UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
FORM
10-Q
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(Mark
One)
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ý
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QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
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For
the quarterly period ended March 31, 2008
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OR
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o
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TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
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For
the transition period
from to
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Commission
file number 0-32501
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CYTORI
THERAPEUTICS, INC.
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(Exact
name of Registrant as Specified in Its
Charter)
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DELAWARE
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33-0827593
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(State
or Other Jurisdiction
of
Incorporation or Organization)
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(I.R.S.
Employer
Identification
No.)
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3020
CALLAN ROAD, SAN DIEGO, CALIFORNIA
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92121
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(Address
of principal executive offices)
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(Zip
Code)
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Registrant’s
telephone number, including area code: (858)
458-0900
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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 (“the Exchange Act”) 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
ý No o
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company. See definition of “large accelerated filer,” “accelerated
filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (Check
one).
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Large
Accelerated Filer o
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Accelerated
Filer ý
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Non-Accelerated
Filer o
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Smaller
reporting company o
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(Do
not check if a smaller reporting company)
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Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
Yes o No ý
As of
April 30, 2008, there were 26,103,898 shares of the registrant’s common stock
outstanding.
1
CYTORI
THERAPEUTICS, INC.
INDEX
2
CYTORI THERAPEUTICS, INC.
CONSOLIDATED
CONDENSED BALANCE SHEETS
(UNAUDITED)
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As
of
March
31, 2008
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As
of
December
31, 2007
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|||||||
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Assets
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||||||||
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Current
assets:
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||||||||
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Cash
and cash equivalents
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$ | 8,010,000 | $ | 11,465,000 | ||||
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Accounts
receivable, net of allowance for doubtful accounts of $8,000 and $1,000 in
2008 and 2007, respectively
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146,000 | 9,000 | ||||||
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Inventories,
net
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360,000 | — | ||||||
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Other
current assets
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782,000 | 764,000 | ||||||
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Total
current assets
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9,298,000 | 12,238,000 | ||||||
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Property
and equipment, net
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3,270,000 | 3,432,000 | ||||||
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Investment
in joint venture
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360,000 | 369,000 | ||||||
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Other
assets
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507,000 | 468,000 | ||||||
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Intangibles,
net
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1,023,000 | 1,078,000 | ||||||
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Goodwill
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3,922,000 | 3,922,000 | ||||||
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Total
assets
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$ | 18,380,000 | $ | 21,507,000 | ||||
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Liabilities
and Stockholders’ Deficit
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||||||||
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Current
liabilities:
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||||||||
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Accounts
payable and accrued expenses
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$ | 6,707,000 | $ | 7,349,000 | ||||
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Current
portion of long-term obligations
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601,000 | 721,000 | ||||||
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Total
current liabilities
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7,308,000 | 8,070,000 | ||||||
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Deferred
revenues, related party
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17,974,000 | 18,748,000 | ||||||
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Deferred
revenues
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2,379,000 | 2,379,000 | ||||||
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Option
liability
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1,200,000 | 1,000,000 | ||||||
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Long-term
deferred rent
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399,000 | 473,000 | ||||||
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Long-term
obligations, less current portion
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184,000 | 237,000 | ||||||
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Total
liabilities
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29,444,000 | 30,907,000 | ||||||
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Commitments
and contingencies
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||||||||
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Stockholders’
deficit:
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||||||||
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Preferred
stock, $0.001 par value; 5,000,000 shares authorized; -0- shares issued
and outstanding in 2008 and 2007
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— | — | ||||||
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Common
stock, $0.001 par value; 95,000,000 shares authorized; 26,976,732 and
25,962,222 shares issued and 25,103,898 and 24,089,388 shares outstanding
in 2008 and 2007, respectively
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27,000 | 26,000 | ||||||
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Additional
paid-in capital
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136,108,000 | 129,504,000 | ||||||
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Accumulated
deficit
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(140,405,000 | ) | (132,132,000 | ) | ||||
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Treasury
stock, at cost
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(6,794,000 | ) | (6,794,000 | ) | ||||
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Amount
due from exercises of stock
options
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— | (4,000 | ) | |||||
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Total
stockholders’ deficit
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(11,064,000 | ) | (9,400,000 | ) | ||||
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Total
liabilities and stockholders’ deficit
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$ | 18,380,000 | $ | 21,507,000 | ||||
SEE NOTES
TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
3
CYTORI THERAPEUTICS, INC.
CONSOLIDATED
CONDENSED STATEMENTS OF OPERATIONS AND COMPREHENSIVE LOSS
(UNAUDITED)
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For
the Three Months Ended March 31,
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||||||||
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2008
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2007
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|||||||
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Product
revenues:
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||||||||
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Related
party
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$ | — | $ | 280,000 | ||||
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Third
party
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153,000 | — | ||||||
| 153,000 | 280,000 | |||||||
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Cost
of product revenues
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60,000 | 225,000 | ||||||
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Gross
profit
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93,000 | 55,000 | ||||||
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Development
revenues:
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||||||||
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Development,
related party
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774,000 | — | ||||||
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Research
grants and other
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37,000 | 45,000 | ||||||
| 811,000 | 45,000 | |||||||
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Operating
expenses:
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Research
and development
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4,963,000 | 4,996,000 | ||||||
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Sales
and marketing
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958,000 | 546,000 | ||||||
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General
and administrative
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3,111,000 | 3,166,000 | ||||||
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Change
in fair value of option liabilities
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200,000 | 200,000 | ||||||
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Total
operating expenses
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9,232,000 | 8,908,000 | ||||||
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Operating
loss
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(8,328,000 | ) | (8,808,000 | ) | ||||
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Other
income (expense):
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||||||||
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Interest
income
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76,000 | 197,000 | ||||||
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Interest
expense
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(23,000 | ) | (52,000 | ) | ||||
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Other
income (expense), net
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11,000 | (4,000 | ) | |||||
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Equity
loss from investment in joint venture
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(9,000 | ) | (2,000 | ) | ||||
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Total
other income, net
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55,000 | 139,000 | ||||||
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Net
loss
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(8,273,000 | ) | (8,669,000 | ) | ||||
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Other
comprehensive loss – unrealized loss
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— | (1,000 | ) | |||||
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Comprehensive
loss
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$ | (8,273,000 | ) | $ | (8,670,000 | ) | ||
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Basic
and diluted net loss per common share
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$ | (0.34 | ) | $ | (0.43 | ) | ||
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Basic
and diluted weighted average common shares
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24,442,655 | 20,063,750 | ||||||
SEE NOTES
TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
4
CYTORI THERAPEUTICS, INC.
CONSOLIDATED
CONDENSED STATEMENTS OF CASH FLOWS
(UNAUDITED)
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For
the Three Months Ended March 31,
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2008
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2007
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Cash
flows from operating activities:
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Net
loss
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$ | (8,273,000 | ) | $ | (8,669,000 | ) | ||
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Adjustments
to reconcile net loss to net cash used in operating
activities:
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Depreciation
and amortization
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392,000 | 397,000 | ||||||
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Warranty
provision
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(11,000 | ) | (17,000 | ) | ||||
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Increase
in allowance for doubtful accounts
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7,000 | 1,000 | ||||||
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Change
in fair value of option liabilities
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200,000 | 200,000 | ||||||
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Share-based
compensation expense
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554,000 | 548,000 | ||||||
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Equity
loss from investment in joint venture
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9,000 | 2,000 | ||||||
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Increases
(decreases) in cash caused by changes in operating assets and
liabilities:
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||||||||
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Accounts
receivable
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(144,000 | ) | (9,000 | ) | ||||
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Inventories
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(360,000 | ) | (48,000 | ) | ||||
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Other
current assets
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(18,000 | ) | (16,000 | ) | ||||
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Other
assets
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(39,000 | ) | 11,000 | |||||
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Accounts
payable and accrued expenses
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(631,000 | ) | (511,000 | ) | ||||
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Deferred
revenues, related party
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(774,000 | ) | — | |||||
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Long-term
deferred rent
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(74,000 | ) | (49,000 | ) | ||||
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Net
cash used in operating activities
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(9,162,000 | ) | (8,160,000 | ) | ||||
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Cash
flows from investing activities:
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||||||||
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Proceeds
from sale and maturity of short-term investments
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2,239,000 | 16,060,000 | ||||||
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Purchases
of short-term investments
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(2,239,000 | ) | (14,846,000 | ) | ||||
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Purchases
of property and equipment
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(175,000 | ) | (130,000 | ) | ||||
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Net
cash provided by (used in ) investing activities
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(175,000 | ) | 1,084,000 | |||||
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Cash
flows from financing activities:
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||||||||
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Principal
payments on long-term obligations
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(173,000 | ) | (253,000 | ) | ||||
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Proceeds
from exercise of employee stock options
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55,000 | 227,000 | ||||||
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Proceeds
from sale of unregistered common stock
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6,000,000 | 19,901,000 | ||||||
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Net
cash provided by financing activities
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5,882,000 | 19,875,000 | ||||||
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Net
increase (decrease) in cash and cash equivalents
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(3,455,000 | ) | 12,799,000 | |||||
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Cash
and cash equivalents at beginning of period
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11,465,000 | 8,902,000 | ||||||
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Cash
and cash equivalents at end of period
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$ | 8,010,000 | $ | 21,701,000 | ||||
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Supplemental
disclosure of cash flow information:
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||||||||
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Cash
paid during period for:
|
||||||||
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Interest
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$ | 24,000 | $ | 49,000 | ||||
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Taxes
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— | 2,000 | ||||||
SEE NOTES
TO UNAUDITED CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
5
CYTORI THERAPEUTICS, INC.
NOTES
TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
MARCH
31, 2008
(UNAUDITED)
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1.
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Basis
of Presentation
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Our
accompanying unaudited consolidated condensed financial statements as of March
31, 2008 and for the three months ended March 31, 2008 and 2007 have been
prepared in accordance with accounting principles generally accepted in the
United States of America for interim financial
information. Accordingly, they do not include all of the information
and footnotes required by accounting principles generally accepted in the United
States of America for annual financial statements. Our consolidated
condensed balance sheet at December 31, 2007 has been derived from the audited
financial statements at that date, but does not include all of the information
and footnotes required by accounting principles generally accepted in the United
States of America for complete financial statements. In the opinion
of management, all adjustments (consisting of normal recurring adjustments)
considered necessary for a fair presentation of the financial position and
results of operations of Cytori Therapeutics, Inc., and our subsidiaries (the
Company), have been included. Operating results for the three months
ended March 31, 2008 are not necessarily indicative of the results that may be
expected for the year ending December 31, 2008. For further
information, refer to our consolidated financial statements for the year ended
December 31, 2007 and footnotes thereto which were included in our Annual Report
on Form 10-K, dated March 14, 2008.
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2.
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Use
of Estimates
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The
preparation of consolidated condensed financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions affecting the reported
amounts of assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements, and the reported amounts of
revenue and expenses during the reporting period. Actual results
could differ from these estimates. Estimates and assumptions are
reviewed periodically, and the effects of revisions are reflected in the
consolidated condensed financial statements in the periods they are determined
to be necessary.
Our most
significant estimates and critical accounting policies involve recognizing
revenue, evaluating goodwill for impairment, accounting for product line
dispositions, valuing our put option arrangement with Olympus Corporation (Put
option) (see notes 12 and 13), determining the assumptions used in measuring
share-based compensation expense, valuing our deferred tax assets, and assessing
how to report our investment in Olympus-Cytori, Inc.
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3.
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Capital
Availability
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We have a
limited operating history and recorded the first sale of our products in 1999.
We incurred losses of $8,273,000 and $8,670,000 for the three months ended March
31, 2008 and 2007, respectively, and have an accumulated deficit of $140,405,000
as of March 31, 2008. Additionally, we have used net cash of $9,162,000 and
$8,160,000 to fund our operating activities for the three months ended March 31,
2008 and 2007, respectively.
Management
recognizes the need to generate positive cash flows in future periods and/or to
obtain additional capital from various sources. In the continued absence of
positive cash flows from operations, no assurance can be given that we can
generate sufficient revenue to cover operating costs or that additional
financing will be available to us and, if available, on terms acceptable to us
in the future. See note 14 for discussion of financing arrangements
completed subsequent to March 31, 2008.
The
Company expects to utilize its cash and cash equivalents to fund its operations,
including research and development of its products primarily for development and
pre-clinical activities and for clinical trials. Additionally, the Company
believes that without additional capital from operations and other accessible
sources of financing it does not currently have adequate funding to complete the
development, pre-clinical activities and clinical trials required to bring its
future products to market, therefore, it will require significant additional
funding. If the Company is unsuccessful in its efforts to raise additional
funds through accessible sources of financing, strategic relationships or
through revenue sources, it will be required to significantly reduce or curtail
its research and development activities and other operations. Management
actively monitors cash expenditures and projected expenditures as we progress
toward our goals of product commercialization and sales in an effort to match
projected expenditures to available cash flow.
6
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4.
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Segment
Information
|
We manage
our business based on two distinct operating segments – (a) Regenerative cell
technology and (b) MacroPore Biosurgery.
Our
regenerative cell technology segment develops, manufactures and sells medical
technologies to enable the practice of regenerative medicine with an initial
focus on reconstructive surgery and cell banking. Our
commercialization model is based on the sale of Celution® Systems and their
related harvest and delivery instrumentation, and on generating recurring
revenues from single-use consumable sets utilized during each patient
procedure.
Our
MacroPore Biosurgery unit develops Thin Film bioresorbable implants for sale in
Japan through Senko Medical Trading Company (“Senko”), which has exclusive
distribution rights to these products in Japan. Also, until after the
second quarter of 2007, the MacroPore Biosurgery segment manufactured and
distributed the HYDROSORB™ family of spine and orthopedic implants.
We
measure the success of each operating segment based on operating profits and
losses and, additionally, in the case of the regenerative cell technology
segment, the achievement of key research objectives. In arriving at
our operating results for each segment, we use the same accounting policies as
those used for our consolidated company and as described throughout this
note. However, segment operating results exclude allocations of
company-wide general and administrative costs and changes in fair value of our
option liabilities.
During
the three months ended March 31, 2008, we had no significant activity in the
MacroPore Biosurgery operating segment as a result of sale in May 2007 to Kensey
Nash of the intellectual property rights and tangible assets related to the
spine and orthopedic bioresorbable implant product line.
Prior
year results presented below have been developed on the same basis as the
current year amounts. For all periods presented, we did not have any
intersegment transactions.
The
following tables provide information regarding the performance and assets of our
operating segments:
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For
the three months ended March 31,
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2008
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2007
|
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Revenues:
|
||||||||
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Regenerative
cell technology
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$ | 964,000 | $ | 45,000 | ||||
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MacroPore
Biosurgery
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— | 280,000 | ||||||
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Total
revenues
|
$ | 964,000 | $ | 325,000 | ||||
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Segment
operating income (losses):
|
||||||||
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Regenerative
cell technology
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$ | (4,968,000 | ) | $ | (5,351,000 | ) | ||
|
MacroPore
Biosurgery
|
(49,000 | ) | (91,000 | ) | ||||
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General
and administrative expenses
|
(3,111,000 | ) | (3,166,000 | ) | ||||
|
Changes
in fair value of option liabilities
|
(200,000 | ) | (200,000 | ) | ||||
|
Total
operating loss
|
$ | (8,328,000 | ) | $ | (8,808,000 | ) | ||
|
As
of March 31,
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As
of December 31,
|
|||||||
|
2008
|
2007
|
|||||||
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Assets:
|
||||||||
|
Regenerative
cell technology
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$ | 11,789,000 | $ | 11,591,000 | ||||
|
MacroPore
Biosurgery
|
— | — | ||||||
|
Corporate
assets
|
6,591,000 | 9,916,000 | ||||||
|
Total
assets
|
$ | 18,380,000 | $ | 21,507,000 | ||||
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5.
|
Short-Term
Investments
|
We invest
excess cash in money market funds, highly liquid debt instruments of financial
institutions and corporations with strong credit ratings, and in United States
government obligations. We have established guidelines relative to
diversification and maturities that maintain safety and liquidity. These
guidelines are periodically reviewed and modified to take advantage of trends in
yields and interest rates.
We
evaluate our investments in accordance with the provisions of Statement of
Financial Accounting Standards (“SFAS”) No. 115, “Accounting for Certain
Investments in Debt and Equity Securities.” Based on our intent, our
investment policies and our ability to liquidate debt securities, we classify
short-term investment securities within current assets. Available-for-sale
securities are carried at fair value, with unrealized gains and losses reported
as accumulated other comprehensive income (loss) within stockholders’ equity.
The amortized cost basis of debt securities is periodically adjusted for
amortization of premiums and accretion of discounts to maturity. Such
amortization is included as a component of interest income or interest expense.
The amortized cost basis of securities sold is based on the specific
identification method and all such realized gains and losses are recorded as a
component within other income (expense). We review the carrying
values of our investments and write down such investments to estimated fair
value by a charge to the statements of operations when the severity and duration
of a decline in the value of an investment is considered to be other than
temporary. The cost of securities sold or purchased is recorded on
the settlement date.
7
After
considering current market conditions, and in order to minimize our risk,
management has elected to invest all excess funds in money market funds and
other highly liquid investments that are considered cash equivalents as of March
31, 2008.
|
6.
|
Summary
of Significant Accounting Policies
|
|
|
Inventories
|
Inventories
include the cost of material, labor, and overhead, and are stated at the lower
of average cost, determined on the first-in, first-out (FIFO) method, or
market. We periodically evaluate our on-hand stock and make
appropriate provisions for any stock deemed excess or obsolete. We
expense excess manufacturing costs, that is, costs resulting from lower than
“normal” production levels.
Costs of
materials capitalized on the balance sheet as of March 31, 2008 is
representative of the cost of materials we had on hand as of March 31, 2008 that
we purchased on or after March 1, 2008. March 1, 2008 is considered
our commercialization date based on completion of final development activities
associated with our Celution® 800/CRS System products. All materials
purchased prior to the commercialization date were expensed as research and
development expense during the period they were purchased.
No
inventory provisions were recorded during the first quarter of 2008 and
2007.
|
|
Property
and Equipment
|
Property
and equipment is stated at cost, net of accumulated
depreciation. Depreciation expense is provided for on a straight-line
basis over the estimated useful lives of the assets, or the life of the lease
(as applicable), whichever is shorter, and range from three to five
years. When assets are sold or otherwise disposed of, the cost and
related accumulated depreciation are removed from the accounts and the resulting
gain or loss is included in operations. Maintenance and repairs are
charged to operations as incurred.
|
|
Revenue
Recognition
|
Product
Sales
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 generally 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 product sales to customers who arrange
for and manage all aspects of the shipping process, we recognize revenue upon
shipment from our facilities. Shipping and handling costs that are
billed to our customers are classified as revenue, in accordance with Emerging
Issues Task Force (EITF) Issue No. 00-10, “Accounting for Shipping and Handling
Fees and Costs” (“EITF 00-10”).
Before
the disposal of our bioresorbable spine and orthopedic product line in May 2007,
we sold our (non-Thin Film) MacroPore Biosurgery products to Medtronic, Inc., a
related party, under a Distribution Agreement dated January 5, 2000 and amended
December 22, 2000 and October 8, 2002, as well as a Development and Supply
Agreement dated January 5, 2000 and amended December 22, 2000 and September 30,
2002. We recognized revenue on product sales to Medtronic upon
shipment of ordered products to Medtronic, as title and risk of loss were
transferred at that point.
In May
2007, we sold to Kensey Nash our intellectual property rights and tangible
assets related to our bioresorbable spine and orthopedic product
line.
License/Distribution
Fees
If
separable under EITF Issue No. 00-21, “Revenue Arrangements with Multiple
Deliverables” (“EITF 00-21”), we recognize any upfront payments received from
license/distribution agreements as revenues over the period in which the
customer benefits from the license/distribution agreement.
8
To date,
we have not received any upfront license payments that are separable under EITF
00-21. Accordingly, such license revenues have been combined with
other elements, such as research and development activities, for purposes of
revenue recognition. For instance, we account for the license fees
and milestone payments under the Distribution Agreement with Senko as a single
unit of accounting. Similarly, we have attributed the upfront fees
received under the arrangements with Olympus Corporation, a related party (see
note 12), to a combined unit of accounting comprising a license we granted to
Olympus-Cytori, Inc. (the “Joint Venture” or “JV”), a related party, as well as
development services we agreed to perform for this entity.
In the
first quarter of 2006, we granted Olympus an exclusive right to negotiate a
commercialization collaboration for the use of adipose stem and regenerative
cells for a specific therapeutic area outside of cardiovascular
disease. In exchange for this right, we received $1,500,000 from
Olympus, which is non-refundable but may be applied towards any definitive
commercial collaboration in the future. As part of this agreement,
Olympus will conduct market research and pilot clinical studies in collaboration
with us for the therapeutic area up to December 31, 2008 when this exclusive
right will terminate. The $1,500,000 payment was received in the
second quarter of 2006 and recorded as deferred revenues, related
party. The deferred revenues, related party will be recognized as
revenue either (i) in connection with other consideration received as part of a
definitive commercial collaboration in the future, or (ii) when the exclusive
negotiation period expires.
In the
third quarter of 2004, we entered into a Distribution Agreement with
Senko. Under this agreement, we granted to Senko an exclusive license
to sell and distribute certain Thin Film products in Japan and received a
$1,500,000 upfront license fee from them in return for this right. We
have recorded the $1,500,000 received as deferred revenues in the accompanying
consolidated condensed balance sheets. Half of the license fee is
refundable if the parties agree commercialization is not achievable and a
proportional amount is refundable if we terminate the arrangement, other than
for material breach by Senko, before three years
post-commercialization.
No
license/distribution fees have been recognized in the three month periods ended
March 31, 2008 and 2007.
Research
and Development
We earn
revenue for performing tasks under research and development agreements with both
commercial enterprises, such as Olympus and Senko, and governmental agencies
like the National Institutes of Health (“NIH”). Revenue earned under
development agreements is classified as either research grant or development
revenues in our consolidated condensed statements of operations, depending on
the nature of the arrangement. Revenues derived from reimbursement of
direct out-of-pocket expenses for research costs associated with grants are
presented in compliance with EITF Issue No. 99-19, “Reporting Revenue Gross as a
Principal Versus Net as an Agent,” and EITF Issue No. 01-14, “Income Statement
Characterization of Reimbursements Received for “Out-of-Pocket” Expenses
Incurred.” In accordance with the criteria established by these EITF
Issues, we record grant revenue for the gross amount of the
reimbursement. The costs associated with these reimbursements are
reflected as a component of research and development expense in the consolidated
condensed statements of operations.
Additionally,
research and development arrangements we have with commercial enterprises such
as Olympus and Senko are considered a key component of our central and ongoing
operations. Accordingly, when recognized, the inflows from such
arrangements are presented as revenues in our consolidated condensed statements
of operations.
We
received a total of $22,000,000 from Olympus and Olympus-Cytori, Inc. during
2005 in two separate but related transactions (see note
12). Approximately $4,689,000 of this amount related to common stock
that we issued, as well as two options we granted, to
Olympus. Moreover, during the first quarter of 2006, we received
$11,000,000 from the Joint Venture upon achieving the CE Mark on the Celution®
600. The difference between the proceeds received and the fair values
of the common stock and option liability was recorded as deferred revenue, since
conceptually, the excess proceeds represent a prepayment for future
contributions and obligations of Cytori for the benefit of the Joint Venture,
rather than additional equity investment in Cytori. Considering the
$4,689,000 initially allocated to the common stock issued and the two options,
we recorded upfront fees totaling $28,311,000 as deferred revenues, related
party. In exchange for these proceeds, we agreed to (a) provide
Olympus-Cytori, Inc. an exclusive and perpetual license to our therapeutic
device technology, including the Celution® System platform and certain related
intellectual property, and (b) provide future development contributions related
to commercializing the Celution® System platform. As noted above, the
license and development services are not separable under EITF
00-21. The recognition of this deferred amount will require the
achievement of service related milestones, under a proportional performance
methodology. If and as such revenues are recognized, deferred revenue
will be decreased. Proportional performance methodology was elected
due to the nature of our development obligations and efforts in support of the
JV, including product development activities and regulatory efforts
to support the commercialization of the JV products. The application of this
methodology uses the achievement of R&D milestones as outputs of value to
the JV. We received up-front, non-refundable payments in connection
with these development obligations, which we have broken down into specific
R&D milestones that are definable and substantive in nature, and which will
result in value to the JV when achieved. Revenue will be recognized
as the above mentioned R&D milestones are completed.
9
We
established the R&D milestones based upon our development obligations to the
JV and the specific R&D support activities to be performed to achieve these
obligations. Our R&D milestones consist of the following primary
performance categories: product development, regulatory approvals,
and generally associated pre-clinical and clinical
trials. Within each category are milestones that take
substantive effort to complete and are critical pieces of the overall progress
towards completion of the next generation product, which we are obligated to
support within the agreements entered into with Olympus.
To
determine whether substantive effort was required to achieve the milestones, we
considered the external costs, required personnel and relevant skill levels, the
amount of time required to complete each milestone, and the interdependent
relationships between the milestones, in that the benefits associated with the
completion of one milestone generally support and contribute to the achievement
of the next.
Determination
of the relative values assigned to each milestone involved substantial
judgment. The assignment process was based on discussions with
persons responsible for the development process and the relative costs of
completing each milestone. We considered the costs of completing the
milestones in allocating the portion of the “deferred revenues, related party”
account balance to each milestone. Management believes that, while
the costs incurred in achieving the various milestones are subject to
estimation, due to the high correlation of such costs to outputs achieved, the
use of external contract research organization costs and internal labor costs as
the basis for the allocation process provides management the ability to
accurately and reasonably estimate such costs.
Of the
amounts received and deferred, we recognized development revenues of $774,000
and $0 in the three month periods ended March 31, 2008 and 2007,
respectively. All related development costs are expensed as incurred
and are included in research and development expense on the consolidated
condensed statements of operations.
In the
third quarter of 2004, we entered into a Distribution Agreement with
Senko. Under this agreement, we granted to Senko an exclusive license
to sell and distribute certain Thin Film products in Japan. We have
also earned or will be entitled to earn additional payments under the
Distribution Agreement based on achieving the following defined research and
development milestones:
|
·
|
In
2004, we received a nonrefundable payment of $1,250,000 from Senko after
filing an initial regulatory application with the Japanese Ministry of
Health, Labour and Welfare (“MHLW”) related to the Thin Film product
line. We initially recorded this payment as deferred revenues
of $1,250,000.
|
|
·
|
Upon
the achievement of commercialization (i.e., regulatory approval by the
MHLW), we will be entitled to an additional nonrefundable payment of
$250,000.
|
Of the
amounts received and deferred with respect to Senko, we did not recognize any
development revenues in the three months ended March 31, 2008 and 2007,
respectively. As noted above, the license and the milestone
components of the Senko Distribution Agreement are accounted for as a single
unit of accounting. This single element includes a $1,500,000 license
fee which is potentially refundable. We have recognized, and will
continue to recognize, the non-contingent fees allocated to this combined
deliverable as we complete performance obligations under the Distribution
Agreement with Senko. Accordingly, we expect to recognize
approximately $1,129,000 (consisting of remaining $879,000 in deferred revenues
plus a non-refundable payment of $250,000 to be received upon commercialization)
in revenues associated with this milestone arrangement once commercialization is
achieved. We will not recognize the potentially refundable portion of
the fees until the right of refund expires.
|
7.
|
Long-Lived
Assets
|
In
accordance with SFAS No. 144, “Accounting for Impairment or Disposal of
Long-Lived Assets,” we assess certain long-lived assets, such as property and
equipment and intangible assets other than goodwill, for potential impairment
when there is a change in circumstances that indicates carrying values of assets
may not be recoverable. Such long-lived assets are deemed to be
impaired when the undiscounted cash flows expected to be generated by the asset
(or asset group) are less than the asset’s carrying amount. Any
required impairment loss would be measured as the amount by which the asset’s
carrying value exceeds its fair value, and would be recorded as a reduction in
the carrying value of the related asset and a charge to operating
expense. During the three months ended March 31, 2008 and 2007, we
had no impairment losses associated with our long-lived assets.
|
8.
|
Share-Based
Compensation
|
Through
December 31, 2007, we used the “simplified method” to estimate the expected term
of our stock options, as outlined in SEC Staff Accounting Bulletin No.
107. Starting January 1, 2008, we calculated the expected term of our
stock options based on our historical data. The expected term is
calculated for and applied to all employee awards as a single group as we do not
expect (nor does historical data suggest) substantially different exercise or
post-vesting termination behavior amongst our employee
population. The fair value of each option awarded during the year
ended December 31, 2008 will be estimated on the date of grant using the
Black-Scholes-Merton option valuation model assuming an expected term of 5.0
years. The effect of this change on income from continuing operations
and net income is immaterial.
10
During
the first quarter of 2008, we issued to our officers and directors stock options
to purchase an aggregate of up to 450,000 shares of our common stock, with
four-year graded vesting for our officers and two-year graded vesting for our
directors. The grant date fair value of option awards granted to our officers
and directors was $2.73 per share. The resulting share-based compensation
expense of $1,230,000, net of estimated forfeitures, will be recognized as
expense over the respective service periods.
|
9.
|
Loss
per Share
|
We
compute loss per share based on the provisions of SFAS No. 128, “Earnings per
Share.” Basic per share data is computed by dividing net income or loss
applicable to common stockholders by the weighted average number of common
shares outstanding during the period. Diluted per share data is computed by
dividing net income or loss applicable to common stockholders by the weighted
average number of common shares outstanding during the period increased to
include, if dilutive, the number of additional common shares that would have
been outstanding as calculated using the treasury stock method. Potential common
shares were related entirely to outstanding but unexercised options and warrants
for all periods presented.
We have
excluded all potentially dilutive securities from the calculation of diluted
loss per share attributable to common stockholders for the three months ended
March 31, 2008 and 2007, as their inclusion would be antidilutive. Potentially
dilutive common shares excluded from the calculations of diluted loss per share
were 8,248,870 and 8,157,587 for the three month periods ended March 31, 2008
and 2007, respectively.
|
10.
|
Commitments
and Contingencies
|
We have
entered into agreements, which have provisions for cancellation, with various
clinical research organizations for pre-clinical and clinical development
studies. Under the terms of these agreements, the vendors provide a variety of
services including conducting pre-clinical development research, enrolling
patients, recruiting patients, monitoring studies, and data analysis. Payments
under these agreements typically include fees for services and reimbursement of
expenses. The timing of payments due under these agreements is estimated based
on current schedules of pre-clinical and clinical studies in
progress. As of March 31, 2008, we have pre-clinical research study
obligations of $168,000 (which are expected to be fully completed within a year)
and clinical research study obligations of $8,970,000 ($3,470,000 of which are
expected to be completed within a year).
We are
subject to various claims and contingencies related to legal
proceedings. Due to their nature, such legal proceedings involve
inherent uncertainties including, but not limited to, court rulings,
negotiations between affected parties, and governmental
actions. Management assesses the probability of loss for such
contingencies and accrues a liability and/or discloses the relevant
circumstances, as appropriate. Management believes that any liability
to us that may arise as a result of currently pending legal proceedings will not
have a material adverse effect on our financial condition, liquidity, or results
of operations as a whole.
Refer to
note 11 for a discussion of our commitments and contingencies related to our
interactions with the University of California.
Refer to
note 12 for a discussion of our commitments and contingencies related to our
transactions with Olympus, including (a) our obligation to the Joint Venture in
future periods and (b) certain put and call rights embedded in the arrangements
with Olympus.
|
11.
|
License
Agreement
|
On
October 16, 2001, StemSource, Inc. entered into an exclusive worldwide license
agreement with the Regents of the University of California (“UC”), licensing all
of UC’s rights to certain pending patent applications being prosecuted by UC and
(in part) by the University of Pittsburgh, for the life of these
patents, with the right of sublicense. The exclusive license relates
to an issued patent (“Patent 6,777,231”) and various pending applications
relating to adipose-derived stem cells. In November 2002, we acquired
StemSource, and the license agreement was assigned to us.
The
agreement, which was amended and restated in September 2006 to better reflect
our business model, calls for various periodic payments until such time as we
begin commercial sales of any products utilizing the licensed
technology. Upon achieving commercial sales of products or services
covered by the UC license agreement, we will be required to pay variable earned
royalties based on the net sales of products sold. Minimum royalty
amounts will increase annually with a plateau in 2015. In addition,
there are certain due diligence milestones that are required to be reached as a
result of the agreement. Failure to fulfill these milestones may
result in a reduction of or loss of the specific rights to which the effected
milestone relates.
11
Additionally,
we are obligated to reimburse UC for patent prosecution and other legal costs on
any patent applications contemplated by the agreement. In particular,
the University of Pittsburgh filed a lawsuit in the fourth quarter of 2004,
naming all of the inventors who had not assigned their ownership interest in
Patent 6,777,231 to the University of Pittsburgh. It was seeking a
determination that its assignors, rather than UC’s assignors, are the true
inventors of Patent 6,777,231. This lawsuit has subjected us to and
could continue to subject us to significant costs and, if the University of
Pittsburgh wins the lawsuit, our license rights to this patent could be
nullified or rendered non-exclusive with respect to any third party that might
license rights from the University of Pittsburgh.
On August
9, 2007, the United States District Court granted the University of Pittsburgh’s
motion for Summary Judgment in part, determining that the University of
Pittsburgh’s assignees were properly named as inventors on Patent 6,777,231, and
that all other inventorship issues shall be determined according to the facts
presented at trial. The trial was concluded in January 2008 and we
expect to have the trial court’s final decision on the case sometime in the
second or third quarter of 2008.
We are
not named as a party to the lawsuit, but our president, Marc Hedrick, is one of
the inventors identified on the patent and therefore is a named individual
defendant. We are providing substantial financial and other
assistance to the defense of the lawsuit.
During
the three months ended March 31, 2008 and 2007, we expensed $167,000 and
$92,000, respectively, for legal fees related to this license. These
expenses have been classified as general and administrative expense in the
accompanying financial statements. We believe that the amount accrued
as of March 31, 2008 of $2,058,000 is a reasonable estimate of our liability for
the expenses incurred through March 31, 2008.
|
12.
|
Transactions
with Olympus Corporation
|
Initial
Investment by Olympus Corporation in Cytori
In the
second quarter of 2005, we entered into a common stock purchase agreement (the
“Purchase Agreement”) with Olympus in which we received $11,000,000 in cash
proceeds.
Under
this agreement, we issued 1,100,000 shares of common stock to
Olympus. In addition, we also granted Olympus an immediately
exercisable option to acquire 2,200,000 shares of our common stock at $10 per
share, which expired on December 31, 2006. Before its expiration, we
accounted for this option as a liability in accordance with EITF 00-19,
“Accounting for Derivative Financial Instruments Indexed to, and Potentially
Settled in, a Company's Own Stock” because from the date of grant through the
expiration, we would have been required to deliver listed common stock to settle
the option shares upon exercise.
The
$11,000,000 in total proceeds we received in the second quarter of 2005 exceeded
the sum of (i) the market value of our stock as well as (ii) the fair value of
the option at the time we entered into the share purchase
agreement. The $7,811,000 difference between the proceeds received
and the fair values of our common stock and option liability was recorded as a
component of deferred revenues, related party in the accompanying consolidated
condensed balance sheet. This difference was recorded as deferred
revenue since, conceptually, the excess proceeds represent a prepayment for
future contributions and obligations of Cytori for the benefit of the Joint
Venture (see below), rather than an additional equity investment in
Cytori. We will recognize development revenue upon achievement of
related milestones, in accordance with proportional performance
methodology. If and as such revenues are recognized, deferred revenue
will be decreased (see note 5 under revenue recognition).
In a
separate agreement entered into on February 23, 2006, we granted Olympus an
exclusive right to negotiate a commercialization collaboration for the use of
adipose regenerative cells for a specific therapeutic area outside of
cardiovascular disease. In exchange for this right, we received a
$1,500,000 payment from Olympus. As part of this agreement, Olympus
will conduct market research and pilot clinical studies in collaboration with us
for the therapeutic area up to December 31, 2008 when this exclusive right will
terminate.
In August
2006, we received an additional $11,000,000 from Olympus for the issuance of
approximately 1,900,000 shares of our common stock at $5.75 per share under the
shelf registration statement filed in May 2006. The purchase price
was based on our closing price on August 9, 2006.
As of
March 31, 2008, Olympus holds approximately 12% of our issued and outstanding
shares. Additionally, Olympus has a right, which it has not yet
exercised, to designate a director to serve on our Board of
Directors.
12
Formation
of the Olympus-Cytori Joint Venture
On
November 4, 2005, we entered into a joint venture and other related agreements
(the “Joint Venture Agreements”) with Olympus. The Joint Venture is
owned equally by Olympus and us.
Under the
Joint Venture Agreements:
|
·
|
Olympus
paid $30,000,000 for its 50% interest in the Joint
Venture. Moreover, Olympus simultaneously entered into a
License/Joint Development Agreement with the Joint Venture and us to
develop a second generation commercial system and manufacturing
capabilities.
|
|
·
|
We
licensed our device technology, including the Celution® System platform
and certain related intellectual property, to the Joint Venture for use in
future generation devices. These devices will process and
purify regenerative cells residing in adipose tissue for various
therapeutic clinical applications. In exchange for this
license, we received a 50% interest in the Joint Venture, as well as an
initial $11,000,000 payment from the Joint Venture; the source of this
payment was the $30,000,000 contributed to the Joint Venture by
Olympus. Moreover, upon receipt of a CE mark for the Celution®
600 in January 2006, we received an additional $11,000,000 development
milestone payment from the Joint
Venture.
|
We have
determined that the Joint Venture is a variable interest entity (“VIE”) pursuant
to Financial Accounting Standards Board (FASB) Interpretation No. 46 (revised
2003), “Consolidation of Variable Interest Entities - an interpretation of ARB
No. 51” (“FIN 46R”), but that Cytori is not the VIE’s primary
beneficiary. Accordingly, we have accounted for our interests in the
Joint Venture using the equity method of accounting, since we can exert
significant influence over the Joint Venture’s operations. At March
31, 2008, the carrying value of our investment in the Joint Venture is
$360,000.
We are
under no obligation to provide additional funding to the Joint Venture, but may
choose to do so. We made no contributions to the Joint Venture during
the three months ended March 31, 2008 and 2007, respectively.
Put/Calls
and Guarantees
The
Shareholders’ Agreement between Cytori and Olympus provides that in certain
specified circumstances of insolvency or if we experience a change in control,
Olympus will have the rights to (i) repurchase our interests in the Joint
Venture at the fair value of such interests or (ii) sell its own interests in
the Joint Venture to Cytori at the higher of (a) $22,000,000 or (b) the Put’s
fair value.
As of
November 4, 2005, the fair value of the Put was determined to be
$1,500,000. At March 31, 2008 and December 31, 2007, the fair value
of the Put was $1,200,000 and $1,000,000, respectively. Fluctuations
in the Put value are recorded in the consolidated condensed statements of
operations as a component of change in fair value of option liabilities. The
fair value of the Put has been recorded as a long-term liability in the caption
option liability in our consolidated condensed balance sheets.
The
valuations of the Put were completed using an option pricing theory based
simulation analysis (i.e., a Monte Carlo simulation). The valuations
are based on assumptions as of the valuation date with regard to the market
value of Cytori and the estimated fair value of the Joint Venture, the expected
correlation between the values of Cytori and the Joint Venture, the expected
volatility of Cytori and the Joint Venture, the bankruptcy recovery rate for
Cytori, the bankruptcy threshold for Cytori, the probability of a change of
control event for Cytori, and the risk free interest rate.
The
following assumptions were employed in estimating the value of the
Put:
|
March
31, 2008
|
December
31, 2007
|
November
4, 2005
|
||||||||||
|
Expected
volatility of
Cytori
|
60.00 | % | 60.00 | % | 63.20 | % | ||||||
|
Expected
volatility of the Joint Venture
|
60.00 | % | 60.00 | % | 69.10 | % | ||||||
|
Bankruptcy
recovery rate for
Cytori
|
21.00 | % | 21.00 | % | 21.00 | % | ||||||
|
Bankruptcy
threshold for
Cytori
|
$ | 8,957,000 | $ | 9,324,000 | $ | 10,780,000 | ||||||
|
Probability
of a change of control event for Cytori
|
2.33 | % | 2.17 | % | 3.04 | % | ||||||
|
Expected
correlation between fair values of Cytori and the Joint Venture in the
future
|
99.00 | % | 99.00 | % | 99.00 | % | ||||||
|
Risk
free interest
rate
|
3.45 | % | 4.04 | % | 4.66 | % | ||||||
The Put
has no expiration date. Accordingly, we will continue to recognize a
liability for the Put and mark it to market each quarter until it is exercised
or until the arrangements with Olympus are amended.
13
Olympus-Cytori
Joint Venture
The Joint
Venture has exclusive access to our technology for the development, manufacture,
and supply of the devices (second generation and beyond) for all therapeutic
applications. Once a later generation Celution® System is developed
and approved by regulatory agencies, the Joint Venture may sell such systems
exclusively to us at a formula-based transfer price; we have retained marketing
rights to the second and all subsequent generation devices for all therapeutic
applications of adipose regenerative cells.
As part
of the various agreements with Olympus, we will be required, following
commercialization of the Joint Venture’s Celution® System or Systems, to provide
monthly forecasts to the Joint Venture specifying the quantities of each
category of devices that we intend to purchase over a rolling six-month
period. Although we are not subject to any minimum purchase
requirements, we are obliged to buy a minimum percentage of the products
forecasted by us in such reports. Since we can effectively control
the number of devices we will agree to purchase and because no commercial
devices have yet been developed to trigger the forecast requirement, we estimate
that the fair value of this guarantee is de minimis as of March 31,
2008.
In August
2007 we entered into a License and Royalty Agreement (“Royalty Agreement”) with
the Joint Venture which provides us the ability to commercially launch the
Celution® System platform earlier than we could have otherwise done so under the
terms of the Joint Venture Agreements. The Royalty Agreement allows
for the sale of the Cytori system until such time as the Joint Venture’s
products are commercially available, subject to a reasonable royalty that will
be payable to the Joint Venture for all such sales. During the
quarter ended March 31, 2008, in connection with our sales of our Celution®
800/CRS System products to the European and Asia-Pacific reconstructive surgery
market, we incurred approximately $11,000 in royalty cost related to our
agreement with the Joint Venture. This cost is included as a
component of cost of product revenues in our consolidated condensed statement of
operations.
Deferred
revenues, related party
As of
March 31, 2008, the deferred revenues, related party account primarily consists
of the consideration we have received in exchange for contributions and
obligations that we have agreed to on behalf of Olympus and the Joint Venture
(less any amounts that we have recognized as revenues in accordance with our
revenue recognition policies set out in note 6). These contributions
include product development, regulatory approvals, and generally associated
pre-clinical and clinical trials to support the commercialization of the
Celution® System platform. Our obligations also include maintaining
the exclusive and perpetual license to our device technology, including the
Celution® System platform and certain related intellectual
property.
Pursuant
to EITF 00-21, we have concluded that the license and development services must
be accounted for as a single unit of accounting. Refer to note 6 for
a full description of our revenue recognition policy.
13. Fair Value
Measurements
On
January 1, 2008, we adopted certain provisions of Statement of Financial
Accounting Standards (“SFAS”) No. 157, “Fair Value Measurements” (“SFAS
157”). SFAS 157 provides a single definition of fair value and a
common framework for measuring fair value as well as new disclosure requirements
for fair value measurements used in financial statements. SFAS 157
applies to reported balances that are required or permitted to be measured at
fair value under existing pronouncements; accordingly, the standard does not
require any new fair value measurements of reported balances.
In February 2008, the FASB issued Staff
Position “Effective Date
of FASB Statement No. 157” (FSP No. 157-2), which delayed the adoption date
until January 1, 2009 for non-financial assets and liabilities that are measured
at fair value on a non-recurring basis, such as goodwill and identifiable
intangible assets. We do not expect the adoption of the SFAS 157 for
non-financial assets and liabilities to have a material impact on our
consolidated financial position or results of operations.
On
January 1, 2008, we also adopted SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities” (“SFAS 159”), which permits
companies to choose to measure many financial instruments and certain other
items at fair value. However, we have not elected to measure any
additional financial instruments or other items at fair value under the
provisions of this standard.
SFAS 157
emphasizes that fair value is a market-based measurement, not an entity-specific
measurement. Therefore, a fair value measurement should be determined
based on the assumptions that market participants would use in pricing the asset
or liability. SFAS 157 establishes a three-level hierarchy to
prioritize the inputs used in the valuation techniques to derive fair
values. The basis for fair value measurements for each level within
the hierarchy is described below, with Level 1 having the highest priority and
Level 3 having the lowest:
· Level 1:
Quoted prices in active markets for identical assets or
liabilities.
14
· Level 2:
Quoted prices for similar assets or liabilities in active markets; quoted prices
for identical or similar instruments in markets that are not active; and
model-derived valuations in which all significant inputs are observable in
active markets.
· Level 3:
Valuations derived from valuation techniques in which one or more significant
inputs are unobservable in active markets.
The
following table provides a summary of the recognized assets and liabilities that
we measure at fair value on a recurring basis:
|
Balance
as of
|
Basis
of Fair Value Measurements
|
|||||||||||||||
|
March 31, 2008
|
Level 1
|
Level 2
|
Level 3
|
|||||||||||||
|
Assets:
|
||||||||||||||||
|
Cash
equivalents
|
$ | 3,564,000 | $ | 3,564,000 | $ | — | $ | — | ||||||||
|
Liabilities:
|
||||||||||||||||
|
Put
option liability
|
$ | (1,200,000 | ) | $ | — | $ | — | $ | (1,200,000 | ) | ||||||
We use
quoted market prices to determine the fair value of our cash equivalents, which
consist of money market funds and other highly liquid, exchange-traded fixed
income and equity securities, and therefore these are classified in Level 1 of
the fair value hierarchy.
Our put
option liability (see note 12) is valued using an option pricing theory based
simulation analysis (i.e. a Monte Carlo simulation). Assumptions are made with
regard to the market value of Cytori and the estimated fair value of the Joint
Venture, the expected correlation between the values of Cytori and the Joint
Venture, the expected volatility of Cytori and the Joint Venture, the bankruptcy
recovery rate for Cytori, the bankruptcy threshold for Cytori, the probability
of a change of control event for Cytori, and the risk free interest
rate. Because some of the inputs to our valuation model are either
not observable quoted prices or are not derived principally from or corroborated
by observable market data by correlation or other means, the put option
liability is classified as Level 3 in the fair value hierarchy.
The
following table summarizes the change in our Level 3 put option liability
value:
|
Three
months ended
|
||||
|
Put
option liability
|
March 31, 2008
|
|||
|
Beginning
balance January 1, 2008
|
$ | (1,000,000 | ) | |
|
Increase
in fair value recognized in operating expenses
|
(200,000 | ) | ||
|
Ending
balance March 31, 2008
|
$ | (1,200,000 | ) | |
No other
assets or liabilities are measured at fair value on a recurring basis, or have
been measured at fair value on a non-recurring basis subsequent to initial
recognition, on the accompanying consolidated condensed balance sheet as of
March 31, 2008.
|
14.
|
Stockholders’
Deficit
|
Common
Stock
On
February 8, 2008, we agreed to sell 2,000,000 shares of unregistered common
stock to Green Hospital Supply, Inc. for $12,000,000 cash, or $6.00 per share in
a private stock placement. On February 29, 2008, we closed the first
half of the private placement with Green Hospital Supply, Inc. and received
$6,000,000. We closed the second half of the private placement on
April 30, 2008 and received second payment of $6,000,000.
15
Item 2. Management’s Discussion and Analysis of
Financial Condition and Results of Operations
Our
Management’s Discussion and Analysis of Financial Condition and Results of
Operations (MD&A) includes the following sections:
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·
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Overview
that discusses our operating results and some of the trends that affect
our business.
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·
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Results
of Operations that includes a more detailed discussion of our revenue and
expenses.
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Liquidity
and Capital Resources which discusses key aspects of our statements of
cash flows, changes in our financial position and our financial
commitments.
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·
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Significant
changes since our most recent Annual Report on Form 10-K in the Critical
Accounting Policies and Estimates that we believe are important to
understanding the assumptions and judgments underlying our financial
statements.
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You should read this MD&A in conjunction with the financial statements and related notes in Item 1 and our Annual Report on Form 10-K for the fiscal year ended December 31, 2007.
CAUTIONARY
STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
This
report contains certain statements that may be deemed “forward-looking
statements” within the meaning of United States of America securities
laws. All statements, other than statements of historical fact, that
address activities, events or developments that we intend, expect, project,
believe or anticipate will or may occur in the future are forward-looking
statements. Such statements are based upon certain assumptions and
assessments made by our management in light of their experience and their
perception of historical trends, current conditions, expected future
developments and other factors they believe to be appropriate. These
statements include, without limitation, statements about our anticipated
expenditures related to clinical research studies, the potential size of the
market for our products, future expansion of our product launches in the
reconstructive surgery market, our expected general and administrative expenses,
and expansion of our cash position through development, marketing, and licensing
arrangements. Our actual results will likely differ, perhaps materially,
from those anticipated in these forward-looking statements as a result of
various factors, including: changes in laws or regulatory requirements, market
conditions, product performance, unforeseen litigation, and competition within
the regenerative medicine field, to name a few. The
forward-looking statements included in this report are also subject to a number
of material risks and uncertainties, including but not limited to the risks
described under the “Risk Factors” section in Part II below.
We encourage you to read our Risk
Factors descriptions carefully. We caution you not to place undue
reliance on the forward-looking statements contained in this
report. These statements, like all statements in this report, speak
only as of the date of this report (unless an earlier date is indicated) and we
undertake no obligation to update or revise the statements except as required by
law. Such forward-looking statements are not guarantees of future
performance and actual results will likely differ, perhaps materially, from
those suggested by such forward-looking statements.
Overview
Regenerative
Cell Technology
At
Cytori, our goal is to become a global provider of medical technologies, helping
doctors practice regenerative medicine. Regenerative medicine describes the
emerging field that aims to repair or restore lost or damaged organ and cell
function. Our commercial activities are currently focused on reconstructive
surgery in Europe and Asia and stem and regenerative cell banking (cell
preservation). Our product pipeline is focused on new treatments for
cardiovascular disease, orthopedic damage, gastrointestinal disorders, and
pelvic health conditions.
The
foundation of our business is the Celution® System product platform. The
platform products process the patients’ cells at the bedside in real time so
these cells may be re-transplanted into the same patient in the same surgical
procedure. The Celution® System family of products consists of a central device
and related single-use consumables that are used in every procedure. We are
developing as many applications as possible for the cells, which are processed
by the Celution® System family of products, in order to increase and maximize
sales of the central device and related consumables to hospitals, clinics, and
physicians.
The
Celution® 800 and 900 are bedside systems that separate stem and regenerative
cells residing naturally within adipose (fat tissue). We introduced the
Celution® 800/CRS in Europe and Asia for the reconstructive surgery market in
the first quarter of 2008 and marketing efforts are underway for the Celution®
900/MB as part of our comprehensive stem cell banking (cryopreservation) product
offering. We believe these two markets offer the potential for revenue growth
over the next few years until new products come out of our development pipeline.
This product development pipeline includes applications for cardiovascular
disease, for which two clinical trials are presently underway in Europe, spinal
disc repair, gastrointestinal disorders, and pelvic health
conditions.
16
In 2008,
we will focus on the following initiatives:
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Launching
the StemSource™ Cell Bank to hospitals in Japan through our
commercialization partner, Green Hospital Supply,
Inc.
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Launching
the StemSource™ Cell Banks to hospitals in Asia-Pacific and
Europe
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Continue
commercialization of the Celution® 800/CRS in Europe and Asia-Pacific into
the reconstructive surgery market to select physicians and hospitals
through our specialized medical distribution
network
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Completing
our post-marketing study in Europe with the Celution® 800/CRS for the
reconstruction of breast tissue following partial mastectomy to support
expanded marketing efforts and
reimbursement
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Advancing
our cardiovascular disease product pipeline through clinical
development
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Continue
pursuing development and commercialization
partnerships
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During
the first quarter of 2008, we received the first orders for Celution® System
products, which were sold into the European and Asian reconstructive surgery
market. A broader launch is expected following the successful completion of at
least one breast reconstruction post-partial mastectomy post-marketing study
designed to provide Cytori with additional clinical data to support broad
physician adoption and reimbursement. Breast reconstruction is a niche market
that we are pursuing because there is a significant medical need for viable
reconstructive alternatives to partial mastectomy patients. This segment of the
reconstructive surgery market may also be effectively addressed with targeted
sales and distribution efforts.
There are
an estimated 370,000 patients in Europe diagnosed each year with breast cancer,
of which approximately 75% are eligible to undergo partial mastectomy. Based on
this figure and the survival rate for breast cancer patients, there are already
millions of women in Europe who have been treated for breast cancer, for which a
percentage could be eligible for partial mastectomy defect
reconstruction.
Reconstruction
of partial mastectomy defects using adipose-derived stem and regenerative cells,
processed with the Celution® 600 System (a predecessor to the Celution® 800
System), was reported in December 2007 to be safe and effective in a 21 patient,
investigator-initiated study in Japan. While more clinical trials
will be required, the study observed that combining adipose-derived stem and
regenerative cells with additional adipose tissue in order to fill the defect
area was safe and resulted in 79% patient satisfaction, with a statistically
significant improvement and maintenance of tissue thickness six months following
surgery. These results formed the basis for the design of our company-sponsored
post-marketing study in Europe, RESTORE II, which was approved to begin in the
second quarter of 2008.
In the
third quarter of 2007, we entered into a partnership to commercialize the
Celution® 900-based StemSource™ Cell Bank to hospitals throughout Japan. This
partnership is important as it allows us to capitalize near-term in a scalable
fashion on another application for the Celution® System platform, the
cryopreservation of cells, which is estimated to be a large, untapped medical
market in Japan. Additionally, Cytori will generate recurring
revenues each time a patient preserves their cells, which will require a
single-use consumable. Marketing and commercialization efforts are currently
underway to hospitals in Japan, Asia and Europe.
In the
United States, we are planning to expand the commercial efforts for the
StemSource™ Cell Bank business starting in 2008 through limited marketing
activities. Unlike in Japan, we will process and store cells from patients at
our licensed cryopreservation facility in San Diego. Once established we may
continue to commercialize on our own or license the U.S. StemSourceTM
business to a strategic partner.
The most
advanced therapeutic application in our product development pipeline is
cardiovascular disease. We currently have two clinical trials underway for
adipose-derived stem and regenerative cells for the treatment of cardiovascular
disease, one targeting a chronic form of heart disease and the other targeting
heart attacks, an acute form of heart disease.
We
identified this market as a priority because we believe there is significant
need for new forms of cardiovascular disease treatment and because it represents
one of the largest global healthcare market opportunities. The American Heart
Association estimates that in the United States of America alone, there are
approximately 865,000 heart attacks each year and more than 13,000,000 people
suffer from coronary heart disease.
Olympus
Partnership
On
November 4, 2005, we entered into a strategic development and manufacturing
joint venture agreement and other related agreements (“JV Agreements”) with
Olympus Corporation (“Olympus”). As part of the terms of the JV
Agreements, we formed a joint venture, Olympus-Cytori, Inc. (the “Joint
Venture”), to develop and manufacture future generation devices based on our
Celution® System platform.
Under the
Joint Venture Agreements:
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·
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Olympus
paid $30,000,000 for its 50% interest in the Joint
Venture. Moreover, Olympus simultaneously entered into a
License/Joint Development Agreement with the Joint Venture and us to
develop a second generation commercial system and manufacturing
capabilities.
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17
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·
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We
licensed our device technology, including the Celution® System platform
and certain related intellectual property, to the Joint Venture for use in
future generation devices. These devices will process and
purify adult stem and regenerative cells residing in adipose (fat) tissue
for various therapeutic clinical applications. In exchange for
this license, we received a 50% interest in the Joint Venture, as well as
an initial $11,000,000 payment from the Joint Venture; the source of this
payment was the $30,000,000 contributed to the Joint Venture by
Olympus. Moreover, upon receipt of a CE mark for the first
generation Celution® System platform in January 2006, we received an
additional $11,000,000 development milestone payment from the Joint
Venture.
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Put/Calls and
Guarantees
The
Shareholders’ Agreement between Cytori and Olympus provides that in certain
specified circumstances of insolvency or if we experience a change in control,
Olympus will have the rights to (i) repurchase our interests in the Joint
Venture at the fair value of such interests or (ii) sell its own interests in
the Joint Venture to Cytori at the higher of (a) $22,000,000 or (b) the Put’s
fair value.
As of
March 31, 2008, the fair value of the Put was
$1,200,000. Fluctuations in the Put value are recorded in the
statements of operations as a component of change in fair value of option
liabilities. The fair value of the Put has been recorded as a long-term
liability on the consolidated condensed balance sheets in the caption option
liability.
The Put
has no expiration date. Accordingly, we will continue to recognize a
liability for the Put and mark it to market each quarter until it is exercised
or until the arrangements with Olympus are amended.
Olympus-Cytori Joint
Venture
The Joint
Venture currently has exclusive access to our technology for the development,
manufacture, and supply of the devices (second generation and beyond) for all
therapeutic applications. Once a later generation Celution® System is
developed and approved by regulatory agencies, the Joint Venture would sell such
systems exclusively to us at a formula-based transfer price; we have retained
marketing rights to the second generation devices for all therapeutic
applications of adipose stem and regenerative cells.
We have
worked closely with Olympus’ team of scientists and engineers to design the
future generations Celution® System so that it will contain certain product
enhancements and that can be manufactured in a streamlined manner.
In August
2007, we entered into a License and Royalty Agreement (“Royalty Agreement”) with
the Joint Venture which provides us the ability to commercially launch the
Celution® System platform earlier than we could have otherwise done so under the
terms of the Joint Venture Agreements. The Royalty Agreement allows
for the sale of the Cytori-developed Celution® System platform until
such time as the Joint Venture’s products are commercially available
for the same market served by Cytori platform, subject to a reasonable royalty
that will be payable to the Joint Venture for all such sales.
We
account for our investment in the Joint Venture under the equity method of
accounting.
Other Related Party
Transactions
In a
separate agreement entered into on February 23, 2006, we granted Olympus an
exclusive right to negotiate a commercialization collaboration for the use of
adipose stem and regenerative cells for a specific therapeutic area outside of
cardiovascular disease. In exchange for this right, we received a
$1,500,000 payment from Olympus. As part of this agreement, Olympus
will conduct market research and pilot clinical studies in collaboration with us
for the therapeutic area up to December 31, 2008 when this exclusive right will
terminate.
MacroPore
Biosurgery
Spine and orthopedic
products
By
selling our spine and orthopedic surgical implant business to Kensey Nash
Corporation (“Kensey Nash”) in the second quarter of 2007, we have completed our
transition away from the bioresorbable product line for which we were originally
founded.
Thin Film Japan Distribution
Agreement
In 2004,
we sold the majority of our Thin Film business to MAST. We retained
all rights to Thin Film business in Japan (subject to a purchase option of MAST,
which expired in May 2007), and we received back from MAST a license of all
rights to Thin Film technologies in the spinal field, exclusive at least until
2012, and the field of regenerative medicine, non-exclusive on a perpetual
basis.
18
In the
third quarter of 2004, we entered into a Distribution Agreement with
Senko. Under this agreement, we granted to Senko an exclusive license
to sell and distribute certain Thin Film products in
Japan. Specifically, the license covers Thin Film products with the
following indications: anti-adhesion; soft tissue support; and minimization of
the attachment of soft tissues. The Distribution Agreement with Senko
commences upon “commercialization.” Commercialization will occur when
one or more Thin Film product registrations are completed with the Japanese
Ministry of Health, Labour and Welfare (“MHLW”). Following
commercialization, the Distribution Agreement has a duration of five years and
is renewable for an additional five years after reaching mutually agreed minimum
purchase guarantees.
We
received a $1,500,000 upfront license fee from Senko. We have
recorded the $1,500,000 received as a component of deferred revenues in the
accompanying consolidated condensed balance sheet. Half of the
license fee is refundable if the parties agree commercialization is not
achievable and a proportional amount is refundable if we terminate the
arrangement, other than for material breach by Senko, before three years
post-commercialization.
Under the
Distribution Agreement, we will also be entitled to earn additional payments
from Senko based on achieving defined milestones. On September 28,
2004, we notified Senko of completion of the initial regulatory application to
the MHLW for the Thin Film product. As a result, we became entitled
to a nonrefundable payment of $1,250,000, which we received in October 2004 and
recorded as a component of deferred revenues. We did not recognize
any development revenues with respect to Senko during the three months ended
March 31, 2008 and 2007, respectively.
Liquidity
As our
regenerative cell technology business is still in the development stage and
requires large amounts of cash, it is important that we maintain sufficient
liquidity to support our future cash needs. As of March 31, 2008, we
had cash and cash equivalents and short-term investments on hand of $8,010,000,
which was primarily derived from:
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$3,175,000
proceeds from the sale of our spine and orthopedic product line to Kensey
Nash in May 2007,
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$6,000,000
we received in the second quarter of 2007 from the sale of 1,000,000
shares of common stock to Green Hospital Supply, Inc.,
and
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$6,000,000
we received in the first quarter of 2008 from the sale of 1,000,000 shares
of common stock to Green Hospital Supply,
Inc.
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Results
of Operations
Our
overall net loss for the three months ended March 31, 2008 was $8,273,000, which
was driven by $4,963,000 in research and development expenses and $3,111,000 in
general and administrative expenses. This compares to a net loss for the first
quarter of 2007 of $8,669,000, which consisted of $4,996,000 in research and
development expenses and $3,166,000 in general and administrative expenses. The
net loss for the three months ended March 31, 2008 reflects expenses related to
preparations for regenerative cell technology commercialization, including
build-out of our manufacturing capability, as well as costs associated with
clinical trials. The losses for these periods were offset in part by
the recognition of development revenue as well as recognition of revenue on the
first of our Celution® System product sales. We currently expect our
net operating loss for 2008 will be approximately $23,000,000.
19
Product
revenues
Product
revenues in 2008 relate to our regenerative cell technology segment and
consisted of revenues from our Celution® System products. Product
revenues in 2007 relate to our MacroPore Biosurgery segment and consisted of
revenues from our spine and orthopedic products. The following table
summarizes the components for the three months ended March 31, 2008 and
2007:
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For
the three months ended March 31,
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2008
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2007
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$
Differences
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%
Differences
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|||||||||||||
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Regenerative cell
technology:
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Celution®
Systems
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$ | 153,000 | $ | — | $ | 153,000 | — | |||||||||
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MacroPore
Biosurgery:
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Spine
and orthopedic products
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— | 280,000 | (280,000 | ) | — | |||||||||||
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Total
product
revenues
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$ | 153,000 | $ | 280,000 | $ | (127,000 | ) | (45.4 | )% | |||||||
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%
attributable to
Medtronic
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— | 100 | % | |||||||||||||
Beginning
in March of 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 generally 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 product
sales to customers who arrange for and manage all aspects of the shipping
process, we recognize revenue upon shipment from our
facilities. Shipping and handling costs that are billed to our
customers are classified as revenue. As of March 31, 2008, we
received orders and shipped products for $954,000, $801,000 of which we expect
to recognize as revenue in the subsequent quarter upon these shipments reaching
their final destination.
Spine and
orthopedic product revenues represent sales of bioresorbable implants used in
spine and orthopedic surgical procedures. We sold this line of
business to Kensey Nash in May 2007.
The future. We
expect to have product revenues related to our MacroPore Biosurgery segment
again when commercialization of the Thin Film products in Japan occurs and we
begin Thin Film shipments to Senko.
We expect
to generate product revenues during 2008 related to our regenerative cell
therapy segment from the sale of our Celution® devices and single-use
consumables related to breast reconstructive surgery as well as from our August
2007 commercialization agreement with Green Hospital Supply, Inc. for
regenerative cell banking in Japan. In addition, we expect to
generate revenues for regenerative cell banking in other countries in Asia and
Europe.
Cost of product
revenues
Cost of
product revenues for 2008 relates to Celution® System products in our
regenerative cell technology segment and includes material, manufacturing labor,
overhead costs, and an inventory provision, if applicable. Cost of
product revenues for 2007 relates to spine and orthopedic products in our
MacroPore Biosurgery segment and includes material, manufacturing labor,
overhead costs, and an inventory provision, if applicable. The
following table summarizes the components of our cost of revenues for the three
months ended March 31, 2008 and 2007:
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For
the three months ended March 31,
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2008
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2007
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$
Differences
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%
Differences
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Regenerative cell
technology:
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Cost
of product
revenues
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$ | 54,000 | $ | — | $ | 54,000 | — | |||||||||
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Share-based
compensation
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6,000 | — | 6,000 | — | ||||||||||||
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Total
regenerative cell technology
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60,000 | — | 60,000 | — | ||||||||||||
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MacroPore
Biosurgery:
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Cost
of product
revenues
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— | 215,000 | (215,000 | ) | — | |||||||||||
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Share-based
compensation
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— | 10,000 | (10,000 | ) | — | |||||||||||
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Total
MacroPore
Biosurgery
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— | 225,000 | (225,000 | ) | — | |||||||||||
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Total
cost of product
revenues
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$ | 60,000 | $ | 225,000 | $ | (165,000 | ) | (73.3 | )% | |||||||
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Total
cost of product revenues as % of product revenues
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39.2 | % | 80.4 | % | ||||||||||||
20
Regenerative
cell technology:
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·
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The
increase in cost of product revenues for the three months ended March 31,
2008 as compared to the same periods in 2007 was due to Celution® System
product sales for which revenue was recognized during the first quarter of
2008. Cost of sales included an economic benefit of
approximately $35,000 related to inventory and labor/overhead previously
expensed as research and development prior to commercialization date of
March 1, 2008 that was sold during the first
quarter.
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Cost
of product revenues included approximately $6,000 of share-based
compensation expense for the three months ended March 31,
2008. For further details, see share-based compensation
discussion below.
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MacroPore
Biosurgery:
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·
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The
decrease in cost of product revenues for the three months ended March 31,
2008 as compared to the same period in 2007 was due to a decrease in
production of MacroPore Biosurgery spine and orthopedic products, followed
by our sale of the product line in May
2007.
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·
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Cost
of product revenues included approximately $10,000 of share-based
compensation expense for the three months ended March 31,
2007. For further details, see share-based compensation
discussion below.
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The future. We
expect to see a nominal decrease of gross profit margin for the regenerative
cell technology segment as the balance of production inventory on hand that was
previously expensed decreases. We expect to incur costs related to our MacroPore
products once commercialization is achieved for our Japan Thin Film product
line.
Development
revenues
The following table summarizes the
components of our development revenues for the three months ended March 31, 2008
and 2007:
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For
the three months ended March 31,
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||||||||||||||||
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2008
|
2007
|
$
Differences
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%
Differences
|
|||||||||||||
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Regenerative cell
technology:
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Development
(Olympus)
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$ | 774,000 | $ | — | $ | 774,000 | — | |||||||||
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Regenerative
cell storage services and other
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37,000 | 45,000 | (8,000 | ) | (17.8 | )% | ||||||||||
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Total
regenerative cell technology
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811,000 | 45,000 | 766,000 | 1,702.2 | % | |||||||||||
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MacroPore
Biosurgery:
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Development
(Senko)
|
— | — | — | — | ||||||||||||
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Total
development
revenues
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$ | 811,000 | $ | 45,000 | $ | 766,000 | 1,702.2 | % | ||||||||
Regenerative
cell technology:
|
|
·
|
We
recognize deferred revenues, related party, as development revenue when
certain performance obligations are met (i.e., using a proportional
performance approach). During the three months ended March 31,
2008, we recognized $774,000 of revenue associated with our arrangements
with Olympus.
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MacroPore
Biosurgery:
Under a
distribution agreement with Senko we are entitled to earn payments based on
achieving certain milestones. We did not recognize any revenue for
the three months ended March 31, 2008 and 2007, respectively.
The future. We
don’t expect to recognize additional development revenues from our regenerative
cell technology segment during the remainder of 2008, as the anticipated
completion for the next phase of our Joint Venture and other Olympus product
development performance obligations is in 2009. The exact timing of
when amounts will be reported in revenue will depend on internal factors (for
instance, our ability to complete certain contributions and obligations that we
have agreed to perform) as well as external considerations, including obtaining
certain regulatory clearances and/or approvals related to the Celution®
System. The cash for these contributions and obligations was received
when the agreement was signed and no further related cash payments will be made
to us.
We will
continue to recognize revenue from the Thin Film development work we are
performing on behalf of Senko, based on the relative fair value of the
milestones completed as compared to the total efforts expected to be necessary
to obtain regulatory clearance from the MHLW. We are still awaiting
regulatory clearance from the MHLW in order for initial commercialization to
occur. Accordingly, we expect to recognize approximately $1,129,000
(consisting of $879,000 in deferred revenues plus a non-refundable payment of
$250,000 to be received upon commercialization) in revenues associated with this
milestone arrangement when regulatory approval is achieved. Moreover,
we expect to recognize $500,000 per year associated with deferred Senko license
fees over a three-year period following commercialization as the refund rights
associated with the license payment expire.
21
Research and development
expenses
Research
and development expenses include costs associated with the design, development,
testing and enhancement of our products, regulatory fees, the purchase of
laboratory supplies, pre-clinical studies and clinical studies. The
following table summarizes the components of our research and development
expenses for the three months ended March 31, 2008 and 2007:
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For
the three months ended March 31,
|
||||||||||||||||
|
2008
|
2007
|
$
Differences
|
%
Differences
|
|||||||||||||
|
Regenerative cell
technology:
|
||||||||||||||||
|
Regenerative
cell technology
|
$ | 3,976,000 | $ | 3,235,000 | $ | 741,000 | 22.9 | % | ||||||||
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Development
milestone (Joint Venture)
|
842,000 | 1,505,000 | (663,000 | ) | (44.1 | )% | ||||||||||
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Share-based
compensation
|
140,000 | 152,000 | (12,000 | ) | (7.9 | )% | ||||||||||
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Total
regenerative cell technology
|
4,958,000 | 4,892,000 | 66,000 | 1.3 | % | |||||||||||
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MacroPore
Biosurgery:
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||||||||||||||||
|
Bioresorbable
polymer implants
|
5,000 | 102,000 | (97,000 | ) | (95.1 | )% | ||||||||||
|
Development
milestone (Senko)
|
— | 1,000 | (1,000 | ) | — | |||||||||||
|
Share-based
compensation
|
— | 1,000 | (1,000 | ) | — | |||||||||||
|
Total
MacroPore Biosurgery
|
5,000 | 104,000 | (99,000 | ) | (95.2 | )% | ||||||||||
|
Total
research and development expenses
|
$ | 4,963,000 | $ | 4,996,000 | $ | (33,000 | ) | (0.7 | )% | |||||||
Regenerative
cell technology:
|
·
|
Regenerative
cell technology expenses relate to the development of a technology
platform that involves using adipose tissue as a source for autologous
regenerative cells for therapeutic applications. These
expenses, in conjunction with our continued development efforts related to
our Celution® System, result primarily from the broad expansion of our
research and development efforts enabled by the funding we received from
Olympus in 2005 and 2006 and from other investors during the last few
years. Labor-related expenses, not including share-based
compensation, decreased by $134,000 for the three months ended March 31,
2008, respectively as compared to the same period in 2007 primarily due to
the decrease in headcount for research and development department as a
result of achievement of commercialization and transfer of employees from
research and development to the manufacturing
department. Professional services expense increased by $180,000
for the three months ended March 31, 2008 as compared to the same period
in 2007. This was due to increased use of consultants and
temporary labor during the current quarter. Pre-clinical and
clinical study expense decreased by $211,000 for the three months ended
March 31, 2008 as compared to the same period in 2007. This
fluctuation was due primarily to a transition in focus from pre-clinical
studies to clinical studies, most of which are in the early stage of
completion. Rent and utilities expense decreased by $85,000 in the
three months ended March 31, 2008 as compared to the same period in 2007
primarily due the termination of leases at our Top Gun location in San
Diego, CA. However, expenses for other supplies increased by
$223,000 for the three months ended March 31, 2008, as compared to the
same period in 2007, primarily due to purchases of production related
supplies prior to our commercialization
date.
|
|
·
|
Expenditures
related to the Joint Venture with Olympus, which are included in the
variation analysis above, include costs that are necessary to support the
commercialization of future generation devices based on our Celution®
System. These development activities, which began in November
2005, include performing pre-clinical and clinical studies, seeking
regulatory approval, and performing product development related to
therapeutic applications for adipose regenerative cells for multiple large
markets. For the three months ended March 31, 2008 and 2007,
costs associated with the development of the device were $842,000 and
$1,505,000, respectively. The decrease in the costs related to
the Joint Venture with Olympus is primarily due to the completion of
pre-clinical milestone activities. The three months ended March
31, 2008 and 2007 expenses were composed of $484,000 and $891,000 in labor
and related benefits, $150,000 and $306,000 in consulting and other
professional services, $34,000 and $190,000 in supplies and $174,000 and
$118,000, respectively, in other miscellaneous
expense.
|
|
·
|
Share-based
compensation for the regenerative cell technology segment of research and
development was $140,000 and $152,000 for the three months ended March 31,
2008 and 2007, respectively. See share-based compensation
discussion below for more details.
|
22
MacroPore
Biosurgery:
|
·
|
Labor
and related benefits expense, not including share-based compensation,
decreased by $60,000 for the three months ended March 31, 2008 as compared
to the same period in 2007. This was due to a redistribution of
labor resources from one business segment to the other, as well as to
termination of spine and orthopedics product research upon sale of that
product line in May 2007.
|
|
·
|
Under
a distribution agreement with Senko, we are responsible for the completion
of the initial regulatory application to the MHLW and commercialization of
the Thin Film product line in Japan. Commercialization occurs
when one or more Thin Film product registrations are completed with the
MHLW. During the three months ended March 31, 2008 and 2007, we
incurred $0 and $1,000, respectively, of expenses related to this
regulatory and registration
process.
|
|
·
|
Share-based
compensation for the MacroPore Biosurgery segment of research and
development for the three months ended March 31, 2008 and 2007 was $0 and
$1,000, respectively. See share-based compensation discussion
below for more details.
|
The future. Our
strategy is to continue our research and development efforts in the regenerative
cell field and we anticipate expenditures in this area of research to total
approximately $22,000,000 to $24,000,000 in 2008. We are working to
develop therapies for cardiovascular disease as well as new approaches for
aesthetic and reconstructive surgery, gastrointestinal disorders and spine and
orthopedic conditions. We are also developing a regenerative cell
banking platform for use in hospitals and clinics that will preserve harvested
regenerative cells for potential future use. The expenditures have
related and will continue to primarily relate to developing therapeutic
applications and conducting pre-clinical and clinical studies on adipose-derived
regenerative cells.
Sales and marketing
expenses
Sales and
marketing expenses include costs of marketing personnel, tradeshows, physician
training, and promotional activities and materials. Before the sale
of our spine and orthopedic implant product line in May 2007, Medtronic was
responsible for the distribution, marketing, and sales support of our spine and
orthopedic devices. The following table summarizes the components of
our sales and marketing expenses for the three months ended March 31, 2008 and
2007:
|
For
the three months ended March 31,
|
||||||||||||||||
|
2008
|
2007
|
$
Differences
|
%
Differences
|
|||||||||||||
|
Regenerative cell
technology:
|
||||||||||||||||
|
International
sales and marketing
|
$ | 834,000 | $ | 434,000 | $ | 400,000 | 92.2 | % | ||||||||
|
Share-based
compensation
|
80,000 | 70,000 | 10,000 | 14.3 | % | |||||||||||
|
Total
regenerative cell technology
|
914,000 | 504,000 | 410,000 | 81.3 | % | |||||||||||
|
MacroPore
Biosurgery:
|
||||||||||||||||
|
General
corporate marketing
|
— | 13,000 | (13,000 | ) | — | |||||||||||
|
International
sales and marketing
|
44,000 | 29,000 | 15,000 | 51.7 | % | |||||||||||
|
Total
MacroPore Biosurgery
|
44,000 | 42,000 | 2,000 | 4.8 | % | |||||||||||
|
Total
sales and marketing expenses
|
$ | 958,000 | $ | 546,000 | $ | 412,000 | 75.5 | % | ||||||||
Regenerative
Cell Technology:
|
·
|
The
increase in international sales and marketing expense for the three months
ended March 31, 2008 as compared to same period in 2007 was mainly
attributed to the increase in salary and related benefits expense of
$226,000, not including share-based compensation, increase in travel
related expenses of $56,000, and increase in printing, supplies, and
postage of $54,000, which are due to our emphasis in seeking strategic
alliances and/or co-development partners for our regenerative cell
technology.
|
|
·
|
Share-based
compensation for the regenerative cell segment of sales and marketing for
the three months ended March 31, 2008 and 2007 was $80,000 and $70,000,
respectively. See share-based compensation discussion below for
more details.
|
MacroPore
Biosurgery:
|
·
|
General
corporate marketing expenditures relate to expenditures for maintaining
our corporate image and reputation within the research and surgical
communities relevant to bioresorbable
implants. Expenditures in this area declined to $0 in
2008 as we focused more on our regenerative cell technology business and
exited from our spine and orthopedic implant
business.
|
23
|
·
|
International
sales and marketing expenditures relate to costs associated with
developing an international bioresorbable Thin Film distributor and
supporting a bioresorbable Thin Film sales office in
Japan.
|
The future. We
expect sales and marketing expenditures related to the regenerative cell
technology to increase as we continue to expand our pursuit of strategic
alliances and co-development partners, as well as market our Celution®
System.
General and administrative
expenses
General
and administrative expenses include costs for administrative personnel, legal
and other professional expenses, and general corporate expenses. The
following table summarizes the general and administrative expenses for the three
months ended March 31, 2008 and 2007:
|
For
the three months ended March 31,
|
||||||||||||||||
|
2007
|
2007
|
$
Differences
|
%
Differences
|
|||||||||||||
|
General
and administrative
|
$ | 2,783,000 | $ | 2,851,000 | $ | (68,000 | ) | (2.4 | )% | |||||||
|
Share-based
compensation
|
328,000 | 315,000 | 13,000 | 4.1 | % | |||||||||||
|
Total
general and administrative expenses
|
$ | 3,111,000 | $ | 3,166,000 | $ | (55,000 | ) | (1.7 | )% | |||||||
|
·
|
An
overall decrease (excluding stock-based compensation) occurred during the
three months ended March 31, 2008 as compared to the same period in
2007. This resulted primarily from a decrease in professional
services of $445,000, partially offset by an increase in labor-related
expenses of $191,000 for the three months ended March 31, 2008 as compared
to the same period in 2007. The decrease in professional
services was primarily due to a non-recurring fee of $322,000 incurred
during first quarter of 2007 related to our February 2007 sale of common
stock.
|
|
·
|
We
have incurred substantial legal expenses in connection with the University
of Pittsburgh’s lawsuit. Although we are not litigants and are
not responsible for any settlement costs, if the University of Pittsburgh
wins the lawsuit, our license rights to the patent in question could be
nullified or rendered non-exclusive. The amended license
agreement we signed with UC in the third quarter of 2006 clarified that we
are responsible for patent prosecution and litigation costs related to
this lawsuit. In the three months ended March 31, 2008 and
2007, we expensed $167,000 and $92,000, respectively, for legal fees
related to this license. Our legal expenses related to this
lawsuit will fluctuate depending upon the activity incurred during each
period.
|
|
·
|
Share-based
compensation related to general and administrative expense for the three
months ended March 31, 2008 and 2007 was $328,000 and $315,000,
respectively. See share-based compensation discussion below for
more details.
|
The future. We
expect general and administrative expenses of approximately $10,000,000 to
$12,000,000 in 2008. We will seek ways to minimize the ratio of these
expenses to research and development expenses.
Share-based compensation
expenses
We
adopted SFAS 123R on January 1, 2006. The following table summarizes
the components of our share-based compensation for the three months ended March
31, 2008 and 2007:
|
For
the three months ended March 31,
|
||||||||||||||||
|
2008
|
2007
|
$
Differences
|
%
Differences
|
|||||||||||||
|
Regenerative
cell technology:
|
||||||||||||||||
|
Cost
of product revenues
|
$ | 6,000 | $ | — | $ | 6,000 | — | |||||||||
|
Research
and development-related
|
140,000 | 152,000 | (12,000 | ) | (7.9 | )% | ||||||||||
|
Sales
and marketing-related
|
80,000 | 70,000 | 10,000 | 14.3 | % | |||||||||||
|
Total
regenerative cell technology
|
226,000 | 222,000 | 4,000 | 1.8 | % | |||||||||||
|
MacroPore
Biosurgery:
|
||||||||||||||||
|
Cost
of product revenues
|
— | 10,000 | (10,000 | ) | — | |||||||||||
|
Research
and development-related
|
— | 1,000 | (1,000 | ) | — | |||||||||||
|
Sales
and marketing-related
|
— | — | — | — | ||||||||||||
|
Total
MacroPore Biosurgery
|
— | 11,000 | (11,000 | ) | — | |||||||||||
|
General
and administrative-related
|
328,000 | 315,000 | 13,000 | 4.1 | % | |||||||||||
|
Total
share-based compensation
|
$ | 554,000 | $ | 548,000 | $ | 6,000 | 1.1 | % | ||||||||
24
Most of
the expenses in both periods related to the vesting of stock option awards to
employees. During the first quarter of 2008, we issued to our
officers and directors stock options to purchase up to 450,000 shares of our
common stock, with a four-year graded vesting schedule for our officers and
two-year graded vesting for our directors. The grant date fair value of option
awards granted to our officers and directors was $2.73 per share. The resulting
share-based compensation expense of $1,230,000, net of estimated forfeitures,
will be recognized as expense over the respective service periods.
The future. We expect
to continue to grant options (which will result in an expense) to our employees
and, as appropriate, to non-employee service providers. In addition,
previously-granted options will continue to vest in accordance with their
original terms. As of March 31, 2008, the total compensation cost related
to non-vested stock options not yet recognized for all our plans is
approximately $5,155,000. These costs are expected to be recognized over a
weighted average period of 1.90 years.
Change in fair value of
option liabilities
The
following is a table summarizing the change in fair value of option liabilities
for the three months ended March 31, 2008 and 2007:
|
For
the three months ended March 31,
|
||||||||||||||||
|
2008
|
2007
|
$
Differences
|
%
Differences
|
|||||||||||||
|
Change
in fair value of put option liability
|
$ | 200,000 | $ | 200,000 | — | — | ||||||||||
|
·
|
In
reference to the Joint Venture, the Shareholders’ Agreement between Cytori
and Olympus provides that in certain specified circumstances of insolvency
or if we experience a change in control, Olympus will have the rights to
(i) repurchase our interests in the Joint Venture at the fair value of
such interests or (ii) sell its own interests in the Joint Venture to us
at the higher of (a) $22,000,000 or (b) the Put’s fair
value. The Put value has been classified as a
liability.
|
The
valuations of the Put were completed using an option pricing theory-based
simulation analysis (i.e., a Monte Carlo simulation). The valuations
are based on assumptions as of the valuation date with regard to the market
value of Cytori and the estimated fair value of the Joint Venture, the expected
correlation between the values of Cytori and the Joint Venture, the expected
volatility of Cytori and the Joint Venture, the bankruptcy recovery rate for
Cytori, the bankruptcy threshold for Cytori, the probability of a change of
control event for Cytori, and the risk-free interest rate.
The
following assumptions were employed in estimating the value of the
Put:
|
March
31, 2008
|
December
31, 2007
|
November
4, 2005
|
||||||||||
|
Expected
volatility of
Cytori
|
60.00 | % | 60.00 | % | 63.20 | % | ||||||
|
Expected
volatility of the Joint Venture
|
60.00 | % | 60.00 | % | 69.10 | % | ||||||
|
Bankruptcy
recovery rate for
Cytori
|
21.00 | % | 21.00 | % | 21.00 | % | ||||||
|
Bankruptcy
threshold for
Cytori
|
$ | 8,957,000 | $ | 9,324,000 | $ | 10,780,000 | ||||||
|
Probability
of a change of control event for Cytori
|
2.33 | % | 2.17 | % | 3.04 | % | ||||||
|
Expected
correlation between fair values of Cytori and the Joint Venture in the
future
|
99.00 | % | 99.00 | % | 99.00 | % | ||||||
|
Risk
free interest
rate
|
3.45 | % | 4.04 | % | 4.66 | % | ||||||
On
January 1, 2008, we adopted certain provisions of Statement of Financial
Accounting Standards (“SFAS”) No. 157, “Fair Value Measurements” (“SFAS
157”). SFAS 157 provides a single definition of fair value and a
common framework for measuring fair value as well as new disclosure requirements
for fair value measurements used in financial statements. SFAS 157
applies to reported balances that are required or permitted to be measured at
fair value under existing pronouncements; accordingly, the standard does not
require any new fair value measurements of reported balances.
In February 2008, the FASB issued Staff
Position “Effective Date
of FASB Statement No. 157” (FSP No. 157-2), which delayed the adoption date
until January 1, 2009 for non-financial assets and liabilities that are measured
at fair value on a non-recurring basis, such as goodwill and identifiable
intangible assets. We do not expect the adoption of the SFAS 157 for
non-financial assets and liabilities to have a material impact on our
consolidated financial position or results of operations.
On
January 1, 2008, we also adopted SFAS No. 159, “The Fair Value Option for
Financial Assets and Financial Liabilities” (“SFAS 159”), which permits
companies to choose to measure many financial instruments and certain other
items at fair value. However, we have not elected to measure any
additional financial instruments or other items at fair value under the
provisions of this standard.
25
SFAS 157
emphasizes that fair value is a market-based measurement, not an entity-specific
measurement. Therefore, a fair value measurement should be determined
based on the assumptions that market participants would use in pricing the asset
or liability. SFAS 157 establishes a three-level hierarchy to
prioritize the inputs used in the valuation techniques to derive fair
values. The basis for fair value measurements for each level within
the hierarchy is described below, with Level 1 having the highest priority and
Level 3 having the lowest:
|
·
|
Level
1: Quoted prices in active markets for identical assets or
liabilities.
|
|
·
|
Level
2: Quoted prices for similar assets or liabilities in active markets;
quoted prices for identical or similar instruments in markets that are not
active; and model-derived valuations in which all significant inputs are
observable in active markets.
|
|
·
|
Level
3: Valuations derived from valuation techniques in which one or more
significant inputs are unobservable in active
markets.
|
The
following table provides a summary of the recognized assets and liabilities that
we measure at fair value on a recurring basis:
|
Balance
as of
|
Basis
of Fair Value Measurements
|
|||||||||||||||
|
March 31, 2008
|
Level 1
|
Level 2
|
Level 3
|
|||||||||||||
|
Assets:
|
||||||||||||||||
|
Cash
equivalents
|
$ | 3,564,000 | $ | 3,564,000 | $ | — | $ | — | ||||||||
|
Liabilities:
|
||||||||||||||||
|
Put
option liability
|
$ | (1,200,000 | ) | $ | — | $ | — | $ | (1,200,000 | ) | ||||||
We use
quoted market prices to determine the fair value of our cash equivalents, which
consist of money market funds and other highly liquid, exchange-traded fixed
income and equity securities, and therefore these are classified in Level 1 of
the fair value hierarchy.
Our put
option liability is valued using an option pricing theory based simulation
analysis (i.e. a Monte Carlo simulation). Assumptions are made with regard to
the market value of Cytori and the estimated fair value of the Joint Venture,
the expected correlation between the values of Cytori and the Joint Venture, the
expected volatility of Cytori and the Joint Venture, the bankruptcy recovery
rate for Cytori, the bankruptcy threshold for Cytori, the probability of a
change of control event for Cytori, and the risk free interest
rate. Because some of the inputs to our valuation model are either
not observable quoted prices or are not derived principally from or corroborated
by observable market data by correlation or other means, the put option
liability is classified as Level 3 in the fair value hierarchy.
The
following table summarizes the change in our Level 3 put option liability
value:
|
Three
months ended
|
||||
|
Put
option liability
|
March 31, 2008
|
|||
|
Beginning
balance January 1, 2008
|
$ | (1,000,000 | ) | |
|
Increase
in fair value recognized in operating expenses
|
(200,000 | ) | ||
|
Ending
balance March 31, 2008
|
$ | (1,200,000 | ) | |
No other
assets or liabilities are measured at fair value on a recurring basis, or have
been measured at fair value on a non-recurring basis subsequent to initial
recognition, on the accompanying consolidated condensed balance sheets as of
March 31, 2008.
The future. The
Put has no expiration date. Accordingly, we will continue to
recognize a liability for the Put until it is exercised or until the
arrangements with Olympus are amended.
Financing
items
The
following table summarizes interest income, interest expense, and other income
and expense for the three months ended March 31, 2008 and 2007:
|
For
the three months ended March 31,
|
||||||||||||||||
|
2008
|
2007
|
$
Differences
|
%
Differences
|
|||||||||||||
|
Interest
income
|
$ | 76,000 | $ | 197,000 | $ | (121,000 | ) | (61.4 | )% | |||||||
|
Interest
expense
|
(23,000 | ) | (52,000 | ) | 29,000 | (55.8 | )% | |||||||||
|
Other
income (expense)
|
11,000 | (4,000 | ) | 15,000 | (375.0 | )% | ||||||||||
|
Total
|
$ | 64,000 | $ | 141,000 | $ | (77,000 | ) | (54.6 | )% | |||||||
26
|
·
|
Interest
income decreased for the three months ended March 31, 2008 as compared to
the same period in 2007 due to a decrease in interest rates and cash
balance available for investment.
|
|
·
|
Interest
expense decreased for the three months ended March 31, 2008 as compared to
the same period in 2007 due to lower principal balances on our long-term
equipment-financed borrowings.
|
|
·
|
The
changes in other income (expense) in the three months ended March 31, 2008
as compared to the same periods in 2007 resulted primarily from changes in
foreign currency exchange rates.
|
The
future. Interest income earned in 2008 will be dependent
on our levels of funds available for investment as well as general economic
conditions. We expect interest expense to remain relatively
consistent during the remainder of 2008.
|
|
Equity
loss from investment in Joint
Venture
|
The
following table summarizes our equity loss from investment in joint venture for
the three months ended March 31, 2008 and 2007:
|
For
the three months ended March 31,
|
||||||||||||||||
|
2008
|
2007
|
$
Differences
|
%
Differences
|
|||||||||||||
|
Equity
loss in investment
|
$ | (9,000 | ) | $ | (2,000 | ) | $ | (7,000 | ) | 350.0 | % | |||||
The
losses relate entirely to our 50% equity interest in the Joint Venture, which we
account for using the equity method of accounting.
The future. We do
not expect to recognize significant losses from the activities of the Joint
Venture in the foreseeable future. Over the next two to three years,
the Joint Venture is expected to incur labor costs related to the development of
our second generation commercial system as well as general and administrative
expenses. Though we have no obligation to do so, we and Olympus plan
to jointly fund the Joint Venture to cover any costs should the Joint Venture
deplete its cash balance.
Liquidity
and Capital Resources
Short-term and long-term
liquidity
The
following is a summary of our key liquidity measures at March 31, 2008 and
December 31, 2007:
|
March
31,
|
December
31,
|
$
|
% | |||||||||||||
|
2008
|
2007
|
Differences
|
Differences
|
|||||||||||||
|
Cash
and cash equivalents
|
$ | 8,010,000 | $ | 11,465,000 | $ | (3,455,000 | ) | (30.1 | )% | |||||||
|
Short-term
investments, available for sale
|
— | — | — | — | ||||||||||||
|
Total
cash and cash equivalents and short-term investments, available for
sale
|
$ | 8,010,000 | $ | 11,465,000 | $ | (3,455,000 | ) | (30.1 | )% | |||||||
|
Current
assets
|
$ | 9,298,000 | $ | 12,238,000 | $ | (2,940,000 | ) | (24.0 | )% | |||||||
|
Current
liabilities
|
7,308,000 | 8,070,000 | (762,000 | ) | (9.4 | )% | ||||||||||
|
Working
capital
|
$ | 1,990,000 | $ | 4,168,000 | $ | (2,178,000 | ) | (52.3 | )% | |||||||
In order
to provide greater financial flexibility and liquidity, and in view of the
substantial cash requirements of our regenerative cell business during its
development stage, we have an ongoing need to raise additional
capital. In the first quarter of 2007, we received net proceeds of
$19,901,000 from the sale of units consisting of 3,746,000 shares of common
stock and 1,873,000 common stock warrants (with an exercise price of $6.25 per
share) under a shelf registration statement. In the
second quarter of 2007, we received net proceeds of $6,000,000 from the sale of
1,000,000 shares of common stock to Green Hospital Supply, Inc. in a private
placement. Also, in the second quarter of 2007, we successfully
divested our spine and orthopedic product line to Kensey Nash for gross proceeds
of $3,175,000.
With
consideration of these endeavors as well as existing funds, additional capital
will need to be raised during 2008 through the operations, and other accessible
sources of financing, to provide us adequate cash to satisfy our working
capital, capital expenditures, debt service and other financial commitments at
least through March 31, 2009. On February 8, 2008, we entered into an
agreement to sell 2,000,000 shares of common stock at $6.00 per share to Green
Hospital Supply, Inc. in a private placement. On February 29, 2008 we
closed the first half of the private placement with Green Hospital Supply, Inc.
and received $6,000,000. We closed the second half of the private placement on
April 30, 2008 and received final installment payment of
$6,000,000.
27
We expect
to utilize our cash and cash equivalents to fund our operations, including
research and development of our products primarily, pre-clinical activities and
for clinical trials. Additionally, we believe that without additional
capital from operations and other accessible sources of financing we do not
currently have adequate funding to complete the development, preclinical
activities and clinical trials required to bring our future products to market,
and therefore, we will require significant additional funding. If we are
unsuccessful in our efforts to raise additional funds through accessible sources
of financing, strategic relationships or through revenue sources, we will be
required to significantly reduce or curtail research and development activities
and other operations. Management actively monitors cash expenditures and
projected expenditures as we progress toward our goals of product
commercialization and sales in an effort to match projected expenditures to
available cash flow.
From
inception to March 31, 2008, we have financed our operations primarily
by:
|
·
|
Issuing
stock in pre-IPO transactions, a 2000 initial public offering in Germany,
and stock option exercises,
|
|
·
|
Generating
revenues,
|
|
·
|
Selling
the bioresorbable implant CMF product line in September
2002,
|
|
·
|
Selling
the bioresorbable implant Thin Film product line (except for the territory
of Japan), in May 2004,
|
|
·
|
Licensing
distribution rights to Thin Film in Japan, in exchange for an upfront
license fee in July 2004 and an initial development milestone payment in
October 2004,
|
|
·
|
Obtaining
a modest amount of capital equipment long-term
financing,
|
|
·
|
Selling
1,100,000 shares of common stock to Olympus under an agreement which
closed in May 2005,
|
|
·
|
Upfront
and milestone fees from our Joint Venture with Olympus, which was entered
into in November 2005,
|
|
·
|
Receiving
funds in exchange for granting Olympus an exclusive right to negotiate in
February 2006,
|
|
·
|
Receiving
$16,219,000 in net proceeds from a common stock sale under the shelf
registration statement in August
2006,
|
|
·
|
Receiving
$19,901,000 in net proceeds from the sale of common stock plus common
stock warrants under the shelf registration statement in February
2007,
|
|
·
|
Receiving
$6,000,000 in net proceeds from a private placement to Green Hospital
Supply, Inc. in April 2007, and
|
|
·
|
Receiving
gross proceeds of $3,175,000 from the sale of our bioresorbable spine and
orthopedic surgical implant product line to Kensey Nash in May 2007,
and
|
|
·
|
Receiving
$6,000,000 in net proceeds from a private placement to Green Hospital
Supply, Inc. in February 2008.
|
We don’t
expect significant capital expenditures during the remainder of 2008; however,
if necessary, we may borrow under our Amended Master Security
Agreement.
Any
excess funds expected to be invested in short-term available-for-sale
investments.
Our cash
requirements for 2008 and beyond will depend on numerous factors, including the
resources we devote to developing and supporting our investigational cell
therapy products, market acceptance of any developed products, regulatory
approvals and other factors. We expect to incur research and
development expenses at high levels in our regenerative cell platform for an
extended period of time and have therefore positioned ourselves to expand our
cash position through actively pursuing co-development and marketing agreements,
research grants, and licensing agreements related to our regenerative cell
technology platform.
28
The
following summarizes our contractual obligations and other commitments at March
31, 2008, and the effect such obligations could have on our liquidity and cash
flow in future periods:
|
Payments
due by period
|
||||||||||||||||||||
|
Contractual
Obligations
|
Total
|
Less
than 1
year
|
1
– 3 years
|
3
– 5 years
|
More
than
5
years
|
|||||||||||||||
|
Long-term
obligations
|
$ | 785,000 | $ | 601,000 | $ | 184,000 | $ | — | $ | — | ||||||||||
|
Interest
commitment on long-term obligations
|
59,000 | 50,000 | 9,000 | — | — | |||||||||||||||
|
Operating
lease obligations
|
3,542,000 | 1,618,000 | 1,924,000 | — | — | |||||||||||||||
|
Minimum
purchase requirements
|
2,970,000 | 1,058,000 | 1,912,000 | — | — | |||||||||||||||
|
Pre-clinical
research study obligations
|
168,000 | 168,000 | — | — | — | |||||||||||||||
|
Clinical
research study obligations
|
8,970,000 | 3,470,000 | 5,100,000 | 400,000 | — | |||||||||||||||
|
Total
|
$ | 16,494,000 | $ | 6,965,000 | $ | 9,129,000 | $ | 400,000 | $ | — | ||||||||||
Cash
(used in) provided by operating, investing, and financing activities for the
three months ended March 31, 2008 and 2007 is summarized as
follows:
|
For
the three months ended March 31,
|
||||||||
|
2008
|
2007
|
|||||||
|
Net
cash used in operating activities
|
$ | (9,162,000 | ) | $ | (8,160,000 | ) | ||
|
Net
cash provided by (used in) investing activities
|
(175,000 | ) | 1,084,000 | |||||
|
Net
cash provided by financing activities
|
5,882,000 | 19,875,000 | ||||||
Operating
activities
Net cash
used in operating activities for both periods presented resulted primarily from
expenditures related to our regenerative cell research and development
efforts.
Research
and development efforts, other operational activities, and a comparatively small
amount of product sales generated an operating loss of $8,273,000 for the three
months ended March 31, 2008. The operating cash impact of this loss
was $9,162,000, after adjusting for the recognition of non-cash development
revenue of $774,000, the consideration of non-cash share-based compensation of
$554,000, other adjustments for material non-cash activities, such as
depreciation and amortization, change in fair value of option liabilities,
changes in working capital due to timing of product shipments (accounts
receivable) and payment of liabilities.
Research
and development efforts, other operational activities, and a comparatively small
amount of product sales generated a $8,669,000 net loss for the three months
ended March 31, 2007. The cash impact of this loss was $8,160,000,
after adjusting for the change in share-based compensation of $548,000, other
adjustments including material non-cash activities, such as depreciation and
amortization, and changes in working capital due to timing of product shipments
(accounts receivable) and payment of liabilities.
Investing
activities
Net cash
used in investing activities for the three months ended March 31, 2008 resulted
primarily from purchases of property and equipment.
Net cash
provided by investing activities for the three months ended March 31, 2007
resulted primarily from net proceeds from the purchase and sale and maturity of
short-term investments.
Capital
spending is essential to our product innovation initiatives and to maintain our
operational capabilities. For the three months ended March 31, 2008
and 2007, we used cash to purchase $175,000 and $130,000, respectively, of
property and equipment, primarily to support the research and development of the
regenerative cell technology platform.
Financing
Activities
The net
cash provided by financing activities for the three months ended March 31, 2008
related mainly to the private issuance of 1,000,000 shares of unregistered
common stock to Green Hospital Supply, Inc. for $6,000,000.
The net
cash provided by financing activities for the three months ended March 31, 2007
related mainly to the issuance of 3,746,000 shares of our common stock and
1,873,000 common stock warrants in exchange for approximately $19,901,000
(net).
29
Critical
Accounting Policies and Significant Estimates
The
preparation of financial statements in conformity with accounting principles
generally accepted in the United States of America requires us to make estimates
and assumptions that affect the reported amounts of our assets, liabilities,
revenues, and expenses, and that affects our recognition and disclosure of
contingent assets and liabilities.
While our
estimates are based on assumptions we consider reasonable at the time they were
made, our actual results may differ from our estimates, perhaps
significantly. If results differ materially from our estimates, we
will make adjustments to our financial statements prospectively as we become
aware of the necessity for an adjustment.
We
believe it is important for you to understand our most critical accounting
policies. These are policies that require us to make our most
significant judgments and, as a result, could have the greatest impact on our
future financial results.
Inventories
Inventories include the cost of
material, labor, and overhead, and are stated at the lower of average cost,
determined on the first-in, first-out (FIFO) method, or market. We
periodically evaluate our on-hand stock and make appropriate provisions for any
stock deemed excess or obsolete. We expense excess manufacturing
costs, that is, costs resulting from lower than “normal” production
levels.
Costs of materials capitalized on the
balance sheet as of March 31, 2008, is representative of the cost of materials
we had on hand as of March 31, 2008 that we purchased on or after March 1,
2008. March 1, 2008 is considered our commercialization date based on
completion of final development activities associated with our Celution® 800/CRS
System products. All materials purchased prior to the
commercialization date were included as research and development expense during
the period they were purchased.
No
inventory provisions were recorded during the first quarter of 2008 and
2007.
Revenue
Recognition
We derive
our revenue from a number of different sources, including but not limited
to:
|
·
|
Fees
for achieving certain defined milestones under research and/or development
arrangements.
|
|
·
|
Product
sales, and
|
|
·
|
Payments
under license or distribution
agreements.
|
A number
of our revenue generating arrangements are relatively simple in nature, meaning
that there is little judgment necessary with regard to the timing of when we
recognize revenues or how such revenues are presented in the financial
statements.
However,
we have also entered into more complex arrangements, including but not limited
to our contracts with Olympus, Senko, and the National Institutes of Health
(NIH). Moreover, some of our non-recurring transactions, such as our
disposition of the majority of our Thin Film business to MAST, contain elements
that relate to our revenue producing activities.
As a
result, some of our most critical accounting judgments relate to the
identification, timing, and presentation of revenue related activities. These
critical judgments are as follows:
Multiple-element
arrangements
Some of
our revenue generating arrangements contains a number of distinct revenue
streams, known as “elements.” For example, our Distribution Agreement
with Senko contains direct or indirect future revenue streams related
to:
|
·
|
A
distribution license fee (which was paid at the outset of the
arrangement),
|
|
·
|
Milestone
payments for achieving commercialization of the Thin Film product line in
Japan,
|
|
·
|
Training
for representatives of Senko,
|
|
·
|
Sales
of Thin Film products to Senko, and
|
|
·
|
Payments
in the nature of royalties on future product sales made by Senko to its
end customers.
|
30
Emerging
Issues Task Force Issue No. 00-21, “Revenue Arrangements with Multiple
Deliverables” (“EITF 00-21”), governs whether each of the above elements in the
arrangement should be accounted for individually, or whether the entire contract
should be treated as a single unit of accounting.
EITF
00-21 indicates that individual elements may be separately accounted for only
when:
|
·
|
The
delivered element has stand alone value to the
customer,
|
|
·
|
There
is objective evidence of the fair value of the remaining undelivered
elements, and
|
|
·
|
If
the arrangement contains a general right of return related to any products
delivered, delivery of the remaining goods and services is probable and
within the complete control of the
seller.
|
In the
case of the Senko Distribution Agreement, we determined that (a) the milestones
payments for achieving commercialization and (b) the future sale of Thin Film
products to Senko were “separable” elements. That is, each of these
elements, upon delivery, will have stand alone value to Senko and there will be
objective evidence of the fair value of any remaining undelivered elements at
that time. The arrangement does not contain any general right of
return, and so this point is not relevant to our analysis.
On the
other hand, we concluded that (a) the upfront distribution license fee, (b) the
revenues from training for representatives of Senko, and (c) the payments in the
form of royalties on future product sales are not separable elements under EITF
00-21.
In
arriving at our conclusions, we had to consider whether our customer, Senko,
would receive stand alone value from each delivered element. We also,
in some cases, had to look to third party evidence to support the fair value of
certain undelivered elements. Finally, we had to make assumptions
about how the non-separable elements of the arrangement are earned, particularly
the estimated period over which Senko will benefit from the arrangement (refer
to the “Recognition” discussion below for further background).
Similarly,
we have attributed the upfront fees received under the arrangements with Olympus
Corporation, a related party, to a combined unit of accounting comprising a
license we granted to Olympus-Cytori, Inc. (the “Joint Venture”), a related
party, as well as development services we agreed to perform for this
entity. We concluded that the license and development services must
be accounted for as a single unit of accounting. In reaching this
conclusion, we determined that the license would not have stand alone value to
the Joint Venture. This is because Cytori is the only party that
could be reasonably expected to perform certain development contributions and
obligations, including product development assistance, certain agreed regulatory
filings and generally associated pre-clinical and clinical studies necessary for
the Joint Venture to derive value from the license.
Recognition
Besides
determining whether to account separately for components of a multiple-element
arrangement, we also use judgment in determining the appropriate accounting
period in which to recognize revenues that we believe (a) have been earned and
(b) are realizable. The following describes some of the recognition
issues we have considered during the reporting period.
|
·
|
Product
Revenues
|
|
o
|
Beginning
in March of 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 generally 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 product sales to customers who arrange for and
manage all aspects of the shipping process, we recognize revenue upon
shipment from our facilities. Shipping and handling costs that
are billed to our customers are classified as revenue, in accordance with
Emerging Issues Task Force Issue No. 00-10, “Accounting for Shipping and
Handling Fees and Costs” (“EITF
00-10).
|
|
·
|
Upfront
License Fees/Milestones
|
|
o
|
As
part of the Senko Distribution Agreement, we received an upfront license
fee upon execution of the arrangement, which, as noted previously, was not
separable under EITF 00-21. Accordingly, the license has been
combined with the development (milestones) element to form a single
accounting unit. This single element of $3,000,000 in fees
includes $1,500,000, which is potentially refundable. We have
recognized, and will continue to recognize, the non-contingent fees
allocated to this combined element as revenues as we complete each of the
performance obligations associated with the milestones component of this
combined deliverable. Note that the timing of when we have
recognized revenues to date does not correspond with the cash we received
upon achieving certain milestones. For example, the first such
milestone payment for $1,250,000 became payable to us when we filed a
commercialization application with the Japanese regulatory
authorities. However, we determined that the payment received
was not commensurate with the level of effort expended, particularly when
compared with other steps we believe are necessary to commercialize the
Thin Film product line in Japan. Accordingly, we did not
recognize the entire $1,250,000 received as revenues, but instead all but
$371,000 of this amount is classified as deferred
revenues. Approximately $371,000 ($10,000 in 2007, $152,000 in
2006, $51,000 in 2005 and $158,000 in 2004) has been recognized to date as
development revenues based on our estimates of the level of effort
expended for completed milestones as compared with the total level of
effort we expect to incur under the arrangement to successfully achieve
regulatory approval of the Thin Film product line in
Japan. These estimates were subject to judgment and there may
be changes to these estimates as we continue to seek regulatory
approval. In fact there can be no assurance that
commercialization in Japan will ever be achieved, as we have yet to
receive approval from the MHLW.
|
31
|
o
|
We
also received upfront fees as part of the Olympus arrangements (although,
unlike in the Senko agreement, these fees were
non-refundable). Specifically, in exchange for an upfront fee,
we granted the Joint Venture an exclusive, perpetual license to certain of
our intellectual property and agreed to perform additional development
activities. This upfront fee has been recorded in the liability
account entitled deferred revenues, related party, on our consolidated
balance sheet. Similar to the Senko agreement, we expect to
recognize revenues from the combined license/development accounting unit
as we perform our obligations under the agreements, as this represents our
final obligation underlying the combined accounting
unit. Specifically, we have recognized revenues from the
license/development accounting unit using a “proportional performance”
methodology, resulting in the de-recognition of amounts recorded in the
deferred revenues, related party, account as we complete various
milestones underlying the development services. Proportional
performance methodology was elected due to the nature of our development
obligations and efforts in support of the Joint Venture (“JV”), including
product development activities, and regulatory efforts to support the
commercialization of the JV products. The application of this methodology
uses the achievement of R&D milestones as outputs of value to the
JV. We received up-front, non-refundable payments in connection
with these development obligations, which we have broken down into
specific R&D milestones that are definable and substantive in nature,
and which will result in value to the JV when achieved. Revenue
will be recognized as the above mentioned R&D milestones are
completed. We established the R&D milestones based upon our
development obligations to the JV and the specific R&D support
activities to be performed to achieve these obligations. Our
R&D milestones consist of the following primary performance
categories: product development, regulatory approvals, and
generally associated pre-clinical and clinical
trials. Within each category are milestones that take
substantive effort to complete and are critical pieces of the overall
progress towards completion of the next generation product, which we are
obligated to support within the agreements entered into with
Olympus. To determine whether substantive effort was required
to achieve the milestones, we considered the external costs, required
personnel and relevant skill levels, the amount of time required to
complete each milestone, and the interdependent relationships between the
milestones, in that the benefits associated with the completion of one
milestone generally support and contribute to the achievement of the
next. Determination of the relative values assigned to each
milestone involved substantial judgment. The assignment process
was based on discussions with persons responsible for the development
process and the relative costs of completing each milestone. We
considered the costs of completing the milestones in allocating the
portion of the “deferred revenues, related party” account balance to each
milestone. Management believes that, while the costs incurred
in achieving the various milestones are subject to estimation, due to the
high correlation of such costs to outputs achieved, the use of external
contract research organization (“CRO”) costs and internal labor costs as
the basis for the allocation process provides management the ability to
accurately and reasonably estimate such costs. The accounting
policy described above could result in revenues being recorded in an
earlier accounting period than had other judgments or assumptions been
made by us.
|
|
·
|
Government
Grants
|
|
o
|
We
are eligible to receive grants from the NIH related to our research on
adipose derived cell therapy to treat myocardial
infarctions. Revenues derived from reimbursement of direct
out-of-pocket expenses for research costs associated with grants are
recorded in compliance with EITF Issue No. 99-19, “Reporting Revenue
Gross as a Principal Versus Net as an Agent”, and EITF Issue No.
01-14, “Income Statement Characterization of Reimbursements Received for
“Out-of-Pocket” Expenses Incurred”. In accordance with the criteria
established by these EITF Issues, the Company records grant revenue for
the gross amount of the reimbursement. The costs associated with
these reimbursements are reflected as a component of research and
development expense in the consolidated statements of
operations. Additionally, research arrangements we have with
NIH, as well commercial enterprises such as Olympus and Senko, are
considered a key component of our central and ongoing
operations. Moreover, the government obtains rights under the
arrangement, in the same manner (but perhaps not to the same extent) as a
commercial customer that similarly contracts with us to perform research
activities. For instance, the government and any authorized
third parties may use our federally funded research and/or inventions
without payment of royalties to us. Accordingly, the inflows
from such arrangements are presented as revenues in the consolidated
statements of operations.
|
Our
policy is to recognize revenues under the NIH grant arrangement as the lesser of
(i) qualifying costs incurred (and not previously recognized), plus our
allowable grant fees for which we are entitled to funding or (ii) the amount
determined by comparing the outputs generated to date versus the total outputs
expected to be achieved under the research arrangement.
32
Goodwill
Impairment Testing
In late
2002, we purchased StemSource, Inc. and recognized over $4,600,000 in goodwill
associated with the acquisition, of which $3,922,000 remains on our balance
sheet as of March 31, 2008. As required by SFAS No. 142, “Goodwill
and Other Intangible Assets” (“SFAS 142”), we must test this goodwill at least
annually for impairment as well as when an event occurs or circumstances change
such that it is reasonably possible that impairment may
exist. Moreover, this testing must be performed at a level of the
organization known as the reporting unit. A reporting unit is at
least the same level as a company’s operating segments, and sometimes even one
level lower. Our two reporting units are the same as our two
operating segments.
Specifically,
the process for testing goodwill for impairment under SFAS 142 involves the
following steps:
|
·
|
Company
assets and liabilities, including goodwill, are allocated to each
reporting unit for purposes of completing the goodwill impairment
test.
|
|
·
|
The
carrying value of each reporting unit – that is, the sum of all of the net
assets allocated to the reporting unit – is then compared to its fair
value.
|
|
·
|
If
the fair value of the reporting unit is lower than its carrying amount,
goodwill may be impaired – additional testing is
required.
|
The
application of the goodwill impairment test involves a substantial amount of
judgment. For instance, SFAS 142 requires that assets and liabilities
be assigned to a reporting unit if both of the following criteria are
met:
|
·
|
The
asset will be employed in or the liability relates to the operations of a
reporting unit.
|
|
·
|
The
asset or liability will be considered in determining the fair value of the
reporting unit.
|
We
developed mechanisms to assign company-wide assets like shared property and
equipment, as well as company-wide obligations such as borrowings under our GE
loan facility, to our two reporting units. In some cases, certain
assets were not allocable to either reporting unit and were left
unassigned.
We
estimated the fair value of our reporting units by using various estimation
techniques. For example in 2006, we estimated the fair value of our
MacroPore Biosurgery reporting unit based on an equal weighting of the market
values of comparable enterprises and discounted projections of estimated future
cash flows. Clearly, identifying comparable companies and estimating
future cash flows as well as appropriate discount rates involve
judgment. On the contrary, we estimated the fair value of our
regenerative cell reporting unit solely using an income approach, as – at that
time – we believed there were no comparable enterprises on which to base a
valuation. The assumptions underlying this valuation method involve a
substantial amount of judgment, particularly since our regenerative cell
business has yet to generate any revenues and does not have a commercially
viable product. The combined value of our goodwill is consistent with
the market’s valuation.
In 2007,
all goodwill that previously had been assigned to our MacroPore Biosurgery
reporting unit was derecognized as a result of our sale of our spine and
orthopedic product line to Kensey Nash. Accordingly, there was no
need to test this component of our business for goodwill impairment in
2007.
Also in
2007, we completed our goodwill impairment testing for our regenerative cell
technology reporting unit using a market-based approach. We concluded
that the fair value of this unit exceeded its carrying value, and that none of
our reported goodwill was impaired.
Again,
the manner in which we assigned assets, liabilities, and goodwill to our
reporting units, as well as how we determined the fair value of such reporting
units, involves significant uncertainties and estimates. The
judgments employed may have an effect on whether a goodwill impairment loss is
recognized.
33
Variable
Interest Entity (Olympus-Cytori Joint Venture)
FASB
Interpretation No. 46 (revised 2003), “Consolidation of Variable Interest
Entities - An Interpretation of ARB No. 51” (“FIN 46R”) requires a variable
interest entity (“VIE”) to be consolidated by its primary
beneficiary. Evaluating whether an entity is a VIE and determining
its primary beneficiary involves significant judgment.
We
concluded that the Olympus-Cytori Joint Venture was a VIE based on the following
factors:
|
·
|
Under
FIN 46R, an entity is a VIE if it has insufficient equity to finance its
activities. We recognized that the initial cash contributed to
the Joint Venture formed by Olympus and Cytori ($30,000,000) would be
completely utilized by the first quarter of 2006. Moreover, it
was highly unlikely that the Joint Venture would be able to obtain the
necessary financing from third party lenders without additional
subordinated financial support – such as personal guarantees by one or
both of the Joint Venture stockholders. Accordingly, the Joint
Venture will require additional financial support from Olympus and Cytori
to finance its ongoing operations, indicating that the Joint Venture is a
VIE. We contributed $300,000 and $150,000 in the fourth quarter
of 2007 and first quarter of 2006, respectively, to fund the Joint
Venture’s ongoing operations.
|
|
·
|
Moreover,
Olympus has a contingent put option that would, in specified
circumstances, require Cytori to purchase Olympus’s interests in the Joint
Venture for a fixed amount of $22,000,000. Accordingly, Olympus
is protected in some circumstances from absorbing all expected losses in
the Joint Venture. Under FIN 46R, this means that Olympus may
not be an “at-risk” equity holder, although Olympus clearly has decision
rights over the operations of the Joint
Venture.
|
Because
the Joint Venture is undercapitalized, and because one of the Joint Venture’s
decision makers may be protected from losses, we have determined that the Joint
Venture is a VIE under FIN 46R.
As noted
previously, a VIE is consolidated by its primary beneficiary. The
primary beneficiary is defined in FIN 46R as the entity that would absorb the
majority of the VIE’s expected losses or be entitled to receive the majority of
the VIE’s residual returns (or both).
Significant
judgment was involved in determining the primary beneficiary of the Joint
Venture. Under FIN 46R, we believe that Olympus and Cytori are
“de facto agents” and, together, will absorb more than 50% of the Joint
Venture’s expected losses and residual returns. Ultimately, we
concluded that Olympus, and not Cytori, was the party most closely related with
the joint venture and, hence, its primary beneficiary. Our conclusion
was based on the following factors:
|
·
|
The
business operations of the Joint Venture will be most closely aligned to
those of Olympus (i.e., the manufacture of
devices).
|
|
·
|
Olympus
controls the Board of Directors, as well as the day-to-day operations of
the Joint Venture.
|
The
application of FIN 46R involves substantial judgment. Had we
consolidated the Joint Venture, though, there would be no effect on our net loss
or shareholders’ equity at March 31, 2008 or for the three months then
ended. However, certain balance sheet and income statement captions
would have been presented in a different manner. For instance, we
would not have presented a single line item entitled investment in joint venture
in our balance sheet but, instead, would have performed a line by line
consolidation of each of the Joint Venture’s accounts into our financial
statements.
Income
Taxes
Income
taxes are accounted for under the asset and liability
method. Deferred tax assets and liabilities are recognized for the
future tax consequences attributable to differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases and operating loss and tax credit carry
forwards. Deferred tax assets and liabilities are measured using
enacted tax rates expected to apply to taxable income (loss) in the years in
which those temporary differences are expected to be recovered or
settled. Due to our history of loss, a full valuation allowance was
recognized against deferred tax assets.
In July
2006, FASB issued Interpretation No. 48, “Accounting for Uncertainty in
Income Taxes—An Interpretation of FASB Statement No. 109” (“FIN
48”). FIN 48 clarifies the accounting for uncertainty in income taxes
recognized in an entity’s financial statements in accordance with FASB Statement
No. 109, “Accounting for Income Taxes”, and prescribes a recognition
threshold and measurement attributes for financial statement disclosure of tax
positions taken or expected to be taken on a tax return. Under FIN 48, the
impact of an uncertain income tax position on the income tax return must be
recognized at the largest amount that is more-likely-than-not to be sustained
upon audit by the relevant taxing authority. An uncertain income tax
position will not be recognized if it has less than a 50% likelihood of being
sustained. Additionally, FIN 48 provides guidance on derecognition,
classification, interest and penalties, accounting in interim periods,
disclosure and transition.
34
Recent
Accounting Pronouncements
In March
2007, the FASB ratified the consensus reached by the Emerging Issues Task Force
(EITF) on Issue No. 07-3, “Accounting for Nonrefundable Advance Payments for
Goods or Services Received for Use in Future Research and Development
Activities” (“EITF 07-3”). EITF 07-3 states that nonrefundable
advance payments for future research and development activities should be
deferred and capitalized. Such amounts should be recognized as an
expense as the goods are delivered or the related services are
performed. The guidance is effective for all periods beginning after
December 15, 2007, which we adopted effective January 1, 2008. The
adoption of EITF 07-3 did not have a significant effect on our consolidated
financial statements.
In
December 2007, the FASB issued SFAS No. 160, “Noncontrolling Interests in
Consolidated Financial Statements - An Amendment of ARB No. 51” ("SFAS
160"). SFAS 160 establishes new accounting and reporting standards
for the noncontrolling interest in a subsidiary and for the deconsolidation of a
subsidiary. SFAS 160 is effective for annual periods beginning on or after
December 15, 2008. We do not believe that the adoption of SFAS 160
will have a significant effect on our consolidated financial
statements.
In
December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business
Combinations” ("SFAS 141R"). SFAS 141R retains the fundamental
requirements of Statement No. 141 to account for all business combinations using
the acquisition method (formerly the purchase method) and for an acquiring
entity to be identified in all business combinations. However, the
new standard requires the acquiring entity in a business combination to
recognize all the assets acquired and liabilities assumed in the transaction;
establishes the acquisition-date fair value as the measurement objective for all
assets acquired and liabilities assumed; and requires the acquirer to disclose
the information they need to evaluate and understand the nature and financial
effect of the business combination. SFAS 141R is effective for
acquisitions made on or after the first day of annual periods beginning on or
after December 15, 2008. We do not believe that the adoption of SFAS
141R will have a significant effect on our consolidated financial
statements.
In
December 2007, the FASB ratified the consensus reached by the Emerging Issues
Task Force on EITF Issue 07-1, “Accounting for Collaborative Arrangements”
(“EITF 07-1”). EITF 07-1 requires collaborators to present the
results of activities for which they act as the principal on a gross basis and
report any payments received from (made to) other collaborators based on other
applicable GAAP or, in the absence of other applicable GAAP, based on analogy to
authoritative accounting literature or a reasonable, rational, and consistently
applied accounting policy election. The guidance is effective for
fiscal years beginning after December 15, 2008. We are currently in
the process evaluating whether the adoption of EITF 07-1 will have a significant
effect on our consolidated financial statements.
In
March 2008, FASB issued SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities-an amendment of FASB Statement No. 133”
(“SFAS 161”). SFAS 161 expands the current disclosure requirements of SFAS
No. 133, “Accounting for Derivative Instruments and Hedging Activities,”
such that entities must now provide enhanced disclosures on a quarterly basis
regarding how and why the entity uses derivatives; how derivatives and related
hedged items are accounted for under SFAS No. 133 and how derivatives and
related hedged items affect the entity’s financial position, performance and
cash flows. Pursuant to the transition provisions of the Statement, the company
will adopt SFAS 161 in fiscal year 2009 and will present the required
disclosures in the prescribed format on a prospective basis. The adoption of
SFAS 161 will not impact the consolidated condensed financial statements as it
is disclosure-only in nature.
Item 3. Quantitative and Qualitative Disclosures about Market
Risk
We are
exposed to market risk related to fluctuations in foreign currency exchange
rates.
Interest
Rate Exposure
We are
not subject to market risk due to fluctuations in interest rates on our
long-term obligations as they bear a fixed rate of interest. Our
exposure relates primarily to short-term investments, including funds classified
as cash equivalents. As of March 31, 2008, all excess funds were
invested in money market funds and other highly liquid investments, therefore
our interest rate exposure is not considered to be material.
35
Foreign
Currency Exchange Rate Exposure
Our
exposure to market risk due to fluctuations in foreign currency exchange rates
relates primarily to our activities in Europe and Japan. Transaction
gains or losses resulting from cash balances and revenues have not been
significant in the past and we are not engaged in any hedging activity in the
Euro, the Yen or other currencies. Based on our cash balances and
revenues derived from markets other than the United States for the year ended
December 31, 2007, a hypothetical 10% adverse change in the Euro or Yen against
the U.S. dollar would not result in a material foreign currency exchange
loss. Consequently, we do not expect that reductions in the value of
such sales denominated in foreign currencies resulting from even a sudden or
significant fluctuation in foreign exchange rates would have a direct material
impact on our financial position, results of operations or cash
flows.
Notwithstanding
the foregoing, the indirect effect of fluctuations in interest rates and foreign
currency exchange rates could have a material adverse effect on our business,
financial condition and results of operations. For example, foreign
currency exchange rate fluctuations may affect international demand for our
products. In addition, interest rate fluctuations may affect our
customers’ buying patterns. Furthermore, interest rate and currency
exchange rate fluctuations may broadly influence the United States and foreign
economies resulting in a material adverse effect on our business, financial
condition and results of operations.
Under our
Japanese Thin Film agreement with Senko, we would receive payments in the nature
of royalties based on Senko’s net sales. Such sales and resulting
royalties would be Yen denominated.
Item 4. Controls and Procedures
Evaluation
of Disclosure Controls and Procedures
We
maintain disclosure controls and procedures that are designed to ensure that
information required to be disclosed in our reports filed or furnished pursuant
to the Exchange Act is recorded, processed, summarized and reported within the
time periods specified in the Securities and Exchange Commission’s rules and
forms, and that such information is accumulated and communicated to our
management, including our Chief Executive Officer and Chief Financial Officer,
as appropriate, to allow for timely decisions regarding required
disclosure. In designing and evaluating the disclosure controls and
procedures, management recognizes that any controls and procedures, no matter
how well designed and operated, can provide only reasonable assurance of
achieving the desired control objectives, and management necessarily is required
to apply its judgment in evaluating the cost-benefit relationship of possible
controls and procedures.
As
required by Rule 13a-15(b) under the Exchange Act, we carried out an evaluation,
under the supervision and with the participation of our management, including
our Chief Executive Officer and Chief Financial Officer, of the effectiveness of
the design and operation of our disclosure controls and procedures as of the end
of the period covered by this Quarterly Report of Form 10-Q. Based on
the foregoing, our Chief Executive Officer and Chief Financial Officer concluded
that our disclosure controls and procedures were effective and were operating at
a reasonable assurance level as of March 31, 2008.
Changes
in Internal Control over Financial Reporting
There has
been no change in our internal control over financial reporting during the
quarter ended March 31, 2008 that have materially affected, or are reasonably
likely to materially affect, our internal control over financial
reporting.
PART II. OTHER INFORMATION
Item 1.
Legal
Proceedings
From time
to time, we have been involved in routine litigation incidental to the conduct
of our business. As of March 31, 2008, we were not a party to any material legal
proceeding. We are not formally a party to the University of
Pittsburgh patent litigation. However, we are responsible for
reimbursing certain related litigation costs (see note 11).
Item 1A. Risk Factors
In
analyzing our company, you should consider carefully the following risk factors
together with all of the other information included in this quarterly report on
Form 10-Q. Factors that could adversely affect our business,
operating results, and financial condition, as well as adversely affect the
value of an investment in our common stock, include those discussed
below, as well as those discussed above in “Management’s Discussion and Analysis
of Financial Condition and Results of Operations” and elsewhere throughout this
quarterly report on Form 10-Q.
We are
subject to the following significant risks, among others:
36
We will need to raise more
cash in the future
We have
almost always had negative cash flows from operations. Our business
will continue to result in a substantial requirement for research and
development expenses for several years, during which we may not be able to bring
in sufficient cash and/or revenues to offset these expenses. There is
no guarantee that adequate funds will be available when needed from operating
revenues, additional debt or equity financing, arrangements with distribution
partners, or from other sources, or on terms attractive to us. The
inability to obtain sufficient funds would require us to delay, scale back, or
eliminate some or all of our research or product development, manufacturing
operations, clinical or regulatory activities, or to out-license commercial
rights to products or technologies thus having a substantial negative effect on
our results of operations and financial condition.
We have never been
profitable on an operational basis and expect significant operating losses for
the next few years
We have
incurred net operating losses in each year since we started
business. As our focus on the Celution® System platform and
development of therapeutic applications for its cellular output has increased,
losses have resulted primarily from expenses associated with research and
development activities and general and administrative expenses. We
expect to continue operating in a loss position on a consolidated basis and that
recurring operating expenses will be at high levels for the next several years,
in order to perform clinical trials, product development, and additional
pre-clinical research.
Our business strategy is
high-risk
We are
focusing our resources and efforts primarily on development of the Celution®
System family of products and the therapeutic applications of its cellular
output, which requires extensive cash needs for research and development
activities. This is a high-risk strategy because there is no
assurance that our products will ever become commercially viable (commercial
risk), that we will prevent other companies from depriving us of market share
and profit margins by selling products based on our inventions and developments
(legal risk), that we will successfully manage a company in a new area of
business (regenerative medicine) and on a different scale than we have operated
in the past (operational risk), that we will be able to achieve the desired
therapeutic results using stem and regenerative cells (scientific risk), or that
our cash resources will be adequate to develop our products until we become
profitable, if ever (financial risk). We are using our cash in one of
the riskiest industries in the economy (strategic risk). This may
make our stock an unsuitable investment for many investors.
We must keep our joint
venture with Olympus operating smoothly
Our
business cannot succeed on the currently anticipated timelines unless our joint
venture collaboration with Olympus goes well. We have given
Olympus-Cytori, Inc. an exclusive license to manufacture future generation
Celution® System devices. If Olympus-Cytori, Inc. does not
successfully develop and manufacture these devices, we may not be able to
commercialize any device or any therapeutic products successfully into the
market. In addition, future disruption or breakup of our relationship
would be extremely costly to our reputation, in addition to causing many serious
practical problems.
We and
Olympus must overcome contractual and cultural barriers. Our
relationship is formally measured by a set of complex contracts, which have not
yet been tested in practice. In addition, many aspects of the
relationship will be non-contractual and must be worked out between the parties
and the responsible individuals. The Joint Venture is intended to
have a long life, and it is difficult to maintain cooperative relationships over
a long period of time in the face of various kinds of
change. Cultural differences, including language barrier to some
degree, may affect the efficiency of the relationship.
Olympus-Cytori,
Inc. is 50% owned by us and 50% owned by Olympus. By contract, each
side must consent before any of a wide variety of important business actions can
occur. This situation possesses a risk of potentially time-consuming
and difficult negotiations which could at some point delay the Joint Venture
from pursuing its business strategies.
Olympus
is entitled to designate the Joint Venture's chief executive officer and a
majority of its board of directors, which means that day-to-day decisions which
are not subject to a contractual veto will essentially be controlled by
Olympus. In addition, Olympus-Cytori, Inc. will continue to require
more money than its initial capitalization in order to complete development and
production of future generation devices. If we are unable to help
provide future financing for Olympus-Cytori, Inc., our relative equity interest
in Olympus-Cytori, Inc. may decrease.
Furthermore,
under a License/Joint Development Agreement among Olympus-Cytori, Inc., Olympus,
and us, Olympus will have a primary role in the development of Olympus-Cytori,
Inc.’s next generation devices. Although Olympus has extensive
experience in developing medical devices, this arrangement will result in a
reduction of our control over the development and manufacturing of the next
generation devices.
37
We have a limited operating
history; operating results and stock price can be volatile like many life
science companies
Our
prospects must be evaluated in light of the risks and difficulties frequently
encountered by emerging companies and particularly by such companies in rapidly
evolving and technologically advanced biotech and medical device
fields. Due to limited operating history and the transition from the
MacroPore biomaterials to the regenerative medicine business, comparisons of our
year-to-year operating results are not necessarily meaningful and the results
for any periods should not necessarily be relied upon as an indication of future
performance. All 2007 product revenues came from our spine and
orthopedics implant product line, which we sold in May 2007.
From time
to time, we have tried to update our investors’ expectations as to our operating
results by periodically announcing financial guidance. However, we
have in the past been forced to revise or withdraw such guidance due to lack of
visibility and predictability of product demand.
We are vulnerable to
competition and technological change, and also to physicians’
inertia
We
compete with many domestic and foreign companies in developing our technology
and products, including biotechnology, medical device, and pharmaceutical
companies. Many current and potential competitors have substantially
greater financial, technological, research and development, marketing, and
personnel resources. There is no assurance that our competitors will
not succeed in developing alternative products that are more effective, easier
to use, or more economical than those which we have developed or are in the
process of developing, or that would render our products obsolete and
non-competitive. In general, we may not be able to prevent others
from developing and marketing competitive products similar to ours or which
perform similar functions.
Competitors
may have greater experience in developing therapies or devices, conducting
clinical trials, obtaining regulatory clearances or approvals, manufacturing and
commercialization. It is possible that competitors may obtain patent
protection, approval, or clearance from the FDA or achieve commercialization
earlier than we can, any of which could have a substantial negative effect on
our business. Finally, Olympus and our other partners might pursue
parallel development of other technologies or products, which may result in a
partner developing additional products competitive with ours.
We
compete against cell-based therapies derived from alternate sources, such as
bone marrow, umbilical cord blood and potentially embryos. Doctors
historically are slow to adopt new technologies like ours, whatever the merits,
when older technologies continue to be supported by established
providers. Overcoming such inertia often requires very significant
marketing expenditures or definitive product performance and/or pricing
superiority.
We expect
physicians’ inertia and skepticism to also be a significant barrier as we
attempt to gain market penetration with our future products. We believe we will
need to finance lengthy time-consuming clinical studies (so as to provide
convincing evidence of the medical benefit) in order to overcome this inertia
and skepticism particularly in reconstructive surgery, cell preservation, the
cardiovascular area and many other indications.
Most products are
pre-commercialization, which subjects us to development and marketing
risks
We are in
a relatively early stage of the path to commercialization with many of our
products. We believe that our long-term viability and growth will
depend in large part on our ability to develop commercial quality cell
processing devices and useful procedure-specific consumables, and to establish
the safety and efficacy of our therapies through clinical trials and
studies. With our Celution® platform, we are pursuing new
approaches for reconstructive surgery, preservation of stem and regenerative
cells for potential future use, therapies for cardiovascular disease,
gastrointestinal disorders and spine and orthopedic conditions. There
is no assurance that our development programs will be successfully completed or
that required regulatory clearances or approvals will be obtained on a timely
basis, if at all.
There is
no proven path for commercializing the Celution® System platform in a way to
earn a durable profit commensurate with the medical benefit. Although
we intend to commercialize into the European reconstructive surgery and Japanese
cell banking markets in 2008, additional market opportunities for our products
and/or services are at least two to five years away.
Successful
development and market acceptance of our products is subject to developmental
risks, including failure of inventive imagination, ineffectiveness, lack of
safety, unreliability, failure to receive necessary regulatory clearances or
approvals, high commercial cost, preclusion or obsolescence resulting from third
parties’ proprietary rights or superior or equivalent products, competition from
copycat products, and general economic conditions affecting purchasing
patterns. There is no assurance that we or our partners will
successfully develop and commercialize our products, or that our competitors
will not develop competing technologies that are less expensive or
superior. Failure to successfully develop and market our products
would have a substantial negative effect on our results of operations and
financial condition.
38
The timing and amount of
Thin Film revenues from Senko are uncertain
The sole
remaining product line in our MacroPore Biosurgery segment is our Japan Thin
Film business. Our right to receive royalties from Senko, and to
recognize certain deferred revenues, depends on the timing of MHLW approval for
commercialization of the product in Japan. We have no control over
this timing and our previous expectations have not been met. Also,
even after commercialization, we will be dependent on Senko, our exclusive
distributor, to drive product sales in Japan.
There is
a risk that we could experience with Senko some of the same problems we
experienced in our previous relationship with Medtronic, which was the exclusive
distributor for our former bioresorbable spine and orthopedic implant product
line.
We have limited
manufacturing experience
We have
limited experience in manufacturing the Celution® System platform or its
consumables at a commercial level. With respect to our Joint Venture,
although Olympus is a highly capable and experienced manufacturer of medical
devices, there can be no guarantee that the Olympus-Cytori Joint Venture will be
able to successfully develop and manufacture the next generation Celution®
device in a manner that is cost-effective or commercially viable, or that
development and manufacturing capabilities might not take much longer than
currently anticipated to be ready for the market.
Although
we have begun introduction of the Celution® 800 and will soon launch the
Celution® 900-based StemSourceTM Cell
Bank in 2008 as we await the availability of the Joint Venture system, next
generation Celution® device, we cannot assure that we will be able to
manufacture sufficient numbers of such products to meet the demand, or that we
will be able to overcome unforeseen manufacturing difficulties for these
sophisticated medical devices, as we await the availability of the Joint Venture
next generation Celution® device.
In the
event that the Olympus-Cytori Joint Venture is not successful, Cytori may not
have the resources or ability to self-manufacture sufficient numbers of devices
and consumables to meet market demand, and this failure may substantially extend
the time it would take for us to bring a more advanced commercial device to
market. This makes us significantly dependant on the continued dedication and
skill of Olympus for the successful development of the next generation
Celution® device.
We may not be able to
protect our proprietary rights
Our
success depends in part on whether we can obtain additional patents, maintain
trade secret protection, and operate without infringing on the proprietary
rights of third parties.
Our
recently amended regenerative cell technology license agreement with the Regents
of the University of California (“UC”) contains certain developmental
milestones, which if not achieved could result in the loss of exclusivity or
loss of the license rights. The loss of such rights could impact our ability to
develop certain regenerative cell technology products. Also, our
power as licensee to successfully use these rights to exclude competitors from
the market is untested. In addition, further legal risk arises from a
lawsuit filed by the University of Pittsburgh naming all of the inventors who
had not assigned their ownership interest in Patent 6,777,231 to the University
of Pittsburgh, seeking a determination that its assignors, rather than UC’s
assignors, are the true inventors of Patent 6,777,231. We are the exclusive,
worldwide licensee of the UC’s rights under this patent in humans, which relates
to adult stem cells isolated from adipose tissue that can differentiate into two
or more of a variety of cell types. If the University of Pittsburgh wins the
lawsuit, our license rights to this patent could be nullified or rendered
non-exclusive with respect to any third party that might license rights from the
University of Pittsburgh.
On August
9, 2007, the United States District Court granted the University of Pittsburgh’s
motion for Summary Judgment in part, determining that the University of
Pittsburgh’s assignees were properly named as inventors on Patent 6,777,231, and
that all other inventorship issues shall be determined according to the facts
presented at trial which was completed in January 2008. We expect the court to
make its final ruling on all of the other matters in the second or third quarter
of 2008.
There can
be no assurance that any of the pending patent applications will be approved or
that we will develop additional proprietary products that are
patentable. There is also no assurance that any patents issued to us
will provide us with competitive advantages, will not be challenged by any third
parties, or that the patents of others will not prevent the commercialization of
products incorporating our technology. Furthermore, there can be no
guarantee that others will not independently develop similar products, duplicate
any of our products, or design around our patents.
Our
commercial success will also depend, in part, on our ability to avoid infringing
on patents issued to others. If we were judicially determined to be
infringing on any third-party patent, we could be required to pay damages, alter
our products or processes, obtain licenses, or cease certain
activities. If we are required in the future to obtain any licenses
from third parties for some of our products, there can be no guarantee that we
would be able to do so on commercially favorable terms, if at
all. U.S. patent applications are not immediately made public, so we
might be surprised by the grant to someone else of a patent on a technology we
are actively using. As noted above as to the University of Pittsburgh
lawsuit, even patents issued to us or our licensors might be judicially
determined to belong in full or in part to third parties.
39
Litigation,
which would result in substantial costs to us and diversion of effort on our
part, may be necessary to enforce or confirm the ownership of any patents issued
or licensed to us, or to determine the scope and validity of third-party
proprietary rights. If our competitors claim technology also claimed
by us and prepare and file patent applications in the United States of America,
we may have to participate in interference proceedings declared by the U.S.
Patent and Trademark Office or a foreign patent office to determine priority of
invention, which could result in substantial costs to and diversion of effort,
even if the eventual outcome is favorable to us.
Any such
litigation or interference proceeding, regardless of outcome, could be expensive
and time-consuming. We have been incurring substantial legal costs as
a result of the University of Pittsburgh lawsuit, and our president, Marc
Hedrick, is a named individual defendant in that lawsuit because he is one of
the inventors identified on the patent. As a named inventor on the
patent, Marc Hedrick is entitled to receive from the UC up to 7% of royalty
payments made by a licensee (us) to UC. This agreement was in place
prior to his employment with us.
In
addition to patents, which alone may not be able to protect the fundamentals of
our regenerative cell business, we also rely on unpatented trade secrets and
proprietary technological expertise. Our intended future cell-related
therapeutic products, such as consumables, are likely to fall largely into this
category. We rely, in part, on confidentiality agreements with our
partners, employees, advisors, vendors, and consultants to protect our trade
secrets and proprietary technological expertise. There can be no guarantee that
these agreements will not be breached, or that we will have adequate remedies
for any breach, or that our unpatented trade secrets and proprietary
technological expertise will not otherwise become known or be independently
discovered by competitors.
Failure
to obtain or maintain patent protection, or protect trade secrets, for any
reason (or third-party claims against our patents, trade secrets, or proprietary
rights, or our involvement in disputes over our patents, trade secrets, or
proprietary rights, including involvement in litigation), could have a
substantial negative effect on our results of operations and financial
condition.
We may not be able to
protect our intellectual property in countries outside the United
States
Intellectual
property law outside the United States is uncertain and in many countries is
currently undergoing review and revisions. The laws of some countries
do not protect our patent and other intellectual property rights to the same
extent as United States laws. Third parties may attempt to oppose the
issuance of patents to us in foreign countries by initiating opposition
proceedings. Opposition proceedings against any of our patent filings in a
foreign country could have an adverse effect on our corresponding patents that
are issued or pending in the U.S. It may be necessary or useful for us to
participate in proceedings to determine the validity of our patents or our
competitors’ patents that have been issued in countries other than the U.S. This
could result in substantial costs, divert our efforts and attention from other
aspects of our business, and could have a material adverse effect on our results
of operations and financial condition. We currently have pending patent
applications in Europe, Australia, Japan, Canada, China, Korea, and Singapore,
among others.
We and Olympus-Cytori, Inc.
are subject to intensive FDA regulation
As newly
developed medical devices, Celution® System family of products must receive
regulatory clearances or approvals from the FDA and, in many instances, from
non-U.S. and state governments prior to their sale. The Celution®
System family of products is subject to stringent government regulation in the
United States by the FDA under the Federal Food, Drug and Cosmetic
Act. The FDA regulates the design/development process, clinical
testing, manufacture, safety, labeling, sale, distribution, and promotion of
medical devices and drugs. Included among these regulations are
pre-market clearance and pre-market approval requirements, design control
requirements, and the Quality System Regulations/Good Manufacturing
Practices. Other statutory and regulatory requirements govern, among
other things, establishment registration and inspection, medical device listing,
prohibitions against misbranding and adulteration, labeling and post-market
reporting.
The
regulatory process can be lengthy, expensive, and uncertain. Before
any new medical device may be introduced to the United States of America market,
the manufacturer generally must obtain FDA clearance or approval through either
the 510(k) pre-market notification process or the lengthier pre-market approval
application (“PMA”) process. It generally takes from three to 12
months from submission to obtain 510(k) pre-market clearance, although it may
take longer. Approval of a PMA could take four or more years from the
time the process is initiated. The 510(k) and PMA processes can be
expensive, uncertain, and lengthy, and there is no guarantee of ultimate
clearance or approval. We expect that some of our future products
under development as well as Olympus-Cytori’s will be subject to the lengthier
PMA process. Securing FDA clearances and approvals may require the
submission of extensive clinical data and supporting information to the FDA, and
there can be no guarantee of ultimate clearance or approval. Failure
to comply with applicable requirements can result in application integrity
proceedings, fines, recalls or seizures of products, injunctions, civil
penalties, total or partial suspensions of production, withdrawals of existing
product approvals or clearances, refusals to approve or clear new applications
or notifications, and criminal prosecution.
40
Medical
devices are also subject to post-market reporting requirements for deaths or
serious injuries when the device may have caused or contributed to the death or
serious injury, and for certain device malfunctions that would be likely to
cause or contribute to a death or serious injury if the malfunction were to
recur. If safety or effectiveness problems occur after the product
reaches the market, the FDA may take steps to prevent or limit further marketing
of the product. Additionally, the FDA actively enforces regulations
prohibiting marketing and promotion of devices for indications or uses that have
not been cleared or approved by the FDA.
There can
be no guarantee that we will be able to obtain the necessary 510(k) clearances
or PMA approvals to market and manufacture our other products in the United
States of America for their intended use on a timely basis, if at
all. Delays in receipt of or failure to receive such clearances or
approvals, the loss of previously received clearances or approvals, or failure
to comply with existing or future regulatory requirements could have a
substantial negative effect on our results of operations and financial
condition.
To sell in international
markets, we will be subject to intensive regulation in foreign
countries
In
cooperation with our distribution partners, we intend to market our current and
future products both domestically and in many foreign markets. A number of risks
are inherent in international transactions. In order for us to market
our products in Europe, Canada, Japan and certain other non-U.S. jurisdictions,
we need to obtain and maintain required regulatory approvals or clearances and
must comply with extensive regulations regarding safety, manufacturing processes
and quality. For example, we still have not obtained regulatory
approval for our Thin Film products in Japan. These regulations,
including the requirements for approvals or clearances to market, may differ
from the FDA regulatory scheme. International sales also may be
limited or disrupted by political instability, price controls, trade
restrictions and changes in tariffs. Additionally, fluctuations in
currency exchange rates may adversely affect demand for our products by
increasing the price of our products in the currency of the countries in which
the products are sold.
There can
be no assurance that we will obtain regulatory approvals or clearances in all of
the countries where we intend to market our products, or that we will not incur
significant costs in obtaining or maintaining foreign regulatory approvals or
clearances, or that we will be able to successfully commercialize current or
future products in various foreign markets. Delays in receipt of
approvals or clearances to market our products in foreign countries, failure to
receive such approvals or clearances or the future loss of previously received
approvals or clearances could have a substantial negative effect on our results
of operations and financial condition.
Changing, New and/or
Emerging Government Regulations
Government
regulations can change without notice. Given that fact that Cytori operates in
various international markets, our access to such markets could change with
little to no warning due to a change in government regulations that suddenly
up-regulate our product(s) and create greater regulatory burden for our cell
therapy and cell banking technology products.
Due to
the fact that there are new and emerging cell therapy and cell banking
regulations that have recently been drafted and/or implemented in various
countries around the world, the application and subsequent implementation of
these new and emerging regulations have little to no precedence. Therefore, the
level of complexity and stringency is not known and may vary from country to
country, creating greater uncertainty for the international regulatory
process.
Health Insurance
Reimbursement Risks
New and
emerging cell therapy and cell banking technologies, such as those provided by
the Celution® System family of products, may have difficulty or encounter
significant delays in obtaining health care reimbursement in some or all
countries around the world due to the novelty of our cell therapy and
cell banking technology and subsequent lack of existing reimbursement schemes /
pathways Therefore, the creation of new reimbursement pathways may be
complex and lengthy with no assurances that such reimbursements will be
successful. The lack of health insurance reimbursement or reduced or minimal
reimbursement pricing may have a significant impact on our ability to
successfully sell our cell therapy and cell banking technology product(s) into a
county or region.
Market Acceptance of New
Technology
New and
emerging cell therapy and cell banking technologies, such as those provided by
the Celution® System family of products, may have difficulty or encounter
significant delays in obtaining market acceptance in some or all countries
around the world due to the novelty of our cell therapy and cell banking
technologies. Therefore, the market adoption of our cell therapy and cell
banking technologies may be slow and lengthy with no assurances that significant
market adoption will be successful. The lack of market adoption or reduced or
minimal market adoption of our cell therapy and cell banking technologies may
have a significant impact on our ability to successfully sell our product(s)
into a county or region.
41
We and/or the Joint Venture
have to maintain quality assurance certification and manufacturing
approvals
The
manufacture of our Celution® System will be, and the manufacture of any future
cell-related therapeutic products would be, subject to periodic inspection by
regulatory authorities and distribution partners. The manufacture of
devices and products for human use is subject to regulation and inspection from
time to time by the FDA for compliance with the FDA’s Quality System Regulation
(“QSR”) requirements, as well as equivalent requirements and inspections by
state and non-U.S. regulatory authorities. There can be no guarantee
that the FDA or other authorities will not, during the course of an inspection
of existing or new facilities, identify what they consider to be deficiencies in
our compliance with QSRs or other requirements and request, or seek, remedial
action.
Failure
to comply with such regulations or a potential delay in attaining compliance may
adversely affect our manufacturing activities and could result in, among other
things, injunctions, civil penalties, FDA refusal to grant pre-market approvals
or clearances of future or pending product submissions, fines, recalls or
seizures of products, total or partial suspensions of production, and criminal
prosecution. There can be no assurance after such occurrences that we
will be able to obtain additional necessary regulatory approvals or clearances
on a timely basis, if at all. Delays in receipt of or failure to
receive such approvals or clearances, or the loss of previously received
approvals or clearances could have a substantial negative effect on our results
of operations and financial condition.
We depend on a few key
officers
Our
performance is substantially dependent on the performance of our executive
officers and other key scientific staff, including Christopher J. Calhoun, our
Chief Executive Officer, and Marc Hedrick, MD, our President. We rely
upon them for strategic business decisions and guidance. We believe that our
future success in developing marketable products and achieving a competitive
position will depend in large part upon whether we can attract and retain
additional qualified management and scientific personnel. Competition
for such personnel is intense, and there can be no assurance that we will be
able to continue to attract and retain such personnel. The loss of
the services of one or more of our executive officers or key scientific staff or
the inability to attract and retain additional personnel and develop expertise
as needed could have a substantial negative effect on our results of operations
and financial condition.
We may not have enough
product liability insurance
The
testing, manufacturing, marketing, and sale of our regenerative cell products
involve an inherent risk that product liability claims will be asserted against
us, our distribution partners, or licensees. There can be no
guarantee that our clinical trial and commercial product liability insurance is
adequate or will continue to be available in sufficient amounts or at an
acceptable cost, if at all. A product liability claim, product
recall, or other claim, as well as any claims for uninsured liabilities or in
excess of insured liabilities, could have a substantial negative effect on our
results of operations and financial condition. Also, well-publicized
claims could cause our stock to fall sharply, even before the merits of the
claims are decided by a court.
Our charter documents
contain anti-takeover provisions and we have adopted a Stockholder Rights Plan
to prevent hostile takeovers
Our
Amended and Restated Certificate of Incorporation and Bylaws contain certain
provisions that could prevent or delay the acquisition of the Company
by means of a tender offer, proxy contest, or otherwise. They could
discourage a third party from attempting to acquire control of Cytori, even if
such events would be beneficial to the interests of our
stockholders. Such provisions may have the effect of delaying,
deferring, or preventing a change of control of Cytori and consequently could
adversely affect the market price of our shares. Also, in 2003 we adopted a
Stockholder Rights Plan of the kind often referred to as a poison pill. The
purpose of the Stockholder Rights Plan is to prevent coercive takeover tactics
that may otherwise be utilized in takeover attempts. The existence of such a
rights plan may also prevent or delay a change in control of Cytori, and this
prevention or delay adversely affect the market price of our
shares.
We pay no
dividends
We have
never paid in the past, and currently do not intend to pay any cash dividends in
the foreseeable future.
Item 2. Unregistered Sales of Equity Securities and Use of
Proceeds
On
February 8, 2008, we agreed to sell 2,000,000 shares of unregistered common
stock to Green Hospital Supply, Inc. for $12,000,000 cash, or $6.00 per share in
a private stock placement. On February 29, 2008 we closed the first
half of the private placement with Green Hospital Supply, Inc. and received
$6,000,000 in exchange for 1,000,000 unregistered shares of Cytori common
stock. On April 30, 2008 we received the second $6,000,000 payment
from Green Hospital Supply, Inc. in exchange for 1,000,000 unregistered shares
of Cytori common stock.
42
Item 3. Defaults Upon Senior Securities
|
|
None
|
Item 4. Submission of Matters to a Vote of Security
Holders
|
|
None
|
Other
Information
Properties
We
currently lease 91,000 square feet located at 3020 and 3030 Callan Road, San
Diego, California. The related rent agreement bears rent at a rate of
$1.15 per square foot, with annual increases of 3%. The lease term is
57 months, commencing on October 1, 2005 and expiring on June 30,
2010. We also lease a 4,027 square feet of office space located at
9-3 Otsuka 2-chome, Bunkyo-ku, Tokyo, Japan. The agreement provides
for rent at a rate of $4.38 per square foot, expiring on November 30,
2009. For both properties, we pay an aggregate of approximately
$133,000 in rent per month.
Staff
As of
March 31, 2008, we had 146 employees, including part-time and full-time
employees. These employees are comprised of 22 employees in
manufacturing, 71 employees in research and development, 12 employees in sales
and marketing and 41 employees in management and finance and
administration. From time to time, we also employ independent
contractors to support our operations. Our employees are not
represented by any collective bargaining unit and we have never experienced an
organized work stoppage. A breakout by segment is as
follows:
|
Regenerative
Cell Technology
|
Corporate
|
Total
|
||||||||||
|
Manufacturing
|
22 | — | 22 | |||||||||
|
Research
& Development
|
71 | — | 71 | |||||||||
|
Sales
and Marketing
|
12 | — | 12 | |||||||||
|
General
& Administrative
|
— | 41 | 41 | |||||||||
|
Total
|
105 | 41 | 146 | |||||||||
43
Item 6. Exhibits
|
10.51
|
Common
Stock Purchase Agreement, dated February 8, 2008, by and between Green
Hospital Supply, Inc. and Cytori
Therapeutics, Inc. (filed as Exhibit 10.51 to our Form 8-K Current Report
as filed on February 19, 2008 and incorporated by reference
herein).
|
|
|
10.51.1
|
Amendment
No. 1 to Common Stock Purchase Agreement, dated February 29, 2008, by and
between Green Hospital Supply, Inc. and Cytori Therapeutics, Inc. (filed
as Exhibit 10.51.1 to our Form 8-K Current Report as filed on February 29,
2008 and incorporated by reference herein).
|
|
|
10.52#
|
Agreement
for Acceleration and/or Severance, dated January 31, 2008, by and between
Christopher J. Calhoun and Cytori
Therapeutics, Inc. (filed as Exhibit 10.52 to our Form 10-K Annual Report
as filed on March 14, 2008 and incorporated by reference
herein).
|
|
|
10.53#
|
Agreement
for Acceleration and/or Severance, dated January 31, 2008, by and between
Marc H. Hedrick and Cytori
Therapeutics, Inc. (filed as Exhibit 10.53 to our Form 10-K Annual Report
as filed on March 14, 2008 and incorporated by reference
herein).
|
|
|
10.54#
|
Agreement
for Acceleration and/or Severance, dated January 31, 2008, by and between
Mark E. Saad and Cytori
Therapeutics, Inc. (filed as Exhibit 10.54 to our Form 10-K Annual Report
as filed on March 14, 2008 and incorporated by reference
herein).
|
|
|
31.1
|
Certification
of Principal Executive Officer Pursuant to Securities Exchange Act Rule
13a-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 (filed herewith).
|
|
|
31.2
|
Certification
of Principal Financial Officer Pursuant to Securities Exchange Act Rule
13a-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of
2002 (filed herewith).
|
|
|
32.1
|
Certifications
Pursuant to 18 U.S.C. Section 1350/ Securities Exchange Act Rule
13a-14(b), as adopted pursuant to Section 906 of the Sarbanes - Oxley Act
of 2002 (filed herewith).
|
# Indicates
management contract or compensatory plan or arrangement.
44
SIGNATURES
Pursuant
to the requirements of the Securities Exchange Act of 1934, the registrant has
duly caused this report to be signed on its behalf by the undersigned thereunto
duly authorized, in San Diego, California, on May 09, 2008.
|
CYTORI
THERAPEUTICS, INC.
|
||
|
By:
|
/s/
Christopher J. Calhoun
|
|
|
Dated:
May 09, 2008
|
Christopher
J. Calhoun
|
|
|
Chief
Executive Officer
|
||
|
By:
|
/s/
Mark E. Saad
|
|
|
Dated:
May 09, 2008
|
Mark
E. Saad
|
|
|
Chief
Financial Officer
|
||
45
EXHIBIT
31.1
Certification
of Chief Executive Officer Pursuant to
Securities
Exchange Act Rule 13a-14(a),
as
Adopted Pursuant to
Section 302
of the Sarbanes-Oxley Act of 2002
I,
Christopher J. Calhoun, the Chief Executive Officer of Cytori Therapeutics,
Inc., certify that:
1. I
have reviewed this quarterly report on Form 10-Q of Cytori Therapeutics,
Inc.;
2. Based
on my knowledge, this report does not contain any untrue statement of a material
fact or omit to state a material fact necessary to make the statements made, in
light of the circumstances under which such statements were made, not misleading
with respect to the period covered by this report;
3. Based
on my knowledge, the financial statements and other financial information
included in this report fairly present in all material respects the financial
condition, results of operations, and cash flows of the registrant as of, and
for, the periods presented in this report;
4. The
registrant’s other certifying officer and I are responsible for establishing and
maintaining disclosure controls and procedures (as defined in the Exchange Act
Rules 13a-15(e) and 15d-15(e)) for the registrant and
have:
(a) designed
such disclosure controls and procedures, or caused such disclosure controls and
procedures to be designed under our supervision, to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this report is being prepared;
(b) evaluated
the effectiveness of the registrant’s disclosure controls and procedures and
presented in this report our conclusions about the effectiveness of the
disclosure controls and procedures as of the end of the period covered by this
report-based on such evaluation; and
(c) disclosed
in this report any change in the registrant’s internal control over financial
reporting that occurred during the registrant’s most recent fiscal quarter that
has materially affected, or is reasonably likely to materially affect, the
registrant’s internal control over financial reporting; and
5. The
registrant’s other certifying officer and I have disclosed, based on our most
recent evaluation of internal control over financial reporting, to the
registrant’s auditors and the audit committee of the registrant’s board of
directors (or persons performing the equivalent functions):
(a) all
significant deficiencies and material weaknesses in the design or operation of
internal control over financial reporting which are reasonably likely to
adversely affect the registrant’s ability to record, process, summarize, and
report financial information; and
(b) any
fraud, whether or not material, that involves management or other employees who
have a significant role in the registrant’s internal control over financial
reporting.
|
Date:
May 09, 2008
|
|
|
/s/
Christopher J. Calhoun
|
|
|
Christopher
J. Calhoun,
|
|
|
Chief
Executive Officer
|
|
EXHIBIT
31.2
Certification
of Chief Financial Officer Pursuant to
Securities
Exchange Act Rule 13a-14(a),
as
Adopted Pursuant to
Section 302
of the Sarbanes-Oxley Act of 2002
I, Mark
E. Saad, the Chief Financial Officer of Cytori Therapeutics, Inc., certify
that:
1. I
have reviewed this quarterly report on Form 10-Q of Cytori Therapeutics,
Inc.;
2. Based
on my knowledge, this report does not contain any untrue statement of a material
fact or omit to state a material fact necessary to make the statements made, in
light of the circumstances under which such statements were made, not misleading
with respect to the period covered by this report;
3. Based
on my knowledge the financial statements, and other financial information
included in this report fairly present in all material respects the financial
condition, results of operations, and cash flows of the registrant as of, and
for, the periods presented in this report;
4. The
registrant’s other certifying officer and I are responsible for establishing and
maintaining disclosure controls and procedures (as defined in the Exchange Act
Rules 13a-15(e) and 15d-15(e)) for the registrant and
have:
(a) designed
such disclosure controls and procedures, or caused such disclosure controls and
procedures to be designed under our supervision, to ensure that material
information relating to the registrant, including its consolidated subsidiaries,
is made known to us by others within those entities, particularly during the
period in which this report is being prepared;
(b) evaluated
the effectiveness of the registrant’s disclosure controls and procedures and
presented in this report our conclusions about the effectiveness of the
disclosure controls and procedures as of the end of the period covered by this
report-based on such evaluation; and
(c) disclosed
in this report any change in the registrant’s internal control over financial
reporting that occurred during the registrant’s most recent fiscal quarter that
has materially affected, or is reasonably likely to materially affect, the
registrant’s internal control over financial reporting; and
5. The
registrant’s other certifying officer and I have disclosed, based on our most
recent evaluation of internal control over financial reporting, to the
registrant’s auditors and the audit committee of the registrant’s board of
directors (or persons performing the equivalent functions):
(a) all
significant deficiencies and material weaknesses in the design or operation of
internal control over financial reporting which are reasonably likely to
adversely affect the registrant’s ability to record, process, summarize, and
report financial information; and
(b) any
fraud, whether or not material, that involves management or other employees who
have a significant role in the registrant’s internal control over financial
reporting.
|
Date:
May 09, 2008
|
|
|
/s/
Mark E. Saad
|
|
|
Mark
E. Saad
|
|
|
Chief
Financial Officer
|
|
EXHIBIT
32.1
CERTIFICATION
PURSUANT TO 18 U.S.C. SECTION 1350/ SECURITIES EXCHANGE ACT RULE 13a-14(b),
AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF
2002
In
connection with the Quarterly Report on Form 10-Q of Cytori Therapeutics, Inc.
for the quarterly period ended March 31, 2008 as filed with the Securities and
Exchange Commission on the date hereof, Christopher J. Calhoun, as Chief
Executive Officer of Cytori Therapeutics, Inc., and Mark E. Saad, as Chief
Financial Officer of Cytori Therapeutics, Inc., each hereby certifies,
respectively, that:
|
1.
|
The
Form 10-Q report of Cytori Therapeutics, Inc. that this certification
accompanies fully complies with the requirements of Section 13(a) of
the Securities Exchange Act of
1934.
|
|
2.
|
The
information contained in the Form 10-Q report of Cytori Therapeutics, Inc.
that this certification accompanies fairly presents, in all material
respects, the financial condition and results of operations of Cytori
Therapeutics, Inc.
|
|
By:
|
/s/
Christopher J. Calhoun
|
|
|
Dated:
May 09, 2008
|
Christopher
J. Calhoun
|
|
|
Chief
Executive Officer
|
||
|
By:
|
/s/
Mark E. Saad
|
|
|
Dated:
May 09, 2008
|
Mark
E. Saad
|
|
|
Chief
Financial Officer
|