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CRY > SEC Filings for CRY > Form 10-Q on 29-Oct-2013All Recent SEC Filings

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Form 10-Q for CRYOLIFE INC


29-Oct-2013

Quarterly Report


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

Overview

CryoLife, Inc. ("CryoLife," the "Company," "we," or "us"), incorporated in 1984 in Florida, develops, manufactures, and commercializes medical devices for cardiac and vascular applications and preserves and distributes human tissues for transplantation. CryoLife's surgical sealants and hemostats include BioGlue® Surgical Adhesive ("BioGlue"), BioFoam® Surgical Matrix ("BioFoam"), and PerClot®, an absorbable powdered hemostat, which the Company distributes for Starch Medical, Inc. ("SMI") in the European Community and other select international markets. CryoLife's subsidiary, Cardiogenesis Corporation ("Cardiogenesis"), specializes in the treatment of coronary artery disease using a laser console system and single use, fiber-optic handpieces to treat patients with severe angina. CryoLife and its subsidiary, Hemosphere, Inc. ("Hemosphere"), market the Hemodialysis Reliable Outflow Graft ("HeRO® Graft"), which is a solution for end-stage renal disease in certain hemodialysis patients. The cardiac and vascular human tissues distributed by CryoLife include the CryoValve® SG pulmonary heart valve ("CryoValve SGPV") and the CryoPatch® SG pulmonary cardiac patch tissue ("CryoPatch SG"), both processed using CryoLife's proprietary SynerGraft® technology.

For the quarter ended September 30, 2013 CryoLife reported all-time record quarterly revenues of $36.3 million, largely driven by strong sales of BioGlue, in what is typically a slower sales period for the Company's surgical sealants. The Company's BioGlue, PerClot, and revascularization technologies product lines and vascular preservation services all had the highest revenues recorded by the Company during a third quarter. The Company's cardiac preservation services reported a quarterly all-time record, reaching $8.6 million for the first time. The Company's HeRO Graft product line showed a small decrease in revenues during the quarter both in comparison to the third quarter of 2012 and the second quarter of 2013. The Company generated $7.3 million in operating cash during the quarter for a total of $11.3 million in operating cash generated in the first nine months of 2013.

In September 2013 the Company hosted its first Aortic Valve and Root "Boot Camp" training session. This training was attended by residents from official cardiothoracic surgery training programs and focused on aortic root anatomy, aortic valve and root, annulus enlargement, and myectomy; aortic repair and valve-sparing; aortic root replacement; and pulmonary autograft replacement, commonly known as the Ross Procedure.

See the "Results of Operations" section below for additional analysis of the nine months ended September 30, 2013.

Recent Events

C.R. Bard's Acquisition of Medafor

On October 1, 2013 C.R. Bard, Inc. completed its previously announced acquisition of the outstanding shares of Medafor, Inc. ("Medafor") common stock. The Company received an initial payment of approximately $15.4 million for its 2.4 million shares of Medafor common stock and will record an initial gain of approximately $12.7 million on the sale in the fourth quarter of 2013. The Company could receive additional payments totaling up to an additional $8.4 million upon the release of funds held in escrow and the satisfaction of certain contingent milestones, measurable through June 2015. The first of these additional payments, which the Company believes could be up to approximately $575,000, if released, would be received in late 2014, although this amount is subject to possible offsets. These payments will be recorded as an additional gain when and if received by the Company.

Regulatory Activity

On January 30, 2013 CryoLife received a warning letter ("Warning Letter") dated January 29, 2013 from the U.S. Food and Drug Administration ("FDA"). The Warning Letter followed a Form 483, Notice of Inspectional Observations from the FDA ("Form 483"), related to the Company's processing, preservation, and distribution of human tissue and the manufacture of medical devices. The Form 483 followed a routine quality system inspection of the Company's facilities by the FDA during the period September 17, 2012 to October 16, 2012. The Warning Letter relates to certain observations from the Form 483 that the FDA believes were either inadequately addressed by the Company's responses or for which the FDA required further information to fully assess the Company's corrective actions. The Company responded to the FDA's requests and implemented corrective actions. During the second quarter of 2013 the Company received verbal communication from the FDA indicating that these corrective actions appear satisfactory in addressing the issues raised in the Warning Letter; however, the FDA will need to conduct an inspection to verify these corrective actions. CryoLife believes that this inspection may occur in the fourth quarter of 2013 or in 2014. The Company believes that these corrective actions have adequately addressed the FDA's notice of violations contained in the Warning Letter; however, it is possible that the Company's actions ultimately may not be satisfactory to the FDA. The


Company is awaiting re-inspection by the FDA. The Company believes that the Warning Letter and its actions regarding the Warning Letter and Form 483 will not have a material effect on the Company. However, it is possible that further actions the Company may be required to take in response to the Form 483 and Warning Letter could materially, adversely affect the availability of the Company's tissues and products and cost structure, which could affect the Company's revenues, financial condition, profitability, or cash flows.

Following the receipt of the Warning Letter, CryoLife received a letter from the Human Tissue Authority ("HTA") in London, U.K., on March 28, 2013, which governs the distribution of tissues by the Company's subsidiary, CryoLife Europa, Ltd. ("Europa"), into markets in Europe. The letter temporarily suspended Europa's license to import human tissue, due to concerns the HTA had related to the FDA Warning Letter, and directed Europa to issue a recall for tissues previously distributed which have not been implanted. The HTA subsequently issued a variance to allow Europa to continue to import tissue into Europe under certain circumstances for critically ill patients; however, this variance could be revoked at any time without further warning. In August the HTA reinstated Europa's license but placed certain conditions on the processing of tissue, which Europa has appealed. If the HTA does not reverse its decision related to these processing conditions, the Company may be unable to ship tissues into Europe. The suspension and subsequent activity has decreased and may continue to decrease European preservation services revenues, which totaled $2.3 million in 2012 and $1.1 million in the nine months ended September 30, 2013, $444,000 of which was recorded prior to the HTA suspension, and were primarily related to the shipment of cardiac tissues. However, due to the low fees and high costs of distributing tissues into Europe, CryoLife does not believe that this suspension, including the related recall expenses, will have a material, adverse effect on the Company's financial condition, profitability, or cash flows.

On May 23, 2013 CryoLife received a Form 483 related to the Company's subsidiary Cardiogenesis ("Cardiogenesis Form 483"). The Cardiogenesis Form 483 followed a quality system inspection of the Company's facilities by the FDA in May 2013. The Cardiogenesis Form 483 contains certain observations including observations concerning labeling, complaint handling, and field actions. The Company has responded to the FDA's requests and has implemented changes that it believes will address the FDA's observations; however, it is possible that the Company may not be able to do so in a manner satisfactory to the FDA. The Company believes that the Cardiogenesis Form 483 will not have a material effect on the Company. However, it is possible that actions the Company may be required to take in response to the Cardiogenesis Form 483 could materially, adversely affect the Company's revascularization technologies revenues, financial condition, profitability, or cash flows. Subsequent to receipt of the Cardiogenesis Form 483, as discussed above, Cardiogenesis received Premarket Approval ("PMA") supplement approval from the FDA for its redesigned Sologrip and PEARL handpieces.

Critical Accounting Policies

A summary of the Company's significant accounting policies is included in Note 1 of the "Notes to Consolidated Financial Statements," contained in the Company's Form 10-K for the year ended December 31, 2012. Management believes that the consistent application of these policies enables the Company to provide users of the financial statements with useful and reliable information about the Company's operating results and financial condition. The summary consolidated financial statements are prepared in accordance with accounting principles generally accepted in the U.S., which require the Company to make estimates and assumptions. The Company did not experience any significant changes during the quarter ended September 30, 2013 in any of its Critical Accounting Policies from those contained in the Company's Form 10-K for the year ended December 31, 2012.

New Accounting Pronouncements

In January 2013 the Company adopted Accounting Standards Update ("ASU"), 2012-02, Intangibles-Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment, which gives entities testing indefinite-lived intangible assets for impairment the option of performing a qualitative assessment before performing the quantitative impairment test as well as the option to bypass the qualitative assessment in any period and proceed directly to performing the quantitative impairment test. The adoption of ASU 2012-02 did not have a material effect on the Company's financial condition, profitability, or cash flows.

In February 2013 the Company adopted ASU 2013-02, Comprehensive Income (Topic 220): Reporting of Amounts Reclassified Out of Accumulated Other Comprehensive Income, which requires separate presentation of the components that are reclassified out of accumulated other comprehensive income either on the face of the financial statements or in the notes to the financial statements. This update also requires companies to disclose the income statement line items affected by any significant reclassifications. The adoption of ASU 2013-02 did not have a material effect on the Company's financial disclosures.


Results of Operations

(Tables in thousands)

Revenues



                                                                                  Revenues as a Percentage of
                                            Revenues for the                        Total Revenues for the
                                           Three Months Ended                         Three Months Ended
                                              September 30,                              September 30,

                                        2013                 2012                2013                   2012

Products:
BioGlue and BioFoam                $       14,232       $      12,725                  39%                    38%
PerClot                                       882                 734                   2%                     2%
Revascularization technologies              2,353               2,060                   7%                     6%
HeRO Graft                                  1,366               1,374                   4%                     5%

Total products                             18,833              16,893                  52%                    51%

Preservation services:
Cardiac tissue                              8,572               8,239                  24%                    25%
Vascular tissue                             8,845               8,160                  24%                    24%

Total preservation services                17,417              16,399                  48%                    49%

Other                                           -                 137                   -%                     -%

Total                              $       36,250       $      33,429                 100%                   100%


                                                                                  Revenues as a Percentage of
                                            Revenues for the                        Total Revenues for the
                                            Nine Months Ended                          Nine Months Ended
                                              September 30,                              September 30,

                                        2013                 2012                2013                   2012

Products:
BioGlue and BioFoam                $       43,238       $      39,858                  41%                    40%
PerClot                                     2,686               2,069                   3%                     2%
Revascularization technologies              6,837               6,107                   6%                     6%
HeRO Graft                                  4,063               2,009                   4%                     2%

Total products                             56,824              50,043                  54%                    50%

Preservation services:
Cardiac tissue                             22,035              22,662                  21%                    23%
Vascular tissue                            26,376              25,709                  25%                    26%

Total preservation services                48,411              48,371                  46%                    49%

Other                                          71                 504                   -%                     1%

Total                              $      105,306       $      98,918                 100%                   100%

Revenues increased 8% and 6% for the three and nine months ended September 30, 2013, respectively, as compared to the three and nine months ended September 30, 2012, respectively. A detailed discussion of the changes in product revenues and preservation services revenues for the three and nine months ended September 30, 2013 is presented below.

Products

Revenues from products increased 11% for the three months ended September 30, 2013 as compared to the three months ended September 30, 2012. Revenues from products increased 14% for the nine months ended September 30, 2013 as compared to the nine months ended September 30, 2012. These increases were primarily due to an increase in BioGlue revenues. The increase for the nine months ended September 30, 2013 was also due to the addition of HeRO Graft revenues as a result of the Company's acquisition of Hemosphere in the second quarter of 2012. A detailed discussion of the changes in product revenues for BioGlue and BioFoam; PerClot; revascularization technologies; and HeRO Graft is presented below.


The Company's sales of products through its direct sales force to U.K. hospitals are denominated in British Pounds, and its sales to German, Austrian, and Irish hospitals and certain distributors are denominated in Euros and are, therefore, subject to changes in foreign exchange rates. If the exchange rates between the U.S. Dollar and the British Pound or Euro decline materially in the future, this would have a material, adverse effect on the Company's revenues denominated in these currencies.

BioGlue and BioFoam

Revenues from the sale of surgical sealants, consisting of BioGlue and BioFoam, increased 12% for the three months ended September 30, 2013 as compared to the three months ended September 30, 2012. This increase was primarily due to a 10% increase in the volume of milliliters sold, which increased revenues by 8%, an increase in average sales prices, which increased revenues by 3%, and the favorable effect of foreign currency exchange, which increased revenues less than 1%.

Revenues from the sale of surgical sealants increased 8% for the nine months ended September 30, 2013 as compared to the nine months ended September 30, 2012. This increase was primarily due to an 8% increase in the volume of milliliters sold, which increased revenues by 6%, and by an increase in average sales prices, which increased revenues by 2%.

The increase in sales volume of surgical sealants for the three months ended September 30, 2013 was primarily due to an increase in shipments of BioGlue in certain international markets, and, to a lesser extent, an increase in the Company's domestic markets. The increase in sales volume of surgical sealants for the nine months ended September 30, 2013 was due to an increase in shipments of BioGlue in certain international markets, partially offset by a volume decrease in the Company's domestic markets.

The increase in average sales prices for the three and nine months ended September 30, 2013 was primarily due to list price increases in domestic markets and due to the routine negotiation of pricing contracts with certain customers.

Revenues from shipments to Japan were $1.1 million for both the three months ended September 30, 2013 and 2012, and $4.0 million and $3.4 million for the nine months ended September 30, 2013 and 2012, respectively. Management believes that BioGlue sales will be positively affected by increased shipments to Japan for the full year 2013 as compared to 2012, although this increase will be less than the increase experienced in 2012 over 2011. Management is currently seeking expanded indications for BioGlue in Japan and regulatory approval for BioGlue in China and, if successful, believes this will provide additional international growth opportunities for BioGlue in future years.

Management believes that the decrease in BioGlue shipments in its domestic markets for the nine months ended September 30, 2013 is a result of various factors, including: continued economic pressures on hospitals and the resulting attempts by hospitals to control costs by reducing spending on consumable items such as BioGlue, the efforts of some large competitors in imposing and enforcing contract purchasing requirements for competing non-CryoLife products, and the U.S. market introduction of sealant products with approved indications for use in clinical applications in which BioGlue has been used off-label previously. However, the Company has seen the effect of these factors on its domestic BioGlue shipments slow in recent quarters. In the third quarter of 2013 domestic shipments showed a 2% increase in the volume of milliliters sold over the same quarter in 2012. Management believes that BioGlue sales volume in domestic markets could continue to be affected by the factors discussed above, which may cause a decrease in BioGlue sales volume in future quarters.

Domestic revenues accounted for 58% and 56% of total BioGlue revenues for the three and nine months ended September 30, 2013, respectively, and 60% of total BioGlue revenues for both the three and nine months ended September 30, 2012. BioFoam sales accounted for less than 1% of surgical sealant sales for each of the three and nine months ended September 30, 2013 and 2012. BioFoam is currently approved for sale in certain international markets.

PerClot

Revenues from the sale of PerClot increased 20% for the three months ended September 30, 2013 as compared to the three months ended September 30, 2012. This increase was primarily due to a 29% increase in the volume of grams sold, which increased revenues by 26% and the favorable effect of foreign currency exchange, which increased revenues 2%, partially offset by a decrease in average selling prices, which decreased revenues 8%.

Revenues from the sale of PerClot increased 30% for the nine months ended September 30, 2013 as compared to the nine months ended September 30, 2012. This increase was primarily due to a 36% increase in the volume of grams sold, which increased revenues by 32% and the favorable effect of foreign currency exchange, which increased revenues 1%, partially offset by a decrease in average selling prices, which decreased revenues 3%.


Revenues during these three and nine month periods were for sales in certain international markets, as PerClot is not yet approved for domestic distribution or widespread international distribution. These increases were primarily due to increased sales in the Company's markets in Europe, partially due to growth in both new geographies and new surgical indications.

In June 2013 CryoLife received conditional approval of its investigational device exemption ("IDE") for PerClot from the FDA. IDE approval would allow the Company to begin clinical trials for the purpose of obtaining PMA to distribute PerClot in the U.S. As part of the conditional approval for the PerClot IDE, the Company must make certain revisions to the investigational study protocol, clinical product labeling, and Patient Informed Consent forms. The Company refiled the IDE submission on September 27, 2013. The Company expects to obtain FDA approval to begin enrollment in the pivotal trial late in the fourth quarter of 2013 or in the first quarter of 2014.

Management believes that PerClot revenues will be flat or show a slight decrease in the fourth quarter of 2013 as compared to the fourth quarter of 2012 as the Company's revenues in the fourth quarter of 2012 were favorably affected by a large stocking order from an international distributor. However, management believes that PerClot revenues will increase for the full year of 2013 as compared to the full year of 2012. Continued weak economic conditions and their constraining effect on hospital budgets are expected to drive continued pricing pressures, especially due to the many hemostatic agents currently competing for market share in Europe.

Revascularization Technologies

Revenues from revascularization technologies include revenues related primarily to the sale of handpieces and, in certain periods, revenues from the sale of laser consoles. Revenues from revascularization technologies increased 14% for the three months ended September 30, 2013 as compared to the three months ended September 30, 2012. Revenues from the sale of laser consoles were $379,000 and zero for the three months ended September 30, 2013 and 2012, respectively. Revenues from the sale of handpieces decreased 2% for the three months ended September 30, 2013 as compared to the three months ended September 30, 2012. This decrease was primarily due to an 11% decrease in unit shipments of handpieces, which decreased revenues by 10%, partially offset by an increase in average sales prices, which increased revenues by 8%.

Revenues from revascularization technologies increased 12% for the nine months ended September 30, 2013 as compared to nine months ended September 30, 2012. Revenues from the sale of laser consoles were $462,000 and $279,000 for the nine months ended September 30, 2013 and 2012, respectively. Revenues from the sale of handpieces increased 13% for the nine months ended September 30, 2013 as compared to the nine months ended September 30, 2012. This increase was primarily due to a 5% increase in unit shipments of handpieces, which increased revenues by 5%, and an increase in average sales prices, which increased revenues by 8%.

In June 2013 the FDA approved the Company's new handpiece design, and the Company made the decision to exclusively distribute the new handpiece beginning late in the second quarter of 2013. The decrease in handpiece volume for the three months ended September 30, 2013 was primarily due to delays in receiving sufficient inventory from the Company's third party supplier to meet demand for the new design. The Company has received additional shipments of inventory subsequent to the end of the third quarter and does not anticipate that availability of inventory will affect handpiece sales in the fourth quarter of 2013. The increase in handpiece volume for the nine months ended September 30, 2013 was primarily due to the Company's strategy to focus on increasing procedure volume.

Revascularization technologies revenues for the 2013 and 2012 periods discussed above consisted primarily of handpiece sales. The amount of revenues from console sales can vary significantly from quarter-to-quarter due to the long lead time required to generate sales of capital equipment. Revenues from laser consoles have been affected by the current economic environment, which makes hospitals reluctant to invest in large capital purchases.

HeRO Graft

HeRO Graft revenues for the three months ended September 30, 2013 decreased 1% when compared to the three months ended September 30, 2012. Revenues from HeRO Grafts for the nine months ended September 30, 2013 increased significantly over the corresponding period in 2012 as HeRO Grafts were not marketed by the Company for the full prior year period. The Company began marketing HeRO Grafts following its acquisition of Hemosphere in May 2012. HeRO Graft revenues for the nine months ended September 30, 2013 increased 1% when compared to the combined pre- and post-acquisition revenues for the nine months ended September 30, 2012.

Revenues from HeRO Grafts include revenues related to the sale of vascular grafts, venous outflow components, and accessories, which are generally sold together as a kit. HeRO Grafts are primarily distributed in domestic markets as a solution for end-stage renal disease in certain hemodialysis patients.


As the HeRO Graft implant is currently performed by a relatively small number of surgeons, HeRO Graft revenues are subject to more variability quarter-to-quarter due to the timing of surgical cases. As the population of implanting doctors increases, the Company expects this variability in revenues will decrease.

Preservation Services

Revenues from preservation services increased 6% for the three months ended September 30, 2013 as compared to the three months ended September 30, 2012. Revenues from preservation services for the nine months ended September 30, 2013 were comparable to revenues for the nine months ended September 30, 2012. The increase in revenues for the three month period was primarily due to an increase in vascular tissue service revenues during the period, and, to a lesser extent, due to an increase in cardiac tissue service revenues. A detailed discussion of the changes in cardiac and vascular preservation services revenues is presented below.

Preservation services revenues, particularly revenues for certain high demand tissues, can vary from quarter-to-quarter and year-to-year due to a variety of factors including: quantity and type of incoming tissues, yields of tissue through the preservation process, timing of receipt of donor information, timing of the release of tissues to an implantable status, demand for certain tissue types due to the number and type of procedures being performed, and pressures from competing products or services. The Company currently believes that preservation services revenues for the fourth quarter and full year of 2013 will be comparable to revenues for fourth quarter and full year of 2012; however, if CryoLife is unable to resolve the issues identified by the HTA, preservation services revenues could decrease slightly for the fourth quarter and full year of 2013 as compared to the corresponding periods in 2012. Only 4% of the Company's preservation services revenues in 2012 were from tissues shipped into Europe, and due to the low fees and high costs of distributing tissues into Europe, CryoLife does not believe that the HTA suspension will have a material, . . .

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