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HORIZON MEDICAL PRODUCTS, INC. UNITED STATES
SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549
 FORM 10-Q [X]
    
    QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIESEXCHANGE ACT OF 1934
 For the quarterly period ended March 31, 2004 [  ]
    
    TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIESEXCHANGE ACT OF 1934
 Commission file number 001-15459 HORIZON MEDICAL PRODUCTS, INC. (Exact name of registrant as specified in its charter) Georgia
    
    58-1882343(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)
 One Horizon Way
P.O. Box 627
Manchester, Georgia 31816    Registrants telephone number, including area code: 706-846-3126 Indicate by check mark whether the registrant: (1) has filed all reports
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes
[X]    No [   ] Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2). Yes
[   ] No    [X] The number of shares outstanding of the Registrants Common Stock, $.001
par value, as of May 11, 2004 was 44,264,101.




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HORIZON MEDICAL PRODUCTS, INC. AND SUBSIDIARIES
FORM 10-Q For the Quarterly Period Ended March 31, 2004 INDEX PART I.
    
    FINANCIAL INFORMATIONITEM 1.
    
    Financial Statements (unaudited)Interim Condensed Consolidated Balance SheetsInterim Condensed Consolidated Statements of OperationsInterim Condensed Consolidated Statements of Cash FlowsNotes to Interim Condensed Consolidated Financial StatementsITEM 2.
    
    Managements Discussion and Analysis of Financial Condition and Results of OperationsITEM 3.
    
    Quantitative and Qualitative Disclosures about Market RiskITEM 4.
    
    Controls and ProceduresPART II.
    
    OTHER INFORMATIONITEM 1.
    
    Legal ProceedingsITEM 6.
    
    Exhibits and Reports on Form 8-KSIGNATURESEX-10.4 AMENDMENT TO OPTION AGREEMENTEX-31.1 SECTION 302 CERTIFICATION OF THE CEOEX-31.2 SECTION 302 CERTIFICATION OF THE CFOEX-32.1 SECTION 906 CERTIFICATION OF THE CEOEX-32.2 SECTION 906 CERTIFICATION OF THE CFO
 2




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PART I. FINANCIAL INFORMATION 
 ITEM 1. FINANCIAL STATEMENTS (UNAUDITED). The financial statements listed below are included on the following pages
of this Quarterly Report on Form 10-Q:  
    
    Interim Condensed Consolidated Balance Sheets at March 31,
2004 (unaudited) and December 31, 2003  
    
    Interim Condensed Consolidated Statements of Operations for
the three months ended March 31, 2004 and 2003  
    
    Interim Condensed Consolidated Statements of Cash Flows for
the three months ended March 31, 2004 and 2003  
    
    Notes to Interim Condensed Consolidated Financial Statements 3




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Horizon Medical Products, Inc. and Subsidiaries
Interim Condensed Consolidated Balance Sheets (UNAUDITED)March 31,
    
    December 31,2004
    
    2003ASSETSCurrent Assets:Cash and cash equivalents
    
    $
    1,537,769
    
    
    $
    1,806,444Accounts receivable  trade, net
    
    
    4,552,159
    
    
    
    4,523,643Inventory, net
    
    
    5,596,562
    
    
    
    5,551,794Prepaid expenses and other current assets
    
    
    296,148
    
    
    
    264,249Total Current Assets
    
    
    11,982,638
    
    
    
    12,146,130Property and equipment, net
    
    
    1,988,600
    
    
    
    2,040,313Goodwill, net
    
    
    15,650,356
    
    
    
    15,650,356Intangible assets, net
    
    
    5,018,710
    
    
    
    5,343,403Other assets
    
    
    6,228
    
    
    
    6,229Total Assets
    
    $
    34,646,532
    
    
    $
    35,186,431LIABILITIES AND SHAREHOLDERS EQUITYCurrent liabilities:Accounts payable  trade
    
    $
    1,033,141
    
    
    $
    1,042,897Accrued salaries and commissions
    
    
    1,242,833
    
    
    
    558,484Accrued interest
    
    
    87,385
    
    
    
    81,233Other accrued expenses
    
    
    328,204
    
    
    
    265,791Current portion of long-term debt
    
    
    1,347,313
    
    
    
    1,396,824Total current liabilities
    
    
    4,038,876
    
    
    
    3,345,229Long-term debt, net of current portion
    
    
    16,660,603
    
    
    
    16,999,228Other liabilities
    
    
    86,466
    
    
    
    90,166Total Liabilities
    
    
    20,785,945
    
    
    
    20,434,623Commitments and contingent liabilities (Note 6)Shareholders Equity:Preferred stock, no par value; 5,000,000 shares authorized,
none issued and outstanding
    
    
    
    
    
    
    Common stock, $.001 par value per share; 100,000,000 shares
authorized, 43,946,653 and 43,855,253 shares issued and outstanding as of March 31, 2004 and December 31, 2003
    
    
    43,947
    
    
    
    43,855Additional paid in capital
    
    
    75,015,200
    
    
    
    74,953,722Shareholders note receivable
    
    
    (43,565
    )
    
    
    (86,544
    )Accumulated deficit
    
    
    (61,154,995
    )
    
    
    (60,159,225
    )Total shareholders equity
    
    
    13,860,587
    
    
    
    14,751,808Total liabilities & shareholders equity
    
    $
    34,646,532
    
    
    $
    35,186,431
 The accompanying notes are an integral part of these interim condensed consolidated financial statements. 4




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HORIZON MEDICAL PRODUCTS, INC. AND SUBSIDIARIES
INTERIM CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED) Three Months EndedMarch 31,2004
    
    2003Net sales
    
    $
    7,086,040
    
    
    $
    6,087,516Cost of goods sold
    
    
    2,863,198
    
    
    
    2,453,159Gross profit
    
    
    4,222,842
    
    
    
    3,634,357Selling, general and administrative expenses
    
    
    4,640,604
    
    
    
    3,645,050Operating loss
    
    
    (417,762
    )
    
    
    (10,693
    )Other expense:Interest expense
    
    
    (569,574
    )
    
    
    (627,662
    )Other expense
    
    
    (8,434
    )
    
    
    (14,249
    )(578,008
    )
    
    
    (641,911
    )Net Loss
    
    $
    (995,770
    )
    
    $
    (652,604
    )Basic and diluted earnings per share:Net loss per share  basic and diluted
    
    $
    (0.02
    )
    
    $
    (0.02
    )Weighted average common shares outstanding  basic and diluted
    
    
    43,888,084
    
    
    
    33,904,765
 The accompanying notes are an integral part of these interim condensed consolidated financial statements. 5




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HORIZON MEDICAL PRODUCTS, INC. AND SUBSIDIARIES
INTERIM CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED) Three Months EndedMarch 31,2004
    
    2003Cash flows from operating activities:Net loss
    
    $
    (995,770
    )
    
    $
    (652,604
    )Adjustments to reconcile net loss to net cash provided by (used in)
operating activities:Depreciation expense
    
    
    128,685
    
    
    
    166,153Amortization of intangibles
    
    
    324,693
    
    
    
    378,083Changes in
operating assets and liabilities, which provided (used) cash, net:Accounts receivable, trade
    
    
    (28,516
    )
    
    
    (384,551
    )Inventories
    
    
    (44,768
    )
    
    
    349,638Prepaid expenses and other assets
    
    
    (31,898
    )
    
    
    95,969Accounts payable, trade
    
    
    (9,756
    )
    
    
    59,433Accrued expenses and other liabilities
    
    
    749,214
    
    
    
    (13,197
    )Net cash provided by (used in) operating activities
    
    
    91,884
    
    
    
    (1,076
    )Cash flows from investing activities:Capital expenditures
    
    
    (76,972
    )
    
    
    (125,149
    )Acquisition of intangible assets
    
    
    
    
    
    
    (286,269
    )Cash proceeds from disposition of distribution segment
    
    
    
    
    
    
    252,943Proceeds from shareholders notes receivable
    
    
    42,979
    
    
    
    Net cash used in investing activities
    
    
    (33,993
    )
    
    
    (158,475
    )Cash flows from financing activities:Principal payments on long term debt
    
    
    (388,136
    )
    
    
    (457,068
    )Exercise of stock options
    
    
    61,570
    
    
    
    Net cash used in financing activities
    
    
    (326,566
    )
    
    
    (457,068
    )Net decrease in cash and cash equivalents
    
    
    (268,675
    )
    
    
    (616,619
    )Cash and cash equivalents, beginning of period
    
    
    1,806,444
    
    
    
    3,711,514Cash and cash equivalents, end of period
    
    $
    1,537,769
    
    
    $
    3,094,895
 The accompanying notes are an integral part of these interim condensed consolidated financial statements. 6




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HORIZON MEDICAL PRODUCTS, INC. AND SUBSIDIARIES 
 NOTES TO INTERIM CONDENSED CONSOLIDATED FINANCIAL STATEMENTS  1.
    
    Basis of Presentation and Summary of Significant Accounting Policies The condensed consolidated balance sheet of Horizon Medical Products, Inc.
and Subsidiaries (collectively, the Company) at December 31, 2003 has been
derived from the Companys audited consolidated financial statements at such
date. Certain information and footnote disclosures normally included in
complete financial statements prepared in accordance with accounting principles
generally accepted in the United States of America (GAAP) have been condensed
or omitted pursuant to the rules and regulations of the Securities and Exchange
Commission (SEC) and instructions to Form 10-Q. The interim condensed
consolidated financial statements at March 31, 2004, and for the three month
periods ended March 31, 2004 and 2003 are unaudited; however, these statements
reflect all adjustments and disclosures which are, in the opinion of
management, necessary for a fair presentation. All such adjustments are of a
normal recurring nature unless noted otherwise. The results of operations for
the interim periods are not necessarily indicative of the results of the full
year. These financial statements should be read in conjunction with the
Companys Annual Report on Form 10-K for the year ended December 31, 2003 (the
Form 10-K), including, without limitation, the summary of accounting policies
and notes and consolidated financial statements included therein. Effective January 1, 2002, the Company adopted Statement of Financial
Accounting Standards (SFAS) No. 142, Goodwill and Other Intangible Assets.
SFAS No. 142 supercedes Auditing Practices Board (APB) No. 17 and requires
that: (1) goodwill and indefinite lived intangible assets will no longer be
amortized; (2) goodwill will be tested for impairment at least annually at the
reporting unit level; (3) intangible assets deemed to have an indefinite life
will be tested for impairment at least annually; and (4) the amortization
period of intangible assets with finite lives will no longer be limited to
forty years. Upon the adoption of SFAS No. 142 on January 1, 2002, the Company
recognized an estimated impairment loss of approximately $16.1 million related
to its distribution reporting unit. In addition, the Company ceased
amortization of its goodwill. The Companys goodwill amortization was
approximately $1.3 million and $1.7 during the years ended December 31, 2001
and 2000, respectively. See Note 7 for the Companys expected future
amortization charges after the adoption of SFAS No. 142. New Accounting
Pronouncements The FASB recently issued Statement 132 (revised 2003), Employers
Disclosures about Pensions and Other Postretirement Benefits (Statement
132(R)). Statement 132(R) retains all of the disclosures that are required by
FASB Statement 132, Employers Disclosures about Pensions and Other
Postretirement Benefits, and includes several additional disclosures. The
additional disclosures apply to both public and private companies, although
there is a delayed effective date for private companies. It also amends APB
Opinion 28, Interim Financial Reporting, to require certain disclosures about
pension and other postretirement benefit plans in interim financial statements. The additional annual disclosures in Statement 132(R) are required in
financial statements of public companies with fiscal years ending after
December 15, 2003 (December 31, 2003 financial statements for an entity with a
calendar year-end) except for disclosures about estimated future benefit
payments and the additional disclosures for foreign plans, which are effective
for fiscal years ending after June 15, 2004. The provisions of Statement 132(R)
are effective for nonpublic companies and foreign plans for fiscal years ending
after June 15, 2004. The interim-period disclosures are required in interim
periods beginning after December 15, 2003 (March 31, 2004 for a calendar
year-end company). The adoption of the final interpretation did not have a
material impact on its financial statements. 7




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The SEC recently issued Staff Accounting Bulletin (SAB) 104, Revenue
Recognition, to update SAB 101, Revenue Recognition in Financial Statements
(codified in Topic 13: Revenue Recognition), primarily for the following
reasons:  
    
    to reflect the issuance of EITF Issue 00-21, Revenue Arrangements
with Multiple Deliverables.Because some revenue arrangements contain
multiple deliverables, the staff believes that an entity should
determine the units of accounting in an arrangement before applying the
guidance in SAB 104.  
    
    to delete the guidance on reporting revenues gross as a principal
or net as an agent because EITF Issue 99-19, Reporting Revenue Gross
as a Principal versus Net as an Agent,provides that guidance.  
    
    to rescind SAB 101: Revenue Recognition in Financial Statements -
Frequently Asked Questions and Answers (FAQ) and incorporate selected
portions of the FAQ into Topic 13. The FAQ permitted registrants to
elect a policy of not recognizing any revenue on equipment sold on an
installed basis until installation is complete. Because EITF Issue
00-21 requires revenue arrangements with multiple deliverables to be
divided into separate units of accounting if the criteria in paragraph
9 are met, this election is no longer available to registrants upon
adoption of EITF Issue 00-21. Since SAB 104 is not creating new GAAP, the issuance of SAB 104 should not be
considered a change in accounting principle. The implementation of SAB 104 is
not expected to have a material impact on the financial statements of the
Company. Stock Based Compensation As of March 31, 2004, the Company has a stock-based employee compensation
plan, the 1998 Stock Incentive Plan, as amended (the Incentive Plan), as
described in Note 9 of the Companys consolidated financial statements included
in the Form 10-K. The Company applies APB No. 25 and related interpretations in
accounting for the Incentive Plan, which is an acceptable method for accounting
for stock-based employee compensation, despite the adoption of SFAS No. 123.
Accordingly, no compensation expense has been recognized by the Company for
fixed stock option awards under the Incentive Plan. Had compensation expense
for options granted under the Incentive Plan and outside of the Incentive Plan
been determined based on the fair value at the grant dates consistent with the
method of SFAS No. 123, the Companys net loss and net loss per share would
have been increased to the pro forma amounts indicated below: For the Three Months
    
    For the Three MonthsEnded March 31, 2004
    
    Ended March 31, 2003Net Loss:As
reported
    
    $
    (995,770
    )
    
    $
    (652,604
    )Pro
Forma
    
    $
    (1,305,159
    )
    
    $
    (1,357,553
    )Net Loss per share 
basic and diluted:As
reported
    
    $
    (.02
    )
    
    $
    (.02
    )Pro
Forma
    
    $
    (.03
    )
    
    $
    (.04
    )
 Geographic
Segments The Companys operations are located in the United States, except for a
sales office in Belgium. Thus, substantially all of the Companys assets are
located domestically. Sales information by geographic 8




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area for the three months ended March 31, 2004 and 2003 is as follows: For the Three Months
    
    For the Three MonthsEnded March 31, 2004
    
    Ended March 31, 2003United
States
    
    $
    6,663,997
    
    
    $
    5,648,499Foreign
    
    
    422,043
    
    
    
    439,017Consolidated Net
Sales
    
    $
    7,086,040
    
    
    $
    6,087,516
 The table below presents net sales by major product category for the three
months ended March 31, 2004 and 2003: For the Three Months
    
    For the Three MonthsEnded March 31, 2004
    
    Ended March 31, 2003Ports
    
    $
    4,450,059
    
    
    $
    4,550,021Port
Accessories
    
    
    1,182,131
    
    
    
    584,118Catheters
    
    
    829,221
    
    
    
    767,990Pumps
    
    
    516,925
    
    
    
    0All
other
    
    
    107,704
    
    
    
    185,387Consolidated Net
Sales
    
    $
    7,086,040
    
    
    $
    6,087,516
  2.
    
    Inventories A summary of inventories is as follows: March 31, 2004
    
    December 31, 2003Raw
Materials
    
    $
    3,756,080
    
    
    $
    3,351,601Work in
process
    
    
    330,039
    
    
    
    507,305Finished Goods
    
    
    3,515,802
    
    
    
    3,734,431Less inventory reserves
    
    
    (2,005,359
    )
    
    
    (2,041,543
    )$
    5,596,562
    
    
    $
    5,551,794
  3.
    
    Earnings Per Share A summary of the calculation of basic and diluted earnings per share
(EPS) is as follows: For the Three Months Ended
    
    For the Three Months EndedMarch 31, 2004
    
    March 31, 2003Net LossNumerator
    
    Shares Denominator
    
    Per-share Amount
    
    Net Loss Numerator
    
    Shares Denominator
    
    Per-share AmountEPS  basic and
diluted
    
    $
    (995,770
    )
    
    
    43,888,084
    
    
    $
    (.02
    )
    
    $
    (652,604
    )
    
    
    33,904,765
    
    
    $
    (.02
    )
 Options to purchase 9,244,417 shares of common stock and warrants to
purchase 424,448 shares of common stock were outstanding as of March 31, 2004,
but are not included in the computation of the March 31, 2004 diluted EPS
because the effect would be anti-dilutive. The options have exercise prices
ranging from $0.35 to $14.63 and expire between 2008 and 2014. Warrants to
purchase 299,448 shares of common stock have an exercise price of $0.01 and
expire in 2012. Subsequent to March 31, 2004, 9




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these warrants were exercised in full. Warrants to purchase 25,000 shares
of common stock have an exercise price of $1.22 and expire in 2011. Warrants to
purchase 50,000 shares of common stock have an exercise price of $0.93 and
expire in 2005. Warrants to purchase 50,000 shares of common stock have an
exercise price of $0.69 and expire in 2006. Options to purchase 9,445,900 shares of common stock and warrants to
purchase 823,619 shares of common stock were outstanding as of March 31, 2003,
but are not included in the computation of the March 31, 2003 diluted EPS
because the effect would be anti-dilutive. The options had exercise prices
ranging from $0.43 to $14.63 and expire between 2008 and 2013. Warrants to
purchase 748,619 shares of common stock had an exercise price of $.01 per share
and expired in 2012. Warrants to purchase 25,000 shares of common stock had an
exercise price of $1.22 and expired in 2011. Warrants to purchase 50,000 shares
of common stock had an exercise price of $0.93 and expired in 2005.  4.
    
    Long-Term Debt On March 1, 2002, the Company entered into certain agreements with ComVest
Venture Partners, L.P. (ComVest), an affiliate of Commonwealth Associates
L.P. (Commonwealth) to recapitalize the Company (the Recapitalization). The
Company completed the Recapitalization on March 16, 2002. The following is a
summary of certain material provisions of the Recapitalization: On March 1, 2002, the Company entered into a Note Purchase Agreement (the
Note Purchase Agreement) with ComVest, Medtronic, Inc. (Medtronic), and 26
individual and entity Additional Note Purchasers (collectively, the Additional
Note Purchasers). Under the Note Purchase Agreement, the Company agreed to
issue $15 million of Senior Subordinated Convertible Notes (the Convertible
Notes). Interest on these Convertible Notes is payable quarterly beginning in
June 2002 and accrues at a rate of 6% per year for the first six months and 8%
per year thereafter until the notes are paid in full and mature on March 16,
2004. The Company issued the Convertible Notes as follows: $4.4 million to
ComVest, $4 million to Medtronic and $6.6 million to the Additional Note
Purchasers. On October 21, 2003, the maturity date of the Convertible
Notes was extended to July 16, 2005. Under the Note Purchase Agreement, the Events of Default include, but are
not limited to, failure to pay an obligation when due, failure to comply with
obligations under an Amended and Restated Securityholders Agreement (the
Securityholders Agreement) or the Co-Promotion Agreement with Medtronic (as
amended), under which the Company promotes and provides technical advice for
Medtronics implantable drug delivery systems which are used for the treatment
of hepatic arterial infusion and malignant pain, breach of any covenant which
remains uncured for 15 days, bankruptcy, a change of control and failure to
obtain shareholder approval of certain proposals related to the
Recapitalization at the Companys 2002 annual meeting of shareholders (the
2002 Annual Meeting) within 195 of the closing date of the Recapitalization
(March 16, 2002). On September 17, 2002, at the 2002 Annual Meeting, the
Companys shareholders approved all such proposals relating to the
Recapitalization. Generally, upon an Event of Default, the holders of a
majority of the aggregate principal amount of Convertible Notes outstanding may
declare the unpaid principal and interest on the Notes immediately due and
payable. Additionally, Medtronic may, upon a breach by the Company of its
obligations (after applicable cure periods) under the Co-Promotion Agreement or
a breach of covenants in the Convertible Notes held by Medtronic, declare the
unpaid principal and interest on such Notes immediately due and payable. Also, if the Company defaults under the Note Purchase Agreement, it will
be in default under the Loan Agreement with LaSalle (as described below)
pursuant to the cross-default provisions contained therein. At March 31, 2004,
the aggregate amount of indebtedness which would be subject to acceleration
under the Note Purchase Agreement, the Companys credit facility with LaSalle
(as described below) and the Junior Note (as described below), causing the same
to become immediately due 10




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and payable, was approximately $17.2 million. The holders of the Convertible Notes have converted in the aggregate a
total of $270,000 of the Convertible Notes into 27,000,000 shares of the
Companys common stock at a conversion price of $0.01 per share. An aggregate
principal amount of $14,763,000 of Convertible Notes remains outstanding at
March 31, 2004. This 27,000,000 shares also includes 3,300,000 shares which
were issued to ComVest upon conversion of the Bridge Note (as described below).
In connection with the Recapitalization, the Company issued to ComVest a
Convertible Bridge Note (the Bridge Note). ComVest converted this Bridge
Note into 3,300,000 shares of the Companys common stock at a conversion price
of $0.01 per share in 2002, As a result of such conversion, the Bridge Note
has been extinguished. The Company may prepay the Convertible Notes, subject to no prepayment
penalty on or before March 16, 2003, a prepayment penalty of 5% between March
17, 2003 and March 16, 2004, and no prepayment penalty through the maturity
date of the Convertible Notes (July 16, 2005). The fair value of the Convertible Notes, which was used in the
determination of the extraordinary loss on early extinguishment of debt was
$33.3 million. As this value represents a substantial premium to the face value
of the debt, the Company recorded the debt at its face value of $15 million,
and recorded the premium of $18.3 million as an increase to additional
paid-in-capital. The Company determined the fair value of the Convertible Notes
by considering their two components, the non-convertible debt of $14,730,000
and the convertible debt of $270,000. The non-convertible debt components
carrying value of $14,730,000 represents its fair value because, when
considered with the convertible component, its terms yield a market rate of
return. The convertible components fair value was determined by multiplying
the fair value of the Companys stock by the number of shares into which this
component is convertible. Thus, 27,000,000 shares multiplied by $0.68940 per
share equals $18,613,685. The sum of the non-convertible components fair value
of $14,730,000 and the convertible components fair value of $18,613,685 equals
the total debt instruments fair value of $33,343,685. The Company determined the fair value of its stock in a multiple-step
process. First, the Company computed its assumed fair value of $13,762,977 at
the date of the transaction by multiplying outstanding shares of 16,311,676 by
the then current market price per share of $0.84375, which resulted in a fair
value of the Company prior to any conversion of the convertible portion of the
Convertible Notes. The Company then added to this computed fair value
$16,095,909, which represents the difference between the old Bank of America
debt of $40,320,909 and the face value of the new debt of $24,225,000. This
$16,095,909 difference was credited to additional paid-in-capital. Thus, the
new fair value of the Company, prior to any conversion, is $29,858,886. The
Company then assumed full conversion of the convertible portion of the notes,
which resulted in an additional 27,000,000 shares becoming outstanding. After
conversion, the Company would have 43,311,676 shares outstanding, which when
divided into the new fair value of $29,858,886, yields a new per share market
value of $0.68940. On March 18, 2002, the Company entered into the LaSalle Credit Facility
pursuant to a loan and security agreement (the Loan Agreement) with Standard
Federal Bank National Association (SFB), acting by and through LaSalle, as
SFBs agent (collectively the Lender). Under the Loan Agreement, the Lender
provided a $20 million Revolving Loan (the Revolving Loan) and a $2 million
Term Loan (the Term Loan). Effective December 23, 2002, in connection with
the December Amendment (as defined below), the Revolving Loan limit was reduced
to $10 million. Both loan facilities will bear interest at the LaSalle Bank
Prime Rate plus 2%, subject to an additional 2% that would be added to the
interest rate upon the occurrence of an Event of Default (as discussed below). As collateral, the Company granted a security interest in all of the
Companys present and future assets, whether now or hereafter owned, existing,
acquired or arising and wherever now or hereafter 11




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located, including, but not limited to: all accounts receivable; all
chattel paper, instruments, documents and general intangibles including
patents, patent applications, trademarks, trademark applications, trade
secrets, trade names, goodwill, copyrights, copyright applications,
registrations, licenses, software, franchises, customer lists, tax refund
claims, claims against carriers and shippers, guaranty claims, contract rights,
payment intangibles, security interests, security deposits, and indemnification
rights; all inventory; all goods including equipment, vehicles, and fixtures;
all investment property; all deposit accounts, bank accounts, deposits and
cash; all letter-of-credit rights; certain commercial tort claims; all property
of the Company in control of the Lender or any affiliate of the Lender; and all
additions, substitutions, replacements, products, and proceeds of the
aforementioned property including proceeds from insurance policies and all
books and records relating to the Companys business. The Loan Agreement contains affirmative and negative covenants. The
affirmative covenants require the Company to, among other things, maintain
accurate and complete records, notify the Lender of major business changes,
comply with relevant laws, maintain proper permits, conduct relevant
inspections and audits, maintain adequate insurance with the Lender named as
loss payee, keep collateral in good condition, use proceeds only for business
purposes, pay required taxes, maintain all intellectual property, maintain a
checking account with LaSalle, hire a Chief Operating Officer with experience
in the medical products industry within 90 days of the date of the Loan
Agreement (which has been done), grant the Lender the right to conduct
appraisals of the collateral on a bi-annual basis, and deliver a survey of the
property located at the Companys offices on Northside Parkway in Atlanta
within 60 days of the date of the Loan Agreement (which has been done). The
negative covenants restrict the Companys ability to, among other things, make
any guarantees, incur additional indebtedness, grant liens on its assets, enter
into business combinations outside the ordinary course of business, pay
dividends, make certain investments or loans, allow its equipment to become a
fixture to real estate or an accession to personal property, alter its lines of
business, settle accounts, or make other fundamental corporate changes. Effective December 23, 2002, the Company and the Lender amended the Loan
Agreement (the December 2002 Amendment) to, among other things, amend certain
financial maintenance covenants. These covenants, include, but are not limited
to, the following:  
    
    maintaining Tangible Net Worth of $7,500,000 for the quarters
ending December 31, 2002, March 31, 2003, June 30, 2003 and
September 30, 2003, and $8,000,000 for the quarter ending December
31, 2003 and each quarter thereafter (Tangible Net Worth is defined
as the Companys shareholders equity including retained earnings
less the book value of all intangible assets, prepaid and non-cash
items arising from the transactions contemplated by the Loan
Agreement and goodwill impairment charges recorded as a result of
Statement of Financial Accounting Standards (SFAS) No. 142 as
determined solely by the Lender on a consistent basis plus the
amount of any LIFO reserve plus the amount of any debt subordinated
to the Lender);  
    
    maintaining fixed charge coverage (ratio of EBITDA to fixed
charges) of 0.15 to 1.0 for the fiscal quarter ending December 31,
2002, 0.3 to 1.0 for the fiscal quarters ending March 31, 2003, June
30, 2003 and September 30, 2003, 0.50 to 1.0 for the fiscal quarter
ending December 31, 2003, 0.75 to 1.0 for the fiscal quarter ending
March 31, 2004 and 1.0 to 1.0 for the fiscal quarter ending June 30,
2004 and for each fiscal quarter thereafter, which was revised in
the April 2004 Amendment described below to 0.50 to 1.0 for the
fiscal quarter ending March 31, 2004 and each fiscal quarter after
March 31, 2004;  
    
    maintain EBITDA, based on the immediately preceding four
fiscal quarters, of $750,000 on December 31, 2002, $1,350,000 on
March 31, 2003, $1,475,000 on June 30, 2003 and September 30, 2003,
$2,500,000 on December 31, 2003, $3,675,000 on March 31, 2004 and 12




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$4,900,000 on June 30, 2004 and each fiscal quarter thereafter, which
was revised in the April 2004 Amendment described below to $2,000,000
on each of March 31, 2004, June 30, 2004 and September 30, 2004 and
$2,250,000 on December 31, 2004 and thereafter; and  
    
    limit capital expenditures to no more than $1,500,000 during
any fiscal year. The December 2002 Amendment established a $10 million revolving loan limit
and provided that, commencing January 1, 2003, the Company shall pay to the
Lender an annual facility fee of $100,000. As of March 31, 2004 and December
31, 2003, the Company had $3.6 million and $2.8 million, respectively,
available for borrowing under the revolving portion of the Loan Agreement. As
of March 31, 2004 and December 31, 2003, the Company had $666,667 and $833,333,
respectively, in borrowings outstanding under the Term Loan. The Company had
no borrowings outstanding under the revolving loan as of March 31, 2004 and
December 31, 2003. As of March 31, 2004, the Company believes it was in
compliance with all covenants in the Loan Agreement (as amended by the December
2002 Amendment and the April 2004 Amendment) set forth above. In April 2004, the Company amended the Loan Agreement to, among other
things, (i) amend the termination provisions of the Loan Agreement to provide
the Company the ability to terminate the Loan Agreement prior to the end of the
term thereof by paying in full all outstanding liabilities at such time
(subject to a prepayment penalty under certain circumstances) and (ii) modify
certain financial covenants contained therein (the April 2004 Amendment).
The financial covenants amended in the April 2004 Amendment are set forth
above. The Loan Agreement also specifies certain Events of Default, including,
but not limited to, failure to pay obligations when due, failure to direct its
account debtors to make payments to an established lockbox, failure to make
timely financial reports to the Lender, the breach by the Company or any
guarantor of any obligations with any other Person (as defined in the Loan
Agreement) if such breach might have a material adverse effect on the Company
or such guarantor, breach of representations, warranties or covenants, loss of
collateral in excess of $50,000, bankruptcy, appointment of a receiver,
judgments in excess of $25,000, any attempt to levy fees or attach the
collateral, defaults or revocations of any guarantees, institution of criminal
proceedings against the Company or any guarantor, occurrence of a change in
control, the occurrence of a Material Adverse Change or a default or an event
of default under certain subordinated debt documents. Upon the occurrence of
any Event of Default, the Lender may accelerate the Companys obligations under
the Loan Agreement. The Company must repay the Term Loan in 36 equal monthly installments of
$55,556 commencing April 2002. The Loan Agreement will automatically renew for
one-year terms unless (i) the Lender demands repayment on the Termination Date,
(ii) the due date is accelerated as a result of an Event of Default, (iii) the
Company gives 90 days notice of its intent to terminate and pays all amounts
due in full, (iv) the Company terminates the Loan Agreement prior to the end of
the term by giving 10 days notice to Lender of its intent to terminate and pays
all amounts due in full or (v) the Lender elects to terminate on or after
February 1, 2004 as a result of a Termination Event. A Termination Event is
defined as the failure of Medtronic, ComVest or any Additional Note Purchaser
to extend the maturity date (March 15, 2004) of the Convertible Notes at least
thirty days past the date of the original term (March 17, 2005) or any
applicable renewal term. In October 2003, the maturity date of the Convertible
Notes was extended to July 16, 2005. Pursuant to the LaSalle credit facility, the Company also issued to
LaSalle and SFB warrants to purchase up to an aggregate of 748,619 shares of
common stock at an exercise price of $.01 per share. The Company recorded the
estimated fair value of the warrant as of March 18, 2002 of approximately
$695,000, determined using the Black-Scholes model (using weighted average
assumptions as follows: 13




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##### Table of Contents



dividend yield of 0%, expected life of 3 years, expected volatility of
112.2% and a risk free interest rate of 2.43%) as a reduction of the gain on
early extinguishment of debt. Effective as of April 30, 2004, these warrants
have been exercised in full and cancelled. A Junior Note (the Junior Note) issued in favor of Bank of America in
the amount of $2 million bears interest at a rate of 6% per annum, payable
monthly beginning April 2002, and matures on March 15, 2007. Beginning on May
1, 2003, a principal payment on the Junior Note of $22,500 is payable on the
first day of each month until maturity of the Junior Note, at which time a
balloon payment of $920,000 is due.  5.
    
    Related-Party Transactions Harold Blue, who was appointed to the Companys Board of Directors in
March 2003, serves as the President of Commonwealth Associates Group Holdings,
LLC (CAGH). ComVest is an affiliated entity of CAGH. In connection with the
Recapitalization, in March 2002, the Company issued Convertible Notes to
ComVest in the principal amount equal to $4,400,000. During the first quarter
of fiscal 2004 and of fiscal 2003, the Company paid an aggregate of $86,443 and
$86,900 in interest to ComVest on the Convertible Notes issued to ComVest. In the first quarter of 2004, the Company recorded a one-time charge to
earnings related to separation payments payable to each of the Companys former
Chief Executive Officer and the Companys former President, each of whom
resigned his position with the Company during the first quarter of 2004. See
Managements Discussion and Analysis of Financial Condition and Results of
Operations in this Form 10-Q for more information concerning this charge and
its impact on the Companys results of operations. The Company had unsecured loans to a former CEO, a former President of the
Company, and a former Vice Chairman of the Board of the Company in the form of
notes receivable. In March 2002, approximately $342,000 was paid to the Company
by the former CEO of the Company and the former President of the Company in
full settlement of their outstanding balances, which included accrued interest.
During the third quarter of 2003, the notes that are payable by the former Vice
Chairman of the Board were amended to provide for payment by the former Vice
Chairman of the Board of principal and interest outstanding of $170,830 under
the notes in 12 equal monthly installments, commencing on July 15, 2003. The
loans payable by the former Vice Chairman of the Board remain outstanding, with
a balance of $43,563 as of March 31, 2004, in compliance with the amended
agreement. See Note 11 of the Companys consolidated financial statements included in
the Form 10-K for a description of the Companys other related party
transactions.  6.
    
    Commitments and Contingencies The Company is subject to legal proceedings and claims which arise in the
ordinary course of its business. In the opinion of management, the amount of
ultimate liability with respect to these actions will not materially affect the
consolidated financial position, results of operations, or cash flows of the
Company. The Company is subject to numerous federal, state and local environmental
laws and regulations. Management believes that the Company is in material
compliance with such laws and regulations and that potential environmental
liabilities, if any, are not material to the consolidated financial statements. The Company is party to license agreements with an individual (the
Licensor) for the right to 14




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manufacture and sell dual lumen fistula needles, dual lumen
over-the-needle catheters, dual lumen chronic and acute catheters, and other
products covered by the Licensors patents or derived from the Licensors
confidential information. Payments under the agreement vary, depending upon the
purchaser, and range from 9% to 15% of the Companys net sales of such licensed
products. Such payments shall continue until the expiration date of each
corresponding licensed patent right covering each product under the agreement. The Company is party to numerous agreements which contain certain
provisions regarding change in control, as defined by the agreements, or the
acquisition of the Company by a third party. These provisions could result in
additional payments being required by the Company should these events, as
defined, occur. In November 2002, the Company was served with a complaint filed in the
United States District Court for the Northern District of Georgia by Chepstow
Limited (Chepstow) against the Company, its Chief Executive Officer, Marshall
B. Hunt, its President, William E. Peterson, Jr., and members of Mr. Hunts
family and a family limited partnership established by Mr. Hunt and his wife.
Chepstow alleged that it had a judgment on a promissory note against Mr. Hunt,
that it is engaging in post-judgment collection efforts, and that the defendant
parties in this action had engaged with Mr. Hunt in fraudulent conveyances of
Mr. Hunts assets. Specifically, with respect to the Company, Chepstow alleged
that, in March 2002, Mr. Hunt transferred 225,000 shares of the Companys
common stock to his family limited partnership, that such transfer was a
fraudulent conveyance under Georgia law, that the Company assisted in such
transfer, and that the Company engaged in an unlawful conspiracy to hinder,
delay or defraud Chepstow as Mr. Hunts creditor. Chepstow sought to void such
transfers and injunctive relief, compensatory damages, and punitive damages
from the defendants, including the Company. The Company filed a motion to
dismiss the action against the Company. In July 2003, the court granted the
Companys motion to dismiss and dismissed the lawsuit against all parties. In
August 2003, plaintiff filed a Notice of Appeal with respect to the courts
dismissal and the Company has filed its brief in connection with such appeal.
Oral arguments were held on the appeal in January 2004. The Company has entered
into an agreement with Chepstow that if the appellate court should reverse the
District Courts dismissal of the lawsuit as to the Company, the continuation
of the lawsuit in the District Court will be stayed pending Mr. Hunts
satisfaction of Chepstows judgment against Mr. Hunt and will be dismissed upon
Mr. Hunts satisfaction of such judgment. As described in Note 4 to the interim condensed consolidated financial
statements contained herein, the Loan Agreement sets forth certain Events of
Default, the occurrence of which would allow the Lender to accelerate the
Companys obligations under the Loan Agreement (see Note 4 to these interim
condensed consolidated financial statements). Also as described in Note 4
above, the Note Purchase Agreement contains certain events of default which
could allow the holders of the Convertible Notes to accelerate the due date for
payment of the Convertible Notes (see Note 4 to these interim condensed
consolidated financial statements).  7.
    
    Goodwill and Other Intangible Assets The Company adopted SFAS No. 142 effective January 1, 2002. SFAS No. 142
requires that: (1) goodwill and indefinite lived intangible assets will no
longer be amortized; (2) goodwill will be tested for impairment at least
annually at the reporting unit level; (3) intangible assets deemed to have an
indefinite life will be tested for impairment at least annually; and (4) the
amortization period of intangible assets with finite lives will no longer be
limited to forty years. Upon the adoption of SFAS No. 142, the Company recorded
an impairment loss of $16.1 million with respect to its distribution business. A summary of the Companys intangible assets as of March 31, 2004 is as
follows: 15




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##### Table of Contents



Indefinite lived intangible assets: Goodwill:
    
    $15,650,356
 Finite lived intangible assets as of March 31, 2004, subject to
amortization expense, are comprised of the following: Gross Carrying
    
    AccumulatedAmount
    
    Amortization
    
    NetPatents
    
    $
    8,218,000
    
    
    $
    (3,622,719
    )
    
    $
    4,595,281Non-compete and consulting
Agreements
    
    
    2,308,727
    
    
    
    (2,247,638
    )
    
    
    61,089Debt issuance
costs
    
    
    1,751,227
    
    
    
    (1,463,020
    )
    
    
    288,207Other
    
    
    212,702
    
    
    
    (138,569
    )
    
    
    74,133Total
    
    $
    12,490,656
    
    
    $
    (7,471,946
    )
    
    $
    5,018,710
 Amortization expense for finite lived intangible assets was $324,693 for
the three months ended March 31, 2004. The expected amortization expense for
each of the five succeeding fiscal years ended December 31 is as follows: Remaining 2004
    
    $
    788,4372005
    
    
    684,5092006
    
    
    599,7242007
    
    
    599,7242008
    
    
    569,1612009
    
    
    454,404Thereafter
    
    
    1,322,751$
    5,018,710
  8.
    
    Shareholders Equity The exercise of stock options added $92 and $61,478 to Common Stock and
Additional Paid in Capital in the three months ended March 31, 2004,
respectively. The repayment of Notes Receivable from a former Vice Chairman of
the Board, as discussed in Note 5, reduced the Shareholder Note receivable in
the equity section, by $42,979 during the three months ended March 31, 2004.  9.
    
    Subsequent Event On May 13, 2004, the Company announced that it had entered into an
Agreement and Plan of Merger with RITA Medical Systems, Inc. (Rita) and
Hornet Acquisition Corp., a wholly owned subsidiary of Rita (the Merger
Agreement). Pursuant to the terms of the Merger Agreement, each shareholder
of the Company will receive 0.4212 (the Exchange Ratio) of a RITA share for
each share of the Companys common stock held. The Exchange Ratio will also be
applied to all outstanding options and warrants of the Company. Based on the
Exchange Ratio, RITA expects to issue approximately 18,644,039 shares in the
merger and assume options and warrants for an additional 3,935,110 shares. The
closing of the merger is subject to a number of closing conditions, including
the approval of the merger by the Companys shareholders and Ritas
stockholders. 16




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ITEM 2. MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Critical Accounting Policies For a discussion of critical accounting policies utilized by the Company,
see the Form 10-K. Since the date of the Form 10-K, there has been no material
change in the Companys critical accounting policies. Results of Operations First Quarter of 2004 Compared to First Quarter of 2003 Net Sales. Net sales increased 16% to $7.1 million for the first quarter
of 2004 from $6.1 million for the first quarter of 2003. This increase is
primarily attributable to continued growth from the Vortex® family of products
and increased traction by the Companys direct sales force as they continue to
expand their call points, combined with the addition of Medtronics IsoMed® HAI
product line in June 2003. Gross Profit. Gross profit increased to $4.2 million, or 59.6% of net
sales, for the first quarter of 2004 from $3.6 million, or 59.7% of net sales,
for the first quarter of 2003. Gross margins remained stable, continuing to
reflect the manufacturing efficiencies realized in the Companys previous
fiscal quarters. Selling, General and Administrative Expenses. Selling, general and
administrative expenses (SG&A) increased to approximately $4.6 million for
the first quarter of 2004 compared with $3.6 million for the first quarter of
2003. This increase is primarily attributable to a one-time charge of
approximately $1.026 million taken by the Company in the first quarter of 2004
for separation payments payable to each of the Companys former Chief Executive
Officer and the Companys former President, each of whom resigned his position
with the Company during the first quarter of 2004. SG&A as a percentage of net
sales increased to 65% for the first quarter of 2004 from 60% for the first
quarter of 2003 due primarily to the above-described separation payments.
Exclusive of these one-time separation costs, SG&A remained stable for the
first quarter of 2004 compared with the first quarter of 2003. Interest Expense. Interest expense, net of interest income, decreased by
approximately $58,000 from $627,662 for the first quarter of 2003 to $569,574
for the first quarter of 2004. This decrease is the result of lower total
outstanding debt in the first quarter of 2004. Net Loss. The net loss for the first quarter of 2004 was $995,770 or
$(.02) per share compared with a net loss of $652,604 or $(.02) per share for
the first quarter of 2003. Excluding the effects of the one time
separation related charges referred to above, net
income for the first quarter of 2004 would have been $29,810. Earnings before Interest, Taxes, Depreciation, and Amortization
(EBITDA).EBITDA was $(94,173) for the first quarter of 2004, compared with
$348,871 for the first quarter of 2003. In 2004, the contribution to gross
profit from the increase in sales was more than offset by the one-time
separation related charges referred to above, thus causing the decline in
EBITDA as compared with the first three months of 2003. EBITDA is a metric which management believes is a meaningful measurement
of operating performance which allows analysts and investors to compare the
performance of the Company against other competitors in the healthcare
industry. EBITDA is also one of the factors used in determining the 17




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Companys management performance bonuses. The calculation of EBITDA has no
basis in Generally Accepted Accounting Principles (GAAP) and may not be
consistent with calculations of EBITDA used by other companies. Management
believes that net income (loss) is the most directly comparable financial
measure calculated and presented in accordance with GAAP. The reconciliation of
EBITDA to net income (loss) is set forth below. Income Taxes. The Company generated income tax loss during the three
months ended March 31, 2004 and 2003. Management currently
believes that the Company will continue in an income tax loss
position throughout 2004. The Company is entitled to the benefits of
certain net operating loss carryforwards. As of March 31, 2004,
management has determined that it is appropriate to provide a valuation
allowance to fully reserve deferred tax assets. Management will
continually evaluate the valuation allowance on the deferred tax
assets. As a result of the conversion to common stock of debt
issued in the Recapitalization in 2002, the Company had a change in control for income
tax purposes. Section 382 of the Code restricts the utilization of NOL
carryforwards and the benefit of certain built in losses when there has been a
change in control as defined in the tax code. Management is in the process of
determining the tax implications of the change of control. Goodwill Impairment Loss.Upon the adoption of SFAS No. 142 on January 1,
2002, the Company recognized an impairment loss of approximately $16.1 million
related to its distribution reporting unit. The Company has identified two
reporting units, the aforementioned manufacturing unit and the distribution
unit. These reporting units are consistent with the Companys previously
identified reportable segments under SFAS No. 131. In applying the transitional
impairment model prescribed by SFAS 142, the Company used a discounted cash
flow model to determine the fair value of the net assets of each of the
Companys reporting units. Significant assumptions utilized in the model were
revenue growth rates, gross margin percentages, depreciation and amortization,
capital expenditures, working capital requirements, and the appropriate
discount rate. The fair value of the Companys distribution reporting units
net assets were less than the carrying value of those net assets; thus, the
Company proceeded to step 2 of the SFAS No. 142 impairment model, whereby the
Company allocated that fair value to the reporting units tangible and
intangible net assets. The Company utilized various methods to determine the
fair value of the distribution units identifiable intangible assets, including
discounted cash flows, royalty savings method, and the cost approach.
Significant assumptions used in valuing these intangible assets included price
premiums, expected effective tax rates, the discount rate, remaining useful
lives of intangible assets, royalty rates, and residual values. A comparison of
the implied fair value of goodwill, calculated from the allocation of fair
value described above, to the carrying net book value of goodwill at January 1,
2002 yielded the impairment charge described above. The Company applied the
same methodology to its manufacturing unit and concluded that the goodwill
associated with that reporting unit was not impaired. Reconciliation of EBITDA To Net Loss The reconciliation of EBITDA to net loss, which management believes is
the most directly comparable financial measure calculated and presented in
accordance with GAAP, is as follows: 18




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Three Months Ended
    
    Three Months EndedMarch 31, 2004
    
    March 31, 2003EBITDA
    
    $
    (94,173
    )
    
    $
    348,871Deduct:Depreciation & Amortization in Cost of
Goods
Sold
    
    
    (33,418
    )
    
    
    (51,674
    )Depreciation & Amortization in Selling,
General, and Administrative
expenses
    
    
    (298,605
    )
    
    
    (322,139
    )Interest expense,
net
    
    
    (569,574
    )
    
    
    (627,662
    )Net
Loss
    
    $
    (995,770
    )
    
    $
    (652,604
    )
 Liquidity and Capital Resources The Companys principal capital requirements are to fund working capital
requirements and capital expenditures for its existing facility. Historically,
the Company has used cash generated by operations, bank financing and, in 1998,
proceeds from its initial public equity offering to fund its capital
requirements. Additionally, the Company requires capital to finance accounts
receivable and inventory. The Companys working capital requirements vary from
period to period depending on its production volume, the timing of shipments
and the payment terms offered to its customers. Net cash provided by operating activities was $91,884 for the three months
ended March 31, 2004 compared with net cash used in operating activities of
$1,076 for the three months ended March 31, 2003. The decrease in net cash
used in operations during 2004 compared to 2003 was attributable to a
combination of improved accounts receivable collections, decreased inventory
spending, and increased contribution from operations, exclusive of the one-time
charge related to the separation payments in the first quarter of 2004, as
described above, which are represented in the accrued liabilities on the
Companys balance sheet at March 31, 2004. Net cash used in investing activities was $33,993 for the three months
ended March 31, 2004, as compared to net cash used in investing activities of
approximately $158,000 for the first quarter of 2003. Cash used in investing
activities in the first quarter of 2004 consisted of capital expenditures,
offset by proceeds from the payment of the notes receivable from the former
Vice Chairman of the Company. Cash used in investing activities in 2003
consisted of cash paid for the acquisition of intangible assets as a result of
the Companys acquisition of a portion of the business of one of its former
independent distributors. In addition, cash used in investing activities in
2003 included capital expenditures for the Companys facilities and cash
proceeds from the payment of the note issued by the Company in connection with
the sale of the Companys distribution segment (Stepic) in September 2002. Net cash used in financing activities was $326,566 for the three months
ended March 31, 2004 compared to net cash used in financing activities of
$457,068 for the first quarter of 2003. Financing activities in both 2004 and
2003 consisted primarily of principal payments on long term debt. In 2004,
this was partially offset by the proceeds from the exercise of stock options
and warrants of the Company. On March 1, 2002, the Company entered into certain agreements with ComVest
Venture Partners, L.P. (ComVest), an affiliate of Commonwealth Associates
L.P. (Commonwealth) to recapitalize the Company (the Recapitalization). The
Company completed the Recapitalization on March 16, 2002. The following is a
summary of certain material provisions of the Recapitalization: On March 1, 2002, the Company entered into a Note Purchase Agreement (the
Note Purchase Agreement) with ComVest, Medtronic, Inc. (Medtronic), and 26
individual and entity Additional Note 19




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Purchasers (collectively, the Additional Note Purchasers). Under the
Note Purchase Agreement, the Company agreed to issue $15 million of Senior
Subordinated Convertible Notes (the Convertible Notes). Interest on these
Convertible Notes is payable quarterly beginning in June 2002 and accrues at a
rate of 6% per year for the first six months and 8% per year thereafter until
the notes are paid in full and mature on March 16, 2004. The Company issued the
Convertible Notes as follows: $4.4 million to ComVest, $4 million to Medtronic
and $6.6 million to the Additional Note Purchasers. On October
21, 2003, the maturity date of the Convertible Notes was extended to
July 16, 2005. Under the Note Purchase Agreement, the Events of Default include, but are
not limited to, failure to pay an obligation when due, failure to comply with
obligations under an Amended and Restated Securityholders Agreement (the
Securityholders Agreement) or the Co-Promotion Agreement with Medtronic (as
described below), breach of any covenant which remains uncured for 15 days,
bankruptcy, a change of control and failure to obtain shareholder approval of
certain proposals related to the Recapitalization at the Companys 2002 annual
meeting of shareholders (the 2002 Annual Meeting) within 195 of the closing
date of the Recapitalization (March 16, 2002). On September 17, 2002, at the
2002 Annual Meeting, the Companys shareholders approved all such proposals
relating to the Recapitalization. Generally, upon an Event of Default, the
holders of a majority of the aggregate principal amount of Convertible Notes
outstanding may declare the unpaid principal and interest on the Notes
immediately due and payable. Additionally, Medtronic may, upon a breach by HMP
of its obligations (after applicable cure periods) under the Co-Promotion
Agreement or a breach of covenants in the Convertible Notes held by Medtronic,
declare the unpaid principal and interest on such Notes immediately due and
payable. Also, if the Company defaults under the Note Purchase Agreement, it will
be in default under the Loan Agreement with LaSalle (as described below)
pursuant to the cross-default provisions contained therein. At March 31, 2004,
the aggregate amount of indebtedness which would be subject to acceleration
under the Note Purchase Agreement, the Companys credit facility with LaSalle
(as described below) and the Junior Note (as described below), causing the same
to become immediately due and payable, was approximately $17.2 million. The holders of the Convertible Notes have converted in the aggregate a
total of $270,000 of the Convertible Notes into 27,000,000 shares of the
Companys common stock at a conversion price of $0.01 per share. An aggregate
principal amount of $14,763,000 of Convertible Notes remains outstanding at
March 31, 2004. This 27,000,000 shares also includes 3,300,000 shares which
were issued to ComVest upon conversion of the Bridge Note (as described below).
In connection with the Recapitalization, the Company issued to ComVest a
Convertible Bridge Note (the Bridge Note). ComVest converted this Bridge
Note into 3,300,000 shares of the Companys common stock at a conversion price
of $0.01 per share in 2002, As a result of such conversion, the Bridge Note
has been extinguished. The Company may prepay the Convertible Notes, subject to no prepayment
penalty on or before March 16, 2003, a prepayment penalty of 5% between March
17, 2003 and March 16, 2004, and no prepayment penalty through the maturity
date of the Convertible Notes (July 16, 2005). The fair value of the Convertible Notes, which was used in the
determination of the extraordinary loss on early extinguishment of debt was
$33.3 million. As this value represents a substantial premium to the face value
of the debt, the Company recorded the debt at its face value of $15 million,
and recorded the premium of $18.3 million as an increase to additional
paid-in-capital. The Company determined the fair value of the Convertible Notes
by considering their two components, the non-convertible debt of $14,730,000
and the convertible debt of $270,000. The non-convertible debt components
carrying value of $14,730,000 represents its fair value because, when
considered with the convertible component, its terms yield a market rate of
return. The convertible components fair value was determined by multiplying
the fair value of the Companys stock by the number of shares into which this
component is convertible. 20




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Thus, 27,000,000 shares multiplied by $0.68940 per share equals
$18,613,685. The sum of the non-convertible components fair value of
$14,730,000 and the convertible components fair value of $18,613,685 equals
the total debt instruments fair value of $33,343,685. The Company determined the fair value of its stock in a multiple-step
process. First, the Company computed its assumed fair value of $13,762,977 at
the date of the transaction by multiplying outstanding shares of 16,311,676 by
the then current market price per share of $0.84375, which resulted in a fair
value of the Company prior to any conversion of the convertible portion of the
Convertible Notes. The Company then added to this computed fair value
$16,095,909, which represents the difference between the old Bank of America
debt of $40,320,909 and the face value of the new debt of $24,225,000. This
$16,095,909 difference was credited to additional paid-in-capital. Thus, the
new fair value of the Company, prior to any conversion, is $29,858,886. The
Company then assumed full conversion of the convertible portion of the notes,
which resulted in an additional 27,000,000 shares becoming outstanding. After
conversion, the Company would have 43,311,676 shares outstanding, which when
divided into the new fair value of $29,858,886, yields a new per share market
value of $0.68940. On March 18, 2002, the Company entered into the LaSalle Credit Facility
pursuant to a loan and security agreement (the Loan Agreement) with Standard
Federal Bank National Association (SFB), acting by and through LaSalle, as
SFBs agent (collectively the Lender). Under the Loan Agreement, the Lender
provided a $20 million Revolving Loan (the Revolving Loan) and a $2 million
Term Loan (the Term Loan). Effective December 23, 2002, in connection with
the December Amendment (as defined below), the Revolving Loan limit was reduced
to $10 million. Both loan facilities will bear interest at the LaSalle Bank
Prime Rate plus 2%, subject to an additional 2% that would be added to the
interest rate upon the occurrence of an Event of Default (as discussed below). As collateral, the Company granted a security interest in all of the
Companys present and future assets, whether now or hereafter owned, existing,
acquired or arising and wherever now or hereafter located, including, but not
limited to: all accounts receivable; all chattel paper, instruments, documents
and general intangibles including patents, patent applications, trademarks,
trademark applications, trade secrets, trade names, goodwill, copyrights,
copyright applications, registrations, licenses, software, franchises, customer
lists, tax refund claims, claims against carriers and shippers, guaranty
claims, contract rights, payment intangibles, security interests, security
deposits, and indemnification rights; all inventory; all goods including
equipment, vehicles, and fixtures; all investment property; all deposit
accounts, bank accounts, deposits and cash; all letter-of-credit rights;
certain commercial tort claims; all property of the Company in control of the
Lender or any affiliate of the Lender; and all additions, substitutions,
replacements, products, and proceeds of the aforementioned property including
proceeds from insurance policies and all books and records relating to the
Companys business. The Loan Agreement contains affirmative and negative covenants. The
affirmative covenants require the Company to, among other things, maintain
accurate and complete records, notify the Lender of major business changes,
comply with relevant laws, maintain proper permits, conduct relevant
inspections and audits, maintain adequate insurance with the Lender named as
loss payee, keep collateral in good condition, use proceeds only for business
purposes, pay required taxes, maintain all intellectual property, maintain a
checking account with LaSalle, hire a Chief Operating Officer with experience
in the medical products industry within 90 days of the date of the Loan
Agreement (which has been done), grant the Lender the right to conduct
appraisals of the collateral on a bi-annual basis, and deliver a survey of the
property located at the Companys offices on Northside Parkway in Atlanta
within 60 days of the date of the Loan Agreement (which has been done). The
negative covenants restrict the Companys ability to, among other things, make
any guarantees, incur additional indebtedness, grant liens on its assets, enter
into business combinations outside the ordinary course of business, pay
dividends, make certain investments or loans, allow its equipment to become a
fixture to real estate or an accession to personal 21




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property, alter its lines of business, settle accounts, or make other
fundamental corporate changes. Effective December 23, 2002, the Company and the Lender amended the Loan
Agreement (the December 2002 Amendment) to, among other things, amend certain
financial maintenance covenants. These covenants, include, but are not limited
to, the following:  
    
    maintaining Tangible Net Worth of $7,500,000 for the quarters
ending December 31, 2002, March 31, 2003, June 30, 2003 and
September 30, 2003, and $8,000,000 for the quarter ending December
31, 2003 and each quarter thereafter (Tangible Net Worth is defined
as the Companys shareholders equity including retained earnings
less the book value of all intangible assets, prepaid and non-cash
items arising from the transactions contemplated by the Loan
Agreement and goodwill impairment charges recorded as a result of
Statement of Financial Accounting Standards (SFAS) No. 142 as
determined solely by the Lender on a consistent basis plus the
amount of any LIFO reserve plus the amount of any debt subordinated
to the Lender);  
    
    maintaining fixed charge coverage (ratio of EBITDA to fixed
charges) of 0.15 to 1.0 for the fiscal quarter ending December 31,
2002, 0.3 to 1.0 for the fiscal quarters ending March 31, 2003, June
30, 2003 and September 30, 2003, 0.50 to 1.0 for the fiscal quarter
ending December 31, 2003, 0.75 to 1.0 for the fiscal quarter ending
March 31, 2004 and 1.0 to 1.0 for the fiscal quarter ending June 30,
2004 and for each fiscal quarter thereafter, which was revised in
the April 2004 Amendment described below to 0.50 to 1.0 for the
fiscal quarter ending March 31, 2004 and each fiscal quarter after
March 31, 2004;  
    
    maintain EBITDA, based on the immediately preceding four
fiscal quarters, of $750,000 on December 31, 2002, $1,350,000 on
March 31, 2003, $1,475,000 on June 30, 2003 and September 30, 2003,
$2,500,000 on December 31, 2003, $3,675,000 on March 31, 2004 and
$4,900,000 on June 30, 2004 and each fiscal quarter thereafter,
which was revised in the April 2004 Amendment described below to
$2,000,000 on each of March 31, 2004, June 30, 2004 and September
30, 2004 and $2,250,000 on December 31, 2004 and thereafter; and  
    
    limit capital expenditures to no more than $1,500,000 during
any fiscal year. The December 2002 Amendment also established a $10 million revolving loan
limit and provided that, commencing January 1, 2003, the Company shall pay to
the Lender an annual facility fee of $100,000. As of March 31, 2004 and
December 31, 2003, the Company had $3.6 million and $2.8 million, respectively,
available for borrowing under the revolving portion of the Loan Agreement. As
of March 31, 2004 and December 31, 2003, the Company had $666,667 and $833,333,
respectively, in borrowings outstanding under the Term Loan. The Company had
no borrowings outstanding under the revolving loan as of March 31, 2004 and
December 31, 2003. As of March 31, 2004, the Company believes it was in compliance with all
covenants in the Loan Agreement (as amended by the December 2002 Amendment and
the April 2004 Amendment) set forth above. In April 2004, the Company amended the Loan Agreement to, among other
things, (i) amend the termination provisions of the Loan Agreement to provide
the Company the ability to terminate the Loan Agreement prior to the end of the
term thereof by paying in full all outstanding liabilities at such time
(subject to a prepayment penalty under certain circumstances) and (ii) modify
certain financial covenants contained therein (the April 2004 Amendment).
The financial covenants amended in the April 2004 Amendment are set forth
above. 22




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The Company believes it has available cash resources to meet its working
capital needs through fiscal year 2004. The Loan Agreement also specifies certain Events of Default, including,
but not limited to, failure to pay obligations when due, failure to direct its
account debtors to make payments to an established lockbox, failure to make
timely financial reports to the Lender, the breach by the Company or any
guarantor of any obligations with any other Person (as defined in the Loan
Agreement) if such breach might have a material adverse effect on the Company
or such guarantor, breach of representations, warranties or covenants, loss of
collateral in excess of $50,000, bankruptcy, appointment of a receiver,
judgments in excess of $25,000, any attempt to levy fees or attach the
collateral, defaults or revocations of any guarantees, institution of criminal
proceedings against the Company or any guarantor, occurrence of a change in
control, the occurrence of a Material Adverse Change or a default or an event
of default under certain subordinated debt documents. Upon the occurrence of
any Event of Default, the Lender may accelerate the Companys obligations under
the Loan Agreement. The Company must repay the Term Loan in 36 equal monthly installments of
$55,556 commencing April 2002. The Loan Agreement will automatically renew for
one-year terms unless (i) the Lender demands repayment on the Termination Date,
(ii) the due date is accelerated as a result of an Event of Default, (iii) the
Company gives 90 days notice of its intent to terminate and pays all amounts
due in full, (iv) the Company terminates the Loan Agreement prior to the end of
the term by giving 10 days notice to Lender of its intent to terminate and pays
all amounts due in full or (v) the Lender elects to terminate on or after
February 1, 2004 as a result of a Termination Event. A Termination Event is
defined as the failure of Medtronic, ComVest or any Additional Note Purchaser
to extend the maturity date (March 15, 2004) of the Convertible Notes at least
thirty days past the date of the original term (March 17, 2005) or any
applicable renewal term. In October 2003, the maturity date of the Convertible
Notes was extended to July 16, 2005. Pursuant to the LaSalle credit facility, the Company also issued to
LaSalle and SFB warrants to purchase up to an aggregate of 748,619 shares of
common stock at an exercise price of $.01 per share. The Company recorded the
estimated fair value of the warrant as of March 18, 2002 of approximately
$695,000, determined using the Black-Scholes model (using weighted average
assumptions as follows: dividend yield of 0%, expected life of 3 years,
expected volatility of 112.2% and a risk free interest rate of 2.43%) as a
reduction of the gain on early extinguishment of debt. Effective as of April
30, 2004, these warrants have been exercised in full and cancelled. A Junior Note (the Junior Note) issued in favor of Bank of America in
the amount of $2 million bears interest at a rate of 6% per annum, payable
monthly beginning April 2002, and matures on March 15, 2007. Beginning on May
1, 2003, a principal payment on the Junior Note of $22,500 is payable on the
first day of each month until maturity of the Junior Note. Recently Issued Accounting Standards Note 1 of the interim condensed consolidated financial statements included
elsewhere in this Form 10-Q describes the recently issued accounting standards. Forward-looking Statements Certain statements made in this quarterly report, and other written or
oral statements made by or on behalf of the Company, may constitute
forward-looking statements within the meaning of the federal securities laws.
Statements regarding future events and developments and the Companys future 23




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performance, as well as managements expectations, beliefs, plans,
estimates or projections relating to the future, are forward-looking statements
within the meaning of these laws. All forward-looking statements are subject to
certain risks and uncertainties that could cause actual events to differ
materially from those projected. Such risks and uncertainties include, among
others, the possible inadequacy of the Companys cash flow from operations and
cash available from external financing, the possibility of a breach of
covenants in the Companys senior credit facility, the satisfaction of which
cannot be objectively determined, the inability to efficiently manufacture
different products, the possible failure to successfully commence the
manufacturing of new products, the possible failure to maintain or increase
production volumes of new or existing products in a timely or cost-effective
manner, the possible failure to maintain compliance with applicable licensing
or regulatory requirements, the dependence on patents, trademarks, licenses and
proprietary rights, the Companys potential exposure to product liability, the
inability to introduce new products, the Companys reliance on a few large
customers, the Companys dependence on key personnel, the fact that the Company
is subject to control by certain shareholders, pricing pressure related to
healthcare reform and managed care and other healthcare provider organizations,
the possible failure to comply with applicable federal, state or foreign laws
or regulations, limitations on third-party reimbursement, the highly
competitive and fragmented nature of the medical devices industry,
deterioration in general economic conditions and the Companys ability to pay
its indebtedness. Management believes that these forward-looking statements are reasonable.
However, you should not place undue reliance on such statements. These
statements are based on current expectations and speak only as of the date of
such statements. The Company undertakes no obligation to publicly update or
revise any forward-looking statement, whether as a result of future events, new
information or otherwise. Additional information concerning the risks and
uncertainties listed above, and other factors that you may wish to consider, is
contained in Managements Discussion and Analysis of Financial Condition and
Results of Operations above and is also contained in the Form 10-K under the
section entitled Risk Factors and elsewhere and in the Companys filings from
time to time pursuant to the Securities Exchange Act of 1934, as amended (the
Exchange Act). 
 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Like other companies, the Company is exposed to market risks relating to
fluctuations in interest rates. Borrowings under the LaSalle Credit Facility
accrue interest at annual rate of prime plus 2%, plus an additional 2% upon the
occurrence of an event of default thereunder. As of March 31, 2004, the Company
had $666,667 outstanding under the Term Loan portion of the LaSalle Credit
Facility. If market interest rates were to increase immediately and uniformly
by 10% from levels as of March 31, 2004, the additional interest expense would
be considered immaterial to the Companys interim condensed consolidated
financial position, results of operations and cash flows. 
 ITEM 4. CONTROLS AND PROCEDURES Disclosure controls and procedures are the Companys controls and other
procedures that are designed to ensure that information required to be
disclosed in the reports that the Company files or submits under the Exchange
Act is recorded, processed, summarized and reported, within the time periods
specified in the Securities and Exchange Commissions rules and forms.
Disclosure controls and procedures include, without limitation, controls and
procedures designed to ensure that information required to be disclosed in the
reports that the Company files under the Exchange Act is accumulated and
communicated to management, including the Chief Executive Officer and principal
financial officer, as appropriate, to allow timely decisions regarding required
disclosure. 24




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As of the end of the period covered by this report, the Company carried
out an evaluation, under the supervision of the Chief Executive Officer and
principal financial officer and with the participation of the Companys
management, of the effectiveness of the design and operation of the Companys
disclosure controls and procedures pursuant to Exchange Act Rule 13a-14. Based
upon that evaluation, the Chief Executive Officer and principal financial
officer concluded that the Companys disclosure controls and procedures are
effective in timely alerting them to material information relating to the
Company required to be included in the Companys periodic Securities and
Exchange Commission filings. No significant changes were made in the Companys
internal controls during the first quarter of 2004 that have materially
affected, or are reasonably likely to materially affect, the Companys internal
controls over financial reporting. 25




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PART II. OTHER INFORMATION 
 ITEM 1. LEGAL PROCEEDINGS See Item 3. Legal Proceedings in the Form 10-K for the fiscal year ended
December 31, 2003 for a discussion of legal proceedings affecting the Company.
Except as described in Note 6 to these unaudited condensed consolidated
financial statements included in this report, the contents of which are
incorporated into this Item 1 by reference, there have been no material
developments in such legal proceedings since the filing of the Form 10-K. 
 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (a) Exhibits. 3.1
    
    
    
    Restated and Amended Articles of Incorporation of the
Company, as amended to date, filed as Exhibit 3.1 to the
Registrants Quarterly Report on Form 10-Q for the quarter
ended September 30, 2002 and incorporated herein by
reference.3.2
    
    
    
    Amended and Restated Bylaws of the Company, as amended to
date, filed as Exhibit 3.2 to the Registrants Quarterly
Report on Form 10-Q for the quarter ended September 30, 2002
and incorporated herein by reference.4.1
    
    
    
    See Articles 2, 3, 7 and 9 of the Restated and Amended
Articles of Incorporation, as amended, filed as Exhibit 3.1
and Articles I and VII of the Amended and Restated Bylaws
filed as Exhibit 3.2, to the Registrants Quarterly Report
on Form 10-Q for the quarter ended September 30, 2002 and
incorporated herein by reference.4.2
    
    
    
    Specimen Common Stock Certificate, filed as Exhibit 4.2 to
the Registrants Form S-1 dated April 14, 1998 (SEC File No.
333-46349) and incorporated herein by reference.4.3
    
    
    
    Rights Agreement dated April 9, 1998 by and between the
Company and Tapir Investments (Bahamas) Ltd., filed as
Exhibit 4.3 to the Registrants Form 10-K dated March 31,
1999 (SEC File No. 000-24025) and incorporated herein by
reference.10.1
    
    
    
    Separation Agreement, by and between the Company and
Marshall B. Hunt, dated January 14, 2004, filed as Exhibit
10.59 to the Registrants Annual Report on Form 10-K for the
fiscal year ended December 31, 2003 and incorporated herein
by reference.10.2
    
    
    
    Amendment to Employment Agreement between the Company and
Robert J. Wenzel, dated February 26, 2004, as Exhibit 10.60
to the Registrants Annual Report on Form 10-K for the
fiscal year ended December 31, 2003 and incorporated herein
by reference.10.3
    
    
    
    Second Amendment to Loan and Security Agreement, entered
into on April 15, 2004, by and between Horizon Medical
Products, Inc., and Standard Federal Bank National
Association, acting by and through LaSalle Business Credit,
LLC, filed as Exhibit 10.1 to the Registrants Current
Report on Form 8-K, dated April 21, 2004 and incorporated
herein by reference.10.4
    
    
    
    Amendment to Option Agreement, entered into on April 14,
2004, by and between Horizon Medical Products, Inc., and
Robert J. Wenzel.
 26




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31.1
    
    
    
    Certification of the Chief Executive Officer of the Company
pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.31.2
    
    
    
    Certification of the Principal Financial Officer of the
Company pursuant to Section 302 of the Sarbanes-Oxley Act of
2002.32.1
    
    
    
    Certification of the Chief Executive Officer of the Company
pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002.32.2
    
    
    
    Certification of the Principal Financial Officer of the
Company pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
 (b) Reports on Form 8-K On January 16, 2004, the Company filed a Current Report on Form 8-K
relating to the resignation of Marshall Hunt as the Companys Chief Executive
Officer. On February 27, 2004, the Company furnished a Current Report on Form
8-K relating to the initial release of the Companys results of operations for
the quarter and year ended December 31, 2003. 27




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SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized. Horizon Medical Products, Inc./s/ Robert J. WenzelRobert J. WenzelPresident, Chief Operating Officer and Interim ChiefExecutive Officer/s/ Elaine SwygertElaine SwygertCorporate Controller (Principal Financial Officer andPrincipal Accounting Officer)
 Dated: May 17, 2004 28