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LMAT > SEC Filings for LMAT > Form 10-K on 21-Mar-2014All Recent SEC Filings

Show all filings for LEMAITRE VASCULAR INC

Form 10-K for LEMAITRE VASCULAR INC


21-Mar-2014

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

The following discussion should be read in conjunction with our consolidated financial statements and the related notes contained elsewhere in this Annual Report on Form 10-K and in our other Securities and Exchange Commission filings. The following discussion may contain predictions, estimates, and other forward-looking statements that involve a number of risks and uncertainties, including those discussed under "Risk Factors" and elsewhere in this Annual Report on Form 10-K. These risks could cause our actual results to differ materially from any future performance suggested below.

Overview

We are a medical device company that develops, manufactures, and markets medical devices and implants for the treatment of peripheral vascular disease. Our principal product offerings are sold throughout the world, primarily in the United States, the European Union and, to a lesser extent, Asia and the Pacific Rim. We estimate that the annual worldwide market for all peripheral vascular devices approximates $3 to $4 billion, within which our core product lines address roughly $800 million. We have grown our business by using a three-pronged strategy: competing in niche markets, expanding our worldwide direct sales force, and acquiring and developing complementary vascular devices. We have used acquisitions as a primary means of further accessing the larger peripheral vascular device market, and we expect to continue to pursue this strategy in the future. Additionally, we have increased our efforts to expand our vascular device offerings through new product development efforts. We currently manufacture most of our product lines in our Burlington, Massachusetts, headquarters.

Our products are used by vascular surgeons who treat peripheral vascular disease through both open surgical methods and endovascular techniques. In contrast to interventional cardiologists and interventional radiologists, neither of whom are certified to perform open surgical procedures, vascular surgeons can perform both open surgical and minimally invasive endovascular procedures, and are therefore uniquely positioned to provide a wider range of treatment options to patients.

Our principal product lines include the following: valvulotomes, balloon catheters, carotid shunts, biologic vascular patches, radiopaque marking tape, anastomotic clips, remote endarterectomy devices, laparoscopic cholecystectomy devices, vascular grafts, and powered phlebectomy.

To assist us in evaluating our business strategies, we regularly monitor long-term technology trends in the peripheral vascular device market. Additionally, we consider the information obtained from discussions with the medical community in connection with the demand for our products, including potential new product launches. We also use this information to help determine our competitive position in the peripheral vascular device market and our manufacturing capacity requirements.


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Our business opportunities include the following:

the long-term growth of our sales force in North America, Europe and Asia and the Pacific Rim, sometimes in connection with terminations of certain distributor relationships in order to expand our sales presence in new countries;

the addition of complementary products through acquisitions;

the updating of existing products and introduction of new products through research and development;

the introduction of our products in new markets upon obtainment of regulatory approvals in these markets; and

the consolidation of product manufacturing into our facilities in our Burlington, Massachusetts corporate headquarters.

We sell our products primarily through a direct sales force. As of December 31, 2013 our sales force was comprised of 85 sales representatives in North America, the European Union and Japan. We also sell our products in other countries through distributors. Our worldwide headquarters is located in Burlington, Massachusetts. Our international operations are headquartered in Sulzbach, Germany. We also have sales offices located in Tokyo, Japan, Mississauga, Canada, Madrid, Spain, Milan, Italy and Melbourne, Australia. In 2013, approximately 92% of our net sales were generated in markets in which we employ direct sales representatives.

In recent years we have experienced comparatively greater success in product markets characterized by low or limited competition, for example the markets for biologic patches and valvulotome devices. In the biologic patch market, we believe that we have been able to increase market share and increase selling prices. In the valvulotome market, we believe that we have been able to increase selling prices without compromising market share. There can be no assurance that we will not meet resistance to increased selling prices in the future. In contrast, we have experienced comparatively lesser success in highly competitive product markets such as polyester and ePTFE grafts, where we face stronger competition from larger companies with greater resources. While we believe that these challenging market dynamics can be mitigated by our strong relationships with our vascular surgeon customers, there can be no assurance that we will be successful in highly competitive markets.

In recent years we have also experienced comparatively greater success in geographic markets outside of the United States, including Europe and other non-traditional markets for our devices such as China and Saudi Arabia. Sales to these geographies generally include comparatively lower average selling prices, and to the extent that we continue to be successful in these markets, as well as successful at selling our biologic vascular patch device which carries a lower margin, we will likely experience downward pressure on our gross margin.

Because we believe that direct-to-hospital sales engender closer customer relationships, and allow for higher selling prices and gross margins, we periodically enter into transactions with our distributors to transition their sales of our medical devices to our direct sales organization:

In October 2012, we entered into a definitive agreement with Schaublin Medica SA (Schaublin) to terminate its distribution of our products in Switzerland effective January 1, 2013. The agreement required us to pay approximately $0.2 million in exchange for the purchase of their customer list for our products, certain customer contracts, sales and marketing transition services, and minimal inventory.

In December 2012, we entered into a definitive agreement with Trytech Corporation to terminate its distribution of our products in a certain Japanese territory effective as of April 1, 2013. The agreement required us to pay approximately $0.1 million in exchange for the purchase of their customer list for our products, certain customer contracts, sales and marketing transition services, and minimal inventory.

In March 2013, we began shipping directly to Canadian hospitals from our sales office in Toronto, Canada.


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In October 2013, we entered into a definitive agreement with Medistim Norge AS (Medistim) to terminate its distribution of our products in Norway effective January 1, 2014. The agreement required us to pay approximately $0.2 million in exchange for the purchase of their customer list for our products, sales and marketing transition services, and minimal inventory.

In October 2013, we entered into a definitive agreement with Tag Medical Pty Ltd (Tag) to terminate its distribution of our products in Australia effective January 1, 2014. The agreement required us to pay approximately $0.2 million in exchange for the purchase of their customer list for our products, certain customer contracts, sales and marketing transition services, and minimal inventory.

We anticipate that the expansion of our direct sales organization in Norway and Australia will result in increased sales and marketing expenses during 2014.

Our strategy for growing our business includes the acquisition of complementary product lines and companies and occasionally the discontinuance or divestiture of products or activities that are no longer complementary:

In June 2011, we divested our TAArget and UniFit stent grafts to Duke Vascular, Inc. for $0.6 million. In addition, Duke Vascular, Inc. assumed our future obligations for the associated UNITE and ENTRUST clinical trials.

In August 2011, we terminated our distribution of Endologix's aortic stent graft products in Europe in exchange for $1.3 million.

In October 2012, we acquired the manufacturing and distribution rights of the XenoSure biologic vascular patch from Neovasc, Inc. for $4.6 million, having previously been an exclusive distributor of the XenoSure biologic vascular patch since 2008.

In July 2013, we acquired substantially all of the assets of Clinical Instruments International, Inc. (Clinical Instruments), a manufacturer of latex and latex free shunts and catheters, for $1.1 million.

In August 2013, we acquired substantially all of the assets of InaVein, LLC (InaVein), a manufacturer of a varicose veins removal system. The purchase price consisted of $2.5 million plus contingent consideration totaling $1.4 million in 2014 and 2015, dependent on the sales performance of the acquired business and regulatory approval in China.

In addition to relying upon acquisitions to grow our business, we also rely on our product development efforts to bring differentiated technology and next-generation products to market. These efforts have led to the following recent product developments:

In January 2012, we launched the Over-The-Wire LeMaitre Valvulotome.

In April 2013, we launched the MultiTASC device.

In May 2013, we launched the 1.5mm Expandable LeMaitre Valvulotome.

In June 2013, we launched the AlboSure vascular patch.

In addition to our sales growth strategies, we have also executed several operational initiatives designed to consolidate and streamline manufacturing within our Burlington, MA facilities. We expect that these plant consolidations will result in improved control over our production capacity as well as reduced costs over the long-term. Our most recent manufacturing transitions included:

In May 2011, we adopted a reorganization plan that was designed to eliminate redundant costs resulting from our 2010 acquisition of the LifeSpan vascular graft and to improve efficiencies in manufacturing operations. We have completed the transition of LifeSpan vascular graft manufacturing into our existing corporate headquarters in Burlington, Massachusetts.


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In November 2012, we initiated a project to build a third clean room for our newly acquired biologic vascular patch. We expect this transition to our Burlington facility to be complete in the second quarter of 2014. We expect the transition to negatively impact gross margins on our biologic vascular patch in 2014, and to improve our biologic vascular patch gross margins beginning in 2015; however, there can be no assurance that these results will be achieved. Further, the production of the biologic vascular patch is our first experience in manufacturing biological tissues. There can be no assurance that we will not experience delays or additional expenses associated with this transfer.

In January 2014, we initiated a project to transfer the manufacturing of the newly acquired Clinical Instruments devices to our facility in Burlington. We expect the transfer to be complete in the second quarter of 2014; however there can be no assurances that this will be achieved on the expected timetable or that transfer costs won't exceed our expectations. Further, the manufacturing transfer may result in a shortage of Clinical Instruments devices, which could negatively impact sales.

Our execution of these business opportunities may affect the comparability of our financial results from period to period and may cause substantial fluctuations from period to period, as we incur related restructuring and other non-recurring charges, as well as longer term impacts to revenues and operating expenditures. For example, in 2011 we exited the stent graft business, and realized gains of approximately $0.7 million in 2011 and $0.2 million in 2012 in connection with that exit. Separately, we recognized $1.1 million and $1.8 million of restructuring expenses in 2011 and 2010, respectively, related to the Biomateriali plant closure and relocation to Burlington, MA.

Fluctuations in the rate of exchange between the U.S. dollar and foreign currencies, primarily the Euro, affect our financial results. For the year ended December 31, 2013, approximately 34% of our sales were from outside the Americas. We expect that foreign currencies will continue to represent a similarly significant percentage of our sales in the future. Selling, marketing, and administrative costs related to these sales are largely denominated in the same respective currency, thereby partially mitigating our transaction risk exposure. However, most of our foreign sales are denominated in local currency, and if there is an increase in the rate at which a foreign currency is exchanged for U.S. dollars, it will require more of the foreign currency to equal a specified amount of U.S. dollars than before the rate increase. In such cases we will receive less in U.S. dollars than we did before the rate increase went into effect.

Net Sales and Expense Components

The following is a description of the primary components of our net sales and expenses:

Net sales. We derive our net sales from the sale of our products, less discounts and returns. Net sales include the shipping and handling fees paid for by our customers. Most of our sales are generated by our direct sales force and are shipped and billed to hospitals or clinics throughout the world. In countries where we do not have a direct sales force, sales are primarily generated by shipments to distributors who, in turn, sell to hospitals and clinics. In those cases where our products are held on consignment at a hospital or clinic, we generate sales at the time the product is used in surgery rather than at shipment.

Cost of sales. We manufacture nearly all of the products that we sell. Our cost of sales consists primarily of manufacturing personnel, raw materials and components, depreciation of property and equipment, and other allocated manufacturing overhead, as well as freight expense we pay to ship products to customers.

Sales and marketing. Our sales and marketing expense consists primarily of salaries, commissions, stock based compensation, travel and entertainment, attendance at medical society meetings, training programs, advertising and product promotions, direct mail, and other marketing costs.

General and administrative. General and administrative expense consists primarily of executive, finance and human resource expense, stock based compensation, legal and accounting fees, information technology expense, intangible amortization expense, and insurance expense.


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Research and development. Research and development expense includes costs associated with the design, development, testing, enhancement, and regulatory approval of our products, principally salaries, laboratory testing, and supply costs. It also includes costs associated with design and execution of clinical studies, regulatory submissions and costs to register, maintain, and defend our intellectual property, and royalty payments associated with licensed and acquired intellectual property.

Restructuring. Restructuring expense includes costs directly associated with distribution agreement termination expenses, severance and retention costs for terminated employees, factory relocation costs, and other expenses associated with restructuring our operations.

Other income (expense).Other income (expense) primarily includes interest income and expense, investment impairment charges, foreign currency gains (losses), and other miscellaneous gains (losses).

Income tax expense. We are subject to federal and state income taxes for earnings generated in the United States, which include operating losses in certain foreign jurisdictions for certain years depending on tax elections made, and foreign taxes on earnings of our wholly-owned Canadian, German, and Italian subsidiaries. Our consolidated tax expense is affected by the mix of our taxable income (loss) in the United States and foreign subsidiaries, permanent items, discrete items, unrecognized tax benefits, and amortization of goodwill for U.S tax reporting purposes.

Results of Operations

Comparison of the year ended December 31, 2013, to the year ended December 31, 2012

The following tables set forth, for the periods indicated, our results of operations and the change between the specified periods expressed as a percent increase or decrease:

                                                                            Percent
                                    2013         2012        $ Change       change
                                                   ($ in thousands)
        Net sales                 $ 64,549     $ 56,735     $    7,814            14 %
        Net sales by geography:
        Americas                  $ 42,657     $ 38,273     $    4,384            11 %
        International               21,892       18,462          3,430            19 %

        Total                     $ 64,549     $ 56,735     $    7,814            14 %

Net sales. Net sales increased 14% to $64.5 million in 2013 from $56.7 million in 2012. Sales from newly acquired product lines contributed 2.7% to the sales growth.

Net sales increases of $7.8 million in 2013 were primarily driven by increased sales in biologic vascular patches of $2.6 million, valvulotomes of $1.2 million, catheters of $1.3 million, Dacron grafts of $0.6 million, and vessel closure systems of $0.6 million. In addition, sales of newly acquired powered phlebectomy systems were $1.3 million. This sales growth was partially offset by decreased sales of radiopaque tape and non-occlusive modeling catheters. The primary drivers of increased sales were higher average selling prices across all product lines, increases in unit sales, and increased sales of Dacron grafts previously prohibited in certain European countries. Our biologic vascular patches comprised 12% of our revenues in 2013 compared to 9% in 2012 and 5% in 2011.

Direct-to-hospital net sales were 92% of net sales in 2013 compared to 94% in 2012 and was primarily driven by sales of powered phlebectomy systems and vessel closure systems to our China distributors of $1.0 million.


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Net sales by geography. Net sales in the Americas increased $4.4 million to $42.7 million in 2013. The increase was largely the result of higher average selling prices across nearly all product lines, as well as increased sales of biologic vascular patches, powered phlebectomy systems, vascular closure systems, catheters, and shunts. Net sales increases in the Americas were also due to higher Canadian and export sales. These increases were partially offset by a decrease in radiopaque tape of $0.6 million and non-occlusive modeling catheters of $0.1 million. International net sales increased $3.4 million to $21.9 million in 2013. The increase was primarily driven by higher sales of biologic vascular patches of $1.3 million, catheters of $0.9 million, Dacron grafts, valvulotomes, and shunts.

                                                                       Percent
                             2013          2012         $ Change       change
                                             ($ in thousands)
            Gross profit   $ 45,115      $ 40,868      $    4,247            10 %
            Gross margin       69.9 %        72.0 %             *          (2.1 %)

* Not applicable

Gross profit. Gross profit increased $4.2 million to $45.1 million in 2013 from $40.9 million in 2012, while our gross margin decreased 2.1% to 69.9%. The gross margin decrease was largely driven by unfavorable geographic mix, sales to lower margin export markets, increased sales of our lower margin biologic vascular patch, manufacturing start-up costs associated with our biologic vascular patch, and costs associated with newly acquired Clinical Instruments facility. These decreases were partially offset by higher non-recurring Dacron graft inventory write-offs in 2012, higher average selling prices across all product lines, and improved manufacturing efficiencies. The gross profit increase was a result of higher sales.

In November 2012, we acquired the manufacturing and distribution rights of the XenoSure biologic vascular patch, and we expect that the related manufacturing transfer will continue to negatively affect our gross margin in 2014. We expect to realize efficiencies which may improve gross margins on our XenoSure biologic vascular patch beginning in 2015. In addition, we closed our Clinical Instruments facility in March 2014 and are transitioning production to our Burlington facility which we believe will help improve the gross margin beginning in the second quarter of 2014.

                                                                                Percent         2013 as a %         2012 as a %
                                    2013          2012          $ change        change          of Revenue          of Revenue
                                                                         ($ in thousands)
Sales and marketing               $ 22,143      $ 20,811       $    1,332              6 %                34 %                37 %
General and administrative          12,576        10,973            1,603             15 %                19 %                19 %
Research and development             5,243         5,092              151              3 %                 8 %                 9 %
Medical device excise tax              635            -               635                *                 1 %                   *
Gain on divestitures                    -           (248 )            248                *                   *                   *

                                  $ 40,597      $ 36,628       $    3,969             11 %                63 %                65 %

* Not a meaningful percentage.

Sales and marketing. Sales and marketing expenses were $22.1 million in 2013 compared to $20.8 million in 2012, an increase of 6%. As a percentage of net sales, sales and marketing expenses were 34% in 2013, down 3% from the prior year. Selling expenses increased $1.7 million while marketing expenses decreased by $0.4 million. The increase in selling expenses was primarily driven by increased sales personnel compensation of $1.1 million, partially due to additional sales personnel in Switzerland and Canada, and $0.5 million of additional sales meetings and travel costs. Marketing expense decreases were largely driven by a $0.3 million reduction in advertising costs and $0.1 million reduction in trade show expenses, which were partially offset by an increase in compensation expense of $0.2 million. At December 31, 2013, we employed 85 sales representatives worldwide, compared to 81 in the prior year period. We plan to increase the size of our sales force in 2014, related partly to the hiring of additional sales representatives in Australia and Norway, and we expect that selling and marketing expenses will increase commensurately.


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General and administrative. General and administrative expenses increased 15% to $12.6 million in 2013 from $11.0 million in 2012. The increase was largely the result of expenses associated with our newly formed subsidiary in Canada, increased compensation costs of $0.7 million, increased professional services costs of $0.6 million, and increased intangibles amortization of $0.3 million, which were partially offset by decreased employee termination and bad debt expenses. As a percentage of net sales, general and administrative expenses were 19% in both 2013 and 2012. We expect general and administrative expenses to increase in 2014 primarily due to our new subsidiary in Australia.

Research and development. Research and development expenses increased 3% to $5.2 million in 2013 from $5.1 million in 2012. As a percentage of net sales, research and development expenses decreased to 8% in 2013 from 9% in 2012. Product development expenses decreased $0.2 million primarily due to lower product testing costs of $0.3 million which was partially offset by increased product engineer compensation. Clinical and regulatory expenses increased $0.3 million, primarily due to an increase in compensation expenses and regulatory submissions for new products in geographies such as China and Australia. Process engineering expenses increased $0.1 million primarily due to the addition of the TRIVEX product line. Royalty expenses were flat.

Medical device excise tax. Commencing in 2013, we were subject to a medical device excise tax equal to 2.3% of sales within the United States. The medical device excise tax was $0.6 million in 2013.

Restructuring. We did not incur restructuring charges in 2013 and 2012. In February 2014, we committed to a plan intended to improve operational efficiencies, which includes a reduction in force of approximately 10% of our workforce and other cost-cutting measures. The plan was implemented during the first quarter of 2014. We estimate that termination costs will be $0.2 million to $0.4 million. We expect to record the majority of these charges in 2014.

Gain on divestitures. In 2012, we recognized a gain on divestitures of $0.2 million resulting from payments on a promissory note related to the divestiture of our TAArget and UniFit stent graft product lines to Duke Vascular, Inc. in 2011.

Other income (expense). Foreign exchange losses for 2013 were $0.2 million compared to $0.3 million for 2012 and were generally flat other than a one-time exchange loss of $0.2 million as a result of a cumulative translation adjustment recorded at our Biomateriali subsidiary upon the liquidation and dissolution of that legal entity in 2012. Net interest income and other income (expense) decreased by approximately $80,000 primarily related to interest earned in 2012 from the stent graft divestiture promissory note.

Income tax expense. We recorded a provision for taxes of $1.1 million on pre-tax income of $4.3 million in 2013 compared to $1.4 million on pre-tax income of $4.0 million in 2012. The 2013 provision was comprised of Federal tax in the United States of $2.5 million, state taxes of $0.1 million and a net foreign tax benefit of $1.4 million. The 2012 provision was comprised of Federal tax in the United States of $1.4 million, state taxes of $0.1 million and a net foreign benefit of $0.1 million. Our effective tax rate differed from the U.S. statutory tax rate in 2013 principally due to research and development tax credits, release of uncertain tax position reserves due to the expiration of the statute of limitations, effect of foreign taxes, manufacturing deductions, other permanent differences, stock-based compensation, Subpart-F income and state taxes. While it is often difficult to predict the final outcome or timing of the resolution of any particular tax matter, we believe that our tax reserves reflect the probable outcome of known contingencies.

We have assessed the need for a valuation allowance against our deferred tax . . .

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