NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
1. T
he Company and Basis of Presentation
The Company
Alphatec Holdings, Inc. (“Alphatec”, “Alphatec Holdings” or the “Company”), through its wholly owned subsidiary, Alphatec Spine, Inc. and its subsidiaries (“Alphatec Spine”), designs, develops, manufactures and markets products for the surgical treatment of spine disorders, primarily focused on the aging spine. In addition to its U.S. operations, the Company also markets its products in over
50
international markets
through the distribution channels of Alphatec Spine and its affiliate, Scient’x S.A.S., and its subsidiaries (“Scient’x”),
via a direct sales force in Italy and the United Kingdom and via independent distributors in the rest of Europe, the Middle East and Africa. In South America and Latin America, the Company conducts its operations through its Brazilian subsidiary, Cibramed Productos Medicos. In Asia, the Company markets its products through its subsidiary, Alphatec Pacific, Inc. and its subsidiaries (“Alphatec Pacific”), via a direct sales force and independent distributors, and through distributors in other parts of Asia and Australia.
Basis of Presentation
The accompanying condensed consolidated balance sheet as of
December 31, 2013
, which has been derived from audited financial statements, and the unaudited interim condensed consolidated financial statements have been prepared by the Company in accordance with U.S. generally accepted accounting principles (“GAAP”) and the rules and regulations of the Securities and Exchange Commission (“SEC”) related to a quarterly report on Form 10-Q. Certain information and note disclosures normally included in annual audited financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to those rules and regulations, although the Company believes that the disclosures made in this quarterly report on Form 10-Q are adequate to make the information not misleading. The interim unaudited condensed consolidated financial statements reflect all adjustments which, in the opinion of management, are necessary for a fair statement of the financial position and results of operations for the periods presented. All such adjustments are of a normal and recurring nature. These unaudited condensed consolidated financial statements should be read in conjunction with the Company’s audited financial statements for the year ended
December 31, 2013
, which are included in the Company’s Annual Report on Form 10-K for the year ended
December 31, 2013
that was filed with the SEC on March 20, 2014.
Operating results for the
three
months ended
March 31, 2014
are not necessarily indicative of the results that may be expected for the year ending
December 31, 2014
, or any other future periods.
The accompanying condensed consolidated financial statements have been prepared assuming that the Company will continue as a going concern. A going concern basis of accounting contemplates the recovery of the Company’s assets and the satisfaction of its liabilities in the normal course of business. Based on the Company’s annual operating plan, management believes that its existing cash and cash equivalents of
$23.8 million
combined with anticipated cash flow from operations in
2014
and other working capital, excluding common stock warrant liability, of
$27.5 million
at
March 31, 2014
and the Company's available borrowings under the credit facilities with MidCap Financial, LLC ("MidCap") and Deerfield
Private Design Fund II, L.P., Deerfield Private Design International II, L.P., Deerfield Special Situations Fund, L.P. and Deerfield Special Situations International Master Fund, L.P. (collectively, “Deerfield”),
will be sufficient to fund its cash requirements, including the required payments due under the Orthotec litigation settlement (Note 6), through at least
March 31,
2015
.
The Company’s amended credit facility (the “Amended Credit Facility”) with MidCap contains financial covenants consisting of a monthly fixed charge coverage ratio, a senior leverage ratio and a total leverage ratio (see Note 5). Based on the Company’s current operating plan, the Company believes that it will be in compliance with the financial covenants of the Amended Credit Facility at least through
March 31,
2015
. However, there is no assurance that the Company will be able to do so. If the Company is not able to achieve its planned revenue or incurs costs in excess of its forecasts, it may be required to substantially reduce discretionary spending and it could be in default of the Amended Credit Facility, which would require a waiver from MidCap. There can be no assurance that such a waiver could be obtained, that the Amended Credit Facility could be successfully renegotiated or that the Company could modify its operations to maintain liquidity. If the Company is unable to obtain any required waivers or amendments, MidCap would have the right to exercise remedies specified in the Amended Credit Facility, including accelerating the repayment of debt obligations. The Company may be forced to seek additional financing, which may include additional debt and/or equity financing or funding through other third party agreements. There
can be no assurances that additional financing would be available on acceptable terms or available at all. Furthermore, any equity financing may result in dilution to existing stockholders and any debt financing may include restrictive covenants.
2. Summary of Significant Accounting Policies
The Company’s significant accounting policies are described in Note 2 to its audited consolidated financial statements for the year ended
December 31, 2013
, which are included in the Company’s Annual Report on Form 10-K that was filed with the SEC on March 20, 2014. Except as discussed below, these accounting policies have not significantly changed during the
three
months ended
March 31, 2014
.
Restricted Cash
In March 2014, the Company borrowed and set aside cash for the payment of a portion of the Orthotec litigation settlement (see Note 6) as limited by the terms of the facility agreement that we entered into with Deerfield on March 17, 2014 (see Note 5). The Company classified this cash as restricted, because it may not be used for purposes other than payments of amounts due under the Orthotec litigation settlement agreement.
Warrants for Common Stock
Common stock warrants that contain compliance covenants and cash payment obligations are classified as common stock warrant liabilities on the consolidated balance sheet. The Company records the warrant liability at fair value and adjust the carrying value of these common stock warrants to their estimated fair value at each reporting date with the increases or decreases in the fair value of such warrants at each reporting date recorded as other income (expense) in the consolidated statement of operations.
Recent Accounting Pronouncements
In March 2013, the Financial Accounting Standards Board (“FASB”) issued guidance on a parent company’s accounting for the cumulative translation adjustment upon derecognition of a subsidiary or group of assets within a foreign entity. This new guidance requires that the parent release any related cumulative translation adjustment into net income only if the sale or transfer results in the complete or substantially complete liquidation of the foreign entity in which the subsidiary or group of assets had resided. The amendments became effective for the Company beginning January 1, 2014. The Company adopted this guidance and the adoption did not have any impact on the Company's financial statements.
3. Select Balance Sheet Details
Accounts Receivable, net
Accounts receivable, net consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
March 31, 2014
|
|
December 31, 2013
|
Accounts receivable
|
$
|
39,968
|
|
|
$
|
42,443
|
|
Allowance for doubtful accounts
|
(1,130
|
)
|
|
(1,048
|
)
|
Accounts receivables, net
|
$
|
38,838
|
|
|
$
|
41,395
|
|
Inventories, net
Inventories, net consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
March 31, 2014
|
|
December 31, 2013
|
|
Gross
|
|
Reserve for
excess and
obsolete
|
|
Net
|
|
Gross
|
|
Reserve for
excess and
obsolete
|
|
Net
|
Raw materials
|
$
|
3,996
|
|
|
$
|
—
|
|
|
$
|
3,996
|
|
|
$
|
4,375
|
|
|
$
|
—
|
|
|
$
|
4,375
|
|
Work-in-process
|
645
|
|
|
—
|
|
|
645
|
|
|
531
|
|
|
—
|
|
|
531
|
|
Finished goods
|
60,852
|
|
|
(22,951
|
)
|
|
37,901
|
|
|
60,979
|
|
|
(23,946
|
)
|
|
37,033
|
|
Inventories
|
$
|
65,493
|
|
|
$
|
(22,951
|
)
|
|
$
|
42,542
|
|
|
$
|
65,885
|
|
|
$
|
(23,946
|
)
|
|
$
|
41,939
|
|
Property and Equipment, net
Property and equipment, net consist of the following (in thousands except as indicated):
|
|
|
|
|
|
|
|
|
|
|
|
Useful lives
(in years)
|
|
March 31, 2014
|
|
December 31, 2013
|
Surgical instruments
|
4
|
|
$
|
62,602
|
|
|
$
|
62,636
|
|
Machinery and equipment
|
7
|
|
14,414
|
|
|
14,692
|
|
Computer equipment
|
3
|
|
3,143
|
|
|
3,357
|
|
Office furniture and equipment
|
5
|
|
3,861
|
|
|
3,703
|
|
Leasehold improvements
|
various
|
|
3,733
|
|
|
4,161
|
|
Building
|
39
|
|
77
|
|
|
52
|
|
Land
|
n/a
|
|
11
|
|
|
10
|
|
Construction in progress
|
n/a
|
|
1,270
|
|
|
1,228
|
|
|
|
|
89,111
|
|
|
89,839
|
|
Less accumulated depreciation and amortization
|
|
|
(60,975
|
)
|
|
(61,809
|
)
|
Property and equipment, net
|
|
|
$
|
28,136
|
|
|
$
|
28,030
|
|
Total depreciation expense was
$3.3 million
and
$3.5 million
for the three months ended
March 31, 2014
and
2013
, respectively.
At
March 31, 2014
, assets recorded under capital leases of
$2.4 million
were included in the machinery and equipment balance. At
December 31, 2013
, assets recorded under capital leases of
$1.8 million
were included in the machinery and equipment balance and
$0.6 million
in construction in progress balance. Amortization of assets under capital leases was included in depreciation expense.
Intangible Assets, net
Intangible assets, net consist of the following (in thousands except for useful lives):
|
|
|
|
|
|
|
|
|
|
|
|
Useful lives
(in years)
|
|
March 31, 2014
|
|
December 31, 2013
|
Developed product technology
|
3-8
|
|
$
|
23,641
|
|
|
$
|
23,633
|
|
Distribution rights
|
3
|
|
2,388
|
|
|
2,343
|
|
Intellectual property
|
5
|
|
1,004
|
|
|
1,004
|
|
License agreements
|
1-7
|
|
16,716
|
|
|
17,686
|
|
Core technology
|
10
|
|
5,140
|
|
|
5,137
|
|
Trademarks and trade names
|
3-9
|
|
3,922
|
|
|
3,920
|
|
Customer-related
|
12-15
|
|
22,171
|
|
|
22,161
|
|
Distribution network
|
10-12
|
|
4,027
|
|
|
4,027
|
|
Physician education programs
|
10
|
|
3,163
|
|
|
3,160
|
|
Supply agreement
|
10
|
|
225
|
|
|
225
|
|
|
|
|
82,397
|
|
|
83,296
|
|
Less accumulated amortization
|
|
|
(45,221
|
)
|
|
(44,232
|
)
|
Intangible assets, net
|
|
|
$
|
37,176
|
|
|
$
|
39,064
|
|
Total amortization expense was
$1.6 million
and
$2.7 million
for the
three
months ended
March 31, 2014
and
2013
, respectively.
Future amortization expense related to intangible assets subject to amortization are as follows (in thousands):
|
|
|
|
|
Year Ending December 31,
|
|
Remainder of 2014
|
$
|
4,739
|
|
2015
|
6,060
|
|
2016
|
5,537
|
|
2017
|
5,240
|
|
2018
|
3,288
|
|
Thereafter
|
12,312
|
|
|
$
|
37,176
|
|
Accrued Expenses
Accrued expenses consist of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
March 31, 2014
|
|
December 31, 2013
|
Legal
|
$
|
1,376
|
|
|
$
|
2,139
|
|
Accounting
|
782
|
|
|
928
|
|
Severance
|
173
|
|
|
297
|
|
Restructuring
|
9,307
|
|
|
9,170
|
|
Sales milestones
|
1,958
|
|
|
1,828
|
|
Accrued taxes
|
924
|
|
|
1,120
|
|
Deferred rent
|
1,073
|
|
|
1,163
|
|
Royalties
|
2,436
|
|
|
2,347
|
|
Commissions
|
4,376
|
|
|
6,180
|
|
Payroll and related
|
10,196
|
|
|
9,369
|
|
Litigation settlements
|
22,708
|
|
|
22,600
|
|
Other
|
7,145
|
|
|
5,855
|
|
Total accrued expenses
|
$
|
62,454
|
|
|
$
|
62,996
|
|
Goodwill
The changes in the carrying amount of goodwill from
December 31, 2013
through
March 31, 2014
are as follows (in thousands):
|
|
|
|
|
|
|
Balance at December 31, 2013
|
$
|
183,004
|
|
Effect of foreign exchange rate on goodwill
|
84
|
|
Balance at March 31, 2014
|
$
|
183,088
|
|
4. License and Supply Agreements
The Company’s license and developmental consulting agreements are described in Note 5 to its audited consolidated financial statements for the year ended
December 31, 2013
, which are included in its Annual Report on Form 10-K which was filed with the SEC on March 20, 2014.
5.
Debt
MidCap Facility Agreement
On August 30, 2013, the Company entered into an Amended and Restated Credit, Security and Guaranty Agreement (the "Amended Credit Facility") with MidCap. The Amended Credit Facility amended and restated the prior credit facility that the Company had with MidCap (the "Credit Facility").
Pursuant to the Amended Credit Facility, the Company increased the borrowing limit from
$50 million
to
$73 million
. The Company also extended the maturity to
August 2016
. The Amended Credit Facility consists of a
$28 million
term loan drawn at closing with a
$5 million
delayed draw within
12
months, for a total term loan maximum borrowing of
$33 million
and a revolving line of credit with a maximum borrowing base of
$40 million
. The Company used the term loan proceeds of
$28 million
to repay a portion of the outstanding balance on the prior revolving line of credit. The
$5 million
delayed draw was borrowed on April 1, 2014.
The term loan interest rate is priced at the London Interbank Offered Rate
( "LIBOR") plus 8.0%
, subject to a
9.5%
floor, and the revolving line of credit interest rate remains priced at
LIBOR plus 6.0%
, reset monthly. At
March 31, 2014
, the revolving line of credit carried an interest rate of
6.2%
and the term loan carries an interest rate of
9.5%
. The borrowing base is determined, from time to time, based on the value of domestic eligible accounts receivable and domestic eligible inventory. As collateral for the Amended Credit Facility, the Company granted MidCap a security interest in substantially all of its assets, including all accounts receivable and all securities evidencing its interests in its subsidiaries. In addition to monthly payments
of interest, monthly repayments of
$0.3 million
of the principal for the term loan are due beginning in October 2013 through maturity, with the remaining principal due upon maturity.
In connection with the execution of the Amended Credit Facility, the Company incurred an additional
$0.4 million
in costs that were capitalized as debt issuance costs within the unaudited consolidated balance sheets as of September 30, 2013. At
March 31, 2014
,
$0.7 million
remains as unamortized debt issuance costs related to the prior and Amended Credit Facility within the unaudited consolidated balance sheets, which will be amortized over the remaining term of the Amended Credit Facility.
The Amended Credit Facility includes traditional lending and reporting covenants including a fixed charge coverage ratio, a senior leverage ratio and a total leverage ratio to be maintained by the Company. The Amended Credit Facility also includes several potential events of default, such as payment default and insolvency conditions, which could cause interest to be charged at a rate which is up to
five
percentage points above the rate effective immediately before the event of default or result in MidCap’s right to declare all outstanding obligations immediately due and payable.
In January 2013, the Company entered into a limited waiver and limited consent agreement with MidCap (the “Waiver”). Under the Waiver, MidCap gave the Company its consent to waive certain provisions of the Credit Facility in connection with the acquisition of Phygen and related to the maintenance of cash balances in the U.S. In February 2013, the Company and MidCap entered into a first amendment to the Credit Facility (the "First Amendment to the Credit Facility”). The First Amendment to the Credit Facility allowed the Company to exclude payments related to the Phygen acquisition and the settlement agreement with Cross Medical Products, LLC (“Cross”) from calculation of the fixed charge coverage ratio and the senior leverage ratio. In conjunction with the First Amendment to the Credit Facility, the Company paid MidCap a fee of
$0.1 million
. In July 2013, the Company entered into a second limited waiver and limited consent agreement with MidCap (the “Second Waiver”). Under the Second Waiver, MidCap gave the Company its consent to waive certain provisions of the Credit Facility related to the maintenance of cash balances in the U.S. for past periods through September 30, 2013. On August 30, 2013, the Company entered into the Amended Credit Agreement with MidCap.
On March 17, 2014, the Company entered into a first amendment to the Amended Credit Facility with MidCap (the "First Amendment to the Amended Credit Facility"). Under the First Amendment to the Amended Credit Facility, MidCap gave the Company its consent to enter into the Facility Agreement (defined below) and make settlement payments in connection with the Orthotec litigation. The First Amendment to the Amended Credit Facility also added a total leverage ratio financial covenant. The Company was in compliance with all of the covenants of the Amended Credit Facility, as amended, as of
March 31, 2014
.
Deerfield Facility Agreement
On March 17, 2014, the Company entered into a facility agreement (the “Facility Agreement”) with Deerfield, pursuant to which Deerfield agreed to loan the Company up to
$50 million
, subject to the terms and conditions set forth in the Facility Agreement. Under the terms of the Facility Agreement, the Company has the option, but is not required, upon certain conditions to draw the entire amount available under the Facility Agreement, at any time until January 30, 2015 (the “Draw Period”), provided that the initial draw be used for a portion of the payments made in connection with the Orthotec settlement described below. Following such initial draw down, the Company may draw down additional amounts under the Facility Agreement up to an aggregate
$15 million
for working capital or general corporate purposes in
$2.5 million
increments until the end of the Draw Period. The Company has agreed to pay Deerfield, upon each disbursement of funds under the Facility Agreement, a transaction fee equal to
2.5%
of the principal amount of the funds disbursed. Amounts borrowed under the Facility Agreement bear interest at a rate of
8.75%
per annum and are payable on the third, fourth and fifth anniversary date of the first amount borrowed under the Facility Agreement, with the final payment due on March 20, 2019.
The Facility Agreement also contains various representations and warranties, and affirmative and negative covenants, customary for financings of this type, including restrictions on the ability of the Company and its subsidiaries to incur additional indebtedness or liens on its assets, except as permitted under the Facility Agreement. As security for our repayment of our obligations under the Facility Agreement, we granted to Deerfield a security interest in substantially all of our property and interests in property that are subordinated to the security interest granted under the Amended Credit Facility.
In connection with the execution of the Facility Agreement on March 17, 2014, the Company issued to Deerfield warrants to purchase an aggregate of
6,250,000
shares of the Company’s common stock (the “Initial Warrants”) (See Note 8). Additionally, each disbursement borrowing under the Facility Agreement shall be accompanied by the issuance to Deerfield of warrants to purchase up to
10,000,000
shares of the Company’s common stock, in proportion to the amount of draw compared to the total
$50 million
facility (the "Draw Warrants") (See Note 8).
On March 20, 2014, the Company made an initial draw of
$20 million
under the Facility Agreement and received net proceeds of
$19.5 million
to fund its 2014 Orthotec settlement payment obligations. The
$0.5 million
transaction fee is
recorded as a debt discount and is being amortized over the term of the draw, which ends March 20, 2019. In connection with this borrowing, the Company issued
4,000,000
Draw Warrants, which were valued at
$4.7 million
and recorded as a debt discount and is being amortized over the term of the $20 million draw. Additionally,
$2.3 million
of the Initial Warrants were reclassified as a debt discount and are being amortized through interest expense over the term of the debt using the effective interest method. Orthotec settlement payments of
$1.75 million
were made in March 2014, leaving remaining proceeds of
$17.8 million
, which were classified as restricted cash as of
March 31, 2014
, as their use is limited under the terms of the Facility Agreement for the payments of amounts due under the Orthotec litigation settlement agreement. The amounts borrowed under the Facility Agreement are due in
three
equal annual payments beginning March 20, 2017.
Principal payments on debt are as follows as of
March 31, 2014
(in thousands):
|
|
|
|
|
|
|
Year Ending December 31,
|
|
Remainder of 2014
|
$
|
2,997
|
|
2015
|
3,000
|
|
2016
|
48,501
|
|
2017
|
6,667
|
|
2018
|
6,667
|
|
Thereafter
|
6,666
|
|
Total
|
74,498
|
|
Add: capital lease principal payments
|
1,216
|
|
Less: debt discount
|
(7,410
|
)
|
Total
|
68,304
|
|
Less: current portion of long-term debt
|
(4,189
|
)
|
Long-term debt, net of current portion
|
$
|
64,115
|
|
6. Commitments and Contingencies
Leases
The Company leases certain equipment under capital leases which expire on various dates through
June 2017
. The leases bear interest at rates ranging from
6.6%
to
9.6%
, are generally due in monthly principal and interest installments and are collateralized by the related equipment. The Company also leases its buildings and certain equipment and vehicles under operating leases which expire on various dates through January 2019. Future minimum annual lease payments under such leases are as follows (in thousands):
|
|
|
|
|
|
|
|
|
Year Ending December 31,
|
Operating
|
|
Capital
|
Remainder of 2014
|
$
|
2,452
|
|
|
$
|
391
|
|
2015
|
2,724
|
|
|
461
|
|
2016
|
1,424
|
|
|
422
|
|
2017
|
247
|
|
|
82
|
|
2018
|
58
|
|
|
—
|
|
Thereafter
|
2
|
|
|
—
|
|
|
$
|
6,907
|
|
|
1,356
|
|
Less: amount representing interest
|
|
|
(140
|
)
|
Present value of minimum lease payments
|
|
|
1,216
|
|
Current portion of capital leases
|
|
|
(442
|
)
|
Capital leases, less current portion
|
|
|
$
|
774
|
|
Rent expense under operating leases for the three months ended
March 31, 2014
and
2013
was
$1.0 million
and
$1.0 million
, respectively.
Litigation
In 1998, Eurosurgical, a French company in the business of sales and marketing of spinal implants, entered into a distribution agreement for the United States, Mexico, Canada, India and Australia with Orthotec, LLC, a California company (“Orthotec”). In 2004, Orthotec sued Eurosurgical in connection with a contractual dispute and a final
$9 million
judgment was entered against Eurosurgical by a California court in 2006. In 2007, following a default judgment, a federal court in California declared Eurosurgical liable to Orthotec for
$30 million
in connection with an intellectual property dispute. In 2006, Eurosurgical’s European assets were ultimately acquired by Surgiview, SAS, ("Surgiview"), in a sale agreement, ("the Partial Sale Agreement"), approved by a French court. After this sale, Surgiview became a subsidiary of Scient’x in 2006. Orthotec attempted to recover on Eurosurgical’s obligations by filing a motion in a California court to add Surgiview to the judgment against Eurosurgical on theories including successor liability and fraudulent conveyance. In February 2007, the California court denied Orthotec’s motion, indicating that Orthotec had not carried its burdens of proof. Orthotec chose to not proceed with a further hearing in September 2007.
In June 2004, HealthpointCapital (Luxembourg) I S.à.r.l. acquired a minority (
33.1 percent
) interest in Scient’x. In July 2005, Scient’x acquired an approximate
73 percent
interest in Surgiview. At that time, HealthpointCapital Partners, L.P. (through a Luxembourg subsidiary) held a minority interest in Scient’x, which in turn held an interest in Surgiview, but HealthpointCapital Partners II, L.P. had no ownership interest in Scient’x or Surgiview. On November 21, 2007, more than a year after the Partial Sale Agreement was executed, HealthpointCapital Partners II, L.P. acquired majority ownership of Scient’x. In May 2008, after the acquisition of Scient’x by HealthpointCapital in 2007, Orthotec sued Scient’x, Surgiview, HealthpointCapital LLC and certain former directors of Scient’x (who also serve on the Company’s board) in a new action in California state court in which it sought (in addition to damages related to other causes of action and punitive damages related thereto) to have the defendants bear responsibility for the
$39 million
in judgments that had been assessed against Eurosurgical, which, together with interest is now greater than
$70 million
. On February 10, 2014, the jury reached a verdict in which Surgiview was found to have transferred assets for less than fair market value in connection with Surgiview’s purchase of certain assets of Eurosurgical, and to have interfered with certain contractual rights of Orthotec. Although a formal judgment was never entered, the jury awarded monetary damages in the amount of
$47.9 million
, plus interest, against Surgiview related to various causes of action alleged by Orthotec.
In addition, also in May 2008, a similar action was filed in New York against HealthpointCapital, HealthpointCapital LLC, HealthpointCapital Partners, L.P., HealthpointCapital Partners II, L.P., Scient’x and two former directors of Scient’x (who also serve on the Company’s board), in which Orthotec sought, in addition to damages related to other causes of action and punitive damages related thereto, to have the defendant’s bear responsibility for the
$39 million
in judgments that had been assessed against Eurosurgical, which, together with interest is now greater than
$70 million
.
On March 15, 2014, the Company, Orthotec, LLC and certain other parties, including certain directors and affiliates of the Company, entered into a binding term sheet to settle all legal matters between Orthotec and the Company and its directors and affiliates. Pursuant to the binding term sheet, the Company has agreed to pay Orthotec
$49 million
in cash, with initial cash payments of
$1.75 million
paid in March 2014 and
$15.75 million
paid on April 10, 2014. The remaining
$31.5 million
will be paid to Orthotec in installments of
$1.1 million
paid quarterly, beginning in the fourth quarter of 2014. HealthpointCapital has agreed to contribute
$5 million
to the $49 million settlement amount
.
In addition, a
7%
simple interest rate will accrue on the unpaid portion of the
$31.5 million
. All accrued interest is not payable until the
$49 million
is paid, and such accrued interest shall be paid in
$1.1 million
installments each quarter. This settlement will result in mutual releases of all claims and the dismissal of all Orthotec-related litigation matters involving the Company, its directors and affiliates.
On August 10, 2010, a purported securities class action complaint was filed in the United States District Court for the Southern District of California on behalf of all persons who purchased the Company's common stock between December 19, 2009 and August 5, 2010 against the Company and certain of its directors and officers alleging violations of the Securities Exchange Act of 1934, as amended, and Rule 10b-5 promulgated thereunder. On February 17, 2011, an amended complaint was filed against the Company and certain of its directors and officers adding alleged violations of the Securities Act of 1933, as amended. HealthpointCapital, Jefferies & Company, Inc., Canaccord Adams, Inc., Cowen and Company, Inc., and Lazard Capital Markets LLC are also defendants in this action. The complaint alleges that the defendants made false or misleading statements, as well as failed to disclose material facts, about the Company’s business, financial condition, operations and prospects, particularly relating to the Scient’x transaction and our financial guidance following the closing of the acquisition. The complaint seeks unspecified monetary damages, attorneys’ fees, and other unspecified relief. The Company believe that the claims are without merit and it intends to vigorously defend itself against this complaint. However, the outcome of the litigation cannot be predicted at this time and any outcome that is adverse to the Company, regardless of who the defendant is, could have a significant adverse effect on its financial condition and results of operations.
On August 25, 2010, an alleged shareholder of the Company filed a derivative lawsuit in the Superior Court of California, San Diego County, purporting to assert claims on behalf of the Company against all of its directors and certain of its officers and HealthpointCapital. Following the filing of this complaint, similar complaints were filed in the same court and in the U.S. District Court for the Southern District of California against the same defendants containing similar allegations. The complaint filed in federal court was dismissed by the plaintiff without prejudice in July 2011. The state court complaints have been consolidated into a single action and the Company has been named as a nominal defendant in the consolidated action. Each complaint alleges that the Company’s directors and certain of its officers breached their fiduciary duties to the Company related to the Scient’x transaction, and by making allegedly false statements that led to unjust enrichment of HealthpointCapital and certain of the Company’s directors. The complaints seek unspecified monetary damages and an order directing the Company to adopt certain measures purportedly designed to improve its corporate governance and internal procedures. On January 8, 2014, the parties reached an agreement in principle to resolve all claims in exchange for corporate governance reforms and payment of attorneys’ fees in the amount of
$5.25 million
, to be paid by the Company’s and HeathpointCapital’s respective insurance carriers. The Company believes the claims are without merit and, subject to final approval of any settlement, intends to vigorously defend itself against these complaints. No assurances can be given as to the timing or outcome of this lawsuit.
At
March 31, 2014
, the probable outcome of any of the aforementioned litigation matters that have not reached a settlement cannot be determined nor can the Company estimate a range of potential loss. Accordingly, in accordance with the authoritative guidance on the evaluation of contingencies, the Company has not recorded an accrual related to any litigation matters that have not reached a settlement. The Company is and may become involved in various other legal proceedings arising from its business activities. While management does not believe the ultimate disposition of these matters will have a material adverse impact on the Company’s consolidated results of operations, cash flows or financial position, litigation is inherently unpredictable, and depending on the nature and timing of these proceedings, an unfavorable resolution could materially affect the Company’s future consolidated results of operations, cash flows or financial position in a particular period.
Royalties
The Company has entered into various intellectual property agreements requiring the payment of royalties based on the sale of products that utilize such intellectual property. These royalties primarily relate to products sold by Alphatec Spine and are calculated either as a percentage of net sales or in one instance on a per-unit sold basis. Royalties are included on the accompanying condensed consolidated statement of operations as a component of cost of revenues.
7. Net Loss Per Share
Basic earnings per share (“EPS”) is calculated by dividing the net income or loss available to common stockholders by the weighted average number of common shares outstanding for the period, without consideration for common stock equivalents. Diluted EPS is computed by dividing the net income available to common stockholders by the weighted average number of common shares outstanding for the period and the weighted average number of dilutive common stock equivalents outstanding for the period determined using the treasury-stock method. For purposes of this calculation, common stock subject to repurchase by the Company and options are considered to be common stock equivalents and are only included in the calculation of diluted earnings per share when their effect is dilutive (in thousands, except per share data):
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
2014
|
|
2013
|
Numerator:
|
|
|
|
Net loss
|
$
|
(6,673
|
)
|
|
$
|
(2,649
|
)
|
Denominator:
|
|
|
|
Weighted average common shares outstanding
|
97,668
|
|
|
96,701
|
|
Weighted average unvested common shares subject to repurchase
|
(830
|
)
|
|
(875
|
)
|
Weighted average common shares outstanding—basic
|
96,838
|
|
|
95,826
|
|
Effect of dilutive securities:
|
|
|
|
Options, warrants and restricted share awards
|
—
|
|
|
—
|
|
Weighted average common shares outstanding—diluted
|
96,838
|
|
|
95,826
|
|
Net loss per common share:
|
|
|
|
Basic and diluted net loss per share
|
$
|
(0.07
|
)
|
|
$
|
(0.03
|
)
|
The weighted-average anti-dilutive securities not included in diluted net loss per share were as follows (in thousands):
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
2014
|
|
2013
|
Options to purchase common stock
|
5,378
|
|
|
3,939
|
|
Unvested restricted share awards
|
830
|
|
|
875
|
|
Warrants to purchase common stock
|
10,844
|
|
|
594
|
|
Total
|
17,052
|
|
|
5,408
|
|
8. Equity Transactions
Warrants
In connection with the execution of the Facility Agreement, on March 17, 2014, the Company issued to Deerfield warrants to purchase an aggregate of
6,250,000
shares of the Company’s common stock immediately exercisable at an exercise price equal to
$1.39
(the “Initial Warrants”) expiring on March 17, 2020. The number of shares of common stock into which the Initial Warrants are exercisable and the exercise price will be adjusted to reflect any stock splits, payment of stock dividends, recapitalizations, reclassifications or other similar adjustments in the number of outstanding shares of the Company’s common stock. The warrants have the same dividend rights to the same extent as if the warrants had been exercised for shares of common stock.
Each disbursement borrowing under the Facility Agreement shall be accompanied by the issuance to Deerfield of additional warrants to purchase up to an aggregate of
10,000,000
shares of the Company’s common stock, at an exercise price equal to the lesser of the Initial Warrant exercise price or the average daily volume weighted average price per share of the Company’s common stock for the
15
days following the request for borrowing (the “Draw Warrants”). The number of Draw Warrants issued for each draw will be in proportion to the amount of draw compared to the total
$50 million
facility.
The Initial Warrants were valued on March 17, 2014 using a Black-Scholes option pricing model that resulted in a value of
$5.7 million
, which was recorded as a current liability with an offset to a deferred charge asset and will be amortized on a straight line basis through interest expense over the term of the Facility Agreement commitment period ending January 30, 2015. To the extent the Company draws on the $50 million Facility Agreement, a proportionate amount of the unamortized current deferred charge will be reclassified as debt discount and amortized through interest expense over the term of the debt using the effective interest method.
On March 20, 2014, the Company made an initial draw of
$20 million
under the Facility Agreement and received net proceeds of
$19.5 million
to fund its 2014 Orthotec settlement payment obligations. In connection with this borrowing, the Company issued Draw Warrants to purchase
4,000,000
shares of common stock at an exercise price of
$1.39
. The Draw Warrants were valued at
$4.7 million
using the Black-Scholes option pricing model, which was recorded as a current liability with an offset to debt discount. In connection with the $20 million draw,
$2.3 million
of the deferred charge recorded upon the issuance of the Initial Warrants was reclassified as a debt discount.
As of March 31, 2014, the
10,250,000
outstanding Initial Warrants and Draw Warrants were revalued to their fair value with a charge to other income of
$0.1 million
. The warrant liability of
$10.3 million
is recorded as common stock warrant liabilities within current liabilities on the condensed consolidated balance sheet as of
March 31, 2014
.
At
March 31, 2014
, our outstanding warrants were valued using the Black-Scholes option pricing model. This is a Level 3 measurement using the following assumptions:
|
|
|
|
|
March 31, 2014
|
Risk-free interest rate
|
1.9
|
%
|
Dividend yield
|
—
|
%
|
Expected volatility
|
74
|
%
|
Expected life (years)
|
6.0
|
|
9. Income Taxes
To calculate its interim tax provision, at the end of each interim period the Company estimates the annual effective tax rate and applies that to its ordinary quarterly earnings. In addition, the effect of changes in enacted tax laws or rates or tax status is recognized in the interim period in which the change occurs. The computation of the annual estimated effective tax rate at each interim period requires certain estimates and significant judgment including, but not limited to, the expected operating income for the year, projections of the proportion of income earned and taxed in foreign jurisdictions, permanent and temporary differences between book and tax amounts, and the likelihood of recovering deferred tax assets generated in the current year. The accounting estimates used to compute the provision for income taxes may change as new events occur, additional information is obtained or as the tax environment changes.
The Company recognizes interest and penalties related to uncertain tax positions as a component of the income tax provision. The Company’s unrecognized tax benefits increased less than
$0.1 million
during the
three
months ended
March 31, 2014
. The increase in unrecognized tax benefits during the
three
months ended
March 31, 2014
was primarily related to an increase related to state research credits and uncertain tax positions within the Company’s foreign subsidiaries, partially offset by changes in prior year uncertain tax positions within the Company's foreign subsidiaries. The unrecognized tax benefits at
March 31, 2014
were
$7.9 million
. With the facts and circumstances currently available to the Company, it is reasonably possible that the amount that could reverse over the next 12 months is insignificant. Additionally, the French restructuring (see Note 11) may result in limitations on the Company’s ability to utilize its French net operating loss carryforwards to offset future taxable income.
The income tax provision consists primarily of income tax provisions related to state income taxes, the tax effect of changes in deferred tax liabilities associated with tax deductible goodwill and operations in other foreign jurisdictions where the Company operates.
The Company is not currently under examination by the IRS, or by foreign, state or local tax authorities.
10. Segment and Geographical Information
Operating segments are defined as components of an enterprise for which separate financial information is available and evaluated regularly by the chief operating decision maker, or decision-making group, in deciding how to allocate resources and in assessing performance. The Company has
one
operating and
one
reportable business segment.
During the
three
months ended
March 31, 2014
and
2013
, the Company operated in
two
geographic regions, the U.S. and International, which consists of locations outside of the U.S. In the International geographic region, sales in Japan for the
three
months ended
March 31, 2014
totaled
$7.7 million
, which represented greater than
10 percent
of the Company’s consolidated revenues. In the International geographic region, sales in Japan for the
three
months ended
March 31, 2013
totaled
$6.4 million
, which represented greater than
10 percent
of the Company’s consolidated revenues.
Revenues attributed to the geographic location of the customer were as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
March 31,
|
|
2014
|
|
2013
|
United States
|
$
|
32,050
|
|
|
$
|
33,062
|
|
International
|
17,123
|
|
|
17,381
|
|
Total consolidated revenues
|
$
|
49,173
|
|
|
$
|
50,443
|
|
Total assets by region were as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
March 31,
2014
|
|
December 31,
2013
|
United States
|
$
|
223,667
|
|
|
$
|
196,383
|
|
International
|
162,615
|
|
|
169,247
|
|
Total consolidated assets
|
$
|
386,282
|
|
|
$
|
365,630
|
|
11. Restructuring
On September 16, 2013, the Company announced that Scient'x has begun a process to significantly restructure its business operations in France in an effort to improve operating efficiencies and rationalize its cost structure. The restructuring includes a reduction and a further expected reduction in 2014 in Scient'x's workforce and closing of the manufacturing facilities in France. The Company estimates that it will record total costs, including employee severance, social plan benefits and related taxes, facility closing costs, manufacturing transfer costs, and contract termination costs of approximately
$11.6 million
associated with this restructuring. In accordance with ASC Topic 420,
Accounting for Costs Associated with Exit or Disposal Activities,
and ASC Topic 712
, Non Retirement Postemployment Benefits,
the Company has recorded a restructuring charge accrual in accrued expenses of
$9.3 million
within the condensed consolidated balance sheet as of
March 31, 2014
. Additionally, the Company has recorded restructuring expenses of
$0.8 million
within the condensed consolidated statement of operations for the three months ending
March 31, 2014
. The Company estimates that it will record total severance and benefits of approximately
$10.0 million
and facility closing and other restructuring costs of approximately
$1.6 million
. The Company expects to complete all the activities associated with the restructuring activities by the end of the second quarter of 2014, a substantial portion of which will be paid by then.
Below is a table of the movement (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accrued Balance at
|
|
Expensed
|
|
Paid and
|
|
Accrued Balance at
|
|
Total Costs
|
|
Total Expected
|
|
December 31, 2013
|
|
March 31, 2014
|
|
Other
|
|
March 31, 2014
|
|
Incurred
|
|
Remaining Costs
|
Social plan costs
|
$
|
9,170
|
|
|
$
|
287
|
|
|
$
|
(336
|
)
|
|
$
|
9,121
|
|
|
$
|
9,540
|
|
|
$
|
500
|
|
Other restructuring costs
|
—
|
|
|
489
|
|
|
(303
|
)
|
|
186
|
|
|
901
|
|
|
700
|
|
Total
|
$
|
9,170
|
|
|
$
|
776
|
|
|
$
|
(639
|
)
|
|
$
|
9,307
|
|
|
$
|
10,441
|
|
|
$
|
1,200
|
|
12.
Related Party Transactions
For the
three
months ended
March 31, 2014
, the Company incurred expenses of
$0.1 million
and had a liability of
$0.2 million
payable to HealthpointCapital, LLC for travel and administrative expenses.
The Company has entered into indemnification agreements with certain of its directors which are named defendants in the New York Orthotec matter (See Note 6 – Commitments and Contingencies – Litigation). The indemnification agreements require the Company to indemnify these individuals to the fullest extent permitted by applicable law and to advance expenses incurred by them in connection with any proceeding against them with respect to which they may be entitled to indemnification by the Company. For the
three
months ended
March 31, 2014
and
2013
, the Company incurred legal expenses of less than
$0.1 million
and
$0.6 million
, respectively, in connection with the Company’s indemnification obligations to two former directors of Scient'x in the New York Orthotec matter.