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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
ANNUAL REPORT
PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2000
Commission File No. 000-20931
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VENTANA MEDICAL SYSTEMS, INC.
(Exact name of small business issuer as specified in its charter)
Delaware 94-2976937
(State of Incorporation) (IRS Employer
Identification No.)
3865 North Business Center Drive
Tucson, AZ 85705
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (520) 887-2155
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Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, $.001 par value
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Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of registrant's knowledge, in definitive proxy or other information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [_]
The aggregate value of voting stock held by non-affiliates of the Registrant
was approximately $298,747,235 based upon the average of the high and low
prices of the Registrant's Common Stock reported for such date on the Nasdaq
National Market. Shares of Common Stock have been excluded in that such persons
may be deemed to be affiliates. The determination of affiliate status is not
necessarily a conclusive determination for other purposes. As of December 31,
2000, the Registrant had outstanding 15,444,122 shares of Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
Not applicable
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PART I
Item 1. Description of Business
This report on Form 10-K may contain projections, estimates and other
forward-looking statements that involve a number of risks and uncertainties.
For a discussion of factors which may affect the outcome projected in such
statements, see "Cautionary Factors That May Affect Future Results," beginning
on page 14. While this outlook represents our current judgment on the future
direction of our business, such risks could cause actual results to differ
materially from our future performance listed below. We undertake no
obligation to release publicly the results of any revisions to these forward-
looking statements to reflect events and circumstances arising after the date
of this report on Form 10-K.
For our current and historical financial positions, see "Selected Financial
Data," beginning on page 26.
Summary of Our Business
Unless the context requires otherwise, all references to we, our or us
refer to Ventana Medical Systems, Inc., a corporation originally incorporated
in the state of Delaware in 1993, and its six subsidiaries:
. Ventana Medical Systems GmbH
. Ventana Medical Systems Japan K.K.
. Ventana Medical Systems, Pty. Ltd.
. Ventana Medical Systems, S.A.
. BioTek Solutions, Inc.
. BioTechnology Tools, Inc.
We develop, manufacture and market instruments and consumables that are
used to automate diagnostic and drug discovery procedures in clinical
histology laboratories and drug discovery laboratories worldwide. Our
instrument-reagent systems are designed to prepare and stain patient tissue or
cells mounted on a microscope slide for examination by a pathologist. The
consumable products we market that are required to operate our instruments
include reagents and other accessories. Our systems are designed to provide
users with high-quality and consistent results, high throughput and
significant labor savings. Our clinical products are used by histology labs,
which are labs that focus on the analysis of human tissue, to assist
anatomical pathologists in the diagnosis of cancer and infectious diseases.
Most histology labs are hospital based although some independent reference
labs offer histology services. Our drug discovery products are used by
research labs at large pharmaceutical and biotechnology companies and medical
research centers to assist in the discovery of new drugs. Our instruments have
been placed in the majority of the top fifty U.S. cancer centers, which are
recognized as leaders in cancer research and treatment as reported in the July
2000 issue of U.S. News and World Report. These include Johns Hopkins
Hospital, the Mayo Clinic, Memorial Sloan-Kettering Cancer Center and M.D.
Anderson Medical Center.
Histology tests performed on our instruments are used by pathologists and
oncologists to assist in diagnosis of cancer and infectious diseases and to
select an appropriate therapy. According to the National Cancer Institute,
cancer is the second leading cause of death in the United States. Currently
8.4 million people in the U.S. have a history of invasive cancer. Mortality
rates are improved by early detection and the selection of appropriate
therapies. Based upon our modeling of the market, we estimate that histology
labs worldwide purchase in excess of $1.3 billion in instruments and
consumables on an annual basis. In addition, the pharmaceutical and
biotechnology companies who are analyzing the human genome and proteome to
accelerate new drug discovery also benefit from automating the analysis of
human and animal tissue and cells.
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Industry Overview
We target our instrument-reagent systems at two markets: the histology lab
and the drug discovery lab. We currently derive the majority of our revenues
and profits from ongoing sales of consumables to histology labs and the sale
of instrument systems, although we expect sales to research labs engaged in
drug discovery to grow over time.
Histology
Histology is the study of the microscopic structure of tissues. In a
histology lab, an anatomical pathologist attempts to identify the causes and
consequences of disease in a specific part of the body. An anatomical
pathologist uses tools ranging from the naked eye to powerful microscopes and
even molecular analysis of cell proteins and genes. This is done by examining
tissue samples obtained during surgery or through biopsy procedures to
identify structural and other changes in cells, tissues and organs. Anatomical
pathology examinations are among the most reliable ways to establish: (1) a
diagnosis of the type of disease suffered by the patient, (2) a prognosis on
the likely progression of the disease, and (3) a determination as to which
therapies are most likely to be effective in treating the patient.
Based upon a survey of hospitals, we estimate that there are about 6,000
histology labs worldwide. Of this total we estimate about 2,900 are in North
America, 2,000 in Europe and 1,100 in Japan and the remainder of the world.
Histology is principally a North American term. In many countries histology
(the analysis of tissue) and cytology (the analysis of cells) labs are
combined into a single anatomical pathology lab.
All patient samples entering the histology lab move through seven basic
processing steps or work cells:
. Accessioning--Tissue is entered into the hospital information system for
medical records and billing purposes.
. Grossing--Following accessioning, the gross patient tissue specimen is
examined by a pathologist. Several tissue samples are then cut from the
gross specimen for further examination and placed in small plastic
cassettes.
. Tissue Processing--Cassettes from gross specimens are generated
throughout the day and placed at the end of the day in an instrument
called a tissue processor for overnight batch processing. Tissue
processors preserve the tissue through the use of a fixative, usually
formalin, and infusing the tissue with paraffin so it can be more
readily sectioned or cut. An alternative to using a fixative is to
freeze tissue and handle it in a frozen state although, we estimate that
less than 5% of patient specimens entering histology labs are frozen.
. Embedding--The first activity that usually occurs in a histology
laboratory each morning is to remove the processed tissue from each
cassette and embed it in a paraffin block. This work is performed
manually and is undertaken to produce a specimen of uniform size that
can be cut on a microtome.
. Sectioning--Each tissue block is next transferred to the sectioning area
of the lab where very thin sections are cut on a microtome and mounted
on a microscope slide. The number of slides that are cut from each block
varies according to the case and is usually determined by the
pathologist who is performing the gross analysis.
. Hemotoxlyn and Eosin, or H&E, Staining--Each microscope slide is then
stained with two basic stains, Hemotoxlyn and Eosin, that help the
pathologist identify each cell's nucleus, cytoplasm and membrane.
. Microscopic Examination--Finally, each H&E stained slide is examined by
a pathologist using a microscope to determine if the tissue or cells are
healthy or diseased. In particular, the pathologist is looking for the
presence of microorganisms that could indicate an infectious disease or
deformed cells that could indicate the presence of cancer. In cases
where an H&E stained slide appears to have abnormalities, the
pathologist performing the initial examination of a patient specimen may
request that the slide undergo additional testing. We estimate this
happens in approximately 15% of cases.
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Additional tests which may be requested by the pathologist include
immunohistochemistry, Special Stains or in situ hybridization tests. These
tests are significantly more complex than the H&E stains and require special
reagents.
. Immunohistochemistry, or IHC, stains are used primarily by pathologists
and oncologists to assist in the diagnosis of cancer and to determine
different treatment options. Pathologists use IHC stains to test for the
presence or over expression of the proteins involved in cancer.
. Special Stains are used primarily to assist in the diagnosis of
infectious diseases, although they can also be used to assist in cancer
diagnosis. Special Stains are chemical dye stains that localize to
microorganisms located in tissue and to specific tissue types.
. In situ hybridization, or ISH, stains can be used to assist in the
diagnosis of infectious diseases or genetic mutations that are usually
associated with the presence of cancer.
We do not currently participate in all histology lab work cells. We
currently offer products that are used in tissue processing, IHC staining,
Special Stains and ISH staining.
Tissue Processing. In developed nations, all histology labs have at least
one automated tissue processor instrument and most labs have two or more. In
less developed countries, tissue processing is still performed manually in
most labs. We estimate that the worldwide installed base of tissue processing
instruments is greater than 10,000 and, based upon our field experience, we
estimate annual shipments to be between 1,000 and 1,500 instruments. The size
of the annual market is driven primarily by replacements, although some
shipments reflect growth driven by an increase in surgical procedures. Tissue
processors consume a substantial quantity of reagents (fixatives, alcohol,
xylene, paraffin), however we do not participate in this reagent market.
IHC Staining. We estimate that there are in excess of 30 million slides
stained with IHC annually on a worldwide basis. The majority of these slides
are stained in the approximately 6,000 hospital-based histology labs. However,
in North America and Japan some hospitals send their IHC slides to regional
reference labs for staining rather than performing the work themselves. We
estimate that the number of IHC slides processed by labs in the U.S. on an
annual basis is growing at about a 6%-8% rate due to:
. increasing acceptance of the value of the technology by pathologists and
oncologists;
. the increasing incidence of cancer as the population ages;
. the emergence of new stains that may influence therapy choices; and
. the shifting of the market from manual to automated IHC slide
processing.
We estimate that approximately 50% of the IHC slides processed in North
America and Europe are stained on automated instruments. Most of the rest of
the world is using manual staining, which we believe represents a substantial
growth opportunity as a portion of these users are converted to automated
systems.
IHC instruments require reagents and accessories to operate. We supply a
full line of these consumables for use with our instruments. Our experience in
the industry suggests that we are the worldwide market leader in supplying
automated IHC staining systems.
Special Stains. We estimate that the Special Stains market is slightly
smaller than the worldwide IHC market and growing rapidly. There is an
opportunity to place instruments with virtually every hospital-based histology
lab as Special Stains slides are rarely sent to reference labs. Currently,
nearly all Special Stains slides are manually processed. We believe that a
major segment of the market will switch toward automated slide processing over
the next 5-10 years.
ISH Staining. The clinical market for ISH staining is currently very small
due to the difficulty of performing ISH stains manually and the small number
of stains accepted for clinical use. We expect automation to grow the clinical
market. Currently, the principal clinical tests are used to detect infectious
diseases, primarily
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viruses, in tissue. However, ISH tests for genetic mutations may eventually
become important clinical tests. One of the few ISH genetic mutation tests
performed in the histology lab today is the test for Her-2/neu gene over-
amplification in cancerous breast tissue. This is currently a small market as
most laboratories prefer to measure Her-2/neu status using an IHC stain.
New Drug Research
The research market for new drugs comprises over 500,000 researchers
worldwide located in labs operated by traditional pharmaceutical companies,
biopharmaceutical companies, governments and medical research centers. In
these labs, research is being conducted to determine the causes of disease and
the discovery of drugs to treat disease. Genomics, or the study of genes and
their function, is seeking to accelerate the drug discovery process by
understanding the molecular mechanisms of disease. The genomics revolution is
providing researchers with a dramatic increase in the number of potential drug
targets, such as a specific protein involved in a disease process, against
which to conduct screens of compound collections, or compound libraries.
Genomics is the analysis of nucleic acids, which are the fundamental
regulatory molecules of life. Nucleic acids take two forms, DNA or RNA. These
molecules contain and convey the instructions that govern all cellular
activities, including protein manufacture and cell reproduction. DNA and RNA
consist of linear strands of nucleotide bases, the specific sequences of which
constitute the genetic information in the cell. The unique genetic blueprint
for all living organisms is encoded in the DNA. The entire DNA content of an
organism is known as its genome, which is organized into functional units
called genes. Any defect or mutation in the sequence of nucleotide bases in
the DNA or RNA can disrupt cell or protein function and lead to disease.
Genomics has created opportunities to fundamentally alter the field of
human medicine through the discovery of new biological targets for drugs and
an improved ability to diagnose and manage disease. Interest in understanding
the relationships between genes and disease has generated a worldwide effort
to identify and sequence the genes of many organisms, including the
approximately three billion nucleotide pairs and the estimated 30,000 genes
within the human genome. Once researchers identify the genes and their
nucleotide sequences, we anticipate that an understanding of the specific
function of each of these genes and the role that different genes play in
disease will require many years of additional research.
Proteomics is the analysis of proteins which are encoded by active genes
and are the direct cause of diseases in the body. It is believed that there
are many more proteins in the human body than genes. The human proteome is
years away from being decoded but this task will be simplified as the function
of the estimated 30,000 human genes is uncovered. Proteomics is likely to
increase in importance in drug discovery labs.
Business Strategy
Our objectives are to: (1) expand our worldwide leadership position in
automating histology labs and (2) leverage the core technologies we have
developed for the histology lab into drug discovery labs. Our business
strategies to achieve these objectives are as follows:
. Provide high-quality, innovative and flexible automation systems for
tissue analysis. Our position as a leader in the histology lab
automation market has been built on innovative automated
instrument-reagent systems. Our systems have been designed as broad
enabling platforms that permit customers to easily expand their test
menu. These automated systems allow for superior patient care by
providing anatomical pathologists with higher quality, more consistent
and more timely staining than through manual methods. Further, labs
benefit by increasing output and reducing labor costs through automation
and walk-away convenience.
. Provide high throughput, value-added testing systems for drug discovery
applications. We intend to pursue the same broad strategies in the drug
discovery market as we are pursuing in the histology market. We also
intend to consider developing relationships with other organizations
with complementary skills or technologies, which should allow us to
quickly acquire capabilities we need in a rapidly changing market.
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. Maximize placement of our automated systems in histology and drug
discovery laboratories both domestically and worldwide. Rapidly
automating manual work cells permits us to strengthen our competitive
position by establishing a large base of instruments that current or
future market entrants must overcome. We estimate that our worldwide
installed base of IHC and Special Stains instruments is significantly
larger than the combined installed bases of instruments of all of our
current competitors. We believe that the size and quality of our direct
sales coverage will permit us to maximize instrument placements and
maximize revenue stream per placement.
. Ensure a steady sales stream of consumables for use in these
instruments. Each IHC, Special Stain and ISH instrument placed typically
provides us with a recurring revenue stream through the sale of reagents
and other consumable supplies. Our strategy is to increase this revenue
stream by converting all existing manual tests performed by the customer
to full automation and by selling the customer all the required reagents
for the automated tests. We intend to expand our menu of automated tests
over time, which should increase the consumable revenue we receive from
each instrument placement, as typically our systems are closed systems
which can only be operated with consumables produced by us.
. Continue ongoing technological development and improvement of our
instruments and reagents. We design all of our own products, unlike most
of our competitors, who rely on outside design firms to create their
instruments. We are developing new instruments and enhancing existing
instruments and developing reagents for our installed base of
instruments as well as for new products. Our engineering, marketing and
reagent research and development organizations work closely with their
manufacturing counterparts on all new products to ensure they can be
produced cost effectively. We protect our designs with an aggressive
intellectual property strategy.
History of the Company
We were incorporated in California in 1985 by a pathologist practicing at
the University of Arizona Medical Center who was interested in automating IHC
staining. In 1989 we procured venture capital funding and launched our first
instrument-reagent system in 1991. In 1993 we were reincorporated in Delaware.
We have launched multiple new systems since then, some of which were developed
internally and some of which were acquired.
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Our Products
We market four product lines: tissue processors, IHC staining instruments,
Special Stains instruments and ISH staining instruments. All of these
instruments use consumables such as reagents, barcode labels, and wicking
pads, many of which we sell. Our product offerings are summarized in the table
below:
Product Offerings
Instrument Targeted Customers Uses Consumables
---------- ------------------ ---- -----------
Renaissance Tissue Histology Labs Fix tissue and embed Yes--but largely
Processor sample in paraffin. supplied by third
parties
TechMate 500 System Histology Labs Stain tissue with 10 accessory products
Reference Labs antibodies and 2 detection systems
detection chemistry 30 primary antibodies
to identify proteins.
BenchMark IHC and ISH Histology Labs Prepare and stain 16 accessory products
System Reference Labs issue with antibodies 6 detection systems
and detection 30 primary antibodies
chemistry to identify
proteins. Prepare and
stain tissue with
probes and detection
chemistry to help
identify infectious
diseases and genetic
mutations.
NexES IHC System Histology Labs Stain tissue with 6 detection systems
antibodies and 214 primary
detection chemistry antibodies
to identify proteins.
NexES Special Stains Histology Labs Stain tissue with 14 accessory products
System Reference Labs chemical dyes to 14 Special Stains
identify
microorganisms and
specific types of
tissue.
Discovery ISH and Biotechnology Hybridize nucleic 13 accessory products
IHC System Companies, acid microarrays with 2 detection systems
Pharmaceutical ISH probes.
Companies, Government Conduct mRNA studies
Labs, Medical in tissue.
Research Labs Prepare and stain
tissue with
antibodies and
detection chemistry
to identify proteins.
Tissue Processors
We entered the tissue processing work cell when we acquired BioTechnology
Tools. BioTechnology Tools designed, manufactured and marketed through
distributors a tissue processor known as the PTP-1530 which we have
subsequently modified and now market as the Renaissance.
Our Renaissance tissue processor is a batch instrument that can accommodate
up to 350 specimens at a time. This completely enclosed system can be
configured as a floor or bench top unit. It has easy-to-use software with
flexible programmability and a pulse magnetic stirrer that significantly
improves the quality of prepared
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tissue. The Renaissance quality control system allows the customer to monitor
the quality of the reagents being used, and to extend the life of their
reagents using a paraffin cleaning system. We do not market a complementary
line of consumables with the Renaissance.
Staining Systems and Associated Reagents
The principal benefits of automated cellular and tissue analysis using our
integrated systems as compared with manual methods are:
. improved reliability, reproducibility and consistency of test results;
. faster turnaround time for test results;
. increased test throughput for the testing;
. reduced dependence on skilled technicians;
. ability to obtain maximum clinical information from minimally-sized
biopsies;
. ability to document processing protocols;
. enhanced cellular differentiation through multiple staining on a single
slide; and
. standardization of slide preparation among institutions.
In addition to these critical clinical and operational advantages, we have
determined that our automated approach has cost advantages as well.
IHC Staining. Our first product launch in 1991 was an instrument-reagent
system to automate IHC staining. Prior to the introduction of this system, all
IHC staining was performed manually or using low-level automation. In early
1996, we acquired our principal competitor in the IHC market, BioTek
Solutions, Inc. We now enjoy a leading market share position in automated IHC
staining worldwide.
We currently market three IHC instrument systems with a full line of
complementary reagents and accessories. Our line of IHC products includes
batch-processing systems targeted to large hospital clinical labs and
reference labs and patient priority systems targeted to hospital clinical labs
and fast turn around time applications in reference labs. Although our
existing batch processing systems are "open," providing the customer with the
ability to purchase reagents from either us or other sources, the majority of
our United States customers with batch processing systems regularly purchase
reagents from us. Our patient priority systems are "closed" in that customers
must purchase detection chemistries from us in order to operate the
instruments.
Our TechMate 500 batch processing instruments has a 120-slide capacity and
is designed for large volume testing using a single antibody on multiple
patient biopsies and research applications in which long incubation times and
unique detection chemistries are required. Our batch processing instruments
employ capillary action to perform IHC tests. Patient biopsies are placed on
capillary gap slides, which maintain a space of predetermined width between
adjacent slides when loaded into TechMate 500 systems. Reagents are loaded
into disposable reagent trays and programmable software directs the instrument
to apply the reagents in the proper sequence. The instrument immerses the
bottoms of the slides in the reagents as programmed and the reagents are drawn
up the slide and over the tissue specimen by capillary action. After each
reagent application and incubation, the instrument removes the reagent from
the specimen by placing the slides onto disposable blotting pads. In
North America, we directly manufacture and market reagents for use in our
TechMate systems. The TechMate 500 is applicable to both large and moderately
sized reference labs and large research labs.
Our premier IHC system is the BenchMark which was launched in late 2000. We
believe this is a revolutionary instrument from two perspectives. First, it
automates all of the steps in the IHC workcell from "BTS" (baking through
staining), saving up to 90 minutes of manual preparatory work required prior
to an IHC run. Second, the BenchMark will perform both IHC and more complex
ISH stains. The BenchMark system is
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barcode driven and is designed for multiple tests on a single patient biopsy
with rapid turnaround time and walk-away convenience. A barcode label affixed
to each slide positively identifies the slide and the test procedures to be
performed. The instrument scans the barcodes on the slides and the reagent
dispenses and processes each slide with the unique steps necessary to perform
each test. Our proprietary software controls all aspects of the test
procedures. The steps of dispensing, incubating (i.e. temperature and time
control) and washing are performed by the instrument using a series of
proprietary chemical/mechanical methods developed by us. These methods are
critical to obtaining precise, sensitive and rapid test results and make the
system reliable and easy to use. Typically, the processing of slides on the
instrument requires less than two hours.
The BenchMark is based upon a modular design and an external personal
computer operating under a Windows environment for software control. Each
module holds up to 20 slides in the reaction chamber and 25 reagents on its
reagent carousel. The modular design of the BenchMark and external personal
computer permits the linkage of up to eight BenchMark IHC/ISH or NexES Special
Stains modules together, creating the capacity to process up to 160 slides.
The BenchMark therefore offers users a significant degree of flexibility as
users can purchase from one to eight modules depending upon their test volume
requirements.
Reagent products are composed of bulk reagents, for example, reagents that
remove paraffin from tissue samples and condition the cells, and dispenser
administered reagents such as primary antibodies and detection chemistries,
each of which is required for an IHC test. Customers that have patient
priority systems must use our detection chemistries on all tests. They have
the option of purchasing primary antibodies from us or other sources.
Customers who have our batch processing systems have the option of purchasing
both antibodies and detection chemistries from us or other sources. Users of a
majority of our United States installed batch processing systems regularly
purchase reagents from us.
Our NexES IHC staining system continues to be a key tool in supporting
automation of mid-size and smaller volume customer accounts in IHC.
We sell a line of over 214 primary antibodies for use on our IHC systems.
These are used to detect antigens in combination with detection chemistry kits
on our instruments. The antibodies we market to perform IHC tests currently
account for more than 90% of total IHC test volume.
We estimate that detection chemistries typically account for approximately
60% of the total expenditures for reagents required to perform IHC tests using
our instruments. This figure will decrease as we continue to place BenchMarks.
Reagents used to prepare tissue prior to applying a primary antibody will
become an important source of revenue to us. We produce a line of detection
chemistries for use on both patient priority and batch processing systems
which provide the user with standardized reagents, thereby giving the user
convenient and rapid results. The detection chemistries have been developed by
using proprietary formulations which, when combined with our primary
antibodies and other reagents, optimize the results of tests performed on our
instruments. These kits generate the visual signal in an IHC reaction at the
site where a primary antibody is bound to a specific antigen or molecule in
the cell or tissue. The patient priority system utilizes detection kits which
include: (i) a DAB Kit which generates a brown color; (ii) an AEC Kit which
generates a deep red color; (iii) an Alkaline Phosphatase Red Kit which
generates a bright red color; and (iv) an Alkaline Phosphatase Blue Kit which
generates a deep blue color. We currently sell DAB and Alkaline Phosphatase
Red for use with our batch processing instruments. The detection kits are
designed to perform tests on a wide variety of specimens, so a lab can, for
example, perform tests on tissue preserved in paraffin and on frozen tissue
simultaneously. Our detection chemistries have been formulated to provide long
term stability for reproducibility and ease of use as well as a high signal to
noise ratio for optimal sensitivity.
We offer a line of consumable ancillary products that are necessary for
processing slides on our instruments. These include buffers for optimizing the
IHC reaction and counterstains for staining cell nuclei, which are used with
both patient priority and batch processing instruments. The buffers ensure
good morphology, low backgrounds and high signals. The counterstains provide
additional convenience for the customer by eliminating the need for additional
processing of the slides after staining on the instrument. For use with
patient priority
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instruments, we also supply a proprietary liquid coverslip used to inhibit
evaporation during processing in the instrument, fixatives for maintaining the
morphology of cells or tissues, enzymes for unmasking antigens and slide
barcodes for use in identifying the slide and its specific IHC reaction steps.
For use with batch processing instruments, we also provide disposable reagent
trays which are used to hold the reagents during IHC reactions, capillary gap
slides and wicking pads used for reagent removal between applications.
Special Stains. In late 1998, we launched our second instrument-reagent
system which handles Special Stains testing. It was the first automated
Special Stains system offered to histology labs. We believe that we have
established ourselves as the clear market leader in this product segment. We
supply both an automated instrument for Special Staining and all the reagents
needed to operate the instrument. Two competitors have entered the automated
Special Staining market since we launched our system.
The Special Stains module can be operated by the same control computer that
operates our NexES IHC modules. Any combination of up to eight Special Stains
and IHC modules may be operated by a single control computer. This flexibility
enables customers to design a combination Special Stains/IHC system that meets
the specific needs of their lab. It also provides future flexibility for
handling lab growth.
The Special Stains module uses a different approach for dispensing reagents
than the IHC system. The Special Stains aspiration and dispense system permits
us to use a low cost container for our reagents.
We currently market fourteen different Special Stains kits that we estimate
account for approximately 90% of all types of Special Stains performed in
histology labs. We plan to expand this test menu in the future so that our
Special Stain system can meet more than 95% of most laboratories Special
Staining needs. All of our Special Stain kits were developed using proprietary
protocols.
ISH Staining. We entered the ISH staining market with the launch of our
GenII system in 1995. The GenII was primarily sold into the drug discovery
market although some instruments were placed in histology labs for clinical
use. We have not aggressively marketed the GenII in recent years due to high
field support requirements and low consumption of reagents and accessories.
Our recently launched BenchMark instrument has ISH capability. We plan to
leverage this capability with a broad menu of clinical ISH tests. ISH tests to
identify Epstein Barr Virus and Cytomegalovirus were launched in late 2000.
This menu will be supplemented with the launch of Human Papilloma Virus and
Her-2/neu gene amplification tests in early 2001.
We launched an ISH and IHC staining system for drug discovery labs in
December 1999 called the Discovery. The Discovery system can function as a
high throughput processor of DNA and RNA microarrays. It can also be used as a
high throughput processor of tissue stains used to validate gene drug leads.
We anticipate that this system will primarily be sold to companies involved in
drug research.
The Discovery staining system consists of a staining module and a full line
of complementary reagents and accessories. The "front-end" of the system is
open, permitting researchers to use their own molecular probes in searching
for genetic mutations or antibodies in searching for proteins. The "back-end"
of the system, consisting of detection chemistry that attaches to the
molecular probe or protein and permits the researcher to visualize the target,
is closed and must be purchased from us. The only exception to this is where
the detection chemistry is mounted on the target probe. This is the case when
a fluorescent in situ hybridization, or FISH, stain is performed.
Like the BenchMark system, the Discovery system incorporates a number of
important technological advances over our earlier NexES IHC and Special
Staining systems. The principal advantage is the ability to accurately control
the reaction temperature. In contrast, the NexES IHC and Special Stain modules
heat the entire reaction chamber to a pre-set temperature and maintain that
temperature during the entire processing cycle. Individual slide heaters in
the Discovery permit an optimal protocol to be developed for each test. It
also permits the unwinding or denaturing step that is critical to detecting
DNA abnormalities. We have filed a number of patents to protect inventions
incorporated into the Discovery system. Many of these inventions are also
incorporated in our BenchMark system.
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Our Discovery system is currently being used, or tested for use, in the
following drug discovery applications:
. Processing Nucleic Acid Microarrays. These assays are used to identify
genes that are possible targets for drug therapy. Our Discovery
instrument can be used to process DNA and RNA assays.
. Processing Tissue Samples. Companies engaged in drug discovery are
confirming gene and protein in traditional tissue slides. Our Discovery
instrument can be used to detect gene expression levels in tissue and to
identify protein levels in tissue.
Research & Development
Our research and development group is divided into two teams: one that is
responsible for instrument development and a second which develops staining
protocol and reagents. We have focused our efforts on the development of
innovative combined instrument-reagent systems. We are developing new
instruments and enhancing existing instruments. In addition, we are developing
reagents for our installed base of instruments as well as for new products.
Our research and development activities are performed primarily by our
staff of 76 employees. These efforts are supplemented by consulting services
and assistance from scientific advisors. We spent $11.1 million in 2000,
$7.1 million in 1999 and $5.1 million in 1998 on research and development.
Instrumentation Development Projects
Our instrumentation development is focused on continuous product
improvement and new product development. We believe that the modular platform
used by our NexES IHC system has enabled us to develop new products more
rapidly. We implemented this strategy with the launch of the NexES Special
Stains system in 1998, our Discovery System launched in late 1999 and the
BenchMark launched in late 2000. We expect to continue this modular
development strategy in the future. We continue to explore new opportunities
in instrument systems that add value to our customer, including automating
other manual processes in the histology lab.
Reagent Development Projects
Our reagent development is divided into five principal areas:
. new antibody development;
. detection chemistries;
. Special Stain chemistries;
. ISH clinical chemistries for BenchMark; and
. ISH and IHC applications for the Discovery.
We continue to monitor third-party development of new primary antibodies
and will license or purchase these as appropriate. Primary antibodies are used
to identify abnormal levels of patient expression which assists pathologists
in recommending treatment protocols for cancer patients. We also continue to
improve the sensitivity and specificity of our detection chemistries. New
detection chemistries with higher signal strength and lower background noise
were introduced in early 1999.
Reagent development also supports the development of new instrument
systems. A complete reagent product line was introduced in conjunction with
the October 1998 launch of the Special Stain module. Development of reagents
to support our Discovery ISH instrument is ongoing. These include applications
to hybridize microarrays and to conduct message expression studies in tissue.
10
Customers
Our customers consist of clinical histology labs and the drug discovery
labs of large pharmaceutical companies, biotechnology companies, government
labs and medical research centers. None of our customers accounted for more
than 5% of our consolidated revenues in 2000, 1999 or 1998.
Patents and Proprietary Rights
We have pursued a strategy of patenting key technologies that relate to
both the automation and chemistry of analyzing cells and tissues on microscope
slides. We presently own 32 United States patents and numerous corresponding
foreign patents. We have also filed patent applications in the U.S. and abroad
that cover research and development as it relates to existing and future
products. In 2000, three of our U.S. patents issued. We also have access to
some key technology through exclusive and nonexclusive licenses, such as
patented Human Papilloma Virus sequences.
Our patent portfolio is divided roughly into two segments: instruments and
reagents. Patents and applications related to instruments include:
. three U.S. patents directed to the Liquid Cover Slip(TM) technology;
. the suite of patents related to the TechMate instrument that covers all
aspects of the instrument including the algorithm for the interleaving
of steps of a run;
. two separate U.S. patents on reagent dispenser designs;
. apparatus for automated IHC tissue staining; and
. independently heatable slide staining apparatus.
Reagent patents and applications include:
. tissue fixatives;
. hybridization methods and compositions;
. IHC staining methods and reagents;
. biotin/avidin formulations and methods; and
. compositions for manual and automated assessment of various types of
cancer including breast, leukemia and prostate.
Sales and Marketing
Our histology lab strategy involves providing customers with superior
levels of customer service. We believe this can only be achieved by selling
our products directly to customers, rather than through distributors, in our
major markets and by controlling our own telephone and field service forces.
Based on our experience in the industry, we believe we have the world's
largest direct sales force covering histology labs. We believe that the size
and quality of our direct sales coverage will permit us to maximize instrument
placements and maximize revenue stream per placement. This sales force is
organized geographically by region in North America and by country
internationally. In North America we also have a separate sales organization
focused solely on national and key accounts. In North America, Japan and in
most major European markets we sell all of our products on a direct basis. In
most other countries, we rely on distributors to sell and service our
products.
We also have a dedicated Worldwide Marketing team responsible for
identifying new product opportunity, working with R&D on product development
and driving revenues worldwide through tactical marketing support.
11
We are in the process of building separate tactical marketing and sales
organizations in North America, Western Europe and Japan to cover the drug
discovery labs of biotechnology and pharmaceutical companies and medical
research labs. These sales forces will primarily promote our Discovery
instruments and related consumables.
In addition to maintaining direct sales organizations in our major markets,
we also maintain direct customer telephone and field service operations. This
permits us to maintain a close relationship with our customers which we hope
to leverage from instrument placement, through reagent and consumable sales to
instrument replacement. This relationship will also allow us to provide high
quality and rapid service in response to customer feedback.
We also have a comprehensive customer education program, which includes on-
site technical training in instrument use, user group meetings and sponsored
national teleconferences with leading medical experts who regularly update our
customers on diagnostic and testing developments.
Competition
We face a wide array of different competitors in the histology lab and drug
discovery markets. In many product segments our competitors have substantially
greater experience than us and far greater name recognition by our customers.
In most product segments competition is intense and is based on product
performance and price, the breadth of a company's product line, and after-
sales service.
Histology
Our competitors in histology vary by product category. Our principal
competitor in tissue processing is Sakura Fine Technical Co., Ltd., a
privately held Japanese company with far greater market share, experience and
name recognition than we have. Additional competitors in tissue processing
include Leica Microsystems Group, a German based competitor, and Thermo
BioAnalysis Group, a U.S. public company that owns Shandon Lipshaw, a
formidable competitor worldwide in histology lab equipment. Despite the strong
entrenched competition in this segment we believe we are increasing our market
share through strong sales increases of our Renaissance tissue processor.
We are the market share leader in automated IHC staining. We have a
worldwide installed base of instruments that exceeds all of our competitors
combined. Historically, we have also placed more new instruments each year
than all of our competitors combined. Nevertheless, we face strong competition
on two fronts. Indirect competition comes from the manual method of performing
IHC tests. A number of histology labs in the U.S. and the majority of
histology labs outside the U.S. still perform their IHC slide staining
manually. Significant barriers to automation of this process exists in some
countries where reimbursement for IHC tests by insurance companies and
government health care plans is low. Further, significant barriers to
automation exist in a number of labs where pathologists prefer manually
stained slides which were created using their own staining protocols.
Direct competition currently comes from four competitors who market
instrument-reagent IHC staining systems. The competitors are Dako, a privately
held Danish company that dominates the market for manual IHC reagents;
BioGenex Laboratories, Inc., a privately held U.S. company that markets its
own instrument and line of reagents; LabVision Corporation, a subsidiary of
publicly traded Sybron Corporation, supplies Dako with instruments and also
markets its own instruments both on a direct basis and through distributors in
most major markets and Diagnostics Products Corp., which markets a high volume
IHC slide stainer, principally in Europe.
Two automated Special Staining systems compete with our Special Staining
module. CytoLogix Corp., a venture-backed, U.S.-based, early-stage company
markets the Artisan Staining System. The CytoLogix system has expanded its
menu of reagents to include IHC stains and potentially ISH stains. BioGenex
also markets a line of Special Stains instruments called Optimax which was
originally designed for IHC staining. We believe
12
that the initial success we have enjoyed in automating the Special Stains
market will attract additional competitors.
Drug Discovery
The two principle drug discovery applications we are focusing on are
hybridizing nucleic acid microarrays and conducting messenger RNA expression
studies in tissue. Other companies providing nucleic acid microarray
hybridizers include Genomic Solutions, Inc. and Molecular Dynamics, subsidiary
of publicly traded Amersham Pharmacia Biotech. We do not currently face any
other competitors that provide automated systems for conducting messenger RNA
studies in tissue. We also sell Discovery IHC staining capabilities to drug
discovery labs. Other competitors providing this capability include our
clinical IHC competitors Dako and BioGenex, among others.
Manufacturing
We manufacture all of our own instruments except the TechMate 500 system.
This product is produced by a third-party manufacturer and accounts for only a
small portion of our total sales. We maintain three manufacturing facilities--
an instrument manufacturing facility located in Tucson, Arizona, a separate
reagent manufacturing facility also located in Tucson, Arizona and a second
reagent manufacturing facility located in Gaithersburg, Maryland. We have
announced plans to relocate our Gaithersburg, Maryland facility and
consolidate our manufacturing operations in the third quarter of 2001 into our
new facility under construction near Tucson, Arizona.
Our manufacturing operations are required to follow the FDA Quality Systems
Regulations. These regulations require us to maintain documentation and
process control in a prescribed manner with respect to manufacturing, testing
and quality control. We are also subject to FDA inspections to verify
compliance with FDA requirements. We also intend to implement manufacturing
policies and procedures that will enable us to receive ISO 9001 certification.
ISO 9001 standards are global standards for design and manufacturing process
control and quality assurance. Finally, we are required to obtain the CE mark
for sale of our products in the countries comprising the European Union. The
CE mark is an international symbol of quality assurance and compliance with
applicable European Union medical device directives.
Contracts
We place instruments through direct sales, including nonrecourse leases,
instrument rentals and our Performance Evaluation Period program. The program
is intended to permit a customer to use an instrument, generally for a period
of up to three months, provided that the customer purchases all the
consumables needed to operate the instrument from us. At the end of the three-
month period, the customer elects to purchase, rent or return the system. For
placement of instruments under this program, we incur the cost of
manufacturing instruments and we recognize revenue only at the time the
instrument is either sold or rented rather than at the time of instrument
placement.
Employees
As of December 31, 2000 we had approximately 515 full-time employees,
including our 12 officers.
13
Cautionary Factors That May Affect Future Results
Risks Relating to Our ability to sustain revenue growth and
Availability of Third-Party profitability may depend on the ability of our
Reimbursement and Potential customers to obtain adequate levels of third-
Adverse Effects of Health party reimbursement for use of certain
Care Reform diagnostic tests in the United States, Europe
and other countries. Currently, the
availability of third-party reimbursement is
limited and uncertain for some IHC tests.
In the United States, our products are
purchased primarily by medical institutions and
laboratories which bill various third-party
payors, such as Medicare, Medicaid, other
government programs and private insurance
plans, for the health care services provided to
their patients. Third-party payors may deny
reimbursement to our customers if they
determine that a prescribed device or
diagnostic test has not received appropriate
FDA or other governmental regulatory clearances
or approvals, is not used in accordance with
cost-effective treatment methods as determined
by the payor, or is experimental, unnecessary
or inappropriate. The success of our products
may depend on the extent to which appropriate
reimbursement levels for the costs of such
products and related treatment are obtained by
our customers from government authorities,
private health insurers and other
organizations, such as health maintenance
organizations, or HMOs.
Third-party payors are increasingly challenging
the prices charged for medical products and
services. The trend towards managed health care
in the United States and the concurrent growth
of organizations such as HMOs could
significantly influence the purchase of health
care services and products.
In addition, the federal government and certain
members of Congress have proposed, and various
state governments have adopted or are
considering, programs to reform the health care
system. These proposals are focused, in large
part, on controlling the escalation of health
care expenditures. The cost containment
measures that health care payors are
instituting and the impact of any health care
reform could have a material adverse effect on
the levels of reimbursement the Company's
customers receive from third-party payors and
the Company's ability to market and sell its
products and consequently could have a material
adverse effect on the Company's business,
financial condition and results of operations.
A reduction in government A portion of our products are sold to
funding to research centers universities, research laboratories, private
will reduce their ability to foundations and other institutions where
purchase our products funding is dependent upon grants from
government agencies, such as the National
Institutes of Health. Research funding by the
government could be significantly reduced. Any
such reduction may materially affect the
ability of many of our research customers to
purchase our products.
14
Future operating results may Our operating results may fluctuate depending
fluctuate depending on: on sales of instruments and sales of reagents.
If our actual earnings in a given quarter under
perform analyst estimates, our stock price
could be adversely affected.
--how many instruments we The initial placement of an instrument is
sell and under what terms subject to a longer, less consistent sales
they are sold cycle than the sale of reagents, which begin
and are typically recurring once an instrument
is placed. Instruments are typically sold in
the latter part of a quarter and in the fourth
quarter of the year due to capital expenditure
buying patterns of our customers. The degree of
fluctuation will depend on the timing, level
and mix of instruments placed through direct
sales and instruments placed through
Performance Evaluation Period programs and
rentals. Our future operating results are
likely to fluctuate substantially from period
to period because instrument sales are likely
to remain an important part of revenues in the
near future.
--changes in our sales Historically we have experienced turnover in
force our sales force. A portion of our sales force
is new and we have recently restructured our
sales program. If we fail to replace members of
our sales force in a timely manner or if our
training programs are not successful, it may
adversely affect our ability to sell
instruments and reagents.
--how much reagent our In addition, average daily reagent use by
customers use customers may fluctuate from period to period,
which may contribute to future fluctuations in
revenues.
--our operating results may Other factors that may result in fluctuations
be effected by other in operating results include:
factors
. the timing of new product announcements and
the introduction of new products and new
technologies by us and our competitors;
. our ability to collect receivables and
maximize payables;
. market acceptance of our current or new
products;
. quarter-to-quarter buying patterns of our
customers;
. developments with respect to regulatory
matters;
. availability and cost of raw materials from
our suppliers;
. competitive pricing pressures;
. increased research and development expenses;
and
. increased marketing and sales expenses
associated with the implementation of our
market expansion strategy for our instrument
and reagent products.
15
Our inability to protect our Our inability to protect our patents and other
patents and other proprietary rights could adversely affect our
proprietary rights could business. We currently hold 32 United States
adversely affect our patents and numerous corresponding foreign
business patents and we have filed additional United
States and foreign patent applications. The
expiration dates of our issued United States
patents range from September 2005 to November
2013.
--we now own a number of We cannot assure you that our patent
U.S. patents and we have applications will result in patents being
applied for others but we issued or that any issued patents will provide
cannot assure you that we adequate protection against competitive
will be issued new technologies or will be held valid if
patents challenged. Others may independently develop
products or processes similar to ours or design
around or otherwise circumvent our patents.
--we cannot be sure that we We cannot be certain that we were the first
were the first to create creator of inventions covered by our patents or
any of our inventions pending patent applications or that we were the
because of the way the first to file patent applications for such
U.S. patent system works inventions. Patent applications in the United
States are maintained in secrecy until patents
are issued and publication of discoveries in
scientific literature tends to lag behind
actual discoveries by several months.
Therefore, we cannot be certain that we were
the first creator of inventions covered by our
patents or pending patent applications or that
we were the first to file patent applications
for such inventions.
--if we are using We may have to participate in "interference"
inventions that have been proceedings declared by the United States
patented by others we Patent and Trademark Office to determine the
would have to stop using priority of inventions. This could result in
the invention, obtain a substantial costs for us. If any of the claims
license for it or of third-party patents that purport to
redesign our product to interfere with one of our patents or patents
get around the relevant pending are upheld as valid and enforceable, we
patent could be prevented from using the subject
matter claimed in those patents. Alternatively,
we would be required to obtain licenses from
the patent owners of each of those patents or
to redesign our products or processes to avoid
infringement. We cannot assure you that we
would be able to obtain a license or, if we
could, that the terms available would be
acceptable to us or that we would be successful
in any attempt to redesign our products or
processes to avoid infringement.
--if we cannot get a If we do not obtain the necessary licenses, we
license from the owner of could be subject to litigation and we could
a patent and we cannot encounter delays in product introductions while
design around the patent we attempt to design around such patents.
we may be subject to Alternatively, the development, manufacture or
litigation sale of such products could be prevented.
Litigation would result in significant cost to
us as well as diversion of management time. We
cannot predict the outcome of this type of
litigation. If litigation is decided against
us, our results of operations would suffer.
16
--we also rely on trade We also rely upon trade secret protection for
secret protection for our our confidential and proprietary information.
confidential and We cannot assure you that others will not
proprietary information independently develop proprietary information
or techniques similar to ours, gain access to
our trade secrets or disclose our technology,
or that we can effectively protect our trade
secrets. If we are forced to litigate to
protect our trade secrets we would have to
absorb significant costs as well as diversion
of our management. If any of the litigation we
undertake is unsuccessful and results in the
disclosure of our trade secrets our results of
operations would suffer.
--we cannot assure you that Our policy is to require our employees,
confidentiality consultants and significant scientific
agreements with our collaborators to sign confidentiality
employees, consultants agreements when they begin work with us. These
and collaborators will agreements generally provide that all
serve their intended confidential information developed or made
purpose known to the individual during the course of
the individual's relationship with us is to be
kept confidential and not disclosed to third
parties except in specific circumstances.
Agreements with employees provide that all
inventions conceived by the individual while
working for us are our exclusive property.
However, we cannot assure you that these
agreements will not be broken or that they will
provide meaningful protection or adequate
remedies for unauthorized use or disclosure of
our trade secrets.
Effectively managing our We have grown and continue to grow rapidly both
growth may be difficult by adding new products and hiring new
employees. This growth is likely to place a
significant strain on our managerial,
accounting, operational and financial resources
and systems. To manage our growth, we must
implement systems and train and manage our
employees. If we are not successful in managing
our expanding operations effectively, we may
experience operating problems such as customer
service issues, reduced sales, and internal
operating issues.
Some of our senior management have only
recently joined us. Of the 12 employees listed
in the management section of this prospectus, 3
have worked for us less than one year. We
cannot assure you that our management will be
able to effectively or successfully manage our
growth.
Our ability to develop new Our future growth and profitability will be
products will be important dependent, in large part, on our ability to
to our success: develop, introduce and market new instruments
and reagents used in diagnosing and selecting
appropriate treatment for cancer and additional
disease states. Our products could also be
rendered obsolete or noncompetitive by virtue
of technological innovations in the fields of
cellular or molecular diagnostics.
--our ability to develop We depend in part on the success of medical
new products is partly research done by others in developing new
dependent on the work of antibodies, nucleic acid probes and clinical
others and our ability to diagnostic procedures that can be adapted for
license their work use in the our systems. We will then need to
license certain of these technologies. We may
not be able to get these licenses on terms that
would allow us to economically develop and
market new instruments. If this were to occur
our operating results would suffer.
17
--if any of our products We have products that are currently under
under development or development, initial testing or preclinical or
those planned for clinical evaluation and we have other products
development are not that are scheduled for future development.
successful our operating These products:
results would suffer
. may prove to be unreliable from a diagnostic
standpoint;
. may be difficult to manufacture in an
efficient manner;
. may fail to receive necessary regulatory
clearances;
. may not achieve market acceptance; or
. may encounter other unanticipated
difficulties.
If any of these things were to occur our
operating results would suffer.
A large portion of our A significant portion of our expense levels are
expenses are fixed so if our based on our expectation of a higher level of
revenues are below revenues in the future and are relatively fixed
expectations we may not in nature. Therefore, if revenue levels are
perform as expected below expectations, operating results in a
given period are likely to be adversely
affected because we will not be able to spread
these expenses over a larger revenue base.
We need to persuade the The use of automated systems to perform
medical community of the diagnostic tests is relatively new.
benefits of our products in Historically, the diagnostic tests performed by
order to be successful our systems have been performed manually by
laboratory personnel. Our ability to sell our
products will be largely dependent on our
ability to persuade the medical community of
the benefits of automated diagnostic testing
using our products. The quality and price of
our products as compared to manual testing and
as to our competitor's products will affect
acceptance and sales of our products.
Our products are subject to The manufacturing, marketing and sale of our
extensive government products are subject to extensive government
regulation in the U.S. and regulation in the U.S. and in other countries.
abroad The process of obtaining and maintaining
regulatory approval can be lengthy, expensive
and uncertain.
--in the U.S. our products In the U.S. the FDA regulates, as medical
are regulated as medical devices, instruments, diagnostic tests and
devices by the FDA reagents that are traditionally manufactured
and commercially marketed as finished test kits
or equipment. Some clinical laboratories,
however, choose to purchase individual reagents
intended for specific analyses and develop and
prepare their own finished diagnostic tests.
The FDA has recently promulgated a rule that
regulates the reagents sold to clinical
laboratories as analyte specific reagents. The
rule restricts sales of these reagents to
clinical laboratories certified under the
Clinical Laboratory Improvement Amendments of
1988, or CLIA, as high complexity testing
laboratories. We intend to market some
diagnostic products as finished test kits or
equipment and others as individual reagents;
consequently, some of these products are
regulated as analyte specific reagents.
18
--the specific requirements The Federal Food, Drug, and Cosmetic Act
that we must follow are governs the design, testing, manufacture,
contained in the Federal safety, efficacy, labeling, storage, record
Food, Drug, and keeping, approval, advertising and promotion of
Cosmetic Act our products. There are two principal FDA
regulatory review paths for medical devices:
the 510(k) pre-market notification process and
the pre-market approval, or PMA, process. The
PMA process typically requires the submission
of more extensive clinical data and is costlier
and more time-consuming to complete than the
510(k) process.
--Medical devices require Medical devices generally require FDA approval
FDA approval prior to or clearance prior to being marketed in the
being marketed in the United States. The process of obtaining FDA
U.S. clearances or approvals necessary to market
medical devices can be time-consuming,
expensive and uncertain, and we cannot assure
you that any clearance or approval we seek will
be granted or that FDA review will not involve
delays which would harm our ability to market
and sell our products.
Further, clearances or approvals may be
conditional in that they place substantial
restrictions on the indications for which the
product may be marketed or to whom it may be
marketed. We can also not assure you that the
FDA will not require additional data, require
us to conduct further clinical studies or
obtain a PMA causing us to incur further cost
and delay.
--although our IHC and ISH With respect to automated IHC testing
products have not needed functions, our instruments have been
510(k) approval to date categorized by the FDA as automated cell
some of our future staining devices and have been exempted from
products may the 510(k) notification process. To date, ISH
tests have not received FDA approval or
clearance and, therefore, use of the Discovery
for ISH tests will be restricted to research
applications. New instrument products that we
may introduce could require future 510(k)
clearances.
--some of our antibody Certain antibodies that we may wish to market
products may require PMA with labeling indicating that they can be used
approval if we market in the diagnosis of particular diseases may
them in a certain way require PMA approval. In addition, the FDA has
proposed that some of the antibody products
that we may wish to market be subjected to a
pre-filing certification process. Certain of
our products are currently sold for research
use and are labeled accordingly.
--if we do not comply with If we do not comply with applicable regulatory
regulatory requirements, requirements we could be subject to, among
or we fail to get other consequences, fines, injunctions, civil
approval for our penalties, suspensions or loss of regulatory
products, our results of approvals, recalls or seizures of products,
operations would suffer operating restrictions and criminal
prosecutions. In particular, the FDA enforces
regulations prohibiting the marketing of
products for non-indicated uses. In addition,
governmental regulations may be established
that could prevent or delay regulatory approval
of our products. Delays in or failure to
receive approval of products we plan to
introduce, loss of or additional restrictions
or limitations relating to previously received
approvals, other regulatory action against us
or changes in the applicable regulatory climate
could individually or in the aggregate cause
our results of operations to suffer.
19
--we and our customers are We are also required to register as a medical
inspected for compliance device manufacturer with the FDA and are
with FDA regulations inspected on a routine basis by the FDA for
compliance with their regulations. Our clinical
laboratory customers are subject to CLIA, which
is intended to ensure the quality and
reliability of medical testing.
--other laws and In addition to these regulations, we are
regulations may adversely subject to numerous federal, state and local
affect our operations laws and regulations relating to such matters
as safe working conditions and environmental
matters. We cannot assure you that these laws
will not adversely affect our results of
operations in the future.
There are risks associated We may make additional acquisitions of
with the acquisition of complementary businesses, products or
businesses, products or technologies in the future. Acquisitions of
technologies companies, divisions of companies, or products
entail numerous risks, including:
. the potential inability to successfully
integrate acquired operations and products
or to realize anticipated synergies,
economies of scale or other value;
. diversion of management's attention; and
. loss of key employees of acquired
operations.
--acquisitions may not be We cannot assure you that we will not incur
profitable and returns problems with respect to any future
may not justify the price acquisitions, or that any future acquisitions
we paid will increase our profitability. We can also
not assure you that we will realize value from
any acquisitions which would justify the
consideration paid. Any problems like these
could cause our results of operations to
suffer.
--we may issue more stock, Any future acquisitions may also result in the
borrow more money, incur issuance of shares of our equity securities,
one-time expenses or including our common stock. The issuance of
create goodwill additional shares of our common stock could
affect the market price. We might also borrow
more money, have large one-time write-offs and
create goodwill or other intangible assets that
could result in amortization expense. These
factors may cause our results of operations to
suffer.
We might be affected if a In the future, our ability to sell instruments
competitor develops and and reagents might be affected by the design of
markets a new instrument our systems, which require that customers buy
that uses cheaper reagents their reagents from us. This would be
especially true if and to the extent that
competitors are successful in developing and
introducing new IHC instruments or if they
offer reagent supply arrangements having
pricing or other terms more favorable than
those offered by us. Increased competition in
reagent supply could also affect sales of
reagents to batch processing instrument
customers since those instruments do not
require the use of our reagents.
20
We depend on key personnel We are dependent upon the retention of
with whom we have no principal members of our management, Board of
employment contracts Directors, scientific, technical, marketing and
sales staff and the recruitment of additional
personnel. We do not have employment agreements
with any of our executive officers and we do
not maintain "key person" life insurance on any
of our personnel. We compete with other
companies, academic institutions, government
entities and other organizations for qualified
personnel. If we could not hire or retain
qualified personnel it would cause our results
of operations to suffer.
Manufacturing Risks
--as we increase production We have only manufactured patient priority
of our products we may instruments and reagents for commercial sale
experience problems in since late 1991, and manufacturing of our
production Techmate 500 instrument is performed by third
parties. As we continue to increase production
of such instruments and reagents and develop
and introduce new products, we may from time to
time experience difficulties in manufacturing.
We must continue to increase production volumes
of instruments and reagents in a cost-effective
manner in order to be profitable.
--we must stay in To increase production levels, we will need to
compliance with the rules scale-up our manufacturing facilities, increase
and regulations of our automated manufacturing capabilities and
various agencies as we continue to comply with FDA Quality Systems
increase production Regulations and other standards prescribed by
various federal, state and local regulatory
agencies in the United States and other
countries, including the ISO 9000 Series
certifications.
--our operating results We cannot assure you that manufacturing and
would suffer if we quality problems will not arise as we increase
experienced either our manufacturing operations or that such
production or quality scale-up can be achieved in a timely manner or
problems at a commercially reasonable cost.
Manufacturing or quality problems or
difficulties or delays in manufacturing scale-
up would affect our operating results.
We depend on key suppliers Our reagent products are formulated from both
to provide some of the chemical and biological materials using
components and raw materials proprietary technology as well as standard
for our reagents; if that processing techniques. We currently purchase
supply is interrupted our some components and raw materials, primarily
results of operations could antibodies, that we use to make our reagent
suffer products from single-source vendors. We cannot
assure you that the materials or reagents we
need will be available in commercial quantities
or at acceptable prices. Any supply
interruption or yield problems encountered in
the use of materials from these vendors could
have a material adverse effect on our ability
to manufacture our products until a new source
of supply is obtained. Finding and using
alternative or additional suppliers could be
time consuming and expensive.
21
We rely on others to make A number of the components used to make our
certain custom parts for our instruments are made on a custom basis to our
instruments, if these parts specifications and are currently available from
were not delivered on time a limited number of sources. If the supply of
or not at all our results of materials or components from any of these
operations would suffer vendors were delayed or interrupted for any
reason or if the quality or reliability of the
materials or components is not adequate for use
in our instruments, our ability to make
instruments in a timely fashion could be
impaired and our results of operations would
suffer.
Some of our manufacturing Certain of our manufacturing processes,
processes involve the use of primarily those involved in manufacturing
environmentally hazardous certain of our reagent products, require the
materials use of potentially hazardous and carcinogenic
chemicals. We are required to comply with
applicable federal, state and local laws
regarding the use, storage and disposal of
these materials.
--we could incur We currently use third-party disposal services
substantial liability if to remove and dispose of the hazardous
it is found that either materials we use. We could in the future
we or the third party encounter claims from individuals, governmental
disposal service we use authorities or other persons or entities in
has violated any connection with exposure to or disposal or
environmental laws handling of these hazardous materials or
violations of environmental laws by our
contractors or us. We could also be required to
incur additional expenditures for hazardous
materials management or environmental
compliance. The costs associated with
environmental claims, violations of
environmental laws or regulations, hazardous
materials management and compliance with
environmental laws could cause our results of
operations to suffer.
We cannot assure you that we We anticipate that our existing capital
will be able to fund our resources and available borrowing capacity
future capital requirements under our revolving credit line will be
through internal sources, adequate to satisfy our capital requirements
our existing line of credit for the next 12 months. Our future capital
or from other sources requirements will depend on many factors
including:
. the extent to which our products gain market
acceptance;
. the mix of instruments placed through direct
sales or through our performance evaluation
period;
. progress of our product development
programs;
. competing technological and market
developments;
. expansion of our sales and marketing
activities;
. the cost of manufacturing scale-up
activities;
. possible acquisitions of complementary
businesses, products or technologies; and
. our ability to sustain profitability and
timing of regulatory approvals.
We may require additional capital resources and
we cannot assure you that capital will be
available to the extent required, on terms
acceptable to us or at all. Any such future
capital requirements could result in the
issuance of our equity securities, which may
affect the market price of our common stock and
would dilute our existing stockholders.
22
Item 2. Properties
Currently, our U.S. research laboratories, instrument and reagent
manufacturing facilities and administrative offices are located in
approximately 90,000 square feet of leased space in Tucson, Arizona and
Gaithersburg, Maryland. The leases for these facilities expire at various
times between January 2002 and November 2004, subject to renewal terms. In May
2000, we purchased vacant land in Tucson and initiated construction of a
182,400 square foot mixed-use facility to house all of our operations that are
now resident in various locations around Tucson. Our expected completion date
is the third and fourth quarters of 2001. Manufacturing will move into the new
facility in the third quarter of 2001. R&D and administration will move in the
fourth quarter of 2001. In cases where leases on current facilities expire
prior to the completion of this facility, we plan to negotiate month-to-month
lease arrangements.
Currently, our European headquarters operations are located in an office
building we own that consists of 39,000 square feet in Strasbourg, France.
This building was acquired in June 2000 and financed through a sale/leaseback.
We have leased approximately half of the building square footage to a third
party.
Our Japanese operations are located in 3,000 square feet of leased office
space in Tokyo. We moved into this space in July 2000 and signed a 2 year
lease that expires in July, 2002.
Once we complete the construction of the new Tucson facility we believe
that we will have sufficient space for the foreseeable future.
Item 3. Legal Proceedings
In January 1997, four individuals who are former BioTek noteholders who
held in the aggregate approximately $1.1 million in principal amount of BioTek
notes filed an action, Tse, et al. v. Ventana Medical Systems, Inc., et al.
No. 97-37, against the Company and certain of its directors and stockholders
in the United States District Court for the District of Delaware. The
complaint alleged, among other things, that the company violated federal and
California securities laws and engaged in common law fraud in connection with
the BioTek shareholders' consent to the February 1996 merger of BioTek into
Ventana and the related conversion of BioTek notes into Ventana notes.
Plaintiffs seek compensatory damages in excess of the principal amount of
their BioTek notes, as well as punitive damages, and fees and costs.
On April 25, 1997, plaintiffs filed an Amended Complaint. The Amended
Complaint made the same allegations as the original Complaint and added a
claim under North Carolina securities laws. On December 16, 1997, we filed a
motion to dismiss plaintiffs' Amended Complaint. On September 23, 1998, the
Court issued its Order granting in part and denying in part our motion to
dismiss. The Court dismissed plaintiffs' claims based upon the North Carolina
securities laws and California's insider-trading statute. Plaintiffs'
surviving claims included violations of federal and California securities
laws, common law fraud and breach of fiduciary duty. On June 5, 2000, we filed
a motion for summary judgment on all of plaintiffs' remaining claims. On
November 22, 2000, the Court issued an Order granting our motion for summary
judgment in its entirety. Plaintiffs filed a notice of appeal on December 8,
2000 and will file their appellate brief in May 2001. Based on the facts known
to date, we believe that the claims are without merit and we will vigorously
defend this suit.
On April 1, 1999, a shareholder derivative and class action suit was filed
in the Court of Chancery for the State of Delaware entitled Leung v. Ventana
Medical Systems, Inc., et al., C.A. No. 17089. Plaintiff, who is related to
the plaintiffs in the above federal securities action, alleges breach of
fiduciary duty and breach of contract relating to our merger with BioTek and
the related conversion of BioTek notes into Ventana notes, as well as our
decision to compensate two of our directors by selling Ventana stock to them
at a fixed price. On May 6, 1999, we filed a motion to dismiss, or in the
alternative, to stay this action in favor of the federal securities action.
These motions were heard on October 18, 1999, and on February 29, 2000, the
Court granted our motion, dismissing the action in its entirety. Plaintiff
filed his notice of appeal on October 24, 2000, and all appellate briefing was
completed in March 2001. The hearing of this appeal is not specifically
scheduled but the
23
Delaware Supreme Court has indicated that the hearing will take place in May
2001. Based on the facts known to date, we believe that the claims are without
merit and we intend to vigorously defend this suit.
On June 15, 1999 we filed a proof of claim against Oncor, Inc. in an action
pending in the United States Bankruptcy Court for the District of Delaware
titled In re Oncor, Inc., No. 9-437 (JJF). Our claims arise out of an Asset
Purchase Agreement dated November 23, 1998 and related documents wherein we
acquired Oncor's unincorporated In Situ Hybridization Technology Division and
rights related thereto. In February 2000, we filed an amended proof of claim
alleging, inter alia, that Oncor breached the terms of the Asset Purchase
Agreement by purporting to transfer or assign to us Oncor's rights under a
license agreement, which were not transferable or assignable under the
circumstances then existing. The amended proof of claim seeks damages of no
less than approximately $7.3 million. On August 17, 2000, Oncor filed an
Omnibus Objection to Claims which included our claims. However, the Omnibus
Objection did not set forth any specific allegations with respect to our
claims. We continue to believe our claims are meritorious and that we will
prevail, however, the results of the proceedings are uncertain and there can
be no assurance to that effect.
On December 9, 1999 we filed an action, Ventana Medical Systems, Inc. v.
CytoLogix Corp., No. CIV99-606 TUC FRZ, alleging patent infringement seeking
monetary damages and injunctive relief in the United States District Court in
Tucson. The original complaint was amended March 21, 2000 by the addition of
another patent to the litigation. We believe our claims are meritorious and
that we will prevail, however, because little discovery has been completed,
results of the proceedings are uncertain and there can be no assurance to that
effect.
CytoLogix Corp. has filed three separate actions against us in various
courts. The first action is CytoLogix v. Ventana, Case No. CV 12231 REK, filed
Oct. 27, 2000 in federal district court in Boston. The complaint claims, under
state-law based unfair competition law, that Ventana misappropriated
CytoLogix's trade secrets related to individual slide heating and incorporated
such secrets into our Discovery and BenchMark instruments. CytoLogix seeks
assignment of our patent applications relating to individual slide heating
claiming the idea, treble damages (unspecified amount) and an injunction
against our further sales of Discovery and BenchMark instruments. We believe
that we have meritorious defenses to the claims in this action and that
resolution of this matter will not have a material adverse effect on our
business, financial condition or results of operation; however, this
litigation is in an early stage and the results of the proceeding are
uncertain and there can be no assurance to that effect.
The second is CytoLogix v. Ventana, Case No. 4 Ni 54/00 (EU) (Nullity
suit), filed November 9, 2000 in the German Federal Patent Court, Munich,
Germany. CytoLogix seeks to invalidate our German patent (no. DE 69117052.5)
which covers various aspects of our automated slide staining system. We
believe we can defend this patent through the Nullity proceeding, however
because this action is relatively new, results of the proceeding are uncertain
and there can be no assurance to that effect. We have responded to this action
and now await further orders from the German Federal Patent Court.
The third action is CytoLogix v. Ventana, Case No. 01-10178 REK, filed
January 30, 2001 in the U.S. District Court, Eastern District of
Massachusetts. This complaint claims that we infringed on CytoLogix's patent
No. 6,180,061, entitled "Moving Platform Slide Stainer with Heating Elements,"
and was later amended to add U.S. Patent No. 6,183,693, issued Feb. 7, 2001,
entitled "Random Access Slide Stainer with Independent Slide Heating
Regulation," both assigned to CytoLogix Corporation. CytoLogix seeks
assignment of our patent applications claiming the independent slide heater
idea, treble damages (unspecified amount) and an injunction against our
further sales of Discovery and BenchMark instruments. We believe that we have
meritorious defenses to the claims in this action and that resolution of this
matter will not have a material adverse effect on our business, financial
condition or results of operation; however, this litigation is in an early
stage and the results of the proceeding are uncertain and there can be no
assurance to that effect.
Item 4. Submission of Matters to a Vote of Security Holders
We did not submit any matter for a vote by our shareholders, through the
solicitation of proxies or otherwise, during the fourth quarter of the fiscal
year covered by this report.
24
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters.
Our common stock is listed on the NASDAQ National Market. The closing price
of our common stock on December 29, 2000 was $18.50. The following table shows
the high and low bid prices in dollars per share for the last two years as
reported by NASDAQ. These prices may not be the prices that you would pay to
purchase a share of our common stock during the periods shown.
Low High
------ ------
Year Ended December 31, 1999
First Quarter............................................... $16.75 $23.88
Second Quarter.............................................. $17.13 $28.63
Third Quarter............................................... $13.75 $22.25
Fourth Quarter.............................................. $15.69 $34.75
Year Ended December 31, 2000
First Quarter............................................... $21.63 $69.50
Second Quarter.............................................. $23.00 $49.25
Third Quarter............................................... $20.00 $28.63
Fourth Quarter.............................................. $17.06 $33.00
As of December 31, 2000, there were approximately 3,600 beneficial holders
of our common stock.
Dividend Policy
Holders of our common stock are entitled to receive dividends only when
declared by our Board of Directors. Our line of credit with Bank of America
forbids us from declaring dividends on any of our equity securities. To date
dividends have never been declared or paid and we do not plan to make any
dividend payments in the future. Instead we will reinvest in the expansion and
development of our business. If the Board of Directors decides to declare a
dividend in the future, the decision will be based on our earnings, financial
condition, cash requirements, and any other factors they deem relevant.
25
Item 6. Selected Financial Data
Selected Consolidated Financial Data
Year Ended December 31,
------------------------------------------------
1996 1997 1998 1999 2000
-------- -------- -------- -------- --------
(in thousands, except per share data)
Statement of Operations
Data:
Sales:
Reagents and other........ $ 15,538 $ 22,905 $ 31,967 $ 45,340 $ 49,682
Instruments............... 8,591 9,248 15,737 24,069 21,467
-------- -------- -------- -------- --------
Total net sales......... 24,129 32,153 47,704 69,409 71,149
Cost of goods sold.......... 10,632 11,138 14,542 21,218 36,377
-------- -------- -------- -------- --------
Gross Profit................ 13,497 21,015 33,162 48,191 34,772
Operating expenses:
Selling, general and
administrative........... 11,206 16,953 23,805 32,381 43,800
Research and development.. 2,749 3,050 5,057 7,078 11,116
Nonrecurring expenses..... 10,262 1,656 3,160 -- 4,519
Amortization of
acquisition costs........ 424 509 599 1,051 1,474
-------- -------- -------- -------- --------
(Loss) income from
operations................. (11,144) (1,153) 541 7,681 (26,137)
Other (expense) income...... (137) 781 1,089 (370) 1,346
-------- -------- -------- -------- --------
(Loss) income before taxes
and cumulative effect of
accounting change.......... (11,281) (372) 1,630 7,311 (24,791)
Benefit from (provision for)
income taxes............... -- -- -- 5,500 (350)
-------- -------- -------- -------- --------
(Loss) income before
cumulative effect of
accounting change.......... (11,281) (372) 1,630 12,811 (25,141)
Cumulative effect of
accounting change, net of
tax(1)..................... -- -- -- -- (2,154)
-------- -------- -------- -------- --------
Net (loss) income....... $(11,281) $ (372) $ 1,630 $ 12,811 $(27,295)
======== ======== ======== ======== ========
Amounts per common share,
diluted:
(Loss) income before
cumulative effect of
accounting change........ $ (1.22) $ (.03) $ .11 $ .88 $ (1.70)
Cumulative effect of
accounting change........ -- -- -- -- (0.15)
-------- -------- -------- -------- --------
Net (loss) income per
share, diluted......... $ (1.22) $ (.03) $ .11 $ .88 $ (1.85)
======== ======== ======== ======== ========
Pro forma (loss) income
assuming the accounting
change is applied
retroactively:
Net (loss) income......... $(11,793) $ (523) $ 1,282 $ 11,668 $(25,141)
Net (loss) income per
common share, diluted.... $ (1.28) $ (0.04) $ 0.09 $ 0.80 $ (1.70)
Balance Sheet Data:
Cash, cash equivalents and
short-term investments..... $ 11,067 $ 18,902 $ 2,424 $ 1,787 $ 38,512
Long-term debt and
redeemable preferred
stock...................... 12,500 471 1,907 2,044 3,408
Working capital............. 15,888 28,524 22,277 28,408 49,977
Total assets................ 32,410 48,352 56,280 73,161 109,582
Accumulated deficit......... (33,410) (33,782) (32,152) (19,341) (46,636)
Total stockholders' equity.. 15,270 42,403 45,784 60,500 87,088
- --------
(1) During the fourth quarter of 2000, the Company changed its method of
accounting for revenue recognition in accordance with Staff Accounting
Bulletin No. 101, Revenue Recognition in Financial Statements, effective
January 1, 2000. The cumulative effect of adopting this new accounting
principle amounted to a charge of $2,154, net of tax.
26
The following table contains summary unaudited quarterly consolidated
statements of operations for the four quarters ended December 31, 2000 and the
four quarters ended December 31, 1999. We have prepared the quarterly
consolidated statements of operations data on the same basis as the
Consolidated Statements of Operations beginning on page F-3. Our results of
operations have varied and may continue to fluctuate significantly from
quarter to quarter. Results of operations in any period should not be
considered indicative of the results to be expected for any future period.
Summary Quarterly
Condensed Consolidated Financial Data
Year Ended December 31, 2000
-----------------------------------------------------------------
Restated Restated Restated
First First Second Second Third Third Fourth
Quarter Quarter Quarter Quarter Quarter Quarter Quarter
------- -------- -------- -------- ------- -------- -------
(in thousands, except per share data)
Statement of Operations
Data:
Sales:
Reagents and other.... $12,001 $12,001 $ 12,304 $ 12,304 $12,703 $12,703 $12,674
Instruments........... 5,828 5,125 5,436 6,419 4,899 5,196 4,727
------- ------- -------- -------- ------- ------- -------
Total net sales...... 17,829 17,126 17,740 18,723 17,602 17,899 17,401
Cost of goods sold...... 6,134 5,970 18,464 18,782 5,733 5,786 5,839
------- ------- -------- -------- ------- ------- -------
Gross profit (loss)..... 11,695 11,156 (724) (59) 11,869 12,113 11,562
Operating expenses:
Selling, general and
administrative....... 1,984 1,984 3,461 3,461 2,665 2,665 3,006
Research and
development.......... 7,960 7,960 14,930 14,930 9,816 9,816 11,094
Nonrecurring
expenses............. -- -- 4,519 4,519 -- -- --
Amortization of
acquisition costs.... 278 278 391 391 381 381 424
------- ------- -------- -------- ------- ------- -------
Income (loss) from
operations............. 1,473 934 (24,025) (23,360) (993) (749) (2,962)
Other (expense) income.. (48) (48) 452 452 508 508 434
------- ------- -------- -------- ------- ------- -------
Income (loss) before
taxes and cumulative
effect of accounting
change................. 1,425 886 (23,573) (22,908) (485) (241) (2,528)
(Provision for) benefit
from income taxes...... (456) (350) 106 -- -- -- --
------- ------- -------- -------- ------- ------- -------
Income (loss) before
cumulative effect of
accounting change...... 969 536 (23,467) (22,908) (485) (241) (2,528)
------- ------- -------- -------- ------- ------- -------
Cumulative effect of
accounting change, net
of tax(1).............. -- (2,154) -- -- -- -- --
------- ------- -------- -------- ------- ------- -------
Net income (loss).. $ 969 $(1,618) $(23,467) $(22,908) $ (485) $ (241) $(2,528)
======= ======= ======== ======== ======= ======= =======
Per Share Data:
Income (loss) before
cumulative effect of
accounting change:
--Basic.............. $ .07 $ .04 $ (1.55) $ (1.52) $ (.03) $ (.02) $ (.17)
--Diluted............ $ .06 $ .03 $ (1.55) $ (1.52) $ (.03) $ (.02) $ (.17)
Net Income:
--Basic.............. $ .07 $ (.11) $ (1.55) $ (1.52) $ (.03) $ (.02) $ (.17)
--Diluted............ $ .06 $ (.11) $ (1.55) $ (1.52) $ (.03) $ (.02) $ (.17)
Shares used in computing
net income (loss) per
share, basic........... 14,305 14,305 15,097 15,097 15,186 15,186 15,307
======= ======= ======== ======== ======= ======= =======
Shares used in computing
net income (loss) per
share, diluted......... 16,467 16,467 15,097 15,097 15,186 15,186 15,307
======= ======= ======== ======== ======= ======= =======
- --------
(1) During the fourth quarter of 2000, the Company changed its method of
accounting for revenue recognition in accordance with Staff Accounting
Bulletin No. 101, Revenue Recognition in Financial Statements. Pursuant to
Financial Accounting Statement No. 3, Reporting Financial Changes in
Interim Financial Statements, effective January 1, 2000, the Company
recorded the cumulative effect of the accounting change and accordingly,
the quarterly information for the first three quarters of 2000 which had
been previously reported have been restated. No restatement of 1999 is
required under the implementation guidance of Staff Accounting Bulletin
No. 101.
27
Summary Quarterly
Condensed Consolidated Financial Data
(Continued)
Year Ended December 31, 1999
---------------------------------
First Second Third Fourth
Quarter Quarter Quarter Quarter
------- ------- ------- -------
(in thousands, except per share
data)
Statement of Operations Data:
Sales:
Reagents and other....................... $10,512 $11,589 $11,679 $11,560
Instruments.............................. 5,120 4,726 4,733 9,490
------- ------- ------- -------
Total net sales........................ 15,632 16,315 16,412 21,050
Cost of goods sold......................... 4,988 4,765 5,148 6,317
------- ------- ------- -------
Gross profit............................... 10,644 11,550 11,264 14,733
Operating expenses:
Selling, general and administrative...... 7,399 7,875 7,829 9,278
Research and development................. 1,629 1,908 1,696 1,845
Nonrecurring expenses.................... 253 258 256 284
------- ------- ------- -------
Amortization of acquisition costs........ 1,363 1,509 1,483 3,326
Other (expense) income................... 24 (22) 44 (416)
------- ------- ------- -------
Income before income taxes............... 1,387 1,487 1,527 2,910
(Provision for) benefit from income
taxes................................... (138) 138 -- 5,500
------- ------- ------- -------
Net income........................... $ 1,249 $ 1,625 $ 1,527 $ 8,410
======= ======= ======= =======
Net income per common share:
--Basic.................................. $ .09 $ .12 $ .11 $ .62
======= ======= ======= =======
--Diluted................................ $ .09 $ .11 $ .11 $ .56
======= ======= ======= =======
Pro forma amounts assuming the accounting
changes are applied retroactively:
Net income............................... $ 925 $ 1,844 $ 1,724 $ 7,175
======= ======= ======= =======
Net Income per common share:
--Basic.................................. $ .07 $ .14 $ .13 $ .53
======= ======= ======= =======
--Diluted................................ $ .06 $ .12 $ .12 $ .48
======= ======= ======= =======
Shares used in computing net income per
share, basic.............................. 13,404 13,462 13,520 13,551
======= ======= ======= =======
Shares used in computing net income per
share, diluted............................ 14,578 14,766 14,465 14,908
======= ======= ======= =======
28
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Introduction
In Management's Discussion and Analysis we explain our general financial
condition and the results of operations including:
. what factors affect our business;
. what our earnings and costs were in 2000 and 1999;
. why those earnings and costs were different from the year before;
. where our earnings came from;
. how all of this affects our overall financial condition; and
. what our research and development expenditures were in 2000 and 1999 and
what we expect to spend in the near future.
Forward-Looking Statements
Some statements contained in this Annual Report, including, without
limitation, statements containing the words "believes," "anticipates,"
"estimates," "expects," and words of similar import, constitute "forward-
looking statements." You should not place undue reliance on these forward-
looking statements. Our actual results could differ materially from those
anticipated in these forward-looking statements for many reasons, including
the risks faced by us described in the Cautionary Factors section beginning on
page 14, among others, and those included in other documents we file with the
SEC.
Results of Operations
Comparison of 2000 and 1999
Net sales increased to $71.1 million in 2000 from $69.4 million in 1999. Our
revenue growth of 2% was impacted by reagent dispenser quality issues
experienced in the second and third quarters of 2000. We also changed our
method of revenue recognition for products which require installation at the
customer's site in accordance with Staff Accounting Bulletin (SAB) No. 101
Revenue Recognition in Financial Statements. The change in revenue recognition
method had a favorable effect of $0.6 million on net sales for 2000. The
cumulative effect of the accounting change resulted in a charge to operations
of $2.2 million (net of an income tax benefit of $1.4 million), which is
included in operations for the year ended December 31, 2000.
Gross margin of 49% in 2000 was impacted by second quarter 2000 charges
totaling $11.8 million associated with reagent dispenser quality issues,
planned relocation of our Gaithersburg, Maryland production facility, exiting
the electron microscopy product line and write-down of older generation
staining instruments in anticipation of the launch of the BenchMark advanced
staining system in the fourth quarter of 2000. The charges, in conjunction
with the additional investment in manufacturing management and quality systems
infrastructure, accounted for the decrease from the 69% gross margin achieved
in 1999.
Fiscal 2000 results were negatively impacted by $22.5 million in write-offs
and accruals relating to several different issues. The following table
summarizes details of the charges and non-recurring expenses:
Costs
incurred Reserve
through Revision Balances as of
Initial December 31, to December 31,
Charges 2000 Estimates 2000
------- ------------ --------- --------------
(In thousands)
Reagent dispenser quality
issue.......................... $ 5,355 $ 3,117 $ 272 $2,510
Exit of electron microscopy
product line................... 4,581 4,060 (521) --
Impairment of inventory,
diagnostic instruments and
intangibles.................... 8,615 7,798 493 1,310
Cost to close Gaithersburg,
Maryland facility.............. 2,611 1,200 (294) 1,117
Other charges including
contracted R&D................. 1,362 1,362 -- --
------- ------- ----- ------
Total charges and non-
recurring expenses........... $22,524 $17,537 $ (50) $4,937
======= ======= ===== ======
Charges of $5.4 million were related to quality problems with the Company's
dispensers and reagents used with the majority of its staining instruments. As
a result, charges were taken to write-off inventory and set up reserves to
cover product replacements, returns, and warranty matters.
29
A charge of $4.6 million was recorded to account for the Company's decision
to exit its electron microscopy (EM) product line. Charges were taken to
write-down all EM inventory and field instruments to their net realizable
value. In addition, goodwill recognized in the BTTI acquisition was written
down $1.4 million to reflect the impact of product discontinuance.
Charges of $8.6 million were recorded in recognition of the decreased value
of certain instrument inventory, fixed assets and intangible assets given the
launch of the Company's new BenchMark advanced staining system in 2000. In
addition, intangible assets associated with the Company's 1996 acquisition of
BioTek Solutions, Inc. were written down $3.1 million to reflect the impact of
product discontinuation. The Techmate IHC staining system product line
acquired in the BioTek transaction was among those whose value was impacted by
the launch of BenchMark.
The Company also recognized charges of $2.6 million relating to closure of
its production facility in Gaithersburg, Maryland. The Gaithersburg facility
was acquired in late 1998 with the acquisition of all the oncology assets of
Oncor, Inc.
Other charges recognized in 2000 totaled $1.4 million which included
expenses related to contracted research and development being handled by an
outside company.
Research and development expenses increased by $4 million in 2000 versus
1999, to 15.6% of net sales from 10.2% in 1999. The spending increase reflects
our ongoing research and development efforts in a variety of areas such as the
launch of the BenchMark advanced IHC and ISH Staining System, the US launch of
our Discovery system, the December 2000 launch of our Pathway test for breast
cancer patients and further expansion of our Special Stains reagent menu. For
the near future, research and development costs are anticipated to increase at
a rate similar to or slightly greater than the sales growth rate, as we
continue to invest in technology to address potential market opportunities.
Selling, general and administrative expenses increased by $11.4 million in
fiscal 2000 over fiscal 1999 and increased as a percent of net sales to 62% in
2000 from 47% in 1999. The spending increase is attributed primarily to the
charges recorded in the second quarter of 2000 associated with various product
discontinuations and revaluations of field instruments given the launch of
BenchMark. We anticipate selling, general and administrative expenses to
return to a similar cost as a percent of net sales rate as experienced in 1999
in the near future.
Non-recurring expenses of $4.5 million were recognized in 2000 in
conjunction with the write down of intangibles associated with the
BioTechnology Tools and BioTek acquisitions. The charges reflect the impact of
various product discontinuations on expected future cash flows.
Amortization expense increased to $1.5 million in 2000 from $1.1 million in
1999. Intangible assets increased in 2000 through the acquisition of QDL
Laboratories and a payment made to Vysis on a license to market certain
consumables.
Interest and other income, net, was income of $1.3 million in 2000 versus
an expenditure of $0.4 million in 1999. The interest income was attributed to
the investment of proceeds from the private placement of 1,250,000 shares of
Common Stock in 2000.
Although the Company experienced a significant loss during the year as
discussed above, management believes that the Company will return to
profitability in 2001 as the events that gave rise to the loss were considered
discreet and isolated and unlikely to recur. No additional income tax benefit
was recognized in 2000 related to the deferred tax asset that arose relative
to the increase in the net operating loss carry forward and other future tax
deductible items as it cannot be readily determined whether such assets will
be recoverable in the near term. Management will continue to closely monitor
operating results and analyze its ability to recover these deferred tax assets
in the very near term. As a result, the Company's valuation allowance
increased by $8.3 million in 2000 to $10.7 million at December 31, 2000. In
the meantime, the Company does not anticipate recording any income tax benefit
or expense of any material amount in 2001, unless a change, positively or
negatively, in the valuation allowance for deferred tax assets is warranted
based upon the outlook of future earnings.
30
The majority of the Company's deferred tax assets relate to net operating
loss carryforwards. At December 31, 2000, the Company had $21 million and $18
million in federal and state net operating loss carryforwards for income tax
purposes, respectively. The federal and state net operating loss carryforwards
will begin to expire in 2007 and 2005, respectively, if not previously
utilized. In addition, the Company has certain foreign net operating loss
carryforwards of $6.9 million and research and development credits of $1
million.
As a result of the above, our net loss for the year was $27.3 million,
which included $22.5 million in charges and non-recurring expenses recognized
in the second quarter of 2000 and included the adverse impact of $2.2 million
related to the change in accounting principle for the adoption of SAB No. 101.
Comparison of 1999 and 1998
Net sales increased to $69.4 million in 1999 from $47.7 million in 1998.
This 45% increase was primarily a result of a full year's product availability
of our Special Stains instrument system and tissue processor line (both
introduced commercially in late 1998), successful entrance into the genomics
market with the launch of the Discovery ISH system in late 1999 and strong
performance from our core IHC business. Sales in 1999 grew 29% in North
America and 152% internationally from 1998. The strong growth in North America
is primarily being driven by market demand as well as the overall economic
health within this region. The growth in international sales is attributed to
strong commercial operations driving a clear leadership position.
Gross margin in 1999 of 69% was consistent with 1998 performance.
Improvement in the overall margin structure of our instruments and reagents
was offset by a slight mix shift towards instrument sales in 1999 as a percent
of total revenue (35%) versus 1998 (33%).
Research and development expenses increased by $2 million in 1999 compared
with 1998 expenditures, to 10.2% of net sales from 10.6% in 1998. The spending
increase reflects our ongoing research and development efforts in a variety of
areas such as the introduction of our Discovery ISH instrument, expansion of
our Special Stains reagent menu and in situ hybridization prognostic markers.
For the near future, research and development expenses are expected to
increase at a rate similar to or slightly greater than the sales growth rate,
as we continue to invest in technology to address potential market
opportunities.
Selling, general and administrative expenses increased by $8.6 million in
fiscal 1999 over fiscal 1998, but decreased as a percent of net sales to 47%
in 1999 from 50% in fiscal 1998. The spending increase is due principally to
the growth in the size of our direct sales force and its commissions, and the
expansion of our geographic distribution channels. The increase also reflects
our efforts to invest in key areas such as product strategy and customer
support coverage in order to be positioned to take advantage of future market
opportunities. We anticipate selling, general and administrative costs
increasing at a rate similar to or slightly less than our sales growth rate in
the near future.
Amortization expense increased to $1.1 million in 1999 from $0.6 million in
1998, reflecting a full years' amortization of intangibles acquired in the
fourth quarter of 1998.
Interest and other income, net, was an expenditure of $0.4 million in 1999
versus income of $1.1 million in 1998. Interest income in 1999 was reduced as
a result of decreased investment balances attributed to the acquisitions of
the assets of Oncor, Inc. and the stock of Biotechnology Tools, Inc. in late
1998. The Company also settled some litigation in 1999.
In the fourth quarter of 1999, we deemed it "more likely than not" that our
deferred tax assets would be realized in the future. This judgment reflects
the fact that 1999 marked the third consecutive year of profitable North
American operations, and the fact we expect to operate profitably on a
worldwide basis in 2000. This resulted in an income tax benefit of $5.5
million.
As a result of the above, our net income increased to a record $12.8
million, a 686% improvement over 1998 results.
31
Liquidity and Capital Resources
Cash and equivalents were $38.5 million at December 31, 2000, an increase
of $36.7 million from December 31, 1999. In March 2000 we completed a private
placement of 1,250,000 shares of our common stock, raising $50 million in
gross proceeds before deducting commission and expenses of the offering.
Spending against cash reserves was attributable to our ongoing investment in
the growth of the business including working capital, and the Tucson operating
facility currently under construction and partially offset by cash generated
from the exercise of employee stock options. We believe that our current cash
and equivalents, line of credit and cash generated from operations will
satisfy funding requirements including working capital, capital expenditure,
and the $15.3 million in purchase commitments for the construction of a new
corporate headquarters and manufacturing facility in suburban Tucson, Arizona
through fiscal 2001.
Foreign Currency Risk
We do not currently hedge against foreign currency fluctuations, because we
do not believe that we run a serious risk of experiencing permanent impairment
to any material assets denominated in foreign currency, but we intend to re-
evaluate this situation from time to time. As a result, to the extent local
currency revenues and expenses in our foreign subsidiaries are translated into
U.S. dollars at differing rates over time, we may experience fluctuations in
our operating results. We conduct a relatively small but growing portion of
our business in the Euro, the Japanese Yen and the Australian dollar.
New Pronouncements
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, (FAS 133), "Accounting for Derivative
Instruments and Hedging Activities." This statement provides a comprehensive
and consistent standard for the recognition and measurement of derivatives and
hedging activities. In July 1999, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No. 137, which deferred the
effective date of FAS 133 for one year. In June 2000, the Financial Accounting
Standards Board issued Statement of Financial Accounting Standards No. 138,
(FAS 138), "Accounting for Certain Derivative Instruments and Certain Hedging
Activities-an amendment to FASB Statement No 133." This statement amended
certain provisions of FAS 133. Accordingly, the Company will adopt FAS 133, as
amended by FAS 138, effective the first quarter of fiscal 2001. Management
believes this statement will not have an impact on the Company's financial
statements.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
The Company is exposed to financial market risks, including changes in
interest rates and foreign currency exchange rates. Nevertheless, the fair
value of the Company's investment portfolio and related income would not be
significantly impacted by either a 100 basis point increase or decrease in
interest rates, due primarily to the short-term nature of the major portion of
the Company's investment portfolio. At December 31, 2000, the Company's only
investments are in money market accounts and overnight reverse repurchase
agreements ($38.5 million) that are reflected as cash equivalents because all
maturities are within 90 days. The Company's interest rate risk with respect
to existing investments is limited due to the short-term duration of these
arrangements and the yield's earned which approximate current interest rates.
At present, the Company has only $4.2 million in long-term debt and there
are no borrowings under our line of credit facility at December 31, 2000. As
such, our interest rate risk is limited with respect to existing debt. A
substantial portion of the Company's revenue and capital spending is
transacted in U.S. dollars. However, the Company does at times enter into
these transactions in other currencies, such as the Euro, the Japanese Yen and
the Australian dollar. No hedging transactions were entered into to limit this
exposure.
32
Item 8. Financial Statement and Supplementary Data
The Independent Auditor's Report, Consolidated Financial Statements and
Notes to Consolidated Financial Statements begin on Page F-1.
Item 9. Changes In and Disagreements with Accountants on Accounting and
Financial Disclosure
Not applicable.
33
PART III
Item 10. Directors and Executive Officers
Pursuant to our Certificate of Incorporation, as amended, our Board of
Directors currently consists of eight persons, divided into three classes
serving staggered terms of three years. Currently there are two Class I
directors, three Class II directors and three Class III directors. The terms of
the Class II directors will expire at the 2001 Annual Meeting of Shareholders.
The terms of the Class III and Class I directors will expire in 2002 and 2003
respectively.
Jack W. Schuler Mr. Schuler has served as a director of Ventana
(Age 60) since April 1991 and as Chairman of the Board
of Directors since November 1995. Mr. Schuler
Class III Director has been Chairman of the Board of Directors of
Stericycle, Inc. since March 1990. Mr. Schuler
Member of the Compensation is also a partner in Crabtree Partners. Prior
and Nominating Committees to joining Stericycle, Mr. Schuler held various
executive positions at Abbott from December
1972 through August 1989, serving most recently
as President and Chief Operating Officer. He is
currently a director of Medtronic, Inc. and
Chiron Corporation. Mr. Schuler received a B.S.
in Mechanical Engineering from Tufts University
and an M.B.A. from Stanford University.
John Patience Mr. Patience has served as a director of
(Age 53) Ventana since July 1989 and as Vice Chairman
since January 1999. Since April 1995,
Class III Director Mr. Patience has been a partner in Crabtree
Partners. Mr. Patience was a co-founder and
Member of the Nominating served as a General Partner of Marquette
Committee Venture Partners from January 1988 until March
1995. Marquette was one of our initial
investors. Mr. Patience was previously a
partner in the consulting firm of McKinsey &
Co., specializing in health care. He is
currently a director of Stericycle, Inc. Mr.
Patience received a B.A. in Liberal Arts and an
L.L.B. from the University of Sydney, Australia
and an M.B.A. from the University of
Pennsylvania Wharton School of Business.
Christopher M. Gleeson Mr. Gleeson became President and Chief
(Age 51) Executive Officer and a director in May 1999.
He joined Ventana in March 1999 as Executive
Class II Director Vice President and Chief Operating Officer.
Prior to joining the Company, Mr. Gleeson was
Senior Vice President of Bayer Diagnostics and
General Manager of the U. S. Commercial
Operations for Chiron Diagnostics, and prior to
that, the founder, owner and Managing Director
of Australian Diagnostics Corporation, a
leading diagnostics distributor in Australia.
He is a director of Pharmanetics, Inc. Mr.
Gleeson attended Monash University in
Melbourne, Australia.
Kendall B. Hendrick Mr. Hendrick joined Ventana in August 1998 and
(Age 41) has served as Vice President and General
Manager of Research & Development since May
1999. From April 1990 to August 1998, Mr.
Hendrick held various product development
management positions with Abbott Laboratories,
Diagnostics Division, most recently as the
Director of the Architect Research &
Development Program. Mr. Hendrick holds a B.S.
in Mechanical Engineering from Virginia
Polytechnic Institute.
34
Kirk M. Kimler Mr. Kimler joined the Company in 1999 and is
(Age 38) currently the Vice President of Worldwide
Marketing. From August 1988 to October 1999,
Mr. Kimler held various sales and marketing
positions with Abbott Laboratories, Diagnostics
Division to include Marketing Manager,
Architect and South East Commercial Operations.
Prior to Abbott, Mr. Kimler was an officer in
the United States Army. Mr. Kimler holds a B.A.
in Economics from the University of Notre Dame
and an M.B.A. from the University of Chicago.
Nicholas Malden Mr. Malden joined Ventana as Chief Financial
(Age 43) Officer in October 2000. From 1985 until
joining Ventana, Mr. Malden held various
financial management positions with The
Gillette Company, most recently as
vice president-finance for the Duracell Global
Business Management Group. Mr. Malden has a
B.A. in Political Science from Grinnell College
and an M.B.A. from Emory University.
Hany Massarany Mr. Massarany joined Ventana in July 1999 and
(Age 39) is currently Vice President and General Manager
of Molecular Discovery Systems. Prior to
joining Ventana Mr. Massarany held management
positions with Bayer Diagnostics and Chiron
Diagnostics. Mr. Massarany holds a B.S. from
Monash University in Australia and an M.B.A.
from the University of Melbourne.
Mark Nechita Mr. Nechita joined Ventana in June 2000, as
(Age 41) Vice President, Human Resources, Environmental
Health and Safety. Prior to joining Ventana,
Mr. Nechita worked in Human Resources in the
United States and internationally for RJR
Nabisco, FMC and most recently, Cordant
Technologies where he was Vice President, Human
Resources for their Huck Fasteners unit. Mr.
Nechita has a B.S. in Industrial and Labor
Relations from Cornell University.
Johnny D. Powers, Ph.D. Dr. Powers joined Ventana in February 1996 and
(Age 39) is currently Vice President, Operations. From
June 1990 until joining Ventana, Dr. Powers
held various management positions with Organon
Teknika Corporation serving most recently as
Director of Manufacturing Technologies. Dr.
Powers holds a B.A. in Chemistry from Wake
Forest University, a Ph.D. in Chemical
Engineering from North Carolina State
University, an M.S. in Chemical Engineering
from Clemson University, and an M.B.A. from
Duke University.
Bernard O.C. Questier Mr. Questier has served as Vice President and
(Age 47) General Manager of Europe, Middle East & Africa
since May 1999. He joined the Company as Vice
President of European Operations in February
1996. From October 1990 until joining Ventana
in October 1995, Mr. Questier held a number of
management positions in E.I. DuPont de Nemours,
most recently as Business Manager for NEN Life
Science Products in Europe. Mr. Questier
received a degree in Chemical Engineering from
the Technical Institute in Oostende, Belgium.
35
Tamaki Tateiwa Mr. Tateiwa has served as President of
(Age 61) Ventana's wholly owned subsidiary in Japan,
Ventana Medical Systems Japan K.K. in Tokyo,
since August 1997. From 1977 to 1997, Mr.
Tateiwa held various management positions with
Dainabot K.K. Mr. Tateiwa received a B.S. in
Engineering from the University of Electro-
Communications in Japan.
Stephen A. Tillson, Ph.D. Dr. Tillson joined Ventana in May 1992 and has
(Age 60) served as Vice President of Scientific Affairs
since August 1995. From January 1990 to May
1992, Dr. Tillson served as a principal of
Ticon Company Consulting. He has 25 years
experience in the diagnostic and pharmaceutical
industry. Dr. Tillson holds a Ph.D. from Purdue
University and received a B.S. from California
State Polytechnic University and an M.B.A. from
St. Mary's College of California.
Urs Wiederkehr Mr. Wiederkehr joined Ventana in June 2000 and
(Age 39) is currently General Manager of North American
Commercial Operations. Mr. Wiederkehr held
various US and Internationally based sales and
marketing positions with Abbot Laboratories
from 1988 to 1998 and was most recently an
independent consultant in the diagnostics
field. Mr. Wiederkehr holds a B.S. in Chemistry
from the Basel Technical Institute, in
Switzerland and an M.B.A. from the Basel
Management Institute.
Rex J. Bates Mr. Bates has served as a director of Ventana
(Age 77) since April of 1996. From August 1991 to May
1995, Mr. Bates served on the Board of
Class II Director Directors of Twentieth Century Industries and
was a member of its compensation committee.
Member of the Audit and Prior to Twentieth Century Industries,
Nominating Committee Mr. Bates served as the Vice-Chairman of the
Board of Directors of the State Farm Mutual
Automobile Insurance Company. Mr. Bates also
served as State Farm's Chief Investment
Officer. In March of 1991, Mr. Bates retired
from State Farm. Prior to Mr. Bates' employment
with State Farm, he was a partner in the
investment firm of Stein, Roe & Farnham in
Chicago. Mr. Bates received a B.S. and an
M.B.A. from the University of Chicago.
Edward M. Giles Mr. Giles has served as a director of Ventana
(Age 65) since September 1992. Mr. Giles has served as
Chairman of The Vertical Group, Inc., a venture
Class II Director capital investment firm, since January 1989.
Mr. Giles was previously President of F.
Member of the Compensation Eberstadt & Co., Inc., a securities firm, and
and Nominating Committees Vice Chairman of Peter B. Cannell & Co., Inc.,
an investment management firm. He is currently
a director of Synthetech, Inc. Mr. Giles
received a B.S.Ch.E. in Chemical Engineering
from Princeton University and an M.S. in
Industrial Management from the Massachusetts
Institute of Technology.
Thomas M. Grogan, M.D. Dr. Grogan is a founder, a director, Chairman
(Age 55) Emeritus, Chief Scientific Officer and Medical
Director of Ventana. He has served as a
Class III Director director since the founding of the Company in
June 1985 and as Chairman of the Board of
Member of the Nominating Ventana from June 1985 to November 1995. He is
Committee also currently a professor of pathology at the
University of Arizona, College of Medicine,
where he has taught since 1979. He received a
B.A. in Biology from the University of Virginia
and an M.D. from George Washington School of
Medicine. Dr. Grogan completed a post-doctorate
fellowship at Stanford University.
36
Mark C. Miller Mr. Miller has served as a director of Ventana
(Age 45) since January 2001. Mr. Miller has also been
President and Chief Executive Officer and a
Class I Director director of Stericycle, Inc. since May 1992.
Prior to joining Stericycle Mr. Miller served
as Vice President Pacific/Asia/Africa for the
International Division of Abbott Laboratories,
which he joined in 1977 and where he held a
number of management and marketing positions.
Mr. Miller also serves on the board of
directors of AmericasDoctor.com, Inc. and Lake
Forest Hospital. Mr. Miller received a B.S. in
Computer Science from Purdue University.
James R. Weersing Mr. Weersing has served as a director of
(Age 61) Ventana since October 1994. Since 1984, Mr.
Weersing has been a Managing Director of MBW
Class I Director Venture Partners, a venture capital investment
Member of the Audit and firm. Mr. Weersing has also served as President
Compensation Committees of JRW Technology, Inc., a consulting firm and,
since January 2000, President and CEO of Iomed,
Inc. Mr. Weersing received a B.S.M.E. and an
M.B.A. from Stanford University.
Section 16(a) Beneficial Ownership Reporting Compliance
During the last year Dr. Grogan, Dr. Powers and Mr. Giles each failed to
file one report on Form 4 in a timely manner. Such transactions have
subsequently been reported.
37
Item 11. Executive Compensation
The following table sets forth all compensation paid by us to the chief
executive officer and the most highly compensated executive officers and key
employees whose total remuneration exceeded $100,000 for services rendered in
all capacities to us during the last three completed fiscal years.
Summary Compensation Table
Long-Term
Compensation Awards
-------------------------
Annual Compensation Restricted Securities
Name and Principal -------------------- Stock Underlying All Other
Position Year Salary ($) Bonus ($) Awards ($) Options/SARs Compensation ($)
------------------ ---- ---------- --------- ---------- ------------ ----------------
Christopher M. Gleeson.. 2000 226,719 -- -- 20,625 105,359(1)
President, Chief 1999 163,846 10,000 -- 200,000 20,625(1)
Executive Officer
and Director 1998 -- -- -- -- --
Tamaki Tateiwa.......... 2000 173,258 -- -- 15,025 4,928(2)
Vice President, General 1999 170,604 -- -- 10,800 4,438(2)
Manager
of Japanese Operations 1998 145,340 -- -- 4,683 3,865(2)
Kendall B. Hendrick..... 2000 173,200 13,000 263,750(3) 14,481 --
Vice President, General 1999 156,914 5,000 -- 10,502 7,212(1)
Manager
of Research & 1998 65,403 -- -- 35,000 46,932(1)
Development
Johnny D. Powers, 2000 163,877 10,000 -- 9,897 --
Ph.D...................
Vice President, 1999 150,683 -- -- 21,549 --
Operations
1998 144,107 -- -- 14,213 --
Bernard O.C. Questier... 2000 161,629 -- -- 13,107 8,800(2)
Vice President, General 1999 153,375 -- -- 12,670 8,800(2)
Manager
of Europe, Middle East 1998 150,000 -- -- 16,836 8,800(2)
& Africa
- --------
(1) Relocation expenses inclusive of tax reimbursement on non-deductible
portion.
(2) Automobile allowance.
(3) Grant of 10,000 shares of restricted stock on October 31, 2000. For the
purposes of this table, the shares are valued at $26.375 (the market price
on October 30, 2000). The shares will vest five years from the date of
grant.
(4) Please see "Employment Agreements" on Page 39 for information with respect
to currency fluctuations.
38
Aggregate Option Exercises in the Last Fiscal Year and Year-End Values. The
following table sets forth, for each of the executives named in the summary
compensation table below, information with respect to each exercise of stock
options during the fiscal year ended December 31, 2000, and the value of
unexercised options at December 31, 2000.
Aggregate Option Exercises in Fiscal 2000 and Year-End Values
Number of Securities
Underlying Unexercised Value of Unexercised
Shares Options at In-the-Money Options
Acquired on December 31, 2000 at December 31, 2000(1)
Exercise Value ------------------------- -------------------------
Name (#) Realized ($) Exercisable Unexercisable Exercisable Unexercisable
---- ----------- ------------ ----------- ------------- ----------- -------------
Christopher M. Gleeson.. -- -- 57,434 163,191 38,988 123,512
Tamaki Tateiwa.......... -- -- 62,202 13,506 350,135 42,240
Kendall B. Hendrick..... -- -- 29,166 30,817 5,502 4,188
Johnny D. Powers,
Ph.D. ................. -- -- 80,492 15,167 158,136 18,626
Bernard O.C. Questier... -- -- 77,080 12,490 744,720 12,623
- --------
(1) The value of "in-the-money" stock options represents the positive spread
between the exercise price of stock options, which ranges from $0.84 per
share to $27.375 per share, and the fair market value for our common stock
of $18.50 per share as of December 31, 2000, which was the closing price
of our Common Stock on December 31, 2000.
Employment Agreements
We have an employment agreement with Bernard O.C. Questier, our Vice
President of European Operations. The agreement provides for annual
compensation of $164,500, which is fixed to the French Franc to protect
against currency fluctuations should the United States Dollar depreciate
relative to the French Franc; however, if the United States dollar appreciates
relative to the French Franc, Mr. Questier's salary shall remain unchanged.
The agreement states that if Mr. Questier is terminated, he will continue to
be paid through the quarter in which notice of termination is given plus one
additional full quarter. The agreement does not provide for any specified term
of employment. We currently have no employment contracts or agreements with
any other officers named in the Summary Compensation Table or with any other
person.
Compensation Committee Interlocks and Insider Participation in Compensation
Decisions
The Compensation Committee of the Board of Directors consists of Jack W.
Schuler, James Weersing and Edward M. Giles. The Compensation Committee makes
recommendations to the Board of Directors concerning salaries and incentive
compensation for our employees and consultants. However, the Compensation
Committee has full power and authority to grant stock options to our executive
officers under the 1996 Stock Option Plan.
39
Option Grants in the Last Fiscal Year
The following table sets forth information with respect to each grant of
stock options made during the fiscal year ended December 31, 2000 to each
executive officer named in the Summary Compensation Table above:
Individual Grants
Potential
Realizable
Value at
Assumed Annual
Rates of Stock
Price
Number of Appreciation
Securities % of Total for Option
Underlying Options Exercise or Term(4)
Options Granted in Base Price Expiration ---------------
Name Granted(1) 2000(2) ($/Sh)(3) Date 5% ($) 10% ($)
---- ---------- ---------- ----------- ---------- ------- -------
Christopher M. Gleeson.. 16,000(a) 1.8% $23.500 12/31/2009 236,464 599,247
4,625(b) 0.5% $23.500 1/23/2010 68,353 173,220
Tamaki Tateiwa.......... 7,750(a) 0.9% $23.500 12/31/2009 114,537 290,260
7,275(b) 0.8% $23.500 1/23/2010 107,517 272,470
Kendall B. Hendrick..... 10,000(a) 1.1% $23.500 12/31/2009 147,790 374,529
4,481(b) 0.5% $23.500 1/23/2010 66,225 167,827
Johnny D. Powers,
Ph.D. ................. 6,000(a) 0.7% $23.500 12/31/2009 88,674 224,718
3,897(b) 0.4% $23.500 1/23/2010 57,594 145,954
Bernard O.C. Questier... 7,500(a) 0.9% $23.500 12/31/2009 110,843 280,897
5,607(b) 0.6% $23.500 1/23/2010 82,866 209,999
- --------
(1) The above options were granted under the Company's 1996 Stock Option Plan.
Vesting periods are as follows: (a) five years and (b) immediate.
(2) Based on an aggregate of 876,337 options granted by the Company during the
year ended December 31, 2000.
(3) The option exercise price per share was equal to the fair market value of
the Common Stock on the date of grant.
(4) The 5% and 10% assumed annual rates of compounded stock price appreciation
are mandated by rules of the Securities and Exchange Commission. There can
be no assurance provided to any executive officer or any other holder of
the Company's securities that the actual stock price appreciation over the
10-year option term will be at the assumed 5% and 10% levels or at any
other defined level. Unless the market price of the Common Stock
appreciates over the option term, no value will be realized from the
option grants made to the executive officers.
40
Item 12. Security Ownership of Certain Beneficial Owners and Management
The following table sets forth information, as of February 28, 2001 with
respect to the number of shares of our common stock beneficially owned by
individual directors, by all of our directors and officers as a group, and by
persons known by us to own more than 5% of our common stock. We have no other
class of voting stock outstanding.
Percent of
Common
Number of Stock
Name and Address of Beneficial Owner Shares Owned
------------------------------------ --------- ----------
Kopp Investment Advisors, Inc. ........................... 2,657,923 14.6
7701 France Avenue South
Suite 500
Edina, MN 55435
Wellington Management Co. LLP............................. 1,955,300 10.8
75 State Street
Boston, MA 02109
MBW Venture Partners. L.P................................. 1,442,350 7.9
365 South Street
Morristown, NJ 07960
Berger, LLC............................................... 1,254,630 6.9
210 University Blvd, Ste 900
Denver, CO 80206
Franklin Resources Asset Management....................... 1,142,600 6.3
777 Mariners Island Blvd.
San Mateo, CA 94404
US Trust Company of New York.............................. 1,126,573 6.2
114 West 47th Street
New York, NY 10036
Jack W. Schuler(3)........................................ 1,343,957 7.4
John Patience(4).......................................... 652,449 3.6
Edward M. Giles(5)........................................ 578,749 3.2
Thomas M. Grogan, M.D.(6)................................. 186,509 1.0
Rex J. Bates(7)........................................... 85,151 *
Johnny D. Powers, Ph.D.(8)................................ 85,071 *
Bernard O.C. Questier(9).................................. 82,824 *
Christopher M. Gleeson(10)................................ 79,246 *
Tamaki Tateiwa(11)........................................ 66,766 *
Stephen A. Tillson(12).................................... 37,895 *
James R. Weersing(13)..................................... 37,007 *
Kendall B. Hendrick(14)................................... 34,395 *
Kirk M. Kimler(15)........................................ 18,298 *
Hany Massarany(16)........................................ 9,902 *
Urs Wiederkehr............................................ 511 *
Mark Nechita.............................................. 222 *
Nicholas Malden........................................... 0 *
Mark C. Miller............................................ 0 *
All Directors and Officers as a group (18 persons)........ 3,298,952 18.2
- --------
* Less than 1%
1. Except as indicated in the footnotes to this table and pursuant to
applicable community property laws, the persons named in the table have
sole voting and investment power with respect to all shares of Common
Stock.
41
2. Applicable percentage of ownership is based on 15,444,122 shares of common
stock outstanding as of December 31, 2000, together with shares issuable
pursuant to applicable options and warrants of such stockholder which may
be exercised within 60 days after February 28, 2001. Share of common stock
subject to options and/or warrants currently exercisable or exercisable
within 60 days after February 28, 2001, are deemed outstanding for
computing the percentage ownership of the person holding such options
and/or warrants, but are not deemed outstanding for computing the
percentage of any other person.
3. Includes 265,250 shares issuable upon the exercise of options exercisable
within 60 days of February 28, 2001, held by Mr. Schuler; 73,512 shares
beneficially owned by Mr. Schuler, as custodian for Tanya Eva Schuler;
73,512 shares beneficially owned by Mr. Schuler, as custodian for Therese
Heidi Schuler; and 73,512 shares beneficially owned by Mr. Schuler, as
custodian for Tino Hans Schuler; and 20,000 shares beneficially owned by
the Schuler Family Foundation, and 1,250 shares owned by Mrs. Schuler.
4. Includes 258,375 shares issuable upon the exercise of options exercisable
within 60 days of February 28, 2001, held by Mr. Patience, as well as
4,800 shares held in the name of Mrs. Patience.
5. Includes 478,501 shares beneficially owned by Vertical Fund Associates,
L.P. Also includes 26,500 shares issuable upon the exercise of options
exercisable within 60 days of February 28, 2001, held by Edward M. Giles.
Also includes 37,462 beneficially owned by Edward M. Giles IRA. Mr. Giles,
one of our directors, is chairman of the Vertical Group, Inc. Mr. Giles
disclaims beneficial ownership of the shares beneficially owned by such
entities affiliated with the Vertical Group, Inc., except to the extent of
his partnership interest therein.
6. Includes 9,612 shares beneficially owned by Andrew Grogan. Includes 10,612
shares beneficially owned by Emily Grogan. Includes 7,710 shares
beneficially owned by C. Ovens, Inc. Includes 47,454 shares issuable upon
exercise of options exercisable within 60 days of February 28, 2001, held
by Dr. Grogan.
7. Includes 26,500 shares issuable upon the exercise of options exercisable
within 60 days of February 28, 2001, held by Mr. Bates.
8. Includes 83,134 shares issuable upon the exercise of options exercisable
within 60 days of February 28, 2001, held by Dr. Powers.
9. Includes 79,068 shares issuable upon the exercise of options exercisable
within 60 days of February 28, 2001, held, held by Mr. Questier.
10. Includes 66,768 shares issuable upon exercise of options exercisable
within 60 days of February 28, 2001, held by Mr. Gleeson.
11. Includes 66,766 shares issuable upon exercise of options exercisable
within 60 days of February 28, 2001, held by Mr. Tateiwa.
12. Includes 17,738 shares issuable upon exercise of options exercisable
within 60 days of February 28, 2001, held by Mr. Tillson.
13. Includes 26,500 shares issuable upon the exercise of options exercisable
within 60 days of February 2001, held by Mr. Weersing. Includes 6,209
shares beneficially owned by James R. Weersing and Mary H. Weersing,
Trustees of the Weersing Family Trust U/D/T dated April 24, 1991.
14. Includes 32,592 shares issuable upon exercise of options exercisable
within 60 days of February 28, 2001, held by Mr. Hendrick.
15. Includes 16,934 shares issuable upon exercise of options exercisable
within 60 days of February 28, 2001, held by Mr. Kimler.
16. Includes 9,902 shares issuable upon exercise of options exercisable within
60 days of February 28, 2001, held by Mr. Massarany.
42
Item 13. Certain Relationships and Related Transactions
On February 8, 2001, our Board of Directors unanimously approved, with
Messrs. Schuler and Patience abstaining, an additional option to purchase
50,000 shares to each of Messrs. Schuler and Patience. These options carry an
exercise price of $20.4375 per share, which was equal to the fair market value
of our common stock on the date of grant. The options vest on a monthly basis
over a 12-month period commencing on February 26, 2001. This grant was a
renewal of an arrangement that has been in place since February 26, 1996 by
which Messrs. Schuler and Patience devote a significant portion of their work
time to our business.
43
PART IV
Item 14. Exhibits and Reports on Form 8-K.
1. Financial Statements
The following consolidated financial statements of Ventana Medical Systems,
Inc. and Report of Ernst & Young, LLP, Independent Auditors, are in this
Form 10-K.
Report of Ernst & Young LLP, Independent Auditors........................ F-1
Consolidated Balance Sheets as of December 31, 2000 and 1999............. F-2
Consolidated Statements of Operations for the Years Ended December 31,
2000, 1999 and 1998..................................................... F-3
Consolidated Statements of Stockholders' Equity for the Years Ended
December 31, 2000, 1999 and 1998........................................ F-4
Consolidated Statements of Cash Flow for the Years Ended December 31,
2000, 1999 and 1998..................................................... F-5
Notes to Consolidated Financial Statements............................... F-6
2. Financial Statement and Schedules for the Years ended December 31, 2000,
1999 and 1998
Schedule II--Valuation and Qualifying Accounts has been provided on page
47. All other schedules are omitted because the information required to be
set forth therein is not applicable or is shown in the consolidated
financial statements or notes thereto.
3. Exhibits
The following Exhibits are filed herewith pursuant to Rule 601 of
Regulation S-K:
Exhibit
Number Description Notes
------- ----------- -----
3.1 Restated Certificate of Incorporation or Registrant (1)
3.2 Bylaws of Registrant (1)
4.1 Specimen Common Stock Certificate (1)
10.1 Form of Indemnification Agreement for directors and officers (1)
10.2 1988 Stock Option Plan and forms of agreements thereunder (1)
10.3 1996 Stock Option Plan and forms of agreements thereunder (1)
10.4 1996 Employee Stock Purchase Plan (1)
10.5 1996 Directors Option Plan (1)
10.6 1998 Nonstatutory Stock Option Plan and forms of agreements
thereunder (2)
10.7 Form of Stock Purchase Warrant to Purchase shares of Series D
Preferred Stock (1)
10.8 Bank of America Business Loan Agreement dated June 9, 1998 (3)
10.9 Amendment to Bank of America Business Loan Agreement dated
October 1, 1998 (3)
10.10 Amendment to Bank of America Business Loan Agreement dated
March 17, 1999 (3)
21.1 Subsidiaries of Registrant
23.1 Consent of Ernst & Young LLP, Independent Auditors
44
- --------
(1) Filed with the Registration Statement on Form S-1 (Commission File No.
333-4461), declared effective by the Commission July 26, 1996.
(2) Filed with the Registration Statement on Form S-8 (Commission File No.
333-92883), filed with the Commission on December 16, 1999.
(3) Filed with the report on Form 10-K filed March 31, 2000 (Commission File
No. 000-20931). (b) Current Reports on Form 8-K
We did not file any reports on Form 8-K during the last quarter of the
fiscal year ended December 31, 2000.
45
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, hereunto duly authorized, in the City of
Tucson, State of Arizona, on this 29th day of March 2001.
VENTANA MEDICAL SYSTEMS, INC.
/s/ Nicholas Malden
By: _________________________________
Nicholas Malden, Vice President,
Chief
Financial Officer and Secretary
Pursuant to the requirements of the Securities Act of 1934, this report has
been signed by the following persons on behalf of the registrant and in the
capacities and on the dates indicated:
Signature Title Date
--------- ----- ----
/s/ Christopher M. Gleeson President, Chief Executive March 29, 2001
____________________________________ Officer and Director
Christopher M. Gleeson (Principal Executive
Officer)
/s/ Nicholas Malden Vice President, Chief March 29, 2001
____________________________________ Financial Officer and
Nicholas Malden Secretary (Principal
Financial and Accounting
Officer)
/s/ Rex J. Bates Director March 29, 2001
____________________________________
Rex J. Bates
/s/ Edward M. Giles Director March 29, 2001
____________________________________
Edward M. Giles
/s/ Thomas M. Grogan Director March 29, 2001
____________________________________
Thomas M. Grogan
/s/ Mark C. Miller Director March 29, 2001
____________________________________
Mark C. Miller
/s/ John Patience Director March 29, 2001
____________________________________
John Patience
/s/ Jack W. Schuler Director March 29, 2001
____________________________________
Jack W. Schuler
/s/ James R. Weersing Director March 29, 2001
____________________________________
James R. Weersing
46
SCHEDULE II
VALUATION AND QUALIFYING ACCOUNTS
VENTANA MEDICAL SYSTEMS, INC.
(in thousands)
Additions
-------------------
Balance at Charged to Charged Balance at
Beginning Costs and to Other End of
Description of Period Expenses Accounts Deductions Period
----------- ---------- ---------- -------- ---------- ----------
Year Ended December 31,
2000
Deducted from asset
accounts:
Allowance for
doubtful accounts.. $883 $1,895 $ 30(1) $ 169(2) $2,639
==== ====== ===== ====== ======
Allowance for
obsolete
inventory.......... $476 $4,310 $ -- $2,429(3) $2,357
==== ====== ===== ====== ======
Year Ended December 31,
1999
Deducted from asset
accounts:
Allowance for
doubtful accounts.. $694 $ 196 $ 152(1) $ 159(2) $ 883
==== ====== ===== ====== ======
Allowance for
obsolete
inventory.......... $104 $ 408 $ -- $ 36(3) $ 476
==== ====== ===== ====== ======
Year Ended December 31,
1998
Deducted from asset
accounts:
Allowance for
doubtful accounts.. $300 $ 392 $ 41(1) $ 39(2) $ 694
==== ====== ===== ====== ======
Allowance for
obsolete
inventory.......... $104 $ -- $ -- $ -- $ 104
==== ====== ===== ====== ======
- --------
(1) Charged to revenue
(2) Uncollectible accounts written off, net of recoveries
(3) Inventories written off, net of recoveries
47
REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS
Board of Directors
Ventana Medical Systems, Inc.
We have audited the accompanying consolidated balance sheets of Ventana
Medical Systems, Inc., as of December 31, 2000 and 1999, and the related
consolidated statements of operations, stockholders' equity, and cash flows
for each of the three years in the period ended December 31, 2000. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on
a test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of Ventana Medical Systems, Inc., at December 31, 2000 and 1999, and the
consolidated results of its operations and its cash flows for each of the
three years in the period ended December 31, 2000, in conformity with
accounting principles generally accepted in the United States.
As discussed in Note 1 to the consolidated financial statements, in 2000
the Company changed its method of accounting for revenue recognition.
/s/ Ernst & Young LLP
Phoenix, Arizona
January 25, 2001
F-1
VENTANA MEDICAL SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
December 31,
------------------
2000 1999
-------- --------
ASSETS
------
Current assets:
Cash and cash equivalents................................ $ 38,512 $ 1,787
Trade accounts receivable, net of allowance for doubtful
accounts of $2,639 and $883, respectively............... 16,682 20,776
Inventories.............................................. 8,100 13,474
Prepaid expenses......................................... 460 574
Deferred tax assets...................................... 4,817 1,692
Other current assets..................................... 492 722
-------- --------
Total current assets................................... 69,063 39,025
Property and equipment, net................................ 22,329 14,441
Intangibles, net........................................... 11,887 14,178
Capitalized software development costs, net................ 1,190 1,084
Deferred tax assets, net of current portion................ 3,985 4,433
Other assets............................................... 1,128 --
-------- --------
Total assets........................................... $109,582 $ 73,161
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
Current liabilities:
Accounts payable......................................... $ 5,943 $ 4,017
Other current liabilities................................ 13,143 6,600
-------- --------
Total current liabilities.............................. 19,086 10,617
Long-term debt............................................. 3,408 2,044
Commitments and Contingencies
Stockholders' equity:
Common stock--$.001 par value; 50,000,000 shares
authorized, 15,444,122 and 13,593,640 shares issued and
outstanding at December 31, 2000 and 1999,
respectively............................................ 15 14
Additional paid-in-capital............................... 134,862 80,542
Accumulated deficit...................................... (46,636) (19,341)
Accumulated other comprehensive income................... (553) (115)
Treasury stock--40,000 shares, at cost................... (600) (600)
-------- --------
Total stockholders' equity............................. 87,088 60,500
-------- --------
Total liabilities and stockholders' equity............. $109,582 $ 73,161
======== ========
See accompanying notes.
F-2
VENTANA MEDICAL SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
Years Ended December 31,
--------------------------
2000 1999 1998
-------- ------- -------
Sales:
Reagents and other............................... $ 49,682 $45,340 $31,967
Instruments...................................... 21,467 24,069 15,737
-------- ------- -------
71,149 69,409 47,704
Cost of goods sold................................. 36,377 21,218 14,542
-------- ------- -------
Gross profit....................................... 34,772 48,191 33,162
Operating expenses:
Selling, general and administrative.............. 43,800 32,381 23,805
Research and development......................... 11,116 7,078 5,057
Non-recurring expenses........................... 4,519 -- 3,160
Amortization of acquisition costs................ 1,474 1,051 599
-------- ------- -------
(Loss) income from operations...................... (26,137) 7,681 541
Interest and other income (expense)................ 1,346 (370) 1,089
-------- ------- -------
(Loss) income before taxes and cumulative effect of
accounting change................................. (24,791) 7,311 1,630
(Provision for) benefit from income taxes.......... (350) 5,500 --
-------- ------- -------
(Loss) income before cumulative effect of
accounting change................................. (25,141) 12,811 1,630
Cumulative effect of accounting change, net of
applicable income tax benefit of $1,436........... (2,154) -- --
-------- ------- -------
Net (loss) income.............................. $(27,295) $12,811 $ 1,630
======== ======= =======
Basic earnings per common share:
Before cumulative effect of accounting change.... $ (1.70) $ .95 $ .12
Cumulative effect of accounting change........... (.15) -- --
-------- ------- -------
Net (loss) income.............................. $ (1.85) $ .95 $ .12
======== ======= =======
Diluted earnings per common share:
Before cumulative effect of accounting change.... $ (1.70) $ .88 $ .11
Cumulative effect of accounting change........... (.15) -- --
-------- ------- -------
Net (loss) income.............................. $ (1.85) $ .88 $ .11
======== ======= =======
Pro forma amounts assuming the accounting changes
are applied retroactively:
Net (loss) income................................ $(25,141) $11,668 $ 1,282
Net (loss) income per common share:
--Basic........................................ $(1.70) $ .88 $ .10
--Diluted...................................... $(1.70) $ .80 $ .09
Shares used in computing earnings per common share:
--Basic.......................................... 14,770 13,478 13,320
======== ======= =======
--Diluted........................................ 14,770 14,636 14,627
======== ======= =======
See accompanying notes.
F-3
VENTANA MEDICAL SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(In thousands, except share data)
Accumulated
Common Stock Additional Other
----------------- Paid-In Accumulated Comprehensive Treasury
Shares Amount Capital Deficit Income Stock Total
---------- ------ ---------- ----------- ------------- -------- --------
Balance at January 1,
1998................... 13,247,226 $13 $ 76,313 $(33,782) $(141) $ -- $ 42,403
Net income.............. -- -- -- 1,630 -- -- 1,630
Translation adjustment.. -- -- -- -- (52) -- (52)
Comprehensive income.... -- -- -- -- -- -- 1,578
Sale of common stock--
other.................. 174,593 -- 1,502 -- -- -- 1,502
Repayment of director's
loans.................. -- -- 901 -- -- -- 901
Purchase of common
stock.................. -- -- -- -- -- (600) (600)
---------- --- -------- -------- ----- ----- --------
Balance at December 31,
1998................... 13,421,819 13 78,716 (32,152) (193) (600) 45,784
Net income.............. -- -- -- 12,811 -- -- 12,811
Translation adjustment.. -- -- -- -- 78 -- 78
Comprehensive income.... -- -- -- -- -- -- 12,889
Sale of common stock--
other.................. 171,821 1 1,826 -- -- -- 1,827
---------- --- -------- -------- ----- ----- --------
Balance at December 31,
1999................... 13,593,640 14 80,542 (19,341) (115) (600) 60,500
Net (loss) income....... -- -- -- (27,295) -- -- (27,295)
Translation adjustment.. -- -- -- -- (438) -- (438)
Comprehensive (loss)
income................. -- -- -- -- -- -- (27,733)
Sale of common stock,
net of issuance costs
of $3,154.............. 1,250,000 1 46,846 -- -- -- 46,847
Exercise of stock
options................ 600,482 -- 6,052 -- -- -- 6,052
Tax benefit from stock
options................ -- -- 1,422 -- -- -- 1,422
---------- --- -------- -------- ----- ----- --------
Balance at December 31,
2000................... 15,444,122 $15 $134,862 $(46,636) $(553) $(600) $ 87,088
========== === ======== ======== ===== ===== ========
See accompanying notes.
F-4
VENTANA MEDICAL SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
Years Ended December 31,
---------------------------
2000 1999 1998
-------- ------- --------
Operating activities:
Net (loss) income................................ $(27,295) $12,811 $ 1,630
Adjustments to reconcile net (loss) income to net
cash used in operating activities:
Depreciation and amortization.................. 5,497 3,689 2,850
Cumulative effect of accounting change......... 2,154 -- --
Non-cash intangibles and property and equipment
charges....................................... 7,914 -- --
Purchased in-process research and development.. -- -- 2,900
Benefit from deferred taxes.................... (1,255) (5,980) (145)
Changes in operating assets and liabilities net
of effects from acquisitions:
Accounts receivable............................ 4,094 (4,245) (6,340)
Inventories.................................... 5,374 (2,465) (4,160)
Other assets................................... (1,040) (1,002) 198
Accounts payable............................... 1,926 481 (63)
Other current liabilities...................... 4,389 815 586
-------- ------- --------
Net cash provided by (used in) operating
activities.................................. 1,758 4,104 (2,544)
Investing activities:
Purchase of property and equipment............... (15,150) (6,843) (5,377)
Purchase of intangible assets.................... (1,208) (78) (5)
Acquisition of certain Oncor, Inc. assets........ -- -- (5,000)
Acquisition of Biotechnology Tools, Inc.......... -- (358) (5,257)
Acquisition of Quantitative Diagnostic
Laboratories.................................... (2,500) -- --
-------- ------- --------
Net cash used in investing activities........ (18,858) (7,279) (15,639)
Financing activities:
Net proceeds from private placement.............. 46,847 -- --
Issuance of common stock......................... 6,052 2,460 2,403
Net change in long term debt..................... 1,364 -- --
Purchase of common stock......................... -- -- (600)
Repayment of debt, net of gain on
extinguishment.................................. -- -- (46)
-------- ------- --------
Net cash provided by financing activities........ 54,263 2,460 1,757
Effect of exchange rate changes on cash.......... (438) 78 (52)
-------- ------- --------
Net increase (decrease) in cash and cash
equivalents..................................... 36,725 (637) (16,478)
Cash and cash equivalents, beginning of year..... 1,787 2,424 18,902
-------- ------- --------
Cash and cash equivalents, end of year....... $ 38,512 $ 1,787 $ 2,424
======== ======= ========
Supplemental cash flow information:
Income taxes paid.............................. $ 350 $ 104 $ 240
Interest paid.................................. $ 278 $ 145 $ 260
See accompanying notes.
F-5
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except per share data)
1. Organization and Significant Accounting Policies
Organization: Ventana Medical Systems, Inc. (the "Company") develops,
manufactures, and markets proprietary instruments and reagents that automate
diagnostic procedures used for molecular analysis of cells. At present, the
Company's principal markets are North America, Europe, Japan and Australia.
Revenue Recognition: The Company recognizes revenue upon shipment of its
products that do not require installation at the customer's site. During the
year ended December 31, 2000, the Company changed its methods of revenue
recognition for its products which do require installation at the customer's
site in accordance with Staff Accounting Bulletin (SAB) No. 101 Revenue
Recognition in Financial Statements. Previously, the Company had recognized
revenue for products upon shipment to the customer, but prior to installation
at the customer's site. The Company had routinely completed such installation
services in the past, but a substantive effort is required and the Company is
the only one who can perform the service. Under the new accounting method
adopted retroactive to January 1, 2000, the Company now recognizes revenue
upon the completion of installation of the product at the customer's site. The
cumulative effect of the accounting change resulted in a charge to operations
of $2,154 (net of an income tax benefit of $1,436), which is included in
operations for the year ended December 31, 2000. The effect of the change on
the year-ended 2000 was to decrease income before cumulative effect of
accounting change by $539 ($.04 per basic and diluted shares, respectively).
For the year ended December 31, 2000, the Company recognized $2,392 in
revenue that is included in the cumulative effect adjustment as of January 1,
2000. The effect of that revenue was to increase income by $1,064 (after
reduction for income taxes of $710) during that period.
Principles of Consolidation: The consolidated financial statements include
the accounts of the Company and its wholly-owned subsidiaries, Ventana Medical
Systems, S.A., Ventana Medical Systems GmbH, Ventana Medical Systems Japan
K.K., Ventana Medical Systems Australia Pty. Ltd., BioTek Solutions, Inc.
(BioTek) and BioTechnology Tools, Inc. (BTTI). All significant intercompany
accounts and transactions have been eliminated.
Use of Estimates: The preparation of financial statements in accordance
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results could differ from those
estimates.
Cash and Cash Equivalents: Cash equivalents include investments (primarily
money market accounts and overnight reverse repurchase agreements) with
maturities of three months or less from the date of purchase.
Inventories: Inventories, principally chemical, biological and instrument
parts and reagents and finished instruments, are stated at the lower of cost
(first-in first-out basis) or market.
Property and Equipment: Property and equipment are stated at cost.
Depreciation is computed using the straight-line method over estimated useful
lives of three to ten years. Amortization of leasehold improvements is
generally calculated using a straight-line method over the term of the lease.
Maintenance and repairs are charged to operations as incurred.
Property and equipment includes diagnostic instruments used for sales
demonstrations or placed with customers under several types of arrangements,
including cancelable reagent plans (RAPs), qualified reagent installed bases
(QRIBs) and rentals. New instruments are no longer placed into RAP programs.
However, certain long-standing agreements continue on a month-to-month basis,
wherein the customer is required to purchase a minimum quantity of reagents in
order to keep the instrument. QRIB instruments are placed with customers for
evaluation periods of up to six months. The customer is required to purchase a
minimum amount of reagents and
F-6
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
1. Organization and Significant Accounting Policies (continued)
at the end of the evaluation period must purchase, rent or return the
instrument. The manufacturing cost of demonstration, RAP, QRIB and rental
instruments is amortized over a period of 3 to 4 years to cost of goods sold
(RAPs and rentals) and selling, general and administrative expenses (QRIBs and
demonstrations).
Intangibles: Intangible assets consist primarily of goodwill, customer
base, developed technology, workforce in place and supply agreements acquired
in the acquisitions of BioTek, BTTI, certain assets and technology from Oncor,
Inc., QDL and patents (see Note 12). Such assets are amortized on a straight-
line basis over estimated useful lives ranging from 5 to 20 years.
Impairment is recognized in operating results if a permanent decline in
value occurs. The Company measures possible impairment of its intangible
assets periodically by comparing the undiscounted cash flows generated by
those assets to their carrying values. The Company periodically evaluates the
useful lives assigned to the various categories of intangible assets
considering such factors as: (i) demand, obsolescence, competition, market
share, and other economic factors; (ii) legal and regulatory provisions; and
(iii) the periods expected to be benefited.
Capitalized Software Development Costs: The Company capitalizes certain
internal salaries expense related to developing computer software used in the
Company's instruments. Costs incurred prior to the establishment of
technological feasibility are charged to research and development expense.
Upon general release to customers of the product in which the software is
included, capitalization ceases and such costs are amortized using the
straight-line method over the estimated life of 5 years. Capitalized software
costs and accumulated costs are as follows at December 31:
2000 1999
------ ------
Capitalized costs........................................... $1,764 $1,508
Less accumulated amortization............................... 574 424
------ ------
$1,190 $1,084
====== ======
Shipping Costs: Substantially all costs of shipping products to customers
are included in costs of sales.
Concentration of Credit Risk: The Company sells its instruments and reagent
products primarily to hospitals, medical clinics, reference laboratories, and
universities. Credit losses have been minimal to date. The Company invests its
excess cash primarily in U.S. government securities and bank money market
accounts and has an established policy relating to diversification and
maturities that is designed to maintain safety and liquidity. The Company has
not experienced any material losses on its cash equivalents or short-term
investments.
No single customer accounted for 5% or more of the Company's 2000, 1999 or
1998 net sales.
Foreign Currency Translations: The financial statements of foreign
subsidiaries have been translated into U.S. dollars in accordance with
Statement of Financial Accounting Standards No. 52, Foreign Currency
Translation. All balance sheet accounts have been translated using the
exchange rates in effect at the balance sheet date. Income statement amounts
have been translated using the average exchange rate for the year. The gains
and losses resulting from the changes in exchange rates from year to year have
been reported in other comprehensive income. The effect on the consolidated
statements of operations of transaction gains and losses is not material for
all years presented.
Income Taxes: The Company accounts for income taxes using the liability
method. Deferred tax assets and liabilities are determined based on
differences between financial reporting and tax bases of assets and
liabilities and are measured using enacted tax rates and laws expected to be
in effect when the differences are expected to reverse. Valuation allowances
are established when necessary to reduce the carrying amount of deferred tax
assets to their net realizable value.
F-7
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
1. Organization and Significant Accounting Policies (continued)
Fair Value of Financial Instruments: The Company's cash equivalents,
accounts receivable, accounts payable and long-term debt represent financial
instruments as defined by Statement of Financial Accounting Standards No. 107,
Disclosures About Fair Value of Financial Instruments. The carrying value of
these financial instruments is a reasonable approximation of fair value, due
to their current maturities.
Stock-Based Compensation: The Company has elected to follow Accounting
Principles Board Opinion No. 25, Accounting for Stock Issued to Employees
("APB No. 25") and related Interpretations in accounting for its employee
stock options because, as discussed below, the alternative fair value
accounting provided for under Statement of Financial Accounting Standards No.
123, Accounting for Stock-Based Compensation ("SFAS No. 123"), requires the
use of option valuation models that were not developed for use in valuing
employee stock options. Under APB No. 25, because the exercise price of the
Company's stock options equals or exceeds the fair market value of the
underlying stock on the dates of grant, no compensation expense is recognized.
Recently Issued Accounting Standards: In June 1998, the Financial
Accounting Standards Board issued Statement of Financial Accounting Standards
No. 133, (FAS 133), "Accounting for Derivative Instruments and Hedging
Activities." This statement provides a comprehensive and consistent standard
for the recognition and measurement of derivatives and hedging activities. In
June 2000, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 138, (FAS 138), "Accounting for Certain
Derivative Instruments and Certain Hedging Activities--an amendment to FASB
Statement No 133." This statement amended certain provisions of FAS 133.
Accordingly, the Company will adopt FAS 133, as amended by FAS 138, effective
the first quarter of fiscal 2001. Management believes this statement will not
have an impact on the Company's financial statements.
2. Inventories
Inventories consist of the following:
December 31,
2000 1999
------ -------
Raw materials and work-in-process............................... $3,603 $ 5,729
Finished goods.................................................. 4,497 7,745
------ -------
$8,100 $13,474
====== =======
3. Property and Equipment
Property and equipment consist of the following:
December 31,
2000 1999
------- -------
Diagnostic instruments......................................... $ 8,402 $10,471
Computers and related equipment................................ 6,995 5,215
Machinery and equipment........................................ 6,985 5,703
Land........................................................... 2,987 --
Fixed assets under capital lease............................... 2,250 --
Leasehold improvements......................................... 867 730
Furniture and fixtures......................................... 616 295
------- -------
29,102 22,414
Less accumulated depreciation and amortization................. 10,458 8,098
Projects in progress........................................... 3,685 125
------- -------
$22,329 $14,441
======= =======
F-8
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
4. Intangible Assets
Intangible assets consist of the following:
December 31,
2000 1999
------- -------
Goodwill................................................... $ 7,637 $ 8,231
Customer base.............................................. 4,100 4,100
Patents.................................................... 1,778 570
Supply contract............................................ 1,200 1,200
Developed technology....................................... 1,027 2,800
Workforce in place......................................... 100 100
------- -------
15,842 17,001
Less amortization.......................................... 3,955 2,823
------- -------
$11,887 $14,178
======= =======
5. Other Current Liabilities
Other current liabilities consist of the following:
December 31,
2000 1999
------- ------
Deferred revenue........................................... $ 4,868 $1,152
Employee compensation and benefits......................... 3,147 2,050
Contingent purchase consideration.......................... 1,377 500
Facility relocation........................................ 1,117 --
Long-term debt, current portion............................ 836 555
Product warranty........................................... 545 255
Sales tax payable.......................................... 315 193
Other accrued liabilities.................................. 938 1,895
------- ------
$13,143 $6,600
======= ======
6. Line of Credit
The Company has a $10,000 line of credit arrangement with a bank which is
subject to renewal in March 2001. Borrowings under the line are collateralized
by the Company's receivables, inventories, machinery and equipment, and
intellectual property. The line of credit contains certain financial covenants
(measured quarterly) with which the Company must comply, prohibits the payment
of dividends on the Company's stock and limits the number of treasury shares
the Company may purchase. In addition, borrowings are limited based on
outstanding accounts receivable of the Company, which as of December 31, 2000
resulted in available borrowing of $10,000, of which, $6,436 has been
committed in support of various standby letters of credit. At December 31,
2000, the Company was not in compliance with certain covenants; however,
subsequent to year-end, the Company was granted a waiver through May 31, 2001
while the line of credit is being renegotiated with the bank.
F-9
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
7. Long-term Debt
Long-term debt consists of the following:
December 31,
2000 1999
------ ------
Notes payable for European facility, various interest
rates...................................................... $2,090 $ --
Note payable to a customer, installment payments over 16
quarters beginning January 1, 2000, interest accruing at 7%
beginning January 1, 2000.................................. 1,135 1,652
Capital lease and other obligations, various terms and
interest rates............................................. 1,019 947
------ ------
4,244 2,599
Less current portion........................................ 836 555
------ ------
$3,408 $2,044
====== ======
Future payments under the above obligations are as follows at December 31,
2000:
2001................................................................ $ 836
2002................................................................ 871
2003................................................................ 631
2004................................................................ 316
2005................................................................ 170
Thereafter.......................................................... 1,420
------
$4,244
======
8. Stockholders' Equity
On February 26, 1996, the Company sold 647 shares of common stock to two
directors of the Company and a related partnership at a price of $1.62 per
share for their efforts and assistance in completing the BioTek acquisition
and assisting management with its integration of the acquired company.
Receivables of $901 due from the directors were repaid on February 26, 1998.
Warrants for the purchase of 440 shares of Common Stock were outstanding
and fully exercisable at December 31, 2000, at an exercise price of $5.82 per
share. These warrants may be exercised on a net basis and will begin to expire
in February 2001, to the extent not previously exercised.
Under the Company's 1988 Stock Option Plan ("the 1988 Plan"), up to 1,340
shares of common stock have been reserved for grant to employees and
directors. In order to be incentive stock options (ISOs), options must be
granted at not less than 100% of fair market value of the Company's stock on
the date of grant. Options generally vest over a four-year period and expire
five to ten years after the date of grant. However, the Board of Directors, at
its discretion, may decide the period over which options become exercisable
and their expiration dates.
In April 1996, the Company's Board of Directors authorized the 1996 Stock
Option Plan ("the 1996 Plan"). A total of 2,475 shares of common stock have
been reserved for issuance under the 1996 Plan. In order to be ISOs, options
must be granted at not less than 100% of the fair market value of the
Company's stock on the dates of grant. Options generally vest over four years
(grants made prior to 1998) or five years (1998 and subsequent grants) and
expire in ten years.
F-10
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
8. Stockholders' Equity (continued)
In April 1996, the Board of Directors authorized the 1996 Employee Stock
Purchase Plan ("the 1996 Purchase Plan"). A total of 400 shares of common
stock have been reserved for issuance under the 1996 Purchase Plan. A total of
201 shares of common stock have been issued under the 1996 Purchase Plan at a
prices ranging from $8.18 to $19.98 per share. The 1996 Purchase Plan permits
eligible employees to purchase common stock through payroll deductions,
subject to certain limitations. The price at which stock may be purchased
under the 1996 Purchase Plan is equal to 85% of the fair market value of the
common stock on the lower of the first day of each 24-month offering period or
the last day of each subsequent purchase period.
In June 1996, the Company adopted the 1996 Director Stock Option Plan (the
"Director Plan") and reserved a total of 250 shares of common stock for
issuance thereunder. Commencing with the Company's 1997 annual meeting of
stockholders, each nonemployee director was to be granted a nonstatutory
option to purchase an amount of shares of the Company's common stock equal to
5 shares multiplied by a fraction, the numerator of which shall be $15.00 and
the denominator of which shall be the fair market value of one share of the
Company's common stock on the dates of grant. The exercise price of options
granted under the Director Plan are equal to the fair market value of one
share of the Company's common stock on the dates of grant. A total of 60
shares were issued under the Plan at $10.125-$26.37 per share. Effective
November 1998, the Director Plan was modified such that options are granted on
a discretionary basis at fair value on the date of grant. 99 shares were
issued under this version of the Plan in 1998, bringing the total shares
issued under the prior and current version of the Director Plan to 159. Each
option granted under the Director Plan vests on a cumulative monthly basis
over a one-year period and has a 10-year term. The Director Plan will
terminate in June 2001, unless terminated earlier.
During 1997, the Company granted options to purchase a total of 300 shares
at $12.625 per share, fair market value on the date of the grant, to two
Directors of the Company for consulting services to be performed through
February 2000. All of these options have vested.
In September 1998, the Company's Directors approved the repurchase of up to
750 shares of the Company's common stock. A total of 40 shares were
repurchased under this authorization in 1998.
On March 9, 1998, the Company's Board of Directors approved the
establishment of a rights plan. Pursuant to this plan, the Board of Directors
declared a dividend distribution of one Preferred Shares Purchase Right on
each outstanding share of the Company's Common Stock for shareholders of
record on May 8, 1998. Each right entitles stockholders to buy 1/1000th of a
share of the Company's Series A Participating Preferred Stock at an exercise
price of eighty-five dollars ($85.00). The Rights become exercisable following
the tenth day after a person or group announces an acquisition of 20% or more
of the Company's Common Stock or announces commencement of a tender offer the
consummation of which would result in ownership by the person or group of 20%
or more of the Common Stock. The Company is entitled to redeem the Rights at
$0.01 per Right at any time on or before the tenth day following acquisition
by a person or group of 20% or more of the Company's Common Stock. If, prior
to redemption of the Rights, a person or group acquires 20% or more of the
Company's Common Stock, each Right not owned by a holder of 20% or more of the
Common Stock will entitle its holder to purchase, at the Right's then current
exercise price, that number of shares of Common Stock of the Company (or, in
certain circumstances as determined by the Board of Directors, cash, other
property or other securities) having a market value at that time of twice the
Right's exercise price. If, after the tenth day following acquisition by a
person or group of 20% or more of the Company's Common Stock, the Company
sells more than 50% of its assets or earning power or is acquired in a merger
or other business combination transaction, the acquiring person must assume
the obligation under the Rights and the Right will become exercisable to
acquire Common Stock of the acquiring person at the discounted price. At any
time after an event triggering exercisability of the
F-11
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
8. Stockholders' Equity (continued)
Rights at a discounted price and prior to the acquisition by the acquiring
person of 50% or more of the outstanding Common Stock, the Board of Directors
of the Company may exchange the Rights (other than those owned by the
acquiring person or its affiliates) for Common Stock of the Company at an
exchange ratio of one share of Common Stock per Right.
In January 1999, the Company's Board of Directors authorized the 1998
Nonstatutory Stock Option Plan ("the 1998 NSO Plan"). Under this plan, a total
of 1,000 shares of common stock have been reserved for issuance to employees
and consultants of the Company, but under no circumstances to officers or
directors. Options generally vest over five years and expire ten years after
the date of grant, however, the Board of Directors, at its discretion, may
decide the period over which options become exercisable and their expiration
dates.
In March 2000 the Company completed a private placement of 1,250,000 shares
of its common stock, raising $50 million in gross proceeds before deducting
commissions and expenses of the offering of $3,154. The shares were not
registered with the SEC in reliance upon the exemption from registration
contained in Section 4(2) of the Securities Act of 1933, as amended, as well
as similar exemptions contained in the securities laws, rules and regulations
of the applicable states. The shares may not be re-offered or resold in the
United States absent registration, or an applicable exemption from
registration requirements of the 1933 Act. The Company has earmarked the
proceeds for general corporate purposes, including the financing of product
and technology acquisitions, and consolidation of its Tucson-based operations
into a single site.
Pro forma information regarding net income (loss) and earnings per share is
required by SFAS No. 123, and such information has been determined as if the
Company had accounted for its employee stock options and employee stock
purchase plan under the fair value method of that statement. The fair value
for these options was estimated at the date of grant using a Black-Scholes
option pricing model with the following weighted average assumptions for 2000,
1999 and 1998: risk-free interest rate of 6.0% and dividend yield of 0% for
all years, volatility factor of the expected market price of the Company's
common stock of .835 and .507 and .619, and an expected life of the options of
5 years.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's stock options have characteristics
significantly different from those of traded options, and because changes in
the subjective input assumptions can materially affect the fair value
estimate, in management's opinion, the existing models do not necessarily
provide a reliable single measure of the fair value of its stock options.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the related vesting period. The Company's
pro forma information follows:
Year Ended December 31
------------------------
2000 1999 1998
-------- ------ -------
Pro forma net (loss) income..................... $(35,254) $9,804 $(2,010)
======== ====== =======
Pro forma net (loss) income per share:
Basic......................................... $ (2.39) $ .77 $ (.14)
Diluted....................................... $ (2.39) $ .67 $ (.14)
Pro forma compensation expense presented may not be representative of
future pro forma expense, when amortization of multiple years of awards may be
reflected.
F-12
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
8. Stockholders' Equity (continued)
A summary of the Company's stock option activity, and related information
is as follows:
Outstanding Stock Options
--------------------------
Weighted Average
Number of Exercise Price
Options Per Share
--------- ----------------
Balance at January 1, 1998........................ 1,627 $10.88
Granted......................................... 540 19.68
Exercised....................................... (121) 7.52
Canceled........................................ (126) 11.76
----- ------
Balance at December 31, 1998...................... 1,920 $13.52
Granted......................................... 1,035 18.23
Exercised....................................... (133) 10.43
Canceled........................................ (343) 12.24
----- ------
Balance at December 31, 1999...................... 2,479 $15.47
Granted......................................... 876 23.15
Exercised....................................... (377) 13.07
Canceled........................................ (475) 13.90
----- ------
Balance at December 31, 2000...................... 2,503 $18.14
===== ======
The weighted average fair values of stock options granted during 2000,
1999, and 1998, for which the exercise price was equal to the fair market
value of the stock were $19.53, $9.03, and $10.12 per share, respectively.
Stock Options at December 31, 2000
--------------------------------------------------------
Options Outstanding Options Exercisable
----------------------------------- --------------------
Weighted
Weighted Average
Average Remaining Weighted
Number of Exercise Contractual Average
Options Price Life Number Exercise
Range of Exercise Prices Outstanding Outstanding (Years) Exercisable Price
- ------------------------ ----------- ----------- ----------- ----------- --------
$ 0.60-$ 1.62........... 62 $ .96 4.5 62 $ .96
$10.00-$10.15........... 136 10.04 6.4 124 10.04
$12.25-$14.63........... 396 12.72 7.1 271 12.66
$15.00-$17.88........... 869 17.35 7.9 429 17.31
$20.13-$27.38........... 1,040 22.95 9.2 226 22.51
----- ------ --- ----- ------
2,503 $18.14 8.1 1,112 $15.51
===== ====== === ===== ======
9. Income Taxes
Income (loss) before income taxes and cumulative effect of accounting
change is comprised as follows:
Years Ended December
31,
2000 1999 1998
-------- ------ -------
Domestic......................................... $(22,137) $5,764 $ 3,261
Foreign.......................................... (2,654) 1,547 (1,631)
-------- ------ -------
$(24,791) $7,311 $ 1,630
======== ====== =======
F-13
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
9. Income Taxes (continued)
The components of the (benefit) provision for income taxes before
cumulative effect of an accounting change are as follows:
Years Ended December 31,
2000 1999 1998
-------- --------- --------
Current:
U.S. Federal........................... $ -- $ 150 $ 145
State.................................. 350 250 --
Foreign................................ -- 80 --
------- --------- -------
350 480 145
Deferred:
U.S. Federal........................... -- (5,083) (145)
State.................................. -- (897) --
Foreign................................ -- -- --
------- --------- -------
350 (5,980) (145)
------- --------- -------
$ 350 $ (5,500) $ --
======= ========= =======
A reconciliation of the U.S. Federal statutory income tax rate to the
effective tax rate follows:
% of Pre-tax Income
Years Ended December 31,
2000 1999 1998
-------- --------- --------
U.S. Federal Statutory Rate.............. (35)% 35 % 35 %
State taxes.............................. (6.5) 8 8
Domestic differences not previously
benefitted.............................. -- (8) (34)
Change in valuation allowance............ 43 (110) (9)
------- --------- -------
Effective tax rate....................... 1.5 % (75)% -- %
======= ========= =======
F-14
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
9. Income Taxes (continued)
The Company's deferred tax assets (liabilities) consist of the following:
December 31,
2000 1999
-------- -------
Non-current:
Net operating loss carry forwards....................... $ 8,264 $ 1,336
Foreign loss carry forwards............................. 3,105 1,125
Depreciation expense.................................... 1,242 1,001
General business credit carry forwards.................. 1,033 1,033
Capitalized software development costs.................. (1,015) --
In-process R&D write-off................................ 999 1,077
Capitalized research and development.................... 630 1,264
AMT credit carry forward................................ 242 --
Other................................................... 144 --
-------- -------
14,644 6,836
Current:
Deferred revenue........................................ 1,889 456
Allowance for bad debts................................. 1,124 292
Facility shutdown accruals.............................. 447 --
AMT credit carry forward................................ -- 237
Miscellaneous........................................... 1,357 707
-------- -------
4,817 1,692
Total deferred tax assets................................. 19,461 8,528
Valuation reserve......................................... (10,659) (2,403)
-------- -------
Net deferred tax assets............................... $ 8,802 $ 6,125
======== =======
During the fourth quarter of 1999, the Company reevaluated the estimated
amount of valuation allowance required in light of the profitability achieved
in 1998 and 1999 as well as the expected profits in 2000 to reduce the
valuation allowance on deferred tax assets in accordance with SFAS No. 109,
Accounting for Income Taxes ("SFAS No. 109") to an amount the Company believes
is more likely than not of being recovered. Accordingly, a credit to income
tax benefit of $5,980 was reflected in the fourth quarter of 1999's
consolidated statement of operations and the corresponding deferred tax asset
was recorded on the Company's consolidated balance sheet. The amount of net
deferred tax assets estimated to be recoverable was based upon the Company's
assessment of the likelihood of near term operating income, coupled with
uncertainties with respect to the impact of future competitive and market
conditions.
The valuation allowance decreased by $1,007 in 1998 and $8,006 in 1999. The
1999 decrease relates to the assessment described in the previous paragraph.
The 1998 deferred tax benefit of $145 exactly offset the 1998 current expense
of $145, and thus no 1998 tax provision is reflected in the accompanying
consolidated statement of operations.
No additional valuation allowance was considered necessary for the deferred
tax assets of $8,802 that are reflected on the consolidated balance sheets at
December 31, 2000 as management believes that such assets will be recovered in
the next several years. The deferred tax assets reflected on the consolidated
balance sheets increased during 2000 by $2,677 which was directly attributable
to the cumulative effect of the accounting change relating to the new revenue
recognition policy adopted January 1, 2000, and the income tax benefit
relating to stock option exercises by employees in the first quarter of 2000
reflected in the Company's equity
F-15
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
9. Income Taxes (continued)
accounts. The Company did not recognize any additional deferred tax assets
that arose in 2000 relative to the increases in the net operating loss carry
forwards as it cannot be readily determined with certainty to what extent such
assets will be recoverable in the future. As a result, the Company's valuation
allowance increased by $8,256 during 2000. The Company does not anticipate
recording any income tax benefit or expense of any material amount in 2001
unless a change, positively or negatively, in the valuation allowance for the
deferred tax assets is warranted based upon the trends in the Company's future
earnings.
Temporary differences between the net operating losses for financial
reporting and income tax purposes primarily relate to the deferral of research
and development expenses for tax purposes.
At December 31, 2000, the Company has net operating loss carry forwards for
federal and state income tax purposes of approximately $21,103 and $18,152,
respectively. These federal and state carry forwards will begin to expire in
2007 and 2005, respectively, if not previously utilized. Approximately $1,400
of state net operating loss carry forwards expired unused in 2000. The Company
also has research and development tax credit carry forwards of approximately
$1,033 which will begin to expire in 2005, if not previously utilized.
Utilization of the Company's net operating loss carry forwards will be subject
to limitations due to the "change in ownership" provisions of the Internal
Revenue Code of 1996, as amended, as a result of the Company's prior issuances
of equity securities. These carry forwards, therefore, may expire prior to
being fully utilized. Future financings may cause additional changes in
ownership and further limitations on the use of federal net operating loss
carry forwards. In addition, the Company has certain foreign net operating
loss carry forwards approximating $6,900 which begin to expire in 2001.
10. Commitments and Contingencies
The Company conducts its corporate operations from leased facilities. In
addition to monthly rental payments, the Company is responsible for certain
monthly operating and maintenance expenses of such facilities. The lease
expires in 2001. The future minimum rental payments under this and other
operating lease arrangements at December 31, 2000 are as follows:
2001................................................................ $1,119
2002................................................................ 800
2003................................................................ 566
2004................................................................ 345
2005................................................................ 190
------
$3,020
======
Rent expense totaled $1,653, $1,259 and $548 for the years ended December
31, 2000, 1999 and 1998, respectively.
In 2000, the Company entered into purchase commitments totaling $15,328 for
the construction of a new corporate headquarters and manufacturing facility in
suburban Tucson, Arizona.
DAKO, a European distributor and customer, initiated binding arbitration
with the Company in 1997 regarding the pricing of the Company's TechMate 250
product. The dispute was settled in 1998 with the Company agreeing to pay DAKO
a total of $1,651 beginning January 2000 (see Note 7).
The Company filed legal actions against CytoLogix Corp. in 1999 and 2000
alleging patent infringement. Management believes the Company will prevail on
its claims, however, there can be no assurance of the final
F-16
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
10. Commitments and Contingencies (continued)
resolution. CytoLogix Corp. has filed three separate legal actions against the
Company in various courts. One complaint claims that Ventana misappropriated
CytoLogix's trade secrets and seeks assignment of a specific Company patent,
treble damages (unspecified) and an injunction against further sales of the
Company's Discovery and BenchMark instruments. In another action in Germany,
CytoLogix seeks to invalidate a specific German patent that the Company owns.
Lastly, CytoLogix claims that the Company infringed on two of CytoLogix's
patents and seeks assignment of the Company's patent applications, treble
damages (unspecified) and an injunction against further sales of the Company's
Discovery and BenchMark instruments. Management believes that the Company has
meritorious defenses to these claims and that resolution of these matters will
not have a material impact on the Company's financial statements.
The Company is also involved in various other actions arising in the normal
course of business. Management, in conjunction with outside counsel,
periodically reviews such matters and makes any accruals deemed necessary.
Management is of the opinion that the disposition of all claims outstanding
will not have a material effect on the Company's financial position, cash
flows or results of operations.
11. Operating Segment and Enterprise Data
The Company has two reportable segments: North America (primarily the
United States) and International (primarily France, Germany, Japan and
Australia). These operating segments are the segments of the Company for which
separate financial information is available and for which operating
profit/loss amounts are regularly evaluated by the Company's Chief Operating
Decision Maker (its Board of Directors) in deciding how to allocate resources
and in assessing performance.
F-17
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
11. Operating Segment and Enterprise Data (continued)
The Company's Chief Operating Decision Maker evaluates performance and
allocates resources based on profit or loss from operations. The accounting
policies of the reportable segments are the same as those described in the
summary of significant accounting policies. Inventory transfers to foreign
subsidiaries are made at standard cost. The North America operations include
corporate activity (including all interest income) that benefits the Company
as a whole. The following summary includes net sales only to unaffiliated
customers. Net sales are attributed to segments based on the location from
which the shipment to the customer was made; reagents and instruments are sold
in each segment.
Year ended December 31, 2000
-------------------------------------------------
North America International Eliminations Totals
------------- ------------- ------------ --------
Sales to external
customers................. $ 53,520 $17,629 $ -- $ 71,149
Nonrecurring expenses...... 4,519 -- -- 4,519
Depreciation and
amortization expense...... 4,490 1,007 -- 5,497
Segment profit (loss)...... (24,393) (2,902) -- (27,295)
Segment assets............. 106,742 18,278 (15,438) 109,582
Expenditures for long-lived
assets.................... 15,247 3,611 -- 18,858
Year ended December 31, 1999
-------------------------------------------------
North America International Eliminations Totals
------------- ------------- ------------ --------
Sales to external
customers................. $ 53,692 $15,717 $ -- $ 69,409
Depreciation and
amortization expense...... 3,307 382 -- 3,689
Segment profit (loss)...... 11,098 1,467 246 12,811
Segment assets............. 80,191 15,324 (22,354) 73,161
Expenditures for long-lived
assets.................... 5,439 1,840 -- 7,279
Year ended December 31, 1998
-------------------------------------------------
North America International Eliminations Totals
------------- ------------- ------------ --------
Sales to external
customers................. $ 41,469 $ 6,235 $ -- $ 47,704
Nonrecurring expenses...... 3,160 -- -- 3,160
Depreciation and
amortization expense...... 2,565 285 -- 2,850
Segment profit (loss)...... 3,147 (1,631) 114 1,630
Segment assets............. 74,724 8,257 (26,701) 56,280
Expenditures for long-lived
assets.................... 12,154 404 -- 12,558
12. Acquisitions
Bio Technology Tools, Inc.
The Company acquired Bio Technology Tools, Inc. (BTTI) on October 14, 1998
for $6,457. The acquisition has been accounted for as a purchase, which
resulted in $6,196 allocated to goodwill. The results of operations of BTTI
are included in the accompanying consolidated financial statements from the
date of acquisition. BTTI manufactures and markets a wide range of microtome
products, tissue processors, cryogenic hardware and peripheral equipment,
primarily for research and educational institutions in the United States,
Europe and Japan. Goodwill recorded in the connection with this transaction is
being amortized on a straight-line basis over a 15-year period (see Note 13).
Acquisition of Certain Technology from Oncor, Inc.
The Company acquired certain oncology diagnostic technology and assets from
Oncor, Inc. on November 23, 1998 for $5,000 in cash. The Company plans to
incorporate certain aspects of the acquired
F-18
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
12. Acquisitions (continued)
technology in future products. The Company charged to expense at the date of
the acquisition $2,900 relating to the portion of the purchase price allocated
to those in-process research and development projects where technological
feasibility had not yet been established and where there are no alternative
future uses. This amount is included as non-recurring expense in the
accompanying consolidated statements of operations.
The purchase price for the technology was allocated as follows:
Tangible net assets................................................ $ 521
In-process research and development expense........................ 2,900
Goodwill........................................................... 279
Supply agreement................................................... 1,200
Workforce in place................................................. 100
------
$5,000
======
The Company is amortizing goodwill on a straight-line basis over 15 years.
The value assigned to an existing supply agreement assumed by the Company is
being amortized on a straight-line basis over the life of the patent
underlying the key technology involved in the supply agreement. The workforce
in place costs are being amortized on a straight-line basis over 5 years.
Quantitative Diagnostic Laboratories, Inc.
The Company acquired Quantitative Diagnostic Laboratories, Inc. (QDL) on
April 1, 2000 for $2,500. QDL is a specialty reference lab that provides
quantitative immunohistochemistry (IHC) services to pathologists and is also
involved in cancer research. The acquisition has been accounted for as a
purchase, which resulted in $2,152 allocated to goodwill. The results of this
acquisition is included in the accompanying consolidated financial statements
from the date of acquisition. Goodwill recorded in connection with this
transaction is being amortized on a straight-line basis over a 5-year period.
13. Charges and Non-Recurring Expenses
Fiscal 2000 results were negatively impacted by $22,524 in write-offs and
accruals relating to several different issues. The following table summarizes
details of the charges and non-recurring expenses:
Costs
incurred Reserve
through Revision Balances as of
Initial December 31, to December 31,
Charges 2000 Estimates 2000
------- ------------ --------- --------------
Reagent dispenser quality
issue.......................... $ 5,355 $ 3,117 $ 272 $2,510
Exit of electron microscopy
product line................... 4,581 4,060 (521) --
Impairment of inventory,
diagnostic instruments and
intangibles.................... 8,615 7,798 493 1,310
Cost to close Gaithersburg,
Maryland facility.............. 2,611 1,200 (294) 1,117
Other charges, including
contracted R&D................. 1,362 1,362 -- --
------- ------- ----- ------
Total charges and non-
recurring expenses........... $22,524 $17,537 $ (50) $4,937
======= ======= ===== ======
Charges of $5,355 were related to quality problems with the Company's
dispensers and reagents used with the majority of its staining instruments. As
a result, charges were taken to write-off inventory and set up reserves to
cover product replacements, returns, and warranty matters.
F-19
VENTANA MEDICAL SYSTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
13. Charges and Non-Recurring Expenses (continued)
A charge of $4,581 was recorded to account for the Company's decision to
exit its electron microscopy (EM) product line. Charges were taken to write-
down all EM inventory and field instruments to their net realizable value. In
addition, goodwill recognized in the BTTI acquisition was written down $1,445
to reflect the impact of certain product discontinuance.
Charges of $8,615 were recorded in recognition of the decreased value of
certain instrument inventory, fixed assets and intangible assets given the
launch of the Company's new BenchMark advanced staining system in 2000. In
addition, intangible assets associated with the Company's 1996 acquisition of
BioTek Solutions, Inc. were written down $3,074 to reflect the impact of
discontinuing certain products. The Techmate IHC staining system product line
acquired in the BioTek transaction was among those whose value was impacted by
the launch of BenchMark.
The Company also recognized charges of $2,611 relating to closure of its
production facility in Gaithersburg, Maryland. The Gaithersburg facility was
acquired in late 1998 with the acquisition of all the oncology assets of
Oncor, Inc.
Other charges recognized in 2000 totaled $1,362 which included expenses
related to contracted research and development being handled by an outside
company.
14. Earnings (loss) Per Share
The following tables sets forth the components of the computation of 2000,
1999 and 1998 basic and diluted earnings (loss) per share:
2000 1999 1998
-------- ------- ------
Numerator:
Net (loss) income................................ $(27,295) $12,811 $1,630
======== ======= ======
Denominator:
Basic:
Weighted average shares........................ 14,770 13,478 13,320
Effect of dilutive securities:
Employee stock options......................... -- 656 776
Warrants....................................... -- 502 531
-------- ------- ------
14,770 14,636 14,627
======== ======= ======
Loss per share in 2000 is computed using the weighted average number of
shares of common stock outstanding; common equivalent shares from stock
options and warrants are excluded from the computation in 2000 as their effect
is antidilutive.
F-20