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As filed with the Securities and Exchange Commission on May 5, 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

 

 

ECPM HOLDINGS, LLC

to be converted as described herein to a corporation named

EndoChoice Holdings, Inc.

(Exact name of Registrant as specified in its charter)

 

 

 

Delaware   3841   90-0886803
(State or other jurisdiction of
incorporation or organization)
  (Primary Standard Industrial
Classification Code Number)
 

(I.R.S. Employer

Identification Number)

11810 Wills Road

Alpharetta, Georgia 30009

(888) 682-3636

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

 

 

Mark Gilreath

President and Chief Executive Officer

ECPM Holdings, LLC

11810 Wills Road

Alpharetta, Georgia 30009

(888) 682-3636

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

 

 

with copies to:

 

Keith M. Townsend

Jeffrey M. Stein

Laura I. Bushnell

King & Spalding LLP

1180 Peachtree Street, N.E.

Atlanta, Georgia 30309

(404) 572-4600

 

David N. Gill

Chief Financial Officer

ECPM Holdings, LLC

11810 Wills Road

Alpharetta, Georgia 30009

(888) 682-3636

 

Richard D. Truesdell, Jr.

Sophia Hudson

Davis Polk & Wardwell LLP

450 Lexington Avenue

New York, New York 10017

(212) 450-4000

 

 

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

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, please 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  (do not check if a smaller reporting company)    Smaller reporting company   ¨

 

 

CALCULATION OF REGISTRATION FEE

 

 

Title of Each Class of

Securities to be Registered

Proposed

Maximum

Aggregate

Offering Price(1)(2)

Amount of

Registration Fee

Common Stock, par value $0.001 per share

  $115,000,000   $13,363

 

 

 

(1) Includes shares issuable upon exercise of the underwriters’ option to purchase additional shares from us. See “Underwriting.”
(2) Estimated solely for the purpose of calculating the registration fee pursuant to Rule 457(o) under the Securities Act.

 

 

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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EXPLANATORY NOTE

ECPM Holdings, LLC, the registrant whose name appears on the cover of this registration statement, is a Delaware limited liability company. Prior to the closing of this offering, ECPM Holdings, LLC intends to convert into a Delaware corporation pursuant to a statutory conversion and change its name to EndoChoice Holdings, Inc. As a result of the corporate conversion, the holders of units of ECPM Holdings, LLC will become holders of common stock of EndoChoice Holdings, Inc. Holders of warrants and options to purchase units of ECPM Holdings, LLC will become holders of warrants and options to purchase common stock of EndoChoice Holdings, Inc., respectively. Holders of vested incentive units of ECPM Holdings, LLC will become holders of common stock of EndoChoice Holdings, Inc. Holders of unvested incentive units of ECPM Holdings, LLC will become holders of shares of restricted stock of EndoChoice Holdings, Inc. Except as disclosed in the accompanying prospectus, the consolidated financial statements and selected historical consolidated financial data and other financial information included in this registration statement are those of ECPM Holdings, LLC and its subsidiaries and do not give effect to the corporate conversion.


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The information in this preliminary prospectus is not complete and may be changed. These securities may not be sold until the registration statement filed with the Securities and Exchange Commission is effective. This preliminary prospectus is not an offer to sell nor does it seek an offer to buy these securities in any jurisdiction where the offer or sale is not permitted.

 

SUBJECT TO COMPLETION, DATED                 , 2015

PRELIMINARY PROSPECTUS

                Shares

 

LOGO

Common Stock

 

 

This is an initial public offering of shares of common stock by EndoChoice Holdings, Inc. We expect the initial public offering price to be between $         and $         per share. Prior to this offering, there has been no public market for our common stock. We are offering             shares to be sold in the offering.

We intend to apply to list our common stock on             under the symbol “GI.”

We are an “emerging growth company” as defined under the federal securities laws and, as such, have elected to comply with certain reduced public company reporting requirements.

 

     Per
Share
     Total  

Initial public offering price

   $                    $                

Underwriting discounts and commissions(1)

   $         $     

Proceeds to EndoChoice Holdings, Inc., before expenses

   $         $     

 

  (1) We have agreed to reimburse the underwriters for certain FINRA-related expenses. See “Underwriting.”

We have granted the underwriters an option for a period of 30 days to purchase up to an additional                  shares from us at the initial public offering price, less underwriting discounts and commissions.

 

 

Investing in our common stock involves risks. See “Risk factors” beginning on page 13 to read about factors you should consider before buying shares of our common stock.

Neither the Securities and Exchange Commission nor any other regulatory body has approved or disapproved of these securities or passed upon the accuracy or adequacy of this prospectus. Any representation to the contrary is a criminal offense.

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

 

 

 

J.P. Morgan   BofA Merrill Lynch
William Blair   Stifel

                     , 2015

 


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TABLE OF CONTENTS

 

     Page  

PROSPECTUS SUMMARY

     1   

RISK FACTORS

     13   

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

     56   

USE OF PROCEEDS

     58   

DIVIDEND POLICY

     59   

CORPORATE CONVERSION

     60   

CAPITALIZATION

     62   

DILUTION

     64   

SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA

     66   

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     68   

BUSINESS

     94   

MANAGEMENT

     128   

EXECUTIVE COMPENSATION

     136   

PRINCIPAL STOCKHOLDERS

     156   

PRICING SENSITIVITY ANALYSIS

     160   

CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS

     163   

DESCRIPTION OF CAPITAL STOCK

     170   

SHARES ELIGIBLE FOR FUTURE SALE

     174   

MATERIAL U.S. FEDERAL INCOME TAX CONSEQUENCES TO NON-U.S. HOLDERS

     176   

UNDERWRITING

     180   

LEGAL MATTERS

     187   

EXPERTS

     187   

WHERE YOU CAN FIND MORE INFORMATION

     187   

INDEX TO FINANCIAL STATEMENTS

     F-1   

 

 

Neither we nor the underwriters have authorized anyone to provide you with any information other than that contained in this prospectus, any amendment or supplement to this prospectus or in any free writing prospectus we may authorize to be delivered or made available to you. The underwriters and we take no responsibility for, and can provide no assurance as to the reliability of, any other information that others may give you. We are offering to sell, and seeking offers to buy, shares of our common stock only in jurisdictions where offers and sales are permitted. The information contained in this prospectus is current only as of the date on the front of this prospectus, regardless of the time of delivery of this prospectus or any sale of shares of our common stock. Our business, financial condition, results of operations and prospects may have changed since that date.

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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MARKET DATA AND FORECASTS

Unless otherwise indicated, information in this prospectus concerning economic conditions, our industry, our markets and our competitive position is based on a variety of sources, including information from independent industry analysts and publications, as well as our own estimates and research.

Our estimates are derived from industry and general publications, studies and surveys conducted by third-parties, as well as data from our own internal research. Industry publications, studies and surveys generally state that they have been obtained from sources believed to be reliable, although they do not guarantee the accuracy or completeness of their information. While we believe that the data contained in each of these publications, studies and surveys are reliable, we have not independently verified industry data from third-party sources. While we believe our internal research is reliable and that our internal estimates are reasonable, such research has not been verified by any independent source and our internal estimates are based on our good faith beliefs as of the respective dates of such estimates.

FINANCIAL STATEMENT PRESENTATION

On January 4, 2013, all issued and outstanding shares of stock of EndoChoice, Inc. were exchanged for units of ECPM Holdings, LLC and EndoChoice, Inc. became a wholly owned subsidiary of ECPM Holdings, LLC. ECPM Holdings, LLC was established to facilitate the acquisitions of Peer Medical Ltd., an Israeli company in the business of developing proprietary endoscopic systems for performing endoscopic examinations, and RMS Endoskopie-Technik Stephan Wieth e.K., a German company in the business of manufacturing, repairing and distributing endoscopic systems. The financial statements for the year ended December 31, 2012 represent the operations of EndoChoice, Inc. and its wholly owned subsidiaries. The financial statements as of and for the years ended December 31, 2013 and 2014, and as of and for the three months ended March 31, 2014 and 2015, are those of ECPM Holdings, LLC and its wholly owned subsidiaries. Prior to the closing of this offering, we will complete a corporate conversion pursuant to which EndoChoice Holdings, Inc. will succeed to the business of ECPM Holdings, LLC and its consolidated subsidiaries, and the unitholders of ECPM Holdings, LLC will become stockholders of EndoChoice Holdings, Inc., as described under the heading “Corporate conversion.” In this prospectus, we refer to this transaction as the “corporate conversion.” We expect that our conversion from a Delaware limited liability company to a Delaware corporation will not have a material effect on our consolidated financial statements.

TRADEMARKS AND TRADENAMES

This prospectus includes our trademarks such as EndoChoice® and Fuse® which are each protected under applicable intellectual property laws and are the property, prior to the corporate conversion discussed herein, of ECPM Holdings, LLC, or its subsidiaries, and after the corporate conversion, of EndoChoice Holdings, Inc., or its subsidiaries. Solely for convenience, trademarks, service marks and tradenames referred to in this prospectus may appear without the ®, TM or SM symbols, but such references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights or the right of the applicable licensor to these trademarks, service marks and tradenames. This prospectus may also contain trademarks, service marks, tradenames and copyrights of other companies, which are the property of their respective owners.

ABOUT THIS PROSPECTUS

Except where the context otherwise requires or where otherwise indicated, the terms “EndoChoice,” “we,” “us,” “our,” “our company” and “our business” refer, prior to the corporate conversion discussed herein, to ECPM Holdings, LLC, and after the corporate conversion, to EndoChoice Holdings, Inc.

 

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PROSPECTUS SUMMARY

This summary highlights certain information about us and this offering contained elsewhere in this prospectus. Because it is only a summary, it does not contain all the information that you should consider before investing in shares of 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. Before you decide to invest in our common stock, you should read the entire prospectus carefully, including “Risk factors” beginning on page 13 and our consolidated financial statements and the accompanying notes included in this prospectus.

Overview

We are a medical device company focused exclusively on designing and commercializing a platform of innovative products for gastrointestinal, or GI, caregivers. We currently serve over 2,500 GI departments that perform endoscopic procedures, which represent approximately one-third of the U.S. market. We offer a comprehensive range of products and services that span single-use devices and infection control products, pathology and imaging systems. In December 2013, we began limited commercialization of our Fuse® full spectrum endoscopy system, or Fuse®. Our Fuse® system enables GI specialists to see more than twice the anatomy at any one time compared to standard, forward-viewing colonoscopes and has been clinically demonstrated to detect 69% more pre-cancerous polyps than standard colonoscopes. We believe our commitment to continuing innovation and focus on GI specialists provides us with the unique capability to meet their evolving needs. We intend to leverage our broad product platform, established customer relationships, commercial infrastructure and Fuse® technology to set a new standard of care for the global GI market.

We estimate that the addressable worldwide market for our GI endoscopy products and services is over $6 billion, with more than 70 million GI endoscopies performed each year in the United States, Japan and Europe combined. We estimate that the addressable market for our GI endoscopy products and services is growing at 7% annually driven by increased governmental and payor focus on screening, prevention and treatment of colorectal cancer and other GI conditions, an aging global population and changing dietary habits. GI endoscopies involve inserting a thin tube containing a camera or cameras into a natural orifice of the patient to examine the upper or lower GI tract in order to screen for, diagnose and treat various GI conditions, including colorectal cancer. GI endoscopies require a large number of steps, including setup, imaging, therapy, specimen retrieval, pathology and endoscope disinfection and repair, which we refer to collectively as the GI procedure cycle. The GI endoscopy market is highly fragmented and served by numerous companies, many of which focus on only one or two areas of the GI procedure cycle. We believe the needs of GI specialists are currently underserved due to the lack of a comprehensive provider solely focused on innovation in the GI endoscopy market.

We founded our company to serve the evolving needs of GI specialists by continually bringing to market a broad suite of innovative products across the GI procedure cycle. Since we began our commercial operations in 2008, we have developed an extensive line of devices and infection control products and have added pathology and scope repair services capabilities. Our products and services are designed to improve clinical outcomes and GI specialist productivity. For example, our CinchPad® product improved the transport process of endoscopes after use and eliminated the need to clean contaminated transport trays. In 2013, we acquired Peer Medical Ltd., which was developing a new endoscope system that we now call Fuse®. Our focus on product innovation and services that span the GI endoscopy procedure cycle has enabled our direct salesforce to penetrate approximately one-third of the GI departments in the United States in just six years while increasing our sales per customer over that time.

Our products are used in colonoscopy and esophagogastroduodenoscopy, or EGD, and other procedures of the upper GI tract, which represent approximately 15 million and 8 million annual procedures in the United States, respectively, and together account for 96% of all GI endoscopic procedures. Colonoscopy is used for the screening,

 

 

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surveillance and diagnosis of GI diseases including colorectal cancer, inflammatory bowel disease and GI bleeding. Colorectal cancer is one of the most common forms of cancer, and is the second leading cause of cancer related deaths in the United States with approximately 130,000 new patients diagnosed and over 50,000 deaths in the United States each year. However, colorectal cancer is considered one of the most preventable cancers, as pre-cancerous polyps typically take approximately 10 years to progress into cancer. Colonoscopy enables pre-cancerous polyps to be identified and removed early in their progression. As a result, colonoscopy is considered the gold standard in colorectal cancer screening and has well-established reimbursement in most developed countries. Furthermore, the National Colorectal Cancer Roundtable has set a goal to increase colorectal cancer screening rates for specified demographics from approximately 60% currently to 80% by 2018. Although colonoscopy is the most accurate and comprehensive method for colorectal cancer screening, multiple clinical studies have found that GI specialists using standard, forward-viewing endoscopes fail to identify up to 41% of pre-cancerous polyps.

Our Fuse® system, which is intended for visualization of the GI tract and related therapeutic interventions, enables a wider field of view for upper and lower endoscopy procedures. Specifically, the Fuse® colonoscope offers a 330° view of the colon during colonoscopy instead of the 140° to 170° view offered by standard colonoscopes. This enables the GI specialist to visualize more than twice the anatomy at any one time as compared to a standard colonoscope and improves the ability to more thoroughly examine the colon without prolonging the time to complete the colonoscopy. According to the results of a company sponsored and funded tandem clinical trial published in The Lancet Oncology, GI specialists using Fuse® during colonoscopy identified 69% more pre-cancerous polyps than when using standard endoscopes. The improved detection is clinically important not only because the pre-cancerous polyp is removed during the procedure, but also because clinical guidelines recommend more frequent colonoscopies following initial detection of pre-cancerous polyps. Further, we believe that increased adoption of Fuse® for colorectal cancer screening could result in significant savings to healthcare payors given the high cost of colorectal cancer related surgical intervention and subsequent treatment. The costs of surgeries and related care can be significant, with total costs to the U.S. healthcare system estimated to exceed $8 billion per year.

Since the company’s founding in 2008, we have grown our number of GI department customers in the United States from nearly 500 in 2009 to over 2,500 today. In addition to our direct salesforces in the United States and Germany, our products are sold by distributors in 25 countries. Our revenues have increased at a compound annual growth rate of 90% since 2008, with net revenues in fiscal years 2012, 2013 and 2014 of $34.2 million, $50.9 million and $61.4 million, respectively, and net revenues during the three months ended March 31, 2014 and 2015 of $13.8 million and $16.7 million, respectively. Our net losses in fiscal years 2012, 2013 and 2014 were $(1.2) million, $(23.9) million and $(53.6) million, respectively, and our net losses during the three months ended March 31, 2014 and 2015 were $(10.9) million and $(15.3) million, respectively. Our accumulated deficit as of March 31, 2015 was $(112.4) million. We are headquartered in Alpharetta, Georgia and maintain manufacturing and development centers in Halstenbek, Germany and Caesarea, Israel.

Industry overview

We believe the growth in the over $6 billion addressable worldwide market for our GI endoscopy products and services is being driven by a combination of increased governmental and payor focus on screening, prevention and treatment of colorectal cancer and other GI conditions, an aging population and changing dietary habits. Nonetheless, the prevalence of certain GI conditions and cancers as well as screening guidelines vary by geography. In the United States, colonoscopies represent approximately 62% of GI endoscopy procedure volume, and established guidelines exist for routine colon cancer screening for patients over age 50 or otherwise determined to be at higher risk. In contrast, regions such as Asia and Latin America typically place a greater emphasis on upper GI screening due to a higher prevalence of certain upper GI conditions. For instance, both gastric screening and colonoscopy guidelines are in place in Japan.

 

 

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We estimate that there are approximately 15 million colonoscopies performed each year in the United States. Some procedures are for the diagnosis and treatment of symptomatic conditions such as irritable bowel syndrome, rectal bleeding, colitis and Crohn’s disease, while others are related to colorectal cancer screening and surveillance. Patients are screened for colorectal cancer based on either prescribed guidelines, such as initial screening at age 50, or symptomatic conditions, and then surveyed subsequently at intervals as determined by the screening results. As a result of colonoscopy and other screenings, each year, approximately 1.4 million patients worldwide are diagnosed with colorectal cancer. However, colorectal cancer is highly preventable as it almost always evolves from pre-cancerous polyps that typically take approximately 10 years to progress into colorectal cancer. The discovery and complete removal of a pre-cancerous polyp during colonoscopy virtually eliminates the risk that the removed pre-cancerous polyp will result in colorectal cancer.

We estimate that there are approximately 8 million EGD and other procedures of the upper GI tract performed each year in the United States. The majority of the upper GI procedures in the United States are performed to evaluate and treat patients with conditions such as heartburn, GERD, gastritis, strictures, liver and pancreatic diseases. Additionally, upper GI endoscopies are performed to screen for and diagnose upper GI cancers such as stomach, esophageal, liver and pancreatic cancer. Each year, nearly one million people worldwide are diagnosed with upper GI cancers.

We believe that worldwide there are approximately 6,000 endoscopy systems purchased annually, with approximately 40% of the sales occurring in the United States.

Our strengths

Exclusive focus in a large, growing and attractive market. We estimate that the addressable worldwide market for our GI endoscopy products and services represents an over $6 billion opportunity that is growing at 7% annually. This growth is being driven by increased governmental and payor focus on screening, prevention and treatment of colorectal cancer and other GI conditions, an aging global population and changing dietary habits. We believe that the market is underserved and our competition is fragmented. We are positioned as the only company exclusively focused on servicing the entire GI procedure cycle through our broad and innovative product platform.

Broad platform of products and services to address the entire GI endoscopy procedure cycle. We provide a comprehensive product portfolio of more than 50 product families that span the entire GI endoscopy procedure cycle, including setup, imaging, therapy, specimen retrieval, pathology and endoscope service and repair. Our broad platform of GI products and services provides a “one-stop shop” for GI specialists, addressing the disjointed customer experience in the traditional model and allowing our sales representatives to focus on increasing their revenue per GI customer over time.

Our GI-dedicated pathology lab provides an attractive service offering for GI specialist customers. We operate one of the few GI-specific pathology laboratories, employing GI-trained pathologists and GI-focused histotechnicians who provide quality diagnostic services for our GI specialist customers. We believe our GI-dedicated pathology laboratory provides superior quality in diagnostic services compared to general pathology labs and produces an attractive service offering for our GI specialist customers.

Proven ability to rapidly innovate and respond to customer needs by leveraging our extensive R&D expertise in the GI industry. Our global research and development team spanning locations in the United States, Israel and Germany includes 35 employees, as of March 31, 2015, who are exclusively focused on innovation in the GI industry. Our innovations include products such as CinchPad®, Compliance EndoKit®, Boa® Polypectomy Snare, AutoBand® and our Fuse® system.

Disruptive, clinically-differentiated Fuse® endoscopy system. Our Fuse® full spectrum endoscope was the first endoscope to provide a revolutionary 330° field of view during colonoscopy, allowing GI specialists to see

 

 

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more than twice the anatomy at any one time compared to standard, forward-viewing colonoscopes, thereby significantly reducing pre-cancerous polyp miss rates. According to a tandem clinical study published in The Lancet Oncology, Fuse® had a pre-cancerous polyp miss rate of only 7%, compared with up to a 41% pre-cancerous polyp miss rate for standard, forward-viewing colonoscopes. We believe that the improved clinical and cost outcomes that Fuse® enables will lead to its widespread adoption over time.

Established customer base, proven salesforce and scalable infrastructure. We have manufacturing facilities in the United States, Germany and Israel, 103 sales and marketing professionals in the United States and Germany and distribution arrangements covering 27 countries. We currently serve over 2,500 GI department customers across 50 sales territories in the United States to which we seek to leverage our expanding platform of GI products and services. As of March 31, 2015, only one percent of our GI department customers have purchased a Fuse® system. Of the customers who have purchased Fuse®, approximately 80% also purchased other products or services from us in 2014. In addition, approximately 65% of our customers purchased multiple products or services from us in 2014. Our proven salesforce is poised to contribute to future sales growth. We believe we have the infrastructure in place to support continued expansion in the growing GI market.

Proven leadership team. Since our founding in 2008, our management team has developed and acquired products and services spanning the GI procedure cycle, engaged more than one third of the GI departments in the United States as customers and grown revenues at a compound annual growth rate of 90% from 2008 to 2014. Our management team brings experience from a number of medical device and GI companies, including Given Imaging, Pentax Medical, Johnson & Johnson and Boston Scientific.

Our strategy

Our goal is to be the leading medical device company providing innovative solutions for GI specialists. The key elements of our strategy include:

Continue to rapidly innovate and introduce new products and services that address the evolving needs of the GI specialist. Our goal is to develop, acquire and commercialize clinically beneficial technologies that improve the practice workflows and productivity of GI specialists, their profitability and the clinical outcomes of their patients, thereby expanding our market opportunity and share.

Leverage existing customer base to gain further share of the GI procedure cycle. We have a strong established customer base with over 2,500 GI departments, representing approximately one-third of GI departments in the United States, and contracts with most of the major group purchasing organizations for GI products in the United States. We have demonstrated a track record of growing our revenue per customer over time. We believe the combination of a broad and innovative product portfolio spanning the entire GI procedure cycle coupled with our disruptive Fuse® technology gives us a competitive advantage that will enable us to gain further share of our customers’ spend.

Expand our sales, marketing and distribution capabilities to support growth in the United States and internationally. Since our first product launch in 2008, our sales team has been able to achieve meaningful adoption of our products. We intend to expand our direct salesforce presence to give us access to the approximately two-thirds of GI departments in the United States that we do not serve today. We also intend to increase the scope and breadth of our international distribution capabilities.

Drive adoption and awareness of our Fuse® system among GI specialists, referring physicians, administrators and patients. We intend to educate GI specialists, referring physicians, administrators and patients on the compelling, differentiated clinical efficacy of our Fuse® system, which has been recognized in multiple scientific publications. We believe the successful sale of a Fuse® system will anchor our relationship with a GI department for the life of the product, during which time we intend to sell additional single-use products as well as pathology and endoscope repair services.

 

 

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Achieving and improving our profitability through operating leverage. We have made significant investments over the past several years in our research and development, sales and marketing and manufacturing operations to build what we believe is a world class organization capable of driving sustainable global growth that can be leveraged to drive increased profitability. Furthermore, our strategic investments in our clinical pathology laboratory and endoscope repair facilities enable us to monetize sectors of the GI endoscopy market that are ignored by the majority of our competitors.

Pursue unique, bundled solutions to enhance GI specialists’ quality of care. As the healthcare landscape continues to change, both providers and payors are increasingly seeking alternative ways to deliver quality care efficiently while controlling costs and limiting financial risk. We believe we are uniquely positioned as the only company offering a broad platform of GI-focused products and pathology services. This product and pathology service combination will allow us to provide creative product bundles and solutions enabling GI specialists to both control procedural costs and negotiate more favorable contracts with payors by facilitating the capture of quality metrics, such as pre-cancerous polyp detection rate, which we can provide through our pathology services.

Risk factors

Investing in our common stock involves substantial risk, and our ability to successfully operate our business is subject to numerous risks, including those that are generally associated with our industry. Any of the risks set forth in this prospectus under the heading “Risk factors” may limit our ability to successfully execute our business strategy. You should carefully consider all the information set forth in this prospectus and, in particular, should evaluate the specific risks set forth in this prospectus under the heading “Risk factors” in deciding whether to invest in our common stock. The following is a summary of some of the principal risks we face:

 

    we must demonstrate to physicians the merits of Fuse® and our other products compared to those of our competitors and obtain market acceptance of Fuse® and our other products;

 

    of our over 2,500 GI department customers, only one percent have purchased Fuse® systems, and there can be no assurance that the Fuse® system will gain widespread adoption or that we will be successful in our efforts to commercialize our Fuse® system;

 

    any subsequent clinical studies that are conducted and published may not be positive or consistent with our existing data, which could affect the rate of adoption of our products;

 

    we may not be able to compete effectively in selling our GI products and services;

 

    we may not be able to expand, manage and maintain our direct sales and marketing organizations;

 

    alternative diagnostic methods or technologies for GI disease screening may gain greater market acceptance;

 

    we have incurred losses in the past and may not be able to achieve scale of operation or achieve or sustain profitability in the future;

 

    our actual financial results may vary significantly from forecasts;

 

    we may not be able to successfully develop new products, improve or enhance existing products or acquire complementary products, technologies, services or businesses;

 

    we may be unable to obtain and maintain intellectual property of sufficient scope to adequately protect our products, including Fuse®, and we may be unable to avoid infringing or otherwise violating the intellectual property rights of third parties;

 

    consolidation in the healthcare industry could lead to demands for price concessions;

 

 

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    coverage, reimbursement and pricing amounts from third-party payors for procedures using our products may significantly decline and GI departments in hospitals, ambulatory surgery centers, or ASCs, and other healthcare providers may be reluctant to purchase, or may delay purchase, of our products, or may be willing to pay less for our products; and

 

    government and third-party payors, such as Medicare and Medicaid, have taken steps to control the utilization and reimbursement of clinical pathology services.

Corporate conversion

We currently operate as a Delaware limited liability company under the name ECPM Holdings, LLC. Prior to the closing of this offering, ECPM Holdings, LLC will convert into a Delaware corporation pursuant to a statutory conversion and change its name to EndoChoice Holdings, Inc. As a result of the corporate conversion, the holders of the different classes and series of units of ECPM Holdings, LLC will become holders of common stock of EndoChoice Holdings, Inc. Holders of warrants and options, respectively, to purchase units of ECPM Holdings, LLC will become holders of warrants and options to purchase common stock of EndoChoice Holdings, Inc., respectively. Holders of vested incentive units of ECPM Holdings, LLC will become holders of common stock of EndoChoice Holdings, Inc. Holders of unvested incentive units of ECPM Holdings, LLC will become holders of shares of restricted stock of EndoChoice Holdings, Inc. The number of shares of common stock of EndoChoice Holdings, Inc. that holders of units will be entitled to receive in the corporate conversion will be determined in accordance with a formula that is set forth in the plan of conversion and varies depending on which class and series of units a holder owns. The number of shares of common stock of EndoChoice Holdings, Inc. that a holder of vested incentive units receives in the corporate conversion, the number of shares of common stock that warrants or options will be exercisable for following the corporate conversion, and the number of shares of restricted stock units that a holder of unvested incentive units receives in the corporate conversion will also vary depending on the initial public offering price set forth on the cover page of this prospectus.

The information in this prospectus is based on our estimate that                 shares of our common stock will be issued to holders of units of ECPM Holdings, LLC, that                 shares of our common stock will be issued to the holders of vested incentive units of ECPM Holdings, LLC, that                 shares of restricted stock of ECPM Holdings, Inc. will be issued to the holders of unvested incentive units of ECPM Holdings, LLC, that options to purchase                 shares of common stock will be issued to holders of options to purchase units of ECPM Holdings, LLC and that warrants to purchase                 shares of common stock will be issued to holders of warrants to purchase units of ECPM Holdings, LLC in the corporate conversion, in each case, based on an initial public offering price per share of common stock of $            , which is the midpoint of the price range set forth on the cover page of this prospectus. To the extent that the actual initial public offering price per share for this offering is greater or less than $            , the actual number of shares of common stock, options and restricted stock units to be issued in connection with the conversion will be adjusted accordingly. See “Pricing sensitivity analysis” to see how the number of shares, options and warrants to be issued in the conversion would be affected by an initial public offering price per share of common stock at the low-, mid- and high-points of the price range indicated on the cover page of this prospectus or if the underwriters’ option to purchase additional shares of common stock is exercised in full.

The purpose of the corporate conversion is to reorganize our corporate structure so that the top-tier entity in our corporate structure—the entity that is offering our common stock to the public in this offering—is a corporation rather than a limited liability company and so that our existing investors will own our common stock rather than equity interests in a limited liability company. For further information regarding the corporate conversion, see “Corporate conversion.” References in this prospectus to our capitalization and other matters pertaining to our equity and shares prior to the corporate conversion relate to the capitalization and equity and shares of ECPM Holdings, LLC, and after the corporate conversion, to EndoChoice Holdings, Inc.

 

 

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The consolidated financial statements included elsewhere in this prospectus are those of ECPM Holdings, LLC and its consolidated operations. We expect that our conversion from a Delaware limited liability company to a Delaware corporation will not have a material effect on our consolidated financial statements.

Emerging growth company status

We are an “emerging growth company” as defined in the Jumpstart Our Business Startups Act of 2012, or the JOBS Act, which permits us to elect not to be subject to certain disclosure and other requirements that otherwise would have been applicable to us had we not been an “emerging growth company.” These provisions include:

 

    only two years of audited financial statements, in addition to any required unaudited interim financial statements, with correspondingly reduced “Management’s discussion and analysis of financial condition and results of operations” disclosure in this prospectus;

 

    reduced disclosure about our executive compensation arrangements;

 

    no non-binding advisory votes on executive compensation or golden parachute arrangements; and

 

    exemption from the auditor attestation requirement in the assessment of our internal control over financial reporting.

We may take advantage of these exemptions for up to five years or such earlier time as we are no longer an “emerging growth company.” We will qualify as an “emerging growth company” until the earliest of (1) the last day of our fiscal year following the fifth anniversary of the date of completion of this offering, (2) the last day of our fiscal year in which we have annual gross revenue of $1.0 billion or more, (3) the date on which we have, during the previous three-year period, issued more than $1.0 billion in non-convertible debt and (4) the last day of the fiscal year in which we become a “large accelerated filer” as defined in Rule 12b-2 under the Securities Exchange Act of 1934, as amended, or the Exchange Act. Under this definition, we will be an “emerging growth company” upon completion of this offering and could remain an “emerging growth company” until as late as December 31, 2020.

In addition, the JOBS Act provides that an emerging growth company can take advantage of an extended transition period for complying with new or revised accounting standards. This allows an emerging growth company to delay the adoption of certain accounting standards until those standards would otherwise 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.

Corporate information

Our corporate predecessor, EndoChoice, Inc., was incorporated in October 2007 under the laws of Delaware. ECPM Holdings, LLC was established in Delaware in September 2012. In January 2013, all shares of EndoChoice, Inc. and all shares of Peer Medical Ltd. were exchanged for units of ECPM Holdings, LLC and both companies became our wholly owned subsidiaries. In January 2013, we also acquired all of the assets and selected liabilities of RMS Endoskopie-Technik Stephan Wieth e.K. through EndoChoice GmbH, a German company, which is a wholly-owned subsidiary of ECPM Holdings, LLC. Prior to the closing of this offering, we will complete a corporate conversion pursuant to which EndoChoice Holdings, Inc. will succeed to the business of ECPM Holdings, LLC and its consolidated subsidiaries, and the equity holders of ECPM Holdings, LLC will become stockholders of EndoChoice Holdings, Inc. See “Corporate conversion.” Our principal executive offices are located at 11810 Wills Rd., Alpharetta, Georgia 30009, and our telephone number at that address is (888) 682-3636. Our website is located at www.endochoice.com. Our website, and the information on our website, is neither part of this prospectus nor incorporated by reference herein.

 

 

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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’ option to purchase additional shares is exercised in full).

 

Underwriters’ option to purchase additional shares of common stock from us

We have granted the underwriters a 30-day option to purchase an additional             shares.

 

Use of proceeds

We estimate, based upon an assumed initial public offering price of $         per share, which is the midpoint of the price range set forth on the cover page of this prospectus, we will receive proceeds from the offering of approximately $         million (or $         million if the underwriters’ option to purchase additional shares is exercised in full), after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us. We intend to use the proceeds from this offering to fund the commercialization of our Fuse® system, including the expansion of our sales and marketing activities, for capital expenditures for new product demonstration equipment, for investments to expand our manufacturing capacity and for working capital and other general corporate purposes. See “Use of proceeds.”

 

Dividend policy

We currently expect to retain all future earnings, if any, for use in the operation and expansion of our business and repayment of debt; therefore, we do not anticipate paying cash dividends on our common stock in the foreseeable future. See “Dividend policy.”

 

Risk factors

You should carefully read and consider the information set forth under the heading “Risk factors” beginning on page 14 of this prospectus and all other information set forth in this prospectus before investing in our common stock.

 

Proposed ticker symbol

“GI.”

The common stock to be outstanding after this offering is based on             shares outstanding as of March 31, 2015, and excludes the following:

 

    as of March 31, 2015,             shares issuable upon the exercise of outstanding stock options at a weighted-average exercise price of $         per share;

 

                shares reserved for future issuance under our 2015 Omnibus Equity Incentive Plan, or the 2015 Plan; and

 

                shares issuable upon the exercise of warrants at a weighted-average exercise price of $         per share following the corporate conversion.

 

 

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Unless otherwise indicated, this prospectus assumes:

 

    the completion of our corporate conversion, as a result of which units of ECPM Holdings, LLC will be converted into shares of common stock of EndoChoice Holdings, Inc., warrants of ECPM Holdings, LLC will be converted into the right to purchase             shares of common stock of EndoChoice Holdings, Inc., options of ECPM Holdings, LLC will be converted into options to purchase              shares of common stock of EndoChoice Holdings, Inc., vested incentive units of ECPM Holdings, LLC will be converted into             shares of common stock of EndoChoice Holdings, Inc., and unvested incentive units of ECPM Holdings, LLC will be converted into             shares of restricted stock of EndoChoice Holdings, Inc., in each case, 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);

 

    an initial public offering price of $         per share, the midpoint of the estimated initial public offering price range, set forth on the cover page of this prospectus; and

 

    no exercise of the underwriters’ option to purchase up to an additional             shares of our common stock.

The number of shares of common stock of EndoChoice Holdings, Inc. that holders of units and vested incentive units will receive in the corporate conversion, the number of shares of common stock that options and warrants will be exercisable for following the corporate conversion and the number of shares of restricted stock that holders of incentive units will receive in the corporate conversion will vary depending on the initial public offering price. See “Pricing sensitivity analysis” for additional information.

 

 

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Summary historical consolidated financial and other data

The tables below summarize our consolidated financial information for the periods indicated. We derived the financial information for the years ended December 31, 2012, 2013 and 2014 from our audited consolidated financial statements included elsewhere in this prospectus. We derived the financial information as of March 31, 2015 and for the three-month periods ended March 31, 2014 and 2015 from our unaudited condensed consolidated financial statements included elsewhere in this prospectus. The unaudited condensed consolidated financial statements include, in the opinion of management, all adjustments which are necessary for the fair presentation of the financial information set forth therein. You should read the following information together with the more detailed information contained in “Selected consolidated financial and other data,” “Management’s discussion and analysis of financial condition and results of operations” and our consolidated financial statements and the accompanying notes. Our historical results are not necessarily indicative of the results to be expected in any future period. Interim financial results are not necessarily indicative of results that may be expected for the full fiscal year.

 

     Year ended December 31,     Three months ended
March 31,
 
(in thousands except per unit and per share data)    2012     2013     2014     2014     2015  
                       (unaudited)  

Consolidated statements of income data:

          

Net revenues:

          

GI equipment and supplies

   $ 25,249      $ 38,772      $ 48,824      $ 10,908     $ 13,795  

GI pathology services

     8,968        12,119        12,595        2,939       2,953  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net revenues

  34,217      50,891      61,419      13,847     16,748  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues:

GI equipment and supplies

  13,101      21,502      33,815      6,146     10,026  

GI pathology services

  4,024      4,390      5,093      1,307     1,143  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues

  17,125      25,892      38,908      7,453     11,169  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

  17,092      24,999      22,511      6,394     5,579  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

Research and development

  1,683      16,617      21,702      5,150     4,683  

Sales and marketing

  11,465      18,148      27,660      6,509     8,243  

General and administrative

  4,921      11,355      16,456      3,700     4,417  

Amortization of intangible assets

  13      4,578      3,908      1,173     687  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses

  18,082      50,698      69,726      16,532     18,030  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating loss

  (990   (25,699   (47,215   (10,138 )   (12,451 )
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other income (expense):

Other income (expense)

  (3   296      (1,563   (7 )   (1,033 )

Interest expense

  (208   (104   (3,950   (349 )   (1,591 )

Interest income

  —        31      —        —        —     
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other income (expense)

  (211   223      (5,513   (356 )   (2,624 )
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss before income taxes

  (1,201   (25,476   (52,728   (10,494 )   (15,075 )

Income tax (benefit) expense

       (1,558   916      384     199  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

  (1,201   (23,918   (53,644   (10,878 )   (15,274 )

Other comprehensive income (loss)

       3,050      (5,064   (606 )   (740 )
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive loss

$ (1,201 $ (20,868 $ (58,708 $ (11,484 ) $ (16,014 )
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

 

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    Year ended December 31,     Three months ended
March 31,
 
(in thousands except per unit and per share data)   2012     2013     2014     2014     2015  

Net loss attributable to common stockholders

  $ (2,700   $ —        $ —        $ —        $ —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted net loss per share attributable to common stock

$ (0.27 $ —      $ —      $ —      $ —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted net loss per unit attributable to Class A units

$ —      $ (0.17 $ (0.37 $ (0.08 $ (0.09
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted net loss per unit attributable to Class B units

$ —      $ (0.25 $ (0.53 $ (0.11 $ (0.12
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted net loss per unit attributable to Class C units

$ —      $ (2.39 $ (5.12 $ (1.07 $ (1.19
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other Financial Data:

EBITDA(4)

$ (322 $ (19,413 $ (40,021 $ (8,236 $ (11,382

Adjusted EBITDA(4)

$ (282 $ (19,389 $ (40,001 $ (8,231 $ (11,377

 

     As of March 31, 2015  
     Actual     Pro forma(1)(2)      Pro forma
as adjusted(2)(3)
 
     (in thousands)  

Consolidated balance sheet data:

       

Cash and cash equivalents

   $ 32,981      $                        $                    

Working capital(5)

     42,683        

Total assets

     102,716        

Long-term debt

     39,481        

Redeemable members’ capital

     156,424        

Accumulated deficit

     (112,439     

 

     As of March 31, 2015

Pro forma net loss per share(1)(2):

  

Pro forma net loss per share, basic and diluted

  

Pro forma shares outstanding, basic and diluted

  

 

(1) Pro forma to reflect our conversion from a Delaware limited liability company to a Delaware corporation prior to the closing of this offering, in which all outstanding units of ECPM Holdings, LLC will be converted into             shares of common stock of EndoChoice Holdings, Inc. 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). The number of shares of common stock of EndoChoice Holdings, Inc. that holders of units and vested incentive units will receive in the corporate conversion, the number of shares of common stock that options and warrants will be exercisable for following the corporate conversion and the number of shares of restricted stock that holders of unvested incentive units will receive in the corporate conversion will vary depending on the initial public offering price. See “Pricing sensitivity analysis” for additional information.
(2) Pro forma and pro forma as adjusted information discussed above are unaudited and illustrative only.
(3)

Pro forma as adjusted gives effect to (1) our conversion from a Delaware limited liability company to a Delaware corporation prior to the closing of this offering and (2) the sale of shares of our 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 the application of the proceeds therefrom. See “Pricing sensitivity analysis” to see how some of the information presented above would be affected by an initial public offering price per share of common stock at the low-, mid- and high-points of the price range

 

 

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  indicated on the cover page of this prospectus or if the underwriters’ option to purchase additional shares of common stock is exercised in full.
(4) We define EBITDA as net loss plus interest expense, income tax expense, and depreciation and amortization. We define Adjusted EBITDA as EBITDA plus stock/unit-based compensation expense. We present Adjusted EBITDA because we believe it is a useful indicator of our operating performance. Our management uses Adjusted EBITDA principally as a measure of our operating performance and believes that Adjusted EBITDA is useful to our investors because it is frequently used by securities analysts, investors and other interested parties in their evaluation of the operating performance of companies in industries similar to ours. Our management also uses Adjusted EBITDA for planning purposes, including the preparation of our annual operating budget and financial projections.

Adjusted EBITDA should not be considered in isolation or as a substitute for a measure of our liquidity or operating performance prepared in accordance with U.S. generally accepted accounting principles, or GAAP, and is not indicative of net loss from operations as determined under GAAP. Adjusted EBITDA and other non-GAAP financial measures have limitations that should be considered before using these measures to evaluate our liquidity or financial performance. Adjusted EBITDA does not include certain expenses that may be necessary to review our operating results and liquidity requirements. Our definition and calculation of Adjusted EBITDA may differ from that of other companies.

The following table presents a reconciliation of net loss to EBITDA and Adjusted EBITDA for the periods presented:

 

     Year ended December 31,      Three months ended
March 31,
 
(dollars in thousands)    2012      2013      2014      2014      2015  

Net loss

   $ (1,201    $ (23,918    $ (53,644    $ (10,878    $ (15,274

Interest expense, net

     208         73         3,950         349         1,591   

Income tax (benefit) expense

     —           (1,558      916         384         199   

Depreciation and amortization

   $ 671       $ 5,990       $ 8,757         1,909         2,102   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

EBITDA

$ (322 $ (19,413 $ (40,021 $ (8,236 $ (11,382

Stock/unit-based compensation

  40      24      20      5      5   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Adjusted EBITDA

$ (282 $ (19,389 $ (40,001 $ (8,231 $ (11,377
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
(5) Represents current assets less current liabilities.

 

 

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RISK FACTORS

Risks related to our business and industry

We must demonstrate to GI specialists the merits of our Fuse® system, which has only been commercially available since December 2013, compared to standard, forward-viewing endoscopes sold by our competitors, which have been available for over 20 years.

Standard, forward-viewing endoscopes have been available for over 20 years, while we only began commercializing our Fuse® system in December 2013. To date, we have sold relatively few units and have a small installed base of systems. Because we have a limited commercial track record compared to our competitors and our Fuse® system has been in use for less than two years, GI specialists may be slower to adopt or recommend our Fuse® system to other GI specialists.

Our success depends in large part on our ability to increase sales of our Fuse® system. GI specialists play a significant role in determining the course of a patient’s treatment and, as a result, the type of product that will be used to treat a patient. In order to increase sales of our Fuse® system, we must effectively educate GI specialists about our Fuse® system and successfully demonstrate to GI specialists the merits of our Fuse® system for use in performing GI endoscopy as well as its advantages over standard endoscopes. Acceptance of our Fuse® system depends on educating GI specialists as to the quality, diagnostic benefits, ease of use and cost-effectiveness of our Fuse® system. Of our over 2,500 GI department customers, only one percent have purchased Fuse® systems, and there can be no assurance that the Fuse® system will gain widespread adoption or that we will be successful in our efforts to commercialize our Fuse® system. If we are not successful in convincing GI specialists of the merits of our Fuse® system, they may not use our Fuse® system or recommend it to other GI specialists and we may be unable to increase our sales, sustain our growth or achieve profitability.

If a GI specialist experiences difficulties during a demonstration of our Fuse® system or during initial procedures using our Fuse® system, that GI department may be less likely to buy our system or to recommend it to other GI specialists. It is critical to the success of our commercialization efforts to educate GI specialists on the clinical benefits and the proper use of our Fuse® system and to provide them with adequate product support during product demonstrations and the initial clinical procedures. It is important for our growth that these GI specialists advocate the benefits of our Fuse® system in the broader GI marketplace. If GI specialists do not use our Fuse® system effectively, it could result in an unsatisfactory experience for the GI specialist or negative publicity, either of which could have a material adverse effect on our business, results of operations and financial condition.

Furthermore, we believe GI specialists may not widely adopt our Fuse® system unless they determine, based on their personal experience, recommendations from other GI specialists, available clinical data and published peer-reviewed journal articles, that our Fuse® system is an attractive alternative to our competitors’ products. GI specialists may be hesitant to select our Fuse® system for new installations or change to our Fuse® system for the following reasons, among others:

 

    long-standing relationships with competitors and distributors that sell other products and their competitive response and negative selling efforts;

 

    lack of experience with our products and concerns that we are relatively new to the business of designing and manufacturing endoscopy systems, or concerns that our competitors have greater resources than our company;

 

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

 

    lack or perceived lack of sufficient clinical evidence supporting clinical benefits;

 

    reluctance to change to or use new products;

 

    perception that our products are unproven or experimental; and

 

    the time commitment that may be required to gain familiarity with a new system.

 

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In addition, we believe adoption and support of our products by influential GI specialists are essential for market acceptance and adoption. If we do not receive support from these GI specialists in spreading information and generating positive perceptions about clinical performance, or additional clinical data does not show the benefits of using our products, GI specialists may not use our products. In such circumstances, we may be unable to increase our sales, sustain our growth or achieve profitability.

We only recently began commercializing our Fuse® system and we may never generate significant revenue from our Fuse® system.

We have a limited history of commercializing our Fuse® system. We may be unable to generate significant revenue from our Fuse® system or future products for a number of reasons, including:

 

    responses of our competitors, such as Olympus, Fujifilm, Pentax and Karl Storz, which are well established companies with strong customer loyalty, established relationships with GI specialists, hospitals and ambulatory surgical centers, and greater capital, marketing and other resources than our company;

 

    limitations on our ability to demonstrate differentiation and advantages of our Fuse® system or future products and the relative safety, efficacy, ease of use of our Fuse® system or future products;

 

    the limited size of our global sales force and the learning curve required for new sales and marketing representatives to become effective in selling and marketing our Fuse® system;

 

    our inability to manufacture a sufficient quantity of our Fuse® systems;

 

    our inability to obtain sufficient and on-time supply of the components for our Fuse® system or secure second source suppliers if our main suppliers are unable to fulfill our orders;

 

    our inability to maintain manufacturers’ certifications or approvals for cleaning and disinfecting of the Fuse® system for major brands of washing machines used by GI departments globally;

 

    our inability to timely make improvements to our Fuse® system in response to GI specialist feedback;

 

    insufficient financial or other resources to support our commercialization efforts; and

 

    the introduction and market acceptance of new, more effective or less expensive competing products and technologies.

Moreover, many hospital customers, through the contracting process, limit the number of manufacturers that may sell to their institution. Because some of our competitors may offer broader lines of products outside of GI products and services, including lines of products in cardiology, radiology, urology, pulmonology, or other medical specialties, or may be better known, hospitals may choose to contract with our competitors regardless of the differentiating attributes of our products or GI specialist preference for our products. Some of our larger competitors offering products beyond just GI products and services may be better positioned to offer product bundles across multiple product lines with pricing discounts at higher levels. In addition, our competitors may actively position their product portfolios against our product portfolio during the hospital contracting process. Furthermore, the specifications of any contracting process may be written so as to exclude our products from consideration. Limitations on the number of hospitals to which we can sell our products may significantly restrict our ability to grow and could adversely impact our business, results of operations and financial condition.

While initial clinical studies have shown positive results of our Fuse® system versus standard colonoscopes, subsequent clinical studies may not be consistent with existing findings.

Our success depends on the medical community’s acceptance of our products as tools that are useful to GI specialists in diagnosing and treating patients. Current clinical studies, such as a tandem clinical trial published in The Lancet Oncology, the Lancet Study, have demonstrated that our Fuse® system produces lower pre-cancerous polyp miss rates as compared to standard, forward-viewing colonoscopes.

 

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We have commissioned additional clinical studies designed to compare the performance of our Fuse® system with standard endoscopes. Our competitors, academics, physicians or healthcare organizations may commission similar studies in the future. These studies could yield significantly different results than the clinical studies that have previously been completed. If future studies comparing our Fuse® system to standard endoscopes show higher pre-cancerous polyp and polyp miss rates, or other results that are not as favorable as the findings in the Lancet Study or other prior clinical studies, the adoption of our Fuse® system by GI specialists could be impeded, which could have a material adverse affect our business, results of operations and financial condition.

We may not be able to compete effectively in selling our GI products and services.

Our industry is highly competitive, subject to change and significantly affected by new product introductions and other activities of industry participants. We face different competitors in our product and service lines, as categorized below.

 

    Imaging systems. In the imaging market, our significant competitors include flexible endoscope manufacturers, such as Olympus, Fujifilm and Pentax, which together represent a significant portion of the GI endoscopy market. In particular, each of these significant competitors have products that directly compete with our Fuse® system, including EVIS EXERA III from Olympus, EXPX-2500 from Fujifilm and Pentax’s RetroView Colonoscope. There is also the potential for new entrants to the market, particularly those based in China, as manufacturing capabilities grow.

 

    Therapeutic devices. In the device market, our significant competitors include Boston Scientific, Cook Medical, Olympus, Medivators/Cantel and Steris/US Endoscopy, all of which sell GI endoscopy devices. At any time, these and other potential market entrants may develop new devices or treatment alternatives that may compete directly with our GI products.

 

    Infection control products. In the infection control market, our significant competitors include Medivators/Cantel, Ruhof, Medline, Cardinal Health and Steris/US Endoscopy, all of which sell infection control products that directly compete with our product offerings, including procedure kits, personal protection products, enzymatics and high-level disinfectants.

 

    Diagnostics. The diagnostics market, including pathology services, is highly fragmented. Our primary competitors include GI groups with in-office pathology labs, independent pathology labs, hospital-based pathology labs, and large diagnostic companies, including LabCorp and Quest Diagnostics.

At any time, these or other GI market participants may develop alternative products or services that compete directly or indirectly with our products and services. They may also develop and patent products or processes 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 products or processes. If clinical outcomes of procedures performed with our competitors’ products are, or are perceived to be, superior to procedures performed with our products, sales of our products could be negatively affected and our business, results of operations and financial condition could suffer.

Many of our current and potential competitors are publicly traded, or are divisions of publicly-traded, major medical device or technology companies that enjoy several competitive advantages. We face a challenge overcoming the long-standing preferences of some GI specialists for using the products of our larger, more established competitors. GI specialists who have completed many successful procedures using the products made by these competitors may be reluctant to try new products from a source with which they are less familiar. If these GI specialists do not try and subsequently adopt our products and services, then our revenue growth will slow or decline. In addition, many of our competitors enjoy other advantages such as:

 

    greater financial resources enabling them to market and discount aggressively;

 

    large and established sales, marketing and worldwide distribution networks which have greater reach in both domestic and international markets;

 

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    significantly greater brand recognition;

 

    established business and financial relationships with many more GI specialists, referring physicians, hospitals and medical schools;

 

    greater existing market share in the GI endoscopy product market;

 

    greater resources devoted to research and development of competing products and greater capacity to allocate additional resources;

 

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

 

    significantly larger installed bases of equipment, with many systems being subject to non-cancellable long-term lease contracts and service agreements and various customer loyalty programs; and

 

    more expansive patent portfolios and other intellectual property rights.

Further, product pricing can be a significant factor in purchasing decisions. The development of cheaper technologies or the lowering of prices by our competitors could cause GI departments to choose products other than ours. Even if we are able to maintain our relative pricing, competition among a large number of well-established companies could cause overall price erosion in the marketplace, which could have a material effect on our business, results of operations and financial condition.

The market for GI endoscopy products 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 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 making it difficult to differentiate the benefits of our products over competing products. In addition, 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 the market for GI endoscopy products generally.

If we are unable to expand, manage and maintain our direct sales and marketing organizations we may not be able to generate anticipated revenue.

As of March 31, 2015, our direct sales and marketing organizations consisted of 103 employees, having increased from 65 employees as of December 31, 2012, and covered 50 sales territories in the United States. Our future success will be directly dependent upon the sales and marketing efforts of our employees. If our sales representatives fail to adequately promote, market and sell our products, our sales may suffer.

In order to generate our anticipated sales, we will need to expand the size and geographic scope of our direct sales organization. There is significant competition for qualified and experienced sales personnel. Once hired, the training process is lengthy because it requires significant education of new sales representatives to achieve the level of clinical competency with our products expected by GI specialists. Upon completion of the training, our sales representatives typically require lead time in the field to grow their network of accounts and achieve the productivity levels we expect them to reach in any individual territory. If we are unable to attract, motivate, develop and retain a sufficient number of qualified sales personnel, or if our sales representatives do not achieve the productivity levels in the time period we expect them to reach, our revenue will not grow at the rate we expect and our business, results of operations and financial condition will suffer. Also, to the extent we hire sales personnel from our competitors, we may be required to wait until applicable non-competition provisions have expired before deploying such personnel in restricted territories or incur costs to relocate personnel outside of such territories. In addition, we have been in the past, and may be in the future, subject to allegations that these new hires have been improperly solicited, or that they have divulged to us proprietary or other confidential information of their former employers. Any of these risks may adversely affect our ability to increase sales of our

 

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products. If we are unable to expand our sales and marketing capabilities, we may not be able to effectively commercialize our products, which would adversely affect our business, results of operations and financial condition.

In addition, we are in the process of transitioning our sales force from selling less expensive single use products to nurses and procedure room supervisors to also selling more complex capital equipment (such as our Fuse® system) to GI specialists and senior administrators. There are significant differences in these processes, such as a longer sales cycle, the evaluation of possible financing options, and more requirements for approvals in the purchasing decisions for more expensive capital equipment. If we are unable to increase the effectiveness of our sales force, our business, results of operations and financial condition may be adversely affected.

If alternative diagnostic methods or technologies for GI disease screening gain greater market acceptance, our business, results of operations and financial condition may be negatively impacted.

Some western European countries have introduced into their screening programs a preliminary step before colonoscopy. In these countries, the patient is first asked to perform a non-invasive “at home” stool test referred to as either a fecal occult blood test, or FOBT, or fecal immunochemical test, or FIT. A physician interprets the results and if the results of this test are positive, the patient is instructed to proceed to a colonoscopy. In the United States, FOBT and FIT are sometimes used as adjuncts to colonoscopy, but insurance companies generally do not require their use prior to screening colonoscopy. FDA recently approved a non-invasive, DNA-based stool test for use in the United States as an alternative option to screen for colorectal cancer. The newly approved test requires less preparation by the patient and detects hemoglobin, a protein molecule that is a component of blood as well as certain mutations associated with colorectal cancer in the DNA of cells shed by advanced pre-cancerous polyps, as stool moves through the large intestine and rectum.

Other competitors have introduced pill camera technologies as another alternative method of screening the GI tract for lesions. The patient swallows a pill that houses a battery, light and lenses, which travels through the GI tract while wirelessly transmitting images to a specialist. The patient must limit physical activity during the approximate 10 hours that it takes the pill to travel through the GI tract. The specialist reviews the transmitted images and if any colon abnormalities are detected, the patient is instructed to proceed to a colonoscopy.

Another alternative procedure to screen for pre-cancerous polyps is use of diagnostic imaging, including computed tomography, or CT, or magnetic resonance imaging, or MRI. In these cases, a specialist takes a scan of the patient’s GI tract and analyzes the results for the presence of any colon abnormalities. If any colon abnormalities are detected, the patient is instructed to proceed to a colonoscopy.

In addition, some companies are exploring new technologies that would enable more convenient or cost-effective diagnostic testing that would compete with our clinical pathology services. In the future, these competitors may offer testing that can be performed outside of a commercial clinical laboratory, such as point-of-care testing that can be performed by physicians in their offices.

If any of these or other alternative diagnostic methods are adopted by a greater number of GI specialists and GI departments, the number of screening colonoscopies or demand for our clinical pathology services could decline, and our business, results of operations and financial condition may be negatively impacted.

We have incurred losses in the past and may not be able to achieve or sustain profitability in the future.

We have historically incurred significant losses. We incurred net losses of $(1.2) million, $(23.9) million and $(53.6) million in the years ended December 31, 2012, 2013 and 2014, respectively, and $(10.9) million and $(15.3) million in the three months ended March 31, 2014 and 2015, respectively. As a result of such losses, we had an accumulated deficit of $(112.4) million at March 31, 2015. We expect to continue to incur significant, and in certain instances increased, expenses for product development, manufacturing scale-up, sales and marketing

 

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and other expenses as we commercialize our Fuse® system. Additionally, we expect that our general and administrative expenses will increase due to the additional operational and reporting costs associated with being a public company. We will need to generate significant additional revenue to achieve and maintain profitability, and even if we achieve profitability, we cannot be sure that we will remain profitable for any substantial period of time. Our failure to achieve or maintain profitability could negatively impact our ability to access additional financings on acceptable terms.

Our actual financial results may vary significantly from financial forecasts.

Our limited operating history and commercial experience and the recent launch of our Fuse® system make it difficult for us to predict future performance. As we gain additional commercial experience with respect to our business and continue marketing our Fuse® system, a number of factors over which we have limited control or visibility may contribute to fluctuations in our financial results. We are subject to seasonal variations in revenue and gross profit. In addition, our results can be impacted by adverse weather and by resetting of annual patient healthcare insurance plan deductibles, both of which may cause patients to delay elective procedures. Demand and timing for GI endoscopy purchases and procedures may also be impacted by provider budgetary cycles and by the desire of patients to spend their remaining balances in flexible-spending accounts or because they have met their annual deductibles under their health insurance plans. In addition, sale cycles for medical capital equipment such as our Fuse® system can be longer than other products, which may result in revenue variations caused by the timing of the receipt of customer orders or the shipment of our systems. In the third quarter, the number of GI endoscopy procedures nationwide is historically lower than other quarters throughout the year, which we believe is attributable to the summer vacations of GI specialists and their patients. Other factors that may impact our results include:

 

    GI specialist adoption of our products;

 

    pricing pressure resulting from actions by our competitors, payors or others;

 

    the hiring, retention and continued productivity of our sales representatives;

 

    our ability to expand the geographic reach of our sales and marketing efforts;

 

    results of clinical studies and trials on our or our competitors’ existing products and products in development;

 

    our ability to predict manufacturing and delivery needs;

 

    delays in approval or receipt of anticipated purchase orders from customers or distributors;

 

    the ability of our customers or distributors to obtain financing for purchases of our Fuse® system;

 

    timing of new product offerings, acquisitions, licenses or other significant events by us or our competitors;

 

    unexpected delays in regulatory approvals necessary to launch new products;

 

    delays in, or failure of, component and product deliveries by our suppliers and manufacturers; and

 

    positive or negative coverage in the media or clinical publications of our products or products of our competitors or our industry.

In the event our actual revenue and results of operations do not meet our expectations for a particular period, the market price of our common stock may decline substantially.

Consolidation in the healthcare industry could lead to demands for price concessions, which may impact our ability to sell our products at prices necessary to support our current business strategies.

Healthcare costs have risen significantly over the past decade, which has driven numerous cost reform initiatives by legislators, regulators and third-party payors. Private insurer payment rates vary based on contractual agreements between the providers and the insurance companies. Cost containment initiatives

 

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have elicited a consolidation trend in the healthcare industry to aggregate purchasing power, which may create requests for pricing concessions in the future. Additionally, group purchasing organizations, independent delivery networks and large single accounts may continue to use their market power to consolidate purchasing decisions and reduce the number of approved vendors for hospitals and ASCs. GI specialists are increasingly consolidating their practices or joining hospital groups, which could also impact purchasing decisions. We expect that market demand, government regulation, third-party coverage and reimbursement policies and societal pressures will continue to change the healthcare industry worldwide, resulting in further business consolidations and alliances among our customers, which may exert further downward pressure on the prices of our products or limit our access to certain healthcare providers and may adversely impact our business, results of operations and financial condition.

If coverage, reimbursement and pricing from third-party payors for procedures using our products significantly decline, GI departments in hospitals, ASCs and other healthcare providers may be reluctant to purchase, or may delay purchase, of our products, or may be willing to pay less for our products, which would negatively impact our business, results of operations and financial condition.

Our imaging and single-use product customers, which include GI departments in hospitals, ASCs and other healthcare providers, directly bill third-party payors for reimbursement for GI endoscopy procedures that they provide to patients using our products. As a manufacturer of imaging and single-use products, we do not control the billing practices of our customers.

Coverage for colonoscopy procedures provided by our imaging and single-use product customers is generally well-established among third-party payors. For example, the Medicare program has covered colorectal cancer screening tests (including screening colonoscopies) since 1998, as required by Section 4104 of the Balanced Budget Act of 1997. Currently, Medicare covers screening colonoscopy procedures once every 24 months for beneficiaries who are at high risk for colorectal cancer, once every 120 months for beneficiaries who are at average risk for colorectal cancer, and 48 months after a previous flexible sigmoidoscopy. Medicare does not impose cost-sharing requirements on beneficiaries for screening colonoscopies, unless the procedure results in the biopsy or removal of a polyp or growth during the same visit, in which case the procedure is considered diagnostic and a copay or coinsurance may be required. Also, Section 1001 of the Patient Protection and Affordable Care Act, or ACA, requires “non-grandfathered” group health plans (new plans sold or renewed on or after September 23, 2010) to cover certain preventative services, including screening colonoscopies, without cost-sharing requirements.

Our customers’ access to adequate coverage and reimbursement by government and third-party payors for the procedures performed using our products is central to the acceptance of our current and future products. We may be unable to sell our products on a profitable basis if government and third-party payors deny coverage or reduce their current levels of reimbursement for the procedures in which our products are used. 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 gross margins will shrink, which will adversely affect our ability to invest in and grow our business.

To contain costs of new technologies, governmental healthcare programs and third-party payors are increasingly scrutinizing new and existing technologies by requiring extensive evidence of favorable clinical outcomes and cost effectiveness. Other cost-control methods include prospective payment systems, bundled payment models, capitated arrangements, group purchasing, benefit redesign and pre-authorization processes. These cost-control methods also potentially limit the amount that healthcare providers may be willing to pay for medical devices.

GI departments in hospitals, ASCs 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,

 

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without notice, deny coverage for treatments that may include the use of our products. If we are not successful in reversing existing non-coverage policies, if other third-party payors issue similar policies or if our customers are not able to be reimbursed at cost-effective levels, this could have a material adverse effect on our business, results of operations and financial condition.

In addition, some healthcare providers in the United States have adopted or are considering a managed care system in which providers contract to provide comprehensive healthcare for a fixed cost per person. Healthcare payors may attempt to control costs by limiting access to GI procedures. Additionally, federal healthcare reform, changes in reimbursement policies or healthcare cost containment initiatives may limit or restrict coverage and reimbursement for procedures using 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 GI procedures. Additionally, some foreign reimbursement systems provide for limited payments in a given period and therefore result in extended payment periods and longer wait times for procedures. If adequate levels of reimbursement from third-party payors outside of the United States are not obtained, international sales of our products may decline.

Government and third-party payers, such as Medicare and Medicaid, have taken steps to control the utilization and reimbursement of clinical pathology services.

We face efforts by government and third-party payers to reduce utilization and reimbursement of clinical pathology services.

Amounts paid by payors for clinical pathology services are determined by the Medicare Physician Fee Schedule, or MPFS. From time to time, Congress has legislated reductions in, or has frozen updates to, the MPFS. In addition, the Center for Medicare and Medicaid Services, or CMS, has adopted policies reducing reimbursement rates for clinical pathology services that we perform. For example, in 2013, CMS reduced the “technical component” of the payment for the clinical pathology services we perform by about 52%, and decreased overall Medicare payment for the service by 33%. CMS has adopted a new coding set for diagnosis, commonly known as ICD-10, which significantly expands the coding set for diagnoses. If we do not adequately implement the new coding set, our clinical pathology business could be adversely impacted. In addition, if as a result of the new coding set, GI departments fail to provide appropriate codes for desired tests, we may not be reimbursed for such tests. We also provide anatomic pathology services which are reimbursed by Medicare under a physician fee schedule and are subject to adjustment on an annual basis. Medicaid reimbursement varies by state and is subject to administrative and billing requirements and budget pressures. Recently adopted federal healthcare reform legislation includes further provisions that are designed to control utilization and payment levels.

From time to time, the federal government has considered whether competitive bidding can be used to provide clinical pathology services for Medicare beneficiaries at lower rates while maintaining quality and access to care. If competitive bidding is implemented on a regional or national basis for clinical pathology services, it could materially adversely affect us. Congress periodically considers cost-saving initiatives as part of its deficit reduction discussions. These initiatives have included coinsurance for clinical laboratory services, co-payments for clinical laboratory testing and further laboratory fee schedule reductions. If any of these initiatives is implemented, it could materially affect our business, results of operations and financial condition.

Further, federal healthcare programs have continued to increase the levels of auditing of claims and payments for clinical pathology services. These audits are designed to reduce utilization and control costs and can result in denied claims for payment, recoupments of paid claims and, in some cases, allegations of the submission of false claims for payment. Increasing audit levels increase our costs for providing clinical pathology services and can materially decrease our overall reimbursement.

 

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We also face efforts by non-governmental third-party payers, including health plans, to reduce utilization and reimbursement for clinical pathology services. For example, in light of the ACA there is increased market activity regarding alternative payment models, including a model under which pathology services would be included as part of a bundled payment.

The healthcare industry has experienced a trend of consolidation among health insurance plans, resulting in fewer but larger insurance plans with significant bargaining power to negotiate fee arrangements with healthcare providers, including clinical pathology providers. These health plans, and independent physician associations, may demand that clinical pathology providers accept discounted fee structures or assume all or a portion of the financial risk associated with providing testing services to their members through capitated payment arrangements. In addition, some health plans have been willing to limit the preferred provider organization or point of service laboratory network to only a single national laboratory to obtain improved fee-for-service pricing. Some health plans also are considering steps such as requiring preauthorization of testing. There are also an increasing number of patients enrolling in consumer driven products and high deductible plans that involve greater patient cost-sharing.

The increased consolidation among health plans also has increased the potential adverse impact of ceasing to be a contracted provider with any such insurer. Recently adopted federal healthcare reform legislation includes provisions, including ones regarding the creation of healthcare exchanges, that may encourage health insurance plans to increase exclusive contracting.

We expect continuing efforts to reduce reimbursements, to impose more stringent cost controls and to reduce utilization of clinical pathology services. These efforts, including future changes in third-party payer rules, practices and policies, or ceasing to be a contracted provider to a health plan, may have a material adverse effect on our business, results of operations and financial condition.

Failure to timely or accurately bill for our clinical pathology services could have a material adverse effect on our business, results of operations and financial condition.

Billing for clinical pathology services is extremely complex and is subject to extensive and non-uniform rules and administrative requirements. Depending on the billing arrangement and applicable law, we bill various payers, such as insurance companies, Medicare, Medicaid and patients. Changes in laws and regulations could increase the complexity and cost of our billing process. Additionally, auditing for compliance with applicable laws and regulations as well as internal compliance policies and procedures adds further cost and complexity to the billing process. Further, our billing systems require significant technology investment and, as a result of marketplace demands, we must continually invest in our billing systems.

Missing or incorrect information on requisitions for our clinical pathology services adds complexity to and slows the billing process, creates backlogs of unbilled requisitions, and generally increases the aging of accounts receivable and bad debt expense. Failure to timely or correctly bill may lead to our not being reimbursed for our services or an increase in the aging of our accounts receivable, which could adversely affect our results of operations and cash flows. Failure to comply with applicable laws relating to billing government healthcare programs could lead to various penalties, including: (1) exclusion from participation in Medicare/Medicaid programs; (2) asset forfeitures; (3) civil and criminal fines and penalties; and (4) the loss of various licenses, certificates and authorizations necessary to operate our business, any of which could have a material adverse effect on our business, results of operations and financial condition.

If we fail to properly manage our anticipated growth, our business, results of operations and financial condition could suffer.

We have a relatively short history of operating as a commercial company and have been growing rapidly in recent periods. We intend to continue to grow and may experience future periods of rapid growth and expansion,

 

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which could place a significant additional strain on our senior management team, our other personnel, information technology systems and operating procedures. Any failure by us to manage our growth effectively could have an adverse effect on our ability to achieve our development and commercialization goals.

To achieve our revenue goals, we must successfully increase manufacturing output to meet expected customer demand. In the future, we may experience difficulties with manufacturing yields, quality control, component supply and shortages of qualified personnel, among other problems. These problems could result in delays in product availability and increases in expenses. Any such delay or increased expense could adversely affect our ability to achieve profitability.

Future growth will also impose significant added responsibilities on the management of our sales and marketing teams, including the need to identify, recruit, train and integrate additional sales representatives. In addition, rapid and significant growth will place a strain on our executive, administrative and operational infrastructure.

In order to manage our operations and growth we will need to continue to improve our operational and management controls, reporting and information technology systems and financial internal control procedures. If we are unable to manage our growth effectively, it may be difficult for us to execute our business strategy and our results of operations and financial condition could suffer.

Our future success depends on our ability to develop, receive regulatory clearance or approval for, introduce and commercialize new GI endoscopy products or product enhancements that will be accepted by the market in a timely manner.

In order to serve the needs of our customers, we must enhance and broaden our product offerings in response to changing customer demands and competitive pressures and technologies. We might not be able to successfully develop, protect as proprietary or obtain regulatory approval, clearance or CE Certificates of Conformity to market new products, and our future products may not be accepted by GI departments or the third-party payors who reimburse for many of the procedures performed with our products.

Furthermore, commercializing additional products or enhancing existing products is expensive and time-consuming and could divert management’s attention away from our current GI endoscopy products and harm our business. Even if we are successful in commercializing additional products, the success of any new product offering or enhancement to an existing product will depend on several factors, including our ability to:

 

    properly identify and anticipate GI caregiver needs and preferences;

 

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

 

    obtain intellectual property of appropriate scope to adequately protect new products, while avoiding infringement upon or other violation of the intellectual property rights of third parties;

 

    conduct clinical studies or collect existing clinical data, when relevant;

 

    manufacture and market new or modified products in full compliance with applicable regulatory requirements;

 

    provide adequate training to potential users of our new products, if necessary;

 

    ensure adequate coverage and reimbursement for any GI procedures performed with our new products;

 

    comply fully with FDA and foreign regulations before marketing of new or modified products;

 

    develop an effective and regulatory-compliant, dedicated sales and marketing team;

 

    demonstrate, if required, the safety and efficacy of new products with data from preclinical studies and clinical trials; and

 

    obtain the necessary regulatory clearances, approvals or CE Certificates of Conformity for new products or product enhancements or modifications, including enhancements or modifications to our Fuse® system.

 

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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, we may not be able to increase our revenue and our costs could increase. 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 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 be patentable, or may not be patentable in sufficient scope to adequately protect the product or provide any competitive advantage. If we are required to obtain a license to intellectual property from third parties in order to develop, produce and otherwise commercialize such products without infringing or otherwise violating such intellectual property, the cost of producing the products may discourage commercialization. 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.

We may not be able to successfully complete any future acquisitions.

We may grow our business through the acquisition of additional products, technologies, services or businesses that we believe have significant commercial potential. Any growth through acquisitions will be dependent upon the continued availability of suitable acquisition candidates at favorable prices and on acceptable terms and conditions. Even if these opportunities are present, we may not be able to successfully identify suitable acquisition candidates. In addition, we may not be able to successfully integrate any acquired companies or achieve the commercial potential or synergies projected for any acquisition. Future acquisitions may also divert management’s attention from other business activities. Other companies, many of which may have substantially greater financial, marketing and sales resources, compete with us for these acquisition opportunities.

We are dependent upon third-party manufacturers and suppliers, in some cases sole- or single-source suppliers, making us vulnerable to supply shortages and problems, and price fluctuations, which could harm our business, results of operations and financial condition.

We are dependent on third-party suppliers for our products. In particular, we rely on several single-source suppliers that manufacture and assemble certain components of our Fuse® system.

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, as needed. Reliance on third-party manufacturers entails risks to which we would not be subject if we manufactured all of our products and their components ourselves, including reliance on the third party for regulatory compliance and quality assurance, the possibility that products will not be delivered on a timely basis, the possibility of increases in pricing for our products, the possibility of breach by the third party of the manufacturing agreements, the possibility of patent or other intellectual property infringement or misappropriation by the third party, and the possibility of termination or non-renewal of the agreement by the third party.

Our suppliers may encounter problems during manufacturing for a variety of reasons, including, for example, failure to follow specific protocols and procedures, failure to comply with applicable legal and regulatory requirements, equipment malfunction and environmental factors, failure to properly conduct their own business affairs, and infringement or other violation of third-party intellectual property rights, any of which could delay or impede their ability to meet our requirements.

 

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Our reliance on these third-party suppliers also subjects us to other risks that could adversely affect the quality of our products or our ability to deliver them in a timely manner, and harm our ability to successfully commercialize our products, including:

 

    for many of our suppliers, we are not a major customer and these suppliers may therefore give other customers’ needs higher priority than ours and other customers may use fair or unfair negotiation tactics and/or pressures to impede our relationship with the supplier;

 

    third parties may threaten or enforce their intellectual property rights against our suppliers, which may cause disruptions or delays in shipment, or may force our suppliers to cease conducting business with us;

 

    fluctuations in the demand for our products or our inability to forecast demand accurately may influence the willingness or ability of our suppliers to meet our delivery needs;

 

    our suppliers, especially new suppliers, may make errors in manufacturing or may not adhere to quality requirements or standards;

 

    if necessary components become obsolete, we may have difficulty locating and qualifying alternative suppliers or may be unable to find new or alternative components or reconfigure our products and manufacturing processes in a timely manner;

 

    we may be subject to price fluctuations due to a lack of long-term supply arrangements for key components or changes in foreign exchange rates;

 

    fluctuations in orders for components that our suppliers manufacture for others may affect their ability or willingness to deliver components to us in a timely manner;

 

    our suppliers may wish to discontinue supplying components or services to us for risk management or product liability reasons;

 

    switching components or suppliers may require product redesign and possibly approval or clearance from FDA, EEA Notified Bodies, or other foreign regulatory bodies;

 

    one or more of our sole- or single-source suppliers may be unwilling or unable to supply components of our products;

 

    we or our suppliers may not be able to respond to unanticipated changes in customer orders, and if orders do not match forecasts, we or our suppliers may have excess or inadequate inventory of materials and components;

 

    the occurrence of a fire, natural disaster, terrorist or military event or other catastrophe impacting one or more of our suppliers may affect their ability to deliver components to us in a timely manner; and

 

    our suppliers may encounter financial or other business hardships unrelated to our demand or beyond our control, which could inhibit their ability to fulfill our orders and meet our requirements.

We may not be able to quickly establish additional or alternative suppliers if necessary, in part because we may need to undertake additional activities to establish such suppliers as required by the regulatory approval process. Any interruption or delay in obtaining components from our third-party suppliers, or our inability to obtain components from qualified alternate sources at acceptable prices in a timely manner, could impair our ability to meet the demand of our customers and cause them to switch to competing products. Given our reliance on certain single-source suppliers, we are especially susceptible to supply shortages because we do not have alternate suppliers currently available.

There are a limited number of suppliers and third-party manufacturers that operate under FDA’s Quality System Regulation requirements, maintain certifications from the International Organization for Standardization that are recognized as harmonized standards in the EEA, and that have the necessary expertise and capacity to

 

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manufacture components for our products. As a result, it may be difficult for us to locate manufacturers for our anticipated future needs, and our anticipated growth could strain the ability of our current suppliers to deliver products, materials and components to us. If we are unable to arrange for third-party manufacturing of components for our products, or to do so on commercially reasonable terms, we may not be able to complete development of, market and sell our current or new products.

The introduction of new or alternative components for our products may require design changes to our products that are subject to FDA and other regulatory clearances or approvals or new CE Certificates of Conformity. We may also be required to assess any new manufacturer’s compliance with all applicable regulations and guidelines, which could further impede our ability to manufacture our products in a timely manner. As a result, we could incur increased production costs, experience delays in deliveries of our products and suffer damage to our reputation.

Our ability to compete effectively and achieve profitability will depend, in part, on our ability to reduce the per unit manufacturing cost of our Fuse® system.

To achieve our operating and strategic goals, we will need to reduce the per unit manufacturing cost of our Fuse® system. This cannot be achieved without increasing the volume of components that we purchase in order to take advantage of volume based pricing discounts, improving manufacturing efficiency and reducing waste, increasing sales of our products to leverage manufacturing overhead costs or initiating product redesign efforts to reduce the number and cost of components and improve manufacturability. If we are unable to reduce the per unit cost of our Fuse® system, our ability to competitively price our product, increase sales and achieve profitability will be severely constrained. Any increase in manufacturing volumes is dependent upon a corresponding increase in sales. The occurrence of one or more factors that negatively impact the manufacturing or sales of our Fuse® system or reduce our manufacturing efficiency may prevent us from achieving our revenue targets or desired reduction in manufacturing costs.

Some of our manufacturing processes are highly complex and potentially vulnerable to disruptions or inefficient implementation of production changes that can significantly increase our costs and delay product shipments to our customers.

Some of our manufacturing processes are highly complex, require advanced and costly equipment and are continuously being modified or maintained in an effort to improve yields and product performance. Difficulties in the manufacturing process can lower yields, interrupt production, result in losses of products in process and harm our reputation. We may from time to time experience bottlenecks and production difficulties that could lead to delivery delays and quality control problems. Such incidents, if they occur, could increase our costs and delay shipments to our customers.

Furthermore, we have limited experience in establishing, supervising and conducting commercial manufacturing. If we or the third-party manufacturers of our products fail to adequately establish, supervise and conduct all aspects of the manufacturing processes, we may not be able to continue to commercialize our products. While we currently believe we have established sufficient production capacity to supply potential near term demand for our Fuse® system, we will likely need to scale up and increase our manufacturing capabilities in the future. No assurance can be given that we will be able to successfully scale up our manufacturing capabilities or that we will have sufficient financial or technical resources to do so on a timely basis or at all.

Our international operations subject us to regulatory and legal risks and certain operating risks, which could adversely impact our business, results of operations and financial condition.

The sale and shipment of our Fuse® system and other products across international borders, the purchase of components from international sources, and our ownership and use of our manufacturing facilities in Germany and Israel subject us to U.S. and 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.

 

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Other laws and regulations that can significantly impact us include various anti-bribery laws, including the U.S. Foreign Corrupt Practices Act, as well as export control laws and economic sanctions laws. Any failure to comply with applicable legal and regulatory obligations could impact us in a variety of ways that include, but are not limited to, significant criminal, civil and administrative penalties, including imprisonment of individuals, fines and penalties, denial of export privileges, seizure of shipments, restrictions on certain business activities and exclusion or debarment from government contracting.

Our international operations expose us and our distributors to risks inherent in operating in foreign jurisdictions. These risks include:

 

    pricing pressure that we may experience internationally;

 

    foreign currency exchange rate fluctuations;

 

    a shortage of high-quality sales people and distributors;

 

    third-party reimbursement policies that may require some of the patients who undergo procedures using our products or who use our services to directly absorb costs or that may necessitate the reduction of the selling prices of our products;

 

    competitive disadvantage to competitors who have more established business and customer relationships;

 

    difficulties in enforcing intellectual property rights against infringers, either our own intellectual property rights or those of our distributors or third party suppliers;

 

    difficulties in defending against allegations of infringement or other intellectual property claims by third-parties against us, our distributors, or any of our third-party suppliers;

 

    reduced or varied intellectual property rights available in some countries;

 

    economic instability of certain countries;

 

    the imposition of additional U.S. and foreign governmental controls or regulations;

 

    changes in duties and tariffs, license obligations and other non-tariff barriers to trade;

 

    the imposition of costly and lengthy new export licensing requirements;

 

    the imposition of restrictions on the activities of foreign agents, representatives and distributors;

 

    the occurrence of an FDA inspection that results in adverse findings at our facilities, or the facilities of our vendors or suppliers, and any resulting import detention that prevents products made in such facilities from entering the United States;

 

    scrutiny of foreign tax authorities which could result in significant fines, penalties and additional taxes being imposed on us;

 

    laws and business practices favoring local companies;

 

    the ability of a foreign government to exclude us from, or limit our ability to compete in, the markets under its jurisdiction through collective tender processes or otherwise;

 

    longer payment cycles for products sold to customers outside the U.S.;

 

    difficulties in enforcing agreements and collecting receivables through certain foreign legal systems;

 

    the imposition of U.S. or international sanctions against a country, company, person or entity with whom we do business that would restrict or prohibit continued business with the sanctioned country, company, person or entity; and

 

    the imposition of new trade restrictions.

 

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If we experience any of these events, our sales in non-U.S. jurisdictions and / or our ability to manufacture our products in non-U.S. jurisdictions may be harmed and our business, results of operations and financial condition would suffer.

Product quality issues or product defects may harm our business, results of operations and financial condition.

Certain of our medical device products are highly complex and incorporate sophisticated technology, including hardware and software. Software typically contains, particularly in the periods subsequent to the initial launch, bugs that can unexpectedly interfere with the device’s operation. Our quality assurance testing programs may not be adequate to detect all defects, which might interfere with customer satisfaction, reduce sales opportunities, harm our marketplace reputation, increase warranty repairs or reduce gross margins. In the past, we have had to replace certain components and provide remediation in response to the discovery of defects or bugs in products that we had shipped, including initial shipments of our Fuse® system. An inability to cure a product defect could result in the financial failure of products, a product recall, temporary or permanent withdrawal of a product from a market, damage to our reputation or our brand, inventory costs or product reengineering expenses, any of which could have a material impact on our business, results of operations and financial condition.

We may face product liability claims that could result in costly litigation and significant liabilities.

Our business exposes us to the risk of product liability claims that are inherent in the design, development, manufacture and marketing of medical devices. This risk exists even if a device or product is cleared or approved for commercial sale by FDA or other foreign regulators and manufactured in facilities registered with and regulated by FDA or an applicable foreign regulatory authority. Any manufacturing or design defects, misuse (including inadequate sterilization) or abuse associated with our products or our product candidates could result in patient injury or death. The medical device industry has historically been subject to extensive litigation over product liability claims, and we cannot offer any assurance that we will not face product liability suits.

In addition, an injury that is caused by the activities of our suppliers, such as those who provide us with components and raw materials, may be the basis for a claim against us. Product liability claims may be brought against us by patients, health care providers or others coming into contact with our products or product candidates. If we cannot successfully defend ourselves against product liability claims, or if we or our suppliers have inadequate product liability insurance, we may incur substantial liabilities and reputational harm. In addition, regardless of merit or eventual outcome, product liability claims may result in:

 

    impairment of our brand and/or business reputation;

 

    costly litigation;

 

    distraction of management’s attention from our primary business;

 

    loss of revenue;

 

    the inability to commercialize our products or, if approved, our product candidates;

 

    decreased demand for our products or, if approved, our product candidates;

 

    product recall or withdrawal from the market;

 

    withdrawal of clinical trial participants; and

 

    substantial monetary awards to patients or other claimants.

While we may attempt to manage our product liability exposure by proactively recalling or withdrawing from the market any defective products, any recall or market withdrawal of our products may delay the supply of those products to our customers and may impact our reputation. We can provide no assurance that we will be

 

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successful in initiating appropriate recall or market withdrawal efforts that may be required in the future or that these efforts will have the intended effect of preventing product malfunctions and the accompanying product liability that may result. Any such recalls and market withdrawals may also be used by our competitors to harm our reputation for safety or be perceived by patients as a safety risk when considering the use of our products, either of which could have an adverse effect on our business, results of operations and financial condition.

Although we have, and intend to maintain, liability insurance, the coverage limits of our insurance policies may not be adequate and one or more successful claims brought against us may have a material adverse effect on our business and results of operations. For example, the U.S. Supreme Court recently declined to hear an appeal of the U.S. Court of Appeals for the Ninth Circuit ruling that the 1976 Medical Device Amendments to the Federal Food, Drug and Cosmetic Act did not preempt state laws in a product liability case involving a medical device company. If other courts in the United States adopt similar rulings, we may be subject to increased litigation risk in connection with our products. Product liability claims could negatively affect our reputation, continued product sales, and our ability to obtain and maintain regulatory approval for our products.

Concerns raised by FDA regarding duodenoscope reprocessing and multidrug-resistant bacterial infections may affect our marketing and manufacturing efforts related to our endoscopes and other GI products.

FDA recently issued a safety communication that the complex design of a certain type of endoscope, specifically ERCP-type endoscopes (also called duodenoscopes), may impede effective reprocessing. Reprocessing is a detailed, multistep process to clean and disinfect or sterilize reusable devices. The FDA safety communication notes that recent medical publications and adverse event reports associate multidrug-resistant bacterial infections in patients who have undergone procedures with reprocessed duodenoscopes, even when manufacturer reprocessing instructions are followed correctly.

While we do not currently manufacture or sell duodenoscopes, we may develop and market such products in the future. The occurrences noted in the FDA safety communication could also affect our marketing efforts for our endoscopes, including our gastroscopes and colonoscopes, or result in regulatory restrictions on all endoscopes that may increase our design and manufacturing costs, or make it more difficult to obtain or may delay required regulatory approvals or clearances for new products or modifications to, or enhancements of, our existing products. Any regulatory restrictions or delays could impact the launch of new products or enhancements, our customer satisfaction and the rate of adoption of Fuse®. The occurrences noted in the FDA safety communication may also present broader issues related to infection control products generally, which we also currently manufacture and market.

Our costs could substantially increase if we experience a significant number of warranty claims.

We provide limited product warranties against manufacturing defects of our endoscopes. Our product warranty requires us to repair defects arising from product design and production processes, and if necessary, replace defective components. The future costs associated with our warranty claims are uncertain due to the relatively recent launch of Fuse®. Thus far, we have not accrued a significant liability contingency for potential warranty claims.

If we experience warranty claims in excess of our expectations, or if our repair and replacement costs associated with warranty claims increase significantly, we will incur liabilities for potential warranty claims that may be greater than we expect. An increase in the frequency of warranty claims or amount of warranty costs may harm our reputation and could have a material adverse effect on our business, results of operations and financial condition.

We are required to maintain high levels of inventory, which could consume a significant amount of our resources, reduce our cash flow and lead to inventory impairment charges.

As a result of the need to maintain substantial levels of inventory, we are subject to the risk of inventory obsolescence and expiration, which may lead to inventory impairment charges. In order to market and sell our

 

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Fuse® system effectively, we must maintain high levels of inventory and demonstration equipment. Our manufacturing processes and sourcing processes require lengthy lead times, during which components of our products may become obsolete due to design changes, and we may over- or under-estimate the amount needed of a given component, in which case we may expend extra resources or be constrained in the amount of end product that we can produce. Our dependence on third-party suppliers for our single use products exposes us to greater lead times, increasing our risk of inventory obsolesce comparatively. Furthermore, some of our products have a limited shelf life due to sterilization requirements and/or degradation, and part or all of a given product or component may expire and its value become impaired. In that instance, we would be required to record an impairment charge. If our estimates of required inventory are too high, we may be exposed to further inventory obsolesce risk. In the event that a substantial portion of our inventory becomes obsolete or expires, or in the event we experience a supply chain imbalance as described above, it could have a material adverse effect on our business, results of operations and financial condition due to the resulting costs associated with the inventory impairment charges and costs required to replace such inventory.

We are subject to risks associated with currency fluctuations, and changes in foreign currency exchange rates could impact our business, results of operations and financial condition.

We generate revenue and incur expenses denominated in currencies other than the U.S. dollar, a majority of which are denominated in Euros and NIS (shekels). As a result, changes in the exchange rates between such foreign currencies and the U.S. dollar could materially impact our reported results of operations and distort period to period comparisons. Fluctuations in foreign currency exchange rates also impact the reporting of our receivables and payables in non-U.S. currencies. As a result of such foreign currency fluctuations, it may be more difficult to detect underlying trends in our business and results of operations. In addition fluctuations in currency exchange rates could cause our results of operations to differ from our expectations or the expectations of our investors.

In the future, we may engage in exchange rate hedging activities in an effort to mitigate the impact of exchange rate fluctuations. If our hedging activities are not effective, changes in currency exchange rates may have a more significant impact on our business, results of operations and financial condition.

Our ability to use our net operating losses and tax credits to offset future taxable income and taxes may be subject to certain limitations.

In general, under Section 382 of the U.S. Internal Revenue Code of 1986, as amended, or the Code, a corporation that undergoes an “ownership change” is subject to limitations on its ability to utilize its pre-change net operating loss, or NOL, carryforwards and other tax attributes (such as research and development tax credits) to offset future taxable income and taxes. Specifically, this limitation may arise in the event of a cumulative change in ownership of our company of more than 50% within a three-year period. Any such annual limitation may significantly reduce the utilization of the NOL carryforwards before they expire. We performed a Section 382 and 383 analysis and determined that we had an ownership change, as defined by Sections 382 and 383 of the Code, which occurred in 2013 in connection with our acquisition of Peer Medical and related equity financing. As a result of this ownership change, we determined that $12.7 million of our federal NOL carryforwards (out of an approximate total of $92.8 million as of March 31, 2015) may be subject to a potential limitation. The closing of this offering or other transactions that may occur in the future, some of which could be outside of our control, may trigger additional ownership changes pursuant to Sections 382 and 383 of the Code, which could further limit the NOL carryforwards that could be utilized annually in the future to offset taxable income, if any. If we are limited in our ability to use our NOL carryforwards and tax credits in future years in which we have taxable income, we will pay more taxes than if we were able to fully utilize our NOL carryforwards and tax credits. This could materially and adversely affect our business, results of operations and financial condition.

 

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We rely on third-party distributors to effectively distribute our products outside the United States.

We depend on medical device distributors for the marketing and selling of most our products in certain territories in Europe, Asia, Australia, South Africa and Latin America. These distributors typically sell a variety of other, non-competing products that may limit the resources they dedicate to selling our products. In addition, we are unable to ensure that our distributors comply with all applicable laws regarding the sale of our products. If our distributors fail to effectively market and sell our products, in full compliance with applicable laws, our results of operations and business may suffer. Recruiting and retaining qualified third-party distributors and training them in our technology and product offering requires significant time and resources. To develop and expand our distribution, we must continue to scale and improve our processes and procedures that support our distributors. Furthermore, if our distributors fail to comply with all applicable laws and regulations, we may suffer reputational harm and our business, results of operations and financial condition may be harmed.

If we fail to retain our key executives or recruit and hire new employees, our operations and financial results may be adversely affected while we attract other highly qualified personnel.

Our future success depends, in part, on our ability to continue to retain our executive officers and other key employees, certain of which have been employees since our inception, and recruit and hire new employees. The replacement of any of our key personnel likely would involve significant time and costs, may significantly delay or prevent the achievement of our business objectives and may harm our business, results of operations and financial condition.

Many executive officers and employees in the medical device industry are subject to strict non-compete or confidentiality agreements with their employers, which would limit our ability to recruit them to join our company. In addition, some of our existing and future employees are or may be subject to confidentiality agreements with previous employers. Our competitors may allege breaches of and seek to enforce such non-compete agreements or initiate litigation based on such confidentiality agreements. Such litigation, whether or not meritorious, may impede our ability to hire executive officers and other key employees who have been employed by our competitors and may result in intellectual property claims against us.

If our facilities or the facility of a supplier become inoperable, we will be unable to continue to research, develop, manufacture and commercialize our products and, as a result, our business will be harmed until we or the supplier are able to secure a new facility. In addition, key components of our Fuse® system are manufactured in Israel which may subject our company to greater geopolitical risks.

We operate multiple facilities, at which we perform our manufacturing, research and development, clinical pathology services and our other business functions. Our operations and the operations of our distributors and suppliers are conducted in various countries throughout the world, certain of which are conducted in geographies that face acute regional risks and challenges. Such risks and challenges could disrupt our business or the operations of our distributors and suppliers and such disruptions could have a material adverse effect on our business, financial condition and results of operations. In particular, much of our research and development and a portion of our manufacturing activity is conducted in a single facility located in Israel. Political, economic, and military conditions in Israel may therefore have a direct influence on us. Our operations could be adversely affected by current hostilities involving Israel and the Hamas, a U.S. State Department designated foreign terrorist organization. The interruption or curtailment of trade between Israel and its trading partners, or a significant downturn in the economic or financial condition of Israel, may disrupt the research and development and manufacturing activity at our facility there. In addition, some countries, companies and organizations continue to participate in a boycott of Israeli firms, firms with Israeli operations and connections and others doing business with Israel or with Israeli companies. Also, over the past several years there have been calls in Europe and elsewhere to reduce trade with Israel. There can be no assurance that restrictive laws, policies or practices directed towards Israel, Israeli businesses or others doing business with Israel or with Israeli companies will not have an adverse impact on our business. Any terrorist attacks or hostilities related to Israel could have a material adverse effect on our business, results of operations and financial condition.

 

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Our facilities and equipment would be costly to replace and could require substantial lead time to repair or replace. These facilities may be harmed or rendered inoperable by natural or man-made disasters, including, but not limited to, war, terrorist activities, earthquakes, flooding, fire and power outages, which may render it difficult or impossible for us to conduct our business for some period of time. Our inability to perform those activities may result in delays in or discontinuances of developing and selling our products during such periods and the loss of customers or harm to our reputation. Although we possess insurance for damage to our property and the disruption of our business, this insurance may not be sufficient to cover all of our potential losses and there can be no assurance this insurance will continue to be available to us on acceptable terms, or at all.

We obtain our Bonastent® product through an exclusive distribution agreement that subjects us to minimum performance requirements and other criteria. Our failure to satisfy those criteria could cause us to lose exclusive rights of distribution.

We have entered into exclusive distribution agreements with the manufacturer of our Bonastent® product. The manufacturer brands its products according to our specifications, and we may have exclusive rights in certain fields of use and territories to sell these products subject to minimum purchase or other performance criteria. Although these products do not individually or in the aggregate represent a material portion of our business, if we do not meet these performance criteria, or if we fail to renew these agreements, we may lose exclusivity in a field of use or territory or cease to have any rights to these products, which could have an adverse effect on our sales and our business. Furthermore, our manufacturer is a smaller company that may not have sufficient resources to continue operations or to continue to supply us sufficient product without additional access to capital.

Failure to protect our information technology infrastructure against cyber-based attacks, network security breaches, service interruptions, or data corruption could significantly disrupt our operations and adversely affect our business, results of operations and financial condition.

We rely on information technology networks and systems, including the Internet and third-party cloud based systems, to process and transmit sensitive electronic information and to manage or support a variety of business processes and activities, including sales, billing, procurement and supply chain, manufacturing and distribution. We use enterprise information technology systems to record, process and summarize financial information and results of operations for internal reporting purposes and to comply with regulatory, financial reporting, legal and tax requirements. Our information technology systems, some of which are managed by third-parties, may be susceptible to damage, disruptions, or shutdowns due to computer viruses, attacks by computer hackers, phishing scams, failures during the process of upgrading or replacing software, databases or components thereof, power outages, hardware failures, telecommunication failures, user errors or catastrophic events. Despite the precautionary measures we have taken to prevent breakdowns in our information technology and telephone systems, if our systems suffer severe damage, disruption, or shutdown and we are unable to effectively resolve the issues in a timely manner, our business, results of operations and financial condition may suffer.

We maintain highly sensitive information related to our business and customers on our information systems, such as:

 

    personal identifiable information;

 

    protected health information;

 

    customer and patient financial information;

 

    company trade secrets; and

 

    product design plans and specifications.

 

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We and our customers could suffer harm if customer information were accessed by third parties due to a security failure in our systems. It could also require significant expenditures to remediate any such failure, problem or breach. In addition, any such failure, problem or breach could harm our reputation, which could adversely impact our business, results of operations and financial condition.

Risks related to our intellectual property

It is difficult and expensive to protect our intellectual property rights and we cannot ensure that they will prevent third parties from competing against us.

Our commercial success will depend, in part, on our ability to obtain and maintain intellectual property protection for our products, product candidates and related technologies in both the United States and other countries, successfully defend our intellectual property rights against third-party challenges and successfully enforce our intellectual property rights to prevent third-party infringement. We rely primarily upon a combination of patents, trademarks and trade secret protection, as well as nondisclosure, confidentiality and other contractual restrictions in our consulting, employment and other agreements to protect our brands, products and other proprietary technologies.

Our ability to protect any of our products and technologies from unauthorized or infringing use by third parties depends in substantial part on our ability to obtain and maintain valid and enforceable patents in both the United States and other countries. Although we actively seek to obtain and maintain patents that cover our products, we may be unsuccessful in obtaining and maintaining patents that cover specific products or aspects of such products. For example, although we have obtained one United States patent relating to the design of an endoscope, we do not own or license any issued United States patent that covers our Fuse® system as currently marketed. We own one patent granted in four European countries relating to various aspects of our Fuse® technology as currently marketed. We are actively prosecuting pending patent applications in the United States covering current and planned embodiments of our Fuse® system, however in the course of prosecuting our patent applications covering such technology, we have received Final Rejections from the United States Patent Office, or the USPTO, rejecting all claims on prior art grounds. In response, we have filed Requests for Continued Examination and we are waiting on further action by the USPTO patent examiner. Although we continue to actively prosecute these patent applications before the USPTO, we cannot assure you that we will be successful or that any patent will ultimately issue.

We also cannot guarantee that any patents will issue from any other pending patent applications or future patent applications owned by or licensed to us, or if any patents are issued, that any such patents will provide us with any meaningful protection or competitive advantage. Even if issued, existing or future patents may be challenged, including with respect to the ownership of them, or narrowed, invalidated, held unenforceable or circumvented, any of which could limit our ability to prevent competitors and other third parties from developing and marketing similar products or limit the length of terms of patent protection we may have for our products and technologies. Further, other companies may design around technologies we have patented, licensed or developed. Our competitors might conduct research and development activities in countries where we do not have patent rights and then use the information learned from such activities to develop competitive products for sale in our major commercial markets. Further, if we encounter delays in regulatory approvals, the period of time during which we could market our product candidates under patent protection could be reduced. In addition, the patent positions of medical technology companies can be highly uncertain and involve complex legal, scientific and factual questions for which important legal principles remain unresolved. Changes in the patent laws, implementing regulations or in interpretations of patent laws may diminish the value of our patent rights. Any of these outcomes could impair our ability to prevent competition from third parties, which may have an adverse impact on our business, results of operations and financial condition.

Patent applications are generally maintained in confidence until publication. In the United States, for example, patent applications are maintained as confidential for up to 18 months after their filing. Similarly,

 

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publication of discoveries in scientific or patent literature often lag behind actual discoveries. Consequently, we cannot be certain that we were the first to invent or the first to file patent applications on our products or product candidates. There is also no assurance that all of the potentially relevant prior art relating to our patents and patent applications has been found, which could be used by a third party to challenge validity or enforceability of our patents or prevent a patent from issuing from a pending patent application.

In addition, even if patents do successfully issue, third parties may challenge any existing or future patent we own or in-license through adversarial proceedings in the issuing offices or in court proceedings, including as a response to any assertion of our patents against them, which could result in the invalidation or unenforceability of some or all of the relevant patent claims. We may be subject to a third party pre-issuance submission of prior art to the USPTO. If a third party asserts a substantial new question of patentability against any claim of a United States patent we own or license, the USPTO may grant a request for reexamination, which may result in a loss of scope of some claims or a loss of the entire patent. The adoption of the America Invents Act has established additional opportunities for third parties to invalidate United States patent claims, including inter partes review and post-grant review, on the basis of a lower legal standards than reexamination and with respect to post-grant review, additional grounds. Outside of the United States, patents we own or license may become subject to patent opposition or similar proceedings, which may result in loss of scope of some claims or loss of the entire patent.

Enforcing our patent and other intellectual property rights, and otherwise participating in adversarial proceedings involving intellectual property is very complex and expensive, may divert our management’s attention from our core business and may result in unfavorable outcomes that could adversely affect our ability to prevent third parties from competing with us. If any of our patents are challenged, invalidated or circumvented by third parties, and if we do not own or have exclusive rights to other enforceable patents protecting our products or other technologies, competitors and other third parties could market products and use processes that are substantially similar to, or superior to, ours and our business, results of operations and financial condition would suffer.

Our patent portfolio includes patents and patent applications in jurisdictions outside of the United States, including Europe, Canada, China, Japan and Australia. The scope of coverage provided by these patents varies from country to country. Moreover, the laws of some foreign jurisdictions do not provide intellectual property rights to the same extent as in the United States and many companies have encountered significant difficulties in obtaining, protecting and defending such rights in foreign jurisdictions. If we encounter such difficulties in protecting or are otherwise precluded from effectively protecting our intellectual property in foreign jurisdictions, our business prospects could be substantially harmed.

We rely on trade secrets to protect our proprietary know-how and other technological advances, particularly where we do not believe patent protection is appropriate or obtainable. However, trade secrets are difficult to protect and enforce. Although we have taken steps to protect our trade secrets and unpatented know-how, including by entering into confidentiality agreements with third parties, and proprietary information and invention assignment agreements with certain employees, consultants and advisors, third parties may still obtain this information or we may be unable to protect our rights. We also have limited control over the protection of trade secrets used by our collaborators and suppliers. There can be no assurance that binding agreements will not be breached, that we would have adequate remedies for any breach, or that our trade secrets and unpatented know-how will not otherwise become known or be independently discovered by our competitors. If trade secrets are independently discovered, we would not be able to prevent their use. In addition, FDA, as part of its Transparency Initiative, is currently considering whether to make additional information publicly available on a routine basis, including information that we may consider to be trade secrets or other proprietary information, and it is not clear at the present time how FDA’s disclosure policies may change in the future, if at all. Enforcing a claim that a third party illegally obtained and is using our trade secrets or unpatented know-how is expensive and time consuming, and the outcome is unpredictable. In addition, courts outside the United States may be less willing to protect trade secret information. Failure to obtain, or maintain, trade secret protection could enable competitors to use our proprietary information to develop products that compete with our products or cause additional, material adverse effects upon our competitive business position.

 

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We also rely on the trademarks we own or license to distinguish our products from the products of our competitors. We cannot guarantee that any trademark applications filed by us will be approved. Third parties may also oppose such trademark applications, or otherwise challenge our use of the trademarks. In the event that the trademarks we use are successfully challenged, we could be forced to rebrand our products, which could result in loss of brand recognition, and could require us to devote resources to advertising and marketing new brands. Further, we cannot provide any assurance that competitors will not infringe or otherwise violate the trademarks we use, or that we will have adequate resources to enforce these trademarks.

If we are sued for infringing intellectual property rights of third parties, it will be costly and time consuming, and an unfavorable outcome in that litigation would have a material adverse effect on our business, results of operations and financial condition.

Our commercial success depends in part on avoiding infringing or otherwise violating the intellectual property rights of third parties. The market for medical devices is subject to rapid technological change and substantial litigation regarding patent and other intellectual property rights. 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. Numerous third-party patents exist in the fields relating to our products. It is difficult for industry participants, including us, to identify all third-party patent rights that may be relevant to our products and technologies because patent searching is imperfect due to differences in terminology among patents, incomplete databases and difficulty in assessing the meaning of patent claims. Moreover, because some patent applications are maintained as confidential until the patents publish, we cannot be certain that third parties have not filed patent applications that cover our products and technologies. Third parties may have filed, and may in the future file, patent applications covering our products or technology similar to ours. Any such patent application could further require us to obtain rights to issued patents covering such technologies.

We are party to, and may in the future be party to, or threatened with, litigation with third parties, including non-practicing entities, who allege that our products, components of our products and/or proprietary technologies infringe, misappropriate or otherwise violate their intellectual property rights. Further, as the number of participants in the industry grows, the possibility of intellectual property infringement claims against us increases. These lawsuits are costly and could adversely affect our results of operations and divert the attention of managerial and technical personnel. If a court determined that we infringe or otherwise violate a third party’s patent or other intellectual property rights, we could be ordered to stop our activities covered by the patents or other intellectual property rights, either permanently or until the conclusion of a trial on the merits, which may not happen for a prolonged period of time. In addition, there is a risk that a court will order us to pay the other party damages for having violated the other party’s patents or other intellectual property rights. A license may not be available to us on acceptable terms, if at all.

If a third party claims that we infringe or otherwise violate its intellectual property rights, we may face a number of issues, including, but not limited to:

 

    infringement and other intellectual property claims which, regardless of merit, may be expensive and time-consuming to litigate and may divert our management’s attention from our core business;

 

    substantial damages for infringement or other violations of intellectual property rights, which we may have to pay if a court decides that the product or technology at issue infringes or violates the third party’s rights, and if the court finds that the infringement was willful, we could be ordered to pay treble damages and the third party’s attorneys’ fees;

 

    a court prohibiting us from selling, making, using, exporting or licensing the product or technology unless the third party licenses its intellectual property rights to us, which it is not required to do, on commercially reasonable terms or at all;

 

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    if a license is available from a third party, we may have to pay substantial royalties, upfront fees and/or grant cross-licenses to obtain intellectual property rights for our products and technology;

 

    redesigning our products and technology so they do not infringe, which may not be possible or may require substantial monetary expenditures and time; and/or

 

    finding alternative suppliers for infringing products and technologies, which could be costly and create significant delay due to the need for FDA regulatory clearance.

At any given time, we may be involved as a defendant in a number of intellectual property infringement actions, the outcomes of which may not be known for a prolonged period of time. Some of our competitors may be able to sustain the costs of complex intellectual property litigation more effectively than we can because they have substantially greater resources. In addition, intellectual property litigation, regardless of its outcome, may cause negative publicity, adversely impact prospective customers, cause product shipment delays, or prohibit us from manufacturing, marketing or otherwise commercializing our products and technology. Any uncertainties resulting from the initiation and continuation of any litigation could have a material adverse effect on our ability to raise additional funds or otherwise have a material adverse effect on our business, results of operations and financial condition.

In addition, we may indemnify our customers and distributors against claims relating to the infringement of intellectual property rights of third parties related to our products. 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, we may be forced to pay damages on behalf of our customers, suppliers 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.

We may be involved in lawsuits to enforce our intellectual property or the intellectual property of our licensors, which could be expensive, time-consuming and unsuccessful.

Competitors may infringe our intellectual property rights or those of our licensors. To counter infringement or unauthorized use, we may be required to file infringement claims, which can be expensive and time-consuming. We currently do not carry intellectual property insurance that would cover such claims. In addition, in a patent infringement proceeding, a court may decide that a patent we own is not valid, is unenforceable and/or is not infringed, or may refuse to stop the other party from using the technology at issue on the grounds that our patents do not cover the technology in question. A third-party defendant may also request reexamination or inter partes review by the USPTO of any patent we assert, and/or post grant review in certain instances. An adverse result in any litigation or adversarial proceedings could put one or more of our patents at risk of being invalidated or interpreted narrowly and could put our patent applications at risk of not issuing.

An unfavorable outcome could require us to cease using the related technology or to attempt to license rights to it from the prevailing party. Our business could be harmed if the prevailing party does not offer us a license on commercially reasonable terms. Our defense of litigation may fail and, even if successful, may result in substantial costs and distract our management and other employees. We may not be able to prevent, alone or with our suppliers, misappropriation of intellectual property rights important to our business, particularly in countries where the laws may not protect those rights as fully as in the United States.

Furthermore, because of the substantial amount of discovery required in connection with intellectual property litigation, there is a risk that some of our confidential information could be compromised by disclosure during this type of litigation. There could also be public announcements of the results of hearings, motions or other interim proceedings or developments. If securities analysts or investors perceive these results to be negative, it could have a material adverse effect on the price of our common stock. The occurrence of any of these events may have a material adverse effect on our business, results of operations and financial condition.

 

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We may be subject to claims challenging the inventorship or ownership of our patent rights and other intellectual property.

We may also be subject to claims that former employees or other third parties have an ownership interest in our patent rights or other intellectual property. We may be subject to ownership disputes in the future arising, for example, from conflicting obligations of consultants or others who are involved in developing our products. Litigation may be necessary to defend against these and other claims challenging inventorship or ownership. If we fail in defending any such claims, in addition to paying monetary damages, we may lose valuable intellectual property rights, such as exclusive ownership of, or right to use, valuable intellectual property. Such an outcome could have a material adverse effect on our business, results of operations and financial condition. Even if we are successful in defending against such claims, litigation could result in substantial costs and be a distraction to management and other employees.

Changes in patent law could diminish the value of patents in general, thereby impairing our ability to protect our existing and future products.

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. On September 16, 2011, the Leahy-Smith America Invents Act, or the Leahy-Smith Act, was signed into law. 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, redefine prior art, may affect patent litigation, and switched the United States patent system from a “first-to-invent” system to a “first-to-file” system. Under a “first-to-file” system, assuming the other requirements for patentability are met, the first inventor to file a patent application generally will be entitled to the patent on an invention regardless of whether another inventor had made the invention earlier. The USPTO has issued 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, in particular, the first-to-file provisions, only became effective within the last year. Accordingly, it is not clear what, if any, impact the Leahy-Smith Act will have on the operation of our business. The Leahy-Smith Act and its implementation could increase the uncertainties and costs surrounding the prosecution of our patent applications and the enforcement or defense of our issued patents, all of which could have a material adverse effect on our business, results of operations and financial condition.

In addition, patent reform legislation may pass in the future that could lead to additional uncertainties and increased costs surrounding the prosecution, enforcement and defense of our patents and applications. Furthermore, the U.S. Supreme Court and the U.S. Court of Appeals for the Federal Circuit have made, and will likely continue to make, changes in how the patent laws of the United States are interpreted. Similarly, foreign courts have made, and will likely continue to make, changes in how the patent laws in their respective jurisdictions are interpreted. We cannot predict future changes in the interpretation of patent laws or changes to patent laws that might be enacted into law by United States and foreign legislative bodies. Those changes may materially affect our patents or patent applications and our ability to obtain additional patent protection in the future.

Obtaining and maintaining our patent protection depends on compliance with various procedural, document submission, fee payment and other requirements imposed by governmental patent agencies, and our patent protection could be reduced or eliminated for non-compliance with these requirements.

The USPTO and various foreign patent offices require compliance with a number of procedural, documentary, fee payment and other similar provisions. In addition, periodic maintenance fees on our owned and in-licensed patents are due to be paid to governmental patent agencies over the lifetime of the patents. Future maintenance fees will also need to be paid on other patents which may be issued to us. We have systems in place to remind us to pay these fees, and we employ outside firms to remind us or our licensor to pay annuity fees due to patent agencies on our patents and pending patent applications. In certain cases, an inadvertent lapse can be

 

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cured by payment of a late fee or by other means in accordance with the applicable rules. However, there are situations in which noncompliance can result in abandonment or lapse of the patent or patent application, resulting in partial or complete loss of patent rights in the relevant jurisdiction. In such an event, our competitors might be able to enter the market and this circumstance would have a material adverse effect on our business, results of operations and financial condition.

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

Filing, prosecuting and defending patents on our products in all countries throughout the world would be prohibitively expensive. We generally apply for patents in those countries where we intend to make, have made, use or sell patented products, and in major markets where it would be commercially infeasible for a competitor to commercialize a product without the ability to sell in such markets. However, we may not accurately predict all the countries where patent protection would ultimately be desirable. If we fail to timely file a patent application in any such country or major market, we may be precluded from doing so at a later date. The requirements for patentability may differ in certain countries, particularly developing countries, and the breadth of patent claims allowed can be inconsistent. In addition, the laws of some foreign countries may not protect our intellectual property rights to the same extent as laws in the United States. Consequently, we may not be able to prevent third parties from practicing our inventions in all countries outside the United States. Competitors may use our technologies in jurisdictions where we have not obtained patent protection to develop their own products and, further, may export otherwise infringing products to territories in which we have patent protection that may not be sufficient to terminate infringing activities.

We do not have patent rights in certain foreign countries in which a market may exist. Moreover, in foreign jurisdictions where we do have patent rights, proceedings to enforce such rights could result in substantial costs and divert our efforts and attention from other aspects of our business, could put our patents at risk of being invalidated or interpreted narrowly, and could put our patent applications at risk of not issuing. Additionally, such proceedings could provoke third parties to assert claims against us. We may not prevail in any lawsuits that we initiate and the damages or other remedies awarded, if any, may not be commercially meaningful. Thus, we may not be able to stop a competitor from marketing and selling in foreign countries products that are the same as or similar to our products, and our competitive position in the international market would be harmed.

We may be subject to damages resulting from claims that we or our employees have wrongfully used or disclosed alleged trade secrets of our competitors or are in breach of non-competition or non-solicitation agreements with our competitors.

We could in the future be subject to claims that we or our employees have inadvertently or otherwise used or disclosed alleged trade secrets or other proprietary information of former employers or competitors. Although we have procedures in place that seek to prevent our employees from using the proprietary information, know-how, trade secrets and other intellectual property of others in their work for us, we may in the future be subject to claims that we caused an employee to breach the terms of his or her non-competition or non-solicitation agreement, or that we or these individuals have, inadvertently or otherwise, used or disclosed the alleged trade secrets or other proprietary information or other intellectual property of a former employer or competitor. Litigation may be necessary to defend against these claims. Even if we are successful in defending against these claims, litigation could result in substantial costs and could be a distraction to management. If our defense to those claims fails, in addition to paying monetary damages, a court could prohibit us from using technologies or features that are essential to our products, if such technologies or features are found to incorporate or be derived from the trade secrets, proprietary information or other intellectual property of the former employers. An inability to incorporate technologies or features that are important or essential to our products would have a material adverse effect on our business, and may prevent us from selling our products. In addition, we may lose valuable intellectual property rights or personnel. Moreover, any such litigation or the threat thereof may adversely affect our ability to hire employees or contract with independent sales representatives. A loss of key personnel or their work product could hamper or prevent our ability to commercialize our products. The occurrence of any of these events could have an adverse effect on our business, results of operations and financial condition.

 

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If our trademarks and trade names are not adequately protected, then we may not be able to build name recognition in our markets of interest and our business may be adversely affected.

Our registered or unregistered trademarks or trade names may be challenged, infringed, circumvented, declared generic or determined to be infringing on other marks or names. We may not be able to protect our rights in these trademarks and trade names, which we need in order to build name recognition with potential customers in our markets of interest. In addition, third parties have registered trademarks similar and identical to our trademarks in foreign jurisdictions, and may in the future file for registration of such trademarks. If they succeed in registering or developing common law rights in such trademarks, and if we were not successful in challenging such third-party rights, we may not be able to use these trademarks to market our products in those countries. In any case, if we are unable to establish name recognition based on our trademarks and trade names, then we may not be able to compete effectively and our business, results of operations and financial condition may be adversely affected.

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

In addition to patents and trademark protection, we rely on trade secrets, including unpatented know-how, technology and other proprietary information, to maintain our competitive position. We seek to protect our trade secrets, in part, by entering into non-disclosure and confidentiality agreement with parties who have access to them, such as our consultants and vendors or our former employees. We also enter into confidentiality and invention or patent assignment agreements with our employees and consultants. Despite these efforts, however, any of these parties may breach the agreements and disclose our trade secrets and other unpatented or unregistered proprietary information, and once disclosed, we are likely to lose trade secret protection. Monitoring unauthorized use and disclosures of our intellectual property is difficult, and we do not know whether the steps we have taken to protect our intellectual property will be effective. In addition, we may not be able to obtain adequate remedies for any such breach. Enforcing a claim that a party illegally disclosed or misappropriated a trade secret is difficult, expensive and time-consuming, and the outcome is unpredictable. In addition, some courts outside of the United States are less willing or unwilling to enforce trade secret protection.

Further, our competitors may independently develop knowledge, methods and know-how similar, equivalent or superior to our proprietary technology. Competitors could purchase our products and attempt to replicate some or all of the competitive advantages we derive from our development efforts, willfully infringe our intellectual property rights, design around our protected technology, or develop their own competitive products that fall outside of our intellectual property rights. In addition, our key employees, consultants, suppliers or other individuals with access to our proprietary technology and know-how may incorporate that technology and know-how into projects and inventions developed independently or with third parties. As a result, disputes may arise regarding the ownership of the proprietary rights to such technology or know-how, and any such dispute may not be resolved in our favor. In any of our trade secrets were to be lawfully obtained or independently developed by a competitor, we would have no right to prevent them, or those to whom they communicate it, from using the technology or information to compete with us and our competitive position could be adversely affected. If our intellectual property is not adequately protected so as to protect our market against competitors’ products and methods, our competitive position could be adversely effected, as could our business, results of operations and financial condition.

Intellectual property rights do not necessarily address all potential threats to our competitive advantage.

The degree of future protection afforded by our intellectual property rights is uncertain because intellectual property rights have limitations, and may not adequately protect our business, or permit us to maintain our competitive advantage. The following examples are illustrative:

 

    Others may be able to develop products that are similar to our products or product candidates but that are not covered by the claims of the patents that we own.

 

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    We might not have been the first to make the inventions covered by the issued patent or pending patent application that we own or have exclusively licensed.

 

    We might not have been the first to file patent applications covering certain of our inventions.

 

    Others may independently develop similar or alternative technologies or duplicate any of our technologies without infringing our intellectual property rights.

 

    It is possible that our pending patent applications will not lead to issued patents.

 

    Issued patents that we own may be held invalid or unenforceable, as a result of legal challenges by our competitors.

 

    We may not develop additional proprietary technologies that are patentable.

 

    The patents of others may have an adverse effect on our business.

Should any of these events occur, they could significantly harm our business, results of operations and financial condition.

Risks related to regulation of our industry

Our products are subject to extensive governmental regulation, and our failure or our suppliers’ failure to comply with applicable requirements could cause our business to suffer.

The medical device industry is regulated extensively by governmental authorities, principally FDA and corresponding state and foreign regulatory agencies and authorities, such as the EU legislative bodies and the EEA Member State Competent Authorities. FDA and other U.S., EEA and foreign governmental agencies and authorities regulate and oversee, among other things, with respect to medical devices:

 

    design, development and manufacturing;

 

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

 

    clinical trials;

 

    product safety and effectiveness;

 

    marketing, sales and distribution;

 

    pre-market regulatory clearance and approval;

 

    conformity assessment procedures;

 

    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 cause or contribute to death or serious injury;

 

    post-market studies; and

 

    product import and export.

The laws and regulations to which we and our suppliers are subject are complex and have tended to become more stringent over time. Legislative or regulatory changes could result in restrictions on our ability to carry on or expand our operations, difficulties in developing or commercializing new products, higher than anticipated costs or lower than anticipated sales.

 

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Our failure or our suppliers’ failure to comply with U.S. federal and state regulations or EEA or other foreign regulations applicable in the countries where we operate could lead to the issuance of warning letters or untitled letters, the imposition of injunctions, suspensions or loss of regulatory clearance or approvals, product recalls, termination of distribution, product seizures or civil penalties. In the most extreme cases, criminal sanctions or closure of our manufacturing facilities may occur. If any of these risks materialize, our business, results of operations and financial condition would be adversely affected.

Our products are also subject to extensive governmental regulation in foreign jurisdictions, such as Europe, and our failure to comply with applicable requirements could cause our business, results of operations and financial condition to suffer.

In the EEA, our Fuse® system and our other products must comply with the Essential Requirements laid down in Annex I to the EU Active Implantable Medical Devices Directive. Compliance with these requirements is a prerequisite to be able to affix the CE mark to a product, without which a product cannot be marketed or sold in the EEA. To demonstrate compliance with the Essential Requirements and obtain the right to affix the CE Mark to our products, 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, a conformity assessment procedure requires the intervention of a Notified Body, which is an organization designated by a competent authority of an EEA country to conduct conformity assessments. Depending on the relevant conformity assessment procedure, the Notified Body would audit and examine the Technical File and the quality system for the manufacture, design and final inspection of our products. The Notified Body issues a CE Certificate of Conformity following successful completion of a conformity assessment procedure conducted in relation 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 products after having prepared and signed a related EC Declaration of Conformity.

As a general rule, demonstration of conformity of medical products 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 and 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. This assessment must be based on clinical data, which can be obtained from (1) clinical studies conducted on the devices being assessed, (2) scientific literature from similar devices whose equivalence with the assessed device can be demonstrated or (3) both clinical studies and scientific literature. The conduct of clinical studies in the EEA is governed by detailed regulatory obligations. These may include the requirement of prior authorization by the competent authorities of the country in which the study takes place and the requirement to obtain a positive opinion from a competent Ethics Committee. This process can be expensive and time-consuming.

In order to continue to sell our Fuse® system and our other products in Europe, we must maintain our CE Mark and continue to comply with certain EU Directives. Our failure to continue to comply with applicable foreign regulatory requirements, including those administered by authorities of the EEA countries, could result in enforcement actions against us, including refusal, suspension or withdrawal of our CE Certificates of Conformity by our Notified Body (either the British Standards Institution, or BSI, or MEDCERT (in the case of our Fuse® system)), which could impair our ability to market products in the EEA in the future.

 

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If we materially modify our approved products, we may be required to seek and obtain new approvals or clearances, which, if not granted, would prevent us from selling our modified products.

A component of our strategy is to continually modify and upgrade our products. Medical devices can be marketed only for the indications for which they are cleared or approved. We may be unable to obtain additional regulatory clearances or approvals for modifications to, or additional indications for, our existing products in a timely fashion, or at all. Delays in obtaining future clearances or approvals would adversely affect our ability to introduce enhanced products in a timely manner, which in turn would harm our business, results of operations and financial condition.

Our Fuse® system and our other products may in the future be subject to recalls or market withdrawals that could harm our business, results of operations and financial condition.

FDA, EEA Competent Authorities and similar foreign governmental authorities have the authority to require the recall of commercialized products in the event of material deficiencies or defects in design or manufacture that could affect patient safety. In the case of FDA, the authority to require a recall must be based on an FDA finding that there is a reasonable probability that the device would cause serious adverse health consequences or death. We may, under our own initiative, recall a product if a deficiency in our products is found. FDA requires that recalls be reported to FDA within 10 working days after the recall is initiated if the recall was initiated to reduce a risk to health posed by the device or to remedy a violation of the Federal Food, Drug, and Cosmetic Act that may present a risk to health. A government-mandated or voluntary recall by us or one of our international distributors could occur as a result of an unacceptable risk to health, component failures, malfunctions, manufacturing errors, design or labeling defects or other deficiencies and issues (including inadequate sterilization by users leading to infection). Recalls, which could include certain notifications and other corrections as well as removals, of our Fuse® system or our other products, could divert managerial and financial resources and could have an adverse effect on our financial condition, harm our reputation with customers, and reduce our ability to achieve expected revenue.

We may also be subject to liability claims, be required to bear other costs, or be required to take other actions that may have a negative impact on our future sales and our ability to generate profits. Companies are required to maintain certain records of recalls, even if they are not reportable to FDA. We may initiate voluntary recalls involving our products in the future that we determine do not require notification of FDA. If FDA disagrees with our determinations, it could require us to report those actions as recalls. A future recall announcement could harm our reputation with customers and negatively affect our sales. FDA could take enforcement action for failing to report the recalls when they were conducted.

In addition, the manufacturing of our products is subject to extensive post-market regulation by FDA and foreign regulatory authorities, and any failure by us or our suppliers to comply with regulatory requirements could result in recalls, facility closures, and other penalties. We and our suppliers and contract manufacturers are subject to FDA’s Quality System Regulation, or QSR, and comparable foreign regulations which govern the methods used in, and the facilities and controls used for, the design, manufacture, quality assurance, labeling, packaging, sterilization, storage, shipping, installation and servicing of medical devices. These regulations are enforced through periodic inspections of manufacturing facilities. Failure to comply with regulatory requirements at our or our suppliers’ or contract manufacturers’ facilities may result in warning or untitled letters, manufacturing restrictions, voluntary or mandatory recalls, fines, withdrawals of regulatory clearances or approvals, product seizures, injunctions, or the imposition of civil or criminal penalties, which would adversely affect our business, results of operations and financial condition.

 

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We are required to report certain malfunctions, deaths and serious injuries associated with our products, which can result in voluntary corrective actions or agency enforcement actions.

Under FDA medical device reporting, or MDR, regulations, medical device manufacturers are required to submit information to FDA when they become aware of information that reasonably suggests a device may have caused or contributed to a death or serious injury or has malfunctioned, and, upon recurrence, the malfunction would likely cause or contribute to death or serious injury. If we determine that an MDR report is not required to be submitted for an event, and FDA disagrees with that determination, it could take enforcement action against us for failing to report the event. All manufacturers marketing medical devices in the EEA are legally bound to report incidents involving devices they produce or sell to the regulatory agency, or competent authority, in whose jurisdiction the incident occurred. Under the EU Medical Devices Directive (Directive 93/42/EEC), an incident is defined as any malfunction or deterioration in the characteristics and/or performance of a device, as well as any inadequacy in the labeling or the instructions for use which, directly or indirectly, might lead to or might have led to the death of a patient, or user or of other persons or to a serious deterioration in their state of health.

Malfunction or misuse of our products could result in future voluntary corrective actions, such as recalls, including corrections (e.g., customer notifications), or agency action, such as inspection or enforcement actions. If malfunctions or misuse do occur, we may be unable to correct the malfunctions adequately or prevent further malfunctions or misuse, in which case we may need to cease manufacture and distribution of the affected products, initiate voluntary recalls, and redesign the products or the instructions for use for those products. Regulatory authorities may also take actions against us, such as ordering recalls, imposing fines, or seizing the affected products. Any corrective action, whether voluntary or involuntary, will require the dedication of our time and capital, may distract management from operating our business, and may harm our business, results of operations and financial condition.

The off-label promotion of our products could result in costly investigations and sanctions from FDA and other regulatory bodies.

Our products have been cleared by FDA, CE Marked in the EEA and approved by the TGA in Australia for specific indications. We may only promote or market our products for their specifically cleared or approved indications. We train our marketing and sales force against promoting our products for uses outside of the cleared or approved indications for use, known as “off-label uses.”

If FDA determines that our promotional materials or training constitute promotion of unsupported claims or 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 of an untitled letter, 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 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/or administrative penalties, damages, fines, disgorgement, exclusion from participation in government healthcare programs, and the curtailment of our operations. Any of these events could significantly harm our business, results of operations and financial condition.

Further, the advertising and promotion of our products is subject to EEA Member States laws implementing Directive 93/42/EEC concerning Medical Devices, or the EU Medical Devices Directive, Directive 2006/114/EC concerning misleading and comparative advertising, and Directive 2005/29/EC on unfair commercial practices, as well as other EEA Member State legislation governing the advertising and promotion of medical devices. EEA Member State legislation may also restrict or impose limitations on our ability to advertise our products directly to the general public. In addition, voluntary EU and national Codes of Conduct provide guidelines on the advertising and promotion of our products to the general public and may impose limitations on our promotional activities with healthcare professionals harming our business, results of operations and financial condition.

 

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We may be subject to federal, state and foreign healthcare laws and regulations, and a finding of failure to comply with such laws and regulations could have a material adverse effect on our business, results of operations and financial condition.

We are subject to healthcare fraud and abuse and other regulation and enforcement by federal, state and foreign governments, which could significantly impact our business, results of operations and financial condition. In the United States, the laws that may affect our ability to operate include, but are not limited to:

 

    the federal Anti-Kickback Statute, which prohibits, among other things, persons and entities from knowingly and willfully soliciting, receiving, offering, or paying remuneration, directly or indirectly, in cash or in kind, in exchange for or to induce either the referral of an individual for, or the purchase, lease, order or recommendation of, any good, facility, item 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 is not required to have actual knowledge of this statute or specific intent to violate it. Further, courts have held that the Anti-Kickback Statute may be violated if even one purpose of the payment or offer of remuneration is to make an improper inducement, even if the primary purpose or purposes of the arrangement are legitimate. The Anti-Kickback Statute is a criminal statute and violations can result in imprisonment and/or exclusions from participation in federal healthcare programs, as well as monetary penalties and fines. Further, the ACA amends the intent requirements of the federal Anti-Kickback Statute and certain criminal statutes governing healthcare fraud. Under the revised statutes, person or entity can now be found guilty of violating the statute without actual knowledge of the statute or specific intent to violate it. In addition, the ACA provides that 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 federal False Claims Act;

 

    federal civil and criminal false claims laws and civil monetary penalty laws, including civil whistleblower or qui tam actions, that prohibit, among other things, knowingly presenting, or causing to be presented, claims for payment or approval to the federal government that are false or fraudulent, knowingly making a false statement material to an obligation to pay or transmit money or property to the federal government or knowingly concealing or knowingly and improperly avoiding or decreasing an obligation to pay or transmit money or property to the federal government. The Civil False Claims Act includes whistleblower provisions that allow independent parties to raise allegations of false claims on behalf of the federal government. Whistleblowers who bring successful claims are eligible to receive up to twenty-five percent of the government’s recovery in the matter. There has been a substantial increase in recent years of the number of whistleblower actions being brought within the life sciences and healthcare industries;

 

    the federal Health Insurance Portability and Accountability Act of 1996, or HIPAA, which created federal criminal laws that prohibit executing a scheme to defraud any healthcare benefit program or making false statements relating to healthcare matters. A person or entity does not need actual knowledge of these statutes or specific intent to violate them;

 

    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;

 

   

the federal physician sunshine requirements under the ACA, which require 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 physicians and teaching hospitals, and ownership and investment interests held by physicians and their immediate

 

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family members. The period between August 1, 2013 and December 31, 2013 was the first reporting period, and manufacturers were required to report aggregate payment data by March 31, 2014, and to report detailed payment data and submit legal attestation to the accuracy of such data by June 30, 2014. Thereafter, manufacturers must submit reports by the 90th day of each subsequent calendar year;

 

    the federal physician self-referral prohibitions, commonly known as the Stark Law, which prohibits, among other things, physicians who have a financial relationship, including an investment, ownership or compensation relationship with an entity, from referring Medicare patients for designated health services, which include clinical pathology services, unless an exception applies. Similarly, entities may not bill Medicare or any other party for services furnished pursuant to a prohibited referral. Many states have their own self-referral laws as well, which in some cases apply to all third-party payers, not just Medicare and Medicaid;

 

    the Federal Trade Commission Act and similar laws regulating advertisement and consumer protections; and

 

    state and foreign law equivalents of each of the above federal laws, such as state anti-kickback and false claims laws that may apply to items or services reimbursed by any third-party payor, including commercial insurers; state laws that require device companies to comply with the industry’s voluntary compliance guidelines and the relevant 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; and state and foreign laws governing the privacy and security of health information in certain circumstances, many of which differ from each other in significant ways and often are not preempted by HIPAA.

Moreover, while we do not submit claims and our GI department customers make the ultimate decision on how to submit claims, except with respect to our pathology services, we may from time-to-time provide reimbursement guidance to our GI department customers. If a government authority were to conclude that we provided improper advice to our GI department customers or encouraged the submission of false claims for reimbursement, we could face action against us by government authorities. Any violations of these laws, or any action against us for violation of these laws, even if we successfully defend against it, could result in a material adverse effect on our reputation, business, results of operations and financial condition.

The scope and enforcement of each of these laws is uncertain and subject to rapid change in the current environment of healthcare reform, especially in light of the lack of applicable precedent and regulations. Federal and state 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 may be required to agree to additional onerous compliance and reporting requirements as part of a consent decree or corporate integrity agreement. Any such investigation or settlement could increase our costs or otherwise have an adverse effect on our business, results of operations and financial condition.

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 now or in the future, we may be subject to penalties, including civil and criminal penalties, damages, fines, disgorgement, exclusion from governmental health care programs, and the curtailment or restructuring of our operations, any of which could adversely affect our business, results of operations and financial condition.

 

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Compliance with the HIPAA security regulations and privacy regulations may increase our costs.

We maintain protected health information of patients through our clinical pathology services and potentially through the use of our Fuse® system. The HIPAA privacy and security regulations, including the expanded requirements under HITECH, establish comprehensive federal standards with respect to the use and disclosure of protected health information by health plans, healthcare providers and healthcare clearinghouses, in addition to setting standards to protect the confidentiality, integrity and security of protected health information. The regulations establish a complex regulatory framework on a variety of subjects, including:

 

    the circumstances under which the use and disclosure of protected health information are permitted or required without a specific authorization by the patient, including but not limited to treatment purposes, activities to obtain payments for our services;

 

    a patient’s rights to access, amend and receive an accounting of certain disclosures of protected health information as well as a new right of access to laboratory test reports under the HIPAA Privacy Rule which preempts a number of state laws that prohibit a laboratory from releasing a test report directly to the individual, for which compliance was required by October 4, 2014;

 

    the content of notices of privacy practices for protected health information;

 

    administrative, technical and physical safeguards required of entities that use or receive protected health information; and

 

    the protection of computing systems maintaining electronic protected health information, or ePHI.

We have implemented policies and procedures related to compliance with the HIPAA privacy and security regulations, as required by law. The privacy and security regulations establish a “floor” and do not supersede state laws that are more stringent. Therefore, we are required to comply with both federal privacy and security regulations and varying state privacy and security laws. In addition, for healthcare data transfers from other countries relating to citizens of those countries, we must comply with the laws of those other countries. The federal privacy regulations restrict our ability to use or disclose patient identifiable laboratory data, without patient authorization, for purposes other than payment, treatment or healthcare operations (as defined by HIPAA), except for disclosures for various public policy purposes and other permitted purposes outlined in the privacy regulations. HIPAA, as amended by HITECH, provides for significant fines and other penalties for wrongful use or disclosure of protected health information in violation of the privacy and security regulations, including potential civil and criminal fines and penalties. Due to the enactment of HITECH, it is not possible to predict the impact on our business; however, if we do not comply with existing or new laws and regulations related to protecting the privacy and security of health information we could be subject to monetary fines, civil penalties or criminal sanctions. In addition, other federal and state laws that protect the privacy and security of patient information may be subject to enforcement and interpretations by various governmental authorities and courts resulting in complex compliance issues. For example, we could incur damages under state laws pursuant to an action brought by a private party for the wrongful use or disclosure of confidential health information or other private personal information.

Legislative or regulatory healthcare reform measures may have a material adverse effect on business, results of operations and financial condition.

FDA regulations and guidance are often revised or reinterpreted by FDA and such actions may significantly affect our business and our products. Any new regulations or revisions or reinterpretations of existing regulations may impose additional costs or lengthen review times for our product candidates. Delays in receipt of, or failure to receive, regulatory approvals for our product candidates would have a material adverse effect on our business, results of operations and financial condition.

 

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In March 2010, the ACA was signed into law, which includes a deductible 2.3% excise tax on any entity that manufactures or imports medical devices offered for sale in the United States, with limited exceptions, effective January 1, 2013. This excise tax is resulting in a significant increase in the tax burden on our industry, and if any efforts we undertake to offset the excise tax are unsuccessful as we begin to sell the product in the United States, the increased tax burden could have an adverse effect on our results of operations and cash flows. Other elements of the ACA, including comparative effectiveness research, an independent payment advisory board and payment system reforms, including shared savings pilots and other provisions, may significantly affect the payment for, and the availability of, healthcare services and result in fundamental changes to federal healthcare reimbursement programs, any of which may materially affect numerous aspects of our business, results of operations and financial condition.

In addition, other legislative changes have been proposed and adopted in the United States since the ACA was enacted. On August 2, 2011, the Budget Control Act of 2011 created measures for spending reductions by Congress. A Joint Select Committee on Deficit Reduction, tasked with recommending a targeted deficit reduction of at least $1.2 trillion for the years 2013 through 2021, was unable to reach required goals, thereby triggering the legislation’s automatic reduction to several government programs. This includes aggregate reductions of Medicare payments to providers up to 2% per fiscal year, which went into effect on April 1, 2013, and will remain in effect through 2024 unless additional Congressional action is taken. On January 2, 2013, the American Taxpayer Relief Act of 2012, or the ATRA, was signed into law which further reduced Medicare payments to certain providers, including hospitals.

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 and services or additional pricing pressures.

Failure to comply with the United States Foreign Corrupt Practices Act, or the FCPA, and similar laws associated with any activities outside the United States could subject us to penalties and other adverse consequences.

We are subject to the FCPA and other anti-bribery legislation around the world. 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 control 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. We may 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 for the purpose of obtaining or retaining business or other advantages. In many foreign countries, particularly in countries with developing economies, some of which represent significant potential markets for us, 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, consultants and distributors to comply with the FCPA and similar laws, such policy may not be effective at preventing all potential FCPA or other violations. There can be no assurance that our employees, agents or distributors will not take actions that violate our policies or applicable laws, for which we may be ultimately held responsible. 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. Any violation of the FCPA and related policies could result in severe criminal or civil sanctions, which could have a material and adverse effect on our reputation, business, results of operations and financial condition.

 

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Our pathology business could be harmed from the loss or suspension of a license or imposition of a fine or penalties under applicable laws and regulations.

The clinical laboratory testing industry is subject to extensive regulation, and many of these statutes and regulations have not been interpreted by the courts. The Clinical Laboratory Improvement Act, or CLIA, extends federal oversight to virtually all clinical laboratories by requiring that they be certified by the federal government or by a federally-approved accreditation agency. The sanction for failure to comply with CLIA requirements may be suspension, revocation or limitation of a laboratory’s CLIA certificate, which is necessary to conduct business, as well as significant fines and/or criminal penalties. In addition, our pathology laboratories are subject to regulation under state law. State laws may require that laboratories and/or laboratory personnel meet certain qualifications, specify certain quality controls or require maintenance of certain records.

Applicable statutes and regulations could be interpreted or applied by a prosecutorial, regulatory or judicial authority in a manner that would adversely affect our business. Potential sanctions for violation of these statutes and regulations include significant fines and the suspension or loss of various licenses, certificates and authorizations, or product suspensions or recalls which could have a material adverse effect on our business. In addition, compliance with future legislation could impose additional requirements on us, which may be costly.

Failure to comply with environmental, health and safety laws and regulations, including the federal Occupational Safety and Health Administration Act and the Needlestick Safety and Prevention Act, could result in fines and penalties and loss of licensure, and have a material adverse effect upon our business, results of operations and financial condition.

We are subject to licensing and regulation under federal, state, local and foreign laws and regulations relating to the protection of the environment and human health and safety, including laws and regulations relating to the handling, transportation and disposal of medical specimens, infectious waste and hazardous waste and materials, as well as regulations relating to the safety and health of laboratory employees. Our GI pathology laboratory is subject to applicable federal and state laws and regulations relating to biohazard disposal of all laboratory specimens. In addition, the federal Occupational Safety and Health Administration has established extensive requirements relating to workplace safety for health care employers, including clinical laboratories, whose workers may be exposed to blood-borne pathogens such as HIV and the hepatitis B virus. These requirements, among other things, require work practice controls, protective clothing and equipment, training, medical follow-up, vaccinations and other measures designed to minimize exposure to, and transmission of, blood-borne pathogens. In addition, the Needlestick Safety and Prevention Act requires that we include in our safety programs the evaluation and use of engineering controls such as safety needles if found to be effective at reducing the risk of needlestick injuries in the workplace.

Failure to comply with federal, state, local and foreign laws and regulations could subject us to denial of the right to conduct business, fines, criminal penalties and/or other enforcement actions which would have a material adverse effect on our business, results of operations and financial condition. In addition, compliance with future legislation could impose additional requirements on us which may be costly.

New regulations related to “conflict minerals” may force us to incur additional expenses, may make our supply chain more complex and may result in damage to our reputation with customers.

The Dodd-Frank Act required the SEC to establish new disclosure and reporting requirements for those companies that use certain minerals and metals mined in the Democratic Republic of Congo and adjoining countries, known as conflict minerals, in their products whether or not these products or the components containing such conflict minerals are manufactured by third parties. The new rule may affect sourcing at competitive prices and availability in sufficient quantities of certain minerals used in the manufacture of our products. The number of suppliers who provide conflict-free minerals may be limited. In addition, there may be material costs associated with complying with the disclosure requirements, such as costs related to determining

 

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the source of certain minerals used in our products, as well as costs of possible changes to products, processes or sources of supply as a consequence of such verification activities. Since our supply chain is complex, we may not be able to verify the origins for these minerals used in our products sufficiently through the due diligence procedures that we implement, which may prevent us from certifying our products as conflict-free, harming our reputation. In addition, we may encounter challenges to satisfy those customers who require that all of the components of our products be certified as conflict-free, which could place us at a competitive disadvantage if we are unable to do so.

Risks related to our financial position and capital requirements

We may require additional funding.

We believe that the anticipated net proceeds from this offering, our existing cash and our borrowing availability, will be sufficient to fund our operations through the end of 2016. We have based this estimate, however, on assumptions that may prove to be wrong, and we could spend our available financial resources much faster than we currently expect. Further, we may need to raise additional capital following this offering to fund our operating deficits and working capital needs, to pay down debt or to fund acquisitions.

The amount and timing of our future funding requirements will depend on many factors, including, but not limited to:

 

    the timing and amount of revenue from sales of our products and services, including our Fuse® system;

 

    the amount we invest to commercialize our Fuse® system;

 

    the timing, rate of progress and other product development activities for our products;

 

    costs associated with expanding our sales force and marketing programs to support increased sales of our products;

 

    the amount we invest to expand our manufacturing capabilities;

 

    whether, and for what amount, we acquire other businesses, products and services;

 

    our ability to acquire or in-license products and product candidates, technologies or businesses;

 

    costs of filing, prosecuting, defending and enforcing any patent claims and other intellectual property rights associated with our products and product candidates;

 

    costs associated with prosecuting or defending any litigation that we are or may become involved in, and any damages payable by us that result from such litigation;

 

    costs of operating as a public company;

 

    the effect of competing technological and market developments;

 

    costs of complying with existing or future regulations;

 

    additional personnel, facility and equipment requirements; and

 

    the terms and timing of any additional collaborative, licensing, co-promotion or other arrangements that we may establish.

We may also need to raise additional funds to finance future cash needs through public or private equity offerings, debt financings, receivables or royalty financings or corporate collaboration and licensing arrangements. We cannot be certain that additional funding will be available on acceptable terms, or at all. To the extent that we raise additional capital by issuing equity securities or convertible debt, your ownership will be diluted. We may raise additional capital in the future, even if not necessary, based on market conditions.

 

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If we are unable to raise additional capital when required or on acceptable terms, we may not be able to expand our research and development, manufacturing operations and sales and marketing efforts and we may be required to significantly delay, scale back or discontinue aspects of our business plan. We also may be required to relinquish, license or otherwise dispose of rights to products or product candidates that we would otherwise seek to commercialize or develop ourselves on terms that are less favorable than might otherwise be available. In addition, our ability to achieve profitability or to respond to competitive pressures would be significantly limited.

Our level of indebtedness could adversely affect our ability to raise additional capital to fund our operations, limit our ability to react to changes in the economy or our industry and prevent us from meeting our obligations.

As of March 31, 2015, the amount of our total indebtedness, including accrued interest and end of term fees, was approximately $40.1 million, net of discount, representing amounts borrowed under our Growth Capital Facility.

Our outstanding debt and related debt service obligations could have important adverse consequences to us, including:

 

    heightening our vulnerability to downturns in our business or our industry or the general economy and restricting us from making acquisitions, or exploring business opportunities;

 

    requiring a significant portion of our available cash to be dedicated to the payment of principal and interest on our indebtedness, therefore reducing our ability to use our available cash to fund our operations, capital expenditures and future business opportunities;

 

    limiting our ability to adjust to changing market conditions and placing us at a competitive disadvantage compared to our competitors who have greater capital resources; and

 

    subjecting us to financial and other restrictive covenants in our debt instruments, the failure with which to comply could result in an event of default under the applicable debt instrument that allows the lender to demand immediate repayment of the related debt.

If our cash flows and capital resources are insufficient to fund our debt service obligations, we may be forced to reduce or delay product development, sales and marketing, capital and other expenditures, sell assets, seek additional capital or restructure or refinance our indebtedness. These alternative measures may not be successful and may not permit us to meet our scheduled debt service obligations.

The Growth Capital Facility contains negative covenants restricting, among other things, indebtedness, investments, liens, dispositions of assets, restricted payments, mergers and acquisitions, and transactions with affiliates. As of March 31, 2015 we were in compliance with all of the covenants in the Growth Capital Facility. The Growth Capital Facility also contains financial reporting requirements. We intend to seek a waiver or amendment with respect to changes to our organizational documents in connection with this offering.

Our Senior Secured Credit Facility contains negative covenants restricting, among other things, dispositions of assets, changes in business, management, ownership, or business locations, mergers or acquisitions, indebtedness, encumbrances, maintenance of collateral accounts, distributions and investments, and transactions with affiliates. The facility also includes financial covenants requiring a minimum level of liquidity and revenue, measured on a quarterly basis. We failed to comply with certain financial covenants in our Senior Secured Credit Facility for each of the three months ended December 31, 2013, June 30, 2014 and September 30, 2014. In each instance, the lender waived compliance with the covenants and as of March 31, 2015, we were in compliance with all covenants in the Senior Secured Credit Facility. The Senior Secured Credit Facility, as amended, provides for $10.0 million of borrowing availability and bears interest at prime plus 1.50%-2.50%. No amounts were outstanding under the facility as of March 31, 2015.

 

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A significant increase in our days sales outstanding could increase bad debt expense and have an adverse effect on our business including its cash flow.

Billing for clinical pathology services is a complex process. We bill many different payers including doctors, patients, insurance companies, Medicare, Medicaid and employer groups, all of which have different billing requirements. In addition to billing complexities, we are experiencing increasing patient responsibility as a result of managed care fee-for-service plans which continue to increase patient copayments, coinsurance and deductibles. A material increase in our days sales outstanding level resulting in an increase in our bad debt expense could have an adverse effect on our business, results of operations and financial condition, including cash flows.

Our results of operations and liquidity needs could be materially negatively affected by market fluctuations and economic downturn.

Our results of operations and liquidity could be materially negatively affected by economic conditions generally, both in the United States and elsewhere around the world. Domestic and international equity and debt markets have experienced and may continue to experience heightened volatility and turmoil based on domestic and international economic conditions and concerns. In the event these economic conditions and concerns continue or worsen and the markets continue to remain volatile, our results of operations and liquidity could be adversely affected by those factors in many ways, including making it more difficult for us to raise funds if necessary, and our stock price may decline. If economic instability continues, we cannot provide assurance that you will not experience losses on your investments.

Risks related to this offering and ownership of our common stock

Our stock price will likely be volatile and your investment could decline in value.

The market price of our common stock following this offering may fluctuate substantially as a result of many factors, some of which are beyond our control. These fluctuations could cause you to lose all or part of the value of your investment in our common stock. Factors that could cause fluctuations in the market price of our common stock include the following:

 

    the success of, and fluctuation in, the sales of our products;

 

    the development status of our product candidates and when our products receive regulatory approval;

 

    our execution of our sales and marketing, manufacturing and other aspects of our business plan;

 

    performance of third parties on whom we rely to manufacture our products, product components and product candidates, including their ability to comply with regulatory requirements;

 

    the results of our preclinical studies and clinical trials;

 

    results of operations that vary from those of our competitors and the expectations of securities analysts and investors;

 

    changes in expectations as to our future financial performance, including financial estimates by securities analysts and investors;

 

    our announcement of significant contracts, acquisitions, or capital commitments;

 

    announcements by our competitors of competing products or other initiatives;

 

    announcements by third parties of significant claims or proceedings against us;

 

    regulatory and reimbursement developments in the United States and abroad;

 

    future sales of our common stock;

 

    additions or departures of key personnel; and

 

    general domestic and international economic conditions unrelated to our performance.

 

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In addition, the stock market in general has experienced significant price and volume fluctuations that have often been unrelated or disproportionate to operating performance of individual companies. These broad market factors may adversely affect the market price of our common stock, regardless of our operating performance. In the past, following periods of volatility in the market price of a company’s securities, securities class action litigation has often been instituted. A securities class action suit against us could result in significant liabilities and, regardless of the outcome, could result in substantial costs and the diversion of our management’s attention and resources.

Our common stock has no prior market and our stock price may decline after the offering.

Before this offering, there has been no public market for shares of our common stock. Although we intend to apply to have our common stock listed on the             , an active trading market for our common stock may not develop or, if it develops, may not be sustained after this offering. Our company and the representatives of the underwriters will negotiate to determine the initial public offering price. The initial public offering price may be higher than the market price of our common stock after the offering and you may not be able to sell your shares of our common stock at or above the price you paid in the offering. As a result, you could lose all or part of your investment.

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. We do not currently have and may never obtain research coverage by securities and industry analysts. If no securities or industry analysts commence coverage of our company, the trading price for our stock would be negatively impacted. If we obtain securities or industry analyst coverage and if one or more of the analysts who covers us downgrades our stock or publishes inaccurate or unfavorable research about our business, our stock price would likely decline. If one or more of these analysts ceases coverage of us or fails to publish reports on us regularly, demand for our stock could decrease, which could cause our stock price and trading volume to decline.

Our principal stockholders will have a controlling influence over our business affairs and may make business decisions with which you disagree and which may adversely affect the value of your investment.

After this offering, it is anticipated that our principal stockholders, which consist of entities affiliated with Sequoia Capital, River Cities Capital Funds, Council Capital, Envest, U.M. Accelmed and Avi Levy, and certain of their affiliates, will beneficially own or control, directly or indirectly,             shares of our common stock, which in the aggregate will represent approximately     % of the outstanding shares of our common stock, or     % if the underwriters’ option to purchase additional shares is exercised in full. The percentages of beneficial ownership assume that the corporate conversion had occurred on March 31, 2015, 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). As a result, if some of these persons or entities act together, they will have the ability to exercise significant influence over matters submitted to our stockholders for approval, including the election and removal of directors, amendments to our certificate of incorporation and bylaws and the approval of any business combination. These actions may be taken even if they are opposed by other stockholders. This concentration of ownership may also have the effect of delaying or preventing a change of control of our company or discouraging others from making tender offers for our shares, which could prevent our stockholders from receiving a premium for their shares. Some of these persons or entities who make up our principal stockholders may have interests different from yours.

See “Principal stockholders” below for more information regarding the ownership of our outstanding common stock by our principal stockholders.

 

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Investors purchasing common stock in this offering will experience immediate and substantial dilution.

The assumed initial public offering price of shares of our common stock is substantially higher than the pro forma net tangible book deficit per outstanding share of our common stock. You will incur immediate and substantial dilution of $         per share in the pro forma net tangible book deficit of shares of our common stock, based on an assumed initial public offering price of $         per share, which is the midpoint of the price range set forth on the cover page of this prospectus. In addition, we have outstanding options and warrants with exercise prices significantly below the initial public offering price. To the extent outstanding options are ultimately exercised, there will be further dilution of the common stock sold in this offering.

Future sales, or the perception of future sales, of a substantial amount of our common shares could depress the trading price of our common stock.

If we or our stockholders sell substantial amounts of our shares of common stock in the public market following this offering or if the market perceives that these sales could occur, the market price of shares of our common stock could decline. These sales may make it more difficult for us to sell equity or equity-related securities in the future at a time and price that we deem appropriate, or to use equity as consideration for future acquisitions.

Upon completion of this offering, we will have             shares of common stock authorized and             shares of common stock outstanding. Of these shares, the             shares to be sold in this offering will be freely tradable. We, our executive officers and directors, and other holders of our capital stock collectively representing approximately         % of our outstanding capital stock prior to this offering have entered into agreements with the underwriters not to sell or otherwise dispose of shares of our common stock for a period of at least 180 days following completion of this offering, with certain exceptions. Immediately upon the expiration of this lock-up period,             shares will be freely tradable pursuant to Rule 144 under the Securities Act of 1933, as amended, or the Securities Act, by non-affiliates and another             shares will be eligible for resale pursuant to Rule 144 under the Securities Act, subject to the volume, manner of sale, holding period and other limitations of Rule 144.

The JOBS Act will allow us to postpone the date by which we must comply with certain laws and regulations intended to protect investors and to reduce the amount of information we provide in our reports filed with the SEC. We cannot be certain if this reduced disclosure will make our common stock less attractive to investors.

The JOBS Act is intended to reduce the regulatory burden on “emerging growth companies.” As defined in the JOBS Act, a public company whose initial public offering of common equity securities occurred after December 8, 2011 and whose annual gross revenues are less than $1.0 billion will, in general, qualify as an “emerging growth company” until the earliest of:

 

    the last day of its fiscal year following the fifth anniversary of the date of its initial public offering of common equity securities;

 

    the last day of its fiscal year in which it has annual gross revenue of $1.0 billion or more;

 

    the date on which it has, during the previous three-year period, issued more than $1.0 billion in non-convertible debt; and

 

    the date on which it is deemed to be a “large accelerated filer,” which will occur at such time as the company (1) has an aggregate worldwide market value of common equity securities held by non-affiliates of $700.0 million or more as of the last business day of its most recently completed second fiscal quarter, (2) has been required to file annual and quarterly reports under the Exchange Act for a period of at least 12 months and (3) has filed at least one annual report pursuant to the Exchange Act.

 

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Under this definition, we will be an “emerging growth company” upon completion of this offering and could remain an “emerging growth company” until as late as December 31, 2020. For so long as we are an “emerging growth company,” we will, among other things:

 

    not be required to comply with the auditor attestation requirements of section 404(b) of Sarbanes-Oxley;

 

    not be required to hold a nonbinding advisory stockholder vote on executive compensation pursuant to Section 14A(a) of the Exchange Act;

 

    not be required to seek stockholder approval of any golden parachute payments not previously approved pursuant to Section 14A(b) of the Exchange Act;

 

    be exempt from any rule adopted by the Public Company Accounting Oversight Board, requiring mandatory audit firm rotation or a supplemental auditor discussion and analysis; and

 

    be subject to reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements.

In addition, Section 107 of the JOBS Act provides that an emerging growth company can use the extended transition period provided in Section 7(a)(2)(B) of the Securities Act for complying with new or revised accounting standards. This permits an emerging growth company to delay the adoption of certain accounting standards until those standards would otherwise apply to private companies. We have irrevocably elected not to avail ourselves of this extended transition period and, as a result, we will adopt new or revised accounting standards on the relevant dates on which adoption of such standards is required for other 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.

Furthermore, if we take advantage of some or all of the reduced disclosure requirements above, we cannot predict if investors will find our common stock less attractive. 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.

As a public reporting company, we will be subject to rules and regulations established from time to time by the SEC and the Public Company Accounting Oversight Board, or PCAOB, regarding our internal control over financial reporting. We may not complete needed improvements to our internal control over financial reporting in a timely manner, or these internal controls may not be determined to be effective, which may adversely affect investor confidence in our company and, as a result, the market price of our common stock and your investment.

Upon completion of this offering, we will become a public reporting company subject to the rules and regulations established from time to time by the SEC and the PCAOB. These rules and regulations will require, among other things, that we establish and periodically evaluate procedures with respect to our internal control over financial reporting. Reporting obligations as a public company are likely to place a considerable strain on our financial and management systems, processes and controls, as well as on our personnel.

In addition, as a public company we will be required to document and test our internal control over financial reporting pursuant to Section 404 of the Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, so that our management can certify as to the effectiveness of our internal control over financial reporting by the time our annual report for the year ending December 31, 2016 is due and thereafter, which will require us to document and make significant changes to our internal control over financial reporting. Likewise, our independent registered public accounting firm will be required to provide an attestation report on the effectiveness of our internal control over financial reporting at such time as we cease to be an “emerging growth company,” as defined in the JOBS Act, although, as described in the preceding risk factor, we could potentially qualify as an “emerging growth company” until December 31, 2020. At such time, our independent registered public accounting firm may issue a report that is adverse in the event it is not satisfied with the level at which our controls are documented, designed or operating.

 

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If our senior management is unable to conclude that we have effective internal control over financial reporting, or to certify the effectiveness of such controls, or if our independent registered public accounting firm cannot render an unqualified opinion on management’s assessment and the effectiveness of our internal control over financial reporting, or if material weaknesses in our internal controls are identified, we could be subject to regulatory scrutiny and a loss of public confidence, which could have a material adverse effect on our business and our stock price. In addition, if we do not maintain adequate financial and management personnel, processes and controls, we may not be able to manage our business effectively or accurately report our financial performance on a timely basis, which could cause a decline in our common stock price and adversely affect our results of operations and financial condition.

Our disclosure controls and procedures may not prevent or detect all errors or acts of fraud.

Upon completion of this offering, we will become subject to the periodic reporting requirements of the Exchange Act. Our disclosure controls and procedures are designed to reasonably ensure that information required to be disclosed by us in reports we file or submit under the Exchange Act is accumulated and communicated to management and recorded, processed, summarized and reported within the time periods specified in the rules and forms of the SEC. We believe that any disclosure controls and procedures as well as internal controls and procedures, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control system are and will be met. These inherent limitations include the realities that judgments in decision-making can be faulty and that breakdowns can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual acts of some persons, by collusion of two or more people or by an unauthorized override of the controls. Accordingly, because of the inherent limitations in our control system, misstatements due to error or fraud may occur and not be detected.

We will incur significantly increased costs as a result of operating as a public company, and our management will be required to devote substantial time to compliance efforts.

We will incur significant legal, accounting, insurance and other expenses as a result of being a public company. The Dodd-Frank Act and the Sarbanes-Oxley Act as well as related rules implemented by the SEC and the             , have required changes in corporate governance practices of public companies. In addition, rules that the SEC is implementing or is required to implement pursuant to the Dodd-Frank Act are expected to require additional changes. We expect that compliance with these and other similar laws, rules and regulations, including compliance with Section 404 of the Sarbanes-Oxley Act, will substantially increase our expenses, including our legal and accounting costs, and make some activities more time-consuming and costly. We also expect these laws, rules and regulations to make it more expensive for us to obtain director and officer liability insurance, and we may be required to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage, which may make it more difficult for us to attract and retain qualified persons to serve on our Board of Directors or as officers. Although the JOBS Act may for a limited period of time somewhat lessen the cost of complying with these additional regulatory and other requirements, we nonetheless expect a substantial increase in legal, accounting, insurance and certain other expenses in the future, which will negatively impact our business, results of operations and financial condition.

Anti-takeover provisions in our charter documents could discourage, delay or prevent a change in control of our company and may affect the trading price of our common stock.

Our corporate documents, to be effective immediately before this offering, and the Delaware General Corporation Law contain provisions that may enable our Board of Directors to resist a change in control of our company even if a change in control were to be considered favorable by you and other stockholders. These provisions:

 

    stagger the terms of our Board of Directors and require supermajority stockholder voting to remove directors;

 

    authorize our Board of Directors to issue preferred stock and to determine the rights and preferences of those shares, which may be senior to our common stock, without prior stockholder approval;

 

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    establish advance notice requirements for nominating directors and proposing matters to be voted on by stockholders at stockholder meetings;

 

    prohibit our stockholders from calling a special meeting and prohibit stockholders from acting by written consent; and

 

    require supermajority stockholder voting to effect certain amendments to our certificate of incorporation and bylaws.

In addition, our certificate of incorporation will prohibit large stockholders, in particular those owning 15% or more of our outstanding voting stock, from merging or consolidating with us except under certain circumstances. These provisions could discourage, delay or prevent a transaction involving a change in control of our company. These provisions could also discourage proxy contests and make it more difficult for you and other stockholders to elect directors of your choosing and cause us to take other corporate actions you desire.

Because management has broad discretion as to the use of the net proceeds from this offering, you may not agree with how we use them, and such proceeds may not be applied successfully.

Our management has broad discretion as to how to spend and invest the proceeds from this offering and we may spend or invest these proceeds in a way with which our stockholders may disagree. Accordingly, you will need to rely on our judgment with respect to the use of these proceeds. Pending their use for other purposes, we plan to invest the net proceeds of this offering in short-term, investment-grade, interest bearing securities. These investments may not yield a favorable return to our stockholders.

If we acquire or in-license products or product candidates, or acquire companies that we believe are complementary to our business, the process of integrating the acquired or in-licensed products or product candidates, or acquired companies may result in unforeseen difficulties and expenditures, and may require significant management attention that would otherwise be devoted to our existing business and products. We could fail to realize the anticipated benefits of any acquisition or in-licensing arrangement. Future acquisitions could reduce your percentage of ownership of us or the value of your common stock and could cause us to incur debt and expose us to liabilities.

We do not expect to pay any dividends on our common stock for the foreseeable future.

We currently expect to retain all future earnings, if any, for future operations, expansion and repayment of debt and have no current plans to pay any cash dividends to holders of our common stock for the foreseeable future. Any decision to declare and pay dividends in the future will be made at the discretion of our Board of Directors and will depend on, among other things, our results of operations, financial condition, cash requirements, contractual restrictions and other factors that our Board of Directors may deem relevant. In addition, we must comply with the covenants in our Senior Secured Credit Facility and our Growth Capital Facility in order to be able to pay cash dividends, and our ability to pay dividends generally may be further limited by covenants of any existing and future outstanding indebtedness we or our subsidiaries incur. As a result, you may not receive any return on an investment in our common stock unless you sell our common stock for a price greater than that which you paid for it.

 

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SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus contains statements that express our opinions, expectations, beliefs, plans, objectives, assumptions or projections regarding future events or future results, in contrast with statements that reflect historical facts. Many of these statements are contained under the headings “Prospectus summary,” “Management’s discussion and analysis of financial condition and results of operations” and “Business.” In some cases, we have identified such forward-looking statements with typical conditional words such as “anticipate,” “intend,” “believe,” “estimate,” “plan,” “seek,” “project” or “expect,” “may,” “will,” “would,” “could” or “should,” the negative of these terms or other comparable terminology.

Important factors related to forward-looking statements may include, among others, assumptions regarding:

 

    market acceptance of our Fuse® system;

 

    our ability to successfully commercialize our products, including Fuse®;

 

    the outcome or success of clinical studies involving Fuse®;

 

    our ability to compete effectively in selling our GI products and services;

 

    our ability to expand, manage and maintain our direct sales and marketing organizations;

 

    market risks regarding acceptance of alternative diagnostic methods or technologies for GI disease screening;

 

    the fact that we have a history of net losses and may not achieve scale of operation or achieve or sustain profitability in the future;

 

    our actual financial results may vary significantly from forecasts;

 

    our ability to successfully develop new products, improve or enhance existing products or acquire complementary products, technologies, services or businesses;

 

    our ability to obtain and maintain intellectual property of sufficient scope to adequately protect our products, including Fuse®, and our ability to avoid infringing or otherwise violating the intellectual property rights of third parties;

 

    market risks regarding consolidation in the healthcare industry;

 

    the willingness of GI departments in hospitals, ASCs and other healthcare providers to purchase our products if coverage, reimbursement and pricing from third-party payors for procedures using our products significantly declines;

 

    the level and availability of government and third-party payor reimbursement for clinical procedures using our products;

 

    our ability to timely and accurately bill for our clinical pathology services;

 

    our ability to effectively manage our anticipated growth;

 

    the regulatory requirements applicable to us and our competitors;

 

    our ability to manufacture our GI endoscopy products to meet demand;

 

    our reliance on third-party manufacturers and sole- or single-source suppliers;

 

    our ability to reduce the per unit manufacturing cost of our Fuse® system;

 

    our ability to efficiently manage our manufacturing processes;

 

    the regulatory and legal risks, and certain operating risks, that our international operations subject us to;

 

    the fact that product quality issues or product defects may harm our business; and

 

    any product liability claims.

 

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Forward-looking statements are not a guarantee of performance, and you should not place undue reliance on such statements. We have based forward-looking statements largely on our current expectations and projections about future events. Forward-looking statements are subject to many uncertainties and other variable circumstances, including those discussed in this prospectus under the headings “Risk factors” and “Management’s discussion and analysis of financial condition and results of operations,” many of which are outside of our control, that could cause our actual results and experience to differ materially from any forward-looking statement. Given these risks and uncertainties, you are cautioned not to place undue reliance on these forward-looking statements. The forward-looking statements included in this prospectus are made only as of the date hereof. We do not undertake, and specifically decline, any obligation to update any such statements or to publicly announce the results of any revisions to any of such statements to reflect future events or developments.

 

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USE OF PROCEEDS

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

The principal purposes of this offering are to obtain additional capital to support our operations, create a public market for our common stock and to facilitate future access to the public equity markets. We currently expect to use the net proceeds of this offering primarily to fund the commercialization and continued development of our Fuse® system as follows:

 

    approximately $         million for the expansion of our sales and marketing activities, including hiring new direct sales representatives;

 

    approximately $         million for capital expenditures for new product demonstration equipment, including colon models and other simulation equipment, used by our sales representatives and other personnel for Fuse® product demonstrations to GI specialists;

 

    approximately $         million for investments to expand our manufacturing capacity as sales of our Fuse® system and other products increase in the future, which will include the acquisition of equipment and other fixed assets related primarily to the manufacturing of our Fuse® system and our other products; and

 

    the remainder for working capital and other general corporate purposes.

In addition, we may also use a portion of our net proceeds to acquire and invest in complementary products, technologies, services or businesses; however, we currently have no agreements or commitments to complete any such transaction nor are we involved in negotiations to do so.

Our expected use of net proceeds from this offering represents our current intentions based upon our plans and business condition. As of the date of this prospectus, we cannot predict with certainty all of the particular uses for the net proceeds to be received upon the completion of this offering or the amounts that we will actually spend on the uses set forth above. The amounts and timing of our actual use of the net proceeds will vary depending on numerous factors, including the factors described under the heading “Risk factors” in this prospectus. As a result, management will have broad discretion in its application of the net proceeds, and investors will be relying on our judgment in such application.

Pending use of the net proceeds from this offering, we may invest in short- and intermediate-term interest-bearing obligations, investment-grade instruments, certificates of deposit or direct or guaranteed obligations of the U.S. government.

Although it is difficult to predict future liquidity requirements, we believe that the net proceeds from this offering, together with our existing cash and cash equivalents, will be sufficient to fund our operations until the middle of 2017.

See “Pricing sensitivity analysis” to see how the net proceeds from this offering presented above would be affected by an initial public offering price per share of common stock at the low-, mid- and high-points of the price range indicated on the cover page of this prospectus or if the underwriters’ option to purchase additional shares of common stock is exercised in full.

 

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DIVIDEND POLICY

We currently expect to retain all future earnings, if any, for use in the operation and expansion of our business and repayment of debt. We have never declared nor paid any dividends on our common stock and do not anticipate paying cash dividends to holders of our common stock in the foreseeable future. In addition, our Senior Secured Credit Facility and our Growth Capital Facility restrict our ability to pay dividends. See “Risk factors—We do not expect to pay any dividends on our common stock for the foreseeable future.” Any determination to pay dividends in the future will be at the discretion of our Board of Directors and will depend upon, among other factors, our results of operations, financial condition, capital requirements and covenants in our existing financing arrangements and any future financing arrangements.

 

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CORPORATE CONVERSION

Overview

We currently operate as a Delaware limited liability company under the name ECPM Holdings, LLC. Prior to the closing of this offering, ECPM Holdings, LLC will convert into a Delaware corporation pursuant to a statutory conversion and change its name to EndoChoice Holdings, Inc. In order to consummate the corporate conversion, a certificate of conversion will be filed with the Secretary of State of the State of Delaware. As part of the corporate conversion, 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), all limited liability company interests of ECPM Holdings, LLC, which are in the form of units, will be converted into an aggregate of                 shares of our common stock as follows:

 

    holders of our Class A units will receive an aggregate of                 shares of our common stock;

 

    holders of our Class B units, which are comprised of Series B1 units, Series B2 units, Series B3 units, and Series B4 units, will receive an aggregate of                 shares of our common stock;

 

    holders of our Class C units, which are comprised of Series C1 units, Series C2 units and Series C3 units, will receive an aggregate of                 shares of our common stock;

 

    holders of our vested incentive units will receive an aggregate of                 shares of our common stock; and

 

    holders of unvested incentive units will receive             shares of our restricted stock.

In addition, 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):

 

    holders of our warrants to purchase units of ECPM Holdings, LLC will receive warrants to purchase                 shares of our common stock; and

 

    holders of options to purchase units of ECPM Holdings, LLC will receive options to purchase                 shares of our common stock.

The number of shares of common stock, the number of options, and the number of shares of restricted stock issuable in connection with the corporate conversion will be determined pursuant to the applicable provisions of the plan of conversion, which is based upon terms of the existing limited liability company agreement of ECPM Holdings, LLC. The limited liability company agreement provides that each outstanding class and series of units of ECPM Holdings, LLC will convert into a number of shares of common stock of EndoChoice Holdings, Inc. based upon the liquidation value of ECPM Holdings, LLC, assuming it is liquidated at the time of this offering with a value implied by the initial public offering price of the shares of common stock sold in this offering. Upon conversion, the shares of common stock of EndoChoice Holdings, Inc. will be allocated among the various classes and series of units in accordance with the distribution proportions, orders and priorities set forth in the limited liability company agreement. Similarly, the number of shares of common stock for which warrants will become exercisable following the conversion will be determined based on the terms of the warrants. No fractional shares of common stock will be issued in connection with the corporate conversion, and each holder of our units will be entitled to receive an amount of cash determined based on the initial public offering price per share in lieu of any fractional share that would otherwise be issuable in connection with the corporate conversion.

In connection with the corporate conversion, EndoChoice Holdings, Inc. will continue to hold all property and assets of ECPM Holdings, LLC and will assume all of the debts and obligations of ECPM Holdings, LLC. EndoChoice Holdings, Inc. will be governed by a certificate of incorporation filed with the Delaware Secretary of State and bylaws, the material portions of which are described under the heading “Description of capital stock.” On the effective date of the corporate conversion, the members of the board of directors of ECPM

 

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Holdings, LLC will become the members of EndoChoice Holdings, Inc.’s board of directors and the officers of ECPM Holdings, LLC will become the officers of EndoChoice Holdings, Inc.

The purpose of the corporate conversion is to reorganize our corporate structure so that the top-tier entity in our corporate structure—the entity that is offering common stock to the public in this offering—is a corporation rather than a limited liability company and so that our existing investors will own our common stock rather than equity interests in a limited liability company.

Except as otherwise noted herein, the consolidated financial statements included elsewhere in this prospectus are those of ECPM Holdings, LLC and its combined operations. We expect that our conversion from a Delaware limited liability company to a Delaware corporation will not have a material effect on our consolidated financial statements.

Because the exact number of shares of our common stock to be issued to holders of units and vested incentive units of ECPM Holdings, LLC in the corporate conversion, the number of shares of common stock for which warrants and options will be exercisable following the corporate conversion and the number of shares of restricted stock that holders of unvested incentive units will receive in the corporate conversion is based on the initial public offering price, to the extent that the actual initial public offering price per share for this offering is greater or less than $         (the midpoint of the price range set forth on the cover page of this prospectus), the actual number of shares of common stock to be issued to holders of units and vested incentive units, the number of shares of common stock that warrants and options will be exercisable for and the number of shares of restricted stock outstanding following the corporate conversion will be adjusted accordingly. See “Pricing sensitivity analysis” to see how the number of shares, options and warrants to be issued in the corporate conversion would be affected by an initial public offering price per share of common stock at the low-, mid- and high-points of the price range indicated on the cover page of this prospectus or if the underwriters’ option to purchase additional shares of common stock is exercised in full.

 

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CAPITALIZATION

The following table sets forth our cash and cash equivalents and our capitalization as of March 31, 2015:

 

    on an actual basis;

 

    on a pro forma basis to give effect to the corporate conversion, 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); and

 

    on a pro forma as adjusted basis to additionally give effect to the sale of                 shares of our common stock in this offering, assuming an initial public offering price of $         per share (the midpoint of the price range set forth on the cover page of this prospectus), after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us and the application of the proceeds therefrom.

You should read the following information together with the information contained under the headings “Selected consolidated financial and other data” and “Management’s discussion and analysis of financial condition and results of operations” and our consolidated financial statements and the accompanying notes appearing elsewhere in this prospectus.

 

     As of March 31, 2015  
(unaudited; in thousands, except share and per share
data)
   Actual      Pro forma(1)(2)(3)      Pro forma
as adjusted(3)(4)
 

Cash and cash equivalents

   $ 32,981       $                    $                
  

 

 

    

 

 

    

 

 

 

Total debt (including current portion)

  39,481   

Redeemable members’ capital

  156,424   

Members’ deficit:

Accumulated deficit

  112,439   

Accumulated other comprehensive loss

  2,754   
  

 

 

       

Total members’ deficit

  115,193   
  

 

 

    

 

 

    

 

 

 

Stockholders’ equity (deficit):

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

  —     

Preferred stock, $0.001 par value per share (no shares authorized, issued and outstanding actual;                 shares authorized, none issued and outstanding, pro forma and pro forma as adjusted)

  —     

Additional paid-in capital

  —     

Accumulated deficit

  —     

Accumulated other comprehensive loss

  —     

Total stockholders’ equity (deficit)

  —     
  

 

 

    

 

 

    

 

 

 

Total capitalization

$ 80,712    $      $     
  

 

 

    

 

 

    

 

 

 

 

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(1) In connection with the corporate conversion, redeemable members’ capital, members’ accumulated deficit, members’ accumulated other comprehensive income and total member’s deficit will be reduced to zero to reflect the elimination of all outstanding units and other interests in ECPM Holding, LLC and corresponding adjustments will be reflected as common stock, additional paid-in capital, stockholders’ accumulated deficit, stockholders’ accumulated other comprehensive income and total stockholders’ equity of EndoChoice Holdings, Inc.

 

(2) The following table presents the number of shares of common stock, the number of warrants, the number of options, and the number of shares of restricted stock issuable in connection with the corporate conversion to holders of Class A units, Class B units, Class C units, vested incentive units, warrants to purchase Class A units and Class B units, options to purchase Class B units and Class C units, and unvested incentive units based on the assumed initial public offering price per common share of $             (the midpoint of the price range set forth on the cover page of this prospectus).

 

Common stock issuable for:

Class A units

Class B units

Class C units

Vested incentive units

  

 

Total

Warrants issuable for:

For Class A units

For Class B units

  

 

Total

Options issuable for:

For Class B units

For Class C units

  

 

Total

Shares of restricted stock issuable for:

Unvested incentive units

  

 

Total

See “Pricing sensitivity analysis” to see how some of the information presented above would be affected by an initial public offering price per share of common stock at the low-, mid- and high-points of the price range indicated on the cover page of this prospectus or if the underwriters’ option to purchase additional shares of common stock is exercised in full.

 

(3) The pro forma and pro forma as adjusted information discussed above is illustrative only.

 

(4) Includes a non-cash charge adjusting accumulated deficit, total stockholders’ equity and total capitalization that we expect to incur in the quarter this offering is closed of approximately $1.5 million for previously unrecognized stock-based compensation expense related to the conversion of the vested portion of our incentive units as part of our corporate conversion. See “Management’s discussion and analysis of financial condition and results of operations—Stock-based compensation” for additional information.

The capitalization table presented above excludes, after giving effect to the corporate conversion:

 

                    shares of Class A common stock issuable upon exercise of outstanding options to purchase shares of Class A common stock as of         , at a weighted-average exercise price of $         per share; and

 

    an additional                 shares of Class A common stock reserved for future issuance under our 2015 Plan; and

 

                    shares issuable upon the exercise of warrants at a weighted-average exercise price of $         per share following the corporate conversion.

 

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DILUTION

If you invest in our common stock, your ownership interest will be diluted to the extent of the difference between the initial public offering price in this offering per share of our common stock and the pro forma as adjusted net tangible book deficit per share of our common stock upon consummation of this offering. Net tangible book deficit per share represents the book value of our total tangible assets less the book value of our total liabilities divided by the number of shares of common stock then issued and outstanding.

After giving effect to the corporate conversion, pro forma net tangible book deficit as of March 31, 2015 was $(        ) million, or $(        ) per share based on the             shares of common stock issued and outstanding after the corporate conversion 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). After giving effect to our sale of common stock in this 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 estimated underwriting discounts and commissions and estimated offering expenses payable by us, our pro forma as adjusted net tangible book deficit as of March 31, 2015 would have been $(        ) million, or $(        ) per share (assuming no exercise of the underwriters’ option to purchase additional shares of our common stock). This represents an immediate and substantial dilution of $(        ) per share to new investors purchasing common stock in this offering. The following table illustrates this dilution per share:

 

Assumed initial public offering price per share

      $                

Pro forma net tangible book deficit per share as of March 31, 2015

   $                   

Decrease in net tangible book deficit per share attributable to this offering

   $        
  

 

 

    

Pro forma as adjusted net tangible book deficit per share after giving effect to this offering

$     
     

 

 

 

Dilution per share to new investors in this offering

$     
     

 

 

 

The following table summarizes, on a pro forma as adjusted basis as of March 31, 2015, the differences between the number of shares of common stock purchased from us, the total price and the average price per share paid by existing stockholders and by the new investors in this offering, before deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us, 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).

 

     Shares purchased     Total
consideration
    Average
price per
share
 
     Number    Percent     Amount      Percent    
     (in millions)  

Existing investors

                 %   $                           %   $            

New investors in this offering

             $            

Total

                 %   $                           %   $            

See “Pricing sensitivity analysis” to see how some of the information presented above would be affected by an initial public offering price per share of common stock at the low-, mid- and high-points of the price range indicated on the cover page of this prospectus or if the underwriters’ option to purchase additional shares of common stock is exercised in full.

 

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The discussion and table above assume no exercise of stock options outstanding and no issuance of shares of our common stock reserved for issuance under our equity incentive plans, which include:

 

    as of March 31, 2015,                 shares issuable upon the exercise of outstanding stock options at a weighted-average exercise price of $         per share;

 

                    shares reserved for future issuance under our 2015 Plan; and

 

                    shares issuable upon the exercise of warrants at a weighted-average exercise price of $         per share following the corporate conversion.

If, after giving effect to the corporate conversion, all of our outstanding options and warrants were exercised, our pro forma as adjusted net tangible book deficit as of March 31, 2015 would have been $         per share and our pro forma as adjusted net tangible book deficit after giving effect to this offering would have been $         per share, causing dilution to new investors purchasing shares in this offering of $         per share. Shares purchased by new investors would then represent         % of the shares purchased from us for         % of the total consideration.

The shares of our common stock reserved for future issuance under our 2015 Plan will be subject to automatic annual increases in accordance with its terms. To the extent that options are exercised, new options are issued under our 2015 Plan or we issue additional shares of common stock in the future, there will be further dilution to investors participating in this offering. In addition, we may choose to raise additional capital because of market conditions or strategic considerations, even if we believe that we have sufficient funds for our current or future operating plans. If we raise additional capital through the sale of equity or convertible debt securities, the issuance of these securities could result in further dilution to our stockholders.

The number of shares of common stock of EndoChoice Holdings, Inc. that holders of units and vested incentive units will receive in the corporate conversion, the number of shares of common stock that options and warrants will be exercisable for following the corporate conversion and the number of shares of restricted stock that holders of unvested incentive units will receive in the corporate conversion will vary depending on the initial public offering price set forth on the cover page of this prospectus. See “Pricing sensitivity analysis” for additional information.

 

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SELECTED CONSOLIDATED FINANCIAL AND OTHER DATA

We derived the selected consolidated financial information for the periods indicated from our consolidated financial statements. We derived the financial information as of December 31, 2013 and 2014 and for the years ended December 31, 2012, 2013 and 2014 from our audited consolidated financial statements, which are included elsewhere in this prospectus. We derived the financial information as of March 31, 2015 and for the three-month periods ended March 31, 2014 and 2015 from our unaudited condensed consolidated financial statements included elsewhere in this prospectus. The unaudited condensed consolidated financial statements include, in the opinion of management, all adjustments which are necessary for the fair presentation of the financial information set forth therein. You should read the following information together with the more detailed information contained in “Selected consolidated financial and other data,” “Management’s discussion and analysis of financial condition and results of operations” and our consolidated financial statements and the accompanying notes. Our historical results are not necessarily indicative of the results to be expected in any future period. Interim financial results are not necessarily indicative of results that may be expected for the full fiscal year.

 

     Year ended December 31,     Three months ended
March 31,
 
(in thousands, except per share and per unit data)    2012     2013     2014     2014     2015  

Consolidated statements of income data:

          

Net revenues:

          

GI equipment and supplies

   $ 25,249      $ 38,772      $ 48,824      $ 10,908      $ 13,795   

GI pathology services

     8,968        12,119        12,595        2,939        2,953   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net revenues

     34,217        50,891        61,419        13,847        16,748   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues:

          

GI equipment and supplies

     13,101        21,502        33,815        6,146        10,026   

GI pathology services

     4,024        4,390        5,093        1,307        1,143   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues

     17,125        25,892        38,908        7,453        11,169   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

     17,092        24,999        22,511        6,394        5,579   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses:

          

Research and development

     1,683        16,617        21,702        5,150        4,683   

Sales and marketing

     11,465        18,148        27,660        6,509        8,243   

General and administrative

     4,921        11,355        16,456        3,700        4,417   

Amortization of intangible assets

     13        4,578        3,908        1,173        687   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses

     18,082        50,698        69,726        16,532        18,030   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating loss

     (990     (25,699     (47,215     (10,138     (12,451
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other income (expense):

          

Other income (expense)

     (3     296        (1,563     (7     (1,033

Interest expense

     (208     (104     (3,950     (349     (1,591

Interest income

     —          31        —          —          —     
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total other income (expense)

     (211     223        (5,513     (356     (2,624
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss before income taxes

     (1,201     (25,476     (52,728     (10,494     (15,075

Income tax (benefit) expense

     —          (1,558     916        384        199   
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

     (1,201     (23,918     (53,644     (10,878     (15,274

Other comprehensive income (loss)

     —          3,050        (5,064     (606     (740
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Comprehensive loss

   $ (1,201   $ (20,868   $ (58,708   $ (11,484   $ (16,014
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss attributable to common stockholders

   $ (2,700   $ —        $ —        $ —        $ —     
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted net loss per share attributable to common stock

   $ (0.27   $ —        $ —        $ —        $ —     
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted net loss per unit attributable to Class A units

   $ —        $ (0.17   $ (0.37   $ (0.08   $ (0.09
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted net loss per unit attributable to Class B units

   $ —        $ (0.25   $ (0.53   $ (0.11   $ (0.12
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Basic and diluted net loss per unit attributable to Class C units

   $ —        $ (2.39   $ (5.12   $ (1.07   $ (1.19
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other financial data:

          

EBITDA(1)

   $ (322   $ (19,413   $ (40,021   $ (8,236   $ (11,382

Adjusted EBITDA(1)

   $ (282   $ (19,389   $ (40,001   $ (8,231   $ (11,377

 

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     As of December 31,      Three months ended
March 31, 2015
 
     2013      2014     

Consolidated balance sheet data:

        

Cash and cash equivalents

   $ 8,040        $ 13,761        $ 32,981   

Working capital(2)

     11,228          24,733          42,683   

Total assets

     80,666          87,220          102,716   

Long-term debt

     —            39,350          39,481   

Redeemable members’ capital

     99,324          125,418          156,424   

Accumulated deficit

     (43,521)         (97,165)         (112,439)   

 

(1) See footnote (5) to “Prospectus summary — Summary historical consolidated financial and other data” for a definition of EBITDA and Adjusted EBITDA, as well as reconciliations of each to net loss.
(2) Represents current assets less current liabilities.

 

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MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL

CONDITION AND RESULTS OF OPERATIONS

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with “Selected consolidated financial and other data” and our consolidated financial statements and the accompanying notes and other financial information appearing elsewhere in this prospectus. In addition to historical information, this discussion contains forward-looking statements that involve risks, uncertainties and assumptions that could cause actual results to differ materially from management’s expectations. Factors that could cause such differences include, but are not limited to, those identified below and those described under the heading “Risk factors” appearing elsewhere in this prospectus.

Overview

We are a medical device company focused exclusively on designing and commercializing a platform of innovative products and services for gastrointestinal, or GI, caregivers. We currently serve over 2,500 GI departments that perform endoscopic procedures, which represent approximately one-third of the U.S. market. We offer a comprehensive range of products and services that span single-use devices and infection control products, pathology and imaging systems. In December 2013, we began limited commercialization of our Fuse® full spectrum endoscopy system, or Fuse®. Our Fuse® system enables GI specialists to see more than twice the anatomy at any one time compared to standard, forward-viewing colonoscopes and has been clinically demonstrated to detect 69% more pre-cancerous polyps than standard colonoscopes. We believe our commitment to continuing innovation and focus on GI specialists provides us with the unique capability to meet their evolving needs. We intend to leverage our broad product platform, established customer relationships, commercial infrastructure and Fuse® technology to set a new standard of care for the global GI market.

We estimate that the addressable worldwide market for our GI endoscopy products and services is over $6 billion, with more than 70 million GI endoscopies performed each year in the United States, Japan and Europe combined. We estimate that the addressable market for our GI endoscopy products and services is growing at 7% annually driven by increased governmental and payor focus on screening, prevention and treatment of colorectal cancer and other GI conditions, an aging global population and changing dietary habits. GI endoscopies involve inserting a thin tube containing a camera or cameras into a natural orifice of the patient to examine the upper or lower GI tract in order to screen for, diagnose and treat various GI conditions, including colorectal cancer. GI endoscopies require a large number of steps, including setup, imaging, therapy, specimen retrieval, pathology and endoscope disinfection and repair, which we refer to collectively as the GI procedure cycle. The GI endoscopy market is highly fragmented and served by numerous companies, many of which focus on only one or two areas of the GI procedure cycle. We believe the needs of GI specialists are currently underserved due to the lack of a comprehensive provider solely focused on innovation in the GI endoscopy market.

We founded our company to serve the evolving needs of GI specialists by continually bringing to market a broad suite of innovative products across the GI procedure cycle. Since we began our commercial operations in 2008, we have developed an extensive line of devices and infection control products and have added pathology and scope repair services capabilities. Our products and services are designed to improve clinical outcomes and GI specialist productivity. In 2013, we acquired Peer Medical Ltd., which was developing a new endoscope system that we now call Fuse®. Our focus on product innovation and services that span the GI endoscopy procedure cycle has enabled our direct salesforce to penetrate approximately one-third of the GI departments in the United States in just six years while increasing our sales per customer over that time.

Our products are used in colonoscopy and EGD and other procedures of the upper GI tract, which represent approximately 15 million and 8 million annual procedures in the United States, respectively, and together account for 96% of all GI endoscopic procedures. Colonoscopy is used for the screening, surveillance and diagnosis of GI diseases including colorectal cancer, inflammatory bowel disease and GI bleeding.

 

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Our Fuse® system, which is intended for visualization of the GI tract and related therapeutic interventions, enables a wider field of view for upper and lower endoscopy procedures. Specifically, the Fuse® colonoscope offers a 330° view of the colon during colonoscopy instead of the 140° to 170° view offered by standard colonoscopes. This enables the GI specialist to visualize more than twice the anatomy at any one time as compared to a standard colonoscope and improves the ability to more thoroughly examine the colon without prolonging the time to complete the colonoscopy. According to the results of a tandem clinical trial published in The Lancet Oncology, GI specialists using Fuse® during colonoscopy identified 69% more pre-cancerous polyps than when using standard endoscopes. The improved detection is clinically important not only because pre-cancerous polyps are removed during the procedure, but also because clinical guidelines recommend more frequent colonoscopies following initial detection of pre-cancerous polyps. Further, we believe that increased adoption of Fuse® for colorectal cancer screening could result in significant savings to healthcare payors given the high cost of colorectal cancer related surgical intervention and subsequent treatment. The costs of surgeries and related care can be significant, with total costs to the U.S. healthcare system estimated to exceed $8 billion per year.

During the years ended December 31, 2012, 2013 and 2014, our net revenue was $34.2 million, $50.9 million and $61.4 million, respectively and for the three months ended March 31, 2014 and 2015, our net revenue was $13.8 million and $16.7 million, respectively. During the years ended December 31, 2012, 2013 and 2014 , our net loss was $(1.2) million, $(23.9) million and $(53.6) million, respectively and for the three months ended March 31, 2014 and 2015, our net loss was $(10.9) million and $(15.3) million, respectively. We have not been profitable since inception and as of March 31, 2015, our accumulated deficit was $(112.4) million. We have made significant investments over the past two years in our research and development, sales and marketing, general administrative and manufacturing operations in support of the commercialization of Fuse®. We intend to continue to make investments in our sales and marketing infrastructure and in research and development of new products. As a result of these and other factors, we expect to incur net losses for the foreseeable future and may need to raise additional capital through equity and debt financings in order to fund our operations. Our operating results may fluctuate on a quarterly or annual basis in the future and our growth or operating results may not be consistent with predictions made by securities analysts. If we are unable to achieve our revenue growth objectives, we may not be able to achieve profitability. Since inception, we have financed our operations through non-public equity financings and to a lesser extent, debt financings. On October 30, 2014, we issued approximately $25.9 million of Class A units to existing members and certain of their affiliates. On March 4, 2015, we issued $31.0 million of Class A units to new investors and existing members (and certain of their affiliates).

Corporate conversion

We currently operate as a Delaware limited liability company, under the name ECPM Holdings, LLC. Prior to the closing of this offering, ECPM Holdings, LLC will convert into a Delaware corporation pursuant to a statutory conversion and change its name to EndoChoice Holdings, Inc. As a result of the corporate conversion, the holders of the different classes and series of units of ECPM Holdings, LLC will become holders of common stock of EndoChoice Holdings, Inc. Holders of warrants and options, respectively, to purchase units of ECPM Holdings, LLC will become holders of warrants and options to purchase common stock of EndoChoice Holdings, Inc., respectively. Holders of vested incentive units of ECPM Holdings, LLC will become holders of common stock of EndoChoice Holdings, Inc. Holders of unvested incentive units of ECPM Holdings, LLC will become holders of shares of restricted stock of EndoChoice Holdings, Inc.

The purpose of the corporate conversion is to reorganize our corporate structure so that the top-tier entity in our corporate structure—the entity that is offering our common stock to the public in this offering—is a corporation rather than a limited liability company and so that our existing investors will own our common stock rather than equity interests in a limited liability company. For further information regarding the corporate conversion, see “Corporate conversion” and “Pricing sensitivity analysis.” References in this prospectus to our capitalization and other matters pertaining to our equity and shares prior to the corporate conversion relate to the capitalization and equity and shares of ECPM Holdings, LLC, and after the corporate conversion, to EndoChoice Holdings, Inc.

 

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The consolidated financial statements included elsewhere in this prospectus are those of ECPM Holdings, LLC and its subsidiaries. We expect that our conversion from a Delaware limited liability company to a Delaware corporation will not have a material effect on our consolidated financial statements.

Transactions impacting comparability of results

Overview. On January 4, 2013, all issued and outstanding shares of stock of EndoChoice, Inc. were exchanged for units of ECPM Holdings, LLC, and EndoChoice, Inc. became a wholly owned subsidiary of ECPM Holdings, LLC. ECPM Holdings, LLC was established to facilitate the acquisitions of Peer Medical Ltd., an Israeli company in the business of developing proprietary endoscopic systems for performing endoscopic examinations (which we refer to as Peer Medical), and RMS Endoskopie-Technik Stephan Wieth e.K., a German company in the business of manufacturing, repairing and distributing endoscopic systems (which we refer to as RMS). The financial statements for the year ended December 31, 2012 represent the operations of EndoChoice, Inc. and its wholly owned subsidiaries.

Interactive. On March 1, 2012, we acquired essentially all the assets and selected liabilities of Interactive Optics, Inc. (which we refer to as Interactive), in exchange for $0.5 million in cash consideration, the assumption of certain liabilities and future contingent consideration based on the revenue of the resulting newly established scope services subsidiary. Interactive served as our primary scope services vendor and the acquisition established our ability to refurbish and repair endoscopes. As of March 31, 2015 none of the $0.3 million contingent consideration has been earned and paid.

Peer Medical. On January 4, 2013, we acquired 100% of the voting interest in Peer Medical in exchange for Class C units valued at $40.0 million. The acquisition of Peer Medical established our ability to develop proprietary optics, electronics, hardware and software, which includes our Fuse® endoscopic video imaging system.

RMS. On January 9, 2013, we acquired essentially all the assets and selected liabilities of RMS in exchange for $3.1 million in cash and $1.3 million in contingent consideration. The acquisition of RMS established our ability to manufacture endoscopic systems. Since the acquisition, $1.0 million of the contingent consideration was paid during 2013 and the remaining balance of $0.3 million has not been paid.

The Peer Medical and RMS transactions each had a significant impact on our financial statements for the years ended December 31, 2013 and 2014 and their comparability to our financial statements for the year ended December 31, 2012, including cost of revenues, gross margin, research and development expenses, sales and marketing expenses, general and administrative expenses, amortization of intangibles, operating loss and cash flow.

Components of our results of operations

We manage our business globally within one reportable segment, which is consistent with how our management reviews our business, prioritizes investment and resource allocation decisions and assesses operating performance.

Net revenues

We generate revenue primarily from the sales of GI equipment and supplies and GI pathology services, to GI caregivers treating a wide range of GI diseases. Net revenues from GI equipment and supplies include revenue from imaging systems, single use therapeutic devices and infection control products, and endoscope repair and maintenance, and our net revenues from GI pathology services include revenues from our GI pathology laboratory. Sales to U.S. customers represented approximately 98.6%, 89.3% and 88.8% of our net revenues for the years ended December 31, 2012, 2013 and 2014, respectively, and 92.1% and 91.2% for the three months ended March 31, 2014 and 2015, respectively.

 

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We commenced limited commercial sales of our Fuse® system in December 2013. Our Fuse® system is comprised of colonoscopes and gastroscopes, a FuseBox® video processor, a FusePanel® image management system, a FuseViewTM monitor system, a standard FuseCartTM and other related supplies. We sell our Fuse® system primarily to GI departments in ASCs and hospitals and to distributors.

We expect revenue to increase in the future as we expand our sales, marketing and distribution capabilities to support growth in the United States and internationally as our Fuse® system becomes more widely adopted. We expect revenues to increase during the remainder of 2015 from 2014 levels due to the commercialization of Fuse®, as well as a growing base of customers for our single-use infection control and device products and our pathology services.

Cost of revenues

We have manufacturing facilities in Caesarea, Israel and Halstenbek, Germany and assemble products in the United States at our facilities in Alpharetta, Georgia and Reno, Nevada. Cost of revenues consist primarily of manufacturing, procurement and shipping, overhead costs, direct material costs and direct labor. A significant portion of our cost of revenues consists of manufacturing overhead costs such as quality assurance, material procurement, inventory control, warehousing and shipment, facilities, depreciation on equipment and operations supervision and management. Due to our relatively low production volumes compared to our available manufacturing capacity, currently a large portion of our Fuse® unit product cost consists of manufacturing overhead expense. We expect cost of revenues to decrease as a percentage of net revenues in the future as our per-unit manufacturing costs decline due to greater absorption of our fixed manufacturing costs over an increase in units produced. In addition, we expect our direct materials and direct labor costs to also decline with higher sales and production volumes as we are able to negotiate more favorable pricing from component suppliers and introduce design programs to reduce the number and complexity of parts.

Gross profit

We calculate gross profit as net revenues less cost of revenues. Our gross profit has been and will continue to be affected by a variety of factors, including production volumes, manufacturing costs, product reliability and production yields, and the implementation over time of cost-reduction strategies. We expect our gross profit to increase over time as our production volume increases and as we spread the fixed portion of our manufacturing overhead costs over a larger number of units produced, thereby significantly reducing our per unit manufacturing costs. However, our gross profit will likely continue to fluctuate from quarter to quarter.

Research and development

We have 35 research and development, or R&D, employees located in Israel, the United States and Germany who are exclusively focused on the GI industry. R&D expenses consist primarily of engineering, product development, clinical and regulatory affairs, consulting services, materials, depreciation and other costs associated with our products under development, patent related costs, and start-up manufacturing costs and R&D activities associated with our core technologies and processes. We expense all R&D costs as incurred. For the years ended December 31, 2013 and 2014, R&D expenses included $5.7 million and $3.4 million, respectively, and for the three months ended March 31, 2014 and 2015, R&D expenses included $0.9 million and $0.8 million, respectively, of labor and overhead costs associated with certain engineering activities required to advance the design of the Fuse® product for manufacture.

We expect the amount of our R&D expense to increase as we continue to innovate and introduce new products and technologies addressing the evolving needs of the GI caregiver. However, we anticipate that our R&D costs will decrease as a percentage of net revenues over time if we are successful growing the sales of our products.

 

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Sales and marketing

We employ a team of 103 experienced sales and marketing professionals in the United States and Germany. In international markets, we sell through 27 distributors and employ a team of 12 experienced sales and marketing representatives in Germany who together serve our markets in Europe, the Middle East, Latin America and Asia. Sales and marketing expense consists primarily of salaries, employee benefits, commissions and bonuses and related costs for personnel in sales and marketing. In addition, sales and marketing expense includes marketing and promotional activities, trade shows, travel expenses and professional fees for consulting services. We expect the amount of sales and marketing expense to increase as we expand our sales force and marketing activities to support the commercialization of Fuse® and further sales of our other products. The timing of these increased expenditures are dependent upon the commercial success of Fuse® and sales growth of our other products, as well as the timing of any new product launches and the hiring of additional sales people. We expect sales and marketing expense as a percentage of net revenue to decline over time if we are able to increase the sales of our products.

General and administrative

General and administrative expense, or G&A, consists primarily of salaries, employee benefits, bonuses, and related costs for personnel who support our general operations such as executive management, legal, information technology, finance, accounting and human resource functions. Beginning in 2013, our G&A expense included the effect of a 2.3% excise tax on the sale of medical devices in the United States. As of March 31, 2015, we had 55 full-time general and administrative personnel supporting our operations. We expect the amount of G&A expenses to continue to increase for the foreseeable future as we employ additional personnel and incur additional legal, accounting, insurance and other professional service fees associated with being a public company. For the foreseeable future, we expect G&A expenses to continue to decrease as a percentage of net revenue if we are successful in growing the sales of our products.

Amortization of intangible assets

Amortization of intangible assets consists primarily of amortization expense related to separately identified intangible assets including developed technology, customer relationships and other assets acquired as a result of the acquisitions of Peer Medical and RMS in January 2013. The value of the intangible assets acquired in the Peer Medical and RMS transactions was $23.7 million and $1.9 million, respectively. The amortization of intangibles is expected to decline over time based on the useful lives of each identified intangible asset.

Other income (expense)

Other income (expense) primarily consists of foreign currency transaction gains and losses on transactions denominated in currencies other than the functional currency of the Company. Our foreign currency transaction gains and losses primarily relate to foreign currency denominated cash, liabilities and intercompany receivables and payables. Other income (expense) also includes interest expense which consists primarily of interest payments made pursuant to our amended Senior Secured Credit Facility entered into on September 9, 2013 with Silicon Valley Bank (which we refer to as our Senior Secured Credit Facility) and the growth capital loan facility entered into on February 18, 2014 with Triple Point Capital (which we refer to as our Growth Capital Facility). The Growth Capital Facility includes a $20.0 million loan funded upon finalization of the Growth Capital Facility, a $10.0 million loan that was drawn on June 13, 2014, and an additional $10.0 million loan that was drawn on August 25, 2014. Our interest expense will fluctuate in future periods to the extent we incur additional, or pay down, indebtedness. Further, in the event of repayment of these loans within 24 months of their respective funding dates, a prepayment penalty will be due. In addition, an end of term fee will be due for each loan upon the earlier of its repayment or maturity date. The end of term fees due under these loans increase to a total of $3.2 million as they approach maturity.

 

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Income taxes

Income tax (benefit) expense consists primarily of income taxes in foreign jurisdictions in which we conduct business. We maintain a full valuation allowance in certain jurisdiction for deferred tax assets including net operating loss carryforwards and research and development credits and other tax credits. We are taxed at the rates applicable within each jurisdiction in which we operate and/or generate revenue. The composite income tax rate, tax provisions, deferred tax assets and deferred tax liabilities will vary according to the jurisdiction in which profits arise. Tax laws are complex and subject to different interpretations by management and the respective governmental taxing authorities, and require us to exercise judgment in determining our income tax provision, our deferred tax assets and liabilities and the valuation allowance recorded against our net deferred tax assets. Deferred tax assets and liabilities are determined using the enacted tax rates in effect for the years in which those tax assets are expected to be realized. A valuation allowance is established when it is more likely than not that the future realization of all or some of the deferred tax assets will not be achieved.

Significant trends and uncertainties impacting our business

The global GI endoscopy market has been growing as a result of:

 

    increased governmental and payor focus on colorectal cancer screening, prevention and treatment of colorectal cancer and other GI conditions;

 

    an aging global population; and

 

    changing dietary habits.

Nonetheless, we face a number of challenges and uncertainties, including:

 

    lack of experience that GI customers have with our products (and our Fuse® system in particular) and their concerns that we are relatively new to the business of designing and manufacturing endoscopy systems;

 

    concerns that our competitors have greater financial and other resources than our company;

 

    entrenched relationships that our competitors have with potential customers and their competitive response and negative selling efforts against us; and

 

    reluctance by GI caregivers to change or to use new products and services for established procedures.

 

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Results of operations

Three months ended March 31, 2014 compared to the three months ended March 31, 2015

The following tables set forth amounts from our unaudited condensed consolidated financial statements along with the percentage changes for the three months ended March 31, 2014 and 2015 (dollars in thousands):

 

     Three months ended
March 31,
               
     2014      2015      Increase/
(Decrease)
 

Net revenues:

           

GI equipment and supplies

   $ 10,908       $ 13,795       $ 2,887         26.5

GI pathology services

     2,939         2,953         14         0.5
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues

  13,847      16,748      2,901      21.0
  

 

 

    

 

 

    

 

 

    

 

 

 

Cost of revenues:

GI equipment and supplies

  6,146      10,026      3,880      63.1

GI pathology services

  1,307      1,143      (164   -12.5
  

 

 

    

 

 

    

 

 

    

 

 

 

Cost of revenues

  7,453      11,169      3,716      49.9
  

 

 

    

 

 

    

 

 

    

 

 

 

Gross profit

  6,394      5,579      (815   -12.7
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating Expenses:

Research and development

  5,150      4,683      (467   -9.1

Sales and marketing

  6,509      8,243      1,734      26.6

General and administrative

  3,700      4,417      717      19.4

Amortization of intangible assets

  1,173      687      (486   -41.4
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating expenses

  16,532      18,030      1,498      9.1
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating loss

  (10,138   (12,451   (2,313   22.8

Other income (expense)

  (356   (2,624   (2,268   637.1
  

 

 

    

 

 

    

 

 

    

 

 

 

Net loss before income taxes

  (10,494   (15,075   (4,581   43.7

Income tax (benefit) expense

  384      199      (185   -48.2
  

 

 

    

 

 

    

 

 

    

 

 

 

Net loss

$ (10,878 $ (15,274 $ (4,396   40.4
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues. The following table sets forth, for the three months ended March 31, 2014 and 2015, our revenues by product category expressed as dollar amounts and the changes in revenues between the specific periods expressed in dollar amounts and as a percentage:

 

     Three months ended
March 31,
               
     2014      2015      Increase/
(Decrease)
 

Imaging

   $ 3,129       $ 5,504       $ 2,375         75.9

Single-Use Products

     7,779         8,291         512         6.6
  

 

 

    

 

 

    

 

 

    

 

 

 

GI equipment and supplies

  10,908      13,795      2,887      26.5

GI pathology services

  2,939      2,953      14      0.5
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues

$ 13,847    $ 16,748    $ 2,901      21.0
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues for GI equipment and supplies were $10.9 million for the three months ended March 31, 2014 compared to $13.8 million for the three months ended March 31, 2015, an increase of $2.9 million or 26.5%. Net revenues for GI pathology services were $2.9 million for the three months ended March 31, 2014 compared to

 

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$3.0 million for the three months ended March 31, 2015, an increase of 0.5%. The growth in net revenues for GI equipment was primarily attributable to a 75.9% increase in net revenues for our imaging products, the substantial majority of which was attributable to sales of our Fuse® systems. The growth in net revenues for GI equipment was also attributable to a 6.6% increase in net revenues for our single-use therapeutic devices and infection control products achieved through expansion of our customer base. GI pathology services revenue was influenced adversely by delays in GI endoscopy procedures caused by severe weather patterns in much of the U.S. during the three months ended March 31, 2015.

Cost of revenues. Cost of revenues for GI equipment and supplies were $6.1 million for the three months ended March 31, 2014 compared to $10.0 million for the three months ended March 31, 2015, an increase of $3.9 million, or 63.1%. Cost of revenues for GI pathology services were $1.3 million for the three months ended March 31, 2014 compared to $1.1 million for the three months ended March 31, 2015, a decrease of $0.2 million, or 12.5%. As a percentage of GI equipment and supplies revenues, cost of revenues for GI equipment and supplies were 56.3% for the three months ended March 31, 2014 compared to 72.7% for the three months ended March 31, 2015. As a percentage of GI pathology services revenues, cost of revenues for GI pathology services were 44.5% for the three months ended March 31, 2014 compared to 38.7% for the three months ended March 31, 2015. The increase in GI equipment and supplies costs is due to the launch of Fuse® and the initially lower gross margin of Fuse® during the ramp up of global manufacturing operations activities prior to achieving significant sales of Fuse®. The decrease in GI pathology costs relates to a reduction in headcount, supplies and customer acquisition costs, as well as the delayed timing of hiring additional personnel to backfill open positions. GI pathology costs as a percentage of revenue decreased during the three months ended March 31, 2015 due to achieving better economies of scale.

During 2015, we expect that cost of revenues as a percentage of net revenues may not decrease significantly and may even increase due to the ongoing launch of Fuse® and the continuing need to scale up manufacturing activities and costs prior to achieving the expected volume of sales. As we continue commercialization of Fuse® in the future beyond 2015, if we are able to achieve higher sales volumes and economies of scale in manufacturing, we expect cost of revenues to decrease as a percentage of net revenues as our per-unit manufacturing costs decline from the absorption of fixed manufacturing costs over higher production units as well as the introduction of design and sourcing programs to reduce the cost of direct materials. Our ability to achieve this goal to decrease cost of revenues as a percentage of revenues is dependent upon the reliability of our products and the widespread acceptance of Fuse®.

Gross profit. Gross profit was $6.4 million for the three months ended March 31, 2014 compared to $5.6 million for the three months ended March 31, 2015, a decrease of $0.8 million, or 12.7%, for the reasons discussed above.

Research and development. Research and development expense was $5.2 million for the three months ended March 31, 2014 compared to $4.7 million for the three months ended March 31, 2015, a decrease of $0.5 million, or 9.1%. The decrease in spending is primarily attributable to the timing of certain expenditures related to product launches and research and development projects. As a percentage of net revenues, research and development expense was 37.2% for the three months ended March 31, 2014 compared to 27.6% for the three months ended March 31, 2015. Research and development expense includes $0.9 million and $0.8 million for the three months ended March 31, 2014 and 2015, respectively, of labor and overhead costs associated with certain engineering activities required to advance the design of Fuse® for manufacture.

Sales and marketing. Sales and marketing expense was $6.5 million for the three months ended March 31, 2014 compared to $8.2 million for the three months ended March 31, 2015, an increase of $1.7 million, or 26.6%. The increase is primarily attributable to an impairment charge of $0.9 million taken on existing demonstration equipment as the Company plans to replace this equipment with new versions of Fuse®, as well as additional depreciation expense of $0.4 million on demonstration equipment deployed to the sales force and an increase of $0.6 million in employee-related expenses as we expand our sales and marketing organization. As a

 

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percentage of net revenues, sales and marketing expense was 47.0% for the three months ended March 31, 2014 compared to 49.2% for the three months ended March 31, 2015.

General and administrative. General and administrative expense was $3.7 million for the three months ended March 31, 2014 compared to $4.4 million for the three months ended March 31, 2015, an increase of $0.7 million, or 19.4%. The increase was due primarily to higher headcount, as we invested in our infrastructure and systems and added personnel to support the growth of the company and commercialization of Fuse®. As a percentage of net revenues, general and administrative expense was 26.7% for the three months ended March 31, 2014 compared to 26.4% for the three months ended March 31, 2015.

Amortization of intangible assets. Amortization of intangible assets was $1.2 million for the three months ended March 31, 2014 compared to $0.7 million for the three months ended March 31, 2015. The decrease of $0.5 million relates to fully amortizing the noncompete agreement associated with the 2013 acquisition of Peer.

Other income (expense). For the three months ended March 31, 2014 and 2015, other income and expense was as follows (dollars in thousands):

 

     Three months ended
March 31,
 
     2014      2015  

Interest expense

   $ (349    $ (1,591

Exchange rate gain (loss)

     108         (986

Other expense

     (115      (47
  

 

 

    

 

 

 

Other income (expense)

$ (356 $ (2,624
  

 

 

    

 

 

 

The increase in other expense of $2.3 million for the three months ended March 31, 2015 as compared to the three months ended March 31, 2014 was primarily due to foreign currency losses of $1.0 million in 2015 as compared to foreign currency gains of $0.1 million in 2014 and interest expense of $1.6 million related to borrowings and accretion of end of term fees under the Growth Capital Facility as compared to $0.3 million in 2014. The foreign currency loss in 2015 relates primarily to the impact of revaluing certain of our intercompany receivables and payables between our U.S., German and Israeli subsidiaries as a result of changes in the Euro and Shekel to U.S. dollar exchange rates.

Income tax (benefit) expense. Income tax expense was $0.4 million for the three months ended March 31, 2014 compared to income tax expense of $0.2 million for the three months ended March 31, 2015, a decrease of $0.2 million. The decrease was due to income taxes on foreign subsidiary earnings during the year.

Net loss. Net loss increased from $10.9 million for the three months ended March 31, 2014 to $15.3 million for the three months ended March 31, 2015 for the reasons discussed above, in particular the overall increase in operating expenses, interest expense and foreign currency losses.

 

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Year ended December 31, 2013 compared to the year ended December 31, 2014

The following tables set forth amounts from our consolidated statements of operations along with the percentage change for years ended December 31, 2013 and 2014 (dollars in thousands):

 

     Year ended December 31,                
     2013      2014      Increase/
(decrease)
 

Net revenues:

           

GI equipment and supplies

   $ 38,772       $ 48,824       $ 10,052         25.9

GI pathology services

     12,119         12,595         476         3.9
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues

  50,891      61,419      10,528      20.7
  

 

 

    

 

 

    

 

 

    

 

 

 

Cost of revenues:

GI equipment and supplies

  21,502      33,815      12,313      57.3

GI pathology services

  4,390      5,093      703      16.0
  

 

 

    

 

 

    

 

 

    

 

 

 

Cost of revenues

  25,892      38,908      13,016      50.3
  

 

 

    

 

 

    

 

 

    

 

 

 

Gross profit

  24,999      22,511      (2,488   -10.0
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating Expenses:

Research and development

  16,617      21,702      5,085      30.6

Sales and marketing

  18,148      27,660      9,512      52.4

General and administrative

  11,355      16,456      5,101      44.9

Amortization of intangible assets

  4,578      3,908      (670   -14.6
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating expenses

  50,698      69,726      19,028      37.5
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating loss

  (25,699   (47,215   (21,516   83.7

Other income (expense)

  223      (5,513   (5,736   —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Net loss before income taxes

  (25,476   (52,728   (27,252   107.0

Income tax (benefit) expense

  (1,558   916      2,474      -158.8
  

 

 

    

 

 

    

 

 

    

 

 

 

Net loss

$ (23,918 $ (53,644 $ (29,726   124.3
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues. The following table sets forth, for the years ended December 31, 2013 and 2014, our revenues by product category expressed as dollar amounts and the changes in revenues between the specific periods expressed in dollar amounts and as a percentage:

 

     Year ended
December 31,
               
     2013      2014      Increase/
(Decrease)
 

Imaging

   $ 8,072       $ 14,979       $ 6,907         85.6

Single-Use Products

     30,700         33,845         3,145         10.2
  

 

 

    

 

 

    

 

 

    

 

 

 

GI equipment and supplies

  38,772      48,824      10,052      25.9

GI pathology services

  12,119      12,595      476      3.9
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues

$ 50,891    $ 61,419      10,528      20.7
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues for GI equipment and supplies were $38.8 million for the year ended December 31, 2013 compared to $48.8 million for the year ended December 31, 2014, an increase of $10.0 million or 25.9%. Net revenues for GI pathology services were $12.1 million for the year ended December 31, 2013 compared to $12.6 million for the year ended December 31, 2014, an increase of $0.5 million or 3.9%. The growth in net revenues for GI equipment was due to increased sales volume rather than price increases and was primarily attributable to an 85.6% increase in net revenues for our imaging products, the substantial majority of which was attributable to

 

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initial sales of our new Fuse® system starting in the fourth quarter of 2013. The growth in net revenues for GI equipment was also attributable to a 10.5% increase in net revenues for our single-use therapeutic devices and infection control products achieved through expansion of our customer base. GI pathology revenue growth was influenced by the implementation of reimbursement cuts by payors at the beginning of both 2013 and 2014.

Cost of revenues. Cost of revenues for GI equipment and supplies were $21.5 million for the year ended December 31, 2013 compared to $33.8 million for the year ended December 31, 2014, an increase of $12.3 million, or 57.3%. Cost of revenues for GI pathology services were $4.4 million for the year ended December 31, 2013 compared to $5.1 million for the year ended December 31, 2014, an increase of $0.7 million, or 16.0%. As a percentage of GI equipment and supplies revenues, cost of revenues for GI equipment and supplies were 55.5% for the year ended December 31, 2013 compared to 69.3% for the year ended December 31, 2014. As a percentage of GI pathology services revenues, cost of revenues for GI pathology services were 36.2% for the year ended December 31, 2013 compared to 40.4% for the year ended December 31, 2014. The increase in GI equipment and supplies costs is due to the launch of Fuse® and the initially lower gross margin of Fuse®

during the ramp up of global manufacturing operations activities prior to achieving significant sales of Fuse®. The increase in GI pathology costs relates to an increase in volume of diagnostic tests performed as well as the timing of expenditures to increase our general scale of operations, including additional personnel. Additionally, GI pathology costs as a percentage of revenue increased during the year ended December 31, 2014 due to reimbursement cuts from payors in 2013 and 2014.

Gross profit. Gross profit was $25.0 million for the year ended December 31, 2013 compared to $22.5 million for the year ended December 31, 2014, a decrease of $2.5 million, or 10.0%, for the reasons discussed above.

Research and development. Research and development expense was $16.6 million for the year ended December 31, 2013 compared to $21.7 million for the year ended December 31, 2014, an increase of $5.1 million, or 30.6%. The increase in spending is attributable to our continued development of Fuse®. Research and development expense for the years ended December 31, 2013 and 2014 includes $5.7 million and $3.4 million, respectively, of labor and overhead costs associated with certain engineering activities required to advance the design of Fuse® for manufacture.

Sales and marketing. Sales and marketing expense was $18.1 million for the year ended December 31, 2013 compared to $27.7 million for the year ended December 31, 2014, an increase of $9.5 million, or 52.4%. The increase was due to the expansion of our sales and marketing team, depreciation expense on equipment used in demonstrations to prospective customers, increased marketing and promotional activities, such as trade shows, costs to support an expanded number of international distributors of our products and a higher level of general activities supporting the commercialization of Fuse®. The primary drivers of the increase were additional depreciation expense of $2.5 million on demonstration equipment deployed to the sales force and an increase of $4.5 million in employee-related expenses of our sales and marketing organization. As a percentage of net revenues, sales and marketing expense was 35.7% for the year ended December 31, 2013 compared to 45.0% for the year ended December 31, 2014.

General and administrative. General and administrative expense was $11.4 million for the year ended December 31, 2013 compared to $16.5 million for the year ended December 31, 2014, an increase of $5.1 million, or 44.9%. The increase was due primarily to higher headcount, as we invested in our infrastructure and systems and added personnel to support the growth of the company and commercialization of Fuse®. As a percentage of net revenues, general and administrative expense was 22.3% for the year ended December 31, 2013 compared to 26.8% for the year ended December 31, 2014.

Amortization of intangible assets. Amortization of intangible assets was $4.6 million for the year ended December 31, 2013 compared to $3.9 million for the year ended December 31, 2014. The decrease of $0.7 million relates to fully amortizing the noncompete agreement associated with the 2013 acquisition of Peer.

 

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Other income (expense). For the years ended December 31, 2013 and 2014, other income and expense was as follows (dollars in thousands):

 

     For the Years
Ended
December 31,
 
     2013      2014  

Interest expense

   $ (104    $ (3,950

Interest income

     31         —     

Exchange rate gain (loss)

     213         (1,027

Other income (expense)

     83         (536
  

 

 

    

 

 

 

Other income (expense)

$ 223    $ (5,513
  

 

 

    

 

 

 

The year-over-year increase in other expense of $5.7 million was driven by foreign currency losses of $1.0 million in 2014 as compared to foreign currency gains in 2013 and an increase in interest expense of $3.8 million primarily related to borrowings under the Growth Capital Facility as compared to immaterial interest expense in 2013. The foreign currency loss in 2014 relates primarily to the impact of revaluing certain of our intercompany receivables and payables between our U.S., German and Israeli subsidiaries as a result of changes in the Euro and Shekel to U.S. dollar exchange rates.

Income tax (benefit) expense. Income tax benefit was $1.6 million for the year ended December 31, 2013 compared to income tax expense of $0.9 million for the year ended December 31, 2014, an increase of $2.5 million. The increase was due to income taxes on foreign subsidiary earnings during the year.

Net loss. Net loss increased from $23.9 million for the year ended December 31, 2013 to $53.6 million for the year ended December 31, 2014 for the reasons discussed above, in particular the overall increase in operating expenses.

 

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Year ended December 31, 2012 compared to the year ended December 31, 2013

The following table sets forth amounts from our consolidated statements of operations along with the percentage change for years ended December 31, 2012 and 2013 (dollars in thousands):

 

     For the years ended
December 31,
               
        Increase/  
     2012      2013      (decrease)  

Net revenues:

           

GI equipment and supplies

   $ 25,249       $ 38,772       $ 13,523         53.6

GI pathology services

     8,968         12,119         3,151         35.1
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues

  34,217      50,891      16,674      48.7
  

 

 

    

 

 

    

 

 

    

 

 

 

Cost of revenues:

GI equipment and supplies

  13,101      21,502      8,401      64.1

GI pathology services

  4,024      4,390      366      9.1
  

 

 

    

 

 

    

 

 

    

 

 

 

Cost of revenues

  17,125      25,892      8,767      51.2
  

 

 

    

 

 

    

 

 

    

 

 

 

Gross profit

  17,092      24,999      7,907      46.3
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating expenses:

Research and development

  1,683      16,617      14,934      887.3

Sales and marketing

  11,465      18,148      6,683      58.3

General and administrative

  4,921      11,355      6,434      130.7

Amortization of intangible assets

  13      4,578      4,565      —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating expenses

  18,082      50,698      32,616      180.4
  

 

 

    

 

 

    

 

 

    

 

 

 

Operating loss

  (990   (25,699   (24,709   —     

Other income (expense)

  (211   223      434      -205.7
  

 

 

    

 

 

    

 

 

    

 

 

 

Net loss before income taxes

  (1,201   (25,476   (24,275   —     

Income tax benefit

  —        (1,558   (1,558   —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Net loss

$ (1,201 $ (23,918 $ (22,717   —     
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues. The following table sets forth, for the years ended December 31, 2012 and 2013, our revenues by product category expressed as dollar amounts and the changes in revenues between the specific periods expressed in dollar amounts and as a percentage:

 

     Year ended
December 31,
     Increase/
(Decrease)
 
     2012      2013     

Imaging

   $ 3,702       $ 8,072       $ 4,370         118.0

Single-Use Products

     21,547         30,700         9,153         42.5
  

 

 

    

 

 

    

 

 

    

 

 

 

GI equipment and supplies

  25,249      38,772      13,523      53.6

GI pathology services

  8,968      12,119      3,151      35.1
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues

$ 34,217    $ 50,891    $ 16,674      48.7
  

 

 

    

 

 

    

 

 

    

 

 

 

Net revenues for GI equipment and supplies were $25.2 million for the year ended December 31, 2012 compared to $38.7 million for the year ended December 31, 2013, an increase of $13.5 million or 53.6%. Net revenues for GI pathology services were $9.0 million for the year ended December 31, 2012 compared to $12.1 million for the year ended December 31, 2013, an increase of $3.1 million or 35.1%. The growth in net revenues in GI equipment and supplies and GI pathology services was attributable to increased demand for our imaging and infection control products and pathology services from a growing customer base.

 

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Cost of revenues. Cost of revenues for GI equipment and supplies were $13.1 million for the year ended December 31, 2012 compared to $21.5 million for the year ended December 31, 2013, an increase of $8.4 million, or 64.1%, due to higher sales volumes. Cost of revenues for GI pathology services were $4.0 million for the year ended December 31, 2012 compared to $4.4 million for the year ended December 31, 2013, an increase of $0.4 million or 9.1%. As a percentage of GI equipment and supplies revenues, cost of revenues for GI equipment and supplies were 51.9% for the year ended December 31, 2012 compared to 55.5% for the year ended December 31, 2013, as a result of the change in product mix and initial costs associated with the commercialization of Fuse® in December 2013. As a percentage of GI pathology services revenues, cost of revenues for GI pathology services were 44.9% for the year ended December 31, 2012 compared to 36.2% for the year ended December 31, 2013 as a result of our increasing scale of operation in pathology services.

Gross profit. Gross profit was $17.1 million for the year ended December 31, 2012 compared to $25.0 million for the year ended December 31, 2013, an increase of $7.9 million or 46.3% for the reasons discussed above.

Research and development. Research and development expense was $1.7 million for the year ended December 31, 2012 compared to $16.6 million for the year ended December 31, 2013, an increase of $14.9 million, or 887.3%. The increase in spending was solely due to the acquisition of Peer Medical in January 2013 and the subsequent continued development costs for Fuse®. Research and development expense for the year ended December 31, 2013 includes $5.7 million of labor and overhead costs associated with certain engineering activities required to advance the design of Fuse® for manufacture.

Sales and marketing. Sales and marketing expense was $11.5 million for the year ended December 31, 2012 compared to $18.1 million for the year ended December 31, 2013, an increase of $6.7 million, or 58.3%. The increase was due to the expansion of our sales and marketing team, the cost of demonstration supplies and depreciation on equipment used in demonstrations to prospective customers, increased marketing and promotional activities, trade show costs, costs to support an expanded number of international distributors of our products and a higher level of general activities supporting the commercialization of Fuse®. The primary driver of the increase was employee-related expenses of our sales and marketing organizations, which increased $5.1 million. As a percentage of net revenues, sales and marketing expense was 33.5% for the year ended December 31, 2012 compared to 35.7% for the year ended December 31, 2013.

General and administrative. General and administrative expense was $4.9 million for the year ended December 31, 2012 compared to $11.4 million for the year ended December 31, 2013, an increase of $6.4 million, or 130.7%. The increase was due to salary and benefit costs attributable to our increase in headcount as a result of the Peer Medical and RMS acquisitions and our organic growth, as well as a $0.5 million increase in excise taxes on the domestic sales of medical devices. As a percentage of net revenues, general and administrative expense was 14.4% for the year ended December 31, 2012 compared to 22.3% for the year ended December 31, 2013.

Amortization of intangible assets. Amortization of intangible assets was immaterial for the year ended December 31, 2012 as compared to $4.6 million for the year ended December 31, 2013, an increase of $4.6 million. The increase was due to the acquisition of Peer Medical and RMS in January 2013 and the subsequent amortization of intangible assets arising from those acquisitions.

 

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Other income (expense). For the years ended December 31, 2012 and 2013, other income and expenses were as follows (dollars in thousands):

 

     For the years ended
December 31,
 
     2012      2013  

Other income (expense)

   $ (3    $ 296   

Interest expense

     (208      (104

Interest income

     —           31   
  

 

 

    

 

 

 

Other income (expense)

$ (211 $ 223   
  

 

 

    

 

 

 

The increase in other income of $0.4 million from the year ended December 31, 2012 as compared to the year ended December 31, 2013 was primarily due to foreign currency transaction gains in 2013 related to our new foreign subsidiaries. The decrease in interest expense of $0.1 million from the year ended December 31, 2012 to the year ended December 31, 2013 was due to higher cash balances after a sale of equity securities on January 4, 2013 which financed the acquisitions of Peer Medical and RMS.

Income tax benefit. Income tax benefit was nil for the year ended December 31, 2012 compared to $1.6 million for the year ended December 31, 2013. The increase was due to the realization of a tax benefit on losses generated in our foreign subsidiaries in 2013.

Net loss. Net loss increased from $1.2 million for the year ended December 31, 2012 to $23.9 million for the year ended December 31, 2013, for the reasons discussed above, in particular, the overall increase in operating expenses due to the development and commercialization of Fuse®.

 

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Quarterly results of operations

The following table sets forth selected unaudited quarterly statements of operations data for our last nine completed fiscal quarters. The information for each of these quarters has been prepared on the same basis as the consolidated financial statements appearing elsewhere in this prospectus and, in the opinion of management, includes all adjustments necessary for their fair presentation of the results of operations for these periods. The quarterly results of operations presented should be read in conjunction with our consolidated financial statements and related notes appearing elsewhere in this prospectus, and are not necessarily indicative of our operating results for any future period.

 

  2013   2014   2015  
  March 31   June 30   September 30   December 31   March 31   June 30   September 30   December 31   March 31  
    (dollars in thousands)  

Net revenues:

                 

GI equipment and supplies

  $ 8,193      $ 9,126      $ 9,919      $  11,534      $ 10,908      $ 12,017      $ 10,723      $ 15,176      $ 13,795   

GI pathology services

    2,808        2,994        3,179        3,138        2,939        3,064        3,446        3,146        2,953   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net revenues

    11,001        12,120        13,098        14,672        13,847        15,081        14,169        18,322        16,748   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues:

                 

GI equipment and supplies

    4,126        4,733        5,559        7,085        6,146        8,397        7,122        12,150        10,026   

GI pathology services

    934        1,045        1,146        1,264        1,307        1,393        1,256        1,137        1,143   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cost of revenues

    5,060        5,778        6,705        8,349        7,453        9,790        8,378        13,287        11,169   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Gross profit

    5,941        6,342        6,393        6,323        6,394        5,291        5,791        5,035        5,579   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating Expenses:

                 

Research and development

    3,543        4,187        4,306        4,581        5,150        5,923        5,750        4,879        4,683   

Sales and marketing

    3,346        4,269        4,995        5,538        6,509        6,794        6,661        7,696        8,243   

General and administrative

    2,278        2,785        3,065        3,227        3,700        3,952        4,272        4,532        4,417   

Amortization of intangible assets

    1,116        1,127        1,117        1,218        1,173        1,188        818        729        687   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating expenses

    10,283        12,368        13,483        14,564        16,532        17,857        17,501        17,836        18,030   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Operating loss

    (4,342     (6,026     (7,090     (8,241     (10,138     (12,566     (11,710     (12,801     (12,451
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other income (expense)

                 

Other income (expense)

    (19     40        (19     294        (7     (270     (948     (338     (1,033

Interest expense

    (58     (13     (4     (29     (349     (740     (1,151     (1,710     (1,591

Interest income

    16        15        —          —          —          —          —          —          —     
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Other income (expense)

    (61     42        (23     265        (356     (1,010     (2,099     (2,048     (2,624
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss before income taxes

    (4,403     (5,984     (7,113     (7,976     (10,494     (13,576     (13,809     (14,849     (15,075

Income tax expense (benefit)

    (356     (256     (501     (445     384        132        218        182        199   
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net loss

  $ (4,047   $ (5,728   $ (6,612 )   $ (7,531   $ (10,878   $ (13,708   $ (14,027   $ (15,031   $ (15,274
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Seasonality and quarterly fluctuations

Our business is seasonal in nature. We have experienced and expect to continue to experience variability in our revenue and gross profit among quarters, as well as within each quarter, as a result of a number of factors, including adverse weather and by resetting of annual patient healthcare insurance plan deductibles, both of which tend to happen in the first quarter and may cause patients to delay elective procedures. Demand and timing for GI endoscopy procedures may be impacted by provider budgetary cycles and by the desire of patients to spend their remaining balances in flexible spending accounts or because they have met their annual deductibles under their health insurance plans. In addition, sale cycles for medical capital equipment such as our Fuse® system can be longer than other products, which may result in revenue variations caused by the timing of the receipt of customer orders or the shipment of our systems. In the third quarter, the number of GI endoscopy procedures in the U.S. and Europe is historically lower than other quarters throughout the year, which we believe is attributable to the summer vacations of GI specialists and their patients. Other factors that may cause variability in our results include: the number and mix of products sold in the quarter, the demand for, and pricing of, our products and the

 

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products of our competitors; the timing of or failure to obtain regulatory clearances or approvals for products; costs, benefits and timing of new product introductions; increased competition; the timing of the receipt of customer orders; changes in average selling prices; the availability and cost of components and materials; number of selling days, and fluctuations in foreign currency exchange rates.

Liquidity and capital resources

Overview

As of March 31, 2015, we had cash and cash equivalents of $33.0 million and an accumulated deficit of $(112.4) million compared to cash and cash equivalents of $13.8 million and an accumulated deficit of $(97.2) million as of December 31, 2014.

In February 2014, we entered into the Growth Capital Facility with Triple Point Capital whereby we have up to $40.0 million in financing consisting of a $20.0 million loan, a $10.0 million credit facility which could have been drawn on or before February 17, 2015, and an additional $10.0 million credit facility which could be drawn on or before August 17, 2015. We are currently in discussions to extend the term of this credit facility. In March 2014, the 2013 Silicon Valley Bank Senior Secured Credit Facility was amended and the credit facility was reduced from $15.0 million to $10.0 million in connection with the closing of the $40.0 million Growth Capital Facility. As of March 31, 2015, there was $39.5 million, net of discount, outstanding under the Growth Capital Facility and no amounts outstanding under the Senior Secured Credit Facility. The Growth Capital Facility and the Senior Secured Credit Facility are discussed below under the caption “Indebtedness.”

On October 30, 2014, we issued approximately $25.9 million of Class A units to existing members and certain of their affiliates to meet working capital needs. Part of these proceeds was used to pay off the outstanding balance on the Senior Secured Credit Facility, which remains fully available. On March 4, 2015, we issued $31.0 million of Class A units to new investors and existing members (and certain of their affiliates).

Our liquidity position and capital requirements may be impacted by a number of factors, including the following:

 

    our ability to generate revenues;

 

    fluctuations in gross margins, operating expenses and net loss; and

 

    fluctuations in working capital.

Our primary short-term capital needs, which are subject to change, include expenditures related to:

 

    support of our commercialization efforts related to Fuse®;

 

    expansion of our sales and marketing activities, including hiring new direct sales representatives;

 

    purchases of new product demonstration equipment, including colon models and other simulation equipment, used by our sales representatives and other personnel for Fuse® product demonstrations to GI specialists;

 

    improvements in our manufacturing capacity as sales of our Fuse® system and other products increase in the future, which will include the acquisition of equipment and other fixed assets related primarily to the manufacturing of our Fuse® system and our other products; and

 

    payment of interest due under our Growth Capital Facility.

Based on our current forecasts and anticipated market conditions, we believe that the anticipated net proceeds of this offering, together with our borrowing availability under the Senior Secured Credit Facility and our current cash balances will be sufficient to fund our liquidity needs until the middle of 2017. We regularly evaluate our cash requirements for current operations, commitments, capital requirements and business development transactions, and we may elect to raise additional funds for these purposes in the future.

 

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We may raise additional funds to finance future cash needs through public or private equity offerings, debt financings, receivables or royalty financings or corporate collaboration and licensing arrangements. The covenants under our credit facilities limit our ability to obtain additional debt financing. We cannot be certain that additional funding will be available on acceptable terms, or at all. Any failure to raise capital in the future could have a negative impact on our financial condition and our ability to pursue our business strategies.

If we raise additional funds by issuing equity securities or convertible debt, our stockholders will experience dilution. Debt financing, if available, would result in increased fixed payment obligations and may involve agreements that include covenants limiting or restricting our ability to take specific actions, such as incurring additional debt, making capital expenditures or declaring dividends. Any debt financing or additional equity that we raise may contain terms, such as liquidation and other preferences, which 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 valuable rights to our products, future revenue streams or product candidates or to grant licenses on terms that may not be favorable to us.

Cash flows

The following table provides a summary of our cash flows for the periods indicated (dollars in thousands):

 

     Year ended
December 31,
    Three months ended
March 31,
 
     2012     2013     2014     2014     2015  
                       (Unaudited)  

Net cash used in operating activities

   $ (2,593   $ (25,409   $ (43,623   $ (10,784   $ (10,421

Net cash used in investing activities

     (1,151     (5,709     (9,987     (2,974     (1,292

Net cash provided by financing activities

     3,426        38,783        59,496        13,983        31,000   

Cash flows from operating activities

Net cash used in operating activities was $10.8 million during the three months ended March 31, 2014 compared to $10.4 during the three months ended March 31, 2015, a decrease of $0.4 million. The decrease in net cash used in operating activities was primarily attributable to the $2.6 million decrease in the change in net operating assets and $2.1 million increase in non-cash charges, offset by the $4.4 million increase in net loss. The cash used in operations was primarily due to the ongoing commercialization of Fuse®. The decrease in the change in net operating assets was primarily due to decreases in inventory and other assets and an increase in accounts payable, accrued liabilities, and other liabilities. The non-cash charges primarily consisted of depreciation and amortization, loss on impairment of property and equipment, and an unrealized foreign currency loss.

Net cash used in operating activities was $25.4 million in 2013 compared to $43.6 in 2014, an increase of $18.2 million. The increase in net cash used in operating activities was primarily attributable to a $29.7 million increase in net loss, offset by a $6.4 million decrease in the change in net operating assets and $5.0 million increase in non-cash charges. The cash used in operations was primarily due to the ongoing commercialization of Fuse® and the expansion of our infrastructure in sales and marketing, research and development and manufacturing supply chain. The decrease in the change in net operating assets was primarily due to decreases in the change in accounts receivable, inventory, prepaid expenses and other current assets and other assets to support the growth of our operations. The non-cash charges primarily consisted of depreciation and amortization expense and deferred income taxes.

 

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Net cash used in operating activities was $2.6 million in 2012 compared to $25.4 in 2013, an increase of $22.8 million. The increase in net cash used in operating activities was primarily attributable to a $22.7 million increase in net loss and a $4.1 million increase in the change in net operating assets, offset by a $4.0 million increase in non-cash charges. The increase in the cash used in operations was primarily due to our sales growth and product adoption. The increase in net operating assets was primarily due to increases in the change in inventory, accounts receivable and prepaid expenses and other current assets to support the growth of our sales force, partially offset by increases in the change in accounts payable, accrued liabilities and other liabilities as we expanded our sales force and product portfolio. The non-cash charges primarily consisted of depreciation and amortization expense.

Cash flows from investing activities

Net cash used in investing activities was $3.0 million during the three months ended March 31, 2014 compared to $1.3 million during the three months ended March 31, 2015, a decrease of $1.7 million. The decrease in net cash used in investing activities was primarily attributable to a decrease in the deployment of Fuse® demonstration equipment.

Net cash used in investing activities was $5.7 million in 2013 compared to $10.0 million in 2014, an increase of $4.3 million. The increase in net cash used in investing activities was primarily attributable to a $4.8 million increase in the deployment of Fuse® demonstration equipment partially offset by the decrease in of cash payments in connection with acquisitions.

Net cash used in investing activities was $1.2 million in 2012 compared to $5.7 million in 2013, an increase of $4.5 million. The increase in net cash used in investing activities was primarily attributable to a $1.8 million increase in the deployment of Fuse® demonstration equipment and an increase in other capital expenditures associated with the global expansion of our infrastructure to support the commercialization of Fuse®.

Cash flows from financing activities

Net cash provided by financing activities was $14.0 million during the three months ended March 31, 2014 compared to $31.0 million during the three months ended March 31, 2015, an increase of $17.0 million. The increase in cash provided by financing activities was primarily attributable to the issuance of $31.0 million member units in March 2015.

Net cash provided by financing activities was $38.8 million in 2013 compared to $59.5 in 2014, an increase of $20.7 million. The increase in cash provided by financing activities was primarily attributable to proceeds from the issuance of member units of $26.1 million, drawdown of cash of $40.0 million under our Growth Capital Facility, offset by net repayments on the Senior Secured Credit Facility of $6.0 million and payment of financing fees and capital lease obligations of $0.6 million.

Net cash provided by financing activities was $3.4 million in 2012 compared to $38.3 million in 2013, an increase of $35.4 million. The increase in cash provided by financing activities was primarily attributable to the proceeds from the issuance of member units of $42.1 million and $2.2 million of net borrowings on the line of credit, offset by member distributions of $3.9 million, contingent consideration payments of $1.0 million, capital lease payments of $0.5 million and payment of financing fees of $0.1 million.

Indebtedness

Triple Point Growth Capital Facility

In February 2014, we executed a Growth Capital Facility with Triple Point, providing us with access to $40.0 million. This financing consists of three secured facilities, including a $20.0 million loan, a $10.0 million facility which could have been drawn on or before February 17, 2015 and an additional $10.0 million facility which could be drawn on or before August 17, 2015. As of March 31, 2015, we have drawn the full $40.0 million

 

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of available debt under this arrangement. Interest accrues on all three facilities at a rate of prime plus 8.50%. All three facilities mature on February 28, 2018. The Growth Capital Facility includes affirmative and negative covenants, including covenants restricting, among other things, indebtedness, investments, liens, dispositions of assets, restricted payments, consolidations and mergers, the amount of senior debt outstanding and transactions with affiliates. We granted warrants to purchase Class A units to Triple Point in connection with our entry into the Growth Capital Facility. As of March 31, 2015, 2,091,175 warrants were issued and outstanding. These warrants will convert into warrants to purchase shares of our common stock in connection with this offering. For additional information see “Corporate conversion” and “Pricing sensitivity analysis.” As of March 31, 2015 we were in compliance with all of the covenants in the Growth Capital Facility.

Silicon Valley Bank Senior Secured Credit Facility

In September 2013, we executed a Senior Secured Credit Facility with Silicon Valley Bank, which was amended in each of March 2014, July 2014 and December 2014. The Senior Secured Credit Facility, as amended, provides for $10.0 million of borrowing availability and bears interest at the “prime rate” plus 1.50%-2.50%. The amended Senior Secured Credit Facility contains affirmative covenants, including financial covenants requiring a minimum level of liquidity and revenue, measured on a quarterly basis. We failed to comply with certain of these covenants for the three months ended September 30, 2014. In December 2014, we entered into a modification and waiver agreement with Silicon Valley Bank, which waived testing of certain of these covenants for the three months ended September 30, 2014 and revised our financial covenants for periods after September 30, 2014. The amended Senior Secured Credit Facility also contains a number of negative covenants restricting, among other things, dispositions of assets, changes in business, management, ownership or business locations, mergers or acquisitions, indebtedness, encumbrances, maintenance of collateral accounts, distributions and investments, transactions with affiliates, and obligations related to subordinated debt and compliance. The full balance outstanding on the Senior Secured Credit Facility was paid off in November 2014, and as of March 31, 2015, we were in compliance with all covenants and no amounts were outstanding under the Senior Secured Credit Facility.

Contractual obligations and commitments

The following table summarizes our expected material contractual payment obligations as of December 31, 2014 (dollars in thousands):

 

     Payments due by period  
            Less than      1-3      3-5      More than  
     Total      1 Year      Years      Years      5 Years  

Long-term debt obligations (1)(2)

   $ 43,200       $ —         $ 32,996      $ 10,204      $ —    

Operating leases

     5,845         1,480         2,796         1,553         16   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 49,045    $ 1,480    $ 35,792    $ 11,757    $ 16  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 
(1) Under the terms of the Growth Capital Facility, principal payments begin March 2017 and continue until maturity on February 18, 2018.
(2) Includes aggregate end of term fees of $3,200 due at maturity of the Growth Capital Facility.

Off-balance sheet arrangements

We do not have any off-balance sheet arrangements.

Quantitative and qualitative disclosures about market risk

Interest rate risk

Our primary exposure to market risk relates to changes in interest rates on our debt. Our Growth Capital Facility bears interest at prime, plus 8.50%. As of March 31, 2015 we had $39.5 million, net of discount,

 

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outstanding under the Growth Capital Facility with an interest rate of 11.75%. Our Senior Secured Credit Facility bears interest at prime plus 1.50%-2.50%. As of March 31, 2015, we had no amounts outstanding under our Senior Secured Credit Facility.

Foreign currency risk

A portion of our operating expenses are incurred outside the United States, are denominated in foreign currencies and are subject to fluctuations due to changes in foreign currency exchange rates, particularly changes in the Euro and the Israeli Shekel. In 2013 and 2014, approximately 6.7% and 6.1%, respectively, of our sales were denominated in foreign currencies and approximately 30.4% and 27.7%, respectively, of our purchases were denominated in foreign currencies. For the three months ended March 31, 2014 and 2015, approximately 9.1% and 8.3%, respectively, of our sales were denominated in foreign currencies and approximately 31.0% and 20.4%, respectively, of our purchases were denominated in foreign currencies. Additionally, fluctuations in foreign currency exchange rates may cause us to recognize transaction gains and losses in our statements of comprehensive loss. To date, foreign currency transaction realized gains and losses have not been material to our consolidated financial statements, and we have not engaged in any foreign currency hedging transactions. As our international operations grow, we will continue to reassess our approach to managing the risks relating to fluctuations in currency rates.

Inflation risk

Inflation generally affects us by increasing our cost of labor and manufacturing and other costs. We do not believe that inflation had a material effect on our business, financial condition or results of operations during the years ended December 31, 2012, 2013 and 2014 or for the three months ended March 31, 2014 and 2015.

Critical accounting policies

Our discussion and analysis of our financial condition and results of operations are based on our consolidated financial statements, which have been prepared in accordance with GAAP. We have identified the accounting policies below as critical to understanding our financial condition and results of our operations. For a detailed discussion on the application of these and other accounting policies, see the notes to our consolidated financial statements.

Revenue recognition

We generate revenue primarily from the sales of GI products and services, including pathology services and endoscope repair services.

We recognize revenue when all of the following conditions are satisfied: (1) there is persuasive evidence of an arrangement; (2) delivery obligations to the customer related to the products or services have been satisfied; (3) the arrangement consideration is fixed or determinable; and (4) the collection of the revenue is reasonably assured. GI pathology service revenue is recognized as services are performed, net of estimated reimbursement adjustments by payors. These adjustments include contractual write-downs under health insurance contracts, rebates for billing errors and out of network charges. These estimates are based on the terms of contracts with health insurance payors and historical collections experience. Revenue from endoscope repair services, included in GI equipment and supplies revenue, are recognized ratably over the life of the contract. Deferred revenue is recorded for consideration received that is not yet earned due to outstanding obligations related to sales of products and services. Our policy is to classify shipping and handling costs billed to customers as revenues and the related expenses as costs of revenues.

Accounts receivable and allowance for doubtful accounts

Trade accounts receivable are recorded on our consolidated balance sheet at outstanding amounts, less the allowance for doubtful accounts. The allowance for doubtful accounts is set at a level that represents our best

 

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estimate of the amount of probable credit losses in our existing accounts receivable balance. The allowance is based on various factors, including an assessment of the collectability of specific customer accounts. In circumstances where a specific customer’s inability to meet its financial obligations is known or expected, we record a specific provision for bad debts to reduce the receivable to the amount that we believe will be collected. Accounts receivable are written off against the allowance for doubtful accounts when an account is deemed to be uncollectible. For the years ended December 31, 2012, 2013 and 2014, or for the three months ended March 31, 2014 and 2015, no customers accounted for greater than 10% of revenues or accounts receivable.

Inventories

Inventories consist primarily of equipment, devices and GI procedure support products. Inventories are valued at lower of cost or market value. Cost includes all purchase, conversion and other direct and indirect expenditures incurred in bringing the inventory to its existing condition and location. Wages and other related benefit costs of employees directly attributable to the production process and an allocated portion of other indirect production expenses (overhead) are included in inventory costs. Overhead expenses include both fixed and variable expenses which are allocated to inventory produced on a systematic basis. Cost is determined using the weighted average method. We regularly review inventory quantities in consideration of projected future demand, product life cycles, design changes and remaining shelf life to record a provision for excess and obsolete inventory when appropriate.

Goodwill, intangible assets and long-lived assets

Goodwill represents the cost in excess of the fair value of the identifiable net assets from the businesses that we acquire. We evaluate goodwill for impairment on an annual basis or more frequently if facts and circumstances warrant a review. We apply a quantitative impairment analysis using the two step method. Under the first step, the fair value of the reporting unit is compared with its carrying value (including goodwill). If the fair value of the reporting unit is less than its carrying value, we will recognize the amount of the impairment loss for any excess carrying amount of the reporting unit’s goodwill over the implied fair value of that goodwill. The implied fair value of goodwill is determined by allocating the fair value of the reporting unit in a manner similar to a purchase price allocation and the residual fair value after this allocation is the implied fair value of the reporting unit goodwill.

Intangible assets consist primarily of customer relationships, developed technology, and other assets. Finite-lived intangible assets are amortized on a straight-line basis over their estimated useful lives. Finite-lived intangible assets are amortized on a straight-line basis over their estimated useful lives. Intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Factors that we consider in deciding when to perform an impairment review include significant under-performance of an asset in relation to expectations, significant negative industry or economic trends, and significant changes or planned changes in our use of the asset. If circumstances indicate potential impairment of an intangible asset, we compare the undiscounted cash flows expected to be generated by the asset to the carrying amount of the asset. If the carrying amount of the intangible asset is not recoverable on an undiscounted cash flow basis, impairment is recognized to the extent that the carrying amount exceeds its fair value. We determine fair value using the income approach based on the present value of expected future cash flows or other appropriate measures of estimated fair value. We did not record an impairment charge related to intangible assets during the years ended December 31, 2012, 2013 and 2014 or during the three months ended March 31, 2015.

Stock-based compensation

We recognize stock-based compensation expense for stock option awards provided to our employees. We measure stock-based compensation cost at grant date based on the estimated fair value of the award and recognize the service-based cost on a straight-line basis (net of estimated forfeitures) over the employee’s vesting period. The compensation expense with respect to liquidity event based awards is recognized if we believe it is

 

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probable that the liquidity event will be achieved. We reassess the probability of the achievement of the liquidity event at each reporting period, and adjust the compensation expense for subsequent changes in the estimate or actual outcome. A liquidity event includes (1) a sale of our company, including the sale, lease, license, transfer, conveyance or other disposition of all or substantially all of our consolidated assets, (2) the acquisition of more than 50% of the voting power of all our outstanding units, or (3) the dissolution, liquidation or winding-up of our company. Our incentive units vest over a four year period and contain a minimum valuation threshold that must be met upon a liquidity event before the participant is entitled to a distribution on the units. The liquidity event is considered a performance condition.

Assuming the successful completion of this offering, we expect to incur a non-cash charge in the quarter the offering is closed of approximately $1.5 million for previously unrecognized stock-based compensation expense related to the conversion of the vested portion of our incentive units into shares of our common stock as part of the corporate conversion described in “Corporate conversion.” Each vested incentive unit will convert in the corporate conversion into a number of shares of common stock representing the excess of the public offering price per share in this offering over the per unit price calculated based on the minimum valuation threshold for the incentive units set by our board of directors upon granting such incentive units. The weighted average minimum valuation threshold per incentive unit was $142 million as of March 31, 2015. Based on the estimated fair value of historical grants (net of estimated forfeitures) and assuming the successful completion of this offering, future non-cash stock-based compensation expense for incentive units as of June 30, 2015 is expected to be as follows (dollars in thousands):

 

     Total      Cost of
revenue
     Research &
development
     Sales &
marketing
     General &
administrative
 

2015 (remaining)

   $ 151       $ 3       $ 6       $ 22       $ 120   

2016

     302         7         11         43         241   

2017

     241         6         8         29         198   

2018

     94         1         —           3         90   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

$ 788    $ 17    $ 25    $ 97    $ 649   
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

If there are any modifications or cancellations of the underlying unvested securities, the company may be required to accelerate, increase or cancel any remaining unearned stock based compensation expense. Future stock-based compensation expense and unearned stock based compensation will increase to the extent that the company grants additional share-based payments.

The following tables summarize by class and grant date the number of options granted from inception through the date of this prospectus, as well as the associated per share exercise price and the estimated intrinsic value per share of our units on the grant date:

Class B options

 

Grant date

   Number of units subject to
options granted
     Option exercise price      Intrinsic value per
underlying unit at date of
grant
 

11/17/07-12/31/07

     100,000       $ 0.23       $ —     

1/1/08-8/11/08

     1,294,500       $ 0.23       $ —     

1/1/09-12/16/09

     680,285       $ 0.23       $ —     

2/5/10-9/22/10

     519,000       $ 0.23       $ —     

3/9/11-6/30/11

     301,000       $ 0.27       $ —     

1/24/12-3/1/12

     738,819       $ 0.27       $ —     

 

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Class C options

 

Grant date

   Number of units subject to
options granted
     Option exercise price      Intrinsic value per
underlying unit at date of
grant
 

3/1/10-10/1/10

     104,924       $ .00-1.00       $ —     

1/1/11-11/6/11

     32,817       $ 1.00-5.00       $ —     

1/1/12-9/28/12

     2,250       $ 1.00       $ —     

Incentive unit grants

 

Grant date

   Number of
incentive units
granted
 

6/25/13-11/22/13

     11,738,566   

1/5/14-8/18/14

     1,269,359   

We estimate the fair value of each option award on the grant date using the Black-Scholes-Merton option-pricing model. The model requires the use of the following assumptions: the fair value of our units, an expected dividend yield, expected volatility, risk-free interest rate and expected term.

Fair value of our units. Due to the absence of an active market for our units before this offering, the fair value of our units for purposes of determining the fair value of incentive units was determined in good faith by our board, with the assistance and upon the recommendation of management, based on a number of objective and subjective factors consistent with the methodologies outlined in the American Institute of Certified Public Accountants Practice Aid, Valuation of Privately-Held-Company Equity Securities Issued as Compensation, or the AICPA Practice Aid, including:

 

    contemporaneous related party valuations of our common shares;

 

    the common shares underlying the award involved illiquid securities in a private company;

 

    our financial condition and operating results, including our projected results;

 

    the material risks related to our business;

 

    our stage of development and business strategy; and

 

    the likelihood of achieving a liquidity event for the holders of our common shares and options such as an initial public offering given prevailing market conditions.

Expected dividend yield. We have not paid and do not expect to pay dividends on our common stock; therefore, we use a zero percent dividend rate.

Expected volatility. Since there has been no public market for our common stock and lack of company specific historical volatility, we have determined the share price volatility for options granted based on an analysis of the volatility of a peer group of publicly traded companies. In evaluating similarity, we consider factors such as industry, stage of life cycle and size.

Risk-free interest rate. The risk-free interest rate is based on the U.S. Treasury yield in effect at the time of the grant for zero-coupon U.S. Treasury notes with remaining terms similar to the expected term of the options.

Expected term. The expected term represents the period that our option awards are expected to be outstanding. Because we do not have sufficient historical experience for determining the expected term, we have based our expected term on the simplified method available under GAAP, which utilizes the midpoint between the vesting date and the end of the contractual term.

 

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Periodically, a contemporaneous valuation (within the meaning of such term under the AICPA Practice Aid) of our Class A common shares was performed by a third party to determine the fair value of our incentive units. At each grant date, the board considered whether any events or circumstances occurred between the date of the valuation and the date of the grant that would indicate a significant change in the fair value of our common shares during that period. For all of the contemporaneous valuations performed, two commonly accepted valuation approaches were applied to estimate our enterprise value: the guideline public company method and the guideline transactions method. These methods both select a valuation multiple from comparable public companies or transactions, making adjustments for our strengths and weaknesses relative to the selected companies and apply it to our operating data to determine an indication of our enterprise value. Our valuations utilized a multiple of Adjusted EBITDA to enterprise value of comparable companies and transactions, applied to our historical and prospective Adjusted EBITDA to arrive at an indication of the fair value. This metric was selected because we believe it is the most appropriate valuation of a company with our capital structure and is commonly used by investors and analysts within our industry.

Once we have determined an estimated fair value, we adjust that value for expected forfeitures to represent the value of the award that we expect to vest. We estimate forfeitures based on a historical analysis of our actual forfeiture experience. We recognize the expense on a straight-line basis over the requisite service period of the award. At the end of each period, we review the estimated forfeiture rate and, as applicable, make changes to the rate calculations to reflect new developments. Stock-based compensation cost is recorded in direct costs and selling, general and administrative in the consolidated statements of operations and comprehensive loss based on the employees’ respective function.

There are significant judgments and estimates inherent in the determination of fair value. These judgments and estimates include determinations of an appropriate valuation method and the selection of appropriate inputs to be used in the valuation model. The use of alternative assumptions, including expected term, volatility, risk-free interest rate and dividend yield, could cause share-based compensation to differ significantly from what has been recorded in the past. Future share-based compensation cost will increase when we grant additional equity awards to employees. Modifications, cancellations or repurchases of awards may require us to accelerate any remaining unearned share-based compensation cost or incur additional cost.

JOBS Act

We qualify as an “emerging growth company” pursuant to the provisions of the JOBS Act. For as long as we are an “emerging growth company,” we may take advantage of certain exemptions from various reporting requirements that are applicable to other public companies that are not “emerging growth companies,” including, but not limited to, not being required to comply with the auditor attestation requirements of Section 404(b) of the Sarbanes-Oxley Act, reduced disclosure obligations regarding executive compensation in our periodic reports and proxy statements, reduced disclosure obligations relating to the presentation of financial statements in Management’s Discussion and Analysis of Financial Condition and Results of Operations, exemptions from the requirements of holding advisory “say-on-pay” votes on executive compensation and shareholder advisory votes on golden parachute compensation. We have availed ourselves of the reduced reporting obligations and executive compensation disclosure in this prospectus, and expect to continue to avail ourselves of the reduced reporting obligations available to emerging growth companies in future filings.

In addition, an emerging growth company can delay its 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 plan to comply with any new or revised accounting standards on the relevant dates on which non-emerging growth companies must adopt such standards. 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.

 

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Recently issued accounting pronouncements

On May 28, 2014, the FASB issued ASU No. 2014-09, Revenue from Contracts with Customers (Topic 606). ASU 2014-09 will eliminate transaction- and industry-specific revenue recognition guidance under current GAAP and replace it with a principle based approach for determining revenue recognition. ASU 2014-09 will require that companies recognize revenue based on the value of transferred goods or services as they occur in the contract. The ASU also will require additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. ASU 2014-09 is effective for reporting periods beginning after December 15, 2016, and early adoption is not permitted. Entities can transition to the standard either retrospectively or as a cumulative-effect adjustment as of the date of adoption. We are currently evaluating the impact of the future adoption of this standard.

In August 2014, the FASB issued ASU No. 2014-15, Presentation of Financial Statements—Going Concern (Subtopic 205-40): Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern. ASU 2014-15 will explicitly require management to assess an entity’s ability to continue as a going concern at each annual and interim period. Related footnote disclosures will be required if conditions give rise to substantial doubt about an entity’s ability to continue as a going concern within one year after the report issuance date. If conditions do not give rise to substantial doubt, no disclosures will be required specific to going concern uncertainties. The ASU defines substantial doubt using a likelihood threshold of “probable” similar to the current use of that term in GAAP for loss contingencies and provides example indicators. ASU 2014-15 is effective for reporting periods ending after December 15, 2016, and early adoption is permitted. We are currently evaluating the impact of the future adoption of this standard, but we do not expect the adoption to have a material effect on our consolidated financial statements.

In April 2015, the FASB issued ASU 2015-03, Interest—Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. ASU 2015-03 will require an entity to present debt issuance costs in the balance sheet as a direct deduction from the carrying amount of the related debt liability rather than as an asset, consistent with the treatment of debt discounts. The amendment does not change the recognition and measurement guidance for debt issuance costs and the amortization of debt issuance costs will continue to be reported as interest expense. ASU 2015-03 is effective for annual reporting periods beginning after December 15, 2016. Early adoption is permitted. The new guidance will be applied retrospectively to each prior period presented. We are currently evaluating the impact of the future adoption of this standard.

 

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BUSINESS

Overview

We are a medical device company focused exclusively on designing and commercializing a platform of innovative products and services for gastrointestinal, or GI, caregivers. We currently serve over 2,500 GI departments that perform endoscopic procedures, which represent approximately one-third of the U.S. market. We offer a comprehensive range of products and services that span single-use devices and infection control products, pathology and imaging systems. In December 2013, we began limited commercialization of our Fuse® full spectrum endoscopy system, or Fuse®. Our Fuse® system enables GI specialists to see more than twice the anatomy at any one time compared to standard, forward-viewing colonoscopes and has been clinically demonstrated to detect 69% more pre-cancerous polyps than standard colonoscopes. We believe our commitment to continuing innovation and focus on GI specialists provides us with the unique capability to meet their evolving needs. We intend to leverage our broad product platform, established customer relationships, commercial infrastructure and Fuse® technology to set a new standard of care for the global GI market.

We estimate that the addressable worldwide market for our GI endoscopy products and services is over $6 billion, with more than 70 million GI endoscopies performed each year in the United States, Japan and Europe combined. We estimate that the addressable market for our GI endoscopy products and services is growing at 7% annually driven by increased governmental and payor focus on screening, prevention and treatment of colorectal cancer and other GI conditions, an aging global population and changing dietary habits. GI endoscopies involve inserting a thin tube containing a camera or cameras into a natural orifice of the patient to examine the upper or lower GI tract in order to screen for, diagnose and treat various GI conditions, including colorectal cancer. GI endoscopies require a large number of steps, including setup, imaging, therapy, specimen retrieval, pathology and endoscope disinfection and repair, which we refer to collectively as the GI procedure cycle. The GI endoscopy market is highly fragmented and served by numerous companies, many of which focus on only one or two areas of the GI procedure cycle. We believe the needs of GI specialists are currently underserved due to the lack of a comprehensive provider solely focused on innovation in the GI endoscopy market.

We founded our company to serve the evolving needs of GI specialists by continually bringing to market a broad suite of innovative products across the GI procedure cycle. Since we began our commercial operations in 2008, we have developed an extensive line of devices and infection control products and have added pathology and scope repair services capabilities. Our products and services are designed to improve clinical outcomes and GI specialist productivity. For example, our CinchPad® product improved the transport process of endoscopes after use and eliminated the need to clean contaminated transport trays. In 2013, we acquired Peer Medical Ltd., which was developing a new endoscope system that we now call Fuse®. Our focus on product innovation and services that span the GI endoscopy procedure cycle has enabled our direct salesforce to penetrate approximately one-third of the GI departments in the United States in just six years while increasing our sales per customer over that time.

Our products are used in colonoscopy and procedures of the upper GI tract (including EGD), which represent approximately 15 million and 8 million annual procedures in the United States, respectively, and together account for 96% of all GI endoscopic procedures. Colonoscopy is used for the screening, surveillance and diagnosis of GI diseases including colorectal cancer, inflammatory bowel disease and GI bleeding. Colorectal cancer is one of the most common forms of cancer and is the second leading cause of cancer related deaths in the United States with approximately 130,000 new patients diagnosed and over 50,000 deaths in the United States each year. However, colorectal cancer is considered one of the most preventable cancers, as pre-cancerous polyps typically take approximately 10 years to progress into cancer. Colonoscopy enables pre-cancerous polyps to be identified and removed early in their progression. As a result, colonoscopy is considered the gold standard in colorectal cancer screening and has well-established reimbursement in most developed countries. Furthermore, the National Colorectal Cancer Roundtable has set a goal to increase colorectal cancer screening rates for specified demographics from approximately 60% currently to 80% by 2018. Although

 

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colonoscopy is the most accurate and comprehensive method for colorectal cancer screening, multiple clinical studies have found that GI specialists using standard, forward-viewing endoscopes fail to identify up to 41% of pre-cancerous polyps.

Our Fuse® system, which is intended for visualization of the GI tract and related therapeutic interventions, enables a wider field of view for upper and lower endoscopy procedures. Specifically, the Fuse® colonoscope offers a 330° view of the colon during colonoscopy instead of the 140° to 170° view offered by standard colonoscopes. This enables the GI specialist to visualize more than twice the anatomy at any one time as compared to a standard colonoscope and improves the ability to more thoroughly examine the colon without prolonging the time to complete the colonoscopy. According to the results of a tandem clinical trial published in The Lancet Oncology, GI specialists using Fuse® during colonoscopy identified 69% more pre-cancerous polyps than when using standard endoscopes. The improved detection is clinically important not only because the pre-cancerous polyp is removed during the procedure, but also because clinical guidelines recommend more frequent colonoscopies following initial detection of pre-cancerous polyps. Further, we believe that increased adoption of Fuse® for colorectal cancer screening could result in significant savings to healthcare payors given the high cost of colorectal cancer related surgical intervention and subsequent treatment. The costs of surgeries and related care can be significant, with total costs to the U.S. healthcare system estimated to exceed $8 billion per year.

Since the company’s founding in 2008, we have grown our revenues from $1.3 million in 2008 to $61.4 million in 2014. We have also grown our number of GI department customers in the United States from nearly 500 in 2009 to over 2,500 today. In addition to our direct salesforces in the United States and Germany, our products are sold by distributors in 25 countries. We are headquartered in Alpharetta, Georgia and maintain manufacturing and development centers in Halstenbek, Germany and Caesarea, Israel.

Industry overview

Overview of our market

Based upon industry sources, we estimate the addressable worldwide market opportunity for our GI endoscopy products and services, including all devices, infection control products, pathology services and imaging systems that serve this market, to be over $6 billion. We estimate that the U.S. market represents one-third of the total global opportunity. We believe that the addressable global market for our GI endoscopy products and services is growing at 6% per year, with growth being driven by increased governmental and payor focus on screening, prevention and treatment of colorectal cancer and other GI conditions, an aging global population, and changing dietary habits. Endoscopy refers to the insertion into the body, through an external orifice, of a long tube with a camera attached to it, to enable visualization of the interior cavity via a monitor in the procedure room. Endoscopes can be used to visualize a variety of anatomy ranging from the lungs to the GI tract. The procedures are generally conducted under conscious sedation in hospitals, ASCs, clinics and GI specialist offices. Colonoscopy and upper GI endoscopy procedures have been accepted as clinical practice for more than 40 years with both coding and reimbursement structures in place in all developed countries.

 

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Within the GI tract, endoscopy focuses on either the lower GI tract, including colonoscopy, or the upper GI tract, including EGD and other procedures. The table below summarizes the purposes of the most common GI endoscopy procedures and provides our estimates of their volume in the United States and international markets in Europe and Japan.

 

Types of endoscopy

  

Estimated
annual
procedures in
the United
States

   Estimated
annual
procedures in
Europe and
Japan
  

Purpose

Colonoscopy

   15.0 million    14.2 million   

•  Colorectal cancer screening, polyp removal and surveillance

•  Irritable bowel syndrome

•  Evaluating causes of anemia, rectal bleeding, unexplained weight loss and abdominal/rectal pain

•  Colitis and Crohn’s disease detection and treatment

EGD

   8.0 million    27.6 million   

•  Abdominal pain

•  Treatment and monitoring of GERD or heartburn

•  Gastric and esophageal cancer screening

•  Removal of foreign objects

Underlying diseases and market drivers

The prevalence of certain GI conditions and cancers as well as screening guidelines vary by geography. In the United States, colonoscopies represent approximately 62% of GI endoscopy procedure volume, and established guidelines exist for routine colon cancer screening for patients over age 50 or otherwise determined to be at higher risk. In contrast, regions such as Asia and Latin America typically place a greater emphasis on upper GI screening due to a higher prevalence of certain upper GI conditions. For instance, both gastric screening and colonoscopy guidelines are in place in Japan.

Lower GI endoscopies. We estimate that there are approximately 15 million colonoscopies performed each year in the United States. Some procedures are for the diagnosis and treatment of symptomatic conditions such as irritable bowel syndrome, rectal bleeding, colitis and Crohn’s disease, while others are related to colorectal cancer screening and surveillance. Patients are screened for colorectal cancer based on either prescribed guidelines, such as initial screening at age 50, or symptomatic conditions, and then surveyed subsequently at intervals as determined by the screening results. As a result of colonoscopy and other screenings, each year, approximately 1.4 million patients worldwide are diagnosed with colorectal cancer. However, colorectal cancer is highly preventable as it almost always evolves from pre-cancerous polyps, typically referred to by GI specialists as adenomas, that can be identified and removed during colonoscopy. Polyps refer to a growth on the lining of the colon or rectum, most of which are benign, but some of which ultimately may become cancerous. The progression of a pre-cancerous polyp to cancer typically takes approximately 10 years.

An estimated 40-50% of people in developed countries are believed to develop one or more pre-cancerous polyps during their lifetime and an estimated 5-6% of the total global population will have pre-cancerous polyps that progress to colorectal cancer. Pre-cancerous polyps found during a colonoscopy procedure are removed by biopsy forceps or a snare. Studies have shown that the complete removal of a pre-cancerous polyp during colonoscopy virtually eliminates the risk that the removed pre-cancerous polyp will result in colorectal cancer.

When colorectal cancer is discovered and treated at an early stage, the five year survival rate of patients is greater than 90%. However, presently only 39% of colorectal cancers are found at early, or pre-cancerous, stages. Once pre-cancerous polyps progress to clinical cancer, the cost of surgeries and related care can be significant. The total costs to the U.S. healthcare system are estimated to exceed $8 billion per year. Additionally, surgeries and related care for colorectal cancer can have negative quality of life implications and may require

 

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chemotherapy, radiation therapy and/or invasive surgery to remove part or all of the colon and permanent transition to an ostomy bag. Multiple clinical studies have demonstrated that higher screening rates in compliance with applicable guidelines and improved pre-cancerous polyp detection during colonoscopies would likely reduce a patient’s risk of colorectal cancer and the associated cost to the wider healthcare system.

Because colonoscopies have been clinically shown to be highly effective at screening for and removing pre-cancerous polyps, the United States, Japan, Australia, and most western European nations have screening guidelines in place for colonoscopy. These guidelines typically take the following form:

 

    Routine screening for patients over a certain age depending on prior diagnostic results. Typically, screening for colorectal cancer begins at age 50 in the United States and subsequently continues at set intervals based on prior diagnostic results. During the screening colonoscopy procedure, any pre-cancerous polyps are removed for histological examination.

 

    More frequent screening for patients determined to be at risk based upon familial history or racial group. People with a familial history of colorectal cancer or other related GI conditions as well as those racial or ethnic groups with higher incidence rates may be screened earlier in some countries. In the United States, some experts recommend African-Americans should begin screening at age 45.

 

    Surveillance of previously screened patients. After the first, or index, screening colonoscopy, a patient will be placed into a recall program for future colonoscopies based upon applicable screening guidelines in their respective country. The number of pre-cancerous polyps, as well as the morphology and size of the polyps, determine the screening interval. Therefore, the ability of the endoscopy system to find all polyps present in the colon is important to the patient, the GI specialist and payors.

In addition to screening for colorectal cancer, patients presenting with lower GI symptoms may be referred to colonoscopy as a diagnostic procedure.

The U.S. Guidelines for colonoscopy surveillance following initial screening are summarized in the table below.

 

Baseline colonoscopy–most advanced finding(s)*

  

Recommended surveillance interval (years)*

•    No polyps

   10

•    Small (<10mm) hyperplastic polyps in rectum or sigmoid

   10

•    1-2 small (<10mm) tubular adenomas (a specific type of pre-cancerous polyp)

   5-10

•    3-10 tubular adenomas

  

3

•    One or more tubular adenomas 10mm or greater

   3

•    One or more villous adenomas (a specific type of pre-cancerous polyp)

   3

•    Adenoma with HGD (a specific type of pre-cancerous polyp)

   3

•    >10 tubular adenomas

   <3

•    Sessile serrated polyp(s) (<10mm) with no dysplasia

   5

•    Sessile serrated polyp(s) 10mm or greater

   3

•    Sessile serrated polyp(s) with dysplasia

   3

•    Traditional serrated adenoma (a specific type of pre-cancerous polyp)

   3

•    Serrated polyposis syndrome

   1

 

* Lieberman et al, “Guidelines for Colonoscopy Surveillance After Screening and Polypectomy; A Consensus Update by the US Multi-Society Task Force on Colorectal Cancer”. Gastroenterology, 2012; 143:844-857.

 

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Some western European countries have introduced a preliminary step before colonoscopy into their screening programs. In these countries, the patient is first asked to perform a non-invasive “at home” stool test referred to as either a fecal occult blood test, or FOBT, or fecal immunochemical test, or FIT. A physician interprets the results and if the results of this test are positive, the patient is instructed to proceed to a colonoscopy. In the United States, FOBT and FIT are sometimes used as adjuncts to colonoscopy, but insurance companies generally do not require their use prior to screening colonoscopy. FDA recently approved a non-invasive, DNA-based stool test for use in the United States as an alternative option to screen for colorectal cancer. The newly approved test detects hemoglobin, a protein molecule that is a component of blood as well as certain mutations associated with colorectal cancer, in the DNA of cells shed by advanced pre-cancerous polyps, as stool moves through the large intestine and rectum. We do not believe this or other stool tests will replace endoscopy as the primary screening method for colorectal cancer. See “Competition.”

In the United States, approximately 55% to 60% of all eligible people participate in the colorectal screening process in some manner. The United States and many other nations have set goals to reach 80% participation by 2018. Patients sometimes self-refer directly to an endoscopist for a screening colonoscopy but often the referring physician is the family doctor, general practitioner or gynecologist.

Despite the effectiveness of early treatment of pre-cancerous polyps and colorectal cancer and the effectiveness of colonoscopy in identifying many cancerous and pre-cancerous polyps, the Lancet Study found that GI specialists using standard, forward-viewing colonoscopes failed to identify 41% of pre-cancerous polyps. A standard, forward-viewing colonoscope allows a GI specialist only a 140° to 170° view of the colon, resulting in less of the interior anatomy being visualized and a lower likelihood of visualizing a pre-cancerous polyp, particularly one hidden behind a fold of the colon.

The implications of finding the first and any incremental pre-cancerous polyps are significant to the patient and practitioner. If the patient has one pre-cancerous polyp and it is missed during colonoscopy, the patient might not return for a follow-up colonoscopy for ten years. During this time, the pre-cancerous polyp could progress to a cancer. Finding a pre-cancerous polyp in an initial screening shifts the patient to a more frequent screening rate under current guidelines. For the GI specialist, the income potential of performing a medically necessary surveillance procedure after five years may be lost if a pre-cancerous polyp is missed.

Upper GI endoscopies. We estimate that there are approximately 8 million EGDs and other procedures of the upper GI tract performed each year in the United States. The majority of the upper GI procedures in the United States are performed to evaluate and treat patients with conditions such as heartburn, GERD, gastritis, strictures, liver and pancreatic diseases. Additionally, upper GI endoscopies are performed to screen for and diagnose upper GI cancers such as stomach, esophageal, liver and pancreatic cancer. Each year, nearly one million people worldwide are diagnosed with upper GI cancers.

In geographies where upper GI cancers have higher incidence rates, such as certain countries in each of Latin America and Asia, gastric screening guidelines are in place for patients above a certain age, generally 40. In the United States, routine endoscopic screening of the upper GI tract is only recommended for patients deemed to be at high risk for upper GI cancers, such as patients with chronic GERD or Barrett’s esophagus. In contrast with colorectal cancer, not all upper GI cancers are preventable.

GI endoscopic procedure cycle

Colonoscopies and other GI endoscopy procedures require a number of steps to be performed and a host of products and services are utilized in the completion of every case. Proper infection control steps must be taken between procedures, requiring the use of single-use infection control products. Once the scope is inserted into the patient’s body, a variety of therapeutic and specimen retrieval products may be used, depending on the procedure. In cases where a tissue specimen is obtained, the tissue sample or specimen is usually sent to a pathologist for examination. After usage, the endoscope must be cleaned and disinfected (commonly referred to collectively as

 

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“reprocessing”) for the next case. We refer to these steps collectively as the GI procedure cycle and a representative diagram is depicted below. As discussed in greater detail below, and as noted on the following chart, we provide a number of products and services that together cover each step of the GI procedure cycle.

 

LOGO

We estimate that more than 200 companies serve the GI endoscopy market, with many focused on one or two aspects of the procedure cycle, such as devices, infection control, pathology or imaging systems.

We estimate that the addressable worldwide market for our GI endoscopy products and services presents an over $6 billion annual opportunity that includes devices, infection control products, pathology services and imaging systems. The product breakdown of the addressable market for our GI endoscopy products and services is shown in the chart below.

 

LOGO

 

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Trends affecting the GI endoscopy market

According to industry sources, there are approximately 11,000 physicians in the United States who specialize in gastroenterology, called gastroenterologists. We estimate that gastroenterologists, or GI specialists, perform approximately 70% to 73% of GI endoscopies in the United States each year. We estimate another 4,000 physicians, such as family practitioners and general and colorectal surgeons, routinely perform endoscopies in rural areas within the United States. Purchasing decisions relating to our products and services are typically made by GI departments as opposed to individual physicians, although the preferences of GI specialists are important in the choice of certain products and services. We believe that worldwide there are approximately 6,000 endoscopy systems purchased annually, with approximately 40% of the sales occurring in the United States.

We believe the following dynamics are currently impacting and will continue to impact the GI endoscopy market:

 

    Rising colorectal cancer screening rates. Patient compliance with screening recommendations has increased steadily in the United States over the past two decades. Approximately 60% of the population is now following screening guidelines and initiatives are underway to drive that number to 80% by 2018.

 

    Upper endoscopy and colonoscopy accounts for almost all procedures performed by GI specialists. Virtually all procedures performed by GI specialists involve the use of an endoscope, including treatment of GI conditions such as abdominal pain, bleeding, reflux, Celiac disease, colitis, Crohn’s disease or screening and surveillance for colorectal cancer. The average gastroenterologist in the United States performs approximately 32 procedures per week, approximately 21 of which are colonoscopies.

 

    Increasing shortage of GI specialists, driving need for greater efficiency and throughput. Approximately 400 new GI specialists enter practice each year in the United States after completing their fellowships and slightly fewer leave their practice or retire. As a result, the supply of GI specialists is expected to be relatively flat, while the number of GI endoscopy procedures is estimated to increase approximately 7% annually.

 

    Relatively concentrated universe of practices and high number of physician-owned practices. We estimate that of the 11,000 GI specialists in the United States, approximately 54% are members of a multi-physician GI practice. We estimate that in 2013, 69% of GI specialists were part of independent, physician-owned practices. In addition, we estimate that the physicians performing endoscopies perform these procedures in approximately 5,200 hospitals and 1,800 ASCs.

 

    Increasing focus by payors on GI procedure quality metrics. As GI specialists are performing in an increasingly competitive environment in independent GI offices, medical practices and hospitals, a key differentiating factor is the quality of services they provide. We believe increased attention by payors, medical societies and patients, among others, on quality metrics in endoscopy will drive adoption of innovative and cost effective solutions.

 

    Payors seeking to utilize bundling arrangements. Increasingly, the U.S. healthcare system is moving towards a bundled payment system, in which providers are reimbursed in a single payment for an episode of care, that includes all aspects of treatment. A bundled payment for a colonoscopy could include the professional fee of the GI specialist, as well as charges for anesthesia, the facility and pathology services, and could potentially also include a follow-up procedure in the case of poor preparation or post-procedure bleeding, either of which may necessitate a repeat colonoscopy.

 

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Our strengths

Exclusive focus in a large, growing and attractive market. We estimate that the addressable worldwide market for our GI endoscopy products and services represents an over $6 billion opportunity that is growing at 7% annually. This growth is being driven by increased governmental and payor focus on screening, prevention and treatment of colorectal cancer and other GI conditions, an aging global population and changing dietary habits. We believe that the market is underserved and our competition is fragmented. We are positioned as the only company exclusively focused on servicing the entire GI procedure cycle through our broad and innovative product platform.

Broad platform of products and services to address the entire GI endoscopy procedure cycle. We provide a comprehensive product portfolio of more than 50 product families that span the entire GI endoscopy procedure cycle, including setup, imaging, therapy, specimen retrieval, pathology and endoscope service and repair. Our broad platform of GI products and services provides a “one-stop shop” for GI specialists, addressing the disjointed customer experience in the traditional model and allowing our sales representatives to focus on increasing their revenue per GI customer over time.

Our GI-dedicated pathology lab provides an attractive service offering for GI specialist customers. We operate one of the few GI-specific pathology laboratories, employing GI-trained pathologists and GI-focused histotechnicians who provide quality diagnostic services for our GI specialist customers. Our focus on laboratory workflow generally ensures a 24- to 48-hour turn-around-time for most of our diagnoses. We regularly implement or update technologies to provide our customers specific quality metrics such as pre-cancerous polyp detection rates for individual GI specialists, a proactive communication platform enabling up-to-date status checks on submitted tests, and quarterly reports to continuously improve quality metrics. In addition, our on-site GI pathologists work directly with GI specialists to discuss abnormal diagnoses and provide consultation services on treatment options. We believe our GI-dedicated pathology laboratory provides superior quality in diagnostic services compared to general pathology labs and provides an attractive service offering for our GI customers.

Proven ability to rapidly innovate and respond to customer needs by leveraging our extensive R&D expertise in the GI industry. Our global research and development team spanning locations in the United States, Israel and Germany includes 35 employees, as of March 31, 2015, who are exclusively focused on innovation in the GI industry. Our research and development team strives to significantly improve the utility of each product by incorporating GI specialist feedback and designing solutions that respond to their needs. For example, our CinchPad® product improved the transport of endoscopes following procedures and eliminated the need to clean used transport trays. Additionally, we believe we created one of the first procedure kits in the GI endoscopy market, which have been adopted by over 1,000 customers and enable our customers to comply with medical society and governmental guidelines for infection control. Our innovations include products such as CinchPad®, Compliance EndoKit®, Boa® Polypectomy Snare, AutoBand® and our Fuse® system.

Disruptive, clinically-differentiated Fuse® endoscopy system. Our Fuse® full spectrum endoscope was the first endoscope to provide a revolutionary 330° field of view during colonoscopy, allowing GI specialists to see more than twice the anatomy at any one time compared to standard, forward-viewing colonoscopes, thereby significantly reducing pre-cancerous polyp miss rates. According to a tandem clinical study published in The Lancet Oncology, Fuse® had a pre-cancerous polyp miss rate of only 7%, compared with up to a 41% pre-cancerous polyp miss rate for standard, forward-viewing colonoscopes. Colonoscopy with Fuse® identified all patients with pre-cancerous polyps while standard, forward-viewing colonoscopes failed to identify 6% of patients with pre-cancerous polyps. The successful discovery and removal of pre-cancerous polyps not only can virtually eliminate the possibility of the specific pre-cancerous polyp developing into colorectal cancer, but also results in the patient being screened more frequently thereafter. The costs of surgeries and related care can be significant, with total costs to the U.S. healthcare system estimated to exceed $8 billion per year. In contrast, screening costs for colonoscopy are $1,000 every 5-10 years. The clinical and economic benefits associated with colorectal cancer screening and increased pre-cancerous polyp detection by our Fuse® system lead to our belief

 

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that Fuse® is poised to become the preferred choice of GI specialists. We believe that the improved clinical and cost outcomes that Fuse® enables will lead to its widespread adoption over time.

Established customer base, proven salesforce and scalable infrastructure. We have manufacturing facilities in the United States, Germany and Israel, 103 sales and marketing professionals in the United States and Germany and distribution arrangements covering 25 countries. We currently serve over 2,500 GI department customers across 50 sales territories in the United States to which we seek to leverage our expanding platform of GI products and services. As of March 31, 2015, only one percent of our GI department customers have purchased a Fuse® system. Of the customers who have purchased Fuse®, approximately 80% also purchased other products or services from us in 2014. In addition, approximately 65% of our customers purchased multiple products or services from us in 2014. Our proven salesforce is poised to contribute to future sales growth. With our established commercial capabilities and customer relationships, experienced management and marketing team and broad product portfolio, we believe we have the infrastructure in place to support continued expansion in the growing GI endoscopy market.

Proven leadership team. Our senior management team has significant industry experience at companies such as Given Imaging, Pentax Medical, Johnson & Johnson and Boston Scientific, and, while at EndoChoice, has demonstrated its ability to bring new products to market successfully. In addition, we have recruited and trained an established direct salesforce and grown our customer base to over 2,500 GI department customers. Additionally, we have established global manufacturing, sourcing, and research and development capabilities. We have grown revenues at a compound annual growth rate of 90% from 2008 to 2014 and believe we are well positioned to continue solid growth.

Our strategy

Our goal is to be the leading medical device company providing innovative solutions for GI specialists. The key elements of our strategy include:

Continue to rapidly innovate and introduce new products and services that address the evolving needs of the GI specialist. Our goal is to develop, acquire and commercialize clinically beneficial technologies that improve the practice workflows and productivity of GI specialists, their profitability and the clinical outcomes of their patients, thereby expanding our market opportunity and share. We intend to continue to leverage our culture of innovation to expand our product portfolio by investing in internal research and development of new technologies and pursuing strategic acquisitions as opportunities arise.

Leverage existing customer base to gain further share of the GI procedure cycle. We have a strong established customer base with over 2,500 GI departments, representing approximately one-third of GI departments in the United States, and contracts with most of the major group purchasing organizations for GI products in the United States. We have demonstrated a track record of growing our revenue per customer over time. We believe the combination of a broad and innovative product portfolio spanning the entire GI procedure cycle coupled with our disruptive Fuse® technology gives us a competitive advantage that will enable us to gain further share of our customers’ spend.