STAAR Surgical Company 10-K 2009
Documents found in this filing:
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Commission file number: 0-11634
STAAR SURGICAL COMPANY
(Exact name of registrant as specified in its charter)
1911 Walker Avenue 91016
(Address of principal executive offices)
Registrant’s 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:
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 þ
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 þ
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes þ No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (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 þ
The aggregate market value of the voting and non-voting common equity held by non-affiliates of the registrant as of June 27, 2008, the last business day of the registrant’s most recently completed second fiscal quarter, was approximately $91,708,703 based on the closing price per share of $3.11 of the registrant’s Common Stock on that date.
The number of shares outstanding of the registrant’s Common Stock as of March 30, 2009 was 30,018,013.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s definitive proxy statement relating to its 2009 annual meeting of stockholders, which will be filed with the Securities and Exchange Commission pursuant to Regulation 14A within 120 days of the close of the registrant’s last fiscal year, are incorporated by reference into Part III of this report.
TABLE OF CONTENTS
This Annual Report on Form 10-K contains statements that constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These statements include comments regarding the intent, belief or current expectations of the Company and its management. Readers can recognize forward-looking statements by the use of words like “anticipate,” “estimate,” “expect,” “project,” “intend,” “plan,” “believe,” “will,” “target,” “forecast” and similar expressions in connection with any discussion of future operating or financial performance. STAAR Surgical Company cautions investors and prospective investors that any such forward-looking statements are not guarantees of future performance and involve risks and uncertainties, and that actual results may differ materially from those projected in the forward-looking statements. See “Item 1A. Risk Factors.”
Item 1. Business
STAAR Surgical Company develops, manufactures and sells innovative intraocular lenses, or IOLs, implantable Collamer lenses, or ICLs, and other ophthalmic surgical products, used primarily in cataract and refractive surgery. We manufacture products in the U.S., Switzerland and Japan and distribute our products worldwide.
Originally incorporated in California in 1982, STAAR Surgical Company reincorporated in Delaware in 1986. Unless the context indicates otherwise “we,” “us,” the “Company,” and “STAAR” refer to STAAR Surgical Company and its consolidated subsidiaries.
STAAR Surgical Company, Visian® , Collamer®, STAARVISC®, Elastimide®, SonicWAVETM and AquaFlowTM are trademarks or registered trademarks of STAAR in the U.S. and other countries. Collamer® is the brand name for STAAR’s proprietary collagen copolymer lens material.
Intraocular lenses. Most of our revenue is generated by manufacturing and selling foldable intraocular lenses, known as IOLs. A foldable IOL is a prosthetic lens used to replace a cataract patient’s natural lens after it has been extracted in minimally invasive small incision cataract surgery. STAAR makes IOLs out of silicone and out of Collamer®, STAAR’s proprietary biocompatible collagen copolymer lens material. STAAR’s IOLs are available in both three-piece and one-piece designs. Over the years, we have expanded our range of IOLs to include the following:
Implantable Collamer lenses. Manufacturing and selling lenses used in refractive surgery is an increasingly important source of revenue for STAAR. We have used our proprietary biocompatible Collamer material to develop and manufacture implantable Collamer lenses, or ICLs. STAAR’s VISIANTM ICL and VISIANTM Toric ICL, or TICLTM, treat refractive disorders such as myopia (near-sightedness), hyperopia (far-sightedness) and astigmatism. These disorders of vision affect a large proportion of the population. Unlike the IOL, which replaces a cataract patient’s cloudy lens, these products are designed to work with the patient’s natural lens to correct refractive disorders. The surgeon implants the foldable Visian lens through a tiny incision, generally under local anesthesia. STAAR began selling the Visian ICL outside the U.S. in 1996 and inside the U.S. in 2006. STAAR began selling the Visian TICL outside the U.S. in 2002. These products are sold in more than 45 countries. STAAR’s goal is to establish the position of the ICL and TICL throughout the world as one of the primary choices for refractive surgery.
Other Surgical Products. As part of our strategic approach to provide complementary products for use in ophthalmic surgery, we also market STAARVISC II, a viscoelastic material which is used as a protective lubricant and to maintain the shape of the eye during surgery, Cruise Control, a single-use disposable filter which allows for a faster, cleaner phacoemulsification procedure and is compatible with all phacoemulsification equipment, and the AquaFlow Collagen Glaucoma Drainage Device, an implantable device used for the surgical treatment of glaucoma. We also sell other related instruments, devices, surgical packs and equipment that we manufacture or that are manufactured by others.
Distribution. STAAR’s wholly owned subsidiary, Domilens Vertrieb fuer medizinische Produkte GmbH (“Domilens”) is a leading distributor of ophthalmic products in Germany. Products sold by Domilens include implantable lenses, related surgical equipment, consumables and other supplies. Domilens sells custom surgical kits that incorporate a surgeon’s preferred supplies and consumables in a single ready-to-use package, and services phacoemulsification and other surgical equipment. In addition to distributing and servicing products of third party manufacturers, Domilens distributes STAAR’s ICLs, IOLs, and Preloaded Injectors.
STAAR has significant operations both within and outside the U.S. Revenue from activities outside the U.S. accounted for 75% of our total revenues in fiscal year 2008. STAAR’s principal business units and their operations are as follows:
The global nature of STAAR’s business operations subjects it to risks, including the effect of changes in currency exchange rates, differences in laws, including laws protecting intellectual property and regulating medical devices, political risks and the challenge of managing foreign subsidiaries. See “ Item 1A. Risk Factors — The global nature of our business may result in fluctuations and declines in our sales and profits” and “ — The success of our international operations depends on our successfully managing our foreign subsidiaries.”
The Human Eye
The following discussion provides background information on the structure, function and some of the disorders of the human eye to enhance the reader’s understanding of our products described in this report. The human eye is a specialized sensory organ capable of receiving visual images and transmitting them to the visual center in the brain. Among the main parts of the eye are the cornea, the iris, the lens, the retina, and the trabecular meshwork. The cornea is the clear window in the front of the eye through which light first passes. The iris is a muscular curtain located behind the cornea which opens and closes to regulate the amount of light entering the eye through the pupil, an opening at the center of the iris. The lens is a clear structure located behind the iris that changes shape to focus light to the retina, located in the back of the eye. The retina is a layer of nerve tissue consisting of millions of light receptors called rods and cones, which receive the light image and transmit it to the brain via the optic nerve. The posterior chamber of the eye, located behind the iris and in front of the natural lens, is filled with a watery fluid called the aqueous humor, while the portion of the eye behind the lens is filled with a jelly-like material called the vitreous humor. The trabecular meshwork, a drainage channel located between the iris and the surrounding white portion of the eye, maintains a normal pressure in the anterior chamber of the eye by draining excess aqueous humor.
The eye can be affected by common visual disorders, disease or trauma. The most prevalent ocular disorders or diseases are cataracts and glaucoma. Cataract formation is generally an age-related disorder that involves the hardening and loss of transparency of the natural crystalline lens, impairing visual acuity.
Refractive disorders, which are generally not age-related, include myopia, hyperopia, and astigmatism. A normal, well functioning eye receives images of objects at varying distances from the eye and focuses the images on the retina. Refractive errors occur when the eye’s natural optical system does not properly focus an image on the retina. Myopia, also known as nearsightedness, occurs when the eye’s lens focuses images in front of the retina. Hyperopia, or farsightedness, occurs when the eye’s lens focuses images behind the plane of the retina. Individuals with myopia or hyperopia may also have astigmatism. Astigmatism is blurred vision caused when an irregularly shaped cornea or, in some cases, a defect in the natural lens, produces a distorted image on the retina. Presbyopia is an age-related condition caused by the loss of elasticity of the natural crystalline lens, reducing the eye’s ability to accommodate or adjust its focus for varying distances.
History of STAAR
STAAR developed, patented, and licensed the first foldable intraocular lens, or IOL, for cataract surgery. Made of pliable material, the foldable IOL permitted surgeons for the first time to replace a cataract patient’s natural lens with minimally invasive surgery. The foldable IOL became the standard of care for cataract surgery throughout the world. STAAR introduced its first versions of the lens, made of silicone, in 1991.
In 1996 STAAR began selling the ICL outside the U.S. Made of STAAR’s proprietary biocompatible Collamer lens material, the ICL is implanted behind the iris and in front of the patient’s natural lens to treat refractive errors such as myopia, hyperopia and astigmatism. The ICL received CE Marking in 1997, permitting sales in countries that require the European Union CE Mark, and it received FDA approval for the treatment of myopia in the U.S. in December 2005. The ICL is now sold in approximately 50 countries and has been implanted in more than 125,000 eyes worldwide.
Other milestones in STAAR’s history include the following:
Financial Information about Segments and Geographic Areas
STAAR’s principal products are IOLs, ICLs, and other complementary products used in ophthalmic surgery. Because 100% of STAAR’s sales are generated from the ophthalmic surgical product segment, the Company operates as one operating segment for financial reporting purposes. See Note 19 to the Consolidated Financial Statements for financial information about product lines and operations in geographic areas.
Our products are designed to:
Minimally Invasive Intraocular Lenses (IOLs). We produce and market a line of foldable IOLs for use in minimally invasive cataract surgical procedures. Because they can be folded, our IOLs can be implanted into the eye through an incision less than 3mm in length, and for one model as small as 2.2 mm. Once inserted, the IOL unfolds naturally to replace the cataractous lens.
Currently, our foldable IOLs are manufactured from both our proprietary Collamer material and silicone. Both materials are offered in two differently configured styles: the single-piece plate haptic design and the three-piece design where the optic is combined with Polyimide TM loop haptics. The selection of one style over the other is primarily based on the preference of the ophthalmologist.
The addition of aspheric optics to STAAR’s IOL designs has been a primary focus of STAAR’s recent development efforts. Aspheric IOLs use advanced optical designs intended to provide a clearer image than traditional spherical lenses, especially in low light, which has led to significant market share gains for aspheric designs. STAAR introduced its first aspheric IOLs made of silicone and Collamer in 2007 and received New Technology IOL “NTIOL” designation for both products in 2008 which qualify them for additional reimbursement.
STAAR Japan introduced the first Preloaded Injector in international markets in late 2003. The Preloaded Injector is a silicone or acrylic IOL packaged and shipped in a pre-sterilized, disposable injector ready for use in cataract surgery. We believe the Preloaded Injector offers surgeons improved convenience and reliability. In 2006 STAAR Japan began selling in Japan an acrylic-lens-based Preloaded Injector employing a lens supplied by Nidek Inc., a Japanese ophthalmic company. Nidek also assembles and sells in Japan the acrylic Preloaded Injector under its own brand, using injector parts purchased from STAAR Japan. STAAR Japan’s agreement with Nidek provides for the sale of the acrylic Preloaded Injector in additional territories by mutual agreement of the two companies. The Preloaded Injector is not yet available for sale in the U.S.
We have developed and currently market, principally in the U.S., the Toric IOL, a toric version of our single-piece silicone IOL, which is specifically designed for cataract patients who also have pre-existing astigmatism. The Toric IOL is the first refractive product we offered in the U.S.
Sales of IOLs accounted for approximately 44% of our total revenues for the 2008 fiscal year, 39% of total revenues for the 2007 fiscal year and 45% of total revenues for the 2006 fiscal year.
Visian ICL (ICLs). ICLs are implanted into the eye in order to correct refractive disorders such as myopia, hyperopia and astigmatism. Lenses of this type are generically called “phakic IOLs” or “phakic implants” because they work along with the patient’s natural lens, or phakos, rather than replacing it. The ICL is capable of correcting refractive errors over a wide diopter range.
The ICL is folded and implanted into the eye behind the iris and in front of the natural crystalline lens using minimally invasive surgical techniques similar to those used to implant an IOL during cataract surgery, except that the natural lens is not removed. The surgical procedure to implant the ICL is typically performed with topical anesthesia on an outpatient basis. Visual recovery usually occurs within one to 24 hours.
We believe the ICL will complement current refractive technologies and allow refractive surgeons to expand their treatment range and customer base.
The ICL for myopia was approved by the FDA for use in the United States on December 22, 2005. The ICL and TICL are approved in countries that require the European Union CE Mark, China, Canada, Korea and Singapore. Applications are pending in Australia and Japan, and the Company is working to obtain new approvals for the ICL and TICL in other countries. The Company submitted its application for U.S. approval of the TICL to the FDA in 2006 (see “Regulatory Matters – Recent Correspondence with FDA Regarding Clinical Oversight and TICL Approval”).
The Hyperopic ICL is approved for use in countries that require the European Union CE Mark and in China and Canada.
The ICL is available for myopia in the United States in four lengths and 27 powers for each length, and internationally in four lengths, with 41 powers for each length, and for hyperopia in four lengths, with 37 powers for each length, which equates to 420 inventoried parts. This requires the Company to carry a significant amount of inventory to meet the customer demand for rapid delivery. The Toric ICL is available for myopia in the same powers and lengths but carries additional parameters of cylinder and axis with 11 and 180 possibilities, respectively. Accordingly, the Toric ICL is often made to order.
Sales of ICLs (including TICLs) accounted for approximately 25% of our total revenues for the 2008 fiscal year, 26% in 2007 fiscal year and 21% of total revenues for the 2006 fiscal year.
Other Surgical Products
As part of our strategic approach to provide complementary products for use in ophthalmic surgery, we also market STAARVISC II, a viscoelastic material which is used as a protective lubricant and to maintain the shape of the eye during surgery, Cruise Control, a single-use disposable filter which allows for a faster, cleaner phacoemulsification procedure and is compatible with all phacoemulsification equipment, and the AquaFlow Collagen Glaucoma Drainage Device, an implantable device used for the surgical treatment of glaucoma. We also sell other related instruments, devices, surgical packs and equipment that we manufacture or that are manufactured by others.
Sales of other surgical products accounted for approximately 31% of our total revenues for the 2008 fiscal year, 35% of total revenues for the 2007 fiscal year and 33% of total revenues for the 2006 fiscal year.
German Distribution Business
Domilens, STAAR’s German subsidiary, is an ophthalmic distribution company. Domilens principally resells and services products manufactured by third parties, along with STAAR’s refractive products and Preloaded Injectors. Substantially all of Domilens’ revenues are generated from the ophthalmic surgical products market. Domilens reported sales of $25.1 million in fiscal year 2008, $23.7 million in fiscal year 2007 and $21.1 million in fiscal year 2006.
Domilens sells IOLs and other ophthalmic devices, sells and services phacoemulsification systems and other surgical equipment, and sells instruments, supplies and disposables. A significant part of Domilens business is the assembly of custom surgical kits that package a surgeon’s preferred supplies and disposables in convenient form for a single surgery. Domilens sells many of its third party products under its own private label.
Sources and Availability of Raw Materials
The Company uses a wide range of raw materials in the production of our products. Most of the raw materials and components are purchased from external suppliers. Some of our raw materials are single-sourced due to regulatory constraints, cost effectiveness, availability, quality, and vendor reliability issues. Many of our components are standard parts and are available from a variety of sources although we do not typically pursue regulatory and quality certification of multiple sources of supply.
Our sources of supply for raw materials can be threatened by shortages of raw materials and other market forces, by natural disasters, by the supplier’s failure to maintain adequate quality or a recall initiated by the supplier. Even when substitute suppliers are available, the need to certify regulatory compliance and quality standards of substitute suppliers could cause significant delays in production and a material reduction in our sales revenue. We try to mitigate this risk by stockpiling raw materials when practical and identifying secondary suppliers, but the risk cannot be entirely eliminated. For example, the failure of one of our suppliers could be the result of an unforeseen industry-wide problem, or the failure of our supplier could create an industry-wide shortage affecting secondary suppliers as well.
In particular, loss of our external supply source for silicone could cause us material harm. In addition, the proprietary collagen-based raw material used to manufacture our IOLs, ICLs and the AquaFlow Device is internally sole-sourced from one of our facilities in California. If the supply of these collagen-based raw materials is disrupted we know of no alternative supplier, and therefore, any such disruption could result in our inability to manufacture the products and would have a material adverse effect on the Company.
Patents, Trademarks and Licenses
We strive to protect our investment in the research, development, manufacturing and marketing of our products through the use of patents, licenses, trademarks, and copyrights. We own or have rights to a number of patents, licenses, trademarks, copyrights, trade secrets and other intellectual property directly related and important to our business. As of January 2, 2009, we owned approximately 242 United States and foreign patents and had approximately 94 patent applications pending.
We believe that our patents are important to our business. Of significant importance to the Company are the patents, licenses, and technology rights surrounding our Visian ICL and Collamer material. In 1996, we were granted an exclusive royalty-bearing license to manufacture, use, and sell ICLs in the United States, Europe, Latin America, Africa, and Asia and to manufacture the collagen copolymer lens material. In developing its proprietary biocompatible Collamer material STAAR developed and patented additional technology. STAAR has also enhanced the originally licensed ICL design through patented features designed to make it safer and more effective. The Collamer material is also used in certain of our IOLs. We have also acquired or applied for various patents and licenses related to our AquaFlow Device, our phacoemulsification system, our insertion devices, and other technologies of the Company.
Our patent portfolio includes a significant group of patents granted or pending in the U.S. and other countries and in Japan, that we acquired in connection with the purchase of the remaining 50% interests in STAAR Japan in early fiscal 2008. These include numerous patents covering our Preloaded Injector technology. Prior to our acquisition, STAAR Japan held exclusive rights to these patents. STAAR believes that STAAR Japan’s patents enable it to better capitalize on the competitive advantage of our Preloaded Injector technology outside of Japan.
Patents for individual products extend for varying periods of time according to the date a patent application is filed or a patent is granted and the term of patent protection available in the jurisdiction granting the patent. The scope of protection provided by a patent can vary significantly from country to country.
Our strategy is to patent proprietary elements for our research and development projects in order to obtain market exclusivity for our products in our major markets. Although the expiration of a patent for a product may result in the loss of market exclusivity, we may continue to derive commercial benefits from these products. Also, we may continue to enjoy market exclusivity if we have maintained trade secrecy over the use of proprietary technology or if medical device regulations require our competitors to conduct clinical research or otherwise satisfy requirements before they can use the technology. We may also be able to maintain exclusivity by patenting important improvements to the products. We routinely monitor the activities of our competitors and other third parties with respect to their use of intellectual property, including considering whether or not to assert our patents where we believe they are being infringed.
Worldwide, all of our major products are sold under trademarks we consider to be important to our business. The scope and duration of trademark protection varies widely throughout the world. In some countries, trademark protection continues only as long as the mark is used. Other countries require registration of trademarks and the payment of registration fees. Trademark registrations are generally for fixed but renewable terms.
We protect our proprietary technology, in part, through confidentiality and nondisclosure agreements with employees, consultants and other parties. Our confidentiality agreements with employees and consultants generally contain standard provisions requiring those individuals to assign to STAAR, without additional consideration, inventions conceived or reduced to practice by them while employed or retained by STAAR, subject to customary exceptions.
We generally experience lower sales during the third quarter due to the effect of summer vacations on elective procedures. In particular, because sales activity in Europe drops dramatically in the summer months, and European sales have recently accounted for a greater proportion of our total sales, this seasonal variation in our results has become even more pronounced.
Distribution and Customers
We market our products to a variety of health care providers, including surgical centers, hospitals, managed care providers, health maintenance organizations, group purchasing organizations and government facilities. The primary user of our products is the ophthalmologist. No material part of our business, taken as a whole, is dependent upon a single or a few customers.
We distribute products directly to the physician or facility in the United States, Germany, and Australia, and rely primarily on local distributors in other countries. In Japan we both sell directly and through a local distributor. Where we distribute products directly, we rely on local sales representatives to help generate sales by promoting and demonstrating our products with physicians. In Germany, Japan and Australia, sales representatives are primarily employed directly by us. In the U.S., we rely on both directly employed representatives and independent sales representatives to sell our products under the supervision of directly employed sales managers.
Our internal marketing department develops the strategies to be employed by our agents, employees and distributors through the activities of our internal marketing department. The marketing department supports selling efforts by developing and providing promotional materials, educational courses, speakers’ programs, participation in trade shows and technical presentations.
The dollar amount of the Company’s backlog orders is not significant in relation to total annual sales. The Company generally keeps sufficient inventory on hand to ship product when ordered.
Competition in the ophthalmic surgical product market is intense and characterized by extensive research and development and rapid technological change. Development by competitors of new or improved products, processes or technologies may make our products obsolete or less competitive. Accordingly, we must devote continued efforts and significant financial resources to enhance our existing products and to develop new products for the ophthalmic industry.
We believe our primary competitors in the development and sale of products used to surgically correct cataracts, specifically foldable IOLs, include Alcon Laboratories (“Alcon”); Abbott Medical Optics, previously known as Advanced Medical Optics (“AMO”); and Bausch & Lomb. According to a 2008 Market Scope report, Alcon holds 57% of the U.S. IOL market, followed by AMO with 23% and Bausch & Lomb with 15%. We hold approximately 4% of the U.S. IOL market. Our competitors have been established for longer periods of time than we have and have significantly greater resources than we have, including greater name recognition, larger sales operations, greater ability to finance research and development and proceedings for regulatory approval, and more developed regulatory compliance and quality control systems.
In the U.S. market, physicians prefer IOLs made out of acrylic, which is considered an advanced material. Acrylic IOLs currently account for a 76% share of the U.S. IOL market. We believe that we are positioned to compete effectively in the advanced material market segment with the Collamer IOL. As part of our effort to increase market uptake of our Collamer IOLs, we introduced an aspheric three-piece Collamer IOL in November 2007 and introduced the nanoPOINT™ injector, which delivers STAAR’s single piece Collamer IOL through a 2.2 mm incision. In 2009 STAAR expects to introduce an aspheric version of its single-piece Collamer lens, which will also be deliverable through the nanoPOINT injector, and an advanced injector system for the three-piece Collamer lens.
The addition of aspheric optics to STAAR’s IOL designs has been a primary focus of STAAR’s recent development efforts. Aspheric IOLs use advanced optical designs intended to provide a clearer image than traditional spherical lenses, especially in low light, which has led to significant market share gains for aspheric designs. In recognition of these advantages the Centers for Medicare and Medicaid Services (“CMS”) grants New Technology IOL (“NTIOL”) status to aspheric IOLs that can demonstrate improved visual performance over conventional IOLs, allowing an extra $50 reimbursement per lens implanted in an ASC (ambulatory surgical center). All of STAAR's aspheric lenses feature a proprietary optical design (patent pending) that is optimized for the naturally curved surface of the retina and certain other anatomical features of the human eye, and provides outstanding image quality even if decentered. Because the overwhelming majority of IOL purchases in the U.S. are implanted at ASCs and reimbursed through Medicare, NTIOL status significantly increases STAAR’s potential margin on qualifying lenses. During 2008 CMS granted NTIOL status to STAAR’s single-piece and three-piece aspheric Collamer IOLs, and to its three-piece silicone aspheric IOL. STAAR believes it is the first company to be granted three NTIOL designations.
Although the market for silicone IOLs, which currently account for 20% of the U.S. IOL market, has declined in recent years, we believe they still provide an opportunity for us as we continue to introduce improvements to the silicone IOL technology and build awareness of our Collamer IOLs and improved injection systems. In particular, we believe that our recently introduced aspheric silicone three-piece lens and the expected 2009 introduction of preloaded injectors to deliver this lens will enhance STAAR’s ability to maintain market share within the silicone market sector.
Our ICL faces significant competition in the marketplace from other products and procedures that improve or correct refractive conditions, such as corrective eyeglasses, external contact lenses, and conventional and laser refractive surgical procedures. These products and procedures are long established in the marketplace and familiar to patients in need of refractive vision correction. In particular, eyeglasses and external contact lenses are much cheaper in the short term and more easily obtained, because a prescription for the product is usually written following a routine eye examination in a doctor’s office, without admitting the patient to a hospital or surgery center.
We believe that the following providers of laser surgical procedures comprise our primary competition in the marketplace for patients seeking surgery to correct refractive conditions: AMO, Alcon, Bausch & Lomb, and Nidek. All of these companies market Excimer lasers for corneal refractive surgery. Approval of custom laser ablation, along with the addition of wavefront technology, has increased awareness of corneal refractive surgery by patients and practitioners. In the phakic implant market, there are only two approved phakic IOLs available in the U.S., our Visian TM ICL and the AMO Verisyse. In international markets, our ICL’s main competition is the AMO Verisyse, which is also sold as the Ophtec Artisan IOL, although there are several other phakic IOLs, manufactured by various companies, which are also available.
We must secure and maintain regulatory approval to sell our products in the United States and in most foreign countries. We are also subject to various federal, state, local and foreign laws that apply to our operations including, among other things, working conditions, laboratory and manufacturing practices, and the use and disposal of hazardous or potentially hazardous substances.
The following discussion outlines the various regulatory regimes that govern our manufacturing and sale of our products.
Regulatory Requirements in the United States. Under the federal Food, Drug & Cosmetic Act, as amended (the “Act”), the FDA has the authority to adopt, and has adopted, regulations that do the following:
Most of our products are medical devices intended for human use within the meaning of the Act and, therefore, are subject to FDA regulation.
The FDA establishes procedures for compliance based upon regulations that designate devices as Class I (general controls, such as establishment registration and device listing with FDA, labeling and record-keeping requirements), Class II (performance standards in addition to general controls) or Class III (pre-market approval (“PMA”) required before commercial marketing). Class III devices are the most extensively regulated because the FDA has determined they are life-supporting, are of substantial importance in preventing impairment of health, or present a potential unreasonable risk of illness or injury. The effect of assigning a device to Class III is to require each manufacturer to submit to the FDA a PMA that includes information on the safety and effectiveness of the device.
A medical device that is substantially equivalent to a directly related medical device previously in commerce may be eligible for the FDA’s pre-market notification “510(k) review” process. FDA clearance does not imply that the safety, reliability and effectiveness of the medical device has been approved or validated by the FDA, but merely means that the medical device is substantially equivalent to a previously cleared commercial medical device. The review period and FDA determination as to substantial equivalence generally is made within 90 days of submission of a 510(k) application, unless additional information or clarification or clinical studies are requested or required by the FDA. As a practical matter, the review process and FDA determination may take longer than 90 days.
Our IOLs, ICLs, and AquaFlow Devices are Class III devices, our surgical packs are Class II devices, and our lens injectors are Class I devices. We have received FDA pre-market approval for our IOLs, the ICL for the treatment of myopia, and AquaFlow Device and 510(k) clearance for our lens injectors.
As a manufacturer of medical devices, our manufacturing processes and facilities are subject to continuing review by the FDA and various state agencies to ensure compliance with quality system regulations. These agencies inspect our facilities from time to time to determine whether we are in compliance with various regulations relating to manufacturing practices, validation, testing, quality control and product labeling. Our activities as a sponsor of clinical research are subject to review by the Division of Bioresearch Monitoring (“BIMO”) of the Office of Compliance in FDA’s Center for Devices and Radiological Health.
Regulatory Requirements in Foreign Countries. The requirements for approval or clearance to market medical products in foreign countries vary widely. The requirements range from minimal requirements to requirements comparable to those established by the FDA. For example, many countries in South America have minimal regulatory requirements, while many others, such as Japan, have requirements at least as stringent as those of the FDA.
The member countries of the European Union require that all medical products sold within their borders carry a Conformite Europeane Mark (“CE Mark”). The CE Mark denotes that the applicable medical device has been found to be in compliance with the European Directives and associated guidelines concerning manufacturing and quality control, technical specifications and biological or chemical and clinical safety. We have obtained the CE Mark for all of our principal products including our ICL and TICL, IOLs (excluding IOL’s with aspheric optics), injectors and our AquaFlow Device.
FDA Review of STAAR’s Quality Systems
The FDA’s most recent general quality inspections of STAAR’s facilities were a regularly scheduled inspection of the Monrovia, California facility, between February 23 and March 4, 2009, a post-market inspection of the Aliso Viejo, California facility on August 7, 2006, and a post-market inspection of the Nidau, Switzerland facility between September 26 and September 28, 2006. The recent inspection of the Monrovia, California facility that concluded on March 4, 2009 resulted in the issuance of three observations by the investigators of nonconformity on Form FDA-483. STAAR has agreed with the observations and has completed and/or is implementing corrective actions to address each observation. We have prepared a comprehensive response to the investigators’ observations that we believe appropriately addresses each of the issues raised on the Form FDA-483. The post-market inspections of Aliso Viejo, California and Nidau Switzerland resulted in no observations of noncompliance. Based in part on these inspections and the FDA inspections conducted in 2005, STAAR believes that it is substantially in compliance with the FDA’s Quality System Regulations and Medical Device Reporting regulations.
STAAR’s ability to continue its U.S. business depends on the continuous improvement of its quality systems and its ability to demonstrate compliance with FDA regulations. Accordingly, for the foreseeable future STAAR’s management expects its strategy to include devoting significant resources and attention to those efforts.
Status of TICL Submission
STAAR’s activities as a sponsor of biomedical research are subject to review by the FDA. BIMO inspections are part of a program designed to ensure that data and information contained in requests for Investigational Device Exemptions (IDE), Premarket Approval (PMA) applications, and Premarket Notification submissions (510k) are scientifically valid and accurate. Another objective of the program is to ensure that human subjects are protected from undue hazard or risk during the course of scientific investigations. While the past procedural violations noted in the Warning Letter are serious in nature and required comprehensive corrective and preventative actions, the Company does not believe that these nonconformities undermine the scientific validity and accuracy of its clinical data, or that human subjects were subjected to undue hazard or risk.
Following STAAR’s submission of a Pre-Market Approval application (PMA) supplement for the TICL to the FDA on April 28, 2006, FDA’s BIMO conducted an inspection of STAAR’s clinical study procedures, practices, and documentation related to the TICL between February 15 and March 14, 2007. At the close of the inspection, STAAR received eight inspectional observations on Form 483, to which it responded on April 5, 2007. Notwithstanding the response, on June 26, 2007 the FDA’s BIMO branch issued a Warning Letter to STAAR noting four areas of noncompliance observed during the BIMO inspection. STAAR provided its written response to the Warning Letter to the FDA on July 31, 2007.
On August 3, 2007 STAAR received a letter from the FDA Office of Device Evaluation (“ODE”) notifying STAAR that the review of the TICL application would be placed on integrity hold (i.e., halted) until STAAR completes specified actions establishing the integrity and reliability of the clinical data under the TICL application and the robustness of STAAR’s clinical trial procedures and systems. Noting the same deficiencies cited in the June 26, 2007 Warning Letter from BIMO, and other deficiencies noted in an audit of a clinical study site, ODE requested that STAAR engage an independent third party auditor to conduct an audit of patient records along with a clinical systems audit to ensure accuracy and completeness of data before resubmitting the application.
STAAR’s independent third party auditor has completed its audits, has reviewed and certified the amended clinical data that is the source for the data to be included in the resubmission of the TICL application, and has completed its audit report on STAAR’s quality systems related to clinical oversight. The third party auditor has submitted its findings directly to the FDA for its examination. The submission of findings from the third party auditor to FDA was in two audit reports, dated October 8, 2008 and December 15, 2008. The FDA considers the October 8, 2008 report to be complete and has allowed the third party auditor to release it to STAAR. In December 2008, the FDA allowed the third party auditor to release a draft version of the December 15, 2008 report to STAAR. In mid February 2009 the FDA presented the third party auditor with two questions related to the information in the December 15, 2008 report and the third party auditor responded to the questions on or about March 16, 2009. Upon final release of the December 15, 2008 third party audit report to STAAR, STAAR will prepare a corrective action plan that addresses the findings of the third party auditor as reported to FDA. STAAR has reviewed the corrective action plans developed in response to the Warning Letter and the audit findings that the FDA has allowed the third party auditor to release to date and will ensure that the corrective action plan developed to address the independent third party auditor’s findings is fully aligned with all of the auditor’s findings. If the FDA agrees with the corrective action plan, then an inspection by the local office will be scheduled. If the results of the inspection are satisfactory to FDA, the inspector will forward a report to FDA headquarters and it is expected that the FDA would then lift the integrity hold. After the hold is lifted, STAAR will be permitted to resubmit the clinical data for the TICL application, as certified by the third party auditor, and FDA will resume substantive review of the TICL data. STAAR cannot assure investors that its corrective actions will be satisfactory to FDA, that ODE will grant approval to the TICL, or that the scope of requested TICL approval, if granted, would not be limited by the FDA.
Acquisition of Remaining Interests in Japanese Joint Venture
Early in fiscal year 2008 STAAR completed the acquisition of the remaining interests in its Japan-based joint venture, Canon Staar Co., Inc. (“Canon Staar”), which manufactures the Preloaded Injector. Canon, Inc. and its affiliated marketing company, Canon Marketing Japan Inc. (“CMJ”) collectively owned 50% of Canon Staar prior to the closing of the acquisition on December 29, 2007, and STAAR owned the other 50%. Following the acquisition, Canon Staar became a wholly owned subsidiary of STAAR and changed its name to “STAAR Japan, Inc.”
Total consideration STAAR paid to Canon Inc. and CMJ (collectively referred to as the “Canon companies” in this Report) consisted of $4 million in cash and the issuance of 1.7 million shares of Series A Redeemable, Convertible Preferred Stock (“Preferred Stock”). STAAR received in return all of the Canon companies’ shares of Canon Staar. Each share of the Preferred Stock issued to the Canon companies is convertible for five years at the option of the holder into one share of STAAR’s common stock, and will automatically convert after five years into one share of STAAR’s common stock. The holders of the Preferred Stock may redeem their shares at their option at a price of $4.00 per share (plus accrued or declared but unpaid dividends) (“Redemption Price”) on the occurrence of a change in control or liquidation of STAAR or at any time after the third anniversary of the issuance date. STAAR can call the Preferred Stock at the redemption price after the first anniversary of the issuance date.
Canon Staar, renamed STAAR Japan, was created in 1988 pursuant to a Joint Venture Agreement between STAAR and the Canon companies for the principal purpose of designing, manufacturing, and selling in Japan intraocular lenses and other ophthalmic products. STAAR Japan recorded worldwide sales of $12.7 million in fiscal year 2008. In addition to the business of manufacturing the Preloaded Injector, STAAR Japan is also seeking approval from the Japanese regulatory authorities to market in Japan STAAR's Visian ICL and TICL, Collamer IOL and AquaFlow Device. Prior to December 29, 2007, STAAR has reported its interest in the joint venture under the equity method and did not consolidate Canon Staar’s income, cash flow or balance sheet data with STAAR. STAAR Japan’s results have been consolidated into STAAR financial statements beginning with the first fiscal quarter of 2008.
The general manager of Canon Staar for most of its history, Isamu Kamijo, agreed to continue serving in this capacity and joined STAAR Japan, Inc. as its President after the closing. He had previously been an employee of Canon Marketing Japan serving at Canon Staar under a secondment arrangement.
Under the agreements governing the joint venture, CMJ had been the exclusive distributor of Canon Staar products in Japan. At the closing STAAR Japan assumed CMJ’s IOL distribution business and purchased the remaining inventory of Canon Staar products held by CMJ. Customers list and consignment inventories were transferred to STAAR Japan and the sales staff employed by CMJ in its IOL distribution business had been seconded to STAAR Japan for a period of one year. As of December 31, 2008 this secondment agreement expired and the sales staff covered under this agreement returned to CMJ.
As a result of the acquisition, STAAR acquired a portfolio of 33 patents filed in Japan, the U.S. and elsewhere in the world. These patents, which include claims related to the Preloaded Injector, had previously been held exclusively by the joint venture.
Research and Development
We are focused on furthering technological advancements in the ophthalmic products industry through the development of innovative ophthalmic products and materials and related surgical techniques. We maintain an active internal research and development program which also includes clinical activities and regulatory affairs and is comprised of 53 employees. In order to achieve our business objectives, we will continue the investment in research and development.
During 2008, research and development at STAAR resulted in the grant of NTIOL status for the aspheric three-piece Collamer IOL in March, 2008; and the grant of NTIOL status for the aspheric single-piece Collamer IOL and the aspheric three-piece silicone IOL in July, 2008. The single-piece Aspheric Collamer IOL, which can be delivered through the NanoPOINT injector, is expected to be introduced the first half of 2009. In 2008 STAAR also completed development of an advanced injector system for the three-piece Collamer IOL, which is expected to be introduced in 2009 as well.
STAAR Japan’s research and development department has been a leader in injector technology, enabling that company to introduce the first Preloaded Injector to international markets in late 2003. Since STAAR completed its acquisition of the remaining 50% interest in STAAR Japan in early fiscal year 2008, STAAR has incorporated the efforts of STAAR Japan’s research and development staff into its global research and development strategy, which is expected to accelerate STAAR’s efforts to improve its injector technology and bring preloaded technology to more markets.
During 2009 we expect to continue our focus on research and development in the following areas:
· Development of a Collamer Toric IOL to complement our pioneering silicone Toric IOL;
· Introduction of the “Epiphany” injector system for the three piece Collamer IOL;
· Shelf life studies to expand the shelf life for Collamer IOLs and ICLs;
· FDA approval for the nanoPoint system to deliver the ICL products through a smaller incision;
Also during 2009 we plan to explore the accommodating effects of the Collamer single piece IOL. Many surgeons have reported that their patients receiving the Collamer single piece IOL have better near vision than patients implanted with competitive IOLs. We have established the Collamer Accommodating Study Team (CAST) made up of nine surgeons in the United States to study the range of accommodation in their patients which have received a Collamer single piece IOL. This will be valuable information for users of the current product and will aid in design advancements for the platform.
Research and development expenses were approximately $7,938,000, $6,711,000, and $7,080,000 for our 2008, 2007 and 2006 fiscal years, respectively. STAAR expects to invest approximately 7-10% of sales for research and development in 2009.
The Company is subject to federal, state, local and foreign environmental laws and regulations. We believe that our operations comply in all material respects with applicable environmental laws and regulations in each country where we do business. We do not expect compliance with these laws to materially affect our capital expenditures, earnings or competitive position. We currently have no plans to invest in material capital expenditures for environmental control facilities for the remainder of our current fiscal year or for the next fiscal year. We are not aware of any pending actions, litigation or significant financial obligations arising from current or past environmental practices that are likely to have a material adverse impact on our financial position. However, environmental problems relating to our properties could develop in the future, and such problems could require significant expenditures. In addition, we cannot predict changes in environmental legislation or regulations that may be adopted or enacted in the future and that may adversely affect us.
As of April 1, 2009, the Company’s principal and wholly owned subsidiaries were STAAR Surgical AG, STAAR Japan, Inc. and Domilens Vertrieb fuer medizinische Produkte GmbH (a subsidiary of STAAR Surgical AG). The activities of each are described above.
As of April 1, 2009, we employed approximately 386 persons.
Code of Ethics
STAAR has adopted a Code of Ethics that applies to all of its directors, officers, and employees. The Code of Ethics is posted on the Company’s website, www.staar.com — Investor Relations: Corporate Governance.
We make available free of charge through our website, www.staar.com, our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) of the Securities Exchange Act of 1934, as soon as reasonably practicable after those reports are filed with or furnished to the Securities and Exchange Commission (“SEC”).
The public may read any of the items we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. The public may obtain information about the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also maintains an Internet site that contains reports, proxy and information statements, and other information regarding the Company and other issuers that file electronically with the SEC at http://www.sec.gov.
Item 1A. Risk Factors
Our short and long-term success is subject to many factors that are beyond our control. Investors and prospective investors should consider carefully the following risk factors, in addition to other information contained in this report. This Annual Report on Form 10-K contains forward-looking statements, which are subject to a variety of risks and uncertainties. Our actual results could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those set forth below.
Risks Related to Our Business
We have a history of losses.
We have reported losses in each of the last several fiscal years and have an accumulated deficit of $125.9 million as of January 2, 2009. Although the Company expects to achieve positive net earnings in 2009, STAAR’s history of losses reflects a number of challenges that the Company must continue to overcome and there can be no assurance that it will be successful in doing so. Among the risks and uncertainties are those described in this “Risk Factors” section.
We have only limited working capital and limited access to financing.
Our cash requirements continue to exceed the level of cash generated by operations and we expect to continue to seek additional resources to support and expand our business, such as debt or equity financing. Because of our history of losses and negative cash flows, our ability to obtain adequate financing on satisfactory terms is limited. Our ability to raise financing through sales of equity securities depends on general market conditions and the demand for STAAR’s common stock. We may be unable to raise adequate capital through sales of equity securities, and if our stock has a low market price at the time of such sales our existing stockholders could experience substantial dilution. An inability to secure additional financing could jeopardize our ability to continue operations.
The report of our Independent Registered Public Accounting Firm contains an explanatory paragraph expressing substantial doubt about our ability to continue as a “going concern.”
Because of our limited capital resources and the $4.9 million judgment entered against the Company in March 2009, coupled with a history of losses and negative cash flows, our independent registered public accounting firm has modified its opinion on our financial statements for fiscal year 2008 with a statement that substantial doubt exists regarding STAAR’s ability to continue as a “going concern.” While STAAR’s use of cash has declined in recent periods, and the company believes it is close to generating sufficient cash from sales to support its operations, its current cash resources are not sufficient to satisfy the March 2009 court judgment or to provide reserves against other contingencies that might arise in the next twelve months, especially if the global recession causes sales to fall below projected levels.
Substantial doubt about STAAR’s ability to continue as a going concern could affect our relationships with suppliers or customers. In accordance with Generally Accepted Accounting Principles in the U.S., STAAR’s balance sheet generally states the book value of STAAR’s assets, which does not necessarily represent the value that could be realized from the assets if STAAR could not continue as a going concern.
We are subject to a $4.9 million judgment and face additional litigation.
On March 23, 2009, a California court entered judgment against STAAR for approximately $2.2 million in compensatory damages and $2.7 million in punitive damages in Parallax Medical Systems, Inc. v. STAAR Surgical Company, a case alleging that STAAR willfully and negligently interfered with the prospective business of a former regional manufacturer’s representative. While STAAR intends to vigorously contest this outcome through post-trial proceedings and, if necessary, appeal the cost of satisfying the judgment or posting a bond for appeal exceeds STAAR’s current capital resources. The court has stayed the execution of judgment and collection of damages until after the completion of post-trial motions and the deadline to file notice of appeal, which is a period of approximately three months. If STAAR is unable to obtain additional capital to satisfy the judgment or post an appeal bond before the expiration of the stay, STAAR could be required to petition for protection under federal bankruptcy laws, which could further impair its financial position and liquidity, and would likely result in a default of its other debt obligations.
Another lawsuit similar to the Parallax case, Moody v. STAAR Surgical Company, is currently scheduled for trial in the Superior Court of California, County of Orange, on May 25, 2009. STAAR believes that the evidence to be presented in Moody does not support liability for intentional or negligent interference, and some facts differ in the two cases. However, the allegedly improper conduct of STAAR is the same in the two cases and Moody will also be tried before a jury. Moody is also seeking punitive damages. Accordingly, the risk that a jury could render a verdict in Moody in a range similar to or greater than the Parallax judgment cannot be eliminated. An adverse judgment in the Moody case would further reduce STAAR’s liquidity and capital resources. See “Item 3: Legal Proceedings.”
Future legal costs may be material. >
In recent periods, STAAR has incurred increased expenses for legal fees, in particular fees related to the defense of the lawsuits by former regional manufacturers’ representatives and STAAR’s related cross-complaints that are described under “Item 3: Legal Proceedings.” While STAAR maintains insurance coverage for a number of litigation risks, including the cost of defending product liability claims, such insurance does not cover those lawsuits or some other types of commercial disputes. The defense of litigation, including fees of external legal counsel, expert witnesses and related costs, is expensive and may be difficult to project accurately. In general, such costs are unrecoverable even if STAAR ultimately prevails in litigation, and could represent a significant portion of STAAR’s limited capital resources. To defend lawsuits, STAAR also finds it necessary to divert officers and other employees from their normal business functions to gather evidence, give testimony and otherwise support litigation efforts. STAAR expects to experience higher than normal litigation costs until the lawsuits by former regional manufacturer’s representatives are decided, which could include the need to appeal and defend a new trial.
STAAR may also in the future find it necessary to file lawsuits to recover damages or protect its interests. The cost of such litigation could also be significant and unrecoverable, which may also deter STAAR from aggressively pursuing even legitimate claims.
Default under the Senior Promissory Note could result in an acceleration of our indebtedness or increased interest costs or both.
Among the events of default in the Senior Promissory Note (“the Note”) held by Broadwood Partners, L.P. is any judgment in excess of $500,000 against the Company that “shall remain unpaid.” Because STAAR is not required to pay the Parallax judgment until the expiration of the stay 40 days after final judgment, and because the amount to be paid pursuant to the judgment will not be fixed until final judgment is rendered on or before May 22, 2009, STAAR believes that as of the date of this Report the Parallax judgment should not be deemed “unpaid” and that an event of default under the Senior Promissory Note would not have occurred. To avoid dispute over this matter and to secure the lender’s temporary waiver of remedies for an event of default during the stay of the Parallax judgment, STAAR and Broadwood entered into a Temporary Waiver Agreement on April 2, 2009.
Under the Temporary Waiver Agreement, if, prior to the expiration of the stay, STAAR does not satisfy the Parallax judgment or secure an additional stay pending appeal, an event of default will occur under the Note. The event of default would cause an increase of the interest rate from 7% to a maximum of 20% and, if the holder delivers written notice of default, the entire $5 million principal amount and accrued interest of the note will become immediately due and payable. The Temporary Waiver Agreement also provides that if STAAR secures a further stay of judgment pending appeal, but does not satisfy the judgment before the expiration of the original stay period, the Note will not become immediately due and payable but the increased default interest rate will apply unless and until the Parallax judgment is satisfied an all other pending and undecided material litigation is resolved. If applicable, the increased interest rate will result in a $650,000 per year increase in interest on the Note. An event of default under the Note leading to either the increased rate of interest or to the Note becoming immediately due and payable will harm STAAR’s financial condition and results of operations.
We may have limited ability to fully use our recorded tax loss carryforwards.
We have accumulated approximately $119.5 million of tax loss carryforwards as of January 2, 2009 to be used in future periods if we become profitable. If we were to experience a significant change in ownership, Internal Revenue Code Section 382 may restrict the future utilization of these tax loss carryforwards even if we become profitable and these tax loss carryforwards will begin to expire between 2020 and 2028.
FDA compliance issues have harmed our reputation and we expect to devote significant resources to maintaining compliance in the future.
The Office of Compliance of the FDA’s Center for Devices and Radiological Health regularly inspects STAAR’s facilities to determine whether we are in compliance with the FDA Quality System Regulations relating to such things as manufacturing practices, validation, testing, quality control, product labeling and complaint handling, and in compliance with FDA Medical Device Reporting regulations and other FDA regulations. The FDA also regularly inspects for compliance with regulations governing clinical investigations.
Based on the results of the FDA inspections of STAAR’s Monrovia, California facilities in 2005, 2006 and 2009, STAAR believes that it is substantially in compliance with the FDA’s Quality System Regulations and Medical Device Reporting regulations. However, between December 29, 2003 and July 5, 2005 we received Warning Letters and other correspondence indicating that the FDA found STAAR’s Monrovia, California facility in violation of applicable regulations, warning of possible enforcement action and suspending approval of new implantable devices. The FDA’s findings of compliance deficiencies during that period harmed our reputation in the ophthalmic industry, affected our product sales and delayed FDA approval of the ICL.
On June 26, 2007 STAAR received a Warning Letter from the FDA citing four areas of noncompliance noted by the FDA’s Bioresearch Monitoring branch during its inspection of STAAR’s clinical study procedures, practices, and documentation related to the TICL. The Office of Device Evaluation cited the same deficiencies in a letter placing an integrity hold on the TICL application. While BIMO’s oversight covers clinical research, rather than the manufacturing, quality and device reporting issues that have been STAAR’s greatest focus in its recent compliance initiatives, STAAR believes that the negative publicity from the BIMO observations and Warning Letter has made it more difficult for STAAR to overcome the harm to its reputation resulting from past FDA proceedings.
STAAR’s ability to continue its U.S. business depends on the continuous improvement of its quality systems and its compliance with FDA regulations. Accordingly, for the foreseeable future STAAR’s management expects its strategy to include devoting significant resources and attention to those efforts. STAAR cannot ensure that its efforts will be successful. Any failure to demonstrate substantial compliance with FDA regulations can result in enforcement actions that terminate, suspend or severely restrict our ability to continue manufacturing and selling medical devices. Please see the related risks discussed under the headings “We are subject to extensive government regulation, which increases our costs and could prevent us from selling our products” and “We are subject to federal and state regulatory investigations.”
FDA Approval of the Toric ICL, which could have a significant U.S. market, has been significantly delayed.
Part of STAAR’s strategy to increase U.S. sales of refractive products has been a plan to introduce the Toric ICL, or TICL, a variant of the ICL that corrects both astigmatism and myopia in a single lens and that is currently marketed outside the U.S. STAAR believes the TICL also has a significant potential market in the U.S. and could accelerate growth of the overall refractive product line. STAAR submitted a supplemental premarket approval application (PMA) for the TICL in April 2006. In August 2007 the FDA placed an integrity hold on the PMA and suspended its consideration of the PMA until STAAR completes specified actions to satisfy FDA concerns regarding deficiencies in STAAR’s oversight of past clinical activities. The actions include engaging an independent third party auditor to conduct a 100% data audit of patient records along with a clinical systems audit to ensure accuracy and completeness of data before submitting amendments to the application for the FDA’s review. After resubmission of the application, approval of the TICL will remains in the discretion of the FDA. Neither the approval, nor its timing, is certain. If STAAR is required to conduct additional clinical studies to secure approval of the TICL, significant further delays and costs would likely result.
Global recession could reduce sales of our refractive products.
The global economy is currently in recession. Since at least mid-2008 consumer spending has decreased in the U.S. as credit has become less available, unemployment has increased, and consumer confidence has declined.
Refractive surgery is an elective procedure generally not covered by health insurance. Patients must pay for the procedure, frequently through installment financing arrangements. They can defer the choice to have refractive surgery if they lack the disposable income to pay for it or do not feel their income is secure in the current economic climate. Laser refractive surgery has experienced a significant decrease in demand in the U.S. beginning in the second quarter of 2008. Visian ICL sales have not been as badly affected and generally increased during the 2008 fiscal year; however during the fourth fiscal quarter of 2008 U.S. ICL sales were flat and international Visian ICL and TICL sales declined slightly as compared to the same period as prior year. If the global recession becomes more severe or continues for a protracted period, Visian ICL sales could continue to grow slowly or decline. Because the Visian ICL is STAAR’s fastest growing and highest margin product, restricted growth or a decline in its sales could materially harm STAAR’s business.
Because cataracts generally affect the elderly, most sales of IOLs and other products used in cataract surgery are reimbursed by government entities worldwide. Accordingly, these sales are generally unaffected by economic downturns or recessions. However, if the global recession becomes more severe or continues for a protracted period, STAAR’s customers could slow their payments or delay, reduce or forgo inventory purchases. If STAAR’s customers face financial difficulty, they could further slow or default in payment, increasing our collection risk.
Negative publicity concerning complications of laser eye surgery could reduce the demand for our refractive products as well.
Negative publicity about laser eye surgery has recently appeared in the U.S. and some other refractive surgery markets. For example, on April 25, 2008, the FDA Ophthalmic Devices Panel held a public meeting to discuss reports of medical complications and customer satisfaction following refractive surgery. The resulting publicity broadened public awareness of the potential complications of refractive surgery and potential patient dissatisfaction, in particular as a result of LASIK and other corneal laser-based procedures. These concerns may have been a factor in the steep decline in demand for such procedures during 2008. Concerns about complications of refractive laser eye surgery could encourage more patients and doctors to select the Visian ICL as an alternative, but could also decrease patient interest in all refractive surgery, including Visian ICL. Depending on the nature and severity of future negative publicity about refractive surgery, the growth of ICL sales in the U.S. could be limited or sales could decline as a result. Because nearly all candidates for refractive surgery can achieve acceptable vision through the use of spectacles or contact lenses, for most patients the decision to have refractive surgery is a lifestyle choice that depends on high confidence in achieving a satisfactory outcome.
Our core domestic IOL business has suffered declining sales.
The foldable silicone IOL was once our largest source of sales. Since we introduced the product, however, competitors have introduced IOLs employing a variety of designs and materials. Over the years these products have taken an increasing share of the IOL market, while the market share for STAAR silicone IOLs has decreased. In particular, many surgeons now choose lenses made of acrylic material rather than silicone for their typical patients. In addition, our competitors have begun to offer multifocal or accommodating lenses that claim to reduce the need for cataract patients to use reading glasses; the market for these “presbyopic” lenses is expected to grow as a segment of the cataract market. Our competitors also introduced IOLs with advanced aspheric optics earlier than STAAR. During fiscal year 2008 STAAR’s U.S. cataract sales declined 9% over the comparable period of the prior year. Our newer line of IOLs made of our proprietary biocompatible Collamer material, and our newly introduced aspheric lenses, while intended to reverse the trend of declining domestic cataract product sales, may not permit us to recover the market share lost over the last several years.
We have restructured our U.S. sales force but the changes may not reverse the decline in our U.S. sales of cataract products.
From 2007 through early 2009 STAAR comprehensively reorganized its U.S. sales force. STAAR intends these changes to provide greater efficiency and better coordination of its sales efforts as it seeks to reverse the long-term decline in U.S. IOL sales by promoting its new lens designs and delivery systems. In the fourth quarter of 2008 STAAR significantly reduced the rate of decline in its U.S. IOL sales, but has not yet seen an increase in these sales. If our restructured sales force does not perform as anticipated we may suffer continued poor performance in U.S. sales and further harm to our business and financial condition.
Strikes, slow-downs or other job actions by doctors can reduce sales of cataract-related products.
In many countries where STAAR sells its products, doctors, including ophthalmologists, are employees of the government, government-sponsored enterprises or large health maintenance organizations. In recent years employed doctors who object to salary limitations, working rules, reimbursement policies or other conditions have sought redress through strikes, slow-downs and other job actions. These actions often result in the deferral of non-essential procedures, such as cataract surgeries, which affects sales of our products. For example, in fiscal year 2006, strikes and slow-downs by doctors in Germany were partly responsible for a drop in sales by our wholly owned subsidiary Domilens GmbH, which distributes ophthalmic products in Germany. Such problems could occur again in Germany or other regions and, depending on the importance of the affected region to STAAR’s business, the length of the action and its pervasiveness, job actions by doctors can materially reduce our sales revenue and earnings.
Our sales are subject to significant seasonal variation.
We generally experience lower sales during the third quarter due to the effect of summer vacations on elective procedures. In particular, because sales activity in Europe drops dramatically in July and August, and European sales have recently accounted for a greater proportion of our total sales, this seasonal variation in our results has become even more pronounced.
We could experience losses due to product liability claims.
We have been subject to product liability claims in the past and may experience such claims in the future. Product liability claims against us may exceed the coverage limits of our insurance policies or cause us to record a loss in excess of our deductible. A product liability claim in excess of applicable insurance could have a material adverse effect on our business, financial condition and results of operations. Even if any product liability loss is covered by an insurance policy, these policies have retentions or deductibles that provide that we will not receive insurance proceeds until the losses incurred exceed the amount of those retentions or deductibles. To the extent that any losses are below these retentions or deductibles, we will be responsible for paying these losses. The payment of retentions or deductibles for a significant amount of claims could have a material adverse effect on our business, financial condition, and results of operations.
Any product liability claim would divert managerial and financial resources and could harm our reputation with customers. We cannot assure you that we will not have product liability claims in the future or that such claims would not have a material adverse effect on our business.
We compete with much larger companies.
Our competitors, including Alcon, AMO, and Bausch & Lomb have much greater financial resources than we do and some of them have large international markets for a full suite of ophthalmic products. Their greater resources for research, development and marketing, and their greater capacity to offer comprehensive products and equipment to providers, make it difficult for us to compete. We have lost significant market share to some of our competitors.
The global nature of our business may result in fluctuations and declines in our sales and profits.
Our products are sold in approximately 50 countries. Sales from international operations make up a significant portion of our total sales. For the fiscal year ended January 2, 2009 sales from international operations were 75% of our total sales. The results of operations and the financial position of certain of our foreign operations are reported in the relevant local currencies and then translated into U.S. dollars at the applicable exchange rates for inclusion in our consolidated financial statements, exposing us to translation risk. In addition, we are exposed to transaction risk because some of our expenses are incurred in a different currency from the currency in which our sales are received. Our most significant currency exposures are to the Euro, the Swiss Franc, the Australian dollar, and the Japanese Yen. The exchange rates between these and other local currencies and the U.S. dollar may fluctuate substantially. We have not attempted to offset our exposure to these risks by investing in derivatives or engaging in other hedging transactions.
Economic, social and political conditions, laws, practices and local customs vary widely among the countries in which we sell our products. Our operations outside of the U.S. are subject to a number of risks and potential costs, including lower profit margins, less stringent protection of intellectual property and economic, political and social uncertainty in some countries, especially in emerging markets. Our continued success as a global company depends, in part, on our ability to develop and implement policies and strategies that are effective in anticipating and managing these and other risks in the countries where we do business. These and other risks may have a material adverse effect on our operations in any particular country and on our business as a whole. We price some of our products in U.S. dollars, and as a result changes in exchange rates can make our products more expensive in some offshore markets and reduce our sales. Inflation in emerging markets also makes our products more expensive there and increases the credit risks to which we are exposed.
The success of our international operations depends on our successfully managing our foreign subsidiaries.
We conduct most of our international business through wholly owned subsidiaries. Managing distant subsidiaries and fully integrating them into STAAR’s business is challenging. While STAAR seeks to integrate its foreign subsidiaries fully into its operations, direct supervision of every aspect of their operations is impossible, and as a result STAAR relies on its local managers and staff. Cultural factors, language differences and the local legal climate can result in misunderstandings among internationally dispersed personnel, and increase the risk of failing to meet U.S. and foreign legal requirements, including with respect to the Sarbanes-Oxley Act of 2002 and the U.S. Foreign Corrupt Practices Act. These risks have increased now that we have completed the acquisition of STAAR Japan, Inc. The risk that unauthorized conduct may go undetected will always be greater in foreign subsidiaries.
We obtain some of the components of our products from a single source, and an interruption in the supply of those components could reduce our sales.
We obtain some of the components for our products from a single source. For example, only one supplier produces our viscoelastic product. The loss or interruption of any of these suppliers could increase costs, reducing our sales and profitability, or harm our customer relations by delaying product deliveries. Even when substitute suppliers are available, the need to certify regulatory compliance and quality standards of substitute suppliers could cause significant delays in production and a material reduction in our sales. Even when secondary sources are available, the failure of one of our suppliers could be the result of an unforeseen industry-wide problem, or the failure of our supplier could create an industry-wide shortage affecting secondary suppliers as well.
Our activities involve hazardous materials and emissions and may subject us to environmental liability.
Our manufacturing, research and development practices involve the use of hazardous materials. We are subject to federal, state and local laws and regulations in the various jurisdictions in which we have operations governing the use, manufacturing, storage, handling and disposal of these materials and certain waste products. We cannot completely eliminate the risk of accidental contamination or injury from these materials. Remedial environmental actions could require us to incur substantial unexpected costs, which would materially and adversely affect our results of operations. If we were involved in an environmental accident or found to be in substantial non-compliance with applicable environmental laws, we could be held liable for damages or penalized with fines.
We depend on key employees.
We depend on the continued service of our senior management and other key employees. The loss of a key employee could hurt our business. We could be particularly hurt if any key employee or employees went to work for competitors. Our future success depends on our ability to identify, attract, train, motivate and retain other highly skilled personnel. Failure to do so may adversely affect our results.
Changes in accounting standards could affect our financial results.
The accounting rules applicable to public companies like STAAR are subject to frequent revision. Future changes in accounting standards could require us to change the way we calculate income, expense or balance sheet data, which could result in significant change to our reported results of operation or financial condition.
We are subject to international tax laws that could affect our financial results.
STAAR conducts international operations through its subsidiaries. Tax laws affecting international operations are highly complex and subject to change. STAAR’s payment of income tax in the different countries where it operates depends in part on internal settlement prices and administrative charges among STAAR and its subsidiaries. These arrangements require judgments by STAAR and are subject to risk that tax authorities will disagree with those judgments and impose additional taxes, penalties or interest on STAAR. In addition, transactions that STAAR has arranged in light of current tax rules could have unforeseeable negative consequences if tax rules change.
If we suffer loss to our facilities due to catastrophe, our operations could be seriously harmed.
We depend on the continuing operation of our manufacturing facilities in California, Japan and Switzerland, which have little redundancy or overlap among their activities. Our facilities are subject to catastrophic loss due to fire, flood, earthquake, terrorism or other natural or man-made disasters. Our California and Japanese facilities are in areas where earthquakes could cause catastrophic loss. If any of these facilities were to experience a catastrophic loss, it could disrupt our operations, delay production, shipments and revenue and result in large expenses to repair or replace the facility. Our insurance for property damage and business interruption may not be sufficient to cover any particular loss, and we do not carry insurance or reserve funds for interruptions or potential losses arising from earthquakes or terrorism.
Most of our products have single-site manufacturing approvals, exposing us to risks of business interruption.
We manufacture all of our products at our facilities in California, Switzerland, and Japan. Most of our products are approved for manufacturing only at one of these sites. Before we can use a second manufacturing site for an implantable device we must obtain the approval of regulatory authorities. Because this process is expensive we have generally not sought approvals needed to manufacture at an additional site. If a natural disaster, fire, or other serious business interruption struck one of our manufacturing facilities, it could take a significant amount of time to validate a second site and replace lost product. We could lose customers to competitors, thereby reducing sales, profitability and market share.
If we are unable to protect our information systems against data corruption, cyber-based attacks or network security breaches, our operations could be disrupted.
We are significantly dependent on information technology networks and systems, including the Internet, to process, transmit and store electronic information. In particular, we depend on our information technology infrastructure for electronic communications among our locations around the world and between our personnel and our subsidiaries, customers, and suppliers. Security breaches of this infrastructure can create system disruptions, shutdowns or unauthorized disclosure of confidential information. If we are unable to prevent such security breaches, our operations could be disrupted or we may suffer financial damage or loss because of lost or misappropriated information.
Risks Related to the Ophthalmic Products Industry
If we recall a product, the cost and damage to our reputation could harm our business.
Medical devices must be manufactured to the highest standards and tolerances, and often incorporate newly developed technology. From time to time defects or technical flaws in medical devices may not come to light until after the products are sold or consigned. In those circumstances, like others in our industry, we have voluntarily recalled our products. Similar recalls could take place again. We may also be subject to recalls initiated by manufacturers of products we distribute. Courts or regulators can also impose mandatory recalls on us, even if we believe our products are safe and effective. STAAR believes that in recent years it has been less affected by recalls than most of its U.S. competitors, but cannot eliminate the risk of a material recall in the future. Recalls can result in lost sales of the recalled products themselves, and can result in further lost sales while replacement products are manufactured, especially if the replacements must be redesigned. If recalled products have already been implanted, we may bear some or all of the cost of corrective surgery. Recalls may also damage our professional reputation and the reputation of our products. The inconvenience caused by recalls and related interruptions in supply, and the damage to our reputation, could cause professionals to discontinue using our products.
If we fail to keep pace with advances in our industry or fail to persuade physicians to adopt the new products we introduce, customers may not buy our products and our sales may decline.
Constant development of new technologies and techniques, frequent new product introductions and strong price competition characterize the ophthalmic industry. The first company to introduce a new product or technique to market usually gains a significant competitive advantage. Our future growth depends, in part, on our ability to develop products to treat diseases and disorders of the eye that are more effective, safer, or incorporate emerging technologies better than our competitors’ products. Sales of our existing products may decline rapidly if one of our competitors introduces a superior product, or if we announce a new product of our own. If we fail to make sufficient investments in research and development or if we focus on technologies that do not lead to better products, our current and planned products could be surpassed by more effective or advanced products. In addition, we must manufacture these products economically and market them successfully by persuading a sufficient number of eye-care professionals to use them. For example, glaucoma requires ongoing treatment over a long period; thus, many doctors are reluctant to switch a patient to a new treatment if the patient’s current treatment for glaucoma remains effective. This has been a challenge in selling our AquaFlow Device.
Resources devoted to research and development may not yield new products that achieve commercial success.
We spent 11% of our sales on research and development during the fiscal year ended January 2, 2009, and we expect to spend approximately 7-10% of our sales for this purpose in future periods. Development of new implantable technology, from discovery through testing and registration to initial product launch, is expensive and typically takes from three to seven years. Because of the complexities and uncertainties of ophthalmic research and development, products we are currently developing may not complete the development process or obtain the regulatory approvals required for us to market the products successfully. Any of the products currently under development may fail to become commercially successful.
Changes in reimbursement for our products by third-party payors could reduce sales of our products or make them less profitable.
Many of our products, in particular IOLs and products related to the treatment of glaucoma, are used in procedures that are typically covered by health insurance, HMO plans, Medicare, Medicaid, or other governmental sponsored programs in the U.S. and Europe. Third party payors in both government and the private sector continue to seek to manage costs by restricting the types of procedures they reimburse to those viewed as most cost-effective and by capping or reducing reimbursement rates. Whether they limit reimbursement prices for our products or limit the surgical fees for a procedure that uses our products, these policies can reduce the sales volume of our reimbursed products, their selling prices or both. For example, the Centers for Medicaid and Medicare have recently reduced the reimbursement rate for glaucoma procedures such as the implantation of our AquaFlow Device. In some countries government insurers have sought to control costs by limiting the total number of procedures they will reimburse. The U.S. Congress has considered legislative proposals that would significantly change the system of public and private health care reimbursement, and will likely consider such changes again in the future. We are not able to predict whether new legislation or changes in regulations will take effect at the state or federal level, but if enacted these changes could significantly and adversely affect our business.
We are subject to extensive government regulation, which increases our costs and could prevent us from selling our products.
STAAR is regulated by regional, national, state and local agencies, including the Food and Drug Administration, the Department of Justice, the Federal Trade Commission, the Office of the Inspector General of the U.S. Department of Health and Human Services and other regulatory bodies, as well as governmental authorities in those foreign countries in which we manufacture or distribute products. The Federal Food, Drug, and Cosmetic Act, the Public Health Service Act and other federal and state statutes and regulations govern the research, development, manufacturing and commercial activities relating to medical devices, including their pre-clinical and clinical testing, approval, production, labeling, sale, distribution, import, export, post-market surveillance, advertising, dissemination of information and promotion. We are also subject to government regulation over the prices we charge and any rebates we may offer to customers. Complying with government regulation substantially increases the cost of developing, manufacturing and selling our products.
In the U.S., we must obtain approval from the FDA for each product that we market. Competing in the ophthalmic products industry requires us to introduce new or improved products and processes continuously, and to submit these to the FDA for approval. Obtaining FDA approval is a long and expensive process, and approval is never certain. In addition, our operations are subject to periodic inspection by the FDA and international regulators. An unfavorable outcome in an FDA inspection may result in the FDA ordering changes in our business practices or taking other enforcement action, which could be costly and severely harm our business.
Our new products could take a significantly longer time than we expect to gain regulatory approval and may never gain approval. If a regulatory authority delays approval of a potentially significant product, the potential sales of the product and its value to us can be substantially reduced. Even if the FDA or another regulatory agency approves a product, the approval may limit the indicated uses of the product, or may otherwise limit our ability to promote, sell and distribute the product, or may require post-marketing studies. If we cannot obtain timely regulatory approval of our new products, or if the approval is too narrow, we will not be able to market these products, which would eliminate or reduce our potential sales and earnings.
Investigations and allegations, whether or not they lead to enforcement action or litigation, can materially harm our business and our reputation.
Failure to comply with the requirements of the FDA or other regulators can result in civil and criminal fines, the recall of products, the total or partial suspension of manufacture or distribution, seizure of products, injunctions, whistleblower lawsuits, failure to obtain approval of pending product applications, withdrawal of existing product approvals, exclusion from participation in government healthcare programs and other sanctions. Any threatened or actual government enforcement action can also generate adverse publicity and require us to divert substantial resources from more productive uses in our business. Enforcement actions could affect our ability to distribute our products commercially and could materially harm our business.
From time to time STAAR is subject to formal and informal inquiries by regulatory agencies, which could lead to investigations or enforcement actions. Even when an inquiry results in no evidence of wrongdoing, is inconclusive or is otherwise not pursued, the agency generally is not required to notify STAAR of its findings and may not inform STAAR that the inquiry has been terminated.
STAAR maintains a hotline for employees to report any violation of laws, regulations or company policies anonymously, which is intended to permit STAAR to identify and remedy improper conduct. Nevertheless, present or former employees may elect to bring complaints including to regulators and enforcement agencies. The relevant agency will generally be obligated to investigate such complaints to assess their validity and obtain evidence of any violation that may have occurred. In response to reports that its policies or applicable laws or regulations have been violated, STAAR may find it necessary to conduct its own intense investigations, which may be extensive. Even without a finding of misconduct, negative publicity about investigations or allegations of misconduct could harm our reputation with professionals and the market for our common stock. Responding to investigations or conducting internal investigations can be costly, time-consuming and disruptive to our business.
We depend on proprietary technologies, but may not be able to protect our intellectual property rights adequately.
We rely on patents, trademarks, trade secrecy laws, contractual provisions and confidentiality procedures and copyright laws to protect the proprietary aspects of our technology. These legal measures afford limited protection and may not prevent our competitors from gaining access to our intellectual property and proprietary information. Any of our patents may be challenged, invalidated, circumvented or rendered unenforceable. Any of our pending patent applications may fail to result in an issued patent or fail to provide meaningful protection against competitors or competitive technologies. Litigation may be necessary to enforce our intellectual property rights, to protect our trade secrets and to determine the validity and scope of our proprietary rights. Any litigation could result in substantial expense, may reduce our profits and may not adequately protect our intellectual property rights. In addition, we may be exposed to future litigation by third parties based on claims that our products infringe their intellectual property rights. This risk is exacerbated by the fact that the validity and breadth of claims covered by patents in our industry may involve complex legal issues that are open to dispute. Any litigation or claims against us, whether or not successful, could result in substantial costs and harm our reputation. Intellectual property litigation or claims could force us to do one or more of the following:
We may not successfully develop and launch replacements for our products that lose patent protection.
Most of our products are covered by patents that, if valid, give us a degree of market exclusivity during the term of the patent. We have also earned revenue in the past by licensing some of our patented technology to other ophthalmic companies. The legal life of a patent in the U.S. is 20 years from application. Patents covering our products will expire from this year through the next 20 years. Upon patent expiration, our competitors may introduce products using the same technology. As a result of this possible increase in competition, we may need to reduce our prices to maintain sales of our products, which would make them less profitable. If we fail to develop and successfully launch new products prior to the expiration of patents for our existing products, our sales and profits with respect to those products could decline significantly. We may not be able to develop and successfully launch more advanced replacement products before these and other patents expire.
Risks Related to Ownership of Our Common Stock
Our charter documents could delay or prevent an acquisition or sale of our company.
Our Certificate of Incorporation empowers the Board of Directors to establish and issue a class of preferred stock, and to determine the rights, preferences and privileges of the preferred stock. These provisions give the Board of Directors the ability to deter, discourage or make more difficult a change in control of our company, even if such a change in control could be deemed in the interest of our stockholders or if such a change in control would provide our stockholders with a substantial premium for their shares over the then-prevailing market price for the common stock. Our bylaws contain other provisions that could have an anti-takeover effect, including the following:
• stockholders have limited ability to remove directors;
• stockholders cannot act by written consent;
• stockholders cannot call a special meeting of stockholders; and
• stockholders must give advance notice to nominate directors.
Anti-takeover provisions of Delaware law could delay or prevent an acquisition of our company.
We are subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law, which regulates corporate acquisitions. These provisions could discourage potential acquisition proposals and could delay or prevent a change in control transaction. They could also have the effect of discouraging others from making tender offers for our common stock or prevent changes in our management.
Future sales of our common stock could reduce our stock price.
Our Board of Directors could issue additional shares of common or preferred stock to raise additional capital or for other corporate purposes without stockholder approval. In addition, the Board of Directors could designate and sell a class of preferred stock with preferential rights over the common stock with respect to dividends or other distributions. Sales of common or preferred stock could dilute the interest of existing stockholders and reduce the market price of our common stock. Even in the absence of such sales, the perception among investors that additional sales of equity securities may take place could reduce the market price of our common stock.
The market price of our common stock is likely to be volatile.
Our stock price has fluctuated widely, ranging from $1.16 to $5.98 per share during the year ended January 2, 2009 and was $0.95 on March 30, 2009. Our stock price could continue to experience significant fluctuations in response to factors such as market perceptions, quarterly variations in operating results, operating results that vary from the expectations of securities analysts and investors, changes in financial estimates, changes in market valuations of competitors, announcements by us or our competitors of a material nature, additions or departures of key personnel, future sales of Common Stock and stock volume fluctuations. Also, general political and economic conditions such as recession or interest rate fluctuations may adversely affect the market price of our stock.
Item 1B. Unresolved Staff Comments
Item 2. Properties
Our operations are conducted in leased facilities throughout the world. Our executive offices, manufacturing, warehouse and distribution, and primary research facilities are located in Monrovia, California. STAAR Surgical AG maintains office, manufacturing, and warehouse and distribution facilities in Nidau, Switzerland. The Company has one additional facility in Aliso Viejo, California for raw material production and research and development activities. STAAR Japan maintains executive offices and distribution facilities in Shin-Urayasu, Japan and a manufacturing and R&D facility in Ichikawa City, Japan. The Company leases additional sales and distribution facilities in Germany and Australia. We believe our manufacturing facilities in the U.S., Switzerland and Japan are suitable and adequate for our current and future planned requirements. The Company could increase capacity by adding additional shifts at our existing facilities.
Item 3. Legal Proceedings
Parallax Medical Systems, Inc. v. STAAR Surgical Company (California Superior Court, County of Orange, Case No. 07CC10136)). On March 2, 2009, following a jury trial in the Superior Court of California, County of Orange, the jury awarded approximately $2.2 million in actual damages and $2.7 million in punitive damages to Parallax Medical Systems, Inc. Parallax is a former independent regional manufacturer’s representative (“RMR”) of STAAR. Parallax promoted sales of STAAR products in the southeastern region of the U.S. under a contract that expired on July 31, 2007. Parallax originally filed its complaint against STAAR on September 21, 2007, claiming, among other things, that STAAR interfered with Parallax’s prospective economic advantage when it informed a regional IOL distributor that Parallax had a covenant restricting the sale of competing products, and that STAAR interfered with Parallax’s contracts when STAAR caused some of its current or former subcontractors to enter into new agreements to represent STAAR products. STAAR filed a cross-complaint alleging breach of contract and misappropriation of trade secrets; the jury found in favor of Parallax on the cross-complaint. The complaint sought $48 million in actual damages and unspecified punitive damages. On March 23, 2009, the court entered judgment based on the verdict.
STAAR believes that the Parallax case was incorrectly decided as to liability, the amount of compensatory damages and the appropriateness and amount of punitive damages. STAAR intends to vigorously contest the outcome of this case through post-trial proceedings and, if necessary, appeal. The court has stayed the execution of judgment and collection of damages until after the completion of post-trial motions and the deadline to file notice of appeal, which is a period of approximately three months. Parallax has notified STAAR that it intends to seek an award of attorney’s fees, which STAAR will oppose on the ground that there is no legal or factual basis for such an award. If the post-trial motions are unsuccessful and STAAR files an appeal, it would need to obtain a surety bond of 1.5 times the judgment amount, fully secured with cash collateral, unless the requirement is reduced by the court, to avoid enforcement of the judgment pending resolution of the appeal.
Moody v. STAAR Surgical Company; (California Superior Court, County of Orange, Case No. 07CC10132). Scott C. Moody, Inc., also a former RMR of STAAR, filed a complaint against STAAR on the same day that Parallax filed its complaint. Moody promoted sales of STAAR products in the southwestern region of the U.S., under a contract that, like Parallax’s, expired on July 31, 2007. Like Parallax, Moody claims that STAAR interfered with Moody’s prospective economic advantage when it informed a regional IOL distributor that Moody had a covenant restricting the sale of competing products, and that STAAR interfered with Moody’s contracts when STAAR engaged two sales representatives who had previously contracted with Moody. The complaint seeks $32 million in actual damages and unspecified punitive damages. STAAR has filed a cross-complaint alleging breach of contract and misappropriation and trade secrets.
The Moody case is currently scheduled to be tried before a jury beginning on May 25, 2009, before a different judge than the Parallax case. STAAR believes that the evidence to be presented in Moody does not support liability for interference with prospective business advantage or interference with Moody’s contracts with former subcontractors, and does not support damages at a level that is material to STAAR. While the Parallax and Moody cases have many facts in common, significant factual differences exist. However, the plaintiffs in both cases allege that the same conduct of STAAR interfered with the RMR’s prospective business advantage, and Moody will also be tried before a jury. Moody has also indicated it will seek punitive damages.
From time to time the Company is subject to various claims and legal proceedings arising out of the normal course of our business. These claims and legal proceedings relate to contractual rights and obligations, employment matters, and claims of product liability. STAAR maintains insurance coverage for product liability claims. While the Company does not know of any other claims likely to have a material adverse effect on its financial condition or results of operations, new claims or unexpected results of existing claims could lead to significant financial harm.
Item 4. Submission of Matters to a Vote of Security Holders
There were no matters submitted to a vote of security holders during the quarter ended January 2, 2009.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters, and Issuer Purchases of Equity Securities
Our Common Stock is traded on the Nasdaq Global Market under the symbol “STAA”. The following table sets forth the reported high and low bid prices of the Common Stock as reported by Nasdaq for the calendar periods indicated:
On March 30, 2009, the closing price of the Company’s Common Stock was $0.95 per share. Stockholders are urged to obtain current market quotations for the Common Stock.
As of April 1, 2009, there were approximately 518 record holders of our Common Stock.
We have not paid any cash dividends on our Common Stock since our inception. We currently expect to retain any earnings for use to further develop our business and not to declare cash dividends on our Common Stock in the foreseeable future. The declaration and payment of any such dividends in the future depends upon the Company’s earnings, financial condition, capital needs and other factors deemed relevant by the Board of Directors and may be restricted by future agreements with lenders.
As of April 1, 2009, options to purchase 2,692,073 shares of Common Stock were exercisable.
Stock Performance Graph
The following graph compares the yearly and cumulative return on an investment in STAAR’s common stock over the last five fiscal years to the yearly and cumulative return of the following over the same time period: (1) the composite of all United States and foreign companies listed on the Nasdaq Stock Market (the “Nasdaq Index”); and (2) the composite of all United States and foreign companies listed on the Nasdaq Stock Market that operate in the surgical, medical and dental instrument and supply industries (the “Peer Index”), based on Standard Industrial Classification (“SIC”) codes in the range of 3840 through 3849. The Company’s SIC code is 3845. The comparison assumes $100 was invested on January 2, 2004 in STAAR’s common stock and in each of those indices, and that dividends were reinvested. The Center for Research in Security Prices of the University of Chicago’s Graduate School of Business compiled the Peer Index and produced the graph. The stock price performance on the following graph is not necessarily indicative of future stock price performance.
In any of our filings under the Securities Act or Exchange Act that incorporate this Proxy Statement by reference, this graph will be considered excluded from the incorporation by reference and it will not be deemed a part of any such other filing unless we expressly state that the graph is so incorporated.
Comparison of Five-Year Cumulative Total Returns
Item 6. Selected Financial Data
The following table sets forth selected consolidated financial data with respect to the five most recent fiscal years ended January 2, 2009, December 28, 2007, December 29, 2006, December 30, 2005 and December 31, 2004. The selected consolidated statement of operations data set forth below for each of the three most recent fiscal years, and the selected consolidated balance sheet data set forth below at January 2, 2009 and December 28, 2007, are derived from our consolidated financial statements, which have been audited by BDO Seidman, LLP, independent registered public accounting firm, as indicated in their report, modified to include an explanatory paragraph relating to the Company’s ability to continue as a going concern, included in this Annual Report. The selected consolidated statement of operations data set forth below for each of the two fiscal years in the periods ended December 30, 2005 and December 31, 2004, and the consolidated balance sheet data set forth below at December 29, 2006, December 30, 2005 and December 31, 2004 are derived from audited consolidated financial statements of the Company not included in this Annual Report. The selected consolidated financial data should be read in conjunction with the consolidated financial statements of the Company, and the Notes thereto, included in this Annual Report, and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in Item 7.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The matters addressed in Management’s Discussion and Analysis of Financial Condition and Results of Operations that are not historical information constitute “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Readers can recognize forward-looking statements by the use of words like “anticipate,” “estimate,” “expect,” “project,” “intend,” “plan,” “believe,” “will,” “target”, “forecast” and similar expressions in connection with any discussion of future operating or financial performance. In particular, these include statements relating to future actions, prospective products or product approvals, future performance or results of current and anticipated products, sales efforts, expenses, interest rates, foreign exchange rates, the outcome of contingencies, such as legal proceedings, and financial results.
Although the Company believes that the expectations reflected in these forward-looking statements are reasonable, such statements are inherently subject to risks and the Company can give no assurance that its expectations will prove to be correct. Actual results could differ from those described in this report because of numerous factors, many of which are beyond the control of the Company. These factors include, without limitation, those described in this Annual Report in “Item 1A — Risk Factors.” The Company undertakes no obligation to update these forward-looking statements after the date of this report to reflect future events or circumstances or to reflect actual outcomes.
The following discussion should be read in conjunction with the audited consolidated financial statements of STAAR, including the related notes, provided in this report.
During 2009, STAAR is focused on the following five strategic operational goals:
Improve cash flow. For several years STAAR has not generated enough cash to sustain its operations and has relied on financing activity to supplement cash from operations. Through a combination of cost cutting and increased sales STAAR has reduced its use of cash significantly in recent periods and, if recent trends continue, STAAR expects to generate positive cash flow from operations within 2009. While STAAR’s goal is to achieve to profitability and generate positive earnings per share, achievement of positive cash flow would be an important milestone for the Company, would enhance its ability to obtain financing on favorable terms, and would permit the Company to further invest in expansion of its business.
STAAR used $8.2 million of cash in operations during fiscal year 2008 compared to $11.2 million of cash used during 2007. Approximately $3.2 million of the total cash used in operating activities in 2008 was used by STAAR Japan in assuming the IOL distribution business acquired from Canon Marketing Japan, Inc. and for payments on inventory purchased from Canon Marketing. STAAR seeks to reduce its use of cash both by cutting costs and by increasing revenue and profit margin. Our strategy to increase profit margin is discussed in detail under Increase Profit Margins below.
Cost-cutting has been an integral part of STAAR’s efforts to increase its cash flow. STAAR’s cost-cutting efforts in the U.S. described in greater detail under the heading “Continue Cost Reduction Efforts” below, yielded savings of approximately $4.5 million. STAAR exited 2008 with approximately $5.0 million in cash and cash equivalents, compared with $10.9 million at the end of fiscal year 2007.
During fiscal year 2008 and early 2009 STAAR’s cash flow has been significantly affected by the cost of defending two lawsuits brought by former regional manufacturer’s representatives. On March 2, 2009, a jury verdict in one of these cases was rendered against STAAR for a total of $4.9 million in actual and punitive damages. Contesting this verdict, litigating the second case, and either satisfying any final judgment or securing a bond for appeal, will require significant additional cash and enhancement of STAAR’s existing cash resources. Management is developing a strategy to meet this extraordinary short-term need for cash, but at the same time is focusing on cash management, increased revenue and improved profit margins as the keys to its long-term success and as the most important factor in attracting future investment. See “Liquidity and Capital Resources” below.
STAAR believes its cash management plans are achievable and continues to seek ways to reduce spending; however, STAAR cannot provide assurance that it will achieve the level of intended savings. STAAR’s cash management plans depend on the ultimate payment, if any, required under to the Parallax judgment, increases in U.S. sales of high-margin ICL and other refractive products as well as improvements in revenue generated by U.S. sales of IOL and other cataract products. During 2008, STAAR experienced an increase of 18% in U.S. sales of ICL products over fiscal year 2007. However, although the rate of decline has slowed, U.S. sales of IOL products declined by 16% over 2007 compared to a 20% decrease when comparing fiscal year 2007 versus 2006. If new cataract product introductions by STAAR do not generate significant additional revenues, STAAR may be required to more significantly reduce spending in its U.S. operations.
Increase gross profit margins. In recent periods STAAR has generally experienced increased sales in all products, except U.S. IOL sales. U.S. IOL sales have been declining, but at a slower pace and, depending on the success of planned product introductions, may resume growth in 2009. While revenue growth remains a key goal, STAAR believes that the key to achieving profitability is to increase its profit margin by the following means:
Continue Cost Reduction Efforts. While STAAR’s international operations, outside of Japan, have generally generated cash or been cash flow neutral in recent periods, losses from U.S. operations have been the principal cause of cash use on a consolidated basis. To reduce these losses, STAAR implemented cost-cutting measures in the third fiscal quarter of 2007 and throughout 2008, including targeted reductions in the U.S. workforce. Beginning in December 2007, STAAR began a process to closely rationalize and evaluate its spending levels. This evaluation identified opportunities by which STAAR sought to save approximately $3.5 million in annualized costs in the U.S. These initiatives included streamlining STAAR’s U.S. organization by reducing spending levels in all areas of the business, renegotiating or eliminating certain obligations, and eliminating all executive bonus opportunities until STAAR showed positive trends toward achieving profitability. During 2008 these reductions in the U.S. totaled $4.5 million, despite an approximate $750,000 increase in legal fees. However, while STAAR has achieved these reductions in its U.S. operations, the reductions have been offset, in part, by the need to increase expenses outside the U.S. to support its 26% international ICL sales growth.
Secure Key Regulatory Approvals. Regulatory approvals of high margin products in significant markets can yield rapid growth in sales and improvements in profitability. The principal approvals pursued by STAAR at this time are the U.S. approval of the TICL and the approval of ICL, TICL, Collamer IOLs and AquaFlow in Japan.
STAAR’s TICL corrects both myopia and astigmatism, and has been shown to be highly effective in treating individuals affected by both conditions. When STAAR has introduced the TICL in international markets it has generally experienced rapid growth, and the TICL may also lead to increased ICL sales by making the product family a more complete solution that physicians can offer to patients. STAAR has applied for approval of the TICL in the U.S., but the FDA has suspended review of the application pending resolution of concerns regarding STAAR’s oversight of the TICL clinical study. This agency action, and STAAR’s progress in resolving it, is discussed below under the caption “Other Highlights: Medical Device Regulatory Compliance, Clinical Oversight and TICL Approval.” Based on experience in international markets, STAAR believes that U.S. sales of the ICL will increase even if TICL approval continues to be delayed. Nevertheless, STAAR believes that approval and introduction of the TICL would significantly enhance refractive sales in the U.S. Obtaining approval remains a part of STAAR’s long-term strategy.
Approval of ICL, TICL, Collamer IOLs and AquaFlow by Japanese regulators is pending. Like other Asian countries, Japan has a high mean rate of myopia, which is often accompanied by astigmatism. As a result STAAR believes that the Japanese market for ICL and TICL is promising. STAAR Japan’s preloaded IOL injectors have established a presence in the Japanese cataract IOL market that could also help establish a market for the Collamer IOL.
Increase the ICL’s Share of the Refractive Market in Key Territories. While the ICL and TICL are approved for sale in over 40 countries, it has achieved significant sales and a significant share of the refractive surgical market in a select number of territories, including the following: U.S. Korea, China, India, Spain, Germany, and Latin America. To date, the highest penetration rate achieved by STAAR for ICL and TICL within the refractive surgery market has been 5%. STAAR believes it has the opportunity to achieve significant profits if it can achieve a 5% or greater penetration rate in these key markets, and during 2009 will focus its international sales efforts on that goal.
U.S. ICL Sales. Notwithstanding strong and sustained growth internationally, U.S. market growth is considered essential because of the size of the U.S. refractive surgery market and the perceived leadership of the U.S. in adopting innovative medical technologies. The Visian ICL was approved by the FDA for treatment of myopia on December 22, 2005.
During fiscal year 2008 STAAR’s U.S. sales of Visian ICLs increased 18% compared to 2007. STAAR believes this represents a trend to resumed growth in U.S. refractive sales following 2007 sales levels that did not grow beyond those reached in the first year of introduction. STAAR believes that the following are among the factors that may have contributed to improved Visian ICL sales in 2008:
To achieve its plans, STAAR will need not only to sustain, but to increase this rate of growth. STAAR believes that such an increase is achievable because, among other things, the favorable media coverage for the ICL and the implementation of STAAR’s revised marketing approach had only begun to have their effect late in the first quarter or early in the second quarter. For example, a segment of the NBC News Today show featuring a successful live ICL surgery, aired on March 5, 2008, and a segment featuring use of ICL aired on the CBS “Early Show” August 8, 2008. Those shows and similar local television news segments resulted in increased consumer interest in ICL, as measured by web traffic and inquiries received on web sites maintained by STAAR and by the surgeons involved.
Notwithstanding the increasing Visian ICL sales in 2008, STAAR will continue to face challenges in marketing the ICL in the U.S., including the following:
Refractive surgery is an elective procedure generally not covered by health insurance. Patients must pay for the procedure, frequently through installment financing arrangements. ICL sales continued to grow during 2008 despite worsening conditions in the general economy. However, STAAR believes that the recession has decreased the growth rate for U.S. ICL sales and likely contributed to a flat rate of growth in the fourth quarter of 2008. U.S. ICL may be further affected if the U.S. recessions deepens or continues for a prolonged period.
On April 25, 2008, the FDA Ophthalmic Devices Panel held a public meeting to discuss issues of medical complications and customer satisfaction following refractive surgery. While the panel also discussed phakic IOLs such as the Visian ICL, most of its discussions centered on LASIK and testimony regarding customer dissatisfaction following LASIK surgery. The Panel recommended enhanced patient warnings of possible complications for LASIK and created a task force to study methods of better identifying those patients who are more likely to have an unsatisfactory outcome from laser vision correction. The proceedings of the Panel were widely reported in the U.S. While it is difficult to assess precisely the impact of the panel hearings on patient attitudes or the recommendations of practicing surgeons, it is possible that reduced demand for laser eye surgery observed in 2008 was caused in part by concerns regarding complications and potential patient dissatisfaction. Patient concerns about LASIK could increase interest in the Visian ICL as an alternative for patients who have a greater risk of complications from LASIK. The fact that the Visian ICL is removable if a patient is dissatisfied with the outcome may also be appealing to some patients with new concerns about risks of refractive surgery. However, the negative publicity concerning LASIK could decrease patient interest in all refractive surgery, including Visian ICL. Because nearly all candidates for refractive surgery can achieve acceptable vision through the use of spectacles or contact lenses, for most patients the decision to have refractive surgery is a lifestyle choice that depends on high confidence in achieving a satisfactory outcome.
STAAR makes the ICL available to selected surgeons only after completion of a training program that includes proctoring of selected supervised surgeries. STAAR believes that this carefully guided method of product release is essential to help ensure the consistent quality of patient outcomes and the high levels of patient satisfaction needed to establish wide acceptance of the ICL as a primary choice for refractive surgery.
As STAAR enters its fourth year of ICL marketing in the U.S., it is placing less emphasis on increasing its overall customer base and devoting more attention to identifying and supporting those practices that show potential for significant repeat business through a professional commitment to the ICL technology. STAAR will continue to provide training and proctoring to all qualified surgeons seeking certification in the ICL.
Because the refractive surgery market has been dominated by corneal laser-based techniques, STAAR faces special challenges in introducing an intraocular refractive implant. STAAR has developed a number of marketing tools and practice support programs to increase the use of the ICL and awareness of its advantages in refractive surgery centers throughout the U.S. and around the world.
U.S. IOL Sales. For several years STAAR has experienced a decline in U.S. market share of IOL. U.S. IOL product sales declined 16% during fiscal year 2008 compared with the 2007 and 20% during 2007 compared with the same period of 2006. Factors contributing to long term decline in U.S. IOL sales include the slow pace of product improvement and enhancement during a period when we devoted most of our research and development resources to introducing the ICL and to resolving the regulatory and compliance issues raised by the FDA. This long-term trend was intensified in 2007 by disruption in STAAR’s independent sales force when STAAR was unable to reach a new contract with regional manufacturer’s representatives, in the third quarter of 2007. In addition the trend was exacerbated by STAAR's lagging behind its competitors in the introduction of IOLs with advanced aspheric optics, and by the entry of Alcon as a competitor in the Toric IOL market.
STAAR’s strategy to achieve profitability in its U.S. IOL business is to rationalize its product offering around its higher value products, including recently introduced products and products planned for introduction in the near future. This has included aspheric optics across all IOL platforms, approval of higher reimbursement from Medicare for these lenses, improved delivery systems for Collamer IOLs to broaden their appeal and preloaded delivery systems for silicone lenses. Successful implementation of this strategy is subject to risks, including the risk of delays in developing new products or securing regulatory approval.
STAAR’s initiatives to enhance its IOL product line have resulted in the following recent developments:
The addition of aspheric optics to STAAR’s IOL designs has been a primary focus of STAAR’s recent development efforts. Aspheric IOLs use advanced optical designs intended to provide a clearer image than traditional spherical lenses, especially in low light, which has led to significant market share gains for aspheric designs. In recognition of these advantages the Centers for Medicare and Medicaid Services (“CMS”) will grant NTIOL status to aspheric IOLs that can demonstrate improved visual performance over conventional IOLs, allowing an extra $50 reimbursement per lens implanted in an ASC (ambulatory surgical center). Because the majority of IOL purchases in the U.S. are implanted at ASCs and reimbursed through Medicare, NTIOL status significantly increases STAAR’s potential margin on qualifying lenses.
All of STAAR's aspheric lenses sold in the U.S. feature a proprietary optical design (patent pending) that is optimized for the naturally curved surface of the retina and certain other anatomical features of the human eye, and provides outstanding image quality even if decentered.
STAAR intends to continue to focus on the following projects designed to make our IOL product offering more competitive:
STAAR cautions that the successful development and introduction of new products is subject to risks and uncertainties, including the risk of unexpected delays.
STAAR’s development efforts aim to realize the full market potential for Collamer IOLs by improving lens delivery systems and differentiating STAAR’s silicone IOL offering through the Preloaded Injector. The majority of IOLs sold by STAAR in the U.S. are made of silicone, which was the original material used for foldable IOLs. However, physician preferences in the U.S. have strongly shifted to acrylic IOLs which currently account for an approximately 76% share of the U.S. IOL market. STAAR believes that its Collamer lenses have outstanding optical qualities and superior biocompatibility, and should be capable of competing with any of our competitor’s acrylic lens products in the advanced material sector. In addition, increasing use of the ICL, which relies on the outstanding optical properties of Collamer, has also introduced the advantages of the Collamer material to a growing number of surgeons. However, growth of the Collamer IOL market has been limited by the difficulty of perfecting delivery systems for the soft Collamer material. Although acrylic lenses do not have the same level of optical performance in the eye as Collamer and often introduce glare or glistening into the visual field, the stiffness and toughness of the acrylic material makes design of delivery systems simpler. STAAR has a number of development projects in place intended to make Collamer lenses easier to deliver and broaden customer appeal. The nanoPOINT injector system, which delivers the one-piece Collamer IOL through a 2.2 mm incision, was the first of these projects to reach market and was launched in April 2008.
While the U.S. market share for silicone IOLs has been slowly declining overall, a significant number of surgeons continue to select silicone lenses for their patients. STAAR believes that its recently introduced aspheric, three–piece silicone IOL offers outstanding optical performance and with its recently granted NTIOL status could enable STAAR to retain or possibly increase its market share within the silicone IOL sector, especially if STAAR’s efforts are successful in securing FDA approval to make it available in a Preloaded Injector.
We have developed and currently market the Toric IOL, a toric version of our single-piece silicone IOL, which is specifically designed for cataract patients who also have pre-existing astigmatism. Until 2006 only STAAR sold Toric IOLs in the U.S. because CMS allows cataract patients receiving reimbursement to pay a premium for the correction of pre-existing astigmatism, while Medicare provides the customary reimbursement for cataract surgery, Toric IOLs can be sold at a higher price and higher profit margin than standard IOLs. CMS also permits the patient to separately remunerate the surgeon for the significant additional services needed to prescribe and implant a lens with toric correction for astigmatism. The increased revenues and profit margin originally expected by STAAR as a result of the CMS ruling have, to date, not been realized because of the introduction of a competing acrylic toric IOL by Alcon Laboratories. In particular, STAAR believes that in 2007 a number of customers who previously had purchased STAAR’s Toric IOL but had otherwise been customers of Alcon’s ophthalmic products, converted to use of the Alcon Toric IOL.
Reversing the decline in U.S. IOL sales will require STAAR to overcome several short and long-term challenges, including successfully meeting its objectives to develop new and enhanced products, organizing, training and managing a specialized cataract sales force, managing independent local sales representatives, competing with much larger companies and overcoming reputational harm from the FDA’s findings of compliance deficiencies. We cannot assure that this strategy will ultimately be successful.
Reorganization of U.S. Sales Force. STAAR comprehensively reorganized its U.S. sales force in the latter part of 2007 and early 2008. STAAR now directly employs its regional sales managers. At the local level STAAR continues to rely on independent sales representatives as well as employees to promote sales and demonstrate products. STAAR believes that its reorganized sales force will position the company to capitalize on enhancements to its cataract product line intended to make the line more competitive.
Medical Device Regulatory Compliance, Clinical Oversight and TICL Approval. As discussed above under the caption “Business — Regulatory Matters,” STAAR’s ability to develop, manufacture and distribute its products depends heavily on maintaining good standing with the FDA and other regulatory agencies. Based on the results of the FDA inspections of STAAR’s Monrovia, California facilities in 2005 and 2006, STAAR believes that it is substantially in compliance with the FDA’s Quality System Regulations and Medical Device Reporting regulations. STAAR has invested significant resources in maintaining regulatory compliance and expects to continue to do so in the future.
Notwithstanding its success in overcoming past concerns regarding its quality systems, STAAR believes that it has not yet fully overcome the reputational harm caused by the FDA’s past findings of compliance deficiencies, which may continue to present a challenge in increasing U.S. product sales. In the opinion of STAAR’s management, the June 26, 2007 warning letter from the Bioresearch Monitoring Program of the FDA Office of Regulatory Affairs (“BIMO”) and the integrity hold placed on STAAR’s clinical activities by the Office of Device Evaluation, although they concern STAAR’s oversight of clinical activities rather than its quality systems, have perpetuated the reputational harm resulting from the earlier FDA actions, and have made it more difficult for STAAR to regain its former market share. STAAR believes that U.S. approval of the TICL, if granted, and continued evidence of good standing with the FDA will reduce and may eventually eliminate the reputational harm caused by past agency actions.
While STAAR’s international business generates 75% of STAAR’s revenue, STAAR has reported losses on a consolidated basis over the last several years due to a number of factors, including eroding sales of cataract products in the U.S. and FDA compliance issues that consumed additional resources while delaying the introduction of new products in the U.S. market. In May 2007 STAAR raised net proceeds of $16.6 million from the public offering and sale of common stock, the proceeds of which were used to pay off the March 2007 $4.0 million Broadwood note and for general working capital purposes. On December 14, 2007, STAAR also borrowed $5 million from Broadwood Partners, L.P., at an interest rate of 7% per annum, primarily to fund the acquisition of STAAR’s remaining interest in the Canon Staar Joint Venture.
STAAR’s management believes that its best prospect for achieving profitability in its U.S. and consolidated operations is to significantly increase U.S. sales of the ICL and to reduce operating expenses. In the longer term STAAR seeks to develop and introduce products in the U.S. cataract market to stop further erosion of its market share and resume growth in that sector.
The final judgment expected to result from the $4.9 million Parallax verdict, and the cost and exposure to a negative outcome in subsequent litigation, will exceed STAAR’s current capital resources. Accordingly, STAAR expects to seek additional equity or debt financing, to divest itself of non-strategic assets, or pursue some combination of the foregoing to meet its need for working capital in 2009. STAAR may also seek new capital to expand its business or fund efforts to improve efficiency. However, STAAR does not expect to require significant new working capital to support operations if its initiatives for cash management and improved profitability continue in line with present trends.
Results of Operations
The following table sets forth the percentage of total revenues represented by certain items reflected in the Company’s consolidated statement of operations for the period indicated and the percentage increase or decrease in such items over the prior period.
* Denotes change is greater than 100%
2008 Fiscal Year Compared to 2007 Fiscal Year
Net sales for the year ended January 2, 2009 (“fiscal 2008”) were $74,894,000, an increase of 26.2% compared with net sales for the year ended December 28, 2007 (“fiscal 2007”) of $59,363,000. Changes in currency exchange rates had a favorable $1.6 million impact on net sales for fiscal 2008. During fiscal 2008, global sales of ICLs and TICLs grew 24.1% to $19,069,000 compared with $15,368,000 in fiscal 2007; global sales of IOLs increased 40.8% to $32,926,000 compared with $23,379,000 in fiscal 2007 as a result of the acquisition of STAAR Japan, which contributed $12,167,000 in 2008 in total IOL sales. Sales of other surgical products, generally used during cataract surgery, increased 11.1%.
U.S. net sales for fiscal 2008 decreased 4.0% to $18,927,000 compared with fiscal 2007, due to a 16.0% decrease in IOL sales which was largely offset by a 17.9% increase in ICL sales and a 6.4% increase in other product sales. Although IOL sales declined 16% for the full year, the year over year rate of decline has slowed from 26% in the fourth quarter of 2007 to 5% in the fourth quarter of 2008.
International net sales for fiscal 2008 were $55,967,000, an increase of 41.2% compared with fiscal 2007. International IOL sales were $23,461,000, up 93.8%, compared with $12,106,000 in 2007. The significant increase in IOL sales is due to the acquisition of STAAR Japan at the beginning of 2008, partially offset by a decrease in IOL sales in international markets outside of Japan. During 2008, international sales of ICLs increased 26.3% to $14,207,000, compared with $11,245,000 in fiscal 2007 and other surgical product sales increased 12.3% to $18,299,000, compared with $16,291,000 in fiscal 2007.
Gross profit margin
Gross profit margin for the fiscal 2008 was 53.6% compared with 49.3% for fiscal 2007. The increase in gross profit margin is due to sales of preloaded IOLs in Japan which yield higher average selling prices than in other countries, increased sales of ICLs, particularly in the U.S. where prices are higher, and increased sales of TICLs. The improvement in gross profit margin was partially offset by the STAAR Japan acquired inventory, which was recorded at fair value in accordance with purchase accounting rules. This higher valued inventory was sold during 2008 resulting in $1.5 million in additional cost of goods sold.
The Company expects gross profit margin to increase as sales of ICLs globally and preloaded IOLs in Japan become a larger percentage of overall revenue mix and sales of aspheric IOLs replace sales of non-aspheric IOLs in the U.S.
General and administrative
General and administrative expenses for fiscal 2008 were $15,730,000, representing a 21% increase over the $12,951,000 reported in fiscal 2007, entirely due to $3,690,000 incurred by STAAR Japan, offset by $911,000 reduction in the rest of the Company despite significant legal costs associated with the sales representative litigation.
Marketing and selling
Marketing and selling expenses for fiscal 2008 were $27,053,000, representing a 14% increase over the $23,723,000 reported in fiscal 2007. The increase in marketing and selling expenses for fiscal 2008 was due to the $4,098,000 in costs associated with STAAR Japan. Marketing and selling expenses in the U.S. decreased $2,353,000 and this decrease was partially offset by a $1,586,000 increase in international expenses outside of Japan and the U.S. to support the increase in ICL sales.
Research and development
Research and development expenses, including regulatory and clinical expenses, for fiscal 2008 were $7,938,000, representing an 18% increase over the $6,711,000 reported in fiscal 2007. The increase is due to the $2,164,000 in costs associated with STAAR Japan, offset by a decrease of $937,000 as a result of cost reduction measures taken in the U.S. to improve cash flows. The Company expects to spend approximately 7-10% of revenues in fiscal 2009 on its research and development activities.
Other operating expenses
Other operating expenses for fiscal 2008 were $9,773,000 and consisted of the following: 1) loss on settlement of pre-existing distribution arrangement in the amount of $3,850,000. The loss was recorded in connection with the Company’s acquisition of STAAR Japan and represented the portion of the consideration paid by STAAR for the termination of the pre-existing distribution arrangement that was deemed unfavorable to STAAR Japan and to STAAR when compared to an at market arrangement as of the closing date of the acquisition; 2) patent impairment charges in the amount of $1,023,000. This non-cash expense was recorded in connection with certain patents that were determined to have minimal fair value to the Company pursuant to the annual impairment review; and 3) jury verdict in favor of Parallax Medical Systems, Inc. reached subsequent to year end in the amount of $4,900,000 (see “Item 3 – Legal Proceedings”).
The Company recorded an income tax provision of $1,523,000 and $843,000 for fiscal 2008 and 2007 respectively. The increase in the provision of $680,000 was primarily due to increases in the Company’s current foreign tax provision of $933,000 due to pre-tax profits generated by STAAR Surgical AG, offset by a decrease in the foreign deferred tax provision of $255,000.
2007 Fiscal Year Compared to 2006 Fiscal Year
Net sales for the year ended December 28, 2007 (“fiscal 2007”) were $59,363,000, an increase of 4.2% compared with net sales for the year ended December 29, 2006 (“fiscal 2006”) of $56,951,000. Changes in currency exchange rates had a $2.2 million impact on net sales for fiscal 2007.
U.S. net sales for fiscal 2007 decreased 13.4% to $19,721,000 compared with fiscal 2006, primarily due to a 19.6% decrease in IOL sales and a 5.7% decrease in other product sales mainly related to other refractive products. The decline in cataract product sales is due, in part, to a shift in market preference from spherical IOLs to aspheric IOLs. The Company introduced its first aspheric IOL made of Collamer during the second quarter of 2007 which should allow the Company to compete more effectively in this market segment. The decrease in other refractive product sales is due primarily to decreased sales of instruments used in ICL surgery. Sales of ICLs were essentially flat year over year in the U.S.
International net sales for fiscal 2007 were $39,642,000, an increase of 16% compared with fiscal 2006. During 2007, international ICL and TICL sales increased 42% to $11,245,000 compared with $7,922,000 in fiscal 2006 and a 13% increase in other product sales mainly related to cataract surgeries. In fiscal 2006, international cataract related sales were negatively impacted by doctor strikes in Germany, one of STAAR’s largest cataract sales markets. These labor disputes were subsequently settled in the same year. Sales of IOL were essentially flat year over year internationally.
During fiscal 2007, global sales of ICLs and TICLs grew 27% to $15,368,000 compared with $12,093,000 in fiscal 2006.
Gross profit margin
Gross profit margin for fiscal 2007 was 49.3% compared with 45.9% for fiscal 2006. The increase in gross profit margin is due to reduction in inventory reserves, higher average selling prices of certain IOLs and TICLs, increased volume sales of higher margin ICLs and TICLs and improved overall IOL costs partially offset by an increase in manufacturing engineering costs. The gross profit for fiscal 2006 was impacted by obsolescence charges of $807,000 for certain IOL inventory in anticipation of new product launches in 2007 and to a lesser degree slower moving diopters of other lenses. This charge reduced 2006’s gross profit margin by approximately 1.4%.
General and administrative
General and administrative expenses for fiscal 2007 increased 18.9% or $2,060,000 over fiscal 2006. The increase was primarily due to costs associated with the Domilens investigation of approximately $1,000,000, increased legal expenses of $400,000, increased compensation expense associated with executive relocation and other general cost increases.
Marketing and selling
Marketing and selling expenses for fiscal 2007 increased 7.3% or $1,611,000 compared with fiscal 2006. The increase in marketing and selling expenses for fiscal 2007 primarily resulted from increased international costs to support the increase in international sales and increased domestic costs from increased salaries, travel and consulting fees partially offset by decreased commissions.
Research and development
Research and development expenses, including regulatory and clinical expenses, for fiscal 2007 decreased 5.2% or $369,000 compared with fiscal 2006. The decrease is due to decreased legal fees and costs associated with new product development.
Other (expense) income, net
Other expense, net for fiscal 2007 was $1,037,000, compared to net other income of $95,000 for fiscal 2006. The increase in other expenses is due to 1) decreased earnings from joint venture; 2) increased interest expense from financing arrangements; 3) increased foreign exchange losses; 4) write-off of deferred financing costs and losses from the extinguishment of the March 2007 $4.0 million Broadwood Note, partially offset by a fair value adjustment upon revaluation of the March 2007 Broadwood warrant obligation at December 28, 2007.
The Company recorded a provision for income taxes of $843,000 for fiscal 2007 and $1,537,000 for fiscal 2006. During fiscal 2007, the Company reached a settlement with the German Ministry of Finance related to taxes assessed in connection with unreported sales of a company controlled by the former President of Domilens, GmbH. As a result of the settlement, the Company reversed approximately $460,000 in income tax expense originally recorded in the fourth quarter of 2006, based on the best information available to management at that time.
Liquidity and Capital Resources
The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern, which contemplates the realization of assets and the liquidation of liabilities in the normal course of business. For several years STAAR has incurred significant losses, has not generated sufficient cash to sustain its operations, and has relied on financing activity to supplement cash from operations. As of January 2, 2009, STAAR had approximately $5 million of cash and cash equivalents. STAAR’s likely cash requirements rose considerably on March 2, 2009, when an adverse verdict against STAAR in Parallax Medical Systems, Inc. (“Parallax”) v. STAAR Surgical Company, a case originally filed on September 21, 2007, resulted in an award against STAAR of approximately $2.2 million in actual damages and $2.7 million in punitive damages. The $4.9 million judgment appears as “Other expenses” in total selling, general and administrative expenses in the consolidated statements of operations for the year ended January 2, 2009 and in “other current liabilities” on the consolidated balance sheets as of the year then ended. The Parallax verdict, along with STAAR’s history of recurring losses, negative cash flows and limited access to capital, has raised substantial doubt regarding STAAR’s ability to continue as a going concern. The accompanying consolidated financial statements do not include any adjustments that might result from the outcome of this uncertainty.
STAAR believes that the Parallax case was incorrectly decided as to liability, the amount of compensatory damages and the appropriateness and amount of punitive damages. As part of its strategy to resolve doubt about its ability to continue as a going concern, STAAR intends to vigorously contest the outcome of the Parallax case through post-trial proceedings and, if necessary, appeal, in an effort to reduce the amount of the judgment against STAAR.
STAAR also seeks to overcome this substantial doubt concerning its ability to continue as going concern by continuing to pursue its strategic operating goals for enhanced profitability and by obtaining new debt and/or equity financing. STAAR’s strategic operating goals include the following:
In addition, STAAR’s ability to overcome this substantial doubt concerning its ability to continue as a going concern depends on several factors involving certain current litigation matters. The Parallax court has stayed the execution of judgment and collection of damages until after the completion of post-trial motions and the deadline to file notice of appeal, which is a period of approximately three months. If STAAR is unable to obtain additional capital to satisfy the judgment or post an appeal bond before the expiration of the stay, STAAR could be required to petition for protection under federal bankruptcy laws, which could further impair its financial position and liquidity, and would likely result in a default of its other debt obligations. In addition, another lawsuit similar to the Parallax case, Moody v. STAAR Surgical Company, is currently scheduled for trial in the Superior Court of California, County of Orange, on May 25, 2009 and could result in further significant liability. As of the date of this report, STAAR believes that the differences in the Moody case present uncertainties such that the outcome is neither probable nor remote and therefore, STAAR cannot estimate the amount or range of loss, if any, in the event of an unfavorable outcome.
The substantial doubt about STAAR’s ability to continue as a going concern could also affect STAAR’s relationship with its trade suppliers and their willingness to continue to conduct business with STAAR on terms consistent with historical practice. These suppliers might respond to an apparent weakening of our liquidity position and to address their own liquidity needs may request faster payment of invoices, new or increased deposits or other assurances. If this were to happen, the Company’s need for cash would be intensified and we might be unable to make payments to our suppliers as they become due.
Among the events of default in the Senior Promissory Note (“the Note”) held by Broadwood Partners, L.P. is any judgment in excess of $500,000 against the Company that “shall remain unpaid.” Because STAAR is not required to pay the Parallax judgment until the expiration of the stay 40 days after final judgment, and because the amount to be paid pursuant to the judgment will not be fixed until final judgment is rendered on or before May 22, 2009, STAAR believes that as of the date of this Report the Parallax judgment should not be deemed “unpaid” and that an event of default under the Senior Promissory Note would not have occurred. To avoid dispute over this matter and to secure the lender’s temporary waiver of remedies for an event of default during the stay of the Parallax judgment, STAAR and Broadwood entered into a Temporary Waiver Agreement on April 2, 2009.
If the Company is unable to successfully appeal the judgment and/or is required to pay the amount as awarded by the jury or some other amount and is unable to pay, this could also constitute an event of default of the existing outstanding debt, thereby potentially requiring the Company to seek relief under the U.S. Bankruptcy Code.
Overview of Changes in Cash and Cash Equivalents and Other Working Capital Accounts.
Credit Facilities, Contractual Obligations and Commitments
The Company has credit facilities with different lenders to support operations in the U.S., Germany, and Japan.
On December 14, 2007, the Company borrowed $5 million from Broadwood Partners, L.P. (“Broadwood”) pursuant to a Senior Promissory Note (the “Note”) between the Company and Broadwood. The borrowed funds were used to finance the cash consideration and related transaction costs in the Company’s purchase of the remaining interests in its Canon Staar Co., Inc. joint venture. The Note has a term of three years and bears interest at a rate of 7% per annum. Under the Note a default, if not waived, would result in an escalation of the interest rate to a maximum of 20% per annum. The Note is not secured by any collateral, may be pre-paid by the Company at any time without penalty, and is not subject to covenants based on financial performance or financial condition (except for insolvency). The Note provides that, with certain exceptions, the Company will not incur indebtedness senior to or at parity with its indebtedness under the Note without the consent of Broadwood.
On March 2, 2009, a verdict was rendered in the case of Parallax Medical Systems, Inc. v. STAAR Surgical Company whereby a jury awarded Parallax approximately $4.9 million, comprising of $2.2 million in actual damages and $2.7 million in punitive damages. Among the events of default in the Senior Promissory Note (“the Note”) held by Broadwood Partners, L.P. is any judgment in excess of $500,000 against the Company that “shall remain unpaid.” Because STAAR is not required to pay the Parallax judgment until the expiration of the stay 40 days after final judgment, and because the amount to be paid pursuant to the judgment will not be fixed until final judgment is rendered on or before May 22, 2009, STAAR believes that as of the date of this Report the Parallax judgment should not be deemed “unpaid” and that an event of default under the Senior Promissory Note would not have occurred. To avoid dispute over this matter and to secure the lender’s temporary waiver of remedies for an event of default during the stay of the Parallax judgment, STAAR and Broadwood entered into a Temporary Waiver Agreement on April 2, 2009. The Temporary Waiver Agreement provides that any event of default under the Note that occurs or may be deemed to have occurred as a result of the Parallax judgment will be waived for the shorter of the duration of the stay period and July 6, 2009. At the expiration of the stay, if the Parallax judgment has been satisfied any such default will be cured and the interest rate will go back to 7%. If the Parallax judgment is not satisfied, but STAAR secures an additional stay pending appeal, any such default will be deemed partially cured and the Note will not be subject to acceleration; however, interest under the Note will rise to the default rate of a maximum 20%, an increase of $650,000 per year in interest expense unless and until the Parallax judgment is satisfied and any other pending and undecided material litigation is resolved. As consideration for Temporary Waiver Agreement, STAAR will amend the Note to grant to Broadwood a security interest in all of STAAR’s assets to secure STAAR’s obligations under the Senior Note. The foregoing summary of the Temporary Waiver Agreement is qualified in its entirety by reference to the complete text of that agreement, a copy of which is attached to this Report as Exhibit 10.71.>
As additional consideration for the loan the Company also entered into a Warrant Agreement (the “Warrant Agreement”) with Broadwood granting the right to purchase up to 700,000 shares of Common Stock at an exercise price of $4.00 per share, exercisable for a period of six years. The Note also provides that if the Company has any indebtedness outstanding on the Note on June 29, 2009, it will issue additional warrants on the same terms as set forth in the Warrant Agreement in a number equal to 700,000 times the percentage of the original $5 million principal that remains outstanding. The Note also gives Broadwood the right to participate on a pro rata basis in certain offerings of equity securities until the Note is no longer outstanding.
Based on representations made by Broadwood in the Promissory Note, on the date of the transaction, Broadwood beneficially owned 4,396,231 shares of the Company’s common stock, comprising 15% of the Company’s common stock as of December 14, 2007. Based on publicly available information filed by Broadwood, Neal Bradsher, President of Broadwood Partners, L.P., may have been deemed to beneficially own all of the 4,396,231 shares. Broadwood also holds a warrant to purchase 70,000 shares of Common Stock at an exercise price of $6.00 per share, which warrant was issued in connection with a loan of $4 million by Broadwood under a Promissory Note dated March 21, 2007. The March 21, 2007 Promissory Note was repaid in full on June 20, 2007.
The Company’s lease agreement with Farnam Street Financial, Inc., as amended on October 9, 2006, provides for purchases of up to $1,500,000 of property, plant and equipment. In accordance with the requirements of SFAS 13 “Accounting for Leases,” purchases under this facility are accounted for as capital leases and have a three-year term. Under the agreement, the Company has the option to purchase any item of the leased property, at the end of the respective items lease terms, at a mutually agreed fair value. On April 1, 2007, the Company signed an additional leasing schedule with Farnam, which provides for additional fixed assets purchases of $800,000. The terms of this new schedule conform to the amended agreement dated October 9, 2006. Approximately $250,000 in borrowings were available under this facility as of January 2, 2009.
The Company’s lease agreement with Mazuma Capital Corporation, as amended on August 16, 2006, provided for purchases of up to $301,000 of property, plant and equipment. In accordance with the requirements of SFAS 13 “Accounting for Leases,” purchases under this facility are accounted for as capital leases and have a two-year term. The Company was required to open a certificate of deposit as collateral in STAAR Surgical Company’s name at the underwriting bank for 50% of the assets funded by Mazuma. As of December 28, 2007, the Company had a certificate of deposit for approximately $150,000 recorded as “short-term investment — restricted” with a 12-month term at a fixed interest rate of 4.5%. During the third quarter of 2008 the Mazuma capital leases were paid and the certificate of deposit was closed.
Lines of Credit
The Company’s German subsidiary, Domilens, entered into a credit agreement on August 30, 2005. The renewed credit agreement provides for borrowings of up to 100,000 EUR ($140,000 at the rate of exchange on January 2, 2009), at a rate of 8.5% per annum and does not have a termination date. The credit agreement may be terminated by the lender in accordance with its general terms and conditions. The credit facility is not secured. There were no borrowings outstanding as of January 2, 2009 and December 28, 2007 and the full amount of the line was available for borrowing as of January 2, 2009.
The Company’s Japanese subsidiary, STAAR Japan, has an agreement with Mizuho Bank providing borrowings of up to 400,000,000 Japanese Yen (approximately $4.4 million based on the rate of exchange on January 2, 2009), at an interest rate equal to the Tokyo short-term prime interest rate (approximately 1.675% fixed as of January 2, 2009) and terminates on April 20, 2009, but may be renewed annually. The credit facility is not collateralized. As of January 2, 2009 the Company had 200,000,000 Japanese Yen outstanding on the line of credit (approximately $2.2 million based on the rate of exchange on January 2, 2009).
The lines of credit available to our subsidiaries are subject to various covenants, and we risk defaulting on the terms of our lines of credit. Our limited borrowing capacity could cause a shortfall in working capital or prevent us from making expenditures to expand or enhance our business. Although we were compliant with our line of credit covenants as of January 2, 2009, a default on any of our lines of credit could cause an immediate termination and jeopardize our ability to continue operations.
The following table represents the Company’s known contractual obligations as of January 2, 2009 (in thousands):
*Based on the current stated rate of 7% per annum.
Critical Accounting Policies
The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of sales and expenses during the reporting period. On an on-going basis, we evaluate our estimates, including those related to revenue recognition, allowances for doubtful accounts and sales return, inventory reserves and income taxes, among others. Our estimates are based on historical experiences, market trends and financial forecasts and projections, and on various other assumptions that management believes are reasonable under the circumstances and at that certain point in time. Actual results may differ, significantly at times, from these if actual conditions differ from our assumptions.
We believe the following represent its critical accounting policies.
Management does not believe that the fluctuation in the value of the dollar in relation to the currencies of its suppliers or customers in the last three fiscal years had adversely affected our ability to purchase or sell products at agreed upon prices. No assurance can be given, however, that adverse currency exchange rate fluctuations will not occur in the future, which could significantly affect our operating results. We do not engage in hedging transactions to offset changes in currency or fluctuations in foreign currencies.
Management believes inflation has not had a significant impact on our operations during the past three years.
Recent Accounting Pronouncements
On December 30, 2008, FASB Staff Position (FSP) No. 132 (R) - 1 was issued and amends SFAS No. 132 (R), Employer’s Disclosures about Pensions and Other Postretirement Benefits, to provide guidance on an employer’s disclosures about plan assets of a defined benefit pension (DBP) or other postretirement plan. This FSP also includes certain requirements for non public companies’ disclosures about net periodic pension cost. The FASB broadened the scope of this FSP to require employers to disclose information about fair value of measurements of plan assets that would be similar to the disclosures about fair value measurements required by SFAS No. 157. The FSP was in response to concerns about the lack of transparency surrounding the types of assets and associated risks in an employer’s defined benefit plan and events in the economy and markets that could have a significant effect on the value of plan assets. This FSP applies to an employer that is subject to the disclosures requirements of SFAS 132 (R). The objectives of the disclosures about plan assets in DBP plans include how investment allocation decisions are made, including pertinent investment policies and strategies, the major categories of plan assets, the inputs and valuation techniques used to measure the fair value of plan assets, the effect of fair value measurements using significant unobservable inputs (Level 3) on changes in plan assets for the period, and significant concentration of risk within plan assets. The disclosure requirements of this FSP are effective for fiscal years ending after December 15, 2009, however earlier application is permitted. The Company believes that the adoption of this FSP will not have a significant impact on its consolidated financial statements.
In April 2008, the Financial Accounting Standards Board (“FASB”) issued FASB Staff Position FAS 142-3, “Determination of Useful Life of Intangible Assets” (“FSP 142-3”). FSP 142-3 amends the factors that should be considered in developing the renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FAS 142, “Goodwill and Other Intangible Assets” and also requires expanded disclosure related to the determination of intangible asset useful lives. FSP 142-3 intends to improve the consistency between the useful life of a recognized intangible asset under FAS 142 and the period of expected cash flows used to measure the fair value of the asset under SFAS 141R, and other GAAP. FSP 142-3 is effective for fiscal years beginning after December 15, 2008. Earlier adoption is not permitted. We believe that the adoption of FSP 142-3 will not have a significant impact on our consolidated financial statements.
In March 2008, the FASB issued Statement No. 161, “Disclosures about Derivative Instruments and Hedging Activities — an amendment of FASB Statement No. 133” (“SFAS 161”). SFAS 161 requires entities to provide enhanced disclosures about (a) how and why an entity uses derivative instruments and that the objectives for using derivative instruments be disclosed in terms of underlying risk and accounting designation, (b) how derivative instruments and related hedged items are accounted for under SFAS 133, “Accounting for Derivative Instruments and Hedging Activities” and its related interpretations, including a tabular format disclosure of the fair values of derivative instruments and their gains and losses and (c) how derivative instruments and related hedged items affect an entity’s financial position, financial performance and cash flows. SFAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. SFAS 161 encourages, but does not require, comparative disclosures for earlier periods at initial adoption. We believe that the adoption of SFAS 161 will not have a significant impact on our consolidated financial statements.
In December 2007, the SEC issued Staff Accounting Bulletin (“SAB”) No. 110, “Share-Based Payment” (“SAB 110”), which became effective on January 1, 2008. SAB 110 allows companies, under certain circumstances, to continue using the “simplified” method of estimating the expected term of “plain vanilla” share options discussed in SAB No. 107, “Share-Based Payment,” in accordance with SFAS 123R. Under SAB 107, the SEC staff had previously indicated that it would not expect companies to use the “simplified” method for share option grants made after December 31, 2007, however the SEC staff understands that such detailed information about employee exercise behavior may not be available by December 31, 2007 and therefore, under certain circumstances, the staff will continue to accept the use of the simplified method beyond this date. We adopted SAB 110 on January 1, 2008 and it did not have a significant impact on our consolidated financial statements.
In December 2007, the FASB issued Statement No. 141 (revised 2007), “Business Combinations” (“SFAS 141R”), which replaces SFAS 141. SFAS 141R retains the fundamental requirements in SFAS 141 and establishes principles and requirements for (a) how an acquirer recognizes and measures the identifiable assets acquired, the liabilities assumed and any non-controlling interest in the acquired business, (b) how an acquirer recognizes and measures the goodwill acquired in the business combination or a gain from a bargain purchase, and (c) what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination.. SFAS 141R applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. We cannot anticipate whether the adoption of SFAS 141R will have a material impact on our results of operations and financial condition as the impact will depend on the terms and nature of any business combination we enter into, if any, on or after January 3, 2009.
In December 2007, the FASB issued Statement No. 160, “Noncontrolling Interests in Consolidated Financial Statements — an amendment to ARB No. 51” (“SFAS 160”). SFAS 160 establishes the standards for accounting and reporting of noncontrolling interests in subsidiaries, currently known as minority interests, in consolidated financial statements. SFAS 160 also provides guidance on accounting for changes in a parent’s ownership interest in a subsidiary and establishes standards of accounting for the deconsolidation of a subsidiary. SFAS 160 requires an entity to present minority interests as a component of equity and to present consolidated net income attributable to the parent and to the noncontrolling interest separately on the face of the consolidated financial statements. SFAS 160 is effective for fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008. We believe that the adoption of SFAS 160 will not have a significant impact on our consolidated financial statements.
In February 2007, the FASB issued Statement No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — including an amendment of FASB Statement No. 115” (“SFAS 159”), which permits entities to choose to measure many financial instruments and certain other assets and liabilities at fair value on an instrument-by-instrument basis (the fair value option). Unrealized gains and losses on items for which the fair value option has been elected are to be recognized in earnings at each subsequent reporting date. SFAS 159 is effective for fiscal years beginning after November 15, 2007. We have not elected the fair value option for any of the eligible financial assets or liabilities.
In September 2006, the FASB issued Statement No. 157, “Fair Value Measurements” (“SFAS 157”), which clarifies the definition of fair value, establishes a framework for measuring fair value and expands the disclosures about fair value measurements. SFAS 157 is effective for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. On February 12, 2008, the FASB issued FASB Staff Position FAS 157-2, which delays the effective date of SFAS 157 for nonfinancial assets and nonfinancial liabilities, except for those that are recognized or disclosed at fair value in the financial statements on a recurring basis (at least annually), to fiscal years beginning after November 15, 2008 and interim periods within those fiscal years. As such, we partially adopted SFAS 157 on December 29, 2007 and it did not have a significant impact on our consolidated financial statements, except for the measurement of the plan assets’ fair value and disclosures relevant to our defined benefit plans which we have made pursuant to SFAS 157.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
In the normal course of business, our operations are exposed to risks associated with fluctuations in interest rates and foreign currency exchange rates. The Company manages its risks based on management’s judgment of the appropriate trade-off between risk, opportunity and costs. Management does not believe that these market risks are material to the results of operations or cash flows of the Company, and, accordingly, does not generally enter into interest rate or foreign exchange rate hedge instruments.
Interest rate risk. As of January 2, 2009, STAAR had $2.2 million of foreign debt. Our $2.2 million of foreign debt bears an interest rate that is equal to the Tokyo prime interest rate and thus, our interest expense would fluctuate with any change in the prime interest rate. If the Tokyo prime rate were to increase or decrease by 1% for the year, our annual interest expense would increase or decrease by approximately 2,000,000 Japanese yen or approximately $22,000 based on the exchange rate in effect at January 2, 2009. STAAR’s $5 million principal amount of U.S. indebtedness under the Broadwood note bears a fixed interest rate of 7% and may be prepaid without penalty. Under the note a default, if not waived, would result in an escalation of the stated interest rate to a maximum of 20%. If the stated interest rate were to increase to 20%, our interest payments would increase by approximately $650,000 per year.
Foreign currency risk. Our international subsidiaries operate in and are net recipients of currencies other than the U.S. dollar and, as such, our revenues benefit from a weaker dollar and are adversely affected by a stronger dollar relative to major currencies worldwide (primarily, the Euro, Japanese Yen, Swiss Franc and Australian dollar). Accordingly, changes in exchange rates, and particularly the strengthening of the US Dollar, may negatively affect our consolidated sales and gross profit as expressed in U.S. dollars. In the normal course of business, we also face risks that are either non-financial or non-quantifiable. Such risks include those set forth in “Item 1A. — Risk Factors.”
Item 8. Financial Statements and Supplementary Data
Financial Statements and the Report of Independent Registered Public Accounting Firm are filed with this Annual Report on Form 10-K in a separate section following Part IV, as shown on the index under Item 15 of this Annual Report.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
Item 9A. Controls and Procedures
Attached as exhibits to this Annual Report on Form 10-K are certifications of STAAR’s Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), which are required in accordance with Rule 13a-14 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”). This “Controls and Procedures” section includes information concerning the controls and controls evaluation referred to in the certifications. Page F-3 of this Annual Report on Form 10-K sets forth the report of BDO Seidman, LLP, our independent registered public accounting firm, regarding its audit of STAAR’s internal control over financial reporting. This section should be read in conjunction with the certifications and the BDO Seidman, LLP report for a more complete understanding of the topics presented.
Evaluation of Disclosure Controls and Procedures
As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Exchange Act Rule 13a-15(e) and 15d-15(e). Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this Annual Report on 10-K, our disclosure controls and procedures are effective in enabling us to record, process, summarize and report information required to be included in our periodic SEC filings within the required time period.
Management Report on Internal Control over Financial Reporting
The Company’s management, including our Chief Executive Officer and Chief Financial Officer, is responsible for establishing and maintaining adequate internal control over financial reporting (as such term is defined in Exchange Act Rule 13a-15(f) and 15d-15(f)) for STAAR Surgical Company and its subsidiaries (the “Company”). The Company’s internal control system was designed to provide reasonable assurance to the Company’s management and Board of Directors regarding the preparation and fair presentation of published consolidated financial statements in accordance with accounting principles generally accepted in the United States of America.
Because of its inherent limitations, a system of internal control over financial reporting can provide only reasonable assurance and may not prevent or detect misstatements. Further, because of changing conditions, effectiveness of internal control over financial reporting may vary over time. The Company’s processes contain self-monitoring mechanisms, and actions are taken to correct deficiencies as they are identified.
Management has assessed the effectiveness of the Company’s internal control over financial reporting as of January 2, 2009, based on the criteria for effective internal control described in Internal Control — Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on its assessment, management concluded that the Company’s internal control over financial reporting was effective as of January 2, 2009.
BDO Seidman LLP, the independent registered public accounting firm that audited and reported on the consolidated financial statements of the Company contained in this report on Form 10-K, was engaged to attest to and report on the effectiveness of the Company’s internal control over financial reporting. Its report is included herein.
Changes in Internal Control over Financial Reporting
There was no change during the fiscal quarter ended January 2, 2009 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Item 9B. Other Information
Compensatory Arrangements of Certain Officers
STAAR regards executive compensation as a key part of its business strategy. As a major element of its compensation philosophy, STAAR seeks to align the interests of its executives with the interests of its stockholders and with the Company’s long-term objectives by providing stock-based compensation and encouraging actual stock ownership by executives. On March 30, 2009, as part of the annual executive performance review process, STAAR’s Compensation Committee awarded stock grants to certain executives. They included the following: Barry G. Caldwell, President and CEO, 60,000 shares, Deborah Andrews, CFO, 25,000 shares, David Bailey, President of International Operations, 30,000 shares, Hans Blickensdoerfer, Vice President of International Sales, 30,000 shares and Paul Hambrick, Vice President of Operations, 10,000 shares. These grants were part of a broad program of equity compensation based on annual performance reviews, which awarded options and stock grants covering a total of 261,000 shares to 48 employees of STAAR.
Departure of Directors or Certain Officers
Nicholas Curtis, STAAR’s Senior Vice President of Sales, resigned from his position on March 30, 2009, concurrently with his acceptance of employment as an officer at another company. Mr. Curtis’ resignation will be effective on April 3, 2009.
STAAR is providing the information included in this Item 9B in accordance with Item 5.02(b) and Item 5.02(e) of Form 8-K.
Item 10. Directors and Executive Officers of the Registrant
The information in Item 10 is incorporated herein by reference to the section entitled “Proposal One — Election of Directors” contained in the proxy statement (the “Proxy Statement”) for the 2009 annual meeting of stockholders to be filed with the Securities and Exchange Commission within 120 days of the close of the fiscal year ended January 2, 2009.
Item 11. Executive Compensation
The information in Item 11 is incorporated herein by reference to the section entitled “Proposal One — Election of Directors” contained in the Proxy Statement.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information in Item 12 is incorporated herein by reference to the section entitled “General Information — Security Ownership of Certain Beneficial Owners and Management” and “Proposal One — Election of Directors” contained in the Proxy Statement.
Item 13. Certain Relationships and Related Transactions
The information in Item 13 is incorporated herein by reference to the section entitled “Proposal One — Election of Directors” contained in the Proxy Statement.
Item 14. Principal Accountant Fees and Services
The information in Item 14 is incorporated herein by reference to the section entitled “Proposal Two — Ratification of the Appointment of Independent Registered Public Accounting Firm” contained in the Proxy Statement.
Item 15. Exhibits and Financial Statement Schedules
Schedules not listed above have been omitted because the information required to be set forth therein is not applicable or is shown in the financial statements and the notes thereto.
Any representation, warranty or other statement of purported fact in any such exhibit that is a contract, agreement or similar instrument may not be true or complete, either at the date of such instrument or at any later time. Even if such statements were accurate when made, they may not be accurate now. The parties to such instruments did not intend such statements to establish any facts, but intended such statements to allocate contractual risk between the parties. Such instruments may be subject to standards of materiality that differ from the standards applicable to this report. No one other than the parties to the instrument is entitled to rely or should rely on any statement in such instrument for any purpose. Such statements were provided for the private purposes of the parties to the instruments and may have been qualified by schedules and other disclosures that have not been filed with (or incorporated by reference into) this or any other report or document. Only the parties to any such instrument are entitled to enforce it.