Business Context and Reporting Period
STAAR Surgical Company designs, manufactures and sells implantable lenses and delivery systems for ophthalmic surgery, principally implantable Collamer lenses (ICLs) for refractive surgery and intraocular lenses (IOLs) for cataract surgery. The unaudited Form 10-Q covers the quarter and six months ended July 4, 2014, compared with June 28, 2013. The company operates as one ophthalmic surgical products segment and sells in more than 60 countries.
Key Financial Metrics
| Metric | Three Months Ended July 4, 2014 | Three Months Ended June 28, 2013 | Six Months Ended July 4, 2014 | Six Months Ended June 28, 2013 |
|---|---|---|---|---|
| Net sales | $20.0 million | $18.2 million | $40.2 million | $36.2 million |
| Gross profit | $13.7 million | $12.6 million | $27.6 million | $25.3 million |
| Gross margin | 68.2% | 69.5% | 68.5% | 69.9% |
| Operating income (loss) | $(1.4) million | $0.7 million | $(2.7) million | $1.8 million |
| Net income (loss) | $(1.8) million | $0.3 million | $(3.1) million | $0.7 million |
| Diluted loss per share | $(0.05) | $0.01 | $(0.08) | $0.02 |
| Cash flow from operations | Not separately provided | Not separately provided | $(4.1) million | $0.4 million |
Second-quarter sales increased 10.4% year over year; first-half sales increased 11.2%. ICL sales were $12.2 million in the quarter and $24.4 million in the first half, while IOL sales were $6.4 million and $13.0 million, respectively. Other product sales increased to $1.4 million in the quarter and $2.8 million in the first half.
Operating expenses increased materially. Second-quarter general and administrative expense rose 35.6% to $5.3 million, marketing and selling expense rose 24.2% to $7.0 million, and research and development expense rose 48.2% to $2.5 million. First-half research and development expense increased 96.0% to $6.0 million.
At July 4, 2014, cash and cash equivalents were $19.2 million, compared with $23.0 million at January 3, 2014. Total current assets were $50.7 million and total current liabilities were $17.2 million. The company had $4.9 million outstanding under its Japanese line of credit, with no remaining availability, and no borrowings under its $1.1 million Swiss credit line. Capital lease obligations totaled $1.1 million. Management stated that available cash and operating cash flows should satisfy foreseeable working-capital and consolidation requirements.
Material Changes Versus the Prior Comparable Period
- Revenue growth was driven by ICL growth in EMEA and Asia Pacific, increased European and Chinese IOL sales, and higher injector-part sales.
- Gross margin declined 130 basis points in the quarter and 140 basis points in the first half. Management attributed the decline primarily to product and geographic mix, lower-margin injector sales, and the transition of ICL manufacturing from Switzerland to the United States.
- The company moved from operating income and net income in the prior-year periods to operating and net losses in 2014, primarily because of higher general and administrative, sales and marketing, and research and development spending.
- Operating cash flow declined from $0.4 million provided in the first half of 2013 to $4.1 million used in the first half of 2014, reflecting the net loss and increased working-capital investment, including higher receivables and inventories.
- Stock-based compensation increased to $3.2 million in the first half from $2.0 million in the prior-year period.
- The company completed the consolidation of international manufacturing into its Monrovia, California facility by the end of the quarter. Aliso Viejo integration was expected in mid-2015.
Guidance, Outlook, Risks, Contingencies, and Unusual Items
- Management’s 2014 objectives included 8% to 10% revenue growth, 20% ICL sales growth, a 300-basis-point increase in gross margin to 72.7%, full-year GAAP profitability, and completion of manufacturing consolidation. Based on first-half performance, management said it did not expect to achieve the full-year gross-margin target and reported a first-half net loss.
- Management expected gross margins to improve in the second half of 2014 as U.S. ICL manufacturing costs improved, product mix shifted, new products gained adoption, and selling prices increased. Lower-margin injector sales were expected to remain a headwind.
- On May 27, 2014, the FDA issued a Warning Letter concerning alleged cGMP deficiencies involving design-control documentation, software validation, complaint-data trending, and ICL shelf-life data. The letter did not restrict current production or shipments but could delay approval of related Class III premarket applications.
- The FDA advisory panel voted favorably on the TICL PMA Supplement, but approval remained pending and the company could not predict whether or when U.S. approval would occur. A July 2014 FDA deficiency letter also requested revisions and additional information regarding ICL calculator software.
- The company received CE Mark approval for its Preloaded ICL with enhanced optics on June 30, 2014 and targeted European availability of an enhanced-optic ICL for early 2015.
- The SEC initiated an informal inquiry regarding compliance with U.S. securities laws and requested documents related to FDA inspections and warnings. The company stated that it would cooperate.
- A putative securities class action, Todd v. STAAR, was filed in July 2014 alleging misleading statements and omissions concerning alleged regulatory violations at the Monrovia facility. The company believes the allegations are without merit and intends to defend the action. The filing states that potential losses could not yet be estimated.
- The manufacturing consolidation had incurred approximately $6.3 million since inception, including $0.3 million in the first half of 2014. Remaining termination-benefit liability was $0.4 million at July 4, 2014.
- The company’s international operations expose it to foreign-exchange, regulatory, political, reimbursement, and country-specific economic risks. Consolidation increases reliance on the Monrovia manufacturing site, creating operational and catastrophe risk.
- Other comprehensive income included a $0.6 million adverse impact from a lower Swiss pension discount rate, partly offset by foreign-currency translation gains and a pension curtailment adjustment.
Important Facts for Investors to Verify
- Whether the FDA Warning Letter deficiencies were remediated and whether they affected the timing of TICL or other PMA approvals.
- The status and potential financial impact of the SEC informal inquiry and the Todd v. STAAR securities litigation.
- Whether U.S. manufacturing consolidation delivers the projected gross-margin, operating-cost, and tax benefits without disrupting supply or quality.
- Progress toward restoring profitability, including trends in gross margin and the sustainability of elevated R&D, sales and marketing, administrative, and stock-based compensation expenses.
- Cash usage, inventory and receivables growth, credit-line availability, and the company’s ability to fund operations while reporting losses.
- Regional demand trends, particularly declining Japanese ICL and IOL sales, customer concentration, and the company’s reliance on a limited number of significant customers and suppliers.