-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, RS47lTzMir25200b48qeXiB8Z1lc08svHWzTDoKzedA4/cGdkUfPkDKrFSCa+3Wh HwOAbnJEosIGeEnZGla73w== 0000927356-98-000850.txt : 19980518 0000927356-98-000850.hdr.sgml : 19980518 ACCESSION NUMBER: 0000927356-98-000850 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19980331 FILED AS OF DATE: 19980515 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: HESKA CORP CENTRAL INDEX KEY: 0001038133 STANDARD INDUSTRIAL CLASSIFICATION: BIOLOGICAL PRODUCTS (NO DIAGNOSTIC SUBSTANCES) [2836] IRS NUMBER: 770192527 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-22427 FILM NUMBER: 98622927 BUSINESS ADDRESS: STREET 1: 1825 SHARP POINT DR CITY: FORT COLLINS STATE: CO ZIP: 80525 BUSINESS PHONE: 9704937272 MAIL ADDRESS: STREET 1: 1825 SHARP POINT DR CITY: FORT COLLINS STATE: CO ZIP: 80525 10-Q 1 FORM 10-Q UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 1998 OR [_] TRANSITION REPORTS PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________ to ____________ Commission file number 000-22427 HESKA CORPORATION (Exact name of registrant as specified in its charter) DELAWARE 77-0192527 [State or other jurisdiction [I.R.S. Employer Identification No.] of incorporation or organization] 1825 SHARP POINT DRIVE FORT COLLINS, COLORADO 80525 (Address of principal executive offices) (970) 493-7272 (Registrant's telephone number, including area code) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. [X] Yes [_] No The number of shares of the Registrant's Common Stock, $.001 par value, outstanding at May 11, 1998 was 24,891,217 HESKA CORPORATION FORM 10-Q QUARTERLY REPORT TABLE OF CONTENTS
PAGE ---- PART I. FINANCIAL INFORMATION Item 1. Financial Statements: Condensed Consolidated Balance Sheets as of March 31, 1998 and December 31, 1997.............. 1 Condensed Consolidated Statements of Operations for the three months ended March 31, 1998 and 1997...................................................................................... 2 Condensed Consolidated Statements of Cash Flows for the three months ended March 31, 1998 and 1997...................................................................................... 3 Notes to Condensed Consolidated Financial Statements.......................................... 4 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations......... 9 PART II. OTHER INFORMATION Item 1. Legal Proceedings ............................................................................ Not Applicable Item 2. Changes in Securities and Use of Proceeds..................................................... 20 Item 3. Defaults upon Senior Securities .............................................................. Not Applicable Item 4. Submission of Matters to a Vote of Security Holders .......................................... Not Applicable Item 5. Other Information ............................................................................ Not Applicable Item 6. Exhibits and Reports on Form 8-K ............................................................. 20 Exhibit Index............................................................................................. 21 Signatures................................................................................................ 22
PART I. FINANCIAL INFORMATION Item 1. Financial Statements HESKA CORPORATION CONDENSED CONSOLIDATED BALANCE SHEETS (dollars in thousands) ASSETS
March 31, December 31, 1998 1997 ----------- ------------ Current assets: (unaudited) Cash and cash equivalents $ 7,925 $ 10,679 Marketable securities 58,224 18,073 Accounts receivable, net 4,962 5,327 Inventories, net 13,103 10,562 Other current assets 1,885 1,236 ----------- ------------ Total current assets 86,099 45,877 Property and equipment, net 16,925 15,979 Intangible assets, net 5,480 6,009 Restricted marketable securities and other assets 838 1,155 ----------- ------------ Total assets $ 109,342 $ 69,020 =========== ============ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 6,373 $ 6,425 Accrued liabilities 2,744 2,968 Deferred revenue 1,326 284 Current portion of capital lease obligations 611 600 Current portion of long-term debt 5,572 4,137 ----------- ------------ Total current liabilities 16,626 14,414 Capital lease obligations, less current portion 1,572 1,620 Long-term debt, less current portion 8,095 9,021 Accrued pension liability 113 113 ----------- ------------ Total liabilities 26,406 25,168 ----------- ------------ Commitments and contingencies Stockholders' equity: Common stock, $.001 par value, 40,000,000 shares authorized; 24,827,578 and 19,491,022 shares issued and outstanding, respectively 25 19 Additional paid-in capital 167,134 118,448 Deferred compensation (1,760) (1,967) Stock subscription receivable from officers (161) (158) Cumulative translation adjustment 7 1 Accumulated deficit (82,309) (72,491) ----------- ------------ Total stockholders' equity 82,936 43,852 ----------- ------------ Total liabilities and stockholders' equity $ 109,342 $ 69,020 =========== ============
See accompanying notes to condensed consolidated financial statements 1 HESKA CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands, except per share amounts) (unaudited) Three Months Ended March 31, ---------------------------- 1998 1997 -------- -------- Revenues: Products, net $ 7,390 $ 4,506 Research and development 520 438 -------- -------- 7,910 4,944 Costs and operating expenses: Cost of goods sold 4,811 3,409 Research and development 6,178 4,605 Selling and marketing 3,090 1,937 General and administrative 3,000 2,650 Amortization of intangible assets and deferred compensation 765 650 -------- -------- 17,844 13,251 -------- -------- Loss from operations (9,934) (8,307) Other income (expense): Interest income 575 296 Interest expense (470) (216) Other, net 12 (30) -------- -------- Net loss $ (9,817) $ (8,257) ======== ======== Basic net loss per share $ (0.46) $ - ======== ======== Unaudited pro forma basic net loss per share $ - $ (0.64) ======== ======== Shares used to compute basic net loss per share and unaudited pro forma basic net loss per share 21,233 12,814 ======== ======== See accompanying notes to condensed consolidated financial statements 2 HESKA CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited) Three Months Ended March 31, 1998 1997 --------- -------- CASH FLOWS USED IN OPERATING ACTIVITIES: Net cash used in operating activities $ (10,004) $ (7,488) --------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Acquisitions of businesses, net of cash acquired (6) (180) Cash deposited in restricted cash account related to Bloxham acquisition - (238) Additions to intangible assets (13) (14) Purchase of marketable securities (54,988) - Proceeds from sale of marketable securities 15,005 6,140 Purchases of property and equipment (1,611) (2,229) --------- -------- Net cash provided by (used in) investing activities (41,613) 3,479 --------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from issuance of common stock 48,693 609 Proceeds from borrowings 1,657 1,614 Repayment of debt and capital lease obligations (1,510) (365) --------- -------- Net cash provided by financing activities 48,840 1,858 --------- -------- EFFECT OF EXCHANGE RATE CHANGES ON CASH 23 7 --------- -------- DECREASE IN CASH AND CASH EQUIVALENTS (2,754) (2,144) CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 10,679 6,630 --------- -------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 7,925 $ 4,486 ========= ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid for interest $ 460 $ 192 Non-cash investing and financing activities: Issuance of debt related to acquisitions - 320 Issuance of common and preferred stock related to acquisitions, net of cash acquired 6,997 648 Purchase of assets under direct capital lease financing - 225 See accompanying notes to condensed consolidated financial statements 3 HESKA CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS MARCH 31, 1998 (UNAUDITED) 1. ORGANIZATION AND BASIS OF PRESENTATION Organization Heska Corporation (the "Company") discovers, develops, manufactures and markets companion animal health products, primarily for dogs, cats and horses. The Company operates two United States Department of Agriculture and Food and Drug Administration licensed facilities which manufacture products for Heska and other companies. The Company also offers diagnostic products to veterinarians at its Fort Collins, Colorado location and in the United Kingdom through a wholly- owned subsidiary. In May 1997, the Company reincorporated in Delaware. In the first quarter of 1998 the Company added patient monitoring equipment to its product lines through its acquisition of Sensor Devices, Inc. ("SDI")(See Note 4). The acquisition of SDI has been accounted for as a pooling-of-interests and, accordingly, the consolidated financial statements of the Company have been restated to include the accounts of SDI for all periods presented. The Company continues to incur substantial net losses due principally to its research and development and sales and marketing activities. Cumulative net losses from inception of the Company in 1988 through March 31, 1998 have totaled $82.3 million. The Company's ability to achieve profitable operations will depend primarily upon its ability to commercialize products that are currently under development and to successfully integrate acquired businesses. Most of the Company's products are subject to long development and regulatory approval cycles and there can be no assurance that the Company will successfully develop, manufacture or market these products. During the period required to develop its products, the Company may continue to finance operations with additional equity and debt financing. There can be no assurance that such financing will be available when required or will be obtained under favorable terms. Basis of Presentation The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. The balance sheets as of March 31, 1998, the statements of operations for the three months ended March 31, 1998 and 1997 and the statements of cash flows for the three months ended March 31, 1998 and 1997 are unaudited, but include all adjustments (consisting of normal recurring adjustments) which the Company considers necessary for a fair presentation of the financial position, operating results and cash flows for the periods presented. The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries since the dates of their respective acquisitions when accounted for under the purchase method of accounting, and for all periods presented when accounted for under the pooling-of-interests method of accounting. All material intercompany transactions and balances have been eliminated in consolidation. Although the Company believes that the disclosures in these financial statements are adequate to make the information presented not misleading, certain information and 4 footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission. Results for any interim period are not necessarily indicative of results for any future interim period or for the entire year. The accompanying financial statements and related disclosures have been prepared with the presumption that users of the interim financial information have read or have access to the audited financial statements for the preceding fiscal year. Accordingly, these financial statements should be read in conjunction with the audited financial statements and the related notes thereto for the year ended December 31, 1997, included in the company's form 10-K filed with the Securities and Exchange Commission. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles 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 revenues and expenses during the reporting period. Actual results could differ from those estimates. Revenue Recognition Revenues from products and services are recognized at the time goods are shipped to the customer, with an appropriate provision for returns and allowances. The Company recognizes revenue from sponsored research and development as research activities are performed or as development milestones are completed under the terms of the research and development agreements. Costs incurred in connection with the performance of sponsored research and development are expensed as incurred. The Company defers revenue recognition of advance payments received during the current period until research activities are performed or development milestones are completed. 2. UNAUDITED PRO FORMA BASIC NET LOSS PER SHARE The Company has computed net loss per share in accordance with Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings per Share", which the Company adopted in 1997. Also, the Company has adopted the guidance of Securities and Exchange Commission ("SEC") Staff Accounting Bulletin ("SAB") No. 98 and related interpretations. Due to the automatic conversion of all shares of convertible preferred stock into common stock following the closing of the Company's initial public offering in July 1997 (the "IPO"), historical basic net loss per common share is not considered meaningful as it would differ materially from the pro forma net loss per common share and common stock equivalent shares given the changes in the capital structure of the Company. Pro forma basic net loss per common share is computed using the weighted average number of common shares outstanding during the period. Diluted net loss per common share is not presented as the effect of common equivalent shares from stock options and warrants is anti-dilutive. The Company has assumed the conversion of convertible preferred stock issued into common stock for all periods presented. Prior to the current period and pursuant to SEC SAB No. 83 rules, common stock and common stock equivalent shares issued by the Company during the 12 months immediately preceding the filing of the IPO, plus shares which became issuable during the same period as a result of the granting of options to purchase common stock ("SAB 83 Shares"), were included in the calculation of basic weighted average number of shares of common 5 stock as if they were outstanding for all periods presented (using the treasury stock method), regardless of whether they were anti-dilutive. In February 1998 the SEC issued SAB No. 98 which replaced SAB 83 in its entirety. As a result, SAB 83 Shares which were originally included in the previously reported 1997 weighted average common shares outstanding have been excluded in the restated 1997 weighted average common shares outstanding. the effect of the adoption of SAB 98 was as follows:
For the Three Months Ended March 31, 1997 -------------- Pro forma basic net loss per share as previously reported....................... $(0.60) Impact Of adoption of SAB 98.................................................... (0.04) ------ Unaudited pro forma basic net loss per share.................................... $(0.64) ======
The following table shows the reconciliation of the numerators and denominators of the basic net loss per share and pro forma basic net loss per share computations as required under SFAS No. 128 (in thousands, except per share amounts):
For the Three Months Ended March 31, 1998 ------------------------------------------ Income Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- --------- Weighted average common shares outstanding (actual)............ N/A 21,233 N/A ------ Basic net loss per share....................................... $ (9,817) 21,233 $ (0.46) =========== ====== ======== For the Three Months Ended March 31, 1997 ------------------------------------------ Income Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- ----------- Weighted average common shares outstanding (actual) .......... N/A 1,631 N/A Assumed conversion of preferred stock from original date of issuance.............................................. N/A 11,183 N/A ------ Unaudited pro forma basic net loss per share.................. $ (8,257) 12,814 $ (0.64) =========== ====== =========
3. BALANCE SHEET INFORMATION Inventories are stated at the lower of cost or market using the first-in, first-out method. If the cost of inventories exceeds fair market value, provisions are made for the difference between cost and fair market value. Inventories, net of provisions, consist of the following (in thousands):
March 31, December 31, 1998 1997 --------- ------------ Raw materials........ $ 3,351 $ 2,652 Work in process...... 4,401 3,567 Finished goods....... 5,351 4,343 ------- ------- $13,103 $10,562 ======= =======
6 4. BUSINESS ACQUISITIONS Acquisition of Sensor Devices, Inc. ("SDI") - In March 1998 the Company completed its acquisition of all of the outstanding shares of SDI, a manufacturer of medical sensor products, in a transaction valued at approximately $8.9 million. The Company issued 639,622 shares of its common stock and also reserved an additional 147,898 shares of its common stock for issuance in connection with outstanding SDI options that were assumed by the Company in the merger. The acquisition has been accounted for as a pooling-of- interests and, accordingly, the consolidated financial statements of the Company have been restated to include the accounts of SDI for all periods presented. 5. FOLLOW-ON PUBLIC OFFERING In March 1998 the Company completed its follow-on public offering of 5,750,000 shares of common stock (including 500,000 shares offered by a stockholder of the Company and an exercised underwriters' over-allotment option for 750,000 shares) at a price of $9.875 per share, providing the Company with net proceeds of approximately $48.6 million, after deducting underwriting discounts and commissions of approximately $2.8 million and offering costs of approximately $400,000. 6. MAJOR CUSTOMERS No customer accounted for more than 10% of total revenue during the three months ended March 31, 1998. The Company had sales of greater than 10% of total revenue to only one customer during the three months ended March 31, 1997. This customer, which represented 25% of total revenues, purchases animal vaccines from the Company's wholly-owned subsidiary, Diamond Animal Health, Inc. ("Diamond"). 7. GEOGRAPHIC SEGMENT REPORTING The Company manufactures and markets its products in two major geographic areas, North America and Europe. The Company's manufacturing facilities are located in North America. All revenues from research and development are earned in North America by Heska or Diamond. There have been no significant exports from North America or Europe. In the three months ended March 31, 1998 and 1997 European subsidiaries did not purchase any products from North America for sale to European customers; however, Heska Corporation sold products directly to the Company's Italian distributor in the first quarter of 1998. Transfer prices to foreign subsidiaries are intended to allow the North American companies to produce profit margins commensurate with their sales and marketing efforts. Certain information by geographic area is as follows (in thousands): 7
For the Three Months Ended March 31, 1998 ------------------------------------------------- North America Europe Consolidated ------------- ------ ------------ Product revenues, net...... $ 6,574 $ 816 $ 7,390 Loss from operations....... $ (9,337) $ (597) $ (9,934) Identifiable assets........ $ 104,869 $ 4,473 $ 109,342 For the Three Months Ended March 31, 1997 ------------------------------------------------- North America Europe Consolidated ------------- ------ ------------ Product revenues, net..... $ 4,318 $ 188 $ 4,506 Loss from operations...... $ (8,282) $ (25) $ (8,307)
8. COMPREHENSIVE INCOME In the first quarter of 1998 the Company adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income", which requires companies to report and display comprehensive income and its components in a financial statement that is displayed with the same prominence as other financial statements. The components of comprehensive income (loss) are as follows (in thousands):
For the Three Months Ended March 31, ------------------------------------ 1998 1997 ----------- ------------ Net loss............................................... $ (9,817) $ (8,257) Change in foreign currency translation adjustments..... 6 1 ---------- ----------- Total comprehensive income (loss)...................... $ (9,811) $ (8,256) ========== ===========
8 PART I. FINANCIAL INFORMATION ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS When used in this Management's Discussion and Analysis of Financial Condition and Results of Operations, the word "expects", "anticipates", "estimates" and similar expressions are intended to identify forward-looking statements. Such statements are subject to risks and uncertainties, including those set forth below under "Factors that May Affect Results" and throughout the Company's filings with the Securities and Exchange Commission, that could cause actual results to differ materially from those projected. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date of this Form 10-Q. The Company expressly disclaims any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein to reflect any change in the Company's expectations with regard thereto or any change in events, conditions or circumstances on which any such statement is based. OVERVIEW Heska discovers, develops, manufactures and markets companion animal health products, primarily for dogs, cats and horses. From the Company's inception in 1988 until early 1996, the Company's operating activities related primarily to research and development activities, entering into collaborative agreements, raising capital and recruiting personnel. Prior to 1996, the Company had not received any revenues from the sale of products, and it has incurred net losses since inception. As of March 31, 1998, the Company's accumulated deficit was $82.3 million. During 1996, Heska grew from being primarily a research and development concern to a fully-integrated research, development, manufacturing and marketing company. The Company also expanded the scope and level of its scientific and business development activities, increasing the opportunities for new products. In 1997, the Company introduced 13 additional companion animal health products and expanded in the United States through the acquisition of Center Laboratories ("Center"), a Food and Drug Administration ("FDA") and United States Department of Agriculture ("USDA") licensed manufacturer of allergy immunotherapy products located in Port Washington, NY, and internationally through the acquisitions of Bloxham Laboratories Limited ("Bloxham"), a veterinary diagnostic laboratory in Teignmouth, England and CMG Centre Medical des Grand'Places SA ("CMG"), in Fribourg, Switzerland, which manufactures and markets allergy diagnostic products for use in veterinary and human medicine, primarily in Europe and Japan. Each of the Company's acquisitions prior to 1998 was accounted for under the purchase method of accounting and accordingly, the Company's financial statements reflect the operations of these businesses only for the periods subsequent to the acquisitions. In July 1997, the Company established a new subsidiary, Heska AG, located near Basel, Switzerland, for the purpose of managing its European operations. 9 In the first quarter of 1998 the Company added patient monitoring equipment to its product lines through its acquisition of Sensor Devices, Inc. ("SDI"). The acquisition of SDI qualified, and has been accounted for, as a pooling-of- interests and, accordingly, the consolidated financial statements of the Company have been restated to include the accounts of SDI for all periods presented. The Company anticipates that it will continue to incur additional operating losses as it introduces new products, continues its research and development activities for products under development and integrates newly acquired businesses. There can be no assurance that the Company will attain profitability or, if achieved, will remain profitable on a quarterly or annual basis in the future. See "Factors that May Affect Results" below. RESULTS OF OPERATIONS Three months ended March 31, 1998 and 1997 Total revenues, which include product and research and development revenues, increased to $7.9 million in the first quarter of 1998 as compared to $4.9 million in the first quarter of 1997. Product revenues increased to $7.4 million in the first quarter of 1998 as compared to $4.5 million for the first quarter of 1997. The growth in revenue during the first quarter of 1998 was primarily due to increased sales of the Company's products and from consolidating revenues from acquired businesses. The Company completed its acquisition of SDI during the first quarter of 1998. The acquisition has been accounted for as a pooling-of-interests and, accordingly, the consolidated financial statements of the Company have been restated to include the accounts of SDI for all periods presented. Revenues from sponsored research and development increased to $520,000 in the first quarter of 1998 from $438,000 in the first quarter of 1997. Fluctuations in revenues from sponsored research and development are generally the result of changes in the number of funded research projects as well as the timing and performance of contract milestones. The Company expects that revenues from sponsored research and development will decline in future periods, reflecting the expiration of current funding commitments and the Company's decision to fund its future research activities primarily from internal sources. Cost of goods sold totaled $4.8 million in the first quarter of 1998 as compared to $3.4 million in the first quarter of 1997. The resulting gross margin for the first quarter of 1998 increased to $2.6 million from $1.1 million in the first quarter of 1997, due primarily to increased product sales and manufacturing volumes. Research and development expenses increased to $6.2 million in the first quarter of 1998 from $4.6 million in the first quarter of 1997. The increase in 1998 is due primarily to increases in the level and scope of research and development activities for potential products to be marketed by the Company. The Company does not expect that significant increases in research and development expenses will be required to maintain its current research and development activities. Selling and marketing expenses increased to $3.1 million in the first quarter of 1998 from $1.9 million in the first quarter of 1997. This increase reflects the expansion of the Company's sales and marketing organization as Heska introduced new products and added field sales force personnel. Selling and marketing expenses consist primarily of salaries, commissions and benefits for sales and marketing personnel, commissions paid to contract sales agents and expenses of product advertising and promotion. The Company expects selling and marketing expenses to increase as sales volume increases and new products are introduced to the marketplace. 10 General and administrative expenses increased to $3.0 million in the first quarter of 1998 from $2.6 million in the first quarter of 1997. The increase in the first quarter of 1998 resulted from the growth of accounting and finance, human resources, legal, administrative, information systems and facilities operations to support the Company's increased business, financing and financial reporting requirements. General and administrative expenses are expected to decrease as a percentage of revenues in future years. Amortization of intangible assets and deferred compensation increased to $765,000 in the first quarter of 1998 from $650,000 in the first quarter of 1997. Amortization of intangible assets resulted primarily from the Company's 1997 and 1996 business acquisitions. Net intangible assets at March 31, 1998 and December 31, 1997 totaled $5.5 million and $6.0 million, respectively. The amortization of deferred compensation resulted in a non-cash charge to operations in the first quarter of 1998 of $206,000 as compared to $243,000 in the first quarter of 1997. In connection with the grant of certain stock options in the years ended December 31, 1997 and 1996, the Company recorded deferred compensation representing the difference between the deemed value of the Common Stock for accounting purposes and the option exercise price of such options at the date of grant. The Company will incur a non-cash charge to operations of approximately $730,000, $629,000, $574,000 and $34,000 per year for 1998, 1999, 2000 and 2001, respectively, for amortization of deferred compensation. Interest income increased to $575,000 in the first quarter of 1998 from $296,000 in the first quarter of 1997 due to increased cash available for investment resulting from the proceeds from the Company's initial public offering in July 1997 and the follow-on offering completed in March 1998. Interest expense increased to $470,000 in the first quarter of 1998 from $216,000 in the first quarter of 1997 due to an increase in debt financing for laboratory and manufacturing equipment and debt related to the Company's 1997 business acquisitions. The Company reported a net loss in the first quarter of 1998 of $9.8 million as compared to a first quarter 1997 net loss of $8.3 million. The increase in losses between the periods is primarily due to increases in research and development expenses, selling and marketing expenses and general and administrative expenses as the Company continued to build a management and systems infrastructure to support growing business operations in 1998 and beyond. LIQUIDITY AND CAPITAL RESOURCES In July 1997, the Company completed its initial public offering ("IPO") of 5,637,850 shares of Common Stock at a price of $8.50 per share, providing the Company with net proceeds of approximately $43.9 million. Upon the completion of the IPO, all outstanding shares of Preferred Stock were converted into 11,289,388 shares of Common Stock. In March 1998 the Company completed a follow-on public offering of 5,750,000 shares of common stock (including 500,000 shares offered by a stockholder of the Company and an exercised underwriters' over-allotment option for 750,000 shares) at a price of $9.875 per share, providing the Company with net proceeds of approximately $48.6 million, after deducting underwriting discounts and commissions of approximately $2.8 million and offering costs of approximately $400,000. As of March 31, 1998, the Company had received aggregate net proceeds of $148.1 million from various equity transactions, including $48.6 million from the March 1998 follow-on offering, $43.9 million from the July 1997 IPO, $36.0 million from the April 1996 private equity placement to Novartis, $10.0 million from the 1995 11 private equity placement to Volendam Investeringen N.V. and $9.5 million from private equity placements to Charter Ventures from 1989 through 1995. In addition, the Company has received proceeds from equipment financing totaling $8.9 million through March 31, 1998. The Company also assumed $4.3 million in short and long-term debt in connection with its 1996 acquisitions and assumed $3.8 million in long-term debt in connection with its 1997 acquisitions. Capital lease obligations and term debt owed by the Company totaled $15.9 million as of March 31, 1998, with installments payable through 2006. Expenditures for property and equipment totaled $1.6 million and $2.2 million for the quarters ended March 31, 1998 and 1997, respectively. The Company anticipates that it will continue to use capital equipment lease and debt facilities to finance equipment purchases and, if possible, leasehold improvements. The Company has secured lines of credit for its subsidiaries totaling approximately $3.6 million, against which borrowings of approximately $2.5 million were outstanding at March 31, 1998. These financing facilities are secured by assets of the respective subsidiaries and corporate guarantees by Heska Corporation. The Company expects to seek additional asset-based borrowing facilities. Net cash used for operating activities was $10.0 million and $7.4 million for the quarters ended March 31, 1998 and 1997, respectively. Cash was used primarily to fund research and development activities, sales and marketing activities, general and administrative expenses and general working capital requirements. The Company currently expects to spend approximately $5.0 million during the remainder of 1998 for capital equipment, including expenditures for the upgrading of certain manufacturing operations to improve efficiencies as well as various enhancements to assure ongoing compliance with certain regulatory requirements. The Company expects to finance these expenditures through secured debt facilities, where possible. Prior to the IPO, the Company financed its acquisition activities through the issuance of Preferred Stock. In 1997 and 1996, the Company issued Preferred Stock valued at $1.2 million and $7.1 million, respectively, in connection with its acquisitions. In addition, in 1997, the Company issued Common Stock valued at $1.9 million in connection with an acquisition prior to the IPO. Subsequent to the IPO, in 1997 and 1998, the Company has financed its acquisitions through the issuance of Common Stock valued at approximately $7.8 million, the assumption of approximately $3.8 million in debt and the use of cash totaling $3.0 million. The Company's primary short-term needs for capital, which are subject to change, are for continuing research and development efforts, its sales, marketing and administrative activities, working capital and capital expenditures relating to developing and expanding the Company's manufacturing operations. At March 31, 1998 the Company's principal source of liquidity was $66.1 million in cash, cash equivalents and short-term investments. The Company expects its working capital requirements to increase over the next several years as it introduces new products, expands its sales and marketing capabilities, improves its manufacturing capabilities and facilities and acquires businesses, technologies or products complementary to the Company's business. The Company's future liquidity and capital funding requirements will depend on numerous factors, including the extent to which the Company's products under development are successfully developed and gain market acceptance, the timing of regulatory actions regarding the Company's potential products, the costs and the timing of expansion of sales, marketing and manufacturing activities, the cost, timing and business management of current and potential acquisitions, the procurement and enforcement of patents important to the Company's business, the results of product trials and competition. The Company believes that its available cash and cash from operations will be sufficient to satisfy its funding requirements for current operations for the next 12 months, assuming no significant uses of cash in acquisition activities. Thereafter if cash generated from operations is insufficient to satisfy the Company's working capital requirements, the Company may need to raise additional capital to continue funding its research 12 and development activities, scaling up its manufacturing activities and expanding its sales and marketing force. There can be no assurance that such additional capital will be available on terms acceptable to the Company, if at all. Furthermore, any additional equity financing may be dilutive to stockholders and debt financing, if available, may include restrictive covenants. If adequate funds are not available, the Company may be required to curtail its operations significantly or to obtain funds through entering into collaborative agreements or other arrangements on potentially unfavorable terms. The failure by the Company to raise capital on acceptable terms when needed could have a material adverse effect on the Company's business, financial condition or results of operations. See "Factors that May Affect Results - Future Capital Requirements; Uncertainty of Additional Funding". NET OPERATING LOSS CARRYFORWARDS As of December 31, 1997, the Company had a net operating loss ("NOL") carryforward of approximately $59.5 million and approximately $1.1 million of research and development ("R&D") tax credits available to offset future federal income taxes. The NOL and tax credit carryforwards, which are subject to alternative minimum tax limitations and to examination by the tax authorities, expire from 2003 to 2011. The Company's April 1996 acquisition of Diamond resulted in a "change of ownership" under the provisions of Section 382 of the Internal Revenue Code of 1986, as amended. As such, the Company will be limited in the amount of NOLs incurred prior to the merger that it may utilize to offset future taxable income. This limitation will total approximately $4.7 million per year for periods subsequent to the Diamond acquisition. Similar limitations also apply to utilization of R&D tax credits to offset taxes payable. In addition, the Company believes that its follow-on public offering of Common Stock in March 1998 resulted in a further "change of ownership." The Company does not believe that either of these limitations will affect the eventual utilization of its total NOL carryforwards. YEAR 2000 CONVERSION The Company does not believe that the year 2000 conversion will have a material adverse effect on its business. However, the Company has established procedures to identify, evaluate and implement any necessary changes to computer systems and applications. The Company is coordinating these activities with suppliers, distributors, financial institutions and others with whom it does business. FACTORS THAT MAY AFFECT RESULTS This report includes certain forward-looking statements about the Company's business and results of operations which are subject to risks and uncertainties that could cause the Company's actual results to vary materially from those indicated by such forward-looking statements. Factors that could cause such differences include those discussed below, as well as those discussed elsewhere herein and in the Company's Form 10-K as filed with the Securities and Exchange Commission. The factors discussed below should be read in conjunction with the risk factors discussed in the Company's Form 10-K and other SEC filings, which are incorporated by reference. Dependence on Development and Introduction of New Products Many of the Company's products are still under development and there can be no assurance such products will be successfully developed or commercialized on a timely basis, or at all. The Company believes that its revenue growth and profitability, if any, will substantially depend upon its ability to complete development of and 13 successfully introduce and commercialize its new products. The development and regulatory approval activities necessary to bring new products to market are time-consuming and costly. There can be no assurance that the Company will not experience difficulties that could delay or prevent successfully developing, obtaining regulatory approvals to market or introducing these new products, that regulatory clearance or approval of any new products will be granted by the USDA, the FDA, the Environmental Protection Agency ("EPA") or foreign regulatory authorities on a timely basis, or at all, or that the new products will be successfully commercialized. The Company's strategy is to develop a broad range of products addressing different disease indications. The Company has limited resources to devote to the development of all of its products and consequently a delay in the development of one product or the use of resources for product development efforts that prove unsuccessful may delay or jeopardize the development of its other product candidates. Further, for certain of the Company's proposed products, the Company is dependent on collaborative partners to successfully and timely perform research and development activities on behalf of the Company. In order to successfully commercialize any new products, the Company will be required to establish and maintain a reliable, cost-efficient source of manufacturing for such products. If the Company is unable, for technological or other reasons, to complete the development, introduction or scale up of manufacturing of any new product or if any new product is not approved for marketing or does not achieve a significant level of market acceptance, the Company could be materially and adversely affected. Following the introduction of a product, adverse side effects may be discovered that make the product no longer commercially viable. Publicity regarding such adverse effects could affect sales of the Company's other products for an indeterminate time period. The Company is dependent on the acceptance of its products by both veterinarians and pet owners. The failure of the Company to engender confidence in its products and services could affect the Company's ability to attain sustained market acceptance of its products. Loss History and Accumulated Deficit; Uncertainty of Future Profitability; Quarterly Fluctuations and Customer Concentration Heska has incurred net losses since its inception. At March 31, 1998, the Company's accumulated deficit was $82.3 million. The Company anticipates that it will continue to incur additional operating losses for the next several years. Such losses have resulted principally from expenses incurred in the Company's research and development programs and, to a lesser extent, from general and administrative and sales and marketing expenses. Currently, a substantial portion of the Company's revenues are from Diamond, which manufactures veterinary biologicals and pharmaceuticals for major companies in the animal health industry. Revenues from one Diamond customer comprised approximately 21% of total revenues in the year ended December 31, 1997. If this customer does not continue to purchase from Diamond and if the lost revenues are not replaced by other customers or products, the Company's financial condition and results of operations could be adversely affected. There can be no assurance that the Company will attain profitability or, if achieved, will remain profitable on a quarterly or annual basis in the future. The Company believes that future operating results will be subject to quarterly fluctuations due to a variety of factors, including whether and when new products are successfully developed and introduced by the Company or its competitors, market acceptance of current or new products, regulatory delays, product recalls, competition and pricing pressures from competitive products, manufacturing delays, shipment problems, product seasonality and changes in the mix of products sold. Because the Company is continuing to increase its operating expenses for personnel, new product development and marketing, the 14 Company's operating results will be adversely affected if its sales do not correspondingly increase or if its product development efforts are unsuccessful or subject to delays. Limited Sales and Marketing Experience; Dependence on Others To be successful, Heska will have to continue to develop and train its direct sales force or rely on marketing partners or other arrangements with third parties for the marketing, distribution and sale of its products. The Company is currently marketing its products to veterinarians through a direct sales force and certain third parties. There can be no assurance that the Company will be able to successfully maintain marketing, distribution or sales capabilities or make arrangements with third parties to perform those activities on terms satisfactory to the Company. In addition, the Company has granted marketing rights to certain products under development to third parties, including Novartis AG ("Novartis"), Bayer AG ("Bayer") and Eisai Co., Ltd. ("Eisai"). Novartis has the right to manufacture and market throughout the world (except in countries where Eisai has such rights) under Novartis trade names any flea control vaccine or feline heartworm vaccine developed by the Company on or before December 31, 2005. The Company retained the right to co-exclusively manufacture and market these products throughout the world under its own trade names. Accordingly, if both elect to market these products, the Company and Novartis will be direct competitors, with each party sharing revenues on the other's sales. Heska also granted Novartis a right of first refusal pursuant to which, prior to granting rights to any third party for any products or technology developed or acquired by the Company for either companion animal or food animal applications, Heska must first offer Novartis such rights. Bayer has exclusive marketing rights to the Company's canine heartworm vaccine and its feline toxoplasmosis vaccine (except in countries where Eisai has such rights). Eisai has exclusive rights in Japan and most countries in East Asia to market the Company's feline and canine heartworm vaccines, feline and canine flea control vaccines and feline toxoplasmosis vaccine. The Company's agreements with its marketing partners contain no minimum purchase requirements in order for such parties to maintain their exclusive or co-exclusive marketing rights. There can be no assurance that Novartis, Bayer or Eisai or any other collaborative party will devote sufficient resources to marketing the Company's products. Furthermore, there is nothing to prevent Novartis, Bayer or Eisai or any other collaborative party from pursuing alternative technologies or products that may compete with the Company's products. Highly Competitive Industry The market in which the Company competes is intensely competitive. Heska's competitors include companion animal health companies and major pharmaceutical companies that have animal health divisions. Companies with a significant presence in the animal health market, such as American Home Products, Bayer, Merial Ltd., Novartis, Pfizer, Inc., and IDEXX Laboratories, Inc., have developed or are developing products that do or would compete with the Company's products. Novartis and Bayer are marketing partners of the Company, and their agreements with the Company do not restrict their ability to develop and market competing products. These competitors have substantially greater financial, technical, research and other resources and larger, more established marketing, sales, distribution and service organizations than the Company. Moreover, such competitors may offer broader product lines and have greater name recognition than the Company. Additionally, the market for companion animal health care products is highly fragmented, with discount stores and specialty pet stores accounting for a substantial percentage of such sales. As Heska intends to distribute its products only through 15 veterinarians, a substantial segment of the potential market may not be reached, and the Company may not be able to offer its products at prices which are competitive with those of companies that distribute their products through retail channels. There can be no assurance that the Company's competitors will not develop or market technologies or products that are more effective or commercially attractive than the Company's current or future products or that would render the Company's technologies and products obsolete. Moreover, there can be no assurance that the Company will have the financial resources, technical expertise or marketing, distribution or support capabilities to compete successfully. Uncertainty of Patent and Proprietary Technology Protection; License of Technology of Third Parties The Company's ability to compete effectively will depend in part on its ability to develop and maintain proprietary aspects of its technology and either to operate without infringing the proprietary rights of others or to obtain rights to such technology. Heska has United States and foreign issued patents and is currently prosecuting patent applications in the United States and with certain foreign patent offices. There can be no assurance that any of the Company's pending patent applications will result in the issuance of any patents or that, if issued, any such patents will offer protection against competitors with similar technology. There can be no assurance that any patents issued to the Company will not be challenged, invalidated or circumvented in the future or that the rights created thereunder will provide a competitive advantage. The biotechnology and pharmaceutical industries have been characterized by extensive litigation regarding patents and other intellectual property rights. There can be no assurance that the Company will not in the future become subject to patent infringement claims and litigation in the United States or other countries or interference proceedings conducted in the United States Patent and Trademark Office ("USPTO") to determine the priority of inventions. The defense and prosecution of intellectual property suits, USPTO interference proceedings, and related legal and administrative proceedings are both costly and time consuming. Litigation may be necessary to enforce any patents issued to the Company or its collaborative partners, to protect trade secrets or know-how owned by the Company or its collaborative partners, or to determine the enforceability, scope and validity of the proprietary rights of others. Any litigation or interference proceeding will result in substantial expense to the Company and significant diversion of effort by the Company's technical and management personnel. An adverse determination in litigation or interference proceedings to which the Company may become a party could subject the Company to significant liabilities to third parties. Further, either as the result of such litigation or proceedings or otherwise, the Company may be required to seek licenses from third parties which may not be available on commercially reasonable terms, if at all. The Company licenses technology from a number of third parties. The majority of such license agreements impose due diligence or milestone obligations and in some cases impose minimum royalty or sales obligations upon the Company in order for the Company to maintain its rights thereunder. The Company's products may incorporate technologies that are the subject of patents issued to, and patent applications filed by, others. As is typical in its industry, from time to time the Company and its collaborators have received and may in the future receive notices claiming infringement from third parties as well as invitations to take licenses under third party patents. Any legal action against the Company or its collaborators may require the Company or its collaborators to obtain a license in order to market or manufacture affected products or services. However, there can be no assurance that the Company or its collaborators will be able to obtain licenses for 16 technology patented by others on commercially reasonable terms, that they will be able to develop alternative approaches if unable to obtain licenses, or that the current and future licenses will be adequate for the operation of their businesses. The failure to obtain necessary licenses or to identify and implement alternative approaches could prevent the Company and its collaborators from commercializing certain of their products under development and could have a material adverse effect on the Company's business, financial condition or results of operations. The Company also relies upon trade secrets, technical know-how and continuing invention to develop and maintain its competitive position. There can be no assurance that others will not independently develop substantially equivalent proprietary information and techniques or otherwise gain access to the Company's trade secrets. Limited Manufacturing Experience and Capacity; Reliance on Contract Manufacturers To be successful, the Company must manufacture, or contract for the manufacture of, its current and future products in compliance with regulatory requirements, in sufficient quantities and on a timely basis, while maintaining product quality and acceptable manufacturing costs. In order to provide for manufacturing of its products, the Company acquired Diamond in April 1996 and certain assets of Center in July 1997. Significant work will be required for the scaling up of manufacturing of many new products and there can be no assurance that such work can be completed successfully or on a timely basis. In addition, SDI manufactures some of its own products for medical sensors and also relies on contract manufacturers. In addition to Diamond, Center and SDI, the Company intends to rely on contract manufacturers for certain of its products. The Company currently has supply agreements with Atrix for its canine periodontal disease therapeutic and a supply agreement with Quidel for certain manufacturing services relating to its point-of-care canine and feline heartworm diagnostic tests. These agreements all require the manufacturing partner to supply the Company's requirements within certain parameters. There can be no assurance that these partners will be able to manufacture products to regulatory standards and the Company's specifications or in a cost-effective and timely manner. If any supplier were to be delayed in scaling up commercial manufacturing, were to be unable to produce a sufficient quantity of products to meet market demand, or were to request renegotiation of contract prices, the Company's business could be materially and adversely affected. While the Company typically retains the right to manufacture products itself or contract with an alternative supplier in the event of the manufacturer's breach, any transfer of production would necessarily involve significant delays in production and additional expense to the Company to scale up production at a new facility and to apply for regulatory licensure for the production of products at that new facility. In addition, there can be no assurance that the Company will be able to locate suitable manufacturing partners for its products under development or alternative suppliers if present arrangements are not satisfactory. Government Regulation; No Assurance of Obtaining Regulatory Approvals The development, manufacture and marketing of most of the Company's products are subject to regulation by various governmental authorities, consisting principally of the USDA and FDA in the United States and various regulatory agencies outside the United States. Delays in obtaining, or failure to obtain any necessary regulatory approvals would have a material adverse effect on the Company's future product sales and operations. Any acquisitions of new products and technologies may subject the Company to additional government regulation. 17 The Company's manufacturing facilities and those of any contract manufacturers the Company may use are subject to the requirements of and subject to periodic regulatory inspections by the FDA, USDA and other federal, state and foreign regulatory agencies. There can be no assurance that the Company or its contractors will continue to satisfy such regulatory requirements, and any failure to do so would have a material adverse effect on the Company's business, financial condition or results of operations. There can be no assurance that the Company will not incur significant costs to comply with laws and regulations in the future or that laws and regulations will not have a material adverse effect upon the Company's business, financial condition or results of operations. Future Capital Requirements; Uncertainty of Additional Funding While the Company believes that its available cash will be sufficient to satisfy its funding needs for current operations for the next 12 months, assuming no significant uses of cash in acquisition activities, the Company has incurred negative cash flow from operations since inception and does not expect to generate positive cash flow sufficient to fund its operations for the next several years. Thus, the Company may need to raise additional capital to fund its research and development, manufacturing and sales and marketing activities. The Company's future liquidity and capital funding requirements will depend on numerous factors, including market acceptance of current and future products; successful development of new products; timing of regulatory actions regarding the Company's potential products; costs and timing of expansion of sales, marketing and manufacturing activities; procurement, enforcement and defense of patents important to the Company's business; results of product trials; and competition. There can be no assurance that such additional capital will be available on terms acceptable to the Company, if at all. Furthermore, any additional equity financing may be dilutive to stockholders, and debt financing, if available, may include restrictive covenants. If adequate funds are not available, the Company may be required to curtail its operations significantly or to obtain funds through entering into collaborative agreements or other arrangements on unfavorable terms. The failure by the Company to raise capital on acceptable terms when needed would have a material adverse effect on the Company's business, financial condition or results of operations. Potential Difficulties in Management of Growth; Identification and Integration of Acquisitions The Company anticipates additional growth in the number of its employees, the scope of its operating and financial systems and the geographic area of its operations as new products are developed and commercialized. This growth will result in an increase in responsibilities for both existing and new management personnel. The Company's ability to manage growth effectively will require it to continue to implement and improve its operational, financial and management information systems and to train, motivate and manage its current employees and hire new employees. There can be no assurance that the Company will be able to manage its expansion effectively, and a failure to do so could have a material adverse effect on the Company's business, financial condition or results of operations. In 1996, Heska consummated the acquisitions of Diamond and of assets relating to its canine allergy business. The Company's recent acquisitions include: the February 1997 purchase of Bloxham; the July 1997 purchase of the allergy immunotherapy products business of Center, an FDA and USDA licensed manufacturer of allergy immunotherapy products; the September 1997 purchase of CMG, a Swiss corporation which manufactures 18 and markets allergy diagnostic products for use in veterinary and human medicine, primarily in Europe and Japan; and the March 1998 purchase of SDI, a manufacturer of medical sensor products. The Company also anticipates issuing additional shares of Common Stock to effect future acquisitions. Such issuances may be dilutive. Identifying and pursuing acquisition opportunities, integrating the acquired businesses and managing growth requires a significant amount of management time and skill. There can be no assurance that the Company will be effective in identifying and effecting attractive acquisitions, integrating acquisitions or managing future growth. The failure to do so may have a material adverse effect on the Company's business, financial condition or results of operations. Dependence on Key Personnel The Company is highly dependent on the efforts of its senior management and scientific team, including its Chief Executive Officer and Chief Scientific Officer. The loss of the services of any member of its senior management or scientific staff may significantly delay or prevent the achievement of product development and other business objectives. Because of the specialized scientific nature of the Company's business, the Company is highly dependent on its ability to attract and retain qualified scientific and technical personnel. There is intense competition among major pharmaceutical and chemical companies, specialized biotechnology firms and universities and other research institutions for qualified personnel in the areas of the Company's activities. Loss of the services of, or failure to recruit, key scientific and technical personnel could adversely affect the Company's business, financial condition or results of operations. Potential Product Liability; Limited Insurance Coverage The testing, manufacturing and marketing of the Company's current products as well as those currently under development entail an inherent risk of product liability claims and associated adverse publicity. To date, the Company has not experienced any material product liability claims, but any such claims arising in the future could have a material adverse effect on the Company's business, financial condition or results of operations. Potential product liability claims may exceed the amount of the Company's insurance coverage or may be excluded from coverage under the terms of the policy. There can be no assurance that the Company will be able to continue to obtain adequate insurance at a reasonable cost, if at all. In the event that the Company is held liable for a claim against which it is not indemnified or for damages exceeding the limits of its insurance coverage or which results in significant adverse publicity against the Company, such claim could have a material adverse effect on the Company's business, financial condition or results of operations. Risk of Liability from Release of Hazardous Materials The Company's products and development programs involve the controlled use of hazardous and biohazardous materials, including chemicals, infectious disease agents and various radioactive compounds. Although the Company believes that its safety procedures for handling and disposing of such materials comply with the standards prescribed by applicable local, state and federal regulations, the risk of accidental contamination or injury from these materials cannot be completely eliminated. In the event of such an accident, the Company could be held liable for any damages or fines that result and any such liability could exceed the resources of the Company. The Company may incur substantial costs to comply with environmental regulations as the Company expands its manufacturing capacity. 19 PART II. OTHER INFORMATION Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS (c) In March 1998, the Registrant issued an aggregate of 639,622 shares of its Common Stock in connection with its acquisition of Sensor Devices, Inc. ("SDI"). The shares were issued to persons and entities who were, immediately prior to such acquisition, shareholders of SDI. The Registrant relied upon the exemption provided by Section 4(2) of the Act and Rule 506 of Regulation D promulgated thereunder. The Registrant believes that such exemptions are available because (a) the transaction did not involve a public offering, (b) no more than 35 of the former SDI shareholders were not "accredited investors", as such term is defined in Regulation D, and (c) the Registrant otherwise complied with the requirements of Rule 506. (d) The Company sold 5,637,850 shares of its Common Stock, par value $.001, pursuant to a Registration Statement on Form S-1 (File No. 333-25767), declared effective on June 23, 1997 (as amended by a post-effective amendment dated June 27, 1997). The managing underwriters of the offering were Credit Suisse First Boston and Merrill Lynch & Co. and the offering commenced on June 30, 1997. The aggregate gross proceeds of the offering were approximately $47.9 million. The Company's net proceeds from the offering were approximately $43.9 million, after giving effect to underwriting discounts and commissions of approximately $3.1 million and offering expenses of approximately $1.0 million. As of March 31, 1998, the Company had used approximately $13.1 million for research and development efforts, $8.2 million for its sales and marketing efforts, $2.5 million for business acquisitions, $12.2 million for working capital and other general corporate purposes and $7.9 million for temporary investments in U.S. government obligations. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits See Exhibit Index on Page 21 (b) Reports on Form 8-K None 20 EXHIBIT INDEX Exhibit Number Description of Document - ------- ----------------------- 10.9a(+) Second Amendment to Manufacturing and Supply agreement between Diamond Animal Health, Inc. and Bayer Corporation dated February 26, 1998. 27 Financial Data Schedule - ------- (+) Confidential treatment has been requested for certain portions of this agreement. HESKA CORPORATION SIGNATURES Pursuant to the requirements of the Securities and Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. HESKA CORPORATION Date: May 15, 1998 By: /s/ William G.Skolout ---------------------- WILLIAM G. SKOLOUT Chief Financial Officer (on behalf of the Registrant and as the Registrant's Principal Financial and Accounting Officer) EX-10.9(A) 2 AMENDMENT TO MANUFACTURING AND SUPPLY AGREEMENT [CONFIDENTIAL TREATMENT REQUESTED. CONFIDENTIAL PORTIONS OF THIS DOCUMENT HAVE BEEN REDACTED AND HAVE BEEN SEPARATELY FILED WITH THE COMMISSION] EXHIBIT 10.9(a) SECOND AMENDMENT TO MANUFACTURING AND SUPPLY AGREEMENT This Second Amendment to Manufacturing and Supply Agreement (the "Amendment") is made and entered into as of February 26, 1998, by and among DIAMOND ANIMAL HEALTH, INC. ("Diamond"), an Iowa corporation and BAYER CORPORATION ("Bayer") (formerly known as Miles, Inc.), an Indiana corporation. WITNESSETH ---------- WHEREAS, Diamond, Agrion Corporation ("Agrion"), Diamond Scientific Co. ("Diamond Scientific"), and Bayer (then known as Miles Inc.) entered into a Manufacturing and Supply Agreement, as amended (the "Agreement") dated as of December 31, 1993 in connection with a certain Stock Purchase Agreement dated as of December 31, 1993 by and between Bayer and Diamond, whereby Bayer sold to Diamond one hundred percent (100%) of the issued and outstanding stock of Agrion; and WHEREAS, Agrion and Diamond Scientific were merged into and with Diamond which is the surviving corporation; and WHEREAS, by that certain Manufacturing and Supply Agreement Amendment and Extension dated as of September 1, 1995, the parties agreed to extend the term of the Agreement to June 30, 1999 and to amend the Agreement on the terms and conditions stated therein, and WHEREAS, in connection with the execution of the Agreement, Bayer and Diamond entered into that certain Non-Bovine Technology Agreement dated as of December 31, 1993, as subsequently amended (the "Non-Bovine Technology Agreement") and WHEREAS, by the terms of the Non-Bovine Technology Agreement, Diamond agreed to manufacture certain products for Bayer, including a [ ] Vaccine, Modified Live Virus ([ ])(the "[ ] Vaccine, Modified Live Virus"); and WHEREAS, Bayer has or intends to enter into a Supply Agreement with [ ] the "[ ] Supply Agreement") whereby (i) Bayer will sell to [ ] the [ ] Vaccine, Modified Live Virus for use by [ ] as a monovalent vaccine or in combination with its [ ] Vaccine, [ ] (the "[ ] Component") to manufacture a combination vaccine comprised the [ ] Vaccine, Modified Live Virus and the [ ] Component (the "Vaccine") and (ii) [ ] will sell the [ ] Component to Bayer for use by Bayer to manufacture the Vaccine; and WHEREAS, Bayer and Diamond have agreed to extend the term of the Agreement and to amend the Agreement on the terms and conditions of this Second Amendment. NOW, THERFORE, in consideration of the premises and covenants contained herein, the parties agree to amend the Agreement as follows: 1. ANNUAL PURCHASE COMMITMENT. -------------------------- Diamond agrees that all purchases of the [ ] Vaccine, Modified Live Virus by Bayer, whether for Bayer's own use or for sale to [ ] pursuant to the [ ] Supply Agreement, will be applied toward Bayer's minimum annual aggregate purchase commitment set forth in the Agreement. 2. TERM AND TERMINATION. -------------------- Section 7.1 of the Agreement is amended by adding the following at the end thereof: If (i) the term of the Agreement is not renewed and will expire by its terms on June 30, 1999, or at any time thereafter through and including June 30, 2001 and (ii) the [ ] Supply Agreement 2 is then still in force and effect, Diamond and Bayer agree that the term of the agreement shall nevertheless automatically renew solely with respect to the manufacture and sale by Diamond of the [ ] Vaccine, Modified Live Virus and the Vaccine to Bayer, whether for purposes of this Agreement or the [ ] Supply Agreement, through December 31, 2001, and shall automatically renew thereafter with respect to the [ ] Vaccine, Modified Live Virus and the Vaccine on an annual basis unless either Bayer or Diamond gives the other six (6) months prior written notice that it does not wish to renew this agreement. 3. NEW PRODUCT. ----------- Diamond and Bayer agree that the Vaccine shall be deemed a "New Product" under the terms of the Agreement and Diamond shall manufacture the Vaccine for Bayer pursuant to the terms of the Agreement. 4. REGULATORY MATTERS. ------------------ Section 9.4 of the Agreement is amended by adding a ";" at the end of subsection "(i)" and by adding the following at the end of Section 9.4: (j) Diamond shall provide all reasonable assistance to Bayer and also to [ ] upon Bayer's request, to obtain any non-USA registrations, marketing authorizations or import permits for the [ ] Vaccine, Modified Live Virus or the Vaccine as may be requested by Bayer, all at Bayer's expense. 3 5. DEFINED TERMS. ------------- All capitalized terms not otherwise defined in this Amendment shall have the same meaning given to them in the Agreement. 6. BINDING EFFECT. -------------- This Amendment shall be binding upon and inure to the benefit of the parties hereto and their respective successors and (in case of Diamond permitted) assigns. 7. CONFLICT OF TERMS. ----------------- Except as specifically set forth herein, the terms of the Agreement are unchanged and in full force and effect. In the event of any conflict between terms of this Amendment and the terms of the Agreement (as previously amended), the letter agreement dated August 18, 1995 between the parties or the letter agreement dated August 18, 1995 between the parties or the letter agreement dated September 7, 1995 between the parties, the terms of this Amendment shall govern. IN WITNESS WHEREOF, the parties have caused this Amendment to be entered into by their duly authorized representatives, to be effective as of the date first above written. BAYER CORPORATION DIAMOND ANIMAL HEALTH, INC. AGRICULTURE DIVISION BY: /s/ Gary R. Zimmerman BY: /s/ Louis VanDaele --------------------------- ------------------------ NAME: Gary R. Zimmerman NAME: Louis VanDaele ------------------------- ---------------------- TITLE: V.P. New Business Dev. TITLE: President ------------------------ --------------------- 9-26-98 3-4-98 4 EX-27 3 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION FROM THE REGISTRANT'S CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) AS OF AND FOR THE QUARTER ENDED MARCH 31, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) INCLUDED IN THE COMPANY'S REPORT ON FORM 10-Q FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1998. 1,000 U.S. DOLLARS 3-MOS DEC-31-1998 JAN-01-1998 MAR-31-1998 1 7,925 58,224 4,962 94 13,103 86,099 21,708 (3,029) 109,342 16,626 0 0 0 167,159 (84,223) 109,342 7,390 7,910 4,811 4,811 13,033 0 470 (9,817) 0 (9,817) 0 0 0 (9,817) (0.46) (0.46)
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