Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
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x
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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 September 30,
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
Commission File Number 001-33993
CardioNet, Inc.
(Exact Name of Registrant as Specified in its Charter)
Delaware
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33-0604557
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(State or Other Jurisdiction of Incorporation or Organization)
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(I.R.S. Employer Identification Number)
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227 Washington Street
Conshohocken, Pennsylvania 19428
(Address of Principal Executive Offices, including Zip Code)
(610) 729-7000
(Registrants Telephone Number, including Area Code)
N/A
(Former name, former address and former fiscal year if changed since
last report)
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter period
that the registrant was required to file such reports), and (2) has been
subject to such filing requirements for the past 90
days. Yes
x
No
¨
Indicate by check mark whether the registrant is a large accelerated
filer, an accelerated filer, a non-accelerated filer, or a smaller reporting
company. See definitions of large accelerated filer, accelerated filer, and
smaller reporting company in Rule 12b-2 of the Exchange Act. (Check
one):
Large accelerated filer
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Accelerated filer
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Non-accelerated filer
x
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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
x
As of September 30, 2008, 23,380,371 shares of the registrants
common stock, $0.001 par value per share, were outstanding.
Table of Contents
CARDIONET, INC.
QUARTERLY REPORT ON FORM 10-Q FOR THE PERIOD ENDED
SEPTEMBER 30, 2008
TABLE OF
CONTENTS
2
Table of Contents
PART I FINANCIAL INFORMATION
Item 1. Financial Statements.
CARDIONET, INC.
CONSOLIDATED
BALANCE SHEETS
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September 30, 2008
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December 31, 2007
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(Unaudited)
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(In thousands except share and
per share amounts)
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Assets
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Current assets:
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Cash and cash equivalents
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$
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56,292
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$
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18,091
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Accounts receivable, net of allowance for
doubtful accounts of $16,678, and $7,909 at September 30, 2008 and
December 31, 2007, respectively
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35,851
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22,854
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Due from related parties
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91
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143
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Prepaid expenses and other current assets
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2,711
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287
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Total current assets
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94,945
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41,375
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Property and equipment, net
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16,302
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15,094
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Intangible assets, net
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2,069
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2,807
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Goodwill
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45,999
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41,163
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Other assets
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5,124
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2,601
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Total assets
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$
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164,439
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$
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103,040
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Liabilities and shareholders equity
(deficit)
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Current liabilities:
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Accounts payable
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$
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4,045
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$
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3,972
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Accrued liabilities
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17,214
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6,425
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Current portion of debt
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152
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1,088
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Current portion of capital leases
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49
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49
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Deferred revenue
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575
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466
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Total current liabilities
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22,035
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12,000
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Long-term debt, net of current portion
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1,655
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Deferred rent
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786
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879
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Other noncurrent liabilities
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44
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69
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Total liabilities
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22,865
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14,603
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Redeemable convertible preferred stock
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Mandatorily redeemable convertible
preferred stock 0 and 114,883 shares authorized, 0 and 114,839 issued
and outstanding at September 30, 2008 and December 31, 2007,
respectively
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115,302
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Shareholders equity (deficit)
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Series A 0 and 1,563,248 shares
authorized, issued and outstanding at September 30, 2008 and
December 31, 2007, respectively
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391
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Series B 0 and 4,720,347 shares
authorized, issued and outstanding at September 30, 2008 and
December 31, 2007, respectively
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6,904
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Series C 0 and 10,399,011 shares
authorized, issued and outstanding at September 30, 2008 and
December 31, 2007, respectively
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36,196
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Series D 0 and 1,000,000 shares
authorized, issued and outstanding at September 30, 2008 and
December 31, 2007, respectively
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9,965
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Preferred stock, $.001 par value and no par
value at September 30, 2008 and December 31, 2007, respectively; 10,000,000
and 0 shares authorized at September 30, 3008 and December 31,
2007, respectively, 0 shares issued and outstanding at September 30,
2008, and December 31, 2007, respectively
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Common stock, $.001 par value and no par
value at September 30, 2008 and December 31, 2007, respectively;
200,000,000 and 50,000,000 shares authorized, 23,328,028 and 3,130,054 shares
issued, outstanding and vested at September 30, 2008, and
December 31, 2007, respectively
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23
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1,399
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Paid-in capital
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220,992
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Accumulated deficit
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(79,441
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(81,720
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)
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Total shareholders equity (deficit)
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141,574
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(26,865
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)
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Total liabilities and shareholders equity
(deficit)
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$
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164,439
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$
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103,040
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See accompanying notes.
3
Table of Contents
CARDIONET, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
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Three Months Ended
September 30,
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Nine Months Ended
September 30,
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2008
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2007
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2008
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2007
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(In thousands except per share
amounts)
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(In thousands except per
share
amounts)
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Revenues:
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Net patient service revenues
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$
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31,073
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$
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20,362
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$
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85,510
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$
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48,582
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Other revenues
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150
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168
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516
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467
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Total revenues
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31,223
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20,530
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86,026
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49,049
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Cost of revenues
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10,014
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7,100
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29,367
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16,843
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Gross profit
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21,209
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13,430
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56,659
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32,206
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Operating expenses:
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Research and development
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943
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810
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3,015
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2,820
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General and administrative
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10,757
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7,148
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29,839
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19,429
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Sales and marketing
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5,216
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3,937
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15,743
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11,633
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Integration, restructuring and other
nonrecurring charges
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2,859
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4,775
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Total expenses
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19,775
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11,895
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53,372
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33,882
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Income (loss) from operations
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1,434
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1,535
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3,287
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(1,676
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Other income (expense):
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Interest income
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332
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470
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863
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1,374
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Interest expense
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(9
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(197
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(161
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(2,148
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Total other income (expense)
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323
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273
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702
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(774
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)
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Income (loss) before income taxes
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1,757
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1,808
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3,989
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(2,450
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)
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Income tax (expense) benefit
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(770
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)
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(1,710
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)
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Net income (loss)
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987
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1,808
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2,279
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(2,450
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Dividends on and accretion of mandatorily
redeemable convertible preferred stock
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(2,743
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(2,597
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(5,587
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Net income (loss) attributable to common
stockholders
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$
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987
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$
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(935
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$
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(318
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$
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(8,037
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Net income (loss) per common share:
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Basic
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$
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0.04
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$
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(0.30
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$
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(0.02
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$
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(2.70
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Diluted
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$
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0.04
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$
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(0.30
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$
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(0.02
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$
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(2.70
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)
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Weighted average number of common shares
outstanding:
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Basic
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23,171
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3,072
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16,644
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2,982
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Diluted
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24,039
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3,072
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16,644
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2,982
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See accompanying notes.
4
Table of Contents
CARDIONET,
INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
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Nine Months Ended
September 30,
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2008
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2007
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Operating activities
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Net income (loss)
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$
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2,279
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$
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(2,450
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)
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Adjustments to reconcile net income (loss)
to net cash provided by operating activities:
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Depreciation
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5,384
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2,385
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Amortization of intangibles
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738
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553
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Loss on disposal of property and equipment
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281
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37
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(Decrease) increase in deferred rent
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(93
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)
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315
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Provision for doubtful accounts
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8,849
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5,631
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Common stock and stock options issued for
services
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193
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Amortization of debt discount, including
recognition of contingent beneficial conversion
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658
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Stock-based compensation
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2,434
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320
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Changes in operating assets and
liabilities:
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Accounts receivable
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(22,078
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(9,501
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Due from related parties
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141
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(17
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Prepaid expenses and other current assets
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(2,280
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)
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44
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Other assets
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(2,522
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)
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(983
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)
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Accounts payable
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73
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2,003
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Accrued liabilities
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11,124
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1,811
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Other noncurrent liabilities
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(134
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)
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Net cash provided by operating activities
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4,330
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865
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Investing activities
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Purchases of property and equipment
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(6,874
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)
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(9,108
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)
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Investment in subsidiary, net of cash
acquired
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(5,002
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)
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(46,886
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)
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Net cash used in investing activities
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(11,876
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)
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(55,994
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)
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Financing activities
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Net proceeds from issuance of mandatorily
redeemable convertible preferred stock
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102,117
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Proceeds from issuance of common stock
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48,364
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557
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Proceeds from issuance of debt
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500
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373
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Repayment of debt
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(3,117
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)
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(29,272
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)
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Net cash provided by financing activities
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45,747
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73,775
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Net increase in cash and cash equivalents
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38,201
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18,646
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Cash and cash equivalents beginning of
period
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18,091
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3,909
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Cash and cash equivalents end of period
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$
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56,292
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$
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22,555
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Supplemental disclosure of cash flow
information
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Cash paid for interest
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$
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378
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$
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3,544
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Supplemental disclosure of non-cash
financing activities
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Exercise of stock options under note
receivable arrangements
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$
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$
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277
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Mandatorily redeemable convertible
preferred stock issued in connection with bridge loan
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$
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$
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3,303
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Mandatorily redeemable convertible preferred
stock issued in consideration for PDSHeart, Inc. acquisition
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$
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$
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1,456
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See accompanying notes.
5
Table of Contents
CARDIONET, INC.
NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1.
Business
CardioNet, Inc. (the Company), a Delaware
corporation, provides ambulatory, continuous, real-time outpatient management
solutions for monitoring relevant and timely clinical information regarding an
individuals health. The Company incorporated in the state of California in March 1994,
but did not actively begin developing its product platform until April 2000.
The Company spent seven years developing a proprietary integrated patient
management platform that incorporates a wireless data transmission network,
internally developed software, FDA-cleared algorithms and medical devices and a
24-hour digital monitoring service center. The initial focus of the Company is
on the diagnosis and monitoring of cardiac arrhythmias, or heart rhythm
disorders, with a solution that is marketed as the CardioNet System. In September 1999,
the Company was capitalized as CardioNet, a company focused on helping
physicians more rapidly diagnose and more effectively manage therapy for
patients with cardiovascular disease. In February 2002, the Company
received FDA 510(k) clearance for the first and second generation of its
core CardioNet System which automatically detects cardiac rhythm problems and
transmits ECG data to a 24/7/365 monitoring center which was opened in
Conshohocken, Pennsylvania in July 2002. The Company re-incorporated in
Delaware in 2008. The CardioNet Monitoring Center provides analysis and
response for all incoming ECG data. Currently, the Company provides all
arrhythmia monitoring services for the CardioNet System at this location. The
Company receives reimbursement for services provided to patients from Medicare
and other third-party payors.
On March 8, 2007, the Company acquired PDSHeart, Inc.
(PDSHeart), a leading cardiac monitoring company, for an aggregate of
$51.6 million plus the assumption of $5.2 million in debt. In addition to the $51.6 million
consideration, the Company agreed to pay PDSHeart shareholders
$5.0 million of contingent consideration in the event of a qualifying
liquidation event, including a public offering or acquisition. The Companys
initial public offering was consummated on March 25, 2008 and,
accordingly, the purchase price for the PDSHeart acquisition has been adjusted
to $56.6 million to reflect this payment. PDSHeart, now a wholly-owned
subsidiary of CardioNet, provides event monitoring, Holter monitoring and
pacemaker monitoring services in 48 states, primarily in the southeast. The
acquisition has broadened the Companys geographic coverage and expanded the
service offering to include the complete range of cardiac monitoring services.
See Note 3.
On February 25, 2008, the Board of Directors of
the Company, subject to stockholder approval, approved a reverse stock split of
the Companys common stock at a ratio of one share for every two shares
previously held. On March 5, 2008, the stockholders of the Company
approved the reverse stock split and the reverse stock split became effective.
All common stock share and per-share data included in these consolidated
financial statements reflect the reverse stock split.
On March 25, 2008, the Company completed its
initial public offering generating net proceeds to the Company of approximately
$46.7 million, after deducting underwriter commissions and estimated offering
expenses. Upon the closing of the
Companys initial public offering, all outstanding shares of the Companys
mandatorily redeemable convertible preferred stock and convertible preferred
stock converted into shares of common stock.
Therefore, at September 30, 2008, the Company had no shares of
preferred stock outstanding.
On August 6, 2008, an underwritten secondary public
offering of shares of common stock held by certain of the Companys existing
stockholders was completed. The Company
did not issue any shares and received no proceeds in connection with such
offering. The Company incurred approximately
$0.9 million in offering expenses on behalf of the selling stockholders. These expenses were incurred in accordance
with the Companys obligations under a registration rights agreement with the
selling stockholders.
2.
Summary of Significant Accounting
Policies
Unaudited Interim Financial Data
The accompanying unaudited consolidated financial
statements have been prepared in accordance with U.S. generally accepted
accounting principles for interim financial information and the requirements of
Form 10-Q and Article 10 of Regulation S-X. Accordingly, these
consolidated financial statements do not include all of the information and
footnotes
6
Table of Contents
required
by U.S. generally accepted accounting principles. In the opinion of management, these
consolidated financial statements reflect all adjustments, which are of normal
recurring nature and necessary for a fair presentation of the Companys
financial position as of September 30, 2008 and December 31, 2007,
the results of operations for the three and nine months ended September 30,
2008 and 2007 and cash flows for the nine months ended September 30, 2008
and 2007. The financial data and other information disclosed in these notes to
the financial statements related to the three month and nine month periods are
unaudited. The results for the three month and nine month periods ended September 30,
2008 are not necessarily indicative of the results to be expected for any
future period.
Net Income (Loss) Attributable to
Common Shares
The Company computes net income (loss) per share in
accordance with Statement of Financial Accounting Standards (SFAS) No. 128,
Earnings Per Share
. Under SFAS No. 128,
basic net loss per share is computed by dividing net loss per share
attributable to common stockholders by the weighted average number of common
shares outstanding for the period and excludes the effects of any potentially
dilutive securities. Diluted earnings per share, if presented, would include
the dilution that would occur upon the exercise or conversion of all
potentially dilutive securities into common stock using the treasury stock
and/or if converted methods, as applicable.
The following summarizes the potential outstanding
common stock of the Company at September 30, 2008 and September 30,
2007. The convertible preferred stock,
the mandatorily redeemable convertible preferred stock and the Series D-1
warrants were converted into shares of the Companys common stock immediately
prior to the consummation of the Companys initial public offering on March 25,
2008. All share amounts have been
adjusted for the one-for-two reverse stock split effected by the Company on March 5,
2008:
|
|
September 30,
2008
|
|
September 30,
2007
|
|
Convertible preferred stock (A,B,C,D)
|
|
|
|
8,835,053
|
|
Mandatorily redeemable convertible
preferred stock
|
|
|
|
4,784,959
|
|
Series B warrants
|
|
6,250
|
|
6,250
|
|
Series D-1 warrants
|
|
|
|
482,038
|
|
Common stock options outstanding
|
|
1,740,885
|
|
1,208,604
|
|
Common stock options available for grant
|
|
373,757
|
|
68,205
|
|
Common stock held by certain employees and
unvested
|
|
52,343
|
|
|
|
Common stock
|
|
23,328,028
|
|
3,212,752
|
|
|
|
|
|
|
|
Total
|
|
25,501,263
|
|
18,597,861
|
|
If the outstanding options, warrants and preferred
stock were exercised or converted into common stock, the result would be
anti-dilutive for the nine months ended September 30, 2008 and September 30,
2007 and the three months ended September 30, 2007. Accordingly, basic and
diluted net loss attributable to common stockholders per share are identical
for those periods presented in the consolidated statements of operations.
Stock-Based Compensation
SFAS No. 123(R),
Share-Based Payment
, addresses the accounting for
share-based payment transactions in which an enterprise receives employee
services in exchange for (a) equity instruments of the enterprise or (b) liabilities
that are based on the fair value of the enterprises equity instruments or that
may be settled by the issuance of such equity instruments. SFAS No. 123(R) requires
that an entity measure the cost of equity-based service awards based on the
grant-date fair value of the award and recognize the cost of such awards over
the period during which the employee is required to provide service in exchange
for the award (the vesting period). SFAS No. 123(R) requires that an
entity measure the cost of liability-based service awards based on current fair
value that is re-measured subsequently at each reporting date through the
settlement date. The Company accounts for equity awards issued to non-employees
in accordance with EITF 96-18,
Accounting
for Equity Investments that are Issued to Other Than Employees for Acquiring,
or in Conjunction with, Selling Goods or Services
.
Prior to 2006, the Company accounted for grants made
under its stock option plan in accordance with APB Opinion No. 25,
Accounting for Stock Options Issued to Employees
,
as permitted under SFAS No. 123. Under APB Opinion No. 25, the
Company was only required to recognize compensation expenses for options
granted to employees for the difference between the fair value of the
underlying common stock and the exercise price of the option at the date of
grant. The fair value of these options was determined using the minimum value
option pricing model. Since the exercise price of the Companys
7
Table of Contents
stock
option grants issued prior to 2006 was equal to the estimated fair value of the
underlying stock on the grant date, no compensation expense related to options
granted to employees was recognized in prior years.
The Companys income before income taxes for the
nine months ended September 30, 2008 and 2007 was $2.5 million and $0.3
million lower, respectively, and the Companys after-tax net income for the
nine months ended September 30, 2008 and 2007 was $1.4 million and $0.3
million lower, respectively, as a result of stock-based compensation expense
incurred. The impact of stock-based compensation expense was $(0.08) and
$(0.10) on the basic and diluted earnings per share for the nine months ended September 30,
2008 and 2007, respectively.
The Company utilized the Black-Scholes valuation
model for estimating the fair value of the stock options granted after the
adoption of SFAS No. 123R with the following weighted average
assumptions:
|
|
Nine months ended
September 30,
|
|
|
|
2008
|
|
2007
|
|
Expected dividend yield
|
|
0
|
%
|
0
|
%
|
Expected volatility
|
|
50
|
%
|
50
|
%
|
Risk-free interest rate
|
|
2.52
|
%
|
5.0
|
%
|
Expected life
|
|
6.25 years
|
|
6.25 years
|
|
The dividend yield of zero is based on the fact that
the Company has never paid cash dividends and has no present intention to pay
cash dividends. Since the Companys stock was not publicly traded prior to the
closing of its initial public offering, the expected volatility was calculated
for each date of grant based on an alternative method. The Company identified
similar public entities for which share price information was available and
considered the historical volatility of these entities share price in
estimated expected volatility. The risk-free interest rate is derived from the
U.S. Federal Reserve rate in effect at the time of grant. The expected life
calculation is based on the observed and expected time to the exercise of
options by the Companys employees based on historical exercise patterns for
similar options. Based on the Companys historical experience of options that
cancel before becoming fully vested, the Company has assumed an annualized
forfeiture rate of 15% for all options. Under the true-up provision of
SFAS No. 123R, the Company will record additional expense if the
actual forfeiture rate is lower than estimated, and will record a recovery of
prior expense if the actual forfeiture rate is higher than estimated.
Based on the above assumptions, the per share
weighted average fair value of the options granted under the stock option plan
for the nine months ended September 30, 2008 and 2007 was $12.20 and
$3.44, respectively.
The
following table summarizes activity under all stock award plans from December 31,
2007 through September 30, 2008:
|
|
|
|
Options Outstanding
|
|
|
|
Shares
|
|
|
|
Weighted
|
|
|
|
Available
|
|
Number
|
|
Average
|
|
|
|
for Grant
|
|
of Shares
|
|
Exercise Price
|
|
Balance December 31, 2007
|
|
617,534
|
|
1,641,616
|
|
$
|
6.38
|
|
Granted
|
|
(307,875
|
)
|
307,875
|
|
$
|
12.19
|
|
Canceled
|
|
223,404
|
|
(223,404
|
)
|
$
|
5.74
|
|
Exercised
|
|
|
|
(21,283
|
)
|
$
|
1.26
|
|
|
|
|
|
|
|
|
|
Balance March 31, 2008
|
|
533,063
|
|
1,704,804
|
|
$
|
7.58
|
|
Granted
|
|
(10,450
|
)
|
10,450
|
|
$
|
20.00
|
|
Canceled
|
|
56,847
|
|
(56,847
|
)
|
$
|
15.46
|
|
Exercised
|
|
|
|
(65,663
|
)
|
$
|
2.21
|
|
|
|
|
|
|
|
|
|
Balance June 30, 2008
|
|
579,460
|
|
1,592,744
|
|
$
|
7.60
|
|
Additional shares available for grant
|
|
142,500
|
|
|
|
|
|
Granted
|
|
(473,177
|
)
|
473,177
|
|
$
|
27.28
|
|
Canceled
|
|
124,974
|
|
(124,974
|
)
|
$
|
5.82
|
|
Exercised
|
|
|
|
(200,062
|
)
|
$
|
4.87
|
|
|
|
|
|
|
|
|
|
Balance September 30, 2008
|
|
373,757
|
|
1,740,885
|
|
$
|
13.39
|
|
8
Table of Contents
In the third quarter of 2008, the Company authorized the cancellation
of all existing option grants held by certain employees related to integration,
restructuring and other nonrecurring activities with exercise prices ranging
from $0.70 to $18.30 in exchange for the reissuance of a like amount of options
with similar exercise prices, These cancellations and reissuances resulted in
additional compensation expense of $0.8 million during the nine months ended September 30,
2008, included within integration, restructuring and other nonrecurring
charges.
A total of 38,177 of the options included as canceled and granted
during the three months ended September 30, 2008 in the table above relate
to options that were cancelled in exchange for a like amount of options with
similar exercise prices.
Additional
information regarding options outstanding is as follows:
|
|
September 30,
2008
|
|
December 31,
2007
|
|
Range of exercise price (per option)
|
|
$0.70 - $31.18
|
|
$0.70 - $9.50
|
|
Weighted average remaining contractual life
(years)
|
|
9.09
|
|
9.28
|
|
Employee Stock Purchase Plan
In July 2008 the Company made available an employee stock purchase
plan in which substantially all of the Companys full-time employees became
eligible to participate effective March 18, 2008. Under the plan,
employees may contribute up to 15% of their compensation toward the purchase of
the Companys common stock at the lower of 85% of the fair market price on the
first day of the offering period, or 85% of the fair market price on the day of
purchase. Proceeds received from the issuance of shares are credited to
stockholders equity in the period that the shares are issued. Under the terms
of the plan, a total of 238,000 shares of common stock have been reserved for
issuance to employees. At September 30, 2008, approximately 188,503 shares
remain available for purchase under the plan. Net proceeds to the Company from
the issuance of shares of common stock under the Plan for the three and nine
months ended September 30, 2008 were $0.8 million.
New Accounting Pronouncements
In September 2006, the FASB issued SFAS No. 157,
Fair Value Measurements
, which
defines fair value, establishes a framework for measuring fair value under
generally accepted accounting principles, and expands disclosures about fair
value measurements. SFAS No. 157 applies to other accounting
pronouncements that require or permit fair value measurements. The new guidance
is effective for the Company beginning January 1, 2008. The Company
adopted SFAS No. 157 on January 1, 2008 and it did not have a
material effect on the consolidated financial statements.
In February 2007, the FASB issued SFAS No. 159,
The Fair Value Option for Financial Assets
and Financial Liabilities-Including an Amendment of FASB Statement No. 115
.
SFAS No. 159 permits entities to choose fair value measurement for
many financial instruments and certain other items as of specified election dates.
Business entities will thereafter report in earnings the unrealized gains and
losses on items for which the fair value option has been chosen. The fair value
option may be applied instrument by instrument but may not be applied to
portions of instruments and is irrevocable unless a new elections date occurs.
The Company did not elect the fair value option of SFAS No. 159 and
thus, the adoption of SFAS No. 159 had no impact on the Company.
In December 2007, the FASB issued SFAS No. 141(R),
Business Combinations
and SFAS No. 160,
Noncontrolling Interests in Consolidated
Financial Statements, an Amendment of ARB No. 151
. SFAS No. 141(R) establishes
new principles and requirements for accounting for business combinations,
including recognition and measurement of identifiable assets acquired, goodwill
acquired, liabilities assumed and noncontrolling financial interests.
SFAS No. 160 requires all entities to report noncontrolling
(minority) interests in subsidiaries as equity in the consolidated financial
statements. These new standards will significantly change the accounting for
and reporting of business combination transactions and noncontrolling
(minority) interests in consolidated financial statements. SFAS No. 141(R) and
SFAS No. 160 are required to be adopted simultaneously and are
effective for fiscal years beginning on or after December 15, 2008.
Earlier adoption is prohibited. Upon a future acquisition, the Company will
evaluate the potential effect of adoption of SFAS No. 141(R) and
SFAS No. 160.
3.
Acquisition - PDSHeart, Inc.
On March 8, 2007, the Company acquired all of
the outstanding capital stock of PDSHeart for an aggregate purchase price of
$51.6 million. The $51.6 million purchase price was comprised of
$44.3 million cash at closing, $5.2 million in assumed debt,
$1.4 million of transaction expenses and the assumption of a
$0.7 million liability related to payments due to
9
Table of Contents
certain
key employees of PDSHeart upon the one year anniversary of the closing.
Approximately $1.5 million of the assumed debt was satisfied through the
issuance of 1,456 shares of mandatorily redeemable convertible preferred stock
(MRCPS) at a value of $1,000 per share. In addition to the $51.6 million
consideration, the Company agreed to pay PDSHeart shareholders
$5.0 million of contingent consideration in the event of a qualifying
liquidation event, including a public offering or acquisition. The Companys
initial public offering was consummated on March 25, 2008 and,
accordingly, the purchase price for the PDSHeart acquisition has been adjusted
to $56.6 million to reflect this payment.
The acquisition has been included within the
consolidated results of operations from March 8, 2007. The Company
believes that the acquisition will accelerate its market expansion strategy by
providing immediate access to a sales force with existing physician
relationships capable of marketing the CardioNet System in areas of the country
where it had previously not been sold. A significant portion of the purchase
price has been allocated to goodwill. The most significant reason is that 75%
of PDSHeart revenues are received as patient reimbursement from medical
insurers and Medicare; however the patients are the customers as they determine
the economic relationship. There is no long-term intangible asset associated
with these patients so no value has been assigned to this revenue stream.
Under the purchase method of accounting, the total
purchase price is allocated to tangible and identifiable intangible assets
acquired and liabilities assumed based on their estimated fair values. The
following is a summary of the purchase price allocation:
Cash and cash equivalents
|
|
$
|
509,000
|
|
Accounts receivable, net
|
|
5,168,000
|
|
Property, plant and equipment
|
|
4,136,000
|
|
Other assets
|
|
505,000
|
|
Goodwill
|
|
45,999,000
|
|
Intangible assets:
|
|
|
|
Trade name
|
|
1,810,000
|
|
Customer relationships
|
|
1,551,000
|
|
Non compete agreements
|
|
245,000
|
|
Other accruals
|
|
(344,000
|
)
|
Other liabilities assumed
|
|
(2,984,000
|
)
|
|
|
|
|
Net assets acquired
|
|
$
|
56,595,000
|
|
The intangible assets with definite lives are being
amortized on a straight-line basis over lives ranging from two to six years.
In connection with the acquisition of PDSHeart, the
Company initiated exit plans for acquired activities that are redundant to the
Companys existing operations. The plan includes the closure of a facility and
the elimination of 35 positions in the areas of sales, finance, service
and management. In connection with the plan, the Company established reserves
of $0.5 million included in the purchase price allocation. As of September 30,
2008, all of the positions had been eliminated and the Company vacated the
facility. The reserve is included in accrued liabilities in the accompanying
consolidated balance sheet.
A summary of the reserve activity related to the
PDSHeart acquisition integration plan as of September 30, 2008 is as
follows:
|
|
Initial Reserves
Recorded in
Purchase Accounting
|
|
Payments/Adjustments
through
September 30, 2008
|
|
Balance as of
September 30, 2008
|
|
Severance and employee related costs
|
|
$
|
366,000
|
|
$
|
366,000
|
|
$
|
|
|
Rent abandonment
|
|
$
|
144,000
|
|
$
|
42,610
|
|
$
|
101,390
|
|
Total:
|
|
$
|
510,000
|
|
$
|
408,610
|
|
$
|
101,390
|
|
Additionally, the Company incurred expenses of $0.8
million through September 2008 to integrate these functions, and expects
to incur no additional cost. There is no reserve remaining for post-acquisition
integration costs as of September 30, 2008. Post-acquisition integration
costs included severance and employee related costs, IT costs, and other
administrative costs to complete the integration activities. These costs were
expensed as incurred in accordance with the SFAS No. 146,
Accounting for Exit or Disposal Activities
, and are included in Integration,
restructuring, and other nonrecurring charges.
10
Table of Contents
4.
Mandatorily Redeemable
Convertible Preferred Stock and Shareholders Equity (Deficit)
Mandatorily Redeemable Convertible
Preferred Stock
In March 2007, the Company sold 110,000 shares
of its mandatorily redeemable convertible preferred stock, or MRCPS, which
generated net proceeds to the Company of $102.1 million ($110 million less
offering costs of $7.9 million). The Company also issued 3,383 shares of MRCPS upon
conversion of an outstanding bridge loan and 1,456 shares as consideration to a
major shareholder of PDSHeart as consideration in the PDSHeart acquisition.
Accrued dividends were $6.1 million at March 25, 2008. The MRCPS original purchase price plus accrued
dividends were converted to common shares on March 25, 2008 in connection
with the Companys initial public offering.
Series A, B, C and D
Convertible Preferred Stock
From 1999 to 2004, the Company issued convertible
preferred stock which generated net proceeds to the Company of $53.5 million.
All Series A, B, C and D preferred stock converted to common stock on March 25,
2008 in connection with the Companys initial public offering.
Preferred Stock Warrants
In connection with a borrowing arrangement provided
by a bank, the Company issued a warrant in August 2000 to purchase 12,500
shares of Series B preferred stock at a price of $1.47 per share. The
warrant may be exercised at any time on or before August 9, 2010. In connection with the closing of the Companys
initial public offering on March 25, 2008, this warrant became exercisable
for 6,250 shares of the Companys common stock at a price of $2.94 per share.
In 2005 and 2006, the Company issued 964,189
warrants to purchase shares of its preferred stock at a price of $3.50 per
share to the participants in certain bridge financing transactions and to a
stockholder in connection with entering into the Amended and Restated
Subordinated Promissory Note with a stockholder. As a result of the MRCPS financing,
the warrants became exercisable for shares of the Companys Series D-1
preferred stock. These warrants were automatically net exercised for common
stock on March 25, 2008 in connection with the Companys initial public
offering.
5.
San Diego Restructuring
During the first quarter of 2008, the Company
initiated plans to consolidate its Finance and Human Resource functions in
Pennsylvania. This plan involves the elimination of 7 positions in San Diego.
The Company incurred expenses of $1.0 million through September 2008 to
consolidate these functions. The integration was substantially completed as of September 30,
2008. These costs were expensed as incurred in accordance with the SFAS No. 146,
Accounting for Exit or Disposal Activities
, and are included in Integration,
restructuring and other nonrecurring charges.
A summary of the reserve activity related to the San
Diego restructuring plan as of September 30, 2008 is as follows:
|
|
Initial Reserve
Recorded
|
|
Payments through
September 30, 2008
|
|
Balance as of
September 30, 2008
|
|
Severance and employee related costs
|
|
$
|
662,000
|
|
$
|
335,256
|
|
$
|
326,744
|
|
|
|
|
|
|
|
|
|
|
|
|
6.
Income Taxes
The Companys effective tax rate of 42.9% for the
nine months ended September 30, 2008 is based on its estimated fiscal 2008
pretax income and does not take into account the utilization of the Companys
net operating loss, credit carryforwards or other deferred income tax assets
because the Company is still in the process of determining the timing and
manner in which it can utilize such carryforwards and deductions due to
limitations in the Internal Revenue Code applicable to changes in ownership of
corporations. The Company is currently
conducting an analysis to determine the timing and manner of the utilization of
the net operating loss carryforwards. Following the completion of its analysis
of the availability of such carryforwards and future income tax deductions, the
Company will adjust its tax rate accordingly in future quarters.
The Company has net deferred income tax assets totaling
approximately $31.2 million at the end of 2007, consisting primarily of
federal and state net operating loss and credit carryforwards. The federal and
state net operating loss carryforwards, if unused, will begin to expire in
2010. The federal and state credit carryforwards, if unused, will expire in
2026. Due to uncertainty regarding the ultimate realization of these net
operating loss and credit carryforwards and other
11
Table of Contents
deferred
income tax assets, the Company has established a valuation allowance for most
of these assets and will recognize the benefits only as reassessment indicates
the benefits are realizable.
7.
Recent Events
Conshohocken Fire
In August 2008, the
Companys corporate headquarters were affected by a fire at an adjacent
construction site. The fire caused water and electrical damage in one corner of
the Companys building. The Companys patient monitoring services were not
interrupted. Costs of $0.4 million were incurred through September 30,
2008, including $0.2 million of newly acquired fixed assets that have been
capitalized as of the balance sheet date, $0.1 million of fixed asset impairments,
and $0.1 million of out of pocket costs.
The Companys insurance
policy covers all out of pocket costs and damaged fixed assets at replacement
value, and as such, the Company does not expect to incur a loss as a result of
the fire damage. As of September 30, 2008, the Company could not estimate
the amount of gain or loss that would be associated with the insurance
settlement. The Company has established an insurance receivable for an amount
equal to the out of pocket costs and fixed assets incurred to date. There was
no impact to earnings for the three or nine months ended September 30,
2008.
Establishment of a CPT Code for the CardioNet System
The Centers for Medicare and Medicaid
Services (CMS) have established Category I Current Procedural Terminology (CPT)
codes and reimbursement rates that cover the CardioNet System. The 2009
national payment rate for technical support related to use of the CardioNet
System (CPT 93229) has been carrier priced, meaning similar to today, Highmark
Medicare Service is responsible for setting the reimbursement rate for this new
code. The current technical reimbursement rate established by Highmark Medicare
Services is $1,123. The reimbursement
rates assigned to the new codes are consistent with current reimbursement
rates. A Category I CPT Code, along with reimbursement, provides strong
validation of our system for commercial payors that do not currently cover
CardioNet in their plans, while also creating a simplified and stable
reimbursement environment for the physicians.
The new billing codes will allow for automated claims adjudication,
substantially simplifying the reimbursement process for physicians and payors
compared to the current process. Reimbursement is currently obtained through
non-specific billing codes which require various narratives that, in most
cases, involve semi-automated or manual processing, as well as additional
review by payors.
The new Category I CPT codes, which were
established by the AMA for the professional and technical components associated
with the CardioNet System, are:
·
CPT code 93228 Wearable mobile cardiovascular telemetry with
electrocardiographic recording, concurrent computerized real time data analysis
and greater than 24 hours of accessible ECG data storage (retrievable with
query) with ECG triggered and patient selected events transmitted to a remote
attended surveillance center for up to 30 days; physician review and
interpretation with report.
·
CPT code 93229 Technical support for connection and patient instructions for
use, attended surveillance, analysis and physician prescribed transmission of
daily and emergent data reports.
Item
2. Managements Discussion and Analysis of Financial Condition and Results of
Operations.
Overview
We are the leading provider of ambulatory,
continuous, real-time outpatient management solutions for monitoring relevant
and timely clinical information regarding an individuals health. We
incorporated in the state of California in March 1994, but did not
actively begin developing our product platform until April 2000. From 2000
through 2002, we devoted substantially all of our resources to developing an
integrated patient monitoring platform that incorporates a wireless data
transmission network, internally developed software, FDA-cleared algorithms and
medical devices, and a 24-hour monitoring service center.
In February 2002, we received FDA 510(k) clearance
for the first and second generation of our core CardioNet System (Mobile
Cardiac Outpatient Telemetry). We opened the CardioNet Monitoring Center in
Conshohocken, Pennsylvania in July 2002 and currently provide all of our
CardioNet System arrhythmia monitoring at that location. We established our
relationship with QUALCOMM Incorporated in May 2003, which provides us
with wireless cellular data connectivity and data hosting and queuing services.
Pursuant to our agreement with QUALCOMM, we have no fixed or minimum financial
commitments. However, in the event that we fail to maintain an agreed-upon
number of active cardiac monitoring devices on
12
Table of Contents
the
QUALCOMM network, or in the event that we begin to utilize the services of a
provider of monitoring and communications services other than QUALCOMM,
QUALCOMM has the right to terminate this agreement.
In November 2006, we received FDA 510(k) clearance
for our third generation product, or C3, which we have begun to incorporate as
part of our monitoring solution. We had previously received FDA 510(k) clearance
for the proprietary algorithm included in our C3 system in October 2005.
In September 2002, we were approved as an
Independent Diagnostic Testing Facility for Medicare. The local Medicare
carrier in Pennsylvania sets the terms for reimbursement of our CardioNet
System for approximately 40 million covered lives. We have also worked to
secure contracts with commercial payors. We increased the number of contracts
with commercial payors from six at year-end 2003 to 41 at year-end 2004, 97 at
year-end 2005, 144 at year-end 2006, 169 at year-end 2007 and 194 at September 30,
2008. Over this period of time, we estimate that the number of covered
commercial lives increased from six million at year-end 2003 to
32 million at year-end 2004, 70 million at year-end 2005,
102 million at year-end 2006, 120 million at year-end 2007 and
150 million at September 30, 2008. The current estimated total of
190 million Medicare and commercial lives for which we had reimbursement
contracts as of September 30, 2008 represents approximately 75% of the
total covered lives in the United States. The majority of the remaining covered
lives are insured by a relatively small number of large commercial insurance
companies that, beginning in 2003, deemed the CardioNet System to be experimental
and investigational and do not currently reimburse us for services provided to
their beneficiaries. We believe a primary reason for the experimental and
investigational designation had been a lack of a published peer reviewed
prospective randomized clinical trial that demonstrates the clinical efficacy
of the CardioNet System. As a result, we
significantly slowed our geographic expansion in 2005 and 2006, as we awaited
results of a randomized clinical trial comparing the CardioNet System to
traditional loop event monitors which was subsequently published in March 2007.
On March 8, 2007, we acquired all of the
outstanding capital stock of PDSHeart for an aggregate purchase price of $51.6 million.
The $51.6 million purchase price was comprised of $44.3 million in
cash at closing, $5.2 million in assumed debt, $1.4 million of
transaction expenses and the assumption of a $0.7 million liability
related to payments due to certain key employees of PDSHeart on March 8,
2008. Approximately $1.5 million of the assumed debt was satisfied through
the issuance of 1,456 shares of our mandatorily redeemable convertible
preferred stock at an original issue price per share of $1,000. In addition to
the $51.6 million of consideration, the Company agreed to pay PDSHeart
shareholders $5.0 million of contingent consideration in the event of a
qualifying liquidation event, including a public offering or acquisition. The Companys initial public offering was
consummated on March 25, 2008 and, accordingly, the purchase price for the
PDSHeart acquisition has been adjusted to $56.6 million to reflect this
payment. The acquisition has been included in our consolidated results of
operations since March 8, 2007. PDSHeart, now a wholly-owned subsidiary of
CardioNet, provides event, Holter and pacemaker monitoring services to patients
in 48 states, with a concentration of sales in the Southeast. The acquisition
has broadened our geographic coverage and expanded our service offerings to
include the complete range of cardiac monitoring services.
For our event, Holter and pacemaker monitoring
services, we have established Medicare reimbursement and we have 106 direct
contracts with commercial payors as of September 30, 2008 representing an
estimated 135 million covered lives.
In March 2007, we raised $110 million
through the issuance of mandatorily redeemable convertible preferred stock to,
in part, fund the acquisition of PDSHeart.
We have undertaken an initiative to improve our
operational efficiency and future profitability in connection with our
acquisition of PDSHeart in March 2007, mainly through the integration of
operational and administrative functions. The plan, which was approved at the
time of the PDSHeart acquisition, includes the closure of a facility and the
elimination of 35 positions in the areas of sales, finance, service and
management. In connection with the plan, the Company established reserves of
$0.5 million included in the purchase price allocation. Additionally, we incurred expenses of $0.8
million of employee-related costs to integrate these functions through September 2008.
These costs will be expensed as incurred in accordance with the SFAS No. 146,
Accounting for Exit or Disposal Activities
.
On February 25, 2008, the Board of Directors of
the Company, subject to stockholder approval, approved a reverse stock split of
the Companys common stock at a ratio of one share for every two shares
previously held. On March 5, 2008, the stockholders of the Company
approved the reverse stock split and the reverse stock split became effective.
On March 25, 2008, the Company completed its
initial public offering generating net proceeds of approximately $46.7 million
after deducting underwriter commissions and estimated offering expenses.
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On August 6, 2008, an underwritten secondary public
offering of shares of common stock held by certain of the Companys existing
stockholders was completed. The Company
did not issue any shares and received no proceeds in connection with such
offering. The Company incurred
approximately $0.9 million in offering expenses on behalf of the selling
stockholders. These expenses were
incurred in accordance with the Companys obligations under a registration
rights agreement with the selling stockholders.
Statements of Operations Overview
Revenues
Our principal source of revenues is patient revenue
from cardiac monitoring services. The amount of revenue generated is based on
the number of patients enrolled through physician prescriptions and the rates
reimbursed to us by commercial payors, physicians, patients and Medicare. Reimbursement
rates are set by the Centers for Medicare and Medicaid Services (CMS) on a
case rate basis for the Medicare program and through negotiations with
commercial payors who typically pay a daily monitoring rate. From 2002 through September 2008,
our average case rate for monitoring Medicare patients has remained relatively
stable. We expect pricing to decline over time in a manner consistent with the
introduction and penetration of a premium priced service due to competition,
introduction of new technologies and the potential addition of larger
commercial payors. Since our CardioNet System services are relatively new and
the reimbursement status is evolving, our revenues are subject to fluctuations
due to increases or decreases in rates and decisions by payors regarding
reimbursement.
For the event, Holter and pacemaker monitoring
market we expect the price to be flat or declining as the new generation
technology gains wider acceptance in the market. In addition, the established
2007 Medicare rates compared to 2006 for our event monitoring services declined
by 3% to 8%, depending on the type of service, and our Holter monitoring
services declined 8%. Reimbursement rates for 2008 were flat compared to 2007,
and we expect 2009 and 2010 rates to remain consistent with 2008.
We believe the CardioNet System revenues will
increase as a percentage of revenues going forward as we emphasize this
service, continue our geographic expansion and achieve greater market
penetration in existing markets. We expect that the event, Holter and pacemaker
monitoring services revenues will be flat or declining in absolute terms as the
old technology is replaced and therefore, decrease as a percentage of revenues
going forward. Other revenue consists mainly of web hosting services provided
to an affiliate of a stockholder. We believe that other revenues will be flat
or declining in absolute terms and therefore, decrease as a percentage of
revenues going forward. Our revenues are seasonal, as the volume of
prescriptions tends to slow down in the summer months due to the more limited
use of our monitoring solutions as physicians and patients vacation.
Gross Profit
Gross profit consists of revenues less the cost of
revenues. Cost of revenues includes:
·
salaries,
benefits and stock-based compensation for personnel providing various services
and customer support to physicians and patients including patient enrollment
and education, monitoring services, distribution services (scheduling,
packaging and delivery of the monitors and sensors to the patients), device
repair and maintenance, and quality assurance;
·
cost of
patient-related services provided by third-party subcontractors including
device transportation to and from the patient, cellular airtime charges related
to transmission of ECGs to the CardioNet Monitoring Center and cost for in-home
customer hook-ups when necessary;
·
consumable
supplies sent to patients along with the durable components of the CardioNet
System;
·
depreciation
on our monitors; and
·
service cost
related to special project revenues.
For
the quarter ended September 30, 2008, our gross profit margin was 67.9%.
In general, we expect gross profit margins on the CardioNet System services to
remain flat or increase, assuming no changes in reimbursement rates. For our
event and Holter monitoring services, we expect gross profit margins to remain
flat as we expect reimbursement rates to remain unchanged.
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Sales and Marketing
Sales and marketing expense consists primarily of
salaries, benefits and stock-based compensation related to account executives,
marketing personnel and contracting personnel, account executive commissions,
travel and other reimbursable expenses, and marketing programs such as trade
shows and marketing campaigns.
Following the completion of our randomized clinical
trial and the PDSHeart acquisition, we made a significant investment in sales
and marketing by increasing the number of account executives in new
geographies. We had a sales force of 81 account executives as of September 30,
2008. We currently have account executives covering 48 states. We also plan to
increase our marketing activities. As a result, we expect that sales and
marketing expenses will increase in absolute terms, but will remain flat as a
percentage of revenues going forward.
Research and Development
Research and development expense consists primarily
of salaries, benefits and stock-based compensation of personnel and the cost of
subcontractors who work on the development of the hardware and software for our
next generation monitors, enhance the hardware and software of our existing
monitors and provide quality control and testing. Expenses related to clinical
trials are also included in research and development expenses. We expect that
research and development expenses will increase in absolute terms but decrease
as a percentage of revenues going forward.
General and Administrative
General and administrative expense consists
primarily of salaries, benefits and stock based compensation related to general
and administrative personnel, professional fees primarily related to legal and
audit fees, facilities expenses and the related overhead, and bad debt expense.
We expect that general and administrative expenses will increase in absolute
terms due to the significant planned investment in infrastructure to support
our growth and the additional expenses related to becoming a publicly traded
company, including the increased cost of compliance and increased audit fees
resulting from the Sarbanes-Oxley Act. As a percentage of revenues, we expect
general and administrative expenses to decline as we grow.
Income Taxes
We have net deferred income tax assets totaling
approximately $31.2 million at the end of 2007, consisting primarily of
federal and state net operating loss and credit carryforwards. The federal and
state net operating loss carryforwards, if unused, will begin to expire in
2010. The federal and state credit carryforwards, if unused, will expire in
2026. Due to uncertainty regarding the ultimate realization of these net
operating loss and credit carryforwards and other deferred income tax assets,
we have established a valuation allowance for most of these assets and will
recognize the benefits only as reassessment indicates the benefits are
realizable. The Company is currently conducting an analysis to determine the
timing and manner of the utilization of the net operating loss carryforwards
and will adjust our tax rate accordingly in future quarters, beginning the
fourth quarter of 2008.
Critical Accounting Policies and
Estimates
The discussion and analysis of our financial
condition and results of operations are based on our financial statements,
which we have prepared in accordance with US generally accepted accounting
principles. The preparation of these financial statements requires us to make
estimates and assumptions that affect the reported amount of assets and
liabilities, revenues and expenses and related disclosures. We base our
estimates and judgments on historical experience and on various other factors
that we believe to be reasonable under the circumstances; however actual
results may differ from these estimates. We review our estimates and judgments
on an ongoing basis.
We believe that our accounting policies and
estimates are most critical to a full understanding and evaluation of our
reported financial results. Our significant accounting policies are more fully
described in Managements Discussion and Analysis of Financial Condition and
Results of Operations Critical Accounting Policies and Estimates in our
Final Prospectus filed with the United States Securities and Exchange Commission,
or SEC, pursuant to Rule 424(b) (File No. 333-145547) on March 19,
2008.
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Results of Operations
Quarters Ended September 30, 2008 and
2007
Revenues.
Total revenues for
the quarter ended September 30, 2008 increased to $31.2 million from
$20.5 million for the quarter ended September 30, 2007, an increase
of $10.7 million, or 52.1%. CardioNet System revenue increased
$11.1 million, offset by a decrease in PDS revenue of $0.4 million.
Gross Profit.
Gross profit
increased to $21.2 million for the quarter ended September 30, 2008,
or 67.9% of revenues, from $13.4 million for the quarter ended September 30,
2007, or 65.4% of revenues. The increase of $7.8 million is due to the
increased revenue from the CardioNet System as well as operational efficiencies
achieved and cost reductions negotiated with vendors during 2008.
Sales and Marketing Expense.
Sales and marketing
expenses were $5.2 million for the quarter ended September 30, 2008
compared to $3.9 million for the quarter ended September 30, 2007.
The increase of $1.3 million is due to the continued building of the sales
operations infrastructure. As a percent
of total revenues, sales and marketing expenses were 16.7% for the quarter
ended September 30, 2008 compared to 19.2% for the quarter ended September 30,
2007, a decline of 2.5% as the increase in expense was offset by higher
revenue.
Research and Development Expense.
Research and
development expenses increased to $0.9 million for the quarter ended September 30,
2008 compared to $0.8 million for the quarter ended September 30,
2007. As a percent of total revenues, research and development expenses
declined to 2.9% for the quarter ended September 30, 2008 compared to 3.9%
for the quarter ended September 30, 2007, a decline of 1.0% primarily due
to the higher revenue.
General and Administrative
Expense.
General
and administrative expenses (including amortization) increased to
$10.8 million for the quarter ended September 30, 2008 from
$7.1 million for the quarter ended September 30, 2007. This increase
of $3.7 million, or 52.1%, was primarily due to an increase in the
provision for bad debt of $1.9 million, increase in stock compensation
expense of $0.7 million, increase in the bonus accrual of $0.2 million, and
increased insurance, audit and tax fees of $0.6 million that were higher due to
the organization becoming a public entity.
Integration, Restructuring and
Other Nonrecurring Charges.
Integration charges relating to the PDSHeart
acquisition were $0.2 million for the quarter ended September 30, 2008.
Restructuring charges relating to consolidating our Finance and Human Resources
functions in Pennsylvania were $0.7 million for the quarter ended September 30,
2008. Secondary offering costs were $0.9 million, and other nonrecurring
charges were $1.1 million for the quarter ended September 30, 2008. We
incurred no integration, restructuring or other nonrecurring charges in the
quarter ended September 30, 2007.
In connection with the acquisition of PDSHeart, the
Company initiated exit plans for acquired activities that are redundant to the
Companys existing operations. The plan includes the closure of a facility and
the elimination of 35 positions in the areas of sales, finance, service and
management. In connection with the plan, the Company established reserves of
$0.5 million included in the purchase price allocation. For the quarter ended September 30,
2008, all of the positions have been eliminated and approximately $0.2 million
of employee-related expenses have been incurred.
In addition, in March 2008, the Company
initiated restructuring plans to consolidate its Finance and Human Resources
functions in Pennsylvania. This plan includes the elimination of seven
positions in California was substantially completed as of September 30,
2008. For the quarter ended September 30, 2008, no positions have been
eliminated and approximately $0.7 million of employee-related expenses have
been incurred.
Total Interest Income/Expense,
Net.
Net
interest income was $0.3 million for the quarter ended September 30, 2008 and
2007.
Income Taxes.
The Companys
effective tax rate was 43.8% for the quarter ended September 30,
2008. This compares to no income tax
benefit or expense for the quarter ended September 30, 2007. The effective
tax rate is based on our estimated fiscal 2008 pretax income and does not take
into account our net operating loss carryforwards and other future income tax
deductions because we are still in the process of determining the timing and
manner in which we can utilize such carryforwards and deductions due to
limitations in the Internal Revenue Code applicable to changes in ownership of
corporations. The Company has approximately $62 million in federal net
operating losses as of December 31, 2007 to offset future taxable income
expiring in various years through 2026.
Following the completion of our analysis of the availability of such
carryforwards and future income tax deductions we will adjust our tax rate
accordingly in future quarters, beginning in the fourth quarter of 2008.
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Net Income (Loss).
Net income was $1.0
million for the quarter ended September 30, 2008 compared to net income of
$1.8 million for the quarter ended September 30, 2007. As a percent
of total revenues, net income was 3.2% for the quarter ended September 30,
2008 compared to net income of 8.8% for the quarter ended September 30,
2007.
Nine Months Ended September 30, 2008
and 2007
Revenues.
Total revenues for the
nine months ended September 30, 2008 increased to $86.0 million from
$49.0 million for the nine months ended September 30, 2007, an
increase of $37.0 million, or 75.5%. CardioNet System revenue increased
$34.5 million. Revenue from the event and Holter monitoring business
increased $2.5 million versus the prior year due to the full period effect in
2008 of the PDSHeart acquisition that was consummated on March 8, 2007.
Gross Profit.
Gross profit
increased to $56.7 million for the nine months ended September 30,
2008, or 65.9% of revenues, from $32.2 million for the nine months ended September 30,
2007, or 65.7% of revenues. The increase of $24.5 million is primarily due to
increased CardioNet System revenue compared to our lower margin event and Holter
business.
Sales and Marketing Expense.
Sales and marketing
expenses were $15.7 million for the nine months ended September 30,
2008 compared to $11.6 million for the nine months ended September 30,
2007. The increase of $4.1 million is due primarily to the full period
effect of the PDSHeart acquisition of $1.1 million and the increased sales
operations infrastructure buildup of $3.0 million. As a percent of total
revenues, sales and marketing expenses were 18.3% for the nine months ended September 30,
2008 compared to 23.7% for the nine months ended September 30, 2007, a
decline of 5.4% as the increase in expense was offset by higher revenue.
Research and Development Expense.
Research and
development expenses increased to $3.0 million for the nine months ended September 30,
2008 compared to $2.8 million for the nine months ended September 30,
2007. As a percent of total revenues, research and development expenses
declined to 3.5% for the nine months ended September 30, 2008 compared to
5.7% for the nine months ended September 30, 2007, a decline of 2.2%
primarily due to higher revenue.
General and Administrative
Expense.
General
and administrative expenses (including amortization) increased to
$29.8 million for the nine months ended September 30, 2008 from
$19.4 million for the nine months ended September 30, 2007. This
increase of $10.4 million, or 53.6%, was primarily due to an increase in
the provision for bad debt of $3.2 million, increased infrastructure due
to Company growth, increased bonus accrual of $1.2 million, increased insurance
costs, audit and tax fees of $1.4 million that were higher due to the
organization becoming a public entity, stock based compensation of $0.9
million, increased legal fees of $0.8 million, and increased amortization due
to the PDSHeart acquisition of $0.2 million. As a percent of total revenues,
general and administrative expenses declined to 34.7% for the nine months ended
September 30, 2008 compared to 39.6% for the nine months ended September 30,
2007, a decrease of 4.9% as the increase in expense was offset by the higher
revenue.
Integration, Restructuring and
Other Nonrecurring Charges.
The Company has incurred integration and
restructuring costs as well as $1.0 million related to the resolution of intellectual
property litigation for the nine months ended September 30, 2008. Integration charges relating to the PDSHeart
acquisition were $0.8 million for the nine months ended September 30,
2008. Restructuring charges relating to consolidating our Finance and Human
Resources functions in Pennsylvania were $1.0 million for the nine months ended
September 30, 2008. Secondary offering costs were $0.9 million, and other
nonrecurring charges related to the departure of certain directors were $1.1
million for the nine months ended September 30, 2008. We incurred no
integration, restructuring or other nonrecurring charges in the quarter ended September 30,
2007.
In connection with the acquisition of PDSHeart, the
Company initiated exit plans for acquired activities that are redundant to the
Companys existing operations. The plan includes the closure of a facility and
the elimination of 35 positions in the areas of sales, finance, service and
management. In connection with the plan, the Company established reserves of
$0.5 million included in the purchase price allocation. As of September 30,
2008, all of the positions have been eliminated and approximately $0.8 million
of employee-related expenses have been incurred.
In addition, in March 2008, the Company initiated
restructuring plans to consolidate its Finance and Human Resources functions in
Pennsylvania. This plan includes the elimination of 7 positions in California
and is substantially complete as of September 30, 2008. As of September 30,
2008, five positions have been eliminated and approximately $1.0 million of
employee-related expenses have been incurred.
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Total Interest Income/Expense,
Net.
Net
interest income was $0.7 million for the nine months ended September 30,
2008 compared to net interest expense of $0.8 million for the nine months
ended September 30, 2007. This decrease in interest expense on a net basis
is due to the payoff of debt which occurred in 2007.
Income Taxes.
The Companys
effective tax rate was 42.9% for the nine months ended September 30,
2008. This compares to no income tax
benefit or expense for the quarter ended September 30, 2007. The effective
tax rate is based on our estimated fiscal 2008 pretax income and does not take
into account our net operating loss carryforwards and other future income tax
deductions because we are still in the process of determining the timing and manner
in which we can utilize such carryforwards and deductions due to limitations in
the Internal Revenue Code applicable to changes in ownership of corporations.
The Company has approximately $62 million in federal net operating losses as of
December 31, 2007 to offset future taxable income expiring in various
years through 2026. Following the
completion of our analysis of the availability of such carryforwards and future
income tax deductions we will adjust our tax rate accordingly in future
quarters, beginning in the fourth quarter of 2008.
Net Income (Loss).
Net income was $2.3
million for the nine months ended September 30, 2008 compared to a net
loss of $2.5 million for the nine months ended September 30, 2007. As
a percent of total revenues, net income was 2.6% for the nine months ended September 30,
2008 compared to a net loss of 5.0% for the nine months ended September 30,
2007.
Liquidity and Capital Resources
From our inception in 1999 through September 30,
2008, we did not generate sufficient cash flows to fund our operations and the
growth of our business. As a result, prior to the completion of our initial
public offering, our operations were financed primarily through the private
placement of equity securities and both long-term and short-term debt
financings. Notably, we completed a
financing involving shares of our mandatorily redeemable convertible preferred
stock in March 2007, in which we received net proceeds of approximately
$102.1 million, and completed our initial public offering in March 2008,
in which we received net proceeds, after underwriting discounts and offering
expenses, of approximately $46.7 million. Through September 30, 2008, we
funded our business primarily through the following:
·
initial public
offering that provided net proceeds of approximately $46.7 million, after
deducting underwriting commissions and offering expenses;
·
issuance of
mandatorily redeemable convertible preferred stock that provided gross proceeds
of $110 million, of which $45.9 million was used to acquire PDSHeart;
·
issuance of
preferred stock that provided gross proceeds of $53.7 million;
·
a term loan of
$23.3 million from Guidant Investment Corporation, which was repaid on August 15,
2007; and
·
bank debt from
Silicon Valley Bank consisting of a term loan of $3.0 million, which was
repaid on April 1, 2008, and a working capital line secured by accounts
receivable of $1.9 million, which was repaid from the proceeds of the
mandatorily redeemable convertible preferred stock.
As of September 30, 2008, our principal source
of liquidity was cash and cash equivalents totaling $56.3 million and net
accounts receivable of $35.9 million.
Our cash flow from operations increased by $3.4
million to $4.3 million in the first nine months of 2008 from $0.9 million in
the first nine months of 2007. The increase is due primarily to taxable net
income growth as adjusted to exclude non cash depreciation and amortization and
stock compensation expense, and favorable changes in accrued liabilities. The
increases in cash from operations were offset by changes in accounts
receivable, prepaid expenses, and other assets.
We used net cash in investing activities of $11.9
million in the first nine months of 2008, compared to $56.0 million in the
first nine months of 2007, a decrease of $44.1 million. The decrease is
primarily due to the consummation of the PDSHeart acquisition in March 2007
for a net cash effect of $46.9 million, partially offset by additional cash
payments to PDSHeart shareholders in 2008 of $5.0 million as a result of the
contingent note payment due as a result of our initial public offering combined
with lower capital expenditures in 2008.
We generated net cash from financing activities of
$45.7 million in the first nine months of 2008, compared to $73.8 million in
the first nine months of 2007, a decrease of $28.1 million. The decrease is
primarily due to the mandatorily redeemable convertible preferred stock
financing in the first quarter of 2007 which generated net proceeds of $102.1
million,
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partially
offset by the retirement of debt of $29.3 million in 2007 compared to the net
cash proceeds from common stock issuance in 2008 of $48.3 million, excluding
offering expenses, partially offset by $3.1 million in debt repayment mainly
attributable to the retirement of Silicon Valley Bank debt.
We believe that our existing cash and cash
equivalent balances and revenues from our operations will be sufficient to meet
our anticipated cash requirements for the foreseeable future.
Our future funding requirements will depend on many
factors, including:
·
the costs
associated with developing, manufacturing and building our inventory of our
future monitoring solutions;
·
the costs of
hiring additional personnel and investing in infrastructure to support future
growth;
·
the
reimbursement rates associated with our products and services;
·
actions taken by
the FDA and other regulatory authorities affecting the CardioNet System and
competitive products;
·
our ability to
secure contracts with additional commercial payors providing for the
reimbursement of our services;
·
the emergence of
competing technologies and products and other adverse market developments;
·
the costs of
preparing, filing, prosecuting, maintaining and enforcing patent claims and
other intellectual property rights or defending against claims of infringement
by others; and
·
the costs of
investing in additional lines of business outside of arrhythmia monitoring
solutions.
To the extent that we raise additional capital by
issuing equity securities, our stockholders ownership will be diluted. In
addition, if we determine that we need to raise additional capital, such
capital may not be available on reasonable terms, or at all. If we raise
additional funds by issuing equity securities, substantial dilution to existing
stockholders would likely result. If we raise additional funds by incurring
additional debt financing, the terms of the debt may involve significant cash
payment obligations as well as covenants and specific financial ratios that may
restrict our ability to operate our business.
Item
3. Quantitative and Qualitative Disclosures about Market Risk.
Our cash and cash equivalents as of September 30, 2008 consisted
primarily of cash and money market funds with maturities of less than 90
days. The primary objective of our
investment activities is to preserve our capital for the purpose of funding
operations while, at the same time, maximizing the income we receive from our
investments without significantly increasing risk. To achieve this objective,
our investment policy allows us to maintain a portfolio of cash equivalents and
short term investments in a variety of securities including money market funds
and corporate debt securities. Due to the short term nature of our investments,
we believe we have no material exposure to interest rate risk.
Item
4T. Controls and Procedures.
We maintain disclosure controls and procedures that
are designed to ensure that information required to be disclosed in our
periodic reports filed with the SEC is recorded, processed, summarized and
reported within the time periods specified in the SECs 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 no evaluation of controls and procedures can provide
absolute assurance that all control issues and instances of fraud, if any,
within a company have been detected. Management is required to apply its
judgment in evaluating the cost-benefit relationship of possible controls and
procedures.
As required by Rule 13a-15(b) of the
Securities Exchange Act of 1934, as amended, or Exchange Act, prior to the
filing of this report 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 defined in Rules 13a-15(e) and
15d-15(e) of the Exchange Act) as of the end of the period covered by this
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report.
Based on their evaluation, our chief executive officer and chief financial
officer concluded that our disclosure controls and procedures were effective as
of the end of the period covered by this report.
In addition, management, including our chief
executive officer and chief financial officer, did not identify any change in
our internal control over financial reporting that occurred during our latest
fiscal quarter that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.
PART II - OTHER INFORMATION.
Item 1. Legal Proceedings.
On November 26, 2007, we filed a lawsuit against
LifeWatch Corp. and certain of its employees in the United States District
Court for the Northern District of Illinois, Eastern Division. In the action,
we allege several causes of action including trade secret misappropriation,
breach of contract, fraud, and unfair competition arising from actions of
LifeWatch and its employees to unlawfully obtain, use, inspect and test two of
our CardioNet System kits. On January 4, 2008, LifeWatch responded by
filing counterclaims in the action against us. In its counterclaims, LifeWatch
alleged that we misappropriated trade secrets of LifeWatch through inspection
of a LifeWatch device, and that we have made misleading advertising and
marketing statements relating to LifeWatch. In May 2008, the parties
entered into a settlement agreement pursuant to which the parties amicably
agreed to resolve the lawsuit with dismissal by both sides of all claims
pending in the lawsuit.
Item 1A. Risk Factors.
You should consider carefully the following
information about the risks described below, together with the other
information contained in this Quarterly Report and in our other public filings
in evaluating our business. We have marked with an asterisk (*) those risk
factors that reflect substantive changes from the risk factors included in our
final prospectus filed by the Company with the Securities and Exchange
Commission on March 19, 2008 relating to the Companys Registration
Statement on Form S-1/A (File No. 333-145547) for the Companys
initial public offering. If any of the following risks actually occurs, our
business, financial condition, results of operations and future growth
prospects would likely be materially and adversely affected. In these
circumstances, the market price of our common stock would likely decline.
Risks related to our business and industry
*We have a history
of net losses and may not be able to sustain profitability.
We incurred net losses from our inception through March 31,
2008. For the quarter ending September 30,
2008, we realized net income of $1.0 million.
As of September 30, 2008, we had total stockholders deficit of
approximately $79.4 million. We expect our operating expenses to increase as
we, among other things:
·
expand our sales
and marketing activities;
·
invest in
designing, manufacturing and building our inventory of future generations of
the CardioNet System;
·
hire additional
personnel;
·
invest in
infrastructure; and
·
incur the
additional expenses associated with being a public company.
With increasing expenses, we will need to continue to increase our
revenues to remain profitable. Because
of the risks and uncertainties associated with further developing and marketing
the CardioNet System, we are unable to predict the extent of any future income
or losses.
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Our business is
dependent upon physicians prescribing our services; if we fail to obtain those
prescriptions, our revenues could fail to grow and could decrease.
The success of our business is dependent upon physicians prescribing
our services for patients and cross-selling the respective CardioNet and PDSHeart
customer bases. Our success in obtaining prescriptions and cross-selling will
be directly influenced by a number of factors, including:
·
the ability of
the physicians with whom we work to obtain sufficient reimbursement and be paid
in a timely manner for the professional services they provide in connection
with the use of our arrhythmia monitoring solutions, particularly the CardioNet
System;
·
our ability to
educate physicians regarding, and convince them of, the benefits of the
CardioNet System over existing treatment methods such as Holter monitors and
event monitors; and
·
the perceived
clinical efficacy of the CardioNet System.
If we are unable to educate physicians regarding the benefits of the
CardioNet System, obtain sufficient prescriptions and cross-sell our respective
customer bases, revenues from the provision of our arrhythmia monitoring
solutions could fail to grow and could decrease.
We and the
physicians with whom we work are dependent upon reimbursement for the fees
associated with our services; the absence or inadequacy of reimbursement would
cause our revenues to fail to grow or decrease.
We receive reimbursement for our services from commercial payors and
from Medicare Part B carriers where the services are performed on behalf
of the Centers for Medicare and Medicaid Services, or CMS. The Medicare Part B
carriers in each state change from time to time, which may result in changes to
our reimbursement rates, increased administrative burden and reimbursement
delays.
In addition, our prescribing physicians receive reimbursement for
professional interpretation of the information provided by our products and
services from commercial payors or Medicare carriers within the state where
they practice. The efficacy, safety, performance and cost-effectiveness of our
products and services, on a stand-alone basis and relative to competing
services, will determine the availability and level of reimbursement we and our
prescribing physicians receive. Our ability to successfully contract with
payors is critical to our business because physicians and their patients will
select arrhythmia monitoring solutions other than ours in the event that payors
refuse to adequately reimburse our technical fees and physicians professional
fees.
Many commercial payors refuse to enter into contracts to reimburse the
fees associated with medical devices or services that such payors determine to
be experimental and investigational. Commercial payors typically label
medical devices or services as experimental and investigational until such
devices or services have demonstrated product superiority evidenced by a
randomized clinical trial. We completed a clinical trial in which the CardioNet
System provided higher diagnostic yield than traditional loop event monitoring.
Prior to our clinical trial, the CardioNet System was labeled experimental and
investigational by 21 targeted commercial payors, representing approximately
95 million covered lives. Subsequent to our trial, four commercial payors,
representing over 37 million covered lives, removed the designation of the
CardioNet System as experimental and investigational. Several of the
remaining payors, however, have informed us that they do not believe the data
from this trial justifies the removal of this designation. Other commercial
payors may also find the data from our clinical trial not compelling.
Additional commercial payors may also label the CardioNet System as experimental
and investigational and, as a result, refuse to reimburse the technical and
professional fees associated with the CardioNet System.
Administration of the claims process for the many commercial payors is
complex. As a result we sometimes bill payors for services for which we have no
reimbursement contract. These payors may require that we return any funds that
they pay in respect of these claims.
If commercial payors or Medicare decide not to reimburse our services
or the related services provided by physicians, or the rates of such
reimbursement change, or if we fail to properly administer claims, our revenues
could fail to grow and could decrease.
*Reimbursement by
Medicare is highly regulated and subject to change; our failure to comply with
applicable regulations, could decrease our revenues and may subject us to
penalties or have an adverse impact on our business.
We receive approximately 33% of our revenues as reimbursement from
Medicare. The Medicare program is administered by Centers for Medicare & Medicaid
Services, or CMS, which imposes extensive and detailed requirements on
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medical services providers, including, but not limited to, rules that
govern how we structure our relationships with physicians, how and when we
submit reimbursement claims, how we operate our monitoring facilities and how
and where we provide our arrhythmia monitoring solutions. Our failure to comply
with applicable Medicare rules could result in discontinuing our
reimbursement under the Medicare payment program, our being required to return
funds already paid to us, civil monetary penalties, criminal penalties and/or
exclusion from the Medicare program.
In addition, reimbursement from Medicare is subject to statutory and
regulatory changes, local and national coverage decisions, rate adjustments and
administrative rulings, all of which could materially affect the range of
services covered or the reimbursement rates paid by Medicare for use of our
arrhythmia monitoring solutions. For example, CMS adopted a new payment policy
in January 2007 that reduced the rate of reimbursement for a number of services
reimbursed by Medicare. Although this modification to Medicares reimbursement
rates did not affect the amount paid by Medicare for reimbursement of the fees
associated with the CardioNet System, it resulted in the reduction of
reimbursement rates for event services by 3% to 8%, depending on the type of
service, and Holter services by 8% as compared to the corresponding rates in
effect in 2006. Reimbursement rates for 2008 were flat compared to 2007,
and we expect 2009 and 2010 rates to remain consistent with 2008
. In
addition, we cannot predict whether future modifications to Medicares
reimbursement policies could reduce or eliminate the amounts we receive from
Medicare for the solutions we provide. In addition, Medicares reimbursement
rates can affect the rate that commercial payors are willing to pay for our
products and services. Consequently, any future elimination, limitation or
reduction in the reimbursement rates provided by Medicare for our arrhythmia
monitoring solutions could result in a reduction in the rates we receive from
commercial payors.
*A reduction in the
published reimbursement rates could negatively impact our business and our
operating results.
Carrier pricing for our services is established by Highmark Medicare
Services for 2009 and beyond. We have no reason to believe the reimbursement
rate to be reduced in the foreseeable future. However, it is possible that the
rate could decline. A decrease in the reimbursement rate for our services would
adversely affect our business and operating results.
*A reduction in
sales of our services or a loss of one or more of our key commercial payors
would adversely affect our business and operating results.
A small number of commercial payors represent a significant percentage
of our revenues. In the quarter ended September 30, 2008, our top 10
commercial payors by revenues accounted for approximately 32.0% of our total
revenues. Our agreements with these commercial payors typically allow either
party to the contract to terminate the contract by providing between 60 and
120 days prior written notice to the other party at any time following the
end of the initial term of the contract. Our commercial payors may elect to
terminate or not to renew their contracts with us for any reason and, in some
instances can unilaterally change the reimbursement rates they pay. In the
event any of our key commercial payors terminate their agreements with us,
elect not to renew their agreements with us or elect not to enter into new
agreements with us upon expiration of their agreements with us on terms as
favorable as our current agreements, our business, operating results and
prospects would be adversely affected.
Consolidation of
commercial payors could result in payors eliminating coverage of our CardioNet System
or reduced reimbursement rates for our CardioNet System.
The commercial payor industry is undergoing significant consolidation.
When payors combine their operations, the combined company may elect to
reimburse our CardioNet System at the lowest rate paid by any of the
participants in the consolidation. If one of the payors participating in the
consolidation does not reimburse for the CardioNet System at all, the combined
company may elect not to reimburse for the CardioNet System. Our reimbursement rates
tend to be lower for larger payors. As a result, as payors consolidate, our
average reimbursement rate may decline.
Our acquisition of
PDSHeart, as well as any other companies or technologies we may acquire in the
future, could prove difficult to integrate and may disrupt our business and
harm our operating results and prospects.
Our acquisition of PDSHeart involves numerous risks, including the risk
that we will not take advantage of the cross-selling opportunities brought
about by the acquisition. In addition, our acquisition of PDSHeart, as well as
acquisitions in which we may engage in the future, involve risks associated
with our assumption of the liabilities of an acquired company, which may be
liabilities that we were or are unaware of at the time of the acquisition,
potential write-offs of acquired assets and potential loss of the acquired
companys key employees or customers.
We may encounter difficulties in successfully integrating our
operations, technologies, services and personnel with that of the acquired
company, and our financial and management resources may be diverted from our
existing operations. For
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example, following our acquisition of PDSHeart, we have offices in
Pennsylvania, California, Florida, Georgia and Minnesota. Our offices in
multiple states create a strain on our ability to effectively manage our
operations and key personnel. If we elect to consolidate our facilities we may
lose key personnel unwilling to relocate to the consolidated facility, may have
difficulty hiring appropriate personnel at the consolidated facility and may
have difficulty providing continuity of service through the consolidation.
Physician and patient satisfaction or performance problems with an
acquired business, technology, service or device could also have a material
adverse effect on our reputation. Additionally, potential disputes with the
seller of an acquired business or its employees, suppliers or customers and
amortization expenses related to goodwill and other intangible assets could
adversely affect our business, operating results and financial condition.
We may not be able to realize the anticipated benefits of the PDSHeart
acquisition or any other acquisition we may pursue or to profitably deploy
acquired assets. If we fail to properly evaluate and execute acquisitions, our
business may be disrupted and our operating results and prospects may be
harmed.
*If we are unable to
manage our expected growth, our revenues and operating results may be adversely
affected.
Our business plans call for rapid expansion of our sales and marketing
operations and growth of our research and development, product development and
administrative operations. We had a sales force of 81 account executives at September 30,
2008. We intend to further expand our sales force by December 31, 2008. We
expect this expansion will place a significant strain on our management and
operational and financial resources. Our current and planned personnel,
systems, procedures and controls may not be adequate to support our anticipated
growth. To manage our growth we will be required to improve existing and
implement new operational and financial systems, procedures and controls and
expand, train and manage our growing employee base. If we are unable to manage
our growth effectively, revenue growth may not be realized or may not be
sustainable, may not result in improved operating results or earnings, and our
business, financial condition and results of operations could be harmed.
Our business is
dependent upon having sufficient monitors and sensors. If we do not have enough
monitors or sensors or experience delays in manufacturing, we may be unable to
fill prescriptions in a timely manner, physicians may elect not to prescribe
the CardioNet System, and our revenues and growth prospects could be harmed.
When a physician prescribes the CardioNet System to a patient, our
customer service department begins the patient hook-up process, which includes
procuring a monitor and sensors from our distribution department and sending
them to the patient. While our goal is to provide each patient with a monitor
and sensors in a timely manner, we have experienced and may in the future
experience delays due to the availability of monitors, primarily when
converting to a new generation of monitor or, more recently, in connection with
the increase in prescriptions following our acquisition of PDSHeart.
We may also experience shortages of monitors or sensors due to
manufacturing difficulties. Multiple suppliers provide the components used in
the CardioNet System, but our facilities in San Diego, California are
registered and approved by the United States Food and Drug Administration, or
FDA, as the ultimate manufacturer of the CardioNet System. Our manufacturing
operations could be disrupted by fire, earthquake or other natural disaster, a
work stoppage or other labor-related disruption, failure in supply or
other logistical channels, electrical outages or other reasons. If there was a
disruption to our facilities in San Diego, we would be unable to manufacture
the CardioNet System until we have restored and re-qualified our manufacturing
capability or developed alternative manufacturing facilities.
Our success in obtaining future prescriptions from physicians is
dependent upon our ability to promptly deliver monitors and sensors to our
patients, and a failure in this regard would have an adverse effect on our
revenues and growth prospects.
*Interruptions or
delays in telecommunications systems or in the data services provided to us by
QUALCOMM or the loss of our wireless or data services could impair the delivery
of our CardioNet System services.
The success of the CardioNet System is dependent upon our ability to
store, retrieve, process and manage data and to maintain and upgrade our data
processing and communication capabilities. The monitors we use in connection
with the CardioNet System rely on a third party wireless carrier to transmit
data over its data network during times that the monitor is removed from its
base. All data sent by our monitors via this wireless data network or via
landline is routed directly to QUALCOMM data centers and subsequently routed to
our monitoring center. We are dependent upon these third parties to provide
data transmission and data hosting services to us. We do not have an agreement
directly with this third party wireless carrier. Although we do have an
agreement with QUALCOMM that has a termination date in September 2012,
QUALCOMM may terminate its agreement with us if certain conditions occur,
including if QUALCOMMs agreement with
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the third party wireless carrier terminates, in the event we
fail to maintain an agreed-upon number of active cardiac monitoring devices on
the QUALCOMM network or in the event that we begin to utilize the services of a
provider of monitoring and communication services other than QUALCOMM
.
We have no control over the status of the agreement between QUALCOMM and the
wireless carrier. If we fail to maintain our relationships with QUALCOMM or if
we lose wireless carrier services, we would be forced to seek alternative
providers of data transmission and data hosting services, which might not be
available on commercially reasonable terms or at all.
As we expand our commercial activities, an increased burden will be
placed upon our data processing systems and the equipment upon which they rely.
Interruptions of our data networks or the data networks of QUALCOMM for any
extended length of time, loss of stored data or other computer problems could
have a material adverse effect on our business, financial condition and results
of operations. Frequent or persistent interruptions in our arrhythmia
monitoring services could cause permanent harm to our reputation and could
cause current or potential users of the CardioNet System or prescribing
physicians to believe that our systems are unreliable, leading them to switch
to our competitors. Such interruptions could result in liability, claims and
litigation against us for damages or injuries resulting from the disruption in
service.
Our systems are vulnerable to damage or interruption from earthquakes,
floods, fires, power loss, telecommunication failures, terrorist attacks,
computer viruses, break-ins, sabotage, and acts of vandalism. Despite any
precautions that we may take, the occurrence of a natural disaster or other
unanticipated problems could result in lengthy interruptions in these services.
We do not carry business interruption insurance to protect against losses that
may result from interruptions in service as a result of system failures.
Moreover, the communications and information technology industries are subject
to rapid and significant changes, and our ability to operate and compete is
dependent in significant part on our ability to update and enhance the
communication technologies used in our systems and services.
The market for
arrhythmia monitoring solutions is highly competitive. If our competitors are
able to develop or market monitoring solutions that are more effective, or gain
greater acceptance in the marketplace, than any solutions we develop, our
commercial opportunities will be reduced or eliminated.
The market for arrhythmia monitoring solutions is evolving rapidly and
becoming increasingly competitive. Our industry is highly fragmented and characterized
by a small number of large providers and a large number of smaller regional
service providers. These third parties compete with us in marketing to payors
and prescribing physicians, recruiting and retaining qualified personnel,
acquiring technology and developing solutions complementary to our programs. In
addition, as companies with substantially greater resources than ours enter our
market, we will face increased competition. If our competitors are better able
to develop and patent arrhythmia monitoring solutions than us, or develop more
effective and/or less expensive arrhythmia monitoring solutions that render our
solutions obsolete or non-competitive or deploy larger or more effective
marketing and sales resources than ours, our business will be harmed and our
commercial opportunities will be reduced or eliminated.
*If we need to raise
additional funding in the future, we may be unable to raise such capital when
needed, or at all, and the terms of such capital may be adverse to our stockholders.
We believe that the net proceeds from our initial public offering,
together with our existing cash and cash equivalent balances, will be
sufficient to meet our anticipated cash requirements for the foreseeable
future. However, our future funding requirements will depend on many factors,
including:
·
the costs
associated with manufacturing and building our inventory of our C3 monitor;
·
the costs of
hiring additional personnel and investing in infrastructure to support future
growth;
·
the reimbursement
rates associated with our products and services;
·
actions taken by
the FDA, CMS and other regulatory authorities affecting the CardioNet System
and competitive products;
·
our ability to
secure contracts with additional commercial payors providing for the
reimbursement of our services;
·
the emergence of
competing technologies and products and other adverse market developments;
·
the costs of
preparing, filing, prosecuting, maintaining and enforcing patent claims and
other intellectual property rights or defending against claims of infringement
by others; and
·
the costs of
investing in additional lines of business outside of arrhythmia monitoring
solutions.
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If we need to, or choose to, raise additional capital in the future,
such capital may not be available on reasonable terms, or at all. If we raise
additional funds by issuing equity securities, substantial dilution to existing
stockholders would likely result. If we raise additional funds by incurring
debt financing, the terms of the debt may involve significant cash payment
obligations as well as covenants and financial ratios that may restrict our ability
to operate our business.
Our manufacturing
facilities and the manufacturing facilities of our suppliers must comply with
applicable regulatory requirements. If we or our suppliers fail to achieve or
maintain regulatory approval of these manufacturing facilities, our growth
could be limited and our business could be harmed.
We currently manufacture the monitors and sensors for the CardioNet
System in San Diego, California. Monitors used in the provision of services by
PDSHeart are purchased from several third parties. In order to maintain
compliance with FDA and other regulatory requirements, our manufacturing
facilities must be periodically re-evaluated and qualified under a quality
system to ensure they meet production and quality standards. Suppliers of
components of and products used to manufacture the CardioNet System and the
manufacturers of the monitors used in the provision of services by PDSHeart
must also comply with FDA and foreign regulatory requirements, which often
require significant resources and subject us and our suppliers to potential
regulatory inspections and stoppages. We or our suppliers may not satisfy these
requirements. If we or our suppliers do not maintain regulatory approval for our
manufacturing operations, our business would be harmed.
Our dependence on a
limited number of suppliers may prevent us from delivering our devices on a
timely basis.
We currently rely on a limited number of suppliers of components for
the CardioNet System. If these suppliers became unable to provide components in
the volumes needed or at an acceptable price, we would have to identify and
qualify acceptable replacements from alternative sources of supply. Qualifying
suppliers is a lengthy process. Delays or interruptions in the supply of our
requirements could limit or stop our ability to provide sufficient quantities
of devices on a timely basis, meet demand for our services, which could have a
material adverse effect on our business, financial condition and results of
operations.
We could be subject
to medical liability or product liability claims which may not be covered by
insurance and which would adversely affect our business and results of
operations.
The design, manufacture and marketing of services of the types we
provide entail an inherent risk of product liability claims. Any such claims
against us may require us to incur significant defense costs, irrespective of
whether such claims have merit. In addition, we provide information to health
care providers and payors upon which determinations affecting medical care are
made, and claims may be made against us resulting from adverse medical
consequences to patients resulting from the information we provide. In
addition, we may become subject to liability in the event that the monitors and
sensors we use fail to correctly record or transfer patient information or if
we provide incorrect information to patients or health care providers using our
services. We have also agreed to indemnify QUALCOMM for any claims resulting
from the provision of our services. If we incur one or more significant claims
against us, if we are required to indemnify QUALCOMM as a result of the
provision of our services, or if we are required to undertake remedial actions
in response to any such claims, such claims or actions would adversely affect
our business and results of operations.
Our liability insurance is subject to deductibles and coverage
limitations. In addition, our current insurance may not continue to be
available to us on acceptable terms, if at all, and, if available, the
coverages may not be adequate to protect us against any future claims. If we
are unable to obtain insurance at an acceptable cost or on acceptable terms
with adequate coverage or otherwise protect against any claims against us, we
will be exposed to significant liabilities, which may harm our business.
*If we do not obtain
and maintain adequate protection for our intellectual property, the value of
our technology and devices may be adversely affected.
Our business and competitive positions are dependent in part upon our
ability to protect our proprietary technology. To protect our proprietary
rights, we rely on a combination of trademark, copyright, patent, trade secret
and other intellectual property laws, employment, confidentiality and invention
assignment agreements with our employees and contractors, and confidentiality
agreements and protective contractual provisions with other third parties. We
attempt to protect our intellectual property position by filing trademark
applications and U.S., foreign and international patent applications related to
our proprietary technology, inventions and improvements that are important to
the development of our business.
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As
of July 21, 2008, we had 14 issued U.S. patents, nine foreign patents and
40 pending U.S., foreign and international patent applications relating to
various aspects of the CardioNet System. As of November 3, 2008, we also
had 11 trademark registrations in the United States for a variety of word marks
and slogans. We do not believe that any single patent, trademark or other
intellectual property right of ours, or combination of our intellectual
property rights, is likely to prevent others from competing with us using a
similar business model. There are many issued patents and patent applications
held by others in our industry and the electronics field. Our competitors may
independently develop technologies that are substantially similar or superior
to our technologies, or design around our patents or other intellectual
property to avoid infringement. In addition, we may not apply for a patent
relating to products or processes that are patentable, we may fail to receive
any patent for which we apply or have applied, and any patent owned by us or
issued to us could be circumvented, challenged, invalidated, or held to be
unenforceable, or rights granted thereunder may not adequately protect our
technology or provide a competitive advantage to us. For example, with respect
to one of our U.S. patents, we have a corresponding foreign patent, the claims
of which were amended substantially more so than in the United States, to
overcome art that was of record in the U.S. patent. If a third-party challenges
the validity of any patents or proprietary rights of ours, we may become
involved in intellectual property disputes and litigation that would be costly
and time-consuming.
Although
third parties may infringe our patents and other intellectual property rights,
we may not be aware of any such infringement, or we may be aware of potential
infringement but elect not to seek to prevent such infringement or pursue any
claim of infringement, and the third party may continue its potentially
infringing activities. For example, we believe that LifeWatch Corp. may be
infringing our intellectual property rights. Any decision whether or not to
take further action in response to potential infringement of our patent or
other intellectual property rights may be based on any one or more of a variety
of factors, such as the potential costs and benefits of taking such action, and
business and legal issues and circumstances. Litigation of claims of
infringement of a patent or other intellectual property rights may be costly
and time-consuming and divert the attention of key company personnel, and may
not be successful or result in any significant recovery of compensation for any
infringement or enjoining of any infringing activity. Litigation or licensing
discussions may also involve or lead to counterclaims that could be brought by
a potential infringer to challenge the validity or enforceability of our
patents and other intellectual property
.
To protect our trade secrets and other proprietary information, we
generally require our employees, consultants, contractors and outside
collaborators to enter into written nondisclosure agreements. These agreements,
however, may not provide adequate protection to prevent any unauthorized use,
misappropriation or disclosure of our trade secrets, know-how or other
proprietary information. These agreements may be breached, and we may not
become aware of, or have adequate remedies in the event of, any such breach.
Also, others may independently develop the same or substantially equivalent
proprietary information and techniques or otherwise gain access to our trade
secrets.
*Our ability to
market our services may be impaired by the intellectual property rights of
third parties.
Our success is dependent in part upon our ability to avoid infringing
the patents or proprietary rights of others. Our industry and the electronics
field are characterized by a large number of patents, patent filings and
frequent litigation based on allegations of patent infringement. Competitors
may have filed applications for or have been issued patents and may obtain
additional patents and proprietary rights related to devices, services or
processes that we compete with or are similar to ours. We may not be aware of
all of the patents or patent applications potentially adverse to our interests
that may have been or may later be issued to or filed by others.
U.S. patent applications may be kept confidential while pending in the
Patent and Trademark Office. If other companies have or obtain patents relating
to our products or services, we may be required to obtain licenses to those
patents or to develop or obtain alternative technology. We may not be able to
obtain any such licenses on acceptable terms, or at all. Any failure to obtain
such licenses could impair or foreclose our ability to make, use, market or
sell our products and services.
Based
on the litigious nature of our industry and the electronics field and the fact
that we may pose a competitive threat to some companies who own or control
various patents, it is always possible that one or more third parties may
assert a patent infringement claim seeking damages and to enjoin the
manufacture, use, sale and marketing of our products and services. If a
third-party asserts that we have infringed its patent or proprietary rights, we
may become involved in intellectual property disputes and litigation that would
be costly and time-consuming and could impair or foreclose our ability to make,
use, market or sell our products and services. For example, a competitor
initiated a patent infringement lawsuit against us in November 2004, which
we defended and ultimately settled in March 2006. Other lawsuits may have
already been filed against us without our knowledge. LifeWatch Corp. has
asserted or made statements suggesting that it believes we are infringing its
intellectual property rights. Additionally, we have received and expect to
continue to receive notices from other third parties suggesting or asserting
that we are infringing their patents and inviting us to license such patents.
We do not believe, however, that we are infringing LifeWatchs or any other
partys patents or that a license to any such patents is
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necessary.
Should litigation over such patents arise, which could occur if, for example, a
third party files a lawsuit alleging infringement of such patents or if we file
a lawsuit challenging such patents as being invalid or unenforceable, we intend
to vigorously defend against any allegation of infringement. If we are found to
infringe the patent or intellectual property rights of others, we may be
required to pay damages, stop the infringing activity or obtain licenses or
rights to the patents or other intellectual property in order to use,
manufacture, market or sell our products and services. Any required license may
not be available to us on acceptable terms or at all. If we succeed in
obtaining such licenses, payments under such licenses would reduce any earnings
from our products. In addition, licenses may be non-exclusive and, accordingly,
our competitors may have access to the same technology as that which may be
licensed to us. If we fail to obtain a required license or are unable to alter
the design of our product candidates to make a license unnecessary, we may be
unable to manufacture, use, market or sell our products and services, which
could significantly affect our ability to achieve, sustain or grow our
commercial business. Moreover, regardless of the outcome, patent litigation
against or by us could significantly disrupt our business, divert our
managements attention and consume our financial resources. We cannot predict
if or when any third party will file suit for patent or other intellectual
property infringement
.
*We are highly
dependent on our President and Chief Executive Officer, Chief Financial Officer
and other key employees, and if we are not able to retain them or to recruit
and retain additional qualified personnel, our business may suffer.
We
are highly dependent upon our President and Chief Executive Officer, Chief
Financial Officer and other key employees. The loss of their services could
have a material adverse effect on our business, financial condition and results
of operations. The employment of our executive officers and key employees with
us is at will, and each employee can terminate his or her relationship with
us at any time
.
We will need to hire additional senior executives and qualified
scientific, commercial, regulatory, sales, quality assurance and control and
administrative personnel as we continue to expand our commercial activities. We
may not be able to attract and retain qualified personnel on acceptable terms
given the competition for such personnel among companies that provide
arrhythmia monitoring solutions. We have offices in Pennsylvania, California,
Florida, Georgia and Minnesota. Competition for personnel with arrhythmia
monitoring experience in each of those areas is intense. If we fail to
identify, attract, retain and motivate these highly skilled personnel, or if we
lose current employees, we may be unable to continue our business operations.
Our business
operations could be significantly disrupted if we fail to properly integrate
our management team.
Our Chief Executive Officer and Chief Financial Officer recently joined
CardioNet and are being integrated into our management team. Each of these
officers will have significant responsibility for our operations and success,
but have only limited experience with our business. If they do not smoothly and
rapidly develop knowledge of our business and integrate with our existing management,
our business operations could be significantly disrupted.
If we fail to obtain
and maintain necessary FDA clearances, our business would be harmed.
The monitors and sensors that we manufacture and sell as part of the
CardioNet System are classified as medical devices and are subject to extensive
regulation by the FDA. Further, we maintain establishment registration with the
FDA as a distributor of medical devices. FDA regulations govern manufacturing,
labeling, promotion, distribution, importing, exporting, shipping and sale of
these devices.
The CardioNet System, including our C3 monitor, and our arrhythmia
detection algorithms have 510(k) clearance status from the FDA.
Modifications to the CardioNet System or our algorithms that could significantly
affect safety or effectiveness, or that could constitute a significant change
in intended use, would require a new clearance from the FDA. If in the future
we make changes to the CardioNet System or our algorithms, the FDA could
determine that such modifications require new FDA clearance, and we may not be
able to obtain such FDA clearances in a timely fashion or at all.
We are subject to continuing regulation by the FDA, including quality
regulations applicable to the manufacture of the CardioNet System and various
reporting regulations and regulations that govern the promotion and advertising
of medical devices. The FDA could find that we have failed to comply with one
of these requirements, which could result in a wide variety of enforcement
actions, ranging from a warning letter to one or more severe sanctions,
including the following:
·
fines,
injunctions and civil penalties;
·
recall or
seizure of the CardioNet System;
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·
operating
restrictions, partial suspension or total shutdown of production;
·
refusal to grant
510(k) clearance of new components or algorithms;
·
withdrawing 510(k) clearance
already granted to one or more of our existing components or algorithms; and
·
criminal
prosecution.
Any of these enforcement actions could be costly and significantly harm
our business, financial condition and results of operations.
Enforcement of
federal and state laws regarding privacy and security of patient information
may adversely affect our business, financial condition or operations.
The use and disclosure of certain health care information by health
care providers and their business associates have come under increasing public
scrutiny. Recent federal standards under the Health Insurance Portability and
Accountability Act of 1996, or HIPAA, establish rules concerning how
individually-identifiable health information may be used, disclosed and
protected. Historically, state law has governed confidentiality issues, and
HIPAA preserves these laws to the extent they are more protective of a patients
privacy or provide the patient with more access to his or her health
information. As a result of the implementation of the HIPAA regulations, many
states are considering revisions to their existing laws and regulations that
may or may not be more stringent or burdensome than the federal HIPAA
provisions. We must operate our business in a manner that complies with all
applicable laws, both federal and state, and that does not jeopardize the
ability of our customers to comply with all applicable laws. We believe that
our operations are consistent with these legal standards. Nevertheless, these
laws and regulations present risks for health care providers and their business
associates that provide services to patients in multiple states. Because these
laws and regulations are recent, and few have been interpreted by government
regulators or courts, our interpretations of these laws and regulations may be
incorrect. If a challenge to our activities is successful, it could have an
adverse effect on our operations, may require us to forego relationships with
customers in certain states and may restrict the territory available to us to
expand our business. In addition, even if our interpretations of HIPAA and other
federal and state laws and regulations are correct, we could be held liable for
unauthorized uses or disclosures of patient information as a result of
inadequate systems and controls to protect this information or as a result of
the theft of information by unauthorized computer programmers who penetrate our
network security. Enforcement of these laws against us could have a material
adverse effect on our business, financial condition and results of operations.
We may be subject,
directly or indirectly, to federal and state health care fraud and abuse laws
and regulations and, if we are unable to fully comply with such laws, could
face substantial penalties.
Our operations may be directly or indirectly affected by various broad
state and federal health care fraud and abuse laws, including the Federal
Healthcare Programs Anti-Kickback Statute, which prohibits any person from
knowingly and willfully offering, paying, soliciting or receiving remuneration,
directly or indirectly, to induce or reward either the referral of an
individual for an item or service, or the ordering, furnishing or arranging for
an item or service, for which payment may be made under federal health care
programs, such as the Medicare and Medicaid programs. For some of our services,
we directly bill physicians for our services, who in turn bill payors. Although
we believe such payments to be proper and in compliance with laws and
regulations, we may be subject to claims that we are in violation of these laws
and regulations. If our past or present operations are found to be in violation
of these laws, we or our officers may be subject to civil or criminal
penalties, including large monetary penalties, damages, fines, imprisonment and
exclusion from Medicare and Medicaid program participation. If enforcement
action were to occur, our business and results of operations could be adversely
affected.
*The operation of
our call centers and monitoring facilities is subject to rules and
regulations governing Independent Diagnostic Testing Facilities and state
licensure requirements; failure to comply with these rules could prevent
us from receiving reimbursement from Medicare and some commercial payors.
We have call centers and monitoring facilities in Pennsylvania,
Georgia, Florida, and Minnesota that analyze the data obtained from arrhythmia
monitors and report the results to physicians. In order for us to receive
reimbursement from Medicare and some commercial payors, we must have a call
center certified as an Independent Diagnostic Testing Facility, or IDTF.
Certification as an IDTF requires that we follow strict regulations governing
how the center operates, such as requirements regarding the experience and
certifications of the technicians who review data transmitted from our
monitors. These rules and regulations vary from location to location and
are subject to change. If they change, we may have to change the operating
procedures at our monitoring facilities and call centers, which could increase
our costs significantly. If we fail
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to obtain and maintain IDTF certification, our services may no longer
be reimbursed by Medicare and some commercial payors, which could have a
material adverse impact on our business.
In
order to maintain the IDTF certification of our call centers we are also
required to comply with certain state requirements. The state of Florida has
advised us that we must obtain a license to operate our call center in that
state. If we fail to obtain a license, we would be required to cease the
operations of our Florida call center, we may be subject to fines and
penalties, and we may be required to refund amounts previously received in
connection with our operation of the Florida call center during the period that
we did not have a license. We have applied for and expect to receive the
license, but there can be no assurance that the license will be received. If we
fail to obtain and maintain a license to operate our call center in Florida or
to comply with any other state requirements to which we are subject, our
business and results of operations could be adversely impacted.
We may be subject to
federal and state false claims laws which impose substantial penalties.
Many of the physicians and patients who use our services file claims
for reimbursement with government programs such as Medicare and Medicaid. As a
result, we may be subject to the federal False Claims Act if we knowingly cause
the filing of false claims. Violations may result in substantial civil
penalties, including treble damages. The federal False Claims Act also contains
whistleblower or qui tam provisions that allow private individuals to bring
actions on behalf of the government alleging that the defendant has defrauded
the government. In recent years, the number of suits brought in the medical
industry by private individuals has increased dramatically. Various states have
enacted laws modeled after the federal False Claims Act, including qui tam
provisions, and some of these laws apply to claims filed with commercial
insurers.
We are unable to predict whether we could be subject to actions under
the federal False Claims Act, or the impact of such actions. However, the costs
of defending claims under the False Claims Act, as well as sanctions imposed
under the False Claims Act, could significantly affect our financial
performance.
*Changes in the
regulatory environment may constrain or require us to restructure our
operations, which may harm our revenues and operating results.
Health care laws and regulations change frequently and may change
significantly in the future. We may not be able to adapt our operations to
address every new regulation, and new regulations may adversely affect our
business. We cannot provide assurance that a review of our business by courts
or regulatory authorities would not result in a determination that adversely
affects our revenues and operating results, or that the health care regulatory
environment will not change in a way that restricts our operations. In
addition, as a result of the focus on health care reform in connection with the
2008 presidential election, there is risk that Congress may implement changes
in laws and regulations governing health care service providers, including
measures to control costs, or reductions in reimbursement levels, which may
adversely affect our business and results of operations.
Changes in the
health care industry or tort reform could reduce the number of arrhythmia
monitoring solutions ordered by physicians, which could result in a decline in
the demand for our solutions, pricing pressure and decreased revenues.
Changes in the health care industry directed at controlling health care
costs or perceived over-utilization of arrhythmia monitoring solutions could
reduce the volume of solutions ordered by physicians. If more health care cost
controls are broadly instituted throughout the health care industry, the volume
of cardiac monitoring solutions could decrease, resulting in pricing pressure
and declining demand for our services, which could harm our operating results.
In addition, it has been suggested that some physicians order arrhythmia
monitoring solutions even when the services may have limited clinical utility
in large part to establish a record for defense in the event of a claim of
medical malpractice against the physician. Legal changes making it more
difficult to bring medical malpractice cases, known as tort reform, could
reduce the amount of our services prescribed as physicians respond to reduced
risks of litigation, which could harm our operating results.
*A write-off of the
value of our goodwill or intangible assets could adversely affect our results
of operations.
As of September 30, 2008, we had $46.0 million of goodwill and
$2.1 million of intangible assets, most of which resulted from acquisition of
PDSHeart. Current accounting rules require that goodwill and certain
intangible assets be assessed for impairment using fair value measurement
techniques. If the carrying amount of a reporting unit exceeds its fair value,
then a goodwill impairment test is performed to measure the amount of the
impairment loss, if any. The goodwill impairment test compares the implied fair
value of the reporting units goodwill with the carrying amount of that
goodwill. Determining the fair value of the implied goodwill is judgmental in
nature and often involves the use of significant estimates
29
Table of Contents
and assumptions. Any determination requiring the write-off of a
significant portion of goodwill or intangible assets could have a material
adverse effect on the market price of our common stock, and our business,
financial condition and results of operations.
Risks related to the securities market and
investment in our common stock
*Our quarterly
operating results and stock price may be volatile or may decline regardless of
our operating performance.
The market price for our common stock has been and is likely to
continue to be volatile and may fluctuate significantly in response to a number
of factors, most of which we cannot control, including:
·
changes in reimbursement
rates or policies by payors;
·
adoption of the
CardioNet System by physicians;
·
changes in
Medicare rules or regulations;
·
the development
of increased compensation for arrhythmia monitoring solutions;
·
price and volume
fluctuations in the overall stock market;
·
changes in
operating performance and stock market valuations of other early stage
companies generally;
·
the seasonal
nature of our revenues, which have typically been moderately lower during
summer months, which we believe may be due to physician and patient vacation
schedules and patient reluctance to initiate cardiac monitoring during months
when patients are more likely to be more active;
·
the financial
projections we may provide to the public, any changes in these projections or
our failure to meet these projections;
·
changes in
financial estimates by any securities analysts who follow our common stock, our
failure to meet these estimates or failure of those analysts to initiate or
maintain coverage of our common stock;
·
ratings
downgrades by any securities analysts who follow our common stock;
·
the publics
response to press releases or other public announcements by us or third
parties, including our filings with the SEC and announcements relating to payor
reimbursement decisions, product development, litigation and intellectual
property impacting us or our business;
·
market
conditions or trends in our industry or the economy as a whole;
·
the development
and sustainability of an active trading market for our common stock;
·
future sales of
our common stock by our officers, directors and significant stockholders;
·
other events or
factors, including those resulting from war, incidents of terrorism, natural
disasters or responses to these events; and
·
changes in accounting
principles.
In addition, the stock markets, and in particular the Nasdaq Global
Market, have experienced extreme price and volume fluctuations that have
affected and continue to affect the market prices of equity securities of many
health care companies. Stock prices of many health care companies have
fluctuated in a manner unrelated or disproportionate to the operating
performance of those companies. In the past, stockholders have instituted
securities class action litigation following periods of market volatility. If
we were involved in securities litigation, we could incur substantial costs,
and our resources and the attention of management could be diverted from our
business.
30
Table of Contents
*Future sales of our
common stock or securities convertible into our common stock may depress our
stock price.
Sales
of a substantial number of shares of our common stock or securities convertible
into our common stock in the public market could occur at any time. These
sales, or the perception in the market that the holders of a large number of
shares intend to sell shares, could reduce the market price of our common
stock. As of September 30, 2008, we had 23,328,028 outstanding shares of
vested common stock. Of these, approximately 5,341,887 shares of our common
stock are subject to lock-up agreements that are in force through and including
November 16, 2008. Substantially all of the shares of our common stock
subject to lock-up agreements may be sold upon expiration of such agreements.
In addition, we have outstanding warrants to purchase up to 6,250 shares of our
common stock that, if exercised, would result in these additional shares
becoming available for sale upon expiration of the lock-up agreements
.
We recently filed a registration statement on Form S-1 registering
11,964,196 shares of our common stock for resale, of which 5,750,000 shares
were sold pursuant to an underwritten public offering and of which 6,214,196
shares are freely tradable, subject to lock-up agreements as described
above. If a large number of our shares
of our common stock or securities convertible into our common stock are sold in
the public market after they become eligible for sale, the sales could reduce
the trading price of our common stock and impede our ability to raise future
capital.
*Anti-takeover
provisions in our charter documents and Delaware law might deter acquisition
bids for us that our stockholders might consider favorable.
Our amended and restated certificate of incorporation and bylaws
contain provisions that may make the acquisition of our company more difficult
without the approval of our board of directors. These provisions:
·
establish a
classified board of directors so that not all members of our board are elected
at one time;
·
authorize the
issuance of undesignated preferred stock, the terms of which may be established
and shares of which may be issued without stockholder approval, and which may
include rights superior to the rights of the holders of common stock;
·
prohibit
stockholder action by written consent, which requires all stockholder actions
to be taken at a meeting of our stockholders;
·
provide that the
board of directors is expressly authorized to make, alter, or repeal our
bylaws; and
·
establish
advance notice requirements for nominations for elections to our board or for
proposing matters that can be acted upon by stockholders at stockholder
meetings.
In addition, because we are incorporated in Delaware, we are subject to
Section 203 of the Delaware General Corporation Law which, subject to
certain exceptions, prohibits stockholders owning in excess of 15% of our
outstanding voting stock from merging or combining with us. These anti-takeover
provisions and other provisions under Delaware law could discourage, delay or
prevent a transaction involving a change of control of our company, even if
doing so would benefit our stockholders. These provisions could also discourage
proxy contests and make it more difficult for our stockholders to elect
directors of their choosing and cause us to take other corporate actions such
stockholders desire.
*Our existing
principal stockholders, executive officers and directors have substantial
control over us, which may prevent our stockholders from influencing
significant corporate decisions and may harm the market price of our common
stock.
Including stock options that are exercisable within 60 days of September 30,
2008, our existing principal stockholders, executive officers and directors,
together with their affiliates, beneficially owned, in the aggregate,
approximately 25% of our outstanding common stock. These stockholders may have
interests that conflict with other stockholders and, if acting together, have
the ability to determine the outcome of matters submitted to our stockholders
for approval, including the election and removal of directors and any merger,
consolidation or sale of all or substantially all of our assets. In addition,
these stockholders, acting together, may have the ability to control our
management and affairs. Accordingly, this concentration of ownership may harm
the market price of our common stock by:
·
delaying,
deferring or preventing a change of control;
·
impeding a
merger, consolidation, takeover or other business combination involving us; or
·
discouraging a
potential acquirer from making a tender offer or otherwise attempting to obtain
control of us.
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Table of Contents
*If securities or industry analysts publish
inaccurate or unfavorable research about our business, our stock price and
trading volume could decline.
The
trading market for our common stock will depend in part on the research and
reports that securities or industry analysts publish about us or our business.
If one or more of the analysts who covers us downgrades our stock or publishes
inaccurate or unfavorable research about our business, our stock price would
likely decline. If one or more of these analysts ceases coverage of us or fails
to publish reports on us regularly, demand for our stock could decrease, which
could cause our stock price and trading volume to decline.
*We do not expect to
pay any cash dividends for the foreseeable future.
The continued expansion of our business may require substantial
funding. Accordingly, we do not anticipate that we will pay any cash dividends
on shares of our common stock for the foreseeable future. Even if we were not
prohibited from paying dividends, any determination to do so in the future
would be at the discretion of our board of directors and will depend upon our
results of operations, financial condition, contractual restrictions,
restrictions imposed by applicable law and other factors our board of directors
deems relevant. Accordingly, realization of a gain on your investment will
depend on the appreciation of the price of our common stock, which may never
occur. Investors seeking cash dividends in the foreseeable future should not
purchase our common stock.
*The global financial crisis may have an
impact on our business and financial condition in ways that we currently cannot
predict.
The continued credit crisis, reduction in confidence and related
turmoil in the global financial system may have an impact on our business and
our financial condition. Due to the recent tightening of credit markets and
concerns regarding the availability of credit, patients and payors may not have
access to sufficient cash or short-term credit to obtain the CardioNet System
or other services provided by the Company. Delays of this nature would
adversely affect our service revenues, and therefore harm our business and
results of operations.
Item 2. Unregistered Sales of
Equity Securities and Use of Proceeds.
Use of Proceeds
Our initial public offering of common stock was
effected through a Registration Statement on Form S-1 (File No. 333-145547)
that was declared effective by the Securities and Exchange Commission on March 18,
2008, which registered an aggregate of 5,175,000 shares of our common stock,
including 675,000 shares that the underwriters had the option to purchase to
cover over-allotments. On March 25, 2008, 3,000,000 shares of common
stock were sold on our behalf and 1,500,000 shares of common stock were sold on
behalf of a selling stockholder at an initial public offering price of
$18.00 per share, for an aggregate gross offering price of $54.0 million to
us, and $27.0 million to the selling stockholders. On April 8, 2008,
1,014,286 shares of common stock were sold on behalf of the selling stockholder
upon a partial exercise of the underwriters over-allotment option, at an
initial public offering price of $18.00 per share, for an aggregate gross
offering price of $1.8 million to the selling stockholder. Following the sale
of the shares in connection with the over-allotment closing of our initial
public offering, the offering terminated.
We paid to the underwriters underwriting discounts
and commissions totaling approximately $3.8 million in connection with the
offering. In addition, we incurred additional costs of approximately
$3.2 million in connection with the offering, which when added to the underwriting
discounts and commissions paid by us, amounts to total fees and costs of
approximately $7.0 million. Thus, the net offering proceeds to us, after
deducting underwriting discounts and commissions and offering costs, were
approximately $46.9 million. No offering costs were paid directly or indirectly
to any of our directors or officers (or their associates) or persons owning ten
percent or more of any class of our equity securities or to any other
affiliates.
As of September 30, 2008, we had invested $46.7
million of net proceeds from the offering in money market funds. Through September 30,
2008, we have not used the net proceeds from the offering, other than to repay
our outstanding long-term debt balance of $2.4 million and to pay a success fee
of $0.2 million in connection with the offering to the lender of such long-term
debt, and to pay $5.0 million owed to former stockholders of PDSHeart holding
certificates of subordinated contingent payment interest to fully extinguish
our obligations under such certificates. We intend to use the remaining
proceeds for research and development, to build our inventory of future
generations of our CardioNet System, to increase our sales and marketing
capabilities for our CardioNet System, to hire additional personnel, to invest
in infrastructure, to pursue
32
Table of Contents
new
markets and geographies and to acquire or license products, technologies or
businesses, although we currently have no agreements or commitments relating to
material acquisitions or licenses. We cannot specify with certainty all of the
particular uses for the net proceeds from our initial public offering. Accordingly, our management will have broad
discretion in the application of the net proceeds.
Item 6. Exhibits.
EXHIBIT INDEX
Exhibit
Number
|
|
|
|
|
|
10.1
|
|
Amendment
No. 6 dated September 26, 2008 to Communications Voice and Data
Services Provider Agreement dated May 12, 2003 between the Company and
QUALCOMM, Incorporated, as amended.
(1)*
|
10.2
|
|
Letter Agreement dated July 7, 2008, between the Company and
Randy H. Thurman. (2)
|
10.3
|
|
Indemnification Agreement between the Company and Randy H. Thurman,
relating to service on the Board of Directors, effective July 11, 2008.
|
10.4
|
|
Separation Agreement dated July 14, 2008 between the Company and
James M. Sweeney. (3)
|
10.5
|
|
Indemnification Agreement of Ronald A. Ahrens, relating to service on
the Board of Directors, effective August 19, 2008.
|
10.6
|
|
Indemnification Agreement of Kirk E. Gorman, relating to service on
the Board of Directors, effective August 19, 2008.
|
31.1
|
|
Certification of Chief Executive Officer pursuant to
Rules 13a-14(a) and 15d-14(a) promulgated under the Securities
and Exchange Act of 1934, as amended.
|
31.2
|
|
Certification of Chief Financial Officer pursuant to
Rules 13a-14(a) and 15d-14(a) promulgated under the Securities
and Exchange Act of 1934, as amended.
|
32.1
|
|
Certification of Chief Executive Officer and Chief Financial Officer
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.
|
(1)
|
|
Filed
as an exhibit to the Companys Registration Statement on Form S-1 (File
No. 333-151829) originally filed with the Securities and Exchange
Commission on June 23, 2008, as amended, and incorporated herein by
reference.
|
|
|
|
(2)
|
|
Filed
as an exhibit to the Companys filing of Current Report on Form 8-K
(File No. 001-33993) originally filed with the Securities and Exchange
Commission on July 11, 2008, and incorporated herein by reference.
|
|
|
|
(3)
|
|
Filed
as an exhibit to the Companys filing of Current Report on Form 8-K
(File No. 001-33993) originally filed with the Securities and Exchange
Commission on July 18, 2008, and incorporated herein by reference.
|
|
|
|
*
|
|
Confidential
treatment has been granted with respect to certain portions of this exhibit.
Omitted portions have been filed separately with the Securities and Exchange
Commission.
|
33
Table of Contents
CardioNet, Inc.
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.
|
|
CARDIONET, INC.
|
|
|
|
|
|
|
Date:
November 7, 2008
|
|
By:
|
/s/
Martin P. Galvan
|
|
|
|
Martin
P. Galvan, CPA
|
|
|
|
Chief Financial Officer
(Principal
Financial Officer)
|
34
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