Item 1. Business
All references to “we,” “our,” and “us” in this Annual Report refer to Quidel Corporation and its subsidiaries.
Overview
We have a leadership position in the development, manufacturing and marketing of rapid diagnostic testing solutions. These diagnostic testing solutions are separated into our four product categories: rapid immunoassay, cardiac immunoassay, specialized diagnostic solutions and molecular diagnostic solutions. We sell our products directly to end users and distributors, in each case, for professional use in physician offices, hospitals, clinical laboratories, reference laboratories, urgent care clinics, leading universities, retail clinics, pharmacies and wellness screening centers. We market our products through a network of distributors and through a direct sales force. We operate in one business segment that develops, manufactures and markets our four product categories.
We commenced our operations in 1979 and launched our first products, dipstick-based pregnancy tests, in 1983. Since such time, our product base and technology platforms have expanded through internal development and acquisitions of other products, technologies and companies. Our diagnostic solutions aid in the detection and diagnosis of many critical diseases and other medical conditions, including infectious diseases, cardiovascular diseases and conditions, women’s health, gastrointestinal diseases, autoimmune diseases, bone health and thyroid diseases.
Corporate Information
We are a corporation, originally incorporated as Monoclonal Antibodies, Inc. in California in 1979 and re-incorporated as Quidel Corporation in the State of Delaware in 1987. Our executive offices are located at 9975 Summers Ridge Road, San Diego, California 92121, and our telephone number is (858) 552-1100. This Annual Report and each of our other periodic and current reports, including any amendments thereto, are available, free of charge, on our website, www.quidel.com, as soon as reasonably practicable after such material is electronically filed with or furnished to the SEC. In addition, the SEC website contains reports, proxy and information statements, and other information about us at www.sec.gov. The information contained on our website or on the SEC website is not incorporated by reference into this Annual Report and should not be considered part of this Annual Report.
On October 6, 2017, we closed our acquisition of the Triage® MeterPro® Cardiovascular (CV) and toxicology business (“Triage Business”), and B-type Naturietic Peptide (BNP) assay business run on Beckman Coulter analyzers (“BNP Business” and, together, the “Triage and BNP Businesses”) from Alere Inc. (“Alere”). This strategic acquisition added an extensive
cardiovascular and toxicology point-of-care (POC) offering to our innovative medical diagnostics portfolio.
Business Strategy
Our primary objective is to increase shareholder value by building a broader-based diagnostic company capable of delivering revenue growth and consistent operating results. Our strategy is to identify potential market segments that provide, or are expected to provide, significant total market opportunities, and in which we can be successful by applying our expertise and know-how to develop differentiated technologies and products.
Our diagnostic testing solutions are designed to provide specialized results that serve a broad range of customers, by addressing the market requirements of ease of use, reduced cost, increased test accuracy and reduced time to result. Our current approach is to offer products in the following product categories:
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rapid immunoassay tests for use in physician offices, hospital laboratories and emergency departments, retail clinics, eye health settings, pharmacies and other urgent care or alternative site settings;
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cardiac immunoassay tests for use in physician offices, hospital laboratories and emergency departments, and other urgent care or alternative site settings;
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specialized diagnostic solutions, including direct fluorescent assays (“DFA”) and culture-based tests for the clinical virology laboratory and other products serving the bone health, autoimmune and complement research communities; and
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molecular diagnostic tests for use in hospitals, moderately complex physician offices, laboratories and other settings.
Our current focus to accomplish our primary objective includes the following:
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leveraging our current infrastructure to develop and launch new Rapid Immunoassays and Cardiac Immunoassays such as additional assays for our Sofia® and Sofia® 2 analyzers and Triage® MeterPro® systems;
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developing a molecular diagnostics franchise that incorporates distinct testing platforms, including Solana® and Savanna®, that leverages our molecular assay development competencies; and
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strengthening our position with distribution partners and our end-user customers to gain more emphasis on our products.
Our current initiatives to execute this strategy include the following:
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provide products that can compete effectively in the healthcare market where cost and quality are important;
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focus our research and development efforts on three areas:
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new proprietary product platform development;
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the creation of improved products and new products for existing markets and unmet clinical needs; and
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pursuit of collaborations with, or acquisitions of, other companies for new and existing products and markets that advance our strategy to develop differentiated technologies and products;
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leverage our international infrastructure and enhance our global footprint to support our international operations and future growth;
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strengthen our market and brand leadership in current markets by acquiring and/or developing and introducing clinically superior diagnostic solutions;
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strengthen our direct sales force to enhance relationships with integrated delivery networks, laboratories and hospitals, with a goal of driving growth through improved physician and laboratorian satisfaction;
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leverage our wireless connectivity and data management systems, including cloud-based tools;
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support payer evaluation of diagnostic tests and establishment of favorable reimbursement rates;
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provide clinicians with validated studies that encompass the clinical efficacy and economic efficiency of our diagnostic tests for the professional market;
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pursue potential acquisitions and create strong global alliances to support our efforts to achieve leadership in key markets and expand our presence in emerging markets;
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further refine our manufacturing efficiencies and productivity improvements to increase profit; and
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focus on innovative products and markets and leverage our core competency in new product development.
The Overall Market for In Vitro Diagnostics
Customers for In Vitro Diagnostics (“IVD”) products are primarily centralized laboratories and decentralized POC or alternate settings.
Centralized testing market
The centralized in vitro diagnostic testing process typically involves obtaining a specimen of blood, urine or other sample from the patient and sending the sample from the healthcare provider’s office, hospital unit or clinic to a central laboratory. In a typical visit to the physician’s office, after the patient’s test specimen is collected, the patient is usually sent home and receives the results of the test several hours or days later. The result of this process is that the patient may leave the physician’s office without confirmation of the diagnosis and the opportunity to begin potentially more effective immediate care.
Decentralized POC market
POC testing for certain diseases has become an accepted adjunct to central laboratory and self-testing. The professional POC market is comprised of two general segments: decentralized testing in non-institutional settings, such as physicians’ offices and institutional settings, such as hospitals (e.g., emergency rooms and bedside).
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Out-of-hospital testing sites consist of physicians’ office laboratories, nursing homes, pharmacies, eye health offices, retail clinics and other non-institutional, ambulatory settings in which healthcare providers perform diagnostic tests.
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Hospital POC testing is accepted and growing and is generally an extension of the hospital’s central laboratory. Hospitals in the U.S. have progressively sought to reduce the length of patient stays and, consequently, the proportion of cases seen as outpatients has increased. If the U.S. experience is representative of future trends,
emergency departments and other critical care units such as intensive care units, operating rooms, trauma and cardiac centers are increasingly becoming the principal centers for the management of moderate and severe acute illness.
The decentralized POC market utilizes a large variety of IVD products ranging from moderate-sized instrumented diagnostic systems serving larger group practices to single-use, disposable tests. We believe POC testing is increasing due to its clinical benefit, fast results, cost-effectiveness and patient satisfaction.
We believe that the growth in POC testing is in part due to evolving technological improvements creating high quality tests with laboratory accuracy and POC ease-of-use, some of which are capable of being granted a waiver under the Clinical Laboratory Improvement Amendments of 1988 (“CLIA”).
Products
We provide diagnostic testing solutions under various brand names, including, among others, the following: Quidel®, QuickVue®, QuickVue+®, Sofia®, Triage®, AmpliVue®, Solana®, Virena®, MicroVueTM, Lyra®, FreshCellsTM, D3®, FastPoint®, ReadyCells®, Super E-MixTM, InflammaDry®, AdenoPlus®, ELVIRA®, ELVIS® and Thyretain®.
System Platforms:
Our diagnostic testing solutions are separated into our four product categories: rapid immunoassay, cardiac immunoassay, specialized diagnostic solutions and molecular diagnostic solutions. The key product categories and platforms are described below:
Rapid Immunoassay
Sofia and Sofia 2 Analyzers. Sofia is the brand name for our fluorescent immunoassay (“FIA”) systems. The easy-to-use Sofia and Sofia 2 analyzers combine unique software and Sofia FIA tests to yield an automatic, objective result that is readily available on the instrument’s screen, in a hard-copy printout, and in a transmissible electronic form that can network via a lab information system to hospital and medical center databases. We launched the Sofia analyzer in 2011 and Sofia 2 in 2017. These systems provide for different operational modes to accommodate both small and large laboratories as well as other features designed to facilitate use in a variety of healthcare settings, including hospitals, medical centers, and small clinics. Sofia 2 systems include additional benefits and features at a cost point that allows us to better address the lower-volume segment of the diagnostic testing market. Sofia 2 analyzers also incorporate enhanced optics, which provide added performance benefits and enable positive test results to be read in as few as three minutes.
QuickVue. QuickVue is the brand name for our rapid, visually-read, lateral flow immunoassay products. We have been a leader in the development and production of high-quality lateral flow diagnostics since the early 1990s and offer a broad portfolio of products to diagnose a wide variety of infectious diseases and medical conditions.
InflammaDry and AdenoPlus. The InflammaDry and AdenoPlus products are rapid, lateral-flow based, POC products for the detection of infectious and inflammatory diseases and conditions of the eye. InflammaDry is a test that detects elevated levels of MMP-9, a key inflammatory marker for dry eye. AdenoPlus is a test that differentiates between a viral and bacterial infection of acute conjunctivitis (pink eye). Both products utilize innovative patented technology, are CE marked, United States Food and Drug Administration (“FDA”)-cleared and CLIA-waived.
Cardiac Immunoassay
Triage MeterPro. Triage MeterPro is our portable testing platform that runs a comprehensive menu of tests that enable physicians to promote improved health outcomes through the rapid diagnosis of critical diseases and health conditions, as well as the detection of certain drugs of abuse. This system aids in the diagnosis, assessment and risk stratification of patients having critical care issues, including congestive heart failure, acute coronary syndromes, acute myocardial infarction, or AMI, and can reduce hospital admissions and improve clinical and economic outcomes. Triage cardiovascular rapid tests include immunoassays for B-type Natriuretic Peptide (BNP), creatine kinase-MB (CK-MB), d-dimer, myoglobin, troponin I and N-terminal pro-Brain Natriuretic Peptide (NT-proBNP). Triage tests for troponin I, high sensitivity Troponin I, PLGF and NT-proBNP, as well as certain test panels which include a combination of immunoassays, are not available for sale in the United States.
We also offer a version of the Triage BNP Test for use on Beckman Coulter lab analyzers.
In addition to the cardiovascular menu, we offer urine-specific screening tests for the detection of drug and/or the urinary metabolites for multiple drug classes, including our new Triage TOX Drug Screen.
Specialized Diagnostic Solutions
Virology. We provide a wide variety of traditional cell lines, specimen collection devices, media and controls for use in laboratories that culture and test for many human viruses, including, among others, respiratory and herpes family viruses. We provide cell-based products under the FreshCells brand in multiple formats, including tubes, shell vials and multi-well plates. Our Virology product category includes the FDA-cleared bioassay, Thyretain, which is used for the differential diagnosis of an autoimmune disease called Graves’ Disease.
Specialty Products. We provide a variety of biomarkers for bone health and produce both clinical and research products for the assessment of osteoporosis and the evaluation of bone resorption/formation, which, including our metabolic bone markers, are used to monitor the effectiveness of therapy in pharmaceutical and related research. In the area of autoimmune disease, we have developed Enzyme Linked Immunosorbent Assays (“ELISA”) and reagents for the detection of activation products from the three main Complement Pathways. Assays are developed on a microwell platform and are currently marketed to clinicians and researchers. We currently sell these products both directly and through select distributors throughout the world under the Quidel and MicroVue brands.
Molecular Diagnostic Solutions
AmpliVue. With our AmpliVue hand-held molecular diagnostic assay platform, the detection of the pathogen is achieved using a hand-held, fully contained cassette that combines isothermal Helicase Dependent Amplification (“HDA”) with lateral flow detection technology and is currently used in several assays also noted in our medical and wellness categories discussion below.
Solana. The Solana system was developed using our proprietary HDA technology and leverages our AmpliVue product lines. Solana is an easy to run amplification and detection system that has the ability to concurrently run up to 12 assays at a time.
Lyra. Our open system molecular assays run on several thermocyclers currently on the market. Lyra Molecular Real-Time Polymerase Chain Reaction (“PCR”) assays provide important benefits to the customer, including, among others, room temperature storage, reduced process time, and ready-to-use reagent configurations. These include several assays as noted in our medical and wellness categories discussion below.
Savanna. We are developing the Savanna system as a low-cost, fully-integrated system with sample in/result out simplicity. The system is expected to be able to run either PCR or HDA assays from multiple sample types.
Connectivity and Data Management
Virena. Virena is a wireless cellular data management and surveillance system that operates as a cloud-based solution connecting Sofia and Solana instruments across a healthcare system and automatically transmitting de-identified test results to a secure database. With Virena, a health system, physician office laboratory (“POL”), urgent care center or retail clinic has the ability to compile, analyze, map and generate reports of de-identified test results improving operational efficiencies, quality and patient outcome initiatives.
Medical and Wellness Categories:
Our products address the following medical and wellness categories, among others:
Infectious Diseases
Influenza. We offer a variety of products designed to detect the viral antigens of influenza type A and B utilizing fluorescent immunoassay, lateral flow and molecular technologies. Our Sofia Influenza A+B test, used in conjunction with our Sofia and Sofia 2 analyzers, and our QuickVue influenza tests are rapid, qualitative tests for the detection of the viral antigens of influenza type A and B, the two most common types of the influenza virus. In addition, we offer molecular testing options with Solana Influenza A+B assay and our Lyra Influenza A+B real-time PCR assay.
Streptococci. We offer a number of products designed to detect Streptococcal infections utilizing fluorescent immunoassay, lateral flow and molecular technologies. Our Sofia Strep A and Strep A+ fluorescent immunoassays, used in conjunction with our Sofia and Sofia 2 analyzers, and our QuickVue Strep A tests are intended for the rapid, qualitative detection of Group A Streptococcal antigen from throat swabs or confirmation of presumptive Group A Streptococcal colonies recovered from culture. Our Solana Strep Complete and Solana Group A Strep Assays allow for the rapid, qualitative detection of Group A and pyogenic Group C/G Strep, respectively, utilizing our molecular HDA technology. In addition, our Lyra Direct
Strep Assay is a multiplex real-time PCR assay that detects and differentiates between pyogenic Group A and pyogenic C or G Streptococcal throat infections.
RSV (and hMPV). Our Sofia RSV test and our QuickVue RSV test are rapid immunoassay tests for Respiratory Syncytial Virus (“RSV”). In addition, we offer molecular testing options with our Solana RSV + human metapneumovirus (hMPV) test and our combo Quidel Lyra RSV + human metapneumovirus (hMPV) test. The majority of upper respiratory tract infections in children is caused by viruses, and RSV is generally recognized as a frequent agent responsible for these infections and shares overlapping symptoms with hMPV.
Herpes and Herpes Family. We offer several products designed to detect various herpes simplex virus (“HSV”) and herpes family viruses utilizing molecular and cell culture technologies. We offer our Solana HSV-1+2/VZV Assay, used in conjunction with our Solana instrument, for the detection of HSV type 1, HSV type 2, and varicella-zoster virus (“VZV”). We also offer our Lyra Direct HSV 1+2/VZV and AmpliVue HSV 1+2 assays. In addition, our proprietary engineered cell culture system, ELVIS HSV, is an FDA cleared and highly sensitive system for the isolation and detection of HSV types 1 and 2. We also provide a multiplex cell culture solution using a propriety cell platform called H&V-MixTM that is used to isolate HSV, VZV and Cytomegalovirus, all in the herpes family of viruses. Antibody detection and identification of each of these viruses can be performed with FDA-cleared antibody products provided under the D3 DFA brand. HSV is a widespread sexually transmitted infection. VZV is a DNA virus of the family Herpesviridae; infection results in chickenpox (varicella) and may lead to complications such as pneumonia and may reactivate later in life to produce shingles.
Multiplex Respiratory. Our cell culture and DFA detection solutions, including D3 FastPoint technology, are used by reference laboratories, public health labs and acute care hospitals to detect eight major viral respiratory pathogens. Our proprietary cell culture platform R-MixTM combined with our D3 Ultra DFA antibody kit, detects Influenza A and B, RSV, Adenovirus and Parainfluenza types 1, 2 and 3, with turn-around times between 16 and 48 hours. The same D3 Ultra DFA antibody kit can also be used for direct specimen testing for those viruses with turn-around times in under 90 minutes. Our D3 FastPoint antibody kit detects eight viruses, with human metapneumovirus added to the testing menu, and provides laboratories, in a direct specimen testing format, the ability to produce virus identification in under 25 minutes from specimen receipt.
Lyme. Our Sofia Lyme FIA, used in conjunction with our Sofia analyzers, was FDA cleared in 2017. The assay is used to aid in the rapid differential detection of human IgM and IgG antibodies to Borrelia burgdorferi from serum and plasma specimens from patients suspected of B. burgdorferi infection and is intended for use to aid in the diagnosis of Lyme disease, a tickborne disease. In 2018, we received 510(k) clearance and CLIA waiver from the FDA to market Sofia 2 Lyme FIA, which is used with the Sofia 2 Fluorescent Immunoassay analyzer for the rapid differential detection of human IgM and IgG antibodies to Borrelia burgdorferi from finger-stick whole blood specimens from patients suspected of B. burgdorferi infection. In addition, our Sofia 2 Lyme+ assay is CE marked for use in the rapid differential detection of human IgM and IgG antibodies to Borrelia burgdorferi, Borrelia garinii, and Borrelia afzelii from serum and plasma specimens. These tests are intended for use with the Sofia 2 analyzer to aid in the diagnosis of Lyme disease in the U.S. and European markets.
S. pneumoniae. Our Sofia S. Pneumoniae FIA, used in conjunction with our Sofia analyzer, was CE Marked for sale in the European market in 2016. The assay is used to aid in the detection of both pneumococcal pneumonia and pneumococcal meningitis. Streptococcus pneumoniae is a leading cause of community-acquired pneumonia and bacterial meningitis.
Legionella. Our Sofia Legionella FIA, used in conjunction with our Sofia analyzer, is CE Marked for sale in the European market. The assay is used to aid in the detection of Legionella pneumophila serogroup 1 antigen, which is the major causative agent of Legionnaires’ disease, a disease primarily of pneumonia.
Bordetella Pertussis. Our AmpliVue and Solana Bordetella assays are used in detection of Bordetella pertussis. Pertussis, or whooping cough, is a very contagious disease caused by the Bordetella pertussis bacteria and there has been increasing incidence in recent years. Our Solana Bordetella Complete Assay is used for the qualitative detection and differentiation of Bordetella pertussis and Bordetella parapertussis nucleic acids isolated from nasopharyngeal swab specimens obtained from patients suspected of having a respiratory tract infection attributable to Bordetella pertussis and Bordetella parapertussis.
Adenovirus and Parainfluenza. Quidel offers the Lyra Adenovirus Assay, a real-time PCR test for the qualitative detection of human adenovirus (HAdV) viral DNA, and our Lyra Parainfluenza Assay, a real-time PCR test for the qualitative detection and identification of Parainfluenza virus infections for types 1, 2 or 3 viral RNA.
Cardiology
The cardiology diagnostic market includes the markets for heart failure diagnostics, coronary artery disease risk assessment, coagulation testing and acute coronary syndrome. Our 2017 acquisition of the Triage and BNP Businesses have positioned us to become a leader in this market. The Triage system consists of a portable fluorometer that interprets consumable test devices for cardiovascular conditions, as well as the detection of drugs of abuse. The Triage cardiovascular tests include the following:
Triage BNP Test. An immunoassay that measures B-type Natriuretic Peptide (BNP) in whole blood or plasma, used as an aid in the diagnosis and assessment of severity of heart failure. The test is also used for the risk stratification of patients with acute coronary syndromes and heart failure.
Triage Cardiac Panel. An immunoassay for the quantitative determination of CK-MB, myoglobin and troponin I in whole blood or plasma, as an aid in the diagnosis of AMI.
Triage Profiler S.O.B. An immunoassay for use as an aid in the diagnosis of myocardial infarction (MI), the diagnosis and assessment of severity of congestive heart failure, the assessment and evaluation of patients suspected of having disseminated intravascular coagulation and thromboembolic events, including pulmonary embolism and deep vein thrombosis, and the risk stratification of patients with acute coronary syndromes.
Triage D-Dimer Test. An immunoassay for use as an aid in the assessment and evaluation of patients suspected of having disseminated intravascular coagulation or thromboembolic events, including pulmonary embolism and deep vein thrombosis.
Triage NT-proBNP Test. A fluorescence immunoassay to be used with the Triage® MeterPro for the quantitative determination of N-terminal pro-Brain Natriuretic Peptide (NT-proBNP) in Ethylenediaminetetraacetic Acid (EDTA) anticoagulated whole blood and plasma specimens. The test is used as an aid in the diagnosis of individuals suspected of having congestive heart failure. The test is also used as an aid for the risk stratification of patients with heart failure and the risk stratification of patients with acute coronary syndromes (ACS).
Triage Troponin. Troponin I, T and C are protein subunits that make up the troponin complex, which is integral to the regulation of myofibril contraction in skeletal and cardiac muscle cells. Cardiac troponin I assays, for use with Quidel’s Triage® MeterPro instrumented system, are commonly used as aids in the diagnosis of MI, which is injury to cardiac muscle cells caused by ischemia.
TriageTrue High Sensitivity Troponin. The TriageTrue High Sensitivity Troponin I Test is our latest generation of troponin assay used for the quantitative determination of troponin I in EDTA anticoagulated whole blood and plasma specimens, anticoagulated with EDTA, and features a redesigned cartridge that greatly improves assay sensitivity and precision that are critical to the performance of high sensitivity troponin testing. The test is to be used as an aid in the diagnosis of MI for use with Quidel’s Triage MeterPro instrumented system.
Triage PLGF Test. An immunoassay for use as an aid in the early and accurate diagnosis of preterm pre-eclampsia in pregnant women.
Triage BNP Test for Beckman Analyzers. We also offer a version of our Triage BNP Test for use on Beckman Coulter lab analyzers.
Thyroid
Graves’ Disease. Our FDA cleared bioassay called Thyretain is used for the differential diagnosis of an autoimmune disease called Graves’ Disease. Graves’ Disease is caused by antibodies that stimulate the thyroid hormone receptors to create a hyperthyroid condition causing symptoms that include heart palpitations, unexplained weight loss, anxiety, depression and fatigue. Graves’ Disease is considered the most common autoimmune disorder in the U.S. according to an article published in the New England Journal of Medicine and it predominantly affects women. Thyretain is sold to reference laboratories and select acute care hospitals.
Autoimmune Thyroiditis. In 2017, we received the CE Mark for our Thyretain TBI Reporter BioAssay for the qualitative detection of blocking autoantibodies to the thyroid-stimulating hormone receptors (TSHR) in serum. The assay enables highly complex laboratories to diagnose autoimmune thyroiditis in just a few days, compared to traditional detection methods that could take months or even years.
Women’s and General Health
Pregnancy. Our Sofia hCG fluorescent immunoassay and our QuickVue pregnancy tests are used for the qualitative detection of hCG in serum or urine for the early detection of pregnancy. The early detection of pregnancy enables the physician and patient to institute proper care, helping to promote the health of both the mother and the developing embryo.
Chlamydia. Our QuickVue Chlamydia test is a lateral flow immunoassay for the rapid, qualitative detection of Chlamydia trachomatis from endocervical swab and cytology brush specimens. The test is intended for use as an aid in the presumptive diagnosis of Chlamydia. Chlamydia trachomatis is responsible for the most widespread sexually transmitted disease in the U.S. Over one-half of infected women do not have symptoms and, if left untreated, Chlamydia trachomatis can cause sterility.
Group B Streptococcus (GBS). In 2017, we obtained FDA clearance of our Solana GBS Assay, used in conjunction with our Solana instrument, for the direct, qualitative detection of Group B Streptococcus from enriched broth cultures of specimens from antepartum women. GBS is commonly carried by pregnant women and can be transmitted to newborns at delivery, resulting in potential life-threatening illness. It is recommended that all pregnant women be tested for GBS during pregnancy.
Trichomonas. In 2016, we obtained FDA clearance of our Solana Trichomonas Assay, used in conjunction with our Solana instrument, to aid in the diagnosis of trichomoniasis, a sexually transmitted disease attributable to infection from the Trichomonas vaginalis parasite. Trichomoniasis affects millions of people in the U.S., is more common in women, and can be treated with antibiotics upon diagnosis.
Bone Health. Osteoporosis is a systemic skeletal disease characterized by low bone mass and deterioration of the microarchitecture of bone tissue, with a consequent increase in bone fragility and susceptibility to fractures. The risk for fracture increases exponentially with age. A key set of parameters in the monitoring of osteoporosis, both before and after therapy, are biochemical markers of bone metabolism. As a leader in the research space with our biomarkers for bone health, we produce both clinical and research products for the assessment of osteoporosis and the evaluation of bone resorption/formation, which, including our metabolic bone markers, are used by physicians to monitor the effectiveness of therapy in pharmaceutical and related research.
Eye Health
Our InflammaDry and AdenoPlus products are rapid, lateral-flow based, POC products for the detection of infectious and inflammatory diseases and conditions of the eye. InflammaDry is a test that detects elevated levels of MMP-9, a key inflammatory marker for dry eye. AdenoPlus is a test that differentiates between a viral and bacterial infection of acute conjunctivitis (pink eye).
Gastrointestinal Diseases
Clostridium difficile. In 2017, we received FDA clearance of our Solana C. difficile Assay, used in conjunction with our Solana instrument, for the direct, qualitative detection of the Clostridium difficile DNA in unformed stool specimens of patients suspected of having Clostridium difficile-infection (CDI). In addition, we sell our Lyra Direct C. difficile Assay, a qualitative, multiplexed real-time PCR test for the detection of Clostridium difficile Toxin A or Toxin B genes approved for use on a variety of real-time PCR instruments, and our AmpliVue C. difficile Assay, which uses our HDA technology, for the detection of the Clostridium difficile Toxin A gene. Clostridium difficile can be a life-threatening bacterial infection, especially for the elderly and patients on a prolonged antibiotic regimen.
Enterovirus. Enteroviruses reproduce initially in the gastrointestinal tract before spreading to other organs such as the nervous system, heart and skin. Enteroviruses can also infect the respiratory tract. Enteroviruses such as Coxsackievirus A16 are referred to as Hand, Foot and Mouth Disease and commonly affect infants and children. Our indirect fluorescent antibody (“IFA”) products sold under the name Super E-Mix and D3 IFA Enterovirus kit are used by reference laboratories and acute care hospitals.
Immunoassay fecal occult blood. Our QuickVue fecal immunochemical test is a rapid test intended to detect the presence of blood in stool specimens. Blood in the stool is an indication of a number of gastrointestinal disorders, including colorectal cancer.
Helicobacter pylori (“H. pylori”). H. pylori is the bacterium associated with patients diagnosed with peptic ulcers. H. pylori is implicated in chronic gastritis and is recognized by the World Health Organization as a Class 1 carcinogen that may
increase a person’s risk of developing stomach cancer. Our QuickVue rapid test is a serological test that measures antibodies circulating in the blood caused by the immune response to the H. pylori bacterium.
Toxicology
The toxicology testing market includes testing for substance use, misuse and abuse, including testing in connection with pain management and opioid cessation therapy. The ability to rapidly identify the impact of drug use on a patient’s clinical presentation as well as securely monitor a patient’s therapy compliance is critical to the substance abuse testing market. Our Triage TOX Drug Screen provides qualitative results for the determination of the presence of drug and/or the major metabolites in urine including assays for acetaminophen/paracetamol, amphetamines, methamphetamines, barbiturates, benzodiazepines, cocaine, methadone, opiates, phencyclidine, THC and tricyclic antidepressants. In addition, in 2019, we launched our new Triage TOX Drug Screen, which uses distinct immunoassays for the simultaneous detection of drug and/or the urinary metabolites for multiple drug classes.
Seasonality
Sales of our influenza products are subject to, and significantly affected by, the seasonal demands of the cold and flu seasons, prevalent during the fall and winter. As a result of these seasonal demands, we typically experience lower sales volume in the second and third quarters of the calendar year, and typically have higher sales in the first and fourth quarters of the calendar year. Historically, sales of our influenza products have varied from year to year based in large part on the severity, length and timing of the onset of the cold and flu season. For the years ended December 31, 2019, 2018 and 2017, sales of our influenza products accounted for 26%, 24% and 39%, respectively, of total revenue. This percentage decreased in 2018 in part as a result of the late 2017 acquisition of the Triage and BNP Businesses.
Research and Development
We continue to focus our research and development efforts on three areas:
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new proprietary product platform development,
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the creation of improved products and new products for existing markets and unmet clinical needs, and
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pursuit of collaborations with, or acquisitions of, other companies for new and existing products and markets that advance our differentiated strategy.
Research and development expenses were approximately $52.6 million, $51.6 million, and $33.6 million for the years ended December 31, 2019, 2018 and 2017, respectively. We anticipate that we will continue to devote a significant amount of financial resources to product and technology research and development in the foreseeable future.
Marketing and Distribution
Our business strategy is designed around serving the continuum of healthcare delivery needs globally, starting with POC clinicians located in doctor’s office practices, to moderately complex POLs, through the highly complex environment in hospital and clinical reference laboratories in North America and a variety of settings internationally.
Within the inherent operational diversity of these various segments, we focus on ensuring market leadership and providing points of differentiation by specializing in the diagnosis and monitoring of selected disease states and conditions. Our marketing strategy includes ensuring that our key product portfolios are supported by clinical validation and health economic and outcomes research that demonstrates to hospitals, laboratories, acute care facilities and POC clinicians that these tests deliver fast, high quality results, are cost-effective to use, and improve patient outcomes.
Our North America distribution strategy takes into account the fact that the POC market is highly fragmented, with many small or medium-sized customers. A network of national and regional distributors is employed, as well as our own sales force, to reach customers using POC diagnostic tests.
We have expanded the size of our North America sales force in the past few years. As of December 31, 2019, we employed approximately 100 sales representatives in North America. This sales force works closely with our key distributors to drive market penetration of our products in the POC market.
The sales, distribution and service of our cell culture tests are controlled primarily by us. Laboratory end-users in hospitals and clinical reference laboratories using these diagnostic tests are reached through our own direct sales force and technical support services that have specialized training and understanding of the product portfolio.
We sell products globally and market and distribute products in a variety of ways, including a mix of direct and distribution strategies worldwide. In Europe, we currently employ more than 70 employees to support sales and marketing activities in key countries, such as Germany and Italy. In addition, we have created a shared service center in Galway, Ireland to support general and administrative, technical support and customer service functions in Europe. In Asia, we currently employ approximately 50 employees in China and approximately 20 employees in India, primarily to support sales and marketing efforts for the Triage and BNP Businesses and to grow our core immunoassay and cell culture businesses. In addition, we have created a shared service center in Shanghai, China to support general and administrative and technical support and customer service functions in China.
We derive a significant portion of our total revenue from a few distributors. Three of our distributors, which are considered to be among the market leaders, collectively accounted for approximately 46%, 44% and 54% of our total revenue for the years ended December 31, 2019, 2018 and 2017, respectively. See Note 9 in the Consolidated Financial Statements included in this Annual Report.
Manufacturing
We have three primary manufacturing sites. Two are in San Diego, California and one is located in Athens, Ohio.
Our McKellar Court Lateral Flow manufacturing facility is located in San Diego, and consists of laboratories devoted to tissue culture, cell culture, protein purification and immunochemistry. Production areas are dedicated to manufacturing and assembly. In the manufacturing process, biological and chemical supplies and equipment are used. We have invested in a high degree of automated inspection, assembly and testing. Since 2000, this facility has operated under a Quality Management System certified to International Organization for Standardization (“ISO”) standard. The facility is certified to ISO 13485:2016 and Medical Device Single Audit Program (“MDSAP”). Many of the immunoassay products manufactured in this San Diego facility are packaged and shipped by a local third party.
Our Athens facility consists of a variety of laboratories, cleans room and customized filling and packaging areas to support manufacturing of all products under Good Manufacturing Practice (GMP) conditions. These areas support the manufacturing of our molecular nucleic acid amplification products, our living tissue culture and antibody- based products, as well as our enzyme linked immunosorbent assays. We use a wide variety of biological and chemical supplies in our manufacturing processes. We also utilize specialized equipment for the lyophilization of reagents, cell culture growth, protein purification and a variety of automation for dispensing of antibodies, reagents and solutions. The facility is certified to ISO 13485:2016 and MDSAP. Packaging and shipping logistics are handled at the facility.
Our Summers Ridge, San Diego facility consists of laboratories that are involved in mammalian cell culture, bacterial fermentation, protein purification and modification, as well as other techniques involved in immunoassay reagent manufacturing. These reagents are used in the manufacture of devices made at the site and are also supplied to a third party as key active ingredients for our BNP product that is run on the Beckman Coulter Immunoassay Systems. In addition, this site has production areas dedicated to creating and processing plastic components that are subsequently transformed into finished devices (Cardiac and Drugs of Abuse products) using customized manufacturing equipment, including specialized automation. This facility is certified to EN ISO 13485:2016 (MDSAP certification pending) medical device standards. Most of the products are packaged and subsequently distributed out of the facility.
We seek to conduct our manufacturing in compliance with regulations that comply to U.S., Australia, Brazil, Canada, Japan, Europe, South Korea and other countries Quality Management System (“QSR”) requirements. Our manufacturing facilities have passed routine regulatory inspections confirming compliance with the QSR regulatory requirements. Our facilities are registered with various regulatory bodies including the FDA and the Department of Health Services of the State of California for our San Diego facilities.
Government Regulation
Regulation in the United States
The testing, manufacture and commercialization of our products are subject to regulation by numerous governmental authorities, principally the FDA and corresponding state and foreign regulatory agencies. Pursuant to the U.S. Federal Food, Drug, and Cosmetic Act and the regulations promulgated thereunder, the FDA regulates the preclinical and clinical testing, manufacture, labeling, distribution and promotion of medical devices. Noncompliance with applicable requirements can result in, among other matters, fines, injunctions, civil penalties, recall or seizure of products, total or partial suspension of production, failure of the FDA to grant premarket clearance or premarket approval for devices, withdrawal of marketing
clearances or approvals and criminal prosecution. The FDA also has the authority to request a recall, repair, replacement or refund of the cost of any device manufactured or distributed in the U.S. if the device is deemed to be unsafe.
In the U.S., devices are classified into one of three classes (Class I, II or III) on the basis of the controls deemed necessary by the FDA to reasonably ensure their safety and effectiveness. Class I and II devices are subject to general controls including, but not limited to, performance standards, premarket notification (“510(k)”) and post market surveillance. Class III devices generally pose the highest risk to the patient and are typically subject to premarket approval to ensure their safety and effectiveness. Our current products are all Class I or II.
Prior to commercialization in the U.S. market, manufacturers of diagnostic assays like our products must obtain FDA clearance through a premarket notification or premarket approval process, which can be lengthy, expensive and uncertain. The FDA has been requiring more rigorous demonstration of product performance as part of the 510(k) process, including submission of extensive clinical data. It generally takes from three months to one year to obtain clearance but may take longer. A premarket approval application must be supported by valid scientific evidence to demonstrate the safety and effectiveness of the device, typically including the results of clinical investigations, bench tests and reference laboratory studies. In addition, modifications or enhancements for existing products that could significantly affect safety, effectiveness or constitute a major change in the intended use of the device, will require new submissions to the FDA.
CLIA regulates laboratory testing and require clinical laboratories to be certified by their state as well as the Center for Medicare and Medicaid Services (CMS) before diagnostic testing can be conducted. Labs using our assays must obtain a CLIA certificate. Waived testing is designated by CLIA as simple testing that carries a low risk for an incorrect result. The CLIA waived designation is critical for most of our products that are intended for POC settings. The FDA’s current guidance entitled “Guidance for Industry and FDA Staff: Recommendations for Clinical Laboratory Improvement Amendments of 1988 CLIA Waiver Applications for Manufacturers of In Vitro Diagnostic Devices” sets forth requirements for obtaining a CLIA waiver that are onerous and have increased the time and cost required to obtain a CLIA waiver.
Any devices we manufacture or distribute pursuant to FDA clearance or approvals are subject to continuing regulation by the FDA and certain state agencies, including adherence to QSR relating to testing, control, documentation and other quality assurance requirements. We must also comply with Medical Device Reporting requirements mandating reporting to the FDA of any incident in which a device may have caused or contributed to a death or serious injury, or in which a device malfunctioned and, if the malfunction were to recur, would be likely to cause or contribute to a death or serious injury. Labeling and promotional activities are also subject to scrutiny by the FDA and, in certain circumstances, by the Federal Trade Commission. Current FDA enforcement policy prohibits the marketing of approved medical devices for unapproved uses.
Regulation Outside of the United States
For marketing outside the U.S., we are subject to foreign regulatory requirements governing human clinical testing and marketing approval for our products. These requirements vary by jurisdiction, differ from those in the U.S., and may require us to perform additional or different preclinical or clinical testing regardless of whether we have obtained FDA clearance or approval. The amount of time required to obtain necessary approvals may be longer or shorter than that required for FDA clearance or approval. In many foreign countries, pricing and reimbursement approvals are also required.
Our initial focus for obtaining marketing approval outside the U.S. is typically the European Union (the “EU”), Japan, China, Brazil, Australia and Canada. EU regulations and directives generally classify healthcare products either as medicinal products, medical devices or in vitro diagnostics. The CE Mark certification for the EU requires us to receive certification for the manufacture of our products from ISO. This certification comes only after the development of an all-inclusive quality system, which is reviewed for compliance with ISO standards by a notified body accredited by an EU member state. After certification is received, a technical file is developed which attests to the product’s compliance to Regulation Directive 98/79/EC for in vitro diagnostic medical devices. Only after this point is the product CE marked.
Chinese regulations require registration of diagnostic products with China’s National Medical Products Administration (NMPA, formerly CFDA). Additional clinical trials in China are typically required for registration purposes. ISO certification is included in applications for registration to NMPA. Japanese regulations require registration of in vitro diagnostic products with the Japanese Ministry of Health, Labor and Welfare. For products marketed in Canada, registration is required with Health Canada. For products marketed in Australia, registration is required with the Therapeutic Goods Administration. In vitro diagnostics in Brazil are regulated by the Agencia Nacional de Vigilancia Sanitaria (ANVISA). For our products marketed in Canada, Japan, Brazil, Australia and the United States, the MDSAP is a single regulatory audit of our quality management system that satisfies the requirements of all five of these jurisdictions.
Intellectual Property
The healthcare industry has traditionally placed considerable importance on obtaining and maintaining patent and trade secret protection for commercially relevant technologies, devices, products and processes. We and other companies engaged in research and development of new diagnostic products actively pursue patents for technologies that are considered novel and patentable. However, important factors, many of which are not within our control, can affect whether and to what extent patent protection in the U.S. and in other important markets worldwide is obtained. By way of example, the speed, accuracy and consistency in application of the law in a patent office within any particular jurisdiction is beyond our control and can be unpredictable. The resolution of issues such as these and their effect upon our long-term success is likewise indeterminable. We have issued patents, both in the U.S. and internationally, with expiration dates ranging from the present through approximately 2037 and have patent applications pending throughout the world.
It has been our policy to file for patent protection in the U.S. and other countries with significant markets, such as Western European countries and Japan, if the economics are deemed to justify such filing and our patent counsel advises that relevant patent protection may be obtained.
A large number of individuals and commercial enterprises seek patent protection for technologies, products and processes in fields in, or related to, our areas of product development. To the extent such efforts are successful, we may be required to obtain licenses and pay significant royalties in order to exploit certain of our product strategies. Licenses may not be available to us at all or, if so available, may not be available on acceptable terms.
We are aware of certain patents issued to various developers of diagnostic products with potential applicability to our diagnostic technology. We have licensed certain rights from certain companies to assist with the manufacturing of certain products. In the future, we expect that we will require or desire additional licenses from other parties in order to refine our products further and to allow us to develop, manufacture and market commercially viable or superior products effectively.
We seek to protect our trade secrets and technology by entering into confidentiality agreements with employees and third parties (such as potential licensees, customers, strategic partners and consultants). In addition, we have implemented certain security measures in our laboratories and offices. Also, to the extent that consultants or contracting parties apply technical or scientific information independently developed by them to our projects, disputes may arise as to the proprietary rights to such data.
Under many of our contractual agreements, we have agreed to indemnify the counterparty against costs and liabilities arising out of any patent infringement claims and other intellectual property claims asserted by a third party relating to products sold under those agreements.
Competition
Competition in the development and marketing of IVD products is intense, and innovation, product development, regulatory clearance to market and commercial introduction of new IVD technologies can occur rapidly. We believe that some of the most significant competitive factors in the rapid diagnostic market include convenience, speed to result, specimen flexibility, product menu, clinical needs, price, reimbursement levels and product performance as well as effective distribution, advertising, promotion and brand name recognition. The competitive factors in the central laboratory market are also significant and include price, product performance, reimbursement, compatibility with routine specimen procurement methods, and manufacturing products in testing formats that meet the workflow demands of larger volume laboratories. We believe our success will depend on our ability to remain abreast of technological advances, to develop, gain regulatory clearance and introduce technologically advanced products, to effectively market to customers a differentiated value proposition represented by our commercialized products, to maintain our brand strength and to attract and retain experienced personnel. The majority of diagnostic tests requested by physicians and other healthcare providers are performed by independent clinical reference laboratories. We expect that these laboratories will continue to compete vigorously to maintain their dominance of the testing market. In order to achieve market acceptance for our products, we will be required to continue to demonstrate that our products provide physicians and central laboratories cost-effective and time-saving alternatives to other competitive products and technologies.
Many of our current and prospective commercial competitors, including several large pharmaceutical and diversified healthcare companies, have substantially greater financial, marketing and other resources than we have. These competitors include, among others, Abbott Laboratories, Beckman Coulter Primary Care Diagnostics, Thermo Fisher Scientific, Becton Dickinson and Company, Meridian Bioscience, Inc., and Danaher Corporation. We also face competition from our distributors since some have created, and others may decide to create, their own products to compete with ours. Competition may also exist
with large, medium and small development companies whose portfolio and technologies are dedicated to the development of diagnostic solutions in areas in which we currently have relevant market share.
Human Resources
As of December 31, 2019, we had approximately 1,250 employees, none of whom are represented by a labor union. We have experienced no work stoppages and believe that our employee relations are good.
Information about our Executive Officers
The names, ages and positions of all executive officers are listed below, followed by a brief account of their business experience. There are no family relationships among these officers, nor any arrangements or understandings between any officer and any other person pursuant to which an officer was selected.
Douglas C. Bryant, 62, was named President, Chief Executive Officer and a member of the Board of Directors in 2009. Prior to joining us, Mr. Bryant served as Executive Vice President and Chief Operating Officer at Luminex Corporation, managing its Bioscience Group, Luminex Molecular Diagnostics (Toronto), manufacturing, R&D, technical operations, and commercial operations. From 1983 to 2007, Mr. Bryant held various worldwide commercial operations positions with Abbott Laboratories including, among others: Vice President of Abbott Vascular for Asia/Japan, Vice President of Abbott Molecular Global Commercial Operations and Vice President of Abbott Diagnostics Global Commercial Operations. Earlier in his career with Abbott, Mr. Bryant was Vice President of Diagnostic Operations in Europe, the Middle East and Africa, and Vice President of Diagnostic Operations Asia Pacific. Mr. Bryant has over 30 years of industry experience in sales and marketing, product development, manufacturing and service and support in both the diagnostics and life sciences markets. Mr. Bryant holds a B.A. in Economics from the University of California at Davis.
Randall J. Steward, 65, became our Chief Financial Officer in October 2011. Prior to joining us, Mr. Steward served as the Chief Financial Officer for Navilyst Medical, Inc., a medical device company based in Massachusetts. From 2008 to January 2011, Mr. Steward served as Chief Operating Officer for SeQual Technologies, Inc., a San Diego-based medical device company, where he was responsible for all aspects of engineering, manufacturing, finance, and information systems. Prior to SeQual Technologies, Mr. Steward spent 11 years with Spectrum Brands as Executive Vice President and Chief Financial Officer. Mr. Steward holds a B.B.A. in Accounting from Southern Methodist University. He is also a Certified Public Accountant and a member of the American Institute of Certified Public Accountants.
Michael D. Abney, Jr., 56, became our Senior Vice President, Distribution in January 2015. Prior to joining us, he served as Vice President, Channel and Distribution for ConvaTec from 2013 to 2014 and held a number of positions at PSS World Medical, Inc. from 1989 to 2013, including most recently as Vice President, Supplier Management. Mr. Abney received his B.A. degree in Finance from the University of Florida in 1989.
Ratan S. Borkar, 46, became our Senior Vice President, International Commercial Operations in October 2017. He joined Quidel in May 2009 as Vice President, Business Development. In February 2012, Mr. Borkar moved into the role of VP, International Commercial Operations. Prior to Quidel, Mr. Borkar had a career in Investment Banking, where he most recently worked at J.P. Morgan as Vice President in the Healthcare Investment Banking Group, advising companies in the diagnostics, life sciences and clinical research areas. Mr. Borkar started his career at KPMG and is a Chartered Accountant. Mr. Borkar has an MBA from the University of Michigan’s Ross School of Business, where he was an Alan Gelband Scholar. Mr. Borkar received his Bachelor of Commerce from the University of Mumbai.
Robert J. Bujarski, J.D., 51, became our Senior Vice President, North America Commercial Operations in July 2019. Mr. Bujarski also continues to serve as our General Counsel and recently served as our Senior Vice President, Business Development from August 2009 through July 2019 and as Corporate Secretary until February 2019. Mr. Bujarski also previously served as our Senior Vice President, General Counsel and Corporate Secretary through August 2009 and joined Quidel in 2005 as our General Counsel and Vice President. Mr. Bujarski was an associate attorney with the law firm of Gibson, Dunn & Crutcher LLP in its transactions practice group from October 2001 to July 2005. Mr. Bujarski received his B.A. degree in 1991 and his law degree in 2001 from the University of Arizona.
Karen C. Gibson, 58, became our Senior Vice President, Information Systems and Business Transformation in February 2019. She joined Quidel in April 2015 as Vice President, Information Systems and in 2017 took on additional responsibilities as the Integration Lead for the integration of the Triage and BNP Businesses. Prior to Quidel, Ms. Gibson was an independent executive consultant for approximately three years and previously held a variety of senior positions within the life sciences industry. She held the role of Senior Vice President and Chief Information Officer for McKesson’s Specialty Health division. She also served as Senior Vice President and Chief Information Officer for Life Technologies, and as Vice President and Chief Information Officer for General Electric’s Healthcare IT business unit. Ms. Gibson has an MBA from Ohio University, and B.S. in Computer Technology from Purdue University.
Werner Kroll, Ph.D., 63, became our Senior Vice President, R&D in May 2014. Prior to joining us, Dr. Kroll was Vice President and Global Head Research and Innovation for Novartis Molecular since 2009. Prior to holding that position, he held a variety of senior positions from 2005 to 2009 at Novartis. Dr. Kroll has also held senior positions at Bayer from 1991 to 2005. Dr. Kroll received his Ph.D. and a Diploma in Chemistry from the University of Marburg.
Edward K. Russell, 52, became our Senior Vice President, Business Development in July 2019. Mr. Russell joined the Company in October 2015 as Senior Vice President, Global Commercial Operations and subsequently became our Senior Vice
President, North America Commercial Operations. Prior to joining the Company, Mr. Russell was employed by Thermo Fisher Scientific, a life sciences company based in Massachusetts, and its predecessor company Life Technologies for ten years. Mr. Russell served in various leadership roles from 2005 through 2015, including North America Commercial Leader of the BioSciences Division, General Manager of Life Technologies’ Global Services & Support Division, and President of Life Technologies Japan. Prior to joining Life Technologies in 2005, Mr. Russell held various leadership positions at FedEx Kinko’s, ExxonMobil and Toyota/Lexus. Mr. Russell started his career as an officer in the U.S. Coast Guard. Mr. Russell holds a B.S. in Civil Engineering from the U.S. Coast Guard Academy and an MBA from The Wharton School, University of Pennsylvania.
Item 1A.
Item 1A. Risk Factors
Risks Related to Our Business
Our operating results may fluctuate adversely as a result of many factors that are outside our control, which may negatively impact our stock price.
Fluctuations in customer demand for any reason could cause our growth or operating results to fall below the expectations of investors and securities analysts.
We base the scope of our operations and related expenses on our estimates of future revenues. A significant portion of our operating expenses are fixed, and we may not be able to rapidly adjust our expenses if our revenues fall short of our expectations. Our revenue estimates for future periods are based, among other factors, on estimated end-user demand for our products. If end-user consumption is less than estimated, revenues from our distribution partners and other distribution channels would be expected to fall short of expectations, and because such a significant portion of our costs are fixed, could result in operating losses.
Factors that are beyond our control and that could affect our operating results in the future include:
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timing of the onset, length and severity of the cold and flu seasons;
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seasonal fluctuations in our sales of influenza disease tests, which are generally highest in fall and winter, thus resulting in generally lower operating results in the second and third calendar quarters and higher operating results in the first and fourth calendar quarters;
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government and media attention focused on influenza and the related potential impact on humans from novel influenza viruses, such as H1N1 and avian flu;
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changes in the level of competition, such as would occur if one of our competitors introduced a new, better performing or lower priced product to compete with one or more of our products;
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changes in the reimbursement systems or reimbursement amounts that end-users may rely upon in choosing to use our products;
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changes in economic conditions in our domestic and international markets, such as economic downturns, decreased healthcare spending, reduced consumer demand, inflation and currency fluctuations and changes in government laws and regulations affecting our business;
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lower than anticipated market penetration of our new or more recently introduced products;
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significant quantities of our products or those of our competitors in our distributors’ inventories or distribution channels;
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changes in distributor buying patterns; and
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changes in the healthcare market, including consolidation in our customer base.
To remain competitive, we must continue to develop, obtain and protect our proprietary technology rights; otherwise, we may lose market share or need to reduce prices as a result of competitors selling lower priced or technologically superior products that compete with our products.
Our ability to compete successfully in the diagnostic market depends on continued development and introduction of new proprietary technology and the improvement of existing technology. If we cannot continue to improve upon or develop, obtain and protect proprietary technology, we may lose market share or need to reduce prices as a result of competitors selling lower priced or technologically superior products that compete with our products, and our operating results could be adversely affected.
Our competitive position is heavily dependent on obtaining and protecting our own proprietary technology or obtaining licenses from others. Our ability to obtain patents and licenses, and their benefits, is uncertain.
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We have issued patents both in the U.S. and internationally, with expiration dates ranging from the present through approximately 2036. In addition to our patents in the U.S., we have patents issued in various other countries including, among others, Australia, Canada, Japan, various European countries, including France, Germany, Italy, Spain and the United Kingdom, and South Africa. Additionally, we have patent applications pending in the U.S. and various foreign jurisdictions. These pending patent applications may not result in the issuance of any patents, or if issued, may not have priority over others’ applications or may not offer meaningful protection against competitors with similar technology or may not otherwise provide commercial value. Moreover, any patents
issued to us may be challenged, invalidated, found unenforceable or circumvented in the future. Third parties can make, use and sell products covered by our patents in any country in which we do not have patent protection.
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We also license the right to use our products to our customers under label licenses that are for research purposes only. These licenses could be contested and, because we cannot monitor all potential unauthorized uses of our proprietary technology around the world, we might not be aware of an unauthorized use or might not be able to enforce the license restrictions in a cost-effective manner.
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Our current and future licenses may not be adequate for the operation of our business. In the future, we expect that we will require or desire additional licenses from other parties in order to refine our products further and to allow us to develop, manufacture and market commercially viable or superior products. We may not be able to obtain licenses for technology patented by others and required to produce our products on commercially reasonable terms, if at all.
To protect or enforce our patent rights, it may be necessary for us to initiate patent litigation proceedings against third parties, such as infringement suits or interference proceedings. These lawsuits would be expensive, take significant time and could divert management’s attention from other business concerns. In the event that we seek to enforce any of our patents against an infringing party, it is likely that the party defending the claim will seek to invalidate the patents we assert, which could put our patents at risk of being invalidated, held unenforceable, or interpreted narrowly, and our patent applications at risk of not being issued. Further, these lawsuits may provoke the defendants to assert claims against us. If we pursue any such claim, there will be no assurance that will prevail in any of such suits or proceedings or that the damages or other remedies awarded to us, if any, will be economically valuable.
In addition to our patents, we rely on confidentiality agreements and other similar arrangements with our employees and other persons who have access to our proprietary and confidential information, together with trade secrets and other common law rights, to protect our proprietary and confidential technology. These agreements and laws may not provide meaningful protection for our proprietary technology in the event of unauthorized use or disclosure of such information or in the event that our competitors independently develop technologies that are substantially equivalent or superior to ours. Moreover, the laws of some foreign jurisdictions may not protect intellectual property rights to the same extent as those in the U.S. In the event of unauthorized use or disclosure of such information, if we encounter difficulties or are otherwise unable to effectively protect our intellectual property rights domestically or in foreign jurisdictions, our business, operating results and financial condition could be materially and adversely affected.
In order to remain competitive and profitable, we must expend considerable resources to research new technologies and products and develop new markets, and there is no assurance our efforts to develop new technologies, products or markets will be successful or such technologies, products or markets will be commercially viable.
We devote a significant amount of financial and other resources to researching and developing new technologies, new products and new markets. The development, manufacture and sale of diagnostic products and new technologies require a significant investment of resources. The development of new markets also requires a substantial investment of resources, such as new employees, offices and manufacturing facilities. No assurances can be given that our efforts to develop new technologies or products will be successful, that such technologies and products will be commercially viable, or our expansion into new markets will be profitable.
We expect to incur significant operating expenses as a result of continued investment in sales and marketing activities, manufacturing scale-up and new product development associated with our efforts to accomplish our business strategies discussed in “Business - Business Strategy” in Part I of this Annual Report. No assurance can be given that we will be successful in implementing our operational, growth and other strategic efforts. In addition, the funds for our strategic development projects have in the past come primarily from our business operations, borrowings under available lines of credit and the sale of equity and debt securities. If our business slows and we become less profitable, and as a result we have less resources available to fund research and development, we may have to reduce or eliminate programs. Similarly, if adequate financial, personnel, equipment or other resources are not available, we may be required to delay or scale back our strategic efforts.
Our operations will be adversely affected if our operating results do not correspondingly increase with our increased expenditures or if our technology, product and market development efforts are unsuccessful or delayed. Furthermore, our failure to successfully introduce new technologies or products and develop new markets could have a material adverse effect on our business and prospects.
Our operating results are heavily dependent on sales of our influenza diagnostic tests and if sales or revenues of our influenza tests decline for any reason, our operating results would be materially and adversely affected on a disproportionate basis.
Although we continue to diversify our products, a significant percentage of our total revenues still continue to come from a limited number of our product families. In particular, revenues from the sale of our influenza tests represent a significant portion of our total revenues and are expected to remain so for at least the near future. In addition, the gross margins derived from sales of our influenza tests are significantly higher than the gross margins from many of our other core products. As a result, if sales or revenues of our influenza tests decline for any reason whether as a result of a mild flu season, market share loss or price pressure, obsolescence, regulatory matters or any other reason our operating results would be materially and adversely affected on a disproportionate basis. For the years ended December 31, 2019, 2018 and 2017, sales of our influenza products accounted for 26%, 24%, and 39% respectively, of total revenue.
We rely on a limited number of key distributors that account for a significant portion of our total revenue. The loss of any key distributor or an unsuccessful effort by us to directly distribute our products could lead to reduced sales.
Although we have many distributor relationships in the U.S., the market is dominated by a small number of these distributors. Three of our distributors, which are considered to be among the market leaders, collectively accounted (each individually in excess of 10%) for approximately 46%, 44%, and 54% of our total revenue for the years ended December 31, 2019, 2018 and 2017, respectively. In addition, we rely on a few key distributors for a majority of our international sales and expect to continue to do so for the foreseeable future. The loss or termination of our relationship with any of these key distributors could significantly disrupt our business unless suitable alternatives are timely found or lost sales to a distributor are absorbed by another distributor. Finding a suitable alternative to a lost or terminated distributor may pose challenges in our industry’s competitive environment, and another suitable distributor may not be found on satisfactory terms, if at all. For instance, some distributors already have exclusive arrangements with our competitors, and others do not have the same level of penetration into our target markets as our existing distributors. If total revenue from these or any of our other significant distributors were to decrease in any material amount in the future or we are not successful in timely transitioning business from a lost or terminated distributor to one or more new distributors, our business, operating results and financial condition could be materially and adversely affected.
We are subject to, and may in the future become subject to, claims and litigation that could result in significant expenses and could ultimately result in an unfavorable outcome for us.
From time to time, we are involved in litigation and other proceedings, including matters related to product liability claims, commercial disputes and intellectual property claims, as well as regulatory, employment, and other claims related to our business. Litigation related to our company, our business, and our operations or financial performance may also involve customers, competitors, suppliers, patients, shareholders, governmental authorities or other third parties. Litigation can be lengthy, expensive and disruptive to our operations, and results cannot be predicted with certainty. An adverse decision could result in significant settlement amounts, monetary damages, fines or injunctive relief that could affect our financial condition or results of operations. Even if lawsuits do not result in an unfavorable outcome, the costs of defending or prosecuting such lawsuits may be material to our business and our operations. Moreover, these lawsuits may divert management’s attention from the operation of our business, which could adversely affect our business and results of operations.
For example, as further described in Note 8 to the Consolidated Financial Statements contained in Part II, Item 8 of this Annual Report, Beckman Coulter, Inc. (“Beckman”) filed a lawsuit against us in November 2017. The lawsuit relates to a contractual arrangement with Beckman we acquired in October 2017 as part of the BNP Business for the supply of antibodies and other inputs related to, and distribution of, the Triage® BNP Test for the Beckman Coulter Access Family of Immunoassay Systems. The outcome of such lawsuit may affect the value of the assets and liabilities we acquired and expose us to monetary liability. While we believe that the claims in the lawsuit are without merit, we can provide no assurance that we will be successful in defending the claims. If this lawsuit, or any other lawsuit filed against us, is resolved against us, we may be liable for significant damages and restraints on our business, which could adversely affect our results of operations and financial condition.
Moreover, the deferred consideration we are required to pay Alere for the BNP Business will be payable even if BNP sales are significantly reduced, or even terminate, including because of a determination that provisions of the contractual arrangement with Beckman are unenforceable, in which case such payment obligations may significantly exceed the income we generate from the BNP Business. In addition, if the contractual arrangement with Beckman is determined to be unenforceable, it could result in a reduction or impairment of all or a part of the value of the goodwill and intangible assets we recorded in connection with our acquisition of the BNP Business.
Intellectual property risks and third-party claims of infringement, misappropriation of proprietary rights or other claims against us could adversely affect our ability to market our products, require us to redesign our products or attempt to seek licenses from third parties, and materially adversely affect our operating results. In addition, the defense of such claims could result in significant costs and divert the attention of our management and other key employees.
Companies in or related to our industry often aggressively protect and pursue their intellectual property rights. In developing and producing new products and entering new markets, we may not be able to obtain, at reasonable cost or upon commercially reasonable terms, if at all, licenses to intellectual property of others that is alleged to be part of such new or existing products. From time to time, we have received, and may continue to receive, notices that claim we have infringed upon, misappropriated or misused other parties’ proprietary rights. Moreover, we are and have been subject to litigation with parties that claim, among other matters, that we infringed their patents or other intellectual property rights.
We have hired and will continue to hire individuals or contractors who have experience in medical diagnostics and these individuals or contractors may have confidential trade secret or proprietary information of third parties. We cannot assure you that these individuals or contractors will not use this third-party information in connection with performing services for us or otherwise reveal this third-party information to us. Thus, we could be sued for misappropriation of proprietary information and trade secrets. Such claims are expensive to defend and could divert our attention and result in substantial damage awards and injunctions that could have a material adverse effect on our business, financial condition or results of operations. In addition, to the extent that individuals or contractors apply technical or scientific information independently developed by them to our projects, disputes may arise as to the proprietary rights to such data and may result in litigation.
The defense and prosecution of patent and trade secret claims are both costly and time consuming. We or our customers may be sued by other parties that claim that our products have infringed their patents or misappropriated their proprietary rights or that may seek to invalidate one or more of our patents. An adverse determination in any of these types of disputes could prevent us from manufacturing or selling some of our products, limit or restrict the type of work that employees involved with such products may perform for us, increase our costs and expose us to significant liability.
As a general matter, our involvement in litigation or in any claims to determine proprietary rights, as may arise from time to time, could materially and adversely affect our business, financial condition and results of operations for reasons such as:
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it may of itself cause our distributors or end-users to reduce or terminate purchases of our products;
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it may consume a substantial portion of our managerial and financial resources;
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the outcome of such litigation would be uncertain and a court may find any third-party patent claims valid and infringed by our products (issuing a preliminary or permanent injunction) that would require us to procure costly licensing arrangements from third parties or withdraw or recall such products from the market, redesign such products offered for sale or under development or restrict employees from performing work in their areas of expertise;
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governmental agencies may commence investigations or criminal proceedings against our employees, former employees and us relating to claims of misappropriation or misuse of another party’s proprietary rights;
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an adverse outcome could subject us to significant liability in the form of past royalty payments, penalties, special and punitive damages, the opposing party’s attorneys’ fees, and future royalty payments significantly affecting our future earnings; and
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failure to obtain a necessary license (upon commercially reasonable terms, if at all) upon an adverse outcome could prevent us from selling our current products or other products we may develop.
Even if licenses to intellectual property rights are available, they can be costly. We have entered into various licensing agreements, which largely require payments based on specified product sales and/or the achievement of specific milestones. Royalty and license expenses under these arrangements collectively totaled $1.1 million, $0.4 million and $0.6 million for the years ended December 31, 2019, 2018 and 2017, respectively.
In addition to the foregoing, we may also be required to indemnify certain customers, distributors and strategic partners under our agreements with such parties if a third party alleges or if a court finds that our products or activities have infringed upon, misappropriated or misused another person’s proprietary rights. Further, our products may contain technology provided to us by other parties such as contractors, suppliers or customers. We may have little or no ability to determine in advance whether such technology infringes the intellectual property rights of a third party. Our contractors, suppliers and licensors may not be required or financially able to indemnify us in the event that a claim of infringement is asserted against us, or they may be required to indemnify us only up to a maximum amount, above which we would be responsible for any further costs or damages.
We may need to raise additional funds to finance our future capital or operating needs, which could have adverse consequences on our operations and the interests of our stockholders.
Seasonal fluctuations in our operating results could limit the cash we have available for research and development and other operating needs. As a result, we may need to seek to raise funds through the issuance of public or private debt or the sale of equity to achieve our business strategy. In addition, we may need debt or equity financing to complete acquisitions. If we raise funds or acquire other technologies or businesses through issuance of equity, this could dilute the interests of our stockholders. Moreover, the availability of additional capital, whether debt or equity from private capital sources (including banks) or the public capital markets, fluctuates as our financial condition and industry or market conditions in general change. There may be times when the private capital markets and the public debt or equity markets lack sufficient liquidity or when our securities cannot be sold at attractive prices, in which case we would not be able to access capital from these sources on favorable terms, if at all. We can give no assurance as to the terms or availability of additional capital.
Our results of operations and financial condition may be adversely affected by the financial soundness of our customers and suppliers.
If our customers’ or suppliers’ operating and financial performance deteriorates, our customers may not be able to pay, or may delay payment of, accounts receivable owed to us, and our suppliers may restrict credit to us or impose different payment terms or reduce or terminate production of products they supply to us. Any inability of customers to pay us for our products and services, or any demands by suppliers for different payment terms, may adversely affect our operating results and financial condition. Additionally, both state and federal government sponsored and private payers, as a result of budget deficits or reductions, may seek to reduce their healthcare expenditures by renegotiating their contracts with us. Any reduction in payments by such government sponsored or private payers may adversely affect our earnings and cash flow.
We may not achieve market acceptance of our products among healthcare providers and physicians, and this would have a negative effect on future sales.
A large part of our business is based on the sale of rapid POC diagnostic tests. Our future sales depend on, among other matters, capture of sales from central laboratories by achieving market acceptance of POC testing from physicians and other healthcare providers. If we do not capture sales at the levels anticipated in our budget, our total revenue will not be at the levels that we expect and the costs we incur or have incurred will be disproportionate to our sales levels. We expect that clinical reference and hospital-based laboratories will continue to compete vigorously against our POC diagnostic products in order to maintain and expand their existing dominance of the overall diagnostic testing market. Moreover, even if we can demonstrate that our products are more cost-effective, save time, or have better performance, physicians and other healthcare providers may resist changing to POC tests. Our failure to achieve market acceptance from physicians and healthcare providers with respect to the use of our POC diagnostic products would have a negative effect on our future sales.
The industry and market segment in which we operate are highly competitive, and intense competition with other providers of diagnostic products may reduce our sales and margins.
Our diagnostic tests compete with similar products made by our competitors. There are a large number of multinational and regional competitors making investments in competing technologies and products, including several large pharmaceutical and diversified healthcare companies. We also face competition from our distributors as some have created, and others may decide to create, their own products to compete with ours. A number of our competitors have competitive advantages, such as substantially greater financial, technical, research and other resources, and larger, more established marketing, sales, distribution and service organizations than we have. Moreover, some competitors offer broader product lines and have greater name recognition than we have. Our operating results could be materially and adversely affected if:
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our competitors’ products are more effective than ours or take market share from our products through more effective marketing or competitive pricing;
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our competitors obtain patent protection or other intellectual property rights that prevent us from offering competing products or services; or
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our competitors are able to obtain regulatory approvals for products or services or otherwise bring competing products to market earlier than us.
In addition, there has been a trend toward industry consolidation in our markets over the last few years. We may not be able to compete successfully in an increasingly consolidated industry. We expect this trend toward industry consolidation to continue as companies attempt to strengthen or hold their market positions in an evolving industry and as companies are acquired or are unable to continue operations.
Our business and products are highly regulated by various governmental agencies. Our results of operations would be negatively affected by failures or delays in the receipt of regulatory approvals or clearances, the loss of previously received approvals or other changes to existing laws and regulations that adversely impact our ability to manufacture and market our products.
The testing, manufacture and sale of our products are subject to regulation by numerous governmental authorities in the U.S., principally the FDA and corresponding state and foreign regulatory agencies. The FDA regulates most of our products, which are currently all Class I or II devices. The U.S. Department of Agriculture regulates our veterinary products. Our future performance depends on, among other matters, if, when and at what cost we will receive regulatory approval or clearances for new products. Regulatory review can be a lengthy, expensive and uncertain process, making the timing and costs of clearances and approvals difficult to predict. Similarly, conducting clinical studies that may be required for regulatory approvals or clearances is a complex, time-consuming and expensive process, requiring months or years to complete, and our studies are not guaranteed to generate data that demonstrate safety and effectiveness or substantial equivalence of the evaluated product.
In addition, even after we obtain necessary clearances or approvals to market our products, the FDA and other regulatory agencies may require post-market testing and additional surveillance to monitor the performance and use of approved products or may place conditions on any product approvals that could restrict the commercial applications of those products. Our results of operations would be negatively affected by failures or delays in the receipt of regulatory approvals or clearances, changes in laws and regulations, the loss of previously received approvals or clearances or the placement of limits on the manufacture, marketing and use of our products. For example, prior to our acquisition of the Triage Business, the Summers Ridge, San Diego manufacturing facility was subject to a 2012 FDA inspection that resulted in an FDA warning letter and recalls of certain Triage products and revised release specifications for certain Triage meter-based products, which will not be formally closed-out with the FDA until after a future inspection. We cannot assure you that the government will find efforts to resolve the FDA warning letter to be satisfactory. We cannot predict whether other governments’ regulatory authorities will require additional remedial or corrective actions in the future, and the issues arising out of the FDA inspection may be expanded to cover other matters.
Furthermore, in the ordinary course of business, we must frequently make subjective judgments with respect to compliance with applicable laws and regulations. If regulators subsequently disagree with the manner in which we have sought to comply with these regulations, we could be subjected to substantial civil and criminal penalties, as well as field corrective actions, product recalls, seizures or injunctions with respect to the sale of our products. The assessment of any civil and criminal penalties against us could severely impair our reputation within the industry and affect our operating results, and any limitation on our ability to manufacture and market our products could also have a material adverse effect on our business.
Changes in government policy could adversely affect our business and profitability.
Changes in government policy could have a significant impact on our business by increasing the cost of doing business, affecting our ability to sell our products and negatively impacting our profitability. Such changes could include modifications to existing legislation, such as U.S. tax policy, or entirely new legislation. It is unclear whether and to what extent, if at all, other anticipated developments, including changes due to governmental administrative priorities, or changes resulting from healthcare reform, such as a change in the number of people with health insurance, may impact us.
We are subject to numerous government regulations in addition to FDA regulation, and compliance with laws, including changed or new laws, could increase our costs and adversely affect our operations.
In addition to FDA and other regulations referred to above, numerous laws relating to such matters as safe working conditions, manufacturing practices, employment practices, data privacy, environmental protection, fire hazard control and disposal of hazardous or potentially hazardous substances impact our business or operations. If these laws or their interpretation change or new laws regulating any of our businesses or operations are adopted, the costs of compliance with these laws could substantially increase our overall costs. Failure to comply with any laws, including laws regulating the manufacture and marketing of our products, could result in substantial costs and loss of sales or customers. Because of the number and extent of the laws and regulations affecting our industry, and the number of governmental agencies whose actions could affect our operations, it is impossible to reliably predict the full nature and impact of future legislation or regulatory developments relating to our industry and our products. To the extent the costs and procedures associated with meeting new or changing requirements are substantial, our business, results of operations and financial condition could be adversely affected.
We use hazardous materials in our business that may result in unexpected and substantial claims against us relating to handling, storage or disposal.
Our research and development and manufacturing activities involve the controlled use of hazardous materials. Federal, state and local laws and regulations govern the use, manufacture, storage, handling and disposal of hazardous materials. These regulations include federal statutes commonly known as CERCLA, RCRA and the Clean Water Act. Compliance with these laws and regulations is already expensive. If any governmental authorities impose new regulations requiring compliance in
addition to that required by existing regulations, or alter their interpretation of the requirements of such existing regulations, such regulations could impair our research, development or production efforts by imposing additional, and possibly substantial, costs, restrictions or compliance procedures on our business or operations. In addition, because of the nature of the penalties provided for in some of these regulations, we could be required to pay sizable fines, penalties or damages in the event of noncompliance with laws. Any violation or remediation requirement could also partially or completely shut down our research and manufacturing facilities and operations, which would have a material adverse effect on our business. The risk of accidental contamination or injury from these hazardous materials cannot be completely eliminated and exposure of individuals to these materials could result in substantial fines, penalties or damages that are not covered by insurance.
Our total revenue could be affected by third-party reimbursement policies and potential cost constraints.
The end-users of our products are primarily physicians and other healthcare providers. In the U.S., healthcare providers such as hospitals and physicians who purchase diagnostic products generally rely on third-party payers, principally private health insurance plans, federal Medicare and state Medicaid, to reimburse all or part of the cost of the procedure. Use of our products would be adversely impacted if physicians and other healthcare providers do not receive adequate reimbursement for the cost of our products by their patients’ third-party payers. Our total revenue could also be adversely affected by changes or trends in reimbursement policies of these governmental or private healthcare payers. We believe that the overall escalating cost of medical products and services has led to, and will continue to lead to, increased pressures on the healthcare industry, both foreign and domestic, to reduce the cost of products and services. Given the efforts to control and reduce healthcare costs in the U.S. in recent years, currently available levels of reimbursement may not continue to be available in the future for our existing products or products under development. Third-party reimbursement and coverage may not be available or adequate in either the U.S. or foreign markets, current reimbursement amounts may be decreased in the future and future legislation, regulation or reimbursement policies of third-party payers may reduce the demand for our products or adversely impact our ability to sell our products on a profitable basis.
Billing and payment for healthcare services are highly regulated, and the failure to comply with applicable laws and regulations can result in civil or criminal sanctions, including exclusion from federal and state healthcare programs.
A portion of our healthcare products and services are paid for by private and governmental third-party payers, such as Medicare and Medicaid. These third-party payers typically have different and complex billing and documentation requirements that we must satisfy in order to receive payment, and they carefully audit and monitor our compliance with these requirements. Such audits may lead to determinations that certain claims should not have been paid, and payors may seek to recoup or offset amounts they assert have been paid in error.
We must also comply with numerous other laws applicable to billing and payment for healthcare services, including privacy laws. Failure to comply with these requirements may result in non-payment, refunds, exclusion from government healthcare programs and civil or criminal liabilities, any of which may have a material adverse effect on our revenues, earnings
and cash flows. In addition, failure by third-party payers to properly process our payment claims in a timely manner could delay our receipt of payment for our products and services, which may have a material adverse effect on our cash flows.
Unexpected increases in, or inability to meet, demand for our products could require us to spend considerable resources to meet the demand or harm our reputation and customer relationships if we are unable to meet demand.
Our inability to meet customer demand for our products, whether as a result of manufacturing problems or supply shortfalls, could harm our customer relationships and impair our reputation within the industry. In addition, our product manufacturing of certain product lines is concentrated in one or more of our manufacturing sites. Weather, natural disasters (including pandemics), fires, terrorism, political change, failure to follow specific internal protocols and procedures, equipment malfunction, environmental factors or damage to one or more of our facilities could adversely affect our ability to manufacture our products. This, in turn, could have a material adverse effect on our business.
If we experience unexpected increases in the demand for our products or supply shortfalls, we may be required to expend additional capital resources to meet these demands. These capital resources could involve the cost of new machinery or even the cost of new manufacturing facilities. This would increase our capital costs, which could adversely affect our earnings and cash resources. If we are unable to develop or obtain necessary manufacturing capabilities in a timely manner, our total revenue could be adversely affected. Failure to cost-effectively increase production volumes, if required, or lower than anticipated yields or production problems, including those encountered as a result of changes that we may make in our manufacturing processes to meet increased demand or changes in applicable laws and regulations, could result in shipment delays as well as increased manufacturing costs, which could also have a material adverse effect on our business, reputation, operating results and financial condition.
Unexpected increases in demand for our products or supply shortfalls could also require us to obtain additional raw materials in order to manufacture products to meet the demand. Some raw materials require significant ordering lead time and we may not be able to timely access sufficient raw materials in the event of an unexpected increase in demand or supply shortfall, particularly those obtained from a sole supplier or a limited group of suppliers.
Interruptions in the supply of raw materials and other products and services could adversely affect our operations and financial results.
We depend on third-party manufacturers and suppliers for some of our products, or components and materials used in our products. Some of our raw materials, equipment and components are currently obtained from a sole supplier or a limited group of suppliers. We have long-term supply agreements with many of these suppliers, but these long-term agreements involve risks for us, such as our potential inability to obtain an adequate supply of quality raw materials, equipment or components and our reduced control over pricing, quality and timely delivery. It is also possible that one or more of these suppliers may become unwilling or unable to deliver materials or components to us. In addition, due to regulatory requirements relating to the qualification of suppliers, we may not be able to establish additional or replacement sources on a timely basis or without excessive cost. Any shortfall in our supply of raw materials, equipment or components, or our inability to quickly and cost-effectively obtain alternative sources for this supply, could have a material adverse effect on our business and operating results.
In addition, we use third party packaging companies to ship our products to customers. An interruption in the businesses of these third-party packaging companies could result in a delay of shipments to customers.
If one or more of our products is claimed to be defective, we could be subject to claims of liability and harm to our reputation that could adversely affect our business.
Our business involves an inherent risk of product liability claims. Our product development and production processes are complex and could expose our products to claims of defectiveness. Alleged manufacturing and design defects could lead to recalls (either voluntary or required by the FDA or other government authorities) and could result in the removal of one or more of our products from the market. Similarly, a defect in one of our diagnostic products could lead to a false positive or false negative result, affecting the eventual diagnosis or treatment of a patient. Any such defects may require the payment of significant amounts in damages in connection with lawsuits. A defect or claim of a defect in the design or manufacture of our products could also have a material adverse effect on our reputation in the industry. Moreover, any product liability or other claim brought against us, regardless of merit, could be costly to defend.
We are exposed to business risk which, if not covered by insurance, could have an adverse effect on our results of operations.
We face a number of business risks, including exposure to product liability claims. Although we maintain insurance for a number of these risks, we may face claims for types of damages, or for amounts of damages, that are not covered by our insurance. For example, although we currently carry product liability insurance for liability losses, there is a risk that product liability or other claims may exceed the amount of our insurance coverage or may be excluded from coverage under the terms of our policy. Also, our existing insurance may not be renewed at the same cost and level of coverage as currently in effect, or may not be renewed at all. Further, we do not currently have insurance against many environmental risks we confront in our business. If we are held liable for a claim against which we are not insured or for damages exceeding the limits of our insurance coverage, whether arising out of product liability matters, cybersecurity matters, or from some other matter, that claim could have a material adverse effect on our results of operations.
Failures in our information technology and storage systems could significantly disrupt our business or force us to expend excessive costs.
We utilize complex information technology systems to support our business and process, transmit, and store information, including sensitive personal information and proprietary or confidential information. We cannot be sure that our systems will meet our future business needs or that necessary upgrades will operate as designed, which could result in excessive costs or disruptions in portions of our business. In particular, any disruptions, delays or deficiencies caused by our enterprise resource planning system could adversely affect our ability to process orders, ship products, provide services and customer support, send invoices and track payments, fulfill contractual obligations or otherwise operate our business. Moreover, despite network security and back-up measures, our servers are potentially vulnerable to physical or electronic break-ins, ransomware attacks, computer viruses and similar disruptive problems. Despite the precautionary measures we have taken to prevent unanticipated problems that could affect our systems, sustained or repeated system failures that interrupt our ability to generate and maintain data, could result in a material disruption in our operations.
Our ability to protect our information systems and electronic transmissions of sensitive data from data corruption, cyber-based attacks, security breaches or privacy violations is critical to the success of our business.
Although we invest in security technology designed to protect our data against data security breaches and cyber-attacks, and we have implemented solutions, processes and procedures to help mitigate these risks at various locations, such as encryption, virus protection, security firewalls, employee education and training and information security and privacy policies, our information technology and infrastructure are subject to attacks or misappropriation by hackers and may be breached due to inadequacy or ineffectiveness of the protective measures undertaken, employee errors or omissions, malfeasance or other disruptions. A security breach or privacy violation that leads to disclosure of consumer, customer, supplier, partner or employee information (including personally identifiable information or protected health information) could harm our reputation, compel us to comply with disparate state and foreign breach notification laws and otherwise subject us to liability under laws that protect personal data, resulting in increased costs or loss of revenue.
Despite our efforts to protect against cyber-attacks and security breaches, hackers and other cyber criminals are using increasingly sophisticated and constantly evolving techniques, and we may need to expend substantial additional resources to continue to protect against potential security breaches or to remediate problems caused by such attacks or any breach of our safeguards. In addition, a data security breach or ransomware attack could distract management or other key personnel from performing their primary operational duties.
The interpretation and application of consumer and data protection laws in the United States, Europe and elsewhere are often uncertain, contradictory and in flux. Among other things, foreign privacy laws impose significant obligations on U.S. companies to protect the personal information of foreign citizens. It is possible that these laws may be interpreted and applied in a manner that is inconsistent with our data practices, which could have a material adverse effect on our business. Complying with these various laws could cause us to incur substantial costs or require us to change our business practices in a manner adverse to our business.
Our business could be negatively affected by the loss of or the inability to hire key personnel.
Our future success depends in part on our ability to retain our key technical, sales, marketing and executive personnel and our ability to identify and hire additional qualified personnel. Competition for these personnel is intense, both in the industry in which we operate and where our operations are located. Further, we expect to grow our operations, and our needs for additional management and other key personnel are expected to increase. If we are not able to retain existing key personnel, or timely identify and hire replacement or additional qualified personnel to meet expected growth, our business could be adversely impacted. In addition, the loss of any of our key personnel, particularly key technical and research and development personnel, could harm our business and prospects and could impede the achievement of our research and development, operation or strategic objectives.
We face risks relating to our international sales, including inherent economic, political and regulatory risks, that could impact our financial performance, cause interruptions in our current business operations and impede our growth strategy.
Our products are sold internationally, with the majority of our international sales to our customers in Europe and Asia-Pacific. We currently sell and market our products through direct sales, distributor organizations and sales agents. Sales to foreign customers accounted for 33%, 32% and 18% of our total revenue for the years ended December 31, 2019, 2018 and 2017, respectively. Our international operations are subject to inherent economic, political and regulatory risks, which could impact our financial performance, cause interruptions in our current business operations and impede our international growth. These foreign risks include, among others:
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compliance with multiple different registration requirements and new and changing product registration requirements, our inability to benefit from registration for our products inasmuch as registrations may be controlled by a distributor, and the difficulty in transitioning our product registrations;
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compliance with complex foreign and U.S. laws and regulations that apply to our international operations, including U.S. laws such as import/export limitations, the Foreign Corrupt Practices Act, and local laws prohibiting corrupt payments to governmental officials, could expose us or our employees to fines and criminal sanctions and damage our reputation;
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tariffs or other barriers as we continue to expand into new countries and geographic regions;
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exposure to currency exchange fluctuations against the U.S. dollar;
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longer payment cycles, generally lower average selling prices and greater difficulty in accounts receivable collection and enforcing agreements with foreign entities;
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reduced, or lack of, protection for, and enforcement of, intellectual property rights;
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social, political and economic instability in some of the regions where we currently sell our products or that we may expand into in the future, including as a result of acts of terrorism, health pandemics, natural disasters and disruptions in global transportation;
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increased financial accounting and reporting burdens and complexities;
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complex and potentially adverse tax consequences; and
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diversion to the U.S. of our products sold into international markets at lower prices.
Our international operations are governed by the U.S. Foreign Corrupt Practices Act and similar anti-corruption laws outside the U.S. Global enforcement of anti-corruption laws has increased substantially in recent years, with more enforcement proceedings by U.S. and foreign governmental agencies and the imposition of significant fines and penalties. While we have
implemented policies and procedures to comply with these laws, our international operations, which may involve customer relationships with foreign governments, create the risk that there may be unauthorized payments or offers of payments made by employees, consultants, sales agents or distributors. Any alleged or actual violations of these laws may subject us to government investigations, significant criminal or civil sanctions and other liabilities, and negatively affect our reputation.
During the year ended December 31, 2019, we generated approximately $113.8 million in revenue denominated in currencies other than the U.S. dollar. The major currencies to which our revenues are exposed are the Euro and the Chinese Yuan. Continued change in the values of the Euro, the Chinese Yuan, and other foreign currencies could have a negative impact on our business, financial condition and results of operations.
Beginning in 2019, the Company has initiated a foreign currency management policy which permits the use of derivative instruments, such as forward contracts, to reduce volatility in our results of operations resulting from foreign exchange rate fluctuations. We do not enter into foreign currency derivative instruments for trading purposes or to engage in speculative activity. In addition, we have certain supply agreements with foreign vendors whereby we share the foreign currency exchange fluctuation risk. We may, in the future, enter into similar arrangements.
Changes in our tax rates or exposure to additional income tax liabilities or assessments could affect our profitability.
We are subject to income taxes in the U.S. and in various non-U.S. jurisdictions. In addition, the amount of income taxes we pay is subject to ongoing audits by U.S. federal, state and local tax authorities and by non-U.S. tax authorities. Due to the potential for changes to tax laws (or changes to the interpretation thereof) and the ambiguity of tax laws, the subjectivity of factual interpretations, the complexity of our foreign operations and intercompany arrangements and other factors, our estimates of income tax assets or liabilities may differ from actual payments, assessments or receipts. If these audits result in payments or assessments different from our reserves, our future results may include unfavorable adjustments to our tax liabilities and our financial statements could be adversely affected. If we determine to repatriate earnings from foreign jurisdictions that have been considered permanently re-invested under existing accounting standards, it could also increase our effective tax rate. In addition, any significant change to the tax system in the United States or in other jurisdictions (including changes in the taxation of international income as further described below) could adversely affect our financial statements.
Risks Related to Our Acquisitions
If we are not able to manage our growth strategy or if we experience difficulties identifying or integrating companies or technologies we may acquire, our operating results may be adversely affected.
Our business strategy contemplates further growth, which we expect to result in expanding the scope of operating and financial systems and the geographical area of our operations, including further expansion outside the U.S., as new products and technologies are developed and commercialized or new geographical markets are entered. Because we have a relatively small executive staff, acquisitions and other future growth may divert management’s attention from other aspects of our business, and place a strain on existing management and our operational, financial and management information systems. Furthermore, we may expand into markets in which we have less experience or incur higher costs. Some of our growth is expected to come from acquisitions of businesses and technologies. However, we cannot be certain that we will be able to successfully identify and acquire attractive targets.
Other risks associated with acquiring other technologies or businesses, include:
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inability to obtain financing for acquisitions on satisfactory terms, or at all;
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difficulties transitioning and integrating the operations of companies or technologies that we acquire with our own operations, including difficulties integrating personnel, information systems, and internal control systems;
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diversion of the attention of management and key personnel from our core business and other potential beneficial opportunities;
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adverse effects on our existing business relationships;
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potential loss of management and other key employees of the acquired businesses and inability to attract new employees;
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potential litigation arising from the acquired business’s operations;
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potential contractual, regulatory, compliance, intellectual property or employment issues;
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increased exposure to international operations and sales, including fluctuations in foreign currency; and other economic, political and regulatory risks;
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write-downs of goodwill, intangible assets or other assets associated with the acquisitions; and
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we may not realize our anticipated benefits and cost savings within our expected time frame, or at all, or may experience unexpected costs and expenditures.
We can give no assurance that we will be able to successfully identify, complete and integrate strategic acquisitions. Should we encounter difficulties in managing these tasks and risks, our growth strategy may suffer and our revenue, profitability and financial condition could be adversely affected.
Our acquisition of Alere’s Triage® and BNP Businesses presents certain risks to our business and operations
On October 6, 2017, we acquired the Triage and BNP Businesses from Alere. Although the transition and integration process is substantially the complete, the acquisition of these businesses, and the transition and integration process related thereto, present certain risks to our business and operations, including, among other things, risks that:
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we may experience business interruptions during and after the transition and integration process
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we may not realize the anticipated benefits of the acquisitions, including those anticipated to arise from making product and process improvements and developing new products;
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we may incur substantial unexpected integration or transition related costs;
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the deferred consideration payable to Alere for the BNP Business will be payable even if BNP sales are significantly reduced, or even terminate, whether as a result of the introduction of a competing product, a determination that provisions of the contractual arrangement with Beckman are unenforceable or otherwise, and such payment obligations may significantly exceed the revenues from such business;
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we may not be able to successfully or efficiently manage our foreign expansion, and the acquired businesses will increase our exposure and risks related to foreign markets;
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we may be subject to claims, litigation, other legal proceedings and liabilities and damages in connection with the businesses and assets acquired in the acquisition, which may not be covered in full, if at all, by the indemnification provisions provided for in the acquisition agreements, and even if indemnified, may be disruptive to our business;
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in certain international markets, the marketing authorizations to sell the acquired products are being held by Alere post-closing until the authorizations can be transferred to us or new ones issued through the applicable regulatory process, and such markets have additional risks, including:
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we may not timely receive such authorizations, if at all, or may encounter unexpected difficulties and costs in receiving the authorizations or required regulatory approvals or clearances relating to the acquired businesses, or may lose previously received regulatory approvals or clearances; and
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Alere may be unable or unwilling to satisfy its performance obligations under these arrangements.
If goodwill or other intangible assets that we have recorded in connection with our acquisitions of other businesses become impaired, we may be required to take significant charges against earnings.
As a result of our acquisitions, we have recorded, and may continue to record, a significant amount of goodwill and other intangible assets. Under current accounting standards, we must assess, at least annually and potentially more frequently, whether the value of goodwill and other intangible assets has been impaired. Any reduction or impairment of the value of goodwill or other intangible assets will result in additional charges against earnings, which could materially reduce our reported results of operations in future periods.
Risk Factors Related to our Indebtedness and Other Obligations
Our debt, deferred and contingent payment obligations could materially adversely affect our financial condition and results of operations.
We have outstanding indebtedness under Convertible Senior Notes and have a $175.0 million Revolving Credit Facility as described in Note 3 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report, and may incur other indebtedness from time to time. We also have significant deferred and contingent payment obligations for the BNP Business acquisition as described in Note 10 to the Consolidated Financial Statements included in Part II, Item 8 of this Annual Report.
The degree to which we are leveraged and are subject to deferred and contingent payment obligations could have important consequences to our business and operating results, including:
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our ability to obtain additional financing in the future for working capital, capital expenditures, acquisitions and general corporate purposes may be impaired;
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a significant portion of our cash flow from operating activities must be dedicated to the payment of our deferred and contingent payment obligations, which reduces the funds available to us for our operations and may limit our ability to engage in acts that may be in our long-term best interests;
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our debt agreements contain, and any agreements to refinance our debt likely will contain, financial and other restrictive covenants, and our failure to comply with them may result in an event of default, which, if not cured or waived, could have a material adverse effect on us;
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our level of indebtedness and deferred and contingent payment obligations may increase our vulnerability to, and reduce our flexibility to respond to, general economic downturns and adverse industry and business conditions;
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to the extent the debt we incur requires collateral to secure such indebtedness, our assets could be at risk and our flexibility related to such assets could be limited
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our debt service and deferred and contingent payment obligations could limit our flexibility in planning for, or reacting to, changes in our business and industry; and
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any borrowings under our Revolving Credit Facility will be at variable rates of interest, which may result in higher interest expense in the event of market interest rates.
We may not be able to generate sufficient cash flow to meet our debt service and deferred and contingent payment obligations, and any inability to repay our debt when due would have a material adverse effect on our business, financial condition and results of operations.
Our ability to generate sufficient cash flow from operating activities to make scheduled or other required payments on our debt obligations, deferred and contingent payment obligations and maintain a desired level of capital expenditures depends on our future performance, which is subject to economic, financial, competitive and other factors, many of which are beyond our control. If we are unable to generate such cash flow, we may be required to adopt one or more alternatives, such as selling assets, restructuring debt or obtaining additional equity capital on terms that may be onerous or highly dilutive. Our ability to undertake these activities may also be restricted by the terms of our various debt instruments then in effect. In addition, our ability to refinance our indebtedness or issue additional equity capital will depend on the capital markets and our financial condition at such time. We may not be able to engage in any of these activities or engage in these activities on desirable terms, which could result in a default on our debt obligations. Any such default on our debt obligations could materially adversely affect our business, financial condition and results of operations.
We will continue to have the ability to incur debt and our levels of debt may affect our operations and our ability to pay the principal of and interest on our debt.
We and our subsidiaries may be able to incur substantial additional debt in the future. Our indebtedness could be costly or have adverse consequences, such as:
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requiring us to dedicate a substantial portion of our cash flows from operations to payments on our debt;
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limiting our ability to obtain future financing for working capital, capital expenditures, acquisitions, debt obligations and other general corporate requirements;
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making us more vulnerable to adverse conditions in the general economy or our industry and to fluctuations in our operating results, including affecting our ability to comply with and maintain any financial tests and ratios required under our indebtedness;
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limiting our flexibility to engage in certain transactions or to plan for, or react to, changes in our business and the diagnostics industry;
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putting us at a disadvantage compared to competitors that have less relative and/or less restrictive debt; and
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subjecting us to additional restrictive financial and other covenants.
If we incur substantial additional indebtedness in the future, these higher levels of indebtedness may affect our ability to pay the principal of and interest on existing indebtedness and our creditworthiness generally. In addition, our ability to make scheduled payments of the principal of, to pay interest on, or to refinance our indebtedness, depends on our future performance, which is subject to economic, financial, competitive and other factors beyond our control. Our business may not continue to generate cash flow from operations in the future sufficient to service or repay our debt. If we are unable to generate such cash flow, we may be required to adopt one or more alternatives, such as reducing capital expenditures, selling assets, restructuring debt or obtaining additional equity capital on terms that may be onerous or highly dilutive. Our ability to refinance our indebtedness will depend on the capital markets and our financial condition at such time. We may not be able to engage in any of these activities or engage in these activities on desirable terms, which could result in a default on our debt obligations.
The Revolving Credit Facility is secured by substantially all of our assets and those of our subsidiary guarantors.
Borrowings under the Amended and Restated Credit Agreement are guaranteed by certain of our material domestic subsidiaries and are secured by liens on substantially all of our assets and those of the guarantor subsidiaries, other than real property and certain other types of excluded assets. If we default under our secured indebtedness, including our Revolving Credit Facility, the holders of such debt could proceed against the collateral securing that indebtedness, which could materially adversely affect our business, financial condition and results of operations.
The agreements relating to our indebtedness contain terms that restrict our ability to operate our business, and as a result, may materially and adversely affect our results of operations.
Our Revolving Credit Facility contains, and other of our debt agreements may include from time to time, a number of restrictive covenants that impose significant operating and financial restrictions on us and our subsidiaries. Such restrictive covenants significantly limit our ability to:
•
incur additional debt, including guarantees;
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allow other liens on our property;
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make certain investments and acquisitions;
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sell or otherwise dispose of assets;
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engage in mergers or consolidations or allow a change in control to occur;
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make distributions to our stockholders;
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engage in restructuring activities;
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enter into transaction with affiliates;
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prepay or amend other indebtedness;
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engage in certain sale and leaseback transactions; and
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issue or repurchase stock or other securities.
Such agreements also require us to satisfy other requirements, including maintaining certain financial ratios. Our ability to meet these requirements can be affected by events beyond our control and we may be unable to meet them. To the extent we fail to meet any such requirements and are in default under our debt obligations, our financial condition may be materially adversely affected. These restrictions may also limit our ability to engage in activities that could otherwise benefit us. To the extent that we are unable to engage in activities that support the growth, profitability and competitiveness of our business, our results of operations may be materially adversely affected.
An event of default under any agreement relating to our outstanding indebtedness or other event that could require outstanding debt to be prepaid or purchased by us could cross default other indebtedness, which could have a material adverse effect on our business, financial condition and results of operations.
If there were an event of default under any of the agreements relating to our outstanding indebtedness, the holders of the defaulted debt could cause all amounts outstanding with respect to that debt to be due and payable immediately, which default or acceleration of debt could cross default other indebtedness. Our Revolving Credit Facility could also be cross defaulted as a result of other events that could require us to prepay or purchase outstanding indebtedness. Any cross default with respect to any of our indebtedness would put immediate pressure on our liquidity and financial condition and would amplify the risks
described above with regards to being unable to repay our indebtedness when due and payable. We cannot assure you that our assets or cash flow would be sufficient to fully repay borrowings under our outstanding debt instruments if accelerated upon an event of default, and, as described above, any inability to repay our debt when due could have a material adverse effect on our business, financial condition and results of operations.
If interest rates increase, our debt service obligations under our variable rate indebtedness could increase significantly, which could have a material adverse effect on our results of operations.
Borrowings under certain of our facilities from time to time, including under our Revolving Credit Facility, are at variable rates of interest and as a result expose us to interest rate risk. If interest rates were to increase, our debt service obligations on the variable rate indebtedness would increase even though the amount borrowed remained the same, and our net income and cash flows will correspondingly decrease. To the extent the risk materializes and is not fully mitigated, the resulting increase in interest expense could have a material adverse effect on our results of operations.
Risks Related to our Common Stock
Sales of our common stock in the public market could lower the market price for our common stock and adversely impact the trading price of our securities.
We may need to seek additional capital. If this additional financing is obtained through the issuance of equity securities, debt convertible into equity or options or warrants to acquire equity securities, our existing stockholders could experience dilution upon the issuance, conversion or exercise of such securities. In addition, a substantial number of shares of our common stock is reserved for issuance upon the conversion of our Convertible Senior Notes, exercise of stock options and vesting of other equity awards.
In addition, we may issue shares of our common stock or securities convertible into our common stock from time to time in connection with a debt refinancing or replacement, acquisition, or other transaction. The issuance of additional shares of our common stock, or issuances of additional securities convertible into or exercisable for shares of our common stock or other equity linked securities, including, convertible debt, preferred stock or warrants, could dilute the ownership interest of our common stockholders and could depress the market price of shares of our common stock and impair our ability to raise capital through the sale of additional equity securities. We cannot predict the size of future issuances or the effect, if any, that they may have on the market price for our common stock.
We also have a number of institutional stockholders that own significant blocks of our common stock. If one or more of these stockholders were to sell large portions of their holdings in a relatively short time, for liquidity or other reasons, the prevailing market price of shares of our common stock could be negatively affected.
The price of our stock may fluctuate unpredictably in response to factors unrelated to our operating performance.
The stock market can experience significant price and volume fluctuations that are unrelated to the operating performance of particular companies. These broad market fluctuations may cause the market price of our common stock to drop. In particular, the market price of securities of smaller medical device companies, like ours, has been very unpredictable and may vary in response to:
•
announcements by us or our competitors concerning technological innovations;
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introductions of new products;
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FDA and foreign regulatory actions;
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adverse litigation developments;
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developments or disputes relating to patents or proprietary rights;
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failure to meet the expectations of stock market analysts and investors;
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changes in stock market analyst recommendations regarding our common stock;
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changes in healthcare policy in the U.S. or other countries; and
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general stock market conditions and other factors unrelated to our operating performance.
Some provisions of our charter documents, Delaware law, and our Convertible Senior Notes may make takeover attempts difficult, which could depress the price of our stock and inhibit our stockholders’ ability to receive a premium price for their shares.
Provisions of our amended and restated certificate of incorporation could make it more difficult for a third party to acquire control of our business, even if such change in control would be beneficial to our stockholders. Our amended and restated certificate of incorporation allows our Board of Directors to issue up to five million shares of preferred stock and to fix the rights and preferences of such shares without stockholder approval. Any such issuance could make it more difficult for a third party to acquire our business and may adversely affect the rights of our stockholders. Our amended and restated bylaws include advance notice requirements for stockholder proposals that require stockholders to give written notice of any proposal or director nomination to us within a specified period of time prior to any stockholder meeting and do not permit stockholders to call a special meeting of the stockholders, unless such stockholders hold at least 50% of our stock entitled to vote at the meeting.
We are also subject to anti-takeover provisions under Delaware law. Together these provisions may delay, deter or prevent a change in control of us, adversely affecting the market price of our common stock.
We do not anticipate declaring any cash dividends on our common stock.
We have never declared or paid cash dividends on our common stock and do not plan to pay any cash dividends in the near future. Our current policy is to retain all funds and any earnings for use in the operation and expansion of our business.
Item 1B.
Item 1B. Unresolved Staff Comments
None.
Item 2.
Item 2. Properties
At December 31, 2019, we occupied the indicated square footage in the leased and owned facilities described below:
(1)
The Summers Ridge lease is subject to certain must-take provisions related to one additional building, consisting of approximately 71,000 square feet. See Note 8 in the Consolidated Financial Statements in Part II, Item 8 of this Annual Report.
We believe that our facilities are adequate for our current needs, and we currently do not anticipate any material difficulty in renewing any of our leases as they expire or securing additional or replacement facilities, in each case, on commercially reasonable terms. However, in anticipation of our growth strategy, we may pursue alternative facilities.
Item 3.
Item 3. Legal Proceedings
The information set forth in “Litigation and Other Legal Proceedings” in Note 8 in the Consolidated Financial Statements in Part II, Item 8 of this Annual Report is incorporated herein by reference.
Item 4.
Item 4. Mine Safety Disclosures
Not applicable.
Part II
Item 5.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our common stock is traded on the Nasdaq Global Market under the symbol “QDEL.”
As of February 7, 2020, we had approximately 315 common stockholders of record and we do not anticipate paying any cash dividends in the foreseeable future.
Issuer Purchases of Equity Securities
The table below sets forth information regarding repurchases of our common stock by us during the three months ended December 31, 2019:
(1) Includes shares surrendered, if any, to the Company to satisfy the payment of minimum tax withholding obligations and/or option exercise price obligations in connection with stock swap option exercise transactions.
(2) On December 12, 2018, the Board of Directors authorized a stock repurchase program, pursuant to which up to $50.0 million of the Company’s shares of common stock may be purchased through December 12, 2020. The Company announced the stock repurchase program on December 18, 2018.
STOCKHOLDER RETURN PERFORMANCE GRAPH
Set forth below is a line graph comparing the yearly percentage change in the cumulative total stockholder return on our common stock with the cumulative total return of the Nasdaq Composite Index, Nasdaq Health Care Index, and Nasdaq US Benchmark Medical Supplies Index for the period beginning December 31, 2014 and ending December 31, 2019. The graph assumes (i) an initial investment of $100 on December 31, 2014 in our common stock, the Nasdaq Composite Index, the Nasdaq US Benchmark Medical Supplies Index, and the Nasdaq Health Care Index and (ii) reinvestment of dividends. The stock price performance of our common stock depicted in the graph represents past performance only and is not necessarily indicative of future performance.
COMPARISON OF 5 YEAR TOTAL CUMULATIVE RETURN
Among Quidel Corporation, the NASDAQ Composite, NASDAQ US Benchmark Medical Supplies and NASDAQ Health Care Indices
Item 6.
Item 6. Selected Financial Data
The following table presents selected consolidated financial data of Quidel Corporation. This historical data should be read in conjunction with the Consolidated Financial Statements and related Notes thereto in Item 8 and “Management’s Discussion and Analysis of Financial Condition and Results of Operation” in Item 7
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion of our financial condition and results of operations contains forward-looking statements within the meaning of the federal securities laws that involve material risks and uncertainties. This discussion should be read in conjunction with “A Warning About Forward-Looking Statements” on page 3 and “Risk Factors” under Item 1A of this Annual Report. In addition, our discussion of the financial condition and results of operations of Quidel Corporation in this Item 7 should be read in conjunction with our Consolidated Financial Statements and the related Notes included elsewhere in this Annual Report. Discussions of year-to-year comparisons between 2018 and 2017 that are not included in this Annual Report can be found in our Annual Report for the year ended December 31, 2018.
Overview and Executive Summary
We have a leadership position in the development, manufacturing and marketing of rapid diagnostic testing solutions. These diagnostic testing solutions are separated into our four product categories: rapid immunoassays, cardiac immunoassays, specialized diagnostic solutions and molecular diagnostic solutions. We sell our products directly to end users and distributors, in each case, for professional use in physician offices, hospitals, clinical laboratories, reference laboratories, urgent care clinics, leading universities, retail clinics, pharmacies and wellness screening centers. We market our products through a network of distributors and through a direct sales force. The Company operates in one business segment that develops, manufactures and markets our four product categories.
For the year ended December 31, 2019, total revenue increased 2% to $534.9 million as compared to the year ended December 31, 2018. On a constant currency basis, 2019 revenue growth was 3%. For the years ended December 31, 2019, 2018 and 2017, sales of our influenza products accounted for 26%, 24%, and 39% respectively, of total revenue. Additionally, a significant portion of our total revenue is from a relatively small number of distributors. Approximately 46%, 44% and 54% of our total revenue for the years ended December 31, 2019, 2018 and 2017, respectively, were related to sales through our three largest distributors.
Our primary objective is to increase shareholder value by building a broader-based diagnostic company capable of delivering revenue growth and consistent operating results. Our strategy is to identify potential market segments that provide, or are expected to provide, significant total market opportunities, and in which we can be successful by applying our expertise and know-how to develop differentiated technologies and products.
Our diagnostic testing solutions are designed to provide specialized results that serve a broad range of customers, by addressing the market requirements of ease of use, reduced cost, increased test accuracy and reduced time to result. Our current approach is to offer products in the following product categories:
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rapid immunoassay tests for use in physician offices, hospital laboratories and emergency departments, retail clinics, eye health settings, pharmacies and other urgent care or alternative site settings;
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cardiac immunoassay tests for use in physician offices, hospital laboratories and emergency departments, and other urgent care or alternative site settings;
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specialized diagnostic solutions, including DFA and culture-based tests for the clinical virology laboratory and other products serving the bone health, autoimmune and complement research communities; and
•
molecular diagnostic tests for use in hospitals, moderately complex physician offices, laboratories and other settings.
Our current focus to accomplish our primary objective includes the following:
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leveraging our current infrastructure to develop and launch new Rapid Immunoassays and Cardiac Immunoassays such as additional assays for our Sofia® and Sofia® 2 analyzers and Triage® MeterPro® systems;
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developing a molecular diagnostics franchise that incorporates distinct testing platforms, including Solana® and Savanna®, that leverages our molecular assay development competencies; and
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strengthening our position with distribution partners and our end-user customers to gain more emphasis on our products.
Our current initiatives to execute this strategy include the following:
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provide products that can compete effectively in the healthcare market where cost and quality are important;
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focus our research and development efforts on three areas:
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new proprietary product platform development;
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the creation of improved products and new products for existing markets and unmet clinical needs; and
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pursuit of collaborations with, or acquisitions of, other companies for new and existing products and markets that advance our strategy to develop differentiated technologies and products;
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leverage our international infrastructure and enhance our global footprint to support our international operations and future growth;
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strengthen our market and brand leadership in current markets by acquiring and/or developing and introducing clinically superior diagnostic solutions;
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strengthen our direct sales force to enhance relationships with integrated delivery networks, laboratories and hospitals, with a goal of driving growth through improved physician and laboratorian satisfaction;
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leverage our wireless connectivity and data management systems, including cloud-based tools;
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support payer evaluation of diagnostic tests and establishment of favorable reimbursement rates;
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provide clinicians with validated studies that encompass the clinical efficacy and economic efficiency of our diagnostic tests for the professional market;
•
create strong global alliances to support our efforts to achieve leadership in key markets and expand our presence in emerging markets;
•
further refine our manufacturing efficiencies and productivity improvements to increase profit; and
•
focus on innovative products and markets and leverage our core competency in new product development.
Product development activities are inherently uncertain, and there can be no assurance that we will be able to obtain regulatory body clearance to market any of our products, or if we obtain clearances, that we will successfully commercialize any of our products. In addition, we may terminate our development efforts with respect to one or more of our products under development at any time, including before or during clinical trials.
Outlook
We anticipate continued revenue growth over the next year with a positive impact on gross margin and earnings. We expect continued and significant investment in research and development activities as we develop our next generation immunoassay and molecular platforms. We will continue our focus on prudently managing our business and delivering solid financial results, while at the same time striving to continue to introduce new products to the market and maintaining our emphasis on research and development investments for longer term growth. Finally, we will continue to evaluate opportunities to acquire new product lines, technologies and companies.
Results of Operations
Comparison of years ended December 31, 2019 and 2018
Our fiscal year is the 52 or 53 weeks ending the Sunday closest to December 31. Fiscal years 2019 and 2018 were both 52 weeks.
Total Revenues
The following table compares total revenues for the years ended December 31, 2019 and 2018 (in thousands, except percentages):
For the year ended December 31, 2019, total revenues increased 2% to $534.9 million. On a constant currency basis, 2019 revenue growth was 3%. The increase in total revenues was driven primarily by increases in Rapid Immunoassay revenues due to growth in respiratory products, bolstered by a strong start to the respiratory season in the last quarter of 2019. Molecular products were up 12% over prior year driven by continued revenue growth on the Solana platform. Growth otherwise experienced in the Cardiac Immunoassay products in constant currency was fully offset by an unfavorable impact from foreign currency fluctuations. Excluding such impact, Cardiac Immunoassay grew 2%. See further discussion in Item 7A
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Risk
We are not subject to interest rate risk on our Convertible Senior Notes as the Notes have a fixed rate of 3.25%. For fixed rate debt, changes in interest rates will generally affect the fair value of the debt instrument, but not our earnings or cash flows. Under our current policies, we do not use interest rate derivative instruments to manage our exposure to changes in interest rates.
Our current investment policy with respect to our cash and cash equivalents focuses on maintaining acceptable levels of interest rate risk and liquidity. Although we continually evaluate our placement of investments, as of December 31, 2019, our cash and cash equivalents were placed in the Company’s highly liquid operating accounts.
Foreign Currency Exchange Risk
We are exposed to foreign currency risks that arise from normal business operations. These risks include the translation of local currency balances of foreign subsidiaries, transaction gains and losses associated with intercompany loans with foreign subsidiaries and transactions denominated in currencies other than a location’s functional currency.
For the year ended December 31, 2019, total revenues increased 2% to $534.9 million, of which approximately $113.8 million in revenue was denominated in currencies other than the U.S. dollar. On a constant currency basis, revenue growth during the year ended December 31, 2019 was 3%. We believe constant currency and constant currency growth rate enhance the comparison of our financial performance from period-to-period, and to that of our competitors. Constant currency revenue excludes the impact from foreign currency fluctuations, which was an unfavorable $4.8 million for the year ended December 31, 2019, and is calculated by translating current period revenues using prior period exchange rates, net of any hedging effect recognized in the current period. Constant currency revenue growth (expressed as a percentage) is calculated by determining the change in current period constant currency revenues over prior period revenues.
The major currencies to which our revenues are exposed are the Euro and the Chinese Yuan. A 100-basis point move in the average exchange rates (assuming a simultaneous and immediate 100 basis point change for the relevant period) would have resulted in an increase or decrease in our reported revenue for the year ended December 31, 2019 as follows (in thousands):
Effective fiscal year 2019, the Company has initiated a foreign currency management policy which permits the use of derivative instruments, such as forward contracts, to reduce volatility in our results of operations resulting from foreign exchange rate fluctuations. We do not enter into foreign currency derivative instruments for trading purposes or to engage in
speculative activity. See further discussion in Note 12 to the Notes to the Consolidated Financial Statements for additional information related to such forward contracts.
Item 8.
Item 8. Financial Statements and Supplementary Data
Index of Consolidated Financial Statements and Schedule
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders and the Board of Directors of Quidel Corporation
Opinion on the Financial Statements
We have audited the accompanying consolidated balance sheets of Quidel Corporation (the “Company“) as of December 31, 2019 and 2018, the related consolidated statements of operations, comprehensive income (loss), stockholders’ equity, and cash flows, for each of the three years in the period ended December 31, 2019 and the related notes and schedule listed in the Index at Item 15(a)(2) (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2019 and 2018, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2019, in conformity with US generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), and our report dated February 13, 2020 expressed an unqualified opinion thereon.
Adoption of ASU No. 2016-02
As discussed in Note 1 to the consolidated financial statements, the Company changed its method of accounting for leases in 2019 due to the adoption of Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842), and the related amendments.
Basis for Opinion
These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures include examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.
Critical Audit Matter
The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relates to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.
Reserve for contractual rebates and discounts
Description of the Matter
As described in Note 1 to the consolidated financial statements, the Company records revenues from product sales net of contractual rebates and other discounts that are estimated at the time of sale. As of December 31, 2019, the Company recognized an allowance on accounts receivable of $15.7 million in rebates and an accrued liability of $7.4 million in promotion and other volume-based customer incentives.
Auditing the Company’s allowance for contractual rebates and other discounts is especially challenging because the calculation involves estimating adjustments to revenue based upon a high volume of data including inputs from third-party sources, such as distributor inventory levels and historical distributor sales to end users. In addition, the determination of such adjustments includes estimating rebate percentages which are dependent on estimated end-user sales mix and customer contractual terms, including volume discount tiers, which vary across customers.
How We Addressed the Matter in Our Audit
We obtained an understanding, evaluated the design and tested the operating effectiveness of key controls over the Company's process to calculate the reserves for contractual rebates and discounts, including their evaluation of third-party data inputs utilized in the reserve and accrual calculations, as well as the accuracy of the Company’s data inputs such as contractual pricing and estimated end user sales. Our audit procedures also included the evaluation of significant inputs through the evaluation of the Company's retrospective analysis of rebates claimed and volume discounts estimated compared to actual payments issued, evaluation of estimates based on historical experience, and performance of analytical procedures and sensitivity analyses over the Company's significant inputs. We also tested the underlying data used in management's calculations for accuracy and completeness, which included inspection of source data supporting the inventory levels, rebate claims paid subsequent to period end, and volume discounts settled during the period.
/s/ Ernst & Young LLP
We have served as the Company’s auditor since 2002.
San Diego, California
February 13, 2020
QUIDEL CORPORATION
CONSOLIDATED BALANCE SHEETS
(in thousands, except par value)
See accompanying notes.
QUIDEL CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share data)
See accompanying notes.
QUIDEL CORPORATION
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(in thousands)
See accompanying notes.
QUIDEL CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
(in thousands)
See accompanying notes.
QUIDEL CORPORATION
CONSOLIDATED STATEMENT OF CASH FLOWS
(in thousands)
See accompanying notes.
QUIDEL CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Note 1. Company Operations and Summary of Significant Accounting Policies
Quidel Corporation (the “Company”) commenced operations in 1979. The Company operates in one business segment, which develops, manufactures and markets rapid diagnostic testing solutions. These diagnostic tests can be categorized in the following product categories: Rapid Immunoassay, Cardiac Immunoassay, Specialized Diagnostic Solutions and Molecular Diagnostic Solutions. The Company sells its products directly to end users and distributors, in each case, for professional use in physician offices, hospitals, clinical laboratories, reference laboratories, leading universities, retail clinics and wellness screening centers. The Company markets its products through a network of distributors and a direct sales force.
The accompanying consolidated financial statements of the Company and its subsidiaries have been prepared in accordance with generally accepted accounting principles in the U.S.
Consolidation-The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany accounts and transactions have been eliminated.
Cash and Cash Equivalents-The Company considers cash equivalents to be highly liquid investments with a maturity at the date of purchase of three months or less. The Company invests its cash equivalents primarily in money market funds with high quality institutions.
Accounts Receivable-The Company sells its products directly to hospitals and reference laboratories as well as to distributors in the U.S. and sells directly to hospitals and labs and through distribution internationally (see Note 9). The Company periodically assesses the financial strength of these customers and establishes reserves for anticipated losses when necessary, which historically have not been material. The balance of accounts receivable is net of reserves of $16.0 million and $12.0 million at December 31, 2019 and 2018, respectively, of which the reserve related to contract rebates was $15.7 million and $11.5 million, respectively.
Concentration of Credit Risk-Financial instruments that potentially subject the Company to significant concentrations of credit risk consists principally of trade accounts receivable.
The Company performs credit evaluations of its customers’ financial condition and limits the amount of credit extended when deemed necessary, but generally requires no collateral. Credit quality is monitored regularly by reviewing credit history. The Company believes that the concentration of credit risk in its trade accounts receivables is moderated by its credit evaluation process, relatively short collection terms, the high level of credit worthiness of its customers, and letters of credit issued on the Company’s behalf. Potential credit losses are limited to the gross value of accounts receivable.
Inventories-Inventories are stated at the lower of cost (first-in, first-out) or net realizable value. The Company reviews the components of its inventory periodically for excess, obsolete and impaired inventory and records a reduction to the carrying value when identified.
Property, Plant and Equipment-Property, plant and equipment is recorded at cost and depreciated over the estimated useful lives of the assets (three to fifteen years) using the straight-line method. Amortization of leasehold improvements is computed on the straight-line method over the shorter of the lease term or the estimated useful lives of the related assets.
Goodwill and Intangible Assets-Intangible assets are recorded at cost and amortized on a straight-line basis over their estimated useful lives, except for indefinite-lived intangibles such as goodwill. Software development costs associated with software to be leased or otherwise marketed are expensed as incurred until technological feasibility has been established. After technological feasibility is established, software development costs are capitalized. The capitalized cost is amortized on a straight-line basis over the estimated product life or on the ratio of current revenues to total projected product revenues, whichever is greater.
Convertible Debt-The Company accounts for convertible debt instruments that may be settled in cash upon conversion (including combination settlement of cash equal to the “principal portion” and delivery of the “share amount” in excess of the conversion value over the principal portion in shares of common stock and/or cash) by separating the liability and equity components of the instruments in a manner that reflects our nonconvertible debt borrowing rate. The Company determines the carrying amount of the liability component by measuring the fair value of similar debt instruments that do not have the conversion feature. If no similar debt instrument exists, the Company estimates fair value by using assumptions that market
participants would use in pricing a debt instrument, including market interest rates, credit standing, yield curves and volatilities. Determining the fair value of the debt component requires the use of accounting estimates and assumptions. These estimates and assumptions are judgmental in nature and could have a significant impact on the determination of the debt component, and the associated non-cash interest expense. See Note 3 for additional discussion of the Convertible Senior Notes issued in December 2014.
Revenue Recognition-The Company records revenues primarily from product sales. These revenues are recorded net of rebates and other discounts. These rebates and discounts are estimated at the time of sale, and are largely driven by various customer program offerings, including special pricing agreements, promotions and other volume-based incentives. Rebates and discounts are calculated based upon historical experience, estimated discounting levels and estimated distributor inventory balances and recorded as a reduction of sales with offsets to accounts receivable and other current liabilities, respectively.
Revenue is recognized when control of the products is transferred to the customers in an amount that reflects the consideration the Company expects to receive from the customers in exchange for those products and services. This process involves identifying the contract with a customer, determining the performance obligations in the contract and the contract price, allocating the contract price to the distinct performance obligations in the contract and recognizing revenue when the performance obligations have been satisfied. A performance obligation is considered distinct from other obligations in a contract when it provides a benefit to the customer either on its own or together with other resources that are readily available to the customer and is separately identified in the contract. A performance obligation is considered to be satisfied once the control of a product is transferred to the customer or the service is provided to the customer, meaning the customer has the ability to use and obtain the benefit of the goods or service.
A portion of product sales includes revenues for diagnostic kits, which are utilized on leased instrument systems under the Company’s “reagent rental” program. The reagent rental program provides customers the right to use the instruments at no separate cost to the customer in consideration for a multi-year agreement to purchase annual minimum amounts of consumables (“reagents” or “diagnostic kits”). When an instrument is placed with a customer under a reagent rental agreement, the Company retains title to the equipment and it remains capitalized on the Company’s Consolidated Balance Sheets as property, plant and equipment, net. The instrument is depreciated on a straight-line basis over the lesser of the lease term or life of the instrument. Depreciation expense is recorded in cost of sales included in the Consolidated Statements of Operations. Instrument and consumables under the reagent rental agreements are deemed two distinct performance obligations. Though the instrument and consumables do not have any use to customers without one another, they are not highly interdependent because they do not significantly affect each other. The Company would be able to fulfill its promise to transfer the instrument even if its customers did not purchase any consumables and the Company would be able to fulfill its promise to provide the consumables even if customers acquired instruments separately. The contract price is allocated between these two performance obligations based on the relative standalone selling prices. The instrument is considered an operating lease and revenue allocated to the instrument will be separately disclosed, if material.
Research and Development Costs-Research and development costs are charged to operations as incurred. In conjunction with certain third-party service agreements, the Company is required to make periodic payments based on achievement of certain milestones. The costs related to these research and development services are also charged to operations as incurred.
Product Shipment Costs-Product shipment costs are included in sales and marketing expense in the accompanying Consolidated Statements of Operations. Shipping and handling costs were $9.5 million, $8.3 million and $3.7 million for the years ended December 31, 2019, 2018 and 2017, respectively.
Advertising Costs-Advertising costs are expensed as incurred. Advertising costs were $1.3 million, $0.9 million and $0.5 million for the years ended December 31, 2019, 2018 and 2017, respectively.
Income Taxes-Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, using enacted tax rates in effect for the year in which the differences are expected to reverse. Valuation allowances are established, when necessary, to reduce deferred tax assets to the amount expected to be realized. The Company’s policy is to recognize the interest expense and penalties related to income tax matters as a component of the income tax provision.
Fair Value of Financial Instruments- The Company uses the fair value hierarchy established in Accounting Standards Codification (“ASC”) Topic 820, Fair Value Measurements and Disclosures, which requires that the valuation of assets and liabilities subject to fair value measurements be classified and disclosed by the Company in one of the following three categories:
Level 1: Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;
Level 2: Quoted prices for similar assets and liabilities in active markets, quoted prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially the full term of the asset or liability; and
Level 3: Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e. supported by little or no market activity).
The carrying amounts of the Company’s financial instruments, including cash and cash equivalents, accounts receivables, accounts payable and accrued liabilities approximate their fair values due to their short-term nature.
Stock-Based Compensation-Compensation expense related to stock options granted is recognized ratably over the service vesting period for the entire option. For stock options with graded vesting, the Company ensures that the cumulative amount of compensation expense recognized at the end of any reporting period at least equals the portion of the stock option that has vested at that date. The total number of stock options expected to vest is adjusted by estimated forfeiture rates. The Company determined the estimated fair value of each stock option on the date of grant using the Black-Scholes option valuation model. The fair value of restricted stock units is determined based on the closing market price of the Company’s common stock on the grant date. Compensation expense for time-based restricted stock units (“RSUs”) is measured at the grant date and recognized ratably over the vesting period. A portion of the restricted stock granted are performance-based and vesting is tied to achievement of specific Company goals over a three-year time period, subject to early vesting upon achievement of the performance goals. For purposes of measuring compensation expense for performance-based restricted stock units (“PSUs”), the number of shares ultimately expected to vest is estimated at each reporting date based on management’s expectations regarding the relevant performance criteria. The grant date of the PSUs takes place when the grant is authorized and the specific achievement goals are communicated.
Comprehensive Income (loss)-Comprehensive income (loss) includes unrealized gains and losses which are related to the cumulative translation adjustments and derivative instruments excluded from the Company’s Consolidated Statements of Operations.
Use of Estimates-The preparation of financial statements in conformity with accounting principles generally accepted in the U.S. requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Accounting Periods-Each of the Company’s fiscal quarters end on the Sunday closest to the end of the calendar quarter. The Company’s fiscal years ended December 29, 2019, December 30, 2018 and December 31, 2017 were all 52 weeks. For ease of reference, the calendar year end dates are used herein.
Leases-Lease liabilities represent the obligation to make lease payments and right-of-use (“ROU”) assets represent the right to use the underlying asset during the lease term. Lease liabilities and ROU assets are recognized at the commencement date of the lease based on the present value of lease payments over the lease term at the commencement date. When the implicit rate is unknown, an incremental borrowing rate based on the information available at the commencement date is used in determining the present value of the lease payments. Options to extend or terminate the lease are included in the determination of the lease term when it is reasonably certain that the Company will exercise such options.
For certain classes of assets, the Company accounts for lease and non-lease components as a single lease component. Variable lease payments, including those related to changes in the consumer price index, are recognized in the period in which the obligation for those payments are incurred and are not included in the measurement of the ROU assets or lease liabilities. Short-term leases are excluded from the calculation of the ROU assets and lease liabilities.
Operating leases are included in right-of-use assets, current portion of operating lease liabilities and operating lease liabilities in the Consolidated Balance Sheet. Finance leases are included in property and equipment, other current liabilities and other non-current liabilities.
Recent Accounting Pronouncements-Accounting Standards Update (“ASU”) 2016-02 and ASU 2018-11 (collectively, “ASC 842”) requires a lessee to recognize a lease liability for the obligation to make lease payments and a ROU asset representing the right to use the underlying asset for the lease term on the balance sheet. Deferred rent, recorded in other current liabilities and other non-current liabilities, is derecognized. The Company adopted ASC 842 as of January 1, 2019 using the
alternative transition method to apply the guidance. The Company elected the package of practical expedients which, among other things, allows the Company to carry forward its historical lease classifications.
The following table presents the effect of the change in accounting principle on the Company’s Consolidated Balance Sheets as of January 1, 2019:
In January 2017, the Financial Accounting Standards Board (“FASB”) issued guidance codified in ASU 2017-04, Intangibles-Goodwill and Other (Topic 350) Simplifying the Test for Goodwill Impairment (“ASU 2017-04”). Under this new guidance, an entity will no longer determine goodwill impairment by calculating the implied fair value of goodwill by assigning the fair value of a reporting unit to all of its assets and liabilities as if that reporting unit had been acquired in a business combination. Instead, an entity will compare the fair value of a reporting unit with its carrying amount and recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value. The guidance is effective for fiscal years beginning after December 15, 2019 including interim periods therein, with early adoption permitted. The Company adopted the guidance during fiscal year 2019 with no impact to the Company’s consolidated financial statements.
In June 2016, the FASB issued ASU 2016-13, Financial Instruments - Credit Losses: Measurement of Credit Losses on Financial Instruments, which amends the impairment model by requiring entities to use a forward-looking approach based on expected losses to estimate credit losses on certain types of financial instruments, including trade receivables. The standard is effective for the Company beginning in the first quarter of 2020, with early adoption permitted. The Company adopted the guidance during the fourth quarter of fiscal year 2019 with no impact to the Company’s consolidated financial statements.
Note 2. Balance Sheet Account Details
Prepaid expenses and other current assets
The following is a summary of prepaid expenses and other current assets (in thousands):
Inventories
Inventories are stated at the lower of cost (first-in, first-out) or net realizable value. The following is a summary of inventories (in thousands):
Property, Plant and Equipment
The following is a summary of property, plant and equipment (in thousands):
The equipment, furniture and fixtures category above includes construction in progress and instruments that have not been placed at a customer under a lease agreement. These items will be reclassified when the assets are placed in service. The total expense for depreciation of fixed assets and amortization of leasehold improvements was $19.4 million, $17.7 million and $14.6 million for the years ended December 31, 2019, 2018 and 2017, respectively. Maintenance and minor repairs are charged to operations as incurred.
Goodwill and Intangible Assets
The Company had goodwill of $337.0 million as of December 31, 2019, which remains consistent with December 31, 2018. Finite-lived intangible assets consisted of the following (dollar amounts in thousands):
Amortization expense related to the capitalized software costs was $0.8 million, $1.0 million and $0.8 million for the years ended December 31, 2019, 2018 and 2017, respectively. Amortization expense (including capitalized software costs) was $27.5 million, $28.8 million and $16.1 million for the years ended December 31, 2019, 2018 and 2017, respectively.
The expected future annual amortization expense of the Company’s intangible assets is as follows (in thousands):
Other current liabilities
The following is a summary of other current liabilities (in thousands):
Note 3. Debt
Convertible Senior Notes
In December 2014, the Company issued $172.5 million aggregate principal amount of 3.25% Convertible Senior Notes due 2020. Debt issuance costs of approximately $5.1 million were primarily comprised of underwriters fees, legal, accounting, and other professional fees of which $4.2 million were capitalized and are recorded as a reduction to long-term debt and are being amortized using the effective interest method to interest expense over the six-year term of the Convertible Senior Notes. The remaining $0.9 million of debt issuance costs were allocated as a component of equity in additional paid-in capital.
Deferred issuance costs related to the Convertible Senior Notes were $0.1 million and $0.5 million as of December 31, 2019 and 2018, respectively.
The holders of the Convertible Senior Notes may surrender their notes for conversion, subject to specified circumstances, into cash, shares of common stock, or a combination of cash and shares of common stock, at the election of the Company, based on an initial conversion rate, subject to adjustment, of 31.1891 shares per $1,000 principal amount of the Convertible Senior Notes (which represents an initial conversion price of approximately 32.06 per share) up until the business day immediately preceding September 15, 2020. This conversion may, in the discretion of the holder, occur in the following circumstances and to the following extent: (1) during any calendar quarter commencing after the calendar quarter ending on March 31, 2015, if the last reported sales price of the Company’s common stock, for at least 20 trading days (whether or not consecutive) in the period of 30 consecutive trading days ending on the last trading day of the calendar quarter immediately preceding the calendar quarter in which the conversion occurs, is more than 130% of the conversion price of the notes in effect on each applicable trading day; (2) during the 5 consecutive business day period following any 5 consecutive trading day period in which the trading price per $1,000 principal amount of the Convertible Senior Note for each such trading day was less than 98% of the product of the last reported sale price of the Company’s common stock and the conversion rate on each such day; or (3) upon the occurrence of specified events described in the indenture for the Convertible Senior Notes. On or after September 15, 2020 until the close of business on the second scheduled trading day immediately preceding the stated maturity date, holders may surrender their notes for conversion at any time, regardless of the foregoing circumstances.
In general, for each $1,000 in principal, the “principal portion” of cash upon settlement is defined as the lesser of $1,000, or the conversion value during the 25-day observation period as described in the indenture for the Convertible Senior Notes. The conversion value is the sum of the daily conversion value, which is the product of the effective conversion rate divided by 25 days and the daily volume weighted-average price (“VWAP”) of the Company’s common stock. The “share amount” is the cumulative “daily share amount” during the observation period, which is calculated by dividing the daily VWAP into the difference between the daily conversion value (i.e., conversion rate x daily VWAP) and $1,000.
The Company pays 3.25% interest per annum on the principal amount of the Convertible Senior Notes semi-annually in arrears in cash on June 15 and December 15 of each year. The effective interest rate during fiscal year 2019 was 6.7%. The Convertible Senior Notes mature on December 15, 2020. During the year ended December 31, 2019, the Company recorded total interest expense of $2.2 million related to the Convertible Senior Notes of which $1.1 million related to the amortization of the debt discount and issuance costs and $1.1 million related to the coupon due semi-annually. During the year ended December 31, 2018, the Company recorded total interest expense of $6.1 million related to the Convertible Senior Notes of which $3.1 million related to the amortization of the debt discount and issuance costs and $3.0 million related to the coupon due semi-annually. During the year ended December 31, 2017, the Company recorded total interest expense of $10.9 million related to the Convertible Senior Notes of which $5.5 million related to the amortization of the debt discount and issuance costs and $5.4 million related to the coupon due semi-annually.
If a fundamental change, as defined in the indenture for the Convertible Senior Notes, such as certain acquisitions, mergers, or a liquidation of the Company, occurs prior to the maturity date, subject to certain limitations, holders of the Convertible Senior Notes may require the Company to repurchase all or a portion of their Convertible Senior Notes for cash at a repurchase price equal to 100% of the principal amount of the Convertible Senior Notes to be repurchased, plus any accrued and unpaid interest to, but excluding, the repurchase date.
The Company accounts separately for the liability and equity components of the Convertible Senior Notes in accordance with authoritative guidance for convertible debt instruments that may be settled in cash upon conversion. The guidance requires the carrying amount of the liability component to be estimated by measuring the fair value of a similar liability that does not have an associated conversion feature. Because the Company had no outstanding non-convertible public debt, the Company determined that senior, unsecured corporate bonds traded on the market represent a similar liability to the Convertible Senior Notes without the conversion option. Based on market data available for publicly traded, senior, unsecured corporate bonds issued by companies in the same industry with similar credit ratings and with similar maturity, the Company estimated the implied interest rate of its Convertible Senior Notes to be 6.9%, assuming no conversion option. Assumptions used in the estimate represent what market participants would use in pricing the liability component, which were defined as Level 2 observable inputs. The estimated implied interest rate was applied to the Convertible Senior Notes, which resulted in a fair value of the liability component of $141.9 million upon issuance, calculated as the present value of implied future payments based on the $172.5 million aggregate principal amount. The $30.7 million difference between the cash proceeds of $172.5 million and the estimated fair value of the liability component was recorded in additional paid-in capital, net of tax and issuance costs, as the Convertible Senior Notes were not considered redeemable.
During the fourth quarter of 2019, the last reported sales price of the Company’s common stock was greater than 130% of the Convertible Senior Notes conversion price for 20 or more of the 30 consecutive trading days preceding the quarter-end. Consequently, the Convertible Senior Notes were convertible as of December 31, 2019. If the Convertible Senior Notes were converted as of December 31, 2019, the if-converted amount would exceed the principal by $0.4 million. The Convertible Senior Notes may be settled at the Company’s option in cash or a combination of cash and shares of common stock.
During the year ended December 31, 2019, the Company entered into separate, privately negotiated exchange agreements with certain holders of the notes. To measure the resulting loss as of the settlement dates, the applicable interest rates were estimated using Level 2 observable inputs and applied to the converted notes using the same methodology as in the issuance date valuation. The following table summarizes information about the settlement of the Convertible Senior Notes (in thousands):
The following table summarizes information about the equity and liability components of the Convertible Senior Notes (dollars in thousands). The fair values of the respective notes outstanding were measured based on quoted market prices:
Credit Agreement
On August 31, 2018, the Company entered into an Amended and Restated Credit Agreement (the “Credit Agreement”) which provides the Company with a $175.0 million Revolving Credit Facility. The Company repaid $53.2 million in principal during the year ended December 31, 2019 and no balance remained outstanding as of December 31, 2019. The Credit Agreement has a term of five years and matures on August 31, 2023.
Loans will bear interest at a rate equal to (i) the London Interbank Offered Rate (“LIBOR”) plus the “applicable rate” or (ii) the “base rate” (defined as the highest of (a) the Bank of America prime rate, (b) the Federal Funds rate plus one-half of one percent and (c) LIBOR plus one percent) plus the “applicable rate.” The applicable rate is determined in accordance with a pricing grid based on the Company’s Consolidated Leverage Ratio (as defined in the Credit Agreement) ranging from 1.75% to 2.50% per annum for LIBOR rate loans and from 0.75% to 1.50% per annum for base rate loans. In addition, the Company pays a commitment fee on the unused portion of the Credit Agreement based on the Company’s Consolidated Leverage Ratio ranging from 0.15% to 0.30% per annum.
The Credit Agreement is guaranteed by certain material domestic subsidiaries of the Company (the “Guarantors”) and is secured by liens on substantially all of the assets of the Company and the Guarantors, excluding real property and certain other types of excluded assets, and contains affirmative and negative covenants that are customary for credit agreements of this nature. The negative covenants include, among other things, limitations on asset sales, mergers, indebtedness, liens, dividends and other distributions, investments and transactions with affiliates. The Credit Agreement contains two financial covenants: (i) maximum Consolidated Leverage Ratio (as defined in the Credit Agreement) as of the last day of each fiscal quarter of 3.50 to 1.00, which ratio may be increased to 4.50 to 1.00 in case of certain qualifying acquisitions; and (ii) a minimum Consolidated Fixed Charge Coverage Ratio (as defined in the Credit Agreement) of 1.25 to 1.00 as of the end of any fiscal quarter for the most recently completed four fiscal quarters. The Company was in compliance with all financial covenants as of December 31, 2019.
Interest expense recognized on the Credit Agreement including amortization of deferred issuance cost was $1.7 million and $6.5 million, respectively, for the years ended December 31, 2019 and 2018.
Note 4. Income Taxes
Significant components of the provision (benefit) for income taxes are as follows (in thousands):
The Company’s income (loss) before income taxes was subject to taxes in the following jurisdictions for the following periods (in thousands):
Significant components of the Company’s deferred tax assets and deferred tax liabilities as of December 31, 2019 and 2018 are shown below (in thousands):
Management assesses the available positive and negative evidence to estimate if sufficient future taxable income will be generated to use the existing deferred tax assets. For the three years ended December 31, 2019, the Company has demonstrated positive cumulative pre-tax book income. Such objective positive evidence allowed the Company to consider other subjective evidence, such as the Company’s projections for future profitability, to determine the realizability of its deferred tax assets. On the basis of this evaluation, during the quarter ended December 31, 2019, the Company increased the valuation allowance by $0.5 million related to the U.S. Foreign Tax Credit, which is shown as a deferred detriment during the period.
The valuation allowance of $2.4 million as of December 31, 2019 represents the portion of the deferred tax asset that management could not conclude was more likely than not to be realized. The amount of the deferred tax assets considered realizable could be adjusted in the future based on changes in available positive and negative evidence.
As of December 31, 2019, the Company had no federal net operating loss (“NOL”) carryforwards. The Company had state NOLs of approximately $31.3 million which will begin to expire in 2029 unless previously utilized. The Company has federal research credits of $3.8 million which will begin to expire on December 31, 2032 unless previously utilized. The Company has federal foreign tax credits of $2.4 million which will begin to expire on December 31, 2028 unless previously utilized. The Company has state research credits of $14.7 million, of which $14.2 million do not expire. The remaining $0.5 million will begin to expire in 2028 unless previously utilized.
Pursuant to Internal Revenue Code Sections 382 and 383, the Company’s use of its NOL and tax credit carryforwards may be limited as a result of cumulative changes in ownership of more than 50% over a three-year period. As of December 31, 2019, the Company does not believe any historical ownership change has limited the use of its NOLs or tax credit carryforwards.
The reconciliation of income tax computed at the federal statutory rate to the provision (benefit) for income taxes from continuing operations is as follows (in thousands):
On December 22, 2017, the Tax Cuts and Jobs Act (the “Tax Act”) was enacted into legislation, which includes a broad range of provisions affecting businesses. The Tax Act significantly revises how companies compute their U.S corporate tax liability by, among other provisions, reducing the corporate tax rate from 35% to 21% for tax years beginning after December 31, 2017, implementing a territorial tax system, and requiring a mandatory one-time tax on U.S. owned undistributed foreign earnings and profits known as the transition tax.
Pursuant to the SEC Staff Accounting Bulletin No. 118, Income Tax Accounting Implications of the Tax Cuts and Jobs Act (“SAB 118”), a company may select between one of three scenarios to determine a reasonable estimate arising from the Tax Act. Those scenarios are (i) a final estimate which effectively closes the measurement window; (ii) a reasonable estimate leaving the measurement window open for future revisions; and (iii) no estimate as the law is still being analyzed. The Company was able to provide a reasonable estimate for the provisional revaluation of deferred taxes and the effects of the transition tax on undistributed foreign earnings and profits for the period ended December 31, 2017. During the quarter ended December 31, 2018, the Company completed its accounting for the impacts of the Tax Act.
Additionally, the Company has elected to treat global intangible low taxed income (GILTI) as a period cost and will expense GILTI in the period it is incurred. Because of the Company’s current operational structure, there is minimal expected GILTI impacts for the year ended December 31, 2019 and future years.
The Company recognizes liabilities for uncertain tax positions based on a two-step process. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more than 50% likely of being realized upon settlement. While the Company believes that it has appropriate support for the positions taken on its tax returns, the Company regularly assesses the potential outcome of examinations by tax authorities in determining the adequacy of its provision for income taxes.
The following table summarizes the activity related to the Company’s unrecognized tax benefits (in thousands):
As of December 31, 2019, 2018 and 2017, the Company had unrecognized tax benefits of $17.2 million, $15.2 million, and $9.6 million respectively, of which $11.1 million and $9.3 million and $8.1 million, respectively, would reduce the Company’s annual effective tax rate. The Company does not anticipate any significant decreases in its unrecognized tax benefits over the next 12 months. The Company’s policy is to recognize the interest expense and penalties related to income tax matters as a component of the income tax expense. The Company has accrued approximately $0.4 million of interest and penalties associated with uncertain tax positions as of December 31, 2019 and $0.3 million for both of the years ended December 31, 2018 and 2017. Interest expense, net of accrued interest (reversed), was approximately $0.1 million for the years ended December 31, 2019, 2018 and 2017.
The Company is subject to periodic audits by domestic and foreign tax authorities. The Company is currently under audit with the State of Texas. Due to the carryforward of unutilized net operating loss and credit carryovers, the Company’s federal tax years from 2012 and forward and state tax years 2001 and forward are subject to examination by tax authorities. The Company believes that it has appropriate support for the income tax positions taken on its tax returns and that its accruals for tax liabilities are adequate for all open years based on an assessment of many factors, including past experience and interpretations of tax law applied to the facts of each matter.
Note 5. Stockholders’ Equity
Preferred Stock. The Company’s certificate of incorporation, as amended, authorizes the issuance of up to 5 million preferred shares. The Board of Directors is authorized to fix the number of shares of any series of preferred stock and to determine the designation of such shares. However, the amended certificate of incorporation specifies the initial series and the rights of that series. No shares of preferred stock were outstanding as of December 31, 2019, 2018 or 2017.
Equity Incentive Plan. The Company grants stock options, RSUs and PSUs to employees and non-employee directors under its 2018 Equity Incentive Plan (the “2018 Plan”). The Company previously granted stock options under its 2016 Equity Incentive Plan (the “2016 Plan”), Amended and Restated 2010 Equity Incentive Plan (the “2010 Plan”) and the Amended and Restated 2001 Equity Incentive Plan (the “2001 Plan”). The 2016 Plan, 2010 Plan and 2001 Plan were terminated at the time of adoption of the 2018 Plan, but the terminated Plans continue to govern outstanding options granted thereunder. The Company has stock options, RSUs and PSUs outstanding, which were issued under each of these equity incentive plans to certain employees and directors. Stock options granted under these plans have terms ranging up to ten years, have exercise prices ranging from $13.25 to $60.75 per share, and generally vest over four years. As of December 31, 2019, approximately 2.6 million shares remained available for grant and 4.3 million shares of common stock were reserved for future issuance under the 2018 Plan.
Restricted Stock Units. The Company grants both RSUs and PSUs to certain officers, directors and management. Until the restrictions lapse, ownership of the affected restricted stock units granted to the Company’s officers, directors and management is conditional upon continuous employment with the Company.
For the years ended December 31, 2019, 2018 and 2017, the Company granted approximately 0.3 million, 0.2 million and 0.3 million shares, respectively, of RSUs to Board of Directors, officers and management, which either have a time-based four-year vesting provision or performance-based vesting provisions.
During the years ended December 31, 2019 and 2018, RSUs were granted to certain members of the Board of Directors in lieu of cash compensation as a part of the Company’s non-employee director’s deferred compensation program. During the year ended December 31, 2017, common stock was issued to certain members of the Board of Directors in lieu of cash compensation for these members that elected to participate and agree to hold the stock for the elected deferral period. The compensation expense associated with these RSU grants were $0.5 million, $0.4 million and $0.1 million for the years ended December 31, 2019, 2018 and 2017, respectively.
Employee Deferred Bonus Compensation Program. For the years ended December 31, 2019 and 2018, certain employees of the Company were eligible to participate in the Company’s deferred bonus compensation program with respect to any payments received under the Company’s cash incentive plan. Participating employees could elect to receive 50% or 100% of the cash value of their cash bonus in the form of fully vested RSUs plus an additional premium as additional RSUs, issued under the 2018 Plan. The premium RSUs are subject to a one-year vesting requirement from the date of issuance. The additional premium will be determined based on the length of time of the deferral period selected by the participating employee as follows: (i) if one year from the date of grant, a premium of 10% on the amount deferred, (ii) if two years from the date of grant, a premium of 20% on the amount deferred, or (iii) if four years from the date of grant, a premium of 30% on the amount deferred.
Employee Stock Purchase Plan. Under the Company’s Amended and Restated 1983 Employee Stock Purchase Plan (the “ESPP”), full-time employees are allowed to purchase common stock through payroll deductions (which cannot exceed 10% of the employee’s compensation) at the lower of 85% of fair market value at the beginning or end of each six-month purchase period. As of December 31, 2019, 136,543 shares remained available for future issuance.
Share Repurchase Program. On December 12, 2018, the Board of Directors authorized a stock repurchase program pursuant to which up to $50.0 million of the Company’s shares of common stock may be purchased through December 12, 2020. There were no repurchases during 2018 and 2019 and at December 31, 2019, $50.0 million remained available under the new repurchase program.
Note 6. Stock-Based Compensation
Stock-based compensation expense was as follows (in thousands):
For the years ended December 31, 2019, 2018 and 2017, the Company recorded $1.4 million, $1.6 million and $0.1 million in stock-based compensation expense, respectively, associated with the deferred bonus compensation program, described in Note 5. During the years ended December 31, 2019 and 2018, $0.8 million and $1.6 million, respectively, was initially recorded as a component of accrued payroll and related expenses.
Stock-based compensation expense capitalized to inventory and compensation expense related to the Company’s ESPP were not material for the years ended December 31, 2019, 2018 and 2017.
Stock Options
Compensation expense related to stock options granted is recognized ratably over the service vesting period for the entire option award. The estimated fair value of each stock option was determined on the date of grant using the Black-Scholes option valuation model with the following weighted-average assumptions:
The computation of the expected option life is based on a weighted-average calculation combining the average life of options that have already been exercised and post-vest cancellations with the estimated life of the remaining vested and unexercised options. The expected volatility is based on the historical volatility of the Company’s stock. The risk-free interest rate is based on the U.S. Treasury yield curve over the expected term of the option. The Company has never paid any cash dividends on its common stock, and does not anticipate paying any cash dividends in the foreseeable future. Consequently, the Company uses an expected dividend yield of zero in the Black-Scholes option valuation model. The Company’s estimated forfeiture rate is based on its historical experience and future expectations.
The Company’s determination of fair value is affected by the Company’s stock price as well as a number of assumptions that require judgment. The weighted-average fair value per share was $23.67, $18.76 and $8.99 for options granted during the years ended December 31, 2019, 2018 and 2017, respectively. The total intrinsic value was $49.8 million, $38.2 million and $26.8 million for options exercised during the years ended December 31, 2019, 2018 and 2017, respectively. As of December 31, 2019, total unrecognized compensation expense related to stock options was approximately $5.2 million and the
related weighted-average period over which it is expected to be recognized is approximately 1.7 years. The maximum contractual term of the Company’s stock options is ten years.
A summary of the status of stock option activity for the years ended December 31, 2017, 2018 and 2019 is as follows (in thousands, except price data and years):
Restricted Stock Units
A summary of the status of restricted stock unit activity for the years ended December 31, 2017, 2018 and 2019 is as follows (in thousands, except price data):
The total amount of unrecognized compensation expense related to non-vested restricted stock units as of December 31, 2019 was approximately $17.5 million, which is expected to be recognized over a weighted-average period of approximately 1.8 years.
Note 7. Earnings (Loss) Per Share
Basic earnings (loss) per share (“EPS”) is computed by dividing net income (loss) by the weighted-average number of common shares outstanding. Diluted EPS is computed based on the sum of the weighted average number of common shares and potentially dilutive common shares outstanding during the period. Potentially dilutive common shares consist of shares issuable from stock options, unvested RSUs and the 3.25% Convertible Senior Notes. Potentially dilutive common shares from outstanding stock options and unvested RSUs are determined using the average share price for each period under the treasury stock method. Potentially dilutive shares from the Convertible Senior Notes are determined using the if-converted method. Under the provisions of the if-converted method, the Convertible Senior Notes are assumed to be converted and the resulting commons shares are included in the denominator of the EPS calculation and the interest expense, net of tax, recorded in connection with the Convertible Senior Notes is added back to net income.
The Convertible Senior Notes have a dilutive impact when the average market price of the Company’s common stock exceeds the applicable conversion price of the notes. The Convertible Senior Notes became convertible on March 31, 2018 and remained convertible through December 31, 2019.
The following table reconciles net income (loss) and the weighted-average shares used in computing basic and diluted earnings per share in the respective periods (in thousands):
Potentially dilutive shares excluded from the calculation above represent stock options when the combined exercise price and unrecognized stock-based compensation are greater than the average market price for the Company’s common stock because their effect is anti-dilutive.
The number of potentially dilutive shares issuable under the Convertible Senior Notes that would have been included in the diluted EPS calculation if the Company had earnings amounted to 1.4 million for the year ended December 31, 2017. Stock options and RSUs that would have been included in the diluted EPS calculation if the Company had earnings amounted to 1.4 million for the year ended December 31, 2017.
Note 8. Commitments and Contingencies
Leases
We lease administrative, research and development, sales and marketing and manufacturing facilities and certain equipment under various non-cancelable lease agreements. Facility leases generally provide for periodic rent increases, and may contain clauses for rent escalation, renewal options or early termination.
The components of lease expense and supplemental cash flow information related to leases were as follows (in thousands):
The Company leases its facilities and certain equipment. Commitments for minimum rentals under non-cancelable leases at the end of 2019 are as follows (dollars in thousands):
Summers Ridge Lease - The Company leased two of the four buildings that are located on the Summers Ridge Property in San Diego, California with an initial term of 15 years beginning as of January 2018 with options to extend the lease for two additional five-year terms upon satisfaction of certain conditions, which have not been included in the determination of the lease term. The lease is subject to must-take provisions related to two additional buildings, which will have the same lease term as the buildings originally leased. The lease for one building commenced during the year ended December 31, 2019, at which time the Company relocated its headquarters into the facility. The remaining building is subject to the expiration of the lease with its current tenant for which the expiration date is not yet known.
As a result of the relocation of its headquarters, the Company recorded an impairment charge of $1.5 million during the year ended December 31, 2019 related to the ROU asset and leasehold improvements for the existing headquarters facility. Such impairment loss was measured using discounted cash flows and available market data and recorded within acquisition and integration costs in the accompanying Consolidated Statements of Operations. The company entered into an agreement to sublease its former headquarters building in January 2020, with minimum rent of $2.5 million under the sublease agreement.
McKellar Lease - During 1999, the Company completed a sale and leaseback transaction of its San Diego facility at McKellar Court to a partnership for which the Company is a 25% limited partner. The partnership is deemed to be a variable interest entity (VIE). The Company is not, however, the primary beneficiary of the VIE as it does not have the power to direct the activities of the partnership and does not have the obligation to absorb losses or receive benefits of the partnership that could potentially be significant to the partnership. The McKellar Court lease ends in December 2020 and contains options to extend the lease for three additional five-year periods, of which one five-year period is included in the determination of the term. The Company made lease payments to the partnership of approximately $1.0 million for the year ended December 31, 2019 and $0.9 million for each of the years ended December 31, 2018 and 2017, respectively.
Purchase Commitments
The Company has $15.1 million in firm inventory purchase commitments as of December 31, 2019, the majority of which will be purchased within the next twelve months.
Litigation and Other Legal Proceedings
In Beckman Coulter Inc. v. Quidel Corporation, which was filed in the Superior Court for the County of San Diego, California, on November 27, 2017, Beckman Coulter (“Beckman”) alleges that a provision of an agreement between Quidel and Beckman violates state antitrust laws. Our acquisition of the B-type Naturietic Peptide assay business (“BNP Business”) consisted of assets and liabilities relating to a contractual arrangement with Beckman (the “Beckman Agreement”) for the supply of antibodies and other inputs related to, and distribution of, the Triage® BNP Test for the Beckman Coulter Access Family of Immunoassay Systems. The Beckman Agreement further provides that Beckman, for a specified period, cannot research, develop, manufacture or sell an assay for use in the diagnosis of cardiac diseases that measures or detects the presence or absence of BNP or NT-pro-BNP (a related biomarker) (the “Exclusivity Provision”). In the lawsuit, Beckman asserts that this provision violates certain state antitrust laws and is unenforceable. Beckman contends that it has suffered damages due to this provision and seeks a declaration that this provision is void.
On December 7, 2018, the trial court granted a motion by Beckman for summary adjudication, holding that the Exclusivity Provision is void under California law (the “December 7 Order”). On December 18, 2018, the trial court stayed the effect of the December 7 Order pending a decision on a writ petition Quidel intended to file with the Court of Appeal. Quidel filed its writ petition on January 18, 2019, asking the Court of Appeal to review and reverse the December 7 Order. On February 7, 2019, the trial court stayed all the remaining litigation pending the outcome of the writ petition and vacated all deadlines in the case.
On March 14, 2019, the Court of Appeal issued an order to show cause why the relief sought in Quidel’s petition should not be granted. The Court also stayed the December 7 Order pending a further order from the Court of Appeal. On August 29, 2019, the Court of Appeal issued a written decision ruling in Quidel’s favor and overturning the December 7 Order. Beckman challenged the Court of Appeal’s ruling with a petition for rehearing on September 10, 2019, which was denied on September 13, 2019.
On October 1, 2019, Beckman filed a petition for review of the Court of Appeal’s ruling with the Supreme Court of California (the “Supreme Court”). We subsequently filed an answer to Beckman’s petition, Beckman filed a response to our reply and on November 13, 2019, the Supreme Court granted review of the Court of Appeal ruling, with further action in this matter being deferred pending consideration and disposition of a related issue in Ixchel Pharma v. Biogen, or pending further order of the Supreme Court.
On November 22, 2019, the trial court continued the stay at the trial court level and scheduled a status conference for
December 11, 2020.
Quidel denies that the Exclusivity Provision is unlawful, denies any liability with respect to this matter, and intends to vigorously defend itself. There are multiple factors that prevent us from being able to estimate the amount of loss, if any, that may result from this matter including: (1) we are vigorously defending ourselves and believe that we have a number of meritorious legal defenses; (2) there are unresolved questions of law and fact that could be important to the ultimate resolution of this matter, some of which are subject to review by the Supreme Court; and (3) discovery is ongoing. Accordingly, at this time, we are not able to estimate a possible loss or range of loss that may result from this matter or to determine whether such loss, if any, would have a material adverse effect on our financial condition, results of operations or liquidity.
From time to time, the Company is involved in other litigation and proceedings, including matters related to product liability claims, commercial disputes and intellectual property claims, as well as regulatory, employment, and other claims related to our business. The Company accrues for legal claims when, and to the extent that, amounts associated with the claims become probable and are reasonably estimable. The actual costs of resolving legal claims may be substantially higher or lower than the amounts accrued for those claims. For those matters as to which we are not able to estimate a possible loss or range of loss, we are not able to determine whether the loss will have a material adverse effect on our business, financial condition or results of operations or liquidity. No accrual has been recorded as of December 31, 2019 and December 31, 2018 related to such matters as they are not probable and/or reasonably estimable.
Management believes that all such current legal actions, in the aggregate, will not have a material adverse effect on the Company. However, the resolution of, or increase in any accruals for, one or more matters may have a material adverse effect on the Company’s results of operations and cash flows.
The Company also maintains insurance, including coverage for product liability claims, in amounts that management believes are appropriate given the nature of its business.
Licensing Arrangements
The Company has entered into various licensing and royalty agreements, which largely require payments by the Company based on specified product sales as well as the achievement of specified milestones. The Company had royalty and license expenses relating to those agreements of approximately $1.1 million, $0.4 million and $0.6 million for the years ended December 31, 2019, 2018 and 2017, respectively.
Note 9. Industry and Geographic Information
The Company operates in one reportable segment. Sales to customers outside the U.S. represented 33%, 32% and 18% of total revenue for the years ended December 31, 2019, 2018 and 2017, respectively, of which sales to customers in China comprised 13%, 10% and 1%, respectively. As of December 31, 2019 and 2018, balances due from foreign customers were $23.0 million and $23.4 million, respectively. For the years ended December 31, 2019, 2018 and 2017, sales of our influenza products accounted for 26%, 24%, and 39% respectively, of total revenue.
The Company had sales to individual customers in excess of 10% of total revenue, as follows:
As of December 31, 2019 and 2018, accounts receivable from individual customers with balances due in excess of 10% of total accounts receivable totaled $67.4 million and $33.3 million, respectively.
The following presents long-lived assets (excluding intangible assets) and total net revenue by geographic territory (in thousands):
Consolidated net revenues by product category are as follows (in thousands):
Note 10. Fair Value Measurement
The following table presents the Company’s hierarchy for its assets and liabilities measured at fair value on a recurring basis as of the following periods (in thousands):
There were no transfers of assets or liabilities between Level 1, Level 2 and Level 3 categories of the fair value hierarchy during the years ended December 31, 2019 and 2018.
Derivative financial instruments are based on observable inputs that are corroborated by market data. Observable inputs include broker quotes and daily market foreign currency rates and forward pricing curves.
In connection with the acquisition of the BNP Business, the Company pays annual installments of $40.0 million each in deferred consideration through April 2023 and up to $8.0 million each in contingent consideration through April 2022. The fair value of the deferred consideration is calculated based on the net present value of cash payments using an estimated borrowing rate based on a quoted price for a similar liability. The fair value of contingent consideration is calculated using a discounted probability weighted valuation model. Significant assumptions used in the measurement include revenue projections and discount rates that are not observed in the market and thus represent Level 3 measurements.
The Company assesses the fair value of contingent consideration to be settled in cash related to these prior acquisitions using a discounted revenue model. Significant assumptions used in the measurement include revenue projections and discount rates. This fair value measurement of contingent consideration is based on significant inputs not observed in the market and
thus represent Level 3 measurements. The changes in fair value of the contingent considerations during the years ended 2019, 2018 and 2017 were due to changes in the estimated payments and discounting periods.
Changes in estimated fair value of contingent consideration liabilities from December 31, 2016 through December 31, 2019 are as follows (in thousands):
Note 11. Employee Benefit Plan
The Company has a defined contribution 401(k) plan (the “401(k) Plan”) covering all employees who are eligible to join the 401(k) Plan upon employment. Employee contributions are subject to a maximum limit by federal law. This Plan includes an employer match of 50% on the first 6% of pay contributed by the employee. The Company contributed approximately $2.5 million, $2.6 million and $1.5 million to the 401(k) Plan during the years ended December 31, 2019, 2018 and 2017, respectively.
Note 12. Derivatives and Hedging
In the normal course of business, the Company is exposed to gains and losses resulting from fluctuations in foreign currency exchange rates. As part of its strategy to manage the level of exposure to the risk of fluctuations in foreign currency exchange rates, the Company uses designated cash flow hedges in the form of foreign currency forward contracts to mitigate the impact of foreign currency translation on transactions that are denominated primarily in the Euro and the Chinese Yuan. All hedging relationships for all derivative hedges and the underlying hedged items, as well as the risk management objectives and strategies for undertaking the hedge transactions are formally documented. The Company does not use any derivative financial instruments for trading or other speculative purposes.
Such forward foreign currency contracts are carried at fair value in prepaid expenses and other current assets or other current liabilities depending on the unrealized gain or loss position of the hedged contract as of the balance sheet date. Changes in the value of the derivatives are recorded to other comprehensive income (loss) until the underlying hedged item is recognized in earnings, or the derivative no longer qualifies as a highly effective hedge. The cash flows from derivatives treated as hedges are classified in the Consolidated Statements of Cash Flows in the same category as the item being hedged.
The notional principal amounts for outstanding derivative instruments provide one measure of the transaction volume outstanding and do not represent the amount of our exposure to credit or market loss. Credit risk represents our gross exposure to potential accounting loss on derivative instruments that are outstanding or unsettled if all counterparties failed to perform according to the terms of the contract, based on then-current currency exchange rates at each respective date. We generally enter into master netting arrangements, which reduces credit risk by permitting net settlement of transactions with the same counterparty. We present our derivative assets and derivative liabilities at their net fair values. We did not have any derivative instruments with credit-risk related contingent features that would require us to post collateral.
The following table summarizes the fair value and notional amounts of the foreign currency forward contracts as of December 31, 2019 (in thousands):
Note 13. Selected Quarterly Financial Data (unaudited)
SCHEDULE II
QUIDEL CORPORATION
CONSOLIDATED VALUATION AND QUALIFYING ACCOUNTS
(1)
Represents charges associated primarily to allowances for contracts rebates recorded as reductions to revenue. Additions to allowance for doubtful accounts are recorded to sales and marketing expense.
(2)
The deductions represent actual charges against the accrual described above.
Item 9.
Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
None.
Item 9A.
Item 9A. Controls and Procedures
Evaluation of disclosure controls and procedures: We have performed an evaluation under the supervision and with the participation of our management, including our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), of the effectiveness of our disclosure controls and procedures, as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934 (the “Exchange Act”). Based on that evaluation, our CEO and CFO concluded that our disclosure controls and procedures were effective as of December 31, 2019 at a reasonable assurance level to ensure that information required to be disclosed by us in the reports filed or submitted by us under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms.
Changes in internal control over financial reporting: There was no change in our internal control over financial reporting during the quarter ended December 31, 2019 that materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
Management’s report on internal control over financial reporting: Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Exchange Act Rule 13a-15(f). Our internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of our financial statements for external purposes in accordance with U.S. generally accepted accounting principles. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. Under the supervision and with the participation of our management, including our CEO and CFO, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control-Integrated Framework (2013), issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on our evaluation under the framework in Internal Control-Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2019.
The effectiveness of our internal control over financial reporting as of December 31, 2019 has been audited by Ernst & Young LLP, our independent registered public accounting firm, as stated in their report which is included in this Item 9A.
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Shareholders and the Board of Directors of Quidel Corporation
Opinion on Internal Control over Financial Reporting
We have audited Quidel Corporation’s internal control over financial reporting as of December 31, 2019, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework), (the COSO criteria). In our opinion, Quidel Corporation (the Company) maintained, in all material respects, effective internal control over financial reporting as of December 31, 2019, based on the COSO criteria.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of December 31, 2019 and 2018, the related consolidated statements of operations, comprehensive income (loss), stockholders‘ equity, and cash flows, for each of the three years in the period ended December 31, 2019, and the related notes and schedule listed in the Index at Item 15(a)(2) and our report dated February 13, 2020 expressed an unqualified opinion thereon.
Basis for Opinion
The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audit in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects.
Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
Definition and Limitations of Internal Control Over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ Ernst & Young LLP
San Diego, California
February 13, 2020
Item 9B.
Item 9B. Other Information
2020 Annual Meeting of Stockholders
The Company’s 2020 Annual Meeting of Stockholders will be held on Tuesday, May 5, 2020, beginning at 8:30 a.m. (local time) at the Inn of the Hills, 1001 Junction Hwy, Kerrville, Texas 78028.
Part III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance
The information required by this item is incorporated by reference to our 2020 proxy statement, which will be filed with the SEC no later than April 30, 2020 (the “2020 Proxy Statement”). Information with respect to the Company’s executive officers is included under Part 1 of this Annual Report.
Item 11.
Item 11. Executive Compensation
The information required by this item is incorporated by reference from our 2020 Proxy Statement.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The information required by this item is incorporated by reference from our 2020 Proxy Statement.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence
The information required by this item is incorporated by reference from our 2020 Proxy Statement.
Item 14.
Item 14. Principal Accountant Fees and Services
The information required by this item is incorporated by reference from our 2020 Proxy Statement.
Part IV
Item 15.
Item 15. Exhibits and Financial Statement Schedules
The following documents are filed as part of this Form 10-K:
(a)
(1) Financial Statements
The Consolidated Financial Statements required by this Item are submitted in Part II, Item 8 of this Form 10-K.
(2) Financial Statement Schedules
The following Financial Statement Schedule of Quidel Corporation for the years ended December 31, 2019, 2018 and 2017 is submitted in Part II, Item 8 of this Form 10-K and should be read in conjunction with the Consolidated Financial Statements of Quidel Corporation:
Schedule II. Consolidated Valuation and Qualifying Accounts.
Financial Statement Schedules not listed above have been omitted because of the absence of conditions under which they are required or because the required information is included in the Consolidated Financial Statements or the Notes thereto.
(3) Exhibits. See Paragraph 15(b) below.
(b)
Exhibits
The Exhibit Index immediately following this Item 15 is filed as part of, and incorporated by reference into, this Annual Report on Form 10-K.
(c)
Financial Statements required by Regulation S-X which are excluded from this Annual Report on Form 10-K by Rule 14(a)-3(b).
Not applicable.
EXHIBIT INDEX
*
Filed / furnished herewith
(1)
Indicates a management plan or compensatory plan or arrangement.
Item 16. Form 10-K Summary
Not applicable.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
QUIDEL CORPORATION
By
/s/ DOUGLAS C. BRYANT
Date: February 13, 2020
Douglas C. Bryant
President, Chief Executive Officer
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.