10-Q

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

(Mark One)

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2003

or

[  ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from ________________________________________ to ____________________

Commission File Number: 0-21214

ORTHOLOGIC CORP.

(Exact name of registrant as specified in its charter)

Delaware	86-0585310
(State of other jurisdiction of incorporation or organization)	(IRS Employer Identification No.)

1275 W. Washington Street, Tempe, Arizona	85281
(Address of principal executive offices)	(Zip Code)

(602) 286-5520

(Registrant’s telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report)

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.  xYes  oNo

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 126-2 of the Exchange Act):  xYes  oNo

APPLICABLE ONLY TO CORPORATE ISSUERS:

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

33,306,293 shares of common stock outstanding as of October 31, 2003

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TABLE OF CONTENTS

PART I — Financial Information
	Item 1. Financial Statements
		CONDENSED CONSOLIDATED BALANCE SHEETS
		Condensed Consolidated Statement of Operations
		CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW
		NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
	Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
	Item 3. Quantitative and Qualitative Disclosures about Market Risk
	Item 4. Controls and Procedures
Part II — Other Information
	Item 2. Changes in Securities and Use of Proceeds
	Item 6. Exhibits and Reports
SIGNATURES
Exhibit Index
EX-3.1
EX-3.2
Ex-10.1
Ex-10.2
Ex-31.1
Ex-31.2
EX-32

ORTHOLOGIC CORP.
INDEX

		Page No.
Part I	Financial Information
	Item 1. Financial Statements (Unaudited)
	Condensed Consolidated Balance Sheets as of September 30, 2003 and December 31, 2002		3
	Condensed Consolidated Statements of Operations for the Three months and Nine months ended September 30, 2003 and 2002		4
	Condensed Consolidated Statements of Cash Flows for the Nine months ended September 30, 2003 and 2002		5
	Notes to Unaudited Condensed Consolidated Financial Statements		6
	Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations		16
	Item 3. Quantitative and Qualitative Disclosures about Market Risk		26
	Item 4. Controls and Procedures		26
Part II	Other Information
	Item 2. Changes in Securities and Use of Proceeds		35
	Item 6. Exhibits and Reports		37

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PART I – Financial Information
Item 1. Financial Statements

ORTHOLOGIC CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands except share and per share data)
(Unaudited)

					September 30, 2003			December 31, 2002
ASSETS
Current assets
				Cash and cash equivalents	$	12,287		$	11,286
				Short-term investments		22,174			18,660
				Accounts receivable less allowance for doubtful accounts of $2,951 and $3,111		9,479			9,641
				Inventory		2,284			2,568
				Prepaids and other current assets		595			598
				Deferred income taxes – current		1,667			1,667
				Total current assets		48,486			44,420
Furniture and equipment						7,568			8,572
Accumulated depreciation						(6,323	)		(7,074	)
			Furniture and equipment, net			1,245			1,498
Long-term investments						5,024			5,659
Deferred income taxes – non-current						964			964
Investment in Chrysalis BioTechnology						750			750
Deposits and other assets						210			129
	TOTAL ASSETS				$	56,679		$	53,420
LIABILITIES & STOCKHOLDERS’ EQUITY
Current liabilities
				Accounts payable	$	988		$	477
				Accrued liabilities		5,277			4,148
				Accrued CPM divestiture costs		—			210
				Total current liabilities		6,265			4,835
Deferred rent						298			352
	TOTAL LIABILITIES					6,563			5,187
STOCKHOLDERS’ EQUITY
Common stock, $.0005 par value:
		50,000,000 shares authorized; 33,072,025 and 32,088,821 shares issued; 33,030,225 and 32,047,021 shares outstanding				16			16
Additional paid-in capital						139,700			136,945
Common stock to be used for legal settlement						—			2,078
Accumulated deficit						(89,463	)		(90,669	)
Treasury stock at cost, 41,800 shares						(137	)		(137	)
	TOTAL STOCKHOLDERS’ EQUITY					50,116			48,233
	TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY				$	56,679		$	53,420

See Notes to Unaudited Condensed Consolidated Financial Statements.

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OrthoLogic Corp.
Condensed Consolidated Statement of Operations
(in thousands, except per share data)
(Unaudited)

					Three months ended						Nine months ended
					September 30,						September 30,
					2003			2002			2003			2002
Revenues
		Net sales			$	12,523		$	10,279		$	34,263		$	28,221
		Royalties from co-promotion agreement				—			501			—			1,872
				Total net revenues		12,523			10,780			34,263			30,093
Cost of Revenues
	Cost of goods sold					1,926			1,865			5,088			4,621
			Total cost of revenues			1,926			1,865			5,088			4,621
Gross Profit						10,597			8,915			29,175			25,472
Operating expenses
	Selling, general and administrative					7,821			7,179			22,503			20,534
	Research and development					2,522			722			6,299			2,391
	CPM divestiture and related gains					(132	)		(221	)		(477	)		(1,047	)
				Total operating expenses		10,211			7,680			28,325			21,878
Operating income						386			1,235			850			3,594
Other income						125			169			387			537
Income before income taxes						511			1,404			1,237			4,131
Provision for income taxes						5			12			31			37
NET INCOME					$	506		$	1,392		$	1,206		$	4,094
Net income per common share – basic					$	0.02		$	0.04		$	0.04		$	0.13
Net income per common and equivalent share – diluted					$	0.02		$	0.04		$	0.04		$	0.13
Basic shares outstanding						32,975			32,719			32,892			32,615
Equivalent shares						684			530			385			96
Diluted shares outstanding						33,659			33,249			33,277			32,711

See Notes to Unaudited Condensed Consolidated Financial Statements.

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ORTHOLOGIC CORP.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOW
(in thousands)
(Unaudited)

					Nine months ended September 30,
					2003			2002
OPERATING ACTIVITIES
	Net income				$	1,206		$	4,094
	Non-cash items:
			Depreciation			487			526
	Change in operating assets and liabilities:
			Accounts receivable			162			988
			Inventories			284			(1,334	)
			Prepaids and other current assets			3			(138	)
			Deposits and other assets			(81	)		(19	)
			Accounts payable			511			516
			Accrued liabilities and deferred rent			1,075			(453	)
			Accrued liabilities on CPM divestiture and related gains			(210	)		(754	)
				Net cash provided by operating activities		3,437			3,426
INVESTING ACTIVITIES
	Expenditures for equipment and furniture					(234	)		(239	)
	Purchases of investments					(19,945	)		(27,860	)
	Maturities of investments					17,066			15,250
			Net cash used in investing activities			(3,113	)		(12,849	)
FINANCING ACTIVITIES
	Net proceeds from stock option exercises					677			54
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS						1,001			(9,369	)
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD						11,286			19,503
CASH AND CASH EQUIVALENTS, END OF PERIOD					$	12,287		$	10,134
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
		Cash paid during the period for interest			$	9		$	8
		Cash paid during the period for income taxes			$	21		$	42
		Common stock issued for legal settlement			$	2,078
		Conversion of Series B preferred stock to common stock						$	600

See Notes to Unaudited Condensed Consolidated Financial Statements.

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ORTHOLOGIC CORP.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

     Description of the Business. OrthoLogic Corp. (“OrthoLogic” or the “Company”) develops, manufactures and markets proprietary, technologically advanced orthopedic products designed to promote the healing of musculoskeletal tissue, with particular emphasis on fracture healing and spinal repair. OrthoLogic’s products are designed to enhance the healing of diseased, damaged, degenerated or recently repaired musculoskeletal tissue. The Company’s products focus on improving the clinical outcomes and cost-effectiveness of orthopedic procedures that are characterized by compromised healing, high-cost, potential for complication and long recuperation time.

     On October 9, 2003, the Company announced that it had entered into an Asset Purchase Agreement to sell our bone growth stimulation device business (the “Bone Device Business”) assets (including the rights to produce and market the OL1000, OL1000 SC, SpinaLogic and OrthoFrame/Mayo) to dj Orthopedics.

     Pursuant to the Asset Purchase Agreement, OrthoLogic will sell substantially all of the assets of our Bone Device Business, including substantially all of the related machinery, equipment, inventory, work in process, licenses, customer lists, intellectual property, certain agreements and contracts to dj Orthopedics. dj Orthopedics will assume substantially all of the Bone Device Business trade payables and other current liabilities less payables in an amount approximately equal to the amount of retained Medicare receivables (Note 2).

     In 1999, we exercised our option to license the United States development, marketing, and distribution rights for the fracture indications for Chrysalin, a new tissue repair synthetic peptide. In 2000, we exercised our option to license Chrysalin for all orthopedic applications worldwide. Since that time, our research and development efforts have focused primarily on our Chrysalin product development program. We currently have three potential Chrysalin products either in human clinical trials or in late-stage pre-clinical development.

Financial Statement Presentation

     In the opinion of management, the unaudited interim financial statements include all adjustments necessary for the fair presentation of the Company’s financial position, results of operations, and cash flows. The results of operations for the interim periods are not necessarily indicative of the results to be expected for the complete fiscal year. The balance sheet as of December 31, 2002 is derived from the Company’s audited financial statements included in the 2002 Annual Report on Form 10-K. These financial statements should be read in conjunction with the financial statements and notes thereto included in the Company’s 2002 Annual Report on Form 10-K.

     Use of estimates. The preparation of the financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the

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reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates. Significant estimates include the allowance for doubtful accounts (approximately $3.0 million at September 30, 2003 and $3.1 million at December 31, 2002), which is based primarily on trends in historical collection rates, consideration of current events, payor mix and other considerations. The Company derives a significant amount of its revenues in the United States from third-party payors, including Medicare and certain commercial insurance carriers, health maintenance organizations, and preferred provider organizations. Amounts paid under these plans are generally based on fixed or allowable reimbursement rates. Revenues are recorded at the expected or pre-authorized reimbursement rates when earned and include unbilled receivables of $611,000 and $860,000 on September 30, 2003 and December 31, 2002, respectively. The decrease in the unbilled receivables from December 31, 2002 to September 30, 2003 was primarily the result of changes to the Company’s product placement procedures made in late 2002, resulting in improved billing processes. Billings are subject to review by third party payors and may be subject to adjustments. Any differences between estimated reimbursement and final determinations are reflected in the period finalized. The Company maintained a reserve for inventory shrinkage and obsolescence of $814,000 and $687,000 on September 30, 2003 and December 31, 2002, respectively. In the opinion of management, adequate allowances have been provided for doubtful accounts, contractual adjustments and inventory reserves.

     Principles of consolidation. The consolidated financial statements include the accounts of OrthoLogic and its subsidiaries. All inter-company accounts and transactions have been eliminated. The Company prepares its consolidated financial statements in accordance with accounting principles generally accepted in the United States of America. The following briefly describes the significant accounting policies used in the preparation of the financial statements of the Company:

     A.     Cash and cash equivalents. Cash and cash equivalents consist of cash on hand and cash deposited with financial institutions, including money market accounts, and commercial paper purchased with an original maturity of three months or less.

     B.     Inventories. Business inventories are stated at the lower of cost (first in, first out method) or market. The Company writes down its inventory for inventory shrinkage and obsolescence. Inventory is written down to estimated market value based on a number of assumptions, including future demand and market conditions.

     C.     Furniture and equipment. Furniture and equipment are stated at cost or, in the case of leased assets under capital leases, at the present value of future lease payments at inception of the lease. Depreciation is calculated on a straight-line basis over the estimated useful lives of the various assets, which range from three to seven years. Leasehold improvements and leased assets under capital leases are amortized over the life of the asset or the period of the respective lease using the straight-line method, whichever is the shortest.

     The Company adopted Statement of Financial Accounting Standards (“SFAS”) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets effective January 1, 2002. SFAS No. 144 addresses financial accounting and reporting for the impairment or disposal of long-lived assets, and supersedes Statement of Financial Accounting Standards No. 121, Accounting of the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of. SFAS No. 144 requires that the Company evaluate long-lived assets based on the net future

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cash flow expected to be generated from the asset on an undiscounted basis whenever significant events or changes in circumstances occur that indicate that the carrying amount of an asset may not be recoverable. The adoption of SFAS No. 144 did not have a significant impact on the Company’s operating results or financial position.

     D.     Investment in Chrysalis. The Company owns a minority ownership interest in Chrysalis BioTechnology, Inc., which is recorded at cost (see Note 5).

     E.     Income taxes. Under Financial Accounting Standards Board (“FASB”) SFAS No. 109, Accounting for Income Taxes, income taxes are recorded based on current year amounts payable or refundable, as well as the consequences of events that give rise to deferred tax assets and liabilities. The Company bases its estimate of current and deferred taxes on the tax laws and rates that are currently in effect in the appropriate jurisdiction. Pursuant to SFAS No. 109, the Company has determined that the majority of the deferred tax asset at September 30, 2003 requires a valuation allowance.

     F.     Restructuring and other related charges. The Company recorded restructuring charges during the second quarter of 2001 using the authoritative guidance in Emerging Issues Task Force Issue No. 94-3 (“EITF No. 94-3”), Liability Recognition for Certain Employee Termination Benefits and Other Costs to Exit an Activity (including Certain Costs Incurred in a Restructuring). In June 2002, the FASB issued SFAS No. 146, Accounting for Costs Associated with Exit or Disposal Activities (“SFAS No. 146”). The provisions of SFAS No. 146 are effective for exit or disposal activities that are initiated after December 31, 2002, with earlier adoption encouraged. The Company adopted SFAS No. 146 effective January 1, 2003. SFAS No. 146 addresses financial accounting and reporting for costs associated with exit or disposal activities and nullifies EITF No. 94-3. Under SFAS No. 146, the liability for costs associated with exit or disposal activities is recognized and measured initially at fair value only when the liability is incurred, rather than at the date the Company committed to the exit plan. The adoption of SFAS No. 146 did not have a significant impact on the Company’s operating results or financial position.

     G.     Revenue. Revenue is recognized for sales of the OL1000 and SpinaLogic products at the time the product is delivered to and accepted by the patient, as verified by the patient signing a “Patient Agreement Form” accepting financial responsibility. If the sale of either product is to a commercial buyer, a purchase order is required, and the revenue is recognized at the time of shipment to the commercial buyer. The Company’s shipping terms are FOB shipping point.

     The amount of revenue recorded at the time of sale is based on contractual terms, or if the Company does not have a contract with the third-party payor, then the amount of revenue recorded is the pricing expected to be approved by the third-party payor, based on historical experience with that payor. The Company records differences, if any, between the net revenue amount recognized at the time of the sale and the ultimate pricing by the primary third-party payor as an adjustment to sales in the period the Company receives payments from the third-party payor or earlier if the Company becomes aware of circumstances that warrant a change in estimate.

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     The Hyalgan royalties were recorded in accordance with a Co-Promotion Agreement and a Termination Agreement the Company had with Hyalgan’s distributor. The agreements with Hyalgan’s distributor concluded in December 2002. The Company will receive no subsequent Hyalgan related revenues (see Note 4).

     H.     Warranties. The Company maintains a warranty reserve for the expected cost to replace or repair products and the “Technology You Can Trust” program for the OL1000 device beginning March 1, 2003. Warranty costs are recorded in cost of goods sold. The business does not offer price protection or rebates to any of its customers. Warranty reserves totaled approximately $30,000 and $97,000 at December 31, 2002 and September 30, 2003, respectively.

Reserve									Reserve
December 31,				Increase		Adjustments			September 30,
2002		Use of reserve		to the reserve		to the reserve			2003
	$30,000		—	$	99,400	$	(32,100	)	$	97,300

     I.     Research and development. Research and development represents both costs incurred internally for research and development activities, as well as costs incurred by the Company to fund the research activities with which the Company has contracted and certain milestone payments regarding the continued clinical testing of Chrysalin. All research and development costs are expensed when incurred.

     J.     Stock-based compensation. In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation - Transition and Disclosure (“SFAS No. 148”) which is effective for fiscal years ended after December 15, 2002. SFAS No. 148 amends SFAS No. 123 to provide alternative methods of transition to SFAS No. 123’s fair value method of accounting for stock-based employee compensation if a company elects to account for its equity awards under this method. SFAS No. 148 also amends the disclosure provisions of SFAS No. 123 and APB Opinion No. 28, Interim Financial Reporting, to require disclosure of the effects of an entity’s accounting policy with respect to stock-based employee compensation on reported net income and earnings per share in both annual and interim financial statements. The Company is currently evaluating the impact if it were to adopt the fair value method of accounting for stock-based employee compensation under all three methods.

     The Company has two stock-based employee compensation plans. The Company accounts for those plans under the recognition and measurement principles of APB Opinion No. 25, Accounting for Stock Issued to Employees, and related Interpretations. No stock-based employee compensation cost is reflected in net income, as all options granted under those plans had an exercise price equal to the market value of the underlying common stock on the date of grant. The following table (in thousands) presents pro forma disclosures required by SFAS No. 148 of net income and basic and diluted earnings per share as if stock-based employee compensation had been recognized during the three and nine months ended September 30, 2003 and 2002, as determined under the fair value method using the Black-Scholes pricing model.

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		Three months ended						Nine months ended
		September 30,						September 30,
		2003			2002			2003			2002
Estimated weighted-average fair value of options granted during the period:		None			None			$	1.74		$	2.58
Net income attributable to common stockholders:
	As reported	$	506		$	1,392		$	1,206		$	4,094
	Stock based compensation expense	$	(115	)	$	(171	)	$	(355	)	$	(526	)
	Pro forma	$	391		$	1,221		$	851		$	3,568
Basic net income per share:
	As reported	$	0.02		$	0.04		$	0.04		$	0.13
	Pro forma	$	0.01		$	0.04		$	0.03		$	0.11
Diluted net income per share:
	As reported	$	0.02		$	0.04		$	0.04		$	0.13
	Pro forma	$	0.01		$	0.04		$	0.03		$	0.11
Black Scholes model assumptions:
	Risk free interest rate		1.6	%		1.8	%		1.6	%		1.8	%
	Expected volatility		44	%		38	%		41	%		53	%
	Expected term	2.7 Years			2.7 Years			2.7 Years			2.7 Years
	Dividend yield		0	%		0	%		0	%		0	%

     The proposed sale qualifies as an accelerating event for the Company’s two stock-based compensation plans. See Note 2 for further discussion.

     J.     Income per common share. Income per common share is computed on the weighted average number of common or common and equivalent shares outstanding during each year. Basic earnings per share is computed as net income divided by the weighted average number of common shares outstanding during the period. Diluted earnings per share reflects the potential dilution that could occur from common shares issuable through stock options, warrants, and other convertible securities when the effect would be dilutive.

     K.     New Accounting Pronouncements. In November 2002, the FASB issued Interpretation No. 45 (“FIN 45”), Guarantor’s Accounting and Disclosure Requirements for Guarantees, including Indirect Guarantees of the Indebtedness of Others, which clarifies the requirements of SFAS No. 5, Accounting for Contingencies, relating to a guarantor’s accounting for and disclosures of certain guarantees issued. FIN 45 requires enhanced disclosures for certain guarantees. FIN 45 also requires certain guarantees that are issued or modified after December 31, 2002, to be initially recorded on the balance sheet at fair value. The application of FIN 45 did not have a material effect on the Company’s financial statements.

     In January 2003, the FASB issued Interpretation No. 46 (“FIN 46”), Consolidation of Variable Interest Entities, which clarifies the application of Accounting Research Bulletin No. 51, Consolidated Financial Statements, relating to consolidation of certain entities. First, FIN 46 will require identification of the Company’s participation in variable interest entities (“VIEs”), which are defined as entities with a level of invested equity that is not sufficient to fund future activities to permit it to operate on a stand alone basis. For entities identified as a VIE, FIN 46

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sets forth a model to evaluate potential consolidation based on an assessment of which party to the VIE (if any) bears a majority of the exposure to its expected losses, or stands to gain from a majority of its expected returns. Interpretation No. 46 applies to VIEs created or acquired after January 31, 2003. For VIEs existing at January 31, 2003, FIN 46, as amended by financial Statement Position No. 46-6, is effective for public companies for annual or interim periods beginning after December 15, 2003. The application of FIN 46 did not have a material effect on the Company’s financial statements.

     In April 2003, the FASB issued SFAS No. 149, Amendment of Statement No. 133 on Derivative Instruments and Hedging Activities (“SFAS No. 149”). SFAS No. 149 amended and refined certain characteristics of derivative instruments and hedges. The application of SFAS No. 149 did not have a material effect on the Company’s financial statements.

     In May 2003, the FASB issued a SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity (“SFAS No. 150”). SFAS No. 150 requires the classification of certain financial instruments, previously classified within the equity section of the balance sheet, to be included in liabilities. SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003 and June 15, 2003 for all other instruments. The application of SFAS No. 150 did not have a material effect on the Company’s financial statements.

2. ASSET SALE TO dj ORTHOPEDICS

     On October 9, 2003, the Company announced that it had entered into an Asset Purchase Agreement to sell the Bone Device Business assets (including the rights to produce and market the OL1000, OL1000 SC, SpinaLogic and OrthoFrame/Mayo) to dj Orthopedics. Pursuant to the Asset Purchase Agreement, OrthoLogic will sell substantially all of the assets of the Bone Device Business, including substantially all of the related machinery, equipment, inventory, work in process, licenses, customer lists, intellectual property, certain agreements and contracts to dj Orthopedics. dj Orthopedics will pay the Company $93.0 million in cash at closing and assume substantially all of the Bone Device Business trade payables and other current liabilities less payables in an amount approximately equal to the amount of retained Medicare receivables. Upon the closing of the asset sale the Company will assign and dj Orthopedics will assume and agree to perform those obligations outstanding on or arising after the closing date relating to the operation of the Bone Device Business (including various liabilities related to the Company’s employees).

     The $93.0 million purchase price is subject to certain adjustments. In particular, the purchase price may be adjusted downward on a dollar-for dollar basis if the closing date net working capital (as defined in the Asset Purchase Agreement) is less than $8.0 million. As of September 30, 2003, the net working capital, as so defined, was approximately $8.7 million. In addition, the purchase price may be adjusted downward by the amount by which Medicare accounts receivable excluded from the purchased assets exceeds the amount of trade payables retained. The net amount of the Medicare receivables was $1.1 million at September 30, 2003.

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     Of the $93.0 million the Company will receive in the sale, $7.5 million will be placed in an escrow account. The funds will be divided into two accounts: $7.0 million from which dj Orthopedics’ eligible indemnity and breach of contract claims, if any, may be paid and $0.5 million from which a portion of the agreed upon incentive stay bonuses will be paid by dj Orthopedics to former OrthoLogic executives on the first anniversary of the closing. The remaining funds in the $7.0 million escrow account, in excess of the amount of any pending claims, will be released to the Company on the second anniversary of the closing.

     The proposed transaction is considered an accelerating event for the Company’s stock-based compensation plans. Terminated employees’ unvested options will vest immediately upon the sale. The Company’s directors and employees who are retained will have 75% of their unvested options vest upon the sale, with the remainder vesting over a 12 month period or on their regular vesting period, whichever is earlier.

     The proposed sale did not meet the requirements of SFAS No. 144 at September 30, 2003 since shareholder approval is required. The shareholder vote on the sale is expected to be finalized on or about November 26, 2003. If finalized, the sale of the Bone Device Business will be accounted for as discontinued operations.

     If the sale of the Bone Device Business had occurred on September 30, 2003, net assets of approximately $9.4 million would be transferred to dj Orthopedics and a gain of approximately $71.1 million would have been recorded.

3. CPM DIVESTITURE AND RELATED GAINS

     CPM Divestiture and Change in Estimated Collectability of CPM receivables. In July 2001, the Company announced the sale of its CPM business to OrthoRehab, Inc. The Company received $12.0 million in cash, with the purchaser assuming approximately $2.0 million in liabilities in connection with the sale of certain CPM related assets that had been recorded in the Company’s financial statements at a carrying value of approximately $20.7 million. The Company recorded a $6.9 million charge to write down the CPM assets to their fair value less direct costs of selling the assets. Under the CPM Asset Purchase Agreement, the Company was eligible to receive up to an additional $2.5 million of cash if certain objectives were achieved by the purchaser of the CPM business.

     The parties settled litigation over the $2.5 million payment and other matters in April 2003. OrthoRehab, Inc. agreed to pay $1.2 million to settle the contingent payment due to OrthoLogic, and all outstanding claims between the two companies. Total cash payments of $477,000 were received during the second and third quarter of 2003, and are included in the “CPM divestiture and related charges” line item on the Consolidated Statement of Operations for the three and nine month periods ended September 30, 2003. The remaining $723,000 balance plus interest is scheduled to be paid over the next 30 months. Management has determined that it is appropriate to reflect income on the settlement as cash is received. The litigation is described in greater detail in Note 6.

     At December 31, 2001, the Company had collected $10.2 million of the remaining $10.8 million of the retained CPM receivables. During 2002, collection of these receivables was better than anticipated. Based on the improved collection trends, the Company revised its estimates

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and increased the estimated total collection of the retained CPM accounts receivable by $600,000 in the quarter ended March 31, 2002, which is included in the “CPM Divestiture and Related Charges” line item in the consolidated statement of operations.

     In connection with the sale of the CPM business, the Company notified approximately 331 of the Company’s 505 employees that their positions were being eliminated. The consolidated statement of operations for the year ended December 31, 2001 included a charge of approximately $3.3 million in the “CPM Divestiture and Related Charges” total for severance and related benefits. The Company also recorded additional exit charges of approximately $1.4 million for CPM commissions, write offs of prepaid rents, space build out costs relating to the purchaser’s sublease with the Company and other similar charges, and other CPM related prepaid expenses for which no future benefits were expected to be received by the Company. These additional exit costs were also included in the “CPM Divestiture and Related Charges” total in the 2001 statement of operations.

     A summary of the severance and other reserve balances at September 30, 2003 and December 31, 2002 are as follows (in thousands):

	Reserves		Cash			Reserves
	December 31, 2002		Paid			September 30, 2003
Severance	$	161	$	(161	)	$	—
Other exit costs		49		(49	)		—
Total non-recurring charges	$	210	$	(210	)	$	—

	Reserves		Cash			Reserves
	December 31, 2001		Paid			December 31, 2002
Severance	$	946	$	(785	)	$	161
Other exit costs		76		(27	)		49
Total non-recurring charges	$	1,022	$	(812	)	$	210

     Cash requirements for the severance and exit costs were funded from the Company’s current cash balances. Subsequent to the sale, the Company is no longer in the CPM business. Substantially all costs, expenses and impairment charges related to CPM exit activities were recorded prior to the end of the second quarter of 2001.

4. CO-PROMOTION AGREEMENT FOR HYALGAN

     In June 1997, the Company signed an exclusive Co-Promotion Agreement with Sanofi Synthelabo, Inc. (“Sanofi”) at a cost of $4.0 million, which provided the Company with the right to market the Hyalgan product to orthopedic surgeons in the United States. The Company capitalized the $4.0 million investment in the agreement.

     In the fourth quarter of 2000, the Company and Sanofi mutually agreed to terminate this Co-Promotion Agreement. The Termination Agreement stipulated that the Company would receive royalties of $5 for each unit of the Hyalgan product distributed by Sanofi during the two-year period from January 1, 2001 through December 31, 2002. During the nine month period

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ended September 30, 2002, the Company received $1.9 million in royalty payments. The royalty payments ended December 2002. All of the royalties and co-promotion fees received from Sanofi are included in the line item entitled “Royalties from co-promotion agreement” in the statement of operations.

5. LICENSING AGREEMENT FOR CHRYSALIN

     In January 1998, the Company acquired a minority equity investment (less than 10%) in a biotech firm, Chrysalis BioTechnology, Inc. (“Chrysalis”), for $750,000. As part of the transaction, the Company was awarded a worldwide exclusive option to license the orthopedic applications of Chrysalin, a patented 23-amino acid synthetic peptide that had shown promise in accelerating the healing process. The Company’s agreement with Chrysalis contains provisions for the Company to continue and expand its option to license Chrysalin contingent upon regulatory approvals, successful pre-clinical trials, and certain trials and milestone payments to Chrysalis by the Company.

     In January 1999, the Company exercised its option to license the United States development, marketing and distribution rights for Chrysalin for fracture indications. As part of the license agreement, and in conjunction with the Food and Drug Administration (“FDA”) authorization of an Investigational New Drug (“IND”) application to begin human clinical trials for fracture repair, OrthoLogic made a $500,000 milestone payment to Chrysalis in the fourth quarter of 1999. In January 2000, the Company began enrolling patients in the combined Phase 1/2 clinical trial for Chrysalin. In July 2000, the Company made a $2.0 million payment to Chrysalis and announced it was expanding its license agreement to include all Chrysalin orthopedic indications worldwide.

     In July 2001, the Company paid $1.0 million to Chrysalis to extend its worldwide license for Chrysalin to include the rights for orthopedic “soft tissue” indications including cartilage, tendon and ligament repair. The license agreement calls for the Company to pay certain additional milestone payments and royalty fees, based upon products developed and achievement of commercial services.

     In March 2002, the Company received authorization from the FDA to commence a Phase 1/2 clinical trial under an IND application for a spinal fusion indication and made a $500,000 milestone payment to Chrysalis for receiving this FDA authorization to begin the trial. The Company began enrolling patients during the fourth quarter of 2002. The clinical trial will include approximately 330 patients and will be performed at 15 to 20 centers in the United States. The purpose of the study is to evaluate the safety and preliminary efficacy of Chrysalin in combination with allograft. The patient enrollment process is expected to take approximately 18 to 24 months with a nine-month follow-up period.

     The Company completed a Phase 1/2 clinical trial utilizing Chrysalin for fresh fracture repair, and in July of 2002, announced that the FDA had authorized a Phase 3 trial for that indication. The trial will be performed at 25 to 30 clinical sites with approximately 500 patients. In addition, the Company is currently moving forward towards a potential IND application for a human clinical trial for Chrysalin for articular cartilage defect repair. There can be no assurance

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that any of these clinical trials will result in favorable data or that New Drug Application (“NDA”) approvals by the FDA, if sought, will be obtained.

     A payment of $250,000 was expensed in the quarter ended March 31, 2003 and is included in research and development and reflects a payment made to Chrysalis in anticipation of a potential IND filing with the FDA for a human clinical trial for a cartilage indication.

     At this stage of research, the Company is not yet able to apply for FDA approval to market Chrysalin. The process of obtaining necessary government approvals is time consuming and expensive. There can be no assurance that the necessary approvals for new products or applications will be obtained by the Company or, if they are obtained, that they will be obtained on a timely basis. Significant additional costs for the Company will be necessary to complete development of these products.

     OrthoLogic does not own the patents to Chrysalin. Chrysalin was developed by and patented by Chrysalis. Except for the $750,000 minority equity investment in Chrysalis, all payments made to Chrysalis have been expensed as research and development. The license agreement with Chrysalis calls for the Company to pay certain other additional milestone payments and royalty fees, based upon the product’s development and achievement of commercial introduction.

6. LITIGATION

     United States of America ex rel. David Barmak v. Sutter Corp., United States Orthopedic Corp., OrthoLogic Corp., et al., United States District Court, Southern District of New York, Civ Action No 95 Civ 7637. The complaint in this matter was filed in September 1997 under the Qui Tam provisions of the Federal False Claims Act and primarily relate to events occurring prior to the Company’s acquisition of Sutter Corporation. The allegations relate to the submission of claims for reimbursement for continuous passive motion exercisers to various federal health care programs. In June 2001, the U.S. Department of Justice and the Company entered into a settlement agreement and the government’s amended complaint was dismissed with prejudice. In October 2001, Plaintiff Barmak filed a second amended complaint, pursuing the claim independent of the U.S. Department of Justice, which was dismissed by the court in March 2002. In June 2002, Plaintiff Barmak filed his third amended complaint, which was dismissed with prejudice by the court on June 19, 2003.

     OrthoRehab, Inc. and OrthoMotion, Inc. v. OrthoLogic Corporation and OrthoLogic Canada, Ltd., Superior Court of the State of Delaware, County of New Castle, Case No. C.A. No. 01C-11-224 WCC. In November 2001, OrthoRehab, Inc., filed a complaint in connection with its acquisition of certain assets used in the Company’s CPM business in July 2001 alleging, among other things, that some of the assets purchased were overvalued and that the Company had breached its contract. The Company settled the dispute in April 2003. Under the terms of the settlement agreement, OrthoRehab, Inc. agreed to pay $1.2 million to settle all outstanding claims between the two companies. Cash payments totaling $477,000 were received during the second and third quarter and are included in the “CPM divestiture and related gains” line item on the Consolidated Statement of Operations in the period ended September 30, 2003. The remaining $723,000 balance plus interest is scheduled to be paid over the next 30 months.

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Management has determined that it is appropriate to reflect income on the settlement as cash is received.

     In addition to the matters disclosed above, the Company is involved in various other legal proceedings that arise in the ordinary course of business. In management’s opinion, the ultimate resolution of these other legal proceedings are not likely to have a material adverse effect on the financial position, results of operations or cash flows of the Company.

     The health care industry is subject to numerous laws and regulations of federal, state, and local governments. Compliance with these laws and regulations, specifically those relating to the Medicare and Medicaid programs, can be subject to government review and interpretations, as well as regulatory actions unknown and unasserted at this time. Recently, federal government activity has increased with respect to investigations and allegations concerning possible violations by health care providers of regulations, which could result in the imposition of significant fines and penalties, as well as significant repayments of previously billed and collected revenues from patient services. Management believes that the Company is in substantial compliance with current laws and regulations.

7. LINE OF CREDIT

     The Company has a $4.0 million accounts receivable revolving line of credit with a lending institution. The Company may borrow up to 75% of the eligible accounts receivable, as defined in the agreement. The interest rate is at the prime rate. Interest accruing on the outstanding balance and a monthly administration fee is due in arrears on the first day of each month. The line of credit was extended in 2002 and expires February 28, 2005. There are certain financial covenants and reporting requirements associated with the line of credit. Included in the financial covenants are (1) tangible net worth of not less than $30.0 million, (2) a quick ratio of not less than 2.0 to 1.0, (3) a debt to tangible net worth ratio of not less than 0.50 to 1.0, and (4) capital expenditures will not exceed more than $7.0 million dollars during any fiscal year. The Company has not utilized this line of credit. As of September 30, 2003, the Company was in compliance with all the financial covenants. The Proposed Sale of the Bone Device Business assets would require a change in the basis for the current line of credit agreement.

8. SEGMENT INFORMATION

     The Company operates as one segment. The various types of revenues and cost of goods sold are separately identified by product line in the Statement of Operations. Operating expenses were not directly allocated between the Company’s various lines of business.

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

     When used in this report, the terms “OrthoLogic,” “we,” “our,” or “us” refer to OrthoLogic Corp. or OrthoLogic Corp. and its subsidiaries, as appropriate in the context.

     The following is management’s discussion of significant factors that affected OrthoLogic’s interim financial condition and results of operations. This should be read in

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conjunction with our Management’s Discussion and Analysis of Financial Condition and Results of Operations included in our Annual Report on Form 10-K for the year ending December 31, 2002 and the “Special Note Regarding Forward Looking Statements” below following Item 4.

     On October 9, 2003, we announced that we had signed a definitive agreement to sell substantially all the assets of our Bone Device Business to dj Orthopedics, LLC for $93.0 million and the assumption of some liabilities. Completion of the transaction is subject to a number of conditions, including approval by our stockholders, normal governmental approvals, and customary closing conditions. We have scheduled a stockholders’ meeting on November 26, 2003 to approve the sale. If the sale is consummated, our balance sheet will reflect the sale of the Bone Device Business assets and associated liabilities. In addition, our liquidity will increase with the infusion of the cash purchase price in the short term, but will decrease in the long run because we will be selling our revenue generating operations. Our October 27, 2003 proxy statement describes in greater detail the terms of the sale and the effect the sale will have on our financial statements and condition on a pro forma basis. Copies of the proxy statement we delivered to shareholders can be viewed on the Securities and Exchange Commission website via EDGAR at www.sec.gov.

Overview of Our Products and Other Product Development

     OrthoLogic develops, manufactures and markets proprietary, technologically advanced orthopedic products designed to promote the healing of musculoskeletal bone and tissue, with particular emphasis on fracture healing and spinal repair. Our products are designed to enhance the healing of diseased, damaged, degenerated or recently repaired musculoskeletal tissue. Our products focus on improving the clinical outcomes and cost-effectiveness of orthopedic procedures that are characterized by compromised healing, high-cost, potential for complication and long recuperation time.

     In 1999, we exercised our option to license the United States development, marketing, and distribution rights for the fracture indications for Chrysalin, a new tissue repair synthetic peptide. In 2000, we exercised our option to license Chrysalin for all orthopedic applications worldwide. Since that time, our research and development efforts have focused primarily on our Chrysalin product development program. We currently have three potential Chrysalin products either in human clinical trials or in late-stage pre-clinical development.

     Products

     Our Bone Device Business product line, which comprises all of our current products, includes bone growth stimulation and fracture fixation devices.

     Bone Growth Stimulation Products. The OL1000™ is a U.S. Food and Drug Administration (“FDA”) approved portable, noninvasive, physician-prescribed, electromagnetic bone growth stimulator designed for patients with nonunion fractures. The OL1000 comprises two magnetic field treatment transducers (coils) and a microprocessor-controlled signal generator that delivers a highly specific, low energy signal to the injured area. The device is attached to the patient’s arm, leg or other area where there is a nonunion fracture. The OL1000 then evenly distributes a magnetic field over the patient’s injured area.

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     The patient wears the device for 30 minutes each day. We believe the reduced treatment time leads to increased patient compliance with treatment protocol. In addition, the micro-controller tracks the patient’s daily treatment compliance.

     The OL1000 is used for the noninvasive treatment of an established nonunion fracture acquired secondary to trauma, excluding vertebrae and all flat bones. A nonunion fracture is considered to be established when the fracture site shows no visibly progressive signs of healing.

     The OL1000 SC^™ is an FDA approved single coil device for the same indication, which utilizes the same combined magnetic field as the OL1000, is available in three sizes and is designed to be more comfortable for patients with certain types of fractures.

     SpinaLogic^® is a portable, noninvasive, electromagnetic bone growth stimulator, which enhances the healing process as an adjunct to spinal fusion surgery. SpinaLogic offers benefits similar to those of the OL1000 in that it is relatively easy to use, requires a small power supply and requires only 30 minutes of treatment per day. The patient attaches the device to the lumbar injury location where it provides localized magnetic field treatment to the fusion site. Like the OL1000, the SpinaLogic device contains a micro-controller that tracks the patient’s daily treatment compliance and can easily be checked by the surgeon upon follow-up visits. SpinaLogic is approved by the FDA as an adjunct treatment for primary lumbar spinal fusions for one or two levels. It is designed for single patient use and is programmed for 270 consecutive, 30-minute daily treatments.

     Our OL1000 product line is sold primarily through our direct sales force supplemented by regional distributors. Our SpinaLogic product line is sold exclusively through a worldwide spine product distributor.

     Fracture Fixation Devices. We began to manufacture and distribute the OrthoFrame^®/Mayo^® line of external fixation products in 1993. The OrthoFrame/Mayo product is an external fixation device used in conjunction with surgical procedures. It is low profile, lightweight, and primarily sold to hospitals. We temporarily ceased manufacturing this product in 2000 to improve the product packaging, and began its relaunch in the fourth quarter of 2002.

     Products In Research

     In addition to our Bone Device Business products, we are developing a Chrysalin-based product platform. In January 1998, we made a minority equity investment (less than 10%) in a biotech firm, Chrysalis BioTechnology, Inc. (“Chrysalis”), and acquired, as part of that investment, an option to license a unique synthetic peptide called TP508, or Chrysalin. Chrysalin is a 23-amino acid synthetic peptide representing a fragment of the human thrombin molecule. Thrombin has been shown to be involved in the healing process for both soft tissue and bone. By mimicking specific attributes of the thrombin molecule, Chrysalin stimulates the body’s natural healing processes, resulting in accelerated tissue repair.

     During 2001 we completed a Phase 1/2 human clinical trial utilizing Chrysalin for fracture repair to test the safety and preliminary efficacy of Chrysalin. In July 2002, we received authorization to begin a Phase 3 human clinical trial under an Investigational New Drug

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application from the U.S. Food and Drug Administration (“FDA”). The trial will be performed at 25 to 30 clinical sites and will include approximately 500 patients.

     In March 2002, we received authorization from the FDA to commence a Phase 1/2 clinical trial for a spinal fusion indication for Chrysalin. We began enrolling patients during the fourth quarter of 2002. The clinical trial will include approximately 330 patients and will be performed at 15 to 20 centers in the United States. The purpose of the study is to evaluate the safety and preliminary efficacy of Chrysalin in combination with allograft bone (donor bone graft). The patient enrollment process is expected to take approximately 18 to 24 months with a nine-month follow-up period. We also hope to begin a human clinical trial for Chrysalin for articular cartilage defect repair in 2004.

     We have not yet applied for FDA approval to market Chrysalin and there is no assurance that we will do so or that we would receive such approval if sought.

     OrthoLogic does not own the patents to Chrysalin. Chrysalin was developed by and patented by Chrysalis BioTechnology, Inc., a company in which we hold a minority equity interest. We obtained the worldwide rights to use Chrysalin for all orthopedic indications through a series of licensing agreements with Chrysalis BioTechnology, Inc.

     Discontinued or divested products

     In July 2001, we sold our continuous passive motion (“CPM”) business. CPM devices provide controlled, continuous movement to joints and limbs and are designed to reduce swelling, increase joint range of motion, reduce the length of hospital stay and reduce the incidence of post-trauma and post-surgical complications.

     In October 2000, we discontinued distributing Hyalgan^® (sodium hyaluronate), a therapeutic injectable for relief of pain from osteoarthritis of the knee. We received royalties from Hyalgan’s distributor through December 2002. Hyalgan revenues were 6.2% of the Company’s total revenues in the nine months ended September 30, 2002. There will be no subsequent royalties.

Critical Accounting Policies and Estimates

     Use of estimates. The preparation of the financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from these estimates. Significant estimates include the allowance for doubtful accounts (approximately $3.0 million at September 30, 2003 and $3.1 million at December 31, 2002), which is based primarily on trends in historical collection rates, consideration of current events, payor mix and other considerations. We derive a significant amount of our revenues in the United States from third-party payors, including Medicare and certain commercial insurance carriers, health maintenance organizations, and preferred provider organizations. Amounts paid under these plans are generally based on fixed or allowable reimbursement rates. Revenues are recorded at the expected or pre-authorized reimbursement rates when earned and include unbilled receivables of $611,000 and $860,000 on September 30, 2003 and December 31, 2002,

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respectively. The decrease in the unbilled receivables from December 31, 2002 to September 30, 2003 was primarily the result of changes to our billing processes made in 2002. Billings are subject to review by third party payors and may be subject to adjustments. Any differences between estimated reimbursement and final determinations are reflected in the period finalized. In the opinion of management, adequate allowances have been provided for doubtful accounts and contractual adjustments.

     Allowance for Doubtful Accounts. The allowance for doubtful accounts (approximately $3.0 million at September 30, 2003 and $3.1 million at December 31, 2002) is based primarily on trends in historical collection rates, consideration of current events, payor mix and other considerations. On a quarterly basis, we evaluate historical collection trends and tracks the percent of billings that are typically received by the first month after billing, the second month, etc. This quarterly analysis of collections allows us to develop trends and expectations for collection rates based on product, payor category and date of billing. If we identify any change in the collection rate or anticipate that future trends will not correspond to previous collection experience, the reserve is adjusted to correspond with the expected change. We derive a significant amount of our revenues in the United States from third-party payors, including Medicare and certain commercial insurance carriers, health maintenance organizations, and preferred provider organizations. Amounts paid under these plans are generally based on fixed or allowable reimbursement rates. Accounts receivable are recorded at the expected or pre-authorized reimbursement rates. Billings are subject to review by third-party payors and may be subject to adjustments. Any differences between estimated reimbursement and final determinations are reflected in the period finalized. In the opinion of management, adequate allowances have been provided for doubtful accounts, contractual adjustments and inventory reserves. If the financial condition of the third-party payors were to deteriorate, resulting in an inability to make payments, or the other considerations underlying the estimates were to change, additional allowances might be necessary.

     Revenue recognition. Revenue is recognized for sales of the OL1000 and SpinaLogic products at the time the product is delivered to and accepted by the patient, as verified by the patient signing a “Patient Agreement Form” accepting financial responsibility. If the sale of either product is to a commercial buyer, a purchase order is required, and the revenue is recognized at the time of shipment to the commercial buyer. Our shipping terms are FOB shipping point. The amount of revenue recorded at the time of sale, net of sales discounts and contractual adjustments, is based on contractual terms. If we do not have a contract with the third-party payor then the amount of revenue recorded is the pricing expected to be approved by the third-party payor based on historical experience with that payor. We record differences, if any, between the net revenue amount recognized at the time of the sale and the ultimate pricing by the primary third-party payor as an adjustment to sales in the period we receive payments from the third-party payor or earlier if we become aware of circumstances that warrant a change in estimate. In the opinion of management, adequate allowances have been provided for sales discounts and contractual adjustments.

     We recognized royalties from the Co-Promotion Agreement of Hyalgan, based on a flat royalty fee of $5 for each unit distributed by Hyalgan’s distributor between January 1, 2001 and December 31, 2002, in accordance with the termination agreement with Hyalgan’s distributor.

     Inventory Valuation. We write down our inventory for inventory shrinkage and obsolescence. Inventory is written down to estimated market value based on a number of

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assumptions, including future demand and market conditions. We maintain a reserve for inventory shrinkage and obsolescence of $814,000 and $687,000 on September 30, 2003 and December 31, 2002, respectively. If actual conditions used in determining these valuations change, future additional inventory write-downs would be necessary.

     Income Taxes. Under Financial Accounting Standards Board (“FASB”) Statement of Financial Accounting Standards (“SFAS”) No. 109, “Accounting for Income Taxes,” income taxes are recorded based on current year amounts payable or refundable, as well as the consequences of events that give rise to deferred tax assets and liabilities. We base our estimate of current and deferred taxes on the tax laws and rates that are currently in effect in the appropriate jurisdiction. Changes in tax laws or rates may affect the current amounts payable or refundable as well as the amount of deferred tax assets or liabilities.

     SFAS No. 109 requires that a valuation allowance be established when it is more likely than not that all or a portion of a deferred tax asset will not be realized. Changes in valuation allowances from period to period are included in our tax provision in the period of change. In determining whether a valuation allowance is required, we take into account all evidence with regard to the utilization of a deferred tax asset including our past earnings history, expected future earnings, the character and jurisdiction of such earnings, unsettled circumstances that, if unfavorably resolved, would adversely affect utilization of a deferred tax asset, carry-back and carry-forward periods, and tax strategies that could potentially enhance the likelihood of realization of a deferred tax asset.

     We have accumulated approximately $65.7 million in federal and state net operating loss carryforwards (“NOLs”) and approximately $800,000 of general business and alternative minimum tax credit carryforwards. Our management has evaluated the available evidence about future taxable income and other possible sources of realization of deferred tax assets and has established a valuation allowance of approximately $32.0 million at September 30, 2003. The valuation allowance reduces deferred tax assets to an amount that management believes will more likely than not be realized. We believe that the net deferred tax asset of $2.6 million at September 30, 2003, will be realized based primarily on our historical and projected future earnings. However the amount of the deferred tax assets actually realized could differ if we have little or no future earnings. In the event we determine we are unable to realize deferred tax assets in the future, an adjustment to the deferred tax asset and charge to income would be necessary in the period such a determination is made. Conversely, in the event we determine we are able to realize deferred tax assets in the future, an adjustment to the valuation allowance and an income tax benefit would be necessary in the period such as determination is made. If the sale of the Bone Device Business assets to dj Orthopedics, LLC is consummated on its current terms, our management believes we will be able to apply our approximately $65.7 million tax loss carry-forward to offset the majority of the taxable gain from the sale.

     Investment in Chrysalis. We own a minority ownership interest in Chrysalis BioTechnology, Inc., which is recorded at cost. Chrysalis is not publicly traded so it is difficult to determine the value of the investment. However, we do not believe the value of our investment has been impaired. Should sometime in the future the investment be determined to be permanently impaired, a charge to income would be recorded in the period such a determination is made.

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     Lease Cost. We lease our headquarters facility in Tempe, Arizona under an operating lease arrangement. This lease has an expiration date of November 2007. As a result of the sale of our CPM business during 2001, we occupy approximately 50% of all the available lease space. We subleased the unused space to the purchaser of the CPM business. The sublease expired in 2002. We subsequently entered into a sublease agreement for approximately 17% of the building with a different subtenant through June 2005. While we believe the facility is well maintained and adequate for use in the foreseeable future, there can be no guarantee that a different lessee will assume the remaining lease obligation. We recorded a charge of $400,000 in the quarter ended September 30, 2002 and a charge of $362,000 in the quarter ended September 30, 2003, to establish a reserve for the period the available sublease space was anticipated to be vacant. In addition, the terms of the proposed sale of the Bone Device Business assets provides for dj Orthopedics, LLC to lease office space for one year. In the opinion of management, the reserve balance of $418,000 at September 30, 2003 is adequate to allow for time necessary to acquire an additional tenant for the building.

Results of Operations Comparing Three-Month Period Ended September 30, 2003 to the Corresponding Period in 2002.

     Revenues. Our total revenues increased 16.2% from $10.8 million in the third quarter of 2002 to $12.5 million in the third quarter of 2003. Revenues for the third quarter of 2002 included Hyalgan royalty payments from the termination of the Co-Promotion Agreement of $501,000. The Hyalgan royalty payments ended December 31, 2002. Sales recorded for the bone growth stimulation products, the OL1000 and SpinaLogic, increased by 21.8% in the third quarter of 2003 as compared to the same period in 2002. We believe the significant increase in bone growth stimulation sales signifies an expansion in the market and growth in market share for both the OL1000 and SpinaLogic products.

     Gross Profit. Gross profit for the three month period ended September 30, increased from $8.9 million in 2002 to $10.6 million in 2003. Gross profit, as a percent of revenue, was 84.6% for the quarter ended September 30, 2003. Gross profit for the same period in 2002 was 82.7%. Gross profit as a percent of the bone growth stimulation sales increased over the period due to improved pricing on material costs.

     Selling, General and Administrative (“SG&A”) Expenses. SG&A expenses increased 9.0% from $7.2 million in the three month period ended September 30, 2002 to $7.8 million in the same period in 2003. SG&A expenses, as a percentage of total revenues, were 62.5% in the three month period ended September 30, 2003 and 66.6% in the same period in 2002. The decrease in SG&A expenses as a percentage of total revenues was a result of the stabilization in fixed administrative cost for the Bone Device Business. While revenues and variable expenses are increasing, fixed costs such as salaries and administrative expenses, have remained constant.

     Research and Development Expenses. Research and development expenses were $2.5 million in the three month period ended September 30, 2003, compared to $722,000 for the same period in 2002. Research and development expenses in the quarter ended September 30, 2003 are for the overall Chrysalin development program, which include pre-clinical studies in cartilage and continuation of the Phase 1/2 human clinical trial under an investigational new drug application (“IND”) for spinal fusion and the Phase 3 human clinical trial under an IND for

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fracture repair. The increase in research and development expenses is directly related to the Chrysalin clinical trials. We anticipate the research and development expenses to increase by $2 to $3 million per quarter as patient enrollment continues for the clinical trials.

     Other Income. Other income consisting primarily of interest income, decreased from $169,000 in the three month period ended September 30, 2002 to $125,000 for the same period in 2003. The decrease is the result of declining interest rate returns on the investment portfolio.

     Net Income. We had a net income in the three month period ended September 30, 2003 of $506,000 compared to a net income of $1.4 million in the same period in 2002.

Results of Operations Comparing Nine-Month Period Ended September 30, 2003 to the Corresponding Period in 2002.

     Revenues. Our total revenues increased 13.9% from $30.1 million in the first nine month period ended September 30, 2002 to $34.3 million in the first nine month period ended September 30, 2003. Revenues for the first nine months of 2002 included Hyalgan royalty payments from the termination of the Co-Promotion Agreement of $1.9 million. The Hyalgan royalty payments ended December 31, 2002. Sales recorded for the bone growth stimulation products, the OL1000 and SpinaLogic, increased by 21.4% in the first nine months of 2003 as compared to the same period in 2002. We believe the significant increase in bone growth stimulation sales signifies an expansion in the market and growth in market share for both the OL1000 and SpinaLogic products.

     Gross Profit. Gross profit for the nine months ended September 30, increased from $25.5 million in 2002 to $29.2 million in 2003. Gross profit, as a percent of revenue, was 85.2% for the nine months ending September 30, 2003. Gross profit for the same period in 2002 was 84.6%. Gross profit as a percent of the bone growth stimulation sales increased over the period due to improved pricing on material costs.

     Selling, General and Administrative (“SG&A”) Expenses. SG&A expenses increased 9.6% from $20.5 million in the nine month period ended September 30, 2002 to $22.5 million in the same period in 2003. SG&A expenses, as a percentage of total revenues, were 65.7% in the nine month period ended September 30, 2003 and 68.2% in the same period in 2002. The decrease in SG&A expenses as a percentage of total revenues was a result of the stabilization in fixed administrative costs for the Bone Device Business. While revenues and variable expenses are increasing, fixed costs such as salaries and other administrative expenses, have remained constant.

     Research and Development Expenses. Research and development expenses were $6.3 million in the nine month period ended September 30, 2003, compared to $2.4 million for the same period in 2002. The research and development costs for the nine month period ended September 30, 2003 included a $250,000 milestone payment made to Chrysalis BioTechnology, Inc. in anticipation of a potential IND filing with the FDA for a human clinical trial for cartilage defect repair. Research and development expenses in the nine month period ended September 30, 2003 are for the overall Chrysalin development program, which include pre-clinical studies in cartilage and continuation of the Phase 1/2 human clinical trial under an IND for spinal fusion and the Phase 3 human clinical trial under an IND for fracture repair. The increase in research

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and development expenses is directly related to the Chrysalin clinical trials. We anticipate the research and development expenses to increase over the next several quarters as patient enrollment occurs for the clinical trials.

     Other Income. Other income consisting primarily of interest income, decreased from $537,000 in the nine month period ended September 30, 2002 to $387,000 for the same period in 2003. The decrease is the result of declining interest rate returns on the investment portfolio.

     Net Income. We had a net income in the nine month period ended September 30, 2003 of $1.2 million compared to a net income of $4.1 million in the same period in 2002.

Liquidity and Capital Resources

     On September 30, 2003, we had cash and cash equivalents of $12.3 million compared to $11.3 million as of December 31, 2002. We also had $22.2 million of short-term investments as of September 30, 2003 compared to $18.7 million at December 31, 2002. The total of both cash and cash equivalents and short-term investments increased to $34.5 million at September 30, 2003 compared to $29.9 million as of December 31, 2002. We also had long-term investments of $5.0 million, as of September 30, 2003, mostly consisting of government-backed securities with maturities of fewer than 18 months, compared to long-term investments of $5.7 million as of December 31, 2002.

     The total of cash and cash equivalents, short-term investments, and long-term investments increased to $39.5 million at September 30, 2003 compared to $35.6 million at December 31, 2002. The most important factors in the increase in total cash and investments were a decrease in accounts receivable ($162,000), proceeds from stock options exercised ($677,000), an increase in accrued liabilities ($865,000) and an increase in accounts payable ($511,000) during the nine months ended September 30, 2003.

     In addition, we have a $4.0 million accounts receivable revolving line of credit with a bank. We may borrow up to 75% of the eligible accounts receivable, as defined in the agreement. The interest rate is at the prime rate. Interest accruing on the outstanding balance and a monthly administration fee is due in arrears on the first day of each month. The line of credit expires February 28, 2005. There are certain financial covenants and reporting requirements associated with the line of credit. Included in the financial covenants are (1) tangible net worth of not less than $30.0 million, (2) a quick ratio of not less than 2.0 to 1.0, (3) a debt to tangible net worth ratio of not less than 0.50 to 1.0, and (4) capital expenditures will not exceed more than $7.0 million dollars during any fiscal year. We have not utilized this line of credit. As of September 30, 2003, we were in compliance with all the financial covenants. The proposed sale of the Bone Device Business assets would require a change in the basis for the current line of credit agreement.

     Net cash provided by operations during the nine month periods ended September 30, 2003 and September 2002 was $3.4 million for both periods. The primary reason why there was no change in net cash provided by operations was because the decline in net income ($2.9 million) and a decline in cash generated by a smaller decrease in accounts receivable ($826,000) was offset by other factors. These other factors were (1) a decline in inventories in the nine month period ended September 30, 2003 ($284,000) compared to an increase in inventory in the

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period ended September 30, 2002 ($1.3 million) and (2) an increase in accrued liabilities in the nine month period ended September 30, 2003 ($865,000) compared to a decline in accrued liabilities for the same period in 2002 ($1.2 million). The change in inventories was primarily due to the increased inventories in 2002 associated with the re-launch of the fracture fixation device. The change in accrued liabilities was due primarily to the timing of payments of standard expenses and non-recurring payments in 2002 for severance and other residual exit costs related to the CPM divestiture.

     We do not expect to make significant capital investments in 2003 and anticipate that our cash and short term investments on hand, cash from operations and the funds available from our $4.0 million line of credit will be sufficient to meet our presently projected cash and working capital requirements for the next 12 months. The amount of cash we use in the next 12 months will depend on a number of factors, including our ability to continue to increase revenues while reducing or controlling our expenditures, continued profitability, stable research and development funding needs for our bone growth stimulation products, predictable research and development funding needs for our Chrysalin product platform and stability in the collection amounts due from third-party payors. Additional funds may be required if we are not successful in any of these areas. Our ability to continue funding our planned operations beyond the next 12 months is dependent on our ability to generate sufficient cash flow to meet our obligations on a timely basis, or to obtain additional funds through equity or debt financing, as may be required.

     In addition, the amount of cash we use in the next 12 months may change dramatically if the sale of the Bone Device Business assets is consummated. If the sale is consummated, we will have increased our liquidity by an infusion of approximately $80.5 million (reflecting the sale price of $93.0 million net of the $7.5 million placed in escrow and the estimated direct cost of the transaction of $5.0 million), which will allow us to pursue our plan to significantly increase funding of our Chrysalin product platform research and development efforts. If the sale is not consummated, we will proceed on our current spending schedule while exploring other options.

     In March 2003, we announced that our Board of Directors authorized a repurchase of up to one million of our outstanding shares over the subsequent 12 months. The repurchased shares will be held as treasury shares to reduce the dilution from our stock option plans. No shares were repurchased as of September 30, 2003 under this plan. The repurchase period will end March 6, 2004. Previously, we had repurchased 41,800 shares at a cost, net of fees, of $137,300 or an average price of $3.28 per share.

     The following table sets forth all known commitments as of September 30, 2003 and the year in which these commitments become due, or are expected to be settled (in thousands):

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			Accounts Payable
Year	Operating Leases		and Accrued Liabilities		Total
2003	$	270	$	6,265	$	6,535
2004	$	1,078		—	$	1,078
2005	$	1,078		—	$	1,078
2006	$	1,078		—	$	1,078
Thereafter	$	989		—	$	989
Total	$	4,493	$	6,265	$	10,758

Item 3. Quantitative and Qualitative Disclosures about Market Risk

     We have no debt outstanding and no derivative instruments at September 30, 2003.

     Our Canadian operations were sold as part of the CPM asset sale, and consequently we have no exposure to foreign currency exchange rate risks at September 30, 2003.

Item 4. Controls and Procedures

     We maintain disclosure controls and procedures designed to ensure that the information we must disclose in our filings with the Securities and Exchange Commission is recorded, processed, summarized and reported on a timely basis. Our Chief Executive Officer and Chief Financial Officer have reviewed and evaluated our disclosure controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”) as of the end of the period covered by this report (the “Evaluation Date”). Based on such evaluation, such officers have concluded that, as of the Evaluation date, our disclosure controls and procedures are effective in bringing to their attention on a timely basis material information relating to us required to be included in our periodic filings under the Exchange Act.

     There have not been any changes in our internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) that occurred during our most recent fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

     We may from time to time make written or oral forward-looking statements, including statements contained in our filings with the Securities and Exchange Commission and its reports to stockholders. This report contains forward-looking statements made pursuant to the “safe harbor” provisions of the Private Securities Litigation Reform Act of 1995. In connection with these “safe harbor” provisions, we identify important factors that could cause actual results to differ materially from those contained in any forward-looking statements made by or on our behalf. Any such forward-looking statement is qualified by reference to the following cautionary statements.

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Risks if Asset Sale is Not Approved

     If the asset sale is not approved, OrthoLogic will continue to operate the bone growth stimulation device business unless and until it is able to negotiate another transaction that the Board of Directors believes is acceptable to the stockholders and to OrthoLogic. As discussed in our proxy statement, the Board of Directors believes that we will need additional funding to properly continue the development of our Chrysalin product platform while still making the necessary investments in the bone growth stimulation device business to maintain our historical growth rates and profitability. To the extent that we do not obtain needed capital through the proposed sale, we will have to obtain it through the issuance of additional debt or equity, by entering into a joint venture pursuant to which we share our rights to the Chrysalin product platform, or through other means, any one of which may reduce the value to us, perhaps substantially, of any commercialization of Chrysalin products. There is no guarantee that we would be able to obtain such funding on terms acceptable to us or at all.

Risks if the Asset Sale is Approved

The sale might not be consummated even though the stockholders approve the sale.

     Stockholder approval is only one of the closing conditions. If the remaining closing conditions are not satisfied or waived, the sale might not be consummated, even if the stockholders approve the sale.

By completing the asset sale, we will become less diversified.

     By selling our bone growth stimulation device business assets, we will be selling our only business that is generating revenue. We will become a pure drug research and development company focused on the development of the Chrysalin product platform. We may invest in other orthobiologic or complementary technology in the future, but we have no current specific plans to do so at this time. This would increase our business risk because we will be less diversified than before the proposed sale and because our remaining business is in the relatively high-risk, but potentially high reward, field of orthobiologic pharmaceutical development.

After the sale, we will become a pure drug research and development company in a highly regulated field with high investment costs and high risks.

     After the sale, we will be a drug research and development company. We currently have no pharmaceutical products being sold or ready for sale and do not expect to be able to introduce any pharmaceutical products for at least several years. Our Chrysalin product platform is still in the human testing phase for two potential products. The U.S. Food and Drug Administration (“FDA”) and comparable agencies in many foreign countries impose substantial limitations on the introduction of new pharmaceuticals through costly and time-consuming laboratory and clinical testing and other procedures. The process of obtaining FDA and other required regulatory approvals is lengthy, expensive and uncertain. Chrysalin, as a new drug, is subject to the most stringent level of FDA review.

     Even after we have invested substantial funds in the development of our three Chrysalin products and even if the results of our current clinical trials are favorable, there can be no

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guarantee that the FDA will grant approval of Chrysalin for the indicated uses or that it will do so in a timely manner.

     If we successfully bring one or more products to market, there is no assurance that we will be able to successfully manufacture or market the products or that potential customers will buy them if, for example, a competitive product has greater efficacy or is deemed more cost effective. In addition, the market in which we will sell any such products is dominated by a number of large corporations that have vastly greater resources than we have, which may impact our ability to successfully market our products or maintain any technological advantage we might develop. We also would be subject to changes in regulations governing the manufacture and marketing of our products, which could increase our costs, reduce any competitive advantage we may have and/or adversely affect our marketing effectiveness.

Risks Related to Our Industry

We are in a highly regulated field and we must obtain government approval before selling any new products.

     The Federal Drug Administration and comparable agencies in many foreign countries and in state and local governments impose substantial limitations on the introduction of medical devices through costly and time-consuming laboratory and clinical testing and other procedures. The process of obtaining FDA and other required regulatory approvals is lengthy, expensive and uncertain. Moreover, regulatory approvals, if granted, typically include significant limitations on the indicated uses for which a product may be marketed. In addition, approved products may be subject to additional testing and surveillance programs required by regulatory agencies, and product approvals could be withdrawn and labeling restrictions may be imposed for failure to comply with regulatory standards or upon the occurrence of unforeseen problems following initial marketing.

     Our current and future products and manufacturing activities are and will be regulated under the Medical Devices Amendment Act of 1976 to the Federal Food, Drug and Cosmetics Act, as amended, the Safe Medical Devices acts of 1990 and 1992, and the Food and Drug Administration Modernization Act of 1997, as amended, (collectively the “FDC Act”). Our current BioLogic technology-based products and fracture fixation devices are marketed for their current uses with clearance from the FDA. Before we are able to market these products for any other use, we would have to seek the approval of the FDA, which may require lengthy and costly testing and review by the FDA. In addition, the FDA may, if it believes our products have problems unforeseen at the time of the initial approval, require additional testing to retain FDA approval.

     Chrysalin, as a new drug, is subject to the most stringent level of FDA review. We have received authorization to begin human clinical trials for fracture repair and spinal fusion indications and are currently seeking approval to conduct human testing for articular cartilage repair. Even if the results of the current clinical trials are favorable, there can be no guarantee that the FDA will grant approval of Chrysalin for the indicated uses or if it will do so in a timely manner. In addition, changes in existing regulations or interpretations of existing regulations or adoption of new or additional restrictive regulations could prevent or delay obtaining regulatory approvals.

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We must adhere to current and evolving regulatory compliance standards in order to maintain the approval to sell its products.

     We are also required to adhere to applicable requirements for FDA Good Manufacturing Practices/Quality System Regulation, to engage in extensive record keeping and reporting and to make available our manufacturing facilities for periodic inspections by governmental agencies, including the FDA and comparable agencies in other countries. Failure to comply with these and other applicable regulatory requirements could result in, among other things, significant fines, suspension of approvals, seizures or recalls of products, or operating restrictions and criminal prosecutions. From time to time, we may receive letters from the FDA regarding regulatory compliance. We have responded to all such letters and believe all issues raised in such letters have been resolved.

     If we experience a delay in receiving or fail to obtain any governmental approval for any of our current or future products or fail to comply with any regulatory requirements, our business, financial condition and results of operations could be materially adversely affected.

Any limitations on third party payment reimbursement for our products and related services would adversely affect the business and results of operations.

     Our ability to sell products successfully in the United States and in other countries will depend in part on the extent to which government health administration authorities, private health insurers and other payors continue to reimburse insureds for the cost of products and related treatment. Cost control measures adopted by third party payors in recent years have had and may continue to have a significant effect on the purchasing and practice patterns of many health care providers, generally causing them to be more selective in the purchase of medical products. In addition, payors are increasingly challenging the prices and clinical efficacy of medical products and services. Payors may deny reimbursement if they determine that the product used in a procedure was experimental, was used for a non-approved indication or was unnecessary, inappropriate, not cost-effective, unsafe, or ineffective.

     Our products are reimbursed by most payors and recent governmental regulations have favorably made our products available to patients earlier in their medical treatment, however, there are generally specific product usage requirements or documentation requirements in order for us to receive reimbursement. In certain circumstances, we are successful in appealing reimbursement coverage for those applications which do not comply with the payor requirements. Significant uncertainty exists as to the reimbursement status of newly approved health care products, and there can be no assurance that adequate third party coverage will continue to be available to us at current levels.

We operate in an intensely competitive field in which many of its competitors are bigger or better known.

     The orthopedic industry is characterized by intense competition. Currently, we have three major competitors selling bone growth stimulation products approved by the FDA for the treatment of nonunion fractures, which include Electro-Biology (EBI), a subsidiary of Biomet, Inc., Orthofix International N.V., and Exogen, Inc., a subsidiary of Smith & Nephew. There are

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two competitors, EBI and Orthofix, selling bone growth stimulation products for use with spinal fusion patients. We estimate that one of our competitors has a dominant share of the market for bone growth stimulation products for non-healing fractures in the United States, and another has a dominant share of the market for use of their device as an adjunct to spinal fusion surgery. In addition, several large, well-established companies sell fracture fixation devices similar in function to those sold by us.

     Many participants in the medical technology industry, including our competitors, have substantially greater capital resources, research and development staffs and facilities than us. Such participants have developed or are developing products that may be competitive with the products that have been or are being developed or researched by us. Other companies are developing a variety of other products and technologies to be used in the treatment of fractures and spinal fusions, including growth factors, bone graft substitutes combined with growth factors, and non-thermal ultrasound.

     Many of our competitors have substantially greater experience than us in conducting research and development, obtaining regulatory approvals, manufacturing, and marketing and selling medical devices. Any failure by us to develop products that compete favorably in the marketplace would have a material adverse effect on our business, financial condition and results of operations.

Technology in the medical device industry changes rapidly. If we are not able to keep up with technological advances by its competitors, the business will be harmed.

     The medical device industry is characterized by rapid and significant technological change. There can be no assurance that our competitors will not succeed in developing or marketing products or technologies that are more effective or less costly, or both, and which render our products obsolete or non-competitive. In addition, new technologies, procedures and medications could be developed that replace or reduce the value of our products. Our success will depend in part on its ability to respond quickly to medical and technological changes through the development and introduction of new products. Because of the lengthy testing period required to develop new products and the costly FDA approval process, there can be no assurance that our new product development efforts will result in any commercially successful products or will do so in a timely manner. A failure to develop new products could have a material adverse effect on our business, financial condition, and results of operations.

The industry faces a high risk of product liability claims.

     We face an inherent business risk of exposure to product liability claims in the event that the use of its technology or products is alleged to have resulted in adverse effects. To date, no product liability claims have been asserted against us for our bone growth stimulation products. Over the years, we have had limited product liability claims associated with CPM products, all of which have been or are being managed by our insurance carrier. We sold the CPM business in 2001.

     We also face an inherent business risk of exposure to liability claims with the current and potential Chrysalin clinical trials.

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     We maintain a product liability and general liability insurance policy with coverage of an annual aggregate maximum of $2.0 million per occurrence. The product liability and general liability policy is provided on an occurrence basis. The policy is subject to annual renewal. In addition, we maintain an umbrella excess liability policy, which covers product and general liability with coverage of an additional annual aggregate maximum of $25.0 million.

     Based on the history of claims, we believe the levels of insurance coverage are adequate, however, there can be no assurance that liability claims will not exceed the coverage limits of such policies or that such insurance will continue to be available on commercially reasonable terms or at all. If we do not or cannot maintain sufficient liability insurance, our ability to market our products may be significantly impaired. In addition, product liability claims could have a material adverse effect on the business, financial condition and results of operations.

There is an increase in the investigation of health care providers.

     The health care industry is subject to numerous laws and regulations of federal, state, and local governments. Compliance with these laws and regulations, specifically those relating to the Medicare and Medicaid programs, can be subject to government review and interpretations, as well as regulatory actions unknown and unasserted at this time. Recently, federal government activity has increased with respect to investigations and allegations concerning possible violations by health care providers of regulations, which could result in the imposition of significant fines and penalties, as well as significant repayments of previously billed and collected revenues from patient services. Our management believes that we are in substantial compliance with current laws and regulations.

Legislative reform of the health care industry could have a negative effect on our business.

     In response to complaints from patients against insurance companies and recent and continued expectations of rises in the cost of health care insurance coverage, the health care industry is being reviewed and investigated by public and private groups to (i) increase access to health care for the uninsured and underinsured people, (ii) control the escalation of health care expenditures within the economy and (iii) use health care reimbursement policies to help control federal expenditures. Although this has been an ongoing public debate for a number of years that has not resulted in substantial federal or state legislation fundamentally changing the health care industry business model, we expect public debate of these issues to continue. We cannot predict which, if any, of the current reform proposals will be adopted and when they might be adopted and what effect such reform would have on a patient’s ability to seek reimbursement for use of our product and the costs associated with regulatory and health care program compliance.

     Significant changes in health care systems are likely to have a substantial impact over time on the manner in which we conduct our business and could have a material adverse effect on our business, financial condition and results of operations and ability to market our products and future products as currently contemplated.

     Medicare pricing for the bone growth stimulation products has remained constant, increasing slightly over the past several years. However, Congress or other governmental agencies could enact legislation at any time that could negatively impact revenues.

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Risks Related to Our Business

We are dependent on the sales of two primary products and have invested heavily in a future product, which may not be available for sale for some time.

     Our business is focused on the sales of two primary products, the OL1000 and SpinaLogic. We believe that, to sustain long-term growth, we must continue to develop and introduce additional products and expand approved indications for our remaining products. The development and commercialization of additional products will require substantial product development, regulatory review, and clinical testing, all of which may be expensive and lengthy. There can be no assurance that we will develop new products or expand indications for existing products in the future or that we will be able to manufacture or market such products successfully. Any failure to develop new products or expand indications could have a material adverse effect on our business, financial condition and results of operations.

If the medical community does not accept our products as alternatives to current products and procedures, sales will not grow and business will be adversely affected.

     The long-term commercial success of the OL1000 and SpinaLogic and our other products will depend in significant part upon our widespread acceptance by a significant portion of the medical community as a safe, efficacious and cost-effective alternative to invasive procedures. We are unable to predict how quickly, if at all, members of the orthopedic medical community may accept our products. The widespread acceptance of our primary products represents a significant change in practice patterns for the orthopedic medical community and in reimbursement policy for third party payors. Historically, some orthopedic medical professionals have indicated hesitancy in prescribing bone growth stimulator products such as those we manufactured. Failure to create widespread market acceptance by the orthopedic medical community and third party payors of our products would have a material adverse effect on our business, financial condition and results of operations.

Our ability to compete could be jeopardized we are unable to obtain and protect our intellectual property or retain licenses for intellectual property.

     In this industry, a company’s success depends in part on its ability to obtain and maintain patent protection for products and processes, to preserve its trade secrets and proprietary know-how and to operate without infringing the proprietary rights of third parties.

     While we hold title to numerous United States and foreign patents and licenses, and have filed a number of patent applications, no assurance can be given that any additional patents will be issued or that the scope of any patent protection will exclude competitors, or that any of the patents held by or licensed to us will be held valid if subsequently challenged. The validity and breadth of claims covered in medical technology patents involves complex legal and factual questions and therefore may be highly uncertain. We license the technologies in the BioLogic and OrthoFrame products for which we pay a royalty.

     There has been substantial litigation regarding patent and other intellectual property rights in the orthopedic industry. Litigation, which could result in substantial cost to and diversion of effort by us, may be necessary to enforce patents issued or licensed to us, to protect

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trade secrets or know-how we own, or to defend against claimed infringement of the rights of others and to determine the scope and validity of the proprietary rights of others. There can be no assurance that the results of such litigation would be favorable to us. In addition, competitors may employ litigation to gain a competitive advantage. Adverse determinations in litigation could subject us to significant liabilities, and could require us to seek licenses from third parties or prevent us from manufacturing, selling or using our products, any of which determinations could have a material adverse effect on our business, financial condition and results of operations.

     In addition the licenses for the technologies used by us in the BioLogic and OrthoFrame products may be terminated by the licensor if we breach any material provision of such license. The termination of any license would have a material adverse effect on our business, financial condition and results of operations.

     We also rely on un-patented trade secrets and know-how. We generally require our employees, consultants, advisors and investigators to enter into confidentiality agreements which include, among other things, an agreement to assign to us all inventions that were developed by the employee while employed with us that are related to our business. There can be no assurance, however, that these agreements will protect our proprietary information or that others will not gain access to, or independently develop similar trade secrets or know-how.

Sales for one of our primary products depends on the success of a distributor, which has been given exclusive distribution rights.

     To enhance the sales of our SpinaLogic product line, we entered into an exclusive 10-year worldwide sales agreement in August 2000 with DePuy Spine (“DePuy Spine”), a unit of Johnson and Johnson. The sales agreement provides DePuy Spine with the right to terminate its sales activities on behalf of SpinaLogic without cause, by giving OrthoLogic a minimum of 120 days written notice. Any significant change in the business relationship or termination of the sales agreement with DePuy Spine may have a material adverse effect on our sales of SpinaLogic. We rely upon the distribution of the SpinaLogic product for a large portion of our sales.

     We rely on distributors and sales representatives to sell the OL1000. There can be no guarantees that the terms of the distribution and sales representative contracts will be renewed as they currently exist.

Our reliance on a primary supplier could result in disruption of operations.

     We purchase some electronic components used in the OL1000 and SpinaLogic devices from a single source supplier. In addition, there are single source suppliers for other components used in devices. Establishment of additional or replacement suppliers for these components cannot be accomplished quickly. Therefore, we maintain sufficient inventories of such components in an attempt to ensure availability of finished products in the event of supply shortage or in the event that a redesign is required. We maintain a supply of certain OL1000 and SpinaLogic components to meet sales forecasts for 3 to 12 months.

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     We are dependent on outside vendors for key parts and processes in the manufacture of the OrthoFrame/Mayo. Chrysalin, which is currently only in the clinical trial phase, is produced by a third party sole supplier.

     Any delay or interruption in the supply of components or products could significantly impair our ability to deliver its products in sufficient quantities, and therefore, could have a material adverse effect on our business, financial condition and results of operations.

If we are not able to retain and compete for key management and technical employees, our long-term business will be adversely affected.

     Our success is dependent in large part on our ability to attract and retain our key management, operating, technical, marketing and sales personnel as well as clinical investigators who are not our employees. Such individuals are in high demand, and the identification, attraction and retention of such personnel could be lengthy, difficult and costly. We compete for our employees and clinical investigators with other companies in the orthopedic industry and research and academic institutions. There can be no assurance that we will be able to attract and retain the qualified personnel necessary for the expansion of our business. A loss of the services of one or more members of the senior management group, or our inability to hire additional personnel as necessary, could have an adverse effect on our business, financial condition and results of operations.

The results of operations are affected by a number of conditions which are outside our control.

     We were founded in 1987 and only began generating revenues from the sale of our primary product in 1994. We experienced significant operating losses since our inception and had an accumulated deficit of approximately $89.5 million at September 30, 2003. We have only reported sustained profits since the third quarter of 2001. There can be no assurance that we will maintain sufficient revenues to retain net profitability on an on-going annual basis. In addition, estimations of future profits based on our historical financial reports may be speculative given our limited profitability history. We may experience fluctuations in revenues and operating results based on such factors as demand for our products; the timing, cost and acceptance of product introductions and enhancements made by us or others; levels of third party payment; alternative treatments that currently exist or may be introduced in the future; completion of acquisitions and divestitures; changes in practice patterns, competitive conditions, regulatory announcements and changes affecting our products in the industry and general economic conditions. The development and commercialization by us of additional products will require substantial product development and regulatory, clinical and other expenditures.

Our stock price is volatile and fluctuates due to a variety of factors.

     Our stock price has varied significantly in the past and may vary in the future due to a number of factors including:

• fluctuations in our operating results;

• developments in litigation to which the we or a competitor is subject;

• announcements and timing of potential acquisitions, divestitures, conversion of preferred stock;

• announcements of technological innovations or new products by us or our competitors;

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• FDA and international regulatory actions;

• actions with respect to reimbursement matters;

• developments with respect to patents or proprietary rights of us or competitors;

• public concern as to the safety of products developed by us or others;

• changes in health care policy in the United States and internationally;

• changes in stock market analyst recommendations regarding our company, other medical device companies or the medical device industry generally; and

• general market conditions.

     In addition, the stock market has from time to time experienced significant price and volume fluctuations that are unrelated to the operating performance of particular companies. These broad market fluctuations may adversely affect the market price of our stock.

     Developments in any of these areas could cause our results to differ materially from results that have been or may be projected by or on our behalf.

     We caution that the foregoing list of important factors is not exclusive. We do not undertake to update any forward-looking statement that may be made from time to time by or on our behalf.

Part II – Other Information

Item 2. Changes in Securities and Use of Proceeds

     On October 8, 2003, OrthoLogic Corp. and Bank of New York entered into an Amendment No. 2 amending the Rights Agreement dated March 4, 1997, as amended, such that the proposed transactions described in or related to the Asset Purchase Agreement dated October 8, 2003 by and between OrthoLogic Corp. and dj Orthopedics, LLC, a Delaware limited liability company and wholly-owned subsidiary of dj Orthopedics, Inc., will not constitute a “Section 11(a)(ii) Event” or a “Section 13(a) Event,” and will not be subject to Section 13(a)(z) under the Rights Agreement. Accordingly, common stockholders’ rights to purchase shares of capital stock of dj Orthopedics would not be triggered by the sale of the bone growth stimulation device business assets to dj Orthopedics, LLC. The Amendment No. 2 was filed as an exhibit to a Form 8-K filed October 20, 2003.

Item 6. Exhibits and Reports

(a)	Exhibit Index
	See Exhibit List following this report
(b)	Reports on Form 8-K

     On July 24, 2003, we filed a press release, including financial statements, announcing our earnings for the three and six month periods ended June 30, 2003 on Form 8-K.

35

SIGNATURES

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

ORTHOLOGIC CORP.
(Registrant)

Signature	Title	Date
/s/ Thomas R. Trotter Thomas R. Trotter	President and Chief Executive Officer (Principal Executive Officer)	November 14, 2003
/s/ Sherry A. Sturman Sherry A. Sturman	Senior Vice-President and Chief Financial Officer (Principal Financial and Accounting Officer)	November 14, 2003

36

OrthoLogic Corp.
Exhibit Index to Quarterly Report on Form 10-Q
For the Quarterly Period Ended September 30, 2003

		Incorporated by	Filed
Exhibit No	Description	Reference to:	Herewith
3.1	Amended and Restated Certificate of Incorporation		X
3.2	Certificate of Designation of Series A Preferred Stock		X
4.1	Amendment No. 2 dated October 8, 2003, to the Rights Agreement between OrthoLogic Corp. and Bank of New York	Exhibit 4.1 to the Form 8-K filed on October 20, 2003
10.1	Employment Agreement effective July 15, 2002 between OrthoLogic Corp. and Thomas R. Trotter (1)(2)		X
10.2	August 30, 2003 Amendment to Employment Agreement between OrthoLogic Corp. and Thomas R. Trotter (1)(2)		X
31.1	Certification of CEO pursuant to Securities Exchange Act Rules 13a - 14 and 15D – 14 as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002		X
31.2	Certification of CFO pursuant to Securities Exchange Act Rules 13a - 14 and 15D – 14 as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002		X
32	Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.		X
	— Thomas R. Trotter
	— Sherry A. Sturman
(1)	Management contract or compensatory plan or arrangement
(2)	Filed under confidential treatment request with the Securities and Exchange Commission.

EX-3.1 3 p68477exv3w1.htm EX-3.1

Exhibit 3.1

AMENDED AND RESTATED CERTIFICATE OF INCORPORATION

OF

ORTHOLOGIC CORP.

Pursuant to Section 242
of the General Corporation Law of Delaware

     The undersigned, Thomas R. Trotter and Terry D. Meier, being the President and Secretary, respectively, of OrthoLogic Corp., a Delaware corporation (the “Corporation”), do hereby certify as follows:

         A.      The present name of the Corporation is OrthoLogic Corp. The name under which the Corporation was originally incorporated was IatroMed Inc.

         B.      The original Certificate of Incorporation of the Corporation was filed with the Secretary of State of Delaware on July 30, 1987.

         C.      This Amended and Restated Certificate of Incorporation was duly adopted by the stockholders of the Corporation in accordance with Sections 242 and 245 of the General Corporation Law of Delaware by written consent of the stockholders pursuant to Section 228 accordance with the General Corporation Law of Delaware dated November 16th, 1992.

         D.      The text of the Certificate of Incorporation of the Corporation as heretofore amended is hereby amended by this certificate to read in full as follows:

                  1.      Name. The name of the corporation is OrthoLogic Corp.

                  2.      Registered Agent. The name and address of the initial registered office and registered agent of the Corporation is The Corporation Trust company, Corporation Trust center, 1209 Orange Street, New Castle County, Wilmington, Delaware 19801.

                  3.      Purpose. The purpose for which this Corporation is organized is the transaction of any or all lawful activity for which corporations may be organized under the General Corporation Law of Delaware, as it may be amended from time to time.

                  4.      Election of Directors. Elections of directors at an annual or special meeting of stockholders shall be by written ballot unless the Bylaws of the Corporation shall otherwise provide. Advance notice of stockholder nominations for the election of directors shall be given in the manner provided in the Bylaws of the Corporation.

                  5.      Authorized Capital. The total number of shares of stock which the Corporation shall have authority to issue is 52,000,000 shares, consisting of 50,000,000 shares of

common stock having a par value of $.0005 per share (the “Common Stock”) and 2,000,000 shares of preferred stock having a par value of $.0005 per share (the “Preferred Stock”).

               The Board of Directors is authorized, subject to limitations prescribed by law and the provisions of Article 5, to provide for the issuance of the shares of Preferred Stock in series, and by filing a certificate pursuant to the applicable law of the State of Delaware, to establish from time to time the number of shares to be included in each such series, and to fix the designation, powers, preferences and rights of the shares of each such series and the qualifications, limitations or restrictions thereof.

               The authority of the Board with respect to each series shall include, but not be limited to, determination of the following:

                  (a)      The number of shares constituting that series and the distinctive designation of that series;

                  (b)      The dividend rate on the shares of that series, whether dividends shall be cumulative, and, if so, from which date or dates, and the relative rights of priority, if any, of payment of dividends on shares of that series;

                  (c)      Whether that series shall have voting rights, in addition to the voting rights provided by law, and, if so, the terms of such voting rights;

                  (d)      Whether that series shall have conversion privileges, and, if so, the terms and conditions of such conversion, including provision for adjustment of the conversion rate in such events as the Board of Directors shall determine;

                  (e)      Whether or not the shares of that series shall be redeemable, and, if so, the terms and conditions of such redemption, including the date or dates upon or after which they shall be redeemable, and the amount per share payable in case of redemption, which amount may vary under different conditions and at different redemption dates;

                  (f)      Whether that series shall have a sinking fund for the redemption or purchase of shares of that series, and, if so, the terms and amount of such sinking fund;

                  (g)      The rights of the shares of that series in the event of voluntary or involuntary liquidation, dissolution or winding up of the Corporation, and the relative rights of priority, if any, of payment of shares of that series; and

                  (h)      Any other relative rights, preferences and limitations of that series.

               6.      Classification and Terms of Directors. The business and affairs of the Corporation shall be managed by or under the direction of the Board of Directors consisting of not less than three directors nor more than nine directors, the exact number of directors to be

determined from time to time by resolution adopted by the Board of Directors. The directors shall be divided into three classes, designated Class I, Class II and Class III. Each class shall consist, as nearly as may be possible, of one-third of the total number of directors constituting the entire Board of Directors. The terms of the initial Class I directors shall terminate on the date of the first annual meeting of stockholders held after the effective date of this Article 6; the term of the initial Class II directors shall terminate on the date of the second annual meeting of stockholders held after the effective date of this Article 6; and the term of the initial Class III directors shall terminate on the date of the third annual meeting of stockholders held after the effective date of this Article 6. At each annual meeting of stockholders beginning with the first annual meeting held after the effective date of this Article 6, successors to the class of directors whose term expires at that annual meeting shall be elected for a three-year term. If the number of directors is changed, any increase or decrease shall be apportioned among the classes so as to maintain the number of directors in each class as nearly equal as possible, and any additional directors of any class elected to fill a vacancy resulting from an increase in such class shall hold office for a term that shall coincide with the remaining terms of that class, but in no case will a decrease in the number of directors shorten the term of any incumbent director. A director shall hold office until the annual meeting for the year in which his term expires and until his successor shall be elected and shall qualify, subject, however, to prior death, resignation, retirement, disqualification or removal from office. Any vacancy on the Board of Directors, howsoever resulting (including without limitation newly created directorships), may be filled by a majority of the directors then in office, even if less than a quorum, or by a sole remaining director. Any director elected to fill a vacancy shall hold office for a term that shall coincide with the term of the class to which such director shall have been elected.

                Notwithstanding the foregoing, whenever the holders of any one or more classes or series of Preferred Stock issued by the Corporation shall have the right, voting separately by class or series, to elect directors at an annual or special meeting of stockholders, the election, term of office, filling of vacancies and other features of such directorships shall be governed by the terms of this Certificate of Incorporation or the resolution or resolutions adopted by the Board of Directors pursuant to Article Five applicable thereto, and such directors so elected shall not be divided into classes pursuant to this Article Six unless expressly provided by such terms.

                  7.      Removal of Directors. Subject to the rights, if any, of the holders of shares of Preferred Stock then outstanding, any or all of the directors of the Corporation may be removed from office at any time, but only for cause and only by the affirmative vote of the holders of a majority of the outstanding shares of the Corporation then entitled to vote generally in the election of directors, considered for purposes of this Article 7 as one class.

                  8.      Director Liability. No director shall be personally liable to the Corporation or its stockholders for monetary damages for any breach of fiduciary duty by such director as a director. Notwithstanding the foregoing sentence, a director shall be liable to the extent provided by applicable law (i) for breach of the director’s duty of loyalty to the Corporation or its stockholders, (ii) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law, (iii) pursuant to Section 174 of the

Delaware General Corporation Law or (iv) for any transaction from which the director derived an improper personal benefit. No amendment to the liability or alleged liability of any director of the Corporation for or with respect to any acts or omissions of such director occurring prior to such amendment.

                  9.      Action by Consent of Stockholders. Any action required or permitted to be taken by the stockholders must be effected at a duly called and noticed annual or special meeting of such, stockholders and may not be effected by any consent in writing by such stockholders.

                  10.      Compromise of Debts. Whenever a compromise or arrangement is proposed between this Corporation and its creditors or any class of them and/or between this Corporation and its stockholders or any class of them, any court of equitable jurisdiction within the State of Delaware may, on the application in a summary way of this Corporation or of any creditor or stockholder thereof or on the application of any receiver or receivers appointed for this Corporation under the provisions of Section 291 of Title 8 of the Delaware Code or on the application of trustees in dissolution or of any receiver or receivers appointed for this Corporation under the provisions of Section 279 of Title 8 of the Delaware Code, order a meeting of the creditors or class of creditors, and/or of the stockholders or class of stockholders of this Corporation, as the case may be, to be summoned in such manner as the said court direct. If a majority in number representing three-fourths in value of the creditors or class of creditors, and/or of the stockholders or class of stockholders of this Corporation, as the case may be, agree to any compromise or arrangement and to any reorganization of this Corporation as consequence of such compromise or arrangement, the said compromise or arrangement and the said reorganization shall, if sanctioned by the court to which the said application has been made, be binding on all the creditors or class of creditors, and/or on all the stockholders or class of stockholders, of this Corporation, as the case may be, and also on this Corporation.

                  11.      Special Voting Requirements.

                        (a)      Except as set forth in Section (b) of this Article 11, the affirmative vote of the holders of two-thirds of the outstanding stock of the Corporation entitled to vote shall be required for:

                            (1)      any merger or consolidation to which the Corporation, or any of its subsidiaries, and an Interested Person (as hereinafter defined) are parties;

                            (2)      any sale or other disposition by the Corporation, or any of its subsidiaries, of all or substantially all of its assets to an Interested Person;

                            (3)      any purchase or other acquisition by the Corporation, or any of its subsidiaries, of all or substantially all of the assets or stock of an Interested Person; and

                            (4)      any other transaction with an Interested Person which

requires the approval of the stockholders of the Corporation under the GCL, as in effect from time to time.

                        (b)      The provisions of Section (a) of this Article 11 shall not be applicable to any transaction described therein if such transaction is approved by resolution of the Corporation’s Board of Directors, provided that a majority of the members of the Board of Directors voting for the approval of such transaction are Continuing Directors. The term “Continuing Director” shall mean any member of the Board of Directors of the Corporation who is not the Interested Person, and not an affiliate, associate, representative or nominee of the Interested Person or of such an affiliate or associate that is involved in the relevant transaction, and (A) was a member of the Board of Directors prior to the date that the person, firm or corporation, or any group thereof, with whom such transaction is proposed, became an Interested Person or (B) whose initial election as a director of the Corporation succeeds a Continuing Director or is a newly created directorship, and in either case was recommended by a majority vote of the Continuing Directors then in office.

                        (c)      As used in this Article 11, the term “Interested Person” shall mean any person, firm or corporation, or any group thereof, acting or intending to act in concert, including any person directly or indirectly controlling or controlled by or under direct or indirect common control with such person, firm or corporation or group, which owns of record or beneficially, directly or indirectly, five percent (5%) or more of any class of voting securities of the Corporation.

                  12.      Special Meetings. Special meetings of the stockholders of the Corporation for any purpose or purposes may be called at any time only by the President, or the Board of Directors pursuant to a resolution approved by a majority of the whole Board of Directors, or at the request in writing of shareholders owning at least 35% of the capital stock issued and outstanding and entitled to vote. Special meetings of the stockholders may not be called by any other person or persons. Business transacted at any special meeting of the stockholders shall be limited to the purposes stated in the notice of such meeting.

                  13.      Bylaws. In furtherance and not in limitation of the powers conferred by statute, the Board of Directors is expressly authorized by majority vote of the whole Board of Directors to adopt, repeal, alter, amend or rescind the Bylaws of the Corporation. In addition, the Bylaws of the Corporation may be adopted, repealed, altered, amended, or rescinded by the affirmative vote of two-thirds of the outstanding stock of the Corporation entitled to vote thereon; provided, if the Continuing Directors, as defined in Article 11 shall by a majority vote of such Continuing Directors have adopted a resolution approving the amendment or repeal proposal and have determined to recommend it for approval by the holders of stock entitled to vote thereon, then the vote required shall be the affirmative vote of the holders of at least a majority of the outstanding shares entitled to vote thereon.

                  14.      Certificate. The Corporation reserves the right to amend, alter, change or repeal any provision contained in this Certificate of Incorporation in the manner now or hereafter

prescribed by statute and the Certificate of Incorporation, and all rights conferred on stockholders herein are granted subject to the reservations in Article 14. Provided, however, the affirmative vote of the holders of at least two-thirds of the voting power of the outstanding stock of the Corporation entitled to vote thereon, shall be required to alter, amend, or adopt any provision inconsistent with or repeal Articles 4, 6, 7, 9, 11, 12 and 13 and this Article 14; provided, if the Continuing Directors, as defined in Article 11 shall by a majority vote of such Continuing Directors have adopted a resolution approving the amendment or repeal proposal and have determined to recommend it for approval by the holders of stock entitled to vote thereon, then the vote required shall be the affirmative vote of the holders of at least a majority of the outstanding shares entitled to vote thereon.

     EXECUTED this 9 day of May, 2000.

	/s/ Thomas R. Trotter
	Thomas R. Trotter, President
Attest:
/s/ Terry D. Meier
Terry D. Meier, Secretary

EX-3.2 4 p68477exv3w2.htm EX-3.2

Exhibit 3.2

CERTIFICATE OF DESIGNATION
 
OF
 
SERIES A PREFERRED STOCK
 
OF
 
ORTHOLOGIC CORP.

     The undersigned, being the President of OrthoLogic Corp. (the “Corporation”), a corporation organized and existing under the Delaware General Corporation Law, hereby certifies that, pursuant to the provisions of Section 151 of the Delaware General Corporation Law, the Board of Directors of the Corporation duly adopted the following resolution on July 1, 2003, which resolution remains in full force and effect as of the date hereof:

Series A Preferred Stock

        RESOLVED, that the Board of Directors of the Corporation, pursuant to authority vested in it by the provisions of the Corporation’s Amended and Restated Certificate of Incorporation (the “Charter”), hereby establishes a series of the Preferred Stock, par value $.0005 per share, of the Corporation and fixes the number of shares of such series and the powers, designations, preferences and relative, participating, optional or other rights of such series, and the qualifications, limitations or restrictions thereof, as follows:

        The first series of Preferred Stock, par value $.0005 per share, of the Corporation shall be, and hereby is, designated “Series A Preferred Stock” (the “Series A Shares”), and the number of shares constituting such series shall be Five Hundred Thousand (500,000). The relative rights and preferences of the Series A Shares shall be as follows:

        Section A.      Dividends and Distributions.

        (1)      Subject to the prior and superior rights of the holders of any shares of any series of stock prior and superior to the Series A Shares with respect to dividends, the holders of Series A Shares, in preference to the holders of Common Stock, par value $.0005 per share, of the Corporation (the “Common Stock”) and of any other junior stock, shall be entitled to receive, when and as declared by the Board of Directors, out of any funds lawfully available therefor, cash dividends thereon, payable quarterly, from the date of issuance thereof, upon the tenth days of January, April, July and October in each year (each such date being referred to herein as a “Quarterly Dividend Payment Date”), commencing on the first Quarterly Dividend Payment Date after the first issuance of a Series A Share, in an amount per share (rounded to the nearest cent) equal to the greater of (a) $10.00 or (b) subject to the provisions for adjustment hereinafter set forth, 100 times the aggregate per share amount of all cash dividends, and 100 times the aggregate per share amount (payable in kind) of all non-cash dividends or other distributions, other than a dividend or distribution payable in shares of Common Stock or a subdivision of

the outstanding shares of Common Stock (by reclassification or otherwise), declared on the Common Stock since the immediately preceding Quarterly Dividend Payment Date or, with respect to the first Quarterly Dividend Payment Date, since the first issuance of any Series A Share. In the event the Corporation shall at any time after March 12, 1997 (i) declare any dividend on the Common Stock payable in shares of Common Stock, (ii) subdivide the outstanding Common Stock or (iii) combine the outstanding Common Stock into a smaller number of shares, then in each such case the amounts to which holders of Series A Shares were entitled immediately prior to such event under clause (a) and clause (b) of the preceding sentence shall be adjusted by multiplying each such amount by a fraction the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event.

        (2)      The Corporation shall declare a dividend or distribution on the Series A Shares as provided in paragraph (1) of this Section immediately after it declares a dividend or distribution on the Common Stock (other than a dividend or distribution payable in shares of Common Stock); provided, however, that, in the event no dividend or distribution shall have been declared on the Common Stock during the period between any Quarterly Dividend Payment Date and the next subsequent Quarterly Dividend Payment Date, a dividend of $10.00 per share on the Series A Shares shall nevertheless be payable on such subsequent Quarterly Dividend Payment Date; and provided further, that nothing contained in this paragraph (2) shall be construed so as to conflict with any provision relating to the declaration of dividends contained in the Charter.

        (3)      Dividends shall begin to accrue and be cumulative on outstanding Series A Shares from the Quarterly Dividend Payment Date next preceding the date of issue of such Series A Shares, unless the date of issue of such shares is prior to the record date for the first Quarterly Dividend Payment Date, in which case dividends on such shares shall begin to accrue from the date of issue of such shares, or unless the date of issue is a Quarterly Dividend Payment Date or is a date after the record date for the determination of holders of Series A Shares entitled to receive a quarterly dividend and before such Quarterly Dividend Payment Date, in either of which events such dividends shall begin to accrue and be cumulative from such Quarterly Dividend Payment Date. Accrued but unpaid dividends shall not bear interest. Dividends paid on the Series A Shares in an amount less than the total amount of such dividends at the time accrued and payable on such shares shall be allocated pro rata on a share-by-share basis among all such shares at the time outstanding. The Board of Directors may fix a record date for the determination of holders of Series A Shares entitled to receive payment of a dividend or distribution declared thereon.

                Section B.      Redemption. The Series A Shares are not redeemable.

                Section C.      Liquidation, Dissolution or Winding Up. In the event of the voluntary or involuntary liquidation of the Corporation the “preferential amount” that the holders of the Series A Shares shall be entitled to receive out of the assets of the Corporation shall be $100.00 per share plus all accrued and unpaid dividends thereon.

        (1)      Upon any liquidation, dissolution or winding up of the Corporation, no

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distribution shall be made to the holders of shares of stock ranking junior (upon liquidation, dissolution or winding up) to the Series A Shares unless, prior thereto, the holders of Series A Shares shall have received $100.00 per share, plus an amount equal to accrued and unpaid dividends and distributions thereon, whether or not declared, to the date of such payment (the “Series A Liquidation Preference”). Following the payment of the full amount of the Series A Liquidation Preference, no additional distributions shall be made to the holders of Series A Shares unless, prior thereto, the holders of shares of common stock shall have received an amount per share (the “Common Adjustment”) equal to the quotient obtained by dividing (i) the Series A Liquidation Preference by (ii) 100 (as appropriately adjusted as set forth in paragraph (3) of this Section C to reflect such events as stock splits, stock dividends and recapitalizations with respect to the Common Stock) (such number in clause (ii), the “Adjustment Number”). Following the payment of the full amount of the Series A Liquidation Preference and the Common Adjustment in respect of all outstanding Series A Shares and Common Stock, respectively, holders of Series A Shares and holders of shares of Common Stock shall receive their ratable and proportionate share of the remaining assets to be distributed in the ratio of the Adjustment Number to one with respect to the Series A Shares and Common Stock, on a per share basis, respectively.

        (2)      In the event, however, that there are not sufficient assets available to permit payment in full of the Series A Liquidation Preference and the liquidation preferences of all other series of preferred stock, if any, that rank on a parity with the Series A Shares, then all such available assets shall be distributed ratably to the holders of the Series A Shares and the holders of such parity shares in proportion to their respective liquidation preferences. In the event, however, that there are not sufficient assets available to permit payment in full of the Common Adjustment, then any such remaining assets shall be distributed ratably to the holders of Common Stock.

        (3)      In the event the Corporation shall at any time after March 12, 1997 (i) declare any dividend on Common Stock payable in shares of Common Stock, (ii) subdivide the outstanding Common Stock or (iii) combine the outstanding Common Stock into a smaller number of shares, then in each such case the Adjustment Number in effect immediately prior to such event shall be adjusted by multiplying such Adjustment Number by a fraction, the numerator of which is the number of shares of Common Stock outstanding immediately after such event and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event.

Section D.      Sinking Fund. The Preferred Shares shall not be entitled to the benefit of any sinking fund for the redemption or

      purchase of such shares.

Section E.      Conversion.

        (1)      Subject to paragraph (2) of this Section E, the Preferred Shares shall not be convertible.

        (2)      In case the Corporation shall enter into any consolidation, merger, combination or other transaction in which the shares of Common Stock are exchanged for or changed into other stock or securities, cash and/or any other property, then in any such case the Series A Shares shall at the same time be similarly exchanged or changed in an

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amount per share (subject to the provision for adjustment hereinafter set forth) equal to 100 times the aggregate amount of stock, securities, cash and/or any other property (payable in kind), as the case may be, into which or for which each share of Common Stock is changed or exchanged. In the event the Corporation shall at any time declare or pay any dividend on the Common Stock payable in shares of Common Stock, or effect a subdivision or combination or consolidation of the outstanding shares of Common Stock (by reclassification or otherwise) into a greater or lesser number of shares of Common Stock, then in each such case the amount set forth in the preceding sentence with respect to the exchange or change of Series A Shares shall be adjusted by multiplying such amount by a fraction, the numerator of which is the number of shares of Common Stock outstanding immediately after such event, and the denominator of which is the number of shares of Common Stock that were outstanding immediately prior to such event.

Section F.      Voting Rights.

            (1)      The holders of Series A Shares shall have no voting rights except as provided by Delaware statutes or by paragraph (2) of this Section F.

            (2)      So long as any Series A Shares shall be outstanding, and in addition to any other approvals or consents required by law, without the consent of the holders of 66-2/3% of the Series A Shares outstanding as of a record date fixed by the Board of Directors, given either by their affirmative vote at a special meeting called for that purpose, or, if permitted by law, in writing without a meeting:

                (i)      The Corporation shall not sell, transfer or lease all or substantially all the properties and assets of the Corporation; provided, however, that nothing herein shall require the consent of the holders of Series A Shares for or in respect of the creation of any mortgage, pledge, or other lien upon all or any part of the assets of the Corporation.

                (ii)      The Corporation shall not effect a merger or consolidation with any other corporation or corporations unless as a result of such merger or consolidation and after giving effect thereto holders of Series A Shares are entitled to receive a per share amount and type of consideration equal to 100 times the per share amount and type of consideration received by holders of shares of Common Stock, or (1) either (A) the Corporation shall be the surviving corporation or (B) if the Corporation is not the surviving corporation, the successor corporation shall be a corporation duly organized and existing under the laws of any state of the United States of America or the District of Columbia, and all obligations of the Corporation with respect to the Series A Shares shall be assumed by such successor corporation, (2) the Series A Shares then outstanding shall continue to be outstanding and (3) there shall be no alteration or change in the designation or the preferences, relative rights or limitations applicable to outstanding Series A Shares prejudicial to the holders thereof.

                (iii)      The Corporation shall not amend, alter or repeal any of the provisions of its Certificate of Incorporation in any manner that adversely affects the relative rights, preferences or limitations of the Series A Shares or the holders thereof.

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     Section G.      Certain Restrictions.

            (1)      Whenever quarterly dividends or other dividends or distributions payable on the Series A Shares as provided in Section A are in arrears, thereafter and until all accrued and unpaid dividends and distributions, whether or not declared, on Series A Shares outstanding shall have been paid in full, the Corporation shall not:

                (i)      declare or pay dividends on, make any other distributions on, or redeem or purchase or otherwise acquire for consideration any shares of stock ranking junior (as to dividends) to the Series A Shares;

                (ii)      declare or pay dividends on or make any other distributions on any shares of stock ranking on a parity (as to dividends) with the Series A Shares, except dividends paid ratably on the Series A Shares and all such parity stock on which dividends are payable or in arrears in proportion to the total amounts to which the holders of all such shares are then entitled;

                (iii)      redeem or purchase or otherwise acquire for consideration shares of any stock ranking junior (as to dividends) to the Series A Shares; provided, however, that the Corporation may at any time redeem, purchase or otherwise acquire shares of any such junior stock in exchange for shares of any stock of the Corporation, ranking junior (as to dividends) to the Series A Shares; and

                (iv)      purchase or otherwise acquire for consideration any Series A Shares, or any shares of stock ranking on a parity (as to dividends) with the Series A Shares, except in accordance with a purchase offer made in writing or by publication (as determined by the Board of Directors) to all holders of such shares upon such terms as the Board of Directors, after consideration of the respective annual dividend rates and other relative rights and preferences of the respective series and classes, shall determine in good faith will result in fair and equitable treatment among the respective series or classes.

            (2)      The Corporation shall not permit any subsidiary of the Corporation to purchase or otherwise acquire for consideration any shares of stock of the Corporation unless the Corporation could, under paragraph (1) of this Section G, purchase or otherwise acquire such shares at such time and in such manner.

     Section H.      Fractional Shares. The Corporation may issue fractions and certificates representing fractions of Series A Shares in integral multiples of 1/100th of a Series A Share, or in lieu thereof, at the election of the Board of Directors of the Corporation at the time of the first issue of any Series A Shares, evidence such fractions by depositary receipts, pursuant to an appropriate agreement between the Corporation and a depositary selected by it, provided that such agreement shall provide that the holders of such depositary receipts shall have all rights, privileges and preferences to which they would be entitled as beneficial owners of Series A Shares. In the event that fractional Series A Shares are issued, the holders thereof shall have all the rights provided herein for holders of full Series A Shares in the proportion that such fraction bears to a full share.

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     IN WITNESS WHEREOF, the Corporation has executed this Certificate of Designation as of this 24 day of September, 2003.

ORTHOLOGIC CORP.

/s/ Thomas R. Trotter

Thomas R. Trotter, President

-6- EX-10.1 5 p68477exv10w1.htm EX-10.1

Exhibit 10.1

AMENDED AND RESTATED
EMPLOYMENT AGREEMENT

                    This Amended and Restated Employment Agreement (the “Agreement”) shall be effective, as of July 15, 2002, by and between OrthoLogic Corp., a Delaware corporation (the “Company”), and Thomas R. Trotter (“Employee”).

RECITALS:

          A.     Employee has been employed by the Company in the position of President/CEO, pursuant to an Employment Agreement that was effective as of October 20, 1997 (the “1997 Employment Agreement”).

          B.     The parties now wish to amend the 1997 Employment Agreement by replacing it with this Agreement for all purposes.

AGREEMENTS:

          The parties hereby agree as follows:

          1.     Replacement of 1997 Employment Agreement. Effective immediately, the 1997 Employment Agreement shall be replaced by this Agreement for all purposes. The consideration for such amendment and replacement is solely as stated in this Agreement and neither party shall have any further rights or duties under the 1997 Employment Agreement.

          2.     Definitions. Capitalized terms used in this Agreement and not otherwise defined herein shall have the meanings assigned to them in Exhibit A.

          3.     Employment and Duties.

                    (a)     Definition of “Election.” Within the limitations described in Sections 9 and 10 of this Agreement, either party may give the other notice that he or it has elected to begin a two-year transition leading to the termination of Employee’s employment by the Company. Such a notice is referred to in this Agreement as an “Election.”

                    (b)     Duties Before an Election. Subject to the terms and conditions of this Agreement, prior to an Election, the Company employs Employee to serve in a managerial capacity and as a member of its Board of Directors (the “Board”) and Employee accepts such employment and agrees to perform such reasonable responsibilities and duties as may be assigned to him from time to time by the Board. Employee’s title shall be President/CEO of the Company, with general responsibility for Company operations. Employee will report to the Board. Prior to an Election, the Company shall use its best efforts to maintain Employee as a member of the Board.

                    (c)     Duties After an Election. Effective immediately upon an Election, Employee will report to the Company’s President and CEO or to the Board as determined by the Board. Employee shall not have an official title or any set work hours. While various projects assigned to Employee may require more or less time within any given month, it is contemplated that, without his consent, Employee will not be asked to work on Company matters for more than

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7.5 days per quarter. Effective upon an Election, Employee hereby resigns from the Board and as an officer of the Company. Employee understands that from and after the Election, and until the end of the term of this Agreement, the Company will not provide him with an office, but will provide reasonable secretarial and other staff support and will provide ancillary office equipment such as a fax machine, dictating equipment and a desk-top computer that Employee may continue to use until the end of the term at another location selected by him. After an Election, Employee shall not be entitled to use any Company owned or supported laptop computers or cell phones except to the extent required by specific projects assigned to Employee.

          4.     Term. Before an Election, Employee’s employment shall have an indefinite term and shall continue until terminated as provided in this Agreement. Upon an Election, the term of Employee’s employment by the Company shall convert automatically to a two-year term beginning on the date of such Election. After the Election, any extension or renewal of such term shall require the written consent of both parties.

          5.     Compensation.

                    (a)     Salary.   (i) Before an Election, the Company shall pay Employee a minimum base annual salary, before deducting all applicable withholdings, of $330,000 per year, payable at the times and in the manner dictated by the Company’s standard payroll policies. The minimum base annual salary shall be reviewed annually, at the end of the Company’s fiscal year, by the Compensation Committee of the Board and may be increased, but shall not be decreased; (ii) during the first 12-month period immediately following an Election, Employee’s base annual salary shall remain at the same level as it was at the time the Election was made; (iii) during the second 12 months after an Election, Employee’s base annual salary shall be $330,000 regardless of the level of base annual salary being paid to Employee prior to the Election.

                    (b)     Bonuses.   (i) Before an Election, Employee shall be eligible to participate in an incentive bonus program as developed and adopted, and as revised from time to time, by the Board. Such program shall be based upon the achievement of individual goals by Employee and upon Company performance. The program shall provide for a target bonus of 50% of Employee’s base salary for achievement of a Board-approved plan. (ii) Additionally, Employee shall be entitled to receive a special bonus upon the first to occur of a Change in Control or a Sale of the Bone-Stimulation Business. Either such special bonus shall be calculated as provided in Exhibit B. (iii) Employee shall not be entitled to accrue any additional bonus amounts after an Election occurs, but any bonuses fully earned prior to the Election shall remain due in accordance with their terms, and any bonuses accruing prior to an Election pursuant to an incentive bonus program shall be paid on a pro rata basis depending on the percentage of the bonus measurement period that has elapsed at the time of the Election.

                    (c)     Stock Options.   From time to time, as determined by the Board in its discretion, the Company shall grant to Employee options to purchase shares of the Company’s common stock, with an exercise price equal to the fair market value of the stock on the effective date of the grant.

          6.     Fringe Benefits. Both before and after an Election, Employee shall be entitled to participate in all employee benefit plans (including without limitation pension, savings, medical,

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dental and disability plans) generally available to employees. The manner of implementation of such benefits with respect to such items as procedures and amounts are discretionary with the Company but shall be commensurate with Employee’s executive capacity. The Company agrees to maintain term life insurance during the term of Employee’s employment under this Agreement in an amount equal to two times Employee’s base salary, as it may be adjusted from time to time, with the beneficiary to be designated by Employee. Until an Election occurs, the Company will also provide Employee with an automobile expense allowance of $450 per month.

          7.     Expenses. In addition to the compensation and benefits provided above, the Company shall, upon receipt of appropriate documentation, reimburse Employee each month for his reasonable travel, lodging, entertainment, promotion and other ordinary and necessary business expenses consistent with Company policies.

          8.     Termination.

                    (a)     For Cause. The Company may terminate Employee’s employment for Cause upon written notice to Employee stating the facts constituting such Cause, provided that Employee shall have 30 days following such notice to cure any conduct or act, if curable, alleged to provide grounds for termination for Cause hereunder. In the event of termination for Cause, the Company shall be obligated to pay Employee only the minimum base salary due him through the date of termination. The written notice shall state the Cause for termination. “Cause” shall include gross or willful neglect of duty, willful failure to abide by instructions or policies from or set by the Board of Directors, or conviction of a felony or misdemeanor punishable by at least one year in prison, or pleading guilty or nolo contendere to same; provided that the fact that the Company does not request services from Employee with respect to any period or periods of time after an Election shall not constitute Cause.

                    (b)     Without Cause. The Company may not terminate Employee’s employment at any time without Cause.

                    (c)     Disability. Prior to an Election, but not afterward, if Employee fails to perform his duties hereunder on account of illness or other incapacity for a period of 60 consecutive days, or for 90 days during any six-month period, the Company shall have the right to terminate this Agreement without further obligation hereunder except as otherwise provided in disability plans generally applicable to executive employees.

                    (d)     Death. Prior to an Election, if Employee dies, this Agreement shall terminate immediately, and Employee’s legal representatives shall be entitled to receive the base salary due Employee through the last day of the calendar month in which his death shall have occurred and any other death benefits generally applicable to executive employees. If Employee dies after an Election, Employee’s legal representatives shall be entitled to receive only the proceeds of any appropriate life insurance policies and the base salary due Employee through the end of the term at a time and in a manner similar to when it would have been paid to Employee if he had survived, except for any change in withholding justified by the change in circumstances.

                    (e)     Resignation. Employee may resign his employment by giving notice to the Company, which shall also include his resignations as an officer and as a director of the

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Company. In the event of such a resignation, the Company shall be obligated to pay Employee only the minimum base salary due him through the effective date of the resignation (any vested options will remain vested, and will expire as provided in the Company’s Stock Option Plan and Employee’s Letter of Grant).

          9.     Elections by the Company. The Company may make an Election at any time with or without Cause.

          10.     Elections by Employee.

                    (a)     After a Change in Control or Sale. Employee may make an Election at any time after the closing of either a Change in Control or a Sale of the Bone-Stimulation Business, with or without Good Reason.

                    (b)     Before a Change in Control or Sale. Employee shall be entitled to make an Election before the closing of a Change in Control or a Sale of the Bone-Stimulation Business only if “Good Reason” exists. Good Reason shall exist if the Company has done any of the following:

(1) failed to maintain Employee’s base salary at the level required by Section 5(a);

(2) failed to provide for Employee’s participation in the Company’s or an Affiliate’s annual bonus plan; stock option plan or other equity incentive programs; or group medical, dental, life, disability, retirement, profit sharing, thrift, nonqualified and deferred compensation plans, in each case on a basis comparable to that enjoyed by other executive employees of the Company or any of its Affiliates;

(3) failed to provide vacation and perquisites substantially equivalent to those provided by the Company or any of its Affiliates to executive employees;

(4) changed Employee’s duties and responsibilities so that they are not at least commensurate with those described in Section 3(b);

(5) changed Employee’s primary place of employment by more than 25 miles from Employee’s current office location or more than 10 additional miles from Employee’s primary residence; or

(6) terminated or attempted to terminate this Agreement for Cause if it is thereafter determined that Cause did not exist under this Agreement with respect to such termination.

          11.     Limitations on Transitional Compensation and Benefits.

                    (a)     General Rules. The Code places significant tax consequences on Executive and Company if the total payments made to Executive due, or deemed due, to a Change in Control exceed prescribed limits. For example, if Executive’s “Base Period Income”

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(as defined below) is $100,000 and Executive’s “Total Payments” exceed 299% of such Base Period Income (the “Cap”), Executive will be subject to an excise tax under Section 4999 of the Code of 20% of all amounts paid to him in excess of $100,000. In other words, if Executive’s Cap is $299,999, he will not be subject to an excise tax if he receives exactly $299,999. If Executive receives $300,000, he will be subject to an excise tax of $40,000 (20% of $200,000). If an excise tax is imposed on Executive as a result of the application of Sections 280G and 4999 of the Code, for any reason, due to this Agreement or otherwise, Company shall pay to Executive a “gross-up allowance” equal in amount to the sum of (i) the excise tax liability of Executive on the Total Payments, and (ii) all the total excise, income, and payroll tax liability of Executive on the “gross-up allowance,” further increased by all additional excise, income, and payroll tax liability thereon, which increase shall be part of the “gross-up allowance” for purpose of computing the “gross-up allowance.” Company shall indemnify and hold Executive harmless from such additional tax liability for the income and payroll tax arising from the “gross-up allowance” and all excise tax arising with respect to compensation and other payments made to Executive under this Agreement and excise, income, and payroll tax on the “gross-up allowance,” and all penalties and interest thereon. The purpose and effect of the gross-up allowance is to cause Executive to have the same net compensation after income, excise, and payroll taxes that Executive would have if there was no tax under Code § 4999.

                    (b)     Special Definitions. For purposes of this Section, the following specialized terms will have the following meanings:

                    (1)     “Base Period Income.” “Base Period Income” is an amount equal to Executive’s “annualized includable compensation” for the “base period” as defined in Sections 280G(d)(1) and (2) of the Internal Revenue Code of 1986, as amended (the “Code”) and the regulations adopted thereunder. Generally, Executive’s “annualized includable compensation” is the average of his annual taxable income from the Company for the “base period,” which is the five calendar years prior to the year in which the Change of Control occurs.

                    (2)     “Cap” or “280G Cap.” “Cap” or “280G Cap” shall mean an amount equal to 2.99 times Executive’s “Base Period Income.” This is the maximum amount which he may receive without becoming subject to the excise tax imposed by Section 4999 of the Code or which Company may pay without loss of deduction under Section 280G of the Code.

                    (3)     “Total Payments.” The “Total Payments” include any “payments in the nature of compensation” (as defined in Section 280G of the Code and the regulations adopted thereunder), made pursuant to this Agreement or otherwise, to or for Executive’s benefit, the receipt of which is contingent or deemed contingent on a Change of Control and to which Section 280G of the Code applies.

                    (c)     Inclusion of Successor Sections. For purposes of this Section 11, any reference to any Section of the Code shall also be deemed a reference to any Code Section resulting from the modification, amendment, renumbering or replacement of such Code Section.

                    (d)     Effect of Repeal. If the provisions of Sections 280G and 4999 of the Code are repealed without succession, this Section 11 shall be of no further force or effect.

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          12.     Confidential Information. Employee acknowledges that Employee may receive, or contribute to the production of, Confidential Information. For purposes of this Agreement, Employee agrees that “Confidential Information” shall mean any and all information or material proprietary to the Company or designated as Confidential Information by the Company and not generally known by non-Company personnel, which Employee develops or of or to which Employee may obtain knowledge or access through or as a result of Employee’s relationship with the Company (including information conceived, originated, discovered or developed in whole or in part by Employee). Confidential Information includes the following types of information and other information of a similar nature (whether or not reduced to writing) related to the Company’s business: discoveries, inventions, ideas, concepts, research, development, processes, procedures, “know-how,” formulae, marketing or manufacturing techniques and materials, marketing and development plans, business plans, customer names and other information related to customers, price lists, pricing policies, methods of operation, financial information, employee compensation, and computer programs and systems. Confidential Information also includes any information described above which the Company obtains from another party and which the Company treats as proprietary or designates as Confidential Information, whether or not owned by or developed by the Company, including Confidential Information acquired by the Company from any of its Affiliates. Employee acknowledges that the Confidential Information derives independent economic value, actual or potential, from not being generally known to, and not being readily ascertainable by proper means by, other persons who can obtain economic value from its disclosure or use. Information publicly known without breach of this Agreement that is generally employed by the trade at or after the time Employee first learns of such information, or generic information or knowledge which Employee would have learned in the course of similar employment or work elsewhere in the trade, shall not be deemed part of the Confidential Information. Employee further agrees:

                    (a)     To furnish the Company on demand, at any time during or after employment, a complete list of the names and addresses of all present, former and potential suppliers, financing sources, clients, customers and other contacts gained while an employee of the Company in Employee’s possession, whether or not in the possession or within the knowledge of the Company.

                    (b)     That all notes, memoranda, electronic storage, documentation and records in any way incorporating or reflecting any Confidential Information shall belong exclusively to the Company, and Employee agrees to turn over all copies of such materials in Employee’s control to the Company upon request or upon termination of Employee’s employment with the Company.

                    (c)     That while employed by the Company and thereafter Employee will hold in confidence and not directly or indirectly reveal, report, publish, disclose or transfer any of the Confidential Information to any person or entity, or utilize any of the Confidential Information for any purpose, except in the course of Employee’s work for the Company.

                    (d)     That any idea in whole or in part conceived of or made by Employee during the term of his employment, consulting, or similar relationship with the Company which relates directly or indirectly to the Company’s current or planned lines of business and is made through the use of any of the Confidential Information of the Company or any of the Company’s

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equipment, facilities, trade secrets or time, or which results from any work performed by Employee for the Company, shall belong exclusively to the Company and shall be deemed a part of the Confidential Information for purposes of this Agreement. Employee hereby assigns and agrees to assign to the Company all rights in and to such Confidential Information whether for purposes of obtaining patent or copyright protection or otherwise. Employee shall acknowledge and deliver to the Company, without charge to the Company (but at its expense) such written instruments and do such other acts, including giving testimony in support of Employee’s authorship or inventorship, as the case may be, necessary in the opinion of the Company to obtain patents or copyrights or to otherwise protect or vest in the Company the entire right and title in and to the Confidential Information.

          13.     Loyalty During Employment Term. The provisions of this Section shall be applicable only during Employee’s term of employment hereunder. Employee agrees that prior to an Election, Employee will devote substantially all of Employee’s business time and effort to and give undivided loyalty to the Company. Both before and after an Election, Employee will not engage in any way whatsoever, directly or indirectly, in any business that is competitive with the Company or its affiliates, nor solicit, or in any other manner work for or assist any business which is competitive with the Company or its affiliates, except that, after an Election, Employee may work for or assist a division or affiliate of an entity which competes with the Company through one or more separately managed divisions or affiliates so long as Employee has no business responsibilities, relationship or communication with the competing division or affiliate. Both before and after an Election, Employee will undertake no planning for or organization of any business activity competitive with the Company or its affiliates, and Employee will not combine or conspire with any other employee of the Company or any other person for the purpose of organizing any such competitive business activity. However, Employee shall be entitled to make a passive investment in a publicly traded stock of a competitor of the Company so long as he does not at any time own more than 5% of the total outstanding stock of such competitor.

          14.     Non-competition; Non-solicitation. The parties acknowledge that Employee will acquire much knowledge and information concerning the business of the Company and its affiliates as the result of Employee’s employment. The parties further acknowledge that the scope of business in which the Company is engaged as of the date of execution of this Agreement is world-wide and very competitive and one in which few companies can successfully compete. Certain activities by Employee after this Agreement is terminated would severely injure the Company. Accordingly, until one year after Employee resigns pursuant to Section 8(e) or Employee’s employment is terminated for Cause as contemplated by Section 8(a), Employee will not:

                    (a)     Engage in any work activity for or in conjunction with any business or entity that is in competition with or is preparing to compete with the Company;

                    (b)     Persuade or attempt to persuade any potential customer or client to which the Company or any of its Affiliates has made a proposal or sale, or with which the Company or any of its Affiliates has been having discussions, not to transact business with the Company or such Affiliate, or instead to transact business with another person or organization;

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                    (c)     Solicit the business of any customers, financing sources, clients, suppliers, or business patrons of the Company or any of its predecessors or affiliates which were customers, financing sources, clients, suppliers, or business patrons of the Company at any time during Employee’s employment by the Company, or within three years prior to the commencement of Employee’s employment by the Company, provided, however, that if Employee becomes employed by or represents a business that exclusively sells products that do not compete with products then marketed or intended to be marketed by the Company, such contact shall be permissible; or

                    (d)     Solicit, endeavor to entice away from the Company or any of its Affiliates, or otherwise interfere with the relationship of the Company or any of its Affiliates with, any person who is employed by or otherwise engaged to perform services for the Company or any of its Affiliates, whether for Employee’s account or for the account of any other person or organization.

          15.     Injunctive Relief. It is agreed that the restrictions contained in Sections 12, 13 and 14 of this Agreement are reasonable, but it is recognized that damages in the event of the breach of any of those restrictions will be difficult or impossible to ascertain; and, therefore, Employee agrees that, in addition to and without limiting any other right or remedy the Company may have, the Company shall have the right to an injunction against Employee issued by a court of competent jurisdiction enjoining any such breach without showing or proving any actual damage to the Company. This Section shall survive the termination of Employee’s employment.

          16.     Part of Consideration. Employee also agrees, acknowledges, covenants, represents and warrants that he is fully and completely aware that, and further understands that, the restrictive covenants contained in Sections 12, 13 and 14 of this Agreement are an essential part of the consideration for the Company entering into this Agreement and that the Company is entering into this Agreement in full reliance on these acknowledgments, covenants, representations and warranties.

          17.     Time and Territory Reduction. If any of the periods of time and/or territories described in Sections 12, 13 and 14 of this Agreement are held to be in any respect an unreasonable restriction, it is agreed that the court so holding may reduce the territory to which the restriction pertains or the period of time in which it operates or may reduce both such territory and such period, to the minimum extent necessary to render such provision enforceable.

          18.     Survival. The obligations described in Sections 12 and 14 of this Agreement shall survive any termination of this Agreement or any termination of the employment relationship created hereunder.

          19.     Nondelegability of Employee’s Rights and Company Assignment Rights. Except as otherwise provided in this Agreement, the obligations, rights and benefits of Employee hereunder are personal and may not be delegated, assigned or transferred in any manner whatsoever, nor are such obligations, rights or benefits subject to involuntary alienation, assignment or transfer. Upon mutual agreement of the parties, the Company upon reasonable notice to Employee may transfer Employee to an Affiliate of the Company, which Affiliate shall

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assume the obligations of the Company under this Agreement. This Agreement shall be assigned automatically to any entity merging with or acquiring the Company.

          20.     Governing Law. This Agreement shall be governed by and construed and enforced in accordance with the internal laws of the State of Arizona, exclusive of the conflict of law provisions thereof, and the parties agree that any litigation pertaining to this Agreement shall be in courts located in Maricopa County, Arizona.

          21.     Attorneys’ Fees. If any party finds it necessary to employ legal counsel or to bring an action at law or other proceeding against the other party to enforce any of the terms hereof, the party prevailing in any such action or other proceeding shall be paid by the other party its reasonable attorneys’ fees as well as court costs all as determined by the court and not a jury.

          22.     Notices. All notices, demands, instructions, or requests relating to this Agreement shall be in writing and, except as otherwise provided herein, shall be deemed to have been given for all purposes (i) upon personal delivery, (ii) one day after being sent, when sent by professional overnight courier service from and to locations within the Continental United States, (iii) five days after posting when sent by United States registered or certified mail, with return receipt requested and postage paid, or (iv) on the date of transmission when sent by facsimile with a hard-copy confirmation; if directed to the person or entity to which notice is to be given at his or its address set forth in this Agreement or at any other address such person or entity has designated by notice.

To the Company:	OrthoLogic Corp.
	1275 W. Washington St.
	Tempe, AZ 85281
	Attention: Chairman of the Board
To Employee:	Thomas R. Trotter
	1275 W. Washington St.
	Tempe, AZ 85281

          23.     Entire Agreement. This Agreement and the Invention, Confidential Information and Non-Competition Agreement executed in October 1997 constitute the final written expression of all of the agreements between the parties (except those relating to Employee’s service as a director of the Company), and are a complete and exclusive statement of those terms. They supersede all understandings and negotiations concerning the matters specified herein. Any representations, promises, warranties or statements made by either party that differ in any way from the terms of these two written Agreements shall be given no force or effect. The parties specifically represent, each to the other, that there are no additional or supplemental agreements between them related in any way to the matters herein contained unless specifically included or referred to herein. No addition to or modification of any provision of either of such Agreements shall be binding upon any party unless made in writing and signed by all parties. To the extent that there is any conflict between this Agreement and the Invention, Confidential Information and Non-Competition Agreement, the provisions of this Agreement shall govern.

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          24.     Exhibits. All Exhibits to this Agreement are incorporated herein by this reference as though fully set forth herein. In the event of any conflict, contradiction or ambiguity between the terms and conditions in this Agreement and any of its Exhibits, schedules or attachments, the terms of this Agreement shall prevail.

          25.     Construction. The language in all parts of this Agreement shall in all cases be construed as a whole according to its fair meaning and not strictly for or against either party. The Section headings contained in this Agreement are for reference purposes only and will not affect the meaning or interpretation of this Agreement in any way. All terms used in one number or gender shall be construed to include any other number or gender as the context may require. The parties agree that each party has reviewed this Agreement and has had the opportunity to have counsel review the same and that any rule of construction to the effect that ambiguities are to be resolved against the drafting party shall not apply in the interpretation of this Agreement or any amendment or any exhibits thereto. Whenever the words “include,” “includes,” or “including” are used in the Agreement, they shall be deemed to be followed by the words “without limitation.

          26.     Waiver. The waiver by either party of the breach of any covenant or provision in this Agreement shall not operate or be construed as a waiver of any subsequent breach by either party.

          27.     Invalidity of Any Provision. The provisions of this Agreement are severable, it being the intention of the parties hereto that should any provisions hereof be invalid or unenforceable, such invalidity or unenforceability of any provision shall not affect the remaining provisions hereof, but the same shall remain in full force and effect as if such invalid or unenforceable provisions were omitted.

          28.     Counterparts. This Agreement may be executed simultaneously in any number of counterparts, each of which shall be deemed an original but all of which together shall constitute one and the same agreement.

          29.     Binding Effect; Benefits. This Agreement shall be binding upon and shall inure to the benefit of the parties hereto and their respective heirs, successors, executors, administrators and assigns. Notwithstanding anything contained in this Agreement to the contrary, nothing in this Agreement, expressed or implied, is intended to confer on any person other than the parties hereto or their respective heirs, successors, executors, administrators and assigns any rights, remedies, obligations or liabilities under or by reason of this Agreement.

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          This Agreement has been executed by the parties as of July 15, 2002.

ORTHOLOGIC CORP
(the “Company”)
By:	/s/ John M. Holliman, III
	John M. Holliman, III
	Chairman of the Board
THOMAS R. TROTTER
By:	/s/ Thomas R. Trotter
	“Employee”

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EXHIBIT “A”

DEFINITIONS

I.        DEFINITIONS

          Capitalized terms used in this Exhibit A and not otherwise defined herein shall have the meanings assigned to them in the Agreement to which this Exhibit A is attached (the “Agreement”). Additionally, the following terms shall have the meanings set forth below.

          “Affiliate,” means an entity affiliated with the Company.

          “Change in Control”. For purposes of this Agreement, a “Change in Control” means any one or more of the following events (except for a Sale of the Bone-Stimulation Business):

          (1)     When the individuals who, at the beginning of any period of two years or less, constituted the Board cease, for any reason, to constitute at least a majority thereof unless the election or nomination for election of each new director was approved by the vote of at least two thirds of the directors then still in office who were directors at the beginning of such period;

          (2)     A change of control of the Company through a transaction or series of transactions, such that any person (as that term is used in Section 13 and 14(d)(2) of the Securities Exchange Act of 1934 [“1934 Act”]), excluding Affiliates of the Company as of the Effective Date, is or becomes the beneficial owner (as that term is used in Section 13[d] of the 1934 Act) directly or indirectly, of securities of the Company representing 20% or more of the combined voting power of the Company’s then outstanding securities;

          (3)     Any merger, consolidation or liquidation of the Company in which the Company is not the continuing or surviving company or pursuant to which stock would be converted into cash, securities or other property, other than a merger of the Company in which the holders of the shares of stock immediately before the merger have the same proportionate ownership of common stock of the surviving company immediately after the merger;

          (4)     The shareholders of the Company approve any plan or proposal for the liquidation or dissolution of the Company; or

          Substantially all of the assets of the Company are sold or otherwise transferred to parties that are not within a “controlled group of corporations” (as defined in Section 1563 of the Internal Revenue Code of 1986, as amended (the “Code”) in which Parent is a member prior to such sale or transfer.

          (5)     “Code,” means the Internal Revenue Code of 1986, as amended.

          (6)     “Sale of the Bone-Stimulation Business.” For purposes of this Agreement, a “Sale of the Bone-Stimulation Business” shall be deemed to have occurred if the Company sells or disposes of (in one transaction or a series of transactions) all or substantially all of the long-bone and spinal stimulation businesses presently conducted by the Company.

EXHIBIT B

CALCULATION OF SPECIAL BONUSES

I.       BONUS AFTER A CHANGE IN CONTROL

          Upon the closing of a Change in Control while he is still an employee of the Company, Employee shall be entitled to receive, as a lump sum, a special bonus payment according to the following schedule:

          *****

          If the net per share price falls between targets listed above, a straight-line interpolation of the lump sum bonus amount shall occur.

II.      BONUS AFTER A SALE OF THE BONE-STIMULATION BUSINESS

          Upon the closing of a Sale of the Bone-Stimulation Business while he is still an employee of the Company, Employee shall be entitled to receive, as a lump sum, a special bonus payment equal to one-half of 1% of the selling price.

**Text has been omitted pursuant to a confidentiality request. Omitted text has been filed with the Securities & Exchange Commission.

EX-10.2 6 p68477exv10w2.htm EX-10.2

Exhibit 10.2

FIRST AMENDMENT TO
AMENDED AND RESTATED
EMPLOYMENT AGREEMENT

               This First Amendment to the Amended and Restated Employment Agreement (the “Agreement”) dated July 15, 2002, by and between OrthoLogic Corp., a Delaware corporation (the “Company”), and Thomas R. Trotter (“Employee”) shall be effective as of August 30, 2003.

RECITALS:

          A. Employee has been employed by the Company in the position of President/CEO, pursuant to the Agreement.

          B. The parties now wish to amend certain provisions of the Agreement.

AGREEMENTS:

          The parties hereby agree to amend the Agreement as follows:

          1. Section 3(a):

          Section 3(a) of the Agreement is amended by replacing the phrase “begin a two-year transition” with the phrase “begin a three-year transition,” and by adding at the end thereof the following:

“and the date on which an Election is made is referred to in this Agreement as the “Election Date.”

          2. Section 3(c):

               Section 3(c) of the Agreement is amended and restated to read in its entirety as follows

     “(c) Duties After an Election. Effective immediately upon an Election, Employee will report to the Company’s President and CEO or to the Board as determined by the Board. Employee shall not have an official title or any set work hours. While various projects assigned to Employee may require more or less time within any given month, it is contemplated that, without his consent, Employee will not be asked to work on Company matters for more than the following: (i) during the period commencing on the Election Date and ending on the later of (A) the first anniversary of the Election Date or (B) December 31, 2004, 6 days per quarter or 24 days total; (ii) during the 12-month period following the period described in the foregoing clause (i), 3 days per quarter or 12 days total; and (iii) during the 12-month period following the period described in the foregoing clause (ii), 1 day per quarter or 4 days total. Effective upon an Election, Employee hereby resigns as an officer of the Company. Employee understands that from and after the Election, and until the end of the term of this Agreement, the Company will not provide him with an office, but will provide

**** Text has been omitted pursuant to a confidentiality request. Omitted text has been filed with the Securities & Exchange Commission.

reasonable secretarial and other staff support and will provide ancillary office equipment such as a fax machine, dictating equipment and a desk-top computer that Employee may continue to use until the end of the term at another location selected by him. After an Election, Employee shall not be entitled to use any Company owned or supported laptop computers or cell phones except to the extent required by specific projects assigned to Employee. It is expected that, subject to a contrary determination by the Board in its sole discretion, Employee will be assigned primary responsibility for completing the Sale of the Bone Stimulation Business during the period ending December 31, 2004, if such sale has not been completed prior to the Election Date.

At the Company’s option, Employee agrees to continue serving as a director of the Company after the Election Date and until December 31, 2004 to assist in the transition to a new CEO and President, and Employee consents to being named as a nominee in any proxy statement of the Company relating to the election of directors for a term prior to December 31, 2004. Employee agrees to resign as a director of the Company on December 31, 2004.

          3. Section 4:

          Section 4 of the Agreement is amended by replacing the sentence “Upon an Election, the term of Employee’s employment by the Company shall convert automatically to a two-year term beginning on the date of such Election,” with the following sentence:

“Upon an Election, the term of Employee’s employment by the Company shall convert automatically to a term beginning on the Election Date and ending on the later of the third anniversary of the Election Date or December 31, 2006.”

          4. Section 5(a):

          Section 5(a) of the Agreement is amended and restated to read in its entirety as follows:

     “(a) Salary. (i) Before an Election, the Company shall pay Employee a minimum base annual salary, before deducting all applicable withholdings, of $330,000 per year, payable at the times and in the manner dictated by the Company’s standard payroll policies. The minimum base annual salary shall be reviewed annually, at the end of the Company’s fiscal year, by the Compensation Committee of the Board and may be increased, but shall not be decreased; (ii) during the period commencing on the Election Date and ending on the later of the first anniversary of the Election Date or December 31, 2004, Employee’s base annual salary shall remain at the same level as it was on the Election Date; (iii) during the 12 months following the period described in the foregoing clause (ii), Employee’s base annual salary shall be $330,000, regardless of the level of base annual salary being paid to Employee prior to the Election Date; and (iv) during the 12 months following the period described in the foregoing clause (iii),

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Employee’s base annual salary shall be $100,000, regardless of the level of base annual salary being paid to Employee prior to the Election Date.”

          5. Section 5(b).

          Clause (iii) of Section 5(b) is amended by adding at the end thereof the following text:

“; provided, that if the Election Date occurs prior to December 31, 2003, Employee’s incentive bonus pursuant to the Company’s incentive bonus program for 2003 will be calculated as if Employee served as President/CEO for all of 2003.”

          6. Section 6.

          Section 6 of the Agreement is amended by adding at the end thereof the following text:

“Upon Employee’s acceptance of employment with another employer in connection with which Employee works, or is expected to work, 1,000 hours or more per year, Employee shall no longer be entitled to participate in any health, dental, retirement or other employee benefit plans of the Company. During the term of Employee’s employment under this Agreement, Employee shall be considered as an employee for the purposes of any Company stock option plans.”

          7. Section 8(a).

               The second sentence of Section 8(a) is amended and restated to read in its entirety as follows:

“In the event of termination for Cause, the Company’s sole obligation under this agreement shall be to pay Employee the minimum base salary due him through the date of termination and thereafter Employee shall not be entitled to any incentive bonus, special bonus or other benefit or payment whatsoever hereunder.”

          8. Section 10(a).

          Section 10(a) of the Agreement is amended and restated in its entirety to read as follows:

“(a)  On or After December 31, 2003. Employee may make an Election at any time on or after December 31, 2003.”

          9.  Section 10(b).

          The heading and first sentence of Section 10(b) of the Agreement are amended and restated to read in their entirety as follows:

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“(b) Before December 31, 2003. Employee shall be entitled to make an Election before December 31, 2003 only if ‘Good Reason’ exists.”

          10. Exhibit B

          Section I of Exhibit B to the Agreement is amended and restated in its entirety to read as set forth on the attached Exhibit B.

          11. Miscellaneous

          Except as amended above, the Agreement remains in full force and effect.

          This First Amendment to the Agreement may be executed in multiple counterparts, each of which shall be deemed to be an original, and all such counterparts shall constitute but one instrument.

          This First Amendment to the Agreement has been executed by the parties as of August 30, 2003.

ORTHOLOGIC CORP. (the “Company”)
By:	/s/ John M. Holliman, III
	John M. Holliman, III Chairman of the Board
THOMAS R. TROTTER
By:	/s/ Thomas R. Trotter
	“Employee”

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EXHIBIT B

CALCULATION OF SPECIAL BONUSES

I. BONUS AFTER A CHANGE IN CONTROL

     Upon the closing of a Change in Control prior to the Election Date, Employee shall be entitled to receive, as a lump sum, a special bonus payment according to the following schedule:

     ****

     If the net per share price falls between targets listed above, a straight-line interpolation of the lump sum bonus amount shall occur. The net per share prices described above shall be equitably adjusted to reflect any recapitalization, reclassification, stock split, stock combination or the like occurring prior to the Change in Control.

     In addition, Employee shall be entitled to receive the foregoing special bonus payment upon the closing of a Change in Control after the Election Date and before December 31, 2004, if the Change of Control involves the acquisition of a majority of the voting power of the Company’s outstanding common stock or substantially all the assets of the Company by any party with whom the Company, prior to the Election Date, had engaged in substantive discussions in respect of either (i) such transaction or (ii) a Sale of the Bone Stimulation Business.

II. BONUS AFTER A SALE OF THE BONE-STIMULATION BUSINESS

     Upon the closing of a Sale of the Bone-Stimulation Business prior to the Election Date, or after the Election Date and prior to December 31, 2004, Employee shall be entitled to receive, as a lump sum, a special bonus payment equal to one-half of 1% of the selling price.

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Exhibit 31.1

Certification of CEO Pursuant to Securities Exchange Act Rules 13a – 14 and 15d – 14 as

Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, Thomas R. Trotter, the Chief Executive Officer of OrthoLogic Corp., certify that:

1.     I have reviewed this quarterly report on Form 10-Q of OrthoLogic Corp.;

2.     Based on my knowledge, this 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 report;

3.     Based on my knowledge, the financial statements, and other financial information included in this 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 report;

4.     The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, 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 report is being prepared;

b) evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

c) disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.     The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: November 14, 2003

/s/ Thomas R. Trotter

Thomas R. Trotter

President and Chief Executive Officer

EX-31.2 8 p68477exv31w2.htm EX-31.2

Exhibit 31.2

Certification of CFO Pursuant to Securities Exchange Act Rules 13a – 14 and 15d – 14 as

Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

I, Sherry A. Sturman, the Chief Financial Officer of OrthoLogic Corp., certify that:

1.     I have reviewed this quarterly report on Form 10-Q of OrthoLogic Corp.;

2.     Based on my knowledge, this 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 report;

3.     Based on my knowledge, the financial statements, and other financial information included in this 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 report;

4.     The registrant’s other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and have:

a) designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, 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 report is being prepared;

b) evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

c) disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting; and

5.     The registrant’s other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

a) all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and

b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.

Date: November 14, 2003

/s/ Sherry A. Sturman

Sherry A. Sturman

Chief Financial Officer

EX-32 9 p68477exv32.htm EX-32

Exhibit 32

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 Quarterly Report of OrthoLogic Corp. (the “Company ”) on Form 10-Q for the period ended September 30, 2003 as filed with the Securities and Exchange Commission on the date hereof (the “Report”), each of, Thomas R. Trotter, Chief Executive Officer of the Company, and Sherry A. Sturman, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. §1350, as adopted pursuant to §906 of the Sarbanes-Oxley Act of 2002, that to the best of his or her respective 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.

Date: November 14, 2003

/s/ Thomas R. Trotter

Thomas R. Trotter

President and Chief Executive Officer

/s/ Sherry A. Sturman

Sherry A. Sturman

Chief Financial Officer

A signed original of this written statement required by Section 906, or other document authenticating, acknowledging, or otherwise adopting the signature that appears in typed form within the electronic version of this written statement required by Section 906, has been provided to OrthoLogic Corp. and will be retained by OrthoLogic Corp. and furnished to the Securities and Exchange Commission or its staff upon request.

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