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| SONO > SEC Filings for SONO > Form 10-Q on 9-Nov-2009 | All Recent SEC Filings |
9-Nov-2009
Quarterly Report
This quarterly report on Form 10-Q contains forward-looking statements. Forward-looking statements provide our current expectations or forecasts of future events. Forward-looking statements in this report include, without limitation:
Words such as "believe," "anticipate," "expect" and "intend" may identify forward-looking statements, but the absence of these words does not necessarily mean that a statement is not forward-looking. Forward-looking statements are subject to known and unknown risks and uncertainties, and are based on potentially inaccurate assumptions that could cause actual results to differ materially from those expected or implied by the forward-looking statements. You should not unduly rely on these forward-looking statements, which speak only as of the date of this report.
We undertake no obligation to publicly update any forward-looking statement, whether as a result of new information, future events or otherwise. You are advised, however, to consult any further disclosures we make on related subjects in our future quarterly reports on Form 10-Q, current reports on Form 8-K and annual reports on Form 10-K. Also note that we provide a cautionary discussion of risks, uncertainties and possibly inaccurate assumptions relevant to our business in Item 1A. "Risk Factors" section of our Annual Report on Form 10-K for the year ended December 31, 2008. These are risks that could cause our actual results to differ materially from those anticipated in our forward-looking statements or from our expected or historical results. Other factors besides the risks, uncertainties and possibly inaccurate assumptions described in this report could also affect actual results.
Overview
The following Management's Discussion and Analysis ("MD&A") is intended to help the reader understand the results of operations and financial condition of SonoSite, Inc. MD&A is provided as a supplement to, and should be read in conjunction with, our consolidated financial statements and the accompanying notes to the consolidated financial statements
Our business strategy is to lead in the design, development and commercialization of high performance, innovative ultrasound technology and hand carried ultrasound systems. We intend to sustain long-term growth of our business through technological innovation, broadening of sales distribution channels, entry and maintenance of strategic relationships, expanding into new clinical and geographic markets, and delivering high-quality products to customers. We are focusing on the development of innovative products with the objective of improving patient care and efficiency through ease of use, high performance imaging, and providing quicker results to physicians and clinicians. We are also investing in research and development in existing and new lines of business and other areas that we believe may contribute to our long-term growth. Recognizing that one of our greatest challenges is the current state of the global economy, we are focused on increasing sales force efficiency and effective cost management.
Over the last few years, we have laid a foundation for long-term growth by introducing innovative products, entering into strategic relationships, expanding into new markets, and providing high quality products with an industry-leading 5-year warranty. In fiscal year 2009, we have continued to build on this foundation and to execute well in key areas, including continuing to innovate using existing and new technologies, to build and maintain key relationships in the sales distribution channels, to improve sales force productivity, to deliver high quality products, and to manage expenses.
On August 14, 2009, we acquired all of the outstanding stock of CardioDynamics International Corporation ("CDIC"), a leader in impedance cardiography ("ICG") for noninvasive hemodynamic assessment that develops, manufactures, and markets ICG devices and sensors. The ICG product line provides non-invasive assessment of cardiac output and other hemodynamic parameters. The business combination enables us to expand our distribution platform and product offerings.
During the quarter, we also commenced international shipping of the NanoMaxx™ system, a 6 pound ultrasound tool designed for diagnostic imaging, clinical assessment, and procedural guidance in hospitals and in the physician's office. This recent addition to our suite of products recently received 510(k) clearance from the FDA for domestic sales, which will begin in the fourth quarter.
Results of Operations
Revenue
Revenue decreased to $53.6 million for the three months ended September 30, 2009 from $61.6 million for the three months ended September 30, 2008. Revenue decreased to $157.7 million for the nine months ended September 30, 2009 from $173.4 million for the nine months ended September 30, 2008. The decrease in the third quarter of 2009 compared to 2008 and for the nine months of 2009 compared to 2008 was attributable to a slowdown in hospital capital spending, offset by revenues of $3.0 million from CDIC. Foreign exchange rates had no effect on revenues during the quarter but had an unfavorable impact of $6.7 million, or 4% for year to date.
U.S. revenue decreased to $26.9 million for the three months ended September 30, 2009 from $33.9 million for the three months ended September 30, 2008. U.S. revenue decreased to $74.0 million for the nine months ended September 30, 2009 from $84.3 million for the nine months ended September 30, 2008. The decrease in the third quarter 2009 compared to 2008 and for the nine months of 2009 compared to 2008 was primarily attributable to a 23% decline in direct sales during the quarter and a 20% decline year to date primarily due to reduced hospital capital spending within the difficult economic environment, offset by CDIC sales of $2.7 million.
Revenue from Europe, Africa and the Middle East decreased to $12.2 million for the three months ended September 30, 2009 from $13.4 million for the three months ended September 30, 2008. Revenue from Europe, Africa and the Middle East decreased to $40.6 million for the nine months ended September 30, 2009 from $46.6 million for the nine months ended September 30, 2008. The decrease during the quarter was due to order delays and an unfavorable foreign exchange impact of 4%. Year to date was negatively impacted by a foreign exchange impact of 12%.
Revenue from Latin America and Canada decreased to $5.0 million for the three months ended September 30, 2009 from $6.2 million for the three months ended September 30, 2008. Revenue from Latin America and Canada decreased to $15.1 million for the nine months ended September 30, 2009 from $17.6 million for the nine months ended September 30, 2008. The decrease in the third quarter 2009 compared to 2008 was primarily due to decreased sales in Latin America as well as an unfavorable exchange impact of 1% for the three months ended September 30, 2009. The decrease for the nine months of 2009 compared to 2008 was primarily due to decreased sales in Latin America as well as an unfavorable foreign exchange impact of 5% for year to date.
Revenue from Asia Pacific increased to $9.4 million for the three months ended September 30, 2009 from $8.1 million for the three months ended September 30, 2008. Revenue from Asia Pacific increased to $28.0 million for the nine months ended September 30, 2009 from $24.9 million for the nine months ended September 30, 2008. The increase in the three months was primarily due to increased sales of our higher-end products, as well as a favorable exchange rate of 7% for the three months ended September 30, 2009. The increase in the nine months was primarily due to increased sales of our higher-end products, partially offset by an unfavorable foreign exchange rate of 2% for year to date.
Fiscal Year 2009 Outlook
Given current economic conditions and foreign currency trends, we anticipate that revenue in 2009 will be less than 2008. We have introduced additional new products and features to develop the U.S. physician office market, and to expand our international operations. Considering current economic conditions, these initiatives may not be as successful as anticipated and we may encounter regulatory delays and other issues in selling our products. We may experience difficulties in integrating the CDIC products and sales channel. Our revenue has been significantly and may be further impacted by fluctuations in foreign exchange rates in the countries in which we sell our products. Increased competition may also impact our anticipated growth in revenue. We currently face competition from larger companies that manufacture cart-based and portable ultrasound systems and have greater financial and other resources.
Gross margin
Gross margin was 70% for the three months ended September 30, 2009 and 2008. Gross margin was 70% for the nine months ended September 30, 2009 and 71% for the nine months ended September 30, 2008. The gross margin decreased over the prior year as a result of foreign currency impact of approximately 1%, which was partially offset by a reduction in material costs.
Fiscal Year 2009 Outlook
Although we expect our gross margin in 2009 to remain level with 2008, increased competition from existing and new competitors as well as pricing pressure due to economic conditions could result in lower average realized prices and could lower our gross margin. Our gross margin can be expected to fluctuate in future periods based on introduction of new products; the mix of business between direct, government and distributor sales; mix of U.S. and international sales; and our product and accessories sales mixes. Changes in our cost of inventory also may impact our gross margin. Adjustments to reduce carrying costs are recorded for obsolete material, earlier generation products and used or refurbished products held either as saleable inventory or as demonstration product. If market conditions change or the introduction of new products by us impacts the market for our previously released products, we may be required to further write down the carrying value of our inventory, resulting in a negative impact on gross margins. We rely on our sales forecasts by product to determine production volume. To the extent our sales forecasts or product mix estimates are inaccurate, we may produce excess inventory or experience inventory shortages, which may result in an increase in our costs of revenue, a decrease in our gross margin or lost sales. Our gross margin may also be impacted by fluctuations in foreign exchange rates.
Operating expenses
Research and development expenses were $6.5 million for the three months ended September 30, 2009, compared to $7.4 million for the three months ended September 30, 2008. Research and development expenses were $21.6 million for the nine months ended September 30, 2009, compared to $20.6 million for the nine months ended September 30, 2008. The decrease in the third quarter of 2009 compared to 2008 was primarily attributable to a reduction in development costs due to the completion and launch of a new product offering. The increase in the nine months of 2009 compared to 2008 was primarily attributable to increased headcount and other costs related to development of new features and products.
Sales, general and administrative expenses were $28.9 million for the three months ended September 30, 2009, compared to $28.3 million for the three months ended September 30, 2008. Sales, general and administrative expenses were $81.7 million for the nine months ended September 30, 2009, compared to $86.7 million for the nine months ended September 30, 2008. The increase in the third quarter of 2009 compared to 2008 was primarily attributable to operations and integration costs of CDIC, offset by a reduction in legal costs. The decrease in the nine months was primarily attributable to reduced legal costs and compensation expense, and a favorable impact from foreign exchange rates. Included in operating expenses are integration related charges of $4.0 million in the third quarter and $4.1 million for the nine months ended of 2009.
During 2009, we incurred acquisition costs related to CDIC of $1.0 million for the three months and $1.5 million for year to date, offset by a bargain purchase gain of $1.1 million for the three months and year to date.
In July 2009, we received final consideration for a Settlement Agreement entered in 2008 with Zonare Medical Systems, Inc. ("Zonare"). Under the Settlement Agreement, our claims associated with a patent infringement suit related to Zonare's z.one ultrasound system and Zonare's counterclaim related to portable docking stations were dismissed for cross-licenses of certain patents between the parties and a $3.25 million payment in two installments from Zonare to SonoSite. We recognized a benefit of $0.9 million in operating income for the nine months ended September 30, 2009 when final payment was received. We recognized a benefit of $2.6 million in operating income for the three and nine months ended September 30, 2008.
Fiscal Year 2009 Outlook
We anticipate that operating expenses will decrease in 2009 compared to 2008 through reduced legal costs, incentive and stock compensation, and effective cost management.
Other loss
Total other loss was $3.0 million for the three months ended September 30, 2009 compared to $3.7 million for the three months ended September 30, 2008. Total other loss was $5.5 million for the nine months ended September 30, 2009 compared to $8.6 million for the nine months ended September 30, 2008. The decrease in loss for the three months ended September 30, 2009 was primarily attributable to lower interest as a result of less outstanding debt and lower losses related to hedges compared to the prior year, partially offset by lower interest income on our investment balances. The decrease in loss for the nine months ended September 30, 2009 was primarily attributable to the gain recognized on the repurchase of our convertible senior notes and lower interest expense as a result of less outstanding debt compared to the prior year; partially offset by lower interest income on our investment balances resulting from lower interest rates.
Amounts reported in comparable prior periods have been restated due to the adoption of Financial Accounting Standards Board Accounting Standards Codification™ ("ASC") 470-20, formerly Financial Accounting Standards Board Staff Position ("FSP") APB 14-1, "Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement)," on January 1, 2009.
Fiscal Year 2009 Outlook
We anticipate that we will incur losses in 2009 primarily due to the additional interest expense resulting from the adoption of ASC 470-20, lower interest income due to lower interest rates, and lower gains from the repurchase of convertible senior notes.
Income tax (benefit) expense
Income tax benefit was $0.5 million for the three months ended September 30, 2009, compared to a provision of $2.7 million for the three months ended September 30, 2008. Income tax provision was $0.3 million for the nine months ended September 30, 2009, compared to $3.9 million for the nine months ended September 30, 2008. The increase in our consolidated effective tax rate for the three months ended September 30, 2009 resulted from a low level of book income relative to permanent differences related to the research and development tax credit and domestic production activities tax deduction. The decrease in our consolidated effective tax rate for the nine months ended September 30, 2009, as compared to 2008, results primarily from the reinstatement of the U.S. research and development tax credit in the fourth quarter 2008 and our qualification for the domestic production activities tax deduction. Amounts reported in comparable prior periods have been restated due to the adoption of ASC 470-20.
Fiscal Year 2009 Outlook
We anticipate that our annual consolidated effective tax rate will approximate 39% for fiscal year 2009.
Warranty expense
We expect our warranty liability and expense to continue to increase due to the five-year warranty offered with the NanoMaxx, MicroMaxx system, M-Turbo system and S Series ultrasound tools, as well as our newly acquired BioZ systems as our installed base increases. Should actual failure rates or repair or replacement costs for any of our products differ from estimates, revisions to the estimated warranty liability may be required and our results may be materially affected.
Liquidity and Capital Resources
Our cash and cash equivalents balance was $211.0 million as of September 30, 2009, compared to $209.3 million as of December 31, 2008. Cash and cash equivalents were primarily invested in money market accounts. Our short-term and long-term investment securities totaled $36.9 million as of September 30, 2009, compared to $70.5 million as of December 31, 2008. Investment securities generally consist of high-grade U.S. government or corporate debt and high-grade asset-backed securities. We have the ability to hold our securities until maturity, however, we classify all securities as available-for-sale, as the sale of such securities may be required prior to maturity to implement management strategies. As of September 30, 2009, our investment in the Columbia Strategic Cash Portfolio has been fully liquidated.
Operating activities provided cash of $8.9 million for the nine months ended September 30, 2009, compared to cash provided of $18.0 million for the nine months ended September 30, 2008. Net income for the nine months ended September 30, 2009 was adjusted by stock-based compensation expense of $5.2 million, depreciation and amortization of $3.6 million, amortization of debt discount and debt issuance costs of $3.8 million, deferred income taxes of $1.2 million, a gain on convertible note repurchase of $1.3 million, and a gain on the bargain purchase of CDIC of $1.1 million. Operating assets and liabilities were primarily impacted by the timing of payments and receipts. For the nine month period ended September 30, 2009 operating assets provided $11.6 million and operating liabilities used $15.8 million. The change in operating assets is due to accounts receivable collections being higher than sales for 2009 compared to 2008, and the change in operating liabilities is due to the timing of payments of accrued expenses.
Investing activities provided cash of $23.1 million for the nine months ended September 30, 2009, compared to $59.2 million for the nine months ended September 30, 2008. The cash provided in 2009 was primarily due to the sale and maturity of investments of $134.3 million, offset by the purchase of investment securities of $100.4 million, the acquisition of CDIC of $8.2 million, the purchase of property and equipment of $2.3 million, and $0.4 million of earn-out consideration associated with the acquisition of SonoMetric Health, Inc.
Financing activities used cash of $25.5 million for the nine months ended September 30, 2009, compared to cash provided of $4.5 million for the nine months ended September 30, 2008. Cash used in financing activities was primarily due to the repurchase of our convertible debt and associated warrants for $21.7 million, repayment of debt assumed in the CDIC acquisition of $5.3 million and shares retired for taxes of $1.3 million, partially offset by the sale of call options for $1.4 million and proceeds from the exercise of stock-based awards totaling $1.4 million.
We believe that our existing cash and cash generated from operations will be sufficient to fund our operations, capital expenditures and repurchases of convertible debt for the foreseeable future. Nevertheless, we may experience an increased need for additional cash due to:
• any significant decline in our revenue or gross margin;
• any delay or inability to collect accounts receivable;
• any acquisition or strategic investment in another business;
• any significant increase in expenditures as a result of expansion of our sales and marketing infrastructure, our manufacturing capability or our product development activities; and
• any significant increase in our sales and marketing expenditures as a result of our introduction of new products.
Risk Factors
A complete listing of our risk factors is contained in the Item 1A. "Risk Factors" section of our Annual Report on Form 10-K for the year ended December 31, 2008.
Critical Accounting Policies and Estimates
The discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with instructions for Form 10-Q and Article 10 of Regulation S-X. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to product returns, bad debts, inventories, investments, warranty obligations, service contracts, incentive compensation, contingencies and litigation. We base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. The results form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.
As discussed in Item 7, "Management Discussion and Analysis of Financial Condition and Results of Operations" of our annual report on Form 10-K for the year ended December 31, 2008, our critical accounting policies and estimates include revenue recognition, investments, valuation of inventories, warranty expense, income taxes, stock-based compensation, convertible debt and hedge transaction and acquisitions.
Long term debt. On January 1, 2009, we adopted ASC 470-20, formerly FSP APB 14-1, which clarifies the accounting for convertible debt instruments that may be settled in cash (including partial cash settlement) upon conversion. We bifurcated a component of the conversion option and classified that component in equity. The value of the equity component was calculated by first measuring the fair value of the liability component, using the discount rate of a similar liability that does not have a conversion feature, as of the issuance date. The difference between the proceeds for the convertible debt and the amount reflected as the liability component was recorded as the equity component. We recognize the accretion of the resulting discount as part of interest expense in our consolidated statement of income.
Upon settlement of our convertible senior notes, we revalue the liability component, utilizing an interest rate of comparable nonconvertible debt. We allocate a portion of the consideration transferred to the liability component equal to the fair value of that component immediately prior to repurchase. Any difference between the consideration attributed to the liability component and the sum of the net carrying amount of the liability component and unamortized debt issuance costs is recognized as a gain or loss in the statement of income. Any remaining consideration is allocated to the reacquisition of the equity component and is recognized as a reduction of stockholders' equity.
Business Combination. In August 2009, we acquired all of the outstanding stock of CDIC and Medis. The purchase method of accounting was used to account for this acquisition. The cost of an acquisition is measured at the fair value of the assets given, equity instruments issued and liabilities incurred or assumed at the date of exchange. Identifiable assets acquired and liabilities and contingent liabilities assumed in a business combination are measured initially at their fair values at the acquisition date. Because the cost of acquisition is less than the fair value of the net assets of the subsidiary acquired, the excess of the value of the net assets acquired over the purchase price has been recorded as a gain on bargain purchase. We recorded identifiable assets including customer relationships, developed technology, trademarks, and internally developed software, which have lives from two to six years.
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