companyresponse1208.htm
December
17, 2008
Via
EDGAR and Facsimile
Securities
and Exchange Commission
Division
of Corporation Finance
100 F
Street, NE
Mail Stop
3030
Washington,
D.C. 20549
Attn: Brian
R. Cascio, Accounting Branch Chief
RE: Cytori Therapeutics,
Inc.
Form 10-K for the Fiscal Year Ended
December 31, 2007 Filed March 14, 2008
Form 10-Qs for the Quarterly Periods
Ended March 31, June 30, and September 30, 2008
File No. 000-32501
Dear Mr.
Cascio:
This
letter responds to the comments contained in your letter to Cytori Therapeutics,
Inc. (the “Company”) dated November 26, 2008. For ease of reference,
we have set forth below each of your comments in bold/italic
font and our response thereto immediately after each comment.
Form 10-K for the Fiscal
Year Ended December 31, 2007
Item 1. Financial
Statements
Note
4. Transactions with Olympus Corporation – Condensed Financial
Information for the Joint Venture, page 68
We
see that you have a 50% interest in the Olympus-Cytori joint
venture. Please tell us and revise future filings to disclose the
components of equity loss from investment in joint venture. Tell us
why the equity loss is not equal to 50% of the net loss of the joint
venture.
Company
response:
Our
equity loss from investment in joint venture in 2005 consisted of Cytori’s 50%
share of non-eliminated research and development costs, which were expensed in
accordance with SFAS 2. In 2006 and 2007, our equity loss from
investment in joint venture consisted primarily of Cytori’s 50% share of
non-eliminated quality system services and corporate charges for services such
as external auditing and insurance.
Our
equity loss from investment in joint venture is not equal to 50% of the net loss
of the joint venture due to the elimination of intercompany transactions, in
accordance with APB 18. Paragraph 4 of APB 18 states that
intercompany items are eliminated to avoid double counting and prematurely
recognizing income. Paragraph 19 of APB 18 states that in applying
the equity method, intercompany profits or losses should be eliminated as if the
joint venture were consolidated. Also, a transaction of an investee
of a capital nature that affects the investor’s share of stockholders’ equity of
the investee should be accounted for as if the investee were a consolidated
subsidiary.
In our
future Form 10-K filings we will expand the financial information for the joint
venture by presenting a more detailed version of the Statements of Operation
that also includes reconciliation from the net loss of the joint venture to
Cytori’s equity loss from investment in joint venture, as follows:
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Period
from January 1, 2007 to December 31, 2007
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Period
from January 1, 2006 to December 31, 2006
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Period
from November 4, 2005 (inception) to December 31, 2005
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Statements
of Operation
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(Unaudited)
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(Unaudited)
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(Unaudited)
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Operating
expenses:
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Research
and development expense
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$ |
- |
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$ |
11,000,000 |
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$ |
19,343,000 |
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General
and administrative expense:
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Accounting
and other corporate services
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40,000 |
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172,000 |
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- |
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Quality
system services
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36,000 |
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- |
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- |
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Other
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10,000 |
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2,000 |
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- |
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Operating
loss
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86,000 |
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11,174,000 |
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19,343,000 |
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Other
(income) expense:
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Interest
income
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(7,000 |
) |
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- |
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- |
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Net
loss
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$ |
79,000 |
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$ |
11,174,000 |
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$ |
19,343,000 |
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Reconciliation
to equity loss from investment in joint venture
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Net
loss
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$ |
79,000 |
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$ |
11,174,000 |
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$ |
19,343,000 |
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Intercompany
eliminations
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(65,000 |
) |
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(11,026,000 |
) |
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(11,000,000 |
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Net
loss after intercompany eliminations
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14,000 |
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148,000 |
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8,343,000 |
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Cytori’s
percentage of interest in joint venture
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50 |
% |
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50 |
% |
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50 |
% |
Cytori’s
equity loss from investment in joint venture
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$ |
7,000 |
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$ |
74,000 |
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$ |
4,172,000 |
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As
a related matter, please tell us how you considered whether the joint venture is
a significant unconsolidated subsidiary for which you should file separate
financial statements under Rule 3-09 of Regulation S-X.
Company
response:
Rule 3-09
of Regulation S-X, Separate
financial statements of subsidiaries not consolidated and 50 percent or less
owned persons, requires that if a registrant or a subsidiary of a
registrant holds a 50% or less interest in a subsidiary that is accounted for
using the equity method, and if either the first or third condition specified in
Rule 1-02, section 210.1-02(w) are met (substituting 20% for 10%), then the
registrant shall file separate financial statements.
The two
applicable conditions from Rule 1-02, section 210.1-02(w) are summarized, after
substituting 20% for 10%, as follows:
1) The
registrant’s and its other subsidiaries’ investments in and advances to the
subsidiary exceed 20% of the total assets of the registrant and its subsidiaries
consolidated as of the end of the most recently completed fiscal
year.
2) The
registrant’s and its other subsidiaries’ equity in the income from continuing
operations before income taxes, extraordinary items and cumulative effect of a
change in accounting principle of the subsidiary exceeds 20% of such income of
the registrant and its subsidiaries consolidated for the most recently completed
fiscal year.
With
respect to the first condition above, Cytori’s total assets were $21,507,000,
$24,868,000, and $28,166,000 as of December 31, 2007, 2006, and 2005,
respectively. Cytori’s investment in the joint venture as of December
31, 2007, 2006, and 2005 was $369,000, $76,000, and $0, respectively (note that
our share of the joint venture’s incurred losses reduced our investment balance
in the joint venture to zero as of December 31, 2005, and we advanced an
additional $150,000 to the joint venture in early 2006). Investments
in (or advances to) the joint venture represented 1.7%, 0.3%, and 0.0% of total
assets at December 31, 2007, 2006, and 2005, respectively. As such,
this condition is not met.
With
respect to the second condition above, Cytori’s losses from continuing
operations for the fiscal years ended December 31, 2007, 2006, and 2005 were
$28,672,000, $25,447,000, and $26,538,000, respectively. Cytori’s
equity losses from investment in the joint venture during the same periods were
$7,000, $74,000, and $4,172,000. These equity losses represented
0.0%, 0.3%, and 15.7% of Cytori’s losses from continuing operations for the
fiscal years ended December 31, 2007, 2006, and 2005,
respectively. As such, this condition is not met.
Because
the 20% threshold in either condition was not met in any periods reported, we
concluded that separate financial statements for the joint venture were not
required in accordance with Rule 3-09 of Regulation S-X.
Note 5. Gain on
Sale of Assets, page 68
We
see that in May 2007 you sold your intellectual property rights and tangible
assets related to the spine and orthopedic bioresorbable implant product
line. Please tell us how you considered whether you should record the
disposition as discontinued operations, in accordance with SFAS
144. Please reference paragraphs 41-43 of the SFAS.
Company
response:
Paragraph
42 of SFAS 144 states that, “the results of operations of a component of an
entity that either has been disposed of or is classified as held for sale shall
be reported in discontinued operations in accordance with paragraph 43 if both
of the following conditions are met: (a) the operations and cash flows of the
component have been (or will be) eliminated from the ongoing operations of the
entity as a result of the disposal transaction and (b) the entity will not have
any significant continuing involvement in the operations of the component after
the disposal transaction.”
Paragraph
41 of SFAS 144 states that a component of an entity comprises operations and
cash flows that can be clearly distinguished, operationally and for financial
reporting purposes, from the rest of the entity. Although we were
able to distinguish the revenues from the four individual product lines of our
MacroPore Biosurgery segment (Craniomaxillofacial – sold in 2002, Thin Film
except for Japan interests – sold in 2004, Spine and Orthopedic – sold in 2007,
and the Japanese Thin Film rights), the largest component of cost of sales and
operating expense, salaries and wages, was not tracked by specific product, as
the labor skill sets used in the manufacturing processes were similar and to
some degree interchangeable between the product lines, including aspects of
milling, molding, labeling, sterilization, packaging and inspection. Further,
our bioresorbable products were made from the same copolymer material, and due
to the commonality of the materials and processes, it was not possible to
clearly distinguish cash outflows between the product lines. As such, we
considered the entire segment to be the lowest level component that could be
clearly distinguished, operationally and for financial reporting purposes, from
the rest of the entity.
Our
remaining Thin Film interests in Japan are a small portion of current or prior
operations, as they represent our rights with respect to future manufacturing
and sales. However, our Thin Film activities may become material in the
near future; see EITF 03-13 discussion below.
SFAS 144 paragraph 42,
criteria (a): The operations and cash flows of the component have been (or will
be) eliminated
According
to EITF 03-13, if after sale, we are still receiving or expecting to receive
cash flows related to the operations of the disposed component and they are
direct cash flows, we should not classify this component as a discontinued
operation. Such activities or cash flows are considered to be direct
cash flows if (a) significant cash outflows are expected to be recognized by the
ongoing entity as a result of a migration of costs from the disposed component
after the disposal transaction; or (b) significant cash outflows are expected to
be recognized by the ongoing entity as a result of the continuation of
activities between the ongoing entity and the disposed component after the
disposal transaction.
EITF
03-13 states that migration means “the ongoing entity expects to continue to
generate revenues and (or) incur expenses from the sale of similar products or
services to specific customers of the disposed component.” Also, the
term ‘continuation of activities’ means the continuation of any
revenue-producing or cost-generating activity through active involvement with
the disposed component.
We do
expect to sell Thin Film products through our Japan distribution partner,
Senko. Although the products will be sold in Japan rather than the
U.S., there is a similar core technology shared with the business line we sold
in May.
Our
balance sheet currently has two deferred amounts that relate to the Japan Thin
Film. The first is a $1.5M license fee that was paid to us in 2004 by
Senko in exchange for the right to sell and distribute certain Thin Film
products in Japan. We also received a $1.25M milestone
payment. The details of when and how much revenue we can recognize
from these deferred balances is disclosed in our quarterly and annual
reports. We believe that regulatory approval from Japan for the Thin
Film products will be granted in the near future, and this approval will trigger
revenue recognition for a portion of these deferred amounts. Further,
we currently have a standing order to produce roughly $1.2M in product for Senko
upon receiving the regulatory approval as well as another probable order after
the first one is filled. All of these factors indicate we may be able
to generate significant revenue and production activity related to this product
line in the future.
SFAS 144 paragraph 42,
criteria (b): The entity will not have any significant continuing involvement
after disposal
According
to EITF 03-13, continuing involvement in the operations of the disposed
component provides the ongoing entity with the ability to influence the
operating and (or) financial policies of the disposed component. The
following factors should be considered in evaluating whether continuing
involvement constitutes significant continuing involvement:
(a)
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The
ongoing entity retains an interest in the disposed component sufficient to
enable the ongoing entity to exert significant influence over the disposed
component’s operating and financial policies.
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(b)
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The
ongoing entity and the buyer (or the disposed component) are parties to a
contract or otherwise parties to an arrangement that in substance enables
the ongoing entity to exert significant influence over the disposed
component’s operating and financial
policies.
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We will
continue to have an interest in the bioresorbable arena (a percentage of future
Thin Film sales, production activity, and revenue recognition elements from our
balance sheet), and while we will not have the ability to exert any influence
over the operations of the spine and orthopedic product line sold, we will have
influence over, and therefore continuing involvement with, the Japan
distribution agreement with Senko. We are expecting potentially
significant cash inflows as a result of the agreement with Senko, as noted
above.
In
conclusion, the MacroPore Biosurgery reporting segment in total represents the
lowest level component that could be presented as a discontinued operation, as
defined in paragraph 41 of SFAS 144. However, this component does not
meet the discontinued operations criteria as described in paragraph 42, because
we expect to have continuing involvement and on-going cash flows related to a
portion of this component. Because neither condition from paragraph
42 are met, we determined the sale of our spine and orthopedic product line
should not be shown as a discontinued operation in accordance with paragraph 43
of SFAS 144.
Exhibits 31.1 and
31.2
We
note that you omitted the language in paragraph 4 of Item 601(b)(31)(i) of
Regulation S-K that refers to internal control over financial
reporting. Please file an abbreviated amendment to the Form 10-K that
includes a cover page, explanatory note, signature page and paragraphs 1, 2, 4
and 5 of the certification. Please note that you should also comply
with any applicable futures comments in the abbreviated amendment.
Company
response:
On
December 17, 2008, we filed Amendment No. 1 to our annual report on Form 10-K
for the year ended December 31, 2007. In accordance with your request and
#246.13 of the Staff's Compliance & Disclosure Interpretations of Regulation
S-K (last updated July 3, 2008), Amendment No. 1 contains only the cover page,
an explanatory note, a signature page and revised certifications of our
principal executive and principal financial officers as Exhibits 31.1 and
31.2. Those certifications contain paragraphs 1, 2, 4 and 5 of the
certification required by Item 601(b)(31)(i) of Regulation S-K and include
the language from the introductory portion and subparagraph (b) of paragraph 4
of Item 601(b)(31)(i) of Regulation S-K that refer to internal control over
financial reporting. In addition, those certifications do not include the
titles of the certifying individuals at the beginning of the certifications
and do include the phrase "(the registrant's fourth fiscal quarter in the case
of an annual report)" in paragraph 4(d).
We
note that the identification of the certifying individual at the beginning of
the certification required by Exchange Act Rule 13a-14(a) also includes the
title of the certifying individual. We note that you deleted the
phrase ‘(the registrant’s fourth fiscal quarter in the case of an annual
report)’ in paragraph 4(c) of the certification. In future filings,
the identification of the certifying individual at the beginning of the
certification should be revised so as not to include the individual’s title and
the wording should be consistent with Item 601 (b)(31)(i) of Regulation
S-K.
Company
response:
We
acknowledge your comments and in future filings the certifications required
by Exchange Act Rule 13a-14(a) will not include the title of the certifying
individual at the beginning of the certification and such certifications will
have wording consistent with Item 601(b)(31)(i) of Regulation S-K. Please
see our response to comment 4 above regarding the certifications filed with
Amendment No. 1 to our Form 10-K for the year ended December 31, 2007 and our
response to comment 7 below regarding the certifications filed with Amendment
No. 1 to each of our Form 10-Qs for the quarterly periods ended March 31,
June 30, and September 30, 2008.
Form 10-Qs for the Quarterly
Periods Ended March 31, June 30, and September 30, 2008
Note 6. Revenue
Recognition, page 9
Please
tell us and revise future filings to disclose the nature of the multiple
elements that are included in the product sales of your Celution 800/CRS System
and how you apply EITF 00-21 to these arrangements. Please also
discuss how you determine fair value of each element and the timing of revenue
recognition for each element.
Company
response:
Our
Celution® 800/CRS
Systems consist of standalone products (a medical device and various consumable
supplies) that do not contain multiple elements of future deliverables, and
therefore are not within the scope of EITF 00-21. These systems are
recognized upon shipment or delivery, depending on the agreement
terms.
We
delivered and installed our first StemSource® Cell
Bank in the 3rd quarter
of 2008. A cell bank, which includes similar medical device(s) and
supplies as described above for the 800/CRS Systems, also includes other
peripheral equipment delivered at time of installation as well as license and
territory exclusivity rights. Our agreement with the customer also
includes future service deliverables related to the maintenance and support of
the bank. Because our cell bank sales involve multiple
revenue-generating activities, the “units of accounting” within such an
arrangement must be determined prior to the application of SAB 104 criteria,
using EITF 00-21. We identified the following elements:
1.
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Equipment,
supplies, and instructional
materials
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2.
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Installation
and setup services
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3.
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Initial
training services
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4.
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Equipment
maintenance, technical support and database hosting
services
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We then
analyzed these elements as follows:
Deliverables 1-3 (completed
/ provided prior to our point of initial revenue
recognition)
The cell
bank sold in Q3 was determined to be fully functioning and operational from the
customer’s perspective once all equipment had been delivered, installation and
setup had been completed, and initial training was performed.
Once
delivery, installation, and training has been completed, all Cytori deliverables
have been fulfilled with the exception of the hosting services for the web-based
data management application, technical and administrative support, and
maintenance services for the equipment. Completion of deliverables 1
through 3 results in a stand-alone package that has value to the customer and
could be sold separately, and therefore we believe it is appropriate to
recognize revenue for these delivered items at that time, provided we can also
demonstrate that there is objective and reliable evidence of fair value for the
undelivered elements of the transaction (see below). There is no
general right of return associated with sales of cell banks.
Deliverable 4 – Equipment
maintenance, technical support and database hosting services
Included
in the sales arrangement for the StemSource® Cell
Bank are equipment maintenance, technical support and database hosting
services. Cytori will provide access to a secure web-based data
management system for the first year. This simple database
application will reside on Cytori servers and be accessible to bank customers.
We will also provide maintenance and technical support services for the first
year, with an annual renewal option of $36,000 per year to extend these services
(maintenance, technical support, and database hosting) for up to four
consecutive years. As they will be delivered over time, we determined a fair
value for these undelivered services using the fair value guidance in EITF
00-21.
Determination of fair value
and timing of revenue recognition for undelivered elements
We
applied guidance from EITF 00-21 to develop our estimates of fair
value. Paragraph 16 of EITF 00-21 indicates that the best evidence of
fair value is the price of a deliverable when it is regularly sold on a
standalone basis, constituting vendor-specific objective evidence of fair
value. Although we have not sold these services (i.e. maintenance,
technical support and database hosting) on a stand alone basis, we have offered
our customers the option to purchase these services at comparable prices in
similar geographic regions. And as such, we developed our fair value estimates
for undelivered elements based primarily on the annual renewal rate stated in
the agreement of $36,000. We have also gathered third party evidence
for performance of these services which provided us with additional comfort that
our fair value estimate for future services was reasonable. We
initially recorded deferred revenue of $67,000, and passed on adjusting this
amount down to $36,000 due to immateriality. We will earn this amount
as revenue during the next year.
In
conclusion, we determined that elements 1-3 above constitute a separate unit of
accounting, as 1) they represent stand-alone value to the customer and could be
sold separately, 2) there is objective and reliable evidence of fair value for
the undelivered elements of the transaction, and 3) there is no general right of
return associated with the sale. We recognized the value for these
deliverables in the third quarter of 2008 using the residual value method
prescribed in EITF 00-21. The fair value of future service
deliverables associated with this agreement was deferred and will be recognized
during the first year of the contract.
In our
future filings, we will expand our discussion of product revenue as
follows:
Beginning
in March 2008, we began sales and shipments of our Celution® 800/CRS
System to the European and Asia-Pacific reconstructive surgery
market. Assuming all other applicable revenue recognition criteria
have been met, revenue for these product sales will be recognized upon delivery
to the customer, as all risks and rewards of ownership have been substantively
transferred to the customer at that point. For Celution® 800/CRS
System sales to customers who arrange for and manage the shipping process, we
recognize revenue upon shipment from our facilities.
In
September 2008 we completed installation of our first StemSource® Cell
Bank. This product includes a combination of equipment and service
deliverables, some of which will be provided to the customer over
time. We defer an estimate of the fair value of those future
deliverables from product revenue until such deliverables have been provided, or
earned, in accordance with EITF Issue No. 00-21, “Revenue Arrangements with
Multiple Deliverables” (“EITF 00-21”). Future deliverable elements of
a cell bank sale may include a database management web hosting service, routine
maintenance, and technical support services. Fair values for
undelivered elements are determined based on vendor-specific objective
evidence. Deferred product revenue will be recognized over time based
on the terms of the contract.
Exhibits 31.1 and
31.2
We
note that you omitted the language in paragraph 4 of Item 601(b)(31)(i) of
Regulation S-K that refers to internal control over financial
reporting. Please file an abbreviated amendment to each Form 10-Q
that includes a cover page, explanatory note, signature page and paragraphs 1,
2, 4 and 5 of the certification. Please note that you should also
comply with any applicable futures comments in the abbreviated
amendment.
Company
response:
On
December 17, 2008, we filed Amendment No. 1s to each of our quarterly
reports on Form 10-Q for the quarterly periods ended March 31, June 30, and
September 30, 2008. In accordance with your request, each Amendment
No. 1 contains only the cover page, an explanatory note, a signature page and
revised certifications of our principal executive and principal financial
officers as Exhibits 31.1 and 31.2. Those certifications contain
paragraphs 1, 2, 4 and 5 of the certification required by
Item 601(b)(31)(i) of Regulation S-K and include the language from the
introductory portion and subparagraph (b) of paragraph 4 of
Item 601(b)(31)(i) of Regulation S-K that refer to internal control over
financial reporting. In addition, those certifications do not include the
titles of the certifying individuals at the beginning of the certifications
and do include the phrase "(the registrant's fourth fiscal quarter in the case
of an annual report)" in paragraph 4(d).
Additionally,
as requested by your letter, the Company hereby acknowledges that:
·
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the
Company is responsible for the adequacy and accuracy of the disclosure in
the filing;
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·
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staff
comments or changes to disclosure in response to staff comments do not
foreclose the Commission from taking any action with respect to the
filing; and
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·
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the
Company may not assert staff comments as a defense in any proceeding
initiated by the Commission or any person under the federal securities
laws of the United States.
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If you
have any further questions or wish to discuss any of the responses we have
provided above, please do not hesitate to call the undersigned at (858)
458-0900.
Sincerely,
/s/
Christopher J. Calhoun
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Christopher
J. Calhoun
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Chief
Executive Officer
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/s/
Mark E. Saad
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Mark
E. Saad
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Chief
Financial Officer
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