ATEC

Business Context and Reporting Period

Company: Alphatec Holdings, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: March 31, 2011
Business Overview: Alphatec designs, develops, manufactures, and markets products for the surgical treatment of spine disorders, primarily focusing on the aging spine. Operations include U.S. markets and over 50 international markets via subsidiaries (Scient'x, Alphatec Pacific). The company completed the acquisition of Scient'x in March 2010 and acquired Cibramed (Brazilian subsidiary) in January 2011.

Key Financial Metrics

Material Changes vs. Prior Period

• Revenue Growth: Revenues increased 40.8% to $49.7 million, driven primarily by the inclusion of Scient'x products ($10.3 million) and growth in U.S. ($5.5 million) and International ($9.0 million) regions.
• Profitability Improvement: Net loss narrowed significantly from $4.7 million to $1.9 million. Operating loss improved from $3.6 million to $2.4 million.
• Expense Increases: Operating expenses rose to $34.3 million from $27.1 million. Increases were driven by higher Sales and Marketing ($18.6M vs $13.4M) and General and Administrative ($9.1M vs $5.6M) costs associated with integrating Scient'x and expanding international operations.
• One-Time Items: Q1 2010 included $3.2 million in transaction-related expenses and $0.9 million in restructuring expenses related to the Scient'x acquisition, which were absent or reduced in Q1 2011.
• Cash Flow: Net cash provided by operating activities turned positive at $1.6 million, compared to a use of $2.5 million in the prior year.

Guidance, Outlook, Risks, and Contingencies

Liquidity and Capital Resources: Management believes existing cash ($21.5 million) and accounts receivable ($43.3 million) are sufficient to fund operations through March 31, 2012. The company is currently in compliance with financial covenants under its amended credit facility with Silicon Valley Bank (SVB), which has a $32 million line of credit (drawn balance: $31.9 million).

Risks and Contingencies:

• Covenant Compliance: Failure to achieve targeted revenue growth or profitability could trigger a default on the credit facility, potentially requiring immediate repayment of all outstanding obligations.
• Litigation: The company is involved in multiple legal proceedings, including patent infringement suits (Biomet, Cross Medical Products), successor liability claims (Orthotec), and securities class action/derivative lawsuits regarding the Scient'x transaction. No accruals have been recorded as outcomes are uncertain.
• Regulatory Review: The DOJ is continuing a review of facts alleged in a previously dismissed False Claims Act complaint regarding consulting payments to surgeons.
• Foreign Currency: Significant exposure to the Euro and Japanese Yen; a 7% increase in the Euro value relative to the USD in Q1 2011 resulted in a $9.9 million foreign currency translation gain.

Investor Verification Checklist

• Credit Facility Covenants: Verify the company's ability to meet the "minimum adjusted quick ratio" and "minimum quarterly free cash flow" covenants to avoid default.
• Scient'x Integration: Assess the realization of projected cost synergies and revenue growth from the Scient'x acquisition to offset increased operating expenses.
• Litigation Exposure: Monitor the status of the Cross Medical Products and Orthotec lawsuits, as adverse rulings could result in significant damages.
• Debt Structure: Review the terms of the SVB credit facility, noting the high utilization ($31.9M of $32M) and the potential for interest rate increases upon default.
• Deferred Revenue: Analyze the $3.3 million deferred revenue balance, particularly regarding European distributors with extended payment terms.