-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, M3nkUBYMBXUkS1CdITjHF7MBH8+C+nYqt9jIVGSLkwxHC3Kh65VvMs5e9dPT+RqI 6qqtYQpM4Gu7J51oPZ4Oxg== 0000919015-01-500037.txt : 20020410 0000919015-01-500037.hdr.sgml : 20020410 ACCESSION NUMBER: 0000919015-01-500037 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 1 CONFORMED PERIOD OF REPORT: 20010930 FILED AS OF DATE: 20011114 FILER: COMPANY DATA: COMPANY CONFORMED NAME: BIOSPHERE MEDICAL INC CENTRAL INDEX KEY: 0000919015 STANDARD INDUSTRIAL CLASSIFICATION: PHARMACEUTICAL PREPARATIONS [2834] IRS NUMBER: 043216867 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-23678 FILM NUMBER: 1786289 BUSINESS ADDRESS: STREET 1: 1050 HINGHAM STREET CITY: ROCKLAND STATE: MA ZIP: 02370 BUSINESS PHONE: 7816817900 MAIL ADDRESS: STREET 1: 1050 HINGHAM STREET CITY: ROCKLAND STATE: MA ZIP: 02370 FORMER COMPANY: FORMER CONFORMED NAME: BIOSEPRA INC DATE OF NAME CHANGE: 19940215 10-Q 1 frm10qq3.txt SEPTEMBER 30, 2001 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 --------------- FORM 10-Q --------------- (Mark One) [ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended: September 30, 2001 OR [ ] 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 0-23678 BIOSPHERE MEDICAL, INC. (Exact Name of Registrant as Specified in its Charter) --------------- Delaware 04-3216867 - ------------------------------- ------------------------------------ (State or Other Jurisdiction of (IRS Employer Identification Number) Organization or Incorporation) 1050 Hingham St., Rockland, Massachusetts 02370 (Address of Principal Executive Offices) (Zip Code) (781) 681-7900 (Registrant's Telephone Number, Including Area Code) 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 ------- ------- The number of shares outstanding of the Registrant's Common Stock as of November 12, 2001: 12,721,205 shares. - -------------------------------------------------------------------------------- BIOSPHERE MEDICAL, INC. INDEX Page Part I - Financial Information Item 1. Consolidated Condensed Financial Statements Consolidated Condensed Balance Sheets as of September 30, 2001 and December 31, 2000 (unaudited)............3 Consolidated Condensed Statements of Operations for the Three and Nine Months Ended September 30, 2001 and 2000 (unaudited)............................................4 Consolidated Condensed Statements of Cash Flows for the Nine Months Ended September 30, 2001 and 2000 (unaudited)............................................5 Notes to Consolidated Condensed Financial Statements............6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.............................11 Item 3. Quantitative and Qualitative Disclosures About Market Risk.....................................................23 Part II - Other Information...............................................23 Signatures................................................................24 -2- PART I. FINANCIAL INFORMATION ITEM 1. CONSOLIDATED CONDENSED FINANCIAL STATEMENTS. BIOSPHERE MEDICAL, INC. CONSOLIDATED CONDENSED BALANCE SHEETS (In thousands, except per share data / unaudited)
SEPTEMBER 30, DECEMBER 31, 2001 2000 ------------ ------------ ASSETS Current assets: Cash and cash equivalents ...................... $ 26,684 $ 15,276 Accounts receivable, net of allowance for doubtful accounts of $109 and $29 as of September 30, 2001 and December 31, 2000, respectively .................................. 1,455 1,142 Inventories .................................... 1,107 639 Receivable from related party................... 270 -- Prepaid and other current assets ............... 347 124 ------------ ------------ Total current assets ........................ 29,863 17,181 Property and equipment, net ..................... 1,333 694 Goodwill, net ................................... 1,443 1,144 Other assets .................................... 374 287 ------------ ------------ Total assets ................................ $ 33,013 $ 19,306 =========== ============ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable ............................... $ 743 $ 924 Accrued compensation ........................... 1,312 994 Other accrued expenses ......................... 1,513 1,086 Payable to related party ....................... -- 14 Current portion of long-term debt .............. 33 27 ------------ ------------ Total current liabilities ................... 3,601 3,045 Minority interest acquisition obligation ........ 906 478 Long-term debt .................................. 92 97 ------------ ------------ Total liabilities ........................... 4,599 3,620 Stockholders' equity: Common stock, $0.01 par value, 25,000 shares authorized; shares issued and outstanding: 12,718 as of September 30, 2001 and 10,595 as of December 31, 2000 ............ 127 106 Additional paid-in capital ...................... 80,597 60,100 Accumulated deficit ............................. (52,373) (44,515) Cumulative translation adjustment ............... 63 (5) ------------ ------------ Total stockholders' equity .................. 28,414 15,686 ------------ ------------ Total liabilities and stockholders' equity .. $ 33,013 $ 19,306 ============ ============
The accompanying notes are an integral part of these consolidated condensed financial statements. -3- BIOSPHERE MEDICAL, INC. CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS (In thousands, except per share data / unaudited)
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, --------------------- --------------------- 2001 2000 2001 2000 --------- --------- --------- --------- Product revenues............................. $ 2,017 $ 1,016 $ 6,027 $ 2,605 Collaboration revenues....................... -- -- 250 -- --------- --------- --------- --------- Total revenues............................ 2,017 1,016 6,277 2,605 Costs and expenses: Cost of product revenues................... 547 375 1,655 1,061 Research and development................... 1,417 518 3,615 1,631 Selling and marketing...................... 2,422 1,197 6,768 2,665 General and administrative (1)............. 872 639 2,601 2,569 Stock-based compensation to non-employees.. -- 991 -- 1,261 --------- --------- --------- --------- Total costs and expenses.................. 5,258 3,720 14,639 9,187 --------- --------- --------- --------- Loss from operations...................... (3,241) (2,704) (8,362) (6,582) Interest and other income, net............... 166 251 504 506 --------- --------- --------- --------- Net loss.................................. $ (3,075) (2,453) (7,858) (6,076) ========= ========= ========= ========= --------- --------- --------- --------- Basic and diluted net loss per share......... $ (0.24) $ (0.24) $ (0.70) $ (0.64) ========= ========= ========= ========= Weighted average common shares outstanding Basic and diluted........................ 12,621 10,103 11,279 9,428 ========= ========= ========= =========
(1) Excludes compensation charge for issuance of stock options to non-employee advisors The accompanying notes are an integral part of these consolidated condensed financial statements. -4- BIOSPHERE MEDICAL, INC. CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (In thousands / unaudited)
NINE MONTHS ENDED SEPTEMBER 30, --------------------- 2001 2000 --------- --------- CASH FLOWS FROM OPERATING ACTIVITIES: Net loss .............................................. $ (7,858) $ (6,076) Adjustments to reconcile net loss to net cash used in operating activities: Provision for doubtful accounts ..................... 80 58 Depreciation and amortization ....................... 353 189 Non-cash interest expense ........................... -- 20 Foreign currency translation gain ................... -- (85) Non-cash stock-based compensation to non-employees ................................... -- 1,261 Changes in operating assets and liabilities: Accounts receivable ............................... (409) (385) Inventories ....................................... (474) (180) Prepaid and other assets .......................... (314) (185) Accounts payable .................................. (171) 32 Accrued compensation .............................. 330 353 Other accrued expenses ............................ 434 (58) Payable to related party .......................... (284) (54) --------- --------- Net cash used in operating activities ................. (8,313) (5,110) --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment .................... (870) (431) Change in other assets ................................ -- (139) Cash paid for 34% interest in Biosphere Medical S.A.... -- (920) --------- --------- Net cash used in investing activities ................. (870) (1,490) --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Cash proceeds from the issuance of common stock........ 20,392 17,734 Cash proceeds from the exercise of stock options....... 127 358 Proceeds from issuance of long-term debt and capital leases........................................ 25 144 Principal payments under long-term debt and capital leases........................................ (22) (21) --------- --------- Net cash provided by financing activities.............. 20,522 18,215 --------- --------- Effect of exchange rate changes on cash and cash equivalents ..................................... 69 195 --------- --------- NET INCREASE IN CASH AND CASH EQUIVALENTS ............... 11,408 11,810 CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD ........ 15,276 5,368 --------- --------- CASH AND CASH EQUIVALENTS AT END OF PERIOD .............. $ 26,684 $ 17,178 ========= =========
The accompanying notes are an integral part of these consolidated condensed financial statements. -5- BIOSPHERE MEDICAL, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES A) Nature of Business BioSphere Medical, Inc ("we," "BioSphere" or the "Company") was incorporated in Delaware in December 1993 under the name BioSepra Inc. During 1999, the Company strategically refocused its business on the development and commercialization of its proprietary Embosphere Microspheres for medical applications. Between February 1999 and October 2001 we acquired all ownership interests in Biosphere Medical S.A. ("BMSA"), a French societe anonyme (See Note 3). BMSA holds the license to the embolotherapy device that is the main focus of our business. In May 1999, we sold substantially all of our assets relating to our former core business, chromatography, and changed our name to BioSphere Medical, Inc. On July 3, 2001, we completed an underwritten public offering of 4.0 million shares of our common stock. Of the 4.0 million shares of our common stock offered, the Company sold 2.0 million shares and Sepracor, Inc., a selling stockholder, sold 2.0 million shares. Net proceeds to the Company were approximately $20.4 million. On August 6, 2001, Sepracor sold an additional 600,000 shares of our common stock pursuant to exercise of the underwriter's over-allotment option. As a result of this offering, including the sale of shares associated with the over-allotment option, Sepracor's beneficial ownership interest in our outstanding common stock decreased from approximately 55% to approximately 25% (See Note 7). During 2000, the Company established two wholly owned subsidiaries to pursue the development of other microsphere applications and technologies. In May 2000, BioSphere Medical Japan, Inc., a Delaware corporation, was established to develop and commercialize Embosphere Microspheres as well as HepaSphere SAP Microspheres in Asia. In December 2000, BSMD Ventures, Inc., also a Delaware corporation, was established to explore and develop alternative applications for the Company's microsphere platform technology with a specific focus on dermal and other tissue engineering uses. The Company believes that current working capital, together with the proceeds received in the July 2001 secondary public offering and anticipated sales of its EmboSphere Microspheres and other products, will provide liquidity sufficient to allow the Company to meet its expected spending obligations while also allowing the further development and testing of other product candidates and technologies. However, no assurances can be given that such revenues will, in fact, be realized. Should the Company not realize some or all of its revenue projections, it may be required to secure alternative financing arrangements, pursue additional strategic partners, and/or defer or limit some or all of its research, development and/or clinical projects. B) Basis of Presentation The accompanying consolidated condensed financial statements are unaudited and have been prepared on a basis substantially consistent with the Company's annual audited financial statements included in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000. The consolidated condensed financial statements include the accounts of the Company, its majority-owned subsidiary as of September 30, 2001, BMSA, and its two wholly owned subsidiaries, Biosphere Medical Japan, Inc. and BSMD Ventures, Inc. All material inter-company balances and transactions have been eliminated in consolidation. Certain information and footnote disclosures normally included in the Company's annual statements have been condensed or omitted. The consolidated condensed financial statements, in the opinion of management, reflect all adjustments (including normal recurring accruals) necessary for a fair statement of the results for the three and nine months ended September 30, 2001 and 2000. The results of operations for the presented periods are not necessarily indicative of the results of operations to be expected for the entire fiscal year. These consolidated condensed financial statements should be read in conjunction with the audited financial statements included in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 2000. C) Comprehensive Income /(Loss) Comprehensive income (loss) is comprised of net income (loss) and other comprehensive income (loss.) Other comprehensive income (loss) includes certain changes in equity that are excluded from net income (loss). Specifically, the effects of foreign currency translation adjustments, which are reflected separately in stockholders' equity, are included in accumulated other comprehensive income (loss.) For the three and nine months ended September 30, 2001 and 2000, the Company's comprehensive income was $2,951, $2,314, $7,790 and $5,880, respectively. -6- BIOSPHERE MEDICAL, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued) D) Net Loss Per Share Basic net loss per share is calculated based on the weighted average number of common shares outstanding during the period. Diluted net loss per share incorporates the dilutive effect of common stock equivalent options, warrants and other convertible securities. Total warrants and options convertible into common stock as of September 30, 2001 and 2000, equaled 4,175,498 and 4,141,448, respectively. Common stock equivalents have been excluded from the calculation of weighted average number of diluted common shares, as their effect would be antidilutive for all periods presented. E) Goodwill Goodwill represents the difference between the purchase price and the fair value of the tangible and identifiable intangible net assets acquired when accounted for in accordance with the purchase method of accounting. Between February 1999 and October 2001, the Company recorded goodwill upon the periodic step-acquisitions of additional interests of BMSA. Goodwill is being amortized over the shorter of an estimated ten-year useful life or February 2009, which represents a ten-year amortization period from the date of the original BMSA purchase agreement (See Note 3). Accumulated amortization was approximately $303,000 and $175,000 as of September 30, 2001 and December 31, 2000, respectively. F) Impairment of Long-Lived Assets As of September 30, 2001, the Company has evaluated the potential impairment of its long-lived assets with respect to events or changes in circumstances that may indicate that the carrying amount of a recorded asset may not be recoverable. Based on management's assessment as of September 30, 2001, the Company has determined that no impairment of long-lived assets exists. G) New Accounting Prouncements In June 2001, the FASB issued Statement of Financial Accounting Standards (SFAS) No. 141, "Business Combinations". SFAS 141 requires all business combinations initiated after June 30, 2001 to be accounted for using the purchase method. Adoption of this statement did not have a material impact on its operations. In June 2001, the FASB issued SFAS No. 142, "Goodwill and Other Intangible Assets". With the adoption of SFAS No. 142, goodwill is no longer subject to amortization over its estimated useful life, but instead goodwill is subject to at least an annual assessment for impairment by applying a fair-value-based test. Adoption of this statement did not have a material impact on its operations. In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations." This statement addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. This Statement applies to all entities. It applies to legal obligations associated with the retirement of long-lived assets that result from the acquisition, construction, development and (or) the normal operation of a long-lived asset, except for certain obligations of lessees. This statement amends FASB Statement No. 19 and is effective for financial statements issued for fiscal years beginning after June 15, 2002. The Company does not expect the adoption of this statement to have a material impact on its operations. -7- BIOSPHERE MEDICAL, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued) H) New Accounting Prouncements (continued) In August 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." This statement supercedes FASB Statement No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of," and the accounting and reporting provisions of APB Opinion No. 30, "Reporting the Results of Operations - Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions." Under this statement it is required that one accounting model be used for long-lived assets to be disposed of by sale, whether previously held and used or newly acquired, and it broadens the presentation of discontinued operations to include more disposal transactions. The provisions of this statement are effective for financial statements issued for fiscal years beginning after December 15, 2001, and interim periods within those fiscal years, with early adoption permitted. The Company does not expect the adoption of this statement to have a material impact on its operations. 2. INVENTORIES Inventories are stated at the lower of cost or market and consist of the following: SEPTEMBER 30, DECEMBER 31, (In thousands) 2001 2000 ---------------------------------- ------------ ------------ Raw material ..................... $ 292 $ 156 Work in progress ................. 146 78 Finished goods ................... 669 405 ------------ ------------ $ 1,107 $ 639 ============ ============ 3. ACQUISITION OF BIOSPHERE MEDICAL S.A. AND MINORITY INTEREST ACQUISITION OBLIGATION On February 25, 1999, the Company acquired 51% of the outstanding capital stock of BMSA. Pursuant to a February 25, 1999 purchase agreement, the Company acquired a 51% ownership interest by granting to BMSA an exclusive sales and manufacturing license to certain patents and technology primarily relating to the Company's Embosphere Microsphere technology. The Company was also granted an option to purchase the remaining 49% interest in BMSA through December 31, 2004 for an amount equal to the product of the percentage interest to be purchased and the sum of BMSA's rolling average twelve-month sales and worldwide Embosphere Microsphere sales as of the date of exercise (the "Purchase Option"). Moreover, the holder of the remaining 49% interest was also granted an option (the "Put Option") to require the Company to purchase the remaining 49% interest from December 31, 2003 until December 31, 2004 for an amount equal to the greater of an agreed upon price (in French Francs) for each percentage interest to be sold or the amount payable adjusted to a rolling nine-month sales average under the Purchase Option. The Put Option represented a contingent purchase consideration for which the Company has accreted the value of this Put Option through September 30, 2001. On April 7, 2000, the Company purchased an additional 34% of BMSA for $950,000. As a result of this step-acquisition, the Company's total ownership interest in BMSA increased to 85%. On November 5, 2001, the Company acquired the remaining 15% interest in BMSA for approximately $1.0 million. Both subsequent step-acquisition transactions will be accounted for under purchase accounting principles whereby the fair value in excess of the net assets purchased is treated as an increase to goodwill. Net goodwill, comprised entirely of the unamortized purchase price paid in excess of the net BMSA assets acquired, equaled $1.44 million and $1.1 million as of September 30, 2001 and December 31, 2000, respectively. -8- BIOSPHERE MEDICAL, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued) 4. SEGMENT AND GEOGRAPHIC DATA The Company develops microspheres for use in the treatment of hypervascularized tumors and malformations. The Company operates exclusively in the medical device business, which the Company considers as one business segment. Operations are primarily conducted in two geographic regions: North America and Europe. Operations by geographic region for the three and nine months ended September 30, 2001 and 2000 are as follows:
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, -------------------- -------------------- (In thousands) 2001 2000 2001 2000 --------------------------------------------- -------------------- -------------------- REVENUE United States Unaffiliated customers..................... $ 1,427 $ 457 $ 3,941 $ 550 Collaboration revenues..................... -- -- 250 -- -------------------- -------------------- Total revenues - United States.............. $ 1,427 $ 457 $ 4,191 $ 550 ==================== ==================== Europe Unaffiliated customers (Primarily French).. $ 502 $ 475 $ 1,773 $ 1,747 Related parties............................ 655 320 2,432 940 Transfer to other geographic areas......... 88 84 313 308 -------------------- -------------------- 1,245 879 4,518 2,995 Elimination and adjustments................ (655) (320) (2,432) (940) -------------------- -------------------- Total revenue.............................. $ 590 $ 559 $ 2,086 $ 2,055 ==================== ==================== OPERATING LOSSES United States............................... $(2,305) $(2,798) $(7,983) $(5,952) Europe...................................... (770) 345 125 (124) -------------------- -------------------- Total operating loss....................... $(3,075) $(2,453) $(7,858) $(6,076) ==================== ====================
5. RELATED PARTY TRANSACTIONS Receivable from related party represents the portion of offering expenses that Sepracor has agreed to pay as a result of Sepracor's participation in the July 2001 secondary offering of 4.0 million shares of the Company's common stock (See Note7). Payable to related party represents amounts due for certain administrative services provided on an arms-length basis by Sepracor as of September 30, 2001. Total fees charged for services rendered in the three and nine-month periods ended September 30, 2001 were not material. 6. STOCK-BASED COMPENSATION TO NON-EMPLOYEES In connection with stock options previously issued to non-employee advisors, the Company, in accordance with Emerging Issues Task Force Abstract 96-18 "Accounting for equity instruments that are issued to other than employees for acquiring, or in conjunction with selling, goods or services" ("EITF 96-18"), recognized $1.26 million in non-employee compensation expense during the nine-month period ended September 30, 2000. The non-cash stock-based compensation charge has been presented as a separate line item within the Statement of Operations for the nine months ended September 30, 2000. The $1.26 million aggregate fair value of the non-employee stock options was derived from the Black-Scholes option-pricing model. -9- BIOSPHERE MEDICAL, INC. NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Continued) 7. Common Stock Financing On July 3, 2001, the Company completed an underwritten public offering of 4.0 million shares of its common stock at $11.00 per share. Of the 4.0 million shares of common stock offered, the Company sold 2.0 million shares and Sepracor sold 2.0 million shares. Net proceeds to the Company were approximately $20.4 million. Proceeds from the public offering will be used for working capital and general corporate purposes, including product commercialization and research and development. On August 6, 2001, Sepracor sold an additional 600,000 shares of our common stock pursuant to exercise of the underwriters' over-allotment option. As a result of this offering, including the sale of shares pursuant to exercise of the over-allotment, Sepracor's beneficial ownership interest in the Company's outstanding common stock decreased from approximately 55% to approximately 25% as of September 30, 2001. -10- Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. The following discussion should be read in conjunction with the unaudited consolidated condensed financial statements and related notes appearing elsewhere in this report. This discussion contains forward-looking statements that involve risks and uncertainties. See "Certain Factors That May Affect Future Results of Operations." OVERVIEW BioSphere Medical, Inc., ("we," the "Company" or "BioSphere") develops, markets and manufactures innovative medical device products for the treatment of hypervascularized tumors and arteriovenous malformations using embolotherapy. Embolotherapy is a minimally invasive procedure in which materials that inhibit blood flow, referred to as embolic materials, such as our microspheres, are injected through a catheter into the blood vessels to inhibit blood flow to tumors and arteriovenous malformations. By selectively blocking the tumor's blood supply, embolotherapy is designed to cause the tumor to shrink. Hypervascularized tumors are tumors that are supplied by a larger number of blood vessels than the number of blood vessels supplying the tissue surrounding the tumor. Arteriovenous malformations are abnormal connections between arteries and veins, frequently characterized by a dense and wide spread network of interconnecting blood vessels. Our lead product, Embosphere Microspheres, is an acrylic bead with a proprietary design that is used as an embolic material. BioSphere was incorporated in 1993 under the name BioSepra Inc., as a chromatography media company. During 1999, we strategically refocused our business on the development and commercialization of our proprietary microspheres for medical applications. From February 1999 through November 2001, we acquired 100% ownership interests in Biosphere Medical S.A. ("BMSA"), a French societe anonyme. BMSA holds the license to the embolotherapy device that is the main focus of our business. In May 1999, we sold substantially all of our assets relating to our former core business, chromatography, and changed our name to BioSphere Medical, Inc. On July 3, 2001, the Company completed an underwritten public offering of 4.0 million shares of our common stock. Of the 4.0 million shares of our common stock offered, the Company sold 2.0 million shares and Sepracor, a selling stockholder, sold 2.0 million shares. Net proceeds to the Company were approximately $20.4 million. On August 6, 2001, Sepracor sold an additional 600,000 shares of our common stock pursuant to their exercise of the underwriter's over allotment option. As a result of this offering, including the sale of shares pursuant to exercise of the over allotment option, Sepracor's beneficial ownership interest in our outstanding common stock decreased from approximately 55% to approximately 25% as of September 30, 2001. We received CE Mark approval of our Embosphere Microspheres product in the European Union in 1997. CE Mark approval is a certification granted by European regulatory bodies, or by some manufacturers with satisfactory quality systems, that substantiates the compliance of products with specific standards of quality and/or safety. This approval is generally required prior to the commercialization of a medical device in the European Union. In January 2000, we received marketing approval of our Embosphere Microspheres product in Australia and Canada. We expect to initiate marketing approval in Japan for our HepaSphere SAP Microspheres product for the treatment of liver cancer within the next 24 months. In April 2000, we received clearance from the United States Food and Drug Administration ("FDA") for embolization of hypervascularized tumors and arteriovenous malformations. In December 2000, we commenced our pivotal Phase II clinical testing under an investigational device exemption of the safety and effectiveness of treating uterine fibroids by uterine artery embolization with our Embosphere Microspheres. An investigational device exemption is a regulatory exemption granted by the FDA to medical device manufacturers for the purpose of conducting clinical studies. We intend, pending FDA clearance for this indication, to promote our microspheres for the treatment of uterine fibroids. We do not anticipate receiving this clearance before 2002, if at all. In July 2001, we received FDA clearance for EmboGold (TM), a new colorized Embosphere Microsphere. Our revenues are primarily generated from product sales of Embosphere Microspheres in the United States, the European Union, Australia, and Canada. Product revenues also include the sale of barium and other ancillary products manufactured by us or by third parties. Although we have not received FDA clearance or approval to market our Embosphere Microspheres for use in the treatment of uterine fibroids, we believe that a majority of our revenues in the United States for the year ended December 31, 2000 and the nine months ended September 30, 2001 was derived from the sale of Embosphere Microspheres for use in uterine fibroid embolization. During 2000, we established two wholly-owned subsidiaries to pursue the development of other microsphere technologies. In May 2000, Biosphere Medical -11- Japan, Inc., a Delaware corporation, was established to develop and commercialize Embosphere Microspheres as well as HepaSphere SAP Microspheres in Asia. In December 2000, BSMD Ventures, Inc., also a Delaware corporation, was established to explore and develop non-embolotherapy applications with a specific focus on tissue engineering uses. We have experienced operating losses in each fiscal period since our inception. As of September 30, 2001, we had approximately $26.7 million in cash and cash equivalents and an accumulated deficit of approximately $52.4 million. In connection with the execution of our business plan to further develop and capture a significant portion of the embolotherapy market, we expect to experience continued losses over the next several quarters. We believe that the net proceeds of $20.4 million raised in our secondary public offering on July 3, 2001, together with our existing working capital and anticipated future sales of our EmboSphere Microspheres and other products, will provide liquidity sufficient to allow us to meet our expected spending obligations while also allowing the further development and testing of other product candidates and technologies. However, no assurances can be given that such revenues will, in fact, be realized. Should we not realize some or all of our revenue projections, we may be required to secure alternative financing arrangements, pursue additional strategic partners, and/or defer or limit some or all of our research, development and/or clinical projects. Financing arrangements or additional strategic partners may not be available to us on acceptable terms, if at all. THREE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000 Total revenues increased to $2.017 million for the three-month period ended September 30, 2001 from $1.016 million for the same period in 2000. The $1.001 million, or 99%, increase in product revenues in the year-to-year quarters was due primarily to an increase in sales as a result of the increased market penetration of Embosphere Microspheres in the United States following receipt of FDA 510(k) clearance, in April 2000, for use of Embosphere Microspheres for embolization of hypervascularized tumors and arteriovenous malformations. To a lesser extent, also contributing to the significant revenue growth was increased EmboSphere Microspheres sales in the European Union and Canada. Cost of product revenues for the three-month period ended September 30, 2001 was $547,000, compared with $375,000 for the same period in 2000. The $172,000, or 46%, increase in the cost of product revenues for the three-month period ended September 30, 2001 was due to the 99% increase in sales volume partially offset by improved manufacturing efficiencies and a shift in the product sales mix to the higher-margin Embosphere Microspheres products. Gross margin from product sales for the three-month period ended September 30, 2001 was $1.47 million, or approximately 73% of product revenues, compared with $641,000, or 63% of product revenues, for the same period in 2000. Research and development expenses increased to $1.417 million in the three months ended September 30, 2001, from $518,000 in the same period in 2000. The $899,000, or 174%, increase in the three months ended September 30, 2001 was primarily due to the final development costs associated with the introduction of the Company's EmboGold product line. Additional research and development spending in 2001 also resulted from the Company's ongoing pivotal Phase II clinical trials aimed at establishing clinical data to support FDA specific labeling clearance or approval to use Embosphere Microspheres in the treatment of uterine fibroids. We anticipate future research and development expenses will increase as a result of the ongoing pivotal Phase II uterine fibroid embolization clinical trial and continued development and enhancements of our current pipeline products and product candidates. Selling and marketing expenses increased to $2.422 million for the three months ended September 30, 2001 from $1.197 million for the comparable period in 2000. The $1.225 million, or 102%, increase in the three-month period ended September 30, 2001, was primarily due to the implementation of our product commercialization plan, including personnel costs, recruiting expenses and other selling and marketing expenses associated with developing and expanding a new product line. General and administrative expenses increased to $872,000 for the three months ended September 30, 2001 from $639,000 for the comparable period in 2000. The $234,000, or 37%, increase in the three-month period ended September 30, 2001, was primarily due to personnel costs, human resource initiatives and other operational expenses associated with enhancing the administrative function in the United States during fiscal 2001. Interest and other income, net, in the three-month period ended September 30, 2001 was $166,000, compared to $251,000 in the comparable period in 2000. The decrease was primarily due to differences in realized investment yields compounded by the adverse effects of foreign currency fluctuations. To date, the Company has not recorded a benefit for income taxes, as we believe the ability to realize such tax benefits is uncertain. -12- NINE MONTHS ENDED SEPTEMBER 30, 2001 AND 2000 Total revenues increased to $6.277 million for the nine-month period ended September 30, 2001, from $2.605 million for the same period in 2000. Included in revenues in the nine-month period ended September 30, 2001 was $250,000 in collaboration revenues earned in connection with a former supply agreement. In addition to the collaboration revenues earned during 2001, the $3.672 million, or 141%, increase was due primarily to the continued market penetration of Embosphere Microspheres sales in the United States following receipt of FDA 510(k) clearance in April 2000. Cost of product revenues for the nine months ended September 30, 2001 was $1.655 million compared with $1.061 million, for the same period in 2000. The $594,000, or 56%, increase in the cost of product revenues for the nine-month period ended September 30, 2001 was due to a 141% increase in sales volume. Gross margin from product sales for the nine months ended September 30, 2001 was $4.372 million, 73% of product revenues, compared with $1.544 million, or 59% of product revenues, for the same period in 2000. The improvement in gross margin resulted primarily from a shift in the product mix to higher margin Embosphere Microspheres added to improvements in manufacturing efficiencies. Research and development expenses increased to $3.615 million in the nine months ended September 30, 2001 from $1.631 million in the same period in 2000. The $1.984 million, or 122%, increase in the nine months ended September 30, 2001 was due primarily to clinical and regulatory costs associated with the Company's Phase I and the current pivotal Phase II uterine artery embolization clinical trials. The increase was also due to the final development costs associated with the approval and release of the EmboGold Microspheres product line. To a lesser extent, also contributing to the increase was an increase in staffing within the United States. Selling and marketing expenses increased to $6.768 million for the nine months ended September 30, 2001 from $2.665 million for the comparable period in 2000. The $4.103 million, or 154%, increase in the nine-month period ended September 30, 2001, was primarily due to the implementation of our product commercialization plan, including personnel costs, recruiting expenses and other selling and marketing expenses associated with developing and expanding a new product line. General and administrative expenses remained constant at approximately $2.6 million for each of the nine-month periods ended September 30, 2001 and 2000. Increases in investor relations and personnel expenses for the nine-month period ended September 30, 2001 were offset by decreases in executive recruiting charges for the nine months ended September 30, 2001 as compared to the same period in 2000. In connection with stock options previously issued to non-employee advisors, we recognized, in accordance with Emerging Issues Task Force Abstract 96-18 "Accounting for equity instruments that are issued to other than employees for acquiring, or in conjunction with selling, goods or services" ("EITF 96-18"), $1.261 million in non-employee compensation expense during the nine-month period ended September 30, 2000. The non-cash stock-based compensation charge has been presented as a separate line item within the Statement of Operations for the nine months ended September 30, 2000. The $1.26 million aggregate fair value of the non-employee stock options was derived from the Black-Scholes option-pricing model. Interest and other income, net, in the nine-month period ended September 30, 2001 was $504,000 compared to $506,000 in the comparable period in 2000. The year-to-year consistency resulted from reduced yields on higher invested cash balances compounded by the adverse impact of foreign currency fluctuations. LIQUIDITY AND CAPITAL RESOURCES We have historically funded our operations from product sales, net proceeds provided from public and private equity offerings, funds provided by the sale of our former chromatography business, funds provided by Sepracor, bank financing, equipment financing leases and to a lesser extent, exercise of stock options. As of September 30, 2001, we had $26.7 million in cash and cash equivalents and $26.3 million in net working capital. On July 3, 2001, the Company completed an underwritten public offering of 4.0 million shares of our common stock at $11.00 per share. Of the 4.0 million shares of common stock offered, the Company sold 2.0 million shares and Sepracor sold 2.0 million shares. Net proceeds to the Company were approximately $20.4 million. Proceeds from the public offering will be used for working capital and general corporate purposes, including product commercialization and research and development. On August 6, 2001, Sepracor sold an additional 600,000 shares of our common stock pursuant to exercise of the underwriter's over-allotment option. As a result of this offering, including the the over allotment, Sepracor's beneficial ownership interest in the Company's outstanding common stock decreased from approximately 55% to approximately 25% as of September 30, 2001. -13- For the nine months ended September 30, 2001, we used $8.313 million in operating cash primarily to fund our sales, marketing and product research and development activities as well as finance working capital requirements particularly in the United States. Cash used in operations is expected to decrease, as product revenue growth will partially offset our operational expenses and product development efforts. Net cash used in investing activities was $870,000 for the nine months ended September 30, 2001, all of which was used to purchase property and equipment. Purchases during the nine-month period ended September 30, 2001, principally included acquisitions of additional scientific, manufacturing and computer equipment needed for our expansion in both the United States and France. Future capital expenditures are anticipated to continue over the next twelve to eighteen month period consistent with our plan to expand our sales and marketing force in the United States, Australia and Canada as well as expand our manufacturing capabilities within the United States. If available on favorable terms, we expect to finance certain future fixed asset acquisitions through leasing arrangements. As a co-borrower under Sepracor's commercial bank facility, we had availability to borrow up to $2.0 million through a line of credit agreement. As a result of our July 2001 secondary public offering, Sepracor's ownership of our outstanding common stock was reduced to less than 50%, thereby automatically terminating the co-borrowing arrangement. Because we are no longer a party to the loan agreement, which had no outstanding balance as of September 30, 2001, Sepracor has agreed to obtain a release of its guaranty to the bank which will automatically terminate the related security agreement. As of November 2, 2001, we are actively negotiating a new and independent revolving credit agreement containing similar terms, rates and conditions, but without Sepracor as a co-borrower. We believe that our existing cash and other working capital, including the approximate $26.7 million in cash and cash equivalents as of September 30, 2001, will be sufficient to fund our operating and capital requirements, as currently planned, at least through the next twelve-month period. However, our cash requirements may vary materially from those now planned due to changes in anticipated research and development efforts, the scope and results of pre-clinical and clinical testing, changes in the focus and direction of our research and development programs, competitive and technological advances, the FDA's regulatory process, the market's acceptance of any approved products, and other factors. We expect to incur substantial additional costs, including costs related to ongoing research and development activities, pre-clinical studies, clinical trials, the expansion of our manufacturing, laboratory and administrative functions as well as costs relating to further commercialization activities. We may also need additional funds for possible strategic acquisitions of synergistic businesses, products and/or technologies. These additional funds may be raised from time to time through additional public or private sales of equity, through borrowings, or through other financings. There are no assurances that we will be able to obtain any additional funding that may be required on acceptable terms, if at all. CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS OF OPERATIONS This Quarterly Report on Form 10-Q contains, in addition to historical information, forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements involve risks and uncertainties and are not guarantees of future performance. The Company's actual results could differ significantly from the results discussed in such forward-looking statements due to a number of important factors, including those set forth below. You should carefully consider each of these risks and uncertainties in evaluating our business, financial condition and results of operations. The forward-looking information provided herein represents the Company's estimates as of the date of this report. Subsequent events and developments may cause these estimates to change. The Company cautions you that while it may elect to update this forward-looking information at some point in the future, it specifically disclaims any obligation to do so. RISK RELATING TO OUR FUTURE PROFITABILITY Because we have a history of losses and our future profitability is uncertain, our common stock is a highly speculative investment We have incurred operating losses since our inception and, as of September 30, 2001, had an accumulated deficit of approximately $52.4 million. We expect to spend substantial funds to continue research and product testing, to establish sales, marketing, quality control, regulatory and administrative capabilities and for other general corporate purposes. We expect to continue incurring losses for at least the next several fiscal quarters as we expand our commercialization efforts. -14- We may never become profitable. If we do become profitable, we may not remain profitable on a continuing basis. Our failure to become and remain profitable would depress the market price of our common stock and impair our ability to raise capital and expand, diversify or continue our operations. RISKS RELATING TO OUR INDUSTRY, BUSINESS AND STRATEGY If we do not achieve widespread market acceptance of our Embosphere Microspheres product, our business prospects will be seriously harmed Our Embosphere Microspheres are based on new technologies and therapeutic approaches. In the United States, we only recently began selling our Embosphere Microspheres product. Our success will depend upon the medical community, patients and third party payors accepting our Embosphere Microspheres product as medically useful, cost-effective and safe. In particular, our success will depend upon obstetrics and gynecology physicians referring patients to interventional radiologists to receive treatment using our products in lieu of, or in addition to, receiving other forms of treatment which the obstetrics and gynecology physicians can provide directly. Negative publicity associated with any adverse medical effects attributed to embolization treatments generally or our product specifically, may create the market perception that our products are unsafe. For example, patients commonly experience a day or two of post-procedure abdominal pain or cramping. Other infrequently occurring complications may include allergic reactions, early onset of menopause, infertility and infection that may, in some cases, require a hysterectomy. In addition, Embosphere Microspheres are designed to remain in the body permanently. As a result, there is some risk that some or all of the Embosphere Microspheres used in a medical procedure may travel in the blood system beyond the intended site of action and occlude, or block, other blood vessels, resulting in significant adverse health effects on the patient or even death. Moreover, to use our Embosphere Microspheres correctly for a particular medical procedure, physicians must select and use the proper size and quantity of Embosphere Microspheres. A physician's selection and use of the wrong size or quantity of Embosphere Microspheres could have significant adverse health effects on the patient, including death. It will be necessary for us to spend significant amounts of money and allocate management resources to educate physicians about the selection and use of the proper size and quantity of Embosphere Microspheres in patient therapy. In addition, there is only limited data concerning the long-term health effects on persons resulting from embolotherapy using our Embosphere Microspheres. If we are not able to successfully educate physicians to properly use our product or if the market determines or concludes that our product is not safe or effective for any reason, we may be exposed to product liability claims, product recalls and fines or other penalties or enforcement actions by regulatory agencies and associated adverse publicity. In addition, we have provided to our customers a satisfaction guarantee that requires us to accept the return of any inventory and credit the entire amount of the original order if a properly-trained customer is not satisfied with the performance of our microspheres. If we experience adverse publicity or are subject to product liability claims, excessive guarantee claims, recalls, fines and the like, we will be unable to commercialize successfully our products and achieve profitability. We will be required to expend significant resources for research, development, testing and regulatory approval of our products under development and these products may not be developed successfully We are developing and commercializing products for medical applications using embolotherapy techniques and also seeking to develop potential applications in several non-embolotherapy applications. Except for our Embosphere Microspheres product, most of our product candidates are still in the early stages of research and development. Our products may not provide greater benefits than current treatments or products or treatments or products under development. All of our products under development will require significant additional research, development, preclinical and/or clinical testing, regulatory approval and a commitment of significant additional resources prior to their commercialization. Our potential products may not: - be developed successfully; - be proven safe and efficacious in clinical trials; - offer therapeutic or other improvements over current treatments and products; - meet applicable regulatory standards; - be capable of being produced in commercial quantities at acceptable costs; or - be successfully marketed. -15- If we experience delays, difficulties or unanticipated costs in establishing the sales, distribution and marketing capabilities necessary to successfully commercialize our products, we will have difficulty maintaining and increasing our sales We are currently developing sales, distribution and marketing capabilities in the United States and have only limited sales, distribution and marketing capabilities in the European Union. It is expensive and time-consuming for us to develop a global marketing and sales force. Moreover, we may choose or find it necessary to enter into strategic collaborations to sell, market and distribute our products. The terms of any collaboration may not be favorable to us. We may not be able to provide adequate incentive to our sales force or to establish distribution and marketing collaborations with other companies to promote our products. We must also market the products in compliance with federal, state and local laws relating to the providing of incentives and inducements. Violation of these laws can result in substantial penalties. If we are unable to successfully motivate and expand our marketing and sales force and further develop our sales and marketing capabilities, or if our distributors fail to promote our products, we will have difficulty maintaining and increasing our sales. If the strategic redirection of our business is not successful, we may be unable to achieve growth in our business In early 1999, we decided to exit the chromatography business, which had constituted our core business, to focus on the commercialization of microspheres for use in embolotherapy and other medical applications. We have restated our historical financial statements to reflect the discontinuation of our chromatography business. In addition, 73% of 1999 revenue, 49% of 2000 revenue and approximately 22% of revenue through September 30, 2001 included in our consolidated financial statements was derived from the sale of products we consider to be nonstrategic and which we do not expect to constitute a significant portion of our revenue on an ongoing basis. Our strategic shift from the chromatography business to the commercialization of microspheres may not prove to be successful and, consequently, we may be unable to grow our business and achieve profitability. If we are unable to obtain adequate product liability insurance, then we may have to pay significant monetary damages in a successful product liability claim against us The development and sale of medical devices entails an inherent risk of product liability. Product liability insurance is generally expensive for medical device companies such as ours. Although we maintain limited product liability insurance coverage for the clinical trials of our products, it is possible that we will not be able to obtain further product liability insurance on acceptable terms, if at all. Insurance we subsequently obtain may not provide us with adequate coverage against all potential claims. If we are exposed to product liability claims for which we have insufficient insurance, we may be required to pay significant damages which would prevent or delay our ability to commercialize our products. If we are not able to compete effectively, we may experience decreased demand for our products which may result in price reductions We have many competitors in the United States and abroad, including medical device and therapeutics companies, universities and other private and public research institutions. Our success depends upon our ability to develop and maintain a competitive position in the embolotherapy market. Our key competitors are Cordis Corporation, a Johnson & Johnson company, Boston Scientific Corporation and Cook Incorporated. These and many of our other competitors have greater capabilities, experience and financial resources than we do. As a result, they may develop products that compete with our Embosphere Microspheres product more rapidly or at less cost than we can. Currently, the primary products with which our Embosphere Microspheres compete for some of our applications are polyvinyl alcohol, polymerizing gels and coils. In addition, our competitors may develop technologies that render our products obsolete or otherwise noncompetitive. We may not be able to improve our products or develop new products or technologies quickly enough to maintain a competitive position in our market and continue to grow our business. Moreover, we may not be able to compete effectively, and competitive pressures may result in less demand for our products and impair our ability to become profitable. If we fail to maintain, or in some instances obtain, an adequate level of reimbursement for our products by third-party payors, there may be no commercially viable markets for our products -16- The availability and levels of reimbursement by governmental and other third party payors affects the market for any medical device. We may not be able to sell our products profitably if reimbursement is unavailable or limited in scope or amount. Some insurance companies do not reimburse for embolization procedures. These third-party payors continually attempt to contain or reduce the costs of healthcare by challenging the prices that companies such as ours charge for medical products. In some foreign countries, particularly the countries of the European Union where our Embosphere Microspheres product is currently marketed and sold, the pricing of medical devices is subject to governmental control and the prices charged for our products have in some instances been reduced as a result of these controls. Additionally, in both the United States and some foreign jurisdictions, there have been a number of legislative and regulatory proposals to change the healthcare system. Further proposals are likely. These proposals, if adopted, could result in less sales revenue to us, and could affect our ability to raise capital and market our products. If we do not retain our senior management, other key employees, scientific collaborators and advisors, we may not be able to successfully implement our business strategy The loss of key members of our management team could harm us. We also depend on our scientific collaborators and advisors, all of whom have other commitments that may limit their availability to us. Our success is substantially dependent on the ability, experience and performance of these members of our senior management and other key employees, scientific collaborators and advisors. Because of their ability and experience, if we lose one or more of these individuals, we may not be able to implement successfully our business strategy. If we do not attract and retain skilled personnel, we will not be able to expand our business Our future success will depend in large part upon our ability to attract and retain highly skilled scientific, operational, managerial and marketing personnel, particularly as we expand our activities in clinical trials, the regulatory approval process and sales and manufacturing. We face significant competition for these types of persons from other companies, research and academic institutions, government entities and other organizations. Consequently, if we are unable to attract and retain skilled personnel, we will not be able to expand our business. If we make any acquisitions, we will incur a variety of costs and may never successfully integrate the acquired business into ours We may attempt to acquire businesses, technologies, services or products that we believe are a strategic complement to our business model. We may encounter operating difficulties and expenditures relating to integrating an acquired business, technology, service or product. These acquisitions may also absorb significant management attention that would otherwise be available for ongoing development of our business. Moreover, we may never realize the anticipated benefits of any acquisition. We may also make dilutive issuances of equity securities, incur debt or experience a decrease in the cash available for our operations, or incur contingent liabilities in connection with any future acquisitions. Because Sepracor Inc. and our executive officers and directors own a significant amount of our common stock, they may be able to exert control over us Sepracor Inc. beneficially owns approximately 25% of our outstanding common stock. In addition, our executive officers and directors beneficially owned, in the aggregate, approximately 12% of our outstanding common stock, excluding shares owned by Sepracor which some of our directors and executive officers may be deemed to beneficially own but including shares issuable upon exercise of vested options and warrants. Two of our directors are executive officers of Sepracor. Sepracor and our executive officers and directors will have substantial control over all corporate actions requiring stockholder approval irrespective of how our other stockholders may vote, including: - the election of directors; - the amendment of charter documents; - the approval of mergers and other significant corporate transactions, including a sale of substantially all of our assets; and - the defeat of any non-negotiated takeover attempt that might otherwise benefit the public stockholders. -17- This ownership concentration could cause the market price of our common stock to decline. In addition, conflicts of interest between Sepracor and us may arise, including with respect to competitive business activities and control of our management and our affairs. RISKS RELATING TO REGULATORY MATTERS If we do not obtain the regulatory approvals required to market and sell our products, then our business will be unsuccessful and the market price of our stock will substantially decline We are subject to regulation by government agencies in the United States and abroad with respect to the manufacture, packaging, labeling, advertising, promotion, distribution and sale of our products. For example, our products are subject to approval or clearance by the FDA prior to marketing in the United States for commercial use. Similar regulations exist in most major foreign markets, including the European Union and Asia The process of obtaining necessary regulatory approvals and clearances will be time-consuming and expensive for us. If we do not receive required regulatory approval or clearance to market our products, we will not be able to develop and commercialize our products and become profitable, and the value of our common stock will substantially decline. We are focusing our immediate product commercialization efforts on our Embosphere Microspheres. In April 2000, we obtained clearance from the FDA to market our Embosphere Microspheres in the United States for the embolization of hypervascularized tumors and arteriovenous malformations. However, before we can market Embosphere Microspheres in the United States for use in the embolization of uterine fibroids, we will require either FDA clearance of a premarket notification under Section 510(k) of the Federal Food, Drug, and Cosmetic Act, which we refer to as a 510(k) notification, or the more time consuming and expensive approval of a premarket approval application under Section 515 of the Federal Food, Drug, and Cosmetic Act, which we refer to as a premarket approval. We do not expect to receive the required clearance or approval for specific labeling for uterine fibroids until 2002, if at all. In order to obtain FDA clearance or approval to market our product for this indication, we are conducting clinical trials, which may be lengthy and expensive. If the FDA or other regulatory agencies place restrictions on, or impose additional approval requirements with respect to, products we are then marketing, we may incur substantial additional costs and experience delays or difficulties in continuing to market and sell these products Even if the FDA grants to us approval or clearance with respect to any of our products, it may place substantial restrictions on the indications for which we may market the product, which could result in fewer sales and lower revenues. The marketing claims we are permitted to make in labeling or advertising regarding our Embosphere Microspheres are limited to those specified in any FDA clearance or approval. For example, because our products are not specifically approved for labeling for use for uterine fibroids, we may not promote them for this use. However, we believe that a majority of our revenue in the United States for the year ended December 31, 2000 and the three and Nine months ended September 30, 2001 was derived from the sale of Embosphere Microspheres for use in uterine fibroid embolization. We may in the future make modifications to our Embosphere Microspheres or their labeling which we determine do not necessitate the filing of a new 510(k) notification. However, if the FDA does not agree with our determination, it will require us to make additional 510(k) filings for the modification, and we may be prohibited from marketing the modified product until we obtain FDA clearance, which could delay our ability to introduce product modifications or claims into the market. Similarly, if we obtain premarket approval, we may not be able to make product or labeling changes until we get FDA approval. Further, the FDA has classified our embolotherapy device into Class III, which means that even though we have obtained clearance under Section 510(k) of the Federal Food, Drug, and Cosmetic Act to market the device for certain indications, the FDA could in the future promulgate a regulation requiring premarket approval of the device under Section 515 of the Federal Food, Drug, and Cosmetic Act to allow it to remain on the market. We may experience difficulty in providing to the FDA sufficient data for premarket approval in a timely fashion, if at all. In addition, the FDA may require us to conduct a postmarket surveillance study on our embolotherapy device, which is designed to track specific elements of patient experience with our Embosphere Microspheres product after we have begun marketing it. If such a study revealed previously unknown adverse events or an unexpectedly high rate of adverse events, the FDA could place further restrictions on our marketing of the device, or rescind our clearance or approval. -18- Our products will be subject to continuing FDA requirements relating to quality control, quality assurance, maintenance of records, documentation, manufacturing, labeling and promotion of medical devices. We are also required to submit medical device reports to the FDA to report device-related deaths or serious injuries, as well as malfunctions, the recurrence of which would be likely to cause or contribute to a death or serious injury. These reports are publicly available. If our clinical trials are not completed successfully, we will not be able to develop and commercialize our products Although for planning purposes we forecast the timing of completion of clinical trials, the actual timing can vary dramatically due to factors such as delays, scheduling conflicts with participating clinicians and clinical institutions, the rate of patient accruals and the uncertainties inherent in the clinical trial process. In addition, we may rely on academic institutions or clinical research organizations to supervise or monitor some or all aspects of clinical trials involving our products. Accordingly, we may have less control over the timing and other aspects of these clinical trials than if we conducted them entirely on our own. In addition, we will need FDA approval to initiate some clinical trials, and the trials must be conducted in compliance with FDA regulations. As a result of these factors, we or third parties may not successfully begin or complete our clinical trials and we may not make regulatory submissions or receive required regulatory approvals to commence or continue our clinical trials in the time periods we have forecasted, if at all. If we or third parties fail to commence or complete, or experience delays in, any of our planned clinical trials, then we are likely to incur additional costs and delays in our product development programs, and we may not be able to successfully develop and commercialize our products. If we incur costs and delays in our programs or if we do not successfully develop and commercialize our products, our stock price could decline. If we fail to comply with regulatory laws and regulations, we will be subject to enforcement actions, which will affect our ability to market and sell our products and may harm our reputation If we fail to comply with applicable federal, state or foreign laws or regulations, we could be subject to enforcement actions, which could affect our ability to develop, market and sell our products successfully and could harm our reputation and lead to less acceptance of our products by the market. These enforcement actions include: - product seizures; - voluntary or mandatory recalls; - voluntary or mandatory patient or physician notification; - withdrawal of product clearances or approvals; - withdrawal of investigational device exemption approval; - restrictions on, or prohibitions against, marketing our products; - fines; - restrictions on importation of our products; - injunctions; - civil and criminal penalties; and - withdrawal of premarket approval or rescission of premarket notification clearance. RISKS RELATING TO INTELLECTUAL PROPERTY If we are unable to obtain patent protection for our products, their competitive value could decline We may not obtain meaningful protection for our technology and products with the patents and patent applications that we own or license relating to our microsphere technology. In particular, the patent rights we possess or are pursuing generally cover our technologies to varying degrees, and these rights may not prevent others from designing products similar to or otherwise -19- competitive with our Embosphere Microspheres and other products commercialized by us. For example, our U.S. patent directed to copolymers used to make our present Embosphere Microspheres expired in June 2001. Two other U.S. patents and their foreign equivalents are also directed to materials and methods for performing embolization. To the extent that our competitors are able to design products competitive with ours without infringing our intellectual property rights, we may experience less market penetration with our products and, consequently, we may have decreased revenues. We do not know whether competitors have similar United States patent applications on file, since United States patent applications filed before November 28, 2000 or for which no foreign patents will be sought are secret until issued, and applications filed after November 28, 2000 are published approximately 18 months after their earliest priority date. Consequently, the United States Patent and Trademark Office could initiate interference proceedings involving our owned or licensed United States patent applications or issued patents. Further, there is a substantial backlog of patent applications at the United States Patent and Trademark Office, and the approval or rejection of patent applications may take several years. We require our employees, consultants and advisors to execute confidentiality agreements. However, we cannot guarantee that these agreements will provide us with adequate protection against improper use or disclosure of confidential information. In addition, in some situations, these agreements may conflict with, or be subject to, the rights of third parties with whom our employees, consultants or advisors have prior employment or consulting relationships. Further, others may independently develop substantially equivalent proprietary information and techniques, or otherwise gain access to our trade secrets. Our failure to protect our proprietary information and techniques may inhibit or limit our ability to exclude certain competitors from the market. If we become involved in expensive patent litigation or other proceedings to enforce our patent rights, we could incur substantial costs and expenses or substantial liability for damages or be required to stop our product development and commercialization efforts In order to protect or enforce our patent rights, we may have to initiate legal proceedings against third parties, such as infringement suits or interference proceedings. By initiating legal proceedings to enforce our intellectual property rights, we may also provoke these third parties to assert claims against us and, as a result, our patents could be narrowed, invalidated or rendered unenforceable by a court. Furthermore, we may be sued for infringing on the intellectual property rights of others. We may find it necessary, if threatened, to initiate a lawsuit seeking a declaration from a court regarding the proprietary rights of others. Intellectual property litigation is costly, and, even if we prevail, could divert management attention and resources away from our business. The patent position of companies like ours generally is highly uncertain, involves complex legal and factual questions, and has recently been the subject of much litigation. We may not prevail in any patent-related proceeding. If we do not prevail in any litigation, we could be required to pay damages, stop the infringing activity, or obtain a license. Any required license may not be available to us on acceptable terms, or at all. In addition, some licenses may be nonexclusive, and therefore, our competitors may have access to the same technology licensed to us. If we fail to obtain a required license or are unable to design around a patent, we may be prevented from selling some of our products, which could decrease our revenue. If any of our licenses to use third-party technologies in our products are terminated, we may be unable to develop, market or sell our products We are dependent on various license agreements relating to each of our current and proposed products that give us rights under intellectual property rights of third parties. These licenses impose commercialization, sublicensing, royalty, insurance and other obligations on us. Our failure, or any third party's failure, to comply with the terms of any of these licenses could result in us losing our rights to the license, which could result in us being unable to develop, manufacture or sell products which contain the licensed technology. RISKS RELATING TO OUR FINANCIAL RESULTS AND NEED FOR FINANCING We will continue to need additional funds, and if additional capital is not available, we may have to limit, scale back or cease our operations We may need to raise additional funds to develop and commercialize our products successfully. If we cannot raise more funds, we could be required to reduce our capital expenditures, scale back our product development, reduce our workforce and license to others products or technologies that we otherwise would seek to commercialize ourselves. Although we are presently negotiating a credit -20- line with a bank, we currently have no committed source of capital.. We may seek additional funding through collaborative arrangements, borrowing money or the sale of additional equity securities. We may not receive additional funding on reasonable terms or at all. Any sales of additional shares of our capital stock are likely to dilute our existing stockholders. Further, if we issue additional equity securities, the new equity securities may have rights, preferences or privileges senior to those of existing holders of our common stock. Alternatively, we may borrow money from commercial lenders, possibly at high interest rates, which will increase the risk of your investment in us. If operating results fluctuate significantly from quarter to quarter, then our stock price may decline Our operating results could fluctuate significantly from quarter to quarter. These fluctuations may be due to several factors including the timing and volume of customer orders for our Embosphere Microspheres, customer cancellations and general economic conditions. We also expect that our operating results will be affected by seasonality, since we expect our revenues to decline substantially in the third quarter of each year from the first two quarters of each year because we do a significant percentage of our business in the European Union, which typically experiences a slowdown of business during August. Due to these fluctuations, our operating results in some quarters may not meet the expectations of stock market analysts and investors. In that case, our stock price would probably decline. In addition, a large portion of our expenses, including expenses for facilities, equipment and personnel, are relatively fixed. Accordingly, if our revenue declines or does not grow as much as we anticipate, we might not be able to improve our operating margins. In addition, we plan to significantly increase operating expenses in the next several years. Failure to achieve anticipated levels of revenue could therefore significantly harm our operating results for a particular fiscal period. RISKS RELATING TO THE PRODUCTION AND SUPPLY OF OUR PRODUCTS If we experience manufacturing delays or interruptions in production, then we may experience customer dissatisfaction and our reputation could suffer If we fail to produce enough products at our own manufacturing facility or at a third-party manufacturing facility, we may be unable to deliver products to our customers on a timely basis, which could lead to customer dissatisfaction and could harm our reputation and ability to compete. We currently produce all of our Embosphere Microspheres products in one manufacturing facility in France. We would likely experience significant delays or cessation in producing our products at this facility if a labor strike, natural disaster, local or regional conflict or other supply disruption were to occur. If we are unable to manufacture our products at our facility in France, we may be required to enter into arrangements with one or more contract manufacturing companies. We have contingency plans to establish manufacturing in the United States in place but we could encounter delays or difficulties establishing relationships with contract manufacturers or in establishing agreements on terms that are favorable to us. In addition, if we are required to depend on third-party manufacturers, our profit margins may be lower, which will make it more difficult for us to achieve profitability. Also, manufacturers, including us, must adhere to the FDA's current Good Manufacturing Practices regulations, which are enforced by the FDA through its facilities inspection program. The manufacturers may not be able to comply or maintain compliance with Good Manufacturing Practices regulations. If our manufacturers fail to comply, their non-compliance could significantly delay our receipt of premarket approval or result in FDA enforcement action, including an embargo on imported devices. For a premarket approval device, if we change our manufacturing facility or switch to a third-party manufacturer we will be required to submit a premarket approval application supplement before the change is implemented. Because we rely on a limited number of suppliers, we may experience difficulty in meeting our customers' demands for our products in a timely manner or within budget We currently purchase key components of our Embosphere Microspheres from a variety of outside sources. Some of these components may only be available to us through a few sources. We generally do not have long-term agreements with any of our suppliers. -21- Our reliance on our suppliers exposes us to risks, including: - the possibility that one or more of our suppliers could terminate their services at any time without penalty; - the potential inability of our suppliers to obtain required components; - the potential delays and expenses of seeking alternative sources of supply; - reduced control over pricing, quality and timely delivery due to the difficulties in switching to alternative suppliers; and - the possibility that one or more of our suppliers could fail to satisfy any of the FDA's required current Good Manufacturing Practices regulations. Consequently, in the event that our suppliers delay or interrupt the supply of components for any reason, our ability to produce and supply our products could be impaired, which could lead to customer dissatisfaction. RISKS RELATING TO OUR FOREIGN OPERATIONS If we are unable to meet the operational, legal and financial challenges that we will encounter in our international operations, we may not be able to grow our business Our operations are currently conducted primarily through our French subsidiary. Furthermore, we currently derive a majority of our revenue from the sale of our Embosphere Microspheres and other products in the European Union. We are increasingly subject to a number of challenges which specifically relate to our international business activities. Our international operations may not be successful if we are unable to meet and overcome these challenges, which would limit the growth of our business. These challenges include: - failure of local laws to provide the same degree of protection against infringement of our intellectual property; - protectionist laws and business practices that favor local competitors, which could slow our growth in international markets; - potentially longer sales cycles to sell products, which could slow our revenue growth from international sales; and - potentially longer accounts receivable payment cycles and difficulties in collecting accounts receivable. Because we exchange foreign currency received from international sales into U.S. dollars and are required to make foreign currency payments, we may incur losses due to fluctuations in foreign currency translations A significant portion of our business is conducted in French francs and the euro. We recognize foreign currency gains or losses arising from our operations in the period incurred. As a result, currency fluctuations between the U.S. dollar and the currencies in which we do business will cause foreign currency translation gains and losses, which may cause fluctuations in our future operating results. We do not currently engage in foreign exchange hedging transactions to manage our foreign currency exposure. RISK RELATING TO OUR STOCK PRICE Because the market price of our stock is highly volatile, investments in our stock could rapidly lose their value and we may incur significant costs from class-action litigation The market price of our stock is highly volatile. As a result, investments in our stock could rapidly lose their value. In addition, the stock market often experiences extreme price and volume fluctuations, which affect the market price of many medical device companies and which are often unrelated to the operating performance of these companies. Recently, when the market price of a stock has been as volatile as our stock price has been, holders of that stock have occasionally instituted securities class action litigation against the company that issued the stock. If any of our stockholders were to bring a lawsuit of this type against us, even if the lawsuit is without merit, we could incur substantial costs in defending the lawsuit. The lawsuit could also divert the time and attention of our management. -22- Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK The primary objective of our investment activities is to preserve principal while at the same time maximizing the income we receive from our investments without significantly increasing risk. Some of the securities that we invest in may have market risk. This means that a change in prevailing interest rates may cause the value of the principal amount of the investment to fluctuate. For example, if we hold a security that was issued with a fixed interest rate at the then-prevailing rate and the prevailing interest rate later rises, the value of the principal amount of our investment will probably decline. Due to the short-term nature of these investments, we believe we have no material exposure to interest rate risk arising from our investments. Accordingly, no quantitative tabular disclosure has been provided. Our primary market risk exposures are in the area of foreign currency exchange rate risk. We are exposed to currency exchange rate fluctuations related to our operations in France. Operations in France are denominated in the euro. We have not engaged in formal currency hedging activities to date, but do have a limited natural hedge in that our expenses in France are primarily denominated in local currency, and we also attempt to minimize exchange rate risk by converting non-U.S. currency to U.S. dollars as often as practicable. We generally view our investment in foreign subsidiaries with a functional currency other than our reporting currency as long-term. Our investment in foreign subsidiaries is sensitive to fluctuations in foreign currency exchange rates. The effect of a change in foreign exchange rates on our net investment in foreign subsidiaries is reflected in the "Other accumulated comprehensive loss" component of shareholders' equity. A ten-percent depreciation in year-end 2000 and 1999 functional currencies relative to the U.S. dollar, would not result in a material reduction of shareholders' equity. Because our foreign currency exchange rate risk is not material, no quantitative tabular disclosure has been provided. PART II. OTHER INFORMATION Item 6. EXHIBITS AND REPORTS ON FORM 8-K. a) EXHIBITS None b) Reports on Form 8-K ITEM 5. Other Events. On August 7, 2001, the Company filed a report on Form 8-K to update, pursuant to item 5, the description of the Company's capital stock. -23- SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. BioSphere Medical, Inc. Date: November 14, 2001 /s/ Robert M. Palladino ----------------------------- Robert M. Palladino Chief Financial Officer (principal financial and accounting officer) -24- -----END PRIVACY-ENHANCED MESSAGE-----