-----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, B6HmCBUnF+IKRMHyAcr/9vJS830imZysr1vIso1ircb5rJIteEFqC73rUYHiJMOA 91BlsM5khnywBx2KWI3AOA== /in/edgar/work/0001012870-00-005816/0001012870-00-005816.txt : 20001116 0001012870-00-005816.hdr.sgml : 20001116 ACCESSION NUMBER: 0001012870-00-005816 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 20000930 FILED AS OF DATE: 20001114 FILER: COMPANY DATA: COMPANY CONFORMED NAME: SYMPHONIX DEVICES INC CENTRAL INDEX KEY: 0000930481 STANDARD INDUSTRIAL CLASSIFICATION: [3842 ] IRS NUMBER: 770376250 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-23767 FILM NUMBER: 768309 BUSINESS ADDRESS: STREET 1: 2331 ZANKER ROAD CITY: SAN JOSE STATE: CA ZIP: 95131-1107 BUSINESS PHONE: 4082320710 MAIL ADDRESS: STREET 1: 2331 ZANKER ROAD CITY: SAN JOSE STATE: CA ZIP: 95131-1107 10-Q 1 0001.txt FORM 10-Q FOR PERIOD ENDED SEPTEMBER 30, 2000 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, 2000. 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 NO. 000-23767 SYMPHONIX DEVICES, INC. (Exact name of registrant as specified in its charter) DELAWARE 77-0376250 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 2331 Zanker Road SAN JOSE, CALIFORNIA 95131-1107 (Address of principal executive offices, including zip code) (408) 232-0710 (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 filing requirements for the past 90 days. Yes X No ----- --- As of September 30, 2000, 14,459,800 shares of the Registrant's Common Stock were outstanding. SYMPHONIX DEVICES, INC. TABLE OF CONTENTS PART I. FINANCIAL INFORMATION Item 1. Financial Statements (unaudited) Condensed Consolidated Balance Sheets as of September 30, 2000 and December 31, 1999................................................1 Condensed Consolidated Statements of Operations for the three months and nine months ended September 30, 2000 and 1999....................2 Condensed Consolidated Statements of Comprehensive Loss for the three months and nine months ended September 30, 2000 and 1999.............3 Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2000 and 1999....................................4 Notes to Condensed Consolidated Financial Statements................ 5 Item 2 Management's Discussion and Analysis of Financial Condition and Results of Operations................................................7 Item 3 Quantitative and Qualitative Disclosures About Market Risk......... 24 PART II. OTHER INFORMATION Item 1. Legal Proceedings...................................................24 Item 2. Changes in Securities and Use of Proceeds...........................24 Item 3. Defaults Upon Senior Securities.....................................24 Item 4. Submission of Matters to a Vote of Security Holders.................25 Item 5. Other Information...................................................25 Item 6. Exhibits............................................................25 -i- PART I. FINANCIAL INFORMATION Item 1. Financial Statements SYMPHONIX DEVICES, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (in thousands)
September 30, December 31, 2000 1999 ---- ---- (unaudited) ASSETS Current assets: Cash and cash equivalents $ 8,109 $ 7,998 Short-term investments - 6,150 Accounts receivable, net 316 117 Inventories 1,651 662 Prepaid expenses and other current assets 297 680 -------- -------- Total current assets 10,373 15,607 Property and equipment, net 1,253 1,554 Long term investments - 695 Other assets 73 78 -------- -------- Total assets $ 11,699 $ 17,934 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 537 $ 574 Accrued compensation 1,388 1,161 Other accrued liabilities 2,757 2,026 Current portion of bank borrowings 500 500 Current portion of capital lease obligations 24 90 -------- -------- Total current liabilities 5,206 4,351 Capital lease obligations, less current portion - 8 Deferred revenue 1,190 1,420 Bank borrowings, less current portion 1,125 1,500 -------- -------- Total liabilities 7,521 7,279 -------- -------- Stockholders' equity: Common stock 14 13 Notes receivable from stockholders (421) (1,079) Deferred compensation (266) (740) Additional paid-in capital 66,156 61,346 Accumulated other comprehensive (income) loss 12 (56) Accumulated deficit (61,317) (48,829) -------- -------- Total stockholders' equity 4,178 10,655 -------- -------- Total liabilities and stockholders' equity $ 11,699 $ 17,934 ======== ======== The accompanying notes are an integral part of these condensed consolidated financial statements
1 SYMPHONIX DEVICES, INC. CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands, except per share data) (unaudited)
Three months ended September 30, Nine months ended September 30, -------------------------------- -------------------------------- 2000 1999 2000 1999 ------ ------- ------ ------ Revenue $ 293 $ 73 $ 706 $ 224 Costs and expenses: Cost of goods sold 573 891 2,331 2,771 Research and development 1,611 1,952 5,361 5,460 Selling, general and administrative 2,217 1,642 5,685 4,817 ------- ------- -------- -------- Operating loss (4,108) (4,412) (12,671) (12,824) Interest income 75 171 329 654 Interest expense (47) (15) (146) (76) ------- ------- -------- -------- Net loss $(4,080) $(4,256) $(12,488) $(12,246) ======= ======= ======== ======== Basic and diluted net loss per common share $(0.30) $(0.35) $(0.93) $(1.00) ======= ======= ======== ======== Shares used in computing basic and diluted net loss per common share 13,475 12,338 13,413 12,264 ======= ======= ======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements 2 SYMPHONIX DEVICES, INC. CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE LOSS (in thousands) (unaudited)
Three months ended Nine months ended September 30, September 30, ---------------------------------- -------------------------------- 2000 1999 2000 1999 ------ ------ ----- ------ Net loss $(4,080) $(4,256) $(12,488) $(12,246) Change in unrealized gain (loss) on short-term investments 9 (6) 49 (36) Translation adjustments 32 16 19 17 ------- ------- -------- -------- Comprehensive loss $(4,039) $(4,246) $(12,420) $(12,265) ======= ======= ======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements 3 SYMPHONIX DEVICES, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) (unaudited)
Nine months ended September 30, ------------------------------------------ 2000 1999 -------- -------- Cash flows from operating activities: Net loss $(12,488) $(12,246) Adjustments to reconcile net loss to cash used in operating activities: Amortization of deferred compensation 229 417 Stock based compensation 16 - Depreciation and amortization 592 585 Changes in operating assets and liabilities: Accounts receivable (199) 135 Inventories (989) (210) Prepaid expenses and other current assets 383 (129) Accounts payable (37) (413) Accrued compensation 227 132 Deferred revenue (230) - Other accrued liabilities 731 745 -------- -------- Net cash used in operating activities (11,765) (10,984) -------- -------- Cash flows from investing activities Purchases of short-term investments (3,656) (3,150) Maturities of short-term & long-term investments 10,550 19,112 Purchases of property and equipment (291) (158) Change in other assets 5 (1) -------- -------- Net cash provided by investing activities 6,608 15,803 -------- -------- Cash flows from financing activities Payments on capital lease obligations (74) (190) Proceeds from bank borrowings - 6,000 Payments on bank borrowings (375) (6,000) Proceeds from issuance of common stock 5,146 115 Payments on stockholders notes receivable 712 - Issuance of notes receivable to stockholder (160) (310) -------- -------- Net cash provided by (used in) financing activities (5,249) (385) -------- -------- Net increase in cash and cash equivalents (92) 4,434 Effect of exchange rates on cash and cash equivalents 19 (19) Cash and cash equivalents, beginning of period 7,998 3,401 -------- -------- Cash and cash equivalents, end of period $ 8,109 $ 7,816 ======== ======== Supplemental disclosure of non-cash financing activities Reversal of unrealized deferred compensation $ 245 $ - ======== ======== Cancellation of note receivable to stockholder for unvested restricted $ 107 $ - stock ======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements 4 SYMPHONIX DEVICES, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) 1. Basis of Presentation: The accompanying condensed balance sheet as of September 30, 2000, the statements of operations for the three and nine months ended September 30, 2000 and 1999 and the statements of cash flows for the nine months ended September 30, 2000 and 1999 are unaudited and have been prepared in accordance with generally accepted accounting principles for interim financial information and pursuant to the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. The unaudited interim financial statements have been prepared on the same basis as the annual financial statements and, in the opinion of management, reflect all adjustments, consisting of normal recurring adjustments, considered necessary for a fair presentation. Operating results for the three and nine months ended September 30, 2000 are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2000, or any future interim period. These financial statements and notes should be read in conjunction with the Company's audited financial statements for the year ended December 31, 1999 and footnotes thereto, included in the Company's Annual Report on Form 10-K. 2. Computation of Basic and Diluted Net Loss per Common Share: Basic earnings per share ("EPS") is computed by dividing net loss by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur from common shares issuable through stock options, warrants and other convertible securities, if dilutive. The following table is a reconciliation of the numerator (net loss) and the denominator (number of shares) used in the basic and diluted EPS calculations and sets forth potential shares of common stock that are not included in the diluted net loss per share calculation as their effect is antidilutive (in thousands except per share data):
Three months ended Nine months ended ----------------------------------------- ----------------------------------------- September 30, 2000 September 30, 1999 September 30, 2000 September 30, 1999 ------------------ ------------------ ------------------ ------------------ Basic and diluted: Net loss.................................... $(4,080) $(4,256) $(12,488) $(12,246) Weighted average common shares outstanding.. 13,475 12,338 13,413 12,264 Net loss per common share................... $ (0.30) $ (0.35) $ (0.93) $ (1.00) Antidilutive Securities: Options to purchase common stock........... 2,066 1,371 2,066 1,371 Common stock subject to repurchase......... 73 - 73 - Warrants................................... 7 34 7 34 ------------------- ------------------ ------------------ ----------------- 2,146 1,405 2,146 1,405 =================== ================== ================== =================
5 3. Inventories: Inventories comprise (in thousands):
September 30, 2000 December 31, 1999 -------------------- ------------------- Raw materials $ 103 $211 Work in Progress 948 183 Finished goods 600 268 ------ ---- $1,651 $662 ====== ====
4. Subsequent Event: In November 2000, the Company completed a private equity financing in which 6,397,632 shares of common stock were sold at a price of $4.064 per share resulting in net proceeds of $25.9 million. The pro forma effects of this transaction will result in an increase in total assets to $37.6 million and an increase in total equity to 30.1 million, respectively. This increase in assets and equity is net of expenditures of $125,000. 5. Reclassifications: Certain prior year financial statement items have been reclassified to conform to the current years presentation. 6. Recent Accounting Pronouncements: In December 1999, the Securities and Exchange Commission ("SEC") issued Staff Accounting Bulletin No. 101 ("SAB 101"), Revenue Recognition, which outlines the basic criteria that must be met to recognize revenue and provides guidance for presentation of revenue and for disclosure related to revenue recognition policies in financial statements filed with the SEC. In June 2000, the SEC issued SAB 101B which delays the implementation of SAB 101 until no later than the fourth fiscal quarter of fiscal years beginning after December 15, 1999. The Company currently believes the current revenue policy is in compliance with SAB 101. In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 133, ("SFAS 133"), Accounting for Derivative Instruments and Hedging Activities. SFAS 133 establishes methods of accounting and reporting for derivative instruments and hedging activities related to those instruments as well as other hedging activities, and is effective for all fiscal quarters for all fiscal years beginning after June 15, 2000, as amended by SFAS 137. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. To date, the Company has not engaged in derivative or hedging activities. 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations The following discussion should be read in conjunction with the attached condensed consolidated financial statements and footnotes thereto, and with the Company's audited financial statements for the year ended December 31, 1999 and the footnotes thereto. The information set forth below contains forward-looking statements regarding research and development and publishing quarterly results and the Company's actual results could differ materially from those anticipated in these forward looking statements as a result of certain factors, including those set forth below under "Factors That May Affect Future Results". Overview Symphonix Devices, Inc. ("Symphonix" or the "Company") develops, manufactures and markets a proprietary line of semi-implantable Soundbridge hearing devices for the management of hearing impairment, a medical disorder that affects approximately 28 million people in the United States alone. The Company is also developing a fully implantable Soundbridge. The Soundbridge is a middle ear implant technology designed to vibrate the small bones in the middle ear, enhancing the natural hearing process. The Vibrant Soundbridge, the family of semi-implantable devices, is currently being marketed in Europe in conjunction with the Company's European distribution partner, Siemens Audiologische Technik GmbH ("Siemens"), and has received unanimous recommendation from the Ear, Nose, and Throat Medical Devices Advisory Panel of the Food and Drug Administration ("FDA") to approve, with conditions, the device for use in the United States. The fully implantable Soundbridge family is currently in development. The Company believes that the Soundbridge technology overcomes the inherent limitations of traditional hearing devices, and represents a novel approach in the management of hearing loss. In September 1996, the Company initiated clinical trials of the first- generation Vibrant Soundbridge in both the United States and Europe. The Company received permission in the European Union ("EU") to affix the CE mark to the Vibrant Soundbridge in March 1998. Through a technology alliance with Siemens, the Company has developed its fourth generation Vibrant Soundbridge, based on 8-channel, digital signal processing. In August 2000, the Company received notice of approval of its Premarket Approval (PMA) application for the Vibrant P and Vibrant D Soundbridge, which enables the Company to manufacture and distribute the device commercially in the United States. As of September 2000, approximately 419 patients have been implanted with the Vibrant Soundbridge in over 75 centers in both the United States and Europe. Results of Operations Revenue. Revenue was $293,000 in the three months ended September 30, 2000 compared to $73,000 in the three months ended September 30, 1999. Revenue was $706,000 in the nine months ended September 30, 2000 compared to $224,000 in the nine months ended September 30, 1999. Revenue in these periods was the result of selling activities to distributors and direct sales in Europe and the United States. Cost of goods sold. Cost of goods sold decreased to $573,000 for the three months ended September 30, 2000 from $891,000 for the three months ended September 30, 1999 and decreased to $2,331,000 for the nine months 7 ended September 30, 2000 from $2,771,000 for the nine months ended September 30, 1999, primarily due to increased volumes. Cost of goods sold represents the direct cost of the products sold as well as manufacturing variances and provisions for warranty. Research and Development Expenses. Research and development expenses were $1.6 million in the three months ended September 30, 2000 compared to $2.0 million in the three months ended September 30, 1999. Research and development expenses were $5.4 million in the nine months ended September 30, 2000 compared to $5.5 million in the nine months ended September 30, 1999. The Company has incurred substantial costs in 2000 and 1999 on clinical trials for its Vibrant Soundbridge. Research and development expenses consist primarily of personnel costs, professional services, materials, supplies and equipment in support of product development, clinical trials, regulatory submissions, and the preparation and filing of patent applications. The Company expects to continue to invest in research and development in the remainder of 2000 and 2001 primarily in the development of the totally implantable version of the Soundbridge. Selling, General and Administrative Expenses. Selling, general and administrative expenses were $2.2 million in the three months ended September 30, 2000 compared to $1.6 million in the three months ended September 30, 1999 and were $5.7 million in the nine months ended September 30, 2000 compared to $4.8 million in the nine months ended September 30, 1999. Selling, general and administrative expenses consist primarily of personnel costs, promotional costs, legal and consulting costs. The Company expects to incur substantial increases in expenses in developing a U.S. sales and marketing organization in the remainder of 2000 and 2001. Deferred compensation of $2.3 million was recorded in 1997, representing the difference between the exercise prices of certain options granted and the deemed fair value of the Company's common stock on the options' grant dates. Deferred compensation expense, net of terminated employees, attributed to such options was $229,000 during the nine months ended September 30, 2000 and $417,000 during the nine months ended September 30, 1999. The remaining deferred compensation will be amortized over the vesting period of the options (generally four years). Interest Income (Expense). Interest income, net of expense, decreased to $28,000 in the three months ended September 30, 2000 from $156,000 in the three months ended September 30, 1999 and decreased to $183,000 for the nine months ended September 30, 2000 from $578,000 for the nine months ended September 30, 1999. The reduction in net interest income was due to the reduction in the Company's cash and short-term investment balances. Interest earned in the future will depend on the Company's funding cycles and prevailing interest rates. Income Taxes. To date, the Company has not incurred any U.S. income tax obligations. At December 31, 1999, the Company had net operating loss carryforwards of approximately $32.5 million for federal and $21.3 million for state income tax purposes, which will expire at various dates through 2014 and 2004, respectively, if not utilized. The principal differences between losses for financial and tax reporting purposes are the result of the capitalization of research and development and start-up expenses for tax purposes. Federal and state tax laws contain provisions that may limit the net operating loss carryforwards that can be used in any given year, should certain changes in the beneficial ownership of the Company's outstanding common stock occur. Such events could limit the future of the Company's net operating loss carryforwards. 8 Liquidity and Capital Resources Since inception, the Company has funded its operations and its capital investments from proceeds from its initial public offering completed in February 1998 totaling $28.4 million, from the private sale of equity securities, totaling $26.5 million, from equipment lease financing totaling $1.3 million, from a private placement with Siemens Audiologische Technik GmbH totaling $10.0 million and from bank borrowings totaling, net, $2.0 million. In November 2000, the Company completed an additional private placement of $25,9 million, net of $125,000 of expenditures. At September 30, 2000, the Company had $5.2 million in working capital, and its primary source of liquidity was $8.1 million in cash and cash equivalents. Symphonix used $11.8 million in cash for operations in the nine months ended September 30, 2000, compared to $11.0 million in the nine months ended September 30, 1999 primarily in funding its operating losses. Capital expenditures, primarily related to the Company's research and development and manufacturing activities, were $291,000 and $158,000 in the nine months ended September 30, 2000 and 1999. At September 30, 2000, the Company did not have any material commitments for capital expenditures. The Company has a loan agreement with a bank that provides for borrowings of up to $2.0 million and for the issuance of letters of credit up to $250,000. At September 30, 2000, the Company had borrowings of $1.6 million and an outstanding letter of credit in the amount of $195,000 under the loan agreement. Borrowings under the loan agreement are repayable over four years commencing in January 2000. The Company will expend substantial funds in the future for research and development, preclinical and clinical testing, capital expenditures and the manufacturing, marketing and sale of its products. The timing and amount of spending of such capital resources cannot be accurately predicted and will depend on several factors, including the progress of its research and development efforts and preclinical and clinical activities, competing technological and market developments, the time and costs of obtaining regulatory approvals, the time and costs involved in filing, prosecuting and enforcing patent claims, the progress and cost of commercialization of products currently under development, market acceptance and demand for the Company's products and other factors not within the Company's control. The Company believes that its existing capital including the proceeds from the November 2000 private placement will be sufficient to fund its operations and its capital expenditures through 2001. The Company expects to incur substantial expenses in developing a U.S. sales and marketing organization in order to develop and effectivity launch its products commercialy in the United States. There can be no assurance that additional financing will be available on a timely basis on terms acceptable to the Company, or at all, or that such financing will not be dilutive to stockholders. If adequate funds are not available, the Company could be required to delay development or commercialization of certain of its products, license to third parties the rights to commercialize certain products or technologies that the Company would otherwise seek to commercialize for itself, or reduce the marketing, customer support or other resources devoted to certain of its products, any of which could have a material adverse effect on the Company's business, financial condition and results of operations. 9 Recent Accounting Pronouncements In December 1999, the Securities and Exchange Commission ("SEC") issued Staff Accounting Bulletin No. 101 ("SAB 101"), Revenue Recognition, which outlines the basic criteria that must be met to recognize revenue and provides guidance for presentation of revenue and for disclosure related to revenue recognition policies in financial statements filed with the SEC. In June 2000, the SEC issued SAB 101B which delays the implementation of SAB 101 until no later than the fourth fiscal quarter of fiscal years beginning after December 15, 1999. The Company currently believes the current revenue policy is in compliance with SAB 101. In June 1998, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 133, ("SFAS 133"), Accounting for Derivative Instruments and Hedging Activities. SFAS 133 establishes methods of accounting and reporting for derivative instruments and hedging activities related to those instruments as well as other hedging activities, and is effective for all fiscal quarters for all fiscal years beginning after June 15, 2000, as amended by SFAS 137. It requires that an entity recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. To date, the Company has not engaged in derivative or hedging activities. Factors That May Affect Future Results History of Losses and Expectation of Future Losses. At September 30, 2000, the Company had an accumulated deficit of $61.3 million. Since the Company's inception in 1994, substantially all of the Company's resources have been dedicated to research and development, clinical trials, establishment of a European sales and marketing organization and the initiation of sales and marketing activities in Europe. In March 1998, the Company received the authorization to affix the CE Mark to the Vibrant and Vibrant P Soundbridges, permitting the initiation of commercial sales in the European Union ("EU"). In May 1999, the Company received authorization to affix the CE Mark to the Vibrant D Soundbridge. Although the Company has commenced selling the Vibrant P and Vibrant D Soundbridges in Europe, through September 30, 2000 the Company has not generated significant revenues from these sales. The Company received CE Mark approval for the Vibrant HF Soundbridge in July 1998. In the United States, a regulatory application for commercial use of the Company's Vibrant P and Vibrant D Soundbridges was submitted in September 1999 and approved by the U.S. Food and Drug Administration (FDA) in August 2000. The Vibrant HF Soundbridge will require additional clinical testing prior to the submission of a regulatory application for commercial use. All of the Company's other products will require additional development, and preclinical and clinical testing prior to the submission of a regulatory application for commercial use internationally and domestically. Since the Vibrant P and Vibrant D Soundbridges only recently became available for sale in the EU and in the United States, significant product revenues will not be realized for at least several years, if ever. The Company expects its operating losses to continue at least through the year 2001 as it continues to expend substantial funds for clinical trials in support of regulatory approvals, expansion of research and development activities and establishment of commercial-scale manufacturing and sales and marketing capabilities. There can be no assurance that any of the Company's Soundbridges will be successfully commercialized internationally or in the United States or that the Company will achieve significant revenues from product sales. In addition, there can be no assurance that the Company will achieve or sustain profitability in the future. The Company's results of operations may fluctuate from quarter to quarter or year to year and will depend upon numerous factors, the timing and scope of research and development efforts, the extent to which the Company's products gain market acceptance or achieve reasonable reimbursement levels, the timing of scale-up of manufacturing capabilities, the timing of expansion of sales and marketing activities and competition. No Assurance of Market Acceptance. The market acceptance of the Company's Soundbridges will depend upon their acceptance by the medical community and patients as clinically useful, reliable and cost-effective compared to other devices. Clinical acceptance will depend on numerous factors, including the establishment of the safety and the effectiveness of the Soundbridge's ability to drive the ossicles directly and improve hearing over currently available hearing aids. Clinical acceptance will also depend on the receipt of regulatory approvals in the United States and the Company's ability to adequately train ear surgeons on the techniques for implanting the Company's Soundbridges. There can be no assurance that the Company's Soundbridges will be preferable alternatives to existing devices, some of which, such as the acoustic hearing aid, do not require surgery, or that the Company's Soundbridges will not be rendered obsolete or noncompetitive by products under development by other companies. Patient acceptance of the Company's Soundbridges will depend in part upon physician, audiologist and surgeon recommendations as well 10 as other factors, including the effectiveness, safety, reliability and invasiveness of the procedure as compared to established approaches. Prior to undergoing surgery for the implantation of the Company's Soundbridge, a patient may speak with a number of medical professionals, including the patient's primary care physician, an audiologist, an ENT specialist, as well as surgeons who specialize in ear surgery. The failure by any of these medical professionals to favorably recommend the Company's products and the surgery required to implant the Soundbridge could limit the number of potential patients who are introduced to an ear surgeon as candidates for the Company's Soundbridges. Even if the Company's Soundbridges are adopted by the medical community, a significant market may not develop for the Company's products unless acceptable reimbursement from health care payors is available. There can be no assurance that the Company's Soundbridges will be accepted by the medical community or consumers, that acceptable reimbursement from third-party payors will be available or that market demand for such products will be sufficient to allow the Company to achieve profitable operations. Failure of the Company's Soundbridges, for whatever reason, to achieve significant adoption by the medical community or consumers or failure of the Company's products to achieve any significant market acceptance would have a material adverse effect on the Company's business, financial condition and results of operations. Highly Competitive Market; Risk of Competing Hearing Devices. The medical device and hearing aid industries are subject to intense competition in the United States and abroad. The Company believes its products will compete primarily with the traditional approaches to managing hearing impairment, principally hearing aids. Principal manufacturers of acoustic hearing aids include Siemens Hearing Instruments, Inc., Starkey Laboratories Inc., Dahlberg Inc., GN ReSound Inc., Oticon, Inc., Widex Hearing Aid Co., Inc. and Phonak Inc. There can be no assurance that the Company's Soundbridges will be able to successfully compete with established hearing aid products. Although, to the Company's knowledge, none of these acoustic hearing aid manufacturers are currently developing direct drive devices, there can be no assurance that these potential competitors will not succeed in developing technologies and products in the future that are more effective, less expensive than those being developed by the Company or that do not require surgery. The Company is aware of several university research groups and development-stage companies that have active research or development programs related to direct drive devices for sensorineural hearing loss. One such company, IMPLEX AG Hearing Technology, was authorized by their European Notified Body on November 15, 1999 to affix the CE mark on their totally integrated cochlear amplifier (TICA). This company has reported approval of an IDE to pursue an initial clinical investigation in the U.S. to support FDA regulatory requirements. A U.S. based company, Otologics, LLC from Boulder, CO has developed a semi-implantable direct drive device for mild to severe sensorineural hearing loss call the MET (middle ear transducer). This device has completed Phase I of its initial device design and has recently announced enrollment in its multicenter clinical trials. Another U.S. company, SoundTec Inc. from Oklahoma City, OK has indicated completion of a Phase II multicenter clinical trial for its semi-implantable direct drive technology which still requires a "hearing aid" like device in the ear canal and is for mild to moderately-severe sensorineural hearing loss. Another U.S. company, St. Croix Medical from Minneapolis, MN has developed a fixed point piezoelectric- middle ear transducer which requires surgical removal of part of the ossicular chain in order to operate. The company reports early Phase I studies began in Europe in mid-year 2000. In addition, some large medical device companies, some of which are currently marketing implantable medical devices, may develop programs in hearing management. Certain of these companies have substantially greater financial, technical, manufacturing, marketing and other resources than the Company. In addition, there can be 11 no assurance that certain of the Company's competitors will not develop technologies and products that may be more effective in managing hearing impairment than the Company's products or that render the Company's products obsolete. The Company believes that the primary competitive factors in the hearing management market will be the quality of the hearing enhancement, safety, whether surgery is required, reliability, and endorsement by the surgeon. The Company believes that it will be competitive with respect to these factors. Nonetheless, because the Company's products are either under development or in the very early stages of commercialization, the relative competitive position of the Company in the future is difficult to predict. Lack of Sales, Marketing and Distribution Experience. The primary market for the Company's products in the United States is well defined and highly concentrated. Of the approximately 10,000 ENT surgeons in the United States, approximately 400 are specialists in otology. The Company intends to address this market with a direct sales force. The Company has established a European sales and marketing organization which, as of September 30, 2000, is comprised of ten (10) sales, marketing and clinical support personnel with headquarters located in Basel, Switzerland. In December 1999, the Company established a distribution partnership with Siemens covering most of the markets in Europe. In other international markets, including Japan, the Company will seek to establish either a network of distributors or a strategic partner. There can be no assurance that the Company will be able to build an adequate direct sales force or marketing organization in any country, that establishing a direct sales force or marketing organization will be cost-effective or that the Company's sales and marketing efforts will be successful. In addition, the Company has entered into distribution agreements with only a limited number of international distributors. There can be no assurance that the Company will be able to maintain these agreements or enter into similar agreements with other qualified distributors on a timely basis on terms acceptable to the Company, or at all, or that such distributors will devote adequate resources to selling the Company's products. Failure to establish an adequate direct sales force domestically and in select international markets, and to enter into successful distribution relationships, could have a material adverse effect on the Company's business, financial condition and results of operations. 12 Uncertain Availability of Third-Party Reimbursement. The Company believes that its products will generally be purchased by hospitals and otology practices upon the recommendation of an otologic surgeon. In the United States, hospitals, physicians and other health care providers that purchase medical devices generally rely on third-party payors, principally Medicare, Medicaid, private health insurance plans, health maintenance organizations and other sources of reimbursement for health care costs, to reimburse all or part of the cost of the procedure in which the medical device is being used. Such third-party payors have become increasingly sensitive to cost containment in recent years and place a high degree of scrutiny on coverage and payment decisions for new technologies and procedures. Hearing aids, which do not involve surgery and, in certain cases, are exempt from the requirement for 510(k) approval, are generally not reimbursed, although a modest reimbursement is provided under certain insurance plans. Traditionally, hearing aid users have paid for these devices directly. For cochlear implants, however, which are technologically advanced and FDA-approved through the PMA process for the treatment of profound hearing impairment, a reimbursement is available for the device, the audiological testing, and the surgery. Similarly, reimbursement is available for ossicular replacement prostheses that are FDA-approved for the treatment of conductive hearing loss. The Company's strategy is to pursue reimbursement for the Soundbridge, based on surgeon endorsement and demonstrated performance and quality of life improvement. Quality of life issues are included in the Company's clinical trial to provide data in support of this reimbursement strategy. There can be no assurance that the Company will be able to demonstrate improvement in quality of life or that reimbursement will ever be available for the Company's products. Certain third-party payors are moving toward a managed care system in which they contract to provide comprehensive health care for a fixed cost per person. The fixed cost per person established by these third-party payors may be independent of the hospital's cost incurred for the specific case and the specific devices used. Medicare and other third-party payors are increasingly scrutinizing whether to cover new products and the level of reimbursement for covered products. Although the Company has received FDA approval, uncertainty exists regarding the availability of third-party reimbursement for procedures that would use the Company's products. Failure by physicians, hospitals and other potential users of the Company's products to obtain sufficient reimbursement from third-party payors for the procedures in which the Company's products are intended to be used, could have a material adverse effect on the Company's business, financial condition and results of operations. Third-party payors that do not use prospectively fixed payments increasingly use other cost-containment processes or require various outcomes data that may pose administrative hurdles to the use of the Company's products. In addition, third-party payors may deny reimbursement if they determine that the device used in a procedure is unnecessary, inappropriate, experimental, used for a non- approved indication or is not cost-effective. Potential purchasers must determine that the clinical benefits of the Company's products justify the additional cost or the additional effort required to obtain prior authorization or coverage and the uncertainty of actually obtaining such authorization or coverage. 13 Even after obtaining the necessary foreign regulatory approvals, market acceptance of the Company's products and products currently under development in international markets will depend, 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. The Company believes that in Europe, the primary source of funding for products such as the Company's products is the various government sponsored healthcare programs. Requirements for the granting of reimbursement in many countries are not clearly specified and may involve the collection of additional clinical data in support of submissions to the appropriate health care administrations. There can be no assurance that any required data would be available on a timely basis or that any international reimbursement approvals will be obtained in a timely manner, if at all. Failure to receive international reimbursement approvals could have a material adverse effect on market acceptance of the Company's products in the EU as well as in international markets in which such approvals are sought. The Company believes that in the future reimbursement will be subject to increased restrictions both in the United States and in international markets. The Company believes that the overall escalating cost of medical products and services will continue to lead to increased pressures on the health care industry, both foreign and domestic, to reduce the cost of products and services, including the Company's products and products currently under development. There can be no assurance in either the United States or international markets that third-party reimbursement and coverage will be available or adequate, that future legislation, regulation or reimbursement policies of third-party payors will not otherwise adversely affect the demand for the Company's products or products currently under development or its ability to sell its products on a profitable basis. The unavailability of third- party payor coverage or the inadequacy of reimbursement could have a material adverse effect on the Company's business, financial condition and results of operations. Limited Manufacturing Experience; Scale-Up Risk; Dependence on Key Suppliers. The Company currently manufactures its products in limited quantities for laboratory testing, for its clinical trials and for initial commercial sales. The manufacture of the Company's Soundbridges is a complex operation involving a number of separate processes, components and assemblies. Each device is assembled and individually tested by the Company. The manufacturing process consists primarily of assembly of internally manufactured and purchased components and subassemblies, and certain processes are performed in an environmentally controlled area. After completion of the manufacturing and testing processes, implantable devices are sterilized by a sub-contracted supplier. The Company has no experience manufacturing its products in the volumes or with the yields that will be necessary for the Company to achieve significant commercial sales, and there can be no assurance that the Company can establish high volume manufacturing capacity or, if established, that the Company will be able to manufacture its products in high volumes with commercially acceptable yields. The Company will need to expend significant capital resources and develop manufacturing expertise to establish commercial- scale manufacturing capabilities. Furthermore, prior to approval of a PMA, the Company's facilities, procedures and practices will be subject to a pre-approval inspection by the FDA. The Company's inability to successfully manufacture or commercialize its soundbridges in a timely matter could have a material adverse effect on the Company's business, financial condition and results of operations. 14 Raw materials, components and subassemblies for the Company's Soundbridges are purchased from various qualified suppliers and are subject to stringent quality specifications and inspections. The Company conducts quality audits of its key suppliers, several of whom are experienced in the supply of components to manufacturers of implantable medical devices, such as pacemakers, defibrillators and drug delivery pumps. A number of components and subassemblies, such as silicone, signal processing electronics and implant packaging are provided by single source suppliers. Certain components of the Vibrant P, Vibrant D and Vibrant HF soundbridges, the analog and digital signal processing microcircuits, are provided by sole source suppliers. None of the Company's suppliers is contractually obligated to continue to supply the Company nor is the Company contractually obligated to buy from a particular supplier. For certain of these components and subassemblies, there are relatively few alternative sources of supply, and establishing additional or replacement suppliers for such components and subassemblies could not be accomplished quickly. In addition, if the Company wishes to significantly modify its manufacturing processes or change the supplier of a critical component, additional approvals will be required from the FDA before the change can be implemented. Because of the long lead time for some components and subassemblies that are currently available from a single source, a supplier's inability or failure to supply such components or subassemblies in a timely manner or the Company's decision to change suppliers could have a material adverse effect on the Company's business, financial condition and results of operations. The Company's manufacturing facilities are subject to periodic inspection by regulatory authorities, and its operations must undergo QS regulation compliance inspections conducted by the FDA and corresponding state agencies. The Company's facilities, procedures and practices were subjected to pre-approval QS regulation inspections and received notice of satisfactory compliance in August 2000.. The Company has been inspected by the Food and Drug Branch of the CDHS and a Device Manufacturing License has been issued to the Company. The Company will be required to comply with the QS regulation requirements in order to produce products for sale in the United States and with applicable quality system standards and directives in order to produce products for sale in the EU. Any failure of the Company to comply with the QS regulation or applicable standards and directives may result in the Company being required to take corrective actions, such as modification of its policies and procedures. Pending such corrective actions, the Company could be unable to manufacture or ship any products, which could have a material adverse effect on the Company's business, financial condition and results of operations. Limited Clinical Testing Experience. The U.S. FDA approved the Vibrant P and Vibrant D Soundbridges for commercial distribution in August 2000. The Company has also received approval of an Investigational Device Exemption ("IDE") to conduct a clinical trial of the Vibrant HF Soundbridge. The Company's totally- implantable Soundbridge, currently under development, will require additional development, clinical trials and regulatory approval prior to commercialization. The results from preclinical studies and early clinical trials may not be indicative of results obtained in later clinical trials, and there can be no assurance that clinical trials conducted by the Company will demonstrate sufficient safety and efficacy to obtain requisite approvals. The rate of completion of the Company's clinical trials may be delayed by many factors, including slower than anticipated patient enrollment or adverse events occurring during clinical trials. Completion of preclinical and clinical activities may take several years, and the length of time 15 for completion of the required studies is unpredictable. In addition, data obtained from preclinical and clinical activities are susceptible to varying interpretations, which could delay, limit or prevent regulatory approval. No assurance can be given that any of the Company's clinical trials will be successfully completed on a timely basis, or at all, that additional clinical trials will be allowed by the FDA or other regulatory authorities or that such clinical trials will commence as planned. Any delays in the Company's clinical trials would have a material adverse effect on the Company's business, financial condition and results of operations. Success in preclinical studies or early stage clinical trials does not assure success in later stage clinical trials. Reliance on FMT Technology. The Company has concentrated its efforts primarily on the development, implementation and acceptance of the Floating Mass Transducer ("FMT"), the patented core direct drive technology upon which all of the Company's Soundbridges are based. The Company's Soundbridges employ a direct drive approach to the management of hearing impairment, which is a novel development. There can be no assurance that the Company's Soundbridges, based on the Company's FMT technology, will prove to be safe and effective, or that if proven safe and effective, can be manufactured at a reasonable cost or successfully commercialized. Government Regulation. The Company's medical products, such as the Vibrant Soundbridge, are regulated as medical devices. Accordingly, clinical trials, product development, labeling, manufacturing processes and promotional activities are subject to extensive review and rigorous regulation by government agencies in most countries in which the Company will seek to commercialize its products. United States In the United States, the Company's products are subject to applicable provisions of the United States Federal Food, Drug, and Cosmetic Act ("FDC Act"), and other federal statutes and regulations governing, among other things, the design, manufacture, testing, safety, labeling, storage, record keeping, reporting, approval, advertising and promotion of medical devices. Noncompliance with applicable requirements can result in warning letters, fines, recalls or seizure of products, civil penalties, injunctions, total or partial suspension of production, withdrawal of approval or refusal to approve new marketing applications and criminal prosecution. Changes in existing requirements or adoption of new requirements could have a material adverse effect on the Company's business, financial condition and results of operations. Pursuant to the FDC Act, the FDA regulates the design, manufacture, distribution, preclinical and clinical study and approval of medical devices in the United States. Medical devices are classified in one of three classes (Class I, Class II or Class III) on the basis of the controls necessary to reasonably assure their safety and effectiveness. Safety and effectiveness is considered to be reasonably assured for Class I devices through general controls (e.g., labeling, premarket notification and adherence to current Quality Systems ("QS ") regulations) and for Class II devices through the use of additional special controls (e.g., performance standards, post-market surveillance, patient registries and FDA guidelines). Generally, Class III devices are those which must receive premarket approval by the FDA to reasonably assure their safety and effectiveness (e.g., life- sustaining, life-supporting and implantable 16 devices, or new devices which have been found not to be substantially equivalent to legally marketed devices, or devices whose safety and effectiveness cannot be reasonably assured through general controls, even if supplemented by additional special controls). Active implantable devices, such as the Company's implantable middle ear hearing devices, are considered Class III devices. Before a new device can be introduced to the market, the manufacturer generally must obtain FDA clearance through a 510(k) Premarket Notification or FDA approval through a PMA application. While the Company has no products for which it expects to seek 510(k) clearance, it may file 510(k) submissions with respect to future products. A 510(k) clearance will generally only be granted if the information submitted to the FDA establishes that the device is "substantially equivalent" to a legally marketed predicate medical device. Frequently, the FDA will require clinical data in support of a 510(k) submission, and the 510(k) process can become time-consuming and expensive. Significant modifications of the labeling, manufacturing and design of any product that has been cleared through the 510(k) process will require a new 510(k) Premarket Notification, if those modifications could significantly affect the safety, effectiveness or intended use of the device. A PMA application must be submitted if the device cannot be cleared through the 510(k) process. A PMA must be supported by extensive data, including, but not limited to, technical, preclinical, clinical trials, manufacturing, and labeling to demonstrate the safety and effectiveness of the device. The Company believes that all versions of the Vibrant Soundbridge currently under development are Class III devices and will require a PMA, as will future configurations of implantable middle ear hearing devices. The FDA has implemented a new streamlined PMA process called the modular PMA. Under the modular PMA process, modules reflecting the content requirements of a traditional PMA can be submitted as they are completed, allowing them to be reviewed and approved in a sequential manner. Before the Company's products can be commercialized in the United States, the Company must submit, in a PMA application, extensive data on preclinical studies and clinical trials, device design, manufacturing, labeling, promotion and advertising, as well as other aspects of the product. In addition, the Company must submit clinical data gathered in trials conducted under an IDE demonstrating to the satisfaction of the FDA that the product is safe and effective for its labeling claims, and obtain marketing approval from the FDA. Phase I of the IDE study has been completed. Phase I was limited to two sites and five subjects and was intended to test the safety and provide preliminary evidence of the effectiveness of the device and the surgical procedure used to implant the device. In November 1997, the Company filed an IDE supplement summarizing the Phase I results, finalizing the study protocol and proposed labeling claims, providing technical information regarding the Vibrant P Soundbridge, and requested permission to proceed to the pivotal study. In December 1997, the FDA approved the multi-center pivotal study in 55 subjects at up to 12 sites with the second generation Vibrant P Soundbridge. In November 1998 the Company received FDA approval of an IDE supplement to include the Vibrant HF Soundbridge in this study. To facilitate enrollment of a greater number of subjects who receive the Vibrant HF Soundbridge, on December 22, 1998, the Company requested FDA approval of an IDE supplement to allow an additional 15 subjects. This IDE supplement was approved by the FDA on January 19, 1999 and the Company has enrolled 8 subjects in this part of the clinical study. In March 1999 the FDA approved an IDE supplement permitting the evaluation of the Vibrant D Soundbridge. Subjects who had completed the clinical trial protocol for the Vibrant P Soundbridge were eligible for enrollment in the evaluation of the Vibrant D Soundbridge. In February 2000 the Company amended its PMA 17 application and the FDA deemed it fileable. Data from the PMA were reviewed by the Ear, Nose, and Throat Medical Devices Advisory Panel of the FDA in July 2000, and the panel voted unanimously to recommend approval, with conditions, of the Vibrant P and Vibrant D Soundbridges for use in the U.S. The FDA approved the Vibrant P and Vibrant D Soundbridges for commercial distribution in August 2000. There can be no assurance that the Company's future clinical trial efforts will progress as expected, will not be delayed or that such efforts will lead to the successful development of any product. No assurance can be given that any of the Company's clinical trials will continue to be allowed by the FDA or other regulatory agencies or that clinical trials will commence as planned. Any delays in the Company's clinical trials would have a material adverse effect on the Company's business, financial condition and results of operations. Success in preclinical studies or early stage clinical trials does not assure success in later stage clinical trials. Data obtained from preclinical and clinical activities are susceptible to varying interpretations which could delay, limit or prevent regulatory approval. Further, there can be no assurance that if such testing of products under development is completed, any such devices will be accepted for formal review by the FDA, or approved by the FDA for marketing in the United States. New PMAs or PMA supplements are required for significant modifications to the manufacture, labeling and design of a device that is approved through the PMA process. Supplements to a PMA often require submission of the same type of information as a PMA, except that the supplement is limited to information needed to support any changes from the device covered by the original PMA and may not require as extensive clinical data or the convening of an advisory panel. The PMA process can be expensive, uncertain and can frequently require several years. Even when a PMA is approved, the FDA may impose restrictions on the indications for which the device can be marketed. There can be no assurance that the Company will be able to obtain necessary approvals on a timely basis, or at all, and delays in obtaining or failure to obtain such approvals, the loss of previously obtained approvals, or failure to comply with existing or future regulatory requirements could have an adverse effect on the Company's business, financial condition and results of operations. The Company will continue to be regulated by the FDA with regard to the reporting of adverse events related to its products and ongoing compliance with QS regulation. The Company's manufacturing facility must be registered with the FDA and the California Department of Health Services ("CDHS") and will be subject to periodic inspections by the FDA and by the CDHS. A Device Manufacturing License has been issued by the State of California and this license must be renewed annually for the Company to continue manufacture of medical devices in California. Europe The primary regulatory environment in Europe is that of the EU which consists of 15 countries encompassing most of the major countries in Europe. The EU has adopted numerous directives and standards regulating the design, manufacture, clinical trial, labeling, and adverse event reporting for medical devices. The principal directives prescribing the laws and regulations pertaining to medical devices in the EU are the Medical Devices Directive 93/42/EEC ("MDD") and 18 the Active Implantable Medical Devices Directive 90/385/EEC ("AIMDD"). In the EU, the Company's soundbridges will be regulated as active implantables and therefore be governed by the AIMDD. For products, such as those of the Company, that have not previously been commercialized in the EU, CE marking is required prior to initiation of sales in the EU. Certain other countries, such as Switzerland, have voluntarily adopted laws and regulations that mirror those of the EU with respect to medical devices. Devices that comply with the requirements of a relevant directive will be entitled to bear CE conformity marking, indicating that the device conforms with the essential requirements of the applicable directive, and accordingly, can be commercially distributed throughout the EU. The method of assessing conformity varies depending on the class of the product, but normally involves a combination of self-assessment by the manufacturer and a third-party assessment by a Notified Body. This third party assessment may consist of an audit of the manufacturer's quality system and specific testing of the manufacturer's product. An assessment by a Notified Body in one country within the EU is required in order for a manufacturer to commercially distribute the product throughout the EU. For purposes of determining the necessary steps for assessing conformity, devices are classified under the Directives as Class I, Class IIa, Class IIb, Class III, or Active Implantable Medical Devices. Devices having a higher classification are considered to have a higher risk and, accordingly, are subject to more controls in order to bear CE marking. The Vibrant Soundbridge is designated as an Active Implantable Medical Device. Essential requirements under the AIMDD include substantiating that the device meets the manufacturer's performance claims and that safety issues, if any, constitute an acceptable risk when weighed against the intended benefits of the device. The two principal aspects of assessing conformity for Active Implantable Medical Devices are determinations from the Notified Body that the processes employed in the design and manufacture of a device qualify as a full quality system in compliance with applicable standards (e.g., EN ISO 9001, EN 46001 and 90/385/EEC), and that the technical, preclinical, and clinical data gathered on the device are adequate to support CE marking. The Company has undergone an inspection by its Notified Body and its quality system has been certified by the Notified Body as being in compliance with the required standards. The Company has received approval to affix the CE mark to the Vibrant P, the Vibrant HF, and the Vibrant D Soundbridges. To satisfy these requirements, the Company generally must complete a clinical trial conducted under European clinical trial standards (EN 540) to determine the safety and performance of the products. The Vibrant HF and Vibrant D Soundbridges utilize the same implanted component as the Vibrant P Soundbridge. Accordingly, the Notified Body did not require additional clinical data for the Vibrant HF and Vibrant D Soundbridges. The Company must continue to pass annual EN ISO 9001, EN 46001 and AIMDD 2.3 quality system audits in order to retain the authorization to affix the CE mark to its products. Once a manufacturer has satisfactorily completed the regulatory compliance tasks required by the directives and received favorable determinations by the Notified Body, it is eligible to place the CE mark on its products. Manufacturers are subject to ongoing regulation under the AIMDD. The quality system will be subject to periodic audit and recertification, and serious adverse events must be reported to the authorities in the country where the incident takes place. If such incidents 19 occur, the manufacturer may have to take remedial action, including withdrawal of the product from the EU market. While no additional premarket approvals in individual EU countries are required, prior to the marketing of a device bearing the CE mark, practical complications with respect to market introduction may occur. For example, differences among countries have arisen with regard to labeling requirements. Also, as the directives do not cover reimbursement and distribution practices, differences may occur in these and other areas. Dependence upon Patents and Proprietary Technology. In the United States, the Company holds 13 issued patents and 10 pending patent applications. Additionally, the Company has 1 issued and 24 pending foreign patent applications. These patents and patent applications generally cover the invention and application of the FMT as well as the specific application of the FMT and other concepts in the field of hearing impairment. In addition, the Company has licensed, on a royalty-free basis, a United States patent covering the magnetic attachment of an external audio processor to an implanted receiver. The Company's success will depend in part on its ability to obtain patent protection for its products and processes, to preserve its trade secrets, and to operate without infringing or violating the proprietary rights of others. The patent positions and trade secret provisions of medical device companies, including those of the Company, are uncertain and involve complex and evolving legal and factual questions. The coverage sought in a patent application either can be denied or significantly reduced before or after the patent is issued. Consequently, there can be no assurance that any patents from pending applications or from any future patent application will be issued, that the scope of the patent protection will exclude competitors or provide competitive advantages to the Company, that any of the Company's patents will be held valid if subsequently challenged or that others will not claim rights in or ownership of the patents and other proprietary rights held by the Company. Since patent applications are secret until patents are issued in the United States or corresponding applications are published in other countries, and since publication of discoveries in the scientific or patent literature often lags behind actual discoveries, the Company cannot be certain that it was the first to file patent applications for such inventions. In addition, there can be no assurance that competitors, many of which have substantial resources, will not seek to apply for and obtain patents that will prevent, limit or interfere with the Company's ability to make, use or sell its products either in the United States or in international markets. Although the Company has conducted searches of patents issued to other companies, research or academic institutions or others, there can be no assurance that such patents do not exist, have not been filed or could not be filed or issued, which contain claims relating to the Company's technology, products or processes. Patents issued and patent applications filed in the United States or internationally relating to medical devices are numerous and there can be no assurance that current and potential competitors and other third parties have not filed, or in the future, will not file, applications for, or have not received or in the future will not receive, patents or obtain additional proprietary rights relating to products or processes used or proposed to be used by the Company. In addition, patent applications in foreign countries are maintained in secrecy for a period after filing. Publication of discoveries in the scientific or patent literature tends to lag behind actual discoveries and the filing of related patent applications. There may be pending applications, which if issued with 20 claims in their present form, might provide proprietary rights to third parties relating to products or processes used or proposed to be used by the Company. The Company may be required to obtain licenses to patents or proprietary rights of others. Further, the laws of certain foreign countries do not protect the Company's intellectual property rights to the same extent as do the laws of the United States. Litigation or regulatory proceedings, which could result in substantial cost and uncertainty to the Company, may also be necessary to enforce patent or other intellectual property rights of the Company or to determine the scope and validity of other parties' proprietary rights. There can be no assurance that the Company will have the financial resources to defend its patents from infringement or claims of invalidity. The Company also relies upon trade secrets and other unpatented proprietary technology, and no assurance can be given that others will not independently develop substantially equivalent proprietary information and techniques or otherwise gain access to or disclose the Company's proprietary technology or that the Company can meaningfully protect its rights in such unpatented proprietary technology. The Company's policy is to require each of its employees, consultants, investigators and advisors to execute a confidentiality agreement upon the commencement of an employment or consulting relationship with the Company. These agreements generally provide that all inventions conceived by the individual during the term of the relationship shall be the exclusive property of the Company and shall be kept confidential and not be disclosed to third parties except in specified circumstances. There can be no assurance, however, that these agreements will provide meaningful protection for the Company's proprietary information in the event of unauthorized use or disclosure of such information. Recently Public Law 104-208 was signed into law in the United States and limits the enforcement of patents relating to the performance of surgical or medical procedures on a body. This law precludes medical practitioners and health care entities, which practice these procedures, from being sued for patent infringement. Therefore, depending upon how these limitations are interpreted by the courts, they could have a material adverse effect on the Company's ability to enforce any of its proprietary methods or procedures deemed to be surgical or medical procedures on a body. In certain other countries outside the United States, patent coverage relating to the performance of surgical or medical procedures is not available. Therefore, patent coverage in such countries will be limited to the FMT or to narrower aspects of the FMT. The medical device industry in general has been characterized by substantial litigation. Litigation regarding patent and other intellectual property rights, whether with or without merit, could be time-consuming and expensive to respond to and could distract the Company's technical and management personnel. The Company may become involved in litigation to defend against claims of infringement by the Company, to enforce patents issued to the Company or to protect trade secrets of the Company. If any relevant claims of third-party patents are held as infringed and not invalid in any litigation or administrative proceeding, the Company could be prevented from practicing the subject matter claimed in such patents, or would be required to obtain licenses from the patent owners of each such patent, or to redesign its products or processes to avoid infringement. In addition, in the event of any possible infringement, there can be no assurance that the Company would be successful in any attempt to redesign its 21 products or processes to avoid such infringement or in obtaining licenses on terms acceptable to the Company, if at all. Accordingly, an adverse determination in a judicial or administrative proceeding or failure by the Company to redesign its products or processes or to obtain necessary licenses 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. Although the Company has not been involved in any litigation to date, in the future, costly and time-consuming litigation brought by the Company 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. Future Capital Requirements; Uncertainty of Additional Funding. The Company will expend substantial funds in the future for research and development, preclinical and clinical testing, capital expenditures and the manufacturing, marketing and sale of its products. The timing and amount of spending of such capital resources cannot be accurately predicted and will depend upon several factors, including the progress of its research and development efforts and preclinical and clinical activities, competing technological and market developments, the time and costs of obtaining regulatory approvals, the time and costs involved in filing, prosecuting and enforcing patent claims, the progress and cost of commercialization of products currently under development, market acceptance and demand for the Company's products in the United States and internationally and other factors not within the Company's control. On February 17, 1998, the Company completed an initial public offering of 2,300,000 shares of common stock. On February 27, 1998, the Company completed the sale of an additional 345,000 shares of common stock pursuant to the exercise by the underwriters of an over allotment option. On December 1, 1999 the Company completed a private placement of 1,000,000 common shares with Siemens Audiologische Technik GmbH. On September 17, 2000, the Company completed an additional private placement of 1,026,086 shares of common stock with Siemens Audiologische Technik GmbH. On November 10, 2000, the Company completed an additional private placement of 6,397,632 shares of common stock. Net proceeds to the Company from these financings totaled approximately $64.4 million. While the Company believes the net proceeds of the initial offering, along with the private placements and its previously existing capital resources and projected interest income, should be sufficient to fund its operations and its capital investments through 2001, there can be no assurance that the Company will not require additional financing prior to that time. If adequate funds are not available, the Company could be required to delay development or commercialization of certain of its products, to license to third parties the rights to commercialize certain products or technologies the Company would otherwise seek to commercialize for itself, or to reduce the marketing, customer support or other resources devoted to certain of its products, any of which could have a material adverse effect on the Company's business, financial condition and results of operations. Dependence upon Key Personnel. The Company's future success depends in significant part upon the continued service of certain key scientific, technical and management personnel. Competition for such personnel is intense and there can be no assurance that the Company can retain its key scientific, technical, sales and marketing and managerial personnel or that it can attract, assimilate or retain other highly qualified scientific, technical, sales and marketing and managerial personnel in the future. The loss of key personnel, especially if without advance notice, or the inability to hire or retain qualified personnel could have a material adverse effect upon the Company's business, financial condition and results of operations. The Company has not entered into employment agreements with any of its key personnel. 22 Product Liability Risk; Possible Insufficiency of Insurance. The Company's business involves the inherent risk of product liability claims. The Company maintains limited product liability insurance at coverage levels which the Company believes to be commercially reasonable and adequate given the Company's current operations. However, there can be no assurance that such insurance will continue to be available on commercially reasonable terms, or at all, or that such insurance will be adequate to cover liabilities that may arise. Any claims that are brought against the Company could, if successful, have an adverse effect on the Company's business, financial condition and results of operations. Rights granted to investors. Under the terms of the Common Stock Purchase Agreement among the Company and a number of investors, dated as of September 13, 2000, pursuant to which the Company issued approximately 6.4 million shares of common stock to the investors for an aggregate purchase price of $26 million, the Company is subject to certain investors' rights. In the event the market price of the Company's common stock declines, the Company may be required to issue additional shares of common stock to the investors at no additional cost to the investors pursuant to a purchase price adjustment. The purchase price adjustment allows the investors, at any time until November 10, 2002, to calculate an adjusted per share purchase price equal to the average closing market price of our common stock as reported on the Nasdaq National Market for the 33 consecutive trading days immediately preceding the date of the adjustment. Those investors who desire to participate in this purchase price adjustment will receive additional shares of common stock equal to the difference between the number of shares which each investor could have purchased based on the adjusted per share purchase price at the investor's original investment amount and the number of shares originally purchased by the investor. Each investor may participate in a purchase price only once until November 10, 2002. A possible consequence of the investors' right to adjust their purchase price is that the investors, who as of November 10, 2000 held approximately 31% of the total number of shares of our outstanding common stock, could gain control of a majority of the voting power of the Company. The Company is also subject restrictions on how we can conduct our business. The Company must first receive the prior written consent of J.P. Morgan Capital, L.P. and Patricof & Co. Ventures, Inc., the two largest investors, before the Company can: . acquire any other business or business entity in any transaction in which the total amount of consideration we pay exceeds $10 million; or . issue, until November 10, 2002, any securities senior to the common stock, or any common stock sold at a discount from its fair market value in a transaction in which the Company receive at least $5 million in proceeds. Furthermore, the Company has agreed that as long as J.P. Morgan and Patricof maintain minimum share ownership levels, the Company's board of directors will nominate one individual designated by each of J.P. Morgan and Patricof to the board of directors for each annual meeting of the stockholders, and the Company's board of directors and management will vote all shares for which they hold proxies or are otherwise entitled to vote in favor of the nominees designated by J.P. Morgan and Patricof. 23 Item 3. Quantitative and Qualitative Disclosures About Market Risk The Company considered the provision of Financial Reporting Release No. 48 "Disclosure of Accounting Policies for Derivative Financial Instruments and Derivative Commodity Instruments, and Disclosure of Quantitative and Qualitative Information about Market Risk Inherent in Derivative Financial Instruments, Other Financial Instruments and Derivative Commodity Instruments". The Company had no holdings of derivative financial or commodity instruments at September 30, 2000. The Company is exposed to financial market risks, including changes in interest rates and foreign currency exchange rates. The fair value of the Company's investment portfolio or related income would not be significantly impacted by either a 100 basis point increase or decrease in interest rates due mainly to the short-term nature of the Company's investment portfolio. The Company's fixed rate debt obligations are subject to interest rate risk with minimal impact. An increase in interest rates would not significantly affect the Company's net loss. Much of the Company's revenue and all of its capital spending is transacted in U.S. dollars. However, the Company does enter into these transactions in other currencies, primarily certain European currencies. At September 30, 2000, the Company performed sensitivity analyses to assess the potential effect of this risk and concluded that near-term changes in interest rates and foreign currency exchange rates should not materially adversely affect the Company's financial position, results of operations or cash flows. PART II. OTHER INFORMATION Item 1. Legal Proceedings. None Item 2. Changes in Securities and Use of Proceeds. None Item 3. Defaults upon Senior Securities. None 24 Item 4. Submission of Matters to a Vote of Security Holders. None Item 5. Other Information. None Item 6. Exhibits and Reports on Form 8-K (a) Exhibits The following exhibit was filed as part of this report: Exhibit No. Exhibit Description ----------- ------------------- 10.01 Common Stock Purchase Agreement among Symphonix and certain investors dated September 18, 2000. * Exhibit 10.01 to the report on Form 8-K filed on November 2, 2000 is hereby incorporated by reference 27.01 Financial Data Schedule (b) No reports on Form 8-K were filed during the quarter ended September 30, 2000. Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this 10-Q report to be signed on its behalf by the undersigned thereunto duly authorized. Date: November 14, 2000 SYMPHONIX DEVICES, INC. /s/ Kirk B. Davis ---------------------- Kirk B. Davis Chairman of the Board, President and Chief Executive Officer /s/ Terence J. Griffin ---------------------- Terence J. Griffin Vice President Finance and Chief Financial Officer (Principal Financial and Accounting Officer 25 EX-27.01 2 0002.txt FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE COMPANY'S FINANCIAL STATEMENTS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 9-MOS DEC-31-2000 JAN-01-2000 SEP-30-2000 8,109 0 321 (5) 1,651 10,373 4,224 2,971 11,699 5,206 0 0 0 14 4,164 11,699 706 706 2,331 13,377 0 0 146 (12,488) 0 (12,488) 0 0 0 (12,488) (0.93) (0.93)
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