-----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, SMQ4qo0o6tV3dA55Wod25zrJnSZjI9pTSFZRsZ9EgzpocMHIOuDN2+CGRDv83ExW 3M3QrMdqgEZh6lf/v5NlGg== 0000950134-03-004601.txt : 20030326 0000950134-03-004601.hdr.sgml : 20030325 20030326165953 ACCESSION NUMBER: 0000950134-03-004601 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 11 CONFORMED PERIOD OF REPORT: 20021231 FILED AS OF DATE: 20030326 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ATS MEDICAL INC CENTRAL INDEX KEY: 0000824068 STANDARD INDUSTRIAL CLASSIFICATION: ORTHOPEDIC, PROSTHETIC & SURGICAL APPLIANCES & SUPPLIES [3842] IRS NUMBER: 411595629 STATE OF INCORPORATION: MN FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-18602 FILM NUMBER: 03618800 BUSINESS ADDRESS: STREET 1: 3905 ANNAPOLIS LA STREET 2: SUITE 105 CITY: MINNEAPOLIS STATE: MN ZIP: 55447 BUSINESS PHONE: 6125537736 MAIL ADDRESS: STREET 1: 3905 ANNAPOLIS LANE STREET 2: SUITE 105 CITY: MINNEAPOLIS STATE: MN ZIP: 55447 FORMER COMPANY: FORMER CONFORMED NAME: ATS MEDCIAL INC DATE OF NAME CHANGE: 19920803 10-K 1 c75660e10vk.txt FORM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------- FORM 10-K X Annual report pursuant to Section 13 or 15(d) of the -- Securities Exchange Act of 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2002 COMMISSION FILE NO. 0-18602 ATS MEDICAL, INC. (Exact name of registrant as specified in its charter) MINNESOTA 41-1595629 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 3905 ANNAPOLIS LANE MINNEAPOLIS, MINNESOTA 55447 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (763) 553-7736 Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: Common Stock $.01 par value Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No --- --- 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. ( ) Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes No X --- --- The aggregate market value of voting stock held by nonaffiliates of the registrant as of June 28, 2002, was approximately $11,861,627 (based on the last sale price of such stock as reported by the NASDAQ National Market). The number of shares outstanding of each of the registrant's classes of common stock as of March 21, 2003, was: Common Stock, $.01 par value 22,324,990 shares DOCUMENTS INCORPORATED BY REFERENCE Pursuant to General Instruction G, the responses to Items 5, 6, 7, 7A and 8 of Part II of this report are incorporated by reference to certain information contained in the registrant's Annual Report to Shareholders for the fiscal year ended December 31, 2002 and the responses to Items 10, 11, 12 and 13 of Part III of this report are incorporated herein by reference to certain information contained in the registrant's definitive Proxy Statement for its 2003 Annual Meeting of Shareholders to be held on April 30, 2003. ATS MEDICAL, INC. 2002 FORM 10-K PART I ITEM 1. BUSINESS OVERVIEW ATS Medical, Inc. is a Minnesota corporation founded in June, 1987. We manufacture and market a mechanical bileaflet heart valve with a unique open pivot design. Our valve is used to treat heart valve failure caused by the natural aging process, rheumatic heart disease, prosthetic valve failure and congenital defects. Mechanical heart valves have been in use since the early 1960s. The worldwide market for mechanical heart valves was estimated to exceed $400 million in 2002. The ATS Open Pivot(R) mechanical heart valve ("ATS Open Pivot(R) MHV") is designed to be an evolutionary improvement upon currently available mechanical heart valves by incorporating a pivot consisting of protruding spheres upon which the leaflets of the valve pivot to open and close. This unique open pivot has been designed to eliminate the cavity associated with the pivot of other bileaflet valves and to improve the ability of the blood to flow through the valve without forming clots. We began selling the ATS Open Pivot(R) MHV in international markets in 1992. In October 2000, we received FDA approval to sell the ATS Open Pivot(R) MHV in the United States. PROSTHETIC HEART VALVE MARKET There are two types of replacement heart valves: tissue and mechanical. Tissue valves are made from animal or cadaver tissue or in some cases the patient's own tissue. Tissue valves do not present the same level of risk of blood clotting around the valve as mechanical valves. Tissue valves, however, have limited long-term durability due to calcification and deterioration. If a tissue valve fails, a new valve must be implanted, requiring another open heart surgery. Mechanical valves are made from durable materials such as metals and carbon. In vitro testing of current pyrolytic carbon mechanical valves has yielded estimated useful lives in excess of any patient's lifetime. Current mechanical valves, however, require the use of anti-coagulants to prevent formation of blood clots; tissue valves generally do not require anti-coagulant treatment. Tissue valves are generally prescribed for patients who are less able to tolerate anti-coagulants due to conditions such as gastrointestinal ulcers or liver dysfunction, elderly patients, women in their childbearing years and very active people. Heart surgeons choose a particular type of mechanical valve based on a number of factors. A principal factor in the choice of a valve is the potential for forming blood clots, or thrombosis, resulting from areas in the valve where the blood can stagnate. Blood clots can impair the performance of a valve and, if the clot detaches and moves through the bloodstream (a thromboembolism), result in an arterial blockage or stroke. Another principal factor in the choice of a mechanical valve is the blood flow efficiency, or hemodynamics, of the valve. A mechanical valve should allow blood to flow easily through the valve with minimal pressure required to open the valve and minimal backflow of blood when the valve closes. The valve also should not exert force on the blood that could damage the fragile blood cells. Other factors that are important in a surgeon's choice of a mechanical valve are the ease in implanting and monitoring the valve's performance, the patient's quality of life and the physician's familiarity with and confidence in the valve. In addition to heart surgeons, administrators or business managers at hospitals and clinics have become increasingly influential in the purchase decision-making process in recent years. The increasing emphasis on medical cost containment in most world markets has elevated the decision-making power of the administrator. The administrator tends to focus on cost-effectiveness and, in some markets, primarily on the cost of the valve. We estimate that the total heart valve market in the U.S. in 2002 was approximately $390 million. We estimate that approximately 77,500 heart valve replacement surgeries were conducted in the United States in 2001. 2 THE ATS OPEN PIVOT(R) MHV Our product is designed to improve upon existing mechanical heart valves by combining a proprietary open pivot design and other innovative features with the widely accepted biocompatibility and durability of pyrolytic carbon. The standard ATS heart valve is available in seven sizes ranging from 19mm to 31mm in diameter, with sewing cuffs for either aortic valve or mitral valve replacement. In 1994, we introduced the Advanced Performance series of the ATS heart valve in international markets. This valve is available in seven sizes ranging from 16mm to 28mm in diameter. Our 16mm valve is currently the world's smallest mechanical valve. The major design features of the ATS Open Pivot(R) MHV are: OPEN PIVOT AREAS. The proprietary open pivot areas of the ATS heart valve feature spherical protrusions from the orifice that match spherical notches in the leaflets. The pivot areas protrude into the orifice and so are exposed to the washing action of the blood flowing through the heart valve. All other currently marketed bileaflet valves contain pivot cavities in the orifice wall into which protrusions from the semi-circular leaflets extend to allow the leaflets to open and close. The open pivot design also features angled inflow and outflow pivot stops. A THIN BUT DURABLE ORIFICE. The orifice of the ATS heart valve is manufactured using a mandrel which is coated with pyrolytic carbon. The mandrel is then removed, leaving a solid pyrolytic carbon orifice. Some competitive products use an orifice composed of a soft graphite substrate coated with pyrolytic carbon. By eliminating the graphite substrate, we have made the orifice wall thinner, resulting in a larger average inside diameter. The orifice is surrounded by a titanium stiffening ring and is rotatable. LOW PROFILE DESIGN. The ATS heart valve has a low profile design. The profile of a mechanical heart valve refers to the extension of the orifice and leaflets above and below the natural tissue anulus, or location of the natural heart valve. The inflow side of the orifice of the ATS heart valve is flat, unlike the most widely used cavity pivot valve which has upward protrusions on the orifice to house the cavity. AN ADVANCED SEWING CUFF. The sewing cuff surrounding the orifice of the ATS heart valve is made of double velour polyester and includes a surgical felt ring for ease of sewing. The Advanced Performance series offers an alternative sewing cuff design that allows a valve with a larger inside diameter to be used in small anulus situations. PYROLYTIC CARBON. Pyrolytic carbon has been used in mechanical heart valves for over 25 years. The orifice of our heart valve is fabricated entirely from pyrolytic carbon, while the leaflets are fabricated by coating pyrolytic carbon on graphite substrates. Pyrolytic carbon used in other mechanical valves has been tested to function longer than any patient's lifetime. Pyrolytic carbon is believed to be superior to metal and plastics in terms of the human body's acceptance of the material, thus resulting in lower rates of thrombosis and thromboembolism than with other materials. Because of its durability and biocompatibility, pyrolytic carbon is used in virtually every mechanical heart valve in the market. TWO LEAFLETS. Bileaflet valves are used in substantially all mechanical heart valves being marketed today. The leaflets in the ATS heart valve have tungsten impregnated in the substrate to make them visible under x-ray. The ATS Open Pivot(R) MHV is designed to provide the following primary advances over currently available mechanical heart valves: REDUCED RATES OF THROMBOEMBOLIC COMPLICATIONS. The pivot cavities found in other bileaflet heart valves are areas of blood flow stagnation and possible blood clot formation. By eliminating the cavities in the orifice and placing the pivot areas within the normal blood flow, the improved washing action in the ATS heart valve is intended to lower the likelihood of blood clot formation and the resulting incidence of thromboembolism. The open pivot design as well as the angled inflow and outflow pivot stops also result in low levels of hemolysis (damage to blood cells), which may contribute to a low rate of thromboembolic complications. 3 IMPROVED PATIENT QUALITY OF LIFE THROUGH LOWER NOISE LEVELS. Patients with other implanted mechanical heart valves complain of disturbances resulting from the clicking sound created as the valve closes. These disturbances range from irritability and insomnia to paranoia and depression. Spouses of patients with implanted mechanical valves also report disturbances resulting from the noise of the valve. Based on informal surveys, we believe that the ATS heart valve is quieter than our competitors' valves and below the threshold of hearing of most patients. We believe that the reduced noise level of our product further improves the quality of life of the patient. IMPROVED BLOOD FLOW EFFICIENCIES. We have made the orifice of our product both durable and thinner, thereby resulting in a larger inside diameter. The larger inside diameter of the ATS heart valve is intended to result in lower pressure gradients in our product. (The term "gradients" refers to the pressure difference between the inflow and outflow side of the valve needed to support the required blood flow through the valves.) The ATS heart valve is also designed to have less regurgitation (backflow of blood when the valve is closing and closed) due to the geometry of its angled inflow and outflow pivot stops which minimize the direct leakage paths. These design characteristics are intended to result in superior blood flow efficiencies which should reduce the workload on the heart. EASE OF IMPLANT. Our product has been designed for ease of use by the heart surgeon. The low profile of the ATS heart valve is intended to minimize implant complications. Leaflets that extend significantly below the natural tissue anulus in the mitral position may obstruct blood outflow or interfere with the septum or other parts of the heart. Protrusions on the inflow side of the anulus in the aortic position may snag sutures used to attach the mechanical valve to the heart. In addition, because the orifice can be rotated, the surgeon can optimize valve orientation by adjusting the position of the leaflets after the ATS heart valve has been sutured in the natural anatomical position in the patient's heart. Suturing the ATS heart valve into the heart is made easier by reducing the number of layers of polyester material in the aortic and mitral cuffs and by adding the surgical felt ring in the sewing cuff, thereby easing the passage of the suture needle through the sewing cuff. The packaging and accessories of the ATS heart valve also are designed to facilitate the implant procedure by including all of the required items pre-assembled in a sterilized dual barrier container. IMPROVED FOLLOW-UP DIAGNOSTIC CAPABILITY. Our product facilitates the follow-up diagnostic process by being more easily visible to x-rays. The titanium stiffening ring provides a clear image on x-rays when taken from any angle. The leaflets also have a higher density of tungsten impregnated in the substrate, making them more visible to x-rays. CLINICAL RESULTS AND REGULATORY STATUS On October 13, 2000, the FDA approved our pre-market approval or PMA application to sell the ATS heart valve in the United States. In May 1992, we began to sell the ATS heart valve in Switzerland, Germany, Belgium and the United Kingdom. We received ISO 9001 certification in April 1994 and European Regulatory Approval ("CE") for the ATS heart valve in March 1995. The ISO 9001 certification signifies that our procedures and manufacturing facilities comply with international standards for quality assurance. The CE mark denotes conformity with European standards for safety and allows certified devices to be sold in all European Union countries. By the end of 1995, the ATS heart valve was available in most European countries. We received approval to begin commercial sales in Japan in June 1996 and in Australia in September 1998. In May 2002, we received approval to begin commercial sales in China. We have obtained regulatory approvals in other countries where required. As of December 31, 2002, the ATS heart valve was available for sale in approximately 40 countries worldwide, including in the United States. In 1997, we introduced an aortic valved graft. The aortic valved graft consists of an ATS heart valve connected to a collagen-impregnated vascular graft. It is used in cases where the aortic valve and a portion of the ascending aorta must be replaced. In June 2002, the FDA approved the ATS aortic valved graft for sales in the United States. In May 2002, we received full approval from the FDA of our carbon manufacturing plant. 4 Research, development and engineering expenses totaled $2,425,374 in 2002, $3,905,556 in 2001 and $1,911,815 in 2000. MARKETING, SALES AND DISTRIBUTION Our international marketing strategy combines the substantial cardiovascular experience of our management team with a network of experienced cardiovascular surgery representatives to sell the ATS heart valve internationally. We believe that our distribution partners have provided a rapid and cost efficient means of increasing market penetration and commercial acceptance of the ATS heart valve in key international markets. We have been able to attract experienced mechanical valve sales organizations and people familiar with local markets and customs to serve as our representatives. We market the ATS valve in the United States through a sales organization divided into three regions and 21 sales territories. We focus our sales and marketing efforts on developing awareness of our valve in the approximately 900 U.S. open heart centers. Currently, we operate in one segment, the sale of a bileaflet mechanical heart valve. At December 31, 2002, we had contracts with independent distributors covering 46 countries outside the United States. Century Medical Inc., a distributor of our products, accounted for more than 10% of our gross sales in 2002. In each of the last three years, we derived the following percentages of our net sales from the geographic regions listed in the table below. See Note 11 under the Notes to Consolidated Financial Statements in Item 8 herein.
SALES AS A PERCENTAGE OF TOTAL REVENUE -------------------------------------- 2002 2001 2000 ---- ---- ---- Europe 26% 36% 46% Asia Pacific 42 34 34 North America 19 19 4 Emerging Markets 13 11 16
Each of our independent distributors has the exclusive right to sell the ATS heart valve within a defined territory. These distributors also market other medical products, although they have agreed not to sell other mechanical heart valves. Most of our distributor agreements establish quotas for sales of the ATS heart valve in the distributor's territory. Under most of the distributor agreements, we may, at our option, terminate the agreement upon the departure of certain key employees of the distributor, if our company experiences a change in control, or if key performance criteria are not met. We sell the ATS heart valve to each distributor F.O.B. Minneapolis, Minnesota. Sales to international distributors are denominated in U.S. dollars. We allow the return of unused valves as long as the valve packaging has not been opened and the sterilization date has not expired. Our sales, marketing and customer service personnel provide professional sales, marketing and promotional support to our independent distributors. In December 2002, we formed ATS Medical France, a foreign subsidiary to sell our valves directly to hospitals in France. In France, we will consign valves to hospitals and invoice in euros when the valve is implanted. RELATIONSHIP WITH SULZER CARBOMEDICS Sulzer Carbomedics ("Carbomedics") developed the basic design from which the ATS heart valve evolved. Carbomedics is the largest and most experienced manufacturer of pyrolytic carbon components used in mechanical heart valves. Carbomedics has also designed and patented numerous mechanical valves. Carbomedics offered to license a patented and partially developed valve to us if we would complete the development of the valve and agree to purchase carbon components from Carbomedics. Since 1990, Carbomedics has been our sole source of the carbon components used in our valve and the licensor of certain technology relating to our product. In December 1999, we restructured our contractual relationships with Carbomedics to lower our cost of carbon components and to begin the technology transfer which will enable us to manufacture those components ourselves. We have three agreements with Carbomedics: a license agreement and a long-term carbon supply agreement entered into in September 1990, and a carbon technology agreement entered into in December 1999. 5 Under the terms of the license agreement with Carbomedics, we hold an exclusive, royalty-free, worldwide license to an open pivot, bileaflet mechanical heart valve design from which the ATS heart valve has evolved. The license agreement does not include the right to manufacture the pyrolytic carbon components of the ATS heart valve, except that if Carbomedics were unable to produce the components, we would have the right and license to make the components or have them made for us. After making certain design changes in the valve, we finalized the design of the ATS heart valve and filed and received our own U.S. patent covering the design of the ATS valve. The design modifications and the resulting U.S. patent covering the new design are the exclusive property of ATS. The supply agreement, as amended in June 2002, suspended our purchase obligations for the remainder of 2002 (with the exception of approximately eight weeks of work in process) along with 100% of our purchase obligations for 2003, 2004, 2005 and 2006. In January of 2007 the purchase obligations for 2003 will resume, with the obligations for 2004 through 2006 to follow in each subsequent year. In December 1999, we entered into a carbon technology agreement with Carbomedics under which we obtained an exclusive, worldwide right and license to use Carbomedics' pyrolytic carbon technology to manufacture components for the ATS heart valve, and a non-exclusive worldwide right and license to use the technology to produce pyrolytic carbon components for other devices and manufacturers, including, after 2008, for other heart valve manufacturers. Under the agreement Carbomedics also agreed to assist us in designing, building, equipping, qualifying and commencing operations in a pyrolytic carbon component production facility in Minneapolis, Minnesota. In return, we have agreed to pay Carbomedics a license fee totaling $41 million in eight installments over seven years, contingent on attainment of specific milestones. Through December 31, 2001, we have made three of the installment payments totaling $13 million. We amended the agreement in June 2002 with Carbomedics, to delay the timing of the technology fee payments. The $5 million payment that was due in December 2002 will be paid in two equal installments in June and December of 2003. The technology transfer fees due in subsequent years will be paid in semi-annual installments beginning in June 2005 in amounts equal to a percentage of the reduction in inventory occurring in the previous six months. We were obligated under the carbon technology agreement to pay all of the costs of establishing the new carbon production facility, including hourly fees and out-of-pocket expenses of the Carbomedics employees assigned to assist us in setting up the facility. We and Carbomedics have also mutually agreed not to solicit or hire each other's employees (other than sales and marketing employees) for two years after completion of the milestone payments or termination of the agreement. The carbon technology agreement may be terminated by either party upon a material breach of the agreement by the other party, subject to certain waiting periods during which the breaching party will have an opportunity to cure the default. In addition, Carbomedics may terminate the agreement if we cease business, make an assignment for the benefit of creditors, or enter into certain insolvency, receivership or bankruptcy proceedings. We can terminate the agreement at any time after the third anniversary if we determine to exit the mechanical heart valve business. MANUFACTURING We assemble the ATS heart valve in a controlled clean room environment at our facility in a suburb of Minneapolis, Minnesota. Our manufacturing operation currently consists of fabricating the sewing cuff, assembling, inspecting, testing and packaging all of the components into a finished valve, and then sterilizing the valve prior to shipment to distributors. We have established a facility for manufacturing pyrolytic carbon components under the Carbomedics technology agreement. We have leased a 22,900 square-foot area of a building which is currently equipped to produce 10,000 valve sets per year. In May 2002, we received notice of approval of our carbon plant from the U.S. Food and Drug Administration. Under the terms of our agreement with Carbomedics, we may also elect to have Carbomedics train our personnel how to machine graphite parts, and teach us how to fabricate our own tooling. We have not yet determined whether we will develop these capabilities internally or contract these steps out to third party vendors. In the event we decide to go to third party vendors, then under the agreement Carbomedics will provide the machining and tool fabrication know-how to the vendor. Carbomedics will also qualify the vendor using their current specifications. We currently 6 have in inventory enough carbon components to satisfy our projected requirements for over three years. In addition, we are obligated to resume buying some valve components from Carbomedics in 2007 under the amended supply agreement. COMPETITION The prosthetic heart valve market is highly competitive with St. Jude Medical, Inc. as the mechanical valve market share leader. Other companies that sell mechanical valves include Medtronic, Inc., Carbomedics, Edwards Lifesciences, Sorin Biomedica sPa, Medical CV and Medical Carbon Research, Inc. St. Jude Medical, Medtronic, Edward Lifesciences, Sorin Biomedica and CryoLife also sell tissue valves. Many of our competitors have greater financial, manufacturing, and marketing resources than we have. We are aware of several companies that are developing new prosthetic heart valves. Several companies are developing and testing new autologous (created from the patient's own tissue) valves, potentially more durable tissue valves and new bileaflet and trileaflet mechanical designs. Advancements also are being made in surgical procedures such as mitral valve reconstruction, whereby the natural mitral valve is repaired, delaying the need for a replacement valve. Other companies are pursuing biocompatible coatings to be applied to mechanical valves in an effort to reduce the incidence of thromboembolic events and to treat tissue valves to forestall or eliminate calcific degeneration in these valves. Competition within the prosthetic heart valve market is based on, among other things, clinical performance record, minimalization of complications, ease of use for the surgeon, patient comfort and cost effectiveness. We believe that the most important factors in a heart surgeon's selection of a particular prosthetic valve are the perceived benefits of the valve and the heart surgeon's confidence in the valve design. As a result, valves that have developed a favorable clinical performance record have a significant marketing advantage over new valves. In addition, negative publicity resulting from isolated incidents can have a significant negative effect on a valve's overall acceptance. Our success is dependent upon the surgeon's willingness to use a new prosthetic heart valve as well as the future clinical performance of the ATS heart valve compared with the more established competition. We believe that mechanical heart valves are currently being marketed to hospitals at prices that vary significantly from country to country due to market conditions, currency valuations, distributor mark-ups and government regulations. We believe that, after distributor mark-up, the ATS heart valve sells at or above the current price of other valves in most markets. In many markets, government agencies are imposing or proposing price controls or restrictions on medical products. We work with our independent distributors to price the ATS heart valve in each market to meet these limitations. In addition, our primary competitors have the ability, due to their internal carbon manufacturing facilities and economies of scale, to manufacture their valves at a lower cost than we can currently manufacture the ATS heart valve. The market leader has recently been using price as a method to compete in several markets. PATENTS AND PROPRIETARY TECHNOLOGY Our policy is to protect our proprietary position by obtaining U.S. and foreign patents to protect technology, inventions and improvements important to the development of our business. Under our agreements with Carbomedics, we have obtained a royalty-free license to the Carbomedics patent on the basic design of an open pivot bileaflet mechanical heart valve and, in December 1999, the right to manufacture pyrolytic carbon components, subject to the payment of license fees. See "Business--Relationship with Sulzer Carbomedics." The Carbomedics patent expires in 2004. We subsequently made modifications to the basic design. We were issued a U.S. patent covering our design improvements to the ATS heart valve in October 1994. We also have filed patent applications in Japan, Belgium, France, Germany, Netherlands, Spain, Switzerland and the United Kingdom relating to the design improvements. Patents have been granted in all of these countries. We cannot be certain that any patents will not be challenged or circumvented by competitors. We also rely on trade secrets and technical know-how in the manufacture and marketing of the ATS heart valve. We typically require our employees, consultants and contractors to execute confidentiality agreements with respect to our proprietary information. We claim trademark protection on ATS MedicalTM and ATS Open Pivot(R). 7 GOVERNMENT REGULATION Our ATS heart valve is regulated in the United States as a medical device by the FDA under the Federal Food, Drug and Cosmetic Act, or FD&C Act. Under the FD&C Act, the FDA regulates the research, testing, manufacturing, safety, labeling, storage, record keeping, advertising and distribution of medical devices. The FDA classifies our ATS heart valve as a Class III device, which is subject to the highest level of controls. Noncompliance with applicable regulations can result in withdrawal of prior approvals, total or partial suspension of production, fines, injunctions, recall of products, civil penalties and criminal prosecution. The FDA approved our PMA Application on October 13, 2000. The approval included five mitral valve sizes (26, 28, 29, 31, and 33mm) and eleven aortic valve sizes (18, 20, 21, 22, 23, 24, 25, 26, 27, 28, and 29mm). A PMA supplement for four additional sizes (16 and 19mm aortic and 24 and 27mm mitral sizes) was approved on May 10, 2001. A PMA supplement for our aortic valved graft was submitted on September 21, 2001 and approval was received on June 7, 2002. We also are subject to FDA regulations concerning manufacturing processes and reporting obligations. These regulations require that manufacturing steps be performed according to FDA standards and in accordance with documentation, control and testing standards. The FDA monitors compliance with its good manufacturing practices regulations by conducting periodic inspections. We are required to provide information to the FDA on adverse incidents as well as maintain a detailed record keeping system in accordance with FDA guidelines. We expect that our carbon fabrication processes and new manufacturing facility will be subject to domestic and international regulatory inspection and review. The advertising of our product also is subject to both FDA and Federal Trade Commission regulations. In addition, we will be subject to the "fraud and abuse" laws and regulations promulgated by the U.S. Department of Health and Human Services and the U.S. Health Care Finance Administration if we sell the ATS heart valve to Medicare or Medicaid patients. Regulation of heart valves varies widely in foreign countries. Foreign countries vary from having no regulations to having a pre-market notice or pre-market approval process. The European Union has adopted rules which require that medical products receive the right to affix the CE mark, an international symbol that denotes conformity with European standards for safety and allows certified devices to be marketed in all European Union countries. As part of the CE compliance, manufacturers are required to comply with the ISO 9000 series of standards for quality operations. We received ISO 9001 certification in 1994 and CE Mark approval in March 1995. We will continue to be subjected to various audits and tests under the European Community directives. In June 1996, we received approval to begin commercial sales in Japan through a Shonin regulatory approval obtained by our distributor, Century Medical, Inc. In September 1998, we received approval from the Therapeutic Goods Administration for commercial sales in Australia. In June 2000, we received regulatory approval to distribute the ATS heart valve in Canada. In January 2003, we receive approval to begin commercial sales in China. THIRD PARTY REIMBURSEMENT In the United States, healthcare providers that purchase medical devices, such as our product, generally rely on third-party payors, including Medicare, Medicaid, private health insurance carriers and managed care organizations, to reimburse all or part of the cost and fees associated with the procedures performed using these devices. The commercial success of the ATS heart valve will depend on the ability of health care providers to obtain adequate reimbursement from third-party payors for the surgical procedures in which our products are used. Third-party payors are increasingly challenging the pricing of medical products and procedures. Even if a procedure is eligible for reimbursement, the level of reimbursement may not be adequate. In addition, third-party payors may deny reimbursement if they determine that the device used in the treatment was not cost-effective or was used for a non-approved indication. In international markets, market acceptance of the ATS heart valve depends in part upon the availability of reimbursement from healthcare payment systems. Reimbursement and healthcare payment systems in international markets vary significantly by country. The main types of healthcare payment systems in international markets are government sponsored healthcare and private insurance. Countries with governmental sponsored healthcare, such as 8 the United Kingdom, have a centralized, nationalized healthcare system. New devices are brought into the system through negotiations between departments at individual hospitals at the time of budgeting. In Japan, France and Germany, the government sets an upper limit of reimbursement for various valve types. In most foreign countries, there are also private insurance systems that may offer payments for alternative devices. We have pursued reimbursement for our ATS heart valve internationally through our independent distributors. While the healthcare financing issues in these countries are substantial, we have been able to sell the ATS heart valve to private clinics and nationalized hospitals in each of the countries served by our distributors. PRODUCT LIABILITY AND INSURANCE Cardiovascular device companies are subject to an inherent risk of product liability and other liability claims in the event that the use of their products results in personal injury. A mechanical heart valve is a life-sustaining device, and the failure of any mechanical heart valve usually results in the death of the patient. We have not received any reports of mechanical failure of our valves implanted to date. Any product liability claim could subject us to costly litigation, damages and adverse publicity. We currently maintain product liability insurance policy with an annual coverage limit of $25 million in the aggregate. A $5 million product liability insurance policy is required by the supply agreement with Carbomedics. We are financially responsible for any uninsured claims or claims which exceed the insurance policy limits. Product liability insurance is expensive for mechanical valves. If insurance becomes completely unavailable, we must either develop a self-insurance program or sell without insurance, which would require the consent of Carbomedics. The development of a self-insurance program would require significant capital. Carbomedics has made no warranty on our valve components. We have agreed to hold Carbomedics harmless and indemnify Carbomedics in the event claims are made or damages are assessed against Carbomedics as a result of our valve. EMPLOYEES As of January 1, 2003, we had 41 full-time and 5 part-time employees, of whom 9 were engaged in regulatory affairs and quality assurance, 15 in production and 12 in administrative and purchasing and 10 in sales and marketing activities. ITEM 2. PROPERTIES We lease approximately 56,000 square feet of space in two buildings in a suburb of Minneapolis, Minnesota. The lease covering approximately 33,000 square feet expires on December 31, 2003 and it is used for administrative, production and engineering purposes. The lease on the other 23,000 square feet expires July 31, 2008 and is used for carbon manufacturing. We believe that these facilities are adequate for our current needs. ITEM 3. LEGAL PROCEEDINGS None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 9 EXECUTIVE OFFICERS OF THE REGISTRANT Our executive officers are as follows:
Name Age Position - ---- --- -------- Michael D. Dale 43 Chief Executive Officer, President and Director Richard A. Curtis 38 Vice President, Marketing and Business Development
MICHAEL D. DALE has served as our Chief Executive Officer, President and a Director of the Company since October 2002. From 2000 to 2002, Mr. Dale was President of Worldwide Sales and Marketing at Endocardial Solutions, a company that develops, markets and distributes an advanced cardiac mapping system. Mr. Dale joined Endocardial Solutions in December 1998 as Vice President Worldwide Sales. From 1996 to 1998, Mr. Dale was Vice President of Global Sales for Cyberonics, Inc., a medical device company, and additionally was managing director of Cyberonics Europe S.A. From 1988 to 1996, Mr. Dale served in several capacities at St. Jude Medical, most recently as the Business Unit Director for St. Jude Europe. Mr. Dale is on the Board of Directors of Medamicus, Inc., a medical products company that designs, develops, manufactures and markets percutaneous delivery solutions. RICHARD A. CURTIS has served as our Vice President of Marketing and Business Development since December 2002. Prior to joining the Company, Mr. Curtis was Vice President of Corporate Development at Cardinal Health, Inc., a provider of healthcare products and services, from September 2001 to November 2002. From 1999 to 2001, Mr. Curtis was Vice President of Business Development for Hill-Rom, Inc., a provider of patient care environment and therapy solutions, and from 1997 to 1999, he was a Director of Corporate Development at Hillenbrand Industries, a health care and funeral services provider. 10 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS The information contained under the heading "Common Stock Information" on page 17 of the Company's Annual Report to Shareholder's for the year ended December 31, 2002 (the "Annual Report to Shareholders") is incorporated herein by reference. ITEM 6. SELECTED FINANCIAL DATA The information contained under the heading "Financial Highlights" on page 1 of the Annual Report to Shareholders is incorporated herein by reference. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The information contained under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations" on pages 10 to 16 of the Annual Report to Shareholders is incorporated herein by reference. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The information contained under the heading "Management's Discussion and Analysis of Financial Condition and Results of Operations--Quantitative and Qualitative Disclosures About Market Risk" on page 16 of the Annual Report to Shareholders is incorporated herein by reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The information contained under the headings "Report of Independent Auditors," "Consolidated Statements of Financial Position," "Consolidated Statements of Operations," "Consolidated Statement of Changes in Shareholders' Equity," "Consolidated Statements of Cash Flows," and "Notes to Consolidated Financial Statements" on pages 17 to 28 of the Annual Report to Shareholders is incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. 11 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT See Part I of this Report for certain information regarding the Company's executive officers. Pursuant to General Instruction G(3), reference is made to information contained under the headings "Election of Directors" and "Section 16(a) Beneficial Ownership Reporting Compliance" in the Company's definitive proxy statement for its 2003 Annual Meeting of Shareholders to be filed with the Securities and Exchange Commission on or before April 30, 2003, which information is incorporated herein. ITEM 11. EXECUTIVE COMPENSATION Pursuant to General Instruction G(3), reference is made to information contained under the headings "Executive Compensation" and "Compensation of Directors" in the Company's definitive proxy statement for its 2003 Annual Meeting of Shareholders to be filed with the Securities and Exchange Commission on or before April 30, 2003, which information is incorporated herein, excluding the "Report of the Compensation Committee Concerning Executive Compensation." ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Pursuant to General Instruction G(3), reference is made to information contained under the headings "Security Ownership of Certain Beneficial Owners and Management", "Equity Compensation Plan Information" and "Election of Directors" in the Company's definitive proxy statement for its 2003 Annual Meeting of Shareholders to be filed with the Securities and Exchange Commission on or before April 30, 2003, which information is incorporated herein. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS None. ITEM 14. CONTROLS AND PROCEDURES (a) Evaluation of Disclosure Controls and Procedures Under the supervision and with the participation of our management, including our Chief Executive Officer and our Controller, we evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-14(c) under the Exchange Act) as of a date (the "Evaluation Date") within 90 days prior to the filing date of this report. Based upon that evaluation, the Chief Executive Officer and Controller concluded that, as of the Evaluation Date, our disclosure controls and procedures were effective in timely alerting them to the material information relating to us required to be included in our periodic SEC filings. (b) Changes in Internal Control There were no significant changes made in our internal controls during the period covered by this report or, to our knowledge, in other factors that could significantly affect these controls subsequent to the date of their evaluation. 12 PART IV ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) 1. FINANCIAL STATEMENTS Report of Independent Auditors. Consolidated Statements of Financial Position at December 31, 2002 and 2001. Consolidated Statements of Operations for the years ended December 31, 2002, 2001 and 2000. Consolidated Statement of Changes in Shareholders' Equity for the years ended December 31, 2002, 2001 and 2000. Consolidated Statements of Cash Flows for the years ended December 31, 2002, 2001 and 2000. Notes to Consolidated Financial Statements. (a) 2. FINANCIAL STATEMENT SCHEDULES Please see Schedule II - Valuation and Qualifying Accounts and Reserves on page 20. All other schedules have been omitted because of absence of conditions under which they are required or because the required information is included in the financial statements or notes thereto. (a) 3. LISTING OF EXHIBITS
EXHIBIT NUMBER DESCRIPTION 3.1 Restated Articles of Incorporation, as amended to date (Incorporated by reference to Exhibit 3.1 to the Company's Annual Report on Form 10-K for the year ended December 31, 1993 (the "1993 Form 10-K")). 3.2 Bylaws of the Company, as amended to date (Incorporated by reference to Exhibit 3.2 to the Company's Annual Report on Form 10-K for the year ended December 31, 1996 (the "1996 Form 10-K")). 4.1 Specimen certificate for shares of Common Stock of the Company (Incorporated by reference to Exhibit 4.1 to the Company's Annual Report on Form 10-K for the year ended December 31, 1997 (the "1997 Form 10-K")). 10.1** 1987 Stock Option and Stock Award Plan, as restated and amended to date (Incorporated by reference to Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1997). 10.2** ATS Medical Inc. 2000 Stock Incentive Plan (Incorporated by reference to Exhibit 10.1 to the Company's Form 10-Q for the quarter ended September 30, 2000). 10.3** Agreement between the Company and Manuel A. Villafana dated September 11, 2001 (Incorporated by reference to Exhibit 10.3 to the Company's Form 10-K for the year ended December 31, 2001 (the "2001 Form 10-K")).
13 10.4 Lease Agreement between the Company and Crow Plymouth Land Limited Partnership dated December 22, 1987 (Incorporated by reference to Exhibit 10(d) to the Company's Registration Statement on Form S-18, File No. 33-34785-C (the "Form S-18")). 10.5 Amendment No. 1 to Lease Agreement between the Company and Crow Plymouth Land Limited Partnership, dated January 5, 1989 (Incorporated by reference to Exhibit 10(e) to the Form S-18). 10.6 Amendment No. 2 to Lease Agreement between the Company and Crow Plymouth Land Limited Partnership, dated January 1989 (Incorporated by reference to Exhibit 10(f) to the Form S-18). 10.7 Amendment No. 3 to Lease Agreement between the Company and Crow Plymouth Land Limited Partnership, dated June 14, 1989 (Incorporated by reference to Exhibit 10(g) to the Form S-18). 10.8 Amendment No. 4 to Lease Agreement between the Company and Plymouth Business Center Limited Partnership, dated February 10, 1992 (Incorporated by reference to Exhibit 10.8 to the 1996 Form 10-K). 10.9* Development Agreement dated September 24, 1990, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.9 to the 1996 Form 10-K). 10.10* O.E.M. Supply Contract dated September 24, 1990, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.10 to the 1996 Form 10-K). 10.11* License Agreement dated September 24, 1990, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.11 to the 1996 Form 10-K). 10.12** Employment Agreement between the Company and Michael D. Dale dated September 18, 2002. 10.13 Helix BioCore, Inc. Self-Insurance Trust Agreement dated February 28, 1991 (Incorporated by reference to Exhibit 10.13 to the 1996 Form 10-K). 10.14* Amendment 1 to License Agreement dated December 16, 1993, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.17 to the 1993 Form 10-K). 10.15* Amendment 4 to O.E.M. Supply Contract dated December 16, 1993, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.18 to the 1993 Form 10-K). 10.16* Amendment 5 to O.E.M. Supply Contract dated September 1, 1994, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.19 to the 1994 Form 10-K). 10.17 Letter Agreement between the Company and Sulzer Carbomedics, Inc., dated June 27, 2002 (Incorporated by reference to Exhibit 10.1 to the Company's Form 10-Q for the quarter ended June 20, 2002). 10.18 Line of Credit dated August 11, 1994, between the Company and First Bank National Association (Incorporated by reference to Exhibit 10.1 to the Company's Form 10-Q for the quarter ended September 30, 1994). 10.19 Form of International Distributor Agreement (Incorporated by reference to Exhibit 10.22 to the 1994 Form 10-K). 10.20** Form of Agreement between ATS Medical, Inc. and each officer dated June 30, 1995, concerning severance benefits upon a change in control (Incorporated by reference to Exhibit 10.23 to the
14 Company's Annual Report on Form 10-K for the year ended December 31, 1995 (the "1995 Form 10-K")). 10.21** ATS Medical, Inc. Change in Control Severance Pay Plan (Incorporated by reference to Exhibit 10.24 to the 1995 Form 10-K). 10.22 Amendment No. 5 to Lease Agreement between the Company and St. Paul Properties, Inc., dated May 30, 1996 (Incorporated by reference to Exhibit 10.22 to the 1996 Form 10-K). 10.23** Letter Agreement dated November 1, 2002, extending the agreement dated September 11, 2001 between the Company and Manuel A. Villafana. 10.24 Amendment No. 6 to Lease Agreement between the Company and St. Paul Properties, Inc., dated November 25, 1997 (Incorporated by reference to Exhibit 10.23 to the 1997 Form 10-K). 10.25 1998 Employee Stock Purchase Plan (Incorporated by reference to Exhibit 4 to the Company's Registration Statement on Form S-8, File No. 333-57527). 10.26** 1998 Management Incentive Compensation Plan (Incorporated by reference to Exhibit 10.25 to the 1998 Form 10-K). 10.27* Carbon Agreement by and between Sulzer Carbomedics, Inc. and ATS Medical, Inc., dated December 29, 1999 (confidential treatment granted) (Incorporated by reference to Exhibit 99.1 to the Current Report on Form 8-K filed on January 13, 2000 (the "January 2000 Form 8-K"). 10.28* Amendment 7 to OEM Supply Contract by and between Sulzer Carbomedics, Inc. and ATS Medical, Inc., dated December 29, 1999 (confidential treatment granted) (Incorporated by reference to Exhibit 99.2 to the January 2000 Form 8-K). 10.29* Amendment 2 to License Agreement by and between Sulzer Carbomedics, Inc. and ATS Medical, Inc., dated December 29, 1999 (confidential treatment granted) (Incorporated by reference to Exhibit 99.3 to the January 2000 Form 8-K). 10.30 Amendment No. 7 to Lease Agreement between the Company and St. Paul Properties, Inc., dated May 18, 2000 (Incorporated by reference to Exhibit 10.2 to the Company's Form 10-Q for the quarter ended June 30, 2000). 10.31 Lease Agreement between the Company and St. Paul Properties, Inc., dated April 29, 2000 (Incorporated by reference to Exhibit 10.1 to the Company's Form 10-Q for the quarter ended June 30, 2000). 10.32 Amendment No. 8 to Lease Agreement between the Company and St. Paul Properties, Inc., dated December 14, 2000 (Incorporated by reference to Exhibit 10.32 to the Company's Annual Report on Form 10-K for the year ended December 31, 2000 (the "2000 Form 10-K")). 10.33* Amendment 8 to OEM Supply Contract by and between Sulzer Carbomedics, Inc. and ATS Medical, Inc., dated November 3, 2000 (confidential treatment granted) (Incorporated by reference to Exhibit 10.33 to the 2000 Form 10-K). 10.34 Form of U.S. Distribution Agreement. 13 Portions of 2002 Annual Report to Shareholders. 21 List of Subsidiaries. 23 Consent of Ernst & Young LLP.
15 24 Power of Attorney. 99.1 Cautionary Statements. 99.2 Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 99.3 Certification of the Controller pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
*Pursuant to Rule 24b-2 of the Securities Exchange Act of 1934, as amended, confidential portions of this exhibit have been redacted. **Represents a management contract or compensatory plan or arrangement required to be filed as an exhibit pursuant to Item 15(c) of Form 10-K. (b) Reports on Form 8-K None. (c) Exhibits See Exhibit Index and Exhibits attached as a separate section of this report. (d) Financial Statement Schedule See Item 15(a)(2) above. 16 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Dated: March 26, 2003 ATS MEDICAL, INC. By /s/ Michael D. Dale ------------------------------ Michael D. Dale Chief Executive Officer Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the date indicated.
SIGNATURE TITLE Manuel A. Villafana* Chairman and Director ) ) Michael D. Dale* Chief Executive Officer, ) President and Director ) (principal executive officer) ) By: /s/ Deborah K. Chapman ------------------------- ) Deborah K. Chapman Deborah K. Chapman* Controller ) Pro se and (principal financial and ) Attorney-in-fact accounting officer) ) ) Dated: March 26, 2003 David L. Boehnen* Director ) ) A. Jay Graf* Director ) ) Eric W. Siverston* Director )
*By Power of Attorney filed with this report as Exhibit 24 hereto. 17 CERTIFICATIONS I, Michael D. Dale, certify that: 1. I have reviewed this annual report on Form 10-K of ATS Medical, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: March 26, 2003 /s/ Michael D. Dale --------------------------- Name: Michael D. Dale Title: Chief Executive Officer 18 CERTIFICATIONS I, Deborah K. Chapman, certify that: 1. I have reviewed this annual report on Form 10-K of ATS Medical, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this annual report (the "Evaluation Date"); and c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: March 26, 2003 /s/ Deborah K. Chapman ----------------------------------- Name: Deborah K. Chapman Title: Controller 19 ATS MEDICAL, INC. SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
COL. A COL. B COL. C COL. D COL. E Additions (1) (2) Balance at Charged Charged to Balance at Beginning to Costs Other Deductions- End of Description Of Year and Accounts- Describe Year Expenses Describe
Allowance for Doubtful Accounts Year ended December 31, 2002: Deducted from asset accounts: Allowance for doubtful accounts $ 400,000 $ 20,000 -- -- $ 420,000 Year ended December 31, 2001: Deducted from asset accounts: Allowance for doubtful accounts $ 425,000 $ 198,000 -- $ 223,000(1) $ 400,000 Year ended December 31, 2000: Deducted from asset accounts: Allowance for doubtful accounts $ 205,000 $ 220,000 -- -- $ 425,000 Reserve for Obsolete Inventory Year ended December 31, 2002: Deducted from asset accounts: Reserve for Obsolete Inventory $ 200,000 -- -- -- $ 200,000 Year ended December 31, 2001: Deducted from asset accounts: Reserve for Obsolete Inventory $ 200,000 -- -- -- $ 200,000 Year ended December 31, 2000: Deducted from asset accounts: Reserve for Obsolete Inventory $ 200,000 -- -- -- $ 200,000
(1) Uncollectible accounts written off. 20 EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION 3.1 Restated Articles of Incorporation, as amended to date (Incorporated by reference to Exhibit 3.1 to the Company's Annual Report on Form 10-K for the year ended December 31, 1993 (the "1993 Form 10-K")). 3.2 Bylaws of the Company, as amended to date (Incorporated by reference to Exhibit 3.2 to the Company's Annual Report on Form 10-K for the year ended December 31, 1996 (the "1996 Form 10-K")). 4.1 Specimen certificate for shares of Common Stock of the Company (Incorporated by reference to Exhibit 4.1 to the Company's Annual Report on Form 10-K for the year ended December 31, 1997 (the "1997 Form 10-K")). 10.1** 1987 Stock Option and Stock Award Plan, as restated and amended to date (Incorporated by reference to Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1997). 10.2** ATS Medical Inc. 2000 Stock Incentive Plan (Incorporated by reference to Exhibit 10.1 to the Company's Form 10-Q for the quarter ended September 30, 2000). 10.3** Agreement between the Company and Manuel A. Villafana dated September 11, 2001 (Incorporated by reference to Exhibit 10.3 to the Company's Form 10-K for the year ended December 31, 2001 (the "2001 Form 10-K")). 10.4 Lease Agreement between the Company and Crow Plymouth Land Limited Partnership dated December 22, 1987 (Incorporated by reference to Exhibit 10(d) to the Company's Registration Statement on Form S-18, File No. 33-34785-C (the "Form S-18")). 10.5 Amendment No. 1 to Lease Agreement between the Company and Crow Plymouth Land Limited Partnership, dated January 5, 1989 (Incorporated by reference to Exhibit 10(e) to the Form S-18). 10.6 Amendment No. 2 to Lease Agreement between the Company and Crow Plymouth Land Limited Partnership, dated January 1989 (Incorporated by reference to Exhibit 10(f) to the Form S-18). 10.7 Amendment No. 3 to Lease Agreement between the Company and Crow Plymouth Land Limited Partnership, dated June 14, 1989 (Incorporated by reference to Exhibit 10(g) to the Form S-18). 10.8 Amendment No. 4 to Lease Agreement between the Company and Plymouth Business Center Limited Partnership, dated February 10, 1992 (Incorporated by reference to Exhibit 10.8 to the 1996 Form 10-K). 10.9* Development Agreement dated September 24, 1990, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.9 to the 1996 Form 10-K). 10.10* O.E.M. Supply Contract dated September 24, 1990, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.10 to the 1996 Form 10-K). 10.11* License Agreement dated September 24, 1990, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.11 to the 1996 Form 10-K).
21 10.12** Employment Agreement between the Company and Michael D. Dale dated September 18, 2002. 10.13 Helix BioCore, Inc. Self-Insurance Trust Agreement dated February 28, 1991 (Incorporated by reference to Exhibit 10.13 to the 1996 Form 10-K). 10.14* Amendment 1 to License Agreement dated December 16, 1993, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.17 to the 1993 Form 10-K). 10.15* Amendment 4 to O.E.M. Supply Contract dated December 16, 1993, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.18 to the 1993 Form 10-K). 10.16* Amendment 5 to O.E.M. Supply Contract dated September 1, 1994, with CarboMedics, Inc. (confidential treatment granted) (Incorporated by reference to Exhibit 10.19 to the 1994 Form 10-K). 10.17 Letter Agreement between the Company and Sulzer Carbomedics, Inc., dated June 27, 2002 (Incorporated by reference to Exhibit 10.1 to the Company's Form 10-Q for the quarter ended June 20, 2002). 10.18 Line of Credit dated August 11, 1994, between the Company and First Bank National Association (Incorporated by reference to Exhibit 10.1 to the Company's Form 10-Q for the quarter ended September 30, 1994). 10.19 Form of International Distributor Agreement (Incorporated by reference to Exhibit 10.22 to the 1994 Form 10-K). 10.20** Form of Agreement between ATS Medical, Inc. and each officer dated June 30, 1995, concerning severance benefits upon a change in control (Incorporated by reference to Exhibit 10.23 to the Company's Annual Report on Form 10-K for the year ended December 31, 1995 (the "1995 Form 10-K")). 10.21** ATS Medical, Inc. Change in Control Severance Pay Plan (Incorporated by reference to Exhibit 10.24 to the 1995 Form 10-K). 10.22 Amendment No. 5 to Lease Agreement between the Company and St. Paul Properties, Inc., dated May 30, 1996 (Incorporated by reference to Exhibit 10.22 to the 1996 Form 10-K). 10.23** Letter Agreement dated November 1, 2002, extending the agreement dated September 11, 2001 between the Company and Manuel A. Villafana. 10.24 Amendment No. 6 to Lease Agreement between the Company and St. Paul Properties, Inc., dated November 25, 1997 (Incorporated by reference to Exhibit 10.23 to the 1997 Form 10-K). 10.25 1998 Employee Stock Purchase Plan (Incorporated by reference to Exhibit 4 to the Company's Registration Statement on Form S-8, File No. 333-57527). 10.26** 1998 Management Incentive Compensation Plan (Incorporated by reference to Exhibit 10.25 to the 1998 Form 10-K). 10.27* Carbon Agreement by and between Sulzer Carbomedics, Inc. and ATS Medical, Inc., dated December 29, 1999 (confidential treatment granted) (Incorporated by reference to Exhibit 99.1 to the Current Report on Form 8-K filed on January 13, 2000 (the "January 2000 Form 8-K").
22 10.28* Amendment 7 to OEM Supply Contract by and between Sulzer Carbomedics, Inc. and ATS Medical, Inc., dated December 29, 1999 (confidential treatment granted) (Incorporated by reference to Exhibit 99.2 to the January 2000 Form 8-K). 10.29* Amendment 2 to License Agreement by and between Sulzer Carbomedics, Inc. and ATS Medical, Inc., dated December 29, 1999 (confidential treatment granted) (Incorporated by reference to Exhibit 99.3 to the January 2000 Form 8-K). 10.30 Amendment No. 7 to Lease Agreement between the Company and St. Paul Properties, Inc., dated May 18, 2000 (Incorporated by reference to Exhibit 10.2 to the Company's Form 10-Q for the quarter ended June 30, 2000). 10.31 Lease Agreement between the Company and St. Paul Properties, Inc., dated April 29, 2000 (Incorporated by reference to Exhibit 10.1 to the Company's Form 10-Q for the quarter ended June 30, 2000). 10.32 Amendment No. 8 to Lease Agreement between the Company and St. Paul Properties, Inc., dated December 14, 2000 (Incorporated by reference to Exhibit 10.32 to the Company's Annual Report on Form 10-K for the year ended December 31, 2000 (the "2000 Form 10-K")). 10.33* Amendment 8 to OEM Supply Contract by and between Sulzer Carbomedics, Inc. and ATS Medical, Inc., dated November 3, 2000 (confidential treatment granted) (Incorporated by reference to Exhibit 10.33 to the 2000 Form 10-K). 10.34 Form of U.S. Distribution Agreement. 13 Portions of 2002 Annual Report to Shareholders. 21 List of Subsidiaries 23 Consent of Ernst & Young LLP. 24 Power of Attorney. 99.1 Cautionary Statements. 99.2 Certification of the Chief Executive Officer pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 99.3 Certification of the Controller pursuant to 18 U.S.C. Section 1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
*Pursuant to Rule 24b-2 of the Securities Exchange Act of 1934, as amended, confidential portions of this exhibit have been redacted. **Represents a management contract or compensatory plan or arrangement required to be filed as an exhibit pursuant to Item 15(c) of Form 10-K. 23 EX-10.12 3 c75660exv10w12.txt EMPLOYMENT AGREEMENT - MICHAEL D DALE EXHIBIT 10.12 ATS MEDICAL, INC EMPLOYMENT AGREEMENT THIS AGREEMENT made this 18th day of September 2002 is by and between ATS Medical Inc., a Minnesota Corporation (the "Company"), and Michael D. Dale a resident of the State of Minnesota (the "Employee"). WHEREAS, the parties wish to provide for the employment of the Employee by the Company; and WHEREAS, the Company desires reasonable protection of its confidential business and technical information, which has been and will be acquired, and is being developed by the Company, at substantial expense. NOW, THEREFORE, in consideration of mutual promises contained herein, the Company and the Employee, each intending to be legally bound, agree as follows: 1. Employment. Subject to all of the terms and conditions of this Agreement, the Company agrees to employ the employee as PRESIDENT/CEO and the Employee accepts this employment. 2. Duties. The Employee will make the best use of his/her energy, knowledge and training in advancing the Company's interest. He/she will diligently and conscientiously perform the duties of CHIEF EXECUTIVE OFFICER for the Company, as such duties may be defined by the Company's Board of Directors and such other tasks as may from time to time be reasonably required to further the growth of the Company. The Employee will make every effort to avoid using any trade secrets or confidential information that he/she may have in his/her possessions from any previous employer. Employee's work will be confined to new developments created at the Company or in the public domain. This will help to avoid any conflict with Employee's previous employers. 3. Term. The Employee shall be employed on an "at will" basis. Either party may terminate the employment relationship created by this agreement for any reason by giving ten (10) working days prior written notice to the other party. Because the employment relationship is "at will" the Employee shall have no right to continued employment, and the Company may terminate the Employee for any reason (other than because of Employee's race, sex, age or other legally protected category) at any time. If this Agreement is terminated without cause by the Company during the first year of this Agreement, Employee shall be entitled to six (6) months severance benefits. The provision of severance benefits to the terminated employee shall increase to 12 months after the first year of employment and shall not imply a policy, practice of obligation of providing severance benefits to any other terminated employees. No document or statement (oral or written) by the Company or its officers will create a right to continued employment or a right to severance benefits for a terminated employee. 4. Compensation. (a) Salary. The Company shall pay the Employee a salary of $9,615.39 bi-weekly. (b) Within 30 days of employment, the Company shall pay the Employee a "Signing Bonus" of $100,000. . (c) Benefits. The Employee will be entitled to participate in benefit plans which may be established by the Board of Directors of the Company. (d) Expenses; The Company shall reimburse the Employee for all ordinary and necessary business expenses the Employee incurs while performing his/her duties under this Agreement, provided that the Employee accounts properly for such expenses to the Company in accordance with the general corporate policy of the Company as determined by the Company's Board of Directors and in accordance with the requirements of Internal Revenue Service regulations relating to substantiation of expenses. (e) The Company's Board of Directors shall have the sole discretion of giving the Employee a bonus of $50,000 based on Sales and Earnings. (f) The Company shall pay for the tax preparation of the Employee's tax return, if prepared by the Company's auditors. 5. Inventions. (a) "Inventions", as used in this Section 5, means any discoveries, designs, improvements or software (whether or not they are in writing or reduced to practice) or works of authorship (whether or not they can be patented or copyrighted) that the Employee makes, authors or conceives (either alone or with others) and that: (i) concern directly the Company's products, research or development; (ii) result from any work the Employee performs for the Company; or (iii) use the Company's equipment, facilities, or trade secret information. (b) The Employee agrees that all Inventions he/she makes during the term of this Agreement will be the sole and exclusive property of the Company. The Employee will, with respect to any such Invention: (i) keep current, accurate, and complete records, which will belong to the Company and be kept and stored on the Company's premises while the Employee is employed by the Company; (ii) promptly and fully disclose the existence and describe the nature of the Invention to the Company and in writing (and without request); (iii) assign (and the Employee does hereby assign) to the Company all of his/her rights to the Invention, and applications he/she makes for patents or copyrights in any country, and any patents or copyrights granted to him/her in any country; and (iv) acknowledge and deliver promptly to the Company any written instruments, and perform any other reasonable acts necessary in the Company's opinion and at its expense to preserve property rights in the Invention against forfeiture, abandonment, or loss and to obtain and maintain letters, patents and/or copyrights on the Invention and to vest the entire right and title to the Invention in the Company, provided that the Employee makes no warranty or representation to the Company as to rights against third parties hereunder. The requirements of this subsection 5 (b) do not apply to an Invention for which no equipment, facility, or trade secret information of the Company was used and which was developed entirely on the Employee's own time, and which: (i) does not relate directly to the Company's business or to the Company's actual research or development; and (ii) does not result from any work the Employee performed for the Company. Except as previously disclosed to the Company in writing, the Employee does not have and will not assert any claims to or rights under any Inventions as having been made, conceived, authored, or acquired by the Employee prior to his/her employment hereunder. 6. Confidential Information. (a) "Confidential Information," as used in this Section 6, means information that is not generally known and that is proprietary to the Company or that the Company is obligated to treat as proprietary. This information includes, without limitation: (i) trade secret information about the Company and its products or services; (ii) "Inventions," as defined in subsection 5 (a) above; (iii) information concerning the Company's business, as the Company has conducted it or as it may conduct it in the future; and (iv) information concerning any of the Company's past, current, or possible future products, including (without limitation) information about the Company's research, development, engineering, purchasing, manufacturing, servicing, finances, marketing or selling. Any information that reasonably can be expected to be treated as Confidential Information will be presumed to be Confidential Information (whether the Employee or other originated it and regardless of how he/she obtained it). (b) Except as required in his/her duties to the Company, the Employee will not, during his/her employment or for a period of three (3) years after termination of his/her employment with the Company, use or disclose Confidential Information to any person not authorized by the Company to receive it, excluding Confidential Information: (i) which becomes publicly available by a source other than the Employee; (ii) which is received by the Employee after termination of his/her employment hereunder from a source who did not obtain the information directly or indirectly from employees or agents of the Company; or (iii) for which disclosure thereof the Company has consented in writing. When the Employee's employment with the Company ends, he/she will promptly turn over to the Company all records and any compositions, articles, devices, apparatus and other items that disclose, describe, or embody Confidential Information including all copies, reproductions, and specimens of Confidential Information in his/her possession regardless of who prepared them. 7. Competitive Activities. The Employee agrees that during his/her employment with the Company and for a period of one (1) year after his/her employment with the Company ends: (a) He/she will not alone, or in any capacity with another firm: (i) directly or indirectly engage in any commercial activity that is competitive with any of the Company's business in which the Employee participated while he/she was employed by the Company or any affiliate thereof, nor will he/she participate in the management or operation of, or become a significant investor in, any venture or enterprise of whatever kind as a principal officer, director, employee, representative, agent or shareholder of any entity whose business is the design, development, production, marketing or servicing of any product or service competitive with the business of the Company as it exists at the time his/her employment with the Company or any affiliate thereof is terminated; (ii) solicit or in any way interfere or attempt to interfere with the Company's relationships with any of its current or potential customers; or (iii) employ or attempt to employ any of the Company's employee on behalf of any other entity competing with the Company, provided that, nothing in this Section 7 shall restrict the Employee's employment by or association with any entity, venture, or enterprise which engages in a business with a product or service competitive with any product or service of the Company so long as the following conditions are complied with: (a) the Employee's employment or association with such entity, venture or enterprise is limited to work which does not involve or relate to the design, development, production, marketing or servicing of a product or service which is directly competitive with any product or service of the company; and (b) the Employee's employer takes reasonable measures to insure that the Employee is not involved with or consulted in any aspect of the design, development, production, marketing, or servicing of such competitive product or service. (b) Employee will, prior to accepting employment with any new employer, inform that employer of this Agreement and provide that employer with a copy of Section 7 of this Agreement, provided that he/she reasonably believed his/her new position is or may be contrary to this Agreement. 8. Conflicting Business. The Employee agrees that he/she will not transact business with the Company personally, or as agent, owner, partner, or shareholder of any other entity. The Employee further agrees that he/she will not engage in any business activity or outside employment that may be in conflict with the Company's proprietary or business interests. 9. No adequate Remedy. The Employee understands that if he/she fails to fulfill his/her obligations under Sections 5,6,7 or 8 of this agreement, the damages to the Company would be very difficult to determine. Therefore, in addition to any other rights or remedies available to the Company at law, in equity or by statute, the Employee hereby consents to the specific enforcement of Sections 5,6, 7 or 8 of this Agreement by the Company through an injunction or restraining order issued by any appropriate court. 10. No Prior Agreements. The Employee hereby represents and warrants to the Company that he/she is not a party to or otherwise subject to any non competition, confidentiality or other agreement which would in any way restrict his/her ability to fulfill his/her duties hereunder or which would be breached or violated by execution of this agreement by the Employee. 11. Miscellaneous. (a) Successors and Assigns. This Agreement may not be assigned by the Employee. Except as provided in the next sentence. This Agreement may not be assigned by the Company without the Employee's consent, which consent shall not be unreasonably withheld. In any event, the Company may assign this Agreement without the consent of the Employee in connection with a merger, consolidation, assignment, sale or other disposition of substantially all of its assets or business or the assets or business of a division of the Company. (b) Modification. This Agreement may be modified or amended only by a writing signed by each of the parties hereto. (c) Governing Law. The laws of the State of Minnesota shall govern the validity, construction, and performance of this Agreement. (d) Construction. Wherever possible, each provision of this Agreement shall be interpreted so that it is valid under applicable law. If any provision of this Agreement is to any extent invalid under applicable law in any jurisdiction, that provision shall still be effective to the extent it remains valid. The remainder of this Agreement also shall continue to be valid, and the entire Agreement shall continue to be valid in other jurisdictions. (e) Non-Waiver. No failure or delay by any of the parties hereto in exercising any right or remedy under this Agreement shall waive any provision of this Agreement. Any single or partial exercise by either of the parties hereto of any right or remedy under this Agreement shall not preclude the party from otherwise or further exercising its rights or remedies, or any other rights or remedies granted by any law or any related document. (f) Captions. The headings in this Agreement are for convenience only and shall not affect the interpretation of this Agreement. (g) Notices. All notices and other communications required or permitted under this Agreement shall be in writing and hand delivered or sent by registered first-class mail, postage prepaid. Such notices and other communication shall be effective upon receipt if hand delivered and shall be effective five (5) business days after mailing if sent by mail to the following addresses, or such other addresses as either party shall have notified the other party: If to the Company: ATS Medical, Inc 3905 Annapolis Lane, Suite 105 Plymouth, MN 55447 If to the Employee: Michael D. Dale 1450 Hunter Drive Wayzata, MN 55391 IN WITNESS WHEREOF, the Company and the Employee have executed this Agreement as of the date first above written. By: ------------------------------- Title: ---------------------------- Employee: ------------------------- EX-10.23 4 c75660exv10w23.txt LETTER AGREEMENT WITH MANUEL A VILLAFANA Exhibit 10.23 [ATS MEDICAL LETTERHEAD] November 1st, 2002 Manuel A. Villafana, Chairman ATS Medical, Inc. 3905 Annapolis Lane Minneapolis, MN 55447 Subject: Consulting Agreement Renewal/Extention Dear Manny; In accordance with the terms of the Consulting Agreement that we have with you, we hereby extend the term for an additional one year thru December 31st, 2003. As always, ATS reserves the right to extend the Agreement on a yearly basis if mutually agreed upon. Sincerely yours, ATS MEDICAL, INC. /s/ Michael D. Dale Michael D. Dale President/CEO EX-10.34 5 c75660exv10w34.txt FORM OF U.S. DISTRIBUTION AGREEMENT Exhibit 10.34 ATS MEDICAL SALES, INC. SALES REPRESENTATIVE AGREEMENT This Sales Representative Agreement ("Agreement") is made as of _________, 200__ (the "Effective Date") between ATS Medical Sales, Inc., 3905 Annapolis Lane, Suite105, Minneapolis, MN 55447 ("ATS") and ________________________, a [_______corporation/ ______ LLC/sole proprietorship/individual residing in _________], ___(Address)_______ ("Representative"). RECITALS WHEREAS, ATS is engaged in the development and sale of the products described in Exhibit A (the "Products"), and desires to increase the marketing and distribution of the Products; WHEREAS, Representative possesses the skill and experience necessary to promote, market and solicit orders for the Products; and WHEREAS, ATS is willing to appoint Representative, and Representative is willing to accept such appointment, as ATS' sales representative for such products in the geographical area set forth in Exhibit A (the "Territory"); NOW, THEREFORE, the parties agree as follows: 1. APPOINTMENT 1.1 Appointment as Sales Representative. Subject to the terms and conditions of this Agreement, ATS hereby appoints Representative as its exclusive sales representative for the Products in the Territory; provided, however, ATS reserves the right to directly or indirectly sell Products to any hospital or other customer in the Territory that refuses to do business with Representative. 1.2 Authority of Sales Representative. During the term of this Agreement, Representative will solicit orders for the Products to be delivered in the Territory, and the customers will transmit such orders in writing to ATS in the format approved by ATS. ATS reserves the right to accept, reject, modify or cancel in whole or in part any or all orders received and/or accepted for the Products, in its sole discretion. Representative's authority under and during the term of this Agreement is limited to the solicitation of orders for the Products, and Representative has no right or authority to make binding quotations, to accept any orders or to enter into any contracts or agreements whatsoever for or on behalf of ATS. All sales of the Products shall be made by ATS and all pricing of Product shall be determined by ATS. The relationship of ATS and Representative established by this Agreement is that of independent contractors, and nothing contained in this Agreement shall be construed to (a) give either party the power to direct and control the day-to-day activities of the other, (b) constitute the parties as partners, joint venturers, co-owners or otherwise as participants in a joint undertaking, or (c) allow Representative to create or assume any obligation on behalf of ATS for any purpose whatsoever. Representative shall be solely liable for any acts, omissions to act, contracts, commitments, promises or representations made by Representative except as specifically authorized under this Agreement or in writing by ATS. All financial and other obligations associated with Representative's business are the sole responsibility of Representative. 1.3 Changes to the Products. ATS reserves the right, in its sole discretion and without incurring any liability to Representative, to alter the specifications for any Product, discontinue the manufacture of any Product, discontinue the development of any new product, whether or not such product has been announced publicly, or commence the manufacture and sale of new products having features which make any Product wholly or partially obsolete, whether or not Representative is granted any rights in respect of such new products. Notwithstanding the foregoing, ATS shall use best efforts to provide Representative with prompt notice of such decisions. 2. COMMISSIONS 2.1 Commission Rate and Payment. ATS shall pay Representative a commission calculated based on the commission rate set forth in Exhibit A and the Net Sales Price (defined below) for the Products delivered and sold in the Territory by ATS based on an order(s) solicited by Representative to ATS. As used herein, "Net Sales Price" shall mean the actual price received by ATS for the Product after any adjustments, such as adjustments for credits, returns, pricing adjustments, discounts, allowances, or taxes, shipping charges, non-recurring or other factors which reduce the amount actually received by ATS. The commission shall be paid to Representative on the last day of the calendar month following the month in which ATS received payment in full for the Product. 2.2 Commission Disputes. In the event of any dispute respecting commissions, commission splitting, or any other commission issue, final resolution of the matter shall be determined by ATS' sales management. Shares of the full commission shall be awarded by ATS based on the determination of the sales management, in its sole discretion, based upon the sales and support efforts of the parties involved. In no event will the aggregate commission payable to all parties involved exceed the commission rate set forth on Exhibit A. 3. OBLIGATIONS OF REPRESENTATIVE 3.1 Best Efforts Obligation. Representative shall use its best efforts to promote the sale of the Products in the Territory. Representative shall in particular: (a) meet the minimum annual sales requirements ("Annual Minimums") as provided in Section 3.5 below. (b) actively prospect the Territory and customers to visit its clientele at regular intervals and to make every effort to increase sales of the Products. (c) support local field marketing events and activities, including making introductions to and arranging meetings with potential customers, on behalf of ATS, and to assist ATS in the preparation and submission of presentations, proposals, and quotations for contracts or orders and in assessing the financial status of customers and potential customers, at the times and in the manner reasonably requested by ATS. 3.2 Other Obligations. In the performance of its obligations hereunder, Representative: (a) shall conduct all of its business in its own name and in a businesslike and professional manner. (b) shall not, without ATS' prior written approval, make representations, warranties or guarantees concerning the Products or accept the return of, or make any allowance for such Products. (c) shall abide by ATS' policies and communicate same to its employees. (d) agrees to provide such other assistance as ATS may reasonably request from time to time, such as (i) to respond promptly to any reasonable request by ATS for market information, (ii) to forward promptly to ATS any inquiry or other communication concerning the Products, (iii) to cooperate fully with ATS in dealing with any customer complaints concerning the Products and to take such action to resolve such complaints as may be reasonably requested by ATS, and (iv) to cooperate fully with ATS in regard to all sales and customer support activities related to Products. (e) shall obtain and maintain in force, during the term of this Agreement and for as long thereafter as a practical need exists, one or more policies of liability insurance designated by ATS to cover the actions and inactions attributable to Representative's activities under this Agreement and in an amount reasonably determined by ATS. Such insurance shall include, without limitation, Comprehensive Automobile Liability for owned, non-owned and hired vehicles, for bodily injury (including death) and property damage with limits of at least $500,000 for each person and each occurrence, respectively. Where requested by ATS, ATS shall be designated as an additional named insured under each such policy and shall be provided with a certificate of insurance within thirty (30) days after the issuance and each renewal thereof. (f) shall be responsible for and shall maintain in good condition any and all Product consigned to the Representative by ATS for the purpose of meeting immediate or emergency needs of the customer. ATS Medical Sales, Inc. will maintain insurance coverage of all inventories consigned to the Representative. In the event that any or all of the consigned inventory is lost, damaged or stolen, the Representative agrees to pay the replacement cost of the affected inventory up to $5,000 per incident. If Product consigned to the Representative is needed by the customer on an immediate or emergency basis, the Representative is responsible for obtaining a purchase order from the customer prior to or at the time of delivery of the Product, and further responsible for providing this purchase order to ATS within one business day for billing by ATS. 3.3 Customer Visits and Reports. ATS shall have the right to visit customers in the Territory with or without the Representative at ATS' sole discretion and to visit Representative's customers at regular intervals together with a representative of Representative in order to update ATS' market knowledge with respect to the Products and their applications and markets. Representative shall report to ATS, on a monthly basis and in writing, all aspects of its activities with the Products within the Territory. Such reports shall include information as to customers and prospective customers, competitive activity and pricing and volume of sales or expected sales. 3.4 Competitive Products. Except with the prior written consent of ATS, which consent ATS may grant in its sole discretion, Representative shall not, during the term of this Agreement and for one (1) year after its termination: (a) market, sell or distribute goods competing or likely to compete, regarding their nature or the final use which is made of them, with the Products in the Territory. (b) take direct or indirect interest in the marketing, sale or distribution of such competitive goods in the Territory. (c) do any prospecting for the Products in any territory other than the Territory, or canvas or establish a branch office or warehouse outside the Territory to sell the Products. 3.5 Minimum Sales Requirements. Representative shall meet the Annual Minimums set forth in Exhibit A. If Representative fails to meet such Annual Minimums, ATS may, at its option and effective upon written notice to Representative, (a) terminate this Agreement pursuant to Section 7.2(c), or (b) convert Representative's rights hereunder to non-exclusive. 3.6 Business Plan and Forecasts. Representative shall provide ATS with a reasonably detailed business plan for the marketing of the Products within thirty (30) days of the Effective Date and shall provide updates to such business plan on a quarterly basis thereafter or as reasonably requested by ATS. Such business plan shall be subject to ATS' approval. In addition, Representative shall provide ATS with a yearly forecast for expected sales of the Products and thereafter on a quarterly basis, provide ATS with an updated ninety (90) day rolling forecast. All forecasts shall be provided in the format reasonably specified by ATS from time to time during the term of this Agreement. 3.7 Promotional Materials. ATS shall furnish Representative with a reasonable quantity of ATS demo units of the Products, promotional materials and brochures for the Products for use by the Representative. A Demo Kit and Retail Demo Box will be made available to each individual sales representative at a combined cost of $ 150. ATS will repurchase these last two items when this contract is terminated or not renewed. Reimbursement will be at the price paid, if and only if both items are returned complete and in serviceable condition. Representative may purchase additional quantities of such materials from ATS. In lieu of providing copies of such written promotional materials, ATS, at its discretion, may provide Representative with an electronic media copy of same with a nonexclusive, nontransferable right and license to use same for the local reproduction of such promotional materials solely for purposes of Representative's performance under this Agreement. ATS will also provide Representative with available information reasonably necessary to market the Products (such as technical literature). ATS shall have the right to review and approve, in advance, any technical, commercial or promotional literature relating to the Products developed by Representative. Such approval must be in writing and signed by an officer of ATS. 3.8 Compliance with Laws and Standards. Representative shall perform its obligations under this Agreement in compliance with all applicable laws. Representative shall not conduct advertising, promotion, sales or marketing activities outside the Territory or solicit customers outside the Territory, nor shall Representative make any representation or warranty relating to any Product or to ATS, except as authorized by ATS in writing. Representative shall not export the Products (or knowingly permit any third party to do so) outside of the United States without the prior written consent of ATS. 3.9 Sales Force. Representative shall maintain throughout the Territory an adequately trained and staffed sales force for the marketing of the Products and shall provide appropriate sales training to such sales force. 3.10 Performance Review. ATS may from time to time review Representative's performance under this Agreement. Upon request by ATS, Representative shall provide ATS with relevant records and/or access of Representative's facility (during normal business hours) to perform such review. 4. TRADEMARKS Representative recognizes and concedes for all purposes that all trademarks, trade names, or identifying slogans affixed to the Products, related documentation or written materials or any accompanying labels, containers and cartons (collectively, the "Trademarks"), whether or not registered, constitute the exclusive property of ATS and cannot be used except in connection with promoting and selling the Products as permitted hereunder. During the term of the Agreement, ATS grants Representative a nonexclusive, non-transferable, royalty-free license in the Territory to use the Trademarks solely in connection with Representative's promotion of the Products, provided that Representative's use of such Trademarks is in accordance with ATS' standards, specifications and instructions. Supplier may inspect and monitor the activities of Representative to ensure that such use of the Supplier trademarks is in accordance with such standards, specifications and instructions. Representative shall provide ATS with samples of each use of the Trademarks prior to such use and will refrain from all uses that are not approved by ATS. All price lists, sales or promotional material prepared by or for Representative with respect to the Products shall bear appropriate copyright and/or trademark notices as prescribed by ATS. Representative shall promptly inform ATS in writing of any known or reasonably suspected violation of the Trademarks or copyright(s). Representative is not granted any right, title or interest in such trademarks other than the foregoing limited license, and Representative agrees it will not use, register, or otherwise appropriate any name, mark, or logo which is similar to or may be confused with any Trademark licensed to Representative hereunder. Representative shall promptly notify ATS of any use by any third party of the Trademarks or any use by such third parties of similar marks which may constitute an infringement or passing off of the Trademarks. ATS reserves the right, in its sole discretion, to institute any proceedings against such third party infringers and Representative shall refrain from doing so. Representative agrees to cooperate fully with ATS in any action taken by ATS against such third parties, provided that all expenses of such action shall be borne by ATS and all damages which may be awarded or agreed upon in settlement of such action shall accrue to ATS. 5. WARRANTY AND LIABILITY DISCLAIMER 5.1 Warranty. ATS provides a limited warranty on the Products only to the applicable customer. Any such limited warranty for the Products shall be fulfilled directly by ATS to the Customer, and pursuant to the warranty, and the customer shall return any allegedly defective Products directly to ATS. Representative shall have no authority to accept any returned Products. 5.2 Disclaimer. THE PRODUCTS AND ALL OTHER MATERIALS PROVIDED BY ATS TO REPRESENTATIVE HEREUNDER ARE PROVIDED "AS IS" WITH NO WARRANTIES WHATSOEVER, AND ATS HEREBY DISCLAIMS ALL SUCH WARRANTIES. 5.3 Limitation of Damages. IN NO EVENT SHALL ATS' LIABILITY OF ANY KIND UNDER OR RELATED TO THIS AGREEMENT INCLUDE ANY SPECIAL, INDIRECT, INCIDENTAL OR CONSEQUENTIAL LOSSES OR DAMAGES, EVEN IF ATS HAS BEEN ADVISED OF THE POSSIBILITY OF SUCH POTENTIAL LOSS OR DAMAGE. 6. CONFIDENTIALITY All information obtained by Representative in connection with its activities hereunder, including, without limitation, technical and cost information and other information related to the Products furnished to Representative or received by Representative from customers or potential customers in connection with proposals, bids, contracts or the Products, shall be treated as confidential and proprietary information of ATS that Representative shall not use for its own benefit and shall not disclose to any third party except with the prior written consent of ATS. The foregoing obligation shall not apply to information which was (a) otherwise publicly available; (b) previously known to Representative free of any duty of confidentiality; or (c) required to be disclosed pursuant to applicable law. This obligation of confidentiality shall survive termination of this Agreement for any reason. 7. TERM AND TERMINATION 7.1 Term. Unless earlier terminated as provided in this Agreement, this Agreement shall commence as of the Effective Date and shall terminate three (3) years thereafter. This Agreement may be renewed for additional one (1) year terms upon written agreement of the parties which agreement must include mutual agreement as to the Annual Minimums applicable to such renewal term. If the parties fail to agree in writing upon a renewal of this Agreement prior to the expiration of this Agreement, this Agreement shall automatically expire and terminate without further notice to either party. 7.2 Termination. Notwithstanding the provisions of Section 7.1 above, this Agreement may be terminated in accordance with the following provisions: (a) Either party may terminate this Agreement by giving notice in writing to the other party in the event the other party is in material breach of any representation, warranty or covenant of this Agreement and shall have failed to cure such breach within thirty (30) days of receipt of written notice of the breach from the first party; (b) Either party may terminate this Agreement by giving notice in writing to the other party should an event of Force Majeure continue for more than ninety (90) days as provided in Section 11 below; (c) ATS may terminate this Agreement by giving Representative notice in writing within sixty (60) days after the end of any year of this Agreement if Representative shall have failed to meet the Annual Minimums set forth in Exhibit A hereto during such year; (d) If ATS shall be merged or purchased or shall experience a change of control of a nature that would be required to be reported in response to Item 6(e) of Schedule 14A promulgated under the Securities and Exchange Act of 1934, as amended (whether or not ATS is then subject to such reporting obligations), ATS may terminate this Agreement upon giving the Representative 90 days written notice. 7.3 Effect of Termination. In the event of termination of this Agreement for any reason, the parties shall have the following rights and obligations: (a) Termination or expiration of this Agreement shall not release either party from the obligation to make payment of all amounts then or thereafter due and payable; (b) Sections 1.2, 2.3, 3.2(e), 3.4, 4, 5, 6, 7.3, 7.4, 8, 10 and 11 shall survive the termination of or expiration of this Agreement; and (c) Representative shall cease to represent itself as authorized to market the Products and shall discontinue all use of the Trademarks; shall remove any printed materials and references to the Products from its sales manuals, and discontinue the use of any display materials on its premises containing any references to the Products or Trademarks. (d) Representative shall return to ATS all demo units, promotional materials and other materials provided by ATS to Representative hereunder. 7.4 No Compensation. In the event of any termination or expiration of this Agreement, neither party shall owe any compensation to the other party for lost profits, lost opportunities, good will, or any other loss or damage as a result of or arising from such termination or expiration. 8. INDEMNIFICATION 8.1 Indemnification by ATS. ATS hereby agrees to indemnify, defend and hold Representative harmless from any third party suit, claim or other legal action ("Legal Action") that alleges the Products, or any of them, infringe any United States patent, copyright, or trade secret, including any reasonable costs or legal fees thereby incurred by Representative. Representative shall give written notice of any Legal Action within a reasonable time after Representative's first knowledge thereof. ATS shall have sole and exclusive control of the defense of any Legal Action, including the choice and direction of any legal counsel. Representative may not settle or compromise any Legal Action without the written consent of ATS. If a Product is found to infringe any such third party intellectual property right in such a Legal Action, at ATS' sole discretion and expense, ATS may, at its option, (i) obtain a license from such third party for the benefit of its customers; (ii) replace or modify the Product so that it is no longer infringing; or (iii) terminate this Agreement with no further liability to Representative. 8.2 Indemnification by Representative. Except to the extent that ATS is obligated to indemnify Representative for a Legal Claim pursuant to Section 8.1, Representative hereby agrees to indemnify, defend and hold ATS harmless from any suit, claim or other legal action ("Legal Action"), including any reasonable costs or legal fees thereby incurred by ATS, arising from or resulting out of the marketing of the Products by Representative, the acts or inactions by Representative or its agents, or any unfair business practice of Representative. ATS shall give written notice of any such Legal Action to Representative within a reasonable time after ATS' first knowledge thereof. Representative shall have sole and exclusive control of the defense of any Legal Action, including the choice and direction of any legal counsel. ATS may not settle or compromise any such Legal Action without the written consent of Representative. 9. FORCE MAJEURE Neither party will be liable for nonperformance or delay in performance due wholly or partly to any cause not in its control or not avoidable by any reasonable diligence, except for the obligation to pay any amounts due and owing hereunder. Upon the occurrence of any such contingency, the party so affected may suspend or reduce deliveries during the period of such contingency. The following, while not an exclusive listing, will be considered not to be within a party's control or avoidable by reasonable diligence: shortage of capacity due to a delay by suppliers of delivery of any items needed to increase capacity; labor controversies; court decrees; inability to use the full capacity of plants of facilities as a result of governmental action, machinery malfunctions or breakdowns; and inability to obtain fuel, power, materials necessary to produce Products, labor, containers or transportation facilities without litigation or the payment of penalties or unreasonable prices or the acceptance of unreasonable terms and conditions. 10. ARBITRATION All disputes arising in connection with the Agreement shall be finally settled in Minneapolis, Minnesota, by arbitration under the commercial arbitration rules of the American Arbitration Association by one arbitrator appointed in accordance with said rules. The arbitration shall be final and binding upon the parties concerned. Judgment upon the award rendered may be entered in any court having jurisdiction, or application may be made to such court for juridical acceptance of the award and an order of enforcement, as the case may be. The parties shall share equally the fees and costs of the arbitrator. 11. MISCELLANEOUS 11.1 Entire Agreement. This Agreement, including all Appendices now or hereafter attached hereto and incorporated as an integral part of this Agreement, constitutes the entire agreement of the parties with respect to the subject matter hereof and replaces any other previous agreement between the parties on the subject matter hereof. This Agreement may not be modified, amended, rescinded, canceled or waived, in whole or in part, except by written amendment signed by both parties hereto. 11.2 Assignment. Representative shall not have the right to assign, delegate or otherwise transfer its rights and obligations under this Agreement except with the prior written consent of ATS. Any prohibited assignment, delegation or transfer shall be null and void. 11.3 Waiver. No failure by either party to take action or assert any right hereunder shall be deemed to be a waiver of such right in the event of the continuation or repetition of the circumstances giving rise to such right. 11.4 Governing Law. This Agreement shall be governed by and interpreted under the laws of the State of Minnesota, excluding its conflict of law provisions. 11.5 Notices. Notice shall be given to either party via facsimile or registered mail to the address set forth below (or such other address as each party may designate in writing), and notices so given shall be effective upon receipt by the party to which notice is given, or on the fifth (5th) day following mailing, whichever occurs first. If to ATS: ATS Medical Sales, Inc. 3905 Annapolis Lane, Suite 105 Minneapolis, MN 55447 Facsimile: (763) 553-1492 If to Representative: ------------------------------------------- ------------------------------------------- ------------------------------------------- Facsimile: --------------------------------- e-mail: ------------------------------------ 11.6 Confidentiality. This Agreement is confidential, and no party shall issue press releases or engage in other types of publicity of any nature dealing with the commercial or legal details of this Agreement without the other party's prior written approval, which approval shall not be unreasonably withheld. However, approval of such disclosure shall be deemed to be given to the extent such disclosure is required to comply with governmental rules, regulations or other governmental requirements. In such event, the publishing party shall furnish a copy of such disclosure to the other party. 11.7 Severability. If any provision of this Agreement is found unenforceable under any of the laws or regulations applicable thereto, such provision terms shall be deemed stricken from this Agreement, but such invalidity or unenforceability shall not invalidate any of the other provisions of this Agreement. 11.8 Counterparts. This Agreement may be executed in two or more counterparts, and each such counterpart shall be deemed an original hereof. IN WITNESS WHEREOF, the parties have executed this Agreement by their duly authorized representatives. ATS Medical Sales, Inc. Representative By: By: ----------------------------- ------------------------------------ Title: Title: -------------------------- ------------------------------ Date: Date: --------------------------- ----------------------------------- EXHIBIT A "PRODUCTS" STANDARD SERIES, AORTIC: 500FA19, 21, 23, 25, 27, 29 STANDARD SERIES, MITRAL: 500DM27, 29, 31, 33 AP (ADVANCED PERFORMANCE) SERIES, AORTIC: 501DA16, 18, 20, 22, 24, 26 AP (ADVANCED PERFORMANCE) SERIES, MITRAL: 501DM24, 26, 28 AVG (AORTIC VALVED GRAFT): 502AG21, 23, 25, 27, 29 ACCESSORIES: STANDARD VALVE SIZER SET (MODEL 550), AP VALVE SIZER SET (MODEL 560), BENDABLE HANDLE SET (MODEL 552), AORTIC & MITRAL HANDLE ROTATORS (MODEL 556), MITRAL HEX END ROTATOR & HOLDER SET (MODEL 568). "TERRITORY" "COMMISSION RATE" o ___% OF NET SALES "ANNUAL MINIMUM NET SALES REQUIREMENT" o YEAR 1 (MM/DD/YY THRU MM/DD/YY): |X| NET _____ ATS VALVES INCLUDING A MINIMUM OF ____ ATS AVG'S o YEAR 2 (MM/DD/YY THRU MM/DD/YY): |X| NET _____ ATS VALVES INCLUDING A MINIMUM OF ____ ATS AVG'S o YEAR 3 (MM/DD/YY THRU MM/DD/YY): |X| NET _____ ATS VALVES INCLUDING A MINIMUM OF ____ ATS AVG'S THE MINIMUM LEVEL OF NET UNIT SALES THAT MUST BE ACHIEVED IN EACH PROGRESSIVE QUARTER OF EACH YEAR IS: o 20% OF THE ANNUAL MINIMUM BY THE END OF THE 1ST QUARTER o 40% OF THE ANNUAL MINIMUM BY THE END OF THE 2ND QUARTER o 70% OF THE ANNUAL MINIMUM BY THE END OF THE 3RD QUARTER o 100% OF THE ANNUAL MINIMUM BY THE END OF THE 4TH QUARTER EX-13 6 c75660exv13.txt PORTIONS OF 2002 ANNUAL REPORT TO SHAREHOLDERS . . . Exhibit 13 Page 1, Annual Report to Shareholders FINANCIAL HIGHLIGHTS
December 31 2002 2001 2000 1999 1998 - -------------------------------- -------------- -------------- -------------- -------------- -------------- Net Sales $ 13,301,274 $ 15,079,794 $ 14,584,568 $ 17,461,964 $ 17,960,483 Operating income (loss) for the year (17,907,909) (7,883,634) (944,775) 1,766,243 1,555,296 Net income (loss) for the year (18,212,266) (6,843,566) 504,561 2,637,911 2,838,943 Net income (loss) per share-diluted (0.82) (0.31) 0.02 0.14 0.16 Total assets 91,755,698 94,971,232 102,353,776 61,116,685 58,431,376 Long-term debt 9,080,000 0 0 0 0 Total Shareholders' equity 74,127,210 92,223,249 98,525,105 58,841,598 55,819,575
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW We manufacture and market a mechanical bileaflet heart valve with a patented pivot design. Our heart valve is used to treat valvular heart disease caused by the natural aging process, rheumatic heart disease and congenital defects. We have received regulatory approvals to market the ATS heart valve in the United States and most international markets, principally Europe, Japan, China, Canada and Australia. We commenced selling the ATS heart valve in international markets in 1992. Internationally, we sell the valve to independent distributors with assigned territories (generally a specific country or region) who in turn sell the valve to hospitals or clinics. Most of our sales to international distributors are denominated in U.S. dollars so currency risk is borne by the distributor. In December 2002, we formed ATS Medical France, a foreign subsidiary to sell our valves directly to hospitals in France. In France, we will consign valves to hospitals and invoice in euros when the valve is implanted. Sales to our European distributors represented approximately 46% of our net sales in 2000, 36% in 2001 and 26% in 2002. Sales to our Asian Pacific customers represented approximately 33% of our net sales in 2000, 34% in 2001 and 42% in 2002. During 2001, we hired a direct sales force and began selling the ATS heart valve in the United States. Due to the cost of maintaining a full direct sales force, we decided in mid-June 2002 to switch to a hybrid sales force in the U.S. consisting of our top performing direct sales people plus independent manufacturers representatives. Our U.S. sales as a percentage of our overall sales was 4% in 2000, 19% in 2001 and 19% in 2002. In the U.S. market and now in France, we recognize the selling price to the hospital. In other non-U.S. markets, we recognize the selling price to the distributor. As U.S. sales increase as a percentage of overall sales, the overall average selling price may increase, even though the average selling prices in some non-U.S. markets may be steady or declining. Hospital administrators continue to apply pressure for lower prices, and the willingness of competitors to reduce prices will continue to put pressure on revenue growth and margins. To date we have purchased all of the pyrolytic carbon components for the ATS heart valve from Carbomedics, a division of Snia S.p.A. (formerly a division of Centerpulse (formerly Sulzer Medica)) pursuant to a multi-year supply agreement entered into in 1990. The cost of the pyrolytic carbon components represents approximately 80% of the total cost of the ATS heart valve. Under the supply agreement, the cost of the pyrolytic carbon components has varied according to annual volume purchases and is adjusted annually by reference to increases in the U.S. Department of Labor Employment Cost Index. In December 1999, we renegotiated the supply agreement with Carbomedics resulting in significant reductions in our minimum purchase requirements and unit costs beginning in 2001. In late June 2002, we again amended the supply agreement such that our purchase obligations for the remainder of 2002 (with the exception of approximately eight weeks of work in process) would be suspended along with 100% of our purchase obligations for 2003, 2004, 2005 and 2006. In January of 2007 the purchase obligations for 2003 would resume, with the obligations for 2004 through 2006 to follow in each subsequent year. In addition, a technology transfer fee of $5 million due to Carbomedics at the end of 2002 will be paid in two equal installments in June and December of 2003. Furthermore, technology payments due in 2003, 2004, 2005 and 2006 totaling $23 million will begin to be paid based on a percentage of the cost of goods sold starting in January of 2005 with the first payment in June 2005 and subsequent payments every six months based on a percent of the cost of goods sold the previous six months subject to certain cumulative minimum amounts being paid by the end of 2006, 2007, 2008 and 2009. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our consolidated financial statements are prepared in conformity with accounting principles generally accepted in the United States. The preparation of these financial statements require management to make significant estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. We believe that the following are some of the more critical judgment areas in the application of our accounting policies that currently affect our financial condition and results of operations: Allowance for Doubtful Accounts Our distribution in international markets through independent distributors concentrates relatively large amounts of receivables in relatively few customer accounts. We have successfully done business with most of these distributors for many years. We record the sale to the distributor at the time the valve is shipped to the distributor, with the exception of Italy where sales are recognized on a cash basis. There may be a length of time between when the distributor receives product from us, puts it on the hospital shelf, bills the hospital and receives payment for the valve. Most of the time the distributor is paying us for the valve long before he is paid. Some of the hospitals are government funded. Payment to the distributor may be delayed due to government funding issues. Some governments have put restrictions on outgoing payments. We monitor amounts that are not paid according to term. We attempt to accrue for potential losses due to non-payment. Financial conditions in international markets can change very quickly and our allowance for doubtful accounts cannot anticipate all potential changes. Impairment of Technology License At the end of the first quarter of 2002, the Company evaluated the carrying value of its technology license asset in accordance with the provisions of FASB Statement 142 (FASB No. 142), Goodwill and Other Intangible Assets, which were effective for the Company as of January 1, 2002. Utilizing a discounted cash flow model, that analysis indicated the asset's carrying value was recoverable and the Company recognized no impairment as a result of the adoption of FASB No. 142. In the second quarter of 2002, the Company experienced decreased sales volumes, decreased average selling prices and initiated certain restructuring activities pertaining to its executive team and the manner in which it sells its product in the United States, changing from a direct sales force to a hybrid sales force of a few direct salespeople and several independent manufacturers representatives. In response to these conditions, the Company modified its pricing strategy and sales volume estimates in conjunction with the reorganization plan implemented and the increased competitive pressures in the European market. As a result of these conditions and changes, the Company reviewed its future cash flow analysis and changed its expectations of the sales volumes estimated and its selling prices of the heart valve in the cash flow model to evaluate the recoverability of its technology license. When compared to the revised fair value as calculated by discounting the new future cash flows projections at June 30, 2002, the Company determined a non-cash charge representing an impairment of this asset needed to be recognized in the amount of $8.1 million in the second quarter. This charge also reflects in part the effect of the amended milestone payments in the early years of the technology transfer agreement relative to the benefits of lower cost carbon not being realized until future years after the depletion of inventories currently on hand. The assessment of potential impairment requires certain judgments and estimates by the Company, including the determination of an event indicating impairment; the future cash flows to be generated by the asset; risks associated with those cash flows; and the Company's discount rate to be utilized. Deferred Tax Assets We have incurred losses in excess of $28.5 million and are eligible for tax credits of approximately $633,000. The losses are carried forward for U.S. and state corporate income taxes and can be used to reduce future taxes. At December 31, 2002 we had deferred tax assets totaling $12.5 million. We have taken a valuation allowance against this asset for its full amount because the carryforwards have a limited life and other limitations. An alternative accounting judgment would be to record the entire asset on our balance sheet and in subsequent periods, if it became apparent that a portion of the asset would not be realized, write it off against income in that period. In order to utilize that treatment we would have to decide that it was more likely than not that we would realize the deferred tax assets and credits. Inventories We have purchased heart valve components for the past nine years from Carbomedics under a supply agreement negotiated in 1990, that was amended in December 1999 and again amended in June 2002. These purchases were in excess of our sales and for the most part tied to minimums in the contract. Until we received approval from the U.S. FDA to sell the valve in the United States, it was impossible to estimate how much inventory would be needed to meet the demands of this significant market. We have estimated that a portion of inventories on hand at December 31, 2001 and December 31, 2002 were not likely to be sold in the following twelve months periods and therefore should not be classified as a current asset. The estimate of inventories necessary to support current sales includes management projections not only of sales but inventories for new consignment accounts and contingencies. RESULTS OF OPERATIONS YEAR ENDED DECEMBER 31, 2002 COMPARED TO 2001 Net sales for the year ended December 31, 2002 decreased 12% to $13,301,274 compared to $15,079,794 for the year ended December 31, 2001. The decrease in sales revenues was primarily attributable to Europe where Italy remains on distributor accounting and France did not place orders during the majority of 2002. Unit sales for the year ended December 31, 2002 decreased 1% compared to unit sales for the year ended December 31, 2001. The average selling prices in 2002 decreased 12% compared to 2001. The decreases in average selling price was primarily attributable to lower prices in Europe due to competitive pricing. Revenue in the United States decreased 5% for the year ended December 31, 2002 compared to the year ended December 31, 2001, primarily because we were in the midst of reorganizing our sales representation during the second half of 2002. During 2001, we hired a direct sales force and began selling the ATS heart valve in the United States. In mid-June 2002, we took certain cost savings measures including a reduction in our work force, which included the majority of our direct sales people. Independent manufacturers representatives were recruited to take the place of the former direct territories affected by the reduction in force. We will continue our efforts to organize our sales distribution in the U.S. We expect to have all managers in place by the end of first quarter 2003, with the remainder of the sales positions filled in the second quarter 2003. Valves are consigned to hospitals desiring to use the ATS valve and a sale is recorded once the valve is implanted. The "sales cycle" for new accounts can take from one to three months. We feel that we have a superior product, however, our competitors have larger sales staffs and greater financial resources so they are currently able to reach more potential customers. The rate at which we will open new accounts and realize new implants with our hybrid sales force is difficult to forecast from quarter to quarter. Cost of goods sold totaled $12,306,736 and $10,309,814 for 2002 and 2001, respectively, or 93% of sales in 2002 and 68% for 2001. In both years, we wrote down a portion of inventory to allow us to maintain some market share in countries where the realizable valve price is lower than our cost. This charge to the cost of goods sold was $2,400,000 in 2002 and $1,000,000 in 2001. The average cost per valve remained constant in 2002 compared to 2001. Gross profit totaled $994,538 or 7% of sales for the year ended December 31, 2002 versus $4,769,980 or 32% of sales, for the year ended December 31, 2001. The write down of inventory discussed above and the decrease in average selling prices were the principle factors for this decrease. Research, development and engineering expenses totaled $2,425,374 for the year ended December 31, 2002 versus $3,905,556 for the year ended December 31, 2001, a decrease of 38%. Total expenses related to our own carbon manufacturing facility were approximately 74% and 78% of research and development for 2002 and 2001, respectively. Our focus during 2001 and the first quarter of 2002 was making qualification and verification coating runs, training ATS personnel on the new carbon manufacturing equipment installed during the period, and documenting procedures. This culminated with the submissions at the end of the first quarter 2002 to the TUV, who we use as a notified body for our European approval, and to the U.S. Food and Drug Administration. On May 29, 2002, we received notification from the FDA of full approval of our carbon manufacturing plant. As our existing inventories are depleted over the next few years, components from this facility are expected to allow for significant reduction in the cost of our components utilized in our valve. Sales and marketing expenses decreased for the year ended December 31, 2002 to $3,312,157 compared to $4,904,205 for the year ended December 31, 2001. The decrease in expenses is due to the restructuring that took place in June 2002. Since the restructuring, we are utilizing a hybrid sales force consisting of direct sales people and independent manufacturers representatives. We expect our sales and marketing expenses to increase in future quarters as we complete our new sales organization. General and administrative expenses totaled $3,113,551 for the year ended December 31, 2002, a 19% decrease from the $3,843,853 reported for the year ended December 31, 2001. The decrease is due to fewer personnel in the general and administrative departments as a result of certain reorganization initiatives during the second half of the year in 2002 compared to 2001. We took an impairment charge on our technology license in the quarter ended June 30, 2002 in the amount of $8,100,000. During that quarter, we reached three additional milestones in conjunction with our technology license agreement with Carbomedics, which resulted in an additional $13.6 million of long-term obligations to be recognized on our balance sheet. At the end of our first quarter of 2002, we evaluated the carrying value of our technology license asset in accordance with the provisions of FASB Statement 142 (FASB No. 142), Goodwill and Other Intangible Assets, which were effective for the Company as of January 1, 2002. Utilizing a discounted cash flow model, that analysis indicated the asset's carrying value was recoverable and we recognized no impairment as a result of the adoption of FASB NO. 142. In the second quarter of 2002, we experienced decreased sales volumes, decreased average selling prices and initiated certain restructuring activities pertaining to our executive team and the manner in which we sell our products from a direct sales force to a hybrid sales force of a few direct salespeople and several independent manufacturers representatives. In response to these conditions, we modified our pricing strategy and sales volume estimates in conjunction with the reorganization plan implemented and the increased competitive pressures in the European market. As a result of these conditions and changes, we reviewed our future cash flow analysis and changed our expectations of the sales volume estimates and selling prices of the heart valve in the cash flow model to evaluate the recoverability of our technology license. When compared to the revised fair value as calculated by discounting the changed future cash flows at June 30, 2002, we determined a non-cash charge representing an impairment of this asset needed to be recognized in the amount of $8.1 million in the second quarter. This charge also reflects in part the effect of the amended milestone payments in the early years of the technology transfer agreement relative to the benefits of lower cost carbon not being realized until future years after the depletion of inventories currently on hand. Our total reorganization expense for the year ended December 31, 2002 totaled $1,129,867. In 2002, the Board of Directors decided to implement cost containment measures and to seek a new management team to lead the business. As part of these cost reduction measures, approximately one half of the workforce, including all of the executive officers of the Company were released from employment. . As of December 31, 2002, we had 46 employees compared to 89 employees at December 31, 2001. Included in this total is approximately $235,000 accrued in December 2002 of additional reorganization expense related to releasing our former CEO from employment. The reorganization expenses consist of approximately $985,367 of severance pay and benefits, and $144,500 of rent that was expensed for the vacated portion of the Company's leased facility. Of the total reorganization expenses approximately $493,000 has not been paid as of December 31, 2002. During the fourth quarter 2002, we terminated our relationship with our distributor covering France and Belgium because of violations of several conditions of the distributor agreement. The distributor has the right to return its inventory of valves to the Company as a result of the early termination clause within the distributor agreement. We accrued an estimated termination charge of $821,498, representing the margin on the valves that are expected to be returned and the estimated costs related to restocking such inventory for resale. For the year ended December 31, 2002, we recognized interest expense of approximately $480,000 on the long-term debt. This interest results from the amortization of the $2.4 million discount amount on the non-interest bearing debt owed to Carbomedics for milestones achieved to date on the technology transfer agreement. Interest income totaled $175,684 for the year ended December 31, 2002 compared to $1,040,068 for the year ended December 31, 2001. The decreases in interest income for the year ended December 31, 2002 were the result of lower average investable cash balances and lower interest rates. ATS recorded a net loss of $18,212,266 or ($0.82) per share for the year ended December 31, 2002 compared to a net loss of $6,843,566 or ($0.31) per share for the year ended December 31, 2001. The decreases in gross margin and interest income, coupled with the impairment charge, reorganization expenses and distributor termination charge, were the reasons for the increased loss. We are improving our representation in the United States and making some changes in our international representation to increase sales and to return to profitability in future years. ATS has accumulated approximately $28.5 million of net operating loss (NOL) carryforwards for U.S. tax purposes. ATS believes that its ability to fully utilize the existing net operating loss carryforwards could be restricted on a portion of the NOL for changes in control that may have occurred or may occur in the future. We have not accrued any tax benefits for such tax loss benefit. YEAR ENDED DECEMBER 31, 2001 COMPARED TO 2000 Net sales for the year ended December 31, 2001 increased 3% to $15,079,794 compared to $14,584,568 for the year ended December 31, 2000. Unit sales decreased 5% in 2001 compared to 2000. We experienced a decline in sales in Europe where the euro continued to struggle in exchange value with the U.S. dollar, and competitors continued to lower prices. Our net sales in Europe declined 19% for the year ended December 31, 2001 compared to 2000 and our European unit sales declined by 17% in 2001 compared to 2000. Despite lowering our prices in Europe an average of 6%, European sales declined due to the impact of the weak euro and competitive price-cutting. We received FDA approval to sell our heart valve in the United States in the fourth quarter of 2000. U.S. sales were 19% of total sales for the year ended December 31, 2001 and 4% for the year ended December 31, 2000. During the first full year of selling the valve in the United States we have encountered significant competition. Some of our competitors are much larger and are able to spend more money promoting their products. Some competitors have lower costs and can use lower prices to retain customers. Some customers are slow or reluctant to change from a valve they have been implanting for many years. We will continue to promote our valve on the basis of its documented excellent clinical performance. Cost of sales totaled $10,309,814 and $9,558,464 for 2001 and 2000, respectively, or 68% of sales for 2001 and 66% for 2000. The average cost per valve remained constant in 2001 compared to 2000. In the third quarter of 2001 we wrote down a portion of inventory to allow us to maintain some market share in less developed countries where we had been selling and where the realizable price is lower than our cost. The amount of this write down was approximately $1,000,000. Gross profit totaled $4,769,980 or 32% of sales for the year ended December 31, 2001 versus $5,026,104 or 34% of sales, for the year ended December 31, 2000. The increase in average selling price from the introduction of the valve in the United States was offset by a decrease in the average selling prices in international markets and the write down of inventory discussed above, which resulted in a decrease in gross profit. Research, development and engineering expenses totaled $3,905,556 for the year ended December 31, 2001 versus $1,911,815 for the year ended December 31, 2000. The increase in research, development and engineering expenses in 2001 resulted from operational qualification and validation of the carbon production equipment and making pilot coating runs. We increased our research and development personnel to 20 employees at December 31, 2001 compared to 8 employees at December 31, 2000. Approximately 18% and 4% of our research and development expenses for 2001 and 2000, respectively, were for Carbomedics consulting services related to setting up the carbon facility. With the hiring of a direct sales force in the United States, we began displaying selling expense as a separate line of operating expense in the statement of operations in 2001. For the year ended December 31, 2001 we spent $4,904,205 on sales and marketing compared to $1,028,333 for the year ended December 31, 2000. From November 2000 to May 2001 we hired four regional managers and 20 direct salespeople in the United States. During 2001 we also hired a director of marketing. General and administrative expenses totaled $3,843,853 for the year ended December 31, 2001, an increase from the $3,030,731 general and administrative expenses recorded for the year ended December 31, 2000. We incurred one-time charges and severance expense associated with the resignation of our CEO and workforce reductions in September and November 2001. We wrote off certain uncollectable accounts totaling $222,570 in 2001 as compared to none in 2000. In addition, we accrued $197,700 in 2001 and $220,000 in 2000 to increase our allowance for doubtful accounts, which is included in general and administrative expense in the statement of operations. There were no management bonuses accrued in 2001. We had 89 employees at December 31, 2001 compared to 104 employees at December 31, 2000. We reported a loss from operations for the year ended December 31, 2001 of $7,883,634. The increases in selling expense associated with the direct sales force, research spending associated with starting our carbon facility, the inventory charge taken for lower of cost or market issues and the one-time charge associated with workforce reductions were the primary causes for the increase in the operating loss. We incurred a loss from operations for the year ended December 31, 2000 of $944,775 due to the decline in gross profit and the increases in research and development expense and selling, general and administrative spending. Interest income totaled $1,040,068 for the year ended December 31, 2001 compared to $1,523,793 for the year ended December 31, 2000. The decrease in interest income in 2001 was primarily due to lower average cash balances as we invested in carbon manufacturing and direct U.S. distribution. Interest rates have declined several times in the past 18 months and coupled with continued use of our cash, we expect to earn less than 50% of the interest earned in 2001 in 2002. We realized a net loss of $6,843,566 or $0.31 per share for the year ended December 31, 2001. Net income totaled $504,561 or $0.02 per share for the year ended December 31, 2000. The increased research and development spending associated with our carbon project and the hiring of the direct sales force in the United States caused expenses to exceed gross profit resulting in a loss for 2001. LIQUIDITY AND CAPITAL RESOURCES Cash, cash equivalents and short-term investments decreased by $2,803,152 from $12,777,040 at December 31, 2001 to $9,973,888 at December 31, 2002. Inventory purchases and operating losses including the reorganization expenses were primarily responsible for the cash used during fiscal 2002. With the reductions in personnel and spending enacted by ATS in the second quarter 2002, we were cash flow positive by approximately $1,521,000 for the second half of 2002. We do not expect to be cash flow positive for the majority of 2003, due primarily to the technology fee payments of $2,500,000 due in both June and December 2003. Accounts receivable decreased from $4,082,992 at December 31, 2001 to $3,557,055 at December 31, 2002. The majority of the receivable balances are amounts owing from our international customers, where payments terms are 60 days or longer. Current liabilities increased $5,800,505 from $2,747,983 at December 31, 2001 to $8,548,488 at December 31, 2002. The majority of the increase is the $5 million short-term note on the technology transfer payment where $2.5 million is due in both June and December 2003. Accrued reorganization charges totaling $492,572 consist of severance payments that will be paid out over the year in 2003. Accrued distributor liabilities totaling $1,597,323 at December 31, 2002 and $298,382 for December 31, 2001, consist of accrued distributor rebates plus the amount we expect to owe our terminated French distributor for returned valves and associated expenses. Accounts payable decreased $835,645 from $1,345,780 at December 31, 2001 to $510,135 at December 31, 2002. The decrease in account payable is due to the amended supply agreement where we suspended component purchases from Carbomedics from July 2002 until January 2007. ATS had contracted to purchase $8.4 million of components during 2002 in accordance with the terms of its supply agreement with Carbomedics. On June 27, 2002 this agreement was amended to suspend carbon component purchases until January 2007, except for the current work in process that we received in the third quarter 2002. This suspension of component purchases reduced cash expenditures for the Company by approximately $3 million dollars in 2002. For the years 2003 to 2006, the total deferred expenditures will be approximately $18 million. Under the carbon agreement entered into in December 1999, ATS agreed to pay Carbomedics a license fee of $41 million in annual installments ending in December 2006. In addition to granting ATS an exclusive worldwide right and license to use its carbon coating technology to manufacture pyrolytic carbon components for the ATS valve under this agreement, Carbomedics agreed to assist ATS in designing, building and commencing operations in its own pyrolytic carbon production facility in Minneapolis, Minnesota. In May 2002, the Company received notice of approval of its carbon plant from the U.S. Food and Drug Administration. At the end of June 2002, ATS and Carbomedics agreed to delay the timing of the technology fee payments due under the carbon agreement. The $5 million payment that was due in December 2002 will now be paid in two equal installments in June and December of 2003. An aggregate of $23 million of technology transfer fees will be due in subsequent years under the carbon agreement, and will be paid in semi-annual installments beginning in June 2005 in amounts equal to a percentage of the cost of goods sold in the previous six months, subject to certain cumulative minimum amounts being paid by the end of 2006, 2007, 2008 and 2009. These adjustments to the timing of payments due under our supply and carbon agreements with Carbomedics deferred cash expenditures of approximately $8 million dollars in 2002. We have two operating leases for our facilities with minimum lease commitments of $417,413 in 2003 and $111,567 in 2004 through 2008. One of our leases expires on December 31, 2003 and we are currently evaluating our property needs. Based upon the current forecast of sales and our reduced operating expenses, along with the adjustments to the timing of our payments to Carbomedics, we anticipate having cash to fund our operations through 2005. However, as identified under the heading of "Cautionary Statements Pursuant to the Private Litigation and Securities Reform Act of 1995" below, any adverse change that affects our revenue, access to the capital markets or future demand for our products will affect our long term viability. Maintaining adequate levels of working capital depends in part upon the success of our products in the marketplace, the relative profitability of those products and our ability to control operating and capital expenses. Funding of our operations in future periods may require additional investments in ATS in the form of equity or debt. There can be no assurance that we will achieve desired levels of sales or profitability, or that future capital infusions will be available. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK The primary objective of our investment activities is to preserve principal while at the same time maximizing the income we receive from our investments without significantly increasing risk. Some of the securities that we invest in may have market risk. This means that a change in prevailing interest rates may cause the fair market value of the principal amount of the investment to fluctuate. For example, if we hold a security that was issued with a fixed interest rate at the then-prevailing rate and the prevailing interest rate later rises, the fair value of the principal amount of our investment will probably decline. To minimize this risk our portfolio of cash equivalents and short-term investments may be invested in a variety of securities, including commercial paper, money market funds, government and non-government debt securities. The average duration of all of our investments has generally been less than one year. Due to the short-term nature of these investments, we believe we have no material exposure to interest rate risk arising from our investments. In the United States and France, we sell our products directly to hospitals. Revenue is recognized upon shipment of products to customers. In international markets outside of France, we sell our products to independent distributors who, in turn, sell to medical hospitals. Loss, termination or ineffectiveness of distributors to effectively promote our product would have a material adverse effect on our financial condition and results of operations. Transactions with U.S. and non-U.S. customers and distributors, other than in France, are entered into in U.S. dollars, precluding the need for foreign currency hedges on such sales. Sales through our French subsidiary, which was established in 2002 to replace a distributor, will be in euros, so we will be subject to profitability risk arising from exchange rate movements. We have not used foreign exchange contracts or similar devices to reduce this risk. We will evaluate the need to use foreign exchange contracts or similar devices, if sales in France increase substantially. CAUTIONARY STATEMENTS PURSUANT TO THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 The Private Securities Litigation Reform Act of 1995 (the "Act") provides a "safe harbor" for forward-looking statements to encourage companies to provide prospective information about their business, so long as those statements are identified as forward-looking and are accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those discussed in the statement. ATS desires to take advantage of the safe harbor provisions with respect to any forward-looking statements it may make in this filing, other filings with the Securities and Exchange Commission and any public oral statements or written releases. The words or phrases "will likely," "is expected," "will continue," "is anticipated," "estimate," "projected," "forecast," or similar expressions are intended to identify forward-looking statements within the meaning of the Act. Such statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected. ATS cautions readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. In accordance with the Act, the Company identifies the following important general factors which, if altered from the current status, could cause the Company's actual results to differ from those described in any forward-looking statements: the continued acceptance of the Company's mechanical heart valve in international markets, the rate of increase of acceptance of the Company's valve in the United States, the continued listing of our stock on The Nasdaq Stock Market, our ability to successfully implement our sales strategy in the United States, the continued clinical performance of the Company's mechanical heart valve, the actions of the Company's competitors including pricing changes and new product introductions, the continued performance of the Company's independent distributors in selling the valve, the actions of the Company's supplier of pyrolytic carbon components for the valve and difficulties we may encounter in operating our own pyrolytic carbon manufacturing capability as well as the matters discussed on our "Cautionary Statements" filed as Exhibit 99.1 to our form 10-K for the year ended December 31, 2002. This list is not exhaustive and the Company may supplement this list in any future filing or in connection with the making of any specific forward-looking statement. COMMON STOCK INFORMATION The Company's common stock (the "Common Stock") is traded on the Nasdaq National Market under the symbol "ATSI." The following table sets forth the high and low sale prices since January 1, 2001. Prices represent transactions between dealers and do not reflect retail markups, markdowns, or commissions.
2002 High Low 2001 High Low - ------------ ------------ ------------ ------------ ------------ ------------ First Qtr $ 5.50 $ 1.75 First Qtr $ 13.63 $ 7.00 Second Qtr 2.06 0.47 Second Qtr 13.01 7.00 Third Qtr 0.64 0.31 Third Qtr 11.48 3.25 Fourth Qtr 0.85 0.36 Fourth Qtr 5.78 2.98
As of December 31, 2002 there were 446 record holders of the Common Stock. The Company has not paid cash dividends and has no present intentions of paying cash dividends on its Common Stock. MARKET MAKERS During 2002, the following securities firms were the most significant market makers of the Company's common stock: Knight Securities L.P. Piper Jaffray Companies Inc. Pacific Growth Equities, LLC Cincinnati Stock Exchange Schwab Capital Markets A.G. Edwards & Sons, Inc. Dougherty & Company LLC REPORT OF INDEPENDENT AUDITORS The Board of Directors and Shareholders ATS Medical, Inc. We have audited the accompanying consolidated statements of financial position of ATS Medical, Inc. and subsidiaries as of December 31, 2002 and 2001, and the related consolidated statements of operations, changes in shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2002. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of ATS Medical, Inc. and subsidiaries at December 31, 2002 and 2001, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2002, in conformity with accounting principles generally accepted in the United States. /s/ Ernst & Young LLP Minneapolis, Minnesota January 31, 2003 ATS Medical, Inc. Consolidated Statements of Financial Position
DECEMBER 31 2002 2001 -------------- -------------- ASSETS Current assets: Cash and cash equivalents $ 7,472,219 $ 5,078,750 Short-term investments 2,501,669 7,698,290 -------------- -------------- 9,973,888 12,777,040 Accounts receivable, less allowance of $420,000 in 2002 and $400,000 in 2001 3,557,055 4,082,992 Inventories 15,876,324 17,348,901 Prepaid expenses 382,107 570,716 -------------- -------------- Total current assets 29,789,374 34,779,649 Leasehold improvements, furniture, and equipment, net 6,025,962 6,753,483 Inventories 37,000,000 40,000,000 Technology license 18,500,000 13,000,000 Other assets 440,362 438,100 -------------- -------------- Total assets $ 91,755,698 $ 94,971,232 ============== ============== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable $ 510,135 $ 1,345,780 Due to related party 192,904 192,904 Accrued reorganization charges 492,572 -- Accrued payroll and expenses 321,521 476,884 Accrued distributor liabilities 1,597,323 298,382 Notes payable 5,000,000 -- -------------- -------------- Total current liabilities 8,114,455 2,313,950 Due to related party 434,033 434,033 Long-term debt 9,080,000 -- Shareholders' equity: Common Stock, $.01 par value: Authorized shares - 40,000,000 Issued and outstanding shares - 22,305,920 in 2002 and 22,203,940 in 2001 223,059 222,039 Additional paid-in capital 111,473,528 111,354,615 Accumulated deficit (37,565,671) (19,353,405) Accumulated other comprehensive loss (3,706) -- -------------- -------------- Total shareholders' equity 74,127,210 92,223,249 -------------- -------------- Total liabilities and shareholders' equity $ 91,755,698 $ 94,971,232 ============== ==============
See accompanying notes. ATS Medical, Inc. Consolidated Statements of Operations
YEAR ENDED DECEMBER 31 2002 2001 2000 -------------- -------------- -------------- Net sales $ 13,301,274 $ 15,079,794 $ 14,584,568 Cost of goods sold 12,306,736 10,309,814 9,558,464 -------------- -------------- -------------- Gross profit 994,538 4,769,980 5,026,104 Expenses: Research, development, and engineering 2,425,374 3,905,556 1,911,815 Sales and marketing 3,312,157 4,904,205 1,028,333 General and administrative 3,113,551 3,843,853 3,030,731 Impairment of technology license 8,100,000 -- -- Reorganization expenses 1,129,867 -- -- Distributor termination expenses 821,498 -- -- -------------- -------------- -------------- Total expenses 18,902,447 12,653,614 5,990,879 -------------- -------------- -------------- Operating loss (17,907,909) (7,883,634) (944,775) Interest (expense) income (304,357) 1,040,068 1,523,793 -------------- -------------- -------------- (Loss) income before income taxes (18,212,266) (6,843,566) 579,018 Income tax expense -- -- 74,457 -------------- -------------- -------------- Net (loss) income $ (18,212,266) $ (6,843,566) $ 504,561 ============== ============== ============== Net (loss) income per share: Basic $ (.82) $ (.31) $ .03 Diluted $ (.82) $ (.31) $ .02 Weighted average number of shares outstanding: Basic 22,258,806 22,158,513 20,031,611 Diluted 22,258,806 22,158,513 20,868,188
See accompanying notes. ATS Medical, Inc. Consolidated Statement of Changes in Shareholders' Equity
ACCUMULATED COMMON STOCK ADDITIONAL OTHER ---------------------------- PAID-IN COMPREHENSIVE ACCUMULATED SHARES AMOUNT CAPITAL INCOME (LOSS) DEFICIT TOTAL ------------ ------------ ------------ ------------- ------------ ------------ Balance at December 31, 1999 17,909,010 $ 179,090 $ 71,633,414 $ 43,494 $(13,014,400) $ 58,841,598 Common Stock issued under the Employee Stock Purchase Plan 13,318 133 118,379 -- -- 118,512 Stock options exercised 347,900 3,479 1,351,024 -- -- 1,354,503 Sale of Common Stock 3,827,273 38,273 37,711,152 -- -- 37,749,425 Change in foreign currency translation -- -- -- (43,494) -- (43,494) Net income for the year -- -- -- -- 504,561 504,561 ------------ Comprehensive income 461,067 ------------ ------------ ------------ ------------- ------------ ------------ Balance at December 31, 2000 22,097,501 220,975 110,813,969 -- (12,509,839) 98,525,105 Common Stock issued under the Employee Stock Purchase Plan 39,885 399 210,663 -- -- 211,062 Stock options exercised 66,554 665 329,983 -- -- 330,648 Net loss and comprehensive loss for the year -- -- -- -- (6,843,566) (6,843,566) ------------ ------------ ------------ ------------- ------------ ------------ Balance at December 31, 2001 22,203,940 222,039 111,354,615 -- (19,353,405) 92,223,249 Common Stock issued under the Employee Stock Purchase Plan 101,980 1,020 118,913 -- -- 119,933 Change in foreign currency translation -- -- -- (3,706) -- (3,706) Net loss for the year -- -- -- -- (18,212,266) (18,212,266) ------------ Comprehensive loss (18,215,972) ------------ ------------ ------------ ------------- ------------ ------------ Balance at December 31, 2002 22,305,920 $ 223,059 $111,473,528 $ (3,706) $(37,565,671) $ 74,127,210 ------------ ------------ ------------ ------------- ------------ ------------
See accompanying notes. ATS Medical, Inc. Consolidated Statements of Cash Flows
YEAR ENDED DECEMBER 31 2002 2001 2000 -------------- -------------- -------------- OPERATING ACTIVITIES Net (loss) income $ (18,212,266) $ (6,843,566) $ 504,561 Adjustments to reconcile net (loss) income to net cash used in operating activities: Depreciation 713,447 687,654 272,885 Loss on disposal of equipment 34,998 13,820 5,387 Imputed interest on long-term debt 480,000 -- -- Impairment of technology license 8,100,000 -- -- Changes in operating assets and liabilities: Accounts receivable 525,937 2,498,323 (421,691) Prepaid expenses 188,609 44,964 (187,846) Other assets (2,262) (14,238) (20,670) Inventories 4,472,577 (5,860,773) (12,853,539) Accounts payable and accrued expenses 800,505 (1,080,688) 1,553,584 -------------- -------------- -------------- Net cash used in operating activities (2,898,455) (10,554,504) (11,147,329) INVESTING ACTIVITIES Purchases of short-term investments (5,663,312) (19,289,620) (24,908,245) Maturities of short-term investments 10,859,933 27,864,600 14,294,337 Payments for technology license -- (5,000,000) (3,000,000) Purchases of leasehold improvements, furniture, and equipment (185,713) (3,287,631) (3,644,155) Proceeds on disposal of equipment 164,789 -- -- -------------- -------------- -------------- Net cash provided by (used in) investing activities 5,175,697 287,349 (17,258,063) FINANCING ACTIVITIES Net proceeds from issuance of Common Stock 119,933 541,710 39,222,440 -------------- -------------- -------------- Net cash provided by financing activities 119,933 541,710 39,222,440 Effect of exchange rate changes (3,706) -- (43,494) -------------- -------------- -------------- Increase (decrease) in cash and cash equivalents 2,393,469 (9,725,445) 10,773,554 Cash and cash equivalents at beginning of year 5,078,750 14,804,195 4,030,641 -------------- -------------- -------------- Cash and cash equivalents at end of year $ 7,472,219 $ 5,078,750 $ 14,804,195 -------------- -------------- --------------
See accompanying notes. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 2002 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BUSINESS ACTIVITY ATS Medical, Inc. (the Company) manufactures and sells a bileaflet mechanical heart valve. The Company received U.S. Food and Drug Administration approval to market the valve in the United States in October 2000, and the Company is now permitted to sell valves throughout the world. PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the accounts of the Company and both of its wholly owned subsidiaries, ATS Medical Sales, Inc. and ATS Medical France SARL, after elimination of intercompany accounts and transactions. CASH EQUIVALENTS The Company considers all highly liquid investments with maturities of three months or less at the time of purchase to be cash equivalents. Cash equivalents are carried at cost which approximates market value. SHORT-TERM INVESTMENTS Short-term investments are comprised of debt securities and are classified as available-for-sale. Available-for-sale securities are carried at fair value, with the unrealized gains and losses, net of tax, reported as a component of comprehensive income (loss) in shareholders' equity. Realized gains and losses and declines in value judged to be other than temporary on available-for-sale securities are included in other income. INVENTORIES Inventories are carried at the lower of cost (first-in, first-out basis) or market. The majority of the inventories consist of purchased components. The Company has recorded a valuation reserve against inventories of $200,000 as of December 31, 2002 and 2001. The Company has written down a portion of its inventories to provide for the lower of cost or market value expected in less developed countries. The write-down was $2.4 million and $1.0 million in 2002 and 2001, respectively. At December 31, 2002 and 2001, the Company's inventory is in excess of its current requirements based on the recent level of sales. Management believes that excess quantities will be utilized over several years now that the U.S. Food and Drug Administration has approved its valve for sale in the United States. As such, the Company has classified $37,000,000 and $40,000,000 of inventories as noncurrent assets at December 31, 2002 and 2001, respectively. OTHER ASSETS Prior to obtaining directors' and officers' liability insurance, the Company had placed monies into a self-insurance trust to provide coverage for potential issues. At December 31, 2002 and 2001, the deposits within the trust amounted to $440,362 and $438,100, respectively. 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) LEASEHOLD IMPROVEMENTS, FURNITURE, AND EQUIPMENT Leasehold improvements, furniture, and equipment are stated at cost. Depreciation is provided using the straight-line method over the estimated useful lives of the assets as follows:
Furniture and fixtures 7 years Equipment 5 to 7 years Computers 2 years
Leasehold improvements are amortized over the related lease term or estimated useful life, whichever is shorter. TECHNOLOGY LICENSE The Company has a commitment to purchase an exclusive, worldwide right and license to use Sulzer Carbomedics, Inc. (Carbomedics) pyrolytic carbon technology (see Note 9 - Commitments). As specific milestones are met that obligate the Company to make payments under the commitment, the payment amount will be capitalized as part of the technology license. The technology license will be tested annually for impairment in accordance with Statement of Financial Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets. IMPAIRMENT OF LONG-LIVED ASSETS The Company reviews its long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of the assets to undiscounted future net cash flows expected to be generated by the assets. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. REVENUE RECOGNITION The Company recognizes revenue at the time of shipment and invoicing of the product for all sales to distributors, except for sales to its Italian distributor. Sales to the Italian distributor are recognized on a cash basis. Valves are also consigned to hospitals and the revenue recognized once the valve is implanted. USE OF ESTIMATES The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. INCOME TAXES Income taxes are accounted for under the liability method. Deferred income taxes are provided for temporary differences between financial reporting and tax bases of assets and liabilities. STOCK-BASED COMPENSATION The Company has a stock-based employee compensation plan, which is described more fully in Note 6. This plan is accounted for under the recognition and measurement principles of Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. Under APB No. 25, when the exercise price of stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized, and reflected in the net (loss) income. 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) The following table illustrates the effect on net income (loss) and net income (loss) per share if we had applied the fair value recognition provisions of SFAS No. 123, Accounting for Stock-Based Compensation, to stock-based employee compensation:
YEAR ENDED DECEMBER 31 2002 2001 2000 -------------- -------------- -------------- Net (loss) income as reported $ (18,212,266) $ (6,843,566) $ 504,561 Deduct total stock-based employee compensation expense determined under fair value-based method for all awards (1,148,842) (1,909,380) (2,482,337) -------------- -------------- -------------- Pro forma net loss $ (19,361,108) $ (8,752,946) $ (1,977,776) ============== ============== ============== Net (loss) income per share: Basic - as reported $ (.82) $ (.31) $ .03 Basic - pro forma $ (.87) $ (.39) $ (.10) Diluted - as reported $ (.82) $ (.31) $ .02 Diluted - pro forma $ (.87) $ (.39) $ (.10)
Pro forma information regarding net income and earnings per share is required by SFAS No. 123 and has been determined as if the Company had accounted for its employee stock options under the fair value method of SFAS No. 123. The fair value of these options was estimated at the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions for 2002, 2001, and 2000: risk-free interest rate of 3.65%, 5.18%, and 5.53%, respectively; dividend yield of 0%; volatility factor of the expected market price of the Company's Common Stock of .95, .77, and .67; and a weighted average expected life of the option of seven years. The pro forma effect on net (loss) income is not representative of the pro forma effect on net income in future years. NET INCOME PER SHARE Basic earnings per share is computed by dividing net income by the weighted average shares outstanding and excludes any dilutive effects of options, warrants, and convertible securities. Diluted earnings per share gives effect to all dilutive potential common shares outstanding during the year. RECLASSIFICATIONS Certain prior year balances were classified to conform with the current year presentation. 2. SHORT-TERM INVESTMENTS As of December 31, 2002 and 2001, the cost of short-term investments held by the Company, which have maturity dates of one year or less, approximated their fair market value of $2,501,669 and $7,698,290, respectively. As a result, no unrealized gains or losses were recognized at December 31, 2002 and 2001. 3. LEASEHOLD IMPROVEMENTS, FURNITURE, AND EQUIPMENT, NET Leasehold improvements, furniture, and equipment consists of the following:
DECEMBER 31 2002 2001 ------------- ------------- Furniture and fixtures $ 361,260 $ 356,155 Equipment 2,339,730 2,287,512 Leasehold improvements 3,227,132 3,227,787 Construction in progress 3,309,255 3,428,121 ------------- ------------- 9,237,377 9,299,575 Less accumulated depreciation 3,211,415 2,546,092 ------------- ------------- $ 6,025,962 $ 6,753,483 ============= =============
4. IMPAIRMENT OF TECHNOLOGY LICENSE At the end of the first quarter of 2002, the Company evaluated the carrying value of its technology license asset in accordance with the provisions of FASB No. 142, which were effective for the Company as of January 1, 2002. Utilizing a discounted cash flow model, that analysis indicated the asset's carrying value was recoverable and the Company recognized no impairment as a result of the adoption of FASB No. 142. In the second quarter of 2002, the Company experienced decreased sales volumes, decreased average selling prices and initiated certain restructuring activities pertaining to its executive team and the manner in which it sells its product from a direct sales force to a hybrid sales force of a few direct salespeople and several independent manufacturers representatives. In response to these conditions, the Company modified its pricing strategy and sales volume estimates in conjunction with the reorganization plan implemented and the increased competitive pressures in the European market. As a result of these conditions and changes, the Company reviewed its future cash flow analysis and changed its expectations of the sales volumes estimates and its selling prices of the heart valve in the cash flow model to evaluate the recoverability of its technology license. When compared to the revised fair value as calculated by discounting the changed future cash flows at June 30, 2002, the Company determined a non-cash charge representing an impairment of this asset needed to be recognized in the amount of $8.1 million in the second quarter. This charge also reflects in part the effect of the amended milestone payments in the early years of the technology transfer agreement relative to the benefits of lower cost carbon not being realized until future years after the depletion of inventories currently on hand. 5. EMPLOYEE STOCK PURCHASE PLAN In May 1998, the Company implemented the 1998 ATS Medical, Inc. 423 Employee Stock Purchase Plan. Under the terms of the plan, employees are eligible to purchase Common Stock of the Company on a quarterly basis. Employees can purchase Common Stock at 85% of the lesser of the market price of the Common Stock on the first day of the quarter or the last day of the quarter. During 2002, 2001 and 2000, shares of Common Stock totaling 101,980, 39,885 and 13,318 were purchased under the plan at prices ranging from $0.46 to $2.21, $3.24 to $10.84 and $7.65 to $11.48 per share, respectively. 6. COMMON STOCK AND STOCK OPTIONS In March 2000, the Company sold, in a private transaction, 1,100,000 shares of its Common Stock at a price of $9.00 per share. In July 2000, in another private equity sale, the Company sold 2,727,273 shares of its Common Stock at a price of $11.00 per share. Net proceeds from these two offerings totaled $37,749,425. The Company has a Stock Option Plan and a Stock Award Plan (the Plans) under which options to purchase Common Stock of the Company may be awarded to employees and nonemployees of the Company. The options may be granted under the Plans as incentive stock options (ISO) or as nonqualified stock options (non-ISO). 6. COMMON STOCK AND STOCK OPTIONS (CONTINUED) The following table summarizes the options to purchase shares of the Company's Common Stock under the Plans:
STOCK OPTIONS OUTSTANDING UNDER SHARES THE PLANS WEIGHTED AVERAGE RESERVED ----------------------------------- EXERCISE PRICE FOR GRANT ISO NON-ISO PER SHARE -------------- ----------------- -------------- ---------------- Balance at December 31, 1999 566,679 791,132 604,954 $ 5.90 Increase in shares reserved for 1,000,000 -- -- -- grant Options granted (886,000) 411,853 474,147 9.99 Options exercised -- (168,650) (179,250) 3.89 Options canceled 17,875 (17,875) -- 7.06 Options expired (1,054) -- -- -- -------------- -------------- ----------- Balance at December 31, 2000 697,500 1,016,460 899,851 8.15 Options granted (496,857) 322,415 174,442 8.42 Options exercised -- (40,115) (1,439) 5.78 Options canceled 85,399 (108,874) (25,325) 9.54 ISO shares made non-qualified in 2001 -- (81,050) 81,050 -- -------------- -------------- ----------- Balance at December 31, 2001 286,042 1,108,836 1,128,579 8.17 Options granted (595,000) 195,000 400,000 0.44 Options canceled 328,221 (545,709) (430,912) 8.30 -------------- -------------- ----------- Balance at December 31, 2002 19,263 758,127 1,097,667 5.62 ============== ============== ===========
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------------ --------------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE RANGE OF NUMBER CONTRACTUAL EXERCISE NUMBER EXERCISE EXERCISE PRICES OUTSTANDING LIFE PRICE EXERCISABLE PRICE - -------------------- ------------ ------------ ------------ ------------ ------------ $ 0.35 - $ 0.52 810,000 9.81 years $ 0.44 -- $ -- 2.37 - 8.50 802,044 5.62 years 6.76 546,895 6.21 9.00 - 16.19 468,750 6.96 years 10.16 310,250 10.07 ---------- ---------- 0.35 - 16.19 2,080,794 7.55 years 5.07 857,145 7.61 ========== ==========
6. COMMON STOCK AND STOCK OPTIONS (CONTINUED) The weighted average fair value of options granted during the years ended December 31, 2002, 2001, and 2000 was $0.37, $6.15, and $6.94, respectively. In 2001, non-Plan options to purchase 25,000 shares, exercisable at $3.63 per share, were exercised. At December 31, 2002, 2001, and 2000, Plan and non-Plan options for 857,145, 1,216,082, and 1,002,011 shares of Common Stock, respectively, were exercisable at a weighted average price of $7.61, $7.49, and $7.04 per share, respectively. Options can be exercised by tendering shares previously acquired. In December 2002, the Company granted 225,000 non-Plan options exercisable at an average exercise price of $0.52. These options vest ratably over three or four year periods. Of the total non-Plan options granted, 50,000 options were granted to a outside consultant, for which the Company will recognize compensation expense over the three-year vesting period. The Company has 1,850,057 shares of Common Stock reserved for issuance. 7. LEASES The Company has operating leases for its facilities in Plymouth, Minnesota. These leases expire at various dates through July 31, 2008. Future minimum lease payments under these agreements are as follows: 2003 $ 417,413 2004 111,567 2005 111,567 2006 115,877 2007 121,912 2008 71,115 ---------- 949,451 Less sublease rental income 60,439 ---------- $ 889,012 ==========
The rent expense was $410,487, $395,425, and $254,523 for 2002, 2001, and 2000, respectively. 8. INCOME TAXES At December 31, 2002, the Company had net operating loss carryforwards of approximately $28.5 million and credits for increasing research and development costs of approximately $633,000, which are available to offset future taxable income or reduce taxes payable through 2020. These carryforwards and credits will begin expiring in 2007 and 2003, respectively. The Company paid income taxes of $74,457 in 2000. Included as part of the Company's net operating loss carryforwards are approximately $2.2 million in tax deductions that resulted from the exercise of stock options. When these loss carryforwards are realized, the corresponding change in valuation allowance will be recorded as additional paid-in capital. Components of deferred tax assets and liabilities are as follows:
DECEMBER 31 2002 2001 -------------- -------------- Deferred tax assets (liabilities): Net operating loss carryforwards $ 10,661,000 $ 7,614,000 Research and development credits 633,000 616,000 AMT credit -- 150,000 Inventory reserves 1,158,000 118,000 Depreciation 302,000 224,000 Technology license amortization (1,016,000) (518,000) Compensation reserves 277,000 302,000 Other 470,000 144,000 -------------- -------------- Net deferred tax assets before valuation allowance 12,485,000 8,650,000 Less valuation allowance (12,485,000) (8,650,000) -------------- -------------- Net deferred tax assets $ -- $ -- ============== ==============
The Company's ability to utilize its net operating loss carryforwards to offset future taxable income is subject to certain limitations under Section 382 of the Internal Revenue Code due to changes in the equity ownership of the Company. Income tax expense consists of the following:
2002 2001 2000 -------- -------- -------- Current: Federal $ -- $ -- $ 64,000 State -- -- 10,457 -------- -------- -------- $ -- $ -- $ 74,457 ======== ======== ========
Reconciliation of the statutory federal income tax rate to the Company's effective tax rate is as follows:
2002 2001 2000 -------- -------- -------- Tax at statutory rate 34.0% 34.0% 34.0% State income taxes 4.0 4.0 6.0 Impact of net operating loss carryforwards (38.0) (38.0) (27.1) -------- -------- -------- --% --% 12.9% ======== ======== ========
9. COMMITMENTS In 1990, the Company entered into various agreements with Carbomedics giving the Company the exclusive worldwide license to sell a bileaflet mechanical heart valve under patents held by Carbomedics. As part of the agreements, the Company entered into a 15-year supply contract that was amended several times. In December 1999, the Company and Carbomedics entered into an agreement, which entitles the Company to an exclusive, worldwide right and license to use Carbomedics' pyrolytic carbon technology to manufacture components for the Company's mechanical heart value. This agreement further provides that Carbomedics will assist the Company in various aspects to enable the Company's completion of a manufacturing facility in Minneapolis, Minnesota to produce its own pyrolytic carbon components. The purchase price for the technology license totals $41 million payable in eight installments contingent upon the attainment of specified milestones. As of December 31, 2002, $13 million has been paid. In June 2002, the Company amended the supply and technology transfer agreements it has with Carbomedics. The amendment to the supply agreement suspends component set purchases until January 2007. This postpones component purchases totaling approximately $18 million for the years ended December 31, 2003 to 2006. In January of 2007, the purchase obligations for 2003 would resume, with the obligations for 2004 through 2006 to follow in each subsequent year. In addition, the technology transfer fee of $5,000,000 that was due at the end of 2002 will be paid in two equal installments in June and December of 2003. The Company will pay interest at the rate of 7% on the installments now payable in 2003 from the original due date until the payment date. Furthermore, the technology payments due in 2003, 2004, 2005 and 2006 totaling $23 million begin to be paid based on a percentage of cost of goods sold starting in January of 2005 with the first payment in June 2005 and subsequent payments every six months based on a percent of costs of goods sold during the previous six months. The Company has recorded a $2.4 million discount on the non-interest bearing debt owed to Carbomedics for milestones achieved to date. The discount is to be amortized as interest expense over the estimated term of the debt. As part of this agreement, the Company has provided Carbomedics a security interest in its inventories covering all of its material obligations under its agreements with Carbomedics. Payments to Carbomedics were $6,052,901, $14,049,719, and $17,927,911 in 2002, 2001, and 2000, respectively. The amounts payable to Carbomedics, net of discount, were $14,080,000 and $870,847 at December 31, 2002 and 2001, respectively. 10. BENEFIT PLAN The Company has a defined contribution salary deferral plan covering substantially all employees under Section 401(k) of the Internal Revenue Code. The plan allows eligible employees to contribute up to 12% of their annual compensation, with the Company contributing an amount equal to 25% of each employee's contribution. The Company recognized expense for contributions to the plan of $61,397, $76,167, and $59,623 during 2002, 2001, and 2000, respectively. 11. SIGNIFICANT CUSTOMERS AND CONCENTRATION OF CREDIT RISK The Company operates in one segment, the sale of a bileaflet mechanical heart valve. As a result, the information disclosed herein materially represents all of the financial information related to the Company's principal operating segment. The Company derived the following percentages of its net sales from the following geographic regions:
2002 2001 2000 ---- ---- ---- Europe 26% 36% 46% Asia Pacific 42 34 34 North America 19 19 4 Emerging Markets 13 11 16
Shown below are the percentage of sales of specific customers which exceeded 10% for the years shown:
2002 2001 2000 ------ ------ ------ Customer A 31.3% 23.6% 19.2% Customer B -- 10.3 12.9 Customer C -- -- 11.9
The Company had balances owing by three customers, which represented 44% and 45% of its outstanding accounts receivable balances, respectively, at December 31, 2002 and 2001. 12. NET (LOSS) INCOME PER SHARE - WEIGHTED AVERAGE SHARE CALCULATION The following table sets forth the reconciliation of the denominator for the calculation of basic and diluted net (loss) income per share:
2002 2001 2000 ------------ ------------ ------------ Denominator for basic net (loss) income per share - weighted average shares 22,258,806 22,158,513 20,031,611 Effect of dilutive securities: Stock options -- -- 836,577 ------------ ------------ ------------ Denominator for diluted net (loss) income per share - adjusted weighted average shares 22,258,806 22,158,513 20,868,188 ============ ============ ============
13. QUARTERLY FINANCIAL DATA (UNAUDITED) Quarterly data for 2002 and 2001 was as follows:
QUARTER FIRST SECOND THIRD FOURTH -------------- -------------- -------------- -------------- YEAR ENDED DECEMBER 31, 2002 Net sales $ 3,902,263 $ 2,475,241 $ 3,184,351 $ 3,739,419 Gross profit 1,211,352 151,230 1,004,931 (1,372,975) Net loss (1,483,371) (11,367,713) (589,206) (4,771,976) Earnings per share: Basic $ (.07) $ (.51) $ (.03) $ (.21) Diluted $ (.07) $ (.51) $ (.03) $ (.21) YEAR ENDED DECEMBER 31, 2001 Net sales $ 4,253,573 $ 4,415,222 $ 3,744,095 $ 2,666,904 Gross profit 1,645,413 1,543,034 491,124 1,090,409 Net loss (575,317) (1,347,763) (2,374,310) (2,546,176) Earnings per share: Basic $ (.03) $ (.06) $ (.11) $ (.11) Diluted $ (.03) $ (.06) $ (.11) $ (.11)
14. ACCRUED DISTRIBUTOR LIABILITIES The Company has recognized $821,498 of expense in the year ended December 31, 2002,related to the termination of their French and Belgium distributor. The Company will be buying back inventory from this distributor, in accordance with the terms of the distributor agreements. The Company will pay approximately $1.1 million for all costs associated with this termination in fiscal 2003. The charge represents the margin on valves that are expected to be returned to the Company and the estimated costs associated with restocking such inventories for resale. 15. REORGANIZATION EXPENSES In June 2002, the Board of Directors decided to implement new cost containment measures and to seek a new management team to lead the business. As part of these cost reduction measures, approximately one half of the workforce, including all of the executive officers of the Company, have been released from employment. The Company had 46 employees at December 31, 2002 compared to 89 employees at December 31, 2001. The Company has recorded $1,129,867 in reorganization expenses. The reorganization expenses consist of approximately $985,367 of severance pay and benefits, and $144,500 of rent that was expensed for the vacated portion of the Company's leased facility. Of the total reorganization expenses, $492,572 has not been paid as of December 31, 2002. 16. RELATED-PARTY TRANSACTION For the years ended December 31, 2002 and 2001, the Company had consulting agreements with a director of the Company, which provided for an annual compensation in each of the three following years. The 2001 agreement was extended one additional year in fiscal 2002. An expense has been recognized as a result of these agreements in the amount of $192,904 and $626,937 for the years ended December 31, 2002 and 2001, respectively. An expense for a portion of the compensation was recognized at the time the agreement was signed, as the Company has deferred only the fair value of expected services to be received under the agreements. EX-21 7 c75660exv21.txt LIST OF SUBSIDIARIES Exhibit 21 List of Subsidiaries ATS Medical Sales, Inc., a Minnesota corporation. ATS Medical France, SARL, a French corporation EX-23 8 c75660exv23.txt CONSENT OF ERNST & YOUNG LLP Exhibit 23 Consent of Independent Auditors We consent to the incorporation by reference in this Annual Report (Form 10-K) of ATS Medical, Inc. of our report dated January 31, 2003, included in the 2002 Annual Report to Shareholders of ATS Medical, Inc. Our audit also included the financial statement schedule of ATS Medical, Inc. listed in Item 15(a). This schedule is the responsibility of the Company's management. Our responsibility is to express an opinion based on our audits. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. We also consent to the incorporation by reference in the Registration Statements on Form S-8 No. 333-55154 pertaining to the ATS Medical, Inc. 2000 Stock Incentive Plan, Form S-8 No. 333-49985 pertaining to the 1998 Employee Stock Purchase Plan, Form S-8 Nos. 33-44940 and 333-49985 pertaining to the 1987 Stock Option and Stock Award Plan of ATS Medical, Inc. (formerly Helix BioCore, Inc.), Form S-3 No. 333-43360 pertaining to the registration of 2,727,273 shares of ATS Medical, Inc. common stock, and Form S-3 No. 333-39288 pertaining to the registration of 1,100,000 shares of ATS Medical, Inc. common stock, of our report dated January 31, 2003, with respect to the consolidated financial statements incorporated herein by reference, and our report included in the preceding paragraph with respect to the financial statement schedule included in the Annual Report (Form 10-K) of ATS Medical, Inc. /s/ Ernst & Young LLP Minneapolis, Minnesota March 20, 2003 EX-24 9 c75660exv24.txt POWER OF ATTORNEY Exhibit 24 POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS that each person whose signature appears below hereby constitutes and appoints Michael D. Dale and Deborah K. Chapman, and each of them, his attorney-in-fact, with full power of substitution, for the purpose of signing on his behalf, in any and all capacities, the Annual Report on Form 10-K of ATS Medical, Inc. pursuant to Section 13 of the Securities and Exchange Act of 1934, as amended, for the fiscal year ended December 31, 2002 (the "10-K Report") and of signing any and all amendments to the 10-K Report and to deliver the 10-K Report and any and all amendments thereto as each thereof is so signed for filing with the Securities and Exchange Commission. /s/ Manuel A. Villafana Dated: February 27, 2003 - ------------------------------------ Manuel A. Villafana /s/ Michael D. Dale Dated: February 27, 2003 - ------------------------------------ Michael D. Dale /s/ David L. Boehnen Dated: February 27, 2003 - ------------------------------------ David L. Boehnen /s/ A. Jay Graf Dated: February 27, 2003 - ------------------------------------ A. Jay Graf /s/ Eric W. Sivertson Dated: February 27, 2003 - ------------------------------------ Eric W. Sivertson
EX-99.1 10 c75660exv99w1.txt CAUTIONARY STATEMENTS EXHIBIT 99.1 ATS MEDICAL INC. DECEMBER 31, 2002 CAUTIONARY STATEMENTS FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. The Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for forward-looking statements to encourage companies to provide prospective information without fear of litigation so long as those statements are identified as forward-looking and are accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those projected in the statement. We desire to take advantage of these "safe harbor" provisions and are filing this Exhibit 99.1 in order to do so. Accordingly, we hereby identify the following important factors which could cause our actual results to differ materially from any such results which may be projected, forecast, estimated or budgeted by us in forward-looking statements made by us from time to time in reports, proxy statements, registration statements and other written communications, or in oral forward-looking statements made from time to time by the Company's officers and agents. We do not intend to update any of these forward-looking statements after the date of this Form 10-K to conform them to actual results. OUR HEART VALVE MAY NEVER ACHIEVE WIDESPREAD MARKET ACCEPTANCE. Our success will depend, in large part, on the medical community's acceptance of the ATS heart valve. The medical community's acceptance of the ATS heart valve will depend upon our ability to demonstrate the safety and efficacy, advantages, long-term clinical performance and cost-effectiveness of the ATS heart valve as compared to other prosthetic heart valves. We cannot predict whether the medical community will accept the ATS heart valve or, if accepted, the extent of its use. Negative publicity resulting from isolated incidents involving the ATS heart valve or other prosthetic heart valves could have a significant adverse effect on the overall acceptance of our heart valve. If we encounter difficulties developing a market for the ATS heart valve in the United States, our business and results of operations will be seriously harmed. OUR STOCK MAY BE DELISTED FROM NASDAQ. Our common stock is currently listed on The Nasdq SmallCap Market. The National Association of Securities Dealers, Inc., which administers Nasdaq, has adopted certain criteria for continued eligibility on The Nasdaq SmallCap Market, including, among other things, a minimum bid price of our common stock of $1.00 per share. At the time of this filing, the minimum bid price for our common stock had been below $1.00 for more than 30 consecutive trading days. On January 28, 2003, Nasdaq informed us that unless the bid price of our common stock closes at $1.00 per share or more for a minimum of 10 consecutive trading days before July 28, 2003, our common stock will be delisted from The Nasdaq SmallCap Market, subject to ATS' right to appeal. If Nasdaq were to begin delisting proceedings against us, it could reduce the level of liquidity currently available to our shareholders. If our common stock is delisted from Nasdaq, trading, if any, in our common stock may then continue to be conducted in the non-Nasdaq over-the-counter market commonly referred to as the Over-the-Counter Bulletin Board and the "pink sheets." If our common stock were delisted, the price of our common stock would, in all likelihood, decline. As a result, an investor may find it more difficult to dispose of or to obtain accurate quotations as to the market value of our common stock. Our common stock is deemed to be "penny stock" for the limited purpose of Section 15(b)(6) of the Securities Exchange Act of 1934, as amended (the "Exchange Act") because it is priced at less than $5.00 per share. Section 15(b)(6) makes it unlawful for any broker-dealer to participate in a distribution of any penny stock without the consent of the Securities and Exchange Commission (the "Commission") if, in the exercise of reasonable care, the broker-dealer is aware of or should have been aware of the participation in such distribution by a person subject to an order of the Commission censoring, suspending or placing limitations on such person's activities in such distribution. This rule may make it more difficult for broker-dealers to sell our common stock, and purchasers of shares of our common stock may experience difficulty in selling such shares in the future in secondary trading markets. If our common stock is delisted from The Nasdaq Stock Market, which includes both The Nasdaq National Market and The Nasdaq SmallCap Market, our common stock is priced at less than $5.00 per share and we fail to meet certain limited net tangible asset or revenue criteria, trading, if any, in shares of our common stock would be subject to the full range of the federal regulations promulgated under the exchange Act regulating the trading of penny stocks (the "Penny Stock Rules"). In particular, under Exchange Act Rule 15g-9, broker-dealers must take certain steps prior to selling a penny stock, which steps include: (a) obtaining financial and investment information from the investor; (b) obtaining a written suitability questionnaire and purchase agreement signed by the investor; (c) providing the investor with a written identification of the shares being offered and in what quantity; and (d) delivering to the investor a written statement setting forth the basis on which the broker-dealer approved the investor's account for the transaction. If a broker-dealer does not follow the Penny Stock Rules, the investor has no obligation to purchase the shares. Accordingly, the application of the comprehensive Penny Stock Rules may make it more difficult for broker-dealers to sell our shares of common stock and purchasers of shares of our common stock may have difficulty in selling such shares in secondary trading markets. WE CURRENTLY RELY ON THE ATS HEART VALVE AS OUR SOLE SOURCE OF REVENUE. We have developed only one product, which is currently being sold primarily outside the United States. Even if we were to develop additional products, regulatory approval would likely be required to sell them. Clinical testing and the approval process itself are very expensive and can take many years. Therefore, we do not expect to be in a position to sell additional products in the foreseeable future. As a result, if we fail to achieve widespread market acceptance for the ATS heart valve, our business and results of operations will be seriously harmed. WE NEED TO HIRE AND RETAIN A NEW SALES FORCE AND RETAIN NEW MANAGEMENT. We experienced losses in 2002 and 2001. In an attempt to improve our operations and financial performance, we decided in July 2002 to implement significant cost containment measures, including replacing most of our executive officers with a new management team. In October 2002 we hired a new President and Chief Executive Officer. Beginning in July 2002, we also changed our U.S. sales strategy from a direct sales force to a hybrid of a few direct salespersons and several independent manufacturer's representatives. We cannot assure you that our efforts will be successful. Our ability to achieve operational improvements and improve our financial performance will be subject to a number of risks and uncertainties, including the following: o our success in completing and retaining our new executive management team to lead ATS; o the ability of the new management team to manage ATS effectively and increase sales of our products; o our success in hiring independent manufacturer's representatives; o our ability to successfully integrate and maintain a U.S. hybrid sales force consisting of direct sales persons and independent manufacturer's representatives; o our ability to maintain and expand our distribution capability in international markets; and o our ability to respond to competitive developments, including, but not limited to, increased pricing pressure and tissue valve competition. We cannot assure you that we will be able to retain our new executive management team and hire and retain independent manufacturer's representatives on terms and conditions acceptable to ATS. Our failure to successfully address the risks and uncertainties listed above could have a material adverse effect on our business, assets, prospects, financial conditions and results of operations. OUR U.S. SALES EFFORTS MAY NOT BE SUCCESSFUL. We recently changed our sales approach for the sale of the ATS valve in the United States from a direct sales force to a hybrid of a few direct salespersons and several independent manufacturer's representatives. As part of this change, we released most of our direct salespersons, which may adversely affect sales to customers who previously purchased our products from the salespersons that we released, and have hired a number of new independent sales representatives. In addition, we will need to continue to expend significant funds and management resources to develop and maintain our hybrid sales force. We believe there is significant competition for sales personnel and independent manufacturing representatives with the advanced sales skills and technical knowledge we need. If we are unable to recruit, retain and motivate qualified personnel and representatives, U.S. sales of the ATS valve could be adversely affected. The loss of key salespersons or independent manufacturer's representatives could have a material adverse effect on our business, assets, prospects, financial condition and results of operations. Further, we cannot assure the successful expansion of our network of independent manufacturer's representatives on terms acceptable to ATS, if at all, or the successful marketing of our products by our hybrid sales force. In addition, we do not control the amount and timing of marketing resources that these third parties devote to our product. To the extent we rely on sales through independent manufacturer's representatives, any revenues we receive will depend primarily on the efforts of these parties. WE CURRENTLY DEPEND ON THE MARKETING AND SALES EFFORTS OF INTERNATIONAL INDEPENDENT DISTRIBUTORS, AND OUR SALES HAVE BEEN CONCENTRATED IN THREE COUNTRIES. The ATS heart valve is sold internationally through independent distributors. The loss of an international distributor could seriously harm our business and results of operations if a new distributor could not be found on a timely basis in the relevant geographic market. Sales to our Japanese, German and Australian distributors have accounted for approximately 48% of our net sales in fiscal year 2002 and 42% of our net sales in fiscal year 2001. We do not control the amount and timing of marketing resources that these third parties devote to our product. Furthermore, to the extent we rely on sales through independent distributors, any revenues we receive will depend primarily on the efforts of these parties. In addition, as part of our agreement with our distributors, we allow for the return of unopened valves for credit. If a distributor(s) were to terminate their distributorship agreement with us, we could be obligated to buy back their inventory of valves as well as valves on consignment at hospitals. Such a buyback could have an adverse impact on our results of operations for the quarter and/or year in which it occurs. WE ARE DEPENDENT UPON SALES OUTSIDE THE UNITED STATES, WHICH ARE SUBJECT TO A NUMBER OF RISKS THAT COULD HARM OUR BUSINESS. Most of our commercial sales to date have been outside the United States, and we expect that international sales will account for a substantial majority of our revenue until we fully implement our strategy for sale of the ATS heart valve in the United States and until the ATS heart valve receives wider market acceptance from U.S. customers. There are risks inherent in doing business in international markets, including: o unforeseen changes in regulatory requirements and government health programs; o weaker intellectual property rights protection in some countries; o potentially adverse tax consequences; o political and economic instability; and o greater difficulty in collecting payments from product sales. These factors could harm our ability to successfully commercialize our product internationally and could harm our business. The value of the U.S. dollar in relation to other currencies may also harm our sales to customers outside the United States because we sell in U.S. dollars to most of our customers abroad. For the year ended December 31, 2002, sales outside the United States decreased by about 14% compared to the same period for 2001. The decrease in sales was due primarily to competitor price pressure and the value of the U.S. dollar against the Euro. Our sales in Europe declined 36% for the year ended December 31, 2002 as compared to the year ended December 31, 2001. Our dependence on sales outside of the United States will continue to expose us to U.S. dollar currency fluctuations for the foreseeable future. THE MARKET FOR PROSTHETIC HEART VALVES IS HIGHLY COMPETITIVE. The market for prosthetic heart valves is highly competitive. We expect that competition will intensify as additional companies enter the market or modify their existing products to compete directly with us. Our primary competitor, St. Jude Medical, Inc., currently controls approximately 50% of the worldwide mechanical heart valve market. Many of our competitors have long-standing FDA approval for their valves and extensive clinical data demonstrating the performance of their valves. In addition, they have greater financial, manufacturing, marketing and research and development capabilities than we have. For example, many of our competitors have the ability, due to their internal carbon manufacturing facilities and economies of scale, to manufacture their heart valves at a lower cost than we can manufacture our ATS heart valve. Our primary competitor has recently used price as a method to compete in several markets, including the United States. We might not be able to compete successfully. OUR FUTURE RESULTS WILL BE HARMED IF THE USE OF MECHANICAL HEART VALVES DECLINES. Our business could suffer if the use of mechanical heart valves declines. Historically, mechanical heart valves have accounted for over two-thirds of all heart valve replacements. Recently, there has been an increase in the use of tissue valves. We estimate that mechanical heart valves are currently being used in 40 to 65% of all heart valve replacements, depending on the geographic market, down from 65 to 75% about ten years ago. We believe the tissue manufacturers' claims of improvements in tissue valve longevity and an increase in the average age of valve patients have contributed to the recent increase in the use of tissue valves. NEW PRODUCTS OR TECHNOLOGIES DEVELOPED BY OTHERS COULD HARM OUR BUSINESS AND RESULTS OF OPERATIONS. The medical device industry is characterized by significant technological advances. Several companies are developing new prosthetic heart valves based on new or potentially improved technologies. Significant advances are also being made in surgical procedures, which may delay the need for replacement heart valves. A new product or technology may emerge that renders our ATS heart valve noncompetitive or obsolete. WE MAY NEED TO RAISE CAPITAL AND WE CANNOT BE CERTAIN THAT ADDITIONAL FINANCING WILL BE AVAILABLE. We have cash in hand to support our operations and capital requirements through 2005. After that we may need to raise additional capital. Our future liquidity and capital requirements will depend upon several factors, including actions related to regulatory matters, our progress in establishing our pyrolytic carbon manufacturing operations, the extent to which the ATS heart valve gains market acceptance and the success of our efforts to establish a new sales force of independent manufacturer's representatives in the United States. WE CURRENTLY MAINTAIN A LARGE VOLUME OF INVENTORY, WHICH EXCEEDS THE CURRENT DEMAND FOR THE ATS HEART VALVE. We purchased pyrolytic carbon components under a long-term supply agreement with Carbomedics through June 2002 and we are required to resume purchases of such components in 2007. To date, our purchases of pyrolytic carbon components have exceeded our sales of the ATS heart valves. We currently have in inventory enough pyrolytic carbon components to satisfy our projected requirements for over two years. If we are unable to achieve widespread acceptance for the ATS heart valve or if competitive pressures result in price reductions, the value of the excess inventory would likely decrease, which could seriously harm our results of operations and financial condition. Because the pyrolytic carbon components are made to meet the unique specifications of the ATS heart valve, our inventory may have little, if any, value in the open market. CARBOMEDICS HAS A SECURITY INTEREST IN OUR INVENTORY, AND THEY MAY FORECLOSE ON OUR INVENTORY IF WE MATERIALLY BREACH THE SUPPLY OR CARBON AGREEMENTS. In July 2002, ATS granted to Carbomedics a security interest in all our inventory to secure our payment and other material obligations to them under the supply and the carbon agreements. If we default in our payment or other material obligations to Carbomedics under these agreements, Carbomedics could exercise its rights as a secured creditor and attempt to foreclose on our inventory. The foreclosure of our inventory would cause serious harm to our business and results of operations. WE LICENSE PATENTED TECHNOLOGY AND OTHER PROPRIETARY RIGHTS FROM CARBOMEDICS. IF THESE AGREEMENTS ARE BREACHED OR TERMINATED, OUR BUSINESS AND RESULTS OF OPERATIONS COULD BE SERIOUSLY HARMED. If our agreements with Carbomedics are breached or terminated, our business and results of operations could be seriously harmed. Under our carbon technology agreement with Carbomedics, we have obtained a license to use Carbomedics' pyrolytic carbon technology to manufacture components for the ATS heart valve. Carbomedics also has agreed to assist us in completing our pyrolytic carbon manufacturing facility. If this agreement is breached or terminated, our business and results of operations could be seriously harmed. A DELAY OR INTERRUPTION IN THE SUPPLY OF PYROLYTIC CARBON COMPONENTS OR OUR FAILURE TO PURCHASE CERTAIN MINIMUM ANNUAL AMOUNTS COULD SERIOUSLY HARM OUR BUSINESS. We cannot be certain that, after our current inventory is exhausted, sufficient quantities of pyrolytic carbon components will be available to assemble the ATS heart valve. We currently purchase pyrolytic carbon components from a single source, Carbomedics, on an exclusive basis. Other than our carbon facility, there is currently no other FDA-approved alternate supplier of our pyrolytic carbon components. While Carbomedics has granted to us the right to manufacture pyrolytic carbon components, we agreed to continue to purchase a minimum annual number of pyrolytic carbon components from Carbomedics in 2007 through 2011. Failure to purchase these minimum annual amounts would give Carbomedics the right to suspend our right to manufacture the pyrolytic carbon components. The suspension of such rights could cause serious harm to our business and result of operations. BECAUSE WE LACK MANUFACTURING EXPERIENCE, WE MAY ENCOUNTER DIFFICULTIES IN MANUFACTURING PYROLYTIC CARBON COMPONENTS FOR OUR HEART VALVE. Under our agreement with Carbomedics, we have been granted an exclusive worldwide license to manufacture pyrolytic carbon components for the ATS heart valve. We cannot be certain that our strategy to establish internal manufacturing capabilities will result in a cost- effective means for manufacturing the ATS heart valve. We have limited experience in manufacturing pyrolytic carbon. We may encounter difficulties in maintaining and expanding our manufacturing operations, including problems involving: o production yields; o quality control; o per unit manufacturing costs; o shortages of qualified personnel; and o compliance with FDA and international regulations and requirements regarding good manufacturing practices. Difficulties encountered by us in establishing or maintaining a commercial-scale manufacturing facility may limit our ability to manufacture our heart valve and therefore could seriously harm our business and results of operations. OUR BUSINESS COULD BE SERIOUSLY HARMED IF THIRD-PARTY PAYORS DO NOT REIMBURSE THE COSTS FOR OUR HEART VALVE. Our ability to successfully commercialize the ATS heart valve depends on the extent to which reimbursement for the cost of our product and the related surgical procedure is available from third-party payors, such as governmental programs, private insurance plans and managed care organizations. Third-party payors are increasingly challenging the pricing of medical products and procedures that they consider are not cost-effective or are used for a non-approved indication. The failure by physicians, hospitals and other users of our product to obtain sufficient reimbursement from third-party payors would seriously harm our business and results of operations. In recent years, there have been numerous proposals to change the health care system in the United States. Some of these proposals have included measures that would limit or eliminate payment for medical procedures or treatments. In addition, government and private third-party payors are increasingly attempting to contain health care costs by limiting both the coverage and the level of reimbursement. In international markets, reimbursement and health care payment systems vary significantly by country. In addition, we have encountered price resistance from government-administered health programs. Significant changes in the health care system in the United States or elsewhere, including changes resulting from adverse trends in third-party reimbursement programs, could have a material adverse effect on our business and results of operations. WE MAY FACE PRODUCT LIABILITY CLAIMS. The manufacture and sale of mechanical heart valves entail significant risk of product liability claims and product recalls. A mechanical heart valve is a life-sustaining device and the failure of any mechanical heart valve usually results in the patient's death or need for reoperation. A product liability claim or product recall, regardless of the ultimate outcome, could require us to spend significant time and money in litigation or to pay significant damages and could seriously harm our business. We currently maintain product liability insurance coverage in an aggregate amount of $25 million. However, we cannot assure you that our current insurance coverage is adequate to cover the costs of any product liability claims made against us. Product liability insurance is expensive and does not cover the costs of a product recall. In the future, product liability insurance may not be available at satisfactory rates or in adequate amounts. WE DEPEND ON THE CONTINUED SERVICE OF OUR KEY PERSONNEL. Our future success depends on the continued services of key personnel. We are also dependent on our ability to attract and retain technically qualified personnel in the future. The loss of the technical knowledge and industry expertise of these key personnel could seriously impede our success. OUR BUSINESS WOULD BE ADVERSELY AFFECTED IF WE ARE NOT ABLE TO PROTECT OUR INTELLECTUAL PROPERTY RIGHTS. Our success depends in part on our ability to maintain and enforce our patents and other proprietary rights. We rely on a combination of patents, trade secrets, know-how and confidentiality agreements to protect the proprietary aspects of our technology. These measures afford only limited protection and competitors may gain access to our intellectual property and proprietary information. The patent positions of medical device companies are generally uncertain and involve complex legal and technical issues. 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 be costly and divert our attention from the growth of the business. We cannot assure you that our patents and other proprietary rights will not be successfully challenged, or that others will not independently develop substantially equivalent information and technology or otherwise gain access to our proprietary technology. WE MAY BE SUED BY THIRD PARTIES WHICH CLAIM THAT OUR PRODUCT INFRINGES ON THEIR INTELLECTUAL PROPERTY RIGHTS. We may be exposed to future litigation by third parties based on intellectual property infringement claims. Any claims or litigation against us, regardless of the merits, could result in substantial costs and could harm our business. In addition, intellectual property litigation or claims could force us to: o cease manufacturing and selling our product, which would seriously harm us; o obtain a license from the holder of the infringed intellectual property right, which license may not be available on reasonable terms, if at all; or o redesign our product, which could be costly and time-consuming. WE ARE SUBJECT TO EXTENSIVE GOVERNMENTAL REGULATION, WHICH IS COSTLY, TIME CONSUMING AND CAN SUBJECT US TO UNANTICIPATED DELAYS. The ATS heart valve and our manufacturing activities are subject to extensive regulation by a number of governmental agencies, including the FDA and comparable international agencies. We are required to: o maintain the approval of the FDA and international regulatory agencies to continue selling the ATS heart valve; o obtain the approval of international regulatory agencies in countries where the ATS heart valve is not yet marketed; o satisfy content requirements for all of our labeling, sales and promotional materials; o comply with manufacturing and reporting requirements; and o undergo rigorous inspections by these agencies. Compliance with the regulations of these agencies may delay or prevent us from introducing any new or improved products. Violations of regulatory requirements may result in fines, marketing restrictions, product recall, withdrawal of approvals and civil and criminal penalties. THE PRICE OF OUR COMMON STOCK HAS BEEN VOLATILE. Historically, the market price of our common stock has fluctuated over a wide range and it is likely that the price of our common stock will fluctuate in the future. The market price of our common stock could be impacted by the following: o the success of our new management in operating ATS effectively; o the failure of the ATS valve to gain market acceptance in the United States; o announcements of technical innovations or new products by our competitors; o the status of component supply arrangements; o changes in reimbursement policies; o government regulation; o developments in patent or other proprietary rights; o public concern as to the safety and efficacy of products developed by us or others; and o general market conditions. In addition, due to one or more of the foregoing factors, in future years, our results of operations may fall below the expectations of securities analysts and investors. In that event, the market price of our common stock could be materially and adversely affected. OUR CHARTER DOCUMENTS AND MINNESOTA LAW MAY DISCOURAGE A TAKEOVER OF OUR COMPANY. Provisions of our certificate of incorporation, bylaws and Minnesota law could make it more difficult for a third party to acquire us, even if doing so would be beneficial to our stockholders. EX-99.2 11 c75660exv99w2.txt CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER Exhibit 99.2 CERTIFICATION PURSUANT TO 18 U.S.C. Section 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Annual Report of ATS Medical, Inc. (the "Company") on Form 10-K for the period ended December 31, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Michael D. Dale, Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to the best of my knowledge: 1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. A signed original of this written statement required by Section 906 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request. /s/ Michael D. Dale ---------------------------------------- Michael D. Dale Chief Executive Officer March 26, 2003 EX-99.3 12 c75660exv99w3.txt CERTIFICATION OF THE CHIEF FINANCIAL OFFICER Exhibit 99.3 CERTIFICATION PURSUANT TO 18 U.S.C. Section 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Annual Report of ATS Medical, Inc. (the "Company") on Form 10-K for the period ended December 31, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Deborah K. Chapman, Controller of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to the best of my knowledge: 1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. A signed original of this written statement required by Section 906 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request. /s/ Deborah K. Chapman ------------------------------------------ Deborah K. Chapman Controller March 26, 2003 -----END PRIVACY-ENHANCED MESSAGE-----