-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Eow2IBb2zNvwO0MZpi54967+pFpffWzwGJNK4lfItjPIYb82pGfI1clVACekLOcf OItnI/+bEe27xGpj4yo85Q== 0000950144-99-013172.txt : 19991117 0000950144-99-013172.hdr.sgml : 19991117 ACCESSION NUMBER: 0000950144-99-013172 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 19990930 FILED AS OF DATE: 19991115 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SPECTRX INC CENTRAL INDEX KEY: 0000924515 STANDARD INDUSTRIAL CLASSIFICATION: ELECTROMEDICAL & ELECTROTHERAPEUTIC APPARATUS [3845] IRS NUMBER: 582029543 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-22179 FILM NUMBER: 99753400 BUSINESS ADDRESS: STREET 1: 6025 A UNITY DRIVE CITY: NORCROSS STATE: GA ZIP: 30071 BUSINESS PHONE: 7702428723 MAIL ADDRESS: STREET 1: 6025 A UNITY DRIVE CITY: NORCROSS STATE: GA ZIP: 30071 10-Q 1 SPECTRX, INC. 1 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1999 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: 0-22179 SPECTRX, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 58-2029543 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER) 6025A UNITY DRIVE NORCROSS, GEORGIA 30071 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES, INCLUDING ZIP CODE) (770) 242-8723 (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) Indicate by check mark whether the Registrant(1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such requirements for the past 90 days. YES [X] NO [ ] The number of issued and outstanding shares of the Registrant's Common Stock, $0.001 par value, as of September 30, 1999, was 8,044,693. 2 SPECTRX, INC. INDEX
PAGE NO. -------- PART I. FINANCIAL INFORMATION ..................................................................... 3 ITEM 1. FINANCIAL STATEMENTS .............................................................. BALANCE SHEETS - DECEMBER 31, 1998 AND SEPTEMBER 30, 1999 .......................................... 3 STATEMENTS OF OPERATIONS - THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1999 .......... 4 STATEMENTS OF CASH FLOWS - NINE MONTHS ENDED SEPTEMBER 30, 1998 AND 1999 ........................... 5 NOTES TO FINANCIAL STATEMENTS ..................................................... 6 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS ......................................................... 7 ITEM 3. QUANTITIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK .......................... 19 PART II. OTHER INFORMATION ......................................................................... 20 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K .................................................. 20 SIGNATURES ......................................................................................... 21 EXHIBIT INDEX ...................................................................................... 22
3 PART 1. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS SPECTRX, INC. BALANCE SHEETS (IN THOUSANDS, EXCEPT PER SHARE DATA)
DECEMBER 31, SEPTEMBER 30, 1998 1999 (UNAUDITED) ------------ ---------------- ASSETS CURRENT ASSETS Cash & Cash Equivalents $ 4,962 $ 964 Accounts Receivable 683 775 Inventory 404 452 Other Current Assets 119 72 ---------- ---------- Total Current Assets 6,168 2,263 PROPERTY & EQUIPMENT, Net of Accumulated Depreciation of $837 and $1,092 in 1998 and 1999 respectively 973 895 ---------- ---------- OTHER ASSETS Other Assets 42 22 Due from related parties 471 492 ---------- ---------- Total Other Assets 513 514 ---------- ---------- TOTAL ASSETS $ 7,654 $ 3,672 ========== ========== LIABILITIES & STOCKHOLDERS EQUITY CURRENT LIABILITIES Accounts Payable $ 436 $ 420 Accrued Liabilities 399 1,330 ---------- ---------- Total Current Liabilities 835 1,750 CUSTOMER ADVANCE 0 381 STOCKHOLDERS' EQUITY Common Stock 8 8 Additional paid-in-capital 25,761 25,825 Deferred comp (134) (77) Accumulated deficit (18,785) (24,184) Notes Receivable from officers (31) (31) ---------- ---------- Total Stockholders' equity 6,819 1,541 ---------- ---------- TOTAL LIABILITIES & EQUITY $ 7,654 $ 3,672 ========== ==========
4 UNAUDITED STATEMENT OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA) SPECTRX STATEMENT OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS NINE MONTHS ENDED SEPTEMBER 30 ENDED SEPTEMBER 30, 1998 1999 1998 1999 --------- --------- --------- --------- REVENUE Product Sales $ 194 $ 380 $ 483 $ 990 Collaborative agreements 183 1,000 333 1,100 ------------------------- --------- --------- TOTAL 377 1,380 816 2,090 ------------------------- --------- --------- EXPENSES Cost of Sales 382 454 1,093 1,197 Research & development 1,063 1,212 3,038 3,783 Sales & marketing 232 221 804 666 General & administrative 564 634 1,715 1,940 --------- --------- --------- --------- Total 2,241 2,521 6,650 7,586 ------------------------- --------- --------- Operating (loss) (1,864) (1,141) (5,834) (5,496) OTHER EXPENSE (INCOME) (633) 3 (325) 14 INTEREST EXPENSE (INCOME) (96) (23) (379) (111) ------------------------- ------------------------- NET LOSS $ (1,135) $ (1,121) $ (5,130) $ (5,399) ========= ========= ========= ========= NET (LOSS) PER SHARE BASIC $ (0.14) $ (0.14) $ (0.65) $ (0.67) ========= ========= ========= ========= DILUTED $ (0.14) $ (0.14) $ (0.65) $ (0.67) ========= ========= ========= ========= WEIGHTED COMMON EQUIVALENT SHARES OUTSTANDING BASIC 8,001 8,030 7,897 8,024 ========= ========= ========= ========= DILUTED 8,001 8,030 7,897 8,024 ========= ========= ========= =========
5 SPECTRX, INC. UNAUDITED STATEMENT OF CASH FLOWS (IN THOUSANDS, EXCEPT PER SHARE DATA)
Nine Months Ended September 30, 1998 1999 ---------- ---------- CASH FLOWS FROM OPERATING ACTIVITIES: Net Loss ............................................................... $ (5,130) $ (5,399) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization ............................... 277 275 Minority Interest in Loss of FluorRx ........................ (329) 0 Amortization of deferred compensation ....................... 63 57 Changes in assets and liabilities: Accounts receivable .................................. 193 (92) Inventory ............................................ (144) (48) Other assets ......................................... (98) 47 Due from related parties ............................. (22) (21) Accounts payable ..................................... (360) (16) Accrued liabilities .................................. 142 931 ---------- ---------- Total adjustments ................................. (278) 1,133 Net cash used in operating activities ............. (5,408) (4,266) ---------- ---------- CASH FLOW FROM INVESTING ACTIVITIES: Additions to property, plant, and equipment ....................... (280) (177) ---------- ---------- Net cash used in investing activities ............. (280) (177) ---------- ---------- CASH FLOW FROM FINANCING ACTIVITIES: Issuance of common stock (net of issuance costs) .................. 95 64 Note Payable ...................................................... 0 381 ---------- ---------- Net cash provided by financing activities ......... 95 445 ---------- ---------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS .................................................. (5,593) (3,998) CASH AND CASH EQUIVALENTS, beginning of period ......................... 12,124 4,962 ---------- ---------- ---------- ---------- CASH AND CASH EQUIVALENTS, end of period ............................... $ 6,531 $ 964 ========== ==========
6 NOTES TO FINANCIAL STATEMENTS (UNAUDITED) 1. BASIS OF PRESENTATION The interim financial statements included herein have been prepared by the Company without audit. These statements reflect all adjustments, all of which are of a normal, recurring nature, which are, in the opinion of management, necessary to present fairly the consolidated financial position as of September 30, 1999, the consolidated results of operations for the three months and nine months ended September 30, 1998 and 1999, and the consolidated cash flows for the nine months ended September 30, 1998 and 1999. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted. The accounting policies of the Company continue unchanged from December 31, 1998. The Company believes that the disclosures are adequate to make the information presented not misleading. It is suggested that these financial statements be read in conjunction with the December 31, 1998 financial statements and notes thereto included in the Company's Annual Report on Form 10K. The results of operations for the nine months ended September 30, 1998 and 1999 are not necessarily indicative of the results to be expected for the full fiscal year. 2. FLUORRX In December 1996, SpectRx (the "Company") sublicensed certain technology to and acquired a 64.8% interest in FluorRx, a corporation organized for the purpose of developing and commercializing technology related to fluorescence spectroscopy. The Company's interest in FluorRx, Inc. is represented by two seats on the board of directors and 129,000 shares of convertible preferred stock purchased for $250,000. In December 1997, March 1998, and August 1998, FluorRx sold additional convertible preferred stock for net cash proceeds of $521,000,$429,000, and $511,000 respectively. The issuance of additional preferred stock reduced the Company's ownership (on an as converted basis) to 45%. Effective with the August 1998 funding, the Company began accounting for its investment in FluorRx under the equity method of accounting. In connection therewith, the Company began suspending the equity losses from its investment in FluorRx. The accompanying Statement of Operations for the nine months ended September 30, 1999 exclude $284,000 in losses which represents the Company's 45% equity in the loss of FluorRx. Cumulative suspended equity losses as of September 30, 1999 amount to $1,075,000. 3. COMPREHENSIVE INCOME The Company currently has no other Comprehensive Income items as defined by SFAS No. 130. 4. SUBSEQUENT EVENTS The Company announced in October, 1999, that it had been awarded a $292,000 grant from the Centers for Disease Control and Prevention (CDC) to adapt its continuous glucose monitoring technology to monitor blood sugar levels of children and elderly people who have diabetes. The Company expects to receive amounts under the grant over the next 12 months. 7 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Statements in this report which express "belief", "anticipation" or "expectation" as well as other statements which are not historical fact are forward looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These forward looking statements are subject to certain risks and uncertainties that could cause actual results to differ materially from historical results or anticipated results, including those set forth under "Risk Factors" in this "Management's Discussion and Analysis of Financial Condition and Results of Operations" and elsewhere in or incorporated by reference into this report. The following discussion should be read in conjunction with the Company's Financial Statements and Notes thereto included elsewhere in this report. OVERVIEW SpectRx was incorporated on October 27, 1992, and since that date has raised capital through the sale of preferred stock, issuance of debt securities, the public sale of common stock and funding from collaborative arrangements. Following its initial funding in early 1993, the Company immediately began research and development activities with the objective of commercializing less invasive diagnostic, screening and monitoring products. As part of its business strategy, the Company has selectively established arrangements with leading medical device companies for the development, commercialization and introduction of its products. The company has entered into collaborative arrangements with Abbott, Roche Diagnostics, Respironics, (a successor to Healthdyne Technologies, Inc.) and Welch Allyn for its glucose monitoring, diabetes detection, infant jaundice and cancer detection products, respectively. In December 1996, the Company sublicensed certain technology to and acquired a 64.8% interest in FluorRx, Inc., a Delaware corporation formed for the purpose of developing and commercializing technology related to fluorescence spectroscopy. At September 30, 1999, as a result of a subsequent financing, the Company's interest in FluorRx was 45%. The Company has a limited operating history upon which its prospects can be evaluated. Such prospects must be considered in light of the substantial risks, expenses and difficulties encountered by entrants into the medical device industry, which is characterized by an increasing number of participants, intense competition and a high failure rate. The Company has experienced operating losses since its inception, and, as of September 30, 1999, the Company had an accumulated deficit of approximately $24.2 million. To date, the Company has engaged primarily in research and development efforts. The Company first generated revenues from product sales in 1998 and does not have significant experience in manufacturing, marketing or selling its products. There can be no assurance that the Company's development efforts will result in commercially viable products, that the Company will be successful in introducing its products, or that required regulatory clearances or approvals will be obtained in a timely manner, or at all. There can be no assurance that the Company's products will ever gain market acceptance or that the Company will ever generate significant revenues or achieve profitability. The development and commercialization of its products will require substantial development, regulatory, sales and marketing, manufacturing and other expenditures. The Company expects its operating losses to continue through 2000 as it continues to expend substantial resources to complete development of its products, obtain regulatory clearances or approvals, build its marketing, sales, manufacturing and finance organizations and conduct further research and development. The majority of the Company's revenues and profits are expected to be derived from royalties and manufacturing profits that the Company will receive from Abbott, Roche Diagnostics and Respironics resulting from sales of its glucose monitoring, diabetes detection and infant jaundice products, respectively. The royalties and manufacturing profits that the Company is expected to receive from each of its collaborative partners depend on sales of such products. There can be no assurance that the Company, together with its collaborative partners, will be able to sell sufficient volumes of the Company's products to generate substantial royalties and manufacturing profits for the Company. The Company has entered into collaborative arrangements with Abbott, Roche Diagnostics, Respironics, and Welch Allyn. The agreements evidencing these collaborative arrangements grant a substantial amount of discretion to each collaborative partner. If one or more of the Company's collaborative partners were to terminate its arrangement with the Company, the Company would either need to reach agreement with a replacement collaborative partner or undertake at its own expense the activities handled by its collaborative partner prior to such termination, which would require the Company to develop expertise it does not currently possess, would significantly increase the Company's capital requirements and would limit the programs the Company could pursue. The Company would likely encounter significant delays in introducing its products and the development, manufacture and sales of its products would be adversely affected by the absence of such 8 collaborative arrangements. The termination of any of the Company's collaborative arrangements would have a material adverse effect on the Company's business, financial condition and results of operations. QUARTER OVERVIEW In addition to the results from operations discussed below, the Company announced several items. In July it announced that it had entered into a new license and marketing agreement with Roche Diagnostics for the diabetes detection device. In August, the Company and Welch Allyn, its partner for the development of the cervical cancer detection device, announced that the prototypes under development had shown the potential to identify cervical cancer without taking a tissue sample and that the companies planned expanded studies. In September SpectRx announced achievement of milestones related to diabetes detection including the completion of key device tests and the delivery of units to Roche. RESULTS OF OPERATIONS COMPARISON OF THE THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998. General. Net losses remained constant at $1.1 million during the three months ended September 30, 1999 as compared to the same period in 1998 due to an increase in milestone revenues offset by a decrease in other revenue from the deconsolidation of FluorRx, Inc. The Company expects similar net losses to continue. Revenue. The Company has historically received the majority of its revenue from achieving development milestones with one or more of its strategic partners. The Company began shipping its infant jaundice product to distributors outside of the United States and Canada during the quarter ended June 30, 1998, and began shipping its infant jaundice product to its distributor in Canada during the quarter ended September 30, 1998. Revenue increased to $1,380,000 for the quarter ended September 30, 1999 from $377,000 for the same period of 1998. Milestone revenue, which is event-based rather than sales-based, increased to $1,000,000 during the three months ended September 30, 1999 from $183,000 during the same period in 1998 primarily due to milestones accomplished on SpectRx's diabetes detection device. Cost of Sales. Cost of sales was $454,000 for the three months ended September 30, 1999 versus $382,000 during the same period of 1998. While the cost of sales increase is directly related to product revenue, a portion of the cost of sales represents excess capacity production charges which were higher in this period in 1998. The Company expects excess capacity to exist for the remainder of this year. Research and Development Expenses. Research and development expenses increased to approximately $1,212,000 during the three months ended September 30, 1999 from approximately $1,063,000 during the same period in 1998. The increase in research and development expenses was primarily due to expansion of research in glucose monitoring, diabetes and cancer detection, including increases in the cost to build prototypes of its developmental products, and a decrease in the amounts reimbursed by its collaborative partners. The Company expects research and development expenses to increase in the future as it continues development and expands clinical trials for its products. Sales and Marketing Expenses. Sales and marketing expenses remained level at $221,000 during the three months ended September 30, 1999 from approximately $232,000 during the same period in 1998. Marketing expenses, however, are expected to increase in the future as BiliChek(TM) sales expand geographically. General and Administrative Expenses. General and administrative expenses increased to approximately $634,000 during the three months ended September 30, 1999 compared to the approximately $564,000 incurred during the same period in 1998. The increase is primarily due to an increase in insurance costs associated with new product sales, overhead costs associated with research and development activities and, to a lesser extent, expenses associated with being a public company. General and administrative expenses are expected to increase in the future. 9 Net Interest and Other Income. Net interest and other income decreased to $20,000 during the three months ended September 30, 1999 from $729,000 during the same period in 1998. This decrease results from a combination of two elements: (1) a decrease in other income from the 3rd quarter of 1998, when SpectRx realized $633,000 from not consolidating FluorRx losses because the Company's ownership dropped below 50% during that quarter and (2) a decrease in interest income to $23,000 for the three months ended September 30, 1999 from $96,000 during the same period during 1998 due to the decrease in the cash balances during 1999 versus the same period in 1998. COMPARISON OF THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998. General. Net losses increased slightly to approximately $5.4 million during the nine months ended September 30, 1999 from approximately $5.1 million during the same period in 1998 primarily due to an increase in research and development expenses and general and administrative expenses. Revenue. The Company began shipping its infant jaundice product to distributors outside of the United States and Canada during the quarter ended June 30, 1998. The increase in revenue to $2,090,000 in the nine months ended September 30, 1999 versus $816,000 in the same period in 1998 is a result of having realized product revenue for three quarters of 1999 versus two in 1998 ($990,000 in 1999 vs. $483,000 in 1998), and the achievement of greater milestones ($1,000,000 in 1999 vs. $333,000 in 1998.) Cost of Sales. Cost of sales was $1,197,000 for the nine months ended September 30, 1999 versus $1,093,000 during the same period of 1998. The increase in cost is due to increased unit sales in 1999; excess capacity charges in production decreased in 1999 as compared to the same period in 1998. Research and development expenses. Research and development expenses increased to approximately $3.8 million during the nine months ended September 30,1999 from approximately $3.0 million during the same period in 1998. The increase in research and development expenses was primarily due to expansion of research in continuous glucose monitoring and cancer detection, including increases in the cost to build prototypes of its developmental products, and a decrease in the amounts reimbursed by its collaborative partners. Sales and marketing expenses. Sales and marketing expenses decreased to approximately $666,000 during the nine months ended September 30, 1999 from approximately $804,000 during the same period in 1998. The decrease was primarily due to not incurring the level of costs that were associated with the initial rollout of the Company's infant jaundice product in 1998. General and administrative expenses. General and administrative expenses increased to approximately $1.9 million during the nine months ended September 30,1999 compared to the approximately $1.7 million incurred during the same period in 1998. The increase is primarily due to an increase in insurance costs associated with new product sales, overhead costs associated with research and development activities and, to a lesser extent, expenses associated with being a public company. Net interest and other income. Net interest and other income decreased to $97,000 during the nine months ended September 30, 1999 from $704,000 during the same period in 1998. This decrease results from lesser interest income and no positive effect from the deconsolidation of FluorRx. 10 LIQUIDITY AND CAPITAL RESOURCES The Company has financed its operations since inception primarily through private sales of its debt and private and public sales of its equity securities. From October 27, 1992 (inception) through September 30, 1999, the Company received approximately $25.8 million in net proceeds from sales of its debt and equity securities. At September 30, 1999, the Company had cash of approximately $1.0 million and working capital of approximately $0.5 million. The Company completed an initial public offering of its common stock on July 7, 1997 which resulted in net proceeds received by the Company, before expenses related to the transaction, of approximately $14.0 million. The Company currently invests its excess cash balances primarily in short-term, investment-grade, interest-bearing obligations until such funds are utilized in operations. Substantial capital will be required to develop the Company's products, including completing product testing and clinical trials, obtaining all required United States and foreign regulatory approvals and clearances, commencing and scaling up manufacturing and marketing its products. Any failure of the Company's collaborative partners to fund its development expenditures would have a material adverse effect on the Company's business, financial condition and results of operations. In addition to funds that the Company expects to be provided by its collaborative partners, the Company may be required to raise additional funds through public or private financing, additional collaborative relationships or other arrangements. Assuming the Company meets its milestones under its agreements with its strategic collaborators and completes planned new agreements with those partners, the Company believes that its existing capital resources will be sufficient to satisfy its funding requirements for at least the next nine months, but may not be sufficient to fund the Company's operations to the point of commercial introduction of its glucose monitoring product. However, there can be no assurance that the Company will meet its milestones or receive payments from its strategic collaborators or that it will enter into new agreements or receive any related payments. The Company is evaluating a variety of alternatives for additional funding including its collaborative arrangements. OTHER MATTERS It is possible that the Company's currently installed computer systems, software products or other business systems, or those of the Company's customers, vendors or resellers, working either alone or in conjunction with other software or systems, will not accept input of, store, manipulate and output dates for the years 1999, 2000 or thereafter without error or interruption (commonly known as the "Year 2000" problem). The Company has conducted a review of its business systems, including its computer systems, and is querying its customers, vendors and resellers as to their progress in identifying and addressing problems that their computer systems may face in correctly interrelating and processing date information as the year 2000 approaches and is reached. However, there can be no assurance that the Company will identify all such Year 2000 problems in its computer systems or those of its customers, vendors or resellers in advance of their occurrence or that the Company will be able to successfully remedy any problems that are discovered. The expenses of the Company's efforts to identify and address such problems, or the expenses or liabilities to which the Company may become subject as a result of such problems, could have a material adverse effect on the Company's business, financial condition and results of operations. The Company estimates its potential expense related to Year 2000 problems, including delayed revenues, increased working capital, new purchased systems, testing and internal coding of certain software applications is between $150,000 and $200,000, though there can be no absolute assurance that the Company has anticipated all such costs. In addition, the Company has established contingency plans including production schedules, inventory planning, identification of alternate sources of supply and backup administrative systems, though there can be no assurance that the Company has identified all such areas that might need contingency planning. The revenue stream and financial stability of existing customers may be adversely impacted by Year 2000 problems, which could cause fluctuations in the Company's revenues. In addition, failure of the Company to identify and remedy Year 2000 problems could put the Company at a competitive disadvantage relative to companies that have corrected such problems. 11 RISK FACTORS The following risk factors should be considered carefully in addition to the other information presented in this report. This report contains forward looking statements that involve risks and uncertainties. The Company's actual results may differ significantly from the results discussed in the forward looking statements. Factors that might cause such differences include, but are not limited to, the following risk factors. Early Stage of Development; No Assurance of Successful Product Development To date, the Company has released for sale one product line. For the remainder of its expected products, the company has only tested prototypes and pre-release production versions of its products. Because the Company's research and clinical development programs are at an early stage, substantial additional research and development and clinical trials will be necessary before commercial prototypes of the Company's other products are produced. The Company could encounter unforeseen problems in the development of those products such as delays in conducting clinical trials, delays in the supply of key components or delays in overcoming technical hurdles. There can be no assurance that the Company will be able to successfully address the problems that may arise during the development and commercialization process. In addition, there can be no assurance that all of the Company's products will be successfully developed, proven safe and efficacious in clinical trials, meet applicable regulatory standards, be capable of being produced in commercial quantities at acceptable costs, be eligible for third-party reimbursement from governmental or private insurers, be successfully marketed or achieve market acceptance. If any of the Company's development programs are not successfully completed, required regulatory approvals or clearances are not obtained, or products for which approvals or clearances are obtained are not commercially successful, the Company's business, financial condition and results of operations would be materially adversely affected. The Company's business is subject to the risks inherent in the development of new products using new technologies and approaches. There can be no assurance that unforeseen problems will not develop with these technologies or applications, that the Company will be able to successfully address technological challenges it encounters in its research and development programs or that commercially feasible products will ultimately be developed by the Company. Dependence on Collaborative Arrangements The Company's business strategy for the development, clinical testing, regulatory approval, manufacturing and commercialization of its products depends upon the Company's ability to selectively enter into and maintain collaborative arrangements with leading medical device companies. The Company has entered into collaborative arrangements with, (i) Respironics under which Respironics has had significant responsibility for undertaking or funding the development, clinical testing, regulatory approval process and has the responsibility for sales of the Company's infant jaundice product in the United States and Canada, (ii) Roche Diagnostics under which Roche Diagnostics has significant responsibility for undertaking or funding the development, clinical testing, regulatory approval process and sale of the Company's diabetes detection product, (iii) Abbott under which Abbott is primarily responsible for undertaking or funding the development, clinical testing, regulatory approval process, manufacture and sale of the Company's glucose monitoring product and (iv) Welch Allyn which is a cooperative development program in the early stages of determining product feasibility for a cervical cancer detection product. The agreements evidencing these collaborative arrangements grant a substantial amount of discretion to each of Abbott, Roche Diagnostics, Respironics and Welch Allyn. For example, each of these collaborative partners may terminate their respective collaborative arrangements with the Company effective upon the expiration of certain notice periods. In addition, the obligation of each of the Company's collaborative partners to fund or undertake the development, clinical testing, regulatory approval process, marketing, distribution and/or sale of the products covered by their respective collaborative arrangements with the Company is, to a large extent, dependent upon the satisfaction of certain goals or "milestones" by certain specified dates, some of which are outside the Company's control. To the extent that the obligations of the Company's collaborative partners to fund or undertake all or certain of the foregoing activities are not contingent upon the satisfaction of certain goals or milestones, the collaborative partners nevertheless retain a significant degree of discretion regarding the timing of these activities and the amount and quality of financial, personnel and other resources that they devote to these activities. Furthermore, there can be no assurance that disputes will not arise between the Company and one or more of its collaborative partners regarding their respective rights and obligations under the collaborative arrangements. Finally, there can be no assurance that one or more of the Company's collaborative partners will not be able, due to financial, regulatory or other reasons, to satisfy its obligations under its collaborative arrangement with the Company or will not intentionally or unintentionally breach its obligations under the arrangement. There can be no assurance that one or more of the Company's collaborative partners will not, for competitive reasons, support, directly or indirectly, a company or product that competes with the Company's product that is the subject of 12 its collaborative arrangement with the Company. Furthermore, any dispute between the Company and one of its collaborative partners might require the Company to initiate or defend expensive litigation or arbitration proceedings. Any termination of any collaborative arrangement by one of the Company's collaborative partners, any inability of a collaborative partner to fund or otherwise satisfy its obligations under its collaborative arrangements with the Company and any significant dispute with, or breach of a contractual commitment by, a collaborative partner, would likely require the Company to seek and reach agreement with another collaborative partner or to assume, to the extent possible and at its own expense, all the responsibilities being undertaken by this collaborative partner. There can be no assurance that the Company would be able to reach agreement with a replacement collaborative partner. If the Company were not able to find a replacement collaborative partner, there can be no assurance that the Company would be able to perform or fund the activities for which such collaborative partner is currently responsible. Even if the Company were able to perform and fund these activities, the Company's capital requirements would increase substantially. In addition, the further development and the clinical testing, regulatory approval process, marketing, distribution and sale of the product covered by such collaborative arrangement would be significantly delayed. Any of the foregoing circumstances could have a material adverse effect upon the Company's business, financial condition and results of operations. Limited Operating History; History of Losses and Expectations of Future Losses The Company has a limited operating history upon which its prospects can be evaluated. Such prospects must be considered in light of the substantial risks, expenses and difficulties encountered by entrants into the medical device industry, which is characterized by an increasing number of participants, intense competition and a high failure rate. The Company has experienced operating losses since its inception, and, as of September 30, 1999, the Company had an accumulated deficit of approximately $24.2 million. To date, the Company has engaged primarily in research and development efforts. The Company has only generated limited revenues from product sales and does not have significant experience in manufacturing, marketing or selling its products. There can be no assurance that the Company's development efforts will result in commercially viable products, that the Company will be successful in introducing its products, or that required regulatory clearances or approvals will be obtained in a timely manner, or at all. There can be no assurance that the Company's products will ever gain market acceptance or that the Company will ever generate significant revenues or achieve profitability. The development and commercialization of its products will require substantial development, regulatory, sales and marketing, manufacturing and other expenditures. The Company expects its operating losses to continue through 2000 as it continues to expend substantial resources to complete development of its products, obtain regulatory clearances or approvals, build its marketing, sales, manufacturing and finance organizations and conduct further research and development. Government Regulations; No Assurance of Regulatory Approvals The design, manufacturing, labeling, distribution and marketing of the Company's products will be subject to extensive and rigorous government regulation in the United States and certain other countries where the process of obtaining and maintaining required regulatory clearance or approvals is lengthy, expensive and uncertain. In order for the Company to market its products in the United States, the Company must obtain clearance or approval from the FDA. The Company intends to seek clearance to market each of its products, where possible through a 510(k) premarket notification supported by clinical data. A 510(k) premarket notification has been filed with and approved by the FDA, for clearance to market the Company's infant jaundice product. A 510(k) premarket notification was filed with the FDA for clearance to market the Company's diabetes detection product, however that notification has been subsequently withdrawn with the intention to approach approval by a PMA path. The Company has not filed any other 510(k) premarket notification for clearance with the FDA. A 510(k) for the glucose monitoring product is expected after the completion of development. There can be no assurance that any such notifications will be filed in accordance with this schedule, that the FDA will act favorably or quickly on such 510(k) submissions, or that significant difficulties and costs will not be encountered during efforts to obtain FDA clearance or approval. Specifically, the FDA may request additional data or require additional clinical studies be conducted to obtain 510(k) clearance for one or more of the Company's products. In addition, there can be no assurance that the FDA will not require the submission of a premarket approval ("PMA") application to obtain FDA approval to market one or more of the Company's products. Preliminary expectations regarding the Company's cancer program are that those filings could be a PMA. The PMA process is more rigorous and lengthier than the 510(k) clearance process and can take several years from initial filing and require the submission of extensive supporting data and clinical information. In addition, there can be no assurance that the FDA will not impose strict labeling or other requirements as a condition of its 510(k) clearance or PMA, any of which could limit the Company's ability to market its products. Further, if the Company wishes to modify a product after FDA clearance of a 510(k) premarket notification or approval of a PMA application, including changes in indications or other modifications that could affect safety and efficacy, additional clearances or approvals will be required 13 from the FDA. Any request by the FDA for additional data or any requirement by the FDA that the Company conduct additional clinical studies or submit to the more rigorous and lengthier PMA process could result in a significant delay in bringing the Company's products to market and substantial additional research and other expenditures by the Company. Similarly, any labeling or other conditions or restrictions imposed by the FDA on the marketing of the Company's products could hinder the Company's ability to effectively market its products. Any of the foregoing actions by the FDA could delay or prevent altogether the Company's ability to market and distribute its products and could have a material adverse effect on the Company's business, financial condition and results of operations. In order for the Company to market its products under development in Europe and certain other foreign jurisdictions, the Company and its distributors and agents must obtain required regulatory registrations or approvals and otherwise comply with extensive regulations regarding safety, efficacy and quality in those jurisdictions. Specifically, certain foreign regulatory bodies have adopted various regulations governing product standards, packaging requirements, labeling requirements, import restrictions, tariff regulations, duties and tax requirements. These regulations vary from country to country. In order to commence sales in Europe, the Company has obtained ISO 9001 certification and CE mark certification, which is an international symbol of quality and compliance with applicable European medical device directives. While the Company has received ISO 9001 and CE mark certification, it must maintain its certifications in future periods. Failure to receive or maintain ISO 9001 or CE mark certification or other foreign regulatory approvals could have a material adverse effect on the Company's business, financial condition and results of operations. There can be no assurance that the Company will obtain any other required regulatory registrations or approvals in such countries or that it will not be required to incur significant costs in obtaining or maintaining such regulatory registrations or approvals. Delays in obtaining any registrations or approvals required to market the Company's products, failure to receive these registrations or approvals, or future loss of previously obtained registrations or approvals could have a material adverse effect on the Company's business, financial condition and results of operations. The Company and its collaborative partners will be required to adhere to applicable FDA regulations regarding Good Manufacturing Practice ("GMP") and similar regulations in other countries, which include testing, control, and documentation requirements. Ongoing compliance with GMP and other applicable regulatory requirements will be strictly enforced in the United States through periodic inspections by state and federal agencies, including the FDA, and in foreign jurisdictions by comparable agencies. Failure to comply with applicable regulatory requirements could result in, among other things, warning letters, fines, injunctions, civil penalties, recall or seizure of products, total or partial suspension of production, refusal of the government to grant premarket clearance or premarket approval for devices, withdrawal of approvals previously obtained and criminal prosecution. The restriction, suspension or revocation of regulatory approvals or any other failure to comply with regulatory requirements would have a material adverse effect on the Company's business, financial condition and results of operations. The Clinical Chemistry Branch of the FDA's Division of Clinical Laboratory Devices (the "Branch") has traditionally been the reviewing branch for blood-based personal glucose monitoring products. The Clinical Chemistry and Clinical Toxicology Devices Panel (the "Panel") is an external advisory panel that provides advice to the Branch regarding devices that are reviewed by the Branch. The panel meets from time to time and provides comments to the Branch regarding guidelines. There can be no assurance that the Panel's comments will not result in a FDA policy or change in FDA policy that is materially adverse to the Company's regulatory position. The Company will rely upon Abbott, Roche Diagnostics and Respironics to obtain United States and foreign regulatory approvals and clearances for its glucose monitoring, diabetes detection and infant jaundice products, respectively, and if such approvals or clearances are obtained the Company will rely upon these collaborative partners to maintain them in full force and effect and to otherwise remain in compliance with all applicable United States and foreign regulatory restrictions. The inability or failure of such third parties to comply with the varying regulations or the imposition of new regulations would materially adversely affect the Company's business, financial condition and results of operations. Dependence on Licensed Patent Applications and Proprietary Technology SpectRx's success depends in large part upon its ability to establish and maintain the proprietary nature of its technology through the patent process and to license from others patents and patent applications necessary to develop its products. The Company has licensed from Non-Invasive Monitoring Company, Inc. ("Nimco") one granted patent and know-how related to its glucose monitoring product, jointly applied with Altea Technologies, Inc. ("Altea") for a U.S. patent and an international patent related to this device and has licensed this granted patent and these patent applications to Abbott pursuant to the parties' collaborative arrangements. SpectRx has license agreements with Georgia Tech Research Corporation ("GTRC") that give the Company the right to use two patents related to its diabetes detection product, and the Company has licensed this proprietary technology to Roche Diagnostics pursuant to the Company's collaborative arrangement with Roche Diagnostics. The Company has license agreements with the University of Texas M.D. Anderson 14 Cancer Center ("M.D. Anderson") that give SpectRx access to one patent related to the Company's infant jaundice product, and the Company has applied for two patents related to this product. SpectRx has licensed the one patent and two patent applications to Respironics pursuant to its collaborative arrangement with that company. In addition, SpectRx has licensed from Joseph Lakowicz, Ph.D. of the University of Maryland several granted patents and patent applications related to fluorescence spectroscopy that it intends to use in its research and development efforts. There can be no assurance that one or more of the patents held directly by the Company or licensed by the Company from third parties, including the disposable components to be used in connection with its glucose monitoring and infant jaundice products, or processes used in the manufacture of the Company's products, will not be successfully challenged, invalidated or circumvented or that the Company will otherwise be able to rely on such patents for any reason. In addition, there can be no assurance that competitors, many of whom have substantial resources and have made substantial investments in competing technologies, will not seek to apply for and obtain patents that prevent, limit or interfere with the Company's ability to make, use and sell its products either in the United States or in foreign markets. If any of the Company's patents are successfully challenged, invalidated or circumvented or the Company's right or ability to manufacture its products were to be proscribed or limited, the Company's ability to continue to manufacture and market its products could be adversely affected, which would likely have a material adverse effect upon the Company's business, financial condition and results of operations. The medical device industry has been characterized by extensive litigation regarding patents and other intellectual property rights. Certain companies in the medical device industry have instituted intellectual property litigation, including patent infringement actions, for legitimate and, in certain cases, competitive reasons. In addition, the United States Patent and Trademark Office ("USPTO") may institute litigation or interference proceedings. There can be no assurance that the Company will not become subject to patent infringement claims or litigation or interference proceedings instituted by the USPTO to determine the priority of inventions. The defense and prosecution of intellectual property suits, USPTO interference proceedings and related legal and administrative proceedings are both costly and time consuming. Litigation may be necessary to enforce patents issued to the Company, to protect trade secrets or know-how owned by the Company or to determine the enforceability, scope and validity of the proprietary rights of others. Any litigation or interference proceedings brought against, initiated by or otherwise involving the Company may require the Company to incur substantial legal and other fees and expenses and may require some of the Company's employees to devote all or a substantial portion of their time to the prosecution or defense of such litigation or proceedings. An adverse determination in litigation or interference proceedings to which the Company may become a party, including any litigation that may arise against the Company, could subject the Company to significant liabilities to third parties, require the Company to seek licenses from third parties or prevent the Company from selling its products in certain markets, or at all. Although patent and intellectual property disputes regarding medical devices are often settled through licensing or similar arrangements, there can be no assurance that the Company would be able to reach a satisfactory settlement of such a dispute that would allow it to license necessary patents or other intellectual property. Even if such a settlement were reached, the settlement process may be expensive and time consuming and the terms of the settlement may require the Company to pay substantial royalties. An adverse determination in a judicial or administrative proceeding or the failure to obtain a necessary license could prevent the Company from manufacturing and selling its products, which would have a material adverse effect on the Company's business, financial condition and results of operations. In addition to patents, the Company relies on trade secrets and proprietary know-how, which it seeks to protect, in part, through confidentiality and proprietary information agreements. There can be no assurance that such confidentiality or proprietary information agreements will not be breached, that the Company would have adequate remedies for any breach, or that the Company's trade secrets will not otherwise become known to or be independently developed by competitors. Royalty Rates and Manufacturing Profits The majority of the Company's revenues and profits are expected to be derived from royalties and manufacturing profits that the Company will receive from Abbott, Roche Diagnostics and Respironics resulting from sales of its glucose monitoring, diabetes detection and infant jaundice products, respectively. The royalties and manufacturing profits that the Company is expected to receive from each of its collaborative partners depend on sales of such products. There can be no assurance that the Company, together with its collaborative partners, will be able to sell sufficient volumes of the Company's products to generate substantial royalties and manufacturing profits for the Company. In addition, the Company's profit margins on some of its products are not likely to increase over time because the royalty rates and manufacturing profit rates on those products are predetermined. In addition, it is common practice in the glucose monitoring device industry for manufacturers to sell their glucose monitoring devices at substantial discounts to their list prices or to offer customers rebates on sales of their products. Manufacturers offer such discounts or rebates to expand the use of their products and thus increase the market for the 15 disposable assay strips they sell for use with their products. Because Abbott may, pursuant to its collaborative arrangement with the Company, determine the prices at which it sells the Company's glucose monitoring devices, it may choose to adopt this marketing strategy. If Abbott adopts this marketing strategy and discounts the prices at which it sells the Company's glucose monitoring devices, the royalties earned by the Company in respect of such sales will be less. There can be no assurance that, if this strategy is adopted, royalties earned by the Company on sales of the disposable cartridges to be used in connection with its glucose monitoring device will be equal to or greater than the royalties the Company would have earned had its glucose monitoring devices not been sold at a discount. This possible reduction in royalties on sales of the Company's glucose monitoring devices could have a material adverse effect upon the Company's business, financial condition and results of operations. The collaboration with Welch Allyn is a joint development and commercialization effort. It is anticipated that both the Company and Welch Allyn would manufacture portions of the cancer detection device and both would share in the revenues of products sold to customers. There can be no assurance, however, that the Company, together with Welch Allyn, will sell sufficient volumes of these products to generate substantial revenues. Uncertainty of Market Acceptance The Company's products are based upon new methods of glucose monitoring, diabetes detection, infant jaundice monitoring and screening and cervical cancer detection. There can be no assurance that any of these products will gain market acceptance. Physicians and individuals will not recommend or use the Company's products unless they determine, based on experience, clinical data, relative cost, and other factors, that these products are an attractive alternative to current blood-based or other tests that have a long history of safe and effective use. To date, the Company's products have been utilized by only a limited number of subjects, and no independent studies regarding the Company's products have been published. The lack of any such independent studies may have an adverse effect on the Company's ability to successfully market its products. In addition, purchase decisions for products like the Company's diabetes detection and infant jaundice products are greatly influenced by health care administrators who are subject to increasing pressures to reduce costs. Failure of the Company's products to achieve significant market acceptance would have a material adverse effect on the Company's business, financial condition and results of operations. Intense Competition The medical device industry in general, and the markets in which the company expects to offer products in particular, are intensely competitive. If successful in its product development, the Company will compete with other providers of personal glucose monitors, diabetes detection tests, infant jaundice and cancer detection products. A number of competitors, including Johnson & Johnson, Inc. (which owns Lifescan, Inc.), Roche Diagnostics, Bayer AG (which owns Miles Laboratories, Inc.) and Abbott (which owns MediSense, Inc.), are currently marketing traditional glucose monitors. These monitors are widely accepted in the health care industry and have a long history of accurate and effective use. Furthermore, a number of companies have announced that they are developing products that permit non-invasive and less invasive glucose monitoring. Accordingly, competition in this area is expected to increase. Many of the Company's competitors have substantially greater financial, research, technical, manufacturing, marketing and distribution resources than the Company and have greater name recognition and lengthier operating histories in the health care industry. There can be no assurance that the Company will be able to effectively compete against these and other competitors. In addition, there can be no assurance that the Company's glucose monitoring, diabetes detection, infant jaundice or cancer detection products will replace any currently used devices or systems, which have long histories of safe and effective use. Furthermore, there can be no assurance that the Company's competitors will not succeed in developing, either before or after the development and commercialization of the Company's products, devices and technologies that permit more efficient, less expensive non-invasive and less invasive glucose monitoring, diabetes detection, infant jaundice monitoring and cancer detection. It is also possible that one or more pharmaceutical or other health care companies will develop therapeutic drugs, treatments or other products that will substantially reduce the prevalence of diabetes or infant jaundice or otherwise render the Company's products obsolete. Such competition could have a material adverse effect on the Company's business, financial condition and results of operation. In addition, there can be no assurance that one or more of the Company's collaborative partners will not, for competitive reasons, reduce its support of its collaborative arrangement with the Company or support, directly or indirectly, a company or product that competes with the Company's product that is the subject of the collaborative arrangement. 16 Little Manufacturing Experience; Dependence on Sole Sources of Supply To date, the Company's manufacturing activities have only included its BiliChek(TM) and BiliCal(TM) products on a limited scale. If the Company successfully develops its diabetes detection product and, together with Roche Diagnostics obtains FDA clearance and other regulatory approvals to market that product, the Company will undertake to manufacture both of these products in significant volumes. The Company has no experience manufacturing such products in the volumes that would be necessary for the Company to achieve significant commercial sales. There can be no assurance that the Company will be able to establish and maintain reliable, full scale manufacturing of these products at commercially reasonable costs. Although the Company has leased space that it plans to use to manufacture its products, it may encounter various problems in establishing and maintaining its manufacturing operations, resulting in inefficiencies and delays. Specifically, companies often encounter difficulties in scaling up production, including problems involving production yield, quality control and assurance, and shortages of qualified personnel. In addition, the Company's manufacturing facilities will be subject to GMP regulations, including possible preapproval inspection, international quality standards and other regulatory requirements. Difficulties encountered by the Company in manufacturing scale-up or failure by the Company to implement and maintain its manufacturing facilities in accordance with GMP regulations, international quality standards or other regulatory requirements could result in a delay or termination of production, which could have a material adverse effect on the Company's business, financial condition and results of operations. The microspectrometer and disposable calibration element, components of the Company's infant jaundice product, and the blue light module and calibration element, components of the Company's diabetes detection product, are each available from only one supplier and these products would require a major redesign in order to incorporate a substitute component. Certain other components of the infant jaundice and diabetes detection products are currently obtained from only one supplier, but have readily available substitute components that can be incorporated in the applicable product with minimal design modifications. If the Company's products require a PMA, the inclusion of substitute components could require the Company to qualify the new supplier with the appropriate government regulatory authorities. Alternatively, if the Company's products qualify for a 510(k) premarket notification, the substitute components need only meet the Company's product specifications. Any significant problem experienced by one of the Company's sole source suppliers may result in a delay or interruption in the supply of components to the Company until such supplier cures the problem or an alternative source of the component is located and qualified. Any delay or interruption would likely lead to a delay or interruption in the Company's manufacturing operations, which could have a material adverse effect upon the Company's business, financial condition and results of operations. Little Marketing and Sales Experience The Company is responsible for marketing its infant jaundice product in countries other than the United States and Canada. The Company has relatively limited experience in marketing or selling medical device products and only has a six person marketing and sales staff. In order to successfully continue to market and sell its infant jaundice product outside the United States and Canada, the Company must either develop a larger marketing and sales force or expand its arrangements with third parties to market and sell this product. While the Company has signed distributor agreements for its BiliChek(TM) and BiliCal(TM) products, there can be no assurance that the Company will be able to successfully and fully develop a marketing and sales force or that it will be able to enter into and maintain marketing and sales agreements with third parties on acceptable terms. If the Company expands its own marketing and sales capabilities, it will compete with other companies that have experienced and well-funded marketing and sales operations. If the Company enters into a marketing arrangement with a third party for the marketing and sale of its infant jaundice product outside the United States and Canada, any revenues to be received by the Company from this product will be dependent on this third party, and the Company will likely be required to pay a sales commission or similar amount to this party. Furthermore, the Company is currently dependent on the efforts of Abbott and Roche Diagnostics for any revenues to be received from its glucose monitoring and diabetes detection products, respectively. There can be no assurance that the efforts of these third parties for the marketing and sale of the Company's products will be successful. Product Liability Risk; Limited Insurance Coverage The development, manufacture and sale of medical products entail significant risks of product liability claims. The Company currently has no product liability insurance coverage beyond that provided by its general liability insurance. Accordingly, there can be no assurance that the Company is adequately protected from any liabilities, including any adverse judgments or settlements, it might incur in connection with the development, clinical testing, manufacture and sale of its products. In addition, product liability insurance is expensive and may not be available to the Company on acceptable terms, if at all. A successful product liability claim or series of claims brought against the Company that results in an adverse judgment against or settlement by the Company in excess of any insurance coverage could have a material adverse effect on the Company's business, financial condition and results of operations. 17 Need for Additional Capital; Uncertainty of Access to Capital Substantial capital will be required to develop the Company's products, including completing product testing and clinical trials, obtaining all required United States and foreign regulatory approvals and clearances, commencing and scaling up manufacturing and marketing its products. Pursuant to the Company's collaborative arrangements with Abbott, Roche Diagnostics , Respironics and Welch Allyn, these collaborative partners will either directly undertake these activities or will fund a substantial portion of these expenditures. The obligations of the Company's collaborative partners to fund the Company's capital expenditures is largely discretionary and depends on a number of factors, including the Company's ability to meet certain milestones in the development and testing of its products. There can be no assurance that the Company will meet such milestones or that the Company's collaborative partners will continue to fund the Company's capital expenditures. Any failure of the Company's collaborative partners to fund its capital expenditures would have a material adverse effect on the Company's business, financial condition and results of operations. In addition to funds that the Company expects to be provided by its collaborative partners, the Company may be required to raise additional funds through public or private financing, additional collaborative relationships or other arrangements. Assuming the Company meets its milestones under its agreements with its strategic collaborators and completes planned new agreements with those partners, the Company believes that its existing capital resources will be sufficient to satisfy its funding requirements for at least the next nine months, but may not be sufficient to fund the Company's operations to the point of commercial introduction of either its glucose monitoring product concepts. However, there can be no assurance that the Company will meet its milestones or receive payments from its strategic collaborators or that it will enter into new agreements or receive any related payments. There can be no assurance that any required additional funding, if needed, will be available on terms attractive to the Company, or at all, which could have a material adverse effect on the Company's business, financial condition and results of operations. Any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. Uncertainty of Third-Party Reimbursement In the United States, patients, hospitals and physicians who purchase medical devices such as the Company's products, generally rely on third-party payors, principally federal Medicare, state Medicaid and private health insurance plans, to reimburse them for all or a portion of the cost of the medical device. Reimbursement for devices that have received FDA approval has generally been available in the United States. In addition, certain health care providers are gradually adopting a managed care system in which such providers contract to provide comprehensive health care services for a fixed cost per person. The Company is unable to predict what changes will be made in the reimbursement methods utilized by third-party health care payors. Although the Company anticipates that patients, hospitals and physicians will justify the use of the Company's products by the attendant cost savings and clinical benefits that the Company believes will be derived from the use of its products, there can be no assurance that this will be the case. Furthermore, the Company could be adversely affected by changes in reimbursement policies of governmental or private health care payors. Any inability of patients, hospitals, physicians and other users of the Company's products to obtain sufficient reimbursement from health care payors for the Company's products or adverse changes in relevant governmental policies or the policies of private third-party payors regarding reimbursement for such products could have a material adverse effect on the Company's business, financial condition and results of operations. If the Company obtains the necessary foreign regulatory approvals, market acceptance of the Company's products in international markets will be dependent, in part, upon the availability of reimbursement within prevailing health care payment systems. Reimbursement and health care payment systems in international markets vary significantly by country and include both government sponsored health care and private insurance. Although the Company intends to seek international reimbursement approvals, there can be no assurance that such approvals will be obtained in a timely manner, if at all. Any failure to receive international reimbursement approvals could have an adverse effect on market acceptance of the Company's products in the international markets in which such approvals are sought. In the United States and elsewhere, sales of medical products are dependent, in part, on the ability of consumers of these products to obtain reimbursement for all or a portion of their cost from third-party payors, such as government and private insurance plans. Third-party payors are increasingly challenging the prices charged for medical products and services. If the Company succeeds in bringing one or more products to market, there can be no assurance that these products will be considered cost effective and that reimbursement to the consumer will be available or sufficient to allow the Company to sell its products on a competitive basis. 18 Need to Attract and Retain Key Employees The Company's ability to operate successfully and manage its potential future growth depends in significant part upon the continued service of certain key scientific, technical, managerial and finance personnel, and its ability to attract and retain additional highly qualified scientific, technical, managerial and finance personnel. In addition, if the Company, together with its collaborative partners, is able to successfully develop and commercialize the Company's products, the Company will need to hire additional scientific, technical, marketing, managerial and finance personnel. The Company faces intense competition for qualified personnel in these areas, many of whom are often subject to competing employment offers, and there can be no assurance that the Company will be able to attract and retain such personnel. The loss of key personnel or inability to hire and retain additional qualified personnel in the future could have a material adverse effect on the Company's business, financial condition and results of operations. Control by Directors, Executive Officers and Affiliated Entities The Company's directors, executive officers and entities affiliated with them, in the aggregate, beneficially owned as of September 30, 1999 approximately 32% of the Company's outstanding Common Stock. These stockholders, acting together, would be able to control substantially all matters requiring approval by the stockholders of the Company, including the election of directors and the approval of mergers and other business combination transactions. Potential Volatility of Stock Price The stock markets have experienced extreme price and volume fluctuations that have substantially affected small capitalization medical technology companies, resulting in changes in the market prices of the stocks of many such companies that may not have been directly related to their operating performance. Such broad market fluctuations may adversely affect the market price of the Company's Common Stock. In addition, the market price of the Common Stock may be highly volatile. Factors such as variations in the Company's financial results, changes in the Company's collaborative arrangements, comments by security analysts, announcements of technological innovations or new products by the Company or its competitors, changing government regulations and developments with respect to FDA submissions, patents and proprietary rights, or litigation may have a material adverse effect on the market price of the Common Stock. Anti-Takeover Effect of Certain Charter and Bylaw Provisions on Price of Common Stock Certain provisions of the Company's Certificate of Incorporation and Bylaws may have the effect of making it more difficult for a third party to acquire, or of discouraging a third party from attempting to acquire, control of the Company. Such provisions could limit the price that certain investors might be willing to pay in the future for shares of the Company's Common Stock. Certain of these provisions allow the Company to issue Preferred Stock without any vote or further action by the stockholders, eliminate the right of stockholders to act by written consent without a meeting and specify procedures for director nominations by stockholders and submission of other proposals for consideration at stockholder meetings. Certain provisions of Delaware law applicable to the Company, including Section 203, which prohibits a Delaware corporation from engaging in any business combination with any interested stockholders for a period of three years unless certain conditions are met, could also delay or make more difficult a merger, tender offer or proxy contest involving the Company. The possible issuance of Preferred Stock, the procedures required for director nominations and stockholder proposals and Delaware law could have the effect of delaying, deferring or preventing a change in control of the Company, including without limitation, discouraging a proxy contest or making more difficult the acquisition of a substantial block of the Company's Common Stock. These provisions could also limit the price that investors might be willing to pay in the future for shares of the Company's Common Stock. Lack of Dividends The Company has not paid any dividends and does not anticipate paying any dividends in the foreseeable future. 19 Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS The Company has not entered into any transactions using derivative financial instruments and believes its exposure to interest rate risk, foreign currency exchange rate risk and other relevant market risks is not material. 20 PART II. OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits The Exhibits listed on the accompanying Index to Exhibits are filed as part hereof, or incorporated by reference into, this Report. (b) Reports on Form 8-K The Registrant filed no Current Reports on Form 8-K during the quarter ended September 30, 1999. 21 SIGNATURE 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, in Norcross, Georgia. SPECTRX, INC. Date: November 15, 1999 By: /S/ THOMAS H. MULLER, JR. -------------------------------------- Thomas H. Muller, Jr. Chief Financial Officer (Duly Authorized Officer and Principal Financial and Accounting Officer) 22 EXHIBIT INDEX
EXHIBIT DESCRIPTION NO. --------------------------------------------------------------------------------------- - ------------- 3.1 (2) Certificate of Incorporation of the Company, as amended, as currently in effect. 3.2 (1) Bylaws of the Company. 4.1 (1) Specimen Common Stock Certificate. 10.1 (1) 1997 Employee Stock Purchase Plan and form of agreement thereunder. 10.2 (1) 1995 Stock Plan, as amended, and form of Stock Option Agreement thereunder. 10.3 (1) Stock Purchase Agreement, dated June 30, 1994, between Mark A. Samuels and the Company. 10.4 (1) Stock Purchase Agreement, dated June 30, 1994, between Keith D. Ignotz and the Company. 10.5 (1) Assignment and Bill of Sale, dated February 29, 1996, between Laser Atlanta Optics, Inc. and the Company. 10.6 (1) Security Agreement, dated October 31, 1996, between Mark A. Samuels and the Company. 10.7 (1) Security Agreement, dated October 31, 1996, between Keith D. Ignotz and the Company. 10.11A (1)* License Agreement, dated May 7, 1991, between Georgia Tech Research Corporation and Laser Atlanta Optics, Inc. 10.11B (1) Agreement for Purchase and Sale of Technology, Sale, dated January 16, 1993, between Laser Atlanta Optics, Inc. and the Company. 10.11C (1) First Amendment to License Agreement, dated October 19, 1993, between Georgia Tech Research Corporation and the Company. 10.12 (1) Clinical Research Study Agreement, dated July 22, 1993, between Emory University and the Company. 10.13A (1)* Development and License Agreement, dated December 2, 1994, between Boehringer Mannheim Corporation and the Company. 10.13B (1)* Supply Agreement, dated January 5, 1996, between Boehringer Mannheim and the Company. 10.14 (1) Sponsored Research Agreement, No. SR95-006, dated May 3, 1995, between University of Texas, M.D. Anderson Cancer Center and the Company. 10.15 (1) Sole Commercial Patent License Agreement, dated May 4, 1995, between Martin Marietta Energy Systems, Inc. and the Company. 10.16A (1) License Agreement, dated November 22, 1995, between Joseph R. Lakowicz, Ph.D. and the Company. 10.16B (1) Amendment of License Agreement, dated November 28, 1995, between Joseph R. Lakowicz, Ph.D. and the Company. 10.16C (1) Second Amendment to License Agreement, dated March 26, 1997, between Joseph R. Lakowicz, Ph.D. and the Company. 10.16D (4) Third Amendment to License Agreement, dated November 20, 1998, between Joseph R. Lakowicz, Ph.D. and the Company. 10.16E (4)** Fourth Amendment to License Agreement, dated November 20, 1998, between Joseph R. Lakowicz, Ph.D. and the Company. 10.17 (1) License and Joint Development Agreement, dated March 1, 1996, between NonInvasive- Monitoring Company, Inc., Altea Technologies, Inc. and the Company. 10.18 (1)* Patent License Agreement, dated March 12, 1996, between the Board of Regents of the University of Texas System, M.D. Anderson and the Company. 10.19A (1)* Purchasing and Licensing Agreement, dated June 19, 1996, between Respironics and the Company. 10.19B (4)** Amendment to Purchasing and Licensing Agreement, dated October 21, 1998 between Respironics and the Company. 10.20 (1) Research Services Agreement, dated September 3, 1996, between Sisters of Providence in Oregon doing business as the Oregon Medical Laser Center, Providence St. Vincent Medical Center and the Company. 10.21A (1)* Research and Development and License Agreement, dated October 10, 1996, between Abbott Laboratories and the Company. 10.21B (3) * Letter Agreement, dated December 22, 1997, between Abbott Laboratories and the Company. 10.22A (1) Lease, dated September 21, 1993, between National Life Insurance Company d/b/a Plaza 85 Business Park and the Company, together with amendments 1, 2 and 3 thereto and Tenant Estoppel Certificate, dated September 20, 1994. 10.24(4)** Development and Commercialization Agreement, dated December 31, 1998, between Welch Allyn, Inc. and the Company.
23
EXHIBIT DESCRIPTION NO. --------------------------------------------------------------------------------------- - ------------- 10.25A **(2) Development and License Agreement, dated July 13, 1999, between Roche Diagnostics Corporation and the Company. 10.25B**(2) Supply Agreement, dated July 13, 1999, between Roche Diagnostics Corporation and the Company. 11.1 Calculation of earnings per share. 21.1 (1) Subsidiaries of the Registrant. 23.1 (4) Consent of independent accountants. 24.1 Power of Attorney (included at signature page.) 27.1 Financial Data Schedule (for SEC use only).
- ----------------- * Confidential treatment granted for portions of these agreements. ** Confidential treatment requested for portions of this agreement. (1) Incorporated by reference to the exhibit filed with the Registrant's Registration Statement on Form S-1 (No. 333-22429) filed February 27, 1997, and amended on April 24, 1997, June 11, 1997, and June 30, 1997, which Registration Statement became effective June 30, 1997. (2) Incorporated by reference to the exhibit filed with the Registrant's Quarterly Report on Form 10-Q for the quarter ended June 30, 1997 filed August 12, 1997. (3) Incorporated by reference to the exhibit filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1997, filed March 26, 1998. (4) Incorporated by reference to the exhibit filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1998, filed March 30, 1999. (5) 10Q for the quarter ended June 30, 1999 filed August 13, 1999. EX-11.1 2 CALCULATION OF EARNINGS PER SHARE 1 EXHIBIT 11.1 SpectRx, Inc. COMPUTATION OF LOSS PER SHARE (in thousands, except per share data)
Three Months Nine Months September 30, September 30 -------------------------- -------------------------- 1998 1999 1998 1999 -------- -------- -------- -------- Net Loss $ (1,135) $ (1,121) $ (5,130) $ (5,399) Weighted average Common Stock outstanding during the period 8,001 8,030 7,897 8,024 Basic and Diluted -------- -------- -------- -------- Loss Per Share Basic and Diluted $ (0.14) $ (0.14) $ (0.65) $ (0.67)
EX-27.1 3 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE FINANCIAL STATEMENTS OF SPECTRX, INC. FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 9-MOS DEC-31-1999 JAN-01-1999 SEP-30-1999 964 0 775 0 452 2,263 1,987 1,092 3,672 1,750 381 0 0 8 1,533 3,672 990 2,090 1,196 1,196 6,389 0 (111) (5,399) 0 (5,399) 0 0 0 (5,399) (0.67) (0.67)
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