We have
revised and re-ordered our discussion of the risk factors affecting our business since those presented in our Annual Report on Form 10-K, Part I, Item 1A, for the fiscal year ended December 31, 2012. For convenience, all of our risk
factors are included below, and we have denoted with an asterisk (*) those risk factors that have been materially revised. If any of the following risks actually occurs, our business, financial condition, results of operations and cash flows
could be materially adversely affected. This section contains forward-looking statements. You should refer to the explanation of the qualifications and limitations on forward-looking statements beginning on page 12.
Risks Related to Our Business and Industry
We have a history of net losses, and we may not be able to maintain our profitability.
We incurred net losses of approximately $2.9 million in 2011 and $5.5 million in 2010. Although we were profitable in 2012 and in the first quarter of 2013, we may not be able to maintain this
profitability for the remainder of 2013, or thereafter. If we are unable to maintain profitability, the market value of our stock may decline, and an investor could lose all or a part of their investment.
If there is not sufficient consumer demand for the procedures performed with our products, practitioner demand for our products
could decline, which would adversely affect our operating results.
The aesthetic laser and light-based treatment
system industry in which we operate is particularly vulnerable to economic trends. Most procedures performed using our aesthetic treatment systems are elective procedures that are not reimbursable through government or private health insurance. The
cost of these elective procedures must be borne by the patient. As a result, the decision to undergo a procedure that utilizes our products may be influenced by the cost.
Consumer demand, and therefore our business, is sensitive to a number of factors that affect consumer spending, including political and macroeconomic conditions, health of credit markets, disposable
consumer income levels, consumer debt levels, interest rates and consumer confidence. If there is not sufficient consumer demand for the procedures performed with our products, practitioner demand for our products would decline, and our
business would suffer.
Consumer demand for these procedures, and practitioner demand for our products, decreased dramatically
during 2009, which contributed to a decrease in our total product revenues from $123.2 million in 2008 to $55.9 million in 2009. However, demand has increased from 2010 through the first quarter of 2013. We believe that consumer demand for
discretionary aesthetic laser treatments remains uncertain and may continue to adversely affect our operating results.
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Our financial results may fluctuate from quarter to quarter, which makes our results
difficult to predict and could cause our results to fall short of expectations.
Our financial results may fluctuate as
a result of a number of factors, many of which are outside of our control. For these reasons, comparing our financial results on a period-to-period basis may not be meaningful, and you should not rely on our past results as an indication of our
future performance. Our future quarterly and annual expenses as a percentage of our revenues may be significantly different from those we have recorded in the past or which we expect for the future. Our financial results in some quarters may fall
below our expectations or the expectations of market analysts or investors. Any of these events could cause our stock price to fall. Each of the risk factors listed in this Risk Factors section, and the following factors, may adversely
affect our financial results:
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our inability to introduce new products to the market in a timely fashion, or at all;
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continued availability of attractive equipment leasing terms for our customers, which may be negatively influenced by interest rate increases or lack
of available credit;
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increases in the length of our sales cycle; and
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reductions in the efficiency of our manufacturing processes.
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In addition, we may be subject to seasonal fluctuations in our results of operations, because our customers may be more likely to make
equipment purchasing decisions near year-end, and because practitioners may be less likely to make purchasing decisions in the summer months.
Our competitors may prevent us from achieving further market penetration or improving operating results.
Competition in the aesthetic device industry is intense. Our products compete against products offered by public companies, such as Cutera, Solta Medical, Syneron Medical, ZELTIQ Aesthetics and Palomar,
which we have agreed to acquire, as well as several smaller specialized private companies, such as Alma Lasers. Some of these competitors have greater financial and human resources than we do and have established reputations, as well as worldwide
distribution channels and sales and marketing capabilities that are larger and more established than ours. Additional competitors may enter the market, and we are likely to compete with new companies in the future.
We also face competition against non-light-based medical products, such as BOTOX
®
and collagen injections, and surgical and non-surgical aesthetic procedures, such as face lifts, chemical peels,
abdominoplasty, liposuction, microdermabrasion, sclerotherapy and electrolysis. We may also face competition from manufacturers of pharmaceutical and other products that have not yet been developed. As a result of competition with these companies,
products and procedures, we could experience loss of market share and decreasing revenue as well as reduced prices and profit margins, any of which would harm our business and operating results.
As a result of competition with our competitor companies, products and procedures, we could experience loss of market share and
decreasing revenue as well as reduced prices and profit margins, any of which would harm our business and operating results.
Our ability to compete effectively depends upon our ability to distinguish our company and our products from our competitors and their
products. Factors affecting our competitive position include:
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product performance and design;
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ability to sell products tailored to meet the applications needs of clients and patients;
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quality of customer support;
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sales, marketing and distribution capabilities;
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success and timing of new product development and introductions; and
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intellectual property protection.
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We may be exposed to credit risk of customers that have been adversely affected by weakened markets.
In the event of deterioration of general business conditions or the availability of credit, the financial strength and stability of our customers and potential customers may deteriorate over time, which
may cause them to cancel or delay their purchase of our products. In addition, we may be subject to increased risk of non-payment of our accounts receivables. We may also be adversely affected by bankruptcies or other business failures of our
customers and potential customers. A significant delay in the collection of funds or a reduction of funds collected may impact our liquidity or result in bad debts.
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If we do not continue to develop and commercialize new products and identify new
markets for our products and technology, we may not remain competitive, and our revenues and operating results could suffer.
The aesthetic laser and light-based treatment system industry is subject to continuous technological development and product innovation. For the three months ended March 31, 2013, 46% of our product
revenues were attributable to the sale of systems that we have introduced to the market since the beginning of 2010. If we do not continue to innovate and develop new products and applications, our competitive position will likely deteriorate as
other companies successfully design and commercialize new products and applications. Accordingly, our success depends in part on developing or acquiring new and innovative applications of laser and other light-based technology and identifying new
markets for and applications of existing products and technology. If we are unable to develop and commercialize new products, identify and acquire complementary businesses, products or technologies, and identify new markets for our products and
technology, our product and technology offerings could become obsolete and our revenues and operating results could be adversely affected.
To remain competitive, we must:
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develop or acquire new technologies that either add to or significantly improve our current products;
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convince our target practitioner customers that our new products or product upgrades would be attractive revenue-generating additions to their
practices;
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sell our products to non-traditional customers, including primary care physicians, gynecologists and other specialists;
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identify new markets and emerging technological trends in our target markets and react effectively to technological changes; and
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maintain effective sales and marketing strategies.
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If our new products do not gain market acceptance, our revenues and operating results could suffer, and our newer generation product sales could cause earlier generation product sales to suffer.
The commercial success of the products and technology we develop will depend upon the acceptance of these products by
providers of aesthetic procedures and their patients and clients, and in the case of our home-use system, consumers. It is difficult for us to predict how successful recently introduced products, or products we are currently developing, will be over
the long term. If the products we develop do not gain market acceptance, our revenues and operating results could suffer.
We
expect that many of the products we develop will be based upon new technologies or new applications of existing technologies. It may be difficult for us to achieve market acceptance of some of our products, particularly the first products that we
introduce to the market based on new technologies or new applications of existing technologies.
For example, in the first
quarter of 2013 we launched our
PicoSure
laser system for the removal of tattoos and benign pigmented lesions. The
PicoSure
system, which is based on several years of research and development effort and expense, is the first
commercially available picosecond Alexandrite aesthetic laser system on the market. Acceptance of our
PicoSure
laser system by providers of aesthetic procedures and their patients and clients is important to our commercial success.
We are also developing in conjunction with Unilever a laser treatment system for the home-use market. This system has been
cleared by the FDA for marketing in the United States for the treatment of wrinkles. Unilever holds exclusive rights to sell this product, and Unilever has advised us that it expects to launch this product commercially near the end of 2013. However,
because competitors have already introduced home-use laser systems to the market, this home-use system may not gain anticipated levels of market acceptance. If these products or others that we introduce do not gain market acceptance, our business
would suffer.
As we introduce new technologies to the market, our earlier generation product sales could suffer, which may
result in write-offs of those earlier generation products. For example, in 2009, we recorded a $2.1 million charge to cost of product revenues related to the write-down of an earlier generation product. The write-down resulted, in part, from
customers adopting our newer generation products more quickly than we anticipated, coupled with the downturn in the overall aesthetic laser market.
If demand for our aesthetic treatment systems by physician customers does not increase, or if our home-use product does not achieve market acceptance, our revenues will suffer and our business will
be harmed.
We market our aesthetic treatment systems to physicians and other practitioners. In addition, through our
development agreement with Unilever, we plan to begin to address the home-use aesthetic laser market near the end of 2013. We believe, and our growth expectations assume, that we and other companies selling lasers and other light-based aesthetic
treatment systems have not fully penetrated these markets and that we will continue to receive a significant percentage of our revenues from selling to these markets. If our expectations as to the size of these markets and our ability to sell our
products to participants in these markets are not correct, our revenues will suffer and our business will be harmed.
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We sell our products and services through subsidiaries and distributors in numerous
international markets. Our operating results may suffer if we are unable to manage our international operations effectively.
We sell our products and services through subsidiaries and distributors in approximately 100 foreign countries, and we therefore are subject to risks associated with having international operations. We
derived 49%, 56% and 55% of our product revenues from sales outside North America for the years ended December 31, 2012, 2011 and 2010, respectively. In the first quarter of 2013 we derived 52% of our product revenues from sales outside of
North America. Our gross margin has decreased from periods prior to 2009 as a result of a higher percentage of laser revenue from our international markets, where our products tend to have lower average selling prices than in North America.
Our international sales are subject to a number of risks, including:
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foreign certification and regulatory requirements;
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difficulties in staffing and managing our foreign operations;
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import and export controls; and
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political and economic instability.
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If we are unsuccessful at managing these risks, our results of operations may be adversely affected.
We may incur foreign currency translation charges as a result of changes in currency exchange rates, which could cause our operating results to suffer.
The U.S. dollar is our functional currency. Although we sell our products and services through subsidiaries and distributors in
approximately 100 foreign countries, approximately 50% of our revenues outside of North America for the year ended December 31, 2012, and 44% of our revenues outside of North America for the year ended December 31, 2011, were denominated
in or linked to the U.S. dollar. In the first quarter of 2013, 53% of our revenues outside of North America were denominated in or linked to the U.S. dollar. Substantially all of our remaining revenues and all of our operating costs outside of North
America are recognized in euros, British pounds, Japanese yen, Chinese yuan and South Korean won. We have not historically engaged in hedging activities relating to our non-U.S. dollar operations. Fluctuations in exchange rates between the
currencies in which such revenues are realized or costs are incurred and the dollar may have a material adverse effect on our results of operations and financial condition.
We may not receive revenues from our current research and development efforts for several years, if at all.
Investment in product development often involves a long payback cycle. For example, our
PicoSure
laser system, which we launched in the first quarter of 2013, has been in development by us for
several years. We have made and expect to continue making significant investments in research and development and related product opportunities. Accelerated product introductions and short product life cycles require high levels of expenditures for
research and development that could adversely affect our operating results if not offset by revenue increases. We believe that we must continue to dedicate a significant amount of resources to our research and development efforts to maintain our
competitive position. However, we may not generate anticipated revenues from these investments for several years, if at all.
Because we do not require training for users of our non-invasive products, and we sell these products to non-physicians, there
exists an increased potential for misuse of these products, which could harm our reputation and our business.
Federal
regulations allow us to sell our products to or on the order of practitioners licensed by law to use or order the use of a prescription device. The definition of licensed practitioners varies from state to state. As a result, our
products may be purchased or operated by physicians with varying levels of training and, in many states, by non-physicians, including nurse practitioners, chiropractors and technicians. Outside the United States, many jurisdictions do not require
specific qualifications or training for purchasers or operators of our products. We do not supervise the procedures performed with our non-invasive products or require that direct medical supervision occur. We and our distributors offer product
training sessions, but neither we nor our distributors require purchasers or operators of our non-invasive products to attend training sessions. The lack of required training and the purchase and use of our non-invasive products by non-physicians
may result in product misuse and adverse treatment outcomes, which could harm our reputation and expose us to costly product liability litigation.
We may be unable to attract and retain management and other personnel we need to succeed.
Our success depends on the services of our senior management and other key research and development, manufacturing, sales and marketing employees. The loss of the services of one or more of these
employees could have a material adverse effect on our business. We consider retaining Michael R. Davin, our president and chief executive officer, to be key to our efforts to develop, sell and market our products and remain competitive. We have
entered into an employment agreement with Mr. Davin; however, the employment agreement is terminable by him on short notice and may not ensure his continued service with our company. Our future success will depend in large part upon our ability
to attract, retain and motivate highly skilled employees. We cannot be certain that we will be able to do so.
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Our stock price has fluctuated substantially, and we expect it will continue to do so.
Our Class A common stock price has fluctuated substantially since our initial public offering in 2005. From
January 1, 2011 through May 3, 2013, our Class A common stock has traded as high as $30.20 per share and as low as $8.84 per share. The stock market in general has experienced extreme volatility that has often been unrelated to the
operating performance of particular companies. The market price for our Class A common stock may be influenced by many factors, including:
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the success of competitive products or technologies;
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regulatory developments in the United States and foreign countries;
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developments or disputes concerning patents or other proprietary rights;
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the recruitment or departure of key personnel;
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variations in our financial results or those of companies that are perceived to be similar to us;
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market conditions in our industry and issuance of new or changed securities analysts reports or recommendations; and
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general economic, industry and market conditions.
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In addition, if the stock market in general experiences a loss of investor confidence, the trading price of our Class A common stock could decline for reasons unrelated to our business, financial
condition or results of operations. A decline in our stock price could result in the loss of all or a part of our stockholders investments.
Risks Related to Our Reliance on Third Parties
If we fail to obtain
key components of our products from our sole source or limited source suppliers or service providers, our ability to manufacture and sell our products would be impaired and our business could be materially harmed.
We depend on sole or limited suppliers of certain components and systems that are critical to the products that we manufacture and sell,
and to which the significant majority of our revenues are attributable. We depend on El.En. for the
SmartLipo MPX
system and the
SLT II
laser system that we integrate with our own proprietary software and delivery systems into our
Smartlipo Triplex
and
Cellulaze
systems. We use Alexandrite rods to manufacture the lasers for our
Elite
and
PicoSure
products and Nd:Yag rods to manufacture the lasers for our
RevLite
/
MedLite C6
products.
We depend exclusively on Northrop Grumman SYNOPTICS to supply both the Alexandrite and Nd:Yag rods to us, and we are aware of no alternative supplier of Alexandrite rods meeting our quality standards. We use gaussian mirrors and polarizers to
manufacture our
RevLite
/
MedLite C6
product lines, for which we depend exclusively on Channel Islands Opto-Mechanical Engineering and JDS Uniphase Corporation, respectively. We offer our
SmartCool
treatment cooling systems for
use with our laser aesthetic treatment systems, and we depend exclusively on Zimmer Elektromedizin GmbH to supply
SmartCool
systems to us. In addition, one third party supplier assembles and tests many of the components and subassemblies for
our
Elite, Cynergy, SmoothShapes XV, Affirm
and
Accolade
product families.
In October 2012, we entered into a
new exclusive distribution agreement with El.En., which replaced our prior distribution agreements with El.En, and pursuant to which we purchase from it the
SmartLipo MPX
system and the
SLT II
laser system. We have exclusive worldwide
rights under this agreement to sell the
SmartLipo MPX
systems and products containing the
SLT II
laser system. The price at which we purchase the
SLT II
laser system from El.En. is specified in the agreement; however, it may be
changed by El.En. at its discretion upon 30 days notice. We are required to use commercially reasonable efforts to sell and promote our systems containing the
SLT II
laser system, and we are responsible for obtaining and maintaining
regulatory approvals for systems containing the
SLT II
laser system. The new distribution agreement has an initial term that expires in October 2019, and it will automatically renew for additional one-year terms unless either party provides
notice of termination at least six months prior to the expiration of the initial term or any subsequent renewal term. We or El.En. may terminate the agreement at any time based upon material uncured breaches by, or the insolvency of, the other
party. In addition, El.En. may terminate the agreement if we do not meet annual minimum purchase obligations specified in the agreement and we may terminate if El.En. rejects a purchase order that is in line with our forecast.
Other than with El.En., we do not have long-term arrangements with any of our suppliers for the supply of these components or systems or
with the assembly and test service provider referenced above, but instead purchase from them on a purchase order basis. Northrop Grumman SYNOPTICS, Channel Islands Opto-Mechanical Engineering, JDS Uniphase Corporation and Zimmer Elektromedizin are
not required, and may not be able or willing, to meet our future requirements at current prices, or at all.
Under our
agreement with El.En. and our purchase order arrangements with our other suppliers and service providers, we are vulnerable to supply shortages and cessations and price fluctuations with respect to these critical components and systems and services.
Such shortages or cessations could occur either as a result of breach by El.En. or us of our new distribution agreement, or as a result of other types of business decisions made by El.En. or other suppliers and service providers. Any extended
interruption in our supplies of these components or systems or in the assembly and test services could materially harm our business.
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We rely on third party distributors to market, sell and service a significant portion
of our products. If these distributors do not commit the necessary resources to effectively market, sell and service our products or if our relationships with these distributors are disrupted, our business and operating results may be harmed.
In North America, France, Spain, the United Kingdom, Germany, Korea, China, Japan and Mexico, we sell our products
through our internal sales organization. Outside of these markets, we sell our products through third party distributors. Our home-use laser system for the treatment of wrinkles, which we expect to be launched in the United States near the end of
2013, will be sold by Unilever. Our sales and marketing success in these other markets depends on these distributors, in particular their sales and service expertise and relationships with the customers in the marketplace. Sales of our aesthetic
treatment systems by third party distributors represented 25%, 25% and 18% of our product revenue in 2012, 2011 and 2010, respectively. In the first quarter of 2013, sales of our aesthetic treatment systems by third party distributors represented
26% of our product revenue. The increases in 2012 and 2011 primarily related to sales of our ConBio products, which are generally sold through distributors.
We do not control our distributors or Unilever, and these parties may not be successful in marketing our products. These parties may terminate their relationships with us, or fail to commit the necessary
resources to market and sell our products to the level of our expectations. Currently, we have written distributor agreements in place with most of our third party distributors. The third party distributors with which we do not have written
distributor agreements may terminate their relationships with us and stop selling and servicing our products with little or no notice. If current or future third party distributors or other parties that sell our products do not perform adequately,
or if we fail to maintain our existing relationships with these parties or fail to recruit and retain distributors in particular geographic areas, our revenue from international sales may be adversely affected and our operating results could suffer.
Risks Related to Our Relationship with El.En. and Our Corporate Structure
El.En. and its subsidiaries market and sell products that compete with our products, and any increased competition from El.En. could
have a material adverse effect on our business.
El.En. is a leading laser manufacturer in Europe and a leading
light-based medical device manufacturer worldwide. El.En. and its subsidiaries develop and produce laser systems with scientific, industrial, commercial and medical applications. In October 2012 we entered into a new seven-year exclusive
distribution agreement with El.En., which replaced our prior distribution agreements with El.En. Under this new agreement, we purchase from El.En. its proprietary
SmartLipo MPX
system and its
SLT II
laser system. The
SLT II
laser system is an essential component of our
SmartLipo Triplex
and
Cellulaze
systems, which also incorporate our proprietary software and delivery systems.
El.En. markets, sells, promotes and licenses other products that compete with our products, both in North America and elsewhere throughout the world, and our agreement with El.En. does not prevent El.En.
from competing with us by selling products that we purchased in the past from El.En., including earlier generation
SmartLipo
systems. In the event that our distribution agreement with El.En. terminates, El.En. would be able to compete with us
worldwide with the
SmartLipo MPX
system and with products containing the
SLT II
laser system. Our business could be materially and adversely affected by increased competition from El.En.
Conflicts of interest may arise between us and El.En., and these conflicts might ultimately be resolved in a manner unfavorable to
us.
Although his term will expire at our 2013 annual meeting of stockholders, one of our directors, Andrea Cangioli,
is also an officer and or director of El.En., and certain of El.En.s subsidiaries and affiliates compete with us in the worldwide market. Mr. Cangioli owns or has an interest in substantial amounts of El.En. stock. Ownership interests of
our directors in El.En. stock, or service as a director of our company while at the same time serving as, or being the spouse of, a director or officer of El.En., could give rise to conflicts of interest when a director or officer is faced with a
decision that could have different implications for the two companies.
Conflicts may arise with respect to possible future
distribution and research and development arrangements with El.En. or another El.En. affiliated company in which the terms and conditions of the arrangements are subject to negotiation between us and El.En. or such other El.En. affiliated company.
These potential conflicts could also arise, for example, over matters such as:
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the nature, timing, marketing, distribution and price of our products and El.En.s products that compete with each other;
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intellectual property matters; and
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business opportunities that may be attractive to both El.En. and us.
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Conflicts between us and El.En. might ultimately be resolved in a manner unfavorable to us, which could harm our business.
In order to address potential conflicts of interest between us and El.En., our restated certificate of incorporation contains provisions
regulating and defining the conduct of our affairs as they may involve El.En. and El.En. affiliated companies and El.En.s officers and directors who serve as our directors. These provisions recognize that we and El.En. and El.En. affiliated
companies have
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engaged and may continue to engage in the same or similar business activities and lines of business and will continue to have contractual and business relations with each other. These provisions
expressly permit El.En. and its affiliated companies to compete against us and narrowly limit corporate opportunities that El.En. or its directors or officers who serve as our directors must make available to us. These provisions have the effect of
limiting our ability, and the ability of our stockholders, to make claims against El. En. relating to conflicts of interest.
El.En. and our executive officers and directors have substantial control over us.
As of March 31, 2013, El.En. beneficially owned approximately 13% of our outstanding common stock, and our executive officers and
directors who are not affiliates of El.En. in the aggregate beneficially owned 4.70% of our outstanding common stock. As a result, if these stockholders were to act together, they would be able to exercise substantial influence over matters
submitted to our stockholders for approval. This concentration of voting power could delay or prevent an acquisition of our company on terms that other stockholders may desire.
Provisions in our corporate charter documents and under Delaware law may delay or prevent attempts by our stockholders to change
our management and hinder efforts to acquire a controlling interest in us.
Provisions of our certificate of
incorporation and bylaws may discourage, delay or prevent a merger, acquisition or other change in control that stockholders may consider favorable, including transactions in which you might otherwise receive a premium for your shares. These
provisions may also prevent or frustrate attempts by our stockholders to replace or remove our management. These provisions include:
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the classification of the members of our board of directors;
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limitations on the removal of our directors;
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advance notice requirements for stockholder proposals and nominations;
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the inability of stockholders to act by written consent or to call special meetings; and
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the ability of our board of directors to designate the terms of and issue new series of preferred stock without stockholder approval, which could be
used to institute a poison pill that would work to dilute the stock ownership of a potential hostile acquirer, effectively preventing acquisitions that have not been approved by our board of directors.
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The affirmative vote of the holders of at least 75% of our shares of capital stock entitled to vote is necessary to amend or repeal the
above provisions of our certificate of incorporation. In addition, absent approval of our board of directors, our bylaws may only be amended or repealed by the affirmative vote of the holders of at least 75% of the voting power of our shares of
capital stock entitled to vote. In addition, Section 203 of the Delaware General Corporation Law prohibits a publicly held Delaware corporation from engaging in a business combination with an interested stockholder, generally a person which
together with its affiliates owns or within the last three years has owned 15% of our voting stock, for a period of three years after the date of the transaction in which the person became an interested stockholder, unless the business combination
is approved in a prescribed manner. Accordingly, Section 203 may discourage, delay or prevent a change in control of our company.
The price of our common stock may decline because of future sales of our shares by El.En.
El.En. may sell all or part of the shares of our common stock that it owns. El.En. is not subject to any contractual obligation to maintain its ownership position in our shares, and, consequently, El.En.
may not maintain its ownership of our common stock. Sales by El.En. of substantial amounts of our common stock in the public market could adversely affect prevailing market prices for our common stock. The shelf registration statement on Form S-3
that was declared effective on October 26, 2012, which we refer to as the shelf registration statement, permits us and El.En. to offer and sell shares of our common stock in one or more offerings.
If El.En. sells the shares of our stock held by it, our commercial relationship with El.En. may be adversely affected.
El.En. is not subject to any contractual obligation to maintain an ownership position in our shares. The shelf
registration statement permits us and El.En. to offer and sell shares of our common stock in one or more offerings. If El.En. does not have a continuing interest or reduced interest in our financial success, it may be more inclined to compete with
us in North America and in other markets, not to enter into future commercial agreements with us or to terminate or not renew our existing distribution agreement. If any of these events were to occur, it could harm our business.
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Risks Related to Intellectual Property
If we infringe or are alleged to infringe intellectual property rights of third parties, our business could be adversely affected.
Our products may infringe or be claimed to infringe patents or patent applications under which we do not hold licenses
or other rights. Third parties may own or control these patents and patent applications in the United States and abroad. These third parties could bring claims against us that would cause us to incur substantial expenses and, if successfully
asserted against us, could cause us to pay substantial damages. Further, if a patent infringement suit were brought against us, we could be forced to stop or delay manufacturing or sales of the product that is the subject of the suit.
As a result of patent infringement claims, or in order to avoid potential claims, we may choose or be required to seek a license from the
third party and be required to pay license fees or royalties or both, as we did in a 2006 patent license agreement with Palomar. Such licenses may not be available on acceptable terms, or at all. Even if we were able to obtain a license, the rights
may be nonexclusive, which could result in our competitors gaining access to the same intellectual property. Ultimately, we could be forced to cease some aspect of our business operations if, as a result of actual or threatened patent infringement
claims, we are unable to enter into licenses on acceptable terms. This could harm our business significantly.
There has been
substantial litigation and other proceedings regarding patent and other intellectual property rights in our industry. In addition to infringement claims against us, we may become a party to other types of patent litigation and other proceedings,
including reexamination proceedings or interference proceedings declared by the U.S. Patent and Trademark Office and opposition proceedings in the European Patent Office, regarding intellectual property rights with respect to our products and
technology. The cost to us of any patent litigation or other proceeding, even if resolved in our favor, could be substantial. Some of our competitors may be able to sustain the costs of such litigation or proceedings more effectively than we can
because of their greater financial resources. Uncertainties resulting from the initiation and continuation of patent litigation or other proceedings could have a material adverse effect on our ability to compete in the marketplace. Patent litigation
and other proceedings may also absorb significant management time.
If we are unable to obtain or maintain intellectual
property rights relating to our technology and products, the commercial value of our technology and products will be adversely affected and our competitive position could be harmed.
Our success and ability to compete depends in part upon our ability to obtain protection in the United States and other countries for our
products by establishing and maintaining intellectual property rights relating to or incorporated into our technology and products. We own numerous patents and patent applications in the United States and corresponding patents and patent
applications in many foreign jurisdictions. We do not know how successful we would be in any instance in which we asserted our patents against suspected infringers. Our pending and future patent applications may not issue as patents or, if issued,
may not issue in a form that would be advantageous to us. Even if issued, our patents may be challenged, narrowed, invalidated or circumvented, which could limit our ability to stop competitors from marketing similar products or limit the length of
term of patent protection we may have for our products. Changes in either patent laws or in interpretations of patent laws in the United States and other countries may diminish the value of our intellectual property or narrow the scope of our patent
protection.
If we are unable to protect the confidentiality of our proprietary information and know-how, the value of
our technology and products could be adversely affected.
In addition to patented technology, we rely upon unpatented
proprietary technology, processes and know-how, particularly with respect to our Alexandrite and pulse dye lasers. We generally seek to protect this information in part by confidentiality agreements with our employees, consultants and third parties.
These agreements may be breached, and we may not have adequate remedies for any such breach. In addition, our trade secrets may otherwise become known or be independently developed by competitors.
Risks Related to Government Regulation
If we fail to obtain and maintain necessary U.S. Food and Drug Administration clearances for our products and indications or if clearances for future products and indications are delayed or not
issued, our business would be harmed.
Our products are classified as medical devices and are subject to extensive
regulation by the FDA and other federal, state and local authorities. These regulations relate to manufacturing, labeling, sale, promotion, distribution, importing and exporting and shipping of our products. In the United States, before we can
market a new medical device, or a new use of, or claim for, an existing product, we must first receive either 510(k) clearance or premarket approval from the FDA, unless an exemption applies. Both of these processes can be expensive and lengthy and
entail significant user fees, unless exempt. The FDAs 510(k) clearance process usually takes from three to 12 months, but it can last longer. The process of obtaining premarket approval is much more costly and uncertain than the 510(k)
clearance process. It generally takes from one to three years, or even longer, from the time the premarket approval application is submitted to the FDA until an approval is obtained.
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In order to obtain premarket approval and, in some cases, a 510(k) clearance, a product
sponsor must conduct well controlled clinical trials designed to test the safety and effectiveness of the product. Conducting clinical trials generally entails a long, expensive and uncertain process that is subject to delays and failure at any
stage. The data obtained from clinical trials may be inadequate to support approval or clearance of a submission. In addition, the occurrence of unexpected findings in connection with clinical trials may prevent or delay obtaining approval or
clearance. If we conduct clinical trials, they may be delayed or halted, or be inadequate to support approval or clearance, for numerous reasons, including:
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the FDA, other regulatory authorities or an institutional review board may place a clinical trial on hold;
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patients may not enroll in clinical trials, or patient follow-up may not occur, at the rate we expect;
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patients may not comply with trial protocols;
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institutional review boards and third party clinical investigators may delay or reject our trial protocol;
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third party clinical investigators may decline to participate in a trial or may not perform a trial on our anticipated schedule or consistent with the
clinical trial protocol, good clinical practices, or other FDA requirements;
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third party organizations may not perform data collection and analysis in a timely or accurate manner;
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regulatory inspections of our clinical trials or manufacturing facilities may, among other things, require us to undertake corrective action or suspend
or terminate our clinical trials, or invalidate our clinical trials;
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changes in governmental regulations or administrative actions; and
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the interim or final results of the clinical trials may be inconclusive or unfavorable as to safety or effectiveness.
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Medical devices may be marketed only for the indications for which they are approved or cleared. The FDA may not approve or clear
indications that are necessary or desirable for successful commercialization. Indeed, the FDA may refuse our requests for 510(k) clearance or premarket approval of new products, new intended uses or modifications to existing products. Our clearances
can be revoked if safety or effectiveness problems develop.
After clearance or approval of our products, we are subject
to continuing regulation by the FDA, and if we fail to comply with FDA regulations, our business could suffer.
Even
after clearance or approval of a product, we are subject to continuing regulation by the FDA, including the requirements that our facility be registered and our devices listed with the agency. We are subject to Medical Device Reporting regulations,
which require us to report to the FDA if our products may have caused or contributed to a death or serious injury or malfunction in a way that would likely cause or contribute to a death or serious injury if the malfunction were to recur. We must
report corrections and removals to the FDA where the correction or removal was initiated to reduce a risk to health posed by the device or to remedy a violation of the Federal Food, Drug, and Cosmetic Act caused by the device that may present a risk
to health, and maintain records of other corrections or removals. The FDA closely regulates promotion and advertising and our promotional and advertising activities could come under scrutiny. If the FDA objects to our promotional and advertising
activities or finds that we failed to submit reports under the Medical Device Reporting regulations, for example, the FDA may allege our activities resulted in violations.
The FDA and state authorities have broad enforcement powers. Our failure to comply with applicable regulatory requirements could result in enforcement action by the FDA or state agencies, which may
include any of the following sanctions:
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untitled letters, warning letters, fines, injunctions, consent decrees and civil penalties;
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repair, replacement, refunds, recall or seizure of our products;
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operating restrictions or partial suspension or total shutdown of production;
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refusing or delaying our requests for 510(k) clearance or premarket approval of new products or new intended uses;
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withdrawing 510(k) clearance or premarket approvals that have already been granted; and
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If any of these events were to occur, they could harm our business.
Federal regulatory reforms may adversely affect our ability to sell our products profitably.
From time to time, legislation is drafted and introduced in Congress that could significantly change the statutory provisions governing
the clearance or approval, manufacture and marketing of a device. In addition, FDA regulations and guidance are often revised or reinterpreted by the agency in ways that may significantly affect our business and our products. For example, the FDA
recently proposed changing its standards for determining when a medical device modification must receive premarket clearance or approval. Although Congress objected to these revised standards, it is possible that the FDA will seek to implement these
or similar changes in the future.
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In addition, beginning in 2013, most of the products and systems that we sell became subject
to a new excise tax on sales of certain medical devices in the United States after December 31, 2012 by the manufacturer, producer or importer in an amount equal to 2.3% of the sale price. Under the law, additional charges, including
warranties, may be deemed to be included in the sale price for purposes of determining the amount of the excise tax. We believe this excise tax could harm our sales and reduce our profitability.
In August 2012, the SEC adopted a final rule that will require public companies to make disclosures about the use of certain
conflict minerals in the products that they manufacture. The rule requires annual disclosures by public companies for which conflict minerals (regardless of the place of origin of such minerals) are necessary to the functionality or
production of products that they manufacture. Such companies must conduct inquiries into the country of origin of their necessary conflict minerals and disclose the results of such inquiries. If, based on its country of origin, a company determines
that its conflict minerals originated in the Democratic Republic of Congo, or adjacent nations, and did not come from recycled or scrap sources, or has reason to believe that such conflict minerals may have originated in the covered countries and
may not have come from recycled or scrap sources, then it must (i) exercise due diligence on the source and chain of custody of such conflict minerals and (ii) prepare an independently audited Conflict Minerals Report that, among other
things, describes its due diligence efforts and identifies products containing conflict minerals that directly or indirectly finance or benefit designated armed groups perpetrating serious human rights abuses in the covered countries. The rules
include an exception from the audit requirement for two years where the company is unable to determine if the minerals are DRC conflict free. All companies providing disclosures under the final rule must do so on a new Form SD, to be
filed annually with the SEC on or before May 31 of each year. Information on Form SD will cover a companys conflict minerals disclosure for the prior calendar year, regardless of the companys fiscal year end. The first Form SDs will
be due on or before May 31, 2014 and will cover conflict minerals disclosures for calendar year 2013. Because certain materials used in the manufacturing of our products are considered conflict minerals, we anticipate that we will file a Form
SD before May 31, 2014 for conflict minerals disclosures for calendar year 2013. We believe our efforts to comply with these requirements will be costly and time consuming.
It is impossible to predict whether other legislative changes will be enacted or government regulations, guidance or interpretations
changed, and what the impact of such changes, if any, may be.
We have modified some of our products without FDA
clearance. The FDA could retroactively determine that the modifications were improper and require us to stop marketing and recall the modified products.
Any modifications to one of our FDA-cleared devices that could significantly affect its safety or effectiveness, or that would constitute a major change in its intended use, requires a new 510(k)
clearance or a premarket approval. We may be required to submit extensive pre-clinical and clinical data depending on the nature of the changes. We may not be able to obtain additional 510(k) clearances or premarket approvals for modifications to,
or additional indications for, our existing products in a timely fashion, or at all. Delays in obtaining future clearances or approvals would adversely affect our ability to introduce new or enhanced products in a timely manner, which in turn would
harm our revenue and operating results. We have made modifications to our devices in the past and may make additional modifications in the future that we believe do not or will not require additional clearances or approvals. If the FDA disagrees,
and requires new clearances or approvals for the modifications, we may be required to recall and to stop marketing the modified devices, which could harm our operating results and require us to redesign, among other things, our products.
If we fail to comply with the FDAs Quality System Regulation and laser performance standards, our manufacturing operations
could be halted, and our business would suffer.
We are currently required to demonstrate and maintain compliance with
the FDAs QSR. The QSR is a complex regulatory scheme that covers the methods and documentation of the design, testing, control, manufacturing, labeling, quality assurance, packaging, storage and shipping of our products. Because our products
involve the use of lasers, our products also are covered by a performance standard for lasers set forth in FDA regulations. The laser performance standard imposes specific record keeping, reporting, product testing and product labeling requirements.
These requirements include affixing warning labels to laser products as well as incorporating certain safety features in the design of laser products. The FDA enforces the QSR and laser performance standards through periodic unannounced inspections.
We have been, and anticipate in the future being, subject to such inspections. Our failure to comply with the QSR or to take satisfactory corrective action in response to an adverse QSR inspection or our failure to comply with applicable laser
performance standards could result in enforcement actions, including a public warning letter, a shutdown of or restrictions on our manufacturing operations, delays in approving or clearing a product, refusal to permit the import or export of our
products, a recall or seizure of our products, fines, injunctions, civil or criminal penalties, or other sanctions, such as those described in the preceding paragraphs, any of which could cause our business and operating results to suffer.
If we fail to comply with state laws and regulations, or if state laws or regulations change, our business could
suffer.
In addition to FDA regulations, most of our products are also subject to state regulations relating to their
sale and use. These regulations are complex and vary from state to state, which complicates monitoring compliance. In addition, these regulations are in many instances in flux. For example, federal regulations allow our prescription products to be
sold to or on the order of licensed practitioners, that is, practitioners licensed by law to use or order the use of a prescription device. Licensed practitioners are defined
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on a state-by-state basis. As a result, some states permit non-physicians to purchase and operate our products, while other states do not. Additionally, a state could change its regulations at
any time to prohibit sales to particular types of customers. We believe that, to date, we have sold our prescription products only to licensed practitioners. However, our failure to comply with state laws or regulations and changes in state laws or
regulations may adversely affect our business.
We, or our distributors, may be unable to obtain or maintain
international regulatory qualifications or approvals for our current or future products and indications, which could harm our business.
Sales of our products outside the United States are subject to foreign regulatory requirements that vary widely from country to country. In many countries, our third party distributors are responsible for
obtaining and maintaining regulatory approvals for our products. We do not control our third party distributors, and they may not be successful in obtaining or maintaining these regulatory approvals. In addition, the FDA regulates exports of medical
devices from the United States.
Complying with international regulatory requirements can be an expensive and time consuming
process, and approval is not certain. The time required to obtain foreign clearances or approvals may be longer than that required for FDA clearance or approval, and requirements for such clearances or approvals may differ significantly from FDA
requirements. Foreign regulatory authorities may not clear or approve our products for the same indications cleared or approved by the FDA. The foreign regulatory approval process may include all of the risks associated with obtaining FDA clearance
or approval in addition to other risks. Although we or our distributors have obtained regulatory approvals in the European Union and other countries outside the United States for many of our products, we or our distributors may be unable to
maintain regulatory qualifications, clearances or approvals in these countries or obtain qualifications, clearances or approvals in other countries. For example, we are in the process of seeking regulatory approvals from the Japanese Ministry of
Health, Labour and Welfare for the direct sale of our products into that country. If we are not successful in doing so, our business will be harmed. We may also incur significant costs in attempting to obtain and in maintaining foreign regulatory
clearances, approvals or qualifications. Foreign regulatory agencies, as well as the FDA, periodically inspect manufacturing facilities both in the United States and abroad. If we experience delays in receiving necessary qualifications, clearances
or approvals to market our products outside the United States, or if we fail to receive those qualifications, clearances or approvals, or if we fail to comply with other foreign regulatory requirements, we and our distributors may be unable to
market our products or enhancements in international markets effectively, or at all. Additionally, the imposition of new requirements may significantly affect our business and our products. We may not be able to adjust to such new requirements.
New regulations may limit our ability to sell to non-physicians, which could harm our business.
Currently, we sell our products primarily to physicians and, outside the United States, to aestheticians. In addition, we also market our
products to the growing aesthetic spa market, where non-physicians under physician supervision perform aesthetic procedures at dedicated facilities. However, federal, state and international regulations could change at any time, disallowing sales of
our products to aestheticians, and limiting the ability of aestheticians and non-physicians to operate our products. Any limitations on our ability to sell our products to non-physicians or on the ability of aestheticians and non-physicians to
operate our products could cause our business and operating results to suffer.
Risks Related to Litigation
Product liability suits could be brought against us due to defective design, material or workmanship or due to misuse of our
products. These lawsuits could be expensive and time consuming and result in substantial damages to us and increases in our insurance rates.
If our products are defectively designed, manufactured or labeled, contain defective components or are misused, we may become subject to substantial and costly litigation by our customers or their
patients or clients. Misusing our products or failing to adhere to operating guidelines for our products can cause severe burns or other damage to the eyes, skin or other tissue. We are routinely involved in claims related to the use of our
products. Product liability claims could divert managements attention from our core business, be expensive to defend and result in sizable damage awards against us. Our current insurance coverage may not be sufficient to cover these claims,
and the coverage we have is subject to deductibles for which we are responsible. Moreover, in the future, we may not be able to obtain insurance in amount or scope sufficient to provide us with adequate coverage against potential liabilities. Any
product liability claims brought against us, with or without merit, could increase our product liability insurance rates or prevent us from securing continuing coverage, could harm our reputation in the industry and reduce product sales. We would
need to pay any product losses in excess of our insurance coverage out of cash reserves, harming our financial condition and adversely affecting our operating results.
We may incur substantial expenses if our past practices are shown to have violated the Telephone Consumer Protection Act.
We previously used facsimiles to disseminate information about our clinical workshops to large numbers of customers and potential
customers. These facsimiles were transmitted by third parties retained by us, and were sent to recipients whose facsimile numbers were supplied by us as well as other recipients whose facsimile numbers we purchased from other sources. In May 2005,
we stopped sending unsolicited facsimiles to customers and potential customers.
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Under the federal Telephone Consumer Protection Act, or TCPA, recipients of unsolicited
facsimile advertisements may be entitled to damages of up to $500 per facsimile for inadvertent violations and up to $1,500 per facsimile for knowing or willful violations. Recipients of unsolicited facsimile advertisements may seek
enforcement of the TCPA in state courts. The TCPA also permits states to initiate a civil action in a federal district court to enforce the TCPA against a party who engages in a pattern or practice of violations of the TCPA. In addition, complaints
may be filed with the Federal Communications Commission, which has the power to assess penalties against parties for violations of the TCPA.
In 2005, a plaintiff, individually and as putative representative of a purported class, filed a complaint against us under the TCPA in Massachusetts Superior Court in Middlesex County seeking monetary
damages, injunctive relief, costs and attorneys fees. The complaint alleged that we violated the TCPA by sending unsolicited advertisements by facsimile to the plaintiff and other recipients without the prior express invitation or permission
of the recipients. Based on discovery in this matter, the plaintiff alleges that approximately three million facsimiles were sent on our behalf by a third party to approximately 100,000 individuals. In January 2012, the Court denied the class
certification motion. In November 2012, the Court issued the final judgment and awarded the plaintiff $6,000 in damages and awarded us $3,495 in costs. The plaintiff has appealed this decision. In addition, in July 2012, the plaintiff filed a new
purported class action, based on the same operative facts and asserting the same claims as in the Massachusetts action, in federal court in the Eastern District of New York. In February 2013 that court granted our motion to dismiss the
plaintiffs claims. In March 2013, the plaintiff filed a motion seeking reconsideration of the courts judgment and vacation of the courts order of dismissal. In April 2013, we filed a response opposing the plaintiffs motion.
We are vigorously defending these lawsuits. However, litigation is subject to numerous uncertainties and we are unable to
predict the ultimate outcome of this or any other matter. Moreover, the amount of any potential liability in connection with this lawsuit will depend, to a large extent, on whether a class in a class action lawsuit is certified and, if one is
certified, on the scope of the class, neither of which we can predict at this time.
These and any future lawsuits that we may
face regarding these issues could materially and adversely affect our results of operations, cash flows and financial condition, cause us to incur significant expenses and divert the attention of our management and key personnel from our business
operations.
Risks Related to the Proposed Merger
* Uncertainty about the merger may adversely affect the relationships of us, Palomar or the combined company with our respective customers, suppliers and employees, whether or not the merger is
completed.
In response to the announcement of the merger, our existing or prospective customers or suppliers or
existing or prospective customers of Palomar or the combined company may:
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delay, defer or cease purchasing goods or services from or providing goods or services to us, Palomar or the combined company;
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delay or defer other decisions concerning us, Palomar or the combined company, or refuse to extend credit to us, Palomar or the combined company; or
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otherwise seek to change the terms on which they do business with us, Palomar or the combined company.
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Any such delays or changes to terms could seriously harm our business or Palomars business or, if the merger is completed, the
business of the combined company.
In addition, as a result of the announcement of the merger, current and prospective
employees could experience uncertainty about their future with us, Palomar or the combined company. These uncertainties may impair our ability or Palomars or the combined companys ability to retain, recruit or motivate key personnel.
* Any delay in the completion of the merger may significantly reduce the benefits expected to be obtained from the
merger or could adversely affect the market price of our Class A common stock or our future business and financial results.
The merger is subject to a number of conditions, including approvals of our stockholders and Palomar stockholders, which are beyond our control and Palomars control and which may prevent, delay or
otherwise materially and adversely affect completion of the merger.
Failure to complete the merger would prevent us from
realizing the anticipated benefits of the merger. We and Palomar would each remain liable for significant transaction costs, including legal, accounting and financial advisory fees. Any delay in completing the merger may significantly reduce the
synergies and other benefits that we and Palomar expect to achieve if we successfully complete the merger within the expected timeframe and integrate our respective businesses.
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In addition, the market price of our Class A common stock may reflect various market
assumptions as to whether and when the merger will be completed. Consequently, the completion of, the failure to complete, or any delay in the completion of the merger could result in a significant change in the market price of our Class A
common stock.
* The issuance of shares of our Class A common stock to Palomar stockholders in the merger will
substantially reduce the percentage interests of our stockholders.
If the merger is completed, we will issue
approximately 5.2 million shares of our Class A common stock, which would result in Palomar stockholders owning approximately 23% of the outstanding Class A common stock of the combined company immediately following the closing of the
merger, based on an assumed exchange ratio of 0.240, which is the exchange ratio calculated as if March 15, 2013 were the third trading day prior to the effective time of the merger.
The issuance of shares of our Class A common stock to Palomar stockholders in the merger will cause a significant reduction in the
relative percentage interest of our current stockholders in our earnings, liquidation value and book and market value.
* Sales of substantial amounts of our Class A common stock in the open market by former Palomar stockholders could depress the
market price of our Class A common stock.
Shares of our Class A common stock that are issued to stockholders
of Palomar in the merger will be freely tradable by such stockholders without restrictions or further registration under the Securities Act, provided, however, that any stockholders who are affiliates of Cynosure will be subject to the resale
restrictions of Rule 144 under the Securities Act.
We currently expect that we will issue approximately 5.2 million
shares of our Class A common stock in the merger, based on an assumed exchange ratio of 0.240, which is the exchange ratio calculated as if March 15, 2013 were the third trading day prior to the effective time of the merger.
If the merger is completed and if Palomars former stockholders sell substantial amounts of our Class A common stock in the
public market following the completion of the merger, the market price of our Class A common stock may decrease. These sales might also make it more difficult for us to raise capital by selling equity or equity-related securities at a time and
price that we otherwise would deem appropriate.
* Diversion of managements attention could harm us, Palomar or
the combined company, whether or not the merger is completed.
Completion of the merger will require a significant
amount of time and attention from our management and Palomars management. The diversion of managements attention away from ongoing operations could adversely affect our ongoing operations and business relationships and Palomars
ongoing operations and business relationships and, if the merger is completed, the combined company.
* We may be unable
to integrate successfully the businesses of Palomar and realize the anticipated benefits of the merger.
The merger
involves the combination of two organizations that currently operate as independent public companies. Due to legal restrictions, we and Palomar have conducted only limited planning regarding the integration of the two companies, and we will continue
to operate as independent public companies until the completion of the merger. The combined company will be required to devote significant management attention and resources to integrating the two companies. Delays in this process could adversely
affect the combined companys business, financial results, financial condition and stock price.
Achieving the
anticipated benefits of the merger will depend, in part, on the integration of operations, personnel and technology of us and Palomar. If we are unable to successfully integrate Palomars business into our business in a manner that permits the
combined company to achieve the cost savings and operating synergies anticipated to result from the merger, the anticipated benefits of the merger may not be realized fully or at all or may take longer to realize than expected.
Potential difficulties the combined company may encounter in the integration process include the following:
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lost sales and customers as a result of certain of our customers or Palomars customers deciding not to do business with the combined company;
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the inability to procure goods and services on favorable terms as a result of our suppliers or Palomars suppliers deciding not to do business
with the combined company;
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the inability to retain, recruit or motivate key personnel;
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complexities associated with managing the combined businesses;
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difficulties associated with integrating personnel from diverse corporate cultures while maintaining focus on providing consistent, high quality
products and customer service;
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potential unknown liabilities and unforeseen increased expenses or delays associated with the merger;
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performance shortfalls as a result of the diversion of managements attention to the merger;
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disruption or interruption of, or loss of momentum in, our ongoing business and Palomars ongoing business; and
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inconsistencies in standards, controls, procedures and policies.
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Any of these difficulties could adversely affect our ability to maintain relationships with suppliers, customers and employees or our
ability to achieve the anticipated benefits of the merger, or could reduce our earnings or otherwise adversely affect the business and financial results of the combined company.
Even if we are able to integrate Palomars business operations successfully, this integration may not result in the realization of
the full benefits of synergies, cost savings, innovation and operational efficiencies that may be possible from this integration and these benefits may not be achieved within a reasonable period of time.
Additionally, we may, from time to time, evaluate potential strategic acquisitions of other complementary businesses, products or
technologies, as well as consider joint ventures and other collaborative projects. However, we cannot assure you that these completed acquisitions, or any future acquisitions that we may make, will enhance our products or strengthen our competitive
position. In particular, we may encounter difficulties assimilating or integrating the acquired businesses, technologies, products, personnel or operations of the acquired companies, and in retaining and motivating key personnel from these
businesses. The integration of these businesses may not result in the realization of the full benefits of synergies, cost savings, innovation and operational efficiencies that may be possible from this integration and these benefits may not be
achieved within a reasonable period of time.
* We will incur significant costs in connection with the merger.
We will incur substantial expenses related to the merger, whether or not the merger is completed. We estimate that we
will incur direct transaction costs of approximately $2.9 million in connection with the merger, approximately $1.9 million of which is not contingent on the completion of the merger. In addition, we expect that we will incur costs of approximately
$14.5 million in golden parachute compensation that each named executive officer of Palomar could receive in connection with the merger.
In the event the merger is completed, we expect to incur significant additional expenses. There are a large number of systems that must be integrated, including management information, purchasing,
accounting and finance, sales, billing, payroll and benefits, fixed assets and lease administration systems, and regulatory compliance. While we have assumed that a certain level of expenses would be incurred from the integration of the two
companies, there are a number of factors beyond our control that could affect the total amount or the timing of all the expected integration expenses, including, among other things, constraints arising under U.S. federal or state antitrust laws
(such as limitations on sharing information) that may prevent or hinder us from fully developing integration plans. Moreover, many of the expenses that will be incurred, by their nature, are impracticable to estimate at the present time. These
expenses could, particularly in the near term, exceed the savings that we expect to achieve from the elimination of duplicative expenses, the realization of economies of scale, and cost savings and revenue synergies related to the integration of the
two companies following the completion of the merger. The amount and timing of any these charges are uncertain at the present time. In addition, the combined company may incur additional material charges in subsequent fiscal quarters to reflect
additional costs in connection with the merger.
* The market price of our Class A common stock after the merger
may be affected by factors different from those affecting the market price of our Class A common stock before the merger.
When we complete the merger, Palomar stockholders will become our stockholders. The results of our operations, as well as the market price of our Class A common stock, after the merger may be
affected by factors different from those currently affecting our results of operations or Palomars results of operations and the market price of our Class A common stock.
* Loss of key personnel could have a material adverse effect on the business and results of operations of the combined company.
The success of the combined company, if the merger is completed, will depend in part upon the ability of the combined
company to retain key employees of both companies. Competition for qualified personnel can be intense. In addition, key employees may depart because of issues relating to the uncertainty or difficulty of integration or a desire not to remain with
the combined company. Accordingly, the combined company may not be able to retain key employees. Loss of key personnel could have a material adverse effect on the business and operations of the combined company.
* The combined company will face uncertainties related to the effectiveness of internal controls.
Public companies in the United States are required to review their internal control over financial reporting under Section 404 of the
Sarbanes-Oxley Act of 2002. Any system of control, however well designed and operated, can provide only reasonable, and not absolute, assurance that the objectives of the system are met. In addition, the design of any control system is based in part
upon certain assumptions about the likelihood of future events. Because of these and other inherent limitations of control systems, any design may not achieve its stated goal under all potential future conditions, regardless of how remote.
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Our integration with Palomar, and our respective internal control systems and procedures,
may result in or lead to a future material weakness in the combined companys internal controls, or the combined company or its independent registered public accounting firm may identify a material weakness in the combined companys
internal controls in the future. A material weakness in internal control over financial reporting would require management and the combined companys independent public accounting firm to evaluate the combined companys internal controls
as ineffective. If the combined companys internal control over financial reporting is not considered adequate, the combined company may experience a loss of public confidence, which could have an adverse effect on its business and stock price.
* Internal control deficiencies or weaknesses that are not yet identified could emerge.
Over time the combined company may identify deficiencies or weaknesses in its internal controls and, where and when appropriate, report on
these deficiencies or weaknesses. However, the internal control procedures can provide only reasonable, and not absolute, assurance that deficiencies or weaknesses are identified. Deficiencies or weaknesses that have not been identified by Cynosure
or Palomar could emerge and these deficiencies or weaknesses could have a material impact on the results of operations for the combined company.
* Charges to earnings resulting from the application of the acquisition method of accounting may adversely affect the market value of our Class A common stock following the completion of the
merger.
In accordance with generally accepted accounting principles in the United States, the merger will be accounted
for using the acquisition method of accounting, which will result in charges to earnings that could have an adverse impact on the market value of our Class A common stock following the completion of the merger. Under the acquisition method of
accounting, the total estimated purchase price will be allocated to Palomars net tangible assets, identifiable intangible assets based on their respective fair values as of the date of completion of the merger. Any excess of the purchase price
over those fair values will be recorded as goodwill. The combined company will incur additional amortization expense based on the identifiable amortizable intangible assets acquired pursuant to the merger agreement and their relative useful lives.
Additionally, to the extent the value of goodwill or identifiable intangible assets or other long-lived assets may become impaired, the combined company will be required to incur material charges relating to the impairment. These amortization and
potential impairment charges could have a material impact on the combined companys results of operations.
We currently
estimate that we will incur approximately $40.3 million of incremental amortization expense after completion of the merger, based on the closing price of our Class A common stock on The NASDAQ Stock Market LLC on March 15, 2013, the last
trading day before the public announcement of the merger. The actual amount of the incremental amortization expense will be based on the aggregate value of the merger consideration to be paid to Palomar stockholders in the merger, less the fair
value of all net assets acquired and goodwill assumed. Changes in earnings per share, including as a result of this incremental expense, could adversely affect the market price of our Class A common stock.
* Stockholder class-action lawsuits have been brought against Palomar, its directors and us in connection with the merger. These
lawsuits could be expensive and time consuming and result in the delay of the consummation of the merger and cause Palomar, its directors and us to pay substantial damages and incur additional costs and expenses.
Since we announced the merger on March 18, 2013, five putative stockholder class action complaints have been filed against Palomar,
its directors and us. The complaints allege that the Palomar board of directors breached their fiduciary duties to the Palomar stockholders in connection with the approval of the merger and that we and, in four of the five lawsuits, our wholly-owned
subsidiary, Commander Acquisition Corp., aided and abetted the alleged breach of fiduciary duties. The complaints allege that the Palomar board of directors breached their fiduciary duties in connection with the proposed transaction by, among other
things, conducting a flawed sale process, failing to maximize stockholder value and to obtain the best financial and other terms, and that the registration statement we filed is materially deficient. We are vigorously defending these lawsuits.
However, litigation is subject to numerous uncertainties and we are unable to predict the ultimate outcome of this or any other matter. If one or more of the lawsuits is successful, it could delay the consummation of the merger, result in
substantial damages to Palomar, its directors and us and cause us to incur additional costs and expenses in connection with the merger.