10-Q 1 spectranetics10qq32016.htm 10-Q Document

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 FOR THE QUARTERLY PERIOD ENDED

September 30, 2016
 
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
FOR THE TRANSITION PERIOD FROM ______    TO ______   
 
Commission file number 0-19711 

The Spectranetics Corporation
(Exact name of Registrant as specified in its charter)
Delaware
84-0997049
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer Identification No.)
9965 Federal Drive
Colorado Springs, Colorado 80921
(719) 633-8333
(Address of principal executive offices and telephone number)
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).   Yes x No o

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. (Check one):
Large accelerated filer x
Accelerated filer o
Non-accelerated filer o
Smaller reporting company o
(Do not check if a smaller reporting company)
 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o No x

As of October 24, 2016, there were 43,203,038 outstanding shares of Common Stock. 
 



TABLE OF CONTENTS
 
 
 
 
 
 
 
 
 
 
 
 
 
 


ii


Part I—FINANCIAL INFORMATION
Item 1.       Financial Statements

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(In Thousands, Except Share Amounts)
(Unaudited)
 
September 30,
2016
 
December 31,
2015
ASSETS
 
 
 
Current assets:
 
 
 
Cash and cash equivalents
$
58,895

 
$
84,594

Trade accounts receivable, less allowance for doubtful accounts and sales returns of $1,549 and $1,906, respectively
41,661

 
43,359

Inventories, net
26,698

 
25,155

Prepaid expenses and other current assets
6,308

 
5,171

Total current assets
133,562

 
158,279

Property and equipment, net
44,851

 
44,719

Goodwill
149,547

 
152,616

Other intangible assets, net
101,148

 
110,456

Other assets
2,754

 
1,929

Total assets
$
431,862

 
$
467,999

 
 
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current liabilities:
 
 
 
Borrowings under revolving line of credit
$
21,288

 
$
24,232

Accounts payable
5,779

 
4,150

Accrued liabilities
31,957

 
33,676

Deferred revenue
1,615

 
1,621

Total current liabilities
60,639

 
63,679

Convertible senior notes, net of debt issuance costs
224,837

 
224,076

Term loan, net of debt issuance costs
59,646

 
59,601

Accrued liabilities, net of current portion
1,655

 
1,759

Deferred income taxes
2,175

 
1,915

Total liabilities
348,952

 
351,030

Commitments and contingencies (Note 9)

 

Stockholders’ equity:
 
 
 
Preferred stock, $.001 par value; authorized 5,000,000 shares; none issued

 

Common stock, $.001 par value; authorized 120,000,000 shares; issued and outstanding 43,202,313 and 42,659,234 shares, respectively
43

 
42

Additional paid-in capital
327,779

 
313,442

Accumulated other comprehensive loss
(4,798
)
 
(1,910
)
Accumulated deficit
(240,114
)
 
(194,605
)
Total stockholders’ equity
82,910

 
116,969

Total liabilities and stockholders’ equity
$
431,862

 
$
467,999

 
The accompanying notes are an integral part of the condensed consolidated financial statements.


1


THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Operations and Comprehensive Loss
(In Thousands, Except Share and Per Share Amounts)
(Unaudited)
 
 
Three Months Ended September 30,
 
Nine Months Ended September 30,
 
2016
 
2015
 
2016
 
2015
Revenue
$
68,265

 
$
61,660

 
$
198,897

 
$
180,759

Cost of products sold
16,884

 
15,809

 
49,949

 
46,776

Gross profit
51,381

 
45,851

 
148,948

 
133,983

Operating expenses:
 
 
 
 
 
 
 
Selling, general and administrative
40,737

 
34,116

 
122,169

 
106,620

Research, development and other technology
16,739

 
15,926

 
50,733

 
47,847

Acquisition transaction, integration and legal costs
823

 
5,403

 
1,615

 
26,900

Intangible asset amortization
2,903

 
3,290

 
9,308

 
10,072

Contingent consideration expense
41

 
387

 
208

 
2,471

Change in fair value of contingent consideration liability

 
(4,256
)
 

 
(22,056
)
Intangible asset impairment

 
2,496

 

 
2,496

Medical device excise tax

 
916

 

 
2,543

Total operating expenses
61,243

 
58,278

 
184,033

 
176,893

Operating loss
(9,862
)
 
(12,427
)
 
(35,085
)
 
(42,910
)
Other expense:
 
 
 
 
 
 
 
Interest expense
(3,322
)
 
(1,884
)
 
(9,958
)
 
(5,406
)
Foreign currency transaction gain (loss)
4

 
(6
)
 
21

 
(255
)
Total other expense
(3,318
)
 
(1,890
)
 
(9,937
)
 
(5,661
)
Loss before income tax expense
(13,180
)
 
(14,317
)
 
(45,022
)
 
(48,571
)
Income tax expense
132

 
176

 
487

 
443

Net loss
$
(13,312
)
 
$
(14,493
)
 
$
(45,509
)
 
$
(49,014
)
 
 
 
 
 
 
 
 
Net loss per share —
 
 
 
 
 
 
 
Basic and diluted
$
(0.31
)
 
$
(0.34
)
 
$
(1.06
)
 
$
(1.16
)
 
 
 
 
 
 
 
 
Other comprehensive income (loss), net of tax
 
 
 
 
 
 
 
Foreign currency translation adjustments
92

 
20

 
(2,888
)
 
(457
)
Comprehensive loss, net of tax
$
(13,220
)
 
$
(14,473
)
 
$
(48,397
)
 
$
(49,471
)
 
 
 
 
 
 
 
 
Weighted average common shares outstanding —
 
 
 
 
 
 
 
Basic and diluted
43,054,322

 
42,556,248

 
42,852,771

 
42,368,538

 
The accompanying notes are an integral part of the condensed consolidated financial statements.


  



2


THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(In Thousands)
(Unaudited)
 
 
Nine Months Ended September 30,
 
2016
 
2015
Cash flows from operating activities:
 
 
 
Net loss
$
(45,509
)
 
$
(49,014
)
Adjustments to reconcile net loss to net cash used in operating activities:
 
 
 
Depreciation and amortization
20,555

 
19,675

Stock-based compensation expense
10,288

 
9,038

Amortization of debt issuance costs
851

 
738

Provision for excess and obsolete inventories
975

 
806

Contingent consideration expense
208

 
2,471

Deferred income taxes
293

 
354

Payment of contingent consideration
(2,300
)
 

Change in fair value of contingent consideration liability

 
(22,056
)
Intangible asset impairment

 
2,496

Net change in operating assets and liabilities
(5,556
)
 
(7,276
)
Net cash used in operating activities
(20,195
)
 
(42,768
)
Cash flows from investing activities:
 
 
 
Capital expenditures
(3,865
)
 
(8,329
)
Payments for acquisitions

 
(30,000
)
Net cash used in investing activities
(3,865
)
 
(38,329
)
Cash flows from financing activities:
 
 
 
(Repayments on) proceeds from line of credit, net
(2,944
)
 
23,110

Proceeds from the exercise of stock options and employee stock purchase plan
4,050

 
4,487

Payment of contingent consideration
(2,788
)
 
(143
)
Net cash (used in) provided by financing activities
(1,682
)
 
27,454

Effect of exchange rate changes on cash
43

 
(141
)
Net decrease in cash and cash equivalents
(25,699
)
 
(53,784
)
Cash and cash equivalents at beginning of period
84,594

 
95,505

Cash and cash equivalents at end of period
$
58,895

 
$
41,721

Supplemental disclosures of cash flow information:
 
 
 
Cash paid for interest
$
7,574

 
$
3,171

Cash paid for income taxes
$
412

 
$
306

 
The accompanying notes are an integral part of the condensed consolidated financial statements.
 
 



3

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



NOTE 1 — GENERAL
 
The accompanying condensed consolidated financial statements include the accounts of The Spectranetics Corporation, a Delaware corporation, and its wholly-owned subsidiaries. These entities are collectively referred to as the “Company.” All intercompany balances and transactions have been eliminated in consolidation.

The Company develops, manufactures, markets, and distributes medical devices used in minimally invasive procedures within the cardiovascular system. The Company’s products are available in over 65 countries and are used to cross, prepare, and treat arterial blockages in the legs and heart and to remove pacemaker and defibrillator cardiac leads. In June 2014, the Company acquired AngioScore, Inc. (“AngioScore”), a leading developer, manufacturer and marketer of cardiovascular, specialty balloon catheters, and in January 2015, the Company acquired Stellarex™ (“Stellarex”) drug-coated balloon (“DCB”) assets from Covidien LP.

The Company prepares its condensed consolidated financial statements in conformity with accounting principles generally accepted in the United States of America (“U.S. GAAP”). Management must make certain estimates, judgments, and assumptions based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the periods presented. Significant items subject to such estimates and assumptions include the carrying amount of property and equipment, intangible assets and goodwill, valuation allowances and reserves for receivables, inventories, deferred income tax assets, contingent consideration liabilities for acquisitions, stock-based compensation expense, estimated clinical trial expenses, accrued estimates for incurred but not reported claims under partially self-insured employee health benefit programs, and loss contingencies, including those related to litigation. Actual results could differ from those estimates.

The information included in the accompanying condensed consolidated interim financial statements is unaudited and should be read with the audited financial statements and notes thereto contained in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015. In the opinion of management, all adjustments necessary for a fair presentation of the assets, liabilities and results of operations for the interim periods presented have been reflected herein and are of a normal, recurring nature. The results of operations for interim periods are not necessarily indicative of the results to be expected for the entire year. Certain prior period amounts have been reclassified to conform to the current period presentation.

Recent Accounting Pronouncements

In August 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments, which clarifies how companies present and classify certain cash receipts and cash payments in the statement of cash flows. The amendments in ASU 2016-15 are effective for public business entities for fiscal years beginning after December 15, 2017, and interim periods within those fiscal years.  Early adoption is permitted, including adoption in an interim period. The Company is in the process of determining the timing of adoption and assessing the impact of ASU 2016-15 on its consolidated statements of cash flows.

In March 2016, the FASB issued ASU 2016-09, Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting. ASU 2016-09 simplifies several aspects related to the accounting for share-based payment transactions, including the accounting for income taxes, forfeitures, statutory tax withholding requirements and classification on the statement of cash flows. For public business entities, ASU 2016-09 is effective for fiscal years beginning after December 15, 2016, and interim periods within those fiscal years. Early adoption is permitted. The Company is in the process of determining the timing and method of adoption and assessing the impact of ASU 2016-09 on its results of operations, financial position, and consolidated financial statements.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842), which requires a lessee to recognize on its balance sheet the assets and liabilities for the rights and obligations created by leases with a lease term of more than twelve months. Leases will continue to be classified as either financing or operating, with classification affecting the recognition, measurement and presentation of expenses and cash flows arising from a lease. Lessor accounting is largely unchanged from


4

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


previous GAAP. However, changes were made to align the guidance with the lessee guidance and the new revenue recognition guidance under ASU 2014-09 referenced below. For public business entities, ASU 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years, and requires a modified retrospective approach to adoption for lessees related to capital and operating leases existing at, or entered into after, the earliest comparative period presented in the financial statements. Early adoption is permitted. The Company is in the process of determining the timing and method of adoption and assessing the impact of ASU 2016-02 on its results of operations, financial position, and consolidated financial statements.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers, which will replace most existing revenue recognition guidance in U.S. GAAP. The core principle of ASU 2014-09 is that an entity should recognize revenue for the transfer of goods or services equal to the amount that it expects to be entitled to receive for those goods or services. To achieve this core principle, ASU 2014-09 contains a five-step model that includes identifying the contract with a customer, identifying the performance obligations in the contract, determining the transaction price, allocating the transaction price to the performance obligations, and recognizing revenue when (or as) an entity satisfies a performance obligation. ASU 2014-09 requires 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. In April 2016, the FASB issued ASU 2016-10, Revenue from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing. ASU 2016-10 provides for amendments to ASU 2014-09, reducing the complexity when applying the guidance for identifying performance obligations and improving the operability and understandability of the license implementation guidance. In May 2016, the FASB issued ASU 2016-12, Revenue from Contracts with Customers (Topic 606): Narrow-Scope Improvements and Practical Expedients. ASU 2016-12 provides for amendments to ASU 2014-09, amending the guidance on transition, collectability, noncash consideration and the presentation of sales and other similar taxes. ASU 2016-12 clarifies that, for a contract to be considered completed at transition, all (or substantially all) of the revenue must have been recognized under legacy U.S. GAAP. In addition, ASU 2016-12 clarifies how an entity should evaluate the collectability threshold and when an entity can recognize nonrefundable consideration received as revenue if an arrangement does not meet the standard’s contract criteria. Under ASU 2015-14, Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date, issued in August 2015, these amendments are effective for public business entities for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2017 and both retrospective and cumulative effect methods of adoption are allowed. The Company plans to adopt these standards for the fiscal year beginning after December 15, 2017, and is in the process of determining the timing and method of adoption and assessing the impact of ASU 2014-09 and its related amendments on its results of operations, financial position, and consolidated financial statements.

The Company has considered all other recently issued accounting pronouncements and does not believe they are of significance, or potential significance, to the Company.




5

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


NOTE 2 — COMPOSITION OF CERTAIN FINANCIAL STATEMENT ITEMS
 
Inventories
 
Inventories, net, consisted of the following (in thousands):
 
September 30,
2016
 
December 31,
2015
Raw materials
$
10,325

 
$
10,838

Work in process
4,553

 
2,914

Finished goods
11,820

 
11,403

 
$
26,698

 
$
25,155


Property and Equipment
 
Property and equipment, net, consisted of the following (in thousands): 
 
September 30, 2016
 
December 31, 2015
Equipment held for rental or loan
$
61,772

 
$
55,774

Manufacturing equipment and computers
39,847

 
37,862

Leasehold improvements
10,002

 
8,984

Furniture and fixtures
5,097

 
4,841

Building and improvements
1,306

 
1,306

Land
270

 
270

Less: accumulated depreciation
(73,443
)
 
(64,318
)
 
$
44,851

 
$
44,719


Accrued Liabilities
 
Accrued liabilities consisted of the following (in thousands): 
 
September 30, 2016
 
December 31, 2015
Accrued payroll and employee-related expenses
$
19,750

 
$
15,797

Accrued clinical study expense
2,635

 
3,868

Accrued interest
2,482

 
913

Deferred rent
1,453

 
1,485

Accrued royalties
1,196

 
1,044

Accrued legal costs
1,075

 
713

Accrued sales, income and excise taxes
907

 
1,318

Contingent consideration
273

 
5,153

Other accrued expenses
3,841

 
5,144

Total accrued liabilities
33,612

 
35,435

Less: long-term portion
(1,655
)
 
(1,759
)
Accrued liabilities, current portion
$
31,957

 
$
33,676




6

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Contingent Consideration

The Company recorded contingent liabilities as part of the AngioScore acquisition in June 2014 and the product acquisition from Upstream Peripheral Technologies, Ltd. (“Upstream”) in January 2013. The following table presents changes to the Company’s acquisition-related contingent consideration liability for the nine-month period ended September 30, 2016:
 
Contingent Consideration Liability
Beginning balance, January 1, 2016
$
5,153

Contingent consideration payments
(5,088
)
Contingent consideration accretion expense
208

Ending balance, September 30, 2016
$
273

In connection with the AngioScore acquisition, the Company agreed to pay additional contingent merger consideration, a portion of which included a cash payment of $5.0 million if the Drug-Coated AngioSculpt product (“AngioSculptX™”) received European CE mark approval by December 31, 2016. At the acquisition date, the Company measured the liability by applying the probability-weighted scenario method. The Company used various key assumptions, such as the probability of achievement of the agreed milestones and the discount rate, in our determination of the fair value of contingent consideration. The Company received the European CE mark approval during the third quarter of 2016 and made a contingent consideration payment of $5.0 million,$2.7 million of which was classified as a cash flow from financing activities, as it was included as part of the initial measurement of the fair value of the consideration transferred. The remaining $2.3 million of the payment was classified as a cash flow from operating activities, as it was reflected in earnings as accretion expense and a change in the fair value of the contingent consideration liability.

As of September 30, 2016, the remaining contingent consideration liability relates to the Upstream product acquisition that occurred in the first quarter of 2013. The purchase agreement with Upstream provides for contingent consideration payments for revenue-based earn-outs through the fourth quarter of 2016 and intellectual property milestones that could be achieved on or before January 7, 2022.


NOTE 3 — GOODWILL AND INTANGIBLE ASSETS
 
The change in the carrying amount of goodwill by reporting unit for the nine months ended September 30, 2016 was as follows (in thousands).
 
U.S. Medical
 
International Medical
 
Total
Balance as of December 31, 2015
$
130,410

 
$
22,206

 
$
152,616

Impact of changes in foreign currency and other

 
(3,069
)
 
(3,069
)
Balance as of September 30, 2016
$
130,410

 
$
19,137

 
$
149,547


Goodwill is allocated to the Company’s reporting units based on an analysis of both the relative historical and expected benefits. Goodwill denominated in foreign currencies within International Medical is remeasured in U.S. dollars at the applicable period-end exchange rate. There have been no events or circumstances since the last analysis as of December 31, 2015 to indicate that the amount of goodwill may not be recoverable.



7

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Acquired intangible assets consisted of the following (in thousands):
 
September 30, 2016
 
December 31, 2015
Acquired as part of Stellarex acquisition: (1)
 
 
 
In-process research and development
$
13,680

 
$
13,680

Technology
9,000

 
9,000

Trademark and trade names
400

 
400

Transition services agreement
530

 
530

Acquired as part of AngioScore acquisition: (2)
 
 
 
Technology
73,510

 
73,510

Customer relationships
23,320

 
23,320

Trademark and trade names
4,380

 
4,380

In-process research and development

 
1,254

AngioSculptX
1,254

 

Distributor relationships
1,940

 
1,940

Non-compete agreements
580

 
580

Acquired as part of Upstream acquisition (3)
 
 
 
Technology
2,172

 
2,172

Non-compete agreement
200

 
200

Patents
530

 
530

Less: accumulated amortization
(30,348
)
 
(21,040
)
 
$
101,148

 
$
110,456

___________________
(1)
In January 2015, the Company acquired Stellarex DCB assets, which included, among other things, the intellectual property, machinery and equipment, and inventories used in connection with the Stellarex DCB catheter.
(2)
In June 2014, the Company acquired AngioScore, Inc.
(3)
In January 2013, the Company acquired certain product lines from Upstream. As part of the acquisition, the Company acquired core technology intangible assets and an intangible asset related to non-compete agreements.

In August 2016, the Company received European CE mark approval of AngioSculptX. The technology related to AngioSculptX was valued at its estimated fair value at the acquisition date and classified as in-process research and development (“IPR&D”), which is accounted for as an indefinite-lived intangible asset until completion or abandonment of the project. Upon receiving CE mark approval, which allows for commercialization of the product in Europe, the project was considered complete, and the Company capitalized the IPR&D as a finite-lived intangible asset that will be amortized over its estimated ten-year useful life.





8

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


NOTE 4 — DEBT

The following table summarizes the Company’s total outstanding debt as of September 30, 2016 and December 31, 2015 and the maturity dates of the Company’s borrowing arrangements:
 
As of
 
 
 
 
(amounts in thousands)
September 30, 2016
 
December 31, 2015
 
Maturity Date
 
Weighted Average Interest Rate
Convertible Senior Notes
$
230,000

 
$
230,000

 
June 1, 2034
 
2.625%
Unamortized debt issuance costs
(5,163
)
 
(5,924
)
 
 
 
 
 
224,837

 
224,076

 
 
 
 
 
 
 
 
 
 
 
 
Term Loan Facility
60,000

 
60,000

 
December 7, 2020
 
8.02%
Unamortized debt issuance costs
(354
)
 
(399
)
 
 
 
 
 
59,646

 
59,601

 
 
 
 
 
 
 
 
 
 
 
 
Revolving Loan Facility
21,288

 
24,232

 
December 7, 2020
 
4.97%
Total
$
305,771

 
$
307,909

 
 
 
 


Convertible Notes

On June 3, 2014, the Company sold $230 million aggregate principal amount of 2.625% Convertible Senior Notes due 2034 (the “Notes”) under an underwriting agreement dated May 28, 2014. Interest is paid semi-annually in arrears on December 1 and June 1 of each year. The Notes mature on June 1, 2034, unless earlier converted, redeemed, or repurchased in accordance with the terms of the Notes. The initial conversion rate of the Notes is 31.9020 shares of the Company’s common stock per $1,000 principal amount of Notes (which is equivalent to an initial conversion price of approximately $31.35 per share). The conversion rate is subject to adjustment upon the occurrence of certain events specified in the indenture governing the Notes. Holders may surrender their Notes for conversion at any time prior to the close of business on the second scheduled trading day immediately preceding the stated maturity date. On or after June 5, 2018 and prior to June 5, 2021, the Company may redeem any or all of the Notes in cash if the closing price of the Company’s common stock exceeds 130% of the conversion price then in effect for a specified number of days, and on or after June 5, 2021, the Company may redeem the Notes without any such condition.

Holders of the Notes may require the Company to repurchase all or a portion of their Notes on each of June 5, 2021, June 5, 2024 and June 5, 2029, or following a fundamental change (as defined in the indenture governing the Notes), in each case, at a repurchase price in cash equal to 100% of the principal amount of the Notes being repurchased plus accrued and unpaid interest to, but excluding, the date of repurchase.

The Notes are subject to customary events of default, which may result in the acceleration of the maturity of the Notes.

The Notes are the Company’s senior unsecured obligations and rank senior in right of payment to any of the Company’s indebtedness that is expressly subordinated in right of payment to the Notes, rank equally in right of payment with any of the Company’s unsecured indebtedness that is not so subordinated, are effectively junior in right of payment to any of the Company’s secured indebtedness to the extent of the value of the assets securing such indebtedness and are structurally subordinated to all indebtedness and other liabilities of the Company’s subsidiaries.

The Company received $222.5 million from the issuance of the Notes, net of $7.5 million of debt issuance costs incurred. The debt issuance costs are being amortized over a seven year period using the effective interest method and are


9

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


included in the line “Convertible senior notes, net of debt issuance costs” on the condensed consolidated balance sheets. The Company used all of the net proceeds to fund the acquisition of AngioScore.

Term Loan Facility and Revolving Loan Facility

On December 7, 2015, the Company entered into a term credit and security agreement (the “Term Loan Credit Agreement”) and a revolving credit and security agreement (the “Revolving Loan Credit Agreement,” and together with the Term Loan Credit Agreement, the “Credit Agreements”) with MidCap Financial Trust and the other lenders party thereto. The Credit Agreements replaced the Credit and Security Agreement (the “Wells Fargo Credit Agreement”) entered into by the Company and Wells Fargo Bank, National Association on February 25, 2011. The Term Loan Credit Agreement provides for a five-year $60 million term loan facility (the “Term Loan Facility”) and the Revolving Loan Credit Agreement provides for a five-year $50 million revolving loan facility (the “Revolving Loan Facility”). The Revolving Loan Facility may be increased to up to $70 million, subject to lender approval. The obligations of the Company under the Credit Agreements are secured by a lien on substantially all of the assets of the Company.

The Term Loan Facility bears interest at the LIBOR Rate (as defined in the Term Loan Credit Agreement) plus an applicable margin of 7.50% per annum; provided that the applicable margin will be reduced to 6.50% if the Company’s EBITDA (as defined in the Term Loan Credit Agreement) is equal to or greater than $6 million for a specified prior period and no default or event of default has occurred and is occurring.  The Company may prepay all or a portion of the Term Loan Facility, subject to certain conditions and a prepayment fee, as specified in the Credit Agreements. The Term Loan Facility is subject to an exit fee of 4.0% of the amount advanced under the Term Loan Facility. Interest-only payments are due during the first 24 months of the Term Loan Facility, payable monthly in arrears, with principal payments beginning thereafter in equal monthly installments until maturity, provided that the Company may postpone making principal payments for an additional 12 months if certain conditions are met and the Administrative Agent and lenders agree to such extension. If the Administrative Agent and lenders do not agree to such extension, the prepayment fee and unearned portion of the exit fee will be waived.
 
The Company may borrow under the Revolving Loan Facility subject to borrowing base limitations, which allow the Company to borrow based on the value of eligible accounts receivable and inventory balances. As of September 30, 2016, the borrowing base was $36.3 million, based on the Company’s accounts receivable and inventory balances. Amounts drawn under the Revolving Loan Facility bear interest at the LIBOR Rate (as defined in the Revolving Loan Credit Agreement) plus 4.45% per annum, payable monthly in arrears, while the undrawn portion is subject to an unused line fee of 0.5% per annum. The Revolving Loan Facility is subject to a minimum balance, such that the Company pays the greater of (i) interest accrued on the actual amount drawn under the Revolving Loan Facility and (ii) interest accrued on 35% of the average borrowing base prior to the first anniversary of the Revolving Loan Facility and 50% of the average borrowing base thereafter. The Company may prepay and re-borrow amounts borrowed under the revolving line of credit without penalty.
 
The Credit Agreements require the Company to maintain minimum cash and cash equivalents of not less than $10 million and achieve net revenue in excess of certain specified thresholds. These agreements also contain certain restrictive covenants that limit and in some circumstances prohibit, the Company’s ability to, among other things, incur additional debt, sell, lease or transfer its assets, pay dividends on the Company’s common stock, make capital expenditures and investments, guarantee debt or obligations, create liens, repurchase common stock, enter into transactions with affiliates and enter into certain merger, consolidation or other reorganization transactions. The Company was in compliance with its debt covenants as of September 30, 2016.

The Credit Agreements contain customary events of default, including the failure to make required payments, the failure to comply with certain covenants or other agreements, the occurrence of a material adverse change, failure to pay certain other indebtedness and certain events of bankruptcy or insolvency. Upon the occurrence and continuation of an event of default, amounts due under the Credit Agreements may be accelerated. The Company had no events of default as of September 30, 2016.



10

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


As of September 30, 2016, the Term Loan Facility and Revolving Loan Facility had outstanding balances of $60.0 million and $21.3 million, respectively. At September 30, 2016, the interest rate on the Term Loan Facility was 8.02%, and the weighted average interest rate on the Revolving Loan Facility was 4.97%.


NOTE 5 — STOCK-BASED COMPENSATION
 
The Company maintains equity plans that provide for the grant of options, stock appreciation rights, restricted stock awards, restricted stock units, performance stock units (“PSUs”), dividend equivalents, cash incentive awards and other stock-based awards. The plans provide that stock options may be granted with exercise prices not less than the fair market value at the date of grant. Options granted through September 30, 2016 generally vest over four years and expire ten years from the date of grant. Restricted stock awards granted to non-employee members of the Board of Directors vest over one year. Restricted stock units granted to certain employees of the Company vest over four years. Each PSU represents the right to receive one share of the Company’s common stock upon the occurrence of certain specified events.

On March 15, 2016, the Company’s Board of Directors adopted, and stockholders approved at the Company’s annual meeting of stockholders in June 2016, The Spectranetics Corporation 2016 Incentive Award Plan (the “2016 Plan”), which authorizes the issuance for award grants of 2,500,000 shares of the Company’s common stock, plus the number of shares of common stock remaining available for future grants under the Company’s Amended and Restated 2006 Incentive Award Plan (the “2006 Plan”) on the date the Company’s stockholders approved the 2016 Plan. No further awards will be made under the 2006 Plan.

The Compensation Committee of the Board of Directors approved a grant of PSUs to certain of the Company’s officers in June 2014 and a grant of PSUs to the Company’s Chief Financial Officer in September 2015 upon the commencement of her employment (the “2014 PSUs”). The 2014 PSUs vest based on achieving specified performance measurements over a three-year “cliff” performance period plus an additional one year “cliff” time vesting. Earned 2014 PSUs vest 75% upon completion of the three-year performance period and 25% one year after the performance period. The 2014 PSUs have payout opportunities of between 0% and 250%. The performance targets include a compounded annual growth rate for revenue over a three-year period and Adjusted EBITDA for the year ended December 31, 2016.

In June 2016, the Board of Directors approved the grant of PSUs (the “2016 PSUs”) to the Company’s named executive officers and certain other employees pursuant to the 2016 Plan. The 2016 PSUs provide, among other things, that (i) the 2016 PSUs have an initial performance period of up to four years from the date of grant during which the target number of 2016 PSUs awarded to each recipient may be earned if approval of the Company’s Stellarex products is received from the U.S. Food and Drug Administration (“FDA”); (ii) the 2016 PSUs have a supplemental performance period of six calendar quarters following the calendar quarter in which FDA approval of the Company’s Stellarex products is received, and during which up to an additional 100% of the target number of 2016 PSUs may be earned depending on the degree to which the Company’s Stellarex products achieve specified U.S. market share goals; and (iii) no 2016 PSUs will be earned (and no supplemental performance period will occur) if the Company’s Stellarex products do not receive FDA approval during the initial four year performance period.

At September 30, 2016, there were 3.0 million shares available for future issuance under the Company’s incentive award plans, assuming issuance of common stock underlying all outstanding PSUs at target performance, and 1.3 million shares available, assuming issuance of common stock underlying all outstanding PSUs at maximum performance.

Valuation and Expense Information
 
The Company recognized stock-based compensation expense of $3.7 million and $3.1 million for the three months ended September 30, 2016 and 2015, respectively, and $10.3 million and $9.0 million for the nine months ended September 30, 2016 and 2015, respectively. This expense consisted of compensation expense related to (1) employee stock options based on the value of share-based payment awards that are ultimately expected to vest during the period, (2) restricted stock awards issued to certain of the Company’s directors, (3) restricted stock units issued to certain of the Company’s employees, (4) PSUs


11

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


issued to certain of the Company’s officers and other employees, and (5) the fair value of shares issued under the Company’s employee stock purchase plan. Stock-based compensation expense is recognized based on awards ultimately expected to vest and is reduced for estimated forfeitures. The Company recognizes compensation expense for non-performance related awards on a straight-line basis over the service period.

With respect to the PSUs, the number of shares that vest and are issued to the recipient is based upon the Company’s performance as measured against the specified targets over the relevant performance period for each PSU grant as determined by the Compensation Committee of the Board of Directors. The Company estimates the fair value of the PSUs based on its closing stock price on the date of grant and its estimates of achieving such performance targets and records compensation expense on a graded vesting attribution method, which recognizes compensation cost on a straight-line basis over each separately vesting portion of the awards. Over the performance period, the number of shares of common stock that will ultimately vest and be issued and the related compensation expense is adjusted based upon the Company’s estimate of achieving such performance targets. The number of shares delivered to recipients and the related compensation cost recognized as an expense will be based on the actual performance metrics as set forth in the applicable PSU award agreement.

The fair value of each share option award is estimated on the date of grant using the Black-Scholes pricing model based on assumptions noted in the following table. The Company’s employee stock options have various restrictions including vesting provisions and restrictions on transfers and hedging, among others, and are often exercised prior to their contractual expiration. Expected volatilities used in the fair value estimate are based on the historical volatility of the Company’s common stock. The Company uses historical data to estimate share option exercises, expected term and employee departure behavior used in the Black-Scholes pricing model. The risk-free rate for periods within the contractual term of the share option is based on the U.S. Treasury yield in effect at the time of grant.

The following is a summary of the assumptions used for the stock options granted during the three and nine months ended September 30, 2016 and 2015, respectively, using the Black-Scholes pricing model:
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Expected life (years)
5.77

 
5.72

 
5.77

 
5.71

Risk-free interest rate
1.16
%
 
1.38
%
 
1.21
%
 
1.57
%
Expected volatility
46.51
%
 
45.80
%
 
46.29
%
 
42.69
%
Expected dividend yield

 

 

 


The weighted average grant date fair value of options granted during the three months ended September 30, 2016 and 2015 was $10.43 and $5.98, respectively, and during the nine months ended September 30, 2016 and 2015 was $6.84 and $10.36, respectively.

The following table summarizes stock option activity during the nine months ended September 30, 2016
 
Shares
 
Weighted
 Average
 Exercise Price
 
Weighted Avg.
 Remaining
 Contractual Term
 (In Years)
 
Aggregate Intrinsic
 Value
Options outstanding at January 1, 2016
2,566,088

 
$
14.04

 
 
 
 
Granted
988,304

 
15.49

 
 
 
 
Exercised
(189,917
)
 
10.17

 
 
 
 
Forfeited
(117,458
)
 
17.90

 
 
 
 
Options outstanding at September 30, 2016
3,247,017

 
$
14.57

 
6.64
 
$
34,764,889

Options exercisable at September 30, 2016
1,871,292

 
$
12.17

 
4.97
 
$
24,388,695

 


12

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


The aggregate intrinsic value in the preceding table represents the total pre-tax intrinsic value based on the Company’s closing stock price of $25.09 as of September 30, 2016 that would have been received by the option holders had all option holders exercised their options as of that date. The total number of shares underlying in-the-money options exercisable as of September 30, 2016 was approximately 1.8 million. The total intrinsic value of options exercised was $1.8 million and $8.2 million during the nine months ended September 30, 2016 and 2015, respectively.

The following table summarizes restricted stock award activity during the nine months ended September 30, 2016:
 
 
Shares
 
Weighted Average Grant Date Fair Value
Restricted stock awards outstanding at January 1, 2016
26,463

 
$
27.41

Awarded
48,643

 
18.71

Vested/released
(26,463
)
 
27.41

Restricted stock awards outstanding at September 30, 2016
48,643

 
$
18.71


The following table summarizes restricted stock unit activity during the nine months ended September 30, 2016:
 
Shares
 
Weighted Average
Grant Date
Fair Value
Restricted stock units outstanding at January 1, 2016
204,893

 
$
24.08

Awarded
190,776

 
14.98

Vested/released
(63,791
)
 
22.95

Forfeited
(40,435
)
 
21.58

Restricted stock units outstanding at September 30, 2016
291,443

 
$
18.72


The following table summarizes PSU activity during the nine months ended September 30, 2016:
 
Shares
 
Weighted Average Grant Date
Fair Value
Performance stock units outstanding at January 1, 2016
496,656

 
$
22.82

Awarded
275,330

 
18.16

Vested/released
(59,799
)
 
23.43

Forfeited
(42,983
)
 
23.43

Performance stock units outstanding at September 30, 2016
669,204

 
$
20.81


As of September 30, 2016, there was $21.0 million of total unrecognized compensation expense related to non-vested share-based compensation arrangements granted under the Company’s incentive award plans, using the Company’s current estimate of performance for the PSUs, which could be higher or lower in the future based on the actual achievement of performance targets. This expense is based on an assumed future forfeiture rate of approximately 6.68% per year for stock options and restricted stock units for Company employees and is expected to be recognized over a weighted-average period of approximately 2.6 years.

Employee Stock Purchase Plan 

On December 9, 2015, the Company’s Board of Directors adopted, and stockholders approved at the Company’s annual meeting of stockholders in June 2016, an amendment to The Spectranetics Corporation 2010 Employee Stock Purchase


13

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Plan (“ESPP”) to increase the number of shares of common stock available for sale under the ESPP by 1,000,000 shares. The amendment was effective as of January 1, 2016, the first day of the 2016 semi-annual offering period under the ESPP.

The ESPP, as amended, provides for the sale of up to 1,700,000 shares of common stock to eligible employees, limited to the lesser of 2,500 shares per employee per six-month period or a fair market value of $25,000 per employee per calendar year. Stock purchased under the ESPP is restricted from sale for one year following the date of purchase. Stock can be purchased from amounts accumulated through payroll deductions during each six-month period. The purchase price is equal to 85% of the lower of the fair market value of the Company’s common stock at the beginning or end of the respective six-month offering period. This discount does not exceed the maximum discount rate permitted for plans of this type under Section 423 of the Internal Revenue Code of 1986, as amended. The ESPP is compensatory for financial reporting purposes. At September 30, 2016, there were approximately 0.9 million shares available for future issuance under the ESPP.

The fair value of the shares offered within the semi-annual purchase periods under the ESPP is determined on the date of grant using the Black-Scholes option-pricing model. The expected term of six months is based upon the offering period of the ESPP. Expected volatility is determined based on the historical volatility from daily share price observations for the Company’s stock covering a period commensurate with the expected term of the ESPP. The risk-free interest rate is based on the six-month U.S. Treasury daily yield rate. The expected dividend yield is based on the Company’s historical practice of electing not to pay dividends to its stockholders. The Company recognized compensation expense related to the ESPP of $0.3 million and $0.2 million for the three months ended September 30, 2016 and 2015, respectively, and $1.0 million and $0.6 million for the nine months ended September 30, 2016 and 2015, respectively.


NOTE 6 — NET LOSS PER SHARE
 
Basic net loss per share is computed by dividing net loss by the weighted average number of common shares outstanding (excluding shares of restricted stock). Shares issued during the period and shares reacquired during the period are weighted for the portion of the period they were outstanding. Diluted net loss per share is computed in a manner consistent with that of basic net loss per share, while giving effect to all potentially dilutive common shares outstanding during the period, which include the assumed exercise of stock options and the assumed vesting of restricted stock using the treasury stock method, and the assumed conversion of shares under the Notes using the “if-converted” method.

Options to purchase common stock, the vesting of restricted stock and PSUs, and shares issuable upon conversion of the Notes are considered to be potentially dilutive common shares but have been excluded from the calculation of diluted net loss per share as their effect is anti-dilutive for the three and nine months ended September 30, 2016 and 2015 as a result of the net losses incurred in those periods. Therefore, diluted net loss per share was the same as basic net loss per share for the three and nine months ended September 30, 2016 and 2015. Stock options, restricted stock awards, restricted stock units, PSUs, and shares issuable upon the conversion of the Notes outstanding at September 30, 2016 and 2015, which are excluded from the computation of diluted net loss per share for the three and nine months ended September 30, 2016 and 2015, are shown in the table below:
 
Nine Months Ended September 30,
 
2016
 
2015
Options to purchase common stock
3,247,017

 
2,633,314

Non-vested restricted stock awards and restricted stock units
340,086

 
237,329

Non-vested PSUs
669,204

 
513,398

Shares issuable upon conversion of the Notes
7,337,459

 
7,337,459

Potentially dilutive common shares
11,593,766

 
10,721,500




14

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


A summary of the net loss per share calculation is shown below for the periods indicated (in thousands, except share and per share amounts):
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Net loss
$
(13,312
)
 
$
(14,493
)
 
$
(45,509
)
 
$
(49,014
)
Common shares outstanding:
 
 
 
 
 
 
 
Historical common shares outstanding at beginning of period
42,902,831

 
42,458,577

 
42,632,771

 
42,034,063

Weighted average common shares issued
151,491

 
97,671

 
220,000

 
334,475

Weighted average common shares outstanding — basic and diluted
43,054,322

 
42,556,248

 
42,852,771

 
42,368,538

Net loss per share — basic and diluted
$
(0.31
)
 
$
(0.34
)
 
$
(1.06
)
 
$
(1.16
)


NOTE 7 — SEGMENT REPORTING
 
The Company operates in one distinct line of business consisting of developing, manufacturing, marketing, and distributing disposable products and a proprietary excimer laser system to treat certain vascular and coronary conditions.

Within this line of business, the Company has two operating segments, which are identified on a geographic basis: (1) U.S. Medical and (2) International Medical. U.S. Medical and International Medical offer substantially the same products and services but operate in different geographic regions, have different distribution networks, and different regulatory environments. The primary performance measure for the operating segments is revenue.

Additional information regarding each operating segment is discussed below.
 
U. S. Medical
 
Products offered by this segment include medical devices used in minimally invasive procedures within the cardiovascular system, including fiber-optic devices and non-fiber-optic products (disposables), an excimer laser system (equipment), and the service of the excimer laser system (service). The Company is subject to product approvals from the FDA and Health Canada. The Company’s products are used in multiple vascular procedures, including peripheral atherectomy, crossing arterial blockages, coronary atherectomy and thrombectomy, and the removal of cardiac lead wires from patients with pacemakers and cardiac defibrillators. This segment’s customers are primarily located in the United States and Canada.

U.S. Medical also includes the corporate headquarters of the Company. All manufacturing, research and development, and corporate administrative functions are performed within this operating segment. For the three and nine months ended September 30, 2016 and 2015, a portion of research, development and other technology expenses, and general and administrative expenses incurred in the U.S. has been allocated to International Medical based on a percentage of revenue because these expenses support the Company’s ability to generate revenue within the International Medical segment.

Manufacturing activities are performed within the U.S. Medical segment. Revenue associated with intersegment product transfers to International Medical was $3.2 million and $3.1 million for the three months ended September 30, 2016 and 2015, respectively, and $10.1 million and $9.6 million for the nine months ended September 30, 2016 and 2015, respectively. Revenue is based upon transfer prices, which provide for intersegment profit eliminated upon consolidation.



15

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


International Medical
 
The International Medical segment has its headquarters in the Netherlands, and serves Europe, the Middle East, Asia Pacific, Latin America, and Puerto Rico. Products offered by this segment are substantially the same as those offered by U.S. Medical, except that Stellarex DCB and AngioSculptX products are available for sale in Europe and certain other international markets but are not yet approved for sale in the U.S. The Company is subject to product approvals from various international regulatory bodies. The International Medical segment is engaged primarily in distribution activities. Certain U.S.-incurred research, development and other technology expenses, and general and administrative expenses have been allocated to International Medical based on a percentage of revenue because these expenses support the Company’s ability to generate revenue within the International Medical segment.

Summary financial information relating to operating segment operations is shown below. Intersegment transfers as well as intercompany assets and liabilities are excluded from the information provided (in thousands):
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Revenue:
 
 
 
 
 
 
 
U.S. Medical:
 
 
 
 
 
 
 
Disposable products
$
54,548

 
$
49,491

 
$
158,863

 
$
143,771

Laser, service, and other
2,458

 
2,445

 
7,459

 
8,358

Subtotal
57,006

 
51,936

 
166,322

 
152,129

International Medical:
 
 
 
 
 
 
 
Disposable products
9,974

 
8,840

 
28,652

 
25,391

Laser, service, and other
1,285

 
884

 
3,923

 
3,239

Subtotal
11,259

 
9,724

 
32,575

 
28,630

Total revenue
$
68,265

 
$
61,660

 
$
198,897

 
$
180,759

 
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
 
2016
 
2015
 
2016
 
2015
Segment operating loss:
 
 
 
 
 
 
 
U.S. Medical
$
(9,903
)
 
$
(12,360
)
 
$
(32,080
)
 
$
(42,460
)
International Medical
41

 
(67
)
 
(3,005
)
 
(450
)
Total operating loss
$
(9,862
)
 
$
(12,427
)
 
$
(35,085
)
 
$
(42,910
)

 
As of
 
September 30, 2016
 
December 31, 2015
Segment assets:
 
 
 
U.S. Medical
$
395,364

 
$
430,956

International Medical
36,498

 
37,043

Total assets
$
431,862

 
$
467,999


For the three and nine months ended September 30, 2016 and 2015, no individual customer represented 10% or more of consolidated revenue. No individual country, other than the United States, represented 10% or more of consolidated revenue for the three and nine months ended September 30, 2016 or 2015.


16

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



Revenue by Product Line
 
Three Months Ended 
 September 30,
 
Nine Months Ended 
 September 30,
(in thousands)
2016
 
2015
 
2016
 
2015
Revenue
 
 
 
 
 
 
 
Disposable products:
 
 
 
 
 
 
 
Vascular intervention
$
45,906

 
$
40,370

 
$
134,036

 
$
117,513

Lead management
18,616

 
17,961

 
53,479

 
51,649

Total disposable products
64,522

 
58,331

 
187,515

 
169,162

Laser, service, and other
3,743

 
3,329

 
11,382

 
11,597

Total revenue
$
68,265

 
$
61,660

 
$
198,897

 
$
180,759



NOTE 8 — INCOME TAXES
 
The Company recorded income tax expense of $0.1 million and $0.2 million for the three months ended September 30, 2016 and 2015, respectively, and $0.5 million and $0.4 million for the nine months ended September 30, 2016 and 2015, respectively, consisting of current foreign and state income tax expense and deferred federal and state income tax expense. The Company’s deferred U.S. federal and state tax expense in 2016 primarily represents an increase in the deferred tax liability related to the difference between tax and book accounting for the portion of its goodwill that is tax-deductible, which is amortized over 15 years for tax purposes but not amortized for book purposes. Given its continuing tax losses, the Company does not expect to incur current U.S. federal tax expense or benefit against its pretax income during the year ending December 31, 2016.

As of December 31, 2015, the Company had gross deferred tax assets of approximately $90.9 million. The Company maintains a valuation allowance against substantially all of its deferred tax assets, in excess of its nettable deferred tax liabilities, that it does not consider to meet the more-likely-than-not criteria for recognition. In assessing the realizability of deferred tax assets (“DTAs”), management considers whether it is more-likely-than-not that some portion or all of the DTAs will not be realized. The Company’s ability to realize the benefit of its DTAs in future periods will depend on the generation of future taxable income during the periods in which temporary differences become deductible. Management considers the Company’s projected future taxable income, reversal of deferred tax liabilities and tax planning strategies in making this assessment. Because the Company expects to generate losses during the Stellarex development period through 2017, it believes that it will not be generating sufficient taxable income to realize DTAs. The Company will continue to assess the need for a valuation allowance in future periods and does not expect to reduce the valuation allowance against its DTAs until it has a sufficient historical trend of taxable income and can predict future income with a higher degree of certainty. In the event there is a change in circumstances in the future that would affect the utilization of the Company’s DTAs, the tax provision in that period would be adjusted by the amount of the assets then deemed to be realizable.


NOTE 9 — COMMITMENTS AND CONTINGENCIES

Litigation

The Company is from time to time subject to, and is presently involved in, various pending or threatened legal actions and proceedings, including those that arise in the ordinary course of its business. Such matters are subject to many uncertainties and to outcomes the financial impacts of which are not predictable with assurance and that may not be known for extended periods of time. The Company records a liability in its consolidated financial statements for costs related to claims, settlements, and judgments where management has assessed that a loss is probable and an amount can be reasonably estimated. The Company’s significant legal proceedings are discussed below. The costs associated with such proceedings or other legal


17

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


proceedings that may be commenced could have a material adverse effect on the Company’s future consolidated results of operations, financial position, or cash flows.

For certain cases described herein, management is unable to provide a meaningful estimate of the possible loss, if any, or range of possible loss because, among other reasons, (i) the proceedings are in various stages; (ii) damages may not have been sought; (iii) damages may be determined to be unsupported; (iv) there is uncertainty as to the outcome of pending appeals or motions; (v) there are significant factual issues to be resolved; and/or (vi) there are novel legal issues or unsettled legal theories to be presented or a large number of parties.  For these cases, however, the Company does not believe, based on currently available information, that the outcomes of these proceedings will have a material adverse effect on the Company’s financial condition, though the outcomes could be material to the Company’s operating results for any particular period, depending, in part, upon the operating results for such period.
  
TriReme Patent Infringement and Breach of Fiduciary Duty

In July 2012, AngioScore sued TriReme Medical, Inc. (“TriReme”), Eitan Konstantino (“Konstantino”), Quattro Vascular Pte, Ltd. (“Quattro”), and QT Vascular Ltd. (“QT Vascular”), in the U.S. District Court for the Northern District of California (the “Court”), alleging patent infringement (the “Northern District of California Action”). In this action, AngioScore, the plaintiff, sought injunctive relief and damages. In June 2014, AngioScore amended its complaint (i) to allege that TriReme’s Chief Executive Officer, Konstantino, who is a former founder, officer, and member of the board of directors of AngioScore, breached his fiduciary duties to AngioScore by developing the Chocolate balloon catheter while he served as a member of the AngioScore board of directors, and (ii) to add claims against the other defendants for aiding and abetting that breach.

Trial on the breach of fiduciary duty case occurred in April 2015. In July 2015, the Court ruled in favor of AngioScore, finding that Konstantino breached his fiduciary duties to AngioScore, that TriReme and Quattro aided and abetted that breach, and that QT Vascular is liable for the acts of TriReme and Quattro. In its ruling, the Court found that Konstantino breached his fiduciary duties to AngioScore by developing the Chocolate balloon catheter while serving on the AngioScore board of directors and failing to present that corporate opportunity to AngioScore. Konstantino subsequently launched the product through TriReme, Quattro and QT Vascular. The Court awarded AngioScore $20.034 million against all defendants plus disgorgement from Konstantino of all benefits he accrued from his breach of fiduciary duties, including amounts he received for assigning his intellectual property rights to the Chocolate balloon, a royalty on past and future sales of the Chocolate balloon, and all of his shares and options in QT Vascular.

Trial on the patent infringement case was held in September 2015. The jury found against AngioScore in the patent infringement case and found that certain of the asserted claims of the patent are invalid. The patent infringement verdict has no impact on the Court’s findings or award of damages in connection with the breach of fiduciary duty claims or the ability of AngioScore to recover fees and costs advanced to Konstantino, as discussed below. The Court entered judgment in both the breach of fiduciary duty case and the patent infringement case in October 2015. The defendants filed an appeal of the rulings with the United States Court of Appeals for the Federal Circuit (the “Federal Circuit”). On July 21, 2016, the Federal Circuit reversed the breach of fiduciary duty and state law rulings on procedural grounds, finding that the Court lacked jurisdiction to hear the state law claims. The Federal Circuit also affirmed the Court’s ruling that the defendants are not entitled to attorneys’ fees in the patent infringement case. No part of the potential financial award associated with this matter has been previously reflected in the Company’s financial statements. The Company has filed with the Federal Circuit a petition for rehearing of the order reversing the trial court’s breach of fiduciary duty and state law rulings.

TriReme Inventorship

In June 2014, TriReme sued AngioScore in the Court seeking to change the inventorship of certain patents owned by AngioScore. TriReme alleged that an Israeli physician, Chaim Lotan, should be named as a co-inventor on three patents owned by AngioScore. Dr. Lotan allegedly assigned any rights he may have had in the three patents to TriReme. AngioScore moved to dismiss this litigation in January 2015, asserting that Dr. Lotan previously assigned any rights he may have had in the patents to AngioScore in 2003. In March 2015, the Court granted AngioScore’s motion to dismiss this case. TriReme appealed the Court’s


18

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


ruling, and on February 5, 2016, an appellate court reversed the Court’s ruling dismissing the case and remanded the case for further proceedings, which are ongoing.

Konstantino Indemnification and Advancement of Fees

In May 2014, AngioScore sued Konstantino in the Superior Court for the County of Alameda, State of California, seeking a declaratory judgment that AngioScore owes no indemnification obligations to Konstantino under the indemnification agreement between AngioScore and Konstantino (the “AngioScore Indemnification Agreement”) resulting from AngioScore’s claim that Konstantino breached his fiduciary duties to AngioScore while serving as a member of the board of directors of AngioScore (the “Alameda Action”). In November 2014, the court stayed the Alameda Action pending the outcome of the Northern District of California Action.  

In May 2014, Konstantino sued AngioScore in the Delaware Court of Chancery (the “Delaware Action”) seeking a ruling that, under the AngioScore Indemnification Agreement, AngioScore must indemnify and advance Konstantino’s attorneys’ fees and costs related to the defense of the breach of fiduciary duty claims in the Northern District of California Action and the Alameda Action and his pursuit of the Delaware Action for advancement of fees. In June 2014, AngioScore filed counter-claims against Konstantino for violating the AngioScore Indemnification Agreement, which requires, in part, that he cooperate in identifying other sources of advancement, and AngioScore filed a third-party complaint against TriReme, Quattro, and QT Vascular seeking contribution from the defendant companies for amounts advanced to Konstantino. Konstantino filed a motion for summary judgment that he is entitled to advancement from AngioScore and, in August 2014, the court granted the motion. In September 2014, AngioScore filed amended counterclaims and an amended third-party complaint that included additional defendant TriReme Singapore. The defendant companies filed a motion to dismiss the amended third-party complaint on the grounds that it failed to state a claim and the court does not have jurisdiction over three of the defendant companies that were incorporated in Singapore. In October 2015, the court denied the defendant companies’ motion to dismiss, and AngioScore filed a motion for summary judgment against the defendant companies seeking reimbursement and contribution of fees AngioScore advanced to Konstantino. In November 2015, the court granted in part AngioScore’s motion and ordered that TriReme is liable for 50% of advanced fees and costs, and must pay all fees and costs to be advanced moving forward until such fees and costs equal the fees and costs paid by AngioScore. Thereafter, the fees and costs will be advanced 50% by TriReme and 50% by AngioScore.

The Company cannot at this time determine the likelihood of any outcome and, as of September 30, 2016, has no amounts accrued for potential damages. During the nine months ended September 30, 2016, the Company incurred $1.5 million in legal fees associated with these matters. These expenses are included within the “Acquisition transaction, integration and legal costs” line of the condensed consolidated statements of operations and comprehensive loss.

Shareholder Litigation

On August 27, 2015, a person purporting to represent a class of persons who purchased securities of the Company between February 19, 2015 and July 23, 2015 filed a lawsuit against the Company and certain of its officers in the United States District Court for the District of Colorado. The lawsuit asserts claims under Sections 10(b) and 20 of the Securities Exchange Act of 1934, alleging that certain of the Company’s public statements concerning its projected revenue for 2015 were false and misleading. On December 18, 2015, the court appointed lead plaintiff and lead counsel. On March 1, 2016, plaintiffs filed an amended complaint, including additional allegations challenging certain statements in addition to those concerning the Company’s projected revenue for 2015. The class period in the amended complaint runs from February 27, 2014 to July 23, 2015. The Company believes that the lawsuit is without merit and is defending itself vigorously. In June 2016, the Company filed a motion to dismiss the amended complaint, plaintiffs filed their response in July 2016, and the Company filed its reply brief in August 2016. The Company cannot at this time determine the likelihood of any outcome or whether the impact will be material and, as of September 30, 2016, has no amounts accrued for potential damages in this case. An adverse outcome in the lawsuit could have a material adverse effect on the Company’s business, results of operations or financial condition.



19

THE SPECTRANETICS CORPORATION AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)


Other
 
The Company is involved in other legal proceedings in the normal course of business and does not expect them to have a material adverse effect on its business.



Voluntary Recall

In late October 2016, the Company initiated a voluntary recall of specific lots produced since April 2016 of its ELCA Coronary Laser Atherectomy Catheter, Turbo Elite Laser Atherectomy Catheter, and Bridge Occlusion Balloon products.  The recall is due to potentially compromised integrity of sterile packaging of the products caused by pinholes in the outer package.  The decision to initiate this recall was not based on any reported adverse events or customer complaints. The FDA was informed of this action and agreed to the Company’s recall plan to replace units impacted.  In addition, the Company is in the process of making required communications to various regulatory bodies outside of the United States.  A manufacturing change has been implemented to correct the issue. The Company does not anticipate that this recall will materially impact its financial statements.



20


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

Forward-Looking Statements
 
This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995, and is subject to the safe harbor created by those sections. Forward-looking statements include statements about our future plans, estimates, beliefs, and anticipated, expected or projected performance. You can identify these statements by the fact that they do not relate strictly to historical or current facts. Such statements may include words such as “anticipate,” “will,” “estimate,” “seek,” “expect,” “project,” “intend,” “should,” “plan,” “believe,” “hope,” “enable,” “potential,” and other words and terms of similar meaning in connection with any discussion of, among other things, future operating or financial performance, acquisitions, strategic initiatives and business strategies, clinical trials and FDA submissions, regulatory or competitive environments, our intellectual property, and product development. You are cautioned not to place undue reliance on these forward-looking statements and to note that they speak only as of the date hereof. Such statements are based on current assumptions that involve risks and uncertainties that could cause actual outcomes and results to differ materially. For a description of such risks and uncertainties, which could cause our actual results, performance, or achievements to materially differ from any anticipated results, performance, or achievements, please see the risk factors in our Annual Report on Form 10-K for the year ended December 31, 2015 and in our Quarterly Report on Form 10-Q for the quarter ended June 30, 2016. Readers are urged to carefully review and consider the various disclosures made in this report and in our other reports filed with the Securities and Exchange Commission (“SEC”) that disclose certain risks and factors that may affect our business. This analysis should be read with our consolidated financial statements and related notes and Management’s Discussion and Analysis of Financial Condition and Results of Operations in our Annual Report on Form 10-K for the year ended December 31, 2015. We disclaim any intention or obligation to update or revise any financial projections or forward-looking statements due to new information or other events.

Corporate Overview
 
We develop, manufacture, market and distribute primarily single-use medical devices used in minimally invasive procedures within the cardiovascular system. Our products are used to cross, prepare, and treat arterial blockages in the legs and heart and to remove pacemaker and defibrillator cardiac leads. We believe that the diversified nature of our business allows us to respond to a wide range of physician and patient needs. The innovative products and services we offer are divided into three categories:

Vascular Intervention (“VI”): Our broad portfolio of VI devices consists of laser and aspiration catheters, AngioSculpt® scoring balloon catheters, support catheters, and Stellarex™ drug-coated balloon (“DCB”) catheters, which we sell in Europe and currently are not for sale in the U.S.
Lead Management (“LM”): We are a global leader in devices for the removal of pacemaker and defibrillator cardiac leads. Our primary LM devices consist of our excimer laser sheaths, non-laser mechanical sheaths and cardiac lead management accessories for the removal of pacemaker and defibrillator cardiac leads.
Laser, service, and other: Our proprietary excimer laser system, the CVX-300®, is approved in approximately 50 countries for use in multiple minimally invasive cardiovascular procedures. We sell, rent and service our CVX-300 laser systems.

During the nine months ended September 30, 2016, our disposable products generated 94% of our revenue, of which VI products accounted for 71% and LM products accounted for 29%. The remainder of our revenue is derived from sales and rental of our laser system and related services. 

Approximately half of our disposable product revenue is currently derived from products used with our proprietary CVX-300 excimer laser system. Our laser catheters contain up to 250 small diameter, flexible optical fibers that can access difficult to reach peripheral and coronary anatomy and produce evenly distributed laser energy at the tip of the catheter.



21


Item 2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations (Cont’d)

Recent Developments

In February 2016, we received 510(k) regulatory clearance for our Bridge™ Occlusion Balloon product. Bridge is a balloon designed to dramatically reduce blood loss in the event of a tear in the superior vena cava during a lead extraction procedure. The device is designed to give the physician adequate time to safely transition the patient for surgical repair and to give the surgeon the benefit of a clear field of view to repair the tear. Although a superior vena cava tear is a rare occurrence, we believe that this product is an important innovation in an effort to accomplish our goal of reducing the risk of mortality during lead extraction procedures.

In April 2016, Professor Thomas Zeller presented the first interim analysis of 12-month interim data from the ILLUMENATE Global Study at the Charing Cross Symposium in London, England. The ILLUMENATE Global Study is a prospective, multicenter, single-arm study designed to assess the clinical performance of the Stellarex™ drug-coated balloon (“DCB”) in the superficial femoral and popliteal arteries. Subsequently, in June 2016, Dr. Prakash Krishnan presented the second interim analysis of 12-month data from the ILLUMENATE Global Study at the New Cardiovascular Horizons annual conference in New Orleans, Louisiana. Interim results from 220 patients (247 lesions) of the 371 patients enrolled demonstrated a primary patency rate of 90.3% at day 360 and 86.5% at day 365. Freedom from clinically-driven target lesion revascularization (“TLR”) was 93.9% at both day 360 and day 365. These interim results include a larger number of patients than, and are consistent with, the initial ILLUMENATE Global Study 12-month interim analysis and the ILLUMENATE First-In-Human Study results.

In August 2016, Professor Marianne Brodmann presented the final 12-month results of the DCB ILLUMENATE European Randomized Clinical Trial (“EU RCT”) at the Amputation Prevention Symposium in Chicago, Illinois. The EU RCT Trial enrolled 328 patients, 295 of whom were randomized to treatment with the DCB or a percutaneous transluminal angioplasty (“PTA”).  The key results at day 365 include primary patency (per Kaplan-Meier survival estimates), which was 89.0% for the DCB group and 65.0% for the PTA group, and freedom from clinically-driven target lesion revascularization (per Kaplan-Meier survival estimates), which was 94.8% for the DCB group and 85.3% for the PTA group.

In May 2016, we received a warning letter from the FDA related to observed non-conformities with current Good Manufacturing Practice (“GMP”), as defined by the FDA, at our Colorado Springs, Colorado facility.  In January 2016, following an inspection of certain of our manufacturing facilities from late 2015 to early 2016, the FDA issued a Form 483, List of Inspectional Observations, identifying certain observed non-conformities with current GMP.  Following the receipt of the Form 483, we provided written responses to the FDA detailing corrective actions underway to address the FDA’s observations. The FDA warning letter acknowledges the actions already taken by us to address the observations. We plan to continue to respond timely and fully to the FDA’s requests and we are working diligently to fully remediate the FDA’s observations regarding the Colorado Springs facility. We anticipate that we will incur incremental expenses in this regard, which may be significant. We are continuing to manufacture and ship disposable products from the Colorado Springs facility and do not anticipate that customer orders will be impacted while we work to resolve the FDA’s concerns.  Until the violations are corrected, we may be subject to additional regulatory action by the FDA, including recalls, delays, suspension or withdrawal of approvals or clearances, and fines or civil penalties.

In August 2016, we received European CE mark approval for the AngioSculptX Drug-coated percutaneous transluminal coronary angioplasty (“PTCA”) Scoring Balloon Catheter (“AngioSculptX”). AngioSculptX combines the AngioSculpt PTCA scoring balloon catheter with a drug coating. It is indicated for the treatment of hemodynamically significant coronary artery stenosis, including in-stent restenosis.

In October 2016, we submitted the Stellarex 0.014” Investigational Device Exemption (“IDE”) to the FDA for the planned 0.014” below-the-knee randomized clinical study.  This purpose of this study is to evaluate the safety and effectiveness of the Stellarex 0.014” DCB for the treatment of lesions in below-the-knee arteries compared to a standard PTA catheter.    





22


Item 2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations (Cont’d)

Selected Consolidated Statements of Operations Data
 
The following table presents selected Consolidated Statements of Operations data for the three months ended September 30, 2016 and 2015 based on the percentage of revenue for each line item, and the dollar and percentage change of each of the items. For a detailed discussion of each item, please see the explanations below.
 
Three Months Ended September 30, 2016 Compared with Three Months Ended September 30, 2015  
 
Three Months Ended September 30,
 
 
 
 
(Dollars in thousands)
2016
 
% of
revenue (1)
 
2015
 
% of
revenue (1)
 
change
 
% change
Revenue
$
68,265

 
100
 %
 
$
61,660

 
100
 %
 
$
6,605

 
11
 %
Gross profit
51,381

 
75
 %
 
45,851

 
74
 %
 
5,530

 
12
 %
Operating expenses
 
 
 
 
 
 
 
 
 
 
 
Selling, general and administrative
40,737

 
60
 %
 
34,116

 
55
 %
 
6,621

 
19
 %
Research, development and other technology
16,739

 
25
 %
 
15,926

 
26
 %
 
813

 
5
 %
Acquisition transaction, integration and legal costs
823

 
1
 %
 
5,403

 
9
 %
 
(4,580
)
 
(85
)%
Intangible asset amortization
2,903

 
4
 %
 
3,290

 
5
 %
 
(387
)
 
(12
)%
Contingent consideration expense
41

 
 %
 
387

 
1
 %
 
(346
)
 
(89
)%
Change in fair value of contingent consideration liability

 
 %
 
(4,256
)
 
(7
)%
 
4,256

 
(100
)%
Intangible asset impairment

 
 %
 
2,496

 
4
 %
 
(2,496
)
 
(100
)%
Medical device excise tax

 
 %
 
916

 
1
 %
 
(916
)
 
(100
)%
Total operating expenses
61,243

 
90
 %
 
58,278

 
95
 %
 
2,965

 
5
 %
Operating loss
(9,862
)
 
(14
)%
 
(12,427
)
 
(20
)%
 
2,565

 
(21
)%
Other expense:
 
 
 
 
 
 
 
 
 
 
 
Interest expense
(3,322
)
 
(5
)%
 
(1,884
)
 
(3
)%
 
(1,438
)
 
76
 %
Foreign currency transaction gain (loss)
4

 
 %
 
(6
)
 
 %
 
10

 
(167
)%
Loss before income tax expense
(13,180
)
 
(19
)%
 
(14,317
)
 
(23
)%
 
1,137

 
(8
)%
Income tax expense
132

 
 %
 
176

 
 %
 
(44
)
 
(25
)%
Net loss
$
(13,312
)
 
(20
)%
 
$
(14,493
)
 
(24
)%
 
$
1,181

 
(8
)%
 
 
 
 
 
 
 
 
 
 
 
 
Worldwide installed base of laser systems
1,478

 
 
 
1,372

 
 
 
106

 
8
 %
___________________________________
(1)
Percentage amounts may not add due to rounding.


 


23


Item 2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations (Cont’d)

Revenue and gross margin

In the following discussion, we disclose all growth rates on an “as reported” basis, and we specify the growth rate on a “constant currency” basis only when it differs from the “as reported” growth rate. See the “Non-GAAP Financial Measures” section below for a discussion of our use of the constant currency financial measure. The following is a summary of revenue by product line for the three months ended September 30, 2016 and 2015:
 
For the Three Months Ended September 30,
(in thousands, except for percentages)
2016
 
% of revenue (1)
 
2015
 
% of revenue (1)
 
$
change
 
% change
Revenue:
 
 
 
 
 
 
 
 
 
 
 
Disposable products:
 
 
 
 
 
 
 
 
 
 
 
Vascular intervention
$
45,906

 
67
%
 
$
40,370

 
65
%
 
$
5,536

 
14
%
Lead management
18,616

 
27
%
 
17,961

 
29
%
 
655

 
4
%
Total disposable products
64,522

 
95
%
 
58,331

 
95
%
 
6,191

 
11
%
Laser, service, and other
3,743

 
5
%
 
3,329

 
5
%
 
414

 
12
%
Total revenue
$
68,265

 
100
%
 
$
61,660

 
100
%
 
$
6,605

 
11
%

(1)
Percentage amounts may not add due to rounding.
 
Revenue increased $6.6 million, or 11%, from $61.7 million for the quarter ended September 30, 2015 to $68.3 million for the quarter ended September 30, 2016. The increase was primarily due to an increase in VI disposables revenue, described further below.
   
VI revenue, which includes revenue from products used in the peripheral and coronary vascular systems, increased $5.5 million, or 14% (13% on a constant currency basis), from $40.4 million for the quarter ended September 30, 2015 to $45.9 million for the quarter ended September 30, 2016. The increase in VI revenue was driven primarily by unit volume increases in our peripheral atherectomy and coronary atherectomy products.

LM revenue, which includes revenue from excimer laser sheaths, mechanical sheaths, and cardiac lead management accessories for the removal of pacemaker and defibrillator cardiac leads, increased $0.7 million, or 4%, from $18.0 million for the quarter ended September 30, 2015 to $18.6 million for the quarter ended September 30, 2016. The growth was primarily due to revenue from mechanical tools and accessory products, including our newly-introduced Bridge product, partially offset by a decrease in laser sheath revenue due to a decrease in unit volumes.

Laser, service, and other revenue increased $0.4 million, or 12% (13% constant currency), from $3.3 million for the quarter ended September 30, 2015 to $3.7 million for the quarter ended September 30, 2016, with an increase in laser sales revenue offset by a slight decrease in laser rental and service revenue.

We placed 52 laser systems during the quarter ended September 30, 2016 compared with 41 during the quarter ended September 30, 2015.  Of these laser placements, 36 lasers were newly manufactured, and 16 lasers were redeployed from a previous institution. The new placements during the quarter ended September 30, 2016 brought our worldwide installed base of laser systems to 1,478 (1,060 in the U.S.) as of September 30, 2016, compared to 1,372 (972 in the U.S.) as of September 30, 2015
        
Geographically, revenue in the U.S. increased $5.1 million, or 10%, from $51.9 million for the quarter ended September 30, 2015 to $57.0 million for the quarter ended September 30, 2016, primarily due to an increase in VI revenue.  International revenue increased $1.5 million, or 16% (15% on a constant currency basis), from $9.7 million for the quarter ended September 30, 2015 to $11.3 million for the quarter ended September 30, 2016. The increase in international revenue was primarily due to an increase in VI revenue, primarily driven by an increase in AngioSculpt and Stellarex revenue.



24


Item 2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations (Cont’d)

Gross margin was 75% for the quarter ended September 30, 2016, compared to 74% for the quarter ended September 30, 2015. Increased production efficiencies and a favorable sales mix of disposable products primarily contributed to our improved gross margin during the quarter ended September 30, 2016. These improvements were partially offset by lower margins on laser revenue during the quarter ended September 30, 2016.

Operating expenses

   Total operating expenses increased $3.0 million, or 5%, from $58.3 million for the quarter ended September 30, 2015 to $61.2 million for the quarter ended September 30, 2016. The following table shows the changes in operating expenses for the three months ended September 30, 2016 and 2015:
 
For the Three Months Ended September 30,
(in thousands, except for percentages)
2016
 
% of revenue (1)
 
2015
 
% of revenue (1)
 
$
change
 
% change
Operating Expenses:
 
 
 
 
 
 
 
 
 
 
 
Selling, general and administrative
$
40,737

 
60
%
 
$
34,116

 
55
 %
 
$
6,621

 
19
 %
Research, development and other technology
16,739

 
25
%
 
15,926

 
26
 %
 
813

 
5
 %
Acquisition transaction, integration and legal costs
823

 
1
%
 
5,403

 
9
 %
 
(4,580
)
 
(85)
 %
Intangible asset amortization
2,903

 
4
%
 
3,290

 
5
 %
 
(387
)
 
(12)
 %
Contingent consideration expense
41

 
%
 
387

 
1
 %
 
(346
)
 
(89)
 %
Change in fair value of contingent consideration liability

 
%
 
(4,256
)
 
(7
)%
 
4,256

 
(100)
 %
Intangible asset impairment

 
%
 
2,496

 
4
 %
 
(2,496
)
 
(100)
 %
Medical device excise tax

 
%
 
916

 
1
 %
 
(916
)
 
(100)
 %
Total operating expenses
$
61,243

 
90
%
 
$
58,278

 
95
 %
 
$
2,965

 
5
 %
(1)Percentage amounts may not add due to rounding.
  
Selling, general and administrative.  Selling, general and administrative (“SG&A”) expenses increased $6.6 million, or 19%, from $34.1 million for the quarter ended September 30, 2015 to $40.7 million for the quarter ended September 30, 2016, primarily due to an increase in personnel expenses, as a result of the following:

an increase of approximately $3.9 million due to the expansion of our sales and marketing teams to support the launch of Stellarex DCB products;
an increase of approximately $1.6 million in expense related to the Company’s performance bonus plan;
an increase in commission expense of approximately $1.2 million on higher revenue; and
an increase of approximately $0.7 million in stock-based compensation expense due to performance and our organizational growth.
 
Research, development and other technology. Research, development and other technology expenses increased $0.8 million, or 5%, from $15.9 million for the quarter ended September 30, 2015 to $16.7 million for the quarter ended September 30, 2016. Costs included within research, development and other technology expenses are product development costs, clinical studies costs and royalty costs associated with various license agreements with third-party licensors. The increase in research, development and other technology expenses was primarily due to an increase in costs associated with the Stellarex DCB research, development and clinical studies of approximately $0.6 million, and, to a lesser extent, increases in royalty expenses for the quarter ended September 30, 2016.

Acquisition transaction, integration and legal costs. We incurred $0.8 million of costs related to the AngioScore acquisition for the quarter ended September 30, 2016, which was primarily related to legal fees associated with a breach of fiduciary duty and patent matters, further described in Note 9, “Commitments and Contingencies,” of the condensed consolidated financial statements included in Part I, Item 1 of this report.


25


Item 2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations (Cont’d)


In the quarter ended September 30, 2015, we incurred $5.4 million of costs related to acquisitions. Of this amount, $2.5 million was comprised of legal fees associated with a patent infringement and breach of fiduciary duty matter. We also incurred $0.2 million of severance, retention and consulting costs for the integration of AngioScore. Stellarex acquisition costs of $2.7 million primarily consisted of non-recurring costs associated with establishing manufacturing operations to support the Stellarex program.
 
Intangible asset amortization. As part of our recent acquisitions, we acquired certain amortizable intangible assets. We recorded $2.9 million of amortization expense related to these intangible assets for the quarter ended September 30, 2016 and $3.3 million for the quarter ended September 30, 2015. See Note 3, “Goodwill and Intangible Assets,” of the condensed consolidated financial statements for further discussion.

Contingent consideration expense. For the quarters ended September 30, 2016 and September 30, 2015, we recorded approximately $41,000 and $0.4 million of contingent consideration expense, respectively, related to our contingent consideration liabilities from the AngioScore and Upstream acquisitions, due to the passage of time (i.e., accretion). The year-over-year decrease was primarily due to the remeasurement of our contingent consideration liability during 2015, which eliminated the liability for future AngioScore revenue-related contingent payments.

Change in fair value of contingent consideration liability. During the three months ended September 30, 2015, we remeasured the contingent consideration liability related to the regulatory milestones included in the AngioScore acquisition to its fair value and reduced it by approximately $4.3 million as a result of a thorough analysis we performed related to the costs and efforts remaining to complete the Drug-Coated AngioSculpt (“DCAS”) projects, which are subject to contingent regulatory milestone payments. This analysis resulted in a determination that it was unlikely we would meet the regulatory milestones for two of the three DCAS projects within the time frame and with the expenditure of funds set forth in the acquisition agreement.

Intangible asset impairment. During the three months ended September 30, 2015, following the analysis of the contingent consideration liability discussed above, we recorded an intangible asset impairment of $2.5 million to for a partial impairment of the in-process research and development intangible assets acquired as part of the AngioScore acquisition.

Medical device excise tax. The Patient Protection and Affordable Care Act of 2010 imposed a medical device excise tax on medical device manufacturers on their sales in the U.S. of certain devices, which was effective January 1, 2013. Legislation enacted in December 2015 suspended the medical device excise tax for 2016 and 2017, resulting in no expense incurred for the quarter ended September 30, 2016, compared to $0.9 million for the quarter ended September 30, 2015.

Other expense

Total other expense increased $1.4 million, or 76%, from $1.9 million for the quarter ended September 30, 2015 to $3.3 million for the quarter ended September 30, 2016. The following table shows the changes in other expense for the three months ended September 30, 2016 and 2015:
 
For the Three Months Ended September 30,
(in thousands, except for percentages)
2016
 
% of revenue (1)
 
2015
 
% of revenue (1)
 
$
change
 
% change
Other expense:
 
 
 
 
 
 
 
 
 
 
 
Interest expense, net
$
(3,322
)
 
(5
)%
 
$
(1,884
)
 
(3
)%
 
$
(1,438
)
 
76
 %
Foreign currency transaction loss
4

 
 %
 
(6
)
 
 %
 
10

 
(167)
 %
Total other expense
$
(3,318
)
 
(5
)%
 
$
(1,890
)
 
(3
)%
 
$
(1,428
)
 
76
 %
(1)
Percentage amounts may not add due to rounding.


26


Item 2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations (Cont’d)


The increase in other expense was primarily due to an increase in interest expense of $1.4 million for the quarter ended September 30, 2016, compared with the quarter ended September 30, 2015, which was primarily related to the Term Loan Facility and Revolving Loan Facility entered into by the Company in December 2015.

Income tax expense
        
We recorded income tax expense of $0.1 million and $0.2 million for the quarters ended September 30, 2016 and 2015, respectively, consisting of current foreign and state income tax expense and deferred federal and state income tax expense.

Our ability to realize the benefit of our deferred tax assets in future periods will depend on the generation of future taxable income and tax planning strategies. Due to our history of losses and our planned near-term investments in our growth, we have recorded a valuation allowance against substantially all of our deferred tax assets that are in excess of our deferred tax liabilities. We do not expect to reduce the valuation allowance against our deferred tax assets until we have a sufficient historical trend of taxable income and can predict future taxable income with a higher degree of certainty.

Net loss
        
Net loss decreased $1.2 million, from $14.5 million for the quarter ended September 30, 2015 to $13.3 million for the quarter ended September 30, 2016. Net loss in the quarter ended September 30, 2015 was lower than the net loss in the quarter ended September 30, 2016 primarily due to the decrease in operating loss, partially offset by the increase in other expense, as described above.



27


Item 2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations (Cont’d)

Selected Consolidated Statements of Operations Data
 
The following table presents selected Consolidated Statements of Operations data for the nine months ended September 30, 2016 and 2015 based on the percentage of revenue for each line item, and the dollar and percentage change of each of the items. For a detailed discussion of each item, please see the explanations below.
 
Nine Months Ended September 30, 2016 Compared with Nine Months Ended September 30, 2015  
 
Nine Months Ended September 30,
 
 
 
 
(Dollars in thousands)
2016
 
% of
revenue (1)
 
2015
 
% of
revenue (1)
 
change
 
% change
Revenue
$
198,897

 
100
 %
 
$
180,759

 
100
 %
 
$
18,138

 
10
 %
Gross profit (2)
148,948

 
75
 %
 
133,983

 
74
 %
 
14,965

 
11
 %
Operating expenses
 
 
 
 
 
 
 
 
 
 
 
Selling, general and administrative
122,169

 
61
 %
 
106,620

 
59
 %
 
15,549

 
15
 %
Research, development and other technology
50,733

 
26
 %
 
47,847

 
26
 %
 
2,886

 
6
 %
Acquisition transaction, integration and legal costs
1,615

 
1
 %
 
26,900

 
15
 %
 
(25,285
)
 
(94
)%
Intangible asset amortization
9,308

 
5
 %
 
10,072

 
6
 %
 
(764
)
 
(8
)%
Contingent consideration expense
208

 
 %
 
2,471

 
1
 %
 
(2,263
)
 
(92
)%
Change in fair value of contingent consideration liability

 
 %
 
(22,056
)
 
(12
)%
 
22,056

 
(100
)%
Intangible asset impairment

 
 %
 
2,496

 
1
 %
 
(2,496
)
 
(100
)%
Medical device excise tax

 
 %
 
2,543

 
1
 %
 
(2,543
)
 
(100
)%
Total operating expenses
184,033

 
93
 %
 
176,893

 
98
 %
 
7,140

 
4
 %
Operating loss
(35,085
)
 
(18
)%
 
(42,910
)
 
(24
)%
 
7,825

 
(18
)%
Other expense:
 
 
 
 
 
 
 
 
 
 
 
Interest expense
(9,958
)
 
(5
)%
 
(5,406
)
 
(3
)%
 
(4,552
)
 
84
 %
Foreign currency transaction gain (loss)
21

 
 %
 
(255
)
 
 %
 
276

 
(108
)%
Loss before income taxes
(45,022
)
 
(23
)%
 
(48,571
)
 
(27
)%
 
3,549

 
(7
)%
Income tax expense
487

 
 %
 
443

 
 %
 
44

 
10
 %
Net loss
$
(45,509
)
 
(23
)%
 
$
(49,014
)
 
(27
)%
 
$
3,505

 
(7
)%
 
 
 
 
 
 
 
 
 
 
 
 
Worldwide installed base of laser systems
1,478

 
 
 
1,372

 
 
 
106

 
8
 %
___________________________________
(1)
Percentage amounts may not add due to rounding.
(2)
Includes the impact of $0.3 million of amortization of acquired inventory step-up in 2015.



28


Item 2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations (Cont’d)

Revenue and gross margin

The following is a summary of revenue by product line for the nine months ended September 30, 2016 and 2015:
 
For the Nine Months Ended September 30,
(in thousands, except for percentages)
2016
 
% of revenue (1)
 
2015
 
% of revenue (1)
 
$
change
 
% change
Revenue:
 
 
 
 
 
 
 
 
 
 
 
Disposable products:
 
 
 
 
 
 
 
 
 
 
 
Vascular intervention
$
134,036

 
67
%
 
$
117,513

 
65
%
 
$
16,523

 
14
 %
Lead management
53,479

 
27
%
 
51,649

 
29
%
 
1,830

 
4
 %
Total disposable products
187,515

 
94
%
 
169,162

 
94
%
 
18,353

 
11
 %
Laser, service, and other
11,382

 
6
%
 
11,597

 
6
%
 
(215
)
 
(2)
 %
Total revenue
$
198,897

 
100
%
 
$
180,759

 
100
%
 
$
18,138

 
10
 %
(1)Percentage amounts may not add due to rounding.

Revenue increased $18.1 million, or 10%, from $180.8 million for the nine months ended September 30, 2015 to $198.9 million for the nine months ended September 30, 2016. The increase was primarily due to an increase in VI disposables revenue, described further below.

VI revenue increased $16.5 million, or 14%, from $117.5 million for the nine months ended September 30, 2015 to $134.0 million for the nine months ended September 30, 2016. The increase in VI revenue was driven primarily by unit volume increases in our peripheral atherectomy and coronary atherectomy products.

LM revenue increased $1.8 million, or 4%, from $51.6 million for the nine months ended September 30, 2015 to $53.5 million for the nine months ended September 30, 2016. The growth was primarily due to revenue from auxiliary products and mechanical tools, including our newly-introduced Bridge product, offset by a decrease in laser sheath revenue due to a decrease in unit volumes.

Laser, service, and other revenue decreased $0.2 million, or 2%, from $11.6 million for the nine months ended September 30, 2015 to $11.4 million for the nine months ended September 30, 2016, primarily due to a decrease in laser rental revenue, partially offset by an increase in laser sales.

We placed 141 laser systems during the nine months ended September 30, 2016 compared with 144 during the nine months ended September 30, 2015.  Of these laser placements, 86 lasers were newly manufactured, and 55 lasers were redeployed from a previous institution. The new placements during the nine months ended September 30, 2016 brought our worldwide installed base of laser systems to 1,478 (1,060 in the U.S.) as of September 30, 2016, compared to 1,372 (972 in the U.S.) as of September 30, 2015
        
Geographically, revenue in the U.S. increased $14.2 million, or 9%, from $152.1 million for the nine months ended September 30, 2015 to $166.3 million for the nine months ended September 30, 2016, primarily due to an increase in VI revenue.  International revenue increased $3.9 million, or 14%, from $28.6 million for the nine months ended September 30, 2015 to $32.6 million for the nine months ended September 30, 2016. The increase in international revenue was primarily due to an increase in VI revenue, principally driven by an increase in AngioSculpt and Stellarex revenue.

Gross margin was 75% for the nine months ended September 30, 2016, compared with 74% for the nine months ended September 30, 2015, which was negatively impacted by $0.3 million of amortization of acquired inventory step-up in the first quarter of 2015. Increased production efficiencies and a favorable sales mix of disposable products contributed to our improved gross margin during the nine months ended September 30, 2016. These improvements were partially offset by lower margins on laser revenue during the nine months ended September 30, 2016.


29


Item 2.       Management’s Discussion and Analysis of Financial Condition and Results of Operations (Cont’d)


Operating expenses

Total operating expenses increased $7.1 million, or 4%, from $176.9 million for the nine months ended September 30, 2015 to $184.0 million for the nine months ended September 30, 2016. The following table shows the changes in operating expenses for the nine months ended September 30, 2016 and 2015:
 
For the Nine Months Ended September 30,
(in thousands, except for percentages)
2016
 
% of revenue (1)
 
2015
 
% of revenue (1)
 
$
change
 
% change
Operating Expenses:
 
 
 
 
 
 
 
 
 
 
 
Selling, general and administrative
$
122,169

 
61
%
 
$
106,620

 
59
 %
 
$
15,549

 
15
 %
Research, development and other technology
50,733

 
26
%
 
47,847

 
26
 %
 
2,886

 
6
 %
Acquisition transaction, integration and legal costs
1,615

 
1
%
 
26,900

 
15