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THOR > SEC Filings for THOR > Form 10-Q on 1-Aug-2013All Recent SEC Filings

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Form 10-Q for THORATEC CORP


1-Aug-2013

Quarterly Report


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

Forward-Looking Statements

This Quarterly Report on Form 10-Q includes forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. These statements can be identified by the words "expects," "projects," "hopes," "believes," "intends," "should," "estimate," "will," "would," "may," "anticipates," "plans," "could" and other similar words. Actual results, events or performance could differ materially from these forward-looking statements based on a variety of factors, many of which are beyond our control. Therefore, readers are cautioned not to put undue reliance on these statements. Factors that could cause actual results or conditions to differ from those anticipated by these and other forward-looking statements include those more fully described in the "Risk Factors" section of our 2012 Annual Report on Form 10-K (the "2012 Annual Report") and in other documents we file with the Securities and Exchange Commission ("SEC"). These forward-looking statements speak only as of the date hereof. We are not under any obligation, and we expressly disclaim any obligation, to publicly release any revisions or updates to these forward-looking statements that may be made to reflect events or circumstances after the date hereof, or to reflect the occurrence of unanticipated events.

The following presentation of management's discussion and analysis of our financial condition and results of operations should be read together with our unaudited condensed consolidated financial statements included in this Quarterly Report on Form 10-Q.

OVERVIEW

Continuing Operations-Cardiovascular Business

Thoratec Corporation ("we," "our," "us", or the "Company") is the world leader in mechanical circulatory support with a product portfolio to treat the full range of clinical needs for advanced heart failure patients. We develop, manufacture and market proprietary medical devices used for mechanical circulatory support ("MCS") for the treatment of heart failure ("HF") patients. For chronic circulatory support for HF patients, our primary product lines are our ventricular assist devices ("VADs"): HeartMate II Left Ventricular Assist System ("HeartMate II"), Thoratec Paracorporeal Ventricular Assist Device ("PVAD"), and Thoratec Implantable Ventricular Assist Device ("IVAD"). We refer to HeartMate II as the "HeartMate product line" and PVAD and IVAD collectively as the "Thoratec product line." For acute circulatory support, our product lines are CentriMag Acute Circulatory System ("CentriMag") and for pediatric patients PediMag/PediVAS Acute Circulatory System ("PediMag/PediVAS"). HeartMate II, PVAD, IVAD, CentriMag and PediMag/PediVAS are approved by the U.S. Food and Drug Administration ("FDA"), and have received Conformité Européene ("CE") Mark approval in Europe.

MCS devices supplement the pumping function of the heart in patients with HF. In most cases, a cannula connects the left ventricle of the heart to a blood pump. Blood flows from the left ventricle to the pump chamber via the cannula, powered by an electric or air driven mechanism that drives the blood through another cannula into the aorta. From the aorta, the blood then circulates throughout the body. Mechanical or tissue valves enable unidirectional flow in some devices. Currently, the power source remains outside the body for all FDA-approved MCS devices. Some of our devices can also provide support for the right side of the heart.

On June 30, 2013 (the first day of our third quarter of fiscal 2013), we entered into an Asset Purchase Agreement with Terumo Corporation ("Terumo") and completed the acquisition of certain assets and assumed certain liabilities related to the DuraHeart II Left Ventricular Assist System ("DuraHeart II") product line previously under development by Terumo. We paid at the closing $13.0 million in cash, and agreed to pay future milestone payments of up to $43.5 million, based on regulatory approvals and product sales.

HeartMate II

HeartMate II is an implantable, electrically powered, continuous flow, left ventricular assist device ("LVAD") consisting of a rotary blood pump designed to provide intermediate and long-term MCS. HeartMate II is designed to improve survival and quality of life for a broad range of advanced HF patients. Significantly smaller than previous ventricular assist devices and with only one moving part, the HeartMate II is simpler and designed to operate more quietly than pulsatile devices.

HeartMate II received FDA approval in April 2008 for bridge-to-transplantation ("BTT") and received FDA approval for use in HF patients who are not eligible for heart transplantation ("Destination Therapy" or "DT") in January 2010. In November 2005, HeartMate II received CE Mark approval. The HeartMate II is the most widely used LVAD.


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CentriMag

CentriMag is an extracorporeal full-flow acute surgical support platform incorporating a polycarbonate pump, based on magnetically levitated bearingless motor technology. CentriMag is cleared by the FDA for use up to six hours in patients requiring short-term extracorporeal circulatory support during cardiac surgery. Additionally, CentriMag is approved under an FDA humanitarian device exemption ("HDE") to be used as a right ventricular assist device for periods of support up to 30 days in patients in cardiogenic shock due to acute right ventricular failure. We have an ongoing study to evaluate the effectiveness of the CentriMag for periods of support for up to 30 days. CentriMag has CE Mark approval to provide support for up to 30 days for both cardiac and respiratory failure.

PediMag/PediVAS

PediMag and PediVAS are identical, extracorporeal full-flow acute surgical support platforms incorporating a polycarbonate pump, based on magnetically levitated bearingless motor technology, designed to provide acute surgical support to pediatric patients. The brand names differ according to indication for use, duration of support, and regulatory approval. PediMag is cleared by the FDA for use in conjunction with the CentriMag console and motor, for support periods of up to six hours. Outside the U.S., the device is branded as PediVAS. This device has CE Mark approval to provide support for up to 30 days for both cardiac and respiratory failure.

PVAD

PVAD is an external, pulsatile VAD, FDA approved for BTT, including home discharge, and post-cardiotomy myocardial recovery and provides left, right, and biventricular MCS. PVAD is a paracorporeal device that is less invasive than implantable VADs since only the cannula is implanted. The paracorporeal nature of PVAD provides several benefits including shorter implantation times (approximately two hours) and the ability to use the device in smaller patients.

A pneumatic power source drives PVAD. It is designed for short-to-intermediate duration for post-cardiotomy myocardial recovery following cardiac surgery and BTT. PVAD and IVAD, described below, offer left, right or biventricular support for use for BTT. This characteristic is significant because the vast majority of BTT patients treated with PVAD and IVAD require right as well as left-side ventricular assistance. PVAD and IVAD are also the only devices approved for both BTT and recovery following cardiac surgery. PVAD incorporates our proprietary biomaterial, Thoralon, which has excellent tissue and blood compatibility and is resistant to blood clots.

PVAD received FDA approval for BTT in December 1995 and for recovery (post-cardiotomy) in May 1998. In June 1998, PVAD received CE Mark approval, allowing for its commercial sale in Europe.

IVAD

IVAD is an implantable, pulsatile VAD, FDA approved for BTT, including home discharge, and post-cardiotomy myocardial recovery and provides left, right or biventricular MCS. IVAD maintains the same blood flow path, valves and blood pumping mechanism as PVAD, but has an outer housing made of a titanium alloy that makes it suitable for implantation.

IVAD received FDA approval for BTT and recovery (post-cardiotomy) in August 2004. In June 2003, the IVAD received CE Mark approval, allowing for its commercial sale in Europe.

Critical Accounting Policies and Estimates

Our unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. Preparation of these statements requires management to make judgments and estimates. Some accounting policies have a significant impact on amounts reported in these financial statements. A summary of significant accounting policies and a description of accounting policies that are considered critical may be found in our Annual Report on Form 10-K for the fiscal year ended December 29, 2012, in the Notes to the Consolidated Financial Statements (Note
1) and the Critical Accounting Policies and Estimates section in Management's Discussion and Analysis of Financial Condition and Results of Operations. There have been no changes in these significant accounting policies during the six months ended June 29, 2013.


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Results of Operations



The following table sets forth selected unaudited condensed consolidated
statements of operations data for the periods indicated and as a percentage of
total product sales:



                           Three Months Ended                       Six Months Ended
                    June 29, 2013       June 30, 2012       June 29, 2013       June 30, 2012
                                   (in thousands, except for percentage data)
Product sales     $ 130,479   100.0 % $ 118,659   100.0 % $ 248,204   100.0 % $ 245,428   100.0 %
Cost of product
sales                41,000    31.4      36,022    30.4      76,073    30.6      74,909    30.5
Gross profit         89,479    68.6      82,637    69.6     172,131    69.4     170,519    69.5
Operating
expenses:
Selling,
general and
administrative       34,924    26.8      32,013    27.0      69,669    28.1      63,214    25.8
Research and
development          21,506    16.5      19,808    16.6      46,019    18.5      39,504    16.0
Total operating
expenses             56,430    43.3      51,821    43.6     115,688    46.6     102,718    41.8
Income from
operations           33,049    25.3      30,816    26.0      56,443    22.8      67,801    27.7
Other income
and (expense):
Interest
expense and
other                     -       -           -       -          (4 )     -          (3 )     -
Interest income
and other               213     0.2          88     0.1       1,330     0.5         822     0.3
Income before
income taxes         33,262    25.5      30,904    26.1      57,769    23.3      68,620    28.0
Income tax
expense             (10,073 )  (7.7 )   (10,096 )  (8.5 )   (16,410 )  (6.6 )   (22,326 )  (9.1 )
Net income        $  23,189    17.8   $  20,808    17.6   $  41,359    16.7   $  46,294    18.9

Three and six months ended June 29, 2013 and June 30, 2012

Product Sales



Product sales consisted of the following:



                             Three Months Ended                  Six Months Ended
                      June 29,    June 30,               June 29,    June 30,
                        2013        2012      % Change     2013        2012      % Change
                         (in thousands)                     (in thousands)
Total product sales   $ 130,479   $ 118,659       10.0 % $ 248,204   $ 245,428        1.1 %

In the second quarter of 2013 as compared to the second quarter of 2012, product sales increased by $11.8 million or 10%, driven by strong sales volume of our HeartMate II and CentriMag products. HeartMate II contributed approximately $9.4 million to the increase, driven by unit growth of 9% due primarily to the expansion of our international business, which included the commercial launch in Japan. The CentriMag and PediMag product line contributed approximately $3.5 million to the increase. The increase was partially offset by a decline of approximately $1.1 million in sales of the Thoratec product line. From a regional perspective, the U.S. sales contributed approximately $1.6 million to the increase, while international sales contributed approximately $10.2 million.

In the first six months of 2013 as compared to the first six months of 2012, product sales increased by $2.8 million or 1.1%, driven by strong sales volume of our CentriMag products. HeartMate II contributed approximately $0.6 million to the increase, while the CentriMag and PediMag product line contributed approximately $5.2 million to the increase. The increase was partially offset by a decline of approximately $3.0 million in sales of the Thoratec product line. From a regional perspective, U.S. sales declined by approximately $9.9 million, while international sales increased by approximately $12.7 million. HeartMate II growth in the United States through the first six months of 2013 remained pressured by the recent launch of a competitive device, a dynamic which we anticipate will continue to affect our results.

There were 167 HeartMate II centers in the U.S. throughout the second quarter of 2013. Outside of the U.S., we added 11 centers during the second quarter of 2013, bringing the international total to 175 centers.


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Sales originating outside of the U.S. and U.S. export sales collectively accounted for approximately 24% and 18% of our total product sales for each of the second quarter of 2013 and the second quarter of 2012, respectively, and approximately 23% and 18% of our total product sales for each of the first six months of 2013 and the first six months of 2012, respectively.

Gross Profit



Gross profit and gross margin were as follows:



                       Three Months Ended        Six Months Ended
                      June 29,     June 30,    June 29,    June 30,
                        2013         2012        2013        2012
                           (in thousands, except percentages)
Total gross profit   $    89,479   $  82,637   $ 172,131   $ 170,519
Total gross margin          68.6 %      69.6 %      69.4 %      69.5 %

In the second quarter of 2013 as compared to the second quarter of 2012, gross margin decreased by one percentage point, while during the first six months of 2013 as compared to the first six months of 2012, gross margin decreased by one tenth percentage point. This decrease was primarily due to manufacturing variances and the impact of the U.S. medical device excise tax, which we recorded for the first time in 2013, offset in part by lower intangible amortization expenses and the absence of the Levitronix Medical fair market value inventory adjustments in 2013.

Selling, General and Administrative Expenses



Selling, general and administrative expenses were as follows:



                             Three Months Ended                    Six Months Ended
                           June 29,      June 30,                June 29,     June 30,
                             2013          2012      % Change      2013         2012      % Change
                               (in thousands)                       (in thousands)
Total selling, general
and administrative
expenses                  $    34,924   $   32,013        9.1 % $   69,669   $   63,214       10.2 %

In the second quarter of 2013 as compared to the second quarter of 2012, selling, general and administrative expenses increased by $2.9 million, while in the first six months of 2013 as compared to the first six months of 2012, selling, general and administrative expenses increased by $6.5 million. The increases were primarily due to incremental personnel supporting our market development initiatives and the acquisition related expenses for DuraHeart II, offset by reduced consulting expense and the absence of a charge related to the termination of a distributor in 2012.

Research and Development Expenses



Research and development expenses were as follows:



                             Three Months Ended                    Six Months Ended
                           June 29,      June 30,                June 29,     June 30,
                             2013          2012      % Change      2013         2012      % Change
                               (in thousands)                       (in thousands)
Total research and
development               $    21,506   $   19,808        8.6 % $   46,019   $   39,504       16.5 %

Research and development (R&D) expenses are largely project driven, and fluctuate based on the level of project activity planned and subsequently approved and conducted.

In the second quarter of 2013 as compared to the second quarter of 2012, R&D expenses increased by $1.7 million, while in the first six months of 2013 as compared to the first six months of 2012, R&D expenses increased by $6.5 million. The increases were due to incremental personnel supporting our next generation product development programs, primarily related to HeartMate III, PHP, and the fully implantable system.


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Interest Income and Other



Interest income and other consisted of the following:



                        Three Months Ended                     Six Months Ended
                      June 29,     June 30,                 June 29,      June 30,
                        2013         2012      % Change       2013          2012      % Change
                          (in thousands)                        (in thousands)
Interest income       $     222    $     331      (32.9 )% $       468    $     622      (24.8 )%
Foreign currency,
net                         (40 )       (167 )     76.0 %          296           22    1,245.5 %
Other                        31          (76 )    140.8 %          566          178      218.0 %
Total interest
income and other      $     213    $      88               $     1,330    $     822

The changes in interest income and foreign currency (net) were not significant. The change in other items was due to the mark-to-market value of our deferred compensation plan assets during the current period.

Income Taxes

On January 2, 2013, the U.S. President signed into law The American Taxpayer Relief Act of 2012. This Act extends the research tax credit for two years to December 31, 2013. The extension of the research tax credit is retroactive and includes amounts paid or incurred after December 29, 2011. As a result of the enactment after the Company's 2012 year end, we recognized, in the first quarter of 2013, a benefit of approximately $1.3 million for qualifying amounts incurred in 2012.

Our effective income tax rates for the three months ended June 29, 2013 and June 30, 2012 were 30.3% and 32.7%, respectively. Our effective income tax rates for the six months ended June 29, 2013 and June 30, 2012 were 28.4% and 32.5%, respectively. The decrease is primarily attributable to the 2012 federal research tax credits, which we recognized in the first quarter of 2013 (in the period of enactment), as well as the 2013 federal research tax credits.

Our effective tax rate is calculated based on the statutory tax rates imposed on projected annual pre-tax income or loss in various jurisdictions. Because changes in our forecasted earnings for 2013 can significantly affect our projected annual effective tax rate, our quarterly tax rate could fluctuate significantly depending on our profitability.

Liquidity and Capital Resources

Cash, Cash Equivalents and Investments

Cash and cash equivalents include highly liquid financial instruments that are readily convertible to cash and have maturities of 90 days or less from the date of purchase.

Investments classified as short-term consist of various financial instruments such as municipal bonds, corporate bonds, variable demand notes, commercial paper and certificate of deposit. Bonds with high credit quality with maturities of greater than 90 days when purchased are classified as short-term available-for-sale investments. Investments classified as long-term consist of our investments in auction rate securities.

Following is a summary of our cash, cash equivalents and investments:

                                                June 29, 2013     December 29, 2012
                                                          (in thousands)
Cash and cash equivalents                      $       110,194   $           101,322
Short-term investments                                 150,506               148,426
Long-term investments                                   10,155                10,607
Total cash, cash equivalents and investments   $       270,855   $           260,355

We believe that cash and cash equivalents, short-term available-for-sale investments on hand and expected cash flows from operations will be sufficient to fund our operations, capital requirements, and share repurchase programs for at least the next 12 months.


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Cash Flow Activities



                                                                 June 29, 2013      June 30, 2012
                                                                          (in thousands)
Net cash provided by operating activities                       $        36,097    $        74,566
Net cash (used in) provided by investing activities                     (22,599 )           18,628
Net cash (used in) provided by financing activities                      (4,256 )              376
Effect of exchange rate changes on cash and cash equivalents               (370 )             (292 )
Net increase in cash and cash equivalents                                 8,872             93,278

Cash Provided by Operating Activities

Cash provided by operating activities in the first six months of 2013 was $36.1 million and consisted of net income of $41.4 million, adjustments for non-cash items of $24.1 million, and cash used in working capital of $29.4 million. Adjustments for non-cash items primarily consisted of $13.4 million of stock-based compensation expense and $9.2 million of depreciation and amortization expense, offset in part by $1.4 million for excess tax benefits from stock-based compensation. The decrease in cash from the changes in working capital activities primarily consisted of an increase in inventory of $19.1 million (in part due to the launch of our Pocket Controller this year), offset in part by a decrease in accounts receivable of $2.1 million from higher collections in the first six months of 2013. Decreases to accounts payable and other liabilities totaling $13.3 million also contributed to cash used in operating activities.

Cash provided by operating activities in the first six months of 2012 was $74.6 million and consisted of net income of $46.3 million, adjustments for non-cash items of $19.9 million, and cash provided by working capital of $8.4 million. Adjustments for non-cash items primarily consisted of $10.5 million of stock-based compensation expense and $9.7 million of depreciation and amortization expense, offset by $1.7 million related to deferred income taxes and $1.7 million for excess tax benefits from stock-based compensation. The increase in cash from changes in working capital activities primarily consisted of a decrease in inventory of $7.9 million resulting from lower inventory levels, offset by an increase in accounts receivable of $8.2 million from higher sales in the first six months of 2012. Increases to accounts payable and other liabilities totaling $8.5 million also contributed to cash in operating activities.

Cash Provided by (Used in) Investing Activities

Cash used in investing activities in the first six months of 2013 of $22.6 million was primarily attributable to purchases of available for sale investments of $71.5 million, restricted cash of $13.0 million held in escrow for the anticipated acquisition of the DuraHeart II, as well as capital expenditures of $5.7 million to support our manufacturing facilities and administration growth, which was offset by the maturities and sales of available for sale investments of $67.6 million.

Cash provided by investing activities in the first six months of 2012 of $18.6 million was primarily attributable to the maturities and sales of available for sale investments of $110.1 million, offset in part by purchases of available for sale investments of $87.6 million and capital expenditures of $3.9 million to support our manufacturing facilities and administration growth.

Cash Provided by (Used in) Financing Activities

Cash used in financing activities in the first six months of 2013 of $4.3 million was primarily comprised of $6.9 million to repurchase vested restricted stock units for settlement of income tax withholding liabilities and $4.2 million paid in contingent consideration. This amount was offset in part by $2.9 million of proceeds related to stock option exercises, $2.5 million of proceeds from stock issued under the employee stock purchase plan, and $1.4 million from excess tax benefits for share-based compensation.

Cash provided by financing activities in the first six months of 2012 of $0.4 million was primarily comprised of $3.7 million of proceeds related to stock option exercises, $1.9 million of proceeds from stock issued under the employee stock purchase plan, and $1.7 million from excess tax benefits for share-based compensation. This amount was offset in part by $0.5 million used to repurchase shares of our common stock under the stock repurchase program, $4.9 million used to repurchase vested restricted stock units and awards for settlement of income tax withholding liabilities, and $1.5 million paid in contingent consideration.


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Stock Repurchase Program

On November 26, 2012, our Board of Directors authorized the repurchase of up to $150 million shares of the Company's common stock ("November 2012 program"). As part of the authorization, the Company entered into an Accelerated Share Repurchase (ASR) agreement with an investment bank, under which we agreed to repurchase an aggregate of $75.0 million of our common stock. Under the ASR program, we paid $75.0 million and received an initial delivery of approximately 1.5 million shares, which represented 75% of the ASR program's estimated value at inception. At the maturity of the program in the first quarter of 2013, an additional 0.6 million shares were delivered to the Company. The total value of . . .

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