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ULGX > SEC Filings for ULGX > Form 10-Q on 14-Nov-2012All Recent SEC Filings

Show all filings for UROLOGIX INC

Form 10-Q for UROLOGIX INC


14-Nov-2012

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This Management's Discussion and Analysis of Financial Condition and Results of Operations contains, in addition to historical information, forward-looking statements that are based on our current expectations, beliefs, intentions or future strategies. These statements are subject to risks and uncertainties that could cause actual results to differ materially from the statements as a result of certain factors, including those set forth under Part I, Item 1A. "Risk Factors" in our Annual Report on Form 10-K for the year ended June 30, 2012, as well as in other filings we make with the Securities and Exchange Commission and include factors such as: as a result of our history of operating losses and inadequate operating cash flow, there is substantial doubt about our ability to continue as a going concern; we have a history of unprofitability and may not be able to generate sufficient cash flow to fund our operations; we may need additional capital to continue our business and any additional capital we seek may not be available in the amount or at the time we need it; third party reimbursement is critical to market acceptance of our products; we are faced with intense competition and rapid technological and industry change; all of our revenues are derived from minimally invasive therapies that treat one disease, BPH; government regulation has a significant impact on our business; we are dependent upon a limited number of third-party suppliers for our products; our business of the manufacturing, marketing, and sale of medical devices involves the risk of liability claims and such claims could seriously harm our business, particularly if our insurance coverage is inadequate; we are dependent on adequate protection of our patent and proprietary rights; our products may be subject to product recalls even after receiving FDA clearance or approval, which would harm our reputation and our business; we are dependent on key personnel; we do not comply with Nasdaq's listing requirements and if our common stock is delisted it may then become illiquid; fluctuations in our future operating results may negatively affect the market price of our common stock; our stock price may be volatile and a shareholder's investment could decline in value; future sales of shares of our common stock may negatively affect our stock price; provisions of Minnesota law, our governing documents and other agreements may deter a change of control of us and have a possible negative effect on our stock price; the license for the Prostiva RF Therapy System could result in operating difficulties and other harmful consequences that may adversely impact our business and results of operations; if we fail to comply with our obligations under our license agreement with Medtronic or if the license agreement terminates for any reason, we could lose the ability to see the Prostiva product; the Prostiva RF Therapy System license and other agreements require significant future payments; and the addition of the Prostiva RF Therapy System to our product portfolio may result in the aggravation of certain risks to our business. All forward-looking statements included herein are based on information available to us as of the date hereof, and we undertake no obligation to update any such forward-looking statements.

The following is a discussion and analysis of Urologix' financial condition and results of operations as of and for the three-months ended September 30, 2012 and 2011. This section should be read in conjunction with the condensed financial statements and related notes in Item 1 of this report and Urologix' Annual Report on Form 10-K for the year ended June 30, 2012.

OVERVIEW

Urologix develops, manufactures, and markets non-surgical, office-based therapies for the treatment of the symptoms and obstruction resulting from non-cancerous prostate enlargement also known as benign prostatic hyperplasia (BPH). These therapies use proprietary technology in the treatment of BPH, a disease that affects more than 30 million men worldwide and is the most common urologic problem for men over 50. We market both the Cooled ThermoTherapy™ (CTT) product line and the Prostiva® Radio Frequency (RF) Therapy System. We acquired the exclusive worldwide license to the Prostiva® RF Therapy System in September 2011. These two technologies are designed to be used by urologists in their offices without placing their patients under general anesthesia. CTT uses a flexible catheter to deliver targeted microwave energy combined with a unique cooling mechanism that protects healthy urethral tissue and enhances patient comfort to provide safe, effective, lasting relief from BPH voiding symptoms by the thermal ablation of hyperplastic prostatic tissue surrounding the urethra. The proprietary Prostiva® RF Therapy System delivers radio frequency energy directly into the prostate through the use of insulated electrodes deployed from a transurethral scope, ablating targeted prostatic tissue under the direct visualization of the urologist. These focal ablations reduce constriction of the urethra, thereby relieving BPH voiding symptoms. These two proven technologies have slightly different, yet complementary, patient indications and providing them to our urologist customers enables them to treat a wide range of patients in their office. We believe that these office-based BPH therapies are efficacious, safe and cost-effective solutions for BPH as they have shown results clinically superior to those of medication based treatments and without the complications and side effect profile inherent with surgical procedures.

Our goal is to establish Cooled ThermoTherapy and Prostiva RF Therapy as the preferred therapeutic options considered by urologists for their BPH patients in the earlier stages of disease progression who do not want to take chronic BPH medication or are unhappy with the side effects, costs or results. A urologist can choose between our two therapies based upon clinical criteria specific to the BPH patient's presentation. Our business strategy to achieve this goal is to:

• Educate patients and urologists on the benefits of Cooled ThermoTherapy and Prostiva RF Therapy through the Company's "Think Outside the Pillbox!" and other market development efforts,

• Increase utilization of Cooled ThermoTherapy and Prostiva RF Therapy by urologists who already have access to a Cooled ThermoTherapy and/or Prostiva RF Therapy system,

• Increase the number of urologists who utilize one or both of our therapy treatment options for their patients,

• Continue to partner with our European distributors to support the customers outside the United States, and

• Pursue other technologies to add to our portfolio that fit our brand, distribution channels and clinical standards through acquisition or other partnering structures.

During the second quarter of fiscal year 2012 we initiated sales of the Prostiva RF Therapy system in Europe by entering into supply agreements with distributors in targeted countries. Total international Prostiva sales for the first quarter of fiscal year 2013 were $138,000.

We believe that third-party reimbursement is essential to the continued adoption of Cooled ThermoTherapy and Prostiva RF Therapy, and that clinical efficacy, overall cost-effectiveness and physician advocacy will be keys to maintaining such reimbursement. We estimate that 70% to 80% of patients who receive Cooled ThermoTherapy and Prostiva RF Therapy treatment in the United States are eligible for Medicare coverage. The remaining patients are covered by either private insurers, including traditional indemnity health insurers and managed care organizations, or are private paying patients. As a result, Medicare reimbursement is particularly critical for widespread and ongoing market adoption of Cooled ThermoTherapy and Prostiva RF Therapy in the United States.

Each calendar year the Medicare reimbursement rates for all procedures, including Cooled ThermoTherapy and Prostiva RF Therapy, are determined by the Centers for Medicare and Medicaid Services (CMS). The Medicare reimbursement rate for physicians varies depending on the procedure type, site of service, wage indexes and geographic location. The national average reimbursement rate is the fixed rate for the year without any geographic adjustments, but does vary based on site of service. Cooled ThermoTherapy and Prostiva RF Therapy can be performed in the urologist's office, an ambulatory surgery center (ASC), or a hospital as an outpatient procedure.

The reimbursement rate is determined by the annual Medicare Physician Fee Schedule, as well as congressional actions to address the Sustainable Growth Rate (SGR) formula that affects Medicare reimbursement for all physicians. The national average reimbursement in the physician office setting for 2012 is currently $2,159 for Cooled ThermoTherapy and $2,084 for Prostiva RF Therapy.

CMS requested a valuation survey of over 70 procedural codes by various physician specialties. CMS uses this valuation survey to determine the need for an increase or a decrease to the codes under review. One of the three codes in urology for review is CPT 53850, the code for our Cooled ThermoTherapy technology. We have actively continued our strategy to support reimbursement for CTT given the compelling data supporting the safety, clinical efficacy and cost effectiveness of this treatment option. The CMS published their final rule in November 2012 for implementation, at the earliest, during calendar year 2013. The results of the final rule resulted in an average reimbursement rate in the physician office setting for calendar year 2013 of $2,125 for Cooled ThermoTherapy and $1,953 for Prostiva RF Therapy. These reimbursement rates assume the government acts to keep the SGR from taking effect.

Cooled ThermoTherapy and Prostiva RF Therapy procedures are also reimbursed when performed in an ASC or a hospital outpatient setting, but these are a small portion of our business and the CMS changes to these rates will not have a material effect on our financial performance.

Private insurance companies and HMOs make their own determinations regarding coverage and reimbursement based upon "usual and customary" fees. To date, we have received coverage and reimbursement from private insurance companies and HMOs throughout the United States. We intend to continue our efforts to maintain coverage and reimbursement across the United States. There can be no assurance that reimbursement determinations for either Cooled ThermoTherapy or Prostiva RF Therapy from these payers for amounts reimbursed to urologists to perform these procedures will be sufficient to compensate urologists for use of Urologix' product and service offerings.

As a result of recently enacted Federal health care reform legislation, substantial changes are anticipated in the United States health care system. Such legislation includes numerous provisions affecting the delivery of health care services, the financing of health care costs, reimbursement of health care providers and the legal obligations of health insurers, providers and employers. These provisions are currently slated to take effect at specified times over the next decade. The Federal health care reform legislation did not directly affect our fiscal year 2012 financial statements. However, beginning in January 2013, the legislation imposes significant new taxes on medical device makers in the form of a 2.3% excise tax on all U.S. medical device sales. This significant increase in the tax burden on our industry could have a material, negative impact on our results of operations and our cash flows.

Internationally, reimbursement approvals for the Cooled ThermoTherapy and Prostiva procedures are awarded on an individual-country basis.

We will continue to fund product development efforts and clinical research to improve and support our products and therapies. These investments are intended to improve our product offerings and expand the clinical evidence supporting each of our therapies for BPH: Cooled ThermoTherapy and Prostiva RF Therapy. We continue to highlight our products' published five-year durability and cost effectiveness data, as well as the ability of urologists using our systems to customize each treatment for each patient.

We have incurred net losses of $1,069,000 for the three-months ended September 30, 2012 and $4,695,000 and $3,733,000 in the fiscal years ended June 30, 2012 and 2011, respectively. In addition, the Company has accumulated aggregate net losses from the inception of business through September 30, 2012 of $115,795,000. During the first quarter of fiscal 2012, the Company entered into a license agreement with Medtronic for the Prostiva RF Therapy System. The Company paid Medtronic $500,000 on September 6, 2011 for half of the $1,000,000 initial license fee, with the remaining $500,000 payable on September 6, 2012. The Company did not pay the second half of the initial licensing fee pending continuing discussions with Medtronic. This payable is included in the deferred acquisition payment liability as of September 30, 2012. As part of the licensing agreement, royalty payments for Prostiva products are paid one year in arrears based on the contract year. In addition, inventory payments were deferred on both inventory transferred upon the close of the agreement and on shipments of products purchased subsequent to the agreement. The royalty payment due on October 6, 2012 and deferred payments on inventory transferred as part of the acquisition have also not been paid because of the continuing discussions with Medtronic and are included in the deferred acquisition payment liability as of September 30, 2012. The Company does not deem the payments owed Medtronic to be in default as discussions are ongoing with Medtronic. Deferred payments on inventory purchased subsequent to the close of the transaction through September 30, 2012 are included in accounts payable and approximate $3.5 million.

During the quarter the Company completed a follow-on offering in which we sold 5,980,000 shares of common stock at a price of $0.75 per share which contributed approximately $3.9 million of net proceeds after deducting underwriting discounts and commissions and other expenses payable by the Company. However, as a result of the Company's history of operating losses and negative cash flows from operations, and the licensing fee, royalties and inventory payments related to the Prostiva acquisition, there is substantial doubt about our ability to continue as a going concern. Our cash, cash generated from operations, if any, and available borrowings under our agreement with Silicon Valley Bank, may not be sufficient to sustain day-to-day operations for the next 12 months, particularly if product sales do not generate revenues in the amounts currently anticipated, if our operating costs are greater than anticipated or greater than our business can support, or if our planned cost reduction is not effective. Our ability to continue as a going concern is dependent upon improving our liquidity.

Our financial statements do not include any adjustments related to the recoverability and classification of recorded asset amounts or the amounts and classification of liabilities that may be necessary as a result of this uncertainty.

As stated in our press release of November 14, 2012, we expect revenues in fiscal year 2013 to be in the range of $16 to $17 million.

Critical Accounting Policies:

A description of our critical accounting policies was provided in the Management's Discussion and Analysis of Financial Condition and Results of Operations section of our Annual Report on Form 10-K for the year ended June 30, 2012. At September 30, 2012, our critical accounting policies and estimates continue to include revenue recognition, inventories, valuation of long-lived assets and goodwill, income taxes, and stock-based compensation.

RESULTS OF OPERATIONS

Net Sales

Net sales for the three-months ended September 30, 2012 were $4.0 million, compared to $3.1 million during the same period of the prior fiscal year. The $828,000, or 26 percent, increase in net sales for the comparable three -months ended September 30, 2012 and 2011 are a result of the impact of a full fiscal quarter of sales from the Prostiva product line acquired from Medtronic on September 6, 2011. This increase was partially offset by a decline of Cooled ThermoTherapy sales as a result of a decrease in procedure volumes.

Cost of Goods Sold and Gross Profit

Cost of goods sold includes raw materials, labor, overhead, and royalties incurred in connection with the production of our Cooled ThermoTherapy system control units and single-use treatment catheters, amortization related to developed technologies, costs associated with the delivery of our Urologix mobile service, as well as costs for the newly acquired Prostiva products. Cost of goods sold for the three-months ended September 30, 2012 increased $227,000, or 13 percent, to $2.0 million, from $1.7 million for the three-month period ended September 30, 2011. The increase in costs of goods sold for the three-months ended September 30, 2012 is primarily a result of the higher sales with the benefit of the Prostiva revenue mentioned above. This increase was partially offset by better absorption of manufacturing expenses recorded in the first quarter of fiscal 2013 as a result of increased production compared with the prior year.

Gross profit as a percentage of sales increased to 51 percent for the three-months ended September 30, 2012 from 45 percent for the three-months ended September 30, 2011. The increase in gross margin rate for the three-months ended September 30, 2012 is due to the increase in production mentioned above.

Sales and Marketing

Sales and marketing expense of $1.7 million for the first quarter of fiscal 2013 increased $352,000, or 26 percent, when compared to sales and marketing expense of $1.4 million in the same period of fiscal 2012. The increase in sales and marketing expense for the three-months ended September 30, 2012 is largely due to increased wages and benefits, including commissions of $212,000 as a result of increased sales and the expansion of the sales force from the Prostiva acquisition. In addition, marketing expense for the quarter, mainly related to our patient education campaign, increased by approximately $206,000 year-over-year.

General and Administrative

General and administrative expense decreased $142,000, or 16 percent, to $738,000 for the three-month period ended September 30, 2012 compared to $880,000 for the three-month period ended September 30, 2011. The decrease in general and administrative expense is mainly a result of a $100,000 decrease in one-time legal and audit fees related to the Prostiva acquisition, as well as a $32,000 decrease in consulting and professional fees.

Research and Development

Research and development expense, which includes expenditures for product development, regulatory compliance and clinical studies, increased to $615,000 for the three-months ended September 30, 2012, from $481,000 in the same respective period of the prior fiscal year. The increase in expense of $134,000, or 28 percent, is primarily due to expenses associated with the Prostiva acquisition including the Medtronic transition services fees of $90,000.

Change in Value of Acquisition Consideration

The change in the value of acquisition consideration of $154,000 for the three-month period ended September 30, 2012 represents the net effect of a reduction in fair value of contingent consideration of $380,000, partially offset by an increase of $226,000 in non-contingent consideration. This change is due to an increase in the projected time it will take the Company to reach the cumulative $10 million of royalty and license fees owed on the Prostiva acquisition, which increased the number of years subject to minimum royalty payments and reduced the projected royalty payments in excess of contractual minimums in earlier years.

Amortization of Identifiable Intangible Assets

Amortization of identifiable intangible assets was approximately $26,000 for the three-month period ended September 30, 2012 compared to $12,000 in the prior fiscal year period. The increase in the amortization expense of $14,000 is a result of a full quarter of amortization expense on the intangible assets acquired as part of the Prostiva acquisition, compared to one month of amortization expense on these assets in the prior year period as the assets were acquired on September 6, 2011.

Net Interest Expense

Net interest expense increased $67,000, to $123,000 for the three-months ended September 30, 2012 from $56,000 for the same period of the prior fiscal year. Interest expense is a result of the non-cash interest accretion on the Prostiva deferred acquisition payments. The increase in interest expense is due to Prostiva not being acquired until September 6, 2011.

Provision for Income Taxes

We recognized income tax expense of $16,000 for the three-months ended September 30, 2012, compared to an income tax expense of $5,000 for the comparable prior year fiscal period. The tax expense in the three-months ended September 30, 2012 consists of $11,000 of deferred tax expense recorded on the amortization for tax purposes of indefinite-lived goodwill intangibles acquired in the Prostiva acquisition, as well as $5,000 for state taxes. The tax expense in the three-month period ended September 30, 2011 relates only to state taxes.

LIQUIDITY AND CAPITAL RESOURCES

We have financed our operations since inception through sales of equity securities, including a follow-on offering completed during the first quarter of fiscal year 2013 and, to a lesser extent, sales of our Cooled ThermoTherapy products and, beginning September 6, 2011, sales of the Prostiva RF Therapy System product. As of September 30, 2012, we had total cash and cash equivalents of $5.3 million.

During the first quarter of fiscal 2012, the Company entered into a license agreement with Medtronic for the Prostiva RF Therapy System. The Company paid Medtronic $500,000 on September 6, 2011 for half of the $1,000,000 initial license fee, with the remaining $500,000 payable on September 6, 2012. The Company did not pay the second half of the initial licensing fee pending continuing discussions with Medtronic. This payable is included in the deferred acquisition payment liability as of September 30, 2012. As part of the licensing agreement, royalty payments for Prostiva products are paid one year in arrears based on the contract year. In addition, inventory payments were deferred on both inventory transferred upon the close of the agreement and on shipments of products purchased subsequent to the agreement. The royalty payment due on October 6, 2012 and deferred payments on inventory transferred as part of the acquisition have also not been paid because of the continuing discussions with Medtronic and are included in the deferred acquisition payment liability as of September 30, 2012. The Company does not deem the payments owed Medtronic to be in default as discussions are ongoing with Medtronic. Deferred payments on inventory purchased subsequent to the close of the transaction through September 30, 2012 are included in accounts payable and approximate $3.5 million.

During the first quarter of fiscal year 2013 the Company completed a follow-on offering which contributed approximately $3.9 million of net proceeds. However, as a result of the Company's history of operating losses and negative cash flows from operations, and the licensing fee, royalties and inventory payments related to the Prostiva acquisition, there is substantial doubt about our ability to continue as a going concern. The Company's cash and cash equivalents may not be sufficient to sustain day-to-day operations for the next 12 months and the Company's ability to continue as a going concern is dependent upon our ability to generate positive cash flows from our business, have available borrowing under our line of credit with Silicon Valley Bank entered into on January 11, 2012 and our ability to aggressively manage our expenses, including those associated with our acquisition of the Prostiva product line from Medtronic. The line of credit allows borrowing by the Company of up to the lesser of $2.0 million or the defined borrowing base consisting of 80% of eligible accounts receivable. As of September 30, 2012 the Company has not borrowed against this facility. As part of our efforts to align our expenses with our revenue, management is in the process of implementing a cost reduction plan which calls for cuts in planned spending and expense in nearly all departments. There is no assurance that our cash, cash generated from operations, if any, and available borrowing under our agreement with Silicon Valley Bank will be sufficient to fund our anticipated capital needs and operating expenses, particularly if product sales do not generate revenues in the amounts currently anticipated, if our operating costs are greater than anticipated or greater than our business can support, or if our cost reduction plan is not effective.

Our cash needs will depend on our ability to generate revenue from our operations, our ability to manage expenses, and the timing and amount of payments to Medtronic relating to the Prostiva product. If the Company is unable to generate sufficient liquidity to meet its needs and in a timely manner, the Company may be required to further reduce expenses and curtail capital expenditures, sell assets, or suspend or discontinue operations. If the Company is unable to make the required payments to Medtronic with respect to the Prostiva acquisition, it would give Medtronic the right to terminate the Company's rights to sell the Prostiva product.

The first quarter fiscal year 2013 financial statements do not include any adjustments to reflect the possible future effects on the recoverability and classification of assets or the amounts and classifications of liabilities that may result should the Company be unable to continue as a going concern.

During the three-months ended September 30, 2012, we used $414,000 of cash for operating activities. The net loss of $1.1 million included non-cash charges of $172,000 from depreciation and amortization expense, $58,000 from stock-based compensation expense and $170,000 of accreted interest expense, which was partially offset by a gain of $154,000 due to the change in the fair value of the acquisition consideration. Changes in operating items resulted in the generation of $410,000 of operating cash flow for the period as a result of higher accounts payable of $1.2 million, partially offset by higher inventories of $624,000. The increase in accounts payable is the result of the deferral of payments for approximately $3.5 million of Prostiva product purchased since the date of acquisition on 270-day terms negotiated as part of the licensing agreement with Medtronic. The increase in inventories is the result of Prostiva product purchased from Medtronic as previously mentioned, as well as the decrease in sales.

During the three-months ended September 30, 2012, we used $9,000 for investing activities related to the purchase of property and equipment to support our business operations and investments in intellectual property.

During the three-months ended September 30, 2012, we generated $3.9 million of cash from financing activities. During the first quarter of fiscal year 2013 we sold 5,980,000 shares of common stock at a price of $0.75 per share, resulting in net proceeds of $3.9 million, after deducting underwriting discounts and commissions and other expenses payable by the Company.

We plan to continue offering customers a variety of programs for both evaluation and longer-term use of our Cooled ThermoTherapy system control units and Prostiva RF Therapy System generators and scopes in addition to purchase options. We also will continue to provide physicians and patients with efficient access to our Cooled ThermoTherapy system control units and Prostiva RF Therapy System generators and scopes on a pre-scheduled basis through our mobile service. As of September 30, 2012, our property and equipment, net, included approximately $541,000 of control units, generators and scopes used in evaluation or longer-term use programs and in our Company-owned mobile service.

Off Balance Sheet Arrangements

We do not have any off balance sheet arrangements.

Recently Issued Accounting Standards

Information regarding recently issued accounting pronouncements is included in . . .

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