may seek additional funding through collaborative arrangements, borrowing money or the sale of additional equity securities, we may not receive additional funding on reasonable terms, or at all. Any sales of additional shares of our capital stock are likely to dilute our existing stockholders.
Further, if we issue additional equity securities, the new equity securities may have rights, preferences or privileges senior to those of existing holders of our common stock. Alternatively, we may borrow money from commercial lenders, possibly at high interest rates, which will increase the risk of your investment in us.
Our operating results could fluctuate significantly from quarter to quarter. These fluctuations may be due to a number of factors, including:
the timing and volume of customer orders for our products;
introduction or announcement of competitive products;
turnover in our direct sales force;
timing and amount of expenses;
reductions in orders by our distributors;
effectiveness of new marketing and sales program;
changes in management;
negative publicy; and
general economic conditions.
Due to these fluctuations, our operating results in some quarters may not meet the expectations of our investors. In that case, our stock price may decline.
In addition, a large portion of our expenses, including expenses for facilities, equipment and personnel, are relatively fixed. Accordingly, if our revenues decline or do not grow as much as we anticipate, we might not be able to improve our operating margins.
Failure to achieve anticipated levels of revenues could therefore significantly harm our operating results for a particular fiscal period.
Our microspheres are based on new technologies and therapeutic approaches. In the United States, we began selling our microsphere product in the first half of 2000. In November 2002, we received FDA clearance to market our Embosphere Microspheres in the United States for specific use in the embolization of uterine fibroids. Our success will depend upon increasing acceptance by the medical community, patients and third-party payers that our Embosphere Microspheres and other products are medically therapeutic and cost effective. Our embolotherapy techniques are administered by interventional radiologists. To date we have not achieved widespread market acceptance of our Embosphere Microspheres or other products. In the treatment of uterine fibroids using UFE, we believe that we have not yet achieved widespread acceptance primarily because obstetrics and gynecology physicians may elect to offer and provide other forms of treatment to their patients with uterine fibroids that do not require a referral to another specialist, such as an interventional radiologist. The majority of our revenues are from the sale of our EmboSphere Microsheres for UFE. Accordingly, our future success will depend upon obstetrics and gynecology physicians referring patients to interventional radiologists to receive treatment using our Embosphere Microspheres in lieu of, or in addition to, receiving other forms of treatment that the obstetrics and gynecology physicians can otherwise provide directly.
Negative publicity associated with any adverse medical effects attributed to embolization treatments generally, or our products specifically, may create the market perception that our products are unsafe. For example, patients commonly experience a day or two of post-procedure abdominal pain or cramping. Other infrequently occurring complications may include allergic reactions, rashes, early onset of menopause, infertility and infection that may, in some cases, require a hysterectomy. We are also aware that a small number of the patient population, which we believe constitutes approximately 2% of those receiving the UFE procedure using EmboGold Microspheres, reported a delayed onset of rash and/or pain.
Our microspheres are designed to permanently occlude targeted blood vessels. There is some risk that some or all of the microspheres used in a medical procedure may travel in the blood system to sites other than the intended surgical site and occlude, or block, other blood vessels, resulting in the potential for significant adverse health effects on the patient or, in a worst case, even death. Moreover, to use our microspheres correctly for a particular medical procedure, trained physicians must select and use the proper size and quantity. A physicians selection and use of the wrong size or quantity of our microspheres could potentially have significant adverse health effects on the patient, including death. It is necessary for us to educate physicians about the selection and use of the proper size and quantity of microspheres in patient therapy. In addition, there is only limited data concerning the long-term health effects on persons receiving embolotherapy using our microspheres. For example, the effect of UFE on continued fertility has
not yet been specifically studied, and our FDA clearance for Embosphere Microspheres currently does not include women who desire future pregnancy.
If we are not able to successfully educate physicians to properly use our product, or if the market determines or concludes that any of our products are not safe or effective for any reason, we may be exposed to product liability claims, product recalls, fines or other penalties or enforcement actions by regulatory agencies and associated adverse publicity. For example, in September 2005, we were named as a defendant in a product liability lawsuit in which the defendant, a minor child, claims that he was rendered blind in both eyes as a result of the use of our Embosphere Microsphere product during a nasal angiofibroma embolization. See We may be exposed to product liability claims, and if we are unable to obtain or maintain adequate product liability insurance, then we may have to pay significant monetary damages in a successful product liability claim against us. While we have product liability insurance, we may not be able to maintain such insurance at favorable rates, or at all, and any successful judgments against us could exceed our coverage. In addition, we have provided to our customers a satisfaction guarantee that requires us to accept the return of any inventory and credit the entire amount of the original order if a properly trained customer is not satisfied with the performance of our microspheres or our delivery system products.
If we experience adverse publicity or are subject to product liability claims, excessive guarantee claims, recalls, fines and the like, we will be unable to achieve widespread market acceptance of our microsphere products and achieve profitability. For example, in March 2006, we announced that we had instituted a voluntary recall of our HepaSphere Microspheres in Europe and Japan to correct a packaging defect that we identified while conducting aging studies routinely performed on all of our product packaging. HepaSphere Microspheres are contained in a prefilled vial that is in turn packaged inside a paper pouch. We determined that a defect in the paper pouch may compromise the sterility of the outside of the vial. If the sterility of the outside of the vial is not maintained, there is the risk that a physicians hands can become contaminated when handling the vial. Although we are not aware of any adverse events resulting from the defects in the paper packaging, our voluntary recall of this product could result in reputational harm or a perception that the product is not safe, either of which could adversely affect market acceptance of our microsphere products.
In the first quarter of 2003, we launched our ask4UFE campaign to increase awareness among patients, referring physicians, interventional radiologists and third-party payers of UFE as an alternative treatment for fibroids. We believe the majority of our revenues in the United States for the two years ended December 31, 2005 were derived from the sale of Embosphere Microspheres for use in UFE. Although we believe that EmboGold Microspheres accounted for a significant portion of revenue, we currently do not intend to seek 510(k) clearance for use of EmboGold Microspheres in UFE. Because we do not intend to seek 510(k) clearance of EmboGold Microspheres, we believe that our future product revenues are substantially dependent on our ability to achieve widespread acceptance of the use of Embosphere Microspheres for the treatment of UFE, and if we do not achieve increased widespread acceptance, our product revenues, profitability and success will be adversely affected. We are continuing to market EmboGold Microspheres for use in hypervascularized tumors (other than uterine fibroids) and arteriovenous malformations. If we cease to market EmboGold Microspheres for any reason, we could incur substantial costs to write off and replace existing inventories. As of December 31, 2005, we had EmboGold inventory with a carrying value of $228,000, including in-process inventory of $144,000 and finished goods syringes of $84,000. We currently believe no provision for the write-off or replacement of EmboGold Microspheres inventory is required in the accompanying financial statements.
If we do not maintain our relationships with the healthcare community, our growth will be limited and our business could be harmed. If gynecologists, obstetricians, interventional radiologists and other healthcare providers do not recommend and endorse our products, our sales may decline or we may be unable to increase our sales and profits.
Our relationships with gynecologists, obstetricians, interventional radiologists and other healthcare providers are critical to our continued growth. We believe that these relationships are based on the quality of our products, our long-standing commitment to embolotherapy treatments, our marketing efforts and our presence at medical society and trade association meetings. Any actual or perceived diminution in our reputation or the quality of our products, or our failure or inability to maintain these other efforts could damage our current relationships, or prevent us from forming new relationships, with healthcare professionals and cause our growth to be limited and our business to be harmed.
In order for us to sell our products, healthcare professionals must recommend and endorse them. We may not obtain the necessary recommendations or endorsements from this community. Acceptance of our products depends on educating the medical community as to the distinctive characteristics, perceived benefits, safety, clinical efficacy and cost-effectiveness of our products compared to traditional methods of treatment and the products of our competitors, and on training healthcare professionals in the proper application of our products. If we are not successful in obtaining the recommendations or endorsements of gynecologists, obstetricians, interventional radiologists and other healthcare professionals for our products, our sales may decline or we may be unable to increase our sales and profits.
If we experience delays, difficulties or unanticipated costs in establishing the sales, distribution and marketing capabilities necessary to successfully commercialize our products, we will have difficulty maintaining and increasing our sales.
We are continuing to develop sales, distribution and marketing capabilities in the United States, the European Union, Asia and in South America. In 2003, we began a marketing strategy to promote UFE awareness and the benefits of our product for the treatment of uterine fibroids. It will be expensive and time-consuming for us to develop a global marketing and sales force. Moreover, we may choose, or find it necessary, to enter into strategic collaborations to sell, market and distribute our products. We currently have a sales force of 18 persons located principally in the United States. Competition for skilled salespersons in the medical device industry is intense, and we may not be able to provide adequate incentive to maintain our sales force or to attract new sales personnel or to establish and maintain favorable distribution and marketing collaborations with other companies to promote our products. We have only limited sales and marketing experience both in the United States and internationally and may not be successful in developing and implementing our strategy. Among other things, we need to:
· provide or assure that distributors provide the technical and educational support customers need to use our products successfully;
· establish and implement successful sales and marketing and education programs that encourage our customers to purchase our products;
· manage geographically dispersed operations; and
· modify our products and marketing and sales programs for foreign markets.
We currently have distribution agreements with approximately 45 third-party distributors. Any third party with whom we have established a marketing and distribution relationship may not devote sufficient time to the marketing and sales of our products, thereby exposing us to potential expenses in terminating such distribution agreements. For example, our subsidiary, BioSphere Medical S.A., or BSMA, ended its distribution agreement with Terumo N.V. in 2002 in part because of Terumos failure to achieve sales forecasts agreed upon by the parties. As a result of subsequent litigation in December 2004, BSMA was
required to pay Terumo approximately $784,000 in damages arising from such termination and incurred additional legal and administrative expenses incident to the legal proceeding. We and any of our third-party collaborators must also market our products in compliance with federal, state and local laws relating to the providing of incentives and inducements. Violation of these laws can result in substantial penalties. If we are unable to successfully motivate and expand our marketing and sales force and further develop our sales and marketing capabilities, or if our distributors fail to promote our products, we will have difficulty maintaining and increasing our sales.
We are developing and commercializing products for medical applications using embolotherapy techniques. Most of our next-generation embolotherapy product candidates, including MR-Embosphere Microspheres, EmboCath Plus Infusion Microcatheter and Sequitor Steerable Guidewire, are still in the early stages of research and development. Our products may not provide greater benefits than current treatments or products, or alternative treatments or products under development. All of our products under development will require significant additional research, development, engineering, preclinical and/or clinical testing, regulatory approval and a commitment of significant additional resources prior to their commercialization. Our potential products may not:
be developed successfully;
be proven safe and effective in clinical trials;
offer therapeutic or other improvements over current treatments and products;
meet applicable regulatory standards or receive regulatory approvals;
be capable of production in commercial quantities at acceptable costs; or
be successfully marketed.
We derived approximately 13% of our revenues for the period ended December 31, 2005 from the sale of nonstrategic medical products that we expect will constitute a less significant portion of our revenues on an ongoing basis. These nonstrategic medical products include barium delivery kits sold by us in the European Union, as well as other ancillary devices for hospital and physician use. In addition, we estimate that a significant portion of our revenues for the years ended December 31, 2005 and 2004 were derived from the sale of EmboGold Microspheres for UFE, an indication for which we do not have, and do not presently intend to seek, clearance from the FDA to market. We made the decision not to seek FDA clearance for our EmboGold Microsphere product because of reports that a small number of patients treated with UFE using EmboGold Microspheres, which we believe constitute approximately 2% of the total number of patients receiving the procedure, reported a delayed onset of rash and/or pain. Accordingly, we need to develop and introduce new applications for our embolotherapy technology and pursue opportunities for microsphere technology in other medical applications. Any such new application for our embolotherapy technology or microsphere technology will be subject to a number of risks inherent in the development and commercialization of a medical device product, including uncertainties with respect to the successful completion of clinical trials, our ability to achieve and maintain, and our willingness to seek, required regulatory approvals and our ability to successfully commercialize, market and sell these new applications assuming FDA approval is achieved. If, as a result of these or other risks, we are not successful in developing new applications and products, we will not achieve new revenue opportunities.
We may be exposed to product liability claims, and if we are unable to obtain or maintain adequate product liability insurance, then we may have to pay significant monetary damages in a successful product liability claim against us.
The development and sale of medical devices entails an inherent risk of product liability. For example, if we are not able to successfully educate physicians to properly use our products, if patients experience adverse side effects in procedures in which our products are used, or if the market determines or concludes that any of our products are not safe or effective for any reason, we may be exposed to product liability claims. Although we maintain insurance, including product liability insurance, we cannot provide assurance that any claim that may be brought against us will not result in court judgments or settlements in amounts that are in excess of the limits of our insurance coverage. Our insurance policies also have various exclusions, and we may be subject to a product liability claim for which we have no coverage. We will have to pay any amounts awarded by a court or negotiated in a settlement that exceed our coverage limitations or that are not covered by our insurance.
In August 2005, we were named as a defendant in a lawsuit commenced in the Circuit Court, Twenty-Second Judicial Circuit, St. Louis, Missouri, which we refer to as the Pingel Claim. The lawsuit alleges, among other things, that a patient suffered permanent bilateral blindness as a result of the use of our Embosphere Microspheres in a juvenile nasal angiofibroma embolization. Plaintiffs seek compensatory and punitive damages. Although we currently maintain product liability insurance coverage for our products, including the Embosphere Microsphere product that is the subject of the Pingel claim, our existing insurance and any additional insurance we may subsequently obtain may not provide us with adequate coverage against all potential claims. For example, although our product liability insurer has agreed to vigorously defend us with regards to all of the counts set forth against us in the Pingel Claim, the insurer has advised us in writing that any verdict against us for punitive damages is specifically excluded from coverage. The insurer has also advised us that it does not waive any other defenses to coverage that may apply.
Any product liability claim brought against us, with or without merit, could result in the increase of our product liability insurance rates or the inability to secure additional insurance coverage in the future. A product liability claim, whether meritorious or not, could be time consuming, distracting and expensive to defend, could be harmful to our reputation, could result in a diversion of management and financial resources away from our primary business and could result in product recalls. In any such case, our business may suffer.
We have instituted a voluntary recall of our HepaSphere Microspheres product in the European Union and Japan, which may result in decreased market acceptance of this product and reputational harm, as well as hindering our ability to generate revenue from sales of the product.
On March 13, 2006, we announced that we have instituted a voluntary recall of our HepaSphere Microspheres in Europe and Japan to correct a packaging defect that we identified while conducting aging studies routinely performed on all of our product packaging. We received CE mark approval to sell HepaSphere Microspheres in the European Union in 2004 and commercial launch began in late 2005. We also have had limited sales of HepaSphere Microspheres in Japan under private import restrictions. HepaSphere Microspheres are contained in a prefilled vial that is in turn packaged inside a paper pouch. We determined that a defect in the paper pouch may compromise the sterility of the outside of the vial. If the sterility of the outside of the vial is not maintained, there is the risk that a physicians hands can become contaminated when handling the vial. Although we are not aware of any adverse events resulting from the defects in the paper packaging, our voluntary recall of this product could result in reputational harm or a perception that the product is not safe, either of which could adversely affect market acceptance of our microsphere products and result in decreased sales. In addition, we may encounter unanticipated
delays and expenses relating to correcting the packaging defect, which could adversely affect our operating results.
We have many competitors in the United States and abroad, including medical device, biotechnology and other alternative therapeutic companies, universities and other private and public research institutions. We have experienced increased competition since receiving FDA approval for use of our Embosphere Microspheres for UFE. Our success depends upon our ability to develop and maintain a competitive position in both the embolotherapy and related delivery systems markets. Our key competitors in both the fields of embolotherapy and the delivery systems used in the UFE procedure are Angiodynamics Incorporated, Biocompatibles, Ltd., Boston Scientific Corporation, Cook Incorporated, Cordis Corporation, a Johnson and Johnson Company, Pfizer, Inc. and Terumo Corporation. These and many of our other competitors have greater capabilities, experience and financial resources than we do. As a result, they may develop products quicker or at less cost, that compete with our microsphere products and related delivery systems. In addition, we may experience decreased demand for our products if these or other competitors announce that they have begun to develop products that compete with our products. For example, in 2004, some of our competitors provided free or reduced-price samples of competing forms of microspheres for the treatment of medical procedures for which our Embosphere Microspheres are indicated. The availability of these free or reduced-price samples has had, and may continue to have, a material adverse effect on our product revenues, primarily due to a loss of market share for the sale of our products. Currently, the primary products with which our microspheres compete for some of our applications are spherical PVA, sold by Boston Scientific, Terumo and Biocompatibles, and gel foam, sold by Pfizer, and non-spherical PVA, sold by Angiodynamics, Boston Scientific and Cook. In addition, our competitors may develop technologies that render our products obsolete or otherwise noncompetitive.
We may not be able to improve our products or develop new products or technologies quickly enough to maintain a competitive position in our market and continue to commercially develop our business. Moreover, we may not be able to compete effectively, and competitive pressures may result in less demand for our products and impair our ability to become profitable.
In the treatment of symptomatic uterine fibroids, we also compete with obstetrics and gynecology physicians who elect to offer and provide other forms of treatment to their patients with uterine fibroids that do not require referral to another specialist.
The availability and levels of reimbursement by governmental and other third-party payers affects the market for any medical device. We may not be able to sell our products profitably if reimbursement is unavailable or limited in scope or amount. Some insurance companies do not fully reimburse for embolization procedures. These third-party payers attempt to contain or reduce the costs of healthcare by challenging the prices that companies such as ours charge for medical products. In some foreign countries, particularly the countries of the European Union where our microsphere products are currently marketed and sold, the pricing of medical devices is subject to governmental control, and the prices charged for our products have in some instances been reduced as a result of these controls.
Initiatives to limit the growth of healthcare costs, including price regulation, are underway in the United States and other major healthcare markets. For example, these proposals include prescription drug benefit legislation recently enacted in the United States, and healthcare reform initiatives proposed in certain state and local jurisdictions and other countries. While these initiatives have in many cases related
to pharmaceutical pricing, implementation of more sweeping healthcare reforms in significant markets may limit the price of, or the level at which reimbursement is provided for, our products and may influence a physicians selection of products used to treat patients.
The loss of key members of our management team could harm us. We have recently experienced significant changes in management. In late 2004, Richard Faleschini, our president and chief executive officer, Gary M. Saxton, our executive vice president and chief operating officer, and Martin Joyce, our executive vice president and chief financial officer, joined our company. Our former president and chief executive officer only served as our president and chief executive officer for approximately 27 months; our former vice president of U.S. sales and marketing served as our vice president of U.S. sales for approximately 34 months; and our former vice president of research and development served for approximately five years. Our success is substantially dependent on our ability to retain members of our senior management and other key employees. We do not carry key man life insurance on any of our executive officers or other personnel.
We may attempt to acquire businesses, technologies, services or products that we believe are a strategic complement to our business model. We may encounter operating difficulties and expenditures relating to integrating an acquired business, technology, service or product. These acquisitions may also absorb significant management attention that would otherwise be available for ongoing development of our business. Moreover, we may never realize the anticipated benefits of any acquisition. We may also make dilutive issuances of equity securities, incur debt or experience a decrease in the cash available for our operations, or incur contingent liabilities in connection with any future acquisitions.
As of March 1, 2006, Sepracor Inc., or Sepracor, and funds affiliated with Cerberus Capital Management, L.P., or Cerberus, beneficially owned approximately 23% and 14% of our outstanding common stock, respectively, including shares of common stock issuable upon the exercise of warrants and series A preferred stock held by these stockholders. Moreover, two of our directors are executive officers of Sepracor and we have granted board observation rights to Cerberus. Accordingly, Sepracor and Cerberus may have significant influence over corporate actions requiring stockholder approval, such as the election of directors, amendment of our charter documents and the approval of merger or significant asset sale transactions. In addition, the shares of our series A preferred stock held by Sepracor and Cerberus entitled them to certain voting rights in accordance with the terms and conditions of the series A preferred stock. Specifically, we will need the consent of holders of at least 50% of the series A preferred stock initially purchased by Sepracor and Cerberus to undertake certain key corporate actions, including the following:
amending our charter or bylaws in a manner that adversely affects the holders of series A preferred stock;
authorizing or issuing any equity security that is senior to or pari passu with the series A preferred stock; and
declaring or paying any dividends on, or redeeming or repurchasing any shares of, our capital stock, subject to customary exceptions.
The ownership concentration of Sepracor and Cerberus could cause the market price of our common stock to decline. In addition, conflicts of interest between these key stockholders and us may arise, including with respect to competitive business activities and control of our management and our affairs.
The holders of our series A preferred stock have the right to an adjustment in the conversion rate of the series A preferred stock if we issue securities at a price below the purchase price paid by these holders. These provisions could substantially dilute stockholders interest in BioSphere in the event of future financing transactions. The holders of series A preferred stock also have the right to receive a 6% dividend per annum which, at our election, may be paid in cash or additional shares of series A preferred stock. To date all such dividend payments have been made in additional shares of series A preferred stock. If such dividends continue to be paid in stock, this dividend could also further dilute stockholders ownership interest. In addition, the holders of our series A preferred stock have the right to participate in future capital raising transactions by BioSphere. The existence of this right may reduce our ability to establish terms with respect to, or enter into, any financing with parties other than the investors.
In the event that we enter into an acquisition or business combination in which we sell all or substantially all of our assets or if there occurs a change of control of a majority of our common stock outstanding prior to such transaction, the holders of our series A preferred stock will have the right to receive, before any distributions or payments to the holders of our common stock, an amount in cash equal to their initial purchase price, $8,000,000, plus an amount equal to any accrued but unpaid dividends, and will then participate with the holders of the common stock on a pro rata basis with respect to the distribution of any remaining assets. The existence of this right may make it difficult for us to raise capital in financing transactions with third parties and will also result in holders of our common stock receiving less distributions or payments upon a change of control or asset sale than they would be entitled to receive if no preferential payments were required to be made to holders of our series A preferred stock.
We are subject to regulation by government agencies in the United States and abroad with respect to the manufacture, packaging, labeling, advertising, promotion, distribution and sale of our products. For example, our products are subject to approval or clearance by the FDA prior to commercial marketing in the United States. Similar regulations exist in most major foreign markets, including the European Union, Latin America and Asia. The process of obtaining necessary regulatory approvals and clearances will be time-consuming and expensive for us. If we do not receive required regulatory approval or clearance to market our products, or if any approvals or clearances we have received are revoked or terminated, we may not be able to develop and commercialize our products and become profitable, and the value of our common stock may decline.
We are also subject to numerous foreign regulatory requirements governing the conduct of clinical trials, manufacturing and marketing authorization, pricing and third-party reimbursement. The foreign regulatory approval process includes all of the risks associated with FDA approval described above, as well as risks attributable to the satisfaction of local regulations in foreign jurisdictions. Approval by the FDA does not assure approval by regulatory authorities outside the United States. Many foreign regulatory authorities, including those in major markets such as Japan and China, have different approval procedures than those required by the FDA and may impose additional testing requirements for our medical device candidates.
If the FDA or other regulatory agencies place restrictions on, or impose additional approval requirements with respect to, products we are then marketing, we may incur substantial additional costs and experience delays or difficulties in continuing to market and sell these products.
Even if the FDA grants us clearance with respect to marketing any product, it may place substantial restrictions on the indications for which we may market the product, which could result in lower revenues. The marketing claims we are permitted to make in labeling or advertising regarding our microspheres are limited to those consistent with any FDA clearance or approval. For example, because our EmboGold Microspheres are not cleared for use in UFE, we may not promote them for this use.
We may in the future make modifications to our microspheres or their labeling which we determine do not necessitate the filing of a new 510(k) notification. However, if the FDA does not agree with our determination, it will require us to make additional 510(k) filings for the modification, and we may be prohibited from marketing the modified product or the new claims until we obtain FDA clearance. Similarly, if we obtain premarket approval, we may not be able to make product or labeling changes until we get further FDA approval.
Even if we obtain the necessary FDA clearances or approvals, if we or our suppliers fail to comply with ongoing regulatory requirements our products could be subject to restrictions or withdrawal from the market.
We are subject to the Medical Device Reporting, or MDR, regulations that require us to report to the FDA if our products may have caused or contributed to patient death or serious injury, or if our device malfunctions and a recurrence of the malfunction would likely result in a death or serious injury. We must also file reports of device corrections and removals and adhere to the FDAs rules on labeling and promotion. Our failure to comply with these or other applicable regulatory requirements could result in enforcement action by the FDA, which may include any of the following:
· untitled letters, warning letters, fines, product seizures, injunctions and civil penalties;
· administrative detention, which is the detention by the FDA of medical devices believed to be adulterated or misbranded;
· customer notification, or FDA orders for repair, replacement or refund;
· voluntary or mandatory recall or seizure of our products;
· operating restrictions, partial suspension or total shutdown of production;
· refusal to review premarket notification or premarket approval submissions;
· rescission of a substantial equivalence order or suspension or withdrawal of a premarket approval; and
· criminal prosecution.
If we are subject to an enforcement action, our ability to develop, market and sell our products successfully would be adversely affected, our reputation could be harmed and we may experience decreased market acceptance of our products.
Our operations may be directly or indirectly affected by various broad state and federal healthcare fraud and abuse laws, including the federal Anti-Kickback Statute, which prohibit any person from knowingly and willfully offering, paying, soliciting or receiving remuneration, directly or indirectly, to induce or reward either the referral of an individual, or the furnishing or arranging for an item or service, for which payment may be made under federal healthcare programs, such as the Medicare and Medicaid programs. If our past or present operations are found to be in violation of these laws, we or our officers may be subject to civil or criminal penalties, including large monetary penalties, damages, fines, imprisonment and exclusion from Medicare and Medicaid program participation. If enforcement action were to occur, our business and financial condition would be harmed.
We may not obtain meaningful protection for our technology and products with the patents and patent applications that we own or license relating to our microsphere technology or other ancillary products. In particular, the patent rights we possess or are pursuing generally cover our technologies to varying degrees, and these rights may not prevent others from designing products similar to or otherwise competitive with our Embosphere Microspheres and other products we commercialize. To the extent that our competitors are able to design products competitive with ours, we may experience less market penetration with our products and, consequently, we may have decreased revenues.
We do not know whether competitors have similar U.S. patent applications on file, since U.S. patent applications filed before November 28, 2000 or for which no foreign patents will be sought are secret until issued, and applications filed after November 28, 2000 are published approximately 18 months after their earliest priority date. Consequently, the United States Patent and Trademark Office could initiate interference proceedings involving our owned or licensed U.S. patent applications or issued patents. Further, there is a substantial backlog of patent applications at the United States Patent and Trademark Office, and the approval or rejection of patent applications may take several years.
We require our employees, consultants and advisors to execute confidentiality agreements. However, we cannot guarantee that these agreements will provide us with adequate protection against improper use or disclosure of confidential information. In addition, in some situations, these agreements may conflict with, or be subject to, the rights of third parties with whom our employees, consultants or advisors have prior employment or consulting relationships. Further, others may independently develop substantially equivalent proprietary information and techniques, or otherwise gain access to our trade secrets. Our failure to protect our proprietary information and techniques may inhibit or limit our ability to exclude certain competitors from the market.
If we become involved in expensive patent litigation or other proceedings to enforce or defend our patent rights, we could incur substantial costs and expenses or substantial liability for damages or be required to stop our product development and commercialization efforts.
On January 13, 2005, we were notified of a proceeding brought before the European Patent Office on December 23, 2004 by Biocompatibles UK Limited challenging the patentability of the claims in our granted European Patent 1128816, which relates to certain PVA microspheres, their use in embolization and methods of manufacture related to such PVA microspheres. We are defending our European PVA patent in this proceeding. While we are not able to predict the outcome of this patent opposition proceeding, it will not impact our ability to sell our Embosphere Microsphere products.
With the exception of the European Opposition proceeding just described, we are not currently involved in any other litigation or actions with third parties to enforce or defend our patent rights. However, in order to protect or enforce our patent rights, we may have to initiate legal proceedings against third parties, such as infringement suits or interference proceedings. By initiating legal proceedings to enforce our intellectual property rights, we may also provoke these third parties to assert claims against us and, as a result, our patents could be narrowed, invalidated or rendered unenforceable by a court. Furthermore, we may be sued for infringing on the intellectual property rights of others. We may find it necessary, if threatened, to initiate a lawsuit seeking a declaration from a court regarding the proprietary rights of others. Intellectual property litigation is costly, and, even if we prevail, could divert management attention and resources away from our business.
The patent position of companies like ours generally is highly uncertain, involves complex legal and factual questions, and has recently been the subject of much litigation. We may not prevail in any patent-related proceeding. If we do not prevail in any litigation, we could be required to pay damages, stop the infringing activity, or obtain a license. Any required license might not be available to us on acceptable terms, or at all. In addition, some licenses may be nonexclusive, and therefore, our competitors may have access to the same technology licensed to us. If we fail to obtain a required license or are unable to design around a patent, we may be prevented from selling some of our products, which could decrease our revenues.
We are dependent on various license agreements relating to each of our current and proposed products that give us rights under intellectual property rights of third parties. In particular, we have an agreement with LAssistance Publique-Hopitaux De Paris, pursuant to which LAssistance Publique-Hopitaux De Paris has granted us exclusive rights to use two jointly owned patents relating to Embosphere Microspheres. We also have an agreement with Dr. Shinichi Hori pursuant to which we have an exclusive royalty-bearing license to Japanese patent rights for our HepaSphere Microsphere product. We also have an agreement with Archimmed SARL pursuant to which we have an exclusive royalty-bearing license to patent rights for our MR-Embosphere Microsphere product, which is in development. Each of these agreements can be terminated on short notice by the licensor if we default on our obligations under the license and fail to cure such default after notice is provided. These licenses impose commercialization, sublicensing, royalty, insurance and other obligations on us. Our failure, or any third partys failure, to comply with the terms of any of these licenses could result in our losing our rights to the license, which could result in our being unable to develop, manufacture or sell products which contain the licensed technology.
If we fail to produce enough products at our own manufacturing facility or at a third-party manufacturing facility, we may be unable to deliver products to our customers on a timely basis, which could lead to customer dissatisfaction and could harm our reputation and ability to compete. We currently produce and package all of our microsphere products in one manufacturing facility in France. In the United States, we have engaged Radius Medical Technologies, Inc. to supply our guidewire product and Concert Medical to supply and package our catheter product. Either we or any third-party manufacturer would likely experience significant delays or cessation in producing our products if a labor strike, natural disaster, local or regional conflict or other supply disruption were to occur. If we are unable to
manufacture and package our products at our facility in France, we may be required to enter into arrangements with one or more alternative contract manufacturing companies.
Even if we are able to identify alternative facilities to manufacture our products, if necessary, we may experience disruption in the supply of our products until such facilities are available. Although we believe we possess adequate insurance for damage to our property and the disruption of our business from casualties, such insurance may not be sufficient to cover all of our potential losses and may not be available to us on acceptable terms or at all. Our failure to deliver products on a timely basis could lead to customer dissatisfaction and damage our reputation. In addition, if we are required to depend on third-party manufacturers, our profit margins may be lower, which will make it more difficult for us to achieve profitability.
Medical device manufacturers must adhere to the Quality System Regulation, or QSR, 21 Code of Federal Regulation Part 820, which is enforced by the FDA through its inspection program. The manufacturers may not be able to comply or maintain compliance. If any third-party manufacturers we engage fail to comply, their noncompliance could significantly delay our receipt of new product premarket approvals or result in FDA enforcement action, including an embargo on imported devices. For a premarket approval device, if we change our manufacturing facility or switch to a third-party manufacturer, we will be required to submit a premarket approval application supplement before the change is implemented.
We currently purchase key components and services with respect to our microspheres, catheters and guidewires from approximately nine third-party vendors, including Radius Medical, from whom we purchase guidewires for our Segway Guidewire product, and Concert Medical, from whom we purchase catheters for our EmboCath Infusion Catheters product. We generally do not have long-term agreements with any of our suppliers. Our reliance on our suppliers exposes us to risks, including:
the possibility that one or more of our suppliers could terminate their services at any time without penalty;
the potential inability of our suppliers to obtain required components;
the potential delays and expenses of seeking alternative sources of supply;
reduced control over pricing, quality and timely delivery due to difficulties in switching to alternative suppliers; and
the possibility that one or more of our suppliers could fail to be compliant with Quality System Regulations, 21 CFR Part 820.
Consequently, in the event that our suppliers delay or interrupt the supply of components for any reason, our ability to produce and supply our products could be impaired, which could lead to customer dissatisfaction and be harmful to our reputation.
Our worldwide manufacturing and European sales operations are currently conducted primarily through our French subsidiary. Furthermore, we currently derive a portion of our revenues from the sale of our microspheres and other products in the European Union. For the years ended December 31, 2005
and 2004, approximately 27% and 30%, respectively, of our revenues were derived from sales of our microspheres and other products in the European Union. We are increasingly subject to a number of challenges that specifically relate to our international business activities. Our international operations may not be successful if we are unable to meet and overcome these challenges, which would limit the growth of our business. These challenges include:
failure of local laws to provide the same degree of protection against infringement of our intellectual property;
protectionist laws and business practices that favor local competitors, which could slow our growth in international markets;
the requirement that we obtain regulatory approval or clearance in each country in which we choose to offer and sell our products;
in some jurisdictions, strict government regulated price controls;
complex reimbursement proedures;
potentially longer sales cycles to sell products, which could slow our revenue growth from international sales; and
potentially longer accounts receivable payment cycles and difficulties in collecting accounts receivable.
Because we translate foreign currency from international sales into U.S. dollars and are required to make foreign currency payments, we may incur losses due to fluctuations in foreign currency exchange rates.
A significant portion of our business is conducted in the European Union Euro. We recognize foreign currency gains or losses arising from our operations in the period incurred. As a result, currency fluctuations between the U.S. dollar and the currencies in which we do business will cause foreign currency translation gains and losses, which may cause fluctuations in our future operating results. We do not currently engage in foreign exchange hedging transactions to manage our foreign currency exposure.
The market price of our stock is highly volatile. From January 1, 2004 through March 1, 2006, the price of our common stock has ranged from a low of $2.12 to a high of $9.43. As a result of this volatility, investments in our stock could rapidly lose their value. In addition, the stock market often experiences extreme price and volume fluctuations, which affect the market price of many medical device companies and which are often unrelated to the operating performance of these companies.
When the market price of a stock has been as volatile as our stock price has been, holders of that stock may institute securities class action litigation against the company that issued the stock. If any of our stockholders were to bring a lawsuit of this type against us, even if the lawsuit is without merit, we could incur substantial costs in defending the lawsuit. The lawsuit could also divert the time and attention of our management.
We currently lease office and manufacturing facilities in Rockland, Massachusetts, and Roissy, France. Our Rockland, Massachusetts office includes approximately 8,000 square feet of corporate offices and laboratory space pursuant to a seven-year lease expiring in March 2007 at a cost of $13,000 per month. On February 24, 2006, we entered into an amendment to this lease pursuant to which we increased the leased premises to a total area of approximately 13,000 square feet at a monthly cost of $19,500 per month, and the term of the lease is extended through February 28, 2009. Our Roissy, France facility includes approximately 18,000 square feet of office, laboratory and manufacturing space and is leased through May 2010 at a cost of $20,000 per month.
At our facility in France, we produce our Embosphere Microspheres and some ancillary disposable devices. Embosphere Microsphere production includes the synthesis of raw materials and third-party manufactured intermediary compounds. Currently, the final product packaging of our Segway Guidewires, EmboCath Catheters and certain other ancillary products sold in Europe is performed by independent contract manufacturers under FDA Good Manufacturing Practices.
We believe that the leased facilities in Rockland, Massachusetts and in Roissy, France are suitable to meet our current requirements and that suitable additional or substitute space will be available to us on commercially reasonable terms, if needed in the future.
On August 17, 2005, a lawsuit commenced in the Circuit Court, Twenty-Second Judicial Circuit, St. Louis, Missouri captioned Brett Pingel by next friend Dawn LaRose vs. BioSphere Medical, Inc., Bruce Kirke Bieneman, M.D., St. Louis University Hospital, John Stith, M.D and St. Louis University. The lawsuit alleges, among other things, that a patient suffered permanent bilateral blindness as a result of the use of our Embosphere Microspheres in a juvenile nasal angiofibroma embolization or the negligence of the health care providers or both factors combined. All defendants have denied the allegations against them. Plaintiffs seek compensatory and punitive damages. We carry product liability insurance and this case is currently being defended by our insurer under reservation of rights with respect to the claim of punitive damages, for which an exclusion from coverage exists. We have filed an answer to this lawsuit in which we have denied the claims being made. We believe that this lawsuit is without merit and that we have viable defenses to the allegations in the complaint. Accordingly, we intend to defend against the claims vigorously. However, we cannot give any assurance that we will prevail and we are currently unable to predict the impact, financial or otherwise, of this product liability litigation.
No matters were submitted to a vote of security holders of the Company, through solicitations of proxies or otherwise, during the quarter ended December 31, 2005.
As of March 1, 2006, our executive officers, their respective ages and their positions are as follows:
Richard J. Faleschini has served as our President, and Chief Executive Officer since November 2004 and as a director of BioSphere Medical since March 2005. From 2003 to 2004, Mr. Faleschini served as Vice President and General Manager of the gynecology division at American Medical Systems Holdings, Inc., a supplier of medical devices to physicians specializing in the treatment of urological and gynecological disorders. From 1999 to 2003, Mr. Faleschini was Vice President of Marketing and Sales for American Medical Systems Holdings, Inc. From 1995 to 1999, he held executive marketing and general management positions at Medtronic, a medical technology company, with responsibilities in several sectors of their cardiac rhythm management, cardiac surgery, and interventional vascular businesses. His previous experience also includes executive marketing and sales management responsibilities at Cordis Corporation, Biomagnetic Technologies, and ATL/ADR Ultrasound. Mr. Faleschini received his B.S. in biology and M.S. in physiology from Michigan Technological University.
Gary M. Saxton has served as our Executive Vice President and Chief Operating Officer since January 16, 2006. He served as our Senior Vice President and General Manager from March 2005 until January 2006, and served as our Vice President of Marketing and Sales from November 2004 to March 2005. From 2001 to 2004, Mr. Saxton was a strategy consultant in the medical device industry. From 1999 to 2001, he was the Vice President of Sales and Marketing at Symphonix Devices, Inc. and the Vice President of Marketing at CardioGenesis Corporation, both publicly traded medical device companies. Mr. Saxton also previously held several marketing and strategy positions within Medtronic, Inc., both in the United States and Japan, including Director, Strategic Plan and Market Development Manager. He began his private sector career with IBM Corporation in a variety of sales, marketing and finance roles. Before IBM, he served as a Captain in the U.S. Army. Mr. Saxton holds a B.S. degree from the United States Military Academy, West Point, New York, and an M.B.A. from Harvard University, Boston, Massachusetts.
Martin J. Joyce has served as our Executive Vice President and Chief Financial Officer since January 16, 2006. He served as our Chief Financial Officer and Vice President from September 2004 to January 2006. From 2000 to 2004, Mr. Joyce served as Managing Partner of Stratex Group LLC, a provider of biopharmaceutical executive services to early-stage companies and venture investors. From 1996 to 2000, Mr. Joyce was North American Chief Financial Officer for Serono Inc. a biotechnology company. Prior to serving as North American Chief Financial Officer, Mr. Joyce held a variety of senior level positions within Serono, in finance, sales, marketing and manufacturing. Mr. Joyce was previously employed at Millipore and Bose Corporations focusing on strategic planning, product rationalization and return on investment analysis. Mr. Joyce received a B.S. in finance from Northeastern University and an M.B.A. from Suffolk University, Boston, Massachusetts.
Peter C. Sutcliffe has served as our Vice President, Manufacturing since October 2002. From 2001 to 2002, Mr. Sutcliffe served as the Vice President for North American Manufacturing for Whatman, Plc., a life science filtration company. From 1996 to 2001, he was the Chief Operating Officer for HemaSure Inc., a manufacturer and supplier of blood filters. From 1982 to 1996, Mr. Sutcliffe held the position of Vice President of Manufacturing for Corning Costar Company, a life science products company. Prior to Costar, he held manufacturing management positions with Millipore Corporation, a high technology bioscience company. Mr. Sutcliffe holds a B.S. in biology from the University of Richmond in Virginia and an M.B.A. from Sul Ross State University of Texas, Fort Bliss, Texas.
Our common stock trades on the NASDAQ National Market under the symbol BSMD. On March 1, 2006, the last reported sale price of our common stock on the NASDAQ National Market was $7.47 and there were approximately 140 stockholders of record. This number does not include stockholders for whom shares are held in nominee or street name.
The following table shows the range of high and low sales prices per share of our common stock as reported on the NASDAQ National Market for the last two fiscal years.
We have not paid any dividends on our common stock since our inception and do not intend to pay any dividends in the foreseeable future.
The following selected consolidated financial data should be read in conjunction with Managements Discussion and Analysis of Financial Condition and Results of Operations and our financial statements and related notes to those statements and other financial information included elsewhere in this annual report on Form 10-K. Historical results are not necessarily indicative of future results.
The following discussion of our financial condition and results of operations should be read in conjunction with our consolidated financial statements and the related notes included elsewhere in this report. Some of the information contained in this discussion and analysis and set forth elsewhere in this report, including information with respect to our plans and strategy for our business includes forward-looking statements that involve risks and uncertainties. You should review the section titled Risk Factors for a discussion of important factors that could cause actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.
We develop, manufacture and market products for medical applications using embolotherapy techniques. Embolotherapy is the therapeutic introduction of various substances into the circulation to occlude blood vessels, either to arrest or prevent hemorrhaging or to devitalize a structure or organ by occluding its blood supply. Our core technologies consist of patented bioengineered polymers, which are chemical compounds that we create through the application to medical science of engineering principles and manufacturing methods. These core technologies are used to produce miniature spherical beads with unique properties for a variety of applications. Typically, a procedure is performed by an interventional radiologist who injects Embosphere Microspheres through a catheter into the blood vessels that feed these target areas. By selectively blocking the target tissues blood supply, the deprived tissue will either become destroyed or devitalized, designed to result in therapeutic benefit.
In 2005, we generated revenues primarily from product sales of our Embosphere Microspheres in North America and the European Union. We also generated revenues from product sales in other geographic territories, including the Middle East, Africa, South America, and Asia. Product revenues also include the sale of accessory embolotherapy devices such as our EmboCath Infusion Catheter and our Segway Guidewire, as well as our other non-embolotherapy products, including barium delivery kits, and other ancillary medical devices sold exclusively in Europe. We currently derive a majority of our revenues in the United States and the European Union from the sale of Embosphere Microspheres for use in the treatment of uterine fibroids using UFE.
Our principal focus is on growing our Embosphere Microsphere and accessory embolotherapy device business worldwide, specifically for the UFE procedure, which we believe will be a key driver to our success. Our marketing strategy is to promote the UFE procedure for patients suffering with uterine fibroids through our ask4UFE awareness and education program and also to specifically promote our Embosphere Microspheres as the treatment of choice for the UFE procedure. Our success will depend upon the continued acceptance by the medical community, patients and third-party payers of the UFE procedure, and our Embosphere Microspheres product and our other products, as safe, medically therapeutic and cost effective.
We have experienced operating losses in each fiscal period since our inception. As of December 31, 2005, we had approximately $8.77 million in cash and cash equivalents and an accumulated deficit of approximately $78.80 million. Most of our expenditures to date have been for sales and marketing activities, general and administrative expenses and research and development activities. We expect to incur operating losses in 2006 as we execute our business plan, including continuing to establish sales and marketing capabilities and conducting research and development activities.
On March 13, 2006, we announced that we have instituted a voluntary recall of our HepaSphere Microspheres in Europe and Japan to correct a packaging defect that we identified while conducting aging studies routinely performed on all of our product packaging. HepaSphere Microspheres are contained in a prefilled vial that is in turn packaged inside a paper pouch. We determined that a defect in the paper
pouch may compromise the sterility of the outside of the vial. If the sterility of the outside of the vial is not maintained, there is the risk that a physicians hands can become contaminated when handling the vial. We are not aware of any adverse events resulting from the defects in the paper packaging. Sales of HepaSphere Microspheres outside of the United States are expected to resume once a new packaging design is produced and validated.
Research and Development
The following table identifies each of the programs for which we have incurred research and development expenses in the years ended December 31, 2005, 2004 and 2003 and the current development phase of each.
Research and development expenses relate primarily to:
· research to identify and evaluate new and innovative embolotherapy products based on our platform microsphere technology;
· pre-clinical testing and clinical trials of product candidates;
· development related to improving manufacturing processes; and
· product and production facilities validation processes under FDA Current Good Manufacturing Practices.
Total research and development expenses were $2.36 million, $2.11 million and $2.34 million for the years ended December 31, 2005, 2004 and 2003, respectively, representing approximately 11%, 10% and
11% of our total costs and expenses for the years ended December 31, 2005, 2004 and 2003, respectively. Our research and development functions typically work on a number of projects concurrently. In addition, except for clinical expenses, a substantial amount of fixed research and development costs such as salary and salary-related benefits, rent, equipment depreciation, utilities, insurance and maintenance are shared among various programs. Accordingly, we have not historically tracked specific costs for each of our research and development projects.
There is a risk that any medical device development program may not produce revenue. Moreover, because of uncertainties inherent in medical device development, including those factors described above under Risk Factors we may not be able to successfully develop and commercialize the product candidates included in the table above.
We have obtained CE mark approval in the European Union for our HepaSphere Microspheres, which are also in clinical evaluation in Japan. We have exclusive worldwide rights to the HepaSphere Microspheres technology under a license from Dr. Shinichi Hori, subject only to Dr. Horis right to conduct clinical trials on our behalf in Japan, treat patients at Rinku Medical Center and Osaka Medical Center in Japan and engage in research at Osaka University. We have submitted a 510(k) application to the FDA seeking United States marketing clearance for our QuadraSphere Microspheres product candidate for the treatment of hypervascularized tumors and peripheral arteriovenous malformations. Our QuadraSphere Microspheres are identical in all respects to our HepaSphere Microspheres, which are marketed outside of the United States.We are also conducting preclinical research of our MR-Embosphere Microspheres product candidate for use in the treatment of uterine fibroids and liver cancer and of our EmboCath Plus Infusion Microcatheters and Sequitor Steerable Guidewires product candidates. The successful development of these early-stage product candidates is highly uncertain. We cannot reasonably estimate or know the nature, timing and estimated costs of the efforts necessary to complete the development of, or the period in which material net cash inflows are expected to commence from, any of our product candidates due to the numerous risks and uncertainties associated with developing medical devices, including the uncertainty of:
· the scope, rate of progress and cost of clinical trials and other research and development activities undertaken by us;
· future clinical trials results;
· the cost and timing of regulatory approvals;
· the cost and timing of establishing sales, marketing and distribution capabilities;
· the cost of establishing clinical and commercial supplies of our product candidates and any products that we may develop;
· the effect of competing technological and market developments; and
· the cost of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights.
Any failure to complete the development of our product candidates in a timely manner could have a material adverse effect on our operations, financial position and liquidity. A discussion of the risks and uncertainties associated with completing our projects on schedule, or at all, and some consequences of failing to do so are set forth in Risk Factors.
Critical Accounting Policies
The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles
generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets and liabilities, revenues and expenses, and related disclosure at the date of our financial statements. The significant accounting policies which we believe are most critical in gaining an understanding of our financial statements include policies and judgments relating to revenue recognition, accounts receivable, inventories and deferred taxes. Actual results could differ materially from these estimates. Our significant accounting policies are summarized in note B of the notes to our consolidated financial statements. The significant accounting policies which we believe are the most critical to gaining a full understanding of and evaluating our reported financial results include the following:
We comply with the revenue recognition guidelines summarized in Staff Accounting Bulletin, or SAB, No. 104, Revenue Recognition. We recognize revenue when products are shipped and the customer takes ownership and assumes risk of loss, collection of the relevant receivable is reasonably assured, persuasive evidence of an arrangement exists (a valid purchase order from an approved customer), and the sales price is fixed or determinable. Revenue from licensing agreements is recognized ratably over the period of the related agreement. We establish reserves for potential sales returns and evaluate the adequacy of those reserves based upon realized experience. Under our current policy, only those products on a customers initial order qualify for product satisfaction-related credit returns. To date, returns related to product satisfaction have been immaterial. While such returns have historically been within our expectations and the provisions established, we cannot guarantee that we will continue to experience the same return rates that we have in the past. Any significant change in product satisfaction and any resulting credit returns could have a material adverse impact on our operating results for the period or periods in which such returns materialize.
In June 2004 we entered into an exclusive five-month development agreement with a third party for the use of Embosphere Microspheres for GERD. In exchange for this agreement, we received a payment of $100,000. Based upon the application of our revenue recognition policies and all related judgments and estimates, we recognized $100,000 as licensing revenue over the life of the contract, which concluded in November 2004.
We continuously monitor collections and payments from our customers and maintain a provision for estimated credit losses based upon our historical payment experience and any specific customer collection issues that we have identified. While such credit losses have historically been within our expectations and the provisions established, we cannot guarantee that we will continue to experience the same credit loss rates that we have in the past. Substantially all of our receivables are due from hospitals, distributors, health care clinics, and managed care systems located throughout the United States, Canada, Europe, Asia and South America. A significant portion of products sold, both foreign and domestic, is ultimately funded through government reimbursement programs. As a consequence, changes in these programs can have an adverse impact on liquidity and profitability of our customer base.
We value our inventory at the lower of the actual cost to purchase or manufacture the inventory or the market value for such inventory. We regularly review inventory quantities in process and on hand and record a provision for production loss and obsolete inventory based primarily on actual loss experience and on our estimated forecast of product demand. A significant decrease in demand could result in an increase in the amount of excess inventory quantities on hand. In the future, if our inventory is determined to be overvalued, we would be required to recognize such costs in our costs of product sales at the time of such
determination. Although we make every effort to ensure the accuracy of our production process and forecasts of future product demand, any significant unanticipated changes in production yield or product demand could have a significant impact on the value of our inventory and our reported operating results.
Years Ended December 31, 2005 and 2004
Revenue and Margin Overview
Revenues. Revenues increased $4.33 million or 31% in 2005 as compared to 2004 primarily due to the following:
· an increase in revenues from microspheres and delivery systems in the United States of approximately $3.68 million or 41% as Embosphere Microsphere sales volume levels continued to increase as we execute our strategies to grow the UFE business in the United States;
· an increase in revenues from microspheres and delivery systems outside the United States of $635,000 or 22% driven by an increase in Embosphere Microsphere sales volumes in France, Germany and the United Kingdom. In April 2005, we began a year-long patient awareness program in France targeted at potential UFE patients through medical gynecologists offices, which we believe has contributed to the increase in sales volumes; and
· an increase in revenues from other products, which include barium delivery kits and other ancillary products, of approximately $100,000 or 4% as a result of the timing of several hardware sales in the first quarter of 2005.
Offsetting these increases was a decrease in licensing revenue of $100,000 as a result of the conclusion of a five-month agreement for the development of Embosphere Microspheres for the use in the prevention of gastroesphageal reflex disease, or GERD, which began in 2004 did not renew in 2005.
Cost of Product Sales. Cost of product sales for the year ended December 31, 2005 decreased from the year ended December 31, 2004 primarily due to the $1.13 million write-off for work-in-process inventory disposals due to manufacturing process improvements, and product replacements resulting from shelf life limitations that we recorded during 2004 and did not occur in 2005.
The gross margin improvement of 13% as a percentage of revenues for 2005 as compared to 2004 was primarily attributable to the additional costs in 2004 related to the inventory write-off and the increase in sales in 2005 of Embosphere Microspheres in the United States, which provide our highest profit margins. Offsetting these improvements were costs associated with the initial production of our HepaSphere Microsphere product, which we introduced commercially in 2005, and the decrease in licensing revenue.
We expect that future gross margin will be highly correlated with the following factors:
· revenue growth;
· production levels;
· foreign exchange rate movements;
· terms and conditions of subcontracted manufacturer and supplier agreements; and
· future inventory reserve requirements.
Research and Development Expense. Total research and development expense in 2005 increased $246,000 or 12% as we increased spending by approximately $325,000 in support of our latest product, HepaSphere Microspheres, that we introduced commercially in Europe in 2005, and our product candidates, MR-Embosphere Microspheres and our next-generation delivery systems, which increased spending by approximately $60,000 to differentiate Embosphere Microspheres from competitive products. Offsetting these increases in 2005 were lower overhead costs achieved by the consolidation of space in our facility in Rockland, Massachusetts, at the end of the first quarter of 2005. We expect future spending for research and development to increase as we seek to provide further clinical research for our existing and future products.
Sales Expense. Sales expense for 2005 increased $863,000 or 16%. The primary reason for the increase was the higher revenue sales levels and improved performance resulting in higher incentive compensation for our sales personnel.
Marketing Expense. Marketing expense for 2005 decreased $148,000 or 7% from 2004. The decrease was primarily due to the timing of spending on marketing programs over the course of 2005 as compared to 2004. In 2004, such expenses included marketing support of an article on UFE in The Wall Street Journal and other media coverage, including a segment in the television program 20/20. These expenses did not recur at comparable levels in 2005.
General and Administrative and Patent Expense. General, administrative and patent expenses for 2005 increased $65,000, or 2% from 2004. The increase was primarily due to higher patent maintenance costs of approximately $170,000; higher legal costs related to the governance of our French subsidiary and employment issues of approximately $110,000, higher compensation costs for general and administrative personnel of approximately $175,000 and an increase in investor relations activities of approximately $135,000. Offsetting these increases were costs related to the 2004 executive management transition, which did not occur in 2005.
Litigation Costs. In December 2004, we paid damages in a lawsuit brought by Terumo Europe N.V. against our French subsidiary, BioSphere Medical S.A. Terumo alleged that it suffered damages from a purported termination of the distribution contract by BioSphere Medical S.A. BioSphere Medical S.A. and Terumo Europe entered into a distribution agreement in January 2002 pursuant to which Terumo Europe became the exclusive distributor of EmboSphere Microsphere and EmboGold Microsphere products in certain countries of Europe. The Commercial Court of Pontoise, France, determined that while both parties had ceased to perform their obligations under the agreement, we had not terminated the agreement in accordance with its terms. Accordingly, Biosphere Medical S.A. was required to pay Terumo $784,000 in damages for breach of contract in December 2004. The $874,000 charge recorded in the fourth quarter of 2004 includes $90,000 of related accounts receivable written off in addition to the settlement payment.
Interest Income, Net. For the year ended December 31, 2005, interest income, net of interest expense, increased to $210,000 as compared to $76,000 in 2004. The increase in 2005 as compared to 2004 was due primarily to increases in the average daily-invested cash balances and interest rates on available investment grade assets.
Foreign Exchange Gains, Net. Foreign exchange gains and losses primarily resulted from Euro to U.S. dollar foreign currency fluctuations on Euro-denominated intercompany trade accounts. The foreign exchange losses during the year ended December 31, 2005 totaled approximately $444,000 compared to the foreign exchange gains realized of approximately $389,000 in the comparable period of 2004. These changes were primarily the result of fluctuation of the U.S. dollar as compared to the Euro and a decrease in Euro denominated receivables.
Income Tax Provision. The 2005 income tax benefit of $93,000 primarily represents the realization of income tax benefits, as we recovered a portion of the 2001 taxes paid in France. In the first quarter of 2005, we determined that a portion of the benefit reversed in 2004 would be realized. The 2004 income tax provision of $117,000 primarily represents the reversal of income tax benefits recorded during 2002, as we initially determined in the fourth quarter of 2004 that we would not recover a portion of the 2001 taxes paid.
Years Ended December 31, 2004 and 2003
Revenue and Margin Overview
Revenues. The $1.36 million or 11% increase in revenue in 2004 as compared to 2003 was primarily due to the following:
· revenues from microspheres and delivery systems in the United States grew approximately $385,000 due to increasing market acceptance, which we believe is being fueled by increased adoption within the interventional radiologists community, increased awareness among fibroid patents due to media attention and increasing support of gynecologists;
· revenues from microspheres and delivery systems in Europe increased approximately $210,000 due to increased market acceptance of our microspheres and delivery systems;
· revenues from microspheres and delivery systems in the rest of the world increased approximately $180,000 due to our renewed focus on these geographical areas during 2004 and to our obtaining approvals to sell our EmboCath Catheter and Segway Guidewire products in Canada and several other Latin American countries;
· we derived $100,000 of licensing revenue from a five-month agreement for the development of Embosphere Microspheres for use in the prevention of GERD, which concluded in the fourth quarter of 2004; and
· finally, the strengthening of the Euro against the U.S. dollar in 2004 accounted for approximately $420,000 of the increase.
Cost of Product Sales. The $1.09 million or 20% increase in cost of product sales in 2004 as compared to 2003 was primarily due to the following factors:
· we recorded a write-off of approximately $913,000 for in process EmboGold Microsphere and Embosphere Microspheres inventory related to inventory produced prior to the implementation of an improved manufacturing process in our facility in France; and
· we recognized approximately $223,000 in costs of product sales related to product replacement of EmboGold Microsphere and Embosphere syringes. This replacement was due to shelf life limitations of the saline solution contained within the syringes.
The gross margin decrease of $267,000 or 4% as a percent of revenues was primarily attributable to the additional costs related to the write-off of in-process inventory and expenses associated with the product replaced as a result of the shelf limitations discussed above, offset by increased manufacturing efficiencies, net of foreign currency translation adjustments.
Research and Development Expense. The $231,000 or 10% decrease in research and development expenses in 2004 as compared to 2003 was primarily due to a reduction in headcount, which decreased compensation-related expenses by approximately $230,000, after the completion of development related projects in 2003, offset by $50,000 of higher costs in France due to the stronger Euro and an increase in activity on a joint project in France.
Sales Expense. The $570,000 or 10% decrease in sales expense in 2004 as compared to 2003 was due to the elimination of our 2004 national sales meeting, which decreased expense by approximately $200,000, and other savings on personnel costs, including travel and incentive compensation, which decreased expense by approximately $550,000 as selling costs were realigned with realized sales levels in the first half of 2004. Offsetting these decreases were severance and hiring costs in the fourth quarter of 2004, which totaled approximately $400,000, resulting from the departures and addition of certain senior management.
Marketing Expense. The $1.44 million or 39% decrease in marketing expense in 2004 as compared to 2003 was primarily due to the reduction in expenses related to awareness and education programs associated with promoting the UFE procedure through our ask4UFE campaign as well as a reduction in expenses relating to the promotion of Embosphere Microspheres, which decreased expenses by approximately $1.1 million. Additional cost savings in 2004 came from reduced overall headcount, which decreased expenses by approximately $200,000, and from our decision to limit our head count presence at key trade shows as we sought to keep sales representatives focused on their key accounts in the field, which decreased expenses by approximately $250,000.
General, Administrative and Patent Expenses. The $795,000 or 24% increase in general and administrative expenses in 2004 as compared to 2003 was primarily due to the executive transition and severance expenses incurred in the fourth quarter of 2004 in connection with the departure and hiring of certain executives of the Company.
Litigation Costs. In December 2004, we paid damages in a lawsuit brought by Terumo Europe N.V. against our French subsidiary, BioSphere Medical S.A. as described in the previous section.
Interest Income, Net. Interest income, net of interest expense, is generally incurred in relation to capital leases. For the year ended December 31, 2004, interest income, net of interest expense, was $76,000 as compared to $108,000 in 2003, a decrease of 30%. The decrease in 2004 as compared to 2003 was due primarily to decreases in the average daily-invested cash balances and interest rates on available investment grade assets.
Foreign Exchange Gains, Net. Foreign exchange gains and losses primarily resulted from realized Euro to U.S. dollar foreign currency fluctuations on Euro denominated intercompany trade accounts. The foreign exchange gains realized during 2004 totaled approximately $389,000 as compared to gains of approximately $555,000 realized during 2003. The $166,000 decrease was primarily due to higher average intercompany trade receivables, which are denominated in Euros, offset by a decrease in the rate that the Euro strengthened against the dollar during 2004 as compared to 2003.
Income Tax Provision. The 2004 income tax provision of $117,000 primarily represents the reversal of income tax benefits recorded during 2002 as we determined in the fourth quarter of 2004 that a portion of the 2001 taxes paid would not be recovered. The 2003 income tax provision represents minimum corporate taxes due in both France and in the United States.
Liquidity and Capital Resources
As of December 31, 2005, we had $8.77 million of cash and cash equivalents, a decrease of $1.45 million from $10.22 million at December 31, 2004. This decrease was primarily the result of our 2005 operating loss offset by proceeds from stock option exercises by former employees and Euro to U.S. dollar foreign exchange rate changes. We have historically funded our operations from the net proceeds provided by public and private equity offerings, net revenues, bank financing, equipment financing leases and, to a lesser extent, the exercise of stock options.
The net cash used in operating activities includes a net loss of $2.80 million adjusted for $110,000 in working capital changes. Accounts receivable increased $725,000 on higher sales offset by a two-day improvement in days sales outstanding, which decreased to 61 days from 63 days at December 31, 2004.
During 2005, we spent $185,000 to purchase manufacturing equipment at our facility in Roissy, France to produce our michrosphere products, including $75,000 specifically to produce HepaSphere Microspheres, and we spent an additional $140,000 to purchase other equipment to support our existing infrastructure.
Net cash provided by financing activities was $802,000 during 2005, which included $981,000 from employee equity incentive plans and $43,000 from equipment financing offset by scheduled principal payments, such as those on existing lease arrangements, and additional costs associated with our private placement of series A preferred stock in the fourth quarter of 2004.
On February 22, 2006, we sold 2,075,000 shares of the common stock at a price per share of $7.00 to several investors in a private placement. We received net proceeds of approximately $13.40 million.
In September 2005, we entered into a five-year capital lease agreement for the purchase of communication equipment at our facility in Rockland, Massachusetts. The amount of the lease is $43,000, payable over 60 months, at an effective annual interest rate of 8.65%. As of December 31, 2005 there was $41,000 outstanding under this capital lease agreement.
We currently have a credit facility with a bank under which we may borrow up to $3.0 million for general working capital and corporate purposes, subject to limitations defined in the agreement. The credit facility was to expire in June 2005, and in that month we entered into an agreement to extend the credit facility for an additional two years. There were no borrowings outstanding under this agreement as of December 31, 2005. Each available 30-, 60-, 90- or 180-day advance will bear interest at a per annum rate, at our option, equal to either (i) a variable rate as determined by the bank or (ii) a rate equal to the corresponding 30-, 60-, 90- or 180-day LIBOR rate (4.4% as of December 31, 2005) plus a LIBOR advance rate spread as determined by certain current working capital balances at the time of the advance. In connection with the credit facility, we entered into a security agreement pursuant to which we have pledged to the bank all of our U.S. assets, excluding our equity ownership of our subsidiaries, as collateral.
Other Contractual Obligations
As of December 31, 2005, we are party to two operating leases for our facilities in Rockland, Massachusetts and Roissy, France. The Roissy, France operating lease expires in May 2010. On February 24, 2006, we amended the lease for the office and laboratory facility we currently occupy in Rockland, Massachusetts. Pursuant to that amendment, the leased premises has been increased to a total area of approximately 13,000 square feet at a monthly cost of $19,500 per month, and the term of the lease is extended from March 31, 2007 to February 28, 2009. In addition to the capital lease agreement we entered into in September 2005, we are party to several other non-cancelable capital lease agreements with various equipment-financing companies, related to the acquisition of certain manufacturing and computer equipment during 2002 and 2004. The equipment leases have initial terms of 36 to 60 months with interest rates of 4.6% to 8.5%. Equipment leased under these arrangements serves as pledged capital with respect to each capital lease agreement.
Future cash payments, including interest, under contractual obligations in effect as of December 31, 2005, are as follows:
We believe that the approximate $8.77 million in cash and cash equivalents that we have as of December 31, 2005, together with anticipated proceeds from sales of our microspheres, delivery systems and other products, together with the net proceeds of approximately $13.40 million from our placement of 2,075,000 shares of common stock, which was completed on February 22, 2006, will be sufficient to fund our operating and capital requirements, as currently planned through 2007. In the longer term, we expect to fund our operations and sustain capital requirements through a combination of expected proceeds from product sales and capital equipment financing. However, our cash requirements may vary materially from those now planned due to a number of factors, including, without limitation, our failure to achieve expected revenue amounts, costs associated with changes in our UFE marketing programs, anticipated research and development expenses, the scope and results of pre-clinical and clinical testing, changes in the focus and direction of our research and development programs, competitive and technological advances, the timing and results of FDA regulatory review and the markets acceptance of any approved products, including our Embosphere Microspheres for UFE and HepaSphere Microspheres.
We may incur additional costs, including costs related to ongoing research and development activities, pre-clinical studies, clinical trials, the expansion of our manufacturing, laboratory and administrative
functions, as well as costs relating to further market development and commercialization efforts. We may also need additional funds for such activities and for possible strategic acquisitions of synergistic businesses, products and/or technologies. These additional funds may be substantial and raised from time to time through additional public or private sales of equity, through borrowings, or through other financings. There are no assurances that we will be able to obtain any additional funding that may be required, or that any such funding will be on acceptable terms.
Related Party Transactions
We did not have any related party transactions during 2005.
Off-Balance Sheet Arrangements
We do not have any material off-balance sheet arrangements.
We believe that the effects of inflation generally do not have a material adverse impact on our operations or financial condition.
New Accounting Pronouncements
In December 2004, the Financial Accounting Standards Board, or FASB, issued Statement of Financial Accounting Standards, or SFAS, No. 123 (revised 2004), Share-Based Payment which, as revised, we refer to as SFAS 123R. SFAS 123R addresses the accounting for transactions in which an enterprise receives employee services in exchange for (a) equity instruments of the enterprise or (b) liabilities that are based on the fair value of the enterprises equity instruments or that may be settled by the issuance of such equity instruments. SFAS 123R supersedes Accounting Principles Board No. 25, or APB 25, and requires that such transactions be accounted for using a fair value-based method. SFAS 123R requires companies to recognize an expense for compensation cost related to share-based payment arrangements, including stock options and employee stock purchase plans. In April 2005, the SEC announced the adoption of a new rule that amends the compliance dates for SFAS 123R. The SECs new rule requires companies to implement SFAS 123R at the beginning of the next fiscal year that begins after June 15, 2005. Accordingly, we adopted SFAS 123R as of January 1, 2006. We expect to use the modified-prospective transition method and will not restate prior periods for the adoption of SFAS 123R.
As permitted by SFAS No. 123, we currently account for share-based payments to employees using APB 25s intrinsic value method and, as such, generally recognize no compensation cost for employee stock options. Accordingly, the adoption of SFAS 123R fair value method will have a significant impact on our results of operations, although it will have no impact on our overall financial position and cash position. The impact of adoption of SFAS 123R cannot be quantified at this time because it will depend on the level of share-based payments granted in the future, expected volatilities and expected useful lives, among other factors, present at the grant date. However, based on our current assumptions we expect the adoption of SFAS 123R to increase our compensation costs by approximately $1.30 million in 2006.
In November 2004, the FASB issued SFAS No. 151, Inventory Costsan amendment of Accounting Research Bulletin, or ARB, No. 43, Chapter 4, or SFAS 151. SFAS 151 is the result of a broader effort by the FASB to improve the comparability of cross-border financial reporting by working with the International Accounting Standards Board, or IASB, toward development of a single set of high quality accounting standards. The FASB and the IASB noted that ARB No. 43, Chapter 4 and International Accounting Standard No. 2, Inventories, or IAS 2, require that abnormal amounts of idle freight, handling costs, and wasted materials be recognized as period costs; however, the FASB and the IASB noted that differences in the wording of the two standards could lead to inconsistent application of those
similar requirements. The FASB concluded that clarifying the existing requirements in ARB No. 43 by adopting language similar to that used in IAS No. 2 is consistent with its goals of improving financial reporting in the United States and promoting convergence of accounting standards internationally. Adoption of SFAS 151 is required for fiscal years beginning after June 15, 2005. The provisions of SFAS 151 will be applied prospectively. We are currently in the process of evaluating the impact of SFAS 151, but do not expect it will have a material impact on our results of operations and financial position.
Derivative Financial Instruments, Other Financial Instruments, and Derivative Commodity Instruments
As of December 31, 2005, we did not participate in any derivative financial instruments or other financial and commodity instruments. However, in the future, we may consider certain financing instruments, including foreign currency forward contracts, or alternative instruments, which may be considered derivative in nature.
Primary Market Risk Exposures
Our primary market risk exposure is in the area of foreign currency exchange rate risk. We are exposed to currency exchange rate fluctuations related to our operations in France. Operations in France are denominated in the Euro, and as of December 31, 2005, approximately Euro 870,000, or $1.03 million, remained outstanding within the inter-company trade accounts. Accordingly, a hypothetical 10 percent increase in Euro to U.S. dollar conversion rates would result in an approximate $103,000 foreign currency market-to-market change in the fair value of our inter-company trade account balance as of December 31, 2005. We have not engaged in formal currency hedging activities to date, but do have a limited natural hedge in that our revenues and expenses in France are primarily denominated in the Euro. We also attempt to minimize exchange rate risk by converting non-U.S. currency to U.S. dollars as often as practicable. We generally view our investment in foreign subsidiaries operating under a functional currency (the Euro) other than our reporting currency (the U.S. dollar) as long term. Our investment in foreign subsidiaries is sensitive to fluctuations in foreign currency exchange rates. The effect of a change in foreign exchange rates on our net investment in foreign subsidiaries is reflected in the Other accumulated comprehensive loss component of stockholders equity. Because our foreign currency exchange rate risk is not material, no quantitative tabular disclosure has been provided.
The primary objective of our investment activities is to preserve principal while at the same time maximizing the income we receive from our investments without significantly increasing risk. We maintain our portfolio of cash equivalents and short-term investments in money market funds. Due to the conservative nature of our investments, we believe interest rate risk is mitigated.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of BioSphere Medical, Inc. and subsidiaries:
We have audited the accompanying consolidated balance sheets of BioSphere Medical, Inc. and subsidiaries as of December 31, 2005 and 2004, and the related consolidated statements of operations, stockholders equity and comprehensive income (loss), and cash flows for each of the three years in the period ended December 31, 2005. These financial statements are the responsibility of the Companys management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Companys internal control over financial reporting. Our audit included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purposes of expressing an opinion on the effectiveness of the Companys internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of BioSphere Medical, Inc. and subsidiaries at December 31, 2005 and 2004, and the consolidated results of operations, stockholders equity and comprehensive income (loss), and cash flows for each of the three years in the period ended December 31, 2005 in conformity with U.S. generally accepted accounting principles.
INC. AND SUBSIDIARIES
The accompanying notes are an integral part of these consolidated financial statements.
BIOSPHERE MEDICAL, INC. AND SUBSIDIARIES
The accompanying notes are an integral part of these consolidated financial statements.
BIOSPHERE MEDICAL, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY