The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Note 1. Basis of Presentation
The accompanying unaudited interim condensed consolidated financial statements for HeartWare International, Inc.
(we, our, us, HeartWare, the HeartWare Group or the Company) have been prepared pursuant to the rules and regulations of the Securities and Exchange Commission (SEC)
for reporting of interim financial information. Pursuant to these rules and regulations, certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in
the United States (U.S. GAAP) have been condensed or omitted. Accordingly, these statements do not include all the disclosures normally required by U.S. GAAP for annual financial statements and should be read in conjunction with
Managements Discussion and Analysis of Financial Condition and Results of Operations contained in this report and the audited financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended
December 31, 2015. The accompanying condensed consolidated balance sheet as of December 31, 2015 has been derived from our audited financial statements. The unaudited condensed consolidated statements of operations and cash flows for the
three months ended March 31, 2016 are not necessarily indicative of the results to be expected for any future period or for the year ending December 31, 2016.
The preparation of our unaudited interim condensed consolidated financial statements in conformity with U.S. GAAP requires management to make
estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting
periods. Actual results could differ from those estimates.
In the opinion of management, the accompanying unaudited interim condensed
consolidated financial statements contain all adjustments (consisting of only normally recurring adjustments) necessary to present fairly the financial position and results of operations as of the dates and for the periods presented.
New Accounting Standards
Standards Pending Implementation
In March 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU)
2016-09,
Improvements to Employee Share-Based Payment Accounting
(ASU 2016-09). ASU 2016-09 simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences,
classification of awards as either equity or liabilities and classification on the statement of cash flows. This ASU is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016. Early adoption is
permitted. The Company is currently assessing the potential impact of adopting ASU 2016-09 on its financial statements and related disclosures.
In February 2016, the FASB issued ASU 2016-02,
Leases
(ASU 2016-02). ASU 2016-02 supersedes the lease guidance
under FASB Accounting Standards Codification (ASC) Topic 840,
Leases
, resulting in the creation of FASB ASC Topic 842,
Leases
. ASU 2016-02 requires a lessee to recognize in the statement of financial position a
liability to make lease payments and a right-of-use asset representing its right to use the underlying asset for the lease term for both finance and operating leases. This ASU is effective for fiscal years, and interim periods within those years,
beginning after December 15, 2018. Early adoption is permitted. The Company is currently assessing the potential impact of adopting ASU 2016-02 on its financial statements and related disclosures.
In May 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU)
No. 2014-09,
Revenue from Contracts with Customers (Topic 606)
(ASU 2014-09). The updated standard is a new comprehensive revenue recognition model that requires revenue to be recognized in a manner that depicts the transfer
of goods or services to a customer at an amount that reflects the consideration expected to be received in exchange for those goods or services. In July 2015, the FASB voted to approve the deferral of the effective date of ASU 2014-09 by one year.
Therefore, ASU 2014-09 will become effective for us in the first quarter of our fiscal year ending December 31, 2018. Early adoption is permitted, but not earlier than the first quarter of our fiscal year ending December 31, 2017. The ASU
allows for either full retrospective or modified retrospective adoption. We have not yet selected a transition method, and we are currently evaluating the effect that ASU 2014-09 will have on our consolidated financial statements and related
disclosures.
10
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Implemented Standards
In April 2015, the FASB issued ASU 2015-03,
Interest Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt
Issuance Costs.
In June 2015, the FASB amended ASU 2015-03 with ASU 2015-15. The updated standard requires debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying
amount of that debt liability, consistent with debt discounts. This guidance is effective for periods beginning after December 15, 2015, and interim periods within those annual periods applied retrospectively. The Company adopted this guidance
in the first quarter of 2016. Debt issuance costs associated with debt were $3.8 and $4.0 million as of March 31, 2016 and December 31, 2015, respectively.
In February 2015, the FASB issued ASU No. 2015-02,
Consolidation (Topic 810): Amendments to the Consolidation Analysis
, which is
intended to improve targeted areas of consolidation guidance for legal entities such as limited partnerships, limited liability corporations and securitization structures (collateralized debt obligations, collateralized loan obligations and
mortgage-backed security transactions). This ASU focuses on the consolidation evaluation for reporting organizations (public and private companies and not-for-profit organizations) that are required to evaluate whether they should consolidate
certain legal entities. In addition to reducing the number of consolidation models from four to two, the new standard simplifies the FASB Accounting Standards Codification by: i) placing more emphasis on risk of loss when determining a controlling
financial interest; ii) reducing the frequency of the application of related-party guidance when determining a controlling financial interest in a variable interest entity (VIE); and iii) changing consolidation conclusions for public and
private companies in several industries that typically make use of limited partnerships or VIEs. ASU No. 2015-02 will be effective for us in periods beginning after December 15, 2015. Early adoption is permitted, including adoption in an
interim period. The Company adopted this guidance in the first quarter of 2016 and it did not have an effect on our consolidated financial position, results of operations or cash flows.
In January 2015, the FASB issued ASU No. 2015-01,
Income StatementExtraordinary and Unusual Items (Subtopic 225-20): Simplifying
Income Statement Presentation by Eliminating the Concept of Extraordinary Items
. The FASB issued this ASU as part of its initiative to reduce complexity in accounting standards. This ASU eliminates from U.S. GAAP the concept of extraordinary
items. Subtopic 225-20 required that an entity separately classify, present, and disclose extraordinary events and transactions. Presently, an event or transaction is presumed to be an ordinary and usual activity of the reporting entity unless
evidence clearly supports its classification as an extraordinary item. If an event or transaction meets the criteria for extraordinary classification, an entity is required to segregate the extraordinary item from the results of ordinary operations
and show the item separately in the income statement, net of tax, after income from continuing operations. The entity also is required to disclose applicable income taxes and either present or disclose earnings-per-share data applicable to the
extraordinary item. The amendments in this ASU are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015. A reporting entity may apply the amendments prospectively. A reporting entity also
may apply the amendments retrospectively to all prior periods presented in the financial statements. The Company adopted this guidance in the first quarter of 2016 and it did not have an effect on our consolidated financial position, results of
operations or cash flows.
Reclassification of Prior Year Presentation
Certain prior year amounts have been reclassified for consistency with the current period presentation. These reclassifications had no effect
on the reported results of operations. In the period ended March 31, 2016, management reassessed certain inventory policies based on recent trends, including sales, usage and forecasted usage of specific inventory items. As a result, we now
expect that certain inventory could be held beyond one year. As of March 31, 2016, approximately $7.4 million of inventory was classified as non-current inventory and included within other assets on the accompanying consolidated balance sheet.
To reflect the result of this change, for consistency we reclassified approximately $7.7 million of inventory as of December 31, 2015 from current assets to non-current and included within other assets on the consolidated balance sheet.
Corresponding reclassifications have also been made to the Consolidated Condensed Statement of Cash Flows for the periods ended March 31, 2015 and 2016, to reflect the gross purchases and sales of these assets as a component of other
non-current assets. This change in classification does not affect previously reported cash flows from operations or from financing activities in the Consolidated Condensed Statement of Cash Flows, and had no effect on the previously reported
Consolidated Condensed Statement of Operations for any period.
11
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Note 2. Liquidity
We have funded our operations primarily through product revenue, the issuance of shares of our common stock and the issuance
of convertible notes. At March 31, 2016, we had approximately $189.2 million of cash, cash equivalents and available-for-sale investments. Our cash, cash equivalents and available-for-sale investments are expected to be used primarily to fund
our ongoing operations including expanding our sales and marketing capabilities on a global basis; research and development (including clinical trials) of new and existing products, components and accessories; regulatory and other compliance
functions; acquisition of, and investment in, third-party technologies; as well as for general working capital. We believe our cash, cash equivalents and available-for-sale investment balances are sufficient to support our planned operations for at
least the next twelve months.
The accompanying unaudited interim condensed consolidated financial statements have been prepared in
conformity with accounting principles generally accepted in the United States, which contemplate continuation of the Company as a going concern. We have incurred substantial losses from operations since our inception, and losses have continued
through March 31, 2016. At March 31, 2016, we had an accumulated deficit of approximately $439.0 million.
Note 3. Balance Sheet Information
Accounts Receivable
Accounts receivable consists of amounts due from the sale of our HeartWare Ventricular Assist System (the HVAD System) to our
customers, which include hospitals, health research institutions and medical device distributors. We grant credit to customers in the normal course of business, but generally do not require collateral or any other security to support credit sales.
Our receivables are geographically dispersed, with a significant portion from customers located in Europe and other foreign countries. We had one customer with an accounts receivable balance representing approximately 25% and 17% of our total
accounts receivable at March 31, 2016 and December 31, 2015, respectively. A portion of this account receivable was classified as long-term as of March 31, 2016 and December 31, 2015 in accordance with our payment terms with this
customer.
We maintain allowances for doubtful accounts for estimated losses that may result from an inability to collect payments owed to
us for product sales. We regularly review the allowance by considering factors such as historical experience, the age of the accounts receivable balances and local economic conditions that may affect a customers ability to pay. Account
balances are charged off against the allowance after appropriate collection efforts have been exhausted and we feel it is probable that the receivable will not be recovered.
The following table summarizes the change in our allowance for doubtful accounts for the three months ended March 31, 2016 and 2015:
|
|
|
|
|
|
|
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Beginning balance
|
|
$
|
676
|
|
|
$
|
671
|
|
Reversal of expense
|
|
|
(154
|
)
|
|
|
(26
|
)
|
Charge-offs
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Ending balance
|
|
$
|
522
|
|
|
$
|
645
|
|
|
|
|
|
|
|
|
|
|
As of March 31, 2016 and December 31, 2015, we recorded customer sales allowances of $92,000 and
$81,000, respectively.
12
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Inventories, net
Components of inventories are as follows:
|
|
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Raw material
|
|
$
|
15,090
|
|
|
$
|
17,940
|
|
Work-in-process
|
|
|
9,243
|
|
|
|
8,858
|
|
Finished goods
|
|
|
19,074
|
|
|
|
13,149
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
43,407
|
|
|
$
|
39,947
|
|
|
|
|
|
|
|
|
|
|
Finished goods inventories includes inventory held on consignment at customer sites of approximately $9.1
million at March 31, 2016 and $6.2 million at December 31, 2015. The increase in consignment inventory as of March 31, 2016 is due to pre-shipment of batteries to execute a field action announced in September 2015 (
see Accrued
Field Action Costs for more information).
We review our inventory for excess or obsolete items and write-down obsolete or otherwise unmarketable inventory to its net realizable value.
Property, Plant and Equipment, Net
Property, plant and equipment, net consists of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Estimated
|
|
|
March 31,
|
|
|
December 31,
|
|
|
|
Useful Lives
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Machinery and equipment
|
|
|
1.5 to 7 years
|
|
|
$
|
22,557
|
|
|
$
|
21,785
|
|
Leasehold improvements
|
|
|
3 to 10 years
|
|
|
|
8,901
|
|
|
|
8,891
|
|
Office equipment, furniture and fixtures
|
|
|
5 to 7 years
|
|
|
|
2,105
|
|
|
|
2,105
|
|
Purchased software
|
|
|
1 to 7 years
|
|
|
|
7,796
|
|
|
|
7,575
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
41,359
|
|
|
|
40,356
|
|
Less: accumulated depreciation
|
|
|
|
|
|
|
(26,757
|
)
|
|
|
(25,258
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
14,602
|
|
|
$
|
15,098
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-Term Investment and Other Assets
Long-term investments consist of the following:
|
|
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Investment in Valtech Cardio, Ltd.
|
|
$
|
48,960
|
|
|
$
|
17,620
|
|
Long-term inventory
|
|
|
7,367
|
|
|
|
7,739
|
|
Long-term receivables
|
|
|
3,953
|
|
|
|
2,539
|
|
Security deposits
|
|
|
2,408
|
|
|
|
2,586
|
|
Other assets
|
|
|
980
|
|
|
|
980
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
63,668
|
|
|
$
|
31,464
|
|
|
|
|
|
|
|
|
|
|
Valtech Cardio, Ltd.
As of March 31, 2016, we have invested approximately $48.0 million in Valtech Cardio, Ltd (Valtech), an early-stage, privately
held company headquartered in Or Yehuda, Israel specializing in the development of devices for mitral and tricuspid valve repair and replacement. Our investment is carried in long-term investments and other assets and consists of the following:
13
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
|
|
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Preferred Stock
|
|
$
|
10,495
|
|
|
$
|
10,495
|
|
Convertible Promissory Notes Receivable, due July 10, 2017
|
|
|
8,222
|
|
|
|
7,125
|
|
Convertible Promissory Notes Receivable, due February 1, 2019
|
|
|
30,243
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
48,960
|
|
|
$
|
17,620
|
|
|
|
|
|
|
|
|
|
|
In October 2013, we invested $10 million in Valtech in the form of a convertible promissory note with an
interest rate of 6% per annum (the 2013 Note), which, along with net accrued interest, has since been converted to Valtech equity pursuant to the terms of the 2013 Note.
In July 2015, we invested an additional $5 million in Valtech in the form of a convertible promissory note with an interest rate of
6% per annum.
On September 1, 2015, we entered into a Business Combination Agreement (the BCA) by and among the
Company, Valtech, HW Global, Inc. (Holdco), HW Merger Sub, Inc., Valor Merger Sub Ltd. and Valor Shareholder Representative, LLC, pursuant to which we and Valtech proposed to effect a strategic combination of our respective businesses
under Holdco, subject to certain closing conditions. Effective January 28, 2016, we terminated the BCA pursuant to the terms of the BCA by delivering written notice to the other parties. After entering into the BCA and pursuant to the terms of
the BCA, we loaned Valtech an aggregate principal amount of $3 million in interim funding at an interest rate of 6% per annum in $1 million increments in each of November 2015, December 2015 and January 2016. In connection with the
termination provisions of the BCA, we loaned Valtech an additional $30 million on February 1, 2016 also in the form of a convertible promissory note with an interest rate of 6% per annum. We have no current contractual obligations to
further fund Valtech.
Upon maturity, each of the convertible promissory notes become due and payable in cash or Valtech preferred stock,
at the option of Valtech, pursuant to terms of the convertible promissory notes. If the convertible promissory notes become due and payable upon an event of default (as defined in the notes), we determine whether the notes are paid in cash or
Valtech preferred stock.
Our investment in Valtech was deemed to be realizable as of March 31, 2016. The fair value of this
investment has not been estimated as of March 31, 2016 and December 31, 2015 as no impairment indicators were identified.
Other Accrued Liabilities
Other accrued liabilities consist of the following:
|
|
|
|
|
|
|
|
|
|
|
March 31,
|
|
|
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Accrued payroll and other employee costs
|
|
$
|
7,589
|
|
|
$
|
14,068
|
|
Accrued field action
|
|
|
7,552
|
|
|
|
8,503
|
|
Accrued warranty
|
|
|
5,893
|
|
|
|
6,116
|
|
Accrued material purchases
|
|
|
2,486
|
|
|
|
4,107
|
|
Accrued professional fees
|
|
|
2,002
|
|
|
|
2,685
|
|
Accrued research and development costs
|
|
|
1,744
|
|
|
|
2,191
|
|
Accrued restructuring costs
|
|
|
1,796
|
|
|
|
1,955
|
|
Accrued VAT
|
|
|
1,144
|
|
|
|
1,238
|
|
Other accrued expenses
|
|
|
5,315
|
|
|
|
5,026
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
35,521
|
|
|
$
|
45,889
|
|
|
|
|
|
|
|
|
|
|
14
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Accrued payroll and other employee costs
Accrued payroll and other employee costs included estimated year-end employee bonuses of approximately $2.2 million and $8.0 million at
March 31, 2016 and December 31, 2015, respectively.
Accrued Warranty
Certain patient accessories sold with the HVAD System are covered by a limited warranty ranging from one to two years. Estimated warranty
obligations are recorded as an expense when the related revenue is recognized and are included in cost of revenue on our condensed consolidated statements of operations. Factors that affect the estimated warranty liability include the number of
units sold, historical and anticipated rates of warranty claims, cost per claim, and vendor-supported warranty programs. We periodically assess the adequacy of our recorded warranty liabilities and adjust the amounts as necessary. The amount of the
liability recorded is equal to the estimated costs to repair or otherwise satisfy claims made by customers.
The following table
summarizes the change in our warranty liability for the three months ended March 31, 2016 and 2015:
|
|
|
|
|
|
|
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Beginning balance
|
|
$
|
6,116
|
|
|
$
|
4,685
|
|
Accrual for warranty expense
|
|
|
371
|
|
|
|
785
|
|
Warranty costs incurred during the period
|
|
|
(594
|
)
|
|
|
(655
|
)
|
|
|
|
|
|
|
|
|
|
Ending balance
|
|
$
|
5,893
|
|
|
$
|
4,815
|
|
|
|
|
|
|
|
|
|
|
Accrued Field Action Costs
The costs to repair or replace products associated with field actions and voluntary service campaigns are recorded when they are determined to
be probable and reasonably estimable as a cost of revenue. Costs associated with field actions are not included in our warranty liability. The following table summarizes the change in field action liability for the three months ended March 31,
2016 and 2015:
|
|
|
|
|
|
|
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Beginning balance
|
|
$
|
8,503
|
|
|
$
|
1,888
|
|
Accrual for field action costs
|
|
|
3,492
|
|
|
|
505
|
|
Field action costs incurred during the period
|
|
|
(4,443
|
)
|
|
|
(1,305
|
)
|
|
|
|
|
|
|
|
|
|
Ending balance
|
|
$
|
7,552
|
|
|
$
|
1,088
|
|
|
|
|
|
|
|
|
|
|
In February 2015, we expanded a 2013 voluntary field safety corrective action, by initiating a voluntary
medical device recall of certain older controllers distributed in the U.S. during the ADVANCE and ENDURANCE clinical trial periods. The action had been initiated in certain foreign markets around the end of 2014. The affected controllers exhibit a
higher susceptibility to electrostatic discharge than newer, commercial controllers. This recall was ongoing as of March 31, 2016.
In September 2015, we announced planned field actions to replace certain older AC adapters in use outside the United States and older
batteries with new, more reliably designed product improvements. We also announced plans to implement a controller software update intended to improve controller performance reliability. These actions began on January 7, 2016 following
requisite regulatory approvals. Recall costs incurred during the three months ended March 31, 2016 were associated with these actions.
The accrued field action liability as of March 31, 2016 includes an allowance of $2.3 million related to the anticipated replacement of
certain controllers based upon the potential for the power or driveline connectors to become loose. The Companys estimated liability for replacements is based upon assumptions which it considers reasonable in light of known circumstances.
During the quarter ended March 31, 2016, the Company recorded charges of $3.5 million related to the above mentioned field actions.
15
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Accrued Restructuring Costs
The following table summarizes changes in our accrued restructuring costs for the three months ended March 31, 2016:
|
|
|
|
|
|
|
Facility Leases
|
|
|
|
(in thousands)
|
|
Beginning balance
|
|
$
|
1,955
|
|
Restructuring charges
|
|
|
|
|
Payments
|
|
|
(179
|
)
|
Adjustments to estimated obligations
|
|
|
|
|
Change in fair value
|
|
|
20
|
|
|
|
|
|
|
Ending balance
|
|
$
|
1,796
|
|
|
|
|
|
|
The restructuring obligations reflected above resulted from the closure of CircuLites former
headquarters in Teaneck, New Jersey, which we ceased to occupy in 2014. The Teaneck operating lease runs September 2020. In connection with this action, we recorded a $1.7 million liability equal to the estimated fair value of the remaining lease
obligation as of the cease-use date. The fair value of the remaining liability is remeasured at the estimated fair value at each reporting period. In the three months ended March 31, 2015, this liability was increased by $0.5 million as a
result of a change in our estimated sublease start date (
see
Note 4 for significant inputs in determining estimate). These amounts are included in selling, general and administrative expenses on our condensed consolidated statements of
operations.
In the three months ended March 31, 2016 the change in fair value is associated with accretion of the liability due to
the effect of the passage of time on the fair value measurement.
Note 4. Fair Value Measurements
FASB ASC 820
Fair Value Measurements and Disclosures,
defines fair value as the price that would be received
to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. FASB ASC 820 requires disclosures about the fair value of all financial instruments, whether or not recognized, for
financial statement purposes. Disclosures about the fair value of financial instruments are based on pertinent information available to us as of the reporting dates. Accordingly, the estimates presented in the accompanying condensed consolidated
financial statements are not necessarily indicative of the amounts that could be realized on disposition of the financial instruments.
FASB ASC 820 specifies a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or
unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect market assumptions. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets
or liabilities (Level 1 measurement) and the lowest priority to unobservable inputs (Level 3 measurement).
The three levels of the fair
value hierarchy are as follows:
Level 1 Quoted prices for identical instruments in active markets.
Level 2 Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that
are not active; and model-derived valuations whose inputs are observable or whose significant value drivers are observable.
Level 3
Instruments with primarily unobservable value drivers.
We review the fair value hierarchy classification on a quarterly basis.
Changes in the ability to observe valuation inputs may result in a reclassification of levels of certain securities within the fair value hierarchy. There were no transfers between Level 1, Level 2 and Level 3 during the three months ended
March 31, 2016 or 2015.
The carrying amounts reported on our condensed consolidated balance sheets for cash and cash equivalents,
accounts receivable, accounts payable and other accrued liabilities approximate their fair value based on the short-term maturity of these instruments. Investments are considered available-for-sale as of March 31, 2016 and December 31,
2015 and are carried at fair value.
16
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
The following tables represent the fair value of our financial assets and financial
liabilities measured at fair value on a recurring basis and which level was used in the fair value hierarchy at the respective dates.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements at the Reporting Date Using
|
|
|
|
Carrying
|
|
|
Fair
|
|
|
|
|
|
|
|
|
|
|
|
|
Value
|
|
|
Value
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
|
(in thousands)
|
|
As of March 31, 2016
|
|
|
|
|
Assets
|
|
|
|
|
Short-term investments
|
|
$
|
74,952
|
|
|
$
|
74,952
|
|
|
$
|
|
|
|
$
|
74,952
|
|
|
$
|
|
|
Long-term investments
|
|
|
980
|
|
|
|
980
|
|
|
|
|
|
|
|
980
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Convertible senior notes
|
|
|
189,572
|
(1)
|
|
|
175,438
|
|
|
|
|
|
|
|
175,438
|
|
|
|
|
|
Contingent consideration
|
|
|
12,910
|
|
|
|
12,910
|
|
|
|
|
|
|
|
|
|
|
|
12,910
|
|
Royalties
|
|
|
934
|
|
|
|
934
|
|
|
|
|
|
|
|
|
|
|
|
934
|
|
Lease exit costs
|
|
|
1,796
|
|
|
|
1,796
|
|
|
|
|
|
|
|
|
|
|
|
1,796
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Measurements at the Reporting Date Using
|
|
|
|
Carrying
|
|
|
Fair
|
|
|
|
|
|
|
|
|
|
|
|
|
Value
|
|
|
Value
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
|
(in thousands)
|
|
As of December 31, 2015
|
|
|
|
|
Assets
|
|
|
|
|
Short-term investments
|
|
$
|
68,531
|
|
|
$
|
68,531
|
|
|
$
|
|
|
|
$
|
68,531
|
|
|
$
|
|
|
Long-term investments
|
|
|
980
|
|
|
|
980
|
|
|
|
|
|
|
|
980
|
|
|
|
|
|
Liabilities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Convertible senior notes
|
|
|
187,089
|
(1)
|
|
|
200,351
|
|
|
|
|
|
|
|
200,351
|
|
|
|
|
|
Contingent consideration
|
|
|
12,330
|
|
|
|
12,330
|
|
|
|
|
|
|
|
|
|
|
|
12,330
|
|
Royalties
|
|
|
918
|
|
|
|
918
|
|
|
|
|
|
|
|
|
|
|
|
918
|
|
Lease exit costs
|
|
|
1,955
|
|
|
|
1,955
|
|
|
|
|
|
|
|
|
|
|
|
1,955
|
|
(1)
|
The carrying amount of our convertible senior notes is net of unamortized discount and deferred financing costs.
See
Note 7 (Debt) for more information.
|
Our Level 2 financial assets and liabilities include available-for-sale investments and our convertible senior notes. The fair value of our
available-for-sale investments and our convertible senior notes was determined using quoted prices (including trade data) for the instruments in markets that are not active. The fair value of our convertible senior notes is presented for disclosure
purposes only.
Financial assets and liabilities are considered Level 3 when their fair values are determined using pricing models,
discounted cash flow methodologies or similar techniques, and at least one significant model assumption or input is unobservable. Our Level 3 financial liabilities include the following:
|
|
|
Contingent consideration
Determining the fair value of the contingent consideration related to our acquisition of CircuLite in December 2013 requires significant management judgment or estimation. The
estimated fair value is calculated using the income approach, with significant inputs that include various revenue assumptions, discount rates and applying a probability to each outcome. Material changes in any of these inputs could result in a
significantly higher or lower fair value measurement. The fair value of the contingent consideration is remeasured at the estimated fair value at each reporting period. Actual amounts paid may differ from the obligations recorded.
|
17
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
|
|
|
Royalties
Royalties represent future royalty payments to be made over the next 14 years pursuant to agreements related to intellectual property licensed or acquired by World Heart Corporation, which we
acquired in August 2012. Determination of fair value requires significant management judgment or estimation. The royalty payment obligations were valued using a discounted cash flow model, the future minimum royalty payment amounts and discount
rates commensurate with our market risk and the terms of the obligations.
|
|
|
|
Lease exit costs
In the first quarter of 2014, we ceased the use of CircuLites former headquarters in Teaneck, New Jersey, which was subject to an operating lease that runs through the end of 2020,
and we recorded a liability equal to the estimated fair value of the remaining lease payments as of the cease-use date. The fair value was estimated based upon the discounted present value of the remaining lease payments, considering future
estimated sublease income, estimated broker fees and required tenant improvements. This estimated fair value requires management judgment. The fair value of this liability is remeasured at estimated fair value at each reporting period. Actual
amounts paid may differ from the obligation recorded.
|
The following table summarizes the change in fair value, as
determined by Level 3 inputs, of the contingent consideration for the three months ended March 31, 2016:
|
|
|
|
|
|
|
Contingent
Consideration
|
|
|
|
(in thousands)
|
|
Beginning balance
|
|
$
|
12,330
|
|
Payments
|
|
|
|
|
Change in fair value
|
|
|
580
|
|
|
|
|
|
|
Ending balance
|
|
$
|
12,910
|
|
|
|
|
|
|
The change in the fair value of the contingent consideration in the three months ended March 31, 2016
resulting from accretion of the liability due to the effect of the passage of time on the fair value measurement. Adjustments associated with the change in fair value of contingent consideration are presented on a separate line item on our condensed
consolidated statements of operations. Potential valuation adjustments will be made in future accounting periods as additional information becomes available, including, among other items, progress toward developing the CircuLite System, as well as
revenue and milestone targets as compared to our current projections, with the impact of these adjustments being recorded in our condensed consolidated statements of operations.
The following table summarizes the change in fair value, as determined by Level 3 inputs, of the royalties for the three months ended
March 31, 2016:
|
|
|
|
|
|
|
Royalties
|
|
|
|
(in thousands)
|
|
Beginning balance
|
|
$
|
918
|
|
Payments
|
|
|
(0
|
)
|
Change in fair value
|
|
|
16
|
|
|
|
|
|
|
Ending balance
|
|
$
|
934
|
|
|
|
|
|
|
The expense associated with the change in fair value of the royalty payment obligations is included in
research and development expenses on our condensed consolidated statements of operations.
The following table summarizes the change in
fair value, as determined by Level 3 inputs, of the lease exit costs for the three months ended March 31, 2016:
|
|
|
|
|
|
|
Lease Exit
Costs
|
|
|
|
(in thousands)
|
|
Beginning balance
|
|
$
|
1,955
|
|
18
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
|
|
|
|
|
Adjustments
|
|
|
0
|
|
Payments
|
|
|
(179
|
)
|
Change in fair value
|
|
|
20
|
|
|
|
|
|
|
Ending balance
|
|
$
|
1,796
|
|
|
|
|
|
|
The expense associated with changes in the fair value of the lease exit costs is included in selling, general
and administrative expenses on our consolidated statements of operations. The change in the fair value of the lease exit costs in the three months ended March 31, 2016 resulting from accretion of the liability due to the effect of the passage
of time on the fair value measurement. Potential valuation adjustments will be made in future accounting periods as additional information becomes available, including our ability to sublease the facility in a timely manner and obtain a rate
equivalent to our estimated sublease rate, with the impact of these adjustments being recorded in our condensed consolidated statements of operations.
The following table presents quantitative information about the inputs and valuation methodologies used for our fair value measurements
classified in Level 3 of the fair value hierarchy as of March 31, 2016:
|
|
|
|
|
|
|
|
|
|
|
Valuation Methodology
|
|
Significant
Unobservable Input
|
|
Weighted Average
(range, if applicable)
|
|
Contingent consideration
|
|
Probability weighted income approach
|
|
Milestone dates
|
|
|
2020 to 2023
|
|
|
|
|
|
Discount rate
|
|
|
17.0% to 24.0%
|
|
|
|
|
|
Probability of occurrence
|
|
|
50%
|
|
Royalties
|
|
Discounted cash flow
|
|
Discount rate
|
|
|
4.8% to 7.8%
|
|
Lease exit costs
|
|
Discounted cash flow
|
|
Sublease start date
|
|
|
March 1, 2017
|
|
|
|
|
|
Sublease rate
|
|
$
|
22.00/square foot
|
|
|
|
|
|
Discount rate
|
|
|
3.5%
|
|
Assets That Are Measured at Fair Value on a Nonrecurring Basis
Non-marketable equity investments and non-financial assets such as intangible assets, goodwill and property, plant, and equipment, are
evaluated for impairment annually or when indicators of impairment exist and are measured at fair value only if an impairment charge is recorded. In the three months ended March 31, 2016 and 2015, we recorded impairment charges of zero and $1.1
million related to certain property, plant, and equipment.
See
Note 3 for more information. Non-financial assets such as identified intangible assets acquired in connection with our acquisitions are measured at fair value using Level 3
inputs, which include discounted cash flow methodologies, or similar techniques, when there is limited market activity and the determination of fair value requires significant judgment or estimation.
19
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Note 5. Investments
We have cash investment policies that limit investments to investment-grade-rated securities. At March 31, 2016 and
December 31, 2015, all of our investments were classified as available-for-sale and carried at fair value. At March 31, 2016 and December 31, 2015, our short-term and long-term investments had maturity dates of less than twenty-four
months.
The amortized cost and fair value of our investments, with gross unrealized gains and losses, were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross
|
|
|
Gross
|
|
|
|
|
|
|
Amortized
|
|
|
Unrealized
|
|
|
Unrealized
|
|
|
Aggregate
|
|
|
|
Cost Basis
|
|
|
Gains
|
|
|
Losses
|
|
|
Fair Value
|
|
|
|
(in thousands)
|
|
At March 31, 2016
|
|
|
|
|
Short-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt
|
|
$
|
32,492
|
|
|
$
|
0
|
|
|
$
|
(31
|
)
|
|
$
|
32,461
|
|
U.S. government agency debt
|
|
|
30,000
|
|
|
|
2
|
|
|
|
(6
|
)
|
|
|
29,996
|
|
Certificates of deposit
|
|
|
12,495
|
|
|
|
|
|
|
|
|
|
|
|
12,495
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total short-term investments
|
|
$
|
74,987
|
|
|
$
|
2
|
|
|
$
|
(37
|
)
|
|
$
|
74,952
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Certificates of deposit
|
|
$
|
980
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
980
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total long-term investments
|
|
$
|
980
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
980
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Gross
|
|
|
Gross
|
|
|
|
|
|
|
Amortized
|
|
|
Unrealized
|
|
|
Unrealized
|
|
|
Aggregate
|
|
|
|
Cost Basis
|
|
|
Gains
|
|
|
Losses
|
|
|
Fair Value
|
|
|
|
(in thousands)
|
|
At December 31, 2015
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Short-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate debt
|
|
$
|
32,666
|
|
|
$
|
|
|
|
$
|
(100
|
)
|
|
$
|
32,566
|
|
U.S. government agency debt
|
|
|
25,000
|
|
|
|
|
|
|
|
(60
|
)
|
|
|
24,940
|
|
Certificates of deposit
|
|
|
11,025
|
|
|
|
|
|
|
|
|
|
|
|
11,025
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total short-term investments
|
|
$
|
68,691
|
|
|
$
|
|
|
|
$
|
(160
|
)
|
|
$
|
68,531
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long-term investments:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Certificates of deposit
|
|
$
|
980
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
980
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total long-term investments
|
|
$
|
980
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
980
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the three months ended March 31, 2016 and 2015, we did not have any realized gains or losses on our
investments. At March 31, 2016 and December 31, 2015, the number of available-for-sale investments that had been in a continuous loss position for more than twelve months was twelve and thirteen, respectively. As of March 31,
2016, a total of six individual securities had been in an unrealized loss position for twelve months or less and the losses were determined to be temporary. We regularly review our investment portfolio to determine if any security is
other-than-temporarily impaired, which would require us to record an impairment charge in the period any such determination is made. In making this judgment, we evaluate, among other things, the duration and extent to which the fair value of a
security has been less than its amortized cost, the financial condition of the issuer, the time to maturity of the investment and our intent to sell the security prior to maturity where we would not be able to recover its amortized cost basis.
20
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Note 6. Goodwill, In-Process Research and Development and Other Intangible Assets, Net
Goodwill
The carrying
amount of goodwill and the change in the balance for the three months ended March 31, 2016 and 2015 is as follows:
|
|
|
|
|
|
|
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Beginning balance
|
|
$
|
61,233
|
|
|
$
|
61,390
|
|
Additions
|
|
|
|
|
|
|
|
|
Impairment
|
|
|
|
|
|
|
|
|
Foreign currency translation impact
|
|
|
49
|
|
|
|
(167
|
)
|
|
|
|
|
|
|
|
|
|
Ending balance
|
|
$
|
61,282
|
|
|
$
|
61,223
|
|
|
|
|
|
|
|
|
|
|
In-Process Research and Development
The carrying value of our in-process research and development assets, which relate to the development and potential commercialization of
certain acquired technologies, consisted of the following at March 31, 2016 and December 31, 2015:
|
|
|
|
|
|
|
|
|
|
|
March 31,
2016
|
|
|
December 31,
2015
|
|
|
|
(in thousands)
|
|
CircuLite System technology
|
|
$
|
10,800
|
|
|
$
|
10,800
|
|
|
|
|
|
|
|
|
|
|
In-process research and development has an indefinite life. At the time the economic life becomes determinable
(upon project completion or abandonment) the amount will be amortized over its expected remaining life.
Other Intangible Assets
Other intangible assets, net consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
March 31,
2016
|
|
|
December 31,
2015
|
|
|
|
(in thousands)
|
|
Patents
|
|
$
|
7,816
|
|
|
$
|
7,424
|
|
Purchased intangible assets
|
|
|
|
|
|
|
|
|
Acquired technology rights
|
|
|
9,925
|
|
|
|
9,925
|
|
|
|
|
|
|
|
|
|
|
|
|
|
17,741
|
|
|
|
17,349
|
|
Less: Accumulated amortization Patents
|
|
|
(1,691
|
)
|
|
|
(1,551
|
)
|
Less: Accumulated amortization Purchased intangible assets
|
|
|
(3,080
|
)
|
|
|
(2,753
|
)
|
|
|
|
|
|
|
|
|
|
|
|
$
|
12,970
|
|
|
$
|
13,045
|
|
|
|
|
|
|
|
|
|
|
Our other intangible assets are amortized using the straight-line method over their estimated useful lives as follows:
|
|
|
Patents
|
|
15 years
|
Purchased intangible assets Acquired technology rights
|
|
6 to 16 years
|
Amortization expense was $0.5 million for each of the three months ended March 31, 2016 and 2015.
21
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Note 7. Debt
At March 31, 2016 and December 31, 2015, we had outstanding convertible debt as follows:
|
|
|
|
|
|
|
|
|
|
|
March 31,
2016
|
|
|
December 31,
2015
|
|
|
|
(in thousands)
|
|
Principal amount of the 3.5% convertible senior notes, due 2017
|
|
$
|
42,471
|
|
|
$
|
42,471
|
|
Deferred financing costs
|
|
|
(3,527
|
)
|
|
|
(3,652
|
)
|
Unamortized discount
|
|
|
(5,305
|
)
|
|
|
(5,994
|
)
|
|
|
|
|
|
|
|
|
|
|
|
$
|
33,639
|
|
|
$
|
32,825
|
|
|
|
|
|
|
|
|
|
|
Equity component
|
|
$
|
7,629
|
|
|
$
|
7,629
|
|
|
|
|
|
|
|
|
|
|
Principal amount of the 1.75% convertible senior notes, due 2021
|
|
$
|
202,366
|
|
|
$
|
202,366
|
|
Deferred financing costs
|
|
|
(285
|
)
|
|
|
(321
|
)
|
Unamortized discount
|
|
|
(46,149
|
)
|
|
|
(47,781
|
)
|
|
|
|
|
|
|
|
|
|
|
|
$
|
155,932
|
|
|
$
|
154,264
|
|
|
|
|
|
|
|
|
|
|
Equity component
|
|
$
|
47,400
|
|
|
$
|
47,400
|
|
|
|
|
|
|
|
|
|
|
Interest expense related to our convertible debt consisted of contractual interest due on the principal
amount, amortization of the discount and amortization of the portion of the deferred financing costs allocated to the long-term debt component and was included in interest expense in our condensed consolidated statements of operations. For the three
months ended March 31, 2016 and 2015, interest expense related to our convertible debt was as follows:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Coupon rate
|
|
$
|
1,257
|
|
|
$
|
1,258
|
|
Amortization of discount
|
|
|
2,321
|
|
|
|
2,068
|
|
Amortization of deferred financing costs
|
|
|
162
|
|
|
|
111
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
3,740
|
|
|
$
|
3,437
|
|
|
|
|
|
|
|
|
|
|
3.5% Convertible Senior Notes
On December 15, 2010, we completed the sale of 3.5% convertible senior notes due December 15, 2017, unless earlier repurchased by us
or converted (the 2017 Notes) for an aggregate principal amount of $143.75 million, pursuant to the terms of an indenture dated December 15, 2010 (the Indenture) and a supplemental indenture (the First
Supplemental Indenture), both filed with the SEC as exhibits to our Current Report on Form 8-K on December 15, 2010. The 2017 Notes are senior unsecured obligations of the Company. The 2017 Notes bear interest at a rate of 3.5% per
annum, payable semi-annually in arrears on June 15 and December 15 of each year.
In May 2015, we entered into separate,
privately negotiated, exchange agreements (the Exchange) with certain holders of our outstanding 2017 Notes. The general terms of exchange agreements were filed with the SEC on May 7, 2015 as an exhibit to our Current Report on Form
8-K. Pursuant to these agreements, we exchanged $101.3 million aggregate principal amount of the 2017 Notes for $118.2 million principal amount of 1.75% convertible senior notes due 2021 (see further discussion below). We did not receive any
proceeds related to the Exchange.
Pursuant to the terms of the Indenture and First Supplemental Indenture, the 2017 Notes are convertible
at an initial conversion rate of 10 shares of our common stock per $1,000 principal amount of 2017 Notes, which corresponds to an initial conversion price of $100.00 per share of our common stock. The conversion rate is subject to adjustment from
time to time upon the occurrence of certain events.
22
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
The 2017 Notes mature on December 15, 2017, unless earlier repurchased by us or
converted. Prior to June 15, 2017, holders may convert their 2017 Notes at their option only upon satisfaction of one or more of the conditions specified in the Indenture relating to the (i) sale price of our common stock, (ii) the
trading price per $1,000 principal amount of 2017 Notes or (iii) specified corporate events. On or after June 15, 2017, until the close of business of the business day immediately preceding the date the 2017 Notes mature, holders may
convert their 2017 Notes at any time, regardless of whether any of the foregoing conditions have been met. Upon conversion, we will pay or deliver, as the case may be, cash, shares of our common stock or a combination thereof, at our election.
Based on the initial conversion rate of 10 shares of our common stock per $1,000 principal amount of 2017 Notes, which corresponds to an
initial conversion price of $100.00 per share of our common stock, the number of shares issuable upon conversion of the 2017 Notes is 424,710. The value of these shares, based on the closing price of our common stock on March 31, 2016 of $31.42
per share, was approximately $13.3 million. The fair value of our 2017 Notes as presented in Note 4 was $38.2 million at March 31, 2016.
1.75% Convertible Senior Notes
In May 2015, we issued $84.2 million principal amount of 1.75% convertible senior notes due December 15, 2021 (the 2021
Notes), unless earlier repurchased, redeemed or converted (the 2021 Notes) pursuant to the terms of the Indenture and a second supplemental indenture (the Second Supplemental Indenture), which was filed with the SEC on
May 19, 2015 as an exhibit to our Current Report on from 8-K. Combined with the 2021 Notes issued in connection with the Exchange described above, the aggregate principal amount issued under the 2021 Notes was $202.4 million. The Exchange
resulted in the retirement of outstanding 2017 Notes with a carrying value of $83.1 million, the write-off of unamortized debt issuance costs of $1.0 million and settlement of $10.7 million related to the conversion feature embedded in the 2017
Notes. The 2021 Notes offered in the Exchange had a fair value of $88.0 million, which resulted in a loss on extinguishment of debt of $16.6 million in the three months ended June 30, 2015.
The net proceeds from the issuance of the 2021 Notes amounted to $75.5 million, net of deferred issuance costs paid as of September 30,
2015. In connection with the issuance of the 2021 Notes, we incurred costs of approximately $5.2 million. The 2021 Notes are senior unsecured obligations of the Company and bear interest at a rate of 1.75% per annum, payable semi-annually in
arrears on June 15 and December 15 of each year.
Pursuant to the terms of the Indenture and the Second Supplemental Indenture,
the 2021 Notes are convertible at an initial conversion rate of 10 shares of our common stock per $1,000 principal amount of 2021 Notes, which corresponds to an initial conversion price of $100.00 per share of our common stock. The conversion rate
is subject to adjustment from time to time upon the occurrence of certain events.
The 2021 Notes mature on December 15, 2021 unless
earlier repurchased, redeemed or converted. Prior to the close of business on the business day immediately preceding June 15, 2021, holders may convert their 2021 Notes at their option only under the following circumstances: (i) sale price
of our common stock, (ii) the trading price per $1,000 principal amount of 2017 Notes or (iii) specified corporate events, or (iv) if we call the 2021 Notes for redemption, until the close of business on the business day immediately
preceding the redemption date. On or after June 15, 2021 until the close of business on the scheduled trading day immediately preceding the maturity date, holders may convert their 2021 Notes at any time, regardless of whether any of the
foregoing conditions has been met.
Based on the initial conversion rate of 10 shares of our common stock per $1,000 principal amount of
2021 Notes, which corresponds to an initial conversion price of $100.00 per share of our common stock, the number of shares issuable upon conversion of the 2021 Notes is 2,023,660. The value of these shares, based on the closing price of our common
stock on March 31, 2016 of $31.42 per share, was approximately $63.6 million. The fair value of our 2021 Notes as presented in Note 4 was $137.2 million at March 31, 2016.
23
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Accounting for Debt Transactions
In accordance with accounting guidance for debt with conversion and other options, we separately account for the liability and equity
components of the Convertible Notes by allocating the proceeds between the liability component and the embedded conversion option, or equity component, due to our ability to settle the Convertible Notes in cash, common stock or a combination of cash
and common stock, at our option. The carrying amount of the liability component was calculated by measuring the fair value of a similar liability that does not have an associated convertible feature. The allocation was performed in a manner that
reflected our non-convertible debt borrowing rate for similar debt. The equity component of the Convertible Notes was recognized as a debt discount and represents the difference between the proceeds from the issuance of the Convertible Notes and the
fair value of the liability of the Convertible Notes on their respective dates of issuance. The excess of the principal amount of the liability component over its carrying amount, or debt discount, is amortized to interest expense using the
effective interest method over the life of the Convertible Notes. The equity component is not remeasured as long as it continues to meet the conditions for equity classification. Additionally, we allocated the costs related to the issuance of the
Convertible Notes on the same percentage as the long-term debt and equity components, such that a portion of the costs is allocated to the long-term component and the equity component included in additional paid-in-capital. These deferred financing
costs are being amortized to interest expense over the life of the Convertible Notes using the effective interest method.
Note 8. Stockholders Equity
On January 30, 2014, we filed a shelf registration statement with the SEC on Form S-3. This shelf registration
statement allows us to offer and sell from time to time, in one or more series or issuances and on terms that we will determine at the time of the offering any combination and amount of the securities described in the prospectus contained in the
registration statement or in the prospectus supplement filed with respect to a particular offering. An aggregate of 530,816 shares of our common stock were registered for issuance pursuant to various prospectus filings on January 30, 2014 in
connection with our acquisition of CircuLite. As of March 31, 2016, there remained 248,872 shares of our common stock reserved for potential issuance in connection with future contingent milestone payments under the terms of the merger
agreement.
In the three months ended March 31, 2016, we issued 131,031 shares of our common stock upon the vesting of restricted
stock units pursuant to stockholder approved equity plans. There were no options exercised during this period.
In the three months ended
March 31, 2015, we issued an aggregate of 1,429 shares of our common stock upon the exercise of stock options and an aggregate of 88,184 shares of our common stock upon the vesting of restricted stock units.
24
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Note 9. Share-Based Compensation
We allocate share-based compensation expense to cost of revenue, selling, general and administrative expense and research
and development expense based on the award holders employment function. For the three months ended March 31, 2016 and 2015, we recorded share-based compensation expense as follows:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
March 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Cost of revenue
|
|
$
|
495
|
|
|
$
|
438
|
|
Selling, general and administrative
|
|
|
2,653
|
|
|
|
3,449
|
|
Research and development
|
|
|
1,239
|
|
|
|
2,089
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
4,387
|
|
|
$
|
5,976
|
|
|
|
|
|
|
|
|
|
|
Deferred tax benefits attributed to our share-based compensation expense are not recognized in the
accompanying condensed consolidated financial statements because we are in a net operating loss position and a full valuation allowance is maintained for all net deferred tax assets. We receive a tax deduction for certain stock option exercises
during the period the options are exercised, and for the vesting of restricted stock units during the period the restricted stock units vest. For stock options, the amount of the tax deduction is generally for the excess of the fair market value of
our shares of common stock over the exercise price of the stock options at the date of exercise. For restricted stock units, the amount of the tax deduction is generally for the fair market value of our shares of common stock at the vesting date.
Excess tax benefits are not included in the accompanying condensed consolidated financial statements because we are in a net operating loss position and a full valuation allowance is maintained for all net deferred tax assets.
Equity Plans
We have issued
share-based awards to employees, non-executive directors and outside consultants through various approved plans and outside of any formal plan. New shares are issued upon the exercise of share-based awards.
Upon receipt of stockholder approval on May 31, 2012, we adopted the HeartWare International, Inc. 2012 Incentive Award Plan (2012
Plan). The 2012 Plan provides for the grant of incentive stock options, non-qualified stock options, restricted stock, restricted stock units, performance awards, dividend equivalent rights, deferred stock, deferred stock units, stock payments
and stock appreciation rights (collectively referred to as Awards), to our directors, employees and consultants. At our 2015 Annual Meeting of Stockholders held on June 4, 2015, our stockholders approved an amendment to the 2012
Plan to increase the number of shares of our common stock available for issuance by 1.1 million shares. Under the terms of the 2012 Plan, as amended, the total number of shares of our common stock reserved for issuance under Awards is
2,475,000, provided that the total number of shares of our common stock that may be issued pursuant to Full Value Awards (Awards other than options, stock appreciation rights or other Awards for which the holder pays the intrinsic value
existing as of the date of grant whether directly or by forgoing a right to receive a payment from the Company) is 2,375,000. As of March 31, 2016, 407,969 shares have been issued upon vesting of Awards issued under the 2012 Plan and Awards
with respect to 911,349 shares were issued and outstanding under the 2012 Plan. Subsequent to adoption of the 2012 Plan, no new Awards will be granted under our prior plans. Any outstanding Awards under the prior plans will continue to be subject to
the terms and conditions of the plan under which they were granted.
Stock Options
Each option allows the holder to subscribe for, and be issued, one share of our common stock at a specified price, which is generally the
quoted market price of our common stock on the date the option is issued. Options generally vest on a pro-rata basis on each anniversary of the issuance date within three or four years of the date the option is issued. Options may be exercised after
they have vested and prior to the specified expiry date provided applicable exercise conditions are met, if any. The expiry date can be for periods of up to ten years from the date the option is issued.
The fair value of each option is estimated on the date of grant using the Black-Scholes option pricing model based on the assumptions
established at that time. In the three months ended March 31, 2016 and 2015, we issued 149,940 and zero stock options, respectively.
25
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Information related to options granted under all of our plans at March 31, 2016 and
activity in the three months then ended is as follows (certain amounts in U.S.$ were converted from AU$ at the then period-end spot rate):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
Average
|
|
|
Aggregate
|
|
|
|
Number of
|
|
|
Average
|
|
|
Remaining
|
|
|
Intrinsic
|
|
|
|
Options
|
|
|
Exercise
|
|
|
Contractual Life
|
|
|
Value
|
|
|
|
(in thousands)
|
|
|
Price
|
|
|
(Years)
|
|
|
(in thousands)
|
|
Outstanding at December 31, 2015
|
|
|
111
|
|
|
$
|
49.20
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
150
|
|
|
|
33.49
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
(10
|
)
|
|
|
51.28
|
|
|
|
|
|
|
|
|
|
Expired
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at March 31, 2016
|
|
|
251
|
|
|
|
39.63
|
|
|
|
7.21
|
|
|
$
|
332
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercisable at March 31, 2016
|
|
|
92
|
|
|
|
43.75
|
|
|
|
2.77
|
|
|
$
|
332
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The aggregate intrinsic values at March 31, 2016 noted in the table above represent the number of
in-the-money options outstanding or exercisable multiplied by the closing price of our common stock traded on NASDAQ less the weighted-average exercise price at period end.
The total intrinsic value of options exercised in the three months ended March 31, 2016 and 2015 was zero and approximately $0.1 million,
respectively. Cash received from options exercised in the three months ended March 31, 2016 and 2015 was zero and $31,000, respectively.
At March 31, 2016, there was approximately $2.1 million of unrecognized compensation expense, net of estimated forfeitures, related to
non-vested options. This expense is expected to be recognized over a weighted-average period of 1.8 years.
Restricted Stock Units
Each restricted stock unit (RSU) represents a contingent right to receive one share of our common stock. RSUs generally vest on a
pro-rata basis on each anniversary of the issuance date over three or four years or vest in accordance with performance-based criteria. The RSUs with performance-based vesting criteria vest in one or more tranches contingent upon the achievement of
predetermined milestones related to the development of our products, the achievement of certain prescribed clinical and regulatory objectives, the achievement of specific financial performance measures or similar metrics. There is no consideration
payable on the vesting of RSUs issued under the plans. Upon vesting, the RSUs are exercised automatically and settled in shares of our common stock.
Information related to RSUs at March 31, 2016 and activity in the three months then ended is as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted-
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
|
|
|
|
|
|
|
Remaining
|
|
|
|
|
|
|
Number of
|
|
|
Contractual
|
|
|
Aggregate
|
|
|
|
Units
|
|
|
Life
|
|
|
Intrinsic Value
|
|
|
|
(in thousands)
|
|
|
(Years)
|
|
|
(in thousands)
|
|
Outstanding at December 31, 2015
|
|
|
623
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
296
|
|
|
|
|
|
|
|
|
|
Vested/Exercised
|
|
|
(131
|
)
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
(42
|
)
|
|
|
|
|
|
|
|
|
Expired
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding at March 31, 2016
|
|
|
746
|
|
|
|
1.93
|
|
|
$
|
23,426
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The aggregate intrinsic value at March 31, 2016 noted in the table above represents the closing price of
our common stock traded on NASDAQ multiplied by the number of RSUs outstanding.
26
HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
At March 31, 2016, 112,522 of the RSUs outstanding were subject to performance-based
vesting criteria as described above.
The total intrinsic value of RSUs vested in the three months ended March 31, 2016 and 2015 was
approximately $4.4 million and $7.9 million, respectively.
The fair value of each RSU award equals the closing price of our common stock
on the date of grant. The weighted-average grant date fair value per share of RSUs granted in the three months ended March 31, 2016 and 2015 was $33.47 and $89.53, respectively.
At March 31, 2016, we had approximately $25.6 million of unrecognized compensation expense related to non-vested RSU awards, net of
estimated forfeitures. This expense is expected to be recognized over a weighted-average period of 2.0 years.
Note 10. Net Loss Per Share
Basic net loss per common share is computed by dividing net loss for the period by the weighted-average number of common
shares outstanding for each respective period. Diluted net loss per common share adjusts basic net loss per common share for the dilutive effects of share-based awards as determined under the treasury stock method, our convertible senior notes as
determined under the if-converted method, and other potentially dilutive instruments only in the periods in which the effect is dilutive. Due to our net loss for all periods presented, all potentially dilutive instruments were excluded because their
inclusion would have been anti-dilutive. The following instruments have been excluded from the calculation of diluted net loss per share, as their effect would be anti-dilutive.
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
March 31,
|
|
Common shares issuable upon:
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Conversion of convertible senior notes
|
|
|
2,448
|
|
|
|
1,438
|
|
Exercise or vesting of share-based awards
|
|
|
997
|
|
|
|
879
|
|
Note 11. Business Segment, Geographic Areas and Major Customers
For financial reporting purposes, we have one reportable segment which designs, manufactures and markets medical devices for
the treatment of advanced heart failure. Products are distributed to customers located in the United States through our clinical trials and as commercial products, as commercial products to customers in Europe and other countries and under special
access in certain other countries. Product sales attributed to a country or region are based on the location of the customer to whom the products are sold. Long-lived assets are primarily held in the United States.
Product sales by geographic location were as follows:
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended
|
|
|
|
March 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
United States
|
|
$
|
33,348
|
|
|
$
|
42,189
|
|
Germany
|
|
|
10,673
|
|
|
|
12,741
|
|
International, excluding Germany
|
|
|
11,053
|
|
|
|
15,091
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
55,074
|
|
|
$
|
70,021
|
|
|
|
|
|
|
|
|
|
|
As a significant portion of our revenue is generated outside of the United States, we are dependent on
favorable economic and regulatory environments for our products in Europe and other countries outside of the United States. For the three months ended March 31, 2016 and 2015, no customer exceeded 10% of product sales individually.
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HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Note 12. Commitments and Contingencies
We received a warning letter from the FDA, dated June 2, 2014, following an inspection of our Miami Lakes, Florida
facility conducted in January 2014. The FDA letter cited four categories for us to address: (1) procedures for validating device design, including device labeling; (2) procedures for implementing corrective and preventive action
(CAPA); (3) maintaining records related to investigations; and (4) validation of computer software used as part of production or quality systems. The warning letter did not require any action by physicians or patients and did
not restrict use of our devices.
We sent the FDA our initial response to the warning letter within the required fifteen business days of
receipt and committed to undertaking certain quality system improvements and providing the FDA with periodic updates. Since 2014 and continuing in 2016, we implemented systemic changes and organizational enhancements to address the four warning
letter items and related quality systems. We have established teams to review and address the items cited by the FDA and have engaged external subject matter experts to assist in assessment and remediation efforts. As we continue to evaluate our
quality systems, it is possible that we may need to take additional actions including the possibility of voluntary product recalls when necessary to ensure patient safety and effective performance of the HVAD System.
At March 31, 2016, we had purchase order commitments of approximately $46.6 million related to product costs, supplies, services and
property, plant and equipment purchases. Many of our materials and supplies require long lead times. Our purchase order commitments reflect materials that may be received up to one year from the date of order.
In addition, we have entered into employment agreements with all of our executive officers. These contracts do not have a fixed term and are
constructed on an at-will basis. Some of these contracts provide executives with the right to receive certain additional payments and benefits if their employment is terminated including after a change of control, as defined in these agreements.
From time to time we invest in certain development-stage entities in connection with research activities. Certain contingent milestone
payments in connection with these arrangements have not been accrued in the accompanying condensed consolidated financial statements as the amounts are indeterminate at this time.
The taxation and customs requirements, together with other applicable laws and regulations of certain foreign jurisdictions, can be inherently
complex and subject to differing interpretation by local authorities. We are subject to the risk that either we have misinterpreted applicable laws and regulations, or that foreign authorities may take inconsistent, unclear or changing positions on
local law, customs practices or rules. In the event that we have misinterpreted any of the above, or that foreign authorities take positions contrary to ours, we may incur liabilities that may differ materially from the amounts accrued in
the accompanying condensed consolidated financial statements.
Contingent Consideration and Milestone Payments
In December 2013, we acquired CircuLite using a combination of cash, stock and post-acquisition milestone and royalty payments. The
post-acquisition payments are payable based upon the achievement of CircuLite related revenue and certain specified performance milestones over periods ranging from 8-10 years subsequent to the acquisition date. The maximum amount of the aggregate
post-acquisition payments could be $300 million. As of March 31, 2016, the fair value of the contingent consideration was estimated to be $12.9 million (
see
Note 4).
License and Development Agreements
From time to time, we license rights to technology or intellectual property from third parties. These licenses may require us to make upfront
payments as well as development or other payments upon successful completion of preclinical, clinical, regulatory or revenue milestones. In addition, these agreements may require us to pay royalties on sales of products arising from the licensed
technology or intellectual property. Because the achievement of these milestones is not reasonably estimable, we have not recorded a liability in the accompanying consolidated financial statements for any of these contingencies.
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HEARTWARE INTERNATIONAL, INC.
NOTES TO THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Continued)
(unaudited)
Litigation
From time to time we may be involved in litigation or other contingencies arising in the ordinary course of business. Except as set forth
below, based on the information presently available, management believes there are no contingencies, claims or actions, pending or threatened, the ultimate resolution of which will have a material adverse effect on our financial position, liquidity
or results of operations.
On January 22, 2016, the St. Paul Teachers Retirement Fund Association filed a putative class action
complaint (the Complaint) in the United States District Court for the Southern District of New York on behalf of all persons and entities who purchased or otherwise acquired shares of the Company from June 10, 2014 through
January 11, 2016 (the Class Period). The Complaint claims that the Company and two of our executives violated Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 by making false and misleading statements about, among
other things, the Companys response to the June 2014 FDA warning letter, the development of the MVAD System and the acquisition of Valtech. The Complaint claims that the disclosure of the purportedly false and misleading statements caused the
price of the Companys stock to drop, and seeks to recover damages on behalf of all purchasers or acquirers of the Companys stock during the Class Period. The Company intends to vigorously defend itself against these claims. Because of
the many questions of fact and law that may arise, the outcome of this legal proceeding is uncertain at this point. As a result we cannot reasonably estimate a range of loss for this action and accordingly have not accrued any liability associated
with this action.
In accordance with FASB ASC 450
, Contingencies
, we accrue loss contingencies including costs of settlement,
damages and defense related to litigation to the extent they are probable and reasonably estimable. Otherwise, we expense these costs as incurred. If the estimate of a probable loss is a range and no amount within the range is more likely, we accrue
the minimum amount of the range.
Note 13. Subsequent Events
We have evaluated events and transactions that occurred subsequent to March 31, 2016 through the date the financial
statements were issued, for potential recognition or disclosure in the accompanying condensed consolidated financial statements. We did not identify any events or transactions that should be recognized or disclosed in the accompanying condensed
consolidated financial statements.
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