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NUVA > SEC Filings for NUVA > Form 10-Q on 25-Oct-2012All Recent SEC Filings

Show all filings for NUVASIVE INC

Form 10-Q for NUVASIVE INC


25-Oct-2012

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements May Prove Inaccurate

You should read the following discussion of our financial condition and results of operations in conjunction with the unaudited condensed consolidated financial statements and the notes to those statements included in this report. This discussion may contain forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those anticipated in these forward-looking statements as a result of certain factors, such as those set forth under heading "Risk Factors," and elsewhere in this report, and similar discussions in our other Securities and Exchange Commission filings, including our Annual Report on Form 10-K for the year ended December 31, 2011. We do not intend to update these forward looking statements to reflect future events or circumstances.

Overview

We are a medical device company focused on developing minimally disruptive surgical products and procedurally integrated solutions for the spine. Our principal product offering is the Maximum Access Surgery, or MAS® platform. The MAS platform combines several categories of solutions that collectively minimize soft tissue disruption during spine fusion surgery with maximum visualization and safe, easy reproducibility for the surgeon. The platform includes a proprietary software-driven nerve avoidance system and intra-operative monitoring support; MaXcess®, a unique split-blade retractor system; a wide variety of specialized implants; and several biologic fusion options. MAS significantly reduces surgery time and returns patients to activities of daily living much faster than conventional approaches. Having redefined spine surgery with the MAS platform's lateral approach, known as eXtreme Lateral Interbody Fusion, or XLIF®, we are both a driver and a key beneficiary of the spine market's shift toward treating patients with less invasive approaches.

With a foundation as the pioneer of lateral access spine surgery, we went on to build an entire spine franchise and are now the 4th largest player in the $7.9 billion global spine market. Our currently-marketed portfolio boasts over 75 innovative products that enable surgeons to treat the entire spine and to address almost any spine pathology with either minimally invasive or more traditional open approaches. The breadth and depth of our portfolio has established NuVasive as a key player in the spine market, affording our ability to effectively participate in new vendor negotiations as a top four global spine company. That capability comes at an opportune time when hospitals are limiting vendor relationships to between three to five vendors for their spine product needs.

Our strategy is to continue to take market share within the spine market by being the most creative spine technology company through speed of innovation, superior clinical outcomes, and Absolute Responsiveness®. As a result, we focus significant research and development efforts on both the strategic development of our MAS product platform and the advancement of the applications of our unique technology into procedurally integrated surgical solutions. We foster a culture similar to that of a startup company, with a dedication to innovative thinking and the cultivation of game changing ideas. As well, we devote significant resources to offering surgeons the highest caliber training programs and venues to drive adoption of our unique technology and broad portfolio. We feel that these facets of our growth strategy are key differentiators in the marketplace and will drive continued industry-leading growth, as well as improved profitability.

On October 7, 2011, we closed the acquisition of Impulse Monitoring, Inc.
(Impulse Monitoring), a company which provides intra-operative monitoring (IOM)
services for the nervous system during spine and other surgeries. The acquisition complements our existing nerve monitoring systems, which are designed for discreet and directional nerve avoidance and detection, making lateral access to the spine during the XLIF procedure safe and reproducible. As the strategic rationale behind the acquisition plays out, we believe that the penetration of XLIF will increase as the technical superiority of our nerve monitoring systems and the power of integrated neuromonitoring drive surgeon conversion.

We expect monitoring service revenue from our IOM offering to increase. Monitoring service revenue consists of hospital-based revenues and net patient service revenues and is recorded in the period the service is provided. Hospital-based revenues are recorded based upon contracted billing rates. Net patient services are billed to various payers, including Medicare, commercial insurance companies, other directly billed managed healthcare plans, employers, and individuals. We report net patient service revenues based on the amount expected to be collected.


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Substantially all of our operations are located in the United States and substantially all of our sales have been generated in the United States. To date, the majority of our sales are derived from the sale of disposables and implants, and we expect this trend to continue for the foreseeable future. We recognize revenue for disposables or implants used upon receiving acknowledgement of a purchase order from the hospital indicating product use or implantation. In addition, we sell an immaterial number of MAS instrument sets, MaXcess devices, and our proprietary software-driven nerve monitoring systems. To date, we have derived less than 5% of our total revenues from these sales.

We are expanding our international sales efforts with the focus on European, Asian and Latin American markets. Our international sales force is comprised of directly-employed sales shareowners as well as exclusive distributors and independent sales agents.


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Results of Operations

Revenue



                                      September 30,
        (dollars in thousands)     2012          2011        $ Change       % Change
        Three months ended:
        Spine Surgery Products   $ 112,611     $ 106,903
        Biologics                   26,137        25,692
        Monitoring Service           9,643           285

        Total Revenue            $ 148,391     $ 132,880     $  15,511             12 %

        Nine months ended:
        Spine Surgery Products   $ 344,050     $ 316,458
        Biologics                   81,168        72,945
        Monitoring Service          29,283           909

        Total Revenue            $ 454,501     $ 390,312     $  64,189             16 %

Our spine surgery product line offerings, which include products for the thoracolumbar spine and the cervical spine, are primarily used to enable access to the spine and to perform restorative and fusion procedures in a minimally disruptive fashion. Our biologic product line offerings include allograft (donated human tissue), FormaGraft®, a collagen synthetic product, Osteocel Plus®, an allograft cellular matrix containing viable mesenchymal stem cells, or MSCs, and AttraX®, a synthetic bone graft material, all used to aid the spinal fusion process. Our monitoring service line offering includes hospital-based revenues and net patient service revenues related to IOM services performed.

The continued adoption of minimally invasive procedures for spine has led to the continued expansion of our innovative lateral procedure known as XLIF, in which surgeons access the spine for a fusion procedure from the side of the patient's body, rather than from the front or back. In addition, increased market acceptance in our international markets contributed to the increase in revenues noted for the periods presented. We expect continued adoption of our XLIF procedure and deeper penetration into existing accounts and our newer international markets as our sales force executes on the strategy of selling the full mix of our products. However, recent changes in payer and hospital behavior in the United States have created less predictability in the lumbar portion of the spine market and impacted the overall spine market's growth rate. We believe that our growth in revenue in 2012 will come from market share gains related to the market shift toward less invasive spinal surgery, our biologics product line, our fixation systems, and the benefit of an entire fiscal year of revenue from our IOM service business as a result of the Impulse Monitoring acquisition.

Our total revenues increased $15.5 million and $64.2 million in the three and nine months ended September 30, 2012, respectively, representing total revenue growth of 12% and 16% for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011.

Revenue from our Spine Surgery Products increased $5.7 million and $27.6 million, or 5% and 9%, in the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011. These increases resulted from increases in volume of approximately 6% and 10% for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011, offset by small unfavorable changes in price of approximately 1% for the same periods.

Revenue from our Biologics product line increased $0.4 million and $8.2 million, or 2% and 11%, in the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011. These increases resulted from increases in volume of approximately 3% and 12% for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011, offset by small unfavorable changes in price of approximately 1% for the same periods.

Revenue from Monitoring Service increased $9.4 million and $28.4 million in the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011. These increases resulted from the acquisition of Impulse Monitoring in October of 2011.

Our revenue has grown rapidly since our inception, with each quarter typically representing growth over the prior quarter. In the third quarter of 2012 we saw a decline in sequential quarterly revenue driven primarily by unusually high account churn as a result of increased surgeon participation in physician-owned distributorships, or PODs, and the loss of a few large customer accounts. This account churn, although always part of our regular business, was particularly pronounced in a few geographies. We have taken steps in an effort to mitigate the effect of these account losses.


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Cost of Goods Sold, excluding amortization of purchased technology

                                    September 30,
  (dollars in thousands)        2012              2011            $ Change         % Change
  Three months ended         $  37,746          $ 26,015          $ 11,731              45%
  % of revenue                       25%               20%
  Nine months ended          $ 111,213          $ 75,049          $ 36,164              48%
  % of revenue                       24%               19%

Cost of goods sold consists of costs of purchased goods, inventory-related costs and royalty expense, as well as the cost of providing IOM service, which includes personnel and physician oversight costs.

Cost of goods sold as a percentage of revenue increased for the three and nine months ended September 30, 2012 compared to the same periods in 2011, primarily related to higher costs as a percentage of revenue associated with monitoring service revenues of approximately 3.2% and 3.0% for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011, and estimated royalty expense accruals associated with the judgment in the Medtronic Sofamor Danek USA, Inc. and its related entities (Medtronic) litigation of approximately 1.3% and 1.7% for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011.

We expect cost of goods sold, as a percentage of revenue, to approximate current levels for the remainder of 2012.

Operating Expenses

Sales, Marketing and Administrative



                                     September 30,
  (dollars in thousands)        2012               2011            $ Change        % Change
  Three months ended         $  87,052          $  85,482          $  1,570              2%
  % of revenue                       59%                64%
  Nine months ended          $ 273,669          $ 254,025          $ 19,644              8%
  % of revenue                       60%                65%

Sales, marketing and administrative expenses consist primarily of compensation, commission, travel and training costs for personnel engaged in sales, marketing and customer support functions; distributor commissions; depreciation expense for surgical instrument sets; shipping costs; surgeon training costs; shareowner (employee) related expenses for our administrative functions; and third-party professional service fees.

As a percentage of revenue, sales, marketing and administrative expenses decreased for the three and nine months ended September 30, 2012 compared to the same periods in 2011, primarily as a result of the addition of Impulse Monitoring, which has a lower sales, marketing and administrative expense profile than the rest of NuVasive, as well as lower legal expenses incurred in connection with the Medtronic litigation and stock-based compensation.

Costs that tend to vary based on revenue, which include commissions, depreciation expense for loaned surgical instrument sets, worldwide sales force headcount, distribution and customer support headcount, and shipping, increased $2.8 million and $15.4 million for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011. This increase is less than our increased revenue growth of 12% and 16% in the three and nine months ended September 30, 2012, respectively, as compared to the same periods in 2011 due to the addition of Impulse Monitoring.

Compensation and other shareowner related expenses for our marketing and administrative support functions increased $1.8 million and $7.2 million for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011, resulting from additions to our headcount, including Impulse Monitoring shareowners, and an increase in performance-based compensation.

In addition to the above, we continued to make significant investments in our Japanese operations. This investment, along with increased equipment expenses resulting from our overall headcount growth, represented increases of $1.1 million and $2.8 million for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011.

Offsetting the increases discussed above, legal expenses incurred in connection with the Medtronic litigation decreased $1.8 million and $4.2 million for the three and nine months ended September 30, 2012, respectively, as compared to the same periods in 2011. In addition, stock-based compensation decreased $2.7 million for the three months ended September 30, 2012 compared to the same period in 2011, primarily attributed to a reversal of approximately $0.9 million in compensation expense previously recorded for performance-based awards in the three months ended September 30, 2012. Stock-based compensation decreased $3.2 million for the nine months ended September 30, 2012 compared to the same period in 2011, primarily attributed to a reversal of approximately $0.9 million in compensation expense previously recorded for performance-based awards in the three months ended September 30, 2012, as well as the timing of annual grants in the current year as compared to the prior year.


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We currently expect for the remainder of 2012 and on a long-term basis, total sales, marketing and administrative costs, as a percentage of revenue, to continue to decrease moderately.

Research and Development



                                    September 30,
 (dollars in thousands)       2012                 2011              $ Change            % Change
 Three months ended          $ 7,933              $10,092             $(2,159)               (21%)
 % of revenue                      5%                   8%
 Nine months ended           $27,932              $31,119             $(3,187)               (10%)
 % of revenue                      6%                   8%

Research and development expense consists primarily of product research and development, clinical trial and study costs, regulatory and clinical functions, and shareowner related expenses.

In the last several years, we have introduced numerous new products and product enhancements that have significantly expanded our MAS platform, enhanced the applications of the XLIF procedure, expanded our offering of cervical products, and moved closer to entering into the growing motion preservation market. We have also acquired complementary and strategic assets and technology, particularly in the area of biologics. We are developing proprietary total disc replacement devices for lateral lumbar spine applications and separately for cervical spine applications, which are currently in different phases of clinical trials and related studies. We anticipate continuing to incur costs related to such clinical trials and studies through at least 2012.

Compensation and other shareowner related expenses, including performance-based compensation, decreased $0.5 million for both the three and nine months ended September 30, 2012, compared to the same periods in 2011. These decreases are primarily due to compensation-related savings. Further, expenses incurred in connection with various clinical trials and studies and other non-shareowner related research activities decreased $1.1 million and $2.5 million for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011.

We expect total research and development costs, as a percentage of revenue, to remain at current levels in support of our ongoing development and planned clinical trial and study related activities for the remainder of 2012.

Amortization of Intangible Assets



                                    September 30,
(dollars in thousands)       2012                  2011                $ Change             % Change
Three months ended:          $3,081                $1,504                $1,577                 105%
% of revenue                       2%                    1%
Nine months ended:            $8,830               $4,241                $4,589                 108%
% of revenue                       2%                    1%

Amortization expense increased $1.6 million and $4.6 million for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011, primarily due to the acquisition of Impulse Monitoring in October 2011 and intangible assets acquired subsequent to September 30, 2011.

We expect expenses recorded in connection with the amortization of intangible assets to continue to increase in absolute dollars for the foreseeable future as amortization of acquired in-process research and development commences once acquired research and development projects reach technological feasibility.


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Litigation Award



                                     September 30,
      (dollars in thousands)     2012           2011           $ Change        % Change
      Three months ended:      $   -        $ 101,200          $(101,200)        (100)%
      % of revenue                  -%              76%
      Nine months ended:       $   -        $ 101,200          $(101,200)        (100)%
      % of revenue                  -%              26%

Litigation award expense represents the monetary damages awarded to Medtronic during September 2011 which included lost profits and back royalties, all of which are in the process of being appealed.

Interest and Other Expense, Net



                                                   September 30,
(dollars in thousands)                         2012             2011          $ Change         % Change
Three months ended:
Interest income                             $      249       $      257
Interest expense                                (6,885 )         (7,276 )
Other (expense) income, net                        260            1,726

Total interest and other expense, net        $  (6,376 )      $  (5,293 )     $  (1,083 )            20%

% of revenue                                         4 %              4 %
Nine months ended:
Interest income                             $      661       $      591
Interest expense                               (20,682 )        (10,962 )
Other (expense) income, net                        146            2,303

Total interest and other expense, net       $  (19,875 )     $   (8,068 )     $ (11,807 )           146%

% of revenue                                         4 %              2 %

Interest and other expense, net, consists principally of interest expense incurred on our outstanding $476.8 million Senior Convertible Notes, offset by income earned on marketable securities and other income items. Interest expense decreased $0.4 million for the three months ended September 30, 2012 compared to the same period in 2011, primarily due to the repurchase of approximately $118.7 million of the 2013 Notes during August 2011. Interest expense increased $9.7 million for the nine months ended September 30, 2012 compared to the same period in 2011, as a result of the additional cash and non-cash interest expense associated with the 2017 Notes offering, which closed in June 2011, slightly offset by reduced interest incurred resulting from the repurchase of the 2013 Notes during August 2011.

Other income, net, decreased $1.5 million and $2.2 million for the three and nine months ended September 30, 2012, respectively, compared to the same periods in 2011, primarily as a result of the $2.4 million net non-cash gain recorded in the three and nine months ended September 30, 2011 related to the changes in the fair values of the derivative asset and liability recorded in connection with the 2017 Notes offering, offset by the net loss of approximately $0.7 million related to the write off of unamortized debt issuance costs associated with the repurchase of a portion of the 2013 Notes during August 2011.

Interest and other expense, net, is expected to approximate current levels for the remainder of 2012 as a result of the additional cash and non-cash interest expense associated with the 2017 Notes offering.

Income Tax Expense (Benefit)



                                                     September 30,
(dollars in thousands)                         2012                2011           $ Change      % Change
Three months ended:                            $4,064            $(29,031)          $33,095        (114%)
Effective income tax (benefit) rate                 66%                (30)%
Nine months ended:                             $7,764            $(22,715)          $30,479        (134%)
Effective income tax (benefit) rate                 60%                (27)%

We recorded income tax expense of $4.1 million and an income tax benefit of $29.0 million for the three months ended September 30, 2012 and 2011, respectively, and recorded income tax expense of $7.8 million and an income tax benefit of $22.7 million for the nine months ended September 30, 2012 and 2011, respectively. The effective income tax rate for the nine months ended September 30, 2012 was 60% compared to an effective income tax benefit rate of 27% for the nine months ended September 30, 2011, which is based on an estimate of our annual effective income tax rate. We update our annual effective income tax rate each quarter and if the estimated effective income tax rate changes, a cumulative adjustment is made. Our annual effective income tax rate for 2012 is expected to be higher than the U.S. federal statutory rate of 35% primarily due to estimates for certain non-deductible expenses, state income taxes, net of federal benefit, and certain foreign losses expected to be incurred for which no benefit can be recorded.


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Stock-Based Compensation



                                                    September 30,
(dollars in thousands)                           2012           2011         $ Change        % Change
Three months ended:
Sales, marketing and administrative expense    $  4,844       $  7,497
Research and development expense                    567            621
Cost of goods sold                                   23              -

Total stock-based compensation expense         $  5,434       $  8,118       $  (2,684 )           (33 )%

% of revenue                                          4 %            6 %
Nine months ended:
Sales, marketing and administrative expense    $ 18,723       $ 21,956
Research and development expense                  1,624          1,833
Cost of goods sold                                   53              -

Total stock-based compensation expense         $ 20,400       $ 23,789       $  (3,389 )           (14 %)

% of revenue                                          4 %            6 %

Stock-based compensation related to stock awards is recognized and amortized on an accelerated basis in accordance with authoritative guidance. The decrease in stock-based compensation of approximately $2.7 million for the three months ended September 30, 2012, compared to the same period in 2011, is primarily attributed to a reversal of approximately $0.9 million in compensation expense previously recorded for performance-based awards in the three months ended September 30, 2012. The decrease in stock-based compensation of approximately $3.4 million for the nine months ended September 30, 2012, compared to the same period in 2011, is primarily attributed to a reversal of approximately $0.9 million in compensation expense previously recorded for performance-based awards in the three months ended September 30, 2012, as well as the timing of annual grants in the current year as compared to the prior year.

Liquidity, Cash Flows and Capital Resources

Our principal sources of liquidity are our existing cash, cash equivalents and marketable securities, cash generated from operations and proceeds from our convertible debt financings issued in March 2008 and June 2011.

In March 2008, we issued $230.0 million principal amount of 2.25% Senior Convertible Notes due 2013 (the 2013 Notes). The net proceeds from the offering, after deducting the initial purchasers' discounts and costs directly related to the offering, were approximately $208.4 million. We pay 2.25% interest per annum on the principal amount of the 2013 Notes, payable semi-annually in arrears in cash on March 15 and September 15 of each year. At September 30, 2012, approximately $74.3 million of the 2013 Notes remain outstanding. Any 2013 Notes . . .

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