Annual Reports

 
Quarterly Reports

  • 10-Q (Nov 10, 2009)
  • 10-Q (May 7, 2009)
  • 10-Q (Feb 5, 2009)
  • 10-Q (Nov 6, 2008)
  • 10-Q (May 8, 2008)
  • 10-Q (Feb 7, 2008)

 
8-K

 
Other

Candela 10-Q 2008

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.2
  6. Ex-32.2

Table of Contents

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 


 

FORM 10-Q

 

Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the quarterly period ended September 27, 2008.

 

Commission file number 000-14742

 

CANDELA CORPORATION

(Exact name of registrant as specified in its charter)

 

Delaware

 

04-2477008

(State or other jurisdiction

 

(I.R.S. Employer Identification No.)

of incorporation or organization)

 

 

 

 

 

530 Boston Post Road, Wayland, Massachusetts

 

01778

(Address of principal executive offices)

 

(Zip code)

 

Registrant’s telephone number, including area code:  (508) 358-7400

 


 

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 whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large Accelerated Filer o           Accelerated Filer x         Non-Accelerated Filer o          Smaller reporting company o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule12b-2 of the Exchange Act) Yes  o  No  x

 

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

 

Class

 

November 5, 2008

Common Stock, $.01 par value per share

 

22,868,829

 

 

 



Table of Contents

 

CANDELA CORPORATION

Table of Contents

 

 

 

 

 

Page

Part I.

Financial Information:

 

 

 

 

 

 

 

Item 1.

Unaudited Financial Statements

 

 

 

 

 

 

 

 

 

Condensed Consolidated Balance Sheets as of September 27, 2008 and June 28, 2008

 

3

 

 

 

 

 

 

 

Condensed Consolidated Statements of Income (Loss) and Comprehensive Income (Loss) for the three-month periods ended September 27, 2008 and September 29, 2007

 

4

 

 

 

 

 

 

 

Condensed Consolidated Statements of Cash Flows for the three-month periods ended September 27, 2008 and September 29, 2007

 

5

 

 

 

 

 

 

 

Notes to Condensed Consolidated Financial Statements (Unaudited)

 

6 - 15

 

 

 

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

16 - 20

 

 

 

 

 

 

Item 3.

Quantitative and Qualitative Disclosure about Market Risk

 

21

 

 

 

 

 

 

Item 4.

Controls and Procedures

 

21

 

 

 

 

 

Part II.

Other Information:

 

 

 

 

 

 

 

Item 1.

Legal proceedings

 

22 - 23

 

 

 

 

 

 

Item 6.

Exhibits

 

24

 

 

 

 

 

 

Signatures

 

 

25

 

 

 

 

 

 

Index to Exhibits

 

26

 

2



Table of Contents

 

Part I.  Financial Information

 

Item 1 - Financial Statements

 

CANDELA CORPORATION

Condensed Consolidated Balance Sheets

(in thousands, except per-share data)

(unaudited)

 

 

 

September 27,

 

June 28,

 

 

 

2008

 

2008

 

Assets

 

 

 

 

 

Current assets:

 

 

 

 

 

Cash and cash equivalents

 

$

18,737

 

$

21,030

 

Restricted cash

 

1

 

29

 

Marketable securities

 

8,196

 

12,131

 

Accounts receivable, net of allowance for doubtful accounts of $2,451 and $2,322 at September 27 and June 28, respectively

 

34,435

 

43,320

 

Notes receivable

 

756

 

728

 

Inventories, net

 

35,123

 

33,141

 

Other current assets

 

11,973

 

9,043

 

Total current assets

 

109,221

 

119,422

 

Property and equipment, net

 

4,327

 

4,027

 

Deferred tax assets

 

8,065

 

8,065

 

Goodwill

 

12,988

 

13,225

 

Acquired Intangible assets, net

 

6,535

 

6,916

 

Marketable securities, long-term

 

2,848

 

3,512

 

Other assets

 

2,807

 

2,928

 

Total assets

 

$

146,791

 

$

158,095

 

 

 

 

 

 

 

Liabilities and Stockholders’ Equity

 

 

 

 

 

Current liabilities:

 

 

 

 

 

Accounts payable

 

$

13,520

 

$

15,917

 

Accrued payroll and related expenses

 

4,388

 

4,680

 

Accrued warranty costs, current

 

5,374

 

5,373

 

Sales tax payable

 

1,126

 

919

 

Other accrued liabilities

 

7,411

 

9,257

 

Deferred revenue, current

 

11,342

 

13,614

 

Current liabilities of discontinued operations

 

1,192

 

1,200

 

Total current liabilities

 

44,353

 

50,960

 

Deferred tax liability, long-term

 

2,099

 

2,099

 

Accrued warranty costs, long-term

 

1,039

 

725

 

Deferred revenue, long-term

 

3,823

 

4,522

 

 

 

 

 

 

 

Total liabilities

 

51,314

 

58,306

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

Common stock, $.01 par value, 60,000,000 shares authorized; 26,156,000 and 26,123,000 issued at September 27 and June 28, respectively

 

262

 

261

 

Treasury stock, 3,450,000 common shares at September 27 and June 28, respectively, at cost

 

(24,855

)

(24,855

)

Additional paid-in capital

 

74,128

 

73,174

 

Accumulated earnings

 

41,579

 

45,588

 

Accumulated other comprehensive income

 

4,363

 

5,621

 

Total stockholders’ equity

 

95,477

 

99,789

 

Total liabilities and stockholders’ equity

 

$

146,791

 

$

158,095

 

 

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

 

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Table of Contents

 

CANDELA CORPORATION

Condensed Consolidated Statements of Income (Loss) and Comprehensive Income (Loss)

(in thousands, except per-share data)

 

 

 

For the three months ended:

 

 

 

September 27,

 

September 29,

 

 

 

2008

 

2007

 

 

 

(Unaudited)

 

Revenue

 

 

 

 

 

Lasers and other products

 

$

17,241

 

$

26,824

 

Product-related service

 

9,632

 

8,649

 

Total revenue

 

26,873

 

35,473

 

Cost of sales

 

 

 

 

 

Lasers and other products

 

8,777

 

12,312

 

Product-related service

 

7,519

 

5,885

 

Total cost of sales

 

16,296

 

18,197

 

 

 

 

 

 

 

Gross profit

 

10,577

 

17,276

 

Operating expenses:

 

 

 

 

 

Selling, general and administrative

 

14,974

 

15,028

 

Research and development

 

2,824

 

2,996

 

Total operating expenses

 

17,798

 

18,024

 

 

 

 

 

 

 

Loss from operations

 

(7,221

)

(748

)

Other income (expense):

 

 

 

 

 

Interest income

 

243

 

463

 

Other income (expense), net

 

(261

)

741

 

Total other income (expense)

 

(18

)

1,204

 

(Loss) income before income taxes

 

(7,239

)

456

 

(Benefit from) provision for income taxes

 

(3,230

)

269

 

Net (loss) income

 

$

(4,009

)

$

187

 

 

 

 

 

 

 

Net (loss) income per share of common stock

 

 

 

 

 

Basic

 

$

(0.18

)

$

0.01

 

Diluted

 

$

(0.18

)

$

0.01

 

 

 

 

 

 

 

Weighted average shares outstanding:

 

 

 

 

 

Basic

 

22,697

 

22,905

 

Diluted

 

22,697

 

23,105

 

 

 

 

 

 

 

Net (loss) income

 

$

(4,009

)

$

187

 

Other comprehensive income (loss):

 

 

 

 

 

Foreign currency translation adjustment

 

(1,258

)

772

 

Unrealized gain (loss) on available-for-sales securities, net of tax

 

 

(262

)

Comprehensive (loss) income

 

$

(5,267

)

$

697

 

 

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

 

4



Table of Contents

 

CANDELA CORPORATION

Condensed Consolidated Statements of Cash Flows

(in thousands)

(unaudited)

 

 

 

For the three months ended:

 

 

 

September 27,

 

September 29,

 

 

 

2008

 

2007

 

Cash flows from operating activities:

 

 

 

 

 

Net (loss) income

 

$

(4,009

)

$

187

 

Adjustments to reconcile net (loss) income to net cash used by operating activities:

 

 

 

 

 

Share-based compensation expense

 

893

 

857

 

Depreciation and amortization

 

765

 

647

 

Provision for bad debts

 

604

 

488

 

Other non-cash items

 

(71

)

184

 

Changes in operating assets and liabilities

 

 

 

 

 

Accounts receivable

 

8,569

 

(1,632

)

Notes receivable

 

(25

)

342

 

Inventories

 

(1,961

)

(1,094

)

Other current assets

 

287

 

(1,572

)

Other assets

 

1

 

2,468

 

Accounts payable

 

(1,801

)

2,701

 

Accrued payroll and related expenses

 

(205

)

(548

)

Deferred revenue

 

(2,689

)

980

 

Accrued warranty costs

 

508

 

(858

)

Income taxes payable and deferred

 

(3,230

)

(180

)

Other accrued liabilities

 

(1,244

)

(4,087

)

Restricted cash

 

28

 

2

 

 

 

 

 

 

 

Net cash used by operating activities

 

(3,580

)

(1,115

)

 

 

 

 

 

 

Cash flows from investing activities:

 

 

 

 

 

Purchases of property and equipment

 

(620

)

(744

)

Maturities of held-to-maturity marketable securities

 

3,484

 

1,978

 

Purchases of held-to-maturity marketable securities

 

 

(4,856

)

Acquisition of intangible assets

 

 

(75

)

 

 

 

 

 

 

Net cash provided by (used by) investing activities

 

2,864

 

(3,697

)

 

 

 

 

 

 

Cash flows from financing activities:

 

 

 

 

 

Proceeds from the issuance of common stock

 

55

 

93

 

Purchase of treasury stock

 

 

(2,400

)

 

 

 

 

 

 

Net cash provided by (used by) financing activities

 

55

 

(2,307

)

 

 

 

 

 

 

Effect of exchange rates on cash and cash equivalents

 

(1,632

)

772

 

 

 

 

 

 

 

Net decrease in cash and cash equivalents

 

(2,293

)

(6,347

)

 

 

 

 

 

 

Cash and cash equivalents at beginning of period

 

21,030

 

27,152

 

 

 

 

 

 

 

Cash and cash equivalents at end of period

 

$

18,737

 

$

20,805

 

 

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

 

5



Table of Contents

 

Candela Corporation

Notes to Condensed Consolidated Financial Statements (unaudited)

 

1.                   Basis of Presentation and Consolidation

 

Basis of Presentation

 

The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. The year-end consolidated balance sheet is derived from our audited financial statements, but does not include all disclosures required by accounting principles generally accepted in the United States of America. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments, consisting only of those of a normal recurring nature, considered necessary for a fair presentation of our financial position, results of operations and cash flows at the dates and for the periods indicated. Actual results may differ from these estimates.

 

The results for the three-month period ended September 27, 2008 are not necessarily indicative of results to be expected for the remainder of the fiscal year. The information contained in the interim financial statements should be read in conjunction with Management’s Discussion and Analysis and the financial statements and notes thereto included in the Candela Corporation 2008 Form 10-K filed with the Securities and Exchange Commission (“SEC”).

 

Basis of Consolidation

 

The financial statements include the accounts of Candela Corporation and its subsidiaries. Inter-company transactions and balances have been eliminated. Investments in which we are not able to exercise significant influence over the investee are accounted for under the cost method.

 

Significant Accounting Policies

 

As required, the Company adopted SFAS No. 157 for its financial assets on June 29, 2008 (Note 2).  Adoption does not have a material impact on the Company’s financial position or results of operations at this time.

 

There have been no other changes in our significant accounting policies during the three months ended September 27, 2008 as compared to the significant accounting policies described in our Annual Report on Form 10-K for the fiscal year ended June 28, 2008.

 

2.                   Recent Accounting Pronouncements

 

In April 2008, the Financial Accounting Standards Board (“FASB”) finalized FASB Staff Position (“FSP”) No. 142-3, Determination of the Useful Life of Intangible Assets. The position amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FASB Statement of Financial Accounting Standard (“SFAS”) No. 142, Goodwill and Other Intangible Assets. The position applies to intangible assets that are acquired individually or with a group of other assets and both intangible assets acquired in business combinations and asset acquisitions. FSP 142-3 is effective for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. We are currently evaluating the impact of the pending adoption of FSP 142-3 on our consolidated financial statements.

 

In March 2008, the FASB issued SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities an amendment of FASB Statement No. 133. SFAS No. 161 requires disclosures of how and why an entity uses derivative instruments, how derivative instruments and related hedged items are accounted for and how derivative instruments and related hedged items affect an entity’s financial position, financial performance, and cash flows. SFAS No. 161 is effective for fiscal years beginning after November 15, 2008, with early adoption permitted. We are currently evaluating the impact of the pending adoption of SFAS No. 161 on our consolidated financial statements.

 

In December 2007, the FASB issued SFAS No. 141 (revised “R”), Business Combinations. This standard changes the accounting for business combinations by requiring that an acquiring entity measures and recognizes identifiable assets acquired and liabilities assumed at the acquisition date fair value with limited exceptions. The changes include the treatment of acquisition related transaction costs, the valuation of any non-controlling interest at acquisition date fair value, the recording of acquired contingent liabilities at acquisition date fair value and the subsequent re-measurement of such liabilities after acquisition date, the recognition of capitalized in-process research and development, the accounting for acquisition-related restructuring cost accruals

 

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Table of Contents

 

subsequent to acquisition date, and the recognition of changes in the acquirer’s income tax valuation allowance. SFAS No. 141(R) is effective for fiscal years beginning after December 15, 2008, with early adoption prohibited. We are currently evaluating the impact of the pending adoption of SFAS No. 141(R) on our consolidated financial statements. The accounting treatment related to pre-acquisition uncertain tax positions will change when SFAS No. 141(R) becomes effective, which will be in first quarter of our fiscal year 2010. At such time, any changes to the recognition or measurement of uncertain tax positions related to pre-acquisition periods will be recorded through income tax expense, where currently the accounting treatment would require any adjustment to be recognized through the purchase price.

 

In February 2007, the FASB issued Statement of Financial Accounting Standards (“SFAS”) No. 159, The Fair Value Option for Financial Assets and Financial Liabilities, including an amendment of SFAS No. 115. SFAS No. 159 permits companies to choose to measure certain financial instruments and certain other items at fair value and requires unrealized gains and losses on items for which the fair value option has been elected to be reported in earnings. SFAS No. 159 is effective for fiscal years beginning after November 15, 2007. Adoption does not have a material impact on the Company’s financial position or results of operations at this time.

 

In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements. SFAS No. 157 establishes a framework for measuring the fair value of assets and liabilities. This framework is intended to provide increased consistency in how fair value determinations are made under various existing accounting standards which permit, or in some cases require, estimates of fair market value. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. In February 2008, the FASB issued FSP No. FAS 157-1, Application of SFAS No. 157 to SFAS No. 13 and Other Accounting Pronouncements That Address Fair Value Measurements for Purposes of Lease Classification or Measurement under SFAS No. 13, and FSP No. FAS 157-2, Effective Date of SFAS No. 157. Collectively, the FSPs defer the effective date of SFAS No. 157 to fiscal years beginning after December 15, 2008, for non-financial assets and non-financial liabilities except for items that are recognized or disclosed at fair value on a recurring basis at least annually, and amends the scope of SFAS 157. As required, the Company adopted SFAS No. 157 for its financial assets on June 29, 2008.  Adoption does not have a material impact on the Company’s financial position or results of operations at this time. The Company has not yet determined the impact on its financial statements of the June 28, 2009 adoption of SFAS No. 157 as it pertains to non-financial assets and liabilities.

 

SFAS No. 157 establishes a fair value hierarchy that requires the use of observable market data, when available, and prioritizes the inputs to valuation techniques used to measure fair value in the following categories:

 

·                 Level 1 - Valuation is based upon quoted prices for identical instruments traded in active markets. Level 1 instruments include securities traded on active exchange markets, such as the New York Stock Exchange.

 

·                 Level 2 - Valuation is based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-based valuation techniques for which all significant assumptions are observable in the market.

 

·                 Level 3 - Valuation is generated from model-based techniques that use significant assumptions not observable in the market. These unobservable assumptions reflect our own estimates of assumptions market participants would use in pricing the asset or liability.

 

Our cash and cash equivalents consist of cash on deposit at various financial institutions at September 27, 2008 and include approximately $3.3 million invested in money market funds valued using Level 1 inputs. We do not have any financial assets or liabilities that require disclosure of fair value at September 27, 2008.

 

3.      Discontinued Operations

 

On September 27, 2003 management initiated a plan to close its only remaining skin care center. The closure was accounted for as a discontinued operation in accordance with SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets and SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities. In determining the amount of the facilities closure accrual, we are required to estimate such factors as future vacancy rates, the time required to sublet properties and sublease rates. These estimates are reviewed quarterly and may result in revisions to established facility reserves.

 

Current liabilities of discontinued operations consist of the following:

 

 

 

September 27,

 

June 28,

 

(in thousands)

 

2008

 

2008

 

Facility closure and other costs

 

$

353

 

$

361

 

Deferred revenue, gift certificates

 

839

 

839

 

 

 

$

1,192

 

$

1,200

 

 

4.                  Stock-based Compensation

 

Effective July 3, 2005, the Company implemented the fair value recognition provisions of SFAS No. 123 revised (“SFAS No. 123R”) and Staff Accounting Bulletin 107 (“SAB 107”) for all share-based compensation that was not vested as of July 2, 2005. The Company adopted SFAS No. 123R using a modified prospective application, as permitted under SFAS No. 123R. Accordingly, prior period amounts were not restated.  Under this application, the Company is required to record compensation

 

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Table of Contents

 

expense for all awards granted after the date of adoption and for the unvested portion of previously granted awards that remain outstanding at the date of adoption. Compensation cost is being recognized over the period that an employee provides service in exchange for the award.

 

The application of SFAS No. 123R and SAB 107 during the three-month periods ended September 27, 2008 and September 29, 2007 resulted in the recognition of share-based compensation expense of approximately $0.9 million for each period, respectively. These expenses were divided between cost of sales and operating expense cost centers based upon the functional responsibilities of the individuals holding the respective options.

 

As of September 27, 2008, there was approximately $3.1 million of total unrecognized compensation cost related to non-vested stock options/Stock Appreciation Rights (“SARs”) granted under the Company’s incentive plans. This cost is expected to be recognized over a weighted-average period of 1.3 years. As of September 29, 2007, there was approximately $6.1 million of total unrecognized compensation cost related to non-vested stock options granted under the Company’s incentive plans.

 

The amount of cash received from the exercise of stock options for the three-month periods ended September 27, 2008 and September 29, 2007 was approximately $18,000 and $0.1 million, respectively.

 

Stock Plans

 

1990 Candela Corporation Employee Stock Purchase Plan

 

The 1990 Employee Stock Purchase Plan (the “Purchase Plan”) provides for the sale of up to 1.5 million shares of common stock to eligible employees. The shares are issued at 85% of the market price on the last day of semi-annual periods. Substantially all full-time employees are eligible to participate in the Purchase Plan. At September 27, 2008 there were approximately 622,000 shares available for sale. Compensation expense for the purchase plan is recognized over the vesting period.

 

1998 Candela Corporation Amended and Restated Stock Plan

 

Effective December 12, 2006, the Third Amended and Restated 1998 Stock Plan (the “1998 Stock Plan”) was amended, by affirmative vote at the Company’s Annual Meeting of Shareholders held on the same date, to increase the number of shares for which options and rights could be granted by 2.5 million shares to a maximum of 7.8 million shares.

 

Stock options provide the holder with the right to purchase common stock. The exercise price per share of “incentive stock options” within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended, granted under the 1998 Stock Plan may not be less than the fair market value per share of common stock on the date of grant.  In the case of an incentive stock option granted to an employee possessing more than 10% of the total combined voting power of all classes of stock of the Company, the exercise price per share may not be less than 110% of the fair market value per share of common stock on the date of grant.

 

SARs provide the holder the right to receive an amount, payable in stock, cash or in any combination of these, as specified by a Committee established by the Board of Directors, equal to the excess of the market value of our common shares on the date of exercise over the grant price at the time of the grant. The grant price of a SAR may not be less than the fair market value per share of common stock on the date of grant, provided that the grant price of SARs granted in tandem with stock options shall equal the exercise price of the related stock option. None of the options/SARs outstanding at September 27, 2008 had cash-settlement features.

 

Options and rights granted under the 1998 Stock Plan become exercisable on the date of grant or in installments, as specified by a Committee established by the Board of Directors, and expire ten years from the date of the grant. Upon exercise of a SAR, only the net number of shares of common stock issued in connection with such exercise shall be deemed “issued” for this purpose. The Company may satisfy the awards upon exercise with either newly-issued or treasury shares.

 

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There were approximately 0.6 million stock-based SARs granted during the three-month period ended September 27, 2008. The SARs granted to employees become exercisable ratably over one to four years, while the SARs granted to directors become exercisable over two years.

 

There were approximately 4.3 million outstanding options/SARs at September 27, 2008 with a weighted-average exercise price of $8.17 per share, an aggregate intrinsic value of less than $0.1 million, and a weighted-average remaining contractual term of 7.93 years.

 

Of the total 4.3 million outstanding options/SARs, there were approximately 1.8 million of exercisable options/SARs at September 27, 2008 with a weighted-average exercise price of $10.48 per share, an aggregate intrinsic value of less than $0.1 million, and a weighted-average remaining contractual term of 6.39 years.

 

The total intrinsic value of options exercised during the three-month period ended September 27, 2008 was approximately $18,000.

 

The 1998 Stock Plan expired pursuant to its terms on September 18, 2008. As such, there were no options/SARs available for grant at September 27, 2008.

 

5.                   Earnings or loss per Share

 

Basic earnings or loss per share is computed by dividing net income or loss by the weighted average number of shares of common stock outstanding for the period. If there are dilutive securities, diluted earnings per share is computed by including common stock equivalents outstanding for the period in the denominator. Common stock equivalents include shares issuable upon the exercise of stock options or warrants, net of shares assumed to have been purchased with the proceeds, using the treasury stock method.

 

 

 

For the three months ended:

 

 

 

September 27,

 

September 29,

 

(in thousands, except per share data)

 

2008

 

2007

 

Shares used in the calculation of Basic earnings per share

 

22,697

 

22,905

 

Effect of dilutive securities: Stock options/SAR’s

 

 

200

 

Diluted shares used in the calculation of earnings per share

 

22,697

 

23,105

 

 

During the three-month period ended September 27, 2008, potential common shares consisting of all shares issuable upon exercise of stock options/SARs have been excluded from the computation of diluted loss per share as their effect would have been anti-dilutive.

 

During the three-month period ended September 29, 2007, options/SARs to purchase approximately 2.4 million shares of common stock were excluded from the calculations of diluted earnings per share as their effect would have been anti-dilutive.

 

6.                  Marketable Securities

 

The Company accounts for marketable securities in accordance with SFAS 115, Accounting for Certain Investments in Debt and Equity Securities. SFAS 115 establishes the accounting and reporting requirements for all debt securities and for investments in equity securities that have readily determinable fair values.  All marketable securities must be classified as one of the following: held-to-maturity, available-for-sale, or trading.

 

The Company classifies its marketable debt securities as held-to-maturity when the Company has the intent and ability to hold them to maturity. Held-to-maturity debt securities are reported at amortized cost which approximates fair value. Current marketable securities include debt investments with original maturities that are expected to mature in more than three months and less than or equal to twelve months and equity investments. Long-term marketable securities include debt securities that have remaining maturities of one to three years. Unrealized losses related to the held-to-maturity securities are not considered a permanent decline in the market value of such securities.

 

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Table of Contents

 

Marketable securities consist of the following:

 

 

 

September 27, 2008

 

June 28, 2008

 

(in thousands)

 

Net Carrying
Amount

 

Fair Value

 

Unrealized
gain (loss)

 

Net Carrying
Amount

 

Fair Value

 

Unrealized
gain (loss)

 

Short-term (Held-to-maturity):

 

 

 

 

 

 

 

 

 

 

 

 

 

Government-backed securities

 

$

6,000

 

$

6,013

 

$

13

 

$

9,000

 

$

9,055

 

$

55

 

Certificates of deposit

 

2,196

 

2,201

 

5

 

3,131

 

3,134

 

3

 

Total marketable securities, short-term

 

$

8,196

 

$

8,214

 

$

18

 

$

12,131

 

$

12,189

 

$

58

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term (Held-to-maturity):

 

 

 

 

 

 

 

 

 

 

 

 

 

Government-backed securities

 

$

2,000

 

$

2,003

 

$

3

 

$

2,000

 

$

2,014

 

$

14

 

Certificates of deposit

 

848

 

840

 

(8

)

1,512

 

1,502

 

(10

)

Total marketable securities, long-term

 

$

2,848

 

$

2,843

 

$

(5

)

$

3,512

 

$

3,516

 

$

4

 

 

Held-to-maturity investments at September 27, 2008 mature as follows:

 

 

 

Fiscal Year Ended

 

 

 

(in thousands)

 

2009

 

2010

 

Total

 

Government-backed securities

 

$

6,000

 

$

2,000

 

$

8,000

 

Certificates of deposit

 

2,196

 

848

 

3,044

 

 

 

 

 

 

 

 

 

 

 

$

8,196

 

$

2,848

 

$

11,044

 

 

7.                   Inventories

 

Inventories consist of the following:

 

 

 

September 27,

 

June 28,

 

(in thousands)

 

2008

 

2008

 

Raw materials

 

$

14,772

 

$

13,720

 

Work in process

 

1,813

 

1,635

 

Finished goods

 

18,538

 

17,786

 

 

 

$

35,123

 

$

33,141

 

 

8.      Property and Equipment

 

Property and equipment consists of the following:

 

 

 

September 27,

 

June 28,

 

(in thousands)

 

2008

 

2008

 

Leasehold improvements

 

$

1,013

 

$

1,014

 

Office furniture

 

688

 

718

 

Computers, software, and other equipment

 

12,467

 

11,845

 

 

 

$

14,168

 

$

13,577

 

Less: accumulated depreciation

 

(9,841

)

(9,550

)

Property and equipment, net

 

$

4,327

 

$

4,027

 

 

Depreciation expense was approximately $0.3 million for each of the three-month periods ended September 27, 2008 and September 29, 2007, respectively.

 

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9.      Goodwill and Acquired Intangible Assets

 

Goodwill and acquired intangible assets consist of the following:

 

(in thousands)

 

September 27,
2008

 

June 28,
2008

 

Goodwill

 

$

12,988

 

$

13,225

 

Intangible assets with finite lives:

 

 

 

 

 

Patents

 

$

3,128

 

$

3,128

 

Developed technology

 

6,009

 

6,009

 

 

 

9,137

 

9,137

 

Accumulated amortization:

 

 

 

 

 

Patents

 

(1,016

)

(886

)

Developed technology

 

(1,586

)

(1,335

)

 

 

(2,602

)

(2,221

)

Intangible assets with finite lives, net

 

$

6,535

 

$

6,916

 

 

The changes in the carrying amount of goodwill for the three-month period ended September 27, 2008 are as follows:

 

 

 

(in thousands)

 

Balance at June 28, 2008

 

$

13,225

 

 

 

 

 

Effect of foreign currency adjustments

 

(237

)

Balance at September 27, 2008

 

$

12,988

 

 

Amortization expense was approximately $0.4 for each of the three-month periods ended September 27, 2008 and September 29, 2007, respectively.

 

10.             Derivative Instruments and Hedging Activity

 

The Company enters into financial instruments to reduce its exposure to fluctuations in foreign exchange rates by creating offsetting positions through the use of foreign currency forward contracts.  Changes to the fair value of derivative contracts that do not qualify for hedge accounting are reported in other income (expense) in the period of the change. For derivatives that qualify for hedge accounting, the Company recognizes the instruments as either assets or liabilities in the statement of financial position and measures those instruments at fair value. Changes in the fair value of the derivatives are recorded in shareholders’ equity as a component of other comprehensive income along with an offsetting adjustment against the basis of the derivative instrument itself. None of the aforementioned derivatives qualified for hedge accounting at September 27, 2008.

 

The Company had four foreign currency forward contracts outstanding at September 27, 2008 in the notional amount of approximately 2.8 million Euros or approximately $4.1 million. These derivative contracts serve to mitigate the foreign currency risk of a substantial portion of our Euro-denominated inter-company balances at September 27, 2008. None of the aforementioned derivatives qualified for hedge accounting at September 27, 2008.

 

11.             Warranty Reserve

 

The Company’s products generally carry a standard warranty. The Company maintains a reserve based on anticipated warranty claims at the time product revenue is recognized. Factors that affect the Company’s product warranty liability include the number of installed units, the anticipated cost of warranty repairs and historical and anticipated rates of warranty claims.

 

The following table reflects changes in the Company’s accrued warranty account during the three-month periods ended September 27, 2008 and September 29, 2007, respectively:

 

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For the three months ended:

 

 

 

September 27,

 

September 29,

 

(in thousands)

 

2008

 

2007

 

Beginning balance

 

$

6,098

 

$

7,613

 

Incremental accruals on current sales

 

1,964

 

1,173

 

Amortization of prior-period accruals

 

(1,649

)

(2,031

)

Ending balance

 

$

6,413

 

$

6,755

 

 

12.             Deferred Revenue

 

The Company offers extended service contracts that may be purchased for periods from one to five years. The Company recognizes service contract revenue ratably over the life of the contract. Actual service contract expenses incurred and charged to service costs of sales during an interim period may be more or less than the amount of amortized service contract revenue recognized in that period.

 

Revenues are recognized when a signed non-cancelable purchase order exists, the product is shipped, title and risk have passed to the customer, the fee is fixed or determinable, and collection is considered probable. Circumstances which generally preclude the immediate recognition of revenue include shipping terms of FOB destination or the existence of a customer acceptance clause in a contract based upon customer inspection of the product. In these instances, revenue is deferred until adequate documentation is obtained to ensure that these criteria have been fulfilled.

 

The following table reflects changes in the Company’s deferred revenue account during the three-month periods ended September 27, 2008 and September 29, 2007, respectively:

 

 

 

For the three months ended:

 

 

 

September 27,

 

September 29,

 

(in thousands)

 

2008

 

2007

 

Beginning balance

 

$

18,136

 

$

13,751

 

Deferral of new sales

 

3,937

 

5,189

 

Recognition of previously deferred revenue

 

(6,908

)

(4,209

)

Ending balance

 

$

15,165

 

$

14,731

 

 

13.    Common Stock Buyback

 

325,000 shares of common stock were purchased for approximately $2.4 million during the three-month period ended September 29, 2007.

 

14.    Commitments and Contingencies

 

The Company has an agreement with the Regents of the University of California (“Regents”) for exclusive license rights to the Dynamic Cooling Device (“DCD”), subject to certain limited license rights of Cool Touch, Inc. (“Cool Touch”), in the following fields of use: procedures that involve skin resurfacing and rejuvenation, vascular skin lesions, and laser hair removal. Cool Touch, a subsidiary of New Star Technology, Inc., obtained a license to the DCD on a co-exclusive basis with the Company, in certain narrower fields of use.

 

The Company’s agreement with the Regents called for an annual license fee of $0.3 million and a minimum annual royalty obligation of $1 million or 3%, whichever is greater. The multi-year annual fee of $0.3 million was paid to the Regents in a lump sum of $3.0 million and is being amortized over the remaining life of the patent agreement, which as of September 27, 2008 was less than seven years. The royalty and the amortization of the annual license fee payment are reflected in the Company’s consolidated statement of income. The unamortized portion of the license fee payment is reflected in other current assets and in other assets at September 27, 2008 and June 28, 2008, respectively.

 

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15.             Income Taxes

 

The Company adopted the provisions of FIN 48 effective July 1, 2007. FIN 48 addresses the accounting for and disclosure of uncertainty in income tax positions by prescribing a minimum recognition threshold that a tax position is required to satisfy before being recognized in the financial statements. FIN 48 also provides guidance on de-recognition, measurement, classification, interest and penalties, accounting in interim periods, disclosure and transition.

 

The cumulative effect of adopting FIN 48 was a decrease in tax reserves of approximately $0.1 million, resulting in an offsetting increase to the July 1, 2007 Retained Earnings balance.

 

The Company files income tax returns in the United States (“U.S.”) on a federal basis and in many U.S. state and foreign jurisdictions. The three most significant tax jurisdictions are the U.S., Spain, and Japan. The associated tax filings remain subject to examination by applicable tax authorities for a certain length of time following the tax year to which those filings relate. The 2006 and 2007 fiscal tax years remain subject to examination by the IRS for U.S. federal tax purposes, our 2004 through 2007 fiscal tax years remain subject to examination by the appropriate governmental agencies for Spanish and Japanese tax purposes.

 

16.             Legal Proceedings

 

The Company is currently involved in three litigation matters with Palomar Medical Technologies, Inc. (“Palomar”).

 

·      Palomar asserts that it is the exclusive licensee from The General Hospital Corporation (“Mass. General”) of U.S. Patent No. 5,735,844 (the “‘844 Patent”) and U.S. Patent No. 5,595,568, which is related to the ‘844 Patent (the “‘568 Patent”).  On August 9, 2006, Palomar filed suit against the Company in the United States District Court for the District of Massachusetts, asserting willful infringement by the Company of U.S. Patent No. 5,735,844. Palomar seeks compensatory and treble damages, as well as attorneys’ fees and injunctive relief. In November 2006, the Company answered the complaint by denying Palomar’s allegations and asserting a variety of affirmative defenses and counterclaims against Palomar. This response included a counterclaim by the Company against Palomar seeking a declaratory judgment that United States patent No. 5,595,568 (“the ‘568 Patent”) is either invalid, or products manufactured by the Company do not infringe the ‘568 Patent, or both. In November 2006, Palomar filed an answer denying the Company’s counterclaim. In February 2007, Palomar moved to amend its Complaint to add The General Hospital Corporation as a party, to add a claim for infringement by Candela of the ‘568 patent, and to allege that additional Candela products infringe the ‘568 Patent. Palomar’s motion to amend its Complaint was granted in August 2007. In February 2007, Candela moved to amend its Answer and Counterclaims to add allegations of inequitable conduct, double-patenting and violation of Mass. Gen. Laws Ch. 93A by Palomar. The Company’s motion to amend its complaint was granted in March 2007. Palomar filed a general denial response to Candela’s Amended Answer and Counterclaim in March 2007. In August 2007, the parties had a Markman hearing before the U.S. District Court Judge presiding over the above-described legal proceeding. In a Markman hearing, the Court interprets the definition of the disputed claim term of a patent. Pre-trial fact discovery has ended and the parties are in the midst of exchanging expert reports. No trial date has been established, but on October 31, 2008, the Company requested a stay of the case with the Court.  The Company did so based

 

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Table of Contents

 

upon a third party’s re-examination request that was granted by the United States Patent and Trademark Office on August 29, 2008. The re-examination is with respect to both the ‘568 and ‘844 patents, including many of the Claims at issue in this case.

 

·                  On August 10, 2006, the Company filed suit against Palomar in the United States District Court for the District of Massachusetts, asserting willful infringement by Palomar of U.S. Patent Nos. 6,659,999, 5,312,395 (the “395 Patent”), and 6,743,222 (the “‘222 Patent”). The Company seeks compensatory and treble damages for the patent infringement, as well as attorneys’ fees and an injunction against Palomar to prevent Palomar’s continuing infringement. The Company served its complaint on Palomar in August 2006. In October 2006, the Company amended the Company’s suit against Palomar by removing from the suit allegations that Palomar infringes Patent 6,659,999. In October 2006, Palomar answered the Company’s amended complaint by denying the Company’s allegations and asserting an affirmative defense of inequitable conduct with respect to the ‘395 Patent. In addition, Palomar filed a demand for a declaratory judgment seeking a judicial determination that Palomar products either do not infringe the ‘395 Patent and ‘222 Patent or that such patents are invalid. In November 2006, the Company answered the counterclaim by denying Palomar’s allegations. In February 2008, Palomar filed a request for re-examination of the Company’s ‘222 Patent with the United States Patent and Trademark Office (“PTO”). In March 2008, the PTO granted re-examination. In June 2008, the Court stayed the case until the PTO rules on the re-examination.

 

·                  In December 2006, the Company filed suit against Palomar in the United States District Court for the Eastern District of Texas, Lufkin Division, asserting that Palomar infringes one or more claims of United States patents Nos: 5,810,801, 6,659,999 and 6,120,497. The Company sought compensatory and treble damages for past infringement, as well as attorneys’ fees and an injunction against Palomar from future infringement. In January 2007, Palomar answered the complaint by denying the Company’s allegations and filing a declaratory judgment motion seeking a court ruling that it did not infringe such patents and/or that such patents were invalid. In addition, Palomar filed a motion to transfer the case to the United States District Court for the District of Massachusetts. In February 2007, the Company added Massachusetts General Hospital as a party to its action. The Court denied Palomar’s motion to transfer the case to Massachusetts. The parties had a six day trial, beginning on September 29, 2008.  At trial, the Company alleged that Claims 11-14 of the 5,810,801 Patent was infringed by Palomar’s Lux 1540, Lux1540Z, LuxIR and Lux DeepIR.  On October 7, 2008, the jury returned a verdict in favor of Palomar. The jury found that none of the alleged Palomar products infringe on Claims 11-14 of the Company’s 5,810,801 patent and that all such Claims are invalid. The Company has filed a Judgment as a Matter of Law motion with the Court in an attempt to reverse the invalidity ruling.

 

While the Company intends to vigorously contest Palomar’s allegations, and to pursue its own claims against Palomar, each lawsuit is inherently uncertain and unpredictable as to its ultimate outcome. An adverse outcome in Palomar’s suit against the Company would materially hurt the Company’s business, financial condition, results of operations and cash flows.

 

·                  On April 2 and April 22, 2008, respectively, two substantially similar putative class action lawsuits, entitled Western Pa. Elec. Employees Pension Fund, et al., 1:08-cv-10551-DPW (“Western Pa.”) and Caballero v. Candela Corp., et al., Civ. No. 1:08-cv-10673-DPW (“Caballero”), were filed against Candela and two of its officers in the United States District Court for the District of Massachusetts purporting to assert claims for violations of §§10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder, and seeking, among other things, compensatory damages and reasonable costs and expenses. On June 2, 2008, plaintiffs in the Western Pa. case formally moved for consolidation and the appointment of lead plaintiff and lead counsel. On July 10, 2008, that motion was granted, the cases were consolidated, and a lead plaintiff and lead counsel were appointed. On August 25, 2008, lead plaintiff filed a consolidated amended complaint. The consolidated and amended complaint purports to be brought on behalf of all open-market purchasers of Candela common stock from November 1, 2005 through August 21, 2006 and alleges that Candela made certain false and misleading statements to investors expressing optimism regarding its financial condition and failed to disclose (i) the possibility that Palomar, one of Candela’s leading competitors, would initiate patent enforcement litigation against Candela and (ii) that Candela was purportedly losing market share to its competitors.

 

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Table of Contents

 

·                  On February 19, 2008, Cardiofocus, Inc. (“Cardiofocus”) filed suit against the Company and eight other companies in the United States District Court for the District of Massachusetts, asserting willful infringement by the Company of U.S. Patent 6,457, 780, 6,159,203 and 5,843,073. Cardiofocus seeks compensatory and treble damages, as well as attorneys’ fees and injunctive relief. On April 21, 2008, the Company answered Cardiofocus’ complaint and asserted a variety of counterclaims against Cardiofocus. The Company believes the complaint to be without merit and intends to vigorously defend against the lawsuit. Based upon Candela’s request, on July 23, 2008, the United States Patent & Trademark Office (“PTO”) agreed to re-exam the validity of the Cardiofocus patents. On October 14, 2008, the Court agreed to stay this matter for a minimum of one year; up to a maximum of two years, but no later than the PTO’s decision with respect to the re-examination proceedings.

 

·                  On April 16, 2008, a shareholder derivative action entitled Forlenzo v. Puorro, et al., Civ. No. 08-1532, was filed in Middlesex County, Massachusetts Superior Court against the individual members of Candela’s board of directors and certain of its current and former officers purporting to assert claims for breach of fiduciary duty and related claims arising out of allegations similar to those asserted in the class action litigation discussed above. The complaint seeks on behalf of Candela, among other things, damages, restitution, and injunctive relief.

 

From time to time, the Company is party to various legal proceedings incidental to its business. The Company believes that none of the legal proceedings, other than the lawsuit initiated by Palomar, that are presently pending, if adversely decided against us, will have a material adverse effect upon the Company’s financial position, results of operations, or liquidity.

 

17.             Other Income

 

In August 2007 the Company recognized a $0.6 million gain on the receipt of additional cash consideration related to the acquisition of Solx, Inc., a privately held company, by OccuLogix, Inc., a publicly traded company (NasdaqGM: OCCX). Candela Corporation originally held 19.99% of the outstanding common stock of Solx, Inc., on an as-converted basis, prior to Solx’s acquisition by OccuLogix in August 2006.

 

As a result of this transaction, Candela received approximately $1.0 million in cash at the time of closing, future cash consideration of approximately $2.5 million, and approximately 1.3 million shares of common stock in OccuLogix, Inc.

 

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Table of Contents

 

Candela Corporation

 

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

 

Overview

 

We research, develop, manufacture, market, sell, distribute, and service lasers and light-based products used to perform aesthetic and cosmetic procedures. We sell our lasers to physicians and personal care practitioners. We market our products directly and through a network of distributors to end-users. Our traditional customer base includes plastic and cosmetic surgeons and dermatologists. More recently, we have expanded our sales to a broader group of practitioners consisting of general practitioners and certain specialists including obstetricians, gynecologists and general and vascular surgeons. We derive our revenue from the sales of lasers, light-based devices, and other products, as well as product-related services.

 

Critical Accounting Policies

 

This discussion and analysis of our financial condition and results of operations is 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, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We evaluate our estimates and judgments on an on-going basis, including those related to revenue recognition, allowance for doubtful accounts, inventory reserves, warranty reserves, contingencies, valuation of long-lived assets, stock-based compensation, restructurings and income taxes. We base our estimates and judgments on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates and judgments under different assumptions or conditions.

 

A discussion of our critical accounting policies and the related estimates and judgments affecting the preparation of our consolidated financial statements is included in our Annual Report on Form 10-K for fiscal year 2008. Information with respect to changes in our Critical Accounting Policies during the three-month period ended September 27, 2008 may be found in Note 1 of the Notes to Condensed Consolidated Financial Statements (unaudited) in this Form 10-Q, which information is incorporated herein by reference.

 

Critical Accounting Estimates

 

There have been no significant changes in our critical accounting estimates during the three months ended September 27, 2008 as compared to the critical accounting estimates disclosed in Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the fiscal year ended June 28, 2008.

 

Recent Accounting Pronouncements

 

Information with respect to Recent Accounting Pronouncements may be found in Note 1 of Notes to Condensed Consolidated Financial Statements (unaudited) in this Form 10-Q, which information is incorporated herein by reference.

 

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Table of Contents

 

Results of Operations

 

Revenue

 

Revenue source by geographic region is reflected in the following table:

 

 

 

For the three months ended:

 

 

 

September 27,

 

September 29,

 

 

 

 

 

(in thousands)

 

2008

 

2007

 

Increase (Decrease)

 

U.S.

 

$

8,987

 

33

%

$

16,730

 

47

%

$

(7,743

)

-46

%

All other countries

 

17,886

 

67

%

18,743

 

53

%

(857

)

-5

%

Total worldwide revenue

 

$

26,873

 

100

%

$

35,473

 

100

%

$

(8,600

)

-24

%

 

Consolidated revenue was $26.9 million for the three-month period ended September 27, 2008, as compared to $35.5 million for the same period ended September 29, 2007. The overall decrease in quarterly revenue of approximately $8.6 million was comprised primarily of revenue declines of $7.7 million in the U.S. and $1.3 million in Europe, offset by slight increases in various other geographic regions. The decrease in U.S. and European revenues was directly related to the slowing economy combined with the tightening credit markets.

 

Revenue source by type is reflected in the following table:

 

 

 

For the three months ended:

 

 

 

September 27,

 

September 29,

 

 

 

 

 

(in thousands)

 

2008

 

2007

 

Increase (Decrease)

 

Lasers and other products

 

$

17,241

 

64

%

$

26,824

 

76

%

$

(9,583

)

-36

%

Product-related services

 

9,632

 

36

%

8,649

 

24

%

983

 

11

%

Total revenue

 

$

26,873

 

100

%

$

35,473

 

100

%

$

(8,600

)

-24

%

 

The decrease in revenue from lasers and other products for the three-month period ended September 27, 2008, compared to the same period ended September 29, 2007, was directly related to the general reduction in sales in the U.S. and European markets due to the slowing economy combined with the tightening credit markets.

 

Product-related services increased approximately $1.0 million or 11% in the three-month period ended September 27, 2008 as compared to the same period ended September 29, 2007. The increase is primarily related to the increase in the number of service-related contracts sold in addition to an increase in the number of consumables and accessories sold to support our installed base.

 

Gross Profit. Gross profit was approximately $10.6 million or 39.4% for the three-month period ended September 27, 2008 as compared to $17.3 million or 48.7% for the same period ended September 29, 2007. The decrease in gross profit for the three-month period ended September 27, 2008 as compared to the same period in the previous fiscal year is primarily due to changes in product mix, changes in regional mix, and a greater proportion of revenues being derived from the sale of product-related services in the current period which carry a lower margin than sales of lasers.

 

Selling, General and Administrative Expense.  Selling, general and administrative (SG&A) expenses were approximately $15.0 million for each of the three-month periods ended September 27, 2008 and September 29, 2007, respectively. As a percentage of revenue, SG&A expenses increased to 55.7% from 42.4% of revenues in the comparative prior-year period.

 

Research and Development Expense.  Research and development (R&D) spending decreased to approximately $2.8 million for the three-month period ended September 27, 2008, from approximately $3.0 million for the comparative prior-year period. These expenses are expected to increase in future periods, however, as the Company transitions to new projects.

 

Other Income/Expense.  Other expense was approximately $18,000 for the three-months ended September 27, 2008, as compared to other income of approximately $1.2 million for the same period

 

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Table of Contents

 

ended September 29, 2007. The year-over-year decrease of approximately $1.2 million is due primarily to a decrease in interest income earned during the first quarter of fiscal 2009 combined with the recognition of a non-recurring gain in the prior fiscal period on the actual receipt of additional contingent cash consideration from OccuLogix, Inc. related to its merger agreement with Solx, Inc.

 

The decrease in interest income earned during the three-month period ended September 27, 2008, as compared to the same period in the prior fiscal year, is related to a decrease in market interest rates combined with an overall decrease in cash and cash equivalents and in marketable securities.

 

Income Taxes. The (benefit) provision for income taxes results from a combination of activities of the Company and its domestic and foreign subsidiaries. We recorded effective tax rates of approximately 45% and 34% for each of the three-month periods ended September 27, 2008 and September 29, 2007, respectively. The effective tax rate for the period ended September 27, 2008 differs from the statutory rate primarily due to differences in foreign tax rates and other permanent items. The foreign rate difference is due to income reported in a high tax rate jurisdiction combined with losses benefited in a jurisdiction with a lower tax rate. The effective rate for the period ended September 29, 2007 differs from the statutory rate primarily due to differences in foreign tax rates, R&D credits and other permanent items.

 

The Company also recorded a discrete tax expense item during the three-month period ended September 29, 2007 of $0.1 million resulting from a change in the statutory tax rate in Germany. The effect of the change in the German statutory rate on current earnings is fully reflected in our effective tax rate indicated above.

 

Liquidity and Capital Resources

 

Our cash and cash equivalents and our investment in short and long-term marketable securities at September 27, 2008 totaled approximately $29.8 million compared with approximately $45.2 million at September 29, 2007. Principal components of the decrease include growth in our inventory over the trailing twelve months, the use of cash for our stock repurchase program, and the general funding of operations. We continue to have no long-term debt. We believe that the combination of existing cash and cash equivalents, and marketable securities on hand, along with cash to be generated by future operations and amounts available under our line of credit, will be sufficient to meet our ongoing operating and capital expenditure requirements for the foreseeable future. However, we cannot be sure that we will not require additional capital beyond the amounts currently forecasted by us, or that any such required additional capital will be available on reasonable terms, if at all, as it becomes required. Please see Item 2 – Cautionary Statements for additional information.

 

Cash used by operating activities amounted to approximately $3.6 million for the three-month period ended September 27, 2008 as compared to cash used by operating activities of approximately $1.1 million for the same period in the prior year. The increase in cash used by operating activities is primarily attributable to our year-to-date net loss and growth in our inventory on-hand, offset by changes in accounts receivable and various other operating asset and liability accounts in the normal course of business.

 

Off-Balance Sheet Arrangements

 

Our only off-balance sheet arrangements consist of non-cancelable operating leases entered into in the ordinary course of business and the license agreement with the Regents. The table below in the next section titled “Contractual Obligations” shows the amounts of our operating lease commitments and purchase commitments payable by year.

 

Contractual Obligations

 

Outstanding contractual obligations of the Company are reflected in the following table:

 

(in thousands)

 

Total

 

Less than
1 year

 

1 - 3 years

 

3 - 5 years

 

After
5 years

 

Royalty commitments

 

$

3,250

 

$

1,000

 

$

1,250

 

$

500

 

$

500

 

Operating leases

 

3,287

 

1,618

 

1,324

 

229

 

116

 

Total contractual obligations

 

$

6,537

 

$

2,618

 

$

2,574

 

$

729

 

$

616

 

 

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Cautionary Statements

 

Certain statements contained herein may constitute “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995 (“Reform Act”). We may also make forward-looking statements in other reports filed with the Securities and Exchange Commission, in materials delivered to stockholders and in press releases. In addition, our representatives may from time to time make oral forward-looking statements. Forward-looking statements provide current expectations of future events based on certain assumptions and include any statement that does not directly relate to any historical or current fact. Words such as “anticipates,” “believes,” “expects,” “estimates,” “intends,” “plans,” “projects,” and similar expressions, may identify such forward-looking statements. Such forward-looking statements include but are not limited to: that we have the necessary infrastructure in place to capitalize on expansion; the affordability of our products will allow for expansion; that we can lower production costs; or that the market will expand beyond baby boomers. We assume no obligation to update or revise any forward-looking statements whether as a result of new information, future events or otherwise. The risks and uncertainties that may affect forward-looking statements and/or our business include, among others, those discussed in “Cautionary Statements” in our Annual Report filed on Form 10-K for the fiscal year ended June 28, 2008, as well as other risks and uncertainties referenced in this Quarterly Report on Form 10-Q, and the following:

 

·                        On August 9, 2006, one of our competitors, Palomar Medical Technologies, Inc. (“Palomar”), alleged that the manufacture, use and sale of our products for laser hair removal willfully infringe certain United States patents. Public announcements concerning this and related litigation between the two parties that are unfavorable to us may result in significant declines in our stock price. An adverse ruling or judgment in this matter is likely to cause our stock price to decline significantly. Litigation with Palomar is expensive and is likely to be protracted, and our intellectual property position as well as our cash position may be weakened as a result of an adverse ruling or judgment. Whether or not we are successful in the pending lawsuit, litigation may consume substantial amounts of our financial resources and divert management’s attention away from our core business.  Please see Part II, Item 1 (Legal Proceedings) for a further discussion of the Palomar litigation.

 

·                        Claims by others that our products infringe their patents or other intellectual property rights, or that the patents which we own or have licensed rights to are invalid, could prevent us from manufacturing and selling some of our products or require us to incur substantial costs from litigation or development of non-infringing technology.

 

·                        Our principal source of liquidity is our current cash and equivalents and marketable investments. Our ability to generate cash from operations is dependant upon our ability to generate revenue from selling our lasers and other products and providing product-related services. A decrease in demand for our products and related services or increases in operating costs would likely have an adverse effect on our liquidity.

 

·                        Disappointing quarterly revenue or operating results could cause the price of our common stock to fall.

 

·                        Because we typically derive more than half of our revenue from international sales, we are susceptible to currency fluctuations, negative economic changes taking place in foreign marketplaces, and other risks associated with conducting business overseas.

 

·                        The failure to obtain alexandrite rods for certain laser systems from our sole supplier would impair our ability to manufacture and sell these laser systems, which has accounted for a substantial portion of our revenue in certain recent periods.

 

·                        Our failure to respond to rapid changes in technology and intense competition in the laser industry could make our lasers obsolete.

 

·                        Like other companies in our industry, we are subject to a regulatory review process and our failure to receive necessary government clearances or approvals could affect our ability to sell our products and remain competitive.

 

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·                        We have modified some of our products without FDA clearance.  The FDA could retroactively decide the modifications were improper and require us to cease marketing and/or recall the modified products.

 

·                        Achieving complete compliance with FDA regulations is difficult, and if we fail to comply, we could be subject to FDA enforcement action.

 

·                        We could incur substantial costs as a result of product liability claims, including but not limited to costs as a result of product failures for which we are responsible under warranty obligations and as a result of our customer’s potential unavailability of liability insurance coverage.

 

·                        We may be unable to attract and retain management and other personnel we need to succeed.

 

·                        Our failure to maintain effective internal control over financial reporting could have a material adverse effect on our business, operating results, and stock price.

 

·                        Our failure to manage acquisitions and joint ventures effectively may divert management attention from our core business and cause us to incur debt, liabilities or costs.

 

We caution readers not to place undue reliance upon any forward-looking statements, which speak only as of the date made. We expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any such statements to reflect any change in our expectations or any change in events, conditions or circumstances on which any such statement is based.

 

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Item 3 - Quantitative and Qualitative Disclosures about Market Risk

 

We have cash equivalents and marketable securities that consist of money market mutual funds, certificates of deposit, US government securities, fixed income corporate securities and equity investments. The majority of these investments have maturities within one to three years. We believe that our exposure to interest rate risk is minimal due to the term and type of our investments and those fluctuations in interest rates would not have a material adverse effect on our results of operations.

 

We have international subsidiaries that transact business in foreign currencies and, therefore, we are exposed to foreign currency exchange risk resulting from fluctuations in foreign currencies. This risk could adversely impact our results and financial condition. From time to time, we may enter into foreign currency exchange contracts to reduce our exposure to foreign currency exchange risk and variability in operating results due to fluctuation in exchange rates underlying the value of current transactions and anticipated transactions denominated in foreign currencies. These contracts obligate us to exchange predetermined amounts of specified foreign currencies at specified exchange rates on specified dates. These contracts are denominated in the same currency in which the underlying transactions are denominated and bear a contract value and maturity date that approximate the value and expected settlement date, respectively, of the underlying transactions.

 

Changes to the fair value of derivative contracts that do not qualify for hedge accounting are reported in other income (expense) in the period of the change. For derivatives that qualify for hedge accounting, the Company recognizes the instruments as either assets or liabilities in the statement of financial position and measures those instruments at fair value. Changes in the fair value of the derivatives are recorded in shareholders’ equity as a component of other comprehensive income along with an offsetting adjustment against the basis of the derivative instrument itself.

 

The Company had four foreign currency forward contracts outstanding at September 27, 2008 in the notional amount of approximately 2.8 million Euros or approximately $4.1 million. These derivative contracts serve to mitigate the foreign currency risk of a substantial portion of our Euro-denominated inter-company balances at September 27, 2008. None of the aforementioned derivatives qualified for hedge accounting at September 27, 2008.

 

Item 4 - Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

Our Chief Executive Officer and Acting Chief Financial Officer (our principal executive officer and principal financial officer, respectively) have evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended) as of September 27, 2008, the end of the period covered by this quarterly report on Form 10-Q. Based on this evaluation, our Chief Executive Officer and Acting Chief Financial Officer have concluded that, as of the end of the period covered by this report, the Company’s disclosure controls and procedures were effective in gathering, analyzing and disclosing information needed to satisfy our disclosure obligations under the Securities Exchange Act of 1934, as amended.

 

Changes in Internal Controls over Financial Reporting

 

There have been no changes in the Company’s internal controls over financial reporting that occurred during the quarter ended September 27, 2008 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

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Candela Corporation

 

Part II.  Other Information

 

Item 1 - Legal Proceedings

 

The Company is currently involved in three litigation matters with Palomar Medical Technologies, Inc. (“Palomar”).

 

·                Palomar asserts that it is the exclusive licensee from The General Hospital Corporation (“Mass. General”) of U.S. Patent No. 5,735,844 (the “‘844 Patent”) and U.S. Patent No. 5,595,568, which is related to the ‘844 Patent (the “‘568 Patent”).  On August 9, 2006, Palomar filed suit against the Company in the United States District Court for the District of Massachusetts, asserting willful infringement by the Company of U.S. Patent No. 5,735,844. Palomar seeks compensatory and treble damages, as well as attorneys’ fees and injunctive relief. In November 2006, the Company answered the complaint by denying Palomar’s allegations and asserting a variety of affirmative defenses and counterclaims against Palomar. This response included a counterclaim by the Company against Palomar seeking a declaratory judgment that United States patent No. 5,595,568 (“the ‘568 Patent”) is either invalid, or products manufactured by the Company do not infringe the ‘568 Patent, or both. In November 2006, Palomar filed an answer denying the Company’s counterclaim. In February 2007, Palomar moved to amend its Complaint to add The General Hospital Corporation as a party, to add a claim for infringement by Candela of the ‘568 patent, and to allege that additional Candela products infringe the ‘568 Patent. Palomar’s motion to amend its Complaint was granted in August 2007. In February 2007, Candela moved to amend its Answer and Counterclaims to add allegations of inequitable conduct, double-patenting and violation of Mass. Gen. Laws Ch. 93A by Palomar. The Company’s motion to amend its complaint was granted in March 2007. Palomar filed a general denial response to Candela’s Amended Answer and Counterclaim in March 2007. In August 2007, the parties had a Markman hearing before the U.S. District Court Judge presiding over the above-described legal proceeding. In a Markman hearing, the Court interprets the definition of the disputed claim term of a patent. Pre-trial fact discovery has ended and the parties are in the midst of exchanging expert reports. No trial date has been established, but on October 31, 2008, the Company requested a stay of the case with the Court.  The Company did so based upon a third party’s re-examination request that was granted by the United States Patent and Trademark Office on August 29, 2008. The re-examination is with respect to both the ‘568 and ‘844 patents, including many of the Claims at issue in this case.

 

·                On August 10, 2006, the Company filed suit against Palomar in the United States District Court for the District of Massachusetts, asserting willful infringement by Palomar of U.S. Patent Nos. 6,659,999, 5,312,395 (the “395 Patent”), and 6,743,222 (the “‘222 Patent”). The Company seeks compensatory and treble damages for the patent infringement, as well as attorneys’ fees and an injunction against Palomar to prevent Palomar’s continuing infringement. The Company served its complaint on Palomar in August 2006. In October 2006, the Company amended the Company’s suit against Palomar by removing from the suit allegations that Palomar infringes Patent 6,659,999. In October 2006, Palomar answered the Company’s amended complaint by denying the Company’s allegations and asserting an affirmative defense of inequitable conduct with respect to the ‘395 Patent. In addition, Palomar filed a demand for a declaratory judgment seeking a judicial determination that Palomar products either do not infringe the ‘395 Patent and ‘222 Patent or that such patents are invalid. In November 2006, the Company answered the counterclaim by denying Palomar’s allegations. In February 2008, Palomar filed a request for re-examination of the Company’s ‘222 Patent with the United States Patent and Trademark Office (“PTO”). In March 2008, the PTO granted re-examination. In June 2008, the Court stayed the case until the PTO rules on the re-examination.

 

·                In December 2006, the Company filed suit against Palomar in the United States District Court for the Eastern District of Texas, Lufkin Division, asserting that Palomar infringes one or more claims of United States patents Nos: 5,810,801, 6,659,999 and 6,120,497. The Company sought compensatory and treble damages for past infringement, as well as attorneys’ fees and an injunction against Palomar from future infringement. In January 2007, Palomar answered the complaint by denying the Company’s allegations and filing a declaratory judgment motion

 

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seeking a court ruling that it did not infringe such patents and/or that such patents were invalid. In addition, Palomar filed a motion to transfer the case to the United States District Court for the District of Massachusetts. In February 2007, the Company added Massachusetts General Hospital as a party to its action. The Court denied Palomar’s motion to transfer the case to Massachusetts. The parties had a six day trial, beginning on September 29, 2008.  At trial, the Company alleged that Claims 11-14 of the 5,810,801 Patent was infringed by Palomar’s Lux 1540, Lux1540Z, LuxIR and Lux DeepIR.  On October 7, 2008, the jury returned a verdict in favor of Palomar. The jury found that none of the alleged Palomar products infringe on Claims 11-14 of the Company’s 5,810,801 patent and that all such Claims are invalid. The Company has filed a Judgment as a Matter of Law motion with the Court in an attempt to reverse the invalidity ruling.

 

While the Company intends to vigorously contest Palomar’s allegations, and to pursue its own claims against Palomar, each lawsuit is inherently uncertain and unpredictable as to its ultimate outcome. An adverse outcome in Palomar’s suit against the Company would materially hurt the Company’s business, financial condition, results of operations and cash flows.

 

·                On April 2 and April 22, 2008, respectively, two substantially similar putative class action lawsuits, entitled Western Pa. Elec. Employees Pension Fund, et al., 1:08-cv-10551-DPW (“Western Pa.”) and Caballero v. Candela Corp., et al., Civ. No. 1:08-cv-10673-DPW (“Caballero”), were filed against Candela and two of its officers in the United States District Court for the District of Massachusetts purporting to assert claims for violations of §§10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated thereunder, and seeking, among other things, compensatory damages and reasonable costs and expenses. On June 2, 2008, plaintiffs in the Western Pa. case formally moved for consolidation and the appointment of lead plaintiff and lead counsel. On July 10, 2008, that motion was granted, the cases were consolidated, and a lead plaintiff and lead counsel were appointed. On August 25, 2008, lead plaintiff filed a consolidated amended complaint. The consolidated and amended complaint purports to be brought on behalf of all open-market purchasers of Candela common stock from November 1, 2005 through August 21, 2006 and alleges that Candela made certain false and misleading statements to investors expressing optimism regarding its financial condition and failed to disclose (i) the possibility that Palomar, one of Candela’s leading competitors, would initiate patent enforcement litigation against Candela and (ii) that Candela was purportedly losing market share to its competitors.

 

·                On February 19, 2008, Cardiofocus, Inc. (“Cardiofocus”) filed suit against the Company and eight other companies in the United States District Court for the District of Massachusetts, asserting willful infringement by the Company of U.S. Patent 6,457, 780, 6,159,203 and 5,843,073. Cardiofocus seeks compensatory and treble damages, as well as attorneys’ fees and injunctive relief. On April 21, 2008, the Company answered Cardiofocus’ complaint and asserted a variety of counterclaims against Cardiofocus. The Company believes the complaint to be without merit and intends to vigorously defend against the lawsuit. Based upon Candela’s request, on July 23, 2008, the United States Patent & Trademark Office (“PTO”) agreed to re-exam the validity of the Cardiofocus patents. On October 14, 2008, the Court agreed to stay this matter for a minimum of one year; up to a maximum of two years, but no later than the PTO’s decision with respect to the re-examination proceedings.

 

·                On April 16, 2008, a shareholder derivative action entitled Forlenzo v. Puorro, et al., Civ. No. 08-1532, was filed in Middlesex County, Massachusetts Superior Court against the individual members of Candela’s board of directors and certain of its current and former officers purporting to assert claims for breach of fiduciary duty and related claims arising out of allegations similar to those asserted in the class action litigation discussed above. The complaint seeks on behalf of Candela, among other things, damages, restitution, and injunctive relief.

 

From time to time, the Company is party to various legal proceedings incidental to its business. The Company believes that none of the legal proceedings, other than the lawsuit initiated by Palomar, that are presently pending, if adversely decided against us, will have a material adverse effect upon the Company’s financial position, results of operations, or liquidity.

 

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Item 6 - Exhibits

 

(a)                                  Exhibits

 

Exhibit 3(i)

 

Amended and Restated Certificate of Incorporation of Candela Corporation

 

 

 

Exhibit 31.1

 

Rule 13a-14(a)/15d-14(a) Certification of the Chief Executive Officer

 

 

 

Exhibit 31.2

 

Rule 13a-14(a)/15d-14(a) Certification of the Principal Financial Officer

 

 

 

Exhibit 32.1

 

Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

 

 

Exhibit 32.2

 

Certification of the Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

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SIGNATURES

 

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

 

 

 

CANDELA CORPORATION

 

 

 

 

Date:

November 6, 2008

 

/s/ Robert E. Quinn

 

Robert E. Quinn

 

Vice President, Finance, Treasurer, and

 

Corporate Controller (Principal Financial Officer)

 

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Candela Corporation

 

INDEX TO EXHIBITS

 

Exhibit No.

 

Description

 

 

 

Exhibit 31.1

 

Rule 13a-14(a)/15d-14(a) Certification of the Chief Executive Officer

 

 

 

Exhibit 31.2

 

Rule 13a-14(a)/15d-14(a) Certification of the Principal Financial Officer

 

 

 

Exhibit 32.1

 

Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

 

 

Exhibit 32.2

 

Certification of the Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

26


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