S-1 1 d39501ds1.htm FORM S-1 Form S-1
Table of Contents

As filed with the Securities and Exchange Commission on October 16, 2015

Registration No. 333-            

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM S-1

REGISTRATION STATEMENT

Under

The Securities Act of 1933

 

 

Ellipse Technologies, Inc.

(Exact name of Registrant as specified in its charter)

 

Delaware   3841   75-3197723

(State or other jurisdiction of

incorporation or organization)

 

(Primary Standard Industrial

Classification Code Number)

 

(I.R.S. Employer

Identification Number)

101 Enterprise

Suite 100

Aliso Viejo, CA 92656

(949) 837-3600

(Address, including zip code, and telephone number, including area code, of Registrant’s principal executive offices)

 

 

Edmund J. Roschak

President and Chief Executive Officer

Ellipse Technologies, Inc.

101 Enterprise

Suite 100

Aliso Viejo, CA 92656

(949) 837-3600

(Name, address, including zip code, and telephone number, including area code, of agent for service)

 

 

 

Copies to:

Cheston J. Larson, Esq.

B. Shayne Kennedy, Esq.

Michael E. Sullivan, Esq.

Latham & Watkins LLP

12670 High Bluff Drive

San Diego, CA 92130

(858) 523-5400

 

Michael A. Hedge, Esq.

David B. Allen, Esq.

K&L Gates LLP

1 Park Plaza

Twelfth Floor

Irvine, CA 92614

(949) 253-0900

Approximate date of commencement of proposed sale to the public: As soon as practicable after this Registration Statement is declared effective.

If any of the securities being registered on this form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box.  ¨

If this form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨                     

If this form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨                     

If this form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering.  ¨                     

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer   ¨      Accelerated filer   ¨
Non-accelerated filer   x      Smaller reporting company   ¨
(Do not check if a smaller reporting company)       

 

 

CALCULATION OF REGISTRATION FEE

 

 

Title of Each Class of Securities to be Registered  

Proposed Maximum

Aggregate
Offering Price(1)

 

Amount of

Registration
Fee(2)

Common Stock, $0.001 par value per share

  $75,000,000   $7,552.50

 

 

(1)  Estimated solely for the purpose of computing the amount of the registration fee pursuant to Rule 457(o) under the Securities Act of 1933, as amended. Includes offering price of shares that the underwriters have the option to purchase.
(2) 

Calculated pursuant to Rule 457(o) based on an estimate of the proposed maximum aggregate offering price.

 

 

The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act of 1933 or until the Registration Statement shall become effective on such date as the Commission, acting pursuant to said Section 8(a), may determine.

 

 

 


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The information in this prospectus is not complete and may be changed. We may not sell these securities until the Securities and Exchange Commission declares our registration statement effective. This prospectus is not an offer to sell these securities and we are not soliciting an offer to buy these securities in any state where the offer or sale is not permitted.

 

Subject to completion, dated October 16, 2015

 

             Shares

 

ELLIPSE TECHNOLOGIES, INC.

LOGO

Common Stock

 

$         per share

 

 

 

 

 

•  Ellipse Technologies, Inc. is offering              shares.

 

•  We anticipate that the initial public offering price will be between $         and $         per share.

 

•  This is our initial public offering and no public market currently exists for our shares.

 

•  Proposed NASDAQ Global Market trading symbol: MGEC.

 

 

 

 

This investment involves risk. See “Risk Factors” beginning on page 12.

We are an “emerging growth company” as defined in the Jumpstart Our Business Startups Act of 2012, and, as such, have elected to comply with certain reduced public company reporting requirements for this prospectus and future filings.

 

 

 

 

     Per Share      Total  

Initial public offering price

   $                    $                          

Underwriting discount(1)

   $         $     

Proceeds, before expenses, to Ellipse Technologies, Inc.

   $         $     

 

 

 

(1) 

See “Underwriting” for additional information regarding underwriting compensation.

We have granted to the underwriters an option to purchase up to              additional shares of common stock from us at the public offering price, less the underwriting discount, for 30 days after the date of this prospectus.

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved the securities described herein or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

The underwriters expect to deliver the shares of common stock to investors on or about                     , 2015.

 

 

Piper Jaffray

William Blair

Canaccord Genuity

 

 

Oppenheimer & Co.

 

The date of this prospectus is                     , 2015.


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LOGO


Table of Contents

TABLE OF CONTENTS

 

     Page  

Prospectus Summary

     1   

Risk Factors

     12   

Special Note Regarding Forward-Looking Statements

     55   

Market and Industry Data

     55   

Use of Proceeds

     56   

Dividend Policy

     57   

Capitalization

     58   

Dilution

     60   

Selected Financial Data

     63   

Management’s Discussion and Analysis of Financial Condition and Results of Operations

     65   

Business

     80   

Management

     112   

Executive and Director Compensation

     118   

Principal Stockholders

     134   

Certain Relationships and Related Person Transactions

     137   

Description of Capital Stock

     139   

Shares Eligible for Future Sale

     144   

Material U.S. Federal Income Tax Consequences to Non-U.S. Holders of Our Common Stock

     147   

Underwriting

     151   

Legal Matters

     160   

Change in Independent Registered Accounting Firm

     160   

Experts

     160   

Where You Can Find Additional Information

     161   

Index to Financial Statements

     F-1   

 

 

We have not, and the underwriters have not, authorized anyone to provide any information or to make any representations other than those contained in this prospectus or in any free writing prospectuses prepared by or on behalf of us or to which we have referred you. We and the underwriters take no responsibility for, and can provide no assurance as to the reliability of, any other information that others may give you. This prospectus is an offer to sell only the shares offered hereby, but only under circumstances and in jurisdictions where it is lawful to do so. The information contained in this prospectus or in any applicable free writing prospectus is current only as of its date, regardless of its time of delivery or any sale of shares of our common stock. Our business, financial condition, results of operations and prospects may have changed since that date.

Until                     , 2015 (25 days after the commencement of this offering), all dealers that buy, sell or trade shares of our common stock, whether or not participating in this offering, may be required to deliver a prospectus. This delivery requirement is in addition to the obligation of dealers to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

We use our registered trademarks, MAGEC and PRECICE, in this prospectus. This prospectus also includes trademarks, trade names and service marks that are the property of other organizations. Solely for convenience, trademarks and trade names referred to in this prospectus appear without the ® and ™ symbols, but those references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights or that the applicable owner will not assert its rights, to these trademarks and trade names.

 

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For investors outside the United States: We have not, and the underwriters have not, done anything that would permit this offering or possession or distribution of this prospectus in any jurisdiction where action for that purpose is required, other than in the United States. Persons outside the United States who come into possession of this prospectus must inform themselves about, and observe any restrictions relating to, the offering of the shares of common stock and the distribution of this prospectus outside the United States.

 

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PROSPECTUS SUMMARY

This summary highlights information contained elsewhere in this prospectus. This summary does not contain all of the information you should consider before investing in our common stock and it is qualified in its entirety by, and should be read in conjunction with, the more detailed information appearing elsewhere in this prospectus. You should read this entire prospectus carefully, especially the section entitled “Risk Factors” and our financial statements and the related notes thereto, before making an investment decision. As used in this prospectus, unless the context otherwise requires, references to “we,” “us,” “our,” “our company” and “Ellipse” refer to Ellipse Technologies, Inc.

Overview

We are a medical technology company focused on revolutionizing orthopedic surgery by developing and marketing a new generation of magnetically adjustable implant systems based on our MAGnetic External Control, or MAGEC, technology platform. Our novel and proprietary implants are adjustable at the time of implantation and non-invasively over the course of treatment to accommodate the changing clinical needs of patients as they heal, grow or age. Our MAGEC technology enables physicians to customize therapy for patients while reducing the need for multiple repeat surgical procedures, which provides significant improvements in patient clinical outcomes and quality of life while generating significant cost savings to the healthcare system. We have commercialized two highly differentiated product families: MAGEC-EOS spinal bracing and distraction system for treatment of early onset scoliosis and PRECICE limb lengthening system, or PRECICE LLD, for treatment of limb length discrepancy. These products incorporate our MAGEC technology and have been used to treat over 4,000 patients worldwide. We estimate the global addressable market opportunity for our commercial products was approximately $1.2 billion in 2014 based on data from Life Science Intelligence, Inc., which included addressable markets of approximately $571 million for our MAGEC-EOS system and approximately $708 million for our PRECICE LLD system. In addition, our product candidates leveraging our MAGEC technology addressed a significant global opportunity of over 690,000 procedures in 2014 according to this data.

Conventional orthopedic implants cannot be adjusted to accommodate a sub-optimal implantation or the changing clinical needs of patients as they heal, grow or age without incurring painful adjustments or an additional surgical procedure. Surgeries to adjust conventional implants are highly invasive and associated with significant complications, such as soft tissue disruption, high rates of wound infection, post-operative pain and lengthy recovery times. In addition, there are numerous psychological comorbidities associated with repeated painful adjustments or multiple repeat surgeries, including depression, pain medication abuse, impaired mobility, poor cosmetic result and longer time to return to daily activity. These effects can be particularly traumatic to young children and their families when multiple repeat procedures are required over time to accommodate their growing bodies.

We believe our proprietary MAGEC technology has the potential to become the standard of care for a wide range of orthopedic conditions. Our technology harnesses rotational magnetic forces generated by our external remote controller, or ERC, to change the size, shape, position and alignment of our implants. These adjustments can be performed non-invasively at any time over the life of our implants according to the changing clinical needs of patients. We believe our MAGEC technology offers compelling alternatives to conventional implants by enabling improved quality of life and patient satisfaction and a strong healthcare economic value proposition.

Our proprietary MAGEC-EOS system was developed using our MAGEC technology to treat children suffering from early onset scoliosis. Our MAGEC-EOS system consists of expandable spinal rods coupled with our ERC that together allow for periodic, non-invasive adjustment of the rods to be performed in the physician’s office to improve correction of the spinal deformity as the child grows. MAGEC-EOS reduces the

 

 

 

 

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requirement for multiple repeat surgeries to change the length of a rod to accommodate a growing spine. We believe MAGEC-EOS offers distinct advantages over conventional expanding rod systems, including improved clinical outcomes, reduced complications associated with multiple repeat surgical procedures and cost savings to the healthcare system. MAGEC-EOS received CE mark in 2009 and FDA 510(k) clearance in 2014. To date, over 2,000 children have been treated with our MAGEC-EOS system.

Our proprietary PRECICE LLD system was developed using our MAGEC technology to treat limb length discrepancies. Limb length discrepancies are currently treated with external fixation, a surgical treatment used to stabilize the bone from outside the body, which requires manual painful adjustments and results in variable clinical outcomes, high rates of infection and psychological comorbidities, including sleep disorders, depression and pain medication abuse. Our PRECICE LLD system consists of a non-invasively adjustable intramedullary nail, which is a metal rod that can be inserted into the central cavity of the bone shaft, coupled with an ERC that together are designed to internally lengthen the long bones of the leg with precision and control, and without the need for external fixation. Our ERC is programmed by physicians and used by patients at home to non-invasively and painlessly adjust the PRECICE LLD nail and reduce the limb length discrepancy. The PRECICE LLD system is designed to offer improved clinical outcomes, higher patient satisfaction, reduced pain and discomfort and improved quality of life as compared to traditional external fixation. The PRECICE LLD system received CE mark in 2010 and FDA 510(k) clearance in 2011. To date, over 2,000 patients have been treated with our PRECICE LLD system.

Our robust pipeline includes additional products incorporating our MAGEC technology targeted at a wide range of orthopedic markets, including trauma, knee osteoarthritis and degenerative spine disease. Through our research and development programs we continue to develop new products based on our MAGEC technology and improve its features and benefits.

We market and sell our products globally through a sales organization that allows us to continually expand our sales infrastructure and penetrate new geographic markets. Our global sales organization consists of direct sales managers that develop account relationships and recruit and lead a broad network of independent sales agencies and distributors. We currently market and sell our products in the United States and 29 other countries. Sales outside of the United States represented approximately 45% of our net revenue in 2014 and approximately 39% of our net revenue in the six months ended June 30, 2015.

For the years ended December 31, 2013 and 2014, our net revenue was $12.0 million and $25.7 million, respectively, and our net losses were $5.3 million and $3.2 million, respectively. For the six months ended June 30, 2014 and 2015, our net revenue was $10.3 million and $20.3 million, respectively, and our net losses were $1.4 million and $3.5 million, respectively. We expect to continue to incur losses for the next few years. Through June 30, 2015, we had an accumulated deficit of $37.7 million.

Limitations of Conventional Orthopedic Implants

Technology innovation and progress are dominant themes in the medical device industry due to the changing healthcare landscape and increasing patient expectations for high quality and improved clinical outcomes. The orthopedic implant represents one of the most significant advancements in the treatment of debilitating orthopedic conditions that cannot be corrected with conservative, non-surgical treatment. The evolution of orthopedic implants has enabled product features that promote ease of use and durability as well as improved clinical outcomes and quality of life for patients. Despite improvements in the design of orthopedic implants, surgery today remains a singular, acute event. Conventional orthopedic implants cannot be adjusted to address a sub-optimal implantation or to accommodate the changing clinical needs of patients as they heal, grow or age without an invasive approach, such as

 

 

 

 

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external fixation or a repeat surgical procedure. These types of adjustments are highly invasive, associated with a high rate of complications, result in reduced quality of life and patient satisfaction and represent significant economic challenges.

We believe there is an unmet need for a technology platform that enables physicians and patients to adjust orthopedic implants non-invasively over time.

Our Technology

Our proprietary MAGEC technology leverages rotational magnetic forces generated by the ERC to non-invasively change the size, shape, position and alignment of implants over time through a proprietary, mechanical, torque-increasing gearing system, or transmission, embedded in our implants. Our technology utilizes cylindrical permanent magnets: two in the ERC and one in each implant. The resulting force from the magnets is amplified and translated by the implant’s transmission to expand, compress and rotate the implant with a high degree of precision and accuracy. These adjustments may be performed by a clinician or, in some cases, at home by the patient, at any time and frequency over the life of the implant according to physician prescription and the changing clinical needs of the patient.

We believe our MAGEC technology can be used to develop devices that treat a variety of orthopedic conditions and offers the following benefits:

 

   

Personalized Patient Solutions Over the Course of Treatment:    Our technology enables the size, shape, position and alignment of orthopedic implants to be customized to the changing clinical needs of the patient at any time over the course of treatment;

 

   

Non-Invasive Adjustments:    Our technology enables painless, non-invasive adjustment of an implant using the ERC in a physician’s office or at the patient’s home;

 

   

Improved Quality of Life and Increased Patient Satisfaction:    Our technology enables products that are designed to reduce the need for surgical revision, which we believe reduces rates of infection, post-operative pain, recovery times, and psychological comorbidities associated with adjustments to conventional implants; and

 

   

Strong Healthcare Economic Value Proposition:    By reducing the likelihood of multiple repeat surgical procedures and improving the quality of life and satisfaction of our patients, our technology significantly reduces overall costs to the healthcare system.

Our Strategy

Our goal is to revolutionize orthopedic surgery and become the leader in the global orthopedic implants market. To achieve our goal, we are pursuing the following strategies:

 

   

Establish Our Products as the Standard of Care in Our Target Markets.    We believe the benefits of our technology will drive broader adoption of our products and enable our products to become the standard of care in the treatment in a wide range of orthopedic conditions;

 

   

Continue to Expand the Application of Existing Products and Develop New Applications of Our MAGEC Technology.    We believe our ability to introduce new and enhanced clinical applications of our technology will allow us to continue to expand our total addressable market opportunity;

 

   

Invest in Our Global Commercial Infrastructure.    In order to ensure broad access to our products, we intend to continue to invest in our global commercial infrastructure to further penetrate and expand our target markets;

 

 

 

 

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Invest in Clinical and Economic Studies.    We intend to continue to invest in studies in order to support the publication of peer reviewed articles that validate the clinical and economic benefits of our technology; and

 

   

Engage with Payors to Increase Reimbursement for Our Products.    We intend to leverage clinical and economic studies to demonstrate to payors the benefits of our technology in order to increase our reimbursement rates through product-specific codes and accelerate their adoption.

Our Commercial Products

We currently market products that leverage our MAGEC technology to treat the unmet clinical needs of children who suffer from early onset scoliosis and patients who suffer from limb length discrepancies.

MAGEC-EOS Spinal Bracing and Distraction System

Early onset scoliosis refers to severely deformed curvatures of the spine diagnosed before the age of ten. Early onset scoliosis is a challenging health issue and can lead to more severe progressive deformities. Surgical treatments for early onset scoliosis include the use of surgically adjustable expandable rods to control the spine deformity while still allowing the spine to grow until a child reaches an appropriate size or age for a more permanent solution, such as spinal fusion. Surgeries to adjust spinal rods are highly invasive and associated with significant scarring, long recovery times, high infection rates, post-operative pain and impaired mobility as the child heals from surgery. Additionally, repeated exposure to general anesthesia has been associated with impairments to cognitive development in children. Surgical adjustments to traditional growing rods are typically made every six to nine months to accommodate the growth of the spine.

We designed our MAGEC-EOS system to overcome the limitations of conventional adjustable rod treatments for early onset scoliosis. By enabling non-invasive adjustments, we believe MAGEC-EOS results in lower rates of complications associated with surgical procedures and repetitive exposure to general anesthesia. Our non-invasive adjustment technology enables physicians to perform more frequent adjustments in an outpatient setting, thereby improving deformity correction and allowing for optimal spinal growth. The MAGEC-EOS system is designed to treat early onset scoliosis, has been cleared by the FDA, and is intended for skeletally immature patients less than 10 years of age. Economic models have consistently concluded that MAGEC-EOS provides cost savings as compared to treatment with traditional growing rods by reducing the number of required repeat surgical procedures.

PRECICE Limb Lengthening System

Limb length discrepancies, or LLDs, refer to a congenital deformity or injury resulting in one leg being shorter than the other. Large LLDs often require complex treatments including limb lengthening surgery to create equal limb length. The traditional limb lengthening surgical procedure includes the creation of a gap in the bone, or osteotomy, the attachment of wires or pins to the fractured bones, and the passing of the wires or pins through the skin to an external fixator, a scaffold-like frame that surrounds the limb. The external fixator distracts the bone when the patient or a family member manually turns the knobs on the fixator. These adjustments must be performed several times each day such that the bone is lengthened approximately one millimeter per day. Adjustments of the external fixator are very painful and associated with soft tissue disruption, disturbance of the wound healing process of the skin and soft tissue and high rates of infection. In addition, traditional external fixation can result in significant psychosocial comorbidities that reduce quality of life for patients undergoing treatment, including anxiety, social disengagement, sleep disorders, depression and addiction to pain medication. Traditional external fixation may also be associated with variable clinical outcomes as patients are responsible for

 

 

 

 

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manually adjusting the external fixator at home with limited control. The painfulness and imprecision of these adjustments may result in reduced patient compliance with treatment regimens and compromised clinical outcomes.

We designed our PRECICE LLD system using our MAGEC technology to overcome the pain, complications and psychosocial impacts of traditional external fixation for treatment of LLDs. Our PRECICE LLD system enables non-invasive and painless adjustments using a pre-programmed ERC. PRECICE LLD offers bi-directional control and the nail may be either expanded or compressed with a high degree of precision and accuracy. As a result, PRECICE LLD enables physicians to customize therapy to the needs of the patient over time without the need for surgical re-intervention and provides improved quality of life and satisfaction for patients in need of surgical limb lengthening.

Our Product Pipeline

We are also developing multiple near-term product candidates that leverage our MAGEC technology in additional orthopedic applications including trauma, knee osteoarthritis and degenerative spine disease. We have successfully commercialized two products using our MAGEC technology and believe our pipeline products will enable us to continue to expand our total addressable target market opportunity.

 

   

PRECICE Trauma System.    We have developed the PRECICE Trauma system to treat fracture non-unions and fractures at risk of non-union in the long bones, including the humerus, tibia and femur. We believe this device is the first implant to offer both non-invasive compression and distraction and improves the clinical treatment for painful and costly fracture non-unions. We received CE mark and FDA 510(k) clearance for the PRECICE Trauma system in 2012 and we are currently developing additional clinical experience to support its commercial launch. We anticipate completing this effort by the end of 2016 and engaging in commercial activities thereafter.

 

   

PRECICE HTO System.    We have developed the PRECICE HTO system to enable orthopedic surgeons to treat patients suffering from knee osteoarthritis with a surgical procedure known as a high tibial osteotomy, or HTO, in which an open wedge is created in the upper shin bone, or tibia, to reconfigure the knee joint and non-invasively optimize the alignment of the knee post-operatively to reduce pain and improve mobility. We received CE mark for our PRECICE HTO system in 2014 and, as of June 30, 2015, the system has been implanted in 19 patients outside the United States. We have commenced a clinical study in support of an FDA 510(k) filing which we expect to complete in 2016.

 

   

Adjustable Lordosing Rod System.    We are developing an adjustable lordosing system that utilizes an implantable rod designed to restore the natural curvature of the spine for patients suffering from degenerative spine disease and to eliminate the pain, functional disability and psychosocial challenges associated with a sagittal imbalance. Sagittal imbalance refers to a patient’s inability to maintain an appropriate weight-distribution line between their head and pelvis resulting in the patient’s inability to stand up straight. A version of this device is in development for clinical use, and we intend to perform the first human implantation of the device in 2016. We expect to develop and trademark a name for this device prior to its commercialization.

Future Applications

In addition to each of our commercial and pipeline products described above, we believe our MAGEC technology is highly adaptable and may be used to develop products to address other significant and unmet opportunities in the orthopedics market. We intend to continue to engage in research and

 

 

 

 

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development activities towards identifying additional applications of our MAGEC technology and designing products for those applications.

Risks Related to Our Business

Our ability to implement our business strategy is subject to numerous risks, as more fully described in the section entitled “Risk Factors” immediately following this prospectus summary. These risks include, among others:

 

   

Our success depends on our ability to convince orthopedic surgeons that our MAGEC technology offers a safe and effective alternative to existing treatment options.

 

   

We have incurred significant losses since our inception and anticipate that we will continue to incur significant losses for the next few years.

 

   

We may not be able to generate sufficient revenue from the commercialization of the MAGEC-EOS system and the PRECICE LLD system to achieve and maintain profitability.

 

   

We are an early, commercial-stage company and have a limited history commercializing our products, which may make it difficult to evaluate our current business and predict our future performance.

 

   

The safety and efficacy of some of our products is not yet supported by long-term clinical data, which could limit sales.

 

   

Our long-term growth depends on our ability to commercialize our products in development and to develop and commercialize additional products through our research and development efforts, and if we fail to do so we may be unable to compete effectively.

 

   

If coverage and reimbursement from third-party payors for procedures using our implant systems significantly decline, orthopedic surgeons, hospitals and other healthcare providers may be reluctant to use our implant systems and our sales may decline.

 

   

If we are unable to adequately protect our proprietary technology or maintain issued patents that are sufficient to protect our implant systems, others could compete against us more directly.

 

   

The MAGEC-EOS system, the PRECICE LLD system and our operations are subject to extensive government regulation and oversight both in the United States and abroad.

Corporate and Other Information

We were formed as a Delaware corporation on June 30, 2005. Our principal executive offices are located at 101 Enterprise, Suite 100, Aliso Viejo, CA 92656, and our telephone number is (949) 837-3600. Our website address is www.ellipse-tech.com. The information contained in, or accessible through, our website does not constitute part of this prospectus.

Implications of Being an Emerging Growth Company

As a company with less than $1.0 billion in revenue during our last fiscal year, we qualify as an “emerging growth company” as defined in the Jumpstart Our Business Startups Act, or JOBS Act, enacted in April 2012. An “emerging growth company” may take advantage of reduced reporting requirements that are otherwise applicable to public companies. These provisions include, but are not limited to:

 

   

being permitted to present only two years of audited financial statements and only two years of related Management’s Discussion and Analysis of Financial Condition and Results of Operations;

 

 

 

 

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not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act of 2002, as amended, or the Sarbanes-Oxley Act;

 

   

reduced disclosure obligations regarding executive compensation in periodic reports, proxy statements and registration statements; and

 

   

exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved.

We may take advantage of these provisions until the last day of our fiscal year following the fifth anniversary of the completion of this offering. However, if certain events occur prior to the end of such five-year period, including if we become a “large accelerated filer,” our annual gross revenues exceed $1.0 billion or we issue more than $1.0 billion of non-convertible debt in any three-year period, we will cease to be an emerging growth company prior to the end of such five-year period.

We have elected to take advantage of certain of the reduced disclosure obligations in this prospectus and may elect to take advantage of other reduced reporting requirements in future filings. As a result, the information that we provide to our stockholders may be different from what you might receive from other public reporting companies in which you hold equity interests.

In addition, under the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards until such time as those standards apply to private companies. We have irrevocably elected not to avail ourselves of this exemption from new or revised accounting standards and, therefore, we will be subject to the same new or revised accounting standards as other public companies that are not emerging growth companies.

 

 

 

 

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THE OFFERING

 

Common stock offered by us

             shares

 

Common stock to be outstanding after this offering

             shares (or              shares if the underwriters exercise in full their option to acquire additional shares).

 

Option to purchase additional shares

The underwriters have a 30-day option to purchase up to a total of                     additional shares of common stock.

 

Use of proceeds

We expect to use the net proceeds from this offering to expand our sales and marketing programs, to fund research and development activities, to repay our term loan credit facility and for working capital and general corporate purposes. We may also use a portion of the net proceeds to acquire or invest in complementary products, technologies or businesses; however, we currently have no agreements or commitments to complete any such transaction. See “Use of Proceeds” for a description of the intended use of proceeds from this offering.

 

Offering price

$             per share

 

Risk factors

You should read the “Risk Factors” section of this prospectus and other information included in this prospectus for a discussion of factors that you should consider carefully before deciding to invest in our common stock.

 

Proposed NASDAQ Global Market symbol

MGEC

The number of shares of common stock to be outstanding after this offering set forth above is based on              shares outstanding as of June 30, 2015, after giving effect to the conversion of all of our outstanding convertible preferred stock and subordinated convertible note as of June 30, 2015, and excludes the following:

 

   

7,996,984 shares of common stock issuable upon the exercise of options outstanding as of June 30, 2015 at a weighted-average exercise price of $0.07 per share;

 

   

3,967,597 shares of common stock issuable upon exercise of warrants to purchase shares of our convertible preferred stock that will convert to warrants to purchase our common stock upon the closing of this offering at a weighted-average exercise price of $0.44 per share;

 

   

11,679,408 shares of our common stock reserved for future issuance under our 2005 Stock Plan, or the 2005 Plan;

 

   

            shares of our common stock reserved for future issuance under our 2015 Incentive Award Plan, or the 2015 Plan, which will become effective immediately prior to the closing of this offering, which number excludes 11,679,408 shares of common stock reserved for future grant or issuance under our 2005 Plan, which shares will be added to the shares reserved under the 2015 Plan upon its effectiveness; and

 

 

 

 

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            shares of our common stock reserved for future issuance under our 2015 employee stock purchase plan, or the ESPP, which will become effective immediately prior to the closing of this offering.

Except as otherwise indicated, all information in this prospectus assumes:

 

   

the filing of our amended and restated certificate of incorporation and the adoption of our amended and restated bylaws, which will occur immediately prior to the completion of this offering;

 

   

the automatic conversion of all outstanding shares of our convertible preferred stock as of June 30, 2015 into 70,071,478 shares of common stock immediately prior to the completion of this offering;

 

   

the adjustment of outstanding warrants to purchase shares of our Series C convertible preferred stock into warrants to purchase 3,967,597 shares of common stock in connection with the completion of this offering;

 

   

the automatic issuance of             shares of our common stock to the holders of our convertible promissory notes, or 2015 Notes, in satisfaction of the aggregate principal amount and accrued interest thereon upon the closing of this offering, assuming for this purpose that the offering closes on                     , 2015 at an assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus, all of which is described more fully under the section of this prospectus entitled “Capitalization—Convertible Promissory Notes”;

 

   

a one-for-         reverse stock split of our common stock to be effected before the completion of this offering;

 

   

no exercise of the outstanding stock options and warrants described above; and

 

   

no exercise by the underwriters of their option to purchase additional shares of common stock.

 

 

 

 

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SUMMARY FINANCIAL DATA

The following tables set forth a summary of our historical financial data as of, and for the periods ended on, the dates indicated. We have derived the statements of operations data for the years ended December 31, 2013 and 2014 from our audited financial statements included elsewhere in this prospectus. We have derived the summary statements of operations data for the six months ended June 30, 2014 and 2015 and balance sheet data as of June 30, 2015 from our unaudited financial statements included elsewhere in this prospectus. The unaudited financial statements have been prepared on a basis consistent with our audited financial statements included in this prospectus and, in the opinion of management, reflect all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the financial information set forth in those statements. You should read this data together with our financial statements and related notes appearing elsewhere in this prospectus and the sections of this prospectus entitled “Selected Financial Data” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Our historical results for any prior period are not necessarily indicative of our future results and our interim results are not necessarily indicative of results to be expected for the full year ending December 31, 2015 or any other period.

 

     Year Ended December 31,     Six Months Ended June 30,  
     2013     2014     2014     2015  
     (in thousands, except per share data)  

Statements of Operations Data:

        

Net revenue

   $ 12,036      $ 25,683      $ 10,309      $ 20,306   

Cost of revenue

     3,735        6,126        2,470        3,721   
  

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     8,301        19,557        7,839        16,585   

Operating expenses

        

Sales and marketing

     6,415        11,841        4,825        8,804   

Research and development

     4,634        4,861        1,985        4,249   

General and administrative

     1,663        3,145        1,208        2,383   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     12,712        19,847        8,018        15,436   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) from operations

     (4,411     (290     (179     1,149   

Other income and expenses

        

Interest expense

     (76     (283     (82     (154

Fair value of redeemable convertible preferred stock

     (896     (2,402     (1,179     (4,183

Other income (expense), net

     68        (164     1        (282
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss before provision for income taxes

     (5,315     (3,139     (1,439     (3,470

Income tax expense

     (3     (50     (1     (24
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

     (5,318     (3,189     (1,440     (3,494

Accretion of redeemable convertible preferred stock to redemption value

     (2,686     (2,825     (1,423     (1,659
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss attributable to common stockholders—Basic and Diluted

   $ (8,005   $ (6,014   $ (2,863   $ (5,153
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss per share attributable to common stockholders—Basic and Diluted

   $ (1.45   $ (0.89   $ (0.50   $ (0.61
  

 

 

   

 

 

   

 

 

   

 

 

 

Shares used to compute net loss per share attributable to common stockholders(1):

        

Weighted-average number of shares—Basic and Diluted

     5,512,023        6,759,622        5,772,826        8,506,837   
  

 

 

   

 

 

   

 

 

   

 

 

 

Pro forma net (loss) income attributable to common stockholders (unaudited):

     $ (788     $ 731   
    

 

 

     

 

 

 

 

 

 

 

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     Year Ended December 31,     Six Months Ended June 30,  
     2013    2014     2014    2015  

Pro forma net (loss) income per share attributable to common stockholders, basic and diluted (unaudited):

          

Basic

      $ (0.01      $                
     

 

 

      

 

 

 

Diluted

      $ (0.01      $                
     

 

 

      

 

 

 

Shares used in computing pro forma net (loss) and income per share attributable to common stockholders (unaudited):

          

Basic

        68,107,066        
     

 

 

      

 

 

 

Diluted

        68,107,066        
     

 

 

      

 

 

 

 

(1) 

See Note 13 and Note 11 to our audited and interim financial statements, respectively, included elsewhere in this prospectus for an explanation of the method used to calculate the historical and pro forma net (loss) income per share attributable to common stockholders, basic and diluted, and the number of shares used in the computation of the per share amounts. In addition, our convertible debt is dilutive but is not included in the pro forma entries as the impact is unknown.

 

     As of June 30, 2015  
     Actual     Pro
Forma(1)
     Pro Forma
As Adjusted(1)(2)
 
     (In thousands)  

Balance Sheet Data:

       

Cash and cash equivalents

   $ 12,501      $                    $                

Working capital

     18,857        

Total assets

     34,795        

Total liabilities

     28,561        

Redeemable convertible preferred stock

     43,949        

Accumulated deficit

     (37,723     

Total stockholders’ equity (deficit)

     (37,714     

 

(1) 

Gives effect to (a) the automatic conversion of all shares of our redeemable convertible preferred stock outstanding as of June 30, 2015 into an aggregate of 70,071, 478 shares of common stock immediately prior to the completion of this offering and the resultant reclassification of our convertible preferred stock to additional paid-in capital, a component of stockholders’ equity (deficit), and (b) the automatic conversion of the aggregate principal and accrued interest of the 2015 Notes into an aggregate of                      shares of our common stock upon the closing of this offering, assuming for this purpose that the offering occurred on             , 2015 at the assumed initial public offering price of $             per share, the midpoint of the price range set forth on the cover page of this prospectus.

(2) 

Gives further effect to (a) the issuance and sale of             shares of common stock in this offering at the assumed initial public offering price of $         per share, the midpoint of the price range listed on the cover page of this prospectus, after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us and (b) the payoff required by our credit agreement with MidCap Financial Trust, or MidCap, of our $5.0 million of borrowings, plus accrued interest thereon, under our term loan agreement with MidCap entered into in June 2015, assuming that the completion of this offering occurs on                          , 2015.

Each $1.00 increase (decrease) in the assumed initial public offering price of $         per share would increase (decrease) the pro forma as adjusted amount of each of cash and cash equivalents, working capital, total assets and total stockholders’ equity (deficit) by approximately $         million, assuming that the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us. Similarly, each increase (decrease) of 1.0 million shares in the number of shares offered by us at the assumed initial public offering price would increase (decrease) each of cash and cash equivalents, working capital, total assets and total stockholders’ equity (deficit) by approximately $         million, after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us. The pro forma information discussed above is illustrative only and will be adjusted based on the actual initial public offering price and other terms of our initial public offering determined at pricing.

 

 

 

 

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RISK FACTORS

Investing in our common stock involves a high degree of risk. You should carefully consider the risks described below, as well as the other information in this prospectus and any related free writing prospectus, including our financial statements and related notes and section titled “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” before deciding whether to invest in our common stock. The occurrence of any of the events or developments described below could harm our business, financial condition, results of operations and prospects. In such an event, the price of our common stock could decline, and you may lose all or part of your investment. Additional risks and uncertainties not presently known to us or that we currently deem immaterial also may impair our business operations.

Risks Related to Our Business and Strategy

Our success depends on our ability to convince orthopedic surgeons that our MAGEC technology offers a safe and effective alternative to existing treatment options.

We are designing and developing non-invasively adjustable, remote-controlled implants for a broad spectrum of orthopedic applications based on our proprietary MAGEC technology. The use of non-invasively adjustable, remote-controlled implants may never gain significant acceptance in the marketplace and, therefore, we may never generate substantial revenue or achieve or maintain profitability. Widespread adoption of a new platform technology depends on many factors, including acceptance by clinicians that such technology represents a clinically-effective and cost-effective means of treating the indicated conditions, demand by patients for such novel treatments, successful education of clinicians on the various aspects of this therapeutic approach and coverage and adequate reimbursement for procedures performed using such platform technology. If we are not successful in conveying to hospitals that non-invasively adjustable, remote-controlled implants provide equivalent or superior results compared to existing technologies, we may experience reluctance or refusal on the part of hospitals to order, and third-party payors to pay for performing, a treatment in which our products are utilized.

Orthopedic surgeons play a significant role in determining the course of treatment and, ultimately, the type of product that will be used to treat a patient, so we rely on effectively marketing to them. Acceptance of our products depends on educating orthopedic surgeons as to the distinctive characteristics, perceived clinical benefits, safety and cost-effectiveness of our products as compared to our competitors’ products and on training such orthopedic surgeons in the proper application and adjustment of our products. If we are not successful in convincing these orthopedic surgeons of the merits of our implant products or educating them on the use of our implant products, they may not use our products or use them effectively and we will be unable to increase our sales and sustain growth or reach profitability. We believe orthopedic surgeons will not widely adopt our products unless they determine, based on experience, clinical data and published peer-reviewed journal articles, that our products and the techniques to implant and adjust them provide benefits or are attractive alternatives to our competitors’ products. Orthopedic surgeons may be hesitant to change their medical treatment practices for the following reasons, among others:

 

   

lack of experience with our products;

 

   

existing relationships with competitors and distributors that sell their products;

 

   

lack or perceived lack of evidence supporting additional patient benefits;

 

   

perceived liability risks generally associated with the use of new products and procedures;

 

   

less favorable coverage and reimbursement amount compared to other products and techniques; and

 

   

the time commitment that may be required for training.

 

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In addition, we believe recommendations and support of our products by influential orthopedic surgeons are essential for market acceptance and adoption. If we do not receive support from such orthopedic surgeons or long-term data does not show the benefits of using our products, orthopedic surgeons may not use our products. In such circumstances, we may not achieve expected sales and may be unable to achieve profitability.

Our ability to achieve commercial market acceptance for the MAGEC-EOS system, the PRECICE LLD system or any other future products also depends on the strength of our sales, marketing and distribution organizations. Furthermore, we may encounter difficulty in gaining inclusion in applicable treatment guidelines and gaining broad market acceptance by healthcare providers, third-party payors and patients. Healthcare providers may have difficulty in obtaining coverage and adequate reimbursement from government or third-party payors for treatment of orthopedic conditions, which may negatively impact adoption of our implant systems. In addition, our expectations regarding cost savings from using the MAGEC-EOS system and the PRECICE LLD system may not be accurate. These hurdles may make it difficult to demonstrate to physicians, hospitals and other healthcare providers that our products are appropriate options for orthopedic applications and may be superior and more cost-effective than alternative technologies.

We have incurred significant losses since our inception and anticipate that we will continue to incur significant losses for the next few years.

We have historically incurred substantial net losses, including net losses of $5.3 million and $3.2 million during the years ended December 31, 2013 and 2014, respectively, and net loss of $3.5 million during the six months ended June 30, 2015. As a result of our historical losses, we had an accumulated deficit of $37.7 million at June 30, 2015. We expect our net losses to continue as a result of ongoing expansion of our commercial operations, including increased manufacturing, sales and marketing costs. Additionally, we expect that our general and administrative expense will increase due to the additional operational and reporting costs associated with being a public company. These net losses have had, and will continue to have, a negative impact on our working capital, total assets and stockholders’ equity. Because of the numerous risks and uncertainties associated with our commercialization efforts, we are unable to predict when we will become profitable, and we may never become profitable. Even if we do achieve profitability, we may not be able to sustain or increase profitability on a quarterly or annual basis. Our inability to achieve and then maintain profitability could harm our business, financial condition, results of operations and cash flows.

If we are unable to convince hospital facilities to approve the use of our products, our sales may decrease.

In the United States, in order for orthopedic surgeons to use our devices, the hospital facilities where these orthopedic surgeons treat patients will typically require us to receive approval from the facility’s value analysis committee, or VAC. VACs typically review the comparative effectiveness and cost of medical devices used in the facility. The makeup and evaluation processes for VACs vary considerably, and it can be a lengthy, costly and time-consuming effort to obtain approval by the relevant VAC. For example, even if we have an agreement with a hospital system for purchase of our devices, in most cases, we must obtain VAC approval by each hospital within the system to sell at that particular hospital. Additionally, hospitals typically require separate VAC approval for each specialty in which our products are used, which may result in multiple VAC approval processes within the same hospital even if such product has already been approved for use by a different specialty group. We may need VAC approval for each different device to be used by the orthopedic surgeons in that specialty. In addition, hospital facilities and group purchasing organizations, or GPOs, which manage purchasing for multiple facilities, may also require us to enter into a purchasing agreement and satisfy numerous elements of their administrative procurement process, which can also be a lengthy, costly and time-consuming effort. If we do not receive access to hospital facilities in a timely manner, or at all, via these VAC and purchasing

 

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contract processes, or otherwise, or if we are unable to secure contracts in a timely manner, or at all, our operating costs will increase, our sales may decrease, and our operating results may be harmed. Furthermore, we may expend significant effort in these costly and time-consuming processes and still may not obtain VAC approval or a purchase contract from such hospitals or GPOs.

We may not be able to generate sufficient revenue from the commercialization of the MAGEC-EOS system and the PRECICE LLD system to achieve and maintain profitability.

At present, we rely solely on the commercialization of the MAGEC-EOS system and the PRECICE LLD system to generate revenue, and we expect to generate substantially all of our revenue in the foreseeable future from sales of these systems. In order to successfully commercialize our products, we will need to continue to expand our marketing efforts to develop new relationships and expand existing relationships with customers, to receive clearance or approval for our products in additional countries, to achieve and maintain compliance with all applicable regulatory requirements and to develop and commercialize our products with new features or for additional indications. We may not be able to achieve or maintain profitability. If we fail to successfully commercialize our non-invasively adjustable, remote-controlled implants, we may never receive a return on the substantial investments in product development, sales and marketing, regulatory compliance, manufacturing and quality assurance we have made, as well as further investments we intend to make, which may cause us to fail to generate revenue and gain economies of scale from such investments.

In addition, potential customers may decide not to purchase the MAGEC-EOS system or the PRECICE LLD system, or our customers may decide to cancel orders due to changes in treatment offerings, research and product development plans, adverse clinical outcomes, difficulties in obtaining coverage or reimbursement for non-invasively adjustable, remote-controlled implants, complications with manufacturing, or utilization of implant technology developed by other parties, all of which are circumstances outside of our control.

Furthermore, demand for the MAGEC-EOS system or the PRECICE LLD system may not increase as quickly as we predict, and we may be unable to increase our revenue levels as we expect. Even if we succeed in increasing adoption of these systems by physicians, hospitals and other healthcare providers, maintaining and creating relationships with our existing and new customers and developing and commercializing new features or indications for these systems, we may not be able to generate sufficient revenue to achieve or maintain profitability.

We are an early, commercial-stage company and have a limited history commercializing our products, which may make it difficult to evaluate our current business and predict our future performance.

We are an early, commercial-stage company and have a limited operating history. We commenced operations in 2005 and did not begin commercial operations until 2010. Our limited history commercializing our products may make it difficult to evaluate our current business and predict our future performance. Any assessment of our profitability or prediction about our future success or viability is subject to significant uncertainty. We have encountered and will continue to encounter risks and difficulties frequently experienced by early, commercial-stage companies in rapidly evolving industries. If we do not address these risks successfully, our business could be harmed.

The safety and efficacy of some of our products is not yet supported by long-term clinical data, which could limit sales.

We lack the breadth of published long-term clinical data supporting the safety and efficacy of our non-invasively adjustable, remote-controlled implants and the benefits they offer that might have been generated in connection with other approval processes. For these reasons, orthopedic surgeons and other clinicians may be slow to adopt our products, we may not have comparative data that our competitors

 

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have or are generating, and we may be subject to greater regulatory and product liability risks. Further, future patient studies or clinical experience may indicate that treatment with our products does not improve patient outcomes. Such results would slow the adoption of our products by orthopedic surgeons and other clinicians, would significantly reduce our ability to achieve expected sales and could prevent us from achieving and maintaining profitability.

In addition, because the MAGEC-EOS system and the PRECICE LLD system have only been on the market since 2010 and 2012, respectively, we have limited complication or patient success rate data with respect to treatment using these implants. If future patient studies or clinical testing do not support our belief that our implants offer a more advantageous treatment for a broad spectrum of orthopedic conditions, market acceptance of our implant systems could fail to increase or could decrease and our business could be harmed. Moreover, if future results and experience indicate that our implant products cause unexpected or serious complications or other unforeseen negative effects, we could be subject to mandatory product recalls, suspension or withdrawal of FDA or other governmental clearance or approval or CE Certificates of Conformity, significant legal liability or harm to our business reputation.

Our long-term growth depends on our ability to commercialize our products in development and to develop and commercialize additional products through our research and development efforts, and if we fail to do so we may be unable to compete effectively.

In order to increase our market share in the orthopedic markets, we may need to successfully commercialize our current products in development, enhance our existing product offerings and introduce new products in response to changing customer demands and competitive pressures and technologies. Our industry is characterized by intense competition, rapid technological changes, new product introductions and enhancements and evolving industry standards. Our business prospects may depend in part on our ability to develop and commercialize new products and applications for our technology, including in new markets that develop as a result of technological and scientific advances, while improving the performance and cost-effectiveness of our implant systems. New technologies, techniques or products could emerge that might offer better combinations of price and performance than our implant systems. It is important that we anticipate changes in technology and market demand, as well as physician, hospital and healthcare provider practices to successfully develop, obtain clearance or approval of, if required, and successfully introduce new, enhanced and competitive technologies to meet our prospective customers’ needs on a timely and cost-effective basis.

We currently have authorization to affix the CE mark to, and have FDA 510(k) clearance with respect to, our PRECICE Trauma system and have authorization to attach the CE mark to our PRECICE HTO system, neither of which we are currently commercializing. In addition, we are developing a product to correct degenerative spine disease and anticipate that our non-invasively adjustable implant technology platform will result in additional product candidates to treat a broad spectrum of orthopedic conditions. We might not be able to successfully commercialize our current products with regulatory approval or develop, or obtain regulatory approval, clearance or CE Certificates of Conformity for new products we may market in the future. Additionally, our PRECICE Trauma system and PRECICE HTO system and any future products might not be accepted by the orthopedic surgeons or the third-party payors who reimburse for the procedures performed with our implant products or may not be successfully commercialized due to other factors. The success of any new product offering or enhancement to an existing product will depend on numerous factors, including our ability to:

 

   

properly identify and anticipate clinician and patient needs;

 

   

develop and introduce new products or product enhancements in a timely manner;

 

   

adequately protect our intellectual property and avoid infringing upon the intellectual property rights of third parties;

 

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demonstrate the safety and efficacy of new products through the conduct of clinical investigations or the collection of existing relevant clinical data; and

 

   

obtain the necessary regulatory clearances, approvals or CE Certificates of Conformity for new products or product enhancements.

If we do not develop and obtain regulatory clearance, approval or CE Certificates of Conformity for new products or product enhancements in time to meet market demand, or if there is insufficient demand for these products or enhancements, our results of operations will suffer. Our research and development efforts may require a substantial investment of time and resources before we are adequately able to determine the commercial viability of a new product, technology, material or other innovation. In addition, even if we are able to develop enhancements or new generations of our products successfully, these enhancements or new generations of products may not produce sales in excess of the costs of development and they may be quickly rendered obsolete by changing customer preferences or the introduction by our competitors of products embodying new technologies or features.

Nevertheless, we must carefully manage our introduction of new products. If potential customers believe that such products will offer enhanced features or be sold for a more attractive price, they may delay purchases until such products are available. We may also have excess or obsolete inventory as we transition to new products, and we have no experience in managing product transitions. If we do not successfully innovate and introduce new technology into our current or anticipated product lines or effectively manage the transitions of our technology to new product offerings, our business, financial condition and results of operations could be harmed.

If the quality of our products does not meet the expectations of physicians or patients, then our brand and reputation could suffer and our business could be adversely impacted.

In the course of conducting our business, we must adequately address quality issues that may arise with our implant products, as well as defects in third-party components included in our products. Furthermore, because our products enable implant adjustment to be done by remote control, and in certain cases by the patient at home, a malfunction by one of our implant products may not be detected for an extended period of time, which may result in delay or failure to remedy the condition for which the implant was prescribed. Although we have established internal procedures to minimize risks that may arise from quality issues, we may not be able to eliminate or mitigate occurrences of these issues and associated liabilities. If the quality of our products does not meet the expectations of physicians or patients, then our brand and reputation could suffer and our business could be adversely impacted.

We may not be able to gain the support of leading hospitals and key opinion leaders or publish the results of our clinical trials in peer-reviewed journals, which may make it difficult to establish our non-invasively adjustable, remote-controlled implants as a standard of care and achieve market acceptance.

Our strategy includes developing relationships with leading hospitals and key opinion leaders in the industry. If these hospitals and key opinion leaders determine that our non-invasively adjustable, remote-controlled implants are not clinically effective, that alternative technologies are more effective or that the benefits offered by our implant devices are not sufficient to justify their higher cost, or if we encounter difficulty promoting the adoption of or establishing these systems as a standard of care, our ability to achieve market acceptance of the MAGEC-EOS system, the PRECICE LLD system and any other products we introduce could be significantly limited. We believe that publication of scientific and medical results in peer-reviewed journals and presentation of data at leading conferences are critical to the broad adoption of our products. Publication in leading medical journals is subject to a peer-review process, and peer reviewers may not consider the results of studies involving the MAGEC-EOS system or the PRECICE LLD system sufficiently novel or worthy of publication. If our current and future products fail to achieve increased market acceptance for any of these or other reasons, we will not be able to generate the revenue necessary to develop a sustainable, profitable business.

 

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Our non-invasively adjustable implant systems use rare-earth minerals and the unavailability or limited supply of these minerals could prevent us from manufacturing our products in production quantities or increase our costs.

Certain rare-earth minerals are key elements used in the production of magnets that are components of our non-invasively adjustable implant systems. We currently source a significant portion of our magnets from China, and China has indicated its intent to retain more of this mineral for internal use, rather than exporting it. During calendar year 2011, for example, buyers experienced significant price escalation in the cost of rare-earth magnets. This temporary price escalation was primarily due to rare-earth government policy in China. Although rare-earth magnets are available from other sources, these alternative sources are currently more costly. Reduced availability of rare-earth materials from China could adversely affect our ability to obtain magnets in sufficient quantities, in a timely manner, or at a commercially reasonable cost. In the event that China’s actions cause us to seek alternate sources of supply for magnets, it could cause an increase in our product costs, thereby reducing or eliminating our profit margin on our implant systems if we are unable to pass the increase on to our customers. Increasing prices to our customers due to escalating magnet costs may reduce demand for our implant systems and make it difficult to compete with other standards of care which do not use rare-earth minerals.

We have limited experience in marketing and selling our implant products, and if we are unable to successfully expand our sales infrastructure and adequately address our customers’ needs, it could negatively impact sales and market acceptance of our products and we may never generate sufficient revenue to achieve or sustain profitability.

We have limited experience in marketing and selling the MAGEC-EOS system and the PRECICE LLD system. We began selling the MAGEC-EOS system internationally in 2010 and in the United States in 2014, and we began selling the PRECICE LLD system in the United States and internationally in 2012. As of June 30, 2015, our U.S. sales organization consisted of 78 independent sales agencies and our international sales organization consisted of our 30 independent distributors. In 2014, we had sales in 30 countries. Our operating results are directly dependent upon the sales and marketing efforts of our independent sales agencies and independent distributors. If our independent sales agencies or independent distributors fail to adequately promote, market and sell our products, our sales could significantly decrease.

In addition, our non-invasively adjustable, remote-controlled implants represent a new technology in the orthopedic implants sector and our future sales will largely depend on our ability to increase our marketing efforts and adequately address our customers’ needs. We believe it is necessary to utilize a sales force that includes sales agencies with specific technical backgrounds that can support our customers’ needs. We will also need to attract independent sales personnel and attract and develop marketing personnel with industry expertise. Competition for such independent sales agencies and marketing employees is intense and we may not be able to attract and retain sufficient personnel to maintain an effective sales and marketing force. If we are unable to adequately address our customers’ needs, it could negatively impact sales and market acceptance of the MAGEC-EOS system, the PRECICE LLD system and any future products we introduce, and we may never generate sufficient revenue to achieve or sustain profitability.

As we launch new products and increase our marketing efforts with respect to existing products, we will need to expand the reach of our marketing and sales networks. Our future success will depend largely on our ability to continue to hire, train, retain and motivate skilled independent sales agents and distributors with significant technical knowledge in various areas. New hires require training and take time to achieve full productivity. If we fail to train new hires adequately, or if we experience high turnover in our sales force in the future, new hires may not become as productive as may be necessary to maintain or increase our sales. If we are unable to expand our sales and marketing capabilities domestically and

 

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internationally, we may not be able to effectively commercialize our products, which would adversely affect our business, results of operations and financial condition.

We operate in a very competitive business environment and if we are unable to compete successfully against our existing or potential competitors, our sales and operating results may be negatively affected and we may not grow.

The orthopedics industry is intensely competitive, subject to rapid change and highly sensitive to the introduction of new products or other market activities of industry participants. Our ability to compete successfully will depend on our ability to develop future products that reach the market in a timely manner, are well adopted by orthopedic surgeon customers and receive adequate coverage and reimbursement from third-party payors. Because of the size of the potential market, we anticipate that companies will dedicate significant resources to developing products competitive to ours.

We have numerous competitors, which include DePuy Synthes’ VEPTR and VEPTR II devices and Medtronic’s SHILLA Growth Guidance System in the spine market and Smith & Nephew’s and Orthofix’s external fixation devices in the limb-deformity market. Upon entering the market for trauma devices, we expect to compete with therapies from Smith & Nephew, Stryker Corporation, DePuy Synthes and Zimmer Biomet, and in the HTO market with DePuy Synthes and Arthrex. At any time, these or other industry participants may develop alternative treatments, products or procedures for the treatment of orthopedic disorders that compete directly or indirectly with our implant systems. They may also develop and patent processes or products earlier than we can or obtain regulatory clearance, approvals or CE Certificates of Conformity for competing products more rapidly than we can, which could impair our ability to develop and commercialize similar processes or products. If alternative treatments are, or are perceived to be, superior to our implant systems, sales of our implant systems could be negatively affected and our results of operations could suffer.

Many of our larger competitors are either publicly traded or divisions or subsidiaries of publicly traded companies. These competitors enjoy several competitive advantages over us, including:

 

   

longer operating histories;

 

   

greater financial, human and other resources for product research and development, sales and marketing and litigation;

 

   

significantly greater name recognition;

 

   

established relationships with orthopedic surgeons, hospitals and other healthcare providers;

 

   

large and established sales and marketing and distribution networks;

 

   

products supported by long-term clinical data;

 

   

ability to offer rebates or bundle products to offer higher discounts or incentives to gain a competitive advantage;

 

   

greater experience in obtaining and maintaining regulatory clearances, approvals or CE Certificates of Conformity for products and product enhancements;

 

   

more expansive portfolios of intellectual property rights; and

 

   

broader product portfolios affording them greater ability to cross-sell their products or to incentivize hospitals or orthopedic surgeons to use their products.

The orthopedics industry is becoming increasingly crowded with new participants. Many of these new competitors specialize in a specific product or focus on a particular market segment, making it more

 

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difficult for us to increase our overall market position. The frequent introduction by competitors of products that are, or claim to be, superior to our products, or that are alternatives to our existing or planned products may also create market confusion that may make it difficult to differentiate the benefits of our products over competing products.

Moreover, as a result of this increased competition, we believe there will be increased pricing pressure in the future. The entry of multiple new products and competitors may lead some of our competitors to employ pricing strategies that could adversely affect the pricing of our products and pricing in our markets generally. Additionally, because the hospital and other healthcare provider customers that purchase our products typically bill various third-party payors to cover all or a portion of the costs and fees associated with the procedures in which our implant systems are used, including the cost of the purchase of our products, changes in the amount such payors are willing to reimburse our customers for procedures using our products could create pricing pressure for us. If competitive forces drive down the prices we are able to charge for our products, our profit margins will shrink, which will adversely affect our ability to invest in and grow our business.

As a result, without the timely introduction of new products and enhancements, our products may become obsolete over time. If we are unable to develop innovative new products, maintain competitive pricing and offer products that orthopedic surgeons perceive to be as reliable as those of our competitors, our sales or margins could decrease, thereby harming our business.

If orthopedic surgeons fail to safely and appropriately use our implant systems, or if we are unable to train orthopedic surgeons on the safe and appropriate use of our future products, we may be unable to achieve our expected growth.

An important part of our sales process includes the ability to screen for and identify orthopedic surgeons who have the requisite training and experience to safely and appropriately use our products. If orthopedic surgeons are not properly trained, they may misuse or ineffectively use our products. This may also result in unsatisfactory patient outcomes, patient injury, negative publicity or lawsuits against us, any of which could have an adverse effect on our business. If we are unable to successfully identify orthopedic surgeons who will be able to successfully deploy our implant systems, we may be unable to achieve our expected growth.

There is a learning process involved for orthopedic surgeons to become proficient in the use of our implant systems. Although training programs are not currently an integral part of our marketing efforts with respect to the MAGEC-EOS and PRECICE LLD, it may be critical to the success of our commercialization efforts with respect to future products to train a sufficient number of orthopedic surgeons and to provide them with adequate instruction in the use of our products. This training process may take longer than expected and may therefore affect our ability to increase sales. Convincing orthopedic surgeons to dedicate the time and energy necessary for adequate training is challenging, and we may not be successful in these efforts.

Although we believe our interactions with orthopedic surgeons are conducted in compliance with FDA and other applicable regulations developed both nationally and in foreign countries, if the FDA or other competent authority determines that any of our activities constitute promotion of an unapproved use or promotion of an intended purpose not covered by FDA approved labeling or the current CE mark affixed to our product, they could request that we modify our activities or subject us to regulatory enforcement actions, including the issuance and/or imposition of a warning letter, injunction, seizure, civil fine and criminal penalty.

Our insurance policies are expensive and protect us only from some business risks, which will leave us exposed to significant uninsured liabilities.

We do not carry insurance for all categories of risk that our business may encounter. Some of the policies we currently maintain include general liability, foreign liability, employee benefits liability, property,

 

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umbrella, workers’ compensation, products liability and directors’ and officers’ insurance. We do not know, however, if we will be able to maintain existing insurance with adequate levels of coverage. Any significant uninsured liability may require us to pay substantial amounts, which would adversely affect our cash position and results of operations.

We bear the risk of warranty claims on our implant systems.

We bear the risk of warranty claims on all implant systems we supply, including equipment and component parts manufactured by third parties. We may not be successful in claiming recovery under any warranty or indemnity provided to us by our suppliers or vendors in the event of a successful warranty claim against us by a customer or that any recovery from such vendor or supplier would be adequate. In addition, warranty claims brought by our customers related to third-party components may arise after our ability to bring corresponding warranty claims against such suppliers expires, which could result in additional costs to us. There is a risk that warranty claims made against us will exceed our warranty reserve and our business, financial condition and results of operations could be harmed.

We may acquire other businesses, form joint ventures or make investments in other companies or technologies that could negatively affect our operating results, dilute our stockholders’ ownership, increase our debt or cause us to incur significant expense.

We may pursue acquisitions of businesses and assets. We also may pursue strategic alliances and joint ventures that leverage our proprietary technology and industry experience to expand our offerings or distribution. We have no experience with acquiring other companies and limited experience with forming strategic partnerships. We may not be able to find suitable partners or acquisition candidates, and we may not be able to complete such transactions on favorable terms, if at all. If we make any acquisitions, we may not be able to integrate these acquisitions successfully into our existing business, and we could assume unknown or contingent liabilities. Any future acquisitions also could result in the incurrence of debt, contingent liabilities or future write-offs of intangible assets or goodwill, any of which could have a negative impact on our cash flows, financial condition and results of operations. Integration of an acquired company also may disrupt ongoing operations and require management resources that we would otherwise focus on developing our existing business. We may experience losses related to investments in other companies, which could harm our financial condition and results of operations. We may not realize the anticipated benefits of any acquisition, strategic alliance or joint venture.

Foreign acquisitions involve unique risks in addition to those mentioned above, including those related to integration of operations across different cultures and languages, currency risks and the particular economic, political and regulatory risks associated with specific countries.

To finance any acquisitions or joint ventures, we may choose to issue shares of common stock as consideration, which could dilute the ownership of our stockholders. Additional funds may not be available on terms that are favorable to us, or at all. If the price of our common stock is low or volatile, we may not be able to acquire other companies or fund a joint venture project using our stock as consideration.

Risks Related to Our Reliance on Third Parties

If coverage and reimbursement from third-party payors for procedures using our implant systems significantly decline, orthopedic surgeons, hospitals and other healthcare providers may be reluctant to use our implant systems and our sales may decline.

In the United States, healthcare providers who purchase our products generally rely on third-party payors, principally Medicare, Medicaid and private health insurance plans, to pay for all or a portion of the cost of our implant systems in the procedures in which they are employed. Because there is often no separate reimbursement for implants and supplies used in surgical procedures, the additional cost

 

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associated with the use of our products can impact the profit margin of the hospital or surgery center where the surgery is performed. Some of our target customers may be unwilling to adopt our implant systems in light of the additional associated cost. Further, any decline in the amount payors are willing to reimburse our customers for the procedures using our products may make it difficult for existing customers to continue using, or adopt, our products and could create additional pricing pressure for us. We may be unable to sell our products on a profitable basis if third-party payors deny coverage or reduce their current levels of reimbursement.

To contain costs of new technologies, governmental healthcare programs and third-party payors are increasingly scrutinizing new and even existing treatments by requiring extensive evidence of favorable clinical outcomes. Surgeons, hospitals and other healthcare providers may not purchase our products if they do not receive satisfactory reimbursement from these third-party payors for the cost of the procedures using our products. Payors continue to review their coverage policies carefully for existing and new therapies and can, without notice, deny coverage for treatments that include the use of our products. If other third-party payors issue non-coverage policies or if we are not able to be reimbursed at appropriate levels, this could have a material adverse effect on our business and operations.

In addition to uncertainties surrounding coverage policies, there are periodic changes to reimbursement. Third-party payors regularly update reimbursement amounts and also from time to time revise the methodologies used to determine reimbursement amounts. This includes annual updates to payments to physicians, hospitals and ambulatory surgery centers for procedures during which our products are used. Because the cost of our products generally is recovered by the healthcare provider as part of the payment for performing a procedure and not separately reimbursed, these updates could directly impact the demand for our products. An example of payment updates is the Medicare program’s updates to hospital and physician payments, which are done on an annual basis using a prescribed statutory formula. With respect to physician payments, in the past, when the application of the formula resulted in lower payment, Congress has passed interim legislation to prevent the reductions. In April 2015, however, the Medicare Access and CHIP Reauthorization Act of 2015, or MACRA, was signed into law, which repealed and replaced the statutory formula for Medicare payment adjustments to physicians. MACRA provides a permanent end to the annual interim legislative updates that had previously been necessary to delay or prevent significant reductions to payments under the Medicare Physician Fee Schedule. MACRA extended existing payment rates through June 30, 2015, with a 0.5% update for July 1, 2015 through December 31, 2015, and for each calendar year through 2019, after which there will be a 0% annual update each year through 2025. In addition, MACRA requires the establishment of the Merit-Based Incentive Payment System, beginning in 2019, under which physicians may receive performance-based payment incentives or payment reductions based on their performance with respect to clinical quality, resource use, clinical improvement activities and meaningful use of electronic health records. MACRA also requires Centers for Medicare & Medicaid Services, or CMS, beginning in 2019, to provide incentive payments for physicians and other eligible professionals that participate in alternative payment models, such as accountable care organizations, that emphasize quality and value over the traditional volume-based fee-for-service model. It is unclear what impact, if any, MACRA will have on our business and operating results, but any resulting decrease in payment may result in reduced demand for our products.

Moreover, some healthcare providers in the United States have adopted or are considering a managed care system in which the providers contract to provide comprehensive healthcare for a fixed cost per person. Healthcare providers may attempt to control costs by authorizing fewer surgical procedures or by requiring the use of the least expensive implant system available. Additionally, as a result of reform of the U.S. healthcare system, changes in reimbursement policies or healthcare cost containment initiatives may limit or restrict coverage and reimbursement for our products and cause our revenue to decline.

Outside of the United States, reimbursement systems vary significantly by country. Many foreign markets have government-managed healthcare systems that govern reimbursement for orthopedic implants and

 

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procedures. Additionally, some foreign reimbursement systems provide for limited payments in a given period and therefore result in extended payment periods. If adequate levels of reimbursement from third-party payors outside of the United States are not obtained, international sales of our products may decline.

We rely on third-party independent sales agencies and independent distributors to market and distribute our implant systems.

We currently do not have a direct sales organization, and as a result, we rely on our network of independent sales agencies and independent distributors to market and distribute our implant systems, in both the U.S. and international markets.

In the United States, our implant systems are sold by a network of 78 independent sales agencies. We may not be successful in maintaining strong relationships with our independent sales agencies. In addition, our independent sales agencies are not required to sell our implant systems on an exclusive basis and also are not required to purchase any minimum quantity of our implant systems. The failure of our network of independent sales agencies to generate U.S. sales of our products and promote our brand effectively would impair our business and results of operations.

We also sell our implant systems in international markets using a network of 30 independent distributors. We have sold our implant systems in 29 countries outside of the United States, and we expect a significant amount of our revenue to come from international sales for the foreseeable future.

We face significant challenges and risks in managing our geographically dispersed distribution network and retaining the individuals who make up that network. We cannot control the efforts and resources our third-party sales agencies and distributors will devote to marketing our implant systems. Our sales agencies and distributors may not be able to successfully market and sell our implant systems and may not devote sufficient time and resources to support the marketing and selling efforts that enable the products to develop, achieve or sustain market acceptance in their respective jurisdictions. Additionally, in some international jurisdictions, we rely on our distributors to manage the regulatory process, and we are dependent on their ability to do so effectively. If we are unable to attract additional international distributors, our international revenue may not grow.

If any of our independent sales agencies or distributors were to cease to do business with us, our sales could be adversely affected. Although none accounted for greater than 10% of our revenue in 2014, some of our sales agencies and independent distributors have historically accounted for a material portion of our sales volume, and if any such agency or distributor were to cease to sell and market our products, our sales could be adversely affected. In addition, if a dispute arises with a sales agency or distributor or if a sales agency or distributor is terminated by us or goes out of business, it may take time to locate an alternative sales agency or distributor, to seek appropriate regulatory approvals and to train new personnel to market our implant systems, and our ability to sell those systems in the region formerly serviced by such terminated agent or distributor could be harmed. Any of our sales agencies or distributors could become insolvent or otherwise become unable to pay amounts owed to us when due. Any of these factors could reduce our revenue from affected markets, increase our costs in those markets or damage our reputation. If a sales agency or independent distributor were to depart and be retained by one of our competitors, we may be unable to prevent them from helping competitors solicit business from our existing customers, which could further adversely affect our sales.

In any such situation in which we lose the services of an independent sales agency or distributor, we may need to seek alternative sales agencies or distributors, which could result in our sales being adversely affected. Because of the intense competition for their services, we may be unable to recruit or retain additional qualified independent sales agencies or distributors to work with us. We may not be able to

 

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enter into agreements with them on favorable or commercially reasonable terms, if at all. Failure to hire or retain qualified independent sales agencies or distributors would prevent us from expanding our business and generating sales.

As a result of our reliance on third-party sales agencies and distributors, we may be subject to disruptions and increased costs due to factors beyond our control, including labor strikes, third-party error and other issues. If the services of any of these third-party sales agencies or distributors become unsatisfactory, including the failure of such sales agencies or distributors to properly train orthopedic surgeons in the utilization of our implant systems, we may experience delays in meeting our customers’ product demands and we may not be able to find a suitable replacement on a timely basis or on commercially reasonable terms. Any failure to deliver products in a timely manner may damage our reputation and could cause us to lose current or potential customers.

We have a limited history of manufacturing and assembling our implant products in commercial quantities and may encounter related problems or delays that could result in lost revenue.

The manufacturing processes for the MAGEC-EOS system and the PRECICE LLD system include sourcing components from various third-party suppliers, assembly and testing. We must manufacture and assemble these systems in compliance with regulatory requirements and at an acceptable cost in order to achieve and maintain profitability. We have only a limited history of manufacturing and assembling the MAGEC-EOS system and the PRECICE LLD system and, as a result, we may have difficulty manufacturing and assembling these systems in sufficient quantities in a timely manner. To manage our manufacturing and operations with our suppliers, we forecast anticipated product orders and material requirements to predict our inventory needs from six months to a year in advance and enter into purchase orders on the basis of these requirements. Our limited manufacturing history may not provide us with enough data to accurately predict future component demand and to anticipate our costs effectively. Further, we may in the future experience delays in obtaining components from suppliers, which could impede our ability to manufacture and assemble our implant systems on our expected timeline. As a result of this or any other delays, we may encounter difficulties in production of our implant systems, including problems with quality control and assurance, component supply shortages or surpluses (including with respect to the rare-earth magnets we use in our implant systems), increased costs, shortages of qualified personnel and difficulties associated with compliance with local, state, federal and foreign regulatory requirements.

Our employees, consultants, independent sales agencies, distributors and other commercial partners may engage in misconduct or other improper activities, including non-compliance with regulatory standards and requirements.

We are exposed to the risk that our employees, consultants, independent sales agencies, distributors and other commercial partners may engage in fraudulent or illegal activity. Misconduct by these parties could include intentional, reckless or negligent conduct or other unauthorized activities that violate the regulations of the FDA and non-U.S. regulators, including those laws requiring the reporting of true, complete and accurate information to such regulators, manufacturing standards, healthcare fraud and abuse laws and regulations in the United States and abroad or laws that require the true, complete and accurate reporting of financial information or data. In particular, sales, marketing and business arrangements in the healthcare industry, including the sale of medical devices, are subject to extensive laws and regulations intended to prevent fraud, misconduct, kickbacks, self-dealing and other abusive practices. These laws and regulations may restrict or prohibit a wide range of pricing, discounting, marketing and promotion, sales commission, customer incentive programs and other business arrangements. It is not always possible to identify and deter misconduct by our employees, sales agencies, distributors and other third parties, and the precautions we take to detect and prevent this activity may not be effective in controlling unknown or unmanaged risks or losses or in protecting us from governmental investigations or other actions or lawsuits stemming from a failure to comply with these

 

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laws or regulations. If any such actions are instituted against us and we are not successful in defending ourselves or asserting our rights, those actions could result in the imposition of significant fines or other sanctions, including the imposition of civil, criminal and administrative penalties, damages, monetary fines, possible exclusion from participation in Medicare, Medicaid and other federal healthcare programs, contractual damages, reputational harm, diminished profits and future earnings and curtailment of operations, any of which could adversely affect our ability to operate our business and our results of operations. Whether or not we are successful in defending against such actions or investigations, we could incur substantial costs, including legal fees, and divert the attention of management in defending ourselves against any of these claims or investigations.

We rely on a limited number of third-party suppliers for the majority of our components and materials and may not be able to find replacements or immediately transition to alternative suppliers.

We rely on several suppliers for components of the MAGEC-EOS system and the PRECICE LLD system. These suppliers may be unwilling or unable to supply components of these systems to us reliably and at the levels we anticipate or are required by the market. For us to be successful, our suppliers must be able to provide us with products and components in substantial quantities, in compliance with regulatory requirements, in accordance with agreed upon specifications, at acceptable costs and on a timely basis. An interruption in our commercial operations could occur if we encounter delays or difficulties in securing these components, and if we cannot obtain an acceptable substitute. If we are required to transition to new third-party suppliers for certain components of our implant systems, the use of components or materials furnished by these alternative suppliers could require us to alter our operations. Any such interruption or alternation could harm our reputation, business, financial condition and results of operations.

Furthermore, if we are required to change the manufacturer of a critical component of our implant systems, we will be required to verify that the new manufacturer maintains facilities, procedures and operations that comply with our quality and applicable regulatory requirements, which could further impede our ability to manufacture our implant systems in a timely manner. We currently do not carry inventory for components for more than three months at any given time. Transitioning to a new supplier could be time-consuming and expensive, may result in interruptions in our operations and product delivery, could affect the performance specifications of our implant systems or could require that we modify the design of those systems. If the change in manufacturer results in a significant change to any implant system, a new 510(k) clearance from the FDA or similar international regulatory authorization may be necessary before we implement the change, which could cause substantial delays. The occurrence of any of these events could harm our ability to meet the demand for our products in a timely manner or cost-effectively.

We may not be able to secure alternative equipment and materials and utilize such equipment and materials without experiencing interruptions in our workflow. If we should encounter delays or difficulties in securing, reconfiguring or revalidating the equipment and components we require for our implant systems, our reputation, business, financial condition and results of operations could be negatively impacted.

Performance issues, service interruptions or price increases by our shipping carriers could adversely affect our business and harm our reputation and ability to provide our services on a timely basis.

Expedited, reliable shipping is essential to our operations. We rely heavily on providers of transport services for reliable and secure point-to-point transport of our implant systems to our customers and for tracking of these shipments. Should a carrier encounter delivery performance issues such as loss, damage or destruction of any systems, it would be costly to replace such systems in a timely manner and such occurrences may damage our reputation and lead to decreased demand for our products and increased cost and expense to our business. In addition, any significant increase in shipping rates could adversely

 

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affect our operating margins and results of operations. Similarly, strikes, severe weather, natural disasters or other service interruptions affecting delivery services we use would adversely affect our ability to process orders for our products on a timely basis.

Risks Related to Our Financial Condition and Capital Requirements

We may need to raise additional capital to fund our existing commercial operations, develop and commercialize new products and expand our operations.

Based on our current business plan, we believe our current cash and cash equivalents, borrowing capacity under our credit and security agreements, cash receipts from sales of our products and net proceeds of this offering will be sufficient to meet our anticipated cash requirements for at least the next 24 months. If our available cash balances, net proceeds from this offering and anticipated cash flow from operations are insufficient to satisfy our liquidity requirements, including because of lower demand for our implant systems as a result of lower than currently expected rates of reimbursement from commercial third-party payors and government payors or other risks described in this prospectus, we may seek to sell common or preferred equity or convertible debt securities, enter into an additional credit facility or another form of third-party funding or seek other debt financing.

We may consider raising additional capital in the future to expand our business, to pursue strategic investments, to take advantage of financing opportunities or for other reasons, including to:

 

   

increase our sales and marketing efforts to increase market adoption of our implant systems and address competitive developments;

 

   

provide for supply and inventory costs associated with plans to accommodate potential increases in demand for our implant systems;

 

   

fund development and marketing efforts of any future products or additional features to then-current products;

 

   

acquire, license or invest in new technologies;

 

   

acquire or invest in complementary businesses or assets; and

 

   

finance capital expenditures and general and administrative expenses.

Our present and future funding requirements will depend on many factors, including:

 

   

our ability to achieve revenue growth and improve gross margins;

 

   

our rate of progress in establishing coverage and reimbursement arrangements with domestic and international commercial third-party payors and government payors;

 

   

the cost of expanding our operations and offerings, including our sales and marketing efforts;

 

   

our rate of progress in, and cost of the sales and marketing activities associated with, establishing adoption of our implant systems;

 

   

the cost of research and development activities;

 

   

the effect of competing technological and market developments;

 

   

costs related to international expansion; and

 

   

the potential cost of and delays in product development as a result of any regulatory oversight applicable to our implant systems.

 

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Additional capital may not be available, at such times or in amounts as needed by us. Even if capital is available, it might be available only on unfavorable terms. Any additional equity or convertible debt financing into which we enter could be dilutive to our existing stockholders. Any future debt financing into which we enter may impose covenants upon us that restrict our operations, including limitations on our ability to incur liens or additional debt, pay dividends, repurchase our stock, make certain investments and engage in certain merger, consolidation or asset sale transactions. Any debt financing or additional equity that we raise may contain terms that are not favorable to us or our stockholders. If we raise additional funds through collaboration and licensing arrangements with third parties, it may be necessary to relinquish some rights to our technologies or our products, or grant licenses on terms that are not favorable to us. If access to sufficient capital is not available as and when needed, our business will be materially impaired and we may be required to cease operations, curtail one or more product development or commercialization programs, or we may be required to significantly reduce expenses, sell assets, seek a merger or joint venture partner, file for protection from creditors or liquidate all our assets. Any of these factors could harm our operating results.

We will incur significant costs as a result of operating as a public company and our management expects to devote substantial time to public company compliance programs.

As a public company, we will incur significant legal, accounting and other expenses due to our compliance with regulations and disclosure obligations applicable to us, including compliance with the Sarbanes-Oxley Act, as well as rules implemented by the Securities and Exchange Commission, or SEC, and The NASDAQ Stock Market, or NASDAQ. Stockholder activism, the current political environment and the current high level of government intervention and regulatory reform may lead to substantial new regulations and disclosure obligations, which may lead to additional compliance costs and impact, in ways we cannot currently anticipate, the manner in which we operate our business. Our management and other personnel will devote a substantial amount of time to these compliance programs and monitoring of public company reporting obligations and as a result of the new corporate governance and executive compensation related rules, regulations and guidelines prompted by the Dodd-Frank Wall Street Reform and Consumer Protection Act, or the Dodd-Frank Act, and further regulations and disclosure obligations expected in the future, we will likely need to devote additional time and costs to comply with such compliance programs and rules. These rules and regulations will cause us to incur significant legal and financial compliance costs and will make some activities more time-consuming and costly.

To comply with the requirements of being a public company, we may need to undertake various actions, including implementing new internal controls and procedures and hiring new accounting or internal audit staff. The Sarbanes-Oxley Act requires that we maintain effective disclosure controls and procedures and internal control over financial reporting. We are continuing to develop and refine our disclosure controls and other procedures that are designed to ensure that information required to be disclosed by us in the reports that we file with the SEC is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and that information required to be disclosed in reports under the Securities Exchange Act of 1934, or the Exchange Act, is accumulated and communicated to our principal executive and financial officers. Our current controls and any new controls that we develop may become inadequate and weaknesses in our internal control over financial reporting may be discovered in the future. Any failure to develop or maintain effective controls when we become subject to this requirement could negatively impact the results of periodic management evaluations and annual independent registered public accounting firm attestation reports regarding the effectiveness of our internal control over financial reporting that we may be required to include in our periodic reports we will file with the SEC under Section 404 of the Sarbanes-Oxley Act, harm our operating results, cause us to fail to meet our reporting obligations or result in a restatement of our prior period financial statements. In the event that we are not able to demonstrate compliance with the Sarbanes-Oxley Act, that our internal control over financial reporting is perceived as inadequate or that

 

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we are unable to produce timely or accurate financial statements, investors may lose confidence in our operating results and the price of our common stock could decline. In addition, if we are unable to continue to meet these requirements, we may not be able to remain listed on NASDAQ.

As a result of becoming a public company, we will be obligated to develop and maintain effective internal controls over financial reporting and any failure to maintain the adequacy of these internal controls may adversely affect investor confidence in our company and, as a result, the value of our common stock.

We are not currently required to comply with the SEC rules that implement Section 404 of the Sarbanes-Oxley Act and are therefore not yet required to make a formal assessment of the effectiveness of our internal control over financial reporting for that purpose. Upon becoming a public company, we will be required to comply with certain of these rules, which will require management to certify financial and other information in our quarterly and annual reports and provide an annual management report on the effectiveness of our internal control over financial reporting commencing with our second annual report. We are just beginning the costly and challenging process of compiling the system and processing documentation needed to comply with such requirements. We may not be able to complete our evaluation, testing and any required remediation in a timely fashion.

During the evaluation and testing process, if we identify one or more material weaknesses in our internal control over financial reporting, we will be unable to assert that our internal control over financial reporting is effective. If we are unable to assert that our internal control over financial reporting is effective, or if our independent registered public accounting firm is unable to express an opinion on the effectiveness of our internal control over financial reporting, we could lose investor confidence in the accuracy and completeness of our financial reports, the market price of our common stock could decline, and we could be subject to sanctions or investigations by NASDAQ, the SEC or other regulatory authorities. Failure to remedy any material weakness in our internal control over financial reporting, or to implement or maintain other effective control systems required of public companies, could also restrict our future access to the capital markets.

Our independent registered public accounting firm will not be required to formally attest to the effectiveness of our internal control over financial reporting until the later of our second annual report or the first annual report required to be filed with the SEC following the date we are no longer an “emerging growth company” as defined in the JOBS Act depending on whether we choose to rely on certain exemptions set forth in the JOBS Act.

Compliance with recently adopted rules of the SEC relating to “conflict minerals” may require us and our suppliers to incur substantial expense and may result in disclosure by us that certain minerals used in products we manufacture or contract to manufacture are not “DRC conflict free.”

Because we manufacture or contract to manufacture a product that contains tin, we will be required under SEC rules governing disclosure of the use of “conflict minerals” (tin, tungsten, tantalum and gold) to determine whether those minerals are necessary to the functionality or production of our implant systems and, if so, conduct a country of origin inquiry with respect to all such minerals. If any such minerals may have originated in the Democratic Republic of the Congo, or DRC, or any of its adjoining countries, or covered countries, then we must conduct diligence on the source and chain of custody of those conflict minerals to determine if they originated in one of the covered countries and, if so, whether they financed or benefited armed groups in the covered countries. Disclosures relating to the products that may contain conflict minerals, the country of origin of those minerals and whether they are “DRC conflict free” must be provided in a Form SD (and accompanying conflict minerals report, if required, to disclose the diligence undertaken by us in sourcing the minerals and our conclusions relating to such diligence). If we are required to submit a conflict minerals report, after 2015 that report must be audited by an independent auditor pursuant to existing government auditing standards. Compliance with this

 

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new disclosure rule may be very time-consuming for management and our supply chain personnel (as well as time-consuming for our suppliers) and could involve the expenditure of significant amounts of money by us and them. Disclosures, mandated by this new rule, which can be perceived by the market to be “negative,” may cause customers to refuse to purchase our implant systems. The cost of compliance with the rule could adversely affect our results of operations.

Our credit and security agreements with MidCap Financial Trust contain covenants that may restrict our business and financing activities.

On June 12, 2015, we entered into credit and security agreements, or the Credit Agreements, with MidCap Financial Trust, or MidCap, pursuant to which MidCap has provided us with (1) a revolving credit facility and letters of credit in a maximum principal amount at any time outstanding of up to $5.0 million, and subject to increase pursuant to and in accordance with the terms and conditions of such Credit Agreement by an additional $5.0 million, for a total of up to $10.0 million in revolving availability and (2) a term loan credit facility in a maximum principal amount of up $5.0 million, and subject to increase pursuant to and in accordance with the terms and conditions of such Credit Agreement, for a total of up to $15.0 million in term loans. At June 30, 2015, we had $5.0 million in outstanding debt to MidCap under the term loan credit facility. Borrowings under our Credit Agreements are secured by substantially all of our personal property. Our Credit Agreements restrict our ability to, among other things:

 

   

dispose of or sell our assets;

 

   

make material changes in our business;

 

   

merge with or acquire other entities or assets;

 

   

incur additional indebtedness;

 

   

create liens on our assets;

 

   

pay dividends;

 

   

make investments; and

 

   

pay off subordinated indebtedness.

The covenants in our Credit Agreements, as well as any future financing agreements into which we may enter, may restrict our ability to finance our operations and engage in, expand or otherwise pursue our business activities and strategies. Our ability to comply with these covenants may be affected by events beyond our control, and future breaches of any of these covenants could result in a default under the Credit Agreements. If not waived, future defaults could cause all of the outstanding indebtedness under our Credit Agreements to become immediately due and payable and terminate all commitments to extend further credit.

If we do not have or are unable to generate sufficient cash available to repay our debt obligations when they become due and payable, either upon maturity or in the event of a default, we may not be able to obtain additional debt or equity financing on favorable terms, if at all, which may negatively impact our ability to operate and continue our business as a going concern.

Our ability to use net operating losses to offset future taxable income may be subject to certain limitations.

As of December 31, 2014, we had federal net operating loss carryforwards, or NOLs, of $17.0 million, which begin to expire in the year ending December 31, 2027, and California NOLs of approximately $15.0 million, which begin to expire in the year ending December 31, 2026. As of December 31, 2014, we also had federal and California research and development tax credit carryforwards of $0.5 million

 

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and $0.3 million, respectively. In general, under Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, or the Code, a corporation that undergoes an “ownership change” (generally defined as a cumulative change in equity ownership by “5% shareholders” that exceeds 50 percentage points over a rolling three-year period) may be subject to limitations on its ability to utilize its NOLs and certain credit carryforwards to offset future taxable income and taxes. We are currently analyzing the tax impacts of any potential ownership changes on our federal NOLs and credit carryforwards. Future changes in our stock ownership, including this or future offerings, as well as other changes that may be outside of our control, could result in ownership changes. Our NOLs and credit carryforwards may also be limited under similar provisions of state law. We have recorded a full valuation allowance related to our NOLs and other deferred tax assets due to the uncertainty of the ultimate realization of the future tax benefits of such assets.

Risks Related to Administrative, Organizational and Commercial Operations and Growth

We may be unable to manage our future growth effectively, which could make it difficult to execute our business strategy.

We have been growing rapidly and have a relatively short history of operating as a commercial company. For example, we increased the number of employees from 63 at December 31, 2014 to 91 at June 30, 2015, and our net revenue has grown from $12.0 million for the year ended December 31, 2013 to $25.7 million for the year ended December 31, 2014. We intend to continue to grow our business operations and may experience periods of rapid growth and expansion. This future growth could create a strain on our organizational, administrative and operational infrastructure, including manufacturing operations, quality control, technical support and customer service, sales force management and general and financial administration. We may not be able to maintain the quality of or delivery timelines of our implant systems or satisfy customer demand as it grows. Our ability to manage our growth properly will require us to continue to improve our operational, financial and management controls, as well as our reporting systems and procedures. We may implement new enterprise software systems in a number of areas affecting a broad range of business processes and functional areas. The time and resources required to implement these new systems is uncertain and failure to complete this in a timely and efficient manner could harm our business.

As our commercial operations and sales volume grow, we will need to continue to increase our workflow capacity for manufacturing, customer service, billing and general process improvements and expand our internal quality assurance program, among other things. We will also need to purchase additional equipment, some of which can take several months or more to procure, set up and validate, and increase our manufacturing, maintenance, software and computing capacity to meet increased demand. These increases in scale, expansion of personnel, purchase of equipment or process enhancements may not be successfully implemented.

The loss of our President and Chief Executive Officer or other senior management or our inability to attract and retain highly skilled scientists and salespeople could negatively impact our business.

Our success depends on the skills, experience and performance of our President and Chief Executive Officer, Edmund J. Roschak, and the other members of our executive management team. The individual and collective efforts of these employees will be important as we continue to develop our implant systems and as we expand our commercial activities. We believe that there are only a limited number of individuals with the requisite skills to serve in many of our key positions, and the loss or incapacity of existing members of our executive management team could negatively impact our operations if we experience difficulties in hiring qualified successors. We do not maintain key man life insurance with any of our employees.

Our commercial, manufacturing and research and development programs and operations depend on our ability to attract and retain highly skilled engineers, scientists and technicians. We may not be able to

 

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attract or retain qualified managers, engineers, scientists and technicians in the future due to the competition for qualified personnel among medical device businesses, particularly in California. We also face competition from universities and public and private research institutions in recruiting and retaining highly qualified scientific personnel. Recruiting and retention difficulties can limit our ability to support our commercial, manufacturing and research and development programs. All of our employees are at-will, which means that either we or the employee may terminate his or her employment at any time. The loss of key employees, the failure of any key employee to perform or our inability to attract and retain skilled employees, as needed, or an inability to effectively plan for and implement a succession plan for key employees could harm our business.

If product liability lawsuits are brought against us, our business may be harmed, and we may be required to pay damages that exceed our insurance coverage.

Our business exposes us to potential product liability claims that are inherent in the testing, manufacture and sale of medical devices for orthopedic surgery procedures. These surgeries involve significant risk of serious complications, including bleeding, nerve injury, paralysis and even death. Furthermore, if orthopedic surgeons are not sufficiently trained in the use of our implant systems, they may misuse or ineffectively use our implant systems, which may result in unsatisfactory patient outcomes or patient injury. We could become the subject of product liability lawsuits alleging that component failures, malfunctions, manufacturing flaws, design defects or inadequate disclosure of product-related risks or product-related information resulted in an unsafe condition or injury to patients.

We have had, and continue to have, a small number of product liability claims relating to our products, none of which either individually, or in the aggregate, have resulted, or do we believe will result, in a material negative impact on our business. In the future, we may be subject to additional product liability claims, some of which may have a negative impact on our business.

Regardless of the merit or eventual outcome, product liability claims may result in:

 

   

decreased demand for our products;

 

   

injury to our reputation;

 

   

significant litigation costs;

 

   

substantial monetary awards to or costly settlements with patients;

 

   

product recalls;

 

   

material defense costs;

 

   

loss of revenue;

 

   

the inability to commercialize new products or product candidates; and

 

   

diversion of management attention from pursuing our business strategy.

Our existing product liability insurance coverage may be inadequate to protect us from any liabilities we might incur. If a product liability claim or series of claims is brought against us for uninsured liabilities or in excess of our insurance coverage, our business could suffer. Any product liability claim brought against us, with or without merit, could result in the increase of our product liability insurance rates or the inability to secure coverage in the future. In addition, a recall of some of our products, whether or not the result of a product liability claim, could result in significant costs and loss of customers.

In addition, we may not be able to maintain insurance coverage at a reasonable cost or in sufficient amounts or scope to protect us against losses. Any claims against us, regardless of their merit, could

 

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severely harm our financial condition, strain our management and other resources and adversely affect or eliminate the prospects for commercialization or sales of a product or product candidate that is the subject of any such claim.

We may be subject to various litigation claims and legal proceedings.

We, as well as certain of our officers and distributors, may be subject to other claims or lawsuits. Regardless of the outcome, these lawsuits may result in significant legal fees and expenses and could divert management’s time and other resources. If the claims contained in these lawsuits are successfully asserted against us, we could be liable for damages and be required to alter or cease certain of our business practices or product lines. Any of these outcomes could cause our business, financial performance and cash position to be negatively impacted.

We face risks associated with our international business.

In addition to the United States, we also market and sell the MAGEC-EOS system and the PRECICE LLD system in North America, Europe (principally Germany and the United Kingdom), the Middle East and the Pacific Rim. During the year ended December 31, 2014 and the six months ended June 30, 2015, approximately 45% and 39% of our net revenue, respectively, was attributable to our international customers. The sale and shipment of our products across international borders, as well as the purchase of components and products from international sources, subjects us to extensive U.S., European Economic Area, or EEA, and other foreign governmental trade, import and export and customs regulations and laws. Compliance with these regulations and laws is costly and exposes us to penalties for non-compliance. We expect that our international activities will be dynamic over the foreseeable future as we continue to pursue opportunities in international markets. Our international business operations are subject to a variety of risks, including:

 

   

difficulties in staffing and managing foreign and geographically dispersed operations;

 

   

having to comply with various U.S. and international laws, including export control laws and the U.S. Foreign Corrupt Practices Act of 1977, or the FCPA, and anti-money laundering laws;

 

   

differing regulatory requirements for obtaining clearances or approvals to market our implant systems;

 

   

changes in, or uncertainties relating to, foreign rules and regulations that may impact our ability to sell our implant systems, perform services or repatriate profits to the United States;

 

   

tariffs and trade barriers, export regulations and other regulatory and contractual limitations on our ability to sell our implant systems in certain foreign markets;

 

   

fluctuations in foreign currency exchange rates;

 

   

imposition of limitations on or increase of withholding and other taxes on remittances and other payments by foreign subsidiaries or joint ventures;

 

   

differing multiple payor reimbursement regimes, government payors or patient self-pay systems;

 

   

imposition of differing labor laws and standards;

 

   

economic, political or social instability in foreign countries and regions;

 

   

an inability, or reduced ability, to protect our intellectual property, including any effect of compulsory licensing imposed by government action; and

 

   

availability of government subsidies or other incentives that benefit competitors in their local markets that are not available to us.

 

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We expect that we will begin expanding into other target markets; however, our expansion plans may not be realized, or if realized, may not be successful. We expect each market to have particular regulatory and funding hurdles to overcome and future developments in these markets, including the uncertainty relating to governmental policies and regulations, could harm our business. If we expend significant time and resources on expansion plans that fail or are delayed, our reputation, business and financial condition may be harmed.

Our results may be impacted by changes in foreign currency exchange rates.

We pay certain of our suppliers in a foreign currency under the terms of their supply agreements, and we may pay other suppliers in the future in foreign currency. As a result, an increase in the value of the U.S. dollar relative to foreign currencies could require us to reduce our selling price or risk making our implant systems less competitive in international markets or our costs could increase. Also, if our international sales increase, we may enter into a greater number of transactions denominated in non-U.S. dollars, which could expose us to foreign currency risks, including changes in currency exchange rates. We do not currently engage in any hedging transactions. If we are unable to address these risks and challenges effectively, our international operations may not be successful and our business could be harmed.

We could be negatively impacted by violations of applicable anti-corruption laws or violations of our internal policies designed to ensure ethical business practices.

We operate in a number of countries throughout the world, including in countries that do not have as strong a commitment to anti-corruption and ethical behavior that is required by U.S. laws or by corporate policies. We are subject to the risk that we, our U.S. employees or our employees located in other jurisdictions or any third parties such as our sales agencies and distributors that we engage to do work on our behalf in foreign countries may take action determined to be in violation of anti-corruption laws in any jurisdiction in which we conduct business, including the FCPA and the Bribery Act of 2010, or the U.K. Anti-Bribery Act. The FCPA generally prohibits covered entities and their intermediaries from engaging in bribery or making other prohibited payments, offers or promises to foreign officials for the purpose of obtaining or retaining business or other advantages. In addition, the FCPA imposes recordkeeping and internal controls requirements on publicly traded corporations and their foreign affiliates, which are intended to, among other things, prevent the diversion of corporate funds to the payment of bribes and other improper payments, and to prevent the establishment of “off books” slush funds from which such improper payments can be made.

As a substantial portion of our revenue is, and we expect will continue to be, from jurisdictions outside of the United States, we face significant risks if we fail to comply with the FCPA and other laws that prohibit improper payments, offers or promises of payment to foreign governments and their officials and political parties by us and other business entities for the purpose of obtaining or retaining business or other advantages. In many foreign countries, particularly in countries with developing economies, it may be a local custom that businesses operating in such countries engage in business practices that are prohibited by the FCPA or other laws and regulations. Although we have implemented a company policy requiring our employees and consultants to comply with the FCPA and similar laws, such policy may not be effective at preventing all potential FCPA or other violations. Although our agreements with our international distributors clearly state our expectations for our distributors’ compliance with U.S. laws, including the FCPA, and provide us with various remedies upon any non-compliance, including the ability to terminate the agreement, our distributors may not comply with U.S. laws, including the FCPA. In addition, we operate in certain countries in which the government may take an ownership stake in an enterprise and such government ownership may not be readily apparent, thereby increasing potential anti-corruption law violations. Any violation of the FCPA and U.K. Anti-Bribery Act or any similar anti-corruption law or regulation could result in substantial fines, sanctions, civil and/or criminal penalties and curtailment of operations in certain jurisdictions and might harm our business, financial condition or

 

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results of operations. In addition, we have internal ethics policies with which we require our employees to comply in order to ensure that our business is conducted in a manner that our management deems appropriate. If these anti-corruption laws or internal policies were to be violated, our reputation and operations could also be substantially harmed. Further, detecting, investigating and resolving actual or alleged violations is expensive and can consume significant time and attention of our senior management. As a result of our focus on managing our growth, our development of infrastructure designed to identify FCPA matters and monitor compliance is at an early stage.

If we experience significant disruptions in our information technology systems, our business may be adversely affected.

We depend on our information technology systems for the efficient functioning of our business, including accounting, data storage, compliance, purchasing and inventory management. We do not have redundant systems at this time. While we will attempt to mitigate interruptions, we may experience difficulties in implementing some upgrades, which would impact our business operations, or experience difficulties in operating our business during the upgrade, either of which could disrupt our operations, including our ability to timely ship and track product orders, project inventory requirements, manage our supply chain and otherwise adequately service our customers. In the event we experience significant disruptions as a result of the current implementation of our information technology systems, we may not be able to repair our systems in an efficient and timely manner. Accordingly, such events may disrupt or reduce the efficiency of our entire operation and have a material adverse effect on our results of operations and cash flows.

We are increasingly dependent on sophisticated information technology for our infrastructure. Our information systems require an ongoing commitment of significant resources to maintain, protect and enhance existing systems. Failure to maintain or protect our information systems and data integrity effectively could have a materially adverse effect on our business. For example, third parties may attempt to hack into systems and may obtain our proprietary information.

Our business is subject to seasonal fluctuations.

Our business is subject to seasonal fluctuations in that our sales are typically higher during the summer months and holidays driven by higher sales of our MAGEC-EOS and PRECICE LLD systems, which is influenced by the higher incidence of pediatric surgeries during these periods. Additionally, early onset scoliosis patients tend to have additional health challenges that make scheduling their procedures variable in nature. Our quarterly results have been and will continue to be affected by the additional health challenges faced by early onset scoliosis patients that make scheduling their procedure variable in nature. As a result of these factors, our financial results for any single quarter or for periods of less than a year are not necessarily indicative of the results that may be achieved for a full fiscal year.

Our operations are vulnerable to interruption or loss due to natural or other disasters, power loss, strikes and other events beyond our control.

We conduct a significant portion of our activities, including administration and data processing, at facilities located in Southern California, an area that has experienced major earthquakes, fires and other natural disasters. A major earthquake, fire or other disaster (such as a major flood, tsunami, volcanic eruption or terrorist attack) affecting our facilities, or those of our suppliers, could significantly disrupt our operations, and delay or prevent product shipment or installation during the time required to repair, rebuild or replace our suppliers’ damaged manufacturing facilities; these delays could be lengthy and costly. If any of our customers’ facilities are negatively impacted by a disaster, shipments of our implant systems could be delayed. Additionally, customers may delay purchases of our implant systems until operations return to normal. Even if we are able to quickly respond to a disaster, the ongoing effects of the disaster could create some uncertainty in the operations of our business. In addition, our facilities

 

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may be subject to a shortage of available electrical power and other energy supplies. Any shortages may increase our costs for power and energy supplies or could result in blackouts, which could disrupt the operations of our affected facilities and harm our business. In addition, concerns about terrorism, the effects of a terrorist attack, political turmoil or an outbreak of epidemic diseases could have a negative effect on our operations, those of our suppliers and customers and the ability to travel, which could harm our business, financial condition and results of operations.

Risks Related to Intellectual Property

If we are unable to adequately protect our proprietary technology or maintain issued patents that are sufficient to protect our implant systems, others could compete against us more directly, which could harm our business, financial condition and results of operations.

Our commercial success will depend in part on our success in obtaining and maintaining issued patents and other intellectual property rights in the United States and elsewhere and protecting our proprietary technology. If we do not adequately protect our intellectual property and proprietary technology, competitors may be able to use our technologies and erode or negate any competitive advantage we may have, which could harm our business and ability to achieve profitability.

We own numerous issued patents and pending patent applications that relate to our platform technology. Specifically, as of June 30, 2015, we owned 19 issued U.S. patents, four issued foreign patents, 33 pending U.S. patent applications and 24 pending foreign patent applications. Assuming all required fees are paid, individual patents or applications owned by us will expire between 2025 and 2033.

Our patents may not have, or our pending patent applications that mature into issued patents may not include, claims with a scope sufficient to protect our implant systems, any additional features we develop for our implant systems or any new products. Other parties may have developed technologies that may be related or competitive to our platform, may have filed or may file patent applications and may have received or may receive patents that overlap or conflict with our patent applications, either by claiming the same methods or devices or by claiming subject matter that could dominate our patent position. The patent positions of medical device companies, including our patent position, may involve complex legal and factual questions, and, therefore, the scope, validity and enforceability of any patent claims that we may obtain cannot be predicted with certainty. Patents, if issued, may be challenged, deemed unenforceable, invalidated or circumvented. Proceedings challenging our patents could result in either loss of the patent or denial of the patent application or loss or reduction in the scope of one or more of the claims of the patent or patent application. In addition, such proceedings may be costly. Thus, any patents that we may own may not provide any protection against competitors. Furthermore, an adverse decision in an interference proceeding can result in a third party receiving the patent right sought by us, which in turn could affect our ability to commercialize our implant systems.

Furthermore, though an issued patent is presumed valid and enforceable, its issuance is not conclusive as to its validity or its enforceability and it may not provide us with adequate proprietary protection or competitive advantages against competitors with similar products. Competitors may also be able to design around our patents. Other parties may develop and obtain patent protection for more effective technologies, designs or methods. We may not be able to prevent the unauthorized disclosure or use of our technical knowledge or trade secrets by consultants, suppliers, vendors, former employees and current employees. The laws of some foreign countries do not protect our proprietary rights to the same extent as the laws of the United States, and we may encounter significant problems in protecting our proprietary rights in these countries. If any of these developments were to occur, they each could have a negative impact on our business and competitive position.

Our ability to enforce our patent rights depends on our ability to detect infringement. It may be difficult to detect infringers who do not advertise the components that are used in their products. Moreover, it

 

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may be difficult or impossible to obtain evidence of infringement in a competitor’s or potential competitor’s product. We may not prevail in any lawsuits that we initiate and the damages or other remedies awarded if we were to prevail may not be commercially meaningful.

In addition, proceedings to enforce or defend our patents could put our patents at risk of being invalidated, held unenforceable or interpreted narrowly. Such proceedings could also provoke third parties to assert claims against us, including that some or all of the claims in one or more of our patents are invalid or otherwise unenforceable. If any of our patents covering our implant systems are invalidated or found unenforceable, our financial position and results of operations could be negatively impacted. In addition, if a court found that valid, enforceable patents held by third parties covered one or more of our implant systems, our financial position and results of operations could be harmed.

We rely upon unpatented trade secrets, unpatented know-how and continuing technological innovation to develop and maintain our competitive position, which we seek to protect, in part, by confidentiality agreements with our employees and our collaborators and consultants. We also have agreements with our employees and selected consultants that obligate them to assign their inventions to us and have non-compete agreements with some, but not all, of our consultants. It is possible that technology relevant to our business will be independently developed by a person that is not a party to such an agreement. Furthermore, if the employees and consultants who are parties to these agreements breach or violate the terms of these agreements, we may not have adequate remedies for any such breach or violation, and we could lose our trade secrets through such breaches or violations. Further, our trade secrets could otherwise become known or be independently discovered by our competitors.

Litigation or other proceedings or third-party claims of intellectual property infringement could require us to spend significant time and money and could prevent us from selling one or more of our implant systems or impact our stock price.

Our commercial success will depend in part on not infringing the patents or violating the other proprietary rights of others. Significant litigation regarding patent rights occurs in our industry. Our competitors in both the United States and abroad, many of which have substantially greater resources and have made substantial investments in patent portfolios and competing technologies, may have applied for or obtained or may in the future apply for and obtain, patents that will prevent, limit or otherwise interfere with our ability to make, use and sell our products. We do not always conduct independent reviews of patents issued to third parties. In addition, patent applications in the United States and elsewhere can be pending for many years before issuance, so there may be applications of others now pending of which we are unaware that may later result in issued patents that will prevent, limit or otherwise interfere with our ability to make, use or sell our products. Third parties may, in the future, assert claims that we are employing their proprietary technology without authorization, including claims from competitors or from non-practicing entities that have no relevant product revenue and against whom our own patent portfolio may have no deterrent effect. As we continue to commercialize our implant systems in their current or updated forms, launch new products and enter new markets, we expect that competitors may claim that one or more of our implant systems infringe their intellectual property rights as part of business strategies designed to impede our successful commercialization and entry into new markets. The large number of patents, the rapid rate of new patent applications and issuances, the complexities of the technology involved, and the uncertainty of litigation may increase the risk of business resources and management’s attention being diverted to patent litigation. Although we are presently unaware of any basis by which a third party would be justified in making such claims, in the future, we may receive letters or other threats or claims from third parties inviting us to take licenses under, or alleging that we infringe, their patents.

Moreover, we may become party to future adversarial proceedings regarding our patent portfolio or the patents of third parties. Such proceedings could include supplemental examination or contested post-

 

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grant proceedings such as inter partes review, reexamination, interference or derivation proceedings before the U.S. Patent and Trademark Office and challenges in U.S. District Court. Patents may be subjected to opposition, post-grant review or comparable proceedings lodged in various foreign, both national and regional, patent offices. The legal threshold for initiating litigation or contested proceedings may be low, so that even lawsuits or proceedings with a low probability of success might be initiated. Litigation and contested proceedings can also be expensive and time-consuming, and our adversaries in these proceedings may have the ability to dedicate substantially greater resources to prosecuting these legal actions than we can.

Any lawsuits resulting from such allegations could subject us to significant liability for damages and invalidate our proprietary rights. Any potential intellectual property litigation also could force us to do one or more of the following:

 

   

stop making, selling or using products or technologies that allegedly infringe the asserted intellectual property;

 

   

lose the opportunity to license our technology to others or to collect royalty payments based upon successful protection and assertion of our intellectual property rights against others;

 

   

incur significant legal expenses;

 

   

pay substantial damages or royalties to the party whose intellectual property rights we may be found to be infringing;

 

   

pay the attorney’s fees and costs of litigation to the party whose intellectual property rights we may be found to be infringing;

 

   

redesign those products that contain the allegedly infringing intellectual property, which could be costly, disruptive and/or infeasible; and/or

 

   

attempt to obtain a license to the relevant intellectual property from third parties, which may not be available on reasonable terms or at all.

Any litigation or claim against us, even those without merit, may cause us to incur substantial costs, and could place a significant strain on our financial resources, divert the attention of management from our core business and harm our reputation. If we are found to infringe the intellectual property rights of third parties, we could be required to pay substantial damages (which may be increased up to three times of awarded damages) and/or substantial royalties and could be prevented from selling our products unless we obtain a license or are able to redesign our products to avoid infringement. Any such license may not be available on reasonable terms, if at all, and there can be no assurance that we would be able to redesign our products in a way that would not infringe the intellectual property rights of others. We could encounter delays in product introductions while we attempt to develop alternative methods or products. If we fail to obtain any required licenses or make any necessary changes to our products or technologies, we may have to withdraw existing products from the market or may be unable to commercialize one or more of our products, all of which could have a material adverse effect on our business, results of operations and financial condition.

In addition, we generally indemnify our customers and international distributors with respect to infringement by our products of the proprietary rights of third parties. Third parties may assert infringement claims against our customers or distributors. These claims may require us to initiate or defend protracted and costly litigation on behalf of our customers or distributors, regardless of the merits of these claims. If any of these claims succeed or settle, we may be forced to pay damages or settlement payments on behalf of our customers or distributors or may be required to obtain licenses for the products they use. If we cannot obtain all necessary licenses on commercially reasonable terms, our customers may be forced to stop using our products.

 

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Recent changes in U.S. patent laws may limit our ability to obtain, defend and/or enforce our patents.

Recent patent reform legislation could increase the uncertainties and costs surrounding the prosecution of our patent applications and the enforcement or defense of our issued patents. The Leahy-Smith America Invents Act, or the Leahy-Smith Act, includes a number of significant changes to U.S. patent law. These include provisions that affect the way patent applications are prosecuted and also affect patent litigation. The U.S. Patent and Trademark Office recently developed new regulations and procedures to govern administration of the Leahy-Smith Act, and many of the substantive changes to patent law associated with the Leahy-Smith Act, and in particular, the first to file provisions, which only became effective on March 16, 2013. The first to file provisions limit the rights of an inventor to patent an invention if not the first to file an application for patenting that invention, even if such invention was the first invention. Accordingly, it is not clear what, if any, impact the Leahy-Smith Act will have on the operation of our business.

However, the Leahy-Smith Act and its implementation could increase the uncertainties and costs surrounding the enforcement and defense of our issued patents. For example, the Leahy-Smith Act provides that an administrative tribunal known as the Patent Trial and Appeals Board, or PTAB, provides a venue for challenging the validity of patents at a cost that is much lower than district court litigation and on timelines that are much faster. Although it is not clear what, if any, long-term impact the PTAB proceedings will have on the operation of our business, the initial results of patent challenge proceedings before the PTAB since its inception in 2013 have resulted in the invalidation of many U.S. patent claims. The availability of the PTAB as a lower-cost, faster and potentially more potent tribunal for challenging patents could increase the likelihood that our own patents will be challenged, thereby increasing the uncertainties and costs of maintaining and enforcing them.

If we are unable to protect the confidentiality of our trade secrets, our business and competitive position could be harmed.

In addition to patent protection, we also rely upon copyright and trade secret protection, as well as non-disclosure agreements and invention assignment agreements with our employees, consultants and third parties, to protect our confidential and proprietary information. In addition to contractual measures, we try to protect the confidential nature of our proprietary information using physical and technological security measures. Such measures may not, for example, in the case of misappropriation of a trade secret by an employee or third party with authorized access, provide adequate protection for our proprietary information. Our security measures may not prevent an employee or consultant from misappropriating our trade secrets and providing them to a competitor, and recourse we take against such misconduct may not provide an adequate remedy to protect our interests fully. Unauthorized parties may also attempt to copy or reverse engineer certain aspects of our products that we consider proprietary. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret can be difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, trade secrets may be independently developed by others in a manner that could prevent legal recourse by us. If any of our confidential or proprietary information, such as our trade secrets, were to be disclosed or misappropriated, or if any such information was independently developed by a competitor, our business and competitive position could be harmed.

We may not be able to enforce our intellectual property rights throughout the world.

The laws of some foreign countries do not protect intellectual property rights to the same extent as the laws of the United States. Many companies have encountered significant problems in protecting and defending intellectual property rights in certain foreign jurisdictions. This could make it difficult for us to stop infringement of our foreign patents, if obtained, or the misappropriation of our other intellectual property rights. For example, some foreign countries have compulsory licensing laws under which a patent owner must grant licenses to third parties. In addition, some countries limit the enforceability of

 

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patents against third parties, including government agencies or government contractors. In these countries, patents may provide limited or no benefit. Patent protection must ultimately be sought on a country-by-country basis, which is an expensive and time-consuming process with uncertain outcomes. Accordingly, we may choose not to seek patent protection in certain countries, and we will not have the benefit of patent protection in such countries.

Proceedings to enforce our patent rights in foreign jurisdictions could result in substantial costs and divert our efforts and attention from other aspects of our business. Accordingly, our efforts to protect our intellectual property rights in such countries may be inadequate. In addition, changes in the law and legal decisions by courts in the United States and foreign countries may affect our ability to obtain adequate protection for our technology and the enforcement of our intellectual property.

Third parties may assert ownership or commercial rights to inventions we develop.

Third parties may in the future make claims challenging the inventorship or ownership of our intellectual property. We have written agreements with collaborators that provide for the ownership of intellectual property arising from our collaborations. In addition, we may face claims by third parties that our agreements with employees, contractors or consultants obligating them to assign intellectual property to us are ineffective or in conflict with prior or competing contractual obligations of assignment, which could result in ownership disputes regarding intellectual property we have developed or will develop and interfere with our ability to capture the commercial value of such intellectual property. Litigation may be necessary to resolve an ownership dispute, and if we are not successful, we may be precluded from using certain intellectual property or may lose our exclusive rights in that intellectual property. Either outcome could harm our business and competitive position.

Third parties may assert that our employees or consultants have wrongfully used or disclosed confidential information or misappropriated trade secrets.

We employ individuals who previously worked with other companies, including our competitors or potential competitors. Although we try to ensure that our employees and consultants do not use the proprietary information or know-how of others in their work for us, we may be subject to claims that we or our employees, consultants or independent contractors have inadvertently or otherwise used or disclosed intellectual property, including trade secrets or other proprietary information, of a former employer or other third party. Litigation may be necessary to defend against these claims. If we fail in defending any such claims or settling those claims, in addition to paying monetary damages or a settlement payment, we may lose valuable intellectual property rights or personnel. Even if we are successful in defending against such claims, litigation could result in substantial costs and/or be a distraction to management and other employees.

Risks Related to Regulatory Matters

The MAGEC-EOS system, the PRECICE LLD system and our operations are subject to extensive government regulation and oversight both in the United States and abroad, and our failure to comply with applicable requirements could harm our business.

In the United States, we have obtained 510(k) premarket clearance from the FDA to market the MAGEC-EOS system for early onset scoliosis and the PRECICE LLD system for treatment of limb length discrepancy. Even though we have obtained these clearances, the MAGEC-EOS system and the PRECICE LLD system remain subject to extensive regulation in the United States and elsewhere, including by the FDA and its foreign counterparts. The FDA and foreign regulatory agencies regulate, among other things, with respect to medical devices:

 

   

design, development and manufacturing;

 

   

testing, labeling, content and language of instructions for use and storage;

 

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clinical trials;

 

   

product safety;

 

   

marketing, sales and distribution;

 

   

premarket clearance and approval;

 

   

record keeping procedures;

 

   

advertising and promotion;

 

   

recalls and field safety corrective actions;

 

   

post-market surveillance, including reporting of deaths or serious injuries and malfunctions that, if they were to recur, could lead to death or serious injury;

 

   

post-market approval studies; and

 

   

product import and export.

The regulations to which we are subject are complex and have tended to become more stringent over time. Regulatory changes could result in restrictions on our ability to carry on or expand our operations, higher than anticipated costs or lower than anticipated sales. The FDA enforces these regulatory requirements through periodic unannounced inspections. We do not know whether we will pass any future FDA inspections. Failure to comply with applicable regulations could jeopardize our ability to sell our implant systems and result in enforcement actions such as:

 

   

warning letters;

 

   

fines;

 

   

injunctions;

 

   

civil penalties;

 

   

termination of distribution;

 

   

recalls or seizures of products;

 

   

delays in the introduction of products into the market;

 

   

total or partial suspension of production;

 

   

refusal to grant future clearances or approvals;

 

   

withdrawals or suspensions of current clearances or approvals, resulting in prohibitions on sales of our implant systems; and

 

   

in the most serious cases, criminal penalties.

Any of these sanctions could result in higher than anticipated costs or lower than anticipated sales and harm our reputation, business, financial condition and results of operations.

We may not receive the necessary clearances or approvals for our future products, and failure to timely obtain necessary clearances or approvals for our future products would adversely affect our ability to grow our business.

Clinical data are sometimes required to support substantial equivalence. In the premarket approval, or PMA, process, the FDA must determine that a proposed device is safe and effective for its intended use based, in part, on extensive data, including, but not limited to, technical, pre-clinical, clinical trial, manufacturing and labeling data. The PMA process is typically required for devices that are deemed to pose the greatest risk, such as life-sustaining, life-supporting or implantable devices.

 

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Modifications to products that are approved through a PMA application generally require FDA approval. Similarly, certain modifications made to products cleared through a 510(k) may require a new 510(k) clearance. Both the PMA approval and the 510(k) clearance process can be expensive, lengthy and uncertain. The FDA’s 510(k) clearance process usually takes from three to 12 months, but can last longer. The process of obtaining a PMA is much more costly and uncertain than the 510(k) clearance process and generally takes from one to three years, or even longer, from the time the application is filed with the FDA. In addition, a PMA generally requires the performance of one or more clinical trials. Despite the time, effort and cost, a device may not be approved or cleared by the FDA. Any delay or failure to obtain necessary regulatory approvals could harm our business. Furthermore, even if we are granted regulatory clearances or approvals, they may include significant limitations on the indicated uses for the device, which may limit the market for the device.

In the United States, we have obtained 510(k) premarket clearance from the FDA to market the MAGEC-EOS system for early onset scoliosis and the PRECICE LLD system for limb lengthening. An element of our strategy is to continue to upgrade our implant systems, add new features and expand approval of our current systems to new indications. We expect that any such modifications may require new 510(k) clearance; however, future modifications may be subject to the substantially more costly, time-consuming and uncertain PMA process. If the FDA requires us to go through a lengthier, more rigorous examination for future products or modifications to existing products than we had expected, product introductions or modifications could be delayed or canceled, which could cause our sales to decline.

The FDA can delay, limit or deny clearance or approval of a device for many reasons, including:

 

   

we may not be able to demonstrate to the FDA’s satisfaction that the product or modification is substantially equivalent to the proposed predicate device or safe and effective for its intended use;

 

   

the data from our pre-clinical studies and clinical trials may be insufficient to support clearance or approval, where required; and

 

   

the manufacturing process or facilities we use may not meet applicable requirements.

In addition, the FDA may change its clearance and approval policies, adopt additional regulations or revise existing regulations, or take other actions, which may prevent or delay approval or clearance of our future products under development or impact our ability to modify our currently cleared product on a timely basis. Such policy or regulatory changes could impose additional requirements upon us that could delay our ability to obtain new 510(k) clearances, increase the costs of compliance or restrict our ability to maintain our current clearances.

In order to sell our implant systems in member countries of the EEA our products must comply with the essential requirements of the EU Medical Devices Directive (Council Directive 93/42/EEC). Compliance with these requirements is a prerequisite to be able to affix the Conformité Européenne, or CE, mark to our implant systems, without which they cannot be sold or marketed in the EEA. To demonstrate compliance with the essential requirements we must undergo a conformity assessment procedure, which varies according to the type of medical device and its classification. Except for low-risk medical devices (Class I with no measuring function and which are not sterile), where the manufacturer can issue an EC Declaration of Conformity based on a self-assessment of the conformity of its products with the essential requirements of the EU Medical Devices Directive, a conformity assessment procedure requires the intervention of an organization accredited by a Member State of the EEA to conduct conformity assessments, or a Notified Body. Depending on the relevant conformity assessment procedure, the Notified Body would typically audit and examine the technical file and the quality system for the manufacture, design and final inspection of our devices. The Notified Body issues a CE Certificate of Conformity following successful completion of a conformity assessment procedure conducted in relation

 

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to the medical device and its manufacturer and their conformity with the essential requirements. This certificate entitles the manufacturer to affix the CE mark to its medical devices after having prepared and signed a related EC Declaration of Conformity.

As a general rule, demonstration of conformity of medical devices and their manufacturers with the essential requirements must be based, among other things, on the evaluation of clinical data supporting the safety and performance of the products during normal conditions of use. Specifically, a manufacturer must demonstrate that the device achieves its intended performance during normal conditions of use, that the known and foreseeable risks, and any adverse events, are minimized and acceptable when weighed against the benefits of its intended performance, and that any claims made about the performance and safety of the device (e.g., product labeling and instructions for use) are supported by suitable evidence. We received CE mark for the MAGEC-EOS system in 2009 and the PRECICE LLD system in 2010. If we fail to remain in compliance with applicable European laws and directives, we would not be able to continue to affix the CE mark to these systems, which would prevent us from selling them within the EEA.

We will also need to obtain regulatory approval in other foreign jurisdictions in which we plan to market and sell our implant systems.

Modifications to the MAGEC-EOS system, the PRECICE LLD system and our future products may require new 510(k) clearances or PMA approvals, and may require us to cease marketing or recall the modified products until clearances are obtained.

Any modification to a 510(k)-cleared device that could significantly affect its safety or effectiveness, or that would constitute a major change in its intended use, design or manufacture, requires a new 510(k) clearance or, possibly, approval of a PMA. The FDA requires every manufacturer to make this determination in the first instance, but the FDA may review any manufacturer’s decision. The FDA may not agree with our decisions regarding whether new clearances or approvals are necessary. We have made modifications to our implant systems in the past and have determined based on our review of the applicable FDA regulations and guidance that in certain instances new 510(k) clearances were not required. We may make similar modifications or add additional features in the future that we believe do not require a new 510(k) clearance or approval of a PMA. If the FDA disagrees with our determination and requires us to submit new 510(k) notifications or PMA applications for modifications to our previously cleared products for which we have concluded that new clearances or approvals are unnecessary, we may be required to cease marketing or to recall the modified product until we obtain clearance or approval, and we may be subject to significant regulatory fines or penalties.

If treatment guidelines for the orthopedic conditions we are targeting change or the standard of care evolves, we may need to redesign and seek new marketing authorization from the FDA for one or more of our implant systems.

If treatment guidelines for the orthopedic conditions we are targeting or the standard of care for such conditions evolves, we may need to redesign the applicable implant system and seek new clearances or approvals from the FDA. Our 510(k) clearances from the FDA are based on current treatment guidelines. If treatment guidelines change so that different treatments become desirable, the clinical utility of one or more of our implant systems could be diminished and our business could suffer.

The misuse or off-label use of our implant systems may harm our reputation in the marketplace, result in injuries that lead to product liability suits or result in costly investigations, fines or sanctions by regulatory bodies if we are deemed to have engaged in the promotion of these uses, any of which could be costly to our business.

Our implant systems have been cleared by the FDA for specific treatments. We train our marketing personnel and independent sales agencies and distributors to not promote our implant systems for uses outside of the FDA-cleared indications for use, known as “off-label uses.” For example, the MAGEC-EOS system has been approved only for the treatment of scoliosis patients under 10 years of age, and the

 

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PRECICE LLD system has been indicated for use only using particularly identified screw types. We cannot, however, prevent a physician from using our implant systems off-label, when in the physician’s independent professional medical judgment he or she deems it appropriate. There may be increased risk of injury to patients if physicians attempt to use our implant systems off-label. Furthermore, the use of our implant systems for indications other than those cleared by the FDA or approved by any foreign regulatory body may not effectively treat such conditions, which could harm our reputation in the marketplace among physicians and patients.

If the FDA or any foreign regulatory body determines that our promotional materials or training constitute promotion of an off-label use, it could request that we modify our training or promotional materials or subject us to regulatory or enforcement actions, including the issuance or imposition of an untitled letter, which is used for violators that do not necessitate a warning letter, injunction, seizure, civil fine or criminal penalties. It is also possible that other federal, state or foreign enforcement authorities might take action under other regulatory authority, such as false claims laws, if they consider our business activities to constitute promotion of an off-label use, which could result in significant penalties, including, but not limited to, criminal, civil and administrative penalties, damages, fines, disgorgement, exclusion from participation in government healthcare programs and the curtailment of our operations.

Our implant systems may cause or contribute to adverse medical events that we are required to report to the FDA, and if we fail to do so, we would be subject to sanctions that could harm our reputation, business, financial condition and results of operations. The discovery of serious safety issues with our implant systems, or a recall of our implant systems either voluntarily or at the direction of the FDA or another governmental authority, could have a negative impact on us.

We are subject to the FDA’s medical device reporting regulations and similar foreign regulations, which require us to report to the FDA when we receive or become aware of information that reasonably suggests that one or more of our implant systems may have caused or contributed to a death or serious injury or malfunctioned in a way that, if the malfunction were to recur, it could cause or contribute to a death or serious injury. The timing of our obligation to report is triggered by the date we become aware of the adverse event as well as the nature of the event. We may fail to report adverse events of which we become aware within the prescribed timeframe. We may also fail to recognize that we have become aware of a reportable adverse event, especially if it is not reported to us as an adverse event or if it is an adverse event that is unexpected or removed in time from the use of the implant system. If we fail to comply with our reporting obligations, the FDA could take action, including warning letters, untitled letters, administrative actions, criminal prosecution, imposition of civil monetary penalties, revocation of our device clearance, seizure of our products or delay in clearance of future products.

The FDA and foreign regulatory bodies have the authority to require the recall of commercialized products in the event of material deficiencies or defects in design or manufacture of a product or in the event that a product poses an unacceptable risk to health. The FDA’s authority to require a recall must be based on a finding that there is reasonable probability that the device could cause serious injury or death. We may also choose to voluntarily recall a product if any material deficiency is found. A government-mandated or voluntary recall by us could occur as a result of an unacceptable risk to health, component failures, malfunctions, manufacturing defects, labeling or design deficiencies, packaging defects or other deficiencies or failures to comply with applicable regulations. Product defects or other errors may occur in the future. Recalls involving our implant systems could be particularly harmful to our business, financial condition and results of operations because they are currently our only products.

Companies are required to maintain certain records of recalls and corrections, even if they are not reportable to the FDA. We may initiate voluntary withdrawals or corrections for our implant systems in the future that we determine do not require notification of the FDA. If the FDA disagrees with our

 

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determinations, it could require us to report those actions as recalls and we may be subject to enforcement action. A future recall announcement could harm our reputation with customers, potentially lead to product liability claims against us and negatively affect our sales.

If we or our distributors do not obtain and maintain international regulatory registrations or approvals for our implant systems, we will not be able to market and sell our systems outside of the United States.

Sales of our devices outside the United States are subject to foreign regulatory requirements that vary widely from country to country. In addition, the FDA regulates exports of medical devices from the United States. While the regulations of some countries may not impose barriers to marketing and selling our implant systems or only require notification, others require that we or our distributors obtain the approval of a specified regulatory body. We have applied for and received regulatory approval of the MAGEC-EOS system and the PRECICE LLD system in Europe (in addition to in Australia, Israel, Korea, New Zealand, South Africa, and Turkey for PRECICE LLD and Australia, Israel, Korea, Kuwait, New Zealand, Philippines, Saudi Arabia, South Africa, and Turkey, where regulatory approval is required in addition to the CE mark) and are seeking regulatory approval to market the MAGEC-EOS system in India, Egypt, Singapore, Taiwan, Japan, Serbia, and Slovenia and the PRECICE LLD system in India, Japan, Taiwan, Serbia, Slovenia, and China. Complying with foreign regulatory requirements, including obtaining registrations or approvals, can be expensive and time-consuming, and we or our distributors may not receive regulatory approvals in each country in which we plan to market our implant systems or we may not be able to do so on a timely basis. The time required to obtain registrations or approvals, if required by other countries, may be longer than that required for FDA clearance, and requirements for such registrations, clearances or approvals may significantly differ from FDA requirements. If we modify our implant systems, we or our distributors may need to apply for additional regulatory approvals before we are permitted to sell the modified product. In addition, we may not continue to meet the quality and safety standards required to maintain the authorizations that we or our distributors have received. If we or our distributors are unable to maintain our authorizations in a particular country, we will no longer be able to sell the applicable product in that country, which could harm our business.

Regulatory clearance or approval by the FDA does not ensure clearance or approval by regulatory authorities in other countries, and clearance or approval by one or more foreign regulatory authorities does not ensure clearance or approval by regulatory authorities in other foreign countries or by the FDA. However, a failure or delay in obtaining regulatory clearance or approval in one country may have a negative effect on the regulatory process in others.

We must manufacture our products in accordance with federal and state regulations, and we could be forced to recall our installed systems or terminate production if we fail to comply with these regulations.

The methods used in, and the facilities used for, the manufacture of our implant systems must comply with the FDA’s Quality System Regulation, or QSR, which is a complex regulatory scheme that covers the procedures and documentation of the design, testing, production, process controls, quality assurance, labeling, packaging, handling, storage, distribution, installation, servicing and shipping of medical devices. Furthermore, we are required to verify that our suppliers maintain facilities, procedures and operations that comply with our quality and applicable regulatory requirements. The FDA enforces the QSR through periodic announced or unannounced inspections of medical device manufacturing facilities, which may include the facilities of subcontractors. Our implant systems are also subject to similar state regulations and various laws and regulations of foreign countries governing manufacturing.

We or any subcontractors may not take the necessary steps to comply with applicable regulations, which could cause delays in the delivery of our implant systems. In addition, failure to comply with applicable FDA requirements or later discovery of previously unknown problems with our implant systems or manufacturing processes could result in, among other things:

 

   

warning letters or untitled letters;

 

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fines, injunctions or civil penalties;

 

   

suspension or withdrawal of approvals or clearances;

 

   

seizures or recalls of our implant systems;

 

   

total or partial suspension of production or distribution;

 

   

administrative or judicially imposed sanctions;

 

   

the FDA’s refusal to grant pending or future clearances or approvals for our implant systems;

 

   

clinical holds;

 

   

refusal to permit the import or export of our implant systems; and

 

   

criminal prosecution of us or our employees.

Any of these actions could significantly and negatively impact supply of our implant systems. If any of these events occurs, our reputation could be harmed, we could be exposed to product liability claims and we could lose customers and suffer reduced revenue and increased costs.

Legislative or regulatory reforms in the United States or the EU may make it more difficult and costly for us to obtain regulatory clearances or approvals for our implant systems or to produce, market or distribute our implant systems after clearance or approval is obtained.

From time to time, legislation is drafted and introduced in Congress that could significantly change the statutory provisions governing the regulation of medical devices or the reimbursement thereof. In addition, the FDA regulations and guidance are often revised or reinterpreted by the FDA in ways that may significantly affect our business and our implant systems. Any new statutes, regulations or revisions or reinterpretations of existing regulations may impose additional costs or lengthen review times of any future products or make it more difficult to manufacture, market or distribute our implant systems or future products. We cannot determine what effect changes in regulations, statutes, legal interpretation or policies, when and if promulgated, enacted or adopted may have on our business in the future. Such changes could, among other things, require:

 

   

additional testing prior to obtaining clearance or approval;

 

   

changes to manufacturing methods;

 

   

recall, replacement or discontinuance of our implant systems or future products; or

 

   

additional record keeping.

Any of these changes could require substantial time and cost and could harm our business and our financial results.

In September 2012, the European Commission published proposals for the revision of the EU regulatory framework for medical devices. The proposal would replace the EU Medical Devices Directive and the Active Implantable Medical Devices Directive with a new regulation (the Medical Devices Regulation). Unlike the Directives that must be implemented into national laws, the Regulation would be directly applicable in all EEA Member States and so is intended to eliminate current national differences in regulation of medical devices.

In October 2013, the European Parliament approved a package of reforms to the European Commission’s proposals. Under the revised proposals, only designated “special notified bodies” would be entitled to conduct conformity assessments of high-risk devices. These special notified bodies will need

 

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to notify the European Commission when they receive an application for a conformity assessment for a new high-risk device. The European Commission will then forward the notification and the accompanying documents on the device to the Medical Devices Coordination Group (a new, yet to be created, body chaired by the European Commission, and representatives of EEA Member States), for an opinion. These new procedures may result in a longer or more burdensome assessment of our new products.

If adopted, the Medical Devices Regulation is expected to enter into force sometime in 2016 and become applicable three years thereafter. In its current form it would, among other things, also impose additional reporting requirements on manufacturers of high-risk medical devices, impose an obligation on manufacturers to appoint a “qualified person” responsible for regulatory compliance and provide for more strict clinical evidence requirements.

Our relationships with physician consultants, owners and investors could be subject to additional scrutiny from regulatory enforcement authorities and could subject us to possible administrative, civil or criminal sanctions.

Federal and state laws and regulations impose restrictions on our relationships with physicians who are consultants, owners and investors. We have entered into consulting agreements, license agreements and other agreements with physicians in which we provided stock options or cash or both as compensation. Some of the physicians with which we have such consulting and other agreements are affiliated with some of our customers, including some of our largest customers. Additionally, at least one of these physicians also has a private foundation in which we have provided financial support. Finally, we have other written and oral arrangements with physicians, including for research and development grants and for other purposes as well.

We could be adversely affected if regulatory agencies were to interpret our financial relationships with these physicians, who may be in a position to influence the ordering of and use of our products for which governmental reimbursement may be available, as being in violation of applicable laws. If our relationships with physicians are found to be in violation of the laws and regulations that apply to us, we may be required to restructure the arrangements and could be subject to administrative, civil and criminal penalties, including exclusion from participation in government healthcare programs, imprisonment, and the curtailment or restructuring of our operations, any of which could negatively impact our ability to operate our business and our results of operations.

Our business involves the use of hazardous materials and we and our third-party manufacturers must comply with environmental laws and regulations, which may be expensive and restrict how we do business.

Our third-party manufacturers’ activities and our own activities involve the controlled storage, use and disposal of hazardous materials. We and our manufacturers are subject to federal, state, local and foreign laws and regulations governing the use, generation, manufacture, storage, handling and disposal of these hazardous materials. We currently carry no insurance specifically covering environmental claims relating to the use of hazardous materials, but we do reserve funds to address these claims at both the federal and state levels. Although we believe that our safety procedures for handling and disposing of these materials and waste products comply with the standards prescribed by these laws and regulations, we cannot eliminate the risk of accidental injury or contamination from the use, storage, handling or disposal of hazardous materials. In the event of an accident, state or federal or other applicable authorities may curtail our use of these materials and interrupt our business operations. In addition, if an accident or environmental discharge occurs, or if we discover contamination caused by prior operations, including by prior owners and operators of properties we acquire, we could be liable for cleanup obligations, damages and fines. If such unexpected costs are substantial, this could significantly harm our financial condition and results of operations.

 

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We are subject to federal, state and foreign fraud and abuse laws and health information privacy and security laws, which, if violated, could subject us to substantial penalties. Additionally, any challenge to or investigation into our practices under these laws could cause adverse publicity and be costly to respond to, and thus could harm our business.

There are numerous U.S. federal and state, as well as foreign, laws pertaining to healthcare fraud and abuse, including anti-kickback, false claims and physician transparency laws. Our relationships with providers and hospitals are subject to scrutiny under these laws. We may also be subject to patient privacy regulation by both the federal government and the states and foreign jurisdictions in which we conduct our business. The laws that may affect our ability to operate include:

 

   

the federal Anti-Kickback Statute, which prohibits, among other things, persons from knowingly and willfully soliciting, offering, receiving or providing remuneration, directly or indirectly, in cash or in kind, to induce either the referral of an individual or furnishing or arranging for a good or service, for which payment may be made, in whole or in part, under federal healthcare programs, such as Medicare and Medicaid. A person or entity does not need to have actual knowledge of the statute or specific intent to violate it to have committed a violation. Moreover, the government may assert that a claim including items or services resulting from a violation of the federal Anti-Kickback Statute constitutes a false or fraudulent claim for purposes of the False Claims Act. Violations of the federal Anti-kickback Statute may result in substantial civil or criminal penalties, including criminal fines of up to $25,000, imprisonment of up to five years, civil penalties under the Civil Monetary Penalties Law of up to $50,000 for each violation, plus three times the remuneration involved, civil penalties under the federal False Claims Act of up to $11,000 for each claim submitted, plus three times the amounts paid for such claims, and exclusion from participation in the Medicare and Medicaid programs;

 

   

the federal civil and criminal false claims laws and civil monetary penalties laws, which prohibits, among other things, individuals or entities from knowingly presenting, or causing to be presented, claims for payment from Medicare, Medicaid or other federal healthcare programs that are false or fraudulent. Private individuals can bring False Claims Act “qui tam” actions, on behalf of the government and such individuals, commonly known as “whistleblowers,” may share in any amounts paid by the entity to the government in fines or settlement. When an entity is determined to have violated the False Claims Act, the government may impose penalties of not less than $5,500 and not more than $11,000 per claim, plus three times the amount of damages which the government sustains because of the submission of a false claim, and exclude the entity from participation in Medicare, Medicaid and other federal healthcare programs;

 

   

the federal Civil Monetary Penalties Law, which prohibits, among other things, offering or transferring remuneration to a federal healthcare beneficiary that a person knows or should know is likely to influence the beneficiary’s decision to order or receive items or services reimbursable by the government from a particular provider or supplier;

 

   

the Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created federal criminal statutes that prohibit, among other things, executing a scheme to defraud any healthcare benefit program and making false statements relating to healthcare matters. Similar to the federal Anti-Kickback Statute, a person or entity does not need to have actual knowledge of the statute or specific intent to violate it to have committed a violation;

 

   

the federal physician sunshine requirements under the Patient Protection and Affordable Care Act, as amended by the Health Care and Education Reconciliation Act, collectively referred to as the Affordable Care Act, which requires certain manufacturers of drugs, devices, biologics and medical supplies to report annually to the U.S. Department of Health and Human Services information related to payments and other transfers of value to

 

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physicians, which is defined broadly to include other healthcare providers and teaching hospitals and ownership and investment interests held by physicians and their immediate family members. Manufacturers are required to submit annual reports to CMS and failure to do so may result in civil monetary penalties up to an aggregate of $150,000 per year (and up to an aggregate of $1 million per year for “knowing failures”) for all payments, transfers of value or ownership or investment interests not reported in an annual submission, and may result in liability under other federal laws or regulations;

 

   

HIPAA, as amended by the Health Information Technology for Economic and Clinical Health Act of 2009, or HITECH, and their respective implementing regulations, which impose requirements on certain covered healthcare providers, health plans and healthcare clearinghouses as well as their business associates that perform services for them that involve individually identifiable health information, relating to the privacy, security and transmission of individually identifiable health information without appropriate authorization, including mandatory contractual terms as well as directly applicable privacy and security standards and requirements. Failure to comply with the HIPAA privacy and security standards can result in civil monetary penalties up to $50,000 per violation, not to exceed $1.5 million per calendar year for non-compliance of an identical provision, and, in certain circumstances, criminal penalties with fines up to $250,000 per violation and/or imprisonment. State attorneys general can also bring a civil action to enjoin a HIPAA violation or to obtain statutory damages up to $25,000 per violation on behalf of residents of his or her state; and

 

   

analogous state and foreign law equivalents of each of the above federal laws, such as anti-kickback and false claims laws which may apply to items or services reimbursed by any third-party payor, including commercial insurers or patients; state laws that require device companies to comply with the industry’s voluntary compliance guidelines and the applicable compliance guidance promulgated by the federal government or otherwise restrict payments that may be made to healthcare providers and other potential referral sources; state laws that require device manufacturers to report information related to payments and other transfers of value to physicians and other healthcare providers or marketing expenditures; state laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and may not have the same effect, thus complicating compliance efforts; and state laws related to insurance fraud in the case of claims involving private insurers.

These laws, among other things, constrain our business, marketing and other promotional activities by limiting the kinds of financial arrangements, including sales programs, we may have with hospitals, physicians or other potential purchasers of medical devices. We have a variety of arrangements with our customers that could implicate these laws. We have also entered into consulting agreements with physicians, including some who have ownership interests in us and/or influence the ordering of and use our products in procedures they perform. We could be adversely affected if regulatory agencies interpret our financial relationships with such physicians who influence the ordering of and use our products to be in violation of applicable laws. Due to the breadth of these laws, the narrowness of statutory exceptions and safe harbors available, and the range of interpretations to which they are subject to, it is possible that some of our current or future practices might be challenged under one or more of these laws.

To enforce compliance with the healthcare regulatory laws, enforcement bodies have recently increased their scrutiny of interactions between healthcare companies and healthcare providers, which has led to a number of investigations, prosecutions, convictions and settlements in the healthcare industry. Responding to investigations can be time- and resource-consuming and can divert management’s attention from the business. Additionally, as a result of these investigations, healthcare providers and entities may have to agree to additional onerous compliance and reporting requirements as part of a

 

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consent decree or corporate integrity agreement. Any such investigation or settlement could increase our costs or otherwise have an adverse effect on our business. Even an unsuccessful challenge or investigation into our practices could cause adverse publicity, and be costly to respond to, and thus could harm our business, financial condition and results of operations.

If our operations are found to be in violation of any of the laws described above or any other governmental regulations that apply to us, we may be subject to penalties, including administrative, civil and criminal penalties, damages, fines, exclusion from participation in government healthcare programs, such as Medicare and Medicaid, imprisonment and the curtailment or restructuring of our operations, any of which could negatively impact our ability to operate our business and our results of operations.

Healthcare policy changes, including recently enacted legislation reforming the U.S. healthcare system, could harm our cash flows, financial condition and results of operations.

In March 2010, the Affordable Care Act was enacted in the United States, which made a number of substantial changes in the way healthcare is financed by both governmental and private insurers. Among other things, the Affordable Care Act:

 

   

requires certain medical device manufacturers to pay a sales tax equal to 2.3% of the price for which such manufacturer sells its medical devices;

 

   

establishes a new Patient-Centered Outcomes Research Institute to oversee and identify priorities in comparative clinical effectiveness research in an effort to coordinate and develop such research;

 

   

implements payment system reforms including a national pilot program on payment bundling to encourage hospitals, physicians and other providers to improve the coordination, quality and efficiency of certain healthcare services through bundled payment models; and

 

   

establishes an Independent Payment Advisory Board that will submit recommendations to reduce Medicare spending if projected Medicare spending exceeds a specified growth rate.

In addition, other legislative changes have been proposed and adopted since the Affordable Care Act was enacted. On August 2, 2011, the Budget Control Act of 2011 was signed into law, which, among other things, created the Joint Select Committee on Deficit Reduction to recommend to Congress proposals in spending reductions. The Joint Select Committee did not achieve a targeted deficit reduction of at least $1.2 trillion for the years 2013 through 2021, triggering the legislation’s automatic reduction to several government programs. This includes reductions to Medicare payments to providers of 2% per fiscal year, which went into effect on April 1, 2013 and, due to subsequent legislative amendments to the statute, will remain in effect through 2024 unless additional Congressional action is taken. On January 2, 2013, the American Taxpayer Relief Act of 2012 was signed into law, which, among other things, reduced Medicare payments to several providers, including hospitals, and increased the statute of limitations period for the government to recover overpayments to providers from three to five years.

We expect that additional state and federal healthcare reform measures will be adopted in the future, any of which could limit the amounts that federal and state governments will pay for healthcare products and services, which could result in reduced demand for our implant systems or additional pricing pressure.

Risks Related to this Offering and Ownership of Our Common Stock

The price of our common stock may be volatile, and you may not be able to resell your shares at or above the initial public offering price.

Prior to our initial public offering, there was no public market for shares of our common stock. The initial public offering price for the shares of our common stock sold in this offering will be determined by

 

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negotiation between the underwriters and us. This price may not reflect the market price of our common stock following this offering. You may be unable to sell your shares of common stock at or above the initial public offering price due to fluctuations in the market price of our common stock. In addition, the trading price of our common stock may be highly volatile and could be subject to wide fluctuations in response to various factors, some of which are beyond our control. Factors that could cause volatility in the market price of our common stock include, but are not limited to:

 

   

actual or anticipated fluctuations in our financial condition and operating results;

 

   

actual or anticipated changes in our growth rate relative to our competitors;

 

   

commercial success and market acceptance of our implant systems;

 

   

success of our competitors in discovering, developing or commercializing products;

 

   

ability to commercialize or obtain regulatory approvals for our implant systems, or delays in commercializing or obtaining regulatory approvals;

 

   

strategic transactions undertaken by us;

 

   

additions or departures of key personnel;

 

   

product liability claims;

 

   

prevailing economic conditions;

 

   

disputes concerning our intellectual property or other proprietary rights;

 

   

FDA or other U.S. or foreign regulatory actions affecting us or the healthcare industry;

 

   

healthcare reform measures in the United States;

 

   

sales of our common stock by our officers, directors or significant stockholders;

 

   

future sales or issuances of equity or debt securities by us;

 

   

business disruptions caused by earthquakes, fires or other natural disasters; and

 

   

issuance of new or changed securities analysts’ reports or recommendations regarding us.

In addition, the stock markets in general, and the markets for medical device companies like ours in particular, have from time to time experienced extreme volatility that have has been often unrelated to the operating performance of the issuer. A certain degree of stock price volatility can be attributed to being a newly public company. These broad market and industry fluctuations may negatively impact the price or liquidity of our common stock, regardless of our operating performance.

We may be subject to securities litigation, which is expensive and could divert our management’s attention.

The market price of our securities may be volatile, and in the past companies that have experienced volatility in the market price of their securities have been subject to securities class action litigation. We may be the target of this type of litigation in the future. Securities litigation against us could result in substantial costs and divert our management’s attention from other business concerns, which could seriously harm our business.

We are an “emerging growth company” and the reduced disclosure requirements applicable to emerging growth companies could make our common stock less attractive to investors.

We are an “emerging growth company,” as defined in the JOBS Act. We may remain an “emerging growth company” until as late as December 31, 2020 (the fiscal year-end following the fifth anniversary of the completion of our initial public offering), though we may cease to be an “emerging growth

 

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company” earlier under certain circumstances, including (1) if the market value of our common stock that is held by nonaffiliates exceeds $700 million as of any June 30, in which case we would cease to be an “emerging growth company” as of the following December 31, or (2) if our gross revenue exceeds $1 billion in any fiscal year. “Emerging growth companies” may take advantage of certain exemptions from various reporting requirements that are applicable to other public companies, including not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements and exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved. Investors could find our common stock less attractive because we may rely on these exemptions. If some investors find our common stock less attractive as a result, there may be a less active trading market for our common stock and our stock price may be more volatile.

In addition, Section 102 of the JOBS Act also provides that an “emerging growth company” can take advantage of the extended transition period provided in Section 7(a)(2)(B) of the Securities Act of 1933, as amended, or the Securities Act, for complying with new or revised accounting standards. An “emerging growth company” can therefore delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. However, we are choosing to “opt out” of such extended transition period, and as a result, we will comply with new or revised accounting standards on the relevant dates on which adoption of such standards is required for non-emerging growth companies. Section 107 of the JOBS Act provides that our decision to opt out of the extended transition period for complying with new or revised accounting standards is irrevocable.

Future sales of our common stock or securities convertible or exchangeable for our common stock may cause our stock price to decline.

If our existing stockholders or optionholders sell, or indicate an intention to sell, substantial amounts of our common stock in the public market after the lock-up and legal restrictions on resale discussed in this prospectus lapse, the price of our common stock could decline. The perception in the market that these sales may occur could also cause the price of our common stock to decline. Based on shares of common stock outstanding at June 30, 2015, upon the consummation of this offering, we will have outstanding a total of              shares of common stock, assuming no exercise of the underwriters’ option to purchase additional shares of common stock. Of these shares, the              shares of common stock sold by us in this offering, plus any shares sold upon exercise of the underwriters’ option to purchase additional shares of common stock, will be freely tradable without restriction, unless held by our affiliates, in the public market immediately following this offering.

After the lock-up agreements expire,              shares of common stock will be eligible for sale in the public market, subject in certain instances to volume limitations under Rule 144 under the Securities Act, with respect to shares held by directors, executive officers and other affiliates. The underwriters may, however, in their sole discretion, permit our directors, our executive officers and other stockholders and the holders of our outstanding options who are subject to the lock-up agreements to sell shares prior to the expiration of the lock-up agreements. Sales of these shares, or perceptions that they will be sold, could cause the price of our common stock to decline.

In addition, based on the number of shares subject to outstanding awards under the 2005 Plan, or available for issuance thereunder, at June 30, 2015, and including the initial reserves under the 2015 Plan,             shares of common stock that are either subject to outstanding options, outstanding but subject to vesting or reserved for future issuance under the 2005 Plan or 2015 Plan will become eligible for sale in the public market to the extent permitted by the provisions of various vesting schedules, the lock-up agreements and Rule 144 and Rule 701 under the Securities Act. We also plan to file a registration statement permitting shares of common stock issued in the future pursuant to the 2005 Plan

 

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and 2015 Plan to be freely resold by plan participants in the public market, subject to the lock-up agreements, applicable vesting schedules and, for shares held by directors, executive officers and other affiliates, volume limitations under Rule 144 under the Securities Act. The 2015 Plan contains provisions for the annual increase of the number of shares reserved for issuance under such plan, as described elsewhere in this prospectus, which shares we also intend to register. If the shares we may issue from time to time under the 2005 Plan or 2015 Plan are sold, or if it is perceived that they will be sold, by the award recipients in the public market, the price of our common stock could decline.

Certain holders of approximately             shares of common stock will be entitled to rights with respect to the registration of their shares under the Securities Act, subject to the lock-up agreements described above. See the section titled “Description of Capital Stock—Registration Rights.” Registration of these shares under the Securities Act would result in the shares becoming freely tradable without restriction under the Securities Act, except for shares purchased by affiliates. Sales of such shares could also cause the price of our common stock to decline.

If there is no viable public market for our common stock, you may not be able to sell your shares at or above the initial public offering price.

Prior to this offering there has been no public market for shares of our common stock. Although we expect that our common stock will be approved for listing on NASDAQ, an active trading market for our shares may never develop or be sustained following this offering. You may not be able to sell your shares quickly or at the market price if trading in shares of our common stock is not active. The initial public offering price for our common stock will be determined through negotiations with the underwriters, and the negotiated price may not be indicative of the market price of the common stock after the offering. As a result of these and other factors, you may be unable to resell your shares of our common stock at or above the initial public offering price. Further, an inactive market may also impair our ability to raise capital by selling shares of our common stock and may impair our ability to enter into strategic partnerships or acquire companies or products by using our shares of common stock as consideration.

Investors in this offering will suffer immediate and substantial dilution of their investment.

If you purchase common stock in this offering, you will pay more for your shares than our pro forma as adjusted net tangible book value per share. Based upon an assumed initial public offering price of $         per share, the midpoint of the range on the cover page of this prospectus, you will incur immediate and substantial dilution of $         per share, representing the difference between our assumed initial public offering price and our pro forma as adjusted net tangible book value per share. Based upon the assumed initial public offering price of $         per share, the midpoint of the range on the cover page of this prospectus, purchasers of common stock in this offering will have contributed approximately     % of the aggregate purchase price paid by all purchasers of our stock and will own approximately     % of our common stock outstanding after this offering. For information on how the foregoing amounts were calculated, see the section titled “Dilution.”

To the extent outstanding stock options or warrants are exercised, there will be further dilution to new investors.

We have issued options to acquire common stock and warrants to acquire Series C convertible preferred stock (which, upon consummation of this offering, will be exercisable for shares of common stock) at prices significantly below the assumed initial offering price. At June 30, 2015, there were 7,996,984 shares of common stock subject to outstanding options with a weighted-average exercise price of $0.07 per share, and 3,967,597 shares of preferred stock subject to outstanding warrants with a weighted-average exercise price of $0.44 per share. To the extent that these outstanding options or the warrants are ultimately exercised, you will incur further dilution, and our stock price may decline.

 

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Our operating results for a particular period may fluctuate significantly or may fall below the expectations of investors or securities analysts, each of which may cause our stock price to fluctuate or decline.

We expect our operating results to be subject to fluctuations. Our operating results will be affected by numerous factors, including:

 

   

variations in the level of expenses related to our implant systems or future development programs;

 

   

level of underlying demand for our implant systems and any other products we develop;

 

   

addition or termination of clinical trials;

 

   

our execution of any collaborative, licensing or similar arrangements, and the timing of payments we may make or receive under these arrangements;

 

   

any intellectual property infringement lawsuit or opposition, interference or cancellation proceeding in which we may become involved; and

 

   

regulatory developments affecting our products or our competitors.

If our operating results for a particular period fall below the expectations of investors or securities analysts, the price of our common stock could decline substantially. Furthermore, any fluctuations in our operating results may, in turn, cause the price of our common stock to fluctuate substantially. We believe that comparisons of our financial results from various reporting periods are not necessarily meaningful and should not be relied upon as an indication of our future performance.

We will have broad discretion in the use of the net proceeds from this offering and may invest or spend the proceeds in ways with which you do not agree or that may not yield a return.

We discuss our plan for the use of the net proceeds of this offering in the sections titled “Use of Proceeds” and “Business.” However, within the scope of our plan, and in light of the various risks to our business that are set forth in this section, our management will have broad discretion over the use of the net proceeds from this offering. Because of the number and variability of factors that will determine our use of such proceeds, you may not agree with how we allocate or spend the proceeds from this offering. We may pursue commercialization strategies, clinical trials, regulatory approvals or collaborations that do not result in an increase in the market value of our common stock and that may increase our losses. Our failure to allocate and spend the net proceeds from this offering effectively could harm our business, financial condition and results of operations. Until the net proceeds are used, they may be placed in investments that do not produce significant investment returns or that may lose value.

Our principal stockholders and management own a significant percentage of our stock and will be able to exert significant control over matters subject to stockholder approval.

Based on the beneficial ownership of our common stock at June 30, 2015, after this offering, our officers and directors, together with holders of 5% or more of our outstanding common stock before this offering and their respective affiliates, will beneficially own approximately     % of our common stock. Accordingly, these stockholders will continue to have significant influence over the outcome of corporate actions requiring stockholder approval, including the election of directors, merger, consolidation or sale of all or substantially all of our assets or any other significant corporate transaction. The interests of these stockholders may not be the same as or may even conflict with your interests. For example, these stockholders could delay or prevent a change in control of the company, even if such a change in control would benefit our other stockholders, which could deprive our stockholders of an opportunity to receive a premium for their common stock as part of a sale of the company or our assets and might affect the prevailing price of our common stock. The significant concentration of stock ownership may negatively impact the price of our common stock due to investors’ perception that conflicts of interest may exist or arise.

 

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Provisions of our charter documents or Delaware law could delay or prevent an acquisition of the company, even if the acquisition would be beneficial to our stockholders, which could make it more difficult for you to change management.

Provisions in our amended and restated certificate of incorporation and our amended and restated bylaws that will become effective upon the consummation of this offering may discourage, delay or prevent a merger, acquisition or other change in control that stockholders may consider favorable, including transactions in which stockholders might otherwise receive a premium for their shares. In addition, these provisions may frustrate or prevent any attempt by our stockholders to replace or remove our current management by making it more difficult to replace or remove our board of directors. These provisions include:

 

   

a classified board of directors so that not all directors are elected at one time;

 

   

a prohibition on stockholder action through written consent;

 

   

no cumulative voting in the election of directors;

 

   

the exclusive right of our board of directors to elect a director to fill a vacancy created by the expansion of the board of directors or the resignation, death or removal of a director;

 

   

a requirement that special meetings of stockholders be called only by the board of directors, the chairman of the board of directors, the chief executive officer or, in the absence of a chief executive officer, the president;

 

   

an advance notice requirement for stockholder proposals and nominations;

 

   

the authority of our board of directors to issue preferred stock with such terms as our board of directors may determine; and

 

   

a requirement of approval of not less than 66 2/3% of all outstanding shares of our capital stock entitled to vote to amend any bylaws by stockholder action, or to amend specific provisions of our amended and restated certificate of incorporation.

In addition, Delaware law prohibits a publicly held Delaware corporation from engaging in a business combination with an interested stockholder, generally a person who, together with its affiliates, owns, or within the last three years has owned, 15% or more of our voting stock, for a period of three years after the date of the transaction in which the person became an interested stockholder, unless the business combination is approved in a prescribed manner. Accordingly, Delaware law may discourage, delay or prevent a change in control of the company.

Furthermore, our amended and restated certificate of incorporation will specify that the Court of Chancery of the State of Delaware will be the sole and exclusive forum for most legal actions involving actions brought against us by stockholders. We believe this provision benefits us by providing increased consistency in the application of Delaware law by chancellors particularly experienced in resolving corporate disputes, efficient administration of cases on a more expedited schedule relative to other forums and protection against the burdens of multi-forum litigation. However, the provision may have the effect of discouraging lawsuits against our directors and officers.

Provisions in our charter documents and other provisions of Delaware law could limit the price that investors are willing to pay in the future for shares of our common stock.

 

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Our amended and restated certificate of incorporation provides that the Court of Chancery of the State of Delaware will be the exclusive forum for substantially all disputes between us and our stockholders, which could limit our stockholders’ ability to obtain a favorable judicial forum for disputes with us or our directors, officers or employees.

Our amended and restated certificate of incorporation provides that the Court of Chancery of the State of Delaware is the exclusive forum for (1) any derivative action or proceeding brought on our behalf, (2) any action asserting a claim of breach of a fiduciary duty or other wrongdoing by any of our directors, officers, employees or agents to us or our stockholders, (3) any action asserting a claim arising pursuant to any provision of the Delaware General Corporate Law, or DGCL, or our amended and restated certificate of incorporation or amended and restated bylaws, (4) any action to interpret, apply, enforce or determine the validity of our amended and restated certificate of incorporation or amended and restated bylaws or (5) any action asserting a claim governed by the internal affairs doctrine. This choice of forum provision may limit a stockholder’s ability to bring a claim in a judicial forum that it finds favorable for disputes with us or our directors, officers or other employees, which may discourage such lawsuits against us and our directors, officers and other employees. Alternatively, if a court were to find the choice of forum provision contained in our amended and restated certificate of incorporation to be inapplicable or unenforceable in an action, we may incur additional costs associated with resolving such action in other jurisdictions, which could have a material adverse effect on our business, financial condition or results of operations.

We do not anticipate paying any cash dividends on our common stock in the foreseeable future; therefore, capital appreciation, if any, of our common stock will be your sole source of gain for the foreseeable future.

We have never declared or paid cash dividends on our common stock. We do not anticipate paying any cash dividends on our common stock in the foreseeable future. We currently intend to retain all available funds and any future earnings to fund the development and growth of our business. In addition, our Credit Agreements with MidCap contain, and any future loan arrangements we enter into may contain, terms prohibiting or limiting the amount of dividends that may be declared or paid on our common stock. As a result, capital appreciation, if any, of our common stock will be your sole source of gain for the foreseeable future.

If securities or industry analysts do not publish research, or publish inaccurate or unfavorable research, about our business, our stock price and trading volume could decline.

The trading market for our common stock will depend, in part, on the research and reports that securities or industry analysts publish about us or our business. Securities and industry analysts do not currently, and may never, publish research on the company. If no securities or industry analysts commence coverage of the company, the price for our common stock could be negatively impacted. In the event securities or industry analysts initiate coverage, if one or more of the analysts who cover us downgrade our common stock or publish inaccurate or unfavorable research about our business, our stock price could decline. In addition, if our operating results fail to meet the forecast of analysts, our stock price could decline. If one or more of these analysts cease coverage of the company or fail to publish reports on us regularly, demand for our common stock could decrease, which might cause our stock price and trading volume to decline.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus contains forward-looking statements. All statements other than statements of historical facts contained in this prospectus, including statements regarding our future results of operations and financial position, business strategy, current and prospective products, product approvals, research and development costs, prospective collaborations, timing and likelihood of success, plans and objectives of management for future operations, and future results of anticipated products, are forward-looking statements. These statements involve known and unknown risks, uncertainties and other important factors that may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements.

In some cases, you can identify forward-looking statements by terms such as “may,” “will,” “should,” “expect,” “plan,” “anticipate,” “could,” “intend,” “target,” “project,” “contemplates,” “believes,” “estimates,” “predicts,” “potential” or “continue” or the negative of these terms or other similar expressions. The forward-looking statements in this prospectus are only predictions. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our business, financial condition and results of operations. These forward-looking statements speak only as of the date of this prospectus and are subject to a number of risks, uncertainties and assumptions described under the sections in this prospectus entitled “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere in this prospectus. The events and circumstances reflected in our forward-looking statements may not be achieved or occur and actual results could differ materially from those projected in the forward-looking statements. Moreover, we operate in an evolving environment. New risk factors and uncertainties may emerge from time to time, and it is not possible for management to predict all risk factors and uncertainties. Except as required by applicable law, we do not plan to publicly update or revise any forward-looking statements contained herein, whether as a result of any new information, future events, changed circumstances or otherwise.

MARKET AND INDUSTRY DATA

Unless otherwise indicated, information contained in this prospectus concerning our industry and the markets in which we operate, including our general expectations and market position, market opportunity and market share, is based on information from our own management estimates and research, as well as from industry and general publications and research, surveys and studies conducted by third parties, including Life Science Intelligence, Inc. Management estimates are derived from publicly available information, our knowledge of our industry and assumptions based on such information and knowledge, which we believe to be reasonable. This data involves a number of assumptions and limitations, and you are cautioned not to give undue weight to such estimates. In addition, assumptions and estimates of our and our industry’s future performance are necessarily subject to a high degree of uncertainty and risk due to a variety of factors, including those described in “Risk Factors.” These and other factors could cause our future performance to differ materially from our assumptions and estimates.

 

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USE OF PROCEEDS

We estimate that our net proceeds from our sale of             shares of common stock in this offering will be approximately $         million, or $         million if the underwriters exercise their option to purchase additional shares in full, based on an assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus, and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

Each $1.00 increase (decrease) in the assumed initial public offering price of $         per share would increase (decrease) the net proceeds to us from this offering by approximately $         million, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us. We may also increase or decrease the number of shares we are offering. Each increase (decrease) of 1.0 million in the number of shares we are offering would increase (decrease) the net proceeds to us from this offering, after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us, by approximately $         million, assuming the assumed initial public offering price stays the same.

We currently expect to use the net proceeds from this offering as follows:

 

   

approximately $25.0 million to expand our sales and marketing programs;

 

   

approximately $15.0 million to fund research and development activities;

 

   

to repay our $5.0 million borrowing and accrued principal thereon, under our term loan credit facility entered into in June 2015, which accrues interest at a rate of 8.0% and becomes due upon the completion of this offering; and

 

   

the remainder for working capital and general corporate purposes.

We may also use a portion of the net proceeds from this offering to acquire or invest in complementary products, technologies or businesses, although we have no present commitments to complete any such transaction.

The amounts and timing of our actual expenditures will depend on numerous factors, including the rate of adoption of our products, the expenses we incur in selling and marketing efforts, the scope of research and development efforts, as well as the progress of our clinical trials and other factors described under “Risk Factors” in this prospectus, as well as the amount of cash used in our operations. We therefore cannot estimate the amount of net proceeds to be used for all of the purposes described above. We may find it necessary or advisable to use the net proceeds for other purposes, and we will have broad discretion in the application of the net proceeds. Pending the uses described above, we intend to invest the net proceeds from this offering in short- and intermediate-term, interest-bearing obligations, investment-grade instruments, certificates of deposit or direct or guaranteed obligations of the U.S. government.

 

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DIVIDEND POLICY

We have never declared or paid any cash dividends on our capital stock. We intend to retain future earnings, if any, to finance the growth and operation of our business and do not anticipate paying any cash dividends in the foreseeable future. Any future determination related to dividend policy will be made at the discretion of our board of directors after considering our financial condition, results of operations, capital requirements, contractual restrictions, business prospects and other factors the board of directors deems relevant. In addition, our ability to pay cash dividends is currently prohibited by the terms of our Credit Agreements with MidCap. Our future ability to pay cash dividends also may be limited by the terms of any future debt we may enter into or preferred securities we may issue.

 

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CAPITALIZATION

The following table sets forth our cash and cash equivalents and capitalization as of June 30, 2015 as follows:

 

   

on an actual basis;

 

   

on a pro forma basis to reflect (a) the automatic conversion of all outstanding shares of our redeemable convertible preferred stock into 70,071,478 shares of our common stock immediately prior to the completion of this offering and the resultant reclassification of our convertible preferred stock to stockholders’ equity (deficit), (b) the automatic conversion of the 2015 Notes into             shares of common stock upon the closing of this offering, assuming for this purpose that the offering occurred on                     , 2015 at the assumed initial public offering price of $ per share, the midpoint of the price range set forth on the cover page of this prospectus, all of which is described more fully under the section of this prospectus entitled “—Convertible Notes Financing,” and (c) the filing of our amended and restated certificate of incorporation upon the completion of this offering; and

 

   

on a pro forma as adjusted basis to give further effect to (a) our issuance and sale of             shares of common stock in this offering at an assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus, after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us and (b) the payoff required by our credit agreement with MidCap of our $5.0 million of borrowings, plus accrued interest thereon, under our term loan agreement with MidCap entered into in June 2015, assuming that the completion of this offering occurs on                     , 2015.

The pro forma and pro forma as adjusted information below is illustrative only, and our cash and capitalization following the completion of this offering will be adjusted based on the actual initial public offering price and other terms of this offering determined at pricing. You should read this information in conjunction with our financial statements and the related notes included in this prospectus and the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section and other financial information contained in this prospectus.

 

     As of June 30, 2015  
     Actual     Pro Forma      Pro Forma As
Adjusted(1)
 
     (in thousands, except share and per share data)  

Cash and cash equivalents

   $ 12,501      $                    $                
  

 

 

   

 

 

    

 

 

 

Loans outstanding

   $ 12,320        

Convertible preferred stock, $0.001 par value; 74,201,339 shares authorized, 70,071,478 shares issued and outstanding, actual; no shares authorized, issued or outstanding, pro forma and pro forma as adjusted

     43,949        

Stockholders’ equity (deficit):

       

Preferred stock, $0.001 par value per share; no shares authorized, issued and outstanding, actual;             shares authorized and no shares issued and outstanding, pro forma and pro forma as adjusted

       

Common stock, $0.001 par value per share; 110,000,000 shares authorized, 8,750,592 shares issued and outstanding, actual;             shares authorized, shares issued and outstanding, pro forma and             shares issued outstanding, pro forma as adjusted

     9        

Additional paid-in capital

     —          

Accumulated deficit

     (37,723     
  

 

 

   

 

 

    

 

 

 

Total stockholders’ (deficit) equity

     (37,714     
  

 

 

   

 

 

    

 

 

 

Total capitalization

   $ 18,554      $         $     
  

 

 

   

 

 

    

 

 

 

 

footnotes on following page

 

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(1) 

Each $1.00 increase (decrease) in the assumed initial public offering price of $         per share (the midpoint of the price range set forth on the cover page of this prospectus) would increase (decrease) the pro forma as adjusted amount of each of cash and cash equivalents, additional paid-in capital, total stockholders’ (deficit) equity and total capitalization by approximately $        , assuming that the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us. Similarly, each increase (decrease) of 1.0 million shares in the number of shares offered by us at the assumed initial public offering price per share of $         (the midpoint of the price range set forth on the cover page of this prospectus) would increase (decrease) each of cash and cash equivalents, additional paid-in capital, total stockholders’ (deficit) equity and total capitalization by approximately $        , after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

The number of shares of common stock shown as issued and outstanding in the table excludes:

 

   

7,996,984 shares of common stock issuable upon the exercise of options outstanding as of June 30, 2015 at a weighted-average exercise price of $0.07 per share;

 

   

11,679,408 shares of our common stock reserved for future issuance under the 2005 Plan;

 

   

3,967,597 shares of common stock issuable upon exercise of warrants to purchase shares of our convertible preferred stock that will convert to warrants to purchase our common stock upon the closing of this offering at a weighted-average exercise price of $0.44 per share;

 

   

            shares of our common stock reserved for future issuance under the 2015 Plan, which will become effective immediately prior to the closing of this offering, which number excludes 11,679,408 shares of common stock reserved for future grant or issuance under our 2005 Plan, which shares will be added to the shares reserved under the 2015 Plan upon its effectiveness; and

 

   

            shares of our common stock reserved for future issuance under the ESPP, which will become effective immediately prior to the closing of this offering.

Convertible Notes Financing

In June 2015, we entered into a note subscription agreement with certain new and existing investors pursuant to which we sold an aggregate of $10.0 million of the 2015 Notes. Pursuant to the terms of our 2015 Notes, we will, immediately prior to the closing of this offering, issue additional shares of common stock to the holders of such notes in satisfaction of the outstanding principal amount and any accrued but unpaid interest on the 2015 Notes. The unpaid principal amount of the 2015 Notes accrues interest at the rate of 6% per annum, compounded annually. The conversion price of the 2015 Notes is calculated by multiplying the initial public offering price by 0.75. You can estimate the number of shares of common stock that will be issued at the closing of this offering upon the conversion of the 2015 Notes by dividing the aggregate principal amount and accrued but unpaid interest on the 2015 Notes at the date of conversion by the conversion price. For example, at June 30, 2015, the total number of shares of common stock issuable upon satisfaction of the outstanding principal and accrued but unpaid interest on the 2015 Notes was             shares, based on the assumed initial public offering price of $        , the midpoint of the price range set forth on the cover page of this prospectus. As of                     , 2015, the aggregate principal amount and accrued but unpaid interest on the 2015 Notes amounted to approximately $        , and we incur an additional approximately $         in interest each day. The aggregate principal and accrued but unpaid interest can be determined by multiplying $         by the number of days beginning after the date of this prospectus and ending on the date prior to the closing date and then adding that to $        . You would then divide that number by the conversion price to obtain the number of shares of common stock that will be issued at the closing of the offering upon conversion of the 2015 Notes.

 

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DILUTION

If you invest in our common stock in this offering, your ownership interest will be immediately diluted to the extent of the difference between the initial public offering price per share of our common stock and the pro forma as adjusted net tangible book value per share of our common stock after this offering.

As of June 30, 2015, we had a historical net tangible book value of $(38.1) million, or $(4.23) per share of common stock, based on 8,750,592 shares of common stock outstanding at June 30, 2015. Our historical net tangible book value per share represents the amount of our total tangible assets less total liabilities and convertible preferred stock, which is not included within stockholders’ equity, divided by the total number of shares of common stock outstanding at June 30, 2015.

As of June 30, 2015, our pro forma net tangible book value would have been approximately $         million, or $         per share, after giving effect to (1) the automatic conversion of all outstanding shares of our convertible preferred stock into 70,071,478 shares of our common stock immediately prior to the completion of this offering and the reclassification of our convertible preferred stock to additional paid-in capital, a component of stockholders’ equity (deficit) and (2) the automatic conversion of the 2015 Notes into             shares of common stock upon the closing of this offering, assuming for this purpose that the offering occurred on                     , 2015 at the assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus, all of which is described more fully under the section of this prospectus entitled “Capitalization—Convertible Notes Financing.”

After giving further effect to (a) the sale of             shares of common stock that we are offering at the initial public offering price of $         per share the midpoint of the price range set forth on the cover page of this prospectus, and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us and (b) the payoff required by our credit agreement with MidCap of our $5.0 million of borrowings, plus accrued interest thereon, under our term loan agreement with MidCap entered into in June 2015, assuming that the completion of this offering occurs on                 , 2015, our pro forma as adjusted net tangible book value as of June 30, 2015 would have been approximately $         million, or approximately $         per share. This amount represents an immediate increase in pro forma net tangible book value of $         per share to our existing stockholders and an immediate dilution in pro forma net tangible book value of approximately $         per share to new investors participating in this offering.

Dilution per share to new investors is determined by subtracting pro forma as adjusted net tangible book value per share after this offering from the initial public offering price per share paid by new investors. The following table illustrates this dilution (without giving effect to any exercise by the underwriters of their option to purchase additional shares):

 

Assumed initial public offering price per share

     $                

Historical net tangible book value (deficit) per share at June 30, 2015, before giving effect to this offering

   $ (4.23  

Pro forma increase in historical net tangible book value per share attributable to the pro forma transactions described in the preceding paragraphs

    
  

 

 

   

Pro forma net tangible book value per share at June 30, 2015, before giving effect to this offering

   $                  

Increase in pro forma net tangible book value per share attributable to investors participating in this offering

    
  

 

 

   

Pro forma as adjusted net tangible book value per share after this offering

    
    

 

 

 

Dilution per share to new investors participating in this offering

     $     
    

 

 

 

 

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Each $1.00 increase (decrease) in the assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus, would increase (decrease) the pro forma as adjusted net tangible book value per share after this offering by approximately $        , and dilution in pro forma net tangible book value per share to new investors by approximately $        , assuming that the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and the estimated offering expenses payable by us.

We may also increase or decrease the number of shares we are offering. An increase of 1.0 million shares in the number of shares offered by us, as set forth on the cover page of this prospectus, would increase our pro forma as adjusted net tangible book value per share after this offering by approximately $         and decrease the dilution to investors participating in this offering by approximately $         per share, assuming that the assumed initial public offering price remains the same, and after deducting the estimated underwriting discounts and commissions and the estimated offering expenses payable by us. Similarly, a decrease of 1.0 million shares in the number of shares offered by us, as set forth on the cover page of this prospectus, would decrease the pro forma as adjusted net tangible book value per share after this offering by approximately $         and increase the dilution to investors participating in this offering by approximately $         per share, assuming that the assumed initial public offering price remains the same, and after deducting the estimated underwriting discounts and commissions and the estimated offering expenses payable by us.

If the underwriters exercise their option to purchase             additional shares of our common stock in full in this offering, the pro forma as adjusted net tangible book value after the offering would be $         per share, the increase in pro forma as adjusted net tangible book value per share to existing stockholders would be $         per share and the dilution per share to new investors would be $         per share, in each case assuming an initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus.

The following table summarizes on the pro forma as adjusted basis described above, as of June 30, 2015, the differences between the number of shares of common stock purchased from us, the total consideration paid to us in cash and the average price per share paid by existing stockholders for shares issued prior to this offering and the price to be paid by new investors in this offering. The calculation below is based on the assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus, before deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

 

     Shares Purchased     Total Consideration     Average Price
Per Share
 
     Number    Percent     Amount      Percent    

Existing stockholders

             %   $                           %   $                

Investors participating in this offering

            
  

 

  

 

 

   

 

 

    

 

 

   

Total

        100.0 %   $           100.0 %   $                
  

 

  

 

 

   

 

 

    

 

 

   

Each $1.00 increase (decrease) in the assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus, would increase (decrease) total consideration paid by new investors, total consideration paid by all stockholders and the average price per share paid by all stockholders by $         million, $         million and $        , respectively, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

 

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The foregoing tables and calculations exclude:

 

   

7,996,984 shares of common stock issuable upon the exercise of options outstanding as of June 30, 2015 at a weighted-average exercise price of $0.07 per share;

 

   

11,679,408 shares of our common stock reserved for future issuance under the 2005 Plan;

 

   

3,967,597 shares of common stock issuable upon exercise of warrants to purchase shares of our convertible preferred stock that will convert to warrants to purchase our common stock upon the closing of this offering at a weighted-average exercise price of $0.44 per share;

 

   

            shares of our common stock reserved for future issuance under the 2015 Plan, which will become effective immediately prior to the closing of this offering, which number excludes 11,679,408 shares of common stock reserved for future grant or issuance under our 2005 Plan, which shares will be added to the shares reserved under the 2015 Plan upon its effectiveness; and

 

   

            shares of our common stock reserved for future issuance under the ESPP, which will become effective immediately prior to the closing of this offering.

To the extent any of these outstanding options or warrants are exercised or new awards are granted under our equity compensation plans, there will be further dilution to new investors. If all of such outstanding options had been exercised as of June 30, 2015, the pro forma as adjusted net tangible book value per share after this offering would be $        , and total dilution per share to new investors would be $        .

If the underwriters exercise their option to purchase additional shares of our common stock in full in this offering:

 

   

the percentage of shares of common stock held by existing stockholders will decrease to approximately     % of the total number of shares of our common stock outstanding after this offering; and

 

   

the number of shares held by new investors will increase to                     , or approximately     % of the total number of shares of our common stock outstanding after this offering.

 

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SELECTED FINANCIAL DATA

The following tables set forth a summary of our historical financial data as of, and for the periods ended on, the dates indicated. We have derived the statements of operations data for the years ended December 31, 2013 and 2014 and the balance sheet data as of December 31, 2013 and 2014 from our audited financial statements included elsewhere in this prospectus. We have derived the summary statements of operations data for the six months ended June 30, 2014 and 2015 and balance sheet data as of June 30, 2015 from our unaudited financial statements included elsewhere in this prospectus. The unaudited financial statements have been prepared on a basis consistent with our audited financial statements included in this prospectus and, in the opinion of management, reflect all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the financial information set forth in those statements. You should read this data together with our financial statements and the related notes thereto appearing elsewhere in this prospectus and in the section of this prospectus entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Our historical results for any prior period are not necessarily indicative of our future results and our interim results are not necessarily indicative of results to be expected for the full year ending December 31, 2015 or any other period.

 

     Year Ended December 31,     Six Months Ended June 30,  
     2013     2014     2014     2015  
     (in thousands, except per share data)  

Statements of Operations Data:

        

Net revenue

   $ 12,036      $ 25,683      $ 10,309      $ 20,306   

Cost of revenue

     3,735        6,126        2,470        3,721   
  

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     8,301        19,557        7,839        16,585   

Operating expenses

        

Sales and marketing

     6,415        11,841        4,825        8,804   

Research and development

     4,634        4,861        1,985        4,249   

General and administrative

     1,663        3,145        1,208        2,383   
  

 

 

   

 

 

   

 

 

   

 

 

 

Total operating expenses

     12,712        19,847        8,018        15,436   
  

 

 

   

 

 

   

 

 

   

 

 

 

Income (loss) from operations

     (4,411     (290     (179     1,149   

Other income and expenses

        

Interest expense

     (76     (283     (82     (154

Fair value of redeemable convertible preferred stock

     (896     (2,402     (1,179     (4,183

Other income (expense), net

     68        (164     1        (282
  

 

 

   

 

 

   

 

 

   

 

 

 

Loss before provision for income taxes

     (5,315     (3,139     (1,439     (3,470

Income tax expense

     (3     (50     (1     (24
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

     (5,318     (3,189     (1,440     (3,494

Accretion of redeemable convertible preferred stock to redemption value

     (2,686     (2,825     (1,423     (1,659
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss attributable to common stockholders—Basic and Diluted

   $ (8,005   $ (6,014   $ (2,863   $ (5,153
  

 

 

   

 

 

   

 

 

   

 

 

 

Net loss per share attributable to common stockholders—Basic and Diluted

   $ (1.45   $ (0.89   $ (0.50   $ (0.61
  

 

 

   

 

 

   

 

 

   

 

 

 

Shares used to compute net loss per share attributable to common stockholders(1):

        

Weighted-average number of shares—Basic and Diluted

     5,512,023        6,759,622        5,772,826        8,506,837   
  

 

 

   

 

 

   

 

 

   

 

 

 

Pro forma net (loss) income attributable to common stockholders (unaudited):

     $ (788     $ 731   
    

 

 

     

 

 

 

 

footnotes on following page

 

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     Year Ended December 31,     Six Months Ended June 30,  
     2013    2014     2014    2015  

Pro forma net (loss) income per share attributable to common stockholders, basic and diluted (unaudited):

          

Basic

      $ (0.01      $                
     

 

 

      

 

 

 

Diluted

      $ (0.01      $                
     

 

 

      

 

 

 

Shares used in computing pro forma net income per share attributable to common stockholders (unaudited):

          

Basic

        68,107,066        
     

 

 

      

 

 

 

Diluted

        68,107,066        
     

 

 

      

 

 

 

 

(1) 

See Note 13 and Note 11 to our audited and interim financial statements, respectively, included elsewhere in this prospectus for an explanation of the method used to calculate the historical and pro forma net (loss) income per share attributable to common stockholders, basic and diluted, and the number of shares used in the computation of the per share amounts.

 

     As of December 31,     As of June 30,
2015
 
     2013     2014    
     (in thousands)  

Balance Sheet Data:

      

Cash and cash equivalents

   $ 5,358      $ 4,926      $ 12,501   

Working capital

     4,873        7,354        18,857   

Total assets

     10,856        13,915        34,795   

Total liabilities

     7,560        9,422        28,561   

Convertible preferred stock

     30,131        37,161        43,949   

Accumulated deficit

     (26,841 )     (32,676     (37,723

Total stockholders’ deficit

     (26,835     (32,667     (37,714

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF

FINANCIAL CONDITION AND RESULTS OF OPERATIONS

You should read the following discussion and analysis of our financial condition and results of operations together with our financial statements and the related notes and other financial information included elsewhere in this prospectus. Some of the information contained in this discussion and analysis or set forth elsewhere in this prospectus, including information with respect to our plans and strategy for our business, includes forward-looking statements that involve risks and uncertainties. You should review the “Risk Factors” section of this prospectus for a discussion of important factors that could cause our actual results to differ materially from the results described in or implied by the forward-looking statements contained in the following discussion and analysis.

Overview

We are a medical technology company focused on revolutionizing orthopedic surgery by developing and marketing a new generation of magnetically adjustable implant systems based on our MAGnetic External Control, or MAGEC, technology platform. Our novel and proprietary implants are adjustable at the time of implantation and non-invasively over the course of treatment to accommodate the changing clinical needs of patients as they heal, grow or age. Our MAGEC technology enables physicians to customize therapy for patients without the need for multiple repeat surgical procedures, providing significant improvements in patient clinical outcomes, quality of life and generating significant cost savings to the healthcare system. We believe our proprietary MAGEC technology has the potential to become the standard of care for a wide range of orthopedic conditions.

We generate revenue primarily through sales of our two highly differentiated product families: MAGEC-EOS and PRECICE LLD. Both products incorporate our MAGEC technology and have been used to treat over 4,000 patients worldwide. Our MAGEC-EOS system was developed to treat children suffering from early onset scoliosis, and consists of an expandable spinal rod coupled with an external remote controller, or ERC, which together allow for periodic, non-invasive distraction performed in the physician’s office to improve correction of the spinal deformity as the child grows. Our MAGEC-EOS system received CE mark in 2009 and FDA 510(k) clearance in 2014. Our proprietary PRECICE LLD system was developed to treat limb length discrepancies without the need for external fixation. Our PRECICE LLD system consists of an intramedullary nail that can be non-invasively adjusted using an ERC to lengthen the femur or tibia. Our PRECICE LLD system received CE mark in 2010 and FDA 510(k) clearance in 2011. In addition, our robust pipeline of new products includes applications for orthopedic trauma, knee osteoarthritis and degenerative spine disease. We estimate the global addressable market opportunity for our commercial products was approximately $1.2 billion in 2014 based on data from Life Science Intelligence, Inc., which included addressable markets of approximately $571 million for our MAGEC-EOS system and approximately $708 million for our PRECICE LLD system. In addition, our product candidates leveraging our MAGEC technology addressed a significant global opportunity of over 690,000 procedures in 2014 according to this data.

We rely on a broad network of third parties to manufacture the components for our products, which we then assemble, sterilize and package. We promote, market and sell our products through a global hybrid sales organization comprised of direct sales managers that call on hospital accounts and recruit, develop and train independent sales agencies and consignment distributors. We also sell to stocking distributors in certain international markets. We currently generate revenue from 29 countries internationally, in addition to the United States. All of our sales in the United States are to hospital accounts through independent sales agencies. The majority of our international sales are represented by consignment distributors.

 

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We believe the primary factor in growing our revenue is educating and convincing orthopedic surgeons that our products offer a safe and effective alternative to traditional treatment options. In addition to our pipeline of new products, we expect to continue our research and development activities to develop additional products to address other significant and unmet opportunities in the orthopedics market. We continue to expand our marketing activities aimed at making our MAGEC technology the standard of care for orthopedic treatments in our target markets, continue our research and development programs health to obtain clearance for our current product candidates and development new product candidates, undertake clinical studies to support the safety and efficacy of our products and scale the size of our sales organization to support our expected growth.

For the years ended December 31, 2013 and 2014, our net revenue was $12.0 million and $25.7 million respectively, and our net losses were $5.3 million and $3.2 million, respectively. For the six months ended June 30, 2014 and 2015, our net revenue was $10.3 million and $20.3 million, respectively, and our net losses were $1.4 million and $3.5 million, respectively. We expect to continue to incur losses for the next few years. Through June 30, 2015, we had an accumulated deficit of $37.7 million.

Components of our Results of Operations

Net Revenue

We generate revenue from the sales of our implants designed around our proprietary MAGEC technology. All of our sales in the United States are to hospital accounts through independent sales agencies. The majority of international sales were represented by consignment distributors where the purchase of products is done in their territory and sold on to the hospital customer immediately following the use of product. We expect that sales of our MAGEC-EOS and PRECICE LLD systems will continue to be a significant contributor to our revenue growth in the near term. We expect to increase our revenue by establishing these systems as the standard of care for treatment of early onset scoliosis and limb length discrepancies, respectively, and by broadening the applications of our MAGEC technology to address large and underserved segments of the orthopedics market. We also expect to increase our revenue by expanding our geographic presence in the United States and other countries.

Cost of Revenue and Gross Margin

Cost of revenue consists of product costs, fulfillment costs, manufacturing equipment depreciation, warehousing costs, excess and obsolete inventory write-downs, depreciation of field assets, medical device excise tax and certain allocated costs related to management, facilities, and personnel-related expenses and other expenses associated with supply chain logistics. We provide our implants in kits that consist of a range of implant sizes and include separate instrument sets necessary to complete the surgical procedure. We generally consign our instrument sets to our sales organization or our hospital customers that purchase the implants used in surgery. Our cost of revenue includes depreciation of these instrument sets which represented $255,831 and $372,907 for the years ended December 31, 2013 and 2014, respectively and $157,667 and $193,620 for the six months ended June 30, 2014 and 2015, respectively. We expect our cost of revenue to increase moderately in absolute dollars due primarily to increased sales volume. Our gross profit is calculated by subtracting our cost of revenue from revenue. We expect gross profit to increase in absolute dollars as we grow our sales volume. Gross profit as a percentage of revenue, or gross margin, has also benefited from the increased volume of production and sales mix to United States based customers. Going forward, we expect gross margin to be negatively impacted by increased investments in facilities and headcount as we increase capacity to support the expected volume of sales in the future. In addition, gross margin is expected to be negatively impacted by the continued adoption of MAGEC in the United States as we engage with larger national customers that compete primarily on price.

 

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Sales and Marketing Expenses

Sales and marketing expenses primarily consist of commissions to our independent sales agencies and consignment distributors, as well as compensation, commissions, benefits and other related costs for personnel employed in our sales, marketing, medical education and training departments. Commissions and bonuses to our sales managers, independent sales agencies, and consignment distributors are generally based on a percentage of sales. We expect our sales and marketing expenses to continue to increase in absolute dollars with the commercialization of our current and pipeline products and continued investment in our global sales organization.

Research and Development Expenses

Our research and development expenses primarily consist of costs associated with engineering, product development, clinical and regulatory expenses, consulting services, outside prototyping services, outside research activities, materials, depreciation and other costs associated with development of our products. Research and development expenses also include related personnel and consultants’ compensation expense. We also include costs related to the development and protection of our intellectual property portfolio in research and development expenses. We expense research and development costs as they are incurred. We expect research and development expense to continue to increase in absolute dollars as we continue to develop new products to expand our product pipeline, broaden our intellectual property portfolio, add research and development personnel, undergo clinical activities, including clinical studies to gain additional regulatory clearances, and support reimbursement coverage for our products.

General and Administrative Expenses

General and administrative expenses primarily consist of salaries, benefits and other related costs for personnel employed in finance, legal, compliance, administration, information technology and human resource departments. We include stock-based compensation for certain employees and also include legal and litigation expenses in general and administrative expenses. We expect our general and administrative expenses to continue to increase in absolute dollars as we hire additional personnel to support the growth of our business. Additionally, we expect to incur increased expenses as a result of being a public company.

Other Income and Expenses

Other income and expenses primarily consist of borrowing costs, unrealized foreign exchange gain (loss), and periodic changes in the fair value of warrant liabilities.

Results of Operations

Six Months Ended June 30, 2014 Compared to the Six Months Ended June 30, 2015

The following table sets forth, for the periods indicated, our results of operations:

 

     Six Months
Ended June 30,
    Change  
     2014     2015    
     (in thousands)  

Net Revenue

   $ 10,309      $ 20,306      $ 9,997   

Cost of revenue

   $ 2,470      $ 3,721      $ 1,252   

Sales and marketing expenses

   $ 4,825      $ 8,804      $ 3,979   

Research and development expenses

   $ 1,985      $ 4,248      $ 2,264   

General and administrative expenses

   $ 1,208      $ 2,383      $ 1,174   

Other income and expenses

   $ (1,260   $ (4,619   $ (3,359

 

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Net Revenue

The following table sets forth, for the periods indicated, our net revenue (in thousands) by product category and geography and as a percentage of net revenue:

 

    Six Months Ended June 30,         Six Months Ended June 30,  
    2014     2015         2014     2015  
    Revenue     % of Net
Revenue
    Revenue     % of Net
Revenue
        Revenue     % of Net
Revenue
    Revenue     % of Net
Revenue
 

US

  $ 5,279        51   $ 12,442        61   MAGEC-EOS   $ 4,217        41   $ 11,213        55

International

  $ 5,030        49   $ 7,864        39   PRECICE LLD   $ 6,092        59   $ 9,093        45

Net revenue increased $10.0 million, or 97%, from $10.3 million for the six months ended June 30, 2014 to $20.3 million for the six months ended June 30, 2015. The increase in net revenue was primarily driven by favorable volume and pricing mix associated with the commercial launch of our MAGEC-EOS system in the United States, continued adoption of our PRECICE LLD system, and the expansion of our sales organization in the United States and select international markets. The increase in net revenue was partially offset by the impact of a $0.8 million decrease due to changes in the U.S. dollar exchange rate of foreign currencies.

Cost of Revenue and Gross Margin

Cost of revenue increased $1.3 million, or 51%, from $2.5 million for the six months ended June 30, 2014 to $3.7 million for the six months ended June 30, 2015. The increase in cost of revenue was primarily attributable to increased unit volume partially offset by reduced unit costs as we reached maximum capacity in our Irvine, California manufacturing plant. Gross margin was 76% and 82% for the periods ended June 30, 2014 and 2015, respectively. Gross margin improved year over year due to favorable pricing mix with the MAGEC-EOS systems in the United States and lower unit costs associated with the increased volume in our plant.

Sales and Marketing Expenses

Sales and marketing expenses increased $4.0 million, or 82%, from $4.8 million for the six months ended June 30, 2014 to $8.8 million for the six months ended June 30, 2015. The increase was due primarily to higher sales commission expense of $1.7 million associated with sales growth and higher employee-related expense of $1.9 million due to supporting sales growth.

Research and Development Expenses

Research and development expenses increased $2.3 million, or 114%, from $2.0 million for the six months ended June 30, 2014 to $4.3 million for the six months ended June 30, 2015. The increase was due primarily to higher employee-related expenses of $1.2 million due to an increase in the number of employees and approximately $0.5 million in patent, material, and prototype expenses associated with development of our pipeline projects.

General and Administrative Expenses

General and administrative expenses increased $1.2 million, or 97%, from $1.2 million for the six months ended June 30, 2014 to $2.4 million for the six months ended June 30, 2015. The increase was due primarily to an increase of approximately $0.8 million in employee-related expenses associated with an increase in our number of employees, as well as an increase of approximately $0.1 million associated with insurance costs and facilities expenses to support the growth of our business.

 

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Other Income and Expenses

Other income and expenses was an expense of $1.3 million and an expense of $4.6 million for the six months ended June 30, 2014 and 2015, respectively. The other expense for both periods consisted primarily of interest on outstanding loans, the impact of unrealized foreign currency gains (losses) and the change in fair value of our warrant liabilities. The change was due to the increase in fair value of our redeemable convertible preferred stock warrants.

Comparison of the Years Ended December 31, 2013 and 2014

The following table summarizes our results of operations for the years ended December 31, 2013 and December 31, 2014:

 

     Year Ended December 31,     Increase /
(Decrease)
 
           2013                 2014          
     (in thousands)  

Net revenue

   $ 12,036      $ 25,683      $ 13,647   

Cost of revenue

     3,735        6,126        2,391   

Sales and marketing expenses

     6,415        11,841        5,427   

Research and development expenses

     4,634        4,861        227   

General and administrative expenses

     1,663        3,145        1,482   

Other income and expenses

     (904     (2,849     (1,945

Net Revenue

The following table sets forth, for the periods indicated, our net revenue (in thousands) by product category and geography and as a percentage of net revenue:

 

    Year Ended December 31,         Year Ended December 31,  
    2013     2014         2013     2014  
    Revenue     % of Net
Revenue
    Revenue     % of Net
Revenue
        Revenue     % of Net
Revenue
    Revenue     % of Net
Revenue
 

United States

  $ 4,687        39   $ 14,126        55   MAGEC-EOS   $ 4,329        36   $ 12,319        48

International

    7,348        61     11,557        45   PRECICE LLD     7,707        64     13,364        52

Net revenue increased $13.6 million, or 113%, from $12.0 million for the year ended December 31, 2013 to $25.7 million for the year ended December 31, 2014. The increase was due primarily to the introduction of our MAGEC-EOS system in the United States and further penetration of the global limb lengthening market with our PRECICE LLD system.

Cost of Revenue and Gross Margin

Cost of revenue increased $2.4 million, or 64%, from $3.7 million for the year ended December 31, 2013 to $6.1 million for the year ended December 31, 2014. The increase was due primarily to our increased sales volume. Gross margin as a percentage of sales was 69% and 76% for the periods ended December 31, 2013 and 2014, respectively. Gross margin improved year over year for the period due to favorable pricing mix with MAGEC-EOS systems in the United States and lower unit costs associated with the increased volume in our plant.

Sales and Marketing Expenses

Sales and marketing expenses increased $5.4 million, or 85%, from $6.4 million for the year ended December 31, 2013 to $11.8 million for the year ended December 31, 2014. The increase was due primarily to growth in sales commissions of $2.3 million associated with increased sales volume and an

 

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increase of $2.6 million associated with investments in our sales organization, including hiring of additional direct sales management and marketing personnel.

Research and Development Expenses

Research and development expenses increased $0.2 million, or 5%, from $4.6 million for the year ended December 31, 2013 to $4.9 million for the year ended December 31, 2014. The increase was due primarily to an increase in employee-related expense of $0.6 million partially offset by a reduction in materials and consulting expense.

General and Administrative Expenses

General and administrative expenses increased $1.5 million, or 89%, from $1.7 million for the year ended December 31, 2013 to $3.1 million for the year ended December 31, 2014. The increase was due primarily to employee-related expenses of $0.4 million and insurance, audit and legal fees of $0.6 million.

Other Income and Expenses

Other income and expenses was an expense of $0.9 million and $2.8 million for the years ended December 31, 2013 and 2014, respectively. The change was due to the increase in fair value of our redeemable convertible preferred stock warrants. The other income and expenses for both periods consisted primarily of interest on outstanding loans with Silicon Valley Bank and the impact of unrealized foreign currency gains (losses).

Liquidity and Capital Resources

We have incurred losses since inception and negative cash flows from operating activities for the years ended December 31, 2013 and 2014 and six months ended June 30, 2015. As of June 30, 2015, we had an accumulated deficit of $37.7 million. Since inception, we have funded our operations primarily through private placements of equity and convertible debt securities as well as from sales of our products. As of June 30, 2015, we had cash and cash equivalents of approximately $12.5 million.

We believe that our existing cash and cash equivalents, borrowing capacity under our credit and security agreements, cash receipts from sales of our products and net proceeds from this offering will be sufficient to meet our anticipated cash requirements for at least the next 24 months. From time to time, we may explore additional financing sources to meet our working capital requirements, make continued investment in research and development and make capital expenditures needed for us to maintain and expand our business. We may not be able to obtain additional financing on terms favorable to us, if at all. It is also possible that we may allocate significant amounts of capital toward solutions or technologies for which market demand is lower than anticipated and, as a result, abandon such efforts. If we are unable to obtain adequate financing or financing on terms satisfactory to us when we require it, or if we expend capital on projects that are not successful, our ability to continue to support our business growth and to respond to business challenges could be significantly limited, or we may even have to scale back our operations. If we raise additional funds through further issuances of equity or convertible debt securities, our existing stockholders could suffer significant dilution, and any new equity securities we issue could have rights, preferences and privileges superior to those of holders of our common stock, including shares of common stock sold in this offering.

 

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The following table sets forth a summary of the net cash flow activity (in thousands) for each of the periods set forth below:

 

     Year Ended
December 31,
    Six Months
Ended June 30,
 
     2013     2014     2014     2015  

Net cash used in operating activities

   $ (4,061   $ (1,813   $ (2,939   $ (3,137

Net cash used in investing activities

     (837     (809     (627     (3,724

Net cash provided by financing activities

     1,533        2,190        1,863        14,436   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net (decrease) increase in cash and cash equivalents

   $ (3,365   $ (432   $ (1,703   $ 7,575   
  

 

 

   

 

 

   

 

 

   

 

 

 

Net cash used in operating activities was $2.9 million for the six months ended June 30, 2014 as compared to $3.1 million for the same period in 2015. Our cash use in the second quarter of 2015 reflects increases in accounts receivable as we grew our sales. Additionally, we are typically increasing inventory levels to prepare for the seasonal ramp we see in the summer months.

Net cash used in operating activities was $4.1 million and $1.8 million for the years ended December 31, 2013 and 2014, respectively. The primary use of cash was to fund our operations related to the commercialization and development of our products in each of these years, resulting in a net loss of $5.3 million and $3.2 million for the years ended December 31, 2013 and 2014, respectively. For the years ended December 31, 2013 and 2014, net cash used in operating activities was driven by increased accounts receivables and inventory levels.

Net cash used in investing activities was $0.6 million and $3.7 million for the six months ended June 30, 2014 and 2015, respectively. Net cash used in investing activities during these periods consisted primarily of fixed asset and field asset expenditures, and the period ended June 30, 2015 included capitalization of our enterprise resource planning software implementation and restricted cash.

During the years ended December 31, 2013 and 2014, net cash used in investing activities was $0.8 million and $0.8 million, respectively. This was driven primarily by field asset expenditures.

Net cash provided by financing activities was $1.9 million in the six months ended June 30, 2014 compared to $14.4 million during the period ended June 30, 2015 and consisted of drawdowns on our revolving credit facility in the second quarter of 2014. In 2015, cash provided by financing activities was due to proceeds from a subordinated convertible notes issuance of $10 million, $5 million from a term loan, and $2 million from warrant exercises. This was offset by loan repayments and debt issuance costs.

Net cash provided by financing activities was $1.5 million compared to $2.2 million for the years ended December 31, 2013 and 2014, respectively. Financing activities in 2013 consisted of entry into a revolving credit facility with Silicon Valley Bank. Financing activities in 2014 consisted of proceeds from a term loan with Silicon Valley Bank and the exercise of options and warrants, offset by payments on the revolving credit line.

Indebtedness

Convertible Notes Financing

In June 2015, we entered into a note subscription agreement with certain new and existing investors pursuant to which we sold an aggregate of $10.0 million of convertible promissory notes, or the 2015 Notes. The 2015 Notes accrue interest at a rate of 6% per annum and are due and payable on January 1,

 

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2020, subject to their earlier conversion in the event we complete a qualified initial public offering, private placement of equity, or a change of control. Upon the closing of this offering, we will issue approximately             shares of common stock to the holders of the 2015 Notes upon their conversion, assuming for this purpose that the offering occurred on                     , 2015 at the assumed initial public offering price of $         per share, the midpoint of the price range set forth on the cover page of this prospectus. For a description of the impact of a delayed closing or a change in the estimated initial public offering price on the shares to be issued upon conversion of the 2015 Notes, you should read the section of this prospectus entitled “Capitalization—Convertible Notes Financing.”

Credit Agreements with MidCap

In June 2015, we entered into the Credit Agreements with MidCap, as agent and a lender, and the financial institutions or other entities from time to time parties thereto, as lenders. The Credit Agreements provide for (1) a $5.0 million revolving loan, subject to increase in accordance with the terms of the Credit Agreements by an additional $5.0 million for a total of up to $10.0 million in revolving loans and (2) a $5.0 million term loan, subject to increase pursuant to the terms of the Credit Agreements by an additional $10.0 million for a total of up to $15.0 million in term loans. The first term loan was funded in June 2015 in the aggregate principal amount of $5.0 million, of which approximately $3.3 million was used to pay off our prior debt facility with Silicon Valley Bank. The additional $10.0 million term loan will be available to us if we achieve $32.0 million in net revenue, calculated in accordance with accounting principles generally accepted in the United States of America, or GAAP, for the twelve-month period ending December 31, 2015. All borrowings under the Credit Agreements are due on October 1, 2019 and are secured by substantially all of our personal property other than our intellectual property. We have agreed to not pledge our intellectual property as security to any other entity.

There are no financial covenants associated with either credit facility; however, there are negative covenants that prohibit us from transferring any of our material assets, exclusively licensing our intellectual property, merging with or acquiring another entity, entering into a transaction that would result in a change of control, incurring additional indebtedness, creating any lien on our property, making investments in third parties, redeeming stock or paying dividends, in each case subject to certain exceptions as further detailed in the Credit Agreements. The negative covenants contained in the Credit Agreements do not prevent us from completing the offering contemplated by this prospectus.

The Credit Agreements also include events of default, the occurrence and continuation of any of which provides the lenders the right to exercise remedies against us and the collateral securing the loans, including cash. These events of default include, among other things, failure to pay amounts due under the credit facilities, insolvency, the occurrence of a material adverse event, which includes a material adverse change in our business, operations or properties (financial or otherwise) or a material impairment of the prospect of repayment of any portion of the obligations, the occurrence of any default under certain other indebtedness and a final judgment against us in an amount greater than $250,000. The occurrence of a material adverse change could result in acceleration of payment of the debt.

We are obligated to make monthly interest-only payments on any term loans borrowed under the term loan facility until April 30, 2017 and, thereafter, to pay consecutive, equal monthly installments of principal and interest from May 1, 2017 through October 1, 2019. The interest-only period will be extended until April 30, 2018 if we achieve $42.0 million in revenue, calculated in accordance with GAAP, for the twelve-month period ending March 31, 2017.

The term loans bear interest at an annual rate of 8.0%, and the revolving loans bear interest at an annual rate of 5.5%, in each case subject to adjustment based on fluctuations in the one-month LIBOR. Following the occurrence and during the continuance of an event of default, borrowings under the Credit

 

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Agreements will bear interest at an annual rate that is 4.0% above the rate that is otherwise applicable. In addition, a final payment equal to 3.0% of any amounts drawn on the term loan facility is due upon the earlier of the maturity date, acceleration of the term loans or prepayment of all or part of the term loans. We may prepay the term loan facility in whole but not in part upon five days’ prior written notice to the lenders and for an additional fee equal to the amount being prepaid multiplied by (1) 2.0% for the first year following June 12, 2015 or (2) 1.0% thereafter.

Seasonality

Our business is affected by seasonality. Our revenue is typically higher in the summer months and holidays, driven by higher sales of our MAGEC-EOS and PRECICE LLD systems, which is influenced by the higher incidence of pediatric surgeries during these periods. Additionally, early onset scoliosis patients tend to have additional health challenges that make scheduling their procedures variable in nature.

Critical Accounting Policies and Significant Judgments and Estimates

Our management’s discussion and analysis of financial condition and results of operations is based on our financial statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent liabilities at the date of the financial statements, as well as the reported revenues and expenses during the reporting periods. These items are monitored and analyzed by us for changes in facts and circumstances, and material changes in these estimates could occur in the future. We base our estimates on historical experience and on various other factors that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Changes in estimates are reflected in reported results for the period in which they become known. Actual results may differ materially from these estimates under different assumptions or conditions.

While our significant accounting policies are more fully described in the notes to our audited financial statements appearing elsewhere in this prospectus, we believe that the following accounting policies are most critical to understanding and evaluating our reported financial results.

Derivative Accounting

We entered into a convertible debt agreement that includes a change in control premium that is a derivative financial instrument. The fair value of the derivative has been measured at inception and recorded as a non-current liability on the balance sheet. This derivative financial instrument is re-measured and marked-to-market at the end of each reporting period, and changes in fair value from period to period are recognized within other income (expense), net on the statements of operations.

We account for warrants to purchase redeemable convertible preferred stock as liabilities. The warrants are recorded at fair value, estimated using an option-pricing model, and marked to fair value at each balance sheet date with changes in the fair value of the liability recorded in other income and expenses in the statements of operations.

Net Revenue

We sell our products to medical facilities and hospitals. In certain international markets, we sell our products through independent stocking distributors. We recognize revenue when persuasive evidence of a sales arrangement exists, delivery of goods occurs through the transfer of title and risks and rewards of ownership, the selling price is fixed or determinable and collectability is reasonably assured, which is when the product is implanted in a patient, or in the case of stocking distributors, when shipped. Our stocking distributor agreements do not allow for stock rotation, price protection or any other form of

 

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return privileges. Stocking distributors establish their own customer base, have discretion to set their pricing, retain inventory risk, and maintain their own field assets and external remote controller (“ERC”) assets to fulfill physician’s and patient’s needs. Sales to consignment distributors are recognized upon implant, when title transfers and collectability are reasonably assured. We retain title and risk for all inventory held by consignment distributors.

We sell our PRECICE LLD system bundled with the exclusive right to use an ERC that is uniquely serialized and individually distributed to lengthen the PRECICE LLD nail continuously over the two to three-month distraction period. We sell the components of our MAGEC-EOS system (i.e. MAGEC-EOS rods and ERC service) on both a standalone basis, to our stocking distributors, or as a bundle wherein we provide customers with the right to use our pool of available ERC’s to periodically lengthen the MAGEC-EOS rods at the orthopedic surgeon’s office over the four to five-year distraction period. These revenue transactions are considered to be multiple element arrangements. Revenue is recognized for each unit of accounting individually. We allocate revenue in multiple element arrangements to each unit of accounting using the relative selling price method. Selling prices used during the allocation process are based on: vendor specific objective evidence (“VSOE”) of fair value if available, third-party evidence if VSOE of fair value is not available, or estimated selling price if neither VSOE of fair value or third-party evidence is available.

Revenue associated with equipment leases is determined using the relative fair value method and represents less than 5% of total revenue. These rights to use specified asset arrangements are classified as operating leases. We estimate the fair value of a leased product based upon transacted cash sales prices of the same or similar products to similar classes of customers during the preceding twelve-month period to determine the normal selling price of the product, which is then allocated to the lease based upon the number of customers expected to use the product over its useful life. We recognize revenue under operating leases over the estimated period of usage, which is generally two to three months.

The revenue associated with the right to use our pool of assets is calculated in the same manner as the equipment leases, and is recognized on a straight-line basis over the estimated life of the service, which is approximately four to five years. Service revenue represents less than 2% of total revenue.

Inventory Valuation

We state inventories at the lower of cost or market. We determine cost on a first in first out basis. We plan for the production of our products based on expected market demand and expected product launches. The nature of our business requires that we have multiple products available at each surgery. We evaluate the carrying value of our inventories in relation to the estimated forecast of product demand, which takes into consideration the estimated life cycle of product releases. A significant decrease in demand or change in new product launch timing could result in an increase in the amount of excess inventory quantities on hand. When quantities on hand exceed estimated sales forecasts, we write down excess inventories, which results in a corresponding charge to cost of revenue.

Net Operating Loss and Research and Development Tax Credit Carryforwards

As of December 31, 2014, we had federal and California tax net operating loss carryforwards of $17.0 million and $15.0 million, respectively, which begin to expire in 2027 and 2026, respectively, unless previously utilized. As of December 31, 2014, we also had federal and California research and development tax credit carryforwards of $0.5 million and $0.3 million, respectively. The federal research and development tax credit carryforwards will begin to expire in 2027. The California research and development tax credit carryforwards are available indefinitely.

Pursuant to Sections 382 and 383 of the Code, annual use of our net operating loss and research and development credit carryforwards may be limited in the event that an “ownership change” (generally

 

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defined as a cumulative change in equity ownership by “5% shareholders” that exceeds 50 percentage points over a rolling three-year period) occurs. We are currently analyzing the tax impacts of any potential ownership changes on our federal net operating loss and credit carryforwards.

Income Taxes

We recognize deferred tax assets and liabilities for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. We measure deferred tax assets and liabilities using enacted tax rates expected to apply to taxable income in the year in which such items are expected to be received or settled. We recognize the effect on deferred tax assets and liabilities of a change in tax rates in the period that includes the enactment date. We establish a valuation allowance to offset any deferred tax assets if, based upon available evidence, it is more likely than not that some or all of the deferred tax assets will not be realized. Currently, we have recorded a full valuation allowance against the deferred tax asset, as we have incurred losses to date.

Stock-based Compensation

We recognize compensation costs related to stock options granted to employees based on the estimated fair value of the awards on the date of grant, net of estimated forfeitures. We estimate the grant date fair value, and the resulting stock-based compensation expense, using the Black-Scholes option pricing model. The grant date fair value of stock-based awards is expensed on a straight-line basis over the period during which the employee is required to provide service in exchange for the award (generally the vesting period).

We estimate the fair value of our stock-based awards using the Black-Scholes option-pricing model, which requires the input of highly subjective assumptions. Our assumptions are as follows:

 

   

Expected term.    The expected term represents the period that the stock-based awards are expected to be outstanding. For employee stock option grants, we use the simplified method to determine the expected term, which is calculated as the weighted average of the time to vesting and the contractual life of the options. For non-employee stock option grants, we use the contractual life of the option.

 

   

Expected volatility.    As our common stock has never been publicly traded, the expected volatility is derived from the average historical volatilities of publicly traded companies within our industry that we consider to be comparable to our business over a period approximately equal to the expected term for employees’ options and the remaining contractual life for non-employees options.

 

   

Risk-free interest rate.    The risk-free interest rate is based on the U.S. Treasury yield with a maturity equal to the expected term of the option in effect at the time of grant.

 

   

Dividend yield.    The expected dividend yield is assumed to be zero as we have never paid dividends and have no current plans to pay any dividends on our common stock.

In addition to the assumptions used in the Black-Scholes option-pricing model, we also estimate a forfeiture rate to calculate the stock-based compensation for our equity awards. We will continue to use judgment in evaluating the expected volatility, expected term and forfeiture rates utilized for our stock-based compensation calculations on a prospective basis.

Stock-based compensation expense for options granted to non-employees as consideration for services received is measured on the date of performance at the fair value of the consideration received or the fair value of the equity instruments issued, using the Black-Scholes option-pricing model, whichever can be more reliably measured. Stock-based compensation expense for options granted to non-employees is periodically remeasured as the underlying options vest.

 

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The following table summarizes the weighted-average assumptions we used to determine the fair value of stock options granted to employees:

 

     Year Ended December 31,      Six Months Ended
June 30,
 
           2013                  2014                2014              2015      

Expected term (in years)

     10.0            6.5–10.0            10.0            6.3–6.5      

Expected volatility

     54.0%         49.6%         49.6%         49.6%   

Risk-free interest rate

     0.4%–0.8%         0.3%–2.0%         0.4%–0.6%         1.6%–2.0%   

Dividend yield

     0.0%         0.0%         0.0%         0.0%   

We recorded total stock-based compensation expense of $54,222 and $60,563 in the years ended December 31, 2013 and 2014, respectively, and $24,578 and $74,273 in the six months ended June 30, 2014 and 2015, respectively. We expect to continue to grant stock options and other equity-based awards in the future, and to the extent that we do, our stock-based compensation expense recognized in future periods will likely increase.

Historically, for all periods prior to this offering, the fair values of the shares of common stock underlying our stock-based awards were estimated on each grant date by our board of directors. In order to determine the fair value of our common stock underlying option grants, our board of directors considered, among other things, contemporaneous valuations of our common stock prepared by an unrelated third-party valuation firm in accordance with the guidance provided by the American Institute of Certified Public Accountants Practice Guide, Valuation of Privately-Held-Company Equity Securities Issued as Compensation. We use multiple inputs to value our common stock, including amount of time to liquidity, risk-free interest rate over the period until the assumed liquidity event, the assumed volatility in the value of our equity, enterprise value and key price points in our capital structure. Given the absence of a public trading market for our common stock, our board of directors exercised reasonable judgment and considered a number of objective and subjective factors to determine the best estimate of the fair value of our common stock, including our stage of development; the rights, preferences and privileges of our convertible preferred stock relative to those of our common stock; our operating results and financial condition, including our levels of available capital resources; equity market conditions affecting comparable public companies; general U.S. market conditions and the lack of marketability of our common stock.

For stock awards after the completion of this offering, our board of directors intends to determine the fair value of each share of underlying common stock based on the closing price of our common stock as reported on the date of grant.

The intrinsic value of all outstanding options as of June 30, 2015 was                     based on an assumed initial public offering price of $         per share, the midpoint of the estimated offering price range set forth on the cover of this prospectus.

 

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Contractual Obligations and Commitments

The following table summarizes our contractual obligations at December 31, 2014 (in thousands):

 

     Payments Due by Period  
     Total      Less than
1 Year
     1–3
Years
     3–5
Years
     More than
5 Years
 

Long-term debt

   $ 1,675       $     —         $ 1,675       $ —         $ —     

Capital lease payable

     74         25         46         3         —     

Operating lease obligations

     8,374         516         3,201         3,342         1,315   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 10,123       $ 541       $ 4,922       $ 3,345       $ 1,315   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements (as defined by applicable regulations of the SEC) that are reasonably likely to have a current or future material effect on our financial condition, results of operations, liquidity, capital expenditures or capital resources.

Recent Issued Accounting Pronouncements

In May 2014, the FASB issued Accounting Standards Update, or ASU, 2014-09, Revenue from Contracts with Customers. This amendment addresses revenue from contracts with customers, which clarifies existing accounting literature relating to how and when a company recognizes revenue. Under the standard, a company will recognize revenue when it transfers promised goods or services to customers in an amount that reflects the consideration to which the company expects to be entitled in exchange for those goods and services. The amendments for this standard update are effective for the annual reporting periods beginning after December 15, 2017, and are to be applied retrospectively or the cumulative effect as of the date of adoption, with early application not permitted. In July 2015, the FASB voted to delay the required implementation of ASU 2014-09 for one year. Management is currently evaluating the impact ASU 2014-09 will have on our financial statements and related disclosures.

In August 2014, the FASB issued ASU 2014-15, Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern. This ASU introduces an explicit requirement for management to assess if there is substantial doubt about an entity’s ability to continue as a going concern, and to provide related footnote disclosures in certain circumstances. In connection with each annual and interim period, management must assess if there is substantial doubt about an entity’s ability to continue as a going concern within one year after the issuance date. Disclosures are required if conditions give rise to substantial doubt. ASU 2014-15 is effective for all entities in the first annual period ending after December 15, 2016. We are currently assessing the potential effects of this ASU on our financial statements.

In April 2015, the FASB issued ASU 2015-03, Interest—Imputation of Interest: Simplifying the Presentation of Debt Issuance Costs. The update requires debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of the related debt liability instead of being presented as an asset. Debt disclosures will include the face amount of the debt liability and the effective interest rate. The update requires retrospective application and represents a change in accounting principle. ASU 2015-03 will be effective for us in the first quarter of 2016. Early adoption permitted for financial statements that have not been previously issued. Management is evaluating the impact of ASU 2015-03 on the financial statements.

In July 2015, the FASB issued ASU 2015-11, Inventory—Simplifying the Measurement of Inventory. ASU 2015-11 requires inventory to be subsequently measured using the lower of cost and net realizable

 

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value, thereby eliminating the market value approach. Net realizable value is defined as the “estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation.” ASU 2015-11 is effective for reporting periods beginning after December 15, 2016 and is applied prospectively. Early adoption is permitted. We are currently evaluating the impact that this guidance will have on our financial statements and disclosure.

Quantitative and Qualitative Disclosures about Market Risk

Interest Rate Risk

Our cash and cash equivalents balance as of June 30, 2015 consisted of demand deposit accounts and institutional money market funds held in U.S. and foreign banks. Cash equivalents consist of highly liquid investment securities with original maturities at the date of purchase of three months or less and can be exchanged for a known amount of cash. We are exposed to market risk related to fluctuations in interest rates and market prices. Our primary exposure to market risk is interest income sensitivity, which is affected by changes in the general level of U.S. interest rates. However, because of the nature of our cash holdings, a sudden change in market interest rates would not be expected to have a material impact on our financial condition or results of operation. Our long-term debt under our credit facilities bears interest at a rate that varies with the one-month LIBOR and a change in market interest rate would impact our financial condition and results of operations. A 1% change in interest rate would result in a $100,000 change in total interest payable in the event we were to draw down the entire capacity of our revolving credit facility, which is currently undrawn.

Foreign Currency

We operate in countries other than the United States and bill some of our sales outside of the United States in foreign currency. We therefore believe that the risk of a significant impact on our operating income from foreign currency fluctuations could be significant. We do not currently hedge our exposure to foreign currency exchange rate fluctuations; however, we may choose to hedge our exposure in the future. We estimate that an immediate 10% adverse change in foreign exchange rates not currently pegged to the U.S. dollar would have increased our net loss by approximately $0.6 million for the year ended December 31, 2014.

Effects of Inflation

We do not believe that inflation has had a material effect on our results of operations during the periods presented herein.

Other Company Information

JOBS Act

As a company with less than $1.0 billion in revenue during our last fiscal year, we qualify as an “emerging growth company” as defined in the JOBS Act enacted in April 2012. An “emerging growth company” may take advantage of reduced reporting requirements that are otherwise applicable to public companies. These provisions include, but are not limited to:

 

   

being permitted to present only two years of audited financial statements and only two years of related Management’s Discussion and Analysis of Financial Condition and Results of Operations in this prospectus;

 

   

not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act of 2002, as amended;

 

   

reduced disclosure obligations regarding executive compensation in our periodic reports, proxy statements and registration statements; and

 

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exemptions from the requirements of holding a nonbinding advisory vote on executive compensation and stockholder approval of any golden parachute payments not previously approved.

We may take advantage of these provisions until the last day of our fiscal year following the fifth anniversary of the completion of this offering. However, if certain events occur prior to the end of such five-year period, including if we become a “large accelerated filer,” our annual gross revenues exceed $1.0 billion or we issue more than $1.0 billion of non-convertible debt in any three-year period, we will cease to be an emerging growth company prior to the end of such five-year period.

We have elected to take advantage of certain of the reduced disclosure obligations in this registration statement and may elect to take advantage of other reduced reporting requirements in future filings. As a result, the information that we provide to our stockholders may be different from what you might receive from other public reporting companies in which you hold equity interests.

In addition, under the JOBS Act, emerging growth companies can delay adopting new or revised accounting standards until such time as those standards apply to private companies. We have irrevocably elected not to avail ourselves of this exemption from new or revised accounting standards and, therefore, we will be subject to the same new or revised accounting standards as other public companies that are not emerging growth companies.

Internal Control Over Financial Reporting

Internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements in accordance with GAAP. Prior to this offering, we were a private company and had limited accounting and financial reporting personnel and other resources with which to address our internal controls and procedures. We are currently in the process of reviewing, documenting and testing our internal control over financial reporting.

We have not performed an evaluation of our internal control over financial reporting, such as required by Section 404 of the Sarbanes-Oxley Act, nor have we engaged an independent registered public accounting firm to perform an audit of our internal control over financial reporting as of any balance sheet date or for any period reported in our financial statements. Presently, we are not an accelerated filer, as such term is defined by Rule 12b-2 of the Exchange Act, and therefore, our management is not presently required to perform an annual assessment of the effectiveness of our internal control over financial reporting. Our independent public registered accounting firm will first be required to attest to the effectiveness of our internal control over financial reporting for our Annual Report on Form 10-K for the first year we are no longer an “emerging growth company.”

 

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BUSINESS

Overview

We are a medical technology company focused on revolutionizing orthopedic surgery by developing and marketing a new generation of magnetically adjustable implant systems based on our MAGnetic External Control, or MAGEC, technology platform. Our novel and proprietary implants are adjustable at the time of implantation and non-invasively over the course of treatment to accommodate the changing clinical needs of patients as they heal, grow or age. Our MAGEC technology enables physicians to continue to treat many patients non-invasively who would, in the past, require surgical operations. With MAGEC, physicians can customize therapy for patients while reducing the need for multiple repeat surgical procedures, which provides significant improvements in patient clinical outcomes and quality of life while generating significant cost savings to the healthcare system. We have successfully commercialized two highly differentiated product families, MAGEC-EOS for treatment of early onset scoliosis and PRECICE limb lengthening system, or PRECICE LLD, for treatment of limb length discrepancy. These products incorporate our MAGEC technology and have been used to treat over 4,000 patients worldwide. Our robust pipeline of new products utilizing MAGEC technology, include applications for orthopedic trauma, knee osteoarthritis and degenerative spine disease. We estimate the global addressable market opportunity for our commercial products was approximately $1.2 billion in 2014 based on data from Life Science Intelligence, Inc., which included addressable markets of approximately $571 million for our MAGEC-EOS system and approximately $708 million for our PRECICE LLD system. In addition, our product candidates leveraging our MAGEC technology addressed a significant global opportunity of over 690,000 procedures in 2014 according to this data.

Despite improvements in the design and surgical planning of conventional orthopedic implants, significant limitations remain in satisfying the needs of our identified patient populations. Conventional technologies remain static and cannot be adjusted to accommodate a sub-optimal implantation or the changing clinical needs of patients as they heal, grow or age without incurring an invasive surgical procedure. Surgeries to adjust conventional implants are associated with soft tissue disruption, high rates of wound infection, post-operative pain and lengthy recovery times. In addition, there are numerous psychological comorbidities associated with multiple repeat surgeries including depression, pain medication abuse, impaired mobility, poor cosmetic result and longer time to return to daily activity. In these procedures, we believe that our MAGEC technology offers significant cost savings compared to the surgical, or even minimally-invasive, procedures currently used on such patients.

We believe our proprietary MAGEC technology has the potential to become the standard of care for a wide range of orthopedic conditions. Our technology harnesses rotational magnetic forces generated by our external remote controller, or ERC, to change the size, shape, position and alignment of implants through a proprietary mechanical torque-increasing gearing system, or transmission, embedded in our implants. These non-invasive adjustments can be performed at any time over the life of the implant according to the changing clinical needs of patients as prescribed by their physicians. We believe our MAGEC technology offers compelling alternatives to conventional implants by enabling personalized orthopedic therapy over the course of treatment, non-invasive adjustment, improved quality of life and patient satisfaction and a strong healthcare economic value proposition.

Our proprietary MAGEC-EOS system was developed using our MAGEC technology to treat children suffering from early onset scoliosis, and is a non-invasively expandable spinal rod that allows for periodic distraction performed in the physician’s office rather than a surgical suite to improve correction of the spinal deformity as the child grows. MAGEC-EOS reduces the requirement for multiple repeat surgeries to change the length of a rod to accommodate a growing spine. We believe MAGEC-EOS offers distinct advantages over conventional expanding rods, including improved clinical outcomes, reduced complications associated with surgical procedures and cost savings to the healthcare system. MAGEC-

 

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EOS received CE mark in 2009 and FDA 510(k) clearance in 2014. Because of these many advantages, MAGEC-EOS is becoming the standard of care in many countries of the world.

Our proprietary PRECICE LLD system was developed using our MAGEC technology to treat limb length discrepancies without the need for external fixation. PRECICE LLD is a non-invasively adjustable intramedullary nail designed to internally lengthen the femur or tibia with precision and control. Daily non-invasive expansion of the PRECICE LLD nail is performed at home by the patient using our ERC which is programed by the physician. PRECICE LLD offers improved clinical outcomes, higher patient satisfaction, reduced pain and discomfort and improved quality of life as compared to traditional external fixation. PRECICE LLD received CE mark in 2010 and FDA 510(k) clearance in 2011.

Our robust pipeline includes products targeted at a wide range of orthopedic markets, including trauma, knee osteoarthritis and degenerative spine disease. Through research and development programs we create new products based on our MAGEC technology and improve its features and benefits. Our expanding portfolio of intellectual property is designed to protect the innovative features of our MAGEC technology, which included 23 issued patents globally and 57 pending patent applications globally as of June 30, 2015.

We market and sell our products globally through a sales organization that allows us to continually expand our sales infrastructure and penetrate new geographic markets. Our global sales organization consists of direct sales managers that develop account relationships and recruit and lead a broad network of independent sales agencies and distributors. We currently market and sell our products in the United States and 29 other countries. Sales outside of the United States represented 45% of our net revenue in 2014 and 39% of our net revenue for the six months ended June 30, 2015. Sales of our MAGEC-EOS and PRECICE LLD systems in the U.K. and Germany amounted to $0.9 million and $1.2 million, respectively, in 2012, $1.6 million and $2.7 million, respectively, in 2013, $3.3 million and $3.5 million, respectively, in 2014 and $1.9 million and $1.7 million, respectively, in the six months ended June 30, 2015.

For the years ended December 31, 2013 and 2014, our net revenue was $12.0 million and $25.7 million respectively, and our net losses were $5.3 million and $3.2 million, respectively. For the six months ended June 30, 2015, our net revenue was $20.3 million and our net loss was $3.5 million. We expect to continue to incur losses for the next few years. Net revenue from our MAGEC-EOS and PRECICE LLD product families was $12.3 million and $13.4 million in 2014, respectively, and $11.2 million and $9.1 million for the six months ended June 30, 2015, respectively. Through June 30, 2015, we had an accumulated deficit of $37.7 million.

Limitations of Conventional Orthopedic Implants

Technology innovation and progress are dominant themes in the medical device industry due to the changing healthcare landscape and increasing patient expectations for high quality and improved clinical outcomes. The orthopedic implant represents one of the most significant advancements in the treatment of debilitating orthopedic conditions that cannot be corrected with conservative, non-surgical treatment. Orthopedic implants began as static implants that stabilized fractures to promote proper healing and alignment and have since evolved to include several novel features including compression and expansion capabilities, robotic control and patient-specific design. The evolution of orthopedic implants has enabled product features that promote ease of use and durability as well as improved clinical outcomes and quality of life for patients. Despite improvements in the design of orthopedic implants, conventional technologies remain static and surgery today remains a singular, acute event. Conventional orthopedic implants cannot be adjusted to address a sub-optimal implantation or to accommodate the changing clinical needs of patients as they heal, grow or age without an invasive approach or surgical procedure. As a result, we believe the following platform-level limitations remain in the orthopedic implant industry:

 

   

Surgery Today is an Acute Event.    The initial implantation is an acute event and the only opportunity for orthopedic surgeons to optimize surgical outcomes without risking a repeat

 

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intervention. It is difficult to know at the time of initial implantation whether the orthopedic implant is optimally sized, positioned or aligned. In cases of improper sizing, positioning or alignment, patients may suffer over the course of treatment due to sub-optimal clinical outcomes.

 

   

Clinical Needs Change Over Time.    After the initial implantation, the optimal size, shape, position and alignment of the implant may change over time as patients heal, grow or age. Conventional implant technologies do not provide the patient with adjustable correction over time without incurring the risks and morbidities associated with invasive procedures to adjust their positioning.

 

   

Implant Adjustments and Surgical Revisions are Highly Invasive.    Following initial implantation, orthopedic implants integrate with the bones and soft tissues of the body. Procedures that manipulate the adjustment of an orthopedic implant require invasive approaches to the body that are associated with soft tissue disruption, post-operative pain and lengthy recovery times.

 

   

Reduced Quality of Life and Patient Satisfaction.    Improper sizing, positioning or alignment at the time of initial implantation, or changes to patient anatomy over time, can result in sub-optimal clinical outcomes. These are associated with significant impacts to patient quality of life and satisfaction, including depression, pain medication abuse, impaired mobility, poor cosmetic result and longer time to return to daily activity. These effects can be particularly impactful to young children and their families when multiple repeat procedures are required over time.

 

   

Significant Economic Challenges.    Reduced patient quality of life and satisfaction often result in additional healthcare costs. These costs range from palliative treatments including pain medication and physical therapy to multiple repeat surgical procedures and their associated costs, including hospital stays, post-operative recovery time and physical rehabilitation. Broader impacts of reduced patient quality of life and satisfaction can also include longer time to return to normal daily activity and the social implications of poor cosmetic results and depression.

We believe there is an unmet need for a technology platform that enables physicians and patients to adjust orthopedic implants non-invasively over time. We believe the non-invasive adjustment of orthopedic implants will enable treatments to be customized to the changing clinical needs of patients over time, promote increased flexibility for at-home treatment, deliver superior clinical outcomes and provide substantial economic benefits to the healthcare system.

 

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Our Technology

Our MAGEC technology harnesses rotational magnetic forces generated by our ERC to change the size, shape, position and alignment of implants through a proprietary, mechanical, torque-increasing gearing system, or transmission, embedded in each implant. Our technology utilizes cylindrical permanent magnets: two in the ERC and one in each implant. The ERC magnets are the sole source of power that drives rotation of a magnet contained in the implant. The resulting force from the magnets is amplified and translated by the implant’s transmission to expand, compress and rotate the implant. These adjustments may be performed at any time and frequency over the life of the implant according to physician prescription and the changing clinical needs of the patient.

 

LOGO   LOGO
Permanent Magnets   Implant Cross-Section

Implant adjustments using our ERC are performed by the patient or by a clinician, depending on the therapeutic regimen that matches the clinical need. Our ERC is equipped with novel and proprietary software that enables a physician to prescribe adjustments customized for each patient’s needs. For example, a clinician may program the prescription into the device such that it will only allow the implant to be adjusted by a specific length when used by the patient at home with a high degree of precision and accuracy. Our ERC is equipped with an easy to use two-button control along with an on-board camera for optimal placement over the appropriate segment of the body.

 

LOGO    LOGO
MAGEC-EOS ERC    PRECICE LLD ERC

We believe our MAGEC technology can be used to develop devices that treat a variety of orthopedic conditions and offers the following benefits:

 

   

Personalized Patient Solutions Over the Course of Treatment.    Our technology enables the size, shape, position and alignment of orthopedic implants to be customized to the needs of the patient at any point over the course of treatment. For example, these adjustments can be made at the time of surgery, shortly following surgery and over time as patients heal, grow

 

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or age. In addition, we believe our technology enables physicians to treat a wider variety of patients and to provide treatment earlier in the continuum of care.

 

   

Non-Invasive Adjustments.    Our technology enables painless, non-invasive adjustment of an implant using our ERC in a physician’s office or at the patient’s home. We believe the ability of our technology to non-invasively adjust an implant’s size, shape, position and alignment enables improved clinical outcomes and reduces post-operative complications over the course of treatment.

 

   

Improved Quality of Life and Increased Patient Satisfaction.    Our products are designed to eliminate the need for surgical revision to correct sub-optimal surgical outcomes and to adjust the implant over time as patients heal, grow or age. By reducing the need for surgical revisions, we believe our products reduce rates of infection, post-operative pain, recovery times and psychological comorbidities associated with adjustments to conventional implants, thereby enabling improved quality of life for our patients.

 

   

Strong Healthcare Economic Value Proposition.    By reducing the likelihood of multiple repeat surgical procedures and improving quality of life and satisfaction of our patients, our technology significantly reduces overall costs to the healthcare system.

We are not aware of any other FDA cleared or approved product on the market that enables a non-invasive adjustment of orthopedic implants.

Our Strategy

Our goal is to revolutionize orthopedic surgery and become the leader in the global orthopedic implants market. To achieve our goal, we are pursuing the following strategies:

 

   

Establish Our Products as the Standard of Care in Our Target Markets.    We intend to continue to educate patients and orthopedic surgeons on the advantages of our products as compared to conventional orthopedic implants. We believe the benefits of our technology will drive broader adoption of our products and enable our products to become the standard of care in the treatment in a wide range of orthopedic conditions.

 

   

Continue to Expand the Application of Existing Products and Develop New Applications of Our MAGEC Technology.    We rely on our relationships with orthopedic surgeons to identify additional clinical applications for our technology and potential improvements to our existing products. We combine this input with our internal expertise to develop new products and to improve the features and benefits of our existing products. We believe our ability to introduce new and enhanced clinical applications of our technology will allow us to continue to expand our total addressable market opportunity. We intend to protect our continued innovations by expanding our intellectual property portfolio.

 

   

Invest in Our Global Commercial Infrastructure.    In order to ensure broad access to our products, we intend to continue to invest in our global commercial infrastructure. This includes increasing the size and geographic breadth of our sales organization, developing comprehensive marketing programs for patients and orthopedic surgeons, executing upon our reimbursement strategies and securing additional regulatory approvals to capitalize on our global market opportunity. We intend to leverage these investments and the clinical benefits of our technology to further penetrate and expand our target markets.

 

   

Invest in Clinical and Economic Studies.    We intend to continue to invest in studies in order to support the publication of peer-reviewed articles that validate the clinical and economic benefits of our technology.

 

   

Engage with Payors to Increase Reimbursement for Our Products.    We intend to leverage clinical and economic studies to demonstrate to payors the benefits of our technology as

 

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compared to conventional therapies and our ability to reduce the overall cost of care. We intend to increase our reimbursement rates through product-specific codes to accelerate their adoption.

Our Commercial and Pipeline Products

We currently market products that leverage our MAGEC technology to treat the unmet clinical needs of children who suffer from early onset scoliosis and patients who suffer from limb length discrepancies. We are also developing multiple near-term product candidates that leverage our technology in additional orthopedic applications including trauma, knee osteoarthritis and degenerative spine disease.

The following chart summarizes our current products and products in development leveraging our technology.

 

Product / Product Candidate

 

Clinical
Application

 

Adjustment
Mechanism

 

Regulatory /
Development
Status

 

LOGO

  MAGEC-EOS   Early onset scoliosis   Growing rod distraction  

CE Mark 2009

 

FDA 510(k) 2014

 

LOGO

  PRECICE LLD   Limb lengthening   Intramedullary nail distraction  

CE Mark 2010

 

FDA 510(k) 2011

 

LOGO

  PRECICE Trauma   Orthopedic trauma   Intramedullary nail compression and distraction for long bone non-unions  

CE Mark 2012

 

FDA 510(k) 2012

LOGO

  PRECICE HTO   Knee osteoarthritis   Intramedullary nail for angular correction of mechanical alignment  

CE Mark 2014

 

In Clinical Evaluations

LOGO

  Adjustable Lordosing Rod   Degenerative spine disease   Adjustable rod for correction of sagittal imbalance   In Development

 

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All of our product families are available in a variety of configurations to address a wide range of patient anatomies and surgical requirements.

Market Opportunity

We estimate that the global addressable market opportunity for our commercial products was approximately $1.2 billion in 2014 based on data from Life Science Intelligence, Inc., which included addressable markets of approximately $571 million for our MAGEC-EOS system, and approximately $708 million for our PRECICE LLD system. The addressable market for our MAGEC-EOS system includes both de novo implant procedures and conversion procedures. We define conversion procedures as those in which patients previously implanted with traditional growing rods that could later be treated with our MAGEC-EOS system.

In addition, our product candidates leveraging our MAGEC technology addressed a significant global opportunity of 692,793 procedures in 2014, which included 25,741 procedures to address orthopedic trauma, specifically midshaft fracture non-unions of the humerus, tibia and femur, 571,458 procedures to address knee osteoarthritis, which we believe includes HTO, unicompartmental knee arthroplasty and knee arthroscopy procedures and 95,594 procedures to address degenerative spine disease and correct sagittal imbalance.

 

LOGO   LOGO

MAGEC-EOS Spinal Bracing and Distraction System

The MAGEC-EOS system is intended to treat children suffering from early onset scoliosis and reduce the need for repeat surgeries. Within the United States, MAGEC-EOS is indicated for skeletally immature patients less than 10 years of age with severe progressive deformities, such as early onset scoliosis, associated with or at risk of thoracic insufficiency syndrome, or TIS. TIS is characterized by the inability of the thorax, which consists of the spine, rib cage and sternum, to support normal respiration or lung growth. Outside of the United States, MAGEC-EOS is indicated for children older than two years who weigh more than 25 pounds.

Our MAGEC-EOS system consists of an adjustable, single-use spinal rod that is surgically implanted using common pedicle screws, hooks and connectors and our hand-held ERC. In the vast majority of cases, two MAGEC-EOS rods are used per procedure. Some patients may need longer courses of treatment to accommodate their growing spines, which could result in implantation of a second set of MAGEC rods in three or four years, after they have outgrown the first set. The ERC can be used at

 

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various times after implantation by a clinician to non-invasively distract or compress the spinal rod during routine outpatient visits. We began marketing our MAGEC-EOS system in the U.K. and Germany under CE mark in 2010 and in the United States under FDA 510(k) in 2014. To date, over 2,000 children have been treated with our MAGEC-EOS system.

Limitations of Existing Treatment Alternatives

Early onset scoliosis is an abnormal lateral curve of the spine diagnosed before the age of ten. The cause of early onset scoliosis is unknown and the occurrence of the condition is relatively uncommon. Despite its low incidence rate, early onset scoliosis is a challenging health issue. Children suffering from this condition can develop spinal deformities that progress rapidly and often suffer from a variety of comorbidities such as TIS leading to a failure to thrive.

The treatment pathway for early onset scoliosis cases may begin with bracing or casting, which is designed to slow or correct the progression of severe curvature of the spine and is typically utilized as the first course of treatment. If a child’s spinal curvature shows continued progression despite bracing or casting, surgery may be considered.

Surgical treatments for early onset scoliosis include the use of pedicle screws and surgically adjustable expandable rods to control the spine deformity while still allowing the spine to grow until a child reaches an appropriate size or age for a more permanent solution such as spinal fusion. Rod adjustments are made mechanically under general anesthesia. To adjust the rod, the orthopedic surgeon must create an incision several inches long and dissect skin, muscle and fascial tissues to reach the primary rod and connector located in the center of the spine instrumentation construct. After accessing this space, the orthopedic surgeon loosens several screws and uses a mechanical distractor to lengthen the rods within the connector. Neurological monitoring is incorporated in the procedure to identify when too much force is applied, which can cause the spinal cord to fail to function properly, in some cases leading to paralysis. Rod adjustment surgeries are associated with significant disruption to soft tissue and support structures, significant blood loss, long recovery times, high infection rates, post-operative pain and use of medication to control post-operative pain. They are also associated with significant scarring and impaired mobility as the child heals from surgery. Adjustments to traditional growing rods are typically made every six to nine months. The frequency of adjustment is often limited by the time to heal from the required surgical procedures. The long intervals between traditional adjustments may lead to sub-optimal clinical outcomes, especially during more rapid phases of growth. Additionally, repeated exposure to general anesthesia has been associated with impairments to cognitive development in children. Repeat surgeries and associated complications of traditional growing rods are very costly to the healthcare system.

Our Solution

We designed our MAGEC-EOS system to overcome the limitations of conventional rod treatments for early onset scoliosis. This product provides all of the benefits of our MAGEC technology, as well as the following:

 

   

Improved Clinical Outcomes.    Due to our non-invasive adjustment technology, our MAGEC-EOS system enables more frequent adjustments in an outpatient setting, thereby improving curve correction and spinal growth.

 

   

Reduced Complications.    We believe that MAGEC-EOS results in lower rates of complications associated with surgical procedures and repetitive exposure to general anesthesia, than may be experienced with traditional growing rods due to the non-invasive adjustments enabled by our MAGEC technology.

 

   

Cost Savings.    Economic models have consistently concluded that MAGEC-EOS provides cost savings as compared to treatment with conventional growing rods by reducing the number of required repeat surgical procedures.

 

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PRECICE Limb Lengthening System

The PRECICE limb lengthening system is intended to treat limb length discrepancies without external fixation. Our PRECICE LLD system consists of an adjustable intramedullary nail and our hand-held ERC. Our ERC can be used at various times after implantation to non-invasively lengthen the implant, which has the corresponding effect of lengthening the limb to which it is attached. Our ERC can be programmed by a clinician to apply adjustments based on the physician’s prescription. Once programmed, the patient can perform daily automated adjustments at home with our ERC without pain. Our PRECICE LLD system has been indicated for use with the screw types used during the testing of our product as part of the FDA approval process. We are not permitted to market this product with other screw types, due to rules against off-label promotion. However, the FDA does not restrict physicians from using this product with screw types of their choosing. We began marketing our PRECICE LLD system in the U.K. and Germany under CE mark in 2010 and in the United States under FDA 510(k) in 2011. To date, over 2,000 patients have been treated with our PRECICE LLD system. Within the PRECICE product family, our FREEDOM system is used to lengthen the residual lower limbs of amputees, including wounded soldiers, to enable them to use prosthetic limbs. Without the use of a prosthetic limb, an amputee may be confined to a wheelchair. We received CE mark and FDA 510(k) clearance for FREEDOM in 2014.

Limitations of Existing Treatment Alternatives

Limb length discrepancies, or LLDs, can occur for a variety of reasons, including congenital deformities and previous injury to the bone, such as a fracture, infection, disease or inflammation. LLDs of less than one inch have typically been managed through conservative treatment options such as physical therapy or shoe lifts to improve mobility and relieve the back pain that is commonly associated with such discrepancies. However, larger LLDs often require more complex treatments including limb lengthening surgery. Limb lengthening surgery may also be performed for patients suffering from height impairments. The goal of limb lengthening surgery is to create equal limb length via the principles of distraction osteogenesis, or the formation of new bone by creating a gap and gradually moving the two bone ends apart to allow bone to form and fill the gap. The traditional limb lengthening surgical procedure includes the creation of a gap, or osteotomy, in the bone, the attachment of wires or pins to the fractured bones, and the passing of the wires or pins through the skin to an external fixator, a scaffold-like frame that surrounds the limb. The external fixator distracts the bone when the patient or a family member manually turns the knobs on the fixator. These adjustments are associated with painful soft tissue disruption and disturbance of the wound healing process of the skin and soft tissue and must be performed several times each day, such that the bone is lengthened approximately one millimeter per day, or approximately one inch per month. The external fixator remains attached until the bone is strong enough to support the patient safely, which is typically two months for each inch of adjustment.

While traditional external fixation is the standard of care for treatment of significant LLDs, major complications associated with external fixators range from 46% to 72%, and include pain and infection. Infections result from the wires and pins passing through the skin and irritating the soft tissue when the external fixator is adjusted. In addition, traditional external fixation can result in significant psychosocial comorbidities that reduce quality of life for patients undergoing treatment, including anxiety, social disengagement, sleep disorders, depression and addiction to pain medication. Traditional external fixation may also be associated with variable clinical outcomes as patients are responsible for manually adjusting the external fixator at home with no built-in and physician-determined control mechanism. The painfulness and imprecision of these adjustments may result in reduced patient compliance with treatment regimens and compromised clinical outcomes.

 

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Our Solution

We designed our PRECICE LLD system using our MAGEC technology to overcome the pain, complications and psychosocial impacts of traditional external fixation for treatment of LLDs. Our PRECICE LLD system provides all of the benefits of our MAGEC technology, as well as the following:

 

   

Elimination of External Fixation.    Following the initial implant procedure, the PRECICE LLD implant remains inside the body and is adjusted non-invasively using our pre-programmed ERC by the patient at home. The adjustments of PRECICE LLD are small and painless.

 

   

Improved Clinical Outcomes.    Clinical studies have shown that PRECICE LLD offers high accuracy and precision in adjustments controlled by the ERC. In addition, PRECICE LLD offers bi-directional control and can be either expanded or compressed with a high degree of precision and accuracy. As a result, PRECICE LLD enables physicians to customize therapy to the needs of the patient over time without the need for additional surgical intervention. PRECICE LLD is controlled by our ERC, which is used by the patient at home. The ERC may be programmed by the physician to deliver a prescribed unit of adjustment.

 

   

Improved Quality of Life.    Given the lack of the open wounds associated with external fixation, PRECICE LLD is not associated with increased infections. PRECICE LLD also reduces the psychosocial implications associated with external fixation, allowing patients to sleep, bathe, dress and interact with society in a regular manner without the disruption created by the external fixator. As a result, PRECICE LLD is associated with higher patient satisfaction, reduced pain or discomfort and improved quality of life scores as compared to traditional external fixation.

PRECICE Trauma System

The PRECICE Trauma system was developed to treat fracture non-unions and fractures at risk of nonunions in the long bones, including the humerus, tibia and femur. Our PRECICE Trauma system consists of an adjustable intramedullary nail, locking screws, surgical instruments and our hand-held ERC. The current version of the system utilizes the PRECICE LLD nail supplied pre-distracted to allow for compression fracture reduction techniques. The ERC can be used at any time after implantation to non-invasively adjust the nail. We received CE mark and FDA 510(k) clearance for our PRECICE Trauma system in 2012.

We are now completing development of a new line of products specifically designed for our anticipated PRECICE Trauma system 2016 commercial launch. Our development activities consist of adapting the implant design details for the treatment of acute fractures and fracture non-unions. In order to launch in 2016, we must complete design verification and validation testing in accordance with our design control procedures.

In parallel with our product development activities, we are now in the process of developing clinical evidence using pre-distracted PRECICE LLD nails to support this anticipated 2016 commercial launch.

We are also currently developing additional nails that will allow for compression, distraction and rotation, and will engage in clinical evaluations prior to an expected commercial launch in 2018.

Limitations of Existing Technologies

A fracture is a medical condition where the continuity of the bone is broken. Every fracture carries the risk of failing to heal and resulting in a non-union. Non-unions may occur when the fracture moves too much, has poor blood supply or succumbs to infection. Non-union is a serious complication of fracture and often results in persistent pain at the fracture site, limited movement and formation of abnormal scar or joint tissue. Non-unions are most common in the tibia and humerus. When non-surgical methods fail,

 

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surgery is required. Surgical treatment options for non-unions include the use of bone grafts, internal fixation, external fixation or a combination of these options. Bone grafts typically provide no inherent stability to the fracture site and therefore require the use of implants to provide stability. Internal fixation implants such as nails are static and often do not provide consistent compression to enable healing and reduce risk of non-union. In most cases, multiple surgeries are required to fully heal a non-union. In addition, once healed an additional surgery may be required to return the injured limb to proper length. Recent studies suggest the cost of treatment of non-unions is more than 250% of the cost of the treatment of a fracture that heals properly.

Our Solution

We designed our PRECICE Trauma system using our MAGEC technology to overcome the pain and complications associated with existing fixation alternatives. Our PRECICE Trauma system provides all of the benefits of our MAGEC technology, as well as the following:

 

   

Improved Clinical Outcomes.    We believe this device is the first implant to offer non-invasively controlled compression or distraction on the bone. The proper compression and increased stability is critical to healing non-unions and preventing future non-unions. We are currently developing a new application of our PRECICE Trauma system that will include the ability to correct rotational malalignment of the bone and address more complex fractures.

 

   

Elimination of Repeat Surgeries.    Our ability to adjust compression of bone non-invasively enables physicians to heal non-unions and prevent future non-unions without multiple surgeries. In addition, our ability to adjust the distraction of bone non-invasively enables physicians to subsequently lengthen the limb, if needed, without additional surgery.

PRECICE HTO System

The PRECICE HTO system was developed to improve mechanical alignment for patients suffering from knee osteoarthritis and consists of a specialized intramedullary nail and our hand-held ERC. High tibial osteotomy, or HTO, procedures are typically performed on patients with osteoarthritis of the medial compartment of the knee who want to return to an active lifestyle after their corrective procedure in a way that a knee replacement generally does not allow. An HTO procedure creates a wedge opening in the upper tibia to realign the knee and take weight off of the osteoarthritic portion. Current techniques often result in sub-optimal alignment because acute corrections during surgery are difficult to perform accurately. Our PRECICE HTO system is designed to enable orthopedic surgeons to adjust the wedge opening over a period of days as needed to optimize the alignment of the knee post-operatively to reduce pain and improve mobility as the patient heals.

We received CE mark for our PRECICE HTO system in 2014 and, as of June 30, 2015, the system has been implanted in 19 patients outside the United States. We have commenced a clinical study, anticipated to include approximately 25 patients, in support of an FDA 510(k) filing that we expect to complete in 2016. In addition to the clinical study, prior to our 510(k) filing, we plan to complete final design verification and validation testing according to our design control procedures. The study is designed to evaluate the safety and efficacy of our PRECICE HTO system using radiographic measurements of the amount and accuracy of the mechanical alignment. We expect clinical study enrollment and six-month follow up to be completed in the second half of 2016, and we anticipate submitting the 510(k) filing to the FDA by the end of 2016.

Limitations of Existing Technologies

Osteoarthritis is a chronic degenerative disorder in which the protective cartilage on the ends of bones wear down over time. This can result in the painful rubbing of bone on bone. Osteoarthritis is caused by aging joints, injury or obesity. In the knee, the medial, or inside, compartment is the most frequent site of early

 

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osteoarthritis. Mild osteoarthritis can be treated with conservative therapies such as physical therapy, pain medication, bracing or arthroscopic debridement. More advanced cases of osteoarthritis must be managed with more complex surgical intervention including osteotomies or partial or total knee replacements.

Knee replacement represents the definitive surgical approach to advanced osteoarthritis of the knee. Most knee replacements are reserved for older patients, as knee replacement implants may limit activity levels and are also subject to wear, loosening, infection, fracture and instability. In patients suffering from advanced osteoarthritis but considered too young for a total or partial knee replacement, a high tibial osteotomy is typically utilized as a first line surgical therapy. The goal of a knee osteotomy is to realign the knee structure and shift the body weight off of the damaged area to the side of the knee where cartilage is still healthy. After making an angular osteotomy in the tibia, a wedge is created, bone graft is added and plates and screws are applied to help the bone heal. By shifting weight off of the damaged side of the knee, an osteotomy can relieve pain and significantly improve function in the osteoarthritic knee, allowing the patient to return to full activity levels.

Despite the advantages of knee osteotomies, conventional techniques have demonstrated high variability of success due to the inherent surgical difficulty and resulting uncertainty at the time of surgery regarding the optimal amount of correction. In addition, imprecise preoperative planning, inaccurate wedge cuts, poor control of intraoperative alignment, poor bone graft incorporation and unstable fixation of the osteotomy during bone healing may also contribute to sub-optimal clinical outcomes. Knee osteotomies are also associated with other complications including soft tissue disruption and prolonged and painful recovery times resulting from the profile above the bone of the plates traditionally used to in HTO procedures.

Our Solution

We designed our PRECICE HTO system using our MAGEC technology to simplify a complex acute procedure by enabling orthopedic surgeons to adjust knee alignment over time. Following the initial implantation, our system is designed to offer bidirectional adjustability to either distract or compress an osteotomy wedge. We believe our PRECICE HTO system, if cleared for marketing, will provide all of the benefits of our MAGEC technology, as well as the following:

 

   

Improved Clinical Outcomes.    Our PRECICE HTO system is designed to be non-invasively adjustable at home by patients using our hand-held ERC following implantation to change the angular correction and achieve the optimal alignment for the patient. In contrast to traditional treatments, our PRECICE HTO system uses distraction osteogenesis and can be finely adjusted based on feedback gained from standing x-rays and patient perceptions regarding joint pain. The implant can be immediately adjusted based on real-time patient feedback to achieve an optimal outcome.

 

   

No Profile.    Our PRECICE HTO system has no profile above the bone, minimizing soft tissue disruption following implantation. Unlike the plates that are currently used in conventional HTO procedures, we believe our system will lead to less post-operative pain and shorter recovery times.

Adjustable Lordosing Rod System

Our adjustable lordosing rod system was developed to create the appropriate amount of lordosis to promote proper sagittal balance for patients suffering from degenerative spine disease. Our initial focus is on patients undergoing a revision spinal fusion procedure. Our adjustable lordosing rod system consists of a specialized adjustable spinal rod and our hand-held ERC. The system is being designed such that our ERC can be used at various times after implantation to non-invasively and bi-directionally adjust the lordosing rod to either distract or compress a specific level of the spine. This system is intended to restore the natural curvature of the spine for patients with sagittal imbalances and eliminate its associated pain, functional disability and psychosocial challenges. A version of the device is in development for clinical

 

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use, and we intend to perform the first human implantation of the device in 2016. In order to achieve this milestone, we must finalize the product design, complete design verification and complete validation testing in accordance with our design control procedures. We expect these steps to be completed in the second half of 2016 followed by human clinical evaluations at centers outside of the United States.

Limitations of Current Technology

A healthy spine has a natural curvature when viewed from the side. The neck, or cervical, and lower back, or lumbar, regions of the spine contain forward convex curves referred to as lordosis while the middle back, or thoracic, region of the spine contains a backward concave curve referred to as kyphosis. This normal curvature allows equal distribution of forces across the spinal column. Sagittal imbalance refers to an exaggeration or deficiency of normal lordosis or kyphosis. Sagittal imbalance may also be imparted on the spine as a result of a spinal fusion procedure due to the impact of pedicle screws and rods on the biomechanical properties of the spine levels undergoing operation. Sagittal imbalance can lead to pain, functional disability and psychosocial challenges due to a bent over posture also referred to as flat back syndrome. The biomechanical impact of sagittal imbalance can also lead to the progression of degenerative conditions of the spine throughout the spinal column, potentially requiring multiple repeat surgical interventions which are costly and may lead to medical complications.

Corrections of sagittal imbalance are currently conducted after a patient has undergone careful pre-operative evaluation and diagnosis. The orthopedic surgeon often performs osteotomies at several levels of the spine to impart a more natural curvature of the spine. The orthopedic surgeon can also affix pedicle screws and rods to the spine, tightening the rods in order to impart a proper curve. Such procedures are manual, and the clinical outcomes are highly dependent on the skill of the orthopedic surgeon and may be indeterminable until after surgery. Moreover, such procedures are highly invasive and associated with soft tissue disruption, blood loss, lengthy hospital stay, and prolonged patient recovery times. Sagittal imbalance is often associated with thoracolumbar fusion revisions, which can increase in frequency after the first revision and accelerate problems associated with degenerative spine disease. We believe that a successful surgical intervention to restore and maintain lordosis following thoracolumbar revisions would address a compelling unmet clinical need.

Our Solution

We are designing our adjustable lordosing rod system using our MAGEC technology to allow orthopedic surgeons to post-operatively restore the natural curvature of the spine without surgery and overcome the pain, functional disability and psychosocial challenges associated with sagittal imbalance. Our adjustable lordosing rod system is designed to provide all of the benefits of our MAGEC technology, as well as the following:

 

   

Elimination of Repeat Surgeries.    We believe our lordosing rod will enable orthopedic surgeons to non-invasively create an appropriate level of lordosis to restore the natural curvature of the spine and will likely eliminate future surgical interventions related to improper spinal alignment.

 

   

Improved Clinical Outcomes.    Our system is designed to be non-invasively adjustable using our hand-held ERC following implantation to change the amount of lordosis in the lumbar spine. In contrast to current alternatives, our lordosing rod can be finely adjusted based on feedback gained from the patient and standing x-rays post-operatively. The implant can be adjusted at any point prior to the completion of fusion based on the clinical needs of the patient.

Future Applications

In addition to each of our commercial and pipeline products described above, we believe our MAGEC technology is highly adaptable and may be used to develop products to address other significant and

 

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unmet opportunities in the orthopedics market. We intend to continue to engage in research and development activities towards identifying additional applications of our MAGEC technology and designing products for those applications.

Our Clinical Evidence

A growing body of published peer-reviewed articles and podium presentations at healthcare conferences supports the safety, clinical performance and economic benefits of our commercial products. In addition, we are currently engaged in a variety of ongoing studies to continue to validate our clinical and economic endpoints. The studies described below illustrate findings pertaining to clinical outcomes and economic benefits of our MAGEC technology that we believe are consistent with the outcomes observed in published literature to date.

MAGEC-EOS Enables Fewer Revision Surgeries

In a case-matched study, researchers at five international institutions engaged in a retrospective review of patients that received our MAGEC-EOS magnetically controlled growing rods, or MCGR, for the treatment of progressive early onset scoliosis. The results of the study were published in the November 2014 edition of Spine Deformity. A retrospective analysis was performed, and 17 MCGR patients met the inclusion criteria, of which 12 had complete data available for analysis. These 12 patients were individually matched to 12 patients that received a traditional growing rod, or TGR, using a multicenter early onset scoliosis registry according to the following parameters: etiology, gender, number of rods implanted, preoperative age and preoperative major curve. There was no statistical difference between the two groups in terms of gender or preoperative age.

The researchers compared major curve correction and gain in spinal and thoracic height for each patient on an annual basis. The table below reflects mean major curve magnitude and spinal height measurements of MGCR and TGR patients at study time points (p-value < 0.01 represents statistical significance):

 

          Pre Index
Surgery (Mean)
     Post Index
Surgery (Mean)
     Latest Follow-
Up (Mean)
 
Major Curve
Magnitude (Degrees)
   MCGR      59         32         38   
  

TGR

     64         35         42   
  

p-value

     0.43         0.56         0.55   

Spinal Height (mm)

   MCGR      270         295         307   
  

TGR

     257         303         342   
  

p-value

     0.47         0.70         0.09   

Thoracic Height (mm)

   MCGR      166         186         189   
  

TGR

     158         189         210   
  

p-value

     0.49         0.82         0.11   

The MCGR cohort had 16 total surgeries (12 implantations and four revisions) and 137 non-invasive lengthenings. The MCGR patients had an average 0.54 surgical procedures per year, which includes the initial implantations. The TGR patients had 73 total surgeries (12 implantations, 56 surgical lengthenings and five revisions). The TGR patients had an average of 1.5 surgical procedures per year, which includes the initial implantations.

The table below reflects surgical procedures and complications of MCGR and TGR patients:

 

     Surgeries      Lengthenings      Surgical Procedures/
Year (Mean)
     Experienced at Least
One Complication
 

MCGR

     16         137         0.54         33

TGR

     73         56         1.5         92

 

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Four of 12 MCGR patients, or 33%, experienced at least one complication as compared to 11 of 12, or 92%, of TGR patients. The four MCGR patients experienced four medical complications and eight implant-related complications and each required a surgical intervention, while the 11 TGR patients experienced four surgical site infections, eight medical and 13 implant-related complications.

The researchers concluded that MCGR patients were subjected to significantly fewer planned surgical lengthening procedures, thereby reducing the burden of repeated surgery associated with the TGR technique. Researchers also noted that the number of unplanned surgeries owing to complications is not likely reduced with the MCGR technique.

MAGEC-EOS Enables Cost Savings to the Healthcare System

In order to evaluate the cost differences between a MCGR and TGR for treatment of early onset scoliosis, researchers at Oxford University Hospitals evaluated the costs of all aspects of treatment for patients undergoing an initial MCGR or conversion from TGR to MCGR. The results of this retrospective study were published in the November 2014 edition of European Spine Journal. Data was collected on 14 children who underwent surgery for early onset scoliosis from 2009 over a three-year period. There were six primary MCGR device insertions and eight conversion cases from TGR to MCGR which acted as a cost comparison group. The cumulative financial cost including initial implant insertion, cost of lengthenings, cost of any revision surgeries, and post-operative care were collected for three years.

The researchers used the data collected from this retrospective analysis to develop a projected model of anticipated annual costs for patients undergoing each procedure for the first time. Average annual costs were developed based on a projected average first year cost for each treatment modality. The projected first-year cost was then projected forward four years assuming a 2% inflation rate, twice per year operative lengthening for TGR and four outpatient lengthenings per year for MCGR.

The table below reflects the projected cost of MCGR vs. TGR over a five-year period based on the initial cost from the first year of experience with MCGR:

 

     Year 1      Year 2      Year 3      Year 4      Year 5      Totals  

TGR

     £22,460         £7,238         £7,383         £7,531         £7,681         £52,293   

MCGR

     33,694         2,356         2,403         2,451         2,500         43,405   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total Difference

     £(11,234)         £4,882         £4,980         £5,079         £5,181         £8,888   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

The researchers’ model projected that the overall cost savings from avoiding multiple repeat surgical procedures outweigh the initial expenditure of the MCGR.

PRECICE Enables Highly Accurate and Precise Non-invasive Lengthening

In order to evaluate the accuracy and precision of our PRECICE LLD system, researchers at the Hospital for Special Surgery retrospectively reviewed 24 patients who underwent lengthening of the femur or tibia using our PRECICE LLD system. Of these patients, 17 underwent lengthening of the femur and seven underwent lengthening of the tibia. Accuracy reflected how close the measured lengthening was to the prescribed distraction at each postoperative visit, while precision reflected how close the repeated measurements were to each other over the course of total lengthening period. The researchers also evaluated the PRECICE LLD system in terms of effects on bone alignment, effects on adjacent-joint range of motion and frequency of implant-related and non-implant related complications. The results of the study were published in the March 2014 edition of Clinical Orthopedics and Related Research, a publication of The Association of Bone and Joint Surgeons.

 

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The chart below reflects the follow-up, lengthening, accuracy and precision for all patients.

 

Bone

   Follow-up
(weeks)*
   Lengthening (mm)*    Accuracy (%)    Precision (%)

Femur + Tibia

   14 (3 – 29)    35 (14 – 65)    96    86

Femur

   12 (3 – 24)    31 (14 – 48)    98    89

Tibia

   17 (3 – 30)    43 (15 – 65)    91    82

 

* Values are expressed as mean, with range in parentheses.

The accuracy of distraction was 96% +/- 15% and the precision was 86%.

The researchers encountered one implant-related and six non-implant-related complications that resulted in an additional unplanned visit to the operating room for those patients. The implant-related complication was a nonfunctional distraction mechanism in a femoral lengthening, which was treated with nail exchange.

In addition, the study found that all patients demonstrated continued improvement to achieve their preoperative knee and ankle range of motion and a normal gait pattern within a few months after surgery. Significant unintentional malalignment was not observed in connection with the lengthenings.

Sales and Marketing

We promote, market and sell our products through a global hybrid sales organization comprised of direct sales managers that call on hospital accounts and recruit, develop and train independent sales agencies and consignment distributors. We also sell to stocking distributors in certain international markets. We currently generate revenue from 29 countries internationally, in addition to the United States. All of our sales in the United States are to hospital accounts through independent sales agencies. For the year ended December 31, 2014 and the six months ended June 30, 2015, international sales represented approximately 45% and 39% of our net revenue, respectively, and the majority of international sales were represented by consignment distributors where the purchase of products is done in their territory and sold on to the hospital customer immediately following the use of product. Our independent sales agencies and consignment distributors are compensated solely on commission based on net sales to hospital customers. We continually evaluate new market opportunities and expect to expand the number of our international markets in 2015.

Manufacturing and Suppliers

We rely on a broad network of third parties to manufacture the components for our products, which we then assemble, sterilize and package. For us to be successful, our suppliers must be able to provide us with components in substantial quantities, in compliance with regulatory requirements, in accordance with agreed upon specifications, at acceptable costs and on a timely basis. We generally do not have long-term contracts with our suppliers and they are not required to provide us with any guaranteed minimum production levels.

Our third-party manufacturers meet FDA, International Organization for Standardization or other quality standards supported by our internal policies and procedures. We believe these manufacturing relationships allow us to work with suppliers who have well-developed specific competencies while minimizing our capital investment, controlling costs and shortening cycle times, all of which we believe allows us to compete with larger volume manufacturers of orthopedic implant products.

There are a limited number of suppliers and third-party manufacturers that operate under the FDA’s current Good Manufacturing Practices, or cGMP, maintain International Organization for Standardization certifications and have the necessary expertise and capacity to manufacture our

 

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components. We select our suppliers carefully and our internal quality assurance group conducts comprehensive examinations of prospective supplier facilities. In addition, we and our suppliers are subject to periodic unannounced inspections by U.S. and international regulatory authorities to ensure compliance with quality system regulations.

In most cases, we have redundant manufacturing capabilities for each of our products to ensure our inventory needs are met while maintaining high quality. To date, we have not experienced any difficulty in locating and obtaining the materials necessary to meet demand for our products, and we believe manufacturing capacity is sufficient to meet global market demand for our products for the foreseeable future.

Competition

The medical device industry is highly competitive, subject to rapid technological change and significantly affected by new product introductions and market activities of other participants. Our currently marketed products, and any future products we commercialize will compete against manufacturers of conventional orthopedic implants. To our knowledge there are no other non-invasively adjustable orthopedic implant systems cleared or approved for sale in the United States. We believe that our significant competitors include DePuy Synthes, Medtronic, Smith & Nephew and Orthofix. In particular, DePuy Synthes’ VEPTR and VEPTR II devices and Medtronic’s SHILLA Growth Guidance System directly compete with our MAGEC-EOS system and Smith & Nephew’s and Orthofix’s external fixation and intramedullary skeletal kinetic distractor device directly compete with our PRECICE LLD system. We are also aware of a product called FITBONE that competes against our PRECICE LLD system that has limited commercial presence in certain international markets. Upon entering the market for trauma devices, we expect to compete with therapies from Smith & Nephew, Stryker Corporation, DePuy Synthes and Zimmer Biomet, and in the HTO market with DePuy Synthes and Arthrex. We have no knowledge of, nor can we predict, when devices in development by our competitors might be available for sale. Additionally, we may also face competition from smaller companies that have developed or are developing similar technologies for our addressable markets.

Many of our current and potential competitors have significantly greater financial, technical, marketing and other resources than we do and may be able to devote greater resources to the development, promotion, sale and support of their products. Our competitors may also have more extensive customer bases and broader customer relationships than we do, including relationships with our potential customers. In addition, many of these companies have longer operating histories and greater brand recognition than we do. Because of the size of the orthopedic implant market and the high growth profile of the segments in which we compete, we anticipate that companies will dedicate significant resources to developing competing products. We believe that the principal competitive factors in our markets include:

 

   

improved outcomes for medical conditions;

 

   

acceptance by orthopedic surgeons;

 

   

acceptance by the patient community;

 

   

ease of use and reliability;

 

   

product price and qualification for reimbursement;

 

   

technical leadership and superiority;

 

   

effective marketing and distribution; and

 

   

speed to market.

We cannot assure you that we will be able to compete effectively against our competitors in regard to any one or all of these factors. Our ability to compete effectively will depend on the acceptance of our

 

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products by orthopedic surgeons, hospitals and patients, and our ability to achieve better clinical outcomes than products developed by our existing or future competitors. In addition, many of our competitors could use their superior financial resources to develop products that have features or clinical outcomes similar to our products, which would harm our ability to successfully compete.

Coverage and Reimbursement

In the United States, our currently approved products are commonly treated as general supplies utilized in orthopedic surgery and if covered by third-party payors, are paid for as part of the surgical procedure. Outside of the United States, there are many reimbursement programs through private payors as well as government programs. In some countries, government reimbursement is the predominant program available to patients and hospitals. Our commercial success depends in part on the extent to which governmental authorities, private health insurers and other third-party payors provide coverage for and establish adequate reimbursement levels for the procedures during which our products are used. Failure by physicians, hospitals, ambulatory surgery centers and other users of our products to obtain sufficient coverage and reimbursement from healthcare payors for procedures in which our products are used, or adverse changes in government and private third-party payors’ policies would have a material adverse effect on our business, financial condition, results of operations and future growth prospects.

Based on our experience to date, third-party payors generally reimburse for the surgical procedures in which our products are used, as long as the patient meets the established medical necessity criteria for surgery. Some payors are moving toward a managed care system and control their health care costs by limiting authorizations for surgical procedures, including elective procedures using our devices. Reimbursement decisions by particular third-party payors may depend upon a number of factors, including each payor’s determination that use of a product is:

 

   

a covered benefit under its health plan;

 

   

appropriate and medically necessary for the specific indication;

 

   

cost effective; and

 

   

neither experimental nor investigational.

The Centers for Medicare & Medicaid Services, or CMS, the agency responsible for administering the Medicare program, sets coverage and reimbursement policies for the Medicare program in the United States. CMS policies may alter coverage and payment related to our product portfolio in the future. These changes may occur as the result of national coverage determinations issued by CMS or as the result of local coverage determinations by contractors under contract with CMS to review and make coverage and payment decisions. Medicaid programs are funded by both federal and state governments, may vary from state to state and from year to year and will likely play an even larger role in healthcare funding pursuant to the recently enacted Patient Protection and Affordable Care Act, as amended by the Health Care and Education Affordability Reconciliation Act, collectively, the PPACA.

A key component in ensuring whether the appropriate payment amount is received for physician and other services, including those procedures using our products, is the existence of a Current Procedural Terminology, or CPT, code. To receive payment, health care practitioners must submit claims to insurers using these codes for payment for medical services. CPT codes are assigned, maintained and annually updated by the American Medical Association and its CPT Editorial Board. If the CPT codes that apply to the procedures performed using our products are changed, reimbursement for performances of these procedures may be adversely affected.

In the United States, some insured individuals enroll in managed care programs, which monitor and often require pre-approval of the services that a member will receive. Some managed care programs pay their

 

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providers on a per capita (patient) basis, which puts the providers at financial risk for the services provided to their patients by paying these providers a predetermined payment per member per month and, consequently, may limit the willingness of these providers to use our products.

We believe that the overall escalating cost of medical products and services being paid for by the government and private health insurance has led to, and will continue to lead to, increased pressures on the healthcare and medical device industry to reduce the costs of products and services. All third-party reimbursement programs are developing increasingly sophisticated methods of controlling healthcare costs through prospective reimbursement and capitation programs, group purchasing, redesign of benefits, requiring second opinions prior to major surgery, careful review of bills, encouragement of healthier lifestyles and other preventative services and exploration of more cost-effective methods of delivering healthcare.

In international markets, reimbursement and healthcare payment systems vary significantly by country, and many countries have instituted price ceilings on specific product lines and procedures. There can be no assurance that procedures using our products will be considered medically reasonable and necessary for a specific indication, that our products will be considered cost-effective by third-party payors, that an adequate level of reimbursement will be available or that the third-party payors’ reimbursement policies will not adversely affect our ability to sell our products profitably. More and more, local, product specific reimbursement law is applied as an overlay to medical device regulation, which has provided an additional layer of clearance requirement. Specifically, Australia now requires clinical data for clearance and reimbursement be in the form of prospective, multi-center studies, a high bar not previously applied. In addition, in France, certain innovative devices have been identified as needing to provide clinical evidence to support a “mark-specific” reimbursement.

It is our intent to complete the requisite clinical studies and obtain coverage and reimbursement approval in countries where it makes economic sense to do so. For instance, in 2014 the NHS Commissioning Board, known as NHS England, commissioned the MAGEC-EOS technology for the treatment of scoliosis in certain children, establishing coverage and payment for the device. Failure to obtain favorable payor policies could have a material adverse effect on our business and operations.

Rigorous economic models of applications of the MAGEC-EOS technology have been developed and results have concluded that the cost impact of MAGEC-EOS is offset by eliminating repeated conventional growing rod surgical lengthenings. These results have been provided in peer reviewed presentations and publications and support the value proposition of the MAGEC-EOS technology.

In addition to uncertainties surrounding coverage policies, there are periodic changes to reimbursement. Third-party payors regularly update reimbursement amounts and also from time to time revise the methodologies used to determine reimbursement amounts. This includes annual updates to payments to physicians, hospitals and ambulatory surgery centers for procedures during which our products are used. Because the cost of our products generally is recovered by the healthcare provider as part of the payment for performing a procedure and not separately reimbursed, these updates could directly impact the demand for our products.

Healthcare Reform

Current and future legislative proposals to further reform healthcare or reduce healthcare costs may limit coverage of or lower reimbursement for the procedures associated with the use of our products. The cost containment measures that payors and providers are instituting and the effect of any healthcare reform initiative implemented in the future could significantly reduce our revenues from the sale of our products.

The implementation of the Affordable Care Act for example has the potential to change healthcare financing and delivery by both governmental and private insurers substantially, and to affect medical

 

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device manufacturers significantly. The Affordable Care Act imposed, among other things, a new federal excise tax on the sale of certain medical devices, provided incentives to programs that increase the federal government’s comparative effectiveness research, and implemented payment system reforms including a national pilot program on payment bundling to encourage hospitals, physicians and other providers to improve the coordination, quality and efficiency of certain healthcare services through bundled payment models.

In addition, other legislative changes have been proposed and adopted since the Affordable Care Act was enacted. On August 2, 2011, the Budget Control Act of 2011 was signed into law, which, among other things, created the Joint Select Committee on Deficit Reduction to recommend to Congress proposals in spending reductions. The Joint Select Committee did not achieve a targeted deficit reduction of at least $1.2 trillion for the years 2013 through 2021, triggering the legislation’s automatic reduction to several government programs. This includes reductions to Medicare payments to providers of 2% per fiscal year, which went into effect on April 1, 2013, and, due to subsequent legislative amendments to the statute, will stay in effect through 2024 unless congressional action is taken. On January 2, 2013, the American Taxpayer Relief Act of 2012 was signed into law, which, among other things, reduced Medicare payments to several providers, including hospitals, and increased the statute of limitations period for the government to recover overpayments to providers from three to five years.

We expect that additional state and federal healthcare reform measures will be adopted in the future, any of which could limit the amounts that federal and state governments will pay for healthcare products and services, which could result in reduced demand for our products or product candidates or additional pricing pressure.

Government Regulation

Our products and our operations are subject to extensive regulation by the U.S. Food and Drug Administration, or FDA, and other federal and state authorities in the United States, as well as comparable authorities in foreign jurisdictions. Our products are subject to regulation as medical devices in the United States under the Federal Food, Drug, and Cosmetic Act, or FDCA, as implemented and enforced by the FDA. The FDA regulates the development, design, non-clinical and clinical research, manufacturing, safety, efficacy, labeling, packaging, storage, installation, servicing, recordkeeping, premarket clearance or approval, import, export, adverse event reporting, advertising, promotion, marketing and distribution of medical devices to ensure that medical devices distributed domestically are safe and effective for their intended uses and otherwise meet the requirements of the FDCA.

In addition to regulations in the United States, we are subject to a variety of regulations in other jurisdictions governing clinical trials and commercial sales and distribution of our products. Whether or not we obtain FDA approval for a product, we must obtain authorization before commencing clinical trials or obtain marketing authorization or approval of our products under the comparable regulatory authorities of countries outside the United States before we can commence clinical trials or commercialize our products in those countries. The approval process varies from country to country and the time may be longer or shorter than that required for FDA approval.

FDA Premarket Clearance and Approval Requirements

Unless an exemption applies, each medical device commercially distributed in the United States requires either FDA clearance of a 510(k) premarket notification, or approval of a premarket approval, or PMA, application. Under the FDCA, medical devices are classified into one of three classes—Class I, Class II or Class III—depending on the degree of risk associated with each medical device and the extent of manufacturer and regulatory control needed to ensure its safety and effectiveness. Class I includes devices with the lowest risk to the patient and are those for which safety and effectiveness can be assured by adherence to the FDA’s General Controls for medical devices, which include compliance with the

 

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applicable portions of the Quality System Regulation, or QSR, facility registration and product listing, reporting of adverse medical events, and truthful and non-misleading labeling, advertising, and promotional materials. Class II devices are subject to the FDA’s General Controls, and special controls as deemed necessary by the FDA to ensure the safety and effectiveness of the device. These special controls can include performance standards, postmarket surveillance, patient registries and FDA guidance documents. While most Class I devices are exempt from the 510(k) premarket notification requirement, manufacturers of most Class II devices are required to submit to the FDA a premarket notification under Section 510(k) of the FDCA requesting permission to commercially distribute the device. The FDA’s permission to commercially distribute a device subject to a 510(k) premarket notification is generally known as 510(k) clearance. Devices deemed by the FDA to pose the greatest risks, such as life sustaining, life supporting or some implantable devices, or devices that have a new intended use, or use advanced technology that is not substantially equivalent to that of a legally marketed device under the 510(k) marketing clearance pathway, as described in further detail below, are placed in Class III, requiring approval of a PMA. Some pre-amendment devices are unclassified, but are subject to FDA’s premarket notification and clearance process in order to be commercially distributed. Our currently marketed products are Class II or unclassified devices that have received 510(k) clearance.

510(k) Marketing Clearance Pathway

Our current products are subject to premarket notification and clearance under section 510(k) of the FDCA. To obtain 510(k) clearance, we must submit to the FDA a premarket notification submission demonstrating that the proposed device is ‘‘substantially equivalent’’ to a predicate device already on the market. A predicate device is a legally marketed device that is not subject to premarket approval, i.e., a device that was legally marketed prior to May 28, 1976 (pre-amendments device) and for which a PMA is not required, a device that has been reclassified from Class III to Class II or I, or a device that was found substantially equivalent through the 510(k) process. Our original 510(k) clearance for the predecessor version of our MAGEC-EOS system referenced the Harrington Rod System, a pre-amendment device, as our predicate device to which we demonstrated substantial equivalence. The original clearance for the predecessor version of our PRECICE LLD system was based on the FDA’s finding of substantial equivalence to the Orthodyne/Orthofix ISKD device. We subsequently obtained new 510(k) clearances for additional features and improvements to the original versions of our devices using our previously-cleared devices as the predicates. Our currently marketed products, the MAGEC-EOS system and the PRECICE LLD system, have received 510(k) clearance on the basis of the FDA’s finding of substantial equivalence to the previously-cleared versions of each of these products, which served as our predicates in our respective premarket notification submissions for our currently-marketed products. Notwithstanding the fact that the MAGEC-EOS and PRECICE LLD systems were originally cleared for marketing on the basis of substantial equivalence to other devices, we believe our products are the only FDA-cleared or approved devices currently on the market that enable non-invasive adjustment of orthopedic implants. The FDA’s 510(k) clearance process usually takes from nine to twelve months, but may take significantly longer. The FDA may require additional information, including clinical data, to make a determination regarding substantial equivalence.

If the FDA agrees that the device is substantially equivalent to a predicate device currently on the market, it will grant 510(k) clearance to commercially market the device. If the FDA determines that the device is “not substantially equivalent” to a previously cleared device, the device is automatically designated as a Class III device. The device sponsor must then fulfill more rigorous PMA requirements, or can request a risk-based classification determination for the device in accordance with the “de novo” process, which is a route to market for novel medical devices that are low to moderate risk and are not substantially equivalent to a predicate device. A company files for a de novo approval when it does not have a predicate to which it can claim substantial equivalence. Once a de novo application is reviewed and approved, it results in the device having a Class II status and future devices from the company or a competitor may use the company de novo-approved device as a 510(k) predicate. A de novo approval is

 

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reserved for Class II moderate risk devices and a company must show that special controls can be created which subsequent applicants can follow to obtain a 510(k) clearance. The advantage of the de novo approval is that it requires less data than a PMA. The disadvantage is that it may require more data than a 510(k) and most often will include human clinical data. FDA is increasingly moving devices with slightly different proposed indication statement or different technological features off the 510(k) path and on to the de novo path resulting in more time and expense for the company.

After a device receives 510(k) marketing clearance, any modification that could significantly affect its safety or effectiveness, or that would constitute a major change or modification in its intended use, will require a new 510(k) marketing clearance or, depending on the modification, a de novo or PMA approval. The FDA requires each manufacturer to determine whether the proposed change requires submission of a 510(k) or a PMA in the first instance, but the FDA can review any such decision and disagree with a manufacturer’s determination. Many minor modifications today are accomplished by a letter-to-file in which the manufacture documents the change in an internal letter-to-file. The letter-to-file is in lieu of submitting a new 510(k) to obtain clearance for every change. FDA can always review these letters to file in an inspection. If the FDA disagrees with a manufacturer’s determination, the FDA can require the manufacturer to cease marketing and/or request the recall of the modified device until 510(k) marketing clearance or PMA approval is obtained. Also, in these circumstances, we may be subject to significant regulatory fines or penalties. FDA is scheduled to release to Congress new guidance on the responsibilities of a manufacturer when they modify a currently marketed device. FDA’s previous proposed guidance was withdrawn by FDASIA in 2012. It remains to be seen what FDA’s new proposal contains. It may require more 510(k)s to be filed than in the past.

The FDA is currently considering proposals to reform its 510(k) marketing clearance process, and such proposals could include increased requirements for clinical data and a longer review period. Specifically, in response to industry and healthcare provider concerns regarding the predictability, consistency and rigor of the 510(k) regulatory pathway, the FDA initiated an evaluation of the 510(k) program, and in July 2014, published a new guidance document governing the review process for the clearance of medical devices. Specifically, FDA has adopted new practices related to the acceptance of 510(k) applications which could place a higher standard on data and evidence provided to the FDA and a reduced ability to definitionally (i.e. same intended use, same technological characteristics) consider other devices as potential predicates. The FDA intends these reform actions to improve the efficiency and transparency of the 510(k) clearance process, as well as bolster patient safety. In addition, as part of the Food and Drug Administration Safety and Innovation Act, or FDASIA, enacted in 2012, Congress reauthorized the Medical Device User Fee Amendments with various FDA performance goal commitments and enacted several “Medical Device Regulatory Improvements” and miscellaneous reforms, which are further intended to clarify and improve medical device regulation both pre- and post-clearance and approval.

PMA Approval Pathway

Class III devices require PMA approval before they can be marketed although some pre-amendment Class III devices for which FDA has not yet required a PMA are cleared through the 510(k) process. The PMA process is more demanding than the 510(k) premarket notification process. In a PMA the manufacturer must demonstrate that the device is safe and effective, and the PMA must be supported by extensive data, including data from preclinical studies and human clinical trials. The PMA must also contain a full description of the device and its components, a full description of the methods, facilities and controls used for manufacturing, and proposed labeling. Following receipt of a PMA, the FDA determines whether the application is sufficiently complete to permit a substantive review. If FDA accepts the application for review, it has 180 days under the FDCA to complete its review of a PMA, although in practice, the FDA’s review often takes significantly longer, and can take up to several years. An advisory panel of experts from outside the FDA may be convened to review and evaluate the application and provide recommendations to the FDA as to the approvability of the device. The FDA may or may not

 

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accept the panel’s recommendation. In addition, the FDA will generally conduct a pre-approval inspection of the applicant or its third-party manufacturers’ or suppliers’ manufacturing facility or facilities to ensure compliance with the QSR.

The FDA will approve the new device for commercial distribution if it determines that the data and information in the PMA constitute valid scientific evidence and that there is reasonable assurance that the device is safe and effective for its intended use(s). The FDA may approve a PMA with post-approval conditions intended to ensure the safety and effectiveness of the device, including, among other things, restrictions on labeling, promotion, sale and distribution, and collection of long-term follow-up data from patients in the clinical study that supported PMA approval or requirements to conduct additional clinical studies post-approval. The FDA may condition PMA approval on some form of post-market surveillance when deemed necessary to protect the public health or to provide additional safety and efficacy data for the device in a larger population or for a longer period of use. In such cases, the manufacturer might be required to follow certain patient groups for a number of years and to make periodic reports to the FDA on the clinical status of those patients. Failure to comply with the conditions of approval can result in material adverse enforcement action, including withdrawal of the approval.

Certain changes to an approved device, such as changes in manufacturing facilities, methods, or quality control procedures, or changes in the design performance specifications, which affect the safety or effectiveness of the device, require submission of a PMA supplement. PMA supplements often require submission of the same type of information as a PMA, except that the supplement is limited to information needed to support any changes from the device covered by the original PMA and may not require as extensive clinical data or the convening of an advisory panel. Certain other changes to an approved device require the submission of a new PMA, such as when the design change causes a different intended use, mode of operation, and technical basis of operation, or when the design change is so significant that a new generation of the device will be developed, and the data that were submitted with the original PMA are not applicable for the change in demonstrating a reasonable assurance of safety and effectiveness. None of our products are approved under a PMA and we currently have no plans to develop products that would require a PMA. However, we may in the future develop devices which will require the approval of a PMA.

Clinical Trials

Clinical trials are almost always required to support a PMA and are sometimes required to support a 510(k) submission. All clinical investigations of investigational devices to determine safety and effectiveness must be conducted in accordance with the FDA’s investigational device exemption, or IDE, regulations which govern investigational device labeling, prohibit promotion of the investigational device, and specify an array of recordkeeping, reporting and monitoring responsibilities of study sponsors and study investigators. If the device presents a “significant risk,” to human health, as defined by the FDA, the FDA requires the device sponsor to submit an IDE application to the FDA, which must become effective prior to commencing human clinical trials. A significant risk device is one that presents a potential for serious risk to the health, safety or welfare of a patient and either is implanted, used in supporting or sustaining human life, substantially important in diagnosing, curing, mitigating or treating disease or otherwise preventing impairment of human health, or otherwise presents a potential for serious risk to a subject. An IDE application must be supported by appropriate data, such as animal and laboratory test results, showing that it is safe to test the device in humans and that the testing protocol is scientifically sound. The IDE will automatically become effective 30 days after receipt by the FDA unless the FDA notifies the company that the investigation may not begin. If the FDA determines that there are deficiencies or other concerns with an IDE for which it requires modification, the FDA may permit a clinical trial to proceed under a conditional approval.

In addition, the study must be approved by, and conducted under the oversight of, an Institutional Review Board, or IRB, for each clinical site. The IRB is responsible for the initial and continuing review of the IDE,

 

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and may pose additional requirements for the conduct of the study. If an IDE application is approved by the FDA and one or more IRBs, human clinical trials may begin at a specific number of investigational sites with a specific number of patients, as approved by the FDA. If the device presents a non-significant risk to the patient, a sponsor may begin the clinical trial after obtaining approval for the trial by one or more IRBs without separate approval from the FDA, but must still follow abbreviated IDE requirements, such as monitoring the investigation, ensuring that the investigators obtain informed consent, and labeling and record-keeping requirements. Acceptance of an IDE application for review does not guarantee that the FDA will allow the IDE to become effective and, if it does become effective, the FDA may or may not determine that the data derived from the trials support the safety and effectiveness of the device or warrant the continuation of clinical trials. An IDE supplement must be submitted to, and approved by, the FDA before a sponsor or investigator may make a change to the investigational plan that may affect its scientific soundness, study plan or the rights, safety or welfare of human subjects.

During a study, the sponsor is required to comply with the applicable FDA requirements, including, for example, trial monitoring, selecting clinical investigators and providing them with the investigational plan, ensuring IRB review, adverse event reporting, record keeping and prohibitions on the promotion of investigational devices or on making safety or effectiveness claims for them. The clinical investigators in the clinical study are also subject to FDA’s regulations and must obtain patient informed consent, rigorously follow the investigational plan and study protocol, control the disposition of the investigational device, and comply with all reporting and recordkeeping requirements. Additionally, after a trial begins, we, the FDA or the IRB could suspend or terminate a clinical trial at any time for various reasons, including a belief that the risks to study subjects outweigh the anticipated benefits.

Post-market Regulation

After a device is cleared or approved for marketing, numerous and pervasive regulatory requirements continue to apply. These include:

 

   

establishment registration and device listing with the FDA;

 

   

QSR requirements, which require manufacturers, including third-party manufacturers, to follow stringent design, testing, control, documentation and other quality assurance procedures during all aspects of the design and manufacturing process;

 

   

labeling and claims regulations, which require that promotion is truthful, not misleading, fairly balanced and provide adequate directions for use and that all claims are substantiated, and also prohibit the promotion of products for unapproved or “off-label” uses and impose other restrictions on labeling; FDA guidance on off-label dissemination of information and responding to unsolicited requests for information;

 

   

the federal Physician Sunshine Payment Act and various state laws on reporting remunerative relationships with health care customers;

 

   

The federal Anti-kickback statute (and similar state laws) prohibiting certain illegal remuneration to physicians and other health care providers that may financially bias prescription decisions and result in an over-utilization of goods and services reimbursed by the federal government;

 

   

The False Claims Act (and similar state laws) which prohibits conduct on the part of a manufacturer which may cause or induce an inappropriate reimbursement for devices reimbursed by the federal government;

 

   

clearance or approval of product modifications to 510(k)-cleared devices that could significantly affect safety or effectiveness or that would constitute a major change in intended use of one of our cleared devices;

 

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medical device reporting regulations, which require that a manufacturer report to the FDA if a device it markets may have caused or contributed to a death or serious injury, or has malfunctioned and the device or a similar device that it markets would be likely to cause or contribute to a death or serious injury, if the malfunction were to recur;

 

   

correction, removal and recall reporting regulations, which require that manufacturers report to the FDA field corrections and product recalls or removals if undertaken to reduce a risk to health posed by the device or to remedy a violation of the FDCA that may present a risk to health;

 

   

complying with the new federal law and regulations requiring Unique Device Identifiers (UDI) on devices and also requiring the submission of certain information about each device to FDA’s Global Unique Device Identification Database (GUDID);

 

   

the FDA’s recall authority, whereby the agency can order device manufacturers to recall from the market a product that is in violation of governing laws and regulations; and

 

   

post-market surveillance activities and regulations, which apply when deemed by the FDA to be necessary to protect the public health or to provide additional safety and effectiveness data for the device.

We may be subject to similar foreign laws that may include applicable post-marketing requirements such as safety surveillance. Our manufacturing processes are required to comply with the applicable portions of the QSR, which cover the methods and the facilities and controls for the design, manufacture, testing, production, processes, controls, quality assurance, labeling, packaging, distribution, installation and servicing of finished devices intended for human use. The QSR also requires, among other things, maintenance of a device master file, device history file, and complaint files. As a manufacturer, we are subject to periodic scheduled or unscheduled inspections by the FDA. Our failure to maintain compliance with the QSR requirements could result in the shut-down of, or restrictions on, our manufacturing operations and the recall or seizure of our products, which would have a material adverse effect on our business. The discovery of previously unknown problems with any of our products, including unanticipated adverse events or adverse events of increasing severity or frequency, whether resulting from the use of the device within the scope of its clearance or off-label by a physician in the practice of medicine, could result in restrictions on the device, including the removal of the product from the market or voluntary or mandatory device recalls.

The FDA has broad regulatory compliance and enforcement powers. If the FDA determines that we failed to comply with applicable regulatory requirements, it can take a variety of compliance or enforcement actions, which may result in any of the following sanctions:

 

   

warning letters, untitled letters, fines, injunctions, consent decrees and civil penalties;

 

   

recalls, withdrawals, or administrative detention or seizure of our products;

 

   

operating restrictions or partial suspension or total shutdown of production;

 

   

refusing or delaying requests for 510(k) marketing clearance or PMA approvals of new products or modified products;

 

   

withdrawing 510(k) clearances or PMA approvals that have already been granted;

 

   

refusal to grant export or import approvals for our products; or

 

   

criminal prosecution.

Regulation of Medical Devices in the EEA

There is currently no premarket government review of medical devices in the EEA (which is comprised of the 28 Member States of the EU plus Norway, Liechtenstein and Iceland). However, all medical devices

 

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placed on the market in the EEA must meet the relevant essential requirements laid down in Annex I to Directive 93/42/EEC concerning medical devices, or the Medical Devices Directive. The most fundamental essential requirement is that a medical device must be designed and manufactured in such a way that it will not compromise the clinical condition or safety of patients, or the safety and health of users and others. In addition, the device must achieve the performances intended by the manufacturer and be designed, manufactured and packaged in a suitable manner. The European Commission has adopted various standards applicable to medical devices. These include standards governing common requirements, such as sterilization and safety of medical electrical equipment, and product standards for certain types of medical devices. There are also harmonized standards relating to design and manufacture. While not mandatory, compliance with these standards is viewed as the easiest way to satisfy the essential requirements as a practical matter. Compliance with a standard developed to implement an essential requirement also creates a rebuttable presumption that the device satisfies that essential requirement.

To demonstrate compliance with the essential requirements laid down in Annex I to the Medical Devices Directive, medical device manufacturers must undergo a conformity assessment procedure, which varies according to the type of medical device and its classification. Conformity assessment procedures require an assessment of available clinical evidence, literature data for the product and post-market experience in respect of similar products already marketed. Except for low-risk medical devices, where the manufacturer can self-declare the conformity of its products with the essential requirements, a conformity assessment procedure requires the intervention of a Notified Body. Notified bodies are often private entities and are authorized or licensed to perform such assessments by government authorities. The notified body would typically audit and examine a products’ technical dossiers and the manufacturers’ quality system. If satisfied that the relevant product conforms to the relevant essential requirements, the notified body issues a certificate of conformity, which the manufacturer uses as a basis for its own declaration of conformity. The manufacturer may then apply the CE mark to the device, which allows the device to be placed on the market throughout the EEA. Once the product has been placed on the market in the EEA, the manufacturer must comply with requirements for reporting incidents and field safety corrective actions associated with the medical device.

In order to demonstrate safety and efficacy for their medical devices, manufacturers must conduct clinical investigations in accordance with the requirements of Annex X to the Medical Devices Directive and applicable European and International Organization for Standardization standards, as implemented or adopted in the EEA member states. Clinical trials for medical devices usually require the approval of an ethics review board and approval by or notification to the national regulatory authorities. Both regulators and ethics committees also require the submission of adverse event reports during a study and may request a copy of the final study report.

In September 2012, the European Commission published proposals for the revision of the EU regulatory framework for medical devices. The proposal would replace the Medical Devices Directive and the Active Implantable Medical Devices Directive with a new regulation (the Medical Devices Regulation). Unlike the Directives that must be implemented into national laws, the Regulation would be directly applicable in all EEA Member States and so is intended to eliminate current national differences in regulation of medical devices.

In October 2013, the European Parliament approved a package of reforms to the European Commission’s proposals. Under the revised proposals, only designated “special notified bodies” would be entitled to conduct conformity assessments of high-risk devices, such as active implantable devices. These special notified bodies will need to notify the European Commission when they receive an application for a conformity assessment for a new high-risk device. The European Commission will then forward the notification and the accompanying documents on the device to the Medical Devices Coordination Group (a new, yet to be created, body chaired by the European Commission, and

 

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representatives of Member States) for an opinion. These new procedures may result in the re-assessment of our existing medical devices, or a longer or more burdensome assessment of our new products.

If finally adopted, the Medical Devices Regulation is expected to enter into force sometime in 2016 and become applicable three years thereafter. In its current form it would, among other things, also impose additional reporting requirements on manufacturers of high risk medical devices, impose an obligation on manufacturers to appoint a “qualified person” responsible for regulatory compliance, and provide for more strict clinical evidence requirements.

We are subject to regulations and product registration requirements in many foreign countries in which we may sell our products, including in the areas of:

 

   

design, development, manufacturing and testing;

 

   

product standards;

 

   

product safety;

 

   

product safety reporting;

 

   

marketing, sales and distribution;

 

   

packaging and storage requirements;

 

   

labeling requirements;

 

   

content and language of instructions for use;

 

   

clinical trials;

 

   

record keeping procedures;

 

   

advertising and promotion;

 

   

recalls and field corrective actions;

 

   

post-market surveillance, including reporting of deaths or serious injuries and malfunctions that, if they were to recur, could lead to death or serious injury;

 

   

import and export restrictions;

 

   

tariff regulations, duties and tax requirements;

 

   

registration for reimbursement; and

 

   

necessity of testing performed in country by distributors for licenses.

The time required to obtain clearance required by foreign countries may be longer or shorter than that required for FDA clearance, and requirements for licensing a product in a foreign country may differ significantly from FDA requirements.

Company anticipates that the Medical Devices Regulation will enter into force in 2016. We expect this revised regulation to include further controls and requirements on the following activities:

 

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